-----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, AL0KNnLmxhGVGu+shioAdjwZGGSJLjd2SLssB3iv27pCzyULkM/M150YhHwa3HTe RK9Lvrkk7dbu5O8hn4nSDA== 0000891020-99-000849.txt : 19990517 0000891020-99-000849.hdr.sgml : 19990517 ACCESSION NUMBER: 0000891020-99-000849 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19990331 FILED AS OF DATE: 19990514 FILER: COMPANY DATA: COMPANY CONFORMED NAME: WEST COAST BANCORP /NEW/OR/ CENTRAL INDEX KEY: 0000717059 STANDARD INDUSTRIAL CLASSIFICATION: STATE COMMERCIAL BANKS [6022] IRS NUMBER: 930810577 STATE OF INCORPORATION: OR FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 000-10997 FILM NUMBER: 99621198 BUSINESS ADDRESS: STREET 1: 5335 SW MEADOWS RD STREET 2: SUITE 201 CITY: LAKE OSWEGO STATE: OR ZIP: 97035 BUSINESS PHONE: 5036840884 MAIL ADDRESS: STREET 1: 5335 SW MEADOWS RD STREET 2: SUITE 201 CITY: LAKE OSWEGO STATE: OR ZIP: 97035 FORMER COMPANY: FORMER CONFORMED NAME: COMMERCIAL BANCORP DATE OF NAME CHANGE: 19920703 10-Q 1 FORM 10-Q 1 U.S. SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 --------------------------------- Form 10-Q [X] Quarterly Report Under Section 13 or 15(d) of the Securities Exchange Act of 1934 For the Quarter Ended March 31, 1999 [ ] Transition report under Section 13 or 15(d) of the Securities Exchange Act of 1934 Commission file number 0-10997 WEST COAST BANCORP (Exact name of registrants specified in its charter) Oregon 93-0810577 (State or other jurisdiction (IRS Employer incorporation or organization) Identification No.) 5335 Meadows Road, Suite 201, Lake Oswego, Oregon 97035 (Address of Principal executive offices) (Zip code) (503) 684-0884 (Registrant's telephone number, including area code) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No. [ ] Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date: Common Stock, no par value, outstanding on April 30, 1999: 14,131,805 2 TABLE OF CONTENTS PART I. Financial Information
Item 1. Financial Statements Page Consolidated Balance Sheets - March 31, 1999 and December 31, 1998..............................3 Consolidated Statements of Income - Three months ended March 31, 1999 and 1998........................4 Consolidated Statements of Cash Flows - Three months ended March 31, 1999 and 1998........................5 Consolidated Statements of Changes in Stockholders' Equity........6 Notes to Consolidated Financial Statements........................7 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations..............................11 Item 3. Quantitative and Qualitative Disclosures About Market Risk.......23 PART II. Other Information Item 101. Legal Proceeding.................................................24 Item 6. Exhibits and Reports on Form 8-K.................................24 Signatures.......................................................25
2 3 PART I. FINANCIAL INFORMATION Item 1. WEST COAST BANCORP CONSOLIDATED BALANCE SHEETS
March 31, December 31, 1999 1998 --------------- --------------- (Unaudited) ASSETS: Cash and cash equivalents: Cash and due from banks ...................... $ 73,637,110 $ 80,923,069 Interest-bearing deposits in other banks ..... 1,150,872 568,825 --------------- --------------- Total cash and cash equivalents .......... 74,787,982 81,491,894 Investment securities: Investments available for sale ............... 247,050,071 253,271,239 Investments held to maturity ................. -- 2,695,531 --------------- --------------- Total investment securities .............. 247,050,071 255,966,770 Loans held for sale ............................... 6,242,677 15,972,711 Loans ............................................. 879,517,870 862,052,215 Allowance for loan loss ........................... (12,721,650) (12,452,694) --------------- --------------- Loans, net ................................... 866,796,220 849,599,521 Premises and equipment, net ....................... 29,970,632 29,689,405 Intangible assets ................................. 2,629,541 2,727,564 Other assets ...................................... 20,024,711 19,975,557 --------------- --------------- Total assets ............................. $ 1,247,501,834 $ 1,255,423,422 =============== =============== LIABILITIES AND STOCKHOLDERS' EQUITY LIABILITIES: Deposits: Demand ....................................... $ 197,467,375 $ 205,408,337 Savings and interest-bearing demand .......... 564,031,841 559,211,508 Certificates of deposits ..................... 339,931,568 343,837,191 --------------- --------------- Total deposits ........................... 1,101,430,784 1,108,457,036 Other liabilities ................................. 9,193,217 9,481,233 Long-term borrowings .............................. 19,867,128 20,259,985 --------------- --------------- Total liabilities ........................ 1,130,491,129 1,138,198,254 Commitments and contingent liabilities STOCKHOLDERS' EQUITY: Preferred stock: no par value, none issued; 10,000,000 shares authorized Common stock: no par value, 50,000,000 shares Authorized; shares issued and outstanding 14,171,720 and 14,235,931 respectively ....... 17,714,650 17,794,914 Additional paid-in capital ........................ 64,221,068 66,474,468 Retained earnings ................................. 32,993,313 29,392,264 Accumulated other comprehensive income ............ 2,081,674 3,563,522 --------------- --------------- Total stockholders' equity ................... 117,010,705 117,225,168 --------------- --------------- Total liabilities and stockholders' equity $ 1,247,501,834 $ 1,255,423,422 =============== ===============
The accompanying notes are an integral part of these consolidated statements. 3 4 WEST COAST BANCORP CONSOLIDATED STATEMENTS OF INCOME
Three months ended March 31, ------------------------------- 1999 1998 ----------- ----------- INTEREST INCOME (Unaudited) Interest and fees on loans ...................... $20,077,974 $20,212,888 Interest on taxable investment securities ....... 2,523,907 2,046,749 Interest on nontaxable investment securities .... 1,130,328 894,940 Interest from other banks ....................... 72,127 545,870 Interest on federal funds sold .................. 8,615 6,352 ----------- ----------- Total interest income ...................... 23,812,951 23,706,799 INTEREST EXPENSE Savings and interest-bearing demand ............. 3,947,007 3,960,533 Certificates of deposit ......................... 4,493,936 4,282,430 Short-term borrowings ........................... 110,918 284,726 Long-term borrowings ............................ 256,272 456,401 ----------- ----------- Total interest expense ..................... 8,808,133 8,984,090 ----------- ----------- NET INTEREST INCOME ............................. 15,004,818 14,722,709 PROVISION FOR LOAN LOSS ......................... 510,000 1,485,415 ----------- ----------- NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSS 14,494,818 13,237,294 NONINTEREST INCOME Gains on sales of loans ......................... 1,235,766 1,094,397 Service charges on deposit accounts ............. 1,158,041 1,086,118 Other service charges, commissions and fees ..... 1,031,125 789,004 Trust revenue ................................... 528,028 786,477 Loans servicing fees ............................ 155,965 143,412 Other ........................................... 484,230 168,088 Net gains on sales of securities ................ 102,905 100,886 ----------- ----------- Total noninterest income ................... 4,696,060 4,168,382 NONINTEREST EXPENSE Salaries and employee benefits .................. 6,962,929 7,265,763 Equipment ....................................... 1,267,592 1,213,493 Occupancy ....................................... 875,317 814,138 Communications .................................. 425,788 376,800 Marketing ....................................... 359,398 387,236 Professional fees ............................... 327,604 420,644 Printing and office supplies .................... 288,542 408,482 Restructuring charges ........................... 404,573 -- Other noninterest expense ....................... 1,834,249 2,268,506 ----------- ----------- Total noninterest expense .................. 12,745,992 13,155,062 INCOME BEFORE INCOME TAXES ...................... 6,444,886 4,250,614 PROVISION FOR INCOME TAXES ...................... 2,064,810 1,504,007 ----------- ----------- NET INCOME ...................................... $ 4,380,076 $ 2,746,607 =========== =========== Basic earnings per share ................... $ .31 $ .20 Diluted earnings per share ................. $ .30 $ .19
The accompanying notes are an integral part of these consolidated statements. 4 5 WEST COAST BANCORP CONSOLIDATED STATEMENTS OF CASH FLOWS
