10KSB 1 e10ksb01.txt 10KSB 2001 MARATHON BANCORP UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-KSB [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 (FEE REQUIRED) FOR THE FISCAL YEAR ENDED DECEMBER 31, 2001 ------------------- OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 (NO FEE REQUIRED) COMMISSION FILE NUMBER 0-12510 ------- MARATHON BANCORP (NAME OF SMALL BUSINESS ISSUER IN ITS CHARTER) CALIFORNIA 95-3770539 ---------------------------------------------- ---------- (STATE OR OTHER JURISDICTION OF INCORPORATION OR ORIGINATION) (I.R.S. EMPLOYER IDENTIFICATION NO.) 11150 WEST OLYMPIC BOULEVARD, LOS ANGELES, CALIFORNIA ---------------------------------------------------------------- 90064 ----- (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE) ISSUER'S TELEPHONE NUMBER: (310) 996-9100 -------------- SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE EXCHANGE ACT: NONE ------- SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE EXCHANGE ACT: COMMON STOCK, NO PAR VALUE -------------------------- (TITLE OF CLASS) CHECK WHETHER THE ISSUER (1) HAS FILED ALL REPORTS REQUIRED TO BE FILED BY SECTION 13 OR 15(D) OF THE EXCHANGE ACT DURING THE PAST 12 MONTHS (OR FOR SUCH SHORTER PERIOD THAT THE REGISTRANT WAS REQUIRED TO FILE SUCH REPORTS), AND (2) HAS BEEN SUBJECT TO SUCH FILING REQUIREMENTS FOR THE PAST 90 DAYS. YES X --- NO CHECK IF THERE IS NO DISCLOSURE OF DELINQUENT FILERS IN RESPONSE TO ITEM 405 OF REGULATION S-B IS NOT CONTAINED HEREIN, AND WILL NOT BE CONTAINED, TO THE BEST OF REGISTRANT'S KNOWLEDGE, IN DEFINITIVE PROXY OR INFORMATION STATEMENTS INCORPORATED BY REFERENCE IN PART III OF THIS FORM 10-KSB OR ANY AMENDMENT TO THIS FORM 10-KSB. [ ] STATE ISSUER'S REVENUES FOR ITS MOST RECENT FISCAL YEAR $ 7,585,000. STATE THE AGGREGATE MARKET VALUE OF THE VOTING STOCK HELD BY NON-AFFILIATES COMPUTED BY REFERENCE TO THE PRICE AT WHICH THE STOCK WAS SOLD, OR THE AVERAGE BID AND ASKED PRICES OF SUCH STOCK, AS OF MARCH 12, 2002. THE AMOUNT IS $12,497587. SOLELY FOR THE PURPOSE OF THIS CALCULATION, ALL DIRECTORS AND OFFICERS ARE REGARDED AS AFFILIATES. AS OF MARCH 12, 2002, THERE WERE 3,852,819 SHARES OF NO PAR COMMON STOCK ISSUED AND OUTSTANDING. PART I ------ ITEM 1. BUSINESS ------------------ GENERAL ------- Marathon Bancorp (the Company) is a California corporation organized on October 12, 1982, and, as a bank holding company, is subject to the Bank Holding Company Act of 1956, as amended (the BHC Act). The Company commenced business on August 29, 1983 when the Company acquired all of the issued and outstanding shares of Marathon National Bank (the Bank), which is the sole active subsidiary of the Company and its principal asset. The Company has not engaged in any other activities to the date of this filing. All references herein to the Company include the Bank, unless the context requires otherwise. THE BANK --------- The Bank was organized on November 8, 1982 as a national banking association. The application to organize the Bank was accepted for filing by the Office of the Comptroller of the Currency (the Comptroller) on March 11, 1982, and preliminary approval was granted on September 8, 1982. On August 29, 1983, the Bank received from the Comptroller a Certificate of Authority to Commence the Business of Banking. The Bank is a member of the Federal Reserve System, and its deposits are insured under the Federal Deposit Insurance Act to the extent of applicable limits. The Bank is located at 11150 West Olympic Boulevard, Los Angeles, California with a loan production office in Woodland Hills, California. The Bank's primary marketing area rests principally within the counties of Los Angeles (including the San Fernando Valley and South Bay areas) and Orange. The Bank markets its services mainly to commercial and wholesale businesses, professionals and discerning individuals living or working in the west Los Angeles area. BANK SERVICES -------------- The Bank offers a wide range of commercial banking services to individuals, businesses and professional firms located in its primary marketing area. These services include personal and business checking, interest-bearing money market, savings accounts (including interest-bearing negotiable order of withdrawal accounts) and time certificates of deposit. The Bank also offers cash management services, ACH origination, night depository bank by mail services, as well as traveler's checks (issued by an independent entity) and cashier's checks. The Bank acts as an authorized depository for deposits of the U.S. Bankruptcy Court for the Southern, Central and Northern districts of California. The Bank also acts as a merchant depository for cardholder drafts under both VISA and MasterCard (through third party servicers). In addition, the Bank provides note and collection services and direct deposit of social security and other government checks. The Bank engages in a full complement of lending activities, including revolving lines of credit, working capital and accounts receivable financing, short term real estate construction financing, mortgage loans and consumer installment loans, with particular emphasis on short and medium term obligations. Additionally, the Bank has become an active Small business Administration (SBA) lender. The Bank's commercial lending activities are directed principally toward small to medium sized businesses, wholesalers, light manufacturing concerns and professional firms. The Bank's consumer lending activities include loans for automobiles, recreational vehicles, home improvements and other personal needs. COMPETITION ----------- The banking and financial services industry in California generally, and in the Bank's market areas specifically, is highly competitive. The increasingly competitive environment is a result primarily of changes in regulation, changes in technology and product delivery systems, and the accelerating pace of consolidation among financial services providers. The Bank competes for loans, deposits, and customers with other commercial banks, savings and loan associations, securities and brokerage companies, mortgage companies, insurance companies, finance companies, money market funds, credit unions, and other nonbank financial service providers. Many of these competitors are much larger in total assets and capitalization, have greater access to capital markets and offer a broader range of financial services that the Bank does not offer directly. In addition, recent federal legislation may have the effect of further increasing the pace of consolidation within the financial services industry. See "Item 1. Business - Supervision and Regulation - Financial Services Modernization Legislation." In addition, the enactment of interstate banking legislation in California makes it easier for bank holding companies with headquarters outside of California to enter the California market, presenting an additional source of competition for the Bank. Many of the major commercial banks operating in the Bank's market areas offer certain services that the Bank does not offer directly. In addition, banks with greater capitalization have larger lending limits and are thereby able to serve larger borrowing customers. The Company competes for loan and deposit business by providing innovative and responsive service to its customers. ECONOMIC CONDITIONS, GOVERNMENT POLICIES, LEGISLATION, AND REGULATION --------------------------------------------------------------------------- The Bank's profitability, like most financial institutions, is primarily dependent on interest rate differentials. In general, the difference between the interest rates paid by the Bank on interest-bearing liabilities, such as deposits and other borrowings, and the interest rates received by the Bank on its interest-earning assets, such as loans extended to its clients and securities held in its investment portfolio, comprise the major portion of the Bank's earnings. These rates are highly sensitive to many factors that are beyond the control of the Company and the Bank, such as inflation, recession and unemployment, and the impact which future changes in domestic and foreign economic conditions might have on the Company and the Bank cannot be predicted. The business of the Company and The Bank is also influenced by the monetary and fiscal policies of the federal government and the policies of regulatory agencies, particularly the Board of Governors of the Federal Reserve System (the "Federal Reserve Board"). The Federal Reserve Board implements national monetary policies (with objectives such as curbing inflation and combating recession) through its open-market operations in U.S. Government securities by adjusting the required level of reserves for depository institutions subject to its reserve requirements, and by varying the target federal funds and discount rates applicable to borrowings by depository institutions. The actions of the Federal Reserve Board in these areas influence the growth of bank loans, investments, and deposits and also affect interest rates earned on interest-earning assets and paid on interest-bearing liabilities. The nature and impact on the Company and the Bank of any future changes in monetary and fiscal policies cannot be predicted. From time to time, legislation, as well as regulations, are enacted which have the effect of increasing the cost of doing business, limiting or expanding permissible activities, or affecting the competitive balance between banks and other financial services providers. Proposals to change the laws and regulations governing the operations and taxation of banks, bank holding companies, and other financial institutions and financial services providers are frequently made in the U.S. Congress, in the state legislatures, and before various regulatory agencies. This legislation may change banking statutes and the operating environment of the Company and its subsidiaries in substantial and unpredictable ways. If enacted, such legislation could increase or decrease the cost of doing business, limit or expand permissible activities or affect the Competitive balance among banks, savings associations, credit unions, and other financial institutions. The Company cannot predict whether any of this potential legislation will be enacted, and if enacted, the effect that it, or any implementing regulations, would have on the financial condition or results of operations of the Company or any of its subsidiaries. See "Item 1. Business - Supervision and Regulation." SUPERVISION AND REGULATION ---------------------------- GENERAL Bank holding companies and banks are extensively regulated under both federal and state law. This regulation is intended primarily for the protection of depositors and the deposit insurance fund and not for the benefit of stockholders of the Company. Set forth below is a summary description of the material laws and regulations which relate to the operations of the Company and the Bank. The description is qualified in its entirety by reference to the applicable laws and regulations. MARATHON BANCORP Marathon Bancorp, as a registered bank holding company, is subject to regulation under the Bank Holding Company Act of 1956, as amended (the "BHCA"). The Company is required to file with the Federal Reserve Board periodic reports and such additional information as the Federal Reserve Board may require pursuant to the BHCA. The Federal Reserve Board may conduct examinations of the Company and its subsidiaries. The Federal Reserve Board may require that the Company terminate an activity or terminate control of or liquidate or divest certain subsidiaries or affiliates when the Federal Reserve Board believes the activity or the control of the subsidiary or affiliate constitutes a significant risk to the financial safety, soundness or stability of any of its banking subsidiaries. The Federal Reserve Board also has the authority to regulate provisions of certain bank holding company debt, including the authority to impose interest ceilings and reserve requirements on such debt. Under certain circumstances, the Company must file written notice and obtain approval from the Federal Reserve Board prior to purchasing or redeeming its equity securities. Further, the Company is required by the Federal Reserve Board to maintain certain levels of capital. Management believes, as of December 31, 2001, that the Bank meets all capital adequacy requirements to which it is subject. See part II, Item 7, Note K for the Banks capital ratio requirements and current ratios. The Company is required to obtain the prior approval of the Federal Reserve Board for the acquisition of more than 5% of the outstanding shares of any class of voting securities or substantially all of the assets of any bank or bank holding company. Prior approval of the Federal Reserve Board is also required for the merger or consolidation of the Company and another bank holding company. The Company is prohibited by the BHCA, except in certain statutorily prescribed instances, from acquiring direct or indirect ownership or control of more than 5% of the outstanding voting shares of any company that is not a bank or bank holding company and from engaging directly or indirectly in activities other than those of banking, managing or controlling banks, or furnishing services to its subsidiaries. However, the Company, subject to the prior approval of the Federal Reserve Board, may engage in any, or acquire shares of companies engaged in, activities that are deemed by the Federal Reserve Board to be so closely related to banking or managing or controlling banks as to be a proper incident thereto. Under Federal Reserve Board regulations, a bank holding company is required to serve as a source of financial and managerial strength to its subsidiary banks and may not conduct its operations in an unsafe or unsound manner. In addition, it is the Federal Reserve Board's policy that a bank holding company should stand ready to use available resources to provide adequate capital funds to its subsidiary banks during periods of financial stress or adversity and should maintain the financial flexibility and capital-raising capacity to obtain additional resources for assisting its subsidiary banks. A bank holding company's failure to meet its obligations to serve as a source of strength to its subsidiary banks will generally be considered by the Federal Reserve Board to be an unsafe and unsound banking practice or a violation of the Federal Reserve Board's regulations or both. The Company is also a bank holding company within the meaning of Section 3700 of the California Financial Code. As such, the Company and its subsidiaries are subject to examination by, and may be required to file reports with, the California Department of Financial Institutions. The Company's securities are registered with the Securities and Exchange Commission under the Securities Exchange Act of 1934, as amended (the "Exchange Act"). As such, the Company is subject to the information, proxy solicitation, insider trading, and other requirements and restrictions of the Exchange Act. The Bank, as a national banking association, is subject to primary supervision, examination, and regulation by the Office of the Comptroller of the Currency (the "Comptroller"). To a lesser extent, the Bank is also subject to regulations of the Federal Deposit Insurance Corporation ("FDIC") as administrator of the Bank Insurance Fund ("BIF") and the Federal Reserve Board. If, as a result of an examination of the Bank, the Comptroller should determine that the financial condition, capital resources, asset quality, earnings prospects, management, liquidity or other aspects of the Bank's operations are unsatisfactory or that the Bank or its management is violating or has violated any law or regulation, various remedies are available to the Comptroller. Such remedies include the power to enjoin "unsafe or unsound practices," to require affirmative action to correct any conditions resulting from any violation or practice, to issue an administrative order that can be judicially enforced, to direct an increase in capital, to restrict the growth of the Bank, to assess civil monetary penalties, and to remove officers and directors. The FDIC has similar enforcement authority, in addition to its authority to terminate the Bank's deposit insurance in the absence of action by the Comptroller and upon a finding that the Bank is in an unsafe or unsound condition, is engaging in unsafe or unsound activities, or that its conduct poses a risk to the deposit insurance fund or may prejudice the interest of its depositors. Various requirements and restrictions under the laws of the United States and the State of California affect the operations of the Bank. Federal and California statutes and regulations relate to many aspects of the Bank's operations, including reserves against deposits, ownership of deposit accounts, interest rates payable on deposits, loans, investments, mergers and acquisitions, borrowings, dividends, locations of branch offices, capital requirements and disclosure obligations to depositors and borrowers. FINANCIAL SERVICES MODERNIZATION LEGISLATION ----------------------------------------------- GENERAL. On November 12, 1999, President Clinton signed into law the Gramm-Leach-Bliley Act of 1999 (the "Financial Services Modernization Act"). The Financial Services Modernization Act repeals the two affiliation provisions of the Glass-Steagall Act: Section 20, which restricted the affiliation of Federal Reserve Member Banks with firms "engaged principally" in specified securities activities; and Section 32, which restricts officer, director, or employee interlocks between a member bank and any company or person "primarily engaged" in specified securities activities. In addition, the Financial Services Modernization Act also contains provisions that expressly preempt any state law restricting the establishment of financial affiliations, primarily related to insurance. The general effect of the law is to establish a comprehensive framework to permit affiliations among commercial banks, insurance companies, securities firms, and other financial service providers by revising and expanding the BHCA framework to permit a holding company system to engage in a full range of financial activities through a new entity known as a Financial Holding Company The law also: - Broadens the activities that may be conducted by national banks, banking subsidiaries of bank holding companies, and their financial subsidiaries; - Provides an enhanced framework for protecting the privacy of consumer information; - Adopts a number of provisions related to the capitalization, membership, corporate governance, and other measures designed to modernize the Federal Home Loan Bank system; - Modifies the laws governing the implementation of the Community Reinvestment Act; and - Addresses a variety of other legal and regulatory issues affecting both day-to-day operations and long-term activities of financial institutions. The Company and the Bank do not believe that the Financial Services Modernization Act will have a material adverse effect on operations in the near-term. However, to the extent that it permits banks, securities firms, and insurance companies to affiliate, the financial services industry may experience further consolidation. The Financial Services Modernization Act is intended to grant to community banks certain powers as a matter of right that larger institutions have accumulated on an ad hoc basis. Nevertheless, this act may have the result of increasing the amount of competition that the Company and the Bank face from larger institutions and other types of companies offering financial products, many of which may have substantially more financial resources than the Company and the Bank. EXPANDED BANK ACTIVITIES The Financial Services Modernization Act also permits national banks to engage in expanded activities through the formation of financial subsidiaries. A national bank may have a subsidiary engaged in any activity authorized for national banks directly or any financial activity, except for insurance underwriting, insurance investments, real estate investment or development, or merchant banking, which may only be conducted through a subsidiary of a financial holding company. Financial activities include all activities permitted under new sections of the BHCA or permitted by regulation. A national bank seeking to have a financial subsidiary, and each of its depository institution affiliates, must be "well-capitalized," "well-managed" and in compliance with the Community Reinvestment Act. The total assets of all financial subsidiaries may not exceed the lesser of 45% of a bank's total assets, or $50 billion. A national bank must exclude from its assets and equity all equity investments, including retained earnings, in a financial subsidiary. The assets of the subsidiary may not