-----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, TODjO6bwN738Q9pxWDqVb+A5qaBpDcwlTskR8mZe0WZzi+g2K6gtWNgeHnv3v3D6 5BE1eGlLIArkMDxjCYwbdg== 0001047469-98-003939.txt : 19980209 0001047469-98-003939.hdr.sgml : 19980209 ACCESSION NUMBER: 0001047469-98-003939 CONFORMED SUBMISSION TYPE: 8-K PUBLIC DOCUMENT COUNT: 13 CONFORMED PERIOD OF REPORT: 19980206 ITEM INFORMATION: FILED AS OF DATE: 19980206 SROS: NONE FILER: COMPANY DATA: COMPANY CONFORMED NAME: UST CORP /MA/ CENTRAL INDEX KEY: 0000316901 STANDARD INDUSTRIAL CLASSIFICATION: STATE COMMERCIAL BANKS [6022] IRS NUMBER: 042436093 STATE OF INCORPORATION: MA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 8-K SEC ACT: SEC FILE NUMBER: 000-09623 FILM NUMBER: 98523318 BUSINESS ADDRESS: STREET 1: 40 COURT ST CITY: BOSTON STATE: MA ZIP: 02108 BUSINESS PHONE: 6177267000 MAIL ADDRESS: STREET 1: 40 COURT ST CITY: BOSTON STATE: MA ZIP: 02108 8-K 1 FORM 8-K - -------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ------------------------ FORM 8-K CURRENT REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 Date of Report: February 6, 1998 UST CORP. (Exact name of registrant as specified in its charter) Massachusetts 0-9623 04-2436093 (State or other jurisdiction (Commission File No.) (IRS Employer of Incorporation) Identification No.) 40 Court Street 02108 Boston, Massachusetts (Zip Code) (Address of principal executive offices) (617) 726-7000 (Registrant's telephone number, including area code) - -------------------------------------------------------------------------------- Item 7. Financial Statements, Pro Forma Financial Information and Exhibits. The following exhibits are filed with this Current Report on Form 8-K: Exhibit Number Description 23.1 Consent of Arthur Andersen LLP, Independent Auditors of Firestone Financial Corp. 23.2 Consent of Wolf & Company, P.C., Independent Auditors of Somerset Savings Bank 23.3 Consent of Arthur Andersen LLP, Independent Auditors of Affiliated Community Bancorp, Inc. 23.4 Consent of KPMG Peat Marwick LLP, Independent Auditors of The Federal Savings Bank and Main Street Community Bancorp, Inc. 99.1 Unaudited Financial Information of Firestone Financial Corp. as of September 30, 1997 99.2 Financial Statements of Firestone Financial Corp. as of December 31, 1996 99.3 Financial Statements of Firestone Financial Corp. as of December 31, 1995 99.4 Unaudited Financial Information of Somerset Savings Bank as of September 30, 1997 99.5 Financial Statements of Somerset Savings Bank as of December 31, 1996 99.6 Unaudited Financial Information of Affiliated Community Bancorp, Inc. as of September 30, 1997 99.7 Financial Statements of Affiliated Community Bancorp, Inc. as of December 31, 1996 99.8 UST Corp., Firestone Financial Corp., Somerset Savings Bank and Affiliated Community Bancorp, Inc. Unaudited Pro Forma Condensed Financial Information -2- EXHIBIT INDEX Exhibit Page Number Description Number 23.1 Consent of Arthur Andersen LLP, Independent Auditors of 5 Firestone Financial Corp. 23.2 Consent of Wolf & Company, P.C., Independent Auditors of 6 Somerset Savings Bank 23.3 Consent of Arthur Andersen LLP, Independent Auditors of 7 Affiliated Community Bancorp, Inc. 23.4 Consent of KPMG Peat Marwick LLP, Independent Auditors 8 of The Federal Savings Bank and Main Street Community Bancorp, Inc. 99.1 Unaudited Financial Information of Firestone 9 Financial Corp. as of September 30, 1997 99.2 Financial Statements of Firestone Financial Corp. 13 as of December 31, 1996 99.3 Financial Statements of Firestone Financial Corp. 28 as of December 31, 1995 99.4 Unaudited Financial Information of Somerset 49 Savings Bank as of September 30, 1997 99.5 Financial Statements of Somerset Savings Bank 56 as of December 31, 1996 99.6 Unaudited Financial Information of Affiliated 82 Community Bancorp, Inc. as of September 30, 1997 99.7 Financial Statements of Affiliated Community Bancorp, 88 Inc. as of December 31, 1996 99.8 UST Corp., Firestone Financial Corp., Somerset Savings 125 Bank and Affiliated Community Bancorp, Inc. Unaudited Pro Forma Condensed Financial Information -3- SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned hereunto duly authorized. UST Corp. /s/ James K. Hunt --------------------------------- James K. Hunt Executive Vice President, Chief Financial Officer and Treasurer /s/ Eric R. Fischer --------------------------------- Eric R. Fischer Executive Vice President, General Counsel and Clerk Dated: February 6, 1998 -4- EX-23.1 2 EXHIBIT 23.1 CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS As independent public accountants, we hereby consent to the incorporation in the Prospectuses constituting part of the Registration Statements on Forms S-8 and S-3 (Nos. 333-43785, 333-42123, 33-54390, 33-38836 and 333-05911) of UST Corp. of our reports dated January 31, 1997 and January 26, 1996 relating to the consolidated financial statements of Firestone Financial Corp., which appear in the Current Report on Form 8-K of UST Corp. dated February 6, 1998. It should be noted that we have not audited any financial statements of Firestone subsequent to December 31, 1996 or performed any audit procedures subsequent to the date of our report. ARTHUR ANDERSEN LLP Boston, Massachusetts February 5, 1998 5 EX-23.2 3 EXHIBIT 23.2 CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS As independent public accountants, we hereby consent to the incorporation in the Prospectuses constituting part of the Registration Statements on Forms S-8 and S-3 (Nos. 333-43785, 333-42123, 33-54390, 33-38836 and 333-05911) of UST Corp. of our report dated February 4, 1997 relating to the consolidated financial statements of Somerset Savings Bank as of December 31, 1996 and 1995, and for each of the years in the three-year period ended December 31, 1996, which appears in the Current Report on Form 8-K of UST Corp. dated February 6, 1998. WOLF & COMPANY, P.C. Boston, Massachusetts February 3, 1998 6 EX-23.3 4 EXHIBIT 23.3 CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS As independent public accountants, we hereby consent to the incorporation in the Prospectuses constituting part of the Registration Statements on Forms S-8 and S-3 (Nos. 333-43785, 333-42123, 33-54390, 33-38836 and 333-05911) of UST Corp. of our report dated January 15, 1997 relating to the consolidated financial statements of Affiliated Community Bancorp, Inc., which appears in the Current Report on Form 8-K of UST Corp. dated February 6, 1998. It should be noted that we have not audited any financial statements of Affiliated subsequent to December 31, 1996 or performed any audit procedures subsequent to the date of our report. ARTHUR ANDERSEN LLP Boston, Massachusetts February 5, 1998 7 EX-23.4 5 EXHIBIT 23.4 Exhibit 23.4 CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS We consent to incorporation by reference in the Prospectuses constituting part of the Registration Statements on Forms S-8 and S-3 (Nos. 333-43785, 333-42123, 33-54390, 33-38836 and 333-05911) of UST Corp. of our reports on the consolidated financial statements of the Federal Savings Bank as of December 31, 1995 and 1994 and for each of the years in the two-year period ended December 31, 1995 and on the consolidated financial statements of Main Street Community Bancorp, Inc. as of and for the year ended December 31, 1994, which reports appears in the Current Report on Form 8-K of UST Corp. dated February 6, 1998. KPMG PEAT MARWICK LLP Boston, Massachusetts February 5, 1998 8 EX-99.1 6 EXH. 99.1 UNAUDITED FINANCIAL STATEMENTE-FIRESTONE FIRESTONE FINANCIAL CORP. AND SUBSIDIARY CONSOLIDATED BALANCE SHEETS (Unaudited)
September 30, December 31, ASSETS 1997 1996 - ------ ------------- ------------ CASH $ 20,927 $ 193,652 NOTES RECEIVABLE 81,816,599 79,622,175 FINANCE LEASE RECEIVABLES 3,466,862 2,810,578 ------------ ------------ TOTAL RECEIVABLES 85,283,461 82,432,753 LESS - ALLOWANCE FOR CREDIT LOSSES 1,650,016 1,779,750 ------------ ------------ NET RECEIVABLES 83,633,445 80,653,003 OTHER ASSETS 1,446,135 1,966,777 ------------ ------------ $ 85,100,507 $ 82,813,432 ============ ============ LIABILITIES AND STOCKHOLDERS' EQUITY ------------------------------------ NOTES PAYABLE TO BANKS $ 65,439,237 $ 61,775,719 ACCOUNTS PAYABLE AND ACCRUED EXPENSES 4,336,151 3,178,730 ACCRUED INCOME TAXES 42,930 82,027 DEALER RESERVES 992,213 344,930 SUBORDINATED NOTES PAYABLE 4,000,000 ------------ ------------ TOTAL LIABILITIES 70,810,531 69,381,406 STOCKHOLDERS' EQUITY Common stock, $0.01 par value, 2,750,000 shares authorized, 2,000,000 shares outstanding 20,000 20,000 Additional paid-in-capital 1,231,000 1,231,000 Retained earnings 13,038,976 12,181,026 ------------ ------------ TOTAL STOCKHOLDERS' EQUITY 14,289,976 13,432,026 ------------ ------------ $ 85,100,507 $ 82,813,432 ============ ============
The accompanying notes are an integral part of these financial statements. -9- FIRESTONE FINANCIAL CORP. AND SUBSIDIARY CONSOLIDATED STATEMENTS OF INCOME (Unaudited)
Three Months Ended Nine Months Ended September 30, September 30, ------------------------------- ----------------------------- 1997 1996 1997 1996 ------------ ----------- ----------- ----------- INTEREST AND FEE INCOME: Interest and fees on loans $ 2,639,669 $ 2,657,325 $ 7,783,444 $ 7,915,420 Finance lease income and related fees 127,116 135,398 415,737 371,842 ------------ ----------- ----------- ----------- Total interest income 2,766,785 2,792,723 8,199,181 8,287,262 INTEREST EXPENSE 1,250,726 1,321,677 3,637,142 3,850,381 ------------ ----------- ----------- ----------- Net interest income 1,516,059 1,471,046 4,562,039 4,436,881 PROVISION FOR CREDIT LOSSES 48,000 144,000 ------------ ----------- ----------- ----------- Net interest income after provision for credit losses 1,516,059 1,423,046 4,562,039 4,292,881 NONINTEREST INCOME: Other income 250,275 286,751 947,994 751,726 ------------ ----------- ----------- ----------- Total noninterest income 250,275 286,751 947,994 751,726 NONINTEREST EXPENSE: Salaries and wages 565,432 667,196 1,699,070 1,892,991 Merger related expenses 714,150 714,150 Other operating expenses 391,890 295,993 1,290,396 874,539 ------------ ----------- ----------- ----------- Total noninterest expense 1,671,472 963,189 3,703,616 2,767,530 Income before provision for income taxes 94,862 746,608 1,806,417 2,277,077 PROVISION FOR INCOME TAXES 304,064 302,721 948,467 918,650 ------------ ----------- ----------- ----------- Net income (209,202) 443,887 857,950 1,358,427 RETAINED EARNINGS, beginning of year 12,181,026 12,181,026 12,181,026 12,181,026 ------------ ----------- ----------- ----------- RETAINED EARNINGS, end of year $ 11,971,824 $12,624,913 $13,038,976 $13,539,453 ============ =========== =========== ===========
The accompanying notes are an integral part of these financial statements. -10- FIRESTONE FINANCIAL CORP. AND SUBSIDIARY CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
Nine Months Ended September 30, 1997 1996 ------------- ------------ CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 857,950 $ 1,358,427 Adjustments to reconcile net income to net cash provided by operating activities: Loss on writedown of assets 26,033 4,473 Depreciation and amortization 86,774 77,454 Amortization of residual value (302,605) (244,805) Provision for credit losses 144,000 Income from real estate joint venture (66,978) Changes in assets and liabilities Increase in equipment held for re-lease (52,439) (28,252) Decrease in other assets 169,386 116,915 Increase (decrease) in accounts payable and accruals 1,157,421 (335,295) Increase (decrease) in accrued income taxes 235,903 (664,729) Increase (decrease) in dealers' reserves 647,283 (418,622) ------------- ------------ Net cash provided by operating activities 2,758,728 9,566 CASH FLOWS FROM INVESTING ACTIVITIES: Proceeds from sales of leases and loans 376,684 784,478 Leases funded to customers (2,157,086) (1,875,520) Loans made to customers (107,783,626) (90,869,303) Lease principal payments 1,794,382 2,473,324 Loan principal repayments 105,091,809 87,243,370 Equipment and leasehold improvements purchased (29,971) (30,374) Distributions received from real estate joint venture 112,837 36,068 ------------- ------------ Net cash used in investing activities (2,594,971) (2,237,957) CASH FLOWS FROM FINANCING ACTIVITIES: Proceeds from notes payable 58,155,559 64,252,424 Repayment of notes payable to banks (54,492,041) (62,098,573) Repayment of 1995 subordinated notes payable (4,000,000) ------------- ------------ Net cash (used in) provided by financing activities (336,482) 2,153,851 NET DECREASE IN CASH (172,725) (74,540) CASH AT BEGINNING OF YEAR 193,652 102,625 ------------- ------------ CASH AT SEPTEMBER 30, 1997 AND 1996 $ 20,927 $ 28,085 ============= ============ SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: Cash paid during the period for: Interest $ 3,946,924 $ 4,117,317 ============= ============ Income taxes $ 792,071 $ 1,583,380 ============= ============
The accompanying notes are an integral part of these consolidated financial statements. -11- FIRESTONE FINANCIAL CORP. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (1) Basis of Presentation The consolidated financial statements of Firestone Financial Corp. and its subsidiary (the "Company") included herein have been prepared by the Company, without audit. Certain information and footnote disclosure normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted. In the opinion of management, the financial statements reflect all adjustments (consisting primarily of normal recurring accruals) necessary for a fair presentation of such information. The financial statements should be read in conjunction with the Company's financial statements and notes thereto for the fiscal year ended December 31, 1996. The results of operations for the three and nine months ended September 30, 1997 and 1996 are not necessarily indicative of the results of operations for the full year or any other interim period. (2) Merger of the Company Subsequent to September 30, 1997, on October 15, 1997, the Company was acquired by UST Corp. The transaction was accounted for as a pooling of interests and was structured as a tax-free exchange of 0.59 shares of UST Corp. common stock for each of the 2.0 million issued and outstanding shares of Company common stock. As all of the regulatory contingencies related to consummation of the transaction were satisfied as of September 30, 1997, the Company recorded a one-time charge in the amount of $714 thousand in nonrecurring costs associated with the transaction. -12- EX-99.2 7 EXH. 99.2 FINANCIAL STATEMENTS-FIRESTONE 12/31/96 FIRESTONE FINANCIAL CORP. AND SUBSIDIARY CONSOLIDATED FINANCIAL STATEMENTS AS OF DECEMBER 31, 1996 AND 1995 TOGETHER WITH AUDITORS' REPORT -13- [ARTHUR ANDERSEN LLP LETTERHEAD] Report of Independent Public Accountants To the Stockholders of Firestone Financial Corp.: We have audited the accompanying consolidated balance sheets of Firestone Financial Corp. and Subsidiary as of December 31, 1996 and 1995, and the related consolidated statements of income and retained earnings and cash flows for the years then ended. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our 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, the financial statements referred to above present fairly, in all material respects, the financial position of Firestone Financial Corp. and Subsidiary as of December 31, 1996 and 1995, and the results of their operations and their cash flows for the years then ended, in conformity with generally accepted accounting principles. /s/ Arthur Andersen LLP Boston, Massachusetts January 31, 1997 -14- FIRESTONE FINANCIAL CORP. AND SUBSIDIARY CONSOLIDATED BALANCE SHEETS AS OF DECEMBER 31, 1996 AND 1995 1996 1995 ---- ---- ASSETS CASH $ 193,652 $ 102,625 ----------- ----------- NOTES RECEIVABLE (Notes 3, 4 and 10) $79,622,175 $77,653,062 FINANCE LEASE RECEIVABLES (Notes 3,4 and 10) 2,810,578 3,208,024 ----------- ----------- TOTAL RECEIVABLES $82,432,753 $80,861,086 LESS - ALLOWANCE FOR CREDIT LOSSES (Notes 3 and 7) 1,779,750 1,861,535 ----------- ----------- NET RECEIVABLES $80,653,003 $78,999,551 ----------- ----------- OTHER ASSETS (Notes 3 and 8) $ 1,966,777 $ 1,596,036 ----------- ----------- $82,813,432 $80,698,212 =========== =========== LIABILITIES AND STOCKHOLDERS' EQUITY NOTES PAYABLE TO BANKS (Notes 5 and 10) $61,775,719 $60,677,801 ACCOUNTS PAYABLE AND ACCRUED EXPENSES 3,178,730 3,460,458 ACCRUED INCOME TAXES (Notes 3 and 8) 82,027 291,558 DEALER RESERVES 344,930 932,441 SUBORDINATED NOTES PAYABLE (Notes 6 and 10) 4,000,000 4,000,000 ----------- ----------- TOTAL LIABILITIES $69,381,406 $69,362,258 ----------- ----------- COMMITMENTS AND CONTINGENCIES (Note 9) STOCKHOLDERS' EQUITY (Notes 2 and 9): Common stock, $.01 par value, 2,750,000 shares authorized, 2,000,000 shares outstanding $ 20,000 $ 20,000 Additional paid-in-capital 1,231,000 1,231,000 Retained earnings 12,181,026 10,084,954 ----------- ----------- TOTAL STOCKHOLDERS' EQUITY $13,432,026 $11,335,954 ----------- ----------- $82,813,432 $80,698,212 =========== =========== The accompanying notes are an integral part of these consolidated financial statements -15- FIRESTONE FINANCIAL CORP. AND SUBSIDIARY CONSOLIDATED STATEMENTS OF INCOME AND RETAINED EARNINGS FOR THE YEARS ENDED DECEMBER 31, 1996 AND 1995 1996 1995 ---- ---- INTEREST AND FEE INCOME (Notes 3 and 10): Interest and fees on loans $10,411,713 $ 9,754,162 Finance lease income and related fees 493,107 541,666 ----------- ----------- Total interest income $10,904,820 $10,295,828 INTEREST EXPENSE (Notes 5 and 6) 5,074,422 5,070,387 ----------- ----------- Net interest income $ 5,830,398 $ 5,225,441 PROVISION FOR CREDIT LOSSES (Notes 3 and 7) -- 280,000 ----------- ----------- Net interest income after provision for credit losses $ 5,830,398 $ 4,945,441 ----------- ----------- NONINTEREST INCOME: Accretion of purchase discount (Note 2) $ -- $ 1,223,501 Other income 1,115,843 939,368 ----------- ----------- Total noninterest income $ 1,115,843 $ 2,162,869 ----------- ----------- NONINTEREST EXPENSE: Salaries and wages (Note 3) $ 2,523,236 $ 2,394,478 Other operating expenses 1,207,070 1,250,797 ----------- ----------- Total noninterest expense $ 3,730,306 $ 3,645,275 ----------- ----------- Income before provision for income taxes $ 3,215,935 $ 3,463,035 PROVISION FOR INCOME TAXES (Notes 3 and 8) 1,119,863 667,218 ----------- ----------- Net income $ 2,096,072 $ 2,795,817 RETAINED EARNINGS, beginning of year 10,084,954 $ 7,289,137 ----------- ----------- RETAINED EARNINGS, end of year $12,181,026 $10,084,954 =========== =========== The accompanying notes are an integral part of these consolidated financial statements -16- FIRESTONE FINANCIAL CORP. AND SUBSIDIARY CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED DECEMBER 31, 1996 AND 1995 1996 1995 ---- ---- CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 2,096,072 $ 2,795,817 Adjustments to reconcile net income to net cash provided by operating activities - Accretion of purchase discount -- (1,223,501) Depreciation and amortization 97,584 117,014 Amortization of residual value (343,762) (427,382) Provision for credit losses -- 280,000 Provision (benefit) for deferred income taxes 69,628 (162,302) Loss on write-down of assets 4,473 -- Changes in assets and liabilities - (Increase) decrease in other assets (153,326) 49,966 Decrease in accounts payable and accrued expenses (281,728) (405,404) (Decrease) increase in accrued income taxes (598,631) 182,359 (Decrease) increase in dealer reserves (587,511) 562,096 ------------- ------------ Net cash provided by operating activities $ 302,799 $ 1,768,663 ------------- ------------ CASH FLOWS FROM INVESTING ACTIVITIES: Proceeds from sales of leases and loans $ 1,079,157 $ 1,697,817 Leases funded to customers (2,588,523) (2,726,443) Loans made to customers (120,219,192) (98,775,904) Lease principal repayments 3,330,199 2,863,464 Loan principal repayments 117,088,669 85,905,132 ------------- ------------ Net cash used in investing activities $ (1,309,690) $(11,035,934) ------------- ------------ The accompanying notes are an integral part of these consolidated financial statements -17- FIRESTONE FINANCIAL CORP. AND SUBSIDIARY CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED DECEMBER 31, 1996 AND 1995 (Continued) 1996 1995 ---- ---- CASH FLOWS FROM FINANCING ACTIVITIES: Proceeds from notes payable to banks $ 84,706,692 $ 71,406,447 Proceeds from issuance of the 1995 subordinated notes payable -- 1,192,000 Repayment of notes payable to banks (83,608,774) (58,127,433) Repayment of subordinated notes payable to bank -- (4,000,000) Repayment of 1992 subordinated notes payable -- (1,192,000) ------------ ------------ Net cash provided by financing activities $ 1,097,918 $ 9,279,014 ------------ ------------ NET INCREASE IN CASH $ 91,027 $ 11,743 CASH, BEGINNING OF YEAR 102,625 90,882 ------------ ------------ CASH, END OF YEAR $ 193,652 $ 102,625 ============ ============ SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: Cash paid during the year for-- Interest $ 5,039,756 $ 4,906,409 Income taxes 1,936,156 841,670 ============ ============ Noncash financing activities-- Rollover of 1992 subordinated notes payable into 1995 subordinated notes payable $ -- $ 2,808,000 ============ ============ The accompanying notes are an integral part of these consolidated financial statements -18- FIRESTONE FINANCIAL CORP. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1996 (1) Company Overview Firestone Financial Corp. (the Corporation) was founded in 1965. The Corporation and its wholly owned subsidiary, Firestone Financial Canada Ltd. (collectively referred to as the Company), provide primarily secured installment loan and lease financing to customers primarily throughout the United States and within various provinces of Canada. The Company has, over the years, built a long history of growth and profitability by focusing on a specific customer base. This customer base is composed of the "route operators" throughout North America that own (or lease) and maintain various types of coin-operated amusement equipment and vending machines, park and ride equipment, video lottery and gaming devices, as well as owner/operators of dry-cleaning stores and coin-operated laundry equipment. Vending machines include coin-operated snack, juice, cigarette, coffee and candy vending machines, while amusement equipment includes various types of coin-operated music, pinball and video amusement games, as well as pool tables, shuffleboard and electronic dart games. (2) Acquisition of the Corporation In January 1992, Stonefire Financial Corp., a Massachusetts corporation, was formed for the purpose of acquiring the Corporation. On August 21, 1992, Stonefire Financial Corp. purchased all of the outstanding stock of the Corporation for $5,250,000. On August 25, 1992, Stonefire Financial Corp. and the Corporation merged, and Firestone Financial Corp. was the surviving entity. The Corporation accounted for the acquisition by allocating the purchase price paid by Stonefire Financial Corp. to the Corporation's net assets based upon relative fair values. The fair value of the net assets acquired exceeded the purchase price by approximately $5,700,000. This purchase discount was accreted on a straight-line basis over a period of 36 months ended August 1995. (3) Summary of Significant Accounting Policies The accounting and reporting policies of the Company conform with generally accepted accounting principles and practices applicable to the finance company industry. The following is a summary of significant accounting policies: Principles of Consolidation The consolidated financial statements include the accounts of the parent company and its wholly owned subsidiary. Intercompany accounts and transactions have been eliminated in consolidation. Income Recognition The Company recognizes income from installment loans and finance leases over the term of the loan or lease using the effective-interest method. When, in the judgment of management, collection of any portion of the interest or principal amount of a receivable is in doubt, accrual of income is discontinued and income is recorded when received. -19- FIRESTONE FINANCIAL CORP. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1996 (Continued) (3) Summary of Significant Accounting Policies (Continued) Use of Estimates in the Preparation of Financial Statements The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and 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. Allowance for Credit Losses The allowance for credit losses is maintained at a level that represents the Company's best judgment of the loan and lease loss exposure based upon management's evaluation of the combined loan and lease portfolio and actual historical loss experience. The allowance for credit losses is based on estimates; ultimate losses may vary from the current estimates. These estimates are reviewed periodically, with any necessary adjustments reported in earnings in the period in which they become known. On January 1, 1995, the Company adopted Statement of Financial Accounting Standards (SFAS) No. 114, "Accounting by Creditors for Impairment of a Loan." A note receivable or finance lease receivable (loan) is considered impaired when it is probable that a creditor will be unable to collect all principal and interest due according to the contractual terms of the financing agreement. SFAS No. 114 requires, among other things, that creditors measure impaired loans at the present value of expected future cash flows, discounted at the loan's effective interest rate or, as a practical expedient, at the loan's observable market price or the fair value of the collateral if the loan is collateral dependent. The Company recognizes interest income on impaired loans on a cash basis only when the ultimate collectibility of principal is no longer considered doubtful. The Company has determined based on its policies that loans recognized as nonaccrual are equivalent to "impaired loans" as defined by SFAS No. 114. The Company has also determined that the allowance for credit losses as of December 31, 1996 and 1995 does not require an additional provision as a result of the adoption of this standard. The components of impaired loans as of December 31, 1996 and 1995 are as follows (in thousands): 1996 1995 ---- ---- Total impaired loans $527 $322 Total impaired loans requiring allocation of allowance for credit losses 105 112 Allocation of allowance for credit losses for impaired loans 83 112 The average outstanding impaired loans during the years ended December 31, 1996 and 1995 was approximately $394,000 and $597,000, respectively. -20- FIRESTONE FINANCIAL CORP. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1996 (Continued) (3) Summary of Significant Accounting Policies (Continued) Leases The Company accounts for its leases under the direct finance method of accounting. Equipment Held for Re-lease or Sale When the Company repossesses equipment under direct financing leases, it records the equipment at the lower of the net investment in the lease or the estimated fair value of the equipment less estimated selling costs. Equipment held for re-lease or sale included in "Other Assets" in the accompanying consolidated financial statements amounted to $31,751 and $13,723 at December 31, 1996 and 1995, respectively. 401(k) Plan The Company has a 401(k) plan (the Plan), established in January 1993, which covers substantially all employees. Under the Plan, employees may contribute a portion of their earnings to the Plan to be invested in various savings alternatives. The Company makes matching contributions at a rate of 100% of an employee's contribution, not to exceed 5% of an employee's salary. The matching contributions vest ratably over five years. Company contributions ($74,216 in 1996 and $71,465 in 1995) were charged to expense. Income Taxes The Company accounts for income taxes in accordance with the liability method of accounting for income taxes. The liability method provides that deferred tax assets and liabilities are recorded based on the estimated future tax effects of the difference between the tax bases of assets and liabilities and their carrying amounts for financial reporting purposes. Foreign Currency The functional currency of the subsidiary is the U.S. dollar. The subsidiary's assets, liabilities and results of operations are transacted in U.S. dollars, and hence, the subsidiary is not required to translate any amounts at the financial statement date. Translation gains and losses are charged directly to operations as incurred. Certain receivables of the subsidiary, however, are denominated in Canadian dollars. The Company, therefore, enters into forward exchange contracts to hedge against changes in the Canadian exchange rate. -21- FIRESTONE FINANCIAL CORP. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1996 (Continued) (4) Notes Receivable and Finance Lease Receivables The components of notes receivable as of December 31, 1996 and 1995 are as follows (in thousands): 1996 1995 ---- ---- Gross note payments receivable $ 88,163 $ 87,400 Less - Due to participants 1,576 2,173 -------- -------- Note payments receivable $ 86,587 $ 85,227 Less - Unearned finance charges 6,965 7,574 -------- -------- Net investment in notes receivable $ 79,622 $ 77,653 ======== ======== The Company's notes receivable are primarily with commercial borrowers and are typically secured by assets used by the borrowers in their businesses. At December 31, 1996 and 1995, the Company's notes receivable are primarily concentrated in amusement and vending equipment (approximately $72,012,000 in 1996) and inventory financing notes (approximately $7,976,000 in 1996). Included in "Note payments receivable" are interest bearing notes receivable of approximately $3,212,000 and $2,795,000 as of December 31, 1996 and 1995, respectively. The components of finance lease receivables as of December 31, 1996 and 1995 are as follows (in thousands): 1996 1995 ---- ---- Gross lease payments receivable $2,794 $3,121 Less - Due to participants 205 320 ------ ------ Lease payments receivable $2,589 $2,801 Add - Estimated residual value of leased equipment 754 996 Less - Unearned finance charges 206 259 Unearned residual income 326 330 ------ ------ Net investment in finance lease receivables $2,811 $3,208 ====== ====== (5) Notes Payable to Banks In October 1996, the Company amended its Revolving Credit Agreement (the Agreement) with its U.S. Lenders and Canadian Lender. The Agreement, which expires on October 24, 1997, provides that U.S. Lenders make U.S. Revolving Credit Loans and Swing Line Loans to the Company for up to $75,000,000 or such greater amount, up to a maximum of $85,000,000, as may be effected by the addition of one or more additional commitment amounts provided by new banks, as defined by the Agreement. The Agreement provides for interest on the U.S. Revolving Credit Loans and the Swing Line Loans to be charged at the U.S. Base rate or for interest on the U.S. Revolving Credit Loans to be charged on fixed-rate borrowings at U.S Eurodollar rates. Under the terms of the Agreement, the Banks were granted a continuing security interest in and lien on all of the Corporation's assets and -22- FIRESTONE FINANCIAL CORP. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1996 (Continued) (5) Notes Payable to Banks (Continued) proceeds thereof. As of December 31, 1996, the Company had approximately $58,606,000 in outstanding U.S. Revolving Credit and Swing Line Loans. At December 31, 1996, a total of $56,500,000 of the U.S. Revolving Credit Loans was borrowed as fixed-rate U.S. Eurodollar term loans. These term loans mature on various dates through April 21, 1997, with fixed interest rates ranging from 6.5625% to 6.875%. The U.S. Base rate on the remaining portion of the outstanding loans was 8.25% at December 31, 1996. The Agreement further provides that the Canadian Lender make Canadian Revolving Credit Loans to the subsidiary for up to $5,000,000 or such greater amount, up to a maximum of $6,000,000, as defined by the Agreement. Interest on the Canadian Revolving Credit Loans is charged at the Canadian Base rate or at Canadian Eurodollar rates for fixed-rate borrowings. Under the terms of the Agreement, the Company pledged certain assets of the subsidiary to the Canadian Lender. As of December 31, 1996, the subsidiary had approximately $3,170,000 in outstanding Canadian Revolving Credit Loans. A total of $2,600,000 of the Canadian Revolving Credit Loans was borrowed as fixed-rate Canadian Eurodollar term loans at December 31, 1996. These term loans mature at dates through April 21, 1997, at a fixed Canadian Eurodollar rate of 6.875%. The Canadian Base rate on the remaining portion of the outstanding loans was 8.75% at December 31, 1996. The Agreement also calls for a commitment fee of 1/4% of the unused portion of the facility. The Agreement contains various restrictive covenants, including, among other things, restrictions on indebtedness, liens, dividends and investments. The Company is also required to maintain certain financial ratios under the covenants. As of December 31, 1996, the Company was in compliance with all debt covenants. Based on the month-end balances, total borrowings during 1996 and 1995 averaged approximately $61,015,000 and $55,129,000, respectively, for outstanding indebtedness under the Agreement, with maximum borrowings of approximately $64,280,000 and $60,678,000 in 1996 and 1995, respectively. The weighted average effective interest rate for this debt was 7.67% and 8.27% for the years ended December 31, 1996 and 1995, respectively. (6) Subordinated Notes Payable During October 1985 and March 1988, the Corporation entered into two subordinated note agreements for $2,000,000 each with an investor, to mature in October 1995 and March 1995, respectively. Under the terms of these agreements, as amended, interest was accrued and paid monthly on the 1985 note at 9.26% and on the 1988 note at a rate equal to a base rate as announced from time to time by the investor. Each of the notes was repaid in full in March 1995. -23- FIRESTONE FINANCIAL CORP. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1996 (Continued) (6) Subordinated Notes Payable (Continued) On October 28, 1992, the Corporation issued $4,000,000 in subordinated notes payable (1992 Subordinated Notes) to 37 investors, to mature on October 28, 1996. Interest on the 1992 Subordinated Notes was accrued at 12% per annum and paid quarterly in arrears. On November 9, 1995, the outstanding balance of the 1992 Subordinated Notes was prepaid in full without penalty. On November 10, 1995, the Corporation issued $4,000,000 in subordinated notes payable (1995 Subordinated Notes) to 41 investors. Interest on the 1995 Subordinated Notes is floating based upon the prime rate of interest announced from time to time by a bank, plus one and three quarters percent (1.75%) per annum, (10% as of December 31, 1996), payable quarterly in arrears. The Corporation will further make principal payments as follows: 1997 and 1998 $125,000 on the last day of each calendar quarter ($500,000 for each year) 1999 and 2000 $375,000 on the last day of each calendar quarter ($1,500,000 for each year) Under the terms of the 1995 Subordinated Notes, the Corporation may prepay the 1995 Subordinated Notes, at any time, without premium or penalty. Certain of the 1992 Subordinated Notes and the 1995 Subordinated Notes were purchased by individuals that are related parties to the Corporation. All such Notes were purchased on the same terms offered to nonrelated parties. Certain of the 1992 Subordinated Notes ($2,808,000) were repaid through issuance of the 1995 Subordinated Notes. Based on the month-end outstanding balances of notes payable to banks and subordinated notes payable, total borrowings during the years ended December 31, 1996 and 1995 averaged approximately $65,015,000 and $59,796,000, with maximum borrowings of approximately $68,280,000 and $64,678,000 in 1996 and 1995, respectively. The weighted average effective interest rate for all outstanding indebtedness was 7.89% and 8.53% for the years ended December 31, 1996 and 1995, respectively. (7) Allowance for Credit Losses The following is an analysis of the allowance for credit losses for the years ended December 31, 1996 and 1995 (in thousands): 1996 1995 ---- ---- Balance, beginning of year $ 1,862 $ 1,631 Provision for credit losses -- 280 Loan and lease charge-offs, net (82) (49) ------- ------- Balance, end of year $ 1,780 $ 1,862 ======= ======= -24- FIRESTONE FINANCIAL CORP. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1996 (Continued) (8) Income Taxes The provision for income taxes consists of the following components (in thousands): 1996 1995 ---- ---- Currently payable- Federal $ 841 $ 547 State 163 235 Foreign 46 47 ------ ----- Total current $1,050 $ 829 ------ ----- Deferred charges (credits)- Federal $ 55 $(129) State 15 (33) ------ ----- Total deferred $ 70 $(162) ------ ----- Provision for income taxes $1,120 $ 667 ====== ===== The difference between the statutory U. S. federal income tax rate and the Company's effective income tax rate for 1996 and 1995, respectively, as a percentage of pretax income, is a result of the following: 1996 1995 ---- ---- Federal statutory rate 34.0% 34.0% Increase (decrease) in rate resulting from - State taxes, net of federal benefit 3.7 3.9 Accretion of purchase discount -- (12.2) Reversal of tax reserves in excess of tax liabilities (3.3) (7.3) Other .4 1.1 ---- ---- Effective income tax rate 34.8% 19.5% ---- ---- ---- ---- "Other Assets" in the accompanying consolidated financial statements includes an income tax receivable of $363,000 and $0, and net deferred income tax assets of approximately $662,000 and $731,000 as of December 31, 1996 and 1995, respectively. Deferred taxes are determined based on the estimated future tax effects of differences between the financial statement and tax bases of assets and liabilities given the provisions of enacted tax laws. The tax effect of significant temporary differences representing deferred tax assets and liabilities are as follows (in thousands): 1996 1995 ---- ---- Credit losses $699 $739 Depreciation (2) 5 Leases (2) 60 Other (33) (73) ---- ---- $662 $731 ==== ==== -25- FIRESTONE FINANCIAL CORP. