-----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, F26T4t3fLu3HznuSszQr7vRQrH7cI2rlVvs0RvV7yB7C1BG0waU0eW0xoxmwlh0K a5Pimj2ISj6xhEmotWdmjw== 0000912057-03-000200.txt : 20030515 0000912057-03-000200.hdr.sgml : 20030515 20030515162751 ACCESSION NUMBER: 0000912057-03-000200 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 1 CONFORMED PERIOD OF REPORT: 20030331 FILED AS OF DATE: 20030515 FILER: COMPANY DATA: COMPANY CONFORMED NAME: BOSTON PRIVATE FINANCIAL HOLDINGS INC CENTRAL INDEX KEY: 0000821127 STANDARD INDUSTRIAL CLASSIFICATION: STATE COMMERCIAL BANKS [6022] IRS NUMBER: 042976299 STATE OF INCORPORATION: MA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 000-17089 FILM NUMBER: 03705027 BUSINESS ADDRESS: STREET 1: 10 POST OFFICE SQ CITY: BOSTON STATE: MA ZIP: 02109 BUSINESS PHONE: 6175561900 MAIL ADDRESS: STREET 1: 10 POST OFFICE SQUARE CITY: BOSTON STATE: MA ZIP: 02109 FORMER COMPANY: FORMER CONFORMED NAME: BOSTON PRIVATE BANCORP INC DATE OF NAME CHANGE: 19920703 10-Q 1 a2111237z10-q.txt FORM 10-Q ================================================================================ As filed with the Securities and Exchange Commission on May 15, 2003 UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 --------------------- FORM 10-Q (Mark One) |X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended MARCH 31, 2003 OR |_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from _______ to _______. Commission File Number: 0-17089 BOSTON PRIVATE FINANCIAL HOLDINGS, INC. (Exact name of registrant as specified in its charter) COMMONWEALTH OF MASSACHUSETTS 04-2976299 (State or other jurisdiction (I.R.S. Employer of incorporation or organization) Identification Number) TEN POST OFFICE SQUARE BOSTON, MASSACHUSETTS 02109 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (888) 666-1363 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by section 13 or 15 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 __ APPLICABLE ONLY TO CORPORATE ISSUERS Indicate the number of shares outstanding of each of the issuer's classes of common stock as of APRIL 30, 2003: COMMON STOCK - PAR VALUE $1.00 22,653,485 SHARES ------------------------------ ----------------- (class) (outstanding) ================================================================================ BOSTON PRIVATE FINANCIAL HOLDINGS, INC. FORM 10-Q TABLE OF CONTENTS
PAGE Cover Page 1 Index 2 PART I - FINANCIAL INFORMATION Item 1 Financial Statements Consolidated Balance Sheets 3 Consolidated Statements of Operations 4 Consolidated Statements of Changes in Stockholders' Equity 5 Consolidated Statements of Cash Flows 6 Notes to Consolidated Financial Statements 7 - 12 Item 2 Management's Discussion and Analysis of Financial Condition and Results of Operations 13 - 23 Risk Factors and Factors Affecting Forward-Looking Statements 24 - 29 Item 3 Quantitative and Qualitative Disclosures about Market Risk 29 Item 4 Controls and Procedures 29 PART II - OTHER INFORMATION Item 1 Legal Proceedings 30 - 31 Item 2 Changes in Securities and Use of Proceeds 32 Item 3 Defaults upon Senior Securities 32 Item 4 Submission of Matters to a Vote of Security Holders 32 Item 5 Other Information 32 Item 6 Exhibits and Reports on Form 8-K 32 Signature Page 33 Certifications 34 - 35
2 BOSTON PRIVATE FINANCIAL HOLDINGS, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS
MARCH 31, DECEMBER 31, 2003 2002 ---------------- ---------------- (UNAUDITED) ---------------- ---------------- (IN THOUSANDS, EXCEPT SHARE DATA) ASSETS: Cash and due from banks $ 80,742 $ 53,032 Federal funds sold and other short term investments 19,800 44,497 ---------------- ---------------- Cash and cash equivalents 100,542 97,529 Money market investments 22,200 35,200 Investment securities available for sale (cost of $345,712 and $280,054, respectively) 351,615 287,534 Loans held for sale 13,978 30,923 Loans receivable: Commercial 746,459 676,189 Residential mortgage 551,325 544,166 Home equity and other consumer loans 77,754 81,371 ---------------- ---------------- Total loans 1,375,538 1,301,726 Less: allowance for loan losses (17,736) (17,050) ---------------- ---------------- Net loans 1,357,802 1,284,676 Stock in the Federal Home Loan Bank 8,940 8,126 Premises and equipment, net 13,909 13,528 Goodwill 16,542 16,542 Intangible Assets 1,426 1,465 Fees receivable 7,465 6,880 Accrued interest receivable 8,269 7,658 Other assets 31,427 30,680 ---------------- ---------------- Total assets $ 1,934,115 $1,820,741 ================ ================ LIABILITIES: Deposits $1,496,908 $1,400,333 FHLB borrowings 164,620 145,339 Securities sold under agreements to repurchase 72,223 73,050 Accrued interest payable 1,839 2,171 Other liabilities 30,719 32,466 ---------------- ---------------- Total liabilities 1,766,309 1,653,359 ---------------- ---------------- STOCKHOLDERS' EQUITY: Common stock, $1.00 par value per share; authorized: 70,000,000 shares issued: 22,647,643 shares at March 31, 2003 and 22,548,591 shares at December 31, 2002 22,648 22,549 Additional paid-in capital 75,873 74,342 Retained earnings 65,676 65,725 Accumulated other comprehensive income 3,609 4,766 ---------------- ---------------- Total stockholders' equity 167,806 167,382 ---------------- ---------------- Total liabilities and stockholders' equity $ 1,934,115 $1,820,741 ================ ================
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS. 3 BOSTON PRIVATE FINANCIAL HOLDINGS, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
THREE MONTHS ENDED MARCH 31, ------------------------------- 2003 2002 -------------- --------------- Interest and dividend income: Loans $ 19,805 $ 18,700 Taxable investment securities 1,695 1,818 Non-taxable investment securities 740 913 Mortgage-backed securities 15 30 FHLB stock dividends 61 68 Federal funds sold and other 127 112 -------------- --------------- Total interest and dividend income 22,443 21,641 -------------- --------------- Interest expense: Deposits 4,110 4,647 FHLB borrowings 1,825 1,577 Securities sold under agreements to repurchase and other 200 218 -------------- --------------- Total interest expense 6,135 6,442 -------------- --------------- Net interest income 16,308 15,199 Provision for loan losses 778 680 -------------- --------------- Net interest income after provision for loan losses 15,530 14,519 -------------- --------------- Fees and other income: Investment management and trust 9,849 9,895 Financial planning fees 1,537 1,475 Equity in earnings of partnerships 95 (18) Deposit account service charges 239 189 Gain on sale of loans 791 271 Gain on sale of investment securities 1,075 415 Cash administration fees 214 221 Other 688 607 -------------- --------------- Total fees and other income 14,488 13,055 -------------- --------------- Operating expense: Salaries and employee benefits 14,265 12,833 Occupancy and equipment 5,292 2,519 Professional services 1,032 822 Marketing and business development 932 830 Contract services and processing 461 399 Amortization of intangibles 39 5 Other 2,115 1,688 -------------- --------------- Total operating expense 24,136 19,096 -------------- --------------- Income before income taxes 5,882 8,478 Income tax expense 4,801 2,695 -------------- --------------- Net income $ 1,081 $ 5,783 ============== =============== Per share data: Basic earnings per share $ 0.05 $ 0.26 ============== =============== Diluted earnings per share $ 0.05 $ 0.25 ============== =============== Average common shares outstanding 22,618,498 22,307,596 Average diluted shares outstanding 23,298,957 23,332,355
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS. 4 BOSTON PRIVATE FINANCIAL HOLDINGS, INC. AND SUBSIDARIES CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (UNAUDITED)
ADDITIONAL ACCUMULATED COMMON PAID-IN UNEARNED RETAINED COMPREHENSIVE STOCK CAPITAL COMPENSATION EARNINGS INCOME (LOSS) TOTAL ----------- ------------ ------------- ---------- ----------------- ------------ Balance at December 31, 2001 $ 22,241 $ 70,611 $ -- $ 45,562 $ 1,217 $ 139,631 Net income -- -- -- 5,783 -- 5,783 Comprehensive income, net: Change in unrealized gain (loss) on securities available for sale -- -- -- -- (1,335) (1,335) ------------ Total comprehensive income 4,448 Dividends paid to shareholders -- -- -- (890) -- (890) Proceeds from issuance of 46,000 shares of common stock 46 489 -- -- -- 535 Stock options exercised 54 978 -- -- -- 1,032 ----------- ------------ -------------- ------------ --------------- ------------ Balance at March 31, 2002 $ 22,341 $ 72,078 $ -- $ 50,455 $ (118) $ 144,756 =========== ============ ============== ============ =============== ============ Balance at December 31, 2002 $ 22,549 $ 74,342 $ -- $ 65,725 $ 4,766 $ 167,382 Net income -- -- -- 1,081 -- 1,081 Comprehensive income, net: Change in unrealized gain (loss) on securities available for sale -- -- -- -- (1,157) (1,157) ------------ Total comprehensive income (76) Dividends paid to shareholders -- -- -- (1,130) -- (1,130) Issuance of 36,052 shares of common stock 36 637 -- -- -- 673 Issuance of 40,400 shares of incentive common stock 40 643 (683) -- Amortization of unearned compensation 38 38 Stock options exercised 23 896 -- -- 919 ----------- ------------ -------------- ------------ --------------- ------------ Balance at March 31, 2003 $ 22,648 $ 76,518 $ (645) $ 65,676 $ 3,609 $ 167,806 =========== ============ ============== ============ =============== ============
5 BOSTON PRIVATE FINANCIAL HOLDINGS, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