be consolidated with the Bank's assets. The Bank must also have policies and procedures to assess financial subsidiary risk and protect the Bank from such risks and potential liabilities. PRIVACY. Under the Financial Services Modernization Act, federal banking regulators are required to adopt rules that will limit the ability of banks and other financial institutions to disclose non-public information about consumers to nonaffiliated third parties. These limitations will require disclosure of privacy policies to consumers and, in some circumstances, will allow consumers to prevent disclosure of certain personal information to a nonaffiliated third party. Federal banking regulators issued final rules on May 10, 2000. Pursuant to these rules, financial institutions must provide: - initial notices to customers about their privacy policies, describing the conditions under which they may disclose nonpublic personal information to nonaffiliated third parties and affiliates; - annual notices of their privacy policies to current customers; and - a reasonable method for customers to "opt out" of disclosures to nonaffiliated third parties. The rules were effective November 13, 2000, but compliance is optional until July 1, 2001. These privacy provisions will affect how consumer information is transmitted through diversified financial companies and conveyed to outside vendors. The Company implemented the privacy provisions in early 2001 and there has not been an impact to the financial condition or operating results of the Company. SAFEGUARDING CONFIDENTIAL CUSTOMER INFORMATION. In January 2000, the banking agencies adopted guidelines requiring financial institutions to establish an information security program to: - identify and assess the risks that may threaten customer information; - develop a written plan containing policies and procedures to manage and control these risks; - implement and test the plan; and - adjust the plan on a continuing basis to account for changes in technology, the sensitivity of customer information, and internal or external threats to information security. Each institution may implement a security program appropriate to its size and complexity and the nature and scope of its operations. The guidelines outline specific security measures that institutions should consider in implementing a security program. A financial institution must adopt those security measures determined to be appropriate. The guidelines require the board of directors to oversee an institution's efforts to develop, implement, and maintain an effective information security program and approve written information security policies and programs. The guidelines were effective July 1, 2001. The Company implemented an effective information security program in the second quarter of 2001. DIVIDENDS AND OTHER TRANSFERS OF FUNDS ------------------------------------------- Dividends from the Bank are a source of income to the Company The Company is a legal entity separate and distinct from the Bank. The Bank is subject to various statutory and regulatory restrictions on its ability to pay dividends to the Company. Under such restrictions, the Bank could pay a dividend to the Company at December 31, 2001 OF $20,072. In addition, the California Department of Financial Institutions and the Federal Reserve Board have the authority to prohibit the Bank from paying dividends, depending upon the Bank's financial condition, if such payment is deemed to constitute an unsafe or unsound practice. The FDIC and the Comptroller also have authority to prohibit the Bank from engaging in activities that, in the FDIC's and Comptroller's opinion, constitute unsafe or unsound practices in conducting its business. It is possible, depending upon the financial condition of the Bank in question and other factors, that the FDIC and the Comptroller could assert that the payment of dividends or other payments might, under some circumstances, be such an unsafe or unsound practice. Further, the FDIC and the Comptroller and the Federal Reserve Board have established guidelines with respect to the maintenance of appropriate levels of capital by banks or bank holding companies under their jurisdiction. Compliance with the standards set forth in such guidelines and the restrictions that are or may be imposed under the prompt corrective action provisions of federal law could limit the amount of dividends which the Bank or the Company may pay. An insured depository institution is prohibited from paying management fees to any controlling persons or, with certain limited exceptions, making capital distributions if after such transaction the institution would be undercapitalized. See "- Prompt Corrective Regulatory Action and Other Enforcement Mechanisms" for a discussion of these additional restrictions on capital distributions. The Bank is subject to certain restrictions imposed by federal law on any extensions of credit to, or the issuance of a guarantee or letter of credit on behalf of, the Company or other affiliates, the purchase of, or investments in, stock or other securities thereof, the taking of such securities as collateral for loans, and the purchase of assets of the Company or other affiliates. Such restrictions prevent the Company and such other affiliates from borrowing from the Bank unless the loans are secured by marketable obligations of designated amounts. Further, such secured loans and investments by the Bank to or in the Company or to or in any other affiliate are limited, individually, to 10.0% of the Bank's capital and surplus (as defined by federal regulations), and such secured loans and investments are limited, in the aggregate, to 20.0% of the Bank's capital and surplus (as defined by federal regulations). California law also imposes certain restrictions with respect to transactions involving the Company and other controlling persons of the Bank. Additional restrictions on transactions with affiliates may be imposed on the Bank under the prompt corrective action provisions of federal law. See "Item 1. Business - Supervision and Regulation - Prompt Corrective Action and Other Enforcement Mechanisms." CAPITAL STANDARDS ------------------ The federal banking agencies have adopted risk-based minimum capital guidelines intended to provide a measure of capital that reflects the degree of risk associated with a banking organization's operations for both transactions reported on the balance sheet as assets and transactions which are recorded as off balance sheet items. Under these guidelines, nominal dollar amounts of assets and credit equivalent amounts of off balance sheet items are multiplied by one of several risk adjustment percentages, which range from 0% for assets with low credit risk federal banking agencies, to 100% for assets with relatively high credit risk. The guidelines require a minimum ratio of qualifying total capital to risk-adjusted assets of 8% and a minimum ratio of Tier 1 capital to risk-adjusted assets of 4%. In addition to the risk-based guidelines, federal banking regulators require banking organizations to maintain a minimum amount of Tier 1 capital to total assets, referred to as the leverage ratio. For a banking organization rated in the highest of the five categories used by regulators to rate banking organizations, the minimum leverage ratio of Tier 1 capital to total assets must be 3%. In addition to these uniform risk-based capital guidelines and leverage ratios that apply across the industry, the regulators have the discretion to set individual minimum capital requirements for specific institutions at rates significantly above the minimum guidelines and ratios. See Part II, Item 7, Note K for the Bank's capital ratio requirements and current ratios as of December 31, 2001. The federal banking regulators may set capital requirements higher than the minimums described above for holding companies whose circumstances warrant it. For example, a financial institution experiencing or anticipating significant growth may be expected to maintain capital positions substantially above the minimum supervisory levels without significant reliance on intangible assets. The Federal Reserve Board has also indicated that it will consider a "tangible Tier 1 capital leverage ratio" (deducting all intangibles) and other indications of capital strength when evaluating proposals for expansion or new activities. PROPOSED CAPITAL REQUIREMENTS FOR COMMUNITY INSTITUTIONS ------------------------------------------------------------- In November 2000 the federal bank and thrift regulatory agencies requested public comment on an advance notice of proposed rulemaking that considers the establishment of a simplified regulatory capital framework for non-complex institutions. In the proposal, the agencies suggested criteria that could be used to determine eligibility for a simplified capital framework, such as the nature of a bank's activities, its asset size and its risk profile. In the advance notice, the agencies seek comment on possible minimum regulatory capital requirements for non-complex institutions, including a simplified risk-based ratio, a simple leverage ratio, or a leverage ratio modified to incorporate certain off-balance sheet exposures. The advance notice solicits public comment on the agencies' preliminary views. Comments are due on the proposal on February 1, 2001. Given the preliminary nature of the proposal, it is not possible to predict its impact on the Bank at this time. PROMPT CORRECTIVE ACTION AND OTHER ENFORCEMENT MECHANISMS --------------------------------------------------------------- Federal banking agencies possess broad powers to take corrective and other supervisory action to resolve the problems of insured depository institutions, including but not limited to those institutions that fall below one or more prescribed minimum capital ratios. Each federal banking agency has promulgated regulations defining the following five categories in which an insured depository institution will be placed, based on its capital ratios: well capitalized, adequately capitalized, undercapitalized, significantly undercapitalized, and critically undercapitalized. At December 31, 2001, the Bank and the Company exceeded the required ratios for classification as "well capitalized." An institution that, based upon its capital levels, is classified as well capitalized, adequately capitalized, or undercapitalized may be treated as though it were in the next lower capital category if the appropriate federal banking agency, after notice and opportunity for hearing, determines that an unsafe or unsound condition or an unsafe or unsound practice warrants such treatment. At each successive lower capital category, an insured depository institution is subject to more restrictions. The federal banking agencies, however, may not treat a significantly undercapitalized institution as critically undercapitalized unless its capital ratio actually warrants such treatment. In addition to measures taken under the prompt corrective action provisions, commercial banking organizations may be subject to potential enforcement actions by the federal regulators for unsafe or unsound practices in conducting their businesses or for violations of any law, rule, regulation, or any condition imposed in writing by the agency or any written agreement with the agency. SAFETY AND SOUNDNESS STANDARDS --------------------------------- The federal banking agencies have adopted guidelines designed to assist the federal banking agencies in identifying and addressing potential safety and soundness concerns before capital becomes impaired. The guidelines set forth operational and managerial standards relating to: (i) internal controls, information systems and internal audit systems, (ii) loan documentation, (iii) credit underwriting, (iv) asset growth, (v) earnings, and (vi) compensation, fees and benefits. In addition, the federal banking agencies have also adopted safety and soundness guidelines with respect to asset quality and earnings standards. These guidelines provide six standards for establishing and maintaining a system to identify problem assets and prevent those assets from deteriorating. Under these standards, an insured depository institution should: (i) conduct periodic asset quality reviews to identify problem assets, (ii) estimate the inherent losses in problem assets and establish reserves that are sufficient to absorb estimated losses, (iii) compare problem asset totals to capital, (iv) take appropriate corrective action to resolve problem assets, (v) consider the size and potential risks of material asset concentrations, and (vi) provide periodic asset quality reports with adequate information for management and the board of directors to assess the level of asset risk. These new guidelines also set forth standards for evaluating and monitoring earnings and for ensuring that earnings are sufficient for the maintenance of adequate capital and reserves. PREMIUMS FOR DEPOSIT INSURANCE --------------------------------- Through the Bank Insurance Fund (BIF), the FDIC insures the deposits of the Company's depository institution subsidiaries up to prescribed limits for each depositor. The amount of FDIC assessments paid by each BIF member institution is based on its relative risk of default as measured by regulatory capital ratios and other factors. Specifically, the assessment rate is based on the institution's capitalization risk category and supervisory subgroup category. An institution's capitalization risk category is based on the FDIC's determination of whether the institution is well capitalized, adequately capitalized or less than adequately capitalized. An institution's supervisory subgroup category is based on the FDIC's assessment of the financial condition of the institution and the probability that FDIC intervention or other corrective action will be required. FDIC-insured depository institutions pay an assessment rate equal to the rate assessed on deposits insured by the Savings Association Insurance Fund ("SAIF"). The assessment rate currently ranges from zero to 27 cents per $100 of domestic deposits. The FDIC may increase or decrease the assessment rate schedule on a semi-annual basis. An increase in the assessment rate could have a material adverse effect on the Company's earnings, depending on the amount of the increase. The FDIC is authorized to terminate a depository institution's deposit insurance upon a finding by the FDIC that the institution's financial condition is unsafe or unsound or that the institution has engaged in unsafe or unsound practices or has violated any applicable rule, regulation, order or condition enacted or imposed by the institution's regulatory agency. The termination of deposit insurance of the Company's subsidiary depository institution could have a material adverse effect on the Company's earnings, depending on the collective size of the particular institution involved. All FDIC-insured depository institutions must pay an annual assessment to provide funds for the payment of interest on bonds issued by the Financing Corporation, a federal corporation chartered under the authority of the Federal Housing Finance Board. The bonds, commonly referred to as FICO bonds, were issued to capitalize the Federal Savings and Loan Insurance Corporation. The FDIC established the FICO assessment rates effective for the third quarter of 2000 at approximately $.021 per $100 annually for assessable deposits. The FICO assessments are adjusted quarterly to reflect changes in the assessment bases of the FDIC's insurance funds and do not vary depending on a depository institution's capitalization or supervisory evaluations. INTERSTATE BANKING AND BRANCHING ----------------------------------- The BHCA permits bank holding companies from any state to acquire banks and bank holding companies located in any other state, subject to certain conditions, including certain nationwide- and state-imposed concentration limits. The Bank has the ability, subject to certain restrictions, to acquire by acquisition or merger branches outside its home state. The establishment of new interstate branches is also possible in those states with laws that expressly permit it. Interstate branches are subject to certain laws of the states in which they are located. Competition may increase further as banks branch across state lines and enter new markets. COMMUNITY REINVESTMENT ACT AND FAIR LENDING DEVELOPMENTS -------------------------------------------------------------- The Bank is subject to certain fair lending requirements and reporting obligations involving home mortgage lending operations and Community Reinvestment Act activities. The CRA generally requires the federal banking agencies to evaluate the record of a financial institution in meeting the credit needs of its local communities, including low- and moderate-income neighborhoods. A bank may be subject to substantial penalties and corrective measures for a violation of certain fair lending laws. The federal banking agencies may take compliance with such laws and CRA obligations into account when regulating and supervising other activities. In December 2000, the federal banking agencies established annual reporting and public disclosure requirements for certain written agreements that are entered into between insured depository institutions or their affiliates and nongovernmental entities or persons that are made pursuant to, or in connection with, the fulfillment of the CRA. A bank's compliance with its CRA obligations is based a performance-based evaluation system which bases CRA ratings on an institution's lending service and investment performance. When a bank holding company applies for approval to acquire a bank or other bank holding company, the Federal Reserve Board will review the assessment of each subsidiary bank of the applicant bank holding company, and such records may be the basis for denying the application. Based on an examination conducted June 22, 1998, the Bank was rated satisfactory in complying with its CRA obligations. ACCOUNTING CHANGES ------------------- In June 2001, the FASB issued SFAS No. 142, "Accounting for Goodwill and Other Intangible Assets," effective starting with fiscal years beginning after December 15, 2001. This Statement establishes new accounting standards for goodwill and continues to require the recognition of goodwill as an asset but does not permit amortization of goodwill as previously required by the APB Opinion No. 17. The Statement also establishes a new method of testing goodwill for impairment. It requires goodwill to be separately tested for impairment at a reporting unit level. The amount of goodwill determined to be impaired would be expensed to current operations. Management believes that the adoption of the statement will not have a material effect on the Bank's financial statements. EMPLOYEES --------- At December 31, 2001, the Company employed 36 personnel. STATISTICAL DISCLOSURE ----------------------- The following tables and data set forth, for the respective years indicated, selected statistical information relating to the Company. The Company's operating results depend primarily on the level of the Bank's net interest income, which is the difference between interest income on interest earning assets and interest expense on interest bearing liabilities. The Bank's net interest income is determined by the average outstanding balances of loans, investments, deposits and borrowings, and the respective average yields on interest-earning assets and the average costs on interest bearing liabilities, and the relative amount of loans and investments compared to deposits and borrowings. The Bank's volumes and rates on interest earning assets and interest bearing liabilities are affected by market interest rates, competition, the demand for bank financing, the availability of funds, and by management's responses to these factors. The following tables set forth the Company's daily average balances for each principal category of asset and liability and shareholders' equity. The tables also present the amounts and average rates of interest earned and paid on each category of interest earning asset and interest bearing liability, along with the net interest income and net yield on earning assets for the periods indicated. In addition, the tables set forth changes in the components of net interest income for the periods indicated. The total change is segmented into the change attributable to variations in volume and the change attributable to variations in interest rates. The changes in interest due to both rate and volume have been allocated to the changes due to volume and rate in proportion to the relationship of the absolute dollar amounts of the change in both. Interest foregone on loans in nonaccrual status is not included in the tables, while the average balance of loans in nonaccrual status is included.
