-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, H3hs39pOfR8J44ERlbpIn+7byF3Q3o1sCJCWzKgKn0umFyCg3C+twThH2p2V57SP LYCA+OIMdrAAncEgKNurjA== 0000891554-97-000337.txt : 19970401 0000891554-97-000337.hdr.sgml : 19970401 ACCESSION NUMBER: 0000891554-97-000337 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 6 CONFORMED PERIOD OF REPORT: 19961231 FILED AS OF DATE: 19970331 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: FLUSHING FINANCIAL CORP CENTRAL INDEX KEY: 0000923139 STANDARD INDUSTRIAL CLASSIFICATION: SAVINGS INSTITUTION, FEDERALLY CHARTERED [6035] IRS NUMBER: 113209278 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: 1934 Act SEC FILE NUMBER: 000-24272 FILM NUMBER: 97571133 BUSINESS ADDRESS: STREET 1: 144-51 NORTHERN BLVD CITY: FLUSHING STATE: NY ZIP: 11354 BUSINESS PHONE: 7189615400 10-K 1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 31, 1996 Commission file number 000-24272 FLUSHING FINANCIAL CORPORATION (Exact name of registrant as specified in its charter) Delaware 11-3209278 (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 144-51 Northern Boulevard, Flushing, New York 11354 (Address of principal executive offices) (718) 961-5400 (Registrant's telephone number, including area code) Securities registered pursuant to Section 12(b) of the Act: None. Securities registered pursuant to Section 12(g) of the Act: Common Stock $0.01 par value. Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No --- --- Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (ss.229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [X] As of January 31, 1997, the aggregate market value of the voting stock held by non-affiliates of the registrant was $131,934,000. This figure is based on the closing price on the Nasdaq National Market for a share of the registrant's Common Stock, $0.01 par value, on January 31, 1997, which was $17.625 as reported in the Wall Street Journal on February 3, 1997. The number of shares of the registrant's Common Stock outstanding as of January 31, 1997 was 8,132,597 shares. DOCUMENTS INCORPORATED BY REFERENCE Portions of the Company's Annual Report to Stockholders for the year ended December 1996 are incorporated herein by reference in Part II, and portions of the Company's definitive Proxy Statement for the Annual Meeting of Stockholders to be held on April 29, 1997 are incorporated herein by reference in Part III. TABLE OF CONTENTS PAGE ---- PART I Item 1. Business........................................................ 3 Item 2. Properties...................................................... 45 Item 3. Legal Proceedings............................................... 46 Item 4. Submission of Matters to a Vote of Security Holders............. 46 PART II Item 5. Market for the Registrant's Common Stock and Related Stockholder Matters............................................. 46 Item 6. Selected Financial Data......................................... 47 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations............................. 47 Item 8. Financial Statements and Supplementary Data..................... 47 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure............................. 47 PART III Item 10. Directors and Executive Officers of the Registrant.............. 47 Item 11. Executive Compensation.......................................... 47 Item 12. Security Ownership of Certain Beneficial Owners and Management...................................................... 47 Item 13. Certain Relationships and Related Transactions.................. 48 PART IV Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K........................................................ 48 2 PART I Statements contained in this Annual Report on Form 10-K relating to plans, strategies, economic performance and trends and other statements that are not descriptions of historical facts may be forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Forward looking information is inherently subject to risks and uncertainties, and actual results could differ materially from those currently anticipated due to a number of factors, which include, but are not limited to, factors discussed under the captions "Business--General", "Business--Market Area and Competition" and "Risk Factors" below, and elsewhere in this Form 10-K and in other documents filed by the Company with the Securities and Exchange Commission from time to time. The Company has no obligation to update these forward-looking statements Item 1. Business. General Flushing Financial Corporation (the "Company") is a Delaware corporation organized in May 1994, at the direction of the Board of Trustees of Flushing Savings Bank, FSB (the "Bank") for the purpose of acquiring and holding all of the outstanding capital stock of the Bank issued upon its conversion from a federal mutual savings bank to a federal stock savings bank (the "Conversion"). The Conversion was completed on November 21, 1995. In connection with the Conversion, the Company issued 8,625,000 shares of common stock at a price of $11.50 per share to the Bank's eligible depositors who subscribed for shares, and to an employee benefit trust established by the Company for the purpose of holding shares for allocation or distribution under certain employee benefit plans of the Company and the Bank (the "Employee Benefit Trust"). The Company realized net proceeds of $96.5 million from the sale of its common stock and utilized approximately $48.3 million of such proceeds to purchase 100% of the issued and outstanding shares of the Bank's common stock. The primary business of the Company is the operation of its wholly-owned subsidiary, the Bank. In addition to directing, planning and coordinating the business activities of the Bank, the Company invests primarily in U.S. government and federal agency securities, federal funds, mortgage-backed securities, and investment grade corporate obligations. The Company also holds a note evidencing a loan that it made to the Employee Benefit Trust to enable the Employee Benefit Trust to acquire 690,000 shares, or 8% of the common stock issued in the Conversion. The Company has in the past increased growth through acquisition of branches of other financial institutions, and will pursue growth through acquisitions that are accretive to earnings. The Company may also organize or acquire, through merger or otherwise, other financial services related companies. The activities of the Company are funded by that portion of the proceeds of the sale of common stock in the Conversion that the Company was permitted by the Office of Thrift Supervision ("OTS") to retain, and earnings thereon, and by dividends, if any, received from the Bank. The Company is a unitary savings and loan holding company, which, under existing laws, is generally not restricted as to the types of business activities in which it may engage, provided that the Bank continues to be a qualified thrift lender. Under regulations of the OTS the Bank is a qualified thrift lender if its ratio of qualified thrift investments to portfolio assets ("QTL Ratio") is 65% or more, on a monthly average basis in nine of every 12 months. At December 31, 1996, the Bank's QTL Ratio was 72.57%, and the Bank had maintained more than 65% of its "portfolio assets" in qualified thrift investments in at least nine of the preceding 12 months. See "Regulation--Qualified Thrift Lender Test" and "Regulation--Company Regulation." The Company neither owns nor leases any property but instead uses the premises and equipment of the Bank. At the present time, the Company does not employ any persons other than certain officers of the Bank who do not receive any extra compensation as officers of the Company. The Company utilizes the support staff of the Bank from time to time, as needed. Additional employees may be hired as deemed appropriate by the management of the Company. 3 Unless otherwise disclosed, the information presented in the financial statements and this Form 10-K reflect the financial condition and results of operations of the Company and the Bank on a consolidated basis. At December 31, 1996, the Company had total assets of $775.3 million. The Company's principal business is attracting retail deposits from the general public and investing those deposits together with funds generated from operations, primarily in (i) originations and purchases of one-to-four-family residential mortgage loans, multi-family income-producing property loans and commercial real estate loans; (ii) mortgage loan surrogates such as mortgage-backed securities; and (iii) U.S. government and federal agency securities, corporate fixed-income securities and other marketable securities. To a lesser extent, the Company originates co-operative apartment loans, construction and consumer loans. At December 31, 1996, the Company had loans receivable, net of allowance for loan losses and unearned income, of $382.8 million (approximately 49.38% of the Company's total assets). On a consolidated basis, the Company held mortgage -backed securities with a carrying value of $141.0 million (approximately 18.19% of the Company's total assets), including $37.8 million of fixed-rate mortgage-backed securities that were acquired through the securitization of Bank-originated fixed-rate mortgage loans in 1994. The Company's revenues are derived principally from interest on its mortgage and other loans and mortgage-backed securities portfolio and interest and dividends on other investments in its securities portfolio. The Company's primary sources of funds are deposits, principal and interest payments on loans, mortgage-backed and other securities, proceeds from sales of securities and, to a lesser extent, proceeds from sales of loans. Market Area and Competition The Bank has been, and intends to continue to be, a community oriented savings institution offering a wide variety of financial services to meet the needs of the communities it serves. The Bank is headquartered in Flushing, New York, located in the Borough of Queens. It currently operates out of its main office and six branch offices, located in the New York City Boroughs of Queens, Brooklyn and Manhattan, and in Nassau County, New York. Substantially all of the Bank's mortgage loans are secured by properties located in the New York City metropolitan area. During the last three years, the unemployment and real estate values in the New York City metropolitan area have been relatively stable, which has favorably impacted the Bank's asset quality. See "--Asset Quality." There can be no assurance that the stability of these economic factors will continue. The Bank faces intense and increasing competition both in making loans and in attracting deposits. The Bank's market area has a high density of financial institutions, many of which have greater financial resources, name recognition and market presence than the Bank, and all of which are competitors of the Bank to varying degrees. Particularly intense competition exists for deposits and in all of the lending activities emphasized by the Bank. The Bank's competition for loans comes principally from commercial banks, other savings banks, savings and loan associations, mortgage banking companies, insurance companies, finance companies and credit unions. Management anticipates that competition for one-to-four family residential mortgage loans, multi-family loans and commercial real estate loans will continue to increase in the future. Thus, no assurances can be given that the Bank will be able to maintain or increase its current level of such loans, as contemplated by management's current business strategy The Bank's most direct competition for deposits historically has come from other savings banks, commercial banks, savings and loan associations and credit unions. In addition, the Bank faces increasing competition for deposits from products offered by brokerage firms, insurance companies and other financial intermediaries, such as money market and other mutual funds and annuities. Trends toward the consolidation of the banking industry and the lifting of interstate banking and branching restrictions may make it more difficult for smaller, community-oriented banks, such as the Bank, to compete effectively with large, national, regional and super-regional banking institutions. Notwithstanding the intense competition, the Bank has been successful in maintaining its deposit base. For a discussion of the Company's business strategies, see "Management's Discussion and Analysis of Financial Condition and Results of Operations--Management Strategy," included in the Annual Report of Stockholders for the fiscal year ended December 31, 1996 (the "Annual Report"), incorporated herein by reference. 4 Lending Activities Loan Portfolio Composition. The Bank's loan portfolio consists primarily of conventional fixed-rate residential mortgage loans and adjustable rate mortgage ("ARM") loans secured by one-to-four family residences, mortgage loans secured by multi-family income producing properties or commercial real estate, co-operative apartment loans, construction loans and consumer loans. At December 31, 1996, the Bank had gross loans outstanding of $389.8 million (before reserves and unearned income), of which $223.3 million, or 57.28%, were one-to-four family residential mortgage loans (including $17.7 million of condominium loans, and $6.3 million of home equity loans). Of the one-to-four family residential loans outstanding on that date, 73.40% were ARM loans and 26.60% were fixed-rate loans. At December 31, 1996, multi-family loans totaled $104.9 million, or 26.91% of gross loans, commercial real estate loans totaled $46.7 million, or 11.98% , co-operative apartment loans totaled $13.2 million, or 3.40%, and consumer and other loans totaled $1.7 million, or 0.43% of gross loans. While management continues to place primary emphasis on the origination of one-to-four family residential mortgage loans, management's strategy calls for increased emphasis on multi-family and commercial real estate loans. From December 31, 1995 to December 31, 1996, one-to-four-family residential mortgage loans increased $66.4 million, or 39.06%, and multi-family loans increased $35.7 million, or 51.68%. Fully underwritten one-to-four family residential mortgage loans are considered by the banking industry to have less risk than other types of loans. Multi-family income-producing real estate loans and commercial real estate loans generally have higher yields than one-to-four family loans and shorter terms to maturity, but typically involve higher principal amounts and generally expose the lender to greater risk of credit loss than fully underwritten one-to-four family residential mortgage loans. The Company's increased emphasis on multi-family and commercial real estate loans can be expected to increase the overall level of credit risk inherent in the Company's loan portfolio. The greater risk associated with multi-family and commercial real estate loans may require the Company to increase its provisions for loan losses and to maintain an allowance for loan losses as a percentage of total loans in excess of the allowance currently maintained by the Company. The Bank's lending activities are subject to federal and state laws and regulations. Interest rates charged by the Bank on loans are affected primarily by the demand for such loans, the supply of money available for lending purposes, the rate offered by the Bank's competitors and, in the case of corporate entities, the creditworthiness of the borrower. Many of those factors are, in turn, affected by regional and national economic conditions, and the fiscal, monetary and tax policies of the federal government. 5 The following table sets forth the composition of the Bank's loan portfolio at the dates indicated.
At December 31, --------------------------------------------------------------------------------- 1996 1995 1994 ----------------------- ----------------------- ----------------------- (Dollars in thousands) Percent Percent Percent Amount of Total Amount of Total Amount of Total ------ -------- ------ -------- ------ -------- Mortgage loans: One-to-four family(1)(2) ............... $ 223,273 57.28% $ 155,435 54.20% $ 133,006 51.39% Co-operative(3) ........................ 13,245 3.40 14,653 5.11 16,155 6.24 Multi-family ........................... 104,870 26.91 69,140 24.11 56,559 21.85 Commercial ............................. 46,698 11.98 45,215 15.77 49,512 19.13 Construction ........................... -- -- -- -- 364 0.14 --------- ----- --------- ----- --------- ----- Gross mortgage loans ................. 388,086 99.57 284,443 99.19 255,596 98.75 Other loans ............................... 1,680 0.43 2,328 0.81 3,231 1.25 --------- ----- --------- ----- --------- ----- Gross loans ............................ 389,766 100.00% 286,771 100.00% 258,827 100.00% ====== ====== ====== Less: Unearned income, unamortized discounts, and deferred loan fees, net .......... (1,548) (1,335) (1,341) Allowance for loan losses .............. (5,437) (5,310) (5,370) --------- --------- --------- Loans, net ............................. $ 382,781 $ 280,126 $ 252,116 ========= ========= =========
At December 31, --------------------------------------------------- 1993 1992 ----------------------- ----------------------- Percent Percent Amount of Total Amount of Total ------ -------- ------ -------- (Dollars in thousands) Mortgage loans: One-to-four family(1)(2) ............... $ 134,967 51.61% $ 168,762 56.10% Co-operative(3) ........................ 17,098 6.54 19,497 6.48 Multi-family ........................... 49,459 18.91 54,481 18.11 Commercial ............................. 54,310 20.77 54,061 17.97 Construction ........................... 1,891 0.72 -- -- --------- ----- --------- ----- Gross mortgage loans ................. 257,725 98.55 296,801 98.66 Other loans ............................... 3,791 1.45 4,043 1.34 --------- ----- --------- ----- Gross loans ............................ 261,516 100.00% 300,844 100.00% ====== ====== Less: Unearned income, unamortized discounts, and deferred loan fees, net .......... (1,202) (1,009) Allowance for loan losses .............. (5,723) (4,555) --------- --------- Loans, net ............................. $ 254,591 $ 295,280 ========= =========
(1) One-to-four family residential loans also include home equity and condominium loans. At December 31, 1996, gross home equity loans totaled $6.3 million and condominium loans totaled $17.7 million. (2) Excludes loans available for sale of $5.6 million at December 31, 1993. (3) Consists of loans secured by shares representing interests in individual co-operative units that are generally owner occupied. 6 The following table sets forth the Bank's loan originations (including the net effect of refinancings) and the changes in the Bank's portfolio of loans, including purchases, sales and principal reductions for the years indicated: For the Years Ended December 31, ----------------------------------- 1996 1995 1994 --------- --------- --------- (In thousands) Mortgage loans: At beginning of year .................... $ 284,443 $ 255,596 $ 263,329 Mortgage loans originated: One-to-four family(1) .............. 51,309 19,298 31,715 Co-operative ....................... 76 140 188 Multi-family ....................... 43,184 19,162 11,822 Commercial ......................... 7,501 2,144 2,559 Construction ....................... -- -- 628 --------- --------- --------- Total mortgage loans originated .... 102,070 40,744 46,912 Acquired loans(2) .................... 39,873 18,766 4,717 Less: Principal reductions ................. 37,150 29,384 38,073 Mortgage loans sold(1) ............... -- 626 3,148 Loans securitized .................... -- -- 15,796 Mortgage loan foreclosures ........... 1,150 653 2,345 --------- --------- --------- At end of year .......................... $ 388,086 $ 284,443 $ 255,596 ========= ========= ========= Other loans: At beginning of year .................... $ 2,328 $ 3,231 $ 3,791 Net activity ............................ (648) (903) (560) --------- --------- --------- At end of year .......................... $ 1,680 $ 2,328 $ 3,231 ========= ========= ========= - ------------ (1) Includes mortgage loans originated for sale in the secondary market. (2) For a description of the Bank's loan purchase activity, see "--One-to-Four Family Mortgage Lending." 7 Loan Maturity and Repricing. The following table sets forth at December 31, 1996, the dollar amount of all loans held in the Bank's portfolio that is due after December 31, 1997, and whether such loans have fixed or adjustable interest rates. Non-performing loans are excluded. The Bank's loan portfolio contained no outstanding construction loans as of the date specified and therefore the following two tables exclude reference to any such loans. Due after December 31, 1997 -------------------------------------- Fixed Adjustable Total -------- ---------- -------- (In thousands) Mortgage loans: One-to-four family ............. $ 58,351 $107,382 $165,733 Co-operative ................... 2,903 4,311 7,214 Multi-family ................... 18,167 83,895 102,062 Commercial ..................... 8,269 30,862 39,131 Other loans ....................... 1,123 -- 1,123 -------- -------- -------- Total loans .................... $ 88,813 $226,450 $315,263 ======== ======== ======== The following table shows the maturity or period to repricing of the Bank's loan portfolio at December 31, 1996. Loans that have adjustable-rates are shown as being due in the period during which the interest rates are next subject to change. The table does not reflect prepayments or scheduled principal amortization, which totaled $37.2 million for the year ended December 31, 1996. Certain adjustable rate loans have features which limit changes in interest rates on a short-term basis and over the life of the loan.
At December 31, 1996 --------------------------------------------------------------- One-to- Total Four Multi- Other Loans Family Co-operative Family Commercial Loans Receivable ------- ------------ ------ ---------- -------- ---------- (In thousands) Amounts due(1): Within one year $ 55,705 $ 5,999 $ 2,303 $ 7,567 $ 521 $ 72,095 -------- -------- -------- -------- -------- -------- After one year(1): One to two years ....... 30,307 1,681 12,753 9,828 430 54,999 Two to three years ..... 21,707 2,067 9,830 9,538 429 43,571 Three to five years .... 38,303 713 61,140 11,522 250 111,928 Five to ten years ...... 32,670 1,430 11,780 7,928 14 53,822 Over ten years ......... 42,746 1,323 6,559 315 -- 50,943 -------- -------- -------- -------- -------- -------- Total due after one year 165,733 7,214 102,062 39,131 1,123 315,263 -------- -------- -------- -------- -------- -------- Total amounts due ... $221,438 $ 13,213 $104,365 $ 46,698 $ 1,644 $387,358 ======== ======== ======== ======== ======== ======== ============================================================================================
(1) Excludes $2.4 million in non-performing loans. One-to-Four Family Mortgage Lending. The Bank offers mortgage loans secured by one-to-four family residences, including townhouses and condominium units, located in its primary lending area. For purposes of the description contained in this section, one-to-four family residential mortgage loans and co-operative apartment loans are collectively referred to herein as "residential mortgage loans." The Bank offers both fixed-rate and ARM residential mortgage loans with maturities of up to 30 years and a general maximum loan amount of $500,000. Loan originations generally result from applications received from existing or past customers, persons that respond to Bank advertising and other marketing efforts and referrals from attorneys, real estate brokers, mortgage brokers and mortgage bankers. Partly in response to the intense competition for originations of one-to-four family residential mortgage loans, in the second half of 1994, the Bank commenced a program of correspondent relationships with several mortgage bankers and brokers operating in the New York metropolitan area. Under this program, the Bank purchases individual newly originated one-to-four family loans originated by such correspondents. Typically, the 8 servicing is purchased as well. The loans are underwritten pursuant to the Bank's credit underwriting standards and each loan is reviewed by Bank personnel prior to purchase to ensure conformity with such standards. Generally, the Bank does not receive loan origination fees on such loans. During 1996, through these relationships, the Bank purchased $39.9 million in one-to-four family mortgage loans, as compared to $11.6 million in 1995 and $4.7 million during 1994. In addition, from time to time, the Bank will selectively purchase packages of seasoned performing one-to-four family residential loans located within the New York region. During 1995, the Bank purchased one package of such loans totaling $7.2 million with an average yield of 7.97%. Servicing was not acquired. The Bank did not purchase any seasoned loans in 1996. The Bank generally originates residential mortgage loans in amounts up to 80% of the appraised value or the sale price, whichever is less. The Bank may make residential mortgage loans with loan-to-value ratios of up to 95% of the appraised value of the mortgaged property; however, private mortgage insurance is required whenever loan-to-value ratios exceed 80% of the appraised value of the property securing the loan. The majority of the residential mortgage loans originated by the Bank are underwritten to FNMA and other agency guidelines to facilitate securitization and sale in the secondary market. These guidelines require, among other things, verification of the loan applicant's income. However, from time to time, and increasingly in 1996, the Bank has originated residential mortgage loans to self-employed individuals within the Bank's local community without verification of the borrower's level of income, provided that the borrower's stated income is considered reasonable for the borrower's type of business. These loans involve a higher degree of risk as compared to the Bank's other fully underwritten residential mortgage loans as there is a greater opportunity for borrowers to falsify or overstate their level of income and ability to service indebtedness. To mitigate this risk, the Bank typically limits the amount of these loans to 70% of the appraised value of the property or the sale price, whichever is less. These loans also are not as readily salable in the secondary market as the Bank's other fully underwritten loans, either as whole loans or when pooled or securitized. FNMA does not purchase such loans. The Bank believes, however, that its willingness to make such loans is an aspect of its commitment to be a community-oriented bank. Although there are a number of purchasers for such loans, there can be no assurance that such purchasers will continue to be active in the market or that the Bank will be able to sell such loans in the future. During 1995, the Bank originated two ARM loans of this type, totaling $538,000 and three fixed-rate 15-year loans of this type totaling $245,000. During 1996, the Bank originated loans of this type totaling $12.3 million in ARM loans and $6.7 million in 15-year fixed-rate loans. The Bank's fixed-rate residential mortgage loans typically are originated for terms of 15 and 30 years and are competitively priced based on market conditions and the Bank's cost of funds. The Bank charges origination fees of up to 2%; loans with fees of less than 2% generally carry a higher interest rate. The Bank's current policy is to securitize or sell all its newly originated conforming fixed-rate 30-year residential mortgage loans in the secondary market to FNMA and other secondary market purchasers, and to hold its fixed-rate 15-year residential mortgage loans in its portfolio. The servicing rights on loans sold ordinarily are retained by the Bank. There were no 30-year fixed-rate residential mortgage loans originated in 1996. The Bank offers ARM loans with adjustment periods of one, three, five or ten years, and the Bank's current emphasis is on adjustment periods of one year. Interest rates on ARM loans currently offered by the Bank are adjusted at the beginning of each adjustment period based upon a fixed spread above the average yield on United States treasury securities, adjusted to a constant maturity which corresponds to the adjustment period of the loan (the "U.S. Treasury constant maturity index") as published weekly by the Federal Reserve Board. From time to time, the Bank may originate ARM loans at an initial rate lower than the U.S. Treasury constant maturity index as a result of a discount on the spread for the initial adjustment period. ARM loans generally are subject to limitations on interest rate increases of 2% per adjustment period and an aggregate adjustment of 6% over the life of the loan. Origination fees of up to 2% are charged for ARM loans; loans with fees of less than 2% generally carry a higher interest rate. The Bank originated and purchased one-to-four family residential ARM loans totaling $11.2 million and $18.4 million, respectively, during 1995 and $34.0 million and $32.0 million, respectively, during 1996. At December 31, 1996, $172.8 million, or 73.66%, of the Bank's residential mortgage loans, consisted of ARM loans. 9 The volume and adjustment periods of ARM loans originated by the Bank have been affected by such market factors as the level of interest rates, demand for loans, competition, consumer preferences and the availability of funds. In general, consumers show a preference for ARM loans in periods of high interest rates and for fixed-rate loans when interest rates are low. In periods of falling interest rates, the Bank may experience refinancing activity in ARM loans, whose interest rates may be fully indexed, to fixed-rate loans. The Bank's policy regarding this type of refinancing is to allow a maximum reduction of 200 basis points in the interest rate on a fixed-rate basis and, if the loan is a 30-year loan, to sell or securitize it in the secondary market. The retention of ARM loans, as opposed to fixed-rate 30-year loans, in the Bank's portfolio helps reduce the Bank's exposure to interest rate risks. However, in an environment of rapidly increasing interest rates as was experienced in the 1970's, it is possible for the interest rate increase to exceed the maximum aggregate adjustment on ARM loans and negatively affect the spread between the Bank's interest income and its cost of funds. ARM loans generally involve credit risks different from those inherent in fixed-rate loans, primarily because if interest rates rise, the underlying payments of the borrower rise, thereby increasing the potential for default. At the same time, the value and marketability of the property collateralizing the loan may be adversely affected. In order to minimize risks, the borrowers of one-year ARM loans are qualified at the higher of the maximum adjusted rate at the first adjustment or the FNMA minimum qualifying rate. The Bank has not in the past, nor does it currently originate ARM loans which provide for negative amortization. Home Equity Loans. Home equity loans are included in the Bank's portfolio of one-to-four family residential mortgage loans. These loans are offered as adjustable-rate "home equity lines of credit" for terms up to 20 years with monthly payments of principal and interest due from the borrower commencing when the line of credit is accessed. These loans also may be offered as fully amortizing closed-end fixed-rate loans for terms up to 15 years. All home equity loans are made on one-to-four family residential and condominium units, which are owner-occupied, and are subject to a 75% loan-to-value ratio computed on the basis of the aggregate of the first mortgage loan amount outstanding and the proposed home equity loan. They are granted in amounts up to $100,000 for home equity lines of credit and $100,000 for fixed-rate fully amortizing loans. The underwriting standards for home equity loans are substantially the same as those for residential mortgage loans. At December 31, 1996, home equity loans totaled $6.3 million, or 1.62%, of gross loans. Commercial Real Estate Lending. Loans secured by commercial real estate constituted approximately $46.7 million, or 11.98%, of the Bank's gross loans at December 31, 1996. The Bank's commercial real estate loans are secured by improved properties such as offices, small business facilities, strip shopping centers, warehouses, religious facilities and mixed-use properties. At December 31, 1996, substantially all of the Bank's commercial real estate loans were secured by properties located within the Bank's market area. At that date, the Bank's commercial real estate loans had an average principal balance of $442,000, and the largest of such loans, which was secured by an office building, had a principal balance of $1.9 million. Typically, commercial real estate loans are originated at a range of $100,000 to $3.0 million. Commercial real estate loans are generally offered at adjustable rates tied to a market index for terms of five to 15 years, with adjustment periods from one to five years. On a select and limited basis, commercial real estate loans may be made at fixed interest rates for terms of seven, 10 or 15 years. An origination fee of up to 2% is typically charged on all commercial real estate loans. In underwriting commercial real estate loans, the Bank reviews the expected net operating income generated by the real estate collateral securing the loan, the age and condition of the collateral, the financial resources and income level of the borrower and the borrower's experience in owning or managing similar properties. The Bank typically requires a debt service coverage of at least 125% of the monthly loan payment. Commercial real estate loans generally are made up to 70% of the appraised value of the property securing the loan or the sales price of the property, whichever is less. The Bank generally obtains personal guarantees from commercial real estate borrowers and typically orders an environmental report on the property securing the loan. Loans secured by commercial real estate generally involve a greater degree of risk than residential mortgage loans and carry larger loan balances. The increased credit risk is a result of several factors, including the concentration of principal in a smaller number of loans and borrowers, the effects of general economic conditions on income producing properties and the increased difficulty in evaluating and monitoring these types of loans. 10 Furthermore, the repayment of loans secured by commercial real estate is typically dependent upon the successful operation of the related property. If the cash flow from the property is reduced, the borrower's ability to repay the loan may be impaired. Loans secured by commercial real estate also may involve a greater degree of environmental risk. The Bank seeks to protect against this risk through obtaining an environmental report. See "--Asset Quality--REO." Multi-Family Lending. Loans secured by multi-family income producing properties (including mixed-use properties) constituted approximately $104.9 million, or 26.91%, of gross loans at December 31, 1996, all of which were secured by properties located within the Bank's market area. The Bank's multi-family loans had an average principal balance of $497,000 at December 31, 1996, and the largest multi-family loan held in the Bank's portfolio had a principal balance of $2.6 million. Multi-family loans are generally offered at adjustable rates tied to a market index for terms of five to 10 years with adjustment periods from one to five years. On a select and limited basis, multi-family loans may be made at fixed rates for terms of seven, 10 or 15 years. An origination fee of up to 2% is typically charged on multi-family loans. In underwriting multi-family loans, the Bank employs the same underwriting standards and procedures as are employed in underwriting commercial real estate loans. Multi-family loans generally carry larger loan balances than one-to-four family residential mortgage loans and involve a greater degree of credit risk for the same reasons applicable to commercial real estate loans. Construction Loans. The Bank's construction loans primarily have been made to finance the construction of one-to-four family residential properties and, to a lesser extent, multi-family residential real estate properties. The Bank's policies provide that construction loans may be made in amounts up to 70% of the estimated value of the developed property and only if the Bank obtains a first lien position on the underlying real estate. In addition, the Bank generally requires firm end-loan commitments and personal guarantees on all construction loans. Construction loans are generally made with terms of two years or less and with adjustable interest rates that are tied to a market index. Advances are made as construction progresses and inspection warrants, subject to continued title searches to ensure that the Bank still has a first lien position. At December 31, 1996, the Bank had no construction loans outstanding. Construction loans involve a greater degree of risk than other loans because, among other things, the underwriting of such loans is based on an estimated value of the developed property, which can be difficult to ascertain in light of uncertainties inherent in such estimations. In addition, construction lending entails the risk that the project may not be completed due to cost overruns or changes in market conditions. Consumer and Other Lending. The Bank originates other loans primarily for personal, family or household purposes, which generally consist of passbook loans, overdraft lines of credit, student loans, automobile loans and other personal loans. Total consumer and other loans outstanding at December 31, 1996 amounted to $1.7 million, or 0.43%, of gross loans. Generally, unsecured loans in this category are limited to amounts of $5,000 or less for terms of up to five years. Certain student loans may be made in amounts up to the maximum amount permitted by the New York State Higher Education Services Corporation, currently $138,500, for terms of up to 10 years. Since 1992, the Bank has sold all student loans to EXPORT, a subsidiary of Sallie Mae (Student Loan Marketing Association) which administers all such loans sold by the Bank. The Bank offers credit cards to its customers through a third party financial institution and receives an origination fee and transactional fees for processing such accounts, but does not underwrite or finance any portion of the credit card receivables. The underwriting standards employed by the Bank for consumer and other loans include a determination of the applicant's payment history on other debts and assessment of the applicant's ability to meet payments on all of his or her obligations. In addition to the creditworthiness of the applicant, the underwriting process also includes a comparison of the value of the security, if any, to the proposed loan amount. Unsecured loans tend to have higher risk, and therefore command a higher interest rate. With the exception of a portfolio of consumer loans acquired by the Bank in 1991 at a discount in connection with the acquisition of a failed savings and loan association, the level of delinquencies in the Bank's consumer and other loan portfolio generally has been within industry standards; however, there can be no assurance that delinquencies will not increase in the future. 11 Loan Approval Procedures and Authority. The Bank's Board-approved lending policies establish loan approval requirements for its various types of loan products. Pursuant to the Bank's Residential Mortgage Lending Policy, all residential mortgage loans require three signatures for approval, at least one of which must be from the President, Executive Vice President or a Senior Vice President (collectively, "Authorized Officers") and the other two may be from the Bank's Senior Mortgage Officer, Loan Underwriting Manager or Senior Underwriter. Residential mortgage loans in excess of $500,000 also must be approved by the Loan Committee, the Executive Committee or the full Board of Directors. Pursuant to the Bank's Commercial Real Estate Lending Policy, all loans secured by commercial real estate properties and multi-family income producing properties, must be approved by the President or the Executive Vice President upon the recommendation of the Commercial Loan Department Manager. Such loans in excess of $400,000 also require Loan or Executive Committee or Board approval. In accordance with the Bank's Consumer Loan Policy, all consumer loans require two signatures for approval, one of which must be from an Authorized Officer. The Bank's Construction Loan Policy requires that all construction loans must be approved by the Loan or Executive Committee or the Board of Directors of the Bank. Any loan, regardless of type, that deviates from the Bank's written loan policies must be approved by the Loan or Executive Committee or the Bank's Board of Directors. For all loans originated by the Bank, upon receipt of a completed loan application, a credit report is ordered and certain other financial information is obtained. An appraisal of the real estate intended to secure the proposed loan is required. Such appraisals currently are performed by the Bank's staff appraiser or an independent appraiser designated and approved by the Bank. The Bank's Board of Directors annually approves the independent appraisers used by the Bank and approves the Bank's appraisal policy. It is the Bank's policy to require borrowers to obtain title insurance and hazard insurance on all real estate first mortgage loans prior to closing. Borrowers generally are required to advance funds on a monthly basis together with each payment of principal and interest to a mortgage escrow account from which the Bank makes disbursements for items such as real estate taxes and, in some cases, hazard insurance premiums. Loan Concentrations. The maximum amount of credit that the Bank can extend to any single borrower or related group of borrowers generally is limited to 15% of the Bank's unimpaired capital and surplus. Applicable law and regulations permit an additional amount of credit to be extended, equal to 10% of unimpaired capital and surplus, if the loan is secured by readily marketable collateral, which generally does not include real estate. See "Regulation." However, it is currently the Bank's policy not to extend such additional credit. At December 31, 1996, the Bank had no loans in excess of the maximum dollar amount of loans to one borrower that the Bank was authorized to make. At that date, the three largest concentrations of loans to one borrower consisted of loans secured by apartment buildings, with an aggregate principal balance of $3.3 million, $2.7 million and $2.4 million for each of the three borrowers. Loan Servicing. At December 31, 1996, loans aggregating $48.8 million were being serviced for others by the Bank. The Bank's policy is to retain the servicing rights to the mortgage loans that it sells in the secondary market. In order to increase revenue, management intends to continue this policy. Asset Quality Loan Collection. When a borrower fails to make a required payment on a loan, the Bank takes a number of steps to induce the borrower to cure the delinquency and restore the loan to current status. In the case of residential mortgage loans and consumer loans, the Bank generally sends the borrower a written notice of non-payment when the loan is first past due. In the event payment is not then received, additional letters and phone calls generally are made in order to encourage the borrower to meet with a representative of the Bank to discuss the delinquency. If the loan still is not brought current and it becomes necessary for the Bank to take legal action, which typically occurs after a loan is delinquent 45 days or more, the Bank may commence foreclosure proceedings against real property that secures the loan and attempt to repossess personal property that secures a consumer loan or co-operative apartment loan. If a foreclosure action is instituted and the loan is not brought current, paid in full, or refinanced before the foreclosure sale, the real property securing the loan generally is sold at foreclosure or by the Bank as soon thereafter as practicable. Decisions as to when to commence foreclosure actions for multi-family, commercial real estate and construction loans are made on a case by case basis. Since foreclosure typically halts the sale of the collateral and may be a lengthy procedure in the State of New York, the 12 Bank may consider loan work-out arrangements to work with multi-family or commercial real estate borrowers in an effort to restructure the loan rather than foreclose, particularly if the borrower is, in the opinion of management, able to manage the project. In certain circumstances, on rental properties, the Bank may institute proceedings to seize the rent. On mortgage loans or loan participations purchased by the Bank, the Bank receives monthly reports from its loan servicers with which it monitors the loan portfolio. Based upon servicing agreements with the servicers of the loans, the Bank relies upon the servicer to contact delinquent borrowers, collect delinquent amounts and initiate foreclosure proceedings, when necessary, all in accordance with applicable laws, regulations and the terms of the servicing agreements between the Bank and its servicing agents. 13 Delinquent Loans and Non-performing Assets. The following table sets forth delinquencies in the Bank's loan portfolio at the dates indicated:
At December 31, ----------------------------------------------------------------------------------------------------------- 1996 1995 1994 ----------------------------------------------------------------------------------------------------------- 60-89 Days 90 Days or More 60-89 Days 90 Days or More 60-89 Days 90 Days or More ---------------------------------------------------------------------------------------------------------- Number Number Number Number Number Number of Principal of Principal of Principal of Principal of Principal of Principal Loans Balance Loans Balance Loans Balance Loans Balance Loans Balance Loans Balance ---------------------------------------------------------------------------------------------------------- (Dollars in thousands) One-to-four family ...... 2 $ 705 15 $1,835 1 $ 149 25 $2,276 3 $ 198 24 $2,389 Co-operative ............ -- -- 2 32 1 53 2 109 4 245 3 153 Multi-family ............ -- -- 3 505 1 441 4 2,119 -- -- 3 890 Commercial .............. -- -- -- -- -- -- 3 427 1 88 5 1,452 Construction ............ -- -- -- -- -- -- -- -- -- -- 1 364 ----- ------ ----- ------ ----- ------ ----- ------ ------ ------ ----- ------- Total mortgage loans .. 2 705 20 2,372 3 643 34 4,931 8 531 36 5,248 Other loans ............. 3 2 6 36 2 1 5 50 4 4 6 63 Total loans ----- ------- ----- ------ ----- ------ ----- ------ ----- ------- ----- ------- delinquent .......... 5 $ 707 26 $2,408 5 $ 644 39 $4,981 12 $ 535 42 $5,311 ===== ======= ===== ======= ===== ======= ===== ====== ===== ======= ===== ======= Delinquent loans to gross loans ........... 0.18% 0.62% 0.22% 1.74% 0.21% 2.05%
14 The Bank reviews the problem loans in its portfolio on a monthly basis to determine whether any loans require classification in accordance with internal policies and applicable regulatory guidelines. Generally, all non-performing loans delinquent 90 days or more, commercial real estate loans pending foreclosure and real estate owned ("REO") require classification. See "--Classified and Special Mention Assets." The Bank generally discontinues accruing interest on delinquent loans when a loan is 90 days past due or foreclosure proceedings have been commenced, whichever first occurs. Loans in default 90 days or more as to their maturity date but not their payments, however, continue to accrue interest. With respect to loans on non-accrual status, previously accrued but unpaid interest is deducted from interest income six months after the date it becomes past due. The following table sets forth information regarding all non-accrual loans, loans which are 90 days or more delinquent, and REO at the dates indicated. During the years ended December 31, 1996, 1995 and 1994, the amounts of additional interest income that would have been recorded on non-accrual loans, had they been current, totaled $145,000, $344,000 and $371,000, respectively. These amounts were not included in the Bank's interest income for the respective periods.
