-----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, Kce0S5AmahcDXSStGRS16T5x3wMG/wkQU2TX9bJmEYLp7dEtznG0BxF1PlaYG2qD XnRC+2YMF+EQqh3VP3U78Q== 0000930413-02-001119.txt : 20020415 0000930413-02-001119.hdr.sgml : 20020415 ACCESSION NUMBER: 0000930413-02-001119 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 3 CONFORMED PERIOD OF REPORT: 20011231 FILED AS OF DATE: 20020401 FILER: COMPANY DATA: COMPANY CONFORMED NAME: FIRST SENTINEL BANCORP INC CENTRAL INDEX KEY: 0001051092 STANDARD INDUSTRIAL CLASSIFICATION: SAVINGS INSTITUTIONS, NOT FEDERALLY CHARTERED [6036] IRS NUMBER: 223566151 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: 1934 Act SEC FILE NUMBER: 000-23809 FILM NUMBER: 02595642 BUSINESS ADDRESS: STREET 1: 1000 WOODBRIDGE CENTER DRIVE CITY: WOODBRIDGE STATE: NJ ZIP: 07095 BUSINESS PHONE: 7327268700 MAIL ADDRESS: STREET 1: 1000 WOODBRIDGE CENTER DRIVE CITY: WOODBRIDGE STATE: NJ ZIP: 07095 FORMER COMPANY: FORMER CONFORMED NAME: FIRST SOURCE BANCORP INC DATE OF NAME CHANGE: 19971209 10-K 1 c23758_10k-.txt ANNUAL REPORT 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, 2001 Commission file number: 0-23809 FIRST SENTINEL BANCORP, INC. - -------------------------------------------------------------------------------- (exact name of registrant as specified in its charter) DELAWARE 22-3566151 - -------------------------------------------------------------------------------- (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) 1000 WOODBRIDGE CENTER DRIVE, WOODBRIDGE, NJ, 07095 - -------------------------------------------------------------------------------- (Address of principal executive offices) Registrant's telephone number, including area code: (732) 726-9700 Securities registered pursuant to Section 12(b) of the Act: NONE Securities registered pursuant to Section 12(g) of the Act: COMMON STOCK, PAR VALUE $0.01 (Title of class) Check whether the issuer (1) 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) had been subject to such filing requirements for the past 90 days. Yes [X] No[ ] Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the registrant's knowledge, in a definitive proxy or information statements incorporated by reference in Part III of this form 10-K or any amendment to this form 10-K. [ ] The aggregate market value of the voting stock held by non-affiliates of the issuer, based on the closing price of its Common Stock on March 15, 2002, as quoted by the Nasdaq Stock Market, was approximately $353.2 million. Solely for the purposes of this calculation, the shares held by directors and officers of the registrant are deemed to be shares held by affiliates. As of March 15, 2002, there were 43,106,742 shares issued and 30,768,065 shares outstanding of the Registrant's common stock. DOCUMENTS INCORPORATED BY REFERENCE I. Portions of the Annual Report to Stockholders for the Fiscal Year Ended December 31, 2001 (Part II). II. Portions of the Proxy Statement for the 2002 Annual Meeting of Stockholders to be held on May 21, 2002 and any adjournment thereof and which is expected to be filed with the Securities and Exchange Commission on or about April 22, 2002 (Part III). 1 INDEX PAGE PART I Item 1. Business ................................................. 3 Item 2. Properties ............................................... 31 Item 3. Legal Proceedings ........................................ 32 Item 4. Submission of Matters to a Vote of Security Holders ...... 33 PART II Item 5. Market for Registrant's Common Equity and Related Stockholder Matters ...................................... 33 Item 6. Selected Financial Data .................................. 33 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations ............ 33 Item 7A. Quantitative and Qualitative Disclosures About Market Risk ........................................ 33 Item 8. Financial Statements and Supplementary Data .............. 33 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure ...................... 33 PART III Item 10. Directors and Executive Officers of the Registrant ....... 33 Item 11. Executive Compensation ................................... 33 Item 12. Security Ownership of Certain Beneficial Owners and Management ........................................... 34 Item 13. Certain Relationships and Related Transactions ........... 34 PART IV Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K .............................................. 34 SIGNATURES .................................................................. 37 2 PART I ITEM 1. BUSINESS FIRST SENTINEL BANCORP, INC. First Sentinel Bancorp, Inc. ("First Sentinel" or the "Company") is a Delaware corporation organized by First Savings Bank ("First Savings" or the "Bank") for the purpose of holding all of the capital stock of the Bank. At December 31, 2001, the Company had consolidated total assets of $2.1 billion and total stockholders' equity of $230.1 million. The Company is a unitary thrift holding company subject to regulation by the Office of Thrift Supervision ("OTS") and the Securities and Exchange Commission ("SEC"). The Company's executive offices are located at 1000 Woodbridge Center Drive, Woodbridge, New Jersey 07095. The Company's telephone number is (732) 726-9700. FIRST SAVINGS BANK First Savings is a New Jersey-chartered, capital stock savings bank headquartered in Woodbridge, New Jersey. First Savings has operated in its present market area since 1901. The Bank's executive offices are located at 1000 Woodbridge Center Drive, Woodbridge, New Jersey 07095. The Bank's telephone number is (732) 726-9700. BUSINESS STRATEGY STATEMENTS CONTAINED IN THIS REPORT THAT ARE NOT HISTORICAL FACT ARE FORWARD-LOOKING STATEMENTS, AS THAT TERM IS DEFINED IN THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995. SUCH STATEMENTS MAY BE CHARACTERIZED AS MANAGEMENT'S INTENTIONS, HOPES, BELIEFS, EXPECTATIONS OR PREDICTIONS OF THE FUTURE. IT IS IMPORTANT TO NOTE THAT SUCH FORWARD-LOOKING STATEMENTS ARE SUBJECT TO RISKS AND UNCERTAINTIES THAT COULD CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY FROM THOSE PROJECTED IN SUCH FORWARD-LOOKING STATEMENTS. FACTORS THAT COULD CAUSE FUTURE RESULTS TO VARY MATERIALLY FROM CURRENT EXPECTATIONS INCLUDE, BUT ARE NOT LIMITED TO, CHANGES IN INTEREST RATES, ECONOMIC CONDITIONS, DEPOSIT AND LOAN GROWTH, REAL ESTATE VALUES, LOAN LOSS PROVISIONS, COMPETITION, CUSTOMER RETENTION, CHANGES IN ACCOUNTING PRINCIPLES, POLICIES OR GUIDELINES AND LEGISLATIVE AND REGULATORY CHANGES. The Company's objectives are to enhance shareholder value by profitably meeting the needs of its customers and seeking controlled growth, while preserving asset quality and maintaining a strong capital position. The Company's strategy emphasizes customer service and convenience, and the Company attributes the loyalty of its customer base to its commitment to maintaining customer satisfaction. The Company attempts to set itself apart from its competitors by providing the type of personalized service not generally available from larger banks while offering a greater variety of products and services than is typically available from smaller, local depository institutions. The Company's principal business, which is conducted through the Bank, is attracting retail deposits from the general public and investing those deposits, together with funds generated from operations and borrowings, primarily in single-family residential mortgage loans, real estate construction loans, commercial real estate loans, home equity loans and lines of credit and multi-family residential mortgage loans. The Company maintains a significant portfolio of mortgage-backed securities and also invests in U.S. Government, federal agency and corporate debt securities and other marketable securities. The Company's revenues are derived principally from interest on its loan and mortgage-backed securities portfolios and interest and dividends on its investment securities. The Company's primary sources of funds are deposits, proceeds from principal and interest payments on loans and mortgage-backed securities; sales of loans, mortgage-backed and investment securities available for sale; maturities of investment securities and short-term investments; advances from the Federal Home Loan Bank of New York ("FHLB-NY"), reverse repurchase agreements and other borrowed funds. In an effort to enhance its long-term profitability and increase its market share, the Company has endeavored to expand its traditional thrift lending and securities investment strategy. Toward this end, the Bank 3 continues to diversify and expand upon the products and services it offers by focusing on both lending and deposit services to small and medium-sized retail businesses. The Bank has increased its emphasis on the origination of commercial real estate, construction and commercial loans, as well as the marketing of its business checking accounts and other business-related services. To develop full-service relationships with commercial customers, the Bank provides merchant services, such as merchant credit card processing, overdraft sweep accounts, express teller services and escrow management. The Bank has hired, and intends to continue hiring, additional personnel with expertise in commercial lending to facilitate growth in this area. The Bank has also increased loan volumes through the use of third-party correspondent lending. Purchased loans were primarily one-to-four family adjustable-rate mortgages, underwritten internally, with higher rates than those currently offered by the Bank. Third-party correspondent lending is expected to continue to play a minor role in the future operations of the Bank. As part of the Company's asset/liability management strategy, and as a means of enhancing profitability, the Company also invests in investment and mortgage-backed securities. In recent years, the Company has utilized its ability to borrow as an alternative means of funding asset growth. The average balance of borrowings outstanding for the years ended December 31, 2001, 2000 and 1999 was $495.7 million, $503.4 million and $325.5 million, respectively. The Company will continue to evaluate leveraged growth opportunities as market conditions allow. The Company repurchased 1.9 million shares, or $22.2 million, of its common stock during 2001 as part of its ongoing capital management strategy. At December 31, 2001, the Company was eligible to repurchase an additional 745,000 shares under a 5% stock repurchase program authorized in June, 2001. The Company progressed with teller platform automation initiatives in 2001. The initial phases resulted in lower printing costs and a streamlined transaction process. The Company anticipates that as the system evolves, realization of further efficiencies and enhanced sales capabilities will be achieved. In addition, the Company introduced transactional Internet banking in 2001. Supplementing the Company's existing delivery channels, Internet banking provides customers with on-line access to commercial and retail services. These services include on-line loan applications, funds transfers, electronic bill payment, and the receipt of on-line statements. The Company intends to actively seek additional expansion opportunities in the areas surrounding its current branch locations. Accordingly, the Company purchased an existing bank branch facility in Somerset, New Jersey, in December 2001. This new branch location opened in February 2002. 4 MARKET AREA AND COMPETITION The Company currently operates 23 branch offices in central New Jersey, 18 of which are located in Middlesex County, two in Monmouth County and one in each of Mercer, Somerset and Union Counties. The Company's deposit gathering base is concentrated in the communities surrounding its offices. The majority of the Company's loan originations are derived from northern and central New Jersey, which is a part of the New York City metropolitan area and which has historically benefited from having a large number of corporate headquarters and a concentration of financial services-related industries. The area also has a well-educated employment base and a large number of industrial, service and high-technology businesses. Relatively low unemployment levels and favorable interest rates have contributed to the appreciation in New Jersey's real estate market in recent years. Whether such appreciation will continue is dependent, in large part, upon the general economic condition of both New Jersey and the United States and other factors beyond the Company's control and, therefore, cannot be estimated. The Company faces significant competition both in making loans and in attracting deposits. The State of New Jersey has a high density of financial institutions, many of which are branches of significantly larger institutions which have greater financial resources than the Company, and all of which are competitors of the Company to varying degrees. The Company's competition for loans comes principally from commercial banks, savings banks, savings and loan associations, credit unions, mortgage banking companies and insurance companies. Its most direct competition for deposits has historically come from commercial banks, savings banks, savings and loan associations and credit unions. The Company faces additional competition for deposits from short-term money market funds, other corporate and government securities funds and from other financial institutions such as brokerage firms and insurance companies. 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 also depends on the relative amounts of interest-earning assets and interest-bearing liabilities and the interest rate earned or paid on them. 5 AVERAGE BALANCE SHEET. The following table sets forth certain information relating to the Company's average balance sheet and reflects the average yield on assets and average cost of liabilities for the periods indicated. Average balances are derived from month-end balances. (Dollars in thousands)
For the Year Ended December 31, --------------------------------------------------------------------------------------------- 2001 2000 1999 ----------------------------- ----------------------------- ----------------------------- Average Average Average Average Yield/ Average Yield/ Average Yield/ Balance Interest Cost Balance Interest Cost Balance Interest Cost ----------------------------- ----------------------------- ----------------------------- ASSETS: Interest-earning assets: Loans, net (1) ................. $1,220,059 $ 89,678 7.35% $1,121,386 $ 84,174 7.51% $ 934,991 $ 68,656 7.34% Investment and mortgage- backed securities available for sale (2) ....... 735,600 43,907 5.97 818,035 52,615 6.43 904,744 54,732 6.05 --------------------- --------------------- --------------------- Total interest-earning assets ................... 1,955,659 133,585 6.83 1,939,421 136,789 7.05 1,839,735 123,388 6.71 Non-interest earning assets ...... 63,937 20,695 46,536 ---------- ---------- ---------- Total assets ............... $2,019,596 $1,960,116 $1,886,271 ========== ========== ========== LIABILITIES AND STOCKHOLDERS' EQUITY: Interest-bearing liabilities: NOW and money market accounts ..................... $ 381,613 9,654 2.53 $ 354,135 9,452 2.67 $ 347,325 9,395 2.70 Savings accounts ............... 168,520 3,790 2.25 166,127 3,744 2.25 170,907 3,931 2.30 Certificate accounts ........... 660,120 33,764 5.11 646,791 34,783 5.38 686,754 33,900 4.94 Borrowed funds ................. 495,674 27,476 5.54 503,372 30,893 6.14 325,501 17,780 5.46 -------------------- --------------------- --------------------- Total interest-bearing liabilities .............. 1,705,927 74,684 4.38 1,670,425 78,872 4.72 1,530,487 65,006 4.25 Non-interest bearing deposits .... 53,394 48,582 44,755 Other liabilities ................ 31,941 15,253 15,004 ---------- ---------- ---------- Total liabilities .......... 1,791,262 1,734,260 1,590,246 ---------- ---------- ---------- Stockholders' equity ............. 228,334 225,856 296,025 ---------- ---------- ---------- Total liabilities and stockholders' equity...... $2,019,596 $1,960,116 $1,886,271 ========== ========== ========== Net interest income/interest rate spread(3).................... $58,901 2.45% $57,917 2.33% $58,382 2.46% ============== ============== ============== Net interest-earning assets/net interest margin (4)............... $249,732 3.01% $268,996 2.99% $309,248 3.17% ========== ============== ========== ====== ========== ======= Ratio of interest-earning assets to interest-bearing liabilities ...................... 1.15 X 1.16 x 1.20 x ========== ========== ==========
(1) Loans receivable, net includes non-accrual loans. (2) Includes federal funds sold and FHLB-NY stock. All securities are presented at amortized cost. (3) Interest rate spread represents the difference between the average yield on interest-earning assets and the average cost of interest-bearing liabilities. (4) Net interest margin represents net interest income divided by average interest-earning assets. 6 RATE/VOLUME ANALYSIS Net interest income can also be analyzed in terms of the impact of changing interest rates on interest-earning assets and interest-bearing liabilities and changing volume or amount of these assets and liabilities. The following table represents the extent to which changes in interest rates and changes in the volume of interest-earning assets and interest-bearing liabilities have affected the Company's interest income and interest expense during the periods indicated. Information is provided in each category with respect to (i) changes attributable to changes in volume (change in volume multiplied by prior rate), (ii) changes attributable to changes in rate (change in rate multiplied by prior volume), and (iii) the net change. Changes attributable to the combined impact of volume and rate have been allocated proportionately to the change due to volume and the change due to rate. (In thousands)
Year Ended December 31, 2001 Year Ended December 31, 2000 Compared to Year Ended Compared to Year Ended December 31, 2000 December 31, 1999 ----------------------------- ------------------------------- Increase (Decrease) Increase (Decrease) Due to Due to -------------------- -------------------- Volume Rate Net Volume Rate Net ------- ------- ------- -------- ------- -------- INTEREST-EARNING ASSETS: Loans receivable, net .............. $ 7,320 $(1,816) $ 5,504 $ 13,903 $ 1,615 $ 15,518 Investment and mortgage-backed securities and loans available for sale ......................... (5,093) (3,615) (8,708) (5,433) 3,316 (2,117) ------- ------- ------- -------- ------- -------- Total .............................. 2,227 (5,431) (3,204) 8,470 4,931 13,401 ------- ------- ------- -------- ------- -------- INTEREST-BEARING LIABILITIES: Deposits: NOW and money market demand ...... 713 (511) 202 169 (112) 57 Savings .......................... 46 -- 46 (105) (82) (187) Certificates of deposit .......... 720 (1,739) (1,019) (2,039) 2,922 883 Borrowed funds ..................... (463) (2,954) (3,417) 10,680 2,433 13,113 ------- ------- ------- -------- ------- -------- Total .............................. 1,016 (5,204) (4,188) 8,705 5,161 13,866 ======= ======= ======= ======== ======= ======== Change in net interest income ........ $ 1,211 $ (227) $ 984 $ (235) $ (230) $ (465) ======= ======= ======= ======== ======= ========
7 LENDING ACTIVITIES LOAN AND MORTGAGE-BACKED SECURITIES PORTFOLIO COMPOSITIONS. The Company's loan portfolio consists primarily of conventional first mortgage loans secured by one-to-four family residences and, to a lesser extent, multi-family residences and commercial real estate. At December 31, 2001, the Company's loan portfolio totaled $1.2 billion, of which $858.0 million, or 68.4% were one-to-four family residential mortgage loans. At that date, the Company's loan portfolio also included $113.0 million of home equity loans and lines of credit generally secured by second liens on one-to-four family residential properties, $71.6 million of net construction loans, $167.8 million of commercial real estate loans, and $23.4 million of multi-family residential mortgage loans, which represented 9.0%, 5.7%, 13.4% and 1.8%, respectively, of total loans receivable. Of the mortgage loan portfolio outstanding at December 31, 2001, 46.5% were fixed-rate loans and 53.5% were adjustable-rate mortgage ("ARM") loans. Other loans held by the Company, which consist of loans on deposit accounts, commercial, personal, and automobile loans, totaled $21.3 million, or 1.7% of total loans outstanding at December 31, 2001. The Company anticipates continued growth in construction, commercial and commercial real estate loans, both in amount and as a percentage of total loans receivable, in the foreseeable future. The majority of the loans originated by the Company are held for investment. In order to manage interest rate risk and diversify credit risk, however, the Company periodically sells 30-year, fixed-rate conforming loans to the Federal Home Loan Mortgage Corporation ("Freddie Mac" or "FHLMC"), FHLB-NY and institutional investors and generally retains servicing rights. All such loans are sold without recourse. At December 31, 2001, the Company's servicing portfolio totaled $96.1 million. The Company had $5.5 million in loans held for sale at December 31, 2001. The Company also invests in mortgage-backed securities and other mortgage-backed products such as collateralized mortgage obligations ("CMOs"). At December 31, 2001, mortgage-backed securities, including CMOs, were $642.7 million, or 30.0% of total assets, of which 64.5% were secured by ARM loans. The majority of the Company's mortgage-backed securities are insured or guaranteed by Freddie Mac, the Government National Mortgage Association ("GNMA"), or Fannie Mae ("FNMA"). At December 31, 2001, all mortgage-backed securities were classified as available for sale. Mortgage-backed securities available for sale are held for an indefinite period of time and may be sold in response to changing market and interest rate conditions, or to provide liquidity to fund activities such as common stock repurchases or loan originations. The Company expects to classify all mortgage-backed security purchases as available for sale in the foreseeable future. 8 The following table sets forth the composition of the Company's loan and mortgage-backed securities portfolio in dollar amounts and as a percentage of the portfolio at the dates indicated (dollars in thousands):
At December 31, -------------------------------------------------------------------------------------------------- 2001 2000 1999 1998 1997 ------------------ ------------------ ------------------ ---------------- ---------------- Percent Percent Percent Percent Percent Amount of total Amount of total Amount of total Amount of total Amount of total ---------- ------ ---------- ------ ---------- ------ -------- ------ -------- ------ Mortgage loans (1): One-to-four family ......... $ 857,973 68.37% $ 879,578 73.59% $ 774,858 75.52% $657,284 76.10% $566,625 78.25% Home equity ................ 112,958 9.00 114,152 9.55 98,324 9.58 82,672 9.57 56,533 7.81 Construction (2) ........... 71,590 5.70 41,291 3.45 26,890 2.62 23,349 2.70 17,827 2.46 Commercial real estate ..... 167,806 13.37 131,072 10.97 96,821 9.44 65,069 7.53 54,926 7.58 Multi-family ............... 23,396 1.86 13,079 1.09 12,499 1.22 17,589 2.04 21,292 2.94 ---------- ------ ---------- ------ ---------- ------ -------- ------ -------- ------ Total mortgage loans ..... 1,233,723 98.30 1,179,172 98.65 1,009,392 98.38 845,963 97.94 717,203 99.04 Other loans ................... 21,347 1.70 16,121 1.35 16,638 1.62 17,817 2.06 6,954 0.96 ---------- ------ ---------- ------ ---------- ------ -------- ------ -------- ------ Total loans receivable ... 1,255,070 100.00% 1,195,293 100.00% 1,026,030 100.00% 863,780 100.00% 724,157 100.00% ====== ====== ====== ====== ====== Less: Net deferred loan fees (costs) and (premiums) and discounts ............... (641) (1,850) (1,090) (422) (107) Allowance for loan losses ..... 12,932 12,341 11,004 9,505 8,454 ---------- ---------- ---------- -------- -------- Total loans receivable, net .................... $1,242,779 $1,184,802 $1,016,116 $854,697 $715,810 ========== ========== ========== ======== ======== Mortgage loans: ARM ........................ $ 660,047 53.50% $ 664,164 56.32% $ 531,859 52.69% $439,234 51.92% $421,642 58.79% Fixed-rate ................. 573,676 46.50 515,008 43.68 477,533 47.31 406,729 48.08 295,561 41.21 ---------- ------ ---------- ------ ---------- ------ -------- ------ -------- ------ Total mortgage loans ..... $1,233,723 100.00% $1,179,172 100.00% $1,009,392 100.00% $845,963 100.00% $717,203 100.00% ========== ===== ========== ===== ========== ===== ======== ===== ======== ====== Mortgage-backed securities : CMOs ....................... $ 137,528 21.77% $ 201,802 44.79% $ 273,511 46.85% $209,468 32.00% $ 90,247 15.95% FHLMC ...................... 296,710 46.97 159,755 35.45 166,992 28.60 235,415 35.97 253,029 44.72 GNMA ....................... 44,951 7.11 29,409 6.53 57,489 9.85 71,347 10.90 113,179 20.00 FNMA ....................... 152,603 24.15 59,628 13.23 85,828 14.70 138,286 21.13 109,415 19.33 ---------- ------ ---------- ------ ---------- ------ -------- ------ -------- ------ Total mortgage-backed securities ............. 631,792 100.00% 450,594 100.00% 583,820 100.00% 654,516 100.00% 565,870 100.00% ====== ====== ====== ====== ====== Net premiums .................. 6,198 1,951 2,748 3,639 2,704 Net unrealized gain (loss) on mortgage-backed securities available for sale .................... 4,726 (5,523) (11,409) 3,726 1,876 ---------- ---------- ---------- -------- -------- Mortgage-backed securities, net ......................... $ 642,716 $ 447,022 $ 575,159 $661,881 $570,450 ========== ========== ========== ======== ========
- ---------- (1) Includes $5.5 million and $277,000 in mortgage loans held for sale at December 31, 2001 and 2000, respectively. No loans were classified as held for sale at December 31, 1999, 1998 or 1997. (2) Net of loans in process of $65.1 million, $19.2 million, $28.0 million, $41.8 million, and $27.5 million at December 31, 2001, 2000, 1999, 1998, and 1997, respectively. 9 LOAN MATURITY AND REPRICING The following table shows the maturity or period to repricing of the Company's loan portfolio at December 31, 2001. 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 include prepayments or scheduled principal amortization. (In thousands) At December 31, 2001 --------------------------------------------- One Year After One Year To Five Five or Less Years Years Total -------- -------- -------- ---------- Mortgage loans: One-to-four family ......... $ 99,786 $287,777 $470,410 $ 857,973 Home equity ................ 33,572 23,269 56,117 112,958 Construction (1) ........... 71,590 -- -- 71,590 Commercial real estate ..... 26,461 41,602 99,743 167,806 Multi-family ............... 188 15,835 7,373 23,396 -------- -------- -------- ---------- Total mortgage loans ..... 231,597 368,483 633,643 1,233,723 Other loans .................. 14,749 3,725 2,873 21,347 -------- -------- -------- ---------- Total loans .............. $246,346 $372,208 $636,516 1,255,070 ======== ======== ======== Net deferred loan costs and unearned premiums .................... 641 Allowance for loan losses ........................................ (12,932) ---------- Loans receivable, net ............................................ $1,242,779 ========== (1) Excludes loans in process of $65.1 million. The following table sets forth at December 31, 2001, the dollar amount of loans contractually due or repricing after December 31, 2002, and whether such loans have fixed interest rates or adjustable interest rates (in thousands): Due or repricing after December 31, 2002 ---------------------------------- Fixed Adjustable Total -------- ---------- ---------- Mortgage loans: One-to-four family ..................... $352,708 $405,479 $ 758,187 Home equity ............................ 71,530 7,856 79,386 Commercial real estate ................. 77,709 63,636 141,345 Multi-family ........................... 6,179 17,029 23,208 Other loans .............................. 4,272 2,326 6,598 -------- -------- ---------- Total loans receivable ................... 512,398 496,326 1,008,724 Mortgage-backed securities (at amortized cost) .................... 