THREE MONTHS ENDED MARCH 31, -------------------------------------- 2003 2002 ----------------- ----------------- (IN THOUSANDS) Cash flows from operating activities: Net income $ 1,081 $ 5,783 Adjustments to reconcile net income to net cash from operating activities: Depreciation and amortization of fixed assets, intangible assets and unearned compensation 907 676 Amortization of investment premiums (discounts) and loan origination costs (fees) (3,623) (111) Gain on sale of loans (791) (271) Gain on sale of investment securities (1,075) (415) Provision for loan losses 778 680 Distributed (undistributed) earnings of partnership investments 59 113 Shares issued as compensation Loans originated for sale (63,096) (36,689) Proceeds from sale of loans held for sale 80,831 36,960 (Increase) decrease in: Fees receivable (586) 72 Accrued interest receivable (611) (280) Other assets (386) (392) Increase (decrease) in: Accrued interest payable (332) 353 Other liabilities (1,748) (6,023) ----------------- ----------------- Net cash provided (used) by operating activities 11,408 456 ----------------- ----------------- Cash flows from investing activities: Net decrease (increase) in money market mutual fund 13,000 17,646 Investment securities available for sale: Purchases (110,064) (44,584) Sales 40,492 22,440 Maturities 8,351 23,675 Net decrease (increase) in loans (73,551) (50,534) Purchase of FHLB stock (814) (68) Net charge-offs on loans previously charged off (92) -- Capital expenditures (1,209) (1,365) ----------------- ----------------- Net cash provided (used) by investing activities (123,887) (32,790) ----------------- ----------------- Cash flows from financing activities: Net increase (decrease) in deposits 96,575 78,731 Net increase (decrease) in repurchase agreements (827) 4,146 Net increase (decrease) in federal funds purchased -- (5,500) FHLB advance proceeds 20,000 6,362 FHLB advance repayments (719) (14,290) Dividends paid to stockholders (1,130) (890) Proceeds from issuance of common stock 1,591 1,032 ----------------- ----------------- Net cash provided (used) by financing activities 115,490 69,591 ----------------- ----------------- Net increase (decrease) in cash and due from banks 3,012 37,257 Cash and cash equivalents at beginning of year 97,530 58,281 ----------------- ----------------- Cash and cash equivalents at end of period $100,542 $ 95,538 ================= ================= Supplementary disclosures of cash flow information: Cash paid during the period for interest $ 6,467 $ 6,089 Cash paid during the period for income taxes 3,100 3,175
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS. 6 BOSTON PRIVATE FINANCIAL HOLDINGS, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (1) BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES The consolidated financial statements of Boston Private Financial Holdings, Inc. (the "Company") include the accounts of the Company and its wholly-owned subsidiaries, Boston Private Bank & Trust Company ("Boston Private Bank"), a Massachusetts chartered trust company, Borel Private Bank & Trust Company ("Borel"), a California state banking corporation, Westfield Capital Management Company, LLC ("Westfield"), Sand Hill Advisors, Inc. ("Sand Hill") and Boston Private Value Investors, Inc. ("BPVI"), registered investment advisors, and RINET Company, LLC ("RINET"), a financial planning firm and a registered investment advisor. Boston Private Bank's consolidated financial statements include the accounts of its wholly-owned subsidiaries, BPB Securities Corporation, and Boston Private Preferred Capital Corporation. Borel's consolidated financial statements include the accounts of its wholly-owned subsidiary Borel Private Capital Corporation. In addition, the Company holds a 26% minority interest in Coldstream Holdings, Inc. ("Coldstream Holdings"). Coldstream Holdings is the parent of Coldstream Capital Management Inc., a registered investment advisor in Bellevue, Washington. The Company conducts substantially all of its business through its wholly-owned subsidiaries, Boston Private Bank, Borel (together the "Banks"), Westfield, Sand Hill, BPVI and RINET. All significant intercompany accounts and transactions have been eliminated in consolidation. The unaudited interim consolidated financial statements of the Company have been prepared in accordance with accounting principles generally accepted in the United States of America, and include all necessary adjustments of a normal recurring nature, which in the opinion of management, are required for a fair presentation of the results and financial condition of the Company. The interim results of consolidated operations are not necessarily indicative of the results for the entire year. The information in this report should be read in conjunction with the consolidated financial statements and accompanying notes included in the December 31, 2002 Annual Report to Shareholders. Certain prior year information has been reclassified to conform to current year presentation. The Company's significant accounting policies are described in Note 3 of the notes to the consolidated financial statements in its form 10K for the year ended December 31, 2002 filed with the Securities and Exchange Commission. For interim reporting purposes, the Company follows the same significant accounting policies. INCENTIVE PLANS The Company applied APB No. 25 in accounting for stock options which measures compensation cost for stock based compensation plans as the difference between the exercise price of the options granted and the fair market value of the Company's stock at the grant date. This generally does not result in any compensation charged to earnings. Below, the Company discloses pro forma net income and earnings per share as if compensation was measured at the date of grant based on the fair value of the award and recognized over the service period. This is required by SFAS No. 123 for all companies that elect to continue using APB Opinion No. 25 for stock option grants. As further noted in "Recent Accounting Pronouncements", the Company has adopted certain provisions of SFAS No. 148, which is an amendment to SFAS No. 123 and allows for alternative methods of adopting fair value based compensation on stock grant options.
THREE MONTHS ENDED MARCH 31, MARCH 31, 2003 2002 ---- ---- (in thousands) Net income: As reported $1,081 $5,783 Stock-based employee and director compensation expense, net of related tax effects 519 1,069 ----- ------ Proforma $562 $4,714 ===== ====== Basic earnings per share: As reported $0.05 $0.26 Proforma $0.02 $0.21 Diluted earnings per share: As reported $0.05 $0.25 Proforma $0.02 $0.20
7 (2) EARNINGS PER SHARE Basic earnings per share ("EPS") excludes dilution and is computed by dividing income available to common stockholders by the weighted average number of common shares outstanding during the period. Diluted EPS reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock that then shared in the earnings of the entity. The earnings per share calculation is based upon the weighted average number of common shares and common share equivalents outstanding during the period. Stock options, when dilutive, are included as common stock equivalents using the treasury stock method. The following tables are a reconciliation of the numerators and denominators of basic and diluted earnings per share computations:
THREE MONTHS ENDED THREE MONTHS ENDED MARCH 31, MARCH 31, ------------------------------ ----------------------------- 2003 2002 ------------------------------ ----------------------------- Per Per Share Share Income Shares Amount Income Shares Amount ----------------------------- ----------------------------- (In thousands, except per share amounts) BASIC EPS Net Income $1,081 22,618 $0.05 $5,783 22,308 $0.26 EFFECT OF DILUTIVE SECURITIES Stock Options -- 681 ($0.00) -- 1,024 ($0.01) DILUTED EPS ----------------------------- ----------------------------- Net Income $1,081 23,299 $0.05 $5,783 23,332 $0.25 ============================= =============================
8 BOSTON PRIVATE FINANCIAL HOLDINGS, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (3) BUSINESS SEGMENTS MANAGEMENT REPORTING The Company has six reportable segments, Boston Private Bank, Borel, Westfield, RINET, Sand Hill and BPVI. The financial performance of the Company is managed and evaluated by business segment. The segments are managed separately because each business is an individual company with different clients, employees, systems, risks, and marketing strategies. DESCRIPTION OF BUSINESS SEGMENTS Boston Private Bank pursues a "private banking" business strategy and is principally engaged in providing banking, investment and fiduciary products to high net worth individuals, their families and businesses in the greater Boston area and New England. Boston Private Bank offers its clients a broad range of basic deposit services, including checking and savings accounts, with automated teller machine access, and cash management services through sweep accounts and repurchase agreements. Boston Private Bank also offers commercial, residential mortgage, home equity and consumer loans. In addition, it provides investment advisory and asset management services, securities custody and safekeeping services, trust and estate administration and IRA and Keogh accounts. Borel serves the financial needs of individuals, their families and their businesses in Northern California. Borel conducts a commercial banking business which includes accepting demand, savings and time deposits and making commercial, real estate, mortgage and consumer loans. Borel offers various savings plans and provides safe deposit boxes as well as other customary banking services and facilities. Additionally, Borel offers trust services and provides a variety of other fiduciary services including management, advisory and administrative services to individuals. Westfield serves the investment management needs of pension funds, endowments and foundations, mutual funds and high net worth individuals throughout the U.S. and abroad. Westfield specializes in separately managed domestic growth equity portfolios in all areas of the capitalization spectrum and acts as the investment manager for several limited partnerships. Sand Hill provides wealth management services to high net worth investors and select institutions in Northern California. The firm manages investments covering a wide range of asset classes for both taxable and tax-exempt portfolios and has special expertise in transitional wealth counsel. BPVI serves the investment management needs of high net worth individuals and select institutions primarily in New England and the Northeast. The firm is a large-cap value style investor headquartered in Concord, New Hampshire, with an office at Ten Post Office Square in Boston, Massachusetts. RINET provides fee-only financial planning, tax planning and investment management services to high net worth individuals and their families in the greater Boston area, New England, and other areas of the U.S. Its capabilities include tax planning and preparation, asset allocation, estate planning, charitable planning, planning for employment benefits, including 401(k) plans, alternative investment analysis and mutual fund investing. It also provides an independent mutual fund rating service. MEASUREMENT OF SEGMENT PROFIT AND ASSETS The accounting policies of the segments are the same as those described in the summary of significant accounting policies. Revenues, expenses, and assets are recorded by each segment, and management reviews separate financial statements. 9 BOSTON PRIVATE FINANCIAL HOLDINGS, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS RECONCILIATION OF REPORTABLE SEGMENT ITEMS The following tables are a reconciliation of the revenues, net income, assets, and other significant items of reportable segments as of and for the quarters ended March 31, 2003 and 2002.
