-----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, U5xyh2SDl79MjHCWmkmtwFtJ55D+KG6hpP2AH6lGYAcVCHn3foo+0z99jX96nEWz rQ7O3JlTT3HNPA5X5y4Fvg== 0000950131-03-001663.txt : 20030326 0000950131-03-001663.hdr.sgml : 20030325 20030326164723 ACCESSION NUMBER: 0000950131-03-001663 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 6 CONFORMED PERIOD OF REPORT: 20021231 FILED AS OF DATE: 20030326 FILER: COMPANY DATA: COMPANY CONFORMED NAME: KANKAKEE BANCORP INC CENTRAL INDEX KEY: 0000891523 STANDARD INDUSTRIAL CLASSIFICATION: SAVINGS INSTITUTION, FEDERALLY CHARTERED [6035] IRS NUMBER: 363846489 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: 1934 Act SEC FILE NUMBER: 001-15025 FILM NUMBER: 03618677 BUSINESS ADDRESS: STREET 1: 310 S SCHUYLER AVE CITY: KANKAKEE STATE: IL ZIP: 60901 BUSINESS PHONE: 8159374440 10-K 1 d10k.txt FORM 10-K ================================================================================ SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 ------------- FORM 10-K [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 31, 2002 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from _______ to _______ Commission File Number 1-13676 KANKAKEE BANCORP, INC. (Exact name of Registrant as specified in its charter) DELAWARE 36-3846489 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification Number) 310 S. Schuyler Avenue, Kankakee, Illinois 60901 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (815) 937-4440 Securities Registered Pursuant to Section 12(b) of the Act: Name of Each Exchange Title of Each Class on which Registered Common Stock, par value $.01 per share American Stock Exchange Preferred Share Purchase Rights American Stock Exchange Securities Registered Pursuant to Section 12(g) of the Act: NONE (Title of Class) Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding twelve months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such 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] ================================================================================ Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). Yes __ No X The aggregate market value of the voting and non-voting common equity held by non-affiliates of the registrant, based on the last sales price on the American Stock Exchange on June 28, 2002, the last business day of the registrant's most recently completed second fiscal quarter, was approximately $40,447,528.* As of March 3, 2003, the Registrant had issued and outstanding 972,611 shares of the Registrant's common stock. DOCUMENTS INCORPORATED BY REFERENCE PARTS II and IV of Form 10-K--Portions of the 2002 Annual Report to Stockholders. PART III of Form 10-K--Portions of the Proxy Statement for the 2003 Annual Meeting of Stockholders. - ---------- * Based on the last reported price ($39.75) of an actual transaction in the Registrant's common stock on June 28, 2002, and reports of beneficial ownership filed by directors and executive officers of the Registrant and by beneficial owners of more than 5% of the outstanding shares of common stock of the Registrant; however, such determination of shares owned by affiliates does not constitute an admission of affiliate status or beneficial interest in shares of the Registrant's common stock. KANKAKEE BANCORP, INC. 2002 ANNUAL REPORT ON FORM 10-K Table of Contents
Page Number ----------- PART I Item 1. Business.................................................................. 4 Item 2. Properties................................................................ 45 Item 3. Legal Proceedings......................................................... 46 Item 4. Submission of Matters to a Vote of Security Holders....................... 46 PART II Item 5. Market for the Registrant's Common Stock and Related Stockholder Matters.................................................... 46 Item 6. Selected Financial Data................................................... 46 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.................................... 46 Item 7a. Quantitative and Qualitative Disclosures About Market Risk................ 46 Item 8. Financial Statements and Supplementary Data............................... 48 Item 9. Changes in and Disagreements With Accountants on Accounting and Financial Disclosure.................................... 48 PART III Item 10. Directors and Executive Officers of the Registrant........................ 48 Item 11. Executive Compensation.................................................... 49 Item 12. Security Ownership of Certain Beneficial Owners and Management............................................................. 49 Item 13. Certain Relationships and Related Transactions............................ 49 Item 14. Controls and Procedures................................................... 49 PART IV Item 15. Exhibits, Financial Statement Schedules, and Reports on 8-K............... 50 Form 10-K Signature Page............................................................... 54
3 PART I Item 1. BUSINESS THE COMPANY GENERAL Kankakee Bancorp, Inc., a Delaware corporation (the "Company"), is a savings and loan holding company registered under the Home Owner's Loan Act, as amended (the "HOLA"). The Company's primary business activity is acting as the holding company for KFS Bank, F.S.B., a federally chartered savings bank (the "Bank"). The Bank has two subsidiaries, KFS Service Corp., and its wholly-owned subsidiary, KFS Insurance Agency, Inc., which engage in the business of providing securities brokerage services and insurance and annuity products to its customers and appraisal services to the Bank and other lenders in the Kankakee area. All references to KFS Service Corp. include KFS Insurance Agency, Inc., unless clearly indicated otherwise. The Company was organized in 1992, in connection with the Bank's conversion from the mutual to the stock form of organization which was completed on December 30, 1992. As part of the conversion, the Company issued 1,750,000 shares of its common stock, $.01 par value per share, at a price of $9.875 per share. On March 24, 1995, the Company's common stock was listed on the American Stock Exchange under the symbol "KNK". Prior to March 24, 1995, the Company's common stock was quoted on The Nasdaq Stock Market under the symbol "KNKB". The Bank is the Company's only financial institution subsidiary and was initially chartered as an Illinois state savings and loan association in 1885. The Bank converted to a federally chartered savings and loan association in 1937 and changed its name to Kankakee Federal Savings Bank in connection with its conversion to stock form in 1992. The Bank changed its name to KFS Bank, F.S.B., as of December 1, 2002. All references to the Company include the Bank and its subsidiaries unless clearly indicated otherwise. The Company and the Bank are subject to comprehensive regulation, examination and supervision by the Office of Thrift Supervision (the "OTS") and the Federal Deposit Insurance Corporation (the "FDIC"). The Bank is a member of the Federal Home Loan Bank System (the "FHLB") and its deposits are insured by the Savings Association Insurance Fund ("SAIF") to the maximum extent permitted by the FDIC. The Bank serves the financial needs of families and local businesses in its primary market areas through its main office located at 310 S. Schuyler Avenue, Kankakee, Illinois and thirteen branch offices located in the communities of Ashkum, Bourbonnais, Bradley, Braidwood, Champaign, Coal City (2), Diamond, Dwight, Herscher, Manteno, Momence and Urbana, Illinois. At December 31, 2002, the Company had consolidated assets of $546.4 million, deposits of $432.0 million and stockholders' equity of $41.1 million. The Company engages in a general full service retail banking business and offers a broad variety of consumer oriented products and services to residents of its primary market areas. The 4 Company is principally engaged in the business of attracting deposits from the general public and originating residential mortgage loans in its primary market areas. The Company also originates commercial real estate, consumer, multi-family, commercial business and construction loans. In addition, the Company invests in mortgage-backed securities, investment securities, certificates of deposit and short-term liquid assets. The Company also offers a Visa/MasterCard program, debit card services, on-line banking and bill payment services and, on an agency basis through KFS Service Corp., securities brokerage services and insurance and annuity products to the Company's customers, and provides appraisal services for the Bank and others. Since 1998, the Bank has offered trust services. While the Bank has authority for full trust services, it has focused on personal trust services and limited employee benefit plan services. The Company's revenues are derived from interest on loans, mortgage-backed and related securities and investments, service charges and loan origination fees, loan servicing fees and proceeds from the sale, through KFS Service Corp., of securities brokerage services, insurance and annuity products and appraisal services. The Company's operations are materially affected by general economic conditions, the monetary and fiscal policies of the federal government and the policies of the various regulatory authorities, including the OTS and the Board of Governors of the Federal Reserve System (the "FRB"). Historically, the Company's results of operations have been largely dependent upon its net interest income, which is the difference between the interest it receives on its loan and investment securities portfolios and the interest it pays on deposit accounts and borrowings. However, while the results of operations continue to be dependent on net interest income, other income sources, such as fees, loan servicing income, net gain on the sale of loans and other non-interest income, have and continue to become more significant factors in the results of operations. The executive offices of the Company are located at 310 S. Schuyler Avenue, Kankakee, Illinois 60901 and its telephone number at that address is (815) 937-4440. MARKET AREA The Bank's main office is located at 310 S. Schuyler Avenue, Kankakee, Illinois. The bank also has thirteen branch offices located in the communities of Ashkum, Bourbonnais, Bradley, Braidwood, Champaign, Coal City (2), Diamond, Dwight, Herscher, Manteno, Momence and Urbana. The Company's market areas include Kankakee, Champaign, Grundy, Iroquois and Livingston Counties and portions of Will County, in Illinois. During 2001, the Company began working with a consulting firm to determine how to increase the profitability of each branch location and whether operations in certain market areas should be expanded or abandoned so that the Company's capital resources may be put to use in other market areas more profitably. The Company also continues to look for expansion opportunities, including financial institution and branch acquisitions, that would increase the Company's return to its stockholders. As a result, the Company's market area is subject to revision. Kankakee is located approximately 35 miles south of the metropolitan Chicago area. The metropolitan Kankakee area has a population of just under 60,000 and has experienced a slight 5 decrease in population since 1990. Kankakee County has a mixed agricultural and industrial economy with the largest number of residents employed in the agricultural, health care, food processing, chemical and retail redistribution industries. Major employers include Riverside HealthCare, Provena St. Mary's Hospital, Shapiro Development Center, the Baker and Taylor Company, CIGNA Companies, Armstrong World Industries, Aventis Behring, Bunge Edible Oil Corporation, Cognis Corporation, KMART Corporation Distribution Center, Sears Logistics Services, Inc., American Spring Wire, Crown Cork and Seal Company, Inc., and Dow Automotive. Champaign/Urbana is located approximately 75 miles south of Kankakee. It is the location of the original campus of the University of Illinois which employs 16,200 people and has a student body of over 30,000. In addition, the economy of the Champaign/Urbana market area includes several major medical centers and agricultural and industrial businesses. Major employers in the Champaign/Urbana area include Carle Clinic Association, Carle Foundation Hospital, Provena Covenant Medical Center, Parkland College, Kraft Foods, Inc., SuperValu Champaign Distribution Center, Rantoul Products, Champaign Unit School District 4, Champaign County and Caradco. Coal City is located approximately 30 miles northwest of Kankakee in Grundy County, Illinois. Braidwood is located approximately 25 miles northwest of Kankakee in Will County, Illinois. Coal City, Braidwood and their surrounding communities have a population of 12,000 residents. As bedroom communities of the south Chicago suburbs, the economy in this region is a mix of agricultural, industrial and service-based businesses. Large corporate employers such as ComEd, with its Braidwood nuclear power plant, Midwest Generation, with its Collins Street nuclear plant, Excelon, with its Dresden nuclear plant, Amoco, Equistar Chemicals, Reichhold Chemicals, Mobil and Caterpillar are within short driving distances. LENDING ACTIVITIES General. The principal lending activity of the Company is originating first mortgage loans secured by owner occupied one-to-four family residential properties located in its primary market areas. In addition, in order to increase the yield and interest rate sensitivity of its portfolio and in order to provide more comprehensive financial services to families and community businesses in the Company's market areas, the Company also originates commercial real estate, consumer, commercial business, multi-family and construction loans. From time to time, the Company has also utilized loan purchases to supplement loan originations. 6 Loan and Mortgage-Backed Securities Portfolio Composition. The following table provides information concerning the composition of the Company's loan and mortgage-backed securities portfolios in dollar amounts and in percentages (before deductions for loans in process, deferred fees and discounts and allowances for losses) as of the dates indicated. Loans held for sale are included primarily in one-to-four family real estate loans.
December 31, -------------------------------------------------------------------------------------------- 2002 2001 2000 1999 --------------------- ------------------- --------------------- --------------------- Amount Percent Amount Percent Amount Percent Amount Percent ---------- -------- ---------- ------- ---------- -------- ---------- -------- (Dollars in thousands) Real Estate Loans One-to-four family ...... $ 228,623 53.09% $ 247,436 60.06% $ 211,891 58.73% $ 165,089 56.61% Multi-family ............ 13,672 3.18 11,983 2.91 11,608 3.22 8,923 3.06 Commercial .............. 56,589 13.14 48,543 11.78 39,564 10.97 28,869 9.90 Construction or development ............ 21,286 4.94 22,555 5.47 17,797 4.93 14,235 4.88 Mortgage-backed securities and parti- cipation certificates .. 38,205 8.87 11,673 2.83 16,118 4.47 17,600 6.03 ---------- -------- ---------- ------- ---------- -------- ---------- -------- Total real estate loans and mortgage-backed securities ........... 358,375 83.22 342,190 83.05 296,978 82.32 234,716 80.48 ---------- -------- ---------- ------- ---------- -------- ---------- -------- Other Loans: Consumer Loans: Deposit account ....... 812 0.19 831 0.20 786 0.22 788 0.27 Student ............... -- -- -- -- -- -- 151 0.05 Automobile ............ 5,351 1.24 7,006 1.70 7,281 2.02 5,541 1.90 December 31, ------------------- 1998 ------------------- Amount Percent ---------- ------- Real Estate Loans One-to-four family ...... $ 159,956 59.23% Multi-family ............ 5,556 2.06 Commercial .............. 21,291 7.88 Construction or development ............ 13,938 5.16 Mortgage-backed securities and parti- cipation certificates .. 18,746 6.94 ---------- ------- Total real estate loans and mortgage-backed securities ........... 219,487 81.27 ---------- ------- Other Loans: Consumer Loans: Deposit account ....... 827 0.31 Student ............... 231 0.09 Automobile ............ 3,830 1.42
7
December 31, -------------------------------------------------------------------------------------- 2002 2001 2000 1999 --------------------- ------------------- ------------------- -------------------- Amount Percent Amount Percent Amount Percent Amount Percent ---------- -------- ---------- ------- --------- ------- --------- -------- Home equity ............. 22,560 5.24 18,407 4.47 17,815 4.94 17,028 5.84 Home improvement ........ -- -- -- -- -- -- 2 0.00 Mobile home ............. 1,132 0.26 1,408 0.34 1,734 0.48 2,158 0.74 Credit cards ............ 1,128 0.26 1,213 0.29 1,286 0.36 1,286 0.44 Personal ................ 7,985 1.86 9,705 2.36 11,133 3.08 7,946 2.73 ---------- -------- ---------- ------- --------- ------- --------- -------- Total consumer loans .. 38,968 9.05 38,570 9.36 40,035 11.10 34,900 11.97 Commercial business loans ... 33,301 7.73 31,255 7.59 23,750 6.58 22,013 7.55 ---------- -------- ---------- ------- --------- ------- --------- -------- Total other loans ....... 72,269 16.78 69,825 16.95 63,785 17.68 56,913 19.52 ---------- -------- ---------- ------- --------- ------- --------- -------- Total loans and mortgage- backed securities receivable ................. 430,644 100.00% 412,015 100.00% 360,763 100.00% 291,629 100.00% ---------- ======== ---------- ======= --------- ======= --------- ======== Less: Loans in process .......... 1,043 2,671 3,341 1,394 Deferred fees and discounts ................ 505 470 192 104 Allowance for losses on loans ................. 6,524 2,582 2,156 2,171 ---------- ---------- --------- --------- Total loans and mortgage- backed securities receivable, net .......... $ 422,572 $ 406,292 $ 355,074 $ 287,960 ========== ========== ========= ========= December 31, ------------------- 1998 ------------------- Amount Percent --------- ------- Home equity ............. 17,215 6.37 Home improvement ........ 7 0.00 Mobile home ............. 2,826 1.05 Credit cards ............ 1,376 0.51 Personal ................ 6,900 2.55 --------- ------- Total consumer loans .. 33,212 12.30 Commercial business loans ... 17,365 6.43 --------- ------- Total other loans ....... 50,577 18.73 --------- ------- Total loans and mortgage- backed securities receivable ................. 270,064 100.00% --------- ======= Less: Loans in process .......... 1,671 Deferred fees and discounts ................ 129 Allowance for losses on loans ................. 2,375 --------- Total loans and mortgage- backed securities receivable, net .......... $ 265,889 =========
8 The following table shows the composition of the Company's loan and mortgage-backed securities portfolios by fixed and adjustable rate at the dates indicated. Loans held for sale are included primarily as fixed-rate one-to-four family residential loans.
December 31, ----------------------------------------------------------------------------------------- 2002 2001 2000 1999 ---------------------- ------------------ -------------------- -------------------- Amount Percent Amount Percent Amount Percent Amount Percent ---------- ------- --------- ------- ---------- ------- ---------- ------- (Dollars in thousands) Fixed-Rate Loans and Mortgage-Backed Securities Real estate: One-to-four family ........ $ 164,186 38.13% $ 177,253 43.02% $ 132,847 36.82% $ 83,407 28.60% Multi-family .............. 2,652 0.62 2,884 0.70 3,206 0.89 693 0.24 Commercial ................ 13,500 3.13 11,410 2.77 11,015 3.06 7,664 2.63 Construction or development .............. 6,292 1.46 7,142 1.73 2,579 0.71 2,380 0.82 Mortgage-backed securities .. 9,303 2.16 9,185 2.23 11,813 3.28 11,731 4.02 ---------- ------- --------- ------- ---------- ------- ---------- ------- Total real estate loans and mortgage-backed securities ................. 195,933 45.50 207,874 50.45 161,460 44.76 105,875 36.31 Consumer ...................... 19,537 4.54 23,179 5.62 24,092 6.68 18,826 6.46 Commercial business ........... 17,047 3.96 18,166 4.41 12,709 3.52 11,215 3.85 ---------- ------- --------- ------- ---------- ------- ---------- ------- Total fixed-rate loans and mortgage-backed securities . 232,517 54.00 249,219 60.48 198,261 54.96 135,916 46.62 ---------- ------- --------- ------- ---------- ------- ---------- ------- Adjustable-Rate Loans and Mortgage-Backed Securities Real estate: One-to-four family ........ 64,437 14.96 70,183 17.04 79,044 21.91 81,682 28.01 Multi-family .............. 11,020 2.56 9,099 2.21 8,402 2.33 8,230 2.82 Commercial ................ 43,089 10.01 37,133 9.01 28,549 7.91 21,205 7.27 Construction or development .............. 14,994 3.48 15,413 3.74 15,218 4.22 11,855 4.06 December 31, -------------------- 1998 -------------------- Amount Percent ---------- ------- Fixed-Rate Loans and Mortgage-Backed Securities Real estate: One-to-four family ........ $ 75,352 27.90% Multi-family .............. 390 0.14 Commercial ................ 2,076 0.77 Construction or development .............. 2,708 1.00 Mortgage-backed securities .. 9,296 3.44 ---------- ------- Total real estate loans and mortgage-backed securities ................. 89,822 33.25 Consumer ...................... 19,087 7.07 Commercial business ........... 8,020 2.97 ---------- ------- Total fixed-rate loans and mortgage-backed securities . 116,929 43.29 ---------- ------- Adjustable-Rate Loans and Mortgage-Backed Securities Real estate: One-to-four family ........ 84,604 31.33 Multi-family .............. 5,166 1.92 Commercial ................ 19,215 7.11 Construction or development .............. 11,230 4.16
9
December 31, ----------------------------------------------------------------------------------------- 2002 2001 2000 1999 ---------------------- --------------------- --------------------- --------------------- Amount Percent Amount Percent Amount Percent Amount Percent --------- ------- --------- ------- ---------- ------- ---------- --------- Mortgage-backed securities.... 28,902 6.71 2,488 0.60 4,305 1.19 5,869 2.01 --------- ------- --------- ------- ---------- ------- ---------- --------- Total real estate loans and mortgage-backed securities ................ 162,442 37.72 134,316 32.60 135,518 37.56 128,841 44.17 Consumer ......................... 19,431 4.51 15,391 3.74 15,943 4.42 16,074 5.51 Commercial business .............. 16,254 3.77 13,089 3.18 11,041 3.06 10,798 3.70 --------- ------- --------- ------- ---------- ------- ---------- --------- Total adjustable-rate loans and mortgage-backed securities .................. 198,127 46.00 162,796 39.52 162,502 45.04 155,713 53.38 --------- ------- --------- ------- ---------- ------- ---------- --------- Total loans and mortgage- backed securities ............. 430,644 100.00% 412,015 100.00% 360,763 100.00% 291,629 100.00% --------- ======= --------- ======= ---------- ======= ---------- ========= Less: Loans in process ............... 1,043 2,671 3,341 1,394 Deferred fees and discounts .... 505 470 192 104 Allowance for losses on loans .. 6,524 2,582 2,156 2,171 --------- --------- ---------- ---------- Total loans and mortgage- backed securities receivable, net ............. $ 422,572 $ 406,292 $ 355,074 $ 287,960 ========= ========= ========== ========== December 31, ------------------- 1998 ------------------- Amount Percent ---------- ------- Mortgage-backed securities ... 9,450 3.50 ---------- ------- Total real estate loans and mortgage-backed securities ................ 129,665 48.02 Consumer ......................... 14,125 5.23 Commercial business .............. 9,345 3.46 ---------- ------- Total adjustable-rate loans and mortgage-backed securities .................. 153,135 56.71 ---------- ------- Total loans and mortgage- backed securities ............. 270,064 100.00% ---------- ======= Less: Loans in process ............... 1,671 Deferred fees and discounts .... 129 Allowance for losses on loans .. 2,375 ---------- Total loans and mortgage- backed securities receivable, net ............. $ 265,889 ==========
10 The following schedule illustrates the interest rate sensitivity of the Company's loan and mortgage-backed securities portfolio at December 31, 2002. Loans that have adjustable or renegotiable interest rates are shown as maturing in the period during which the contract reprices. The schedule does not reflect the effects of possible prepayments or enforcement of due-on-sale clauses.