Three months ended March 31, ------------------------------------ 1999 1998 ------------- ------------- (Unaudited) CASH FLOWS FROM OPERATING ACTIVITIES Net income ............................................................... $ 4,380,076 $ 2,746,607 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization of premises and equipment ............. 807,535 699,136 Amortization of intangibles ......................................... 98,023 115,287 Net (gain) on sales of available for sale investments ............... (102,905) (100,886) Provision for loan losses ........................................... 510,000 1,485,415 Increase in interest receivables .................................... (193,552) (384,118) Decrease (increase) in other assets ................................. 144,398 (2,340,249) Net cash provided by loans held for sale ............................ 9,730,034 4,185,575 (Decrease) increase in interest payable ............................. (60,158) 149,839 (Decrease) increase in other liabilities ............................ (227,858) 2,629,428 Tax benefit associated with stock options ........................... 302,330 759,726 ------------- ------------- Net cash provided by operating activities ....................... 15,387,923 9,945,760 CASH FLOWS FOR INVESTING ACTIVITIES Proceeds from maturities of investment securities: Available for sale .................................................. 17,557,231 8,888,175 Held to maturity .................................................... -- 4,126 Proceeds from sales of available for sale investment securities .......... 7,900,393 2,820,000 Purchase of investment securities: Available for sale .................................................. (17,919,868) (10,235,517) Loans made to customers greater than principal collected on loans ........ (17,706,699) (27,206,962) Capital expenditures ..................................................... (1,088,762) (2,181,907) ------------- ------------- Net cash used in investing activities ............................... (11,257,705) (27,912,085) CASH FLOWS FROM FINANCING ACTIVITIES Net (decrease) increase in demand, savings and interest bearing transaction accounts ........................................ (3,120,629) 25,512,421 Net (decrease) increase in proceeds from sales of certificates of deposits greater than payments for maturing time deposits .................... (3,905,623) 13,300,558 Proceeds from long-term borrowings ....................................... -- 11,000,000 Payments on long-term borrowings ......................................... (392,857) (785,715) Net decrease in short-term borrowings .................................... -- (5,788,000) Redemption of common stock for stock repurchase plan ..................... (3,059,444) -- Sales of common stock, net ............................................... 423,450 840,734 Dividends paid and cash paid for fractional shares ....................... (779,027) (640,590) ------------- ------------- Net cash (used) provided by financing activities .................... (10,834,130) 43,439,408 ------------- ------------- NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS ..................... (6,703,912) 25,473,083 CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR ........................... 81,491,894 98,817,658 ------------- ------------- CASH AND CASH EQUIVALENTS AT END OF PERIOD ............................... $ 74,787,982 $ 124,290,741 ============= =============
The accompanying notes are an integral part of these consolidated statements. 5 6 WEST COAST BANCORP CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (Unaudited)
Accumulated Additional Other Common Stock Paid-In Retained Comprehensive Shares Amount Capital Earnings Income Total ------------- ------------- ------------- ------------- ------------- ------------- BALANCE, December 31, 1997 .... 12,606,009 $ 15,757,511 $ 43,213,086 $ 40,599,130 $ 1,570,591 $ 101,140,318 Comprehensive income: Net income .................... -- -- -- 14,058,671 -- 14,058,671 Other comprehensive income, net of tax: Net unrealized investment gains .................... -- -- -- -- -- 2,207,313 Reclassification adjustment for gains included in net income ........... -- -- -- -- -- (214,382) ------------- Other comprehensive income, net of tax ....... -- -- -- -- 1,992,931 1,992,931 ------------- Comprehensive income .......... 16,051,602 ============= Cash dividends, $.21 per common share ......... -- -- -- (2,972,623) -- (2,972,623) Sale of common stock pursuant to stock options plans ...... 412,485 515,606 2,209,761 -- -- 2,725,367 Redemption of stock pursuant to stock options plans ...... (23,422) (29,278) (440,805) -- -- (470,083) Common stock repurchased and retired .............. (50,000) (62,500) (966,530) -- -- (1,029,030) 10 percent stock dividend ..... 1,291,627 1,614,535 20,666,030 (22,280,565) -- -- Cash paid for fractional shares (768) (960) -- (12,349) -- (13,309) Tax benefit associated with stock options ....... -- -- 1,792,926 -- -- 1,792,926 ------------- ------------- ------------- ------------- ------------- ------------- BALANCE, December 31, 1998 .... 14,235,931 $ 17,794,914 $ 66,474,468 $ 29,392,264 $ 3,563,522 $ 117,225,168 Comprehensive income: Net income .................... -- -- -- 4,380,076 -- 4,380,076 Other comprehensive income, net of tax: Net unrealized investment gains ......... -- -- -- -- -- (1,676,545) Cumulative effect of change in accounting principle ...... -- -- -- -- -- 131,369 Reclassification adjustment for gains included in net income ... -- -- -- -- -- 63,328 ------------- Other comprehensive (loss), net of tax ....... -- -- -- -- (1,481,848) (1,481,848) ------------- Comprehensive income .......... 2,898,229 ============= Cash dividends, $.055 per common share ... -- -- -- (779,027) -- (779,027) Sale of common stock pursuant to stock options plans ......... 101,858 127,322 613,869 -- -- 741,191 Redemption of stock pursuant to stock option plans .......... (16,069) (20,086) (297,655) -- -- (317,741) Common stock repurchased and retired .............. (150,000) (187,500) (2,871,944) -- -- (3,059,444) Tax benefit associated with stock options ....... -- -- 302,330 -- -- 302,330 ------------- ------------- ------------- ------------- ------------- ------------- BALANCE, March 31, 1999 ....... 14,171,720 $ 17,714,650 $ 64,221,068 $ 32,993,313 $ 2,081,674 $ 117,010,705 ============= ============= ============= ============= ============= =============
The accompanying notes are an integral part of these consolidated statements. 6 7 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. PRINCIPLES OF CONSOLIDATION The accompanying consolidated financial statements include the accounts of West Coast Bancorp (Bancorp or the Company) which operates its wholly-owned subsidiaries, West Coast Bank, West Coast Trust, Centennial Funding Corporation and Totten, Inc. after elimination of intercompany transactions and balances. The interim financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments including normal recurring accruals necessary for fair presentation of results of operations for the interim periods included herein have been made. The results of operations for the three months ended March 31, 1999 are not necessarily indicative of results to be anticipated for the year ending December 31, 1999, or other future periods. 2. USE OF ESTIMATES IN THE PREPARATION OF FINANCIAL STATEMENTS The preparation of financial statements, in conformity with generally accepted accounting principles, requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. 3. BUSINESS COMBINATIONS Effective February 28, 1998, Bancorp completed its acquisition of Centennial Holdings, Ltd. in Olympia, Washington. Its principal business activities were conducted through Centennial Bank, which has continued as a wholly-owned commercial bank subsidiary of Bancorp. The merger was accounted for as a pooling-of-interests. The historical consolidated financial statements have been restated and include the accounts and results of operations of Centennial Holdings, Ltd. 4. ACCOUNTING CHANGES In 1998, Financial Accounting Standards Board issued SFAS NO. 133, "Accounting for Derivative Instruments and Hedging Activities". The statement establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts and for hedging activities. It requires that an entity recognize all derivatives as either assets or liabilities in the statements of financial position and measure those instruments at fair value. Effective January 1, 1999, Bancorp adopted SFAS NO. 133, "Accounting for Derivative Instruments and Hedging Activities". The adoption of SFAS 133 did not materially impact the financial position or results of operations of Bancorp. Bancorp does not currently utilize derivative instruments in its operations, and does not engage in hedging activities. Under the provisions of SFAS NO. 133, and in connection with the adoption of SFAS 133, Bancorp reclassified investment securities carried at $2,695,531 with a market value of $2,909,000 from the held to maturity classification to the available for sale classification. As a result of this transfer, an unrealized gain of $131,000, net of tax, was recognized in accumulated other comprehensive income as a cumulative effect of change in accounting principle. 7 8 5. RESTRUCTURING CHARGES In September 1998, Bancorp announced its plan to combine its four separate banking affiliates into a single banking entity to be operated under the name West Coast Bank. Bancorp anticipates one-time costs of approximately $5 million to cover costs of the consolidation, including the severance program, signage, data conversions and other marketing, regulatory and administrative costs. Since the initiation of the restructuring plan in September 1998, Bancorp has expensed $4.173 million of these costs with the remaining costs to be expensed as incurred, mainly in the second quarter of 1999. Of the one-time expenses, $404,573 has been recognized in the first quarter of 1999. The following table summarizes the accrued restructuring charges utilized in the first quarter.
