-----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, VqvaI1pMiJs40Fi3X05CacchprJMRF6+7ENV8h4zt3HWOoYXuLd4EMQgjkAM2Q59 9G+oAEyO8CL4QivUX5d3ig== 0001017062-00-000862.txt : 20000404 0001017062-00-000862.hdr.sgml : 20000404 ACCESSION NUMBER: 0001017062-00-000862 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 4 CONFORMED PERIOD OF REPORT: 19991231 FILED AS OF DATE: 20000403 FILER: COMPANY DATA: COMPANY CONFORMED NAME: LIFE FINANCIAL CORP CENTRAL INDEX KEY: 0001028918 STANDARD INDUSTRIAL CLASSIFICATION: SAVINGS INSTITUTION, FEDERALLY CHARTERED [6035] IRS NUMBER: 330743196 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 000-22193 FILM NUMBER: 592148 BUSINESS ADDRESS: STREET 1: 10540 N MAGNOLIA ACE STREET 2: UNIT B CITY: RIVERSIDE STATE: CA ZIP: 92503 BUSINESS PHONE: 9096374000 MAIL ADDRESS: STREET 1: 1598 EAST HIGHLAND AVENUE CITY: SAN BERNADINO STATE: CA ZIP: 92404 10-K 1 FORM 10-K FOR PERIOD ENDING 12/31/1999 - ------------------------------------------------------------------------------- - ------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION Washington, DC 20549 ---------------- FORM 10-K (Mark One) [X] ANNUAL REPORT PURSUANT TO SECTION 13 OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 31, 1999 Commission File No.: 0-22193 ---------------- LIFE FINANCIAL CORPORATION (Exact name of registrant as specified in its charter) Delaware 33-0743196 (State or other jurisdiction of (I.R.S. Employer Incorporation or organization) Identification No.)
10540 Magnolia Avenue, Suite B, Riverside, California 92505 (Address of principal executive offices) (909) 637-4000 (Registrant's telephone number, including area code) ---------------- Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: Common Stock, par value $0.01 per share (Title of class) ---------------- 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 the 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. [_] The aggregate market value of the voting stock held by non-affiliates of the registrant, i.e., persons other than directors and executive officers of the registrant is $17,632,484 and is based upon the last sales price as quoted on The Nasdaq Stock Market for March 26, 2000. As of March 26, 2000, the Registrant had 6,668,436 shares outstanding. DOCUMENTS INCORPORATED BY REFERENCE Portions of the Proxy Statement for the 2000 Annual Meeting of Stockholders are incorporated by reference into Part III of this Form 10-K. - ------------------------------------------------------------------------------- - ------------------------------------------------------------------------------- INDEX
Page ---- PART I ITEM 1. BUSINESS...................................................... 3 ITEM 2. PROPERTIES.................................................... 29 ITEM 3. LEGAL PROCEEDINGS............................................. 29 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS........... 29 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS...................................................... 30 ITEM 6. SELECTED FINANCIAL DATA....................................... 30 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.................................... 31 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA................... 43 ITEM 9. CHANGE IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE......................................... 76 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT............ 76 ITEM 11. EXECUTIVE COMPENSATION........................................ 76 ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT................................................... 76 ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS................ 76 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K..................................................... 77 SIGNATURES.............................................................. 78
2 ITEM 1. BUSINESS General LIFE Financial Corporation LIFE Financial Corporation ("LIFE Financial" or "Company"), a Delaware corporation organized in 1997, is a saving and loan holding company that owns 100% of the capital stock of LIFE Bank (the "Bank"), the Company's principal operating subsidiary. The Bank was incorporated and commenced operations in 1983. The Company's primary businesses includes retail banking, mortgage banking and loan servicing. LIFE Bank LIFE Bank is a federally chartered stock savings bank incorporated and licensed under the laws of the United States. The Bank is a member of the Federal Home Loan Bank of San Francisco ("FHLB"), which is a member bank of the Federal Home Loan Bank System. The Bank's deposit accounts are insured up to the $100,000 maximum amount currently allowable under federal laws by the Savings Association Insurance Fund ("SAIF"), which is a separate insurance fund administered by the Federal Deposit Insurance Corporation ("FDIC"). The Bank is subject to examination and regulation by the Office of Thrift Supervision ("OTS") and the FDIC. The Bank is further subject to regulations of the Board of Governors of the Federal Reserve System ("FRB") concerning reserves required to be maintained against deposits and certain other matters. The principal business of the Bank is attracting retail deposits from the general public and investing those deposits, together with funds generated from operations and borrowings, primarily in one- to four-family residential mortgage loans. At December 31, 1999, the Bank had five and currently has six retail bank branches located in Orange, San Bernardino and Riverside Counties, California. Additionally, the Bank conducts its national mortgage banking and loan servicing business from its corporate headquarters in Riverside, California. The mortgage banking business originates, purchases and sells conforming, jumbo, non-conforming and other non-prime credit quality mortgage loans through a network of approved correspondents and independent mortgage brokers. The Company's originations and purchases are primarily 1st lien conforming, jumbo and other non-conforming mortgages with approximately 75% of all originations within the "A", "Alt A" and "A minus" credit categories. Additionally, the Bank originates residential construction and consumer related loans. At December 31, 1999, the loan servicing division serviced in excess of $1.8 billion in mortgage and consumer loans. The loan-servicing portfolio is comprised of loans owned by the Bank of $458.6 million and loans serviced for others of $1.4 billion. The Company's principal sources of income are the net spread between interest earned and the interest costs associated with deposits and other borrowings used to finance its loan and investment portfolio, gains recognized on whole loan sales, and servicing fee income. At December 31, 1999, the Company had consolidated total assets of $547.6 million, total deposits of $468.9 million and total stockholders' equity of $34.5 million. Additionally, the Bank met and exceeded all three regulatory capital requirements, with ratios of core capital to total assets of 6.28%, core capital to risk-weighted assets of 9.54%, and total capital to risk- weighted assets of 10.34%. Based on the foregoing, the Bank qualified as a "well capitalized" institution under the prompt corrective action rules of the OTS. Background Prior to 1999, the Company's principal business was wholesale mortgage banking. The Bank was primarily engaged in the origination of subprime residential mortage loans and 2nd trust mortgage loans. As a result of the issuance of Thrift Bulletin 72 in late 1998, the Company eliminated the High LTV product and 3 focused on 1st trust mortgage loans to borrowers with non-prime credit histories. The loans were sold directly to the secondary market in whole loan sales or through securitization whereby the Company would retain the excess cash flows ("Residual Mortgage-Backed Securities" or "Residuals") from each securitization transaction. The market value of the Residuals are highly dependent on certain assumptions related to loan prepayment speeds and the predictability of credit losses. In mid-1999, the Board of Directors hired a new President and Chief Executive Officer, Mr. Robert K. Riley. Mr. Riley has and will continue to build a full complement of professionals experienced in retail banking, mortgage banking, loan servicing, financial management, and the core operations of a financial services company. The Company's new management is undertaking a comprehensive restructuring of all of the Company's operations including retail banking, loan servicing, and mortgage banking with specific focus on reducing the risk profile of the Company's core lending businesses and establishing core earnings for the Company augmented by non-recurring gain-on-sale income from its mortgage banking operations. As part of an overall strategy to reduce the risk profile and earnings volatility at the Company, the Company completed transactions to eliminate all of its Residual Mortgage-Backed Securities and extinguish all short term debt used to finance the Residuals. At December 31, 1998 the Company had five Residuals valued at $50.3 million and $26.3 million in revolving and other short-term debt. By completing the desecuritization of the Company's 1996-1 and 1997-1A & 1B transactions and the sale of the Company's 1997-2, 1997-3 and 1998-1A and 1B Residuals the Company was able to retire all of the Company's short-term debt obligations during 1999. Recent Developments During the first quarter of 2000, the Company has consolidated its mortgage- banking operations into its headquarters located in Riverside, California. The consolidation included the Company's regional production offices located in Colorado, Massachusetts and Florida. The Company retained its national team of account executives and continues to originate mortgage loans nationwide. This consolidation has resulted in improved service levels, cost reductions and increased consistency in credit quality. With the centralization of mortgage- banking operations and the sale of Residuals with related mortgage servicing rights, the Company was able to reduce costs by lowering its staffing levels at its Corporate Headquarters located in Riverside, California. Competition The Company's operating results and its growth prospects are most directly and materially influenced by (1) the health and vibrancy of the United States real estate markets, and the underlying economic forces which affect such markets, (2) the overall complexion of the interest rate environment, including the absolute level of market interest rates and the volatility of such rates, (3) the prominence of competitive forces which provide customers, or potential customers, of the company with alternative sources of mortgage funds or investments which compete with the Company's products and services, and (4) regulations promulgated by the regulatory authorities, including those of the OTS, the FDIC and the FRB. The Company's success in identifying trends in each of these factors, and implementing strategies to exploit such trends, strongly influence the Company's long-term results and growth prospects. As a purchaser and originator of mortgage loans, the Company faces intense competition, primarily from mortgage banking companies, commercial banks, credit unions, thrift institutions, credit card issuers and finance companies. Many of these competitors in the financial services business are substantially larger and have more capital and other resources than the Company. Furthermore, certain large national finance companies and conforming mortgage originators are adapting their conforming origination programs and allocation of resources to the origination of alternative and non-conforming mortgage loans. In addition, certain of these larger mortgage companies and commercial banks have begun to offer products similar to those offered by the 4 Company targeting customers similar to those of the Company. The entrance of these competitors into the Company's market could have a material adverse effect on the Company's results of operations and financial condition. Competition can take many forms, including convenience in obtaining a loan, service, marketing and distribution channels and interest rates. Furthermore, the current level of gains realized by the Company and its competitors on the sale of the type of loans purchased and originated is attracting additional competitors, including at least one quasi-governmental agency, into this market with the effect of lowering the gains that may be realized by the Company on future loan sales. Competition may be affected by fluctuations in interest rates and general economic conditions. During periods of rising rates, competitors which have "locked in" low borrowing costs may have a competitive advantage. During periods of declining rates, competitors may solicit the Company's borrowers to refinance their loans. During economic slowdowns or recessions, the Company's borrowers may have new financial difficulties and may be receptive to offers by the Company's competitors. The Company depends largely on third-party originators ("Originators") for its purchases and originations of new loans. The Company's competitors also seek to establish relationships with the Company's Originators. The Company's future results may become more exposed to fluctuations in the volume and cost of its wholesale loans resulting from competition from other purchasers of such loans, market conditions and other factors. In addition, the Company faces increasing competition for deposits and other financial products from non-bank institutions such as brokerage firms and insurance companies in such areas as short-term money market funds, corporate and government securities funds, mutual funds and annuities. In order to compete with these other institutions with respect to deposits and fee services, the Company relies principally upon local promotional activities, personal relationships established by officers, directors and employees of the Company and specialized services tailored to meet the individual needs of the Company's customers. Lending Activities General. The Company originates, purchases, sells, and services primarily 1st lien conforming, jumbo, non-conforming, and other non-prime mortgages. The Company purchases and originates mortgage loans and other real estate secured loans primarily through a network of Mortgage Banking Correspondents and Mortgage Brokers on a nationwide basis. The Company's primary means of marketing its products is direct contact between its national team of account executives and its Correspondents and Mortgage Brokers. Each of the Company's account executives is responsible for maintaining and expanding existing Bank relationships within the account executive's assigned territory. Loans originated or purchased are generally originated for whole loan sale in the secondary mortgage market. The underwriting and quality control functions are managed through the Company's corporate offices in Riverside, California. The Company believes that its underwriting process begins with its staff of experienced management and underwriters, clear underwriting policies, loan review procedures and the monitoring by its independent quality control group. As an integral part of its lending operation, the Company ensures that its underwriters assess each loan application and subject property against the Company's underwriting guidelines. Loan Approval Procedures and Authority. The Board of Directors establishes the lending policies of the Company and delegates authority and responsibility for loan approvals to management. Management has adopted policies which vest approvals with individual underwriters for limited loan size amounts. Exceptions to Bank policy, larger loan requests and more complex transactions, are required to be reviewed and approved or declined by senior level underwriters, supervisors and/or managers. The Bank will not make loans-to-one borrower that are in excess of regulatory limits. Pursuant to Office of Thrift Supervision ("OTS") regulations, loans-to-one borrower cannot exceed 15% of the Bank's unimpaired capital and surplus. At December 31, 1999, the Bank's loans-to-one borrower limit equaled $5.3 million. See "--Regulation--Federal Savings Institution Regulation--Loans-to-One Borrower." 5 One- to Four-Family Mortgage Lending. The Bank offers both fixed-rate and adjustable-rate mortgage loans secured by one- to four-family residences located in its primary market area and throughout the United States, with maturities up to thirty years. At December 31, 1999, the Bank's total (gross) loans outstanding were $458.6 million, of which $381.9 million or 83.3% were one- to four-family residential loans. Of the one- to four- family residential mortgage loans outstanding at that date, 51.9% were fixed rate loans, and 48.1% were adjustable rate mortgage loans. The Bank's policy is to originate one- to four-family residential mortgage loans in amounts in excess of 80% of the lower of the appraised value or the selling price of the property securing the loan with mortgage insurance. Multi-family Lending. The Company originates and purchases multi-family real estate loans in its primary market area. The Company has streamlined and standardized its processing of multi-family real estate loans with a view to sale in the secondary market. In reaching a decision on whether to make a multi-family loan, the Bank considers the qualifications of the borrower as well as the underlying property. Some of the factors to be considered are: the net operating income of the mortgaged premises before debt service and depreciation; the debt service ratio (the ratio of net earnings to debt service); and the ratio of the loan amount to appraised value. When evaluating the qualifications of the borrower for a multi-family loan, the Bank considers the financial resources and income level of the borrower and the borrower's experience in owning and managing similar property. In making its assessment of the creditworthiness of the borrower, the Bank generally reviews the financial statements, employment and credit history of the borrower, as well as other related documentation. Construction Lending. The Company originates construction loans for owner occupied single-family homes, single-family homes on a speculative basis and single family tract, generally in-fill projects of 10 homes or fewer. Those projects built on a speculative basis are to merchant builders who have demonstrated by past performance the ability to construct and effectively market the completed product within budget and where management is comfortable with the underlying economic conditions. The Company's loan to value maximum policy on a speculative residential project or a commercial project is not to exceed 75% of completed value. All construction loans at the time are priced on a variable rate, which is adjusted daily with a spread over Wall Street Journal Prime. The Company generally requires that the Borrower maintain a minimum 10% cash equity position in the project. Presently, the Company lends construction funds only in California with a concentration in Southern California. Construction financing is generally considered to involve a higher degree of credit risk than financing on improved, owner-occupied real estate. Risk of loss on a construction loan is dependent largely on the accuracy of the initial estimate of the property's value at completion of construction or development compared to the estimated cost (including financing) of construction. If the estimate of value proves to be inaccurate, the Bank may be confronted with a project, when completed, having a value which is insufficient to assure full repayment. The Bank mitigates this risk by performing a thorough analysis of the cost estimates and actively monitoring the project during each phase of construction. Consumer and Other Lending. The Company's consumer and other loans generally consist of overdraft lines of credit, small commercial business loans and unsecured personal loans. At December 31, 1999, the Company's consumer and other loan portfolio was $2.7 million. Loan Servicing. The Bank also services mortgage loans for other investors. All of the loans currently being serviced for others are loans that were originated and sold by the Bank. The Company's loan servicing activities include (i) the collection and remittance of mortgage loan payments, (ii) accounting for principal and interest and other collections and expenses, (iii) holding and disbursing escrow or impounding funds for real estate taxes and insurance premiums, (iv) inspecting properties when appropriate, (v) contacting delinquent borrowers, and (vi) acting as fiduciary in foreclosing and disposing of collateral properties. The Company receives a servicing fee for performing these services for others. At December 31, 1999, the Bank was servicing $1.4 billion of loans for other investors. 6 Loan Portfolio Composition. At December 31, 1999, the Company's gross loans outstanding totaled $458.6 million, of which $327.0 million, or 71.3%, were held for sale and $131.6 million, or 28.7%, were held for investment. The types of loans that the Company may originate are subject to federal law, state law, and regulations. Interest rates charged by the Company on loans are affected by the demand for such loans and the supply of money available for lending purposes and the rates offered by competitors. These factors are, in turn, affected by, among other things, economic conditions, monetary policies of the federal government, including the Federal Reserve Board, and legislative tax policies. 7 The following table sets forth the composition of the Company's loan portfolio in dollar amounts and as a percentage of the portfolio at the dates indicated.
At December 31, -------------------------------------------------------------------------------------------- 1999 1998 1997 1996 1995 ------------------ ------------------ ------------------ ----------------- ----------------- Percent Percent Percent Percent Percent Amount of Total Amount of Total Amount of Total Amount of Total Amount of Total -------- -------- -------- -------- -------- -------- ------- -------- ------- -------- (Dollars in thousands) Real estate(1): Residential: One-to-four family.... $381,932 83.29% $294,033 87.11% $278,205 89.02% $54,275 78.67% $54,007 84.04% Multi-family.......... 9,851 2.15 17,380 5.15 10,653 3.41 4,752 6.89 2,412 3.75 Commercial............ 11,860 2.59 14,225 4.21 16,763 5.36 9,659 14.00 7,522 11.71 Construction.......... 52,175 11.38 8,571 2.54 -- 0.00 -- 0.00 -- 0.00 Other loans: Loans secured by deposit accounts...... 205 0.04 270 0.08 165 0.05 177 0.25 186 0.29 Unsecured commercial loans................. 43 0.01 124 0.04 63 0.02 67 0.10 70 0.11 Unsecured consumer loans................. 2,490 0.54 2,951 0.87 6,675 2.14 65 0.09 63 0.10 -------- ------ -------- ------ -------- ------ ------- ------ ------- ------ Total gross loans... 458,556 100.00% 337,554 100.00% 312,524 100.00% 68,995 100.00% 64,260 100.00% ====== ====== ====== ====== ====== Less (plus): Undisbursed loan funds................. 25,885 6,399 -- -- -- Deferred loan origination (costs) Fees and (premiums) and discounts......... (4,406) (5,946) (8,393) (543) (298) Allowance for estimated loan losses................ 2,749 2,777 2,573 1,625 1,177 -------- -------- -------- ------- ------- Loans Receivable, net................. $434,328 $334,324 $318,344 $67,913 $63,381 ======== ======== ======== ======= =======
- ---- (1) Includes second trust deeds. 8 Loan Maturity. The following table shows the contractual maturity of the Bank's gross loans at December 31, 1999. There were $327.0 million of loans held for sale, gross, at December 31, 1999. The table does not reflect prepayment assumptions.
At December 31, 1999 --------------------------------------------------------------- One-to-Four Multi- Other Total Loans Family Family Commercial Construction Loans Receivable ----------- ------- ---------- ------------ ----- ----------- (Dollars in thousands) Amounts due: One year or less....... $ 270 $ 21 $ 836 $51,038 $ 326 $ 52,491 After one year: More than one year to three years.......... 280 118 2,867 1,137 2,257 6,659 More than three years to five years........ 152 1,062 737 -- 84 2,035 More than five years to 10 years.......... 1,183 27 4,634 -- 45 5,889 More than 10 years to 20 years............. 123,352 5,855 1,849 -- -- 131,056 More than 20 years.... 256,695 2,770 936 -- 25 260,426 -------- ------- ------- ------- ----- -------- Total amount due..... 381,932 9,853 11,859 52,175 2,737 458,556 Less (plus): Undisbursed loan funds................. -- -- -- 25,885 -- 25,885 Unamortized discounts (premiums)............ (5,858) (49) (25) -- 149 (5,783) Deferred loan origination fees (costs)............... (2,477) 30 73 311 (35) (2,098) Lower of Cost or Market................ 2,985 63 76 334 17 3,475 Allowance for estimated loan losses........... 2,300 58 70 306 15 2,749 -------- ------- ------- ------- ----- -------- Total loans, net..... 384,982 9,751 11,665 25,339 2,591 434,328 -------- ------- ------- ------- ----- -------- Loans held for sale, net................... 316,052 6,126 6,228 -- 2,321 330,727 -------- ------- ------- ------- ----- -------- Loans held for investment, net....... $ 68,930 $ 3,625 $ 5,437 $25,339 $ 270 $103,601 ======== ======= ======= ======= ===== ========
The following table sets forth at December 31, 1999, the dollar amount of gross loans receivable contractually due after December 31, 2000, and whether such loans have fixed interest rates or adjustable interest rates. The Company's adjustable-rate mortgage loans require that any payment adjustment resulting from a change in the interest rate be made to both the interest and payment in order to result in full amortization of the loan by the end of the loan term, and thus, do not permit negative amortization.
Due After December 31, 2000 ---------------------------- Fixed Adjustable Total -------- ---------- -------- (Dollars in thousands) Real estate loans: Residential One-to-four family........................... $198,273 $183,389 $381,662 Multi-family................................. 2,481 7,350 9,831 Commercial.................................... 4,884 6,140 11,024 Construction.................................. -- 1,137 1,137 Other loans................................... 2,388 23 2,411 -------- -------- -------- Total gross loans receivable............... $208,026 $198,039 $406,065 ======== ======== ========
9 The following table sets forth the Company's loan originations, purchases, sales, and principal repayments for the periods indicated:
For the Year Ended December 31, ------------------------------ 1999 1998 1997 ---------- ---------- -------- (Dollars in thousands) Gross loans(1) Beginning balance............................... $ 337,554 $ 312,524 $ 68,995 Loans originated: One to four family(2)......................... 387,999 440,685 341,294 Multi-family.................................. 13,591 34,596 18,019 Commercial and land........................... 10,164 22,274 13,631 Construction loans............................ 54,045 8,571 0 Other loans................................... 1,743 309 837 ---------- ---------- -------- Total loans originated...................... 467,542 506,435 373,781 Loans purchased................................ 573,626 674,117 399,326 ---------- ---------- -------- Sub total--Production.......................... 1,041,168 1,180,552 773,107 ---------- ---------- -------- Total....................................... 1,378,722 1,493,076 842,102 Less: Principal repayments........................... 114,944 79,085 17,289 Sales of loans................................. 799,353 610,468 94,705 Securitization of loans........................ 0 462,067 415,350 Transfer to REO................................ 5,869 3,902 2,234 ---------- ---------- -------- Total Gross loans........................... 458,556 337,554 312,524 Ending balance loans held for sale.............. 326,965 238,664 280,859 ---------- ---------- -------- Ending balance loans held for investment........ $ 131,591 $ 98,890 $ 31,665 ========== ========== ========
- -------- (1) Gross loans includes loans held for investment and loans held for sale. (2) Includes second trust deeds. Delinquencies and Classified Assets. Federal regulations and the Bank's Classification of Assets Policy require that the Bank utilize an internal asset classification system as a means of reporting problem and potential problem assets. The Bank has incorporated the OTS internal asset classifications as a part of its credit monitoring system. The Bank currently classifies problem and potential problem assets as "Substandard," "Doubtful" or "Loss" assets. An asset is considered "Substandard" if it is inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. "Substandard" assets include those characterized by the "distinct possibility" that the insured institution will sustain "some loss" if the deficiencies are not corrected. Assets classified as "Doubtful" have all of the weaknesses inherent in those classified "Substandard" with the added characteristic that the weaknesses present make "collection or liquidation in full," on the basis of currently existing facts, conditions, and values, "highly questionable and improbable." Assets classified as "Loss" are those considered "uncollectible" and of such little value that their continuance as assets without the establishment of a specific loss allowance is not warranted. Assets which do not currently expose the insured institution to sufficient risk to warrant classification in one of the aforementioned categories but possess weaknesses are required to be designated "Special Mention." When an insured institution classifies one or more assets, or portions thereof, as Substandard or Doubtful, under current OTS policy the Bank is required to consider establishing a general valuation allowance in an amount deemed prudent by management. The general valuation allowance, which is a regulatory term, represents a loss allowance which has been established to recognize the inherent credit risk associated with lending and investing activities, but which, unlike specific allowances, has not been allocated to particular problem assets. When an insured institution classifies one or more assets, or portions thereof, as "Loss," it is 10 required either to establish a specific allowance for losses equal to 100% of the amount of the asset so classified or to charge off such amount. A savings institution's determination as to the classification of its assets and the amount of its valuation allowances is subject to review by the OTS which can order the establishment of additional general or specific loss allowances. The OTS, in conjunction with the other federal banking agencies, adopted an interagency policy statement on the allowance for loan and lease losses. The policy statement provides guidance for financial institutions on both the responsibilities of management for the assessment and establishment of adequate allowances and guidance for banking agency examiners to use in determining the adequacy of general valuation allowances. Generally, the policy statement recommends that institutions have effective systems and controls to identify, monitor and address asset quality problems; that management has analyzed all significant factors that affect the collectibility of the portfolio in a reasonable manner; and that management has established acceptable allowance evaluation processes that meet the objectives set forth in the policy statement. While the Bank believes that it has established an adequate allowance for estimated loan losses, there can be no assurance that regulators, in reviewing the Bank's loan portfolio, will not request the Bank to materially increase at that time its allowance for estimated loan losses, thereby negatively affecting the Bank's financial condition and earnings at that time. Although management believes that an adequate allowance for estimated loan losses has been established, actual losses are dependent upon future events and, as such, further additions to the level of allowances for estimated loan losses may become necessary. The Bank's Internal Asset Review Committee reviews and classifies the Bank's assets quarterly and reports the results of its review to the Board of Directors. The Bank classifies assets in accordance with the management guidelines described above. REO is classified as Substandard. The following table sets forth information concerning substandard loans, REO and total classified assets at December 31, 1999.