Real Estate ------------------------------------------------------------------ One-to-four family and Mortgage-Backed Multi-family and Construction or Securities Commercial Development ----------------------- ------------------- ------------------- Weighted Weighted Weighted Average Average Average Amount Rate Amount Rate Amount Rate ---------- -------- -------- -------- --------- -------- (Dollars in thousands) Due During Twelve Month Periods Ending December 31, 2003(1)............ $ 133 8.97% $ 13,335 6.98% $ 13,468 6.05% 2004 and 2005...... 536 7.52 3,322 7.33 1,008 5.37 2006 and 2007...... 3,837 6.35 3,196 7.58 1,120 7.17 2008 through 2012.. 21,327 6.61 7,064 7.00 3,680 6.58 2013 through 2027.. 129,544 6.38 41,861 7.03 1,667 7.11 2028 and following. 111,451 6.51 1,483 7.17 343 6.63 ---------- -------- --------- Total $ 266,828 $ 70,261 $ 21,286 ========== ======== ========= Commercial Consumer Business Total -------------------- ------------------- -------------------- Weighted Weighted Weighted Average Average Average Amount Rate Amount Rate Amount Rate --------- -------- -------- -------- --------- -------- (Dollars in thousands) Due During Twelve Month Periods Ending December 31, 2003(1)............ $ 5,112 8.83% $ 17,092 5.99% $ 49,140 6.58% 2004 and 2005...... 8,896 7.01 3,972 7.23 17,734 7.04 2006 and 2007...... 13,147 6.28 7,671 6.30 28,971 6.47 2008 through 2012.. 10,957 6.10 4,026 7.46 47,054 6.62 2013 through 2027.. 856 8.46 540 6.93 174,468 6.55 2028 and following. -- -- -- -- 113,277 6.51 --------- -------- ---------- Total $ 38,968 $ 33,301 $ 430,644 ========= ======== ==========
- ---------- (1) Includes demand loans and loans having no stated maturity. 11 As of December 31, 2002, the total amount of loans and mortgage-backed securities due after December 31, 2003, which had predetermined interest rates was $212.9 million, while the total amount of loans and mortgage-backed and related securities due after such date which had floating or adjustable interest rates was $168.6 million. Under the Financial Institutions Reform, Recovery and Enforcement Act of 1989, the aggregate amount of loans that the Bank is permitted to make to any one borrower is generally limited to 15% of unimpaired capital and surplus (25% if the security for such loan has a "readily ascertainable" market value or 30% for certain residential development loans). At December 31, 2002, the Bank's regulatory loan-to-one borrower limit was $5.8 million. On the same date, the Bank's largest total of loans to one borrower was $5.6 million. All of the Company's lending activities are conducted in accordance with policies adopted by its board of directors. The Company is an equal opportunity lender. Decisions on loan applications are made on the basis of detailed applications and property valuations (consistent with the Company's written appraisal policy) prepared by qualified appraisers. The loan applications are designed primarily to determine the borrower's ability to repay and the more significant items on the application are verified through use of credit reports, financial statements, tax returns and/or third-party confirmations. The Company requires evidence of marketable title and lien position as well as appropriate title and other insurance on all loans secured by real property in amounts at least equal to the principal amount of the loan or the value of improvements on the property, depending on the type of loan. One-to-Four Family Residential Real Estate Lending. The cornerstone of the Company's lending program is the origination of loans secured by mortgages on owner-occupied one-to-four family residences. At December 31, 2002, $266.8 million, or 62.0% of the Company's loan and mortgage-backed securities portfolio, consisted of loans secured by one-to-four family residences. At that date, the average outstanding residential loan balance was approximately $65,000 and the largest outstanding residential loan had a book value of $875,000. Substantially all of the residential loans originated by the Company are secured by properties located in the Company's primary market areas. In order to reduce its exposure to changes in interest rates, the Company originates Adjustable Rate Mortgages ("ARM"), subject to market conditions and consumer preference. The Company also originates long term fixed-rate residential loans. Most of the Company's fixed-rate loans are originated with terms which conform to secondary market standards (i.e., Freddie Mac standards). Most of the Company's fixed-rate residential loans have contractual terms to maturity of 15 to 30 years. The origination of fixed-rate loans with terms which conform to secondary market standards allows the Company the option of either retaining fixed-rate loans for portfolio or selling them in the secondary market. The option to sell fixed-rate loans has been a part of asset/liability management and interest rate risk management for the Company since its formation, and was one of the Bank's strategies prior to the formation of 12 the Company. The Company continuously reviews its current policy on fixed-rate loan retention, in light of changing local, regional and national economic conditions, and with regard to the Company's current interest rate risk and assets/liability positions. Loans originated with certain terms and certain interest rates are designated for sale based on a future date, either the closing date or the application date. All loans either applied for or closed on or after the pre-determined date, which meet the criteria, are designated for sale. During 1999, the Company sold substantially all fixed-rate residential loans having terms greater than 20 years. Those loans with terms of 20 years or less were retained in portfolio. In 2000, the Company implemented an aggressive growth strategy, during which virtually all originated fixed-rate residential loans were retained in portfolio. As market interest rates declined during 2001, the Company again began to sell originated fixed-rate residential loans. Initially, loans with terms greater than 20 years were designated for sale, then loans with terms greater than 15 years were designated for sale, and, finally, in the fourth quarter, virtually all originated fixed-rate residential loans were designated for sale. During 2002, the Company continued to sell virtually all originated fixed-rate residential loans, with the exception of approximately $10.0 million in loans with term of 15 to 20 years retained for asset/liability management reasons. Except for Federal Housing Administration and Veterans' Administration, which are sold with servicing released, the Company retains servicing on the loans its sells. At December 31, 2002, the Company had $97.1 million of 15 year fixed-rate residential loans and $66.9 million of 30 year fixed-rate residential loans in its portfolio. The Company offers ARM loans at rates, terms and fees determined in accordance with market and competitive factors. The Company's current one-to-four family residential ARMs are fully amortizing loans with contractual maturities of up to 30 years. The interest rates on the ARMs originated by the Company are subject to adjustment at stated intervals based on a margin over a specified index and are subject to annual as well as lifetime adjustment limits. The Company's current ARMs do not permit negative amortization of principal and carry no prepayment penalty. At December 31, 2002, the Company had $24.0 million, $2.4 million and $38.1 million of one-year, three-year and five-year ARMs, respectively. The Company's delinquency experience on its ARMs has generally been similar to that on fixed-rate residential loans. Of the $1.8 million of one-to-four family loans delinquent 60 days or more at December 31, 2002, $1.1 million (or 0.5% of one-to-four family loans) consisted of ARMs and $653,000 (or 0.3% of the Company's one-to-four family loans) represented fixed-rate loans. The Company evaluates both the borrower's ability to make principal, interest and escrow payments and the value of the property that will secure the loan. The Company originates residential mortgage loans with loan-to-value ratios generally up to 95% except for a program applicable to first time home buyers where this ratio can go up to 97% with private mortgage insurance and/or other collateral. On any mortgage loan exceeding an 80% loan-to-value ratio at the time of origination, the Company generally requires private mortgage insurance in an amount intended to reduce the Company's exposure to 80% or less of the appraised value of the underlying property. In addition, the Company offers 100% financing on the purchase of single-family, owner occupied homes. All loans originated under this program are required to have private mortgage insurance covering the top 13 35% of the loan balance, and can be either fixed rate or adjustable rate. This program was initiated in 2000. In 1999, the Company announced a $30,000 grant program to assist qualified first-time home buyers in purchasing owner-occupied single-family homes in the Company's market areas. The program provides one-time grants of up to $1,000 to assist qualified applicants who meet low-to-moderate income guidelines. During 2001, the $10,000 which was still available at the start of the year had been used to assist qualified first-time home buyers. The Company decided to commit an additional $30,000 to the grant program. At December 31, 2002, $16,000 of the additional funds was still available to assist qualified first-time home buyers. The Company, on occasion, originates loans in excess of $300,700 (the Freddie Mac maximum during 2002). As of December 31, 2002, the Company had 12 residential mortgage loans having an aggregate balance of $5.5 million with original balances in excess of $300,700 ("jumbo loans"). The Company's historical delinquency experience on its jumbo loans has been excellent. The Company is an approved one-to-four family lender for both the Federal Housing Administration ("FHA") and the Veterans' Administration ("VA"). The Company sells, with servicing released, all FHA and VA loans it originates to other investors, and does not aggressively promote FHA and VA lending. During 2002 there were three FHA or VA loans originated by the Company. Borrowers are notified at the time of application that their loan will be sold to, and serviced by, a party other than the Company. Multi-Family and Commercial Real Estate Lending. The Company also makes multi-family and commercial real estate loans in its primary market areas. At December 31, 2002, the Company had $70.3 million in multi-family and commercial real estate loans, representing 16.3% of the Company's total loan and mortgage-backed securities portfolio. The Company's multi-family portfolio includes loans secured by residential buildings (including university student housing) located primarily in the Company's primary market areas. The Company's commercial real estate portfolio consists of loans on a variety of non-residential properties including nursing homes, churches and other commercial buildings. The Company has originated both adjustable and fixed-rate multi-family and commercial real estate loans. Rates on the Company's adjustable-rate multi-family and commercial real estate loans generally adjust in a manner consistent with the Company's ARMs. Multi-family and commercial real estate loans are generally underwritten in amounts of up to 75% of the appraised value of the underlying property. The table below sets forth by type of property taken as collateral, the number, loan amount and outstanding balance of the Company's multi-family and commercial real estate loans (including purchased loan participations) at December 31, 2002 and the amounts of such loans which were non-performing or "of concern" at December 31, 2002. The amounts shown do not reflect allowances for losses. 14 Original Outstanding Amount Number Loan Principal Non-performing of Loans Amount Balance or of Concern -------- ---------- ----------- -------------- (Dollars in thousands) Multi-family residential 30 $ 17,933 $ 13,672 $ 118 Improved real estate 13 11,225 4,092 -- Churches 24 6,015 5,159 19 Agricultural related 22 2,433 1,984 40 Industrial and warehouse 126 29,114 24,795 2,855 Retail 49 11,659 7,952 485 Office 12 1,604 1,137 -- Other 89 14,218 11,470 200 -------- ---------- ----------- -------------- Total 365 $ 94,201 $ 70,261 $ 3,717 ======== ========== =========== ============== Multi-family residential and commercial real estate loans generally present a higher level of risk than loans secured by one-to-four family residences. This greater risk is due to several factors, including the concentration of principal in a limited number of loans and borrowers, the effects of general economic conditions on income producing properties and the increased difficulty of evaluating and monitoring these types of loans. Purchased Loan Participations. In order to supplement lending activities during periods of low loan volume, the Company has from time to time purchased participation interests in multi-family and commercial real estate loans originated and serviced by other lenders. Prior to purchase, the Company reviews each participation to ensure that the underlying loan complies with the Company's lending policy as in effect at the time of purchase. At December 31, 2002, the Bank had $197,000 of purchased loans and participation interests in one-to-four family loans and $505,000 in participation interests in multi-family and commercial real estate loans. The purchase of loan participations involves the same risks as the origination of the same type of loans as well as additional risks related to the purchaser's lower level of control over the origination and subsequent administration of the loan. Also, some of the loan participations currently on the Company's books are on real estate located out-of-state. Out-of-state investments are considered to carry a higher degree of risk due to the difficulty of monitoring such investments. Commercial Business Lending. Federally chartered savings institutions, such as the Bank, are authorized to make secured or unsecured loans and issue letters of credit for commercial, corporate, business and agricultural purposes and to engage in commercial leasing activities, up to a maximum of 20% of total assets. However, any amount exceeding 10% of total assets must represent small business loans as defined by the OTS. In order to increase the proportion of interest rate sensitive and relatively high yielding loans in its portfolio, and as a part of its effort to provide more comprehensive financial services in the communities serviced by its offices, the Company originates secured and unsecured commercial loans to local businesses. Currently, the Company's commercial business lending activities encompass loans with a broad variety of purposes including working capital, accounts receivable, inventory, equipment and agriculture. The Company does not have any energy or foreign loans. 15 At December 31, 2002, the Company had $33.3 million in commercial business loans outstanding (representing 7.7% of the Company's total loan and mortgage-backed securities portfolio) with additional commercial business loan commitments totaling $5.3 million, most of which were undrawn lines of credit. In addition, at December 31, 2002, the Company had twenty-seven letters of credit outstanding, in an aggregate amount of $1.2 million. Most of the Company's commercial business loans have terms to maturity of five years or less and adjustable or floating interest rates. At December 31, 2002, the Company had thirty-four commercial business loans with balances of $250,000 or more, in an aggregate amount of $17.5 million. The Company recognizes the generally increased risks associated with commercial business lending. The Company's commercial business lending policy emphasizes credit file documentation and analysis of the borrower's character, management capabilities, capacity to repay the loan, the adequacy of the borrower's capital and collateral as well as an evaluation of the industry conditions affecting the borrower. Analysis of the borrower's past, present and future cash flows is also an important aspect of the Company's credit analysis. Asset quality issues that came to light during 2002 led management and the Board of Directors, through its Audit Committee, to initiate an extensive review of the commercial loan portfolio, including a review of the Company's underwriting process and portfolio management procedures. The following table sets forth information regarding the number and amount of the Company's commercial business loans and the amounts of such loans which were non-performing and "of concern" as of December 31, 2002.
Total Outstanding Amount Number Loan Principal Non-Performing of Loans Commitment Balance or of Concern -------- ---------- ----------- -------------- (Dollars in thousands) Secured Loans: Accounts receivable....................... 22 $ 14,885 $ 5,832 $ -- Inventory................................. 2 100 67 -- Equipment................................. 72 4,789 3,432 19 Other business assets..................... 52 10,256 8,137 1,966 Stocks and bonds.......................... 13 2,654 2,417 -- Heavy duty vehicles....................... 161 8,374 5,467 -- Other motor vehicles...................... 43 1,325 1,020 8 Assignments other......................... 10 3,962 1,535 739 Stand-by letters of credit................ 18 931 -- -- Beneficial interest in real estate trust.. 19 6,490 3,130 -- Unsecured loans............................. 69 3,727 2,264 155 Unsecured stand-by letters of credit........ 9 297 -- -- -------- ---------- ----------- -------------- Total commercial business loans........... 490 $ 57,790 $ 33,301 $ 2,887 ======== ========== =========== ==============
Consumer Lending. Management believes that offering consumer loan products helps to expand the Company's customer base and to create stronger ties to its existing customer base. In addition, because consumer loans generally have shorter terms to maturity and/or adjustable-rates and carry higher rates of interest than do residential mortgage loans, they can be valuable asset/liability management tools. The Company currently originates substantially all of its consumer 16 loans in its market areas. At December 31, 2002, the Company's consumer loans totaled $39.0 million or 9.1% of the Company's loan and mortgage-backed securities portfolio. The Company offers a variety of secured consumer loans, including home equity and home improvement loans, loans secured by savings deposits, mobile home and automobile loans. Although the Company primarily originates consumer loans secured by real estate, deposits or other collateral, the Company also makes unsecured personal loans. In addition, the Company offers unsecured consumer loans through its Visa and MasterCard credit card programs. The Company offers mobile home loans in order to provide affordable housing. All of the Company's mobile home loans have been originated with fixed-rates of interest and are generally made in amounts of up to a maximum of 80% of the buyer's cost. As of December 31, 2002, mobile home loans totaled $1.1 million or approximately 0.3% of the Company's gross loan and mortgage-backed securities portfolio. Unsecured personal loans are made to borrowers for a variety of personal needs and are usually limited to a maximum of $3,000, with a minimum loan amount of $1,000. Lines of credit extended through the Company's Visa and MasterCard credit card programs are generally limited to $5,000. Underwriting standards for the Company's credit card program are substantially the same as for personal loans. Consumer loans may entail greater risk than residential mortgage loans, particularly in the case of consumer loans which are unsecured or secured by rapidly depreciable assets such as automobiles. The greater risk inherent in consumer loans has been emphasized by recent nationwide increases in personal bankruptcies. Although the level of delinquencies in the Company's consumer loan portfolio has generally been low (at December 31, 2002, $290,000, or approximately 0.7% of the consumer loan portfolio was 90 days or more delinquent), there can be no assurance that delinquencies will not increase in the future. Construction Lending. Historically, construction lending was a relatively minor part of the Company's business activities. However, in light of the economic climate in its principal market areas and in order to increase the yield on, and the proportion of, interest rate sensitive loans in its portfolio and to provide more comprehensive financial services to families and community businesses within its market areas, the Company expanded its construction lending. At December 31, 2002, the Company had $1.8 million of residential construction loans and $1.8 million of lot loans to borrowers intending to live in the properties upon completion of construction. On occasion, the Company also originates construction loans to builders and developers for the construction of one-to-four family residences, multi-family residences and commercial real estate and the acquisition and development of one-to-four family lots in the Company's primary market areas. Construction loans to builders of one-to-four family residences generally carry terms of up to one year and may provide for the payment of interest and loan fees from loan proceeds. At December 31, 2002, the Bank had approximately $5.8 million in loans to builders of residences, and $7.0 million in loans on commercial construction. In addition, on the same date, the Company had $4.8 million of subdivision loans to developers for the development of one-to-four family lots. 17 Most of the Company's construction loans have been originated with adjustable rates and terms of 12 months or less. Construction loans to owner occupants are generally made in amounts of up to a maximum loan-to-value ratio of 80% (75% in the case of commercial real estate). The Company's construction loans to persons other than owner occupants generally involve larger principal balances than do its one-to-four family residential loans. At December 31, 2002, only nine of the Company's construction loans had a principal balance in excess of $500,000. The total principal balances of these loans was $13.1 million. The table below sets forth the number and amount of the Company's construction loans at December 31, 2002, by type of security property.
Total Outstanding Amount Number Loan Principal Non-Performing of Loans Commitment Balance or of Concern -------- ---------- ----------- -------------- (Dollars in thousands) One-to-four family residential............ 14 $ 2,276 $ 2,242 $ -- Multi-family residential.................. 2 821 789 -- Land acquisition and development.......... 68 22,677 11,926 1,687 Retail and Industrial..................... 5 7,327 6,329 -- -------- ---------- ----------- -------------- Total............................ 89 $ 33,101 $ 21,286 $ 1,687 ======== ========== =========== ==============
Construction lending to persons other than owner occupants is generally considered to involve a higher level of credit risk than one-to-four family residential lending due to the concentration of principal in a limited number of loans and borrowers and the effects of general economic conditions on construction projects, real estate developers and managers. In addition, the nature of these loans is such that they are more difficult to evaluate and monitor. Originations, Purchases and Sales of Loans. The Company originates real estate and other loans through employees located at each of the Company's offices. Walk-in customers and referrals from real estate brokers and builders are also important sources of loan originations. The Company does not generally utilize the services of mortgage brokers. From time to time, in order to supplement its loan production, particularly during periods of low loan demand, the Company purchases residential and other loans from third parties. Under its loan purchase policies, prior to purchase, the Company reviews each loan to assure that it complies with the Company's normal underwriting standards. While the Company will continue to evaluate loan purchase opportunities as they arise, the Company currently anticipates limiting its future purchases of out-of-area non-residential loans. As part of its asset/liability management and interest rate risk management, the Company continuously evaluates its policy on the sale versus retention of its fixed-rate loan production. General economic factors and current strategic objectives are among the factors considered in decisions to retain or sell loans. During the three year period from 2000 through 2002, there were periods of time the Company retained all fixed-rate loans, no fixed-rate loans and a portion of fixed-rate loans, determined by rate and term. The Company's sales during recent years have been made through sales contracts entered into after the Company committed to fund the loan. When loans are 18 designated for sale, the Company attempts to limit interest rate risk created by forward commitments by limiting the number of days between the commitment and closing, charging fees for commitments and limiting the amounts of its uncovered commitments outstanding at any one time. When loans have been sold, the Company virtually always retains the responsibility for servicing such loans. At December 31, 2002, excluding mortgage-backed securities, approximately $1.1 million of the Company's loan portfolio consisting of purchased loans and purchased participations serviced by others and the Company serviced $104.8 million of loans for others. During the year ended December 31, 2002, the Company received fee income of $213,000 in connection with loans serviced for others. 19 The following table shows the loan origination, purchase and repayment activities of the Company for the periods indicated.
Year Ended December 31, -------------------------------------- 2002 2001 2000 ---------- ---------- ---------- (Dollars in thousands) Originations By Type: Adjustable-Rate: Real estate - one-to-four family ........ $ 17,289 $ 21,089 $ 15,802 - commercial .................... 39,583 32,469 31,577 Non-real estate - consumer .............. 16,976 11,437 11,176 - commercial business ....... 13,908 12,511 14,191 ---------- ---------- ---------- Total adjustable-rate ............. 87,756 77,506 72,746 ---------- ---------- ---------- Fixed-Rate: Real estate - one-to-four family ........ 92,226 98,080 61,096 - commercial .................... 10,597 13,008 11,192 Non-real estate - consumer .............. 11,684 15,493 17,776 - commercial business ....... 9,921 18,202 12,665 ---------- ---------- ---------- Total fixed-rate .................. 124,428 144,783 102,729 ---------- ---------- ---------- Total loans originated ............ 212,184 222,289 175,475 ---------- ---------- ---------- Purchases: Real estate - one-to-four family .......... -- -- -- - commercial .................... 2,212 -- -- Non-real estate - commercial business ... 866 -- -- ---------- ---------- ---------- Total loans ....................... 3,078 -- -- Mortgage-backed securities ................ 34,567 301 1,963 ---------- ---------- ---------- Total purchased ................... 37,645 301 1,963 ---------- ---------- ---------- Sales and Repayments: Sales: Real estate - one-to-four family .......... 57,816 22,266 77 - commercial .................... 1,750 1,791 --- Non-real estate - consumer ................ --- --- 251 ---------- ---------- ---------- Total sales ....................... 59,566 24,057 328 ---------- ---------- ---------- Principal repayments ...................... 170,210 146,210 110,018 ---------- ---------- ---------- Total reductions .................. 229,776 170,267 110,346 ---------- ---------- ---------- Increase (decrease) in other items, net ... (1,424) (1,071) 2,042 ---------- ---------- ---------- Net increase ...................... $ 18,629 $ 51,252 $ 69,134 ========== ========== ==========
20 Delinquency Procedures. When a borrower fails to make a required payment on a loan, the Company attempts to cause the delinquency to be cured by contacting the borrower. In the event a real estate loan payment is past due for 90 days or more, the Company performs an in- depth review of the loan status, the condition of the property and the circumstances of the borrower. Based upon the results of its review, the Company may negotiate and accept a repayment program with the borrower, accept a voluntary deed in lieu of foreclosure or, when deemed necessary, initiate foreclosure proceedings. Unsecured consumer loans are charged-off if they remain delinquent for 120 days. Secured consumer loans are liquidated and charged-off to the extent the debt exceeds the fair value of the collateral. The Company's procedures for repossession and sale of consumer collateral are subject to various requirements under Illinois consumer protection laws. Delinquencies in the Company's commercial business loan portfolio are handled on a case-by-case basis under the direction of the chief commercial banking officer. Generally, personal contact is made with the borrower when the loan is 15 days past due. Each credit on the Company's internal loan "watch list" is evaluated periodically to estimate potential losses. The allowance for losses on loans is charged when management determines that the prospects of recovery of the principal of a loan have significantly diminished. Subsequent recoveries, if any, are credited to the allowance for losses on loans. Commercial and other loan charge-offs are made based on management's on-going evaluation of non-performing loans. In order to strengthen and expand the commercial loan review process, a new position at the vice president level was created and staffed at the Bank during the first quarter of 2003 at the recommendation of the Audit Committee. This officer, an experienced lender, is responsible for reviewing credit and other loan quality issues on both existing and proposed commercial business and commercial real estate loans. Real estate acquired by the Company as a result of foreclosure or by deed in lieu of foreclosure is classified as real estate owned until it is sold. When property is acquired, it is recorded at its estimated fair value at the date of acquisition, and any write-down resulting therefrom is charged to the allowance for losses on loans. Upon acquisition, all costs incurred in maintaining the property are expensed. Costs relating to the development and improvement of the property, however, are capitalized to the extent of its fair value. 21 The following table sets forth the Company's loan delinquencies by type, by amount and by percentage of type at December 31, 2002.