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1996 (Continued) (8) Income Taxes (Continued) The Company has not established a valuation allowance against its deferred tax assets as of December 31, 1996 or 1995. (9) Commitments and Contingencies The Company leases office premises under an operating lease that was renewed in January 1995 for a five-year period. The future minimum lease payments due under this lease are as follows (in thousands): 1997 $ 187 1998 192 1999 197 2000 171 ---- $747 ==== On February 4, 1994, the Corporation entered into a Buy-Sell Agreement with the Stockholders of the Corporation which provides for the purchase of the shares of the capital stock of the Corporation owned by each stockholder upon his or her death. In order to fund the Buy-Sell Agreement, the Corporation has purchased renewable term life insurance on each stockholder. As of December 31, 1996, the insurance proceeds would be sufficient to cover the purchase price in the event of the death of any stockholder. (10) Financial Instruments Fair Value of Financial Instruments Effective December 31, 1995, the Company adopted Statement of Financial Accounting Standards No. 107, "Disclosures About Fair Value of Financial Instruments," which requires that the Company disclose estimated fair values for certain of its financial instruments. Financial instruments include such items as loans, securities, deposits, swaps, and other instruments, as defined in the standard. The estimated fair value amounts have been determined based on the Company's assessment of available market information and appropriate valuation methodologies. However, these estimates may not necessarily be indicative of the amount that the Company could realize in a current market exchange. Most of the Company's current assets and current liabilities are financial instruments. The carrying amounts of these financial instruments approximate their estimated fair value. The fair value of notes and finance lease receivables have been determined by discounting the projected cash flows at December 31, 1996, using the current rates at which similar loans would be made to borrowers with similar credit ratings and for similar maturities. The majority of these receivables are collateralized. -26- FIRESTONE FINANCIAL CORP. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1996 (Continued) (10) Financial Instruments (Continued) Fair Value of Financial Instruments (Continued) Notes payable to banks was valued based on quoted market prices for debt of the same remaining maturities. Off-Balance Sheet Risk As of December 31, 1996 and 1995, the Company had forward exchange contracts totaling approximately $649,000 and $620,000, respectively, for purposes of hedging certain firm commitments related to the subsidiary's collection of Canadian notes receivable. All outstanding forward exchange contracts had maturities of under three years. Gains and losses on these forward exchange contracts are deferred and recognized into interest income over the term of the underlying commitment. The market values of the forward exchange contracts were approximately $661,000 and $621,000 at December 31, 1996 and 1995, respectively. In November 1995, the Company entered into an interest rate swap agreement (the Swap Agreement) with a bank for the purpose of effectively converting a portion of the Company's interest rate obligation on 1995 Subordinated Notes from a floating rate to a fixed rate until the expiration of the Swap Agreement in December 1998. The Swap Agreement effectively fixes the Company's interest rate on the 1995 Subordinated Notes to 10.42% on the notional amount of $4,000,000, as reduced by quarterly principal payments beginning in 1997. Net quarterly payments or quarterly receipts under the Swap Agreement are recorded as adjustments to interest expense. The fair value of the Swap Agreement at December 31, 1996 and 1995 was an unrealized loss of approximately $8,000 and $65,000, respectively. In assessing financial instruments with off-balance-sheet risk, the Company is exposed to potential credit loss in the event of nonperformance by its counterparties. The Company, however, does not anticipate any material adverse affect on its financial position resulting from its involvement in these instruments, nor does it anticipate nonperformance by the counterparties. -27- EX-99.3 8 EXH. 99.3 FINANCIAL STATEMENTS-FIRESTONE 12/31/95 FIRESTONE FINANCIAL CORP. AND SUBSIDIARY CONSOLIDATED FINANCIAL STATEMENTS AS OF DECEMBER 31, 1995 AND 1994 TOGETHER WITH AUDITORS' REPORT 28 [ARTHUR ANDERSEN LLP LETTERHEAD] Report of Independent Public Accountants To the Stockholders of Firestone Financial Corp.: We have audited the accompanying consolidated balance sheets of Firestone Financial Corp. and Subsidiary as of December 31, 1995 and 1994, and the related consolidated statements of income and retained earnings and cash flows for the years then ended. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our 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, the financial statements referred to above present fairly, in all material respects, the financial position of Firestone Financial Corp. and Subsidiary as of December 31, 1995 and 1994, and the results of their operations and their cash flows for the years then ended, in conformity with generally accepted accounting principles. /s/ Arthur Andersen LLP Boston Massachusetts January 26, 1996 29 FIRESTONE FINANCIAL CORP. AND SUBSIDIARY CONSOLIDATED BALANCE SHEET - ASSETS AS OF DECEMBER 31, 1995 AND 1994 1995 1994 ---- ---- CASH $ 102,256 $ 90,882 ----------- ----------- NOTES RECEIVABLE (Notes 3, 4 and 10) $77,653,062 $66,534,179 FINANCE LEASE RECEIVABLES (Notes 3,4 and 10) 3,208,024 2,912,623 ----------- ----------- TOTAL RECEIVABLES $80,861,086 $69,446,802 LESS - ALLOWANCE FOR CREDIT LOSSES (Notes 3 and 7) 1,861,535 1,630,567 ----------- ----------- NET RECEIVABLES $78,999,551 $67,816,235 ----------- ----------- OTHER ASSETS (Notes 3 and 8) $ 1,596,036 1,600,714 ----------- ----------- $80,698,212 $69,507,831 =========== =========== The accompanying notes are an integral part of these consolidated financial statements 30 FIRESTONE FINANCIAL CORP. AND SUBSIDIARY CONSOLIDATED BALANCE SHEETS - LIABILITIES AND STOCKHOLDERS' EQUITY AS OF DECEMBER 31, 1995 AND 1994 1995 1994 ---- ---- NOTES PAYABLE TO BANKS (Note 5) $60,677,801 $47,398,787 ACCOUNTS PAYABLE AND ACCRUED EXPENSES 3,460,458 3,865,862 ACCRUED INCOME TAXES (Notes 3 and 8) 291,558 109,199 DEALER RESERVES 932,441 370,345 SUBORDINATED NOTES PAYABLE (Notes 6 and 10) 4,000,000 8,000,000 ----------- ----------- TOTAL LIABILITIES $69,362,258 $59,744,193 ----------- ----------- COMMITMENTS AND CONTINGENCIES (Note 9) EXCESS OF FAIR VALUE OVER NET ASSETS ACQUIRED (Note 2) $ -- $ 1,223,501 ----------- ----------- STOCKHOLDERS EQUITY (Notes 2 and 9): Common stock, $.0l par value, 2,750,000 shares authorized, 2,000,000 shares outstanding $ 20,000 $ 20,000 Additional paid-in-capital 1,231,000 1,231,000 Retained earnings 10,084,954 7,289,137 ----------- ----------- TOTAL STOCKHOLDERS' EQUITY $11,335,954 $ 8,540,137 ----------- ----------- $80,698,212 $69,507,831 =========== =========== The accompanying notes are an integral part of these consolidated financial statements 31 FIRESTONE FINANCIAL CORP. AND SUBSIDIARY CONSOLIDATED STATEMENTS OF INCOME AND RETAINED EARNINGS FOR THE YEARS ENDED DECEMBER 31, 1995 AND 1994 1995 1994 ---- ---- INTEREST AND FEE INCOME (Note 3 and 10): Interest and fees on loans $ 9,754,162 $8,102,121 Finance lease income and related fees 541,666 469,117 ----------- ---------- Total interest income $10,295,828 $8,571,238 INTEREST EXPENSE (Notes 5 and 6) 5,070,387 3,866,822 ----------- ---------- Net interest income $ 5,225,441 $4,704,416 PROVISION FOR CREDIT LOSSES (Notes 3 and 7) 280,000 193,000 ----------- ---------- Net interest income after provision for credit losses $ 4,945,441 $4,511,416 ----------- ---------- NONINTEREST INCOME: Accretion of purchase discount (Note 2) $ 1,223,501 $1,912,356 Other income 939,368 928,905 ----------- ---------- Total noninterest income $ 2,162,869 $2,841,261 ----------- ---------- NONINTEREST EXPENSE: Salaries and wages $ 2,394,478 $2,166,246 Other operating expenses 1,250,797 1,361,318 ----------- ---------- Total noninterest expense $ 3,645,275 $3,527,564 ----------- ---------- Income before provision for income taxes $ 3,463,035 $3,825,113 PROVISION FOR INCOME TAXES (Notes 3 and 8) 667,218 785,999 ----------- ---------- Net income $ 2,795,817 $3,039,114 RETAINED EARNINGS, beginning of year 7,289,137 4,250,023 ----------- ---------- RETAINED EARNINGS, end of year $10,084,954 $7,289,137 =========== ========== The accompanying notes are an integral part of these consolidated financial statements 32 FIRESTONE FINANCIAL CORP. AND SUBSIDIARY CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED DECEMBER 31, 1995 AND 1994 1995 1994 ---- ---- CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 2,795,817 $ 3,039,114 Adjustments to reconcile net income to net cash provided by operating activities - Accretion of purchase discount (1,223,501) (1,912,356) Depreciation and amortization 117,014 216,569 Amortization of residual value (427,382) (186,445) Provision for credit losses 280,000 193,000 Provision for prepaid income taxes (162,302) (82,971) Loss on write-down of assets -- 1,878 Changes in assets and liabilities - Decrease (increase) in other assets 49,966 (757) (Decrease) increase in accounts payable and accrued expenses (405,404) 1,308,216 Increase in accrued income taxes 182,359 137,125 Increase in dealer reserves 562,096 94,428 ------------ ------------ Net cash provided by operating activities $ 1,768,663 $ 2,807,801 ============ ============ CASH FLOWS FROM INVESTING ACTIVITIES: Proceeds from sales of leases and loans $ 1,697,817 $ 3,151,486 Leases funded to customers (2,726,443) (1,847,492) Loans made to customers (98,775,904) (90,414,013) Lease principal repayments 2,863,464 2,070,674 Loan principal repayments 85,905,132 74,294,895 ------------ ------------ Net cash used in investing activities $(11,035,934) $(12,744,450) ============ ============ The accompanying notes are an integral part of these consolidated financial statements 33 FIRESTONE FINANCIAL CORP. AND SUBSIDIARY CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED DECEMBER 31, 1995 AND 1994 (Continued) 1995 1994 ---- ---- CASH FLOWS FROM FINANCING ACTIVITIES: Proceeds from notes payable to banks $ 71,406,447 $ 154,919,123 Proceeds from issuance of the 1995 subordinated notes payable 1,192,000 -- Repayment of notes payable to banks (58,127,433) (144,908,143) Repayment of subordinated notes payable to bank (4,000,000) -- Repayment of 1992 subordinated notes payable (1,192,000) -- ------------ ------------- Net cash provided by financing activities $ 9,279,014 $ 10,010,980 ------------ ------------- NET INCREASE IN CASH $ 11,743 $ 74,331 CASH AT BEGINNING OF YEAR 90,882 16,551 ------------ ------------- CASH AT END OF YEAR $ 102,625 $ 90,882 ============ ============= SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: Cash paid during the year for: Interest $ 4,906,409 $ 3,696,437 Income taxes 841,670 731,845 ============ ============= Noncash financing activities: Rollover of 1992 subordinated notes payable into 1995 subordinated notes payable $ 2,808,000 $ -- ============ ============= The accompanying notes are an integral part of these consolidated financial statements 34 FIRESTONE FINANCIAL CORP. AND SUBSIDIARY NOTES TO CONS0LIDATED FINANCIAL STATEMENTS DECEMBER 31, 1995 (1) Company Overview Firestone Financial Corp. (the Corporation) was founded in 1965. The Corporation and its wholly owned subsidiary, Firestone Financial Canada Ltd. (collectively referred to as the Company), provide primarily secured installment loan and lease financing to customers primarily throughout the United States and within various provinces of Canada. The Company has, over the years, built a long history of growth and profitability by focusing on a specific customer base. This customer base is composed of the "route operators" throughout North America that own (or lease) and maintain various types of coin-operated amusement equipment and vending machines, park and ride equipment, video lottery and gaming devices, as well as owner/operators of dry-cleaning stores and coin-operated laundry equipment. Vending machines include coin-operated snack, juice, cigarette, coffee and candy vending machines, while amusement equipment includes various types of coin-operated music, pinball and video amusement games, as well as pool tables, shuffleboard and electronic dart games. (2) Acquisition of the Corporation and Formation of a Subsidiary In January 1992, Stonefire Financial Corp., a Massachusetts corporation, was formed for the purpose of acquiring the Corporation. On August 21, 1992, Stonefire Financial Corp. purchased all of the outstanding stock of the Corporation for $5,250,000. The Corporation accounted for the acquisition by allocating the purchase price paid by Stonefire Financial Corp. to the Corporation's net assets based upon relative fair values. The fair value of the net assets acquired exceeded the purchase price by approximately $5,700,000. This purchase discount was accreted, on a straight-line basis, over a period of 36 months ended August 1995. Stonefire Financial Corp. was capitalized with $1,251,000 and had a net operating loss of $33,625 prior to the acquisition of the Corporation. On August 25, 1992, Stonefire Financial Corp. and the Corporation merged, and Firestone Financial Corp. was the surviving entity. In February 1994, the Corporation formed a wholly owned subsidiary, Firestone Financial Canada Ltd., whose purpose is to provide financing in all the provinces of Canada. (3) Summary of Significant Accounting Policies The accounting and reporting policies of the Company conform with generally accepted accounting principles and practices applicable to the finance company industry. The following is a summary of the significant accounting policies: 35 FIRESTONE FINANCIAL CORP. AND SUBSIDIARY NOTES TO CONS0LIDATED FINANCIAL STATEMENTS DECEMBER 31, 1995 (Continued) (3) Summary of Significant Accounting Policies (Continued) Principles of Consolidation The consolidated financial statements include the accounts of the parent company and its wholly owned subsidiary. Intercompany accounts and transactions have been eliminated in consolidation. Income Recognition The Company recognizes income from installment loans and finance leases over the term of the loan or lease using the effective interest method. When, in the judgment of management, collection of any portion of the interest or principal amount of a receivable is in doubt, accrual of income is discontinued and income is recorded when received. Use of Estimates in the Preparation of Financial Statements The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and 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. Allowance for Credit Losses The allowance for credit losses is maintained at a level that represents the Company's best judgment of the loan and lease loss exposure based upon management's evaluation of the combined loan and lease portfolio and actual historical loss experience. The allowance for credit losses is based on estimates; ultimate losses may vary from the current estimates. These estimates are reviewed periodically with any necessary adjustments reported in earnings in the periods in which they become known. On January 1, 1995, the Company adopted Statement of Financial Accounting Standards (SFAS) No. 114, "Accounting for Impairment of a Loan." A note receivable or finance lease receivable (loan) is considered impaired when it is probable that a creditor will be unable to collect all principal and interest due according to the contractual terms of the financing agreement. SFAS No. 114 requires, among other things, that creditors measure impaired loans at the present value of expected future cash flows, discounted at the loan's effective interest rate or, as a practical expedient at the loan's observable market price or the fair value of the collateral if the loan is collateral dependent. The Company will recognize interest income on impaired loans on a cash basis only when the ultimate collectibility of principal is no longer considered doubtful. 36 FIRESTONE FINANCIAL CORP. AND SUBSIDIARY NOTES TO CONS0LIDATED FINANCIAL STATEMENTS DECEMBER 31, 1995 (Continued) (3) Summary of Significant Accounting Policies (Continued) Allowance for Credit Losses (Continued) The Company has determined based on its policies that loans recognized as nonaccrual, are equivalent to "impaired loans" as defined by SFAS No. 114. The Company has also determined that the allowance for credit losses as of December 31, 1995 did not require an additional provision as a result of the adoption of this new standard. At December 31, 1995, the Company had approximately $322,000 of total impaired net receivables of which approximately $112,000 required allocation of the allowance for credit losses of approximately $112,000. The average outstanding impaired net receivables during the year ended December 31, 1995 was approximately $597,000. Leases The Company accounts for its leases under the direct finance method of accounting. Equipment Held for Re-lease or Sale When the Company repossesses equipment under direct financing leases, it records the equipment at the lower of the net investment in the lease or estimated market value less estimated selling costs. Equipment held for re-lease or sale included in Other Assets amounted to $13,723 and $161,892 at December 31, 1995 and 1994, respectively. Income Taxes The Company accounts for income taxes in accordance with the liability method in accounting for income taxes. The liability method provides that deferred tax assets and liabilities are recorded based on the estimated future tax effects of the difference between the tax bases of assets and liabilities and their carrying amounts for financial reporting purposes. Foreign Currency In accordance with the provisions of Statement of Financial Accounting Standards No. 52 "Foreign Currency Translation," the functional currency of the subsidiary is the U.S. dollar. The subsidiary's assets, liabilities and results of operations are transacted in U.S. dollars, and hence, the subsidiary is not required to translate any amounts at the financial statement date. Translation gains and losses are charged directly to operations as incurred. Certain receivables of the subsidiary, however, are denominated in Canadian dollars. The Company, therefore, enters into forward exchange contracts to hedge against changes in the Canadian exchange rate. 37 FIRESTONE FINANCIAL CORP. AND SUBSIDIARY NOTES TO CONS0LIDATED FINANCIAL STATEMENTS DECEMBER 31, 1995 (Continued) (4) Notes Receivable and Finance Lease Receivables The components of notes receivable as of December 31, 1995 and 1994 are as follows (in thousands): 1995 1994 ---- ---- Gross note payments receivable $87,400 $76,425 Less - Due to participants 2,173 2,884 ------- ------- Note payments receivable $85,227 $73,541 Less - Unearned finance charges 7,574 7,007 ------- ------- Net investment in notes receivable $77,653 $66,534 ======= ======= The Company's notes receivable are primarily with commercial borrowers and are typically secured by assets used by the borrowers in their businesses. The contractual maturities of notes receivable as of December 31, 1995 and the maximum terms of the loans outstanding were as follows (in thousands): Interest- Installment bearing Total ----------- ------- ----- Due within - 1 year $60,959 $ 1,376 $62,335 2 years 17,512 410 17,922 3 years 3,370 379 3,749 4 years 497 249 746 5 years 94 161 255 Thereafter -- 220 220 ------- ------- ------- $82,432 $ 2,795 $85,227 ======= ======= ======= Maximum original term (months) 72 84 == == Experience has shown that a number of loans will be paid out or renewed prior to their contractual maturity. Accordingly, the foregoing tabulation is not regarded as a forecast of future cash collections. 38 FIRESTONE FINANCIAL CORP. AND SUBSIDIARY NOTES TO CONS0LIDATED FINANCIAL STATEMENTS DECEMBER 31, 1995 (Continued) (4) Notes Receivable and Finance Lease Receivables (Continued) The concentration of notes receivable at December 31, 1995 and 1994 is presented in the following table (in thousands): 1995 1994 ---- ---- Amusement and vending equipment $65,468 $55,558 Video lottery and other gaming devices 6,964 9,254 Inventory financing 6,081 645 Laundry equipment 4,312 6,978 Office coffee equipment 599 566 Other 1,803 540 ------- ------- $85,227 $73,541 ======= ======= A major consideration in granting loans is the value of the borrower's collateral. The loans made by the Company generally range between $3,000 and $500,000. The Company has aggregate loans in excess of $1,000,000 to two borrowers for an aggregate outstanding loan balance of $3,218,358 at December 31, 1995. These contracts are secured by the equipment. The value of the collateral has been determined based upon appraisals that have been reviewed by Company personnel. In addition, all contracts for these borrowers are made on a recourse basis, with the distributor of the collateral fully guaranteeing the related debt. In the opinion of management, the current net realizable value of the collateral supporting these contracts is adequate in relation to their outstanding balances. The components of finance lease receivables as of December 31, 1995 and 1994 are as follows (in thousands): 1995 1994 ---- ---- Gross lease payments receivable $3,121 $3,156 Less - Due to participants 320 406 ------ ------ Lease payments receivable $2,801 $2,750 Add - Estimated residual value of leased equipment 996 702 Less - Unearned finance charges 259 217 Unearned residual income 330 322 ------ ------ Net investment in finance lease receivables $3,208 $2,913 ====== ====== 39 FIRESTONE FINANCIAL CORP. AND SUBSIDIARY NOTES TO CONS0LIDATED FINANCIAL STATEMENTS DECEMBER 31, 1995 (Continued) (4) Notes Receivable and Finance Lease Receivables (Continued) The future minimum finance lease payments receivable as of December 31, 1995 are as follows (in thousands): 1996 $ 1,799 1997 666 1998 229 1999 90 2000 17 ------ $2,801 ====== The concentration of minimum lease payments receivable at December 31, 1995 and 1994, by type of equipment, is presented in the following table (in thousands): 1995 1994 ---- ---- Dairy equipment $1,237 $1,240 Amusement and vending equipment 1,088 894 Laundry equipment 476 616 ------ ------ $2,801 $2,750 ====== ====== As of December 31, 1995 and 1994, the geographical distribution of combined notes receivable and finance lease receivables, net of unearned finance charges and income, was as follows (in thousands): 1995 1994 ---- ---- Region - ------ Southeast $16,669 $15,567 Midwest 14,195 9,419 West 13,313 12,262 Northeast 12,749 14,156 Southwest 6,694 3,377 Mid-Atlantic 5,873 6,016 Plains States 3,385 3,015 Canada 3,624 2,754 Outside U.S.A. (excluding Canada) 4,359 2,881 ------- ------- $80,861 $69,447 ======= ======= 40 FIRESTONE FINANCIAL CORP. AND SUBSIDIARY NOTES TO CONS0LIDATED FINANCIAL STATEMENTS DECEMBER 31, 1995 (Continued) (5) Notes Payable to Banks In October 1995, the Company amended its Revolving Credit Agreement (the Agreement) with The First National Bank of Boston (FNBB), National Bank of Canada (the Canadian Lender), and various other banks and financial institutions (U.S. Lenders)--collectively with FNBB and the Canadian Lender (the Banks)--and FNBB in its capacity as agent for the Banks. The Agreement, which expires on October 25, 1996, provides that U.S. Lenders make U.S. Revolving Credit Loans and Swing Line Loans to the Company for up to $67,500,000 or such greater amount, up to a maximum of $77,500,000 as may be effected by the addition of one or more additional commitment amounts provided by new banks as defined by the Agreement. The Agreement provides for interest on the U.S. Revolving Credit Loans and the Swing Line Loans to be charged at the U.S. Base rate or for interest on the U.S. Revolving Credit Loans to be charged on fixed-rate borrowings at U.S. Eurodollar rates. Under the terms of the Agreement, the Banks were granted a continuing security interest in and lien on all of the Corporation's assets and proceeds thereof. The Agreement further provides that the Canadian Lender make Canadian Revolving Credit Loans to the subsidiary for up to $5,000,000 or such greater amount, up to a maximum of $6,000,000 as defined by the Agreement. Interest on the Canadian Revolving Credit Loans is charged at the Canadian Base rate or at Canadian Eurodollar rates for fixed rate borrowings. Under the terms of the Agreement, the Company pledged certain assets of the subsidiary to the Canadian Lender. As of December 31, 1995, the amounts available and the loan balances under the Agreement were as follows (in thousands): Commitment Loan Amounts Balances ------- -------- U.S. Lenders - The First National Bank of Boston $ 23,000 $ 19,992 Fleet Bank of Massachusetts, N.A. 18,000 14,461 NatWest Bank N.A. 13,500 11,735 Citizens Bank of Massachusetts 6,500 5,650 National Bank of Canada 6,500 5,650 ------- ------- $67,500 $57,488 ======= ======= Canadian Lender - National Bank of Canada 5,000 3,190 ------- ------- Total $72,500 $60,678 ======= ======= The Agreement also calls for a commitment fee of 3/8% of the unused portion of the facility. 41 FIRESTONE FINANCIAL CORP. AND SUBSIDIARY NOTES TO CONS0LIDATED FINANCIAL STATEMENTS DECEMBER 31, 1995 (Continued) (5) Notes Payable to Banks (Continued) At December 31, 1995, a total of $54,500,000 of the U.S. Revolving Credit Loans was borrowed as fixed-rate U.S. Eurodollar term loans. These term loans mature on various dates through April 24, 1996, with fixed interest rates ranging from 7.375% to 7.625%. The U.S. Base rate on the remaining portion of the outstanding loans was 8.5% at December 31, 1995. A total of $2,750,000 of the Canadian Revolving Credit Loans was borrowed as fixed-rate Canadian Eurodollar term loans at December 31, 1995. These term loans mature at dates through February 26, 1996, with fixed Canadian Eurodollar rates ranging from 7.4375% to 7.5%. The Canadian Base rate on the remaining portion of the outstanding loans was 9% at December 31, 1995. The Agreement contains various restrictive covenants including, among other things, restrictions on indebtedness, liens, dividends and investments. This Company is also required to maintain certain financial ratios under the covenants. As of December 1995, the Company was in compliance with all debt covenants. Based on the month-end balances, total borrowings during 1995 and 1994 averaged approximately $55,129,000 and $44,842,000, respectively, for outstanding indebtedness under the Agreement, with maximum borrowings of approximately $60,678,000 and $48,323,000 in 1995 and 1994, respectively. The weighted average effective interest rate for this debt was 8.27% and 6.90% for the years ended December 31, 1995 and 1994, respectively. (6) Subordinated Notes Payable As of December 31, 1995 and 1994, subordinated notes payable were comprised of the following (in thousands): 1995 1994 ---- ---- Subordinated Notes Payable to New Bedford Institution for Savings $ -- $4,000 Subordinated Notes Payable to Investors 4,000 4,000 ------ ------ $4,000 $8,000 ====== ====== During October 1985 and March 1988, the Corporation entered into two subordinated note agreements for $2,000,000 each with PT Investment Corporation to mature in October 1995 and March 1995, respectively. Under a Purchase and Assumption agreement between New Bedford 42 FIRESTONE FINANCIAL CORP. AND SUBSIDIARY NOTES TO CONS0LIDATED FINANCIAL STATEMENTS DECEMBER 31, 1995 (Continued) (6) Subordinated Notes Payable (Continued) Institution for Savings (NBIS) and the Federal Deposit Insurance Corp., NBIS assumed these subordinated notes payable as of August 21, 1992. Under the terms of these agreements, as amended on September 30, 1993, interest was accrued and paid monthly on the 1985 note at 9.26% and on the 1988 note at a rate equal to the base rate as announced from time to time by NBIS. Each of the notes was repaid in full in March 1995. On October 28, 1992, the Corporation issued $4,000,000 in subordinated notes payable (1992 Subordinated Notes) to 37 investors to mature on October 28, 1996. Interest on the 1992 Subordinated Notes was accrued at 12% per annum and paid quarterly in arrears. On November 9, 1995, the 1992 Subordinated Notes were prepaid in full without penalty. In connection with the issuance of the 1992 Subordinated Notes, the Corporation also issued to the investors warrants to purchase an aggregate of 500,000 shares of the Corporation's common stock. On December 9, 1995, all the warrants expired unexercised. On November 10, 1995, the Corporation issued $4,000,000 in subordinated notes payable (1995 Subordinated Notes) to 41 investors. Interest on the 1995 Subordinated Notes is floating based upon the prime rate of interest announced from time to time by The First National Bank of Boston, plus one and three quarters percent (1.75%) per annum, (10.25% as of December 31, 1995), payable quarterly in arrears. The Corporation will further make principal payments as follows: 1997 and 1998 $125,000 on the last day of each calendar quarter ($500,000 for each year) 1999 and 2000 $375,000 on the last day of each calendar quarter ($1,500,000 for each year) Under the terms of the 1995 Subordinated Notes, the Corporation may prepay the 1995 Subordinated Notes at any time, without premium or penalty. Certain of the 1992 Subordinated Notes and the 1995 Subordinated Notes were purchased by individuals that are related parties to the Corporation. All such Notes were purchased on the same terms offered to nonrelated parties. Certain of the 1992 Subordinated Notes ($2,808,000) were repaid through issuance of the 1995 Subordinated Notes. Based on the month-end outstanding balances of notes payable to banks and subordinated notes payable, total borrowings during the years ended December 31, 1995 and 1994 averaged approximately $59,796,000 and $52,842,000 with maximum borrowings of approximately 43 FIRESTONE FINANCIAL CORP. AND SUBSIDIARY NOTES TO CONS0LIDATED FINANCIAL STATEMENTS DECEMBER 31, 1995 (Continued) (6) Subordinated Notes Payable (Continued) $64,678,000 and $56,323,000 in 1995 and 1994, respectively. The weighted average effective interest rate for all outstanding indebtedness was 8.53% and 7.40% for the years ended December 31, 1995 and 1994. (7) Allowance for Credit Losses The following is an analysis of the allowance for credit losses for the years ended December 31, 1995 and 1994 (in thousands): 1995 1994 ---- ---- Balance, beginning of year $ 1,631 $1,509 Provision for credit losses 280 193 Loan and lease charge-offs, net of amounts recovered (49) (71) ------- ------ Balance, end of year $ 1,862 $1,631 (8) Income Taxes The provision for income taxes consists of the following components (in thousands): 1995 1994 ---- ---- Currently payable - Federal $ 547 $ 670 State 235 196 Foreign 47 3 ---- ---- Total current $ 829 $ 869 ---- ---- Deferred charges (credits)- Federal (129) (68) State (33) (15) ---- ---- Total deferred $(162) $ (83) ---- ---- Provision for income taxes $ 667 $ 786 ===== ===== 44 FIRESTONE FINANCIAL CORP. AND SUBSIDIARY NOTES TO CONS0LIDATED FINANCIAL STATEMENTS DECEMBER 31, 1995 (Continued) (8) Income Taxes (Continued) The difference between the statutory U.S. federal income tax rate and the Company's effective income tax rate for 1995 and 1994, respectively, as a percentage of pretax income, is a result of the following: 1995 1994 ---- ---- Federal statutory rate 34.0% 34.0% Increase (decrease) in rate resulting from - State taxes, net of federal benefit 3.9 3.0 Accretion of purchase discount (12.2) (17.0) Reversal of tax reserves in excess of tax liabilities (7.3) -- Other 1.1 0.5 ---- ---- Effective income tax rate 19.5% 20.5% ==== ==== Included in "Other Assets" on the accompanying consolidated financial statements are deferred income tax assets of approximately $731,000 and $636,000 as of December 31, 1995 and 1994, respectively. Deferred taxes are determined based on the estimated future tax effects of differences between the financial statement and tax bases of assets and liabilities given the provisions of enacted tax laws. The tax effect of significant temporary differences representing deferred tax assets and liabilities are as follows (in thousands): 1995 1994 ---- ---- Credit losses $ 739 $ 649 Deferred expenses -- 41 Depreciation 5 13 Leases 60 (33) Other (73) (34) ----- ----- $ 731 $ 636 ===== ===== The Company did not record any valuation allowances against deferred tax assets as of December 31, 1995 or 1994. 45 FIRESTONE FINANCIAL CORP. AND SUBSIDIARY NOTES TO CONS0LIDATED FINANCIAL STATEMENTS DECEMBER 31, 1995 (Continued) (9) Commitments and Contingencies The Company leases office premises under an operating lease that was renewed in January 1995 for a five-year period. The future minimum lease payments due under this lease are as follows (in thousands): 1996 $ 183 1997 187 1998 192 1999 197 2000 171 ---- $930 ==== On February 4, 1994, the Corporation entered into a Buy-Sell Agreement with the Stockholders of the Corporation which provides for the purchase of the shares of the capital stock of the Corporation owned by each stockholder upon his or her death. In order to fund the Buy-Sell Agreement, the Corporation has purchased renewable term life insurance on each stockholder. As of December 31, 1995, the purchase price in the event of the death of certain stockholders exceeds the insurance proceeds in aggregate by approximately $427,000 with no one individual in excess of $88,000. (10) Financial Instruments Fair Value of Financial Instruments Effective December 31, 1995, the Company adopted Statement of Financial Accounting Standards No. 107, "Disclosures about Fair Value of Financial Instruments" which requires that the Company disclose estimated fair values for certain of its financial instruments. Financial instruments include such items as loans, securities, deposits, swaps, and other instruments as defined in the standard. The estimated fair value amounts have been determined based on the Company's assessment of available market information and appropriate valuation methodologies. However, these estimates may not necessarily be indicative of the amount that the Company could realize in a current market exchange. 46 FIRESTONE FINANCIAL CORP. AND SUBSIDIARY NOTES TO CONS0LIDATED FINANCIAL STATEMENTS DECEMBER 31, 1995 (Continued) (10) Financial Instruments (Continued) Fair Value of Financial Instruments (Continued) Most of the Company's current assets and current liabilities are financial instruments. The carrying amounts of these financial instruments (excluding notes and finance lease receivables and notes payable to banks) approximate their estimated fair value. The following table summarizes estimated fair value information for the Company's notes receivable and notes payable to banks at December 31, 1995 (in thousands): Estimated Fair Value Book Basis ---------- ---------- Notes receivable $ 77,448 $ 77,653 Notes payable to banks 60,665 60,678 Notes and finance lease receivables have been valued by discounting the projected cash flows at December 31, 1995, using the current rates at which similar loans would be made to borrowers with similar credit ratings and for similar maturities. The majority of these receivables are collateralized. Notes payable to banks was valued based on quoted market prices for debt of the same remaining maturities. Off-Balance Sheet Risk As of December 31, 1995 and 1994, the Company had forward exchange contracts totaling approximately $620,000 and $405,000, respectively, for purposes of hedging certain firm commitments related to the subsidiary's collection of Canadian notes receivable. All outstanding forward exchange contracts had maturities of under three years. Gains and losses on these forward exchange contracts are deferred and recognized into interest income over the term of the underlying commitment. The market value of the forward exchange contracts based on The First National Bank of Boston and National Bank of Canada's valuations was approximately $621,000 at December 31, 1995. The market value of the forward exchange contracts as determined by the Company based on rates quoted by The First National Bank of Boston was approximately $400,000 at December 31, 1994. 47 FIRESTONE FINANCIAL CORP. AND SUBSIDIARY NOTES TO CONS0LIDATED FINANCIAL STATEMENTS DECEMBER 31, 1995 (Continued) (10) Financial Instruments (Continued) Off-Balance Sheet Risk (Continued) In November 1995, the Company entered into an interest rate swap agreement (the Swap Agreement) with The First National Bank of Boston for the purpose of effectively converting a portion of the Company's interest rate exposure on 1995 Subordinated Notes from a floating rate to a fixed rate until the expiration of the Swap Agreement in December 1998. The Swap Agreement effectively fixes the Company's interest rate on the 1995 Subordinated Notes to 10.42% on the notional amount of $4,000,000 as reduced by quarterly principal payments beginning in 1997. Net quarterly payments or quarterly receipts under the Swap Agreement are recorded as adjustments to interest expense. The fair value of the Swap Agreement at December 31, 1995 was an unrealized loss of approximately $65,000 based on The First National Bank of Boston's market valuation. In assessing financial instruments with off-balance-sheet risk, the Company is exposed to potential credit loss in the event of nonperformance by The First National Bank of Boston or National Bank of Canada. The Company, however, does not anticipate any material adverse affect on its financial position resulting from its involvement in these instruments nor does it anticipate nonperformance by the counterparties. 48 EX-99.4 9 EXH. 99.4 UNAUDITED FINANCIALS-SOMERSET 09/30/97 - -------------------------------------------------------------------------------- SOMERSET SAVINGS BANK AND SUBSIDIARIES Consolidated Balance Sheets - -------------------------------------------------------------------------------- September 30, December 31, 1997 1996 --------- --------- (In Thousands) (Unaudited) Assets Cash and due from banks ............................ $ 7,527 $ 6,942 Federal Home Loan Bank overnight deposits .......... 1,155 1,000 Interest-bearing deposits in other banks ........... 177 277 --------- --------- Total cash and cash equivalents ................ 8,859 8,219 --------- --------- Investment securities - fair value $92,927,000 and $87,633,000 ....................... 92,909 88,065 Loans, net of unearned income ...................... 396,960 394,956 Allowance for loan losses .......................... (7,434) (6,236) --------- --------- Loans, net ..................................... 389,526 388,720 --------- --------- Other real estate owned, net ....................... 7,240 8,910 Land, buildings and equipment, net ................. 12,668 12,575 Accrued interest receivable ........................ 3,125 3,048 Federal Home Loan Bank of Boston stock, at cost .... 2,273 4,422 Deferred income taxes .............................. 2,375 1,450 Other assets ....................................... 1,364 1,933 --------- --------- $ 520,339 $ 517,342 ========= ========= Liabilities and Stockholders' Equity Deposits ........................................... $ 457,813 $ 442,535 Borrowed funds ..................................... 23,547 40,447 Other liabilities .................................. 4,646 4,512 --------- --------- Total liabilities ............................... 486,006 487,494 --------- --------- Commitments and contingencies (note 2) Stockholders' equity: Serial preferred stock, $1.00 par value; 5,000,000 shares authorized, none issued and outstanding Common stock, $1.00 par value; 20,000,000 shares authorized, 16,651,602 shares issued and outstanding ........................... 16,652 16,652 Additional paid-in capital ......................... 18,637 18,597 Retained deficit ................................... (956) (5,401) --------- --------- Total stockholders' equity ..................... 34,333 29,848 --------- --------- $ 520,339 $ 517,342 ========= ========= See accompanying notes to unaudited consolidated financial statements. 