At December 31, ---------------------------------------------------- 1996 1995 1994 1993 1992 --------- --------- --------- --------- --------- (Dollars in thousands) Non-accrual mortgage loans ............... $ 2,372 $ 4,697 $ 5,234 $11,548 $21,615 Other non-accrual loans .................. 36 50 63 142 -- --------- --------- --------- --------- --------- Total non-accrual loans ............. 2,408 4,747 5,297 11,690 21,615 --------- --------- --------- --------- --------- Mortgage loans 90 days or more delinquent and still accruing..................... -- 234 14 4 195 Other loans 90 days or more delinquent and still accruing .................... -- -- -- 1 415 --------- --------- --------- --------- --------- Total non-performing loans .......... 2,408 4,981 5,311 11,695 22,225 --------- --------- --------- --------- --------- In-substance foreclosed real estate ...... -- -- 372 4,772 5,123 Foreclosed real estate ................... 1,218 1,869 3,096 2,990 3,409 --------- --------- --------- --------- --------- Total REO ........................... 1,218 1,869 3,468 7,762 8,532 --------- --------- --------- --------- --------- Total non-performing assets ......... $ 3,626 $ 6,850 $ 8,779 $19,457 $30,757 ========= ========= ========= ========= ========= Troubled debt restructurings ............. -- -- $ 3,220 $ 6,029 $ 1,429 ========= ========= ========= ========= ========= Non-performing loans to gross loans (1) .. 0.62% 1.74% 2.05% 4.47% 7.39% Non-performing assets to total assets (1). 0.47% 0.97% 1.48% 3.16% 5.16%
- ---------- (1) Ratios do not include troubled debt restructurings where the loans are performing in accordance with the agreement. REO. The Bank has been aggressively marketing its REO properties. Total REO, including in-substance foreclosed loans, had consistently decreased from $8.5 million at December 31, 1992 to $1.2 million at December 31, 1996. To facilitate the sale of REO, the Bank originated eight loans totaling $492,000 during 1995, and nine loans totaling $307,000 during 1996. At December 31, 1996, the largest single REO property resulted from a commercial real estate loan secured by an office building with a net book value of $729,000. REO properties are carried at the lower of carrying amount or fair value less estimated costs to sell. This determination is made on an individual asset basis. "Carrying amount" represents the book value of the loan at the time a property is foreclosed (after any charge-off against the allowance for loan losses to reflect any difference between the book value of the loan and the fair market value of the collateral), less any payments subsequently received in respect of such loan such as payments from private mortgage insurance or court appointed receivers. See "--Allowance for Loan Losses." If the subsequent fair value is less than the carrying amount, the deficiency is recognized as an REO valuation allowance and, accordingly, is charged against earnings through a provision for losses on REO. 15 The following table sets forth the activity in the Bank's REO portfolio for the three months ended on each of the indicated dates: For the Three Months Ended ------------------------------------------- March June September December 1996 1996 1996 1996 --------- --------- ----------- ----------- (Dollars in thousands) Balance, beginning of period........ $1,869 $1,667 $1,764 $1,929 Foreclosures and other acquisitions. 207 415 364 -- Less: Sales......................... 466 313 190 756 Reductions(1)................. (57) 5 9 (45) --------- --------- ----------- ----------- Balance, end of period.............. $1,667 $1,764 $1,929 $1,218 ========= ========= =========== =========== (1) Reductions include provisions for losses on REO and payments received subsequent to foreclosure from private mortgage insurance and from court appointed receivers. The following table sets forth the approximate change in the allowance for losses on REO for the three years ended December 31, 1996: For the Years Ended December 31, ---------------------------------- 1996 1995 1994 ---------- -------- ----------- (Dollars in thousands) ---------------------------------- Balance, beginning of year ....... $ 388 $ 774 $1,028 Provision ........................ 219 311 575 Less: Reduction due to sale of ORE (326) 697 829 ---------- -------- -------- Balance, end of year ............. $ 281 $ 388 $ 774 ========== ======== ======== Although the Bank currently obtains environmental reports in connection with the underwriting of commercial real estate loans, it obtains environmental reports in connection with the underwriting of multi-family and other loans only if the nature of the current or, to the extent known to the Bank, prior use of the property securing the loan indicates a potential environmental risk. However, the Bank may not be aware of such uses or risks in any particular case, and, accordingly, there is no assurance that real estate acquired by the Bank in foreclosure is free from environmental contamination or that, if any such contamination or other violation exists, the Bank will not have any liability therefor. Classified and Special Mention Assets. Federal regulations and Bank policy require the classification of loans and other assets, such as debt and equity securities considered to be of lesser quality, as "substandard," "doubtful" or "loss" assets. An asset is considered "substandard" if it is inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. "Substandard" assets include those characterized by the "distinct possibility" that the institution will sustain "some loss" if the deficiencies are not corrected. Assets classified as "doubtful" have all of the weaknesses inherent in those classified "substandard," with the added characteristic that the weaknesses present make "collection or liquidation in full," on the basis of currently existing facts, conditions and values, "highly questionable and improbable." Assets classified as "loss" are those considered "uncollectable" and of such little value that their continuance as assets without the establishment of a specific loss reserve is not warranted. Assets which do not currently expose the Bank to sufficient risk to warrant classification in one of the aforementioned categories but possess weaknesses are designated "special mention." The Bank has a loan secured by a fully occupied one-story retail building with six stores, located in Queens, that is listed as special mention. The Bank has completed its foreclosure action and has been granted judgment on foreclosure. The mortgagor has agreed to make full monthly payments plus additional payments to be applied towards the arrears. At December 31, 1996, all payments due under the borrower's agreement were current and the net book value of the loan was $1.5 million. Since this loan is performing in accordance with the terms of the borrower's agreement, it is recorded on an accrual basis. At December 31, 1996, the Bank had no other classified asset (or group of assets) listed as substandard or special mention with a net book value of 16 $1.0 million or more. Net book value of REO is the lower of carrying amount or fair value less estimated selling costs. Allowance for Loan Losses The Bank has established and maintains on its books an allowance for loan losses that is designed to provide reserves for estimated losses inherent in the Bank's overall loan portfolio. The allowance is established through a provision for loan losses based on management's evaluation of the risk inherent in the various components of its loan portfolio and other factors, including historical loan loss experience, changes in the composition and volume of the portfolio, collection policies and experiences, trends in the volume of non-accrual loans and regional and national economic conditions. The determination of the amount of the allowance for loan losses includes estimates that are susceptible to significant changes due to changes in appraisal values of collateral, national and regional economic conditions and other factors. In connection with the determination of the allowance, the market value of collateral ordinarily is evaluated by the Bank's staff appraiser; however, the Bank may from time to time obtain independent appraisals for significant properties. Current year charge-offs, charge-off trends, new loan production and current balance by particular loan categories also are taken into account in determining the appropriate amount of the allowance. In assessing the adequacy of the allowance, management reviews the Bank's loan portfolio by separate categories which have similar risk and collateral characteristics; e.g. commercial real estate, multi-family real estate, one-to-four family loans, co-operative apartment loans and consumer loans. General provisions are established against performing loans in the Bank's portfolio in amounts deemed prudent from time to time based on the Bank's qualitative analysis of the factors described above. The determination of the amount of the allowance for loan losses also includes a review of loans on which full collectability is not reasonably assured. The primary risk element considered by management with respect to each consumer and one-to-four family and cooperative apartment loan is any current delinquency on the loan. The primary risk elements considered with respect to commercial real estate and multi-family loans are the financial condition of the borrower, the sufficiency of the collateral (including changes in the value of the collateral) and the record of payment. When a judgment is made that a specific loan involves a risk of default and loss that is greater than the norm for loans in the relevant category, that loan or a portion thereof may be classified loss, doubtful or substandard. In addition, loans that are judged not to require specific classification at a particular time, but require close monitoring, are categorized as "special mention" loans. See "--Classified Assets." The Bank establishes two types of reserves: specific reserves and general valuation reserves. Specific reserves are established to reflect an actual loss or the best estimate of the risk of loss on a specific loan as of a certain date. All specific reserves are equivalent to direct charge-offs and are reflected as direct reductions to the allowance for loan losses and the related loan balances. Specific reserves are established for 100% of the portion of loans that are classified as loss. General valuation reserves represent allowances that have been established to recognize the inherent risk associated with lending activities. With respect to loans classified by the Bank as substandard and the portion of loans classified doubtful or categorized as special mention, the Bank will make additional provision to its general valuation reserves in an amount equal to a percentage of principal amount outstanding at the time, currently ranging from 1.5% to 15%, which is determined from time to time by the Bank according to loan type and classification. Additional provisions may be made to the general valuation allowance to cover loans which are deemed not to require classification or categorization as special mention, but are performing loans where the Bank has knowledge that the financial condition of the borrower has deteriorated. Provisions to the Bank's general valuation allowance are charged against net income. In addition, when real estate loans are foreclosed, the loan balance is compared to the fair value of the property. The Bank evaluates the fair market value of properties on the basis of information readily available to the Bank at the time the properties are classified as REO. If the carrying value of the loan at the time of foreclosure exceeds the fair value of the property, the difference is charged to the allowance for loan losses and the fair value of the property becomes the book value of the REO. The REO is subsequently carried at the lower of 17 the carrying value of the loan or the fair value of the property less estimated costs of sale with any further adjustment reflected as a charge against earnings. See "--Asset Quality--REO." The Bank's determination as to the classification of its assets and the amount of its valuation allowances is subject to review by the OTS and the Federal Deposit Insurance Corporation ("FDIC"), which can require the establishment of additional general allowances or specific loss allowances or require charge-offs. Such authorities may require the Bank to make additional provisions to the allowance based on their judgments about information available to them at the time of their examination. An OTS policy statement provides guidance for OTS examiners in determining whether the levels of general valuation allowances for savings institutions are adequate. The policy statement requires that if a savings institution's general valuation allowance policies and procedures are deemed to be inadequate, the general valuation allowance would be compared to certain ranges of general valuation allowances deemed acceptable by the OTS depending in part on the savings institution's level of classified assets. The Bank's provision for loan losses was $418,000, $496,000 and $246,000 for the years ended December 31, 1996, 1995 and 1994, respectively. At December 31, 1996, the total allowance for loan losses was $5.4 million, representing 225.79% of non-performing loans and 149.94% of non-performing assets, an increase from the December 31, 1995 ratios of 106.61% and 77.52% respectively. The Bank continues to monitor and modify the level of its allowance for loan losses in order to maintain the allowance at a level which management considers adequate to provide for potential loan losses based on available information. Management of the Bank believes that the current allowance for loan losses is adequate in light of current economic conditions and the composition of its loan portfolio and other available information and the Board of Directors concurs in this belief. However, many factors may require additions to the allowance for loan losses in future periods beyond those reasonably anticipated. These factors include future adverse changes in economic conditions, changes in interest rates and changes in the financial capacity of individual borrowers (any of which may affect the ability of borrowers to make repayments on loans), changes in the local real estate market and the value of collateral, or a review and evaluation of the Bank's loan portfolio in the future. The determination of the amount of the allowance for loan losses includes estimates that are susceptible to significant changes due to changes in appraisal values of collateral, national and regional economic conditions, interest rates and other factors. In addition, the Bank's increased emphasis on commercial real estate and multi-family loans can be expected to increase the overall level of credit risk inherent in the Bank's loan portfolio. The greater risk associated with commercial real estate and multi-family loans may require the Bank to increase its provisions for loan losses and to maintain an allowance for loan losses as a percentage of total loans that is in excess of the allowance currently maintained by the Bank. Provisions for loan losses are charged against net income. See "--Lending Activities" and "--Asset Quality." The following table sets forth the Bank's allowance for loan losses at and for the dates indicated.
For the Years Ended December 31, ------------------------------------------------ 1996 1995 1994 1993 1992 -------- -------- -------- -------- -------- (Dollars in thousands) Balance at beginning of year ............... $5,310 $5,370 $5,723 $4,555 $3,242 Provision for loan losses .................. 418 496 246 2,522 2,809 Loans charged-off: One-to-four family .................... 220 312 341 287 494 Co-operative .......................... 162 183 71 33 120 Multi-family .......................... 41 251 14 344 389 Commercial ............................ 68 260 303 716 669 Construction .......................... -- -- -- -- -- Other ................................. 44 46 65 147 83 -------- -------- -------- -------- -------- Total loans charged-off ............... 535 1,052 794 1,527 1,755 -------- -------- -------- -------- -------- Recoveries: Mortgage loans ........................ 244 496 195 173 -- Other ................................. -- -- -- -- 259 -------- -------- -------- -------- -------- Total recoveries ...................... 244 496 195 173 259 -------- -------- -------- -------- -------- Balance at end of year ..................... $5,437 $5,310 $5,370 $5,723 $4,555 ======== ======== ======== ======== ======== Ratio of net charge-offs during the year to average loans outstanding during the year 0.09% 0.21% 0.24% 0.47% 0.47%
18
For the Years Ended December 31, ------------------------------------------------ 1996 1995 1994 1993 1992 -------- -------- -------- -------- -------- (Dollars in thousands) Ratio of allowance for loan losses to gross loans at end of year ................ 1.39% 1.85% 2.07% 2.19% 1.51% Ratio of allowance for loan losses to non-performing loans at the end of year.... 225.79% 106.61% 101.11% 48.94% 20.49% Ratio of allowance for loan losses to non-performing assets at the end of year... 149.94% 77.52% 61.17% 29.41% 14.81%
19 The following table sets forth the Bank's allocation of its allowance for loan losses to the total amount of loans in each of the categories listed at the dates indicated. The numbers contained in the "Amount" column indicate the allowance for loan losses allocated for each particular loan category. The numbers contained in the column entitled "Percentage of Loans in Category to Total Loans" indicate the total amount of loans in each particular category as a percentage of the Bank's total loan portfolio.
At December 31, ---------------------------------------------------------------------------------------------------- 1996 1995 1994 1993 1992 ------------------- -------------------- --------------------- ------------------ ------------------- Percentage Percentage Percentage Percentage Percentage of of of of of Loans in Loans in Loans in Loans in Loans in Category Category Category Category Category to Total to Total to Total to Total to Total Loan Category Amount Loans Amount Loans Amount Loans Amount Loans Amount Loans ------------- ------- -------- -------- -------- -------- -------- -------- -------- -------- ------ (Dollars in thousands) Mortgage Loans: One-to-four family ..... $223,273 57.28% $ 1,126 54.20% $ 1,132 51.39% $ 957 51.61% $ 866 56.10% Co-operative ........... 13,245 3.40 407 5.11 125 6.24 38 6.54 68 6.48 Multi-family ........... 104,870 26.91 1,625 24.11 1,024 21.85 1,171 18.91 1,207 18.11 Commercial ............. 46,698 11.98 2,139 15.77 3,070 19.13 3,507 20.77 2,164 17.97 Construction ........... -- -- -- -- -- 0.14 -- 0.72 -- -- -------- -------- -------- -------- -------- -------- -------- -------- -------- ------- Total mortgage loans . 388,086 99.57 5,297 99.19 5,351 98.75 5,673 98.55 4,305 98.66 Other loans ............ 1,680 0.43 13 0.81 19 1.25 50 1.45 250 1.34 -------- -------- -------- -------- -------- -------- -------- -------- -------- ------- Total ................ $389,766 100.00% $ 5,310 100.00% $ 5,370 100.00% $ 5,723 100.00% $ 4,555 100.00% ======== ======== ======== ======== ======== ======== ======== ======== ======== -======
20 Investment Activities General. The investment policy of the Company, which is approved by the Board of Directors, is designed primarily to manage the interest rate sensitivity of its overall assets and liabilities, to generate a favorable return without incurring undue interest rate and credit risk, to complement the Bank's lending activities and to provide and maintain liquidity. In establishing its investment strategies, the Company considers its business and growth strategies, the economic environment, its interest rate sensitivity "gap" position, the types of securities to be held, and other factors. See "Management's Discussion and Analysis of Financial Condition and Results of Operation--Management Strategy," included in the Annual Report and incorporated herein by reference. Federally chartered savings institutions have authority to invest in various types of assets, including U.S. government obligations, securities of various federal agencies, mortgage-backed and mortgage-related securities, certain certificates of deposit of insured banks and savings institutions, certain bankers acceptances, repurchase agreements, loans of federal funds, and, subject to certain limits, corporate securities, commercial paper and mutual funds. All mortgage-backed securities held by the Bank are directly or indirectly insured or guaranteed by FNMA, FHLMC or the Government National Mortgage Association ("GNMA"). The Investment Committee of the Bank and the Company meets quarterly to monitor investment transactions and to establish investment strategy. The Board of Directors reviews the investment policy on an annual basis and investment activity on a monthly basis. SFAS 115, which was adopted by the Company, effective December 31, 1993, requires that investments in equity securities that have readily determinable fair values and all investments in debt securities are to be classified in one of the following three categories and accounted for accordingly: (1) trading securities; (2) securities available for sale; and (3) securities held to maturity. Unrealized gains or losses on trading securities would be included in the determination of net income; however, the Company does not intend to trade securities. Unrealized gains and losses for available-for-sale securities are excluded from earnings and reported as a net amount in a separate component of equity, net of taxes. At December 31, 1996, the Company had $331.9 million in securities available for sale which represented 42.81% of total assets. These securities had an aggregate market value at that date that was approximately 2.5 times the amount of the Company's equity at that date. The cumulative balance of unrealized loss on securities available for sale was $1.2 million, net of taxes, at December 31, 1996. As a result of SFAS 115 and the magnitude of the Company's holdings of securities available for sale, changes in interest rates could produce significant changes in the value of such securities and could produce significant fluctuations in the equity of the Company. See Note 7 of "Notes to Consolidated Financial Statements," included in the Annual Report and incorporated herein by reference. The Company may from time to time sell securities and realize a loss if the proceeds of such sale may be reinvested in loans or other assets offering more attractive yields. In November 1995, the Financial Accounting Standards Board ("FASB") issued a special report entitled "A Guide to Implementation of Statement #115 on Accounting for Certain Investments in Debt and Equity Securities", which gave the Company a one-time opportunity to reconsider its ability and intent to hold securities to maturity, and allowed the Company to transfer securities from held-to-maturity to other categories without tainting its remaining held-to-maturity securities. Accordingly, on December 29, 1995, the Company moved all securities classified as held-to-maturity to available-for-sale, totaling $94.7 million, net of a $1.4 million unrealized gain. At December 31, 1996, the Company had no investment in a particular issuer's securities that either alone, or together with any investments in the securities of any affiliate(s) of such issuer, exceeded 10% of the Company's equity. 21 The table below sets forth certain information regarding the amortized cost and market values of the Company's securities portfolio at the dates indicated. Securities held for investment/to maturity are recorded at amortized cost. Securities available for sale are recorded at market value. See Note 7 of Notes to Consolidated Financial Statements, included in the Annual Report, incorporated herein by reference.
At December 31, ------------------------------------------------------------------------- 1996 1995 1994 --------------------- --------------------- ---------------------- Amortized Market Amortized Market Amortized Market Cost Value Cost Value Cost Value -------- -------- -------- -------- -------- -------- (In thousands) Securities held for investment/to maturity: Bond and other debt securities: ...................... -- -- -- -- -- -- U.S. government and agencies ....................... -- -- -- -- -- -- Obligations of states & political subdivisions .......................... -- -- -- -- $ 1,241 $ 1,243 Corporate debt ..................................... -- -- -- -- 876 876 Public utility ..................................... -- -- -- -- -- -- -------- -------- -------- -------- -------- -------- Total bonds and other debt securities .............. -- -- -- -- 2,117 2,119 -------- -------- -------- -------- -------- -------- Equity securities: Redeemable preferred stock(1) ...................... -- -- -- -- 5,736 5,641 -------- -------- -------- -------- -------- -------- Total equity securities: ........................... -- -- -- -- 5,736 5,641 -------- -------- -------- -------- -------- -------- Mortgage-backed securities: FHLMC .............................................. -- -- -- -- 37,076 35,537 FNMA ............................................... -- -- -- -- 40,453 36,210 GNMA ............................................... -- -- -- -- 5,563 5,119 Collateralized mortgage ............................ -- -- -- -- -- -- obligations -------- -------- -------- -------- -------- -------- Total mortgage-backed securities ................... -- -- -- -- 83,092 76,866 -------- -------- -------- -------- -------- -------- Total debt and equity securities held for investment/to maturity ...................... -- -- -- -- 90,945 84,626 ======== ======== ======== ======== ======== ======== Securities available for sale: Bonds and other debt securities: U.S. government and agencies ....................... $150,045 $148,141 $116,296 $116,728 50,776 46,949 Corporate debentures ............................... 37,656 38,171 77,227 78,662 54,620 52,995 Public utility ..................................... 4,305 4,294 6,389 6,501 3,979 3,975 -------- -------- -------- -------- -------- -------- Total bonds and other debt securities ......................................... 192,006 190,606 199,912 201,891 109,375 103,919 -------- -------- -------- -------- -------- -------- Equity securities: Perpetual preferred stock(1) ....................... 250 251 250 256 250 211 -------- -------- -------- -------- -------- -------- Total equity securities ............................ 250 251 250 256 250 211 -------- -------- -------- -------- -------- -------- Mortgage-backed securities: FHLMC .............................................. 47,217 46,406 61,529 61,845 24,760 22,709 FNMA ............................................... 83,727 83,756 105,374 106,265 67,936 62,205 GNMA ............................................... 10,973 10,876 11,354 11,190 7,537 6,933 -------- -------- -------- -------- -------- -------- Total mortgage-backed securities.................... 141,917 141,038 178,257 179,300 100,233 91,847 -------- -------- -------- -------- -------- -------- Total debt and equity securities available for sale: ................................ 334,173 331,895 378,419 381,447 209,858 195,977 ======== ======== ======== ======== ======== ======== Interest-bearing deposits and federal funds sold ................................. 27,465 27,465 7,438 7,438 9,000 9,000 FHLB - New York stock ................................ 4,158 4,158 3,787 3,787 1,881 1,881 -------- -------- -------- -------- -------- -------- Total debt and equity securities ................... $365,796 $363,518 $389,644 $392,672 $311,684 $291,484 ======== ======== ======== ======== ======== ========
- ---------------- (1) Acquired prior to the Bank's Conversion to federal mutual charter. Generally, federal savings banks are not permitted to invest in equity securities. In connection with the Bank's conversion to a federal charter, the OTS has permitted the Bank to retain such securities up to May 10, 1997. Mortgage-backed securities. All of the mortgage-backed securities currently held by the Company are issued or guaranteed by FNMA, FHLMC or GNMA. At December 31, 1996, the Company had $141 million invested in mortgage-backed securities, of which $50.2 million was invested in adjustable-rate mortgage-backed securities. The Company anticipates that investments in mortgage-backed securities may continue to be used in the future to offset any significant decrease in demand for mortgage loans. 22 The following table sets forth the Company's mortgage-backed securities purchases, securitizations, sales and principal repayments for the years indicated:
For the Years Ended December 31, ----------------------------------- 1996 1995 1994 --------- --------- --------- (In thousands) At beginning of year ..................................... $ 179,300 $ 174,939 $ 167,338 Purchases of mortgage-backed securities ............. 8,415 21,444 72,180 Loans securitized ................................... -- -- 15,792 Amortization of unearned premium, net of accretion of unearned discount ................... (908) (849) (1,525) Net change in unrealized gains (losses) on mortgage-backed .......................................... (2,249) 9,427 (9,373) securities available for sale Less: Sales of mortgage-backed securities ................. 4,742 -- 28,378 Principal repayments received on mortgage-backed securities ....................................... 38,778 25,661 41,095 --------- --------- --------- Net (decrease) increase in mortgage-backed securities (38,262) 4,361 7,601 --------- --------- --------- At end of year ........................................... $ 141,038 $ 179,300 $ 174,939 ========= ========= =========
Mortgage-backed securities are more liquid than individual mortgage loans and may be used more easily to collateralize obligations of the Bank. In general, mortgage-backed securities issued or guaranteed by FNMA, FHLMC and GNMA are weighted at no more than 20% for risk-based capital purposes, compared to the risk weighting assigned to non-securitized whole loans of 50%. While mortgage-backed securities carry a reduced credit risk as compared to whole loans, such securities remain subject to the risk that a fluctuating interest rate environment, along with other factors such as the geographic distribution of the underlying mortgage loans, may alter the prepayment rate of such mortgage loans and so affect both the prepayment speed and value of such securities. At December 31, 1996, the Bank held one collateralized mortgage obligation ("CMO") with a market value of $4.5 million. The Bank does not have any derivative instruments, including CMO's, with market values that are extremely sensitive to changes in interest rates. 23 The table below sets forth certain information regarding the carrying value, annualized weighted average yields, and maturities of the Company's debt and equity securities at December 31, 1996. The stratification of balances is based on stated maturities. Assumptions for repayments and prepayments are not reflected for mortgage-backed securities.
At December 31, 1996 ---------------------------------------------------------- One Year or Less One to Five Years Five to Ten Years ------------------ ------------------- ------------------- Weighted Weighted Weighted Amortized Average Amortized Average Amortized Average Cost Yield Cost Yield Cost Yield -------- ----- -------- ----- -------- ----- (Dollars in thousands) Securities available for sale: Bonds and other debt securities: U.S. government agencies ..... $ 500 7.50% $ 21,018 6.30% $121,527 6.91% Corporate debt ............... 5,677 8.87 26,151 7.72 1,666 7.80 Public Utility ............... -- -- 4,305 7.06 -- -- -------- ---- -------- ---- -------- ---- Total bonds and other securities ................. 6,177 8.76 51,474 7.08 123,193 6.92 -------- ---- -------- ---- -------- ---- Equity securities: Perpetual preferred stock .... -- -- -- -- -- -- -------- ---- -------- ---- -------- ---- Total equity securities ...... -- -- -- -- -- -- -------- ---- -------- ---- -------- ---- Mortgage-backed securities: FHLMC ........................ -- -- 1,310 7.11 892 6.44 FNMA ......................... -- -- 3,462 6.13 730 7.50 GNMA ......................... -- -- -- -- 874 7.44 -------- ---- -------- ---- -------- ---- Total mortgage-backed securities ................. -- -- 4,772 6.40 2,496 7.10 -------- ---- -------- ---- -------- ---- Federal funds sold ............. 27,465 6.26 -- -- -- -- FHLB - New York stock .......... -- -- -- -- -- -- -------- ---- -------- ---- -------- ---- Total securities ............... $ 33,642 6.72% $ 56,246 7.03% $125,689 6.93% ======== ==== ======== ==== ======== ====
At December 31, 1996 ----------------------------------------------------------- More than Ten Years Total Securities ------------------- -------------------------------------- Average Weighted Remaining Estimated Weighted Amortized Average Years to Amortized Market Average Cost Yield Maturity Cost Value Yield -------- ----- -------- ----- -------- ----- (Dollars in thousands) Securities available for sale: Bonds and other debt securities: U.S. government agencies ..... $ 7,000 7.06% 8.09 $150,045 $148,141 6.83% Corporate debt ............... 4,162 5.93 4.10 37,656 38,171 7.70 Public Utility ............... -- -- 3.69 4,305 4,294 7.06 ------ ---- ---- ------- ------- ---- Total bonds and other ........ securities ................. 11,162 6.64 7.21 192,006 190,606 7.01 ------ ---- ---- ------- ------- ---- Equity securities: Perpetual preferred stock .... 250 6.72 -- 250 251 6.72 ------ ---- ---- ------- ------- ---- Total equity securities ...... 250 6.72 -- 250 251 6.72 ------ ---- ---- ------- ------- ---- Mortgage-backed securities: FHLMC ........................ 45,015 7.14 19.25 47,217 46,406 7.13 FNMA ......................... 79,535 6.99 19.90 83,727 83,756 6.96 GNMA ......................... 10,099 7.10 21.80 10,973 10,876 7.13 ------ ---- ---- ------- ------- ---- Total mortgage-backed ........ securities ................. 134,649 7.05 19.83 141,917 141,038 7.03 ------ ---- ---- ------- ------- ---- Federal funds sold ............. -- -- -- 27,465 27,465 6.26 FHLB - New York stock .......... 4,158 6.61 -- 4,158 4,158 6.61 ------ ---- ---- ------- ------- ---- Total securities ............... $150,219 7.01% 11.48 $365,796 $363,518 6.95% ------ ---- ---- ------- ------- ----
24 Sources of Funds General. Deposits, principal and interest payments on loans, mortgage-backed and other securities, proceeds from sales of loans and securities and, to a lesser extent, Federal Home Loan Bank of New York ("FHLB-NY") borrowings, are the Company's primary sources of funds for lending, investing and other general purposes. Deposits. The Bank offers a variety of deposit accounts having a range of interest rates and terms. The Bank's deposits principally consist of passbook accounts, money market accounts, demand accounts, NOW accounts and certificates of deposit. The Company has a relatively stable retail deposit base drawn from its market area through its seven full service offices. The Company seeks to retain existing depositor relationships by offering quality service and competitive interest rates, while keeping deposit growth within reasonable limits. It is management's intention to balance its goal to remain competitive in interest rates on deposits while seeking to manage its cost of funds to fund its strategies The Company's core deposits, consisting of passbook accounts, NOW accounts, money market, and non-interest bearing demand accounts, are typically more stable and lower cost than other sources of funding. However, the flow of deposits into a particular type of account is influenced significantly by general economic conditions, changes in money market and prevailing interest rates and competition. During the low interest rate environment in 1995 and 1996, the Company experienced a shift by depositors from passbook accounts to higher costing certificate of deposit accounts. Although the Company has not had to raise interest rates on its passbook accounts to remain competitive, it has had to increase the rates offered on its certificates of deposit. These trends contributed to the increase in the Company's higher average cost of funds from 3.37% for 1994, to 4.15% for 1995 and to 4.39% for 1996. A continuation of these trends could result in a further increase in the Company's cost of funds and a narrowing of the Company's net interest margin. At December 31, 1996, $22.0 million, or 3.77% of the Bank's total deposits consisted of certificates of deposit accounts with a balance of $100,000 or greater. 25 The following table sets forth the distribution of the Bank's deposit accounts at the dates indicated and the weighted average nominal interest rates on each category of deposits presented.
At December 31, ------------------------------------------------------------------------------------- 1996 1995 1994 --------------------------- ---------------------------- ---------------------------- Weighted Weighted Weighted Percent Average Percent Average Percent Average of Total Nominal of Total Nominal of Total Nominal Amount Deposits Rate Amount Deposits Rate Amount Deposits Rate ------ -------- ---- ------ -------- ---- ------ -------- ---- (Dollars in thousands) Passbook accounts(1) ................... $209,690 35.88% 2.86% $215,578 38.52% 2.86% $255,037 47.93% 2.86% NOW accounts(1) ........................ 21,408 3.66 1.90 19,565 3.49 1.90 18,773 3.53 1.90 Demand accounts(1) ..................... 10,293 1.76 -- 10,372 1.85 -- 10,003 1.88 -- Mortgagors' escrow deposits(1) ......... 3,425 0.59 2.00 2,457 0.44 2.00 2,701 0.51 2.00 -------- ------ ---- -------- ------ ---- -------- ------ ---- Total ............................. 244,816 41.89 2.64 247,972 44.30 2.66 286,514 53.85 2.69 -------- ------ ---- -------- ------ ---- -------- ------ ---- Money market accounts(1) ............... 25,180 4.31 2.81 27,590 4.93 2.81 36,293 6.82 2.81 -------- ------ ---- -------- ------ ---- -------- ------ ---- Certificate of deposit accounts: $100,000 or more ..................... 22,047 3.77 5.86 16,819 3.00 5.93 10,345 1.94 5.00 CD's original maturity of: 6 months and less ................. 50,228 8.59 5.04 46,617 8.33 5.05 39,795 7.48 4.04 6 to 12 months .................... 74,063 12.67 5.15 71,235 12.72 5.70 45,075 8.47 4.19 12 to 30 months ................... 86,853 14.87 6.20 71,297 12.73 6.06 39,235 7.37 4.54 30 to 48 months ................... 15,307 2.62 6.10 10,340 1.85 5.86 7,348 1.38 5.21 48 to 72 months ................... 47,079 8.05 6.10 47,445 8.47 6.25 43,821 8.23 6.14 72 months or more ................. 901 0.15 5.90 929 0.17 5.90 1,940 0.37 5.99 IRA and Keogh accounts ................. 18,005 3.08 5.54 19,620 3.50 5.89 21,775 4.09 4.87 -------- ------ ---- -------- ------ ---- -------- ------ ---- Total ............................. 314,483 53.80 5.69 284,302 50.77 5.81 209,334 39.33 4.80 -------- ------ ---- -------- ------ ---- -------- ------ ---- Total deposits ......................... $584,479 100.00% 4.29% $559,864 100.00% 4.27% $532,141 100.00% 3.53% ======== ====== ==== ======== ====== ==== ======== ====== ====
(1) Weighted average nominal rate as of the year end date equals the stated rate offered. 26 The following table presents by various rate categories, the amount of certificate of deposit accounts outstanding at the dates indicated and the years to maturity of the certificate accounts outstanding at December 31, 1996.