Loans Delinquent For: -------------------------------------------------------------------- Total 60 Days or More 60-89 Days 90 Days and Over Delinquent --------------------------------------- ---------------------------- ---------------------------- Percent Percent Percent of Loan of Loan of Loan Number Amount Category Number Amount Category Number Amount Category ------ ------- -------- ------ --------- -------- ------ -------- ---------- (Dollars in thousands) Real Estate: One-to-four family .. 13 $ 643 0.28% 23 $ 1,115 0.49% 36 $ 1,758 0.77% Multi-family ........ -- -- -- 118 0.86 -- 118 0.86 Commercial .......... 6 977 1.73 32 5,555 9.81 38 6,532 11.54 Construction and development ........ -- -- 1 1,688 7.93 1 1,688 7.93 Consumer .............. 14 153 0.39 27 290 0.74 41 443 1.13 Commercial business ... 1 352 1.06 16 1,508 4.53 17 1,860 5.59 ------ ------- ------ --------- ------ -------- Total .......... 34 $ 2,125 0.54 99 $ 10,274 2.62 133 $ 12,399 3.16 ====== ======= ====== ========= ====== ========
The following table sets forth the Company's loan delinquencies by type, by amount and by percentage of type at December 31, 2001.
Loans Delinquent For: -------------------------------------------------------------------- Total 60 Days or More 60-89 Days 90 Days and Over Delinquent --------------------------------------- ---------------------------- ---------------------------- Percent Percent Percent of Loan of Loan of Loan Number Amount Category Number Amount Category Number Amount Category ------ ------ -------- ------ ------ -------- ------ ------ -------- (Dollars in thousands) Real Estate: One-to-four family .. 21 $ 964 0.39% 16 $ 572 0.23% 37 $ 1,536 0.62% Multi-family ........ -- -- -- -- -- -- Commercial .......... -- -- 2 33 0.07 2 33 0.07 Construction and development ........ -- -- -- -- -- -- Consumer .............. 3 54 0.14 30 375 0.97 43 429 1.11 Commercial business ... 1 11 0.04 5 141 0.45 6 152 0.49 ------ -------- ------ ------- ------ ------- Total .......... 35 $ 1,029 0.26 53 $ 1,121 0.28 88 $ 2,150 0.54 ====== ======== ====== ======= ====== =======
22 Classification of Assets. Federal regulations require that each savings institution classify its own assets on a regular basis. In addition, in connection with examinations of savings institutions, OTS and FDIC examiners have authority to identify problem assets and, if appropriate, require them to be classified. There are three classifications for problem assets: Substandard, Doubtful and Loss. The regulations have also created a Special Mention category, consisting of assets which do not currently expose a savings institution to a sufficient degree of risk to warrant classification, but do possess credit deficiencies or potential weaknesses deserving management's close attention. Assets classified as Substandard or Doubtful require the institution to establish prudent general allowances for losses on loans. If an asset or portion thereof is classified as Loss, the institution must either establish specific allowances for losses on loans in the amount of 100% of the portion of the asset classified Loss, or charge off such amount. If an institution does not agree with an examiner's classification of an asset, it may appeal this determination to the Regional Director of the OTS. On the basis of management's review of its assets, at December 31, 2002, on a net basis, the Company had classified $6.0 million of its assets as Special Mention, $6.5 million as Substandard, $41,000 of its assets as doubtful and $3.5 million as Loss. The Company's classified assets consist of the non-performing loans and loans and other assets of concern discussed herein. Non-Performing Assets. The following table sets forth the amounts and categories of non-performing assets of the Company. Loans are reviewed quarterly and any loan whose collectibility is doubtful is placed on non-accrual status. Real estate loans are placed on non-accrual status when either principal or interest is 90 days or more past due, unless, in the judgment of management, collectibility is considered highly probable and collection efforts are in progress, in which case interest would continue to accrue. At December 31, 2002, there were 48 loans with outstanding principal balances totaling $3.4 million which were 90 days or more past due and continuing to accrue interest. Interest accrued and unpaid at the time a consumer loan is placed on non-accrual status is charged against interest income. Subsequent payments are either applied to the outstanding principal balance or recorded as interest income, depending on the assessment of the ultimate collectibility of the loan. For all years presented, the Company had no troubled debt restructurings other than those included in the non-performing assets table. Foreclosed assets include assets acquired in settlement of loans. The loan and foreclosed asset amounts shown are stated net of the specific reserves which have been established against such assets. 23
December 31, ----------------------------------------------------------------- 2002 2001 2000 1999 1998 ------------ ------------ ------------ ------------ ------------ (Dollars in thousands) Non-accruing loans: One-to-four family(1) .................. $ 1,115 $ 572 $ 680 $ 473 $ 606 Multi-family ........................... 118 -- -- -- Commercial ............................. 3,039 33 -- 80 265 Construction and development ........... 1,687 -- -- -- -- Consumer ............................... -- -- -- -- -- Commercial business .................... 875 125 -- -- 90 ---------- ---------- ---------- ---------- ---------- Total ............................... 6,834 730 680 553 962 ---------- ---------- ---------- ---------- ---------- Accruing loans delinquent more than 90 days: One-to-four family(1) .................. -- -- -- -- -- Multi-family ........................... -- -- -- -- -- Commercial ............................. 2,516 -- 10 807 41 Construction and development ........... -- -- 900 -- -- Consumer ............................... 290 375 156 388 438 Commercial business .................... 633 16 824 -- 40 ---------- ---------- ---------- ---------- ---------- Total ............................... 3,439 391 1,890 1,195 519 ---------- ---------- ---------- ---------- ---------- Foreclosed assets: One-to-four family ..................... 303 370 204 344 387 Multi-family ........................... -- -- 48 -- -- Commercial ............................. -- 68 175 157 1,489 Construction and development ........... -- -- -- -- -- Consumer ............................... 13 31 51 68 -- Commercial business .................... -- -- -- -- -- ---------- ---------- ---------- ---------- ---------- Total foreclosed assets ............. 316 469 478 569 1,876 ---------- ---------- ---------- ---------- ---------- Troubled debt restructuring Real estate: One-to-four family ..................... 214 249 120 122 -- Commercial ............................. 266 295 319 342 -- Construction and development ........... -- 17 -- -- -- Consumer ............................... -- 50 -- -- -- ---------- ---------- ---------- ---------- ---------- Total troubled debt restructuring ... 480 611 439 464 -- ---------- ---------- ---------- ---------- ---------- Total non-performing assets .............. $ 11,069 $ 2,201 $ 3,487 $ 2,781 $ 3,357 ========== ========== ========== ========== ========== Total as a percentage of total assets ................................. 2.03% 0.45% 0.76% 0.69% 0.82% ========== ========== ========== ========== ==========
- ---------- (1) Includes loans held for sale. For the years ended December 31, 2002 and 2001, gross interest income which would have been recorded had the non-accruing loans been current in accordance with their original terms amounted to $387,000 and $33,000, respectively. The amount that was included in interest income on such loans was $153,000 and $34,000 for 2002 and 2001, respectively. 24 Analysis of Allowance for Losses on Loans. The following table sets forth an analysis of the Company's allowance for losses on loans.
Year Ended December 31, ---------------------------------------------------------------------- 2002 2001 2000 1999 1998 ------------ ------------ ------------ ------------ ---------- (Dollar in thousands) Balance at beginning of period ........... $ 2,582 $ 2,156 $ 2,171 $ 2,375 $ 2,130 Charge-offs: One-to-four family ..................... 2 -- -- 21 20 Multi-family ........................... -- -- -- -- -- Commercial real estate ................. -- 28 3 29 -- Construction ........................... -- -- -- -- -- Consumer ............................... 79 61 124 114 160 Commercial business .................... -- 14 8 123 44 ---------- ---------- ---------- ---------- ---------- 81 103 135 287 224 ---------- ---------- ---------- ---------- ---------- Recoveries: One-to-four family ..................... -- -- -- -- -- Multi-family ........................... -- -- -- -- -- Commercial real estate ................. -- 1 28 16 -- Construction ........................... -- -- -- -- -- Consumer ............................... 22 24 27 42 71 Commercial business .................... 11 1 15 25 -- ---------- ---------- ---------- ---------- ---------- 33 26 70 83 71 ---------- ---------- ---------- ---------- ---------- Net charge-offs .......................... (48) (77) (65) (204) (153) Additions charged to operations .......... 3,990 503 50 -- -- Additions through acquisitions ........... -- -- -- -- 398 ---------- ---------- ---------- ---------- ---------- Balance at end of period ................. $ 6,524 $ 2,582 $ 2,156 $ 2,171 $ 2,375 ========== ========== ========== ========== ========== Ratio of net charge-offs during the period to average loans outstanding during the period ........... 0.01% 0.02% 0.02% 0.08% 0.06% ========== ========== ========== ========== ========== Ratio of net charge-offs during the period to average non- performing assets ....................... 0.75% 3.07% 2.75% 6.65% 3.97% ========== ========== ========== ========== ==========
The balance in the allowance for losses on loans and the related amount charged to operations is based upon periodic evaluations of the loan portfolio by management. These evaluations consider several factors including, but not limited to, general economic conditions, loan portfolio composition, prior loan loss experience, and management's estimate of future potential losses. 25 While management believes that it uses the best information available to determine the allowance for estimated losses on loans, unforeseen market conditions could result in adjustments to the allowance for estimated losses on loans and net earnings could be significantly affected if circumstances differ substantially from the assumptions used in making the final determination.
December 31, ---------------------------------------------------------------------------------------------------------------- 2002 2001 2000 1999 1998 ------------------------- ---------------------- ---------------------- ---------------------- ----------------- Percent of Percent of Percent of Percent of Percent of Loans in Loans in Loans in Loans in Loans in Each Each Each Each 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) One-to-four Family ........... $ 224 58.26% $ 157 61.81% $ 209 61.48% $ 313 60.24% $ 415 63.65% Multi-family ....... 7 3.48 6 2.99 24 3.37 66 3.26 83 2.21 Commercial real estate ............ 3,212 14.42 933 12.13 825 11.48 611 10.54 469 8.47 10.54 Construction or development ....... 1,403 5.42 532 5.63 350 5.16 208 5.19 301 5.55 Consumer ........... 244 9.93 225 9.63 167 11.62 207 12.74 208 13.21 Commercial business .......... 1,434 8.49 729 7.81 581 6.89 600 8.03 556 6.91 Unallocated ........ -- -- -- -- -- -- 166 -- 343 -- -------- ------ -------- ------ -------- ------ -------- ------ -------- ------ Total ......... $ 6,524 100.00% $ 2,582 100.00% $ 2,156 100.00% $ 2,171 100.00% $ 2,375 100.00% ======== ====== ======== ====== ======== ====== ======== ====== ======== ======
26 INVESTMENT ACTIVITIES The Company has traditionally invested in U.S. Government securities and agency obligations of both long and short terms to supplement its lending activities. During recent years, the Company has refocused its investment activities on short and medium term securities, although the Company has retained a number of longer term securities in its portfolio which are held for investment. In addition, from time to time, the Company has acquired securities for trading purposes, although during 2002, the Company did not hold or acquire any securities held for trading. When the Company holds securities for trading, they are recorded on the Company's books at market value. At December 31, 2002, the Bank did not own any securities of a single issuer which exceeded 10% of the Bank's stockholder's equity, other than U.S. Government or federal agency obligations. The Company, from time to time, considers other types of investment opportunities, with the primary goal of improving net income and enhancing stockholder value. Investments are considered if they are accretive to net income, carry acceptable levels of interest rate risk, credit risk and other risk factors, and are an appropriate fit for the Company's balance sheet. After completing an evaluation process that began in the second half of 2001, the Company, during the first quarter of 2002, invested $8.0 million in Bank Owned Life Insurance ("BOLI"), covering the lives of 15 senior officers. This investment provides non-taxable current income through increases in cash surrender value of the policies. The purpose of this investment is to increase after-tax earnings on the invested funds, which can be used to offset costs, or cost increases, associated with employee benefit plans, such as those involving health insurance. An investment in BOLI provides no cash flow unless the policies are cancelled, an option with negative tax consequences, or death benefits are paid. Since BOLI is not a liquid investment, it is included on the statement of condition as part of "Other assets" and income recorded from the investment is included in the "Other" line item under "Other income." Management receives regular performance reports on the investment in BOLI and regular evaluative reports on the issuing insurance companies. Management believes that the investment in BOLI carries minimal risk to either the liquidity position or the capital position of the Company. Through March 15, 2001, the Bank was required by federal regulations to maintain a minimum amount of liquid assets based on a percentage of net withdrawable savings and current borrowings. This OTS requirement was eliminated effective March 15, 2001. However, management is required to maintain a level of liquid assets consistent with safe and sound operation of the Bank. As part of this requirement, cash flow projections are reviewed on an ongoing basis to assure that adequate liquidity is provided. 27 The following table sets forth the composition of the Company's investment portfolio at the dates indicated.
December 31, ----------------------------------------------------------------- 2002 2001 2000 ------------------- ------------------- ------------------- Book % of Book % of Book % of Value Total Value Total Value Total -------- -------- -------- -------- -------- -------- (Dollars in thousands) Investment Securities (1): U.S. government securities ................ $ -- --% $ -- --% $ -- --% Federal agency obligations ................ 43,994 91.15 34,322 88.77 56,759 92.70 Municipal bonds ........................... 1,067 2.21 1,465 3.79 1,448 2.36 Non-marketable equity securities .......... -- -- -- -- 501 0.82 Mutual fund shares ........................ 465 0.96 434 1.12 411 0.67 -------- -------- -------- -------- -------- -------- Subtotal ............................ 45,526 94.32 36,221 93.68 59,119 96.55 FHLB Stock ................................... 2,740 5.68 2,443 6.32 2,112 3.45 -------- -------- -------- -------- -------- -------- Total investment securities and FHLB stock .............................. $ 48,266 100.00% $ 38,664 100.00% $ 61,231 100.00% ======== ======== ======== ======== ======== ======== Average remaining life or term to repricing of investment securities excluding FHLB stock and non-marketable securities ............... 33 months 34 months 32 months Other Interest-Earning Assets: Federal funds sold ........................ $ 19,178 54.93% $ 7,113 46.66% $ 1,330 9.71% Money market funds ........................ 11,671 33.43 4,118 27.01 5,110 37.30 FHLB overnight investments ................ 4,013 11.50 3,965 26.00 7,211 52.63 Certificates of deposit ................... 50 0.14 50 0.33 50 0.36 -------- -------- -------- -------- -------- -------- Total .................................. $ 34,912 100.00% $ 15,246 100.00% $ 13,701 100.00% ======== ======== ======== ======== ======== ========
- ---------- (1) Includes securities available-for-sale. 28 The composition and maturities of the investment securities portfolios, excluding FHLB stock and non-marketable equity securities at December 31, 2002, are indicated in the following table.
At December 31, 2002 --------------------------------------------------------------------- Less Than 1 to 5 5 to 10 Over Total Investment 1 Year Years Years 10 Years Securities ---------- ---------- ---------- ---------- ---------------- Book Value Book Value Book Value Book Value Book Value ---------- ---------- ---------- ---------- ---------- (Dollars in thousands) Securities available-for-sale: U.S. government securities ... $ -- $ -- $ -- $ -- $ -- Federal agency obligations ... 10,191 33,803 -- -- 43,994 Mutual fund shares ........... 465 -- -- -- 465 ---------- ---------- ---------- ---------- ---------- Total ........................ $ 10,656 $ 33,803 $ -- $ -- $ 44,459 ========== ========== ========== ========== ========== Weighted average yield ....... 5.75% 4.44% --% --% 4.76% ========== ========== ========== ========== ========== Securities held-to-maturity: Municipal Bonds .............. $ 120 $ 871 $ 21 $ 55 $ 1,067 ========== ========== ========== ========== ========== Weighted averageyield ........ 3.55% 3.89% 5.60% 6.40% 4.01% ========== ========== ========== ========== ==========
SOURCES OF FUNDS General. Deposit accounts have traditionally been the principal source of the Company's funds for use in lending and for other general business purposes. In addition to deposits, the Company derives funds from loan repayments and cash flows generated from operations. Scheduled loan payments are a relatively stable source of funds, while deposit inflows and outflows and the related cost of such funds have varied. Other potential sources of funds available to the Bank include borrowings from the FHLB and reverse repurchase agreements. Deposits. The Company attracts both short-term and long-term deposits by offering a wide assortment of accounts and rates. The Company offers commercial demand, regular statement savings accounts, NOW accounts, money market accounts, fixed interest rate certificates of deposit with varying maturities and individual retirement accounts. Deposit account terms vary, according to the minimum balance required, the time period the funds must remain on deposit and the interest rate, among other factors. The Company has not actively sought deposits outside of its primary market area. 29 The following table sets forth the savings flows at the Company during the periods indicated:
Year Ended December 31, ------------------------------------------- 2002 2001 2000 ----------- ----------- ----------- (Dollars in thousands) Opening balance ......... $ 415,467 $ 388,050 $ 354,977 Deposits ................ 1,401,391 1,226,566 1,188,101 Withdrawals ............. (1,396,377) (1,217,009) (1,168,567) Increase (decrease) before interest credited .............. 5,014 9,557 19,534 Interest credited ....... 11,551 17,860 13,539 ----------- ----------- ----------- Ending balance .......... $ 432,032 $ 415,467 $ 388,050 =========== =========== =========== Net increase ............ $ 16,565 $ 27,417 $ 33,073 =========== =========== =========== Percent increase ........ 3.99% 7.07% 9.32% =========== =========== ===========
The following table sets forth the dollar amount of savings deposits in the various types of deposit programs offered by the Company at the dates indicated. 30
December 31, ---------------------------------------------------------------------------------- 2002 2001 2000 ------------------------ ------------------------ ------------------------ Percent Percent Percent of of of Amount Total Amount Total Amount Total ---------- ---------- ---------- ---------- ---------- ---------- (Dollars in thousands) Transaction and Savings Deposits(1): Commercial Demand 0% ..................... $ 14,995 3.47% $ 14,642 3.52% $ 16,855 4.34% Savings Accounts 1.29% ................. 72,521 16.79 66,892 16.10 56,198 14.48 NOW Accounts 1.14% ................. 54,455 12.60 49,235 11.85 45,374 11.69 Money Market Accounts 1.91% ................. 33,792 7.82 30,976 7.46 24,306 6.27 ---------- ---------- ---------- ---------- ---------- ---------- Total Non-Certificates 175,763 40.68 161,745 38.93 142,733 36.78 ---------- ---------- ---------- ---------- ---------- ---------- Certificates: 0.00 - 2.99% ........... 86,996 20.14 19,322 4.65 --- --- 3.00 - 4.99% ........... 123,950 28.69 107,015 25.76 7,127 1.84 5.00 - 5.49% ........... 12,492 2.89 38,522 9.27 58,950 15.19 5.50 - 5.99% ........... 15,428 3.57 25,414 6.12 32,052 8.26 6.00 - over ............ 17,185 3.98 63,135 15.19 146,775 37.82 ---------- ---------- ---------- ---------- ---------- ---------- Total Certificates ...... 256,051 59.27 253,408 60.99 244,904 63.11 ---------- ---------- ---------- ---------- ---------- ---------- Accrued Interest ........ 218 0.05 314 0.08 413 0.11 ---------- ---------- ---------- ---------- ---------- ---------- Total Deposits .......... $ 432,032 100.00% $ 415,467 100.00% $ 388,050 100.00% ========== =========== ========== =========== ========== ===========
(1) Rates on transaction and savings deposits are those in effect on December 31, 2002. 31 The following table shows rate and maturity information for the Company's certificates of deposit as of December 31, 2002.
0.00- 3.00- 5.00- 5.50- Percent 2.99% 4.99% 5.49% 5.99% 6% and Over Total of Total ----- ----- ----- ----- ----------- ----- -------- (Dollars in thousands) Certificate Accounts Maturing In Quarter Ending: March 31, 2003 .......... $ 23,390 $ 17,681 $ 1,889 $ 6,830 $ 8,646 $ 58,436 22.82% June 30, 2003 ........... 21,599 33,431 4,865 4,793 -- 64,688 25.26 September 30, 2003 ...... 16,995 21,951 112 571 -- 39,629 15.48 December 31, 2003 ....... 13,703 2,916 153 1,000 -- 17,772 6.94 March 31, 2004 .......... 2,705 2,663 1,096 682 -- 7,146 2.79 June 30, 2004 ........... 6,261 1,567 1,082 1 5 8,916 3.48 September 30, 2004 ...... 62 3,465 775 -- 2 4,304 1.68 December 31, 2004 ....... 2,219 246 241 651 214 3,571 1.39 March 31, 2005 .......... -- 14,427 17 113 2,615 17,172 6.71 June 30, 2005 ........... 62 10,577 14 15 1,791 12,459 4.87 September 30, 2005 ...... -- 6,118 891 -- 614 7,623 2.98 December 31, 2005 ....... -- 789 837 30 1,937 3,593 1.40 Thereafter -- 8,119 520 742 1,361 10,742 4.20 ---------- ---------- ---------- ---------- ---------- ---------- ---------- Total ................ $ 86,996 $ 123,950 $ 12,492 $ 15,428 $ 17,185 $ 256,051 100.00% ========== ========== ========== ========== ========== ========== ========== Percent of total ..... 33.98% 48.41% 4.88% 6.02% 6.71% ========== ========== ========== ========== ==========
32 The following table indicates the amount of the Company's certificates of deposit and other deposits by time remaining until maturity as of December 31, 2002.