(Dollars in Thousands) March 31, 1999 - ---------------------- -------------- Balance, accrued restructuring charges, December 31, 1998 $1,760 Provision for restructure charges ....................... -- Utilization: Cash ............................................... 589 Noncash ............................................ -- ------ Total Utilization ....................................... 589 ------ Balance, accrued restructuring charges, end of period ... $1,171 ======
Total restructuring charges of $1.92 million were accrued in the fourth quarter of 1998 to cover anticipated costs of $1.73 million for the severance program and personnel related expenditures, with the remaining $188,000 in costs reserved for marketing and professional fees incurred but not yet paid. As of March 31, 1999, Bancorp has an accrual for the restructuring charges of $1.171 million of which $1.151 million is for severance and employment costs and the remaining amount is for unpaid professional fees. During the first quarter of 1999 $583,000 of the severance and employee related program costs and $6,000 of the marketing and professional fees have been charged against the accrual. As a result of the consolidation, Bancorp expects to reduce employment by approximately 100 administrative and back office positions. 6. STOCKHOLDERS' EQUITY The Board of Directors declared a quarterly cash dividend of $.055 per share during the first quarter of 1999. A dividend of $.045 per share was declared in the first quarter of 1998. A 10 percent stock dividend was also declared in the third quarter of 1998. All per share amounts have been restated to retroactively reflect stock dividends and stock splits previously reported. 7. SUPPLEMENTAL CASH FLOW INFORMATION For purposes of reporting cash flows, cash and cash equivalents include cash on hand, amounts due from banks, and federal funds sold. Generally, federal funds are purchased and sold for one-day periods. Bancorp paid $8,868,000 and $8,834,000 for interest in the three months ended March 31, 1999 and 1998, respectively. Income taxes paid were $510,000 and $20,934 in the three months ended March 31, 1999 and 1998 respectively. 8. CONTINGENCIES AND LITIGATION During the normal course of business, the Company from time-to-time is subject to routine litigation incidental to its business. The Bank and Bancorp are defendants in a lawsuit seeking damages in excess of $4.6 million or specific performance, based on an alleged financing commitment made by the Bank to the plaintiffs. The Bank denies the existence of any agreement or commitment to plaintiffs. Due to the nature and uncertainties inherent in litigation, there are no assurances that these matters would not at some point in the future have a material effect on the Company. However, at this time, management believes that the probable resolution of those matters will not materially affect the financial position of the Company. 8 9 9. COMPREHENSIVE INCOME Bancorp adopted SFAS No. 130 "Reporting Comprehensive Income" in 1998. This statement established standards for reporting and displaying comprehensive income and its components. The following table displays the components of other comprehensive income:
Three Months ended March 31, --------------------------- (Dollars in thousands) 1999 1998 ---------- --------- Unrealized gains on securities: Unrealized holding losses arising during the period ........... $(2,692) $ (281) Tax benefit .................................................. 1,016 113 ------- ------- Unrealized holdings losses arising during the period, after tax (1,676) (168) Cumulative effect of change in accounting principle ........... 213 -- Tax expense ................................................... (82) -- ------- ------- Cumulative effect of change in accounting principle after tax . 131 -- Less: Reclassification adjustment for gains realized in income 103 101 Tax expense ................................................... (40) (39) ------- ------- Net unrealized gains .......................................... 63 62 ------- ------- Other comprehensive (loss) .................................... $(1,482) $ (106) ======= =======
10. EARNINGS PER SHARE The following table reconciles the numerator and denominator of the basic and diluted earnings per share computations:
Weighted Average Per-Share Net Income Shares Amount ---------------------------------------------- Three Months ended March 31, 1999 ---------------------------------------------- Basic earnings per share . $4,380,076 14,176,402 $ 0.31 Stock options ............ 405,189 Diluted earnings per share $4,380,076 14,581,591 $ 0.30 Three Months ended March 31, 1998 ---------------------------------------------- Basic earnings per share . $2,746,607 13,913,278 $ 0.20 Stock options ............ 754,771 Diluted earnings per share $2,746,607 14,668,049 $ 0.19
Bancorp for the periods reported had no reconciling items between net income and income available to common shareholders. 11. SEGMENT AND RELATED INFORMATION Bancorp adopted SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information," in 1998 which established standards for the way enterprises report information about operating segments. During 1998, Bancorp operated four community banks until December 1998 when these banks were consolidated into one banking entity. Until late in 1998 separate management teams managed the four banks, relying on common support services offered though the parent company. The four banks operated in Oregon and Washington, where the economic and regulatory factors were similar for the banks; three of the four banks shared the Portland, Oregon market. The banks used similar means of branch networks, marketing and technology to deliver similar loan and deposit products and services. Following the consolidation to a single banking entity, the bank operates 41 branch offices, and has realigned management resources into a single team. Through the consolidation to a one bank structure, Bancorp has aggregated its historical banking operations into a single segment as shown below. 9 10 Bancorp accounts for intercompany fees and services at an estimated fair value according to regulatory requirements for the service provided. Intercompany items relate primarily to the use of accounting, human resources, data processing and marketing services provided. All other accounting policies are the same as those described in the summary of significant accounting policies in Bancorp's 1998 annual report. Summarized financial information concerning Bancorp's reportable segments and the reconciliation to Bancorp's consolidated results is shown in the following table. The "Other" column includes Bancorp's trust operations and corporate-related items. In 1998, these items included support services such as accounting, human resources, data processing and marketing provided at the parent. During 1999, these support services are operating within the banking unit. Investment in subsidiaries is netted out of the presentations below. The "Intersegment" column identifies the intersegment activities of revenues, expenses and other assets, between the "Banking" and "Other" segment.
(Dollars in thousands) March 31, 1999 Banking Other Intersegment Consolidated ---------- ---------- ---------- ---------- Interest income ............... $ 23,797 $ 40 $ (24) $ 23,813 Interest expense .............. 8,832 -- (24) 8,808 ---------- ---------- ---------- ---------- Net interest income ...... 14,965 40 -- 15,005 ---------- ---------- ---------- ---------- Provision for loan loss ....... 510 -- -- 510 Non-Interest income ........... 4,206 555 (65) 4,696 Restructuring charges ......... 405 -- -- 405 Noninterest expense ........... 11,746 660 (65) 12,341 ---------- ---------- ---------- ---------- Income before income taxes 6,510 (65) -- 6,445 Provision for income taxes .... 2,087 (22) -- 2,065 ---------- ---------- ---------- ---------- Net income .................... $ 4,423 $ (43) $ -- $ 4,380 ========== ========== ========== ========== Depreciation and amortization . $ 895 $ 11 $ -- $ 906 Assets ........................ $1,245,672 $ 8,024 $ (6,194) $1,247,502 Loans, net .................... $ 866,796 $ -- $ -- $ 866,796 Deposits ...................... $1,107,533 $ -- $ (6,102) $1,101,431 Equity ........................ $ 107,363 $ 9,648 $ n/a $ 117,011
(Dollars in thousands) March 31, 1998 Banking Other Intersegment Consolidated ---------- ---------- ---------- ---------- Interest income ............... $ 23,678 $ 42 $ (13) $ 23,707 Interest expense .............. 8,993 4 (13) 8,984 ---------- ---------- ---------- ---------- Net interest income ...... 14,685 38 -- 14,723 ---------- ---------- ---------- ---------- Provision for loan loss ....... 1,513 (28) -- 1,485 Non-Interest income ........... 3,339 2,523 (1,694) 4,168 Restructuring charges ......... -- -- -- -- Noninterest expense ........... 11,664 3,185 (1,694) 13,155 ---------- ---------- ---------- ---------- Income before income taxes 4,847 (596) -- 4,251 Provision for income taxes .... 1,683 (179) -- 1,504 ---------- ---------- ---------- ---------- Net income .................... $ 3,164 $ (417) $ -- $ 2,747 ========== ========== ========== ========== Depreciation and amortization . $ 704 $ 110 $ -- $ 814 Assets ........................ $1,159,788 $ 12,601 $ (4,944) $1,167,445 Loans, net .................... $ 792,212 $ -- $ -- $ 792,212 Deposits ...................... $1,001,951 $ -- $ (4,656) $ 997,295 Equity ........................ $ 93,483 $ 11,258 $ n/a $ 104,741