49 - -------------------------------------------------------------------------------- SOMERSET SAVINGS BANK AND SUBSIDIARIES Consolidated Statements of Income - -------------------------------------------------------------------------------- Three Months Ended September 30, ---------------------- 1997 1996 --------- --------- (In Thousands, Except Per Share Data) (Unaudited) Interest and dividend income: Loans .............................................. $ 8,955 $ 8,829 Mortgage-backed securities ......................... 1,397 1,247 Other debt securities .............................. 50 30 Equity securities .................................. 37 115 Short-term, investments ............................ 35 20 --------- --------- Total interest and dividend income ............ 10,474 10,241 --------- --------- Interest expense: Deposits ........................................... 5,220 5,078 Borrowed funds ..................................... 294 501 --------- --------- Total interest expense ........................ 5,514 5,579 --------- --------- Net interest income ................................ 4,960 4,662 Provision for loan losses .......................... 300 300 --------- --------- Net interest income after provision for loan losses ............... 4,660 4,362 --------- --------- Other income: Net gain on sales of loans ......................... 1 13 Gain on sale of interest-rate exchange agreement ... 172 -- Service charges on deposit accounts ................ 159 150 Miscellaneous income ............................... 118 110 --------- --------- Total other income ............................ 450 273 --------- --------- Operating expenses: Salaries and employee benefits ..................... 1,823 1,731 Occupancy and equipment ............................ 407 401 Data processing .................................... 140 126 Legal and professional fees ........................ 108 202 FDIC insurance assessments ......................... 124 263 Costs associated with problem assets ............... 246 472 Net loss on other real estate owned ................ 206 198 Other general and administrative ................... 625 625 --------- --------- Total operating expenses ....................... 3,679 4,018 --------- --------- Income before income taxes ......................... 1,431 617 Income tax provision (benefit) ..................... (318) 10 --------- --------- Net income ......................................... $ 1,749 $ 607 ========= ========= Net income per share ............................... $ 0.10 $ 0.04 ========= ========= Weighted average shares outstanding ................ 16,945 16,652 ========= ========= See accompanying notes to unaudited consolidated financial statements. 50 - -------------------------------------------------------------------------------- SOMERSET SAVINGS BANK AND SUBSIDIARIES Consolidated Statements of Income - -------------------------------------------------------------------------------- Nine Months Ended September 30, ---------------------- 1997 1996 --------- --------- (In Thousands, Except Per Share Data) (Unaudited) Interest and dividend income: Loans ............................................ $ 26,753 $ 26,596 Mortgage-backed securities ....................... 4,063 3,294 Other debt securities ............................ 215 31 Equity securities ................................ 185 255 Short-term investments ........................... 135 257 --------- --------- Total interest and dividend income ............ 31,351 30,433 --------- --------- Interest expense: Deposits ......................................... 15,353 15,155 Borrowed funds ................................... 1,218 1,528 --------- --------- Total interest expense ........................ 16,571 16,683 --------- --------- Net interest income ................................ 14,780 13,750 Provision for loan losses .......................... 900 900 --------- --------- Net interest income after provision for loan losses ............. 13,880 12,850 --------- --------- Other income: Net gain on sales of loans ....................... 22 25 Gain on sale of interest-rate exchange agreement . 172 -- Service charges on deposit accounts .............. 479 434 Miscellaneous income ............................. 331 288 --------- --------- Total other income ............................ 1,004 747 --------- --------- Operating expenses: Salaries and employee benefits ................... 5,237 5,154 Occupancy and equipment .......................... 1,194 1,151 Data processing .................................. 411 375 Legal and professional fees ...................... 463 577 FDIC insurance assessments ....................... 673 776 Costs associated with problem assets ............. 980 1,486 Net loss on other real estate owned .............. 431 630 Other general and administrative ................. 1,968 1,886 --------- --------- Total operating expenses ...................... 11,357 12,035 --------- --------- Income before income taxes ......................... 3,527 1,562 Income tax benefit ................................. (918) (440) --------- --------- Net income .................................... $ 4,445 $ 2,002 ========= ========= Net income per share ............................... $ 0.26 $ 0.12 ========= ========= Weighted average shares outstanding ................ 16,878 16,652 ========= ========= See accompanying notes to unaudited consolidated financial statements. 51 - -------------------------------------------------------------------------------- SOMERSET SAVINGS BANK AND SUBSIDIARIES Consolidated Statements of Changes in Stockholders' Equity Nine Months Ended September 30, 1997 and 1996 - -------------------------------------------------------------------------------- Additional Common Paid-in Retained Stock Capital Deficit Total ------- ------- ------- ------- (In Thousands) (unaudited) Balance at December 31, 1996 .......... $16,652 $18,597 $(5,401) $29,848 Net income ............................ -- -- 4,445 4,445 Issuance of stock options ............. -- 40 -- 40 ------- ------- ------- ------- Balance at September 30, 1997 ......... $16,652 $18,637 $ (956) $34,333 ======= ======= ======= ======= Balance at December 31, 1995 .......... $16,652 $18,597 $(8,214) $27,035 Net income ............................ -- -- 2,002 2,002 ------- ------- ------- ------- Balance at September 30, 1996 ......... $16,652 $18,597 $(6,212) $29,037 ======= ======= ======= ======= See accompanying notes to unaudited consolidated financial statements. 52 - -------------------------------------------------------------------------------- SOMERSET SAVINGS BANK AND SUBSIDIARIES Consolidated Statements of Cash Flows - -------------------------------------------------------------------------------- Nine Months Ended September 30, ---------------------- 1997 1996 --------- --------- (In Thousands) (Unaudited) Cash flows from operating activities: Net income ......................................... $ 4,445 $ 2,002 Adjustments to reconcile net income to net cash provided by operating activities: Provision for loan losses ..................... 900 900 Loans originated for sale ..................... (7,947) (5,494) Principal balance of loans sold ............... 7,947 5,494 Net amortization (accretion) of premiums and discounts on investment securities ........... 39 (21) Amortization of net deferred loan fees and unearned income .......................... (718) (887) Issuance of stock options ..................... 40 Depreciation and amortization expense ......... 518 460 Net loss on other real estate owned ........... 431 630 Increase in accrued interest receivable ....... (77) (101) Deferred income tax benefit ................... (925) (450) Decrease in other assets ...................... 569 314 Increase (decrease) in other liabilities ...... 134 (549) --------- --------- Net cash provided by operating activities ... 5,356 2,298 --------- --------- Cash flows from investing activities: Proceeds from calls and maturities of investment securities ......................... 5,000 -- Purchase of investment securities ................. (16,824) (26,641) Principal payments received on mortgage-backed securities ....................... 6,941 5,304 Loans purchased ................................... (9,920) -- Net decrease in loans ............................. 5,921 4,114 Proceeds from sales and principal reductions of other real estate owned ....................... 4,250 4,768 Improvements to other real estate owned ........... -- (42) Redemption of Federal Home Loan Bank stock ........ 2,149 -- Purchase of equipment ............................. (611) (410) --------- --------- Net cash used by investing activities ......... (3,094) (12,907) ========= ========= (Continued) 53 - -------------------------------------------------------------------------------- SOMERSET SAVINGS BANK AND SUBSIDIARIES Consolidated Statements of Cash Flows (Continued) - -------------------------------------------------------------------------------- Nine Months Ended September 30, ---------------------- 1997 1996 --------- --------- (In Thousands) (Unaudited) Cash flows from financing activities: Net increase in deposits .......................... 15,278 2,626 Net increase in short-term borrowings with maturities of three months or less .......... 3,100 10,200 Proceeds from issuance of borrowings with maturities in excess of three months ........ 30,000 -- Repayment of borrowings with maturities in excess of three months ........................ (50,000) (10,000) --------- --------- Net cash provided by (used by) financing activities .................................. (1,622) 2,826 --------- --------- Net increase (decrease) in cash and cash equivalents ...................................... 640 (7,783) Cash and cash equivalents at beginning of period .............................. 8,219 12,581 --------- --------- Cash and cash equivalents at end of period ......... $ 8,859 $ 4,798 ========= ========= Supplementary Cash Flow Information: Interest paid on deposits .......................... $ 15,260 $ 15,152 Interest paid on borrowed funds .................... 1,393 1,577 Property acquired in settlement of loans ........... 3,011 2,484 See accompanying notes to unaudited consolidated financial statements. 54 - -------------------------------------------------------------------------------- SOMERSET SAVINGS BANK AND SUBSIDIARIES Notes to Unaudited Consolidated Financial Statements September 30, 1997 - -------------------------------------------------------------------------------- 1) Basis of Presentation and Consolidation The consolidated interim financial statements of Somerset Savings Bank and subsidiaries presented herein should be read in conjunction with the consolidated financial statements of Somerset Savings Bank in the annual report for the year ended December 31, 1996. In the opinion of management, the financial statements reflect all adjustments (consisting solely of normal recurring accruals) necessary for a fair presentation of such information. Interim results are not necessarily indicative of results to be expected for the entire year. 2) Commitments and Contingencies At September 30, 1997, the Bank had outstanding commitments to originate loans amounting to approximately $6.8 million, unadvanced funds on construction loans and lines of credit amounting to approximately $9.6 million and $13.3 million, respectively, and standby letters of credit amounting to $479,000. 3) Earnings Per Share Earnings per share is computed using the weighted average number of shares and common stock equivalents outstanding during each period. Earnings per share computations include common stock equivalents attributable to outstanding stock options. 55 EX-99.5 10 EXH. 99.5 FINANCIAL STATEMENTS-SOMERSET 12/31/96 Independent Auditors' Report To the Board of Directors and Stockholders of Somerset Savings Bank: We have audited the consolidated balance sheets of Somerset Savings Bank and subsidiaries as of December 31, 1996 and 1995, and the related consolidated statements of operations, changes in stockholders' equity and cash flows for each of the years in the three-year period ended December 31, 1996. These consolidated financial statements are the responsibility of the Bank's management. Our responsibility is to express an opinion on these consolidated 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, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Somerset Savings Bank and subsidiaries as of December 31, 1996 and 1995, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 1996 in conformity with generally accepted accounting principles. As discussed in Note 2 to the consolidated financial statements, the Bank is operating under a cease and desist order (the "Order") as issued by the Federal Deposit Insurance Corporation ("FDIC") in March 1991 and as modified in November 1993. The Order required, among other things, the Bank to increase its Tier 1 leverage capital ratio to at least 6.0% by June 30, 1995. At December 31, 1996, the Bank was not in compliance with the Order's capital requirement. The Bank submitted a revised capital/profit plan (the "1996 Capital Plan") to the FDIC and to the Massachusetts Division of Banks, which contemplates that the Bank will increase its Tier 1 leverage capital ratio solely through the accumulation of retained earnings, and that the Bank will achieve a Tier 1 leverage capital ratio of 6.0% during the second quarter of 1997. The 1996 Capital Plan was approved by the FDIC and projects the continued resolution of nonperforming assets and sustained profitability. /s/ Wolf & Company, P.C. Boston, Massachusetts February 4, 1997 56 Consolidated Balance Sheets - -------------------------------------------------------------------------------- December 31, - -------------------------------------------------------------------------------- 1996 1995 - -------------------------------------------------------------------------------- (In Thousands) ASSETS Cash and due from banks (note 3) ................... $ 6,942 $ 6,304 Federal Home Loan Bank overnight deposits .......... 1,000 6,000 Interest-bearing deposits in other banks ........... 277 277 - -------------------------------------------------------------------------------- Total cash and cash equivalents .................. 8,219 12,581 - -------------------------------------------------------------------------------- Investment securities -- fair value $87,633,000 and $61,845,000 (notes 4 and 9) ...... 88,065 61,530 Loans, net of unearned income ...................... 394,956 403,880 Allowance for loan losses .......................... (6,236) (7,136) - -------------------------------------------------------------------------------- Loans, net (notes 5, 9 and 15) ................... 388,720 396,744 - -------------------------------------------------------------------------------- Other real estate owned, net (note 6) .............. 8,910 11,496 Land, buildings and equipment, net (note 7) ........ 12,575 12,621 Accrued interest receivable ........................ 3,048 3,014 Federal Home Loan Bank of Boston stock, at cost .... 4,422 4,422 Deferred income taxes (note 10) .................... 1,450 1,000 Other assets ....................................... 1,933 3,028 - -------------------------------------------------------------------------------- $ 517,342 $ 506,436 ================================================================================ LIABILITIES AND STOCKHOLDERS' EQUITY Deposits (note 8) .................................. $ 442,535 $ 434,007 Borrowed funds (note 9) ............................ 40,447 40,447 Other liabilities (note 12) ........................ 4,512 4,947 - -------------------------------------------------------------------------------- Total liabilities ................................ 487,494 479,401 - -------------------------------------------------------------------------------- Commitments and contingencies (notes 2 and 11) Stockholders' equity (notes 2 and 13): Serial preferred stock, $1.00 par value; 5,000,000 shares authorized, none issued and outstanding .............................. -- -- Common stock, $1.00 par value; 20,000,000 shares authorized, 16,651,602 shares issued and outstanding ....................... 16,652 16,652 Additional paid-in capital ...................... 18,597 18,597 Retained deficit ................................ (5,401) (8,214) - -------------------------------------------------------------------------------- Total stockholders' equity .................... 29,848 27,035 - -------------------------------------------------------------------------------- $ 517,342 $ 506,436 ================================================================================ See accompanying notes to consolidated financial statements. 57 Consolidated Statements of Operations
- ---------------------------------------------------------------------------------------------------- Years Ended December 31, - ---------------------------------------------------------------------------------------------------- 1996 1995 1994 - ---------------------------------------------------------------------------------------------------- (In Thousands, Except Per Share Data) Interest and dividend income: Loans ............................................ $ 35,521 $ 36,350 $ 34,326 Mortgage-backed securities ....................... 4,617 3,498 2,762 Other debt securities ............................ 91 -- 25 Equity securities ................................ 326 346 322 Short-term investments ........................... 303 242 61 - ---------------------------------------------------------------------------------------------------- Total interest and dividend income ............. 40,858 40,436 37,496 - ---------------------------------------------------------------------------------------------------- Interest expense: Deposits ......................................... 20,202 18,932 16,325 Borrowed funds ................................... 2,126 3,841 2,818 - ---------------------------------------------------------------------------------------------------- Total interest expense ......................... 22,328 22,773 19,143 - ---------------------------------------------------------------------------------------------------- Net interest income ................................ 18,530 17,663 18,353 Provision for loan losses (note 5) ................. 1,200 1,200 1,800 - ---------------------------------------------------------------------------------------------------- Net interest income after provision for loan losses .............. 17,330 16,463 16,553 - ---------------------------------------------------------------------------------------------------- Other income: Net gain (loss) on sales of loans ................ 43 54 (32) Service charges on deposit accounts .............. 587 587 609 Miscellaneous .................................... 427 415 378 - ---------------------------------------------------------------------------------------------------- Total other income ............................. 1,057 1,056 955 - ---------------------------------------------------------------------------------------------------- Operating expenses: Salaries and employee benefits (notes 12 and 14).. 6,869 6,476 6,085 Occupancy and equipment (notes 7 and 11) ......... 1,536 1,535 1,613 Data processing .................................. 521 447 357 Legal and professional fees ...................... 810 662 814 FDIC insurance assessments ....................... 1,040 1,189 1,296 Costs associated with problem assets ............... 1,873 2,384 4,114 Net loss on other real estate owned (note 6) ....... 855 2,257 9,270 Other general and administrative ................... 2,510 2,491 2,295 - ---------------------------------------------------------------------------------------------------- Total operating expenses ........................... 16,014 17,441 25,844 - ---------------------------------------------------------------------------------------------------- Income (loss) before income taxes .................. 2,373 78 (8,336) Income tax provision (benefit) (note 10) ........... (440) (1,000) 7 - ---------------------------------------------------------------------------------------------------- Net income (loss) ................................. $2,813 $ 1,078 $ (8,343) ==================================================================================================== Net income (loss) per share ........................ $0.17 $ 0.06 $ (0.50) - ---------------------------------------------------------------------------------------------------- - ---------------------------------------------------------------------------------------------------- Weighted average shares outstanding ................ 16,652 16,652 16,652 ====================================================================================================
See accompanying notes to consolidated financial statements. 58 Consolidated Statements of Changes in Stockholders' Equity
- ---------------------------------------------------------------------------------------------------------------------- Years Ended December 31, 1996, 1995 and 1994 - ---------------------------------------------------------------------------------------------------------------------- Additional Unearned Total Common Paid-in Retained Compensation Stockholders Stock Capital Deficit -ESOP Equity - ---------------------------------------------------------------------------------------------------------------------- (in Thousands) Balance at December 31, 1993 .............. $16,652 $ 20,842 $ (949) $(3,294) $ 33,251 Net loss .................................. -- -- (8,343) -- (8,343) Amortization of ESOP obligation ........... -- -- -- 516 516 - ---------------------------------------------------------------------------------------------------------------------- Balance at December 31, 1994 .............. 16,652 20,842 (9,292) (2,778) 25,424 Net income ................................ -- -- 1,078 -- 1,078 Amortization of ESOP obligation -- -- -- 451 451 Termination of ESOP (note 14) ............. -- (2,245) -- 2,327 82 - ---------------------------------------------------------------------------------------------------------------------- Balance at December 31, 1995 .............. 16,652 18,597 (8,214) -- 27,035 Net income ................................ -- -- 2,813 -- 2,813 - ---------------------------------------------------------------------------------------------------------------------- Balance at December 31, 1996 .............. $16,652 $ 18,597 $(5,401) $ -- $ 29,848 ======================================================================================================================
See accompanying notes to consolidated financial statements. 59 Consolidated Statements of Cash Flows
- ------------------------------------------------------------------------------------------------------------------------------------ Years Ended December 31, - ------------------------------------------------------------------------------------------------------------------------------------ 1996 1995 1994 - ------------------------------------------------------------------------------------------------------------------------------------ (In Thousands) Cash flows from operating activities: Net income (loss) ................................................................. $ 2,813 $ 1,078 $ (8,343) Adjustments to reconcile net income (loss) to net cash provided by operating activities: Provision for loan losses ....................................................... 1,200 1,200 1,800 Net amortization (accretion) of premiums and discounts on investment securities .......................................... 8 (97) 6 Amortization of net deferred loan fees and unearned income ...................... (1,150) (1,274) (965) Amortization of ESOP obligation ................................................. -- 451 516 Depreciation and amortization expense ........................................... 625 600 654 Loans originated for sale ....................................................... (8,626) (7,059) -- Principal balance of loans sold ................................................. 8,626 7,059 -- Net (gain) loss on sales of portfolio loans ..................................... -- -- 32 Gain on sale of building ........................................................ -- (83) -- Net loss on other real estate owned ............................................. 855 2,257 9,270 Increase in accrued interest receivable ......................................... (34) (245) (47) Deferred income tax benefit ..................................................... (450) (1,000) -- (Increase) decrease in other assets ............................................. 1,095 (1,012) 2,320 Increase (decrease) in other liabilities ........................................ (435) 616 266 - ------------------------------------------------------------------------------------------------------------------------------------ Net cash provided by operating activities ................................... 4,527 2,491 5,509 - ------------------------------------------------------------------------------------------------------------------------------------ Cash flows from investing activities: Proceeds from maturities and call of investment securities ......................... 1,469 -- 1,000 Purchase of investment securities .................................................. (34,650) (5,797) (28,973) Principal payments received on mortgage-backed securities .......................... 6,638 2,812 6,876 Purchase of Federal Home Loan Bank of Boston stock ................................. -- (572) (367) Purchase of loans .................................................................. -- -- (10,790) Proceeds from sales of loans ....................................................... -- -- 6,671 Net (increase) decrease in loans ................................................... 4,896 (502) (1,750) Proceeds from sales and principal reductions of other real estate owned ............ 4,852 20,596 17,511 Improvements to other real estate owned ........................................... (43) (5,995) (2,318) Purchase of equipment .............................................................. (579) (211) (159) Proceeds from sale of building ..................................................... -- 96 -- - ------------------------------------------------------------------------------------------------------------------------------------ Net cash provided by (used in) investing activities ......................... (17,417) 10,427 (12,299) - ------------------------------------------------------------------------------------------------------------------------------------ Cash flows from financing activities: Net increase (decrease) in deposits ............................................... 8,528 19,512 (15,071) Proceeds from issuance of borrowings with maturities in excess of three months ...................................... 10,000 86,000 33,447 Repayment of borrowings with maturities in excess of three months ........................................... (10,000) (116,000) (10,000) - ------------------------------------------------------------------------------------------------------------------------------------ Net cash provided by (used in) financing activities ......................... 8,528 (10,488) 8,376 - ------------------------------------------------------------------------------------------------------------------------------------ Net increase (decrease) in cash and cash equivalents ................................. (4,362) 2,430 1,586 Cash and cash equivalents at beginning of year ....................................... 12,581 10,151 8,565 - ------------------------------------------------------------------------------------------------------------------------------------ Cash and cash equivalents at end of year ............................................. $ 8,219 $ 12,581 $ 10,151 ==================================================================================================================================== Supplementary Cash Flow Information: Interest paid on deposits ............................................................ $ 20,276 $ 19,187 $ 16,477 Interest paid on borrowed funds ...................................................... 2,142 3,978 2,619 Property acquired in settlement of loans ............................................. 3,078 7,492 5,440
See accompanying notes to consolidated financial statements. 60 Notes to Consolidated Financial Statements 1. Summary of Significant Accounting Policies Basis of presentation and consolidation The consolidated financial statements include the accounts of Somerset Savings Bank (the "Bank") and its wholly-owned subsidiaries, Somco Investment, Inc., Somrock Corp., SSB Leeway Corp., Jerad Place II Development Corp. and Chestco Corp. On March 31, 1994, Somrock Corp. was dissolved. On June 2, 1995, SSB Leeway Corp., Jerad Place II Development Corp. and Chestco Corp. were dissolved. The dissolutions had no significant effect on the consolidated financial statements of the Bank. All intercompany accounts and transactions have been eliminated in consolidation. Use of estimates In preparing consolidated financial statements in conformity with generally accepted accounting principles, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the consolidated balance sheet date and reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Material estimates that are particularly susceptible to significant change in the near term relate to the determination of the allowance for loan losses, the valuation of other real estate owned ("OREO") and the valuation of deferred tax assets. Business The Bank provides a broad range of banking and related services to individuals and small businesses through its five offices in eastern Massachusetts. Its principal business consists of attracting deposits from the general public and using such deposits to originate real estate, construction, commercial and consumer loans. Reclassification Certain amounts previously reported have been reclassified to conform to the current year's presentation. Cash equivalents Cash equivalents include amounts due from banks and interest-bearing deposits in banks. Investment securities Debt securities are classified as held to maturity, as there is a positive intent and ability to hold them to maturity, and are recorded at amortized cost. Discounts and premiums relating to mortgage-backed securities are amortized to income by the interest or straight-line method over the estimated terms of the investments. Income using the straight-line method would not differ materially if accounted for on the interest method. Discounts and premiums relating to other investment securities are amortized to income by the interest method over the terms of the investments. The investment in Savings Bank Life Insurance stock is carried at cost, as there is no readily determinable fair value. Gains and losses on the disposition of investment securities are recorded on the trade date and computed by the specific identification method. Loans The Bank grants mortgage, commercial and consumer loans to customers located primarily in eastern Massachusetts. The ability of the Bank's debtors to honor their contracts is dependent upon the real estate and construction economic sectors, as well as the economy in general. Interest on loans is recognized on a simple interest basis. Unearned income on loans consists primarily of net deferred loan fees and discounts resulting from preferential financing terms on sales of OREO. Net deferred loan fees and discounts on 61 Notes to Consolidated Financial Statements - (Continued) loans relating to sales of OREO are accreted on the interest method over the contractual life of the loan. Interest on loans, including impaired loans, and accretion of net deferred fees is not recognized when the collection of interest or principal is ninety days or more past due, or earlier when in the judgment of management collectibility of either principal or interest becomes doubtful. When a loan is placed on nonaccrual status, all interest previously accrued but not collected is reversed against current period interest income. Allowance for loan losses The adequacy of the allowance for loan losses is evaluated on a regular basis by management. Factors considered in evaluating the adequacy of the allowance include previous loss experience, current economic conditions and their effect on borrowers, the performance of individual loans in relation to contract terms, the risk characteristics of the loan portfolio and the estimated fair value of collateral. Provisions for loan losses charged to operations are based upon management's judgment, reflective of information available at the time, of the amount necessary to maintain the allowance at a level adequate to absorb reasonable foreseeable losses. Losses are charged against the allowance when management believes the collectibility of the principal is unlikely. Recoveries on loans previously charged-off are credited to the allowance. While management believes the allowance to be adequate, it should be noted that it is based on estimates and ultimate losses may vary from the estimates if future conditions differ substantially from the assumptions used in making the evaluation. It is possible that future events may result in additional charge-offs or recoveries and changes in the level of the allowance for loan losses. Further, 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 additional provisions to the allowance based on judgments different from those of management. The Bank adopted Statement of Financial Accounting Standards ("SFAS") No. 114, "Accounting by Creditors for Impairment of a Loan," on January 1, 1995. Under this Statement, a loan is considered impaired when, based on current information and events, it is probable that a creditor will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Impairment is measured on a loan by loan basis by either the present value of expected future cash flows discounted at the loan's effective interest rate, the loan's obtainable market price, or the fair value of the collateral if the loan is collateral dependent. Substantially all of the Bank's loans which have been identified as impaired have been measured by the fair value of existing collateral. The Statement is not applicable to large groups of smaller balance homogeneous loans that are collectively evaluated for impairment. Accordingly, the Bank has not applied SFAS No. 114 to its consumer loan portfolio. SFAS No. 114 also limits the classification of loans as in-substance foreclosures to situations where the creditor actually receives physical possession of the debtor's assets. Accordingly, upon adoption of SFAS No. 114, the Bank transferred loans previously classified as in-substance foreclosures in the amount of $3,512,000 to its impaired loan portfolio and transferred $546,000 from the allowance for OREO losses to the allowance for loan losses. The adoption of SFAS No. 114 had no effect on the Bank's assessment of the overall adequacy of the allowance for loan losses. The restatement of previously issued financial statements to conform with SFAS No. 114 was expressly prohibited. Other real estate owned OREO is comprised of properties acquired through foreclosure proceedings or acceptance of a deed in lieu of foreclosure and, prior to January 1, 1995, properties considered repossessed in-substance. Upon the adoption of SFAS No. 114 on January 1, 1995, all in-substance foreclosed assets that were not in the Bank's possession were reclassified to loans. Related loss allowances were also reclassified. OREO is recorded at the lower of the carrying value of the loan or the net fair value of the property received. Loan losses arising from the acquisition of such properties are charged against the allowance for loan losses. Costs relating to development and improvement of property are capitalized, while operating expenses and any subsequent provisions to reduce the carrying value to fair value less costs to sell are charged to current period operations. Gains and losses upon disposition are reflected in operations as realized. 62 Notes to Consolidated Financial Statements - (Continued) Losses resulting from preferential financing terms offered to facilitate sales of OREO are recognized at the time of sale. During the third quarter of 1994, management announced its intention to accelerate the disposition of nonperforming assets and was actively considering a bulk sale of certain OREO properties. As part of this plan, additional provisions for OREO losses were established. Subsequently, management concluded that it would be more economically advantageous to abandon the bulk sale and instead dispose of such assets in separate transactions. The additional provisions taken during the third quarter of 1994 were maintained to facilitate accelerated sale transactions. Land, buildings and equipment Land is carried at cost. Buildings, leasehold improvements and equipment are carried at cost, less accumulated depreciation and amortization computed on the straight-line method over the estimated useful lives of the assets or the terms of the leases, if shorter. It is the Bank's practice to charge the cost of maintenance and repairs to operations when incurred; major expenditures for improvements are capitalized and depreciated. Income taxes The Bank recognizes income taxes under the asset and liability method. Under this method, deferred tax assets and liabilities are established for the temporary differences between the accounting basis and the tax basis of the Bank's assets and liabilities at enacted tax rates expected to be in effect when the amounts related to such temporary differences are realized or settled. A valuation allowance is established if, based upon available evidence, it is more likely than not that some portion or all of the deferred tax assets will not be realized. Pension The Bank accounts for pension plan benefits on the net periodic pension cost method. This method recognizes the compensation cost of an employee's pension benefit over the employee's approximate service period. Pension costs are funded in the year of accrual using the aggregate cost method. Employee stock ownership plan ("ESOP") Compensation expense is recognized based on cash contributions paid or committed to be paid to the ESOP. All shares held by the ESOP have been deemed outstanding for purposes of earnings per share calculations. The value of unearned compensation to be contributed to the ESOP for future services not yet performed was reflected in stockholders' equity on the consolidated balance sheet. Effective December 31, 1995, the Bank terminated the Employee Stock Ownership Plan. Accordingly, the excess of the amount of ESOP debt payable to the Bank, at that date, over the fair value of the unallocated shares held by the ESOP was charged to additional paid-in capital. Stock compensation plans In October 1995, the Financial Accounting Standards Board issued SFAS No. 123, "Accounting for Stock-Based Compensation." This Statement encourages all entities to adopt a fair value based method of accounting for employee stock compensation plans, whereby compensation cost is measured at the grant date based on the value of the award and is recognized over the service period, which is usually the vesting period. However, it also allows an entity to continue to measure compensation cost for those plans using the intrinsic value based method of accounting prescribed by APB Opinion No. 25, "Accounting for Stock Issued to Employees," whereby compensation cost is the excess, if any, of the quoted market price of the stock at the grant date (or other measurement date) over the amount an employee must pay to acquire the stock. Stock options issued under the Bank's stock option plan generally have no intrinsic value at the grant date, and under Opinion No. 25 no compensation cost is recognized for them. The Bank has elected to remain with the accounting in Opinion No. 25 and as a result, must make pro forma disclosures of net income and earnings per share as if the fair value based method of accounting had been applied. The disclosure requirements of this Statement are effective for the Bank's consolidated financial statements for the year ended December 31, 1996. The pro forma disclosures include the effects of all awards granted on or after January 1, 1995. (See note 13.) 63 Notes to Consolidated Financial Statements -- (Continued) Interest-rate exchange agreements Interest-rate exchange agreements (swaps) designated as hedges against future fluctuations in the interest rates of specifically identified assets or liabilities are accounted for on the same basis as the underlying asset or liability, which is amortized cost. Net interest income (expense) resulting from the differential between exchanging floating and fixed-rate interest payments is recorded on a current basis in the interest income or expanse account related to the asset or liability being hedged. Earnings per share Earnings per share computations are based on the weighted average number of shares outstanding during each period. The dilutive effect of stock options granted is not material. 2. Capital and Related Matters The Bank is subject to various regulatory capital requirements administered by the Federal Deposit Insurance Corporation ("FDIC"). 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 consolidated 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 its assets, liabilities and certain off-balance-sheet items as calculated under regulatory accounting practices. The capital amounts and classification are also subject to qualitative judgements 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 following table) of total and Tier 1 capital (as defined) to average and risk-weighted assets (as defined). In March 1991, the Bank consented to the issuance of a regulatory order (the "Order") by the FDIC. On November 15, 1993, the FDIC issued, with the Bank's consent, a Modification of the Order (the "Modification"). The Modification required the Bank to have a ratio of Tier 1 leverage capital to total assets (a "Tier 1 leverage capital ratio") of at least 6.0% by June 30, 1995. The Bank's Tier I leverage capital ratio was 5.79% at December 31, 1996. As long as the Order remains in effect, if the Bank's Tier 1 leverage capital ratio at the end of a month is less that 6.0%, the Bank is required to submit to its regulators a written plan for increasing its Tier I leverage capital ratio to at least 6.0%. The Bank has submitted a revised capital/profit plan (the "1996 Capital Plan") to the FDIC and the Massachusetts Division of Banks. The 1996 Capital Plan contemplates that the Bank will increase its Tier 1 leverage capital ratio solely through the accumulation of retained earnings and was approved by the FDIC in 1996. The Bank currently expects that it will achieve a Tier 1 leverage capital ratio of 6.0% during the second quarter of 1997. In accordance with the Order, the Bank may not declare or pay dividends on its common stock without the prior written consent of the FDIC and the Massachusetts Commissioner of Banks. In addition to the regulatory consequences of falling below the respective minimum capital levels set forth in the Order and in the FDIC regulations generally applicable to state-chartered, FDIC-insured institutions such as the Bank, Section 38 of the FDIA requires the FDIC to take prompt corrective supervisory action against undercapitalized institutions. Enacted as part of the Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA"), Section 38 specifies five capital categories ("well capitalized," "adequately capitalized," "undercapitalized," "significantly undercapitalized" and "critically undercapitalized") that are used to determine the extent of regulatory oversight that must be exercised. The restrictions become increasingly more severe as an institution's capital category declines. As of December 31, 1996, the most recent notification from the FDIC categorized the Bank as adequately capitalized under the regulatory framework for prompt corrective action. To be categorized as adequately capitalized, the Bank must maintain minimum total risk-based, Tier 1 risk-based and Tier 1 leverage ratios as set forth in the following table. There are no conditions or events since the notification that management believes have changed the Bank's category. The Bank's actual capital amounts and ratios as of December 31, 1996 are also presented in the table. 64 Notes to Consolidated Financial Statements -- (Continued)