227,207 165,754 392,961 -------- -------- ---------- Total loans receivable and mortgage- backed securities ...................... $739,605 $662,080 $1,401,685 ======== ======== ========== ONE-TO-FOUR FAMILY MORTGAGE LOANS. The Company offers fixed and adjustable-rate first mortgage loans secured by one-to-four family residences in New Jersey. Typically, such residences are single family homes that serve as the primary residence of the owner. Loan originations are generally obtained from existing or past 10 customers, members of the local community, and referrals from attorneys, established builders, and realtors within the Company's market area. In addition, one-to-four family residential mortgage loans are also originated in the Company's market area through loan originators who are employees of the Company and are compensated on a commission basis. Originated mortgage loans in the Company's portfolio include due-on-sale clauses which provide the Company with the contractual right to deem the loan immediately due and payable in the event that the borrower transfers ownership of the property without the Company's consent. At December 31, 2001, 68.4% of total loans receivable consisted of one-to-four family residential loans. The Company offers ARM loans with initial fixed-rate terms of either one, three, five, seven or ten years. After the initial fixed-rate term, the loan then converts into a one-year ARM. The Company's ARM loans may carry an initial interest rate which is less than the fully-indexed rate for the loan. The initial discounted rate is determined by the Company in accordance with market and competitive factors. The majority of the Company's ARM loans adjust by a maximum of 2.00% per year, with a lifetime cap on increases of up to 6.00%. ARM loans are originated for terms of up to 30 years. Interest rates charged on fixed-rate loans are competitively priced based on market conditions and the Company's cost of funds. The Company's fixed-rate mortgage loans currently are made for terms of 10 through 30 years. Generally, ARM loans pose credit risks different than risks inherent in fixed-rate loans, primarily because as interest rates rise, the payments of the borrower rise, thereby increasing the potential for delinquency and default. At the same time, the marketability of the underlying property may be adversely affected by higher interest rates. In order to minimize risks, borrowers of one-year ARM loans are qualified at the starting interest rate plus 2.00% or the fully-indexed rate, whichever is lower. The Company does not originate ARM loans which provide for negative amortization. The Company also offers Limited Documentation loans that do not require income verification but do require full asset verification. The Company generally originates one-to-four family residential mortgage loans in amounts up to 95% of the appraised value or selling price of the mortgaged property, whichever is lower. The Company requires private mortgage insurance for all loans originated with loan-to-value ratios exceeding 80%. Generally, the minimum one-to-four family loan amount is $25,000, and the maximum loan amount is $1,000,000. The Company offers residential mortgage loans with origination fees ranging from 0.00% to 3.00%. HOME EQUITY LOANS AND LINES OF CREDIT. The Company originates home equity loans secured by one-to-four family residences. These loans generally are originated as fixed-rate loans with terms from five to 15 years. Home equity loans are primarily made on owner-occupied, one-to-four family residences and to the Company's first mortgage customers. These loans are generally subject to a 80% loan-to-value limitation, including any other outstanding mortgages or liens where the first mortgage lien is held by the Company, and 75% on all other loans. In addition, the Company currently offers home equity loans for qualified borrowers with a loan-to-value ratio of up to 100%. The Company obtains private mortgage insurance for some of these types of loans, depending on the underwriting and first lien position. The Company also offers "Helping Hand" home equity loans for low income borrowers, with maximum terms of ten years, with loan-to-value ratios of up to 100% and a maximum loan amount of $20,000. Generally, the Company's minimum equity loan is $10,000 and the maximum equity loan is $500,000. As of December 31, 2001, the Company had $71.8 million in fixed-rate home equity loans outstanding. The Company also offers a variable rate, home equity line of credit, which is a credit line based on the applicant's income and equity in the home. Generally, the credit line, when combined with the balance of the first mortgage lien, may not exceed 80% of the appraised value of the property at the time of the loan commitment where the first mortgage lien is held by the Company, and 75% on all other loans. Home equity lines of credit are secured by a mortgage on the underlying real estate. The Company presently charges no origination fees for these loans. A borrower is required to make monthly payments of principal and interest, at a minimum of $100.00 plus interest, based upon a 20-year amortization period. Generally, the interest rate charged is the prime rate of interest (as published in THE WALL STREET JOURNAL) (the "prime rate") plus up to .25%. The loans have a 6.0% lifetime cap on the amount the interest rate may increase. The Company also offers a credit line product which is based on a 15 year amortization and the interest rate charged is the prime rate. These loans also have a 6.0% lifetime cap. The Company offers a fixed 6-month introductory rate on both home equity line of credit products. The introductory rate is currently 4.74%. The Company offers an additional credit line product that allows for a loan-to-value ratio of up 11 to 100%. The rates charged on these loans vary between the prime rate plus 1.0% to the prime rate plus 1.25%. The Company's home equity lines of credit outstanding at December 31, 2001 totaled $41.2 million, with additional available credit lines of $56.5 million. CONSTRUCTION LENDING. At December 31, 2001, construction loans totaled $71.6 million, or 5.7% of the Company's total loans outstanding. Available credit lines totaled $65.1 million at December 31, 2001. The current policy of the Company is to charge interest rates that float at margins of up to 1.5% above the prime rate on its construction loans. The Company's construction loans typically have original principal balances that are larger than its one-to-four family mortgage loans, with the majority of the loans ranging from available lines of credit of $155,000 to $12.0 million. At December 31, 2001, the Company had 51 construction loans, 17 of which had principal outstanding of $1.0 million or more, with the largest outstanding loan balance being $11.7 million. At December 31, 2001, all of the Company's construction lending portfolio consisted of loans secured by property located in the State of New Jersey, primarily for the purpose of constructing one-to-four family homes. The Company will originate construction loans on unimproved land in amounts up to 70% of the lower of the appraised value or the cost of the land. The Company also originates loans for site improvements and construction costs in amounts up to 75% of actual costs or sales price where contracts for sale have been executed. Generally, construction loans are offered for 12-month to 18-month terms with up to four six-month options to extend the original term. Typically, additional loan origination fees are charged for each extension granted however, these fees have been waived occasionally. The Company requires an appraisal of the property, credit reports, and financial statements on all principals and guarantors, among other items, on all construction loans. Construction lending, by its nature, entails additional risks as compared with one-to-four family mortgage lending, attributable primarily to the fact that funds are advanced upon the security of the project under construction prior to its completion. As a result, construction lending often involves the disbursement of substantial funds with repayment dependent on the success of the ultimate project and the ability of the borrower or guarantor to repay the loan. Because of these factors, the analysis of prospective construction loan projects requires an expertise that is different in significant respects from that which is required for residential mortgage lending. The Company addresses these risks through its underwriting procedures. See "Asset Quality" for further discussion. COMMERCIAL REAL ESTATE. At December 31, 2001, the Company had 150 loans secured by commercial real estate, totaling $167.8 million, or 13.4% of the Company's total loan portfolio. Commercial real estate loans are generally originated in amounts up to 70% of the appraised value of the mortgaged property. The Company's commercial real estate loans are permanent loans secured by improved property such as office buildings, retail stores, small shopping centers, medical offices, small industrial facilities, warehouses, storage facilities and other non-residential buildings. The largest commercial real estate loan at December 31, 2001 had an outstanding balance of $14.9 million and was secured by several self-storage facilities. Substantially all commercial real estate loans in the Company's portfolio are secured by properties located within New Jersey. The Company's commercial real estate loans are generally made for terms of up to 15 years. These loans typically are based upon a payout period of 10 to 25 years. To originate commercial real estate loans, the Company requires a security interest in personal property, standby assignment of rents and leases and some level of personal guarantees, if possible. The Company has established a $20.0 million maximum for any individual commercial real estate loan. Loans secured by commercial real estate properties are generally larger and involve a greater degree of risk than residential mortgage loans. Because payments on loans secured by commercial real estate properties are often dependent on successful operation or management of the properties, repayment of such loans may be subject, to a greater extent, to adverse conditions in the real estate market or the economy. The Company seeks to minimize these risks by limiting the number of such loans, lending only to established customers and borrowers otherwise known or recommended to the Company, generally restricting such loans to New Jersey, and obtaining personal guarantees, if possible. MULTI-FAMILY MORTGAGE LOANS. The Company originates multi-family mortgage loans in its primary lending area. As of December 31, 2001, $23.4 million, or 1.8%, of the Company's total loan portfolio consisted of multi- 12 family residential loans. At December 31, 2001, the Company had three multi-family loans with an outstanding balance in excess of $1.0 million. Large multi-family loans such as these are originated on the basis of the Company's underwriting standards for commercial real estate loans. OTHER LENDING. The Company also offers other loans, primarily commercial, personal, automobile, boat, motorcycle and motor home loans and loans secured by savings accounts. At December 31, 2001, $21.3 million, or 1.7%, of the loan portfolio consisted of such other loans. LOAN APPROVAL AUTHORITY AND UNDERWRITING. All loans secured by real estate must have the approval or ratification of the members of the Loan Committee, which consists of at least two outside directors and at least two officers engaged in the lending area. The Loan Committee meets at least monthly to review and ratify management's approval of loans made within the scope of its authority since the last committee meeting, and to approve mortgage loans made in excess of $750,000, but not greater than $1.0 million. Real estate loans in excess of $1.0 million require prior Board approval. Prior Board approval is also required for the origination of consumer and business loans in excess of $100,000 for unsecured loans, and $500,000 for secured loans. One-to-four family residential mortgage loans are generally underwritten according to Freddie Mac guidelines, except as to loan amount and certain documentation. For all loans originated by the Company, upon receipt of a completed loan application from a prospective borrower, a credit report is requested, income, assets and certain other information are verified and, if necessary, additional financial information is requested. An appraisal of the real estate intended to secure the proposed loan is required, performed by appraisers designated and approved by the Board of Directors. It is the Company's policy to obtain appropriate insurance protections, including title and flood insurance, on all real estate first mortgage loans. Borrowers must also obtain hazard insurance prior to closing. Borrowers generally are required to advance funds for certain items such as real estate taxes, flood insurance and private mortgage insurance, when applicable. LOAN SERVICING. The Company generally retains the servicing rights on loans it has sold. The Company receives fees for these servicing activities, which include collecting and remitting loan payments, inspecting the properties and making certain insurance and tax payments on behalf of the borrowers. The Company was servicing $96.1 million and $75.8 million of mortgage loans for others at December 31, 2001 and 2000, respectively. The Company received $193,000 and $177,000 in servicing fees for the years ended December 31, 2001 and 2000, respectively. LOAN PURCHASES AND SALES. The Company is a Freddie Mac qualified servicer in good standing, and may sell any of its conforming loans originated, subject to Freddie Mac requirements, and retain the servicing rights. As a part of its asset/liability management, the Company will sell loans, on occasion, in order to reduce or minimize potential interest rate and credit risk. As of December 31, 2001, $5.5 million of mortgage loans were classified as held for sale. Mortgage loans sold totaled $46.6 and $9.8 million for the years ended December 31, 2001 and 2000, respectively. Periodically, the Company may also purchase mortgage loans. The Company purchased $19.1 and $87.8 million in mortgage loans from third-party correspondents for the years ended December 31, 2001 and 2000, respectively. The Company underwrote the loans and verified documentation prior to purchase and received representations and warranties for a one year period, including repayment of remaining purchase premiums if a loan prepays within the first 12 months. 13 ASSET QUALITY The following table sets forth information regarding non-accrual loans, loans delinquent 90 days or more, and real estate owned ("REO"). At December 31, 2001, REO totaled $42,000 and consisted of one property. It is the policy of the Company to cease accruing interest on loans 90 days or more past due with loan-to-value ratios in excess of 55% and to reverse all previously accrued interest. For the year ended December 31, 2001, the amount of additional interest income that would have been recognized on nonaccrual loans if such loans had continued to perform in accordance with their contractual terms was $130,000. (Dollars in thousands) At December 31, ------------------------------------------ 2001 2000 1999 1998 1997 ------ ------ ------ ------ ------ Non-accrual mortgage loans ......... $1,787 $2,334 $2,311 $2,647 $4,457 Non-accrual other loans ............ -- 15 45 93 -- ------ ------ ------ ------ ------ Total non-accrual loans ........ 1,787 2,349 2,356 2,740 4,457 Loans 90 days or more delinquent and still accruing ............... 62 40 326 1,525 1,596 ------ ------ ------ ------ ------ Total non-performing loans ..... 1,849 2,389 2,682 4,265 6,053 Restructured loans ................. -- -- -- -- 2,103 Total real estate owned, net of related allowance for loss ....... 42 257 466 1,453 1,516 ------ ------ ------ ------ ------ Total non-performing assets ........ $1,891 $2,646 $3,148 $5,718 $9,672 ====== ====== ====== ====== ====== Non-performing loans to total loans receivable, net ............ 0.15% 0.20% 0.26% 0.50% 0.85% Total non-performing assets to total assets .................. 0.09% 0.13% 0.17% 0.31% 0.61% CLASSIFICATION OF ASSETS. The Company classifies 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 Company will sustain "some loss" if the deficiencies are not corrected. Assets classified as "doubtful" have all of the weaknesses inherent in those classified "substandard," with the added characteristic that the weaknesses present make "collection or liquidation in full," on the basis of currently existing facts, conditions, and values, "highly questionable and improbable." Assets classified as "loss" are those considered "uncollectible" and of such little value that their continuance as assets without the establishment of a specific loss reserve is not warranted. Assets that do not expose the Company to risk sufficient to warrant classification in one of the aforementioned categories, but which possess some weaknesses, are required to be designated "special mention" by management. Loans designated as special mention are generally loans that, while current in required payment, have exhibited some potential weaknesses that, if not corrected, could increase the level of risk in the future. Pursuant to the Company's internal guidelines, all loans 90 days past due are classified substandard, doubtful, or loss. The Company's classified assets totaled $9.0 and $5.4 million at December 31, 2001 and 2000, respectively. At December 31, 2001, $1.4 million of classified loans were secured by residential properties. The majority of the remaining $7.6 million in classified loans were secured primarily by commercial real estate. As of December 31, 2001, the Company's largest classified loan had a balance of $3.7 million and was secured by seven retail (appliance sales) stores, providing an estimated loan-to-value ratio of approximately 65%. This loan was current at December 31, 2001 and continued to accrue interest at the contractual rate, however the assets of the business are being liquidated and the borrower has sought bankruptcy protection. Of the seven properties securing this loan, four were vacant at December 31, 2001. The Company had two additional significant commercial real estate loans that were classified at December 31, 2001. Approximately $1.9 million was secured by an office building with a loan-to-value 14 ratio of approximately 85%. This loan was paying in accordance with contractual terms and remained on accrual status at December 31, 2001. Approximately $740,000 was secured by a self-storage facility with a loan-to-value ratio of approximately 88%. This loan was also paying in accordance with contractual terms and continued to accrue interest at December 31, 2001. ALLOWANCE FOR LOAN LOSSES. The allowance for loan losses is established through a provision for loan losses based on management's evaluation of the adequacy of the allowance, including an assessment of known and inherent risks in the Bank's loan portfolio, review of individual loans for adverse situations that may affect the borrower's ability to repay, the estimated value of any underlying collateral, and consideration of current economic conditions. Such evaluation, which includes a review of all loans on which full collectibility may not be reasonably assured, considers the fair value of the underlying collateral, economic conditions, historical loan loss experience, and other factors that warrant recognition in providing for an adequate loan loss allowance. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Company's allowance for loan losses and valuation of real estate owned. Such agencies may require the Company to recognize additions to the allowance based on their judgments about information available to them at the time of their examination. The Company recorded $650,000 and $1.4 million in provisions for loan losses for the years ended December 31, 2001 and 2000, respectively. The decrease in the provision for loan losses was the result of management's asset classification review, partially offset by continued growth in loans receivable. The Company believes that the allowance for loan losses is adequate. At December 31, 2001, the total allowance was $12.9 million, which amounted to 1.03% of loans receivable, net of unearned and deferred fees, and 6.8 times non-performing assets. The Company will continue to monitor the level of its allowance for loan losses in order to maintain it at a level which management considers adequate to provide for probable loan losses. The following table sets forth activity in the Company's allowance for loan losses for the periods indicated (in thousands): For the Years Ended December 31, ----------------------------------------------- 2001 2000 1999 1998 1997 ------- ------- ------- ------- ------- Balance at beginning of period .................. $12,341 $11,004 $ 9,505 $ 8,454 $ 7,781 Provision for loan losses .... 650 1,441 1,650 1,469 1,200 Charge-offs (domestic): Real estate - mortgage ..... (71) (97) (151) (594) (510) Installment loans to individuals ................ -- (7) -- (2) (17) Recoveries (domestic): Real estate - mortgage ..... 12 -- -- 28 -- Allowance activity of Pulse during conforming period, net ................ -- -- -- 150 -- ------- ------- ------- ------- ------- Balance at end of period ..... $12,932 $12,341 $11,004 $ 9,505 $ 8,454 ======= ======= ======= ======= ======= 15 The following tables set forth the Company's percentage of allowance for loan losses to total allowance for loan losses and the percent of loans to total loans in each of the categories listed at the dates indicated (dollars in thousands):
At December 31, ------------------------------------------------------------------------- 2001 2000 ----------------------------------- --------------------------------- Percent of Percent of Percent of Loans in Percent of Loans in Allowance to Each Allowance to Each Total Category to Total Category to Amount Allowance Total Loans Amount Allowance Total Loans ------ --------- ----------- ------ --------- ----------- One-to-four family ..................... $ 4,579 35.41% 68.37% $ 4,831 39.15% 73.59% Home equity loans ...................... 1,270 9.82 9.00 1,243 10.07 9.55 Construction ........................... 2,209 17.09 5.70 1,275 10.33 3.45 Commercial real estate ................. 3,674 28.41 13.37 2,637 21.37 10.97 Multi-family ........................... 351 2.71 1.86 197 1.60 1.09 ------- ------ ------ ------- ------ ------ Total mortgage loans ................. 12,083 93.44 98.30 10,183 82.51 98.65 Other .................................. 849 6.56 1.70 587 4.76 1.35 Unallocated ............................ -- -- -- 1,571 12.73 -- ------- ------ ------ ------- ------ ------ Total allowance for loan losses ...... $12,932 100.00% 100.00% $12,341 100.00% 100.00% ======= ====== ====== ======= ====== ======
At December 31, --------------------------------------------------------------------------------------------------- 1999 1998 1997 ------------------------------- ------------------------------ ----------------------------- Percent Percent Percent of Loans of Loans of Loans Percent of in Each Percent of in Each Percent of in Each Allowance Category Allowance Category Allowance Category to Total to Total to Total to Total to Total to Total Amount Allowance Loans Amount Allowance Loans Amount Allowance Loans ------ --------- ----- ------ --------- ----- ------ --------- ----- One-to-four family ......... $ 4,667 42.41% 75.52% $4,027 42.37% 76.10% $3,867 45.75% 78.25% Home equity loans .......... 1,086 9.87 9.58 1,090 11.47 9.57 458 5.42 7.81 Construction ............... 1,573 14.29 2.62 1,223 12.87 2.70 894 10.57 2.46 Commercial real estate ..... 2,630 23.90 9.44 1,963 20.65 7.53 1,877 22.20 7.58 Multi-family ............... 250 2.27 1.22 522 5.49 2.04 777 9.19 2.94 ------- ------ ------ ------ ------ ------ ------ ------ ------ Total mortgage loans ..... 10,206 92.74 98.38 8,825 92.85 97.94 7,873 93.13 99.04 Other ...................... 541 4.92 1.62 486 5.11 2.06 258 3.05 0.96 Unallocated ................ 257 2.34 -- 194 2.04 -- 323 3.82 -- ------- ------ ------ ------ ------ ------ ------ ------ ------ Total allowance for loan losses ............ $11,004 100.00% 100.00% $9,505 100.00% 100.00% $8,454 100.00% 100.00% ======= ====== ====== ====== ====== ====== ====== ====== ======
MORTGAGE-BACKED SECURITIES Mortgage-backed securities represent a participation interest in a pool of single-family or multi-family mortgages, the principal and interest payments on which, in general, are passed from the mortgage originators, through intermediaries that pool and repackage the participation interest in the form of securities, to investors such as the Company. Such intermediaries may be private issuers, or agencies of the U.S. Government, including Freddie Mac, FNMA and GNMA, that guarantee the payment of principal and interest to investors. Mortgage-backed securities typically are issued with stated principal amounts, and the securities are backed by pools of mortgages that have loans with interest rates that are within a specified range and have varying maturities. The underlying pool of mortgages can be composed of either fixed-rate or ARM loans. Mortgage- 16 backed securities are generally referred to as mortgage participation certificates or pass-through certificates. As a result, the interest rate risk characteristics of the underlying pool of mortgages (e.g., fixed-rate or adjustable-rate) as well as prepayment, default and other risks associated with the underlying mortgages (see "Lending Activities") are passed on to the certificate holder. The life of a mortgage-backed pass-through security is equal to the life of the underlying mortgage(s). The actual maturity of a mortgage-backed security varies, depending on when the mortgagors repay or prepay the underlying mortgages. Prepayments of the underlying mortgages may shorten the life of the security, thereby affecting its yield to maturity and the related market value of the mortgage-backed security. The yield is based upon the interest income and the amortization or accretion of the premium or discount related to the mortgage-backed security. Premiums and discounts are amortized or accreted over the anticipated life of the loans. The prepayment assumptions used to determine the amortization or accretion period for premiums and discounts can significantly affect the yield calculation of the mortgage-backed security, and these assumptions are reviewed periodically to reflect the actual prepayment. The actual prepayments of the underlying mortgages depend on many factors, including the type of mortgages, the coupon rates, the age of mortgages, the geographical location of the underlying real estate collateralizing the mortgages, general levels of market interest rates, and general economic conditions. GNMA mortgage-backed securities that are backed by assumable Federal Housing Authority ("FHA") or Veterans Administration ("VA") loans generally have a longer life than conventional non-assumable loans underlying Freddie Mac and FNMA mortgage-backed securities. The difference between the interest rates on the underlying mortgages and the prevailing mortgage interest rates is an important determinant in the rate of prepayments. During periods of falling mortgage interest rates, prepayments generally increase, as opposed to periods of increasing interest rates whereby prepayments generally decrease. If the interest rate of underlying mortgages significantly exceeds the prevailing market interest rates offered for mortgage loans, refinancing generally increases and accelerates the prepayment of the underlying mortgages. Prepayment experience is more difficult to estimate for adjustable-rate mortgage-backed securities, both convertible and non-convertible. The Company has significant investments in mortgage-backed securities and has utilized such investments to complement its mortgage lending activities. At December 31, 2001, mortgage-backed securities, net, totaled $642.7 million, or 30.0% of total assets. All such securities were classified as available for sale and carried at market value. The Company invests in a large variety of mortgage-backed securities, including ARM, balloon and fixed-rate mortgage-backed securities, the majority of which are directly insured or guaranteed by Freddie Mac, GNMA and FNMA. At such date, the mortgage-backed securities portfolio had a weighted average interest rate of 6.38%. Fixed coupon rates ranged from 6.00% to 9.50% for GNMA, 6.00% to 9.00% for Freddie Mac, 5.75% to 7.00% for FNMA fixed-rate securities and 5.50% to 7.25% for fixed-rate CMOs. Adjustable-rate coupon ranges were as follows: 5.50% to 7.25% for GNMA ARM mortgage-backed securities; 5.22% to 8.46% for Freddie Mac ARM mortgage-backed securities; 6.19% to 8.19% for FNMA ARM mortgage-backed securities; and 4.35% to 6.25% for adjustable-rate CMOs. Included in the total mortgage-backed securities portfolio are CMOs, which had a market value of $137.1 million at December 31, 2001. The Company generally purchases short-term, sequential or planned amortization class ("PAC") CMOs. CMOs are securities created by segregating or portioning cash flows from mortgage pass-through securities or from pools of mortgage loans. CMOs provide a broad range of mortgage investment vehicles by tailoring cash flows from mortgages to meet the varied risk and return preferences of investors. These securities enable the issuer to "carve up" the cash flows from the underlying securities and thereby create multiple classes of securities with different maturity and risk characteristics. The CMOs and other mortgage-backed securities in which the Company invests may have a multi-class structure ("Multi-Class Mortgage Securities"). Multi-Class Mortgage Securities issued by private issuers may be collateralized by pass-through securities guaranteed by GNMA or issued by FNMA or Freddie Mac, or they may be collateralized by whole loans or pass-through mortgage-backed securities of private issuers. Each class has a specified maturity or final distribution date. In one structure, payments of principal, including any principal prepayments, on the collateral are applied to the classes in the order of their respective stated maturities or final distribution dates, so that no payment of principal will be made on any class until all classes having an earlier stated maturity or final distribution date have been paid in full. In other structures, certain classes may pay concurrently, or one or more classes may have a priority with respect to payments on the underlying collateral up to a specified amount. The Company's funds have not and will not be invested in any class 17 with residual characteristics. The weighted average life of CMOs at December 31, 2001, was 5.7 years. The stated weighted average contractual maturity of the Company's CMOs at December 31, 2001, was 21.8 years. The Company only purchases CMOs and mortgage-backed securities that are rated "AA" or higher at the time of purchase. Prior to purchasing CMOs and periodically throughout their lives, individual securities are reviewed for suitability with respect to projected weighted average lives and price sensitivity. A large percentage of the fixed-rate CMOs purchased have projected average durations of three years or less using current market prepayment assumptions prevalent at the time of purchase and projected average durations that do not exceed nine years in the event of a 300 basis point increase in market rates of interest. The Company receives a detailed analysis from the broker/dealer or from the Bloomberg System on each security. The amortized cost and market value of mortgage-backed securities at December 31, 2001, by contractual maturity are shown below. Expected maturities will differ from contractual maturities due to prepayments (in thousands): Amortized Market Cost Value -------- -------- Mortgage-backed securities available for sale due in: Less than one year .................................. $ -- $ -- One year through five years ......................... 4,752 4,876 Five years through ten years ........................ 57,500 57,456 Greater than ten years .............................. 575,738 580,384 -------- -------- $637,990 $642,716 ======== ======== INVESTMENT ACTIVITIES The Investment Policy of the Company, which is established by the Board of Directors and reviewed by the Investment Committee, is designed primarily to provide and maintain liquidity, to generate a favorable return on investments without incurring undue interest rate and credit risk and to complement the Company's lending activities. The Policy currently provides for held to maturity, available for sale and trading portfolios, although all securities are currently classified as available for sale. New Jersey state-chartered savings institutions have the authority to invest in various types of liquid assets, including United States Treasury obligations, securities of various federal agencies, certain certificates of deposit of insured banks and savings institutions, certain bankers' acceptances, repurchase agreements and loans on federal funds. Subject to various restrictions, state-chartered savings institutions may also invest a portion of their assets in commercial paper, corporate debt securities and asset-backed securities. INVESTMENTS AVAILABLE FOR SALE. The Company maintains a portfolio of investments available for sale to minimize interest rate and market value risk. These investments, designated as available for sale at purchase, are marked to market in accordance with Statement of Financial Accounting Standard No. 115. The Company's Investment Policy designates what type of securities may be contained in the available for sale portfolio. This portfolio of available for sale investments is reviewed and priced at least monthly. As of December 31, 2001, the market value of investment securities available for sale was $108.0 million, with an amortized cost basis of $109.4 million, and was composed of U.S. Government and Agency securities, state and political obligations, corporate debt obligations and equity securities. The available for sale portfolio, excluding equity securities, had a weighted average contractual maturity of 9.8 years. A portion of the investment portfolio is comprised of callable agency notes, which have a variety of call options available to the issuer at predetermined dates. The investment portfolio's yield is enhanced by the addition of callable agency notes, due to the issuer's flexibility in repricing their funding source, while creating reinvestment risk to the Company. At December 31, 2001, $41.3 million, or 38.3% of the total investment portfolio was callable. 18 INVESTMENT PORTFOLIO. The following table sets forth certain information regarding the carrying and market values of the Company's investment portfolio at the dates indicated (in thousands):