At December 31, 1999 ------------------------------------------------------ Total Substandard, Doubtful and Loans REO Loss Assets ----------------- ------------------ ----------------- Gross Number of Gross Number of Gross Number of Balance Loans Balance Properties Balance Assets ------- --------- ------- ---------- ------- --------- (Dollars in thousands) Residential: One-to-four family.... $3,793 62 $2,330 29 $6,123 91 Multi-family.......... 198 1 -- -- 198 1 Commercial.............. -- -- -- -- -- -- Other loans............. 27 7 -- -- 27 7 ------ --- ------ --- ------ --- Total loans......... $4,018 70 $2,330 29 $6,348 99 ====== === ====== === ====== ===
At December 31, 1999 the Bank had $1.3 million of assets classified as Special Mention, $6.3 million of assets classified as Substandard, there were no assets classified as Doubtful or Loss. As of December 31, 1999, assets classified as Special Mention secured by one- to four-family residential properties include 59 loans totaling $1.2 million. At December 31, 1999, the largest loan classified as Special Mention had a loan balance of $139,000 and is secured by a one- to four-family residential property. Non-Accrual and Past-Due Loans. The following table sets forth information regarding non-accrual loans, troubled-debt restructurings and REO in the Company's loan portfolio. There was one troubled-debt restructured loan within the meaning of SFAS 15, and 29 REO properties at December 31, 1999. The Company's current policy is to cease accruing interest on loans 90 days or more past due. For the years ended December 31, 1999, 1998, 1997, 1996 and 1995, respectively, the amount of interest income that would have been recognized on nonaccrual loans if such loans had continued to perform in accordance with their contractual terms was $384,000, $789,000, $424,000, $179,000, and $67,000, none of which was recognized. For the same periods, the amount of interest income recognized on troubled debt restructurings was $0, $0, $0, $12,000, and $11,000. 11
At December 31, -------------------------------------- 1999 1998 1997 1996 1995 ------ ------ ------ ------ ------ (Dollars in thousands) Non-accrual loans: One-to-four family................... $2,462 $7,134 $3,245 $2,361 $1,305 Multi-family........................ 198 0 0 45 0 Commercial and land................. 0 131 131 0 82 Other loans......................... 27 279 1,750 10 10 ------ ------ ------ ------ ------ Total nonaccrual loans............ 2,687 7,544 5,126 2,416 1,397 Foreclosure in process(3)............ 1,331 0 0 0 0 ------ ------ ------ ------ ------ Total nonperforming loans......... 4,018 7,544 5,126 2,416 1,397 REO, net(1).......................... 2,214 1,898 1,440 561 827 ------ ------ ------ ------ ------ Total nonperforming assets........ $6,232 $9,442 $6,566 $2,977 $2,224 ====== ====== ====== ====== ====== Restructured loans.................... $ 0 $ 131 $ 131 $ 131 $ 131 Allowance for estimated loan losses as a percent of gross loans receivable(2)........................ 0.60% 0.82% 0.82% 2.36% 1.83% Allowance for estimated loan losses as a percent of total nonperforming loans(3)............................. 68.43% 36.81% 50.20% 67.26% 84.25% Nonperforming loans as a percent of gross loans receivable(2)(3)......... 0.88% 2.23% 1.64% 3.50% 2.17% Nonperforming assets as a percent of total assets(3)...................... 1.14% 2.21% 1.65% 2.93% 3.00%
- -------- (1) REO balances are shown net of related loss allowances. (2) Gross loans includes loans receivable held for investment and loans receivable held for sale. (3) Non-performing assets consist of non-performing loans and REO. Prior to April 1, 1996, non-performing loans consisted of all loans 45 days or more past due and all other non-accrual loans. Following March 31, 1996, non- performing loans consisted of all loans 90 days or more past due and all other non-accrual loans. At December 31, 1999, nonperforming loans consisted of all loans 90 days or more past due, foreclosures in process less than 90 days past due, and all other non-accrual loans. 12 The following table sets forth delinquencies in the Company's loan portfolio as of the dates indicated:
At December 31, 1999 At December 31, 1998 --------------------------------- --------------------------------- 60-89 Days 90 Days or More 60-89 Days 90 Days or More ---------------- ---------------- ---------------- ---------------- Number Principal Number Principal Number Principal Number Principal of Balance of Balance of Balance of Balance Loans of Loans Loans of Loans Loans of Loans Loans of Loans ------ --------- ------ --------- ------ --------- ------ --------- (Dollars in thousands) One to four family...... 33 $1,179 62 $3,793 6 $326 68 $7,134 Multi-family............ 0 -- 1 198 0 -- 0 -- Commercial.............. 0 -- 0 -- 0 -- 1 131 Other loans............. 26 84 7 27 36 160 61 279 --- ------ --- ------ --- ---- --- ------ Total................... 59 $1,263 70 $4,018 42 $486 130 $7,544 === ====== === ====== === ==== === ====== Delinquent loans to total gross loans...... 0.28% 0.88% 0.14% 2.23% ====== ====== ==== ======
At December 31, 1997 --------------------------------- 60-89 Days 90 Days or More ---------------- ---------------- Number Principal Number Principal of Balance of Balance Loans of Loans Loans of Loans ------ --------- ------ --------- (Dollars in thousands) One to four family........................... 27 $2,328 33 $3,245 Multi-family................................. 0 -- 0 -- Commercial................................... 0 -- 1 131 Other loans.................................. 115 583 321 1,750 --- ------ --- ------ Total........................................ 142 $2,911 355 $5,126 === ====== === ====== Delinquent loans to total gross loans........ 0.93% 1.64% ====== ======
Allowance for Loan Losses. The Company maintains an allowance for loan losses to absorb losses inherent primarily in the loans held for investment portfolio. Loans held for sale are carried at the lower of cost or estimated market value. Net unrealized losses, if any, are recognized in a lower of cost or market valuation allowance by charges to operations. The allowance is based on ongoing, quarterly assessments of probable estimated losses inherent in the loan portfolios. The Company's methodology for assessing the appropriateness of the allowance consists of several key elements, which include the formula allowance, specific allowance for identified problem loans and portfolio segments and the unallocated allowance. In addition, the allowance incorporates the results of measuring impaired loans as provided in Statement of financial Accounting Standards ("SFAS") No. 114, "Accounting by Creditors for Impairment of a Loan" and SFAS No. 118 "Accounting by Creditors for Impairment of Loan- Income Recognition and Disclosures." These accounting standards prescribe the measurement methods, income recognition and disclosures related to impaired loans. The formula allowance is calculated by applying loss factors to outstanding loans held for investment. The factors are based upon the composite industry standards and may be adjusted for significant factors that, in management's judgment, affect the collectibility of the portfolios as of the evaluation date. Specific allowances are established in cases where management has identified significant conditions or circumstances related to a credit that management believes indicates the probability that a loss has been incurred in excess of the amount determined by the application of the formula allowance. The unallocated allowance is based upon management's evaluation of various conditions, the effect of which are not directly measured in the determination of the formula and specific allowance. The evaluation of the inherent loss with respect to these conditions is subject to a higher degree of uncertainty because they are not identified with specific problem credits or portfolio segments. The conditions evaluated in connection with the unallocated allowance include the following conditions that existed as of the balance sheet date: 13 (1) then-existing general economic and business conditions affecting the key lending areas of the Company, (2) credit quality trends, (3) loan volumes and concentrations, (4) recent loss experience in particular segments of the portfolio, and (5) regulatory examination results. Executive management reviews the conditions quarterly in discussion with the Company's senior officers. To the extent that any of these conditions are evidenced by a specifically identifiable problem credit or portfolio segment as of the evaluation date, management's estimate of the effect of such condition may be reflected as a specific allowance applicable to such credit or portfolio segment. Where any of these conditions is not evidenced by a specifically identifiable problem credit or portfolio segment as of the evaluation date, management's evaluation of the probable loss related to such condition is reflected in the unallocated allowance. By assessing the probable estimated losses inherent in the loan portfolios on a quarterly basis, the Company is able to adjust specific and inherent loss estimates based upon more recent information that has become available. As of December 31, 1999, the Company's allowance for loan losses was $2.7 million or 0.60% of total gross loans, and 68.43% of non-performing loans compared to an allowance for loan losses of $2.8 million at December 31, 1998 or 0.82% of gross loans and 36.81% of non-performing loans. The following table sets forth activity in the Company's allowance for loan losses for the periods set forth in the table.
At or for the Year Ended December 31, ---------------------------- In thousands 1999 1998 1997 - ------------ -------- -------- -------- Balance at beginning of period.................... $ 2,777 $ 2,573 $ 1,625 Provision for loan losses......................... 5,382 4,166 1,850 Charge-offs: Real estate: One to four family............................ 3,163 1,023 901 Multi-family.................................. -- -- -- Commercial.................................... -- -- -- Other loans..................................... 2,677 3,048 8 -------- -------- -------- Total charge-offs............................... 5,840 4,071 909 Recoveries........................................ 430 109 7 -------- -------- -------- Balance at end of period.......................... $ 2,749 $ 2,777 $ 2,573 ======== ======== ======== Average net loans outstanding..................... $411,189 $329,699 $191,140 ======== ======== ======== Net charge-offs to average net loans.............. 1.31% 1.20% 0.47%
The following table sets forth the amount of the Company's allowance for loan losses, the percent of allowance for loan losses to total allowance and the percent of gross loans to total gross loans in each of the categories listed at the dates indicated.
1999 1998 1997 ----------------------------- ----------------------------- ----------------------------- Percent of Percent of Percent of Percent of Percent of Percent of Allowance Gross Loans Allowance Gross Loans Allowance Gross Loans to Total to Total to Total to Total to Total to Total Amount Allowance Gross Loans Amount Allowance Gross Loans Amount Allowance Gross Loans ------ ---------- ----------- ------ ---------- ----------- ------ ---------- ----------- In thousands ------------ ------ One to four family...... $2,582 93.93% 83.29% $1,984 71.45% 64.54% $1,206 46.87% 89.02% Multi-family............ 64 2.33 2.15 68 2.46 5.16 66 2.57 3.41 Commercial.............. 6 0.22 2.59 250 9.00 4.22 150 5.83 5.36 Construction............ 26 0.95 11.38 60 2.16 2.54 -- 0.00 0.00 Other................... 71 2.57 0.59 415 14.93 23.44 1,151 44.73 2.21 ------ ------ ------ ------ ------ ------ ------ ------ ------ Total allowance........ $2,749 100.00% 100.00% $2,777 100.00% 100.00% $2,573 100.00% 100.00% ====== ====== ====== ====== ====== ====== ====== ====== ======
Real Estate Owned. At December 31, 1999, the Company had $2.2 million of REO, net of allowances. Real estate properties acquired through or in lieu of loan foreclosure are initially recorded at the lower of fair value or the balance of the loan at the date of foreclosure through a charge to the allowance for estimated loan losses. After 14 foreclosure, valuations are periodically performed by management and an allowance for REO losses is established by a charge to operations if the carrying value of a property exceeds its fair value less estimated cost to sell. It is the policy of the Company to obtain an appraisal and /or a market evaluation on all REO at the time of possession and every six months thereafter. Investment Activities Federally chartered savings institutions, such as the Bank, have the authority to invest in various types of liquid assets, including United States Treasury obligations, securities of various federal agencies, certificates of deposit of insured banks and savings institutions, bankers' acceptances, and federal funds. Subject to various restrictions, federally chartered savings institutions may also invest their assets in commercial paper, investment-grade corporate debt securities and mutual funds whose assets conform to the investments that a federally chartered savings institution is otherwise authorized to make directly. Additionally, the Bank must maintain minimum levels of investments that qualify as liquid assets under OTS regulations. See "--Regulation--Federal Savings Institution Regulation--Liquidity." Historically, the Bank has maintained liquid assets above the minimum OTS requirements and at a level considered to be adequate to meet its normal daily activities. The investment policy of the Company as established by the Board of Directors attempts to provide and maintain liquidity, generate a favorable return on investments without incurring undue interest rate and credit risk, and complement the Company's lending activities. Specifically, the Company's policies generally limit investments to government and federal agency-backed securities and non-government guaranteed securities, including corporate debt obligations, that are investment grade. The Company's policies provide the authority to invest in marketable securities guaranteed by the U.S. government and agencies thereof and other financial institutions. At December 31, 1999 the Company had $5 thousand in its mortgage-backed securities portfolio, all of which were insured or guaranteed by the FHLMC and are being held-to-maturity. The Company may increase its investment in mortgage-backed securities in the future depending on its liquidity needs and market opportunities. Investments in mortgage-backed securities involve a risk that actual prepayments will be greater than estimated prepayments over the life of the security which may require adjustments to the amortization of any premium or accretion of any discount relating to such instruments thereby reducing the net yield on such securities. There is also reinvestment risk associated with the cash flows from such securities. In addition, the market value of such securities may be adversely affected by changes in interest rates. The following table sets forth certain information regarding the carrying and fair values of the Company's securities at the dates indicated. There were no securities available-for-sale at the dates indicated.
At December 31 -------------------------------------------------- 1999 1998 1997 ---------------- ---------------- ---------------- Carrying Fair Carrying Fair Carrying Fair Value Value Value Value Value Value -------- ------- -------- ------- -------- ------- (Dollars in thousands) Securities Residual mortgage-backed securities............... $ 0 $ 0 $50,296 $50,296 $45,352 $45,352 Held to maturity: US Treasury and other agency securities........ 29,955 29,945 2,000 2,012 5,003 5,021 Mortgage backed securities............... 5 5 8 8 9 9 Other securities (FHLB Stock)................... 2,873 2,873 2,463 2,463 1,067 1,067 ------- ------- ------- ------- ------- ------- Total mortgage & other securities............. $32,833 $32,823 $54,767 $54,779 $51,431 $51,449 ======= ======= ======= ======= ======= =======
At December 31, 1998, the Company had five residual mortgage-backed securities valued at $50.3 million. By completing the desecuritization of the Company's 1996-1 and 1997-1A and 1B transactions and the sale of the Company's 1997-2, 1997-3, and 1998-1A and 1B Residuals, the Company divested its holdings of residual mortgage-backed securities retained from securitizations during 1999. 15 The Company sold its remaining residual mortgage-backed securities retained from securitization and related mortgage servicing rights for an amount valued at $19.3 million in cash and other consideration. The Company received from the purchaser of the residual mortgage-backed securities, a contractual right to receive 50% of any cash realized from the residual mortgage-backed securities (the "Participation Contract"). The right to receive cash flows under the Participation Contract begins after the purchaser recaptures their initial cash investment of $8.1 million and a 15% internal rate of return (the "Hurdle Amount") from the transaction. Additionally, the Company entered into a credit guaranty related to a $14.6 million pool of sub- performing loans in the 1998- 1A and 1B securitization whereby the Company guaranteed the difference between the December 1, 1999, unpaid principal balance and the realized value of those loans at final disposition. At December 31, 1999, the Company estimated the obligation under the credit guaranty at $4.3 million. Any proceeds paid to the purchaser under the credit guaranty will be applied to the $8.1 million Hurdle Amount for cash distributions on the Participation Contract. The table below sets forth certain information regarding the carrying value, weighted average yields and contractual maturities of the Company's securities as of December 31, 1999.
At December 31, 1999 ----------------------------------------------------------------------------------------- More than One More than Five Year to Five Years to Ten More than One Year or Less Years Years Ten Years Total ----------------- ----------------- ----------------- ----------------- ----------------- Weighted Weighted Weighted Weighted Weighted Carrying Average Carrying Average Carrying Average Carrying Average Carrying Average Value Yield Value Yield Value Yield Value Yield Value Yield -------- -------- -------- -------- -------- -------- -------- -------- -------- -------- (Dollars in thousands) Held to maturity investment securities US Treasury and other agency securities..... $29,955 5.95% $ -- 0.00% $ -- 0.00% $ -- 0.00% $29,955 5.95% Mortgage-backed securities............ -- 0.00 -- 0.00 -- 0.00 5 3.16 5 3.16 Other securities....... 2,723 5.30 -- 0.00 -- 0.00 150 0.00 2,873 5.02 ------- ----- ----- ----- ------- Total Investment Securities............. $32,678 5.90% $ -- 0.00% $ -- 0.00% $ 155 0.11% $32,833 5.87% ======= ===== ===== ===== =======
Sources of Funds General. Deposits, lines of credit, loan repayments and prepayments, proceeds from loan sales and cash flows generated from operations and borrowings are the primary sources of the Company's funds for use in lending, investing and for other general purposes. Deposits. The Company offers a variety of deposit accounts with a range of interest rates and terms. The Company's deposits consist of passbook savings, checking accounts, money market savings accounts and certificates of deposit. For the year ended December 31, 1999, certificates of deposit constituted 92.5% of total average deposits. The term of the fixed-rate certificates of deposit offered by the Company vary from 30 days to eighteen years. Specific terms of an individual account vary according to the type of account, the minimum balance required, the time period funds must remain on deposit and the interest rate, among other factors. The flow of deposits is influenced significantly by general economic conditions, changes in money market rates, prevailing interest rates and competition. At December 31, 1999, the Company had $428.0 million of certificate accounts maturing in one year or less. The Company relies primarily on customer service and long-standing relationships with customers to attract and retain local deposits; however, market interest rates and rates offered by competing financial institutions significantly affect the Company's ability to attract and retain deposits. From time to time the Company utilize brokered deposits. At December 31, 1999, the Company had no brokered deposits. Although the Company has a significant portion of its deposits in shorter term certificates of deposit, management monitors activity on the Company's certificate of deposit accounts and, based on historical experience, and the Company's current pricing strategy, believes that it will retain a large portion of such accounts upon maturity. Further increases in short-term certificate of deposit accounts, which tend to be more sensitive to movements in market interest rates than core deposits, may result in the Company's deposit base being less stable than if it had a large amount of core deposits which, in turn, may result in further increases in the Company's cost of deposits. Notwithstanding the foregoing, the Company believes that it will continue to have access to sufficient amounts of certificates of deposit accounts which, together with other funding sources, will provide it with the necessary level of liquidity to continue to implement its business strategies. 16 The following table presents the deposit activity of the Company for the periods indicated:
For the Year Ended December 31, -------------------------- 1999 1998 1997 -------- -------- -------- (Dollars in thousands) Net deposits (withdrawals)....................... $123,302 $ 97,638 $118,078 Interest credited on deposit accounts............ 22,124 14,030 7,976 -------- -------- -------- Total increase in deposit accounts............. $145,426 $111,668 $126,054 ======== ======== ========
At December 31, 1999, the Company had $130.1 million in certificate accounts in amounts of $100,000 or more maturing as follows:
Weighted Maturity Period Amount Average Rate --------------- ------ ------------ (Dollars in thousands) Three months or less................................... $ 35,962 5.55% Over three months through 12 months.................... 93,343 6.07 Over 12 months......................................... 808 6.27 -------- Total................................................ $130,113 5.93% ========
The following table sets forth the distribution of the Company's average deposit accounts for the periods indicated and the weighted average interest rates on each category of deposits presented.
For the Year For the Year For the Year Ended December 31, Ended December 31, Ended December 31, -------------------------- -------------------------- -------------------------- 1999 1998 1997 -------------------------- -------------------------- -------------------------- (Dollars in Thousands) Percent Percent Percent of Total Weighted of Total Weighted of Total Weighted Average Average Average Average Average Average Average Average Average Balance Deposits Rate Balance Deposits Rate Balance Deposits Rate -------- -------- -------- -------- -------- -------- -------- -------- -------- Passbook accounts....... $ 4,639 1.09% 2.10% $ 4,324 1.69% 2.36% $ 4,003 2.73% 2.10% Money market accounts... 6,857 1.62 4.28 4,779 1.87 4.79 2,971 2.02 2.96 Checking accounts....... 20,337 4.80 1.51 17,966 7.01 1.72 11,756 8.00 2.37 -------- ------ -------- ------ -------- ------ Sub-total.............. 31,833 7.51 2.30 27,069 10.57 2.36 18,730 12.75 2.41 Certificate accounts: Three months or less... 8,706 2.05 5.12 9,148 3.57 5.52 15,887 10.81 5.54 Four through 12 months................ 328,635 77.53 5.40 192,871 75.28 5.85 88,129 59.97 6.01 13 through 36 months... 50,786 11.98 5.57 22,105 8.63 5.84 18,467 12.57 5.71 37 months or greater... 3,945 0.93 6.55 4,997 1.95 6.55 5,730 3.90 6.28 -------- ------ -------- ------ -------- ------ Total certificate accounts.............. 392,072 92.49 5.43 229,121 89.43 5.85 128,213 87.25 5.92 -------- ------ -------- ------ -------- ------ Total average deposits.............. $423,905 100.00% 5.17% $256,190 100.00% 5.48% $146,943 100.00% 5.47% ======== ====== ======== ====== ======== ======
17 The following table presents, by various rate categories, the amount of certificate accounts outstanding at the date indicated and the periods to maturity of the certificate accounts outstanding at December 31, 1999.