Maturity -------------------------------------------------------------- Over Over 3 Months 3 to 6 6 to 12 Over or Less Months Months 12 months Total ---------- ---------- ---------- ---------- ---------- (Dollars in thousands) Certificates of deposit less than $100,000 (1) $ 49,070 $ 48,679 $ 51,492 $ 64,485 $ 213,726 Certificates of deposit of $100,000 or more (1) 5,138 6,648 5,272 9,790 26,848 Public funds (2) 4,228 9,361 637 1,251 15,477 ---------- ---------- ---------- ---------- ---------- Total certificates of deposit $ 58,436 $ 64,688 $ 57,401 $ 75,526 $ 256,051 ========== ========== ========== ========== ==========
- ---------- (1) Excluding public funds. (2) Deposits from governmental and other public entities. Borrowings. The Company utilizes borrowings primarily for two purposes. The first is to purchase mortgage-backed securities in order to generate additional net interest income and as a method of increasing the leverage on its capital. The second is as part of the management of short term cash requirements. The decision to borrow money to purchase mortgage-backed securities is based on several factors, including the current asset/liability mix, the regulatory capital position of the Bank and the adequacy of available interest rate spreads available in such transactions, subject to the limits on such transactions established by the board of directors. Borrowings for such purposes are derived from securities sold under agreements to repurchase and advances from the FHLB of Chicago. Borrowings related to short term cash management are in the form of advances from the FHLB of Chicago. As a member of the FHLB of Chicago, the Company is authorized to apply for advances from the FHLB of Chicago. Each FHLB of Chicago credit program has its own interest rate, which may be fixed or variable, and range of maturities. The FHLB of Chicago may prescribe the acceptable uses for these advances, as well as limitations on the size of the advances and repayment provisions. At December 31, 2002, borrowed money totaled $59.7 million, of which $32.1 million was in advances from the FHLB of Chicago and $27.6 million was from securities sold under agreements to repurchase. Interest expense on borrowed money totaled $2.4 million during 2002 and $1.3 million during 2001. Capital Management. The Company employed an aggressive capital management plan over the last two years. As part of this plan, the Company made open market purchases of its own stock, repurchasing 83,600 common shares at an average cost of $38.30 per share in 2002 and 64,200 common shares at an average cost of $24.03 per share in 2001. During the first quarter of 2003, 33 through March 10, 2003, the Company made open market purchases of 233,700 common shares at an average cost of $39.90 per share. Since converting to a stock organization in 1992, the Company, through December 31, 2002, had repurchased 753,119 common shares at an average cost of $23.31 per share. Through March 10, 2003, 986,389 common shares had been repurchased at an average cost of $27.24 per share. The Company continuously evaluates balance sheet opportunities to augment and leverage its strong capital base to maximize stockholders' return on equity. During the middle part of the 1990's, the Company employed a leveraging strategy, borrowing and investing funds to enhance net interest income. This strategy was minimized in 2000 and 2001, when the Company increased leverage through internally generated growth. While opportunities for internally generated growth are in process of development and implementation, during 2002 the Company borrowed $30.0 million and purchased mortgage-backed securities in a new leverage strategy. As a way to create flexibility in its capital management strategies, the Company issued $10.0 million in trust preferred securities during the second quarter of 2002. Such securities are includable, within specified limits, in regulatory capital and the interest paid on the securities is deductible for tax purposes. The funds provided were used primarily for the repurchase of common shares. Interest expense related to trust preferred securities totaled $438,000 during 2002. SERVICE CORPORATION Federal savings associations generally may invest up to 2% of their assets in service corporations, plus an additional 1% of assets if used for community purposes. In addition, federal savings associations may invest up to 50% of their regulatory capital in conforming loans to their service corporations. In addition to investments in service corporations, federal associations are permitted to invest an unlimited amount in operating subsidiaries engaged solely in activities which a federal savings association may engage in directly. KFS Service Corp. was organized by the Company to provide appraisal services to the Company and others. In addition, since 1983, KFS Service Corp. has offered, on an agency basis, brokerage services to the Company's customers utilizing the services of INVEST Financial Corporation, a registered broker-dealer. Finally, it has also invested in an insurance agency. At December 31, 2002, the Company's equity investment in KFS Service Corp. was approximately $305,000. During 2002, KFS Service Corp. recorded a net consolidated income of $11,000. During 2002 and 2001, gross revenues related to securities and annuities brokerage, appraisal activities and insurance agency activities totaled $141,000, $187,000 and $38,000, and $182,000, $211,000 and $44,000, respectively. COMPETITION The Company faces competition both in originating loans and in attracting deposits. Competition in originating loans comes primarily from other savings institutions, commercial banks, credit unions and mortgage bankers who also make loans secured by real estate located in the Company's primary market areas. The Company competes for loans principally on the basis of the 34 interest rates and loan fees it charges, the types of loans it originates and the quality of services it provides to borrowers. The Company faces substantial competition in attracting deposits from other savings institutions, commercial banks, securities firms, money market and mutual funds, credit unions, insurance companies and other investment vehicles. The ability of the Company to attract and retain deposits depends on its ability to provide an investment opportunity that satisfies the requirements of investors as to rate of return, liquidity, risk, convenient locations and other factors. The Company competes for these deposits by offering a variety of deposit accounts at competitive rates, convenient business hours and a customer oriented staff. The Company estimates its market share of savings deposits in the Kankakee, Grundy and Champaign counties to be 17.9%, 10.0% and 1.3%, respectively. Under the Gramm-Leach-Bliley Act, which became effective in 2000, securities firms and insurance companies that elect to become financial holding companies may acquire banks and other financial institutions. The Gramm-Leach-Bliley Act may significantly change the competitive environment in which the Company and the Bank conduct business. The financial services industry is also likely to become more competitive as further technological advances enable more companies to provide financial services. These technological advances may diminish the importance of depository institutions and other financial intermediaries in the transfer of funds between parties. EMPLOYEES As of December 31, 2002, the Company had 145 full-time employees and 38 part-time employees. The Company places a high priority on staff development which involves extensive training, including customer service and sales training. New employees are selected on the basis of both technical skills and customer service capabilities. None of the Company's employees are represented by any collective bargaining group. The Company offers a variety of employee benefits and management considers its relations with its employees to be excellent. SUPERVISION AND REGULATION GENERAL Financial institutions, their holding companies and their affiliates are extensively regulated under federal and state law. As a result, the growth and earnings performance of the Company may be affected not only by management decisions and general economic conditions, but also by the requirements of federal and state statutes and by the regulations and policies of various bank regulatory authorities, including the Office of Thrift Supervision (the "OTS"), the Board of Governors of the Federal Reserve System (the "Federal Reserve"), and the Federal Deposit Insurance Corporation (the "FDIC"). Furthermore, taxation laws administered by the Internal Revenue Service and state taxing authorities and securities laws administered by the Securities and Exchange Commission (the "SEC") and state securities authorities have an impact on the Company. The effect of these statutes, regulations and regulatory policies may be significant, and cannot be predicted with a high degree of certainty. 35 Federal and state laws and regulations generally applicable to financial institutions regulate, among other things, the scope of business, the kinds and amounts of investments, reserve requirements, capital levels relative to operations, the nature and amount of collateral for loans, the establishment of branches, mergers and consolidations and the payment of dividends. This system of supervision and regulation establishes a comprehensive framework for the respective operations of the Company and its subsidiaries and is intended primarily for the protection of the FDIC insured deposits and the depositors of the Bank, rather than shareholders. The following is a summary of the material elements of the regulatory framework that applies to the Company and the Bank. It does not describe all of the statutes, regulations and regulatory policies that apply, nor does it restate all of the requirements of those that are described. As such, the following is qualified in its entirety by reference to applicable law. Any change in applicable statutes, regulations or regulatory policies may have a material effect on the business of the Company and the Bank. THE COMPANY General. The Company, as the sole shareholder of the Bank, is a savings and loan holding company. As a savings and loan holding company, the Company is registered with, and is subject to regulation by, the OTS under the Home Owners' Loan Act, as amended (the "HOLA"). Under the HOLA, the Company is subject to periodic examination by the OTS. The Company is also required to file with the OTS periodic reports of the Company's operations and such additional information regarding the Company and the Bank as the OTS may require. Acquisitions, Activities and Change in Control. The HOLA prohibits a savings and loan holding company, directly or indirectly, or through one or more subsidiaries from: (i) acquiring control of, or acquiring by merger or purchase of assets, another savings association or savings and loan holding company without the prior written approval of the OTS; (ii) subject to certain exceptions, acquiring more than 5% of the issued and outstanding shares of voting stock of a savings association or savings and loan holding company except as part of an acquisition of control approved by the OTS; or (iii) acquiring or retaining control of a financial institution that is not FDIC-insured. A savings and loan holding company may acquire savings associations located in more than one state in both supervisory transactions involving failing savings associations and nonsupervisory acquisitions of healthy institutions. Interstate acquisitions of healthy savings associations, however, are permitted only if the law of the state in which the savings association to be acquired is located specifically authorizes the proposed acquisition, by language to that effect and not merely by implication. State laws vary in the extent to which interstate acquisitions of savings associations and savings and loan holding companies are permitted. Illinois law presently permits savings and loan holding companies located in any state of the United States to acquire savings associations or savings and loan holding companies located in Illinois, subject to certain conditions, including the requirement that the laws of the state in which the acquiror is located permit savings and loan holding companies located in Illinois to acquire savings associations or savings and loan holding 36 companies in the acquiror's state. Because the Company controls only one savings association subsidiary and because the Company acquired control of the Bank, and thus became a savings and loan holding company, before May 4, 1999, the Company is generally not subject to any restrictions on the types of non-financial activities that the Company may conduct either directly or through a non-banking subsidiary, so long as the Bank constitutes a qualified thrift lender (see "--The Bank--Qualified Thrift Lender Test"). If the Bank were to fail to meet the qualified thrift lender test, or if the Company acquired another savings association and maintained it as a separate subsidiary of the Company, the Company would become subject to certain restrictions on the non-financial activities in which it may engage. In any case, however, if the OTS determines that there is reasonable cause to believe that the continuation by a savings and loan holding company of a particular activity constitutes a serious risk to the financial safety, soundness or stability of the holding company's savings association subsidiary, the OTS may require the holding company to cease engaging in the activity (or divest any subsidiary that engages in the activity) or may impose such restrictions on the holding company and the subsidiary savings association as the OTS deems necessary to address the risk. The restrictions the OTS may impose include limitations on (i) the payment of dividends by the savings association to the holding company; (ii) transactions between the savings association and its affiliates; and (iii) any activities of the savings association that might create a serious risk that liabilities of the holding company and its affiliates may be imposed on the savings association. Federal law also prohibits any person or company from acquiring "control" of a savings association or a savings and loan holding company without prior notice to the OTS. "Control" is conclusively presumed to exist upon the acquisition of 25% or more of the outstanding voting stock of a savings association or savings and loan holding company, but may arise under certain circumstances at 10% ownership. Dividend Payments. The Company's ability to pay dividends to its shareholders may be affected by both general corporate law considerations and policies of the OTS applicable to savings and loan holding companies. As a Delaware corporation, the Company is subject to the limitations of the Delaware General Corporation Law (the "DGCL"), which allows the Company to pay dividends only out of its surplus (as defined and computed in accordance with the provisions of the DGCL) or if the Company has no such surplus, out of its net profits for the fiscal year in which the dividend is declared and/or the preceding fiscal year. Additionally, OTS policies provide that a savings and loan holding company should not pay dividends that are not supportable by the company's core earnings or that may be funded only by borrowings or by sales of assets. The OTS also possesses enforcement powers over savings and loan holding companies to prevent or remedy actions that represent unsafe or unsound practices or violations of applicable statutes and regulations. Among these powers is the ability to prohibit or limit the payment of dividends by savings and loan holding companies. Federal Securities Regulation. The Company's common stock is registered with the SEC under the Securities Act of 1933, as amended, and the Securities Exchange Act of 1934, as amended 37 (the "Exchange Act"). Consequently, the Company is subject to the information, proxy solicitation, insider trading and other restrictions and requirements of the SEC under the Exchange Act. THE BANK General. The Bank is a federally chartered savings association, the deposits of which are insured by the FDIC's Savings Association Insurance Fund ("SAIF"). As a federally chartered savings association, the Bank is subject to the examination, supervision, reporting and enforcement requirements of the OTS, the chartering authority for federal savings associations. The FDIC, as administrator of the SAIF, also has regulatory authority over the Bank. The Bank is a member of the Federal Home Loan Bank System, which provides a central credit facility primarily for member institutions. Deposit Insurance. As an FDIC-insured institution, the Bank is required to pay deposit insurance premium assessments to the FDIC. The FDIC has adopted a risk-based assessment system under which all insured depository institutions are placed into one of nine categories and assessed insurance premiums based upon their respective levels of capital and results of supervisory evaluations. Institutions classified as well-capitalized (as defined by the FDIC) and considered healthy pay the lowest premium while institutions that are less than adequately capitalized (as defined by the FDIC) and considered of substantial supervisory concern pay the highest premium. Risk classification of all insured institutions is made by the FDIC for each semi-annual assessment period. During the year ended December 31, 2002, SAIF assessments ranged from 0% of deposits to 0.27% of deposits. For the semi-annual assessment period beginning January 1, 2003, SAIF assessment rates will continue to range from 0% of deposits to 0.27% of deposits. FICO Assessments. Since 1987, a portion of the deposit insurance assessments paid by SAIF members has been used to cover interest payments due on the outstanding obligations of the Financing Corporation ("FICO"). FICO was created in 1987 to finance the recapitalization of the Federal Savings and Loan Insurance Corporation, the SAIF's predecessor insurance fund. As a result of federal legislation enacted in 1996, beginning as of January 1, 1997, both SAIF members and members of the FDIC's Bank Insurance Fund ("BIF") became subject to assessments to cover the interest payments on outstanding FICO obligations. These FICO assessments are in addition to amounts assessed by the FDIC for deposit insurance. During the year ended December 31, 2002, the FICO assessment rate for BIF and SAIF members was approximately 0.02% of deposits. Supervisory Assessments. All Federal savings associations are required to pay supervisory assessments to the OTS to fund the operations of the OTS. The amount of the assessment is calculated using a formula that takes into account the institution's size, its supervisory condition (as determined by the composite rating assigned to the institution as a result of its most recent OTS examination) and the complexity of its operations. During the year ended December 31, 2002, the Bank paid supervisory assessments to the OTS totaling $109,000. Capital Requirements. Savings associations are generally required to maintain capital levels 38 in excess of other businesses. Pursuant to the HOLA and OTS regulations, savings associations, such as the Bank, are subject to the following minimum capital requirements: (i) a core capital requirement, consisting of a minimum ratio of core capital to total assets of 3% for savings associations assigned a composite rating of 1 as of the association's most recent OTS examination, with a minimum core capital requirement of 4% of total assets for all other savings associations; (ii) a tangible capital requirement, consisting of a minimum ratio of tangible capital to total assets of 1.5%; and (iii) a risk-based capital requirement, consisting of a minimum ratio of total capital to total risk-weighted assets of 8%, and a minimum ratio of core capital to total risk-weighted assets of 4%. Core capital consists primarily of permanent stockholders' equity less (i) intangible assets other than certain supervisory goodwill, certain loan servicing rights and certain purchased credit card relationships and (ii) investments in subsidiaries engaged in activities not permitted for national banks. Tangible capital is substantially the same as core capital except that all intangible assets other than certain mortgage servicing rights must be deducted. Total capital consists primarily of core capital plus certain debt and equity instruments that do not qualify as core capital and a portion of the Bank's allowances for loan and lease losses. The capital requirements described above are minimum requirements. Higher capital levels will be required if warranted by the particular circumstances or risk profiles of individual institutions. For example, regulations of the OTS provide that additional capital may be required to take adequate account of, among other things, interest rate risk or the risks posed by concentrations of credit or nontraditional activities. Further, federal law and regulations provide various incentives for financial institutions to maintain regulatory capital at levels in excess of minimum regulatory requirements. For example, a financial institution that is "well-capitalized" may qualify for exemptions from prior notice or application requirements otherwise applicable to certain types of activities and may qualify for expedited processing of other required notices or applications. Under the regulations of the OTS, in order to be "well-capitalized" a savings association must maintain a ratio of total capital to total risk-weighted assets of 10% or greater, a ratio of Tier 1 capital to total risk-weighted assets of 6% or greater and a ratio of Tier 1 capital to total assets of 5% or greater. For purposes of these provisions of OTS regulations, "Tier 1 capital" is defined to mean core capital. Federal law provides the federal banking regulators with broad power to take prompt corrective action to resolve the problems of undercapitalized institutions. The extent of the regulators' powers depends on whether the institution in question is "adequately capitalized," "undercapitalized," "significantly undercapitalized" or "critically undercapitalized," in each case as defined by regulation. Depending upon the capital category to which an institution is assigned, the regulators' corrective powers include: (i) requiring the institution to submit a capital restoration plan; (ii) limiting the institution's asset growth and restricting its activities; (iii) requiring the institution to issue additional capital stock (including additional voting stock) or to be acquired; (iv) restricting transactions between the institution and its affiliates; (v) restricting the interest rate the institution may pay on deposits; (vi) ordering a new election of directors of the institution; (vii) requiring that senior executive officers or directors be dismissed; (viii) prohibiting the institution from accepting 39 deposits from correspondent banks; (ix) requiring the institution to divest certain subsidiaries; (x) prohibiting the payment of principal or interest on subordinated debt; and (xi) ultimately, appointing a receiver for the institution. As of December 31, 2002: (i) the Bank was not subject to a directive from the OTS to increase its capital to an amount in excess of the minimum regulatory capital requirements; (ii) the Bank exceeded its minimum regulatory capital requirements under OTS capital adequacy guidelines; and (iii) the Bank was "well-capitalized", as defined by OTS regulations. Dividend Payments. The primary source of funds for the Company is dividends from the Bank. OTS regulations require prior OTS approval for any dividend or other capital distribution by a savings association that is not eligible for expedited processing under the OTS's application processing regulations. In order to qualify for expedited processing, a savings association must: (i) have a composite examination rating of 1 or 2; (ii) have a Community Reinvestment Act rating of satisfactory or better; (iii) have a compliance rating of 1 or 2; (iv) meet all applicable regulatory capital requirements; and (v) not have been notified by the OTS that it is a problem association or an association in troubled condition. Savings associations that qualify for expedited processing are not required to obtain OTS approval prior to making a capital distribution unless: (a) the amount of the proposed capital distribution, when aggregated with all other capital distributions during the same calendar year, will exceed an amount equal to the association's year-to-date net income plus its retained net income for the preceding two years; (b) after giving effect to the distribution, the association will not be at least "adequately capitalized" (as defined by OTS regulation); or (c) the distribution would violate a prohibition contained in an applicable statute, regulation or agreement with the OTS or the FDIC or violate a condition imposed in connection with an OTS-approved application or notice. The OTS must be given prior notice of certain types of capital distributions, including any capital distribution by a savings association that, like the Bank, is a subsidiary of a savings and loan holding company, or by a savings association that, after giving effect to the distribution, would not be "well-capitalized" (as defined by OTS regulation). The payment of dividends by any financial institution or its holding company is affected by the requirement to maintain adequate capital pursuant to applicable capital adequacy guidelines and regulations, and a financial institution generally is prohibited from paying any dividends if, following payment thereof, the institution would be undercapitalized. As described above, the Bank exceeded its minimum capital requirements under applicable guidelines as of December 31, 2002. Further, under applicable regulations of the OTS, the Bank may not pay dividends in an amount that would reduce its capital below the amount required for the liquidation account established in connection with the Bank's conversion from the mutual to the stock form of ownership in 1992. As of December 31, 2002, approximately $8.2 million was available to be paid as dividends to the Company by the Bank. Notwithstanding the availability of funds for dividends, however, the OTS may prohibit the payment of any dividends by the Bank if the OTS determines such payment would constitute an unsafe or unsound practice. 40 Insider Transactions. The Bank is subject to certain restrictions imposed by federal law on extensions of credit to the Company, on investments in the stock or other securities of the Company and the acceptance of the stock or other securities of the Company as collateral for loans made by the Bank. Certain limitations and reporting requirements are also placed on extensions of credit by the Bank to its directors and officers, to directors and officers of the Company, to principal stockholders of the Company, and to "related interests" of such directors, officers and principal stockholders. In addition, federal law and regulations may affect the terms upon which any person becoming a director or officer of the Company or the Bank or a principal stockholder of the Company may obtain credit from banks with which the Bank maintains correspondent relationships. Safety and Soundness Standards. The federal banking agencies have adopted guidelines that establish operational and managerial standards to promote the safety and soundness of federally insured depository institutions. The guidelines set forth standards for internal controls, information systems, internal audit systems, loan documentation, credit underwriting, interest rate exposure, asset growth, compensation, fees and benefits, asset quality and earnings. In general, the safety and soundness guidelines prescribe the goals to be achieved in each area, and each institution is responsible for establishing its own procedures to achieve those goals. If an institution fails to comply with any of the standards set forth in the guidelines, the institution's primary federal regulator may require the institution to submit a plan for achieving and maintaining compliance. If an institution fails to submit an acceptable compliance plan, or fails in any material respect to implement a compliance plan that has been accepted by its primary federal regulator, the regulator is required to issue an order directing the institution to cure the deficiency. Until the deficiency cited in the regulator's order is cured, the regulator may restrict the institution's rate of growth, require the institution to increase its capital, restrict the rates the institution pays on deposits or require the institution to take any action the regulator deems appropriate under the circumstances. Noncompliance with the standards established by the safety and soundness guidelines may also constitute grounds for other enforcement action by the federal banking regulators, including cease and desist orders and civil money penalty assessments. Branching Authority. Federally chartered savings associations that qualify as "domestic building and loan associations," as defined in the Internal Revenue Code, or meet the qualified thrift lender test (see "-- Qualified Thrift Lender Test") have the authority, subject to receipt of OTS approval, to establish or acquire branch offices anywhere in the United States. If a federal savings association fails to qualify as a "domestic building and loan association," as defined in the Internal Revenue Code, and fails to meet the qualified thrift lender test the association may branch only to the extent permitted for national banks located in the savings association's home state. As of December 31, 2002, the Bank qualified as a "domestic building and loan association," as defined in the Internal Revenue Code and met the qualified thrift lender test. Qualified Thrift Lender Test. The HOLA requires every savings association to satisfy a "qualified thrift lender" ("QTL") test. Under the HOLA, a savings association will be deemed to 41 meet the QTL test if it either (i) maintains at least 65% of its "portfolio assets" in "qualified thrift investments" on a monthly basis in nine out of every 12 months or (ii) qualifies as a "domestic building and loan association," as defined in the Internal Revenue Code. For purposes of the QTL test, "qualified thrift investments" consist of mortgage loans, mortgage-backed securities, education loans, small business loans, credit card loans and certain other housing and consumer-related loans and investments. "Portfolio assets" consist of a savings association's total assets less goodwill and other intangible assets, the association's business properties and a limited amount of the liquid assets maintained by the association pursuant to OTS requirements. A savings association that fails to meet the QTL test must either convert to a bank charter or operate under certain restrictions on its operations and activities. Additionally, within one year following the loss of QTL status, the holding company for the savings association will be required to register as, and will be deemed to be, a bank holding company. A savings association that fails the QTL test may requalify as a QTL but it may do so only once. As of December 31, 2002, the Bank satisfied the QTL test, with a ratio of qualified thrift investments to portfolio assets of 84.40%, and qualified as a "domestic building and loan association," as defined in the Internal Revenue Code. Federal Reserve System. Federal Reserve regulations, as presently in effect, require depository institutions to maintain non-interest earning reserves against their transaction accounts (primarily NOW and regular checking accounts), as follows: for transaction accounts aggregating $42.1 million or less, the reserve requirement is 3% of total transaction accounts; and for transaction accounts aggregating in excess of $42.1 million, the reserve requirement is $1.083 million plus 10% of the aggregate amount of total transaction accounts in excess of $42.1 million. The first $6.0 million of otherwise reservable balances are exempted from the reserve requirements. These reserve requirements are subject to annual adjustment by the Federal Reserve. The Bank is in compliance with the foregoing requirements. FEDERAL AND STATE TAXATION General. Prior to 1996, savings associations such as the Bank that met certain definitional tests relating to the composition of assets and income as defined in the Internal Revenue Code of 1986 were allowed to establish reserves for bad debts on "qualifying real property loans" based either upon a percentage of taxable income or the experience method, whichever resulted in a larger deduction. Reserves for bad debts on nonqualifying loans were based solely upon the experience method. The experience method reserve amount is calculated as a function of the actual bad debt experience sustained by the institution over a period of years, whereas the percentage of taxable income method is a strict numeric calculation not dependent on actual loss experience. The Small Business Job Protection Act of 1996 became law on August 20, 1996. One of the provisions in the new law repealed the special bad debt reserve methods that had existed for savings associations prior to 1996. The Bank is now required to compute reserves on all loans under the experience method. The new law froze the reserves for bad debts that existed at the end of the last tax year beginning before January 1, 1988 and required the Bank to recapture into taxable income over a six year period the "applicable excess reserve." For the Bank, the applicable excess reserve was approximately $648,000 which represented the difference between the reserve balance at 42 December 31, 1995, and the balance of the reserve at end of the last tax year beginning before January 1, 1988. This excess reserve was recaptured at the rate of $108,000 per year, into taxable income during the six tax years from 1996 through 2001. Deferred taxes had previously been established on the applicable excess reserve. Retained income of the Bank includes approximately $8,998,000 that represents tax provisions for losses on loans that have been deducted in excess of amounts that have been charged against income on the financial statements. No provision for federal income tax has been made against this amount. If, in the future, the Bank ceases to qualify as a "bank" for federal income tax purposes or if these retained earnings are liquidated, federal income taxes may be imposed at the then-applicable rates. If federal income taxes had been provided, the deferred liability would have been approximately $3,059,000. Banks that are "large banks" may no longer use a reserve method for computing bad debt deductions for tax purposes but must instead use the specific charge-off method of Code Section 166 for determining the appropriate tax deduction. In the year a bank becomes a "large bank," it is required to begin recapturing its experience method reserve into taxable income using one of three IRS-approved methods. For former savings associations, such as the Bank, the amount to be recaptured does not include amounts discussed in the preceding paragraph. In 2002, the Bank became a "large bank," but it has no tax reserves subject to the recapture rules. In addition to the regular income tax, corporations, including savings associations such as the Bank, generally are subject to a minimum tax. An alternative minimum tax is imposed at a minimum tax rate of 20% on alternative minimum taxable income, which is the sum of a corporation's regular taxable income (with certain adjustments) and tax preference items, less any available exemption. The alternative minimum tax is imposed to the extent it exceeds corporation's regular income tax. During the years ended December 31, 2000, 2001 and 2002, the Bank was not required to pay alternative minimum tax. The Company, the Bank and its subsidiary file consolidated federal income tax returns on a calendar year basis using the accrual method of accounting. The Bank and its consolidated subsidiaries have been audited by the IRS with respect to consolidated federal income tax returns through December 31, 1982. With respect to years examined by the IRS, all deficiencies have been satisfied. In the opinion of management, any examination of still open returns would not result in a deficiency which could have a material adverse effect on the financial condition of the Company and its consolidated subsidiaries. EXECUTIVE OFFICERS OF THE COMPANY The business experience during the past five years with respect to executive officers of the Company and the Bank who do not serve on the Company's board of directors is listed below. Each officer is elected annually to serve until his or her successor is elected and qualified, or until he or she is no longer employed by the Company or its subsidiaries or is removed by the board of directors. There are no arrangements or understandings between the persons named and any other person pursuant to which such officers were selected. 43 Carol S. Hoekstra, age 47, was elected an Executive Vice President and Interim Chief Operating Officer of both the Company and the Bank in 2003. She was a Senior Vice President of the Bank since 1999 and an Assistant Secretary of the Company since 1992. Previously, she was a Vice President of the Bank since 1995. Mrs. Hoekstra is responsible for oversight of the Company's and the Bank's operations. Mrs. Hoekstra first joined the Bank in 1977. She rejoined the Bank in 1991 as consumer loan manager, following her return to the area from Texas where she worked at a commercial bank in consumer lending. Ronald J. Walters, age 53, is Vice President, Treasurer and Chief Financial Officer of the Company and Senior Vice President, Treasurer and Chief Financial Officer of the Bank, positions he has held since August 1992 and January 1985, respectively. As the Chief Financial Officer of the Bank, Mr. Walters is responsible for the establishment and supervision of the Bank's accounting, office services, and buildings and grounds. Mr. Walters joined the Bank in 1984 as Controller and Chief Financial Officer, was named Vice President and Treasurer in 1985, and promoted to Senior Vice President in 1996. Mr. Walters is a certified public accountant. Keith M. Roseland, age 53, is a Senior Vice President and Chief Commercial Lending Officer of the Bank, a position he was appointed to in 2002. Previously, Mr. Roseland was Regional Commercial Lending Officer of the Bank since 1999, and Regional Branch Manger responsible for the operation of the Coal City, Diamond and Braidwood, Illinois branches of the Bank since 1998. He had previously served as President, since 1986, of Coal City National Bank, which was acquired by the Bank in January, 1998. Mr. Roseland had been with Coal City National Bank since 1967. Terry L. Ralston, age 53, was elected a Vice President of the Bank in 1998. He is also Information Technology Manager of the Bank, a position he was appointed to in 2000. Previously, since joining the Bank in February, 1996, he was Data Processing Manager. He is responsible for the day-to-day operation of the Bank's Data Processing Department and Deposit Services Center. He has over twenty-five years of experience in similar positions with financial institutions in northern Illinois and southern Wisconsin. 44 ITEM 2. PROPERTIES OFFICES The following table sets forth information concerning the main office and each branch office of the Bank at December 31, 2002. At December 31, 2002, the Company's premises had an aggregate net book value of approximately $7.4 million.