At December 31, 1996 -------------------------------------- At December 31, Within One to ---------------------------- One Three There- 1996 1995 1994 Year Years after Total ---- ---- ---- ---- ----- ----- ----- (In thousands) Certificate of deposit accounts: 2.99 or less............... $ 37 $ 47 $ 125 $ 37 -- -- $ 37 3.00 to 3.99............... -- 2 57,886 -- -- -- -- 4.00 to 4.99............... 28,283 21,338 64,476 27,647 $ 636 -- 28,283 5.00 to 5.99............... 192,557 150,410 53,040 133,944 50,321 $ 8,292 192,557 6.00 to 6.99............... 59,822 75,448 22,990 23,783 25,147 10,892 59,822 7.00 to 7.99............... 33,784 37,057 8,976 534 31,423 1,827 33,784 8.00 to 8.99............... 1,841 -- -------- -------- -------- -------- -------- ------- -------- Total.................... $314,483 $284,302 $209,334 $185,945 $107,527 $21,011 $314,483 ======== ======== ======== ======== ======== ======= ========
The following table presents by various maturity categories the amount of certificate of deposit accounts with balances of $100,000 or more at December 31, 1996 and their annualized weighted average interest rates. Weighted Average Amount Rate ------- ---- (In thousands) Maturity Period Three months or less .................. $ 6,693 5.73% Over three through six months ......... 3,286 5.39 Over six through 12 months ............ 3,818 5.57 Over 12 months ........................ 8,250 6.29 ------- ---- Total ............................... $22,047 5.86% ======= ==== The following table presents the deposit activity of the Bank for the periods indicated. For the Years Ended December 31, ------------------------------------- 1996 1995 1994 --------- --------- --------- (In thousands) Deposits(1)(2) ...................... $ 626,121 $ 793,356 $ 773,835 Withdrawals(2) ...................... 625,668 787,980 822,453 --------- --------- --------- Net deposits\(withdrawals) ....... 453 5,376 (48,618) Interest credited on deposits ....... 24,162 22,347 19,303 --------- --------- --------- Total increase in deposits ..... $ 24,615 $ 27,723 $ (29,315) ========= ========= ========= - ------------ (1) Includes mortgagors' escrow deposits. (2) Reflects deposits attributable to subscription orders in the first proposed stock conversion discontinued in 1994, in the amounts of $162.9 million deposited and $163.8 million withdrawn, and in the Conversion in 1995, in the amounts of $146.0 million deposited and $162.4 million withdrawn. 27 The following table sets forth the distribution of the Bank's average deposit accounts for the years indicated, the percentage of total deposit portfolio, and the average interest cost of each deposit category presented. Average balances for all years shown are derived from daily balances.
For The Years Ended December 31, ------------------------------------------------------------------------------------- 1996 1995 1994 --------------------------- --------------------------- --------------------------- Percent Percent Percent Average of Total Average Average of Total Average Average of Total Average Balance Deposits Cost Balance Deposits Cost Balance Deposits Cost ------- -------- ---- ------- -------- ---- ------- -------- ---- (Dollars in thousands) Passbook accounts ....................... $214,843 37.55% 2.86% $227,740 40.73% 2.84% $277,249 47.41% 2.85% NOW accounts ............................ 19,483 3.41 1.90 18,520 3.31 1.88 19,163 3.28 1.89 Demand accounts ......................... 10,230 1.79 -- 12,865 2.30 -- 9,602 1.64 -- Mortgagors' escrow deposits ............. 4,292 0.75 1.47 4,136 0.74 1.38 4,008 0.69 1.25 -------- ------ ---- -------- ------ ---- -------- ------ ---- Total ................................ 248,848 43.50 2.64 263,261 47.08 2.61 310,022 53.02 2.68 Money market accounts ................... 26,470 4.63 2.80 31,145 5.57 2.79 42,026 7.19 2.75 Subscription deposits ................... -- -- -- 4,261 0.76 2.77 28,265 4.83 3.05 Certificate of deposit accounts ................................ 296,867 51.87 5.68 260,462 46.59 5.60 204,399 34.96 4.39 -------- ------ ---- -------- ------ ---- -------- ------ ---- Total deposits ....................... $572,185 100.00% 4.22% $559,129 100.00% 4.01% $584,712 100.00% 3.30% ======== ====== ==== ======== ====== ==== ======== ====== ====
28 Borrowings. Although deposits are the Bank's primary source of funds, the Bank has from time to time used borrowings as an alternative and cost effective source of funds for the Bank's lending activities. Upon the Bank's conversion from a New York State chartered mutual savings bank to a federally chartered mutual savings bank on May 10, 1994, the Bank became a member of, and became eligible to obtain advances from, the FHLB-NY. Such advances generally are secured by a blanket lien against the Bank's mortgage portfolio and the Bank's investment in the stock of the FHLB-NY. See "Regulations -- Federal Home Loan Bank System". The maximum amount that the FHLB-NY will advance for purposes other than for meeting withdrawals fluctuates from time to time in accordance with the policies of the FHLB-NY. The following table sets forth certain information regarding the Bank's borrowed funds at or for the periods ended on the dates indicated.
At or For the Years Ended December 31, ------------------------------------- 1996 1995 1994 ------- ------- ------- (Dollars in Thousands) Securities sold with the agreement to repurchase: Average balance outstanding ................ -- $ 395 $ 260 Maximum amount outstanding at any month end during the period .................... -- 5,000 5,000 Balance outstanding at the end of period ... -- -- 5,000 Weighted average interest rate during the period ............................... -- 6.11% 6.10% Weighted average interest rate at end of period ................................ -- -- 5.99% FHLB-NY advances: Average balance outstanding ................ $36,396 $ 4,767 $ 247 Maximum amount outstanding at any month end during the period .................... 51,000 10,000 10,000 Balance outstanding at the end of period ... 51,000 -- 10,000 Weighted average interest rate during the period ............................... 5.77% 7.00% 7.00% Weighted average interest rate at end of period ................................ 5.85% -- 7.00% Total borrowings: Average balance outstanding ................ $36,396 $ 5,162 $ 507 Maximum amount outstanding at any month end during the period .................... 51,000 15,000 15,000 Balance outstanding at the end of period ... 51,000 -- 15,000 Weighted average interest rate during the period ............................... 5.77% 6.93% 6.54% Weighted average interest rate at end of period ................................ 5.85% -- 6.66%
Subsidiary Activities The Bank has one wholly-owned subsidiary, which currently is inactive. FSB Properties Inc. ("Properties") was formed by the Bank in 1976 under its New York State leeway investment authority. The original purpose of Properties was to engage in joint venture real estate equity investments. These activities were discontinued by Properties and the Bank in 1986. The last joint venture in which Properties was a partner was dissolved in 1989. 29 Personnel At December 31, 1996, the Bank had 172 full-time employees and 64 part-time employees. None of the Bank's employees are represented by a collective bargaining unit, and the Bank considers its relationship with its employees to be good. RISK FACTORS In addition to the other information contained in this Annual Report on Form 10-K, the following factors and other considerations should be considered carefully in evaluating the Company, the Bank and their business. Effect of Interest Rates Like most financial institutions, the Company's results of operations depends to a large degree on its net interest income. When interest-bearing liabilities mature or reprice more quickly than interest-earning assets, a significant increase in market interest rates could adversely affect net interest income. Conversely, under such circumstances, a significant decrease in market interest rates could result in increased net interest income. As a general matter, the Company seeks to manage its business to limit its overall exposure to interest rate fluctuations. However, fluctuations in market interest rates are neither predictable nor controllable and may have a material adverse impact on the operations and financial condition of the Company. Prevailing interest rates also affect the extent to which borrowers prepay and refinance loans. Declining interest rates tend to result in an increased number of loan prepayments and loan refinancings to lower than original interest rates, as well as prepayments of mortgage-backed securities. Such prepayments adversely affect the average yield on the Company's loan and mortgage-backed securities portfolio, the value of mortgage loans and mortgage-backed securities in the Company's portfolio, the levels of such assets that are retained by the Company, net interest income and loan servicing income. However, the Bank may receive additional loan fees when existing loans are refinanced, which may partially offset reduced yield on the Bank's loan portfolio resulting from prepayments. In periods of low interest rates, the Bank's level of core deposits also may decline if depositors seek higher yielding instruments or other investments not offered by the Bank, which in turn may increase the Bank's cost of funds and decrease its net interest margin to the extent alternative funding sources are utilized. Lending Activities Multi-family and commercial real estate loans, the increased origination of which is part of management's strategy, are generally viewed as exposing the lender to a greater risk of loss than fully underwritten one-to-four family residential loans and typically involve higher principal amounts per loan. Repayment of multi-family and commercial real estate loans generally is dependent, in large part, upon sufficient income from the property to cover operating expenses and debt service. Economic events and government regulations, which are outside the control of the borrower or lender, also could affect the value of the security for the loan or the future cash flow of the affected properties. As a result of management's strategy to increase its originations of one-to-four family mortgage loans through more aggressive marketing, and the Bank's commitment to be a community-oriented bank, the Bank increased substantially in 1996 the origination of residential mortgage loans to self-employed individuals within the Bank's local community without verification of the borrower's level of income. These loans involve a higher degree of risk as compared to the Bank's other fully underwritten residential mortgage loans as there is a greater opportunity for borrowers to falsify or overstate their level of income and ability to service indebtedness. To mitigate this risk, the Bank typically limits the amount of these loans to 70% of the appraised value or sale price, whichever is less. These loans are not as readily salable in the secondary market as the Bank's other fully underwritten loans, either as whole loans or when pooled or securitized. The future earnings prospects of the Bank will be affected by the Bank's ability to compete effectively with other financial institutions and to implement its business strategies. There can be no assurance that the Bank will be able to successfully implement its business strategies. In assessing the future earnings prospects of the 30 Bank, investors should consider, among other things, the Bank's level of origination of one-to-four family loans, the Bank's proposed increased emphasis on commercial real estate and multi-family loans and the greater risks associated with such loans. See "Business -- Lending Activities". Local Economic Conditions Although general economic conditions in the New York City metropolitan area have improved since the early 1990's, there can be no assurance that the local economy will continue to improve or remain at current conditions. A decline in the local economy, national economy or metropolitan area real estate market could adversely affect the financial condition and results of operations of the Company, including through decreased demand for loans or increased competition for good loans, increased non-performing loans and loan losses and resulting additional provisions for loan losses and for losses on real estate owned. Although management of the Bank believes that the current allowance for loan losses is adequate in light of current economic conditions, many factors may require additions to the allowance for loan losses in future periods above those reasonably anticipated. These factors include: (i) adverse changes in economic conditions and changes in interest rates that may affect the ability of borrowers to make payments on loans, (ii) changes in the financial capacity of individual borrowers, (iii) changes in the local real estate market and the value of the Bank's loan collateral, and (iv) future review and evaluation of the Bank's loan portfolio, internally or by regulators. The amount of the allowance for loan losses at any time represents good faith estimates that are susceptible to significant changes due to changes in appraisal values of collateral, national and regional economic conditions, prevailing interest rates and other factors. See "Business Allowance for Loan Losses." Pending Legislation Legislation has been enacted that provides for a merger of the two deposit insurance funds administered by the FDIC on January 1, 1999 if, by such date, the charters of federal savings associations, such as the Bank, have been unified with the charters of national banks. Many proposals for charter unification have been advanced and the United States Treasury Department currently is required to render a report as to its recommendations by March 31, 1997. Most proposals would abolish the OTS, but would permit former savings associations to continue to engage in any activity that was permissible for such institutions prior to their converting to a national bank or state charter for some period of time. Such a required change in the Bank's charter would not be expected to affect materially the Bank's principal lending and deposit activities. However, charter unification legislation could substantially restrict the ability of the Company in the future to expand and diversify business activities. Efforts to unify the commercial bank and thrift charters present many complex issues. As a result of these developments, it is possible that the Bank, on or before January 1, 1999, will be required to convert to a bank charter and the Holding Company would be required to convert to a bank holding company. In such an event, the Bank will be regulated by the Office of the Comptroller of the Currency and the Holding Company would be regulated by the FRB. It is also possible that Congress could modify the thrift, unitary holding company, and/or bank charters, and/or create one or more new unified charters. Management currently does not believe that any such regulatory change to the charters of the Bank or the Company would have a material, adverse effect on the Bank or the Company, although there can be no assurance that this would not be the case. See "Regulations -- Insurance of Accounts". Certain Anti-Takeover Provisions On September 17, 1996, the Company adopted a Stockholder Rights Plan (the "Rights Plan") designed to preserve long-term values and protect stockholders against stock accumulations and other abusive tactics to acquire control of the Company. Under the Rights Plan, each stockholder of record at the close of business on September 30, 1996 received a dividend distribution of one right to purchase from the Company one one-hundredth of a share of a new series of junior participating preferred stock at a price of $64, subject to certain adjustments. The rights will become exercisable only if any person or group acquires 15% or more of the Common Stock or commences a tender or exchange offer which, if consummated, would result in that person or group owning at least 15% of the Common Stock (the "acquiring person or group"). In such case, all stockholders other than the acquiring person or 31 group will be entitled to purchase, by paying the $64 exercise price, Common Stock (or a common stock equivalent) with a value of twice the exercise price. In addition, at any time after such event, and prior to the acquisition by any person or group of 50% or more of the Common Stock, the Board of Directors may, at its option, require each outstanding right (other than rights held by the acquiring person or group) to be exchanged for one share of Common Stock (or one common stock equivalent). The rights expire on September 30, 2006. The Rights Plan, as well as certain provisions of the Company's Certificate of Incorporation and Bylaws, the Bank's federal Stock charter and Bylaws, certain federal regulations and provisions of Delaware corporation law, and certain provisions of remuneration plans and agreements applicable to employees and officers of the Bank may have anti-takeover effects by discouraging potential proxy contests and other takeover attempts, particularly those which have not been negotiated with the Board of Directors. The Rights Plan and these provisions, as well as applicable regulatory restrictions, may also prevent or inhibit the acquisition of a controlling position in the Common Stock and may prevent or inhibit takeover attempts that certain stockholders may deem to be in their or other stockholders' interest or in the interest of the Company or the Bank, or in which stockholders may receive a substantial premium for their shares over then current market prices. The Rights Plan and these provisions may also increase the cost of, and thus discourage, any such future acquisition or attempt, and would render the removal of the current Board of Directors or management of the Bank or the Holding Company more difficult. FEDERAL, STATE AND LOCAL TAXATION The following discussion of tax matters is intended only as a summary and does not purport to be a comprehensive description of the tax rules applicable to the Bank or the Company. Federal Taxation General. The Company and the Bank will report their income using a calendar year and the accrual method of accounting. The Company and the Bank are both subject to the federal tax laws and regulations which apply to corporations generally, including, since the recent enactment of the Small Business Job Protection Act (the "Act"), those governing the Bank's deductions for bad debts, described below. Bad Debt Reserves. Prior to the enactment of the Act, which was signed into law on August 20, 1996, savings institutions which met certain definitional tests primarily relating to their assets and the nature of their business ("qualifying thrifts"), such as the Bank, were allowed deductions for bad debts under methods more favorable than those granted to other taxpayers. Qualifying thrifts could compute deductions for bad debts using either the specific charge off method of Section 166 of the Internal Revenue Code (the "Code") or the reserve method of Section 593 of the Code. Prior to its modification by the Act, Section 593 permitted a qualifying thrift to establish a reserve for bad debts and to make annual additions thereto, which, within specified formula limits, could be deducted in arriving at its taxable income. A qualifying thrift could elect annually to compute its allowable deduction to bad debt reserves for "qualifying real property loans," generally loans secured by certain interests in real property, under either (i) the "percentage of taxable income" method applicable only to thrift institutions, or (ii) the "experience" method that also was available to small banks. Under the "percentage of taxable income" method, subject to certain limitations, a qualifying thrift generally was allowed a deduction for an addition to its bad debt reserve equal to 8% of its taxable income (determined without regard to this deduction and with additional adjustments). Under the experience method, a qualifying thrift was generally allowed a deduction for an addition to its bad debt reserve equal to the greater of (i) an amount based on its actual average experience for losses in the current and five preceding taxable years, or (ii) an amount necessary to restore the reserve to its balance as of the close of the base year, defined as the last taxable year beginning before January 1, 1988. The Bank's deduction for additions to its bad debt reserve with respect to non-qualifying loans had to be computed under the experience method. Any deduction for the addition to the reserve for non-qualifying loans reduced the maximum permissible addition to the reserve for qualifying real property loans calculated under the percentage of taxable income method. Section 1616(a) of the Act repealed the Section 593 reserve method of accounting for bad debts by qualifying thrifts, effective for taxable years beginning after 1995. Qualifying thrifts that are treated as large 32 banks, such as the Bank, are required to use the specific charge off method, pursuant to which the amount of any debt may be deducted only as it actually becomes wholly or partially worthless. A thrift institution required to change its method of computing reserves for bad debt is required to treat such change as a change in the method of accounting, initiated by the taxpayer and having been made with the consent of the Secretary of the Treasury. Section 481(a) of the Code requires certain amounts to be recaptured with respect to such change. Generally, the amount of the thrift institution's "applicable excess reserves" must be included in income ratably over a six-taxable year period, beginning with the first taxable year beginning after 1995, subject to suspension if the institution meets the residential loan requirement described below. In the case of a thrift institution that is treated as a large bank, such as the Bank, the amount of the institution's applicable excess reserves generally is the excess of (i) the balances of its reserve for losses on qualifying real property loans and its reserve for losses on nonqualifying loans as of the close of its last taxable year beginning before January 1, 1996, over (ii) the balances of such reserves as of the close of its last taxable year beginning before January 1, 1988 (i.e., the "pre-1988 reserves"). The Bank's applicable excess reserves as of December 31, 1995 were approximately $20,000. For the taxable year ending December 31, 1996, the repeal of the bad debt reserve deduction resulted in an increased federal income tax liability of approximately $121,000. Distributions. To the extent that the Bank makes "nondividend distributions" to shareholders that are considered to result in distributions from the pre-1988 reserves or the supplemental reserve for losses on loans ("excess distributions"), then an amount based on the amount distributed will be included in the Bank's taxable income. Nondividend distributions include distributions in excess of the Bank's current and post-1951 accumulated earnings and profits, as calculated for federal income tax purposes, distributions in redemption of stock and distributions in partial or complete liquidation. The amount of additional taxable income resulting from an excess distribution is an amount that when reduced by the tax attributable to the income is equal to the amount of the excess distribution. Thus, slightly more than one and one-half times the amount of the excess distribution made would be includable in gross income for federal income tax purposes, assuming a 35% federal corporate income tax rate. See "Restrictions on Dividends and Capital Distributions" under "Regulation" for limits on the payment of dividends by the Bank. The Bank does not intend to pay dividends or make non-dividend distributions described above that would result in a recapture of any portion of its pre-1988 bad debt reserves. Corporate Alternative Minimum Tax. The Code imposes an alternative minimum tax (the "AMT") on corporations equal to the excess, if any, of 20% of alternative minimum taxable income ("AMTI") over a corporation's regular federal income tax liability. AMTI is equal to taxable income with certain adjustments. Only 90% of AMTI can be offset by net operating loss carryforwards. State and Local Taxation New York State and New York City Taxation. The Bank is subject to the New York State Franchise Tax on Banking Corporations in an annual amount equal to the greater of (i) 9% of "entire net income" allocable to New York State during the taxable year or (ii) the applicable alternative minimum tax. The alternative minimum tax is generally the greater of (a) 0.01% of the value of assets allocable to New York State with certain modifications, (b) 3% of "alternative entire net income" allocable to New York State or (c) $250. Entire net income is similar to federal taxable income, subject to certain modifications (including that net operating losses cannot be carried back or carried forward), and alternative entire net income is equal to entire net income without certain deductions which are allowable in the calculation of entire net income. The Bank also is subject to a similarly calculated New York City tax of 9% on income allocated to New York City and similar alternative taxes. In addition, the Bank was subject to a temporary tax surcharge on the New York State Franchise Tax for tax years ending before July 1, 1997, at a rate of 2 1/2% for the tax year ending December 31, 1996, and to a temporary Metropolitan Transportation Business Tax Surcharge for tax years ending before December 31, 1997, at a rate of 17% of the New York State Franchise Tax. Notwithstanding the repeal of the federal income tax provisions permitting bad debt deductions under the reserve method, New York State has enacted legislation maintaining the preferential treatment of loss reserves for qualifying real property loans of qualifying thrifts for New York State tax purposes. Similar measures to preserve 33 the deduction for New York City tax purposes have been passed by the New York State legislature and is expected to be signed by the Governor in the coming weeks. For New York State and New York City tax purposes, the applicable percentage to calculate the bad debt deduction under the percentage of taxable income method is 32% of taxable income, subject to the following limitations: (i) the amount of the addition to the reserve cannot exceed the amount necessary to increase the balance of the reserve for losses on qualifying real property loans at the close of the taxable year to 6% of the balance of the qualifying real property loans outstanding at the end of the taxable year and (ii) the reserves for losses on qualifying real property and non-qualifying loans cannot exceed the amount by which 12% of the amount of the total deposits or withdrawable accounts of depositors of the Bank at the close of the taxable year exceeds the sum of the Bank's surplus, undivided profits and reserves at the beginning of such year. The new legislation also allows an exclusion from entire net income for New York State and New York City tax purposes for any amounts a thrift is required to include in federal taxable income as a recapture of its bad debt reserve as a consequence of the Act. Delaware State Taxation. As a Delaware holding company not earning income in Delaware, the Company is exempt from Delaware corporate income tax but is required to file an annual report with and pay an annual franchise tax to the State of Delaware. REGULATION General On May 10, 1994, the Bank converted from a New York State chartered mutual savings bank to a federally chartered mutual savings bank pursuant to Section 5(o) of the Home Owners' Loan Act, as amended ("HOLA"). On that date, the OTS replaced the New York State Banking Department (the "Banking Department") as the Bank's chartering authority and the FDIC as the Bank's primary federal regulator. Although the FDIC is no longer the primary federal regulator of the Bank, the Bank remains subject to regulation and examination by the FDIC as its deposit insurer. The FDIC administered fund which insures the Bank's deposits is the BIF. The Bank's deposits are insured up to the applicable limits permitted by law. See "--Insurance of Accounts" and "Risk Factors--Pending Legislation." The Bank is also subject to certain regulations promulgated by the Federal Reserve Board. Moreover, in connection with converting to a federal charter, the Bank has become a member of the FHLB-NY. The activities of federal savings institutions are governed by HOLA and, in certain respects, the Federal Deposit Insurance Act ("FDIA"). Most regulatory functions relating to deposit insurance and to conservatorships and receiverships of insured institutions are exercised by the FDIC. The Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA"), among other things, requires that federal banking regulators intervene promptly when a depository institution experiences financial difficulties, mandated the establishment of a risk-based deposit insurance assessment system and required imposition of numerous additional safety and soundness operational standards and restrictions. FDICIA and the Financial Institutions Reform, Recovery, and Enforcement Act of 1989 ("FIRREA") each contain provisions affecting numerous aspects of the operations and regulations of federal savings banks and empowers the OTS and the FDIC, among other agencies, to promulgate regulations implementing its provisions. The OTS has extensive authority over the operations of the Bank. As part of this authority, the Bank is required to file periodic reports with the OTS and is subject to periodic examinations by the OTS and back-up examinations by the FDIC. The Company, as a savings and loan holding company, is required to file certain reports with, and otherwise comply with the rules and regulations of, the OTS. The Company also is subject to regulation under the federal securities laws. Set forth below is a brief description of certain laws and regulations which relate to the regulation of the Bank and the Company. The description does not purport to be a comprehensive description of applicable laws, rules and regulations and is qualified in its entirety by reference to applicable laws, rules and regulations. 34 Investment Powers The Bank is subject to comprehensive regulation governing its investments and activities. Among other things, the Bank may invest in (i) residential mortgage loans, education loans and credit card loans in an unlimited amount, (ii) non-residential real estate loans up to 400% of total capital, (iii) commercial business loans up to 20% of assets however, amounts over 10% of total assets must be used only for small business loans) and (iv) in general, consumer loans and highly rated commercial paper and corporate debt securities in the aggregate up to 35% of assets. In addition, the Bank may invest up to 3% of its assets in service corporations, an unlimited percentage of its assets in operating subsidiaries (which may only engage in activities permissible for the Bank itself) and under certain conditions may invest in finance subsidiaries. Other than investments in service corporations, operating subsidiaries, finance subsidiaries and stock of government-sponsored agencies, such as FHLMC and FNMA, the Bank generally is not permitted to make equity investments. The Bank continues to hold, pursuant to grandfathering authority granted by the OTS, certain investments in preferred stock that it was authorized to make as a New York-chartered savings bank. See "Business--Investment Activities." A service corporation in which the Bank may invest is permitted to engage in activities reasonably related to the activities of a federal savings bank as the OTS may approve on a case by case basis and certain activities preapproved by the OTS, which, among other things, include providing certain support services for the institution; originating, investing in, selling, purchasing, servicing or otherwise dealing with specified types of loans and participations (principally loans that the parent institution could make); specified real estate activities, including limited real estate development, securities brokerage services; certain insurance brokerage activities, and other specified investments and services. Real Estate Lending Standards FDICIA requires each federal banking agency to adopt uniform regulations prescribing standards for extensions of credit (i) secured by real estate, or (ii) made for the purpose of financing the construction of improvements on real estate. In prescribing these standards, the banking agencies must consider the risk posed to the deposit insurance funds by real estate loans, the need for safe and sound operation of insured depository institutions and the availability of credit. The OTS and the other federal banking agencies adopted uniform regulations, effective March 19, 1993. The OTS regulation requires each savings association to establish and maintain written internal real estate lending standards consistent with safe and sound banking practices and appropriate to the size of the institution and the nature and scope of its real estate lending activities. The policy must also be consistent with accompanying OTS guidelines, which include maximum loan-to-value ratios for the following types of real estate loans: raw land (65%), land development (75%), nonresidential construction (80%), improved property (85%) and one-to-four family residential construction (85%). Owner-occupied one-to-four family mortgage loans and home equity loans do not have maximum loan-to-value ratio limits, but those with a loan-to-value ratio at origination of 90% or greater are to be backed by private mortgage insurance or readily marketable collateral. Institutions are also permitted to make a limited amount of loans that do not conform to the proposed loan-to-value limitations so long as such exceptions are appropriately reviewed and justified. The guidelines also list a number of lending situations in which exceptions to the loan-to-value standard are justified. Loans-to-One Borrower Limits The Bank generally is subject to the same loans-to-one borrower limits that apply to national banks. With certain exceptions, loans and extensions of credit outstanding at one time to one borrower (including certain related entities of the borrower) may not exceed 15% of the Bank's unimpaired capital and surplus, plus an additional 10% of unimpaired capital and surplus for loans fully secured by certain readily marketable collateral. At December 31, 1996, the largest amount the Bank could lend to one borrower was approximately $13.8 million, and at that date the Bank had no lending relationships which exceeded such loans-to-one borrower limitation. See "Business--Lending Activities." Insurance of Accounts The deposits of the Bank are insured up to $100,000 per depositor (as defined by law and regulations) by the BIF, which is administered by the FDIC. As insurer, the FDIC is authorized to conduct examinations of, and 35 to require reporting by, insured institutions. It also may prohibit any insured institution from engaging in any activity the FDIC determines by regulation or order to pose a serious threat to the BIF. The FDIC also has the authority to initiate enforcement actions where the OTS has failed or declined to take such action after receiving a request to do so from the FDIC. For 1993, the annual deposit insurance premium was assessed at the rate of $0.23 per $100 of deposits for all banks insured by the BIF. Effective January 1, 1994, a risk-based deposit insurance assessment system was implemented by the FDIC. Under the system as now in effect, the FDIC assigns each institution to one of three capital categories consisting of (1) well capitalized, (2) adequately capitalized, or (3) undercapitalized, and to one of three supervisory subcategories. An institution's assessment rate depends on the capital category and supervisory subcategory to which it is assigned. Institutions are notified of their assessment risk classification on a semi-annual basis. The capital and supervisory subgroup to which an institution is assigned by the FDIC is confidential and may not be disclosed. Assessment rates during 1994 and most of 1995 ranged from $0.23 per $100 of deposits for an institution in the highest category to $0.31 per $100 of deposits for an institution in the lowest category. On August 8, 1995, the FDIC amended its regulation on assessments to establish a new assessment rate schedule for the BIF ranging from $0.04 per $100 of deposits for an institution in the highest category to $0.31 per $100 of deposits for an institution in the lowest category. The FDIC's new rate schedule for the BIF was made effective with the first day of the month following the month in which the BIF achieved full capitalization to the statutory required 1.25% reserve ratio, which occurred in the second half of 1995. The Bank paid $1.3 million in federal deposit insurance premiums to the BIF for the year ended December 31, 1994. As a result of the lowering of BIF rates in August 1995, the Bank paid $824,000 in deposit insurance premiums for the year ended December 31, 1995. Thereafter, the FDIC voted to reduce the BIF assessment schedule even further so that most BIF members, including the Bank, paid a statutory minimum semi-annual assessment of $2,000 for 1996. The FDIC has advised the Bank that its annual assessment rate for 1997 will be $0.00 per $100 of deposits. However, as a result of recent legislation discussed below, the Bank will be assessed for a portion of the interest due on the Finance Corporation ("FICO") bonds issued in connection with the savings and loan association crisis in the late 1980s. The Bank's assessment rate in effect from time to time will depend upon the capital category and supervisory subcategory to which the Bank is assigned by the FDIC. In addition, the FDIC is authorized to increase federal deposit insurance assessment rates for BIF members to the extent necessary to protect the BIF and, under current law, would be required to increase such rates to $0.23 per $100 of deposits if the BIF's reserve ratio again falls below the required 1.25%. Any increase in deposit insurance assessment rates, as a result of a change in the category or subcategory to which the Bank is assigned or the exercise of the FDIC's authority to increase assessment rates generally, could have an adverse effect on the earnings of the Bank. Under the FDIA, insurance of deposits may be terminated by the FDIC upon a finding that the institution has engaged in unsafe or unsound practices, is in an unsafe or unsound condition to continue operations or has violated any applicable law, regulation, rule, order or condition imposed by the FDIC. The management of the Bank does not know of any practice, condition or violation that might lead to termination of deposit insurance. On September 30, 1996, as part of an omnibus appropriations bill, the Deposit Insurance Funds Act of 1996 (the "Funds Act") was enacted. The Funds Act eliminated the deposit insurance premium disparity that existed since the second half of 1995 between banks insured by the BIF and thrifts insured by the Savings Association Insurance Fund (the "SAIF"). The Act (i) required SAIF institutions to pay a one-time special assessment to bring the SAIF's reserve ratio up to 1.25%, (ii) requires BIF institutions, beginning January 1, 1997, to pay a portion of the interest due on the FICO bonds issued in connection with the savings and loan association crisis in the late 1980s, and (iii) requires BIF institutions to pay their full pro rata share of the FICO payments starting the earlier of January 1, 2000 or the date at which no savings institution continues to exist. Beginning January 1, 1997, the FICO assessment on SAIF institutions is at the rate of $0.065 per $100 of deposits and the FICO assessment on BIF institutions is at the rate of $0.013 per $100 of deposits. These rates are subject to 36 change. The Bank anticipates that during 1997, it will pay $75,000 annually as a FICO assessment for interest due on the FICO bonds. The Funds Act also includes a provision that requires the U.S. Treasury Department to conduct a study of all issues relevant to the development of a common charter for all insured depository institutions and the elimination of separate charters between thrifts and commercial banks. The Secretary of the Treasury is to submit a report to Congress on the Treasury's findings and conclusions in connection with the study on or before March 31, 1997. Another provision in the Act states that the BIF and SAIF funds will merge on January 1, 1999 if no insured depository institution is a savings association on that date. In light of these latter two provisions of the Funds Act, it is possible that the Bank, on or before January 1, 1999, will be required to convert to a bank charter and the Holding Company would be required to convert to a bank holding company. In such an event, the Bank would be regulated by the Office of the Comptroller of the Currency and the Holding Company would be regulated by the FRB. It is also possible that Congress could modify the thrift, unitary holding company, and/or bank charters, and/or create one or more new unified charters. Management currently does not believe that any such regulatory change to the charters of the Bank or the Company would have a material, adverse effect on the Bank or the Company, although there can be no assurance that this would not be the case. See "Risk Factors--Pending Legislation." Liquidity Requirements The Bank is subject to OTS regulations that require maintenance of an average daily balance of liquid assets (cash, certain time deposits, bankers' acceptances, specified U.S. government, state and federal agency obligations, shares of certain mutual funds and certain corporate debt securities and commercial paper) equal to a percentage of the sum of the Bank's average daily balance of net withdrawable deposit accounts and borrowings payable in one year or less. The liquidity requirement may be changed from time to time by the OTS (between 4% and 10%) depending upon economic conditions and savings flows of all institutions for which it is the primary federal regulator, and it is currently 5%. Short-term liquid assets currently must constitute at least 1% of an institution's average daily balance of net withdrawable deposit accounts and current borrowings. Monetary penalties may be imposed for violations of liquidity requirements. The Bank's liquidity and short-term liquidity ratios at December 31, 1996 were 10.91% and 3.91%, respectively, which exceeded the OTS liquidity requirements in effect on that date. Accordingly, on that date, the Bank was in compliance with OTS liquidity requirements. Qualified Thrift Lender Test Institutions regulated by the OTS are required to meet a qualified thrift lender ("QTL") test to avoid certain restrictions on their operations. FDICIA and applicable OTS regulations require such institutions to maintain at least 65% of its portfolio assets (total assets less intangibles, properties used to conduct the institution's business and liquid assets not exceeding 20% of total assets) in "qualified thrift investments" on a monthly average basis in nine of every 12 months. Qualified thrift investments constitute primarily residential mortgage loans and related investments, including certain mortgage-backed and mortgage-related securities. A savings institution that fails the QTL test must either convert to a bank charter or, in general, it will be prohibited from: (i) making an investment or engaging in any new activity not permissible for a national bank, (ii) paying dividends not permissible under national bank regulations, (iii) obtaining advances from any FHLB, and (iv) establishing any new branch office in a location not permissible for a national bank in the institution's home state. One year following the institution's failure to meet the QTL test, any holding company parent of the institution must register and be subject to supervision as a bank holding company. In addition, beginning three years after the institution failed the QTL test, the institution would be prohibited from refinancing any investment or engaging in any activity not permissible for a national bank and would have to repay any outstanding advances from an FHLB as promptly as possible. At December 31, 1996, the Bank had maintained more than 65% of its "portfolio assets" in qualified thrift investments in at least nine of the preceding 12 months. Accordingly, on that date, the Bank had met the QTL test. 37 On September 30, 1996, as part of the omnibus appropriations bill, Congress enacted the Economic Growth and Paperwork Reduction Act of 1996 ("Regulatory Paperwork Reduction Act"), modifying and expanding investment authority under the QTL test. Prior to the enactment of the Regulatory Paperwork Reduction Act, commercial, corporate, business, or agricultural loans were limited in the aggregate to 10% of a thrift's assets and education