-----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, BaF76Md/I3EyyGnX8nbrl8d1spg94xYFt6NdSicB+TXMnUhlKCQOwQrNzN2IEUt0 Njb+W+0cHLdSz/LizkIU0g== 0000893220-98-001900.txt : 19981230 0000893220-98-001900.hdr.sgml : 19981230 ACCESSION NUMBER: 0000893220-98-001900 CONFORMED SUBMISSION TYPE: 10-K405 PUBLIC DOCUMENT COUNT: 4 CONFORMED PERIOD OF REPORT: 19980930 FILED AS OF DATE: 19981229 FILER: COMPANY DATA: COMPANY CONFORMED NAME: FIRST KEYSTONE FINANCIAL INC CENTRAL INDEX KEY: 0000856751 STANDARD INDUSTRIAL CLASSIFICATION: SAVINGS INSTITUTION, FEDERALLY CHARTERED [6035] IRS NUMBER: 232576479 STATE OF INCORPORATION: PA FISCAL YEAR END: 0930 FILING VALUES: FORM TYPE: 10-K405 SEC ACT: SEC FILE NUMBER: 000-25328 FILM NUMBER: 98776661 BUSINESS ADDRESS: STREET 1: 22 WEST STATE ST CITY: MEDIA STATE: PA ZIP: 19063 BUSINESS PHONE: 6105656210 10-K405 1 FIRST KEYSTONE FINANCIAL, INC. FORM 10-K405 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 YEAR ENDED SEPTEMBER 30, 1998 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission File Number: 0-25328 FIRST KEYSTONE FINANCIAL, INC. (Exact name of registrant as specified in its charter) Pennsylvania 23-0469351 (State or other jurisdiction (I.R.S. Employer of incorporation or organization) Identification Number) 22 West State Street Media, Pennsylvania 19063 (Address of principal executive office) (Zip Code) Registrant's telephone number, including area code: (610) 565-6210 Securities registered pursuant to Section 12(b) of the Act: NOT APPLICABLE Securities registered pursuant to Section 12(g) of the Act: COMMON STOCK (PAR VALUE $.01 PER SHARE) Indicate by check mark whether the Registrant (1) has filed all reports required 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. X As of December 15, 1998 the aggregate value of the 1,784,090 shares of Common Stock of the Registrant issued and outstanding on such date, which excludes 485,126 shares held by all directors and officers of the Registrant as a group, was approximately $26.3 million. This figure is based on the last known trade price of $14.75 per share of the Registrant's Common stock on December 15, 1998. Number of shares of Common Stock outstanding as of December 15, 1998: 2,269,216 DOCUMENTS INCORPORATED BY REFERENCE List hereunder the following documents incorporated by reference and the Part of the Form 10-K into which the document is incorporated: (1) Portions of the Annual Report to Stockholders for the fiscal year ended September 30, 1998 are incorporated into Parts II and III. (2) Portions of the definitive proxy statement for the Annual Meeting of Stockholders are incorporated into Part III. 2 PART I. Item 1. BUSINESS GENERAL First Keystone Financial, Inc. (the "Company") is a Pennsylvania corporation and sole shareholder of First Keystone Federal Savings Bank (the "Bank") which converted to the stock form of organization in January 1995. The only significant assets of the Company are the capital stock of the Bank, the Company's loans to its employee stock ownership plan, and various equity and other investments. See Note 20 of the Notes to Consolidated Financial Statements in the Annual Report to stockholders for the year ended September 30, 1998 setforth as Exhibit 13 hereto ("Annual Report"). The business of the Company primarily consists of the business of the Bank. The Bank is a traditional, community oriented federal savings bank emphasizing customer service and convenience. The Bank's primary business is to attract deposits from the general public and investing those funds together with other available sources of funds, such as borrowings, to originate loans. A substantial portion of the Bank's deposits are comprised of core deposits which amounted to $90.5 million or 36.6% of the Bank's total deposits at September 30, 1998. The Bank's primary lending emphasis has been, and continues to be, loans secured by first and second liens on single-family (one-to-four units) residences located in Delaware and Chester Counties, Pennsylvania and to a lesser degree, Montgomery County, Pennsylvania and New Castle County, Delaware. The Bank originates single-family residences secured by first mortgages with respect to non-conforming jumbo loans and loans to credit impaired borrowers for sale in the secondary market. The Bank also originates, due to their shorter terms, adjustable or variable interest rates, higher yields, and as a result of the Bank's analysis that the markets have become more stable, loans secured by commercial real estate properties as well as residential construction loans located in the Bank's market area. The Bank originates mortgage loans for resale into the secondary market while retaining for its portfolio adjustable-rate mortgage loans and fixed-rate loans that complement the Bank's asset/liability strategies. The Bank also originates and sells, servicing released, certain non-conforming loans. Although the Bank has not purchased either whole loans or loan participation interests in the past, depending on market conditions and portfolio needs, the Bank may consider purchasing loans and participation interests in the future. The Bank's originations of commercial real estate and multi-family residential loans has continued to increase as a direct result of the Bank's emphasis on developing business loan products. Commercial real estate and multi-family residential loans amounted to $20.6 million or 9.9% of the total loan portfolio at September 30, 1998 as compared to $18.3 million or 9.3% at September 30, 1997. To a lesser extent, the Bank also originates consumer loans (consisting almost entirely of home equity loans and lines of credit), loans secured by commercial real estate and multi-family (over four units) residential properties, construction and land loans, commercial business and other mortgage loans. In addition to its deposit gathering and lending activities, the Bank invests in mortgage-related securities, substantially all of which are issued or guaranteed by U.S. Government agencies and government sponsored enterprises, as well as U.S. Treasury and federal government agency obligations and municipal obligations. At September 30, 1998, the Bank's mortgage-related securities (including mortgage-related securities available for sale) amounted to $135.3 million, or 32.3% of the Company's total assets, and investment securities (including investment securities available for sale) amounted to $40.6 million, or 9.8% of total assets. 3 MARKET AREA The Bank's primary market area consists of Delaware and Southern Chester Counties and to a lesser extent the contiguous counties of Montgomery and Northern Chester Counties, Pennsylvania and New Castle County, Delaware. Delaware County is part of the Philadelphia Primary Metropolitan Statistical Area ("PMSA") which includes besides Delaware County, Bucks, Chester, Montgomery and Philadelphia Counties (as well as four counties in New Jersey). The Philadelphia area economy is typical of many large northeast and midwest cities where the traditional manufacturing based economy has declined to a certain degree and has been replaced with service sector and specialty area growth. As a result of such growth, the Philadelphia PMSA's economic diversity has broadened and employment in the area is derived from a number of different employment sectors. In particular, Delaware County has experienced the development of companies providing products and services for the health care market such as Crozer/Keystone Health System, Wyeth-Ayerst Labs, Inc. and Mercy Health Corp. Philadelphia's central location in the northeast corridor, its well-educated and skilled population base, infrastructure and other factors has made the Bank's market area attractive to many large corporate employers. Such employers include Comcast Corp., Boeing, State Farm Insurance, Unisys Corp.,, ARCO Chemical Company, PECO Energy, SAP America, Inc., and many others. There are over seventy-five Fortune 1,000 companies maintaining a presence here and approximately twenty Fortune 500 companies headquartered in the region surrounding the Philadelphia PMSA including CIGNA Corp., E.I. duPont de Nemours, Bethlehem Steel, Ikon Office Solutions, Sun Company, Crown Cork & Seal and others. Delaware County has experienced slower population growth than the Philadelphia PMSA, although the growth rates in the outlying areas of Delaware County have been growing at a rate above that of the Philadelphia PMSA. Since 1990, there has been no population growth in Delaware County and it is expected to increase by less than 1 percent over the next 20 years. Chester County, on the other hand, has grown over 11 percent since 1990 and expected to increase further through the millennium. By comparison, median household income in Delaware County and Chester County is approximately $40,500 and $48,000, respectively, both of which are near or over the Philadelphia PMSA median of approximately $41,000 (1996 estimates). Likewise, median home values in Delaware and Chester Counties were approximately $113,200 and $155,900, respectively, as compared to approximately $112,000 for the Philadelphia PMSA in 1990. Unemployment rates in Delaware County have been below those experienced by the Philadelphia PMSA but higher than some of the other counties comprising the PMSA. The average annual unemployment rate (not seasonally adjusted) for 1998 through October was 4.0% in Delaware County and 2.8% in Chester County as compared to 4.4% for the Philadelphia PMSA. 2 4 Lending Activities Loan Portfolio Composition. The following table sets forth the composition of the Bank's loan portfolio by type of loan at the dates indicated (excluding loans held for sale).
September 30, ---------------------------------------------------------------------------------------- 1998 1997 1996 1995 1994 --------------- --------------- -------------- -------------- --------------- Amount % Amount % Amount % Amount % Amount % ------ ----- ------ ---- ------ ---- ------ ---- ------ ------ (Dollars in thousands) Real estate loans: Single-family $148,088 71.34% $135,168 68.53% $122,270 68.68% $115,225 69.01% $105,728 69.77% Multi-family and commercial 20,563 9.91 18,305 9.28 11,129 6.25 11,789 7.06 12,700 8.38 Construction and land 15,858 7.64 16,400 8.31 17,682 9.93 16,343 9.79 13,805 9.11 ======= ====== ======= ====== ======= ====== ======= ==== ======= ===== Total real estate loans 184,509 88.89 169,873 86.12 151,081 84.86 143,357 85.86 132,233 87.26 ------- ------ ------- ------ ------- ------ ------- ------ ------- ----- Consumer: Home equity loans and lines of credit 19,609 9.45 22,964 11.64 20,444 11.48 18,229 10.92 15,603 10.30 Deposit 181 .09 348 .18 457 .26 350 .21 374 .25 Education 449 .21 365 .19 917 .52 1,010 .60 697 .46 Other (1) 1,429 .69 1,690 .86 2,212 1.24 1,491 .89 332 .22 ------- ------ ------- ------ ------- ------ ------- ------ ------- ----- Total consumer loans 21,668 10.44 25,367 12.87 24,030 13.50 21,080 12.62 17,006 11.23 ------- ------ ------- ------ ------- ------ ------- ------ ------- ----- Commercial business loans 1,390 .67 2,000 1.01 2,923 1.64 2,533 1.52 2,288 1.51 ------- ------ ------- ------ ------- ------ ------- ------ ------- ------ Total loans receivable (2) 207,567 100.00% 197,240 100.00% 178,034 100.00% 166,970 100.00% 151,527 100.00% ------- ====== ------- ====== ------- ====== ------- ====== ------- ====== Less: Loans in process (construction and land) 5,781 5,670 6,368 6,070 6,698 Deferred loan origination fees and discounts 1,705 1,653 1,512 1,411 1,063 Allowance for loan losses 1,738 1,628 2,624 1,487 1,540 ------- ------- ------- ------- ------- 9,224 8,951 10,504 8,968 9,301 -------- ------- ------- ------- ------- Total loans receivable, net $198,343 $188,289 $167,530 $158,002 $142,226 ======= ======= ======= ======= =======
- ----------------------------- (1) Consists primarily of purchased consumer lease receivables. (2) Does not include $2.8 million, $4.6 million, $2.4 million, $57,000, and $168,000 of loans held for sale at September 30, 1998, 1997, 1996, 1995 and 1994, respectively. 3 5 Contractual Principal Repayments. The following table sets forth the scheduled contractual maturities of the Bank's loans held to maturity at September 30, 1998. Demand loans, loans having no stated schedule of repayments and no stated maturity and overdraft loans are reported as due in one year or less. The amounts shown for each period do not take into account loan prepayments and normal amortization of the Bank's loan portfolio held to maturity.
Real Estate Loans ------------------------------------------------------ Multi-family Consumer and and Construction Commercial Single-family Commercial and Land Total Business Loans Total ------------- ----------- ------------ --------- -------------- ------- (In thousands) Amounts due in: One year or less $ 7,461 $ 1,161 $15,858 $ 24,480 $ 6,469 $ 30,949 After one year through three years 10,814 2,642 13,456 5,602 19,058 After three years through five years 9,563 3,136 12,699 3,456 16,155 After five years through ten years 20,537 10,651 31,188 5,214 36,402 After ten years through twenty years 57,674 2,973 60,647 2,317 62,964 Over twenty years 42,039 42,039 42,039 ------- --------- ------- --------- ------- -------- Total(1) $148,088 $ 20,563 $15,858 $ 184,509 $23,058 $207,567 ======= ---====== -====== --======= -====== -======= Interest rate terms on amounts due after one year: Fixed $ 121,562 $15,697 $137,259 Adjustable 38,467 892 39,359 --------- ------- -------- Total(1) $ 160,029 $16,589 $176,618 --======= -====== -=======
- ----------------------------- (1) Does not include adjustments relating to loans in process, allowances for loan losses and deferred fee income. 4 6 Scheduled contractual amortization of loans does not reflect the expected term of the Bank's loan portfolio. The average life of loans is substantially less than their contractual terms because of prepayments and due-on-sale clauses, which give the Bank the right to declare a conventional loan immediately due and payable in the event, among other things, that the borrower sells the real property subject to the mortgage and the loan is not repaid. The average life of mortgage loans tends to increase when current mortgage loan rates are higher than rates on existing mortgage loans and, conversely, decrease when rates on existing mortgage loans are lower than current mortgage loan rates (due to refinancings of adjustable-rate and fixed-rate loans at lower rates). Under the latter circumstances, the weighted average yield on loans decreases as higher yielding loans are repaid or refinanced at lower rates. Loan Origination, Purchase and Sales Activity. The following table shows the loan origination, purchase and sale activity of the Bank during the periods indicated.
Year Ended September 30, ------------------------------------------------- 1998 1997 1996 ---- ---- ---- (In thousands) Gross loans at beginning of period(1) $201,817 $180,491 $167,027 ------- ------- ------- Loan originations for investment: Real estate: Residential 39,226 18,016 23,766 Commercial and multi-family 3,578 8,458 399 Construction 14,662 16,298 15,875 ------- ------- ------- Total real estate loans originated for investment 57,466 42,772 40,040 Consumer 4,819 8,859 9,738 Commercial business 4,231 2,755 875 -------- -------- ------- Total loans originated for investment 66,516 54,386 50,653 Loans originated for resale 56,398 37,209 30,239 ------- ------- ------- Total originations 122,914 91,595 80,892 ------- ------- ------- Deduct: Principal loan repayments and prepayments (55,982) (34,779) (37,821) Transferred to real estate owned (207) (411) (1,768) Loans sold in secondary market (58,176) (35,079) (27,839) ------- ------- ------- Subtotal 114,365 70,269 (67,438) -------- ------- ------- Net increase in loans(1) 8,549 21,326 13,454 ------- ------- ------- Gross loans at end of period(1) $210,366 $201,817 $180,481 ======= ======= =======
- ------------------------------ (1) Includes loans held for sale of $2.8 million, $4.6 million, and $2.4 million at September 30, 1998, 1997 and 1996, respectively. 5 7 The lending activities of the Bank are subject to written underwriting standards and loan origination procedures established by the Bank's Board of Directors and management. Applications for all types of loans are taken at all of the Bank's branch offices by the branch manager or other designated loan officers. Applications for single-family residential mortgage loans for portfolio retention also are obtained through loan originators who are employees of the Bank. The Bank's loan originators will take loan applications outside of the Bank's offices at the customer's convenience and are compensated on a commission basis. The Mortgage Lending Department supervises the process of obtaining credit reports, appraisals and other documentation involved with a loan. The Bank generally requires that a property appraisal be obtained in connection with all new mortgage loans. Property appraisals generally are performed by an independent appraiser from a list approved by the Bank's Board of Directors. The Bank requires that title insurance (other than with respect to home equity loans) and hazard insurance be maintained on all security properties and that flood insurance be maintained if the property is within a designated flood plain. Residential mortgage loan applications are primarily developed from referrals from real estate brokers and builders, existing customers and walk-in customers. Residential mortgage loans also are originated through correspondents. Commercial and multi-family real estate loan applications are obtained primarily from previous borrowers, direct solicitations by Bank personnel, as well as referrals. Consumer loans originated by the Bank are obtained primarily through existing and walk-in customers who have been made aware of the Bank's programs by advertising and other means. Applications for residential mortgage loans which are originated for resale in the secondary market or loans designated for portfolio retention that conform to the requirements for resale into the secondary market and do not exceed Fannie Mae ("FNMA")/ Freddie Mac ("FHLMC") limits are approved by the Bank's Chief Lending Officer or in his absence, by the Senior Loan Underwriter or Loan Committee (a committee comprised of three directors and the Bank's Chief Lending Officer). All other first mortgage loans (commercial and multi-family residential real estate and construction loans) and residential mortgage loans in excess of FNMA/FHLMC maximum amounts (currently $227,150) but less than $1.0 million must be approved by the Loan Committee. All first mortgage loans in excess of $1.0 million must be approved by the Bank's Board of Directors or the Executive Committee thereof. All mortgage loans which do not require approval by the Board of Directors are submitted to the Board at its next meeting for review and ratification. Home equity loans and lines of credit up to $100,000 can be approved by the Chief Lending Officer, the Vice President of Construction Loans or the Administrative Vice President of mortgage lending. Loans in excess of such amount must be approved by the Loan Committee. Applications for non-conforming residential real estate loans, submitted by correspondents and sold servicing released into the secondary market, are packaged and submitted for pre-approval to the buyer prior to closing. The Bank, on occasion will originate non-conforming loans in accordance with the buyers' underwriting standards and sells them in bulk to such buyers. See "-Mortgage Banking Activities." Single-Family Residential Loans. Substantially all of the Bank's single-family residential mortgage loans consist of conventional loans. Conventional loans are loans that are neither insured by the Federal Housing Administration or partially guaranteed by the Department of Veterans Affairs. The vast majority of the Bank's single-family residential mortgage loans are secured by properties located in Pennsylvania, primarily in Delaware and Chester Counties, and are originated under terms and documentation which permit their sale to the FHLMC or FNMA. The Bank, consistent with its asset/liability management strategies, sells some of its newly originated longer term fixed-rate residential mortgage loans and to a limited degree, existing longer term fixed-rate residential mortgage loans while retaining adjustable-rate mortgage loans and shorter term fixed-rate residential mortgage loans. See "- Mortgage-Banking Activities." The single-family residential mortgage loans offered by the Bank currently consist of fixed-rate loans, including bi-weekly and balloon loans, and adjustable-rate loans. Fixed-rate loans generally have maturities ranging from 15 to 30 years and are fully amortizing with monthly loan payments sufficient to repay the total amount of the loan with interest by the end of the loan term. The Bank's fixed-rate loans are originated under terms, conditions and documentation which permit them to be sold to U.S. Government-sponsored agencies, such as the FHLMC and the FNMA, and other investors in the secondary mortgage market. The Bank also offers bi-weekly loans under the terms of which the borrower makes payments every two weeks. Although such loans have a 30 year amortization schedule, due to the bi-weekly payment schedule, such loans repay substantially more rapidly than a standard monthly 6 8 amortizing 30-year fixed-rate loan. The Bank also offers five and seven year balloon loans which provide that the borrower can conditionally renew the loan at a to-be-determined rate for the remaining 25 or 23 years, respectively, of the amortization period. At September 30, 1998, $104.8 million, or 70.8%, of the Bank's single-family residential mortgage loans held in portfolio were fixed-rate loans, including $29.8 million of bi-weekly fixed-rate residential mortgage loans. The adjustable-rate loans currently offered by the Bank have interest rates which adjust every one or three years in accordance with a designated index, such as U.S. Treasury obligations, adjusted to a constant maturity ("CMT"), plus a stipulated margin. The Bank's adjustable-rate single-family residential real estate loans generally have a cap of 2% on any increase or decrease in the interest rate at any adjustment date, and a cap of 6% over the life of the loan. In order to increase acceptance of adjustable-rate loans, the Bank recently has been originating loans which are fixed for a period of three to ten years after which converts to one-year adjustable-rate loan. The Bank's adjustable-rate loans require that any payment adjustment resulting from a change in the interest rate of an adjustable-rate loan be sufficient to result in full amortization of the loan by the end of the loan term and, thus, do not permit any of the increased payment to be added to the principal amount of the loan, or so-called negative amortization. Although the Bank does offer adjustable-rate loans with initial rates below the fully indexed rate, such loans are underwritten using methods approved by FHLMC and FNMA which allow borrowers to be qualified at 2% above the discounted loan rate. At September 30, 1998, $43.3 million or 29.2% of the Bank's single-family residential mortgage loans held for portfolio were adjustable-rate loans. Adjustable-rate loans decrease the risks associated with changes in interest rates but involve other risks, primarily because as interest rates increase the loan payment by the borrower increases to the extent permitted by the terms of the loan, thereby increasing the potential for default. Moreover, as with fixed-rate loans, as interest rates increase, the marketability of the underlying collateral property may be adversely affected by higher interest rates. The Bank believes that these risks, which have not had a material adverse effect on the Bank to date because of the generally stable interest rate environment in recent years, generally are less than the risks associated with holding fixed-rate loans in an increasing interest rate environment. For conventional residential mortgage loans held in portfolio and also for those loans originated for sale in the secondary market, the Bank's maximum loan-to-value ratio is 95%, and is based on the lesser of sales price or appraised value. On all loans with a loan-to-value ratio of over 80%, private mortgage insurance is required to be obtained. Commercial and Multi-Family Residential Real Estate Loans. The Bank has moderately increased its investment in commercial and multi-family lending. Such loans are being extended primarily to small and medium-sized businesses located in the Bank's primary market area, a portion of the market that the Bank believes has been underserved in recent years. Loans secured by commercial and multi-family real estate amounted to $20.6 million, or 9.9%, of the Bank's total loan portfolio, at September 30, 1998. The Bank's commercial and multi-family residential real estate loans are secured primarily by professional office buildings, small retail establishments, warehouses and apartment buildings (with 36 units or less) located in the Bank's primary market area. The Bank's adjustable-rate multi-family residential and commercial real estate loans generally are either one-year or three-year adjustable-rate loans indexed to the CMT plus a margin. In addition, depending on collateral value and strength of the borrower, fixed-rate balloon loans and longer term fixed-rate loans are also originated. Generally, fees of 1% to 3% of the principal loan balance are charged to the borrower upon closing. Although terms for multi-family residential and commercial real estate loans may vary, the Bank's underwriting standards generally provide for terms of up to 25 years with amortization of principal over the term of the loan and loan-to-value ratios of not more than 75%. Generally, the Bank obtains personal guarantees of the principals of the borrower as additional security for any commercial real estate and multi-family residential loans and requires that the borrower have at least a 25% equity investment in any such property. The Bank evaluates various aspects of commercial and multi-family residential real estate loan transactions in an effort to mitigate risk to the extent possible. In underwriting these loans, consideration is given to the stability of the property's cash flow history, future operating projections, current and projected occupancy, position in the market, location and physical condition. In recent periods, the Bank has also generally imposed a debt coverage ratio 7 9 (the ratio of net cash from operations before payment of debt service to debt service) of not less than 110%. The underwriting analysis also includes credit checks and a review of the financial condition of the borrower and guarantor, if applicable. An appraisal report is prepared by a state-licensed and certified appraiser (generally Member of the Appraisal Institute ("MAI") qualified) commissioned by the Bank to substantiate property values for every commercial real estate and multi-family loan transaction. All appraisal reports are reviewed by the Bank prior to the closing of the loan. Multi-family residential and commercial real estate lending entails different and significant risks when compared to single-family residential lending because such loans often involve large loan balances to single borrowers and because the payment experience on such loans is typically dependent on the successful operation of the project or the borrower's business. These risks can also be significantly affected by supply and demand conditions in the local market for apartments, offices, warehouses or other commercial space. The Bank attempts to minimize its risk exposure by limiting such lending to proven developers/owners, only considering properties with existing operating performance which can be analyzed, requiring conservative debt coverage ratios, and periodically monitoring the operation and physical condition of the collateral. Construction Loans. Substantially all of the Bank's construction loans have consisted of loans to construct single-family properties extended either to individuals or to selected developers with whom the Bank is familiar to build such properties on a pre-sold or limited speculative basis. With respect to loans to individuals, such loans have a maximum term of six months, have variable rates of interest based upon the prime rate published in the Wall Street Journal ("Prime Rate") plus a margin, have loan-to-value ratios of 80% or less of the appraised value upon completion and generally do not require the amortization of principal during the term. Upon completion of construction, the loans convert to permanent residential mortgage loans. The Bank also provides construction loans and lines of credit to developers. The majority of such loans consist of loans to selected local developers with whom the Bank is familiar to build single-family dwellings on a pre-sold or, to a significantly lesser extent, on a speculative basis. The Bank generally limits to two the number of unsold units which a developer may have under construction in a project. Such loans generally have terms of 24 months or less, have maximum loan-to-value ratios of 75% of the appraised value upon completion and generally do not require the amortization of the principal during the term. The loans are made with floating rates of interest based on the Prime Rate plus a margin adjusted on a monthly basis. The Bank also receives origination fees, which generally range from 1.0% to 3.0% of the commitment. The borrower is required to fund a portion of the project's costs, the exact amount being determined on a case-by-case basis. Loan proceeds are disbursed in stages after inspections of the project indicate that such disbursements are for costs already incurred and which have added to the value of the project. Only interest payments are due during the construction phase and the Bank may provide the borrower with an interest reserve from which it can pay the stated interest due thereon. The Bank's construction loans include loans to the developers to acquire the necessary land, develop the site and construct the residential units ("ADC loans"). At September 30, 1998, net residential construction loans totalled $8.0 million, or 3.9%, of the total loan portfolio, which primarily consisted of construction loans to developers. Loans to developers include both secured and unsecured lines of credit with outstanding commitments totalling $2.4 million. All have personal guaranties of the principals and are cross-collateralized with existing loans. Loans outstanding under builder lines of credit totalled $536,000 at September 30, 1998. The majority of the loans are secured by real estate and the unsecured lines, given only to the Bank's most creditworthy and long standing customers, totalled $391,000, or .19% of the total loan portfolio. The Bank also will originate ground or land loans, both to individuals to purchase a building lot on which he intends to build his primary residence, as well as to developers to purchase lots to build speculative homes at a later date. Such loans have terms of 36 months or less with a maximum loan-to-value ratio of 75% of the lower of appraised value or sale price with respect to loans to individuals and 65% of the lower of appraised value or sales price with respect to loans to developers. The loans are made with floating rates based on the Prime Rate plus a margin. The Bank also receives origination fees, which generally range between 1.0% and 3.0% of the loan amount. At September 30, 1998, land loans (including loans to acquire and develop land) totalled $3.4 million or 1.6% of the total loan portfolio. 8 10 Prior to making a commitment to fund a construction loan, the Bank requires an appraisal of the property by an independent state-licensed and qualified appraiser approved by the Board of Directors. In addition, during the term of the construction loan, the project is inspected by an independent inspector. Construction financing is generally considered to involve a higher degree of risk of loss than long-term financing on improved, owner-occupied real estate. Risk of loss on a construction loan is dependent largely upon the accuracy of the initial estimate of the property's value at completion of construction or development and the estimated cost (including interest) of construction. During the construction phase, a number of factors could result in delays and cost overruns. If the estimate of value proves to be inaccurate, the Bank may be confronted, at or prior to the maturity of the loan, with a project, when completed, having a value which is insufficient to assure full repayment. Loans on lots may run the risk of adverse zoning changes, environmental or other restrictions on future use. Consumer Lending Activities. The Bank offers consumer loans in order to provide a full range of retail financial services to its customers. At September 30, 1998, $21.7 million, or 10.4%, of the Bank's total loan portfolio was comprised of consumer loans. The Bank originates substantially all of such loans in its primary market area. The largest component of the Bank's consumer loan portfolio consists of home equity loans and home equity lines of credit (a form of revolving credit), both of which are secured by the underlying equity in the borrower's primary residence. Home equity loans are amortizing loans with fixed interest rates and maximum terms of 15 years while equity lines of credit have adjustable interest rates indexed to the Prime Rate. Generally home equity loans or home equity lines do not exceed $100,000. The Bank's home equity loans and lines of credit generally require combined loan-to-value ratios of 80% or less. At September 30, 1998, home equity loans and lines of credit amounted to $19.6 million, or 9.4%, of the Bank's total loan portfolio. At September 30, 1998, the remaining portion of the Bank's consumer loan portfolio was comprised of education, deposit and other consumer loans. At September 30, 1998, the Bank had $449,000 or .21% of education loans, all of which were underwritten to conform with the standards of the Pennsylvania Higher Education Agency. Deposit loans and other consumer loans (including credit card loans) totalled $1.6 million, or .78%, of the Bank's total loan portfolio at September 30, 1998. In April 1995, the Bank introduced its own credit card program. The credit cards were offered to only the Bank's most creditworthy customers. At September 30, 1998, these loans totalled $584,000 or .28% of the total loan portfolio. Consumer loans also included certain consumer leases totalling $745,000 purchased from a leasing company. Consumer loans generally have shorter terms and higher interest rates than mortgage loans but generally involve more credit risk than mortgage loans because of the type and nature of the collateral and, in certain cases, the absence of collateral. These risks are not as prevalent in the case of the Bank's consumer loan portfolio, however, because a high percentage of the portfolio is comprised of home equity loans and home equity lines of credit which are secured by real estate and underwritten in a manner such that they result in a lending risk which is substantially similar to single-family residential loans. Commercial Business Loans. At September 30, 1998, commercial business loans amounted to $1.4 million or .67% of the Bank's total loan portfolio. The majority of commercial business loans consist of a limited number of commercial lines of credit secured by real estate and, to a lesser extent, unsecured lines of credit. Mortgage-Banking Activities. Due to customer preference for fixed-rate loans, especially during the declining mortgage interest rate environment in 1998 and the stable rate environment in 1997, the Bank has continued to originate fixed-rate loans. Long-term, generally 30 years, fixed-rate loans not taken into portfolio for asset/liability purposes are sold into the secondary market. In addition, the Bank has developed for sale in the secondary market non-conforming (loans not conforming to FHLMC/FNMA underwriting guidelines) and impaired credit loans. The Bank has substantially increased the origination and sales of non-conforming mortgage loans during fiscal 1998, 1997 and 1996. The Bank's net gain on sales of mortgage loans amounted to $526,000, $285,000, and $209,000 during the years ended September 30, 1998, 1997 and 1996, respectively. The Bank had $2.8 million and $4.6 million of mortgage loans held for sale at September 30, 1998 and 1997, respectively. 9 11 The Bank's conforming mortgage loans sold to others are sold, generally with servicing retained, on a loan-by-loan basis primarily to the FHLMC and the FNMA. A period of less than five days generally lapses between the closing of the loan by the Bank and its purchase by the investor. Mortgages with established interest rates generally will decrease in value during periods of increasing interest rates. Accordingly, fluctuations in prevailing interest rates may result in a gain or loss to the Bank as a result of adjustments to the carrying value of loans held for sale or upon sale of loans. The Bank attempts to protect itself from these market fluctuations through the use of forward commitments at the time of the commitment by the Bank of a loan rate to the borrower. These commitments are mandatory delivery contracts with FHLMC and FNMA within a certain time frame and within certain dollar amounts by a price determined at the commitment date. Market risk does exist as non-refundable points paid by the borrower may not be sufficient to offset fees associated with closing the forward commitment contract. Non-conforming mortgage loans sold to others are sold, servicing released, on a loan-by-loan basis and are generally pre-approved by the buyer prior to closing. Borrowers are generally charged an origination fee, which is a percentage of the principal balance of the loan. In accordance with the provisions of Statement of Financial Accounting Standards ("SFAS") No. 91, "Accounting for Nonrefundable Fees and Costs Associated with Originating or Acquiring Loans and Initial Direct Costs of Leases," the various fees received by the Bank in connection with the origination of loans are deferred and amortized as a yield adjustment over the lives of the related loans using the interest method. However, when such loans are sold, the remaining unamortized fees (which is all or substantially all of such fees due to the relatively short period during which such loans are held) are recognized on the sale of loans held for sale. The Bank, for conforming loan products, generally retains the servicing on all loans sold to others. In addition, the Bank services substantially all of the loans which it retains in portfolio. Loan servicing includes collecting and remitting loan payments, accounting for principal and interest, making advances to cover delinquent payments, making inspections as required of mortgaged premises, contacting delinquent mortgagors, supervising foreclosures and property dispositions in the event of unremedied defaults and generally administering the loans. Funds that have been escrowed by borrowers for the payment of mortgage-related expenses, such as property taxes and hazard and mortgage insurance premiums, are maintained in noninterest-bearing accounts at the Bank. The following table presents information regarding the loans serviced by the Bank for others at the dates indicated. Substantially all the loans were secured by properties in Pennsylvania. A small percentage of the loans are secured by properties located in Delaware, Maryland or New Jersey.