Period to Maturity from December 31, 1999 At December 31, --------------------------------------------------------------- ----------------- Less than One One to Two to Three to Four to More than Yr Two Yrs Three Yrs Four Yrs Five Yrs Five Yrs Total 1998 1997 -------- ------- --------- -------- -------- --------- -------- -------- -------- (Dollars in thousands) Certificate Accounts: 0 to 4.00%............ $ 0 $ 0 $ 0 $ 0 $ 0 $ 0 $ 0 $ 0 $ 0 4.01 to 5.00%......... 31,223 125 2 64 4 48 31,466 16,436 2,344 5.01 to 6.00%......... 186,383 1,333 263 96 10 400 188,485 266,323 102,920 6.01 to 7.00%......... 209,913 121 17 6 0 115 210,172 12,648 87,009 7.01 to 8.00%......... 435 282 97 36 59 300 1,209 1,568 1,572 8.01 to 9.00%......... -- -- -- -- -- -- -- -- -- Over 9.01%............ -- -- -- -- -- -- -- -- -- -------- ------ ---- ---- --- ---- -------- -------- -------- Total............... $427,954 $1,861 $379 $202 $73 $863 $431,332 $296,975 $193,845 ======== ====== ==== ==== === ==== ======== ======== ========
Borrowings. From time to time the Bank has obtained advances from the FHLB as an alternative to retail deposit funds and internally generated funds and may do so in the future as part of its operating strategy. FHLB advances may also be used to acquire certain other assets as may be deemed appropriate for investment purposes. These advances are collateralized primarily by certain of the Bank's mortgage loans and mortgage-backed securities and secondarily by the Bank's investment in capital stock of the FHLB. See "Regulation--Federal Home Loan Bank System." Such advances are made pursuant to several different credit programs, each of which has its own interest rate and range of maturities. The maximum amount that the FHLB will advance to member institutions, including the Bank, fluctuates from time-to-time in accordance with the policies of the OTS and the FHLB. At December 31, 1999, the Bank had no outstanding advances from the FHLB. Both the Company and the Bank have the ability to enter into lines of credit to finance mortgages, mortgage-backed securities and for other corporate purposes. At December 31, 1999, the Bank has a warehouse line of credit in the amount of $250.0 million, of which zero has been drawn at December 31, 1999. The line of credit is secured by mortgage loans or mortgage-backed securities with interest rates from LIBOR plus 50 basis points to LIBOR plus 100 basis points. In addition, the Company has two lines of credit in the amount of $40 million and $10 million secured by residual assets created by the Company's securitizations and stock of the Bank, respectively. $17.9 million was outstanding under the lines at December 31, 1999 and both lines were fully repaid at January 31, 2000. The warehouse and residual financing lines of credit are uncommitted and may be terminated by the lenders at will. The $10 million unsecured revolving line of credit is a committed, 364 day, facility that matures in November 2000. These lines of credit contain affirmative, negative and financial covenants. Due to the sale of the Company's residual mortgage-backed securities, certain covenants related to the $40 million and $10 million line of credit were violated. The Company was in compliance with all other lines of credit covenants at December 31, 1999. On March 14, 1997, the Company issued subordinated debentures (the "Debentures") in the aggregate principal amount of $10.0 million through the Debenture Offering. On September 15, 1998, holders of $8.5 million in Debentures exercised their option to put their Debentures as of December 14, 1998, thereby reducing outstanding Debentures to $1.5 million. See "Regulation--Federal Savings Institution Regulation-- Capital Requirements." Additionally, see further detail in "Note 10 Subordinated Debentures--Notes to Consolidated Financial Statements". 18 The following table sets forth certain information regarding the Company's borrowed funds at or for the years ended on the dates indicated:
At or For Year Ended December 31, ------------------------------------ 1999 1998 1997 ----------- ----------- ----------- (Dollars in thousands) FHLB advances Average balance outstanding............ $ 15,363 $ 1,154 $ 8,284 Maximum amount outstanding at any month-end during the year ............ 35,170 17,062 17,800 Balance outstanding at end of year..... -- -- 9,000 Weighted average interest rate during the year.............................. 5.23% 5.02% 5.82% Debentures Average balance outstanding............ $ 1,500 $ 9,526 $ 7,997 Maximum amount outstanding at any month-end during the year............. 1,500 10,000 10,000 Balance outstanding at end of year..... 1,500 1,500 10,000 Weighted average interest rate during the year.............................. 14.01% 14.03% 14.09% Lines of credit Average balance outstanding............ $ 30,237 $ 112,886 $ 48,765 Maximum amount outstanding at any month-end during the year............. 45,834 345,848 226,846 Balance outstanding at end of year..... 17,873 39,977 100,170 Weighted average interest rate during the year.............................. 8.48% 6.62% 6.53% Total borrowings Average balance outstanding............ $ 47,100 $ 123,566 $ 65,046 Maximum amount outstanding at any month-end during the year............. 60,757 372,910 254,646 Balance outstanding at end of year..... 19,373 41,477 119,170 Weighted average interest rate during the year.............................. 7.59% 7.18% 7.37%
Asset Securitizations In a securitization, the Company will generally transfer a pool of loans to a trust with the Company retaining the excess cash flows, known as residuals, from the securitization which consist of the difference between the interest rate of the mortgages and the coupon rate of the securities after adjustment for servicing and other costs such as trustee fees and credit enhancement fees. The cash generally will be used to repay advances on lines of credit used to finance the pool of loans that were acquired by the Company. Generally, the holders of the securities from the asset securitization are entitled to receive scheduled principal collected on the pool of securitized loans and interest at the pass-through interest rate on the certificate balance. The residual asset represents the subordinated right to receive cash flows from the pool of securitized loans after payment of the required amounts to the holders of the securities and the costs associated with the securitization. The Company recognizes gain on sale of the loans in the securitization, which represents the excess of the estimated fair value of the residuals, net of closing and underwriting costs, less the allocated cost basis of the loans sold in the fiscal quarter in which such loans are sold. Management believes that it has made reasonable estimates of the fair value of the residual interests on its balance sheets. Concurrent with recognizing such gain on sale, the Company records the residual interests as assets on its balance sheet. The recorded value of these residual interests are amortized as cash distributions are received from the trust holding the respective loan pool and are marked to market on a quarterly basis. The fair values of such residuals are based in part on market interest rates and projected loan prepayment and credit loss rates. See Note 1 to the consolidated financial statements for further discussion. Increases in interest rates or higher than anticipated rates of loan prepayments or credit losses of these or similar securities may require the Company to write down the value of such residuals and result in a material adverse effect on the Company's results of operations and financial condition. The Company revalued the residuals and recorded a pre-tax unrealized loss of $16.6 million for the year ended December 31, 1998, due to a combination of higher-than-expected prepayment speeds and credit losses. The Company is not aware of an active market for the residuals. 19 The Company may arrange for credit enhancement for a transaction to achieve an improved credit rating on the securities issued if this improves the level of profitability or cash flow generated by such transaction. This credit enhancement may take the form of an insurance and indemnity policy, insuring the holders of the securities of timely payment of the scheduled pass-through of interest and principal. In addition, the pooling and servicing agreements that govern the distribution of cash flows from the loan pool included in a transaction typically require over-collateralization as an additional means of credit enhancement. Over-collateralization may in some cases also require an initial deposit, the sale of loans at less than par or retention in the trust of collections from the pool until a specified over-collateralization amount has been attained. The purpose of the over-collateralization is to provide a source of payment to investors in the event of certain shortfalls in amounts due to investors. These amounts are subject to increase up to a reserve level as specified in the related securitization documents. Cash amounts on deposit are invested in certain instruments as permitted by the related securitization documents. To the extent amounts on deposit exceed specified levels, distributions are made to the holders of the residual interest; and at the termination of the related trust, any remaining amounts on deposit are distributed to the holders of the residual interest. Losses resulting from defaults by borrowers on the payment of principal or interest on the loans in a securitization will reduce the over-collateralization to the extent that funds are available and may result in a reduction in the value of the residual interest. See Note 1 to consolidated financial statements. Subsidiaries As of December 31, 1999, the Company had three subsidiaries: the Bank, Life Investment Holdings, Inc., and Life Financial Investment and Insurance Services, Inc. Life Financial Investment and Insurance Services, Inc was incorporated in California in 1999 as a service entity engaged in the sale of insurance and insurance-related products. Life Investment Holdings, Inc. was incorporated in Delaware in 1997 as a bankruptcy-remote entity for use in the Company's asset securitization activities. The Bank had no subsidiaries at December 31, 1999. Personnel As of December 31, 1999, the Company had 334 full-time employees and 18 part-time employees. The employees are not represented by a collective bargaining unit and the Company considers its relationship with its employees to be satisfactory. Year 2000 Compliance General As a financial institution operating in multiple states, the Company is dependent on computer systems and applications to conduct its business. The Company has prepared its systems and applications for the year 2000 (Y2k). The Y2k issue is the result of computer programs being written using two digit year fields instead of four digit year fields. If the computer systems cannot distinguish between the year 1900 and the year 2000, system failures or miscalculations could result, disrupting operations and causing, among other things, a temporary inability to process transactions or engage in normal business activities for both the Company and its customers. The Program The Company has developed, and is actively engaged in, a comprehensive risk- based Y2k program consisting of a team involving members from various areas in the organization. The project team has been in place since May of 1998. The program is designed to make its computer systems and equipment Y2k ready. "Computer systems and equipment" includes systems generally thought of as information technology (IT) dependent, such as accounting, data processing, and telephone equipment, as well as systems not obviously IT dependent, such as photocopiers, facsimile machines, and security systems. The non-IT dependent systems may contain embedded technology, and the Company has included these systems as part of the program. Both the IT dependent and non-IT dependent portions of the program are complete. 20 The Company defines year 2000 readiness as information technology that accurately processes date/time data from, into, and between the years 1999 and 2000, as well as leap year calculations, with: . All mission-critical systems and processes reviewed, renovated or replaced, as necessary. . All mission-critical systems and processes tested. . All key vendors, customers, and business partners identified and assessed for risk. . Adequate change control procedures in place for re-testing of new or upgraded systems. . Contingency plans in place to support business resumption requirements. The Y2k program consists of five stages: (i) awareness, (ii) assessment, (iii) renovation, (iv) validation, and (v) implementation. During the awareness phase, the Company identified the project team and responsibilities, prepared and allocated the project budget, defined the project scope, and established program and management policies. This phase, although complete, continues to be reviewed. The assessment phase entailed an inventory of IT and non-IT systems, hardware, vendors, material customers, and facilities. Inventoried systems were also prioritized to identify critical systems. This phase is also complete, but is reviewed continually to manage changes to systems and relationships. The renovation, validation, and implementation phases were complete as of June 30, 1999. To complete the five program phases, the Company primarily used internal resources. The service bureau responsible for the Company's mission critical business financial systems provided assistance with validation of third party systems that interface with their systems through proxy testing. The Company's systems use a combination of methodologies for date fields. Where possible, date fields were expanded to a full eight digits. For date fields that were retained in a six-digit format, a windowing technique was used. For the Company's mission critical business financial systems, the windowing technique is described as follows. If the last two digits of the date are 00-49, the century is 2000. If the last two digits of the date are 50-99, the century is 1900. Contingency Planning An institution-wide contingency plan is in place, with Y2k issues incorporated, and testing completed. The contingency plan enables the Company to continue to operate, to the extent that it can do so safely, including performing certain processes manually and repairing or obtaining replacement systems. Customer Awareness The Company has devoted significant time and effort in developing customer awareness as part of the Y2k program. Internal training of all employees was completed in several sessions over several months during 1999. In addition, the company provides informational brochures to customers as part of its program activities, regular program updates to third parties with which the Company has material relationships, and program status reports as part of its customer and employee newsletter. Costs Through 1999, the amount of approximately $231,378 incurred and expensed for developing and implementing the Y2k program has not had a material effect on the Company's operations. There are no additional costs expected as a result of the Y2k program. None of the Company's other information technology projects have been delayed or deferred as a result of implementing the Y2k program. Risks The Company believes that implementation of completed renovations on its internal systems and equipment will allow it to be Y2k compliant in a timely manner. There can be no assurances, however, that the 21 Company's internal systems or equipment, or those of third parties on which the Company relies, will be Y2k compliant in a timely manner, or that the Company's or third parties' contingency plans will mitigate the effects of noncompliance. The Company has initiated communications with its critical external relationships to determine the extent to which the Company will assess and attempt to mitigate its risks with respect to the failure of these entities to be Y2k ready. The effect, if any, on the Company's results of operations from the failure of such parties to be Y2k ready cannot reasonably be estimated. The Company is part of a regulated industry which has issued standards for Y2k readiness and is conducting audits to ensure compliance with those standards. To date, the Company has satisfied its regulators as to its compliance with Y2k standards. The Company believes its most likely worst case scenario is that customers could experience some manual processes or an inability to access their cash immediately. Although the Company does not believe that this scenario will occur, it is assessing the effect of such scenarios by using current financial data. In the event that this scenario does occur, the Company does not expect that it would have a material adverse effect on the Company's financial position, liquidity, and results of operations. Forward-looking Statements The preceding Y2k issue discussion contains various forward-looking statements which represent the Company's beliefs or expectations regarding future events. When used in the Y2k issue discussion, the words "believes," "expects," "estimates," and similar expressions are intended to identify forward-looking statements. Forward-looking statements include, without limitation, the Company's expectations as to when it will complete the renovation, validation, and implementation phases of its Y2k program, as well as its contingency plans; its estimated cost of achieving Y2k readiness; and the Company's belief that its internal systems and equipment will be Y2k compliant in a timely manner. All forward-looking statements involve a number of risks and uncertainties that could cause the actual results to differ materially from the projected results. Factors that may cause these differences include, but are not limited to: the availability of qualified personnel and other information technology resources, the ability to identify and renovate all data sensitive lines of computer code or to replace embedded computer chips in affected systems and equipment, and the actions of government agencies and other third parties with respect to Y2k readiness. REGULATION General The Company, as a savings and loan holding company, is required to file certain reports with, and otherwise comply with the rules and regulations of the OTS under the Home Owners' Loan Act, as amended (the "HOLA"). In addition, the activities of savings institutions, such as the Bank, are governed by the HOLA and the Federal Deposit Insurance Act ("FDI Act"). The Bank is subject to extensive regulation, examination and supervision by the OTS, as its primary federal regulator, and the FDIC, as the deposit insurer. The Bank is a member of the Federal Home Loan Bank ("FHLB") System and its deposit accounts are insured up to applicable limits by the SAIF managed by the FDIC. The Bank must file reports with the OTS and the FDIC concerning its activities and financial condition in addition to obtaining regulatory approvals prior to entering into certain transactions such as mergers with, or acquisitions of, other savings institutions. The OTS and/or the FDIC conduct periodic examinations to test the Bank's safety and soundness and 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 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 regulatory requirements and policies, whether by the OTS, the FDIC or Congress, could have a material adverse impact on the Company, the Bank 22 and their operations. Certain of the regulatory requirements applicable to the Bank and to the Company are referred to below or elsewhere herein. The description of statutory provisions and regulations applicable to savings institutions and their holding companies set forth in this Form 10-K does not purport to be a complete description of such statutes and regulations and their effects on the Bank and the Company. Holding Company Regulation The Company is a nondiversified unitary savings and loan holding company within the meaning of the HOLA. As a unitary savings and loan holding company, the Company generally is not restricted under existing laws as to the types of business activities in which it may engage, provided that the Bank continues to be a qualified thrift lender ("QTL"). See "Federal Savings Institution Regulation--QTL Test." Upon any non-supervisory acquisition by the Company of another savings institution or savings bank that meets the QTL test and is deemed to be a savings institution by the OTS, the Company would become a multiple savings and loan holding company (if the acquired institution is held as a separate subsidiary) and would be subject to extensive limitations on the types of business activities in which it could engage. The HOLA limits the activities of a multiple savings and loan holding company and its non-insured institution subsidiaries primarily to activities permissible for bank holding companies under Section 4-C-(8) of the Bank Holding Company Act ("BHC Act"), subject to the prior approval of the OTS, and certain activities authorized by OTS regulation, and no multiple savings and loan holding company may acquire more than 5% the voting stock of a company engaged in impermissible activities. The HOLA prohibits a savings and loan holding company, directly or indirectly, or through one or more subsidiaries, from acquiring more than 5% of the voting stock of another savings institution or holding company thereof, without prior written approval of the OTS or acquiring or retaining control of a depository institution that is not insured by the FDIC. In evaluating applications by holding companies to acquire savings institutions, the OTS must consider the financial and managerial resources and future prospects of the company and institution involved, the effect of the acquisition on the risk to the insurance funds, the convenience and needs of the community and competitive factors. The OTS is prohibited from approving any acquisition that would result in a multiple savings and loan holding company controlling savings institutions in more than one state, subject to two exceptions: (i) the approval of interstate supervisory acquisitions by savings and loan holding companies and (ii) the acquisition of a savings institution in another state if the laws of the state of the target savings institution specifically permit such acquisitions. The states vary in the extent to which they permit interstate savings and loan holding company acquisitions. Although savings and loan holding companies are not subject to specific capital requirements or specific restrictions on the payment of dividends or other capital distributions, HOLA does prescribe such restrictions on subsidiary savings institutions as described below. The Bank must notify the OTS 30 days before declaring any dividend to the Company. In addition, the financial impact of a holding company on its subsidiary institution is a matter that is evaluated by the OTS and the agency has authority to order cessation of activities or divestiture of subsidiaries deemed to pose a threat to the safety and soundness of the institution. Federal Savings Institution Regulation Capital Requirements. The OTS capital regulations require savings institutions to meet three minimum capital standards: a 1.5% tangible capital ratio, a 4% leverage (core) capital ratio and an 8% risk-based capital ratio. Core capital is defined as common stockholders' equity (including retained earnings), certain noncumulative perpetual preferred stock and related surplus, and minority interests in equity accounts of consolidated subsidiaries less intangibles other than certain mortgage servicing rights and credit card relationships. The OTS regulations require that, in meeting the tangible, leverage (core) and risk-based capital standards, institutions must generally deduct investments in and loans to subsidiaries engaged in activities as principal that are not permissible for a national bank. 23 The risk-based capital standard for savings institutions requires the maintenance of total capital (which is defined as core capital and supplementary capital) to risk-weighted assets 8%. In determining the amount of risk-weighted assets, all assets, including certain off-balance sheet assets, are multiplied by a risk-weight factor of 0% to 100%, as assigned by the OTS capital regulation based on the risks OTS believes are inherent in the type of asset. The components of core capital are equivalent to those discussed earlier under the 4% leverage standard. The components of supplementary capital currently include cumulative preferred stock, long-term perpetual preferred stock, mandatory convertible securities, subordinated debt and intermediate preferred stock and, within specified limits, the allowance for loan and lease losses. Overall, the amount of supplementary capital included as part of total capital cannot exceed 100% of core capital. The OTS regulatory capital requirements also incorporate an interest rate risk component. Savings institutions with "above normal" interest rate risk exposure are subject to a deduction from total capital for purposes of calculating their risk-based capital requirements. A savings institution's interest rate risk is measured by the decline in the net portfolio value of its assets (i.e., the difference between incoming and outgoing discounted cash flows from assets, liabilities and off-balance sheet contracts) that would result from a hypothetical 200 basis point increase or decrease in market interest rates divided by the estimated economic value of the institution's assets, as calculated in accordance with guidelines set forth by the OTS. A savings institution whose measured interest rate risk exposure exceeds 2% must deduct an amount equal to one-half of the difference between the institution's measured interest rate risk and 2%, multiplied by the estimated economic value of the institution's assets. The dollar amount is deducted from an institution's total capital in calculating compliance with its risk-based capital requirement. Under the rule, there is a two quarter lag between the reporting date of an institution's financial data and the effective date for the new capital requirement based on that data. A savings institution with assets of less than $300 million and risk-based capital ratios in excess of 12% is not subject to the interest rate risk component, unless the OTS determines otherwise. The Director of the OTS may waive or defer a savings institution's interest rate risk component on a case-by-case basis. For the present time, the OTS has deferred implementation of the interest rate risk component. At December 31, 1999, the Bank met each of its capital requirements. The following table presents the Bank's capital position at December 31, 1999.
Capital Ratios ---------------- Actual Required Excess Actual Required Capital Capital Amount Percent Percent ------- -------- ------- ------- -------- (Dollars in thousands) Tangible......................... $32,473 $ 7,755 $24,718 6.28% 1.50% Core (leverage).................. 32,473 20,680 11,793 6.28% 4.00% Risk-based....................... 35,222 27,245 7,977 10.34% 8.00%
Prompt Corrective Regulatory Action. Under the OTS prompt corrective action regulations, the OTS is required to take certain supervisory actions against undercapitalized institutions, the severity of which depends upon the institution's degree of undercapitalization. Generally, a savings institution that has a total risk-based capital of less than 8% or a leverage ratio or a Tier 1 capital ratio that is less than 4% is considered to be "undercapitalized." A savings institution that has a total risk-based capital ratio less than 6%, a Tier 1 capital ratio is less than 3% or a leverage ratio that is less than 3% is considered to be "significantly undercapitalized" and a savings institution that has a tangible capital to asset ratio equal to or less than 2% is deemed to be "critically undercapitalized." Compliance with the plan must be guaranteed by any parent holding company. In addition, numerous mandatory supervisory actions become immediately applicable to the institution depending upon its category, including, but not limited to, increased monitoring by regulators and restrictions on growth, capital distributions and expansion. The OTS could also take any one of a number of discretionary supervisory actions, including the issuance of a capital directive and the replacement of senior executive officers and directors. Insurance of Deposit Accounts. Deposits of the Bank are presently insured by the SAIF. The FDIC maintains a risk-based assessment system by which institutions are assigned to one of three categories based on 24 their capitalization and one of three subcategories based on examination ratings and other supervisory information. An institution's assessment rate depends on the categories to which it is assigned. Assessment rates for SAIF member institutions are determined semiannually by the FDIC and currently range from zero basis points for the healthiest institutions to 27 basis points for the riskiest. In addition to the assessment for deposit insurance, institutions are required to pay on bonds issued in the late 1980s by the Financing Corporation ("FICO") to recapitalize the predecessor to the SAIF. During 1984, FICO payments for SAIF members approximated 6.10 basis points, while Bank Insurance Fund ("BIF"--the deposit insurance fund that covers most commercial bank deposits) members paid 1.22 basis points. By law, there will be equal sharing of FICO payments between the members of both insurance funds on the earlier of January 1, 2000 or the date the two insurance funds merge. Insurance of deposits may be terminated by the FDIC upon a finding that the institution has engaged in unsafe or unsound practices, is in an unsafe or unsound condition to continue operations or has violated any applicable law, regulation, rule, order or condition imposed by the FDIC or the OTS. The management of the Bank does not know of any practice, condition or violation that might lead to termination of deposit insurance. Thrift Rechartering Legislation. Various proposals to eliminate the federal thrift charter, create a uniform financial institutions charter and abolish the OTS have been introduced in Congress. Some bills would require federal savings institutions to convert to a national bank or some type of state charter by a specified date under some bills, or they would automatically become national banks. Under some proposals, converted federal thrifts would generally be required to conform their activities to those permitted for the charter selected and divestiture of nonconforming assets would be required over a two year period, subject to two possible one year extensions. State chartered thrifts would become subject to the same federal regulation as applies to state commercial banks. A more recent bill passed by the House Banking Committee would allow savings institutions to continue to exercise activities being conducted when they convert to a bank regardless of whether a national bank could engage in the activity. Holding companies for savings institutions would become subject to the same regulation as holding companies that control commercial banks, with some limited grandfathering, including savings and loan holding company activities. The grandfathering would be lost under certain circumstances such as a change in control of the Company. The Bank is unable to predict whether such legislation would be enacted or the extent to which the legislation would restrict or disrupt its operations. Loans-to-One Borrower. Under the HOLA, savings institutions are generally subject to the limits on loans-to-one borrower applicable to national banks. Generally, savings institutions may not make a loan or extend credit to a single or related group of borrowers in excess of 15% of its unimpaired capital and surplus. An additional amount may be lent, equal to 10% of unimpaired capital and surplus, if such loan is secured by readily-marketable collateral, which is defined to include certain financial instruments and bullion. At December 31, 1999, the Bank's limit on loans to one borrower was $5.3 million. At December 31, 1999, the Bank's largest aggregate outstanding balance of loans-to-one borrower was $1.3 million. QTL Test. The HOLA requires savings institutions to meet a QTL test. Under the QTL test, a savings association is required to maintain at least 65% of its "portfolio assets" (total assets less: (i) specified liquid assets up to 20% of total assets; (ii) intangibles, including goodwill; and (iii) the value of property used to conduct business) in certain "qualified thrift investments" (primarily residential mortgages and related investments, including certain mortgage-backed securities) in at least 9 months out of each 12 month period. A savings association that fails the QTL test must convert to a bank charter or operate under certain restrictions. As of December 31, 1999, the Bank maintained 99.99% of its portfolio assets in qualified thrift investments and, therefore, met the QTL test. Recent legislation has expanded the extent to which education loans, credit card loans and small business loans may be considered "qualified thrift investments." Limitation on Capital Distributions. OTS regulations impose limitations upon all capital distributions by savings institutions, such as cash dividends, payments to repurchase or otherwise acquire its shares, payments 25 to shareholders of another institution in a cash-out merger and other distributions charged against capital. The rule establishes three tiers of institutions, which are based primarily on an institution's capital level. An institution that exceeds all fully phased-in capital requirements before and after a proposed capital distribution ("Tier 1 Bank") and has not been advised by the OTS that it is in need of more than normal supervision, could, after prior notice but without obtaining approval of the OTS, make capital distributions during a calendar year equal to the greater of (i) 100% of its net earnings to date during the calendar year plus the amount that would reduce by one-half its "surplus capital ratio" (the excess capital over its fully phased-in capital requirements) at the beginning of the calendar year or (ii) 75% of its net income for the previous four quarters. Any additional capital distributions would require prior regulatory approval. In the event the Bank's capital fell below its regulatory requirements or the OTS notified it that it was in need of more than normal supervision, the Bank's ability to make capital distributions could be restricted. In addition, the OTS could prohibit a proposed capital distribution by any institution, which would otherwise be permitted by the regulation, if the OTS determines that such distribution would constitute an unsafe or unsound practice. At December 31, 1999, the Bank was a Tier 1 Bank. Liquidity. The Bank is required to maintain an average daily balance of specified liquid assets equal to a monthly average of not less than a specified percentage (currently 4%) of its net withdrawable deposit accounts plus short- term borrowings. Monetary penalties may be imposed for failure to meet these liquidity requirements. The Bank's average liquidity ratio for the quarter ended December, 1999 was 5.07%, which exceeded the applicable requirements. The Bank has never been subject to monetary penalties for failure to meet its liquidity requirements. Branching. OTS regulations permit nationwide branching by federally chartered savings institutions to the extent allowed by federal statute. This permits federal savings institutions to establish interstate networks and to geographically diversify their loan portfolios and lines of business. The OTS authority preempts any state law purporting to regulate branching by federal savings institutions. Transactions with Related Parties. The Bank's authority to engage in transactions with related parties or "affiliates" (e.g., any company that controls or is under common control with an institution, including the Company and its non-savings institution subsidiaries) is limited by Sections 23A and 23B of the Federal Reserve Act ("FRA"). Section 23A restricts the aggregate amount of covered transactions with any individual affiliate to 10% of the capital and surplus of the savings institution. The aggregate amount of covered transactions with all affiliates is limited to 20% of the savings institution's capital and surplus. Certain transactions with affiliates are required to be secured by collateral in an amount and of a type described in Section 23A and the purchase of low quality assets from affiliates is generally prohibited. Section 23B generally provides that certain transactions with affiliates, including loans and asset purchases, must be on terms and under circumstances, including credit standards, that are substantially the same or at least as favorable to the institution as those prevailing at the time for comparable transactions with non-affiliated companies. Enforcement. Under the FDI Act, the OTS has primary enforcement responsibility over savings institutions and has the authority to bring actions against the institution and all institution-affiliated parties, including stockholders, and any attorneys, appraisers and accountants who knowingly or recklessly participate in wrongful action likely to have an adverse effect on an insured institution. Formal enforcement action may range from the issuance of a capital directive or cease and desist order to removal of officers and/or directors to institution of receivership, conservatorship or termination of deposit insurance. Civil penalties cover a wide range of violations and can amount to $25,000 per day, or even $1 million per day in especially egregious cases. Under the FDI Act, the FDIC has the authority to recommend to the Director of the OTS enforcement action to be taken with respect to a particular savings institution. If action is not taken by the Director, the FDIC has authority to take such action under certain circumstances. Federal law also establishes criminal penalties for certain violations. Standards for Safety and Soundness. The FDI Act requires each federal banking agency to prescribe for all insured depository institutions standards relating to, among other things, internal controls, information 26 systems and audit systems, loan documentation, credit underwriting, interest rate risk exposure, asset growth, and compensation, fees , benefits and such other operational and managerial standards as the agency deems appropriate. The federal banking agencies have adopted final regulations and Interagency Guidelines Prescribing Standards for Safety and Soundness ("Guidelines") to implement these safety and soundness standards. The Guidelines set forth the safety and soundness standards that the federal banking agencies use to identify and address problems at insured depository institutions before capital becomes impaired. If the appropriate federal banking agency determines that an institution fails to meet any standard prescribed by the Guidelines, the agency may require the institution to submit to the agency an acceptable plan to achieve compliance with the standard, as required by FDI Act. The final rule establishes deadlines for the submission and review of such safety and soundness compliance plans. Federal Reserve System The Federal Reserve Board regulations require savings institutions to maintain non-interest earning reserves against their transaction accounts (primarily NOW and regular checking accounts). The Federal Reserve Board regulations generally required for 1999 that reserves be maintained against aggregate transaction accounts as follows: for accounts aggregating $44.3 million or less (subject to adjustment by the Federal Reserve Board) the reserve requirement was 3%; and for accounts aggregating greater than $44.3 million, the reserve requirement was $1.33 million plus 10% (subject to adjustment by the Federal Reserve Board between 8% and 14%) against that portion of total transaction accounts in excess of $44.3 million. The first $5.0 million of otherwise reservable balances (subject to adjustments by the Federal Reserve Board) were exempted from the reserve requirements. The Bank maintained compliance with the foregoing requirements. The balances maintained to meet the reserve requirements imposed by the Federal Reserve Board may be used to satisfy liquidity requirements imposed by the OTS. FEDERAL AND STATE TAXATION Federal Taxation General. The Company and the Bank report their income on a consolidated basis and the accrual method of accounting, and are subject to federal income taxation in the same manner as other corporations with some exceptions, including particularly the Bank's reserve for bad debts discussed below. The following discussion of tax matters is intended only as a summary and does not purport to be a comprehensive description of the tax rules applicable to the Bank or the Company. The Bank has not been audited by the IRS. For its 1999 taxable year, the Bank is subject to a maximum federal income tax rate of 35.0%. Bad Debt Reserves. For fiscal years beginning prior to December 31, 1996, thrift institutions which qualified under certain definitional tests and other conditions of the Internal Revenue Code of 1986 (the "Code") were permitted to use certain favorable provisions to calculate their deductions from taxable income for annual additions to their bad debt reserve. A reserve could be established for bad debts on qualifying real property loans (generally secured by interests in real property improved or to be improved) under (i) the Percentage of Taxable Income Method (the "PTI Method") or (ii) the Experience Method. The reserve for nonqualifying loans was computed using the Experience Method. The Small Business Job Protection Act of 1996 (the "1996 Act"), which was enacted on August 20, 1996, requires savings institutions to recapture (i.e., take into income) certain portions of their accumulated bad debt reserves. The 1996 Act repeals the reserve method of accounting for bad debts effective for tax years beginning after 1995. Thrift institutions that would be treated as small banks are allowed to utilize the Experience Method applicable to such institutions, while thrift institutions that are treated as large banks (those generally exceeding $500 million in assets) are required to use only the specific charge-off method. Thus, the PTI Method of accounting for bad debts is no longer available for any financial institution. 27 To the extent the allowable bad debt reserve balance using the thrift's historical computation method exceeds the allowable bad debt reserve method under the newly enacted provisions, such excess is required to be recaptured into income under the provisions of Code Section 481(a). Any Section 481(a) adjustment required to be taken into income with respect to such change generally will be taken into income ratably over a six-taxable year period, beginning with the first taxable year beginning after 1995, subject to the residential loan requirement. Under the residential loan requirement provision, the recapture required by the 1996 Act will be suspended for each of two successive taxable years, beginning with the Bank's current taxable year, in which the Bank originates a minimum of certain residential loans based upon the average of the principal amounts of such loans made by the Bank during its six taxable years preceding its current taxable year. Under the 1996 Act, the Bank is permitted to use the Experience Method to compute its allowable addition to its reserve for bad debts for the current year. The Bank's bad debt reserve as of December 31, 1995 was computed using the permitted Experience Method computation and was therefore not subject to the recapture of any portion of its bad debt reserve as discussed above. Distributions. Under the 1996 Act, if the Bank makes "non-dividend distributions" to the Company, such distributions will be considered to have been made from the Bank's unrecaptured tax bad debt reserves (including the balance of its reserves as of December 31, 1987) to the extent thereof, and then from the Bank's supplemental reserve for losses on loans, to the extent thereof, and an amount based on the amount distributed (but not in excess of the amount of such reserves) will be included in the Bank's income. Non- dividend distributions include distributions in excess of the Bank's current and accumulated earnings and profits, as calculated for federal income tax purposes, distributions in redemption of stock, and distributions in partial or complete liquidation. Dividends paid out of the Bank's current or accumulated earnings and profits will not be so included in the Bank's income. The amount of additional taxable income triggered by a non-dividend is an amount that, when reduced by the tax attributable to the income, is equal to the amount of the distribution. Thus, if the Bank makes a non-dividend distribution to the Company, approximately one and one-half times the amount of such distribution (but not in excess of the amount of such reserves) would be includable in income for federal income tax purposes, assuming a 35% federal corporate income tax rate. The Bank does not intend to pay dividends that would result in a recapture of any portion of its bad debt reserves. 28 ITEM 2. PROPERTIES
Original Net Book Value of Year Date of Property or Leasehold Leased or Leased or Lease Improvements at Location Owned Acquired Expiration December 31, 1999 -------- --------- --------- ---------- --------------------- Corporate Headquarters: 10540 Magnolia Avenue, Suites B & C Riverside, CA Leased 1997 2003 1,196,000 Regional Lending Center: 2600 South Parker Road, Suite 6-300 Aurora, CO Leased 1997 2000 6,000 Regional Lending Center: 8031 Philips Highway Jacksonville, FL Leased 1997 2002 3,000 Regional Lending Center: 19 Park Street Attleboro, MA Leased 1998 2003 22,000 Consumer Finance: 4110 Tigris Way Riverside, CA Owned 1996 -- 572,000 Branch Office: 1598 E Highland Avenue San Bernadino, CA Leased 1986 2001 164,000 Branch Office: 10530 Magnolia Avenue, Suite A Riverside, CA Leased 1997 2002 10,000 Branch Office: 1526 Barton Road Redlands, CA Leased 1998 2003 87,000 Branch Office: 9971 Adams Avenue Huntington Beach CA Leased 1998 2006 62,000 Branch Office: 13928 Seal Beach Blvd. Seal Beach, CA Leased 1999 2004 108,000
ITEM 3. LEGAL PROCEEDINGS In December 1999, certain shareholders of Life Financial Corporation filed a federal securities lawsuit against the Company, various officers and directors of the Company, and certain other third parties. The lawsuit was filed in the United States District Court for the Southern District of New York, and purports to assert claims against the defendants under the Securities Exchange Act of 1934 and the Securities Act of 1933. The defendants are not required to answer or otherwise respond to the Complaint until April 28, 2000. The Company intends to vigorously defend against the claims asserted in the litigation. The Company believes that the litigation will not have a material adverse impact on the results of operations or financial condition of the Company or the Bank. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None. 29 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS The Common Stock of the Company has been quoted on the Nasdaq National Market under the symbol "LFCO" since the Company's IPO on June 30, 1997. As of March 26, 2000 there were approximately 296 holders of record of the Common Stock. The following table summarized the range of the high and low closing sale prices per share of Common Stock as quoted by Nasdaq for the periods indicated.