At December 31, ------------------------------------------------------------------------------- 2001 2000 1999 ----------------------- ----------------------- ----------------------- Amortized Market Amortized Market Amortized Market Cost Value Cost Value Cost Value --------- -------- --------- -------- --------- -------- Investment securities available for sale: U.S. Government and agency obligations ................................ $ 26,999 $ 27,014 $151,753 $149,149 $155,173 $146,810 State and political obligations ................ 14,029 14,029 12,813 12,451 16,976 15,706 Corporate obligations .......................... 60,330 59,357 67,267 62,880 45,917 40,424 Equity securities .............................. 8,051 7,588 10,817 10,490 11,149 10,650 -------- -------- -------- -------- -------- -------- Total investment securities available for sale ....................... $109,409 $107,988 $242,650 $234,970 $229,215 $213,590 ======== ======== ======== ======== ======== ========
19 The table below sets forth certain information regarding the contractual maturities, amortized costs, market values, and weighted average yields for the Company's investment portfolio at December 31, 2001. Investments in equity securities, which have no contractual maturities, are excluded from this table. (Dollars in thousands)
At December 31, 2001 ---------------------------------------------------------------------------------------------------------- More than More than One Year Five Years More than One Year or Less to Five Years to Ten Years Ten Years Total ---------------- --------------- ---------------- ---------------- -------------------------------------- Amor- Weighted Amor- Weighted Amor- Weighted Amor- Weighted Average Amor- Weighted tized Average tized Average tized Average tized Average Maturity tized Market Average Cost Yield Cost Yield Cost Yield Cost Yield in Years Cost Value Yield ------- -------- ------ -------- ------ -------- ------- -------- -------- -------- --------- --------- Investment securities available for sale: U.S. Government and agency obligations ....... $ -- --% $12,999 5.16% $14,000 6.12% $ -- --% 5.49 $ 26,999 $ 27,014 5.66% State and political obligations ....... 2,507 5.13 3,443 5.52 3,697 6.25 4,381 6.88 6.84 14,028 14,029 6.07 Corporate obligations -- -- 20,760 7.18 14,000 7.28 25,571 6.79 14.37 60,331 59,357 7.04 ------ ---- ------- ---- ------- ---- ------- ---- ----- -------- -------- ---- Total investment securities available for sale ........... $2,507 5.13% $37,202 6.32% $31,697 6.65% $29,952 6.80% 10.96 $101,358 $100,400 6.54% ====== ==== ======= ==== ======= ==== ======= ==== ===== ======== ======== ====
20 SOURCES OF FUNDS GENERAL. The Company's primary source of funds are deposits; proceeds from principal and interest payments on loans and mortgage-backed securities; sales of loans, mortgage-backed securities and investments available for sale; maturities of investment securities and short-term investments; and advances from the FHLB-NY, reverse repurchase agreements and other borrowed funds. Further, the Company may access additional liquidity through the capital markets, as in the trust preferred securities offering completed in November 2001. DEPOSITS. The Company offers a variety of deposit accounts having a range of interest rates and terms. The Company's deposits principally consist of fixed-term fixed-rate certificates, passbook and statement savings, money market, Individual Retirement Accounts ("IRAs") and Negotiable Order of Withdrawal ("NOW") accounts. The flow of deposits is significantly influenced by general economic conditions, changes in money market and prevailing interest rates and competition. The Company's deposits are typically obtained from the areas in which its offices are located. The Company relies primarily on customer service and long-standing relationships to attract and retain these deposits. At December 31, 2001, $130.7 million, or 9.9%, of the Company's deposit balance consisted of IRAs. Also at that date, $200.3 million, or 15.2%, of the Company's deposit balance consisted of deposit accounts with a balance greater than $100,000. The Company does not currently accept brokered deposits. At December 31, 2001, certificate accounts in amounts of $100,000 or more mature as follows (in thousands): Amount ------- Maturity period Three months or less ............. $36,422 Over 3 through 6 months .......... 20,457 Over 6 through 12 months ......... 11,593 Over 12 months ................... 16,256 ------- Total ..................... $84,728 ======= The following table sets forth the distribution of the Company's average accounts for the periods indicated and the weighted average nominal interest rates on each category of deposits presented (dollars in thousands):
For the Year Ended December 31, ---------------------------------------------------------------------------------- 2001 2000 1999 ----------------------- ----------------------- ---------------------- Average Average Average Average Average Average Balance Rate Balance Rate Balance Rate ---------- ------- ---------- ------- ---------- ------- Non-interest bearing deposits ......... $ 53,394 --% $ 48,582 --% $ 44,755 --% NOW and money market accounts ......... 381,613 2.53 354,135 2.67 347,325 2.70 Savings accounts ...................... 168,520 2.25 166,127 2.25 170,907 2.30 ---------- ------- ---------- ------- ---------- ------- Sub-total .......................... 603,527 2.23 568,844 2.32 562,987 2.36 Certificate accounts .................. 660,120 5.11 646,791 5.38 686,754 4.94 ---------- ------- ---------- ------- ---------- ------- Total average deposits ............. $1,263,647 3.73% $1,215,635 3.95% $1,249,741 3.78% ========== ======= ========== ======= ========== =======
BORROWINGS. The Company's policy has been to utilize borrowings as an alternate and/or less costly source of funds. The Company obtains advances from the FHLB-NY, which are collateralized by the capital stock of the FHLB-NY held by the Company and certain one-to-four family mortgage loans held by the Company. The Company also borrows funds via reverse repurchase agreements with the FHLB-NY and primary broker/dealers. Advances from the FHLB-NY are made pursuant to several different credit programs, each of which has its own interest rate and maturity. The maximum amount that the FHLB-NY will advance to member institutions, including the Bank, for purposes other than withdrawals, fluctuates from time to time in accordance with the policies of the FHLB-NY. The maximum amount of FHLB-NY advances permitted to a member institution generally is reduced by borrowings from any other source. At December 31, 2001, the Company's FHLB-NY advances totaled $165.8 million, representing 8.8% of total liabilities. 21 During 2001, the Company continued to borrow funds from the FHLB-NY and approved primary broker/dealers. The borrowings are collateralized by designated mortgage-backed and investment securities. The total of these borrowings at December 31, 2001 was $380.0 million, representing 20.2% of total liabilities. The Company also has an available overnight line-of-credit with the FHLB-NY for a maximum of $50.0 million. The following table sets forth certain information regarding the Company's borrowed funds on the dates indicated (dollars in thousands): At or For the Year Ended December 31, ---------------------------------- 2001 2000 1999 -------- -------- -------- FHLB-NY advances: Average balance outstanding ............ $128,492 $ 99,102 $ 70,914 Maximum amount outstanding at any month-end during the period ...... 165,814 140,200 139,250 Balance outstanding at end of period ... 165,814 80,955 107,000 Weighted average interest rate during the period .................... 5.44% 6.11% 5.43% Weighted average interest rate at end of period ..................... 4.76% 6.21% 5.88% Other borrowings: Average balance outstanding ............ $367,182 $404,270 $254,587 Maximum amount outstanding at any month-end during the period ...... 425,000 440,000 315,000 Balance outstanding at end of period ... 380,000 425,000 315,000 Weighted average interest rate during the period .................... 5.59% 6.14% 5.47% Weighted average interest rate at end of period ..................... 5.29% 6.16% 5.58% SUBSIDIARY ACTIVITIES FSB FINANCIAL CORP. FSB Financial Corp. is a wholly-owned subsidiary of the Bank and provides a line of fixed and variable rate annuity products, along with mutual funds and term life insurance. For the year ended December 31, 2001, FSB Financial Corp. had net income of $230,000. 1000 WOODBRIDGE CENTER DRIVE, INC. 1000 Woodbridge Center Drive, Inc. is a wholly-owned subsidiary of the Bank. 1000 Woodbridge Center Drive, Inc. is a real estate investment trust and the majority of the Bank's mortgage loan portfolio is held by this subsidiary. 1000 Woodbridge Center Drive, Inc. had net income of $34.1 million for the year ended December 31, 2001. FIRST SENTINEL CAPITAL TRUST I AND FIRST SENTINEL CAPITAL TRUST II. These subsidiaries are special purpose business trusts established for the issuance of $25.0 million in preferred capital securities. Each is a wholly-owned subsidiary of the Company. In addition, the Company has three wholly-owned subsidiaries which were inactive in 2001. PERSONNEL As of December 31, 2001, the Company had 277 full-time employees and 43 part-time employees. The employees are not represented by a collective bargaining unit, and the Company considers its relationship with its employees to be good. 22 FEDERAL AND STATE TAXATION FEDERAL TAXATION GENERAL. The Company and the Bank report their income on a consolidated basis. The Company and the Bank will report their income on a calendar year basis using the accrual method of accounting and will be subject to federal income taxation in the same manner as other corporations with some exceptions. 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 Company or the Bank. BAD DEBT RESERVE. In August 1996, the provisions repealing the current thrift bad debt rules were passed by Congress as part of "The Small Business Job Protection Act of 1996." The new rules eliminated the 8% of taxable income method for deducting additions to the tax bad debt reserves for all thrifts for tax years beginning after December 31, 1995. These rules also require that all thrift institutions recapture all or a portion of their bad debt reserves added since the base year (last taxable year beginning before January 1, 1988). As of December 31, 2001, the Bank has a base year reserve subject to recapture equal to $831,000. The Bank has previously recorded a deferred tax liability for the tax effect of the bad debt recapture and as such, the new rules have no effect on net income or federal income tax expense. Retained earnings at December 31, 2001 and 2000, includes approximately $18.1 million for which no provision for income tax has been made. This amount represents an allocation of income to bad debt deductions for tax purposes only. Events that would result in taxation of these reserves include failure to qualify as a bank for tax purposes, distributions in complete or partial liquidation, stock redemptions, excess distributions to shareholders or a change in Federal tax law. At December 31, 2001 and 2000, the Company had an unrecognized tax liability of $6.5 million with respect to this reserve. However, dividends paid out of the Bank's current or accumulated earnings and profits, as calculated for federal income tax purposes, will not be considered to result in a distribution from the Bank's bad debt reserve. Thus, any dividends to the Company that would reduce amounts appropriated to the Bank's bad debt reserve and deducted for federal income tax purposes would create a tax liability for the Bank. The amount of additional taxable income created from an Excess Distribution is an amount that, when reduced by the tax attributable to the income, is equal to the amount of the distribution. Thus, if the Bank makes a "non-dividend distribution," then approximately one and one-half times the amount so used would be includable in gross income for federal income tax purposes, assuming a 35% corporate income tax rate (exclusive of state and local taxes). The Bank does not intend to pay dividends that would result in a recapture of any portion of its bad debt reserve. CORPORATE ALTERNATIVE MINIMUM TAX. The Internal Revenue Code of 1986, as amended, imposes a tax on alternative minimum taxable income ("AMTI") at a rate of 20%. Only 90% of AMTI can be offset by net operating loss carryovers, of which the Company currently has none. AMTI is increased by an amount equal to 75% of the amount by which the Company's adjusted current earnings exceeds its AMTI (determined without regard to this preference and prior to reduction for net operating losses). The Company does not expect to be subject to the alternative minimum tax. STATE AND LOCAL TAXATION STATE OF NEW JERSEY. The Bank files a New Jersey income tax return. For New Jersey income tax purposes, savings institutions are presently taxed at a rate equal to 3% of taxable income. For this purpose, "taxable income" generally means federal taxable income, subject to certain adjustments (including the addition of net interest income on state and municipal obligations). The Company is required to file a New Jersey income tax return because it is doing business in New Jersey. For New Jersey tax purposes, regular corporations are presently taxed at a rate equal to 9% of taxable income. For this purpose, "taxable income" generally means Federal taxable income subject to certain adjustments (including addition of interest income on state and municipal obligations). DELAWARE 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. 23 REGULATION AND SUPERVISION GENERAL The Company, as holding company for the Bank, is required to file certain reports with, and otherwise comply with the rules and regulations of the Office of Thrift Supervision ("OTS") under the Home Owners' Loan Act, as amended (the "HOLA"). In addition, the activities of savings institutions, such as the Bank, are governed by the HOLA and the Federal Deposit Insurance Act, as amended (the "FDI Act"). The Company is also required to file certain reports with, and otherwise comply with, the rules and regulations of the Securities and Exchange Commission under the federal securities laws. As a New Jersey chartered savings bank, the Bank is subject to extensive regulation, examination and supervision by the Commissioner of the New Jersey Department of Banking and Insurance (the "Commissioner") as its chartering agency, and by the Federal Deposit Insurance Corporation ("FDIC"), as the deposit insurer. The Bank's deposit accounts are insured up to applicable limits by the Savings Association Insurance Fund ("SAIF") managed by the FDIC. The Bank must file reports with the Commissioner and the FDIC concerning its activities and financial condition in addition to obtaining regulatory approvals prior to entering into certain transactions such as mergers with, or acquisitions of, other depository institutions and opening or acquiring branch offices. The Commissioner and the FDIC conduct periodic examinations to assess the Bank's compliance with various regulatory requirements. The regulation and supervision of the Company and the Bank establishes a comprehensive framework of activities in which an institution can engage and is intended primarily for the protection of the insurance fund and depositors. The regulatory structure also gives the regulatory authorities extensive discretion in connection with their supervisory and enforcement activities and examination policies, including policies with respect to the classification of assets and the establishment of adequate loan loss reserves for regulatory purposes. Any change in such regulatory requirements and policies, whether by the Commissioner, the FDIC, the OTS or through legislation, could have a material adverse impact on the Company, the Bank and their operations and stockholders. Certain of the regulatory requirements applicable to the Bank and to the Company are referred to below or elsewhere herein. HOLDING COMPANY REGULATION Federal law allows a state savings bank that qualifies as a "qualified thrift lender" ("QTL") to elect to be treated as a savings association for purposes of the savings and loan holding company provisions of the HOLA. Such election would result in its holding company being regulated as a savings and loan holding company by the OTS, rather than as a bank holding company by the Federal Reserve Board. The Bank made such election and received approval from the OTS to become a savings and loan holding company. The Company is regulated as a nondiversified unitary savings and loan holding company within the meaning of the HOLA. As such, the Company is registered with the OTS and is subject to OTS regulations, examinations, supervision and reporting requirements. In addition, the OTS has enforcement authority over the Company. As a unitary savings and loan holding company, the Company generally is not restricted under existing laws as to the types of business activities in which it may engage, provided that the Bank continues to be a QTL. Under the QTL test, a savings association is required to maintain at least 65% of its "portfolio assets" (total assets less: (i) specified liquid assets up to 20% of total assets; (ii) certain intangibles, including goodwill; and (iii) the value of property used to conduct business) in certain "qualified thrift investments" (primarily residential mortgages and related investments, including certain mortgage-backed securities, credit card loans, student loans and small business loans) on a monthly basis in at least 9 months out of each 12 month period. If First Savings fails the QTL test, First Sentinel Bancorp must convert to a bank holding company. Additionally, First Savings must wait five years before applying to the OTS to regain its status as a "qualified thrift lender." As of December 31, 2001, the Bank maintained 87.3% of its portfolio assets in qualified thrift investments and had more than 80% of its portfolio assets in qualified thrift investments for each of the 12 months ending December 31, 2001, thereby qualifying under the QTL test. The Gramm-Leach Bliley Act ("Gramm-Leach") also restricts the powers of new unitary savings and loan association holding companies. Unitary savings and loan holding companies that are "grandfathered," i.e., unitary savings and loan holding 24 companies in existence or with applications filed with the OTS on or before May 4, 1999, such as the Company, retain their authority under the prior law. All other unitary savings and loan holding companies are limited to financially related activities permissible for bank holding companies, as defined under Gramm-Leach. Gramm-Leach also prohibits non-financial companies from acquiring grandfathered unitary savings and loan association holding companies. Upon any non-supervisory acquisition by the Company of another savings institution or savings bank that meets the QTL test and is deemed to be a savings institution by the OTS, the Company would become a multiple savings and loan holding company (if the acquired institution is held as a separate subsidiary) and would be subject to extensive limitations on the types of business activities in which it could engage. The HOLA limits the activities of a multiple savings and loan holding company and its non-insured institution subsidiaries primarily to activities permissible for bank holding companies under Section 4(c)(8) of the Bank Holding Company Act ("BHC Act"), subject to the prior approval of the OTS, and certain activities authorized by OTS regulation, and no multiple savings and loan holding company may acquire more than 5% the voting stock of a company engaged in impermissible activities. The HOLA prohibits a savings and loan holding company, directly or indirectly, or through one or more subsidiaries, from acquiring more than 5% of the voting stock of another savings institution or holding company thereof, without prior written approval of the OTS or acquiring or retaining control of a depository institution that is not insured by the FDIC. In evaluating applications by holding companies to acquire savings institutions, the OTS must consider the financial and managerial resources and future prospects of the company and institution involved, the effect of the acquisition on the risk to the insurance funds, the convenience and needs of the community and competitive factors. The OTS is prohibited from approving any acquisition that would result in a multiple savings and loan holding company controlling savings institutions in more than one state, subject to two exceptions: (i) the approval of interstate supervisory acquisitions by savings and loan holding companies and (ii) the acquisition of a savings institution in another state if the laws of the state of the target savings institution specifically permit such acquisitions. The states vary in the extent to which they permit interstate savings and loan holding company acquisitions. NEW JERSEY HOLDING COMPANY REGULATION. Under the New Jersey Banking Act, a company owning or controlling a savings bank is regulated as a bank holding company. The New Jersey Banking Act defines the terms "company" and "bank holding company" as such terms are defined under the BHC Act. Each bank holding company controlling a New Jersey chartered bank or savings bank is subject to examination by the Commissioner. The Commissioner regulates, among other things, the Bank's internal business procedures as well as its deposits, lending and investment activities. The Commissioner must approve changes to the Bank's Certificate of Incorporation, establishment or relocation of branch offices, mergers and the issuance of additional stock. New Jersey law provides that, upon satisfaction of certain triggering conditions, as determined by the Commissioner, insured institutions or savings and loan holding companies located in a state which has reciprocal legislation in effect on substantially the same terms and conditions as stated under New Jersey law may acquire, or be acquired by New Jersey insured institutions or holding companies on either a regional or national basis. New Jersey law explicitly prohibits interstate branching. FEDERAL BANKING REGULATION CAPITAL REQUIREMENTS. FDIC regulations require SAIF-insured banks, such as the Bank, to maintain minimum levels of capital. The FDIC regulations define two Tiers, or classes, of capital. Tier 1 capital is comprised of the sum of common stockholders' equity (excluding the net unrealized appreciation or depreciation, net of tax, from available-for-sale securities), non-cumulative perpetual preferred stock (including any related surplus) and minority interests in consolidated subsidiaries, minus all intangible assets (other than qualifying servicing rights), and any net unrealized loss on marketable equity securities. The components of Tier 2 capital currently include cumulative perpetual preferred stock, certain perpetual preferred stock for which the dividend rate may be reset periodically, mandatory convertible securities, subordinated debt, intermediate preferred stock and allowance for possible loan losses. Allowance for possible loan losses 25 includible in Tier 2 capital is limited to a maximum of 1.25% of risk-weighted assets. Overall, the amount of Tier 2 capital that may be included in total capital cannot exceed 100% of Tier 1 capital. The FDIC regulations establish a minimum leverage capital requirement for banks in the strongest financial and managerial condition, with a rating of 1 (the highest examination rating of the FDIC for banks) under the Uniform Financial Institutions Rating System, of not less than a ratio of 3.0% of Tier 1 capital to total assets. For all other banks, the minimum leverage capital requirement is 4.0%, unless a higher leverage capital ratio is warranted by particular circumstances or risk profile of the depository institution. The FDIC regulations also require that savings banks meet a risk-based capital standard. The risk-based capital standard requires the maintenance of a ratio of total capital (which is defined as the sum of Tier 1 capital and Tier 2 capital) to risk-weighted assets of at least 8% and a ratio of Tier 1 capital to risk-weighted assets of at least 4%. In determining the amount of risk-weighted assets, all assets, plus certain off balance sheet items, are multiplied by a risk-weight of 0% to 100%, based on the risks the FDIC believes are inherent in the type of asset or item. The federal banking agencies, including the FDIC, have also adopted regulations to require an assessment of an institution's exposure to declines in the economic value of a bank's capital due to changes in interest rates when assessing the bank's capital adequacy. Under such a risk assessment, examiners will evaluate a bank's capital for interest rate risk on a case-by-case basis, with consideration of both quantitative and qualitative factors. According to the agencies, applicable considerations include the quality of the bank's interest rate risk management process, the overall financial condition of the bank and the level of other risks at the bank for which capital is needed. Institutions with significant interest rate risk may be required to hold additional capital. The agencies also issued a joint policy statement providing guidance on interest rate risk management, including a discussion of the critical factors affecting the agencies' evaluation of interest rate risk in connection with capital adequacy. The FDIC adopted a regulation effective April 1, 2002, that established minimum regulatory capital requirements for equity investments in nonfinancial companies. The regulation applies a series of marginal capital charges that range from 8% to 25% depending upon the size of the aggregate equity investment portfolio of the banking organization relative to its Tier 1 capital. The capital charge would be applied by making a deduction, which would be based on the adjusted carrying value of the equity investment from the organization's Tier 1 capital. Management does not believe this new capital requirement will have a material adverse effect upon the Company's operations. However, management will have to take this requirement into consideration should the Company, at some point in the future, decide to invest in nonfinancial companies. ACTIVITY RESTRICTIONS ON STATE-CHARTERED BANKS. Section 24 of the FDI Act, which was added by the Federal Deposit Insurance Corporation Improvement Act of 1991, generally limits the activities and investments of state-chartered FDIC insured banks and their subsidiaries to those permissible for federally chartered national banks and their subsidiaries, unless such activities and investments are specifically exempted by Section 24 or consented to by the FDIC. Section 24 provides an exception for investments by a bank in common and preferred stocks listed on a national securities exchange or the shares of registered investment companies if: o the bank held such types of investments during the 14-month period from September 30, 1990 through November 26, 1991; o the state in which the bank is chartered permitted such investments as of September 30, 1991; and o the bank notifies the FDIC and obtains approval from the FDIC to make or retain such investments. Upon receiving such FDIC approval, an institution's investment in such equity securities will be subject to an aggregate limit up to the amount of its Tier 1 capital. First Savings received approval from the FDIC to retain and acquire such equity investments subject to a maximum permissible investment equal to the lesser of 100% of First Savings' Tier 1 capital or the maximum permissible amount specified by the New Jersey Banking Act. Section 24 also provides an exception for majority 26 owned subsidiaries of a bank, but Section 24 limits the activities of such subsidiaries to those permissible for a national bank under Section 24 of the FDI Act and the FDIC regulations issued pursuant thereto, or as approved by the FDIC. Before making a new investment or engaging in a new activity not permissible for a national bank or otherwise permissible under Section 24 of the FDIC regulations thereunder, an insured bank must seek approval from the FDIC to make such investment or engage in such activity. The FDIC will not approve the activity unless the bank meets its minimum capital requirements and the FDIC determines that the activity does not present a significant risk to the FDIC insurance funds. PROMPT CORRECTIVE ACTION. Under the FDIC prompt corrective action regulations, the FDIC is required to take certain supervisory actions against undercapitalized institutions, the severity of which depends upon the institution's degree of undercapitalization. Generally, a savings institution that has a total risk-based capital of less than 8% or a leverage ratio or a Tier 1 capital ratio that is less than 4% is considered to be "undercapitalized." A savings institution that has a total risk-based capital ratio less than 6%, a Tier 1 capital ratio of less than 3% or a leverage ratio that is less than 3% is considered to be "significantly undercapitalized" and a savings institution that has a tangible capital to assets ratio equal to or less than 2% is deemed to be "critically undercapitalized." Subject to a narrow exception, the banking regulator is required to appoint a receiver or conservator for an institution that is "critically undercapitalized." The regulation also provides that a capital restoration plan must be filed with the FDIC within 45 days of the date a savings institution receives notice that it is "undercapitalized," "significantly undercapitalized" or "critically undercapitalized." Compliance with the plan must be guaranteed by any parent holding company. In addition, numerous mandatory supervisory actions become immediately applicable to the institution depending upon its category, including, but not limited to, increased monitoring by regulators and restrictions on growth, capital distributions and expansion. The FDIC could also take any one of a number of discretionary supervisory actions, including the issuance of a capital directive and the replacement of senior executive officers and directors. Under the OTS regulations, generally, a federally chartered savings association is treated as well capitalized if its total risk-based capital ratio is 10% or greater, its Tier 1 risk-based capital ratio is 6% or greater, and its leverage ratio is 5% or greater, and it is not subject to any written agreement, order or directive by the OTS to meet a specific capital level. As of December 31, 2001, First Sentinel was considered "well capitalized" by the OTS. INSURANCE OF DEPOSIT ACCOUNTS. Deposits of the Bank are presently insured by SAIF. The FDIC maintains a risk-based assessment system by which institutions are assigned to one of three categories based on their capitalization and one of three subcategories based on examination ratings and other supervisory information. An institution's assessment rate depends upon the categories to which it is assigned. Assessment rates for SAIF member institutions are determined semiannually by the FDIC and currently range from zero basis points for the healthiest institutions to 27 basis points for the riskiest. The assessment rates for our SAIF-assessable deposits are zero basis points. If the FDIC determines that assessment rates should be increased, institutions in all risk categories could be affected. The FDIC has exercised this authority several times in the past and could raise insurance assessment rates in the future. The FDIC has recently alerted insured institutions to the possibility of higher deposit insurance premiums in the second half of 2002. The FDIC stated that the higher premiums, if necessary, would likely affect only institutions with BIF insured deposits and that the amount of any increase would not exceed 5 basis points. Any increase in deposit insurance premiums could have an adverse effect upon the earnings of First Sentinel. However, the recent advisory statement from the FDIC, if acted upon, is not expected to have a material adverse effect on our earnings. SAIF-assessed deposits are also subject to assessments for payments on the bonds issued in the late 1980's by the Financing Corporation, or FICO, to recapitalize the now defunct Federal Savings and Loan Insurance Corporation. The Bank's total expense in 2001 for the assessment for deposit insurance and the FICO payments was $235,000. Insurance of deposits may be terminated by the FDIC upon a finding that the institution has engaged in unsafe or unsound practices, is in an unsafe or unsound condition to continue operations or has violated any applicable law, regulation, rule, order or condition imposed by the FDIC or the OTS. The management of the Bank does not know of any practice, condition or violation that might lead to termination of deposit insurance. 