September 30, ------------------------------------------------ 1998 1997 1996 -------- -------- -------- (In thousands) Loans originated by the Bank and serviced for: FNMA $ 3,796 $ 5,228 $ 5,817 FHLMC 92,065 108,895 121,029 Others 414 431 383 -------- -------- -------- Total loans serviced for others $ 96,275 $114,554 $127,229 -======= -======= -=======
The Bank receives fees for servicing mortgage loans, which generally amount to 0.25% per annum on the declining principal balance of mortgage loans. Such fees serve to compensate the Bank for the costs of performing the servicing function. Other sources of loan servicing revenues include late charges. For years ended September 30, 1998, 1997 and 1996, the Bank earned gross fees of $246,000, $293,000 and $331,000, respectively, from loan servicing. The Bank retains a portion of funds received from borrowers on the loans it services for others in payment of its servicing fees received on loans serviced for others. 10 12 Loans-to-One Borrower Limitations. Regulations impose limitations on the aggregate amount of loans that a savings institution could make to any one borrower, including related entities. Under such regulations, the permissible amount of loans-to-one borrower follows the national bank standard for all loans made by savings institutions, which generally does not permit loans-to-one borrower to exceed 15% of unimpaired capital and surplus. Loans in an amount equal to an additional 10% of unimpaired capital and surplus also may be made to a borrower if the loans are fully secured by readily marketable securities. At September 30, 1998, the Bank's five largest loans or groups of loans-to-one borrower, including related entities, ranged from an aggregate of $1.9 million to $2.6 million, and the Bank's loans-to-one borrower limit was $4.9 million at such date. ASSET QUALITY General. As a part of the Bank's efforts to improve its asset quality, it has developed and implemented an asset classification system. All of the Bank's assets are subject to review under the classification system, but particular emphasis is placed on the review of multi-family residential and commercial real estate loans, construction loans and commercial business loans. All assets of the Bank are periodically reviewed and the classification recommendations submitted to the Asset Classification Committee at least monthly. The Asset Classification Committee is composed of the President and Chief Executive Officer, the Chief Financial Officer, the Chief Lending Officer, the Vice President of Loan Administration, the Internal Auditor and the Vice President of Construction Lending. All assets are placed into one of the four following categories: Pass, Substandard, Doubtful and Loss. The criteria used to review and establish each asset's classification are substantially identical to the asset classification system used by the Office of Thrift Supervision (the "OTS") in connection with the examination process. As of September 30, 1998, the Bank did not have any assets which it had classified as doubtful, however, the Bank has classified $250,000 as loss. See "- Non-Performing Assets" and "- Other Classified Assets" for a discussion of certain of the Bank's assets which have been classified as substandard and regulatory classification standards generally. When a borrower fails to make a required payment on a loan, the Bank attempts to cure the deficiency by contacting the borrower and seeking payment. Contacts are generally made 30 days after a payment is due. In most cases, deficiencies are cured promptly. If a delinquency continues, late charges are assessed and additional efforts are made to collect the loan. While the Bank generally prefers to work with borrowers to resolve such problems, when the account becomes 90 days delinquent, the Bank institutes foreclosure or other proceedings, as necessary, to minimize any potential loss. Loans are placed on non-accrual status when, in the judgment of management, the probability of collection of interest is deemed to be insufficient to warrant further accrual. When a loan is placed on non-accrual status, previously accrued but unpaid interest is deducted from interest income. As a matter of policy, the Bank does not accrue interest on loans past due 90 days or more. See Note 2 of the Notes to Consolidated Financial Statements included in the Company's Annual Report. Real estate acquired by the Bank as a result of foreclosure or by deed-in-lieu of foreclosure is classified as real estate owned until sold. Real estate owned is initially recorded at the lower of fair value less estimated costs to sell the property, or cost (generally the balance of the loan on the property at the date of acquisition). After the date of acquisition, all costs incurred in maintaining the property are expenses and costs incurred for the improvement or development of such property are capitalized up to the extent of their net realizable value. Under generally accepted accounting principles ("GAAP"), the Bank is required to account for certain loan modifications or restructuring as "troubled debt restructuring." In general, the modification or restructuring of a debt constitutes a troubled debt restructuring if the Bank, for economic or legal reasons related to the borrower's financial difficulties, grants a concession to the borrower that the Bank would not otherwise consider under current market conditions. Debt restructuring or loan modifications for a borrower do not necessarily always constitute troubled debt restructuring, however, and troubled debt restructuring do not necessarily result in non-accrual loans. 11 13 Delinquent Loans. The following table sets forth information concerning delinquent loans at the dates indicated, in dollar amounts and as a percentage of each category of the Bank's loan portfolio. The amounts presented represent the total outstanding principal balances of the related loans, rather than the actual payment amounts which are past due.
September 30, 1998 September 30, 1997 ------------------------------------------- ------------------------------------------ 30-59 Days 60-89 Days 30-59 Days 60-89 Days -------------------- --------------------- -------------------- -------------------- Percent Percent Percent Percent of of of of Loan Loan Loan Loan Amount Category Amount Category Amount Category Amount Category -------- --------- --------- --------- -------- ---------- -------- ---------- (Dollars in thousands) Real estate loans: Single-family residential $557 .38% $98 .07% $401 .30% $62 .05% Construction 86 .54% 39 .25 287 1.80 Consumer loans 1 10 .05 15 .06 33 .13 Commercial business loans 1 .07 2 .10 ---- ---- ---- ---- Total $645 .31% $147 .07% $418 .21% $382 .19% -=== === -=== === -=== === -=== ===
12 14 Non-Performing Assets. The following table sets forth the amounts and categories of the Bank's non-performing assets and troubled debt restructurings at the dates indicated.
September 30, ------------------------------------------------------------------------------------ 1998 1997 1996 1995 1994 -------------- -------------- ------------- ---------- ----------- (Dollars in thousands) Non-performing loans: Single-family residential $ 2,341 $1,661 $1,466 $1,986 $1,907 Commercial and multi- family(1) 323 22 55 22 2,400 Construction(2) 895 275 888 872 Consumer 43 14 1,666 2 1 Commercial business 83 100 2,165 258 196 ------- ------ ------ ----- ----- Total non-performing loans 3,685 2,072 5,352 3,156 5,376 ------- ------ ------ ----- ----- Accruing loans greater than 90 days delinquent 19 5 ------- ------ ------ ------ ----- Total non-performing loans 3,704 2,077 5,352 3,156 5,376 ------- ------ ------ ----- ----- REO 1,663 1,672 1,557 465 503 ------- ------ ------ ------ ------ Total non-performing assets $ 5,367 $3,749 $6,909 $3,621 $5,879 --===== -===== -===== -===== -===== Troubled debt restructurings (3) $ 46 $ 384 $ $2,348 -====== ====== ====== -===== ====== Total non-performing loans and troubled debt restructurings as a percentage of gross loans receivable (4) 1.85% 1.29% 3.10% 3.45% 3.73% ==== ==== ==== ==== ==== Total non-performing assets as a percentage of total assets 1.29% 1.00% 2.35% 1.29% 2.47% ==== ==== ==== ==== ==== Total non-performing assets and troubled debt restructurings as percentage of total assets 1.30% 1.11% 2.35% 2.12% 2.43% ==== ==== ==== ==== ====
- ------------------------------- (1) Consists of two loans at September 30, 1998 and 1996 and one loan at September 30, 1997 and 1995, respectively. For fiscal 1994, consisted primarily of one loan restructured during fiscal 1995. (2) Consists of six loans from three borrowers at September 30, 1998, two loans at September 30, 1997 and 1995 and one loan at September 30, 1994. (3) Consists of lease financing receivables at September 30, 1998 and 1997 from the Bennett Funding Group of Syracuse, New York ("Bennett Funding") and one loan at September 30, 1995. The troubled debt restructurings in 1997 and 1995 have been performing in accordance with the terms of the agreements since the restructurings. (4) Includes loans receivable and loans held for sale, less construction and land loans in process and deferred loan origination fees and discounts. 13 15 The Bank's total non-performing assets and troubled debt restructurings have increased from $4.1 million, or 1.00% of total assets, at September 30, 1997 to $5.4 million, or 1.29% of total assets at September 30, 1998. The primary reason for the $1.3 million increase was due to the inclusion in fiscal 1998 of a $900,000 single-family residence located in Atlanta, Georgia. The remaining $1.4 million of single-family residential loans at September 30, 1998 consisted of 29 loans with principal balances, ranging from $2,000 to $216,000, with an average of approximately $50,000. At September 30, 1998, the $1.7 million of REO consisted of two single-family residential properties, one with a carrying value of $168,000 and one former construction loan project with a carrying value of $1.4 million. The construction loan was for the acquisition and development of a 106-lot residential townhouse project located in Pennsylvania. The project has all units substantially completed and has 15 units left to sell, of which seven units have deposits or agreements of sale. Expected completion of sale of all the remaining units is approximately six to nine months. Other Classified Assets. Federal regulations require that each insured savings association classify its assets on a regular basis. In addition, in connection with examinations of insured institutions, federal examiners have authority to identify problem assets and, if appropriate, classify them. There are three classifications for problem assets: "substandard," "doubtful" and "loss." Substandard assets have one or more defined weaknesses and are characterized by the distinct possibility that the insured institution will sustain some loss if the deficiencies are not corrected. Doubtful assets have the weaknesses of substandard assets with the additional characteristic that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions and values questionable, and there is a high possibility of loss. An asset classified loss is considered uncollectible and of such little value that continuance as an asset of the institution is not warranted. At September 30, 1998, the Bank had $5.7 million and $250,000 of assets classified as substandard and loss, respectively, and no assets classified as doubtful. Substantially all classified assets are also non-performing. Allowance for Loan Losses. The Bank's policy is to establish reserves for estimated losses on delinquent loans when it determines that losses are expected to be incurred on such loans and leases. The allowance for losses on loans is maintained at a level believed adequate by management to absorb potential losses in the portfolio. Management's determination of the adequacy of the allowance is based on an evaluation of the portfolio, past loss experience, current economic conditions, volume, growth and composition of the portfolio, and other relevant factors. The allowance is increased by provisions for loan losses which are charged against income. The activity in the Bank's allowance for loan losses has remained relatively stable (other than the $956,000 Bennett Funding charge-off in fiscal 1997) and the level of provisions has been relatively small with the exception in fiscal 1996 of an additional $1.1 million provision related to Bennett Funding. As shown in the table below, at September 30, 1998, the Bank's allowance for loan losses amounted to 46.92% and .86% of the Bank's non-performing loans and gross loans receivable, respectively. 14 16 The following table summarizes changes in the allowance for loan losses and other selected statistics for the periods presented.
Year Ending September 30, --------------------------------------------------------------------------- 1998 1997 1996 1995 1994 ----------- ----------- ----------- ----------- ----------- (Dollars in thousands) Allowance for loan losses, beginning of period $ 1,628 $ 2,624 $ 1,487 $ 1,540 $1,265 Charged-off loans: Single-family residential (86) (119) (113) (163) (141) Construction Commercial lease purchases (956) Consumer and commercial business (28) (177) (5) ------- ------- ------- ------- ------- Total charged-off loans (114) (1,252) (113) (168) (141) ------- ------- ------- ------- ------- Recoveries on loans previously charged off: Single-family residential 22 7 12 Construction 14 10 43 Commercial and multi- family residential 8 Consumer and commercial business 2 ------- ------- ------- ------- ------- Total recoveries 38 17 63 ------- ------- ------- ------- ------- Net loans charged-off (76) (1,235) (113) (105) (141) Provision for loan losses 186 239 1,250 52 416 ------- ------- ------- ------- ------- Allowance for loan losses, end of period $ 1,738 $ 1,628 $ 2,624 $ 1,487 $ 1,540 ======= ======= ======= ======= ======= Net loans charged-off to average interest-earning loans(1) .04% .68% .07% .07% .10% ======= ======= ======= ======= ======= Allowance for loan losses to gross loans receivable(1) .86% .86% 1.54% .93% 1.07% ======= ======= ======= ======= ======= Net loans charged-off to allowance for loan losses 4.37% 75.86% 4.31% 7.06% 9.16 % ======= ======= ======= ======= ======= Recoveries to charge-offs 33.33% 1.36% % 37.50% % ======= ======= ======= ======= =======
- ------------ (1) Gross loans receivable and average interest-earning loans receivable include loans receivable and loans held for sale, less construction and land loans in process and deferred loan origination fees and discounts. 15 17 The following table presents the Bank's allocation of the allowance for loan losses to the total amount of loans in each category listed at the dates indicated.
September 30, ------------------------------------------------------------------------------------------------------- 1998 1997 1996 1995 1994 ------------------- ------------------- ------------------- ------------------- ------------------- % of Loans % of Loans % of Loans % of Loans % of Loans in Each in Each in Each in Each in Each Category to Category to Category to Category to Category to Amount Total Loans Amount Total Loans Amount Total Loans Amount Total Loans Amount Total Loans ------ ----------- ------ ----------- ------ ----------- ------ ----------- ------ ----------- (Dollars in thousands) Single-family residential $ 446 71.34% $ 439 68.53% $ 204 68.68% $ 226 69.01% $ 280 69.77% Commercial and multi- family residential 109 9.91 77 9.28 3 6.25 12 7.06 243 8.38 Construction 382 7.64 300 8.31 290 9.93 615 9.79 481 9.11 Consumer 63 10.44 67 12.87 370 13.50 100 12.62 79 11.23 Commercial business 20 .67 31 1.01 1,152 1.64 55 1.52 45 1.51 Unallocated 718 714 605 479 412 ------ ------ ------ ------ ------ ------ ------ ------ ------ ------ Total allowance for loan losses $1,738 100.00% $1,628 100.00% $2,624 100.00% $1,487 100.00% $1,540 100.00% -===== ====== -===== ====== -===== ====== -===== ====== -===== ======
16 18 Effective December 21, 1993, the OTS, in conjunction with the Office of the Comptroller of the Currency, the FDIC and the Federal Reserve Board, issued a joint policy statement ("Policy Statement") regarding an institution's allowance for loan and lease losses. The Policy Statement, which reflects the position of the issuing regulatory agencies and does not necessarily constitute GAAP, includes guidance (i) on the responsibilities of management for the assessment and establishment of an adequate allowance and (ii) for the agencies' examiners to use in evaluating the adequacy of such allowance and the policies utilized to determine such allowance. The Policy Statement also sets forth quantitative measures for the allowance with respect to assets classified substandard and doubtful and with respect to the remaining portion of an institution's loan portfolio. While the Policy Statement sets forth quantitative measures, such guidance is not intended as a "floor" or "ceiling." The review of the Policy Statement did not result in a material adjustment to the Bank's policy for establishing loan losses. Management of the Bank presently believes that its allowance for loan losses is adequate to cover any potential losses in the Bank's loan portfolio. However, future adjustments to this allowance may be necessary, and the Bank's results of operations could be adversely affected if circumstances differ substantially from the assumptions used by management in making its determinations in this regard. MORTGAGE-RELATED SECURITIES AND INVESTMENT SECURITIES Mortgage-Related Securities. Federally chartered savings institutions have authority to invest in various types of liquid assets, including United States Treasury obligations, securities of various federal agencies and of state and municipal governments, certificates of deposit at federally-insured banks and savings and loan associations, certain bankers' acceptances and Federal funds. Subject to various restrictions, federally chartered savings institutions may also invest a portion of their assets in commercial paper, corporate debt securities and mutual funds, the assets of which conform to the investments that federally chartered savings institutions are otherwise authorized to make directly. The Bank maintains a significant portfolio of mortgage-related securities as a means of investing in housing-related mortgage instruments without the costs associated with originating mortgage loans for portfolio retention and with limited credit risk of default which arises in holding a portfolio of loans to maturity. Mortgage-related securities (which also are known as mortgage participation certificates or pass-through certificates) represent a participation interest in a pool of single-family or multi-family residential mortgages. The principal and interest payments on mortgage-backed securities are passed from the mortgage originators, as servicer, through intermediaries (generally U.S. Government agencies and government-sponsored enterprises) that pool and repackage the participation interests in the form of securities, to investors such as the Bank. Such U.S. Government agencies and government sponsored enterprises, which guarantee the payment of principal and interest to investors, primarily include the FHLMC, the FNMA and the Government National Mortgage Association ("GNMA"). The Bank also invests to a limited degree in certain privately issued, credit enhanced mortgage-related securities rated AAA by national securities rating agencies. The FHLMC is a public corporation chartered by the U.S. Government. The FHLMC issues participation certificates backed principally by conventional mortgage loans. The FHLMC guarantees the timely payment of interest and the ultimate return of principal on participation certificates. The FNMA is a private corporation chartered by the U.S. Congress with a mandate to establish a secondary market for mortgage loans. The FNMA guarantees the timely payment of principal and interest on FNMA securities. FHLMC and FNMA securities are not backed by the full faith and credit of the United States, but because the FHLMC and the FNMA are U.S. Government-sponsored enterprises, these securities are considered to be among the highest quality investments with minimal credit risks. The GNMA is a government agency within the Department of Housing and Urban Development which is intended to help finance government-assisted housing programs. GNMA securities are backed by FHA-insured and VA-guaranteed loans, and the timely payment of principal and interest on GNMA securities are guaranteed by the GNMA and backed by the full faith and credit of the U.S. Government. Because the FHLMC, the FNMA and the GNMA were established to provide support for low- and middle-income housing, there are limits to the maximum size of loans that qualify for these, programs which limit is currently $227,150. Mortgage-related securities typically are issued with stated principal amounts, and the securities are backed by pools of mortgages that have loans with interest rates that are within a range and have varying maturities. The underlying pool of mortgages can be composed of either fixed-rate or adjustable-rate loans. As a result, the risk characteristics of the underlying 17 19 pool of mortgages, (i.e., fixed-rate or adjustable rate) as well as prepayment risk, are passed on to the certificate holder. The life of a mortgage-backed pass-through security thus approximates the life of the underlying mortgages. The Bank's mortgage-related securities include regular interests in collateralized mortgage obligations ("CMOs"). CMOs were developed in response to investor concerns regarding the uncertainty of cash flows associated with the prepayment option of the underlying mortgagor and are typically issued by governmental agencies, governmental sponsored enterprises and special purpose entities, such as trusts, corporations or partnerships, established by financial institutions or other similar institutions. A CMO can be collateralized by loans or securities which are insured or guaranteed by the FNMA, the FHLMC or the GNMA. In contrast to pass-through mortgage-related securities, in which cash flow is received pro rata by all security holders, the cash flow from the mortgages underlying a CMO is segmented and paid in accordance with a predetermined priority to investors holding various CMO classes. By allocating the principal and interest cash flows from the underlying collateral among the separate CMO classes, different classes of bonds are created, each with its own stated maturity, estimated average life, coupon rate and prepayment characteristics. The short-term classes of a CMO usually carry a lower coupon rate than the longer term classes and, therefore, the interest differential cash flow on a residual interest is greatest in the early years of the CMO. As the early coupon classes are extinguished, the residual income declines. Thus, the longer the lower coupon classes remain outstanding, the greater the cash flow accruing to CMO residuals. As interest rates decline, prepayments accelerate, the interest differential narrows, and the cash flow from the CMO declines. Conversely, as interest rates increase, prepayments decrease, generating a larger cash flow to residuals. A senior-subordinated structure often is used with CMOs to provide credit enhancement for securities which are backed by collateral which is not guaranteed by FNMA, FHLMC or GNMA. These structures divide mortgage pools into various risk classes: a senior class and one or more subordinated classes. The subordinated classes provide protection to the senior class. When cash flow is impaired, debt service goes first to the holders of senior classes. In addition, incoming cash flows also may go into a reserve fund to meet any future shortfalls of cash flow to holders of senior classes. The holders of subordinated classes may not receive any funds until the holders of senior classes have been paid and, when appropriate, until a specified level of funds has been contributed to the reserve fund. Mortgage-related securities generally yield less than the loans which underlie such securities because of their payment guarantees or credit enhancements which offer nominal credit risk. In addition, mortgage-related securities are more liquid than individual mortgage loans and may be used to collateralize certain obligations of the Bank. At September 30, 1998, $27.8 million of the Bank's mortgage-related securities were pledged to secure various obligations of the Bank, including reverse repurchase agreements and as collateral for certain government deposits. The Bank's mortgage-related securities are classified as either "held to maturity" or "available for sale" based upon the Bank's intent and ability to hold such securities to maturity at the time of purchase, in accordance with GAAP. As of September 30, 1998, the Bank had an aggregate of $134.3 million, or 32.3%, of total assets invested in mortgage-related securities, net, of which $18.8 million was held to maturity and $115.5 million was available for sale. The mortgage-related securities of the Bank which are held to maturity are carried at cost, adjusted for the amortization of premiums and the accretion of discounts using a method which approximates a level yield, while mortgage-related securities available for sale are carried at the current fair value. See Notes 1 and 4 of the Notes to Consolidated Financial Statements in the Annual Report. 18 20 In November 1995, the Financial Accounting Standards Board (the "FASB") issued a special report, "A Guide to Implementation of Statement 115 on Accounting for Certain Investments in Debt and Equity Securities" (the "Guide"), which discussed through a question and answer format many of the implementation questions that have arisen since the adoption of SFAS 115. Concurrent with the initial adoption of this implementation guidance but no later than December 31, 1995, an enterprise was permitted to reassess the appropriateness of the classifications of all securities held at that time and account and disclose resulting reclassifications in accordance with SFAS 115. The Guide provided that reclassifications from the held-to-maturity category that result from this one-time assessment will not call into question the intent of an enterprise to hold other debt securities to maturity in the future. In December 1995, as permitted under the terms of the Guide, the Company reclassified certain securities with an aggregated amortized cost of $50.5 million from held to maturity to available for sale. The following table sets forth the composition of the Bank's mortgage-related securities portfolio, both held to maturity and available for sale, at the dates indicated.
September 30, ------------------------------ 1998 1997 1996 -------- -------- -------- Held to maturity: (In thousands) Mortgage-backed securities: FHLMC $ 4,698 $ 2,747 $ 3,631 FNMA 8,747 10,053 11,383 -------- -------- -------- Total mortgage-backed securities 13,445 12,800 15,014 -------- -------- -------- Collateralized mortgage obligations: FHLMC 233 2,026 2,238 FNMA 5,091 5,740 5,789 Other 141 180 -------- -------- -------- Total collateralized mortgage obligations 5,324 7,907 8,207 -------- -------- -------- Total mortgage-related securities, amortized cost $ 18,769 $ 20,707 $ 23,221 ======== ======== ======== Total fair value(1) $ 18,700 $ 20,200 $ 22,060 ======== ======== ======== Available for sale: Mortgage-backed securities: FHLMC $ 10,968 $ 17,540 $ 12,852 FNMA 25,600 14,587 11,079 GNMA 41,379 28,938 8,355 -------- -------- -------- Total mortgage-backed securities 77,947 61,065 32,286 -------- -------- -------- Collateralized mortgage obligations: FHLMC 2,704 5,356 7,298 FNMA 15,284 17,301 18,594 GNMA 994 1,338 1,593 Other 17,040 18,819 1,131 -------- -------- -------- Total collateralized mortgage obligations 36,022 42,814 28,616 -------- -------- -------- Total mortgage-related securities, amortized cost $113,969 $103,879 $ 60,902 ======== ======== ======== Total fair value(1) $115,486 $104,472 $ 60,211 ======== ======== ========
- --------------------------- (1) See Note 4 of the Notes to Consolidated Financial Statements in the Annual Report. 19 21 The following table sets forth the purchases, sales and principal repayments of the Bank's mortgage-related securities for the periods indicated.
Year Ended September 30, ----------------------------------- 1998 1997 1996 --------- --------- --------- (In thousands) Mortgage-related securities, beginning of period(1)(2) $ 125,179 $ 83,432 $ 79,832 --------- --------- --------- Purchases: Mortgage-backed securities - held to maturity 1,938 CMOs - held to maturity 2,687 2,000 Mortgage-backed securities - available for sale 42,422 33,584 15,471 CMOs - available for sale 10,000 18,069 9,997 Sales: Mortgage-backed securities - available for sale (13,200) (6,422) CMOs - available for sale (1,047) (6,374) Repayments and prepayments: Mortgage-backed securities (14,456) (7,668) (6,467) CMOs (18,336) (4,057) (5,788) Increase in net premium 82 535 169 Change in net unrealized gain (loss) on mortgage-related securities available for sale 924 1,284 (924) --------- --------- --------- Net increase in mortgage-related securities 9,076 41,747 3,600 --------- --------- --------- Mortgage-related securities, end of period(1) $ 134,255 $ 125,179 $ 83,432 ========= ========= =========
- -------------------------- (1) Includes mortgage-related securities available for sale. (2) Calculated at amortized cost for securities held to maturity and at fair value for securities available for sale At September 30, 1998, the weighted average contractual maturity of the Bank's fixed-rate mortgage-backed securities was approximately 23.2 years. The actual maturity of a mortgage-backed security is less than its stated maturity due to prepayments of the underlying mortgages. Prepayments that are faster than anticipated may shorten the life of the security and adversely affect its yield to maturity. The yield is based upon the interest income and the amortization of any premium or discount related to the mortgage-backed security. In accordance with GAAP, premiums and discounts are amortized over the estimated lives of the loans, which decrease and increase interest income, respectively. The prepayment assumptions used to determine the amortization period for premiums and discounts can significantly affect the yield of the mortgage-backed security, and these assumptions are reviewed periodically to reflect actual prepayments. Although prepayments of underlying mortgages depend on many factors, including the type of mortgages, the coupon rate, the age of mortgages, the geographical location of the underlying real estate collateralizing the mortgages and general levels of market interest rates, the difference between the interest rates on the underlying mortgages and the prevailing mortgage interest rates generally is the most significant determinant of the rate of prepayments. During periods of rising mortgage interest rates, if the coupon rates of the underlying mortgages are less than the prevailing market interest rates offered for mortgage loans, refinancings generally decrease and slow the prepayment of the underlying mortgages and the related securities. Conversely, during periods of falling mortgage interest rates, if the coupon rates of the underlying mortgages exceed the prevailing market interest rates offered for mortgage loans, refinancing generally increases and accelerates the prepayment of the underlying mortgages and the related securities. Under such circumstances, the Bank may be subject to reinvestment risk because to the extent that the Bank's mortgage-related securities amortize or prepay faster than anticipated, the Bank may not be able to reinvest the proceeds of such repayments and prepayments at a comparable yield. At September 30, 1998, of the $18.8 million of mortgage-related securities held to maturity, an 20 22 aggregate of $9.3 million were secured by fixed-rate securities and an aggregate of $9.5 million were secured by adjustable-rate securities. Investment Securities. The following table sets forth information regarding the carrying and fair value of the Company's investment securities, both held to maturity and available for sale, at the dates indicated.