Year Ended December 31, 1999 ----------------------------------------------- 4th Quarter 3rd Quarter 2nd Quarter 1st Quarter ----------- ----------- ----------- ----------- High...................... $4.69 $ 5.50 $ 5.63 $ 5.63 Low....................... $3.36 $ 3.81 $ 3.06 $ 3.13 Year Ended December 31, 1998 ----------------------------------------------- 4th Quarter 3rd Quarter 2nd Quarter 1st Quarter ----------- ----------- ----------- ----------- High...................... $6.06 $20.56 $25.38 $20.19 Low....................... $2.25 $ 5.00 $17.25 $10.75
ITEM 6. SELECTED FINANCIAL DATA
At December 31, --------------------------------------------------- 1999 1998 1997 1996 1995 --------- --------- --------- --------- --------- (In thousands, except per share data) Selected Balance Sheet Data: Total assets.............. $ 547,608 $ 428,078 $ 397,071 $ 101,763 $ 74,136 Securities held-to- maturity and FHLB stock.. 32,833 4,471 6,079 8,837 2,700 Loans held for sale....... 330,727 243,497 289,268 31,018 21,688 Loans held for investment............... 106,350 93,604 31,649 38,520 42,870 Allowance for estimated loan losses.............. 2,749 2,777 2,573 1,625 1,177 Residual assets at fair value.................... -- 50,296 45,352 4,691 -- Mortgage servicing rights................... 6,431 13,119 8,526 2,645 683 Deposit accounts.......... 468,859 323,433 211,765 85,711 67,535 Borrowings................ 19,373 41,477 119,170 3,278 -- Stockholders' equity...... 34,462 51,998 50,886 7,716 4,268 Book value per share (1).. $ 5.18 $ 7.92 $ 7.77 $ 2.40 $ 2.29 Shares outstanding (1).... 6,653,436 6,562,396 6,546,716 3,211,716 1,866,216 Selected Operating Data: Interest income........... $ 46,378 $ 41,104 $ 21,146 $ 6,928 $ 5,825 Interest expense.......... 25,577 22,915 12,830 3,766 3,448 --------- --------- --------- --------- --------- Net interest income....... 20,801 18,189 8,316 3,162 2,377 Provision for estimated loan losses.............. 5,382 4,166 1,850 963 1,194 --------- --------- --------- --------- --------- Net interest income after provision for estimated loans losses............. 15,419 14,023 6,466 2,199 1,183 Net gains from mortgage banking.................. 10,675 7,664 25,730 5,708 3,575 Other noninterest income (loss)................... (27,853) 6,519 1,500 760 445 Noninterest expense....... 27,485 26,419 15,990 8,681 4,389 --------- --------- --------- --------- --------- Income (loss) before income tax provision (benefit)................ (29,244) 1,787 17,706 (14) 814 Income tax provision (benefit)................ (11,405) 728 7,382 38 294 --------- --------- --------- --------- --------- Net income (loss)......... $ (17,839) $ 1,059 $ 10,324 $ (52) $ 520 ========= ========= ========= ========= ========= Basic earnings (loss) per share (2)................ $ (2.71) $ 0.16 $ 2.11 $ (0.02) $ 0.28 ========= ========= ========= ========= ========= Diluted earnings (loss) per share (2)............ $ (2.71) $ 0.16 $ 2.02 $ (0.02) $ 0.28 ========= ========= ========= ========= ========= Basic weighted average shares outstanding (2)... 6,575,189 6,554,743 4,884,993 2,370,779 1,866,216 ========= ========= ========= ========= ========= Diluted weighted average shares outstanding (2)... 6,575,189 6,805,827 5,107,951 2,370,779 1,866,216 ========= ========= ========= ========= =========
30
In the year ended and December 31, ------------------------------------------------------ 1999 1998 1997 1996 1995 ---------- ---------- -------- -------- -------- (In thousands, except per share data) Selected Financial Ratios and Other Data (3) Performance Ratios: Return on average assets................ (3.16)% 0.23% 4.19% (0.06)% 0.69% Return on average equity................ (32.13) 1.92 40.45 (0.90) 13.64 Average equity to average assets........ 9.82 12.14 10.35 6.77 5.04 Equity to total assets at end of period...... 6.29 12.15 12.82 7.58 5.76 Average interest rate spread (4)............ 3.95 3.83 3.30 3.78 3.09 Net interest margin (5)................... 4.21 4.36 3.68 3.95 3.25 Average interest- earning assets to average interest bearing liabilities... 105.01 109.81 106.65 103.64 103.50 Efficiency Ratio (6)... 757.77 80.96 44.63 88.50 67.78 Loan Originations and Purchases.............. $1,041,168 $1,180,552 $773,107 $222,553 $134,772 Bank Regulatory Capital Ratios (7): Tangible capital....... 6.28 7.21 5.38 7.57 5.68 Core capital........... 6.28 7.21 5.38 7.57 5.68 Risk-based capital..... 10.34 10.90 10.52 8.09 10.17 Asset Quality Ratios: Non-performing assets as a percent of total assets (8)............ 1.14 2.21 1.65 2.93 3.00 Allowance for estimated loan losses as a percent of non- performing loans...... 68.42 36.81 50.20 67.26 84.25
- -------- (1) Book value per share is based upon the shares outstanding at the end of each period, adjusted retroactively for a 100% stock dividend which occurred during 1996. Book value per share is then adjusted for the exchange of three shares of Company Common Stock for one share of Bank common stock in the Reorganization in 1996. (2) Earnings (loss) per share is based upon the weighted average shares outstanding during the period, adjusted retroactively for a 100% stock dividend which occurred during 1996. Earnings (loss) per share is then adjusted for the exchange of three shares of Company Common Stock for one share of Bank common stock in the Reorganization in 1996. (3) Asset Quality Ratios and Regulatory Capital Ratios are end of period ratios. With the exception of end of period ratios, all ratios are based on average daily or average month-end balances during the indicated periods. (4) The average interest rate spread represents the difference between the weighted average yield on interest-earning assets and the weighted average cost of interest-bearing liabilities. (5) The net interest margin represents net interest income as a percent of average interest-earning assets. (6) The efficiency ratio represents noninterest expense less (gain) loss on foreclosed real estate divided by noninterest income plus net interest income before provision for estimated loan losses. (7) For definitions and further information relating to the Bank's regulatory capital requirements, see "Item 1--Business--Regulation." (8) Non-performing assets consist of non-performing loans and REO. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Summary The principal business of the Bank is attracting retail deposits from the general public and investing those deposits, together with funds generated from operations and borrowings, primarily in one- to- four family residential mortgage loans. The mortgage banking business originates, purchases and sells conforming, jumbo and other non-conforming mortgage loans and other real estate secured loans in market niches which generally provide higher yields of return through a network of approved correspondent and independent mortgage brokers. The Company's originations and purchases are primarily 1st lien conforming, jumbo and other non-conforming mortgages with approximately 80% of all originations within the "A", "Alt A", and "A minus" credit categories. The Company funds substantially all of the loans which it originates or purchases through deposits, other borrowings, internally generated funds and FHLB advances. Deposit flows and cost of funds are influenced by prevailing market rates of interest primarily on competing investments, account maturities and the levels of savings in the Company's market area. The Company's ability to purchase or sell loans is influenced by the general level of product available from its correspondent and broker relationships and the willingness of investors to purchase the loans at an acceptable price to the Company. The Company's results of operations are also affected by the Company's provision for loan losses and the level of operating expenses. The Company's operating expenses primarily consist of employee compensation and benefits, premises and occupancy expenses, and other general expenses. The Company's results of operations are also affected by prevailing economic conditions, competition, government policies and actions of regulatory agencies. See "Item 1--Business-- Regulation." 31 Average Balance Sheets The following tables set forth certain information relating to the Company at December 31, 1999 and for the years ended December 31, 1998, and 1997. The yields and costs are derived by dividing income or expense by the average balance of assets or liabilities, respectively, for the periods shown. Unless otherwise noted, average balances are measured on a daily basis. The yields and costs include fees which are considered adjustments to yields.
Year Ended December 31, -------------------------------------------------------------------------------------- 1999 1998 1997 ---------------------------- ---------------------------- ---------------------------- Average Average Average Average Average Average Balance Interest Yield/Cost Balance Interest Yield/Cost Balance Interest Yield/Cost -------- -------- ---------- -------- -------- ---------- -------- -------- ---------- (Dollars in thousands) Assets: Cash and cash equivalents............ $ 21,433 $ 1,128 5.27% $ 29,268 $ 1,499 5.12% $ 9,709 $ 635 6.54% Investment securities (1).................... 16,951 959 5.66 6,267 374 5.98 8,694 496 5.70 Residual mortgage- backed securities (1).. 45,049 3,300 7.33 51,789 6,984 13.49 16,549 2,269 13.71 Loans receivable, net (2).................... 411,189 40,991 9.97 329,699 32,247 9.78 191,140 17,746 9.28 -------- ------- -------- ------- -------- ------ Total interest earning assets...... 494,622 46,378 9.38 417,023 41,104 9.86 226,092 21,146 9.35 Non-interest-earning assets (3)............ 70,483 37,708 20,471 -------- -------- -------- Total assets (3)... $565,105 $454,731 $246,563 ======== ======== ======== Passbook accounts, money mkt, and checking,...... $ 31,833 730 2.30 $ 27,069 640 2.36 $ 18,730 451 2.41 Certificate accounts.... 392,072 21,270 5.43 229,121 13,408 5.85 128,213 7,587 5.92 -------- ------- -------- ------- -------- ------ Total interest bearing deposits............... 423,905 22,000 5.19 256,190 14,048 5.48% 146,943 8,038 5.47 Loan and securities repurchase advances..... 20,145 1,088 5.40 99,368 6,168 6.21 Subordinated notes and other borrowings........ 26,955 2,489 9.23 24,198 2,699 11.15 65,046 4,792 7.37 -------- ------- -------- ------- -------- ------ Total interest-bearing liabilities............. 471,005 25,577 5.43 379,756 22,915 6.03 211,989 12,830 6.05 ------- ------- ------ Non-interest-bearing liabilities (3)....... 38,579 19,760 9,052 -------- -------- -------- Total liabilities (3)................ 509,584 399,516 221,041 Equity (3)........ 55,521 55,215 25,522 -------- -------- -------- Total liabilities and equity (3)........... $565,105 $454,731 $246,563 ======== ======== ======== Net interest income..... $20,801 $18,189 $8,316 ======= ======= ====== Net interest rate spread (4)..................... 3.95% 3.83% 3.30% Net interest margin (5)..................... 4.21% 4.36% 3.68% Ratio of interest- earning assets to interest-bearing liabilities............. 105.01% 109.81% 106.65%
- ---- (1) Includes unamortized discounts and premiums and certificates of deposit. (2) Amount is net of deferred loan origination fees, unamortized discounts, premiums and allowance for estimated loan losses and includes loans held for sale and non-performing loans. See "Business--Lending Overview." (3) Average balances are measured on a month-end basis. (4) Net interest rate spread represents the difference between the yield on interest-earning assets and the cost of interest-bearing liabilities. (5) Net interest margin represents net interest income divided by average interest-earning assets. 32 Rate/Volume Analysis. The following table presents the extent to which changes in interest rates and changes in the volume of interest-earning assets and interest-bearing liabilities have affected the Company's interest income and interest expense during the periods indicated. Information is provided in each category with respect to: (i) changes attributable to changes in volume (changes in volume multiplied by prior rate); (ii) changes attributable to changes in rate (changes in rate multiplied by prior volume); and (iii) the net change. The changes attributable to the combined impact of volume and rate have been allocated proportionately to the changes due to volume and the changes due to rate.
Year Ended Year Ended December 31, December 31, 1998 1999 Compared to Year Compared to Year Ended Ended December 31, 1998 December 31, 1997 ------------------------- ------------------------ Increase (decrease) Increase (decrease) due to due to ------------------------- ------------------------ Average Average Volume Rate Net Volume Rate Net ------- ------- ------- ------- ------ ------- (Dollars in thousands) Interest earning assets: Interest earning deposits and short term investments............ $ (415) $ 46 $ (369) $ 1,029 $ (165) $ 864 Investment securities... 603 (19) 584 (144) 22 (122) Residual mortgage-backed securities............. (817) (2,867) (3,684) 4,753 (38) 4,715 Loans receivable, net (1)................ 8,113 631 8,744 13,497 1,004 14,501 ------- ------- ------- ------- ------ ------- Total interest earning assets............... 7,484 (2,209) 5,275 19,135 823 19,958 Interest bearing liabilities: Passbook accounts....... 9 (13) (4) 70 71 141 Money market accounts... 84 (21) 63 7 11 18 Checking accounts....... 40 (8) 32 120 (90) 30 Certificate accounts.... 8,761 (899) 7,862 5,912 (91) 5,821 Borrowings.............. (5,841) 551 (5,290) 4,202 (127) 4,075 ------- ------- ------- ------- ------ ------- Total interest bearing deposits............. 3,053 (390) 2,663 10,311 (226) 10,085 ------- ------- ------- ------- ------ ------- Change in net interest income................... $ 4,431 $(1,819) $ 2,612 $ 8,824 $1,049 $ 9,873 ======= ======= ======= ======= ====== =======
- -------- (1) Includes interest on loans held for sale. Comparison of Operating Results for the Year Ended December 31, 1999 and December 31, 1998 General For the year ended December 31, 1999 the Company reported a net loss of $17.8 million or $2.71 per share, compared to net income of $1.1 million or $0.16 per diluted share, for the year ended December 31, 1998. The decrease in net income was the result of three primary factors. The sale of the Parent Company's residual mortgage-backed securities related to three remaining securitizations resulted in a one-time after tax charge of approximately $16.8 million. A lower of cost or market reserve was recorded in the amount of $3 million against the Company's held-for-sale loan portfolio. Additionally, the Company provided an additional $2.7 million for loan losses in the fourth quarter. Interest Income Interest income for the year ended December 31, 1999 was $46.4 million, compared to $41.1 million for the year ended December 31, 1998. The increase of $5.3 million, or 12.9%, is due to an increase in average balance of interest-earning assets, partially offset by a lower realized yield on the Company's residual mortgage backed securities. Interest income on loans receivable increased $8.8 million to $41.0 million for the year ended December 31, 1999 from $32.2 million for the year ended December 31, 1998. The increase in interest income was primarily the result of an $81.5 million increase in average loans receivable. 33 Interest Expense Interest expense for the year ended December 31, 1999 was $25.6 million, compared to $22.9 million for the year ended December 31, 1998. The $2.7 million increase reflects $91.3 million higher average interest-bearing liabilities to support the growth in the company's assets. The increase in retail deposits over wholesale deposits coupled with increased usage of the FHLB line of credit resulted in a decrease in the average cost of interest- bearing liabilities to 5.43% for the year ended December 31, 1999 compared to 6.03% for the year ended December 31, 1998. Net Interest Income Net interest income was $20.8 million for the year ended December 31, 1999, compared to $18.2 million for the year ended December 31, 1998. The increase in net interest income is reflective of higher average assets combined with lower cost of funds from increased retail deposits, resulting in higher net interest margins for the period. The Bank's net interest margin for the year ending December 31, 1999 was 4.21% compared to 4.36% for the year earlier period. Provision for Estimated Loan Losses The provision for loan losses increased from $4.2 million for year ended December 31, 1998 to $5.4 million for the year ended December 31, 1999. The 29.2% increase over the previous year reflects a change in the Company's loan loss reserve policy primarily based on actual experience of charge-offs and recoveries related to the Company's high loan-to-value 2nd trust and sub-prime 1st trust mortgage product. The Company exited the 125% loan-to-value 2nd trust mortgage business in the fourth quarter of 1998. At December 31, 1999, the Company owned $76.1 million of 2nd trust mortgage products with loan-to-values in excess of 90%. Non-Interest Income (Loss) Non-interest income (loss) was ($17.2) million for the year ended December 31, 1999, compared to $14.2 million for the year ended December 31, 1998. Eliminating the one-time charge of $34.0 million related to the sale of the Company's residual mortgage-backed securities and related mortgage servicing rights, non-interest income would have been $16.8 million for the year ended December 31, 1999. The Company sold its remaining residual mortgage-backed securities retained from securitization and related servicing rights for an amount valued at $19.3 million in cash and other consideration. The transaction, which was executed on December 31, 1999, includes the Company's remaining residual securities and mortgage servicing for the following securitizations: LIFE Financial Home Loan Owner Trust 1997-2, LIFE Financial Home Loan Owner Trust 1997-3, and LIFE Bank Asset Backed Certificates, Series 1998-1. Additionally, the Company provided a reserve of $3.0 million against the held-for-sale loan portfolio to adjust the value to the lower of cost or market. The reserve is related to certain sub- and non-performing loans. The reserve was established in conjunction with review of the age, composition and specific performance of the Company's available-for-sale loans. Non-Interest Expense Noninterest expense for the year ended December 31, 1999 was $27.4 million compared to $26.4 million for the year ended December 31, 1998. The $1.0 million increase in expense was a combination of premises and occupancy expense associated with the expansion of branch facilities and a contractual one-time severance payment made during the third quarter of 1999. 34 Income Taxes The provision for income taxes decreased to a credit (tax receivable) of $11.4 million for the year ended December 31, 1999 compared to $728 thousand expense for the year ended December 31, 1998. Income before income tax provision decreased to ($29.2) million for the year ended December 31, 1999 compared to $1.8 million for the year ended December 31, 1998 primarily due to the loss associated with the sale of the Company's residual mortgage-backed securities. The effective tax rate decreased to 39.0% for the year ended December 31, 1999 compared to 40.7% for the year ended December 31, 1998. Comparison of Financial Condition at December 31, 1999 and December 31, 1998 Total assets of the Company and the Bank were $547.6 million at December 31, 1999 compared to $428.1 million at December 31, 1998. The 27.9% increase in total assets of the Company was primarily the result of a 30% or $100 million increase in the loan portfolio partially offset by a reduction in the Company's investment securities due to the sale of the residual mortgage-backed securities. Total Bank deposits at December 31, 1999 were $468.9 million compared to $323.4 million at December 31, 1998. The 44.9% increase in deposits is the result of growth of 137.0% in the Bank's retail deposits. During 1999, the Bank's strategy focused heavily on increasing retail and core deposits to reduce reliance on wholesale certificates of deposit and other borrowings. Core deposits during the year grew from $26.5 million at December 31, 1998 to $37.5 million at December 31, 1999, an increase of 38.4%. Additionally, the ratio of retail deposits to total deposits increased to 52.4% for the period ended December 31, 1999, compared to 33.0% at December 31, 1998. The cost of the Bank's retail deposits at December 31, 1999 was 5.33% versus 4.73% for the year earlier period. The allowance for loan losses was $2.7 million at December 31, 1999, compared to $2.8 million at December 31, 1998. The December 31, 1999 allowance for loan losses as a percent of non-performing loans was 68.4%, not inclusive of the $3.0 million lower-of-cost-or-market reserve, compared to 36.8% at December 31, 1998. The Bank's net credit loss rate for the year ended December 31, 1998 was 1.31% versus 1.22% for the year earlier period. LIFE Bank's 30+ day delinquency rate at December 31, 1999 was 1.96%, compared to 5.41% at December 31, 1998. The reduced delinquency rate was the result of the sale of sub- and non-performing loans held in the Bank's investment and available-for- sale loan portfolios. Comparison of Operating Results for the Year Ended December 31, 1998 and December 31, 1997 General For the year ended December 31, 1998 the Company recorded net income of $1.1 million compared to $10.3 million for the year ended December 31, 1997. The basic and diluted earnings per share for the year ended December 31, 1998 were $0.16 and $0.16, respectively, compared to $2.11 and $2.02 respectively, for the year ended December 31, 1997. The decrease in net income was due to write- downs of residual mortgage-backed securities and mortgage servicing rights, an increase to the provision for loan losses, as well as a lower of cost or market adjustment related to the transfer of loans from Loans Held for Sale to Loans Held for Investment. Interest Income Interest income for the year ended December 31, 1998 was $41.1 million, compared to $21.1 million for the year ended December 31, 1997, due to an increase in the average balance of interest earning assets, combined with an increase in the yield on those assets. Average interest earning assets increased to $417.0 million for the year ended December 31, 1998 compared to $226.1 million for the year ended December 31, 1997. The yield on interest earning assets increased to 9.86% for the year ended December 31, 1998 compared to 9.35% for the year ended December 31, 1997. The largest single component of interest earning assets was average loans receivable, net, which were $329.7 million with a yield of 9.78% for the year ended December 31, 1998 compared to $226.1 million with a yield of 9.35% for the year ended December 31, 1997. The increase in the average balance of loans receivable was attributable to growth of the Company's mortgage financing operations. 