Minimum To Be Adequately For Minimum Capitalized Under Capital Prompt Corrective Actual Adequacy Purposes Action Provisions --------------------------------------------------------------------- Amount Ratio Amount Ratio Amount Ratio ----------------- --------------------- --------------------- (Dollars in Thousands) Total Capital to Risk Weighted Assets: ........ $34,456 9.39% $29,359 8.0% $29,359 8.0% Tier 1 Capital to Risk Weighted Assets ........ 29,848 8.13 14,680 4.0 14,680 4.0 Tier 1 Capital to Average Assets: Generally .................................. 29,848 5.79 20,616 to 4.0 to 20,616 4.0 25,770 5.0 Per Order .................................. 29,848 5.79 30,924 6.0 N/A N/A
The Bank's ability to achieve the steps generally contemplated by the 1996 Capital Plan to increase profits and capital is dependent on many factors, including the continued resolution of its nonperforming assets and sustained profitability. Failure to achieve the capital targets prescribed by the Order, as amended by the Modification, or to be at least "adequately capitalized" for purposes of Section 38 of the FDIA, exposes the Bank to further restrictions and regulatory actions. In connection with the Bank's 1993 Common Stock Offering, the Bank transferred $33,897,000 from additional paid-in capital to retained deficit so as to eliminate the accumulated deficit from the Bank's books, as of September 30, 1993. The transfer was approved by the Commissioner of Banks as required under Massachusetts law. 3. Cash and Due From Banks At December 31, 1996, cash and due from banks of $1,638,000 was utilized to satisfy the reserve and compensating balance requirements of the Federal Reserve Bank. 4. Investment Securities The amortized cost and approximate fair value of investment securities with gross unrealized gains and losses are as follows:
December 31, 1996 --------------------------------------------------------- Gross Gross Amortized Unrealized Unrealized Fair Cost Gains Losses Value --------------------------------------------------------- (In Thousands) Debt securities: Federal agency obligations ............................. $ 4,996 $ 5 $ 22 $ 4,979 ------- ------ ------- ------- Fixed rate mortgage-backed securities Federal agency REMICS ................................ 27,100 40 744 26,396 Private issue REMICS ................................. 69 -- 3 66 ------- ------ ------- ------- 27,169 40 747 26,462 ------- ------ ------- ------- Adjustable rate mortgage-backed securities Federal agency REMICS ................................ 32,255 416 317 32,354 Federal agency pass-throughs ......................... 22,243 272 79 22,436 ------- ------ ------- ------- 54,498 688 396 54,790 ------- ------ ------- Savings Bank Life Insurance stock ......................... 1,402 -- -- 1,402 ------- ------ ------- ------- $88,065 $ 733 $ 1,165 $87,633 ======= ====== ======= =======
65 Notes to Consolidated Financial Statements -- (Continued)
December 31, 1995 --------------------------------------------------------- Gross Gross Amortized Unrealized Unrealized Fair Cost Gains Losses Value --------------------------------------------------------- (In Thousands) Debt securities: Fixed rate mortgage-backed securities Federal agency REMICS ................................. $28,316 $ 256 $ 230 $28,342 Private issue REMICS .................................. 192 2 1 193 ------- ------- ------- ------- 28,508 258 231 28,535 ------- ------- ------- ------- Adjustable rate mortgage-backed securities Federal agency REMICS ................................. 14,249 247 124 14,372 Federal agency pass-throughs .......................... 17,364 165 -- 17,529 Private issue pass-throughs ........................... 7 -- -- 7 ------- ------- ------- ------- 31,620 412 124 31,908 ------- ------- ------- ------- Savings Bank Life Insurance stock .......................... 1,402 -- -- 1,402 ------- ------- ------- ------- $61,530 $ 670 $ 355 $61,845 ======= ======= ======= =======
The amortized cost and approximate fair value of federal agency obligations by contractual maturity follows. Actual maturities may differ from contractual maturities because the issuers may have the right to call or repay obligations with or without call or prepayment penalties. December 31, 1966 ------------------------- Amortized Fair Cost Value ------------------------- (In Thousands) Over 1 to 5 years ................... $ 996 $1,000 Over 5 to 10 years .................. 4,000 3,979 ------ ------ $4,996 $4,979 ====== ====== Substantially all of the Bank's mortgage-backed securities have contractual maturities in excess of 10 years based upon the maturity of the final scheduled payment. Such securities generally amortize on a regular basis, predominantly monthly, and are subject to prepayment. Taking into account such contractual amortization and expected prepayments, a significant amount of principal reduction will occur within five years. There is no readily determinable fair value for Savings Bank Life Insurance stock because of ownership restrictions relating to the stock. Management believes that the carrying value is equivalent to the fair value. Mortgage-backed securities with carrying values of $2,697,000 at December 31, 1996 were pledged as collateral against treasury tax and loan deposits and interest-rate exchange agreements. 66 Notes to Consolidated Financial Statements -- (Continued) 5. Loans The composition of the loan portfolio at the dates indicated is as follows: December 31, ------------------------ 1996 1995 ------------------------ (In Thousands) Real estate loans: Residential ..................................... $ 150,353 $ 155,180 Construction .................................... 35,267 24,499 Commercial ...................................... 192,569 201,266 Second mortgages and equity lines ............... 6,250 5,576 --------- --------- Total principal balances .................... 384,439 386,521 Less: Due to borrowers on incomplete loans ...... (12,045) (6,600) Unearned income ............................. (2,277) (2,960) --------- --------- Total real estate loans .................. 370,117 376,961 --------- --------- Commercial loans: Secured ......................................... 19,414 20,942 Unsecured ....................................... 1,286 1,482 --------- --------- Total principal balances .................... 20,700 22,425 --------- --------- Less: Unearned income ........................... (241) (221) --------- --------- Total commercial loans ................... 20,459 22,204 --------- --------- Other loans: Consumer ........................................ 2,668 2,942 Passbook ........................................ 1,712 1,773 --------- --------- Total other loans ........................... 4,380 4,715 --------- --------- Total loans .............................. 394,956 403,880 Less: Allowance for loan losses ................. (6,236) (7,136) --------- --------- $ 388,720 $ 396,744 ========= ========= At December 31, 1996 and 1995, loans owned by others and serviced by the Bank amounted to approximately $16,752,000 and $12,714,000, respectively, and are not included in the accompanying consolidated financial statements. The following is a summary of the recorded investment in impaired loans (see note 1): December 31, ------------------------ 1996 1995 ------------------------ (In Thousands) Loans with no valuation allowance ...................... $ 9,702 $11,557 Loans with a corresponding valuation allowance ......... 1,796 2,010 ------- ------- Total impaired loans ................................... $11,498 $13,567 ======= ======= Corresponding valuation allowance ...................... $ 384 $ 392 ======= ======= At December 31, 1996 and 1995, no additional funds were committed to be advanced in connection with impaired loans. 67 Notes to Consolidated Financial Statements -- (Continued) At December 31, 1996 and 1995, unpaired loans totaling $5,524,000 and $3,996,000, respectively were on nonaccrual status. Impaired loans totaling $3,798,000 and $7,863,000 at December 31, 1996 and 1995, respectively, are classified as restructured loans and are included in the restructured loan totals below. For the years ended December 31, 1996 and 1995, the average recorded investment in impaired loans amounted to $12,904,000 and $10,910,000, respectively. The Bank recognized $646,000 and $349,000, respectively, of interest income on impaired loans during the period that they were impaired. At December 31, 1996 and 1995, nonaccrual loans amounted to $6,203,000 and $4,742,000, respectively. At December 31, 1996 and 1995, restructured loans on accrual status amounted to $19,137,000 and $35,336,000, respectively. Interest income that would have been recorded under the original terms of these loans compared to the interest income actually recognized is as follows: Years Ended December 31, ------------------------ 1996 1995 1994 ------------------------ (In Thousands) Interest income that would have been recorded ..... $2,153 $3,732 $3,417 Interest income recognized ........................ 1,523 2,434 2,093 ------ ------ ------ Interest income forgone ........................... $ 630 $1,298 $1,324 ====== ====== ====== An analysis of the allowance for loan losses is as follows: Years Ended December 31, ------------------------ 1996 1995 1994 ------------------------ (In Thousands) Balance at beginning of year ..................... $ 7,136 $ 8,121 $ 8,254 Provision for loan losses ........................ 1,200 1,200 1,800 Recoveries ....................................... 949 720 624 ------- ------- ------- 9,285 10,041 10,678 Loans charged-off ................................ (3,049) (3,451) (2,557) Transfer from allowance for OREO losses upon adoption of SFAS No. 114 (see note 1) .. -- 546 -- ------- ------- ------- Balance at end of year ...................... $ 6,236 $ 7,136 $ 8,121 ======= ======= ======= 68 Notes to Consolidated Financial Statements -- (Continued) 6. Other Real Estate Owned A summary of OREO is as follows: December 31, ---------------------- 1996 1995 ---------------------- (In Thousands) Raw land and construction projects ............... $ 5,719 $ 6,878 One to four family residential property .......... 150 549 Residential condominiums ......................... 543 -- Commercial condominiums .......................... -- 1,278 Other commercial property ........................ 5,343 6,998 -------- -------- 11,755 15,703 Deposits received ................................ (18) (15) Allowance for losses ............................. (2,827) (4,192) -------- -------- $ 8,910 $ 11,496 ======== ======== An analysis of the allowance for losses on OREO is as follows: Years Ended December 31, ------------------------------ 1996 1995 1994 ------------------------------ (In Thousands) Balance at beginning of year .................. $ 4,192 $ 7,823 $ -- Provision for losses .......................... 900 2,775 9,211 Losses charged to the allowance ............... (2,265) (5,860) (1,388) Transfer to allowance for loan losses upon adoption of SFAS No. 114 (note 1) ...... -- (546) -- ------- ------- ------- Balance at end of year ........................ $ 2,827 $ 4,192 $ 7,823 ======= ======= ======= An analysis of the net loss on OREO is as follows: Years Ended December 31, ---------------------------------- 1996 1995 1994 ---------------------------------- (In Thousands) Provision for losses ................... $ 900 $ 2,775 $9,211 Net loss (gain) on sales ............... (45) (518) 59 ------ ------- ------ $ 855 $ 2,257 $9,270 ====== ======= ====== Included in the net loss are interest rate losses resulting from preferential financing terms offered to facilitate sales of OREO. For the years ended December 31, 1996, 1995 and 1994, interest rate losses totaled $56,000, $1,665,000 and $887,000, respectively. Accretion of these amounts included in interest income amounted to $828,000, $927,000 and $686,000 for the years ended December 31, 1996, 1995 and 1994, respectively. 69 Notes to Consolidated Financial Statements -- (Continued) 7. Land, Buildings and Equipment A summary of the cost and accumulated depreciation and amortization of land, buildings and equipment and their estimated useful lives is as follows:
December 31, Estimated -------------- Useful 1996 1995 Lives -------------- --------- (In Thousands) Land ............................................... $ 2,430 $ 2,430 -- Buildings .......................................... 11,989 11,913 5-50 years Leasehold improvements ............................. 544 544 3-10 years Equipment .......................................... 2,596 2,093 3-10 years -------- ------- 17,559 16,980 Less: Accumulated depreciation and amortization .... (4,984) (4,359) -------- ------- $ 12,575 $12,621 ======== =======
Depreciation and amortization expense for the years ended December 31, 1996, 1995 and 1994 amounted to $625,000, $600,000 and $654,000, respectively. 8. Deposits A summary of deposit balances, by type, is as follows: Years Ended December 31, ------------------------ 1996 1995 ------------------------ (In Thousands) Demand deposits .............................. 18,967 $ 16,274 -------- -------- NOW accounts ................................. 25,142 25,273 Money market deposits ........................ 44,463 46,501 Regular and other ............................ 69,719 71,861 -------- -------- Total savings deposits ................... 139,324 143,635 -------- -------- Term certificates ............................ 284,244 274,098 -------- -------- $442,535 $434,007 ======== ======== 70 Notes to Consolidated Financial Statements -- (Continued) A summary of certificate accounts by maturity, is as follows:
December 31, 1996 ----------------------------------------------------------------------- Under $100,000 Over $100,000 Total ----------------------------------------------------------------------- Weighted Weighted Weighted Average Average Average Amount Rate Amount Rate Amount Rate --------------------- ----------------------- ---------------------- (Dollars in Thousands) Within one year ...... $130,672 5.6% $27,520 5.5% $158,192 5.6% One to two years ..... 49,083 6.0 6,047 6.1 55,130 6.0 Two to three years ... 31,448 5.9 7,559 6.0 39,007 5.9 Over three years ..... 24,389 6.7 7,526 6.7 31,915 6.7 -------- ------- -------- $235,592 5.8 $48,652 5.8 $284,244 5.8 ======== ======= ========
December 31, 1995 ----------------------------------------------------------------------- Under $100,000 Over $100,000 Total ----------------------------------------------------------------------- Weighted Weighted Weighted Average Average Average Amount Rate Amount Rate Amount Rate --------------------- ----------------------- ---------------------- (Dollars in Thousands) Within one year ...... $132,342 5.7% $19,469 5.6% $151,811 5.7% One to two years ..... 44,913 6.0 5,801 6.0 50,714 6.0 Two to three years ... 26,913 6.3 3,188 6.5 30,101 6.3 Over three years ..... 33,263 6.7 8,209 6.7 41,472 6.7 -------- ------- -------- $237,431 6.0 $36,667 6.0 $274,098 6.0 ======== ======= ========
9. Borrowed Funds and Interest-Rate Exchange Agreement Borrowings consist of the following advances from the Federal Home Loan Bank of Boston ("FHLBB"):
Interest December 31, Maturity Date Rate 1996 1995 ------------------------- -------- -------- -------- (In Thousands) Short-term borrowings: February 23, 1996 ............ 5.80% $ -- $ 5,000 ------- -------- Long-term borrowings: October 17, 2000 (1)(2) ...... 5.49 20,000 20,000 October 24, 2000 (1) ......... 5.48 10,000 15,000 October 2, 2001 (1) .......... 5.53 10,000 -- December 1, 2014 ............. 5.42 447 447 ------- -------- 40,447 35,447 ------- -------- $40,447 $ 40,447 ======= ========
(1) Interest rate adjusts quarterly. (2) The Bank has entered into an interest-rate exchange agreement with a notional amount of $20,000,000 that matures on October 17, 2000. This agreement effectively converts this advance from the FHLBB to a fixed-rated instrument with an interest rate of 6.035%. 71 Notes to Consolidated Financial Statements -- (Continued) The Bank has an available line of credit of $10,295,000 with the FHLBB at an interest rate that adjusts daily. At December 31, 1996 and 1995, no borrowings were outstanding under this line of credit. All borrowings from the FHLBB are secured by certain qualified collateral. At December 31, 1996, the Bank had qualified collateral listed with the FHLBB consisting of residential mortgage loans and mortgage-backed securities totaling $146,900,000 representing a maximum borrowing capacity of approximately $119,000,000. 10. Income Taxes The allocation of federal and state income taxes is as follows: Years Ended December 31, ---------------------------- 1996 1995 1994 ---------------------------- (In Thousands) Current tax provision: Federal ..................................... $ -- $ -- $ -- State ....................................... 10 -- 7 ------- ------- ---- 10 -- 7 ------- ------- ---- Deferred: Federal ..................................... 838 -- -- State ....................................... 110 -- -- ------- ------- ---- 948 -- -- ------- ------- ---- Reversal of valuation reserve due to anticipation of future income ...... (1,398) (1,000) -- ------- ------- ---- $ (440) $(1,000) $ 7 ======= ======= ==== The reasons for the differences between the statutory federal income tax rate of 34% and the effective tax rates are summarized as follows:
Years Ended December 31, ------------------------------ 1996 1995 1994 ------------------------------ (In Thousands) Tax at statutory rate of 34% ............................ $ 807 $ 27 $(2,834) Increase (decrease) resulting from: State income tax, net of federal benefit ........... (158) (127) -- Change in valuation allowance - net of reduction of carryforwards due to change in control ........ (1,077) (904) 2,850 Other, net ......................................... (12) 4 (9) ------- ------- ------- Income tax provision (benefit) .......................... $ (440) $(1,000) $ 7 ======= ======= =======
72 Notes to Consolidated Financial Statements -- (Continued) Deferred income taxes relating to temporary differences between the financial reporting basis and the tax basis of the Bank's assets and liabilities are as follows: December 31, ------------------ 1996 1995 ------------------ (In Thousands) Deferred tax assets: Allowance for loan losses ..................... $ 3,593 $ 3,320 Writedowns and capitalized expenses on OREO ... 3,763 4,487 Net operating loss carryforward ............... 2,988 2,626 Deferred loss on below market rate loans ...... 501 816 Alternative minimum tax credit carryforward ... 294 294 Other ......................................... 357 432 -------- -------- Gross deferred assets ....................... 11,496 11,975 Valuation allowance .............................. (10,046) (10,975) -------- -------- Net deferred tax asset ........................... $ 1,450 $ 1,000 ======== ======== A valuation allowance is established when it is more likely than not that some portion of the deferred income tax asset will not be realized. As of December 31, 1994, management established a valuation allowance for almost all of the net operating loss and tax credit carryforwards. At December 31, 1996, the Bank anticipates that future taxable income will be realized to allow the recognition of $1,450,000 of such benefits. A summary of the activity in the valuation allowance applicable to the net deferred tax asset is as follows:
Years Ended December 31, ---------------------------------- 1996 1995 1994 ---------------------------------- (In Thousands) Balance at beginning of year ................................ $ 10,975 $ 12,653 $ 9,337 Change in assumptions due to anticipation of future income .. (1,398) (1,031) -- Benefits created from current year's operations ............. 554 -- 3,685 Benefits forfeited during the year .......................... (85) (647) (369) -------- -------- -------- Balance at end of year ...................................... $ 10,046 $ 10,975 $ 12,653 ======== ======== ========
The Bank has included, as a potential asset, a benefit of $513,000 for the forgiveness from taxation of its "thrift status tax bad debt reserve" as of its 1987 base year as a result of its interpretation of tax legislation signed into federal law in August 1996. All of this potential benefit has been fully reserved against and is reflected in the analysis of the valuation reserve as benefits created from the current year's operations. As of December 31, 1996, the Bank had a net operating loss carryforward for federal tax purposes of $28,300,000 expiring as follows: $13,900,000, 1997; $5,200,000, 2007; $4,000,000, 2008 and $200,000 in 2009 and $5,000,000 in 2010. Tax credit carryforwards of approximately $1,100,000 expire in years 2004 through 2010. Alternative minimum tax credit carryforwards of $294,000 have no expiration date and are available to offset regular tax. The Bank's 1993 Common Stock Offering resulted in a "change in control" for income tax purposes. As a result, the net operating loss and tax credit carryforwards are limited so that only $177,000 per year can be utilized to offset taxable income generated during the years in the carryforward period which expires in 2008. Accordingly, approximately $19,500,000 of such loss carryforwards and nearly all of the tax credit carryforwards are expected to be lost as a result of the 1993 Offering. The preceding table of gross deferred tax asset items at December 31, 1996 and 1995 reflects the reduction in the available carryforwards due to the change in control. 73 Notes to Consolidated Financial Statements -- (Continued) 11. Commitments and Contingencies Employment and special termination agreement The Bank has entered into a five-year employment agreement with the President providing for specified minimum annual compensation and the continuation of benefits currently received, The agreement is automatically extended on each anniversary date for successive five-year periods unless notice is given prior to the anniversary date. However, such employment may be terminated for cause, as defined, without incurring any continuing obligations. The agreement provides for certain lump-sum severance payments within a three-year period following a "change in control" of the Bank, as defined in the agreement. Financial instruments with off-balance sheet risk The Bank is a party to financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of its customers and to reduce its own exposure to fluctuations in interest rates. These financial instruments include commitments to extend credit, standby letters of credit and interest-rate exchange agreements. Such instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the accompanying consolidated balance sheets. The contract and notional amounts of these instruments reflect the extent of involvement the Bank has in these particular classes of financial instruments. For commitments to extend credit and standby letters of credit, the Bank's exposure to credit loss is represented by the contractual amount of those instruments. The Bank uses the same credit policies in making commitments and conditional obligations as it does for on-balance-sheet instruments. For interest-rate exchange agreements, the notional amounts do not represent exposure to credit loss. The Bank's credit exposure on these agreements is limited to the value of interest-rate exchange agreements that have become favorable to the Bank. The following financial instruments were outstanding at the dates indicated:
Contract or Notional Amount --------------------------- December 31, --------------------------- 1996 1995 ------------ ------------ (In Thousands) Financial instruments whose contract amounts represent credit risk: Unadvanced funds on construction loans ........................................ $12,045 $ 6,600 Commitments to grant loans .................................................... 15,863 4,255 Unadvanced funds on lines of credit ........................................... 10,385 8,163 Standby letters of credit and other guarantees ................................ 1,211 909 Financial instruments whose notional amount exceeds the amount of credit risk: Interest-rate exchange agreement ............................................. 20,000 20,000
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 or other termination clauses and typically require payment of a fee. The commitments for lines of credit may expire without being drawn upon, and therefore, the total commitment amounts do not necessarily represent future cash requirements. The Bank evaluates each customer's creditworthiness on a case by case basis. Funds disbursed under these financial instruments, except for certain commercial loans and commercial lines of credit, are collateralized by real estate and other business assets. Standby letters of credit and other guarantees are conditional commitments issued by the Bank to guarantee the performance of a customer to a third party. These agreements are primarily issued to support borrowing arrangements. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. Other guarantees are generally collateralized by deposits held by the Bank. Unsecured letters of credit amounted to $211,000, and $111,000 at December 31, 1996 and 1995, respectively. 74 Notes to Consolidated Financial Statements -- (Continued) Interest-rate exchange agreements are used by the Bank in the management of interest-rate risk. These instruments are currently used to manage interest rate exposure on borrowed funds, and are not used for speculative purposes. The Bank controls the credit risk of such agreements through credit approval and monitoring procedures. Lease commitments Pursuant to the terms of non-cancelable lease agreements in effect at December 31, 1996, future minimum rent commitments aggregate $260,000 through 2001. Certain leases contain options to extend for periods of five years as well as real estate tax escalation clauses. These costs are not included above. Rent expense for the years ended December 31, 1996, 1995 and 1994 amounted to $131,000, $127,000 and $118,000, respectively. Minimum future rental income Pursuant to the terms of a non-cancelable lease agreement, the Bank is committed to lease a portion of its office space to an unrelated third party for a term which expires July 31, 1999. Minimum rental income, arising from this agreement, for the years ended December 31, 1997, 1998 and 1999 amounts to $243,000, $247,000 and $144,000, respectively. The lease contains an option to extend for a period of ten years and requires reimbursement for real estate tax increases. The income from this option and reimbursement is not included above. Rental income for the years ended December 31, 1996, 1995 and 1994, amounted to $294,000, $269,000 and $235,000, respectively. Contingencies In the ordinary course of business, various legal claims are made against the Bank from time to time, and, in the opinion of management, none of these claims pending or threatened as of December 31, 1996 will have a material effect on the Bank's consolidated financial position. 12. Employee Benefit Plans Pension plan The Bank provides basic and supplemental pension benefits for eligible employees through the Savings Banks Employees Retirement Association's ("SBERA") Pension Plan. Each employee reaching the age of 21 and having completed at least 1,000 hours of service in the previous twelve-month period beginning with such employee's date of employment automatically becomes a participant in the retirement plan. All participants are fully vested upon the completion of three years of service or at age 62, if earlier. Net pension expense for the plan years ended October 31, 1996, 1995 and 1994 consisted of the following: 1996 1995 1994 --------------------------- (In Thousands) Service cost-benefits earned during year ...... $ 431 $ 327 $ 263 Interest cost on projected benefits ........... 336 341 221 Actual return on plan assets .................. (598) (704) (213) Net amortization and deferral ................. (13) (13) (13) Amortization of net loss (gain) ............... 288 407 (136) ----- ----- ----- $ 444 $ 358 $ 122 ===== ===== ===== Total pension expense for the years ended December 31, 1996, 1995 and 1994 amounted to $447,000, $475,000 and $153,000, respectively. 75 Notes to Consolidated Financial Statements -- (Continued) According to SBERA's actuary, the funded status of the plan at October 31, 1996 and 1995 (the dates as of which information is available) is as follows:
1996 1995 ------------------- (In Thousands) Plan assets at fair value .................................... $ 4,575 $ 3,962 Actuarial present value of projected benefit obligation ...... 4,891 4,797 ------- ------- Deficiency of plan assets over projected benefit obligation .. (316) (835) Unrecognized net surplus since adoption of SFAS No. 87 ....... (145) (158) Unrecognized net loss (gain) ................................. (674) 173 ------- ------- Accrued pension cost ......................................... $(1,135) $ (820) ======= =======
The accumulated benefit obligation at October 31, 1996 amounted to $3,070,000, which was less than the fair value of plan assets at that date. Of this amount, $3,048,000 is vested and $22,000 is non-vested. Actuarial assumptions used to calculate the projected benefit obligation were as follows: October 31, ------------------------------ 1996 1995 1994 ------ ------ ------ Discount rate .............................. 7.50% 7.00% 8.00% Expected long-term rate of return .......... 8.00 8.00 8.60 Annual salary increases .................... 6.00 6.00 6.00 401(k) plan In 1995, the Bank adopted a 401(k) savings plan that provides for voluntary contributions by eligible employees ranging from one to fifteen percent of their compensation, subject to certain limitations. Each employee reaching the age of 21 and having completed one year of service is eligible to participate in the plan. Under the terms of the plan, the Bank may at its discretion, match a percentage of the employees' contributions. The Bank's matching contribution is determined on an annual basis and all Bank contributions will be used to purchase the Bank's common stock. For the years ended December 31, 1996 and 1995, the Bank made matching contributions totaling $165,000 and $0, respectively to the plan. Supplemental compensation agreements The former Chairman of the Board and the President have entered into supplemental compensation agreements with the Bank that provide for payments upon attaining age 62 and are subject to certain limitation as set forth in the agreements. The present value of these future payments is provided for over the terms of employment. The expense associated with these agreements totaled $18,000 for each of the years ended December 31, 1996, 1995 and 1994. 13. Stock Option Plans The Bank has 1,009,000 shares of Common Stock reserved for the benefit of directors and certain senior employees under the Amended and Restated 1986 Incentive Stock Option Plan and the 1995 Equity Incentive Plan. Both incentive stock options and non-qualified stock options may be granted with a maximum option term of ten years. The Bank's 1995 Equity Incentive Plan also provides for stock appreciation rights, performance stock units, restricted stock, stock units, book value awards. 76 Notes to Consolidated Financial Statements -- (Continued) The Bank applies APB Opinion 25 and related Interpretations in accounting for the plans. Accordingly, compensation cost has been recognized to the extent that the quoted market price of the common stock at the date of grant exceeds the amount that the employee is required to pay. Had compensation cost for the Bank's stock-based compensation plans been determined based on the fair value at the grant dates consistent with the method prescribed by SFAS No. 123, the Bank's net income and earnings per share would have been reduced to the pro forma amounts indicated below: Years Ended December 31, ------------------------ 1996 1995 -------- --------- (In Thousands Except Per Share Data) Net income As reported ................. $ 2,813 $ 1,078 Pro forma ................... 2,744 1,030 Earnings per share As reported ................. $ 0.17 $ 0.06 Pro forma ................... 0.16 0.06 Stock option activity is as follows:
Years Ended December 31, ------------------------------------------------------------- 1996 1995 1994 ------------------- ------------------ ----------------- Weighted Weighted Weighted Average Average Average Exercise Exercise Exercise Shares Price Shares Price Shares Price ------------------- ------------------ ----------------- Shares under option: Outstanding at beginning of period .. 251,750 $ 1.25 48,000 $32.71 48,000 $32.71 Granted ............................. -- -- 251,750 1.25 -- -- Canceled ............................ -- -- (48,000) $32.71 -- -- ------- ------- ------ Outstanding at end of period ........ 251,750 1.25 251,750 1.25 48,000 32.71 ------- ------- ------ Exercisable at end of period ........ 50,350 1.00 -- -- 48,000 32.71 ======= ======= ====== Weighted average fair value of options granted during the year .. $ -- $ 0.89 $ --