12. RECLASSIFICATION Certain reclassifications of prior year amounts have been made to conform to current classifications. 10 11 Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FORWARD LOOKING STATEMENT DISCLOSURE In addition to historical information, this report contains certain "forward looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995 (PSLRA) This statement is included for the express purpose of availing Bancorp of the protections of the safe harbor provisions of the PSLRA. The forward looking statements contained in this report are subject to factors, risks, and uncertainties that may cause actual results to differ materially from those projected. Important factors that might cause such a material difference include, but are not limited to, those discussed in this section of the report. In addition, the following items are among the factors that could cause actual results to differ materially from the forward looking statements in this report: general economic conditions, including their impact on capital expenditures; business conditions in the banking industry; the regulatory environment; new legislation; rapidly changing technology and evolving banking industry standards; competitive standards; competitive factors, including increased competition with community, regional, and national financial institutions; fluctuating interest rate environments; and similar matters. Readers are cautioned not to place undue reliance on these forward looking statements, which reflect Management's analysis only as of the date of the statement. Bancorp undertakes no obligation to publicly revise or update these forward-looking statements to reflect events or circumstances that arise after the date of this report. Readers should carefully review the risk factors described in this and other documents Bancorp files from time to time with the Securities and Exchange Commission. RESULTS OF OPERATIONS Three months ended March 31, 1999 and 1998 Net Income. Bancorp reported net income of $4,380,076 or $.30 per diluted share, for the three months ended March 31, 1999, compared to $2,746,607 or $.19 per diluted share for the three months ended March 31, 1998. The 1999 first quarter results include a $405,000 restructuring charge ($255,000 after tax) resulting from Bancorp's consolidation of its subsidiary banks. In addition, the 1998 first quarter results were impacted by non-recurring merger related costs of $1,607,000 ($1,060,000 after taxes). After adjusting for the first quarter non-recurring events, adjusted operating net income was $4,635,000 or $.32 per diluted share, up 22% compared to adjusted operating net income of $3,807,000 or $.26 per diluted share, in the first quarter of 1998. Net interest income increased in the first quarter of 1999 over the comparable period in 1998 due to higher average interest earning assets off set by a declining net interest margin. Noninterest income increased mainly due to gains on sales of loans, an increased customer base, higher transaction volumes, and increases in fee assessments. Total noninterest expenses decreased mainly due to staff reductions and other savings associated with Bancorp's consolidation of its subsidiaries. Net Interest Income. Net interest income is the difference between interest income (principally from loan and investment securities) and interest expense (principally on customer deposits and borrowings). Changes in net interest income result from changes in volume, net interest spread, and net interest margin. Volume refers to the average dollar level of interest earning assets and interest bearing liabilities. Net interest spread refers to the differences between the average yield on interest earning assets and the average cost of interest bearing liabilities. Net interest margin refers to net interest income divided by average interest earning assets and is influenced by the level and relative mix of interest earning assets and interest bearing liabilities. Bancorp's profitability, like that of many financial institutions, is dependent to a large extent upon net interest income. Since Bancorp tends to be slightly liability sensitive, meaning that interest bearing liabilities mature or reprice more quickly than interest earning assets in a given period, therefore, a significant increase in the market rates of interest or flattening interest rate yield curve could adversely affect net interest income. In contrast, a decreasing interest rate environment or steepening interest rate yield curve may slightly improve Bancorp's margin. Competition, the economy, and the status of the interest rate environment also impact Bancorp's net interest income in any period. 11 12 Net interest income on a tax equivalent basis for the three months ended March 31, 1999 increased $313,000 or 2.05%, to $15,587,000 from $15,274,000 for the same period in 1998. The increased net interest income was caused mainly by asset growth, off set by a declining net interest margin. Average interest earning assets increased by $110.9 million, or 10.75%, to $1.14 billion in the first quarter of 1999 from $1.03 billion for the same period in 1998, while average interest bearing liabilities increased $71.0 million or 8.35%. The average net interest spread decreased from 5.23% to 4.80%, mainly due to decreased average earning asset yields, which declined 84 basis points from 9.51% to 8.67%. The low/flat interest rate yield curve has caused variable rate repricing on assets over the period, which along with recent new asset generation and increased competitive pricing, have lead to the decreasing asset yields. In addition, certain fixed rate loan customers have refinanced their loans at the lower rates over the period. Average rates paid decreased 41 basis points to 3.87% in the first quarter of 1999 from 4.28% for the same period in 1998. Bancorp's net interest margin for the three months ended March 31, 1999 was 5.54%, a decrease of 43 basis points from 5.97% for the comparable period of 1998. The decrease in Bancorp's net interest margin and related yields or spreads are due mainly to a changing interest rate environment, increased pricing competition, and a shift in some of its asset mix. Given these factors, Bancorp could see further declines in its interest margin. Continued anticipated refinance activity caused by the low interest rate environment, continued strong competition in the markets it serves, and other economic factors, could further impact the company's net interest margin. Analysis of Net Interest Income The following table presents information regarding yields on interest-earning assets, expense on interest-bearing liabilities, and net yields on interest-earning assets for the periods indicated on a tax equivalent basis:
Three Months Ended (Dollars in thousands) March 31, Increase ------------------------------------ 1999 1998 (Decrease) Change ------------- ------------- -------------- -------------- Interest and fee income (1) ........ $ 24,395 $ 24,168 $ 227 0.94% Interest expense ................... 8,808 8,894 (86) (0.97%) ------------- ------------- ------------- Net interest income ................ $ 15,587 $ 15,274 $ 313 2.05% ============= ============= ============= Average interest earning assets .... $ 1,141,734 $ 1,030,868 $ 110,866 10.75% Average interest bearing liabilities $ 921,925 $ 850,863 $ 71,062 8.35% Average interest earning assets/ interest bearing liabilities .. 123.84% 121.16% 2.68 Average yields earned (2) .......... 8.67% 9.51% (0.84) Average rates paid (2) ............. 3.87% 4.28% (0.41) Net interest spread (2) ............ 4.80% 5.23% (0.43) Net interest margin (2) ............ 5.54% 5.97% (0.43)
(1) Interest earned on nontaxable securities has been computed on a 34% tax equivalent basis. (2) These ratios for the three months ended March 31, 1999 and 1998 have been annualized. Provision for Loan Loss. Bancorp recorded provisions for loan losses for the first quarter of 1999 and 1998 of $510,000 and $1,485,415 respectively. Bancorp's provision was impacted in the first quarter of 1998 by a one time merger-related increase in the provision for loan losses of $1,038,000 related to the Centennial Holdings LTD. acquisition, to bring its allowance for loan loss methodology in line with Bancorp practices. Net charge-offs for the first quarter of 1999 were $241,000, compared to net charge-offs of $146,000 for the same period in 1998. At March 31, 1999, the percentage of non-performing assets was 0.41% of total assets, compared to 0.37% one year earlier. Bancorp's allowance for loan losses, as a percentage of total loans was 1.45% at March 31, 1999, compared to 1.47% as of March 31, 1998. Noninterest Income. Noninterest income for the first quarter of 1999 was $4,696,060, up $527,678 or 12.66% from $4,168,382 in the like period in 1998. Gains on sales of loans increased $141,369 to $1,235,766 in 1999 over 1998, representing 27% of the noninterest income increase in the period. The increase in gains on sales of loans was due mainly to increased activity in the commercial brokerage and residential real estate programs. Service charges on deposit accounts increased to $1,158,041, a 6.62% increase over the same period in 1998, caused mainly by increases in volumes of customers serviced and increases in fee assessments. Other service charges, commissions, and fees increased $242,121 or 30.69% in 1999 over 1998. The increases in other service charges, commissions, and fees were due to strong growth in the merchant bankcard program, sales of investment products, and increased ATM related service charges. Trust revenue decreased in the first quarter of 1999, as compared to the same period in 1998, due in part to the activity and declines in segments of the equity market activities and its associated fee income. Loan servicing fees and other noninterest income increased in 1999 over 1998. Net gains on the sales of securities were $102,905 through March 31, 1999, compared to $100,886 for the same period one year earlier. 