35 Interest Expense For the year ended December 31, 1998, interest expense was $22.9 million, compared to $12.8 million for the year ended December 31, 1997 due to an increase in the average balance of interest bearing liabilities combined with a slight decrease in the cost of those liabilities. Average interest bearing liabilities were $379.8 million at an average cost of 6.03% for the year ended December 31, 1998 compared to $212.0 million at an average cost of 6.05% for the year ended December 31, 1997. The largest component of average interest bearing liabilities was certificate accounts, which averaged $229.1 million with an average cost of 5.85% compared to $128.2 million with an average cost of 5.92% for the year ended December 31, 1997. The second largest component of interest bearing liabilities is borrowings, which increased to an average balance of $123.6 million with an average cost of 7.18% for the year ended December 31, 1998 compared to $65.0 million with an average cost of 7.37% for the year ended December 31, 1997. During 1998, increased borrowings include two warehouse lines of credit in the amount of $375.0 million which are indexed to LIBOR. In addition, the Company entered into a residual financing line of credit in the amount of $40.0 million, which is also indexed to LIBOR. In the fourth quarter of 1998, the Company entered into a $10 million revolving line of credit to pay off certain subordinated debentures. Net Interest Income Before Provision for Estimated Loan Losses Net interest income before provision for estimated loan losses for the year ended December 31, 1998 was $18.2 million compared to $8.3 million for the year ended December 31, 1997. This increase was the net effect of an increase in average interest earning assets and average interest bearing liabilities, as well as an increase in the ratio of interest earning assets to interest bearing liabilities. Average interest earning assets increased to $417.0 million for the year ended December 31, 1998 compared to $226.1 million for the year ended December 31, 1997. Average interest bearing liabilities increased to $379.8 million with an average cost of 6.03% for the year ended December 31, 1998 compared to $212.0 million with an average cost of 6.05% for the year ended December 31, 1997. The ratio of interest earning assets to interest bearing liabilities was 109.81% for the year ended December 31, 1998 compared to 106.65% for the year ended December 31, 1997. Provision for Estimated Loan Losses Provision for estimated loan losses was $4.2 million for the year ended December 31, 1998 compared to $1.9 million for the year ended December 31, 1997. The increase in provision was based on an evaluation of the composition of the Company's loan portfolio and an increase in non-performing loans. Charge offs net of recoveries for the year ended December 31, 1998 were $4.0 million compared to $902,000 for the year ended December 31, 1997. The Company had non- accrual loans at December 31, 1998 of $7.5 million, compared to $5.1 million at December 31, 1997. Management believes that the allowance for loan losses at December 31, 1998 was adequate to absorb known and inherent risks in the Company's loan portfolio. No assurance can be given, however, that economic conditions which may adversely affect the Company's or the Bank's service areas or other circumstances will not be reflected in increased losses in the loans portfolio. In addition, regulatory agencies, as an integral part of their examination process, periodically review the Bank's allowance for loan losses. Such agencies may require the Bank to recognize additions to the allowance or to take charge-offs (reductions in the allowance) in anticipation of losses. See "Item 1--Business--Lending Overview--Delinquencies and Classified Assets" and "--Lending Overview--Allowance for Loan Losses." Non-Interest Income For the year ended December 31, 1998, net gains from mortgage financing operations totaled $7.7 million compared to $25.7 million for the year ended December 31, 1997. The 1998 net gain includes a pre-tax unrealized loss of $16.6 million, due to an adjustment to the valuation of the residual assets as a result of the higher-than-estimated prepayment speeds and credit losses. See "Item 1--Business-Asset Securitizations." There was an overall increase in the level of mortgage financing operations, with loans sold or securitized 36 totaling $1.1 billion for the year ended December 31, 1998 compared to $510.1 million for the year ended December 31, 1997. This increase in percentage reflected the effects of the securitization of loans compared to whole loan sales. During the year ended December 31, 1998, loans securitized represented 43.1% of loan sales and securitizations, while during the year ended December 31, 1997, loans securitized represented 81.5% of loan sales and securitizations. Loans originated and purchased totaled $1.2 billion for the year ended December 31, 1998 compared to $773.1 million for the year ended December 31, 1997. Non-Interest Expense For the year ended December 31, 1998, non-interest expense was $26.4 million compared to $16.0 million for the year ended December 31, 1997. The increase was due primarily to an increase in compensation and benefits and other operating expenses resulting from the expansion of the mortgage financing operations. New loans originated and purchased totaled $1.2 billion for the year ended December 31, 1998 compared to $773.1 million for the year ended December 31, 1997. For the year ended December 31, 1998, compensation and benefits were $11.6 million compared to $9.2 million for the year ended December 31, 1997. These costs are directly related to the expansion of the mortgage financing operations and the corresponding increase in personnel, to an average of 310 for the year ended December 31, 1998 compared to 230 for the year ended December 31, 1997. Premises and occupancy expenses were $3.4 million for the year ended December 31, 1998 compared to $1.4 million for the year ended December 31, 1997 due to the expansion of the mortgage financing operation and the addition of the regional operating centers in the Boston, Massachusetts and San Jose, California metropolitan areas, the addition of five low cost retail lending offices in California, and the opening of two new retail Bank branches in Redlands, and Huntington Beach, California. As a result of the expansion of the mortgage financing operations, other operating expenses increased as well. Data processing increased to $1.5 million for the year ended December 31, 1998 compared to $809,000 for the year ended December 31, 1997. Marketing, telephone, professional services and other expenses were $2.4 million, $1.4 million, $1.6 million and $4.2 million, respectively, for the year ended December 31, 1998 compared to $301,000, $650,000, $467,000 and $3.0 million for the year ended December 31, 1997. Other expense for the year ended December 31, 1998 included a write down of the servicing asset in the amount of $1.2 million. This write down is the result of an increase in prepayment speeds on adjustable rate mortgage loans which are being serviced by the Company for other investors. Management performs a quarterly analysis of the Company's servicing assets and believes that the servicing assets are properly valued at December 31, 1998. Income Taxes The provision for income taxes decreased to $728,000 for the year ended December 31, 1998 compared to $7.4 million for the year ended December 31, 1997. Income before income tax provision decreased to $1.8 million for the year ended December 31, 1998 compared to $17.7 million for the year ended December 31, 1997. The effective tax rate decreased to 40.7% for the year ended December 31, 1998 compared to 41.7% for the year ended December 31, 1997. Comparison of Financial Condition at December 31, 1998 and December 31, 1997 Total assets increased to $428.1 million as of December 31, 1998 compared to $397.1 million as of December 31, 1997. Loans held for sale totaled $243.5 million as of December 31, 1998 compared to $289.3 million as of December 31, 1997. This decrease was partially offset by a increase in loans held for investment to $90.8 million as of December 31, 1998 compared to $29.1 million as of December 31, 1997. During the year ended December 31, 1998 and 1997, the Company sold or securitized $1.1 billion of loans (including $610.5 million in whole loan sales) and sold or securitized $510.1 million of loans (including $94.7 million in whole loan sales), respectively. The increase in loans held for sale also resulted in an increase in accrued interest receivable to $2.8 million as of December 31, 1998 compared to $2.6 million as of December 31, 1997. 37 As a result of the Company's loan securitization activities, residual mortgage-backed securities increased to $50.3 million as of December 31, 1998 compared to $45.4 million as of December 31, 1997. Mortgage servicing rights also increased to $13.1 million as of December 31, 1998 compared to $8.5 million as of December 31, 1997 as a result of the securitization and whole loan sales with servicing retained. Cash and cash equivalents were $8.2 million as of December 31, 1998 compared to $3.5 million as of December 31, 1997. During the year ended December 31, 1998, the Company invested in leasehold improvements on the new servicing department area as well as adding the Attleboro, Massachusetts and San Jose regional lending centers and two new retail banking branches in California increasing premises and equipment to $7.1 million as of December 31, 1998 compared to $4.8 million as of December 31, 1997. Real estate owned increased to $1.9 million as of December 31, 1998 compared to $1.4 million as of December 31, 1997 as part of the Company's continuing effort to resolve problem loans. The Company increased its liabilities by increasing deposit accounts to $323.4 million as of December 31, 1998 compared to $211.8 million as of December 31, 1997. The major component of deposit accounts is certificates of deposit, which increased to $297.0 million as of December 31, 1998 compared to $193.8 million as of December 31, 1997. The additional funds were used to fund loans held for investment during the year ended December 31, 1998. The Company also increased its use of FHLB advances and other borrowings to fund loans held for sale. During 1998, the Company increased its two warehouse lines of credit from a combined credit limit of $250.0 million. to $375.0 million. During 1998, an additional line of credit was added with a credit limit of $10.0 million. The availability of such borrowings permits the Company to access sufficient cash to originate and hold loans pending securitization or sale and to thereafter repay the lines of credit following securitization or sale of the loans. Other borrowings decreased to $40.0 million as of December 31, 1998 compared to $100.2 million as of December 31, 1997, while FHLB advances were zero as of December 31, 1998 and were $9.0 million as of December 31, 1997. Interest rates on the warehouse lines of credit range between LIBOR plus 50 basis points to LIBOR plus 100 basis points, while the residual financing line of credit has an interest rate of LIBOR plus 235 basis points. During the year ended December 31, 1997 the Bank issued $10.0 million in subordinated debentures in order to increase its risk based capital.. The subordinated debentures have a coupon rate of 13.5%. During 1998, these debentures were transferred to the Company. As of September 30, 1998, holders exercised their option to have the Company purchase $8.5 million of Debentures. On December 14, 1998, $8.5 million of these debentures were redeemed. Stockholders' equity increased to $52.0 million as of December 31, 1998 compared to $50.9 million as of December 31, 1997 due to net income of $1.1 million. Management of Interest Rate Risk The principal objective of the Company's interest rate risk management function is to evaluate the interest rate risk included in certain balance sheet accounts, determine the level of appropriate risk given the Company's business focus, operating environment, capital and liquidity requirements and performance objectives and manage the risk consistent with Board approved guidelines through the establishment of prudent asset concentration guidelines. Through such management, management of the Company seeks to reduce the vulnerability of the Company's operations to changes in interest rates. Management of the Company monitors its interest rate risk as such risk relates to its operational strategies. The Company's Board of Directors reviews on a quarterly basis the Company's asset/liability position, including simulations of the effect on the Company's capital of various interest rate scenarios. The extent of the movement of interest rates, higher or lower, is an uncertainty that could have a negative impact on the earnings of the Company. Between the time the Company originates loans and purchase commitments are issued, the Company is exposed to both upward and downward movements in interest rates which may have a material adverse effect on the Company. The Board of Directors of the Company recently implemented a hedge management policy 38 primarily for the purpose of hedging the risks associated with loans held for sale in the Company's mortgage pipeline. In a flat or rising interest rate environment, this policy enables management to utilize mandatory forward commitments to sell fixed rate assets as the primary hedging vehicles to shorten the maturity of such assets. In a declining interest rate environment, the policy enables management to utilize put options. The hedge management policy also permits management to extend the maturity of its liabilities through the use of short financial futures positions, purchase of put options, interest rate caps or collars, and entering into "long" interest rate swap agreements. Management may also utilize "short" interest rate swaps to shorten the maturity of long-term liabilities when the net cost of funds raised by using such a strategy is attractive, relative to short-term CD's or borrowings. Management is continuing to evaluate and refine its hedging policies. No hedging positions were outstanding at December 31, 1999. Net Portfolio Value. The Bank's interest rate sensitivity is monitored by management through the use of a model which estimates the change in net portfolio value ("NPV") over a range of interest rate scenarios. NPV is the present value of expected cash flows from assets, liabilities and off-balance sheet contracts. An NPV Ratio, in any interest rate scenario, is defined as the NPV in that scenario divided by the market value of assets in the same scenario. The sensitivity measure is the decline in the NPV Ratio, in basis points, caused by a 2% increase or decrease in rates, whichever produces a larger decline (the "Sensitivity Measure"). The higher an institution's Sensitivity Measure is, the greater its exposure to interest rate risk is considered to be. The Bank utilizes a market value model prepared by the OTS (the "OTS NPV model"), which is prepared quarterly, based on the Bank's quarterly Thrift Financial Reports filed with the OTS. The OTS NPV model measures the Bank's interest rate risk by estimating the Bank's NPV, which is the net present value of expected cash flows from assets, liabilities and any off-balance sheet contracts, under various market interest rate scenarios which range from a 300 basis point increase to a 300 basis point decrease in market interest rates. The OTS has incorporated an interest rate risk component into its regulatory capital rule. Under the rule, an institution whose Sensitivity Measure in the event of a 200 basis point increase or decrease in interest rates exceeds 2% would be required to deduct an interest rate risk component in calculating its total capital for purpose of the risk-based capital requirement. See "Item 1--Business--Regulation--Federal Savings Institution Regulation." As of December 31, 1999, the most recent date for which the relevant data is available, the Bank's Sensitivity Measure, as measured by the OTS, resulting from a 200 basis point increase in interest rates was 146 basis points and would result in a $9.2 million reduction in the NPV of the Bank. The OTS has postponed indefinitely the date the component will first be deducted from an institution's total capital. See "Item 1--Business--Federal Savings Institution Regulation." The following table shows the NPV and projected change in the NPV of the Bank at December 31, 1999 assuming an instantaneous and sustained change in market interest rates of 100, 200, and 300 basis points ("bp"). Interest Rate Sensitivity of Net Portfolio Value (NPV)
Net Portfolio Value NPV as % of Portfolio - ------------------------------------------- Value of Assets Change in Rates $ Amount $ Change % Change NPV Ratio % Change (BP) - --------------- -------- -------- -------- --------- --------------------- +300 BP 42,366 (16,987) -29% 8.15% -277 BP +200 BP 50,114 (9,239) -16% 9.46% -146 BP +100 BP 55,810 (3,544) -6% 10.38% -54 BP Static 59,353 10.92% -100 BP 61,704 2,351 4% 11.25% +34 BP -200 BP 65,036 5,683 10% 11.74% +82 BP -300 BP 69,916 10,563 18% 12.46% +154 BP
Certain shortcomings are inherent in the methodology used in the above interest rate risk measurements. Modeling changes in NPV requires the making of certain assumptions that may tend to oversimplify the manner in which actual yields and costs respond to changes in market interest rates. First, the models assume that the composition of the Bank's interest sensitive assets and liabilities existing at the beginning of a period remains constant over the period being measured. Second, the models assume that a particular change in 39 interest rates is reflected uniformly across the yield curve regardless of the duration to maturity or repricing of specific assets and liabilities. Third, the model does not take into account the impact of the Bank's business or strategic plans on the structure of interest-earning assets and interest- bearing liabilities. Although the NPV measurement provides an indication of the Bank's interest rate risk exposure at a particular point in time, such measurement is not intended to and does not provide a precise forecast of the effect of changes in market interest rates on the Bank's net interest income and will differ from actual results. Liquidity and Capital Resources The Company's primary sources of funds are deposits, FHLB advances, other borrowings, principal and interest payments on loans, cash proceeds from the sale of loans, and to a lesser extent, interest payments on investment securities and proceeds from the maturation of investment securities. While maturities and scheduled amortization of loans are a predictable source of funds, deposit flows and mortgage prepayments are greatly influenced by general interest rates, economic conditions and competition. However, the Bank has continued to maintain the required minimum levels of liquid assets as defined by OTS regulations. This requirement, which may be varied at the direction of the OTS depending upon economic conditions and deposit flows, is based upon a percentage of deposits and short-term borrowings. The required ratio is currently 4%. The Bank's average liquidity ratios were 5.70%, 7.04%, and 10.4% for the years ended December 31, 1999, 1998 and 1997, respectively. The Company's most liquid assets are cash and short-term investments. The levels of these assets are dependent on the Company's operating, financing, lending and investing activities during any given period. At December 31, 1999, cash and short-term investments totalled $20.3 million. The Company has other sources of liquidity if a need for additional funds arises, including the utilization of FHLB advances. At December 31, 1999, the Bank had no advances outstanding from the FHLB. Other sources of liquidity include investment securities maturing within one year. The Bank also has a warehouse line of credit available in the amount of $250.0 million of which zero had been drawn upon at December 31, 1999. The Company has a $10 million revolving line of credit of which $2.5 million has been drawn upon at December 31, 1999. The OTS capital regulations requires savings institutions to meet three minimum capital requirements: a 1.5% tangible capital ratio, a 3.0% leverge (core capital) ratio, and an 8.0% risk-based capital ratio. At December 31, 1999, the Bank exceeded all of its regulatory capital requirements and was therefore considered "well capitalized". See "Item 1--Regulation--Federal Savings Institution Regulation--Capital Requirements." The Company had no material contractual obligations or commitments for capital expenditures at December 31, 1999. At December 31, 1999 the Company had $8.4 million outstanding commitments to originate or purchase mortgage loans compared to $11.0 million at December 31, 1998. The Company anticipates that it will have sufficient funds available to meet its current and anticipated loan origination commitments. Certificates of deposit which are scheduled to mature in one year or less from December 31, 1999, totalled $428.0 million. The Company expects that a substantial portion of the maturing certificates of deposit will be retained by the Company at maturity. Impact of Inflation and Changing Prices The Consolidated Financial Statements and Notes thereto presented herein have been prepared in accordance with Generally Accepted Accounting Principles ("GAAP"), which require the measurement of financial position and operating results in terms of historical dollar amounts without considering the changes in the relative purchasing power of money over time due to inflation. The impact of inflation is reflected in the increased cost of the Company's operations. Unlike industrial companies, nearly all of the assets and liabilities of the Company are monetary in nature. As a result, interest rates have a greater impact on the Company's performance than do the effects of general levels of inflation. Interest rates do not necessarily move in the same direction or to the same extent as the price of goods and services. 40 Impact of New Accounting Standards In June 1998, the Financial Accounting Standards Board ("FASB") issued SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities. This statement establishes accounting and reporting for derivative instruments, including certain derivative instruments embedded in other contracts, and hedging activities. It requires that an entity recognize all derivatives as either assets or liabilities in the balance sheet and measure those derivatives at fair value. The accounting for gains and losses resulting from changes in the value of those derivatives will depend on the intended use of the derivative and whether it qualifies for hedge accounting. On June 23, 1999, the FASB voted to approve a proposal to delay the effective date of SFAS No. "133" to fiscal years beginning after June 15, 2000 (calendar year 2001 for the Company). The adoption of this standard is not expected to have a material effect on the Company's financial condition, results of operations and cash flows. 41 Quantitative and Qualitative Disclosures about Market Risk The following table provides information regarding the Company's primary categories of assets and liabilities which are sensitive to changes in interest rates for the years ended December 31, 1999 and 1998. The information presented reflects the expected cash flows of the primary categories by year including the related weighted average interest rate. The cash flows for loans and mortgage-backed securities are based on maturity date and are adjusted for expected prepayments which are based on historical and current market information. The loans and mortgage-backed securities which have adjustable rate features are presented in accordance with their next interest-repricing date. Cash flow information on interest-bearing liabilities such as passbooks, NOW accounts and money market accounts also is adjusted for expected decay rates which are based on historical information. Also, for purposes of cash flow presentation, premiums or discounts on purchased assets, mark-to-market adjustments and loans on non-accrual are excluded from the amounts presented. Investment securities are presented as to maturity date as are all certificates of deposit and borrowings.