Year Owned Lease Net Location Opened (1) or Leased Expiration Date Book Value - ------------------------ ---------- --------- -------------------- -------------- (In thousands) Main Office 310 S. Schuyler Avenue 1958 Owned N/A $ 2,630 Kankakee, Illinois Full Service Branches Main Street and U.S. 45 1977 Owned N/A 18 Ashkum, Illinois 680 S. Main Street 1974 Owned N/A 233 Bourbonnais, Illinois 990 N. Kinzie Avenue (5) 1998 Leased October 22, 2003 (2) 108 Bradley, Illinois 180 N. Front Street 1998 Leased July 24, 2005 (3) 16 Braidwood, Illinois 1001 S. Neil Street 1992 Owned N/A 702 Champaign, Illinois 100 S. Broadway 1998 Leased July 24, 2005 (3) 81 Coal City, Illinois 660 S. Broadway 1998 Owned N/A 913 Coal City, Illinois 1275 E. Division Street 1998 Owned N/A 375 Diamond, Illinois 302 W. Mazon Avenue 1987 Owned N/A 361 Dwight, Illinois 654 N. Park Road 1998 Owned N/A 582 Herscher, Illinois 323 E. Main Street (4) 1994 Owned N/A 150 Hoopeston, Illinois 310 Section Line Road 1975 Owned N/A 228 Manteno, Illinois 200 W. Washington Street 1995 Owned N/A 269 Momence, Illinois 1708 S. Philo Road 1998 Owned N/A 721 Urbana, Illinois -------------- $ 7,387 ==============
(1) Year opened refers to the year in which the current facility opened or was acquired. (2) The Bank has provided notice, consistent with the terms of the lease, to cancel the lease at the end of the fifth year on October 22, 2003. (3) The Bank has an option to renew this lease for two consecutive five year terms. (4) The Hoopeston, Illinois office was sold as of February 14, 2003. (5) A new office building will be built on nearby leased property and available for occupancy prior to October 22, 2003. 45 The Company believes that its current facilities are adequate to meet present and immediately foreseeable needs. The Company maintains depositor and borrower customer files on an in-house system. The net book value of the data processing and computer equipment utilized by the Company at December 31, 2002 was $407,000. ITEM 3. LEGAL PROCEEDINGS The Company is involved as plaintiff or defendant in various legal actions arising in the normal course of its business. While the ultimate outcome of current legal proceedings cannot be predicted with certainty, it is the opinion of management that the resolution of these legal actions should not have a material effect on the Company's consolidated financial position or results of operations. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS No matter was submitted to a vote of security holders, through the solicitation of proxies or otherwise, during the quarter ended December 31, 2002. PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS Page 57 of the 2002 Annual Report to Stockholders is incorporated by reference. ITEM 6. SELECTED FINANCIAL DATA Pages 8 and 9 of the 2002 Annual Report to Stockholders is incorporated by reference. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATION Pages 10 through 28 of the 2002 Annual Report to Stockholders are incorporated by reference. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The Company's net income and net portfolio value ("NPV"), in the normal course of business, are exposed to interest rate risk, and can vary based on changes in the general level of interest rates. All financial products carry some amount of interest rate risk, and substantial portions of both the Company's assets and liabilities are financial products. These include investment securities, asset-backed securities, loans, deposits and borrowed money. Off-balance sheet items, 46 such as loan commitments, letters of credit, commitments to buy or sell loans or securities, and derivative financial instruments, also carry some amount of interest rate risk. The Bank's Funds Management Committee, consisting of the president, certain vice presidents and the controller of the Bank, is responsible for developing methods and strategies for the Company to manage the sensitivity characteristics of its assets and liabilities, and for directing the implementation of these methods and strategies. The Funds Management Committee meets on a weekly basis, and the boards of both the Bank and the Company review the Company's exposure to interest rate risk on at least a quarterly basis. The Funds Management Committee generally uses two types of analysis in measuring and reviewing the Company's interest rate sensitivity. These are the GAP analysis, which is discussed under the heading of Asset/Liability Management on page 20 of the Annual Report, and the NPV calculation. The NPV calculation uses information about the Company's assets, liabilities and off-balance sheet items, market interest rate levels and assumptions about the behavior of the assets and liabilities, to calculate the Company's NPV. The NPV is the market value of assets minus the market value of liabilities, adjusted for off-balance sheet items divided by the market value of assets. The NPV is then subjected to immediate and permanent upward changes of 300 basis points in market interest rate levels, in 100 basis point increments, and a downward change of 100 basis points. The resulting changes in NPV and net interest income at each increment are measured against pre-determined, minimum NPV ratios for each incremental rate change, as approved by the board in the interest rate risk policy. Due to the low level of market interest rates at both December 31, 2001 and 2002, calculations for the 200 basis point decline and the 300 basis point decline were omitted as highly improbable. The following table presents the Bank's NPV ratios for the various rate change levels at December 31, 2002 and 2001: NPV Ratios ----------------- Changes in Interest Rates 2002 2001 ------------------------- ------ ------ 300 basis point rise 6.92% 6.21% 200 basis point rise 7.83% 7.53% 100 basis point rise 8.59% 8.82% Base rate scenario 8.94% 10.04% 100 basis point decline 8.69% 10.70% The preceding table indicates that at December 31, 2002, in the event of an immediate and permanent increase in prevailing market interest rates, the Bank's NPV ratio, would be expected to decrease, and that in the event of an immediate and permanent decrease in prevailing market interest rates, the Bank's NPV ratio would also be expected to decrease. At December 31, 2002, the estimated changes in the Bank's NPV ratios were within the levels approved by the board of directors. 47 The NPV decreases in a rising rate scenario because the Company's interest-bearing liabilities generally reprice faster than its interest-earning assets. This effect is increased by periodic and lifetime limits on changes in rate on most adjustable-rate, interest-earning assets. The NPV decreases in a falling rate scenario because of the limits on the Company's ability to decrease rates on some of its deposit sources, such as money market accounts and NOW accounts, and by the ability of borrowers to repay loans ahead of schedule and refinance at lower rates. The NPV ratio is calculated by the OTS on a quarterly basis utilizing information about the Company's assets, liabilities and off-balance sheet items. This information is provided by the Company. The calculation is designed to estimate the effects of hypothetical rate changes on the NPV, utilizing projected cash flows, and is based on numerous assumptions, including relative levels of market interest rates, loan prepayments speeds and deposit decay rates. Actual changes in the NPV, in the event of market interest rate changes of the type and magnitude used in the calculation, could differ significantly. Additionally, the calculation does not account for possible actions taken by Funds Management to mitigate the adverse effects of changes in market interest rates. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA Pages 30 through 55 of the 2002 Annual Report to Stockholders are incorporated by reference. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None PART III ITEM 10. DIRECTORS AND OFFICERS OF THE REGISTRANT Information concerning directors of the Company is incorporated by reference from the Company's definitive Proxy Statement for the Annual Meeting of Stockholders to be held in 2003, a copy of which was filed with the Securities and Exchange Commission on March 14, 2003 (the "2003 Proxy Statement"). EXECUTIVE OFFICERS WHO ARE NOT DIRECTORS Information regarding the business experience during the past five years with respect to the executive officers of the Company contained in Part I of this Form 10-K is incorporated by reference. 48 COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT Section 16(a) of the Securities Exchange Act of 1934 requires that the Company's executive officers and directors and persons who own more than 10% of the Company Common Stock file reports of ownership and changes in ownership with the SEC and with the exchange on which the Company's shares of Common Stock are traded. Such persons are also required to furnish the Company with copies of all Section 16(a) forms they file. Based solely on the Company's review of the copies of such forms furnished to the Company and, if appropriate, representations made to the Company by any such reporting person concerning whether a Form 5 was required to be filed for 2002, the Company is not aware that any of its directors and executive officers or 10% stockholders failed to comply with the filing requirements of Section 16(a) during 2002. ITEM 11. EXECUTIVE COMPENSATION Information concerning executive compensation called for by Item 11 of this Form 10-K is incorporated by reference from the section in the Company's 2003 Proxy Statement entitled "Executive Compensation." The report of the Company's Compensation Committee and the stock performance table are not incorporated into this Form 10-K. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT Information concerning security ownership of certain beneficial owners and management called for by Item 12 of this Form 10-K is incorporated by reference from the section in the Company's 2003 Proxy Statement entitled "Voting Securities and Principal Holders." ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS Information concerning certain relationships and related transactions called for by Item 13 of this Form 10-K is incorporated by reference from the section in the Company's 2003 Proxy Statement entitled "Certain Relationships and Related Transactions." ITEM 14. CONTROLS AND PROCEDURES Based upon an evaluation within the 90 days prior to the filing date of this report, the Company's Chief Executive Officer and Principal Financial Officer concluded that the Company's disclosure controls and procedures are effective. There have been no significant changes in the Company's internal controls, other than the additional review processing regarding commercial loans, or in other factors that could significantly affect the Company's internal controls subsequent to the date of the evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. 49 PART IV ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K (a)(1) Consolidated Financial Statements: The following information appearing in the Registrant's 2002 Annual Report to Stockholders is incorporated by reference in this Annual Report on Form 10-K as Exhibit 13. Pages in Annual Report Section Annual Report - ------------------------------------------------------------ ------------- Selected Financial Data..................................... 8-9 Management's Discussion and Analysis of Financial Condition and Results of Operations............. 10-28 Report of Independent Auditors.............................. 29 Consolidated Statements of Financial Condition.............. 30-31 Consolidated Statements of Income........................... 32 Consolidated Statements of Stockholders' Equity............. 33 Consolidated Statements of Cash Flows....................... 34-35 Notes to Consolidated Financial Statements.................. 36-55 Quarterly Financial Information ............................ 55 With the exception of those sections specifically incorporated by reference, the Registrant's 2002 Annual Report to Stockholders is not deemed filed as part of this Annual Report on Form 10-K. (a)(2) Financial Statement Schedules: Financial statement schedules have been omitted as the required information is contained in the consolidated financial statements and notes thereto, or because such schedules are not required or applicable. 50 (a)(3) Exhibits: Regulation Reference to Prior S-K Exhibit Filing or Exhibit Number Document Number Attached Hereto - ----------- ---------------------------------- ---------------------- 3 Articles of Incorporation (1) 3 Bylaws (1) 4 Instruments defining the rights (1) of security holders, including debentures 10 Material Contracts a. Stock Option Plan (2) b. Management Recognition Plan and Trusts (2) c. Employee Stock Ownership Plan (1) d. Money Purchase Pension Plan (1) e. 401(k) Plan (1) f. Kankakee Bancorp, Inc. Bank Incentive Plan and Trust (3) g. Rights Agreement (4) h. Form of Change of Control Agreements for Carol S. Hoekstra, Larry D. Huffman, Terry L. Ralston, and Ronald J. Walters (5) i. Employment Agreement between the Company and Larry D. Huffman (6) 13 2002 Annual Report to Stockholder 13 21 Subsidiaries of Registrant 21 23 Consent of Independent Auditor 23 99.1 Certification of Chief Executive 99.1 Officer 99.2 Certification of Principal 99.2 Financial Officer - ------------------- (1) Filed on September 11, 1992, as exhibits to the Registrant's Registration Statement No. 33-51950 on Form S-1. Such previously filed documents are hereby incorporated herein by reference in accordance with Item 601 of Regulation S-K. (2) Filed on March 29, 1993, as exhibits to the Registrant's Annual Report on Form 10-K. Such previously filed documents are hereby incorporated herein by reference in accordance with Item 601 of Regulation S-K. (3) Filed on March 30, 1994, as an exhibit to the Registrant's Annual Report on Form 10-K. Such previously filed documents are hereby incorporated herein by reference in accordance with Item 601 of Regulation S-K. 51 (4) Filed on May 21, 1999, as an exhibit to the Registrant's Form 8-K. Such previously filed document is hereby incorporated herein by reference in accordance with Item 601 of Regulation S-K. (5) Filed on October 23, 2001, as an exhibit to the Registrant's Form 8-K. Such previously filed document is hereby incorporated herein by reference in accordance with Item 601 of Regulation S-K. (6) Filed on May 8, 2001, as an exhibit to the Registrant's Form 10-Q. Such previously filed document is hereby incorporated herein by reference in accordance with Item 601 of Regulation S-K. (b) Reports on Form 8-K: On October 4, 2002, the Company filed a report on Form 8-K stating under Item 5 that the Company had, on October 4, 2002, issued a news release announcing that the Company had taken a nonrecurring after-tax charge of approximately $2.17 million, or approximately $1.85 per diluted share, to its third quarter earnings. The charge was recorded as an additional provision to the allowance for losses on loans. On October 10, 2002, the Company filed a report on Form 8-K stating under Item 5 that the Company had, on October 10, 2002, issued a news release announcing that its wholly-owned subsidiary, Kankakee Federal Savings Bank had signed a definitive agreement to sell its banking office in Hoopeston, Illinois to Capstone Bank, N.A., of Watseka, Illinois. On October 22, 2002, the Company filed a report on Form 8-K stating under Item 5 that the Company had, on October 22, 2002, issued a news release announcing its earnings for the quarter ended September 30, 2002, as well as other recent corporate events. On December 6, 2002, the Company filed a report on Form 8-K stating under Item 5 that the Company had, on December 6, 2002, issued a news release announcing its appointment of Michael A. Griffith to the boards of directors of both the Company and the Bank. The appointment was made as part of the agreement with an investor group led by Jeffrey L. Gendell. On January 17, 2003, the Company filed a report on Form 8-K stating under Item 5 that the Company had, on January 17, 2003, issued a news release announcing the implementation of a number of organizational changes intended to comply with the requirements for public companies under the Sarbanes-Oxley Act of 2002, and to ensure both greater independence on the board and stronger leadership from its independent directors. Additionally, it was announced that the Board had received the resignation of the Company's President and CEO and had established a procedure for securing his successor. On February 3, 2003, the Company filed a report on Form 8-K stating under Item 5 that the Company had, on February 3, 2003, issued a news release announcing its earnings for the quarter ended December 31, 2002, as well as other recent corporate events. On February 20, 2003, the Company filed a report on Form 8-K stating under Item 5 that the Company, on February 18, 2003, pursuant to a stock buyback program authorized by the Board of Directors of the Company, after being approached by two stockholders offering to 52 sell their shares to the Company, the Company purchased an aggregate of 174,270 shares of its common stock in open market transaction at a purchase price of $40.02 per share, the current market price immediately prior to the transaction. The sellers were Lawrence B. Seidman, and related parties under his control, and Investors of America, Limited Partnership. On March 13, 2003, the Company filed a report on Form 8-K stating under Item 5 that the Company, on March 10, 2003, pursuant to a stock buyback program authorized by the Board of Directors, repurchased from two stockholders an aggregate of 40,000 share of its common stock in open market transactions at a purchase price of $39.27 per share, the current market price immediately prior to the transaction. The sellers were Tontine Management L.L.C. and Private Capital Management, L.P. Both stockholders' ownership in our common stock exceeded 10% as a result of our repurchases in February, and these latest purchases brought both stockholders' ownership below 10%. 53 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. KANKAKEE BANCORP, INC. Date: March 26, 2003 By: /s/ Larry D. Huffman ------------------------------------- Larry D. Huffman, Chief Executive Officer and President (Principal Executive Officer) By: /s/ Ronald J. Walters Ronald J. Walters, Vice President and Treasurer (Principal Financial and Accounting Officer) I, Larry D. Huffman, Chief Executive Officer of the Company, certify that: 1. I have reviewed this annual report on Form 10-K of Kankakee Bancorp, Inc.; 2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report; 3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and have: (a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared; (b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this annual report (the "Evaluation Date"); and (c) presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 54 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function): (a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and (b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 6. The registrant's other certifying officers and I have indicated in this annual report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to date of their evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date: March 26, 2003 /s/ Larry D. Huffman ----------------------- Larry D. Huffman Chief Executive Officer I, Ronald J. Walters, Principal Financial Officer of Kankakee Bancorp, Inc., certify that: 1. I have reviewed this annual report on Form 10-K of Kankakee Bancorp, Inc.; 2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report; 3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and have: (a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared; (b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this annual report (the "Evaluation Date"); and 55 (c) presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function): (a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and (b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 6. The registrant's other certifying officers and I have indicated in this annual report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to date of their evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date: March 26, 2003 /s/ Ronald J. Walters --------------------------- Ronald J. Walters Principal Financial Officer 56 Pursuant to the requirements of the Securities Exchange Act of 1934, this Report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated. /s/ Michael A. Griffith 3-26-03 Chairman of the Board - ------------------------ ------- Michael A. Griffith Date /s/ William Cheffer 3-26-03 Director - ------------------------ ------- William Cheffer Date /s/ Brenda L. Baird 3-26-03 Director - ------------------------ ------- Brenda L. Baird Date /s/ Charles C. Huber 3-26-03 Director - ------------------------ ------- Charles C. Huber Date /s/ Wesley E. Walker 3-26-03 Director - ------------------------ ------- Wesley E. Walker Date /s/ Larry D. Huffman 3-26-03 President, Chief Executive Officer and - ------------------------ ------- Director Larry D. Huffman Date /s/ Mark L. Smith 3-26-03 Director - ------------------------ ------- Mark L. Smith Date 57 INDEX TO EXHIBITS Regulation Reference to Prior S-K Exhibit Filing or Exhibit Number Document Number Attached Hereto - ----------- -------------------------- ---------------------- 3 Articles of Incorporation (1) 3 Bylaws (1) 4 Instruments defining the rights (1) of security holders, including debentures 10 Material Contracts a. Stock Option Plan (2) b. Management Recognition Plan and Trusts (2) c. Employee Stock Ownership Plan (1) d. Money Purchase Pension Plan (1) e. 401(k) Plan (1) f. Kankakee Bancorp, Inc. Bank Incentive Plan and Trust (3) g. Rights Agreement (4) h. Form of Change of Control Agreements for Carol S. Hoekstra, Larry D. Huffman, Terry L. Ralston, and Ronald J. Walters (5) i. Employment Agreement between the Company and Larry D. Huffman (6) 13 2002 Annual Report to 13 Stockholders 21 Subsidiaries of Registrant 21 23 Consent of Independent Auditor 23 99.1 Certification of Chief Executive 99.1 Officer 99.2 Certification of Principal 99.2 Financial Officer - ------------------ (1) Filed on September 11, 1992, as exhibits to the Registrant's Registration Statement No. 33-51950 on Form S-1. Such previously filed documents are hereby incorporated herein by reference in accordance with Item 601 of Regulation S-K. (2) Filed on March 29, 1993, as exhibits to the Registrant's Annual Report on Form 10-K. Such previously filed documents are hereby incorporated herein by reference in accordance with Item 601 of Regulation S-K. 58 (3) Filed on March 30, 1994, as an exhibit to the Registrant's Annual Report on Form 10-K. Such previously filed documents are hereby incorporated herein by reference in accordance with Item 601 of Regulation S-K. (4) Filed on May 21, 1999, as an exhibit to the Registrant's Form 8-K. Such previously filed document is hereby incorporated herein by reference in accordance with Item 601 of Regulation S-K. (5) Filed on October 23, 2001, as an exhibit to the Registrant's Form 8-K. Such previously filed document is hereby incorporated herein by reference in accordance with Item 601 of Regulation S-K. (6) Filed on May 8, 2001, as an exhibit to the Registrant's Form 10-Q. Such previously filed document is hereby incorporated herein by reference in accordance with Item 601 of Regulation S-K. 59 EX-13 3 dex13.txt 2002 ANNUAL REPORT TO STOCKHOLDERS Exhibit 13 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- Overview Kankakee Bancorp, Inc. (the "Company") is the holding company for KFS Bank, F.S.B. (the "Bank"). All references to the Company in the following discussion include the Bank and the Bank's wholly-owned service corporation, KFS Service Corporation ("KFS"), unless indicated otherwise. In the last two years, the Company has continued to implement much of the strategic plan developed in early 2000, resulting in significant asset and core earnings growth. Net income rose 26% in 2001, but declined by 32% in 2002 due to asset quality issues which resulted in almost $4.0 million in provision for losses on loans during the year. Assets grew from $459.9 million in 2000 to $546.4 million at the end of 2002, representing an increase of 19% over the two-year period. The Company has also continued an aggressive capital management plan over the last two years. As part of this strategy, the Company made open market purchases of its own stock, repurchasing 83,600 common shares at an average cost of $38.30 per share in 2002 and 64,200 common shares at an average cost of $24.03 per share in 2001. During the first quarter of 2003 through February 28, 2003, the Company repurchased 193,270 additional shares of stock at a total cost of $7.7 million. Since converting to a stock organization in 1992, the Company has repurchased 946,389 shares at anaverage cost of $26.72 per share. In addition, the Company is continuously evaluating balance sheet opportunities to augment and leverage its strong capital base to maximize stockholders' return on equity. The Company will continue to evaluate opportunities in 2003 in an effort to resume a positive earnings trend. The Company's results of operations are dependent primarily on net interest income, which is the difference, or "spread", between the interest income earned on its loans, mortgage-backed securities and investment portfolios and its cost of funds, consisting of interest paid on its deposits and on borrowed funds. The Company's operating expenses principally consist of employee compensation and benefits, occupancy, marketing and other general and administrative expenses. The Company's results of operations are also significantly affected by general economic and competitive conditions, particularly changes in market interest rates, government policies and actions of regulatory authorities. Economic Climate During 2001, the Federal Open Market Committee ("the FOMC") lowered its target short-term interest rates by a total of four and three-quarters percentage points. The federal funds target went from 6.50% to 1.75% and the Federal Reserve discount rate went from 6.00% to 1.25%. The federal funds rate is the rate at which financial institutions borrow from each other, while the discount rate is the rate at which member banks borrow from the Federal Reserve. In November 2002, the FOMC reduced its target short-term interest rates by an additional fifty basis points. This action lowered the federal funds target to 1.25% and the Federal Reserve discount rate to 0.75%. As was the case in 2001, the FOMC cited a slowing economy and recessionary trends as the primary reasons for the November 2002 move. Lower short-term interest rates would tend to stimulate economic activity by reducing the financing costs on borrowed funds for both businesses and individuals. A slowing economy would usually result in some increase in problem assets, and could possibly result in some increase in loan losses. In a slowing economy or recession, cash flows and profits of commercial customers decrease, which could result in an increase in delinquencies. Additionally, individual borrowers experience cash flow problems from job loss, reduction in investment returns or other causes. This could also result in an increase in delinquencies. Due in part to recent economic conditions, the Company experienced an increase of delinquencies and problem loans. During the third quarter of 2002, this resulted in a substantial increase in the Company's provision for losses on loans during that quarter and a higher than expected provision for losses on loans during the fourth quarter. - -------------------------------------------------------------------------------- 10 While some economic indicators are pointing toward a recovery, others are still weak, indicating that the economy remains slow. During 2002, a number of accounting and corporate governance problems at large, publicly-held companies came to light, contributing to the volatility in the