CHANGES IN NET INTEREST INCOME Year ended December 31, 2001 ( in thousands) YTD Interest Average Change From Prior Year Average Income/ Yield/ Due to Change in ------------------------ Net Interest Income Analysis . . . . Balance Expense Rate Volume Rate Total --------- --------- -------- --------- ------ ------- Loans. . . . . . . . . . . . . . . . $ 58,524 $ 5,152 8.8% $ 580 $(468) $ 112 Other earning assets: Interest bearing deposits with financial institutions . . . . 25 1 4.0% (2) 0 (2) Investment Securities . . . . . . 24,969 1,476 5.9% 169 (55) 114 Fed funds sold & Securities purchased under resale agreements . . . . . . . . . . 6,871 248 3.6% 70 (177) (107) --------- --------- -------- -------- ------ ------- Total interest earning assets . . . $ 90,389 $ 6,877 7.6% $ 817 $(700) $ 117 Non earning assets: 4,570 Cash & due from banks Other assets. . . . . . . . . . . 5,397 Allowance for loan loss . . . . . (1,080) --------- $ 99,276 Interest-bearing liabilities: Deposits: Demand. . . . . . . . . . . . . . $ 3,644 $ 35 1.0% $ 2 $ 0 $ 2 Money market and savings . . . . 31,377 914 2.9% 124 (310) (186) Time certificate of deposit . . . 22,650 1,107 4.9% 304 (183) 121 Federal funds purchased . . . . . 10 2 20.0% (2) 1 (1) Other interest bearing liabilities: Mortgage indebtedness . . . . . . - - - - - - --------- --------- -------- ---------- ------ ------- Total interest-bearing liabilities . $ 57,681 $ 2,058 3.6% $ 428 $(492) $ (64) Noninterest-bearing liabilities And shareholders equity Noninterest-bearing demand . . . . . 29,624 Other liabilities. . . . . . . . . . 824 Shareholders' equity . . . . . . . . 11,147 --------- $ 99,276 Net interest income. . . . . . . . . $ 4,819 Net interest spread. . . . . . . . . 4.0% Net yield on earning assets. . . . . 5.3%
CHANGES IN NET INTEREST INCOME Year ended December 31, 2000 ( in thousands) YTD Interest Average Change From Prior Year Average Income/ Yield/ Due to Change in ------------------------ Net Interest Income Analysis . . . . Balance Expense Rate Volume Rate Total --------- --------- -------- -------- ----- ------ Loans. . . . . . . . . . . . . . . . $ 52,483 $ 5,040 9.6% $ 547 $ 611 $1,158 Other earning assets: Interest bearing deposits with financial institutions . . . . 52 3 5.8% 0 3 3 Investment Securities . . . . . . 22,208 1,362 6.1% 165 93 258 Fed funds sold & Securities purchased under resale agreements . . . . . . . . . . 5,746 355 6.2% 9 66 75 --------- --------- -------- -------- ----- ------ Total interest earning assets . . . $ 80,489 $ 6,760 8.4% $ 721 $ 773 $1,494 Non earning assets: 4,582 Cash & due from banks Other assets. . . . . . . . . . . 4,751 Allowance for loan loss . . . . . (986) --------- $ 88,836 Interest-bearing liabilities: Deposits: Demand. . . . . . . . . . . . . . $ 3,433 $ 33 1.0% $ (1) $ 1 $ 0 Money market and savings . . . . 28,201 1,100 3.9% 85 163 248 Time certificate of deposit . . . 17,317 986 5.7% 241 155 396 Federal funds purchased . . . . . 54 3 5.6% 2 0 2 Other interest bearing liabilities: Mortgage indebtedness . . . . . . - - - - - - --------- --------- -------- -------- ----- ------ Total interest-bearing liabilities . $ 49,005 $ 2,122 4.3% $ 327 $ 319 $ 646 Noninterest-bearing liabilities And shareholders equity Noninterest-bearing demand . . . . . 29,543 Other liabilities. . . . . . . . . . 646 Shareholders' equity . . . . . . . . 9,642 --------- $ 88,836 Net interest income. . . . . . . . . $ 4,638 Net interest spread. . . . . . . . . 4.1% Net yield on earning assets. . . . . 5.8%
INVESTMENT SECURITIES ---------------------- The following table shows the carrying amount of the portfolio of investment securities at the end of each of the past two years: Total Estimated Amortized Gross Unrealized Market YEAR END 2001 . . . . . . . . . . . . Cost Gains Losses Value ( in thousands) Securities available for sale: U.S. Government and Agency Securities. $ 8,985 $ 134 $ ( 13) $ 9,106 Corporate Bonds and Commercial Paper . 4,296 140 - 4,436 Municipal Securities - Taxable . . . . 501 - ( 1) 500 Mortgage-Backed Securities . . . . . . 2,333 6 ( 13) 2,326 ---------- --------- -------- ------- Total . . . . . . . . . . . . . . $ 16,115 $ 280 $ ( 27) $16,368 Securities held to maturity: U.S. Treasury Securities . . . . . . . $ 500 $ 12 $ - $ 512 U.S. Government and Agency Securities. 1,483 87 - 1,570 Municipal Securities - Taxable . . . . 5,383 96 (26) 5,453 Mortgage-Backed Securities . . . . . . 5,552 118 (16) 5,654 ---------- --------- -------- ------- Total . . . . . . . . . . . . . . $ 12,918 $ 301 $ (42) $13,189 YEAR END 2000 Securities available for sale: U.S. Government and Agency Securities. $ 5,077 $ 31 $ (30) $ 5,078 Corporate Bonds and Commercial Paper . 4,261 15 (21) 4,255 ---------- -------- -------- ------- Total . . . . . . . . . . . . . . $ 9,338 $ 46 $ (51) $ 9,333 Securities held to maturity: U.S. Treasury Securities . . . . . . . $ 501 $ 4 $ - $ 505 U.S. Government and Agency Securities. 6,597 64 (21) 6,640 Municipal Securities . . . . . . . . . 4,679 7 (40) 4,646 Mortgage-Backed Securities . . . . . . 3,430 51 (11) 3,470 ---------- -------- -------- ------- Total . . . . . . . . . . . . . . $ 15,207 $ 122 $ (72) $15,261
INVESTMENT SECURITIES - CONTINUED ------------------------------------ The following table shows the maturities of investment securities at December 31, 2001 and the weighted average yields of those securities.
OVER 1 OVER 5 YEAR YEARS 1 YEAR THROUGH THROUGH OVER AVERAGE (in thousands) OR LESS 5 YEARS 10 YEARS 10 YEARS TOTAL YIELD -------- ------- -------- -------- --------- ------- Securities available for sale: U.S. Government Agency Securities $ - $ 8,695 $ - $ 411 $ 9,106 4.81% Corporate Bonds and Commercial Paper - 4,436 - - 4,436 6.27% Municipal Securities - Taxable - 500 - - 500 5.44% Mortgage-Backed Securities - 891 464 971 2,326 5.64% --------- --------- ------- --- -------- ----- Total $ - $14,522 $ 464 $ 1,382 $16,368 5.34% Securities held to maturity: U.S. Treasury Securities $ 500 $ - $ - $ - $ 500 5.92% U.S. Government Agency Securities 500 983 - - 1,483 7.02% Mortgage-Backed Securities - 2,626 2,110 816 5,552 6.12% Municipal Securities 550 3,652 1,181 - 5,383 5.61% --------- -------- ------ -------- ----- ----- Total $1,550 $ 7,261 $3,291 $ 816 $12,918 6.00%
LOAN PORTFOLIO ---------------
The following table sets forth the amount of loans outstanding at the end of the past two years: % OF % OF (in Thousands) . . . . . . . . . . . . . . . 2001 TOTAL 2000 TOTAL -------- -------- ------- ------ Commercial Loans. . . . . . . . . . . . . . . $27,723 45% $22,842 43% Real Estate Loans: Construction . . . . . . . . . . . . . . 14,577 24% 7,619 14% Real Estate Mortgage . . . . . . . . . . 18,479 30% 21,990 42% -------- ------- Total real estate loans . . . . . . 33,056 29,609 Installment loans . . . . . . . . . . . . . . 359 1% 418 1% -------- -------- ------- ------ 61,138 100% 52,869 100% Deferred net loan origination fees and costs. (150) 3 Allowance for Loan Losses . . . . . . . . . . (1,082) (1,066) -------- -------- Net Loans . . . . . . . . . . . . . $59,906 $51,806
The following table shows the amounts of commercial and real estate construction loans outstanding at the end of the year which, based on remaining scheduled repayments of principal, are due in one year or less, more than one year but less than five years, and more than five years. The amounts are classified according to the sensitivity to changes in interest rates.
COMMERCIAL AND CONSTRUCTION LOANS DECEMBER 31, ( in thousands). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2001 ------- COMMERCIAL LOANS Aggregate maturities of loan balances due: In one year or less: Interest rates are floating or adjustable . . . . . . . . . . . . . . . . . . . . . $12,351 Interest rates are fixed or predetermined . . . . . . . . . . . . . . . . . . . . . 780 After one year but within five years: Interest rates are floating or adjustable . . . . . . . . . . . . . . . . . . . . . 9,634 Interest rates are fixed or predetermined . . . . . . . . . . . . . . . . . . . . . 1,321 After five years: Interest rates are floating or adjustable . . . . . . . . . . . . . . . . . . . . . 3,637 Interest rates are fixed or predetermined . . . . . . . . . . . . . . . . . . . . . - ------- Total commercial loans . . . . . . . . . . . . . . . . . . . . . . . . . . . . $27,723 REAL ESTATE CONSTRUCTION LOANS Aggregate maturities of loan balances due In one year or less: Interest rates are floating or adjustable. . . . . . . . . . . . . . . . . . . . . $13,406 Interest rates are fixed or predetermined. . . . . . . . . . . . . . . . . . . . . - After one year but within five years: Interest rates are floating or adjustable. . . . . . . . . . . . . . . . . . . . . 1,171 ------- Total commercial and construction loans. . . . . . . . . . . . . . . . . . . . $14,577
------ RISK ELEMENTS - NONACCRUAL, PAST DUE AND RESTRUCTURED LOANS ------------------------------------------------------------------- Nonaccrual loans are those for which the Bank has discontinued accrual of interest because there exists reasonable doubt as to the full and timely collection of either principal or interest or such loans have become contractually past due ninety days with respect to principal or interest. Under certain circumstances, interest accruals are continued on loans past due ninety days which, in management's judgment, are considered to be well secured and fully collectible as to both principal and interest. When a loan is placed in nonaccrual status, all interest previously accrued but uncollected is reversed against current period income. Income on such loans is then recognized only to the extent that cash is received and where the future collection of principal is probable. Accrual of interest is resumed only when principal and interest are brought fully current and when, in management's judgment, such loans are estimated to be collectible as to both principal and interest. Restructured commercial loans are those for which the Bank has, for reasons related to borrowers' financial difficulties, granted concessions to borrowers (including reductions of either interest or principal) that it would not otherwise consider, whether or not such loans are secured or guaranteed by others. Loan restructurings involving only a modification of terms are accounted for prospectively from the time of restructuring. Accordingly, no gain or loss is recorded at the time of such restructurings unless the recorded investment in such loans exceeds the total future cash receipts specified by the new loan terms. At December 31, 2001 loans totaling $1,151,000 were on nonaccrual, compared with none at year-end 2000. There was no reduction in interest income associated with nonaccrual loans during 2001, and $3,000 during 2000. At December 31, 2001 loans past due 90 days or more and still accruing interest were $70,000 compared to $1,000,000 at year-end 2000. The Bank had $105,000 in specific reserves for impaired loans in 2001and none in 2000 and in addition, the Bank classified $1,410,000 and $2,173,000, respectively, of its loans without a specific reserve. The average recorded investment of impaired loans during the year ended December 31, 2001 and 2000 was approximately $1,068,000 and $1,000 respectively. No interest income was recognized on impaired loans during the year ended December 31, 2001 and $150 of interest income was recognized on impaired loans in 2000. There were no restructured loans at December 31, 2001 or 2000. There were no loans at December 31, 2001 where the known credit problems of a borrower caused the Bank to have serious doubts as to the ability of such borrower to comply with the then present loan repayment terms, and which would result in such loan being included as a nonaccrual, past due or restructured loan at some future date accept as previously disclosed. The Bank has not made loans to borrowers outside the United States. At December 31, 2001, the Company had no loan concentrations in any one SIC code exceeding ten percent of total gross loans outstanding. SUMMARY OF LOAN LOSS EXPERIENCE ----------------------------------- The allowance for loan losses is established by a provision for loan losses charged against current period income. Losses are charged against the allowance when, in management's judgment, the collectability of a loan's principal is doubtful. The accompanying financial statements require the use of management estimates to calculate the allowance for loan losses. These estimates are inherently uncertain and depend on the outcome of future events. Management's estimates are based upon previous loan loss experience, current economic conditions, volume, growth, and composition of the loan portfolio, the value of collateral and other relative factors. Although management believes the level of the allowance as of December 31, 2001 is adequate to absorb losses inherent in the loan portfolio, decline in the local economy and the possibility of a recession, may result in losses that cannot reasonably be predicted at this date. Such losses may also cause unanticipated erosion of the Bank's capital.