THREE MONTHS ENDED MARCH 31, 2003 ----------------------------------------------------------------------------------- INTER- INCOME STATEMENT DATA BPBTC BOREL WCM RINET SHA BPVI BPFH SEGMENT TOTAL ----------------------------------------------------------------------------------- (in thousands) REVENUES FROM CUSTOMERS NET INTEREST INCOME $ 11,235 $ 5,022 $ 10 $ - $ - $ 1 $ 40 $ - $ 16,308 NON-INTEREST INCOME 4,778 1,256 5,029 1,508 903 993 21 - 14,488 ----------------------------------------------------------------------------------- TOTAL REVENUES 16,013 6,278 5,039 1,508 903 994 61 - 30,796 PROVISION FOR LOAN LOSS 508 270 - - - - - - 778 NON-INTEREST EXPENSE 9,759 3,232 3,436 1,357 1,145 824 4,383 - 24,136 INCOME TAXES 4,753 972 670 63 (95) 69 (1,631) - 4,801 ----------------------------------------------------------------------------------- SEGMENT PROFIT $ 993 $ 1,804 $ 933 $ 88 $ (147) $ 101 $(2,691) $ - $ 1,081 =================================================================================== SEGMENT ASSETS $1,421,499 $482,533 $10,093 $2,575 $14,623 $3,223 $15,457 $(15,573) $1,934,430 -----------------------------------------------------------------------------------
THREE MONTHS ENDED MARCH 31, 2002 --------------------------------------------------------------------------------------- INTER- INCOME STATEMENT DATA BPBTC BOREL WCM RINET SHA BPVI BPFH SEGMENT TOTAL --------------------------------------------------------------------------------------- (in thousands) REVENUES FROM CUSTOMERS NET INTEREST INCOME $ 10,964 $ 4,221 $ 9 $ (5) $ 4 $ 1 $ 5 $ - $ 15,199 NON-INTEREST INCOME 3,632 1,011 4,865 1,475 1,134 938 - - 13,055 --------------------------------------------------------------------------------------- TOTAL REVENUES 14,596 5,232 4,874 1,470 1,138 939 5 - 28,254 PROVISION FOR LOAN LOSS 500 180 - - - - - - 680 NON-INTEREST EXPENSE 8,048 2,429 3,187 1,246 1,062 711 2,413 - 19,096 INCOME TAXES 1,678 1,076 706 92 18 88 (963) - 2,695 --------------------------------------------------------------------------------------- SEGMENT PROFIT $ 4,370 $ 1,547 $ 981 $ 132 $ 58 $ 140 $(1,445) $ - $ 5,783 ======================================================================================= BALANCE SHEET DATA: SEGMENT ASSETS $1,150,598 $401,065 $ 8,161 $2,465 $14,530 $1,381 $17,342 $(18,219) $1,577,323 ---------------------------------------------------------------------------------------
10 BOSTON PRIVATE FINANCIAL HOLDINGS, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (4) EXCESS OF COST OVER NET ASSETS ACQUIRED (GOODWILL) AND INTANGIBLE ASSETS An analysis of the activity in goodwill and intangible assets:
Identified Intangibles Goodwill --------------------------------------- ------------------------------------------ (in thousands) Boston Private Bank BPVI Boston Total Other Advisory Total Private Sand Intangibles Intangibles Contracts Goodwill Bank Hill BPVI ------------ ------------ --------- -------- ----------- ------- --------- Balance as of December 31, 2001 $ 159 $ 159 - $ 17,048 $ 2,286 $ 14,449 $ 313 Adjust estimated deferred purchase price (1,060) - (1,060) - Amortization (5) (5) - -------------------------------------- -------------------------------------------- Balance as of March 31, 2002 $ 154 $ 154 - $ 15,988 $ 2,286 $ 13,389 $ 313 -------------------------------------- -------------------------------------------- Balance as of December 31, 2002 $ 1,465 $ 141 $ 1,324 $ 16,542 $ 2,286 $ 13,345 $ 911 Amortization (39) (4) (35) -------------------------------------- -------------------------------------------- Balance as of March 31, 2003 $ 1,426 $ 137 $ 1,289 $ 16,542 $ 2,286 $ 13,345 $ 911 -------------------------------------- --------------------------------------------
Investment advisory contracts are being amortized on a straight-line basis over their estimated useful life of 10 years and other intangibles are being amortized over a 15 year life. The estimated annual amortization expense for the intangibles above for the next five years is $156,000 per year, an aggregate of $780,000 over five years. The goodwill is expected to be deductible for tax purposes. (5) RECENT ACCOUNTING DEVELOPMENTS In June 2002, the Financial Accounting Standards Board ("FASB") issued Statement No. 146, "Accounting for Costs Associated with Exit or Disposal Activities." The provisions of this Statement are effective for exit or disposal activities that are initiated after December 31, 2002, with early application encouraged. The Company adopted the provisions of Statement No. 146 for all disposal activities initiated after December 31, 2002. In the first quarter of 2003, the company established a reserve of $1.3 million, after tax, or $.06 per share, for a current lease on Sand Hill Road in Menlo Park, California. The Company has consolidated its operations into a newer facility in Palo Alto. The lease on the Menlo Park space expires in 2008; the remaining payments will total $4.2 million. This charge-off reflects the Company's estimate of the fair value of these remaining lease payments reduced by the estimated sublease rental income that could reasonably be obtained for the property. See MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATION - LEASE ACCRUAL. In November 2002, the FASB issued Interpretation No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Guarantees of Indebtedness of Others." Disclosures related to this interpretation are effective for 2002 annual reports, and the accounting requirements are effective January 1, 2003, and require all guarantees and indemnifications within its scope to be recorded at fair value as liabilities, and the maximum possible loss under these guarantees and indemnifications to be disclosed. The Banks have issued standby letters of credit where the Banks are required to make payments to the beneficiary of the letters of credit upon request by the beneficiary so long as all performance criteria have been met. At March 31, 2003 the maximum potential amount of future payments was $18.6 million. Of this amount, $18.5 million was covered by collateral. In December 2002, the FASB issued SFAS No. 148,"Accounting for Stock-Based Compensation - Transition and Disclosure, an amendment of FASB Statement No. 123." This statement amends SFAS No. 123 to provide alternative methods of transition for an entity that voluntarily changes to the fair value method of accounting for stock-based compensation. SFAS No. 148 also amends the disclosure provisions of SFAS No. 123 to require prominent disclosure about the effects on reported net 11 income of an entity's accounting policy decisions with respect to stock-based compensation. Additionally, this Statement amends APB No. 28, "Interim Financial Reporting," to require disclosure about those effects in interim financial information. The amendment to Opinion No. 28 is effective for financial reports containing condensed financial statements for interim periods beginning after December 15, 2002. The Company has adopted the disclosure provisions of FASB 148. In January 2003, the FASB issued Interpretation No. 46, "Consolidation of Variable Interest Entities." Interpretation No. 46 addresses when a company should include in its financial statements the assets, liabilities and activities of another entity. The consolidation requirements of Interpretation No. 46 apply immediately to variable interest entities created after January 31, 2003. The consolidating requirements apply to older entities in the first fiscal year or interim period beginning after June 15, 2003. Certain disclosure requirements apply in all financial statements issued after January 31, 2003. The Company does not believe the adoption of the statement will have a material impact on the Company's financial position or results of operations. In April 2003, the FASB issued SFAS No. 149 "Amendment of Statement 133 on Derivative Instruments and Hedging activities." SFAS No. 149 amends and clarifies accounting for derivative instruments, including certain derivative instruments embedded in other contracts, and for hedging actives under SFAS 133. SFAS 149 is generally effective for contracts entered into or modified after June 30, 2003. The Company does not believe the adoption of the statement will have a material impact on the Company's financial position or results of operations. (6) OTHER MATTERS REIT Tax Adjustment - In the first quarter of 2003, the Company established a reserve of $3.1 million for additional state taxes, relating to new legislation retroactively disallowing the deduction for dividends received from a real estate investment trust subsidiary (a "REIT") for the 1999 through 2002 calendar years. The reserve includes interest (net of any federal tax deduction associated with such taxes and interest). The REIT tax reserve has been established due to new legislation enacted on March 5, 2003 that amends existing Massachusetts law to expressly disallow the deduction for dividends received from a REIT. The legislative amendment applies retroactively to tax years ending on or after December 31, 1999. As a result of the new legislation the Company ceased recording the tax benefits associated with the dividend received deduction effective for the 2003 tax year. The effective tax rate was 34.6% for the first quarter of 2003 before the retroactive portion of the REIT adjustment. The effective tax rate for 2002 was 31.8%. Lease Abandonment - In the first quarter of 2003, Sand Hill moved its offices to space adjacent to the Palo Alto offices of Borel. In connection with this move, we recorded a charge of approximately $2.0 million relating to the lease for the vacated space. The charge is for the difference between the fair value of the remaining lease payments reduced by the fair value of the estimated sublease income to be received from the space being vacated. (7) SUBSEQUENT EVENT On May 2, 2003, the Company signed a definitive agreement to acquire an 80% interest in Dalton, Greiner, Hartman, Maher & Co. ("DGHM") of New York, NY. DGHM, founded in 1990 and managing approximately $2.2 billion of client assets, is a value style manager specializing in small-cap equities. The remaining 20% interest in the firm will be retained by members of the DGHM management team. The transaction's initial purchase price is expected to be approximately $75 million, with approximately 91% payable in cash, but the total purchase price could change as it is contingent upon the contracts transferred and operating results through a five-year earn-out period. We currently expect to finance the transaction through the issuance of $45 million of trust preferred securities. In addition, we will issue $4 million in common stock to shareholders of DGHM. The closing of the transaction is subject to several conditions, including regulatory approvals. 12 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FOR THE QUARTER ENDED MARCH 31, 2003 The discussions set forth below and elsewhere herein contain certain statements that may be considered forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended and Section 21E of the Securities Exchange Act of 1934, as amended. All statements, other than statements of historical facts, including statements regarding our strategy, effectiveness of investment programs, evaluations of future interest rate trends and liquidity, expectations as to growth in assets, deposits and results of operations, success of acquisitions, future operations, market position, financial position, and prospects, plans and objectives of management are forward-looking statements. These forward-looking statements are based on the current assumptions and beliefs of management and are only expectations of future results. Our actual results could differ materially from those projected in the forward-looking statements as the result of, among other factors, changes in interest rates, changes in the securities or financial markets, a deterioration in general economic conditions on a national basis or in the local markets in which we operate, including changes which adversely affect borrowers' ability to service and repay our loans, changes in loan defaults and charge-off rates, reduction in deposit levels necessitating increased borrowing to fund loans and investments, the risk that difficulties will arise in connection with the integration of the operations of acquired businesses with the operations of our banking or investment management businesses, the passing of adverse government regulation, changes in assumptions used in making such forward looking statements, as well as those factors set forth below under the heading "Risk Factors and Factors Affecting Forward-Looking Statements." These forward-looking statements are made as of the date of this report and we do not intend or undertake to update any such forward-looking statement. GENERAL Boston Private Financial Holdings, Inc. is incorporated under the laws of The Commonwealth of Massachusetts and is registered with the Board of Governors of the Federal Reserve System (the "Federal Reserve Board") as a bank holding company under the Bank Holding Company Act of 1956, as amended (the "BHCA"). On July 1, 1988, the Company became the parent holding company of Boston Private Bank & Trust Company, a trust company chartered by The Commonwealth of Massachusetts and insured by the Federal Deposit Insurance Corporation (the "FDIC"). In recent years, some substantial acquisitions have contributed to our growth. During 1997, the Company acquired by merger Westfield, a Massachusetts company engaged in providing a range of investment management services to individual and institutional clients. During October 1999, the Company acquired by merger RINET, a Massachusetts company engaged in providing financial planning and asset allocation services to high net worth individuals and families. On February 28, 2001, the Company acquired by merger BPVI, formerly E. R. Taylor Investments, Inc., a corporation engaged in providing value style investment advisory services to the wealth management market. On October 1, 2001, RINET acquired by merger Kanon Bloch Carre, a Boston-based independent mutual fund rating service and investment advisor. On November 30, 2001, the Company acquired by merger Borel, a private bank located in San Mateo, California, in exchange for 5,629,872 newly issued shares of the Company's common stock. In addition, the Company issued 230,000 stock options in exchange for Borel's previously issued stock options. These mergers were initiated prior to June 30, 2001 and were accounted for as "poolings of interests." Accordingly, the results of operations of the Company reflect the financial position and results of operations including Westfield, RINET, Borel and BPVI on a consolidated basis for all periods presented. On August 31, 2000, the Company purchased Sand Hill, an investment advisory firm servicing the wealth management market, primarily in Northern California. This acquisition was accounted for as a "purchase of a business" and, accordingly, the Company's results of operations and financial position include Sand Hill on a consolidated basis since the date of the acquisition. 