12 13 Noninterest Expense. Noninterest expenses for the first quarter ended March 31, 1999, were $12,745,992, a decrease of $409,070 or 3.11% over the same period in 1998. A restructuring charge of $404,573 impacted the first quarter 1999 noninterest expenses, due to the company's recent consolidation of its subsidiary banks, and the March 31, 1998 expenses include $569,000 related to an acquisition. Bancorp's salaries and employee benefits decreased $302,834, or 4.35%, to $6,962,929 through March 31, 1999, from $7,265,763 for the like period in 1998. Salary and employee benefit expense has declined as a result of Bancorp's restructuring efforts. At March 31, 1999, Bancorp employed 662 staffing positions compared to 714 at March 31, 1998. Equipment, occupancy, communications, and other expenses are higher in the first quarter of 1999 over the same period in 1998, due mainly to growth and expansion including additions of new branches, products and services over the period. Equipment expense increased $54,099 or 4.46% in the first quarter of 1999 over 1998. Bancorp continues to invest in technological improvements and expansion. Marketing expense decreased slightly in 1999 compared to 1998. Professional fees incurred for services from outside consultants, accountants, and attorneys are down $93,040 in the first quarter of 1999 compared to the first quarter of 1998. Printing and office supplies decreased in the first quarter of 1999 over the like period in 1998. Other noninterest expense decreased $436,514 in the first quarter of 1999 compared to like period in 1998, due mainly to merger related expenses of $569,000 recognized in the first quarter of 1998. RESTRUCTURING CHARGES For the three months ended March 31, 1999, Bancorp recognized $404,573 in restructuring charges related to its consolidation of its four separate banking affiliates into one entity. The consolidation was completed on December 31, 1998, and new signs on the branch facilities were installed in the first quarter of 1999. In the two quarters since the plan was announced, Bancorp has released, identified, or notified over forty percent of the anticipated 100 staff positions to be reduced. Bancorp anticipates one-time costs of approximately $5 million to cover costs of the consolidation, including the severance plan, signage, data conversions and other marketing, regulatory and administrative items. Bancorp expects that the consolidation will save approximately $6 million annually. The cost savings will come from the reductions in staff and related overhead, a simplified corporate structure, a reduced regulatory burden and synergies created by unified marketing efforts and name branding. The plan calls for two-thirds of the cost savings to be substantially achieved by third quarter 1999, with the remaining savings to be achieved early in the year 2000. Bancorp's liquidity has not been materially affected by cash outlays related to one-time restructuring charges. Bancorp does not anticipate that future restructuring charges will have a material effect on Bancorp's liquidity. INCOME TAXES During the first three months of 1999, due to an increase in net income before taxes and changes in the mix of taxable and nontaxable income items, the provision for income taxes increased from that of 1998. It is anticipated that Bancorp's tax expense will increase in future periods, both due to an increase in income before taxes and a smaller percentage of Bancorp's income being generated from tax exempt items. Any future merger related capitalized costs may also increase Bancorp tax provision. 13 14 LIQUIDITY AND SOURCES OF FUNDS Bancorp's primary sources of funds are customer deposits, maturities of investment securities, sales of "Available for Sale" securities, loan sales, loan repayments, net income, advances from the Federal Home Loan Bank of Seattle ("FHLB"), and the use of Federal Funds markets. Scheduled loan repayments are relatively stable sources of funds, while deposit inflows and unscheduled loan prepayments are not. Deposit inflows and unscheduled loan prepayments are influenced by general interest rate levels, interest rates available on other investments, competition, economic conditions, and other factors. Deposits are Bancorp's primary source of new funds. Total deposits were $1.101 billion at March 31, 1999, down from $1.108 billion at December 31, 1998. Bancorp does not generally accept brokered deposits. A concerted effort has been made to attract deposits in the market area it serves through competitive pricing and delivery of a quality product. Management anticipates that Bancorp will continue relying on customer deposits, maturity of investment securities, sales of "Available for Sale" securities, loan sales, loan repayments, net income, Federal Funds markets, FHLB, and other borrowings to provide liquidity. Although deposit balances have shown historical growth, such balances may be influenced by changes in the banking industry, interest rates available on other investments, general economic conditions, competition, customer management of cash resources prior to year 2000 and other factors. Borrowings may be used on a short-term basis to compensate for reductions in other sources of funds. Borrowings may also be used on a long-term basis to support expanded lending activities and to match maturities or repricing intervals of assets. The sources of such funds will include Federal Funds purchased and borrowings from the FHLB. CAPITAL RESOURCES The Federal Reserve Bank "FRB" and the Federal Deposit Insurance Corporation "FDIC" have established minimum requirements for capital adequacy for bank holding companies and member banks. The requirements address both risk-based capital and leveraged capital. The regulatory agencies may establish higher minimum requirements if, for example, a corporation has previously received special attention or has a high susceptibility to interest rate risk. The FRB and FDIC risk-based capital guidelines require banks and bank holding companies to have a ratio of tier one capital to total risk-weighted assets of at least 4%, and a ratio of total capital to total risk-weighted assets of 8% or greater. In addition, the leverage ratio of tier one capital to total assets less intangibles is required to be at least 3%. As of March 31, 1999, Bancorp and the Bank are considered "Well Capitalized" per the regulatory risk based capital guidelines. Shareholders' equity decreased to $117.0 million at March 31,1999, from $117.2 million at December 31, 1998, a decrease of $200,000 over that period of time. The decrease is mainly a function of Bancorp, through its previously announced stock repurchase plan, acquiring back shares of common stock. At March 31, 1999, Bancorp's shareholders' equity, as a percentage of total assets, was 9.38%, compared to 9.34% at December 31, 1998. The decrease was primarily the result of Bancorp's equity base decreasing less than a decrease in total assets. Equity decreased .2% over the period from December 31, 1998, to March 31, 1999, while assets decreased by .6% over the same period. As the following table indicates, Bancorp currently exceeds the regulatory capital minimum requirements.
(Dollars in thousands) March 31, 1999 ------------------------- Amount Ratio ---------- ----- Tier 1 capital ..................... $ 112,905 11.45% Tier 1 capital minimum requirement . 39,455 4.00% ---------- ----- Excess over minimum Tier 1 capital $ 73,450 7.45% ========== ===== Total capital ...................... $ 125,240 12.70% Total capital minimum requirement .. 78,911 8.00% ---------- ----- Excess over minimum total capital $ 46,329 4.70% ========== ===== Risk-adjusted assets ............... $ 986,385 ========== Leverage ratio ..................... 9.22% Minimum leverage requirement ....... 3.00% ----- Excess over minimum leverage ratio 6.22% ===== Risk-adjusted total assets ......... $1,224,484 ==========
14 15 LENDING AND CREDIT MANAGEMENT Interest earned on the loan portfolio is the primary source of income for Bancorp. Net loans represented 69.48% of total assets as of March 31, 1999. Although the Bank strives to serve the credit needs of the service areas, the primary focus is on real estate related and commercial credits. The Bank makes substantially all its loans to customers located within its service areas. The Bank has no loans defined as highly leveraged transactions by the FRB. Although a risk of nonpayment exists with respect to all loans, certain specific types of risks are associated with different types of loans. Owing to the nature of the Bank's customer base and the growth experienced in the market areas served, real estate is frequently a material component of collateral for the Bank's loans. The expected source of repayment of these loans is generally the cash flow of the project, operations of the borrower's business or personal income. Risks associated with real estate loans include fluctuating land values, local economic conditions, changes in tax policies, and a concentration of loans within any one area. The Bank manages the general risks inherent in the loan portfolio by following loan policies and underwriting practices designed to result in prudent lending activities. The following table presents the composition of the Banks' loan portfolios, at the dates indicated.
March 31, 1999 December 31,1998 ------------------------- -------------------------- (Dollars in thousands) Amount Percent Amount Percent --------- ------ --------- ------ Commercial ................... $ 159,326 18.38% $ 150,206 17.68% Real estate construction ..... 129,916 14.99 118,171 13.91 Real estate mortgage ......... 105,837 12.21 113,661 13.38 Real estate commercial ....... 423,155 48.82 414,169 48.75 Installment and other consumer 61,284 7.07 65,845 7.75 --------- ------ --------- ------ Total loans .................. 879,518 101.47% 862,052 101.47% Allowance for loan losses .... (12,722) (1.47) (12,453) (1.47) --------- ------ --------- ------ Total loans, net ............. $ 866,796 100.00% $ 849,599 100.00% ========= ====== ========= ======
The following table presents information with respect to nonperforming assets.