At September 30, --------------------------------------------------------- 1998 1997 1996 ------- ------- ------- Carrying Fair Carrying Fair Carrying Fair Value Value Value Value Value Value ------- ------- ------- ------- ------- ------- (In thousands) FHLB stock $ 5,079 $ 5,079 $ 3,769 $ 3,769 $ 2,337 $ 2,337 U.S. Government and agency obligations 12,000 12,109 17,000 16,958 16,500 16,388 Municipal securities 18,993 19,477 3,138 3,213 145 144 Mutual funds 2,000 1,992 Preferred stocks 5,500 5,763 Other equity investments 1,390 1,280 ------- ------- ------- ------- ------- ------- Total $44,962 $45,700 $23,907 $23,940 $18,982 $18,869 ======= ======= ======= ======= ======= =======
At September 30, 1998, the Company had an aggregate of $45.0 million, or 10.8%, of total assets invested in investment securities, of which $5.1 million consist of FHLB stock and $39.9 million was investment securities available for sale. Included in U.S. Government and agency obligations are callable bonds with a term of three years. The Bank's investment securities (excluding equity securities and FHLB stock) had a weighted average contractual maturity of 14.92 years and a weighted average yield of 6.97% (adjusted to a fully taxable equivalent yield). SOURCES OF FUNDS General. The Bank's principal source of funds for use in lending and for other general business purposes has traditionally come from deposits obtained through the Bank's branch offices. The Bank also derives funds from contractual payments and prepayments of outstanding loans and mortgage-related securities, from sales of loans, from maturing investment securities and from advances from the FHLB of Pittsburgh and other borrowings. Loan repayments are a relatively stable source of funds, while deposits inflows and outflows are significantly influenced by general interest rates and money market conditions. The Bank uses borrowings to supplement its deposits as a source of funds. Deposits. The Bank's current deposit products include passbook accounts, NOW accounts, MMDA, certificates of deposit ranging in terms from 30 days to five years and noninterest-bearing personal and business checking accounts. The Bank's deposit products also include Individual Retirement Account ("IRA") certificates and Keogh accounts. The Bank's deposits are obtained primarily from residents in Delaware and Chester Counties in southeastern Pennsylvania. The Bank attracts local deposit accounts by offering a wide variety of accounts, competitive interest rates, and convenient branch office locations and service hours. The Bank utilizes traditional marketing methods to attract new customers and savings deposits, including print media and radio advertising and direct mailings. However, the Bank does not solicit funds through deposit brokers nor does it pay any brokerage fees if it accepts such deposits. The Bank participates in the regional ATM network known as MAC(R). 21 23 The Bank has been competitive in the types of accounts and in interest rates it has offered on its deposit products but does not necessarily seek to match the highest rates paid by competing institutions. With the significant decline in interest rates paid on deposit products, the Bank in recent years has experienced disintermediation of deposits into competing investment products. The following table shows the distribution of, and certain information relating to, the Bank's deposits by type of deposit as of the dates indicated.
September 30, -------------------------------------------------------------- 1998 1997 1996 ---- ---- ---- Amount Percent Amount Percent Amount Percent -------- ------- -------- ------- -------- ------- (Dollars in thousands) Passbook accounts $ 37,988 15.36% $ 38,035 16.69% $ 41,504 18.93% MMDA accounts 16,087 6.50 16,429 7.21 16,159 7.37 NOW accounts 28,181 11.40 27,754 12.18 28,085 12.81 Certificates of deposit 156,801 63.40 139,535 61.22 128,747 58.73 Noninterest-bearing deposits 8,254 3.34 6,165 2.70 4,710 2.16 -------- ------- -------- ------- -------- ------- Total deposits $247,311 100.00% $227,918 100.00% $219,205 100.00% ======== ======= ======== ======= ======== =======
The following table sets forth the net savings flows of the Bank during the periods indicated.
Year Ended September 30, ------------------------------ 1998 1997 1996 -------- -------- -------- (In thousands) Increase (Decrease) before interest credited $ 9,737 $ 99 $(13,152) Interest credited 9,656 8,614 8,604 -------- -------- -------- Net savings increase (decrease) $ 19,393 $ 8,713 $ (4,548) ======== ======== ========
The following table sets forth maturities of the Bank's certificates of deposit of $100,000 or more at September 30, 1998 by time remaining to maturity.
Amounts in Thousands --------- Three months or less $4,541 Over three months through six months 3,145 Over six months through twelve months 3,185 Over twelve months 5,031 ------ $15,902 ======
22 24 The following table presents, by various interest rate categories, the amount of certificates of deposit at September 30, 1998 and 1997 and the amounts at September 30, 1998 which mature during the periods indicated.
Amounts at September 30, 1998 September 30, Maturing Within ------------------------- ------------------------------------------------------ Certificates of Deposit 1998 1997 One Year Two Years Three Years Thereafter - ----------------- ---------- ---------- --------- --------- ----------- ---------- (In thousands) 4.0% or less $ 647 $ 394 $ 647 4.01% to 6.0% 141,948 116,480 103,226 $20,910 $8,307 $ 9,505 6.01% to 8.0% 13,248 19,705 5,070 8,097 48 33 8.01% to 10.0% 958 2,956 958 ---------- ---------- --------- ------- ------ ------- Total certificate accounts $ 156,801 $ 139,535 $ 109,901 $29,007 $8,355 $ 9,538 ---======= ---======= --======= -====== -===== ======
The following table presents the average balance of each deposit type and the average rate paid on each deposit type for the periods indicated.
September 30, ----------------------------------------------------------------- 1998 1997 1996 ------------------- -------------------- -------------------- Average Average Average Average Rate Average Rate Average Rate Balance Paid Balance Paid Balance Paid -------- -------- -------- -------- -------- -------- (Dollars in thousands) Passbook accounts $ 38,273 2.41% $ 39,199 2.42% $ 42,270 2.44% MMDA accounts 16,368 2.76 16,350 2.75 18,358 2.65 Certificates of deposit 145,105 5.64 133,091 5.58 128,384 5.82 NOW accounts 29,412 1.28 28,143 1.28 27,098 1.37 Noninterest-bearing deposits 5,779 4,357 4,193 -------- -------- -------- -------- -------- -------- Total deposits $234,937 4.23% $221,140 4.15% $220,303 4.25% ======== ======== ======== ======== ======== ========
23 25 Borrowings. The Bank may obtain advances from the FHLB of Pittsburgh upon the security of the common stock it owns in the FHLB and certain of its residential mortgage loans and securities held to maturity, provided certain standards related to creditworthiness have been met. Such advances are made pursuant to several credit programs, each of which has its own interest rate and range of maturities. The Bank, during fiscal 1998 and 1997, increased its FHLB borrowings to fund asset growth thereby leveraging, in part, the capital raised as a result of the issuance of trust preferred securities in fiscal 1997. At September 30, 1998, the Bank had $101.6 million in outstanding FHLB advances. See Note 10 of the Notes to Consolidated Financial Statements in the Annual Report. The Bank has entered into agreements to sell securities under terms which require it to repurchase the same or substantially similar securities by a specified date. Repurchase agreements are considered borrowings which are secured by the sold securities. At September 30, 1998, the Bank had $19.3 million of repurchase agreements outstanding scheduled to mature in 2000. See Note 11 of the Notes to Consolidated Financial Statements in the Annual Report. Both the FHLB advances and the repurchase agreements have certain call features whereby the issuer can call the borrowings after the expiration of certain timeframes. The timeframes on the callable borrowings range from three months to three years. SUBSIDIARIES The Bank is permitted to invest up to 2% of its assets in the capital stock of, or secured or unsecured loans to, subsidiary corporations, with an additional investment of 1% of assets when such additional investment is utilized primarily for community development purposes. Under such limitations, as of September 30, 1998, the Bank was authorized to invest up to approximately $8.8 million in the stock of, or loans to, service corporations. As of September 30, 1998, the net book value of the Bank's investment in stock, unsecured loans, and conforming loans to its service corporations was $1.2 million. At September 30, 1998, in addition to the Bank, the Company had five direct or indirect subsidiaries, First Keystone Capital Trust I, FKF Management Corporation, Inc., First Pointe, Inc. ("First Pointe"), First Chester Services, Inc., State Street Development, Inc. and First Media Services, Inc. First Keystone Capital Trust I (the "Trust") is a Delaware statutory business trust wholly owned by the Company formed in 1997 for the purpose of issuing trust preferred securities and investing the proceeds therefrom in Junior Subordinated Debentures issued by the Company. See Note 20 of the Notes to Consolidated Financial Statements in the Annual Report. FKF Management Corp., Inc., a Delaware corporation, is a wholly owned operating subsidiary of the Bank established in 1997 for the purpose of managing assets of the Bank. Assets under management totaled $135.5 million comprised principally of investment and mortgage-related securities. First Pointe, is a wholly owned subsidiary of the Bank which was formed for the purpose of developing a real estate parcel received in a deed-in-lieu of foreclosure action. At September 30, 1998, the Bank's equity investment in First Pointe was a net deficit of $53,213 and First Pointe had total assets of $1.7 million consisting of 15 units substantially all of which are completed. For the year ended September 30, 1998, First Pointe had a net loss of $18,339. The Bank has three remaining subsidiaries, all inactive, which had been involved in either real estate development or real estate management. With the Bank's cessation of its involvement in such activities and the resolution of the various development projects in which the subsidiaries were involved, these subsidiaries were placed on an inactive status. See "-Asset Quality - Non-Performing Assets" and Notes 1 and 7 of the Notes to Consolidated Financial Statements in the Annual Report. 24 26 COMPETITION The Bank faces strong competition both in attracting deposits and making real estate loans. Its most direct competition for deposits has historically come from other savings associations, credit unions and commercial banks located in its market area including many large financial institutions which have greater financial and marketing resources available to them. In addition, during times of high interest rates, the Bank has faced additional significant competition for investors' funds from short-term money market securities, mutual funds and other corporate and government securities. The ability of the Bank to attract and retain savings deposits depends on its ability to generally provide a rate of return, liquidity and risk comparable to that offered by competing investment opportunities. The Bank experiences strong competition for real estate loans principally from other savings associations, commercial banks and mortgage banking companies. The Bank competes for loans principally through the interest rates and loan fees it charges and the efficiency and quality of services it provides borrowers and the convenient locations of its branch office network. Competition may increase as a result of the continuing reduction of restrictions on the interstate operations of financial institutions. EMPLOYEES The Bank had 77 full-time employees and 8 part-time employees as of September 30, 1998. None of these employees is represented by a collective bargaining agreement. The Bank believes that it enjoys excellent relations with its personnel. 25 27 REGULATION The Company. The Company as a savings and loan holding company within the meaning of the Home Owners' Loan Act, as amended ("HOLA"), is required to register as such with the OTS and is subject to OTS regulations, examinations, supervision and reporting requirements. As a subsidiary of a savings and loan holding company, the Bank is subject to certain restrictions in its dealings with the Company and affiliates thereof. Federal Activities Restrictions. There are generally no restrictions on the activities of a savings and loan holding company which holds only one subsidiary savings association. However, if the Director of the OTS determines that there is reasonable cause to believe that the continuation by a savings and loan holding company of an activity constitutes a serious risk to the financial safety, soundness or stability of its subsidiary savings association, the Director may impose such restrictions as deemed necessary to address such risk, including limiting (i) payment of dividends by the savings association; (ii) transactions between the savings association and its affiliates; and (iii) any activities of the savings association that might create a serious risk that the liabilities of the holding company and its affiliates may be imposed on the savings association. Notwithstanding the above rules as to permissible business activities of unitary savings and loan holding companies, if the savings association subsidiary of such a holding company fails to meet a QTL test, then such unitary holding company also shall become subject to the activities restrictions applicable to multiple savings and loan holding companies and, unless the savings association qualifies as a QTL within one year thereafter, shall register as, and become subject to the restrictions applicable to, a bank holding company. See "- The Bank - Qualified Thrift Lender Test." If the Company were to acquire control of another savings association, other than through merger or other business combination with the Bank, the Company would thereupon become a multiple savings and loan holding company. Except where such acquisition is pursuant to the authority to approve emergency thrift acquisitions and where each subsidiary savings association meets the QTL test, as set forth below, the activities of the Company and any of its subsidiaries (other than the Bank or other subsidiary savings associations) would thereafter be subject to further restrictions. No multiple savings and loan holding company or subsidiary thereof which is not a savings association shall commence or continue for a limited period of time after becoming a multiple savings and loan holding company or subsidiary thereof any business activity, other than: (i) furnishing or performing management services for a subsidiary savings association; (ii) conducting an insurance agency or escrow business; (iii) holding, managing, or liquidating assets owned by or acquired from a subsidiary savings association; (iv) holding or managing properties used or occupied by a subsidiary savings association; (v) acting as trustee under deeds of trust; (vi) those activities authorized by regulation as of March 5, 1987 to be engaged in by multiple savings and loan holding companies; or (vii) unless the Director of the OTS by regulation prohibits or limits such activities for savings and loan holding companies, those activities authorized by the Federal Reserve Board as permissible for bank holding companies. The activities described in (i) through (vi) above may only be engaged in after giving the OTS prior notice and being informed that the OTS does not object to such activities. In addition, the activities described in (vii) above also must be approved by the Director of the OTS prior to being engaged in by a multiple savings and loan holding company. Limitations on Transactions with Affiliates. Transactions between savings associations and any affiliate are governed by Sections 23A and 23B of the Federal Reserve Act ("FRA") and OTS regulations issued in connection therewith. An affiliate of a savings association is any company or entity which controls, is controlled by or is under common control with the savings association. In a holding company context, the parent holding company of a savings association (such as the Company) and any companies which are controlled by such parent holding company are affiliates of the savings association. Generally, Sections 23A and 23B (i) limit the extent to which the savings association or its subsidiaries may engage in "covered transactions" with any one affiliate to an amount equal to 10% of such association's capital stock and surplus, and contain an aggregate limit on all such transactions with all affiliates to an amount equal to 20% of such capital stock and surplus and (ii) require that all such transactions be on terms substantially the same, or at least as favorable, to the association or subsidiary as those provided to a non-affiliate. The term "covered transaction" includes, among other things, the making of loans or extension of credit to an affiliate, purchase of assets, issuance of a guarantee and similar transactions. In addition to the restrictions imposed by Sections 23A and 23B, under OTS regulations no savings association may (i) loan or otherwise extend 26 28 credit to an affiliate, except for any affiliate which engages only in activities which are permissible for bank holding companies, (ii) a savings association may not purchase or invest in securities of an affiliate other than shares of a subsidiary; (iii) a savings association and its subsidiaries may not purchase a low-quality asset from an affiliate; (iv) and covered transactions and certain other transactions between a savings association or its subsidiaries and an affiliate must be on terms and conditions that are consistent with safe and sound banking practices. With certain exceptions, each extension of credit by a savings association to an affiliate must be secured by collateral with a market value ranging from 100% to 130% (depending on the type of collateral) of the amount of the loan or extension of credit. The OTS regulation generally excludes all non-bank and non-savings association subsidiaries of savings associations from treatment as affiliates, except to the extent that the OTS or the Federal Reserve Board decides to treat such subsidiaries as affiliates. The regulation also requires savings associations to make and retain records that reflect affiliate transactions in reasonable detail, and provides that certain classes of savings associations may be required to give the OTS prior notice of affiliate transactions. In addition, Sections 22(g) and (h) of the FRA place restrictions on loans to executive officers, directors and principal stockholders. Under Section 22(h), loans to a director, an executive officer and to a greater than 10% stockholder of a savings institution (a "principal stockholder"), and certain affiliated interests of either, may not exceed, together with all other outstanding loans to such person and affiliated interests, the savings institution's loans to one borrower limit (generally equal to 15% of the institution's unimpaired capital and surplus). Section 22(h) also requires that loans to directors, executive officers and principal stockholders be made on terms substantially the same as offered to employees of the Bank and also requires prior board approval for certain loans. In addition, the aggregate amount of extensions of credit by a savings institution to all insiders cannot exceed the institution's unimpaired capital and surplus. Furthermore, Section 22(g) places additional restrictions on loans to executive officers. At September 30, 1998, the Bank was in compliance with the above restrictions. Restrictions on Acquisitions. Except under limited circumstances, savings and loan holding companies are prohibited from acquiring, without prior approval of the Director of the OTS, (i) control of any other savings association or savings and loan holding company or substantially all the assets thereof or (ii) more than 5% of the voting shares of a savings association or holding company thereof which is not a subsidiary. Except with the prior approval of the Director of the OTS, no director or officer of a savings and loan holding company or person owning or controlling by proxy or otherwise more than 25% of such company's stock, may acquire control of any savings association, other than a subsidiary savings association, or of any other savings and loan holding company. Federal Securities Laws. The Company's Common Stock is registered with the Securities and Exchange Commission ("SEC") under the Securities Exchange Act of 1934 ("Exchange Act"). The Company is subject to the information, proxy solicitation, insider trading restrictions and other requirements under the Exchange Act. Shares of common stock owned by an affiliate of the Company are subject to the resale restrictions of Rule 144 under the Securities Act of 1933, as amended ("Securities Act"). If the Company meets the current public information requirements of Rule 144 under the Securities Act, each affiliate of the Company who complies with the other conditions of Rule 144 (including those that require the affiliate's sale to be aggregated with those of certain other persons) is able to sell in the public market, without registration, a number of shares not to exceed, in any three-month period, the greater of (i) 1% of the outstanding shares of the Company or (ii) the average weekly volume of trading in such shares during the preceding four calendar weeks. The Bank. The OTS has extensive regulatory authority over the operations of savings associations. As part of this authority, savings associations are required to file periodic reports with the OTS and are subject to periodic examinations by the OTS. The investment and lending authority of savings associations are prescribed by federal laws and regulations and they are prohibited from engaging in any activities not permitted by such laws and regulations. Those laws and regulations generally are applicable to all federally chartered savings associations and may also apply to state-chartered savings associations. Such regulation and supervision is primarily intended for the protection of depositors. 27 29 The OTS' enforcement authority over all savings associations and their holding companies was substantially enhanced by Financial Institutions Reform, Recovery, and Enforcement Act of 1989 ("FIRREA"). This enforcement authority includes, among other things, the ability to assess civil money penalties, to issue cease and desist or removal orders and to initiate injunctive actions. In general, these enforcement actions may be initiated for violations of laws and regulations and unsafe or unsound practices. Other actions or inactions may provide the basis for enforcement action, including misleading or untimely reports filed with the OTS. FIRREA significantly increased the amount of and grounds for civil money penalties. FIRREA requires, except under certain circumstances, public disclosure of final enforcement actions by the OTS. Insurance of Accounts. The deposits of the Bank are insured to the maximum extent permitted by the SAIF, which is administered by the FDIC, and are backed by the full faith and credit of the United States Government. As insurer, the FDIC is authorized to conduct examinations of, and to require reporting by, FDIC-insured institutions. It also may prohibit any FDIC-insured institution from engaging in any activity the FDIC determines by regulation or order to pose a serious threat to the FDIC. The FDIC also has the authority to initiate enforcement actions against savings associations, after giving the OTS an opportunity to take such action. The FDIC may terminate the deposit insurance of any insured depository institution, including the Bank, if it determines after a hearing that the institution has engaged or is engaging in unsafe or unsound practices, is in an unsafe or unsound condition to continue operations, or has violated any applicable law, regulation, order or any condition imposed by an agreement with the FDIC. It also may suspend deposit insurance temporarily during the hearing process for the permanent termination of insurance, if the institution has no tangible capital. If insurance of accounts is terminated, the accounts at the institution at the time of the termination, less subsequent withdrawals, shall continue to be insured for a period of six months to two years, as determined by the FDIC. Management is not aware of any existing circumstances which could result in termination of the Bank's deposit insurance. The BIF fund met its target reserve level in September 1995, but the SAIF was not expected to meet its target reserve level until at least 2002. Consequently, in late 1995, the FDIC approved a final rule regarding deposit insurance premiums which, effective with respect to the semi-annual premium assessment beginning January 1, 1996, reduced deposit insurance premiums for BIF member institutions to zero basis points (subject to an annual minimum of $2,000) for institutions in the lowest risk category. Deposit insurance premiums for SAIF members were maintained at their existing levels (23 basis points for institutions in the lowest risk category). On September 30, 1996, President Clinton signed into law legislation (the "Deposit Insurance Funds Act of 1996") to eliminate the premium differential between SAIF-insured institutions and BIF-insured institutions by recapitalizing the SAIF's reserves to the required ratio. The legislation provided that all SAIF member institutions pay a one-time special assessment to recapitalize the SAIF, which in the aggregate was sufficient to bring the reserve ratio in the SAIF to 1.25% of insured deposits. The legislation also provided for the merger of the BIF and the SAIF, with such merger being conditioned upon, among other things, the prior elimination of the federal thrift charter. Effective October 8, 1996, pursuant to the provision of the Deposit Insurance Funds Act of 1996, FDIC regulations imposed a one-time special assessment equal to 65.7 basis points for all SAIF-assessable deposits as of March 31, 1995, which was collected on November 27, 1996. The Bank's one-time special assessment amounted to approximately $1.4 million. Net of related tax benefits, the one-time special assessment amounted to $876,000. Following the imposition of the one-time special assessment, the FDIC lowered assessment rates for SAIF members to reduce the disparity in the assessment rates paid by BIF and SAIF members. Beginning October 1, 1996, effective BIF and SAIF rates both range from zero basis points to 27 basis points. From 1997 through 1999, SAIF members will pay 6.4 basis points to fund the Financing Corporation while BIF member institutions will pay approximately 1.3 basis points. 28 30 Capital requirements. Federally insured savings associations are required to maintain minimum levels of regulatory capital. Pursuant to FIRREA, the OTS has established capital standards applicable to all savings associations. These standards generally must be as stringent as the comparable capital requirements imposed on national banks. The OTS also is authorized to impose capital requirements in excess of these standards on individual associations on a case-by-case basis. Current OTS capital standards require savings associations to satisfy three different capital requirements. Under these standards, savings associations must maintain "tangible" capital equal to 1.5% of adjusted total assets, "core" capital equal to 4% of adjusted total assets and "total" capital (a combination of core and "supplementary" capital) equal to 8.0% of "risk-weighted" assets. For purposes of the regulation, core capital generally consists of common stockholders' equity (including retained earnings), noncumulative perpetual preferred stock and related surplus, minority interests in the equity accounts of fully consolidated subsidiaries, certain nonwithdrawable accounts and pledged deposits and "qualifying supervisory goodwill." Tangible capital is given the same definition as core capital but does not include qualifying supervisory goodwill and is reduced by the amount of all the savings association's intangible assets, with only a limited exception for purchased mortgage servicing rights ("PMSRs"). Both core and tangible capital are further reduced by an amount equal to a savings association's debt and equity investments in subsidiaries engaged in activities not permissible for national banks (other than subsidiaries engaged in activities undertaken as agent for customers or in mortgage banking activities and subsidiary depository institutions or their holding companies). In addition, under the Prompt Corrective Action provisions of the OTS regulations, all but the most highly rated institutions must maintain a minimum leverage ratio of 4% in order to be adequately capitalized. See "- Prompt Corrective Action." At September 30, 1998, the Bank did not have any investment in subsidiaries engaged in impermissible activities and required to be deducted from its capital calculation. The Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA") granted the OTS the authority to prescribe rules for the amount of PMSRs that may be included in a savings association's regulatory capital and required that the value of readily marketable PMSRs included in the calculation of a savings association's regulatory capital not exceed 90% of fair market value and that such value be determined at least quarterly. Under final OTS rules effective March 4, 1994, (i) PMSRs do not have to be deducted from tangible and core regulatory capital, provided that they do not exceed 50% of core capital, (ii) savings associations are required to determine the fair market value and to review the book value of their PMSRs at least quarterly and to obtain an independent valuation of PMSRs annually, (iii) savings associations that desire to include PMSRs in regulatory capital may not carry them at a book value under GAAP that exceeds the discounted value of their future net income stream and (iv) for purposes of calculating regulatory capital, the amount of PMSRs reported as balance sheet assets should amount to the lesser of 90% of their fair market value, 90% of their original purchase price or 100% of their remaining unamortized book value. At September 30, 1998, the Bank had PMSRs totalling $148,000. A savings association is allowed to include both core capital and supplementary capital in the calculation of its total capital for purposes of the risk-based capital requirements, provided that the amount of supplementary capital does not exceed the savings association's core capital. Supplementary capital generally consists of hybrid capital instruments; perpetual preferred stock which is not eligible to be included as core capital; subordinated debt and intermediate-term preferred stock; and, subject to limitations, general allowances for loan losses. Assets are adjusted under the risk-based guidelines to take into account different risk characteristics, with the categories ranging from 0% (requiring no additional capital) for assets such as cash to 100% for repossessed assets or loans more than 90 days past due. Single-family residential real estate loans which are not past-due or non-performing and which have been made in accordance with prudent underwriting standards are assigned a 50% level in the risk-weighing system, as are certain privately-issued mortgage-backed securities representing indirect ownership of such loans. Off-balance sheet items also are adjusted to take into account certain risk characteristics. Under OTS regulations, an institution with a greater than "normal" level of interest rate exposure must deduct an interest rate risk ("IRR") component from total capital for purposes of calculating risk-based capital requirement. Interest rate exposure is measured, generally, as the decline in an institution's net portfolio value that would result from a 200 basis point increase or decrease in market interest rates (whichever would result in lower net portfolio value), divided by the estimated economic value of the savings association's assets. The interest rate risk component 29 31 to be deducted from total capital is equal to one-half of the difference between an institution's measured exposure and "normal" IRR exposure (which is defined as 2%), multiplied by the estimated economic value of the institution's assets. Although the OTS has decided to delay implementation of this rule, it will continue to closely monitor the level of interest rate risk at individual savings associations and it retains the authority, on a case-by-case basis, to impose additional capital requirements for individual savings associations with significant interest rate risk. The OTS recently updated its standards regarding the management of interest rate risk to include summary guidelines to assist savings associations in determining their exposures to interest rate risk. 30 32 The following is a reconciliation of the Bank's equity determined in accordance with GAAP to regulatory tangible, core, and risk-based capital at September 30, 1998, 1997 and 1996.