markets, which could impact the speed at which the economy moves into a full recovery. If the economy does move into a full recovery, then the next FOMC interest rate move would likely be an increase in its target rates. Changing interest rates, because of the Company's current structure of assets and liabilities, could have a detrimental effect on the Company's interest rate spread and results of operations. The Company had a negative cumulative one-year gap of 5.0% at December 31, 2001 and a positive cumulative one-year gap of 9.7% at December 31, 2002. A positive gap indicates that an increase in market interest rates might positively affect net interest income and the results of operations, due to assets maturing, and repricing, from their current rates to higher rates, more quickly than liabilities will mature and reprice to higher rates. Management believes that the Company's current level of interest rate sensitivity is reasonable, in light of the current market rates and the possibility of increasing market rates. However, significant fluctuations in interest rates may have an adverse effect on the Company's financial condition and results of operations. Recent Business Initiatives During the late 1990s, the Company experienced significant growth and improvement in its office facilities and a widening of its market areas. This was accomplished through the acquisition of a bank, the opening of several new offices and the replacement of an outdated office building. There were also significant changes and improvements in products and services brought about through the use of technology. During this same period, the Company began the process of shifting its operating philosophy to a sales orientation and away from traditional approaches to banking services. Management continues to support and encourage this process, recognizing that changes, particularly of this type and magnitude, require employee education and customer communication. These changes in philosophy and culture require not only time but allocation of other Company resources. None of these efforts were without cost, and have been, and, to some degree, will continue to be, reflected in operating expenses and net income. In the first quarter of 2000, management initiated an aggressive growth strategy which was aimed at increasing deposits and growing the loan portfolio, which resulted in the reduction of the size of the investment portfolio. The strategy, which continued into the first quarter of 2001, was intended to improve earnings in a number of ways which included: . Improved utilization of facilities and increased productivity of personnel; . Increased capital leverage; and . Improved asset yields, due to increased commercial and consumer lending and the replacement of investments with fixed-rate mortgage loans. It was recognized that such a strategy would: . Likely increase the cost of funds, due to aggressive deposit pricing and the potential need to borrow money at wholesale market rates; . Necessitate the assumption of an increased level of interest rate risk, due to aggressive loan pricing and the need to retain longer term, fixed-rate mortgages for the portfolio. In response to rapidly falling interest rates during 2001, the Company modified its growth strategy and, once again, began to sell its fixed-rate mortgage originations in the secondary market. This modified strategy remained in effect through 2002. MANAGEMENT'S DISCUSSION AND ANALYSIS - -------------------------------------------------------------------------------- 11 During 2002, the Company has initiated a number of strategies to improve profitability and enhance stockholder value. These include: . The Company has conducted an evaluation of the branch network and other service delivery systems, including locations, market areas, physical layouts, accessibility, market potentials and corporate identity. As part of this process, the organizational structure, including lines of authority, job functions and supervisory responsibilities, was also reviewed. A number of changes have resulted from this process. These include: . the recent change of the name of the Bank to KFS Bank, F.S.B., effective December 1, 2002; . the announced construction of a new office in Bradley, Illinois, to replace an in-store office, as well as a new office in Bourbonnais, Illinois. Construction of the new Bradley office is scheduled to begin this spring; . the renovation of the Coal City main office, and the planned renovation of offices in Bourbonnais, Manteno and Momence, all in Illinois. The Coal City office renovation has been completed, the renovations at Bourbonnais are underway and will be completed, along with those at Manteno and Momence, during the second quarter of 2003; . the announcement in October 2002 of the sale of the Bank's branch office in Hoopeston, Illinois, which was completed on February 14, 2003; and . the elimination of three positions at the vice president level. . The Company's wholly-owned subsidiary, KFS Bank, F.S.B., invested $8.0 million in Bank Owned Life Insurance (commonly referred to as "BOLI"). This investment provides non-taxable current income through increases in cash surrender values of these policies. Net income of $349,000 from this investment was recorded during 2002. . The Bank implemented a capital utilization strategy in which $30.0 million of adjustable-rate, mortgage-backed securities were purchased using borrowed funds. This strategy increased net interest income and pre-tax income for 2002 by $411,000. . The Company issued $10.0 million in variable-rate trust preferred securities, as part of a large pool of such securities. These securities are includable, within specified limits, in regulatory capital, and the funds have been used primarily for the repurchase of stock. . Starting in the fourth quarter of 2002 and continuing into the first quarter of 2003, the Company initiated, and substantially completed, changes in the composition of its board, in the roles of outside directors, and in the organizational structure of the Company and the Bank. This was done in light of the announced resignation of the CEO, formulation of plans to search for a new CEO and the recent enactment of new laws and regulations that address the need to improve corporate governance of and financial reporting by public companies. These new laws and regulations emphasize greater independence of board members and higher levels of expertise and experience for board members. Results of Operations The Company's results of operations depend primarily on the level of its net interest and non-interest income and its control of operating expenses. Net interest income depends upon the volume of interest-earning assets and interest-bearing liabilities and the interest rate earned from or paid on them. Net Interest Income Analysis The following table presents for the periods indicated the total dollar amount of interest income from average interest-earning assets and resultant yields, as well as the interest expense on average interest-bearing liabilities, expressed both in dollars and rates. No tax equivalent adjustments were made. All average balances are monthly average balances. Non-accruing loans have been included in the table as loans carrying a zero yield. MANAGEMENT'S DISCUSSION AND ANALYSIS - -------------------------------------------------------------------------------- 12
Year Ended December 31, 2002 Year Ended December 31, 2001 Year Ended December 31, 2000 -------------------------- -------------------------- -------------------------- Average Interest Average Interest Average Interest Outstanding Earned/ Yield/ Outstanding Earned/ Yield/ Outstanding Earned/ Yield/ Balance Paid Rate Balance Paid Rate Balance Paid Rate ----------- -------- ------ ----------- -------- ------ ----------- -------- ------ (Dollars in thousands) Interest-earning assets: Loans receivable (1)........... $394,523 $ 27,615 7.00% $368,955 $ 28,403 7.70% $303,499 $ 24,220 7.98% Mortgage-backed securities (2)........................... 34,118 1,944 5.70% 13,938 970 6.96% 17,488 1,222 6.99% Investments securities (3)..... 38,751 1,898 4.90% 43,599 2,529 5.80% 60,764 3,788 6.23% Other interest-earning assets.. 28,082 518 1.84% 14,980 709 4.73% 13,915 966 6.94% FHLB stock..................... 2,634 139 5.28% 2,325 148 6.37% 1,903 143 7.51% -------- -------- -------- -------- -------- -------- Total interest-earning assets.. 498,108 32,114 6.45% 443,797 32,759 7.38% 397,569 30,339 7.63% -------- -------- -------- -------- Other assets................... 37,185 29,551 29,827 -------- -------- -------- Total assets................... $535,293 $473,348 $427,396 ======== ======== ======== Interest-bearing liabilities: Time deposits.................. $254,239 10,412 4.10% $251,367 13,952 5.55% $231,198 12,981 5.61% Savings deposits............... 72,196 1,397 1.94% 62,035 1,573 2.54% 59,637 1,502 2.52% Demand and NOW deposits........ 100,445 1,485 1.48% 88,715 1,861 2.10% 77,776 1,835 2.36% Borrowings..................... 63,038 2,793 4.43% 27,692 1,343 4.85% 18,662 1,119 6.00% -------- -------- -------- -------- -------- -------- Total interest-bearing liabilities................... 489,918 16,087 3.28% 429,809 18,729 4.36% 387,273 17,437 4.50% -------- -------- -------- -------- -------- -------- Other liabilities.............. 4,170 3,751 2,951 -------- -------- -------- Total liabilities.............. 494,088 433,560 390,224 -------- -------- -------- Stockholders' equity........... 41,205 39,788 37,172 -------- -------- -------- Total liabilities and stockholders' equity.......... $535,293 $473,348 $427,396 ======== ======== ======== Net interest income............ $ 16,027 $ 14,030 $ 12,902 ======== ======== ======== Net interest rate spread....... 3.16% 3.02% 3.13% ==== ==== ==== Net earning assets............. $ 8,190 $ 13,988 $ 10,296 ======== ======== ======== Net yield on average interest- earning assets (net interest margin)....................... 3.22% 3.16% 3.25% ==== ==== ==== Average interest-earning assets to average interest-bearing liabilities................... 101.67% 103.25% 102.66% ======== ======== ========
- -------- (1) Calculated including loans held for sale, and net of deferred loan fees, loan discounts, loans in process and the allowance for losses on loans. (2) Calculated including mortgage-backed securities available-for-sale. (3) Calculated including investment securities available-for-sale and certificates of deposit. The following table sets forth weighted average yields on the Company's interest-earning assets, the weighted average interest rates on interest-bearing liabilities and the interest rate spread between the Company's weighted average yields and rates at the dates indicated. Non-accruing loans have been included in the table as loans carrying a zero yield.
As of December 31, ----------------- 2002 2001 2000 ----- ----- ----- Weighted average yield on: Loans receivable (1)...................................... 6.64% 7.12% 8.12% Mortgaged-backed securities (2)........................... 5.46% 6.82% 7.09% Investment securities (3)................................. 4.74% 5.46% 6.04% Other interest-earning assets............................. 1.13% 1.41% 6.08% Combined weighted average yield on interest-earning assets 6.01% 6.79% 7.74% Weighted average rate paid on: Saving deposits........................................... 1.29% 2.08% 2.57% Demand and NOW deposits................................... 1.24% 1.61% 2.55% Certificates.............................................. 3.62% 4.97% 6.09% Borrowings................................................ 4.29% 4.47% 6.25% Combined weighted average rate paid on interest-bearing liabilities............................................. 2.88% 3.78% 4.89% Spread..................................................... 3.13% 3.01% 2.85%
- -------- (1) Includes loans held for sale. (2) Includes mortgage-backed securities available for sale. (3) Includes investment securities available for sale and certificates of deposit. MANAGEMENT'S DISCUSSION AND ANALYSIS - -------------------------------------------------------------------------------- 13 The following schedule presents the dollar amount of changes in interest income and interest expense for major components of interest-earning assets and interest-bearing liabilities. It distinguishes between the increase related to higher outstanding balances and that due to the levels and volatility of interest rates. For each category of interest-earning assets and interest-bearing liabilities, information is provided on changes attributable to: (i) changes in volume (i.e., changes in volume multiplied by old rate) and (ii) changes in rate (i.e., changes in rate multiplied by old volume). For purposes of this table, changes attributable to both rate and volume, which cannot be segregated have been allocated proportionately to the change due to volume and the change due to rate.
Year Ended December 31, Year Ended December 31, 2002 vs. 2001 2001 vs. 2000 -------------------------- ----------------------------- Increase (Decrease) Increase (Decrease) Due to Total Due to Total --------------- Increase ------------------ Increase Volume Rate (Decrease) Volume Rate (Decrease) ------ ------- ---------- ------- ------- ---------- (Dollars in thousands) Interest earning assets: Loans receivable..................... $2,527 ($3,315) ($ 788) $ 5,063 ($ 880) $ 4,183 Mortgage-backed securities........... 1,113 (139) 974 (247) (5) (252) Investment securities................ (263) (368) (631) (1,012) (247) (1,259) Other interest-earning assets........ 432 (623) (191) 74 (331) (257) Federal Home Loan Bank stock......... 19 (28) (9) 25 (20) 5 ------ ------- ------- ------- ------- ------- Total interest-earning assets...... $3,828 ($4,473) ($ 645) $ 3,903 ($1,483) $ 2,420 ====== ======= ======= ======= ======= ======= Interest bearing liabilities: Certificate accounts................. $ 161 ($3,701) ($3,540) $ 1,122 ($ 151) $ 971 Savings deposits..................... 295 (471) (176) 60 11 71 Demand and NOW deposits.............. 305 (681) (376) 243 (217) 26 Borrowings........................... 1,555 (105) 1,450 474 (250) 224 ------ ------- ------- ------- ------- ------- Total interest-bearing liabilities. $2,316 ($4,958) ($2,642) $ 1,899 ($ 607) $ 1,292 ====== ======= ======= ======= ======= ======= Net interest income................... $1,997 $ 1,128 ======= =======
Comparison of Operating Results for 2002 to 2001 General Consolidated net income was $2.2 million, or $1.86 per share (diluted), for the year ended December 31, 2002 compared to $3.3 million, or $2.62 per share (diluted), for the year ended December 31, 2001. The 32% decrease in net income occurred primarily due to an increase in problem loans which led to the recording of $4.0 million in provision for losses on loans during 2002. Net Interest Income Net interest income was $16.0 million for the year ended December 31, 2002, an increase of $2.0 million, or 14.2%, during 2002 compared to 2001. Net interest income increased primarily due to the decrease in interest expense exceeding the decrease in interest income. The decrease in interest income resulted from the decrease in the average rate of interest on interest earning assets, which was partially offset by an increase in the average balance of interest-earning assets. The decrease in interest expense resulted from the decrease in the average rate of interest on interest-bearing liabilities, which was partially offset by an increase in the average balance of interest-bearing liabilities. Interest Income Interest income totaled $32.1 million for the year ended December 31, 2002, a decrease of $645,000 or 2.0%, as compared to $32.8 million for 2001. This resulted from a decrease in the yield MANAGEMENT'S DISCUSSION AND ANALYSIS - -------------------------------------------------------------------------------- 14 earned on assets from 7.38% during 2001 to 6.45% during 2002, which was partially offset by a $54.3 million increase in average interest-earning assets from $443.8 million during 2001 to $498.1 million during 2002. Interest on loans was $27.6 million for 2002, a decrease of $788,000, or 2.8%, as compared to 2001. This was primarily attributable to the effect of a decrease in the yield on loans from 7.70% during 2001 to 7.00% during 2002, which was partially offset by an increase of $25.6 million in average outstanding loans. The decrease in interest earned on loans resulted in part from the Company's sale during 2002 of a substantial portion of its long-term, fixed-rate, one-to-four family loan originations. Interest earned on mortgage-backed securities was $1.9 million for 2002, compared to $970,000 for 2001. This represented an increase of 100.3% between the years and was primarily due to an increase of $20.2 million in average mortgage-backed securities, which was partially offset by a decrease in the yield on mortgage-backed securities to 5.70% during 2002 from 6.96% during 2001. The increase in average balances of mortgage-backed securities was the result of the implementation of a $30.0 million leveraging strategy late in the first quarter of 2002. Interest earned on investment securities and other interest-earning assets and dividends on Federal Home Loan Bank of Chicago ("FHLB") stock totaled $2.6 million for 2002, compared to $3.4 million for 2001. This represented a decrease of 24.5% during 2002. This was primarily due to a decrease in average yield on these assets from 5.56% in 2001 to 3.68% in 2002, which was partially offset by an increase in the average balance of these assets from $60.9 million in 2001 to $69.5 million in 2002. The increase in these assets was partially due to cash flows resulting from loan sales. Interest Expense Interest expense was $16.1 million for 2002, or $2.6 million (14.1%) less than in 2001. This was due to a decrease in average rates to 3.28% for 2002 from 4.36% for 2001, which was partially offset by an increase of $60.1 million in the average balance of interest-bearing liabilities to $489.9 million for 2002 from $429.8 million for 2001. During 2002, average deposits increased by $24.8 million, with $21.9 million (88.3%) of the increase in average deposits in non-certificate accounts. The ratio of average certificates of deposit to average total deposits decreased from 62.5% in 2001 to 59.6% in 2002. The decreases in the average cost of funds were the result of market interest rates trending lower throughout 2001 and well into 2002. During 2002, $2.8 million of the Company's interest expense, compared to $1.3 million during 2001, related to advances from the FHLB and other borrowed money. The increase in interest expense on borrowed funds was the result of a $35.3 million increase in average balance of borrowed funds from $27.7 million in 2001 to $63.0 million in 2002, which was partially offset by a decrease in the average interest rate on borrowed funds to 4.43% in 2002 from 4.85% in 2001. Provision for Losses on Loans The Company recorded a $4.0 million provision for losses on loans during 2002 compared to a $502,000 provision during 2001. Charge-offs during 2002 decreased to $81,000 from $103,000 during 2001. Recoveries during 2002 increased to $33,000 from $26,000 in 2001. The ratio of net charge-offs to average outstanding loans was 0.01% in 2002 and 0.02% in 2001. A substantial portion of the increase in the provision for losses on loans during 2002 took place during the third quarter of the year, when the Company recorded additions of $3.1 million. These reserves related to commercial real estate and real estate development loans. Real estate development loans relate to land acquisition, development planning, land improvements, such as streets and utilities, and either building construction or sales of developed parcels. The two principal sets of problem loans were made, in one case, to a group of related borrowers and, in the other case, to an individual borrower. The lead borrower of the group filed a petition for bankruptcy protection under Chapter 11 on October 18, 2002. MANAGEMENT'S DISCUSSION AND ANALYSIS - -------------------------------------------------------------------------------- 15 Based on the then-available information, management was able to identify the Company's exposure under the credits at the end of the third quarter, and the allowance for losses on loans was increased accordingly. During the fourth quarter, based on additional information obtained from the bankruptcy process, the continuing review of the loans involving the related borrowers and discussions with the related parties, an additional $258,000 in reserves for losses on loans were recorded relative to these loans. It is possible that the Company will have to take future charges in relation to these loans. Management currently believes that the Company's maximum additional exposure under these loans is approximately $2.5 million. However, management has concluded that it is not appropriate at this time to add additional reserves for this amount, and is continuing to examine the loans with the parties involved to determine the best course of action to realize maximum satisfaction of these credits. The allowance for losses on loans is maintained at a level believed adequate by management to absorb probable losses in the loan portfolio. Management's methodology to determine the adequacy of the allowance for losses on loans considers specific credit reviews, past loan loss experience, current economic conditions and trends, and the volume, growth and composition of the loan portfolio. Based upon the Company's quarterly analysis of the adequacy of the allowance for losses on loans, considering remaining collateral of loans with more than a normal degree of risk, historical loan loss percentages and economic conditions, it is management's belief that the $6.5 million allowance for losses on loans at December 31, 2002 was adequate. However, there can be no assurance that the allowance for losses on loans will be adequate to cover all losses. Each credit on the Company's internal loan "watch list" is evaluated periodically to estimate potential losses. In addition, minimum loss estimates for each category of watch list credits are provided for based on management's judgment which considers past loan loss experience and other factors. For installment and real estate mortgage loans, specific allocations are based on past loss experience adjusted for recent portfolio growth and economic trends. The total of the estimated loss exposure resulting from the analysis is considered the allocated portion of the allowance for losses on loans. The amounts specifically provided for individual loans and pools of loans are supplemented by an unallocated portion of the allowance for losses on loans. This unallocated amount is determined based on management's judgment which considers, among other things, the risk of error in the specific allocations, other potential exposure in the loan portfolio, economic conditions and trends, and other factors. The allowance for losses on loans is charged when management determines that the prospects of recovery of the principal of a loan have significantly diminished. Subsequent recoveries, if any, are credited to the allowance for losses on loans. Credit card loans are charged off at the earliest of notice of bankruptcy, when at least 120 days past due, or when otherwise deemed to be uncollectible. All other installment loans that are 90 to 120 days past due are charged off monthly unless the loans are insured for credit loss or where scheduled payments are being received. Real estate mortgage loans are written down to fair value upon the earlier of receipt of a deed of foreclosure or upon completion of foreclosure proceedings. Commercial and other loan charge-offs are made based on management's on-going evaluation of non-performing loans. In order to strengthen and expand the commercial loan review process, a new position at the vice president level has been created and staffed at the Bank. This officer, an experienced lender, is responsible for reviewing credit and other loan quality issues on both existing and proposed commercial business and commercial real estate loans. Net charge-offs have not exceeded .08% of average loans for the last five years, and averaged less than .04% of average loans during those five years. However, in light of the magnitude of the provision for losses on loans during 2002, it is anticipated that the ratio of net charge offs to average loans will increase during 2003, and possibly 2004. This will result from charge offs occurring when final determinations of loss are made on the loans for which reserves were established in 2002. MANAGEMENT'S DISCUSSION AND ANALYSIS - -------------------------------------------------------------------------------- 16 The following is a summary of loan loss experience and nonperforming assets for the years ended December 31, 2002 and 2001:
2002 2001 -------- -------- (Dollars in thousands) Total loans.......................................... $390,763 $396,371 Total assets......................................... 546,404 490,280 Allowance for losses on loans........................ 6,524 2,582 Net loan charge-offs................................. 48 77 Net loan charge-offs as a percentage of average loans 0.01% 0.02% Nonperforming loans.................................. $ 10,273 $ 1,121 Nonperforming assets................................. 11,069 2,201 Nonperforming assets to total assets................. 2.03% 0.45% Allowance for losses on loans to total loans......... 1.67% 0.65% Allowance for losses on loans to nonperforming loans. 63.51% 230.3%