(Dollars in thousands) March 31, 1999 December 31, 1998 -------------------- -------------- ----------------- Loans on nonaccrual status ..................................... $3,932 $4,565 Loans past due greater than 90 days but not on nonaccrual status 166 42 Other real estate owned ........................................ 957 1,121 ------ ------ Total nonperforming assets ..................................... $5,055 $5,728 ====== ====== Percentage of nonperforming assets to total assets ............. .41% .46%
See "Loan Loss Allowance and Provision" Interest income on loans is accrued daily on the principal balance outstanding. Generally, no interest is accrued on loans when factors indicate collection of interest is doubtful or when the principal or interest payment becomes 90 days past due. Increases in nonaccrual loans in recent years are due substantially from growth in Bancorp's loan portfolio. The nonaccrual loans consist of a number of loans in different categories and are largely secured. For such loans, previously accrued but uncollected interest is charged against current earnings, and income is only recognized to the extent payments are subsequently received. 15 16 As of March 31, 1999, the Bank had loans to persons serving as directors, officers, principal shareholders and their related interests. These loans were made substantially on the same terms, including interest rates, maturities and collateral as those made to other customers of the Banks. At March 31, 1999, Bancorp had $4,470,000 of bankers' acceptances. At March 31, 1999, there was no concentration of loans exceeding 10 percent of the total loans to a multiple number of borrowers engaged in a similar business. LOAN LOSS ALLOWANCE AND PROVISION Bancorp maintains a loan loss allowance to absorb losses inherent in the loan portfolio. The allowance is based on ongoing, quarterly assessments of the probable estimated losses inherent in the loan portfolio, and to a lesser extent, unused commitments to provide financing. Our methodology for assessing the appropriateness of the allowance consists of several key elements, which include: -- The formula allowance, -- Specific allowances for identified problem loans and portfolio segments and -- The unallocated allowance. Bancorp's allowance incorporates the results of measuring impaired loans as provided in: Statement of Financial Accounting Standards ("SFAS") No. 114, "Accounting by Creditors for Impairment of a Loan," and SFAS No 118, "Accounting by Creditors for Impairment of a Loan - Income Recognition and Disclosures." These accounting standards prescribe the measurement methods, income recognition and disclosures concerning impaired loans. The formula allowance is calculated by applying loss factors to outstanding loans and certain unused commitments, in each case based on the internal risk grade of those loans, pools of loans, or commitments. Changes in risk grades of both performing and nonperforming loans affect the amount of the formula allowance. Loss factors are based on our historical loss experience and other such pertinent data and may be adjusted for significant factors that, in management's judgement, affect the collectibility of the portfolio as of the evaluation date. Loss factors are described as follows: -- Problem graded loan loss factors are obtained from four years of historical loss experience. Bancorp is exploring the utilization of a migration model to track historical loss experience. -- Pooled loan loss factors, not individually graded loans, are based on expected net charge-offs for one year. Pooled loans are loans and leases that are homogeneous in nature, such as consumer installment and residential mortgage loans. Specific allowances are established where management has identified significant conditions or circumstances related to a credit that management believes indicate the probability that a loss may be incurred in excess of the amount determined by the application of the formula allowance. The unallocated allowance uses a more subjective method and considers such factors as the following: -- Existing general economic and business conditions affecting our key lending areas, -- Credit quality trends, including trends in nonperforming loans expected to result from existing conditions, -- Collateral values, -- Loan volumes and concentrations, -- Seasoning of the loan portfolio, -- Specific industry conditions within portfolio segments, -- Recent loss experience in particular segments of the portfolio, -- Duration of the current business cycle, -- Bank regulatory examination results and -- Findings of our internal credit examiners. Executive credit management reviews these conditions quarterly in discussion with our senior credit officers. If any of these conditions is evidenced by a specifically identifiable problem credit or portfolio segment as of the evaluation date, management's estimate of the effect of this condition may be reflected as a specific allowance applicable to this credit or portfolio segment. Where any of these conditions is not evidenced by a specifically identifiable problem credit or portfolio segment as of the evaluation date, management's evaluation of the probable loss concerning this condition is reflected in the unallocated allowance. 16 17 The allowance for credit losses is based upon estimates of probable losses inherent in the loan portfolio. The amount actually observed for these losses can vary significantly from the estimated amounts. Our methodology includes several features that are intended to reduce the differences between estimated and actual losses. By assessing the probable estimated losses inherent in the loan portfolio on a quarterly basis, we are able to adjust specific and inherent loss estimates based upon any more recent information that has become available. Recently acquired loan portfolios are reviewed and an overall assessment is made using Bancorp's methodology as to the adequacy of the loan portfolios, and any necessary adjustments to the allowance are made as they are identified. A detailed review of the acquired loan portfolio follows, and Bancorp's loan grading system is then applied to the portfolio. Any further adjustments to the allowance are recorded in the period they are identified. The following table summarizes the Banks' allowance for loan losses, charge-offs and recovery activity:
Three months ended Year ended (Dollars in thousands) March 31, 1999 December 31, 1998 -------------------- ------------------ ----------------- Loans outstanding at end of period ........... $ 879,518 $ 862,052 Average loans outstanding during the period .. $ 869,146 $ 816,240 Allowance for loan losses, beginning of period $ 12,453 $ 10,451 Recoveries: Commercial ................................. 4 298 Real Estate ................................ 23 47 Installment and consumer ................... 27 63 --------- --------- Total recoveries ........................... 54 408 Loans charged off: Commercial ................................. 116 853 Real Estate ................................ 76 39 Installment and consumer ................... 103 414 --------- --------- Total loans charged off .................... 295 1,306 --------- --------- Net loans charged off ........................ (241) (898) Provision for loan losses .................... 510 2,900 --------- --------- Allowance for loan losses, end of period ..... $ 12,722 $ 12,453 ========= ========= Ratio of net loans charged off to average loans outstanding (1) ........... .11% .11% Ratio of allowance for loan losses to loans at end of period .................. 1.45% 1.44%
(1) The ratio for the three months ended March 31, 1999 has been annualized. At March 31, 1999, Bancorp's allowance for loan loss was $12.7 million, or 1.45 percent of total loans, and 251.67 percent of total nonperforming assets, compared with an allowance for loan losses at December 31, 1998 of $12.4 million, or 1.44 percent of total loans, and 217.41 percent of total nonperforming assets. Bancorp, during its normal loan review procedures considers a loan to be impaired when it is probable that Bancorp will be unable to collect all amounts due according to the contractual terms of the loan agreement. A loan is not considered to be impaired during a period of minimal delay (less than 90 days). Bancorp measures impaired loans based on the present value of expected future cash flows discounted at the loan's effective interest rate or, as a practical expedient, at the loan's observable market price or the fair market value of the collateral if the loan is collateral dependent. Loans that are currently measured at fair value or at lower of cost or fair value, leases and certain large groups of smaller balance homogeneous loans that are collectively measured for impairment are excluded. Impaired loans are charged to the allowance when management believes, after considering economic and business conditions, collection efforts and collateral position, that the borrower's financial condition is such that collection of principal is not probable. 17 18 During the first quarter of 1999, net loans charged off were $241,000, compared to $898,000 during the full year of 1998. The percentage of net loans charged off to average loans outstanding was 0.11 percent at March 31, 1999, and at December 31, 1998. Charged off loans reflect the realization of losses in the portfolio that were recognized previously through the provision for loan losses. At March 31, 1999, the provision for loan loss exceeded the net loans charged off during the period, reflecting managements belief, based on the foregoing analysis, that there are additional losses inherent in the loan portfolio. There can be no assurance that the adverse impact of any of these conditions on Bancorp will not be in excess of the range set forth above. Readers are referred to management's "Forward Looking Statement Disclosure" in connection with this section. INVESTMENT PORTFOLIO The following table shows the carrying value of the Banks' portfolio of investments:
March 31, December 31, (Dollars in thousands) 1999 1998 -------------------- -------- ------------ Investments available for sale (At Fair Value) U.S. Treasury securities ........................ $ 4,040 $ 6,065 U.S. Government agency securities ............... 94,906 88,856 Corporate securities ............................ 24,452 34,682 Mortgage-backed securities ...................... 5,612 6,517 Obligations of state and political subdivisions . 108,397 107,689 Other securities ................................ 9,643 9,462 -------- -------- Total .................................... $247,050 $253,271 Investments held to maturity (At Historical Cost) Obligations of state and political subdivisions . $ -- $ 2,696 -------- -------- Total .................................... $ -- $ 2,696 Total Investment Portfolio ............... $247,050 $255,967 ======== ========