Year 1 Year 2 Year 3 Year 4 Year 5 Thereafter At December 31, 1999 ------ ------ ------ ------ ------ ---------- (Dollars in thousands) Selected Assets: Investments and Fed Funds................. $ 32,955 $ -- $ -- $ -- $ 150 $ -- Average interest rates................. 3.89% 0.00% 0.00% 0.00% 0.00% 0.00% Mortgage-backed securities............ Adjustable Rate...... $ 6 $ -- $ -- $ -- $ -- $ -- Average Interest Rate................ 6.63% 0.00% 0.00% 0.00% 0.00% 0.00% Loans--fixed rate...... $ 841 $ 376 $ 982 $1,466 $ 105 $205,096 Average interest rate.................. 7.41% 17.23% 17.09% 15.71% 17.23% 11.26% Loans--adjustable rate.................. $146,845 $55,533 $43,631 $1,664 $1,790 $ 229 Average interest rate.................. 9.44% 9.62% 9.72% 9.90% 8.81% 9.56% Participation Contract.............. -- -- 4,350 3,446 2,589 7,579 Average interest rate.................. 15.00% 15.00% 15.00% 15.00% 15.00% 15.00% Mortgage Servicing Rights................ $ 2,820 $ 1,803 $ 1,047 $ 582 $ 335 $ 422 Average Interest Rate.................. 13.50% 13.50% 13.50% 13.50% 13.50% 13.50% Selected Liabilities: Interest-bearing NOW passbook and MMDA's... $ 7,505 $ 6,004 $ 4,803 $3,843 $3,074 $ 12,296 Average interest rate.................. 1.94% 1.94% 1.94% 1.94% 1.94% 1.94% Certificates of deposit................ $427,954 $ 1,861 $ 379 $ 202 $ 73 $ 863 Average interest rate... 5.86% 6.09% 6.19% 5.67% 7.38% 6.40% FHLB Advances.......... $ -- $ -- $ -- $ -- $ -- $ -- Average interest rate.................. 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% Lines of Credit and Sub-Debentures........ $ 17,873 $ -- $ -- $ -- $ -- $ 1,500 Average interest rate.................. 8.48% 0.00% 0.00% 0.00% 0.00% 13.50% Year 1 Year 2 Year 3 Year 4 Year 5 Thereafter At December 31, 1998 -------- ------- ------- ------ ------ ---------- (Dollars in thousands) Selected Assets: Investments and Fed Funds................. $ 2,000 $ -- $ -- $ -- $ -- $ -- Average interest rate.................. 6.13% 0.00% 0.00% 0.00% 0.00% 0.00% Mortgage-backed securities-- Adjustable rate....... $ 8 $ -- $ -- $ -- $ -- $ -- Average interest rate.................. 7.25% 0.00% 0.00% 0.00% 0.00% 0.00% Loans--fixed rate...... $ 1,396 $ 468 $ 561 $ 657 $1,866 $213,743 Average interest rate.................. 9.18% 11.92% 15.08% 15.65% 16.35% 10.85% Loans--adjustable rate.................. $ 60,267 $41,686 $16,322 $ 587 $ -- $ -- Average interest rate.................. 9.16% 9.46% 10.18% 10.18% 0.00% 0.00% Residual mortgage- backed securities..... $ 1,610 $ 6,938 $ 8,149 $7,338 $5,761 $ 20,500 Average Interest Rate.................. 13.50% 13.50% 13.50% 13.50% 13.50% 13.50% Mortgage Servicing Rights................ $ 4,250 $ 3,186 $ 2,075 $1,326 $ 848 $ 1,434 Average Interest Rate.................. 13.50% 13.50% 13.50% 13.50% 13.50% 13.50% Selected Liabilities: Interest-bearing NOW passbook and MMDA's... $ 5,292 $ 4,233 $ 3,387 $2,709 $2,168 $ 8,820 Average interest rate.................. 2.74% 2.74% 2.74% 2.74% 2.74% 2.74% Certificates of deposit................ $291,118 $ 4,048 $ 708 $ 383 $ 139 $ 578 Average interest rate... 5.51% 5.76% 6.43% 5.94% 5.90% 6.80% Warehousing lines of credit and subordinated debentures............ $ 39,977 $ -- $ -- $ -- $ -- $ 1,500 Average interest rate.................. 7.56% 0.00% 0.00% 0.00% 0.00% 13.50%
The Company does not have any foreign exchange exposure nor any commodity exposure and therefore does not have any market risk exposure for these issues. 42 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA INDEPENDENT AUDITORS' REPORT Board of Directors and Stockholders Life Financial Corporation We have audited the accompanying consolidated statement of financial condition of Life Financial Corporation and subsidiaries (the "Company") as of December 31, 1999, and the related consolidated statements of operations, stockholders' equity, and cash flows for the year then ended. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audit. We conducted our audit in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of Life Financial Corporation and subsidiaries as of December 31, 1999, and the consolidated results of their operations and their consolidated cash flows for the year then ended, in conformity with generally accepted accounting principles. /s/ Grant Thornton LLP Irvine, California March 24, 2000 43 INDEPENDENT AUDITORS' REPORT The Board of Directors and Stockholders LIFE Financial Corporation Riverside, California We have audited the accompanying consolidated statement of financial condition of LIFE Financial Corporation and subsidiaries (the Company) as of December 31, 1998, and the related consolidated statements of operations, stockholders' equity and cash flows for each of the two years in the period ended December 31, 1998. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of LIFE Financial Corporation and subsidiaries as of December 31, 1998, and the results of their operations and their cash flows for each of the two years in the period ended December 31, 1998, in conformity with generally accepted accounting principles. /s/ DELOITTE & TOUCHE LLP COSTA MESA, CALIFORNIA March 26, 1999 44 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION As of December 31, 1999 and 1998 (dollars in thousands)
1999 1998 -------- -------- ASSETS ------ Cash and cash equivalents................................... $ 20,315 $ 8,152 Securities held to maturity, estimated fair value of $32,823 (1999) and $4,483 (1998)................................... 32,833 4,471 Residual mortgage-backed securities, at fair value.......... -- 50,296 Loans held for sale......................................... 330,727 243,497 Loans held for investment, net.............................. 103,601 90,827 Mortgage servicing rights................................... 6,431 13,119 Accrued interest receivable................................. 3,676 2,762 Foreclosed real estate--net................................. 2,214 1,898 Premises and equipment, net................................. 6,003 7,145 Current tax receivable...................................... 18,653 -- Accounts receivable, mortgage-backed securities residual sale....................................................... 10,127 -- Other assets................................................ 13,028 5,911 -------- -------- TOTAL ASSETS.............................................. $547,608 $428,078 ======== ======== LIABILITIES AND STOCKHOLDERS' EQUITY ------------------------------------ LIABILITIES: Deposit accounts.......................................... $468,859 $323,433 Other borrowings.......................................... 17,873 39,977 Subordinated debentures................................... 1,500 1,500 Accrued expenses and other liabilities.................... 24,914 11,170 -------- -------- Total liabilities......................................... 513,146 376,080 COMMITMENTS AND CONTINGENCIES (Note 12)..................... -- -- STOCKHOLDERS' EQUITY Preferred Stock, $.01 par value; 5,000,000 shares authorized; no shares outstanding.......................... -- -- Common stock, $.01 par value; 25,000,000 shares authorized; 6,653,436 (1999) and 6,562,396 (1998) shares issued and outstanding................................................ 67 66 Additional paid-in capital................................ 42,525 42,223 Retained earnings (deficit)............................... (8,130) 9,709 -------- -------- Total stockholders' equity................................ 34,462 51,998 -------- -------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY.................. $547,608 $428,078 ======== ========
See notes to consolidated financial statements. 45 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS For Each of the Three Years in the Period Ended December 31, 1999 (dollars in thousands, except per share data)
1999 1998 1997 --------- --------- --------- INTEREST INCOME: Loans....................................... $ 40,991 $ 32,247 $ 17,746 Other interest-earning assets............... 5,387 8,857 3,400 --------- --------- --------- Total interest income..................... 46,378 41,104 21,146 INTEREST EXPENSE: Interest-bearing deposits................... 22,000 14,048 8,038 Loan and securities repurchase advances..... 1,088 6,168 3,665 Subordinated debentures and other........... 2,489 2,699 1,127 --------- --------- --------- Total interest expense.................... 25,577 22,915 12,830 --------- --------- --------- NET INTEREST INCOME BEFORE PROVISION FOR ESTIMATED LOAN LOSSES........................ 20,801 18,189 8,316 PROVISION FOR ESTIMATED LOAN LOSSES........... 5,382 4,166 1,850 --------- --------- --------- NET INTEREST INCOME AFTER PROVISION FOR ESTIMATED LOAN LOSSES........................ 15,419 14,023 6,466 NONINTEREST INCOME: Loan servicing and mortgage banking fee income..................................... 4,967 5,340 959 Bank and other fee income................... 355 179 130 Net gain from mortgage banking.............. 10,675 24,214 24,210 Net gain/(loss) on residual mortgage-backed securities................................. (33,964) (16,550) 1,520 Other income................................ 789 1,000 411 --------- --------- --------- Total noninterest income (loss)........... (17,178) 14,183 27,230 NONINTEREST EXPENSE: Compensation and benefits................... 12,394 11,570 9,210 Premises and occupancy...................... 4,037 3,419 1,360 Data processing and communications.......... 1,642 1,495 809 Net loss on foreclosed real estate.......... 31 211 126 Other expense............................... 9,381 9,724 4,485 --------- --------- --------- Total noninterest expense................. 27,485 26,419 15,990 --------- --------- --------- INCOME (LOSS) BEFORE INCOME TAX PROVISION/(BENEFIT).......................... (29,244) 1,787 17,706 INCOME TAX PROVISION (BENEFIT)................ (11,405) 728 7,382 --------- --------- --------- NET INCOME (LOSS)............................. $ (17,839) $ 1,059 $ 10,324 ========= ========= ========= EARNINGS (LOSS) PER SHARE: Basic earnings (loss) per share............. $ (2.71) $ 0.16 $ 2.11 ========= ========= ========= Diluted earnings (loss) per share........... $ (2.71) $ 0.16 $ 2.02 ========= ========= ========= WEIGHTED AVERAGE SHARES OUTSTANDING: Basic earnings per share.................... 6,575,189 6,554,743 4,884,993 ========= ========= ========= Diluted earnings per share.................. 6,575,189 6,805,827 5,107,951 ========= ========= =========
See notes to consolidated financial statements. 46 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY For Each of the Three Years in the Period Ended December 31, 1999 (dollars in thousands)
Common Stock Additional Retained Total ---------------- Paid-in Earnings Stockholders' Shares Amount Capital (Deficit) Equity --------- ------ ---------- --------- ------------- Balance, January 1, 1997.................... 3,211,716 32 $ 9,358 $ (1,674) $ 7,716 Net proceeds from issuance of common stock................... 3,335,000 33 32,813 -- 32,846 Net income............... -- -- -- 10,324 10,324 --------- --- ------- -------- ------- Balance, December 31, 1997.................... 6,546,716 65 42,171 8,650 50,886 Exercise of stock options................. 15,680 1 52 -- 53 Net income............... -- -- -- 1,059 1,059 --------- --- ------- -------- ------- Balance, December 31, 1998.................... 6,562,396 66 42,223 9,709 51,998 Exercise of stock options................. 91,040 1 302 -- 303 Net income (loss)........ -- -- -- (17,839) (17,839) --------- --- ------- -------- ------- Balance, December 31, 1999.................... 6,653,436 67 $42,525 $ (8,130) $34,462 ========= === ======= ======== =======
See notes to consolidated financial statements. 47 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS For Each of the Three Years in the Period Ended December 31, 1999 (dollars in thousands)
1999 1998 1997 ----------- ----------- -------- CASH FLOWS FROM OPERATING ACTIVITIES: Net income (loss)......................... $ (17,839) $ 1,059 $ 10,324 Adjustments to reconcile net income (loss) to net cash used in operating activities: Depreciation and amortization........... 1,810 1,931 683 Provision for estimated loan losses..... 5,382 4,166 1,850 Amortization of deferred fees........... 482 (31) (26) Provision for estimated losses on foreclosed real estate................. 16 24 108 (Gain) loss on sale of foreclosed real estate................................. 842 46 (74) Gain on sale and securitization of loans held for sale.......................... (16,183) (24,214) (24,210) Net unrealized and realized losses (gains) on residual mortgage-backed securities and related mortgage servicing rights....................... 33,964 16,550 (1,520) Net accretion of residual mortgage- backed securities...................... (3,313) (6,984) (2,269) Provision for lower of cost or market... 3,000 -- -- Impairment of mortgage servicing rights................................. 2,178 0 1,281 Change in valuation allowance on mortgage servicing rights.............. (420) 1,168 0 Amortization of mortgage servicing rights................................. 4,711 2,689 958 Purchase and origination of loans held for sale, net of loan fees............. (1,012,269) (1,180,552) (773,107) Proceeds from the sales of and principal payments from loans held for sale...... 799,353 1,075,862 489,540 Increase in accrued interest receivable............................. (914) (124) (2,101) Decrease (increase) in other assets..... (15,090) 262 (11,082) (Increase) decrease in deferred income taxes.................................. (5,682) (7,961) 8,125 Increase in accrued expenses & other liabilities............................ 13,742 3,853 9,423 Federal Home Loan Bank (FHLB) stock dividend............................... (136) (99) (58) ----------- ----------- -------- Net cash used in operating activities........................... (206,366) (112,355) (292,155) CASH FLOW FROM INVESTING ACTIVITIES Net decrease in loans..................... 107,159 82,728 8,586 Principal payments on securities.......... 2 -- -- Proceeds from the sale of foreclosed real estate................................... 4,661 2,601 1,034 Purchase of securities held to maturity... (30,105) -- (2,000) Proceeds from maturities of securities held to maturity......................... 2,000 3,000 5,000 Additions to premises and equipment ...... (669) (4,020) (3,814) Purchase of FHLB stock.................... (124) (1,297) (195) Cash received on desecuritization of residual mortgage-backed securities...... 11,980 -- -- ----------- ----------- -------- Net cash provided by investing activities........................... 94,904 83,012 8,611 CASH FLOW FROM FINANCING ACTIVITIES: Net increase in deposit accounts.......... 145,426 111,668 126,054 (Repayment of) proceeds from other borrowings............................... (22,104) (60,193) 96,892 (Repayment of) proceeds from FHLB advances................................. (9,000) 9,000 Net proceeds from issuance of common stock.................................... 303 53 32,846 Net proceeds from issuance of subordinated debentures.................. -- -- 9,644 Repurchase of subordinated debentures..... -- (8,500) -- ----------- ----------- -------- Net cash provided by financing activities........................... 123,625 34,028 274,436 ----------- ----------- -------- NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS............................... 12,163 4,685 (9,108) CASH AND CASH EQUIVALENTS, beginning of year...................................... 8,152 3,467 12,575 ----------- ----------- -------- CASH AND CASH EQUIVALENTS, end of year..... $ 20,315 $ 8,152 $ 3,467 =========== =========== ======== SUPPLEMENTAL CASH FLOW DISCLOSURES: Cash paid during the year for: Interest................................ $ 26,018 $ 23,826 $ 11,298 Income taxes............................ 7,138 3,328 3,616 NONCASH INVESTING ACTIVITIES DURING THE PERIOD: Transfers from loans held for sale to loans held for investment................ $ -- $ 76,135 $ -- Transfers from loans to foreclosed real estate................................... 5,869 3,129 2,234 Loans to facilitate sales of foreclosed real estate.............................. -- 394 287 Sale of residual mortgage-backed securities and related servicing in exchange for an accounts receivable and net participation contract............... 15,121 -- --
See notes to consolidated financial statements. 48 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS For Each of the Three Years in Period Ended December 31, 1999 1. Description of Business and Summary of Significant Accounting Policies Basis of Presentation and Description of Business--The consolidated financial statements include the accounts of LIFE Financial Corporation (LIFE) and its wholly-owned subsidiaries, Life Bank (formerly Life Savings Bank, Federal Savings Bank) (the Bank), Life Investment Holdings, Inc. (Life Investment), and Life Financial Investment and Insurance Services, Inc. (Life Insurance), (collectively, the Company). All significant intercompany accounts and transactions have been eliminated in consolidation. LIFE Financial Corporation ("LIFE Financial" or "Company"), a Delaware corporation organized in 1997, is a savings and loan holding company that owns 100% of the capital stock of LIFE Bank (the "Bank"), the Company's principal operating subsidiary. The Bank was incorporated and commenced operations in 1983. The Company's primary businesses includes retail banking, mortgage banking and loan servicing. LIFE Bank is a federally chartered stock savings bank incorporated and licensed under the laws of the United States. The Bank is member of the Federal Home Loan Bank of San Francisco ("FHLB"), which is a member bank of the Federal Home Loan Bank System. Currently, the principal business of the Bank is attracting retail deposits from the general public and investing those deposits, together with funds generated from operations and borrowings, primarily in one- to four-family residential mortgage loans. At December 31, 1999, the Bank had five retail bank branches located in Orange, San Bernardino and Riverside Counties, California. The Bank opened its sixth retail bank branch in January, 2000 in Orange County, California Additionally, the Bank conducts its national mortgage banking and loan servicing business from its corporate headquarters in Riverside, California. Prior to 1999, the Company's principal business was wholesale mortgage banking. The Bank was primarily engaged in the origination of subprime residential mortgage loans with a specific emphasis in 2nd trust mortgage loans with loan-to-value ratios in excess of 125% of the appraised property value. As a result of the issuance of Thrift Bulletin 72 in late 1998, the Company eliminated the 125% loan-to-value product and focused on 1st trust mortgage loans to borrowers with non-prime credit histories. The Company sold loans through whole loan sales and securitization whereby the Company would retain the excess cash flows from each securitization transaction. Securities Held to Maturity--Investments in debt securities that management has the positive intent and ability to hold to maturity are reported at cost and adjusted for premiums and discounts that are recognized in interest income using the interest method over the period to maturity. The Company designates securities as held to maturity upon acquisition. Loans Held for Investment--The Company's real estate loan portfolio consists primarily of long-term loans secured by first and second trust deeds on single- family residences. Loans held for investment are carried at amortized cost and net of deferred loan origination fees and costs and allowance for estimated loan losses. Net deferred loan origination fees and costs on loans are amortized or accreted using the interest method over the expected lives of the loans. Amortization of deferred loan fees is discontinued for nonperforming loans. Loans held for investment are not adjusted to the lower of cost or estimated market value because it is management's intention, and the Company has the ability, to hold these loans to maturity. Interest on loans is credited to income as earned. Interest receivable is accrued only if deemed collectible. Generally, allowances are established for uncollected interest on loans on which payments are more than 90 days past due. 49 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) For Each of the Three Years in Period Ended December 31, 1999 The Company considers a loan impaired when it is probable that the Company will be unable to collect all contractual principal and interest payments under the terms of the original loan agreement. Loans are evaluated for impairment as part of the Company's normal internal asset review process. However, in determining when a loan is impaired, management also considers the loan documentation, current loan to value ratios and the borrower's current financial position. Included as impaired loans are all loans delinquent 90 days or more, all loans that have a specific loss allowance applied to adjust the loan to fair value, and foreclosures in process less than 90 days delinquent. The accrual of interest on impaired loans is discontinued after a 90-day delinquent period or when, in management's opinion, the borrower may be unable to meet payments as they become due. When the interest accrual is discontinued, all unpaid accrued interest is reversed. Interest income is subsequently recognized only to the extent cash payments are received. Where impairment is considered other than temporary, a charge-off is recorded; where impairment is considered temporary, an allowance is established. Impaired loans which are performing under the contractual terms are reported as performing loans, and cash payments are allocated to principal and interest in accordance with the terms of the loans. Allowances for Estimated Loan Losses--It is the policy of the Company to maintain an allowance for estimated loan losses at a level deemed appropriate by management to provide for known or inherent risks in the portfolio. Specific loss allowances are established for loans if the fair value of the loan or the collateral is estimated to be less than the gross carrying value of the loan. In estimating losses, management considers the estimated sales price, cost of refurbishment, payment of delinquent taxes, cost of holding the property (if an extended period is anticipated) and cost of disposal. Additionally, a general valuation allowance for loan losses has been established. Management's determination of the adequacy of the loan loss allowances is based on an evaluation of the composition of the portfolio, actual loss experience, current and prospective economic conditions, industry trends and other relevant factors in the area in which the Company's lending and real estate activities are based. These factors may affect the borrowers' ability to pay and the value of the underlying collateral. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Bank's allowance for loan losses. Such agencies may require the Bank to recognize additions to the allowance based on judgments different from those of management. Although management uses the best information available to make these estimates, future adjustments to the allowances may be necessary due to economic, operating, regulatory and other conditions that may be beyond the Company's control. Mortgage Banking and Loan Servicing Operations--The Company primarily originates mortgage loans for sale in the secondary market. At origination or purchase, mortgage loans are designated as held for sale or held for investment. Loans held for sale are carried at the lower of cost or estimated market value determined on an aggregate basis by outstanding investor commitments or current investor requirements. Cost includes related loan origination costs and fees, as well as premiums or discounts for purchased loans. Net unrealized losses, if any, are recognized in a valuation allowance by charges to operations. Any transfers of loans held for sale to the investment portfolio are recorded at the lower of cost or estimated market value on the transfer date. At December 31, 1999 and 1998, the gross principal balance of loans held for sale consists of $312,154,000 and $211,478,000, respectively, in single-family residential mortgage loans; $6,102,000 and $15,426,000, respectively, in multi-family residential mortgage loans; $6,274,000 and $9,150,000, respectively, in commercial mortgage loans; and $2,435,000 and $2,610,000, respectively, in other loans. The Company sells its loans held for sale with servicing retained and servicing released. Under the servicing agreements, the investor is paid its share of the principal collections together with interest at an agreed-upon rate, which generally differs from the loans' contractual interest rate. The loan-servicing portfolio is comprised of loans owned by the Bank and loans sold by the Bank to other investors on a servicing retained basis. 50 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) For Each of the Three Years in Period Ended December 31, 1999 At December 31, 1999, the loan servicing division serviced in excess of $1.4 billion in mortgage and consumer loans. The Company evaluates its capitalized mortgage servicing rights (MSRs) for impairment based on the fair value of those rights. The Company's periodic evaluation is performed on a disaggregated basis whereby MSRs are stratified based on type of interest rate (variable or fixed), loan type and original loan term. Impairment is recognized in a valuation allowance for each pool in the period of impairment. The Company determines fair value based on the present value of estimated net future cash flows related to servicing income. In estimating fair values at December 31, 1999 and 1998, the Company utilized a weighted average prepayment assumption of 31.8% and 26.1%, respectively, and a weighted average discount rate of 13.5% and 13.5%, respectively. The cost allocated to servicing rights is amortized in proportion to, and over the period of, estimated net future servicing fee income. In 1998, and 1997, the Company completed the securitization and sale of approximately $462.1 million, and $415.4 million, respectively, in loans in the form of mortgage pass-through certificates and recognized gains of approximately $9.3 million and $22.5 million, respectively. These certificates are held in a trust independent of the Company. The Company will act as servicer for the trust and receive a stated servicing fee. The Company has also retained a beneficial interest in the form of an interest-only strip (residual mortgage-backed security) which represents the subordinated right to receive cash flows from the pool of securitized loans after payment of the required amounts to the holders of the securities and the costs associated with the securitization. This interest-only strip receivable is classified as a trading security and recorded at fair value with any unrealized gains or losses recorded in the results of operations in the period of the change in fair value. For the years ended December 31, 1998, and 1997, net unrealized gains (losses) of ($16.6 million), and $1.5 million, respectively, resulted from changes in fair value and are also included in results of operations. Valuations at origination and at each reporting period are based on discounted cash flow analyses. The cash flows are estimated as the excess of the weighted average coupon on each pool of loans sold over the sum of the pass-through interest rate, a servicing fee, a trustee fee, an insurance fee, and an estimate of annual future credit losses related to the prepayment, default, loss, and interest rate assumptions that market participants would use for similar financial instruments subject to prepayment, credit and interest rate risk, and are discounted using an interest rate that a purchaser unrelated to the seller of such a financial instrument would demand. At origination, the Company utilized prepayment assumptions ranging from 12% to 35%, an estimated annual loss factor assumption ranging from 0.5% to 2.5%, and a discount rate of 13.5% to value residuals. At December 31, 1998, the Company utilized prepayment assumptions ranging from 7.4% to 53%, an estimated annual loss factor assumption ranging from 0.7% to 6.0%, and a discount rate of 13.5% to value residuals. The valuation includes consideration of characteristics of the loans including loan type and size, interest rate, origination date, term, and geographic location. The Company also uses other available information such as externally prepared reports on prepayment rates, collateral value, economic forecasts, and historical default and prepayment rates of the portfolio under review. To the Company's knowledge, there is no active market for the sale of residuals. The range of values attributable to the factors used in determining fair value is broad. Accordingly, the Company's estimate of fair value is subjective. In connection with the first two of its securitization transactions, the Company initially deposited cash with a trustee and will subsequently deposit a portion of the servicing spread collected on the related loans. Such amounts serve as credit enhancement for the related trust. The amounts set aside are available for distribution to investors in the event of certain shortfalls in amounts due to investors. These amounts are subject to increase 51 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) For Each of the Three Years in Period Ended December 31, 1999 up to a reserve level as specified in the related securitization documents. Cash amounts on deposit are invested in certain instruments as permitted by the related securitization documents. To the extent amounts on deposit exceed specified levels, distributions are made to the Company; and at the termination of the related trust, any remaining amounts on deposit are distributed to the Company. The gross amount on deposit at December 31, 1998 is $12.9 million and is included in residual mortgage-backed securities in the accompanying consolidated statements of financial condition at its fair value. On December 31, 1999, the Company sold its remaining residual mortgage- backed securities retained from securitization and related mortgage servicing rights for $19.3 million in cash and other consideration. The other consideration consists of a contractual right from the purchases of the residual mortgage-backed securities to receive 50% of any cash realized from the residual mortgage-backed securities (the "Participation Contract"). The Company valued the contractual right at its estimated fair value of $9.3 million at December 31, 1999. The right to receive cash flows under the contract begins after the purchaser recaptures their initial cash investment of $8.1 million and a 15% internal rate of return (the "Hurdle amount") from the transaction. Additionally, the Company entered into a credit guaranty related to a $14.6 million pool of sub-performing loans in the 1998-1A and 1B securitization whereby the Company guaranteed the difference between the December 1, 1999, unpaid principal balance and the realized value of those loans at final disposition. At December 31, 1999, the Company estimated the obligation under the credit guaranty at $4.3 million. Any proceeds paid to the purchaser under the credit guaranty will be applied to the Hurdle Amount for cash distributions on the Participation Contract. Included in other assets in the consolidated statements of financial condition at December 31, 1999 is an asset of approximately $5 million which represents the estimated fair value of the contractual right, net of the estimated credit guarantee amount. Foreclosed Real Estate--Real estate properties acquired through, or in lieu of, loan foreclosure are initially recorded at fair value at the date of foreclosure through a charge to the allowance for estimated loan losses. After foreclosure, 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 fair value less estimated cost to sell. Revenue and expenses from operations and changes in the valuation allowance are included in net loss on foreclosed real estate in the consolidated statement of operations. Premises and Equipment--Premises and equipment are stated at cost less accumulated depreciation and amortization. Depreciation and amortization are computed using both the straight-line and accelerated methods over the estimated useful lives of the assets, which range from 31 years for buildings, 15 years for leasehold improvements, 7 years for furniture, fixtures and equipment, and 3 years for computer equipment. The Company periodically evaluates the recoverability of long-lived assets, such as premises and equipment, to ensure the carrying value has not been impaired. Income Taxes--Deferred tax assets and liabilities are recorded for the expected future tax consequences of events that have been recognized in the Company's financial statements or tax returns. In estimating future tax consequences, all expected future events other than enactments of changes in the tax law or rates are considered. If necessary, a valuation allowance is established based on management's determination of the likelihood of realization of deferred tax assets. Presentation of Cash Flows--For purposes of reporting cash flows, cash and cash equivalents include cash and federal funds sold. Generally, federal funds are sold for one-day periods. At December 31, 1999, the Bank had $3.0 million in federal funds sold, compared with $0 at December 31, 1998. Use of Estimates--The preparation of the consolidated financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported 52 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) For Each of the Three Years in Period Ended December 31, 1999 amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Stock-Based Compensation--SFAS No. 123, Accounting for Stock-Based Compensation, issued in 1995, encourages companies to account for stock compensation awards based on their fair value at the date the awards are granted. SFAS No. 123 does not require the application of the fair value method and allows for the continuance of current accounting methods, which require accounting for stock compensation awards based on their intrinsic value as of the grant date. However, SFAS No. 123 requires pro forma disclosure of net income and, if presented, earnings per share, as if the fair value based method of accounting defined in this statement had been applied. The Company did not adopt the fair value accounting method in SFAS No. 123 with respect to its stock option plans and continues to account for such plans in accordance with Accounting Principles Board (APB) Opinion No. 25. Recent Accounting Developments--In June 1998, the Financial Accounting Standards Board (FASB) issued SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities. This statement establishes accounting and reporting for derivative instruments, including certain derivative instruments embedded in other contracts, and hedging activities. It requires that an entity recognize all derivatives as either assets or liabilities in the balance sheet and measure those derivatives at fair value. The accounting for gains and losses resulting from changes in the value of those derivatives will depend on the intended use of the derivative and whether it qualifies for hedge accounting. The FASB delayed the effective date of SFAS No. 133 to fiscal years beginning after June 15, 2000 (calendar year 2001 for the Company). The adoption of this standard is not expected to have a material effect on the Company's financial condition, results of operations and cash flows. Reclassifications--Certain reclassifications have been made to the 1998 and 1997 consolidated financial statements to conform to the 1999 presentation. 2. Regulatory Capital Requirements And Other Regulatory Matters The Bank is subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Bank's financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Bank must meet specific capital guidelines that involve quantitative measures of the Bank's assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The Bank's capital amounts and classification 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 require 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 (as defined) to average assets (as defined). Management believes, as of December 31, 1999 and 1998, that the Bank meets all capital adequacy requirements to which it is subject. As of December 31, 1999 and 1998, the most recent notification from the OTS 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 1 risk-based, and Tier 1 leverage ratios as set forth in the table. There are no conditions or events since December 31, 1999 that management believes have changed the Bank's category. 53 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) For Each of the Three Years in Period Ended December 31, 1999 The Bank's actual capital amounts and ratios are also presented in the table.