September 30, 1998 September 30, 1997 September 30, 1996 ----------------------------- ------------------------------ ----------------------------- Tangible Core Risk-based Tangible Core Risk-based Tangible Core Risk-based Capital Capital Capital Capital Capital Capital Capital Capital Capital ------- ------- ------- ------- ------- ------- ------- ------- -------- (In thousands) GAAP equity $33,701 $33,701 $33,701 $30,254 $30,254 $30,254 $22,608 $22,608 $22,608 Assets required to be deducted(1) (55) General valuation allowances 1,688 1,578 1,775 ------- ------- ------- ------- ------- ------- ------- ------- ------- Total regulatory capital 33,701 33,701 35,389 30,254 30,254 31,832 22,608 22,608 24,328 Minimum capital requirement per FIRREA published guidelines 6,113 12,225 13,424 5,594 11,188 12,792 4,421 8,841 11,289 ------- ------- ------- ------- ------- ------- ------- ------- ------- Excess $27,588 $21,476 $21,965 $24,660 $19,066 $19,040 $18,187 $13,767 $13,039 -====== -====== -====== -====== -====== -====== -====== -====== -======
- ---------------------- (1) Consists of equity investment nonincludable in regulatory capital. These capital requirements are viewed as minimum standards by the OTS, and most institutions are expected to maintain capital levels well above the minimum. In addition, the OTS regulations provide that minimum capital levels higher than those provided in the regulations may be established by the OTS for individual savings association's capital, upon a determination that the regulations provide that higher individual minimum regulatory capital requirements may be appropriate in circumstances where, among others: (1) a savings association has a high degree of exposure to interest rate risk, prepayment risk, credit risk, concentration of credit risk, certain risks arising from nontraditional activities, or similar risks or a high proportion of off-balance sheet risk; (2) a savings association is growing, either internally or through acquisitions, at such a rate that supervisory problems are presented that are not dealt with adequately by OTS regulations; and (3) a savings association may be adversely affected by the activities or condition of its holding company, affiliates, subsidiaries or other persons or savings associations with which it has significant business relationships. The Bank is not subject to any such individual minimum regulatory capital requirement. 31 33 Prompt Corrective Action. Under Section 38 of the FDIA as added by FDICIA, the OTS adopted in 1992 regulations implementing Section 38 of the FDIA. Under the regulations, an institution shall be deemed to be (i) "well capitalized" if it has total risk-based capital of 10% or more, has a Tier I risk-based capital ratio of 6% or more, has a Tier I leverage capital ratio of 5% or more and is not subject to any order or final capital directive to meet and maintain a specific capital level for any capital measure, (ii) "adequately capitalized" if it has a total risk-based capital ratio of 8% or more, a Tier I risk-based capital ratio of 4% or more and a Tier I leverage capital ratio of 4% or more (3% under certain circumstances) and does not meet the definition of "well capitalized," (iii) "undercapitalized" if it has a total risk-based capital ratio that is less than 8%, a Tier I risk-based capital ratio that is less than 4% or a Tier I leverage capital ratio that is less than 4% (3% under certain circumstances), (iv) "significantly undercapitalized" if it has a total risk-based capital ratio that is less than 6%, a Tier I risk-based capital ratio that is less than 3% or a Tier I leverage capital ratio that is less than 3%, and (v) "critically undercapitalized" if it has a ratio of tangible equity to total assets that is equal to or less than 2%. Section 38 of the FDIA and the OTS regulations promulgated thereunder also specify circumstances under the OTS may reclassify a well capitalized institution as adequately capitalized and may require an adequately capitalized institution or an undercapitalized institution to comply with supervisory actions as if it were in the next lower category (except that the FDIC may not reclassify a significantly undercapitalized institution as critically undercapitalized). At September 30, 1998 the Bank meet the requirements of a "well capitalized" institution under OTS regulations. Liquidity Requirements. All savings associations are required to maintain an average daily balance of liquid assets equal to a certain percentage of the sum of its average daily balance of net withdrawable deposit accounts and borrowings payable in one year or less. The liquidity requirement may vary from time to time (between 4% and 10%) depending upon economic conditions and savings flows of all savings associations. At the present time, the required minimum liquid asset ratio is 4%. The Bank has consistently exceeded such regulatory liquidity requirement and, for the quarter ended September 30, 1998, had a liquidity ratio of 4.98% Qualified Thrift Lender Test. Under Section 2303 of the Economic Growth and Regulatory Paper work Reduction Act of 1996, a savings association can comply with the QTL test by either meeting the QTL test set forth in the HOLA and the implementing regulations or qualifying as a domestic building and loan association as defined in Section 7701(a)(19) of the Internal Revenue Code of 1986, as amended ("Code"). The QTL Test set forth in the HOLA requires that Qualified Thrift Investments ("QTLs") represent 65% of portfolio assets. A savings institution that does not comply with the QTL test must either convert to a bank charter or comply with the following restrictions on its operations: (i) the association may not engage in any new activity or make any new investment, directly or indirectly, unless such activity or investment is permissible for a national bank; (ii) the branching powers of the association shall be restricted to those of a national bank; (iii) the association shall not be eligible to obtain any advances from its FHLB; and (iv) payment of dividends by the association shall be subject to the rules regarding payment of dividends by a national bank. Upon the expiration of three years from the date the association ceases to be a QTL, it must cease any activity and not retain any investment not permissible for a national bank and immediately repay any outstanding FHLB advances (subject to safety and soundness considerations). Portfolio assets are defined as total assets less intangibles, property used by a savings association in its business and liquidity investments in an amount not exceeding 20% of assets. Generally, QTLs are residential housing related assets, The recent legislation allows small business loans, credit card loans, student loans and loans for personal, family and household purposes to be included without limitation as qualified investments. In addition, commercial loans may be made in an amount up to 10% of total assets. At September 30, 1998, approximately 86.20% of the Bank's assets were invested in QTLs, which was in excess of the percentage required to qualify the Bank under the QTL Test in effect at that time. Restrictions on Capital Distributions. OTS regulations govern capital distributions by savings associations, which include cash dividends, stock redemptions or repurchases, cash-out mergers, interest payments on certain convertible debt and other transactions charged to the capital account of a savings association to make capital distributions. Generally, the regulation creates a safe harbor for specified levels of capital distributions from associations meeting at least their minimum capital requirements, so long as such associations notify the OTS and 32 34 receive no objection to the distribution from the OTS. Savings institutions and distributions that do not qualify for the safe harbor are required to obtain prior OTS approval before making any capital distributions. Generally, savings associations that before and after the proposed distribution meet or exceed their fully phased-in capital requirements, or Tier 1 associations, may make capital distributions during any calendar year equal to the higher of (i) 100% of net income for the calendar year-to-date plus 50% of its "surplus capital ratio" at the beginning of the calendar year or (ii) 75% of net income over the most recent four-quarter period. The "surplus capital ratio" is defined to mean the percentage by which the association's ratio of total capital to assets exceeds the ratio of its fully phased-in capital requirement to assets. Failure to meet fully phased-in or minimum capital requirements will result in further restrictions on capital distributions including possible prohibition without explicit OTS approval. See "- Capital Requirements." In order to make distributions under these safe harbors, Tier 1 and Tier 2 associations must submit written notice to the OTS 30 days prior to making the distribution. The OTS may object to the distribution during that 30-day period based on safety and soundness concerns. In addition, a Tier 1 association deemed to be in need of more than normal supervision by the OTS may be downgraded to a Tier 2 or Tier 3 association as a result of such a determination. The Bank currently is a Tier 1 institution for purposes of the regulation dealing with capital distributions. OTS regulations also prohibit the Bank from declaring or paying any dividends or from repurchasing any of its stock if, as a result, the regulatory (or total) capital of the Bank would be reduced below the amount required to be maintained for the liquidation account established by it for certain depositors in connection with its conversion from mutual to stock form. The OTS has proposed to amend its capital distribution regulation to conform its requirements to the OTS prompt corrective action regulation. Under the proposed regulation, an institution that would remain at least adequately capitalized after making a capital distribution, and that was owned by a holding company, would be required to provide notice to the OTS prior to making a capital distribution. "Troubled" associations and undercapitalized associations would be allowed to make capital distributions only by filing an application and receiving OTS approval, and such applications would be approved under certain limited circumstances. Community Reinvestment. Under the Community Reinvestment Act of 1977, as amended ("CRA"), as implemented by OTS regulations, a savings association has a continuing and affirmative obligation consistent with its safe and sound operation to help meet the credit needs of its entire community, including low and moderate income neighborhoods. The CRA does not establish specific lending requirements or programs for financial institutions nor does it limit an institution's discretion to develop the types of products and services that it believes are best suited to its particular community, consistent with the CRA. The Bank received a satisfactory rating as a result of its last OTS evaluation. Policy Statement on Nationwide Branching. Effective May 11, 1992, the OTS amended and codified its policy statement on branching by federally chartered savings associations to delete then-existing regulatory restrictions on the branching authority of such associations and to permit nationwide branching to the extent allowed by federal statute. (Prior OTS policy generally permitted interstate branching for federally chartered savings associations only to the extent allowed state-chartered savings associations in the states where the association's home office was located and where the branch was sought or if the branching resulted from OTS approval of a supervisory interstate acquisition of a troubled institution.) Current OTS policy generally permits a federally chartered savings association to establish branch offices outside of its home state if the association meets the domestic building and loan test in Section 7701(a)(19) of the Code or the asset composition test of subparagraph (c) of that section, and if, with respect to each state outside of its home state where the association has established branches, the branches, taken alone, also satisfy one of the two tax tests. An association seeking to take advantage of this authority would have to have a branching application approved by the OTS, which would consider the regulatory capital of the association and its record under the CRA, as amended, among other things. 33 35 Federal Home Loan Bank System. The Bank is a member of the FHLB of Pittsburgh, which is one of 12 regional FHLBs that administers the home financing credit function of savings associations. Each FHLB serves as a reserve or central bank for its members within its assigned region. It is funded primarily from proceeds derived from the sale of consolidated obligations of the FHLB System. It makes loans to members (i.e., advances) in accordance with policies and procedures established by the Board of Directors of the FHLB. As a member, the Bank is required to purchase and maintain stock in the FHLB of Pittsburgh in an amount equal to at least 1% of its aggregate unpaid residential mortgage loans, home purchase contracts or similar obligations at the beginning of each year or 5% of its advances from the FHLB of Pittsburgh, whichever is greater. At September 30, 1998, the Bank had $5.1 million in FHLB stock, which was in compliance with this requirement. The FHLBs are required to provide funds for the resolution of insolvent thrifts and to contribute funds for affordable housing programs. These requirements could reduce the amount of dividends that the FHLBs pay to their members and could also result in the FHLBs imposing a higher rate of interest on advances to their members. For the years ended September 30, 1998, 1997 and 1996, dividends from the FHLB to the Bank amounted to approximately $261,000, $196,000 and $106,000, respectively. If dividends were reduced, the Bank's net interest income would likely also be reduced. Further, there can be no assurance that the impact of recent or future legislation on the FHLBs will not also cause a decrease in the value of FHLB stock held by the Bank, if any. Federal Reserve System. The Federal Reserve Bank ("FRB") requires all depository institutions to maintain reserves against their transaction accounts (primarily NOW and Super NOW checking accounts) and non-personal time deposits. At September 30, 1998, the Bank was in compliance with applicable requirements. However, because required reserves must be maintained in the form of vault cash or a noninterest-bearing account at a Federal Reserve Bank, the effect of this reserve requirement is to reduce an institution's earning assets. Safety and Soundness Guidelines. The OTS and the other federal banking agencies have established guidelines for safety and soundness, addressing operational and managerial, as well as compensation matters for insured financial institutions. Institutions failing to meet these standards are required to submit compliance plans to their appropriate federal regulators. The OTS and the other agencies have also established guidelines regarding asset quality and earnings standards for insured institutions. FEDERAL AND STATE TAXATION General. The Company and the Bank are subject to the corporate tax provisions of the Code, as well as certain additional provisions of the Code which apply to thrift and other types of financial institutions. The following discussion of tax matters is intended only as a summary and does not purport to be a comprehensive description of the tax rules applicable to the Company and the Bank. Fiscal Year. For the year ended September 30, 1995 and thereafter, the Company and the Bank and its subsidiaries file a consolidated federal income tax return on a fiscal year basis. Prior to September 30, 1995, the Company and the Bank and its subsidiaries filed consolidated federal income tax returns on a calendar year basis. Method of Accounting. The Bank maintains its books and records for federal income tax purposes using the accrual method of accounting. The accrual method of accounting generally requires that items of income be recognized when all events have occurred that establish the right to receive the income and the amount of income can be determined with reasonable accuracy, and that items of expense be deducted at the later of (i) the time when all events have occurred that establish the liability to pay the expense and the amount of such liability can be determined with reasonable accuracy or (ii) the time when economic performance with respect to the item of expense has occurred. Bad Debt Reserves. The Bank is permitted to establish reserves for bad debts and to make annual additions thereto which qualify as deductions from taxable income. The Company, as of October 1, 1996, changed its method of computing reserves for bad debts to the experience method (the "Experience Method"). The bad debt deduction 34 36 allowable under this method is available to small banks with assets less than $500 million. Generally, this method will allow the Company to deduct an annual addition to the reserve for bad debts equal to the increase in the balance of the Company's reserve for bad debts at the end of the year to an amount equal to the percentage of total loans at the end of the year, computed using the ratio of the previous six years net charge offs divided by the sum of the previous six years total outstanding loans at year end. The Bank treated such change as a change in a method of accounting determined solely with respect to the "applicable excess reserves" of the institution. The amount of the applicable excess reserves will be taken into account ratably over a six-taxable year period, beginning with the first taxable year beginning after December 31, 1995. The timing of the recapture may be delayed for a two-year period provided certain residential lending requirements are met. For financial reporting purposes, the Company will not incur any additional tax expense. At September 30, 1997, under SFAS No. 109, deferred taxes were provided on the difference between the book reserve at September 30, 1997 and the applicable excess reserve in an amount equal to the Bank's increase in the tax reserve from December 31, 1987 to September 30, 1997. Prior to September 30, 1996, the Bank had the option of electing either the experience method or the percentage of taxable income method (the "Percentage Method") for its annual addition to the bad debt reserves. Under the Experience Method, the deductible annual addition is the amount necessary to increase the balance of the reserve at the close of the taxable year to the greater of (i) the amount which bears the same ratio to loans outstanding at the close of the taxable year as the total net bad debts sustained during the current and five preceding taxable years bear to the sum of the loans outstanding at the close of those six years or (ii) the balance in the reserve account at the close of the Bank's "base year," which was its tax year ended December 31, 1987. Under the Percentage Method, the bad debt deduction with respect to qualifying real property loans is computed as a percentage of the Bank's taxable income before such deduction, as adjusted for certain items (such as capital gains and the dividends received deduction). Under this method, a qualifying institution such as the Bank generally may deduct 8% of its taxable income. In the absence of other factors, the availability of the Percentage Method has permitted a qualifying savings institution, such as the Bank, to be taxed at an effective federal income tax rate of 31.28%, as compared to 34% for corporations generally. For taxable years ended on or before December 31, 1988, the Bank has generally elected to use the Percentage Method to compute the amount of its bad debt deduction with respect to its qualifying real property loans. For all taxable years ended after December 31, 1988 with the exception of the September 30, 1996 tax year, the Bank elected to use the Experience Method to compute the amount of its bad debt deduction with respect to its qualifying real property loans. The income of the Company or any non-bank subsidiaries would not be subject to the bad debt deduction allowed the Bank, whether or not consolidated tax returns are filed. Distributions. While the Bank maintains a bad debt reserve, if it were to distribute cash or property to its sole stockholder having a total fair market value in excess of its accumulated tax-paid earnings and profits, or were to distribute cash or property to its stockholder in redemption of its stock, the Bank would generally be required to recognize as income an amount which, when reduced by the amount of federal income tax that would be attributable to the inclusion of such amount in income, is equal to the lesser of: (i) the amount of the distribution or (ii) the sum of (a) the amount of the accumulated bad debt reserve of the Bank with respect to qualifying real property loans (to the extent that additions to such reserve exceed the additions that would be permitted under the experience method) and (b) the amount of the Bank's supplemental bad debt reserve. Minimum Tax. The Code imposes an alternative minimum tax at a rate of 20% on a base of regular taxable income plus certain tax preferences ("alternative minimum taxable income" or "AMTI"). The alternative minimum tax is payable to the extent such AMTI is in excess of an exemption amount. The Code provides that an item of tax preference is the excess of the bad debt deduction allowable for a taxable year pursuant to the percentage of 35 37 taxable income method over the amount allowable under the experience method. The other items of tax preference that constitute AMTI include (a) tax-exempt interest on newly-issued (generally, issued on or after August 8, 1986) private activity bonds other than certain qualified bonds and (b) for taxable years beginning after 1989, 75% of the excess (if any) of (i) adjusted current earnings as defined in the Code, over (ii) AMTI (determined without regard to this preference and prior to reduction by net operating losses). Net operating losses can offset no more than 90% of AMTI. Certain payments of alternative minimum tax may be used as credits against regular tax liabilities in future years. Audit by IRS. The Bank's consolidated federal income tax returns for taxable years through December 31, 1994 have been closed for the purpose of examination by the IRS. STATE TAXATION The Company is subject to the Pennsylvania Corporate Net Income Tax and Capital Stock and Franchise Tax. The Corporate Net Income Tax rate for fiscal 1998 is 9.99% and is imposed on the Company's unconsolidated taxable income for federal purposes with certain adjustments. In general, the Capital Stock Tax is a property tax imposed at the rate of 1.3% of a corporation's capital stock value, which is determined in accordance with a fixed formula. The Bank is taxed under the Pennsylvania Mutual Thrift Institutions Tax Act (the ("MTIT"), as amended to include thrift institutions having capital stock. Pursuant to the MTIT, the Bank's tax rate is 11.5%. The MTIT exempts the Bank from all other taxes imposed by the Commonwealth of Pennsylvania for state income tax purposes and from all local taxation imposed by political subdivisions, except taxes on real estate and real estate transfers. The MTIT is a tax upon net earnings, determined in accordance with GAAP with certain adjustments. The MTIT, in computing GAAP income, allows for the deduction of interest earned on state and federal securities, while disallowing a percentage of a thrift's interest expense deduction in the proportion of interest income on those securities to the overall interest income of the Bank. Net operating losses, if any, thereafter can be carried forward three years for MTIT purposes. 36 38 ITEM 2. PROPERTIES At September 30, 1998, the Bank conducted business from its executive offices located in Media, Pennsylvania and five full-service offices located in Delaware and Chester Counties, Pennsylvania. See also Note 8 of the Notes to Consolidated Financial Statements in the Annual Report. The following table sets forth certain information with respect to the Bank's offices at September 30, 1998.
Net Book Value Amount of Description/Address Leased/Owned of Property Deposits - ----------------------------- ---------------- ------------------ ------------------------ (In thousands) Executive Offices: 22 West State Street Media, Pennsylvania 19063 Owned(1) $1,018 $ 78,410 Branch Offices: 3218 Edgmont Avenue Brookhaven, Pennsylvania 19015 Owned 316 79,716 Routes 1 and 100 Chadds Ford, Pennsylvania 19318 Leased(2) 72 24,102 23 East Fifth Street Chester, Pennsylvania 19013 Leased(3) 242 15,523 330 Dartmouth Avenue Swarthmore, Pennsylvania 19081 Owned 121 44,831 Route 82 and 926 Leased(4) 72 4,729 Kennett Square, PA 19348 ------ -------- $1,841 $247,311 -===== -=======
- ---------------------------- (1) Also a branch office. (2) Lease expiration date is September 30, 2000. The Bank has two five year renewal options. (3) Lease expiration date is December 31, 2005. The Bank has one ten year renewal option. (4) Lease expiration date is September 30, 2001. The Bank has four five year renewal options. 37 39 ITEM 3. LEGAL PROCEEDINGS. The Company is involved in routine legal proceedings occurring in the ordinary course of business which, in the aggregate, are believed by management to be immaterial to the financial condition of the Company. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. Not applicable. PART II. ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS. The information required herein is incorporated by reference on page 42 of the Company's Annual Report. ITEM 6. SELECTED FINANCIAL DATA. The information required herein is incorporated by reference from pages 1 to 2 of the Registrant's Annual Report. ITEM 7. MANAGEMENT'S DISCUSSION AND ANAYLSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATION. The information required herein is incorporated by reference from pages 7 to 18 of the Registrant's Annual Report. ITEM 7A QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. The Company's balance sheet consists of interest-earning assets and interest-bearing liabilities, and is therefore exposed to interest rate risk. The following additional information is being provided regarding the exposure to this interest rate risk. The Company utilizes reports prepared by the OTS to measure interest rate risk. Using data from the Bank's quarterly thrift financial reports, the OTS models the net portfolio value ("NPV") of the Bank over a variety of interest rate scenarios. The NAV is defined as the present value of expected cash flows from existing assets less the present value of expected cash flows from existing liabilities plus the present value of net expected cash inflows from existing off-balance sheet contracts. The model assumes instantaneous, parallel shifts in the U.S. Treasury Securities yield curve of 100 to 400 basis points, either up or down, and in 100 basis point increments. The interest rate risk measures used by the OTS include an "Exposure Measure" or "Post-Shock" NPV ratio and a "Sensitivity Measure". The "Post-Shock" NPV ratio is the net present value as a percentage of assets over the various yield curve shifts. A low "Post-Shock" NPV ratio indicates greater exposure to interest rate risk and can result from a low initial NPV ratio or high sensitivity to changes in interest rates. The "Sensitivity Measure" is the decline in the NPV ratio, in basis points, caused by a 2% increase or decrease in rates, whichever produces a larger decline. The following sets forth the Bank's NPV as of September 30, 1998. 38 40 Net Portfolio Value
Changes in Net Portfolio Value Rates in Dollar Percentage Net Portfolio Value As a Change in Basis Points Amount Change Change % of Assets Percentage (1) - -------------------------------------------------------------------------------------------------------------- 200 $28,808 $(13,106) (31.27)% 7.25% (27.72)% 100 36,444 (5,470) (13.05) 8.92 (11.07) 0 41,914 10.03 (100) 44,519 2,605 6.22 10.49 4.59 (200) 47,110 5,196 12.40 10.92 8.87
(1) Based on the portfolio value of the Bank's assets in the base case scenario Certain shortcomings are inherent in the methodology used in the above interest rate risk measurements. Modeling changes in NPV require the making of certain assumptions which may or may not reflect the manner in which actual yields and costs respond to changes in market interest rates. In this regard, the NPV Table presented assumes that the composition of the Bank's interest sensitive assets and liabilities existing at the beginning of a period remains constant over the period being measured and also assumes that a particular change in interest rates is reflected uniformly across the yield curve regardless of the duration to maturity or repricing of specific assets and liabilities. Also, the model does not take into account the Bank's business or strategic plans. Accordingly, although the NPV Table provides an indication of the Bank's interest rate risk exposure at a particular point in time, such measurements are not intended to and do not provide a precise forecast of the effect of changes in market interest rates on the Bank's net interest income and may differ from actual results. See also discussion on pages 7 to 9 of the Annual Report. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA. The financial statements and supplementary data required herein are incorporated by reference from pages 20 to 42 of the Annual Report. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. Not applicable. PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT The information required herein is incorporated by reference from pages 2 to 5 and page 15 of the Registrant's Proxy Statement dated December 24, 1998 ("Proxy Statement"). 39 41 ITEM 11. EXECUTIVE COMPENSATION. The information required herein is incorporated by reference from pages 8 to 13 of the Registrant's Proxy Statement. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT. The information required herein is incorporated by reference from pages 6 to 8 of the Registrant's Proxy Statement. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS. The information required herein is incorporated by reference from pages 14 to 15 of the Registrant's Proxy Statement. PART IV. ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K. (a) Documents filed as part of this Report. (1) The following documents are filed as part of this report and are incorporated herein by reference from the Registrant's Annual Report. Report of Independent Auditors. Consolidated Statements of Financial Condition at September 30, 1998 and 1997. Consolidated Statements of Income for the Years Ended September 30, 1998, 1997 and 1996. Consolidated Statements of Changes in Stockholders' Equity for the Years Ended September 30, 1998, 1997 and 1996. Consolidated Statements of Cash Flows for the Years Ended September 30, 1998, 1997 and 1996. Notes to the Consolidated Financial Statements. (2) All schedules for which provision is made in the applicable accounting regulation of the SEC are omitted because they are not applicable or the required information is included in the Consolidated Financial Statements or notes thereto. (3) The following exhibits are filed as part of this Form 10-K, and this list includes the Exhibit Index. 40 42 No Description 3.1 Amended and Restated Articles of Incorporation of First Keystone Financial, Inc. * 3.2 Amended and Restated Bylaws of First Keystone Financial, Inc. * 4 Specimen Stock Certificate of First Keystone Financial, Inc. * 10.1 Employee Stock Ownership Plan and Trust of First Keystone Financial, Inc. * 10.2 401(K)/ Profit Sharing Plan of First Keystone Federal Savings Bank * 10.3 Employment Agreement between First Keystone Financial, Inc. and Donald S. Guthrie (incorporated by reference from Exhibit 10.3 to Registrant's Form 10-KSB for the year ended September 30, 1995). 10.4 Employment Agreement between First Keystone Financial, Inc. and Stephen J. Henderson (incorporated by reference from Exhibit 10.4 to Registrant's Form 10-KSB for the year ended September 30, 1995). 10.5 Employment Agreement between First Keystone Financial, Inc. and Thomas M. Kelly (incorporated by reference from Exhibit 10.5 to Registrant's Form 10-KSB for the year ended September 30, 1995). 10.6 Form of Severance Agreement between First Keystone Financial, Inc. and Elizabeth M. Mulcahy (incorporated by reference from Exhibit 10.6 to Registrant's Form 10-KSB for the year ended September 30, 1995). 10.8 Form of Severance Agreement between First Keystone Financial, Inc. and Carol Walsh (incorporated by reference from Exhibit 10.8 to Registrant's Form 10-KSB for the year ended September 30, 1995). 10.9 1995 Stock Option Plan (incorporated by reference from Exhibit 10.9 to Registrant's Form 10-KSB for the year ended September 30, 1995). 41 43 10.10 1995 Recognition and Retention Plan and Trust Agreement, (incorporated by reference from Exhibit 10.10 to Registrant's Form 10-KSB for the year ended September 30, 1995). 13 Annual Report to Stockholders. 21 Subsidiaries of the Registrant - Reference is made to Item 1 "Business," for the required information. 23 Consent of Deloitte & Touche LLP. - ----------------------- (*) Incorporated by reference from the Registration Statement Form S-1 (Registration No. 33- 84824) filed by the Registrant with the SEC on October 6, 1994, as amended. (b) Reports filed on Form 8-K. None. 42 44 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. FIRST KEYSTONE FINANCIAL, INC. By: /s/ Donald S. Guthrie --------------------------------- Donald S. Guthrie President and Chief Executive Officer Pursuant to the requirements of the Securities and Exchange Act of 1934, this report had been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated. /s/ Donald S. Guthrie December 29, 1998 - ------------------------------------------------ Donald S. Guthrie President and Chief Executive Officer (Principal Executive Officer) /s/ Thomas M. Kelly December 29, 1998 - ------------------------------------------------ Thomas M. Kelly Executive Vice-President and Chief Financial Officer (Principal Financial and Accounting Officer) /s/ Donald A. Purdy December 29, 1998 - ------------------------------------------------ Donald A. Purdy Chairman of the Board /s/ William K. Beats December 29, 1998 - ------------------------------------------------ William K. Beats Director /s/ Edward Calderoni December 29, 1998 - ------------------------------------------------ Edward Calderoni Director /s/ Silvio F. D'Ignazio December 29, 1998 - ------------------------------------------------ Silvio F. D'Ignazio
43 45 /s/ Olive J. Faulkner December 29, 1998 - ------------------------------------------------ Olive J. Faulkner Director /s/ Edmund Jones December 29, 1998 - ------------------------------------------------ Edmund Jones Director /s/ Willard F. Letts December 29, 1998 - ------------------------------------------------ Willard F. Letts Director /s/ Walter J. Lewicki December 29, 1998 - ------------------------------------------------ Walter J. Lewicki Director /s/ Joan G. Taylor December 29, 1998 - ------------------------------------------------ Joan G. Taylor Director
44 EX-13 2 FIRST KEYSTONE 10-K FINANCIALS 1 EXHIBIT B SELECTED CONSOLIDATED FINANCIAL AND OTHER DATA The selected consolidated financial and other data of First Keystone Financial, Inc. set forth below does not purport to be complete and should be read in conjunction with, and is qualified in its entirety by, the more detailed information, including the Consolidated Financial Statements and related Notes, appearing elsewhere herein.
