-----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, CxBWMnwm7dQ1xxuya/1D8YcUn6sHTDZTcq6OsS3NKLG8VLkvcOw3IwBU/aXanGTk 7sdVDQclOyb6v6vf4VvOxA== 0000897101-98-000262.txt : 19980312 0000897101-98-000262.hdr.sgml : 19980312 ACCESSION NUMBER: 0000897101-98-000262 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 7 CONFORMED PERIOD OF REPORT: 19971231 FILED AS OF DATE: 19980311 SROS: NONE FILER: COMPANY DATA: COMPANY CONFORMED NAME: BREMER FINANCIAL CORPORATION CENTRAL INDEX KEY: 0000846616 STANDARD INDUSTRIAL CLASSIFICATION: STATE COMMERCIAL BANKS [6022] IRS NUMBER: 410715583 STATE OF INCORPORATION: MN FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 000-18342 FILM NUMBER: 98563361 BUSINESS ADDRESS: STREET 1: 445 MINNESOTA ST STE 2000 CITY: SAINT PAUL STATE: MN ZIP: 55418 BUSINESS PHONE: 6122277621 MAIL ADDRESS: STREET 1: 445 MINNESOTA STREET STREET 2: SUITE 2000 CITY: ST PAUL STATE: MN ZIP: 55418 10-K 1 ================================================================================ SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ----------------- FORM 10-K ----------------- [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 1997 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 0-18342 ----------------- BREMER FINANCIAL CORPORATION (Exact name of registrant as specified in its charter) MINNESOTA 41-0715583 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 445 MINNESOTA STREET 55101 SUITE 2000, ST. PAUL, MN (Zip Code) (Address of principal executive offices) REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (612) 227-7621 ----------------- SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: NONE. ----------------- SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: Class A Common Stock, no par value ----------------- Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes __X__ No ____ Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ] Based upon the $23.24 per share book value of the shares of class A common stock of the Company as of December 31, 1997, the aggregate value of the Company's shares of class A common stock held by employees and directors as of such date was approximately $22.3 million. As of March 13, 1998, there were 1,200,000 shares of class A common stock and 10,800,000 shares of class B common stock outstanding. ================================================================================ BREMER FINANCIAL CORPORATION ANNUAL REPORT ON FORM 10-K FOR THE YEAR ENDED DECEMBER 31, 1997 INDEX PAGE ---- Documents Incorporated by Reference ...................................... ii Cross Reference Sheet .................................................... iii PART I Item 1. Business ...................................................... 1 Item 2. Properties .................................................... 3 Item 3. Legal Proceedings ............................................. 3 Item 4. Submission of Matters to a Vote of Security Holders ........... 3 PART II Item 5. Market for Registrant's Common Equity and Related Stockholder Matters ....................................................... 3 Item 6. Selected Financial Data ....................................... 7 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations ..................................... 8 Item 8. Financial Statements and Supplementary Data ................... 25 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure ...................................... 44 PART III Item 10. through Item 13. See "Documents Incorporated by Reference" (Page ii) .................................... 44 PART IV Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K ...................................................... 44 Signatures ............................................................... 47 DOCUMENTS INCORPORATED BY REFERENCE The following documents are incorporated by reference to the parts indicated of this Annual Report on Form 10-K:
PARTS OF ANNUAL REPORT ON FORM 10-K DOCUMENTS INCORPORATED BY REFERENCE - ----------------------------------- ----------------------------------- PART II Item 5. Market for Registrant's Common Reference is made to the portions described Equity and Related Stockholder herein of the final Prospectus of the Company Matters. dated April 20, 1989 filed with the Securities and Exchange Commission on April 20, 1989. PART III Item 10. Directors and Executive Officers Reference is made to the Registrant's definitive of the Registrant. proxy statement ("Proxy Statement"), which will be filed with the Securities and Exchange Commission ("Commission") within 120 days after December 31, 1997. Item 11. Executive Compensation. Reference is made to the Registrant's Proxy Statement. Item 12. Security Ownership of Certain Reference is made to the Registrant's Proxy Beneficial Owners and Management. Statement. Item 13. Certain Relationships and Related Reference is made to the Registrant's Proxy Transactions. Statement.
(The remainder of this page was intentionally left blank.) ii CROSS REFERENCE SHEET BETWEEN ITEMS IN PART III OF FORM 10-K AND PROXY STATEMENT PURSUANT TO PARAGRAPH G-4 OF GENERAL INSTRUCTIONS TO FORM 10-K SUBJECT HEADINGS ITEM NUMBER AND CAPTION IN PROXY STATEMENT - ---------------------------------------------------- ---------------------- Item 10. Directors and Executive Officers of the Registrant. Election of Directors Item 11. Executive Compensation. Election of Directors Item 12. Security Ownership of Certain Beneficial Owners and Management. Principal Stockholders Item 13. Certain Relationships and Related Transactions. Election of Directors (The remainder of this page was intentionally left blank.) iii PART I. Certain statements in this Annual Report on Form 10-K and in the documents incorporated by reference herein constitute "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21B of the Securities Act of 1934, as amended ("Exchange Act"). For this purpose, any statements contained herein or incorporated herein that are not statements of historical fact may be deemed to be forward-looking statements. Without limiting the foregoing, the words "believes," "anticipates," "plans," "expects" and similar expressions are intended to identify forward-looking statements. ITEM 1. BUSINESS. GENERAL Bremer Financial Corporation (the "Company") is a regional multi-state bank holding company headquartered in St. Paul, Minnesota, and incorporated under Minnesota law on December 7, 1943. As of March 13, 1998, the Company owned at least 96.2% of the total outstanding capital stock of its 14 subsidiary banks (collectively, "Subsidiary Banks"). As a bank holding company, the Company is subject to the federal Bank Holding Company Act of 1956, as amended ("Holding Company Act"), and to regulation and supervision by the Federal Reserve System (including the Board of Governors of the Federal Reserve System). The Subsidiary Banks are located in Minnesota, Wisconsin and North Dakota and have a total of 85 offices throughout these states. The Subsidiary Banks draw most of their deposits from and make substantially all of their loans within the states of Minnesota, Wisconsin and North Dakota and have no foreign loans. At December 31, 1997, the Company and its subsidiaries (including the Subsidiary Banks) had consolidated assets of approximately $3.2 billion and consolidated deposits of approximately $2.4 billion. The Subsidiary Banks ranged in size from $64.9 million to $416.7 million in total assets and from $58.7 million to $336.6 million in total deposits as of December 31, 1997. See the portion of this Form 10-K, Item 1. entitled "Business Developments in 1997." The Company also owns several financial services subsidiaries. It owns all of the outstanding capital stock of First American Trust, National Association ("First American Trust"), which provides trust and other fiduciary services to most of the Subsidiary Banks' communities; First American Insurance Agencies, Inc. (the "Insurance Agencies"), which provides insurance agency services to the Subsidiary Banks' communities; Bremer Financial Services, Inc. ("Bremer Financial"), which provides management and support services to the Company and its subsidiaries; Premium Finance Corporation ("Premium Finance"), which provides commercial insurance premium financing services in Wisconsin, Minnesota, and North Dakota; Bremer Business Finance Corporation ("BBFC"), which provides asset-based lending and leasing services; and First American Services, Inc. ("First American Services"), which provides operations and support services to the Subsidiary Banks. The Company also owns a controlling portion of the capital stock of Bremer First American Life Insurance Company, which is engaged in the underwriting and reinsurance of credit life and health insurance sold in conjunction with the extension of credit by the Subsidiary Banks. Consumer investment products and services are available at the Subsidiary Banks through INVEST Financial Corporation of Tampa, Florida ("INVEST"). The Company and its Subsidiary Banks have entered into a fully disclosed agreement with INVEST whereby the Company and its subsidiaries deliver investment services to its customers through a network of Subsidiary Banks' offices and receive a portion of the commissions earned by the investment representatives. The operations of the financial services subsidiaries, while an integral part of the Company's ability to deliver a full range of financial services, taken as a whole, are not significant enough to meet the requirements of additional segment reporting. The Otto Bremer Foundation (the "Foundation") owns 20% of the outstanding shares of the Company's class A common stock and 100% of the outstanding shares of its class B common stock, for a total of 92% of the outstanding shares of the Company's capital stock, consisting only of the class A and class B common stock. Accordingly, the Foundation is, and is subject to regulation as, a bank holding company within the meaning of the Holding Company Act. 1 COMPETITION The banking business is highly competitive. As the financial service industry expands, the scope of potential competition for the Subsidiary Banks also expands. The Subsidiary Banks compete with other commercial banks, savings and loan associations, and credit unions for loans and deposits, with money market funds for deposits, and with brokerage firms for investment products and services. Consumer and commercial finance companies, department stores, mortgage banks and insurance companies are also important competitors for various types of loans. Some of these entities and institutions are not subject to the same regulatory restrictions as the Company and the Subsidiary Banks. In addition, competition has intensified as local institutions become part of larger national associations as a result of amendments to interstate banking laws. Management believes that each Subsidiary Bank will be able to continue to compete successfully in its community. Management further believes that the Company's emphasis on local management and the ability of the Subsidiary Banks to make decisions close to the marketplace, the Subsidiary Banks' community commitment and involvement, and the commitment to a strong sales culture and to providing quality banking services, are factors that should allow the Subsidiary Banks to continue to maintain and improve their competitive position. TRADEMARKS The Company has registered its stylized "Bremer Eagle" symbol with the United States Patent and Trademark Office. This trademark is used by all of the Company's affiliates, including the Subsidiary Banks. The Company has also registered a stylized version of the word "Transaction" with the United States Patent and Trademark Office for use in connection with the Subsidiary Banks' automated teller machine cards. The Company has registered no other trademarks, patents or copyrights. While management believes that a trademark or service mark is useful in identifying and advertising a common identity among the Subsidiary Banks and the Company or a service offered by the Subsidiary Banks, it also believes that the "Bremer Eagle" symbol, the "Transaction" service mark, or any other trademark, patent or copyright or the registration thereof is not material to the business of the Company or its subsidiaries. BUSINESS DEVELOPMENTS IN 1997 During 1997 and January 1998, the Company expanded its operations into new markets via the addition of supermarket and de novo branches. These branch additions consist of supermarket locations in Brooklyn Park, Minnesota (opened in June 1997); Baxter, Minnesota (opened in July 1997); White Bear Lake, Minnesota (opened in August 1997); and a de novo branch in Sartell, Minnesota (opened in January 1998). First American Bank, National Association located in Moorhead, Minnesota opened its new main bank facility in May 1997. On January 9, 1997, First American Bank, National Association of Detroit Lakes, Minnesota completed the acquisition of approximately $12.4 million of deposits from the Perham, Minnesota branch of Brainerd National Bank. On January 24, 1997, First American Trust, National Association introduced the Bremer Mutual Fund Family, which currently consists of two no-load mutual funds, the Bremer Growth Stock Fund and the Bremer Bond Fund, that are offered through Bremer Investment Funds, Incorporated. The funds are managed by First American Trust, National Association. On March 1, 1997, First American Insurance Agencies, Inc. of St. Paul, Minnesota (a wholly-owned subsidiary of the Company) acquired the Paul E. Hedlund Insurance Agency in Boyceville, Wisconsin. The Paul E. Hedlund Insurance Agency has annual premiums of $900,000. On March 1, 1997, the Company completed its conversion of all its state-chartered Subsidiary Banks to national charters. This had the effect of standardizing the law and regulations applicable to the Subsidiary Banks, including reporting requirements. In addition, this conversion resulted in the advantage of interacting with only one regulatory agency. On September 1, 1997, First American Trust, National Association completed its conversion from a state charter to a national charter. This conversion was consistent with that of the Subsidiary Banks to become governed by one regulatory agency. 2 On September 4, 1997, the Company acquired First National Bank of Devils Lake, North Dakota ("FNB-DL") and its parent company, The Halo Bancorporation, Inc. ("HBI"). Subsequently, the Company merged FNB-DL into First American Bank, National Association, of Minot, North Dakota ("FAB-Minot") on November 15, 1997. The FNB-DL bank had assets of over $60 million. On January 1, 1998, First American Insurance Agencies, Inc. of St. Paul, Minnesota (a wholly-owned subsidiary of the Company) merged with First American Insurance Agencies, Inc. of Casselton, North Dakota (a wholly-owned subsidiary of the Company). EMPLOYEES As of March 13, 1998, the Company and its subsidiaries (including the Subsidiary Banks) had a total of 1,300 full-time equivalent positions. The Company and each of its subsidiaries considers its relations with employees to be good. None of the Company's employees is a member of a collective bargaining unit. ITEM 2. PROPERTIES. The Company leases its principal offices at 445 Minnesota Street, Suite 2000, St. Paul, Minnesota 55101, which consist of approximately 20,000 square feet of space. Management believes that these facilities will be sufficient for the Company's needs in the foreseeable future. Each of the Subsidiary Banks owns its main office and its branches, if any, except for those located in leased space of supermarkets; the facilities are all well maintained and range in size from 391 square feet to 52,280 square feet. Certain properties of the Subsidiary Banks are subject to pledges or mortgages. However, the amount of long-term debt secured by mortgages on the Subsidiary Banks' properties is not material. See Notes F and H to the Notes to Consolidated Financial Statements of the Company set forth in Item 8 of Part II of this Form 10-K. ITEM 3. LEGAL PROCEEDINGS. The Company and certain of its Subsidiary Banks are involved in legal actions in various stages of litigation and investigation. After reviewing all actions, pending or threatened, involving the Company and such Subsidiary Banks, management believes that such legal actions, whether pending or threatened, constitute ordinary routine litigation incidental to the business of the Company and the Subsidiary Banks and that the ultimate resolution of these matters should not materially affect the Company's consolidated financial position or operations. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. No matters were submitted during the fourth quarter of the year ended December 31, 1997 to a vote of the Company's security holders, through the solicitation of proxies or otherwise. PART II. ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS. MARKET INFORMATION There is no established trading market for the shares of the Company's class A common stock. To the best of the Company's knowledge, during the period from May 18, 1989 (the closing date of the registered initial public offering of the Company's class A common stock) through and including March 6, 1998, a majority of the purchases and sales of shares of the class A common stock have consisted of transfers effected upon the exercise of the options described in the portions of the Company's Prospectus dated April 20, 1989 ("Prospectus") entitled "Description of Capital Stock -- Description of Class A Common Stock -- Restrictions on Transfer" on page 62 of the Prospectus and "Description of Capital Stock -- Description of Class A Common Stock First Call Option to Company" on page 64 of the Prospectus (which portions are hereby incorporated by reference pursuant to Rule 12b-23 under the Securities Exchange Act of 1934). The Company is not obligated to purchase any 3 shares of class A common stock from a holder upon the exercise of a put option if the purchase price paid for the shares subject to the put option, when added to the purchase price paid for all previous purchases of class A common stock during the preceding twelve-month period, would exceed 10% of the Company's net worth as of the date of such purchase. As of December 31, 1997, the Company's net worth, including redeemable class A common stock, was $278.8 million and 10% of the Company's net worth and redeemable class A common stock, was $27.9 million. During the period from January 1, 1997 and through and including March 6, 1998, the Company did not directly purchase any shares of class A common stock but assigned to its Employee Stock Ownership Plan ("ESOP") and the Bremer Banks Profit Sharing Plus Plan ("Profit Sharing Plan") its options to purchase a total of 74,292.0484 shares. The ESOP and the Profit Sharing Plan purchased these shares and then transferred them to employees of the Company and its subsidiaries through the ESOP and the Profit Sharing Plan. In addition, 7,739.0 shares of class A common stock were transferred directly between individuals at various times throughout the year. To the best of the Company's knowledge, these were the only transfers of shares of class A common stock effected during the period from January 1, 1997 through and including March 6, 1998. The sales price of the shares of class A common stock in such transactions ranged from $21.18 to $31.20 per share. These prices were equal to either the per share book value of the class A common stock as shown in the Company's consolidated balance sheet dated as of the last day of the immediately preceding fiscal quarter or, and only with respect to shares transferred that had been held for employees in the ESOP, the per share fair market values of $26.35, $28.90, and $31.20 as of June 30, 1996, December 31, 1996, and June 30, 1997, respectively, as determined by an independent appraiser. At December 31, 1997, the most recent date for which a per share book value for the class A common stock is available, such value was $23.24. To the best of the Company's knowledge, no brokers are used to sell the shares of class A common stock, and there are no market makers for the class A common stock. HOLDERS As of March 6, 1998, there were approximately 1,200 holders of record of the shares of class A common stock. DIVIDENDS The Subsidiary Banks' ability to pay dividends to the Company and the Company's ability to pay dividends to holders of the class A common stock are restricted and limited. (The restrictions on payments of dividends also are described in Note O of the Company's Notes to Consolidated Financial Statements set forth in Item 8 of this Form 10-K.) Each of the Subsidiary Banks is subject to extensive regulation regarding the payment of dividends and other matters. With the completion of the conversion of the Company's state-chartered Subsidiary Banks to national charters in March 1997, all Subsidiary Banks are regulated by the Office of the Comptroller of the Currency ("Comptroller"). In addition, because the deposits of the Company's Subsidiary Banks are insured up to the applicable limit (currently $100,000) by the Federal Deposit Insurance Corporation ("FDIC"), all of the Subsidiary Banks are subject to regulation by the FDIC. The Company and the Foundation, as bank holding companies, are regulated by the Board of Governors of the Federal Reserve System ("Federal Reserve Board"). DIVIDENDS FROM SUBSIDIARY BANKS. A substantial portion of the Company's cash flow and income is derived from dividends paid to it by the Subsidiary Banks, and restrictions on the payment of such dividends could affect the payment of dividends by the Company. With regard to the Subsidiary Banks, and in addition to the statutory prohibition against the withdrawal of any portion of a national bank's capital and certain statutory limitations on the payment of dividends, the approval of the Comptroller is required for the payment of any dividend by any national bank if the total of all dividends declared by the bank in any calendar year exceeds the total of its net profits (as defined) for that year combined with its retained net profits for the preceding two calendar years, less any required transfer to surplus. The Comptroller also has issued a banking circular emphasizing that the level of cash dividends should bear a direct correlation to the level of a national bank's current and expected earnings stream, the bank's need to maintain an adequate capital base, and other factors. 