The following table summarizes the changes in the allowance for loan losses arising from loan losses, recoveries on loans previously charged off and provisions for loan losses charged to operating expense. LOAN CHARGE-OFFS AND RECOVERIES (in thousands) . . . . . . . . . . . . . . . . . . . . . . 2001 2000 -------- -------- Balance of allowance for loan losses at beginning of year. $ 1,066 $ 853 Loans charged off: Commercial. . . . . . . . . . . . . . . . . . . . . . ( 62) ( 80) Real estate . . . . . . . . . . . . . . . . . . . . . - - Installment . . . . . . . . . . . . . . . . . . . . . ( 4) ( 28) -------- -------- Total loans charged off. . . . . . . . . . . . . . ( 66) (108) Recoveries of loans previously charged off: Commercial. . . . . . . . . . . . . . . . . . . . . . 34 206 Real estate . . . . . . . . . . . . . . . . . . . . . - - Installment . . . . . . . . . . . . . . . . . . . . . 3 15 -------- -------- Total loan recoveries. . . . . . . . . . . . . . . 37 221 -------- -------- Net loans charged off. . . . . . . . . . . . . . . . . . . ( 29) 113 Provision charged to operating expense . . . . . . . . . . 45 100 -------- -------- Balance of allowance for loan losses at end of year. . . . $ 1,082 $ 1,066 2001 2000 -------- -------- Amount of loans outstanding at end of the year . . . . . . $60,988 $52,872 Average amount of loans outstanding. . . . . . . . . . . . $58,524 $52,483 Ratio of net charge-offs to average loans outstanding. . . 0.05% -0.22% Ratio of allowance for loan losses at the end of the year to average loans outstanding . . . . . . . . . . 1.85% 2.03% Ratio of allowance for loan losses at the end of the year to loans outstanding at the end of the year. . . 1.77% 2.02%
The following table sets forth the Company's allocation of the allowance for loan losses to specific loan categories at the end of the past two years. The allocations are based upon the same factors as considered by management in determining the amount of additional provisions to the allowance for loan losses and the aggregate level of the allowance. ALLOWANCE FOR LOAN LOSSES December 31, --------------------------------------------------------------------------- 2001 2000 ---- ---- PERCENT OF LOANS PERCENT OF LOANS ALLOWANCE FOR IN EACH CATEGORY IN EACH CATEGORY ( in thousands). . . . . . . . . . . LOAN LOSSES TO TOTAL LOANS ALLOWANCE FOR LOAN LOSSES TO TOTAL LOANS ------------ --------------- -------------------------- --------------- Commercial loans. . . . . . . . . . . $ 427 45% $ 378 43% Real estate loans: Construction . . . . . . . . . . 300 24% 127 14% Mortgage . . . . . . . . . . . . 346 30% 553 42% Installment/Consumer loans. . . . . . 9 1% 8 1% ------------ --------------- -------------------------- --------------- Total allowance for loan losses. $ 1,082 100% $ 1,066 100%
The allowance for loan losses should not be interpreted as an indication that future charge-offs will occur in these amounts or proportions, or that the allocation indicates future charge-off trends. Furthermore, the portion allocated to each loan category is not the total amount available for future losses that might occur within such categories, since even on the above basis there is an unallocated portion of the allowance and the total allowance is a general reserve applicable to the entire portfolio. Although management believes the level of the allowance for loan losses as of December 31, 2001, is adequate to absorb losses inherent in the loan portfolio, currently unanticipated conditions and events, such as additional declines in the local economy and the possibility of a recession, may result in losses that cannot reasonably be predicted at this date. SOURCES OF FUNDS ------------------ Deposits traditionally have been the primary source of the Bank's funds for use in lending and other investments. The Bank also derives funds from net earnings, receipt of interest and principal on outstanding loans and other sources, including the sale of investment securities. The Bank is a member of the Federal Reserve System and may borrow through that system under certain conditions DEPOSITS -------- The Bank's deposit products include noninterest-bearing demand deposits, interest-bearing demand deposits, money market and savings accounts, and time certificates of deposit. The majority of the Bank's deposits are obtained from its primary marketing area.
The distribution of average deposits and the average rates paid thereon is summarized for the periods indicated below: 2001 2000 ----------------------- ------------------- DEPOSITS. . . . . . . . . . . AVERAGE AVERAGE AVERAGE AVERAGE (in thousands). . . . . . . . BALANCE RATE BALANCE RATE ------------ --------- ----------- ----- Demand, non-interest-bearing. $ 29,624 $ 29,543 Demand, interest bearing. . . 3,644 1.0% 3,433 1.0% Money market and savings. . . 31,377 2.9% 28,201 3.9% Time certificates of deposit. 22,650 4.9% 17,317 5.7% ------------ --------- Total Deposits . . . $ 87,295 2.4% $ 78,494 2.7%
The following is a maturity schedule of time certificates of deposit of $100,000 or more at the end of the past two years: TIME CERTIFICATES OF DEPOSIT December 31, (in thousands) . . . . . . . . . . . . 2001 2000 ------- ------- Three months or less . . . . . . . . . $ 7,063 $ 5,538 Over three months through six months . 5,043 4,746 Over six months through twelve months. 1,005 2,191 Over twelve months . . . . . . . . . . - - ------- ------- Total. . . . . . . . . . . . . $13,111 $12,475
The Bank had no brokered deposits at December 31, 2001 and 2000. SELECTED FINANCIAL RATIOS ---------------------------
The following table sets forth the ratios of net loss to average assets and to average shareholders' equity, and the ratio of average shareholders' equity to average assets. 2001 2000 Return on average assets . . . . . . . . . . . . 1.05% 1.24% Return on average shareholders' equity . . . . . 9.39% 11.5% Average shareholders' equity to average assets . 11.2% 10.9% Shareholders' equity to total assets at year end 11.5% 11.3%
ITEM 2. PROPERTIES -------------------- The Bank leases 14,900 square feet of office space and 5,600 square feet of retail banking space at 11150 West Olympic Boulevard, Los Angeles, California under a noncancelable operating lease, which expires on August 31, 2002 and has a five-year renewal option that is currently being negotiated with the landlord. The Bank also leases 702 feet of office space at 21241 Ventura Boulevard, Woodland Hills, California, which expires on February 28, 2003. The leases provide for annual rental payments of approximately $411,000 during 2002 and $16,000 in 2003 In addition, the Bank pays its proportionate share of increases in common operating expenses. ITEM 3. LEGAL PROCEEDINGS ---------------------------- The Company and the Bank are subject to pending or threatened legal actions which arise in the normal course of business. Based on current information, management is of the opinion that the disposition of all suits will not have a material effect on the Company's consolidated financial statements. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS --------------------------------------------------------------------- No matters were submitted to shareholders during the fourth quarter of 2001. PART II ------- ITEM 5. MARKET FOR THE REGISTRANT'S COMMON SHARES AND RELATED SHAREHOLDER -------------------------------------------------------------------------------- MATTERS ------- The Bancorp's common shares are traded on the OTCBB under the symbol MARB. The high and low market prices for each quarterly period ended December 31, 2000 and 1999 ranged as follows:
By Quarter 1st 2nd 3rd 4th-2001 1st 2nd 3rd 4th-2000 ---------- --- --- --- -------- --- --- --- -------- Price High 3.25 3.10 4.75 4.73 3.00 3.00 3.31 3.38 Low 2.97 2.90 3.57 3.60 2.50 2.50 2.63 3.13
Principal market makers at December 31, 2001: Hill Thompson Magid, L.P. Hoefer & Arnett, Incorporated Investec Ernst & Company Knight Securities, Inc Sutro & Co., Incorporated. Wedbush Morgan Securities The Transfer Agent and Registrar is U.S. Stock Transfer Corporation, Glendale, California At December 31, 2001 there were approximately 271 holders of record of the Company's common shares. ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION --------------------------------------------------------------------------- AND RESULTS OF OPERATIONS ---------------------------- FINANCIAL HIGHLIGHTS OVERVIEW The Company continued to perform well even during a year of economic recession. Pre-tax earnings for the year grew to $1,066,000 a 7.5% over the $992,000 earned in 2000. Net income after taxes was $1,047,000 for 2001 compared to $1,104,000 for 2000. The Company became taxable for state tax in the fourth quarter of 2001. Basic and diluted per share earnings were $0.27 for the year 2001 versus $0.29 for the year 2000. Return on average assets for the year-ended December 31 2001 was 1.05% and return on average equity was 9.39% for the same period. Assets totaled $102,339,000 at December 31, 2001 compared to $92,916,000 at December 31, 2001, an increase of 10.1%. Loans increased from $52,872,000 at December 31, 2000 to $60,988,000 at year-end 2001. Book value per share rose to $3.06 at December 31, 2001 and increase of 12.1% over the $2.73 at December 31, 2000. RESULTS OF OPERATIONS NET INTEREST INCOME Net interest income increased for the year-ended December 31, 2001 by $235,000 or 5.2%. This increase was noteworthy in that it occurred in a year of falling interest rates. The Company managed its interest rate risk well in a year that saw the Federal Reserve Bank reduce its fed funds target rate by 4.75% and the prime lending rate decreased a like amount. Net interest earned in 2001 was 5.3% compared to 5.8% for year-end 2000. Interest income increased $117,000 or 1.7% for the year-ended December 31, 2001 compared to year-end 2000. Interest and fees on loans and interest earned on the investment portfolio increased while interest on fed funds decreased. Interest and fees on loans rose due to the increase in the volume of loans that offset interest declines do to the falling prime rate, which declined from 9.5% to 4.75% during 2001. Loan interest income generated from the increase in volume was $580,000, while income declined $468,000 from the decline in rates. Interest income from the investment portfolio also increased from volume and from the Company lengthening maturities during 2000 to take advantage of higher yields. Interest expense, which is generated almost entirely from interest paid on deposits, declined by $63,000 or 3.0%. Interest expense declined while the volume of interest-bearing deposits increased by 29.6%. Interest costs increased by $430,000 from the change in volume of interest-bearing deposits while declining interest rates reduced costs by $493,000. Other interest expense was generated by short-term Federal Home Loan Bank borrowings. NONINTEREST INCOME Noninterest income generated for the year-ended December 31, 2001 increased a substantial $153,000 or 27.5%. Service charges and fees on deposits was the main item generating the increase. Analysis charges on our business accounts increased due to the lower earnings credit applied to noninterest-bearing demand deposits maintained that is used to offset service charges. The analysis charges tend to increase when rates fall and decrease as rates rise. Both other noninterest income generated from fees and the dividends on the cash value of our bank owned life insurance policies increased as well. NONINTEREST EXPENSE Noninterest expense increased $313,000 for the year-ended December 31, 2001 compared to the year-end 2000. Human resource costs increased due to increased employee benefit costs and reduced FASB91 salary credits. Salary expense alone increased by only $22,000 in the year 2001. Occupancy expenses increased due to increased maintenance expense on our lease. Professional services, stationery and supplies, and other expense increased $32,000 in total. Legal fees and costs increased by $203,000 due mainly to three loan related lawsuits. The insurance deductible has been met on these lawsuits and there will be substantial defense cost coverage in 2002 that will decrease the legal fees on these cases. The Company does not anticipate any losses in regards to these cases which should settle in the first half of 2002. The Company renegotiated its data processing contract during 2001 and decreased its costs as well as not having any of the costs for the year 2000 changeover in 2001. Furniture and Equipment, customer related expense and insurance costs declined from those reported for 2000. CREDIT RISK MANAGEMENT Credit risk is an intrinsic part of commercial banking. The Company has credit policies designed to manage and regulate credit risk and to minimize the level of losses incurred. Our policies helped to protect us during the recession that we experienced in 2001. Credit policies require the extensive evaluation of new credit requests and continuing review of existing credits in order to identify, monitor and quantify evidence of deterioration of quality or potential loss in a timely manner. Credit review is done both by management and an outside third-party credit review firm. Reviews of current economic conditions, previous loan loss experience, composition of the portfolio, industry trends and many other relative factors are used in determining the allowance for credit losses. Nonperforming loans, which consist of loans past due over 90 days plus loans on nonaccrual, totaled $1,151,000, which represents 1.9% of total loans outstanding at December 31, 2001 versus $1,000,000 or 1.9% of outstanding loans at year-end 2000. Loans classified by the Bank as doubtful or substandard at year-end 2001 equaled $1,410,000 versus $2,172,000 at year-end 2000 a reduction of 35%. The allowance for credit losses, that buffers the credit risk in the lending process, is decreased by the amount of loans charged off and is increased by the provision for credit losses charged against income and by recoveries. There is no precise method of predicting which loans may ultimately be charged off; and the conclusion that a loan may become uncollectable, in whole or in part, is a matter of judgement. Similarly, the adequacy of the allowance and accompanying provision for credit losses can be determined only on a judgmental basis after full review, including consideration of economic conditions and their effects on specific borrowers, the borrowers' financial data, and evaluation of any underlying collateral enhancing the credit. Taking into consideration our assessment of the quality of the loan portfolio, and the other factors previously discussed along with the current weak economy and increased loan volume prompted the company to slowly increase the reserve for credit losses. A provision of $45,000 was made in 2001 and the reserve increased from net recoveries for the year. There was a provision of $100,000 in 2000. Loans totaling $66,000 were charged off during the year, and $37,000 was recovered increasing the reserve for credit losses to $1,082,000. The reserve at December 31, 2001 was 1.8% of gross loans compared to 2.0% of gross loans outstanding at December 31, 2000. ASSETS AND LIABILITIES Marathon Bancorp's asset growth for the year was a healthy 10.1%, increasing year-end asset from $92,916,000 at year-end 2000 to $102,339,000 at year-end 2001. Average assets increased to $99,276,000 for the year 2001 compared to $88,836,000 for 2000. The Company reduced the cash and cash equivalents and increased the earnings assets. The loan portfolio grew by $8,116,000 or 15.3% spread mostly between commercial and industrial loans and real estate construction. The investment portfolio was increased from $24.5 million to $29.3 million to increase the yield on earning assets. More securities were classified as available for sale to support increased