13 On December 18, 2002 the Company acquired 26% of the outstanding capital stock of Coldstream Holdings, Inc. Coldstream Holdings, Inc. is the parent of Coldstream Capital Management, Inc. of Bellevue, Washington. Coldstream Capital is a multi-client family office that provides comprehensive wealth management services to high net worth private clients. The Company conducts substantially all of its business through its wholly-owned subsidiaries, Boston Private Bank, Borel, Westfield, Sand Hill, BPVI and RINET. A description of each subsidiary is provided in Note 3 to the Consolidated Financial Statements included on Form 10K. CRITICAL ACCOUNTING POLICIES Critical accounting policies are defined as those that are reflective of significant judgments and uncertainties, and could potentially result in materially different results under different assumptions and conditions. We believe that our most critical accounting policies upon which our financial condition depends, and which involve the most complex or subjective decisions or assessments are as follows: ALLOWANCE FOR LOAN LOSSES: Arriving at an appropriate level of allowance for loan losses involves a high degree of judgment. The Company's allowance for loan losses provides for probable losses based upon evaluations of known, and inherent risks in the loan portfolio. Management uses historical information to assess the adequacy of the allowance for loan losses as well as the prevailing business environment; as it is affected by changing economic conditions and various external factors, which may impact the portfolio in ways currently unforeseen. The allowance is increased by provisions for loan losses and by recoveries of loans previously charged-off and reduced by loans charged-off. For a full discussion of the Company's methodology of assessing the adequacy of the allowance for loan losses, see "Financial Condition - Allowance for Loan Losses". VALUATION OF GOODWILL/INTANGIBLE ASSETS AND ANALYSIS FOR IMPAIRMENT: For acquisitions under the purchase method, the Company is required to record assets acquired and liabilities assumed at their fair value which is an estimate determined by the use of internal or other valuation techniques. These valuation estimates are used to determine the amount of goodwill and other intangible assets recognized. Goodwill and intangible assets are subject to ongoing periodic impairment tests and are evaluated using various fair value techniques. In evaluating the recorded goodwill for impairment, management must estimate the fair value of the business segments that have goodwill. The estimated valuation requires estimates of future performance and is susceptible to changes in the capital market environment as well as changes that occur at the business segment. IMPACT OF ACCOUNTING ESTIMATES Management of the Company is required to make certain estimates and assumptions, including estimates for the critical accounting policies noted above, during the preparation of consolidated financial statements in accordance with accounting principles generally accepted in the United States. In addition to the estimates for the critical accounting policies, estimates were made in conjunction with determining the charge recorded relating to the lease of the space vacated by Sand Hill Advisors. See "LEASE ABANDONMENT". These estimates and assumptions impact the reported amount of assets, liabilities and disclosures of contingent assets and liabilities as of the date of the consolidated financial statements. They also impact the reported amount of net earnings during any period. Actual results could differ from those estimates. FINANCIAL CONDITION TOTAL ASSETS. Total assets increased $113.7 million, or 6.2%, to $1.9 billion at March 31, 2003 from $1.8 billion at December 31, 2002. This increase was primarily driven by deposit growth, which was primarily used to fund new commercial loans. INVESTMENTS. Total investments (consisting of cash, federal funds sold and other short term investments, money market investments, investment securities, mortgage-backed securities, and stock in the FHLB) increased $54.9 million or 12.8% to $483.3 million, or 25.0% of total assets, at March 31, 2003, from $428.4 million, or 23.5% of total assets, at December 31, 2002. Management periodically evaluates investment alternatives to properly manage the overall balance sheet. The timing of sales and reinvestments is based on various factors, including management's evaluation of interest rate trends and our liquidity. 14 The following table is a summary of investment and mortgage-backed securities available for sale as of March 31, 2003 and December 31, 2002:
AMORTIZED UNREALIZED MARKET COST GAINS LOSSES VALUE ------------- ------------ ----------- ------------- (IN THOUSANDS) AT MARCH 31, 2003 U.S. Government and agencies $156,350 $3,472 $(55) $159,767 Corporate bonds 12,867 119 (33) 12,953 Municipal bonds 175,287 2,926 (538) 177,675 Mortgage-backed securities 1,208 12 -- 1,220 ------------- ------------ ----------- -------------- Total investments $345,712 6,529 (626) $351,615 ============= ============ =========== ============== AT DECEMBER 31, 2002 U.S. Government and agencies $163,730 $4,390 $-- $168,120 Corporate bonds 15,887 280 (1) 16,166 Municipal bonds 99,068 2,815 (23) 101,860 Mortgage-backed securities 1,369 19 -- 1,388 ------------- ------------ ----------- -------------- Total investments $280,054 7,504 (24) $287,534 ============= ============ =========== ==============
LOANS HELD FOR SALE. Loans held for sale decreased $16.9, or 45.2% during the first three months of 2003 to $14.0 million from $30.9 million. This decrease is due to the timing of the loan sales. In the first quarter of 2003, there were $63.1 million of mortgage loans originated for sale offset by $80.0 million loans sold on the secondary market. LOANS. Total portfolio loans increased $73.8 million, or 5.7%, during the first three months of 2003 to $1.38 billion, or 71.1% of total assets, at March 31, 2003, from $1.30 billion, or 71.5% of total assets, at December 31, 2002. This increase was primary driven by growth in the commercial loans portfolio which increased $70.3 million, or 10.4%, due to the high demand for financing in this low interest rate environment. Residential mortgage loans increased $7.2 million, or 1.3%, during the first three months of 2003 as mortgage loan originations of variable rate loans of $45 million were almost offset by payoffs and refinancings. RISK ELEMENTS. Total non-performing assets, which consist of non-accrual loans and other real estate owned, increased by $749,000 during the first three months of 2003 to $1.8 million, or 0.09% of total assets, at March 31, 2003, from $1.0 million, or 0.06% of total assets, at December 31, 2002. We continue to evaluate the underlying collateral and value of each of our non-performing assets and pursue the collection of all amounts due. At March 31, 2003, loans with an aggregate balance of $4.2 million, or 0.30% of total loans, were 30 to 89 days past due, an increase of 4.1% as compared to $4.0 million, or 0.31% of total loans, as of December 31, 2002. Although these loans are generally secured, our success in keeping these borrowers current varies from month to month, and it is uncertain whether available collateral would, in all cases, be adequate to cover the amounts owed. We discontinue the accrual of interest on a loan when the collectibility of principal or interest is in doubt. In certain instances, loans that have become 90 days past due may remain on accrual status if we believe that full principal and interest due on the loan is collectible. ALLOWANCE FOR LOAN LOSSES. The allowance for loan losses is established through a charge to operations. When management believes that the collection of a loan's principal balance is unlikely, the principal amount is charged against the allowance. Recoveries on loans that have been previously charged off are credited to the allowance as received. The allowance for loan losses is determined using a systematic analysis and procedural discipline based on historical experience, product types, and industry benchmarks. The allowance is segregated into three components: "general," "specific" and "unallocated." The general component is determined by applying coverage percentages to groups of loans based on risk. A system of periodic loan reviews is performed to assess the inherent risk and assign risk ratings to each loan individually. Coverage percentages applied are determined based on industry practice and management's judgment. The specific component is established by allocating a portion of the allowance for loan losses to individual classified loans on the 15 basis of specific circumstances and assessments. The unallocated component supplements the first two components based on management's judgment of the effect of current and forecasted economic conditions on borrowers' abilities to repay, an evaluation of the allowance for loan losses in relation to the size of the overall loan portfolio, and consideration of the relationship of the allowance for loan losses to nonperforming loans, net charge-off trends, and other factors. While this evaluation process utilizes historical and other objective information, the classification of loans and the establishment of the allowance for loan losses rely to a great extent on the judgment and experience of management. While management evaluates currently available information in establishing the allowance for loan losses, future adjustments to the allowance may be necessary if economic conditions differ substantially from the assumptions used in making the evaluations. In addition, various regulatory agencies, as an integral part of their examination process, periodically review a financial institution's allowance for loan losses. Such agencies may require the financial institution to recognize additions to the allowance based on their judgments about information available to them at the time of their examination. The following table is an analysis of our allowance for loan losses for the periods indicated:
THREE MONTHS ENDED MARCH 31, -------------------------------- 2003 2002 ---------------- --------------- (DOLLARS IN THOUSANDS) Ending gross loans $ 1,375,538 $ 1,151,459 Allowance for loan losses, beginning of period $ 17,050 $ 14,521 Provision for loan losses 778 680 Charge offs (92) (2) Recoveries -- 2 ---------------- --------------- Allowance for loan losses, end of period $ 17,736 $ 15,201 ================ =============== Allowance for loan losses to ending gross loans 1.29% 1.32% ================ ===============
DEPOSITS. We experienced an increase in total deposits of $96.6 million, or 6.9%, during the first three months of 2003, to $1.497 billion, or 77.4% of total assets, at March 31, 2003, from $1.400 billion, or 76.9% of total assets, at December 31, 2002. This increase was due to higher average balances in existing client accounts, as well as a significant number of new accounts opened during the first three months of 2003. In addition, we believe clients are seeking more stable investment opportunities in bank deposits due to the current uncertainty in the marketplace. The following table shows the composition of our deposits at March 31, 2003 and December 31, 2002:
MARCH 31, 2003 DECEMBER 31, 2002 ------------------------------ ------------------------------ AS A % OF AS A % OF BALANCE TOTAL BALANCE TOTAL ------------------------------ ------------------------------ Demand deposits $ 246,883 16.5% $ 242,453 17.3% NOW 206,623 13.8% 207,693 14.8% Savings 24,542 1.7% 24,071 1.7% Money Market 771,054 51.5% 675,105 48.2% Certificates of deposit under $100,000 80,048 5.3% 81,829 5.9% Certificates of deposit $100,000 or greater 167,758 11.2% 169,182 12.1% ---------- -------- ---------- -------- Total $1,496,908 100.0% $1,400,333 100.0% ========== ======== ========== ========