4 In addition to the foregoing limitations, the appropriate federal banking agency could take the position that it has the power to prohibit a national bank from paying dividends if, in its view, such payments would constitute unsafe or unsound banking practices. The payment of dividends by any national bank also is affected by the requirements to maintain adequate capital pursuant to the capital adequacy guidelines issued by the Comptroller. The Comptroller has issued capital adequacy regulations for national banks subject to the Comptroller's primary supervision. These regulations provide for a minimum tier 1 capital to total assets (leverage) ratio of 3.00% for the most highly-rated banks and a minimum total capital to risk-weighted assets (total capital) ratio of 8.00%. These guidelines and regulations further provide that capital adequacy is to be considered on a case-by-case basis in view of various qualitative factors that affect a bank's overall financial condition. Most banking organizations are expected to maintain a leverage ratio of 100 to 200 basis points above this minimum depending on their financial condition. The Subsidiary Banks are in compliance with the Comptroller's minimum capital guidelines. See the discussion of the capital adequacy guidelines set forth in the portion of Part II of this Form 10-K entitled "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations-Capital Management." The above regulations and restrictions on dividends paid by the Subsidiary Banks may limit the Company's ability to obtain funds from such dividends for its cash needs, including funds for payment of operating expenses and for the payment of dividends on the class A and class B common stock, as well as funds necessary to facilitate acquisitions. However, because of the capital positions of the Subsidiary Banks, the Company has been able to obtain dividends sufficient to meet its cash flow needs. As of December 31, 1997, the Subsidiary Banks had retained earnings of $46.5 million which were available for distribution to the Company as dividends in 1998 subject to regulatory and administrative restrictions. Of this amount, approximately $38.7 million was available for distribution without obtaining the prior approval of the appropriate bank regulator. In 1996 and 1997, the Subsidiary Banks paid total dividends to the Company of $22.8 million and $32.2 million, respectively. Thirteen of the fourteen banks that were Subsidiary Banks in 1996 and 1997 paid dividends in both years. Of the Subsidiary Banks that paid dividends in 1996 and/or 1997, the range of dividend payouts (dividends paid divided by net income) was 42.9% to 102.1% in 1996 and 5.8% to 323.0% in 1997. Under the ESOP, and at the option of the ESOP's Administrator, cash dividends declared on the shares of class A common stock held by the ESOP will be allocated to the ESOP participants. To the extent that cash dividends declared on the class A common stock held by the ESOP are distributed to the participants (whether directly or indirectly), the dividends will be deductible to the Company. Any dividends paid in the form of class A common stock with respect to shares allocated to the individual participants' accounts will be allocated to such accounts. Under the Profit Sharing Plan, all cash dividends paid on the class A common stock are allocated to the accounts of the participants holding shares of the class A common stock in their profit sharing accounts. All such proceeds are available to the participants for investment under the Profit Sharing Plan in accordance with the terms and conditions of the Profit Sharing Plan. All dividends paid in the form of class A common stock will be allocated to the account of the participant in which the shares are held. In no event will dividends paid on the class A common stock held by the participants' accounts within the Profit Sharing Plan be forfeited or otherwise allocated and held by the trustees of the Profit Sharing Plan. DIVIDENDS FROM COMPANY. The payment of dividends by the Company, as a bank holding company, is limited by, among other things, the requirement to maintain adequate capital pursuant to the capital adequacy guidelines issued by the Federal Reserve Board. These guidelines are substantially similar to those promulgated by the Comptroller with respect to national banks, which are discussed above. The payment of dividends by a bank holding company also is subject to the general limitation that the Federal Reserve Board could take the position that it has the power to prohibit the bank holding company from paying dividends if, in its view, such payments would constitute an unsafe or unsound practice. 5 The Company declared and paid dividends to the Foundation and all other holders of its class A common stock of $12.6 million in 1996 and $14.4 million in 1997. In 1996, $3.0 million of dividends were paid in each of the first, second, and third quarters, and $3.6 million of dividends were paid in the fourth quarter. In 1997, $3.6 million of dividends were paid in each of the four quarters. The dividend yield, which consists of dividends paid during the year divided by shareholder's equity as of the last day of the preceding year, was 5.3% and 5.7% for the years ended December 31, 1996 and 1997, respectively. MARKET RISK Market risk is the risk of loss due to adverse changes in market prices and rates. The management of this risk is an integral part of the Company's financial objectives. Interest rate risk is the risk that changing interest rates will adversely affect net interest income and balance sheet valuations caused by differences in the repricing and maturing characteristics of assets and liabilities. Interest rate risk is the most significant market risk affecting the Company. Other types of market risk, such as foreign currency exchange rate risk and commodity price risk, do not arise in the normal course of the Company's business activities. The Company's approach to interest rate risk management is a responsibility that rests with both the Subsidiary Banks' and the Company's asset/liability committees (the "ALCOs"), which meet on a frequent basis and provide periodic updates to their respective Boards of Directors. The ALCOs manage the mix of assets and liabilities with the goals of minimizing the exposure to interest rate risk and ensuring adequate liquidity to meet the commitments of the Company. The ALCOs establish policies that monitor and coordinate the Company's and Subsidiary Banks' sources, uses and pricing of funds and develop strategies to minimize Company-wide exposure to adverse interest rate trends. The ALCOs are also involved in the development of economic projections for the Company's strategic planning process. The tools used to measure interest rate risk include gap analysis, simulation of future net interest income, and a valuation model which measures the sensitivity of balance sheet valuations to changes in interest rates. In the valuation model, the market value of each asset and liability as of the reporting date is calculated by computing the present value of all cash flows generated. In each case, the cash flows are discounted by a market interest rate chosen to reflect as closely as possible the characteristics of the given asset or liability as obtained from independent broker quotations and other public sources as of December 31, 1997. The impact on valuations is then calculated for a 200 basis point rate shock. The rate shock is an instantaneous change in market rates across the yield curve. Significant assumptions required in the use of the valuation model include estimates regarding prepayment activity and the behavior of non-maturity deposits in various interest rate environments. The model does not reflect actions the ALCOs could initiate in response to a change in interest rates. The valuation model indicates that the value of assets would decline 3% with a 200 basis point increase in interest rates. After considering the impact on liabilities and tax effects, the market value of equity impact from this 200 basis point increase in rates would be a decrease of 8%. 6 ITEM 6. SELECTED FINANCIAL DATA. BREMER FINANCIAL CORPORATION AND SUBSIDIARIES FINANCIAL HIGHLIGHTS
1997 CHANGE 1996 1995 1994 1993 ----------- ------ ----------- --------- --------- --------- OPERATING RESULTS (in thousands) Total interest income .................. $ 226,550 7.5% $ 210,703 199,781 162,267 149,192 Net interest income .................... 116,581 7.8 108,193 100,645 94,083 87,094 Net interest income (1) ................ 124,169 7.2 115,862 107,898 100,698 93,665 Provision for loan losses .............. 4,746 72.2 2,756 1,780 (1,300) (1,000) Noninterest income ..................... 38,681 14.3 33,842 27,892 26,768 30,816 Noninterest expense .................... 98,255 6.4 92,325 87,296 85,636 79,762 Net income ............................. 35,060 10.2 31,817 27,136 25,797 26,885 Dividends .............................. 14,400 14.3 12,600 9,600 9,360 7,200 AVERAGE BALANCES (in thousands) Total assets . ......................... 2,986,600 6.0 2,817,062 2,647,758 2,356,426 2,137,952 Loans .................................. 1,838,218 8.9 1,687,900 1,545,693 1,330,802 1,173,742 Securities ............................. 963,806 0.5 959,278 942,521 893,266 843,394 Deposits ............................... 2,300,311 4.0 2,211,280 2,113,070 1,903,284 1,776,395 Redeemable class A common stock . ...... 21,322 8.3 19,686 17,672 16,347 15,191 Shareholder's equity ................... 245,206 8.3 226,388 203,222 187,986 174,702 PERIOD-END BALANCES (in thousands) Total assets . ......................... 3,173,701 8.5 2,925,651 2,812,232 2,537,712 2,279,853 Loans .................................. 1,964,127 11.8 1,756,146 1,627,013 1,443,671 1,238,941 Securities ............................. 992,249 6.0 935,774 984,768 907,211 875,454 Deposits ............................... 2,442,498 7.0 2,283,446 2,242,307 2,024,464 1,894,453 Redeemable class A common stock . ...... 22,308 9.7 20,337 19,035 16,308 16,386 Shareholder's equity ................... 256,541 9.7 233,870 218,906 187,538 188,434 FINANCIAL RATIOS Return on average total assets (2) ..... 1.22% -- 1.18% 1.07 1.15 1.32 Return on average realized equity (3)(4) ................ 13.32 -- 13.08 12.06 12.41 14.16 Average equity to average total assets (3) ...................... 8.92 -- 8.74 8.34 8.67 8.88 Tangible equity to total assets ........ 8.67 -- 8.62 8.40 8.03 9.14 Dividend payout ........................ 41.07 -- 39.60 35.38 36.28 26.78 Net interest margin (1) ................ 4.43 -- 4.37 4.33 4.52 4.64 Efficiency ratio ....................... 58.43 -- 59.87 63.03 64.54 64.71 Net charge-offs to average total loans ........................... 0.09 -- 0.03 0.08 0.02 0.03 Reserve for loan losses to total loans ........................... 1.74 -- 1.74 1.74 1.87 2.23 PER SHARE OF COMMON STOCK (3) Net income-basic ....................... $ 2.92 10.2 $ 2.65 2.26 2.15 2.24 Dividends paid ......................... 1.20 14.3 1.05 0.80 0.78 0.60 Book value ............................. 23.24 9.7 21.18 19.83 16.99 17.07 Realized book value (4) ................ 22.80 8.2 21.08 19.47 18.01 16.65
- ------------------ (1) Tax-equivalent basis (TEB). (2) Calculation is based on income before minority interests. (3) Calculation is based on 12,000,000 shares, including redeemable class A common stock. (4) Excluding net unrealized gain (loss) on securities available for sale. 7 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS HIGHLIGHTS EARNINGS. The Company reported net income of $35.1 million for the year ended December 31, 1997, a $3.3 million or 10.2% increase from the $31.8 million earned in 1996. Basic earnings per share were $2.92 in 1997 compared to $2.65 in 1996. Return on realized equity was 13.32% in 1997, as compared to the 13.08% return in 1996. Return on average assets was 1.22% in 1997, versus 1.18% in 1996. To facilitate comparisons, net interest income and net interest margin in the accompanying discussion and tables have been adjusted to show tax-exempt income, such as interest on municipal securities and loans, on a tax-equivalent basis. Table I presents a comparative summary of operating data for 1993 through 1997. Table II presents the major components affecting the changes in return on assets for 1997. TABLE I SUMMARY INCOME STATEMENT (TAX-EQUIVALENT BASIS)
1997 CHANGE 1996 1995 1994 1993 --------- ------ --------- -------- -------- -------- (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) Interest income ....................... $ 226,550 7.5% $ 210,703 199,781 162,267 149,192 Taxable-equivalent adjustment ......... 7,588 (1.1) 7,669 7,253 6,615 6,571 --------- --------- ------- ------- ------- Interest income -- taxable-equivalent .................. 234,138 7.2 218,372 207,034 168,882 155,763 Interest expense ...................... 109,969 7.3 102,510 99,136 68,184 62,098 --------- --------- ------- ------- ------- Net interest income -- taxable-equivalent .................. 124,169 7.2 115,862 107,898 100,698 93,665 Provision for loan losses ............. 4,746 72.2 2,756 1,780 (1,300) (1,000) --------- --------- ------- ------- ------- Net funds function ................... 119,423 5.6 113,106 106,118 101,998 94,665 Noninterest income .................... 38,681 14.3 33,842 27,892 26,768 30,816 --------- --------- ------- ------- ------- Adjusted gross income ................ 158,104 7.6 146,948 134,010 128,766 125,481 Noninterest expense ................... 98,255 6.4 92,325 87,296 85,636 79,762 --------- --------- ------- ------- ------- Income before taxes .................. 59,849 9.6 54,623 46,714 43,130 45,719 Income taxes .......................... 17,201 13.6 15,137 12,325 10,718 12,263 Taxable-equivalent adjustment ......... 7,588 (1.1) 7,669 7,253 6,615 6,571 --------- --------- ------- ------- ------- Net income ........................... $ 35,060 10.2% $ 31,817 27,136 25,797 26,885 ========= ========= ======= ======= ======= Earnings per share-basic .............. $ 2.92 10.2% $ 2.65 2.26 2.15 2.24 Dividends paid per share .............. $ 1.20 14.3% $ 1.05 0.80 0.78 0.60
8 TABLE II CHANGES IN RETURN ON ASSETS 1997 VS 1996 ------------ Return on assets, prior year .................................. 1.18% Increases Net interest income (TEB) ................................... 0.04 Service charges ............................................. 0.07 Trust fees .................................................. 0.02 Brokerage ................................................... 0.01 Gain on sale of loans ....................................... 0.01 Data processing fees ........................................ 0.05 FDIC premiums and examination fees .......................... 0.02 Professional fees ........................................... 0.02 ---- Total increases ............................................ 0.24 ---- Decreases Gain on sale of securities .................................. 0.01 Provision for loan loss ..................................... 0.06 Salaries and wages .......................................... 0.06 Employee benefits ........................................... 0.01 Provision for income taxes .................................. 0.02 Other noninterest expense, net .............................. 0.04 ---- Total decreases ............................................ 0.20 ---- Return on assets, current year ................................ 1.22% ==== EQUITY OF SHAREHOLDERS. Shareholder's equity and redeemable class A common stock totaled $278.8 million at December 31, 1997. Book value per share increased from $21.18 at December 31, 1996 to $23.24 at December 31, 1997, while dividends paid per share increased from $1.05 to $1.20. The 1997 dividends paid of $14.4 million represented 5.7% of the equity of shareholders at December 31, 1996 and 41.1% of 1997 net income. Realized book value per share, which excludes the impact of Financial Accounting Standards No. 115 (FAS 115), increased from $21.08 at December 31, 1996 to $22.80 at December 31, 1997. 9 INCOME STATEMENT ANALYSIS NET INTEREST INCOME. The most significant component of the Company's earnings is net interest income, which is the difference between interest earned on assets and interest paid on liabilities. Net interest margin measures the effectiveness of generating net interest income on earning assets and is calculated by dividing net interest income by earning assets. The following table sets forth certain information regarding changes in net interest income (tax-equivalent basis, "TEB"), by volume and rate, of the Company for the periods indicated. TABLE III CHANGES IN NET INTEREST INCOME (TEB)
1997 VS 1996 1996 VS 1995 ----------------------------------- ----------------------------------- VOLUME YIELD/RATE* TOTAL VOLUME YIELD/RATE* TOTAL ------ ----------- ----- ------ ----------- ----- (IN THOUSANDS) Increase (decrease) in: Interest income Loans ......................... $13,628 305 13,933 13,170 (2,758) 10,412 Taxable securities ............ 408 1,559 1,967 535 (244) 291 Tax-exempt securities ......... 31 (167) (136) 896 (228) 668 Other earning assets .......... (29) 31 2 (16) (17) (33) ------- ----- ------ ------ ------ ------ Total ........................ 14,038 1,728 15,766 14,585 (3,247) 11,338 ------- ----- ------ ------ ------ ------ Interest expense Savings deposits .............. 469 585 1,054 181 (2,165) (1,984) Other time deposits ........... 2,689 422 3,111 4,140 (782) 3,358 Short-term borrowings ......... 1,133 373 1,506 2,916 (744) 2,172 Long-term debt ................ 1,996 (208) 1,788 (77) (95) (172) ------- ----- ------ ------ ------ ------ Total ........................ 6,287 1,172 7,459 7,160 (3,786) 3,374 ------- ----- ------ ------ ------ ------ Net interest income .............. $ 7,751 556 8,307 7,425 539 7,964 ======= ===== ====== ====== ====== ======
- ------------------ *All changes in net interest income, other than those due to volume, have been allocated to yield/rate. Tax-equivalent net interest income for 1997 was $124.2 million, an increase of $8.3 million or 7.2% from 1996. The increase in net interest income resulted from a $154.3 million increase in average earning assets and an increase in the net interest margin, which improved 6 basis points from 4.37% in 1996 to 4.43% in 1997. The increase in net interest margin was primarily due to an increased spread in rates during 1997, as costs on interest bearing liabilities increased less than yields on earning assets. The interest bearing liabilities cost and net interest margin were impacted by increased rates paid on interest bearing savings deposits and certificates, as well as the increased use of other borrowings, with higher costs, to fund a portion of the earning asset growth experienced in 1997. Favorably impacting the net interest margin was an increase in the earning asset yield of 11 basis points, resulting from a 16 basis point increase in securities yields, coupled with a favorable change in the mix of earning assets. PROVISION FOR LOAN LOSSES. The provision for loan losses reflects the cost associated with the risks inherent in the loan portfolio, taking into consideration an evaluation of economic conditions, changes in the composition and size of the loan portfolio, net charge-offs, and the level of nonperforming and other problem loans. From December 31, 1996 to December 31, 1997, nonperforming loans decreased $1.4 million to $9.9 million. Meanwhile, the quality of the portfolio, as measured by the ratio of classified loans to total loans, reflected only modest deterioration during each quarter of 1997, despite strong loan growth. The ratio of classified loans to total loans increased from 5.16% at December 31, 1996, to 5.84% at December 31, 1997. The deterioration in credit quality was focused in the agricultural portfolio of three of the Company's Subsidiary Banks and in segments of the Company's retail portfolio. Farmers in a few of the Company's markets experienced another season of adverse growing conditions, particularly for small grain crops. The Company also experienced some weakening in general consumer loans and credit card debt. The reserve to outstanding loan ratio remained at 1.74% in 1997, while the reserve to 10 nonperforming loan coverage increased from 271.1% to 347.1% from 1996 to 1997. The reserve for loan losses remains strong as compared to the Company's peer group. A complete discussion of asset quality and credit management can be found in the "Corporate Risk Profile" section of Item 7 in this Form 10-K. NONINTEREST INCOME. Noninterest income was $38.7 million in 1997 compared to $33.8 million in 1996, representing a $4.9 million or 14.3% increase. Contributing to this increase in noninterest income were strong growth in service charge income of $3.0 million or 23.0% and trust commissions of $933 thousand or 17.5%. Also contributing to the increase in noninterest income was an increase in brokerage commissions of $404 thousand or 16.0% and an increase in insurance commissions of $421 thousand or 5.9%. Gains on loans sold in the secondary market grew as the volume of real estate mortgage financing increased in 1997 driven by a more favorable interest rate environment. Table IV presents the components of noninterest income. TABLE IV NONINTEREST INCOME
1997 CHANGE 1996 1995 1994 1993 ------- ------ ------- ------ ------ ------ (IN THOUSANDS) Service charges ...................... $15,787 23.0% $12,837 11,047 9,627 8,823 Insurance ............................ 7,503 5.9 7,082 5,503 4,716 4,671 Trust ................................ 6,265 17.5 5,332 4,784 4,502 4,462 Brokerage ............................ 2,935 16.0 2,531 1,243 1,865 1,950 Gain on sale of loans ................ 2,550 19.3 2,138 1,302 1,649 3,949 Gain on sale of other assets ......... 183 35.6 135 709 1,548 2,118 Other ................................ 3,583 (1.6) 3,640 3,000 3,131 3,058 ------- ------- ------ ----- ----- Operating noninterest income 38,806 15.2 33,695 27,588 27,038 29,031 (Loss) gain on sale of securities (125) (185.0) 147 304 (270) 1,785 ------- ------- ------ ------ ------ Total ............................. $38,681 14.3% $33,842 27,892 26,768 30,816 ======= ======= ====== ====== ======
NONINTEREST EXPENSE. Noninterest expense increased $5.9 million or 6.4% from 1996 to 1997. The following table summarizes the components of noninterest expense from 1993 to 1997. TABLE V NONINTEREST EXPENSE
1997 CHANGE 1996 1995 1994 1993 ------- ------ ------- ------ ------ ------ (IN THOUSANDS) Salaries and wages .................... $44,912 10.4% $40,676 37,325 36,556 33,633 Employee benefits ..................... 11,690 8.9 10,739 10,878 11,254 10,340 Occupancy ............................. 6,005 4.3 5,756 5,433 4,871 4,614 Furniture and equipment ............... 6,819 8.3 6,294 5,216 4,507 4,084 Printing, postage and office supplies ...................... 5,189 8.1 4,802 4,584 3,910 3,715 Marketing ............................. 3,609 9.2 3,306 3,041 2,954 2,440 Data processing fees .................. 6,513 (12.3) 7,428 7,153 6,852 6,513 Other real estate owned ............... 149 166.1 56 84 (63) 791 Minority interest in earnings ......... 1,486 6.1 1,400 1,277 1,271 1,408 FDIC premiums and examination fees ..................... 555 (48.4) 1,075 2,901 4,719 4,449 Other ................................. 11,328 5.0 10,793 9,404 8,805 7,775 ------- ------- ------ ------ ------ Total ................................ $98,255 6.4% $92,325 87,296 85,636 79,762 ======= ======= ====== ====== ======
11 Personnel costs, which accounted for 57.6% of noninterest expense, increased $5.2 million or 10.1%, as salaries and wages increased 10.4%. Affecting 1997 personnel costs were approximately $2.2 million in salaries and benefits relating to acquisitions and expansion into new markets. Excluding these costs, personnel costs would have increased $3.0 million or 5.9% over 1996. Excluding personnel costs, noninterest expense increased $743 thousand or 1.8%. Contributing to this increase was a $525 thousand increase in furniture and equipment expense due to the depreciation expense associated with the upgrading of technology throughout the Company and expansion into new markets. Also contributing to the increase in noninterest expense was a $535 thousand increase in other expenses driven primarily by an increase of $246 thousand in lending costs associated with the growth experienced in real estate mortgage lending and a $95 thousand increase in amortization of intangible assets. Offsetting some of the increase in noninterest expense was a decrease of $915 thousand in data processing expenses as the Company began to realize cost savings associated with the execution of a new data processing contract in early 1997. Also offsetting some of the increase in noninterest expense was a $520 thousand decrease in FDIC premiums and examination fees as FDIC insurance premiums continued to decline and the Company experienced a one-time reduction in examination fees due to the conversion of its state-chartered Subsidiary Banks to national charters. A common industry statistic used to measure the productivity of banking organizations is the efficiency ratio. The efficiency ratio measures the cost required to generate each dollar of revenue and is calculated by dividing recurring noninterest expense by tax-equivalent net interest income and recurring noninterest income. The Company's efficiency ratio improved from 59.9% in 1996 to 58.4% in 1997. Contributing to this improvement were significant increases in tax-equivalent net interest income of 7.2% and recurring noninterest income of 15.3%, and modest growth in recurring noninterest expense of 6.4%. The Company will continue its strategic focus to operate with an efficiency ratio below 60%. INCOME TAXES. Income tax expense, which consists of provisions for federal and state income taxes, was $17.2 million for 1997, representing an increase of $2.1 million from 1996. Comparing 1997 to 1996, the Company's effective tax rate also increased, from 32.2% to 32.9%, reflecting the impact of proportionately more taxable than tax-exempt income in 1997. For further discussion and detail on the Company's income taxes, refer to Notes A and M to the Consolidated Financial Statements found in the portion of Part II of this Form 10-K entitled "Item 8. Financial Statements and Supplementary Data." CORPORATE RISK PROFILE MANAGEMENT OF RISK. Managing risk is an essential part of the operation of a banking organization. When risk is undertaken, the Company expects a return commensurate with the risk. If the risk profile is lowered, expectations of returns also are reduced. By effectively managing and balancing the many risks involved in its business, the Company believes consistent growth in earnings will occur. The most prominent risks facing the Company are credit risk, interest rate risk, and liquidity risk. Credit risk involves the risk of either not collecting interest when it is due or not receiving the principal balance of a loan or investment when it matures. Credit risk is the most significant risk the Company must manage. Interest rate risk is the risk to net interest income caused by differences in the repricing and maturing characteristics of assets and liabilities. Liquidity risk is the risk that the Company will not be able to fund its obligations and is largely a function of how effectively the Company manages its other risks. The Company has established policies, procedures, and constraint levels to enable it to contain, accurately measure, monitor, and have senior management regularly review the Company's total risk position. CREDIT RISK MANAGEMENT. The Company manages asset quality and controls credit risk through standardized lending policies and procedures and an internal loan review system. The Company, through its corporate credit administration and review department in cooperation with the Subsidiary Banks, has developed a credit philosophy aimed at minimizing credit risk by emphasizing the importance of a strong credit management process. This process is essentially aimed at managing credit risk from the initial request through the life of the loan. 12 LOAN PORTFOLIO REVIEW. One of the ways the Company manages its credit risk is by maintaining a loan portfolio that management believes is well diversified by industry and size of loan. The Company also benefits from significant diversity among its banks, both as to loan type and local economic conditions. For example, while small grain production was down in several markets, it was a good year for sugar beet producers, and milk prices were generally stable. Similarly, the hospitality industry was stronger in some geographical areas than in other areas. As a result of this type of diversification, concentrations and risks in any single category are acceptable, as indicated by the following table summarizing the composition of the portfolio. TABLE VI LOAN PORTFOLIO