The fair value of each option grant is estimated on the date of grant using the Black-Scholes option-pricing model with the following weighted-average assumptions used for grants in 1995: dividend yield of 0.0 percent, expected volatility of 58%, risk-free interest rate of 7.42% and expected lives of 6 years. 77 Notes to Consolidated Financial Statements -- (Continued) Information pertaining to options outstanding at December 31, 1996 is as follows: Options Options Outstanding Exercisable ----------------------------------------- ----------------------- Weighted Average Weighted Weighted Remaining Average Average Exercise Number Contractual Exercise Number Exercise Price Outstanding Life Price Exercisable Price - --------- ----------- ----------- -------- ----------- -------- $1.00 83,959 4.2 years $1.00 50,350 $1.00 1.25 83,958 4.2 years 1.25 - - 1.50 83,833 4.2 years 1.50 - - ------- ------ 251,750 4.2 years 1.25 50,350 1.00 ======= ====== 14. Employee Stock Ownership Plan In 1986, the Bank established an Employee Stock Ownership Plan and Trust ("ESOP") for the benefit of each employee that has reached the age of 21 and has completed at least 1,000 hours of service. Effective December 31, 1995, the Bank terminated the Plan. The Bank had contributed to the Plan for each Plan year an amount determined by the Bank in its discretion and had generally made contributions to the ESOP based on the debt service requirements of the loans payable by the ESOP to the Bank. Participants could also elect to make contributions to the Plan on an after-tax basis in an amount from 1% to 10% of compensation. The Bank matched participation contributions up to 5% of compensation. Shares purchased with loan proceeds were held in a suspense account and released for allocation to participants as the loans were repaid. The ESOP had not acquired any unallocated shares since 1989. At December 31, 1995, shares held by the ESOP were as follows: Allocated ................................................ 131,490 Committed to be allocated ................................ 2,215 Unallocated .............................................. 60,780 ------- 194,485 ======= Upon termination of the ESOP, participants became fully vested in the allocated shares held by the ESOP. As of December 31, 1995, the market value of the unallocated shares, which were sold in the open market during 1996, was approximately $82,000 and loans by the ESOP payable to the Bank amounted to $2,327,000. As a result, the Bank transferred the difference of $2,245,000 from Unearned compensation - ESOP to Additional paid-in capital to reflect the termination of the ESOP. Total ESOP compensation expense amounted to $175,000 and $516,000 for the years ended December 31, 1995 and 1994, respectively. 15. Related Party Transactions In the ordinary course of business, the Bank has granted loans to its executive officers and Directors amid their affiliates. The aggregate amount of such loans which exceeded $60,000 in aggregate outstanding to any one individual amounted to $1,429,000 and $1,463,000 at December 31, 1996 and 1995, respectively. During the year ended December 31, 1996, total principal additions were $4,000 and total principal reductions were $38,000. 78 Notes to Consolidated Financial Statements -- (Continued) 16. Fair Values of Financial Instruments The following disclosure of the estimated fair values 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 using available quoted market information or other valuation methodologies permitted under SFAS No. 107. The fair value estimates provided are made at a specific point in time, based on relevant market information and the characteristics of the financial instrument. The estimates do not provide for any premiums or discounts that could result from concentrations of ownership of financial instruments. Certain fair value estimates are based on subjective judgments regarding current economic conditions, risk characteristics of the financial instruments, future expected loss experience, prepayment assumptions, and other factors. The resulting estimates involve uncertainties and therefore cannot be determined with precision. Changes made to any of the underlying assumptions could significantly affect the estimates. The estimated fair values, and related carrying or notional amounts, of the Bank's financial instruments are as follows: December 31, 1996 December 31, 1995 ------------------ ------------------- Carrying Fair Carrying Fair Value Value Value Value ------------------ ------------------- (In Thousands) Assets: Cash and cash equivalents ...... $8,219 $8,219 $12,581 $12,581 Investment securities .......... 88,065 87,633 61,530 61,845 Federal Home Loan Bank stock ... 4,422 4,422 4,422 4,422 Loans, net ..................... 388,720 390,966 396,744 389,445 Accrued interest receivable .... 3,048 3,048 3,014 3,014 Liabilities: Deposits ....................... 442,535 443,620 434,007 435,488 Borrowed funds ................. 40,447 39,754 40,447 40,428 Accrued interest payable ....... 1,737 1,737 1,827 1,827
Contractual Contractual or Notional Fair or Notional Fair Amount Value Amount Value ------------------------------------------------- Off-balance sheet financial instruments: Commitments to extend credit ........ $39,504 $ -- $19,927 $ -- Interest-rate exchange agreement .... 20,000 119 20,000 (440)
The following methods and assumptions were used to estimate the fair value of each class of financial instruments for which it is practicable to estimate fair value. Cash and cash equivalents The carrying values for cash and cash equivalents approximate fair value because of the short-term maturity of these instruments. Investment securities The fair values presented for investment securities are based on quoted bid prices received from securities dealers. The fair value of restricted equity securities approximates carrying value. 79 Notes to Consolidated Financial Statements -- (Continued) Loans Fair value estimates are based on loans with similar financial characteristics. Loans have been segregated by homogeneous groups for calculation purposes and presented as single line items for disclosure purposes. Fair value estimates are estimated by discounting contractual cash flows adjusted for prepayment estimates and using discount rates approximately equal to current market rates on loans with similar characteristics and maturities. The fair value of nonaccrual loans was estimated using the estimated fair values of the underlying collateral. Federal Home Loan Bank stock The carrying value for Federal Home Loan Bank stock approximates fair value. If redeemed, the Bank will receive an amount equal to the par value of the stock. Accrued interest receivable and payable The carrying values for accrued interest receivable and payable approximate fair value because of the short-term nature of these financial instruments. Deposits The fair values reported for regular, demand, NOW, and money market accounts are equal to their respective carrying values. The fair values disclosed are, by definition, equal to the amount payable on demand at the reporting date. The fair values reported for term certificates are based upon the discounted value of contractual cash flows. The discount rates are representative of approximate rates currently offered on term certificates with similar remaining maturities. Borrowed funds The value of borrowed funds is estimated by discounting the contractual cash flows at rates currently available to the Bank for debt with similar terms and maturities. Commitments The Bank's commitments for unused lines of credit, unadvanced construction loans, and loan commitments are primarily at floating rates and, accordingly fair value is immaterial. Financial instruments The fair value reported for the interest-rate exchange agreement is based on a dealer quote. 80 Notes to Consolidated Financial Statements -- (Continued) 17. Quarterly Data (Unaudited) Summaries of consolidated operating results on a quarterly basis are as follows:
Year Ended December 31, 1996 Year Ended December 31, 1995 ------------------------------------------ ---------------------------------------- Fourth Third Second First Fourth Third Second First Quarter Quarter Quarter Quarter Quarter Quarter Quarter Quarter ------- ------- ------- ------- ------- ------- ------- ------- (In Thousands, Except Per Share Data) Interest and dividend income ............ $10,425 $10,241 $ 10,152 $10,040 $ 10,134 $10,372 $10,123 $9,807 Interest expense ........................ 5,645 5,579 5,499 5,605 5,703 5,886 5,818 5,366 ------- ------- -------- ------- -------- ------- ------- ------ Net interest income ..................... 4,780 4,662 4,653 4,435 4,431 4,486 4,305 4,441 Provision for loan losses ............... 300 300 300 300 300 300 300 300 ------- ------- -------- ------- -------- ------- ------- ------ Net interest income after provision for loan losses ....................... 4,480 4,362 4,353 4,135 4,131 4,186 4,005 4,141 ------- ------- -------- ------- -------- ------- ------- ------ Other income ............................ 310 273 250 224 276 262 311 207 Net loss on OREO ........................ 225 198 217 215 1,314 349 320 274 Operating expenses ...................... 3,754 3,820 3,852 3,733 3,686 3,761 3,790 3,947 ------- ------- -------- ------- -------- ------- ------- ------ Income (loss) before income taxes ....... 811 617 534 411 (593) 338 206 127 Income taxes (1) ........................ -- 10 (100) (350) (1,000) -- -- -- ------- ------- -------- ------- -------- ------- ------- ------ Net Income .............................. $ 811 $ 607 $ 634 $ 761 $ 407 $ 338 $ 206 $ 127 ======= ======= ======== ======= ======== ======= ======= ====== Net income per share .................... $ 0.05 $ 0.04 $ 0.04 $ 0.05 $ 0.02 $ 0.02 $ 0.01 $ 0.01 ======= ======= ======== ======= ======== ======= ======= ======
Quarterly per share amounts may not total to the full year due to rounding. (1) Refer to "Management's Discussion and Analysis -- Results of Operations -- Provision for Income Taxes" for a discussion regarding the income tax benefit recognized in 1996 and 1995. 81 EX-99.6 11 EXH. 99.6 UNAUDITED FINANCIALS-AFFILIATED AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION (Dollars in thousands, except share data) September 30, December 31, 1997 1996 ------------- ------------ (Unaudited) ASSETS Cash and due from banks $15,979 $11,331 Federal funds sold and overnight deposits 4,584 4,464 Investment securities - held to maturity (market value $190,230 and $173,372 at September 30, 1997 and December 31, 1996, respectively) 188,115 173,510 Investment securities - available for sale (amortized cost $176,151 and $160,395 at September 30, 1997 and December 31, 1996, respectively) 177,168 159,844 Loans held for sale 944 - Loans receivable - net of allowance for possible loan losses of $8,381 and $7,759 at September 30, 1997 and December 31, 1996, respectively 699,554 645,797 Federal Home Loan Bank stock - at cost 16,162 14,638 Other real estate owned, net 1 133 Accrued interest receivable 7,968 7,124 Office properties and equipment, net 8,790 8,428 Deferred tax asset, net 2,924 3,405 Other assets 6390 3,539 ---------- ----------- Total assets $1,128,579 $1,032,213 ========== ========== LIABILITIES AND STOCKHOLDERS' EQUITY Liabilities: Deposits $ 702,994 $ 652,509 Federal Home Loan Bank advances 301,971 267,171 ESOP debt 1,127 1,394 Mortgagors' escrow payments 2,440 2,087 Securities sold under agreements to repurchase 3,032 727 Other 6,857 6,923 ---------- ---------- Total liabilities 1,018,421 930,811 ---------- ---------- Stockholders' Equity (Note 4): Preferred stock, $0.01 Par Value; 2,000,000 shares authorized, none issued Common stock, $0.01 Par Value; 18,000,000 shares authorized; shares issued 6,740,109 in 1997 and 6,683,957 in 1996 67 66 Additional paid-in capital 50,040 49,146 Retained earnings - restricted 64,055 57,518 Treasury stock at cost, 247,500 shares (3,402) (3,402) Unearned compensation - ESOP (1,108) (1,394) Unrealized gain (loss) on investment securities, net of tax effects 506 (532) Total stockholders' equity 101,158 101,402 ---------- ---------- Total liabilities and stockholders' equity $l,128,579 $1,032,213 ========== ========== The accompanying notes are an integral part of these consolidated financial statements. 82 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME (Dollars in thousands, except share data) Three Months Ended Nine Months Ended September 30, September 30, ----------------- ---------------- 1997 1996 1997 1996 ---- ---- ---- ---- (Unaudited) (Unaudited) Interest and dividend income: Interest and fees on loans $14,370 $12,498 $41,879 $35,586 Interest and dividend income on investment securities 6,300 5,704 18,242 16,617 Interest on federal funds sold and overnight deposits 70 78 162 200 ------- ------- ------- ------- Total interest and dividend income 20,740 18,280 60,283 52,403 ------- ------- ------- ------- Interest expense: Interest on deposits 7,114 6,577 20,847 18,988 Interest on borrowed funds 4,710 3,724 13,067 10,389 ------- ------ ------- ------ Total interest expense 11,824 10,301 33,914 29,377 ------- ------ ------- ------ Net interest income 8,916 7,979 26,369 23,026 Provision for possible loan losses 250 135 700 405 ------- ------ ------- ------- Net interest income after provision for possible loan losses 8,666 7,844 25,669 22,621 ------- ------ ------- ------- Noninterest income: Mortgage loan servicing fees 64 63 198 225 Customer service fees and other 346 312 1,078 948 Gain on sales of securities, net 90 - 97 - Gain on sales of loans, net 62 29 85 86 ------- ------- ------- ------- Total non-interest income 562 404 1,458 1,259 ------- ------- ------- ------- Non-interest expenses: Compensation and employee benefits 2,714 2,308 7,783 6,863 Occupancy and equipment 618 552 1,708 1,562 Data processing 275 205 764 619 Professional services 159 169 439 538 Federal Deposit Insurance premiums 66 2,318 198 2,707 Other real estate owned (income) expenses, net (17) 25 (141) 164 Marketing and promotion 210 132 541 435 Other 515 658 1754 1,902 ------- ------- ------- ------- Total non-interest expenses 4,540 6,367 13,046 14,790 ------- ------- ------- ------- Income before provision for income taxes 4,688 1,881 14,081 9,090 Provision for income taxes 1,739 579 5,253 3,266 ------- ------- ------- ------- Net Income $2,949 $1,302 $8,828 $5,824 ======= ======= ======= ======= Earnings per share (Note 4): Primary $0.44 $0.20 $1.33 $0.90 ======= ======= ======= ======= Fully diluted $0.43 $0.20 $1.32 $0.90 ======= ======= ======= ======= Weighted average shares outstanding: Primary 6,682 6,460 6,623 6,450 ======= ======= ======= ======= Fully diluted 6,706 6,482 6,679 6,496 ======= ======= ======= ======= The accompanying notes are an integral part of these consolidated financial statements. 83 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (NOTE 4) For the Nine Months Ended September 30, 1997 and 1996 (In thousands, except per share data) (Unaudited)
Net Unrealized Additional Unearned Gain (Loss) on Common Paid-in Treasury Retained Compensation- Investment Stock Capital Stock Earnings ESOP Securities Total ------ ------- -------- -------- ------------- ---------- ----- Balance at December 31, 1995 $66 $48,250 $ - $51,563 ($679) $90 $99,290 Net income - - - 5,824 - - 5,824 ESOP transactions - 86 - - 108 - 194 Issuance of common stock under stock option plan - 287 - - - - 287 Purchase of treasury stock - - (4,081) - - - (4,081) Cash dividends declared ($.29 per share) - - - (1,837) - - (1,837) Changes in net unrealized gain (loss) on securities available for sale, net of tax effect - - - - - (1,615) (1,615) --- ------- --- ------- ------ ------- -------- Balance at September 30, 1996 $66 $48,623 ($4,081) $55,550 ($571) ($1,525) $98,062 === ======= ======= ======= ===== ======= =======
Net Unrealized Additional Unearned Gain (Loss) on Common Paid-in Treasury Retained Compensation- Investment Stock Capital Stock Earnings ESOP Securities Total ----- ------- ----- -------- ---- ---------- ----- Balance at December 31, 1996 $66 $49,146 ($3,402) $57,518 ($1,394) ($532) $101,402 Net income - - - 8,828 - - 8,828 ESOP transactions - 225 - 32 286 - 543 Issuance of common stock under stock option plan 1 418 - - - - 419 Tax benefit from stock options exercised - 251 - - - - 251 Purchase of treasury stock - - - - - - - Cash dividends declared ($.36 per share) - - - (2,323) - - (2,323) Changes in net unrealized gain (loss) on securities available for sale, net of tax effect - - - - - 1,038 1,038 --- -------- ------- -------- -------- ----- ------- Balance at September 30, 1997 $67 $50,040 ($3,402) $64,055 ($1,108) $506 $110,158 === ======= ======= ======= ======= ==== ========
The accompanying notes are integral part of these consolidated financial statements. 84 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (Dollars in thousands)
Nine Months Ended September 30 ------------------- 1997 1996 ---- ---- (Unaudited) Cash flows from operating activities: Net Income $8,828 $5,824 Adjustments to reconcile net income to net cash provided by operating activities: Provision for possible loan losses 700 405 Provision for losses on other real estate owned - 180 Depreciation and amortization 655 568 Gain on sales of loans (85) (86) Gain on sales of securities (97) - Net gain on sales of other real estate owned (44) (177) Net amortization of premiums and discounts on investment securities 159 603 Provision for deferred income taxes 197 421 ESOP transactions 543 194 Increase in Federal Home Loan Bank stock (1,524) (3,137) (Increase) decrease in loans held for sale (944) 595 Increase in accrued interest receivable (844) (1,149) Other, net (1,651) 1,452 ------- ------ Net cash provided by operating activities 5,893 5,693 ------- ------ Cash flows from investing activities: Proceeds from sales of investment securities available for sale 21,411 - Proceeds from sales of investment securities held to maturity which were called 3,956 - Proceeds from maturities of investment securities available for sale 12,428 16,510 Proceeds from maturities of investment securities held to maturity 19,197 3,251 Purchase of investment securities available for sale (58,922) (68,076) Purchase of investment securities held to maturity (58,900) (22,949) Principal payments received on investment securities available for sale 7,966 6,558 Principal payments received on investment securities held to maturity 21,180 21,559 Loan originations, net of repayments (54,544) (77,748) Proceeds from sale of office properties and equipment - - Purchases of office properties and equipment (1,017) (519) Capitalized costs associated with other real estate owned, net of payments received - (42) Proceeds from sales of other real estate owned 348 1,267 --- ----- Net cash used by investing activities (86,897) (120,189) -------- --------- Cash flows from financing activities: Net increase in deposits 50,485 53,197 Additions to Federal Home Loan Bank advances 34,800 71,006 Increase in mortgagors' escrow payments 353 147 Increase in repurchase agreements 2,305 972 Purchase of treasury stock - (4,081) Proceeds from issuance of common stock 419 287 ESOP transactions (267) (108) Cash dividends paid on common stock (2,323) (1,837) ------- ------- Net cash provided by financing activities 85,772 119,583 ------ ------- Net increase in cash and cash equivalents 4,768 5,087 Cash and cash equivalents at beginning of period 15,795 18,162 ------- ------- Cash and cash equivalents at end of period $20,563 $23,249 ======= ======= Supplemental disclosures of cash flow information: Interest paid on deposits $20,682 $19,590 Interest paid on borrowed funds 13,335 10,766 Income taxes paid, net of refunds 5,019 3,432 Supplemental disclosures of non-cash transactions Transfers to foreclosed real estate 172 1,006 Loans granted on sale of foreclosed real estate 162 857 Securitization of loans to mortgage-backed investments - 2,326
The accompanying notes are an integral part of these consolidated financial statements 85 AFFILIATED COMMUNITY BANCORP, INC, AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS September 30, 1997 1) Basis of Presentation The accompanying consolidated financial statements include the accounts of Affiliated Community Bancorp, Inc, (the "Company" or "Affiliated") and its three wholly-owned subsidiaries, Lexington Savings Bank ("Lexington"), a Massachusetts chartered savings bank, The Federal Savings Bank ("Federal"), a federally chartered savings bank, and Middlesex Bank & Trust Company ("Middlesex") a Massachusetts chartered trust company, which are headquartered in Lexington, Massachusetts, Waltham, Massachusetts, and Newton Massachusetts, respectively. Affiliated was incorporated on April 13, 1995 for the purpose of effecting the affiliation (the "Affiliation") of Lexington and Main Street Community Bancorp, Inc. ("Main Street") including Main Street's wholly-owned subsidiary, Federal, pursuant to the Affiliation Agreement and Plan of Reorganization dated March 14, 1995 between Lexington and Main Street. The Affiliation was consummated on October 18, 1995 and was treated as a pooling of interests for accounting purposes. On May 20, 1997, Affiliated provided the initial capital to Middlesex in exchange for all of Middlesex's outstanding stock, making Middlesex a wholly owned subsidiary of Affiliated. Middlesex opened on June 2, 1997 as a de novo, full-service commercial bank. The operations of Affiliated consist of those of its three bank subsidiaries, Lexington, Federal and Middlesex. The information presented herein for 1997 and 1996 represents the financial condition and the operating results of the Company and its wholly-owned bank subsidiaries on a consolidated basis. Lexington and Middlesex are insured by the Bank Insurance Fund ("BIF") and Federal is insured by the Savings Association Insurance Fund ("SAIF") of the Federal Deposit Insurance Corporation ("FDIC"). Certain reclassifications have been made to the 1996 consolidated financial statements to conform with the September 30, 1997 presentation. Such reclassifications had no effect on previously reported consolidated net income. In the opinion of management, the unaudited consolidated financial statements presented herein reflect all adjustments (consisting only of normal recurring adjustments) necessary for a fair presentation. Interim results are not necessarily indicative of results to be expected for the entire year. 2) Earnings and Dividends Declared Per Share Primary earnings per share computations include common stock issued (excluding treasury shares and unallocated ESOP shares) and dilutive common stock equivalents attributable to outstanding stock options. Fully diluted earnings per share computations reflect the higher market price of the Company's common stock at period end, if applicable, and the assumed further dilution applicable to outstanding stock options. 3) Allowance for Possible Loan Losses The following is a summary of the allowance for possible loan losses for the three and nine month periods ended September 30, 1997 and 1996:
Three Months Ended Nine Months Ended September 30 September 30 ------------------ ----------------- l997 1996 l997 1996 ------------------ ----------------- (In thousands) Balance at beginning of period $8,228 $7,240 $7,759 $7,127 Provision for possible losses 250 135 700 405 Recoveries 19 14 78 147 ------ ------ ------ ------ 8,497 7,389 8,537 7,679 Loans charged-off 116 3 156 293 ------ ------ ------ ------ Balance at end of period $8,381 $7,386 $8,381 $7,386 ====== ====== ====== ======
86 The Company's allowance for possible loan losses is established and maintained through a provision for possible loan losses. Charges to the provision for possible loan losses are based on management's evaluation of numerous factors, including the risk characteristics of the Company's loan portfolio generally, the portfolio's historical experience, the level of non-accruing loans, current economic conditions, collateral values, and trends in loan delinquencies and charge-offs. Although management attempts to use the best information available to make determinations with respect to the Company's allowance for possible loan losses, loan losses may ultimately vary significantly from current estimates and future adjustments may be necessary if economic conditions differ substantially from the assumed economic conditions used in making the initial determination or if other circumstances change. Loans are considered impaired when it is probable that the Company will not be able to collect all amounts due according to the contractual terms of the loan agreement. Management considers the paying status, net worth and earnings potential of a borrower, and the value and cash flow of the collateral, as factors to determine if a loan will be paid in accordance with its contractual terms. Management does not set any minimum delay of payments as a factor in reviewing for impaired classification. The amount judged to be impaired is the difference between the present value of the expected cash flows using as a discount rate the original contractual effective interest rate and the recorded investment of the loan. If foreclosure on a collateralized loan is probable, impairment is measured based on the fair value of the collateral compared to the recorded investment. If appropriate, a valuation reserve is established to recognize the difference between the recorded investment and the present value. Impaired loans are charged off when management believes that the collectibility of the loan's principal is remote. All impaired loans are classified as nonaccrual. For the nine months ended September 30, 1997 and 1996, the average recorded investment in impaired loans was $3,665,000 and $3,536,000 respectively, and the income recognized on related impaired loans was $140,000 and $134,000, respectively. At September 30, 1997 and December 31, 1996, the Company classified $3,535,000 and $3,798,000, respectively, of its loans as impaired. Of the $3,535,000 in impaired loans at September 30, 1997, $3,435,000 has been measured under the fair value of collateral method and $100,000 has been measured under the present value of the expected cash flows method. At September 30, 1997 impaired loans totaling $2,845,000, had a related valuation reserve of $607,000. Of the $3,798,000 in impaired loans at December 31, 1996, $3,691,000 has been measured under the fair value of collateral method and $107,000 has been measured under the present value of the expected cash flows method. At December 31, 1996, impaired loans totaling $3,555,000 had a related valuation reserve of $667,000. 4) Stock Split On May 30, 1997 the Company effected a 25% stock split paid in the form of a stock dividend. All common stock share and per share information prior to the stock split, except for shares authorized, has been retroactively restated to reflect this stock split. 5) Impact of New Accounting Standards In September 1996, the FASB issued SFAS No. 125, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities," which is generally effective for transfers and servicing of financial assets and extinguishments of liabilities, as defined, after December 31, 1996. SFAS No. 125, as amended, requires an entity to recognize upon a transfer the financial and servicing assets it controls and the liabilities it has incurred, derecognize financial assets when control has been surrendered, and derecognize liabilities when extinguished. SFAS No. 125 supersedes SFAS No. 122. For servicing contracts in existence before January 1, 1997, previously recognized servicing rights and "excess servicing" receivables that do not exceed contractually specified servicing fees are combined, net of any previously recognized servicing obligations, as a servicing asset or liability, with previously recognized servicing receivables that exceed contractually specified servicing fees being reclassified as interest-only strips receivable. The adoption of this statement did not have a material impact on its financial condition or results of operations. In March 1997, the FASB issued SFAS No. 128, "Earnings Per Share", which is to become effective for fiscal years ending after December 15, 1997. The more significant changes are the replacement of primary earnings per share (EPS) with basic EPS. Basic EPS is computed by dividing reported earnings available to common stockholders by weighted average shares issued (excluding treasury shares and unallocated ESOP shares). No dilution for any potentially dilutive securities is included. Fully diluted EPS, now called diluted EPS, is still required. The Company's management anticipates that the application of the new statement will not have a significant impact on the Company's reported results when adopted. If SFAS No. 128 were in effect, basic EPS for the third quarter of 1997 would have been $0.46 versus $0.21 for the third quarter of 1996 and basic EPS for nine months ended September 30, 1997 would have been $1.39 versus $0.93 for the nine months ended September 1996. The 1996 third quarter and nine month basic EPS excluding the one time SAIF recapitalization charge of $2,121,000 that was assessed in the third quarter of 1996 would have been $0.40 for the third quarter of 1996 and $1.12 for the nine months ended September 30, 1996. In July 1997, the FASB issued SPAS No. 130, "Reporting Comprehensive Income", which is to become effective for fiscal years beginning after December 15, 1997. SFAS No. 130 established standards for reporting and display of comprehensive income and its components. Comprehensive income is the total of net income and all other nonowner changes in equity. The Company's management anticipates that the applications of this statement will not have a significant impact on the Company's reported results when adopted. 87 EX-99.7 12 EXH. 99.7 FINANCIAL STATEMENTS-AFFILIATED INDEPENDENT AUDITORS' REPORT To the Board of Directors and Stockholders of Affiliated Community Bancorp, Inc.: We have audited the accompanying consolidated statements of financial condition of Affiliated Community Bancorp, Inc. and subsidiaries as of December 31, 1996 and 1995, and the related consolidated statements of income, stockholders' equity and cash flows for each of the three years in the period ended December 31, 1996. 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 audits. We did not audit the financial statements of The Federal Savings Bank, a bank acquired during 1995 in a transaction accounted for as a pooling of interests, as of and for the years ended December 31, 1995 and 1994, as discussed in Note 2. Such statements are included in the consolidated financial statements of Affiliated Community Bancorp, Inc. and reflect total assets of 52 percent as of December 31, 1995 and total interest income of 53 percent and 52 percent in 1995 and 1994, respectively, of the related consolidated totals. These statements were audited by other auditors whose report has been furnished to us and our opinion on the consolidated financial statements of Affiliated Community Bancorp, Inc. and subsidiaries as of December 31, 1995 and for the two years in the period ended December 31, 1995, insofar as it relates to amounts included for The Federal Savings Bank, is based solely upon the report of the other auditors. 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 were 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 and the report of other auditors provide a reasonable basis for our opinion. In our opinion, based on our audits and the report of other auditors, the financial statements referred to above present fairly, in all material respects, the financial position of Affiliated Community Bancorp, Inc. and subsidiaries as of December 31, 1996 and 1995 and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1996 in conformity with generally accepted accounting principles. ARTHUR ANDERSEN LLP Boston, Massachusetts January 15, 1997 88 INDEPENDENT AUDITORS' REPORT The Board of Directors The Federal Savings Bank: We have audited the consolidated statements of financial condition of The Federal Savings Bank and subsidiaries as of December 31, 1994 and 1995, and the related consolidated statements of income, stockholders' equity, and cash flows for each of the years in the two-year period ended December 31, 1995. These consolidated financial statements, which are not presented separately herein, are the responsibility of the Bank's management. Our responsibility is to express an opinion on these consolidated 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, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of The Federal Savings Bank and subsidiaries as of December 31, 1994 and 1995 and the results of their operations and their cash flows for each of the years in the two-year period ended December 31, 1995, in conformity with generally accepted accounting principles. As discussed in notes 1 and 3 to the consolidated financial statements referred to above, the Company changed its method of accounting for investment securities in 1994. KPMG PEAT MARWICK LLP Boston, Massachusetts January 15, 1996 89 INDEPENDENT AUDITORS' REPORT The Board of Directors Main Street Community Bancorp, Inc.: We have audited the consolidated statement of financial condition of Main Street Community Bancorp, Inc. and subsidiary as of December 31, 1994, and the related consolidated statements of income, stockholders' equity, and cash flows for the year then ended. These consolidated financial statements, which are not presented separately herein, are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated 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, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Main Street Community Bancorp, Inc. and subsidiary as of December 31, 1994, and the results of their operations and their cash flows for the year ended December 31, 1994, in conformity with generally accepted accounting principles. As discussed in notes 1 and 3 to the consolidated financial statements referred to above, the Company changed its method of accounting for investment securities in 1994. KPMG PEAT MARWICK LLP Boston, Massachusetts January 20, 1995 90 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION December 31, 1996 and 1995 (Dollars in thousands, except share data)
December 31, ------------------ 1996 1995 --------- ------ Assets Cash and due from banks ....................................................... $11,331 $14,037 Federal funds sold and overnight deposits ..................................... 4,464 4,125 Investment securities--held to maturity (market value $173,372 and $177,384 at December 31, 1996 and 1995, respectively) (notes 3 and 8) .................... 173,510 176,100 Investment securities--available for sale (amortized cost $160,395 and $114,292 at December 31, 1996 and 1995, respectively) (notes 3 and 8) ................ 159,844 114,836 Loans held for sale ........................................................... -- 1,071 Loans receivable, net of allowance for possible loan losses of $7,759 and $7,127 at December 31, 1996 and 1995, respectively (notes 4 and 11)................. 645,797 535,679 Federal Home Loan Bank stock, at cost (note 3) ................................ 14,638 10,355 Other real estate owned, net (note 5) ......................................... 133 1,201 Accrued interest receivable ................................................... 7,124 5,873 Office properties and equipment, net (note 6) ................................. 8,428 8,446 Deferred tax asset, net (note 10) ............................................. 3,405 3,096 Other assets .................................................................. 3,539 3,661 ---------- -------- Total assets ............................................................. $1,032,213 $878,480 ========== ======== Liabilities and Stockholders' Equity Liabilities: Deposits (note 7) ......................................................... $652,509 $583,832 Federal Home Loan Bank advances (note 8) .................................. 267,171 186,835 ESOP debt (note 14) ....................................................... 1,394 679 Mortgagors' escrow payments ............................................... 2,087 1,904 Securities sold under agreements to repurchase (note 9) 727 -- Other (note 14) ........................................................... 6,923 5,940 -------- -------- Total liabilities ..................................................... 930,811 779,190 ======== ======== Commitments and contingencies (notes 4, 11, and 12) Stockholders' equity (notes 13 and 14): Preferred stock, $.01 par value; 2,000,000 shares authorized, none issued -- -- Common stock, $.01 par value; 18,000,000 shares authorized; shares issued 5,347,166 in 1996 and 5,296,700 in 1995 .......................... 53 53 Additional paid-in capital ................................................ 49,159 48,263 Retained earnings--restricted (notes 2 and 13) ............................ 57,518 51,563 Treasury stock at cost, 198,000 shares at December 31, 1996 ............... (3,402) -- Unearned compensation--ESOP (note 14) ..................................... (1,394) (679) Net unrealized gain (loss) on investment securities, net of tax effects (notes 3 and 10) ........................................................ (532) 90 ---------- -------- Total stockholders' equity ............................................ 101,402 99,290 ---------- -------- Total liabilities and stockholders' equity ............................ $1,032,213 $878,480 ========== ========
The accompanying notes are an integral part of these consolidated financial statements. 91 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME For the Years Ended December 31, 1996, 1995 and 1994 (In thousands, except per share data)
1996 1995 1994 ------ ------ ------ Interest and dividend income: Interest and fees on loans ............................. $48,661 $41,924 $33,150 Interest and dividend income on investment securities .. 22,415 18,598 13,752 Interest on federal funds sold and overnight deposits .. 265 474 469 ------- ------- ------- Total interest and dividend income .................. 71,341 60,996 47,371 ------- ------- ------- Interest expense: Interest on deposits (note 7) ........................... 25,775 22,878 17,762 Interest on borrowed funds .............................. 14,289 -10,346 5,130 ------- ------- ------- Total interest expense .............................. 40,064 33,224 22,892 ------- ------- ------- Net interest income ........................................ 31,277 27,772 24,479 Provision for possible loan losses (note 4) ................ 605 325 550 ------- ------- ------- Net interest income after provision for possible loan losses 30,672 27,447 23,929 ------- ------- ------- Noninterest income: Mortgage loan servicing fees ............................ 309 324 293 Customer service fees and other ......................... 1,300 1,320 1,383 Gain (loss) on sales of securities, net ................. (47) 33 (420) Gain on sales of loans, net ............................. 76 16 92 ------- ------- ------- Total noninterest income ............................ 1,638 1,693 1,348 ------- ------- ------- Noninterest expenses: Compensation and employee benefits (notes 14 and 15) .... 9,054 8,587 7,930 Occupancy and equipment (notes 6 and 12) ................ 2,086 1,994 1,772 Data processing ......................................... 835 792 809 Professional services ................................... 702 786 810 Federal Deposit Insurance premiums (notes 1 and 7) ...... 2,860 1,006 1,251 Other real estate owned expenses (income), net (note 5) . 129 (107) (124) Marketing and promotion ................................. 572 496 449 Merger expenses (note 2) ................................ -- 1,989 -- Other ................................................... 2,728 2,691 2,548 ------- ------- ------- Total noninterest expenses .......................... 18,966 18,234 15,445 ------- ------- ------- Income before provision for income taxes ................... 13,344 10,906 9,832 Provision for income taxes (note 10) ....................... 4,821 5,199 2,806 ------- ------- ------- Net income .......................................... $8,523 $5,707 $7,026 ====== ====== ====== Earnings per share: Primary ................................................ $1.65 $1.07 $1.32 ====== ====== ====== Fully diluted .......................................... $1.64 $1.07 $1.32 ====== ====== ====== Weighted average shares outstanding: Primary ................................................ 5,169 5,327 5,303 ====== ====== ====== Fully diluted .......................................... 5,208 5,346 5,306 ====== ====== ====== The accompanying notes are an integral part of these consolidated financial statements.