loans were limited to 5% of a thrift's assets. Further, federal savings associations meeting a different asset test under the Code (the "domestic building and loan association test") were qualified for favorable tax treatment. The amendments permit federal thrifts to invest in, sell, or otherwise deal in education and credit card loans without limitation and raise from 10% to 20% of total assets the aggregate amount of commercial, corporate, business, or agricultural loans or investments that may be made by a thrift, subject to a requirement that amounts in excess of 10% of total assets be used only for small business loans. In addition, the legislation defines "qualified thrift investment" to include, without limit, education, small business, and credit card loans; and removes the 10% limit on personal, family, or household loans for purposes of the QTL test. The legislation also provides that a thrift meets the QTL test if it qualifies as a domestic building and loan association under the Code. Transactions with Affiliates Transactions between the Bank and any related party or "affiliate" are governed by Sections 23A and 23B of the Federal Reserve Act. An affiliate is any company or entity which controls, is controlled by or is under common control with the Bank, including the Company, the Bank's subsidiary, Properties, and any other subsidiary of the Bank or the Company that may be formed or acquired in the future. Generally, Sections 23A and 23B (i) limit the extent to which the Bank or its subsidiaries may engage in "covered transactions" with any one affiliate to an amount equal to 10% of the Bank's capital stock and surplus, and impose an aggregate limit on all such transactions with all affiliates to an amount equal to 20% of such capital stock and surplus, and (ii) require that all such transactions be on terms substantially the same, or at least as favorable, to the Bank or subsidiary as those provided to a non-affiliate. Each loan or extension of credit to an affiliate by the Bank must be secured by collateral with a market value ranging from 100% to 130% (depending on the type of collateral) of the amount of credit extended. The term "covered transaction" includes the making of loans, purchase of assets, issuance of a guarantee and other similar types of transactions. In addition, the Bank may not (i) loan or otherwise extend credit to an affiliate, except to any affiliate which engages only in activities which are permissible for bank holding companies under Section 4(c) of the Bank Company Act, or (ii) purchase or invest in any stocks, bonds, debentures, notes or similar obligations of any affiliates, except subsidiaries of the Bank. In addition, the Bank is subject to Regulation O promulgated under Sections 22(g) and 22(h) of the Federal Reserve Act. Regulation O requires that loans by the Bank to a director, executive officer or to a holder of more than 10% of the Common Stock, and to certain affiliated interests of such insiders, may not, in the aggregate, exceed the Bank's loans-to-one borrower limit. Loans to insiders and their related interests must also be made on terms substantially the same as offered, and follow credit underwriting procedures that are not less stringent than those applied, in comparable transactions to other persons, with prior Board approval required for certain loans. In addition, the aggregate amount of extensions of credit by the Bank to all insiders cannot exceed the institution's unimpaired capital and surplus. Section 22(g) places additional restrictions on loans to executive officers of the Bank. Restrictions on Dividends and Capital Distributions The Bank is subject to OTS limitations on capital distributions, which include cash dividends, stock redemptions or repurchases, cash-out mergers, interest payments on certain convertible debt and other distributions charged to the Bank's capital account. In general, the applicable regulation permits specified levels of capital distributions by a savings institution that meets at least its minimum capital requirements, so long as the OTS is provided with at least 30 days' advance notice and has no objection to the distribution. The OTS regulation establishes three tiers of institutions, based primarily on their capital level. Generally, the Tier 1 group is composed of institutions that before and after the proposed distribution meet or exceed all applicable capital requirements and have not been informed by the OTS that they are in need of more than normal supervision. A Tier 1 institution may make capital distributions during any calendar year equal to the higher of (i) 38 100% of net income for the calendar year-to-date plus an amount that would reduce by one-half its "surplus capital ratio" at the beginning of the calendar year or (ii) 75% of net income over the previous four quarters. As applied to the Bank, "surplus capital ratio" means the percentage by which the Bank's ratio of total capital to assets exceeds the ratio of its capital requirement, as modified to reflect any applicable individual minimum capital requirements imposed upon the Bank. Any additional capital distributions would require prior regulatory approval. In the event the Bank's capital fell below its capital requirement or the OTS notified it that it was in need of more than normal supervision, the Bank's ability to make capital distributions would be restricted. In addition, the OTS could prohibit a proposed capital distribution by any institution, which would otherwise be permitted by the regulation, if the OTS determines that such distribution would constitute an unsafe or unsound practice. Furthermore, under FDICIA, the Bank would be prohibited from making any capital distributions if, after the distribution, the Bank would have: (i) a total risk-based capital ratio of less than 8%, (ii) a Tier 1 risk-based capital ratio of less than 4% or (iii) a leverage ratio of less than 4% (3% in the event that the Bank is assigned a MACRO Rating of 1, the highest examination rating of the OTS for savings institutions). At December 31, 1996, the Bank qualified as a Tier 1 institution for purposes of this regulation. In June 1996, the Bank's Board of Directors declared a dividend of $11.5 million, which was paid to the Company in installment amounts from July to November 1996. The Bank's remaining allowable capital distribution at December 31, 1996 was approximately $30.3 million. Tier 2 institutions are those in compliance with their current, but not their fully phased-in, capital requirements. Tier 2 institutions may make distributions of up to 75% of their net income for the most recent four-quarter period. Tier 1 and Tier 2 institutions may seek OTS approval to pay dividends beyond these amounts. Tier 3 institutions have capital levels below their current required minimum levels and may not make any capital distributions without the prior written approval of the OTS. In order to make distributions under these safe harbors, Tier 1 and Tier 2 institutions must submit 30 days prior written notice to the OTS of a proposed distribution. The OTS may object to the distribution during that 30-day period based on safety and soundness concerns. In addition, a Tier 1 institution deemed to be in need of more than normal supervision by the OTS may be treated as a Tier 2 or Tier 3 institution as a result of such a determination. Restrictions on Stock Repurchases Pursuant to OTS regulations, the Company is prohibited from repurchasing any shares of Common Stock from any person for three years from the date of completion of the Conversion, except that such prohibition does not apply to (i) a repurchase on a pro rata basis pursuant to an offer approved by the OTS and made to all stockholders of the Company; (ii) a repurchase of qualifying shares of a director or (iii) any other repurchase permissible under OTS regulations. Notwithstanding the foregoing, pursuant to OTS regulations, after one year following the Conversion, the Company may repurchase shares of Common Stock so long as (i) the purchases are part of an open-market program not involving more than 5% of the outstanding capital stock during a twelve month period unless otherwise approved by the OTS; (ii) the repurchases do not cause the Bank to become undercapitalized (see "--Prompt Corrective Action"); and (iii) the Company provides to the OTS no later than ten days prior to the commencement of a repurchase program written notice containing a full description of the program to be undertaken, and such program is not disapproved by the OTS. Under current OTS policies, repurchases may be allowed in the period beginning six months following the Conversion, and in amounts greater than 5% in the second and third years following the Conversion, provided there are circumstances that would justify such repurchases and the OTS does not object. In June and again in December 1996, the Company announced its intention to repurchase up to 1,126,038 shares in the aggregate, representing approximately 13% of the Company's outstanding shares of Common Stock, in open market transactions. The requisite approvals for these repurchase programs were obtained from the OTS. All stock repurchases are subject to market conditions, the trading price of the stock, and the Company's financial performance. As of December 31, 1996, the Company had repurchased 667,650 shares of Common Stock at a cost of $12.2 million, leaving 458,388 shares to repurchased under the repurchase programs. The Company's total shares of Common Stock outstanding at December 31, 1996 were 8,250,497. 39 Federal Home Loan Bank System In connection with converting to a federal charter, the Bank became a member of the FHLB-NY, which is one of 12 regional FHLBs governed and regulated by the Federal Housing Finance Board. Each FHLB serves as a source of liquidity for its members within its assigned region. It is funded primarily from proceeds derived from the sale of consolidated obligations of the FHLB System. It makes loans to members (i.e., advances) in accordance with policies and procedures established by its Board of Directors. As a member, the Bank is required to purchase and maintain stock in the FHLB-NY in an amount equal to the greater of 1% of its aggregate unpaid residential mortgage loans, home purchase contracts or similar obligations at the beginning of each year or 5% of total advances. Pursuant to this requirement, at December 31, 1996, the Bank was required to maintain $4.2 million of FHLB-NY stock. The Bank was in compliance with this requirement at that time. The FHLBs are required to provide funds for the resolution of the savings and loan problem that occurred in the 1980's, and to contribute to affordable housing programs through direct loans or interest subsidies on advances targeted for community investment and low-income and moderate-income housing projects. These contributions have adversely affected the level of FHLB dividends paid and could continue to do so in the future. These contributions also could have an adverse effect on the value of FHLB stock in the future. Assessments Savings institutions are required by OTS regulations to pay assessments to the OTS to fund the operations of the OTS. The general assessment, paid on a quarterly or semi-annual basis, as determined from time to time by the Director of the OTS, is computed upon the savings institution's total assets, including consolidated subsidiaries, as reported in the institution's latest quarterly thrift financial report. Based on the average balance of the Bank's total assets for the year ended December 31, 1996, the Bank's OTS assessments were $143,000 for that period. Branching In April 1992, the OTS amended its rule on branching by federally chartered savings associations to permit nationwide branching to the extent allowed by federal statute. This permits federal savings associations to geographically diversify their loan portfolios and lines of business. The OTS authority preempts any state law purporting to regulate branching by federal savings associations. Community Reinvestment Under the Community Reinvestment Act ("CRA"), as implemented by OTS regulations, the Bank has a continuing and affirmative obligation, consistent with its safe and sound operation, to help meet the credit needs of its entire community, including low and moderate income neighborhoods. The CRA does not establish specific lending requirements or programs for financial institutions nor does it limit an institution's discretion to develop the types of products and services that it believes are best suited to its particular community, consistent with the CRA. The CRA requires the OTS, in connection with its examination of a savings institution, to assess the institution's record of meeting the credit needs of its community and to take such record into account in its evaluation of certain applications by the institution. The CRA also requires all institutions to make public disclosure of their CRA ratings. The Bank received a CRA rating of "2" in its most recent CRA examination which was conducted by the OTS in December 1994. Under OTS regulations, a CRA rating of "2" is the second highest rating available on a scale from "1" to "4" with "1" being assigned to institutions that have an outstanding record of meeting community credit needs and "4" being assigned to institutions that are in substantial noncompliance in meeting community credit needs. An institution that receives a "2" is considered to have a satisfactory record of meeting community credit needs. Institutions that receive unsatisfactory ratings (i.e., "3" or "4") may face difficulties in securing approval for new activities or acquisitions. 40 In April 1995, the OTS and the other federal banking agencies adopted amendments to their CRA regulations. Among other things, the amended CRA regulations substitute for the prior process-based assessment factors a new evaluation system that would rate an institution based on its actual performance in meeting community needs. In particular, the proposed system would focus on three tests: (a) a lending test, to evaluate the institution's record of making loans in its service areas; (b) an investment test, to evaluate the institution's record of investing in community development projects, affordable housing, and programs benefiting low or moderate income individuals and businesses; and (c) a service test, to evaluate the institution's delivery of services through its branches, ATMs, and other offices. Brokered Deposits The FDIC has promulgated regulations implementing the FDICIA limitations on brokered deposits. Under the regulations, well-capitalized institutions are not subject to brokered deposit limitations, while adequately capitalized institutions are able to accept, renew or roll over brokered deposits only (i) with a waiver from the FDIC and (ii) subject to the limitation that they do not pay an effective yield on any such deposit which exceeds by more than (a) 75 basis points the effective yield paid on deposits of comparable size and maturity in such institution's normal market area for deposits accepted in its normal market area or (b) 120 basis points for retail deposits and 130 basis points for wholesale deposits accepted outside the institution's normal market area, respectively, from the current yield on comparable maturity U.S. Treasury obligations. Undercapitalized institutions are not permitted to accept brokered deposits and may not solicit deposits by offering an effective yield that exceeds by more than 75 basis points the prevailing effective yields on insured deposits of comparable maturity in the institution's normal market area or in the market area in which such deposits are being solicited. Pursuant to the regulation, the Bank, as a well-capitalized institution, may accept brokered deposits. The Bank did not have any brokered deposits outstanding as of December 31, 1996. Capital Requirements General. The Bank is required to maintain minimum levels of regulatory capital. Since FIRREA, capital requirements established by the OTS generally must be no less stringent than the capital requirements applicable to national banks. The OTS also is authorized to impose capital requirements in excess of these standards on a case-by-case basis. Any institution that fails any of its applicable capital requirements is subject to possible enforcement actions by the OTS or the FDIC. Such actions could include a capital directive, a cease and desist order, civil money penalties, the establishment of restrictions on the institution's operations and the appointment of a conservator or receiver. The OTS' capital regulation provides that such actions, through enforcement proceedings or otherwise, could require one or more of a variety of corrective actions. See "--Prompt Corrective Action." The OTS' capital regulations create three capital requirements: a tangible capital requirement, a leverage or core capital requirement and a risk-based capital requirement. At December 31, 1996, the Bank's capital levels exceeded applicable OTS capital requirements. The three OTS capital requirements are described below. Tangible Capital Requirement. Under current OTS regulations, each savings institution must maintain tangible capital equal to at least 1.50% of its adjusted total assets (as defined by regulation). Tangible capital generally includes common stockholders' equity and retained income, and certain noncumulative perpetual preferred stock and related income. In addition, all intangible assets, other than a limited amount of purchased mortgage servicing rights, must be deducted from tangible capital. At December 31, 1996, the Bank had no intangible assets or purchased mortgage servicing rights. At that date, to the Bank's tangible capital ratio was 12.67%. In calculating adjusted total assets, adjustments are made to total assets to give effect to the exclusion of certain assets from capital and to appropriately account for the investments in and assets of both includable and non-includable subsidiaries. 41 Core Capital Requirement. The current OTS core capital requirement ranges between 3% and 5% of adjusted total assets. Savings institutions that receive the highest supervisory rating for safety and soundness are required to maintain a minimum core capital ratio of 3%, while the capital floor for all other savings institutions generally ranges from 4% to 5%, as determined by the OTS on a case by case basis. Core capital includes common stockholders' equity (including retained income), non-cumulative perpetual preferred stock and related surplus, minority interest in the equity accounts of fully consolidated subsidiaries and (subject to phase-out) qualifying supervisory goodwill. The Bank has no qualifying supervisory goodwill. At December 31, 1996, the Bank's core capital was 12.67%. In February, 1994, the OTS adopted a final rule which limits the amount of purchased mortgage servicing rights, together with purchased credit card receivables, includable in core capital to 50% of such capital. At December 31, 1996, the Bank had no purchased mortgage servicing rights or purchased credit card receivables. Risk-Based Requirement. The risk-based capital standard adopted by the OTS requires savings institutions to maintain a minimum ratio of total capital to risk-weighted assets of 8%. Total capital consists of core capital, defined above, and supplementary capital but excludes the effect of recognizing deferred taxes based upon future income after one year. Supplementary capital consists of certain capital instruments that do not qualify as core capital, and general valuation loan and lease loss allowances up to a maximum of 1.25% of risk-weighted assets. Supplementary capital may be used to satisfy the risk-based requirement only in an amount equal to the amount of core capital. In determining the risk-based capital ratios, total assets, including certain off-balance sheet items, are multiplied by a risk weight based on the risks inherent in the type of assets. The risk weights assigned by the OTS for significant categories of assets are (i) 0% for cash and securities issued by the federal government or unconditionally backed by the full faith and credit of the federal government; (ii) 20% for securities (other than equity securities) issued by federal government sponsored agencies and mortgage-backed securities issued by, or fully guaranteed as to principal and interest by, the FNMA or the FHLMC, except for those classes with residual characteristics or stripped mortgage-related securities; (iii) 50% for prudently underwritten permanent one-to-four family first lien mortgage loans and certain qualifying multi-family mortgage loans not more than 90 days delinquent and having a loan-to-value ratio of not more than 80% at origination unless insured to such ratio by an insurer approved by the FNMA or the FHLMC; and (iv) 100% for all other loans and investments, including consumer loans, commercial loans, and one-to-four family residential real estate loans more than 90 days delinquent, and all repossessed assets or assets more than 90 days past due. At December 31, 1996, the Bank's risk-based capital ratio was 27.43%. Risk-based capital excludes the effect of recognizing deferred taxes based upon future income after one year. In 1993, the OTS adopted a final rule incorporating an interest-rate risk component into the risk-based capital regulation. Under the rule, an institution with a greater than "normal" level of interest rate risk will be subject to a deduction of its interest rate risk component from total capital for purposes of calculating the risk-based capital requirement. As a result, such an institution may be required to maintain additional capital in order to comply with the risk-based capital requirement. An institution with a greater than "normal" interest rate risk is defined as an institution that would suffer a loss of net portfolio value exceeding 2% of the estimated market value of its assets in the event of a 200 basis point increase or decrease (with certain minor exceptions) in interest rates. The interest rate risk component will be calculated, on a quarterly basis, as one-half of the difference between an institution's measured interest rate risk and 2%, multiplied by the market value of its assets. The rule establishes a "lag" time between the reporting date of the data used to calculate an institution's interest rate risk and the effective date of each quarter's interest rate risk component. The rule also authorizes the director of the OTS, or his designee, to waive or defer an institution's interest rate risk component on a case-by-case basis. At December 31, 1996, the Bank did not have more than "normal" interest rate risk and was not subject to any deduction from total capital under this rule. Federal Reserve System The Federal Reserve Board requires all depository institutions to maintain reserves against their transaction accounts (primarily NOW checking accounts) and non-personal time deposits. At December 31, 1996, the Bank was in compliance with these requirements. 42 The balances maintained to meet the reserve requirements imposed by the Federal Reserve Board may be used to satisfy liquidity requirements imposed by the OTS. Because required reserves must be maintained in the form of vault cash or a non-interest-bearing account at a Federal Reserve Bank directly or through another bank, the effect of this reserve requirement is to reduce an institution's earning assets. The amount of funds necessary to satisfy this requirement has not had a material effect on the Bank's operations. The Bank is also subject to certain regulations regarding savings account disclosure and funds availability disclosure promulgated by the Federal Reserve Board to implement the requirements of the Truth in Savings Act contained in the FDICIA and the Expedited Funds Availability Act, as amended, respectively. Financial Reporting The Bank is required to submit independently audited annual reports to the FDIC and the OTS. These publicly available reports must include (a) annual financial statements prepared in accordance with GAAP and such other disclosure requirements as required by the FDIC or the OTS and (b) a report, signed by the Bank's chief executive officer and chief financial officer which contains statements about the adequacy of internal controls and compliance with designated laws and regulations, and attestations by independent auditors related thereto. The Bank is required to monitor the foregoing activities through an independent audit committee. Standards for Safety and Soundness The FDIA Act, as amended by FDICIA and the Riegle Community Development and Regulatory Improvement Act of 1994 ("Community Development Act"), requires each federal bank regulatory agency to establish safety and soundness standards for institutions under its authority. On July 10, 1995, the federal banking agencies, including the OTS, jointly released Interagency Guidelines Establishing Standards for Safety and Soundness and published a final rule establishing deadlines for submission and review of safety and soundness compliance plans. The final rule and the guidelines took effect August 9, 1995. The guidelines, among other things, require savings institutions to maintain internal controls, information systems and internal audit systems that are appropriate to the size, nature and scope of the institution's business. The guidelines also establish general standards relating to loan documentation, credit underwriting, interest rate risk exposure, asset growth, and compensation, fees and benefits. Savings institutions are required to maintain safeguards to prevent the payment of excessive compensation to an executive officer, employee, director or principal shareholder. The OTS may determine that a savings institution is not in compliance with the safety and soundness guidelines and, upon doing so, may require the institution to submit an acceptable plan to achieve compliance with the guidelines. An institution must submit an acceptable compliance plan to the OTS within 30 days of receipt or request for such a plan. Failure to submit or implement a compliance plan may subject the institution to regulatory actions. Management believes that the Bank currently meets the standards adopted in the interagency guidelines and does not believe that implementation of the regulatory standards will materially affect the Bank's operations. Additionally, under FDICIA, as amended by the Community Development Act, federal banking agencies are required to establish standards relating to asset quality and earnings that the agencies determine to be appropriate. On August 27, 1996, the federal banking agencies, including the OTS, adopted guidelines relating to asset quality and earnings, effective October 1, 1996, which require a savings institution to maintain systems, consistent with its size and the nature and scope of its operations, to identify problem assets and prevent deterioration in those assets as well as to evaluate and monitor earnings and insure that earnings are sufficient to maintain adequate capital and reserves. Management believes that the asset quality and earnings guidelines, as adopted by the banking agencies, will not have a material effect on the Bank's operations. Prompt Corrective Action Under Section 38 of the FDIA, as added by the FDICIA, each appropriate agency and the FDIC is required to take prompt corrective action to resolve the problems of insured depository institutions that do not meet minimum capital ratios. Such action must be accomplished at the least possible long-term cost to the appropriate deposit insurance fund. 43 Effective, December 19, 1992, the federal banking agencies, including the OTS, adopted substantially similar regulations to implement Section 38 of the FDIA. Under the regulations, an institution is deemed to be (i) "well capitalized" if it has total risk-based capital of 10% or more, has a Tier 1 risk-based capital ratio of 6% or more, has a Tier 1 leverage capital ratio of 5% or more and is not subject to any order or final capital directive to meet and maintain a specific capital level for any capital measure, (ii) "adequately capitalized" if it has a total risk-based capital ratio of 8% or more, a Tier 1 risk-based capital ratio of 4% or more and a Tier 1 leverage capital ratio of 4% or more (3% under certain circumstances) and does not meet the definition of "well capitalized," (iii) "undercapitalized" if it has a total risk-based capital ratio that is less than 8%, a Tier 1 risk-based capital ratio that is less than 4% or a Tier 1 leverage capital ratio that is less than 4% (3% under certain circumstances), (iv) "significantly undercapitalized" if it has a total risk-based capital ratio that is less than 6%, a Tier 1 risk-based capital ratio that is less than 3% or a Tier 1 leverage capital ratio that is less than 3%, and (v) "critically undercapitalized" if it has a ratio of tangible equity to total assets that is equal to or less than 2%. Section 38 of the FDIA and the regulations promulgated thereunder also specify circumstances under which a federal banking agency may reclassify a well capitalized institution as adequately capitalized and may require an adequately capitalized institution or an undercapitalized institution to comply with supervisory actions as if it were in the next lower category (except that the FDIC may not reclassify a significantly undercapitalized institution as critically undercapitalized). At December 31, 1996, the Bank met the criteria to be considered a "well capitalized" institution. Pending Legislation For a discussion of pending legislation that could impact the Company's business and operations, see "Risk Factors -- Pending Legislation." Company Regulation The Company is a non-diversified unitary savings and loan holding company within the meaning of HOLA, is required to register with the OTS and is subject to OTS regulations, examinations, supervision and reporting requirements. In addition, the OTS has enforcement authority over the Company and any non-savings institution subsidiaries it later forms or acquires. Among other things, this authority permits the OTS to restrict or prohibit activities that it determines pose a serious risk to the Bank. The Bank must notify the OTS 30 days before declaring any dividend to the Company. HOLA prohibits a savings and loan holding company, directly or indirectly, or through one or more subsidiaries, from acquiring another savings institution or holding company thereof, without prior written approval of the OTS; acquiring or retaining, with certain exceptions, more than 5% of a non-subsidiary savings institution, a non-subsidiary holding company, or a non-subsidiary company engaged in activities other than those permitted by HOLA; or acquiring or retaining control of a depository institution that is not federally insured. In evaluating applications by holding companies to acquire savings institutions, the OTS will consider the financial and managerial resources and future prospects of the company and institution involved, the effect of the acquisition on the risk to the insurance funds, the convenience and needs of the community and competitive factors. As a unitary savings and loan holding company, the Company currently is not restricted as to the types of business activities in which it may engage, provided that the Bank continues to meet the QTL test. See "--Qualified Thrift Lender Test" and "Risk Factors--Pending Legislation." Upon any non-supervisory acquisition by the Company of another savings association or savings bank that meets the QTL test and is deemed to be a savings institution by the OTS, the Company would become a multiple savings and loan holding company (if the acquired institution is held as a separate subsidiary) and would be subject to extensive limitations on the types of business activities in which it could engage. HOLA limits the activities of a multiple savings and loan holding company and its non-insured institution subsidiaries primarily to activities permissible for bank holding companies under Section 4(c)(8) of the Bank Company Act, subject to the prior approval of the OTS, and activities authorized by OTS regulation. The OTS is prohibited from approving any acquisition that would result in a multiple savings and loan holding company controlling savings institutions in more than one state, subject to two exceptions: (i) the approval 44 of interstate supervisory acquisitions by savings and loan holding companies, and (ii) the acquisition of a savings institution in another state if the laws of the state of the target savings institution specifically permit such acquisitions. Under New York law, reciprocal interstate acquisitions are authorized for savings and loan holding companies and savings institutions. Certain states do not authorize interstate acquisitions under any circumstances; however, federal law authorizing acquisitions in supervisory cases preempts such state law. Federal law generally provides that no "person" acting directly or indirectly or through or in concert with one or more other persons, may acquire "control," as that term is defined in OTS regulations, of a federally insured savings institution without giving at least 60 days' written notice to the OTS and providing the OTS an opportunity to disapprove the proposed acquisition. Such acquisitions of control may be disapproved if it is determined, among other things, that (i) the acquisition would substantially lessen competition; (ii) the financial condition of the acquiring person might jeopardize the financial stability of the savings institution or prejudice the interests of its depositors; or (iii) the competency, experience or integrity of the acquiring person or the proposed management personnel indicates that it would not be in the interest of the depositors or the public to permit the acquisition of control by such person. In addition, federal regulations governing conversions of mutual savings institutions to the stock form of organization prohibit the direct or indirect acquisition without prior OTS approval of more than 10% of any class of equity security of a savings institution within three years of the savings institution's conversion to stock form. This limitation applies to acquisitions of equity securities of the Company. Such acquisition may be disapproved if it is found, among other things, that the proposed acquisition (a) would frustrate the purposes of the provisions of the regulations regarding conversions, (b) would be manipulative or deceptive, (c) would subvert the fairness of the Conversion, (d) would be likely to result in injury to the savings institution, (e) would not be consistent with economical home financing, (f) would otherwise violate law or regulation, or (g) would not contribute to the prudent deployment of the savings institution's conversion proceeds. Federal Securities Laws The Company's Common Stock is registered with the SEC under Section 12(g) of the Securities Exchange Act of 1934, as amended (the "Exchange Act"). The Company is subject to the information and reporting requirements, regulations governing proxy solicitations, insider trading restrictions and other requirements applicable to companies whose stock is registered under the Exchange Act. Item 2. Properties. The Bank conducts its business through seven full-service offices. The Bank's main office is located at 144-51 Northern Boulevard, Flushing, New York. The Bank believes that its current facilities are adequate to meet the present and immediately foreseeable needs of the Bank and the Company.
Leased or Date Leased Lease Expiration Net Book Value at Office Owned or Acquired Date December 31, 1996 - --------------------------------- --------- ----------- ---------------- ----------------- Main Office 144-51 Northern Blvd. owned 1972 NA $1,145,000 Flushing, NY 11354.............. Broadway Branch 159-18 Northern Blvd. owned 1962 NA 569,000 Flushing, NY 11358.............. Auburndale Branch 188-08 Hollis Court Blvd. owned 1991 NA 807,295 Flushing, NY 11358.............. Springfield Branch 61-54 Springfield Blvd. leased 1991 11/30/2001 -- Bayside, NY 11364...............
45
Leased or Date Leased Lease Expiration Net Book Value at Office Owned or Acquired Date December 31, 1996 - --------------------------------- --------- ----------- ---------------- ----------------- Bay Ridge Branch 7102 Third Avenue owned 1991 NA 326,575 Brooklyn, NY 11209.............. Irving Place Branch 33 Irving Place leased 1991 11/30/2001 67,306 New York, NY 10003.............. New Hyde Park Branch 661 Hillside Avenue leased 1971 12/31/2012 20,863 New Hyde Park, NY 11040.........
Item 3. Legal Proceedings. The Bank is involved in various legal actions arising in the ordinary course of its business which, in the aggregate, involve amounts which are believed by management to be immaterial to the financial condition and results of operations of the Bank. Item 4. Submission of Matters to a Vote of Security Holders. None PART II Item 5. Market for the Registrant's Common Stock and Related Stockholder Matters. Flushing Financial Corporation common stock is traded on the Nasdaq National Market and quoted under the symbol "FFIC". Information regarding Flushing Financial Corporation common stock and its price for the 1996 fiscal year appears on the back cover page of the Annual Report under the caption "Market Price of Common Stock" and is incorporated herein by this reference. As of February 28, 1997, Flushing Financial Corporation had approximately 1,072 stockholders of record, not including the number of persons or entities holding stock in nominee or street name through various brokers and banks. In September 1996, the Board of Directors of the Company adopted a dividend policy to pay an annual dividend of $0.16 per share of Common Stock, payable in equal quarterly installments, should the earnings of the Company warrant. In accordance with this policy, dividends were paid in 1996 as follows: Declaration Date Record Date Payment Date ---------------- ----------- ------------ September 17, 1996 September 30, 1996 October 15, 1996 November 26, 1996 December 12, 1996 December 27, 1996 The Company's dividend policy may change from time to time. Changes in the Company's dividend policy will depend upon a number of factors, including the investment and business opportunities available to the Company and the Bank, capital requirements of the Bank, regulatory requirements, the Bank's and the Company's financial condition and results of operations, tax considerations and general economic conditions. No assurance can be given that the declaration and payment of dividends will continue. In June and again in December 1996, the Company announced its intention to repurchase up to 1,126,038 shares in the aggregate, representing approximately 13% of the Company's outstanding shares of Common Stock, in open market transactions. The requisite approvals for these repurchase programs were obtained from the OTS. 46 As of December 31, 1996, the Company had repurchased 667,650 shares of Common Stock at a cost of $12.2 million, leaving 458,388 shares to repurchased under the repurchase programs. The Company's total shares of Common Stock outstanding at December 31, 1996 were 8,250,497. Item 6. Selected Financial Data. Information regarding selected financial data appears on pages 5 and 6 of the Annual Report under the caption "Selected Financial Data" and is incorporated herein by this reference. Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. Information regarding management's discussion and analysis of financial condition and results of operations appears on pages 7 through 16 of the Annual Report under the caption "Management's Discussion and Analysis of Financial Condition and Results of Operations" and is incorporated herein by this reference. Item 8. Financial Statements and Supplementary Data. Information regarding the financial statements and the Independent Auditor's Report appears on pages 17 through 40 of the Annual Report and is incorporated herein by this reference. Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure. None. PART III Item 10. Directors and Executive Officers of the Registrant. Information regarding the directors and executive officers of the Company appears in the Company's Proxy Statement for the Annual Meeting of Shareholders to be held April 29, 1997 under the captions "Board Nominees", "Continuing Directors" and "Executive Officers Who Are Not Directors" and is incorporated herein by this reference. Item 11. Executive Compensation. Information regarding executive compensation appears in the Company's Proxy Statement for the Annual Meeting of Shareholders to be held April 29, 1997 under the caption "Executive Compensation" and is incorporated herein by this reference. Item 12. Security Ownership of Certain Beneficial Owners and Management. Information regarding security ownership of certain beneficial owners appears in the Company's Proxy Statement for the Annual Meeting of Shareholders to be held April 29, 1997 under the caption "Stock Ownership of Certain Beneficial Owners" and is incorporated herein by this reference. Information regarding security ownership of management appears on in the Company's Proxy Statement for the Annual Meeting of Shareholders to be held April 29, 1997 under the caption "Stock Ownership of Management" and is incorporated herein by this reference. Item 13. Certain Relationships and Related Transactions. Information regarding certain relationships and related transactions appears in the Company's Proxy Statement for the Annual Meeting of Shareholders to be held on April 29, 1997 under the caption "Certain Transactions" and is incorporated herein by this reference. 47 PART IV Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K. (a) 1. Financial Statements The following financial statements are included in the Company's Annual Report to Shareholders for the year ended December 31, 1996 and are incorporated herein by this reference: o Consolidated Statements of Condition at December 31, 1995 and 1996 o Consolidated Statements of Operations for each of the years in the three-year period ended December 31, 1996 o Consolidated Statements of Changes in Stockholders' Equity for each of the years in the three-year period ended December 31, 1996 o Consolidated Statements of Cash Flows for each of the years in the three year period ended December 31, 1996 o Notes to Consolidated Financial Statements o Report of Independent Accountants The remaining information appearing in the Annual Report to Stockholders is not deemed to be filed as a part of this report, except as expressly provided herein. 2. Financial Statement Schedules Financial Statement Schedules have been omitted because they are not applicable or the required information is shown in the Consolidated Financial Statements or Notes thereto. (b) Reports on Form 8-K filed during the last quarter of fiscal 1996 None (c) Exhibits Required by Securities and Exchange Commission Regulation S-K
Exhibit Number - ------ 3.1 Articles of Incorporation of Flushing Financial Corporation (1) 3.2 By-Laws of Flushing Financial Corporation (1) 10.1 Annual Incentive Plan for Selected Officers (1) 10.2 Employment Agreements between Flushing Savings Bank, FSB and Certain Officers (1) 10.3 Employment Agreements between Flushing Financial Corporation and Certain Officers (2) 10.3(a) Amendment No. 1 to Employment Agreement between Flushing Financial Corporation and Michael J. Hegarty (3) 10.3(b) Amendment to Employment Agreement between Flushing Financial Corporation and Certain Officers (including Michael J. Hegarty) (3) 10.3(c) Amendment No. 3 to Employment Agreement between Flushing Financial Corporation and Michael J. Hegarty, and Amendemnt No. 2 to Employment Agreement between Flushing Savings Bank, FSB and Michael J. Hegarty (4) 10.4 Special Termination Agreements (2) 10.5 Employee Severance Compensation Plan of Flushing Savings Bank, FSB (1) 10.6(a) Outside Director Retirement Plan (2)
48
Exhibit Number - ------ 10.6(b) Flushing Savings Bank, FSB Outside Director Deferred Compensation Plan (2) 10.7 Flushing Savings Bank, FSB Supplemental Savings Incentive Plan (1) 10.8 Form of Indemnity Agreement among Flushing Savings Bank, FSB, Flushing Financial Corporation, and each Director (1) 10.8(a) Indemnity Agreement among Flushing Savings Bank, FSB, Flushing Financial Corporation, and each Director (3) 10.8(b) Indemnity Agreement among Flushing Savings Bank, FSB, Flushing Financial Corporation, and Certain Officers (3) 10.9 Employee Benefit Trust Agreement (1) 10.10 Loan Document for Employee Benefit Trust (1) 10.11 Guarantee by Flushing Financial Corporation (1) 10.12 Consulting Agreement between Flushing Savings Bank, FSB, Flushing Financial Corporation and Gerard P. Tully, Sr. 13.1 1996 Annual Report to Shareholders 22.1 Subsidiaries information incorporated herein by reference to Part I - Subsidiary Activities 23.1 Consent of Independent Accountants 27 Financial Data Schedule 99.1 Proxy Statement for the Annual Meeting of Shareholders to be held on April 29, 1997, portions of which are incorporated herein by reference.