DECEMBER 31 -------------------------------------------------------------------------------------------------------- 1997 1996 1995 1994 1993 ------------------- -------------------- ------------------- ------------------- ------------------- AMOUNT % AMOUNT % AMOUNT % AMOUNT % AMOUNT % ---------- ------- ---------- ------- ---------- ------- ---------- ------- ---------- ------- (IN THOUSANDS) Commercial and other ...... $ 387,048 19.66% $ 346,602 19.69% $ 331,641 20.34% $ 292,695 20.22% $ 240,957 19.44% Commercial real estate .... 419,063 21.28 340,621 19.35 313,287 19.21 282,203 19.50 273,204 22.04 Construction ............. 36,518 1.85 30,039 1.71 31,952 1.96 26,421 1.83 12,704 1.03 Agricultural .............. 409,875 20.82 378,399 21.50 350,786 21.51 299,127 20.67 250,163 20.18 Residential real estate ... 387,549 19.68 351,946 20.00 322,296 19.77 293,671 20.29 252,085 20.34 Construction ............. 12,609 0.64 11,904 0.68 11,511 0.71 10,577 0.73 8,597 0.69 Consumer .................. 263,469 13.38 247,511 14.06 221,727 13.60 192,865 13.33 157,169 12.68 Tax-exempt ................ 52,954 2.69 53,078 3.02 47,297 2.90 49,626 3.43 44,651 3.60 ---------- ------ ---------- ------ ---------- ------ ---------- ------ ---------- ------ Total .................... $1,969,085 100.0% $1,760,100 100.0% $1,630,497 100.0% $1,447,185 100.0% $1,239,530 100.0% ========== ====== ========== ====== ========== ====== ========== ====== ========== ======
In recent years the composition of the Company's loan portfolio has reflected a general stability in portfolio segments. The Company's Subsidiary Banks and BBFC continued to actively seek credit opportunities of all loan types including commercial real estate. The Company believes that even if the economy were to suffer modest deterioration, its exposure to significant commercial real estate losses in the foreseeable future is limited. During 1997, the Company generated approximately $25 million in new loan originations through its asset-based lending and leasing services subsidiary, BBFC. While of acceptable credit quality, these transactions tend to be somewhat less conventional than the loans originated by the Subsidiary Banks. Of the Company's real estate lending, approximately 53% is in commercial real estate loans, as compared to 50% in 1996 and 51% in 1995. These commercial real estate loans continue to consist primarily of loans to business customers who occupy the property or use it for income production. The remaining 47% in real estate lending is in the form of residential mortgages and home equity loans. The commercial real estate loan portfolio experienced growth of $84.9 million or 22.9% between 1996 and 1997, reflecting continued strong business loan demand and the effects of acquisitions. The residential real estate loan portfolio experienced growth of $36.3 million or 10.0% as a result of acquisitions and the more favorable interest rate environment. The Company is not involved in lending to foreign countries. While 1997 generally was another good year for the Company's agricultural customers, a few isolated segments within the Company's geographical area continued to experience difficulties. The geographic dispersion of the Subsidiary Banks and diversity of agricultural products and activities were especially beneficial to the Company's agricultural portfolio and mitigated the negative effect of the segments of the portfolio experiencing these poor conditions. While certain of the Company's Subsidiary Banks' markets, comprising 13% of the Company's loan portfolio, were adversely impacted by the devastating effects of the flooding in the Red River Valley in April 1997, the overall portfolio of the Company continues to be strong. As of December 31, 1997, the Company has not experienced significant increases in past due loan balances or charge-offs attributable to the floods. The impact of the flood damage on the Company's loan portfolio has been minimal, as many of the Company's borrowers suffering losses were able to recover their losses from either grants through federal assistance programs or charitable organizations. While the long-term impact to the economies of these communities affected by the flood remains uncertain, there has been a short-term boost in several segments of the economies, including the retail sales, housing, and hospitality segments. 13 NET LOAN CHARGE-OFFS. Net loan charge-offs increased to $1.7 million in 1997 from $527 thousand in 1996 and increased slightly from $1.2 million in 1995. Correspondingly, net charge-offs as a percentage of average loans increased to .09% in 1997 from .03% in 1996 and increased slightly from .08% in 1995. This increase in net charge-offs can be attributed to a $1.0 million increase in consumer net charge-offs and a decline in commercial loan recoveries. No individual charge-off represented more than 10% of the total. Table VIII includes a summary of the charge-offs by loan category for the past five years. NONPERFORMING ASSETS. Nonperforming assets include nonaccrual loans, restructured loans, and other real estate acquired in loan settlements. The accrual of interest on loans is suspended when the credit becomes 90 days or more past due, unless the loan is fully secured and in the process of collection. Restructured loans accrue interest but include concessions in terms which have been made as a result of deterioration in the borrower's financial condition. Table VII summarizes the nonperforming assets as of December 31 for the past five years. TABLE VII NON-PERFORMING ASSETS AT DECEMBER 31
1997 CHANGE 1996 1995 1994 1993 --------- ------ --------- ------ ------ ------ (DOLLARS IN THOUSANDS) Nonaccrual loans ............................ $ 8,958 (17.3)% $ 10,830 8,392 10,401 13,356 Restructured loans .......................... 910 119.8 414 634 764 1,127 --------- --------- ----- ------ ------ Total nonperforming loans .................. 9,868 (12.2) 11,244 9,026 11,165 14,483 Other real estate owned (OREO) .............. 691 187.9 240 380 1,208 3,325 --------- --------- ----- ------ ------ Total nonperforming assets ................. $ 10,559 (8.1) $ 11,484 9,406 12,373 17,808 ========= ========= ===== ====== ====== Past due loans* ............................. $ 3,573 62.0% $ 2,205 2,504 1,563 1,985 ========= ========= ===== ====== ====== Nonperforming loans to total loans .......... 0.50% -- 0.64% 0.55 0.77 1.17 Nonperforming assets to total loans and OREO ................................... 0.54 -- 0.65 0.58 0.86 1.43 Nonperforming assets and past due loans* to total loans and OREO ............. 0.72 -- 0.78 0.73 0.96 1.59 Reserve to nonperforming loans .............. 347.11 -- 271.10 313.02 241.34 190.73 Reserve to total loans ...................... 1.74 -- 1.74 1.74 1.87 2.23 Reserve for Loan Losses Beginning of year ........................... $ 30,482 7.9% $ 28,253 26,946 27,624 27,344 Charge-offs ................................ (2,759) 23.7 (2,230) (2,834) (2,065) (3,022) Recoveries ................................. 1,026 (39.8) 1,703 1,610 1,814 2,705 --------- --------- ------ ------ ------ Net charge-offs ............................ (1,733) 228.8 (527) (1,224) (251) (317) Provision for loan losses .................. 4,746 72.2 2,756 1,780 (1,300) (1,000) Reserve related to acquired assets ......... 758 100.0 -- 751 873 1,597 --------- --------- ------ ------ ------ End of year ................................. $ 34,253 12.4% $ 30,482 28,253 26,946 27,624 ========= ========= ====== ====== ======
- ------------------ * Past due loans include accruing loans 90 days or more past due. Nonperforming assets were $10.6 million at December 31, 1997, compared to $11.5 million at December 31, 1996, and $9.4 million at December 31, 1995. Correspondingly, as a percentage of total loans and other real estate owned, nonperforming assets decreased to .54% in 1997 from .65% in 1996, and down from .58% in 1995. Nonperforming loans were $9.9 million and .50% of total loans at December 31, 1997, compared to $11.2 million and .64% of total loans at December 31, 1996 and $9.0 million and .55% at December 31, 1995. The improvement in nonperforming loans is a function of the successful resolution of several large distressed credits and diligent monitoring and collection efforts by the Subsidiary Banks. The Subsidiary Banks also continue to closely monitor emerging repayment issues. The Company will continue to enhance systems for monitoring portfolio segments to identify deterioration and non-performance at the earliest possible stages. 14 RESERVE FOR LOAN LOSSES. The purpose of the reserve for loan losses is to provide for loan losses inherent in the Company's loan portfolio. Even in the presence of credit policies and procedures, credit quality is subject to many economic and non-economic factors that influence a borrower's financial condition over time. Table VIII summarizes the activity in the reserve for loan losses along with the loan loss reserve allocation from 1993 through 1997. TABLE VIII RESERVE FOR LOAN LOSSES
DECEMBER 31 ----------------------------------------------------------------------------- 1997 1996 1995 1994 1993 ----------- --------- --------- --------- --------- (IN THOUSANDS) Beginning of year .......................... $ 30,482 28,253 26,946 27,624 27,344 Charge-offs Commercial and other ...................... 604 480 532 680 1,004 Commercial real estate .................... 427 117 381 67 868 Construction ............................. 2 -- -- -- -- Agricultural .............................. 288 489 375 675 247 Residential real estate ................... 100 47 170 157 141 Construction ............................. -- -- 10 -- -- Consumer .................................. 1,338 1,097 835 486 526 Tax-exempt ................................ -- -- 531 -- 236 ----------- --------- --------- --------- --------- Total ................................... 2,759 2,230 2,834 2,065 3,022 ----------- --------- --------- --------- --------- Recoveries Commercial and other .................... 379 911 352 688 1,478 Commercial real estate .................. 173 194 389 466 565 Construction ........................... 10 -- -- -- -- Agricultural ............................ 65 159 232 184 238 Residential real estate ................. 104 58 313 81 115 Construction ........................... -- -- 10 13 -- Consumer ................................ 295 381 280 236 309 Tax-exempt .............................. -- -- 34 146 -- ----------- --------- --------- --------- --------- Total .................................. 1,026 1,703 1,610 1,814 2,705 ----------- --------- --------- --------- --------- Net charge-offs ............................ 1,733 527 1,224 251 317 Provision for loan losses .................. 4,746 2,756 1,780 (1,300) (1,000) Reserve related to acquired assets ......... 758 -- 751 873 1,597 ----------- --------- --------- --------- --------- End of year ................................ $ 34,253 30,482 28,253 26,946 27,624 =========== ========= ========= ========= ========= Average loans .............................. $ 1,838,218 1,687,900 1,545,693 1,330,802 1,173,742 Net charge-offs/average loans .............. 0.09% 0.03 0.08 0.02 0.03 ALLOCATION OF RESERVE FOR LOAN LOSSES Commercial and other ....................... $ 7,700 6,800 5,500 4,700 5,500 Commercial real estate ..................... 8,700 7,000 7,000 6,700 8,000 Construction .............................. 600 500 500 300 200 Agricultural ............................... 7,000 6,400 5,500 4,100 3,800 Residential real estate .................... 2,300 2,100 2,000 1,800 1,700 Construction .............................. 100 100 100 100 50 Consumer ................................... 1,700 1,500 1,200 1,100 1,000 Tax-exempt ................................. 300 300 400 500 1,000 ----------- --------- --------- --------- --------- Total allocated ......................... 28,400 24,700 22,200 19,300 21,250 Unallocated ................................ 5,853 5,782 6,053 7,646 6,374 ----------- --------- --------- --------- --------- Total ................................... $ 34,253 30,482 28,253 26,946 27,624 =========== ========= ========= ========= ========= Reserve to total loans ..................... 1.74% 1.74 1.74 1.87 2.23
15 The reserve for loan losses was $34.3 million or 1.74% of total loans at December 31, 1997, compared to $30.5 million or 1.74% at December 31, 1996. In establishing the reserve, management has considered its current credit process, changing industry conditions, economic and environmental considerations (such as those being experienced in the Red River Valley of Minnesota and North Dakota), continued strong loan growth in 1997, the Company's level of unfunded commitments, and the type of credit extended (as with expansion of lending by BBFC). During 1997, the Company added approximately $600 thousand to its current year provision for loan losses to address potential losses associated with the April 1997 flooding in the Red River Valley. Management believes the reserve is adequate to cover the risks inherent in the portfolio, specifically nonperforming loans and other loans that have been identified for careful monitoring. Although the Company has prepared an allocation of the reserve based on loan- and industry-specific risk parameters, this allocation does not represent the total amount available for actual future loan losses in any single category, nor does it prohibit losses from being absorbed by portions allocated to other categories or by the unallocated portion. INTEREST RATE RISK MANAGEMENT. Interest rate risk is the risk that changing interest rates will adversely affect net interest income and balance sheet valuations. The objective of interest rate risk management is to control this risk exposure. The responsibility for this process rests with both the Subsidiary Banks' and the Company's asset/liability committees (the "ALCOs"). The ALCOs establish policies and develop strategies to minimize Company-wide exposure to adverse interest rate trends. The tools used to measure interest rate risk include gap analysis, simulation of future net interest income, and a valuation model which measures the sensitivity of balance sheet valuations to changes in interest rates. A discussion of the valuation model can be found in the "Market Risk" section of Item 5 in this Form 10-K. Table IX summarizes the Company's repricing gap for various time intervals. TABLE IX INTEREST RATE SENSITIVITY AT DECEMBER 31, 1997
REPRICING OR MATURING ------------------------------------------------------------------- WITHIN 3 - 12 1 - 5 OVER 5 3 MONTHS MONTHS YEARS YEARS TOTAL --------- -------- --------- -------- --------- (DOLLARS IN THOUSANDS) INTEREST SENSITIVE ASSETS Loans ................................. $ 837,276 313,642 686,070 127,139 1,964,127 Securities ............................ 318,466 188,898 368,169 116,716 992,249 Other assets .......................... 136,655 1,197 -- 79,473 217,325 --------- ------- --------- ------- --------- Total ............................... 1,292,397 503,737 1,054,239 323,328 3,173,701 --------- ------- --------- ------- --------- INTEREST SENSITIVE LIABILITIES Noninterest bearing deposits .......... 146,394 31,283 166,844 -- 344,521 Interest bearing deposits ............. 529,581 674,525 892,915 956 2,097,977 Short-term borrowings ................. 315,300 43,542 6,422 -- 365,264 Long-term debt ........................ 21,764 498 5,292 2,684 30,238 Other liabilities and shareholder's equity ................. -- -- -- 335,701 335,701 --------- ------- --------- ------- --------- Total ............................... 1,013,039 749,848 1,071,473 341,841 3,173,701 --------- ------- --------- ------- --------- REPRICING GAP .......................... $ 279,358 (246,111) (17,234) (18,513) 0 ========= ======== ========= ======= ========= CUMULATIVE REPRICING GAP ............... $ 279,358 33,247 18,513 0 ========= ======== ========= ======= CUMULATIVE GAP TO TOTAL ASSETS ......... 8.80% 1.05 0.58 0.00
16 As indicated in Table IX, assets reprice slightly faster than liabilities as of December 31, 1997. With this balance sheet position, net interest income is projected to increase slightly in an environment of rising short-term rates and decline slightly in a declining rate environment. The Company also uses simulation modeling of future net interest income as a risk management tool. Policy limits have been established for net interest income at risk over the next 12 months from a 200 basis point change in the level of rates. Simulation modeling results indicate that net interest income would decline in a declining rate environment. The projected change is within the current policy guideline which requires that the change in net interest income over the next 12 months not exceed 5%. LIQUIDITY MANAGEMENT. The objective of liquidity management is to ensure the continuous availability of funds to meet the commitments of the Company. The ALCOs are responsible for managing balance sheet and off-balance sheet commitments to meet the needs of customers while achieving the Company's financial objectives. ALCOs meet regularly to review funding capacity, current and forecasted loan demand, investment opportunities, and liquidity positions as outlined in the Company's liquidity policy. With this information, the ALCOs guide changes in the balance sheet structure to provide for adequate ongoing liquidity. Several factors provide a favorable liquidity position for the Company. The first is the ability to acquire and retain deposits. Core deposits, which generally include all deposits and repurchase agreements except for those greater than $100 thousand of nonpersonal and public entities, and certain other public funds, provide a historically stable source of funding. The Company has a high proportion of core deposits to total liabilities compared to industry averages; this index was approximately 81% for 1997 and 83% for 1996. The Company's available for sale securities portfolio is a secondary source of liquidity because of its readily marketable nature and predictable stream of maturities, as approximately 19% of the portfolio matures within 1997. While the Company prefers to fund its balance sheet with core deposits, a third source of liquidity is the Company's ready access to regional and national wholesale funding sources, including federal funds purchased, Federal Home Loan Bank ("FHLB") advances, and brokered deposits. The Company has also established a $30 million unsecured credit facility which is used primarily to provide funding availability for non-bank activities. CAPITAL MANAGEMENT. The Company's capital position is both a strength and an opportunity, as it provides a degree of safety and soundness and a foundation for future growth. The capital position of the Company and the Subsidiary Banks reflects management's commitment to maintain ratios above the regulatory minimums. TABLE X CAPITAL RATIOS (1) REGULATORY 1997 1996 REQUIREMENT ---------- --------- ----------- Equity to assets (2) ................... 8.79% 8.69 -- Equity to tangible assets (2) .......... 8.67 8.62 -- Tier I capital (3) ..................... 12.69 12.89 4.00 Tier I and tier II capital (3) ......... 13.94 14.15 8.00 Leverage ratio (3) ..................... 8.70 8.79 3.00 - ------------------ (1) Calculations include redeemable class A common stock. (2) Computed in accordance with generally accepted accounting principles, including the unrealized market value adjustment of securities available for sale. (3) Computed exclusive of the unrealized market value adjustment of securities available for sale. The Company's Tier I capital ratio at December 31, 1997 was 12.69%, its total risk-adjusted capital ratio (Tier I plus Tier II) was 13.94%, and its Tier I leverage ratio was 8.70%. 17 The Federal Deposit Insurance Corporation Improvement Act ("FDICIA") required the establishment of a capital-based supervisory system of prompt corrective action for all depository institutions. The Federal Reserve Board's implementation of FDICIA defines "well-capitalized" institutions as those whose Tier I Capital ratio equals or exceeds 6%, total risk-based capital ratio equals or exceeds 10%, and leverage ratio equals or exceeds 5%. The Company's Subsidiary Banks ratios in each of these categories met or exceeded the "well-capitalized" ratios as of December 31, 1997. IMPACT OF INFLATION. The assets and liabilities of a financial institution are primarily monetary in nature. Because banks generally have an excess of monetary assets over monetary liabilities, inflation, in theory, will cause a loss of purchasing power in the value of shareholder's equity. Other sections of this financial review provide the information necessary for an understanding of the Company's ability to react to changing interest rates. BALANCE SHEET ANALYSIS Table XIII on pages 20 and 21 sets forth for the periods indicated the average balance sheets and related yields and rates on earning assets and interest bearing liabilities. SOURCES OF FUNDS The Company's balance sheet strength rests in its strong capital position and its share of the deposit base in the communities served. The Company relies on three major sources of funding: core deposits, short-term borrowings, and equity capital. The diversity and supply of this funding base enable the Company to replace maturing liabilities and finance asset growth on an ongoing basis. CORE DEPOSITS. Average core deposits increased $85.6 million or 4.0% in 1997. Average total deposits increased $89.0 million or 4.0% from 1996 to $2.3 billion in 1997. Within core deposits, savings and NOW accounts had the strongest growth, increasing $44.8 million or 17.4%, while savings certificates increased $35.3 million or 3.2%, certificates over $100,000 increased $12.3 million or 8.0%, money market savings accounts increased $11.1 million or 4.6%, and demand deposits, a non-interest bearing source of funds, increased $7.8 million or 2.8%. The table below sets forth the amount and maturity of time deposits that had balances of more than $100,000 at December 31, 1997. TABLE XI MATURITY OF TIME DEPOSITS OVER $100,000 DECEMBER 31 ---------------------- 1997 1996 ---------- --------- (IN THOUSANDS) Within 3 months ......... $ 62,368 56,645 3 - 6 months ............ 34,754 29,451 6 - 12 months ........... 48,418 36,286 After 12 months ......... 43,186 41,823 -------- ------- Total .................. $188,726 164,205 ======== ======= 18 SHORT-TERM BORROWINGS. Average short-term borrowings, which include federal funds purchased, securities sold under agreements to repurchase, treasury tax and loan notes, FHLB advances with maturities of one year or less, and advances under an unsecured revolving credit facility, increased 7.6% from $282.8 million in 1996 to $304.4 million in 1997. This increase can be attributed to an increase in the Company's use of FHLB advances. While average total deposits increased $89.0 million in 1997, average earning assets increased $154.3 million, creating the need for this funding source. The associated interest rate risk was monitored closely and steps were taken to match the repricability of assets and liabilities. LONG-TERM DEBT. Average long-term debt, which includes FHLB advances with maturities of greater than one year, and installment promissory notes, increased $31.3 million. This increase can be attributed to an increase in the Company's use of FHLB advances to fund the strong asset growth (as discussed below). USES OF FUNDS Between 1996 and 1997, average total assets increased $169.5 million or 6.0%. Average earning assets increased $154.3 million or 5.8%. Strong loan growth, which the Company has been experiencing since 1994, increased loans as a percent of average earning assets from 63.7% in 1996 to 65.6% in 1997, while securities decreased from 36.2% to 34.4%. LOAN PORTFOLIO. The increase in average loans from 1996 to 1997 was $150.3 million with all categories of loans experiencing increases as loan demand remained strong in the Company's markets. Commercial real estate loans led the loan growth in 1997, increasing $44.2 million or 12.5%. Of the remaining loan categories, residential real estate loans increased $33.8 million, agricultural loans increased $33.5 million, consumer loans increased $19.1 million, commercial loans increased $19.0 million and tax-exempt loans increased $705 thousand. The following table summarizes the amount and maturity of the loan portfolio as of December 31, 1997. TABLE XII MATURITY OF LOANS