27 STANDARDS FOR SAFETY AND SOUNDNESS. The FDI Act requires each federal banking agency to prescribe for all insured depository institutions standards relating to, among other things, internal controls, information systems and audit systems, loan documentation, credit underwriting, interest rate risk exposure, asset growth, and compensation, fees and benefits and such other operational and managerial standards as the agency deems appropriate. The federal banking agencies have adopted final regulations and Interagency Guidelines Prescribing Standards for Safety and Soundness ("Guidelines") to implement these safety and soundness standards. The Guidelines set forth the safety and soundness standards that the federal banking agencies use to identify and address problems at insured depository institutions before capital becomes impaired. If the appropriate federal banking agency determines that an institution fails to meet any standard prescribed by the Guidelines, the agency may require the institution to submit to the agency an acceptable plan to achieve compliance with the standard, as required by the FDI Act. The final rule establishes deadlines for the submission and review of such safety and soundness compliance plans. COMMUNITY REINVESTMENT ACT. Under the Community Reinvestment Act ("CRA"), any insured depository institution, including First Savings, 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. The CRA requires the FDIC, in connection with its examination of a savings bank, to assess the depository 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 such institution, including applications for branch relocations, additional branches and acquisitions. Among other things, current CRA regulations replace the prior process-based assessment factors with a new evaluation system that would rate an institution based on its actual performance in meeting community needs. In particular, the new evaluation system focuses on three tests: o a lending test, to evaluate the institution's record of making loans in its service areas; o 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 o a service test, to evaluate the institution's delivery of services through its branches, ATMs and other offices. The CRA requires the FDIC to provide a written evaluation of an institution's CRA performance utilizing a four-tiered descriptive rating system and requires public disclosure of an institution's CRA rating. First Savings has received a "satisfactory" rating in its most recent CRA examination. In addition, effective April 1, 2001, the FDIC adopted regulations implementing the requirements under Gramm-Leach that insured depository institutions publicly disclose certain agreements that are in fulfillment of the CRA. The Bank has no such agreement in place at this time. FEDERAL HOME LOAN BANK SYSTEM. The Bank is a member of the FHLB system, which consists of twelve regional FHLBs, each subject to supervision and regulation by the Federal Housing Finance Board ("FHFB"). The FHLB provides a central credit facility primarily for member thrift institutions as well as other entities involved in home mortgage lending. It is funded primarily from proceeds derived from the sale of consolidated obligations of the FHLBs. It makes loans to members (i.e., advances) in accordance with policies and procedures, including collateral requirements, established by the respective boards of directors of the FHLBs. These policies and procedures are subject to the regulation and oversight of the FHFB. All long-term advances are required to provide funds for residential home financing. The FHFB has also established standards of community or investment service that members must meet to maintain access to such long-term advances. The Bank, as a member of the FHLB-NY is required to purchase and hold shares of capital stock in that FHLB in an amount at least equal to the greater of (i) 1% of the aggregate principal amount of its unpaid mortgage loans, home purchase contracts and similar obligations at the beginning of each year; (ii) 0.3% of its assets; or (iii) 5% (or such greater fraction as established by the FHLB) of its advances from the FHLB as of December 31, 2001. Pursuant to Gramm-Leach, the foregoing minimum share ownership requirements will be replaced by regulations to be promulgated by the FHFB. Gramm-Leach specifically 28 provides that the minimum requirements in existence immediately prior to the adoption of Gramm-Leach shall remain in effect until such regulations are adopted. First Sentinel is in compliance with these requirements. INSURANCE ACTIVITIES. In October, 2001, the federal banking agencies adopted regulations prohibiting depository institutions from conditioning the extension of credit to individuals upon either the purchase of an insurance product or annuity or an agreement by the consumer not to purchase an insurance product or annuity from an entity that is not affiliated with the depository institution. The regulations also require prior disclosure of this prohibition to potential insurance product or annuity customers. Management does not believe that these regulations will have a material impact on the Company's operations. PRIVACY STANDARDS. Effective July 1, 2001, financial institutions, including First Sentinel, became subject to FDIC regulations implementing the privacy protection provisions of Gramm-Leach. These regulations require First Sentinel and First Savings to disclose their privacy policy, including identifying with whom they share "nonpublic personal information," to customers at the time of establishing the customer relationship and annually thereafter. The regulations also require First Sentinel and First Savings to provide their customers with initial and annual notices that accurately reflect its privacy policies and practices. In addition, First Sentinel and First Savings are required to provide their customers with the ability to "opt-out" of having First Sentinel and First Savings share their non-public personal information with unaffiliated third parties before they can disclose such information, subject to certain exceptions. The implementation of these regulations did not have a material adverse effect on the Company's operations. INTERNET BANKING. Technological developments are dramatically altering the ways in which most companies, including financial institutions, conduct their business. The growth of the Internet is prompting banks to reconsider business strategies and adopt alternative distribution and marketing systems. The federal bank regulatory agencies have conducted seminars and published materials targeted to various aspects of internet banking, and have indicated their intention to reevaluate their regulations to ensure that they encourage banks' efficiency and competitiveness consistent with safe and sound banking practices. No assurance can be given that the federal bank regulatory agencies will not adopt new regulations that will materially affect First Savings' Internet operations or restrict any such further operations. TRANSACTIONS WITH AFFILIATES OF FIRST SAVINGS. First Savings is subject to the affiliate and insider transaction rules set forth in Sections 23A, 23B, 22(g) and 22(h) of the Federal Reserve Act, and the regulations of the FRB promulgated thereunder. These provisions, among other things, prohibit or limit a savings banks from extending credit to, or entering into certain transactions with, its affiliates (which for First Savings would include First Sentinel) and principal stockholders, directors and executive officers of First Savings. In addition, provisions of the BHCA prohibit extensions of credit to a bank's insiders and their related interests by any other institution that has a correspondent banking relationship with the bank, unless such extension of credit is on substantially the same terms as those prevailing at the time for comparable transactions with other persons and does not involve more than the normal risk of repayment or present other unfavorable features. Provisions of the New Jersey Banking Act impose conditions and limitations on the liabilities to a savings bank of its directors and executive officers and of corporations and partnerships controlled by such persons that are comparable in many respects to the conditions and limitations imposed on the loans and extensions of credit to insiders and their related interests under federal law and regulation, as discussed above. The New Jersey Banking Act also provides that a savings bank that is in compliance with the applicable federal laws and regulations is deemed to be in compliance with such provisions of the New Jersey Banking Act. NEW JERSEY BANKING REGULATION ACTIVITY POWERS. The Bank derives its lending, investment and other activity powers primarily from the applicable provisions of the New Jersey Banking Act and its related regulations. Under these laws and regulations, savings banks, including First Savings, generally may invest in: (1) real estate mortgages; 29 (2) consumer and commercial loans; (3) specific types of debt securities, including certain corporate debt securities and obligations of federal, state and local governments and agencies; (4) certain types of corporate equity securities; and (5) certain other assets. A savings bank may also invest pursuant to a "leeway" power that permits investments not otherwise permitted by the New Jersey Banking Act. Such investments must comply with a number of limitations on the individual and aggregate amounts of the investments. A savings bank may also exercise trust powers upon approval of the Department. New Jersey savings banks may also exercise any power authorized for federally chartered savings banks unless the Department determines otherwise. The exercise of these lending, investment and activity powers are limited by federal law and the related regulations. LOANS-TO-ONE-BORROWER LIMITATIONS. With certain specified exceptions, a New Jersey chartered savings bank may not make loans or extend credit to a single borrower and to entities related to the borrower in an aggregate amount that would exceed 15% of the bank's capital funds. A savings bank may lend an additional 10% of the bank's capital funds if secured by collateral meeting the requirements of the New Jersey Banking Act. The Bank currently complies with applicable loans-to-one-borrower limitations. DIVIDENDS. Under the New Jersey Banking Act, a stock savings bank may declare and pay a dividend on its capital stock only to the extent that the payment of the dividend would not impair the capital stock of the savings bank. In addition, a stock savings bank may not pay a dividend if the surplus of the savings bank would, after the payment of the dividend, be reduced unless after such reduction the surplus was 50% or more of the bank's capital stock. MINIMUM CAPITAL REQUIREMENTS. Regulations of the Department impose on New Jersey chartered depository institutions, including the Bank, minimum capital requirements similar to those imposed by the FDIC on insured state banks. EXAMINATION AND ENFORCEMENT. The New Jersey Department of Banking and Insurance may examine the Bank whenever it deems an examination advisable. The Commissioner will examine the Bank at least every two years. The Department may order any savings bank to discontinue any violation of law or unsafe or unsound business practice and may direct any director, officer, attorney or employee of a savings bank engaged in an objectionable activity, after the Department has ordered the activity to be terminated, to show cause at a hearing before the Department why such person should not be removed. FEDERAL RESERVE SYSTEM The Federal Reserve Board regulations require savings institutions to maintain non-interest earning reserves against their transaction accounts (primarily NOW and regular checking accounts). The Federal Reserve Board regulations generally require that reserves be maintained against aggregate transaction accounts as follows: for accounts aggregating $41.3 million or less (subject to adjustment by the Federal Reserve Board) the reserve requirement was 3%; and for accounts aggregating greater than $41.3 million, the reserve requirement was $1.2 million plus 10% (subject to adjustment by the Federal Reserve Board) against that portion of total transaction accounts in excess of $41.3 million. The first $5.7 million of otherwise reservable balances (subject to adjustments by the Federal Reserve Board) were exempted from the reserve requirements. The Bank maintained compliance with the foregoing requirements. Because required reserves must be maintained in the form of either vault cash, a non-interest bearing account at a Federal Reserve Bank or a pass-through accounts as defined by the Federal Reserve Board, the effect of this reserve requirement is to reduce the Bank's interest-earning assets. THE USA PATRIOT ACT In response to the events of September 11th, President George W. Bush signed into law the Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001, or the USA PATRIOT Act, on October 26, 2001. The USA PATRIOT Act gives the federal government new powers to address terrorist threats through enhanced domestic security measures, expanded surveillance powers, 30 increased information sharing, and broadened anti-money laundering requirements. By way of amendments to the Bank Secrecy Act, Title III of the USA PATRIOT Act takes measures intended to encourage information sharing among bank regulatory agencies and law enforcement bodies. Further, certain provisions of Title III impose affirmative obligations on a broad range of financial institutions, including banks, thrifts, brokers, dealers, credit unions, money transfer agents and parties registered under the Commodity Exchange Act. Among other requirements, Title III of the USA PATRIOT Act imposes the following requirements with respect to financial institutions: Pursuant to Section 352, all financial institutions must establish anti-money laundering programs that include, at minimum: (i) internal policies, procedures, and controls, (ii) specific designation of an anti-money laundering compliance officer, (iii) ongoing employee training programs, and (iv) an independent audit function to test the anti-money laundering program. Rules promulgated under this Section are due by April 24, 2002. Section 326 of the Act authorizes the Secretary of the Department of Treasury, in conjunction with other bank regulators, to issue regulations by October 26, 2002 that provide for minimum standards with respect to customer identification at the time new accounts are opened. Section 312 of the Act requires financial institutions that establish, maintain, administer, or manage private banking accounts or correspondent accounts in the United States for non-United States persons or their representatives (including foreign individuals visiting the United States) to establish appropriate, specific, and, where necessary, enhanced due diligence policies, procedures, and controls designed to detect and report money laundering. Rules promulgated under this Section are due by April 24, 2002, to be effective by July 23, 2002. Effective December 25, 2001, financial institutions are prohibited from establishing, maintaining, administering or managing correspondent accounts for foreign shell banks (foreign banks that do not have a physical presence in any country), and will be subject to certain recordkeeping obligations with respect to correspondent accounts of foreign banks. Bank regulators are directed to consider a holding company's effectiveness in combating money laundering when ruling on Federal Reserve Act and Bank Merger Act applications. Financial institutions must report coin or currency transactions in excess of $10,000 received in a non-financial trade or business. ITEM 2. PROPERTIES The Company conducts its business through its main office and 22 full service branch offices, all located in central New Jersey. The following table sets forth certain information concerning the main office and each branch office of the Company at December 31, 2001. The aggregate net book value of the Company's premises and equipment was $16.0 million at December 31, 2001. Location Date Leased or Acquired Leased or Owned -------- ----------------------- --------------- MAIN OFFICE: 339 State Street 4/29 Owned Perth Amboy, NJ 08861(1) CORPORATE HEADQUARTERS: 5/94 Owned 1000 Woodbridge Center Drive Woodbridge, NJ 07095 BRANCH OFFICES: 213 Summerhill Road 8/97 Leased East Brunswick, NJ 08816 980 Amboy Avenue 6/74 Owned Edison, NJ 08837 31 Location Date Leased or Acquired Leased or Owned -------- ----------------------- --------------- 2100 Oak Tree Road 4/84 Owned Edison, NJ 08820 206 South Avenue 9/91 Owned Fanwood, NJ 07023 33 Lafayette Road 4/84 Leased Fords, NJ 08863 Rt. 35 & Bethany Road 1/91 Leased Hazlet, NJ 07730 301 Raritan Avenue 5/98 Owned Highland Park, NJ 08904 101 New Brunswick Avenue 6/76 Leased Hopelawn, NJ 08861 1220 Green Street 11/84 Owned Iselin, NJ 08830 1225 Brunswick Avenue 5/92 Owned Lawrenceville, NJ 08648 (2) 599 Middlesex Avenue 1/95 Leased Metuchen, NJ 08840 (2) 1580 Rt. 35 South 4/95 Leased Middletown, NJ 07748 97 North Main Street 1/95 Owned Milltown, NJ 08850 (2) Prospect Plains and Applegarth Roads 7/76 Owned Monroe Township, NJ 08512 Rt. 9 & Ticetown Road 6/79 Leased Old Bridge, NJ 08857 100 Stelton Road 9/91 Leased Piscataway, NJ 08854 Washington Avenue & Davis Lane 7/71 Owned South Amboy, NJ 08879 6 Jackson Street 8/65 Owned South River, NJ 08882 371 Spotswood - Englishtown Road 5/98 Owned Spotswood, NJ 08884 325 Amboy Avenue 1/70 Owned Woodbridge, NJ 07095 780 Easton Avenue 12/01 Owned Somerset, NJ 08873 (1) Includes an adjacent administrative building. (2) Acquired/leased in conjunction with the purchase of deposits. ITEM 3. LEGAL PROCEEDINGS The Company is involved in various legal actions arising in the normal course of its business. In the opinion of management, the resolution of these legal actions is not expected to have a material adverse effect on the Company's results of operations. 32 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS There were no matters submitted to a vote of stockholders during the quarter ended December 31, 2001. PART II ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS The information contained in the section captioned "Market Information for Common Stock" on page 35 of the 2001 Annual Report to Stockholders is incorporated herein by reference. At December 31, 2001, 30,940,117 shares of the Company's outstanding common stock was held of record by approximately 2,828 persons or entities, not including the number of persons or entities holding stock in nominee or stock name through various brokers or banks. ITEM 6. SELECTED FINANCIAL DATA The information contained in the section captioned "Consolidated Financial Highlights" on page 9 of the 2001 Annual Report to Stockholders is incorporated herein by reference. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The information contained in the section captioned "Management's Discussion and Analysis of Financial Condition and Comparison of Operating Results" on pages 10 through 15 of the 2001 Annual Report to Stockholders is incorporated herein by reference. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK Disclosure relating to market risk is included in "Management's Discussion and Analysis of Financial Condition and Results of Operations," on pages 10 through 15 of the 2001 Annual Report to Stockholders and is incorporated herein by reference. ITEM 8. FINANCIAL STATEMENTS The Company's consolidated financial statements, together with the report thereon by KPMG LLP, are found in the 2001 Annual Report to Stockholders on pages 10 through 34 and are incorporated herein by reference. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. PART III ITEM 10. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; COMPLIANCE WITH SECTION 16(A) OF THE EXCHANGE ACT OF THE REGISTRANT The disclosures required by Item 10 will be included under the caption "Information With Respect to Nominees, Continuing Directors and Executive Officers" in the Company's proxy statement for the 2002 Annual Meeting of Stockholders ("2002 Proxy Statement") to be filed with the Securities and Exchange Commission on or about April 22, 2002, and are incorporated herein by reference. ITEM 11. EXECUTIVE COMPENSATION The disclosures required by Item 11 will be included under the captions "Directors' Compensation" and "Executive Compensation" (excluding the Compensation Committee Report) in the 2002 Proxy Statement to be filed with the Securities and Exchange Commission on or about April 22, 2002, and are incorporated herein by reference. 33 ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT BENEFICIAL OWNERSHIP OF FIRST SENTINEL COMMON STOCK Disclosure relating to Security Ownership of Certain Beneficial Owners and Management is incorporated herein by reference to the 2002 Proxy Statement to be filed with the Securities and Exchange Commission on or about April 22, 2002 under the captions "Security Ownership of Certain Beneficial Owners" and "Information With Respect to Nominees, Continuing Directors and Executive Officers." ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS The disclosures required by Item 13 will be included under the caption "Transactions With Certain Related Persons" in the 2002 Proxy Statement to be filed with the Securities and Exchange Commission on or about April 22, 2002, and are incorporated herein by reference. PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K (a) The following documents are filed as part of this report: (1) Financial statements. The Consolidated Financial Statements and Independent Auditors' Report for the year ended December 31, 2001, included in the Annual Report, listed below, are incorporated herein by reference. CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION AT DECEMBER 31, 2001 AND 2000 (ANNUAL REPORT - PAGE 16). CONSOLIDATED STATEMENTS OF INCOME FOR THE YEARS ENDED DECEMBER 31, 2001, 2000 AND 1999 (ANNUAL REPORT - PAGE 17). CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY FOR THE YEARS ENDED DECEMBER 31, 2001, 2000, AND 1999 (ANNUAL REPORT - PAGE 18). CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED DECEMBER 31, 2001, 2000 AND 1999 (ANNUAL REPORT - PAGE 19). NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (ANNUAL REPORT - PAGES 20 THROUGH 33). INDEPENDENT AUDITORS' REPORT (ANNUAL REPORT - PAGE 34). The remaining information appearing in the Annual Report of Stockholders is not deemed to be filed as part of this report, except as provided herein. (2) Financial Statement Schedules. All schedules have been omitted because the required information is either inapplicable or included in the Notes to Consolidated Financial Statements. (3) Exhibits The following exhibits are filed as part of this report. ============================================================== Exhibit Number Description Reference -------------------------------------------------------------- 3.1 Certificate of Incorporation of First Sentinel Bancorp, Inc. a 3.2 Bylaws of First Sentinel Bancorp, Inc. a 4.0 Stock Certificate of First Sentinel Bancorp, Inc. b 4.1 Certificate of Designations, Preferences and Rights of Series A Junior Participating Preferred Stock c ============================================================== 34 ============================================================== Exhibit Number Description Reference -------------------------------------------------------------- 4.2 Rights Agreement by and between First Sentinel Bancorp, Inc. and Registrar and Transfer Company, as Rights Agent c 4.3 Form of Right Certificate c 10.1 First Sentinel Bancorp, Inc. 1996 Omnibus Incentive Plan b 10.2 First Sentinel Bancorp, Inc. Amended and Restated 1998 Stock-based Incentive Plan d 10.3 First Sentinel Bancorp, Inc. 1986 Acquisition Stock Option Plan e 10.4 First Sentinel Bancorp, Inc. 1993 Acquisition Stock Option Plan e 10.5 First Sentinel Bancorp, Inc. 1997 Acquisition Stock Option Plan e 10.6 First Savings Bank Deferred Fee Plan f 10.7 First Savings Bank, SLA Supplemental Executive Retirement Plan b 10.8 First Savings Bank Supplemental Executive Retirement Plan II f 10.9 First Savings Bank Non-Employee Director Retirement Plan f 10.10 Form of Employment Agreements between First Sentinel Bancorp, Inc. and (i) John P. Mulkerin and (ii) Christopher Martin f 10.11 Form of Employment Agreements between First Savings Bank and (i) John P. Mulkerin and (ii) Christopher Martin f 10.12 Form of Two-year Change in Control Agreement between First Savings Bank and certain executive officers f 10.13 Form of Three-year Change in Control Agreement between First Savings Bank and certain executive officers f 10.14 First Savings Bank, SLA Employee Severance Compensation Plan b 11.0 Computation of per share earnings g 13.0 Portions of the 2001 Annual Report to Filed Stockholders herein 21.0 Subsidiaries of Registrant incorporated by reference herein to Part I - Subsidiaries 23.0 Consent of KPMG LLP Filed herein -------------------------------------------------------------- a Previously filed and incorporated herein by reference to the December 31, 1998 Annual Report on Form 10-K of First Sentinel Bancorp, Inc. (File No. 000-23809) dated March 30, 1999. b Previously filed and incorporated herein by reference to the Exhibits to the Registration Statement on Form S-1 (File No. 333-42757) of First Sentinel Bancorp, Inc. (formerly known as First Source Bancorp, Inc.) dated December 19, 1997, and all amendments thereto. c Previously filed and incorporated herein by reference to the Exhibits to the Registration Statement on Form 8-A (File No. 000-23809) of First Sentinel Bancorp, Inc. dated December 20, 2001. d Previously filed and incorporated herein by reference to the Proxy Statement for the 1999 Annual Meeting of Stockholders of First Sentinel Bancorp, Inc. (File No. 000-23809) filed on March 30, 1999. e Previously filed and incorporated herein by reference to the December 31, 1999 Annual Report on Form 10-K of First Sentinel Bancorp, Inc. (File No. 000-23809) dated March 30, 2000. f Previously filed and incorporated herein by reference to the December 31, 2000 Annual Report on Form 10-K of First Sentinel Bancorp, Inc. (File No. 000-23809) dated March 30, 2001. g Filed herein as a component of Exhibit 13.0, under Footnote One of the Notes to Consolidated Financial Statements. 35 (b) Reports on Form 8-K. On December 4, 2001, the Company filed a report on Form 8-K pursuant to Items 5 and 7 regarding the sale of $25.0 million of trust preferred securities. On December 20, 2001, the Company filed a report on Form 8-K pursuant to Items 5 and 7 regarding senior officer appointments. On December 20, 2001, the Company filed a report on Form 8-K pursuant to Items 5 and 7 regarding the adoption of a stockholder rights plan. 36 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. Date: April 1, 2002 FIRST SENTINEL BANCORP, INC. JOHN P. MULKERIN ---------------- John P. Mulkerin President, Chief Executive Officer and Director Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated. Signature Title Date - --------- ----- ---- PHILIP T. RUEGGER, JR. Chairman of the Board April 1, 2002 - --------------------------- Philip T. Ruegger, Jr. JOHN P. MULKERIN President, Chief Executive April 1, 2002 - --------------------------- Officer and Director John P. Mulkerin CHRISTOPHER P. MARTIN Executive Vice President, April 1, 2002 - --------------------------- Chief Operating Officer Christopher P. Martin and Director THOMAS M. LYONS Senior Vice President, April 1, 2002 - --------------------------- Chief Financial Officer Thomas M. Lyons JOSEPH CHADWICK Director April 1, 2002 - --------------------------- Joseph Chadwick GEORGE T. HORNYAK, JR. Director April 1, 2002 - --------------------------- George T. Hornyak, Jr. KEITH H. McLAUGHLIN Director April 1, 2002 - --------------------------- Keith H. McLaughlin JEFFRIES SHEIN Director April 1, 2002 - --------------------------- Jeffries Shein WALTER K. TIMPSON Director April 1, 2002 - --------------------------- Walter K. Timpson 37 EX-13 3 c23758_13.txt Exhibit 13 CONSOLIDATED FINANCIAL HIGHLIGHTS The following selected financial data and selected operating data should be read in conjunction with the consolidated financial statements of the Company and accompanying notes thereto, which are presented elsewhere herein.