The Company will continue to monitor and adjust its allowance for losses on loans based on management's analysis of its loan portfolio and general economic conditions. Other Income Other income increased $948,000 for 2002 to $4.6 million, compared to $3.6 million for 2001. The 26.3% increase in other income was the result of increases of $787,000 in gain on the sale of loans, $392,000 in other income, $182,000 in fee income and $24,000 in gain on the sale of real estate held for sale. These increases were partially offset by a decrease of $37,000 in insurance commissions, and by a $401,000 net gain on the sale of securities during 2001, which did not recur during 2002. The increase in the gain on the sale of loans was the result of an increase of $35.5 million (147.7%) in loan sales in 2002 to $59.6 million from $24.1 million in 2001. Current estimates indicate that the volume of loans sold during 2003 will be significantly less than those of 2002, although greater than those of 2001. The increase in fee income was primarily the result of an increase in checking related fees due to an increase in the number of checking accounts and to an increase in discount fees related to debit cards. The increase in other income was primarily the result of $349,000 in income from the Bank's $8.0 million investment in Bank Owned Life Insurance. The decrease in insurance premiums was due to reduced volume of sales of insurance related products. Other Expenses Other expenses were $13.5 million for 2002, as compared to $12.2 million for 2001. This represented an increase of $1.3 million or 10.2% during 2002. There were increases in other expenses of $771,000 (35.3%), compensation and benefits of $751,000 (11.7%), telephone and postage of $21,000 (5.0%) and data processing costs of $13,000 (3.2%). These increases were partially offset by decreases in advertising of $61,000 (15.9%), furniture and equipment expenses of $34,000 (5.3%), the provision for losses on foreclosed assets of $33,000 (36.8%) and amortization of intangibles of $191,000 (50.9%). The increase in compensation and benefits was the result of three primary factors, including a general increase in compensation levels, an increase of $126,000 in insurance costs and a $402,000 provision for an employee incentive compensation plan. The increase in occupancy costs was primarily the result of an increase in repair and maintenance work during the year. The data processing cost increase was primarily due to increased maintenance costs associated with new equipment. The major reason for the increase in other expenses, and a significant factor in the overall increase in general and administrative expenses, was costs related to a proxy contest in connection with the annual meeting in April, 2002. Income Taxes Federal income tax expense was $884,000 for 2002, as compared to $1.6 million for 2001. This decrease was the result of the decrease in pre-tax income and to an increase in non-taxable income resulting from the Bank's investment in BOLI. The Company's effective tax rate was 34% for 2001 and 28.4% for 2002. A summary of the significant tax components is provided in Note 10 of the Notes to Consolidated Financial Statements included later in this report. MANAGEMENT'S DISCUSSION AND ANALYSIS - -------------------------------------------------------------------------------- 17 Comparison of Operating Results for 2001 to 2000 General Consolidated net income was $3.3 million, or $2.62 per share (diluted), for the year ended December 31, 2001 compared to $2.6 million, or $1.99 per share (diluted), for the year ended December 31, 2000. The 26% increase in net income occurred primarily due to the continuing success of strategic initiatives begun in 2000. Net Interest Income Net interest income was $14.0 million for the year ended December 31, 2001, an increase of $1.1 million, or 8.7%, during 2001 as compared to 2000. Net interest income increased primarily due to the increase in interest income exceeding the increase in interest expense. The increase in interest income resulted from the increase in the average balance of interest-earning assets, which was partially offset by a decrease in the average rate of interest on interest-earning assets. The increase in interest expense resulted from the increase in the average balance of interest-bearing liabilities, which was partially offset by a decrease in the average rate of interest on interest-bearing liabilities. Interest Income Interest income totaled $32.8 million for the year ended December 31, 2001, an increase of $2.5 million or 8.0%, as compared to $30.3 million for 2000. This resulted from a $46.2 million increase in average interest-earning assets from $397.6 million during 2000 to $443.8 million during 2001, which was partially offset by a decrease in the yield earned on assets from 7.63% during 2000 to 7.38% during 2001. Interest on loans was $28.4 million for 2001, an increase of $4.2 million, or 17.3%, as compared to 2000. This was primarily attributable to the effect of an increase of $65.5 million in average outstanding loans, which was partially offset by a decrease in the yield on loans from 7.98% during 2000 to 7.70% during 2001. The increase in interest income on loans and the decrease in interest earned on investment securities discussed below resulted in part from the Company's continued efforts during 2000 and 2001 to shift its asset mix to higher yielding loans. Interest earned on mortgage-backed securities was $970,000 for 2001, as compared to $1.2 million for 2000. This represented a decrease of 20.6% between the periods and was primarily due to a decrease of $3.6 million in average mortgage-backed securities, and to a decrease in the yield on mortgage-backed securities to 6.96% during 2001 from 6.99% during 2000. Interest earned on investment securities and other interest-earning assets and dividends on FHLB stock totaled $3.4 million for 2001, as compared to $4.9 million for 2000. This represented a decrease of 30.9% during 2001. This was primarily due to a decrease in the average balance of these assets from $76.6 million in 2000 to $60.9 million in 2001 and to a decrease in average yield on these assets from 6.39% in 2000 to 5.56% in 2001. Interest Expense Interest expense was $18.7 million for 2001, or $1.3 million (7.4%) greater than in 2000. This was due to an increase of $42.5 million in the average balance of interest-bearing liabilities to $429.8 million for 2001 from $387.3 million for 2000, which was partially offset by a decrease in average rates to 4.36% for 2001 from 4.50% for 2000. During 2001, the deposit mix of average deposits remained stable with the ratio of average certificates of deposit to average total deposits decreasing slightly from 62.7% in 2000 to 62.5% in 2001. The decreases in the average cost of funds were the result of market interest rates trending lower throughout 2001. During 2001, $1.3 million of the Company's interest expense, compared to $1.1 million during 2000, related to advances from the FHLB. The increase in interest expense on borrowed funds was the result of a $9.0 million increase in average balance of borrowed funds from $18.7 million to $27.7 million in 2001, which was partially offset by a decrease in the average interest rate on borrowed funds to 4.85% in 2001 from 6.00% in 2000. MANAGEMENT'S DISCUSSION AND ANALYSIS - -------------------------------------------------------------------------------- 18 Provision for Losses on Loans The Company recorded a $502,000 provision for losses on loans during 2001 compared to a $50,000 provision during 2000. Charge-offs during 2001 decreased to $103,000 from $135,000 during 2000. Recoveries during 2001 decreased to $26,000 from $70,000 in 2000. The ratio of net charge-offs to average outstanding loans was 0.02% in 2001 and in 2000. The increase in the provision for losses on loans during 2001 was the result of several factors, including the increase in the total loan portfolio and the increase in classified assets. Additionally, based on management's review of the adequacy of the allowance for losses on loans, the provision in 2000, as well as in the prior two years, was somewhat lower than might otherwise have been expected. This was due to the Company having acquired a significant amount of reserves with the purchase of Coal City National Bank in 1998. Other Income Other income increased $1.1 million for 2001 to $3.6 million, compared to $2.5 million for 2000. The 43.4% increase in other income was the result of increases of $411,000 in fee income, $401,000 in the net gain on the sale of securities, $329,000 in gain on sale of loans held for sale and $37,000 in other income. These increases were partially offset by decreases of $84,000 in insurance commissions and $12,000 in gain on the sale of office related property. The increase in net gain on the sale of securities was the result of a $441,000 gain on a $5.0 million investment in securities available-for-sale, which was partially offset by a loss of $40,000 on the sale of non-marketable equity securities. The increase in the gain on the sale of loans was the result of a resumption in loan sales during the year. The increase in fee income was primarily the result of an increase in checking related fees due to an increase in discount fees related to debit cards. The increase in other income was the result of a $50,000 increase in appraisal fees in 2001 compared to 2000. The decrease in insurance premiums was due to reduced volume of sales of insurance related products. Other Expenses Other expenses were $12.2 million for 2001, as compared to $11.5 million for 2000. This represented an increase of $759,000 or 6.6% during 2001. There were increases in compensation and benefits of $307,000 (5.0%), other expenses of $248,000 (12.8%), occupancy costs of $144,000 (13.1%), telephone and postage of $69,000 (19.1%), advertising of $47,000 (13.7%), and data processing costs of $43,000 (11.9%). These increases were partially offset by decreases in furniture and equipment expenses of $47,000 (7.0%), the provision for losses on foreclosed assets of $48,000 (34.7%) and amortization of intangibles of $3,000 (0.7%). The increase in compensation and benefits was the result of several factors, including a small increase in total employees, increased health insurance costs and, due to an unusually low rate of employee turnover, an increase in retirement benefits. The increase in occupancy costs was primarily the result of an increase in repair and maintenance work during the year. The increase in advertising was due in part to the promotion of an on-line banking system which was begun mid-year. The data processing cost increase was primarily due to increased maintenance costs associated with new equipment. The increase in telephone and postage expense was due in part to an extensive mailing related to privacy policy disclosures and to the increase in checking accounts. The increase in other expenses was due to several factors, including increases in expenses related to debit cards and ATMs and a second provision for the Company's grant program for first-time home buyers. The first provision was made in 1999. Income Taxes Federal income tax expense was $1.6 million for 2001, as compared to $1.3 million for 2000. This increase was primarily the result of the increase in pre-tax income. The Company's effective tax rate was 34% for both 2001 and 2000. A summary of the significant tax components is provided in Note 10 of the Notes to Consolidated Financial Statements included later in this report. Financial Condition Total assets increased by $56.1 million or 11.4% to $546.4 million at December 31, 2002, from $490.3 million at December 31, 2001. The increase in total assets during 2002 was primarily attributed to increases in mortgage-backed securities, cash and cash equivalents, investment securities and other assets, which were partially offset by a decrease in loans. MANAGEMENT'S DISCUSSION AND ANALYSIS - -------------------------------------------------------------------------------- 19 Cash and cash equivalents increased by $20.7 million to $47.4 million at December 31, 2002, from $26.7 million at December 31, 2001. The increase was primarily attributed to loan sales and to increases in deposits and borrowings, which were partially offset by growth in mortgage-backed securities and investment securities. At December 31, 2002, investment securities available-for-sale totaled $44.5 million, an increase of $9.7 million or 27.9% from the amount classified as available-for-sale at December 31, 2001. The increase was the result of purchases totaling $17.5 million of available-for-sale securities and a positive adjustment of $756,000 in the market value of available-for-sale securities which were partially offset by maturities and calls of $8.5 million of such securities during the year ended December 31, 2002. At December 31, 2002, mortgage-backed securities available-for-sale totaled $38.2 million, an increase of $26.6 million or 228.1% from the amount classified as available-for-sale at December 31, 2001. The increase in mortgage-backed securities available-for-sale was the result of the purchase of $34.6 million of such securities and a positive adjustment to market value of $799,000, which were partially offset by principal repayments totaling $8.8 million. During the year ended December 31, 2002, net loans decreased by $9.6 million or 2.4% to $384.2 million from $393.8 million at December 31, 2001. The decrease was the result of the origination of $100.8 million of real estate loans, the purchase of $2.2 million of real estate loans, the origination of $52.5 million of consumer and commercial business loans, the purchase of $866,000 of commercial business loans and loan repayments which totaled $161.4 million. During the course of the year in 2002, market rates decreased marginally following a significant decrease in the prior year. The Company experienced a high volume of loan origination for the second consecutive year, particularly with mortgage loans and both real estate and non-real estate commercial loans. The volume in mortgage loans resulted from a competitive price structure and a high volume of refinancing of both the Company's mortgage loans and those of other lenders. While interest rates remain very low going into 2003, the volume of loan originations is expected to decrease because of current economic conditions and level of refinancing that has already taken place. Loans held for sale totaled $128,000 at December 31, 2002, compared to $829,000 at December 31, 2001. During 2002, $56.8 million of loans held for sale were originated which were offset by $57.5 million in the sale of such loans. Additionally, $1.8 million of commercial real estate loans were sold. The Company participates in government-sponsored, insured and guaranteed loan programs, such as those offered by the Veterans' Administration and the Federal Housing Authority ("FHA") but does not aggressively seek such originations. During 2002, three FHA loans totaling $355,000 were originated and sold with servicing released. Borrowers under these programs are notified at the time of application that their loan will be sold to, and serviced by, a party other than the Company. Held-to-maturity investment securities decreased by $398,000 to $1.1 million at December 31, 2002, from $1.5 million at December 31, 2001. This 26.2% decrease was the result of the maturity of $593,000 of held-to-maturity securities, which was partially offset by the purchase of $195,000 of held-to-maturity securities. Real estate held for sale decreased by $153,000, (32.6%) to $316,000 at December 31, 2002 from $469,000 at December 31, 2001. The decrease was the result of the disposal of nine one-to-four family properties, the disposal of two commercial properties and write downs to fair value totaling $32,000. The decreases were partially offset by the transfer of seven one-to-four family properties to real estate held for sale during the year ended December 31, 2002, and to additional capital expenditures incurred. Deposits increased by $16.6 million (4.0%) to $432.0 million at December 31, 2002, from $415.5 million at December 31, 2001. The increase resulted from a $2.6 million increase in certificates of deposit, and a $14.0 million increase in passbook savings, checking and money market accounts. MANAGEMENT'S DISCUSSION AND ANALYSIS - -------------------------------------------------------------------------------- 20 Borrowed money increased by $29.7 million (99.0%) to $59.7 million at December 31, 2002, from $30.0 million at December 31, 2001. Borrowed money consisted of $32.1 million in advances from the FHLB and $27.6 million in funds from securities sold under agreements to repurchase. During 2002, borrowed money from the FHLB was primarily used for both short-term and long-term cash management requirements. Borrowed money from securities sold under agreements to repurchase was part of a strategy designed to increase the leverage on the Company's capital and enhance earnings. As discussed earlier, the Company issued $10.0 million in variable-rate trust preferred securities, as part of a large pool of such securities. These funds were used primarily for the repurchase of the Company's stock. Stockholders' equity on a per share basis increased by 4.1% from $33.86 at December 31, 2001, to $35.26 at December 31, 2002. Total stockholders' equity decreased by $84,000 (0.2%) to $41.1 million at December 31, 2002. The decrease in stockholders' equity was attributed to the repurchase of 83,612 shares of Company common stock at a total cost of $3.2 million and the payment of dividends of $680,000 during the year ended December 31, 2002. These decreases were substantially offset by net income of $2.2 million, an increase in the market value adjustment on available-for-sale securities, which, net of provision for income taxes, amounted to $1.0 million, and proceeds from the exercise of stock options totaling $539,000. Critical Accounting Policies Accounting policies, the implementation of which requires difficult, complex or subjective judgments on the part of management are critical to the Company's financial condition and results of operations, and they may relate to matters that are inherently uncertain. Changes in facts and circumstances can result in material changes in estimates determined under these policies. Changes in interest rates, deterioration in the performance of the economy, changes in laws and regulations and deterioration in the financial condition of borrowers are among those facts and circumstances that could affect the evaluation process. Management believes that the Company's critical accounting policies include determining the allowance for losses on loans and the impairment, if any, in goodwill. A summary of significant accounting policies may be found in Note 1 to the consolidated financial statements. Asset Quality Asset quality is an important aspect of the economic condition of a financial institution such as the Company. Measurements of asset quality are indicators of both the current strength of a financial institution and of its ability to generate the desired returns from its business activities. Non-performing assets include foreclosed assets, loans that have been placed on non-accrual status, loans 90 days or more past due that continue to accrue interest and restructured troubled debt. During MANAGEMENT'S DISCUSSION AND ANALYSIS - -------------------------------------------------------------------------------- 21 the year ended December 31, 2002, total non-performing assets increased by $8.9 million, or 402.9%, to $11.1 million from $2.2 million at December 31, 2001. Changes in the individual loan categories are detailed in the following table:
December 31, --------------------- 2002 2001 Change ------- ------ ------ (Dollars in thousands) Non-accruing loans Real estate: One-to-four family.................... $ 1,115 $ 572 $ 543 Multi-family.......................... 118 -- 118 Commercial............................ 3,039 33 3,006 Construction and development.......... 1,687 -- 1,687 Commercial business................... 875 125 750 ------- ------ ------ Total............................. 6,834 730 6,104 ------- ------ ------ Accruing loans delinquent 90 days or more Real estate: Commercial............................ 2,516 -- 2,516 Consumer.............................. 290 375 (85) Commercial business................... 633 16 617 ------- ------ ------ Total............................. 3,439 391 3,048 ------- ------ ------ Total non-performing loans............... 10,273 1,121 9,152 Foreclosed assets........................ 316 469 (153) Troubled debt restructuring.............. 480 611 (131) ------- ------ ------ Total non-performing assets.............. $11,069 $2,201 $8,868 ======= ====== ======
Based on its review of non-performing loans at December 31, 2002, and the increased and continuing level of review of the commercial business and commercial real estate loan portfolios, management, at this time, does not anticipate that the Company will incur material losses in excess of established reserves. However, there can be no assurance that adverse developments, either in the general or local economy, or in the operation of individual businesses, would not result in possible losses. Company management performs a quarterly analysis of the adequacy of the allowance for losses on loans. Management classifies problem assets into one of four categories: Substandard, Doubtful, Loss and Special Mention. During the year ended December 31, 2002, total classified assets increased by $7.2 million to $16.0 million from $8.8 million at December 31, 2001. This increase was due to increases of $3.4 million in assets classified as Loss, $31,000 in assets classified as doubtful and $4.5 million in assets classified as Special Mention. These increases were partially offset by a decrease of $703,000 in assets classified as Substandard. The increase in assets categorized as Loss was due to the inclusion of $3.5 million in commercial loans and real estate development loans on which specific reserves for losses on loans were established in the last six months of 2002. The increase in loans classified as Special Mention was the result of decreases experienced by borrowers in cash flows and business activity in a slow economic environment. For additional information with respect to asset quality, please refer to the sections on Provision for Losses on Loans, which are part of the analysis of the Company's results of operations. Asset/Liability Management The matching of assets and liabilities may be analyzed by examining the extent to which such assets and liabilities are "interest rate sensitive" and by monitoring 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 the amount of interest-earning assets anticipated, based upon certain assumptions, to mature or reprice within a specific time period and the amount of interest-bearing liabilities anticipated, based upon certain assumptions, to mature or reprice within that same time period. A gap is considered positive when the amount of interest rate sensitive assets exceeds the amount of interest MANAGEMENT'S DISCUSSION AND ANALYSIS - -------------------------------------------------------------------------------- 22 rate sensitive liabilities. A gap is considered negative when the amount of interest rate sensitive liabilities exceeds the amount of 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 adversely affect net interest income. At December 31, 2002, total interest-earning assets maturing or repricing within one year exceeded total interest-bearing liabilities maturing or repricing in the same period by $53.0 million, representing a positive cumulative one-year gap equal to 9.7% of total assets. In an attempt to manage its exposure to changes in interest rates, management closely monitors the Company's interest rate risk. The Bank has a funds management committee, consisting of the president, certain vice presidents and the controller of the Bank, which meets weekly and reviews the Bank's interest rate risk position and evaluates its current asset/liability pricing and strategies. This committee adjusts pricing and strategies as needed and makes recommendations to the Bank's board of directors regarding significant changes in strategy. In addition, on a quarterly basis the board reviews the Bank's asset/liability position, including simulations of the effect on the Bank's capital of various interest rate scenarios. In managing its asset/liability mix, the Company, at times, depending on the relationship between long-term and short-term interest rates, market conditions and consumer preferences, may place somewhat greater emphasis on maximizing its net interest margin than on better matching the interest rate sensitivity of its assets and liabilities in an effort to improve its net income. Management believes that the increased net income resulting from a mismatch in the maturity of its asset and liability portfolios can, during periods of declining or stable interest rates, provide returns that justify the increased exposure to sudden and unexpected increases in interest rates which can result from such a mismatch. The Company attempts to manage its interest rate risk to the extent consistent with its interest margin objectives through management of the mix of its assets and liabilities in a number of ways, including the following: . To the extent requested in its lending areas, the Company has offered its one-to-four family residential lending program on adjustable rate mortgages ("ARMs"). However, ARMs are not currently in great demand, and only about 13% of one-to-four family residential loans originated in 2002 were ARMs. The remaining 87% of the one-to-four family loan originations during 2002 were for fixed rates with maturities ranging from ten years to 30 years. At December 31, 2002, approximately $64.4 million, or 28.2%, of the Company's one-to-four family residential loan portfolio consisted of ARMs. . The Company has increased originations of commercial business and construction loans having adjustable or floating interest rates, relatively short terms to maturity, or a combination thereof. . The Company has continued its origination of consumer loans having terms to maturity that are significantly shorter than residential loans. . The Company regularly reviews its policy on newly originated fixed-rate mortgage loans, as to the question of which loans, if any, should be retained in portfolio versus which should be sold in the secondary market. Trends in the economy, trends in market interest rates, the Company's interest margin and the Company's current asset/liability mix are among the factors considered. Changes resulting from these reviews take effect on a specific calendar date and impact either those loans which are applied for on or after that date, or those loans which are closed on or after that date. At December 31, 2002, the Company held $164.1 million of fixed-rate one-to-four family loans, of which $66.9 million had original terms of more than 15 years (i.e., long-term loans). These loans are carried as part of the Company's permanent loan portfolio and are intended to be held until maturity. Prior to 2000, the Company's policy was to sell substantially all newly originated 30 year, fixed-rate loans. During 2000, the Company began to retain substantially all newly originated 30 year, fixed- MANAGEMENT'S DISCUSSION AND ANALYSIS - -------------------------------------------------------------------------------- 23 rate loans, as part of its growth strategy. During 2001, market interest rates declined steadily in response to the actions of the FOMC. As interest rates decreased, the Company began selling newly originated, fixed-rate loans. Initially, newly originated loans with maturities greater than 20 years were sold, adjusted later to include newly originated loans with maturities greater than 15 years, until by the fourth quarter of 2001 virtually all newly-originated, fixed-rate loans were designated for sale. This policy continued through 2002 with the exception of approximately $10.0 million in fixed rate, one-to-four family loans with terms of 20 years or less which were designated for portfolio at the time of origination. At December 31, 2002, there were $128,000 of fixed-rate loans classified as held for sale. The Company currently does not enter into derivative financial instruments, including futures, forwards, interest rate risk swaps, option contracts, or other financial instruments with similar characteristics. However, the Company is party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers such as commitments to extend credit and letters of credit. Commitments to extend credit and letters of credit are not recorded as an asset by the Company until the commitment is accepted and funded or the letter of credit is exercised. The Company's exposure to market risk is reviewed on a regular basis by the funds management committee. Interest rate risk is the potential of economic losses due to future interest rate changes. These economic losses can be reflected as a loss of future net interest income and/or a loss of current fair market values. Tools used by management include the standard GAP report and the quarterly Office of Thrift Supervision (the "OTS" report measuring interest rate sensitivity. The OTS report provides the Company the economic value of each type of asset, liability, and off-balance sheet contract under the assumption that the Treasury yield curve shifts instantaneously and parallel up and down by 100 to 300 basis points in 100 basis point increments. The Company has no market risk sensitive instruments held for trading purposes. It appears that the Company's market risk is reasonable at this time. The following condensed GAP report summarizing the Company's interest rate sensitivity sets forth the interest rate sensitivity of the Bank's assets and liabilities at December 31, 2002. Except as stated below, the amounts of assets and liabilities shown which reprice or mature during a particular period are determined in accordance with the earlier of the term to repricing or maturity of the asset or liability. The Bank has assumed that its passbook and statement savings accounts, checking accounts and money market accounts, which totaled $175.8 million at December 31, 2002, are withdrawn at the annual percentage rates, or range of rates, of 32%, 30% to 33% and 32% to 47%, respectively. Ranges of withdrawal rates result from varying interest rates within account types. Certificate accounts are assumed to reprice at the date of contractual maturity.