WITHIN 1 - 5 AFTER 5 1 YEAR YEARS YEARS TOTAL -------- ------- ------- --------- (IN THOUSANDS) Commercial and other ............ $223,042 148,622 15,384 387,048 Commercial real estate .......... 107,529 237,781 73,753 419,063 Construction ................... 15,786 12,942 7,790 36,518 Agricultural .................... 213,428 143,554 52,893 409,875 Residential real estate ......... 63,400 215,301 108,848 387,549 Construction ................... 10,822 1,560 227 12,609 Consumer ........................ 105,985 145,256 12,228 263,469 Tax-exempt ...................... 12,087 22,182 18,685 52,954 -------- -------- ------- --------- Total .......................... $752,079 927,198 289,808 1,969,085 ======== ======== ======= ========= Loans maturing after one year Fixed interest rate ............ $493,950 106,646 600,596 Variable interest rate ......... 433,248 183,162 616,410 -------- ------- --------- Total .......................... $927,198 289,808 1,217,006 ======== ======= =========
19 TABLE XIII CONSOLIDATED AVERAGE BALANCE SHEETS AND RELATED YIELDS AND RATES
1997 1996 --------------------------------- --------------------------------- AVERAGE RATE/ AVERAGE RATE/ (DOLLARS IN THOUSANDS) BALANCE INTEREST YIELD BALANCE INTEREST YIELD - --------------------------------------------------------- ---------- -------- ------- ---------- -------- ------- ASSETS Loans (net of unearned discount)* Commercial and other ................................... $ 360,777 $ 33,298 9.23% $ 341,793 $ 31,265 9.15% Commercial real estate ................................. 398,825 36,319 9.11 354,614 32,262 9.10 Agricultural ........................................... 394,868 36,542 9.25 361,401 33,461 9.26 Residential real estate ................................ 380,689 33,461 8.79 346,875 30,211 8.71 Consumer ............................................... 251,305 22,860 9.10 232,168 21,244 9.15 Tax-exempt ............................................. 51,754 5,287 10.22 51,049 5,391 10.56 ---------- -------- ---------- -------- TOTAL LOANS .......................................... 1,838,218 167,767 9.13 1,687,900 153,834 9.11 Reserve for loan losses ................................ (32,618) (29,689) ---------- ---------- NET LOANS ............................................ 1,805,600 1,658,211 Securities Mortgage-backed ........................................ 620,552 40,610 6.54 577,758 36,538 6.32 Other taxable .......................................... 134,440 8,654 6.44 173,084 10,759 6.22 Tax-exempt ............................................. 208,814 16,976 8.13 208,436 17,112 8.21 ---------- -------- ---------- -------- TOTAL SECURITIES ..................................... 963,806 66,240 6.87 959,278 64,409 6.71 Federal funds sold ...................................... -- -- -- -- -- -- Other earning assets .................................... 1,829 131 7.16 2,356 129 5.48 ---------- -------- ---------- -------- TOTAL EARNING ASSETS** ............................... 2,803,853 234,138 8.35 2,649,534 218,372 8.24 Cash and due from banks ................................. 101,990 94,912 Nonearning assets. ...................................... 113,375 102,305 ---------- ---------- TOTAL ASSETS ......................................... $2,986,600 $2,817,062 ========== ========== LIABILITIES AND SHAREHOLDER'S EQUITY Noninterest bearing deposits ............................ $ 284,710 $ 276,948 Interest bearing deposits Savings and NOW accounts ............................... 301,932 5,112 1.69 257,166 4,331 1.68 Money market checking .................................. 153,777 2,352 1.53 176,078 2,964 1.68 Money market savings ................................... 254,326 8,616 3.39 243,208 7,731 3.18 Savings certificates ................................... 1,138,167 64,933 5.71 1,102,819 62,671 5.68 Certificates over $100,000 ............................. 167,399 9,398 5.61 155,061 8,549 5.51 ---------- -------- ---------- -------- TOTAL TIME DEPOSITS .................................. 2,015,601 90,411 4.49 1,934,332 86,246 4.46 TOTAL DEPOSITS ....................................... 2,300,311 2,211,280 CORE DEPOSITS*** ..................................... 2,218,266 2,132,674 Short-term borrowings ................................... 304,384 16,356 5.37 282,813 14,850 5.25 Long-term debt .......................................... 53,486 3,202 5.99 22,178 1,414 6.38 ---------- -------- ---------- -------- TOTAL INTEREST BEARING LIABILITIES ................... 2,373,471 109,969 4.63 2,239,323 102,510 4.58 Other liabilities ....................................... 50,082 43,357 ---------- ---------- TOTAL LIABILITIES .................................... 2,708,263 2,559,628 Minority interest ....................................... 9,665 9,216 Redeemable preferred stock .............................. 2,144 2,144 Redeemable class A common stock ......................... 21,322 19,686 Shareholder's equity .................................... 245,206 226,388 ---------- ---------- TOTAL LIABILITIES AND EQUITY ......................... $2,986,600 $2,817,062 ========== ========== Net interest income ..................................... $124,169 $115,862 ======== ======== Gross spread ............................................ 3.72% 3.66% Percent of earning assets Interest income ........................................ 8.35 8.24 Interest cost .......................................... 3.92 3.87 ----- ----- NET INTEREST MARGIN .................................. 4.43% 4.37% Interest bearing liabilities to earning assets ......... 84.65% 84.52% Profitability Net income ............................................. $ 35,060 $ 31,817 Return on average assets ............................... 1.22% 1.18% Leverage ............................................... 11.12X 11.35X Return on average realized equity ...................... 13.32% 13.08%
- ----------------- INTEREST AND RATES ARE REALIZED ON A FULLY TAXABLE EQUIVALENT BASIS USING A 35% TAX RATE. * LOAN AMOUNTS INCLUDE NONACCRUAL LOANS. ** BEFORE DEDUCTING THE RESERVE FOR LOAN LOSSES. *** TOTAL DEPOSITS LESS NONPERSONAL AND PUBLIC CERTIFICATES OF DEPOSITS OVER $100,000, AND CERTAIN OTHER PUBLIC FUNDS, PLUS REPURCHASE AGREEMENTS LESS THAN $100,000 AND PERSONAL REPURCHASE AGREEMENTS GREATER THAN $100,000. 20
1995 1994 1993 AVERAGE BALANCE --------------------------------- --------------------------------- --------------------------------- ---------------------- AVERAGE RATE/ AVERAGE RATE/ AVERAGE RATE/ 1997 VS FIVE-YEAR BALANCE INTEREST YIELD BALANCE INTEREST YIELD BALANCE INTEREST YIELD 1996 GROWTH RATE ---------- -------- ------- ---------- -------- ------- ---------- -------- ------- -------- ----------- $ 314,949 $ 30,096 9.56% $ 270,499 $ 22,312 8.25% $ 222,056 $ 17,346 7.81% 5.55% 11.21 328,163 30,542 9.31 295,579 25,955 8.78 286,986 24,189 8.43 12.47 5.72 330,422 31,615 9.57 269,266 23,696 8.80 233,632 20,852 8.93 9.26 11.09 318,447 27,638 8.68 276,860 23,268 8.40 244,719 22,016 9.00 9.75 10.12 205,766 18,706 9.09 173,193 15,044 8.69 138,377 12,949 9.36 8.24 14.20 47,946 4,825 10.06 45,405 4,615 10.16 47,972 5,310 11.07 1.38 (1.22) ---------- -------- ---------- -------- ---------- -------- 1,545,693 143,422 9.28 1,330,802 114,890 8.63 1,173,742 102,662 8.75 8.91 9.51 (27,858) (28,632) (28,893) 9.87 3.17 ---------- ---------- ---------- 1,517,835 1,302,170 1,144,849 8.89 9.65 528,288 33,883 6.41 489,508 27,643 5.65 453,563 26,761 5.90 7.41 11.68 218,163 13,211 6.06 222,252 11,466 5.16 227,353 12,339 5.43 (22.33) (14.68) 197,662 16,444 8.32 181,967 14,792 8.13 162,478 13,927 8.57 0.18 16.16 ---------- -------- ---------- -------- ---------- -------- 944,113 63,538 6.73 893,727 53,901 6.03 843,394 53,027 6.29 0.47 5.06 -- -- -- 789 37 4.69 1,690 44 2.60 N/M N/M 1,029 74 7.19 1,100 54 4.91 1,488 30 2.02 (22.37) (17.01) ---------- -------- ---------- -------- ---------- -------- 2,490,835 207,034 8.31 2,226,418 168,882 7.59 2,020,314 155,763 7.71 5.82 7.75 69,625 64,141 73,867 7.46 9.25 115,156 94,499 72,664 10.82 9.37 ---------- ---------- ---------- $2,647,758 $2,356,426 $2,137,952 6.02 7.91 ========== ========== ========== $ 257,888 $ 242,439 $ 210,386 2.80 8.98 255,104 5,160 2.02 259,947 4,424 1.70 231,702 4,576 1.97 17.41 9.53 172,994 3,507 2.03 156,658 2,827 1.80 156,572 3,133 2.00 (12.67) (1.00) 241,417 8,343 3.46 270,850 7,381 2.73 255,498 6,829 2.67 4.57 1.29 1,035,354 59,461 5.74 886,245 40,719 4.59 852,055 39,992 4.69 3.21 5.52 150,313 8,401 5.59 87,145 3,836 4.40 70,182 3,006 4.28 7.96 18.43 ---------- -------- ---------- -------- ---------- -------- 1,855,182 84,872 4.57 1,660,845 59,187 3.56 1,566,009 57,536 3.67 4.20 5.62 2,113,070 1,903,284 1,776,395 4.03 6.00 2,034,837 1,867,688 1,747,904 4.01 5.58 229,935 12,678 5.51 199,186 8,616 4.33 139,119 4,539 3.26 7.63 21.56 23,306 1,586 6.81 8,813 381 4.32 357 23 6.44 141.17 127.22 ---------- -------- ---------- -------- ---------- -------- 2,108,423 99,136 4.70 1,868,844 68,184 3.65 1,705,485 62,098 3.64 5.99 7.55 47,179 29,850 23,447 15.51 14.08 ---------- ---------- ---------- 2,413,490 2,141,133 1,939,318 5.81 7.80 8,676 8,536 8,741 4.87 2.19 4,698 2,424 -- -- N/M 17,672 16,347 15,191 8.31 9.19 203,222 187,986 174,702 8.31 9.19 ---------- ---------- ---------- $2,647,758 $2,356,426 $2,137,952 6.02 7.91 ========== ========== ========== $107,898 $100,698 $ 93,665 ======== ======== ======== 3.61% 3.94% 4.07% 8.31 7.59 7.71 3.98 3.07 3.07 ----- ----- ----- 4.33% 4.52% 4.64% 84.65% 83.94% 84.42% $ 27,136 $ 25,797 $ 26,885 1.07% 1.15% 1.32% 11.74X 11.40X 11.26X 12.06% 12.41% 14.16%
21 SECURITIES. Average total securities rose $4.5 million or .5% from 1996 to 1997, with mortgage-backed and other taxable securities increasing $4.2 million or .6%. The increase in tax-exempt securities was $.4 million or .2%. Mortgage-backed securities represented 64.4% of total securities during 1997 compared to 60.2% in 1996. The primary risk of these types of securities is prepayment risk, which is continuously monitored to assess the impact on the yield of the portfolio. While the Company believes the yield on these securities adequately compensates for the risks unique to this type of investment, it is the Company's position to primarily acquire securities that carry limited risk of prepayment. The table below sets forth the maturities of the Company's investment and mortgage-backed securities at December 31, 1997 and the weighted average yields of such securities. TABLE XIV MATURITY OF INVESTMENT AND MORTGAGE-BACKED SECURITIES
AMORTIZED COST ------------------------------------------------------------------------------------------------------- WITHIN 1 YEAR 1-5 YEARS 5-10 YEARS AFTER 10 YEARS TOTAL ------------------ ------------------- ------------------ ------------------- ----------------- AMOUNT YIELD AMOUNT YIELD AMOUNT YIELD AMOUNT YIELD AMOUNT YIELD --------- ------- -------- ------- -------- ------- -------- ------- -------- ------- (IN THOUSANDS) Governments and agencies ............. $ 34,186 6.27% $ 17,439 6.47% $ -- --% $ 707 6.01% $ 52,332 6.33% State and political subdivisions ......... 24,564 8.61 86,148 7.96 71,769 6.43 3,991 4.96 186,472 8.05 Corporate bonds ....... 422 6.61 8,636 5.65 -- -- -- -- 9,058 5.69 Mortgage-backed securities ........... 148,316 6.31 282,585 6.81 121,357 6.86 110,099 6.51 662,357 6.66 Equity securities ..... 12,293 8.96 4,415 9.64 -- -- 46,295 7.17 63,003 7.69 Other securities ...... 9,625 6.69 103 7.82 93 7.90 92 7.81 9,913 6.72 -------- ---- -------- ---- -------- ---- -------- ---- -------- ---- Total ................ $229,406 6.71% $399,326 7.05% $193,219 6.70% $161,184 6.66% $983,135 6.96% ======== ==== ======== ==== ======== ==== ======== ==== ======== ====
The average maturity of the portfolio was 56 months at December 31, 1997, with an average tax-equivalent yield to maturity on the $983 million portfolio of 6.96%, unrealized gains of $15.7 million and unrealized losses of $1.3 million. At December 31, 1997, the market value of the Company's securities was $997.5 million or $14.4 million over its amortized cost. This compares to a market value of $938.8 million or $5.3 million over amortized cost at December 31, 1996. In accordance with FAS 115, the available for sale securities are recorded at market value. For further discussion and detail on the Company's securities portfolio, refer to Note C to the Consolidated Financial Statements. 22 ANALYSIS OF 1996 COMPARED WITH 1995 The following analysis compares 1996 consolidated financial results with 1995 results. NET INCOME. Net income was $31.8 million or $2.65 basic earnings per share in 1996 compared to $27.1 million or $2.26 basic earnings per share in 1995. Return on realized equity was 13.08% in 1996, as compared to the 12.06% return in 1995. Return on average assets was 1.18% in 1996, versus 1.07% in 1995. NET INTEREST INCOME. Tax-equivalent net interest income for 1996 was $115.9 million, an increase of $8.0 million or 7.4% from 1995. The increase in net interest income in 1996 resulted primarily from a $159 million increase in average earning assets and an increase in the net interest margin, which improved 4 basis points from 4.33% in 1995 to 4.37% in 1996. The increase in net interest margin was primarily due to an increased spread in rates during 1996, as costs on interest bearing liabilities decreased more than yields on earning assets. The interest bearing liabilities cost and net interest margin were impacted by decreased rates paid on interest bearing savings deposits and certificates, offset partially by the increased use of other borrowings, with higher costs, to fund a portion of the earning asset growth experienced in 1996. Adversely impacting the net interest margin, but not enough to offset the decreased cost on interest bearing liabilities, was a decline in the earning asset yield of 7 basis points, resulting from a 17 basis point decline in loan yields, coupled with an unfavorable change in the mix of earning assets. PROVISION FOR LOAN LOSSES. From December 31, 1995 to December 31, 1996, nonperforming loans increased $2.2 million to $11.2 million. However, the quality of the portfolio, as measured by the ratio of classified loans to total loans, reflected only modest deterioration during each quarter of 1996, despite strong loan growth. The modest deterioration in credit quality occurred primarily in the commercial real estate, agricultural, and consumer segments of the loan portfolio. Several commercial real estate credits continued to experience pressure on their margins, while farmers in certain geographical locations experienced another adverse growing season in 1996. The reserve to outstanding loan ratio remained at 1.74% in 1996, while the reserve to nonperforming loan coverage decreased from 313.0% to 271.1% from 1995 to 1996. NONINTEREST INCOME. Noninterest income was $33.8 million in 1996 compared to $27.9 million in 1995, representing a $5.9 million or 21.3% increase. Contributing to this increase in noninterest income were strong growth in service charge income of $1.8 million or 16.2% and brokerage commissions of $1.3 million or 103.6%. Also contributing to the increase in noninterest income was an increase in insurance commissions of $1.5 million, due in large part to the acquisition of the United Agency in January 1996. Gains on loans sold in the secondary market grew as the volume of real estate mortgage financing increased in 1996 driven by a more favorable interest rate environment. Decreasing $574 thousand from 1995 were gains on the sale of other assets, primarily other real estate owned (OREO). NONINTEREST EXPENSE. Noninterest expense increased $5.0 million or 5.8% from 1995 to 1996. Personnel costs, which accounted for 55.7% of noninterest expense, increased $3.2 million or 6.7%, as salaries and wages increased 9.0% while the cost of employee benefits decreased 1.3%. Affecting 1996 personnel costs were $1.3 million in salaries and benefits relating to entities acquired in 1995 and 1996. Excluding acquisitions, personnel costs would have increased $1.9 million or 4.1% over 1995. Excluding personnel costs, noninterest expense increased $1.8 million or 4.6%. Contributing to this increase was a $1.0 million increase in furniture and equipment expense primarily due to the depreciation expense associated with the upgrading of technology throughout the Company. Also contributing to the increase in noninterest expense was a $1.4 million increase in other expenses driven by a $517 thousand increase in lending costs associated with the growth experienced in real estate mortgage lending; a $199 thousand increase in amortization of intangible assets; and increases in several other miscellaneous categories. Offsetting some of the increase in noninterest expense was a continued decline in FDIC insurance premiums in 1996. 23 INCOME TAXES. Income tax expense, which consists of provisions for federal and state income taxes, was $15.1 million for 1996, representing an increase of $2.8 million from 1995. Comparing 1996 to 1995, the Company's effective tax rate increased from 31.2% to 32.2%, reflecting the impact of proportionately more taxable than tax-exempt income in 1996. IMPACT OF THE YEAR 2000 ISSUE The Year 2000 issue is the result of computer systems being written using two digits rather than four to define the applicable year. Any of the computer programs used by the Company that have date-sensitive software may recognize a date using "00" for the year as the year 1900 rather than the year 2000, or vice versa. This could result in a system failure or miscalculations causing disruptions of operations including an inability to process transactions, calculate interest accruals, or engage in similar normal business activities. Based on its assessment, the Company determined that it will be required to upgrade or replace some portions of the software used by it so that its computer systems will properly recognize dates beyond December 31, 1999. The Company presently believes that with modifications to existing software and conversions to new software, the Year 2000 issue can be mitigated or eliminated. However, if such modifications and conversions are not made on a timely basis, the Year 2000 issue could have a material impact on the Company's operations. In addition, the Company continues to bear some risk related to the Year 2000 issue if other entities not affiliated with the Company do not appropriately address their own Year 2000 compliance issues. The Company has not yet evaluated the full impact of the Year 2000 issue if third-party vendors and/or customers do not resolve this issue on a timely basis. Based on its assessments, management does not believe the cost of addressing the Year 2000 issue will be material to the Company's financial condition or results of operations. (The remainder of this page was intentionally left blank.) 24 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA. BREMER FINANCIAL CORPORATION AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS
DECEMBER 31 --------------------------- 1997 1996 ---------- --------- (IN THOUSANDS) ASSETS Cash and due from banks .......................................... $ 135,966 159,832 Interest bearing deposits ........................................ 1,886 1,778 Investment securities held to maturity (fair value of $185,402 and $187,045, respectively) ..................................... 179,631 183,095 Mortgage-backed securities held to maturity (fair value of $91,508 and $108,111, respectively) ..................................... 91,994 109,036 ---------- --------- TOTAL SECURITIES HELD TO MATURITY ............................. 271,625 292,131 Investment securities available for sale (amortized cost of $141,147 and $180,453, respectively) ............................ 142,051 180,679 Mortgage-backed securities available for sale (amortized cost of $570,363 and $460,958, respectively) ............................ 578,573 462,964 ---------- --------- TOTAL SECURITIES AVAILABLE FOR SALE ........................... 720,624 643,643 Loans ............................................................ 1,969,085 1,760,100 Reserve for loan losses ......................................... (34,253) (30,482) Unearned discount ............................................... (4,958) (3,954) ---------- --------- NET LOANS ..................................................... 1,929,874 1,725,664 Premises and equipment, net ...................................... 51,879 45,980 Interest receivable and other assets ............................. 61,847 56,623 ---------- --------- TOTAL ASSETS .................................................. $3,173,701 2,925,651 ========== ========= LIABILITIES AND SHAREHOLDER'S EQUITY Noninterest bearing deposits ..................................... $ 344,521 332,143 Interest bearing deposits ........................................ 2,097,977 1,951,303 ---------- --------- TOTAL DEPOSITS ................................................ 2,442,498 2,283,446 Federal funds purchased and repurchase agreements ................ 167,174 188,129 Other short-term borrowings ...................................... 198,090 86,892 Long-term debt ................................................... 30,238 62,389 Accrued expenses and other liabilities ........................... 44,697 39,125 ---------- --------- TOTAL LIABILITIES ............................................. 2,882,697 2,659,981 Minority interests ............................................... 10,011 9,319 Redeemable preferred stock, $100 par, 80,000 shares authorized; 71,594 shares issued; 21,437 shares outstanding ................. 2,144 2,144 Redeemable class A common stock, 960,000 shares issued and outstanding .......................................... 22,308 20,337 Shareholder's equity Common stock Class A, no par, 12,000,000 shares authorized; 240,000 shares issued and outstanding ....................................... 57 57 Class B, no par, 10,800,000 shares authorized, issued and outstanding ....................................... 2,562 2,562 Retained earnings ................................................ 249,079 230,071 Net unrealized gain on securities available for sale ............. 4,843 1,180 ---------- --------- TOTAL SHAREHOLDER'S EQUITY .................................... 256,541 233,870 ---------- --------- TOTAL LIABILITIES AND SHAREHOLDER'S EQUITY .................... $3,173,701 2,925,651 ========== =========