Under the provisions of SFAS NO. 133, and in connection with the adoption of SFAS 133, Bancorp reclassified investment securities carried at $2,695,531 with a market value of $2,909,000 from the held to maturity classification to the available for sale classification in the first quarter of 1999. 18 19 YEAR 2000 ISSUES INTRODUCTION. The year 2000 creates challenges with respect to the automated systems used by financial institutions and other companies. Many software programs are not able to recognize the year 2000, since most programs and systems were designed to store calendar years in the 1900s by assuming the "19" and storing only the last two digits of the year. For example, these automated systems would recognize a year stored as "00" as the year "1900," rather than as the year 2000. If these automated systems are not appropriately re-coded, updated, or replaced before the year 2000, they will likely confuse data, crash, or fail in some manner. In addition, many software programs and automated systems will fail to recognize the year 2000 as a leap year. The problem is not limited to computer systems. Year 2000 issues will potentially affect every system that has an embedded microchip, such as automated teller machines, elevators, and vaults. These challenges are especially problematic for financial institutions, since many transactions, such as interest accruals and payments, are date sensitive. The operations of third parties with whom Bancorp does business, including the Company's vendors, suppliers, utility companies, and customers, may also be affected. THE COMPANY'S STATE OF READINESS. The Company is committed to addressing these year 2000 challenges in a prompt and responsible manner and has dedicated resources to do so. Management has completed an assessment of its automated systems and has implemented a plan to resolve these issues, including purchasing appropriate computer technology. The Company's year 2000 compliance plan ("Y2K Plan") has five phases. These phases are (1) project management, (2) awareness, (3) assessment, (4) testing, and (5) renovation and implementation. The Company has substantially completed phases one through four, although appropriate follow-up activities are continuing to occur, and the Company is currently focusing on the fifth phase of the Y2K Plan. PROJECT MANAGEMENT. The Company's Chief Information Officer has primary responsibility for year 2000 project management. The Company has also formed a year 2000 compliance committee, consisting of appropriate representatives from its critical operational areas, to assist the Chief Information Officer in implementing the Y2K Plan. In addition, the Company's board of directors is provided with quarterly reports, in order to assist them in overseeing the Company's year 2000 readiness. AWARENESS. The Company has completed several projects designed to promote awareness of year 2000 issues throughout our organization and our customer base. These projects include mailing information brochures to deposit and loan customers, providing training for lending officers and other staff, assigning a compliance officer to answer customer questions, responding to vendor, customer, and shareholder inquiries, and providing year 2000 information and progress updates on the Company's web site. A second information brochure is currently being distributed to Bank customers. ASSESSMENT. Assessment is the process of identifying all mission-critical applications, including information technology and non-information technology systems, that could potentially be negatively affected by dates in the year 2000 and beyond. The Company's assessment phase is substantially complete. Systems examined during this phase included telecommunications systems, account-processing applications, and other software and hardware used in connection with customer accounts. The Company's operations, like those of many other companies, are intertwined with the operations of certain of its business partners. Accordingly, the Company's operations could be materially affected, if the operations of those companies who provide the Company with mission critical applications, systems, and services are materially affected. For example, the Company depends upon vendors who provide equipment, technology, and software to it in connection with its business operations. Failure of these software vendors to achieve year 2000 readiness could substantially affect the operations of the Company. In addition, lawsuits and other financial challenges materially affecting the financial viability of these vendors could materially affect the Company. In response to this concern, the Company has identified and contacted those vendors who provide our mission-critical applications. The Company is assessing their year 2000 compliance efforts and will continue to monitor their progress as the year 2000 approaches. Last year, the Company's lending personnel examined its current loan portfolios and identified our key business customers. The Company contacted these customers and requested information regarding their preparation for the year 2000. The Company then assessed the responses received to identify the risk of loan defaults due to the effects of the year 2000 on the businesses of key business customers. The Company is monitoring on a quarterly basis those business borrowers who appear to have higher risk than others with respect to year 2000 issues. In addition, the Company will continue to assess new loan applicants for year 2000 risks. For more information see below, under "The Risks of the Company's Year 2000 Issues." 19 20 TESTING. Updating and testing of the Company's mission-critical automated systems is currently underway. During the first round of testing, all mission-critical systems were tested to verify that dates in the year 2000 are being appropriately recognized and processed. A second round of testing, conducted to verify first round results using an alternative methodology, is also substantially complete. To date, testing has revealed no material year 2000 compliance issues related to mission-critical automated systems that cannot be remedied before the year 2000. The Company plans to conduct a final round of testing on its mission-critical automated systems during the fourth quarter of 1999. RENOVATION AND IMPLEMENTATION. This phase involves obtaining and implementing renovated software applications provided by our vendors. As these applications are received and implemented, the Company will test them for year 2000 compliance. This phase also involves upgrading and replacing mission-critical automated systems where appropriate and will continue throughout 1999. Although the Company expects this phase to be substantially complete by early in the fourth quarter of 1999, with a final round of testing to follow in 1999, additional follow-up activities may take place in the year 2000 and beyond. ESTIMATED COSTS TO ADDRESS THE COMPANY'S YEAR 2000 ISSUES. The total financial effect of these year 2000 challenges on the Company cannot be predicted with certainty at this time. In fact, in spite of all efforts being made to rectify these problems, the success of these efforts cannot be predicted until the year 2000 actually arrives. The Company will upgrade or replace certain automated systems before the year 2000; although some of these systems would have been replaced without regard to year 2000 issues, due to technology updates and Company expansion. The Company's estimated budget under its Y2K Plan is set forth in the table below(1). The costs below represented approximately 9% of the Company's information technology budget for 1998 and will represent about 10% of the 1999 information technology budget. The Company currently plans to continue to use normal operating funds for payment of its year 2000 expenses. Bancorp's estimated budget for year 2000 costs and expenses is as follows:
Item 1998 1999 Total ---- -------- -------- -------- Anticipated Personnel Costs $100,000 $105,000 $205,000 Telephone Banking Equipment (2) 75,000 -- 75,000 Personal Computers (2) 29,500 117,500 147,000 ATM Upgrades -- 25,000 25,000 Third Party Consulting (3) 30,000 35,000 65,000 -------- -------- -------- Totals $234,500 $282,500 $517,000 ======== ======== ========
(1) The Company may incur additional costs complying with requirements of its regulatory agencies related to year 2000 issues. Management cannot predict these costs at this time, so they have not been included in the table above, other than with respect to anticipated personnel costs. (2) This represents the replacement cost of certain equipment the Company has identified to date as requiring replacement. The majority of this equipment was scheduled for replacement regardless of year 2000 issues, due to age, operability, and changing Company requirements. (3) Bancorp engaged a consulting firm to write a comprehensive testing plan for the Company in 1998. Expenses for 1999 relate to costs associated with proxy testing of certain systems and consulting Bancorp may seek to review and audit the Company's year 2000 compliance progress. Based on the estimates set forth above and the information the Company has received to date from its critical system providers and vendors, Management does not believe that expenses related to meeting the Company's year 2000 challenges will have a material effect on the operations or financial performance of the Company. However, factors beyond the control of management, such as the effects on vendors of our mission-critical software and systems, the effects of year 2000 issues on the economy, and the development of the risks identified below under "The Risks of the Company's Year 2000 Issues," among other things, could have a material effect on the operations or financial performance of the Company. 20 21 THE RISKS OF THE COMPANY'S YEAR 2000 ISSUES. The year 2000 presents certain risks to the Company and its operations. Some of these risks are present because the Company purchases technology applications from other parties who face year 2000 challenges. Other of these risks are inherent in the business of banking or are risks faced by many companies with stock traded on a national stock exchange. Although it is impossible to identify every possible risk that the Company may face moving into the millennium, Management has to date identified the following potential risks: 1. Commercial banks, such as the Bank, may experience a contraction in their deposit base, if a significant amount of deposited funds are withdrawn by customers prior to the year 2000, and interest rates may increase in the latter part of 1999. This potential deposit contraction could make it necessary for the Bank to change its sources of funding and could materially impact future earnings. The Company has incorporated a contingency plan for addressing this situation, should it occur, into its asset and liability management strategies. This plan includes maintaining the ability to borrow funds in an amount at least equal to 50% of the Company's allowed borrowing from the Federal Home Loan Bank of Seattle. Significant demand for funds by other banks could reduce the amount of funds available for the Company to borrow. If insufficient funds are available from a Federal Home Loan Bank or other correspondents, the Company may also sell investment securities or other liquid assets to meet liquidity needs. Despite these efforts, a significant deposit contraction could materially impact the Company's earnings or future operations, particularly if funds availability at the Federal Home Loan Bank is impaired or higher interest rates for the Bank's funding sources lead to a decrease in the Company's net interest margin. 2. The Bank lends significant amounts to businesses in its market areas. If these businesses are adversely affected by year 2000 issues, their ability to repay loans could be impaired. This increased credit risk could affect the Company's financial performance. Management is currently monitoring the year 2000 compliance efforts of its significant business loan customers as described above under the "Assessment" segment of the "Introduction." To date, as a precaution, Management has increased the Company's loan loss reserves by about $450,000 to provide for potential losses from loan defaults due to year 2000 risks. As the Company continues to monitor risk in this area, it may increase or decrease loan loss reserves as appropriate in the future. 