December 31, 2001 2000 1999 1998 1997 - -------------------------------------------------------------------------------------------------------------------------- (Dollars in thousands) SELECTED FINANCIAL DATA: Total assets $2,138,919 $1,968,709 $1,904,696 $1,855,058 $1,575,332 Loans receivable, net 1,242,779 1,184,802 1,016,116 854,697 715,810 Investment securities -- -- -- -- 127,583 Investment securities available for sale 107,988 234,970 213,590 242,197 78,443 Other interest-earning assets (1) 40,541 40,693 37,175 27,652 28,795 Mortgage-backed securities, net -- -- -- -- 369,920 Mortgage-backed securities available for sale 642,716 447,022 575,159 661,881 200,530 Deposits 1,315,264 1,219,336 1,213,724 1,268,119 1,227,304 Borrowed funds 545,814 505,955 422,000 264,675 186,665 Preferred capital securities 25,000 -- -- -- -- Stockholders' equity 230,127 222,163 244,580 299,819 144,893 ========================================================================================================================== Year Ended December 31, 2001 2000 1999 1998 1997 - -------------------------------------------------------------------------------------------------------------------------- (Dollars in thousands, except per share data) SELECTED OPERATING DATA: Interest income $ 133,585 $ 136,789 $ 123,388 $ 119,173 $ 109,241 Interest expense 74,684 78,872 65,006 65,386 63,558 - -------------------------------------------------------------------------------------------------------------------------- Net interest income 58,901 57,917 58,382 53,787 45,683 Provision for loan losses 650 1,441 1,650 1,469 1,200 - -------------------------------------------------------------------------------------------------------------------------- Net interest income after provision for loan losses 58,251 56,476 56,732 52,318 44,483 Non-interest income (2) 4,455 2,269 3,631 4,696 3,383 Non-interest expense (3) 25,934 24,678 24,556 26,577 24,210 - -------------------------------------------------------------------------------------------------------------------------- Income before income tax expense 36,772 34,067 35,807 30,437 23,656 Income tax expense 11,461 11,099 12,155 10,944 8,686 - -------------------------------------------------------------------------------------------------------------------------- Net income $ 25,311 $ 22,968 $ 23,652 $ 19,493 $ 14,970 ========================================================================================================================== Basic earnings per share (4) $0.84 $0.69 $0.60 $0.46 $0.35 ========================================================================================================================== Diluted earnings per share (4) $0.82 $0.68 $0.59 $0.46 $0.35 ========================================================================================================================== Dividends per share, as adjusted (4) $0.30 $0.24 $0.37 $0.15 $0.11 ========================================================================================================================== At or For the Year Ended December 31, 2001 2000 1999 1998 1997 - -------------------------------------------------------------------------------------------------------------------------- SELECTED FINANCIAL RATIOS: Return on average assets (2) (3) 1.25% 1.17% 1.25% 1.12% 0.96% Return on average stockholders' equity (2) (3) 11.09 10.17 7.99 7.41 10.88 Average stockholders' equity to average assets 11.31 11.52 15.69 15.07 8.86 Stockholders' equity to total assets 10.76 11.29 12.84 16.16 9.20 ==========================================================================================================================
(1) Includes federal funds sold and investment in the stock of the Federal Home Loan Bank of New York ("FHLB-NY"). (2) Includes the effect of the sale of the Eatontown branch that realized a $1.1 million gain, or $687,000 net of tax, in 1998. (3) Includes the effect of non-recurring items in 1998 and 1997. The non-recurring item in 1998 was the $2.1 million, or $1.7 million net of tax, merger-related charge for the acquisition of Pulse Bancorp. The non-recurring item in 1997 was an impairment writedown of core deposit goodwill totaling $1.3 million, or $867,000 net of tax. (4) Per share data gives effect to all stock dividends and splits and the exchange of 3.9133 shares of Company Common Stock for each share of Bank Common Stock in connection with the 1998 conversion and reorganization of First Savings Bancshares, MHC. First Sentinel Bancorp, Inc. and Subsidiaries 9 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND COMPARISON OF OPERATING RESULTS GENERAL Statements contained in this report that are not historical fact are forward-looking statements, as that term is defined in the Private Securities Litigation Reform Act of 1995. Such statements may be characterized as management's intentions, hopes, beliefs, expectations or predictions of the future. It is important to note that such forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from those projected in such forward-looking statements. Factors that could cause future results to vary materially from current expectations include, but are not limited to, changes in interest rates, economic conditions, deposit and loan growth, real estate values, loan loss provisions, competition, customer retention, changes in accounting principles, policies or guidelines and legislative and regulatory changes. COMPARISON OF FINANCIAL CONDITION AT DECEMBER 31, 2001 AND DECEMBER 31, 2000 ASSETS. Total assets increased by $170.2 million, or 8.7%, to $2.1 billion at December 31, 2001. The change in assets consisted primarily of increases in loans receivable, mortgage-backed securities ("MBS") available for sale, other assets, and cash and cash equivalents; partially offset by decreases in investment securities available for sale and interest and dividends receivable. Loans receivable, net totaled $1.2 billion at December 31, 2001, representing an increase of $58.0 million, or 4.9%, from December 31, 2000. Loan originations totaled $486.6 million for 2001, compared to $329.2 million for 2000. The Company experienced an increase in loan applications and originations in 2001 compared with 2000, primarily in one-to-four family and multi-family residential loans, as a result of the lower interest rate environment. Fixed-rate, one-to-four family first mortgage loan originations totaled $113.1 million, or 23.2% of total production, while adjustable-rate, one-to-four family mortgage loans accounted for $113.7 million, or 23.4% of total originations for 2001. Consumer loan originations, including home equity loans and credit lines, totaled $113.5 million, or 23.3% of total originations, while construction lending totaled $86.4 million, or 17.8% of total originations. Commercial real estate, commercial and multi-family loan originations totaled $59.9 million, or 12.3% of total originations. Mortgage loans purchased totaled $19.1 million in 2001, compared with $87.8 million in 2000. Loans purchased were primarily adjustable-rate, one-to-four family mortgages, underwritten internally, with higher rates than those currently offered by the Company. Repayment of principal on loans totaled $398.7 million for 2001, compared to $237.6 million for 2000. Included in the repayment of principal on loans, mortgage loan refinancing totaled $72.0 million for 2001, compared with $8.0 million for 2000. The Company also sold $46.6 million of primarily fixed-rate, one-to-four family mortgage loans during 2001 as part of its ongoing interest rate risk management process. At December 31, 2001, one-to-four family mortgage loans comprised 68.4% of total loans receivable, net of loans in process, while commercial real estate, multi-family and construction loans comprised 20.9% and home equity loans accounted for 9.0% of the loan portfolio. In comparison, at December 31, 2000, one-to-four family mortgage loans comprised 73.7% of total loans receivable, net of loans in process, while commercial real estate, multi-family and construction loans comprised 15.4% and home equity loans accounted for 9.5% of the loan portfolio. The Company intends to continue to prudently expand its non-residential mortgage lending activities while maintaining its underwriting standards and commitment to community-based lending. Loans receivable, net as a percentage of total assets declined slightly to 58.1% at December 31, 2001, compared to 60.2% at December 31, 2000, despite the growth in the loan portfolio, as a result of the leveraged growth in the MBS portfolio and the purchase of $25.0 million of bank owned life insurance ("BOLI"). While management intends to continue emphasizing the origination of loans, the future levels of loan originations and repayments will be significantly influenced by external interest rates and other economic factors outside of the control of the Company. The Company expects that origination and prepayment activity will slow somewhat in 2002 as interest rates stabilize, loan refinancing diminishes and competition increases. MBS available for sale increased $195.7 million, or 43.8%, to $642.7 million at December 31, 2001, from $447.0 million at December 31, 2000. The increase was primarily due to purchases of $549.1 million exceeding sales and principal repayments of $214.3 million and $146.9 million, respectively, for 2001. The Company executed several leveraged securities purchases during 2001, acquiring approximately $138.5 million in MBS which were funded by longer-term borrowings. Leveraged growth has a positive impact on the Company's net interest income, earnings and return on equity, while causing some compression of its net interest margin. The Company will continue to evaluate leverage strategies in the future, giving appropriate consideration to current market and economic conditions along with balance sheet composition. 10 First Sentinel Bancorp, Inc. and Subsidiaries Other assets increased $26.2 million, to $37.6 million at December 31, 2001, compared with $11.3 million at December 31, 2000. The increase was primarily attributable to the purchase of $25.0 million of BOLI during the second quarter of 2001. BOLI provides an attractive tax-exempt return to the Company and is used to fund various employee benefit costs. Cash and cash equivalents increased $18.8 million, or 53.4%, to $53.9 million as of December 31, 2001, from $35.1 million at December 31, 2000. Investment securities available for sale decreased $127.0 million, or 54.0%, to $108.0 million as of December 31, 2001, from $235.0 million at December 31, 2000. For the year 2001, purchases totaled $59.3 million, while sales, calls and maturities totaled $192.8 million. Purchases during 2001 consisted primarily of debt securities issued by U.S. corporations and government-sponsored agencies. Lower market interest rates resulted in a significant increase in the exercise of call provisions on U.S. government agency debt securities during 2001. Proceeds from sales, calls and maturities were used to fund loan growth, purchase BOLI, purchase MBS and repurchase the Company's common stock. LIABILITIES. Deposits increased $95.9 million, or 7.9%, to $1.3 billion at December 31, 2001, with $90.4 million of the increase attributable to core deposits, consisting of checking, savings and money market accounts. At December 31, 2001, core deposits accounted for 50.3% of total deposits, up from 46.8% at December 31, 2000. While deposit growth was undoubtedly aided by uncertainty in the equity markets in 2001, the Company intends to continue its emphasis on core deposit relationships, differentiating itself through exemplary service and comprehensive product offerings. Borrowed funds increased $39.9 million, or 7.9%, to $545.8 million at December 31, 2001. The increased borrowed funds were used primarily to fund loan originations and leverage securities purchases. PREFERRED CAPITAL SECURITIES. In November 2001, the Company issued $25.0 million of Company-obligated mandatorily redeemable preferred capital securities through special purpose business trusts. Of the $25.0 million of preferred capital securities sold, $12.5 million have a floating rate of interest, which resets semi-annually, equal to 6-month LIBOR plus 3.75%. The floating rate, however, may not exceed 11.0% in the first five years. The remaining $12.5 million of preferred capital securities have a fixed interest rate of 9.95%. Preferred capital securities provide a cost efficient means of accessing the capital markets while providing additional Tier 1 regulatory capital. Proceeds from the issuance of the securities are being used for general corporate purposes, including the payment of dividends on and repurchases of the Company's common stock. STOCKHOLDERS' EQUITY. Stockholders' equity increased $8.0 million for 2001. The Company repurchased $22.2 million of its common stock during 2001 as part of its ongoing capital management strategy. This represented 1.9 million shares at an average cost of $11.50 per share. Stockholders' equity was further reduced by cash dividends declared totaling $9.1 million in 2001. These decreases were offset by net income of $25.3 million, an increase in accumulated other comprehensive income of $10.7 million as a result of the increase in market values of investment securities and MBS available for sale, net of related tax benefit, and amortization of benefit plans totaling $2.1 million. Book value and tangible book value per share were $7.44 and $7.26, respectively, at December 31, 2001, compared to $6.78 and $6.59, respectively, at December 31, 2000. COMPARISON OF OPERATING RESULTS FOR THE YEARS ENDED DECEMBER 31, 2001 AND DECEMBER 31, 2000 RESULTS OF OPERATIONS. For the year ended December 31, 2001, basic and diluted earnings per share totaled $0.84 and $0.82, respectively, representing increases of 21.7% and 20.1%, respectively, over basic and diluted earnings per share of $0.69 and $0.68, respectively, for the year ended December 31, 2000. Net income for 2001 totaled $25.3 million, an increase of $2.3 million, or 10.2%, compared with net income of $23.0 million for 2000. Return on average equity improved to 11.09% for 2001, from 10.17% for 2000. Return on average assets improved to 1.25% for 2001, from 1.17% for 2000. INTEREST INCOME. Interest income decreased $3.2 million, or 2.3%, to $133.6 million for 2001, compared to $136.8 million for 2000. Interest on loans increased $5.5 million, or 6.5%, to $89.7 million for 2001, compared to $84.2 million for 2000. The average balance of the loan portfolio for 2001 increased to $1.2 billion, from $1.1 billion for 2000, while the average yield on the portfolio decreased to 7.35% for 2001, from 7.51% for 2000. Interest on investment securities and MBS available for sale decreased $8.7 million, or 16.6%, to $43.9 million for 2001, compared to $52.6 million for 2000. The average balance of investment securities and MBS available for sale totaled $735.6 million, with an average yield of 5.97% for 2001, compared with an average balance of $818.0 million, with an average yield of 6.43% for 2000. The decline in yield was attributable to the reinvestment of cash flows from the repayment and prepayment of MBS and callable agency securities at lower market interest rates throughout 2001, as well as the downward repricing of variable rate investments. First Sentinel Bancorp, Inc. and Subsidiaries 11 INTEREST EXPENSE. Interest expense decreased $4.2 million, or 5.3%, to $74.7 million for 2001, compared to $78.9 million for 2000. Interest expense on deposits decreased $771,000, or 1.6%, to $47.2 million for 2001, compared to $48.0 million for 2000. The decreased interest expense on deposits was primarily attributable to a reduction in interest paid on certificates of deposit of $1.0 million, partially offset by increased interest paid on NOW, money market and savings accounts resulting from increased deposit levels. The average cost of certificates of deposit for 2001 was 5.11%, compared to 5.38% for 2000. The average balance of certificates of deposit was $660.1 million for 2001, compared with $646.8 million for 2000. The average balance of core deposits was $603.5 million for 2001, compared to $568.8 million for 2000. The average interest cost on interest-bearing core deposits for 2001 was 2.44%, compared to 2.54% for 2000. Non-interest-bearing accounts averaged $53.4 million for 2001, up from $48.6 million for 2000. Average core deposits to total average deposits improved to 47.8% for 2001 from 46.8% for 2000. Interest on borrowed funds for 2001 decreased $3.4 million, or 11.1%, to $27.5 million, compared to $30.9 million for 2000. The average interest cost of borrowed funds declined to 5.54% for 2001, from 6.14% for 2000. Average borrowings for 2001 totaled $495.7 million, compared with $503.4 million for 2000. NET INTEREST INCOME. Net interest income increased $984,000, or 1.7%, to $58.9 million for 2001, compared to $57.9 million for 2000. The increase was due to the changes in interest income and interest expense described previously. Changes in earning asset yields and interest-bearing liability costs reflect downward interest rate movements throughout 2001, as the Federal Reserve moved to reduce the federal funds rate eleven times, from 6.5% at January 1, 2001 to 1.75% at December 31, 2001. Net interest spread, defined as the difference between the average yield on interest-earning assets and the average cost of interest-bearing liabilities, increased 12 basis points to 2.45% in 2001, from 2.33% in 2000. This increase was due to a decrease in the cost of interest-bearing liabilities to 4.38% for 2001, from 4.72% in 2000, partially offset by a decrease in the yield on interest-earning assets to 6.83%, from 7.05% for the same respective periods. The net interest margin, defined as net interest income divided by average total interest-earning assets, increased two basis points to 3.01% in 2001, compared to 2.99% in 2000. Net interest margin growth was constrained in 2001 by $138.5 million in leveraged securities purchases, which enhanced earnings and return on equity, but reduced net interest margin. In addition, the purchase of $25.0 million of BOLI also contributed to earnings and return on equity growth but reduced earning assets and related net interest income. BOLI is classified as other assets on the statement of financial condition and related income is classified as non-interest income. $22.2 million in common stock repurchases during 2001 further reduced earning assets and impacted net interest margin. The Company anticipates some net interest margin expansion in 2002 as a result of the favorable liability repricing which occurred throughout 2001, as well as projected continued downward repricing of time deposits in 2002. PROVISION FOR LOAN LOSSES. The provision for loan losses decreased $791,000, or 54.9%, to $650,000 for 2001, compared to $1.4 million for 2000. The provision was based upon management's review and evaluation of the size and composition of the loan portfolio, actual loan loss experience, level of delinquencies, general market and economic conditions, detailed analysis of individual loans for which full collectibility may not be assured, and the existence and net realizable value of the collateral and guarantees securing the loans. Although management uses the best information available, the level of the allowance for loan losses remains an estimate which is subject to significant judgment and short-term change. Various regulatory agencies, as an integral part of their examination process, periodically review the Company's allowance for loan losses. Such agencies may require the Company to make additional provisions for loan losses based upon information available to them at the time of their examination. Furthermore, the majority of the Company's loans are secured by real estate in the State of New Jersey. Accordingly, the collectibility of a substantial portion of the carrying value of the Company's loan portfolio is susceptible to changes in local market conditions and may be adversely affected should real estate values decline or the Central New Jersey area experience an adverse economic shock. Future adjustments to the allowance may be necessary due to economic, operating, regulatory and other conditions beyond the Company's control. The allowance for loan losses represented 1.03% of total loans, or 6.99 times non-performing loans at December 31, 2001, compared with 1.03% of total loans, or 5.17 times non-performing loans at December 31, 2000. In management's opinion, the allowance for loan losses, totaling $12.9 million is adequate to cover losses inherent in the portfolio at December 31, 2001. NON-INTEREST INCOME. Non-interest income, consisting primarily of deposit product fees and service charges, gains and losses on loans and securities sold, income on BOLI and loan servicing fees, increased $2.2 million, or 96.3%, to $4.5 million for 2001, compared to $2.3 million for 2000. Net gains on sales of loans and securities totaled $587,000 for 2001, compared to net losses totaling $876,000 for 2000. Proceeds from the sales of loans and securities in 2001 were used to purchase BOLI, repurchase the Company's common stock and fund current operations. Sales of loans and securities and related gains and losses are dependent on market conditions, as well as the Company's liquidity and risk management needs. Income attributable to the increase in cash surrender value of BOLI, purchased in June 2001, amounted to $791,000 for the year. NON-INTEREST EXPENSE. Non-interest expense increased $1.2 million, or 5.1%, to $25.9 million for 2001, compared to $24.7 million for 2000. The increase was primarily 12 First Sentinel Bancorp, Inc. and Subsidiaries attributable to increased healthcare and other benefit costs, including non-cash compensation expense related to the Company's Employee Stock Ownership Plan ("ESOP") totaling $1.2 million in 2001 compared to $932,000 in 2000. The increase in the ESOP expense was a result of the Company's stock price appreciation during 2001, as ESOP expense is determined based upon the market value of the shares when they are committed to be released. In addition, accrual of distributions on preferred capital securities issued in November 2001, amounted to $194,000 for 2001. Non-interest expense (excluding goodwill amortization and distributions on preferred capital securities) divided by average assets was 1.23% for 2001, compared with 1.22% for the prior year. The efficiency ratio (non-interest expense, excluding distributions on preferred capital securities, divided by the sum of net interest income plus non-interest income, excluding gains and losses on the sale of loans and securities) was 41.01% for 2001, compared with 40.41% in 2000. Non-interest expense is expected to increase moderately in 2002 as a result of distributions on the preferred capital securities offering completed in November 2001, as well as the opening of a new branch location in Somerset, New Jersey in the first quarter of 2002. COMPARISON OF OPERATING RESULTS FOR THE YEARS ENDED DECEMBER 31, 2000 AND DECEMBER 31, 1999 RESULTS OF OPERATIONS. For the year ended December 31, 2000, basic and diluted earnings per share totaled $0.69 and $0.68, respectively, representing increases of 14.6% and 15.7%, respectively, over basic and diluted earnings per share of $0.60 and $0.59, respectively, for the year ended December 31, 1999. Net income for 2000 totaled $23.0 million, a decrease of $684,000, or 2.9%, compared with net income of $23.7 million for 1999. Earnings per share increased despite the reduction in net income, as the Company repurchased 5.7 million shares of its common stock at an average cost of $8.53 per share during 2000. Return on average equity improved to 10.17% for 2000 from 7.99% for 1999 as the Company continued to leverage its capital through internal loan growth, share repurchases and cash dividends. INTEREST INCOME. Interest income increased $13.4 million, or 10.9%, to $136.8 million for 2000, compared to $123.4 million for 1999. Interest on loans increased $15.5 million, or 22.6%, to $84.2 million for 2000, compared to $68.7 million for 1999. The average balance of the loan portfolio for 2000 increased to $1.1 billion, from $935.0 million for 1999, while the average yield on the portfolio increased to 7.51% for 2000, from 7.34% for 1999. Interest on investment securities and MBS available for sale decreased $2.1 million, or 3.9%, to $52.6 million for 2000, compared to $54.7 million for 1999. The average balance of the investment and MBS portfolios totaled $818.0 million, with an average yield of 6.43% for 2000, while the portfolios' average balance was $904.7 million, with an average yield of 6.05% for 1999. INTEREST EXPENSE. Interest expense increased $13.9 million, or 21.3%, to $78.9 million for 2000, compared to $65.0 million for 1999. Interest expense on deposits increased $753,000, or 1.6%, to $48.0 million for 2000, compared to $47.2 million for 1999. The increased interest expense on deposits was primarily attributable to higher rates paid on certificates of deposits. The average cost of certificates for 2000 was 5.38%, compared to 4.94% for 1999. The average balance of certificates of deposit, however, decreased to $646.8 million for 2000, from $686.8 million for 1999. The average balance of core accounts totaled $568.8 million for 2000, compared to $563.0 million for 1999. Average core deposits to total average deposits improved to 46.8% for 2000 from 45.0% for 1999. The average interest cost on all deposits for 2000 was 3.95%, compared to 3.78% for 1999. Non-interest-bearing accounts averaged $48.6 million for 2000, up from $44.8 million for 1999. Interest on borrowed funds for 2000 increased $13.1 million, or 73.8%, to $30.9 million, compared to $17.8 million for 1999. The increase in the average balance of borrowed funds for 2000 to $503.4 million, from $325.5 million, was attributable to management's strategy of funding earning asset growth through the use of borrowed funds, where accretive to earnings. The average interest cost of borrowed funds was 6.14% for 2000, compared with 5.46% for 1999. NET INTEREST INCOME. Net interest income decreased $465,000, or 0.8%, to $57.9 million for 2000, compared to $58.4 million for 1999. The decrease was due to the changes in interest income and interest expense described previously. Net interest spread decreased 13 basis points to 2.33% in 2000, from 2.46% in 1999. This decrease was due to an increase in the cost of interest-bearing liabilities to 4.72% for 2000, from 4.25% in 1999, partially offset by an increase in the yield on interest-earning assets to 7.05%, from 6.71% for the same respective periods. The net interest margin decreased 18 basis points to 2.99% in 2000, compared to 3.17% in 1999. PROVISION FOR LOAN LOSSES. The provision for loan losses decreased $209,000, or 12.7%, to $1.4 million for 2000, compared to $1.7 million for 1999. The allowance for loan losses represented 1.03% of total loans, or 5.17 times non-performing loans at December 31, 2000, compared with 1.07% of total loans, or 4.10 times non-performing loans at December 31, 1999. NON-INTEREST INCOME. Non-interest income decreased $1.4 million, or 37.5%, to $2.3 million for 2000, compared to $3.6 million for 1999. Net losses on loans and securities available for sale totaled $876,000 for 2000, compared to net gains totaling $684,000 for 1999. The losses were taken in response to the increase in short-term interest rates during 2000, making certain fixed-rate loans and securities less profitable while the cost of funds increased. First Sentinel Bancorp, Inc. and Subsidiaries 13 Other income, net increased by $296,000, or 65.9%, to $745,000 for 2000, compared with $449,000 for 1999, primarily as a result of reduced REO expenses totaling $74,000 in 2000, compared with $381,000 for 1999. Foreclosed assets totaled $257,000 at December 31, 2000, and consisted of two residential properties. NON-INTEREST EXPENSE. Non-interest expense increased $122,000, or 0.5%, to $24.7 million for 2000, compared to $24.6 million for 1999. Compensation and benefits expense increased $987,000, or 7.2%, primarily as a result of increased healthcare and other benefits expenses. This increase was partially offset by a $507,000, or 66.3% reduction in deposit insurance costs resulting from a change in the FDIC assessment rate, as well as reduced supervisory costs resulting from the Bank's conversion to a state-chartered savings bank in January 2000, and non-recurring acquisition integration costs recorded in 1999. Non-interest expense (excluding goodwill amortization) divided by average assets fell to 1.22% for 2000, from 1.26% for the prior year. The efficiency ratio increased slightly to 40.41% for 2000 from 40.04% in 1999. LIQUIDITY AND CAPITAL RESOURCES The Company's liquidity is a measure of its ability to generate sufficient cash flows to meet all of its current and future financial obligations and commitments. The Company's primary sources of funds are deposits; proceeds from principal and interest payments on loans and MBS; sales of loans, MBS and investments available for sale; maturities or calls of investment securities and advances from the Federal Home Loan Bank of New York ("FHLB-NY") and other borrowed funds. Further, the Company may access additional liquidity through the capital markets, as in the trust preferred securities offering completed in November 2001. While maturities and scheduled amortization of loans and MBS are a predictable source of funds, deposit flows and mortgage prepayments are greatly influenced by interest rates, economic conditions, and competition. The primary investing activity of the Company is the origination of loans. During 2001, 2000 and 1999, the Company originated loans in the amounts of $486.6 million, $329.2 million and $351.5 million, respectively. The Company also purchases loans and mortgage-backed and investment securities. Purchases of mortgage loans totaled $19.1 million, $87.8 million and $57.5 million in 2001, 2000 and 1999, respectively. Purchases of MBS totaled $549.1 million, $153.9 million and $372.9 million in 2001, 2000 and 1999, respectively. Purchases of investment securities totaled $59.3 million, $66.7 million and $131.4 million for 2001, 2000 and 1999, respectively. Other investing activities included investment in FHLB-NY stock and the purchase of $25.0 million in BOLI in 2001. The investing activities were funded primarily by principal repayments on loans and MBS of $545.7 million, $329.4 million and $441.9 million for 2001, 2000 and 1999, respectively. Additionally, proceeds from sales, calls and maturities of mortgage-backed and investment securities totaling $407.8 million, $247.3 million and $384.9 million for 2001, 2000 and 1999, respectively, provided additional liquidity. Liquidity was also provided by proceeds from sales of loans totaling $46.6 million, $9.7 million and $7.2 million for 2001, 2000 and 1999, respectively. The Company has several other sources of liquidity, including FHLB-NY advances. At December 31, 2001, such advances totaled $165.8 million, of which $25.0 million are due in 2002. If necessary, the Company has additional borrowing capacity with the FHLB-NY, including an available overnight line of credit of up to $50.0 million. The Company also had other borrowings that provided additional liquidity, totaling $380.0 million at December 31, 2001, $30.0 million of which are due in 2002. Other sources of liquidity include unpledged investment and mortgage-backed securities available for sale, with an amortized cost totaling $344.7 million at December 31, 2001. In addition, the Company issued $25.0 million in preferred capital securities during 2001. The Company anticipates that it will have sufficient funds available to meet its current commitments. At December 31, 2001, the Company had commitments to originate and purchase mortgage loans of $103.7 million. The Company is obligated to pay $1.2 million under its lease agreements for branch and administrative facilities, of which $439,000 is due in 2002. Certificates of deposit which are scheduled to mature in one year or less totaled $527.3 million at December 31, 2001. Based upon historical experience, management estimates that a significant portion of such deposits will remain with the Company. IMPACT OF INFLATION AND CHANGING PRICES The consolidated financial statements and notes presented herein have been prepared in accordance with generally accepted accounting principles ("GAAP"), which require the measurement of financial position and operating results in terms of historical dollars without considering the changes in the