92 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY For the Years Ended December 31, 1996, 1995 and 1994 (In thousands, except per share data)
Net Unrealized Additional Unearned Gain (Loss) on Common Paid-in Treasury Retained Compensation- Investment Stock Capital Stock Earnings ESOP Securities Total ----- ------- ----- -------- ---- ---------- ----- Balance at December 31, 1993 ...................... $53 $47,935 $-- $42,341 $(964) $78 $89,443 Net income ...................................... -- -- $-- 7,026 -- -- 7,026 ESOP transactions ............................... -- 63 -- -- 143 -- 206 Issuance of common stock under stock option plan .................................... -- 71 -- -- -- -- 71 Cash dividends declared ($35 per share) ......................................... -- -- -- (1,839) -- -- (1,839) Change in net unrealized gain (loss) on securities available for sale, net of tax effect ..................................... -- -- -- -- -- (1,621) (1,621) --- ------ --- ------ ------ ------ ------ Balance at December 31, 1994 ...................... 53 48,069 -- 47,528 (821) (1,543) 93,286 Net income ....................................... -- -- -- 5,707 -- -- 5,707 ESOP transactions ................................ -- 86 -- -- 142 -- 228 Issuance of common stock under stock option plan .................................... -- 108 -- -- -- -- 108 Cash dividends declared ($.32 per share) ......................................... -- -- -- (1,672) -- -- (1,672) Changes in net unrealized gain (loss) on securities available for sale, net of tax effect .................................. -- -- -- -- -- 1,633 1,633 --- ------ --- ------ ----- ----- ----- Balance at December 31, 1995 ...................... 53 48,263 -- 51,563 (679) 90 99,290 Net income ...................................... -- -- -- 8,523 -- -- 8,523 Common stock acquired by ESOP ................... -- 231 679 -- (910) -- -- ESOP transactions ............................... -- 127 -- 34 195 -- 356 Issuance of common stock under stock option plan .................................... -- 396 -- -- -- -- 396 Purchase of treasury stock ...................... -- -- (4,081) -- -- -- (4,081) Tax benefit from stock options exercised ...................................... -- 142 -- -- -- -- 142 Cash dividends declared ($.51 per share) ......................................... -- -- -- (2,602) -- -- (2.602) Change in net unrealized gain (loss) on securities available for sale, net of tax effect ..................................... -- -- -- -- -- (622) (622) --- ------ ------ ------ ----- ---- ---- Balance at December 31, 1996 ....................... $53 $49,159 $(3,402) $57,518 $(1,394) $(532) $101,402 === ======= ======= ======= ======= ===== ========
The accompanying notes are an integral part of these consolidated financial statements. 93 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS For The Years Ended December 31, 1996, 1995 and 1994 (Dollars in thousands)
Years ended December 31, ------------------------------- 1996 1995 1994 ---- ---- ---- Cash flows from operating activities: Net income .............................................................................. $ 8,523 $ 5,707 $ 7,026 Adjustments to reconcile net income to net cash provided by operating activities: Provision for possible loan losses ..................................................... 605 325 550 Provision for losses on other real estate owned ........................................ 220 220 233 Depreciation and amortization .......................................................... 771 644 601 Gain on sales of loans ................................................................. (76) (16) (92) (Gain) loss on sales of securities ..................................................... 47 (33) 420 Net gain on sales of other real estate owned ........................................... (285) (361) (432) Net amortization of premiums on investment securities .................................. 696 620 1,158 (Benefit) provision for (prepaid) deferred income taxes ................................ 86 751 (1,135) ESOP transactions ...................................................................... 392 228 206 Increase in Federal Home Loan Bank stock ............................................... (4,283) (549) (3,690) (Increase) decrease in loans held for sale ............................................. 1,071 (1,071) 5,726 Increase in accrued interest receivable ................................................ (1,251) (1,014) (898) Other, net ............................................................................. 715 (242) (1,559) ------ ------ ------ Net cash provided by operating activities ............................................ 7,231 5,209 8,114 Cash flows from investing activities: Proceeds from sales of investment securities available for sale .......................... 1,104 4,423 25,511 Proceeds from maturities of investment securities available for sale ..................... 30,510 21,040 13,522 Proceeds from maturities of investment securities held to maturity ....................... 10,974 15,503 606 Purchases of investment securities available for sale .................................... (85,953) (45,172) (41,874) Purchases of investment securities held to maturity ...................................... (34,162) (37,587) (117,254) Principal payments received on investment securities available for sale .................. 8,642 3,136 7,856 Principal payments received on investment securities held to maturity .................... 27,464 28,353 30,564 Loan originations, net of repayments ..................................................... (112,482) (67,016) (71,943) Proceeds from sale of office properties and equipment .................................... -- 201 3 Purchases of office properties and equipment ............................................. (753) (1,466) (1,177) Capitalized costs associated with other real estate owned net of payments received ....... (108) (92) (524) Proceeds from sales of other real estate owned ........................................... 815 1,938 4,950 ------- ------- ------ Net cash used by investing activities ................................................ (153,949) (76,739) (149,760) Cash flows from financing activities: Net increase in deposits ................................................................. 68,677 51,562 6,799 Additions to Federal Home Loan Bank advances ............................................. 80,336 26,635 98,200 Increase in mortgagors' escrow payments .................................................. 183 87 246 Increase in securities sold under agreements to repurchase ............................... 727 -- -- Proceeds from issuance of common stock ................................................... 396 108 71 Unfilled conversion stock subscription orders ............................................ -- -- (8,478) Purchase of treasury stock ............................................................... (4,081) -- -- Proceeds from issuance of long-term debt ................................................. 859 -- -- Purchase of common stock by ESOP ......................................................... (910) -- -- Proceeds from sale of treasury stock ..................................................... 910 -- -- ESOP transactions ........................................................................ (144) (142) (143) Cash dividends paid on common stock ...................................................... (2,602) (2,203) (1,665) ------ ------ ------ Net cash provided by financing activities ............................................ 144,351 76,047 95,030 Net increase (decrease) in cash and cash equivalents ...................................... (2,367) 4,517 (46,616) Cash and cash equivalents at beginning of year ............................................ 18,162 13,645 60,261 ------ ------ ------ Cash and cash equivalents at end of year .................................................. $ 15,795 $18,162 $ 13,645 ======== ======= ======== Supplemental disclosures of cash flow information: Interest paid on deposits ................................................................ $ 25,742 $25,373 $ 18,399 Interest paid on borrowed funds .......................................................... 14,859 10,115 4,655 Income taxes paid, net of refunds ........................................................ 5,525 4,437 3,547 Supplemental disclosures of non-cash transactions: Transfers to (from) foreclosed real estate ............................................... 1,006 (622) 1,993 Loans granted on sale of foreclosed real estate .......................................... 1,497 827 1,189 Investment securities transferred to available for sale .................................. -- 24,788 35,063 Investment securities transferred from available for sale to held to maturity, net of unrealized depreciation ............................................... -- -- 14,393 Securitization of loans to mortgage backed investments available for sale ................ 2,326 -- 5,753
The accompanying notes are an integral part of these consolidated financial statements. 94 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 1996 1. Summary of Significant Accounting Policies Basis of presentation and consolidation The accompanying consolidated financial statements include the accounts of Affiliated Community Bancorp, Inc., a Massachusetts corporation (the "Company" or "Affiliated"), and its two wholly owned direct subsidiaries, Lexington Savings Bank ("Lexington"), a Massachusetts chartered savings bank, and The Federal Savings Bank, a federally chartered savings bank ("Federal"), which are located in Lexington, Massachusetts and Waltham, Massachusetts, respectively. Lexington, as a state chartered savings bank, is insured by the Bank Insurance Fund ("BIF") and Federal, as a federally chartered savings institution, is insured by the Savings Association Insurance Fund ("SAIF") of the Federal Deposit Insurance Corporation. Federal converted from a federally chartered mutual savings bank to a federally chartered stock savings bank on December 28, 1993. As part of the conversion, Main Street Community Bancorp, Inc. ("Main Street") was formed, acquired all of Federal's conversion stock and issued its common stock in a subscription offering. As a part of the affiliation of Federal and Lexington, Main Street was merged into Affiliated on October 18, 1995. See Note 2 for details of the affiliation. Lexington has four wholly owned subsidiaries, Lexington Financial Planning, Inc. ("LFP"), Lexington Securities Corporation, Mass. Ave. Securities Corporation and Minuteman Investment Corporation. LFP provides financial planning services to individuals within the Bank's market area. The other subsidiaries were established in December 1993 for the purpose of buying, holding and selling investment securities. Federal has four wholly owned subsidiaries, Main Street Building Corporation ("MSBC"), Main Street Investment Corporation ("MSIC"), TFSB Securities Corp I and TFSB Securities Corp II. MSBC holds, operates, manages and disposes of real estate owned acquired through foreclosure. MSIC was established in June 1994 as a service corporation to offer discount brokerage services. TFSB Securities Corp I and TFSB Securities Corp II were established in February 1996 for the purpose of buying, holding and selling investment securities. All material intercompany accounts and transactions have been eliminated in consolidation. The Company and its subsidiaries provide a full range of banking services to individual and corporate customers, are subject to competition from other financial institutions, are subject to regulations of certain federal and state agencies, and undergo periodic examinations by those regulatory authorities. The accompanying consolidated financial statements have been prepared in conformity with generally accepted accounting principles. In preparing the financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as of the date of the balance sheets and income and expenses during the reporting periods. Actual results could differ from those estimates. Material estimates that are particularly susceptible to change relate to the determination of the allowance for possible loan losses and the valuation of real estate acquired in connection with foreclosures or in satisfaction of loans. Cash equivalents Cash equivalents include federal funds sold with maturities of one day, Federal Home Loan Bank overnight deposits and interest-bearing deposits in banks which mature within 30 days. 95 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued) Investment securities Debt securities that management has the positive intent and ability to hold to maturity be classified as "held to maturity" and reflected at amortized cost. Investments that are purchased and held principally for the purpose of selling in the near term are classified as "trading securities" and are reflected on the balance sheet at fair value, with unrealized gains and losses included in earnings. Investments not classified as either of the above are classified as "available for sale" and are reflected on the balance sheet at fair value, with unrealized gains and losses excluded from earnings and reported as a separate component of stockholders' equity, net of tax. In the fourth quarter of 1995, concurrent with the adoption of its implementation guide on SFAS No. 115, the Financial Accounting Standards Board ("FASB") allowed a one time reassessment of the SFAS No. 115 classifications of all securities currently held. Any reclassifications are accounted for at fair value in accordance with SFAS No. 115, and any reclassifications from the held-to-maturity portfolio that result from this one time reassessment do not call into question the intent of the Company to hold other debt securities to maturity in the future. The Company used the opportunity under this one time reassessment to reclassify securities from held-to-maturity to the available- for-sale portfolio with an amortized cost of approximately $24,788,000. In connection with this reclassification, net unrealized gains of $142,000 were recorded in available-for-sale securities and in stockholders' equity (on a net-of-tax basis). Federal Home Loan Bank stock is reflected at cost. Premiums and discounts are amortized and accreted over the term of the securities on the interest method or a method that approximates the interest method over the terms of the investments. If a decline in fair value below the amortized cost basis of an investment security is judged to be other than temporary, the cost basis of the investment is written down to fair value as a new cost basis and the amount of the write down is included in earnings. Gains and losses on the sale of investment securities are recognized at the time of the sale using the specific identification method. Loans The Company grants mortgage, commercial and consumer loans to customers that are primarily located in the eastern Massachusetts area. The ability of borrowers to honor their contracts is primarily dependent on the real estate and construction economic sectors and the general economy. Loans are stated at the amount of unpaid principal increased by the unamortized premium on loans purchased and reduced by unadvanced loan funds, net deferred loan fees and the allowance for possible loan losses. Premiums paid on loans acquired are amortized as an adjustment of the related loan yields by a method which approximates the interest method. Loan origination and commitment fees and certain direct loan origination costs, applicable to mortgage, commercial and construction loans, are deferred and amortized to interest income over the contractual lives of the loans by the interest method or taken into income at the time the loans are sold. Interest on loans is recognized on a simple-interest basis and is generally not accrued for loans which are ninety days or more past due. Interest income previously accrued on such loans is reversed against current period earnings. 96 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued) Loans held for sale are carried at the lower of aggregate cost or market value. No adjustments for unrealized losses were required for 1996, 1995 and 1994. The Company adopted SFAS No. 114, "Accounting by Creditors for Impairment of a Loan" and SFAS No. 118, "Accounting by Creditors for Impairment of a Loan--Income Recognition and Disclosures," on January 1, 1995. Under these accounting standards, loans are considered impaired when it is probable that the Company will not be able to collect principal, interest and fees according to the contractual terms of the loan agreement. Management considers the paying status, net worth and earnings potential of a borrower, and the value and cash flow of the collateral as factors to determine if a loan will be paid in accordance with its contractual terms. Management does not set any minimum delay of payments as a factor in reviewing for impaired classification. The amount judged to be impaired is the difference between the present value of the expected cash flows using as a discount rate the original contractual effective interest rate and the recorded investment of the loan. If foreclosure on a collateralized loan is probable, impairment is measured based on the fair value of the collateral compared to the recorded investment. If appropriate, a valuation reserve is established to recognize the difference between the recorded investment and the present value. Impaired loans are charged off when management believes that the collectibility of the loan's principal is remote. The Company considers nonaccrual loans, except for smaller balance homogenous residential and consumer loans, and troubled debt restructures to be impaired under SFAS No. 114, as amended. All impaired loans are classified as nonaccrual. The adoption of this new standard on January 1, 1995 did not have an impact on the Company's allowance for possible loan losses. SFAS No. 114 also revises the definition of In-Substance Foreclosures ("ISF"). Under the new definition, ISF classification applies only to loans for which collateral is in the physical possession of the creditor. Upon adoption of SFAS No. 114, $1,816,000 of ISF was reclassified to loans. Allowance for possible loan losses The allowance for possible loan losses is established through a provision for possible loan losses charged to earnings and is maintained at a level considered adequate by management to provide for potential loan losses. The provision and the level of the allowance are evaluated on a regular basis by management and are based upon management's periodic review of the collectibility of the loans in light of historical experience, known and inherent risks in the nature and volume of the loan portfolio, adverse situations that may affect the borrower's ability to repay, estimated value of any underlying collateral, and prevailing economic conditions. The allowance is an estimate, and ultimate losses may vary from current estimates and future additions to the allowance may be necessary. As adjustments become necessary, they are reported in the results of operations for the periods in which they become known. Loan losses are charged against the allowance when management believes the collectibility of the loan balance is unlikely. Loan Servicing The Company adopted SFAS No. 122, "Accounting for Mortgage Servicing Rights" effective January 1, 1996. SFAS No. 122 requires entities that engage in mortgage banking activities to recognize as separate assets rights to service mortgage loans for others acquired through either the purchase or origination of mortgage loans and sale or securitization of those loans with servicing retained. The cost of mortgage servicing rights is amortized in proportion to, and over the period of, estimated net servicing revenues. Impairment of mortgage servicing rights is assessed based on the fair value of those rights. Fair values are estimated using discounted cash flows based on a current market interest rate. For purposes of measuring impairment, the rights are stratified based on the following predominant risk characteristics of the 97 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued) underlying loans; interest rates, type of interest and loan maturity dates. the amount of impairment recognized is the amount by which the capitalized mortgage servicing rights for a stratum exceed their fair value. When participating interests in loans sold have an average contractual interest rate, adjusted for normal servicing fees, that differs from the agreed yield to the purchaser, gains or losses are recognized equal to the present value of such differential over the estimated remaining life of such loans. The resulting "excess servicing receivable" or "deferred servicing revenue" is amortized over the estimated life using a method approximating the interest method. The excess servicing receivables are periodically evaluated in relation to estimated future servicing revenues, taking into consideration changes in interest rates, current prepayment rates, and expected future cash flows. The Bank evaluates the carrying value of the excess servicing receivables by estimating the future servicing income of the excess servicing receivables based on management's best estimate of remaining loan lives and discounted at the original discount rate. Mortgage servicing rights of $31,000 were capitalized and amortization of the mortgage servicing rights was $3,000 in 1996. No adjustment was required in 1996 to write down the capitalized asset to fair value. Other real estate owned Real estate acquired in settlement of loans is held for sale and is carried at the lower of cost or fair value less estimated costs to sell. Troubled loans are transferred to foreclosed property upon completion of formal foreclosure proceedings. Real estate properties acquired through foreclosure are initially recorded at fair value at the date of foreclosure, with any reduction in value charged to the allowance for possible loan losses at the time of transfer. Costs relating to development and improvement of property are capitalized, whereas costs relating to holding property are expensed. Valuations are periodically performed by management, and a valuation allowance is established through a charge to earnings if the carrying value of a property exceeds its fair value less estimated costs to sell. Office premises and equipment Land is carried at cost. Buildings and equipment are carried at cost, less accumulated depreciation computed on the straight-line method over the estimated useful lives of the assets. Leasehold improvements are carried at cost, less accumulated amortization computed on the straight-line method over the shorter of the lease or the estimated lives of the assets. It is general practice to charge the cost of maintenance and repairs to earnings when incurred; major expenditures for improvements are capitalized and depreciated. Intangible assets Goodwill attributable to the acquisition of Suburban National Corporation in 1993 is being amortized over ten years by the straight-line method. The Company reviews goodwill quarterly to assess realizability. Any impairments deemed permanent are recognized in current operating results. Based on the most recent analysis, the Company believes that no material impairment of goodwill existed at December 31, 1996 or December 31, 1995. Income taxes The Company accounts for income taxes in accordance with SFAS No. 109, "Accounting for Income Taxes". SFAS No. 109 requires that deferred tax assets and liabilities be reflected at currently enacted income tax rates applicable to the period in which the deferred tax assets or liabilities are expected to be realized or 98 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued) settled. As changes in tax laws or tax rates are enacted, deferred tax assets and liabilities will be adjusted accordingly through the provision for income taxes. For regulatory capital purposes, the recognition of deferred tax assets, when realization of such is dependent on an institution's future taxable income, is limited to the amount that can be realized within one year or 10% of capital, whichever is less. Retirement plans The compensation cost of an employee's pension benefit is recognized on the net periodic pension cost method over the employee's approximate service period. The aggregate cost method is utilized for funding purposes. Earnings and dividends declared per share Primary earnings per share computations include common stock (excluding unallocated ESOP shares) and dilutive common stock equivalents attributable to outstanding stock options. Fully diluted earnings per share computations reflect the higher market price of the Company's common stock at period end, if applicable, and the assumed further dilution applicable to outstanding stock options. Dividends declared per share for the years ended December 31, 1995 and 1994 represent the combined historical dividends declared by Lexington and Main Street determined by dividing the sum of the total dividends declared by Lexington and Main Street by the sum of the outstanding shares of common stock of Lexington and Main Street to which the dividends declared apply. Recent Accounting Pronouncements In June 1996, the FASB issued SFAS No. 125, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities", which is generally effective for transfers and servicing of financial assets and extinguishments of liabilities, as defined, after December 31, 1996. SFAS No. 125, as amended, requires an entity to recognize upon a transfer the financial and servicing assets it controls and the liabilities it has incurred, derecognize financial assets when control has been surrendered, and derecognize liabilities when extinguished. SFAS No. 125 supersedes SFAS No. 122. For servicing contracts in existence before January 1, 1997, previously recognized servicing rights and "excess servicing" receivables that do not exceed contractually specified servicing fees are combined, net of any previously recognized servicing obligations, as a servicing asset or liability with previously recognized servicing receivables that exceed contractually specified servicing fees being reclassified as interest-only strips receivable. The Company's management anticipates that the adoption of this statement will not have a material impact on its financial condition or results of operations. Reclassifications Certain reclassifications have been made to the 1994 and 1995 consolidated financial statements to conform with the 1996 presentation. Such reclassifications have no effect on previously reported consolidated net income. 2. Affiliation Effective at the close of business on October 18, 1995, Affiliated acquired by merger all of the outstanding stock of two savings banks, Federal and Lexington, in a merger-of-equals transaction consummating the affiliation of Lexington and Federal (the "Affiliation"). Main Street, Federal's former holding company, was a business corporation formed at the direction of Federal under the laws of the Commonwealth of Massachusetts on September 1, 1993. On December 28, 1993 (i) Federal converted from a federally chartered mutual savings bank to a federally chartered stock savings bank, (ii) Federal issued all of its outstanding capital stock to Main Street, and (iii) Main Street consummated its initial public offering of common stock, par value $.0l per share by selling 2,907,200 shares at a price of $10.00 per share, to Federal's Employee Stock Ownership Plan ("Federal ESOP") and to certain of Federal's eligible account holders who had subscribed for such shares (collectively, the "Conversion"). 99 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued) As a result of the Conversion, Federal became a wholly owned subsidiary of Main Street. Main Street ceased operations on October 18, 1995 as a consequence of the Affiliation. Lexington and Main Street entered into an Affiliation Agreement and Plan of Reorganization dated as of March 14, 1995 (the "Affiliation Agreement"). The Affiliation Agreement provided for, among other things, (a) the formation by Lexington of a temporary bank holding company, LEXB Holding, Inc., (b) the acquisition by LEXB Holding, Inc. of all of the outstanding stock of Lexington, (c) the merger of LEXB Holding, Inc. with and into Affiliated and (d) the merger of Main Street with and into Affiliated. The Affiliation was subject to approval by the stockholders of Main Street and Lexington and approval of state and federal bank regulatory agencies. At a Special Meeting of Main Street stockholders on August 22, 1995, the stockholders of Main Street approved the Affiliation Agreement and related transactions. At a Special Meeting of Lexington stockholders on September 14, 1995, the stockholders of Lexington approved the Affiliation Agreement and related transactions. The final remaining bank regulatory approval of the Affiliation was obtained on October 17, 1995. The transaction was accounted for as a pooling of interests under which the shareholders of Main Street, holding 2,907,200 shares received 2,907,200 shares of Affiliated common stock, and the shareholders of Lexington, holding 2,383,500 shares, received 2,383,500 shares of Affiliated common stock. The following table summarizes the separate results of operations and financial condition of Lexington and Main Street as of and for the nine months ended September 30, 1995 (unaudited). Lexington Main Street --------- ----------- (Dollars in thousands, except per share data) Net interest income ............................ $ 9,483 $ 11,076 Net income ..................................... $ 2,482 $ 3,090 Earnings per share: Primary ..................................... $ 1.01 $ 1.08 Fully diluted ............................... $ 1.01 $ 1.08 Total assets ................................... $404,717 $432,393 Deposits ....................................... $256,511 $317,826 Stockholders' equity ........................... $ 38,936 $ 59,790 The following table summarizes the separate results of operations and financial condition of Lexington and Main Street as of and for the year ended December 31, 1994. Lexington Main Street --------- ----------- (Dollars in thousands, except per share data) Net interest income ............................ $ 11,762 $ 12,551 Net income (1) ................................. $ 3,007 $ 4,019 Earnings per share: (1) Primary ..................................... $ 1.22 $ 1.41 Fully diluted ............................... $ 1.22 $ 1.41 Total assets ................................... $393,659 $399,937 Deposits ....................................... $227,400 $304,870 Stockholders' equity ........................... $ 36,301 $ 56,985 (1) Results for Main Street include tax benefits resulting from the change in SFAS No. 109 tax valuation reserve of $1,075,000 or $.38 per share for the year ended December 31, 1994. As a result of the pooling, the financial statements of Lexington, Federal and Main Street have been combined as if Affiliated had been in existence for the periods reported on. 100 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued) 3. Investment Securities The amortized cost and fair value of investment securities at December 31, 1996 and 1995, with gross unrealized gains and losses, are as follows:
December 31, 1996 December 31, 1995 ----------------------------------------- -------------------------------------------- Gross Gross Gross Gross Amortized Unrealized Unrealized Fair Amortized Unrealized Unrealized Fair Cost Gains Losses Value Cost Gains Losses Value --------- ---------- ---------- ----- --------- ---------- ---------- ----- (In thousands) (In thousands) Securities available for sale: Government securities .................. $ 86,645 $ 86 $ (849) $ 85,882 $ 50,620 $ 341 $ (76) $ 50,885 Corporate bonds ........................ 2,034 5 (1) 2,038 4,591 18 (18) 4,591 Asset-backed securities ................. 4,473 12 (161) 4,324 5,801 --- (100) 5,701 Mortgage-backed securities: Balloons .............................. -- -- -- -- -- --- -- -- Fixed ................................. 12,018 47 (118) 11,947 11,518 139 -- 11,657 Variable .............................. 25,313 389 (139) 25,563 30,190 322 (134) 30,378 -------- ----- ------- -------- -------- --- ------- -------- Total mortgage-backed securities .... 37,331 436 (257) 37,510 41,708 461 (134) 42,035 -------- ----- ------- -------- -------- --- ------- -------- Mortgage-backed derivatives ............ 7,585 11 -- 7,596 8,229 32 -- 8,261 Marketable equity securities ........... 22,327 368 (201) 22,494 3,343 37 (17) 3,363 -------- ----- ------- -------- -------- --- ------- -------- Total securities available for sale . $160,395 $ 918 $(1,469) $159,844 $114,292 $ 889 $ (345) $114,836 ======== ===== ======= ======== ======== === ======= ======== Securities held to maturity: Government securities .................. $ 39,304 $ 232 $ (67) $ 39,469 $ 22,408 $ 415 $ (22) $ 22,801 Corporate bonds ........................ 3,003 12 -- 3,015 4,011 47 -- 4,058 Asset-backed securities ................ 19,466 100 (195) 19,371 17,695 72 (207) 17,560 Mortgage-backed securities: Balloons .............................. 43,583 49 (526) 43,106 50,458 239 (283) 50,414 Fixed ................................. 39,702 402 (157) 39,947 46,851 965 (28) 47,788 Variable .............................. 14,958 59 (149) 14,868 17,927 56 (188) 17,795 -------- ------ --------- -------- -------- ------ ------- -------- Total mortgage-backed securities .... 98,243 510 (832) 97,921 115,236 1,260 (499) 115,997 -------- ------ --------- -------- -------- ------ ------- -------- Mortgage-backed derivatives ............ 13,494 174 (72) 13,596 16,750 218 -- 16,968 -------- ------ --------- -------- -------- ------ ------- -------- Total securities held to maturity ... $173,510 $1,028 $(1,166) $173,372 $176,100 $2,012 $ (728) $177,384 ======== ====== ========= ======== ======== ====== ======= ======== Federal Home Loan Bank stock, at cost .. 14,638 -- -- 14,638 10,355 -- -- 10,355 -------- ------ --------- -------- -------- ------ ------- -------- Total investment securities .......... $348,543 $1,946 $(2,635) $347,854 $300,747 $2,901 $(1,073) $302,575 ======== ====== ========= ======== ======== ====== ======= ========
At December 31, 1996 and 1995, the Company has pledged certain investment securities with an amortized cost of $70,434,000 and $55,176,000, respectively, and a fair value of $69,885,000 and $55,135,000, respectively, as collateral against its Federal Home Loan Bank advances, securities sold under agreements to repurchase and the treasury, tax and loan account. The proceeds from sales of investment securities available for sale and related gains and losses for the years ended December 31, 1996, 1995 and 1994, are as follows: December 31, -------------- 1996 1995 1994 ---- ---- ---- (In thousands) Proceeds from sales of investment securities .... $1,104 $4,423 $25,511 ====== ====== ======= Realized gains on sales of investment securities $ -- $ 70 $ 10 ====== ====== ======= Realized losses on sales of investment securities $ (47) $ (37) $ (430) ====== ====== ======= 101 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued) The amortized cost and fair value of debt securities by contractual maturity at December 31, 1996 and 1995 is as follows:
December 31, 1996 ---------------------------------------------------------------------------------------------------------- Government Corporate Asset-backed Mortgage-backed Mortgage-backed securities securities securities securities derivatives Total ---------- ---------- ---------- ---------- ----------- ----- Amortized Fair Amortized Fair Amortized Fair Amortized Fair Amortized Fair Amortized Fair Cost Value Cost Value Cost Value Cost Value Cost Value Cost Value ---- ----- ---- ----- ---- ----- ---- ----- ---- ----- ---- ----- (In thousands) Available for sale: Within l year ........... $ 1,506 $ 1,504 $1,005 $1,004 $ -- $ -- $ -- $ -- $ -- $ -- $ 2,511 $ 2,508 1 to 5 years ............ 14,333 14,243 1,029 1,034 -- -- -- -- -- -- 15,362 15,277 5 to 10 years ........... 60,298 59,887 -- -- -- -- -- -- -- -- 60,298 59,887 Over 10 years ........... 10,508 10,248 -- -- 4,473 4,324 37,331 37,510 7,585 7,596 59,897 59,678 ------- ------- ------ ------ ------ ------- ------- ------- ------ -------- -------- -------- $86,645 $85,882 $2,034 $2,038 $4,473 $ 4,324 $37,331 $37,510 $7,585 $ 7,596 $138,068 $137,350 ======= ======= ====== ====== ====== ======= ======= ======= ====== ======== ======== ======== December 31, 1995 ---------------------------------------------------------------------------------------------------------- Government Corporate Asset-backed Mortgage-backed Mortgage-backed securities securities securities securities derivatives Total ---------- ---------- ---------- ---------- ----------- ----- Amortized Fair Amortized Fair Amortized Fair Amortized Fair Amortized Fair Amortized Fair Cost Value Cost Value Cost Value Cost Value Cost Value Cost Value ---- ----- ---- ----- ---- ----- ---- ----- ---- ----- ---- ----- (In thousands) Available for sale: Within 1 year ............ $20,049 $20,263 $2,501 $2,485 $ -- $ -- $ -- $ -- $ 52 $ 52 $ 22,602 $ 22,800 1 to 5 years ............. 10,072 10,015 2,090 2,106 -- -- -- -- -- -- 12,162 12,121 5 to 10 years ............ 20,499 20,607 -- -- -- -- -- -- -- -- 20,499 20,607 Over 10 years ............ -- -- -- -- 5,801 5,701 1,708 42,035 8,177 8,209 55,686 55,945 ------- ------- ------ ------ ------ ------ ------- ------- ------ -------- -------- -------- $50,620 $50,885 $4,591 $4,591 $5,801 $5,701 $41,708 $42,035 $8,229 $ 8,261 $110,949 $111,473 ======= ======= ====== ====== ====== ====== ======= ======= ====== ======== ======== ======== December 31, 1996 ---------------------------------------------------------------------------------------------------------- Government Corporate Asset-backed Mortgage-backed Mortgage-backed securities securities securities securities derivatives Total ---------- ---------- ---------- ---------- ----------- ----- Amortized Fair Amortized Fair Amortized Fair Amortized Fair Amortized Fair Amortized Fair Cost Value Cost Value Cost Value Cost Value Cost Value Cost Value ---- ----- ---- ----- ---- ----- ---- ----- ---- ----- ---- ----- (In thousands) Held to maturity: Within 1 year ..... $ 3,897 $ 3,895 $3,003 $3,015 $ 45 $ 45 $ 8,823 $ 8,828 $ -- $ -- $ 15,768 $ 15,783 1 to 5 years ...... 9,721 9,817 -- -- 586 586 33,732 33,239 2,127 2,114 446,166 45,756 5 to 10 years ..... 25,686 25,757 -- -- 1,533 1,517 11,525 11,765 1,229 1,216 39,973 40,255 Over 10 years ..... -- -- -- -- 17,302 217,223 44,163 44,089 10,138 10,266 71,603 71,578 ------- ------- ------ ------ ------- -------- ------- ------- ------- -------- -------- -------- $39,304 $39,469 $3,003 $3,015 $19,466 $ 19,371 $98,243 $97,921 $13,494 $ 13,596 $173,510 $173,372 ======= ======= ====== ====== ======= ======== ======= ======= ======= ======== ======== ======== December 31, 1995 ---------------------------------------------------------------------------------------------------------- Government Corporate Asset-backed Mortgage-backed Mortgage-backed securities securities securities securities derivatives Total ---------- ---------- ---------- ---------- ----------- ----- Amortized Fair Amortized Fair Amortized Fair Amortized Fair Amortized Fair Amortized Fair Cost Value Cost Value Cost Value Cost Value Cost Value Cost Value ---- ----- ---- ----- ---- ----- ---- ----- ---- ----- ---- ----- (In thousands) Held to maturity: Within l year ...... $ -- $ -- $1,001 $1,001 $ -- $ $ 457 $ 462 $ -- $ -- $ 1,458 $ 1,463 1 to 5 years ....... 11,608 11,814 3,010 3,057 1,562 1,555 48,274 48,248 3,044 3,021 67,498 67,695 5 to 10 years ...... 10,800 10,987 -- -- -- -- 9,682 9,772 456 454 20,938 21,213 Over 10 years ...... -- -- -- -- 16,133 16,005 56,823 57,515 13,250 13,493 86,206 87,013 ------- ------- ------ ------ ------- -------- -------- ------ ------ ------- -------- -------- $22,408 $22,801 $4,011 $4,058 $17,695 $ 17,560 $115,236 $115,997 $16,750 $16,968 $176,100 $177,384 ======= ======= ====== ====== ======= ======== ======== ====== ====== ======= ======== ========