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS. 25 BREMER FINANCIAL CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME
YEAR ENDED DECEMBER 31 ---------------------------------------- 1997 1996 1995 --------- --------- --------- (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) INTEREST INCOME Loans, including fees ...................... $165,958 151,991 141,687 Securities Taxable .................................. 49,264 47,297 47,094 Tax-exempt ............................... 11,197 11,285 10,839 Other ...................................... 131 130 161 -------- ------- ------- Total interest income ................. 226,550 210,703 199,781 -------- ------- ------- INTEREST EXPENSE Deposits ................................... 90,410 86,246 84,872 Federal funds purchased and repurchase agreements ..................... 6,843 8,823 8,175 Other short term borrowings ................ 9,514 6,027 4,503 Long term debt ............................. 3,202 1,414 1,586 -------- ------- ------- Total interest expense ................ 109,969 102,510 99,136 -------- ------- ------- Net interest income ...................... 116,581 108,193 100,645 Provision for loan losses .................. 4,746 2,756 1,780 -------- ------- ------- Net interest income after provision for loan losses ......................... 111,835 105,437 98,865 -------- ------- ------- NONINTEREST INCOME Service charges ............................ 15,787 12,837 11,047 Insurance .................................. 7,503 7,082 5,503 Trust ...................................... 6,265 5,332 4,784 Gain on sale of loans ...................... 2,550 2,138 1,302 (Loss) gain on sale of securities .......... (125) 147 304 Other ...................................... 6,701 6,306 4,952 -------- ------- ------- Total noninterest income .............. 38,681 33,842 27,892 -------- ------- ------- NONINTEREST EXPENSE Salaries and wages ......................... 44,912 40,676 37,325 Employee benefits .......................... 11,690 10,739 10,878 Occupancy .................................. 6,005 5,756 5,433 Furniture and equipment .................... 6,819 6,294 5,216 Data processing fees ....................... 6,513 7,428 7,153 FDIC premiums and examination fees ......... 555 1,075 2,901 Other ...................................... 21,761 20,357 18,390 -------- ------- ------- Total noninterest expense ............. 98,255 92,325 87,296 -------- ------- ------- INCOME BEFORE INCOME TAX EXPENSE ............ 52,261 46,954 39,461 Income tax expense ......................... 17,201 15,137 12,325 -------- ------- ------- NET INCOME .................................. $ 35,060 31,817 27,136 ======== ======= ======= Per common share amounts Net income-basic .......................... $ 2.92 2.65 2.26 Dividends paid ............................ $ 1.20 1.05 0.80
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS. 26 BREMER FINANCIAL CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF SHAREHOLDER'S EQUITY
NET UNREALIZED GAIN (LOSS) ON COMMON STOCK SECURITIES ------------------- AVAILABLE RETAINED CLASS A CLASS B FOR SALE EARNINGS TOTAL ------- ------- ---------- ---------- -------- (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) BALANCE, DECEMBER 31, 1994 .................. $57 2,562 (11,340) 196,259 187,538 Net income ................................. 27,136 27,136 Dividends, $.80 per share .................. (9,600) (9,600) Allocation of net income in excess of dividends and change in net unrealized gain (loss) on securities available for sale to redeemable class A common stock ........... (1,324) (1,403) (2,727) Change in net unrealized gain (loss) on securities available for sale ............. 16,559 16,559 ---- ----- ------- ------- ------- BALANCE, DECEMBER 31, 1995 .................. 57 2,562 3,895 212,392 218,906 Net income ................................. 31,817 31,817 Dividends, $1.05 per share ................. (12,600) (12,600) Allocation of net income in excess of dividends and change in net unrealized gain (loss) on securities available for sale to redeemable class A common stock ........... 236 (1,538) (1,302) Change in net unrealized gain (loss) on securities available for sale ............. (2,951) (2,951) ---- ----- ------- ------- ------- BALANCE, DECEMBER 31, 1996 .................. 57 2,562 1,180 230,071 233,870 Net income ................................. 35,060 35,060 Dividends, $1.20 per share ................. (14,400) (14,400) Allocation of net income in excess of dividends and change in net unrealized gain (loss) on securities available for sale to redeemable class A common stock ........... (319) (1,652) (1,971) Change in net unrealized gain (loss) on securities available for sale ............. 3,982 3,982 ---- ----- ------- ------- ------- BALANCE, DECEMBER 31, 1997 .................. $57 2,562 4,843 249,079 256,541 ==== ===== ======= ======= =======
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS. 27 BREMER FINANCIAL CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS
YEAR ENDED DECEMBER 31 ----------------------------------------- 1997 1996 1995 ---------- --------- -------- (IN THOUSANDS) CASH FLOWS FROM OPERATING ACTIVITIES Net income ........................................................ $ 35,060 31,817 27,136 Adjustments to reconcile net income to net cash provided by operating activities Provision for loan losses ....................................... 4,746 2,756 1,780 Depreciation and amortization ................................... 7,159 7,135 6,525 Deferred income taxes ........................................... 279 (1,204) 1,074 Minority interests in earnings of subsidiaries .................. 1,486 1,400 1,277 Loss (gain) on sale of securities ............................... 125 (147) (304) Valuation writedown on other real estate owned .................. 20 -- 13 Gains on sale of other real estate owned, net ................... (62) (33) (517) Other assets and liabilities, net ............................... (425) (915) 2,758 Proceeds from sales of other real estate owned .................. 643 269 2,192 Cash receipts related to loans originated specifically for resale ........................................ 139,003 123,549 74,672 Cash payments related to loans originated specifically for resale ........................................ (139,388) (123,397) (73,370) ---------- -------- ------- Net cash provided by operating activities .................... 48,646 41,230 43,236 ---------- -------- ------- CASH FLOWS FROM INVESTING ACTIVITIES Deposits in other banks, net ...................................... (108) 1,230 (1,396) Purchases of securities available for sale ........................ (292,205) (208,159) (273,311) Purchases of securities held to maturity .......................... (28,549) (33,762) (20,738) Proceeds from maturities of securities available for sale ......... 114,696 128,539 92,292 Proceeds from maturities of securities held to maturity ........... 41,560 59,942 55,081 Proceeds from sales of securities available for sale .............. 132,230 97,713 112,886 Loans, net ........................................................ (169,560) (129,819) (149,885) Business acquisitions, net of cash acquired ....................... (8,203) -- (1,469) Acquisition of premises and equipment ............................. (11,418) (7,637) (11,540) ---------- -------- -------- Net cash used by investing activities ........................ (221,557) (91,953) (198,080) ---------- -------- -------- CASH FLOWS FROM FINANCING ACTIVITIES Noninterest bearing deposits, net ................................. 5,843 5,612 36,160 Interest bearing deposits (excluding certificates of deposit), net ................................................. 66,386 (7,416) 16,692 Certificates of deposits, net ..................................... 33,894 42,943 119,120 Federal funds and repurchase agreements, net ...................... (19,607) 1,029 (16,961) Other short-term borrowings, net .................................. 110,021 17,465 25,611 Long-term debt, net ............................................... (32,151) 36,821 1,780 Minority interests acquired and dividends paid .................... (941) (1,085) (1,105) Redeemable preferred stock ........................................ -- -- (5,108) Dividends paid .................................................... (14,400) (12,600) (9,600) ---------- -------- -------- Net cash provided by financing activities .................... 149,045 82,769 166,589 ---------- -------- -------- Net (decrease) increase in cash and due from banks ........... (23,866) 32,046 11,745 Cash and due from banks Beginning of year ................................................ 159,832 127,786 116,041 ---------- -------- -------- End of year ...................................................... $ 135,966 159,832 127,786 ========== ======== ======== Supplemental disclosures of cash flow information Cash paid during the year for interest ........................... $ 106,367 103,494 89,977 Cash paid during the year for income taxes ....................... 16,451 16,229 8,640
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS. 28 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE A: ACCOUNTING POLICIES NATURE OF BUSINESS -- Bremer Financial Corporation (the "Company") is a regional multi-state bank holding company headquartered in St. Paul, Minnesota. The Company is a majority owner of 14 subsidiary banks ("Subsidiary Banks") which draw most of their deposits from and make substantially all of their loans within the states of Minnesota, North Dakota, and Wisconsin. Additionally, the Company also provides asset-based lending and leasing, trust and insurance services to its customers through wholly-owned nonbanking subsidiaries, and investment services through a third party relationship. The accounting and reporting policies of the Company and its subsidiaries conform to generally accepted accounting principles and general practices within the financial services industry. The more significant accounting policies are summarized below: CONSOLIDATION -- The consolidated financial statements include the accounts of the Company (a bank holding company majority owned by the Otto Bremer Foundation) and all Subsidiary Banks and financial service subsidiaries in which the Company has a majority interest. All significant intercompany accounts and transactions have been eliminated. CASH FLOWS -- For purposes of this statement, the Company has defined cash equivalents as cash and due from banks. During the years ended December 31, 1997, 1996, and 1995, the Company received real estate valued at $835,000, $481,000, and $1,312,000, respectively, in satisfaction of outstanding loan balances. During the years ended December 31, 1997, 1996 and 1995, the Company issued installment notes totaling $60,000, $250,000 and $5,577,000, respectively, in connection with acquisitions. INVESTMENT AND MORTGAGE-BACKED SECURITIES -- HELD TO MATURITY SECURITIES consist of debt securities which the Company has the intent and ability to hold to maturity, and are valued at amortized historical cost, increased for accretion of discounts and reduced by amortization of premiums, computed by the constant-yield method. Under certain circumstances (including the deterioration of the issuer's creditworthiness or a change in tax law or statutory or regulatory requirements), securities held to maturity may be sold or transferred to another portfolio. AVAILABLE FOR SALE SECURITIES consist of debt and equity securities that will be held for indefinite periods of time, including securities that may be sold in response to changes in market interest or prepayment rates, needs for liquidity or changes in the availability or yield of alternative investments. These securities are valued at current market value with the resulting unrealized holding gains and losses excluded from earnings and reported, net of tax and minority interest effects and the resultant allocation to redeemable class A common stock, as a separate component of shareholder's equity until realized. Gains or losses on these securities are computed based on the adjusted cost of the specific securities sold. The Company does not engage in trading activities. LOANS -- Interest income is accrued on loan balances based on the principal amount outstanding. Loans are reviewed regularly by management and placed on nonaccrual status when the collection of interest or principal is unlikely. The accrual of interest on loans is suspended when the credit becomes 90 days or more past due, unless the loan is fully secured and in the process of collection. Thereafter, no interest is recognized as income unless received in cash or until such time the borrower demonstrates the ability to pay interest and principal. Certain net loan and commitment fees are deferred and amortized over the life of the related loan or commitment as an adjustment of yield. RESERVE FOR LOAN LOSSES -- Management determines the adequacy of the reserve based upon a number of factors, including credit loss experience and a continuous review of the loan portfolio. Being an estimate, the reserve is subject to change through evaluation of the loan composition, economic conditions, and the economic prospects of borrowers. Under the Company's credit policies and practices, all nonaccrual and restructured commercial, agricultural, construction, and commercial real estate loans plus certain other loans identified by the Company meet the definition of impaired loans under Statements of Financial Accounting Standard 29 ("FAS") Nos. 114 and 118. Impaired loans as defined by FAS 114 and 118 exclude certain large groups of smaller balance homogeneous loans such as consumer loans and residential real estate loans. Under these statements, loan impairment is required to be measured based on the present value of expected future cash flows discounted at the loan's effective interest rate or, as a practical expedient, at the observable market price of the loan or the fair value of the collateral if the loan is collateral dependent. PREMISES AND EQUIPMENT -- Premises and equipment are stated at cost less accumulated depreciation and amortization computed principally on accelerated methods based on estimated useful lives. OTHER REAL ESTATE -- Other real estate owned, which is included in other assets, represents properties acquired through foreclosure and other proceedings recorded at the lower of the amount of the loan satisfied or fair value. Any write-down to fair value at the time of foreclosure is charged to the reserve for loan losses. Property is appraised periodically to ensure that the recorded amount is supported by the current fair value. Market write-downs, operating expenses and losses on sales are charged to other expenses. Income, including gains on sales, is credited to other income. INTANGIBLE ASSETS -- Intangible assets consist primarily of goodwill. The remaining unamortized balances at December 31, 1997 and 1996 were approximately $13,437,000 and $10,456,000, respectively, which are amortized over a 15 year period. INCOME TAXES -- Bremer Financial Corporation and subsidiaries file a consolidated federal tax return. Deferred taxes are recorded to reflect the tax consequences in future years of differences between the tax bases of assets and liabilities and their financial reporting amounts at each year end. Such differences are primarily related to the differences between providing for loan losses for financial reporting purposes while deducting charged-off loans for tax purposes. COMPREHENSIVE INCOME -- In June 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards (FAS) No. 130, "Reporting Comprehensive Income." This statement is effective for fiscal years beginning after December 15, 1997. The Company has not yet evaluated the full impact of adoption. SEGMENT REPORTING -- In June 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards (FAS) No. 131, "Disclosures about Segments of an Enterprise and Related Information." This statement is effective for fiscal years beginning after December 15, 1997. The Company has not yet evaluated the full impact of adoption. ESTIMATES -- The preparation of consolidated financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of income and expenses during the reporting period. Actual results could differ from those estimates. Material estimates that are particularly susceptible to significant change relate to the determination of the allowance for loan losses and the valuation of real estate acquired in connection with foreclosures or in satisfaction of loans. EARNINGS PER SHARE CALCULATIONS -- Basic earnings per common share have been computed using 12,000,000 common shares for all periods. The Company does not have any dilutive securities. See Note O. RECLASSIFICATIONS -- Certain amounts have been reclassified to provide consistent presentation among the various accounting periods shown. The reclassifications have no effect on previously reported net income or total shareholder's equity. NOTE B: RESTRICTIONS ON CASH AND DUE FROM BANKS The Subsidiary Banks are required to maintain average reserve balances in accordance with the Federal Reserve Bank requirements. The amount of those reserve balances was approximately $21,084,000 and $15,883,000 as of December 31, 1997 and 1996, respectively. 30 NOTE C: INVESTMENT AND MORTGAGE-BACKED SECURITIES At December 31, 1997 and 1996, investment and mortgage-backed securities with amortized cost of $533,665,000 and $655,439,000, respectively, were pledged as collateral to secure public deposits and for other purposes. The amortized cost and estimated fair value by maturity at December 31, 1997, are shown below (contractual maturity or, if earlier, call dates are used): HELD TO MATURITY AVAILABLE FOR SALE -------------------- -------------------- AMORTIZED FAIR AMORTIZED FAIR COST VALUE COST VALUE -------- ------ --------- -------- (IN THOUSANDS) Within 1 year .......... $ 91,878 91,871 137,528 138,460 1 - 5 years ............ 103,766 106,246 295,560 299,815 5 - 10 years ........... 60,787 63,572 132,432 134,666 After 10 years ......... 15,194 15,221 145,990 147,683 -------- ------- ------- ------- Total ................. $271,625 276,910 711,510 720,624 ======== ======= ======= ======= The amortized cost and fair value of investment and mortgage-backed securities available for sale as of December 31 consist of the following:
1997 1996 ---------------------------------------------- --------------------------------------------- GROSS GROSS GROSS GROSS AMORTIZED UNREALIZED UNREALIZED FAIR AMORTIZED UNREALIZED UNREALIZED FAIR COST GAINS LOSSES VALUE COST GAINS LOSSES VALUE --------- ---------- ---------- ------- --------- ---------- ---------- ------- (IN THOUSANDS) Governments ............ $ 25,858 196 2 26,052 54,966 317 25 55,258 State and political subdivisions .......... 33,315 596 -- 33,911 36,934 271 7 37,198 Corporate bonds ........ 9,058 -- 31 9,027 36,109 88 80 36,117 Mortgage-backed securities ............ 570,363 8,601 391 578,573 460,958 3,886 1,880 462,964 Equity securities ...... 63,003 446 23 63,426 45,337 145 136 45,346 Other .................. 9,913 44 322 9,635 7,107 42 389 6,760 -------- ----- --- ------- ------- ----- ----- ------- Total ................. $711,510 9,883 769 720,624 641,411 4,749 2,517 643,643 ======== ===== === ======= ======= ===== ===== =======
Proceeds from sales of investments and mortgage-backed securities were $132,230,000, $97,713,000, and $112,886,000, for 1997, 1996, and 1995, respectively. Gross gains of $391,000, $727,000, and $938,000 and gross losses of $516,000, $580,000, and $634,000 were realized on those sales for 1997, 1996, and 1995, respectively. A summary of amortized cost and fair value of investment and mortgage-backed securities held to maturity at December 31 consist of the following:
1997 1996 --------------------------------------------- --------------------------------------------- GROSS GROSS GROSS GROSS AMORTIZED UNREALIZED UNREALIZED FAIR AMORTIZED UNREALIZED UNREALIZED FAIR COST GAINS LOSSES VALUE COST GAINS LOSSES VALUE ---------- ---------- ---------- ------- --------- ---------- ---------- ------- (IN THOUSANDS) Government agencies ............. $ 26,474 131 15 26,590 32,439 93 79 32,453 State and political subdivisions ......... 153,157 5,667 12 158,812 150,656 4,123 187 154,592 Mortgage-backed securities ........... 91,994 4 490 91,508 109,036 308 1,233 108,111 -------- ----- --- ------- ------- ----- ----- ------- Total ................ $271,625 5,802 517 276,910 292,131 4,524 1,499 295,156 ======== ===== === ======= ======= ===== ===== =======
State and political subdivision investments largely involve governmental entities within the Company's market area. 31 NOTE D: LOANS The Company is engaged in lending activities with borrowers in a wide variety of industries. Lending is concentrated in the areas in which its Subsidiary Banks are located. Loans at December 31 consist of the following: 1997 1996 ---------- --------- (IN THOUSANDS) Commercial and other ............ $ 387,048 346,602 Commercial real estate .......... 419,063 340,621 Construction ................... 36,518 30,039 Agricultural .................... 409,875 378,399 Residential real estate ......... 387,549 351,946 Construction ................... 12,609 11,904 Consumer ........................ 263,469 247,511 Tax-exempt ...................... 52,954 53,078 ---------- --------- Total ......................... $1,969,085 1,760,100 ========== ========= Impaired loans were $9,868,000 and $11,244,000 at December 31, 1997 and 1996, respectively. Impaired loans include nonaccrual and restructured loans. Restructured loans are those for which the terms (principal and/or interest) have been modified as a result of the inability of the borrower to meet the original terms of the loan. The reserve for loan losses includes approximately $1,751,000 and $1,519,000 relating to impaired loans at December 31, 1997 and 1996, respectively. The effect of nonaccrual and restructured loans on interest income for each of the three years ended December 31 was as follows: 1997 1996 1995 -------- -------- -------- (IN THOUSANDS) Interest income As originally contracted ........... $ 794 1,227 1,575 As recognized ...................... (276) (291) (429) ------ ----- ----- Reduction of interest income ........ $ 518 936 1,146 ====== ===== ===== Other nonperforming assets, consisting of other real estate owned, amounted to $691,000 and $240,000 at December 31, 1997 and 1996, respectively. Loans totaling $73,531,000 and $62,300,000 were pledged to secure Federal Home Loan Bank (FHLB) advances at December 31, 1997 and 1996, respectively. The Company and its subsidiaries have granted loans to the officers and directors (the "Group") of significant subsidiaries. The aggregate dollar amount of loans to the Group was $16,689,000 and $16,483,000 at December 31, 1997 and 1996, respectively. During 1997, $44,387,000 of new loans were made, repayments totaled $44,873,000, and changes in the composition of the Group or their associations increased loans outstanding by $692,000. These loans were made at the prevailing market interest rates. 32 NOTE E: RESERVE FOR LOAN LOSSES Changes in the reserve for loan losses are as follows:
1997 1996 1995 --------- -------- -------- (IN THOUSANDS) Beginning of year ........................... $ 30,482 28,253 26,946 Charge-offs ................................ (2,759) (2,230) (2,834) Recoveries ................................. 1,026 1,703 1,610 -------- ------ ------ Net charge-offs ........................... (1,733) (527) (1,224) Provision for loan loss .................... 4,746 2,756 1,780 Reserve related to acquired assets ......... 758 -- 751 -------- ------ ------ End of year ................................. $ 34,253 30,482 28,253 ======== ====== ======