future loan growth and for liquidity since we decreased our investment in low yielding high liquidity fed funds. The lease for our headquarters and main office expires in August of 2002 and contains an option to renew. We will be exploring the different options available to us with other buildings in the area as well as negotiating the terms of the option on our exiting space. We also will continue to maintain our loan production office in Woodland Hills and look to expand that facility into a branch in the future. Deposit growth was also good for the year 2001 increasing total deposits to $89,648,000 at year-end 2001. This was an increase of $9,763,000 or 12.2% over year-end 2000. The deposit sector that showed the most increase was money market deposits, which rose $10,988,000 or 40.3% from December 31, 2000. The weakening stock market and lower interest rates on certificates of deposit prompted customers to park more money in liquid money market funds. LIQUIDITY AND CAPITAL ASSET/LIABILITY MANAGEMENT The Company's Asset/Liability Committee is responsible for managing the risks associated with changing interest rates and their impact on earnings and on shareholders' equity. Management uses three different measurement processes to quantify and measure its interest rate risk: gap analysis, net interest income simulation and present value of equity analysis. Gap analysis measures interest rate risk in terms of the mismatch between the stated repricing and maturities of the Company's earning assets and liabilities within defined time frames. Net interest income simulation measures the change in income from drops or increases in interest rates in the market place and the present value of equity is used to provide information on the price sensitivity of shareholders' equity to changes in interest rates. In order to appropriately reflect the repricing structure of the Company's balance sheet, management has made certain adjustments to the balances reflected in the following table to account for the behavioral characteristics of certain core deposits that do not have specified contractual maturities (i.e., checking with interest, savings, money markets). In addition, the investment portfolio is shown as repricing at specified call date, if applicable, and not maturity date. The cumulative one-year gap position shown in the following interest rate sensitivity table reflects asset sensitivity of $5 million or 5% of earning assets at year-end. This is a large decrease in asset sensitivity from the year 2000 and helped the Company to better weather the rate declines that we had in 2001. Asset sensitivity is normally advantageous to us when rates are increasing as that increase in interest rates would likely cause earnings to increase because a larger portion of assets than liabilities would reprice. A decrease in rates would decrease earnings. We decreased the asset sensitivity to better match the portfolios to the declining rate market in 2001. Loans and deposits that can immediately adjust either contractually or because they are tied to the prime rate or other indexes, which can change at any time, are included in the zero to three-month category. The remaining assets and liabilities are categorized by either the next time the asset or liability may be repriced or the maturity date, whichever is sooner. The Company does not use off-balance sheet interest rate instruments to hedge interest rate risk, but does employ interest rate floors on adjustable rate loans. The floors help to mitigate the loss of net interest income in a declining rate environment. CAPITAL The federal banking agencies require a minimum ratio of qualifying total capital to risk-adjusted assets of 8% and minimum ratio of Tier I capital to risk-adjusted assets of 4%. In addition to the risk based guidelines, federal banking regulators require banking organizations to maintain a minimum amount of Tier I capital to total assets, referred to as the leverage ratio. The Company and bank meet all regulatory guidelines and the bank is considered "well capitalized" under the regulations. The Company increased capital to $11,792,000 at year-end 2001, which was a 12.8% improvement over 2000. The capital was increased from the retained earnings generated and an improvement in the unrealized value of investment securities available for sale. The bank's total risk-based capital to asset ratio at year-end was 15.2% and the Tier I leverage ratio was 10.7%. A further analysis of the capital position is covered in Note K. INTEREST RATE SENSITIVITY
>0-3 4-6 7-12 1-5 >5 (In thousands) . . . . . . Months Months Months Years Years Total -------------------------- ------ ------ ------ ------- ------- ------- Assets Securities $ 2,747 $1,307 $5,225 $17,348 $ 2,504 $29,130 Fed funds sold 2,905 - - - - 2,905 Loans 51,642 1,538 1,371 6,472 908 61,932 -------------------------- ------- ------ ------ ------- ------- ------- TOTAL EARNING ASSETS $57,294 $2,845 $6,596 $23,820 $ 3,412 $93,967 Sources 1,123 - - - - 1,123 Checking with interest 3,504 - - - - 3,504 Money market 37,088 - - - - 37,088 Time CD's 10,503 6,821 2,578 172 - 20,074 Demand deposits - - - 27,859 27,859 FHLB borrowing - - - - - - ------- ------ ------ ------- ------- ------- TOTAL SOURCES $52,218 $6,821 $2,578 $ 172 $27,859 $89,648 Cumulative Gap $ 5,076 $1,100 $5,118 $28,766 $ 4,319 Gap as a percent of total earning assets 5.0 1.1 5.0 28.1 4.2
25 51 LIQUIDITY MANAGEMENT Liquidity management is used to maintain cash flow sufficient to both meet the needs of depositors and borrowers and to fund ongoing operations. We continue to have a relatively stable base of core deposits that provide the Company with a low-cost source of stable funds. Deposits are monitored closely, especially the largest relationships, to correctly gauge balance fluctuations. Loan funding needs are also closely watched so that sufficient funds are available for borrowers. The statement of cash flows shows the Company generated cash from operating activities of $1,152,000 and $8,001,000 was from financing activities. The cash generated was used mainly to fund the increased loan portfolio and an increase in the investment portfolio. Cash and cash equivalents decreased $3,744,000 for the year. Liquidity remains adequate for the Company's needs and gives the Company the ability to deal with any deposit fluctuations as well as providing funds for increasing the loan portfolio. The Bank has pre-approval to purchase fed funds with two correspondent banks and the ability to borrow at both the Federal Reserve Bank and Federal Home Loan Bank to supplement liquidity if needed. ------ ITEM 7. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA ---------------------------------------------------------
CONSOLIDATED BALANCE SHEET December 31, ----------------- ASSETS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2001 ----------------- Cash and Due From Banks. . . . . . . . . . . . . . . . . . . . . $ 4,291,000 Federal Funds Sold . . . . . . . . . . . . . . . . . . . . . . . 2,905,000 ----------------- TOTAL CASH AND CASH EQUIVALENTS. . . . . . . . . . . . . 7,196,000 Investment Securities: Securities Available for Sale . . . . . . . . . . . . . . . . 16,368,000 Securities Held to Maturity . . . . . . . . . . . . . . . . . 12,918,000 ----------------- TOTAL INVESTMENT SECURITIES. . . . . . . . . . . . . . . 29,286,000 Federal Home Loan and Federal Reserve Bank stock, at cost. . . . 426,000 Loans. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 60,988,000 Less Allowance for Credit Losses. . . . . . . . . . . . . . . ( 1,082,000) ----------------- NET LOANS. . . . . . . . . . . . . . . . . . . . . . . . 59,906,000 Premises and Equipment . . . . . . . . . . . . . . . . . . . . . 231,000 Cash Surrender Value of Life Insurance . . . . . . . . . . . . . 3,855,000 Accrued Interest and Other Assets. . . . . . . . . . . . . . . . 1,439,000 ----------------- TOTAL ASSETS . . . . . . . . . . . . . . . . . . . . . . $ 102,339,000 ================= LIABILITIES AND SHAREHOLDERS' EQUITY Deposits: Noninterest-Bearing Demand. . . . . . . . . . . . . . . . . . $ 27,859,000 Interest-Bearing Demand . . . . . . . . . . . . . . . . . . . 3,504,000 Money Market and Savings. . . . . . . . . . . . . . . . . . . 38,211,000 Time Deposits Under $100,000. . . . . . . . . . . . . . . . . 6,963,000 Time Deposits $100,000 and Over . . . . . . . . . . . . . . . 13,111,000 ----------------- TOTAL DEPOSITS . . . . . . . . . . . . . . . . . . . . . 89,648,000 Accrued Interest and Other Liabilities . . . . . . . . . . . . . 899,000 Federal Home Loan Bank Advance . . . . . . . . . . . . . . . . . - ----------------- TOTAL LIABILITIES. . . . . . . . . . . . . . . . . . . . 90,547,000 Commitments and Contingencies - Note D and H Shareholders' Equity Preferred Shares - No Par Value, 1,000,000 Shares Authorized, No Shares Issued and Outstanding Common Shares - No Par Value, 9,000,000 Shares Authorized, 3,852,819 Shares Issued and Outstanding . . . . . . . . . 13,713,000 Accumulated Deficit . . . . . . . . . . . . . . . . . . . . . ( 2,168,000) Accumulated Other Comprehensive Income - Net Unrealized Gains on Available-for-Sale Securities . . . . . . . . . . 247,000 ----------------- TOTAL SHAREHOLDERS' EQUITY . . . . . . . . . . . . . . . 11,792,000 ----------------- TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY . . . . . . . $ 102,339,000 =================
See accompanying notes to consolidated financial statements. See accompanying notes to consolidated financial statements.
CONSOLIDATED STATEMENTS OF INCOME Year Ended December 31, ---------------------------------------- 2001 2000 ------------------------ -------------- INTEREST INCOME Interest and Fees on Loans . . . . . . . . . . . . . $ 5,152,000 $ 5,040,000 Interest on Investment Securities. . . . . . . . . . 1,476,000 1,362,000 Other Interest Income. . . . . . . . . . . . . . . . 249,000 358,000 ------------------------ -------------- TOTAL INTEREST INCOME. . . . . . . . . . . . . . 6,877,000 6,760,000 INTEREST EXPENSE Interest on Demand Deposits. . . . . . . . . . . . . 35,000 33,000 Interest on Money Market and Savings . . . . . . . . 913,000 1,100,000 Interest on Time Deposits. . . . . . . . . . . . . . 1,108,000 986,000 Other Interest Expense . . . . . . . . . . . . . . . 2,000 3,000 ------------------------ -------------- TOTAL INTEREST EXPENSE . . . . . . . . . . . . . 2,058,000 2,122,000 ------------------------ -------------- NET INTEREST INCOME. . . . . . . . . . . . . . . . . . . 4,819,000 4,638,000 Provision for Credit Losses. . . . . . . . . . . . . . . 45,000 100,000 ------------------------ -------------- NET INTEREST INCOME AFTER PROVISION FOR CREDIT LOSSES . . . . . . . . . 4,774,000 4,538,000 ------------------------ -------------- NONINTEREST INCOME Service Charges and Fees on Deposits . . . . . . . . 386,000 267,000 Dividends on Cash Surrender Value of Life Insurance. 214,000 198,000 Other Noninterest Income . . . . . . . . . . . . . . 108,000 92,000 ------------------------ -------------- TOTAL NONINTEREST INCOME . . . . . . . . . . . . 708,000 557,000 ------------------------ -------------- NONINTEREST EXPENSE Salaries and Employee Benefits . . . . . . . . . . . 2,228,000 2,095,000 Occupancy Expenses . . . . . . . . . . . . . . . . . 575,000 559,000 Furniture and Equipment. . . . . . . . . . . . . . . 89,000 102,000 Professional Services. . . . . . . . . . . . . . . . 109,000 89,000 Business Promotion . . . . . . . . . . . . . . . . . 61,000 58,000 Stationery and Supplies. . . . . . . . . . . . . . . 51,000 45,000 Data Processing Services . . . . . . . . . . . . . . 272,000 294,000 Customer Related Expenses. . . . . . . . . . . . . . 286,000 320,000 Insurance and Assessments. . . . . . . . . . . . . . 151,000 154,000 Legal Fees and Costs . . . . . . . . . . . . . . . . 317,000 114,000 Other Expenses . . . . . . . . . . . . . . . . . . . 277,000 273,000 ------------------------ -------------- TOTAL NONINTEREST EXPENSE. . . . . . . . . . . . 4,416,000 4,103,000 ------------------------ -------------- INCOME BEFORE INCOME TAXES . . . . . . . . . . . . . . . 1,066,000 992,000 Income Taxes Expense (Benefit) . . . . . . . . . . . . . 19,000 ( 112,000) ------------------------ -------------- NET INCOME . . . . . . . . . . . . . . . . . . . $ 1,047,000 $ 1,104,000 ======================== ============== Per Share Data: Net Income - Basic. . . . . . . . . . . . . . . $ 0.27 $ 0.29 Net Income - Diluted. . . . . . . . . . . . . . $ 0.27 $ 0.29
See accompanying notes to consolidated financial statements.
CONSOLIDATED STATEMENTS OF CASH FLOWS Year Ended December, 31 2001 2000 ------------------ ------------------ OPERATING ACTIVITIES Net Income. . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 1,047,000 $ 1,104,000 Adjustments to Reconcile Net Income to Net Cash Provided by Operating Activities: Depreciation and Amortization . . . . . . . . . . . . . . . . 116,000 122,000 Provision for Credit Losses . . . . . . . . . . . . . . . . . 45,000 100,000 Deferred Taxes. . . . . . . . . . . . . . . . . . . . . . . . ( 87,000) ( 136,000) Net Amortization of Premiums and Discounts on Investment Securities . . . . . . . . . . . . . . . . . ( 31,000) ( 28,000) Net Change in Deferred Loan Origination Fees. . . . . . . . . 153,000 59,000 Net Increase in Cash Surrender Value of Life Insurance. . . . ( 188,000) ( 173,000) Net Change in Accrued Interest, Other Assets And Other Liabilities . . . . . . . . . . . . . . . . . . 97,000 79,000 ------------------ ------------------ NET CASH PROVIDED BY OPERATING ACTIVITIES . . . . . . . . . . 1,152,000 1,127,000 INVESTING ACTIVITIES Net Change in Interest-Bearing Deposits with Financial Institutions - 100,000 Purchases of Available-for-Sale Securities . . . . . . . . . . . . ( 23,071,000) ( 12,004,000) Purchases of Held-to-Maturity Securities. . . . . . . . . . . . . . ( 6,226,000) ( 7,333,000) Proceeds from Maturities of Available-for-Sale Securities . . . . . 16,301,000 10,000,000 Proceeds from Maturities of Held-to-Maturity Securities . . . . . . 8,532,000 4,487,000 Proceeds from Sale of Available-for-Sale Securities . . . . . . . . - 2,000,000 Purchase of Federal Home Loan & Federal Reserve Bank Stock. . . . . ( 51,000) ( 24,000) Proceeds from Redemption of Federal Home Loan Bank Stock. . . . . . - 131,000 Net Change in Loans . . . . . . . . . . . . . . . . . . . . . . . . ( 8,298,000) ( 2,716,000) Purchase of Life Insurance. . . . . . . . . . . . . . . . . . . . . - ( 1,935,000) Purchases of Premises and Equipment . . . . . . . . . . . . . . . . ( 84,000) ( 60,000) ------------------ ------------------ NET CASH USED BY INVESTING ACTIVITIES. . . . . . . . . . . . . ( 12,897,000) ( 7,354,000) FINANCING ACTIVITIES Net Change in Demand Deposits, Money Market and Savings . . . . . . 8,867,000 4,200,000 Net Change in Time Deposits . . . . . . . . . . . . . . . . . . . . 896,000 4,130,000 Net Change in Federal Home Loan Bank Advance. . . . . . . . . . . . ( 1,800,000) ( 75,000) Proceeds from Exercise of Stock Options . . . . . . . . . . . . . . 38,000 21,000 ------------------ ------------------ NET CASH PROVIDED BY FINANCING ACTIVITIES. . . . . . . . . . . 8,001,000 8,276,000 ------------------ ------------------ INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS . . . . . . . . . . . ( 3,744,000) 2,049,000 Cash and Cash Equivalents at Beginning of Year . . . . . . . . . . . . 10,940,000 8,891,000 ------------------ ------------------ CASH AND CASH EQUIVALENTS AT END OF YEAR . . . . . . . . . . . . . . . $ 7,196,000 $ 10,940,000 ================== ================== SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: Interest Paid . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 2,067,000 $ 1,985,000 Income Taxes Paid . . . . . . . . . . . . . . . . . . . . . . . . . $ 107,000 $ 21,000
See accompanying notes to consolidated financial statements.
CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY Accumulated Other Common Shares Comprehensive Accumulated Comprehensive Shares Amount Income Deficit Income Total -------------- -------------- -------------- ---------------- -------------- ----------- BALANCE, JANUARY 1, 2000 . 3,830,019 $ 13,654,000 $( 4,319,000) $ ( 199,000) $ 9,136,000 Exercise of Stock Options. 8,000 21,000 21,000 COMPREHENSIVE INCOME: Net Income . . . . . . . $ 1,104,000 1,104,000 1,104,000 Net Gain in Unrealized on Available-for-Sale Securities . . . . . . 194,000 194,000 194,000 -------------- TOTAL COMPREHENSIVE INCOME $ 1,298,000 ============== BALANCE, DECEMBER 31, 2000 3,838,019 13,675,000 ( 3,215,000) ( 5,000) 10,455,000 Exercise of Stock Options. 14,800 38,000 38,000 COMPREHENSIVE INCOME: Net Income . . . . . . . $ 1,047,000 1,047,000 1,047,000 Net Gain in Unrealized on Available-for-Sale Securities . . . . . . 252,000 252,000 252,000 -------------- TOTAL COMPREHENSIVE INCOME $ 1,299,000 ============== -------------- -------------- -------------- ---------------- ----------- BALANCE, DECEMBER 31, 2001 3,852,819 $ 13,713,000 $( 2,168,000) $ 247,000 $11,792,000 ============== ============== ============== ================ ===========
See accompanying notes to consolidated financial statements. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Basis of Presentation ----------------------- The accounting and reporting policies of Marathon Bancorp (the Company) and its wholly owned subsidiary, Marathon National Bank (the Bank), are in accordance with generally accepted accounting principles and conform to practices within the banking industry. Principles of Consolidation ----------------------------- The consolidated financial statements include the accounts of the Company and the Bank, after elimination of all material intercompany transactions and balances. Nature of Operations ---------------------- The Bank has been organized as a single reporting segment and operates a branch office, a loan production office and corporate headquarters located in the west side of the City of Los Angeles. The Bank offers a wide range of commercial banking services primarily to professionals and small to medium size companies located throughout the greater Los Angeles area. 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. Cash and Cash Equivalents ---------------------------- For purposes of reporting cash flows, cash and cash equivalents include cash, due from banks and federal funds sold. Generally, federal funds are sold for one day periods. Cash and Due From Banks --------------------------- Banking regulations require that all banks maintain a percentage of their deposits as reserves in cash or on deposit with the Federal Reserve Bank. The Bank complied with the reserve requirements as of December 31, 2001. The Bank maintains amounts due from banks which exceed federally insured limits. The Company has not experienced any losses in such accounts. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - CONTINUED Investment Securities ---------------------- Bonds, notes, and debentures for which the Bank has the positive intent and ability to hold to maturity are reported at cost, adjusted for premiums and discounts that are recognized in interest income using the interest method over the period to maturity. Investments not classified as trading securities nor as held to maturity securities are classified as available-for-sale securities and recorded at fair value. Unrealized gains or losses on available-for-sale securities are excluded from net income and reported as an amount net of taxes as a separate component of other comprehensive income included in shareholders' equity. Premiums or discounts on held-to-maturity and available-for-sale securities are amortized or accreted into income using the interest method. Realized gains or losses on sales of held-to-maturity or available-for-sale securities are recorded using the specific identification method. Loans ----- Loans receivable that management has the intent and ability to hold for the foreseeable future or until maturity or payoff are reported at their outstanding unpaid principal balances reduced by any charge-offs or specific valuation accounts and net of any deferred fees or costs on originated loans, or unamortized premiums or discounts on purchased loans. Loan origination fees and certain direct origination costs are capitalized and recognized as an adjustment of the yield of the related loan. Loans on which the accrual of interest has been discontinued are designated as nonaccrual loans. The accrual of interest on loans is discontinued when principal or interest is past due 90 days or when, in the opinion of management, there is reasonable doubt as to collectibility. When loans are placed on nonaccrual status, all interest previously accrued but not collected is reversed against current period interest income. Income on nonaccrual loans is subsequently recognized only to the extent that cash is received and the loan's principal balance is deemed collectible. Interest accruals are resumed on such loans only when they are brought current with respect to interest and principal and when, in the judgment of management, the loans are estimated to be fully collectible as to all principal and interest. The Bank considers a loan to be impaired when it is probable that the Bank will be unable to collect all amounts due (principal and interest) according to the contractual terms of the loan agreement. Measurement of impairment is based on the expected future cash flows of an impaired loan which are to be discounted at the loan's effective interest rate, or measured by reference to an observable market value, if one exists, or the fair value of the collateral for a collateral-dependent loan. The Bank selects the measurement method on a loan-by-loan basis except that collateral-dependent loans for which foreclosure is probable are measured at the fair value of the collateral. The Bank recognizes interest income on impaired loans based on its existing methods of recognizing interest income on nonaccrual loans. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - CONTINUED Allowance for Credit Losses ------------------------------ The allowance for credit losses is increased by charges to income and decreased by charge-offs (net of recoveries). Quarterly detailed reviews are performed to identify the risks inherent in their loan portfolio, assess the overall quality of their loan portfolio and to determine the adequacy of their allowance for loan losses and the related provision for loan losses to be charged to expense. Loans identified as less than "acceptable" are reviewed individually to estimate the amount of probable losses that need to be included in the allowance. These reviews include analysis of financial information as well as evaluation of collateral securing the credit. Additionally, the Bank considers the inherent risk present in the "acceptable" portion of their loan portfolio taking into consideration historical losses on pools of similar loans, adjusted for trends, conditions and other relevant factors that may affect repayment of the loans in these pools. Premises and Equipment ------------------------ Premises and equipment are carried at cost less accumulated depreciation and amortization. Depreciation is computed using the straight-line method over the estimated useful lives, which range from three to ten years for furniture and fixtures. Leasehold improvements are amortized using the straight-line method over the estimated useful lives of the improvements or the remaining lease term, whichever is shorter. Expenditures for betterment or major repairs are capitalized and those for ordinary repairs and maintenance are charged to operations as incurred. Income Taxes ------------- Deferred income taxes are computed using the asset and liability method, which recognizes a liability or asset representing the tax effects, based on current tax law, of future deductible or taxable amounts attributable to events that have been recognized in the consolidated financial statements. A valuation allowance is established to reduce the deferred tax asset to the level at which it is "more likely than not" that the tax asset or benefits will be realized. Realization of tax benefits of deductible temporary differences and operating loss carryforwards depends on having sufficient taxable income of an appropriate character within the carryforward periods. Disclosure About Fair Value of Financial Instruments ---------------------------------------------------------- Statement of Financial Accounting Standards ("SFAS") No. 107 specifies the disclosure of the estimated fair value of financial instruments. The Bank's estimated fair value amounts have been determined by the Bank using available market information and appropriate valuation methodologies. However, considerable judgment is required to develop the estimates of fair value. Accordingly, the estimates are not necessarily indicative of the amounts the Company could have realized in a current market exchange. The use of different market assumptions and/or estimation methodologies may have a material effect on the estimated fair value amounts. Although management is not aware of any factors that would significantly affect the estimated fair value amounts, such amounts have not been comprehensively revalued for purposes of these financial statements since the balance sheet date and, therefore, current estimates of fair value may differ significantly from the amounts presented in the accompanying notes. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - CONTINUED Earnings Per Shares (EPS) ---------------------------- Basic EPS excludes dilution and is computed by dividing income available to common stockholders by the weighted-average number of common shares outstanding for the period. Diluted EPS reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock that then shared in the earnings of the entity. Stock-Based Compensation ------------------------- SFAS No. 123, "Accounting for Stock-Based Compensation," encourages, but does not require, companies to record compensation cost for stock-based employee compensation plans at fair value. The Company has chosen to continue to account for stock-based compensation using the intrinsic value method prescribed in Accounting Principles Board ("APB") Opinion No. 25, "Accounting for Stock Issued to Employees", and related interpretations. Accordingly, 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 the grant over the amount an employee must pay to acquire the stock. The pro forma effects of adoption are disclosed in Note I. Comprehensive Income --------------------- The Bank adopted SFAS No. 130, "Reporting Comprehensive Income", which requires the disclosure of comprehensive income and its components. Changes in unrealized gain (loss) on available-for-sale securities net of income taxes is the only component of accumulated other comprehensive income for the Bank for the periods ended December 31, 2000 and December 31, 2001. Current Accounting Pronouncements ----------------------------------- In June 2001, the FASB issued SFAS No. 142, "Accounting for Goodwill and Other Intangible Assets," effective starting with fiscal years beginning after December 15, 2001. This Statement establishes new accounting standards for goodwill and continues to require the recognition of goodwill as an asset but does not permit amortization of goodwill as previously required by the APB Opinion No. 17. The Statement also establishes a new method of testing goodwill for impairment. It requires goodwill to be separately tested for impairment at a reporting unit level. The amount of goodwill determined to be impaired would be expensed to current operations. Management believes that the adoption of the statement will not have a material effect on the Bank's financial statements. Reclassifications ----------------- Certain reclassifications were made to prior years' presentations to conform to the current year. These reclassifications are of a normal recurring nature. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE B - INVESTMENT SECURITIES
The following is a summary of data for the major categories of securities as of December 31, 2001: Gross Gross Estimated Amortized Unrealized Unrealized Fair Cost Gains Losses Value ----------- ----------- --------------- ----------- AVAILABLE-FOR-SALE SECURITIES: DECEMBER 31, 2001: U.S. Government and Agency Securities $ 8,985,000 $ 134,000 $ ( 13,000) $ 9,106,000 Corporate Bonds and Commercial Paper. 4,296,000 140,000 - 4,436,000 Municipal Securities - Taxable. . . . 501,000 - ( 1,000) 500,000 Mortgage-Backed Securities. . . . . . 2,333,000 6,000 ( 13,000) 2,326,000 ----------- ----------- --------------- ----------- $16,115,000 $ 280,000 $ ( 27,000) $16,368,000 =========== =========== =============== =========== HELD-TO-MATURITY SECURITIES: DECEMBER 31, 2001: U. S. Treasury Securities . . . . . . $ 500,000 $ 12,000 $ - $ 512,000 U.S. Government and Agency Securities 1,483,000 87,000 - 1,570,000 Municipal Securities - Taxable. . . . 5,383,000 96,000 ( 26,000) 5,453,000 Mortgage-Backed Securities. . . . . . 5,552,000 118,000 ( 16,000) 5,654,000 ----------- ----------- --------------- ----------- $12,918,000 $ 301,000 $ ( 42,000) $13,189,000 =========== =========== =============== ===========
Investment securities carried at approximately $6,025,000 at December 31, 2001 were pledged to secure public deposits and other purposes as required by law. The actual maturity of mortgage-backed securities may differ from contractual maturities because borrowers may have the right to prepay such obligations without penalty. There were no sales of securities in 2001.
The scheduled maturities of securities held to maturity and securities available for sale at December 31, 2001, were as follows: Available-for-Sale Securities: Held-to-Maturity Securities: ------------------------------- ----------------------------- Amortized Amortized Cost Fair Value Cost Fair Value ------------------------------- ----------------------------- ----------- ----------- Due in One Year or Less . . . . $ - $ - $ 500,000 $ 512,000 Due From One Year to Five Years 13,782,000 14,042,000 6,866,000 7,023,000 Mortgage-Backed Securities. . . 2,333,000 2,326,000 5,552,000 5,654,000 ------------------------------- ----------------------------- ----------- ----------- $ 16,115,000 $ 16,368,000 $12,918,000 $13,189,000 =============================== ============================= =========== ===========
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE C - LOANS The Bank's loan portfolio consists primarily of loans to borrowers within the Los Angeles Area of Southern California. Although the Bank seeks to avoid concentrations of loans to a single industry or based upon a single class of collateral, real estate and real estate associated businesses are among the principal industries in the Bank's market area and, as a result, the Bank's loan and collateral portfolios are to some degree concentrated in those industries.