AT OR FOR THE YEAR ENDED SEPTEMBER 30, ----------------------------------------------------------------- 1998 1997 1996 1995 1994 ----------------------------------------------------------------- (dollars in thousands, except per share data) SELECTED FINANCIAL DATA: Total assets $ 415,863 $ 373,430 $ 294,241 $ 280,979 $ 237,749 - -------------------------------------------------------------------------------------------------------------------- Loans receivable, net 198,343 188,289 167,530 158,002 142,226 - -------------------------------------------------------------------------------------------------------------------- Mortgage-related securities held to maturity 18,769 20,707 23,221 60,294 68,369 - -------------------------------------------------------------------------------------------------------------------- Investment securities held to maturity 10,000 16,532 10,710 12,145 - -------------------------------------------------------------------------------------------------------------------- Assets held for sale: Mortgage-related securities 115,486 104,472 60,211 19,538 251 - -------------------------------------------------------------------------------------------------------------------- Investment securities 40,621 10,211 - -------------------------------------------------------------------------------------------------------------------- Loans 2,799 4,577 2,447 57 168 - -------------------------------------------------------------------------------------------------------------------- Real estate owned 1,663 1,672 1,557 465 503 - -------------------------------------------------------------------------------------------------------------------- Deposits 247,311 227,918 219,205 223,753 216,065 - -------------------------------------------------------------------------------------------------------------------- Borrowings 120,878 99,987 46,740 28,411 5,267 - -------------------------------------------------------------------------------------------------------------------- Stockholders' equity 26,664 24,752 23,084 24,463 11,622 - -------------------------------------------------------------------------------------------------------------------- Non-performing assets 5,367 3,749 6,909 3,621 5,879 - -------------------------------------------------------------------------------------------------------------------- SELECTED OPERATIONS DATA: Interest income $ 27,393 $ 22,750 $ 19,837 $ 18,295 $ 15,547 - -------------------------------------------------------------------------------------------------------------------- Interest expense 15,625 12,639 10,932 10,767 9,153 - -------------------------------------------------------------------------------------------------------------------- Net interest income 11,768 10,111 8,905 7,528 6,394 - -------------------------------------------------------------------------------------------------------------------- Provision for loan losses 186 239 1,250 52 416 - -------------------------------------------------------------------------------------------------------------------- Net interest income after provision for loan losses 11,582 9,872 7,655 7,476 5,978 - -------------------------------------------------------------------------------------------------------------------- Other income (expense): Service charges and other fees 898 972 1,047 1,029 1,010 - -------------------------------------------------------------------------------------------------------------------- Net gain on sales of interest-earning assets 577 285 203 113 350 - -------------------------------------------------------------------------------------------------------------------- Net gain on sale of other assets 1 46 - -------------------------------------------------------------------------------------------------------------------- Net gain (loss) on real estate activities (25) 7 2 (44) (47) - -------------------------------------------------------------------------------------------------------------------- Other 57 40 56 89 158 - -------------------------------------------------------------------------------------------------------------------- Operating expenses 9,059 6,921 8,645 7,036 7,728 - -------------------------------------------------------------------------------------------------------------------- Income (Loss) before income taxes, extraordinary item and cumulative effect of change in accounting principle 4,031 4,301 318 1,627 (279) - -------------------------------------------------------------------------------------------------------------------- Income tax expense (benefit) 1,250 1,664 (567) 504 (95) - -------------------------------------------------------------------------------------------------------------------- Extraordinary item, utilization of state tax carryforward - -------------------------------------------------------------------------------------------------------------------- Cumulative effect of change in accounting for income taxes 600 - -------------------------------------------------------------------------------------------------------------------- Net income $ 2,781 $ 2,637 $ 885(2) $ 1,123 $ 416 - -------------------------------------------------------------------------------------------------------------------- Diluted earnings per common share(1) $ 1.23 $ 1.13 $ .37(2) $ .37 N/A - --------------------------------------------------------------------------------------------------------------------
(1) Adjusted for the effect of a 2 for 1 stock split declared December 4, 1997. (2) Includes the effects of the one-time SAIF special assessment. The effects of the assessment increased operating expenses and decreased income before income taxes by $1.4 million. The effects of the assessment also decreased net income and earnings per share by $876,000 and $.74, respectively. 1 2
At or For the Year Ended September 30, ---------------------------------------------------- 1998 1997 1996 1995 1994 ---------------------------------------------------- SELECTED OPERATING RATIOS: Average yield earned on interest-earning assets 7.40% 7.54% 7.45% 7.37% 6.84% - --------------------------------------------------------------------------------------------------------- Average rate paid on interest-bearing liabilities 4.68 4.48 4.42 4.62 4.18 - --------------------------------------------------------------------------------------------------------- Average interest rate spread 2.72 3.07 3.03 2.75 2.66 - --------------------------------------------------------------------------------------------------------- Net interest margin 3.18 3.35 3.34 3.03 2.81 - --------------------------------------------------------------------------------------------------------- Ratio of interest-earning assets to interest-bearing liabilities 110.80 106.82 107.65 106.55 103.77 - --------------------------------------------------------------------------------------------------------- Net interest income after provision for loan losses to operating expenses 127.84 142.64 88.55(3) 106.25 77.36 - --------------------------------------------------------------------------------------------------------- Operating expenses as a percent of average assets 2.37 2.21 3.14(3) 2.73 3.29 - --------------------------------------------------------------------------------------------------------- Return on average assets 0.73 0.84 0.32(3) 0.44 .18 - --------------------------------------------------------------------------------------------------------- Return on average equity 11.13 11.46 3.92(3) 5.59 3.60 - --------------------------------------------------------------------------------------------------------- Ratio of average equity to average assets 6.54 7.36 8.20 7.80 4.91 - --------------------------------------------------------------------------------------------------------- Full-service offices at end of period 6 5 5 5 5 - --------------------------------------------------------------------------------------------------------- ASSET QUALITY RATIOS: (4) Non-performing loans as a percent of gross loans receivable 1.85% 1.09% 3.15% 1.98% 3.74% - --------------------------------------------------------------------------------------------------------- Non-performing assets as a percent of total assets 1.29 1.00 2.35 1.29 2.47 - --------------------------------------------------------------------------------------------------------- Allowance for loan losses as a percent of gross loans receivable 0.87 0.86 1.54 0.93 1.07 - --------------------------------------------------------------------------------------------------------- Allowance for loan losses as a percent of non-performing loans 46.92 78.38 49.03 47.12 28.65 - --------------------------------------------------------------------------------------------------------- Net loans charged-off to average interest-earning loans receivable 0.04 0.68 0.07 0.07 0.10 - --------------------------------------------------------------------------------------------------------- CAPITAL RATIOS: (4) (5) Tangible capital ratio 8.27% 8.12% 7.67% 8.23% 4.88% - --------------------------------------------------------------------------------------------------------- Core capital ratio 8.27 8.12 7.67 8.23 4.88 - --------------------------------------------------------------------------------------------------------- Risk-based capital ratio 21.09 19.91 17.24 17.82 10.13 - ---------------------------------------------------------------------------------------------------------
(3) Includes the effects of the one-time SAIF special assessment of $1.4 million. Excluding the one-time effects, the ratio of net interest income after provision for loan losses to operating expenses and operating expenses as a percent of average assets ratios were 106.04% and 2.62%, respectively. In addition, return of average assets and return on average equity were .64% and 7.79%, respectively, excluding the special assessment. (4) Asset Quality Ratios and Capital Ratios are end of period ratios, except for charge-offs to average loans. With the exception of end of period ratios, all ratios are based on average daily balances during the indicated periods. (5) Regulatory capital ratios of the Company's wholly-owned subsidiary, First Keystone Federal Savings Bank. LOANS RECEIVABLE [PIE CHART] Single Family 148088 Construction 15858 Non-residential 20563 Consumer Equity 19609 Commercial Business 1390 Other 2059
DEPOSIT ACCOUNTS [PIE CHART] Non-interest bearing accounts $ 8,254 NOW accounts $ 28,181 Passbook accounts $ 37,988 Money Market demand accounts $ 16,087 Certificate of Deposit accounts $ 156,801
2 3 MESSAGE TO OUR SHAREHOLDERS [PRESIDENT ANNOUNCES NEW OFFICE GRAPHIC] First Keystone Federal President and Chief Executive Officer Donald S. Guthrie announces plans for the Bank's newest office, slated to open in the summer of 1999 in western Delaware County, Pennsylvania. With the same attributes needed to solve the challenges of a Rubik Cube(R), patience, foresight, solid analytical thinking and good strategic planning, I am pleased to report that First Keystone's management team guided your Company to new record earnings. Despite the challenges in fiscal 1998 arising from a declining interest rate environment, your Company experienced a significant increase in its net interest income and an increase in earnings per share. Recognizing that each piece is an integral part of the whole, and accomplishments are achieved by remaining focused, the Company earned $2.8 million, or $1.23 diluted earnings per share for the year ended September 30, 1998, compared to $2.6 million, or $1.13 diluted earnings per share for fiscal 1997, reflecting a per share increase of 8.8%. 2 FOR 1 STOCK SPLIT I am pleased to report that, as a result of your Company's strong financial performance in the first quarter of fiscal 1998, First Keystone announced a 2 for 1 stock split. The dividend per share was unaffected by the stock split, thereby effectively increasing the dividend paid by 100%. This split was intended to recognize solid fundamental achievements, and reward shareholders with additional stock. The Company also instituted a dividend reinvestment plan and a stock purchase program during fiscal 1998, enabling shareholders to make additional cash purchases during the dividend declaration period directly from the Company's transfer agent. As evidenced by the nearly 50% of the Company's shareholders of record who have taken advantage of the program, it has been very well received. As our fiscal year came to a close on September 30, 1998, U.S. financial markets were experiencing great volatility as they reacted to the financial turbulence throughout the world economy. Major indexes slipped considerably in August and September from their record breaking highs earlier in the fiscal year, and like our banking peers, First Keystone's stock price was impacted by the overall uncertainty in the global economy. I am pleased to report, however, in accordance with the Company's strategic plan, the Board of Directors remained focused on building long-term shareholder value. Accordingly, I am pleased to state that the Company's stock price as of September 30, 1998, has appreciated over 170% since its initial offering in January 1995. This is a very healthy annualized rate of return of 31%. ASSETS GREW The Company's total assets increased to $415.9 million at September 30, 1998 from $373.4 million at September 30, 1997. The asset growth was primarily attributable to a $29.5 million increase in investment and mortgage-related securities available for sale to $174.9 million at fiscal year end from $145.4 million at September 30, 1997. Growth in assets can also be attributed to an increase in origination of loans receivable. The Company's net loan portfolio increased by $10.1 million to $198.3 million at September 30, 1998 from $188.3 million at September 30, 1997. SIGNIFICANT INCREASE IN DEPOSITS The asset growth was funded through increases in deposit accounts and borrowed money. I am pleased to report that deposits were up by 8.5% this fiscal year. Total deposits increased to $247.3 million at year end from $227.9 million at September 30, 1997. This increase can be attributed to cross-selling efforts in the branches, increased relationship banking with our commercial customers, and from new deposits at the Willowdale Office, 4 the Bank's most recent branch located in Chester County, Pennsylvania. [WILLOWDALE AD GRAPHIC] Aggressive advertising, a sales oriented staff, and participation in community events helped the Bank's Willowdale Office more than double its projected deposits in the first year. The Willowdale Office has more than doubled its projected deposits in less than one year. By capturing this new marketshare and by serving the needs of the customers, we reaffirm that there is a strong market niche for a progressive community bank. Although competition in the financial industry is fierce, many consumers appreciate and seek out the local bank that can make decisions quickly, provide a wide range of services and show the customer his business is important to the bank. CONTINUED EXPANSION Your Company continues to strategically implement its business plan to increase its branch operations in southern Chester County and the western part of Delaware County as these contiguous counties experience a tremendous influx of commercial and residential development. In the summer of 1999, within the heart of our market area, the newest free-standing First Keystone office will open at The Shoppes at Darlington Square in Chester Heights Borough in Delaware County, Pennsylvania. STRONG FINANCIAL POSITION The Company's increase in net interest income is primarily a result of management's investing and leveraging strategies in conjunction with the issuance of $16.2 million of trust preferred securities in August 1997. As part of the on-going capital management plan, these proceeds enabled First Keystone to continue with its asset liability strategies to leverage its capital, increase its investments in mortgage-related securities, and continue to repurchase the Company's common stock throughout the fiscal year. The Company is well capitalized with a shareholders' equity to assets ratio of 6.4% at fiscal year end. In addition, the Bank is also considered a well capitalized institution and exceeds all federal regulatory requirements. A LOOK AHEAD FOR CONTINUED SUCCESS Moving forward, our team of experienced professionals will continue to show good judgment and strong leadership. With the challenges that lie ahead from a relatively flat yield curve creating pressure on our margins, First Keystone will remain focused on each piece of its business. We will proceed using similar skills required in solving a strategic puzzle including patience, foresight and analytical thinking. Areas of concentration to increase earnings include growing the Bank's commercial loan portfolio, enhancing consumer loan programs and expanding fee based services. We will continue to aggressively market relationship checking accounts and improve the delivery system through deployment of efficient operational strategies. We will continue to explore other alternatives that could provide First Keystone with additional sources of quality assets and increase net income to enhance shareholder value. Most importantly, we will continue to do what we do best...serve the customer; and constantly strive to treat our customers the way we would like to be treated. Service is the key to our niche market -- a strong, progressive community bank that makes the customer feel welcomed and important. On behalf of the employees and the Board of Directors, I wish you a prosperous and healthy new year. We appreciate the trust that you have placed in us, and we pledge to work diligently to produce solid results again for this coming year. Sincerely, /s/ Donald S. Guthrie ----------------------------------- Donald S. Guthrie President & Chief Executive Officer 5 1998 THE YEAR IN REVIEW COMMERCIAL LENDING SLIDES INTO PLACE [TECHNOLOGY INDUSTRY GRAPHIC] Through the commercial loan department, the Bank was able to provide financing for a local company that holds a patent in the technology industry. As a locally based financial institution, the Bank's loan officers are knowledgeable about the community and well acquainted with its business leaders. As a result, management is able to quickly evaluate and approve an unsecured loan to the local volunteer fire company for a new ambulance, a real estate loan to a young couple to renovate a storefront building with upper story offices, and preliminary financing to a company in the development stage which holds a patented process in the technology industry. With each loan, a new bond is formed creating a long-term relationship and additional transaction accounts. Focusing on developing and maintaining long-term account relationships contributed to the success of the commercial lending department this fiscal year. In just its second year, the Bank's commercial lending increased its number of loan originations by 71%. The Bank's philosophy focusing on small to moderate businesses minimizes risk, and provides a diversified cross-section of borrowers throughout First Keystone's market area. BUILDING A SOLID FRAMEWORK OF CONSTRUCTION LOANS The construction, development and acquisition department continued to have a strong presence in the community. Each year additional relationships are forged with new developers as a result of First Keystone's experience, reputation and active participation in area trade associations. Enhancement of the department's computer software has enabled construction loan officers to offer more innovative loan products, such as construction revolvers. This loan is similar to a line of credit, but the loan is secured through the real estate of the development project and the cash flow revolves throughout the life of the project. The advantage to the builder is that it's faster and more efficient, enabling the developer to complete his customers' homes in a very timely manner. RESIDENTIAL LENDING REMAINS AN INTEGRAL PIECE OF THE BUSINESS Single-family residential loan originations for fiscal 1998 increased by $12.9 million. The increase was spurred, in part, by low interest rates creating a demand for both refinancing and first time homebuyers. The increase in market share can also be attributed to the Bank's outstanding reputation in the community, and the fact that many customers seek out the Bank because it is one of the few area financial institutions that still retains servicing over a majority of the loans it originates. Fiscal 1998 marked the first for an affinity program launched by the Bank with a national retailer. An innovative consumer loan program that rewarded customers with a gift certificate for The Home Depot(R) was kicked off at the close of the Company's fiscal year. In the spirit of home improvement, the Bank aggressively advertised the loan program with in-lobby banners, aprons and hard hats in addition to its multi-media advertising strategy. [ARCM CORP. GRAPHIC] ARCM Corporation's patented truck side view mirror helps prevent blind spots, right turn crashes and jackknifing. [HOME DEPOT GRAPHIC] As part of a home equity loan promotion, the consumer loan department offered gift certificates for The Home Depot(R). The Home Depot(R) is not affiliated with First Keystone Federal. The Home Depot(R) is a Registered Trademark of Homer TLC, Inc. 6 BLENDING TECHNOLOGY WITH ENHANCED PRODUCTS AND SERVICES [DEBIT CARD GRAPHIC] First Keystone introduced its debit card in the fall of 1998, and enhanced its ATM network to provide customers with on-line real time. Testing the Bank's computer systems and that of its vendors for the Year 2000 is well underway. First Keystone is testing its software and hardware on a simulated mainframe and applications are currently being performed on schedule. The Bank also enhanced its ATM network in fiscal 1998 with on-line real time. Now the customer can receive faster and more accurate account information 24 hours a day. In conjunction with this ATM enhancement, at the end of fiscal 1998, the Bank introduced its Debit Card, allowing customers to use the MasterMoney(TM) card wherever the MasterCard(R) logo is accepted. This new product has been very well received as customers appreciate the flexibility it provides in managing their money. The Company's web site at www.firstkeystone.com continued to grow in popularity with inquiries increasing throughout the year. In addition, the Bank continues to expand its Internet and Bank-By-Phone services. The Bank can now offer its commercial customers credit card merchant processing through their computers which enables the merchant to approve sales through the Internet. Blending efficient uses of technology with enhanced products and services will enable First Keystone to offer its customers the services they need provided by a staff of professionals that make it user-friendly for the consumer. THE RIGHT PRODUCT MIX IN A CHANGING MARKET [ADVERTISING CAMPAIGN GRAPHIC] Capitalizing on area bank mergers and acquisitions, First Keystone launched hard-hitting advertising campaigns throughout the year targeting displaced customers of affected institutions. Bank mergers and acquisitions continued in fiscal 1998, and First Keystone geared its marketing efforts to welcome these displaced customers. Throughout the year, the Bank offered special checking account packages for new customers and aggressively priced its products accordingly. In response to the Bank's commercial customers' requests, First Keystone introduced new products such as "Member Select" which enables business owners to offer their employees discounted and free banking services. Also, in conjunction with opening day of minor league baseball, the Bank launched an "All-Star Youth Savings Club." With each new account, the child received a collectable baseball embossed with the Wilmington Blue Rocks' logo as well as First Keystone's, a full-sized baseball pennant, stickers and a birthday gift. A community bank, as recently reported in the region's largest daily newspaper, can often deliver both innovative and basic products and services for less than the larger regional banks. [MEDIA ARTS AND CRAFTS SHOW GRAPHIC] The Bank hit a home run at the Annual Media Arts and Craft Show (which it sponsors), promoting its very popular All Star Savings Club for children. [ALL STAR SAVINGS CLUB GRAPHIC] 7 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONS AND RESULTS OF OPERATIONS GENERAL First Keystone Financial, Inc. (the "Company") is the holding company of its wholly owned subsidiary, First Keystone Federal Savings Bank (the "Bank"). For purposes of this discussion, First Keystone Financial, Inc., including its wholly owned subsidiaries, will be referred to as the "Company". The Company is a community oriented banking organization that focuses on providing customer and business services within its primary market area, consisting of Delaware and Chester counties. The following discussion should be read in conjunction with the Company's consolidated financial statements presented elsewhere herein. Accordingly, the discussion below with respect to results of operations relates primarily to the Bank, and the financial data for the periods prior to the conversion of the Bank to stock completed in January 1995, reflects solely financial data of the Bank and its subsidiaries. The Company's results of operations depend primarily on its net interest income, which is the difference between interest income on interest-earning assets, which principally consist of loans, mortgage-related securities and investment securities, and interest expense on interest-bearing liabilities, which principally consist of deposits and Federal Home Loan Bank ("FHLB") advances. The Company's results of operations also are affected by the provision for loan losses, resulting from management's assessment of the adequacy of the allowance for loan losses, the level of its non-interest income, including service charges and other fees as well as gains and losses from the sale of certain assets, the level of its operating expenses, and income tax expense. ASSET AND LIABILITY MANAGEMENT The principal objective of the Company's asset and liability management is to evaluate the interest rate risk existing in certain assets and liabilities, determine the level of risk appropriate given the Company's business focus, operating environment, capital and liquidity requirements and performance objectives, establish prudent asset concentration guidelines, and manage the risk consistent with Board approved guidelines. Through asset and liability management, the Company seeks to reduce both the vulnerability and volatility of its operations to changes in interest rates and to manage the ratio of interest-rate sensitive assets to interest-rate sensitive liabilities within specified maturities or repricing periods. The Company's actions in this regard are taken under the guidance of the Asset/Liability Committee ("ALCO"), which is chaired by the Chief Financial Officer and comprised of members of the Company's senior management. The ALCO meets at least quarterly to review, among other things, liquidity and cash flow needs, current market conditions and interest rate environment, the sensitivity to interest rate changes of the Company's assets and liabilities, the book and market values of assets and liabilities, unrealized gains and losses, and the purchase and sale activity and maturities of investments, deposits and borrowings. In addition, the pricing of the Company's residential loans and deposits is reviewed at least weekly while the pricing of loans originated for sale in the secondary market is reviewed daily. The ALCO reports to the Company's Board of Directors on at least a quarterly basis. The Company's primary asset/liability monitoring tool consists of various asset/liability simulation models, which are prepared on a quarterly basis and are designed to capture the dynamics of the balance sheet as well as rate and spread movements and to quantify variations in net interest income under different interest rate scenarios. A more conventional but limited Asset/Liability monitoring tool involves an analysis of the extent to which assets and liabilities are interest rate sensitive and measures an institution's interest rate sensitivity gap. An asset or liability is said to be interest rate sensitive within a specific time period if it will mature or reprice within that time period. The interest rate sensitivity gap is defined as the difference between interest-earning assets and interest-bearing liabilities maturing or repricing within a given time period. A gap is considered positive when the amount of interest rate sensitive assets exceeds the amount of interest rate sensitive liabilities. A gap is considered negative when the amount of interest rate sensitive liabilities exceeds interest rate sensitive assets. During a period of rising interest rates, a negative gap would tend to adversely affect net interest income, while a positive gap would tend to result in an increase in net interest income. During a period of falling interest rates, a negative gap would tend to result in an increase in net interest income, while a positive gap would tend to affect net interest income adversely. While a conventional gap measure may be useful, it 7 8 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONS AND RESULTS OF OPERATIONS (CONTINUED) ASSET AND LIABILITY MANAGEMENT (CONTINUED) is limited in its ability to predict trends in future earnings. It makes no presumptions about changes in prepayment tendencies, deposit or loan maturity preferences or repricing time lags that may occur in response to a change in the interest rate environment. For purposes of the table below, annual prepayment assumptions range from 10% to 40% for fixed-rate mortgage loans and mortgage-backed securities and 6% to 15% for adjustable rate mortgage loans and mortgage-backed securities. Passbook and statement savings accounts are assumed to decay at a rate of 30.0%, 30.0%, and 40.0% in each of the first three years, respectively. Money market ("MMDA") and negotiable order of withdrawal ("NOW") accounts are assumed to decay at a rate of 75% and 25%, in one year or less and over one year, respectively. First Keystone's passbook, statement savings, MMDA and NOW accounts are generally subject to immediate withdrawal. However, management considers a portion of these deposits to be core deposits having significantly longer effective maturities based upon the Bank's retention of such deposits in changing interest rate environments. Management believes that the assumptions used by it to evaluate the vulnerability of the Bank's operations to changes in interest rates are conservative and consider them reasonable. However, the interest rate sensitivity of the Bank's assets and liabilities as portrayed in the table below could vary substantially if different assumptions were used or actual experience differs from the assumptions used in the table. The following table summarizes the anticipated maturities or repricing of the Company's interest-earning assets and interest-bearing liabilities as of September 30, 1998, based on the information and assumptions set forth above.
More Than More Than Within Six to One Year Three Over Six Twelve to Three Years to Five Months Months Years Five Years Years Total --------- --------- --------- --------- --------- --------- (Dollars in thousands) Interest-earning assets: Loans receivable(1) $ 52,969 $ 25,765 $ 46,921 $ 28,485 $ 43,896 $ 198,036 Mortgage-related securities 41,186 18,904 49,020 21,130 4,015 134,255 Loans held for sale 2,799 2,799 Investment securities 813 12,000 2,435 30,452 45,700 Interest-earning deposits 21,669 21,669 - ------------------------------------------------------------------------------------------------------------------------------- Total interest-earning assets $ 119,436 $ 56,669 $ 95,941 $ 52,050 $ 78,363 $ 402,459 =============================================================================================================================== Interest-bearing liabilities: Deposits $ 89,459 $ 71,404 $ 76,911 $ 9,537 $ 247,311 Borrowed funds 30,325 5,159 49,425 $ 35,969 120,878 - ------------------------------------------------------------------------------------------------------------------------------- Total interest-bearing liabilities $ 119,784 $ 71,404 $ 82,070 $ 58,962 $ 35,969 $ 368,189 =============================================================================================================================== Excess (deficiency) of interest- earning assets over interest-bearing liabilities $ (348) $ (14,735) $ 13,871 $ (6,912) $ 42,394 $ 34,270 =============================================================================================================================== Cumulative excess (deficiency) of interest-earning assets over interest- bearing liabilities $ (348) $ (15,083) $ (1,212) $ (8,124) $ 34,270 =============================================================================================================================== Cumulative excess (deficiency) of interest-earning assets over interest- bearing liabilities as a percentage of total assets (0.08)% (3.63)% (0.29)% (1.95)% 8.24% ===============================================================================================================================
(1) Balances have been reduced for non-accruing loans, which amounted $3.8 million at September 30, 1998 and, with respect to construction loans, the amount of loans in process. 8 9 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONS AND RESULTS OF OPERATIONS (CONTINUED) ASSET AND LIABILITY MANAGEMENT (CONTINUED) The Company also utilizes market value analysis, which addresses the estimated change in the Company's equity value arising from movements in interest rates. The market value of portfolio equity is estimated by valuing the Company's assets and liabilities. The extent to which assets gain or lose value in relation to gains or losses of liabilities determines the appreciation or depreciation in equity on a market value basis. Market value analysis is intended to evaluate the impact of immediate and sustained shifts of the current yield curve upon the market value of the Company's current balance sheet. CHANGES IN FINANCIAL CONDITION General. Total assets of the Company increased by $42.4 million, or 11.3%, from $373.4 million at September 30, 1997 to $415.8 million at September 30, 1998. The increase reflected primarily growth in investment and mortgage-related securities available for sale and loans receivable. The asset growth was funded by increases in customer deposits and advances from the FHLB of Pittsburgh. Asset growth was also funded by a modest increase in stockholders' equity. Cash and Investments. Cash and investments (including investments available for sale) increased by $22.9 million, or 55.0%, to $64.7 million at September 30, 1998 compared to $41.8 million at September 30, 1997. The increase was primarily due to increases in investment securities available for sale as the Company increased its securities portfolio with purchases of tax-exempt municipal securities. Loans Held For Sale and Loans Receivable, Net. Aggregate loans receivable (loans receivable, net, and loans held for sale) increased $8.3 million or 4.3% to $201.1 million at September 30, 1998 compared to $192.9 million at September 30, 1997 despite increasing levels of loan prepayments due to the declining interest rate environment. Single-family mortgage loans increased $12.9 million, or 9.6%, while multi-family and commercial mortgages increased $2.3 million, or 12.3%, for the year ended September 30, 1998. Mortgage-Related Securities and Mortgage-Related Securities Available For Sale. Mortgage-related securities and mortgage-related securities available for sale increased in the aggregate by $9.1 million, or 7.3%, to $134.3 million at September 30, 1998 compared to $125.2 million at September 30, 1997. The increase was the result of the Company's continued use of leveraging to increase interest income. Non-Performing Assets. The Company's total non-performing loans (including troubled debt restructurings) and real estate owned increased $1.3 million or 31.7% from $4.1 million, or 1.1%, of total assets at September 30, 1997 to $5.4 million, or 1.0%, of total assets at September 30, 1998. The increase in the non-performing assets was primarily due to the inclusion in fiscal 1998 of one loan with a principal balance of approximately $900,000 which is collateralized by a single-family residence. Non-performing assets consist primarily of single-family residential loans. Real estate owned decreased modestly by $9,000 to $1.7 million, or .40%, of total assets at September 30, 1998 as compared to $1.7 million, or .45%, of total assets at September 30, 1997. Deposits. Deposits increased by $19.4 million, or 8.5%, from $227.9 million at September 30, 1997 to $247.3 million at September 30, 1998. This increase was primarily due to a $17.3 million increase in certificates of deposit and a $2.1 million, or 33.9%, increase in non-interest bearing accounts as the Company continues its emphasis in the commercial accounts area. Passbook, NOW and money market accounts remained relatively unchanged from the prior year. Borrowings. The Company's total borrowings increased $20.9 million to $120.9 million at September 30, 1998 from $100.0 million at September 30, 1997. The FHLB advances were used to fund loan and investment growth and had a weighted average interest rate of 5.6% at September 30, 1998. TOTAL ASSETS (DOLLARS IN THOUSANDS) [BAR GRAPH] 1996 $ 294,241 1997 $ 373,430 1998 $ 415,863
9 10 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONS AND RESULTS OF OPERATIONS (CONTINUED) CHANGES IN FINANCIAL CONDITION (CONTINUED) Equity. At September 30, 1998, total stockholders' equity was $26.7 million or 6.4% of total assets, compared to $24.8 million or 6.6% of total assets at September 30, 1997. The $1.9 million increase was due to net income for the year of $2.8 million and an increase of $1.1 million in unrealized gain on available for sale securities offset in part by the Company's stock repurchases and dividends paid aggregating $2.5 million. The slight decrease in the capital ratio was due to the increase in total assets as the Company continued to leverage its capital. Average Balances, Net Interest Income and Yields Earned and Rates Paid. The following table sets forth, for the periods indicated, information regarding (i) the total dollar amount of interest income of the Company from interest-earning assets and the resultant average yields; (ii) the total dollar amount of interest expense on interest-bearing liabilities and the resultant average rate; (iii) net interest income; (iv) interest rate spread; and (v) net interest margin. Information is based on average daily balances during the indicated periods.
YEAR ENDED SEPTEMBER 30, --------------------------------------------------------------------------- 1998 1997 YIELD/COST ------------------------------- ------------------------------- AT AVERAGE Average SEPT. 30, AVERAGE YIELD/ Average Yield/ 1998 BALANCE INTEREST COST Balance Interest Cost --------------------------------------------------------------------------- (Dollars in Thousands) Interest-earning assets: Loans receivable(1) (2) 8.05% $197,776 $ 16,447 8.32% $179,566 $ 14,737 8.21% Mortgage-related securities(2) 6.75 123,283 8,029 6.51 92,393 6,197 6.71 Investment securities(2) 5.99 38,475 2,429 6.31 21,774 1,478 6.79 Other interest-earning assets 5.80 10,585 488 4.61 7,793 338 4.34 - -------------------------------------------------------------------------------------------------------------------------- Total interest-earning assets 7.27 370,119 $ 27,393 7.40 301,526 $ 22,750 7.54 Noninterest-earning assets 11,608 11,193 - -------------------------------------------------------------------------------------------------------------------------- Total assets $381,727 $312,719 ========================================================================================================================== Interest-bearing liabilities: Deposits 4.21 $234,937 $ 9,937 4.23 $221,140 $ 9,182 4.15 FHLB advances and other borrowings 5.68 99,092 5,688 5.74 61,124 3,457 5.65 - -------------------------------------------------------------------------------------------------------------------------- Total interest-bearing liabilities 4.69 334,029 15,625 4.68 282,264 12,639 4.47 Noninterest-bearing liabilities 22,730 7,453 - -------------------------------------------------------------------------------------------------------------------------- Total liabilities 356,759 289,717 Stockholders' equity 24,968 23,002 - -------------------------------------------------------------------------------------------------------------------------- Total liabilities and stockholders' equity $381,727 $312,719 ========================================================================================================================== Net interest-earning assets $ 36,090 $ 19,262 ========================================================================================================================== Net interest income/interest rate spread 2.58% $ 11,768 2.72% $ 10,111 3.07% ========================================================================================================================== Net yield on interest-earning assets(3) 3.18% 3.35% ========================================================================================================================== Ratio of average interest-earning assets to average interest-bearing liabilities 110.80% 106.82% ========================================================================================================================== --------------------------------- 1996 --------------------------------- Average Average Yield/ Balance Interest Cost ---------- ---------------------- Interest-earning assets: Loans receivable(1) (2) $ 164,359 $ 13,459 8.19% Mortgage-related securities(2) 80,539 5,229 6.49 Investment securities(2) 11,534 715 6.20 Other interest-earning assets 9,930 434 4.37 - ----------------------------------------------------------------------------- Total interest-earning assets 266,362 $ 19,837 7.45 Noninterest-earning assets 9,325 - ------------------------------------------------------------------------------ Total assets $ 275,687 ============================================================================= Interest-bearing liabilities: Deposits $220,303 $ 9,363 4.25 FHLB advances and other borrowings 27,119 1,569 5.79 - ----------------------------------------------------------------------------- Total interest-bearing liabilities 247,422 10,932 4.42 Noninterest-bearing liabilities 5,210 - ----------------------------------------------------------------------------- Total liabilities 252,632 Stockholders' equity 22,604 - ----------------------------------------------------------------------------- Total liabilities and stockholders' equity $ 275,687 ============================================================================= Net interest-earning assets $ 18,940 ============================================================================= Net interest income/interest rate spread $ 8,905 3.03% ============================================================================= Net yield on interest-earning assets(3) 3.34% ============================================================================= Ratio of average interest-earning assets to average interest-bearing liabilities 107.65% =============================================================================
(1) Includes non-accrual loans. (2) Includes assets classified as either available for sale or held for sale. (3) Net interest income divided by interest-earning assets. 10 11 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONS AND RESULTS OF OPERATIONS (CONTINUED) CHANGES IN FINANCIAL CONDITION (CONTINUED) Rate/Volume Analysis. The following table describes the extent to which changes in interest rates and changes in volume of interest-related assets and liabilities have affected the Company's interest income and expense during the periods indicated. For each category of interest-earning assets and interest-bearing liabilities, information is provided on changes attributable to (i) changes in volume (change in volume multiplied by prior year rate), (ii) changes in rate (change in rate multiplied by prior year volume), and (iii) total change in rate and volume. The combined effect of changes in both rate and volume has been allocated proportionately to the change due to rate and the change due to volume.