relative purchasing power of money due to inflation. The impact of inflation is reflected in the increased cost of the Company's operations. Unlike most industrial companies, nearly all of the assets and liabilities of the Company are monetary in nature. As a result, interest rates have a greater impact on the Company's performance than do the effects of general levels of inflation. Interest rates do not necessarily move in the same direction or to the same extent as the price of goods and services. MARKET RISK Market risk is the risk of loss from adverse changes in market rates and prices. The Company's market risk arises primarily from interest rate risk inherent in its lending, investment and deposit activities. The Company's profitability is affected by fluctuations in interest rates. A sudden and substantial change in interest rates may adversely impact the Company's earnings to the extent that the interest rates borne by assets and liabilities do not 14 First Sentinel Bancorp, Inc. and Subsidiaries change at the same speed, to the same extent or on the same basis. To that end, management actively monitors and manages its interest rate risk exposure. The principal objective of the Company's interest rate risk management is to evaluate the interest rate risk inherent in certain balance sheet accounts, determine the level of risk appropriate given the Company's business strategy, operating environment, capital and liquidity requirements and performance objectives, and manage the risk consistent with the Board of Directors' approved guidelines. Through such management, the Company seeks to minimize the vulnerability of its operations to changes in interest rates. The Company's Board of Directors reviews the Company's interest rate risk position quarterly. The Company's Asset/Liability Committee is comprised of the Company's senior management under the direction of the Board of Directors, with senior management responsible for reviewing with the Board of Directors its activities and strategies, the effect of those strategies on the Company's net interest income, the market value of the portfolio and the effect that changes in interest rates will have on the Company's portfolio and its exposure limits. In addition, the Company has established an Asset/Liability Strategy Committee, a subcommittee of the Asset/Liability Committee, which is charged with establishing and maintaining a monitoring system for all marketing initiatives, providing management reports, and formulating and recommending strategies to the Asset/Liability Committee. The Company utilizes the following strategies to manage interest rate risk: (1) emphasizing the origination and retention of fixed-rate mortgage loans having terms to maturity of not more than 22 years, adjustable-rate loans and consumer loans consisting primarily of home equity loans and lines of credit; (2) selling substantially all fixed-rate conforming mortgage loans with terms of thirty years without recourse and on a servicing-retained basis; (3) investing primarily in adjustable-rate and short average-life MBS, which may generally bear lower yields as compared to longer-term investments, but which better position the Company for increases in market interest rates, and holding these securities as available for sale and (4) also investing in U.S. government and agency securities that have call features which, historically, have significantly decreased the duration of such securities. The Company currently does not participate in hedging programs, interest rate swaps or other activities involving the use of off-balance sheet derivative financial instruments, but may do so in the future to mitigate interest rate risk. The Company's interest rate sensitivity is monitored by management through the use of an interest rate risk ("IRR") model which measures IRR by projecting the change in net interest income ("NII") and the economic value of equity ("EVE") over a range of interest rate scenarios. The EVE is defined as the current market value of assets, minus the current market value of liabilities, plus or minus the current value of off-balance sheet items. The greater the potential change, positive or negative, in NII or EVE, the more interest rate risk is assumed to exist within the institution. The following table lists the Company's percentage change in NII and EVE assuming an immediate change of plus or minus up to 200 basis points from the level of interest rates at December 31, 2001 and 2000, as calculated by the Company. Percentage Percentage Change in Change Change Interest Rates in NII in EVE in Basis Points ----------------------------------------- (Rate Shock) 2001 2000 2001 2000 - ---------------------------------------------------------------------- +200 10 -4 4 -18 +100 6 -2 4 -8 Static -- -- -- -- -100 -10 -3 -12 -2 -200 -20 -9 -24 -10 Certain shortcomings are inherent in the methodology used in the above interest rate risk measurements. Modeling changes in NII and EVE requires the making of certain assumptions which may or may not reflect the manner in which actual yields and costs respond to changes in market interest rates. In this regard, the model presented assumes that the composition of the Company's interest sensitive assets and liabilities existing at the beginning of a period remains constant over the period being measured, assumes that a particular change in interest rates is reflected uniformly across the yield curve regardless of the duration to maturity or repricing of specific assets and liabilities and also does not consider the Company's strategic plans. Accordingly, although the EVE and NII models provide an indication of the Company's IRR exposure at a particular point in time, such measurements are not intended to and do not provide a precise forecast of the effect of changes in market interest rates on the Company's net interest income and will differ from actual results. The results of the IRR analysis described above depict the Company's asset sensitive position at December 31, 2001. This is in contrast to the liability sensitive position existing at December 31, 2000, and reflects growth in construction loans and other short-term and variable-rate earning assets, as well as growth in core deposits which are considered to be largely non-rate sensitive. This asset sensitivity is expected to decline somewhat in the coming months, as near-term cash flows from loan and MBS refinancing and prepayments diminish. The Company has managed its IRR position with a rising rate bias at December 31, 2001, as management believes we are at or near the trough in the interest rate cycle. Accordingly, IRR model results at December 31, 2001 under rising rate scenarios have improved while results under declining rate scenarios have worsened when compared with December 31, 2000. All results are within Board-approved risk management limits. First Sentinel Bancorp, Inc. and Subsidiaries 15 CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
December 31, 2001 2000 - -------------------------------------------------------------------------------------------------------------------------- (Dollars in thousands, except share amounts) ASSETS Cash and due from banks $ 33,875 $ 14,069 Federal funds sold 20,000 21,050 - -------------------------------------------------------------------------------------------------------------------------- Total cash and cash equivalents 53,875 35,119 Federal Home Loan Bank of New York (FHLB-NY) stock, at cost 20,541 19,643 Investment securities available for sale 107,988 234,970 Mortgage-backed securities available for sale 642,716 447,022 Loans receivable, net 1,242,779 1,184,802 Interest and dividends receivable 12,039 13,481 Premises and equipment, net 16,014 16,092 Excess of cost over fair value of net assets acquired 5,411 6,259 Other assets 37,556 11,321 - -------------------------------------------------------------------------------------------------------------------------- Total assets $2,138,919 $1,968,709 ========================================================================================================================== LIABILITIES AND STOCKHOLDERS' EQUITY LIABILITIES Deposits $1,315,264 $1,219,336 Borrowed funds 545,814 505,955 Advances by borrowers for taxes and insurance 9,735 9,154 Other liabilities 12,979 12,101 - -------------------------------------------------------------------------------------------------------------------------- Total liabilities 1,883,792 1,746,546 - -------------------------------------------------------------------------------------------------------------------------- Commitments and contingencies (Note 13) Company-obligated mandatorily redeemable preferred capital securities of a subsidiary trust holding solely junior subordinated debentures of the Company 25,000 -- - -------------------------------------------------------------------------------------------------------------------------- STOCKHOLDERS' EQUITY Preferred stock; authorized 10,000,000 shares; issued and outstanding--none -- -- Common stock, $.01 par value, 85,000,000 shares authorized; 43,106,742 and 30,940,117 shares issued and outstanding in 2001 and 43,106,742 and 32,749,994 shares issued and outstanding in 2000 430 430 Paid-in capital 201,858 201,264 Retained earnings 148,463 132,537 Accumulated other comprehensive income (loss) 2,178 (8,534) Common stock acquired by the Employee Stock Ownership Plan (ESOP) (10,321) (11,238) Common stock acquired by the Recognition and Retention Plan (RRP) (1,910) (2,788) Treasury stock (12,088,836 and 10,288,827 common shares in 2001 and 2000, respectively) (110,571) (89,508) - -------------------------------------------------------------------------------------------------------------------------- Total stockholders' equity 230,127 222,163 - -------------------------------------------------------------------------------------------------------------------------- Total liabilities and stockholders' equity $2,138,919 $1,968,709 ==========================================================================================================================
See accompanying notes to the consolidated financial statements. 16 First Sentinel Bancorp, Inc. and Subsidiaries CONSOLIDATED STATEMENTS OF INCOME
Year Ended December 31, 2001 2000 1999 - -------------------------------------------------------------------------------------------------------------------------- (Dollars in thousands, except per share data) INTEREST INCOME: Loans $ 89,678 $ 84,174 $ 68,656 Investment and mortgage-backed securities available for sale 43,907 52,615 54,732 - -------------------------------------------------------------------------------------------------------------------------- Total interest income 133,585 136,789 123,388 - -------------------------------------------------------------------------------------------------------------------------- INTEREST EXPENSE: Deposits: NOW and money market demand 9,654 9,452 9,395 Savings 3,790 3,744 3,931 Certificates of deposit 33,764 34,783 33,900 - -------------------------------------------------------------------------------------------------------------------------- Total interest expense--deposits 47,208 47,979 47,226 Borrowed funds 27,476 30,893 17,780 - -------------------------------------------------------------------------------------------------------------------------- Total interest expense 74,684 78,872 65,006 - -------------------------------------------------------------------------------------------------------------------------- Net interest income 58,901 57,917 58,382 Provision for loan losses 650 1,441 1,650 - -------------------------------------------------------------------------------------------------------------------------- Net interest income after provision for loan losses 58,251 56,476 56,732 - -------------------------------------------------------------------------------------------------------------------------- NON-INTEREST INCOME: Fees and service charges 2,416 2,400 2,498 Net gain (loss) on sales of loans and securities 587 (876) 684 Income on Bank Owned Life Insurance (BOLI) 791 -- -- Other, net 661 745 449 - -------------------------------------------------------------------------------------------------------------------------- Total non-interest income 4,455 2,269 3,631 - -------------------------------------------------------------------------------------------------------------------------- NON-INTEREST EXPENSE: Compensation and benefits 15,377 14,685 13,698 Occupancy 2,255 2,312 2,225 Equipment 1,698 1,692 1,672 Advertising 1,062 1,102 1,086 Federal deposit insurance premium 235 258 765 Amortization of intangibles 848 847 850 Distributions on preferred capital securities 194 -- -- General and administrative 4,265 3,782 4,260 - -------------------------------------------------------------------------------------------------------------------------- Total non-interest expense 25,934 24,678 24,556 - -------------------------------------------------------------------------------------------------------------------------- Income before income tax expense 36,772 34,067 35,807 Income tax expense 11,461 11,099 12,155 - -------------------------------------------------------------------------------------------------------------------------- Net income $ 25,311 $ 22,968 $ 23,652 ========================================================================================================================== Basic earnings per share $0.84 $0.69 $0.60 ========================================================================================================================== Diluted earnings per share $0.82 $0.68 $0.59 ========================================================================================================================== Weighted average shares outstanding--Basic 30,291,022 33,436,961 39,464,227 ========================================================================================================================== Weighted average shares outstanding--Diluted 30,975,799 33,755,431 40,207,600 ==========================================================================================================================
See accompanying notes to the consolidated financial statements. First Sentinel Bancorp, Inc. and Subsidiaries 17 CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
Accumu- lated Other Compre- Common Common Total hensive Stock Stock Stock- Common Paid-In Retained Income Acquired Acquired Treasury holders' Stock Capital Earnings (Loss) by ESOP by RRP Stock Equity - ------------------------------------------------------------------------------------------------------------------------------ (Dollars in thousands) Balance at December 31, 1998 $431 $201,105 $112,601 $ 2,498 $(13,073) $ (79) $ (3,664) $299,819 Comprehensive income: Net income for the year ended December 31, 1999 -- -- 23,652 -- -- -- -- 23,652 Other comprehensive loss: Unrealized holding losses arising during the period (net of tax of $(10,882)) -- -- -- (19,346) -- -- -- (19,346) Reclassification adjustment for gains in net income (net of tax of $(255)) -- -- -- (454) -- -- -- (454) -------- Total comprehensive income 3,852 -------- Cash dividends declared ($0.37 per share) -- -- (14,392) -- -- -- -- (14,392) Exercise of stock options -- -- (3,283) -- -- -- 4,766 1,483 Tax benefit on stock options and awards -- 72 -- -- -- -- -- 72 Purchase and retirement of common stock -- (299) -- -- -- -- -- (299) Purchases of treasury stock -- -- -- -- -- -- (48,035) (48,035) Transfer of treasury stock to RRP -- -- (656) -- -- (5,048) 5,704 -- Amortization of RRP -- -- -- -- -- 1,260 -- 1,260 ESOP expense -- (97) -- -- 917 -- -- 820 - ------------------------------------------------------------------------------------------------------------------------------ Balance at December 31, 1999 431 200,781 117,922 (17,302) (12,156) (3,867) (41,229) 244,580 Comprehensive income: Net income for the year ended December 31, 2000 -- -- 22,968 -- -- -- -- 22,968 Other comprehensive income: Unrealized holding gains arising during the period (net of tax of $4,749) -- -- -- 8,184 -- -- -- 8,184 Reclassification adjustment for losses in net income (net of tax of $314) -- -- -- 584 -- -- -- 584 -------- Total comprehensive income 31,736 -------- Cash dividends declared ($0.24 per share) -- -- (8,072) -- -- -- -- (8,072) Exercise of stock options -- -- (224) -- -- -- 367 143 Tax benefit on stock options and awards -- 690 -- -- -- -- -- 690 Purchase and retirement of common stock (1) (278) -- -- -- -- -- (279) Purchases of treasury stock -- -- -- -- -- -- (48,646) (48,646) Amortization of RRP -- -- -- -- -- 1,079 -- 1,079 ESOP expense -- 71 (57) -- 918 -- -- 932 - ------------------------------------------------------------------------------------------------------------------------------ Balance at December 31, 2000 430 201,264 132,537 (8,534) (11,238) (2,788) (89,508) 222,163 Comprehensive income: Net income for the year ended December 31, 2001 -- -- 25,311 -- -- -- -- 25,311 Other comprehensive income: Unrealized holding gains arising during the period (net of tax of $6,014) -- -- -- 11,115 -- -- -- 11,115 Reclassification adjustment for gains in net income (net of tax of $(218)) -- -- -- (403) -- -- -- (403) -------- Total comprehensive income 36,023 -------- Cash dividends declared ($0.30 per share) -- -- (9,147) -- -- -- -- (9,147) Exercise of stock options -- -- (238) -- -- -- 1,164 926 Tax benefit on stock options and awards -- 394 -- -- -- -- -- 394 Purchase and retirement of common stock -- (110) -- -- -- -- -- (110) Purchases of treasury stock -- -- -- -- -- -- (22,227) (22,227) Amortization of RRP -- -- -- -- -- 878 -- 878 ESOP expense -- 310 -- -- 917 -- -- 1,227 - ------------------------------------------------------------------------------------------------------------------------------ BALANCE AT DECEMBER 31, 2001 $430 $201,858 $148,463 $ 2,178 $(10,321) $(1,910) $(110,571) $230,127 ==============================================================================================================================
See accompanying notes to the consolidated financial statements. 18 First Sentinel Bancorp, Inc. and Subsidiaries CONSOLIDATED STATEMENTS OF CASH FLOWS
Year Ended December 31, 2001 2000 1999 - -------------------------------------------------------------------------------------------------------------------------- (Dollars in thousands) CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 25,311 $ 22,968 $ 23,652 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation of premises and equipment 1,353 1,339 1,406 Amortization of excess of cost over fair value of assets acquired 848 847 850 ESOP expense 1,227 932 820 Amortization of RRP 878 1,079 1,260 Income on BOLI (791) -- -- Provision for loan losses 650 1,441 1,650 Provision for losses on real estate owned 3 -- 28 Net (gain) loss on sales of loans and securities (587) 876 (684) Loans originated for sale (51,968) (10,041) (7,259) Proceeds from sales of mortgage loans available for sale 46,625 9,786 7,234 Net gain on sales of real estate owned (188) (14) (1) Net loss on sales of premises and equipment 102 -- -- Net amortization of premiums and accretion of discounts and deferred fees 3,194 387 (168) Decrease (increase) in interest and dividends receivable 1,442 (1,203) 1,278 Tax benefit on stock options and awards 394 690 72 Increase (decrease) in other liabilities 878 1,901 (5,173) (Increase) decrease in other assets (5,506) (1,391) 2,654 - -------------------------------------------------------------------------------------------------------------------------- Net cash provided by operating activities 23,865 29,597 27,619 - -------------------------------------------------------------------------------------------------------------------------- CASH FLOWS FROM INVESTING ACTIVITIES: Proceeds from sales, calls and maturities of investment securities available for sale 193,199 52,979 144,123 Proceeds from sales of mortgage-backed securities available for sale 214,637 194,330 240,788 Proceeds from sales of real estate owned 785 523 2,375 Purchases of investment securities available for sale (59,254) (66,684) (131,356) Purchases of mortgage-backed securities available for sale (549,076) (153,921) (372,883) Principal payments on mortgage-backed securities 146,924 91,839 203,929 Origination of loans (434,666) (319,149) (344,286) Purchases of mortgage loans (19,099) (87,829) (57,459) Principal repayments on loans 398,735 237,588 237,927 Purchase of FHLB-NY stock (898) (1,543) (5,248) Purchase of BOLI (25,000) -- -- Purchases of premises and equipment (1,563) (928) (1,428) Proceeds from sales of premises and equipment 186 -- -- - -------------------------------------------------------------------------------------------------------------------------- Net cash used in investing activities (135,090) (52,795) (83,518) - -------------------------------------------------------------------------------------------------------------------------- CASH FLOWS FROM FINANCING ACTIVITIES: Stock options exercised 926 143 1,483 Cash dividends paid (9,147) (13,844) (8,620) Net proceeds from issuance of preferred capital securities 24,171 -- -- Net increase (decrease) in deposits 95,928 5,612 (54,395) Net (decrease) increase in short-term borrowed funds (25,000) (10,000) 25,000 Proceeds from borrowed funds 325,000 521,000 310,000 Repayment of borrowed funds (260,141) (427,045) (177,675) Net increase in advances by borrowers for taxes and insurance 581 769 1,416 Purchases of treasury stock (22,227) (48,646) (48,035) Purchase and retirement of common stock (110) (279) (299) - -------------------------------------------------------------------------------------------------------------------------- Net cash provided by financing activities 129,981 27,710 48,875 - -------------------------------------------------------------------------------------------------------------------------- Net increase (decrease) in cash and cash equivalents 18,756 4,512 (7,024) Cash and cash equivalents at beginning of year 35,119 30,607 37,631 - -------------------------------------------------------------------------------------------------------------------------- Cash and cash equivalents at end of year $ 53,875 $ 35,119 $ 30,607 ========================================================================================================================== SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: Cash paid during the year for: Interest $ 75,543 $ 78,096 $ 63,251 Income taxes 16,377 11,360 15,332 Non cash investing and financing activities for the year: Transfer of loans to real estate owned 385 300 1,415 ==========================================================================================================================
See accompanying notes to the consolidated financial statements. First Sentinel Bancorp, Inc. and Subsidiaries 19 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES The following is a description of the significant accounting policies used in preparation of the accompanying consolidated financial statements of First Sentinel Bancorp, Inc. and Subsidiaries (the "Company"). PRINCIPLES OF CONSOLIDATION The consolidated financial statements are comprised of the accounts of the Company and its wholly-owned subsidiaries, First Sentinel Capital Trust I, First Sentinel Capital Trust II, First Savings Bank (the "Bank"), and the Bank's wholly-owned subsidiaries, FSB Financial Corp. and 1000 Woodbridge Center Drive, Inc. All significant intercompany accounts and transactions have been eliminated in consolidation. BASIS OF FINANCIAL STATEMENT PRESENTATION The consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America. In preparing the consolidated financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the balance sheet and revenues and expenses for the period. Actual results could differ significantly from those estimates. Material estimates that are particularly susceptible to significant change in the near term relate to the determination of the allowance for loan losses and the valuation of real estate acquired in connection with foreclosures or in satisfaction of loans. In connection with the determination of the allowance for loan losses, management generally obtains independent appraisals for significant properties. COMPREHENSIVE INCOME Comprehensive income is divided into net income and other comprehensive income. Other comprehensive income includes items recorded directly to equity, such as unrealized gains and losses on securities available for sale. Comprehensive income is presented in the consolidated statements of stockholders' equity. CASH AND CASH EQUIVALENTS Cash and cash equivalents include cash on hand, amounts due from depository institutions and federal funds sold. Generally, federal funds sold are sold for a one-day period. INVESTMENT AND MORTGAGE-BACKED SECURITIES Management determines the appropriate classification of investment and mortgage-backed securities as either available for sale, held to maturity, or trading at the purchase date. Securities available for sale include debt, mortgage-backed and marketable equity securities that are held for an indefinite period of time and may be sold in response to changing market and interest rate conditions. These securities are reported at fair value with unrealized gains and losses, net of tax, included as a separate component of stockholders' equity. Upon realization, such gains and losses are included in earnings using the specific identification method. Trading account securities are adjusted to market value through earnings. Gains and losses from adjusting trading account securities to market value and from the sale of these securities are included in non-interest income. Investment securities and mortgage-backed securities, other than those designated as available for sale or trading, are carried at amortized historical cost and consist of those securities for which there is a positive intent and ability to hold to maturity. All securities are adjusted for amortization of premiums and accretion of discounts using the level-yield method over the estimated lives of the securities. FEDERAL HOME LOAN BANK OF NEW YORK STOCK The Bank, as a member of the FHLB-NY, is required to hold shares of capital stock in the FHLB-NY in an amount equal to the greater of 1% of the Bank's outstanding balance of residential mortgage loans or 5% of its outstanding advances from the FHLB-NY. LOANS RECEIVABLE, NET Loans receivable, other than loans held for sale, are stated at the unpaid principal balance, net of premiums, unearned discounts, net deferred loan origination and commitment fees, and the allowance for loan losses. Loans are classified as non-accrual when they are past due 90 days or more as to principal or interest, or where reasonable doubt exists as to timely collectibility. If, however, a loan meets the above criteria, but a current appraisal of the property indicates that the total outstanding balance is less than 55% of the appraised value and the loan is in the process of collection, the loan is not classified as non-accrual. At the time a loan is placed on non-accrual status, previously accrued and uncollected interest is reversed against interest income. Interest received on non-accrual loans is generally credited to interest income for the current period. If principal and 20 First Sentinel Bancorp, Inc. and Subsidiaries interest payments are brought contractually current and future collectibility is reasonably assured, loans are returned to accrual status. Discounts are accreted and premiums amortized to income using the level-yield method over the estimated lives of the loans. Loan fees and certain direct loan origination costs are deferred, and the net fee or cost is recognized in interest income using the level-yield method over the contractual life of the individual loans, adjusted for actual prepayments. The Company has defined the population of impaired loans to be all non-accrual commercial real estate, multi-family and construction loans. Impaired loans are individually assessed to determine that the loan's carrying value is not in excess of the fair value of the collateral or the present value of the loan's expected future cash flows. Smaller balance homogeneous loans that are collectively evaluated for impairment, such as residential mortgage loans and consumer loans, are specifically excluded from the impaired loan portfolio. Income recognition policies for impaired loans are the same as non-accrual loans. Loans held for sale are carried at the lower of cost or market using the aggregate method. Valuation adjustments, if applicable, are reflected in current operations. Gains and losses on sales are recorded using the specific identification method. Management determines the appropriate classification of loans as either held to maturity or held for sale at origination, in conjunction with the Company's overall asset/liability management strategy. The majority of the Company's loans are secured by real estate in the State of New Jersey. Accordingly, the collectibility of a substantial portion of the carrying value of the Company's loan portfolio and real estate owned is susceptible to changes in market conditions. ALLOWANCE FOR LOAN LOSSES The allowance for loan losses is based on management's evaluation of the adequacy of the allowance, including an assessment of known and inherent risks in the portfolio, review of individual loans for adverse situations that may affect the borrower's ability to repay, the estimated value of any underlying collateral and consideration of current economic conditions. Additions to the allowance arise from charges to operations through the provision for loan losses or from the recovery of amounts previously charged off. The allowance is reduced by loan charge-offs. Management believes that the allowance for loan losses is adequate. While management uses available information to recognize losses on loans, future additions to the allowance may be necessary based on changes in economic conditions in the Company's market area. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Company's allowance for loan losses. Such agencies may require the Company to recognize additions to the allowance based on their judgments about information available to them at the time of their examination. REAL ESTATE OWNED, NET Real estate owned is recorded at the fair value at the date of acquisition, with a charge to the allowance for loan losses for any excess of cost over fair value. Subsequently, real estate owned is carried at the lower of cost or fair value, as determined by current appraisals, less estimated selling costs. Certain costs incurred in preparing properties for sale are capitalized, while expenses of holding foreclosed properties are charged to operations as incurred. EXCESS OF COST OVER FAIR VALUE OF NET ASSETS ACQUIRED The excess of cost over fair value of net assets acquired from the acquisition of deposits is amortized to expense over the expected life of the acquired deposit base (7 to 15 years) using the straight-line method. Management periodically reviews the potential impairment of the core deposit intangible asset on a non-discounted cash flow basis to assess recoverability. If the estimated future cash flows are projected to be less than the carrying amount, an impairment write-down, representing the carrying amount of the intangible asset which exceeds the present value of the estimated expected future cash flows, would be recorded as a period expense. PREMISES AND EQUIPMENT Premises and equipment, including leasehold improvements, are stated at cost, less accumulated amortization and depreciation. Depreciation and amortization are computed using the straight-line method over the estimated useful lives, ranging from three years to forty years depending on the asset or lease. Repair and maintenance items are expensed and improvements are capitalized. Upon retirement or sale, any gain or loss is recorded to operations. First Sentinel Bancorp, Inc. and Subsidiaries 21 INCOME TAXES The Company accounts for income taxes according to the asset and liability method. Under this method, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using the enacted tax rates applicable to taxable income for the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. EMPLOYEE BENEFIT PLANS Pension plan costs, based on actuarial computation of current and future benefits for employees, are charged to expense and are funded based on the maximum amount that can be deducted for Federal income tax purposes. The Company accrues the expected cost of providing health care and other benefits to employees subsequent to their retirement during the estimated service periods of the employees. The Company applies the "intrinsic value-based method" as described in Accounting Principles Board ("APB") Opinion No. 25, "Accounting for Stock Issued to Employees," and related interpretations in accounting for its stock-based compensation. The Company has provided in the notes to the consolidated financial statements the pro forma disclosures as if the Company had adopted the fair value method of accounting for the issuance of stock options. Stock awarded to employees under the Company's Recognition and Retention plan is expensed by the Company over the awards' vesting period based upon the fair market value of the stock on the date of the grant. Stock earned under the Bank's ESOP plan is expensed at the then current fair market value as shares are committed to be released. EARNINGS PER SHARE Basic earnings per share is calculated by dividing net income by the daily average number of common shares outstanding during the period. Diluted earnings per share is computed similarly to basic earnings per share except that the denominator is increased to include the number of additional common shares that would have been outstanding if all potential dilutive common shares were issued utilizing the treasury stock method. All share amounts exclude unallocated shares held by the ESOP. (Dollars in thousands, except per share data): Year Ended December 31, 2001 2000 1999 - -------------------------------------------------------------------------------- Net income $ 25,311 $ 22,968 $ 23,652 ================================================================================ Basic weighted average common shares outstanding 30,291,022 33,436,961 39,464,227 Plus: Dilutive stock options 611,853 286,164 384,069 Dilutive awards 72,924 32,306 359,304 - -------------------------------------------------------------------------------- Diluted weighted average common shares outstanding 30,975,799 33,755,431 40,207,600 =============================================================================== Net income per common share: Basic $0.84 $0.69 $0.60 Diluted 0.82 0.68 0.59 RECLASSIFICATIONS Certain reclassifications have been made to the 2000 and 1999 amounts to conform to the 2001 presentation. (2) INVESTMENT SECURITIES A summary of investment securities at December 31, is as follows (in thousands): Gross Gross Estimated Amortized unrealized Unrealized market 2001 cost gains losses value - -------------------------------------------------------------------------------- INVESTMENT SECURITIES AVAILABLE FOR SALE U.S. Government and Agency obligations $ 26,999 $ 168 $ (153) $ 27,014 State and political obligations 14,029 146 (146) 14,029 Corporate obligations 60,330 1,414 (2,387) 59,357 Equity securities 8,051 85 (548) 7,588 - -------------------------------------------------------------------------------- Total investment securities available for sale $109,409 $1,813 $(3,234) $107,988 =============================================================================== Gross Gross Estimated Amortized unrealized Unrealized market 2000 cost gains losses value - -------------------------------------------------------------------------------- Investment Securities Available For Sale U.S. Government and Agency obligations $151,753 $106 $(2,710) $149,149 State and political obligations 12,813 4 (366) 12,451 Corporate obligations 67,267 356 (4,743) 62,880 Equity securities 10,817 8 (335) 10,490 - -------------------------------------------------------------------------------- Total investment securities available for sale $242,650 $474 $(8,154) $234,970 =============================================================================== The cost and estimated fair value of debt investment securities at December 31, 2001, by contractual maturity, are shown below. Expected maturities may differ from contractual maturities because issuers may have the right to call or repay obligations at par value without prepayment penalties. 22 First Sentinel Bancorp, Inc. and Subsidiaries Estimated Amortized market cost value - -------------------------------------------------------------------------------- INVESTMENT SECURITIES AVAILABLE FOR SALE Due in: Less than one year $ 2,507 $ 2,553 One to five years 37,202 38,254 Five to ten years 31,697 31,888 Greater than ten years 29,952 27,705 - -------------------------------------------------------------------------------- $101,358 $100,400 ================================================================================ The realized gross gains and losses from sales are as follows: Year Ended December 31, 2001 2000 1999 - -------------------------------------------------------------------------------- Gross realized gains $ 1,061 $ 301 $ 247 Gross realized losses (696) (729) (209) - -------------------------------------------------------------------------------- $ 365 $(428) $ 38 ================================================================================ Investment securities with an amortized cost of $21.0 million at December 31, 2001, are pledged as collateral for other borrowings. Pursuant to a collateral agreement with the FHLB-NY, all otherwise unpledged, qualifying investment securities, including those available for sale, are pledged to secure advances from the FHLB-NY (see Note 8). (3) MORTGAGE-BACKED SECURITIES A summary of mortgage-backed securities at December 31, is as follows (in thousands): Gross Gross Estimated Amortized unrealized unrealized market 2001 cost gains losses value - -------------------------------------------------------------------------------- MORTGAGE-BACKED SECURITIES AVAILABLE FOR SALE FHLMC $300,358 $3,596 $ (193) $303,761 GNMA 45,257 1,002 -- 46,259 FNMA 154,686 1,103 (170) 155,619 Collateralized mortgage obligations 137,689 446 (1,058) 137,077 - -------------------------------------------------------------------------------- Total mortgage-backed securities available for sale $637,990 $6,147 $(1,421) $642,716 ================================================================================ Gross Gross Estimated Amortized unrealized unrealized market 2000 cost gains losses value - -------------------------------------------------------------------------------- Mortgage-Backed Securities Available For Sale FHLMC $161,038 $388 $ (837) $160,589 GNMA 29,473 228 (91) 29,610 FNMA 60,269 29 (917) 59,381 Collateralized mortgage obligations 201,765 14 (4,337) 197,442 - -------------------------------------------------------------------------------- Total mortgage-backed securities available for sale $452,545 $659 $(6,182) $447,022 ================================================================================ Collateralized mortgage obligations ("CMOs") issued by FHLMC, FNMA, GNMA and private interests amounted to $58.2 million, $33.1 million, $4.6 million and $41.2 million, respectively, at December 31, 2001, and $105.0 million, $23.5 million, $6.3 million and $62.6 million, respectively, at December 31, 2000. The privately-issued CMOs have generally been underwritten by large investment banking firms, with the timely payment of principal and interest on these securities supported (credit enhanced) in varying degrees by either insurance issued by a financial guarantee insurer, letters of credit or subordination techniques. Substantially all such securities are "AAA" rated by one or more of the nationally recognized securities rating agencies. The privately-issued CMOs are subject to certain credit-related risks normally not associated with U.S. Government Agency CMOs. Among such risks is the limited loss protection generally provided by the various forms of credit enhancements, as losses in excess of certain levels are not protected. Furthermore, the credit enhancement itself is subject to the credit worthiness of the enhancer. Thus, in the event a credit enhancer does not fulfill its obligations, the CMO holder could be subject to risk of loss similar to a purchaser of a whole loan pool. Management believes that the credit enhancements are adequate to protect the Company from losses and, therefore, has not provided an allowance for losses on its privately-issued CMOs. The realized gross gains and losses from sales are as follows (in thousands): Year Ended December 31, 2001 2000 1999 - ------------------------------------------------------------------------------- Gross realized gains $ 778 $ 558 $ 1,387 Gross realized losses (523) (1,028) (716) - ------------------------------------------------------------------------------- $ 255 $ (470) $ 671 =============================================================================== Mortgage-backed securities with an amortized cost of $678,000 at December 31, 2001, were pledged as collateral to secure deposits held for municipalities within the State of New Jersey. Mortgage-backed securities with an amortized cost of $379.7 million at December 31, 2001, were pledged as collateral for other borrowings. Pursuant to a collateral agreement with the FHLB-NY, all otherwise unpledged, qualifying mortgage-backed securities are pledged to secure advances from the FHLB-NY (see Note 8). The contractual maturities of mortgage-backed securities generally exceed ten years, however the effective lives are expected to be shorter due to prepayments of the underlying mortgages. First Sentinel Bancorp, Inc. and Subsidiaries 23 (4) LOANS RECEIVABLE, NET A summary of loans receivable at December 31, is as follows (in thousands): 2001 2000 - ------------------------------------------------------------------------------- LOANS RECEIVABLE Real estate mortgages: One-to-four family $ 857,973 $ 879,578 Multi-family and commercial 191,202 144,151 Home equity 112,958 114,152 - ------------------------------------------------------------------------------- 1,162,133 1,137,881 Real estate construction 136,719 60,452 Consumer 21,347 16,121 - ------------------------------------------------------------------------------- Total loans receivable 1,320,199 1,214,454 - ------------------------------------------------------------------------------- Loans in process (65,129) (19,161) Net unamortized premium and deferred expenses 641 1,850 Allowance for loan losses (12,932) (12,341) - ------------------------------------------------------------------------------- (77,420) (29,652) - ------------------------------------------------------------------------------- Loans receivable, net $ 1,242,779 $ 1,184,802 =============================================================================== Loans receivable included loans held for sale totaling $5.5 million and $277,000 at December 31, 2001 and 2000, respectively. The Company serviced loans for others in the amount of $96.1 million, $75.8 million and $81.9 million at December 31, 2001, 2000 and 1999, respectively. Related servicing income earned on loans serviced for others totaled $193,000, $177,000 and $202,000 for the years ended December 31, 2001, 2000 and 1999, respectively. Loans in the amount of $1.7 million and $3.3 million were outstanding to directors and executive officers of the Bank at December 31, 2001 and 2000, respectively. During 2001, new extensions of credit totaled $687,000 while repayments by directors and executive officers of the Bank totaled $2.3 million. The loans consist primarily of loans secured by mortgages on residential properties. The Company has pledged, under a blanket assignment, its unpledged and qualifying mortgage portfolio to secure advances from the FHLB-NY (see Note 8). A summary of non-performing assets at December 31, is as follows (in thousands): 2001 2000 - -------------------------------------------------------------------------------- Non-accrual loans $1,787 $2,349 Loans 90 days or more delinquent and still accruing 62 40 - -------------------------------------------------------------------------------- Total non-performing loans 1,849 2,389 Real estate owned (included in Other assets) 42 257 - -------------------------------------------------------------------------------- Total non-performing assets $1,891 $2,646 ================================================================================ At December 31, 2001 and 2000, the impaired loan portfolio totaled $291,000 and $170,000, respectively, for which general and specific allocations to the allowance for loan losses of $46,000 and $17,000 were identified at December 31, 2001 and 2000, respectively. The average balance of impaired loans during 2001, 2000 and 1999 was $195,000, $195,000 and $222,000, respectively. If interest income on non-accrual and impaired loans had been current in accordance with their original terms, approximately $130,000, $193,000 and $197,000 of interest income for the years ended December 31, 2001, 2000 and 1999, respectively, would have been recorded. Interest income recognized on non-accrual and impaired loans totaled $103,000, $132,000 and $108,000 for the years ended December 31, 2001, 2000 and 1999, respectively. At December 31, 2001, there were no commitments to lend additional funds to borrowers whose loans are classified as non-performing. An analysis of the allowance for loan losses for the years ended December 31, is as follows (in thousands): 2001 2000 1999 - ------------------------------------------------------------------------------- Balance at beginning of year $ 12,341 $ 11,004 $ 9,505 Provision charged to operations 650 1,441 1,650 - ------------------------------------------------------------------------------- 12,991 12,445 11,155 Charge-offs (71) (104) (151) Recoveries 12 -- -- - ------------------------------------------------------------------------------- Balance at end of year $ 12,932 $ 12,341 $ 11,004 =============================================================================== (5) INTEREST AND DIVIDENDS RECEIVABLE A summary of interest and dividends receivable at December 31, is as follows (in thousands): 2001 2000 - -------------------------------------------------------------------------------- Loans $ 5,696 $ 6,351 Investment securities 1,663 3,761 Mortgage-backed securities 4,680 3,369 - -------------------------------------------------------------------------------- Interest and dividends receivable $12,039 $13,481 ================================================================================ (6) PREMISES AND EQUIPMENT, NET Premises and equipment at December 31, are summarized as follows (in thousands): 2001 2000 - ------------------------------------------------------------------------------- Land $ 3,870 $ 3,870 Buildings and improvements 13,832 14,380 Leasehold improvements 1,285 1,281 Furnishings, equipment and automobiles 9,006 8,424 Construction in progress 1,085 179 - ------------------------------------------------------------------------------- Total 29,078 28,134 Accumulated depreciation and amortization (13,064) (12,042) - ------------------------------------------------------------------------------- Premises and equipment, net $ 16,014 $ 16,092 =============================================================================== 24 First Sentinel Bancorp, Inc. and Subsidiaries (7) DEPOSITS Deposits at December 31, are summarized as follows (dollars in thousands):
2001 2000 ------------------------------- ------------------------------ Interest Weighted Interest Weighted rate average rate average Amount range rate Amount range rate - -------------------------------------------------------------------------------------------- Non-interest- bearing demand $ 57,350 --% --% $ 51,739 --% --% NOW and money market 427,008 1.02--2.26 1.93 358,961 1.02--3.18 2.63 Savings 176,559 1.74--3.23 2.21 159,812 2.15--5.16 2.32 Certificates of deposit 654,347 1.74--7.72 4.16 648,824 2.96--7.72 5.72 ---------- ---------- $1,315,264 0--7.72% 2.99% $1,219,336 0--7.72% 4.12% ============================================================================================
The scheduled maturities of certificates of deposit at December 31, 2001, are as follows (in thousands): One year or less $527,273 After one to two years 63,827 After two to three years 23,462 After three to four years 12,407 After four to five years 11,047 After five years 16,331 - -------------------------------------------------------------------------------- $654,347 ================================================================================ Included in deposits at December 31, 2001 and 2000, are $200.3 million and $155.6 million of deposits of $100,000 and over, and $236,000 and $444,000, respectively, of accrued interest payable on deposits. (8) BORROWED FUNDS FEDERAL HOME LOAN BANK-NEW YORK ADVANCES Advances from the FHLB-NY at December 31, are summarized as follows (dollars in thousands): 2001 2000 -------------------- ------------------- Weighted Weighted average average interest interest Maturity Amount rate Amount rate - ------------------------------------------------------------------------------- 2001 $ -- --% $25,000 6.64% 2002 25,000 2.03 5,000 6.88 2003 15,000 5.68 15,000 5.68 2005 45,000 5.15 25,000 5.85 2006 35,000 4.68 -- -- 2007 5,814 7.32 5,955 7.32 2009 5,000 5.52 5,000 5.52 2011 35,000 5.37 -- -- - -------------------------------------- ------- $165,814 4.76% $80,955 6.21% ================================================================================ The Company has entered into FHLB-NY advances that have call features that may be exercised by the FHLB-NY, at par, at predetermined dates. Such advances totaled $100.0 million and $30.0 million at December 31, 2001 and 2000, respectively. The maximum amount of FHLB-NY advances outstanding at any month-end during the years ended December 31, 2001 and 2000 was $165.8 million and $140.2 million, respectively. The average amount of FHLB-NY advances outstanding during the years ended December 31, 2001 and 2000 was $128.5 million and $99.1 million, respectively. At December 31, 2001 and 2000, $5.0 million of FHLB-NY advances had adjustable rates. Advances from the FHLB-NY are secured by pledges of FHLB-NY stock of $20.5 million and $19.6 million at December 31, 2001 and 2000, respectively, and a blanket assignment of the Company's unpledged, qualifying mortgage loans, mortgage-backed securities and investment securities. Such loans and securities remain under the control of the Company. The Company has an available overnight line of credit with the FHLB-NY for a maximum of $50.0 million at December 31, 2001. OTHER BORROWINGS The following is a summary of other borrowings at December 31, (dollars in thousands): 2001 2000 -------------------- ------------------- Weighted Weighted average average Contractual interest interest Maturity Amount rate Amount rate - ------------------------------------------------------------------------------- 2001 $ -- --% $200,000 6.58% 2002 30,000 4.17 10,000 5.08 2003 40,000 4.35 -- -- 2004 105,000 5.35 60,000 5.82 2005 65,000 6.03 65,000 6.03 2006 35,000 4.89 -- -- 2008 35,000 5.09 35,000 5.09 2009 30,000 5.64 30,000 5.64 2010 25,000 6.47 25,000 6.47 2011 15,000 5.07 -- -- - ------------------------------------- -------- $380,000 5.29% $425,000 6.16% - ------------------------------------------------------------------------------- The maximum amount of other borrowings outstanding at any month-end during the years ended December 31, 2001 and 2000 was $425.0 million and $440.0 million, respectively. The average amount of other borrowings outstanding during the years ended December 31, 2001 and 2000 was $367.2 million and $404.3 million, respectively. Securities underlying other borrowings included mortgage-backed and investment securities, which had an amortized cost of $400.7 million and $456.6 million, with market values of $405.3 million and $451.5 million First Sentinel Bancorp, Inc. and Subsidiaries 25 at December 31, 2001 and 2000, respectively. The securities underlying the other borrowing agreements are under the Company's control. At December 31, 2001 and 2000, $295.0 million and $215.0 million, respectively, of other borrowings are callable at par, at defined dates and at the lender's discretion prior to the contractual maturity of the borrowings. (9) REGULATORY MATTERS Subject to applicable law, the Board of Directors of the Bank may provide for the payment of dividends. New Jersey law provides that no dividend may be paid unless, after the payment of such dividend, the capital stock of the Bank will not be impaired and either the Bank will have a statutory surplus of not less than 50% of its capital stock or the payment of such dividend will not reduce the statutory surplus of the Bank. The Bank is subject to various regulatory capital requirements administered by the federal and state banking agencies. Failure to meet minimum requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Company's financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Bank must meet specific capital guidelines that involve quantitative measures of the Bank's assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The Bank's capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings and other factors. The prompt corrective action regulations define specific capital categories based on an institution's capital ratios. The capital categories, in declining order, are "well capitalized," "adequately capitalized," "undercapitalized," "significantly undercapitalized," and "critically undercapitalized." Institutions categorized as "undercapitalized" or worse are subject to certain restrictions on the payment of dividends and management fees, restrictions on asset growth and executive compensation, and increased supervisory monitoring, among other things. Other restrictions may be imposed on the institution by the regulatory agencies, including requirements to raise additional capital, sell assets, or sell the entire institution. Once an institution becomes "critically undercapitalized" it must generally be placed in receivership or conservatorship within 90 days. An institution is deemed to be "critically undercapitalized" if it has a tangible equity ratio, as defined, of 2% or less. To be considered "well capitalized," an institution must generally have a leverage ratio (Tier 1 capital to average total assets), as defined, of at least 5.0%; a Tier 1 risk-based capital ratio, as defined, of at least 6.0%; and a total risk-based capital ratio, as defined, of at least 10.0%. Management believes that, as of December 31, 2001, the Bank met all capital adequacy requirements to which it was subject. Further, the most recent FDIC notification categorized the Bank as a well capitalized institution under the prompt corrective action regulations. There have been no conditions or events since that notification that management believes have changed the Bank's capital classification. The following is a summary of the Bank's actual capital amounts and ratios as of December 31, 2001 compared to the FDIC minimum capital adequacy requirements and the FDIC requirements for classification as a "well capitalized" institution (dollars in thousands):
FDIC Requirements -------------------------------------- Minimum capital For classification Bank actual adequacy as well capitalized --------------- --------------- ------------------- Amount Ratio Amount Ratio Amount Ratio - ------------------------------------------------------------------------------------ DECEMBER 31, 2001 Leverage (Tier 1) capital $189,250 9.09% $83,297 4.00% $104,121 5.00% Risk-based capital: Tier 1 189,250 17.48 43,312 4.00 64,968 6.00 Total 202,182 18.67 86,624 8.00 108,280 10.00 December 31, 2000 Leverage (Tier 1) capital $180,322 9.36% $77,025 4.00% $ 96,281 5.00% Risk-based capital: Tier 1 180,322 17.91 40,273 4.00 60,409 6.00 Total 192,663 19.14 80,545 8.00 100,682 10.00
(10) INCOME TAXES Income tax expense applicable to income for the years ended December 31, consists of the following (in thousands): 2001 2000 1999 - ------------------------------------------------------------------------------- FEDERAL: Current $ 12,667 $ 11,388 $ 13,043 Deferred (1,271) (514) (974) - ------------------------------------------------------------------------------- 11,396 10,874 12,069 - ------------------------------------------------------------------------------- STATE: Current 65 225 17 Deferred -- -- 69 - ------------------------------------------------------------------------------- 65 225 86 - ------------------------------------------------------------------------------- $ 11,461 $ 11,099 $ 12,155 =============================================================================== 26 First Sentinel Bancorp, Inc. and Subsidiaries A reconciliation between the effective income tax expense and the amount computed by multiplying the applicable statutory federal income tax rate for the years ended December 31, is as follows (in thousands): 2001 2000 1999 - ------------------------------------------------------------------------------ Income before income taxes $ 36,772 $ 34,067 $ 35,807 Applicable statutory federal tax rate 35% 35% 35% - ------------------------------------------------------------------------------ Computed "expected" federal income tax expense 12,870 11,923 12,532 Increase (decrease) in federal income tax expense resulting from: State income taxes, net of federal benefit 42 146 56 Income on BOLI (277) -- -- Other items, net (1,174) (970) (433) - ------------------------------------------------------------------------------ $ 11,461 $ 11,099 $ 12,155 ============================================================================== The tax effects of temporary differences that give rise to a significant portion of deferred tax assets and liabilities at December 31, are as follows (in thousands): 2001 2000 - -------------------------------------------------------------------------------- DEFERRED TAX ASSETS Provision for loan losses--book $4,526 $ 4,319 Unrealized loss on securities available for sale -- 4,669 Postretirement benefits 640 552 Tax depreciation less than book depreciation 183 132 Excess pension expense 542 624 Stock awards 154 154 Excess cost over fair value of net assets acquired 471 468 Other 501 130 - -------------------------------------------------------------------------------- Total deferred tax assets 7,017 11,048 - -------------------------------------------------------------------------------- DEFERRED TAX LIABILITIES Provision for loan losses--tax 291 581 Unrealized gain on securities available for sale 1,127 -- Deferred points 450 742 Other 60 111 - -------------------------------------------------------------------------------- Total deferred tax liabilities 1,928 1,434 - -------------------------------------------------------------------------------- Net deferred tax asset $5,089 $ 9,614 ================================================================================ Retained earnings at December 31, 2001 and 2000 included approximately $18.1 million for which no provision for income tax has been made. This amount represented an allocation of income to bad debt deductions for tax purposes only. Events that would result in taxation of these reserves include failure to qualify as a bank for tax purposes, distributions in complete or partial liquidation, stock redemptions, excess distributions to shareholders or a change in Federal tax law. At December 31, 2001 and 2000, the Company had an unrecognized tax liability of $6.5 million with respect to this reserve. Included in other comprehensive income is income tax expense (benefit) attributable to net unrealized gains (losses) on securities available for sale in the amounts of $5.8 million, $5.1 million and $(11.1 million) for the years ended December 31, 2001, 2000 and 1999, respectively. In addition, income tax benefit of $394,000, $690,000 and $72,000 was recognized in 2001, 2000 and 1999, respectively, related to the exercise or disqualifying disposition of stock options and awards. Management has determined that it is more likely than not that it will realize the deferred tax assets based upon the nature and timing of the items listed above. There can be no assurances, however, that there will be no significant differences in the future between taxable income and pretax book income if circumstances change. In order to fully realize the net deferred tax asset, the Company will need to generate future taxable income. Management has projected that the Company will generate sufficient taxable income to utilize the net deferred tax asset; however, there can be no assurance that such levels of taxable income will be generated. (11) EMPLOYEE BENEFIT PLANS The Company is a participant in the Financial Institutions Retirement Fund, a multi-employer defined benefit plan. All employees who attain the age of 21 years and complete one year of service are eligible to participate in this plan. Retirement benefits are based upon a formula utilizing years of service and average compensation, as defined. Participants are vested 100% upon the completion of five years of service. Pension expense (benefit) was $384,000, $160,000 and $(118,000) for the years ended December 31, 2001, 2000 and 1999, respectively. Financial Institutions Retirement Fund does not segregate its assets, liabilities or costs by participating employer. Therefore, disclosure of the accumulated benefit obligations, plan assets and the components of annual pension expense attributable to the Company cannot be made. The Company has a Supplemental Executive Retirement Plan ("SERP"), which provides post-employment supplemental retirement benefits to certain officers of the Company. The SERP is a non-qualified employee benefit plan. The Company has a non-pension postretirement benefit plan ("Other Benefits"), which provides certain healthcare benefits to eligible employees. The plan is unfunded as of December 31, 2001, and the obligation is included in Other liabilities as an accrued postretirement benefit cost. First Sentinel Bancorp, Inc. and Subsidiaries 27 The following table shows the change in benefit obligation, the funded status for the SERP and Other Benefits, and accrued cost at December 31 (in thousands): SERP Other Benefits -------------------- -------------------- 2001 2000 2001 2000 - ------------------------------------------------------------------------------ Benefit obligation at beginning of year $ 1,328 $ 1,061 $ 1,521 $ 1,743 Service cost 117 104 61 63 Interest cost 100 85 123 99 Actuarial loss (gain) 95 78 (3) (348) Benefits paid -- -- (41) (36) - ------------------------------------------------------------------------------ Benefit obligation at the end of the year $ 1,640 $ 1,328 $ 1,661 $ 1,521 ============================================================================== Funded status $(1,640) $(1,328) $(1,661) $(1,521) Unrecognized net actuarial loss (gain) 237 147 (64) (61) - ------------------------------------------------------------------------------ Accrued benefit cost $(1,403) $(1,181) $(1,725) $(1,582) ============================================================================== Weighted average assumptions as of December 31: Discount rate 7.25% 7.50% 7.25% 7.50% Rate of compensation increase 5.00% 5.00% 5.00% 5.00% Net periodic cost at December 31, includes the following components (in thousands): SERP Other Benefits ---------------------- ------------------------ 2001 2000 1999 2001 2000 1999 - -------------------------------------------------------------------------------- Service cost $117 $104 $ 92 $ 61 $ 63 $ 81 Interest cost 100 85 73 123 99 115 Amortization of net actuarial loss (gain) -- -- 12 -- (4) 26 - -------------------------------------------------------------------------------- Net periodic cost $217 $189 $177 $184 $ 158 $222 ================================================================================ For measurement purposes, a five percent annual rate of increase in the per capita cost of covered healthcare benefits was assumed for 2001 and all future years. Assumed healthcare trend rates have a significant effect on the amounts reported for the healthcare plans. A one percentage point change in the assumed healthcare cost trend rates would have the following effects (in thousands): One Percentage Point ----------------------- Increase Decrease - ------------------------------------------------------------------------------- Effect on total of service and interest cost components $ 44 $ (29) Effect on Other benefits obligation 316 (247) The Company also maintains an incentive savings plan for eligible employees. Employees may make contributions to the plan of 2% to 15% of their compensation. For the first 6% of the employee's contribution, the Company contributes 25% of that amount to the employee's account. At the end of the plan year, the Company may make an additional contribution to the plan. The contributions under this plan were $94,000, $89,000 and $88,000 for the years ended December 31, 2001, 2000 and 1999, respectively. RECOGNITION AND RETENTION PLAN The Company maintains a recognition and retention Plan ("RRP") for the benefit of directors, officers and key employees. In 1998, the Board of Directors and stockholders approved the granting of 662,014 shares as awards under the 1998 Stock-Based Incentive Plan ("1998 Plan"). As of December 31, 2001, the Company had granted 641,799 shares under the 1998 Plan. RRP awards are granted in the form of shares of common stock held by the RRP. Awards granted in 1998 vest over a five-year period at a rate of 20% per year, commencing one year from the date of the award grant. Amortization of the RRP was $878,000, $1.1 million and $1.3 million for the years ended December 31, 2001, 2000 and 1999. Amortization in 2000 and 1999 included $151,000 and $202,000, respectively, in accelerated expense due to the death of two of the Company's directors. EMPLOYEE STOCK OWNERSHIP PLAN The Company maintains an ESOP for eligible employees who have completed a twelve-month period of employment with the Company. ESOP shares were purchased in each of the Company's public offerings. Funds for the purchase of additional shares were borrowed from the Bank's parent, First Sentinel Bancorp. Shares purchased by the ESOP are held by a trustee for allocation among participants as the loan is repaid. The Company, at its discretion, contributes funds, in cash, to pay principal and interest on the ESOP loan. The number of shares of common stock released each year is proportional to the amount of principal and interest paid on the ESOP loan for the year. Dividends paid on unallocated ESOP shares are used to repay the loan. Unallocated ESOP shares are not considered outstanding for purposes of calculating earnings per share. At December 31, 2001, there were 1,135,346 unallocated ESOP shares with a market value of $14.2 million. The Company recognizes compensation expense based on the fair value of shares committed to be released. Compensation expense recognized for 2001, 2000 and 1999 amounted to $1.2 million, $932,000 and $820,000, respectively. The Company allocated 100,920 shares per year during 2001, 2000 and 1999. STOCK OPTION PLANS The Company maintains stock option plans (the "Plans") for the benefit of directors, officers, and other key employees of the Company. Options granted under the Plans are exercisable over a period not to exceed ten years from the date of grant. The following table summarizes the options granted and exercised under the Plans during the periods indicated and their respective weighted average exercise price: 28 First Sentinel Bancorp, Inc. and Subsidiaries