The following is a summary of the components of loans at December 31, 2001: 2001 ------------- Commercial Loans . . . . . $ 27,723,000 Real Estate - Construction 14,577,000 Real Estate - Other. . . . 18,479,000 Consumer . . . . . . . . . 359,000 ------------- 61,138,000 Net Deferred Loan Costs. . ( 150,000) ------------- $ 60,988,000 =============
The following is a summary of the investment in impaired loans, the related allowance for credit losses, and income recognized thereon as of December 31: 2001 2000 ---------- ------ Recorded Investment in Impaired Loans . . . . $1,151,000 $ - ========== ====== Related Allowance for Credit Losses . . . . . $ 105,000 $ - ========== ====== Average Recorded Investment in Impaired Loans $1,068,000 $1,000 ========== ====== Interest Income Recognized from Cash Payments $ - $ - ========== ======
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE C - LOANS - CONTINUED
A summary of changes in the allowance for credit losses follows: 2001 2000 -------------- ------------- Balance, January 1. . . . . $ 1,066,000 $ 853,000 Provision for Credit Losses 45,000 100,000 Loans Charged Off . . . . . ( 66,000) ( 108,000) Recoveries. . . . . . . . . 37,000 221,000 -------------- ------------- Balance, December 31. . . . $ 1,082,000 $ 1,066,000 ============== =============
NOTE D - PREMISES AND EQUIPMENT
The following is a summary of the major components of premises and equipment at December 31, 2001: 2001 ------------- Furniture, Fixtures and Equipment. . . . . . . $ 1,579,000 Leasehold Improvements . . . . . . . . . . . . 480,000 ------------- 2,059,000 Less Accumulated Depreciation and Amortization ( 1,828,000) ------------- $ 231,000 =============
The Bank has an operating lease commitment covering its banking premises expiring in 2002 that contains a provision to extend the lease. The minimum rental commitment under this operating lease is $349,000. Rent expense was $541,000 and $542,000 for the years ended December 31, 2001 and 2000, respectively. Sublease rental income was $101,000 and $95,000 in 2001 and 2000, respectively. NOTE E - DEPOSITS
At December 31, 2001, the scheduled maturities of certificates of deposit are as follows: 2002 . . . . . . . $19,901,000 2003 through 2005. 173,000 ----------- 20,074,000 ==================
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE F - INCOME TAXES
The income tax provision (benefit) for the years ended December 31, 2001 and 2000 is comprised of the following: 2001 2000 ------------- ------------- Current Taxes: Federal. . . . . . . . . . . . $ 17,000 $ 18,000 State. . . . . . . . . . . . . 89,000 6,000 ------------- ------------- 106,000 24,000 Deferred. . . . . . . . . . . . . 269,000 321,000 Net Change in Valuation Allowance ( 356,000) ( 457,000) ------------- ------------- $ 19,000 $( 112,000) ============= =============
At December 31, 2001, the Company had net operating loss carryforwards for federal income tax purposes of approximately $1,289,000, which expire beginning in the year 2008. Alternative minimum tax credit carryforwards for tax purposes, which do not expire, is $173,000 as of December 31, 2001.
At December 31, 2001, the components of the net deferred tax asset are comprised of the following: 2001 --------------- Deferred Tax Assets: Allowance for Credit Losses Due to Tax Limitations. . $ 431,000 Net Operating Loss and Tax Credit Carryforwards . . . 594,000 Premises and Equipment Due to Depreciation Difference 103,000 Other Items . . . . . . . . . . . . . . . . . . . . . 258,000 --------------- 1,386,000 Valuation Allowance . . . . . . . . . . . . . . . . . . . ( 785,000) Deferred Tax Liabilities: Other Items . . . . . . . . . . . . . . . . . . . . . ( 5,000) --------------- ( 5,000) --------------- Net Deferred Assets . . . . . . . . . . . . . . . . . . . $ 596,000 ===============
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE G - INCOME TAXES - CONTINUED
The principal reasons for the difference between the federal statutory income tax rate of 34% in 2001 and 2000, and income tax expense (benefit) for the years ended December 31, 2001 and 2000 are as follows: 2001 2000 -------------- -------------- Tax Expense at Statutory Rate . . . . . . . . . $ 362,000 $ 337,000 State Franchise Tax Net of Federal Tax Benefit. 64,000 60,000 Reduction of Valuation Allowance. . . . . . . . ( 356,000) ( 457,000) Expired State Net Operating Losses. . . . . . . - - Other, Net. . . . . . . . . . . . . . . . . . . ( 51,000) ( 52,000) -------------- -------------- Tax Expense (Benefit) . . . . . . . . . . . . . $ 19,000 $ ( 112,000) ============== ==============
NOTE G - EARNINGS PER SHARE (EPS)
The following is a reconciliation of net income and shares outstanding to the income and number of shares used to compute EPS: 2001 2000 ---------------------- --------------------- Income . . Shares Income Shares ---------------------- ---------- --------- Net Income as Reported . . . . $1,047,000 $1,104,000 Weighted Average Shares Outstanding During the Year 3,849,287 3,836,588 ---------- ---------- ---------- --------- USED IN BASIC EPS. . . . 1,047,000 3,849,287 1,104,000 3,836,588 Dilutive Effect of Outstanding Stock Options . . . . . . . - 31,695 - - ---------- ---------- ---------- --------- USED IN DILUTIVE EPS . . $1,047,000 3,880,982 $1,104,000 3,836,588 ========== ========== ========== =========
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE H - COMMITMENTS AND CONTINGENCIES The Company and the Bank are subject to pending or threatened legal actions that arise in the normal course of business. Based on current information, management is of the opinion that the disposition of all litigation will not have a material effect on the Company's consolidated financial statements. In the normal course of business, the Bank is a party to financial instruments with off balance sheet risk, which are intended to meet the financing needs of its customers. These financial instruments include commitments to extend credit and letters of credit, which are not reflected in the consolidated financial statements. These instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amounts recognized in the consolidated financial statements. The Bank's exposure to credit loss commitments to extend credit and letters of credit is represented by the contractual or notional amount of those instruments.
The following is a summary of contractual or notional amounts of financial instruments with off balance sheet risk as of December 31, 2001. 2001 ----------- Commitments to Extend Credit $34,983,000 Letters of Credit. . . . . . 990,000 ----------- $35,973,000 ===========
Commitments to extend credit are agreements to lend 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 may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The Bank uses the same credit policies in making off balance sheet commitments and conditional obligations as it does for balance sheet instruments. The Bank evaluated each customer's creditworthiness on a case by case basis. The amount of collateral obtained, if deemed necessary by the Bank upon extension of credit, is based on management's credit evaluation. The collateral held varies, but may include accounts receivable, inventory, property, plant and equipment, and income producing commercial and residential properties. The Bank has entered into deferred compensation agreements with key officers providing for future benefits aggregating approximately $3,000,000 payable in equal monthly installments for ten years from the retirement dates of each participating officer. The estimated present value of future benefits to be paid is being accrued over the period from the effective date of the agreements until the expected retirement dates of the participants. As of December 31, 2001, approximately $451,000 has been accrued in conjunction with these agreements. The expense incurred and accrued was $169,000 and $149,000, for the years ended December 31, 2001 and 2000,, respectively. The Bank is the beneficiary of life insurance policies that have been purchased as a method of financing the benefits under the agreements. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE I - STOCK OPTION PLAN
The Company has stock option plans which authorize the issuance of up to 700,000 shares of the Company's unissued common shares to officers, directors and other key personnel. Option prices shall be equal to the fair market value at the date of grant. Options granted under the stock option plan expire not more than ten years after the date of grant and must be fully paid when exercised. Set forth below is the status of options granted, giving retroactive effect to stock dividends declared, if any: 2001 2000 ----------- ------- Weighted Weighted Average Average Exercise Exercise Shares Price Shares Price ----------- ------- ---------- ------ Outstanding at Beginning of Year . 469,553 $ 3.54 476,896 $ 3.63 Granted. . . . . . . . . . . . . . 37,000 $ 3.13 18,958 $ 3.02 Exercised. . . . . . . . . . . . . ( 14,800) $ 2.61 ( 8,000) $ 2.66 Forfeited. . . . . . . . . . . . . ( 4,000) $ 3.79 ( 18,301) $ 6.31 ----------- ---------- Outstanding at End of Year . . . . 487,753 $ 3.54 469,553 $ 3.54 =========== ========== Weighted-Average Fair Value of Options Granted During the Year $ 1.72 $ 1.74
The fair value of each option grant was estimated on the date of grant using the Black-Scholes option pricing model with the following weighted-average assumptions used: no dividend yield; risk-free rates of 4% for 2001 and 6% for 2000, volatility of 37% for 2001 and 34% for 2000 and expected lives of ten years.
The following table summarizes information about fixed options outstanding at December 31, 2001: Options Outstanding Options Exercisable ------------------- ------------------- Weighted- Weighted Weighted- Average Average Average Exercise Number Remaining Exercise Number Exercise Price. . . . . Outstanding Contractual Life Price Exercisable Price -------------- ------------------- ------------------- ---------- ----------- --------- 2.00 to $2.99 85,000 7.56 years $ 2.85 29,200 $ 2.85 3.00 to $3.99 375,253 6.77 years $ 3.66 194,565 $ 3.74 4.00 to $5.99 27,500 5.74 years $ 4.01 21,700 $ 4.01 ------------------- ----------- 487,753 6.85 years $ 3.54 245,465 $ 3.66 =================== ===========
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE I - STOCK OPTION PLAN - CONTINUED The Company applies APB Opinion No. 25 and related interpretations in accounting for its stock options. Accordingly, no compensation cost has been recognized for its stock option plan. Had compensation cost for the Company's stock option plan been determined based on the fair value at the grant dates for awards under the plan consistent with the method of SFAS No. 123, the Company's net income and income per share for the year ended December 31, 2001 and 2000 would have been changed to the pro forma amounts indicated below:
2001 2000 ---------- ---------- Net Income to Common Shareholders: As Reported. . . . . . . . . . . $1,047,000 $1,104,000 Pro Forma. . . . . . . . . . . . $ 886,000 $ 951,000 Per Share Data: Net Income - Basic As Reported . . . . . . . . . $ 0.27 $ 0.29 Pro Forma . . . . . . . . . . $ 0.23 $ 0.25 Net Income - Diluted As Reported . . . . . . . . . $ 0.27 $ 0.29 Pro Forma . . . . . . . . . . $ 0.23 $ 0.25
NOTE J - FAIR VALUE OF FINANCIAL INSTRUMENTS The fair value of a financial instrument is the amount at which the asset or obligation could be exchanged in a current transaction between willing parties, other than in a forced or liquidation sale. 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 entire holdings of a particular financial instrument. Because no market value exists for a significant portion of the financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments, and other factors. These estimates are subjective in nature, involve uncertainties and matters of judgment and, therefore, cannot be determined with precision. Changes in assumptions could significantly affect the estimates. Fair value estimates are based on financial instruments both on and off the balance sheet without attempting to estimate the value of anticipated future business and the value of assets and liabilities that are not considered financial instruments. Additionally, tax consequences related to the realization of the unrealized gains and losses can have a potential effect on fair value estimates and have not been considered in many of the estimates. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE J - FAIR VALUE OF FINANCIAL INSTRUMENTS - CONTINUED The following methods and assumptions were used to estimate the fair value of significant financial instruments: Financial Assets ----------------- The carrying amounts of cash, short term investments, due from customers on acceptances, and bank acceptances outstanding are considered to approximate fair value. Short term investments include federal funds sold, securities purchased under agreements to resell, and interest bearing deposits with banks. The fair values of investment securities, including available for sale, are generally based on quoted market prices. The fair value of loans are estimated using a combination of techniques, including discounting estimated future cash flows and quoted market prices of similar instruments where available. Financial Liabilities ---------------------- The carrying amounts of deposit liabilities payable on demand, commercial paper, and other borrowed funds are considered to approximate fair value. For fixed maturity deposits, fair value is estimated by discounting estimated future cash flows using currently offered rates for deposits of similar remaining maturities. The fair value of long term debt is based on rates currently available to the Bank for debt with similar terms and remaining maturities. Off Balance Sheet Financial Instruments ------------------------------------------- The fair value of commitments to extend credit and standby letters of credit is estimated using the fees currently charged to enter into similar agreements. The fair value of these financial instruments is not material.
The estimated fair value of financial instruments at December 31 is summarized as follows (dollar amounts in thousands): 2001 ----------- Carrying Value Fair Value -------------- ----------- Financial Assets: Cash and Due From Banks. . . . $ 4,291 $ 4,291 Federal Funds Sold . . . . . . $ 2,905 $ 2,905 Investment Securities. . . . . $ 29,286 $29,557 Federal Home Loan and Federal Reserve Bank Stock. . . . . $ 426 $ 426 Loans, Net . . . . . . . . . . $ 59,906 $60,476 Cash Value of Life Insurance . $ 3,855 $ 3,855 Financial Liabilities: Deposits . . . . . . . . . . . $ 89,648 $89,715 Federal Home Loan Bank Advance $ - $ -
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE K - REGULATORY MATTERS The Company and Bank are subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possible 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 Bank must meet specific capital guidelines that involve quantitative measures of the assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The 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 Bank to maintain minimum amounts and ratios (set forth in the table below) of total and Tier 1 capital (as defined in the regulations) to risk-weighted assets (as defined), and of Tier 1 capital (as defined) to average assets (as defined). Management believes, as of December 31, 2001, that the Company and Bank meet all capital adequacy requirements to which they are subject.