16 BORROWINGS. Total borrowings (consisting of federal funds purchased, FHLB borrowings, and securities sold under agreements to repurchase ("repurchase agreements")) increased $18.5 million, or 8.4%, during the first three months of 2003 to $236.8 million from $218.4 million at December 31, 2002. To better manage interest rate risk and to help protect our net interest margin, we utilize fixed rate FHLB borrowings to fund a portion of fixed rate assets. LIQUIDITY. Liquidity is defined as the ability to meet current and future financial obligations of a short-term nature. We further define liquidity as the ability to respond to the needs of depositors and borrowers as well as to earnings enhancement opportunities in a changing marketplace. Primary sources of liquidity consist of investment management fees, financial planning fees, deposit inflows, loan repayments, borrowed funds, and cash flows from investment securities. These sources fund our lending and investment activities. Management is responsible for establishing and monitoring liquidity targets as well as strategies to meet these targets. At March 31, 2003, cash, federal funds sold and other short term investments, money market investments and securities available for sale amounted to $474.4 million, or 24.5% of total assets of the Company. This compares to $420.3 million, or 23.1% of total assets, at December 31, 2002. Boston Private Financial Holdings' (the "Holding Company") primary sources of funds are dividends from our subsidiaries, issuance of our common stock and borrowings. The condensed balance sheet, statement of operations and statement of cash flows for the Holding Company are included in the footnotes of the Annual Report. We believe that the Holding Company has adequate liquidity to meet its' commitments for the foreseeable future although we anticipate financing the proposed acquisition of DGHM (see Footnote #7 - Subsequent Event) in part with the issuance of Trust Preferred securities. In addition, negotiations are in process to replace the $15 million line of credit that expired in January 2003 with a new facility for $24 million. Liquidity at the Holding Company is dependent upon the liquidity of its subsidiaries. The Company's non bank subsidiaries have adequate capital to meet their recurring commitments for the foreseeable future. The Holding Company may provide funds for acquisitions and leasehold improvements acquired by the subsidiaries. The bank subsidiaries are both well capitalized and maintain liquidity and have access to borrowings from the Federal Reserve Bank and other sources as more fully described in the Annual Report on Form 10K. CAPITAL RESOURCES. Our stockholders' equity at March 31, 2003 was $167.8 million, or 8.7% of total assets, compared to $167.4 million, or 9.2% of total assets at December 31, 2002. The dollar increase was the result of our net income for the first three months of 2003 of $1.1 million, combined with proceeds from options exercised reduced by dividends paid to shareholders and the change in accumulated other comprehensive income. The Company is subject to various regulatory capital requirements administered by federal agencies. Failure to meet minimum capital requirements can result in certain mandatory, and possibly additional discretionary actions by regulators that, if undertaken, could have a material effect on our financial statements. For example, under capital adequacy guidelines and the regulatory framework for prompt corrective action, Boston Private Bank and Borel must each meet specific capital guidelines that involve quantitative measures of each of their respective assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. Boston Private Bank's and Borel's respective capital amounts and classifications are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors. Similarly, the Company is also subject to capital requirements administered by the Federal Reserve Bank with respect to certain non-banking activities, including adjustments in connection with off-balance sheet items. The following table presents actual capital amounts and regulatory capital requirements as of March 31, 2003 and December 31, 2002: 17
TO BE WELL CAPITALIZED FOR CAPITAL ADEQUACY UNDER PROMPT CORRECTIVE ACTUAL PURPOSES ACTION PROVISIONS ------------------------------- ------------------------------- ---------------------------- AMOUNT RATIO AMOUNT RATIO AMOUNT RATIO --------------- --------------- --------------- -------------- -------------- -------------- (DOLLARS IN THOUSANDS) AS OF MARCH 31, 2003: Total risk-based capital Company $162,188 12.71% $102,053 > 8.0% $127,567 > 10.0% Boston Private Bank 98,513 11.36 69,356 8.0 86,696 10.0 Borel 43,710 11.09 31,526 8.0 39,408 10.0 Tier I risk-based Company 146,221 11.46 51,027 4.0 76,540 6.0 Boston Private Bank 87,658 10.11 34,678 4.0 52,017 6.0 Borel 38,778 9.84 15,763 4.0 23,645 6.0 Tier I leverage capital Company 146,221 7.89 74,098 4.0 92,623 5.0 Boston Private Bank 87,658 6.40 54,746 4.0 68,433 5.0 Borel 38,778 8.30 18,691 4.0 23,364 5.0 AS OF DECEMBER 31, 2002: Total risk-based capital Company $160,178 12.95% $98,989 > 8.0% $123,736 > 10.0% Boston Private Bank 97,395 11.36 68,607 8.0 85,759 10.0 Borel 41,558 11.35 29,283 8.0 36,604 10.0 Tier I risk-based Company 144,642 11.69 49,495 4.0 74,242 6.0 Boston Private Bank 86,661 10.11 34,303 4.0 51,455 6.0 Borel 36,975 10.10 14,642 4.0 21,962 6.0 Tier I leverage capital Company 144,692 8.16 70,946 4.0 88,683 5.0 Boston Private Bank 86,661 6.61 52,408 4.0 65,509 5.0 Borel 36,975 8.20 18,041 4.0 22,552 5.0
18 RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED MARCH 31, 2003 NET INCOME. The Company recorded net income of $1.1 million, or $0.05 per diluted share, for the quarter ended March 31, 2003 compared to $5.8 million, or $0.24 per diluted share for the quarter ended March 31, 2002. Net income for the quarter ended March 31, 2003 includes reserves of $3.1 million ($0.13 per diluted share) and $1.3 million ($0.06 per diluted share) related to the enactment of a retroactive Massachusetts tax increase and lease abandonment costs, respectively. Excluding these reserves, net income and diluted earnings per share would have been $5.5 million and $0.24, respectively. REIT TAX ADJUSTMENT. In the first quarter of 2003, the Company established a reserve of $3.1 million for additional state taxes, relating to new legislation retroactively disallowing the deduction for dividends received from a real estate investment trust subsidiary (a "REIT") for the 1999 through 2002 calendar years. The reserve includes interest (net of any federal tax deduction associated with such taxes and interest). The REIT tax reserve has been established due to new legislation enacted March 5, 2003 that amends existing Massachusetts law to expressly disallow the deduction for dividends received from a REIT. The legislative amendment applies retroactively to tax years ending on or after December 31, 1999. As a result of the new legislation the Company will cease recording the tax benefits associated with the dividend received deduction effective for the 2003 tax year. The effective tax rate was 34.6% for the first quarter of 2003 before the retroactive portion of the REIT adjustment. The effective tax rate for 2002 was 31.8%. See "LEGAL PROCEEDINGS." LEASE ABANDONMENT. In the first quarter of 2003, Sand Hill moved its offices to space adjacent to the Palo Alto offices of Borel. In connection with this move, we recorded a charge of approximately $2.0 million relating to the lease for the vacated space. The charge is for the difference between the fair value of the remaining lease payments reduced by the fair value of the estimated sublease income to be received from the space being vacated. The chart below provides a reconciliation of net income and diluted earnings per share as determined in accordance with GAAP to adjusted net income and earnings per share. To supplement its financial results prepared in accordance with GAAP, the Company has presented non-GAAP measures of earnings adjusted to exclude the REIT tax reserve and the lease abandonment costs which management believes are outside the Company's core operational results. The Company believes presentation of these adjusted earnings enhances an overall understanding of its historical financial performance and future prospects because management believes they are an indication of the performance of our base business. Management uses these non-GAAP measures as a basis for evaluating financial performance as well as for budgeting and forecasting of future periods. For these reasons the Company believes they can be useful to investors. The presentation of this additional information should not be considered in isolation or as a substitute for net income or net income per diluted share prepared in accordance with GAAP.
-------------------------------------------------------------------- MARCH 31, 2003 RETROACTIVE GAAP REIT TAX LEASE ADJUSTED EARNINGS ADJUSTMENT ABANDONMENT EARNINGS ------------- ------------------ ------------------- --------------- REVENUES $30,796 $0 $0 $30,796 PROVISION FOR LOAN LOSSES 778 0 0 778 EXPENSES 24,136 (466) (2,028) 21,642 ------------- ------------------ ------------------- --------------- PRE-TAX INCOME 5,882 466 2,028 8,376 INCOME TAX EXPENSE 4,801 (2,613) 710 2,898 ------------- ------------------ ------------------- --------------- NET INCOME $1,081 $3,079 $1,318 $5,478 ============= ================== =================== =============== DILUTED EARNINGS PER SHARE $ 0.05 $ 0.13 $ 0.06 $ 0.24 ------------- ------------------ ------------------- ---------------
19 NET INTEREST INCOME. For the quarter ended March 31, 2003, net interest income was $16.3 million, an increase of $1.1 million, or 7.3%, over the same period in 2002. This increase was due to increases in average balances of both interest earning assets and liabilities offset by decreases in the average rates of both interest earning assets and liabilities. The Company's net interest margin was 3.77% for the first quarter of 2003, a decrease of 54 basis points compared to the same period last year. The following table sets forth the average balance and average rate for interest earning assets and interest bearing liabilities for the three months ended March 31, 2003 and March 31, 2002.
MARCH 31, 2003 MARCH 31, 2002 ------------------------- -------------------------- INTEREST INTEREST AVERAGE EARNED/ AVERAGE AVERAGE EARNED/ AVERAGE BALANCE PAID RATE BALANCE PAID RATE ------- -------- ------- ------- -------- ------- Earning assets: Cash and Investments (1) 426,532 3,036 2.86% 331,022 3,414 4.13% Loans (2) Commercial 697,522 10,862 6.13% 532,263 9,320 7.00% Residential mortgage 563,085 7,813 5.58% 502,095 8,154 6.50% Home equity and other 79,144 1,130 5.85% 78,723 1,226 6.23% ------------------------------------------------------------ Total loans 1,339,751 19,805 5.92% 1,113,081 18,700 6.72% Total earning assets 1,766,283 22,841 5.18% 1,444,104 22,114 6.12% ============================================================ Interest bearing liabilities: Deposits $1,213,053 4,110 1.37% $1,006,964 4,647 1.87% Borrowed funds 222,514 2,025 3.72% 177,269 1,795 4.11% ------------------------------------------------------------ Total interest-bearing liabilities 1,435,567 6,135 1.73% 1,184,233 6,442 2.21% ------------------------------------------------------------ Interest rate spread 3.45% 3.91% Net interest margin 3.77% 4.31%
- -------------------------------- (1) Interest income on non-taxable investments is presented on a fully taxable-equivalent basis using the federal statutory rate. These adjustments were $398,000 and $473,000 for 2003 and 2002, respectively. (2) Includes loans held for sale. INTEREST INCOME. During the first quarter of 2003, interest income was $22.4 million, an increase of $802,000 or 3.7%, compared to $21.6 million for the same period in 2002. Interest income on commercial loans increased 16.5% to $10.9 million for the quarter ended March 31, 2003, compared to $9.3 million for the same period in 2002. Interest income from residential mortgage loans decreased 4.2% to $7.8 million for the first quarter of 2003, compared to $8.2 million for the same period in 2002, and interest on home equity and other loans decreased 7.8% to $1.1 million for the first quarter of 2003, compared to $1.2 million, for the same period in 2002. The average balance of commercial loans increased 31.0% and the average rate decreased 12.4%, or 87 basis points, to 6.13% for the quarter ended March 31, 2003. The average balance of residential mortgage loans increased 12.1%, and the average rate decreased 14.2%, or 92 basis points, to 5.58% for the same period. The decline in the average rate is due to a high level of refinancing at lower interest rates. The average balance of home equity and other loans increased 0.5% and the average rate decreased 6.1%, or 38 basis points, to 5.85%. 20 Total investment income (consisting of interest and dividend income from cash, federal funds sold, investment securities, mortgage-backed securities, and stock in the FHLB of Boston) decreased $303,000, or 10.3%, to $2.6 million for the quarter ended March 31, 2003, compared to $2.9 million for the same period in 2002. This decrease was primarily attributable to a decrease in the average interest rate of 127 basis points on the investments. This represents a 30.8% decline to 2.86%. This decrease was offset by an increase in the average balance of $95.5 million, or 28.9% for the quarter ended March 31, 2003. 