(1) Incorporated by reference to Exhibits filed with the Registration Statement on Form S-1, Registration No. 33-96488. (2) Incorporated by reference to Exhibits filed with the Company's Report on Form 10-K for the year ended December 31, 1995. (3) Incorporated by reference to Exhibits filed with the Company's Report of Form 10-Q for the quarter ended September 30, 1996. (4) These amendments are contained in a single document entitled "Amendment Agreement No. 3", filed with this Report. 49 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) the Securities Exchange Act of 1934, the Company has duly caused this report, or amendment thereto, to be signed on its behalf by the undersigned, thereunto duly authorized, in New York, New York, on March 28, 1997. FLUSHING FINANCIAL CORPORATION By /s/ JAMES F. MCCONNELL ----------------------------- James F. McConnell President POWER OF ATTORNEY We, the undersigned directors and officers of Flushing Financial Corporation (the "Company") hereby severally constitute and appoint James F. McConnell and Monica C. Passick as our true and lawful attorneys and agents, each acting alone and with full power of substitution and re-substitution, to do any and all things in our names in the capacities indicated below which said James F. McConnell or Monica C. Passick may deem necessary or advisable to enable the Company to comply with the Securities Exchange Act of 1934, and any rules, regulations and requirements of the Securities and Exchange Commission, in connection with the report on Form 10K, or amendment thereto, including specifically, but not limited to, power and authority to sign for us in our names in the capacities indicated below the report on Form 10-K, or amendment thereto; and we hereby approve, ratify and confirm all that said James F. McConnell or Monica C. Passick shall do or cause to be done by virtue thereof. Pursuant to the requirements of the Securities Exchange Act of 1934, this report on Form 10-K, or amendment thereto, has been signed by the following persons in the capacities and on the dates indicated.
Signature Title Date - --------- ----- ---- /s/ JAMES F. MCCONNELL Director, President (Principal Executive March 28, 1997 - ---------------------------------------- Officer) James F. McConnell /s/ GERARD P. TULLY, SR. Director, Chairman March 28, 1997 - ---------------------------------------- Gerard P. Tully, Sr. /s/ MONICA C. PASSICK Treasurer (Principal Financial and March 28, 1997 - ------------------------------- Accounting Officer) Monica C. Passick /s/ ROBERT A. MARANI Director March 28, 1997 - ------------------------------- Robert A. Marani /s/ JOHN O. MEAD Director March 28, 1997 - ---------------------------------------- John O. Mead /s/ MICHAEL J. HEGARTY Director March 28, 1997 - ---------------------------------------- Michael J. Hegarty /s/ FRANKLIN F. REGAN, JR. Director March 28, 1997 - ---------------------------------------- Franklin F. Regan, Jr. /s/ JOE E. ROE, SR. Director March 28, 1997 - ---------------------------------------- Joe E. Roe, Sr. /s/ MICHAEL J. RUSSO Director March 28, 1997 - ------------------------------- Michael J. Russo /s/ JOHN M. GLEASON Director March 28, 1997 - ---------------------------------------- John M. Gleason /s/ VINCENT F. NICOLOSI Director March 28, 1997 - ---------------------------------------- Vincent F. Nicolosi
EX-13.1 2 ANNUAL REPORT TO SHAREHOLDERS [LOGO] - --------------------- FFC Flushing Financial Corporation - --------------------- Flushing Financial Corporation ------------------------------ 1996 Annual Report [LOGO] ----------------- FSB Flushing Savings Bank, FSB ----------------- Flushing Financial Corporation Corporate Profile Flushing Financial Corporation, a Delaware corporation, was organized in May 1994 as the holding company for Flushing Savings Bank, FSB, a federally chartered, FDIC insured savings institution originally organized in 1929. The Bank is a consumer-oriented savings institution primarily engaged in attracting deposits from the local communities of Queens, Nassau, Brooklyn and Manhattan and investing such deposits and other available funds primarily in originations or purchases of one-to-four family residential loans, multi-family mortgage loans and commercial real estate loans. Flushing Financial Corporation's common stock is publicly traded on the Nasdaq National Market under the symbol "FFIC". Flushing Financial Corporation Table of Contents Financial Highlights 1 To Our Shareholders 2 Selected Financial Data 5 Management's Discussion & Analysis of Financial Condition & Results of Operations 7 Consolidated Financial Statements 17 Notes to Consolidated Financial Statements 22 Report of Independent Accountants 40 Corporate & Shareholder Information Inside Back Cover Flushing Financial Corporation Financial Highlights
=================================================================================================================================== At or for the Year Ended December 31, 1996 1995 - ----------------------------------------------------------------------------------------------------------------------------------- Selected Financial Data (Dollars in thousands, except per share data) Total assets ....................................................................... $ 775,343 $ 708,384 Loans receivable, net .............................................................. 382,781 280,126 Mortgage-backed securities ......................................................... 141,038 179,300 Other securities ................................................................... 190,857 202,147 Real estate owned, net ............................................................. 1,218 1,869 Deposits ........................................................................... 584,479 559,864 Stockholders' equity(1) ............................................................ 133,281 141,330 Book value per share ............................................................... $ 16.15 $ 16.39 =================================================================================================================================== Selected Operating Data Net interest income ................................................................ $ 28,759 $ 21,807 Net income ......................................................................... 6,715 3,286 Earnings per share(2) .............................................................. $ 0.84 Not meaningful =================================================================================================================================== Financial Ratios Return on average assets ........................................................... 0.89% 0.53% Net interest margin ................................................................ 4.01 3.74 Net interest rate spread ........................................................... 3.29 3.51 Efficiency ratio ................................................................... 58.33 64.69 Equity to total assets ............................................................. 17.19 19.95 Non-performing assets to total assets .............................................. 0.47 0.97 Allowance for possible loan losses to gross loans .................................. 1.39 1.85 Allowance for possible loan losses to non-performing loans ......................... 225.79 106.61 ===================================================================================================================================
(1) Reflects unrealized loss of $1.2 million on securities available for sale, net of taxes at December 31, 1996 and an unrealized gain of $1.6 million at December 31, 1995. (2) The Company completed its initial public offering on November 21, 1995. Earnings of the Company from the period November 21, 1995 through December 31, 1995 year end were $655,000 which, based on 7,935,552 weighted average shares outstanding for the same period equals $0.08 per share. [THE FOLLOWING TABLES WERE PRESENTED AS BAR CHARTS IN THE PRINTED MATERIAL] <<<<<<<<<<<<<<<<<<<<<<<>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>> 1 Flushing Financial Corporation To Our Shareholders, Customers and Friends: 1996 marked increased profitability and {the fifth year} of improvement in asset quality 1996, our first full year as a public company, was a year of solid accomplishment, with significant increases achieved in net income and earnings per share as we continued to leverage our strong capital position and shift our asset base to a higher yielding mix. We reported net income of $6.7 million or $0.84 per share--more than double that of a year ago. Total assets grew by 9.5 percent to $775.3 million, reflecting principally the achievement of our planned growth in both the residential and multi-family mortgage loan portfolios. Total mortgage loans increased during the year by $103.6 million, or 36 percent, while securities available for sale declined by $49.6 million as we accelerated implementation of our asset mix strategy, while maintaining our strict underwriting standards. Net interest income improved, principally as a result of the expansion of our loan originations during the year, which were funded through deposit growth and leveraged by borrowings from the Federal Home Loan Bank (FHLB). We stated in last year's report that we would employ such leveraging strategies when we concluded that the risk/ reward criteria met our standards. The improvement in net interest income was offset somewhat by continued increases in the cost of a changing deposit mix as depositors moved to higher-cost certificates of deposits (CDs). Despite the asset growth, we continued to monitor our expenses carefully and actually achieved a reduction in non-interest expense from a year ago. As a consequence, our efficiency ratio improved to 58 percent from 65 percent a year ago. We intend to continue to improve our efficiency ratio going forward and are implementing improvements to our operations infrastructure. In addition to increased profitability, 1996 marked the fifth year of improvement in asset quality, by all standard measures. Some measures of the progress are: o Total non-performing assets as a percentage of total assets has declined to 0.47 percent at 1996 year end from 0.97 percent a year earlier. o Our ratio of allowances for loan losses to non-performing assets increased sharply to 149.94 percent from 77.52 percent a year ago. o The real estate owned account was reduced by 35 percent, the third year of improvement, and 2 amounted to $1.2 million at 1996 year end compared to over $1.9 million a year ago. Our significant capital strength continues to be reflected in the Bank's regulatory capital ratios, which exceed, in all cases, the minimum regulatory requirements. That capital foundation, together with the Bank's continued earnings performance, led the Board of Directors to initiate payment of cash dividends on common stock and authorize a series of stock repurchase programs with the objective of enhancing shareholder value. Specifically: o In September, the Board initiated a quarterly cash dividend policy with an initial indicated annual dividend rate of $0.16 per share. The Board declared quarterly cash dividends of $0.04 per share on the common stock payable in October and December, 1996 and March, 1997. The Board will continue to review the level of dividends quarterly, based on earnings, financial conditions, capital requirements and other factors. o In June, and again in December of 1996, we announced our intention to repurchase up to 1,126,038 shares in the aggregate, representing approximately 13 percent of our outstanding common stock, in open market transactions. As of December 31, 1996, we had repurchased 667,650 common shares at a cost of $12.2 million, leaving 458,388 shares to be repurchased under our Share Repurchase Programs. Our total shares outstanding at December 31, 1996 were 8,250,497. In order to safeguard the interests of its shareholders, the Board of Directors adopted a Stockholder Rights Plan on September 18, 1996. The rights plan is designed to preserve long-term values and protect shareholders against stock accumulations and other abusive tactics that might be used to acquire control of the Company for an inadequate value. [PHOTO] Gerard P. Tully, Sr. John F. McConnell 3 Our focus in 1997 will be to continue to {pursue} structured and orderly growth As we have said previously, we have a plan to grow this institution to increase the value of your investment and a very strong capital position with which to implement that plan. Our focus in 1997 will be to continue to pursue structured and orderly growth and to reallocate the mix of our assets toward the achievement of an appropriate, sustainable rate of return on equity to our shareholders. Elements of the plan include: o The growth of our customer base through the introduction of new and enhanced loan and other products that address the specific needs of our target markets, while continuing to adhere to our established underwriting and investment standards to ensure continued high asset quality. o The continued improvements in our already high standard of service excellence and the accelerated pace of new systems implementation bank-wide. o The pursuit of an expansion strategy that is accretive to earnings, including appropriate acquisition opportunities. o Maintaining our reputation as a quality, community-involved financial institution. The Company's employees at every level are the front line in the quality of service we render to our customers and are instrumental in achieving our plans. To them, we express our gratitude for the accomplishments to date, as well as those to come. On behalf of all of your management and Board of Directors, may we express our appreciation to our original shareholders and to those who have joined us in the last year. We assure you that we are dedicated to increasing shareholder value and appreciate the confidence you have evidenced by your investment in Flushing Financial. We would like to particularly express our sincere gratitude to Mr. Thomas R. Trent, who has recently retired from our Board of Directors after thirty years of service. His knowledge of the banking industry, his sound judgment and the respect he commanded will be deeply missed. /s/ Gerard P. Tully, Sr. Gerard P. Tully, Sr. Chairman /s/ James F. McConnell James F. McConnell President and Chief Executive Officer 4 Flushing Financial Corporation Selected Financial Data
==================================================================================================================================== At and for the years ended December 31, 1996 1995 1994 1993 1992 - ------------------------------------------------------------------------------------------------------------------------------------ (Dollars in thousands, except per share data) Selected Financial Condition Data Total assets .............................................. $ 775,343 $ 708,384 $ 592,014 $ 615,501 $ 596,258 Loans, net ................................................ 382,781 280,126 252,116 254,591 295,280 Investment securities ..................................... -- -- -- -- 257,379 Securities held to maturity ............................... -- -- 90,945 58,129 -- Securities available for sale ............................. 331,895 381,447 195,978 249,639 -- Real estate owned, net .................................... 1,218 1,869 3,468 7,762 8,532 Deposits .................................................. 584,479 559,864 532,141 561,456 551,449 Stockholders' equity ...................................... 133,281 141,330 40,115 45,345 37,734 Book value per share(1) ................................... 16.15 16.39 -- -- -- Selected Operating Data Interest and dividend income .............................. $ 55,061 $ 44,705 $ 42,511 $ 43,604 $ 48,330 Interest expense .......................................... 26,302 22,898 19,440 20,030 25,474 --------------------------------------------------------------------- Net interest income ................................... 28,759 21,807 23,071 23,574 22,856 Provision for loan losses ................................. 418 496 246 2,522 2,809 --------------------------------------------------------------------- Net interest income after provision for loan losses ..................................... 28,341 21,311 22,825 21,052 20,047 --------------------------------------------------------------------- Non-interest income: Net gains (losses) on sales of securities and loans ............................................. 126 (316) (122) 2,004 2,329 Amortization of deferred gain from sale of real estate ................................... -- 2,784 -- -- -- New York State gains tax refund ......................... -- 387 -- -- -- Other income ............................................ 1,623 1,830 1,321 1,426 849 --------------------------------------------------------------------- Total non-interest income ............................. 1,749 4,685 1,199 3,430 3,178 --------------------------------------------------------------------- Non-interest expense: General and administrative .............................. 17,906 16,818 15,732 15,191 14,173 Expenses on real estate owned, net ...................... 318 540 526 1,572 807 Recovery (Provision) for deposits at Nationar ........... (660) 660 -- -- -- Conversion expenses ..................................... -- 2,222 -- -- -- --------------------------------------------------------------------- Total non-interest expense ............................ 17,564 20,240 16,258 16,763 14,980 --------------------------------------------------------------------- Income before income taxes and cumulative effect of changes in accounting principles .............. 12,526 5,756 7,766 7,719 8,245 Income tax provision ...................................... 5,811 2,470 3,331 3,114 4,749 --------------------------------------------------------------------- Income before cumulative effect of changes in accounting principles ................................ 6,715 3,286 4,435 4,605 3,496 Net cumulative effect of change in accounting principle .................................. -- -- -- 718 -- --------------------------------------------------------------------- Net income ............................................ $ 6,715 $ 3,286 $ 4,435 $ 5,323 $ 3,496 ==================================================================================================================================== Earnings per share(2) ..................................... $ 0.84 Not meaningful -- -- -- Dividends declared per share .............................. $ 0.08 -- -- -- --
(Footnotes on the following page) 5 Flushing Financial Corporation Selected Financial Data
==================================================================================================================================== At and for the years ended December 31, 1996 1995 1994 1993 1992 - ------------------------------------------------------------------------------------------------------------------------------------ Selected Financial Ratios and Other Data Performance ratios: Return on average assets(3)(4) .......................... 0.89% 0.53% 0.70% 0.76% 0.59% Return on average equity(3) ............................. 4.90 6.08 10.66 11.05 9.92 Average equity to average assets(4) ..................... 18.17 8.70 6.56 6.86 5.98 Equity to total assets .................................. 17.19 19.95 6.78 7.37 6.33 Interest rate spread during period ...................... 3.29 3.51 3.82 3.95 3.97 Net interest margin(4) .................................. 4.01 3.74 3.90 4.10 4.12 Non-interest expense to average assets(4) ............... 2.33 3.26 2.56 2.76 2.54 General and administrative expense to average assets(4) ..................................... 2.38 2.71 2.48 2.50 2.41 Efficiency ratio ........................................ 58.33 64.69 65.48 62.05 61.03 Average interest-earning assets to average interest-bearing liabilities(4) ....................... 1.20x 1.06x 1.03x 1.04x 1.03x Regulatory capital ratios(5): Tangible capital ........................................ 12.67% 14.85% 7.87% 7.37% 6.33% Core capital ............................................ 12.67 14.85 7.87 7.37 6.33 Total risk-based capital ................................ 27.43 30.48 17.01 13.93 12.61 Asset quality ratios: Non-performing loans to gross loans(6) .................. 0.62% 1.74% 2.05% 4.47% 7.39% Non-performing assets to total assets(7) ................ 0.47 0.97 1.48 3.16 5.16 Net charge-offs to average loans(4) ..................... 0.09 0.21 0.24 0.47 0.47 Allowance for loan losses to gross loans ................ 1.39 1.85 2.07 2.19 1.51 Allowance for loan losses to total non-performing assets(7) .............................. 149.94 77.52 61.17 29.41 14.81 Allowance for loan losses to total non-performing loans(6) ............................... 225.79 106.61 101.11 48.94 20.49 Full-service customer facilities .......................... 7 7 7 7 7
Market Price of Common Stock Flushing Financial Corporation Common Stock is traded on the Nasdaq National Market under the symbol "FFIC". As of December 31, 1996, the Company had approximately 1,079 shareholders of record, not including the number of persons or entities holding stock in nominee or street name through various brokers and banks. At December 31, 1996, the last trading date in 1996 for Nasdaq, the Company's stock closed at $18.125. The following table shows the high and low closing sales price of the Common Stock during the period indicated. The Common Stock began trading November 21, 1995.
1996 1995 -------------------------------------------------------------------------- High Low High Low ========================================================================== First Quarter .............................. $15.6250 $14.3750 NA NA Second Quarter ............................. 17.2500 14.7500 NA NA Third Quarter .............................. 18.8750 16.2500 NA NA Fourth Quarter ............................. 19.0000 17.6250 $15.3750 $14.1250
(1) Calculated by dividing net equity of $133.3 million and $141.3 million at December 31, 1996 and 1995, respectively, by 8,250,497 and 8,625,000 shares outstanding at December 31, 1996 and 1995, respectively. (2) The Company completed its initial public offering on November 21, 1995. Earnings of the Company from the period November 21, 1995 through December 31, 1995 year end were $655,000 which, based on 7,935,552 weighted average shares outstanding for the same period, equals to $0.08 per share. The shares held in the Company's Employee Benefit Trust are not included in shares outstanding for purposes of calculating earnings per shares. The weighted average shares outstanding for the year ended December 31, 1996 was 8,009,189. (3) Fiscal year 1993 reflects income before cumulative effects of changes in accounting principles. (4) Average balances for 1992 are derived from month-end balances. Average balances for 1993, 1994, 1995 and 1996 are derived from daily balances. Management does not believe this produces a materially different result. (5) The Bank exceeded all minimum regulatory capital requirements during the periods presented. (6) Non-performing loans consist of non-accrual loans and loans delinquent 90 days or more that are still accruing. (7) Non-performing assets consists of non-performing loans and real estate owned. 6 Flushing Financial Corporation Management's Discussion and Analysis of Financial Condition and Results of Operations General Flushing Financial Corporation ("Holding Company") is the parent holding company for Flushing Savings Bank, FSB ("Bank"), a federally chartered stock savings bank. On November 21, 1995, the Bank completed its Conversion ("Conversion") from a federally chartered mutual savings bank to a federally chartered stock savings bank. The following discussion of financial condition and results of operations include the collective results of the Holding Company and the Bank (collectively the "Company"), but reflects principally the Bank's activities. Unless otherwise indicated, for periods prior to November 21, 1995, the date the Holding Company acquired the Bank, reference to the Company reflects only the Bank's activities. The Company's principal business is attracting retail deposits from the general public and investing those deposits together with funds generated from operations, primarily in (i) originations and purchases of one-to-four family residential mortgage loans, multi-family income-producing property loans and commercial real estate loans; (ii) mortgage loan surrogates such as mortgage-backed securities and; (iii) U.S. government and federal agency securities, corporate fixed-income securities and other marketable securities. To a lesser extent, the Company originates co-operative apartment loans, construction and consumer loans. The Company's results of operations depend primarily on net interest income, which is the difference between the interest income earned on its loan and securities portfolios and its cost of funds, consisting primarily of interest paid on deposit accounts and borrowed funds. Net interest income is determined by the Company's interest rate spread, which is the difference between the average yield earned on interest-earning assets and the average cost of interest-bearing liabilities, and the average balance of interest-earning assets compared to the average balance of interest-bearing liabilities. The Company also generates non-interest income from loan fees, service charges on deposit accounts, mortgage servicing fees, prepayment penalties, late charges and other fees and net gains and losses on sales of securities and loans. The Company's operating expenses consist principally of employee compensation and benefits, occupancy and equipment costs, federal deposit insurance premiums, other general and administrative expenses and income tax expense. The Company's results of operations also can be significantly affected by its periodic provision for loan losses and specific provision for losses on real estate owned ("REO"). Such results also are significantly affected by general economic and competitive conditions, including changes in market interest rates, the strength of the local economy, government policies and actions of regulatory authorities. Statements contained in this Annual Report relating to plans, strategies, objectives, economic performance and trends and other statements that are not descriptions of historical facts may be forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Forward looking information is inherently subject to risks and uncertainties, and actual results could differ materially from those currently anticipated due to a number of factors, which include, but are not limited to, the factors set forth in the preceding paragraph, and under captions "Management Strategy", "Comparison of Operating Results for the Years Ended December 31, 1995 and 1996", "Comparison of Operating Results for the Years Ended December 31, 1994 and 1995" and "Other Trends and Contingencies" below, and elsewhere in this Annual Report and in other documents filed by the Company with the Securities and Exchange Commission from time to time. The Company has no obligations to update these forward-looking statements. Flushing Savings Bank, FSB The Bank was organized in 1929 as a New York State chartered mutual savings bank. On May 10, 1994, the Bank converted to a federally chartered mutual savings bank and changed its name from Flushing Savings Bank to Flushing Savings Bank, FSB. As a federal savings bank, the Bank's primary regulator is the Office of Thrift Supervision ("OTS"). The Bank's deposits are insured to the maximum allowable amount by the Bank Insurance Fund ("BIF"), which is administered by the Federal Deposit Insurance Corporation ("FDIC"). 7 Management Strategy Management's strategy is to continue the Bank's focus as a consumer-oriented institution serving its local markets. In further ance of this objective, the Company intends to (1) continue its primary emphasis on one-to-four family residential mortgage lending while continuing to increase its emphasis on the origination of multi-family and commercial real estate loans, (2) seek to maintain asset quality, (3) seek to manage deposit growth and maintain low cost of funds, and (4) seek to manage interest rate risk. The Company has in the past increased growth through acquisitions of branches of other financial institutions, and will pursue growth through acquisitions that are accretive to earnings. There can be no assurance that the Company will be able to effectively implement this strategy. The Company's strategy is subject to change by the Board of Directors. One-to-Four Family, Multi-Family and Commercial Real Estate Lending. Although the Company has traditionally emphasized the origination and acquisition of one-to-four family residential mortgage loans, which include adjustable rate mortgage ("ARM") loans, fixed rate mortgage loans and home equity loans, it has also originated substantial volumes of multi-family and commercial real estate loans. The Company's strategy contemplates an increased emphasis on multi-family and commercial real estate loans, but the Company expects that one-to-four family residential mortgage loans will continue to account for the largest volume of new loans. At December 31, 1996, the Company's one-to-four family residential mortgage loans, multi-family real estate loans and commercial real estate loans amounted to $236.5 million (60.68%), $104.9 million (26.91%) and $46.7 million (11.98%), respectively, of gross loans. The Company seeks to increase its originations of one-to-four family, multi-family and commercial real estate loans through more aggressive marketing and by maintaining competitive interest rates and origination fees. The Company's increased marketing efforts include advertising in its local markets and increased contacts with mortgage brokers and other professionals who may serve as referral sources. Since 1994, the Company has expanded its relationship with mortgage bankers who originate one-to-four family mortgage loans in the New York metropolitan area that are then purchased by the Company. Purchases of such loans increased from $18.8 million during 1995 to $39.9 million during 1996. Fully underwritten one-to-four family residential mortgage loans generally are considered by the banking industry to have less risk than other types of loans. Multi-family income-producing real estate loans and commercial real estate loans generally have higher yields than one-to-four family loans and shorter terms to maturity, but typically involve higher principal amounts and generally expose the lender to a greater risk of credit loss than one-to-four family residential mortgage loans. The Company's increased emphasis on multi-family and commercial real estate loans can be expected to increase the overall level of credit risk inherent in the Company's loan portfolio. The greater risk associated with multi-family and commercial real estate loans may require the Company to increase its provisions for loan losses and to maintain an allowance for loan losses as a percentage of total loans in excess of the allowance currently maintained by the Company. Maintain Asset Quality. By adherence to its strict underwriting standards and aggressive charge-offs of possible losses from impaired loans, the Company has continued to strengthen its loan portfolio, as evidenced by the increase in the Company's ratio of allowance for loan losses to non-performing loans from 106.61% at December 31, 1995 to 225.79% at December 31, 1996. The Company seeks to maintain its loans in performing status through, among other things, strict collection efforts and consistent monitoring of non-performing assets. To this end, the Company has created an internal loan review committee to review the quality of loans and report to the Loan Committee of the Board of Directors of the Bank on a monthly basis. From time to time, the Company has and may continue to make sales of non-performing assets. At December 31, 1996 non-performing assets totaled $3.6 million, a decline of $3.3 million from $6.9 million at December 31, 1995. Total non-performing assets as a percentage of total assets has consistently declined from 5.16% at December 31, 1992, to 0.97% at December 31, 1995, and to 0.47% at December 31, 1996. Managing Deposit Growth and Maintaining Low Cost of Funds. The Company has a relatively stable retail deposit base drawn from its market area through its seven full service offices. Although the Company seeks to retain existing deposits and maintain depositor relationships by offering quality service and competitive interest rates to its customers, the Company seeks to keep deposit growth within reasonable limits. During the low interest rate environment in 1995 and 1996, the Bank has experienced a shift by depositors from low cost savings, NOW and money market accounts to higher cost cer tificates of deposit accounts. It is management's intention to balance its goal to remain competitive in interest rates on deposits while seeking to manage its cost of funds to fund its strategies. Historically, the Company has relied on its deposit base as its principal source of funding. In May 1994, the Bank became a member of the Federal Home Loan Bank of New York ("FHLB-NY"), which provides it with an additional source of low cost borrowing. 8 Managing Interest Rate Risk. The Company seeks to reduce its exposure to interest rate risk by increasing the interest rate sensitivity of its assets. The mix of loans originated by the Company (fixed-rate or ARM) is determined in large part by borrowers' preferences, and the proportion of loans originated as fixed-rate loans may increase should interest rates decline. The Company seeks to adjust the interest rate sensitivity of its assets by retaining ARM loans it originates, purchasing additional ARM loans or adjustable-rate mortgage-backed securities and fixed-rate mortgage-backed securities with remaining estimated lives of less than five years. In order to maintain flexibility in managing the Company's interest rate sensitive assets, substantially all of the fixed-rate residential mortgage loans originated by the Company since 1990 were made in conformance with Federal National Mortgage Association ("FNMA") requirements to facilitate sale in the secondary market. The Bank's current policy is to securitize or sell all of its newly originated, conforming fixed-rate 30-year residential mortgage loans and to hold the Bank's fixed-rate 15-year residential mortgage loans in portfolio. The Bank did not originate any 30-year fixed-rate residential mortgage loans in 1996. Prevailing interest rates also affect the extent to which borrowers repay and refinance loans. In a declining interest rate environment, the number of loan payments and loan refinancings to lower than original interest rates may increase, as well as prepayments of mortgage-backed securities. Call provisions associated with the Company's investment in U.S. government agency and corporate securities may also adversely affect yield in a declining interest rate environment. Such prepayments and calls may adversely affect the yield of the Company's loan, mortgage-backed and other securities as the Company will have to reinvest the prepaid funds in a lower interest rate environment. However, the Company typically receives additional loan fees when existing loans are refinanced, which partially offset reduced yield on the Company's loan portfolio resulting from prepayments. In periods of low interest rates, the Company's level of core deposits also may decline if depositors seek higher yielding instruments or other investments not offered by the Company, which in turn may increase the Company's cost of funds and decrease its net interest margin to the extent alternative funding sources are utilized. Interest Rate Sensitivity Analysis A financial institution's exposure to the risks of changing interest rates may be analyzed, in part, by examining the extent to which its assets and liabilities are "interest rate sensitive" and by monitoring the institution's interest rate sensitivity "gap". An asset or liability is said to be interest rate sensitive within a specific time period if it will mature or reprice within that time period. The interest rate sensitivity gap is defined as the difference between the amount of interest-earning assets maturing or repricing within a specific time period and the amount of interest-bearing liabilities maturing or repricing within that time period. A gap is considered positive when the amount of interest-earning assets maturing or repricing exceeds the amount of interest-bearing liabilities maturing or repricing within the same period. A gap is considered negative when the amount of interest-bearing liabilities maturing or repricing exceeds the amount of interest-earning assets maturing or repricing within the same period. Accordingly, a positive gap may enhance net interest income in a rising rate environment and reduce net interest income in a falling rate environment. Conversely, a negative gap may enhance net interest income in a falling rate environment and reduce net interest income in a rising rate environment. The table on the following page sets forth the amounts of interest-earning assets and interest-bearing liabilities outstanding at December 31, 1996 which are anticipated by the Company, based upon certain assumptions, to reprice or mature in each of the future time periods shown. Except as stated below, the amount of assets and liabilities shown which reprice or mature during a particular period was determined in accordance with the earlier of the term to repricing or the contractual terms of the asset or liability. Prepayment assumptions based on recent historical experience of 22% per annum were applied to mortgage-backed securities. NOW accounts, Passbook accounts and Money Market accounts were assumed to have a withdrawal or "run-off" rate of 1%, 3% and 9%, respectively, based on recent historical experience. Management believes that these assumptions are indicative of actual prepayments and withdrawals experienced by the Company. 9
--------------------------------------------------------------------------------------- Interest Rate Sensitivity Gap Analysis At December 31, 1996 --------------------------------------------------------------------------------------- More than More than More than One Year Three Years Five Years Six Months Six Months to Three to Five to Ten More than and Less to One Year Years Years Years Ten Years Total =================================================================================================================================== Interest-Earning Assets (Dollars in thousands) Mortgage loans(1) ......................... $ 20,986 $ 50,588 $ 97,711 $ 111,678 $ 53,808 $ 50,943 $ 385,714 Other loans(1) ............................ 151 370 859 250 14 -- 1,644 Short-term securities(2) .................. 27,465 -- -- -- -- -- 27,465 Securities available for sale: Mortgage-backed securities(3) ........... 15,515 38,500 34,078 29,511 18,675 4,759 141,038 Other(3) ................................ 4,242 2,678 16,859 33,757 122,641 10,680 190,857 --------------------------------------------------------------------------------------- Total interest-earning assets ......... 68,359 92,136 149,507 175,196 195,138 66,382 746,718 --------------------------------------------------------------------------------------- Interest-Bearing Liabilities Passbook accounts ......................... 3,145 3,145 12,021 11,310 25,437 154,632 209,690 NOW accounts .............................. 107 107 422 414 1,000 19,358 21,408 Money market accounts ..................... 1,133 1,133 3,939 3,262 5,908 9,805 25,180 Certificate of deposit accounts ........... 150,716 63,759 75,839 24,169 -- -- 314,483 Mortgagors' escrow deposits ............... -- -- -- -- -- 3,425 3,425 Borrowed funds ............................ 25,000 -- 26,000 -- -- -- 51,000 Other interest-bearing liabilities ........ -- -- 298 -- -- -- 298 --------------------------------------------------------------------------------------- Total interest-bearing liabilities(4) . $ 180,101 $ 68,144 $ 118,519 $ 39,155 $ 32,345 $ 187,220 $ 625,484 --------------------------------------------------------------------------------------- Interest rate sensitivity gap ............. $(111,742) $ 23,992 $ 30,988 $ 136,041 $ 162,793 $(120,838) $ 121,234 Cumulative interest-rate sensitivity gap .. $(111,742) $ (87,750) $ (56,762) $ 79,279 $ 242,072 $ 121,234 $ 121,234 Cumulative interest-rate sensitivity gap as a percentage of total assets(5) ...... (14.41)% (11.32)% (7.32)% 10.23% 31.22% 15.64% 15.64% Cumulative net interest-earning assets as a percentage of interest-bearing liabilities ............ 37.96% 64.65% 84.52% 119.53% 155.23% 119.38% 119.38%
(1) For purposes of the gap analysis, gross mortgage and other loans are reduced for non-performing loans. (2) Consists of interest-earning deposits. (3) Securities available for sale are presented at their amortized cost. (4) Does not include non-interest-bearing demand accounts totaling $10.3 million at December 31, 1996. (5) The Company's one year cumulative gap ratio declined from +0.18% at December 31, 1995 to -11.32% at December 31, 1996. This decline reflects an increase of $25.0 million in borrowings due within 6 months and a decline in mortgage-backed securities repricing within one year. This decline is partially offset by lower historical runoff rates for NOW, Passbook and Money Market accounts experienced by the Bank. Certain shortcomings are inherent in the method of analysis presented in the foregoing table. For example, although certain assets and liabilities may have similar estimated maturities or periods to repricing, they may react in differing degrees to changes in market interest rates and may bear rates that differ in varying degrees from the rates that would apply upon maturity and reinvestment or upon repricing. Also, the interest rates on certain types of assets and liabilities may fluctuate in advance of changes in market interest rates, while interest rates on other types may lag behind changes in market rates. Additionally, certain assets, such as ARM loans, have features that restrict changes in interest rates on a short-term basis and over the life of the asset. Further, in the event of a significant change in the level of interest rates, prepayments on loans and mortgage-backed securities, and deposit withdrawal or "run-off" levels, would likely deviate materially from those assumed in calculating the above table. In the event of an interest rate increase, some borrowers may be unable to meet the increased payments on their adjustable-rate debt. The interest rate sensitivity analysis assumes that the nature of the Company's assets and liabilities remains static. Interest rates may have an effect on customer preferences for deposits and loan products. Finally, the maturity and repricing characteristics of many assets and liabilities as set forth in the above table are not governed by contract but rather by management's best judgment based on current market conditions and anticipated business strategies. Analysis of Net Interest Income Net interest income represents the difference between income on interest-earning assets and expense on interest-bearing liabilities. Net interest income depends upon the relative amount of interest-earning assets and interest-bearing liabilities and the interest rate earned or paid on them. 10 The following table sets forth certain information relating to the Company's consolidated statements of financial condition and the consolidated statements of operations for the years ended December 31, 1996, 1995 and 1994, and reflects the average yield on assets and average cost of liabilities for the periods indicated. Such yields and costs are derived by dividing income or expense by the average balance of assets or liabilities, respectively, for the periods shown. Average balances are derived from average daily balances. The yields include amortization of fees which are considered adjustments to yields.