YEAR ENDED SEPTEMBER 30, -------------------------------------------------------------------- 1998 VS. 1997 1997 VS. 1996 -------------------------------------------------------------------- INCREASE INCREASE (DECREASE) DUE TO (DECREASE) DUE TO -------------------------------------------------------------------- TOTAL INCREASE TOTAL INCREASE RATE VOLUME (DECREASE) RATE VOLUME (DECREASE) -------------------------------------------------------------------- Interest-earnings assets: Loans receivable(1) $ 198 $1,512 $1,710 $ 30 $ 1,248 $ 1,278 Mortgage-related securities(1) (174) 2,006 1,832 178 790 968 Investment securities(1) (95) 1,046 951 74 689 763 Other interest-earning assets 22 128 150 (3) (93) (96) - ----------------------------------------------------------------------------------------------------------------- Total interest-earning assets (49) 4,692 4,643 279 2,634 2,913 - ----------------------------------------------------------------------------------------------------------------- Interest-bearing liabilities: Deposits 174 581 755 (217) 36 (181) FHLB advances and other borrowings (2) 2,233 2,231 (34) 1,922 1,888 - ----------------------------------------------------------------------------------------------------------------- Total interest-bearing liabilities 172 2,814 2,986 (251) 1,958 1,707 - ----------------------------------------------------------------------------------------------------------------- Increase (decrease) in net interest income $(221) $1,878 $1,657 $ 530 $ 676 $ 1,206 - -----------------------------------------------------------------------------------------------------------------
(1) Includes assets classified as either available for sale or held for sale. RESULTS OF OPERATIONS NET INCOME (Dollars in thousands) [BAR GRAPH] 1995 $ 1,123 1996 $ 1,426 1997 $ 2,637 1998 $ 2,781
General. The Company reported net income of $2.8 million, $2.6 million and $885,000 for the years ended September 30, 1998, 1997 and 1996, respectively. The $144,000 increase in net income for the year ended September 30, 1998 compared to the year ended September 30, 1997 was primarily due to a $1.7 million, or 16.4%, increase in net interest income, a $158,000, or 11.7%, increase in other income, and a $414,000 decrease in income tax expense offset by a $2.1 million, or 30.9%, increase in operating expenses. The increase in operating expenses for the year ended September 30, 1998 was primarily due to the minority interest expense related to the issuance of certain trust preferred securities. The $1.7 million increase in net income for the year ended September 30, 1997 compared to the year ended September 30, 1996 was primarily due to a $1.2 million, or 13.5%, increase in net interest income, a $1.7 million, or 19.9%, decrease in operating expenses and a $1.0 million decrease in the provision for loan losses offset in part by a $2.2 million increase in income taxes. The decrease in operating expenses for the year ended September 30, 1997 as compared to fiscal 1996 was primarily due to the one-time SAIF special assessment recognized in fiscal 1996. Excluding this assessment, net income increased $1.1 million in fiscal 1997, an increase of 73.1% over that earned in fiscal 1996. Net Interest Income. Net interest income is determined by interest rate spread (i.e., the difference between the yields earned on interest-earning assets and the rates paid on interest-bearing liabilities) and the relative amounts of interest-earning assets and interest-bearing liabilities. The Company's average interest-rate spread was 2.72%, 3.07% and 3.03% during the years ended September 30, 1998, 1997 and 1996, respectively. The Company's interest-rate spread was 2.58% at September 30, 1998. The Company's net interest margin (i.e., net interest income as a percentage of average interest-earning 11 12 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONS AND RESULTS OF OPERATIONS (CONTINUED) RESULTS OF OPERATIONS (CONTINUED) assets) was 3.18%, 3.35% and 3.34% during the years ended September 30, 1998, 1997 and 1996, respectively. In fiscal 1998, the Company's net interest spread and net interest margin were impacted by the relatively flat yield curve in which assets have repriced at lower interest rate levels than liabilities. NET INTEREST INCOME (DOLLARS IN THOUSANDS) [BAR GRAPH] 1995 $ 7,528 1996 $ 8,905 1997 $ 10,111 1998 $ 11,768
Net interest income increased by $1.7 million, or 16.4%, in the year ended September 30, 1998 to $11.8 million compared to $10.1 million in fiscal 1997. The reason for such increase was a $4.6 million, or 20.4%, increase in interest income partially offset by a $3.0 million, or 23.6%, increase in interest expense. Net interest income increased by $1.2 million, or 13.5%, in fiscal 1997 compared to fiscal 1996 due to a $2.9 million, or 14.7%, increase in total interest income offset in part by a $1.7 million, or 15.6%, increase in total interest expense. Interest Income. Total interest income amounted to $27.4 million for the year ended September 30, 1998 compared to $22.8 million for the year ended September 30, 1997. The primary reason for the increase in the 1998 period was a $2.9 million, or 36.6%, increase in interest income from mortgage-related securities, investments and other interest-earning assets as a result of a $50.4 million, or 41.3%, increase in the average balance thereof. Such increase was partially offset by a 22 basis point (with 100 basis points being equal to 1.0%) decrease in the yield earned thereon. The increase in the average balances was due to increased leveraging of the Company's capital base while the decrease in the yield reflected the effects of both purchases of lower yielding tax free municipal obligations as well as the declining interest rate environment existing during fiscal 1998. In addition, interest income from loans increased $1.7 million, or 11.6%, due to a $18.2 million, or 10.1%, increase in the average loan balance and a 11 basis point increase in the yield earned thereon. The increase in the average balance of the loan portfolio in fiscal 1998 reflected increased originations of primarily fixed-rate loans held in portfolio. The $2.9 million, or 14.7%, increase in total interest income during the year ended September 30, 1997 over 1996 was primarily due to a $1.6 million, or 25.6%, increase in interest income from mortgage-related securities, investments and other interest-earning assets as a result of a $20.0 million, or 19.6%, increase in the average balance thereof and a 32 basis point increase in the yield earned thereon. The increase in the average balances and the yield was due to increased leveraging of the Company's capital base during fiscal 1997 and investment in higher yielding assets. Additionally, interest income on loans increased $1.3 million, or 9.5%, due to a $15.2 million, or 9.3%, increase in the average balance of the loan portfolio and a 2 basis point increase in the average yield earned thereon. The increase in the average balance of the loan portfolio in fiscal 1997 reflects increased originations of both fixed and adjustable-rate loans held in portfolio. Interest Expense. Total interest expense increased by $3.0 million, or 23.6%, in the year ended September 30, 1998 compared to fiscal 1997. The reason for such increase was a $2.2 million increase in interest expense on borrowings and $755,000 increase in interest expense on deposits. The increase in interest expense on borrowings was due to a $38.0 million increase in the average balance of total borrowings and a 9 basis point increase in the average rate paid thereon. The increase in interest paid on deposits was due to a $13.8 million increase in the average balance of deposits combined with an 8 basis point increase in the average rate paid. The increase in the average balances of deposits and borrowings was used to fund loan originations and purchases of investment securities. The modest increase in the rates paid on deposits and borrowings was due to general market interest rate fluctuations. Total interest expense amounted to $12.6 million for the year ended September 30, 1997 as compared to $10.9 million for fiscal 1996. The $1.7 million, or 15.6%, increase in interest expense in fiscal 1997 compared to fiscal 1996 was due to a $1.9 million increase in interest expense on borrowings offset partially by a $181,000 decrease in interest expense on deposits. The increase in interest expense on borrowings was due to a $34.0 million increase in the average balance partially offset by a 14 basis 12 13 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONS AND RESULTS OF OPERATIONS (CONTINUED) RESULTS OF OPERATIONS (CONTINUED) point decline in the average rate paid on borrowings. The decrease in interest paid on deposits was due to an 10 basis point decline in the average rate paid on deposits offset in part by a $837,000 increase in the average balance of deposits. The increase in the average balances of borrowings and deposits was used to fund mortgage originations and the purchase of mortgage-related and investment securities. The decrease in the average rate paid on deposits and borrowings was due to general market interest rate fluctuations. OTHER INCOME (DOLLARS IN THOUSANDS) [BAR GRAPH] 1996 $ 1,308 1997 $ 1,350 1998 $ 1,543
Provisions for Loan Losses. Provisions for loan losses are charged to earnings to bring the total allowance for loan losses to a level considered appropriate by management based on historical experience, the volume and type of lending conducted by the Company, the amount of the Company's classified assets, the status of past due principal and interest payments, general economic conditions, particularly as they relate to the Company's primary market area, and other factors related to the collectibility of the Company's loan and loans held for sale portfolios. Management of the Company assesses the allowance for loan losses on a monthly basis and makes provisions for loan losses as deemed appropriate in order to maintain the adequacy of the allowance for loan losses. For the year ended September 30, 1998, the provision for loan losses amounted to $186,000 as compared to $239,000 for fiscal 1997. For the year ended September 30, 1996, the provision for loan losses was $1.2 million. The substantial provision established for potential losses in fiscal 1996 related to the Bennett Funding bankruptcies which were resolved in fiscal 1997. At September 30, 1998, the Company's allowance for loan losses amounted to 46.9% of total non-performing loans and .87% of gross loans receivable. Although management of the Company believes that the Company's allowance for loan losses was adequate at September 30, 1998, based on facts and circumstances available to it, there can be no assurances that additions to such allowance will not be necessary in future periods, which would adversely affect the Company's results of operations for such periods. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Company's provision for loan losses and the carrying value of its other non-performing assets based on their judgments about information available to them at the time of their examination. Other Income. For the year ended September 30, 1998, the Company reported other income of $1.5 million compared to $1.4 million for the year ended September 30, 1997. The primary reason for the $158,000 or 11.7% increase in other income in fiscal 1998 was a $241,000 increase in net gain on sales of mortgage loans held for sale and a $51,000 gain on the sale of investments and mortgage-related securities partially offset by a decrease of $74,000 in service charges and other fees. The $42,000, or 3.2%, increase in other income for the year ended September 30, 1997 as compared to fiscal 1996 was due to increases in gains on sales of mortgage loans of $76,000 and gain on sale of other assets of $46,000 partially offset by a decrease of $75,000 in service charges and other fees. The increase in gains on sales of loans for fiscal 1998 and 1997 reflected the Company's increased emphasis on the origination and sale, servicing released, of non-conforming loans. See Note 6 to the Consolidated Financial Statements. Operating Expenses. Operating expenses include compensation and employee benefits, occupancy and equipment expense, Federal Deposit Insurance Corporation ("FDIC") insurance premiums, data processing expense and other items. Operating expenses increased $2.1 million, or 30.9%, for the year ended September 30, 1998 compared to the year ended September 30, 1997 and amounted to $9.1 million in fiscal 1998 compared to $6.9 million in fiscal 1997. The primary reason for the substantially higher level of operating expenses for fiscal 1998 was the $1.6 million minority interest in expense of subsidiary relating to the issuance of trust preferred securities by the Company. See Note 20 to the Consolidated Financial Statements for further information regarding the trust preferred securities. Also contributing to the increase was a $468,000, or 14.7% increase in compensation expense, a $241,000, or 30.2% increase in other expenses, and a $155,000, or 18.1%, increase in occupancy and equipment 13 14 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONS AND RESULTS OF OPERATIONS (CONTINUED) RESULTS OF OPERATIONS (CONTINUED) expense partially offset by a $153,000, or 20.9%, decrease in professional fees and a $62,000, or 30.0%, decrease in FDIC insurance premiums. Expansion of the branch network contributed to both the increased occupancy and equipment expense and compensation expense. Compensation expense also increased due to general salary increases as well as increased costs associated with the market value accounting for the employee stock ownership plan in accordance with Statement of Position 93-6. The increase in other expenses was due to a provision established for the Company's real estate owned property. Operating expenses decreased $1.7 million, or 19.9%, to $6.9 million for the year ended September 30, 1997 compared to the year ended September 30, 1996. The primary reason for the decrease in operating expenses in fiscal 1997 was the one-time Savings Association Insurance Fund ("SAIF") special assessment of $1.4 million relating to deposit insurance charged in fiscal 1996. The special assessment was the result of legislation enacted in the fall of 1996 which was designed to recapitalize the SAIF insurance fund to the 1.25% of total insured deposits required by the FDIC. The recapitalization decreased the amount of insurance that the Company now pays to insure deposit accounts from $.23 per $100 of deposits to $.065 per $100, which amount effectively reflects the amount required to be paid by SAIF-insured institutions to pay the debt service on bonds issued by the Financing Corporation. FDIC insurance premium expense was reduced by $323,000, or 60.9% for fiscal 1997. Also contributing to the decrease in operating expenses was a $311,000 charge to earnings in fiscal 1996 for certain costs relating to the restructuring that the Company effected in fiscal 1996. Offsetting these decreases were modest increases in advertising, other expenses and a $153,000 expense for minority interests in expense of subsidiaries which relates to expenses incurred from the issuance of the Company's trust preferred securities. Income Taxes. The Company recognized income tax expenses of $1.3 million, or 31.0%, of pre-tax income, for the year ended September 30, 1998, compared to $1.7 million, or 38.7%, of pre-tax income, for the year ended September 30, 1997. The primary reason for the decrease in the percentage of tax expense was the reduction in state income taxes and the increase in tax-free income resulting from purchases of tax-exempt securities, as the Company employed various strategies to reduce both federal and state income taxes. The Company recognized an income tax benefit of $567,000 for fiscal 1996. The benefit in fiscal 1996 was the result of an adjustment for prior year tax contingencies of approximately $700,000. Excluding this benefit, the income tax expense would have been $133,000, or 41.8%, of pre-tax income. Federal legislation enacted in August 1996 repealed the percentage of taxable income method of accounting for bad debts for thrift institutions effective for years beginning after December 31, 1995. The Company was required as of October 1, 1996 to adopt the experience method computation for bad debts and to provide for taxes relating to excess bad debts reserves over the base year of December 1987. As of September 30, 1998, the Company has provided deferred income taxes totalling $74,000 on its excess bad debt reserves. LIQUIDITY AND CAPITAL RESOURCES The Company's liquidity, represented by cash and cash equivalents, is a product of its operating, investing and financing activities. The Company's primary sources of funds are deposits, amortization, prepayments and maturities of outstanding loans and mortgage-related securities, sales of loans, maturities of investment securities and other short-term investments, borrowings and funds provided from operations. While scheduled payments from the amortization of loans and mortgage-related securities and maturing investment securities and short-term investments are relatively predictable sources of funds, deposit flows and loan prepayments are greatly influenced by general interest rates, economic conditions and competition. In addition, the Company invests excess funds in overnight deposits and other short-term interest-earning assets which provide liquidity to meet lending 14 15 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONS AND RESULTS OF OPERATIONS (CONTINUED) LIQUIDITY AND CAPITAL RESOURCES (CONTINUED) requirements. The Company has the ability to obtain advances from the FHLB of Pittsburgh through several credit programs and in addition, has established a line of credit with the FHLB in an amount not to exceed 10% of assets and subject to certain conditions, including holding a predetermined amount of FHLB stock as collateral. This line of credit is used from time to time for liquidity purposes. As an additional source of funds, the Company has access to the Federal Reserve discount window, but only after it has exhausted its access to the FHLB of Pittsburgh. At September 30, 1998, the Company had $101.6 million of outstanding advances from the FHLB of Pittsburgh. LOANS RECEIVABLE (DOLLARS IN THOUSANDS) [BAR GRAPH] 1996 $ 167,530 1997 $ 188,289 1998 $ 198,343
Liquidity management is both a daily and long-term function of business management. Excess liquidity is generally invested in short-term investments such as overnight deposits. On a longer term basis, the Company maintains a strategy of investing in various lending products and mortgage-related securities. The Company uses its sources of funds primarily to meet its ongoing commitments, to pay maturing savings certificates and savings withdrawals, fund loan commitments and maintain a portfolio of mortgage-backed and investment securities. At September 30, 1998, the total of approved loan commitments outstanding amounted to $11.8 million. At the same date, commitments under unused lines of credit and loans in process on construction loans amounted to $14.6 million. Certificates of deposit scheduled to mature in one year or less at September 30, 1998 totalled $113.8 million. Based upon its historical experience, management believes that a significant portion of maturing deposits will remain with the Company. The Company is required by the Office of Thrift Supervision ("OTS") to maintain average daily balances of liquid assets, defined as a ratio of cash and certain marketable securities that can be readily converted into cash to total deposits and short-term borrowings, of 4% to assure its ability to meet demand for withdrawals and repayment of short-term borrowings. The Company's liquidity ratio under these guidelines was 4.98% for the quarter ended September 30, 1998. The OTS requires that the Bank meet minimum regulatory tangible, core, tier 1 risk-based and total risk-based capital requirements. At September 30, 1998, the Bank exceeded all regulatory capital requirements and was deemed a well capitalized institution for regulatory purposes. See Note 13 to the Consolidated Financial Statements. The Company's assets consist primarily of its investment in the Bank and investments in various corporate debt and equity instruments and its only material source of income consists of earnings from its investment in the Bank and interest and dividends earned on other investments. The Company, as a separately incorporated holding company, has no significant operations other than serving as the sole stockholder of the Bank and paying interest to its subsidiary for junior subordinated debt in conjunction with the issuance of trust preferred securities. On an unconsolidated basis, the Company has no paid employees. The expenses incurred by the Company relate to its reporting obligations under the Securities Exchange Act of 1934, related expenses incurred as a publicly traded company, and expenses relating to the issuance of the trust preferred securities. Management believes that the Company has adequate liquidity available to respond to its liquidity demands. Under applicable federal regulations, the Bank may pay dividends within certain limits after providing written notice to the OTS. See Note 21 to the Consolidated Financial Statements. RECENT ACCOUNTING PRONOUNCEMENTS In June 1997, FASB issued SFAS No. 130, "Reporting Comprehensive Income," which requires an entity to present, as a component of comprehensive income, the amounts from transactions and other events which currently are excluded from the statement of income and are recorded directly to stockholders' equity. 15 16 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONS AND RESULTS OF OPERATIONS (CONTINUED) RECENT ACCOUNTING PRONOUNCEMENTS (CONTINUED) Also in June 1997, FASB issued SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information" which requires an entity to disclose information in a manner consistent to internally used information and requires more detailed disclosures of operating and reporting segments than are currently in practice. In February 1998, the FASB issued SFAS No. 132, "Employers' Disclosure About Pensions and Other Postretirement Benefits." This statement revises employers' disclosures about pension and other postretirement benefit plans. It does not change the measurement or recognition of those plans. These statements are effective for fiscal years beginning after December 15, 1997. Management has not completed an analysis of the effect the adoption of the statements will have on the Company's financial condition or results of operations. In June 1998, SFAS No 133, "Accounting for Derivative Instruments and Hedging Activities," was issued. This statement requires that an entity recognize all derivatives as either assets or liabilities in the statement of financial condition and measure those instruments at fair value. The accounting for changes in the fair value of a derivative depends on the intended use of the derivative and the resulting designation. This statement is effective for fiscal years beginning after June 15, 1999, and will not be applied retroactively to financial statements of prior periods. Management of the Company does not believe this statement will have a material impact on the Company financial position or results of operations when adopted. IMPACT OF INFLATION AND CHANGING PRICES The Consolidated Financial Statements of the Company and related notes presented herein have been prepared in accordance with generally accepted accounting principles which require the measurement of financial position and operating results in terms of historical dollars, without considering changes in the relative purchasing power of money over time due to inflation. Unlike most industrial companies, substantially all of the assets and liabilities of a financial institution are monetary in nature. As a result, interest rates have a more significant impact on a financial institution's performance than the effects of general levels of inflation. Interest rates do not necessarily move in the same direction or in the same magnitude as the prices of goods and services, since such prices are affected by inflation to a larger extent than interest rates. In the current interest rate environment, liquidity and the maturity structure of the Company's assets and liabilities are critical to the maintenance of acceptable performance levels. YEAR 2000 ISSUES (YEAR 2000 READINESS DISCLOSURE STATEMENT) In order to be ready for the year 2000 (the "Year 2000 Issue"), the Company has developed a Year 2000 Policy (the "Policy") which was presented to the Board of Directors during June 1997. The Policy was developed using the guidelines outlined in the Federal Financial Institutions Examination's Council's "The Effect of 2000 on Computer Systems". The Board of Director and their Executive Committee assigned responsibility for the Policy to the Year 2000 Committee, which reports to the Board of Directors on a monthly basis. The Policy recognizes that the Company's operating, processing and accounting operations are computer reliant and could be affected by the Year 2000 Issue. The Company is primarily reliant on third party vendors for its computer output and processing, as well as other significant functions and services (i.e., securities safekeeping services, securities pricing information, etc.). The Year 2000 Committee is continually working with these third party vendors to assess their year 2000 readiness. Based upon the initial assessment, management presently believes that with planned modifications to existing software and hardware and planned conversions to new software and hardware, the Company's third party vendors are taking the appropriate steps to ensure critical systems will function properly. The Company has identified 63 priority 1 (directly effects customers) and 58 priority 2 (effects employee's ability to service customers) third party vendors. Of such priority 1 and priority 2 vendors, the Company has been informed that 33% are already Year 2000 compliant. The Company's data service processing vendor, which is our major software provider, has informed the 16 17 MANAGEMENT'S DISCUSSION AND ANALYSIS OF Financial Conditions and Results of Operations (continued) YEAR 2000 ISSUES (CONTINUED) Company that it expects to complete testing of its updated systems (in which testing the Company has been involved) by the end of April 1999. The initial phase of testing of the data service processor's updated system will be completed in February 1999. Substantially all of the Company's vendors of its priority 1 and priority 2 applications (discussed below) have provided assurances, written or oral, that they are working to make their products and services Year 2000 compliant. The Company currently expects the majority of such modifications and conversions and related testing of such systems to be completed by December 31, 1998 with any remaining ones being completed by March 31, 1999. While the Company has received assurances from such vendors as to compliance, such assurances are not guarantees and may not be enforceable. The Company's existing older contracts with such vendors do not include Year 2000 certifications or warranties. Thus, in the event such vendor's products and/or services are not Year 2000 compliant, the Company's recourse in the event of such failure maybe limited. If the required modifications and conversions are not made, or are not completed on a timely basis, the Year 2000 Issue could have a material impact on the operations of the Company. There can be no assurance that potential system interruptions or unanticipated additional expense incurred to obtain Year 2000 compliance would not have a material adverse effect on the Company's business, financial condition, results of operations and business prospects. Nevertheless, the Company does not believe that the cost of addressing the Year 2000 issues will be a material event or uncertainty that would cause reported financial information not to be necessarily indicative of future operating results or financial conditions, nor does it believe that the costs or the consequences of incomplete or untimely resolution of its Year 2000 issues represents a known material event or uncertainty that is reasonably likely to affect its future financial results, or cause its reported financial information not to be necessarily indicative of future operating results or future financial condition. The Year 2000 issues also affect certain of the Company's customers, particularly in the areas of access to funds and additional expenditures to achieve compliance. As of February 28, 1998, the Company had contacted all of its commercial credit customers (19 borrowers with loans outstanding aggregating $10.0 million) regarding the customers awareness of the Year 2000 Issue. While no assurance can be given that the customers will be Year 2000 compliant, management believes, based on representations of such customers and reviews of their operations (including assessments of the borrowers' level of sophistication and data and record keeping requirements), that the customers are either addressing the appropriate issues to insure compliance or that they are not faced with material Year 2000 issues. In substantially all cases the credit extended to such borrowers is collateralized by real estate which inherently minimizes the Company's exposure in the event that such borrowers do experience problems becoming Year 2000 compliant. The Company has completed its own company-wide Year 2000 contingency plan. Individual contingency plans concerning specific software and hardware issues and operational plans for continuing operations were completed for a substantial majority of its mission critical hardware and software applications as of September 15, 1998 with the remainder expected to be completed by the end of 1998. The Year 2000 Committee has reviewed substantially all mission critical test plans and contingency plans to ensure the reasonableness of the plans. Testing began on mission critical systems in August 1998 and planned completion of testing of a majority of such systems is expected by December 1998 with the remainder by March 31, 1999. The Company has completed contingency plans for substantially all priority 1 and priority 2 applications. The Company is working to develop contingency plans for the remainder by the end of 1998 including working on contingency plans which address operational policies and procedures in the event of data processing, electric power supply and/or telephone service failures associated with the Year 2000. Such contingency plans provide documented actions to allow the Company to maintain 17 18 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONS AND RESULTS OF OPERATIONS (CONTINUED) YEAR 2000 ISSUES (CONTINUED) and/or resume normal operations in the event of the failure of priority 1 and priority 2 applications. Such plans identify participants, processes and equipment that will be necessary to permit the Company to continue operations. Such plans may include providing off-line system processing, back-up electrical and telephone systems and other methods to ensure the Company's ability to continue to operate. The costs of modifications to the existing software is being primarily absorbed by the third party vendors. The Company recognizes that the need exists to purchase new hardware and software regardless of year 2000 implications. Based upon current estimates, the Company has identified the hardware and software that would have to be replaced, and have found the amounts to not be material and in line with normal expenditures for technology upgrades. The Company is being charged $25,000 to participate in the data service processor year 2000 test system. As of September 30, 1998, the Company has incurred $13,328 of that cost. FORWARD LOOKING STATEMENTS In this Report, the Company has included certain "forward looking statements" concerning the future operations of the Company. It is management's desire to take advantage of the "safe harbor" provisions of the Private Securities Litigation Reform Act of 1995. This statement is for the express purpose of availing the Company of the protections of such safe harbor with respect to all "forward looking statements" contained in this Report. The Company has used "forward looking statements" to describe the future plans and strategies including management's expectations of the Company's Year 2000 readiness and future financial results. Management's ability to predict results or the effect of future plans and strategy is inherently uncertain. Factors that could affect results include interest rate trends, competition, the general economic climate in Delaware and Chester Counties, the mid-Atlantic region and the country as a whole, loan delinquency rates, changes in federal and state regulation, Year 2000 uncertainties and other uncertainties described in the Company's filings with the Securities and Exchange Commission, including its Form 10-K for the year ended September 30, 1998. These factors should be considered in evaluating the "forward looking statements", and undue reliance should not be placed on such statements. 18 19 [DELOITTE & TOUCHE LOGO] Board of Directors First Keystone Financial, Inc. and Subsidiaries Media, Pennsylvania 19063 We have audited the accompanying consolidated statements of financial condition of First Keystone Financial, Inc. and Subsidiaries (the "Company") as of September 30, 1998 and 1997, and the related consolidated statements of income, stockholders' equity and cash flows for each of the three years in the period ended September 30, 1998. 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 referred to above present fairly, in all material respects, the consolidated financial position of First Keystone Financial, Inc. and Subsidiaries at September 30, 1998 and 1997 and the results of their operations and their cash flows for each of the three years in the period ended September 30, 1998 in accordance with generally accepted accounting principles. /s/ DELOITTE & TOUCHE LLP DELOITTE & TOUCHE LLP Philadelphia, Pennsylvania November 6, 1998 DELOITTE TOUCHE TOHMATSU INTERNATIONAL 19 20 FIRST KEYSTONE FINANCIAL, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION (dollars in thousands, except per share data) - --------------------------------------------------------------------------------
SEPTEMBER 30 ----------------------- 1998 1997 ----------------------- ASSETS Cash and amounts due from depository institutions $ 2,457 $ 1,832 Interest-bearing deposits with depository institutions 21,669 19,729 - ---------------------------------------------------------------------------------------------------- Total cash and cash equivalents 24,126 21,561 Investment securities available for sale 40,621 10,211 Mortgage-related securities available for sale 115,486 104,472 Loans held for sale 2,799 4,577 Investment securities held to maturity--at amortized cost (approximate fair value of $9,960) 10,000 Mortgage-related securities held to maturity--at amortized cost (approximate fair value of $18,700 and $20,200 at September 30, 1998 and 1997, respectively) 18,769 20,707 Loans receivable--net 198,343 188,289 Accrued interest receivable 3,117 2,565 Real estate owned 1,663 1,672 Federal Home Loan Bank stock--at cost 5,079 3,769 Office properties and equipment--net 2,612 2,552 Deferred income taxes 283 680 Prepaid expenses and other assets 2,965 2,375 - ---------------------------------------------------------------------------------------------------- Total Assets $ 415,863 $ 373,430 ==================================================================================================== LIABILITIES, MINORITY INTEREST IN SUBSIDIARY AND STOCKHOLDERS' EQUITY Liabilities: Deposits $ 247,311 $ 227,918 Advances from Federal Home Loan Bank 101,578 75,387 Securities sold under agreements to repurchase 19,300 24,600 Accrued interest payable 1,683 1,575 Advances from borrowers for taxes and insurance 1,036 913 Accounts payable and accrued expenses 2,091 2,085 - ---------------------------------------------------------------------------------------------------- Total liabilities 372,999 332,478 - ---------------------------------------------------------------------------------------------------- Guaranteed preferred beneficial interest in subordinated debt 16,200 16,200 - ---------------------------------------------------------------------------------------------------- Stockholders' Equity: Preferred stock, $.01 par value, 10,000,000 shares authorized; none issued Common stock, $.01 par value, 20,000,000 shares authorized; issued and outstanding; September 30, 1998 and 1997, 2,329,216 and 2,585,000 shares, respectively 14 14 Additional paid in capital 13,204 12,896 Common stock acquired by stock benefit plans (1,789) (2,038) Treasury stock at cost, 390,784 and 263,162 shares at September 30, 1998 and 1997, respectively (4,575) (2,545) Unrealized gain on available for sale securities--net of tax 1,487 408 Retained earnings--partially restricted 18,323 16,017 - ---------------------------------------------------------------------------------------------------- Total stockholders' equity 26,664 24,752 - ---------------------------------------------------------------------------------------------------- Total Liabilities, Minority Interest in Subsidiary and Stockholders' Equity $415,863 $ 373,430 ====================================================================================================
See notes to consolidated financial statements. 20 21 FIRST KEYSTONE FINANCIAL, INC. AND SUBSIDIARIES Consolidated Statements of Income (dollars in thousands, except per share data) - --------------------------------------------------------------------------------
YEAR ENDED SEPTEMBER 30 ---------------------------------- 1998 1997 1996 ---------------------------------- INTEREST INCOME: Interest on: Loans $ 16,447 $ 14,737 $ 13,459 Mortgage-related securities 8,029 6,197 5,229 Investments 2,429 1,478 715 Interest-bearing deposits 488 338 434 - ----------------------------------------------------------------------------------------- TOTAL INTEREST INCOME 27,393 22,750 19,837 - ----------------------------------------------------------------------------------------- INTEREST EXPENSE: Interest on: Deposits 9,937 9,182 9,363 Federal Home Loan Bank advances 4,206 3,381 1,569 Securities sold under agreements to repurchase 1,482 76 - ----------------------------------------------------------------------------------------- TOTAL INTEREST EXPENSE 15,625 12,639 10,932 - ----------------------------------------------------------------------------------------- Net interest income 11,768 10,111 8,905 Provision for loan losses 186 239 1,250 - ----------------------------------------------------------------------------------------- Net interest income after provision for loan losses 11,582 9,872 7,655 - ----------------------------------------------------------------------------------------- OTHER INCOME (LOSS): Service charges and other fees 898 972 1,047 Net gain (loss) on sale of: Investments and mortgage-related securities 51 (6) Loans held for sale 526 285 209 Real estate owned 7 32 34 Other assets 1 46 Real estate operations (32) (25) (32) Other income 57 40 56 - ----------------------------------------------------------------------------------------- TOTAL OTHER INCOME 1,508 1,350 1,308 - ----------------------------------------------------------------------------------------- OPERATING EXPENSES: Salaries and employee benefits 3,642 3,174 3,236 Occupancy and equipment 1,013 858 1,022 Professional fees 580 733 793 Federal deposit insurance premium 145 207 530 SAIF special assessment 1,426 Bank service charges 417 384 401 Data processing 360 335 337 Advertising 293 280 201 Minority interest in expense of subsidiary 1,571 153 Other 1,038 797 699 - ----------------------------------------------------------------------------------------- TOTAL OPERATING EXPENSES 9,059 6,921 8,645 - ----------------------------------------------------------------------------------------- Income before income tax expense (benefit) 4,031 4,301 318 Income tax expense (benefit) 1,250 1,664 (567) - ----------------------------------------------------------------------------------------- NET INCOME $ 2,781 $ 2,637 $ 885 ========================================================================================= EARNINGS PER COMMON SHARE: Basic $ 1.31 $ 1.20 $ 0.37 Diluted $ 1.23 $ 1.13 $ 0.37
See notes to consolidated financial statements. 21 22 FIRST KEYSTONE FINANCIAL, INC. AND SUBSIDIARIES Consolidated Statements of Changes in Stockholders' Equity (dollars in thousands) - --------------------------------------------------------------------------------