21 INTEREST EXPENSE. During the first quarter of 2003, interest expense was $6.1 million, a decrease of $307,000, or 4.8%, compared to $6.4 million for the same period in 2002. This decrease in the Company's interest expense was the result of a decrease in the average cost of interest-bearing liabilities of 48 basis points, or 21.7%, to 1.73% for the quarter ended March 31, 2003. This decrease was partially offset by an increase in the average balance of interest-bearing liabilities of $251,000, or 21.2%, between the two periods. PROVISION FOR LOAN LOSSES. The provision for loan losses was $778,000 for the quarter ended March 31, 2003, compared to $680,000 for the same period in 2002. These provisions reflect continued loan growth and a low level of non-performing assets. We evaluate several factors including new loan originations, estimated charge-offs, and risk characteristics of the loan portfolio when determining the provision for loan losses. These factors include the level and mix of loan growth, the level of non-accrual and delinquent loans, and the level of charge-offs and recoveries. Also see discussion under "FINANCIAL CONDITION - ALLOWANCE FOR LOAN LOSSES." Charge-offs net of recoveries were $93,000 during the first quarter of 2003. Charge-offs of $2,000 were offset by recoveries of $2,000 for the same period in 2002. FEES AND OTHER INCOME. Fees and other income increased $1.4 million, or 11.0%, to $14.5 million for the three-month period ending March 31, 2003, compared to $13.1 million for the same period in 2002. The majority of fee income was attributable to investment management and trust fees earned on assets under management. These fees decreased $46,000, or 0.5%, to $9.8 million for the first quarter of 2003, compared to $9.9 million for the same period in 2002. This decrease is attributable to a decrease in the average fees earned on assets under management almost offset by a 1.0% increase in AUM. Financial planning fees increased $62,000, or 4.2%, to $1.5 million for the first quarter of 2003. This increase was due to both new business and special projects. Gain on sale of investment securities was $1.1 million for the first quarter of 2003 compared to $415,000 for the first quarter of 2002. The amount of security gains recorded in the portfolios are dependent on current market conditions and the status of the Banks' balance sheets. Gain on sale of loans increased $520,000 to $791,000 for the first quarter of 2003 compared to $271,000 for the first quarter of 2002. The Company sells virtually all of its fixed rate mortgage loans and periodically sells loans out of portfolio to free up capital and adjust the balance sheet gap. Cash administration fees, which consist primarily of cash management fees and liquid asset management fees, were $214,000 for the quarter ended March 31, 2003 compared to $221,000 for the first quarter of 2002. Other fee income, which consists primarily of loan fees and banking fees, increased $81,000 to $688,000 for the first quarter of 2003. OPERATING EXPENSE. Total operating expense for the first quarter of 2003 were $24.1 million compared to $19.1 million for the same period in 2002. Total operating expenses for the first quarter of 2003 include reserves of $466,000 and $2.0 million related to the interest associated with retroactive Massachusetts tax increase and lease abandonment costs, respectively. Excluding these costs, adjusted operating expenses would have been $21.6 million, a $2.5 million or 13.3% increase over the first quarter of 2002. This increase was attributable to our continued growth and expansion. We experienced a 22.6% increase in total balance sheet assets and an 11.9% increase in the number of employees from March 31, 2002 to March 31, 2003. Salaries and benefits, the largest component of operating expense, increased $1.4 million, or 11.2%, to $14.3 million for the quarter ended March 31, 2003, from $12.8 million for the same period in 2002. This increase was due to an 11.9% increase in the number of employees, normal salary increases, and the related taxes and benefits thereon, partially offset by a reduced level of employee incentive-based compensation. Occupancy and equipment expense was $5.3 million for the first quarter of 2003 compared to $2.5 million for the same period last year. Excluding the lease abandonment costs of $2.0 million, occupancy and equipment expenses would have been $3.3 million, a $745,000 or 29.8% increase over the first quarter of 2002. The increase was primarily attributable to the increased occupancy expenses related to expansion at Ten Post Office Square, Boston, Massachusetts, and the new banking offices in Newton, Massachusetts and Palo Alto, California as well as our continued investments in technology. 22 Professional services include legal fees, consulting fees, and other professional services such as audit and tax preparation. These expenses increased $210,000, or 24.9%. This is a result of increased expenditures among a number of different professional services. Contract services and processing, which are mostly costs associated with custody and data processing, increased $62,000 from the first quarter in 2002. This increase was due primarily to continued investments in our data processing systems. Amortization of intangibles was $39,000 for the first quarter of 2003, an increase of $34,000 from the first quarter of 2002. This increase is attributable to the amortization of the advisory contacts associated with the Goldberg acquisition. Other expenses include insurance, supplies, telephone, mailing expense, publications and subscriptions, employee training, interest on deferred acquisition payments and other miscellaneous business expenses. Other expenses were $2.1 million in the first quarter of 2003 compared to $1.7 million for the same period in 2002. For the first quarter of 2003, other expenses include a reserve of $466,000 for interest associated with the retroactive Massachusetts Tax increase. Excluding these expenses, other expenses would have been $1.6 million, a decrease of $39,000 from the same period in 2002. INCOME TAX EXPENSE. We recorded income tax expense of $4.8 million for the first quarter of 2003 as compared to $2.7 million for the same period last year. Excluding the charge related to the retroactive Massachusetts tax increase, income tax expense would have been $2.2 million. The effective tax rate was 34.5% for the first quarter of 2003 before the REIT adjustment. The effective tax rate for 2002 was 31.8%. See "LEGAL PROCEEDINGS." 23 RISK FACTORS AND FACTORS AFFECTING FORWARD-LOOKING STATEMENTS THIS QUARTERLY REPORT ON FORM 10-Q CONTAINS FORWARD-LOOKING STATEMENTS WITHIN THE MEANING OF SECTION 27A OF THE SECURITIES ACT AND SECTION 21E OF THE EXCHANGE ACT. BOSTON PRIVATE'S ACTUAL RESULTS COULD DIFFER MATERIALLY FROM THOSE PROJECTED IN THE FORWARD-LOOKING STATEMENTS SET FORTH IN THIS QUARTERLY REPORT ON FORM 10-Q. FACTORS WHICH MAY CAUSE SUCH A MATERIAL DIFFERENCE INCLUDE THOSE SET FORTH BELOW. INVESTORS IN BOSTON PRIVATE'S COMMON STOCK SHOULD CAREFULLY CONSIDER THE DISCUSSION OF RISK FACTORS BELOW, IN ADDITION TO THE OTHER INFORMATION CONTAINED IN THIS QUARTERLY REPORT ON FORM 10-Q. REFERENCE TO "WE," "OUR," AND "US" REFER TO BOSTON PRIVATE AND ITS SUBSIDIARIES ON A CONSOLIDATED BASIS. WE MAY NOT BE ABLE TO ATTRACT AND RETAIN BANKING CUSTOMERS AT CURRENT LEVELS Competition in local banking industries coupled with our relatively small size may limit the ability of the Banks to attract and retain banking customers. The Banks face competition from the following: o other banking institutions (including larger Boston and Northern California and suburban commercial banking organizations); o savings banks; o credit unions; o other financial institutions; and o non-bank financial service companies serving eastern Massachusetts, Northern California and their respective adjoining areas. In particular, the Banks' competitors include several major financial companies whose greater resources may afford them a marketplace advantage by enabling them to maintain numerous banking locations and mount extensive promotional and advertising campaigns. Additionally, banks and other financial institutions with larger capitalization and financial intermediaries not subject to bank regulatory restrictions have larger lending limits and are thereby able to serve the credit and investment needs of larger customers. Areas of competition include interest rates for loans and deposits, efforts to obtain deposits and range and quality of services provided. The Banks also face competition from out-of-state financial intermediaries which have opened low-end production offices or which solicit deposits in their respective market areas. Because the Banks maintain smaller staffs and have fewer financial and other resources than larger institutions with which they compete, they may be limited in their ability to attract customers. In addition, some of the Banks' current commercial banking customers may seek alternative banking sources as they develop needs for credit facilities larger than the Banks can accommodate. If the Banks are unable to attract and retain banking customers, they may be unable to continue their loan growth and their results of operations and financial condition may otherwise be negatively impacted. WE MAY NOT BE ABLE TO ATTRACT AND RETAIN INVESTMENT MANAGEMENT CLIENTS AT CURRENT LEVELS Due to the intense local competition and our relatively short history and limited record of performance in the investment management business, Boston Private Bank and our investment management subsidiaries, Westfield, Sand Hill, BPVI, and RINET, may not be able to attract and retain investment management clients at current levels. In the investment management industry, we compete primarily with the following: o commercial banks and trust companies; o mutual fund companies; 24 o investment advisory firms; o stock brokerage firms; o law firms; and o other financial services companies. Competition is especially keen in our geographic market area, because there are numerous well-established and successful investment management firms in Boston, New England and in Northern California. Many of our competitors have greater resources than we have. Our ability to successfully attract and retain investment management clients is dependent upon our ability to compete with our competitors' investment products, level of investment performance, client services and marketing and distribution capabilities. If we are not successful, our results from operations and financial position may be negatively impacted. For the quarter ended March 31, 2003, approximately 32.0% of our revenues were derived from investment management contracts which are typically terminable upon less than 30 days' notice. Most of our clients may withdraw funds from accounts under management generally in their sole discretion. Moreover, Westfield receives some performance-based fees. The amount of these fees is impacted directly by the investment performance of Westfield. As a result, the future revenues from such fees may fluctuate and may be affected by conditions in the capital markets and other general economic conditions. During the past three years, the performance fees earned by Westfield have not been material. Westfield, BPVI, RINET, and Sand Hill are our major investment management subsidiaries, and their financial performance is a significant factor in our overall results of operations and financial condition. DEFAULTS IN THE REPAYMENT OF LOANS MAY NEGATIVELY IMPACT OUR BUSINESS Defaults in the repayment of loans by the Banks' customers may negatively impact their businesses. A borrower's default on its obligations under one or more of the Banks' loans may result in lost principal and interest income and increased operating expenses as a result of the allocation of management time and resources to the collection and work-out of the loan. In certain situations, where collection efforts are unsuccessful or acceptable work-out arrangements cannot be reached, the Banks may have to write-off the loan in whole or in part. In such situations, the Banks may acquire any real estate or other assets, if any, which secure the loan through foreclosure or other similar available remedies. In such cases, the amount owed under the defaulted loan often exceeds the value of the assets acquired. The Banks' respective management periodically makes a determination of an allowance for loan losses based on available information, including the quality of its loan portfolio, certain economic conditions, the value of the underlying collateral and the level of its non-accruing loans. Provisions to this allowance result in an expense for the period. If, as a result of general economic conditions or an increase in defaulted loans, management determines that additional increases in the allowance for loan losses are necessary, the Banks may incur additional expenses. In addition, bank regulatory agencies periodically review the Banks' allowances for loan losses and the values they attribute to real estate acquired through foreclosure or other similar remedies. Such regulatory agencies may require the Banks to adjust their determination of the value for these items. These adjustments could negatively impact the Banks' results of operations or financial position. A DOWNTURN IN THE LOCAL ECONOMIES OR REAL ESTATE MARKETS COULD NEGATIVELY IMPACT OUR BANKING BUSINESS A downturn in the local economies or real estate markets could negatively impact our banking business. Because the Banks serve primarily individuals and smaller businesses located in eastern Massachusetts and adjoining areas, with a particular concentration in the Greater Boston Metropolitan Area and Northern California, the ability of the Banks' customers to repay their loans is impacted by the economic conditions in these areas. Furthermore, current negative economic trends, including the recession, increased unemployment in Northern California and New England, as well as ongoing economic uncertainty created by the September 11, 2001 terrorist attacks on the World Trade Center and the Pentagon, and the United States' war on terrorism in Afghanistan and elsewhere, and the war with Iraq will likely continue to negatively impact 25 businesses in Northern California and New England. While we are currently uncertain as to the long-term effects of these events, they could adversely affect general economic conditions, consumer confidence and market liquidity, or result in changes in interest rates, any of which may have a negative impact on the banking business of the Banks. The Banks' commercial loans are generally concentrated in the following customer groups: o real estate developers and investors; o financial service providers; o technology companies; o manufacturing and communications companies; o professional service providers; o general commercial and industrial companies; and o individuals. The Banks' commercial loans, with limited exceptions, are secured by either real estate (usually, income producing residential and commercial properties), marketable securities or corporate assets (usually, accounts receivable, equipment or inventory). Consequently, the Banks' ability to continue to originate real estate loans may be impaired by adverse changes in local and regional economic conditions in the real estate markets, or by acts of nature, including earthquakes and flooding. Due to the concentration of real estate collateral, these events could have a material adverse impact on the value of the collateral resulting in losses to either or both of the Banks. Substantially all of the Banks' residential mortgage and home equity loans are secured by residential property in eastern Massachusetts and Northern California. Also, due to the recent concerns