NOTE F: PREMISES AND EQUIPMENT Premises and equipment at December 31 consist of the following:
1997 1996 --------- -------- (IN THOUSANDS) Land .................................................... $ 7,530 6,521 Buildings and improvements .............................. 54,573 49,836 Furniture and equipment ................................. 41,899 38,538 -------- ------ Total premises and equipment ........................... 104,002 94,895 Less: accumulated depreciation and amortization ......... 52,123 48,915 -------- ------ Premises and equipment, net ............................. $ 51,879 45,980 ======== ======
NOTE G: SHORT-TERM BORROWINGS Short-term borrowings consist of federal funds and repurchase agreements (which generally mature within one to sixty days of the transaction date), treasury, tax and loan notes (which generally mature within one to thirty days), FHLB advances (which mature within one year), and advances under an unsecured revolving credit facility. The size of the credit facility available at December 31, 1997, is $30.0 million, of which $24.0 million was unused. The facility contains covenants which require the Company to maintain certain levels of capitalization. Information related to short-term borrowings for the two years ended December 31 is provided below:
FEDERAL FUNDS FEDERAL HOME TREASURY REVOLVING AND REPURCHASE LOAN BANK TAX AND LOAN CREDIT AGREEMENTS BORROWINGS NOTES FACILITY -------------- ------------ ------------ --------- (DOLLARS IN THOUSANDS) Balance at December 31 1996 ........................................ $ 188,129 78,200 8,692 -- 1997 ........................................ 167,174 177,658 14,432 6,000 Weighted average interest rate at December 31 1996 ........................................ 5.58% 5.85 5.16 -- 1997 ........................................ 5.41 5.89 5.00 6.31 Maximum amount outstanding at any month end 1996 ........................................ $ 204,332 130,500 13,466 -- 1997 ........................................ 206,275 245,372 14,878 18,000 Average amount outstanding during the year 1996 ........................................ $ 175,196 101,081 6,536 -- 1997 ........................................ 136,924 156,910 8,350 2,200 Weighted average interest rate during the year 1996 ........................................ 5.04% 5.62 5.16 -- 1997 ........................................ 5.00 5.70 4.99 6.36
33 NOTE H: LONG-TERM DEBT Long-term debt (debt with original maturities of more than one year) at December 31 consists of the following: 1997 1996 -------- -------- (IN THOUSANDS) Federal Home Loan Bank borrowings .............. $24,051 54,514 Installment promissory notes and other ......... 6,187 7,875 ------- ------ Total ......................................... $30,238 62,389 ======= ====== The FHLB borrowings bear interest at rates ranging from 5.84% to 7.35%, with maturity dates from 1998 through 2011, and are secured by certain loans and investment securities. The installment promissory notes and other bear interest at rates ranging from 5.68% to 8.53%, paid predominantly in annual installments through 2007. Maturities of long-term debt outstanding at December 31, 1997, were as follows: (IN THOUSANDS) 1998 ........................................... $11,250 1999 ........................................... 11,756 2000 ........................................... 727 2001 ........................................... 1,457 2002 ........................................... 457 Thereafter ..................................... 4,591 ------- Total ......................................... $30,238 ======= NOTE I: DISCLOSURE ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS Most of the Company's assets and liabilities are considered financial instruments as defined in FAS 107. Many of the Company's financial instruments, however, lack an available trading market which is characterized by an exchange transaction of the instrument by a willing buyer and seller. It is also the Company's general practice and intent to hold most of its financial instruments to maturity and not engage in trading activities. Therefore, significant estimations and present value calculations were utilized by the Company for purposes of this disclosure. The use of different market assumptions and/or estimation methodologies may have a material effect on these estimated fair value amounts. 34 The fair value estimates presented herein are based on pertinent information available to the Company as of December 31, 1997 and 1996. Although the Company is not aware of any factors that would significantly affect the estimated fair value amounts, these amounts have not been comprehensively revalued for purposes of these financial statements since December 31, 1997 and, therefore, current estimates of fair value may differ from the amounts presented. As of December 31, carrying amounts and estimated fair values are:
1997 1996 ------------------------- ------------------------ ESTIMATED ESTIMATED CARRYING FAIR CARRYING FAIR AMOUNT VALUE AMOUNT VALUE ---------- --------- -------- --------- (IN THOUSANDS) ASSETS Cash and due from banks ............... $ 135,966 135,966 159,832 159,832 Interest bearing deposits ............. 1,886 1,886 1,778 1,778 Securities held to maturity ........... 271,625 276,910 292,131 295,156 Securities available for sale ......... 720,624 720,624 643,643 643,643 Loans ................................. 1,929,874 1,935,749 1,725,664 1,749,594 LIABILITIES Demand deposits ....................... 1,089,928 1,089,928 1,019,717 1,019,717 Time deposits ......................... 1,352,570 1,359,277 1,263,729 1,266,944 Short-term borrowings ................. 365,264 365,264 275,021 275,021 Long-term debt ........................ 30,238 30,521 62,389 62,826
CASH AND DUE FROM BANKS AND INTEREST BEARING DEPOSITS -- The carrying values for these financial instruments approximates fair value due to the relatively short period of time between the origination of the instruments and their expected realization. SECURITIES -- Fair values of these financial instruments were estimated using quoted market prices, when available. If quoted market prices were not available, fair value was estimated using market prices for similar assets. As required by FAS 115, securities available for sale are carried at fair market value. LOANS -- The fair value of loans (net of unearned discount) is estimated by discounting the future cash flows using the current rates at which similar loans would be made to qualified borrowers and for the same remaining maturities, adjusted by a related portion of the reserve for loan losses. DEPOSITS -- The estimated fair value of deposits with no stated maturity, such as non-interest bearing savings and money-market checking accounts, is the amount payable on demand. The fair value of time deposits is estimated using the rates currently offered for deposits of similar remaining maturities. SHORT-TERM BORROWINGS -- Due to the short term nature of repricing and maturities of these instruments, fair value is considered carrying value. LONG-TERM DEBT -- The majority of the long-term debt reprices monthly, and therefore, fair value is considered carrying value. For fixed rate debt, the fair value is determined by discounting future cash flows at current rates for debt with similar remaining maturities. OFF-BALANCE SHEET FINANCIAL INSTRUMENTS -- The estimated fair value of these instruments, such as loan commitments and standby letters of credit, approximates their off-balance sheet carrying value due to repricing ability and other terms of the contracts. 35 NOTE J: EMPLOYEE BENEFIT PLANS PENSION PLAN -- The Company has a defined benefit pension plan covering substantially all of its employees. The benefits are based on age, years of service and the employee's highest average compensation during 60 consecutive months of the last 120 months of employment. The Company's funding policy is, generally, to contribute annually an amount approximating the Company's annual net pension expense. Contributions are intended to provide for benefits attributed to service to date and for those expected to be earned in the future. The following table sets forth the plan's funded status and amount recognized in the Company's balance sheet at December 31 (based on a valuation date of September 30,):
1997 1996 --------- -------- (IN THOUSANDS) Accumulated benefit obligation, including vested benefits of $16,892 in 1997, and $12,986 in 1996 .......................................... $ 19,150 14,836 Increase due to salary projections ..................................... 6,487 5,067 --------- ------- Projected benefit obligation for service rendered to date .............. 25,637 19,903 Plan assets (marketable securities) at fair value ...................... (27,783) (21,124) --------- ------- Projected benefit obligation less than plan assets ..................... (2,146) (1,221) Unrecognized actuarial gain ............................................ 2,263 2,019 Prior service cost not yet recognized in net periodic expense .......... (597) (612) --------- ------- Accrued pension (benefit) expense ..................................... $ (480) 186 ========= =======
Net periodic pension cost includes the following components:
1997 1996 1995 --------- -------- ------- (IN THOUSANDS) Service cost -- benefits earned during the period ......... $ 1,118 1,145 973 Interest cost on projected benefit obligation ............. 1,715 1,597 1,434 Actual return on plan assets .............................. (5,495) (1,240) (3,645) Net amortization and deferral ............................. 3,783 (297) 2,526 -------- ------ ------ Net pension cost ......................................... $ 1,121 1,205 1,288 ======== ====== ======
The weighted average discount rate and rate of increase in future compensation levels used in determining the actuarial present value of the projected benefit obligation were 7.25% and 4.5%, respectively, at December 31, 1997, and 8.0% and 4.5%, respectively, at December 31, 1996. The expected long-term rate of return on assets in 1997, 1996, and 1995 was 9.0%. OTHER POSTRETIREMENT BENEFITS -- The Company provides certain retiree health care benefits relating primarily to medical insurance co-payments to retired employees between the ages of 55 and 65. In accordance with FAS No. 106, "Employers' Accounting for Postretirement Benefits Other than Pensions," the Company accrues the cost of these benefits during the employees' active service. The following table sets forth the unfunded plan's accumulated postretirement obligation on the Company's balance sheet at December 31 (based on a valuation date of September 30,):
1997 1996 -------- ------- (IN THOUSANDS) Retirees ........................................ $ 475 517 Fully eligible active plan participants ......... 378 280 Other active plan participants. ................. 1,403 1,133 ------ ----- Total .......................................... $2,256 1,930 ====== =====
36 Net periodic postretirement benefit cost includes the following components:
1997 1996 1995 ------- ------ ------ (IN THOUSANDS) Service cost -- benefits earned during the period .................. $ 130 122 106 Interest cost on accumulated postretirement benefit obligation ..... 158 148 130 Net amortization and deferral ...................................... (69) (82) (106) ----- --- ---- Net postretirement benefit cost ................................... $ 219 188 130 ===== === ====
For the 1997 measurements, the assumed annual rate of increase in the per capita cost of covered health care benefits was 8.6% for 1997 and 7.7% for 1998; the rate was assumed to decrease gradually to 5.0% for 2001 and remain at that level thereafter. The health care cost trend assumption has a significant effect on the amounts reported. To illustrate, increasing the assumed health care cost trend rates by 1 percentage point in each year would increase the accumulated post-retirement benefit obligation as of December 31, 1997 by $262,362 and the aggregate of the service cost and interest cost components of net periodic post-retirement benefit cost for the year then ended by $42,778. The weighted average discount rates used in determining the accumulated postretirement benefit obligation at December 31, 1997 and 1996 were 7.25% and 8.0%, respectively. OTHER POSTEMPLOYMENT BENEFITS -- The Company accounts for postemployment benefits in accordance with FAS No. 112, "Employer's Accounting for Postemployment Benefits," adopted in 1994. PROFIT SHARING PLAN -- The profit sharing plan is a defined contribution plan with contributions made by the Company. The profit sharing plan is noncontributory at the employee level, except for the employees' option to contribute under a 401(k) savings plan available as part of the profit sharing plan. Contributions are calculated using a formula based primarily upon the Company's earnings. The expense for 1997 and 1996 was approximately $2,264,000 and $1,757,000, respectively. Contributions to the plan were $1,560,000 in 1995. EMPLOYEE STOCK OWNERSHIP PLAN -- The ESOP is a defined contribution plan covering substantially all employees, with contributions made exclusively by the Company on a discretionary year-by-year basis. The expense for 1997 and 1996 was approximately $250,000 and $350,000, respectively. Contributions to the plan were $350,000 in 1995. NOTE K: OTHER NONINTEREST INCOME Other noninterest income consists of the following: 1997 1996 1995 ------- ------- ------- (IN THOUSANDS) Brokerage commissions ......... $2,935 2,531 1,243 Fees on loans ................. 2,452 2,484 1,726 Other ......................... 1,314 1,291 1,983 ------ ----- ----- Total ....................... $6,701 6,306 4,952 ====== ===== ===== NOTE L: OTHER NONINTEREST EXPENSE Other noninterest expense consists of the following: 1997 1996 1995 --------- -------- -------- (IN THOUSANDS) Printing, postage and office supplies ....... $ 5,189 4,802 4,584 Marketing ................................... 3,609 3,306 3,041 Other real estate owned ..................... 149 56 84 Other ....................................... 12,814 12,193 10,681 ------- ------ ------ Total ..................................... $21,761 20,357 18,390 ======= ====== ====== 37 NOTE M: INCOME TAXES The components of the provision for income taxes are as follows: 1997 1996 1995 --------- -------- -------- (IN THOUSANDS) Current Federal ............................ $12,941 12,290 8,295 State .............................. 3,981 4,051 2,956 Deferred ............................ 279 (1,204) 1,074 ------- ------ ------ Total ............................. $17,201 15,137 12,325 ======= ====== ====== A reconciliation between income tax expense and the amount computed by applying the statutory federal income tax rate is as follows: 1997 1996 1995 ------- ------ ------ (IN THOUSANDS) Tax at statutory rate .............................. $18,291 16,434 13,811 Plus state income tax, net of federal tax benefits . 2,588 2,634 1,922 ------- ------ ------ 20,879 19,068 15,733 Less tax effect of: Interest on state and political subdivision securities ........................... 2,955 3,003 2,980 Other tax-exempt interest ......................... 1,471 1,499 1,553 Amortization ...................................... (260) (249) (93) Minority interest in earnings ..................... (520) (560) (511) Other ............................................. 32 238 (521) ------- ------ ------ 3,678 3,931 3,408 ------- ------ ------ Income tax expense ................................. $17,201 15,137 12,325 ======= ====== ====== The following table sets forth the temporary differences comprising the net deferred taxes included with interest receivable and other assets on the consolidated balance sheet at December 31: 1997 1996 -------- ------- (IN THOUSANDS) Deferred tax assets Provision for loan losses ............................. $13,485 12,113 Employee compensation and benefits accruals ........... 1,562 1,757 Deferred income ....................................... 584 270 Other ................................................. 103 378 ------- ------ Total ................................................ 15,734 14,518 ======= ====== Deferred tax liabilities Deferred expense ...................................... 1,511 1,196 Depreciation .......................................... 3,264 1,630 Unrealized gains on securities available for sale ..... 3,642 888 Other ................................................. 444 396 ------- ------ Total ................................................ 8,861 4,110 ------- ------ Net deferred tax assets ................................ $ 6,873 10,408 ======= ====== 38 NOTE N: COMMITMENTS AND CONTINGENCIES The Company utilizes various off-balance sheet instruments to satisfy the financing needs of customers. These instruments represent contractual obligations of the Company to provide funding, within a specified time period, to a customer. The following represents the outstanding obligations at December 31: 1997 1996 -------- -------- (IN THOUSANDS) Standby letters of credit ........................... $ 23,392 35,863 Loan commitments .................................... 418,101 341,822 Standby letters of credit represent a conditional commitment to satisfy an obligation to a third party, generally to support public and private borrowing arrangements, on behalf of the customer. Loan commitments represent contractual agreements to provide funding to customers over a specified time period as long as there is no violation of any condition of the contract. These loans generally will take the form of operating lines. The Company's potential exposure to credit loss in the event of nonperformance by the other party is represented by the contractual amount of those instruments. The credit risk associated with letters of credit and loan commitments is substantially the same as extending credit in the form of a loan; therefore, the same credit policies apply in evaluating potential letters of credit or loan commitments. The amount of collateral obtained, if deemed necessary upon the extension of credit, is based on management's credit evaluation. Collateral held varies, but includes accounts receivable, inventory, and productive assets. Under a substantially noncancelable contract, the Company is obligated to pay approximately $2 million in annual fees, through February 2004, to its data processing provider. In addition, the Company has a separate contract, with its item processing provider, which covers item processing services to the Company's Subsidiary Banks through March 1999. The costs under this contract are calculated in accordance with a volume-based fee schedule, which is subject to change annually. The Company is routinely involved in legal actions which are incidental to the business of the Company. Although it is difficult to predict the ultimate outcome of these cases, management believes, based on discussions with counsel, that any ultimate liability will not materially affect the consolidated financial position or operations. The Company issued redeemable preferred stock of Dunn County Bankshares, Inc. ("DCBI") in connection with the acquisition of operations in Menomonie, Wisconsin on September 1, 1994. This stock is cumulative, pays dividends of 3.85% annually, and is generally redeemable at par value plus unpaid dividends after the earlier to occur of (i) the death of the holder, or (ii) the lapse of 5 years from the date of issuance. NOTE O: COMMON STOCK The Company has authorized 12,000,000 shares of class A common stock and 10,800,000 shares of class B common stock. The shares of class A common stock have full rights to vote on all matters properly before the Company's shareholders, including the election of the Company's directors. The class B common stock, all of which is held by the Otto Bremer Foundation, is non-voting except with respect to certain extraordinary corporate transactions, upon which the holders would have the right to vote on an equivalent per share basis with the holders of class A common stock. Each share of class B common stock is convertible into one share of class A common stock upon the occurrence of the following events: (i) at the affirmative election of a third party or entity, upon the transfer of class B common stock from the Otto Bremer Foundation to any third party or entity, or (ii) at the affirmative election of the holder of class B common stock, if cash dividends have not been paid on class A and class B common stock with respect to any year in an amount equal to at least 5% of the Company's net book value as of the last day of the immediately preceding year. The Company has reserved 10,800,000 shares of class A common stock in the event of conversion of the class B common stock. 39 At December 31, 1997 and 1996, 960,000 shares of redeemable class A common stock were issued and outstanding. With the exception of shares held in the Company's ESOP, these shares were subject to redemption at a price of $23.24 and $21.18 per share, respectively, which approximated book value. Shares held in the Company's ESOP were redeemed at a price of $31.20 and $26.35 per share, respectively, as determined by an independent appraiser. These shares are owned by employees and Directors of the Company and its subsidiaries and the employee benefit plans of the Company. These holders of class A common stock have the right to require the Company to purchase their shares under certain circumstances. The shares have been classified as redeemable class A common stock subject to redemption at a price, which approximates book value. It is the Company's intent that these 960,000 shares will continue to be held by employees, directors, and employee benefit plans of the Company or its subsidiaries and not be directly repurchased by the Company or the Otto Bremer Foundation. Certain restrictions exist regarding the extent to which banks may transfer funds to the Company in the form of dividends. Federal law prevents the Company and its non-bank subsidiaries from borrowing from the Subsidiary Banks unless the loans are secured by specified U.S. obligations. Further, the secured loans that may be made by Subsidiary Banks are generally limited in amount to 10% of the Subsidiary Bank's equity if made to the Company or any individual affiliate and 20% of the Subsidiary Bank's equity if made to all affiliates and the Company in the aggregate. At December 31, 1997, 1996 and 1995, no Subsidiary Banks had extended credit to the Company. Payment of dividends to the Company by its Subsidiary Banks is subject to various limitations by bank regulators, which includes maintenance of certain minimum capital ratios. As of December 31, 1997, $46,487,000 of retained earnings of the Subsidiary Banks was available for distribution to the Company as dividends subject to these limitations. Approximately $38,654,000 was available for distribution without obtaining the prior approval of the appropriate bank regulator. NOTE P: REGULATORY MATTERS The Company is subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory-and possibly additional discretionary-actions by regulators that, if undertaken, could have a direct material effect on the Company's financial statements. Under capital adequacy guidelines, the Company must meet specific capital guidelines that involve quantitative measures of the Company's assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. The Company's capital amounts and classification are also subject to qualitative judgements by the regulators about components, risk weightings, and other factors. Qualitative measures established by regulation to ensure capital adequacy require the Company to maintain minimum amounts and ratios (set forth in the table below and as defined in the regulations) of total and Tier I capital to risk-weighted assets, and of Tier I capital to average assets. Management believes, as of December 31, 1997, that the Company meets all capital adequacy requirements to which it is subject. 40 The Company's actual capital amounts and ratios are also presented below.