2001 2000 1999 ---------------------- ---------------------- ---------------------- Weighted Weighted Weighted Number average Number average Number average of exercise of exercise of exercise shares price shares price shares price - ------------------------------------------------------------------------------------------ Outstanding at beginning of period 2,285,844 $7.65 2,297,996 $7.55 2,840,284 $6.55 Granted -- -- 31,437 9.00 -- -- Forfeited (86,350) 9.00 (1,000) 9.00 -- -- Exercised (131,981) 7.01 (42,589) 3.35 (542,288) 2.70 - ----------------------------- --------- --------- Outstanding at end of period 2,067,513 $7.63 2,285,844 $7.65 2,297,996 $7.55 ========================================================================================== Options exercisable at year-end 1,375,895 1,393,094 1,074,196 ==========================================================================================
The following table summarizes information about the stock options outstanding at December 31, 2001:
Options Outstanding Options Exercisable - ------------------------------------------------------------- --------------------------- Weighted average Weighted Number Weighted Range of Number remaining average of shares average exercise of shares contractual exercise exercisable at exercise prices outstanding life in years price period end price - -------------------------------------------------------------------------------------------- $2.3413-3.4538 122,100 3.2 $3.19 122,100 $3.19 3.5866-4.5165 381,240 4.8 3.98 381,240 3.98 6.6419-9.0000 1,564,173 7.0 8.87 872,555 8.77 --------- --------- $2.3413-9.0000 2,067,513 6.4 $7.63 1,375,895 $6.95 ============================================================================================
The Company applies APB Opinion No. 25 in accounting for the Plans. Consistent with Statement of Financial Accounting Standards ("SFAS") No. 123, if compensation cost for the Plans was accounted for under the fair value method, the Company's net income and earnings per share would have been reduced to the pro forma amounts indicated below (in thousands, except per share data):
2001 2000 1999 - -------------------------------------------------------------------------------- NET INCOME: As reported $25,311 $22,968 $23,652 Pro forma 24,569 22,229 22,920 EARNINGS PER SHARE: Basic earnings per share $0.84 $0.69 $0.60 Diluted earnings per share 0.82 0.68 0.59 Pro forma basic earnings per share 0.81 0.66 0.58 Pro forma diluted earnings per share 0.79 0.66 0.57 Weighted average fair value of options granted during year $ -- $1.19 $ --
The fair value of stock options granted by the Company was estimated through the use of the Black-Scholes option pricing model that takes into account the following factors as of the grant dates: the exercise price and expected life of the option, the market price of the underlying stock at the grant date and its expected volatility, and the risk-free interest rate for the expected term of the option. In deriving the fair value of a stock option, the stock price at the grant date is reduced by the value of the dividends to be paid during the life of the option. The following assumptions were used for grants in 2000: dividend yield of 2.50%; an expected volatility of 25%, and a risk-free interest rate of 6.20%. There were no options granted in 2001 or 1999. (12) PREFERRED CAPITAL SECURITIES In November 2001, the Company issued $25.0 million of Company-obligated mandatorily redeemable preferred capital securities through special purpose business trusts. Of the $25.0 million of preferred capital securities sold, $12.5 million have a floating rate of interest, which resets semi-annually, equal to 6-month LIBOR plus 3.75%. The floating rate, however, may not exceed 11.0% for the first five years. The remaining $12.5 million of preferred capital securities have a fixed interest rate of 9.95%. Distributions on the preferred capital securities are payable semi-annually. The stated maturity of the preferred capital securities is December 8, 2031, with early redemption permitted on any June 8 or December 8 on or after December 8, 2006, at par. (13) COMMITMENTS AND CONTINGENCIES COMMITMENTS FINANCIAL TRANSACTIONS WITH OFF-BALANCE-SHEET RISK AND CONCENTRATIONS OF CREDIT The Company, in the normal course of conducting its business, extends credit to meet the financing needs of its customers through commitments and letters of credit. The following commitments and contingent liabilities existed at December 31, which are not reflected in the accompanying consolidated financial statements (in thousands): 2001 2000 - -------------------------------------------------------------------------------- Origination of mortgage loans: Fixed rate $70,946 $ 9,899 Variable rate 29,602 88,341 Purchase of mortgage loans--variable rate 3,193 1,238 Undisbursed home equity credit lines 56,540 50,427 Undisbursed construction credit lines 65,129 19,161 Undisbursed consumer lines of credit 9,480 10,918 Participations in Thrift Institutions Community Investment Corp. of NJ 500 500 Standby letters of credit 2,253 2,296 ================================================================================ These instruments involve elements of credit and interest rate risk in excess of the amount recognized in the consolidated financial statements. The Company uses the same credit policies and collateral requirements in making commitments and conditional obligations as it does for on-balance-sheet loans. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since the commitments may expire without being drawn upon, the total commitment amounts do not necessarily represent First Sentinel Bancorp, Inc. and Subsidiaries 29 future cash requirements. The Company evaluates each customer's creditworthiness on a case-by-case basis. The amount of collateral obtained is based on management's credit evaluation of the borrower. The Company grants one-to-four family first mortgage real estate loans, multi-family, construction loans, and nonresidential first mortgage real estate loans to borrowers throughout New Jersey. Its borrowers' abilities to repay their obligations are dependent upon various factors, including the borrowers' income and net worth, cash flows generated by the underlying collateral, value of the underlying collateral and priority of the Company's lien on the property. Such factors are dependent upon various economic conditions and individual circumstances beyond the Company's control; the Company is therefore subject to risk of loss. The Company believes its lending policies and procedures adequately minimize the potential exposure to such risks and that adequate provisions for loan losses are provided for all known and inherent risks. Collateral and/or guarantees are required for virtually all loans. LEASE OBLIGATIONS At December 31, 2001, the Company was obligated under noncancellable operating leases for premises and equipment. Rental expense under these leases aggregated approximately $502,000, $523,000 and $525,000 for the years ended December 31, 2001, 2000 and 1999, respectively. The projected minimum rental commitments as of December 31, 2001, are as follows (in thousands): 2002 $ 439 2003 306 2004 257 2005 157 2006 59 Thereafter -- - -------------------------------------------------------------------------------- $1,218 ================================================================================ CONTINGENCIES The Company is a defendant in certain claims and legal actions arising in the ordinary course of business. Management is of the opinion that the ultimate disposition of these matters will not have a material adverse effect on the Company's consolidated financial condition or results of operations. STOCKHOLDER RIGHTS AGREEMENT On December 19, 2001 the Company adopted a Stockholder Rights Agreement ("Rights Agreement") and declared a dividend of one preferred share purchase right ("Right") for each outstanding share of the Company's common stock. The dividend is payable on January 1, 2002, to stockholders of record on that date. Each Right, initially, is not exercisable and transfers only with the Company's common stock. Upon the public announcement that a person or group of persons has acquired or intends to acquire 12% or more of the Company's common stock, the Rights become exercisable, entitling holders to purchase one one-hundredth interest in a share of Series A Junior Participating Preferred Stock of the Company, at an exercise price of $37.00. The Rights are scheduled to expire on January 1, 2012 and may be redeemed by the Company at a price of $0.01 per Right. (14) RECENT ACCOUNTING PRONOUNCEMENTS On October 3, 2001, the Financial Accounting Standards Board ("FASB") issued SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets," which addresses financial accounting and reporting for the impairment or disposal of long-lived assets. While SFAS No. 144 supersedes SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of," it retains many of the fundamental provisions of that Statement. The Statement is effective for fiscal years beginning after December 15, 2001. The initial adoption of SFAS No. 144 did not have a significant impact on the Company's financial statements. In August 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement Obligations," which addresses financial accounting and reporting for obligations associated with the retirement of tangible long-lived assets and the associated asset retirement costs. SFAS No. 143 requires an enterprise to record the fair value of an asset retirement obligation as a liability in the period in which it incurs a legal obligation associated with the retirement of tangible long-lived assets. The Company is required to adopt the provisions of SFAS No. 143 for fiscal years beginning after June 15, 2002. The Company does not anticipate that SFAS No. 143 will significantly impact the Company's consolidated financial statements. On July 20, 2001, the FASB issued SFAS No. 141, "Business Combinations," and SFAS No. 142, "Goodwill and Other Intangible Assets." SFAS No. 141 requires that the purchase method of accounting be used for all business combinations initiated after June 30, 2001, as well as all purchase method business combinations completed after June 30, 2001. SFAS No. 141 also specifies criteria which intangible assets acquired in a purchase method business combination must meet to be recognized and reported apart from goodwill. SFAS No. 142 will require that goodwill and intangible assets with indefinite useful lives no longer be amortized, but instead be tested for impairment at least annually in accordance with the provisions of SFAS No. 142. SFAS No. 142 will also require that intangible assets with definite useful lives be amortized over their respective estimated useful lives to their estimated residual values, and periodically reviewed for impairment. SFAS No. 142 requires that goodwill and any intangible assets determined to have an indefinite useful life that are acquired in a purchase business combination completed after June 30, 2001, will not be amortized but will continue to be evaluated for impairment in accordance with the 30 First Sentinel Bancorp, Inc. and Subsidiaries appropriate pre-SFAS No. 142 accounting literature. Goodwill and intangible assets acquired in business combinations completed before July 1, 2001, will continue to be amortized prior to the adoption of SFAS No. 142. The Company adopted the provisions of SFAS No. 141 in July 2001. The initial adoption of SFAS No. 141 had no impact on the Company's consolidated financial statements. The Company is required to adopt SFAS No. 142 effective January 1, 2002. The Company currently has no recorded goodwill and the adoption of SFAS No. 142 did not significantly impact the Company's accounting for currently recorded intangible assets, primarily core deposit intangibles. (15) FAIR VALUE OF FINANCIAL INSTRUMENTS The following fair value estimates, methods and assumptions were used to measure the fair value of each class of financial instrument for which it is practical to estimate that value. CASH AND CASH EQUIVALENTS For such short-term investments, the carrying amount was considered to be a reasonable estimate of fair value. FEDERAL HOME LOAN BANK OF NY STOCK Federal Home Loan Bank of NY stock is valued at cost. INVESTMENT AND MORTGAGE-BACKED SECURITIES For investment and mortgage-backed securities, fair values were based on quoted market prices or dealer quotes. If a quoted market price was not available, fair values were estimated using quoted market prices for similar securities. LOANS RECEIVABLE, NET Fair values were estimated for portfolios of performing and non-performing loans with similar financial characteristics. For certain analogous categories of loans, such as residential mortgages, home equity loans, non-residential mortgages, and consumer loans, fair value was estimated using the quoted market prices for securities backed by similar loans, adjusted for differences in loan characteristics. The fair value of other performing loan types was estimated by discounting the future cash flows using market discount rates that reflect the credit, collateral, and interest rate risk inherent in the loan. DEPOSITS The fair value of demand deposits, savings deposits and money market accounts were the amounts payable on demand at December 31, 2001 and 2000. The fair values of certificates of deposit were based on the discounted value of contractual cash flows. The discount rate was estimated utilizing the rate currently offered for deposits of similar remaining maturities. BORROWINGS For short-term borrowings, the carrying amount was considered to be a reasonable estimate of fair value. For long-term borrowings, the fair value was based upon the discounted value of the cash flows. The discount rates utilized were based on rates currently available with similar terms and maturities. OFF-BALANCE-SHEET INSTRUMENTS For commitments to extend credit and letters of credit, the fair value would approximate fees currently charged to enter into similar agreements. The estimated fair values of the Company's financial instruments at December 31, were as follows (in thousands):
2001 2000 ------------------------ ------------------------ Book Fair Book Fair value value value value - -------------------------------------------------------------------------------- FINANCIAL ASSETS: Cash and cash equivalents $ 53,875 $ 53,875 $ 35,119 $ 35,119 FHLB-NY stock 20,541 20,541 19,643 19,643 Investment securities available for sale 107,988 107,988 234,970 234,970 Mortgage-backed securities available for sale 642,716 642,716 447,022 447,022 Loans receivable, net 1,242,779 1,249,043 1,184,802 1,186,987 FINANCIAL LIABILITIES: Deposits 1,315,264 1,323,208 1,219,336 1,220,475 Borrowed funds 545,814 561,551 505,955 507,218 OFF-BALANCE-SHEET INSTRUMENTS: Loan commitments -- 651 -- 192 Standby letters of credit -- 23 -- 23
LIMITATIONS The foregoing fair value estimates were made at December 31, 2001 and 2000, based on pertinent market data and relevant information on the financial instrument. These estimates do not include any premium or discount that could result from an offer to sell, at one time, the Company's entire holdings of a particular financial instrument or category thereof. Since no market exists for a substantial portion of the Company's financial instruments, fair value estimates were necessarily based on judgments with respect to future expected loss experience, current economic conditions, risk assessments of various financial instruments involving a myriad of individual borrowers, and other factors. Given the innately subjective nature of these estimates, the uncertainties surrounding them and the matters of significant judgment that must be applied, these fair value estimations cannot be calculated with precision. Modifications in such assumptions could meaningfully alter these estimates. First Sentinel Bancorp, Inc. and Subsidiaries 31 Since these fair value approximations were made solely for on- and off-balance-sheet financial instruments at December 31, 2001 and 2000, no attempt was made to estimate the value of anticipated future business of the value of nonfinancial statement assets and liabilities. Other important elements which are not deemed to be financial assets or liabilities include the value of the Company's retail branch delivery system, its existing core deposit base, premises and equipment, and goodwill. Further, certain tax implications related to the realization of the unrealized gains and losses could have a substantial impact on these fair value estimates and have not been incorporated into any of the estimates. (16) CONDENSED FINANCIAL STATEMENTS-- PARENT COMPANY The condensed financial statements of First Sentinel Bancorp (parent company only) are presented below: CONDENSED STATEMENTS OF FINANCIAL CONDITION December 31, 2001 2000 - -------------------------------------------------------------------------------- (In thousands) ASSETS Cash $ 16,920 $ 1,667 Due from subsidiaries 2,734 3,603 ESOP loan receivable 11,745 12,346 Investment in subsidiaries 199,086 180,447 Investment securities available for sale 24,553 23,713 Other assets 1,112 1,543 - -------------------------------------------------------------------------------- Total assets $256,150 $223,319 ================================================================================ LIABILITIES AND STOCKHOLDERS' EQUITY Junior subordinated deferrable interest debentures $ 25,774 $ -- Other liabilities 249 1,156 Stockholders' equity 230,127 222,163 - -------------------------------------------------------------------------------- Total liabilities and stockholders' equity $256,150 $223,319 ================================================================================ CONDENSED STATEMENTS OF INCOME Year Ended December 31, 2001 2000 1999 - ------------------------------------------------------------------------------- (In thousands) Income Dividends from subsidiary $ 20,000 $ 37,000 $ 49,400 Interest and dividends on securities 1,628 2,007 1,555 Net (loss) gain on sales of securities (118) 86 179 - ------------------------------------------------------------------------------- Total income 21,510 39,093 51,134 - ------------------------------------------------------------------------------- Expense Other expense 1,030 703 1,343 - ------------------------------------------------------------------------------- Total expense 1,030 703 1,343 - ------------------------------------------------------------------------------- Income before taxes 20,480 38,390 49,791 Income taxes 1,474 878 543 - ------------------------------------------------------------------------------- Income before equity in undistributed income of subsidiaries 19,006 37,512 49,248 Equity in undistributed income (dividends in excess of earnings) of subsidiaries 6,305 (14,544) (25,596) - ------------------------------------------------------------------------------- Net income $ 25,311 $ 22,968 $ 23,652 =============================================================================== CONDENSED STATEMENTS OF CASH FLOWS Year Ended December 31, 2001 2000 1999 - ---------------------------------------------------------------------------- (In thousands) OPERATING ACTIVITIES Net Income $ 25,311 $ 22,968 $ 23,652 Adjustments to reconcile net income to net cash provided by operating activities: (Increase in undistributed earnings) dividends in excess of earnings of subsidiaries (6,305) 14,544 25,596 Net losses (gains) on sales of investment securities available for sale 118 (86) (179) Decrease (increase) in other assets 92 1,012 858 (Decrease) increase in other liabilities (907) 75 (678) ESOP expense 1,227 932 820 Amortization of RRP 878 1,079 1,260 - ---------------------------------------------------------------------------- Net cash provided by operating activities 20,414 40,524 51,329 - ---------------------------------------------------------------------------- INVESTING ACTIVITIES Purchase of investment securities (15,688) (7,814) (20,407) Proceeds from sales and maturities of investment securities available for sale 16,045 6,657 22,280 Decrease (increase) in Due from subsidiaries 869 (1,303) (600) - ---------------------------------------------------------------------------- Net cash provided by (used in) investing activities 1,226 (2,460) 1,273 - ---------------------------------------------------------------------------- FINANCING ACTIVITIES Cash dividends paid (9,147) (13,844) (8,620) Stock options exercised 926 143 1,483 Net proceeds from issuance of junior subordinated deferrable interest debentures 24,171 -- -- Purchase of treasury stock (22,227) (48,646) (48,035) Purchase and retirement of common stock (110) (279) (299) - ---------------------------------------------------------------------------- Net cash used in financing activities (6,387) (62,626) (55,471) - ---------------------------------------------------------------------------- Net increase (decrease) in cash 15,253 (24,562) (2,869) Cash at beginning of the year 1,667 26,229 29,098 - ---------------------------------------------------------------------------- Cash at end of year $ 16,920 $ 1,667 $ 26,229 ============================================================================ 32 First Sentinel Bancorp, Inc. and Subsidiaries (17) QUARTERLY FINANCIAL DATA (UNAUDITED) The following table contains quarterly financial data for the years ended December 31, 2001 and 2000 (dollars in thousands, except per share data):
First Second Third Fourth YEAR ENDED DECEMBER 31, 2001 quarter quarter quarter quarter - ---------------------------------------------------------------------------------------------------------------------------------- Interest income $34,270 $33,302 $33,320 $32,693 Interest expense 19,825 18,482 18,758 17,619 - ---------------------------------------------------------------------------------------------------------------------------------- Net interest income 14,445 14,820 14,562 15,074 Provision for loan losses 200 150 150 150 - ---------------------------------------------------------------------------------------------------------------------------------- Net interest income after provision for loan losses 14,245 14,670 14,412 14,924 Non-interest income 1,003 1,021 1,379 1,052 Non-interest expense 6,540 6,509 6,267 6,618 - ---------------------------------------------------------------------------------------------------------------------------------- Income before income tax expense 8,708 9,182 9,524 9,358 Income tax expense 2,792 2,956 2,955 2,758 - ---------------------------------------------------------------------------------------------------------------------------------- Net income $ 5,916 $ 6,226 $ 6,569 $ 6,600 ================================================================================================================================== Basic earnings per share $0.19 $0.20 $0.22 $0.22 ================================================================================================================================== Diluted earnings per share $0.19 $0.20 $0.21 $0.22 ================================================================================================================================== First Second Third Fourth Year Emded December 31, 2000 quarter quarter quarter quarter - ---------------------------------------------------------------------------------------------------------------------------------- Interest income $32,847 $34,173 $35,145 $34,624 Interest expense 18,229 19,343 20,848 20,452 - ---------------------------------------------------------------------------------------------------------------------------------- Net interest income 14,618 14,830 14,297 14,172 Provision for loan losses 393 393 393 262 - ---------------------------------------------------------------------------------------------------------------------------------- Net interest income after provision for loan losses 14,225 14,437 13,904 13,910 Non-interest income 738 701 70 760 Non-interest expenses 6,331 6,253 5,795 6,299 - ---------------------------------------------------------------------------------------------------------------------------------- Income before income tax expense 8,632 8,885 8,179 8,371 Income tax expense 2,896 3,089 2,538 2,576 - ---------------------------------------------------------------------------------------------------------------------------------- Net income $ 5,736 $ 5,796 $ 5,641 $ 5,795 ================================================================================================================================== Basic earnings per share $ 0.16 $ 0.17 $ 0.17 $ 0.18 ================================================================================================================================== Diluted earnings per share $ 0.16 $ 0.17 $ 0.17 $ 0.18 ==================================================================================================================================
First Sentinel Bancorp, Inc. and Subsidiaries 33 INDEPENDENT AUDITORS' REPORT The Board of Directors and Stockholders First Sentinel Bancorp, Inc.: We have audited the accompanying consolidated statements of financial condition of First Sentinel Bancorp, Inc. and Subsidiaries as of December 31, 2001 and 2000, and the related consolidated statements of income, stockholders' equity, and cash flows for each of the years in the three-year period ended December 31, 2001. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of First Sentinel Bancorp, Inc. and Subsidiaries as of December 31, 2001 and 2000, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2001 in conformity with accounting principles generally accepted in the United States of America. KPMG LLP Short Hills, New Jersey January 18, 2002 34 First Sentinel Bancorp, Inc. and Subsidiaries SHAREHOLDER INFORMATION DIVIDEND REINVESTMENT PLAN First Sentinel offers its shareholders a convenient plan to increase their investment in the Company. Shareholders can elect to have their quarterly cash dividends automatically reinvested in additional shares of common stock at market price without any commissions or service charges. In the alternative, shareholders can elect to have their cash dividends automatically deposited in an account at First Savings Bank. Shareholders may request information about the plan and an enrollment card by contacting the Company's executive offices at 877-636-BANK. TRANSFER AGENT Registrar and Transfer Company 10 Commerce Drive Cranford, NJ 07016 800-368-5948 www.rtco.com MARKET MAKERS Friedman, Billings, Ramsey & Co., Inc. 1001 Nineteenth Street North Arlington, VA 22209-1722 Janney Montgomery Scott, LLC 1801 Market Street Philadelphia, PA 19103 Ryan, Beck & Co. 220 South Orange Avenue Livingston, NJ 07039 Sandler O'Neill & Partners, L.P. 919 Third Avenue, 6th Floor New York, NY 10022 AUDITORS KPMG LLP 150 John F. Kennedy Parkway Short Hills, NJ 07078 COUNSEL Wilentz Goldman & Spitzer 90 Woodbridge Center Drive Woodbridge, NJ 07095 Thacher Proffitt & Wood 11 West 42nd Street New York, NY 10036 INVESTOR RELATIONS Ann C. Clancy, Senior Vice President First Sentinel Bancorp, Inc. 1000 Woodbridge Center Drive Woodbridge, NJ 07095 732-726-9700 ANNUAL MEETING First Sentinel's Annual Meeting of Shareholders will be held on Tuesday, May 21, 2002, at 10:00 a.m. at the Sheraton at Woodbridge Place, 515 Route 1 South, Iselin, New Jersey. 10-K AVAILABILITY Copies of First Sentinel's Form 10-K for the year ended December 31, 2001, are available free-of-charge to shareholders upon written request to First Sentinel Bancorp, Inc., 1000 Woodbridge Center Drive, Woodbridge, New Jersey 07095; Attention: Bonnie Petz. The 10-K is also available on the Company's website at www.firstsentinelbancorp.com. CONTACTS Persons seeking general or financial information about First Sentinel should contact Investor Relations at 732-726-9700 ext. 5514 or visit the Company's website at www.firstsentinelbancorp.com. Shareholders seeking information regarding stock records, changing the name, address or ownership of stock or reporting lost certificates should contact the Company's transfer agent, Registrar and Transfer Company, at 800-368-5948 or visit their website at www.rtco.com to complete forms online. MARKET INFORMATION FOR COMMON STOCK First Sentinel Bancorp, Inc. common stock trades on the Nasdaq Stock Market under the symbol "FSLA." Newspaper financial sections list the stock as FSLA or FSentBc. At December 31, 2001, there were 2,828 holders of record of First Sentinel's common stock. The following table sets forth the high and low bid prices per share of the Company's common stock, as reported on the Nasdaq National Market.
2001 2000 -------------------------- ------------------------- Dividends Dividends High Low Paid High Low Paid - ----------------------------------------------------------------------------------- Fourth quarter $13.20 $10.95 $.075 $11.50 $8.69 $.060 Third quarter 13.40 11.65 .075 9.81 8.00 .060 Second quarter 13.60 10.44 .075 8.63 7.25 .060 First quarter 11.50 9.88 .075 8.25 7.09 .210*
* Includes a special cash dividend of $0.15 paid in January 2000. First Sentinel Bancorp, Inc. and Subsidiaries 35 EX-23.0 4 c23758_23-0.txt INDEPENDENT ACCOUNTANTS' CONSENT Exhibit 23.0 INDEPENDENT ACCOUNTANTS' CONSENT The Board of Directors First Sentinel Bancorp, Inc.: We consent to incorporation by reference in the Registration Statements No. 333-85039, No. 333-72057 and No. 333-73237 on Form S-8, of our report dated January 18, 2002, relating to the consolidated statements of financial condition of First Sentinel Bancorp, Inc. and Subsidiaries as of December 31, 2001 and 2000 and the related consolidated statements of income, stockholders' equity, and cash flows for each of the years in the three-year period ended December 31, 2001, which report is incorporated by reference in the December 31, 2001 Annual Report on Form 10-K of First Sentinel Bancorp, Inc. KPMG LLP Short Hills, New Jersey March 29, 2002 -----END PRIVACY-ENHANCED MESSAGE-----