As of December 31, 2001, the most recent notification from the Federal Deposit Insurance Corporation categorized the Bank as well-capitalized under the regulatory framework for prompt corrective action (there are no conditions or events since that notification that management believes have changed the Bank's category). To be categorized as well-capitalized, the Bank must maintain minimum ratios as set forth in the table below. The following table also sets forth the Bank's actual capital amounts and ratios (dollar amounts in thousands): Amount of Capital Required ---------------------------------------------- To Be Categorized as To Be Categorized as Actual Adequately Capitalized Well-Capitalized --------------------------- ----------------------- -------------------- Amount Percentage Amount Percentage Amount Percentage ----------- ------------ ---------- ----------- ------- ---------- AS OF DECEMBER 31, 2001 Total Risk-Based . . $ 12,558 15.2% $ 6,628 8.0% $ 8,285 10.0% Tier 1 Risk-Based. . $ 11,522 13.9% $ 3,314 4.0% $ 4,971 6.0% Tier 1 Leverage. . . $ 11,522 10.7% $ 4,292 4.0% $ 5,365 5.0%
The Company is subject to similar requirements administered by its primary regulator, the Federal Reserve Board. For capital adequacy purposes, the Company must maintain total capital to risk-weighted assets, Tier 1 capital to risk-weighted assets and Tier 1 capital to average assets of 8.0%, 4.0% and 4.0%, respectively. Its total capital to risk-weighted assets, Tier 1 capital to risk-weighted assets and Tier 1 capital to average assets was 15.2%, 13.9%, and 10.7%, respectively, at December 31, 2001. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE L - CONDENSED FINANCIAL INFORMATION OF PARENT COMPANY ONLY
Marathon Bancorp operates Marathon National Bank. The earnings of the subsidiary are recognized on the equity method of accounting. Condensed financial statements of the parent company only are presented below: December 31, ---------------- CONDENSED BALANCE SHEETS . . . . . . . . . . . . . . . . . . 2001 ---------------- ASSETS Cash in Marathon National Bank . . . . . . . . . . . . . . . $ 5,000 Investment in Marathon National Bank . . . . . . . . . . . . 11,769,000 Other Assets . . . . . . . . . . . . . . . . . . . . . . . . 18,000 ---------------- TOTAL ASSETS . . . . . . . . . . . . . . . . . . . . $ 11,792,000 ================ LIABILITIES AND SHAREHOLDERS' EQUITY Accrued Expenses . . . . . . . . . . . . . . . . . . . . . . $ - Shareholders' Equity Common Shares . . . . . . . . . . . . . . . . . . . . . . 13,713,000 Accumulated Deficit . . . . . . . . . . . . . . . . . . . ( 2,168,000) Accumulated Other Comprehensive Income. . . . . . . . . . 247,000 ---------------- TOTAL SHAREHOLDERS' EQUITY . . . . . . . . . . . . . 11,792,000 ---------------- TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY . . . . . $ 11,792,000 ================ Year ended December 31, ------------------------------------------------------------ CONDENSED STATEMENTS OF OPERATIONS . . . . . . . . . . . . . 2001 2000 ---------------- ---------------- Dividend from Marathon National Bank . . . . . . . . . . . . $ - $ - Operating Expenses, net of Tax Benefit . . . . . . . . . . . ( 26,000) ( 18,000) Equity in Undistributed Net Income of Marathon National Bank 1,073,000 1,122,000 ---------------- ---------------- NET INCOME . . . . . . . . . . . . . . . . . . . . . $ 1,047,000 $ 1,104,000 ================ ================ Year Ended December 31, ------------------------------------------------------------ CONDENSED STATEMENTS OF CASH FLOWS . . . . . . . . . . . . . 2001 2000 ---------------- ---------------- OPERATING ACTIVITIES Net Income . . . . . . . . . . . . . . . . . . . . . . . . . $ 1,047,000 $ 1,104,000 Adjustments to Reconcile Net Income to Net Cash Used by Operating Activities - Equity in Net Income of Marathon National Bank . . . . . . . . . . . . . . . . ( 1,073,000) ( 1,122,000) Net Change in Other Assets and Other Liabilities . . . . . . ( 11,000) ( 16,000) ---------------- ---------------- NET CASH USED BY OPERATING ACTIVATES. . . . . . . . . . ( 37,000) ( 34,000) INVESTING ACTIVITIES Dividend from Marathon National Bank . . . . . . . . . . . . - - ---------------- ---------------- NET CASH PROVIDED BY INVESTING ACTIVITIES . . . . . . . - - FINANCING ACTIVITIES Proceeds from Exercise of Stock Options. . . . . . . . . . . 38,000 21,000 ---------------- ---------------- NET CASH PROVIDEDBY FINANCING ACTIVITIES. . . . . . . . 38,000 21,000 ---------------- ---------------- INCREASE (DECREASE) INCASH AND CASH EQUIVALENTS. . . . . . . 1,000 ( 13,000) Cash and Cash Equivalents at Beginning of Year . . . . . . . 4,000 17,000 ---------------- ---------------- CASH AND CASH EQUIVALENTS AT END OF YEAR. . . . . . . . $ 5,000 $ 4,000 ================ ================
INDEPENDENT AUDITORS' REPORT The Board of Directors and Shareholders Marathon Bancorp and Subsidiary We have audited the accompanying consolidated balance sheet of Marathon Bancorp and Subsidiary as of December 31, 2001, and the related consolidated statements of income, changes in shareholder's equity and cash flows for the two years ended December 31, 2001. These consolidated financial statements are the responsibility of the Marathon Bancorp'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 auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, such consolidated financial statements referred to above present fairly, in all material respects, the financial position of Marathon Bancorp and Subsidiary as of December 31, 2001, and the results of its operations and its cash flows for each of the two years in the period ended December 31, 2001, in conformity with accounting principles generally accepted in the United States of America. Vavrinek, Trine, Day & Co. LLP ------------------------------ Vavrinek, Trine, Day & Co. LLP Laguna Hills, California January 8, 2002 ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND -------------------------------------------------------------------------------- FINANCIAL DISCLOSURE --------------------- No information is required in response to this item. PART III --------- ITEM 9. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT ------------------------------------------------------------------
DIRECTORS: DIRECTOR NAME . . . . . . . . . . . . . POSITION WITH COMPANY SINCE ------------------------------ ------------------------------------------------------------- ----- Nikolas Patsaouras (1) (2) (3) Chairman of the Board of the Company and Bank 1982 Robert Abernethy (2) . . . . . Director 1983 Craig D. Collette(3) . . . . . President and Chief Executive Officer of the Company and Bank 1997 Frank W. Jobe, M.D.. . . . . . Director 1985 C. Thomas Mallos (1) (2) (3) . Director 1982 Robert l. Oltman (1) (2) (3). Director 1982 Ann Pappas (1) (2) (3) . . . . Director 1982 (1) Member of the Audit Committee (2) Member of the Executive and Compensation Committee. (3) Member of the Loan Committee.
EXECUTIVE OFFICERS OF THE COMPANY AND THE BANK WERE: NAME. . . . . . . POSITION AGE ----------------- ------------------------------------------------------------------------- --- Craig D. Collette President and Chief Executive Officer of the Company and Bank 59 Timothy J. Herles Executive Vice President and Senior Credit Officer of the Bank 60 Howard J. Stanke. Executive Vice President, Chief Financial Officer of the Company and Bank 53 Adrienne Caldwell Executive Vice President, Operations Administration of the Bank 59
CRAIG D. COLLETTE has been the President and Chief Executive Officer of the Company and Bank since January 1997. Mr. Collette has been a banker for 30 years in the Southern California banking community. TIMOTHY J. HERLES has been Executive Vice President of the Bank since April 1983, and has served in various positions including Cashier, Chief Administrative Officer, Compliance Officer and Senior Credit Officer, which position he currently holds. HOWARD J. STANKE has been Executive Vice President /Chief Financial Officer of the Company and Bank since June 9, 1997. Mr. Stanke was previously Executive Vice President/Chief Financial Officer of TransWorld Bancorp and TransWorld Bank for approximately 19 years. ADRIENNE CALDWELL has been Executive Vice President-Operations Administration of the Bank since March 1998 and has served in various positions since March 1986. ITEM 10. EXECUTIVE COMPENSATION ----------------------------------
The following table sets forth a comprehensive overview of the compensation of the Bank's executive officers with salary and bonus exceeding $100,000 during the fiscal year ended December 31, 2000. Comparative data is also provided for the previous three fiscal years. Other Annual Restricted All Other Name and Compen- Stock Compen Principal Salary Bonus Sation Award(s) Options/ sation Position Year ($) ($) ($)(1) ($) SARs ($) -------- ---- --- --- ------ ------- ---- --------- Craig D. Collette (3) . . . . . . 2001 $175,350 $10,000 $8,400 0 5,000 $ 72,913(2) President and . . . . . . . . . . 2000 $174,100 $ 8,312 $8,400 0 0 $ 85,013(2) Chief Executive Officer . . . . . 1999 $173,000 $ 5,600 $8,400 0 11,000 $ 72,069(2) Of the Company and the Bank Timothy J. Herles . . . . . . . . 2001 $111,121 $ 8,000 $8,400 0 0 $ 29,436(3) Executive Vice President and. . . 2000 $106,593 $ 6,562 $8,400 0 5,512 $ 28,914(3) Chief Credit Officer of the Bank. 1999 $106,593 $ 4,100 $8,400 0 8,000 $ 4,539 Howard J. Stanke (4). . . . . . . 2001 $ 99,036 $ 8,000 $7,800 0 0 $ 27,043(3) Executive Vice President and. . . 2000 $ 95,000 $ 6,562 $7,800 0 0 $ 26,539(3) Chief Financial Officer of the. . 1999 $ 95,000 $ 4,100 $7,200 0 8,000 $ 3,168 Company and Bank Tedd Voss . . . . . . . . . . . . 2001 $ 78,101 $67,669 $4,200 0 0 $ 225 Sr. Vice President Real Estate. . 2000 $ 76,500 $ 6,075 $3,300 0 0 $ 225 Construction Lending of the Bank. 1999 $ 58,666 0 $2,375 0 4,500 $ 169 (1) These amounts represent the automobile allowance (2) This amount includes $66,870 for 1999, $79,219 for 2000 and $86,216 for 2001 of accrued benefits in Mr. Collette's salary continuation plan. (3) This amount includes $23,371 for 2000 and $25,311 for 2001 of accrued benefits in Mr. Herles's Salary Continuation Plan. (4) This amount includes $23,371 for 2000 and $25,311 for 2001 of accrued benefits in Mr. Stanke's Salary Continuation Plan.
53 ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT -------------------------------------------------------------------------------- Management of the Company knows of no person who owns, beneficially or of record, either individually or together with associates, 5 percent or more of the outstanding shares of the Company's common stock, except as set forth in the table below. The following table sets forth, as of March 12, 2001, the number and percentage of shares of the Company's outstanding common stock beneficially owned, directly or indirectly, by each of the Company's directors and named officers and by the directors and named officers of the Company as a group. Unless otherwise indicated, the persons listed below have sole voting and investment powers. Management is not aware of any arrangements which may, at a subsequent date, result in a change of control of the Company.
Common Stock Beneficially Owned as of March 12, 2001 Number of Percent Of Name of Beneficial Owner Shares Class ------- ------ Directors and Named Executive Officers: ----------------------------------------- Nikolas Patsaouras. . . . . . . . . . . . 78,260(1) 1.9 Robert J. Abernethy . . . . . . . . . . . 133,105(2) 3.2 Craig D. Collette . . . . . . . . . . . . 97,123(3) 2.4 Frank W. Jobe, M.D. . . . . . . . . . . . 94,184(4) 2.3 C. Thomas Mallos. . . . . . . . . . . . . 79,783(5) 1.9 Robert L. Oltman. . . . . . . . . . . . . 222,727(6) 5.4 Ann Pappas. . . . . . . . . . . . . . . . 93,333(7) 2.3 Timothy J. Herles . . . . . . . . . . . . 37,998(8) 0.9 Howard J. Stanke. . . . . . . . . . . . . 27,700(9) 0.7 Adrienne Caldwell . . . . . . . . . . . . 12,990(10) 0.3 ------- Total for all directors, named executive officers and all executive officers (numbering 10) . . . . 877,203(11) 21.4 Principal Shareholders: ----------------------------------------- Banc Funds IV L.P. and Banc Funds V L.P. Oppenheimer-Spence Financial. . . . . . . 226,553(12) 5.9 Services Partnership L.P. . . . . . . . . 224,897(13) 5.5 (1) Mr. Patsaouras has shared voting and investment powers as to 37,874 of these shares. The amount includes 40,350 shares acquirable by the exercise of stock options. (2) The amount includes 25,806 shares acquirable by exercise of stock options. (3) Mr. Collette has shared voting and investment powers as to 92,923 shares. The amount includes 4,200 shares acquirable by exercise of stock options. (4) The amount includes 19,994 shares acquirable by exercise of stock options. (5) Mr. Mallos has shared voting and investment powers as of 47,551 of these shares. The amount includes 31,805 shares acquirable by exercise of stock options. (6) Mr. Oltman has shared voting and investment powers as to 179,424 of these shares. The amount includes 31,805 shares acquirable by exercise of stock options. His address is c/o Marathon Bancorp, 11150 West Olympic Boulevard, Los Angeles, California 90064. (7) Ms. Pappas has shared voting and investment powers as to 61,413 of these shares. The amount includes 31,805 shares acquirable by exercise of stock options. (8) Mr. Herles has shared voting and investment powers as to 1,184 of these shares. The amount includes 36,814 shares acquirable by exercise of stock options. (9) Mr. Stanke has shared voting and investment powers as to 26,100 shares. The amount includes 1,600 shares acquirable by exercise of stock options. (10) These shares are acquirable by exercise of stock options. (11) This amount includes 237,169 shares acquirable by exercise of stock options within 60 days of March 12, 2001. (12) The Schedule 13G filing by the partnership indicates that it has sole voting power of all of these shares. The business address of the partnership is 208 S. LaSalle Street, Chicago, IL 60604. (13) The Schedule 13D filing by the partnership indicates that it has sole voting power and sole dispositive power of all of these shares. The business address of the partnership is 119 West 57th Street, New York, New York 10019.
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS ------------------------------------------------------------- It is against Bank policy to make loans to directors, officers or employees. ITEM 13-EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K -------------------------------------------------------------------------------- (A) FINANCIAL STATEMENTS AND SCHEDULES ------------------------------------- All schedules are omitted because they are not applicable, not material or because the information is included in the financial statements or the notes thereto. (B) REPORTS ON FORM 8-K ---------------------- N/A (C) EXHIBITS -------- See Exhibit Index at Page 50 this Form 10-KSB. SIGNATURES ---------- Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, on the 25th day of March 2002. MARATHON BANCORP (Registrant) Howard J. Stanke ------------------ Howard J. Stanke Chief Financial Officer
`Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated. SIGNATURE . . . . . TITLE DATE ------------------- ----------------------- ------ Nikolas Patsaouras. Chairman of the Board March 25, 2002 ------------------- Nikolas Patsaouras Craig D. Collette . Director, President March 25, 2002 ------------------- Craig D. Collette . and CEO C. Thomas Mallos. . Director March 25, 2002 ------------------- C. Thomas Mallos ------------------- Director March Robert J. Abernethy ------------------- Director March Frank W. Jobe, M.D. Robert L. Oltman. . Director and Secretary March 25, 2002 ------------------- Robert L. Oltman Ann Pappas. . . . . Director March 25, 2002 ------------------- Ann Pappas
EXHIBIT INDEX ------------- EXHIBIT NO. DESCRIPTION PAGE ------------ ----------- ---- 10. Salary Continuation Plan Filed as an exhibit to the registrant's Form 10-KSB for the year ended December 31, 1999. 21. Subsidiaries of Company 50 23. Consent of Vavrinek, Trine, Day & Co LLP 51 EXHIBIT 21. SUBSIDIARIES OF MARATHON BANCORP -------------------------------- MARATHON NATIONAL BANK, incorporated under the laws of the United States. EXHIBIT 23. INDEPENDENT AUDITORS' CONSENT Board of Directors and Shareholders Marathon Bancorp Los Angeles, California We consent to the incorporation by reference in the Registration Statement of Marathon Bancorp on Form S-8 of our report dated January 8, 2002, on our audit of the consolidated balance sheet of Marathon Bancorp as of December 31, 2001, and the related consolidated statements of income, changes in shareholders' equity and cash flows for each of the two years in the period ended December 31, 2001, which report is incorporated by reference in the 2001 Annual Report on Form 10-KSB. Vavrinek, Trine, Day & Co., LLP ------------------------------------ Vavrinek, Trine, Day & Co., LLP March 20, 2002 Laguna Hills, California