with power supplies in the State of California, Borel could be materially and adversely affected either directly or indirectly by a severe power shortage, if any of its critical computer systems or equipment fails, if the local infrastructure, such as electric power, phone system, or water system, fails, if its significant vendors are adversely impacted, or it its borrowers or depositors are adversely impacted by their internal systems or those of their customers and suppliers. As a result, conditions in the real estate markets specifically, and the Massachusetts and California economies generally, can materially impact the ability of the Banks' borrowers to repay their loans and affect the value of the collateral securing these loans. ENVIRONMENTAL LIABILITY ASSOCIATED WITH COMMERCIAL LENDING COULD RESULT IN LOSSES In the course of business, the Banks may in the future acquire, through foreclosure, properties securing loans they have originated or purchased which are in default. Particularly in commercial real estate lending, there is a risk that hazardous substances could be discovered on these properties. In this event, we, or the respective Bank, might be required to remove these substances from the affected properties at our sole cost and expense. The cost of this removal could substantially exceed the value of affected properties. We may not have adequate remedies against the prior owner or other responsible parties could find it difficult or impossible to sell the affected properties, which could have a material adverse affect on our business, financial condition and operating results. FLUCTUATIONS IN INTEREST RATES MAY NEGATIVELY IMPACT OUR BANKING BUSINESS Fluctuations in interest rates may negatively impact the business of the Banks. The Banks' main source of income from operations is net interest income, which is equal to the difference between the interest income received on interest-bearing assets (usually, loans and investment securities) and the interest expense incurred in connection with interest-bearing liabilities (usually, deposits and borrowings). These rates are highly sensitive to many factors beyond the Banks' control, including general economic conditions, both domestic and foreign, and the monetary and fiscal policies of various governmental and regulatory authorities. The Banks' net interest income can be affected significantly by changes in market interest rates. Changes in relative interest rates may reduce the Banks' net interest income as the difference between interest income and interest expense decreases. As a result, the Banks have adopted asset and liability management policies to minimize the potential adverse effects of changes in interest rates on net interest income, primarily by altering the mix and maturity of loans, investments and funding sources. However, even with these policies in place, we cannot assure you that a decrease in interest rates will not negatively impact our results from operations or financial position. Specifically, Borel is 26 currently asset sensitive, which means that its interest bearing liabilities mature, or otherwise reprice, at a slower rate than its interest earning assets. As a result, in a period of declining interest rates, Borel will experience a shrinking of its interest margin as its floating rate loans will reprice immediately, while its fixed rate deposits will reprice over the course of a year. This reduction in interest rate may adversely affect Borel's earnings. An increase in interest rates could also have a negative impact on the Banks' results of operations by reducing the ability of borrowers to repay their current loan obligations, which could not only result in increased loan defaults, foreclosures and write-offs, but also necessitate further increases to the Banks' allowances for loan losses. OUR COST OF FUNDS FOR BANKING OPERATIONS MAY INCREASE AS A RESULT OF GENERAL ECONOMIC CONDITIONS, INTEREST RATES AND COMPETITIVE PRESSURES Our cost of funds for banking operations may increase as a result of general economic conditions, interest rates and competitive pressures. The Banks have traditionally obtained funds principally through deposits and through borrowings. As a general matter, deposits are a cheaper source of funds than borrowings, because interest rates paid for deposits are typically less than interest rates charged for borrowings. Historically and in comparison to commercial banking averages, the Banks have had a higher percentage of its time deposits in denominations of $100,000 or more. Within the banking industry, the amounts of such deposits are generally considered more likely to fluctuate than deposits of smaller denominations. If, as a result of general economic conditions, market interest rates, competitive pressures or otherwise, the value of deposits at the Banks decrease relative to their overall banking operations, the Banks may have to rely more heavily on borrowings as a source of funds in the future. OUR INVESTMENT MANAGEMENT BUSINESS MAY BE NEGATIVELY IMPACTED BY CHANGES IN ECONOMIC AND MARKET CONDITIONS Our investment management business may be negatively impacted by changes in general economic and market conditions because the performance of such business is directly affected by conditions in the financial and securities markets. The financial markets and the investment management industry in general have experienced record performance and record growth in recent years. The financial markets and businesses operating in the securities industry, however, are highly volatile (meaning that performance results can vary greatly within short periods of time) and are directly affected by, among other factors, domestic and foreign economic conditions and general trends in business and finance, all of which are beyond our control. We cannot assure you that broad market performance will be favorable in the future. In particular, the financial and securities markets have experienced a significant downturn since March 2000. This decline has impacted our investment management business, reducing both management and performance fees. In addition, following the September 11, 2001 terrorist attacks on the World Trade Center and the Pentagon, the world financial and securities markets experienced significant and precipitous decline in value from which they have yet to recover. The world financial and securities markets will likely continue to experience significant volatility as a result of, among other things, world economic and political conditions. Continued decline in the financial markets or a lack of sustained growth may result in a corresponding decline in our performance and may adversely affect the assets which we manage. In addition, Westfield's, BPVI's, Sand Hill's and a portion of RINET's management contracts generally provide for fees payable for investment management services based on the market value of assets under management, although a portion of Westfield's contracts also provide for the payment of fees based on investment performance. Because most contracts provide for a fee based on market values of securities, fluctuations in securities prices may have a material adverse effect on our results of operations and financial condition. OUR INVESTMENT MANAGEMENT BUSINESS IS HIGHLY REGULATED Our investment management business is highly regulated, primarily at the federal level. The failure of any of our subsidiaries that provide investment management services to comply with applicable laws or regulations could result in fines, suspensions of individual employees or other sanctions, including revocation of such subsidiary's registration as an investment adviser. Westfield, Sand Hill, BPVI, RINET, and Coldstream Capital are registered investment advisers under the Investment Advisers Act. The Investment Advisers Act imposes numerous obligations on registered investment advisers, including fiduciary, record keeping, operational and disclosure obligations. These subsidiaries, as investment advisers, are also subject to regulation under the federal and state securities laws and the fiduciary laws of certain states. In addition, Westfield and 27 Sand Hill act as sub-advisers to mutual funds which are registered under the 1940 Act and are subject to that act's provisions and regulations. We are also subject to the provisions and regulations of ERISA to the extent we act as a "fiduciary" under ERISA with respect to certain of our clients. ERISA and the applicable provisions of the federal tax laws, impose a number of duties on persons who are fiduciaries under ERISA and prohibit certain transactions involving the assets of each ERISA plan which is a client of ours, as well as certain transactions by the fiduciaries (and certain other related parties) to such plans. In addition, applicable law provides that all investment contracts with mutual fund clients may be terminated by the clients, without penalty, upon no later than 60 days' notice. Investment contracts with institutional and other clients are typically terminable by the client, also without penalty, upon 30 days' notice. Boston Private Financial Holdings does not directly manage investments for clients, does not directly provide any investment management services and, therefore, is not a registered investment adviser. Boston Private Bank and Borel are exempt from the regulatory requirements of the Investment Advisors Act, but are subject to extensive regulation by the FDIC and the Commissioner of Banks of the Commonwealth of Massachusetts and the California Department of Financial Institutions (the "DFI"). OUR BANKING BUSINESS IS HIGHLY REGULATED Bank holding companies and state chartered banks operate in a highly regulated environment and are subject to supervision and examination by federal and state regulatory agencies. Boston Private Financial Holdings is subject to the BHCA, and to regulation and supervision by the Federal Reserve Board. Boston Private Bank, as a Massachusetts chartered trust company the deposits of which are insured by the FDIC, is subject to regulation and supervision by the Massachusetts Commissioner of Banks and the FDIC. Borel, as a California banking corporation, is subject to regulation and supervision by the DFI and the FDIC. Federal and state laws and regulations govern numerous matters including changes in the ownership or control of banks and bank holding companies, maintenance of adequate capital and the financial condition of a financial institution, permissible types, amounts and terms of extensions of credit and investments, permissible non-banking activities, the level of reserves against deposits and restrictions on dividend payments. The FDIC, the DFI and the Massachusetts Commissioner of Banks possess cease and desist powers to prevent or remedy unsafe or unsound practices or violations of law by banks subject to their regulation, and the Federal Reserve Board possesses similar powers with respect to bank holding companies. These and other restrictions limit the manner in which we and the Banks may conduct business and obtain financing. Furthermore, our banking business is affected not only by general economic conditions, but also by the monetary policies of the FRB. Changes in monetary or legislative policies may affect the interest rates the Banks must offer to attract deposits and the interest rates they must charge on their loans, as well as the manner in which it offers deposits and makes loans. These monetary policies have had, and are expected to continue to have, significant effects on the operating results of depository institutions generally including the Banks. 28 TO THE EXTENT THAT WE ACQUIRE OTHER COMPANIES IN THE FUTURE, OUR BUSINESS MAY BE NEGATIVELY IMPACTED BY CERTAIN RISKS INHERENT WITH SUCH ACQUISITIONS We have in the past acquired, and expect in the future to continue to acquire other banking and investment management companies consistent with our institutions strategy. To the extent that we acquire other companies in the future, our business may be negatively impacted by certain risks inherent with such acquisitions. These risks include the following: o the risk that the acquired business will not perform in accordance with management's expectations; o the risk that difficulties will arise in connection with the integration of the operations of the acquired business with the operations of our banking or investment management businesses; o the risk that management will divert its attention from other aspects of our business; o the risk that we may lose key employees of the acquired business; o the risks associated with entering into geographic and product markets in which we have limited or no direct prior experience; and o the risks of the acquired company which we may assume as a result of the acquisition. ADVERSE DEVELOPMENTS IN LITIGATION COULD NEGATIVELY IMPACT OUR BUSINESS. Since 1984, Borel has served as the trustee of a private trust that has been the subject of protracted litigation. During the last seven years there have been three actions filed in the Superior Court for San Mateo County, California, by certain beneficiaries of the trust relating to the management and proposed sale of certain real property. These beneficiaries have claimed, among other things, that Borel breached its fiduciary duties as the trustee. Borel has prevailed in the first action and final judgment has been entered in its favor. Borel has prevailed in the trial court in the second action; however, the appeals court has remanded that case to the trial court for limited further proceedings. The third case has been held in abeyance by the trial court for several years pending disposition of the first two matters. Adverse developments in these lawsuits could have a material adverse effect on Borel's business or the combined business of the Banks. For a more detailed description of this litigation, see Item 3 "Legal Proceedings." ITEM 3. QUALITATIVE AND QUANTITATIVE DISCLOSURES ABOUT MARKET RISK For information related to this item, see the Company's December 31, 2002 Form 10-K, Item 7A - Interest Rate Sensitivity and Market Risk. No material changes have occurred since that date. ITEM 4. CONTROLS AND PROCEDURES (a) Evaluation of disclosure controls and procedures. As required by new Rule 13a-15 under the Securities Exchange Act of 1934, within the 90 days prior to the date of this report, the Company carried out an evaluation under the supervision and with the participation of the Company's management, including the Company's Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Company's disclosure controls and procedures. In designing and evaluating the Company's disclosure controls and procedures, the Company and its management recognize that any controls and procedures, no matter how well designed and operated, can provide only a reasonable assurance of achieving the desired control objectives, and management necessarily was required to apply its judgment in evaluating and implementing possible controls and procedures. Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company's disclosure controls and procedures are effective to ensure that information required to be disclosed by the Company in the reports it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the Securities and Exchange Commission's rules and forms. In connection with the rules regarding disclosure and control procedures, we intend to continue to review and document our disclosure controls and procedures, including our internal 29 controls and procedures for financial reporting, and may from time to time make changes aimed at enhancing their effectiveness and to ensure that our systems evolve with our business. (b) Change in internal controls. None. PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS A. INVESTMENT MANAGEMENT LITIGATION On or about May 3, 2002, a complaint was filed against Westfield in the Allegheny County Court of Common Pleas in Pittsburgh, Pennsylvania, on behalf of the Retirement Board of Allegheny County (the "plaintiff"). The complaint alleges that Westfield failed to uphold its contractual and common law obligations to invest Allegheny County retirement funds with proper care and diligence, resulting in an alleged opportunity loss of approximately $4 million. The complaint does not identify what conduct constituted the alleged breach. Westfield moved to dismiss the complaint on the ground, inter alia, that the complaint contains no allegations as to how Westfield breached the contract between the parties or its fiduciary duty to the Board. The motion was granted, in part. The plantiff's unfair trade practices claim, by which treble damages are potentially available, was dismissed. Discovery is in progress, and Westfield will continue to defend this claim vigorously. B. TRUST LITIGATION Since 1984, Borel has served as the trustee of a private family trust known as the Andre LeRoy Trust. There have been several actions involving Borel and certain beneficiaries of the Andre LeRoy Trust concerning the management and proposed sale of a certain real property known as the Guadalupe Oil Field. The property was jointly owned by the Andre LeRoy Trust and another private family trust, for which Bankers Trust (now Deutsche Bank) is the trustee. In the first action ("Removal Action"), initiated in 1994, certain beneficiaries of the Andre LeRoy Trust petitioned for removal of Borel as trustee, claiming that Borel had breached its fiduciary duties in managing oil and gas leases on the Guadalupe Oil Field and, following the discovery of environmental contamination on the property, in negotiating a proposed Settlement Agreement and Purchase and Sale Agreement to sell the property to Union Oil Company of California (d/b/a UNOCAL), the operator of the oil field. In the second action ("Approval Action"), initiated in 1995, Borel petitioned for court approval of the proposed Settlement Agreement and Purchase and Sale Agreement. The same group of beneficiaries that filed the Removal Action opposed the Approval Action. Borel prevailed in the trial court in the Removal Action in 1994 and in the Approval Action in 1995; however, in 1997 the Court of Appeal reversed the order in the Removal Action and remanded both actions for further proceedings. A trial took place in 1998. Borel again prevailed in both actions, and again the beneficiary group appealed. In February 2001, the Court of Appeal affirmed the order denying the petition for removal of Borel as trustee, and that order is now deemed final for all purposes. The Court of Appeal also remanded the Approval Action for limited reconsideration by the trial court. In March 2002, the trial court completed that reconsideration and issued an order again granting Borel's petition for approval of the Settlement and Purchase and Sale agreements. The beneficiary group filed a motion for a new trial, which was denied. In May 2002, the beneficiary group also filed a new petition ("Disapproval Action") seeking an order disapproving the Settlement and Purchase and Sale agreements as they had been recently amended, and on the basis of that new petition, sought a preliminary injunction to block the consummation of the amended agreements. The motion for a preliminary injunction was denied, as was the group's petition to the Court of Appeal for a writ of supersedeas. On July 2, 2002, the Settlement Agreement and the Purchase and Sale Agreement were consummated. There are three appeals by the beneficiary group currently pending: (1) an appeal from the March 2002 order approving the agreements; (2) an appeal from the denial of the motion for a new trial; and (3) an appeal from the denial of the motion for a preliminary injunction (which would now appear to be moot). These appeals have been consolidated. The beneficiary group has filed its opening brief. No hearing date has been set. Another action was filed in December 1996 ("Damages Action") in which the same group of beneficiaries sought damages against Borel and Bankers Trust (now Deutsche Bank) for alleged mismanagement of the jointly owned Guadalupe 30 Oil Field and for negotiating with UNOCAL for the sale of the property and settlement of UNOCAL's liability to the trust. In the Damages Action, the plaintiff beneficiaries claimed damages of $234.2 million, but that amount was unsubstantiated, and the component elements of damages they identified did not add up to that amount. In the trial of the Removal Action in 1998, the plaintiff beneficiaries submitted expert testimony of damages in the amount of $102 million. The trial court found this testimony unpersuasive. The Damages Action was stayed by the trial court in 1997 pending resolution of the Removal Action and the Approval Action. It remains stayed at the present time. The Disapproval Action filed in May 2002 was amended in December 2002. It seeks, among other things, the unwinding of the Settlement and Purchase and Sale agreements, the return of the Guadalupe Oil Field to the trusts, and unspecified damages for loss of the property. The amended petition repeats many of the same allegations made in this litigation since 1994. All proceedings in the disapproval action have been stayed pending resolutions of the consolidated appeals. The same group of dissenting beneficiaries filed yet another petition ("Distribution Petition") in October 2002 seeking full distribution of the proceeds of the Settlement and Purchase and Sale agreements and final wrapping up and dissolution of the Andre LeRoy Trust. It does not seek damages. The plaintiff beneficiaries have done nothing to date to pursue the Distribution Petition. Borel will continue to litigate the remaining matters vigorously. While the ultimate outcome of these proceedings cannot be predicted with certainty, at the present time Borel's management, based on consultation with legal counsel, believes there is no basis to conclude that liability with respect to these matters is probable or that such liability can be reasonably estimated. C. MASSACHUSETTS TAX MATTERS Boston Private Preferred Capital Corporation ("BPPCC") is a real estate investment trust 99.9% owned by the Boston Private Bank. Boston Private Bank has received notices of assessment from The Commonwealth of Massachusetts Department of Revenue ("DOR") for the years ended December 31, 1999, 2000 and 2001. The Company is aware that the DOR has also sent similar notices to numerous other financial institutions in Massachusetts that reported a deduction for dividends received from a REIT on their Massachusetts financial institution excise tax returns. The DOR contends that dividend distributions by BPPCC to Boston Private Bank are fully taxable in Massachusetts. The Company believes that the Massachusetts statute that provides for a dividends received deduction equal to 95% of certain dividend distributions applies to the distributions made by BPPCC to Boston Private Bank. Accordingly, no provision was made in the financial statements at the time of the assessments for the amounts assessed or additional amounts that might be assessed in the future. Management has estimated the potential impact to be approximately $3.0 million, net of federal tax benefit and including interest, for 1999 through December of 2002. Following the assessment, the Governor of Massachusetts signed legislation in March 2003 that seeks to amend the statute referred to above to expressly disallow the deduction for dividends received from a REIT. This amendment will apply retroactively to the years ending on or after December 31, 1999. As a result of the legislation, the Company will cease recording the tax benefits associated with the dividends received deduction effective in the 2003 tax year. In addition, in the first quarter of 2003 the Company established a reserve of approximately $3.0 million for additional state taxes, including interest (net of any federal tax deduction associated with such taxes and interest), thus reducing earnings by that amount in the first quarter of 2003. The Company intends to vigorously appeal the assessments and to pursue all available means to defend its position. The Company also believes that the new legislation is likely to be challenged, especially its retroactivity provisions, on constitutional and other grounds. The Company would support such a challenge. D. OTHER The Company is also involved in routine legal proceedings occurring in the ordinary course of business. In the opinion of management, final disposition of these proceedings will not have a material adverse effect on the financial condition or results of operations of the Company. 31 ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS None. ITEM 3. DEFAULTS UPON SENIOR SECURITIES None. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF THE SECURITY HOLDERS None ITEM 5. OTHER INFORMATION On May 2, 2003, the Company signed a definitive agreement to acquire an 80% interest in Dalton, Greiner, Hartman, Maher & Co. ("DGHM") of New York, NY. DGHM, founded in 1990 and managing approximately $2.2 billion of client assets, is a value style manager specializing in small-cap equities. The remaining 20% interest in the firm will be retained by members of the DGHM management team. The transaction's initial purchase price is expected to be approximately $75 million, with approximately 91% payable in cash, but the total purchase price could change as it is contingent upon the contracts transferred and operating results through a five-year earn-out period. We currently expect to finance the transaction through the issuance of $45 million of trust preferred securities. In addition, we will issue $4 million in common stock to shareholders of DGHM. The closing of the transaction is subject to several conditions, including regulatory approvals On March 3, 2003, BPVI appointed Richard B. Morgan as a senior vice president. In connection with this appointment, BPVI agreed to purchase Mr. Morgan's business. The estimated purchase price of $1.2 million is contingent upon contracts transferred and is to be paid in three installments as follows: 40% on July 30, 2003, 30% on July 30, 2004 and 30% on July 30, 2005. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits. None. (b) Reports on Form 8-K None 32 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. BOSTON PRIVATE FINANCIAL HOLDINGS, INC. (Registrant) May 15, 2003 /s/ Timothy L. Vaill ----------------------------- Timothy L. Vaill Chairman and Chief Executive Officer May 15, 2003 /s/ Walter M. Pressey ----------------------------- Walter M. Pressey President and Chief Financial Officer 33 CERTIFICATIONS I, Timothy L Vaill, Chairman and Chief Executive Officer of Boston Private Financial Holdings, Inc. certify that: 1. I have reviewed this quarterly report on Form 10-Q of Boston Private Financial Holdings, Inc.; 2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and have: a. Designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; b. Evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and c. Presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent functions): a. All significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b. Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 6. The registrant's other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date: May 15, 2003 By: /s/ Timothy L. Vaill ------------------------- Timothy L. Vaill Chairman and Chief Executive Officer 34 I, Walter M. Pressey, President and Chief Financial Officer of Boston Private Financial Holdings, Inc. certify that: 1. I have reviewed this quarterly report on Form 10-Q of Boston Private Financial Holdings, Inc.; 2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and have: a. Designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; b. Evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and c. Presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent functions): a. All significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b. Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 6. The registrant's other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date: May 15, 2003 By: /s/ WALTER M. PRESSEY ----------------------- Walter M. Pressey President and Chief Financial Officer 35 -----END PRIVACY-ENHANCED MESSAGE-----