102 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) Mortgage-backed securities and mortgage-backed derivatives are shown at their final contractual maturity dates, but actual maturities may differ as borrowers have the right to prepay obligations without incurring prepayment penalties. At December 31, 1996, the mortgage-backed portfolio consisted of 1 year adjustable rate securities ($40.3 million), 5 and 7 year balloons ($43.6 million), 15 year fixed rate securities ($28.8 million) and 30 year fixed rate securities ($22.8 million). The adjustable rate securities were predominantly 30 year loans with annual rate adjustments. The $43.6 million in balloon securities, which had 4 to 5 year average lives when purchased and contractual maturity dates of 5 to 7 years, had a weighted average life of 2.1 years at December 31, 1996. The weighted average lives for the 15 and 30 year securities were 3.9 and 5.7 years, respectively. The mortgage-backed derivatives portfolio totalled $21.4 million, or 6.1% of total investment securities, and consisted of planned amortization classes (PAC's), targeted amortization classes (TAC's), sequential payment classes (SEQ's), scheduled amortization classes (SCH's) and accretion directed classes (AD's). The $21.4 million balance at year end had an average life of 2.0 years with 35.3% in monthly adjusting securities and the remaining 64.7% in fixed rate securities. 4. Loans The following is a comparative summary of loan balances: December 31, ------------------- 1996 1995 ------ ------ (In thousands) Mortgage loans on real estate: 1-4 family ................................... $ 428,308 $ 367,687 Multifamily .................................. 31,092 27,833 Commercial ................................... 94,419 72,896 Construction and land development, net ....... 46,344 28,405 Premium on loans acquired .................... 135 180 -------- -------- 600,298 497,001 -------- -------- Other loans: Consumer ..................................... 3,545 3,664 Equity lines of credit ....................... 16,204 15,387 Commercial ................................... 35,338 28,636 -------- -------- 55,087 47,687 Less: Deferred loan fees and unearned income . (1,829) (1,882) -------- -------- Total loans .................................. 653,556 542,806 Less: Allowance for possible loan losses ..... (7,759) (7,127) -------- -------- Loans, net ................................... $ 645,797 $ 535,679 ======== ======== 103 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) The following table summarizes information regarding nonaccrual and restructured loans: At December 31, ---------------------- 1996 1995 1994 ------ ------ ------ (In thousands) Nonaccrual loans ............................ $4,886 $5,402 $978 ====== ====== ==== Restructured loans .......................... $ -- $ 199 $205 ====== ====== ==== Years ended December 31, ------------------------- 1996 1995 1994 -------- ------ ------- (In thousands) Income in accordance with original terms .... $ 543 $ 552 $219 Income recognized ........................... 300 314 174 ------ ------ ---- Foregone interest income during year ........ $ 243 $ 238 $ 45 ====== ====== ==== For the year ended December 31, 1996, the average recorded investment in impaired loans was $3,753,000 and the income recognized related to impaired loans was $213,000. At December 31, 1996, the Company classified $3,798,000 of its loans as impaired. Of the $3,798,000, $3,691,000 has been measured under the fair value of collateral method and $107,000 has been measured under the present value of the expected cash flows method. A portion of these impaired loans, $3,555,000, has a related valuation reserve of $667,000. In addition, $243,000 of impaired loans did not, in the opinion of management, require a related valuation reserve. For the year ended December 31, 1995 the average recorded investment in impaired loans was $2,900,000 and the income recognized related to impaired loans was $208,000. At December 31, 1995, the Company classified $2,693,000 of its loans as impaired. Of the $2,693,000, $2,494,000 has been measured under the fair value of collateral method and $199,000 has been measured under the present value of the expected cash flows method. A portion of these impaired loans, $2,007,000, has a related valuation reserve of $624,000. In addition, $686,000 of impaired loans did not, in the opinion of management, require a related valuation reserve. The Company's lending activities are conducted principally in Massachusetts and include single-family and multifamily residential loans, commercial real estate loans, small business loans, home equity loans and loans on deposits. In addition, the Company grants loans for the construction of residential homes, multifamily properties, commercial real estate properties and for land development. The ability and willingness of the single-family residential and other borrowers to honor their repayment commitments is generally dependent on the level of overall economic activity within the borrowers' geographic areas and real estate values. The ability and willingness of commercial real estate, multifamily and construction loan borrowers to honor their repayment commitments is generally dependent on the health of the real estate sector in the borrowers' geographic areas and the general economy. Pursuant to OTS regulations, Federal is limited in the amount of loans to one borrower to 15% of unimpaired capital and surplus. At December 31, 1996 and 1995, Federal had approximately $4,248,000 and $3,970,000, respectively, of outstanding loans to a single borrower secured by commercial and construction properties. Lexington, as a state chartered savings bank, is subject to a 20% of capital limitation with regard to outstanding loans to any one borrower. 104 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) The following table summarizes information regarding loans sold and serviced for others by the Company: December 31, ------------------------------------- 1996 1995 1994 ------ ------ ------ (In thousands) Loans serviced for others ....... $101,060 $111,980 $110,826 ======== ======== ======== The Company sold certain convertible mortgage loans to investors pursuant to agreements which provide the investor with the right to require the Company to repurchase the loan should the buyer's conversion option be exercised. The balance of these convertible loans at December 31, 1996 and 1995 amounted to $467,000 and $473,000, respectively. In the ordinary course of business, the Company makes loans to its executive officers, directors and their affiliated companies at substantially the same terms as loans made to nonrelated borrowers. An analysis of related party loans, individually over $60,000, for the years ended December 31, 1996 and 1995 is as follows: Years Ended December 31, ------------------- 1996 1995 ------ ------ (In thousands) Balance at beginning of year ....................... $ 8,634 $8,116 New loans ..................................... 562 999 Payments ...................................... (1,074) (481) Other ......................................... (5,609) -- ------- ------ Balance at end of year ............................. $ 2,513 $8,634 ======= ====== The other reduction for 1996 represents loans to an individual who is no longer a related party due to his resignation from the Board of Directors of a subsidiary bank. The Company leases office space from a realty trust of which the former director holds an ownership interest. Rent and other expenses under the lease amounted to $166,000 for each of 1996, 1995 and 1994, respectively. An analysis of the allowance for possible loan losses follows: Years Ended December 31, ------------------------------- 1996 1995 1994 ---- ---- ---- (In thousands) Balance at beginning of year ....... $ 7,127 $ 6,996 $ 6,603 Provision for possible loan losses.. 605 325 550 Recoveries ......................... 447 150 49 ------- ------- ------- 8,179 7,471 7,202 Loans charged-off .................. (420) (344) (206) ------- ------- ------- Balance at end of year ............. $ 7,759 $ 7,127 $ 6,996 ======= ======= ======= 105 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) 5. Other Real Estate Owned The components of other real estate owned are as follows: December 31, ---------------- 1996 1995 ---- ---- (In thousands) Residential: 1-4 family ........................................... $123 $ 232 Multifamily .......................................... -- -- Commercial real estate .................................. -- 960 Land .................................................... 10 9 ---- ------ 133 1,201 Less: Accumulated income from in-substance foreclosures.. -- -- ---- ------ Total ............................................ $133 $1,201 ==== ====== The following is a summary of other real estate owned income (expenses), net: Years ended December 31, ------------------------------ 1996 1995 1994 ---- ---- ---- (In thousands) Net gain on sales ............. $ 285 $ 361 $ 432 Provision for loss ............ (220) (220) (233) Net holding costs ............. (194) (34) (75) ----- ----- ----- $(129) $ 107 $ 124 ===== ===== ===== 6. Office Properties and Equipment, Net Office properties and equipment at cost less accumulated depreciation and amortization consisted of the following: December 31, -------------------- 1996 1995 ------ ------ (In thousands) Land ......................................... $ 1,621 $ 1,621 Office buildings and improvements ............ 6,682 6,186 Leasehold improvements ....................... 430 382 Construction in process ...................... -- 292 Furniture, fixtures and equipment ............ 3,468 3,158 -------- -------- 12,201 11,639 Accumulated depreciation and amortization .... (3,773) (3,193) -------- -------- $ 8,428 $ 8,446 ======== ======== Depreciation expense for the three years ended December 31, 1996, 1995 and 1994 amounted to $771,000, $644,000 and $601,000, respectively, and is included in occupancy and equipment expenses. 106 AFFILIATED COMMUNiTY BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) 7. Deposits Deposits are summarized as follows: December 31, -------------------- 1996 1995 ------ ------ (In thousands) Demand ..................................... $ 41,557 $ 33,680 NOW ........................................ 51,347 50,487 Regular savings ............................ 122,739 119,995 Money market ............................... 66,492 61,219 -------- -------- Total non-certificate accounts .......... $282,135 $265,381 ======== ======== Certificates of less than $100,000 ......... 297,990 276,512 Certificates of $100,000 and over .......... 72,384 41,939 -------- -------- Total certificate accounts ............ 370,374 318,451 -------- -------- Total deposits ........................ $652,509 $583,832 ======== ======== Contractual maturities of term deposits at December 31, 1996 and 1995 were as follows: 1996 1995 ------------------- ------------------- Weighted Weighted Amount Avg. Rate Amount Avg. Rate ------- --------- ------ --------- (Dollars in thousands) Within one year .......... $267,177 5.51% $193,564 5.83% One to two years ......... 47,416 5.93% 62,487 5.93% Two to three years ....... 22,513 6.11% 26,424 6.06% Three to four years ...... 11,241 6.52% 11,160 6.28% Four to five years ....... 9,163 6.59% 10,727 6.62% Over five years .......... 12,864 6.68% 14,089 6.72% -------- ---- -------- ---- $370,374 5.70% $318,451 5.95% ======== ==== ======== ==== Certificates of deposit obtained through brokers amounted to approximately $30,086,000 at December 31, 1996 and $10,892,000 at December 31, 1995. The terms of the $30,086,000 of certificates of deposit at December 31, 1996 provide for rates ranging between 5.15% and 7.00%, a weighted average rate of 5.87%, and maturities extending through February, 2003. Effective September 30, 1996 the FDIC imposed a special one-time assessment on the SAIF-insured deposits of each depository institution in an amount sufficient to recapitalize the SAIF to 1.25% of total insured deposits. The FDIC determined that a special assessment of 0.657% of the SAIF assessable deposits as of March 31, 1995 was required. This one-time charge based on the SAIF assessable deposits as of March 31, 1995 amounted to approximately $2,121,000 and is included in Federal Deposit Insurance premiums in the accompanying consolidated statements of income for the year ended December 31, 1996. Interest expense on deposits consisted of the following: Years ended December 31, ----------------------------- 1996 1995 1994 ---- ---- ---- (In thousands) Regular savings ..................... $ 3,121 $ 3,206 $ 3,400 NOW and money market accounts ....... 3,458 3,025 3,518 Certificate accounts ................ 19,196 16,647 10,844 ------- ------- ------- $25,775 $22,878 $17,762 ======= ======= ======= 107 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) 8. Federal Home Loan Bank Advances A summary of Federal Home Loan Bank of Boston ("FHLBB") advances by maturity is as follows: December 31, ----------------------------------------- 1996 1995 ------------------- ------------------- Weighted Weighted Amount Avg. Rate Amount Avg. Rate ------- --------- ------ --------- (Dollars in thousands) Within 1 year ................ $177,300 5.64% $136,500 5.98% Over 1 year to 2 years ....... 70,041 6.04 31,800 5.96 Over 2 years to 3 years ...... 14,000 6.04 4,800 5.94 Over 3 years ................. 4,500 6.69 -12,000 6.14 -------- ---- -------- ---- $265,841 5.78% $185,100 5.98% ======== ==== ======== ==== The advances require interest to be paid monthly, with principal due upon maturity. In addition to the above borrowings, the Company had $1,330,000 and $1,735,000 outstanding under its overnight lines of credit with the FHLBB at December 31, 1996 and 1995, respectively. The Company has available overnight lines of credit totaling $23.5 million with the FHLBB at an interest rate that adjusts daily. The Company's total borrowing capacity from the FHLBB was approximately $604 million at December 31, 1996. Total borrowings from the FHLBB are limited to 20 times the value of the FHLBB Capital Stock owned by the Company. All borrowings from the FHLBB are secured by a blanket lien on certain qualified collateral, defined principally as 90% of the fair value of U.S. Government and federal agency obligations and 75% of the carrying value of first mortgage loans on 1-4 family, owner-occupied residential property. The Company may be subject to a substantial penalty upon prepayment of FHLBB advances. 9. Securities Sold Under Agreements to Repurchase Information concerning securities sold under agreements to repurchase is summarized as follows: 1996 ------------ (Dollars in thousands) Average balance during the year .............................. $ 203 Average interest rate during the year ........................ 4.76% Maximum month-end balance during the year .................... $1,119 Agency securities underlying the agreements at year end: Carrying value .......................................... $1,109 Estimated fair value .................................... $1,109 There were no repurchase agreements outstanding during the year ended December 31, 1995. 108 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) 10. Income Taxes Allocation of federal and state income taxes between current and deferred portions, calculated using the liability method in 1996, 1995 and 1994 is as follows: Years ended December 31, ----------------------------- 1996 1995 1994 ---- ---- ---- (In thousands) Current tax provision: Federal ......................... $4,097 $3,464 $ 3,103 State ........................... 638 984 838 ------ ------ ------- 4,735 4,448 3,941 ------ ------ ------- Deferred (prepaid) provision: Federal ......................... 35 555 (67) State ........................... 51 216 7 Change in valuation reserve ..... -- (20) (1,075) ------ ------ ------- 86 751 (1,135) ------ ------ ------- $4,821 $5,199 $ 2,806 ====== ====== ======= The reasons for the differences between the statutory federal income tax rates and the effective tax rates are summarized as follows: Years ended December 31, ------------------------ 1996 1995 1994 ---- ---- ---- Statutory rates .............................. 34.0% 34.0% 34.0% Increase (decrease) resulting from: State taxes, net of federal tax benefit . 3.4 7.3 5.1 Merger expenses ......................... -- 6.2 -- Change in valuation reserve ............. -- (.2) (10.9) Dividends received deduction ............ (1.7) -- (.1) Other, net .............................. .4 .4 .4 ---- ---- ---- Effective tax rates .................. 36.1% 47.7% 28.5% ==== ==== ==== At December 31, 1996 and 1995, the tax effects of items that give rise to deferred taxes are as follows: 1996 1995 ---- ---- (In thousands) Allowance for possible loan losses ......... $2,737 $2,433 Accrued expenses ........................... 231 315 Deferred loan fees ......................... 24 207 Employee benefit plans ..................... 565 664 Depreciable property ....................... (505) (477) Investments ................................ 334 43 Valuation reserve .......................... (46) (46) Other ...................................... 65 (43) ------- ------- Net deferred tax asset .............. $3,405 $3,096 ======= ======= 109 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) The Company's gross deferred tax asset was $3,956,000 and $3,662,000, at December 31, 1996 and 1995, respectively. Gross deferred tax liabilities were $551,000 and $566,000 at December 31, 1996 and 1995, respectively. In August of 1996, Congress passed the Small Business Job Protection Act of 1996. Included in this bill was the repeal of IRC Section 593, which allowed thrift institutions special provisions in calculating bad debt deductions for income tax purposes. Thrift institutions now will be viewed as commercial banks for income tax purposes. The repeal is effective for tax years beginning after December 31, 1995. One effect of this legislative change is to suspend the Company's bad debt reserve for income tax purposes as of its base year, December 31, 1987 for Federal and October 31, 1988 for Lexington. Any bad debt reserve in excess of the base year amount is subject to recapture over a six-year time period. The suspended (i.e. base year) amount is subject to recapture upon the occurrence of certain events, such as a complete or partial redemption of the Company's stock or if the Company ceases to qualify as a bank for income tax purposes. At December 31, 1996, the Company's surplus includes approximately $16,902,000 of bad debt reserves, representing the base year amount, for which income taxes have not been provided. Since the Company does not intend to use the suspended bad debt reserve for purposes other than to absorb the losses for which it was established, deferred taxes in the amount of $7,034,000 have not been recorded with respect to such reserve. 11. Financial Instruments with Off-balance Sheet Risk and Concentration of Credit Risk The Company is party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers and to reduce its own exposure to fluctuations in interest rates. These financial instruments include commitments to originate loans, lines of credit and letters of credit, and commitments to sell loans. The instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the consolidated statement of financial condition. The contractual amounts of those instruments reflect the extent of the Company's involvement in particular classes of financial instruments. The Company's exposure to credit loss in the event of nonperformance by the other party to the financial instrument for loan commitments, and lines and letters of credit is represented by the contractual 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. Financial instruments with off-balance sheet risk consisted of the following:
December 31, -------------- 1996 1995 ----- ----- (In thousands) Financial instruments whose contract amounts represent credit risk: Commitments to originate loans and advance funds ................ $37,723 $43,243 Unused lines of credit .......................................... 41,953 35,665 Letters of credit ............................................... 2,350 1,422
Fixed and variable rate loan origination commitments approximated $11,240,000 and $4,653,000, respectively, at December 31, 1996 and $5,988,000 and $18,481,000, respectively, at December 31, 1995. Commitments to originate loans and letters of credit are agreements to lend to a customer provided there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since some of the commitments are expected to 110 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The Company evaluates each customer's creditworthiness on a case-by-case basis. The amount of collateral deemed necessary by the Company upon the extension of credit is based on management's credit evaluation of the borrower. Commitments to sell mortgage loans are contracts that the Company enters into for the purpose of reducing the market risk associated with originating loans for sale. In order to fulfill a commitment, the Company typically first exchanges current production of loans for cash through the Federal Home Loan Mortgage Corporation or the Federal National Mortgage Association, which loans are then delivered to national securities firms at a future date at prices or yields specified by the contracts. Risks may arise from the inability of the Company to originate loans to fulfill the contracts. In this case, the Company would usually substitute loans it may hold in portfolio or purchase securities in the open market to deliver against the contract or settle the contract for cash. At December 31, 1996, the remaining commitments to deliver loans pursuant to master commitments with secondary mortgage market investors amounted to approximately $9,154,000. Failure to fulfill delivery requirements of commitments may result in payment of certain fees to investors. Individual commitments to sell loans require the Company to make delivery at a specific future date of a specified amount, at a specified price or yield. Loans are generally sold without recourse and, accordingly, risks arise principally from movements in interest rates. 12. Commitments and Contingencies Severance and special termination agreements The Company has entered into Severance Agreements with its President and the President of Federal, that provide for a specified level of compensation for periods of eighteen and twelve months, respectively in the event of their severance. However, employment may be terminated under such agreements for cause, as defined, without incurring any continuing obligations. The Company also has entered into Special Termination Agreements with certain senior executives. The Agreements generally provide for certain lump sum severance payments following termination within a three-year period following a "change in control" as defined in the Agreements. Operating lease commitments Pursuant to the terms of noncancelable lease agreements in effect at December 31, 1996 pertaining to office properties and equipment, future minimum lease payments are as follows: Future Minimum Years Ending December 31, Lease Payments ------------------------- -------------- (In thousands) 1997 ................................................... $431 1998 ................................................... 265 1999 ................................................... 146 2000 ................................................... 86 2001 ................................................... 79 Thereafter ............................................. 103 Two of the lease agreements contain options to extend for a period up to ten years. The cost of such extensions is not included above. Total rent expense for the years ended December 31, 1996, 1995 and 1994 amounted to $476,000, $540,000 and $515,000, respectively, and is included in occupancy and equipment expenses. 111 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) In the ordinary course of business, the Company is involved in litigation. Management, after reviewing current litigation and discussing the same with legal counsel, is of the opinion that resolution of these claims will not have a material effect on the Company's consolidated financial position, annual results of operations, or liquidity. On December 18, 1996, Affiliated Community Bancorp, Inc. announced that it had signed a definitive agreement to provide the initial capitalization for Middlesex Bank and Trust Company (in organization), ("Middlesex"). Middlesex is a de novo bank that will be located in City of Newton, Massachusetts and the transaction is subject to the necessary regulatory approvals. 13. Stockholders' Equity and Regulatory Matters The Company and its primary Bank subsidiaries are 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 Company's financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and its primary bank subsidiaries must meet specific capital guidelines that involve quantitative measures of their assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. The Company's and its primary bank subsidiaries' 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 Company and its primary bank subsidiaries to maintain minimum amounts and ratios set forth in the table below of total and Tier I capital to risk-weighted assets, and of Tier 1 capital to average assets. Management believes, as of December 31, 1996, that the Company and its primary subsidiary banks meet all capital adequacy requirements to which they are subject. As of December 31, 1996, the most recent notification from the Company's two banking subsidiaries' primary regulators categorized them as well capitalized under their regulatory framework for prompt corrective action. To be categorized as well capitalized the Company and its primary banking subsidiaries must maintain minimum total risk-based, Tier I risk-based, Tier 1 leverage and tangible capital ratios as set forth in the table. There are no conditions or events since these notifications that management believes have changed the category classifications. 112 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) The Company and its primary bank subsidiaries' actual capital amounts and ratios are also presented in the table.
Minimum for Minimum for Capital Adequacy Well Capitalized Actual Purposes Status ---------------- --------------- --------------- Amount Ratio Amount Ratio Amount Ratio ------ ----- ------ ----- ------ ----- (Dollars in thousands) As of December 31, 1996: Total Capital (to Risk Weighted Assets): Affiliated consolidated ................ $108,373 19.08% $45,428 8.00% N/A Federal ................................ 52,910 19.26% 21,977 8.00% 27,471 10.00% Lexington .............................. 43,748 15.01% 23,310 8.00% 29,138 10.00% Tier 1 Capital (to Risk Weighted Assets): Affiliated consolidated ................ $101,267 17.83% $22,714 4.00% N/A Federal ................................ 49,475 18.01% 10,988 4.00% 16,482 6.00% Lexington .............................. 41,099 14.10% 11,655 4.00% 17,483 6.00% Tier 1 Capital (to Average Assets): Affiliated consolidated ................ $101,267 9.98% $30,433 3.00% N/A Federal ................................ 49,475 9.47% 15,680 3.00% 26,133 5.00% Lexington .............................. 41,099 8.37% 14,733 3.00% 24,555 5.00% Tangible Capital (to Adjusted Assets) Federal ................................ $ 49,475 9.26% $ 8,012 1.50% N/A As of December 31, 1995: Total Capital (to Risk Weighted Assets): Affiliated consolidated ................ $104,229 22.60% $36,901 8.00% N/A Federal ................................ 49,773 21.90% 18,185 8.00% 22,731 10.00% Lexington .............................. 40,407 17.19% 18,659 8.00% 23,324 10.00% Tier 1 Capital (to Risk Weighted Assets): Affiliated consolidated ................ $ 98,438 21.34% $18,451 4.00% N/A Federal ................................ 46,932 20.65% 9,093 4.00% 13,639 6.00% Lexington .............................. 38,128 16.22% 9,329 4.00% 13,994 6.00% Tier 1 Capital (to Average Assets): Affiliated consolidated ................ $ 98,438 11.47% $25,780 3.00% N/A Federal ................................ 46,932 10.54% 13,364 3.00% 22,274 5.00% Lexington .............................. 38,128 9.23% 12,392 3.00% 20,654 5.00% Tangible Capital (to Adjusted Assets) Federal ................................ $ 46,932 10.31% $ 6,825 1.50% N/A
The ability of Lexington and Federal to pay dividends to the Company is limited to the extent necessary for the banks to comply with regulatory capital guidelines. At the time of Lexington's conversion from mutual to stock form in 1986, Lexington established a liquidation account in the amount of $11,581,000 for the benefit of eligible account holders. The liquidation account is reduced annually to the extent that eligible account holders reduce their qualifying deposits. At December 31, 1996, the liquidation account had a balance of approximately $3,709,000. In the event of a complete liquidation of Lexington, eligible account holders could be entitled to receive a distribution from the liquidation account to the extent that funds are available. 113 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) At the time of Federal's conversion from mutual to stock form in 1993, Federal established a liquidation account for the benefit of eligible account holders in an amount equal to the retained earnings of the bank as of the date of its latest balance sheet date contained in the final Prospectus used in connection with the conversion. In the event of a complete liquidation of Federal, eligible depositors who continue to maintain accounts at Federal would be entitled to receive a distribution from the liquidation account. The total amount of the liquidation account may be decreased if the balances of eligible depositors decrease on the annual determination dates. At December 31, 1996, Federal's liquidation account approximated $13,300,000. 14. Employee Benefits The Company through its two wholly-owned subsidiary banks, Lexington and Federal, provide the following benefit programs. Pension Plan--Lexington Lexington provides basic and supplemental pension benefits for eligible employees through the Savings Bank Employees Retirement Association ("SBERA") Pension Plan (the "Retirement Plan"). Each employee reaching the age of 21 and having completed at least 1,000 hours of service in a twelve-month period, beginning with such employee's date of employment, automatically becomes a participant in the Retirement Plan. Participants are 100% vested after 3 years of service or at age 62, if earlier. Lexington's funding policy is to contribute annually the maximum amount that can be deducted for federal income tax purposes. Contributions made under the plan totaled approximately $383,000 for 1996 and $61,000 for 1995. No contributions were made in 1994. Net periodic pension cost for the plan years ended October 31, 1996, 1995 and 1994 consisted of the following: 1996 1995 1994 ---- ---- ---- (In thousands) Service cost-benefits earned during year ....... $ 298 $ 206 $165 Interest cost on projected benefits ............ 220 162 122 Actual return on plan assets ................... (295) (273) (77) Net amortization and deferral .................. (4) (4) (4) Amortization of net loss ....................... 153 155 (16) ----- ----- ---- $ 372 $ 246 $190 ===== ===== ==== Total Lexington pension expense for the years ended December 31, 1996, 1995 and 1994 amounted to $312,000, $313,000 and $258,000, respectively, and is included in compensation and employee benefits expense. According to the Plan's actuary, the funded status of the plan is as follows at October 31, 1996, and 1995: 1996 1995 ---- ---- (In thousands) Plan assets at fair value ............................... $ 2,637 $ 1,952 Projected benefit obligation ............................ (3,386) (3,142) ------- ------- Excess of projected benefit obligation over plan assets . (749) (1,190) Unrecognized net obligation at transition ............... (75) (79) Unrecognized net (gain) loss ............................ (39) 390 ------- ------- Pension liability included on balance sheet ............. $ (863) $ (879) ======= ======= 114 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) The accumulated benefit obligation (substantially all vested) at October 31, 1996 and 1995, amounted to $1,956,000 and $1,689,000, respectively, which was less than the fair value of plan assets at those dates. For the plan years ended October 31, 1996, 1995 and 1994, actuarial assumptions include an assumed discount rate on benefit obligations of 7.50%, 7.00% and 8.00%, respectively, and an expected long-term rate of return on plan assets of 8.00%, 8.00% and 7.00%, respectively. An annual salary increase of 6% was utilized for all years. Beginning in 1995, Lexington offered a Supplemental Employees Retirement Plan ("SERP") to certain key executives. The SERP plan is funded through life insurance policies with the policy benefits accruing to Lexington and executives. The SERP provides for yearly retirement benefits based on the return on certain insurance policies purchased by Lexington in excess of the yield on an alternative investment of an equal amount deemed the opportunity cost as outlined in the SERP plan, if any. Upon retirement, the annual earnings in excess of the opportunity cost, if any, are paid to the executives each year in addition to the benefit accrued to the retirement date, if any. The cash surrender value of the policies was approximately $1,710,000 and $1,693,000 as of December 31, 1996 and 1995, respectively, and is included in other assets in the accompanying consolidated balance sheets. Total income recognized on the SERP plan for the years ended December 31, 1996 and 1995 was approximately $17,000 and $3,000, respectively. No expenses were incurred under the SERP plan for 1996 and 1995. Pension Plan--Federal Under the Federal plan all eligible officers and employees are included in a noncontributory defined benefit pension plan provided by Federal as a participating employer in the Financial Institutions Retirement Fund (the "Fund"), a multi-employer plan. The Fund does not segregate its assets or liabilities by participating employer. Contributions are based on the individual employer's experience. According to the Fund's administrators, as of June 30, 1996, the date of the latest actuarial valuation, the market value of the Fund's net assets exceeded the actuarial present value of accumulated vested and nonvested benefits in the aggregate, using an assumed investment rate of return of 7.5%. There is no liability for past service cost. Pension expense for Federal for the years ended December 31, 1996, 1995 and 1994 was $123,000, $208,000 and $115,000, respectively, and is included in compensation and employee benefits. Pension expense consists of Federal's annual contributions to the Fund. Incentive Compensation and Senior Management Incentive Plans Federal adopted an Incentive Compensation Program in 1989 to provide an incentive and reward to key staff and other significant contributors to motivate and recognize them for individual and group performance. Compensation under this plan is based on achievement of several performance objectives established annually by the Federal Board of Directors. Lexington adopted a Senior Management Incentive Plan ("SMIP") effective January 1, 1994 to provide a financial incentive to executives whose job performance has a measurable impact on the achievement of long-term business objectives. Compensation under this plan, which is in lieu of profit sharing, is based on achievement of several performance objectives established annually by the Lexington Board of Directors. Affiliated adopted a SMIP effective October 18, 1995 to provide a financial incentive to executives whose job performance has a mesurable impact on the achievement of long-term business objectives. Compensation under this plan is based on achievement of several performance objectives established by the Affiliated Compensation Committee. 115 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) No individual obtained compensation from more than one of these plans. Total expenses under these plans amounted to $468,000, $332,000 and $297,000 for 1996, 1995 and 1994, respectively, and is included in compensation and employee benefits and other expenses. Profit Sharing Plans Each profitable year, Lexington allocates for annual distribution 3.5% of its operational earnings, as defined, for profit sharing to employees who have at least three months of employment with Lexington. Employees share in the allocated profits on the basis of annual salary, length of service, attendance and meritorious service. Participants in the AFCB or Lexington SMIP do not participate in the Lexington Profit Sharing Plan and their pro-rata share is subtracted from the total profit sharing pool. Total profit sharing expense (excluding SMIP) amounted to $317,000, $110,000 and $156,000 for 1996, 1995 and 1994, respectively, and is included in compensation and employee benefits. The 1996 expense amount includes approximately $60,000 that relates to 1995 performance. In 1993, Federal established a qualified, tax-exempt profit sharing plan (the "Savings Plan") that is qualified under Section 401(k) of the Internal Revenue Code. All employees who have reached the age of 20, who have completed one year of employment and have been credited with 1,000 or more hours of service in a 12-month period are eligible to participate. Under the Savings Plan, participants are permitted to make salary reduction contributions equal to a percentage of annual salary up to 15% subject to Internal Revenue Service ("IRS") maximums. Federal matches 50% of the participant's contribution up to 4% of the employee's salary. All matching contributions by Federal are 50% vested after two years of employment and 100% vested after three years of employment. In addition, in order to provide an incentive for performance, Federal may make discretionary year end profit sharing contributions to eligible 401(k) participants based on Federal's profitability, payable within IRS regulations. The participants had the choice of receiving up to 50% of the discretionary contributions in cash; the remaining funds are contributed to 401(k) accounts. Total contributions to the plan, for both matching and discretionary contributions, including cash payments, were $113,000, $106,000, and $96,000 for the years ended December 31, 1996, 1995 and 1994, respectively, and are included in compensation and employee benefits. Employees' Stock Ownership Plan--Lexington In 1986, Lexington established an Employees' Stock Ownership Plan (the "Lexington ESOP") for eligible employees whereby benefits are payable upon retirement, disability, death or separation from service with the Bank. On December 19, 1986, Lexington issued 60,000 shares of common stock with a fair market value of $570,000 to the Lexington ESOP. The funds used to purchase the shares were borrowed by the Lexington ESOP from a third-party lender, less Lexington's initial contribution of $20,000. The loan was fully paid in 1993. In November 1996 the Lexington ESOP purchased from the Company at the then current market price an additional 40,000 shares of the Company's stock of which 37,748 shares were financed by a $859,000 loan from a third party lender. The note, which is secured by the unreleased shares, bears interest at the 90-day LIBOR rate plus 225 basis points and is paid quarterly, both principal and interest. Annually, the borrower has the option to choose either the above specified rate of interest or a rate equal to the base rate of the lending bank. The rate in effect at December 31, 1996 was 7.813%. Total compensation expense applicable to the Lexington ESOP amounted to $99,000 for 1996. There was no compensation expense or allocation of shares for the years ended December 31, 1995 and 1994. In 1996, 2,252 shares were released and allocated to eligible employees. Under the Lexington ESOP, shares are released annually and allocated to participants at October 31 of each year. There were no shares committed to be released as of December 31, 1996. Dividends on allocated and unreleased ESOP shares are credited to the accounts of the participants. 116 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) Employees' Stock Ownership Plan--Federal In 1993 Federal established an Employees' Stock Ownership Plan (the "Federal ESOP") in which all employees who have reached the age of 20 and who have completed 1,000 hours of service in a 12-month period beginning with such employee's date of employment may participate. Participants become 50% vested after two years and 100% vested after three years of service. The Federal ESOP purchased $1,000,000 (100,000 shares) of the common stock of Main Street in the Conversion. The Company recognized $360,000, $298,000 and $272,000 in related compensation expense for the years ended December 31, 1996, 1995 and 1994, respectively. A portion of the shares are released annually by the lender from collateral and allocated to employees; 14,286 shares were released for allocation in each of the past three years. There were no shares committed to be released as of December 31, 1996. Dividends on both allocated and unreleased shares, net of certain administrative expenses, are paid to the ESOP participants. The outstanding balance of funds borrowed by the Federal ESOP that were used to purchase Main Street stock in the subscription offering amounted to $535,000 and $679,000 at December 31, 1996 and 1995, respectively. Principal and interest payments are due in equal quarterly installments at an interest rate equal to the Federal funds effective rate plus 2.60%. The index rate in effect at December 31, 1996 was 8.01%. The loan is due in 2000 and is secured by 53,571 and 67,857 shares of Company common stock at December 31, 1996 and 1995, respectively. 15. Stock Based Compensation Plans Lexington had adopted stock option and stock appreciation rights plans for the benefit of its directors, officers and employees. Lexington reserved 230,000 and 115,000 shares of its common stock, respectively, for issuance pursuant to options granted under the 1986 Stock Option and Stock Appreciation Rights Plan and the 1994 Stock Option Plan. In 1993, Main Street, Federal's then parent, adopted a stock option plan for the benefit of its directors, officers and other employees, and reserved 290,720 shares of its common stock issued in the Conversion for grants under the Plan. As of October 18, 1995, the effective date of the Affiliation, the existing Lexington Option Plans and the Main Street Option Plan were terminated except as to the administration of outstanding options, and no further options can be granted under these plans. Immediately prior to the effective date, 175,720 shares of common stock would have been available for future option grants under these plans. In lieu of future option grants under the Lexington and Main Street plans, Affiliated adopted the Affiliated Community Bancorp, Inc. 1995 Stock Option Plan (the "Plan") as a replacement, pursuant to which options for 175,720 shares of Affiliated common stock could be granted. Both incentive and non-qualified stock options may be granted under this Plan. Options are generally granted at fair market value of the related stock at the grant date and expire ten years from such date. The Company had granted options on 130,000 shares through December 31, 1996. Effective January 16, 1997, the Company's Board of Directors amended and restated the Plan, subject to stockholder approval, to add an additional 250,000 shares. 117 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) The Company accounts for stock-based employee compensation plans in accordance with APB No. 25 under which compensation cost for stock options is measured as the excess, if any, of the quoted market price of the Company's stock at the date of grant over the amount an employee must pay to acquire the stock. Had compensation cost for the stock-based employee compensation plans been determined based on the fair value at the date of grant in accordance with SFAS No. 123, the Company's net income and earnings would have been reduced to the following pro-forma amounts. 1996 1995 ---- ---- (In thousands, except per share data) Net Income: As reported .................................. $8,523 $5,707 Pro forma .................................... $8,409 $5,643 Primary EPS: As reported .................................. $ 1.65 $ 1.07 Pro forma .................................... $ 1.63 $ 1.06 Fully Diluted EPS: As reported .................................. $ 1.64 $ 1.07 Pro forma .................................... $ 1.61 $ 1.06 Because the SFAS No. 123 method of accounting has not been applied to options granted prior to January 1, 1995, the resulting pro forma compensation cost may not be representative of that to be expected in future years. In making the pro-forma calculations set forth above, the option exercise price equals the stock's market price on the date of the grant. Non-qualified options vest ratably over periods ranging from two to three years after the date of the grant, except that options to directors are immediately vested in full. The fair value of each option grant is estimated on the date of the grant using the Black-Scholes option pricing model with the following weighted average assumptions used for grants in 1996 and 1995: Risk free interest rates of 6.59% to 6.69% (1996) and 5.77% to 6.81% (1995) Expected dividends of 2.8% per annum Expected lives of 7.0 years Expected volatility of 23% The combined activity for options granted under the plans is as follows:
Years ended December 31, ------------------------------------------------ 1996 1995 ----------------------- ----------------------- Number of Weighted Number of Weighted Shares Average Price Shares Average Price ------- ------------- -------- ------------- Outstanding at beginning of year ............... 394,500 $10.85 353,500 $ 9.98 Granted ........................................ 106,000 $16.94 51,000 $16.42 Forfeited ...................................... (1,834) $10.00 -- -- Exercised ...................................... (50,466) $ 7.85 (10,000) $ 8.80 ------- ------ ------- ------ Outstanding at end of year ..................... 448,200 $12.63 394,500 $10.85 ======= ====== ======= ====== Options exercisable at end of year ............. 351,534 $11.45 306,667 $ 9.88 ======= ====== ======= ====== Weighted average fair value of options granted.. $ 4.60 $ 5.11 ====== ======
118 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) Years ended December 31, ------------------------ 1996 1995 ------ ------ Detail of exercises during the year: Exercised--at $ 5.25 ........................... 1,500 -- --at $ 6.25 ........................... 32,300 5,500 --at $ 8.50 ........................... 3,000 -- --at $10.00 ........................... 9,666 3,000 --at $15.75 ........................... 3,000 1,500 --at $16.9375 ......................... 1,000 -- ------ ------ Total ............................ 50,466 10,000 ====== ====== The following table summarizes information about stock options outstanding at December 31, 1996:
Options Outstanding Options Exercisable ----------------------- ---------------------------------- Weighted Average Weighted Weighted Number Remaining Average Number Average Outstanding Contractual Exercise Exercisable Exercise Range of Exercise Prices At 12/31/96 Life Price At 12/31/96 Price - ------------------------ ----------- ----------- -------- ----------- -------- $ 5.25 .......................... 16,000 4 years $ 5.25 16,000 $ 5.25 6.25 .......................... 55,200 3 years $ 6.25 55,200 $ 6.25 8.50 .......................... 33,000 6 years $ 8.50 33,000 $ 8.50 10.00 .......................... 106,000 7 years $10.00 106,000 $10.00 13.375 ......................... 3,000 7 years $13.38 3,000 $13.38 14.125 ......................... 9,000 8 years $14.13 9,000 $14.13 15.375 to 15.75 ................ 79,000 7 years $15.63 76,334 $15.64 16.625 to 17.375 ............... 147,000 9 years $16.94 53,000 $16.90 ------- ------- 448,200 351,534 ======= =======