To be adequately To be well capitalized under capitalized under prompt corrective prompt corrective Actual action provisions action provisions: ------------- ------------------- -------------------- Amount Ratio Amount Ratio Amount Ratio ------- ----- ---------- -------- ---------- --------- (Dollars in thousands) As of December 31, 1999 Total Capital (to risk-weighted assets).............. $35,222 10.34% $ 27,245 8.00% $ 34,056 10.00% Core capital (to Adjusted tangible assets).............. 32,473 6.28% 20,680 4.00% 25,850 5.00% Tangible Capital (to tangible assets)..... 32,473 6.28% 7,755 1.50% N.A. N.A. Tier 1 capital (to risk-weighted assets).............. 32,473 9.54% N.A. N.A. 20,434 6.00% As of December 31, 1998 Total Capital (to risk-weighted assets).............. $29,952 10.90% $ 21,978 8.00% $ 27,473 10.00% Core capital (to Adjusted tangible assets).............. 27,311 7.21% 15,143 4.00% 18,928 5.00% Tangible Capital (to tangible assets)..... 27,311 7.21% 5,678 1.50% N.A. N.A. Tier 1 capital (to risk-weighted assets).............. 27,311 9.94% N.A. N.A. 16,484 6.00%
December 31, 1998 ratios were based upon quarterly average balances. December 31, 1999 ratios were calculated based upon end of period balances. Management believes that, under current regulations, the Bank will continue to meet its minimum capital requirements in the coming year. However, events beyond the control of the Bank, such as changing interest rates or a downturn in the economy in the areas where the Bank has most of its loans, could adversely affect future earnings and, consequently, the ability of the Bank to meet its future minimum capital requirements. At periodic intervals, both the OTS and the Federal Deposit Insurance Corporation (FDIC) routinely examine the Bank's financial statements as part of their legally prescribed oversight of the savings and loan industry. Based on these examinations, the regulators can direct that the Bank's financial statements be adjusted in accordance with their findings. The OTS concluded an examination of the Bank in March 1999. OTS regulations impose limitations upon all capital distributions by savings institutions, such as cash dividends, payments to repurchase or otherwise acquire its shares, payments to stockholders of another institution in a cash- out merger and other distributions charged against capital. The rule establishes three tiers of institutions, which are based primarily on an institution's capital level. An institution that exceeds all fully phased-in regulatory capital requirements before and after a proposed capital distribution and has not been advised by the OTS that it is in need of more than normal supervision, could, after prior notice to, but without the approval of the OTS, make capital distributions during a calendar year equal to the greater of: (i) 100% of its net earnings to date during the calendar year plus the amount that would reduce by one-half its "surplus capital ratio" (the excess capital over its fully phased in capital requirements) at the beginning of the calendar year; or (ii) 75% of its net earnings for the previous four quarters. Any additional capital distributions would require prior OTS approval. In the event the Bank's capital fell below its capital requirements or the OTS notified it that it was in need of more than normal supervision, the Bank's ability to make capital distributions could be restricted. In addition, the OTS could prohibit a proposed capital distribution by any institution, which would otherwise be permitted by the regulation, if the OTS determines that such distribution would constitute an unsafe or unsound practice. 54 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) For Each of the Three Years in Period Ended December 31, 1999 3. Mortgage and Other Securities The amortized cost and estimated fair value of securities held to maturity and residual mortgage-backed securities were as follows at December 31 (in thousands):
December 31, 1999 ------------------------------------------ Amortized Unrealized Unrealized Estimated Cost Gain Loss Fair Value --------- ---------- ---------- ---------- Residual mortgage-backed securities.. $ -- $ -- $ -- $ -- Securities held to maturity US Treasury and other agency securities........................ 29,955 -- 10 29,945 Mortgage-backed securities......... 5 -- -- 5 Other securities................... 2,873 -- -- 2,873 ------- ----- ----- ------- Total Securities held to maturity........................ 32,833 -- 10 32,823 ------- ----- ----- ------- $32,833 $ -- $ 10 $32,823 ======= ===== ===== ======= December 31, 1998 ------------------------------------------ Amortized Unrealized Unrealized Estimated Cost Gain Loss Fair Value --------- ---------- ---------- ---------- Residual mortgage-backed securities.. $50,296 $ -- $ -- $50,296 Securities held to maturity US Treasury and other agency securities........................ 2,000 12 -- 2,012 Mortgage-backed securities......... 8 -- -- 8 Other securities................... 2,463 -- -- 2,463 ------- ----- ----- ------- Total Securities held to maturity........................ 4,471 12 -- 4,483 ------- ----- ----- ------- $54,767 $ 12 $ -- $54,779 ======= ===== ===== =======
The weighted average interest rates on total investment securities held to maturity were 5.87% and 6.13% at December 31, 1999 and 1998, respectively. At December 31, 1999, $32.7 million of the total $32.8 million investment securities matures in one year or less. 55 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) For Each of the Three Years in Period Ended December 31, 1999 4. Loans Held for Investment Loans held for investment consisted of the following at December 31 (in thousands):
1999 1998 -------- ------- Real estate: Residential: One-to-four family...................................... $ 69,778 $82,555 Multi-family............................................ 3,749 1,954 Commercial.............................................. 5,586 5,075 Construction............................................ 52,175 8,571 Other loans: Loans secured by deposit accounts....................... 205 270 Unsecured commercial loans.............................. 43 124 Unsecured consumer loans................................ 55 341 -------- ------- Total gross loans..................................... 131,591 98,890 Less (plus): Undisbursed loan funds................................... 25,885 6,399 Deferred loan origination (costs)........................ (1,119) (1,588) Discounts................................................ 475 475 Allowance for estimated loan losses...................... 2,749 2,777 -------- ------- Loans held for investment, net............................ $103,601 $90,827 ======== =======
During 1998, the Company transferred loans with a carrying value of $76.1 million from loans held for sale to loans held for investment. In connection with this transfer, a new cost basis was established for these loans of $75.7 million. The Company grants residential and commercial loans held for investment to customers located primarily in Southern California. Consequently, a borrowers ability to repay may be impacted by economic factors in the region. The following summarizes activity in the allowance for estimated loan losses for the years ended December 31 (in thousands):
1999 1998 1997 ------- ------- ------ Balance, beginning of year....................... $ 2,777 $ 2,573 $1,625 Provision for estimated loan losses.............. 5,382 4,166 1,850 Recoveries....................................... 430 109 7 Charge-offs...................................... (5,840) (4,071) (909) ------- ------- ------ Balance, end of year............................. $ 2,749 $ 2,777 $2,573 ======= ======= ======
The Company had nonaccrual and nonperforming loans at December 31, 1999, 1998, and 1997 of $4,018,000, $7,544,000, and $5,126,000, respectively. If such loans had been performing in accordance with their original terms, the Company would have recorded interest income of $41,375,000, $33,036,000, and $18,170,000, respectively, instead of interest income actually recognized of $40,991,000, $32,247,000, and $17,746,000, respectively, for the years ended December 31, 1999, 1998, and 1997. 56 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) For Each of the Three Years in Period Ended December 31, 1999 At December 31, 1999 and 1998, the Company had impaired loans totaling $4,018,000 and $8,239,000, respectively, with related reserves of $2,019,000 and $1,320,000, respectively. During the years ended December 31, 1999, 1998, and 1997, the average recorded investment in impaired loans was $8,344,000, $7,875,000, and $3,413,000, respectively. Total cash collected on impaired loans during the years ended December 31, 1999, 1998, and 1997 was $4,834,000, $4,595,000, and $1,498,000, respectively, of which $3,996,000, $3,771,000, and $1,329,000, respectively, was credited to principal. Interest income of $838,000, $824,000, and $169,000 on impaired loans was recognized for cash payments received during the years ended December 31, 1999, 1998, and 1997, respectively. The Company is not committed to lend additional funds to debtors whose loans have been modified. The Bank is subject to numerous lending-related regulations. Under FIRREA, the Bank may not make real estate loans to one borrower in excess of 15% of its unimpaired capital and surplus except for loans not to exceed $500,000. This 15% limitation results in a dollar limitation of approximately $5,284,000 at December 31, 1999. Activity in loans to directors and executive officers during the year ended December 31 are as follows (in thousands):
1999 1998 1997 ----- ----- ----- (Dollars in thousands) Balance, beginning of year............................ $ 250 $ 413 $ -- Originations.......................................... 214 -- 778 Principal payment, loans sold......................... (464) (163) (365) ----- ----- ----- Balance, end of year.................................. $ -- $ 250 $ 413 ===== ===== =====
5. Mortgage Banking and Loan Servicing Operations Loans serviced for others at December 31, 1999, 1998, and 1997 totaled $1,382,000,000, $1,001,699,000, and $536,726,000, respectively. In connection with mortgage servicing activities, the Company held funds in trust for others totaling approximately $22,832,000 and $22,133,000 at December 31, 1999 and 1998, respectively. At December 31, 1999 and 1998, $9,635,000 and $1,326,000, respectively, of these funds are maintained in deposit accounts of the Bank (subject to FDIC insurance limits) and are included in the assets and liabilities of the Company. Although the Company sells without recourse substantially all of the mortgage loans it originates or purchases, the Company retains some degree of risk on substantially all of the loans it sells. In addition, during the period of time that the loans are held for sale, the Company is subject to various business risks associated with the lending business, including borrower default, foreclosure, and the risk that a rapid increase in interest rates would result in a decline of the value of loans held for sale to potential purchasers. In connection with its whole loan sales, the Company enters into agreements which generally require the Company to repurchase or substitute loans in the event of a breach of a representation or warranty made by the Company to the loan purchaser, any misrepresentation during the mortgage loan origination process or, in some cases, upon any fraud or early default on such mortgage loans. The remedies available to a purchaser of mortgage loans from the Company are generally broader than those available to the Company against the sellers of such loans; and if a loan purchaser enforces its remedies, the Company may not be able to enforce whatever remedies the Company may have against such sellers. If the loans were originated directly by the Company, the Company will be solely responsible for any breaches of representations or warranties. 57 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) For Each of the Three Years in Period Ended December 31, 1999 The following is a summary of activity in mortgage servicing rights for the years ended December 31 (in thousands):
1999 1998 1997 -------- ------- ------- Balance, beginning of year..................... $ 13,119 $ 8,526 $ 2,645 Additions through originations................. 7,238 8,450 8,120 Amortization................................... (4,711) (2,689) (958) Sale of servicing rights....................... (7,456) -- -- Adjustment in valuation allowance.............. 420 (1,168) -- Direct writedowns.............................. (2,179) -- (1,281) -------- ------- ------- Balance, end of year........................... $ 6,431 $13,119 $ 8,526 ======== ======= ======= The following is a summary of activity in the valuation allowance for mortgage servicing rights for the years ended December 31 (in thousands): 1999 1998 1997 -------- ------- ------- Balance, beginning of year..................... $ 1,169 $ 1 $ 1 Sale of servicing rights....................... (1,297) 0 0 Additions charged to operations................ 877 1,168 0 -------- ------- ------- Balance, end of year........................... $ 749 $ 1,169 $ 1 ======== ======= =======
6. Premises and Equipment Premises and equipment consisted of the following at December 31 (in thousands):
1999 1998 ------ ------ Premises................................................... $ 656 $ 635 Leasehold improvements..................................... 2,996 2,753 Furniture, fixtures and equipment.......................... 7,595 7,191 Automobiles................................................ 24 24 ------ ------ Subtotal................................................... 11,271 10,603 Less: accumulated depreciation and amortization............ (5,268) (3,458) ------ ------ Total...................................................... $6,003 $7,145 ====== ======
7. Foreclosed Real Estate Activity in the allowance for estimated real estate losses is summarized as follows for the years ended December 31 (in thousands):
1999 1998 1997 ------- ------- ------- Balance, beginning of year..................... $ 100 $ 79 $ 65 Provision for estimated real estate loan losses........................................ 16 24 108 Recoveries..................................... -- -- 2 Charge-offs.................................... -- (3) (96) ------- ------- ------- Balance, end of year........................... $ 116 $ 100 $ 79 ======= ======= =======
58 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) For Each of the Three Years in Period Ended December 31, 1999 8. Deposit Accounts Deposit accounts consisted of the following at December 31, (in thousands):
1999 1998 ---------------------- ---------------------- Weighted Weighted Average Average Balance Interest Rate Balance Interest Rate -------- ------------- -------- ------------- Checking accounts............ $ 27,377 1.51% $ 14,088 1.72% Passbook accounts............ 4,541 2.10 4,642 2.35 Money market accounts........ 5,609 4.28 7,729 4.84 Certificate accounts: Under $100,000............. 301,219 5.80 214,943 5.98 $100,000 and over.......... 130,113 5.93 82,031 5.50 -------- -------- $468,859 5.53% $323,433 5.48% ======== ========
The aggregate annual maturities of certificate accounts at December 31 are approximately as follows (in thousands):
1999 1998 -------- -------- Within one year.......................................... $427,954 $291,118 One to two years......................................... 1,861 4,048 Two to three years....................................... 379 708 Three to four years...................................... 202 383 Four to five years....................................... 73 139 Thereafter............................................... 863 578 -------- -------- $431,332 $296,974 ======== ========
Interest expense on deposit accounts for the years ended December 31 is summarized as follows (in thousands):
1999 1998 1997 ------- ------- ------ Checking accounts................................... $ 340 $ 309 $ 279 Passbook accounts................................... 98 102 84 Money market accounts............................... 292 229 88 Certificate accounts................................ 21,270 13,408 7,587 ------- ------- ------ $22,000 $14,048 $8,038 ======= ======= ======
9. Advances from Federal Home Loan Bank and Other Borrowings As of December 31, 1999 and 1998, the Company had an available line of credit with the Federal Home Loan Bank of San Francisco (FHLB) of $48,009,000 and $7,635,000, respectively, use of which is contingent upon continued compliance with the Advances and Security Agreement and other eligibility requirements established by the FHLB. Advances and/or the line of credit are collateralized by pledges of certain real estate loans and securities with an aggregate principal balance of $63,293,000 and $6,946,000 at December 31, 1999 and 1998, respectively. 59 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) For Each of the Three Years in Period Ended December 31, 1999 The following table summarizes activities in advances from the FHLB for the years ended December 31:
At or For Year Ended December 31, --------------------------- 1999 1998 1997 ------- -------- -------- (Dollars in thousands) Average balance outstanding................... $15,363 $ 1,154 $ 8,284 Maximum amount outstanding at any month-end during the year ............................. 35,170 17,062 17,800 Balance outstanding at end of year............ -- -- 9,000 Weighted average interest rate during the year ............................................. 5.23% 5.02% 5.82%
At December 31, 1999, the Company had three lines of credit available to it from commercial banks and national investment banking firms. The allowable draw amounts of the three credit lines are individually $250,000,000, $10,000,000, and $40,000,000 with expiration dates, respectively, of October 2000, November 2000, and a revolving maturity date. These lines of credit, which were obtained during 1997 and 1998 and renewed in 1999, bear interest at a variable rate based on LIBOR. Outstandings under the $250 million line of credit at the Bank are collateralized by loans held for sale and mortgage-backed securities. Outstandings under the $40 million and $10 million lines of credit at Life Financial are collateralized by residuals and the stock of the Bank. Subsequent to December 31, 1999, the Life Financial $40,000,000 line of credit with a revolving maturity was paid to zero and terminated and the $10,000,000 line of credit due November 2000 was paid to zero. These lines of credit contain certain affirmative, negative and financial covenants. Due to the sale of the residual mortgage-backed securities, the Company was in violation of certain covenants related to the $40 million and $10 million lines of credit. The Company was in compliance with all other lines of credit covenants at December 31, 1999. The following summarizes activities in the lines of credit:
At or For Year Ended December 31, -------------------------- 1999 1998 1997 ------- -------- ------- (Dollars in thousands) Average balance outstanding.................... $30,237 $112,886 $48,765 Maximum amount outstanding at any month-end during the year............................... 45,834 345,848 226,846 Balance outstanding at end of year ............ 17,873 39,977 100,170 Weighted average interest rate during the year.......................................... 8.48% 6.62% 6.53%
10. Subordinated Debentures On March 14, 1997, the Bank issued subordinated debentures (Debentures) in the aggregate principal amount of $10,000,000 through a private placement and pursuant to a Debenture Purchase Agreement. The Debentures will mature on March 15, 2004 and bear interest at the rate of 13.5% per annum, payable semi- annually. The Debentures qualified as supplementary capital under regulations of the OTS, which capital may be used to satisfy risk-based capital requirements, until March 1998 when the Bank substituted the Company in its place as obligor on the Debentures. The Debentures are direct, unconditional obligations ranking with all other existing and future unsecured and subordinated indebtedness. They are subordinated on liquidation, as to principal and interest, and premium, if any, to all claims having the same priority as savings account holders or any higher priority. 60 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) For Each of the Three Years in Period Ended December 31, 1999 The Debentures are redeemable at the option of the Company, in whole or in part, at any time after September 15, 1998, at the aggregate principal amount thereof, plus accrued and unpaid interest, if any. Holders of the Debentures also have the option at September 15, 1998 to require the Company to purchase all or part of the holder's outstanding Debentures at a price equal to 100% of the principal amount repurchased plus accrued interest through the repurchase date. On September 15, 1998, holders of $8.5 million in Debentures exercised their option to have the Company repurchase their Debentures as of December 14, 1998, thereby reducing outstanding Debentures to $1.5 million. The gain resulting from extinguishment of this debt was not material. 11. Income Taxes Income taxes for the years ended December 31 consisted of the following (in thousands):
1999 1998 1997 -------- ------- ------ Current provision (benefit): Federal........................................ $ (4,280) $ 5,818 $ (317) State.......................................... (1,443) 2,871 (426) -------- ------- ------ (5,723) 8,689 (743) -------- ------- ------ Deferred (benefit) provision: Federal........................................ (4,724) (5,287) 5,685 State.......................................... (958) (2,674) 2,440 -------- ------- ------ (5,682) (7,961) 8,125 -------- ------- ------ Total income tax provision (benefit)......... $(11,405) $ 728 $7,382 ======== ======= ====== A reconciliation from statutory federal income taxes to the Company's effective income taxes for the years ended December 31 are as follows: 1999 1998 1997 -------- ------- ------ Statutory federal taxes.......................... $(10,235) $ 625 $6,199 State taxes, net of federal income tax benefit... (1,561) 128 1,315 Other............................................ 391 (25) (132) -------- ------- ------ $(11,405) $ 728 $7,382 ======== ======= ======
61 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) For Each of the Three Years in Period Ended December 31, 1999 Deferred tax assets (liabilities) were comprised of the following at December 31 (in thousands):
1999 1998 ------ ------- Deferred tax assets: Depreciation............................................. $ 10 $ 83 Accrued expenses......................................... 272 297 Allowance for loan losses................................ 859 915 Capital loss carryforward................................ 60 36 Loans held for sale...................................... 3,414 1,586 Other.................................................... -- 649 ------ ------- 4,615 3,566 Deferred tax liabilities: Gain on sale of loans.................................... -- (3,604) Originated servicing rights.............................. -- (1,149) Federal Home Loan Bank Stock............................. (248) (168) Other.................................................... (76) ------ ------- (324) (4,921) ------ ------- 4,291 (1,355) Less valuation allowance................................... -- (36) ------ ------- Net deferred tax asset (liability)......................... $4,291 $(1,391) ====== =======
At December 31, 1999, the net deferred tax asset is included in other assets in the accompanying consolidated statements of financial condition. At December 31, 1998, the net deferred tax liability is included in other liabilities in the accompanying consolidated statements of financial condition. At December 31, 1998, a valuation allowance was recorded against the deferred tax asset related to the capital loss carryforward, as it is more likely than not that such benefit would not be realized. At December 31, 1999, the valuation allowance was no longer determined to be necessary. The Company's stockholders' equity includes tax bad debt deductions for which no provision for federal income taxes has been made. If distributions to shareholders are made in excess of current or accumulated earnings and profits or if stock of the Company is partially redeemed, this tax bad debt reserve which approximates $330,000 at December 31, 1999, will be recaptured into income at the then prevailing federal income tax rate. The related unrecognized deferred tax liability is approximately $116,000. It is not contemplated that the Company will make any disqualifying distributions that would result in the recapture of these reserves. 12. Commitments, Contingencies and Concentrations of Risk Legal Proceedings. In December 1999, certain shareholders of Life Financial Corporation filed a federal securities lawsuit against the Company, various officers and directors of the Company, and certain other third parties. The lawsuit was filed in the United States District Court to assert claims against the defendants under the Securities Exchange Act of 1934 and the Securities Act of 1933. The defendants are not required to answer or otherwise respond to the Complaint until April 28, 2000. 62 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) For Each of the Three Years in Period Ended December 31, 1999 The Company intends to vigorously defend against the claims asserted in the litigation. The Company believes that the litigation will not have a material adverse impact on the results of operations or financial condition of the Company or the Bank. The Company and the Bank are not involved in any pending legal proceedings other than legal proceedings occurring in the ordinary course of business. Management believes that none of these legal proceedings, individually or in the aggregate, will have a material adverse impact on the results of operations or financial condition of the Company or the Bank. Lease Commitments. The Company leases a portion of its facilities from nonaffiliates under operating leases expiring at various dates through 2006. The following schedule shows the minimum annual lease payments, excluding property taxes and other operating expenses, due under these agreements (in thousands): Year ending December 31: 2000.............................................................. $ 923 2001.............................................................. 830 2002.............................................................. 633 2003.............................................................. 279 2004.............................................................. 192 Thereafter........................................................ 142 ------ $2,999 ======
Rental expense under all operating leases totaled $974,000, $1,095,000, and $424,000 for the years ended December 31, 1999, 1998, and 1997, respectively. Employment Agreements. The Company and the Bank have negotiated employment agreements with their executive officers. These agreements provide for the payment of a base salary, a bonus based upon performance of the Company, and the payment of severance benefits upon termination. Lending Activities. The Company has been actively involved in the origination, purchase and sale to institutional investors of real estate secured loans. Generally, the profitability of such mortgage banking operations depends on maintaining a sufficient volume of loans for sale and the availability of purchasers. Changes in the level of interest rates and economic factors affect the amount of loans originated or available for purchase by the Company, and thus the amount of gains on sale of loans and servicing fee income. Changes in the purchasing policies of institutional investors or increases in defaults after funding could substantially reduce the amount of loans sold to such investors. Any such changes could have a material adverse effect on the Company's results of operations, financial condition and cash flows. The Company's ability to originate, purchase and sell loans through its mortgage banking operations is also significantly impacted by changes in interest rates. Increases in interest rates may also reduce the amount of loan and commitment fees received by the Company. A significant decline in interest rates could also decrease the size of the Company's servicing portfolio and the related servicing income by increasing the level of prepayments. The Company does not currently utilize any specific hedging instruments to minimize exposure to fluctuations in the market price of loans and interest rates with regard to loans held for sale in the secondary mortgage market. Therefore, between the time the Company originates the loans or purchase commitments are issued, the Company is exposed to downward movements in the market price of such loans due to upward movements in interest rates. 63 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) For Each of the Three Years in Period Ended December 31, 1999 The Company depends largely on mortgage brokers and correspondents for its purchases and originations of new loans. The Company's competitors also seek to establish relationships with the Company's mortgage brokers and correspondents. The Company's future results may become increasingly exposed to fluctuations in the volume and cost of its wholesale loans resulting from competition from other purchasers of such loans. Availability of Funding Sources--The Company funds substantially all of the loans which it originates or purchases through deposits, internally-generated funds, FHLB advances or other borrowings. The Company competes for deposits primarily on the basis of rates, and, as a consequence, the Company could experience difficulties in attracting deposits to fund its operations if the Company does not continue to offer deposit rates at levels that are competitive with other financial institutions. The Company also uses the proceeds generated by the Company in selling loans in the secondary market to fund subsequent originations or purchases. On an ongoing basis, the Company explores opportunities to access credit lines as an additional source of funds. To the extent that the Company is not able to maintain its currently available funding sources or to access new funding sources, it would have to curtail its loan production activities or sell loans earlier than is optimal. Any such event could have a material adverse effect on the Company's results of operations, financial condition and cash flows. 13. Benefit Plans 401(k) Plan--The Company maintains an Employee Savings Plan (the Plan) which qualifies under section 401(k) of the Internal Revenue Code. Under the Plan, employees may contribute from 1% to 15% of their compensation. The Company will match, at its discretion, 25% of the amount contributed by the employee up to a maximum of 8% of the employee's salary. The amount of contributions made to the Plan by the Company were not material for the years ended December 31, 1999, 1998 and 1997. Cash Bonus Plan--The Company adopted a cash bonus plan (the Bonus Plan) effective February 1996. All employees except for commissioned employees and employees with employment contracts are eligible to participate. There was no cash bonus recorded during 1999 and 1998. Approximately $1,480,000 in expense was recorded pursuant to the Bonus Plan during the year ended December 31, 1997. Stock Option Plans--On November 21, 1996, the Board of Directors of the Bank adopted the Life Bank 1996 Stock Option Plan (the 1996 Option Plan). The 1996 Option Plan authorizes the granting of options equal to 321,600 shares of common stock for issuance to executives, key employees, officers and directors. The 1996 Option Plan will be in effect for a period of ten years from the adoption by the Board of Directors. Options granted under the 1996 Option Plan will be made at an exercise price equal to the fair market value of the stock on the date of grant. Awards granted to officers and employees may include incentive stock options, nonstatutory stock options and limited rights which are exercisable only upon a change in control of the Bank, which change in control did not include the reorganization of the Bank into the holding company (the "Reorganization"). Awards granted to nonemployee directors are nonstatutory options. Stock options will become vested and exercisable in the manner specified by the Board of Directors. The options granted under the 1996 Option Plan will vest at a rate of 33.3% per year, beginning on November 21, 1999. 64 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) For Each of the Three Years in Period Ended December 31, 1999 The components of the 1996 Option Plan as of December 31, 1999, 1998, and 1997, and changes during the years then ended (as adjusted for the Reorganization), consist of the following:
1999 1998 1997 ------------------ ----------------- ----------------- Weighted Weighted Weighted average average Average exercise exercise Exercise Shares price Shares price Shares price -------- -------- ------- -------- ------- -------- Options outstanding at the beginning of the year................... 282,160 $3.33 316,200 $3.33 321,600 $3.33 Granted................ -- -- -- -- -- -- Exercised.............. (91,040) 3.33 (15,680) 3.33 -- -- Forfeited.............. (126,860) 3.33 (18,360) 3.33 (5,400) 3.33 -------- ------- ------- Options outstanding at the end of the year.... 64,260 3.33 282,160 3.33 316,200 3.33 ======== ======= ======= Options exercisable at the end of the year.... 31,404 3.33 6,040 3.33 27,540 3.33 Weighted average remaining contractual life of options outstanding at end of year................... 7 years 8 years 9 years Weighted average information for options granted during the year: Fair value............. N/A N/A N/A
The fair value of options granted under the 1996 Option Plan during 1996 was estimated on the date of grant using the Black-Scholes option-pricing model with the following weighted average assumptions used: no dividend yield, no volatility, risk-free interest rate of 7% and expected lives of 10 years. Options exercisable as of December 31, 1997 were due to the retirement of three directors. Upon retirement, their options immediately vested. As of June 27, 1997, the date of the Reorganization, the 1996 Option Plan became the amended and restated LIFE Financial Corporation 1996 Stock Option Plan. Stock options with respect to shares of the Bank's common stock granted under the 1996 Option Plan and outstanding prior to completion of the Reorganization automatically became options to purchase three shares of the Company's common stock upon identical terms and conditions. The Company assumed all of the Bank's obligations with respect to the 1996 Option Plan. The Board of Directors of the Company adopted the LIFE Financial Corporation 1997 Stock Option Plan (the 1997 Option Plan), which became effective upon the Reorganization (the 1996 Option Plan and the 1997 Option Plan will sometimes hereinafter be referred to as the Option Plans). The Board of Directors of the Company has reserved shares equal to 10% of the issued and outstanding shares of the Company giving effect to the Reorganization and the initial public offering, including Company options that were exchanged for Bank options pursuant to the 1996 Option Plan for issuance under the Option Plans. 65 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) For Each of the Three Years in Period Ended December 31, 1999 After the Reorganization, the Option Plans became available to directors, officers and employees of the Company, and to directors, officers and employees of its direct or indirect subsidiaries. The options granted pursuant to the 1997 Option Plan will vest at a rate of 33.3% per year, beginning on June 30, 2000. The following is a summary of activity in the 1997 Option Plan during 1999, 1998 and 1997.