==================================================================================================================================== For the years ended December 31, 1996 1995 1994 - ------------------------------------------------------------------------------------------------------------------------------------ Average Average Average Average Yield/ Average Yield/ Average Yield/ Balance Interest Cost Balance Interest Cost Balance Interest Cost ----------------------------------------------------------------------------------------------- (Dollars in thousands) Assets Interest-earning assets: Mortgage loans, net(1)(2)(3) .. $324,427 $ 28,940 8.92% $261,738 $ 24,209 9.25% $248,913 $ 22,834 9.17% Other loans, net(1)(2) ......... 1,997 221 11.07 2,774 277 9.99 3,808 373 9.80 Mortgage-backed securities(7) .. 160,371 10,422 6.50 180,178 11,603 6.44 177,205 9,693 5.47 Other securities(7) ............ 215,772 14,698 6.81 119,343 7,507 6.29 124,841 7,847 6.29 Interest-earning deposits and federal funds sold ....... 14,414 780 5.41 19,344 1,110 5.74 36,513 1,764 4.83 ----------------------------------------------------------------------------------------------- Total interest-earning assets .... 716,981 55,061 7.68 583,377 44,706 7.66 591,280 42,511 7.19 ---------------- ------------------ ----------------------- Non-interest-earning assets ...... 36,736 37,934 42,914 -------- -------- -------- Total assets ............... $753,717 $621,311 $634,194 ======== ======== ======== Liabilities and Equity Interest-bearing liabilities: Deposits: Passbook accounts ............ $214,843 6,142 2.86 $227,740 6,475 2.84 $277,249 7,902 2.85 NOW accounts ................. 19,483 370 1.90 18,520 349 1.88 19,163 363 1.89 Money market accounts ........ 26,470 741 2.80 31,145 869 2.79 42,026 1,155 2.75 Certificate of deposit accounts ................... 296,867 16,848 5.68 260,462 14,597 5.60 204,399 8,971 4.39 Subscription deposits ........ -- -- -- 4,261 118 2.77 28,265 862 3.05 Mortgagors' escrow deposits ................... 4,292 63 1.47 4,136 57 1.38 4,008 50 1.25 Securities sold with the agreement to repurchase ........ -- -- -- 395 25 6.33 260 14 5.38 Other borrowed funds ............. 36,396 2,099 5.77 4,767 337 7.07 247 18 7.29 Other interest-bearing liabilities 457 39 8.53 757 72 9.51 1,144 105 9.18 ----------------------------------------------------------------------------------------------- Total interest-bearing liabilities 598,808 26,302 4.39 552,183 22,899 4.15 576,761 19,440 3.37 ---------------- ------------------ ----------------------- Other liabilities(4) ............. 17,975 15,087 15,842 -------- -------- -------- Total liabilities .......... 616,783 567,270 592,603 Equity ........................... 136,934 54,041 41,591 -------- -------- -------- Total liabilities and equity ............... $753,717 $621,311 $634,194 ======== ======== ======== Net interest income/net interest rate spread(5) ................. $28,759 3.29% $21,807 3.51% $ 23,071 3.82% ================ ================== ======================= Net interest-earning assets/net interest margin(6)(7) .......... $118,173 4.01% $31,194 3.74% $ 14,519 3.90% ======== ================ =============== ==== Ratio of interest-earning assets to interest-bearing liabilities 1.20x 1.06x 1.03x ==== ==== ====
(1) Average balances include non-accrual loans. (2) Loan interest income includes loan fee income of approximately $1.0 million, $784,000 and $1.0 million for the years ended December 31, 1996, 1995 and 1994, respectively. (3) Includes for 1995 a $371,000 non-recurring interest payment related to one loan sold in a prior period. Had this payment not been made, average yield on mortgage loans for 1995 would have been 9.11%. (4) Includes non-interest-bearing demand deposit accounts. (5) Interest rate spread represents the difference between the average rate on interest-earning assets and the average cost of interest-bearing liabilities. (6) Net interest margin represents net interest income before the provision for loan losses divided by average interest-earning assets. (7) Includes both securities available for sale and securities held to maturity in 1994. 11 Rate/Volume Analysis The following table presents the impact of changes in interest rates and in the volume of interest-earning assets and interest-bearing liabilities on the Company's interest income and interest expense during the periods indicated. Information is provided in each category with respect to (i) changes attributable to changes in volume (changes in volume multiplied by the prior rate), (ii) changes attributable to changes in rate (changes in rate multiplied by the prior volume) and (iii) the net change. The changes attributable to the combined impact of volume and rate have been allocated proportionately to the changes due to volume and the changes due to rate.
--------------------------------------------------------------------- Increase (Decrease) in Net Interest Income --------------------------------------------------------------------- Year Ended December 31, 1996 Year Ended December 31, 1995 Compared to Year Ended Compared to Year Ended December 31, 1995 December 31, 1994 --------------------------------------------------------------------- Due to Due to --------------------- -------------------- Volume Rate Net Volume Rate Net ==================================================================================================================================== (Dollars in thousands) Interest-Earning Assets Mortgage loans, net ........................................ $ 5,799 $ (1,068) $ 4,731 $ 1,176 $ 199 $ 1,375 Other loans ................................................ (78) 22 (56) (101) 5 (96) Mortgage-backed securities ................................. (1,276) 95 (1,181) 163 1,747 1,910 Interest-earning deposits and federal funds sold ........... (283) (47) (330) (829) 175 (654) Other securities ........................................... 6,065 1,126 7,191 (346) 6 (340) --------------------------------------------------------------------- Total interest-earning assets .......................... 10,227 128 10,355 63 2,132 2,195 --------------------------------------------------------------------- Interest-Bearing Liabilities Deposits: Passbook accounts ........................................ (333) -- (333) (1,427) -- (1,427) NOW accounts ............................................. 21 -- 21 (14) -- (14) Money market accounts .................................... (128) -- (128) (299) 13 (286) Certificate of deposit accounts .......................... 2,039 212 2,251 2,461 3,165 5,626 Subscription deposits .................................... (118) -- (118) (744) -- (744) Mortgagors' escrow deposits .............................. 6 -- 6 2 5 7 Securities sold with the agreement to repurchase ........... -- -- -- 9 2 11 Other borrowed funds ....................................... 2,211 (474) 1,737 319 -- 319 Other interest-bearing liabilities ......................... (33) -- (33) (36) 3 (33) --------------------------------------------------------------------- Total interest-bearing liabilities ..................... 3,665 (262) 3,403 271 3,188 3,459 --------------------------------------------------------------------- Net change in net interest income .......................... $ 6,562 $ 390 $ 6,952 $ (208) $ (1,056) $ (1,264) ====================================================================================================================================
Comparison of Operating Results for the Years Ended December 31, 1996 and 1995 General. Net income increased $3.4 million from $3.3 million for the year ended December 31, 1995 to $6.7 million for the year ended December 31, 1996. The increase is due primarily to an increase of $7.0 million, or 31.88%, in net interest income less related tax effect. Interest Income. Interest income increased $10.4 million, or 23.16%, to $55.1 million for the year ended December 31, 1996 from $44.7 million for the year ended December 31, 1995. This increase was primarily due to an additional $4.7 million in interest and fee income on loans and an additional $6.0 million in interest and dividend income on securities during 1996 as compared to 1995. The increase in interest income from loans and securities was the result of higher average balances in mortgage loans and investment securities. The average balance of mortgage loans increased 23.95%, or $62.7 million from $261.7 million for 1995 to $324.4 million for 1996. The average balance of investment securities increased $76.6 million from $299.5 million for 1995 to $376.1 million for 1996. The increase in interest income on loans and securities was offset in part by a $330,000 decline in other interest income due to a $4.9 million decline in the average balance of federal funds sold and overnight interest-earning deposits from $19.3 million for 1995 to $14.4 million for 1996. Interest Expense. Interest expense increased $3.4 million, or 14.86%, from $22.9 million for the year ended December 31, 1995 to $26.3 million for the year ended December 31, 1996. The increase in interest expense was due primarily to shifts in 12 deposits from lower cost passbook and money market accounts to higher cost certificate of deposit accounts, and increased usage of borrowed funds. The average balances of certificates of deposit accounts increased $36.4 million from $260.5 million for the year ended December 31, 1995 to $296.9 million for the year ended December 31, 1996, while the average balances of passbook and money market accounts declined $12.9 million and $4.7 million, respectively, from 1995 as compared to 1996. The Bank also increased usage of FHLB-NY advances during 1996 as an alternative source of low cost funding to leverage its highly capitalized balance sheet. As a result, average balances for borrowed funds increased $31.3 million from $5.1 million for the year ended December 31, 1995 to $36.4 million for the year ended December 31, 1996. Net Interest Income. Net interest income for the year ended December 31, 1996 totaled $28.8 million, a $7.0 million increase from 1995 net interest income of $21.8 million. This increase occurred primarily as a result of the $10.4 million increase in interest income, offset in part by the $3.4 million increase in interest expense. The net interest margin increased 27 basis points from 3.74% for the year ended December 31, 1995 to 4.01% for the year ended December 31, 1996. However, as a result of declining interest rates on mortgage loans, increasing interest rates on deposits due to the shift in deposit mix, and increased utilization of borrowed funds, the interest rate spread decreased 22 basis points from 3.51% for the year ended December 31, 1995 to 3.29% for the year ended December 31, 1996. Provision for Loan Losses. Provision for loan losses for the year ended December 31, 1996 was $418,000 as compared to $496,000 for the year ended December 31, 1995. In assessing the adequacy of the Company's allowance for loan losses, management considers the Company's historical loss experience, recent trends in losses, collection policies and collection experience, trends in the volume of non-performing loans, changes in the composition and volume of the gross loan portfolio, which increased $103.0 million, or 35.92%, from $286.8 million at December 31, 1995, and local and national economic conditions. As a result of sales of non-performing loans which reduced the total volume of non-performing loans held by the Company, the ratio of non-performing loans to gross loans improved from 1.74% at December 31, 1995 to 0.62% at December 31, 1996. As a result of the reduction in the overall level of non-performing loans, the Company's allowance for loan losses as a percentage of non-performing loans increased from 106.61% at December 31, 1995 to 225.79% at December 31, 1996. The ratio of allowance for loan losses to gross loans was 1.39% and 1.85% at December 31, 1996 and 1995, respectively. Non-Interest Income. Non-interest income for the year ended December 31, 1996 totaled $1.7 million, a decrease of $2.9 million from 1995 levels. The decrease was primarily attributable to certain one time items recorded during the 1995 period consisting of amortization of deferred gains from the sale of real estate amounting to $2.8 million and the receipt of a $387,000 refund of New York State gains tax. Non-Interest Expense. Non-interest expense for the year ended December 31, 1996 totaled $17.6 million, representing a decrease of $2.7 million from the year ended December 31, 1995. This decrease was primarily due to the nonrecurrence of a one-time write-off in 1995 of $2.2 million of deferred costs that were incurred in connection with the Conversion through March 31, 1995, and the recovery in 1996 of $660,000 loss provision made in 1995 for $4.4 million in demand deposits at Nationar, a New York State chartered trust company, which were frozen by the Superintendent of Banks of the State of New York pending the outcome of the Superintendent's liquidation of Nationar. The Company received back all of its deposits in 1996 and the $660,000 loss provision was recovered. The decline in non-interest expenses was also aided by an $822,000 decrease in federal deposit insurance premium from $824,000 for the year ended December 31, 1995 to $2,000 for the year ended December 31, 1996 as a result of a reduction by the FDIC in assessment rate, and a $637,000 decrease in directors' pension expense due to one time expenses incurred in 1995 related to the establishment of the plan. The decreases in non-interest expense were offset in part by an increase of $686,000 in salaries and employee benefits and additional expenses associated with being a publicly held company and costs associated with a proposed change in the Company's provider of data processing systems being implemented as part of the Company's strategy to enhance its systems to improve efficiencies. Income Tax Provisions. Income tax expense for the year ended December 31, 1996 totaled $5.8 million, as compared to $2.5 million for the year ended December 31, 1995. This increase of $3.3 million, or 135.24%, was due to a 117.63% increase in income before taxes from $5.8 million for the year ended December 31, 1995 to $12.5 million for the year ended December 31, 1996. The effective tax rate for the year ended December 31, 1996 also increased to 46.39% from 42.92% for the year ended December 31, 1995. This increase in effective tax rates was partially the result of the repeal of favorable tax laws regarding provision for loan losses during 1996. Comparison of Operating Results for the Years Ended December 31, 1995 and 1994 General. Net income decreased $1.1 million, or 25.92%, from $4.4 million for the year ended December 31, 1994 to $3.3 million for the year ended December 31, 1995. The decline was due primarily to a $1.3 million decrease in net interest income. 13 Interest Income. Interest income increased $2.2 million, or 5.16%, for the year ended December 31, 1995, from $42.5 million for the year ended December 31, 1994 to $44.7 million for the year ended December 31, 1995. This increase was primarily due to an additional $1.3 million in interest and fee income on loans and an additional $1.6 million in interest income on investment securities in the year of 1995 as compared to the year of 1994. The increase in the interest income from loans and securities was a result of higher average balances and yields in mortgage loans and mortgage-backed securities. The average balance of mortgage loans increased 5.15%, or $12.8 million, from $248.9 million for the year of 1994 to $261.7 million for the year of 1995, and the average yield on mortgage loans increased eight basis points from 9.17% for the year of 1994 to 9.25% for the year of 1995. Mortgage-backed securities' average balances increased $3.0 million from $177.2 million for the year of 1994 to $180.2 million for the year of 1995, and the average yield increased 97 basis points from 5.47% for the year of 1994 to 6.44% for the year of 1995 as the adjustable rate instruments repriced. The increase in interest income was offset in part by a decline in other interest income of $654,000 from $1.8 million for the year ended December 31, 1994 to $1.1 million for the year ended December 31, 1995, as the average balance in federal funds sold and overnight interest-bearing deposits declined by $17.2 million from $36.5 million for the year of 1994 to $19.3 million for the year of 1995. Interest Expense. Interest expense increased $3.5 million, or 17.79%, from $19.4 million for the year ended December 31, 1994 to $22.9 million for the year ended December 31, 1995. The increase in interest expense was due primarily to shifts in deposits from lower cost passbook and money market accounts to higher cost certificate of deposit accounts. The average balances of certificates of deposit accounts increased $56.1 million from $204.4 million for the year of 1994 to $260.5 million for the year of 1995, while the average balances of passbook and money market accounts declined $49.5 million and $10.9 million, respectively, from the year of 1994 as compared to the year of 1995. The shift was due largely to increases in prevailing rates paid on six- to thirty-month certificates of deposit in the Bank's market area. Net Interest Income. Net interest income for the year ended December 31, 1995 totaled $21.8 million, a $1.3 million decrease from 1994 net interest income of $23.1 million. This decrease occurred primarily as a result of a $3.5 million increase in interest expense, offset in part by $2.2 million increase in interest income. The net interest spread decreased from 3.82% for the year of 1994 to 3.51% for the year of 1995. Provisions for Loan Losses. The provision for loan losses for the year ended December 31, 1995 was $496,000, compared to $246,000 for the year ended December 31, 1994. In assessing the adequacy of the Company's allowance for loan losses, management considers the Company's historical loss experience, recent trends in losses, collection policies and collection experience, trends in the volume of non-performing loans, changes in the composition and volume of the loan portfolio which increased $28.0 million from $257.5 million at December 31, 1994, and local and national economic conditions. As a result of sales on non-performing loans which reduced the total volume of non-performing loans held by the Company, the ratio of non-performing loans to gross loans improved from 2.05% at December 31, 1994 to 1.74% at December 31, 1995. As a result of the reduction in the overall level of non-performing loans, the Company's allowance for loan losses as a percentage of non-performing loans increased from 101.11% at December 31, 1994 to 106.61% at December 31, 1995. Non-Interest Income. Non-interest income for the year ended December 31, 1995 totaled $4.7 million, an increase of $3.5 million, or 290.61%, over the prior year total of $1.2 million. The increase was primarily attributable to the amortization of deferred gains from the sale of real estate amounting to $2.8 million and the receipt of a $387,000 refund of New York State gains tax. Non-Interest Expense. Non-interest expense for the year ended December 31, 1995 totaled $20.2 million, representing an increase of $3.9 million, or 24.50%, over 1994 expenses of $16.3 million. This increase was primarily due to a $2.2 million write-off of deferred costs that were incurred in connection with the Conversion through March 31, 1995; the creation of a directors' pension plan in 1995 with an expense of $718,000; the expense of $310,000 for a profit sharing plan established in 1995; and a $660,000 loss provision for demand deposits placed at Nationar, a New York State chartered trust company. On February 6, 1995, the Superintendent of Banks of the State of New York took possession of Nationar under the New York Banking Law due to its alleged unsafe and unsound condition. The Bank and its subsidiary had demand deposits at Nationar totaling $4.4 million that were frozen pending the outcome of the liquidation of Nationar. The increase in non-interest expense also reflects a $306,000 decline in gains on sale of real estate owned. The increase in non-interest expense was partially offset by a decline in federal deposit insurance premiums of $449,000, or 35.30%, as a result of a reduction in 1995 by the FDIC in the assessment rate applicable to banks whose deposits are insured by the BIF. Income Tax Provisions. Income tax expense for the year ended December 31, 1995 totaled $2.5 million compared to $3.3 million for the year ended December 31, 1994. This decrease of $861,000, or 25.84%, was due to a 25.89% decrease in income before taxes from $7.8 million for the 1994 year to $5.8 million for the 1995 year. The effective tax rates for the years ended December 31, 1995 and 1994 were 42.92% and 42.89%, respectively. 14 Liquidity, Regulatory Capital and Capital Resources The Company's primary sources of funds are deposits, principal and interest payments on loans, mortgage-backed and other securities, proceeds from sales of securities and, to a lesser extent, proceeds from sales of loans. Deposit flows and mortgage prepayments, however, are greatly influenced by general interest rates, economic conditions and competition. The Bank also has an over-night line of credit of approximately $30.7 million with the FHLB-NY. In total, as of December 31, 1996, the Bank may borrow up to $220.2 million from the FHLB-NY in Federal Home Loan advances and over-night lines of credit. As of December 31, 1996, the Bank had borrowed $51.0 million in FHLB advances to fund investment opportunities. Pursuant to OTS guidelines regarding liquidity requirements, the Bank is required to maintain an average daily balance of liquid assets (cash, certain time deposits, bankers' acceptances, specific U.S. government securities, state or federal agency obligations, shares of certain mutual funds and certain corporate debt securities and commercial paper) equal to a monthly average of not less than a specified percentage of its net withdrawable deposit accounts plus short-term borrowings. This liquidity requirement may be changed from time to time by the OTS to any amount within the range of 4% to 10% depending upon economic conditions and the savings flows of member institutions, and is currently 5%. OTS regulations also require the maintenance of an average daily balance of short-term liquid assets at a specified percentage (currently 1%) of the total of net withdrawable deposit accounts and borrowings payable in one year or less. Monetary penalties may be imposed by the OTS for failure to meet these liquidity requirements. At December 31, 1996 and 1995, the Bank's liquidity ratio, computed in accordance with the OTS requirement, was 10.91% and 20.73%, respectively. Unlike the Bank, the Holding Company is not subject to OTS regulatory requirements on the maintenance of minimum levels of liquid assets. The Company's most liquid assets are cash and cash equivalents, which include cash and due from banks, federal funds sold and overnight interest-earning deposits with original maturities of 90 days or less. The level of these assets is dependent on the Company's operating, financing, lending and investing activities during any given period. At December 31, 1996, cash and cash equivalents totaled $34.4 million, an increase of $15.1 million from December 31, 1995. The Company also held marketable securities available for sale with a carrying value of $331.9 million at December 31, 1996. At December 31, 1996, the Company had outstanding loan commitments of $16.4 million, open lines of credit for borrowers of $388,000 and commitments to purchase mortgage loans of $24.3 million. The Company's total interest and operating expenses in 1996 were $26.3 million and $17.6 million, respectively. Certificates of deposit accounts which are scheduled to mature in one year or less as of December 31, 1996 totaled $214.5 million. From the year ended December 31, 1995 as compared to the year ended December 31, 1996, cash flow provided by operating activities increased $9.5 million due to the increase in net interest income. This increase in operating cash flow helped fund the growth in the Company's loan portfolio, as net funds used to originate and purchase loans increased $75.7 million from $28.1 million for the year ended December 31, 1995 to $103.8 million for the year ended December 31, 1996. The growth in loan funding was also aided by an increase of $71.4 million in proceeds from sales and calls of securities available for sale. Cash flow from financing activities declined $38.6 million as growth in deposits slowed from $44.3 million for the year of 1995 to $23.6 million for the year of 1996. The Company also used $12.2 million to finance repurchases of the Company's common stock in 1996, and paid dividends totaling $623,000 during 1996. Also, 1995 included a one time receipt of $72.2 million from issuance of common stock, net of expenses and depositor balances exchanged for common stock. Additional financing for 1996 was provided by the addition of $51.0 million FHLB-NY advance, borrowings. Total cash flow provided by financing activities during 1996 was $62.8 million. At the time of the Bank's conversion from a federally chartered mutual savings bank to a federally chartered stock savings bank, the Bank was required by the OTS to establish a liquidation account which will be reduced to the extent that eligible account holders reduce their qualifying deposits. The balance of the liquidation account at December 31, 1996 was $19.6 million. In the unlikely event of a complete liquidation of the Bank, each eligible account holder will be entitled to receive a distribution from the liquidation account. The Bank is not permitted to declare or pay a dividend or to repurchase any of its capital stock if the effect would be to cause the Bank's regulatory capital to be reduced below the amount required for the liquidation account. Unlike the Bank, the Holding Company is not subject to OTS regulatory restrictions on the declaration or payment of dividends to its stockholders, although the source of such dividends could depend upon dividend payments from the Bank. The Holding Company is subject, however, to the requirements of Delaware law, which generally limit dividends to an amount equal to the excess of its net assets (the amount by which total assets exceed total liabilities) over its stated capital or, if there is no such excess, to its net profits for the current and/or immediately preceding fiscal year. 15 Regulatory Capital Position. Under OTS capital regulations, the Bank is required to comply with each of three separate capital adequacy standards: tangible capital, core capital and total risk-based capital. Such classifications are used by the FDIC and other bank regulatory agencies to determine matters ranging from each institution's semi-annual FDIC deposit insurance premium assessments, to approvals of applications authorizing institutions to grow their asset size or otherwise expand business activities. At December 31, 1996 and 1995, the Bank exceeded each of the three OTS capital requirements. (See Note 16 of the Notes to Consolidated Financial Statements.) Impact of Inflation and Changing Prices The Consolidated Financial Statements have been prepared in accordance with generally accepted accounting principles ("GAAP"), which requires the measurement of financial position and operating results in terms of historical dollars without considering the changes in the relative purchasing power of money over time due to inflation. The impact of inflation affects the Company's operating expenses, and, because inflation may result in an increase in prevailing interest rates, inflation also may affect the Company's net interest margin. Unlike industrial companies, nearly all of the assets and liabilities of the Company are monetary in nature. As a result, inflation tends to have its greatest effect on the Company's results of operations through its effect on interest rates. However, interest rates are affected by other factors in addition to the rate of inflation and do not necessarily move in the same direction or to the same extent as the price of goods and services. Impact of New Accounting Standards FASB has issued SFAS 125, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities", effective for transfers and servicing of financial assets and extinguishments of liabilities occurring after December 31, 1996. Earlier or retroactive application is not permitted. This Statement provides accounting and reporting standards for transfers and servicing of financial assets and extinguishments of liabilities based on consistent application of a financial-components approach that focuses on control. Adoption of this pronouncement is not expected to have a material impact on the Company's consolidated financial statements. Other Trends and Contingencies The Company's net interest rate spread declined 22 basis points from 3.51% for the year ended December 31, 1995 to 3.29% for the year ended December 31, 1996. This decline was due primarily to a 24 basis point increase in costs of deposits and borrowings, partially offset by a 2 basis point increase in average yield on loans and other investments. From December 31, 1995 through December 31, 1996, the Company experienced an aggregate decline of $5.9 million in its passbook savings account deposits and an aggregate increase of $30.2 million in certificate of deposit accounts as depositors shifted assets from passbook accounts to certificates of deposit, which pay a higher interest rate. This trend was also experienced in 1995, but to a greater degree than 1996. Although, the Company has not raised the interest rate offered on its passbook accounts, it has sought to maintain its certificates of deposit at competitive rates. During 1996, the Company also increased its utilization of FHLB-NY advances as an alternative source of funding. Borrowed funds totaled $51.0 million at December 31, 1996 with an average cost of 5.77% for the year of 1996 as compared to the average cost of 5.68% for certificates of deposit during 1996. There were no outstanding borrowed funds at December 31, 1995. These trends contributed to the increase in the Company's average cost of funds from 4.15% for the year ended December 31, 1995 to 4.39% for the year ended December 31, 1996. A continuation of these trends could result in a further increase in the Company's cost of funds and a narrowing of the Company's net interest margin. 16 Flushing Financial Corporation and Subsidiaries Consolidated Statements of Financial Condition
==================================================================================================================================== December 31, 1996 1995 - ------------------------------------------------------------------------------------------------------------------------------------ ASSETS Cash and due from banks .................................................................. $ 7,472,155 $ 11,883,639 Federal funds sold and overnight interest-earning deposits ............................... 26,953,000 7,438,000 Securities available for sale: Mortgage-backed securities ............................................................. 141,038,177 179,300,164 Other securities ....................................................................... 190,856,985 202,147,039 Loans .................................................................................... 388,217,450 285,436,321 Less: Allowance for loans losses ....................................................... (5,436,832) (5,309,859) ---------------------------------- Net loans ............................................................................ 382,780,618 280,126,462 Interest and dividends receivable ........................................................ 6,896,504 5,879,501 Real estate owned, net ................................................................... 1,218,296 1,869,431 Bank premises and equipment, net ......................................................... 5,796,166 6,114,033 Other assets ............................................................................. 12,330,603 13,626,246 ---------------------------------- Total assets ......................................................................... $ 775,342,504 $ 708,384,515 ================================== LIABILITIES Due to depositors: Non-interest bearing ................................................................... $ 10,292,645 $ 10,372,448 Interest-bearing ....................................................................... 570,761,937 547,034,746 Mortgagors' escrow deposits .............................................................. 3,424,764 2,456,948 Borrowed funds ........................................................................... 51,000,000 -- Other liabilities ........................................................................ 6,582,114 7,190,167 ---------------------------------- Total liabilities .................................................................... 642,061,460 567,054,309 ---------------------------------- Commitments and contingencies (Note 17) STOCKHOLDERS' EQUITY Preferred stock, ($0.01 par value, authorized 5,000,000 shares) .......................... -- -- Common stock, ($0.01 par value, authorized 20,000,000 shares; 8,910,100 shares issued; 8,250,497 and 8,625,000 shares outstanding at December 31, 1996 and 1995, respectively) ........................................... 89,101 86,250 Additional paid-in capital ............................................................... 101,277,592 96,514,628 Treasury stock, at average cost (659,603 shares at December 31, 1996) .................... (12,065,068) -- Unearned compensation .................................................................... (11,660,140) (7,680,850) Retained earnings ........................................................................ 56,869,884 50,777,543 Net unrealized (loss) gain on securities available for sale, net of taxes ................ (1,230,325) 1,632,635 ---------------------------------- Total stockholders' equity ........................................................... 133,281,044 141,330,206 ---------------------------------- Total liabilities and stockholders' equity ........................................... $ 775,342,504 $ 708,384,515 ==================================
The accompanying notes are an integral part of these consolidated financial statements. 17 Flushing Financial Corporation and Subsidiaries Consolidated Statements of Income*
==================================================================================================================================== For the years ended December 31, 1996 1995 1994 - ------------------------------------------------------------------------------------------------------------------------------------ Interest and dividend income Interest and fees on loans .......................................... $ 29,161,455 $ 24,485,869 $ 23,207,204 Interest and dividends on securities: Taxable interest .................................................. 24,707,890 18,573,668 16,931,545 Tax-exempt interest ............................................... 63,205 106,322 152,511 Dividends ......................................................... 347,759 429,674 455,805 Other interest income ............................................... 780,400 1,110,034 1,763,750 ------------------------------------------------------- Total interest and dividend income .............................. 55,060,709 44,705,567 42,510,815 ------------------------------------------------------- Interest expense Deposits ............................................................ 24,163,442 22,465,268 19,303,442 Other interest expense .............................................. 2,137,904 433,092 136,786 ------------------------------------------------------- Total interest expense .......................................... 26,301,346 22,898,360 19,440,228 ------------------------------------------------------- Net interest income ............................................. 28,759,363 21,807,207 23,070,587 Provision for loan losses ........................................... 417,680 495,942 246,176 ------------------------------------------------------- Net interest income after provision for loan losses ............. 28,341,683 21,311,265 22,824,411 ------------------------------------------------------- Non-interest income Other fee income .................................................... 763,074 724,759 691,924 Net gain (loss) on sales of securities and loans .................... 126,254 (316,045) (122,135) Amortization of deferred gain from sale of real estate .............. -- 2,784,422 -- New York State gains tax refund ..................................... -- 386,981 -- Other income ........................................................ 859,827 1,104,399 629,483 ------------------------------------------------------- Total non-interest income ....................................... 1,749,155 4,684,516 1,199,272 ------------------------------------------------------- Non-interest expense Salaries and employee benefits ...................................... 8,214,530 7,528,091 6,895,600 Directors' pension expense .......................................... 80,811 717,877 -- Occupancy and equipment ............................................. 2,092,953 1,994,915 2,072,451 Professional services ............................................... 2,013,003 1,563,181 1,848,660 Federal deposit insurance premiums .................................. 2,000 823,713 1,273,143 Data processing ..................................................... 1,465,022 995,642 943,684 Depreciation and amortization ....................................... 955,846 737,665 666,515 Real estate owned expenses .......................................... 318,304 539,920 525,709 (Recovery) Provision for deposits at Nationar ....................... (660,096) 660,096 -- Conversion expenses ................................................. -- 2,221,832 -- Other operating ..................................................... 3,082,180 2,457,077 2,031,828 ------------------------------------------------------- Total non-interest expense ...................................... 17,564,553 20,240,009 16,257,590 ------------------------------------------------------- Income before income taxes .......................................... 12,526,285 5,755,772 7,766,093 Provision for income taxes Federal ............................................................. 3,539,517 1,497,271 2,240,801 State and local ..................................................... 2,271,373 972,879 1,090,047 ------------------------------------------------------- Total provision for income taxes ................................ 5,810,890 2,470,150 3,330,848 ------------------------------------------------------- Net income .......................................................... $ 6,715,395 $ 3,285,622 $ 4,435,245 ======================================================= Net income per share ................................................ $ 0.84 Not meaningful -- Weighted average common shares and common stock equivalents outstanding ........................................... 8,009,189 7,935,552 --
The accompanying notes are an integral part of these consolidated financial statements. 18 Flushing Financial Corporation and Subsidiaries Consolidated Statements of Changes in Stockholders' Equity
==================================================================================================================================== For the years ended December 31, 1996 1995 1994 - ------------------------------------------------------------------------------------------------------------------------------------ Common Stock Balance, beginning of year ...................................................... $ 86,250 -- -- Issuance of 8,625,000 shares on November 21, 1995 ............................... -- $ 86,250 -- Restricted stock awards of 285,100 shares ....................................... 2,851 -- -- ------------------------------------------------ Balance, end of year ........................................................ $ 89,101 $ 86,250 -- ================================================ Additional Paid-In Capital Balance, beginning of year ...................................................... $ 96,514,628 -- -- Issuance of 8,625,000 shares on November 21, 1995, net of conversion costs of $2,658,413 ......................................... -- $ 96,442,837 -- Release of shares from Employee Benefit Trust, 20,658 and 22,100 shares for the year ended December 31, 1996 and 1995, respectively ...................................... 134,128 71,791 -- Restricted stock awards of 298,400 shares ....................................... 4,628,836 -- -- ------------------------------------------------ Balance, end of year ........................................................ $ 101,277,592 $ 96,514,628 -- ================================================ Treasury Stock Balance, beginning of year ...................................................... -- -- -- Purchases of 667,653 common shares outstanding .................................. $ (12,223,253) -- -- Restricted stock award forfeitures, 5,250 shares ................................ (85,313) -- -- Restricted stock award, 13,300 shares ........................................... 243,498 -- -- ------------------------------------------------ Balance, end of year ........................................................ $ (12,065,068) -- -- ================================================ Unearned Compensations Balance, beginning of year ...................................................... $ (7,680,850) -- -- Purchase of 690,000 shares on November 21, 1995 for Employee Benefit Trust .................................................... -- $ (7,935,000) -- Release of shares from Employee Benefit Trust, 20,658 and 22,100 shares for the year ended December 31, 1996 and 1995, respectively ...................................... 237,583 254,150 -- Restricted stock awards of 298,400 shares ....................................... (4,875,185) -- -- Restricted stock award forfeitures, 5,250 shares ................................ 85,313 -- -- Accrued restricted stock award expense .......................................... 572,999 -- -- ------------------------------------------------ Balance, end of year ........................................................ $ (11,660,140) $ (7,680,850) -- ================================================ Retained Earnings Balance, beginning of year ...................................................... $ 50,777,543 $ 47,491,921 $ 43,056,676 Net income ...................................................................... 6,715,395 3,285,622 4,435,245 Cash dividends declared and paid ................................................ (623,054) -- -- ------------------------------------------------ Balance, end of year ........................................................ $ 56,869,884 $ 50,777,543 $ 47,491,921 ================================================ Net Unrealized (Loss) Gain on Securities Available for Sale, Net of Taxes Balance, beginning of year ...................................................... $ 1,632,635 $ (7,377,253) $ 2,288,190 Change in net (loss) gain, net of taxes of approximately $(2,443,000), $7,899,000 and $(8,343,000) for the years ended December 31, 1996, 1995 and 1994, respectively, on securities available for sale .............................................. (2,862,960) 9,009,888 (9,665,443) ------------------------------------------------ Balance, end of year ........................................................ $ (1,230,325) $ 1,632,635 $ (7,377,253) ------------------------------------------------ Total stockholders' equity ...................................................... $ 133,281,044 $ 141,330,206 $ 40,114,668 ================================================
The accompanying notes are an integral part of these consolidated financial statements. 19 Flushing Financial Corporation and Subsidiaries Consolidated Statements of Cash Flow
==================================================================================================================================== For the years ended December 31, 1996 1995 1994 - ------------------------------------------------------------------------------------------------------------------------------------ Operating Activities Net income ...................................................................... $ 6,715,395 $ 3,285,622 $ 4,435,245 Adjustments to reconcile net income to net cash provided by (used in) operating activities: Provision for loan losses ................................................... 417,680 495,942 246,176 Provision for losses on real estate owned ................................... 149,948 311,197 574,989 (Recovery) Provision for deposits at Nationar ............................... (660,096) 660,096 -- Depreciation and amortization of bank premises and equipment ................ 955,846 737,665 666,515 Net (gain) loss on sales of securities and loans ............................ (126,254) 316,045 122,135 Net gain on sales of real estate owned ...................................... (71,958) (70,437) (376,342) Amortization of unearned premium, net of accretion of unearned discount ............................................ 1,187,865 1,815,108 2,880,239 Amortization of deferred income ............................................. (933,277) (646,718) (864,513) Deferred income tax (benefit) provision ..................................... (42,000) (461,113) 1,153,346 Deferred compensation ....................................................... 173,909 90,246 69,350 Amortization of deferred gain from sale of real estate ...................... -- (2,784,422) -- Origination of mortgage loans available for sale ................................ -- (626,000) (13,339,562) Proceeds from sales of loans available for sale ................................. -- 633,264 3,150,664 Changes in operating assets and liabilities ..................................... 4,444,271 (48,456) (4,137,867) Unearned compensation ........................................................... 944,710 -- -- ------------------------------------------------ Net cash provided by (used in) operating activities ....................... 13,156,039 3,708,039 (5,419,625) ------------------------------------------------ Investing Activities Purchases of bank premises and equipment ........................................ (637,979) (1,192,403) (645,201) Purchases of securities available for sale ...................................... (141,594,000) (149,751,000) (75,562,000) Purchases of securities held to maturity ........................................ -- (20,147,000) (42,901,000) Proceeds from sales and calls of securities available for sale .................. 128,355,254 56,984,691 79,485,201 Proceeds from maturities and prepayments of securities available for sale .............................................. 55,431,385 15,603,325 35,560,364 Proceeds from calls of securities held to maturity .............................. -- 249,000 841,000 Proceeds from maturities and prepayments of securities held to maturity ................................................... -- 16,759,441 18,092,270 Net originations and repayments of loans ........................................ (63,964,857) (9,348,510) 6,847,119 Purchases of loans .............................................................. (39,873,000) (18,766,000) (4,717,000) Proceeds from sales of real estate owned ........................................ 1,461,777 1,727,974 5,368,652 ------------------------------------------------ Net cash (used in) provided by investing activities ....................... (60,821,420) (107,880,482) 22,369,405 ------------------------------------------------
Continued 20