3. The Company's operations, like those of many other companies, can be affected by the year-2000-triggered failures of other companies upon whom the Company depends for the functioning of its automated systems. Accordingly, the Company's operations could be materially affected, if the operations of those companies who provide the Company with mission critical applications, systems, and services are materially affected. As described above, the Company has identified its mission-critical vendors and is monitoring their year 2000 compliance progress. For more information, see "The Company's Year 2000 Readiness," above. 4. All companies with stock traded on a national stock exchange, including Bancorp, could experience a drop in stock price as investors change their investment portfolios or sell stock prior to the millennium. At this time, it is impossible to predict whether or not this will in fact be the case with respect to the stock of Bancorp or any other company. 5. Bancorp's subsidiary West Coast Trust provides investment advisory services to certain customers, including an open-end mutual fund administered by an investment company registered under the Investment Advisors Act of 1940. Management is currently assessing the material risks of the activities of West Coast Trust and is monitoring the year 2000 compliance activities of the investment company administering the open-end mutual fund. Management also continues to monitor the year 2000 compliance activities of the third party broker-dealer that sells certain non-deposit investment products to customers of the Bank and West Coast Trust. 6. The Company's ability to serve customers in the year 2000 could be affected by factors outside its control, such as communications abilities and access to utilities, such as electricity, water, telephone, and others, to the extent access or service is interrupted due to the effects of year 2000 issues on these and other utilities. 21 22 THE COMPANY'S CONTINGENCY PLANS. In addition to the contingency plans described above under "The Risks of the Company's Year 2000 Issues," the Company is developing a Business Interruption Contingency Plan ("BIC Plan"). This BIC Plan is currently being finalized, and the Company expects to submit it to its board of directors for final approval during the second quarter of 1999. The BIC Plan will contain information pertinent to maintaining the successful operation of each major business line of the Company. Based on the Company's current assessment, it is anticipated that the BIC Plan will address such matters as (1) Company policies and procedures relating to staffing and employee resources during the critical time periods before and after the year 2000, (2) maintenance of external and internal communications, (3) plans for maintaining critical business operations, (4) steps for contingency plan implementation, (5) timelines or timing guidelines for contingency plan implementation, and (6) guidelines or procedures to be followed if it becomes necessary to implement a contingency plan with respect to a major business line. In addition, if the Company identifies a material problem with a mission-critical system, the Company will develop an appropriate contingency plan for operation or recovery, as possible and appropriate, should that system fail in the year 2000. Certain circumstances may occur for which there are no satisfactory contingency plans. For more information see above under "The Risks of the Company's Year 2000 Issues." FORWARD LOOKING STATEMENTS The discussion above, entitled "Year 2000 Issues," including without limitation the section entitled "Risks of the Company's Year 2000 Issues," includes certain "forward looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995 ("PSLRA"). This statement is included for the express purpose of availing Bancorp of the protections of the safe harbor provisions of the PSLRA. Management's ability to predict results or effects of issues related to the year 2000 is inherently uncertain, and is subject to factors that may cause actual results to differ materially from those projected. Factors that could affect the actual results include, without limitation, (1) the possibility that protection procedures, contingency plans, and remediation efforts will not operate as intended, (2) the possibility that the Company may fail to timely or completely identify all software or hardware applications requiring remediation or other risks or issues related to the year 2000, (3) unexpected costs or events, (4) failures of communications abilities or utility companies serving the Company, (5) fluctuating interest rates, and (6) the uncertainty associated with the impact of year 2000 issues on the banking industry and on the Company's customers, vendors, and others with whom it does business. Readers are cautioned not to place undue reliance on these forward looking statements. 22 23 Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK MARKET RISK Interest rate, credit, and operations risks are the most significant market risks impacting Bancorp's performance. Other types of market risk, such as foreign currency exchange rate risk and commodity price risk, do not arise in the normal course of Bancorp's business activities. Bancorp relies on loan reviews, prudent loan underwriting standards and an adequate allowance for loan loss to mitigate credit risk. Bancorp uses an asset/liability management simulation model to measure interest rate risk. The model quantifies interest rate risk through simulating forecasted net interest income over a 12-month time period under various rate scenarios, as well as monitoring the change in the present value of equity under the same rate scenarios. The present value of equity is defined as the difference between the market value of current assets less current liabilities. By measuring the change in the present value of equity under different rate scenarios, management is able to identify interest rate risk that may not be evident in simulating changes in forecasted net interest income. Bancorp is currently slightly liability sensitive, meaning that interest-bearing liabilities mature or reprice more quickly than interest-earning assets in a given period, therefore, a significant increase in market rates of interest or a flattening interest rate yield curve could adversely affect net interest income. In contrast, a decreasing rate environment or a steepening interest rate yield curve may slightly improve Bancorp's margin. Further, the effects of a flattening yield curve could more adversely affect Bancorp's margin than any benefits received from a decreasing rate environment. Bancorp attempts to continue to limit its loss exposure through managing the repricing characteristics of its assets and liabilities. Bancorp has also placed increased emphasis on its non-interest revenue products to additionally stabilize earnings strength. It should be noted that the simulation model does not take into account future management actions that could be undertaken, if there were a change in actual market interest rates during the year. Also, certain assumptions are required to perform modeling simulations that may have significant impact on the results. These include assumptions regarding the level of interest rates and balance changes on deposit products that do not have stated maturities. These assumptions have been developed through a combination of industry standards and future expected pricing behavior. The model also includes assumptions about changes in the composition or mix of the balance sheet. The results derived from the simulation model could vary significantly by external factors such as changes in the prepayment assumptions, early withdrawals of deposits and competition. Any merger activity will also have an impact on Bancorp's asset/liability position as new assets are acquired and added. Management has assessed these risks and believes that there has been no material change since December 31, 1998. 23 24 PART II. OTHER INFORMATION Item 101. Legal Proceedings On May 11, 1999, the Bank and Bancorp were served with a summons and complaint with respect to an alleged financing commitment. The lawsuit, filed by Edward A. Fischer and Marianne M. Fischer ("Plaintiffs"), is currently pending in the Circuit Court of the State of Oregon for the County of Multnomah. Plaintiffs are seeking damages in excess of $4.6 million or specific performance of the alleged agreement. The Bank denies the existence of any agreement or commitment to Plaintiffs. Based on the facts known at this time, counsel for the Bank has advised that any losses, if any, arising out of this matter would probably not exceed the Bank's applicable insurance coverage limits. Management is currently in contact with Bancorp's insurance carrier regarding this matter. To date, the insurance carrier has neither confirmed nor denied coverage. This section contains certain "forward looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995 ("PSLRA"). This statement is included for the express purpose of availing Bancorp of the protections of the safe harbor provisions of the PSLRA. The forward looking statements contained in this section are subject to factors, risks, and uncertainties that may cause actual results to differ materially from those projected. Important factors that might cause such a material difference include, but are not limited to, (1) facts and events currently unknown to management that may surface as the subject matters discussed are further investigated, (2) common law, rights, and legal and equitable remedies that may be uncovered when the issues raised above are further researched, and (3) uncertainties inherent in the legal process. Readers are cautioned not to place undue reliance on these forward looking statements, which reflect Management's analysis only as of the date of the statement. Bancorp undertakes no obligation to publicly revise or update these forward-looking statements to reflect events or circumstances that arise after the date of this report. Readers should carefully review the risk factors described in this and other documents Bancorp files from time to time with the Securities and Exchange Commission. Item 6. Exhibits and Reports on Form 8-K. (a) Exhibits 27 Financial Data Schedule for Form 10-Q. (b) During the three months ended March 31, 1999, West Coast Bancorp filed the following current report on Form 8-K: None 24 25 SIGNATURES As required by the Securities Exchange Act of 1934, this report is signed on registrant's behalf by the undersigned authorized officers. WEST COAST BANCORP (Registrant) Dated: May 13, 1999 /s/ Victor L. Bartruff ---------------------------------------- Victor L. Bartruff President and Chief Executive Officer Dated: May 13, 1999 /s/ Donald A. Kalkofen ---------------------------------------- Donald A. Kalkofen Executive Vice President and Chief Financial Officer 25 EX-27 2 FINANCIAL DATA SCHEDULE
9 1,000 3-MOS DEC-31-1999 JAN-01-1999 MAR-31-1999 73,637 1,151 0 0 247,050 0 0 879,518 12,722 1,247,502 1,101,431 0 9,193 19,867 17,715 0 0 99,296 1,247,502 20,078 3,654 81 23,813 8,441 367 15,005 510 103 12,746 6,445 4,380 0 0 4,380 .31 .30 5.54 3,932 166 0 0 12,453 295 54 12,722 12,722 0 0
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