1999 1998 1997 ----------------- ----------------- ----------------- Weighted Weighted Weighted Average Average Average Exercise Exercise Exercise Shares Price Shares Price Shares Price ------- -------- ------- -------- ------- -------- Options outstanding at the beginning of the year.................... 173,500 $11.15 193,000 $11.14 -- -- Granted................ 60,000 $11.00 8,000 $11.62 194,000 $11.14 Forfeited.............. (87,000) $11.30 (27,500) $11.16 (1,000) $11.00 ------- ------- ------- Options outstanding at end of the year......... 146,500 $11.00 173,500 $11.15 193,000 $11.14 ======= ======= ======= Options exercisable at the end of the year..... 0 15,000 17,500 ======= ======= ======= Weighted average information on options granted during the year--fair value........ $2.67 $7.60 $8.37
Options exercisable as of December 31, 1998 were due to the resignation of a senior officer. Upon resignation, the options immediately vested. Options exercisable as of December 31, 1997 were due to the retirement of one director. Upon retirement, the options immediately vested. The fair value of options granted under the 1997 Option Plan during 1999, 1998, and 1997 was estimated on the date of grant using the Black-Scholes option-pricing model with the following weighted average assumptions used: no dividend yield for any year, volatility rate of 23.9%, 45.72% and 55.92%, respectively, risk-free interest rate of 6.5%, 5.59% and 6.45% , respectively and expected lives of 10 years for each years. 66 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) For Each of the Three Years in Period Ended December 31, 1999 The Company applies APB Opinion No. 25 and related interpretations in accounting for its Option Plans. Accordingly, no compensation cost has been recognized for its Option Plans. Had compensation cost for the Option Plans been determined based on the fair value at the grant date for awards under the Plans based on the fair value method of SFAS No. 123, the Company's net income (loss) and earnings (loss) per share for the years ended December 31, 1999, 1998 and 1997 would have been reduced to the pro forma amounts indicated below (dollars in thousands, except per share data):
1999 1998 1997 -------- ------ ------- Net income (loss) to common stockholders: As reported.................................... $(17,839) $1,059 $10,324 Pro forma...................................... $(18,088) $ 619 $ 9,778 Basic earnings (loss) per share: As reported.................................... $ (2.71) $ 0.16 $ 2.11 Pro forma...................................... $ (2.75) $ 0.09 $ 2.00 Diluted earnings (loss) per share: As reported.................................... $ (2.71) $ 0.16 $ 2.02 Pro forma...................................... $ (2.75) $ 0.09 $ 1.91
14. Financial Instruments with Off Balance Sheet Risk The Company is a party to financial instruments with off balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit in the form of originating loans or providing funds under existing lines of credit. These instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the accompanying consolidated statements of financial condition. The Company's exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit is represented by the contractual or notional amount of those instruments. The Company uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet instruments. Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates and may require payment of a fee. Since many commitments are expected to expire, the total commitment amounts do not necessarily represent future cash requirements. The Company evaluates each customer's credit worthiness on a case-by-case basis. The Company's commitments to extend credit at December 31, 1999 and 1998 totaled $8,438,000 and $10,969,000, respectively. The Company regularly enters into commitments to sell certain dollar amounts of loans to third parties under specific, negotiated terms. The terms include the minimum maturity of the loans, yield to purchaser, servicing spread to the Company, and the maximum principal amount of the individual loans. The Company typically satisfies these commitments from its current production of loans. These commitments have fixed expiration dates and may require a fee. There were no outstanding commitments to sell loans at December 31, 1999 or December 31, 1998. 67 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) For Each of the Three Years in Period Ended December 31, 1999 15. Fair Value of Financial Instruments The following disclosures of the estimated fair value of financial instruments is made in accordance with the requirements of SFAS No. 107, Disclosures About Fair Value of Financial Instruments. The estimated fair value amounts have been determined by the Company using available market information and appropriate valuation methodologies. However, considerable judgment is necessarily required to interpret market data to develop the estimates of fair value. Accordingly, the estimates presented herein are not necessarily indicative of the amounts the Company could realize in a current market exchange. The use of different market assumptions and/or estimation methodologies may have a material effect on the estimated fair value amounts.
1999 ------------------- Carrying Estimated amount Fair value -------- ---------- (in thousands) Assets: Cash and cash equivalents................................. $ 20,315 $ 20,315 Securities held to maturity............................... 32,833 32,823 Residual mortgage-backed securities....................... -- -- Loans held for sale....................................... 330,127 334,410 Loans held for investment, net............................ 103,601 103,414 Participation contract, net............................... 4,996 4,996 Mortgage servicing rights................................. 6,431 8,729 Accrued interest receivable .............................. 3,676 3,676 Liabilities: Deposit accounts.......................................... 468,859 468,985 Other borrowings.......................................... 17,873 17,873 Subordinated debentures................................... 1,500 1,500 Accrued interest payable.................................. 155 155 Off-balance sheet unrealized gain on commitments............ -- -- 1998 ------------------- Carrying Estimated Amount Fair value -------- ---------- (in thousands) Assets: Cash and cash equivalents................................. $ 8,152 $ 8,152 Securities held to maturity............................... 4,471 4,483 Residual mortgage-backed securities....................... 50,296 50,296 Loans held for sale....................................... 243,497 245,625 Loans held for investment, net............................ 90,827 91,163 Mortgage servicing rights................................. 13,119 15,699 Accrued interest receivable............................... 2,762 2,762 Liabilities: Deposit accounts.......................................... 323,433 323,664 Other borrowings.......................................... 39,977 39,977 Subordinated debentures................................... 1,500 1,500 Accrued interest payable.................................. 408 408 Off-balance sheet unrealized gain on commitments............ -- 178
68 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) For Each of the Three Years in Period Ended December 31, 1999 The Company utilized the following methods and assumptions to estimate the fair value of each class of financial instruments for which it is practicable to estimate that value: Cash and Cash Equivalents--The carrying amount approximates fair value. Securities Held to Maturity--Fair values are based on quoted market prices. Loans Held for Sale--Fair values are based on quoted market prices or dealer quotes. Loans Held for Investment--The fair value of gross loans receivable has been estimated using the present value of cash flow method, discounted using the current rate at which similar loans would be made to borrowers with similar credit ratings and for the same maturities, and giving consideration to estimated prepayment risk and credit loss factors. Residual Mortgage-backed securities and Mortgage Servicing Rights--Fair values are estimated using discounted cash flows based on current market values. Participation Contract--Fair values are estimated using discounted cash flows based on the internal rate of return required by the obligor. The value is presented net of obligations under the credit guaranty. Accrued Interest Receivable/Payable--The carrying amount approximates fair value. Deposit Accounts--The fair value of checking, passbook and money market accounts is the amount payable on demand at the reporting date. The fair value of certificate accounts is estimated using the rates currently offered for deposits of similar remaining maturities. Other Borrowings and Subordinated Debentures--The carrying amount approximates fair value as the interest rate currently approximates market. Financial Instruments with Off-Balance Sheet Risk--As of December 31, 1999 and 1998, fair values are based on quoted market prices or dealer quotes. The fair value estimates presented herein are based on pertinent information available to management as of December 31, 1999 and 1998. Although management is not aware of any factors that would significantly affect the estimated fair value amounts, such amounts have not been comprehensively revalued for purposes of these financial statements since that date; and, therefore, current estimates of fair value may differ significantly from the amounts presented herein. 69 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) For Each of the Three Years in Period Ended December 31, 1999 16. Segment Information The Company's reportable segments within the financial services industry are banking, mortgage banking, and loan servicing. During 1999, the Company redefined its reportable segments and restated 1998 and 1997 for comparability purposes. Also included are the original disclosures as previously reported. Information about these segments as of or for the years ended December 31, 1999, 1998 and 1997 is as follows (dollars in thousands):
For the Year Ended December 31, 1999 -------------------------------------- Mortgage Loan Bank Banking Servicing Total -------- -------- --------- -------- Non-Interest Revenues............... $ 1,096 $(23,063) $ 4,789 $(17,178) Interest Earned..................... 46,378 0 0 46,378 Interest Charges.................... (25,566) 0 (11) (25,577) -------- -------- ------- -------- Net Interest Income (expense)... 20,812 0 (11) 20,801 -------- -------- ------- -------- Total revenue................... $ 21,908 $(23,063) $ 4,778 $ 3,623 ======== ======== ======= ======== Pre-tax segment earnings (loss)..... $ 6,365 $(35,678) $ 69 $(29,244) Segment assets...................... $499,453 $ 39,366 $ 8,789 $547,608 For the Year Ended December 31, 1998 (unaudited) -------------------------------------- Mortgage Loan Bank Banking Servicing Total -------- -------- --------- -------- Non-Interest Revenues............... $ 816 $ 9,493 $ 3,874 $ 14,183 Interest Earned..................... 41,104 0 0 41,104 Interest Charges.................... (22,907) 0 (8) (22,915) -------- -------- ------- -------- Net Interest Income expense..... 18,197 0 (8) 18,189 -------- -------- ------- -------- Total revenue................... $ 19,013 $ 9,493 $ 3,866 $ 32,372 ======== ======== ======= ======== Pre-tax segment earnings (loss)..... $ 8,810 $ (6,609) $ (414) $ 1,787 Segment assets...................... $357,755 $ 54,972 $15,351 $428,078 For the Year Ended December 31, 1997 (unaudited) -------------------------------------- Mortgage Loan Bank Banking Servicing Total -------- -------- --------- -------- Non-Interest Revenues............... $ 507 $ 25,416 $ 1,307 $ 27,230 Interest Earned..................... 21,146 0 0 21,146 Interest Charges.................... (12,823) 0 (7) (12,830) -------- -------- ------- -------- Net interest Income (expense)... 8,323 0 (7) 8,316 -------- -------- ------- -------- Total revenue................... $ 8,830 $ 25,416 $ 1,300 $ 35,546 ======== ======== ======= ======== Pre-tax segment earnings (loss)..... $ 2,194 $ 16,966 $(1,454) $ 17,706 Segment assets...................... $339,962 $ 46,752 $10,357 $397,071
70 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) For Each of the Three Years in Period Ended December 31, 1999 Information regarding previously reported segments for 1998 and 1997 are presented below. 1999 is presented for comparability purposes.
For the Year Ended -------------------------------------- December 31, 1999 -------------------------------------- Mortgage Mortgage Mortgage Financing Financing Financing Bank Portfolio Liberator Other Total ------- --------- --------- --------- -------- Revenue for the year...... $ 3,320 $ 5,175 $ 15,315 $ 5,391 $ 29,201 Interest income........... 2,799 8,714 25,789 9,077 46,379 Interest expense.......... 22,044 707 2,091 735 25,577 Net income (loss) for the year..................... (20,743) 581 1,719 604 (17,839) Assets employed at year end...................... $66,087 $96,042 $270,342 $115,137 $547,608
For the Year Ended ------------------------------------- December 31, 1998 ------------------------------------- Mortgage Mortgage Mortgage Financing Financing Financing Bank Portfolio Liberator Other Total ------ --------- --------- --------- ------- Revenue for the year......... $4,037 $13,069 $32,644 $5,537 $55,287 Interest income.............. 3,440 9,737 24,123 3,804 41,104 Interest expense............. 1,962 5,139 13,142 2,672 22,915 Net income (loss) for the year........................ (2,557) 1,387 2,767 (538) 1,059 Assets employed at year-end.. 36,121 110,074 247,375 34,517 428,078
For the Year Ended ------------------------------------- December 31, 1997 ------------------------------------- Mortgage Mortgage Mortgage Financing Financing Financing Bank Portfolio Liberator Other Total ------ --------- --------- --------- ------- Revenue for the year......... $4,897 $9,330 $29,377 $4,772 $48,376 Interest income.............. 2,779 3,342 10,513 4,512 21,146 Interest expense............. 2,252 1,924 6,055 2,599 12,830 Net income (loss) for the year........................ (2,039) 3,639 11,566 (2,842) 10,324 Assets employed at year-end.. 50,547 83,698 236,821 26,005 397,071
71 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) For Each of the Three Years in Period Ended December 31, 1999 17. Earnings (Loss) Per Share A reconciliation of the numerators and denominators used in basic and diluted earnings (loss) per share computations is as follows (in thousands, except per share data): Earnings per share has been adjusted retroactively to reflect the three-for- one stock exchange effected pursuant to the Reorganization. The per share amounts and weighted average shares outstanding included in the accompanying consolidated financial statements have been restated to reflect the Reorganization.
Loss Shares Per share (numerator) (denominator) amount ----------- ------------- --------- Year ended December 31, 1999: Net loss applicable to loss per share............................... $(17,839) -------- Basic per share Loss available to common stockholders........................ (17,839) 6,575 $(2.71) ====== Effect of dilutive securities Stock option plans anti-dilutive..... 0 ----- Diluted loss per share Loss available to common stockholders........................ $(17,839) 6,575 $(2.71) ======== ===== ====== Income Shares Per share (numerator) (denominator) amount ----------- ------------- --------- Year ended December 31, 1998: Net earnings applicable to earnings per share........................... $ 1,059 -------- Basic earnings per share Earnings available to common stockholders........................ 1,059 6,555 $ 0.16 ====== Effect of dilutive securities Stock option plans................... 251 ----- Diluted earnings per share Earnings available to common stockholders plus assumed conversions......................... $ 1,059 6,806 $ 0.16 ======== ===== ====== Income Shares Per share (numerator) (denominator) amount ----------- ------------- --------- Year ended December 31, 1997: Net earnings applicable to earnings per share........................... $ 10,324 -------- Basic earnings per share Earnings available to common stockholders........................ 10,324 4,885 $ 2.11 ====== Effect of dilutive securities Stock option plans................... 223 ----- Diluted earnings per share Earnings available to common stockholders plus assumed conversions......................... $ 10,324 5,108 $ 2.02 ======== ===== ======
72 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) For Each of the Three Years in Period Ended December 31, 1999 18. Parent Company Financial Information LIFE FINANCIAL CORPORATION (Parent company only)
December 31, ------------------ 1999 1998 -------- -------- STATEMENTS OF FINANCIAL CONDITION ASSETS: Cash and cash equivalents......................... $ 441 $ 566 Residual mortgage backed securities............... -- 50,296 Investment in subsidiaries........................ 32,545 27,315 Other assets...................................... 23,990 4,109 -------- -------- TOTAL ASSETS.................................... $ 56,976 $ 82,286 ======== ======== LIABILITIES: Other borrowings.................................. $ 19,373 $ 27,832 Accrued expenses and other liabilities............ 3,141 2,456 -------- -------- TOTAL LIABILITIES............................... 22,514 30,288 TOTAL STOCKHOLDERS' EQUITY...................... 34,462 51,998 -------- -------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY...... $ 56,976 $ 82,286 ======== ======== Year ended December 31, --------------------------- 1999 1998 1997 -------- -------- ------- STATEMENTS OF OPERATIONS: INTEREST INCOME..................................... $ 3,310 $ 6,461 $ 185 INTEREST EXPENSE.................................... 2,489 2,440 80 -------- -------- ------- Net interest income............................. 821 4,021 105 NONINTEREST INCOME (LOSS)........................... (32,058) (10,233) 14,088 NONINTEREST EXPENSE................................. 3,091 1,903 1,308 EQUITY IN NET EARNINGS (LOSS) OF SUBSIDIARIES....... 3,075 5,763 2,760 -------- -------- ------- EARNINGS (LOSS) BEFORE INCOME TAX EXPENSE........... (31,253) (2,352) 15,645 INCOME TAX EXPENSE (BENEFIT)........................ (13,414) (3,411) 5,321 -------- -------- ------- NET EARNINGS (LOSS)................................. $(17,839) $ 1,059 $10,324 ======== ======== =======
73 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) For Each of the Three Years in Period Ended December 31, 1999 LIFE FINANCIAL CORPORATION (Parent company only) SUMMARY STATEMENTS OF CASH FLOWS
1999 1998 1997 -------- --------- --------- CASH FLOWS FROM OPERATING ACTIVITIES: Net income (loss)............................ $(17,839) $ 1,059 $ 10,324 Adjustments to reconcile net income (loss) to cash provided by (used in) operating activities: Gain (loss) on sale and securitization of loans held for sale....................... -- 10,616 (13,631) Equity in net earnings (loss) of subsidiaries.............................. (3,075) (5,763) (2,760) Purchase of loans held for sale, net of loan fees................................. -- (462,074) (324,795) Proceeds from sales and securitization of loans held for sale....................... -- 436,948 319,941 Net accretion of residual mortgage-backed securities................................ (3,313) (6,984) (1,622) Net unrealized and realized losses/(gains) on residual mortgage-backed securities ... 36,471 16,550 (448) (Decrease) increase in accrued expenses and other liabilities......................... (1,480) (896) 3,352 Increase in other assets................... (12,558) (2,171) (3,493) -------- --------- --------- Net cash provided by (used in) operating activities.............................. (1,794) (12,715) (13,132) CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of residual mortgage-backed securities from the Bank.................... -- -- (23,243) Capital contributions to subsidiaries........ (2,155) -- (11,075) Cash received on desecuritization of residual mortgage-backed securities.................. 11,980 -- -- -------- --------- --------- Net cash used in investing activities.... 9,825 -- (34,318) CASH FLOWS FROM FINANCING ACTIVITIES: Net proceeds from other borrowings........... (8,459) 12,295 15,537 Net proceeds from issuance of common stock... 303 53 32,846 -------- --------- --------- Net cash provided by (used in) financing activities.............................. (8,156) 12,348 48,383 -------- --------- --------- NET INCREASE IN CASH AND CASH EQUIVALENTS...... (125) 367 933 CASH AND CASH EQUIVALENTS, beginning of year... 566 933 -------- --------- --------- CASH AND CASH EQUIVALENTS, end of year......... $ 441 $ 566 $ 933 ======== ========= =========
74 LIFE FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) For Each of the Three Years in Period Ended December 31, 1999 19. Quarterly Results of Operations (Unaudited) The following is a summary of quarterly results for the years ended December 31.
First Second Third Fourth Quarter Quarter Quarter Quarter ------- ------- ------- ------- (In thousands, except per share data) 1999 Interest Income.............................. $11,329 $12,696 $10,432 $11,921 Interest Expense............................. 5,783 6,565 6,156 7,073 Provision for estimated loan losses.......... 458 1,750 430 2,744 Noninterest income........................... 1,979 4,787 6,354 (30,298) Net earnings (loss).......................... 684 1,759 1,037 (21,319) Earnings (loss) per share: Basic...................................... 0.10 0.27 0.16 (3.23) Diluted.................................... 0.10 0.27 0.16 (3.23) 1998 Interest Income.............................. $ 9,371 $10,145 $11,842 $ 9,746 Interest Expense............................. 5,340 5,554 6,951 5,070 Provision for estimated loan losses.......... 1,630 -- 736 1,800 Noninterest income........................... 9,325 4,507 7,384 (7,033) Net earnings (loss).......................... 3,715 1,521 2,535 (6,712) Earnings (loss) per share: Basic...................................... 0.57 0.23 0.39 (1.02) Diluted.................................... 0.54 0.22 0.37 (1.01)
During the quarter ended December 31, 1998, the Company recorded net unrealized losses on residual mortgage-backed securities of $9.9 million. During the quarter ended December 31, 1999, transactions consisted of: (1) On December 31, 1999, the Company sold its residual mortgage-backed securities resulting in a one-time after tax charge of $16.8 million. (2) The Company recorded a provision for loan losses of $2.7 million. (3) The Company recorded an unrealized loss in its loans held for sale portfolio of $3.0 million related to lower of cost or market adjustments. 75 ITEM 9. CHANGE IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE As reported in 8-K dated October 7, 1999, Deloitte & Touche LLP, resigned as the Company's independent accountant. During the Company's two most recent fiscal years and through October 7, 1999, there were no disagreements with Deloitte & Touche LLP on any matter of accounting principles or practices, financial statement disclosure or auditing scope or procedure, which disagreements, if not resolved to the satisfaction of Deloitte & Touche LLP, would have caused it to make reference to the subject matter of the disagreement in connection with its report. Deloitte & Touche LLP's reports on the Company's financial statements for the fiscal years ended December 31, 1998 and 1997, did not contain an adverse opinion or a disclaimer of opinion, and were not qualified or modified as to uncertainty, audit scope or accounting principles. During the Company's two most recent fiscal years and through October 7, 1999, Deloitte & Touche LLP did not advise the Company of any "reportable events" as defined in Item 304(a)(1)(v) of Regulation S-K. As reported in 8-K dated October 22, 1999, Grant Thornton LLP was engaged as the Company's independent accountants for the fiscal year ended December 31, 1999, to audit the Company's financial statements. PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT The information relating to Directors and Executive Officers of the Registrant is incorporated herein by reference to the Registrant's Proxy Statement for the Annual Meeting of Stockholders to be held on June 14, 2000, which will be filed with the Securities and Exchange Commission within 120 days after the end of the Registrant's fiscal year. ITEM 11. EXECUTIVE COMPENSATION The information relating to executive compensation and directors' compensation is incorporated herein by reference to the Registrant's Proxy Statement for the Annual Meeting of Stockholders to be held on June 14, 2000, excluding the Stock Performance Graph and Compensation Report. The Proxy Statement will be filed within 120 days after the end of the Registrant's fiscal year. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The information relating to security ownership of certain beneficial owners and management is incorporated herein by reference to the Registrant's Proxy Statement for the Annual Meeting of Stockholders to be held on June 14, 2000, which will be filed within 120 days after the end of the Registrant's fiscal year. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS The information relating to certain relationships and related transactions is incorporated herein by reference to the Registrant's Proxy Statement for the Annual Meeting of Stockholders to be held on June 14, 2000, which will be filed within 120 days after the end of the Registrant's fiscal year. 76 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K (a) The following documents are filed as a part of this report: (1) Consolidated Financial Statements of the Company are included herein at Item 8. (2) All schedules are omitted because they are not required or applicable, or the required information is shown in the consolidated financial statements or the notes thereto. (3) Exhibits (a) The following exhibits are filed as part of this report: 3.1 Certificate of Incorporation of LIFE Financial Corporation* 3.2 Bylaws of LIFE Financial Corporation* 4.0 Stock Certificate of LIFE Financial Corporation* 21.0 Subsidiary information is incorporated herein by reference to "Part I--Subsidiaries" 23.1 Consent of Deloitte & Touche LLP 23.2 Consent of Grant Thornton LLP 27.0 Financial Data Schedule
(b) Reports on Form 8-K - -------- * Incorporated herein by reference into this document from the Exhibits to Form S-4 Registration Statement, filed on January 27, 1997 and any amendments thereto, Registration No. 333-20497. 77 SIGNATURES Pursuant to the requirements of Section 13 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. LIFE FINANCIAL CORPORATION /s/ Robert K. Riley By: _________________________________ President and Chief Executive Officer DATED: March 31, 2000 Pursuant to the requirements of the Securities and Exchange Act of 1934, this Report has been signed by the following persons in the capacities and on the dates indicated.
Signature Title Date --------- ----- ---- /s/ Robert K. Riley President and Chief March 31, 2000 ____________________________________ Executive Officer Robert K. Riley (principal executive officer) /s/ W. Todd Peterson Executive Vice President and March 31, 2000 ____________________________________ Chief Financial Officer W. Todd Peterson (principal financial and accounting officer) /s/ Ronald G. Skipper Chairman of the Board March 31, 2000 ____________________________________ Ronald G. Skipper /s/ John D. Goddard Director March 31, 2000 ____________________________________ John D. Goddard /s/ Milton E. Johnson Director March 31, 2000 ____________________________________ Milton E. Johnson /s/ Edgar C. Keller Director March 31, 2000 ____________________________________ Edgar C. Keller
78 EX-23.1 2 CONSENT OF DELOITTE & TOUCHE LLP EXHIBIT 23.1 INDEPENDENT AUDITORS' CONSENT We consent to the incorporation by reference in Registration Statement No. 333-44307 of LIFE Financial Corporation on Form S-8 of our report dated March 26, 1999, appearing in the Annual Report on Form 10-K of LIFE Financial Corporation for the year ended December 31, 1999. /s/ Deloitte & Touche LLP Costa Mesa, California March 29, 2000 EX-23.2 3 CONSENT OF GRANT THORNTON LLP EXHIBIT 23.2 INDEPENDENT AUDITORS' CONSENT We consent to the incorporation by reference in this Registration Statement of LIFE Financial Corporation on Form S-8 of our report dated March 24, 2000 appearing in the Annual Report on Form 10-K of LIFE Financial Corporation for the year ended December 31, 1999. /s/ GRANT THORTON LLP Irvine, California March 24, 2000 EX-27 4 FINANCIAL DATA SCHEDULE
9 YEAR DEC-31-1999 JAN-01-1999 DEC-31-1999 20,315 0 3,000 0 0 32,833 32,823 437,077 2,749 547,608 468,859 17,873 24,914 1,500 0 0 67 0 547,608 40,991 959 4,428 46,378 22,000 3,577 20,801 5,382 (33,964) 27,485 (29,244) 0 0 0 (17,839) (2.71) (2.71) 9.38 2,687 5,281 0 4,018 2,777 5,840 430 2,749 2,749 0 0
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