==================================================================================================================================== For the years ended December 31, 1996 1995 1994 - ------------------------------------------------------------------------------------------------------------------------------------ Financing Activities Net (decrease) increase in non-interest bearing deposits ........................ (79,803) 369,577 122,893 Net increase (decrease) in interest-bearing deposits ............................ 23,727,191 43,951,101 (29,420,937) Net increase (decrease) in mortgagors' escrow deposits .......................... 967,816 (243,810) (17,734) Net (decrease) increase in securities sold with the agreement to repurchase ....................................................... -- (5,000,000) 5,000,000 Net increase (decrease) in borrowed funds ....................................... 51,000,000 (10,000,000) 10,000,000 Issuance of common stock, net ................................................... -- 72,249,000 -- Purchases of treasury stock ..................................................... (12,223,253) -- -- Cash dividends paid ............................................................. (623,054) -- -- ------------------------------------------------ Net cash provided by (used in) financing activities ....................... 62,768,897 101,325,868 (14,315,778) ------------------------------------------------ Net increase (decrease) in cash and cash equivalents ............................ 15,103,516 (2,846,575) 2,634,002 Cash and cash equivalents, beginning of year .................................... 19,321,639 22,168,214 19,534,212 ------------------------------------------------ Cash and cash equivalents, end of year .................................. $ 34,425,155 $ 19,321,639 $ 22,168,214 ================================================ Supplemental Cash Flow Disclosure Interest paid ................................................................... $ 26,263,133 $ 22,834,378 $ 19,343,700 Income taxes paid ............................................................... 5,421,633 1,703,966 2,016,000 Non-cash activities: Loans originated as the result of real estate sales ........................... 306,568 482,292 1,563,408 Loans transferred through the foreclosure of a related mortgage loan or through in-substance foreclosure to real estate owned ............... 1,262,024 870,582 2,362,039 Securitizations of mortgage loans into mortgage-backed securities ............... -- -- 15,796,000 Change in unrealized (loss) gain on securities available for sale ............... (5,308,535) 16,799,000 (18,008,000) Transfer of securities from held to maturity to available for sale .............. -- 93,296,000 -- Transfer of deposits at Nationar to other assets ................................ -- 4,408,000 -- Transfer of depositor balances in exchange for common stock ..................... -- 16,353,000 --
The accompanying notes are an integral part of these consolidated financial statements. 21 Flushing Financial Corporation and Subsidiaries Notes to Consolidated Financial Statements For the years ended December 31, 1996, 1995 and 1994 1. Nature of Operations Flushing Financial Corporation (the "Holding Company"), a bank holding company, was incorporated in May 1994 with authorized capital of 20,000,000 shares of $0.01 par value common stock and 5,000,000 shares of $0.01 par value preferred stock. On November 21, 1995, Flushing Savings Bank, FSB (the "Bank") converted from a mutual to capital stock form of ownership and the Holding Company acquired 100 percent of the outstanding common shares of the Bank. The transaction was accounted for in a manner similar to that of a pooling of interests. The Holding Company had no business or activity prior to its acquisition of the Bank on November 21, 1995. The consolidated financial statements presented for the years ended December 31, 1995 and 1994 reflect information on the Bank before its acquisition by the Holding Company. Flushing Financial Corporation and its wholly owned subsidiaries, Flushing Savings Bank, FSB and FSB Properties, Incorporated are collectively herein referred to as the "Company". The Company's principal business is attracting retail deposits from the general public and investing those deposits together with funds generated from operations, primarily in (i) originations and purchases of one-to-four family residential mortgage loans, multi-family income-producing property loans, and commercial real estate loans; (ii) mortgage loan surrogates such as mortgage-backed securities and; (iii) U.S. government and federal agency securities, corporate fixed-income securities and other marketable securities. To a lesser extent, the Company originates co-operative apartment loans, construction and consumer loans. The Bank conducts its business through seven full-service banking offices, four of which are located in Queens County, one in Nassau County, one in Kings County (Brooklyn) and one in New York County (Manhattan), New York. 2. Summary of Significant Accounting Policies The accounting and reporting policies of the Company and the Bank follow generally accepted accounting principles ("GAAP") and general practices applicable to the banking industry. The policies which materially affect the determination of the Company's financial position, results of operations and cash flows are summarized below. Principles of consolidation: The accompanying consolidated financial statements include the accounts of Flushing Financial Corporation and its wholly owned subsidiaries, Flushing Savings Bank, FSB and FSB Properties, Incorporated ("Properties"). Properties is an inactive subsidiary whose purpose was to manage real estate properties and joint ventures. All significant intercompany accounts and transactions have been eliminated in consolidation. Use of estimates: The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, and reported amounts of revenue and expenses during the reporting period. Actual results could differ from these estimates. Cash and cash equivalents: For the purpose of reporting cash flows, the Company defines cash and due from banks, federal funds sold and overnight interest-earning deposits with original maturities of 90 days or less as cash and cash equivalents. Cash and due from banks restriction: Regulations of the Federal Reserve require the Company to maintain average reserve balances which place withdrawal and/or usage restrictions on cash and due from banks balances. Securities available for sale: Securities are classified as available for sale when management intends to hold the securities for an indefinite period of time or when the securities may be utilized for tactical asset/liability purposes and may be sold from time to time to effectively manage interest rate exposure and resultant prepayment risk and liquidity needs. Premiums and discounts are amortized or accreted, respectively, using the level-yield method. Realized gains and losses on the sales of securities are determined using the specific identification method. Unrealized gains and losses for available for sale securities are excluded from earnings and reported as a separate component of equity, net of taxes. Unamortized loan origination fees: The portion of loan origination fees that exceeds the direct costs of underwriting and closing loans is deferred. The deferred fees received in connection with a loan are amortized to income using the interest method over the shorter of the repricing period or the contractual life of the related loan. 22 Allowance for loan losses: The Company maintains an allowance for loan losses at an amount which, in management's judgment, is adequate to absorb estimated losses on existing loans that may become uncollectible. Management's judgment in determining the adequacy of the allowance is based on evaluations of the collectibility of loans. These evaluations take into consideration such factors as changes in the composition and volume of the loan portfolio, current economic conditions that may affect the borrowers' ability to pay, overall portfolio quality and review of specific problem loans. The above factors may change significantly and therefore affect management's determination of the allowance for loan losses in the near term. Accrual of income on loans: Interest on loans is recognized as income when earned except to the extent that the underlying loan is deemed doubtful of collection and placed on non-accrual status. Loans are generally placed on non-accrual status when they become past due in excess of ninety days as to payment of principal or interest, and previously accrued interest is reversed. A non-accrual loan can be returned to accrual status after the loan meets certain criteria. Subsequent cash payments received on non-accrual loans that do not meet the criteria are applied first as a reduction of principal until all principal is recovered and then subsequently to interest. Mortgage loans available for sale: Mortgage loans available for sale consist of loans originated with the intent to sell. Mortgage loans available for sale are carried at market value. Changes in the market value are included in the determination of net income in the year in which the change occurs. Retained mortgage servicing rights relating to mortgage loans originated for sale are recognized as a separate assets, similar to purchased mortgage servicing rights. Capitalized mortgage servicing rights are assessed for impairment based upon the fair value of those rights. Real estate owned: Real estate owned consists of property acquired by foreclosure. These properties are carried at the lower of carrying amount or fair value less estimated costs to sell (hereinafter defined as fair value). This determination is made on an individual asset basis. If the fair value is less than the carrying amount, the deficiency is recognized as a valuation allowance. Further decreases to fair value will be recorded in this valuation allowance through a provision for losses on real estate owned. All gains will be deferred and amortized on the cost-recovery basis for the sale of real estate owned that is primarily financed by the Company. The Company utilizes estimates of fair value to determine the amount of its valuation allowance. Actual values may differ from those estimates. Bank premises and equipment: Bank premises and equipment are stated at cost, less depreciation accumulated on a straight-line basis over the estimated useful lives of the related assets (5 to 40 years). Leasehold improvements are amortized on a straight-line basis over the terms of the related leases or the lives of the assets, whichever is shorter. Securities sold under agreements to repurchase: Securities sold under agreements to repurchase are accounted for as collateralized financing and are carried at amounts at which the securities will be subsequently reacquired as specified in the respective agreements. Earnings per share: Earnings per share for the year ended December 31, 1996 was computed by dividing net income by the total of the weighted average number of commons shares outstanding and the additional dilutive effect of stock options outstanding during the period. The shares held in the Company's Employee Benefit Trust are not included in shares outstanding for purposes of calculating earnings per share. The dilutive effect of stock options are considered in both primary and fully diluted computations using the treasury stock method. Fully diluted earnings per share equal primary earnings per share for the year ended December 31, 1996. Earnings per share for the year ended December 31, 1995 were calculated using the weighted average number of common shares outstanding for the period from November 21, 1995 to December 31, 1995 of 7,935,552 shares, and net income of $655,000 for the period from November 21, 1995 to December 31, 1995, and accordingly were not meaningful. 23 Earnings per share has been computed based on the following:
==================================================================================================================================== 1996 1995 1994 - ------------------------------------------------------------------------------------------------------------------------------------ Net income ...................................................................... $ 6,715,395 $ 655,000 -- Divided by: Weighted average common shares outstanding .................................... 7,973,613 7,935,552 -- Weighted average common stock equivalents ..................................... 35,576 -- -- ------------------------------------------------ Total weighted average common shares outstanding and common stock equivalents 8,009,189 7,935,552 -- Earnings per share .............................................................. $ 0.84 $ 0.08 --
3. Cash and Cash Equivalents Cash and cash equivalents as of December 31, 1996, 1995 and 1994 are as follows:
==================================================================================================================================== 1996 1995 1994 - ------------------------------------------------------------------------------------------------------------------------------------ Cash and due from banks ......................................................... $ 7,472,000 $ 11,884,000 $ 13,168,000 Federal funds sold and overnight interest-earning deposits ...................... 26,953,000 7,438,000 9,000,000 ------------------------------------------------ Total cash and cash equivalents ............................................. $ 34,425,000 $ 19,322,000 $ 22,168,000 ====================================================================================================================================
4. Loans The composition of loans as of December 31, 1996 and 1995 are as follows:
==================================================================================================================================== 1996 1995 - ------------------------------------------------------------------------------------------------------------------------------------ One-to-four family .............................................................. $223,245,000 $155,435,000 Co-operative .................................................................... 13,273,000 14,653,000 Multi-family .................................................................... 104,870,000 69,140,000 Commercial ...................................................................... 46,698,000 45,215,000 Consumer ........................................................................ 1,679,000 2,328,000 ------------------------------------------------ Gross loans ................................................................... 389,765,000 286,771,000 Less: Unearned income ........................................................... 1,548,000 1,335,000 ------------------------------------------------ Total loans ................................................................. $388,217,000 $285,436,000 ====================================================================================================================================
The Bank had adopted SFAS No. 114, "Accounting by Creditors for Impairment of a Loan" and SFAS No. 118, "Accounting by Creditors for Impairment of a Loan--Income Recognition and Disclosure", on January 1, 1995. Adoption of these Pronouncements has not had a significant impact on the Company's financial statements and did not affect the comparability of prior period credit risks. The total amount of loans on non-accrual status as of December 31, 1996, 1995 and 1994 were $2,408,000, $4,747,000 and $5,297,000, respectively. Total performing restructured loans were $0, $0 and $3,220,000 as of December 31, 1996, 1995 and 1994, respectively. At December 31, 1996, impaired loans totaled $2,468,000; and $257,000, or 4.74%, of the allowance for loan losses relates to impaired loans. At December 31, 1995, impaired loans totaled $5,400,00; and $1,178,000 or 22% of the allowance for loan losses relates to impaired loans. The portion of the impaired loan amount above 100% of the loan-to-value ratio is charged off. Impaired loans include loans on non-accrual status and loans that are performing but deemed substandard by management. Impaired loans are analyzed on an individual basis. The following is a summary of interest foregone on non-accrual and restructured loans:
==================================================================================================================================== 1996 1995 1994 --------------------------------------------------------------------------- Non-accrual Restructured Non-accrual Restructured Non-accrual Restructured - ------------------------------------------------------------------------------------------------------------------------------------ Interest income that would have been recognized had the loans performed in accordance with their original terms ............... $210,000 -- $365,000 $ 71,000 $944,000 $273,000 Less: Interest income included in the results of operations ....................... 65,000 -- 21,000 62,000 573,000 212,000 --------------------------------------------------------------------------- Foregone interest .................................... $145,000 -- $344,000 $ 9,000 $371,000 $ 61,000 ====================================================================================================================================
24 The following are changes in the allowance for loan losses:
==================================================================================================================================== 1996 1995 1994 - ------------------------------------------------------------------------------------------------------------------------------------ Balance, beginning of year ...................................... $ 5,310,000 $ 5,370,000 $ 5,723,000 Provision for loan losses ....................................... 418,000 496,000 246,000 Charge-offs ..................................................... (535,000) (1,052,000) (794,000) Recoveries ...................................................... 244,000 496,000 195,000 ---------------------------------------------------------------- Balance, end of year .......................................... $ 5,437,000 $ 5,310,000 $ 5,370,000 ====================================================================================================================================
5. Real Estate Owned The following are changes in the allowance for losses on real estate owned:
==================================================================================================================================== 1996 1995 1994 - ------------------------------------------------------------------------------------------------------------------------------------ Balance, beginning of year .......................................... $ 388,000 $ 774,000 $ 1,028,000 Provision ........................................................... 150,000 311,000 575,000 Reduction due to sales of real estate owned ......................... (257,000) (697,000) (829,000) ---------------------------------------------------------- Balance, end of year .............................................. $ 281,000 $ 388,000 $ 774,000 ====================================================================================================================================
6. Bank Premises and Equipment, Net Bank premises and equipment at December 31, 1996 and 1995 are as follows:
==================================================================================================================================== 1996 1995 - ------------------------------------------------------------------------------------------------------------------------------------ Land ..................................................................................... $ 801,000 $ 801,000 Building and leasehold improvements ...................................................... 3,039,000 3,039,000 Equipment and furniture .................................................................. 6,500,000 5,927,000 ------------------------------------- Total .................................................................................. 10,340,000 9,767,000 Less: Accumulated depreciation and amortization .......................................... 4,544,000 3,653,000 ------------------------------------- Bank premises and equipment, net ....................................................... $ 5,796,000 $ 6,114,000 ====================================================================================================================================
7. Accounting for Debt and Equity Securities Investments in equity securities that have readily determinable fair values and all investments in debt securities are classified in one of the following three categories and accounted for accordingly: (1) trading securities, (2) securities available for sale and (3) securities held to maturity. The Company does not have any trading securities. Securities available for sale are recorded at estimated market value based on dealer quotations where available. Actual values may differ from estimates provided by outside dealers. Securities classified as held-to-maturity are stated at cost, adjusted for amortization of premium and accretion of discount using the level-yield method. In November 1995, the Financial Accounting Standards Board issued a special report entitled "A Guide to Implementation of Statement 115 on Accounting for Certain Investments in Debt and Equity Securities", herein referred to as "Special Report". The Special Report gave the Company a one-time opportunity to reconsider its ability and intent to hold securities to maturity, and allowed the Company to transfer securities from held-to-maturity to other categories, without tainting its remaining held-to-maturity securities. Management evaluated all securities held to maturity and concluded that it is the intent of management to hold these securities in a manner similar to the paragraph describing securities available for sale. Accordingly, on December 29, 1995, the Company moved all of its securities classified as held to maturity with a carrying value, fair value and unrealized gain of $93,296,000, $94,712,000 and $1,416,000, respectively, to available for sale. 25 The amortized cost and estimated market value of the Company's securities, classified as available for sale as of December 31, 1996 are as follows:
- ------------------------------------------------------------------------------------------------------------------------------------ Gross Gross Amortized Estimated Unrealized Unrealized Cost Market Value Gains Losses ================================================================== Securities Available for Sale U.S. Treasury securities and government agencies ........... $150,045,000 $148,141,000 $ 296,000 $ 2,200,000 Corporate debt securities .................................. 33,251,000 33,553,000 409,000 107,000 Public utility debt securities ............................. 4,305,000 4,294,000 8,000 19,000 Preferred stock ............................................ 4,655,000 4,869,000 258,000 44,000 ------------------------------------------------------------------ Total other securities ................................... 192,256,000 190,857,000 971,000 2,370,000 Mortgage-backed securities ................................. 141,917,000 141,038,000 1,497,000 2,376,000 ------------------------------------------------------------------ Total securities available for sale ...................... $334,173,000 $331,895,000 $ 2,468,000 $ 4,746,000 ====================================================================================================================================
The amortized cost and estimated market value of the Company's securities, classified as available for sale at December 31, 1996, by contractual maturity, are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
- ------------------------------------------------------------------------------------------------------------------------------------ Estimated Market Amortized Cost Value ====================================== Securities Available for Sale Due in one year or less .................................................................. $ 6,278,000 $ 6,283,000 Due after one year through five years .................................................... 50,361,000 50,515,000 Due after five years through ten years ................................................... 100,222,000 99,023,000 Due after ten years ...................................................................... 35,395,000 35,036,000 -------------------------------------- Total other securities ................................................................. 192,256,000 190,857,000 Mortgage-backed securities ............................................................... 141,917,000 141,038,000 -------------------------------------- Total securities available for sale .................................................... $334,173,000 $331,895,000 ====================================================================================================================================
The amortized cost and estimated market value of the Company's securities classified as available for sale at December 31, 1995, are as follows:
- ------------------------------------------------------------------------------------------------------------------------------------ Gross Gross Amortized Estimated Unrealized Unrealized Cost Cost Market Value Gains Losses ================================================================== Securities Available for Sale U.S. Treasury securities and government agencies ........... $116,296,000 $116,728,000 $ 740,000 $ 308,000 Corporate debt securities .................................. 77,227,000 78,662,000 1,603,000 168,000 Public utility debt securities ............................. 6,389,000 6,501,000 113,000 1,000 Preferred stock ............................................ 250,000 256,000 6,000 -- ------------------------------------------------------------------ Total other securities ................................... 200,162,000 202,147,000 2,462,000 477,000 Mortgage-backed securities ................................. 178,257,000 179,300,000 2,175,000 1,132,000 ------------------------------------------------------------------ Total securities available for sale ...................... $378,419,000 $381,447,000 $ 4,637,000 $ 1,609,000 ====================================================================================================================================
For the year ended December 31, 1996, gross gains of $500,000 and losses of $374,000 were realized on sales of securities available for sale of $102,076,000. For the year ended December 31, 1995, gross gains of $334,000 and losses of $650,000 were realized on sales of securities available for sale of $57,000,000. For the year ended December 31, 1994, gross gains of $537,000 and losses of $662,000 were realized on sales of securities available for sale of $77,649,000. 26 8. Due to Depositors Due to depositors as of December 31, 1996 and 1995, and the weighted average rate on deposits for the year ended December 31, 1996, are as follows:
- ------------------------------------------------------------------------------------------------------------------------------------ Weighted Average Cost 1996 1995 1996 =========================================================== Interest-bearing deposits: Certificate of deposit accounts .................................... $314,483,000 $284,302,000 5.69% Passbook savings accounts .......................................... 209,690,000 215,578,000 2.86 Money market accounts .............................................. 25,180,000 27,590,000 2.85 NOW accounts ....................................................... 21,408,000 19,565,000 1.90 ----------------------------------- Total interest-bearing deposits .................................. 570,761,000 547,035,000 Non-interest bearing deposits Demand accounts .................................................... 10,293,000 10,372,000 ----------------------------------- Total due to depositors .......................................... $581,054,000 $557,407,000 ====================================================================================================================================
The aggregate amount of time deposits with a minimum denomination of $100,000 was $22,047,000 and $16,819,000 at December 31, 1996 and 1995, respectively. Interest expense on deposits, for the years ended December 31, 1996, 1995 and 1994, respectively, is summarized as follows:
- ------------------------------------------------------------------------------------------------------------------------------------ For the years ended December 31, 1996 1995 1994 ========================================================== Certificate of deposit accounts ....................................... $16,848,000 $14,597,000 $ 8,971,000 Passbook savings accounts ............................................. 6,142,000 6,475,000 7,902,000 Money market accounts ................................................. 741,000 869,000 1,155,000 NOW accounts .......................................................... 370,000 349,000 363,000 Subscription deposits ................................................. -- 118,000 862,000 ---------------------------------------------------------- Total due to depositors ............................................. 24,101,000 22,408,000 19,253,000 Mortgagors' escrow deposits ........................................... 63,000 57,000 50,000 ---------------------------------------------------------- Total deposit expense ............................................... $24,164,000 $22,465,000 $19,303,000 ====================================================================================================================================
9. Borrowed Funds Borrowed funds totaled $51.0 million at December 31, 1996, consisting of FHLB-NY advances with contractual maturities ranging from one to three years. The weighted average interest rate of the borrowed funds at December 31, 1996 was 5.85%. There were no borrowed funds outstanding at December 31, 1995. 10. Income Taxes Flushing Financial Corporation files consolidated Federal and combined New York State and New York City income tax returns with the Bank and Properties. Under SFAS No. 109, a deferred tax liability is recognized on all taxable temporary differences and a deferred tax asset would be recognized on all deductible temporary differences and operating losses and tax credit carryforwards. A valuation allowance is recognized to reduce the potential deferred tax asset if it is "more likely than not" that all or some portion of that potential deferred tax asset will not be realized. This Statement also requires companies to take into account changes in tax laws or rates when valuing the deferred income tax amounts they carry on their Consolidated Statement of Financial Condition. 27 Income tax provision (benefit) for the years ended December 31, 1996, 1995 and 1994, are summarized as follows:
==================================================================================================================================== For the years ended December 31, 1996 1995 1994 - ------------------------------------------------------------------------------------------------------------------------------------ Federal: Current ..................................................... $ 3,304,000 $ 1,951,000 $ 741,000 Deferred .................................................... 236,000 (454,000) 1,500,000 ---------------------------------------------------------- Total federal tax provision ............................... 3,540,000 1,497,000 2,241,000 ---------------------------------------------------------- State and Local: Current ..................................................... 2,549,000 980,000 1,437,000 Deferred .................................................... (278,000) (7,000) (347,000) ---------------------------------------------------------- Total state and local tax provision ....................... 2,271,000 973,000 1,090,000 ---------------------------------------------------------- Total income tax provision .................................... $ 5,811,000 $ 2,470,000 $ 3,331,000 ====================================================================================================================================
The income tax provision in the consolidated statements of income has been provided at effective rates of 46%, 43% and 43% for the years ended December 31, 1996, 1995 and 1994, respectively. The effective rates differ from the statutory federal income tax rate as follows:
==================================================================================================================================== For the years ended December 31, 1996 1995 1994 - ------------------------------------------------------------------------------------------------------------------------------------ (Dollars in thousands) Taxes at federal statutory rate ................................. $ 4,258 34% $ 1,957 34% $ 2,640 34% Increase (reduction) in taxes resulting from: State & local income tax, net of Federal income tax benefit ... 1,499 12 691 12 932 12 Other ........................................................... 54 -- (178) (3) (241) (3) ---------------------------------------------------------------- Taxes at effective rate ..................................... $ 5,811 46% $ 2,470 43% $ 3,331 43% ====================================================================================================================================
The components of the income taxes for the year ended December 31, 1996 and 1995; attributable to income from operations and changes in equity are as follows:
==================================================================================================================================== For the years ended December 31, 1996 1995 1994 - ------------------------------------------------------------------------------------------------------------------------------------ Income from operations ........................................ $ 5,811 $ 2,470 $ 3,331 Equity: Change in fair value of securities available for sale ....... (2,443) 7,899 (8,343) ---------------------------------------------------------- Total ..................................................... $ 3,368 $ 10,369 $ (5,012) ====================================================================================================================================
The components of the net deferred tax (asset) liability as of December 31, 1996 and 1995 are as follows:
==================================================================================================================================== For the years ended December 31, 1996 1995 - ------------------------------------------------------------------------------------------------------------------------------------ (In thousands) Deferred tax (asset): Postretirement benefits ...................................................... $ (1,781) $ (1,072) Allowance for loan losses .................................................... (1,935) (2,060) Deferred income .............................................................. (90) (470) Unrealized losses on securities available for sale ........................... (1,048) -- Other ........................................................................ (320) (472) ------------------------------------ Deferred tax (asset) ......................................................... (5,174) (4,074) ------------------------------------ Deferred tax liabilities: Unrealized gains on securities available for sale ............................ -- 1,395 Depreciation expense ......................................................... 473 346 Other ........................................................................ 17 134 ------------------------------------ Deferred tax liability ..................................................... 490 1,875 ------------------------------------ Net deferred tax (asset) in other assets ....................................... $ (4,684) $ (2,199) ====================================================================================================================================
28 The Company has recorded a net deferred tax asset of $4,684,000. The realization is dependent on generating sufficient taxable income in future years. Although realization is not assured, management believes it is more likely than not that all of the net deferred tax asset will be realized. 11. Benefit Plans The Company maintains a tax-qualified profit-sharing plan and the Bank maintains a 401(k) plan.Both plans are defined contribution plans which cover substantially all employees. Annual contributions are at the discretion of the Company's Board of Directors, but not to exceed the maximum amount allowable under the Internal Revenue Code. Contributions amounted to $419,000, $394,000 and $78,000 for the years ended December 31, 1996, 1995 and 1994, respectively. Employee Benefit Trust: As a part of the Conversion discussed in Note 14, an Employee Benefit Trust ("EBT") was established to assist the Company in funding its benefit plan obligations. The EBT borrowed $7,928,000 from the Company and used $7,000 of cash received from the Bank to purchase 690,000 shares of the common stock of the Company issued in the Conversion. The loan will be repaid principally from the Company's discretionary contributions to the EBT, or forgiven by the Company, over a period of 30 years. At December 31, 1996, the loan had an outstanding balance of $7,437,000, bearing an interest rate of 6.22% per annum. The loan obligation of the EBT is considered unearned compensation and, as such, is recorded as a reduction of the Company's stockholders' equity. Both the loan obligation and the unearned compensation are reduced by the amount of loan repayments made by the EBT or forgiven by the Company. Shares purchased with the loan proceeds are held in a suspense account for contribution to specified benefit plans as the loan is repaid or forgiven. Shares released from the suspense account are used solely for funding matching contributions under the Bank's 401(k) plan and contributions to the Company's profit-sharing plan. Since the Company's annual contributions are discretionary, compensation payable under the EBT cannot be estimated. For the year ended December 31, 1996, the Company recorded $372,000 of compensation expense under the EBT. The shares pledged as collateral are reported as unallocated EBT shares in the stockholders' equity. As shares are released from collateral, the Company reports compensation expense equal to the current market price of the shares, and the shares become outstanding for earnings per share computations. The EBT shares as of December 31, 1996 and 1995 are as follows:
==================================================================================================================================== December 31, 1996 1995 - ------------------------------------------------------------------------------------------------------------------------------------ Shares owned by Employee Benefit Trust, beginning balance ...................... 667,900 690,000 Shares released and allocated .................................................. 20,658 274 Shares committed to be released and allocated .................................. -- 21,826 ------------------------------------- Shares owned by Employee Benefit Trust, ending balance ....................... 647,242 667,900 ==================================================================================================================================== Market value of unallocated shares ............................................. $11,731,000 $10,269,000 ====================================================================================================================================
Restricted Stock Plan: The 1996 Restricted Stock Incentive Plan became effective on May 21, 1996 after adoption by the Board of Directors and approval by shareholders. The aggregate number of shares of common stock which may be issued under the Restricted Stock Plan to employees may not exceed 241,500 shares, and to Outside Directors may not exceed 103,500 shares, for a total of 345,000 shares (4% of the number of shares issued in the Company's initial public offering). Lapsed, forfeited or canceled awards and shares withheld from an award to satisfy tax obligations will not count against these limits, and will be available for subsequent grants. The shares distributed under the Restricted Stock Plan may be shares held in treasury or authorized but unissued shares. On May 21, 1996, the Company issued 285,100 restricted common shares under the Restricted Stock Plan, valued at $16.25 per share, based on the average market price on May 20, 1996. Another 13,300 restricted shares were granted from treasury stock under the Restricted Stock Plan on December 17, 1996, valued at $18.2188 per share, based on the average market price on December 17, 1996. Both grants vest 20% per year over a five year period. Total restricted stock award expense accrued in 1996 was $573,000. Restricted stock forfeitures during 1996 totaled 5,250 shares. 29
==================================================================================================================================== Number of Shares - ------------------------------------------------------------------------------------------------------------------------------------ Restricted Stock Awards authorized .................................................................... 345,000 Restricted Stock Awarded .............................................................................. 298,400 Forfeitures ........................................................................................... (5,250) -------- Shares available for future Restricted Stock Awards ................................................... 51,850 ====================================================================================================================================
Stock Option Plan: The 1996 Stock Option Incentive Plan became effective on May 21, 1996 after adoption by the Board of Directors and approval by shareholders. The Stock Option Plan provides for the grant of incentive stock options intended to comply with the requirements of Section 422 of the Internal Revenue Code, nonstatutory stock options, and stock appreciation rights granted in tandem with such options. The aggregate number of shares of common stock which may be issued under the Stock Option Plan with respect to options granted to employees may not exceed 603,750 shares, and with respect to options granted to Outside Directors may not exceed 258,750 shares, for a total of 862,500 shares (10% of the number of shares issued in the Company's initial public offering). Lapsed, forfeited or canceled options will not count against these limits and will be available for subsequent grants. However, the cancellation of an option upon exercise of a related stock appreciation right will count against these limits. Options with respect to more than 75,000 shares of common stock may not be granted to any employee in any calendar year. The shares distributed under the Stock Option Plan may be shares held in treasury or authorized but unissued shares. The Company issued stock options with respect to 737,750 shares on May 21, 1996 with an exercise price of $16.25 per share, based on the average market price on May 20, 1996. Stock options with respect to 26,600 shares were also issued on December 17, 1996 with an exercise price of $18.21 per share, based on the average market price on that date. Both grants vest 20% per year over a five year period. Stock options with respect to 10,500 shares were forfeited during the year ended December 31, 1996. As permitted by SFAS No. 123, "Accounting for Stock-Based Compensation", the Company has chosen to apply APB Opinion No. 25, "Accounting for Stock Issued to Employees" and related Interpretations in accounting for its Stock Option Plan. Accordingly, no compensation cost has been recognized for options granted under the Stock Option Plan. Had compensation cost for the Company's Stock Option Plan been determined based on the fair value at the grant dates, consistent with the method prescribed by SFAS No. 123, the Company's net income and earnings per share would have been as follows. However, the initial impact of the new rules, as per SFAS No. 123, may not be representative of the effect on income in future years because the options vest over several years and additional option grants may be made each year.
==================================================================================================================================== 1996 ------------------------------------- As Reported Pro Forma - ------------------------------------------------------------------------------------------------------------------------------------ Net income ..................................................................... $ 6,715,000 $ 6,436,000 Earnings per share ............................................................. $ 0.84 $ 0.80 ====================================================================================================================================
The fair value of each option grant is estimated on the date of grant using the Black-Scholes option pricing model. The weighted average assumptions used for grants made in 1996 are as follows:
==================================================================================================================================== 1996 Grants ----------- Dividend yield ................................................................................... 0.93% Expected volatility .............................................................................. 27.41% Risk-free interest rate .......................................................................... 6.58% Expected option life ............................................................................. 7 Years ====================================================================================================================================
30 A summary of the status of the Company's Stock Option Plan as of December 31, 1996, and changes during the year is presented below:
------------------------------------- Weighted Average Exercise Shares Price ==================================================================================================================================== Outstanding, beginning of year ................................................. -- -- Granted ........................................................................ 764,350 $ 16.32 Exercised ...................................................................... -- -- Forfeited ...................................................................... 10,500 $ 16.25 ----------- Outstanding, end of year ..................................................... 753,850 $ 16.32 =========== Options exercisable at year-end ................................................ none =========== Weighted-average fair value of options granted during the year ................. $ 4,620,000 ===========
The following table summarizes information about the Stock Option Plan at December 31, 1996:
---------------------------------------------------------------------------------------------- Options Outstanding Options Exercisable ---------------------------------------------------------------------------------------------- Weighted Number Average Number Weighted Outstanding at Remaining Exercisable at Average Exercise Exercise Prices 12/31/96 Contractual Life 12/31/96 Price ==================================================================================================================================== $16.25 727,250 9.5 Years -- -- $18.21 26,600 10 Years -- -- -------------- -------------- 753,850 -- ============== ==============
Pension Plan: The Company also has a defined benefit pension plan covering substantially all of its employees (the "Retirement Plan"). The benefits are based on years of service and the employee's compensation during the three consecutive years out of the final ten years of service which produces the highest average. The Company's funding policy is to contribute annually the maximum amount that can be deducted for federal income tax purposes. Contributions are intended to provide not only for the benefits attributed to service to date but also for those expected to be earned in the future. The components of the net pension expense are as follows:
==================================================================================================================================== For the years ended December 31, 1996 1995 1994 - ------------------------------------------------------------------------------------------------------------------------------------ Service cost .................................................. $ 309,000 $ 280,000 $ 331,000 Interest cost ................................................. 422,000 389,000 347,000 Amortization of transition asset .............................. (5,000) (5,000) (5,000) Amortization of past service liability ........................ (25,000) (24,000) 3,000 Return on plan assets ......................................... (505,000) (422,000) (416,000) ---------------------------------------------------------- Net pension expense ......................................... $ 196,000 $ 218,000 $ 260,000 ====================================================================================================================================
31 The following table sets forth the funded status of the Retirement Plan and the amounts recognized in the consolidated statements of financial condition at December 31, 1996 and 1995.