FOR CAPITAL ACTUAL ADEQUACY PURPOSES ---------------------- --------------------- AMOUNT RATIO AMOUNT RATIO --------- ------- -------- ------- AS OF DECEMBER 31, 1997: TOTAL CAPITAL (TO RISK WEIGHTED ASSETS) .......... $295,722 13.94% $169,669 8.00% TIER I CAPITAL (TO RISK WEIGHTED ASSETS) ......... 269,116 12.69 84,834 4.00 TIER I CAPITAL (TO AVERAGE ASSETS) ............... 269,116 8.70 92,839 3.00 As of December 31, 1996: Total Capital (to Risk Weighted Assets) .......... 274,447 14.15 155,213 8.00 Tier I Capital (to Risk Weighted Assets) ......... 250,118 12.89 77,607 4.00 Tier I Capital (to Average Assets) ............... 250,118 8.79 85,410 3.00
The Federal Deposit Insurance Corporation Improvement Act ("FDICIA") required the establishment of a capital-based supervisory system of prompt corrective action for all depository institutions. The Federal Reserve Board's implementation of FDICIA defines "well-capitalized" institutions as those whose Tier I Capital ratio equals or exceeds 6%, total risk-based capital ratio equals or exceeds 10%, and leverage ratio equals or exceeds 5%. The Company's Subsidiary Banks ratios in each of these categories met or exceeded the "well-capitalized" ratios as of December 31, 1997. NOTE Q: BREMER FINANCIAL CORPORATION (PARENT COMPANY ONLY) CONDENSED STATEMENTS: BALANCE SHEETS
DECEMBER 31 --------------------- 1997 1996 -------- -------- (IN THOUSANDS) ASSETS Cash and cash equivalents ............................ $ 10,060 2,048 Marketable securities ................................ -- 22,391 Investment in and advances to: Bank subsidiaries ................................... 244,780 220,929 Non-bank subsidiaries ............................... 33,211 11,432 Other assets ......................................... 2,534 3,482 -------- ------- Total assets ....................................... $290,585 260,282 ======== ======= LIABILITIES AND SHAREHOLDER'S EQUITY Short-term borrowings ................................ $ 6,000 -- Long-term debt ....................................... 4,022 4,446 Accrued expenses and other liabilities ............... 1,714 1,629 Redeemable class A common stock ...................... 22,308 20,337 Shareholder's equity ................................. 256,541 233,870 -------- ------- Total liabilities and shareholder's equity ......... $290,585 260,282 ======== =======
41 NOTE Q: BREMER FINANCIAL CORPORATION (PARENT COMPANY ONLY) CONDENSED STATEMENTS: (CONTINUED) STATEMENTS OF INCOME
YEAR ENDED DECEMBER 31 --------------------------------------- 1997 1996 1995 ---------- --------- -------- (IN THOUSANDS) INCOME Dividends from: Bank subsidiaries ......................................... $ 28,274 19,281 23,357 Non-bank subsidiaries ..................................... 12,850 603 200 Interest from subsidiaries ................................. 863 313 248 Other interest income ...................................... 405 1,363 942 Gain (loss) on sale of securities .......................... 54 200 (13) Other income ............................................... 274 14 14 --------- ------- ------- Total income .............................................. 42,720 21,774 24,748 EXPENSES Interest expense: Short-term borrowings ..................................... 154 -- -- Long-term debt ............................................ 339 373 266 Salaries and benefits ...................................... 1,083 702 621 Operating expense paid to subsidiaries ..................... 1,148 1,190 1,165 Other operating expenses ................................... 679 1,105 546 --------- ------- ------- Total expenses ............................................ 3,403 3,370 2,598 --------- ------- ------- Income before income tax benefit .......................... 39,317 18,404 22,150 Income tax benefit ......................................... 1,181 788 747 --------- ------- ------- Income of parent company only ............................. 40,498 19,192 22,897 Equity in undistributed earnings of subsidiaries ........... (5,438) 12,625 4,239 --------- ------- ------- NET INCOME .................................................. $ 35,060 31,817 27,136 ========= ======= ======= STATEMENTS OF CASH FLOWS YEAR ENDED DECEMBER 31 --------------------------------------- 1997 1996 1995 ---------- --------- -------- (IN THOUSANDS) CASH FLOWS FROM OPERATING ACTITIVIES Net income ................................................. $ 35,060 31,817 27,136 Adjustments to reconcile net income to net cash provided by operating activities Equity in undistributed earnings of subsidiaries ......... 5,438 (12,625) (4,239) (Gain) loss on sale of securities ........................ (54) (200) 13 Securities amortization .................................. 115 470 185 Other, net ............................................... 1,108 (262) (1,080) --------- ------- ------ Net cash provided by operating activities ................ 41,667 19,200 22,015 --------- ------- ------ CASH FLOWS FROM INVESTING ACTIVITIES Investment in and advances to subsidiaries, net ............ (47,104) (7,624) (10,332) Purchases of securities, net ............................... (18,644) (22,746) (28,127) Proceeds from maturities of securities ..................... 23,075 5,303 13,968 Proceeds from sales of securities .......................... 17,842 15,540 9,409 --------- ------- ------- Net cash used by investing activities .................... (24,831) (9,527) (15,082) --------- ------- ------- CASH FLOWS FROM FINANCING ACTIVITIES Short-term borrowings, net ................................. 6,000 -- -- Long-term debt, net ........................................ (424) (424) 4,870 Dividends paid ............................................. (14,400) (12,600) (9,600) --------- ------- ------- Net cash used by financing activities .................... (8,824) (13,024) (4,730) --------- ------- ------- Increase (decrease) in cash and cash equivalents ............ 8,012 (3,351) 2,203 Cash and cash equivalents Beginning of year .......................................... 2,048 5,399 3,196 --------- ------- ------- End of year ................................................ $ 10,060 2,048 5,399 ========= ======= =======
42 INDEPENDENT AUDITORS' REPORT TO THE BOARD OF DIRECTORS AND SHAREHOLDERS OF BREMER FINANCIAL CORPORATION We have audited the accompanying consolidated balance sheets of Bremer Financial Corporation and subsidiaries (the Company), a subsidiary of the Otto Bremer Foundation as of December 31, 1997 and 1996, and the related consolidated statements of income, shareholder's equity and cash flows for each of the three years in the period ended December 31, 1997. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of Bremer Financial Corporation and subsidiaries as of December 31, 1997 and 1996, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1997 in conformity with generally accepted accounting principles. /s/ Deloitte & Touche LLP January 26, 1998 Saint Paul, Minnesota 43 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. No event requiring disclosure pursuant to this Item 9 has occurred during the two years ended December 31, 1997. PART III. Items 10 through 13 of the Form 10-K are omitted because the Company will file before April 30, 1998 a definitive Proxy Statement (the "Proxy Statement") conforming to Schedule 14A involving the election of directors. The information required by Items 10, 11, 12 and 13 of Part III of the Form 10-K are hereby incorporated by reference to such Proxy Statement. PART IV. ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K. (a) The following documents are filed as part of this report: (1) The following financial statements of Bremer Financial Corporation are part of this document under Item 8. Financial Statements and Supplementary Data: Consolidated Balance Sheets -- December 31, 1997 and December 31, 1996 Consolidated Statements of Income -- Years ended December 31, 1997, 1996 and 1995 Consolidated Statements of Shareholder's Equity -- Years ended December 31, 1997, 1996 and 1995 Consolidated Statements of Cash Flows -- Years ended December 31, 1997, 1996 and 1995 Notes to Consolidated Financial Statements Independent Auditors' Report (2) Financial statement schedules are omitted as they are not applicable, not required, or the required information is included in the financial statements or notes thereto. (3) The following exhibits are filed as a part of this report: 10.1 Bremer Financial Corporation 1997 Executive Annual Incentive Compensation Plan for Director, Operations & Technology; Retail Banking Services Director; Chief Information Officer; Chief Financial Officer; Chief Credit Officer; and Human Resources Director. 10.2 Bremer Financial Corporation 1997 Executive Annual Incentive Compensation Plan for Group Presidents. 10.3 Bremer Financial Corporation 1997 Executive Annual Incentive Compensation Plan for Chief Operating Officer. 10.4 Bremer Financial Corporation 1997 Executive Annual Incentive Compensation Plan for President and CEO. 21 Subsidiaries of the Company. 27 Financial Data Schedule. 44 The following exhibits are incorporated by reference to Exhibits 10.1, 10.2, 10.3, 10.4, 10.5, and 10.6, respectively, to the Company's Annual Report on Form 10-K for the year ended December 31, 1996: 10.5 Bremer Financial Corporation 1996 Executive Incentive Compensation Plan for Chief Financial Officer, Chief Credit Officer, and Human Resources Director. 10.6 Bremer Financial Corporation 1996 Executive Incentive Compensation Plan for Group Presidents. 10.7 Bremer Financial Corporation 1996 Executive Incentive Compensation Plan for Chief Operating Officer. 10.8 Bremer Financial Corporation 1996 Executive Incentive Compensation Plan for President and CEO. 10.9 Bremer Financial Corporation 1996 Long-Term Compensation Plan for Group Presidents and Chief Operating Officer. 10.10 Bremer Financial Corporation 1996 Long-Term Incentive Compensation Plan for President and CEO. The following exhibits are incorporated by reference to Exhibits 10.1, 10.2, 10.3, 10.4, and 10.5, respectively, to the Company's Annual Report on Form 10-K for the year ended December 31, 1995: 10.11 Bremer Financial Corporation 1995 Executive Incentive Plan for Group Presidents. 10.12 Bremer Financial Corporation 1995 Executive Incentive Plan for Retail Banking Services Director (Chief Operating Officer). 10.13 Bremer Financial Corporation 1995 Executive Incentive Compensation Plan for President and CEO. 10.14 Bremer Financial Corporation 1995 Long-Term Compensation Plan for Group Presidents and Retail Banking Services Director (Chief Operating Officer). 10.15 Bremer Financial Corporation 1995 Long-Term Incentive Compensation Plan for President and CEO. The following exhibit is incorporated by reference to Exhibit 10.5 to the Company's Annual Report on Form 10-K for the year ended December 31, 1992: 10.16 Resolutions of the Board of Directors of the Company adopted on February 9, 1993 amending the Employment Agreements filed or incorporated by reference as Exhibits 10.19 through 10.22 (inclusive). The following exhibits are incorporated by reference to Exhibits 3.1, 28.7, and 28.8, respectively, to the Company's Annual Report on Form 10-K for the year ended December 31, 1989: 3.1 Bylaws of the Company in effect on the date hereof. 99.1 The portion of the final Prospectus of the Company dated April 20, 1989 ("Prospectus"), which was filed with the SEC on April 20, 1989, entitled "Description of Capital Stock Description of Class A Common Stock -- Restrictions on Transfer." 99.2 The portion of the Prospectus entitled "Description of Capital Stock -- Description of Class A Common Stock -- First Call Option to Company" on page 64 of the Prospectus. 45 The following exhibits are incorporated by reference to Exhibits 3.1, 10.3, 10.4, 10.5, 10.7, 10.12, 10.13, 10.14, 10.15, and 10.16, respectively, to the Company's Registration Statement on Form S-1 filed with the SEC on February 10, 1989: 3.2 Restated Articles of Incorporation of the Company in effect on the date hereof. 10.17 Employment Agreement by and between Bremer Financial Services, Inc. ("BFS") and Terry Cummings dated January 9, 1985 and Amendment thereto dated March 23, 1988. 10.18 Employment Agreement by and between BFS and Duaine Espegard dated January 2, 1986 and Amendments thereto dated October 28, 1987 and March 23, 1988. 10.19 Employment Agreement by and between BFS and Kenneth Nelson dated January 2, 1986 and Amendments thereto dated October 28, 1987 and March 23, 1988. 10.20 Employment Agreement by and between BFS and Gene Sipe dated January 2, 1986 and Amendments thereto dated October 28, 1987 and March 23, 1988. 10.21 Bremer Financial Corporation Employee Stock Ownership Plan and Trust Agreement. 10.22 Bremer Banks Profit Sharing Plus Plan, as amended and restated effective January 1, 1986, and Amendment No. 1 thereto. 10.23 Bremer Banks Profit Sharing Plus Trust Agreement dated October 1, 1986 and Amendment No. 1 thereto. 10.24 Bremer Banks Retirement Plan as effective April 1, 1985. 10.25 Bremer Banks Retirement Plan Trust Agreement (as revised and restated effective January 1, 1976). The following exhibits are incorporated by reference to Exhibits 4.1, 4.2, and 28.1, respectively, to the Company's Amendment No. 1 to Registration Statement on Form S-1 filed with the SEC on March 29, 1989: 4.1 Specimen of Stock Certificate evidencing Class A Common Stock. 4.2 Specimen of Stock Certificate evidencing Class B Common Stock. 99.3 Otto Bremer Foundation Trust Instrument dated May 22, 1944. (b) The Company filed no Current Reports on Form 8-K during the fourth quarter of 1997, which ended December 31, 1997. A copy of this Form 10-K and exhibits herein can be obtained by writing Robert B. Buck, Senior Vice President and Chief Financial Officer, Bremer Financial Corporation, 445 Minnesota Street, Suite 2000, St. Paul, MN 55101. 46 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. March 13, 1998. Bremer Financial Corporation By /s/ STAN K. DARDIS ----------------------------------------- Stan K. Dardis ITS PRESIDENT AND CHIEF EXECUTIVE OFFICER Pursuant to the requirements of the Securities Exchange Act of 1934, this report is signed below by the following persons on behalf of the registrant on March 13, 1998 in the capacities indicated. /s/ STAN K. DARDIS ----------------------------------------- Stan K. Dardis ITS PRESIDENT AND CHIEF EXECUTIVE OFFICER AND DIRECTOR /s/ TERRY M. CUMMINGS ----------------------------------------- Terry M. Cummings CHAIRMAN OF THE BOARD AND DIRECTOR /s/ WILLIAM H. LIPSCHULTZ ----------------------------------------- William H. Lipschultz VICE PRESIDENT AND DIRECTOR /s/ CHARLOTTE S. JOHNSON ----------------------------------------- Charlotte S. Johnson VICE PRESIDENT AND DIRECTOR /s/ SHERMAN WINTHROP ----------------------------------------- Sherman Winthrop DIRECTOR /s/ DANIEL C. REARDON ----------------------------------------- Daniel C. Reardon VICE PRESIDENT AND DIRECTOR /s/ ROBERT B. BUCK ----------------------------------------- Robert B. Buck SENIOR VICE PRESIDENT AND CHIEF FINANCIAL OFFICER (PRINCIPAL FINANCIAL OFFICER) /s/ STUART F. BRADT ----------------------------------------- Stuart F. Bradt CONTROLLER (CHIEF ACCOUNTING OFFICER) 47 (This page was intentionally left blank) 48 INDEX TO EXHIBITS Description of Exhibits Page 10.1 Bremer Financial Corporation 1997 Executive Annual Incentive Compensation Plan for Director, Operations & Technology; Retail Banking Services Director; Chief Information Officer; Chief Financial Officer; Chief Credit Officer; and Human Resources Director. 10.2 Bremer Financial Corporation 1997 Executive Annual Incentive Compensation Plan for Group Presidents. 10.3 Bremer Financial Corporation 1997 Executive Annual Incentive Compensation Plan for Chief Operating Officer. 10.4 Bremer Financial Corporation 1997 Executive Annual Incentive Compensation Plan for President and CEO. 21 Subsidiaries of the Company. 27 Financial Data Schedule. EX-10.1 2 1997 EXECUTIVE ANNUAL INCENTIVE COMPENSATION PLAN EXHIBIT 10.1 BREMER FINANCIAL CORPORATION 1997 EXECUTIVE ANNUAL INCENTIVE COMPENSATION PLAN Director, Operations & Technology Retail Banking Services Director Chief Information Officer Chief Financial Officer Chief Credit Officer Human Resources Director Contained herein is a detailed outline of the Executive Annual Incentive Compensation Plan which has been designed for the Director, Operations & Technology, Retail Banking Services Director, Chief Information Officer, Chief Financial Officer, Chief Credit Officer, and Human Resources Director. A. Purpose 1) To provide an annual incentive award to the Director, Operations & Technology, Retail Banking Services Director, Chief Information Officer, Chief Financial Officer, Chief Credit Officer, and Human Resources Director of Bremer Financial Services, Inc. for the achievement of Bremer Financial Corporation's goals and objectives. 2) To focus attention on those activities which will positively affect the Corporation's financial well-being. B. Eligibility 1) The Director, Operations & Technology, Retail Banking Services Director, Chief Information Officer, Chief Financial Officer, Chief Credit Officer, and Human Resources Director of Bremer Financial Services, Inc. are the participants in this plan. C. Plan Year 1) The Executive Annual Incentive Compensation program will begin on January 1 and will end on December 31. D. Payment of Award 1) At year end, formal reviews will be conducted by the appropriate designated management to determine and measure performance. Upon completion of the measurement of the participants' goals and objectives, awards will be approved. 2) Award payments will be made in the first quarter, following the end of defined incentive plan year. E. Potential Awards 1) The maximum potential award, stated as a percentage of base salary, will be 30%. F. Performance Measures and Determination of Award 1) 70% of the incentive award will be based upon Corporate RORE*. The following table will be utilized to determine the actual percentage of salary to be granted. When performance falls between the RORE percentages shown, interpolation will be utilized to determine the actual percentage of salary to be awarded. Corporate RORE Percentage Award Below 12.70 -0- 12.70 THRESHOLD 7.00% 13.30 2/3 OF MAXIMUM 14.00% 13.71 PLAN 16.38% 14.50 and over MAXIMUM 21.00% 2) Other Measures 30% of the incentive award will be based on work plan objectives. The work plan objectives should be submitted to the President of Bremer Financial Corporation for approval. The maximum percentage award for achieving work plan objectives is 9%. G. Administration 1) The plan shall be subject to the approval of the Board of Directors of Bremer Financial Corporation which shall have sole authority to establish the terms and conditions under which the plan will be administered. 2) The Executive Incentive Compensation Plan and awards are not transferable or assignable. 3) Awards may not be deferred. * Corporate RORE will be calculated by reducing corporate net income by the after-tax effect of 50% of the restructuring charges recorded by the Company in 1994. No adjustments should be made to equity as a result of the restructuring adjustment. H. Administrative Procedures 1) Additions to Plan -- Eligible individuals will be added to the plan at any time upon the approval of the Board of Directors of Bremer Financial Corporation. However, the size of their awards will be prorated by the number of months they were eligible to receive an award. An example would be: - Employee "A" is added to plan in mid-year so s/he has six (6) months of eligible service. - Calculated incentive award is $15,000 - $15,000 X 6/12 = $7,500 2) Terminations -- If the eligible participant terminates during the plan year, the incentive award will be handled as follows: - Voluntary resignations -- no incentive award. - Involuntary terminations for cause -- no incentive award. - Involuntary termination without cause -- incentive award prorated by number of months service during current incentive plan year, based on approval by President of BFC. - Retirement/disability -- incentive award prorated by number of months of service during current incentive plan year. 3) Change in Position -- If the eligible participant has a change in position during a plan year, their incentive award will be calculated under both plan award levels and prorated by the months of service at each level. 