UNREALIZED COMMON GAIN (LOSS)ON STOCK SECURITIES TOTAL ADDITIONAL ACQUIRED BY AVAILABLE STOCK- COMMON PAID-IN STOCK BENEFIT TREASURY FOR SALE RETAINED HOLDERS' STOCK CAPITAL PLANS STOCK (NET OF TAX) EARNINGS EQUITY - ------------------------------------------------------------------------------------------------------------------------------ Balance at October 1, 1995 $ 14 $ 12,568 $(1,006) $ 142 $12,745 $24,463 Common stock acquired by stock benefit plans (704) (704) ESOP stock committed to be released 109 109 Excess of fair value above cost of ESOP shares committed to be released 91 91 RRP amortization 164 164 Net unrealized loss relating to transfer of securities from held to maturity to available for sale, net of tax (227) (227) Net unrealized loss on securities available for sale, net of tax (409) (409) Purchase of treasury stock $ (1,288) (1,288) Net income 885 885 - ------------------------------------------------------------------------------------------------------------------------------ Balance at September 30, 1996 14 12,659 (1,437) (1,288) (494) 13,630 23,084 Common stock acquired by stock benefit plans (775) (775) ESOP stock committed to be released 33 33 Excess of fair value above cost of ESOP and RRP shares committed to be released 237 237 RRP amortization 141 141 Net unrealized gain on securities available for sale, net of tax 902 902 Exercise of stock options 11 11 Purchase of treasury stock (1,268) (1,268) Dividends paid (250) (250) Net income 2,637 2,637 - ------------------------------------------------------------------------------------------------------------------------------ Balance at September 30, 1997 14 12,896 (2,038) (2,545) 408 16,017 24,752 ESOP stock committed to be released 108 108 Excess of fair value above cost of ESOP and RRP shares committed to be released 308 308 RRP amortization 141 141 Net unrealized gain on securities available for sale, net of tax 1,079 1,079 Exercise of stock options 6 6 Purchase of treasury stock (2,036) (2,036) Dividends paid (475) (475) Net income 2,781 2,781 - ------------------------------------------------------------------------------------------------------------------------------ Balance at September 30, 1998 $ 14 $ 13,204 $(1,789) $ (4,575) $ 1,487 $18,323 $26,664 ==============================================================================================================================
See notes to consolidated financial statements. 22 23 FIRST KEYSTONE FINANCIAL, INC. AND SUBSIDIARIES Consolidated Statements of Cash Flows (dollars in thousands) - --------------------------------------------------------------------------------
YEAR ENDED SEPTEMBER 30 ------------------------------------ 1998 1997 1996 ------------------------------------ OPERATING ACTIVITIES: Net income $ 2,781 $ 2,637 $ 885 Adjustments to reconcile net income to net cash provided by (used in) operating activities: Provision for depreciation and amortization 453 364 520 Amortization of discounts (609) (872) (161) Gain (Loss) on sales of: Loans held for sale (526) (285) (209) Investments and mortgage-related securities available for sale (51) 6 Real estate owned (7) (32) (34) Other assets (1) (46) Provision for loan losses 186 239 1,250 Provision for real estate owned losses 200 Amortization of stock benefit plans 563 422 364 Changes in assets and liabilities which provided (used) cash: Origination of loans held for sale (56,398) (37,209) (30,239) Loans sold in the secondary market 58,176 35,079 27,849 Deferred income taxes (112) 862 (700) Accrued interest receivable (552) (161) 3 Prepaid expenses and other assets (590) (740) (297) Accrued interest payable 108 74 405 Accounts payable and accrued expenses 6 (705) 569 - --------------------------------------------------------------------------------------------------------- Net cash (used in) provided by operating activities 3,627 (373) 211 - --------------------------------------------------------------------------------------------------------- INVESTING ACTIVITIES: Loans originated or acquired (64,979) (56,049) (52,056) Purchases of: Investments held to maturity (2,000) (12,000) Investments available for sale (40,892) (6,030) (18,000) Mortgage-related securities held to maturity (2,687) (4,013) Mortgage-related securities available for sale (52,422) (51,654) (25,770) Purchase of FHLB stock (1,310) (1,432) (845) Proceeds from sales of investment and mortgage-related securities available for sale 20,299 17,790 Proceeds from sales of real estate owned 1,451 944 1,009 Proceeds from sales of other assets 30 101 Principal collected on loans 55,694 35,418 40,160 Proceeds from maturities, calls or repayments of: Investment securities available for sale 5,070 12,500 3,065 Mortgage-related securities available for sale 28,129 9,243 3,908 Investment securities held to maturity 12,000 2,000 4,000 Mortgage-related securities held to maturity 4,663 2,483 8,347 Purchase of property and equipment (542) (409) (84) Net expenditures on real estate acquired through foreclosure and in development (1,462) (734) (371) - --------------------------------------------------------------------------------------------------------- Net cash (used in) investing activities (38,958) (65,619) (22,860) - --------------------------------------------------------------------------------------------------------- FINANCING ACTIVITIES: Net increase (decrease) in deposit accounts 19,393 8,713 (4,548) Net proceeds from FHLB and other borrowings 20,891 53,247 18,329 Net increase (decrease) in advances from borrowers for taxes and insurance 123 (8) (114) Proceeds from issuance of capital securities 16,200 Common stock acquired by stock benefit plans (775) (704) Purchase of treasury stock (2,036) (1,268) (1,288) Cash dividends (475) (250) - --------------------------------------------------------------------------------------------------------- Net cash provided by financing activities 37,896 75,859 11,675 - --------------------------------------------------------------------------------------------------------- Increase (Decrease) in cash and cash equivalents 2,565 9,867 (10,974) Cash and cash equivalents at beginning of year 21,561 11,694 22,668 - --------------------------------------------------------------------------------------------------------- Cash and cash equivalents at end of year $ 24,126 $ 21,561 $ 11,694 - --------------------------------------------------------------------------------------------------------- SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION: Cash payments for interest on deposits and borrowings $ 15,517 $ 12,600 $ 10,500 Cash payments of income taxes 1,150 630 720 Transfers of loans receivable into real estate owned 207 411 1,768 Transfers of investment securities to investment securities available for sale 6,710 Transfers of mortgage-related securities to mortgage-related securities available for sale 43,823 =========================================================================================================
See notes to consolidated financial statements. 23 24 FIRST KEYSTONE FINANCIAL, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED SEPTEMBER 30, 1998, 1997 AND 1996 (DOLLARS IN THOUSANDS) 1. NATURE OF OPERATIONS AND ORGANIZATION STRUCTURE On September 21, 1994, the Board of Directors of First Keystone Federal Savings Bank (the "Bank") adopted a plan of conversion to convert from a federally chartered mutual savings bank to a federally chartered capital stock savings bank with the concurrent formation of a holding company (the "Conversion"). The Conversion was completed on January 25, 1995 with the issuance by the holding company, First Keystone Financial, Inc. (the "Company"), of 1,360,000 shares of its common stock in a public offering to the Bank's eligible depositors and borrowers, members of the general public and the Bank's employee stock ownership plan (the "ESOP"). In exchange for the net conversion proceeds of $11.5 million, less $1.0 million retained by the Company, the Company acquired 100% of the issued and outstanding capital stock of the Bank. The Bank is principally in the business of attracting deposits through its branch offices and investing those deposits together with funds from borrowings and operations in single-family residential, commercial real estate and commercial business loans. The Bank is primarily supervised and regulated by the Office of Thrift Supervision ("OTS"). 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES PRINCIPLES OF CONSOLIDATION The accompanying consolidated financial statements include the accounts of the Company, the Bank, and the Bank's wholly-owned subsidiaries. Intercompany accounts and transactions have been eliminated in consolidation. USE OF ESTIMATES IN THE PREPARATION OF FINANCIAL STATEMENTS 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 consolidated financial statements and the reported amounts of income and expenses during the reporting period. Actual results could differ from those estimates. SECURITIES HELD TO MATURITY AND SECURITIES AVAILABLE FOR SALE Securities held to maturity are carried at amortized cost only if the Company has the positive intent and ability to hold these securities to maturity. Securities available for sale are carried at fair value with resulting unrealized gains or losses recorded to equity, net of tax. At September 30, 1998 and 1997, there were no securities held in a trading account. In November 1995, the Financial Accounting Standards Board (the "FASB") issued a special report, "A Guide to Implementation of Statement 115 on Accounting for Certain Investments in Debt and Equity Securities" (the "Questions and Answers Guide"). In December 1995, in accordance with the provisions of the Questions and Answers Guide, the Company reclassified certain securities with an aggregate amortized cost of $50.5 million from held to maturity to available for sale. The Questions and Answers Guide provided that reclassifications from the held-to-maturity category that resulted from this one-time reassessment would not call into question the intent of an enterprise to hold other debt securities to maturity in the future. ALLOWANCE FOR LOAN LOSSES An allowance for loan losses is maintained at a level that management considers adequate to provide for probable losses based upon an evaluation of known and inherent risks in the loan portfolio. Management's evaluation of the portfolio is based upon past loss experience, current economic conditions and other relevant factors. While management uses the best information available to make such evaluation, future adjustments to the allowance may be necessary if conditions differ substantially from the assumptions used in making the evaluations. The Company accounts for impaired loans in accordance with Statement of Financial Accounting Standards ("SFAS") No. 114 "Accounting by Creditors for Impairment of a Loan" and No. 118, "Accounting by Creditors for 24 25 FIRST KEYSTONE FINANCIAL, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) YEARS ENDED SEPTEMBER 30, 1998, 1997 AND 1996 (DOLLARS IN THOUSANDS) 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued) Impairment of a Loan - Income Recognition and Disclosures." Impaired loans are predominantly measured based on the fair value of the collateral. The provision for loan losses charged to expense is based upon past loan loss experience and an evaluation of possible losses and impairment existing in the current loan and lease portfolio. A loan is considered to be impaired when, based upon current information and events, it is probable that the Company will be unable to collect all amounts due according to the original contractual terms of the loan. An insignificant delay or insignificant shortfall in amounts of payments does not necessarily result in the loan being identified as impaired. For this purpose, delays less than 90 days are considered to be insignificant. Large groups of smaller balance homogeneous loans, including residential real estate and consumer loans, are collectively evaluated for impairment, except for loans restructured under a troubled debt restructuring. The majority of loans classified as impaired on an individual basis are construction and commercial loans and commercial loans secured by real estate. MORTGAGE BANKING ACTIVITIES The Company originates mortgage loans held for investment and for sale. At origination, the mortgage loan is identified as either held for sale or for investment. Mortgage loans held for sale are carried at the lower of cost or forward committed contracts (which approximates market), determined on a net aggregate basis. At September 30, 1998, 1997, and 1996, loans serviced for others totalled approximately $96,275, $114,554 and $127,229, respectively. Servicing loans for others consists of collecting mortgage payments, maintaining escrow accounts, disbursing payments to investors, and processing foreclosures. Loan servicing income is recorded on the cash basis and includes servicing fees from investors and certain charges collected from borrowers, such as late payment fees. The Company has fiduciary responsibility for related escrow and custodial funds aggregating approximately $824 and $793 at September 30, 1998 and 1997, respectively. The Company adopted SFAS No. 125 "Accounting for Transfers and Servicing of Financial Assets and Extinquishments of Liabilities" at January 1, 1997. This statement requires an entity which sells loans with servicing retained to assess the retained interest in the servicing asset or liability associated with the sold loans based on the relative fair values. The servicing asset or liability is amortized in proportion to and over the period of estimated net servicing income or net servicing loss, as appropriate. Assessment of the fair value of the retained interest is performed on a continuing basis. The adoption of this statement did not have a material impact on the Company's financial position or results of operations. INCOME RECOGNITION ON LOANS Interest on loans is credited to income when earned. Accrual of loan interest is discontinued and a reserve established on existing accruals if management believes after considering, among other things, economic and business conditions and collection efforts, that the borrowers' financial condition is such that collection of interest is doubtful. REAL ESTATE OWNED Real estate owned consists of properties acquired by foreclosure or deed in-lieu-of foreclosure. These assets are initially recorded at the lower of carrying value of the loan or estimated fair value less selling costs at the time of foreclosure and at the lower of the new cost basis or net realizable value thereafter. The amounts recoverable from real estate owned could differ materially from the amounts used in arriving at the net carrying value of the assets at the time of foreclosure because of future market factors beyond the control of the Company. Costs relating to the development and improvement of real estate owned properties are capitalized and those relating to holding the property are charged to expense. OFFICE PROPERTIES AND EQUIPMENT Office properties and equipment are recorded at cost. Depreciation is computed using the straight-line method over the expected useful lives of the assets. The costs of maintenance and repairs are expensed as they are incurred, and renewals and betterments are capitalized. 25 26 FIRST KEYSTONE FINANCIAL, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) YEARS ENDED SEPTEMBER 30, 1998, 1997 AND 1996 (DOLLARS IN THOUSANDS) 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) INCOME TAXES Deferred income taxes are recognized for the tax consequences of "temporary differences" by applying enacted statutory tax rates applicable to future years to differences between the financial statement carrying amounts and the tax bases of existing assets and liabilities. The effect on deferred taxes of a change in tax rates is recognized in income in the period that includes the enactment date. INTEREST RATE RISK At September 30, 1998 and 1997, the Company's assets consist primarily of assets that earned interest at either adjustable or fixed interest rates and the average life of which is long term. Those assets were funded primarily with medium-term liabilities that have interest rates which vary over time with market rates. Since the assets and liabilities reprice at different times, the Company is exposed to interest rate risk. EARNINGS PER SHARE In February 1997, the FASB issued SFAS No. 128 "Earnings Per Share." This statement establishes standards for computing and presenting earnings per share ("EPS") for financial statements issued for periods ending after December 15, 1997, and requires restatement of all prior-period EPS data presented. The adoption of this statement did not have a material impact on the Company's financial statements. ACCOUNTING FOR STOCK OPTIONS The Company accounts for stock options in accordance with SFAS No. 123 "Accounting for Stock-Based Compensation," which allows an entity to choose between the intrinsic value method, as defined in Accounting Principals Board Opinion ("APB") No. 25, "Accounting for Stock Issued to Employees" or the fair value method of accounting for stock-based compensation described in SFAS No. 123. An entity using the intrinsic value method must disclose pro forma net income and earnings per share as if the stock-based compensation was accounted for using the fair value method. The Company continues to account for stock-based compensation using the intrinsic value method and has not recognized compensation expense under this method. STATEMENT OF CASH FLOWS For purposes of reporting cash flows, cash and cash equivalents include cash and amounts due from depository institutions and interest-bearing deposits with depository institutions. NEW ACCOUNTING PRONOUNCEMENTS NOT YET ADOPTED In June 1997, FASB issued SFAS No. 130, "Reporting Comprehensive Income," which requires an entity to present, as a component of comprehensive income, the amounts from transactions and other events which currently are excluded from the statement of income and are recorded directly to stockholders' equity. Also in June 1997, FASB issued SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information" which requires an entity to disclose information in a manner consistent to internally used information and requires more detailed disclosures of operating and reporting segments than are currently in practice. In February 1998, the FASB issued SFAS No. 132, "Employers' Disclosure About Pensions and Other Postretirement Benefits." This statement revises employers' disclosures about pension and other postretirement benefit plans. It does not change the measurement or recognition of those plans. These statements are effective for fiscal years beginning after December 15, 1997. Management has not completed an analysis of the effect the adoption of the statements will have on the Company's financial condition or results of operations. In June 1998, SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities," was issued. This statement requires that an entity recognize all derivatives as either assets or liabilities in the statement of financial condition and measure those instruments at fair value. The accounting for changes in the fair value of a derivative depends on the intended use of the derivative and the resulting designation. This 26 27 FIRST KEYSTONE FINANCIAL, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) YEARS ENDED SEPTEMBER 30, 1998, 1997 AND 1996 (DOLLARS IN THOUSANDS) 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued) statement is effective for fiscal years beginning after June 15, 1999, and will not be applied retroactively to financial statements of prior periods. Management of the Company does not believe this statement will have a material impact on the Company financial position or results of operations when adopted. RECLASSIFICATIONS Certain reclassifications have been made to the September 30, 1997 and 1996 consolidated financial statements to conform with the September 30, 1998 presentation. Such reclassifications had no impact on the reported net income. 3. INVESTMENT SECURITIES The amortized cost and approximate fair value of investment securities available for sale and held to maturity, by contractual maturities (where applicable), are as follows:
SEPTEMBER 30, 1998 ------------------------------------------------------ GROSS GROSS AMORTIZED UNREALIZED UNREALIZED APPROXIMATE COST GAIN LOSS FAIR VALUE ------------------------------------------------------ Available for Sale: U.S. Treasury securities and securities of U.S. Government agencies: 5 to 10 years $ 12,000 $ 109 $12,109 Municipal obligations 18,993 484 19,477 Mutual funds 2,000 $ 8 1,992 Preferred stocks 5,500 263 5,763 Other equity investments 1,390 110 1,280 - --------------------------------------------------------------------------------------------------- Total $ 39,883 $856 $ 118 $40,621 ===================================================================================================
September 30, 1997 ------------------------------------------------------ Gross Gross Amortized Unrealized Unrealized Approximate Cost Gain Loss Fair Value ------------------------------------------------------ Available for Sale: U.S. Treasury securities and securities of U.S. Government agencies: 1 to 5 years $ 4,000 $ 15 $ 4,015 5 to 10 years 3,000 $ 17 2,983 Municipal obligations 3,138 75 3,213 - --------------------------------------------------------------------------------------------------- Total $10,138 $ 90 $ 17 $10,211 =================================================================================================== Held to Maturity: U.S. Treasury securities and securities of U.S. Government agencies: Over 10 years $10,000 $ 40 $9,960 - --------------------------------------------------------------------------------------------------- Total $10,000 $ 40 $9,960 ===================================================================================================
27 28 FIRST KEYSTONE FINANCIAL, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) YEARS ENDED SEPTEMBER 30, 1998, 1997 AND 1996 (DOLLARS IN THOUSANDS) 4. MORTGAGE-RELATED SECURITIES Mortgage-related securities available for sale and mortgage-related securities held to maturity are summarized as follows:
SEPTEMBER 30, 1998 ------------------------------------------------------ GROSS GROSS AMORTIZED UNREALIZED UNREALIZED APPROXIMATE COST GAIN LOSS FAIR VALUE ------------------------------------------------------ Available for Sale: FHLMC pass-through certificates $ 10,968 $ 197 $ 11,165 FNMA pass-through certificates 25,600 503 26,103 GNMA pass-through certificates 41,379 562 41,941 Collateralized mortgage obligations 36,022 327 $ 72 36,277 - --------------------------------------------------------------------------------------------------- Total $ 113,969 $ 1,589 $ 72 $115,486 =================================================================================================== Held to Maturity: FHLMC pass-through certificates $ 4,698 $ 33 $ 1 $ 4,730 FNMA pass-through certificates 8,747 46 103 8,690 Collateralized mortgage obligations 5,324 1 45 5,280 - --------------------------------------------------------------------------------------------------- Total $ 18,769 $ 80 $ 149 $ 18,700 ===================================================================================================
September 30, 1997 ------------------------------------------------------- Gross Gross Amortized Unrealized Unrealized Approximate Cost Gain Loss Fair Value ------------------------------------------------------- Available for Sale: FHLMC pass-through certificates $ 17,540 $ 213 $ 9 $ 17,744 FNMA pass-through certificates 14,587 149 21 14,715 GNMA pass-through certificates 28,938 133 17 29,054 Collateralized mortgage obligations 42,814 376 231 42,959 - --------------------------------------------------------------------------------------------------- Total $ 103,879 $ 871 $ 278 $104,472 =================================================================================================== Held to Maturity: FHLMC pass-through certificates $ 2,747 $ 15 $ 52 $ 2,710 FNMA pass-through certificates 10,053 29 272 9,810 Collateralized mortgage obligations 7,907 17 244 7,680 - --------------------------------------------------------------------------------------------------- Total $ 20,707 $ 61 $568 $ 20,200 ===================================================================================================
The collateralized mortgage obligations contain both fixed and adjustable classes of securities which are repaid in accordance with a predetermined priority. The underlying collateral of the securities are loans which are primarily insured by FHLMC, FNMA, and GNMA. Mortgage-related securities with a carrying value of $27,846 and $21,923 were pledged as collateral for public funds on deposit, treasury tax and loan processing and financings at September 30, 1998 and 1997, respectively (see Notes 9 and 11). 5. ACCRUED INTEREST RECEIVABLE The following is a summary of accrued interest receivable by category:
SEPTEMBER 30 ----------------------------- 1998 1997 ----------------------------- Loans $ 1,542 $ 1,593 Mortgage-related securities 823 726 Investment securities 752 246 - ------------------------------------------------------------------------------------------------ Total $ 3,117 $ 2,565 ================================================================================================
28 29 FIRST KEYSTONE FINANCIAL, INC. AND SUBSIDIARIES notes to Consolidated Financial Statements (Continued) Years Ended September 30, 1998, 1997 and 1996 (dollars in thousands) 6. LOANS RECEIVABLE Loans receivable consist of the following:
SEPTEMBER 30 ---------------------- 1998 1997 ---------------------- Real estate loans: Single-family $ 148,088 $ 135,168 Construction and land 15,858 16,400 Multi-family and commercial 20,563 18,305 Consumer loans: Home equity and lines of credit 19,609 22,964 Deposit 181 348 Education 449 365 Other 1,429 1,690 Commercial loans 1,390 2,000 - ----------------------------------------------------------- Total loans 207,567 197,240 Loans in process (5,781) (5,670) Allowance for loan losses (1,738) (1,628) Deferred loan fees (1,705) (1,653) - ----------------------------------------------------------- Loans receivable--net $ 198,343 $ 188,289 ===========================================================
The Company originates loans primarily in its local market area of Delaware and Chester Counties, Pennsylvania to borrowers that share similar attributes. This concentration of credit exposes the Company to a higher degree of risk associated with this economic region. To a lesser extent, the Company participates in the origination and sale of nonagency, non-conforming loans to the secondary market. The Company recognized gains on sale of loans held for sale of $526,000, $281,000 and $183,000 for fiscal years ended September 30, 1998, 1997 and 1996, respectively. The Company offers loans to its directors and senior officers on terms permitted by OTS regulations. There were approximately $388 and $440 of loans outstanding to senior officers and directors as of September 30, 1998 and 1997, respectively. The amount of repayments during the years ended September 30, 1998 and 1997 totalled $102 and $266, respectively. There was $50 and $271 of new loans granted during fiscal year 1998 and 1997, respectively. The Company has undisbursed portions under consumer and commercial lines of credit as of September 30, 1998 of $4,587 and $4,238, respectively. The Company originates both adjustable and fixed interest rate loans and purchases mortgage-backed securities and collateralized mortgage obligations in the secondary market. The originated adjustable-rate loans have interest rate adjustment limitations and are generally indexed to U.S. Treasury securities plus a fixed margin. Future market factors may affect the correlation of the interest rate adjustment with rates the Company pays on the short-term deposits that have been primarily utilized to fund these loans. The adjustable-rate mortgage-related securities adjust to various national indices plus a fixed margin. At September 30, 1998, the composition of these loans and mortgage-related securities follows:
FIXED-RATE - --------------------------------------- TERM TO MATURITY BOOK VALUE - --------------------------------------- 1 month to 1 year $ 3,102 1 year to 3 years 5,962 3 years to 5 years 7,141 5 years to 10 years 19,123 Over 10 years 203,205 - --------------------------------------- Total $ 238,533 =======================================
ADJUSTABLE-RATE - --------------------------------------- TERM TO RATE ADJUSTMENT BOOK VALUE - --------------------------------------- 1 month to 1 year $ 76,949 1 year to 3 years 18,583 3 years to 5 years 1,976 - --------------------------------------- Total $ 97,508 =======================================
The following is an analysis of the allowance for loan losses:
YEAR ENDED SEPTEMBER 30 ------------------------- 1998 1997 1996 ------------------------- Beginning balance $1,628 $2,624 $1,487 Provisions charged to income 186 239 1,250 Charge-offs (114) (1,252) (113) Recoveries 38 17 - ----------------------------------------------- Total $1,738 $1,628 $2,624 ===============================================
At September 30, 1998 and 1997, non-performing loans (which include loans in excess of 90 days delinquent) amounted to approximately $3,704 and $2,077, respectively. 29 30 FIRST KEYSTONE FINANCIAL, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements (Continued) Years Ended September 30, 1998, 1997 and 1996 (dollars in thousands) 7. REAL ESTATE OWNED Real estate owned is comprised of:
SEPTEMBER 30 ---------------- 1998 1997 ---------------- Real estate acquired in settlement of loans $ 196 $ 168 Real estate acquired and in development 1,467 1,504 - ---------------------------------------------- Total $ 1,663 $1,672 ==============================================
In fiscal year 1996, First Pointe, Inc., a subsidiary of the Company, accepted a deed in lieu of foreclosure on a construction loan for the acquisition and improvement of a 106-lot real estate development project located in Pennsylvania. As of September 30, 1998, 91 of the townhouses were completed and sold. Work-in-process consists of 15 units of which two consist of a sample home and a sales office. 8. OFFICE PROPERTIES AND EQUIPMENT Office properties and equipment are summarized by major classification as follows:
SEPTEMBER 30 -------------------- 1998 1997 -------------------- Land and buildings $ 4,220 $4,045 Furniture, fixtures and equipment 3,753 3,448 - ---------------------------------------------- Total 7,973 7,493 Accumulated depreciation and amortization (5,361) (4,941) - ---------------------------------------------- Net $ 2,612 $2,552 ==============================================
The future minimum rental payments required under operating leases that have initial or remaining noncancelable lease terms in excess of one year as of September 30, 1998 are as follows:
September 30: 1999 $ 119 2000 121 2001 53 2002 36 2003 27 Thereafter 59 - ---------------------------------------------- Total minimum future rental payments $ 415 ==============================================
Leasehold expense was approximately $197, $148 and $155 for the years ended September 30, 1998, 1997 and 1996, respectively. 9. DEPOSITS Deposits consist of the following major classifications:
SEPTEMBER 30 -------------------------------------------------- 1998 1997 -------------------------------------------------- AMOUNT PERCENT Amount Percent - -------------------------------------------------------------------------------------------- Non-interest bearing accounts $ 8,254 3.3% $ 6,165 2.7% NOW accounts 28,181 11.4 27,754 12.2 Passbook accounts 37,988 15.4 38,035 16.7 Money market demand accounts 16,087 6.5 16,429 7.2 Certificate of deposit accounts 156,801 63.4 139,535 61.2 - -------------------------------------------------------------------------------------------- Total $ 247,311 100.0% $ 227,918 100.0% ============================================================================================
The weighted average interest rates paid on deposits were 4.21% and 4.26% at September 30, 1998 and 1997, respectively. Included in deposits as of September 30, 1998 are deposits greater than $100,000 totalling approximately $30,700. At September 30, 1998 and 1997, the Company had pledged certain mortgage-related securities aggregating approximately $1,633 and $2,870, respectively, as collateral for government deposits. 30 31 FIRST KEYSTONE FINANCIAL, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) YEARS ENDED SEPTEMBER 30, 1998, 1997 AND 1996 (DOLLARS IN THOUSANDS) 9. DEPOSITS (continued) A summary of scheduled maturities of certificates is as follows:
SEPTEMBER 30 1998 ------------ Within one year $ 109,908 One to two years 26,535 Two to three years 10,821 Thereafter 9,537 - ----------------------------------------- Total $ 156,801 =========================================
A summary of interest expense on deposits is as follows:
YEAR ENDED SEPTEMBER 30 ------------------------- 1998 1997 1996 - --------------------------------------------- NOW accounts $ 376 $ 360 $ 372 Passbook accounts 923 949 1,030 Money market demand accounts 452 450 487 Certificates of deposit accounts 8,186 7,423 7,474 - --------------------------------------------- Total $ 9,937 $9,182 $ 9,363 =============================================
10. ADVANCES FROM FEDERAL HOME LOAN BANK A summary of advances from the Federal Home Loan Bank ("FHLB") of Pittsburgh follows:
SEPTEMBER 30 ------------------------------------------------- 1998 1997 ------------------------------------------------- WEIGHTED Weighted AVERAGE average INTEREST interest AMOUNT RATE Amount rate ------------------------------------------------- Advances from FHLB due by September 30, 1998 $ 33,200 5.7% 1999 $ 30,325 5.8% 11,325 5.7 2000 5,159 5.4 257 6.0 Thereafter 66,094 5.5 30,605 5.6 - --------------------------------------------------------------------------------------------- Total $ 101,578 5.6% $ 75,387 5.7% =============================================================================================
The advances are collateralized by Federal Home Loan Bank stock and substantially all first mortgage loans held by the company. Included in the table above at September 30, 1998 are convertible advances whereby the FHLB has the option at a predetermined time to convert the fixed interest rate to an adjustable rate tied to LIBOR. The Company then has the option to prepay these advances if the FHLB converts the interest rate. These advances are included in the year in which they mature. The Company has available an annually renewable line of credit not to exceed 10% of the Company's maximum borrowing capacity which was $20.5 million at the time the commitment was executed. At September 30, 1998 and 1997, there were no balances outstanding on the line of credit. 31 32 FIRST KEYSTONE FINANCIAL, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements (Continued) Years Ended September 30, 1998, 1997 and 1996 (dollars in thousands) 11. SECURITIES SOLD UNDER AGREEMENT TO REPURCHASE The Company sold, under agreements to repurchase, mortgage-related securities to broker-dealers. Securities underlying the agreements with broker-dealers were delivered to the dealer who arranged the transaction. Securities delivered to broker-dealers may have been sold, loaned, or otherwise disposed of, such securities to other parties in the normal course of their operations. Information concerning securities sold under agreements to repurchase is summarized as follows:
SEPTEMBER 30 ------------------------------- 1998 1997 ------------------------------- Average balance for months outstanding $24,411 $11,179 - ------------------------------------------------------------------------------------- Average interest rate for months outstanding 6.07% 5.90% - ------------------------------------------------------------------------------------- Maximum month-end balance during the year $24,600 $24,600 - ------------------------------------------------------------------------------------- Mortgage-related securities underlying the agreements at year-end: Carrying value $23,055 $27,255 - ------------------------------------------------------------------------------------- Estimated fair value $23,385 $27,267 - -------------------------------------------------------------------------------------
12. INCOME TAXES In August 1996, the Small Business Job Protection Act (the "Act") was signed into law. The Act repealed the percentage of taxable income method of accounting for bad debts for thrift institutions effective for years beginning after December 31, 1995. Prior to October 1, 1996, the Company was permitted under the Internal Revenue Code (the "Code") to deduct an annual addition to the reserve for bad debts in determining taxable income, subject to certain limitations. The Company's deduction was based upon the percentage of taxable income method as defined by the Code. The bad debt deduction allowable under this method equaled 8% of taxable income determined without regard to that deduction and with certain adjustments. This addition differs from the bad debt experience used for financial accounting purposes. The Act required the Company, as of October 1, 1996, to change its method of computing reserves for bad debts to the experience method. The bad debt deduction allowable under this method is available to small banks with assets less than $500 million. Generally, this method allowed the Company to deduct an annual addition to the reserve for bad debts equal to the increase in the balance of the Company's reserve for bad debts at the end of the year to an amount equal to the percentage of total loans at the end of the year, computed using the ratio of the previous six years net chargeoffs divided by the sum of the previous six years total outstanding loans at year end. The Company treated such change as a change in a method of accounting determined solely with respect to the "applicable excess reserves" of the institution. The amount of the applicable excess reserves will be taken into account ratably over a six-taxable year period, beginning with the first taxable year beginning after December 31, 1995. For financial reporting purposes, the Company will not incur any additional tax expense. At September 30, 1997, under SFAS No. 109, deferred taxes were provided on the difference between the book reserve at September 30, 1997 and the applicable excess reserve in the amount equal to the Bank's increase in the tax reserve from December 31, 1987 to September 30, 1996. Retained earnings at September 30, 1998, 1997 and 1996 included approximately $2.5 million representing bad debt deductions for which no deferred income taxes have been provided. Income tax expense (benefit) is comprised of the following:
YEAR ENDED SEPTEMBER 30 -------------------------- 1998 1997 1996 - ------------------------------------------------ Current Federal $1,362 $ 489 $ 30 State 313 103 - ------------------------------------------------ Subtotal 1,362 802 133 Deferred (112) 862 (700) - ------------------------------------------------ Total $1,250 $1,664 $ (567) ================================================
32 33 FIRST KEYSTONE FINANCIAL, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) YEARS ENDED SEPTEMBER 30, 1998, 1997 AND 1996 (DOLLARS IN THOUSANDS) 12. INCOME TAXES (CONTINUED) The Company's effective tax rate is less than the statutory federal income tax rate for the following reasons:
YEAR ENDED SEPTEMBER 30 ------------------------------------------------------------- 1998 1997 1996 ------------------------------------------------------------- PERCENTAGE Percentage Percentage OF PRETAX of Pretax of Pretax AMOUNT INCOME Amount Income Amount Income ------------------------------------------------------------- Tax at statutory rate $ 1,370 34.0% $1,462 34.0% $ 108 34.0% Increase (decrease) in taxes resulting from: Adjustment for resolution of tax contingency (700) (220.2) Tax exempt interest, net (149) (3.7) (24) (.6) (14) (4.3) State tax--net of federal tax effect 207 4.8 68 21.3 Other 29 .7 19 .5 (29) (9.1) - -------------------------------------------------------------------------------------------------------------- Total $ 1,250 31.0% $1,664 38.7% $ (567) (178.3)% ==============================================================================================================
The tax effect of temporary differences that give rise to significant portions of the deferred tax accounts, calculated at 34%, are as follows:
SEPTEMBER 30 ------------------ 1998 1997 ------------------ Accelerated depreciation $ 249 $ 221 Allowance for loan losses 634 525 Deferred loan fees (61) (43) Accrued expenses 161 185 Unrealized gain (loss) on available for sale securities (767) (258) Other 67 50 - ------------------------------------------------------ Total deferred tax asset $ 283 $ 680 ======================================================
13. REGULATORY CAPITAL REQUIREMENTS The Bank 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 and the regulatory framework for prompt corrective action, the Bank must meet specific capital guidelines that involve quantitative measures of the Bank's assets, liabilities, and certain off-balance items as calculated under regulatory accounting practices. The Bank's capital amounts and classification are also subject to qualitative judgments by regulators about components, risk weightings, and other factors. Quantitative measures established by regulation to ensure capital adequacy require the Bank to maintain minimum amounts and ratios (set forth in the table below) of tangible and core capital (as defined in the regulations) to adjusted assets (as defined), and of Tier I and total capital (as defined) to average assets (as defined). Management believes, as of September 30, 1998, that the Bank meets all capital adequacy requirements to which it is subject. As of September 30, 1998, the most recent notification from the Office of Thrift Supervision categorized the Bank as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized the Bank must maintain minimum total risk-based, Tier-1 risk-based, and Tier-1 leveraged-ratios as 33 34 FIRST KEYSTONE FINANCIAL, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements (Continued) Years Ended September 30, 1998, 1997 and 1996 (dollars in thousands) 13. REGULATORY CAPITAL REQUIREMENTS (continued) set forth in the table. There are no conditions or events since that notification that management believes have changed the institution's category. The Bank's actual capital amounts and ratios are also presented in the table. At September 30, 1998 and 1997, risk-based capital, for regulatory requirements, is increased by $1,688 and $1,578, respectively, of general loan loss reserves for a total of $35,389 and $31,832, respectively. During fiscal 1997, regulatory capital was increased by a $6.0 million capital contribution by the holding company in conjunction with the issuance of junior subordinated debentures (see Note 20).