================================================================================================================================== December 31, 1996 1995 - ---------------------------------------------------------------------------------------------------------------------------------- Actuarial present value of benefit obligations: Accumulated benefit obligation, including vested benefits of $4,602,000 and $4,403,000 as of December 31, 1996 and 1995, respectively ................ $ 4,946,000 $ 4,758,000 ================================================================================================================================== Projected benefit obligation for service rendered to date ...................... $(6,077,000) $(5,726,000) Plan assets at fair value ...................................................... 7,255,000 6,354,000 ------------------------------------- Plan assets in excess of projected benefit obligation .......................... 1,178,000 628,000 Unrecognized net loss from past experience different from that assumed and effects of changes in assumptions ........................................ (733,000) (104,000) Prior service cost not yet recognized in periodic pension cost ................. (184,000) (208,000) Unrecognized net asset ......................................................... (2,000) (8,000) ------------------------------------- Prepaid pension cost included in other assets ................................ $ 259,000 $ 308,000 ==================================================================================================================================
For the years ended December 31, 1996 and 1995, the weighted average discount rate used in determining the actuarial present value of the projected benefit obligation was 7.5%. Compensation was projected to increase 5.5% for each of the years ended December 31, 1996 and 1995. The expected long-term rate of return on assets was 8%. Assets in the Retirement Plan consist of various equity and fixed income funds. The Bank has an Outside Director Retirement Plan (the "Directors' Plan"), which provides benefits to each outside director who serves or has agreed to serve as an outside director for two years or more subsequent to the February 1995 effective date of the Directors' Plan and whose years of service as an outside director (including service as a director or trustee of the Bank or any predecessor) plus age equal or exceed 75. Benefits are also payable to an outside director whose status as an outside director terminates because of disability or who is an outside director upon a change of control (as defined in the Directors' Plan). An eligible director will be paid an annual retirement benefit equal to the last annual retainer paid before the director's retirement. Such benefit will be paid in equal monthly installments for the lesser of the number of months such director served as an outside director, 120 months, or until the director's death; provided, however, that a director's retirement benefits will be paid in a cash lump sum in the event of a change of control. No benefits will be payable to a director who is removed for cause. The Holding Company has guaranteed the payment of benefits under the Directors' Plan. Upon adopting the Directors' Plan, the Bank elected to immediately recognize the effect of adopting the Directors' Plan of approximately $644,000. In addition, the periodic cost of the Directors' Plan for the year ended December 31, 1995 was $74,000. Expenses for the Directors' Plan for the year ended December 31, 1996 totaled $59,000. The following table sets forth the Directors' Plan's funded status and amounts recognized in the consolidated statements of financial condition at December 31, 1996 and 1995:
=================================================================================================================================== December 31, 1996 1995 - ----------------------------------------------------------------------------------------------------------------------------------- Actuarial present value of benefit obligation: Accumulated benefit obligation ............................................... $ 729,000 $ 678,000 =================================================================================================================================== Projected benefit obligation for service rendered to date .................... $ (729,000) $ (678,000) Plan assets at fair value .................................................... -- -- ------------------------------------- Plan assets in excess of projected benefit obligation ........................ (729,000) (678,000) Unrecognized gain ............................................................ (41,000) (33,000) ------------------------------------- Accrued pension cost included in other liabilities ........................... $ (770,000) $ (711,000) ===================================================================================================================================
For the years ended December 31, 1996 and 1995, the weighted average discount rate used in determining the actuarial present value of the projected benefit obligation was 7.5%. The level of future retainers were projected to remain constant. 32 12. Postretirement Benefits Other Than Pension In December 1990, the FASB issued SFAS No. 106, "Employers' Accounting for Postretirement Benefits Other Than Pensions". This Statement established accounting standards for postretirement benefits other than pensions (hereinafter referred to as postretirement benefits). The Statement principally focuses on health care benefits, although it applies to all forms of postretirement benefits other than pensions. The Company sponsors two defined benefit postretirement plans that cover all full time permanent employees and their spouses. One plan provides medical benefits through a fifty percent cost sharing arrangement. The other plan provides life insurance benefits and is noncontributory. These retiree programs are available to retirees with five years of service. Eligible retirees receive lifetime medical and life insurance coverage for themselves and lifetime medical coverage for their spouses. Comprehensive medical plan benefits equal the lesser of the normal plan benefit or the total amount not paid by Medicare. Life insurance benefits for retirees are based on annual compensation and age at retirement. As of December 31, 1996, the Bank has not adopted a funding policy. The following table sets forth the funded status and amounts recognized in the consolidated statement of financial condition:
Accumulated postretirement benefit obligation: Retirees ........................................................................................................... $ 666,000 Fully eligible active plan participants ............................................................................ 129,000 Other active plan participants ..................................................................................... 509,000 ---------- Accumulated postretirement plan obligations ...................................................................... 1,304,000 ---------- Plan assets at fair value ............................................................................................ -- Accumulated postretirement benefit obligation in excess of plan assets ............................................... 1,304,000 Unrecognized amounts: Past service liability ............................................................................................. 824,000 Accumulated net loss ............................................................................................... 130,000 ---------- Postretirement benefit liability included in other liabilities ................................................... $2,258,000 ====================================================================================================================================
Assumptions used in determining the actuarial present value of the accumulated postretirement benefit obligations as of December 31, 1996 are as follows:
Rate of return on plan assets ......................................................................................... NA Discount rate ......................................................................................................... 7.5% Rate of increase in health care costs: Initial ............................................................................................................. 10.0% Ultimate (year 2005) ................................................................................................ 5.5% Annual rate of salary increases ....................................................................................... NA
The health care cost year end rate assumes a grading down of 0.5% per year from the initial rate to the ultimate rate. The health care cost trend rate assumptions have a significant effect on the amounts reported. To illustrate, increasing the assumed health care cost trend rates by one percentage point in each year would increase the accumulated postretirement benefit obligation as of December 31, 1996 by $113,000 and the aggregate of the service and interest cost components of net periodic postretirement benefit costs for the year ended by $8,000. For the year ended December 31, 1996, the resulting net periodic postretirement benefit expense consisted of the following components:
Service cost--benefits earned during the period ....................................................................... $ 49,000 Interest cost on accumulated postretirement benefit obligation ........................................................ 96,000 Amortization of past service liability ................................................................................ (102,000) --------- Net postretirement benefit expense .................................................................................. $ 43,000 ====================================================================================================================================
33 13. Related Party Transactions At December 31, 1996 and 1995, loans to officers and related persons of officers, directors and the Company aggregated approximately $1,140,000 and $1,162,000, respectively. During the year ended December 31, 1996, repayments totaled approximately $22,000. 14. Conversion Costs On July 15, 1994, the registration statement on Form S-1 filed by the Company with the Securities and Exchange Commission became effective in accordance with Section 8(a) of the Securities Act of 1933. In March 1995, the Company withdrew the registration statement on Form S-1 and de-registered the shares thereunder. Costs incurred of approximately $2,222,000 that were directly associated with the Conversion through March 31, 1995, were expensed effective March 31, 1995. 15. Stockholders' Equity On November 21, 1995, the Company, through an initial public offering ("IPO"), completed the issuance and sale of 7,935,000 shares to the Bank's depositors and 690,000 shares to the Bank's Employee Benefit Trust ("EBT"). From the IPO, the Company received gross proceeds of $99,188,000, before reduction of $7,935,000 related to the EBT shares which were purchased through a loan from the Company to the EBT and $2,658,000 of IPO related expenses. Included in gross proceeds were $16,353,000 of bank depositor balances that were converted into IPO purchases of common stock. At December 31, 1996, restricted stock awards of 51,850 shares remain available for future grants and stock options in respect to 108,650 shares were also available for future grants. Stock options in respect to 753,850 shares are outstanding and not exercised. Additionally, the Bank established, in accordance with the requirements of the Office of Thrift Supervision ("OTS"), a liquidation account for $47,620,000 which was equal to its capital as of the date of the latest consolidated statement of financial condition appearing in the final IPO prospectus. The liquidation account is reduced as and to the extent that eligible account holders have reduced their qualifying deposits. Subsequent increases in deposits do not restore an eligible account holder's interest in the liquidation account. In the event of a complete liquidation of the Bank, each eligible account holder will be entitled to receive a distribution from the liquidation account in an amount proportionate to the current adjusted qualifying balances for accounts then held. As of December 31, 1996, the Bank's liquidation account was $19,575,000 and was presented within retained earnings. Accordingly, at December 31, 1996, $19,575,000 of the Company's retained earnings was restricted by the liquidation account. In addition to the restriction described above, the Company may not declare or pay cash dividends on or repurchase any of its shares of common stock if the effect thereof would cause the stockholders' equity to be reduced below applicable regulatory capital maintenance requirements or if such declaration and payment would otherwise violate regulatory requirements. Dividends paid for the year ended December 31, 1996 totaled $623,000. Starting in the third quarter of 1996, the Board of Directors declared a quarterly dividend payable of $0.04 per share, subject to the conditions stated above. 34 16. Regulatory Capital The Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA") imposes a number of mandatory supervisory measures on banks and thrift institutions. Among other matters, FDICIA established five capital zones or classifications (well-capitalized, adequately capitalized, undercapitalized, significantly undercapitalized and critically undercapitalized). Such classifications are used by the FDIC and other bank regulatory agencies to determine matters ranging from each institution's semi-annual FDIC deposit insurance premium assessments, to approvals of applications authorizing institutions to grow their asset size or otherwise expand business activities. Under OTS capital regulations, the Bank is required to comply with each of three separate capital adequacy standards. Set forth below is a summary of the Bank's compliance with OTS capital standards as of December 31, 1996 and 1995:
December 31, 1996 December 31, 1995 ------------------------------------------------------------- Percent of Percent of Amount Assets Amount Assets =================================================================================================================================== Tangible capital: Capital level ................................................... $ 93,138 12.67% $ 98,939 14.85% Requirement ..................................................... 11,028 1.50% 9,992 1.50% Excess .......................................................... $ 82,110 11.17% $ 88,947 13.35% Core (Tier I) capital: Capital level ................................................... $ 93,138 12.67% $ 98,939 14.85% Requirement ..................................................... 29,408 4.00% 26,646 4.00% Excess .......................................................... $ 63,730 8.67% $ 72,293 10.85% Total risk-based capital: Capital level ................................................... $ 97,597 27.43% $ 103,184 30.48% Requirement ..................................................... 28,464 8.00% 27,082 8.00% Excess .......................................................... $ 69,133 19.43% $ 76,102 22.48% ===================================================================================================================================
17. Commitments and Contingencies Commitments: The Company is a party to financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit and lines of credit. The instruments involve, to varying degrees, elements of credit and market risks in excess of the amount recognized in the consolidated financial statements. The Company's exposure to credit loss in the event of nonperformance by the counterparty to the financial instrument for loan commitments and lines of credit is represented by the contractual amounts of these instruments. Commitments to extend credit (principally real estate mortgages), purchase mortgage loans and lines of credit (principally home equity lines of credit) amounted to approximately $16,365,000, $24,281,000 and $388,000, respectively, at December 31, 1996. Since generally all of the loan commitments are expected to be drawn upon, the total loan commitments approximate future cash requirements, whereas the amounts of lines of credit may not be indicative of the Company's future cash requirements. The Company uses the same credit policies in making commitments and conditional obligations as it does for on-balance-sheet instruments. 35 The following is a summary, as of December 31, 1996, of commitments to extend credit for fixed-rate real estate mortgages.
Total Commitments Average Interest Rate Average Commitment Term --------------------------------------------------------------------------------------- $1,821,000 7.86% 180 days
Commitments to extend credit are legally binding agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates and require payment of a fee. The Company evaluates each customer's credit worthiness on a case by case basis. Collateral held consists primarily of real estate. The Company's minimum annual rental payments for Bank premises due under noncancellable leases are as follows:
Minimum Rental -------------- (In thousands) Years ending December 31: 1997 ................................................................................................ $ 395 1998 ................................................................................................ 401 1999 ................................................................................................ 407 2000 ................................................................................................ 414 2001 ................................................................................................ 414 Thereafter .......................................................................................... 1,044 ------ Total minimum payments required ................................................................... $3,075 ====================================================================================================================================
The leases have escalation clauses for operating expenses and real estate taxes. Certain lease agreements provide for increases in rental payments based upon increases in the consumer price index. The Company has an option to renew the leases expiring in 2001 for two periods of five years each. Rent expense under these leases for the years ended December 31, 1996, 1995 and 1994 was approximately $406,000, $378,000 and $380,000, respectively. Contingencies: The Company is a defendant in various lawsuits. Management of the Company, after consultation with outside legal counsels, believes that the resolution of these various matters will not result in any material effect on the Company's consolidated financial condition, results of operations and cash flows. 18. Concentration of Credit Risk The Company's lending is concentrated in residential and commercial real estate loans to borrowers in the metropolitan New York area. The Company evaluates each customer's credit worthiness on a case-by-case basis. The collateral obtained by the Company generally consists of first liens on residential real estate and commercial income producing real estate. 19. Disclosures About Fair Value of Financial Instruments SFAS No. 107, "Disclosures About Fair Value of Financial Instruments", requires that the Company disclose the estimated fair values for certain of its financial instruments. Financial instruments include items such as loans, deposits, securities, commitments to lend and other items as defined in SFAS No. 107. Fair value estimates are supposed to represent estimates of the amounts at which a financial instrument could be exchanged between willing parties in a current transaction other than in a forced liquidation. However, in many instances current exchange prices are not available for many of the Company's financial instruments, since no active market generally exists for a significant portion of the Bank's financial instruments. Accordingly, the Company uses other valuation techniques to estimate fair values of its financial instruments such as discounted cash flow methodologies and other methods allowable under SFAS No. 107. Fair value estimates are subjective in nature and are dependent on a number of significant assumptions based on management's judgment regarding future expected loss experience, current economic condition, risk characteristics of various financial instruments, and other factors. In addition, SFAS No. 107 allows a wide range of valuation techniques, therefore, it may be difficult to compare the Company's fair value information to independent markets or to other financial institutions' fair value information. The Company generally holds its earning assets, other than securities available for sale, to maturity and settles its liabilities at maturity. However, fair value estimates are made at a specific point in time and are based on relevant market information. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Company's entire holdings of a particular instrument. Accordingly, as assumptions change, such as interest rates and prepayments, fair value estimates change and these amounts may not necessarily be realized in an immediate sale. 36 SFAS No. 107 does not require disclosure about fair value information for items that do not meet the definition of a financial instrument or certain other financial instruments specifically excluded from its requirements. These items include core deposit intangibles and other customer relationships, premises and equipment, leases, income taxes, foreclosed properties and equity. Further, SFAS No. 107 does not attempt to value future income or business. These items are material and accordingly, the fair value information presented does not purport to represent, nor should it be construed to represent, the underlying "market" or franchise value of the Company. The estimated fair value of each material class of financial instruments as of December 31, 1996 and 1995 and the related methods and assumptions used to estimate fair value are as follows: Cash and due from banks, overnight interest-earning deposits and federal funds sold, interest and dividends receivable, mortgagors' escrow deposits, borrowed funds and other liabilities The carrying amounts are a reasonable estimate of fair value. Securities held to maturity and securities available for sale The estimated fair values of securities held to maturity and securities held for sale are contained in Note 7 of notes to consolidated financial statements. Fair value is based upon quoted market prices, where available. If a quoted market price is not available, fair value is estimated using quoted market prices for similar securities and adjusted for differences between the quoted instrument and the instrument being valued. Loans The estimated fair value of loans as of December 31, 1996 and 1995 is $396,140,000 and $289,969,000, respectively. For commercial mortgages, fair value is estimated by discounting the expected future cash flows using the current rates at which similar loans would be made to borrowers with similar credit ratings and remaining maturities. For residential mortgages, co-operative, and condominium loans, fair value is estimated using the quoted market prices for securities backed by similar loans, adjusted for differences in loan characteristics. For consumer loans, fair value is estimated by discounting the expected future cash flows using the current rates at which similar loans would be made to borrowers with similar credit ratings and remaining maturities. For non-accruing loans, fair value is generally estimated by discounting management's estimate of future cash flows with a discount rate commensurate with the risk associated with such assets. Due to depositors The estimated fair value of deposits as of December 31, 1996 and 1995 was $581,638,000 and $550,317,000, respectively. The fair values of demand, passbook savings, NOW and money market deposits are, by definition, equal to the amount payable on demand at the reporting date (i.e. their carrying value). The fair value of fixed-maturity certificates of deposits are estimated by discounting the expected future cash flows using the rates currently offered for deposits of similar remaining maturities. Other financial instruments The fair values of commitments to sell, lend or borrow are estimated using the fees currently charged or paid to enter into similar agreements, taking into account the remaining terms of the agreements and the present credit worthiness of the counterparties or on the estimated cost to terminate them or otherwise settle with the counterparties at the reporting date. For fixed-rate loan commitments to sell, lend or borrow, fair values also consider the difference between current levels of interest rates and committed rates (where applicable). As of December 31, 1996 and 1995, the fair values of the above financial instruments approximate the recorded amounts of the related fees and was not considered to be material. 20. Recent Accounting Pronouncements FASB has issued SFAS No. 125, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities", effective for transfers and servicing of financial assets and extinguishments of liabilities occurring after December 31, 1996. Earlier or retroactive application is not permitted. This Statement provides accounting and reporting standards for transfers and servicing of financial assets and extinguishments of liabilities based on consistent application of a financial-components approach that focuses on control. Adoption of this pronouncement is not expected to have a material impact on the Company's consolidated financial statements. 37 21. Quarterly Financial Data (UNAUDITED) Selected unaudited quarterly financial data for the fiscal year ended December 31, 1996 and 1995 is presented below:
==================================================================================================================================== 1996 1995 --------------------------------------------------------------------------------------------- Unaudited 4th 3rd 2nd 1st 4th 3rd 2nd 1st - ------------------------------------------------------------------------------------------------------------------------------------ (In thousands) Quarterly operating data Interest income ................... $ 14,427 $ 14,220 $ 13,514 $ 12,900 $ 11,889 $ 10,958 $ 10,905 $ 10,953 Interest expense .................. 6,962 6,797 6,401 6,142 6,132 5,894 5,713 5,159 --------------------------------------------------------------------------------------------- Net interest income ............. 7,465 7,423 7,113 6,758 5,757 5,064 5,192 5,794 Provision for loan losses ......... 96 20 150 152 77 232 76 110 Other operating income ............ 152 309 546 742 472 1,944 1,347 921 Other expense ..................... 4,173 4,637 4,512 4,242 4,326 3,904 4,901 7,109 --------------------------------------------------------------------------------------------- Income (loss) before income tax expense .............. 3,348 3,075 2,997 3,106 1,826 2,872 1,562 (504) Income tax expense ................ 1,617 1,404 1,346 1,444 758 782 376 554 --------------------------------------------------------------------------------------------- Net income (loss) ............... $ 1,731 $ 1,671 $ 1,651 $ 1,662 $ 1,068 $ 2,090 $ 1,186 $ (1,058) ============================================================================================= Net income per share .............. $ 0.22 $ 0.20 $ 0.20 $ 0.21 $ 0.08 -- -- -- Dividends per share ............... $ 0.04 $ 0.04 -- -- -- -- -- -- Average common shares outstanding ..................... 7,753 8,181 8,086 7,957 7,936 -- -- -- ====================================================================================================================================
22. Parent Company Only Financial Information Earnings of the Bank are recognized by the Holding Company using the equity method of accounting. Accordingly, earnings of the Bank are recorded as increases in the Holding Company's investment, any dividends would reduce the Holding Company's investment in the Bank, and any changes in the Bank's unrealized gain or loss on securities available for sale, net of taxes, would increase or decrease, respectively, the Holding Company's investment in the Bank. The condensed financial statements for the Holding Company at December 31, 1996 and 1995, and for the year ended December 31, 1996 and for the period from November 21, 1995 to December 31, 1995 are presented below:
==================================================================================================================================== 1996 1995 - ------------------------------------------------------------------------------------------------------------------------------------ Condensed Statement of Financial Condition Assets: Cash and due from banks ........................................................................ $ 185,000 $ 132,000 Federal funds sold and overnight interest-earning deposit ...................................... 9,600,000 3,038,000 Securities available for sale: Mortgage-backed securities ................................................................... -- 6,000,000 Other securities ............................................................................. 31,300,000 31,446,000 Interest receivable ............................................................................ 387,000 257,000 Receivable from Bank ........................................................................... -- 315,000 Investment in Bank ............................................................................. 92,066,000 100,429,000 Other assets ................................................................................... 144,000 7,000 ------------------------------ Total assets ............................................................................... $ 133,682,000 $ 141,624,000 ====================================================================================================================================
Continued 38 22. Parent Company Only Financial Information (continued)
==================================================================================================================================== 1996 1995 - ------------------------------------------------------------------------------------------------------------------------------------ Liabilities: Due to Bank .................................................................................... $ 247,000 $ 16,000 Other liabilities .............................................................................. 154,000 278,000 ------------------------------ Total liabilities .......................................................................... 401,000 294,000 ------------------------------ Stockholders' equity: Common stock ................................................................................... 89,000 86,000 Additional paid-in capital ..................................................................... 101,278,000 96,515,000 Unearned compensation .......................................................................... (12,065,000) (7,681,000) Treasury stock ................................................................................. (11,660,000) -- Retained earnings .............................................................................. 56,869,000 50,777,000 Net unrealized gain (loss) on securities available for sale .................................... (1,230,000) 1,633,000 ------------------------------ Total equity ............................................................................... 133,281,000 141,330,000 ------------------------------ Total liabilities and equity ............................................................... $ 133,682,000 $ 141,624,000 ==================================================================================================================================== Condensed Statement of Income Interest income .................................................................................. $ 2,677,000 $ 272,000 Other operating expenses ......................................................................... 776,000 70,000 ------------------------------ Income before taxes and equity in undistributed earnings of subsidiary ......................... 1,901,000 202,000 Income tax expense ............................................................................... 885,000 99,000 ------------------------------ Income before equity in undistributed earnings of subsidiary ................................... 1,016,000 103,000 Equity in undistributed earnings of the Bank ..................................................... 5,699,000 3,183,000 ------------------------------ Net income ................................................................................. $ 6,715,000 $ 3,286,000 ==================================================================================================================================== Condensed Statement of Cash Flow Operating activities: Net income ..................................................................................... $ 6,715,000 $ 3,286,000 Adjustments to reconcile net income to net cash provided by (used in) operating activities: Equity in undistributed earnings of the Bank ................................................. (5,699,000) (3,183,000) Net change in operating assets and liabilities ............................................... 1,396,000 (143,000) ------------------------------ Net cash provided by (used in) operating activities ........................................ 2,412,000 (40,000) ------------------------------ Investing activities: Purchases of securities available for sale ..................................................... 5,586,000 (37,446,000) Investment in Bank, net ........................................................................ 11,500,000 (48,264,000) ------------------------------ Net cash provided by (used in) investing activities ........................................ 17,086,000 (85,710,000) ------------------------------ Financing activities: Issuance of common stock ....................................................................... -- 88,920,000 Purchase of treasury stock ..................................................................... (12,260,000) -- Cash dividends paid ............................................................................ (623,000) -- ------------------------------ Net cash (used in) provided by financing activities ........................................ (12,883,000) 88,920,000 ------------------------------ Net increase in cash and cash equivalents ........................................................ 6,615,000 3,170,000 Cash and cash equivalents, beginning of year ..................................................... 3,170,000 -- ------------------------------ Cash and cash equivalents, end of year ........................................................... $ 9,785,000 $ 3,170,000 ====================================================================================================================================
39 Report of Independent Accountants To the Board of Directors and Stockholders of Flushing Financial Corporation: We have audited the accompanying consolidated statements of condition of FLUSHING FINANCIAL CORPORATION and SUBSIDIARIES (the "Company") as of December 31, 1996 and 1995, and the related consolidated statements of income, changes in stockholders' equity and cash flows for each of the three years in the period ended December 31, 1996. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Flushing Financial Corporation and Subsidiaries at December 31, 1996 and 1995, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 1996, in conformity with generally accepted accounting principles. /s/Coopers & Lybrand LLP New York, New York February 28, 1997 40 Flushing Financial Corporation Executive Management Gerard P. Tully, Sr. Chairman of the Board James F. McConnell President & Chief Executive Officer Michael J. Hegarty Executive Vice President & Corporate Secretary Monica C. Passick Senior Vice President, Treasurer & Chief Financial Officer Henry A. Braun Senior Vice President Anna M. Piacentini Senior Vice President Board of Directors Gerard P. Tully, Sr.--Chairman Real estate development and management James F. McConnell President and CEO of Company and Bank Michael J. Hegarty EVP and Corporate Secretary of the Company and EVP and COO of the Bank John M. Gleason Funeral Services Robert A. Marani Commercial real estate development and management John O. Mead Retired fabric manufacturer and marketer Vincent F. Nicolosi Attorney in Bayside, New York Franklin F. Regan, Jr. Attorney in Flushing, New York John E. Roe, Sr. Chairman and CEO of City Underwriting Agency, Inc., insurance brokers Michael J. Russo Consulting engineer, real estate development and management, President and Director of Operations for Northeastern Aviation Corp., and Chairman and CEO of Meadow Mechanical Corp. Corporate Headquarters Flushing Savings Bank, FSB 144-51 Northern Boulevard Flushing, New York 11354 718-961-5400 facsimile 718-961-7646 Retail Branch Locations Flushing 144-51 Northern Boulevard 718-961-5400 159-18 Northern Boulevard 718-961-7400 188-08 Hollis Court Boulevard 718-445-3351 Bayside 61-54 Springfield Boulevard 718-631-2200 New Hyde Park 661 Hillside Avenue 516-488-6400 Bay Ridge 7102 Third Avenue 718-836-8088 Manhattan 33 Irving Place 212-477-9360 Loan Originations Flushing 144-51 Northern Boulevard 718-961-5400 Flushing Financial Corporation Shareholder Information Annual Meeting The Annual Meeting of Shareholders of Flushing Financial Corporation will be held at 2:00 PM April 29, 1997 at the LaGuardia Marriott located at 102-05 Ditmars Boulevard, East Elmhurst, New York 11369. Stock Listing Nasdaq National Market Symbol "FFIC" Transfer Agent and Registrar State Street Bank and Trust Company c/o Boston EquiServe P.O. Box 8200 Boston, Massachusetts 02266-8200 1-800-426-5523 Independent Certified Public Accountants Coopers & Lybrand L.L.P. 1301 Avenue of the Americas New York, New York 10019-6012 212-259-1000 Legal Counsel Hughes Hubbard & Reed LLP One Battery Park Plaza New York, New York 10004 212-837-6000 Shareholder Relations Kehoe, White, Savage & Company, Inc. 685 Fifth Avenue New York, New York 10022 212-888-1616 Design: Curran & Connors, Inc. [LOGO] FSB FLUSHING SAVINGS BANK, FSB Flushing Savings Bank 144-51 Northern Boulevard Flushing, New York 11354 EX-10.3(C) 3 AMENDMENT NO.3 TO EMPLOYMENT AGREEMENT Amendment No.3 to Employment Agreement between Flushing Financial Corporation and Michael J. Hegarty, and Amendment No.2 to Employment Agreement between Flushing Savings Bank, FSB and Michael J. Hegarty. This AMENDMENT AGREEMENT ("Agreement") is made and entered into as of the 26th day of November, 1996, by and among Flushing Financial Corporation, a Delaware corporation (the "Holding Company"), Flushing Savings Bank, FSB, a savings bank organized and existing under Federal law (the "Bank"), and Michael J. Hegarty (the "Officer"). The Holding Company and the Officer agree that, effective as of the date hereof, the employment agreement entered into between the Holding Company and the Officer as of November 21, 1995, as the same may have been previously amended (the "Holding Company Agreement"), is hereby amended as provided herein. The Bank and the Officer agree that, effective as of the date hereof, the employment agreement entered into between the Bank and the Officer as of November 21, 1995, as the same may have been previously amended (the "Bank Agreement"), is hereby amended as provided herein. 1. A new Section 5(h) is added to the Holding Company Agreement and the Bank Agreement to read as follows: (h) Upon the termination (the "Trust Termination") of the Flushing Financial Corporation Employee Benefit Trust (the "Trust") at any time during the Employment Period, the Officer shall be entitled to receive a payment in cash equal to the excess, if any, of (i) the amount the Officer would have been entitled to receive upon the Trust Termination if he had been employed by the Company or the Bank for the four full calendar years prior to the Trust Termination plus the completed portion of the calendar year in which the Trust Termination occurs (the "Deemed Benefit") over (ii) the amount the Officer actually receives upon the Trust Termination based upon his actual period of employment by the Company or the Bank prior to the Trust Termination. For purposes of calculating the Deemed Benefit, the Officer shall be deemed to have earned "aggregate compensation," as that term is defined in section 8.4 of the Trust Agreement dated as of June 28, 1994, at an annualized rate of $206,000 for any full or partial calendar year in which the Officer was not actually employed by the Holding Company or the Bank prior to the Trust Termination. 2. Except as they may be amended as provided herein, the Holding Company Agreement and the Bank Agreement shall continue in full force and effect in accordance with their terms as in effect before the date of this Agreement. IN WITNESS WHEREOF, the parties have signed this Agreement as of the date and year first above written. FLUSHING FINANCIAL CORPORATION FLUSHING SAVINGS BANK, FSB By: /s/ James F. McConnell By: /s/ Anna M. Piacentini -------------------------- -------------------------- Name: James F. McConnell Name: Anna M. Piacentini Title: President and C.E.O. Title: Senior Vice President /s/ Michael J. Hegarty - ------------------------------ Michael J. Hegarty EX-10.12 4 CONSULTING AGREEMENT Consulting Agreement between Flushing Savings Bank, FSB, Flushing Financial Corporation and Gerard P. Tully, Sr. AGREEMENT Agreement effective as of December 1, 1995, between Flushing Savings Bank, FSB, a federal savings bank (the "Bank"), Flushing Financial Corporation, a Delaware corporation (the "Company") and Gerard P. Tully, Sr. ("Mr. Tully"). W I T N E S S E T H: A. Mr. Tully is Chairman of the Board of Directors of the Bank and Chairman of the Board of Directors of the Company (collectively referred to as "Chairman"); B. The Bank and the Company recognize that Mr. Tully, as Chairman, devotes substantial time to the business affairs of the Bank and the Company above and beyond that required of directors; and C. The Bank and the Company desire to continue to have available the leadership, advice and counsel of Mr. Tully and the parties wish to formalize the arrangement whereby Mr. Tully receives compensation for his additional services as Chairman. NOW, THEREFORE, in consideration of the premises and of the mutual convenants herein contained, the parties hereto agree as follows: 1. Term. The term of this Agreement shall commence on December 31, 1995 and end on November 30, 1998, unless the Agreement is extended on terms mutually acceptable to the Bank, the Company and Mr. Tully or is terminated earlier as provided in Section 7. 2. Services. During the term of this Agreement, Mr. Tully shall consult with and advise the officers of the Bank and the Company and their respective Boards concerning the business and financial affairs of the Bank and the Company. Mr. Tully shall be free to exercise his own discretion and judgment in the performance of such services and with respect to the time, place, method, and manner of performance, subject to his fiduciary obligations to the Bank and the Company as a director and Chairman. Mr. Tully is expected periodically to meet in person and to confer by telephone with Senior Officers, but shall not be required to perform all of such services on the premises of the Bank or the Company. 3. Compensation. During the term of this Agreement, the Bank and the Company will pay Mr. Tully an aggregate fee of $5,833.33 per month. Payment will be made on the last business day of the month for which the fee is paid. 4. Expenses. Mr. Tully shall be reimbursed for expenses reasonably and necessarily incurred by him in connection with the performance of his services under this Agreement, in accordance with the Bank's and the Company's then applicable policies and procedures. Mr. Tully shall furnish the Bank and the Company with appropriate documentation required by the Internal Revenue Code and regulations thereunder or otherwise reasonably required under the Bank's and the Company's policies in connection with such expenses. 5. Independent Contractor Status. Mr. Tully's services under this Agreement shall be provided by him as an independent contractor in his capacity as Chairman. Nothing contained in this Agreement or in the performance of the services hereunder shall be construed as creating the relationship of employer and employee between the Bank or the Company and Mr. Tully. Mr. Tully understands that he will not be entitled to receive any insurance or other employee benefits provided by the Bank and the Company to its employees. The Bank and the Company shall not withhold federal, state or local taxes with respect to the compensation payable to Mr. Tully under this Agreement. 6. Termination. This Agreement shall terminate immediately in the event Mr. Tully ceases to be Chairman. Upon such termination, Mr. Tully shall be paid any amounts then due under Sections 3 and 4, including his full monthly fee for the month in which the termination occurred without regard to the day of the month on which it occurred. Notwithstanding the preceding sentence, in the event Mr. Tully ceases to be Chairman within three months following a "Change in Control", as defined in the 1996 Restricted Stock Incentive Plan of Flushing Financial Corporation, then upon termination of this Agreement, Mr. Tully shall be paid in one lump sum the amount of the aggregate fees that Mr. Tully would have earned if he had continued to serve until the end of the term of this Agreement, either as stated in Section 1 or as later extended. 7. Entire Agreement: Modifications. This Agreement contains the entire understanding between the parties with respect to the subject matter hereof, and may not be altered, varied, revised, or amended except by an instrument in writing signed by Mr. Tully, the Bank and the Company subsequent to the date of this Agreement. 8. Assignment. This Agreement is for the personal services of Mr. Tully and shall not be assignable by Mr. Tully. IN WITNESS WHEREOF, Mr. Tully, the Bank and the Company have caused this Agreement to be executed as of this 20th day of August, 1996, but effective as of the day and year first above written. FLUSHING SAVINGS BANK, FSB By: /s/ Michael J. Hegarty ------------------------- FLUSHING FINANCIAL CORPORATION By: /s/ James F. McConnell ------------------------- /s/ Gerard P. Tully, Sr. ------------------------------ Gerard P. Tully, Sr. EX-23.1 5 CONSENT OF INDEPENDENT ACCOUNTANTS EXHIBIT 23.1 CONSENT OF INDEPENDENT ACCOUNTANTS COOPERS & LYBRAND COOPERS & LYBRAND L.L.P. a professional services firm Consent of Independent Accountants We consent to the incorporation by reference in the Registration Statement of Flushing Financial Corporation on Form S-8 No. 33-98202 and Form S-8 No. 333-3878, of our report dated February 28, 1997, on our audits of the consolidated financial statements and financial statement schedules of Flushing Financial Corporation, and Subsidiaries as of December 31, 1996 and 1995 and for each of the three years in the period ended December 31, 1996, which report is included in the Annual Report on Form 10-K of Flushing Financial Corporation. /s/ Coopers & Lybrand L.L.P. Coopers & Lybrand L.L.P. New York, New York March 26, 1997. Coopers & Lybrand L.L.P. is a member of Coopers & Lybrand International, a limited association incorporated in Switzerland. EX-27 6 FINANCIAL DATA SCHEDULE
9 This schedule contains summary financial information extracted from the Condensed Consolidated Statement of Financial Condition at December 31, 1996(Audited) and the Condensed Consolidated Statement of Income for the year ended December 31, 1996 (Audited) and is qualified in its entirety by reference to such financial statements. 1,000 12-MOS DEC-31-1996 JAN-01-1996 DEC-31-1996 6,961 511 26,953 0 331,895 0 0 388,217 5,437 775,343 584,479 0 6,582 51,000 0 0 89 133,192 775,343 29,161 25,120 780 55,061 24,164 26,302 28,759 418 126 15,941 12,526 12,526 0 0 6,715 0.84 0.84 7.68 2,408 0 0 0 5,310 535 244 5,437 5,437 0 5,437
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