4) Interpolation -- When actual performance falls between cells on the appropriate element, the individual completing the formula should interpolate to the actual percentage to be awarded. 5) Performance -- If a participant's performance rating for the plan year is less than fully competent and/or certain performance goals are not met, the President of Bremer Financial Corporation has the authority to reduce partially or totally the incentive payout that would normally be due the participant. 6) Exceptions -- Upon occasion, there may be specific reasons for exceptions to the incentive compensation program for events beyond the control of the participant in the plan. The President of Bremer Financial Corporation has the authority to determine and approve all such exceptions. I. Amendment and termination 1) The Board of Directors of Bremer Financial Corporation may at any time amend the plan for the purposes of satisfying the requirements of any changes in applicable laws or for any purpose which may be permitted by law. The Board of Directors of Bremer Financial Corporation may also terminate the plan at any time. No such amendment or termination shall, however, adversely affect the rights of any participant (without his/her prior consent) to any award previously approved. - ----------------------------------- ----------------------------------- NAME TITLE CALCULATION OF EXECUTIVE INCENTIVE AWARD Plan Year 1997 Percentage of Salary To Be Awarded F-1 - Corporate RORE Corporate RORE % % (70% of total award) -------- --------- Work Plan Objectives Achievement % Level (30% of total award) -------- --------- Attach a description of work plan objectives and how they will be measured. Total Award Earned as % of Salary % -------- X 1997 Salary $ -------- = 1997 INCENTIVE AWARD $ -------- Approved: - ------------------------ ----------------------------- DATE - ------------------------ ----------------------------- DATE EX-10.2 3 1997 EXECUTIVE ANNUAL INCENTIVE COMPENSATION PLAN EXHIBIT 10.2 BREMER FINANCIAL CORPORATION 1997 EXECUTIVE ANNUAL INCENTIVE COMPENSATION PLAN Group Presidents Contained herein is a detailed outline of the Executive Annual Incentive Compensation Plan which has been designed for Bremer Group Presidents. A. Purpose 1) To provide an annual incentive award to Group Presidents who contribute significantly toward the achievement of Bremer Financial Corporation's goals and objectives. 2) To focus attention on those activities which will positively affect the Corporation's financial well-being. B. Eligibility 1) Participants will be Group Presidents. C. Plan Year 1) The Executive Annual Incentive Compensation program will begin on January 1 and will end on December 31. D. Payment of Award 1) At year end, formal reviews will be conducted by the appropriate designated management to determine and measure performance. Upon completion of the measurement of the participant's goals and objectives, award payments will be recommended and approved. 2) Award payments will be made in the first quarter, following the end of defined incentive plan year. E. Potential Awards 1) The maximum potential award, stated as a percentage of base salary, will be 40%. F. Performance Measures and Determination of Award 1) Corporate RORE 70% of the incentive award will be based upon Corporate RORE*. The following table will be utilized to determine the actual percentage of salary to be granted. When performance falls between the RORE percentages shown, interpolation will be utilized to determine the actual percentage of salary to be awarded. Corporate RORE Percentage Award Below 12.70 0% 12.70 THRESHOLD 9.33% 13.30 2/3 OF MAXIMUM 18.67% 13.71 PLAN 21.91% 14.5 and over MAXIMUM 28.00% 2) Other Measures 30% of the incentive award will be based on achievement of work plan objectives. The work plan objectives should be submitted to the President of Bremer Financial Corporation for approval. The maximum percentage award for achieving work plan objectives is 12.0%. G. Administration 1) The plan shall be subject to the approval of the Board of Directors of Bremer Financial Corporation which shall have sole authority to establish the terms and conditions under which the plan will be administered. 2) The Executive Incentive Compensation Plan and awards are not transferable or assignable. 3) Award may be deferred. * Corporate RORE will be calculated by reducing corporate net income by the after-tax effect of 50% of the restructuring charges recorded by the Company in 1994. No adjustments should be made to equity as a result of the restructuring adjustment. H. Administrative Procedures 1) Additions to Plan -- Eligible individuals will be added to the plan at any time upon the approval of the Board of Directors of Bremer Financial Corporation. Criteria for award is subject to approval by the President of BFC. However, the size of their awards will be prorated by the number of months they were eligible to receive an award. An example would be: - Employee "A" is added to plan in mid-year so s/he has six (6) months of eligible service. - Calculated incentive award is $15,000 - $15,000 X 6/12 = $7,500 2) Terminations -- Eligible employees who terminate during the plan year will be handled as follows: - Voluntary resignations -- no incentive award. - Involuntary terminations for cause -- no incentive award. - Involuntary termination without cause -- incentive award prorated by number of month service during current incentive plan year, based on approval by President of BFC. - Retirement/disability -- incentive award prorated by number of months of service during current incentive plan year. 3) Change in Position -- Eligible employees who have a change in position during a plan year will have their incentive award calculated under both plan award levels and prorated by the months of service at each level. 4) Interpolation -- When actual performance falls between cells on the appropriate element, the individual completing the formula should interpolate to the actual percentage to be awarded. 5) Performance -- If a participant's performance rating for the plan year is less than fully competent and/or certain performance goals are not met, the President of Bremer Financial Corporation has the authority to reduce partially or totally the incentive payout that would normally be due the participant. 6) Exceptions -- Upon occasion, there may be specific reasons for exceptions to the incentive compensation program for events beyond the control of the participant in the plan. The President of Bremer Financial Corporation has the authority to determine and approve all such exceptions. I. Amendment and termination 1) The Board of Bremer Financial Corporation may at any time amend the plan for the purposes of satisfying the requirements of any changes in applicable laws or for any purpose which may be permitted by law. The Board of Bremer Financial Corporation may also terminate the plan at any time. No such amendment or termination shall, however, adversely affect the rights of any participant (without his/her prior consent) to any award previously approved. - ----------------------------------- ----------------------------------- NAME GROUP CALCULATION OF GROUP PRESIDENT INCENTIVE AWARD Plan Year 1997 Percentage of Salary To Be Awarded F-1 - Corporate RORE Corporate RORE % % (70% of total award) -------- --------- Work Plan Objectives Achievement % Level (30% of total award) -------- --------- Attach a description of work plan objectives and how they will be measured. Total Award Earned as % of Salary % -------- X 1997 Salary $ -------- = 1997 INCENTIVE AWARD $ -------- Approved: - ------------------------ ----------------------------- DATE - ------------------------ ----------------------------- DATE EX-10.3 4 1997 EXECUTIVE ANNUAL INCENTIVE COMPENSATION PLAN EXHIBIT 10.3 BREMER FINANCIAL CORPORATION 1997 EXECUTIVE ANNUAL INCENTIVE COMPENSATION PLAN Chief Operating Officer Contained herein is a detailed outline of the Executive Annual Incentive Compensation Plan which has been designed for the Chief Operating Officer. A. Purpose 1) To provide an annual incentive award to the Chief Operating Officer for the achievement of Bremer Financial Corporation's goals and objectives. 2) To focus attention on those activities which will positively affect the Corporation's financial well-being. B. Eligibility 1) The Chief Operating Officer of Bremer Financial Corporation is the participant in this plan. C. Plan Year 1) The Executive Annual Incentive Compensation program will begin on January 1 and will end on December 31. D. Payment of Award 1) At year end, formal reviews will be conducted by the President of Bremer Financial Corporation to determine and measure performance. Upon completion of the measurement of the participant's goals and objectives, an award will be approved. 2) Award payments will be made in the first quarter, following the end of defined incentive plan year. E. Potential Awards 1) The maximum potential award, stated as a percentage of base salary, will be 50%. F. Performance Measures and Determination of Award 1) 100% of the incentive award will be based upon Corporate RORE*. The following table will be utilized to determine the actual percentage of salary to be granted. When performance falls between the RORE percentages shown, interpolation will be utilized to determine the actual percentage of salary to be awarded. Corporate RORE Percentage Award Below 12.70 0% 12.70 THRESHOLD 16.67% 13.30 2/3 OF MAXIMUM 33.34% 13.71 PLAN 39.13% 14.50 and over MAXIMUM 50.0% G. Administration 1) The plan shall be subject to the approval of the Board of Directors of Bremer Financial Corporation which shall have sole authority to establish the terms and conditions under which the plan will be administered. 2) The Executive Incentive Compensation Plan and awards are not transferable or assignable. 3) Award may be deferred. H. Administrative Procedures 1) Addition to Plan -- Eligible individuals will be added to the plan at any time upon the approval of the Board of Directors of Bremer Financial Corporation. However, the size of their awards will be prorated by the number of months they were eligible to receive an award. An example would be: - Employee "A" is added to plan in mid-year so s/he has six (6) months of eligible service. - Calculated incentive award is $15,000 - $15,000 X 6/12 = $7,500 * Corporate RORE will be calculated by reducing corporate net income by the after-tax effect of 50% of the restructuring charges recorded by the Company in 1994. No adjustments should be made to equity as a result of the restructuring adjustment. 2) Terminations -- Eligible employees who terminate during the plan year will be handled as follows: - Voluntary resignations -- no incentive award. - Involuntary terminations for cause -- no incentive award. - Involuntary termination without cause -- incentive award prorated by number of months service during current incentive plan year, based on approval by President of BFC. - Retirement/disability -- incentive award prorated by number of months of service during current incentive plan year. 3) Change in Position -- Eligible employees who have a change in position during a plan year will have their incentive award calculated under both plan award levels and prorated by the months of service at each level. 4) Interpolation -- When actual performance falls between cells on the appropriate element, the individual completing the formula should interpolate to the actual percentage to be awarded. 5) Performance -- If a participant's performance rating for the plan year is less than fully competent and/or certain performance goals are not met, the President of Bremer Financial Corporation has the authority to reduce partially or totally the incentive payout that would normally be due the participant. 6) Exceptions -- Upon occasion, there may be specific reasons for exceptions to the incentive compensation program for events beyond the control of the participant in the plan. The President of Bremer Financial Corporation has the authority to determine and approve all such exceptions. I. Amendment and termination 1) The Board of Directors of Bremer Financial Corporation may at any time amend the plan for the purposes of satisfying the requirements of any changes in applicable laws or for any purpose which may be permitted by law. The Board of Bremer Financial Corporation may also terminate the plan at any time. No such amendment or termination shall, however, adversely affect the rights of any participant (without his/her prior consent) to any award previously approved. - ----------------------------------- ----------------------------------- NAME TITLE CALCULATION OF EXECUTIVE INCENTIVE AWARD Plan Year 1997 Percentage of Salary To Be Awarded F-1 - Corporate RORE Corporate RORE % % -------- --------- Total Award Earned as % of Salary % -------- X 1997 Salary $ -------- = 1997 INCENTIVE AWARD $ -------- Approved: - ----------------------- --------------------------------------- DATE President, Bremer Financial Corporation EX-10.4 5 1997 EXECUTIVE ANNUAL INCENTIVE COMPENSATION PLAN EXHIBIT 10.4 BREMER FINANCIAL CORPORATION 1997 EXECUTIVE ANNUAL INCENTIVE COMPENSATION PLAN President and CEO of Bremer Financial Corporation Contained herein is a detailed outline of the Executive Annual Incentive Compensation Plan which has been designed for the President and CEO of Bremer Financial Corporation. A. Purpose 1) To provide an annual incentive award to the President of Bremer Financial Corporation for the achievement of Bremer Financial Corporation's goals and objectives. 2) To focus attention on those activities which will positively affect the Corporation's financial well-being. B. Eligibility 1) The President and CEO of Bremer Financial Corporation is the participant in this plan. C. Plan Year 1) The Executive Annual Incentive Compensation program will begin on January 1 and will end on December 31. D. Payment of Award 1) At year end, formal reviews will be conducted by the Board of Directors of Bremer Financial Corporation to determine and measure performance. Upon completion of the measurement of the participant's goals and objectives, an award will be approved. 2) Award payments will be made in the first quarter, following the end of defined incentive plan year. E. Potential Awards 1) The maximum potential award, stated as a percentage of base salary, will be 60%. F. Performance Measures and Determination of Award 1) 100% of the incentive award will be based upon Corporate RORE*. The following table will be utilized to determine the actual percentage of salary to be granted. When performance falls between the RORE percentages shown, interpolation will be utilized to determine the actual percentage of salary to be awarded. Corporate RORE Percentage Award Below 12.70 0.00% 12.70 THRESHOLD 20.00% 13.30 2/3 OF MAXIMUM 40.00% 13.71 PLAN 46.94% 14.50 and over MAXIMUM 60.00% G. Administration 1) The plan shall be subject to the approval of the Board of Directors of Bremer Financial Corporation which shall have sole authority to establish the terms and conditions under which the plan will be administered. 2) The Executive Incentive Compensation Plan and awards are not transferable or assignable. 3) Award may be deferred. H. Administrative Procedures 1) Additions to Plan -- Eligible individuals will be added to the plan at any time upon the approval of the Board of Directors of Bremer Financial Corporation. However, the size of their awards will be prorated by the number of months they were eligible to receive an award. An example would be: - Employee "A" is added to plan in mid-year so s/he has six (6) months of eligible service. - Calculated incentive award is $15,000 - $15,000 X 6/12 = $7,500 * Corporate RORE will be calculated by reducing corporate net income by the after-tax effect of 50% of the restructuring charges recorded by the Company in 1994. No adjustments should be made to equity as a result of the restructuring adjustment. 2) Terminations -- If the eligible participant terminates during the plan year, the incentive award will be handled as follows: - Voluntary resignations -- no incentive award. - Involuntary terminations for cause -- no incentive award. - Involuntary termination without cause -- incentive award prorated by number of months service during current incentive plan year, based on approval of Board of Directors of BFC. - Retirement/disability -- incentive award prorated by number of months of service during current incentive plan year. 3) Change in Position -- If the eligible participant has a change in position during a plan year, the incentive award will be calculated under both plan award levels and prorated by the months of service at each level. 4) Interpolation -- When actual performance falls between cells on the appropriate element, the individual completing the formula should interpolate to the actual percentage to be awarded. 5) Performance -- If a participant's performance rating for the plan year is less than fully competent, the Board of Directors of Bremer Financial Corporation has the authority to reduce partially or totally the incentive payout that would normally be due the participant. 6) Exceptions -- Upon occasion, there may be specific reasons for exceptions to the incentive compensation program for events beyond the control of the participant in the plan. The Board of Directors of Bremer Financial Corporation has the authority to determine and approve all such exceptions. I. Amendment and termination 1) The Board of Directors of Bremer Financial Corporation may at any time amend the plan for the purposes of satisfying the requirements of any changes in applicable laws or for any purpose which may be permitted by law. The Board of Directors of Bremer Financial Corporation may also terminate the plan at any time. No such amendment or termination shall, however, adversely affect the rights of any participant (without his/her prior consent) to any award previously approved. - ----------------------------------------- NAME CALCULATION OF PRESIDENT OF BFC INCENTIVE AWARD Plan Year 1997 Percentage of Salary To Be Awarded F-1 - Corporate RORE Corporate RORE % % -------- --------- Total Award Earned as % of Salary % (F-1) --------- X 1997 Salary $ --------- = 1997 INCENTIVE AWARD $ --------- Approved: - ------------------- -------------------------------------------------- DATE Board of Directors of Bremer Financial Corporation EX-21 6 SUBSIDIARIES OF BREMER FINANCIAL CORPORATION EXHIBIT 21 Subsidiaries of Bremer Financial Corporation Name of Subsidiaries and State or Other Jurisdiction of Incorporation as of March 13, 1998: State of Minnesota: Bremer Business Finance Corporation Bremer Financial Services, Inc. First American Insurance Agencies, Inc. First American Services, Inc. First American Trust, National Association State of Wisconsin: Dunn County Bankshares, Inc., parent of First American Bank, National Association (Menomonie, WI) Premium Finance Corporation State of Arizona: Bremer First American Life Insurance Company United States (National Bank Act): First American Bank, National Association (Alexandria, MN) First American Bank, National Association (Brainerd, MN) First American Bank, National Association (Breckenridge, MN) First American Bank, National Association (Crookston, MN) First American Bank, National Association (Detroit Lakes, MN) First American Bank, National Association (Grand Forks, ND) First American Bank, National Association (International Falls, MN) First American Bank, National Association (Marshall, MN) First American Bank, National Association (Menomonie, WI) First American Bank, National Association (Minot, ND) First American Bank, National Association (Moorhead, MN) First American Bank, National Association (St. Cloud, MN) First American Bank, National Association (South Saint Paul, MN) First American Bank, National Association (Willmar, MN) EX-27 7 FINANCIAL DATA SCHEDULE
9 0000846616 BREMER FINANCIAL CORPORATION 1,000 YEAR DEC-31-1997 JAN-01-1997 DEC-31-1997 135,966 1,886 0 0 720,624 271,625 276,910 1,964,127 34,253 3,173,701 2,442,498 365,264 44,697 30,238 2,144 0 24,927 263,933 3,173,701 165,958 60,641 131 226,550 90,410 109,969 116,581 4,746 (125) 98,255 52,261 35,060 0 0 35,060 2.92 2.92 4.16 8,958 3,573 910 115,030 30,482 2,759 1,026 34,253 28,433 0 5,820
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