16. Fair Values of Financial Instruments The Company discloses fair value information about financial instruments, whether or not recognized in the balance sheet, for which it is practicable to estimate that value. Certain financial instruments and all nonfinancial instruments are excluded from this disclosure. Accordingly, the aggregate fair value amounts presented do not represent the underlying value of the Company. The following methods and assumptions were used by the Company in estimating fair values of its financial instruments. Cash and Due From Banks, Federal Funds Sold and Overnight Deposits The carrying amounts reported in the balance sheet are a reasonable estimate of fair value due to the short maturity of those investments. Investment and Mortgage-backed Securities and Derivatives Fair values are based on quoted market prices, where available. If quoted market prices are not available, fair values are based on quoted market prices of comparable instruments (see note 3). 119 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) Loans Held-for-Sale For loans held-for-sale, fair value is based on prevailing market conditions and commitments from institutional investors to purchase such loans. Loans Fair values are estimated for portfolios of loans with similar financial characteristics. Loans are segregated by type such as commercial real estate, residential mortgage and consumer. Each loan category is further segmented into fixed and adjustable rate interest terms and by classified and nonclassified categories. The fair value of non-classified loans (other than those subject to short term, periodic rate adjustment to current offered rates, which are valued at the carrying amount) is estimated by discounting scheduled cash flows at the interest rate at which similar loans would have been made by the Company to borrowers with similar credit ratings and for similar loan products. Scheduled maturities used were contractual maturities for such loans except for residential loans where expected maturities took into account estimated prepayment speeds supplied by secondary market sources. Fair value for classified loans is based on estimated cash flows discounted using a rate commensurate with the risk associated with the related loans. Assumptions regarding credit risk, cash flows and discount rates are judgmentally determined using available market information. FHLB Stock The carrying amount reported in the balance sheet approximates fair value. If redeemed, the Company will receive an amount equal to the par value of the stock. Deposits The fair value of non-certificate deposits (demand, NOW, money market and regular savings accounts) is the amount payable on demand at the balance sheet date. The estimated fair value of certificate accounts is based on the discounted value of contractual future cash flows. The discount rate is based on rates offered by the Company for deposits of similar remaining maturities. Borrowed Funds Fair values for FHLB advances and ESOP debt are estimated using a discounted cash flow technique that applies interest rates currently being offered on advances to a schedule of aggregated expected monthly maturities. Escrow Deposits and Securities Sold Under Agreements to Repurchase The carrying amounts of escrow deposits and securities sold under agreements to repurchase at the balance sheet dates approximates fair value. Commitments to Extend Credit and Letters of Credit The fair value of commitments is estimated using the fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the present creditworthiness of the counterparties. The fair value of letters of credit is based on fees currently charged for similar agreements. 120 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) The carrying and estimated fair values of the Company's financial instruments at December 31, 1996 and 1995 are as follows:
December 31, 1996 December 31, 1995 ------------------- ------------------ Carrying Fair Carrying Fair value value value value -------- -------- -------- -------- (In thousands) (In thousands) Financial assets: Cash and due from banks ....................... $ 11,331 $ 11,331 $ 14,037 $ 14,037 Federal funds sold and overnight deposits ..... 4,464 4,464 4,125 4,125 Investment securities ......................... 333,354 333,216 290,936 292,220 Loans held for sale ........................... -- -- 1,071 1,071 Loans, net .................................... 645,797 646,783 535,679 544,830 Federal Home Loan Bank stock .................. 14,638 14,638 10,355 10,355 Financial liabilities: Non-certificate deposits ...................... 282,135 282,135 265,381 265,381 Certificates of deposits ...................... 370,374 370,507 318,451 319,699 Borrowed funds ................................ 268,565 268,888 187,514 188,200 Escrow deposits ............................... 2,087 2,087 1,904 1,904 Securities sold under agreements to repurchase .................................. 727 727 -- -- Off-balance sheet instruments (see note 11): Commitments to extend credit .................. 285 285 395 395
Limitations Fair value estimates are made at a specific point in time, based on relevant market information and information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Company's entire holdings of a particular financial instrument. Because no market exists for some of the Company's financial instruments, fair value estimates are based on judgments regarding future expected loss experience, cash flows, current economic conditions, risk characteristics, and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions and market conditions could significantly affect the estimates. Further, the income tax ramifications related to the realization of the unrealized gains and losses can have a significant effect on the fair value estimates and have not been considered. 121 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) 17. Parent Company Financial Statements The Affiliated Community Bancorp, Inc. condensed balance sheets as of December 31, 1996 and 1995 are as follows: 1996 1995 -------- ------- (In thousands) Assets Cash and cash equivalents .............................. $ 10,160 $12,969 Investment securities .................................. 740 -- Other assets ........................................... 35 481 Investment in bank subsidiaries: The Federal Savings Bank ............................ 49,006 46,925 Lexington Savings Bank .............................. 41,609 38,986 -------- ------- Total Assets ..................................... $101,550 $99,361 ======== ======= Liabilities and Stockholders' Equity Accrued expenses ....................................... $ 148 $ 71 Stockholders' equity ................................... 101,402 99,290 -------- ------- Total liabilities and stockholders' equity ....... $101,550 $99,361 ======== ======= The condensed income statements for the years ended December 31, 1996, 1995 and 1994 are as follows: 1996 1995 1994 ------- ------- ------ (In thousands) Dividends from bank subsidiaries ............. $ 2,817 $ 2,029 $1,839 Interest income .............................. 486 546 518 Other ........................................ 10 -- 32 ------- ------- ------ Total income .............................. 3,313 2,575 2,389 Expenses ..................................... 679 1,502 151 ------- ------- ------ Income before equity in undistributed earnings of bank subsidiaries and income taxes ............................ 2,634 1,073 2,238 ------- ------- ------ Equity in undistributed earnings of bank subsidiaries: The Federal Savings Bank .................. 2,217 3,225 3,060 Lexington Savings Bank .................... 3,617 1,390 1,866 ------- ------- ------ Income before provision for income taxes 8,468 5,688 7,164 Provision (benefit) for income taxes ......... (55) (19) 138 ------- ------- ------ Net income ............................ $ 8,523 $ 5,707 $7,026 ======= ======= ====== 122 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) The condensed statements of cash flows for Affiliated Community Bancorp, Inc. are presented below for the years ended December 31, 1996, 1995 and 1994: 1996 1995 1994 -------- -------- -------- (In thousands) Net Income .................................... $ 8,523 $ 5,707 $ 7,026 Adjustments to reconcile net income to net cash provided by operations: Undistributed earnings of bank subsidiaries (5,834) (4,615) (4,926) Decrease (increase) in other assets ........ 446 (21) (223) (Decrease) increase in accrued expenses .... 404 (14) (207) -------- -------- -------- Net cash provided by operating activities .. 3,539 1,057 1,670 Investment transactions: Purchase of securities ..................... (740) -- -- Financing transactions: Proceeds from issuance of common stock ..... 396 108 71 Dividends paid ............................. (2,602) (2,203) (1,665) Increase in treasury stock ................. (3,402) -- -- -------- -------- -------- Net (decrease) increase in cash ............. (2,809) (1,038) 76 Cash and cash equivalents at beginning of year 12,969 14,007 13,931 -------- -------- -------- Cash and cash equivalents at end of year ...... $ 10,160 $ 12,969 $ 14,007 -------- -------- -------- Cash paid for taxes ........................... $ 4,237 $ 1,360 $ 1,986 ======== ======== ======== 18. Quarterly Results of Operations (Unaudited) A summary of consolidated operating results on a quarterly basis for the years ended December 31, 1996 and 1995 is as follows:
1996 ------------------------------------------------------------ Fourth Quarter Third Quarter Second Quarter First Quarter -------------- ------------- -------------- ------------- (Dollars in thousands) Interest and dividend income ........... $18,938 $18,280 $17,463 $16,660 Interest expense ....................... 10,687 10,301 9,761 9,315 ------- ------- ------- ------- Net interest income ............. 8,251 7,979 7,702 7,345 Provision for loan losses .............. 200 135 135 135 ------- ------- ------- ------- Net interest income, after provision ......................... 8,051 7,844 7,567 7,210 Other income ........................... 379 404 423 432 Operating expenses (1) ................. 4,176 6,367 4,171 4,252 ------- ------- ------- ------- Income before income taxes ............. 4,254 1,881 3,819 3,390 Provision for income taxes ............. 1,555 579 1,420 1,267 ------- ------- ------- ------- Net income (1) ......................... $ 2,699 $ 1,302 $ 2,399 $ 2,123 ======= ======= ======= ======= Earnings per share (1) ................. $ .52 $ .24 $ .47 $ .41 ======= ======= ======= =======
123 AFFILIATED COMMUNITY BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Concluded)
1995 ------------------------------------------------------------ Fourth Quarter Third Quarter Second Quarter First Quarter -------------- ------------- -------------- ------------- (Dollars in thousands) Interest and dividend income ............ $16,015 $15,443 $15,187 $14,351 Interest expense ........................ 8,914 8,483 8,266 7,561 ------- ------- ------- ------- Net interest income ............. 7,101 6,960 6,921 6,790 Provision for loan losses ............... 25 100 100 100 ------- ------- ------- ------- Net interest income, after provision ....................... 7,076 6,860 6,821 6,690 Other income ............................ 420 454 436 383 Operating expenses (2) .................. 6,029 4,086 3,946 4,173 ------- ------- ------- ------- Income before income taxes .............. 1,467 3,228 3,311 2,900 Provision for income taxes .............. 1,332 1,335 1,347 1,185 ------- ------- ------- ------- Net income (2) .......................... $ 135 $ 1,893 $ 1,964 $ 1,715 ======= ======= ======= ======= Earnings per share (2) .................. $ .03 $ .35 $ .37 $ .32 ======= ======= ======= =======
- ---------- (1) Third quarter of 1996 included pre-tax charge of $2,121,000 or $.23 per share (after tax effect) for recapitalization of the Savings Association Insurance Fund (SAIF) of the FDIC. (2) Fourth quarter of 1995 included pretax merger costs of $1,989,000 or $.35 per share (after tax effect). 124 EX-99.8 13 EXH. 99.8 UNAUDITED PRO-FORMA CONDENSED FINS UNAUDITED PRO FORMA CONDENSED FINANCIAL INFORMATION UST CORP. AFFILIATED COMMUNITY BANCORP, INC. FIRESTONE FINANCIAL CORP. SOMERSET SAVINGS BANK UNAUDITED PRO FORMA CONDENSED COMBINING BALANCE SHEET September 30, 1997 The following Unaudited Pro Forma Condensed Combining Balance Sheet presents the combined financial position of UST Corp. and Subsidiaries ("UST") and Somerset Savings Bank ("Somerset) as of September 30, 1997, assuming the Merger had occurred as of September 30, 1997. The Unaudited Pro Forma Condensed Combining Balance Sheet also gives effect to the acquisition of Firestone Financial Corp. ("Firestone") completed on October 15, 1997 and the pending acquisition of Affiliated Community Bancorp, Inc. ("AFCB") pursuant to an agreement entered into on December 15, 1997. The accompanying pro forma information is based on historical balance sheet data of UST, Firestone, Somerset and AFCB as of September 30, 1997, giving effect to the completed merger of UST and Firestone and the proposed mergers of UST with Somerset and AFCB under the pooling of interests method of accounting. The Unaudited Pro Forma Condensed Combining Balance Sheet should be read in conjunction with the Unaudited Pro Forma Condensed Combined Statements of Income appearing elsewhere in this Current Report on Form 8-K and the historical financial statements and notes thereto of UST, Firestone, Somerset and AFCB which are included in this Current Report on Form 8-K. The Unaudited Pro Forma Condensed Combining Balance Sheet is presented for informational purposes only and is not necessarily indicative of the combined financial position that would have occurred if the mergers of UST, Firestone, Somerset and AFCB had been consummated on September 30, 1997 or at the beginning of the periods indicated or which may be obtained in the future. 125 UST CORP. AFFILIATED COMMUNITY BANCORP, INC. FIRESTONE FINANCIAL CORP. SOMERSET SAVINGS BANK UNAUDITED PRO FORMA CONDENSED COMBINING BALANCE SHEET September 30, 1997
Pro Forma Pro Forma Pro Historical Adjustments Pro Forma Adjustments Forma ------------------------------------- UST Firestone Somerset (Notes 1 & 2) Combined AFCB (Notes 1 & 2) Combined ---------- ----------- ---------- ------------- --------- ---------- ------------- -------- (in thousands) ASSETS Cash, due from banks and interest bearing deposits $ 92,171 $ 21 $ 7,704 $ (8,500) $ 91,396 $ 15,979 $ (12,000) $ 95,375 Excess funds sold 129,731 1,155 130,886 4,584 135,470 Securities Available-for-sale 712,415 712,415 204,277 916,692 Held to maturity 92,909 92,909 177,168 270,077 Loans, net of reserve for possible loan losses 2,587,498 83,633 389,526 3,060,657 699,554 3,760,211 Premises, furniture and equipment 64,258 114 12,668 77,040 8,790 85,830 Intangible assets, net 59,634 59,634 59,634 Other real estate owned 1,106 104 7,240 8,450 1 8,451 Other assets 44,036 1,228 9,137 54,401 18,226 72,627 ---------- -------- ---------- ---------- ---------- ---------- ---------- ---------- Total assets $3,690,849 $ 85,100 $ 520,339 $ (8,500) $4,287,788 $1,128,579 $ (12,000) $5,404,367 ========== ======== ========== ========== ========== ========== ========== ========== LIABILITIES AND STOCKHOLDERS' INVESTMENT Deposits: Noninterest bearing $ 618,862 $ $ 22,697 $ $641,559 $ 46,682 $ 688,241 Interest bearing: NOW accounts 42,268 27,089 69,357 56,513 125,870 Regular savings 662,295 68,779 731,074 123,475 854,549 Money market 628,746 48,555 677,301 74,877 752,178 Time deposits 911,756 290,693 1,202,449 403,887 1,606,336 ---------- -------- ---------- ---------- ---------- ---------- ---------- ---------- Total deposits 2,863,927 457,813 3,321,740 705,434 4,027,174 Short-term borrowings 427,782 65,439 3,100 496,321 260,073 756,394 Other borrowings 18,063 20,447 38,510 46,057 84,567 Other liabilities 66,743 5,371 $ 4,646 (2,200) 74,560 6,857 $ (3,300) 78,117 ---------- -------- ---------- ---------- ---------- ---------- ---------- ---------- Total liabilities 3,376,515 70,810 486,006 (2,200) 3,931,131 1,018,421 (3,300) 4,946,252 Stockholders' investment: Common Stock UST 17,832 2,715 20,547 5,722 26,269 AFCB 67 (67) Firestone 20 (20) Somerset 16,652 (16,652) Additional paid-in capital 116,087 1,231 18,637 13,957 149,912 50,040 (9,057) 190,895 Retained earnings (deficit) 179,767 13,039 (956) (6,300) 185,550 64,055 (8,700) 240,905 Unrealized gain on securities held as available-for-sale 245 245 506 751 Treasury stock, at cost (3,402) 3,402 Deferred compensation and other 403 403 (1,108) (705) ---------- -------- ---------- ---------- ---------- ---------- ---------- ---------- Total stockholders' investment 314,334 14,290 34,333 (6,300) 356,657 110,158 (8,700) 458,115 ---------- -------- ---------- ---------- ---------- ---------- ---------- ---------- Total liabilities and stockholders' investment $3,690,849 $ 85,100 $ 520,339 $ (8,500) $4,287,788 $1,128,579 $ (12,000) $5,404,367 ========== ======== ========== ========== ========== ========== ========== ==========
See accompanying notes to unaudited pro forma condensed financial information. 126 UNAUDITED PRO FORMA CONDENSED FINANCIAL INFORMATION UST CORP. AFFILIATED COMMUNITY BANCORP, INC. FIRESTONE FINANCIAL CORP. SOMERSET SAVINGS BANK UNAUDITED PRO FORMA CONDENSED COMBINED STATEMENTS OF INCOME The following Unaudited Pro Forma Condensed Combined Statements of Income give effect to UST's proposed acquisition of Somerset by combining the results of operations of UST for the nine month periods ended September 30, 1997 and 1996, and for each of the three years ended December 31, 1996 (pro forma including Walden Bancorp, Inc. ("Walden") acquired on January 3, 1997 as a pooling of interests as if the acquisition had occurred on January 1, 1994) with the results of operations of Firestone (acquired on October 15, 1997 as a pooling of interests) and Somerset for the nine month periods ended September 30, 1997 and 1996 and for each of the three years ended December 31, 1997 on a pooling of interests basis, assuming the acquisitions had occurred on January 1, 1994. Also presented are the Unaudited Pro Forma Condensed Combined Statements of Income of UST (pro forma including Walden), Firestone, Somerset and AFCB for the same periods. Income per common share and weighted average shares outstanding are based on the exchange ratios specified in the respective Affiliation Agreements. The Unaudited Pro Forma Condensed Combined Statements of Income should be read in conjunction with the Unaudited Pro Forma Condensed Combining Balance Sheet appearing elsewhere in this Current Report on Form 8-K and the historical financial statements and notes thereto of UST, Somerset, Firestone and AFCB which are included in this Current Report on Form 8-K. The Unaudited Pro Forma Condensed Combined Statements of Income are presented for information purposes only and are not necessarily indicative of the combined results of operations that would have occurred if UST's acquisitions of Somerset, Firestone and AFB had been consummated on September 30, 1997 or at the beginning of the periods indicated or which may be obtained in the future. 127 UST CORP. FIRESTONE FINANCIAL CORP. SOMERSET SAVINGS BANK AFFILIATED COMMUNITY BANCORP, INC. PRO FORMA COMBINED STATEMENTS OF INCOME
NINE MONTHS ENDED SEPTEMBER 30, 1997 --------------------------------------------------------------------- UST FIRESTONE SOMERSET COMBINED AFCB COMBINED ---------- ---------- ----------- --------- ---------- --------- (In thousands, except per share data) Interest income: Interest and fees on loans and leases................ $ 165,324 $ 8,199 $ 26,753 $ 200,276 $ 41,879 $ 242,155 Interest and dividends on securities................. 34,386 4,463 38,849 18,242 57,091 Interest on excess funds and other................... 3,728 135 3,863 162 4,025 ---------- ----------- --------- ---------- --------- ---------- Total interest income............................... 203,438 8,199 31,351 242,988 60,283 303,271 ---------- ----------- --------- ---------- --------- ---------- Interest expense: Interest on deposits................................. 61,485 15,353 76,838 20,847 97,685 Interest on borrowed funds........................... 16,976 3,637 1,218 21,831 13,067 34,898 ---------- ----------- --------- ---------- --------- ---------- Total interest expense.............................. 78,461 3,637 16,571 98,669 33,914 132,583 ---------- ----------- --------- ---------- --------- ---------- Net interest income................................. 124,977 4,562 14,780 144,319 26,369 170,688 Provision for possible loan losses................... 600 900 1,500 700 2,200 ---------- ----------- --------- ---------- --------- ---------- Net interest income after provision for possible loan losses........................................ 124,377 4,562 13,880 142,819 25,669 168,488 ---------- ----------- --------- ---------- --------- ---------- Noninterest income: Asset management fees............................... 9,600 9,600 9,600 Fees and charges.................................... 11,047 479 11,526 1,170 12,696 Securities gains (losses), net...................... (1,151) (1,151) 97 (1,054) Gain on sale of assets.............................. 1,804 194 1,998 85 2,083 Other............................................... 5,611 947 331 6,889 106 6,995 ---------- ----------- --------- ---------- --------- ---------- Total noninterest income.......................... 26,911 947 1,004 28,862 1,458 30,320 ---------- ----------- --------- ---------- --------- ---------- Noninterest expense: Salary and employee benefits........................ 53,128 1,983 5,237 60,348 7,783 68,131 Occupancy and equipment............................. 14,661 270 1,194 16,125 1,708 17,833 Restructuring charges............................... 11,752 11,752 11,752 Merger related charges.............................. 3,082 714 3,796 3,796 Foreclosed and workout expense...................... 315 1,411 1,726 (141) 1,585 Deposit insurance assessment........................ 687 673 1,360 198 1,558 Other............................................... 33,389 736 2,842 36,967 3,498 40,465 ---------- ----------- --------- ---------- --------- ---------- Total noninterest expense.......................... 117,014 3,703 11,357 132,074 13,046 145,120 ---------- ----------- --------- ---------- --------- ---------- Income before taxes.................................. 34,274 1,806 3,527 39,607 14,081 53,688 Income tax expense (benefit)........................ 14,859 948 (918) 14,889 5,253 20,142 ---------- ----------- --------- ---------- --------- ---------- ---------- ----------- --------- ---------- --------- ---------- Net income........................................... $ 19,415 $ 858 $ 4,445 $ 24,718 $ 8,828 $ 33,546 ---------- ----------- --------- ---------- --------- ---------- ---------- ----------- --------- ---------- --------- ---------- Net income per share................................. $ 0.67 $ 0.43 $ 0.26 $ 0.74 $ 1.32 $ 0.79 Weighted average number of common shares outstanding........................................ 28,855 2,000 16,878 33,242 6,679 42,659
See accompanying Notes to Unaudited Pro Forma Condensed Financial Information. 128 UST CORP. FIRESTONE FINANCIAL CORP. SOMERSET SAVINGS BANK AFFILIATED COMMUNITY BANCORP, INC. PRO FORMA COMBINED STATEMENTS OF INCOME
NINE MONTHS ENDED SEPTEMBER 30, 1996 --------------------------------------------------------------------- UST FIRESTONE SOMERSET COMBINED AFCB COMBINED ---------- ---------- ----------- --------- ---------- --------- (In thousands, except per share data) Interest income: Interest and fees on loans and leases............... $ 128,979 $ 8,287 $ 26,596 $ 163,862 $ 35,586 $ 199,448 Interest and dividends on securities................ 40,792 3,580 44,372 16,617 60,989 Interest on excess funds and other.................. 440 257 697 200 897 ---------- ----------- --------- ---------- --------- ---------- Total interest income.............................. 170,211 8,287 30,433 208,931 52,403 261,334 ---------- ----------- --------- ---------- --------- ---------- Interest expense: Interest on deposits................................ 53,123 15,155 68,278 18,988 87,266 Interest on borrowed funds.......................... 18,128 3,850 1,528 23,506 10,389 33,895 ---------- ----------- --------- ---------- --------- ---------- Total interest expense............................. 71,251 3,850 16,683 91,784 29,377 121,161 ---------- ----------- --------- ---------- --------- ---------- Net interest income................................. 98,960 4,437 13,750 117,147 23,026 140,173 Provision for possible loan losses.................. (17,674) 144 900 (16,630) 405 (16,225) ---------- ----------- --------- ---------- --------- ---------- Net interest income after provision for possible loan losses........................................ 116,634 4,293 12,850 133,777 22,621 156,398 ---------- ----------- --------- ---------- --------- ---------- Noninterest income: Asset management fees............................... 9,807 9,807 9,807 Fees and charges.................................... 7,961 434 8,395 1,135 9,530 Securities gains (losses), net...................... 1,450 1,450 1,450 Gain on sale of assets.............................. 16 25 41 86 127 Other............................................... 5,127 751 288 6,166 38 6,204 ---------- ----------- --------- ---------- --------- ---------- Total noninterest income........................... 24,361 751 747 25,859 1,259 27,118 ---------- ----------- --------- ---------- --------- ---------- Noninterest expense: Salary and employee benefits........................ 44,545 1,893 5,154 51,592 6,863 58,455 Occupancy and equipment............................. 11,593 230 1,151 12,974 1,562 14,536 Foreclosed and workout expense...................... 1,517 2,116 3,633 164 3,797 Deposit insurance assessment........................ 4,292 776 5,068 2,707 7,775 Other............................................... 21,437 644 2,838 24,919 3,494 28,413 ---------- ----------- --------- ---------- --------- ---------- Total noninterest expense.......................... 83,384 2,767 12,035 98,186 14,790 112,976 ---------- ----------- --------- ---------- --------- ---------- Income before taxes.................................. 57,611 2,277 1,562 61,450 9,090 70,540 Income tax expense (benefit)........................ 22,457 919 (440) 22,936 3,266 26,202 ---------- ----------- --------- ---------- --------- ---------- Net income........................................... $ 35,154 $ 1,358 $ 2,002 $ 38,514 $ 5,824 $ 44,338 ---------- ----------- --------- ---------- --------- ---------- ---------- ----------- --------- ---------- --------- ---------- Net income per share................................. $ 1.24 $ 0.68 $ 0.12 $ 1.18 $ 0.90 $ 1.06 Weighted average number of common shares outstanding........................................ 28,396 2,000 16,652 32,740 6,496 41,899
See accompanying Notes to Unaudited Pro Forma Condensed Financial Information. 129 UST CORP. FIRESTONE FINANCIAL CORP. SOMERSET SAVINGS BANK AFFILIATED COMMUNITY BANCORP, INC. PRO FORMA COMBINED STATEMENTS OF INCOME
YEAR ENDED DECEMBER 31, 1996 -------------------------------- UST FIRESTONE SOMERSET COMBINED AFCB COMBINED ---------- ---------- ----------- --------- ---------- --------- (In thousands, except per share data) Interest income: Interest and fees on loans and leases............... $ 176,897 $ 10,904 $ 35,521 $ 223,322 $ 48,661 $ 271,983 Interest and dividends on securities................ 53,188 5,034 58,222 22,415 80,637 Interest on excess funds and other.................. 2,223 303 2,526 265 2,791 ---------- ----------- --------- ---------- --------- ---------- Total interest income.............................. 232,308 10,904 40,858 284,070 71,341 355,411 ---------- ----------- --------- ---------- --------- ---------- Interest expense: Interest on deposits................................ 71,625 20,202 91,827 25,775 117,602 Interest on borrowed funds.......................... 25,428 5,074 2,126 32,628 14,289 46,917 ---------- ----------- --------- ---------- --------- ---------- Total interest expense............................. 97,053 5,074 22,328 124,455 40,064 164,519 ---------- ----------- --------- ---------- --------- ---------- Net interest income................................. 135,255 5,830 18,530 159,615 31,277 190,892 Provision for possible loan losses................... (17,300) 1,200 (16,100) 605 (15,495) ---------- ----------- --------- ---------- --------- ---------- Net interest income after provision for possible loan losses........................................ 152,555 5,830 17,330 175,715 30,672 206,387 ---------- ----------- --------- ---------- --------- ---------- Noninterest income: Asset management fees............................... 12,947 12,947 12,947 Fees and charges.................................... 11,020 587 11,607 1,540 13,147 Securities gains (losses), net...................... 1,179 1,179 (47) 1,132 Gain on sale of bank subsidiary..................... 6,806 6,806 6,806 Gain on sale of assets.............................. 2 43 45 76 121 Other............................................... 6,871 1,116 427 8,414 69 8,483 ---------- ----------- --------- ---------- --------- ---------- Total noninterest income........................... 38,825 1,116 1,057 40,998 1,638 42,636 ---------- ----------- --------- ---------- --------- ---------- Noninterest expense: Salary and employee benefits........................ 62,056 2,523 6,869 71,448 9,054 80,502 Occupancy and equipment............................. 15,877 264 1,536 17,677 2,086 19,763 Foreclosed and workout expense...................... 1,687 2,728 4,415 129 4,544 Deposit insurance assessment........................ 3,959 1,040 4,999 2,860 7,859 Acquisition related expenses........................ 5,933 5,933 5,933 Other............................................... 31,426 943 3,841 36,210 4,837 41,047 ---------- ----------- --------- ---------- --------- ---------- Total noninterest expense.......................... 120,938 3,730 16,014 140,682 18,966 159,648 ---------- ----------- --------- ---------- --------- ---------- Income before taxes.................................. 70,442 3,216 2,373 76,031 13,344 89,375 Income tax expense (benefit)........................ 27,261 1,120 (440) 27,941 4,821 32,762 ---------- ----------- --------- ---------- --------- ---------- Net income........................................... $ 43,181 $ 2,096 $ 2,813 $ 48,090 $ 8,523 $ 56,613 ---------- ----------- --------- ---------- --------- ---------- ---------- ----------- --------- ---------- --------- ---------- Net income per share................................. $ 1.52 $ 1.05 $ 0.17 $ 1.47 $ 1.31 $ 1.35 Weighted average number of common shares outstanding........................................ 28,396 2,000 16,652 32,740 6,510 41,919
See accompanying Notes to Unaudited Pro Forma Condensed Financial Information. 130 UST CORP. FIRESTONE FINANCIAL CORP. SOMERSET SAVINGS BANK AFFILIATED COMMUNITY BANCORP, INC. PRO FORMA COMBINED STATEMENTS OF INCOME
YEAR ENDED DECEMBER 31, 1995 -------------------------------- UST FIRESTONE SOMERSET COMBINED AFCB COMBINED ---------- ---------- ----------- --------- ---------- --------- (In thousands, except per share data) Interest income: Interest and fees on loans and leases............... $ 172,480 $ 10,296 $ 36,350 $ 219,126 $ 41,924 $ 261,050 Interest and dividends on securities................ 42,503 3,844 46,347 18,598 64,945 Interest on excess funds and other.................. 3,939 242 4,181 474 4,655 ---------- ----------- --------- ---------- --------- ---------- Total interest income.............................. 218,922 10,296 40,436 269,654 60,996 330,650 ---------- ----------- --------- ---------- --------- ---------- Interest expense: Interest on deposits................................ 69,381 18,932 88,313 22,878 111,191 Interest on borrowed funds.......................... 16,181 5,070 3,841 25,092 10,346 35,438 ---------- ----------- --------- ---------- --------- ---------- Total interest expense............................. 85,562 5,070 22,773 113,405 33,224 146,629 ---------- ----------- --------- ---------- --------- ---------- Net interest income................................. 133,360 5,226 17,663 156,249 27,772 184,021 Provision for possible loan losses................... 14,115 280 1,200 15,595 325 15,920 ---------- ----------- --------- ---------- --------- ---------- Net interest income after provision for possible loan losses........................................ 119,245 4,946 16,463 140,654 27,447 168,101 ---------- ----------- --------- ---------- --------- ---------- Noninterest income: Asset management fees............................... 13,581 13,581 13,581 Fees and charges.................................... 11,278 587 11,865 1,553 13,418 Securities gains (losses), net...................... 2,395 2,395 33 2,428 Gain on sale of assets.............................. 157 54 211 16 227 Other............................................... 6,943 939 415 8,297 91 8,388 ---------- ----------- --------- ---------- --------- ---------- Total noninterest income........................... 34,354 939 1,056 36,349 1,693 38,042 ---------- ----------- --------- ---------- --------- ---------- Noninterest expense: Salary and employee benefits........................ 57,425 2,394 6,476 66,295 8,587 74,882 Occupancy and equipment............................. 15,471 287 1,535 17,293 1,994 19,287 Foreclosed and workout expense...................... 5,972 4,641 10,613 (107) 10,506 Deposit insurance assessment........................ 4,051 1,189 5,240 1,006 6,246 Other............................................... 31,557 964 3,600 36,121 6,754 42,875 ---------- ----------- --------- ---------- --------- ---------- Total noninterest expense.......................... 114,476 3,645 17,441 135,562 18,234 153,796 ---------- ----------- --------- ---------- --------- ---------- Income before taxes.................................. 39,123 2,240 78 41,441 10,906 52,347 Income tax expense (benefit)........................ 14,866 668 (1,000) 14,534 5,199 19,733 ---------- ----------- --------- ---------- --------- ---------- Income before accretion of purchase discount......... 24,257 1,572 1,078 26,907 5,707 32,614 Accretion of purchase discount....................... 1,224 1,224 1,224 ---------- ----------- --------- ---------- --------- ---------- Net income........................................... $ 24,257 $ 2,796 $ 1,078 $ 28,131 $ 5,707 $ 33,838 ---------- ----------- --------- ---------- --------- ---------- ---------- ----------- --------- ---------- --------- ---------- Income per share before accretion of purchase discount........................................... $ 0.86 $ 0.79 $ 0.06 $ 0.83 $ 0.85 $ 0.78 Net income per share................................. $ 0.86 $ 1.40 $ 0.06 $ 0.86 $ 0.85 $ 0.81 Weighted average number of common shares outstanding........................................ 28,237 2,000 16,652 32,581 6,683 42,004
131 UST CORP. FIRESTONE FINANCIAL CORP. SOMERSET SAVINGS BANK AFFILIATED COMMUNITY BANCORP, INC. PRO FORMA COMBINED STATEMENTS OF INCOME
YEAR ENDED DECEMBER 31, 1994 -------------------------------------------- UST FIRESTONE SOMERSET COMBINED AFCB COMBINED ---------- ---------- ----------- --------- ---------- --------- (In thousands, except per share data) Interest income: Interest and fees on loans and leases............... $ 146,263 $ 8,571 $ 34,326 $ 189,160 $ 33,150 $ 222,310 Interest and dividends on securities................ 43,643 3,109 46,752 13,752 60,504 Interest on excess funds and other.................. 2,717 61 2,778 469 3,247 ---------- ----------- --------- ---------- --------- ---------- Total interest income.............................. 192,623 8,571 37,496 238,690 47,371 286,061 ---------- ----------- --------- ---------- --------- ---------- Interest expense: Interest on deposits................................ 52,944 16,325 69,269 17,762 87,031 Interest on borrowed funds.......................... 11,887 3,867 2,818 18,572 5,130 23,702 ---------- ----------- --------- ---------- --------- ---------- Total interest expense............................. 64,831 3,867 19,143 87,841 22,892 110,733 ---------- ----------- --------- ---------- --------- ---------- Net interest income................................. 127,792 4,704 18,353 150,849 24,479 175,328 Provision for possible loan losses................... 25,481 193 1,800 27,474 550 28,024 ---------- ----------- --------- ---------- --------- ---------- Net interest income after provision for possible loan losses........................................ 102,311 4,511 16,553 123,375 23,929 147,304 ---------- ----------- --------- ---------- --------- ---------- Noninterest income: Asset management fees............................... 14,419 14,419 14,419 Fees and charges.................................... 12,084 609 12,693 1,595 14,288 Securities gains (losses), net...................... 1,215 1,215 (420) 795 Gain on sale of assets.............................. 337 (32) 305 92 397 Other............................................... 5,992 929 378 7,299 81 7,380 ---------- ----------- --------- ---------- --------- ---------- Total noninterest income........................... 34,047 929 955 35,931 1,348 37,279 ---------- ----------- --------- ---------- --------- ---------- Noninterest expense: Salary and employee benefits........................ 55,157 2,166 6,085 63,408 7,930 71,338 Occupancy and equipment............................. 15,342 166 1,613 17,121 1,772 18,893 Foreclosed and workout expense...................... 9,202 13,384 22,586 (124) 22,462 Deposit insurance assessment........................ 6,382 1,296 7,678 1,251 8,929 Other............................................... 29,095 1,195 3,466 33,756 4,616 38,372 ---------- ----------- --------- ---------- --------- ---------- Total noninterest expense.......................... 115,178 3,527 25,844 144,549 15,445 159,994 ---------- ----------- --------- ---------- --------- ---------- Income (loss) before taxes........................... 21,180 1,913 (8,336) 14,757 9,832 24,589 Income tax expense (benefit)........................ 6,946 786 7 7,739 2,806 10,545 ---------- ----------- --------- ---------- --------- ---------- Income (loss) before accretion of purchase discount........................................... 14,234 1,127 (8,343) 7,018 7,026 14,044 Accretion of purchase discount....................... 1,912 1,912 1,912 ---------- ----------- --------- ---------- --------- ---------- Net income (loss).................................... $ 14,234 $ 3,039 $ (8,343) $ 8,930 $ 7,026 $ 15,956 ---------- ----------- --------- ---------- --------- ---------- ---------- ----------- --------- ---------- --------- ---------- Income (loss) per share before accretion of purchase discount........................................... $ 0.51 $ 0.56 ($0.50) $ 0.22 $ 1.06 $ 0.34 Net income per share................................. $ 0.51 $ 1.52 ($0.50) $ 0.28 $ 1.06 $ 0.38 Weighted average number of common shares outstanding........................................ 27,829 2,000 16,652 32,173 6,633 41,525
See accompanying Notes to Unaudited Pro Forma Condensed Financial Information. 132 NOTES TO UNAUDITED PRO FORMA CONDENSED FINANCIAL INFORMATION NOTE 1: It is contemplated that the pending acquisitions will be accounted for as poolings of interests. Accordingly, pro forma financial information assumes that the transactions were consummated as of the beginning of each of the periods indicated herein. Certain reclassifications have been made to the accounts of Firestone, Somerset and AFCB in the accompanying Unaudited Pro Forma Condensed Combining Balance Sheet and Unaudited Pro Forma Condensed Combined Statements of Income to conform to UST presentation. Pro forma results of operations do not reflect recurring items of income and expense resulting directly from the proposed mergers. In addition, the accompanying Unaudited Pro Forma Condensed Combined Statements of Income do not include the $1.2 million and $1.9 million accretion of purchase discount in 1995 and 1994, respectively, resulting from the purchase of Firestone from the FDIC in 1992. The fair value of Firestone's assets exceeded the purchase price by $5.7 million and was accreted into income over a thirty-six month period ending in 1995 and was non-taxable. The effect of an estimated one-time charge of $5.3 million ($7.5 million pre-tax), to be taken by UST in connection with the Somerset acquisition has been reflected in the accompanying Unaudited Pro Forma Condensed Combining Balance Sheet as a reduction in cash and retained earnings, net of a 40% tax benefit of $2.2 million recorded in other liabilities after excluding $2.1 million of nondeductible expense. The effect of an estimated one-time charge of $8.7 million ($12.0 million pre-tax), to be taken by UST in connection with the AFCB acquisition has been reflected in the accompanying Unaudited Pro Forma Condensed Combining Balance Sheet as a reduction in cash and retained earnings, net of a 40% tax benefit of $3.3 million recorded in other liabilities after excluding $3.8 million of nondeductible expense. The effect of a one-time nondeductible charge of $1.0 million recorded by UST and Firestone in connection with the Firestone acquisition has been reflected in the accompanying Unaudited Pro Forma Condensed Combining Balance Sheet as a reduction in cash and retained earnings. These charges have not been reflected in the Unaudited Pro Forma Condensed Combined Statements of Income since they are nonrecurring. The pro forma financial information does not give effect to any cost savings in connection with the pending acquisitions. NOTE 2: SOMERSET The pro forma Stockholders' investment accounts of UST and Somerset have been adjusted in the accompanying Unaudited Pro Forma Condensed Combining Balance Sheet to reflect the issuance of shares of UST Common Stock in exchange for all of the outstanding shares of Somerset Common Stock. The number of shares of UST Common Stock to be issued pursuant to the acquisition of Somerset is based upon the number of Somerset shares outstanding as of 133 NOTES TO UNAUDITED PRO FORMA CONDENSED FINANCIAL INFORMATION (Continued) September 30, 1997, and the exchange ratio of 0.19 shares of UST Common Stock for each share of Somerset Common Stock as specified in the Affiliation Agreement. The excess of the par value of the Common Stock of Somerset to be acquired over the par value of the UST Common Stock to be issued has been credited to Additional paid-in-capital. FIRESTONE AND AFCB The pro forma Stockholders' investment accounts of UST, as adjusted for Somerset, have been further adjusted to reflect the issuance of shares of UST Common Stock in exchange for all of the outstanding shares of Firestone and AFCB Common Stock. The number of shares of UST Common Stock issued pursuant to the acquisition of Firestone is based upon the number of Firestone shares outstanding as of September 30, 1997, and the exchange ratio of 0.59 shares of UST Common Stock for each share of Firestone Common Stock. The excess of the par value of the UST Common Stock issued over the par value of the Firestone Common Stock to be acquired has been charged to Additional paid-in-capital. The number of shares of UST Common Stock to be issued pursuant to the acquisition of AFCB is based upon the number of AFCB shares outstanding as of September 30, 1997, and the exchange ratio of 1.41 shares of UST Common Stock for each share of AFCB Common Stock. The excess of the par value of the UST Common Stock to be issued over the par value of the AFCB Common Stock to be acquired has been charged to Additional paid-in-capital. The Stockholders' investment accounts of AFCB reflect the retirement of AFCB Treasury Stock ($3.4 million) upon consummation of the AFCB acquisition through a charge to surplus. NOTE 3: UST classifies its investments in debt and equity securities as "Securities Available for Sale" in accordance with the provisions of Statement of Financial Accounting Standards No. 115, "Accounting for Certain Investments in Debt and Equity Securities." Accordingly, such securities are carried at fair value, with unrealized gains and losses reported as a separate component of Stockholders' investment. It is anticipated that, in order to maintain UST's existing interest rate risk position, the securities in the AFCB and Somerset portfolios which are designated as Held-to-Maturity, and are carried at cost adjusted for the amortization of premium and accretion of discount, will be redesignated as Available-for-Sale upon consummation of the acquisitions. At September 30, 1997, the Available-for-Sale designation would add approximately $1.2 million and $11 thousand, respectively, to the Stockholders' investment accounts of AFCB and Somerset. The effect of the fair-value adjustments have not been reflected in the accompanying Unaudited Pro Forma Condensed Combining Balance Sheet since the actual amount of any unrealized gains or losses at consummation is subject to market conditions and other factors and may vary significantly from the balance reported at September 30, 1997. NOTE 4: Pro forma earnings per share amounts in the accompanying Unaudited Pro Forma Condensed Combined Statements of Income are based on the weighted average number of common shares of the constituent companies outstanding during each period as specified in the respective Affiliation Agreements. 134 -----END PRIVACY-ENHANCED MESSAGE-----