REQUIRED TO BE REQUIRED FOR WELL CAPITALIZED CAPITAL ADEQUACY UNDER PROMPT ACTUAL PURPOSES CORRECTIVE ACTION ------------------------------------------------------------ AMOUNT PERCENTAGE AMOUNT PERCENTAGE AMOUNT PERCENTAGE ------------------------------------------------------------ AT SEPTEMBER 30, 1998: Core Capital (to Adjusted Tangible Assets) 33,701 8.3% 16,301 4.0% 20,376 5.0% - ----------------------------------------------------------------------------------------------------------- Tier I Capital (to Risk Weighted Assets) 33,701 20.1 N/A N/A 24,451 6.0 - ----------------------------------------------------------------------------------------------------------- Total Capital (to Risk Weighted Assets) 35,389 21.1 13,424 8.0 16,780 10.0 - ----------------------------------------------------------------------------------------------------------- Tangible Capital (to Tangible Assets) 33,701 8.3 6,113 1.5 N/A N/A - ----------------------------------------------------------------------------------------------------------- September 30, 1997: Core Capital (to Adjusted Tangible Assets) 30,254 8.1% 14,902 4.0% 18,627 5.0% - ----------------------------------------------------------------------------------------------------------- Tier I Capital (to Risk Weighted Assets) 30,254 18.9 N/A N/A 9,594 6.0 - ----------------------------------------------------------------------------------------------------------- Total Capital (to Risk Weighted Assets) 31,832 19.9 12,792 8.0 15,990 10.0 - ----------------------------------------------------------------------------------------------------------- Tangible Capital (to Tangible Assets) 30,254 8.1 5,594 1.5 N/A N/A - -----------------------------------------------------------------------------------------------------------
At the date of the Conversion, the Bank established a liquidation account in an amount equal to its retained income as of August 31, 1995. The liquidation account is maintained for the benefit of eligible account holders and supplemental eligible account holders who continue to maintain their accounts at the Bank after the Conversion. The liquidation account is reduced annually to the extent that eligible account holders and supplemental eligible account holders have reduced their qualifying deposits as of each anniversary date. Subsequent increases will not restore an eligible account holder's or supplemental eligible account holder's interest in the liquidation account. In the event of a complete liquidation of the Bank, each eligible account holder and supplemental eligible account holder will be entitled to receive a distribution from the liquidation account in an amount proportionate to the current adjusted qualifying balances for accounts then held. The Bank may not declare or pay cash dividends on or repurchase any of its shares of common stock if the effect thereof would cause equity to be reduced below applicable regulatory capital maintenance requirements or if such declaration and payment would otherwise violate regulatory requirements. 34 35 FIRST KEYSTONE FINANCIAL, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) YEARS ENDED SEPTEMBER 30, 1998, 1997 AND 1996 (DOLLARS IN THOUSANDS) 14. EMPLOYEE BENEFITS 401(k) PROFIT SHARING PLAN The Bank's 401(k) profit sharing plan covers substantially all full-time employees of the Company and provides for pre-tax contributions by the employees with matching contributions at the discretion of the Board of Directors determined at the beginning of the calendar year. All amounts are fully vested. For calendar year 1998, there was no contribution to the 401(k) profit sharing plan. For calendar year 1997, the Board approved an 1% of salary profit sharing contribution of all contributing participants. For calendar year 1996, a salary match up to 2.5% was approved by the Board. Pension expense was $35 and $88 for the years ended September 30, 1997, and 1996, respectively. EMPLOYEE STOCK OWNERSHIP PLAN In connection with the Conversion, the Company established an ESOP for the benefit of eligible employees. The ESOP purchased 207,600 shares of common stock in the Conversion. During November 1996, the ESOP purchased an additional 77,550 shares of common stock. At September 30, 1998, 88,386 shares of the total number of shares held by the ESOP were committed to be released. The Company accounts for its ESOP in accordance with AICPA Statement of Position 93-6, "Employers Accounting for Employee Stock Ownership Plans," which requires the Company to recognize compensation expense equal to the fair value of the ESOP shares during the periods in which they become committed to be released. To the extent that the fair value of the ESOP shares differs from the cost of such shares, this differential will be charged or credited to equity as additional paid-in-capital. Management expects the recorded amount of expense to fluctuate as continuing adjustments are made to reflect changes in the fair value of the ESOP shares. The Company's ESOP, which is internally leveraged, does not report the loan receivable from the ESOP as an asset and does not report the ESOP debt from the employer as a liability. The Company recorded compensation and employee benefit expense related to the ESOP of $450, $275 and $200 for the years ended September 30, 1998, 1997 and 1996, respectively. RECOGNITION AND RETENTION PLAN Under the 1995 Recognition and Retention Plan and Trust (the "RRP"), the Company had outstanding awards aggregating 50,590 shares as of September 30, 1998 to the Company's Board of Directors and executive officers subject to vesting and other provisions of the RRP. At September 30, 1998 and 1997, the deferred cost of unearned RRP shares totaled $258 and $399, respectively, and is recorded as a charge against stockholders' equity. Compensation expense will be recognized ratably over the five year vesting period for shares awarded. For the fiscal years ended September 30, 1998, 1997 and 1996, the Company recorded compensation and employee benefit expense of $141, $141 and $137, respectively, relating to the RRP. STOCK OPTION PLAN Under the 1995 Stock Option Plan (the "Plan"), Common Stock totaling 272,000 shares has been reserved for issuance for the Plan. An aggregate of 251,124 stock options have been granted to the Company's executive officers, nonemployee directors and other key employees, subject to vesting and other provisions of the Plan. During the years ended September 30, 1998 and 1997, 1,088 and 544 shares, respectively, were exercised at an exercise price of $7.56 and $7.50. 35 36 FIRST KEYSTONE FINANCIAL, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) YEARS ENDED SEPTEMBER 30, 1998, 1997 AND 1996 (DOLLARS IN THOUSANDS) 14. EMPLOYEE BENEFITS (continued) The following is a summary of transactions under the Plan:
WEIGHTED EXERCISE AVERAGE NUMBER OF PRICE EXERCISE PRICE OPTION SHARES RANGE PER SHARE ---------------------------------------------- Outstanding at September 30, 1995 239,360 $ 7.50 - 7.50 $ 7.50 Granted 6,800 8.50 - 8.50 8.50 Canceled (9,792) 7.50 - 7.50 7.50 - --------------------------------------------------------------------------------------------------- Outstanding at September 30, 1996 236,368 7.50 - 8.50 7.53 Granted 15,720 12.38 - 14.25 13.52 Canceled (5,032) 7.50 - 8.50 7.64 Exercised (1,088) 7.50 - 7.50 7.50 - --------------------------------------------------------------------------------------------------- Outstanding at September 30, 1997 245,968 $ 7.50 - 14.25 7.91 Granted 5,700 12.88 - 12.88 12.88 Exercised (578) 7.50 - 8.50 7.56 - --------------------------------------------------------------------------------------------------- Outstanding at September 30, 1998 251,090 $ 7.50 - 14.25 $ 8.02 ===================================================================================================
A summary of the exercise price range at September 30, 1998 is as follows:
WEIGHTED WEIGHTED EXERCISE AVERAGE AVERAGE NUMBER OF PRICE REMAINING EXERCISE PRICE OPTION SHARES RANGE CONTRACTUAL LIFE PER SHARE - ----------------------------------------------------------------------------- 229,670 $ 7.50 - 8.50 7.03 $7.53 21,420 12.38 - 14.25 9.27 13.35 - ----------------------------------------------------------------------------- 251,090 $ 7.50 - 14.25 7.22 $8.02 =============================================================================
The Company applies APB Opinion No. 25 in accounting for stock options and, accordingly, no compensation expense has been recognized in the financial statements. Had the Company determined compensation expense based on the fair value at the grant date for its stock options under SFAS 123, the Company's net income and income per share would have been reduced to the pro forma amounts indicated below:
YEAR ENDED SEPTEMBER 30 ----------------------- 1998 1997 ----------------------- Net income: As reported $2,781 $2,637 - -------------------------------------------------- Pro forma 2,770 2,598 - -------------------------------------------------- Net income per common and common equivalent share: Earnings per common share - As reported $ 1.23 $ 1.13 - -------------------------------------------------- - Pro forma 1.22 1.12 - -------------------------------------------------- Weighted average fair value of options granted during the period $ 5.15 $10.55 - --------------------------------------------------
The binomial option-pricing model was used to determine the grant date fair value of options. Significant assumptions used to calculate the above fair value of the awards are as follows:
September 30 -------------------- 1998 1997 - --------------------------------------------- Risk free interest rate of return 4.69% 6.12% - --------------------------------------------- Expected option life (months) 60 60 - --------------------------------------------- Expected volatility 45% 37% - --------------------------------------------- Expected Dividends 1.9% 1% - ---------------------------------------------
OTHER The Company established an expense accrual in connection with the anticipated funding of a trust to be created to formalize the Company's deferred compensation arrangements with four former officers of the Company. A total of $377 and $448 was included in the Company's liabilities at September 30, 1998 and 1997. 36 37 FIRST KEYSTONE FINANCIAL, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements (Continued) Years Ended September 30, 1998, 1997 and 1996 (dollars in thousands) 15. COMMITMENTS AND CONTINGENCIES The Company has outstanding loan commitments, excluding undisbursed portion of loans in process and equity lines of credit, of approximately $11,759 and $7,651 as of September 30, 1998 and 1997, respectively, which are all expected to be funded within four months. Of these commitments outstanding, the breakdown between fixed and adjustable rate loans is as follows:
SEPTEMBER 30 ------------------ 1998 1997 ------------------ Fixed-rate (ranging from 5.875% to 13.50%) $ 6,859 $4,073 Adjustable-rate 4,900 3,578 - ----------------------------------------------- Total $11,759 $7,651 ===============================================
Generally, non-conforming loans are sold in the secondary market, depending on cash flow, interest rate, risk management and other considerations. There were approximately $6,029 and $5,324 in outstanding commitments to sell loans at September 30, 1998 and 1997, respectively. 16. RELATED PARTY TRANSACTIONS The Company retains the services of a law firm in which one of the Company's Directors is a member. In addition to providing general legal counsel to the Company, the firm also prepares mortgage documents and attends loan closings for which it is paid directly by the borrower. 17. SAVINGS ASSOCIATION INSURANCE FUND ASSESSMENT On September 30, 1996, the Economic Growth and Paperwork Reduction Act of 1996, which includes the recapitalization of the Savings Association Insurance Fund ("SAIF"), became law. Accordingly, all depository institutions with SAIF-insured deposits were charged a one-time special assessment on their SAIF-assessible deposits as of March 31, 1995 at the rate of 65.7 basis points, which was paid on November 27, 1996. The Bank accrued $1.4 million for this special assessment at September 30, 1996. 18. FAIR VALUE OF FINANCIAL INSTRUMENTS The following disclosure of the estimated fair value of financial instruments is made in accordance with the requirements of SFAS No. 107, "Disclosures about the Fair Value of Financial Instruments." The estimated fair value amounts have been determined by the Company using available market information and appropriate valuation methodologies. However, considerable judgment is required to interpret market data to develop the estimates of fair value. Accordingly, the estimates presented herein are not necessarily indicative of the amounts the Company could realize in a current market exchange. The use of different market assumptions and/or estimation methodologies may have a material effect on the estimated fair value amounts. 37 38 FIRST KEYSTONE FINANCIAL, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED SEPTEMBER 30, 1998, 1997 AND 1996 (DOLLARS IN THOUSANDS) 18. FAIR VALUE OF FINANCIAL INSTRUMENTS (continued)
SEPTEMBER 30 -------------------------------------------------- 1998 1997 -------------------------------------------------- ESTIMATED Estimated CARRYING FAIR Carrying Fair AMOUNT VALUE Amount Value Assets: Cash and interest-earning deposits $ 24,126 $ 24,126 $ 21,561 $ 21,561 - --------------------------------------------------------------------------------------------- Investment securities 40,621 40,621 20,211 20,171 - --------------------------------------------------------------------------------------------- Loans 198,343 214,020 188,289 196,194 - --------------------------------------------------------------------------------------------- Loans held for sale 2,799 2,799 4,577 4,577 - --------------------------------------------------------------------------------------------- Mortgage-related securities 134,255 134,146 125,179 124,672 - --------------------------------------------------------------------------------------------- Liabilities: Savings deposits 37,988 37,988 38,035 38,035 - --------------------------------------------------------------------------------------------- NOW and MMDA deposits 52,522 52,522 50,348 50,348 - --------------------------------------------------------------------------------------------- Certificates of deposit 156,801 158,526 139,535 139,741 - --------------------------------------------------------------------------------------------- Advances from Federal Home Loan Bank 101,578 120,235 75,387 83,525 - --------------------------------------------------------------------------------------------- Securities sold under agreements to repurchase 19,300 19,884 24,600 24,605 - --------------------------------------------------------------------------------------------- Off balance sheet commitments 26,365 26,365 19,439 19,439 - ---------------------------------------------------------------------------------------------
The fair value of cash and interest-earning deposits is their carrying value due to their short term nature. The fair value of investments and mortgage-related securities is based on quoted market prices, dealer quotes, and prices obtained from independent pricing services. The fair value of loans is estimated, based on present values using approximate current entry-value interest rates, applicable to each category of such financial instruments. The fair value of NOW deposits, MMDA deposits, and savings deposits is the amount reported in the financial statements. The fair value of certificates of deposit and FHLB advances is based on a present value estimate, using rates currently offered for deposits of similar remaining maturity. No adjustment was made to the entry-value interest rates for changes in credit performing commercial loans, construction loans, and land loans for which there are no known credit concerns. Management believes that the risk factor embedded in the entry-value interest rates, along with the general reserves applicable to the performing commercial, construction, and land loan portfolios for which there are no known credit concerns, result in a fair valuation of such loans on an entry-value basis. The fair value of non-performing loans, with a recorded book value of approximately $3,704 and $2,077 (which are collateralized by real estate properties with property values in excess of carrying amounts) as of September 30, 1998 and 1997, respectively, was not estimated because it is not practicable to reasonably assess the credit adjustment that would be applied in the marketplace for such loans. The fair value estimates presented herein are based on pertinent information available to management as of September 30, 1998 and 1997. Although management is not aware of any factors that would significantly affect the estimated fair value amounts, such amounts have not been comprehensively revalued for purposes of these financial statements since that date and, therefore, current estimates of fair value may differ significantly from the amounts presented herein. 38 39 FIRST KEYSTONE FINANCIAL, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) YEARS ENDED SEPTEMBER 30, 1998, 1997 AND 1996 (DOLLARS IN THOUSANDS) 19. EARNINGS PER SHARE Basic earnings per share is computed based on the weighted average number of shares of common stock outstanding. Diluted earnings per common share is computed based on the weighted average number of shares of common stock outstanding, increased by the number of common shares that are assumed to have been purchased with the proceeds from the exercise of stock options. The calculation of the weighted average shares, after giving effect to the stock split, was as follows:
YEAR ENDED SEPTEMBER 30 ------------------------------------ 1998 1997 1996 ------------------------------------ Average common share outstanding 2,130,712 2,198,453 1,191,583 Increase in shares due to options - diluted basis 135,100 125,316 - --------------------------------------------------------------------------------- Adjusted shares outstanding - diluted 2,265,812 2,323,769 1,191,583 =================================================================================
20. CAPITAL SECURITIES On August 21, 1997, First Keystone Capital Trust I ("the Trust"), a trust formed under Delaware law, that is a subsidiary of the Company, issued $16.2 million of preferred securities at an interest rate of 9.7%, with a scheduled maturity of August 15, 2027. The Company owns all the common stock of the Trust. The proceeds from the issue were invested in Junior Subordinated Debentures (the "Debentures") issued by the Company. The Debentures are unsecured and rank subordinate and junior in right of payment to all indebtedness, liabilities and obligations of the Company. The Debentures represent the sole assets of the Trust. Interest on the Preferred Securities is cumulative and payable semi-annually in arrears. The Company has the option, subject to required regulatory approval, to prepay the securities beginning August 15, 2007. The securities are shown on the liability side of the balance sheet as "Guaranteed preferred beneficial interest in subordinate debt." The Company has, under the terms of the Debentures and the related Indenture as well as the other operative corporate documents, agreed to irrevocably and unconditionally guarantee the Trust's obligations under the Debentures. The Company contributed approximately $6.0 million of the net proceeds to the Bank to support the Bank's lending activities. The interest cost associated with this issue is treated as a non-interest expense on the consolidated statement of operations rather than interest expense. 40 FIRST KEYSTONE FINANCIAL, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) YEARS ENDED SEPTEMBER 30, 1998, 1997 AND 1996 (DOLLARS IN THOUSANDS) 21. PARENT COMPANY FINANCIAL INFORMATION Condensed financial statements of First Keystone Financial, Inc. are as follows: CONDENSED STATEMENTS OF FINANCIAL CONDITION
SEPTEMBER 30 ----------------------- 1998 1997 ----------------------- ASSETS Interest-bearing deposits $ 222 $ 9,832 Investment securities available for sale 7,043 Investment in subsidiaries 35,622 31,168 Other assets 884 712 - ---------------------------------------------------------------- Total assets $ 43,771 $ 41,712 ================================================================ LIABILITIES AND STOCKHOLDERS' EQUITY Other borrowed money $ 16,802 $ 16,702 Other liabilities 305 258 - ---------------------------------------------------------------- Total liabilities 17,107 16,960 Stockholders' equity 26,664 24,752 - ---------------------------------------------------------------- Total liabilities and stockholders' equity $ 43,771 $ 41,712 ================================================================
CONDENSED STATEMENTS OF OPERATIONS
YEAR ENDED SEPTEMBER 30 ------------------------------------- 1998 1997 1996 ------------------------------------- INCOME: Dividends from subsidiary $ 5 $ 1,000 $ 1,350 Loan to Employee Stock Ownership Plan 136 129 88 Interest and dividends on investments 502 Interest on deposits 43 48 20 - ------------------------------------------------------------------------------------------------- Total income 686 1,177 1,458 Interest on other borrowed money 1,620 153 Operating expenses 107 26 13 - ------------------------------------------------------------------------------------------------- Income (Loss) before income taxes and equity in undistributed income of subsidiaries (1,041) 998 1,445 Income tax expense (benefit) (343) 10 39 - ------------------------------------------------------------------------------------------------- Income (Loss) before equity in (return of) undistributed income of subsidiaries (698) 988 1,406 Equity in (return of) undistributed income of subsidiaries 3,479 1,649 (521) - ------------------------------------------------------------------------------------------------- NET INCOME $ 2,781 $ 2,637 $ 885 =================================================================================================
40 41 FIRST KEYSTONE FINANCIAL, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements (Continued) Years Ended September 30, 1998, 1997 and 1996 (dollars in thousands) 21. PARENT COMPANY FINANCIAL INFORMATION (continued) CONDENSED STATEMENTS OF CASH FLOWS
YEAR ENDED SEPTEMBER 30 -------------------------------- 1998 1997 1996 -------------------------------- CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 2,781 $ 2,637 $ 885 Adjustments to reconcile net income to cash provided by operations: (Equity in) Return of undistributed earnings of subsidiaries (3,479) (1,649) 521 Increase in investment of subsidiaries (48) (1,000) (1,350) Amortization of common stock acquired by stock benefit plans 563 411 364 Gain on sale of investment available for sale (5) Increase in other assets (172) (677) Increase in other liabilities 47 184 36 - ----------------------------------------------------------------------------------------- Net cash (used in) provided by operating activities (313) (94) 456 - ----------------------------------------------------------------------------------------- CASH FLOWS FROM INVESTING ACTIVITIES: Purchases of investments available for sale (8,891) 1,350 Proceeds from sale of investments available for sale 2,005 Dividends received from subsidiaries 1,000 - ----------------------------------------------------------------------------------------- Net cash provided (used in) by investing activities (6,886) 1,000 1,350 - ------------------------------------------------------------------------------------------ CASH FLOWS FROM FINANCING ACTIVITIES: Proceeds from issuance of debentures 16,200 Increase in other borrowed money 100 Capital contribution to subsidiary (6,000) Common stock acquired by stock benefit plans (775) (704) Purchase of treasury stock (2,036) (1,257) (1,288) Dividends paid (475) (250) - ----------------------------------------------------------------------------------------- Net cash (used in) provided by financing activities (2,411) 7,918 (1,992) - ----------------------------------------------------------------------------------------- Increase (Decrease) in cash (9,610) 8,824 (186) Cash at beginning of period 9,832 1,008 1,194 - ----------------------------------------------------------------------------------------- Cash at end of period $ 222 $ 9,832 $ 1,008 =========================================================================================
41 42 FIRST KEYSTONE FINANCIAL, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements (Continued) Years Ended September 30, 1998, 1997 and 1996 (dollars in thousands) 22. QUARTERLY Unaudited quarterly financial data for the year ended FINANCIAL September 30, 1998 and 1997 is as follows: DATA (Unaudited)
1998 1997 ------------------------------------------------------------------------------------- 1ST 2ND 3RD 4TH 1st 2nd 3rd 4th QTR QTR QTR QTR QTR QTR QTR QTR Interest Income $ 6,762 $6,836 $ 6,776 $7,019 $5,305 $5,495 $5,759 $6,191 Interest Expense 3,827 3,834 3,852 4,112 2,929 3,042 3,228 3,440 - ------------------------------------------------------------------------------------------------------------------- Net Interest Income 2,935 3,002 2,924 2,907 2,376 2,453 2,531 2,751 Provision for Loan Losses 75 76 20 15 56 60 56 67 - ------------------------------------------------------------------------------------------------------------------- Net Interest Income after Provision for Loan Losses 2,860 2,926 2,904 2,892 2,320 2,393 2,475 2,684 Non-Interest Income 385 408 320 407 317 352 325 356 Non-Interest Expense 2,155 2,256 2,363 2,298 1,638 1,682 1,706 1,895 - ------------------------------------------------------------------------------------------------------------------- Income Before Income Taxes 1,090 1,078 861 1,001 999 1,063 1,094 1,145 Provision for Income Taxes 418 394 160 278 384 410 421 449 - ------------------------------------------------------------------------------------------------------------------- Net Income $ 672 $ 684 $ 701 $ 723 $ 615 $ 653 $ 673 $ 696 =================================================================================================================== PER SHARE: Earnings Per Share -Basic $ .31 $ .32 $ .33 $ .35 $ .27 $ .30 $ .31 $ .32 Earnings Per Share -Diluted $ .29 $ .30 $ .31 $ .33 $ .26 $ .29 $ .30 $ .30 Common Stock Price Range of the Company High $ 18.75 $19.00 $ 22.25 $17.75 $10.13 $11.25 $11.69 $16.63 Low $ 14.63 $16.38 $ 17.25 $11.63 $ 8.88 $ 9.50 $10.63 $11.38
42 EX-23 3 FIRST KEYSTONE 10-K AUDITOR'S CONSENT 1 Exhibit 23. INDEPENDENT AUDITORS' CONSENT We consent to the incorporation by reference in the Registration Statements of First Keystone Financial, Inc. on Form S-8 (Registration Nos. 333-09565 and 33-97562) of our report dated November 6, 1998, appearing in this Annual Report on Form 10-K of First Keystone Financial, Inc. for the year ended September 30, 1998. /s/ DELOITTE & TOUCHE LLP DELOITTE & TOUCHE LLP Philadelphia, Pennsylvania December 29, 1998 EX-27 4 FIRST KEYSTONE 10-K FDS
9 0000856751 FIRST KEYSTONE FINANCIAL, INC. 1,000 12-MOS SEP-30-1998 OCT-01-1997 SEP-30-1998 2,457 21,669 0 0 156,107 18,769 18,700 201,142 1,738 415,863 247,311 30,325 4,810 90,553 0 0 6,854 19,780 415,863 4,150 2,026 843 7,019 2,585 1,527 2,907 15 (5) 2,298 1,001 1,001 0 0 723 .35 .33 7.59 3,685 19 46 0 1,760 60 23 1,738 1,020 0 718
-----END PRIVACY-ENHANCED MESSAGE-----