Maturing or Repricing ----------------------------------------------------------- 4 Months 1-3 to One Over 1-3 Over 3-5 Over 5 Months Year Years Years Years Total -------- --------- --------- -------- ------- -------- Amount Amount Amount Amount Amount Amount -------- --------- --------- -------- ------- -------- Fixed rate one-to-four family (including mortgage- backed securities, commercial real estate and construction loans)..................................... $ 21,737 $ 34,900 $ 57,277 $33,190 $46,014 $193,118 Adjustable rate one-to-four family (including mortgage- backed securities, commercial real estate and construction loans)..................................... 54,833 87,050 11,831 10,046 -- 163,760 Commercial business loans................................ 21,269 5,969 5,350 999 126 33,713 Consumer loans........................................... 20,815 6,115 8,313 2,618 1,048 38,909 Investment securities and other.......................... 42,736 16,440 8,435 12,980 2,817 83,408 -------- --------- --------- -------- ------- -------- Total interest-earning assets......................... 161,390 150,474 91,206 59,833 50,005 512,908 -------- --------- --------- -------- ------- -------- Savings deposits......................................... 4,827 16,768 25,614 12,731 12,581 72,521 Checking and money market................................ 7,498 26,090 38,358 16,754 14,542 103,242 Certificates............................................. 61,950 120,363 62,996 10,742 -- 256,051 FHLB advances............................................ 6,300 5,900 11,400 8,500 -- 32,100 Other borrowings......................................... 9,200 -- 18,400 -- -- 27,600 -------- --------- --------- -------- ------- -------- Total interest-bearing liabilities.................... 89,775 169,121 156,768 48,727 27,123 491,514 -------- --------- --------- -------- ------- -------- Interest-earning assets less interest-bearing liabilities $ 71,615 ($ 18,647) ($ 65,562) $11,106 $22,882 $ 21,394 ======== ========= ========= ======== ======= ======== Cumulative interest-rate sensitivity gap................. $ 71,615 $ 52,968 ($ 12,594) ($ 1,488) $21,394 ======== ========= ========= ======== ======= Cumulative interest-rate gap as a percentage of assets... 13.11% 9.69% -2.30% -0.27% 3.92% ======== ========= ========= ======== =======
MANAGEMENT'S DISCUSSION AND ANALYSIS - -------------------------------------------------------------------------------- 24 Certain shortcomings are inherent in the method of analysis presented in the foregoing table. For example, although certain assets and liabilities may have similar maturities or periods to repricing, they may react in different degrees to changes in market interest rates. Also, the interest rates on certain types of assets and liabilities may fluctuate in advance of changes in market interest rates, while interest rates on other types may lag behind changes in market rates. Additionally, certain assets, such as ARMs, have features which restrict changes in interest rates on a short-term basis and over the life of the asset. Further, in the event of a change in interest rates, prepayment and early withdrawal levels could deviate significantly from those assumed in calculating the table. Finally, the ability of many borrowers to service their adjustable-rate debt may decrease in the event of an interest rate increase. Liquidity and Capital Resources The Company's primary sources of funds are deposits, proceeds from principal and interest payments on loans and on investment and mortgage-backed securities. While maturities and scheduled amortization of loans and mortgage-backed securities are a predictable source of funds, deposit flows and mortgage loan prepayments are greatly influenced by general interest rates, economic conditions and competition. In a period of declining interest rates, mortgage loan prepayments generally increase. As a result, the proceeds from mortgage loan prepayments are invested in lower yielding loans or other investments which have the effect of reducing interest income. In a period of rising interest rates, mortgage loan prepayments generally decrease and the proceeds from such prepayments are invested in higher yielding loans or investments which would have the effect of increasing interest income. The Company's liquidity, represented by cash and cash equivalents, is a result of its operating, investing and financing activities. These activities are summarized below for the years ended December 31, 2002, 2001 and 2000, respectively:
Years Ended December 31, ---------------------------- 2002 2001 2000 -------- -------- -------- (Dollars in thousands) Net income.............................................. $ 2,233 $ 3,261 $ 2,584 Adjustments to reconcile net income to net cash provided (used) by operating activities........................ 5,219 (904) 1,437 -------- -------- -------- Net cash provided by operating activities............... 7,452 2,357 4,021 Net cash used by investing activities................... (39,541) (27,596) (59,140) Net cash provided by financing activities............... 52,852 26,755 50,172 -------- -------- -------- Net increase (decrease) in cash and cash equivalents.... 20,763 1,516 (4,947) Cash and cash equivalents at beginning of period........ 26,663 25,147 30,094 -------- -------- -------- Cash and cash equivalents at end of period.............. $ 47,426 $ 26,663 $ 25,147 ======== ======== ========
The primary investing activities of the Company are the origination of loans, the purchase of investment and mortgage-backed securities, and, to a lesser extent, the purchase of loans and loan participations. During the years ended December 31, 2002, 2001 and 2000, respectively, the Company's loan originations totaled $153.3 million, $197.4 million and $175.1 million, respectively. Purchases of loans totaled $3.1 million for 2002. There were no loans purchased in either 2001 or 2000. Purchases of mortgage-backed securities totaled $34.6 million, $301,000 and $2.0 million for 2002, 2001 and 2000, respectively. Other investment activities included the purchase of investment securities which totaled $17.7 million, $22.8 million and $8.7 million for 2002, 2001 and 2000, respectively. During 2002, 2001 and 2000, these activities were funded primarily by maturities of investment securities totaling $9.1 million, $40.7 million and $17.1 million, respectively, by principal repayments on loans and mortgage-backed securities and proceeds from the sale of mortgaged-backed securities totaling $170.2 million, $146.2 million and $110.0 million, respectively, and, by sales of investment securities totaling $5.4 million in 2001. There were no sales of investment securities during either 2002 or 2000. MANAGEMENT'S DISCUSSION AND ANALYSIS - -------------------------------------------------------------------------------- 25 The major sources of cash from financing activities during 2002 were a net increase of $16.6 million in deposit accounts, a net increase of $29.7 million in borrowed money, the issue of $10.0 million in trust preferred debentures and proceeds from the exercise of stock options of $539,000. Additionally, financing activities for 2002 included the purchase of common stock totaling $3.2 million and the payment of dividends to stockholders totaling $680,000. The major sources of cash from financing activities during 2001 were a net increase of $27.4 million in deposit accounts and a $1.0 million net increase in borrowed money. Additionally, financing activities for 2001 included the purchase of common stock totaling $1.5 million, the payment of dividends to stockholders of $583,000 and proceeds from the exercise of stock options of $278,000. The major sources of cash from financing activities during 2000 were a net increase of $33.0 million in deposit accounts and a net increase of $17.8 million in borrowed money. Additionally, financing activities for 2000 included the purchase of common stock totaling $1.0 million, the payment of dividends to stockholders of $607,000 and proceeds from the exercise of stock options of $726,000. Net cash used in investing activities was offset by cash provided by operating and financing activities for 2002, 2001 and 2000. The Company maintains a certain level of cash and other liquid assets to fund normal volumes of loan commitments, deposit withdrawals and other obligations. The OTS regulations currently require each savings association to maintain sufficient liquidity to ensure its safe and sound operation. Liquidity has traditionally been measured as a percentage of a base consisting of net withdrawable accounts plus borrowed money repayable in 12 months or less. The Bank's liquidity ratio was 13.0% at December 31, 2002. The Company's most liquid assets are cash, cash in banks and highly liquid, short-term investments. The levels of these assets are dependent on the Company's operating, financing, lending and investing activities during any given period. Securities available-for-sale may also be utilized to meet liquidity needs. At December 31, 2002, 2001 and 2000, these liquid assets totaled $47.4 million, $26.7 million, and $25.2 million, respectively. The level of liquid assets at December 31, 2002 was higher than usual due to a number of factors including sales of loans and higher than expected prepayments on loans and mortgage-backed securities. The level of liquid assets at both December 31, 2001 and December 31, 2000 was somewhat inflated by significant year-end, holiday weekend deposits at the end of each year. Liquidity management for the Company is both a daily and long-term function of the Company's management strategy. Excess funds are generally invested in short-term investments such as federal funds. In the event that the Company should require funds beyond its ability to generate them internally, additional sources of funds are available, including FHLB advances. At December 31, 2002, the Company had outstanding borrowings totaling $59.7 million, of which $32.1 were advances from the FHLB and $27.6 were funds from securities sold under agreement to repurchase. At December 31, 2002, the Company had outstanding commitments to originate mortgage loans of $12.9 million, of which 95% were at fixed interest rates. These commitments provided that the loans would be secured by properties located, for the most part, in the Company's primary market areas. The Company anticipates that it will have sufficient funds available to meet its current loan commitments. Certificates of deposit which were scheduled to mature in one year or less from December 31, 2002, totaled $180.5 million. Based upon the historically stable nature of the Company's deposit base, management believes that a significant portion of such deposits will remain with the Company. The Company also had unused lines of credit provided to customers of $31.1 million and $23.8 million at December 31, 2002, and 2001, respectively. At December 31, 2002, the Bank exceeded all of its capital requirements on a fully phased-in basis. See Note 11 of the Notes to Consolidated Financial Statements and the discussion of the Company's financial condition above. MANAGEMENT'S DISCUSSION AND ANALYSIS - -------------------------------------------------------------------------------- 26 Dividends A federal thrift institution is precluded under current regulations of the OTS from declaring or paying a dividend or repurchasing any of its common stock if either of such actions would reduce the institution's core, tangible or risk-based capital levels below its liquidation account balance or any of the three current minimum regulatory capital requirements. Under presently effective OTS regulations, the maximum amount of dividends that a thrift institution will be permitted to pay in any calendar year without prior OTS approval is limited to the institution's year-to-date net income plus its retained net income for the preceding two years. The Bank declared and paid dividends totaling $1.9 million, $1.7 million and $1.3 million to the Company, its sole stockholder, during 2002, 2001 and 2000, respectively. Cash dividends in the total amount of $.48 per share were paid by the Company during 2000 and 2001. Cash dividends in the total amount of $.57 per share were paid during 2002, with $.12 per share paid in the first quarter and $.15 per share paid in the remaining three quarters. The Board of Directors of the Company declared a quarterly cash dividend of $.15 per share payable on February 28, 2003, to stockholders of record as of February 7, 2003. Future dividends will depend primarily upon the Company's earnings, financial condition and need for funds, as well as restrictions imposed by regulatory authorities regarding dividend payments and net worth requirements. Mission and Goals The Company's mission is to provide, safely and profitably, financial services to families and businesses in the communities served by its offices. In seeking to accomplish this mission, management has adopted a business strategy designed to accomplish a number of goals, including: . increase return on equity and increase stockholders' value; . maintain the Bank's tangible capital at a level that exceeds regulatory requirements; . maintain a high level of asset quality; . manage the Company's exposure to changes in market interest rates; . increase the Company's interest rate spread; and . to the extent available, take advantage of loan and deposit growth opportunities in the Company's principal market areas. The Company has attempted to achieve these goals by focusing on a number of areas, including: . management of the Company's capital to enhance stockholders' value; . the origination, to the extent requested in its lending areas, of ARMs on residential properties for retention in its portfolio; . actively monitoring local and national economic trends to determine if fixed-rate loans originated will be retained in portfolio or sold, with servicing retained; . the origination of commercial real estate, consumer, commercial business, and, to a lesser extent, multi-family and construction loans; . providing high quality service to enhance customer loyalty; and . offering a variety of financial products and services to serve as comprehensively as practicable the financial needs of families and community businesses in its market areas. Special Note Concerning Forward-Looking Statements This document (including information incorporated by reference) contains, and future oral and written statements of the Company and its management may contain, forward-looking statements, within the meaning of such term in the Private Securities Litigation Reform Act of 1995, with respect to the financial condition, results of operations, plans, objectives, future performance and business of the Company. Forward-looking statements, which may be based upon beliefs, expectations and MANAGEMENT'S DISCUSSION AND ANALYSIS - -------------------------------------------------------------------------------- 27 assumptions of the Company's management and on information currently available to management, are generally identifiable by the use of words such as "believe," "expect," "anticipate," "plan," "intend," "estimate," "may," "will," "would," "could," "should" or other similar expressions. Additionally, all statements in this document, including forward-looking statements, speak only as of the date they are made, and the Company undertakes no obligation to update any statement in light of new information or future events. The Company's ability to predict results or the actual effect of future plans or strategies is inherently uncertain. Factors which could have a material adverse effect on the operations and future prospects of the Company and its subsidiaries include, but are not limited to, the following: . The strength of the United States economy in general and the strength of the local economies in which the Company conducts its operations which may be less favorable than expected and may result in, among other things, a deterioration in the credit quality and value of the Company's assets. . The economic impact of past and any future terrorist threats and attacks, acts of war or threats thereof, and the response of the United States to any such threats and attacks. . The effects of, and changes in, federal, state and local laws, regulations and policies affecting banking, securities, insurance and monetary and financial matters. . The effects of changes in interest rates (including the effects of changes in the rate of prepayments of the Company's assets) and the policies of the Board of Governors of the Federal Reserve System. . The ability of the Company to compete with other financial institutions as effectively as the Company currently intends due to increases in competitive pressures in the financial services sector. . The inability of the Company to obtain new customers and to retain existing customers. . The timely development and acceptance of products and services, including products and services offered through alternative delivery channels such as the Internet. . Technological changes implemented by the Company and by other parties, including third party vendors, which may be more difficult or more expensive than anticipated or which may have unforeseen consequences to the Company and its customers. . The ability of the Company to develop and maintain secure and reliable electronic systems. . The ability of the Company to retain key executives and employees and the difficulty that the Company may experience in replacing key executives and employees in an effective manner. . Consumer spending and saving habits which may change in a manner that affects the Company's business adversely. . Business combinations and the integration of acquired businesses which may be more difficult or expensive than expected. . The costs, effects and outcomes of existing or future litigation. . Changes in accounting policies and practices, as may be adopted by state and federal regulatory agencies and the Financial Accounting Standards Board. . The ability of the Company to manage the risks associated with the foregoing as well as anticipated. These risks and uncertainties should be considered in evaluating forward-looking statements and undue reliance should not be placed on such statements. Additional information concerning the Company and its business, including other factors that could materially affect the Company's financial results, is included in the Company's filings with the Securities and Exchange Commission. MANAGEMENT'S DISCUSSION AND ANALYSIS - -------------------------------------------------------------------------------- 28 INDEPENDENT AUDITOR'S REPORT - -------------------------------------------------------------------------------- To the Stockholders and Board of Directors Kankakee Bancorp, Inc. Kankakee, Illinois We have audited the accompanying consolidated statements of financial condition of Kankakee Bancorp, Inc. and Subsidiary as of December 31, 2002 and 2001, and the related consolidated statements of income, stockholders' equity, and cash flows for each of the years in the three year period ended December 31, 2002. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of Kankakee Bancorp, Inc. and Subsidiary as of December 31, 2002 and 2001, and the results of their operations and their cash flows for each of the years in the three year period ended December 31, 2002, in conformity with accounting principles generally accepted in the United States of America. /s/ McGladrey & Paller, LLP Champaign, Illinois February 6, 2003, except for Note 17 as to which the date is February 24, 2003 INDEPENDENT AUDITOR'S REPORT - -------------------------------------------------------------------------------- 29 CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION KANKAKEE BANCORP, INC. AND SUBSIDIARY
December 31, ------------------------- 2002 2001 ------------ ------------ Assets Cash and due from banks............................................................. $ 16,576,706 $ 15,432,128 Federal funds sold.................................................................. 19,178,334 7,112,641 Money market funds.................................................................. 11,670,916 4,117,945 ------------ ------------ Cash and cash equivalents....................................................... 47,425,956 26,662,714 ------------ ------------ Certificates of deposit............................................................. 50,000 50,000 ------------ ------------ Securities: Investment securities: Available-for-sale, at fair value............................................... 44,459,135 34,755,192 Held-to-maturity, at cost (fair value: 2002 $1,076,979; 2001 $1,483,946)........ 1,066,664 1,464,804 ------------ ------------ Total investment securities..................................................... 45,525,799 36,219,996 ------------ ------------ Mortgage-backed securities: Available-for-sale, at fair value............................................... 38,179,459 11,635,592 Held-to-maturity, at cost (fair value: 2002 $25,525; 2001 $38,003).............. 25,525 37,627 ------------ ------------ Total mortgage-backed securities................................................ 38,204,984 11,673,219 ------------ ------------ Loans, net of allowance for losses on loans of $6,524,306 in 2002 and $2,582,234 in 2001.............................................................................. 384,238,637 393,789,828 Loans held for sale................................................................. 128,000 828,610 Real estate held for sale........................................................... 316,170 469,165 Federal Home Loan Bank stock, at cost............................................... 2,740,500 2,443,300 Office properties and equipment..................................................... 10,377,731 8,397,173 Accrued interest receivable......................................................... 2,795,701 2,823,090 Goodwill............................................................................ 3,065,821 3,065,821 Other intangible assets............................................................. 1,181,212 1,365,280 Other assets........................................................................ 10,353,190 2,491,672 ------------ ------------ Total assets........................................................................... $546,403,701 $490,279,868 ============ ============
(Continued) 30
December 31, -------------------------- 2002 2001 ------------ ------------ Liabilities and Stockholders' Equity Liabilities Deposits Noninterest bearing............................................................. $ 28,633,800 $ 25,854,152 Interest bearing................................................................ 403,397,808 389,612,684 Borrowings......................................................................... 59,700,000 30,000,000 Trust preferred debentures......................................................... 10,000,000 -- Advance payments by borrowers for taxes and insurance.............................. 1,751,128 1,905,766 Other liabilities.................................................................. 1,814,306 1,716,366 ------------ ------------ Total liabilities...................................................................... 505,297,042 449,088,968 ------------ ------------ Stockholders' Equity Preferred stock, $.01 par value; authorized, 500,000 shares; none outstanding...... -- -- Common stock, $.01 par value; authorized 3,500,000 shares; shares issued 1,750,000........................................................................ 17,500 17,500 Additional paid-in capital......................................................... 15,039,598 15,226,853 Retained income, partially restricted.............................................. 38,517,217 36,964,331 Treasury stock (584,119 and 533,642 shares in 2002 and 2001, respectively), at cost............................................................................. (14,099,004) (11,622,862) Accumulated other comprehensive income............................................. 1,631,348 605,078 ------------ ------------ Total stockholders' equity............................................................. 41,106,659 41,190,900 ------------ ------------ Total liabilities and stockholders' equity................................................ $546,403,701 $490,279,868 ============ ============
See Accompanying Notes to Consolidated Financial Statements. 31 CONSOLIDATED STATEMENTS OF INCOME KANKAKEE BANCORP, INC. AND SUBSIDIARY
Years Ended December 31, ----------------------------------- 2002 2001 2000 ----------- ----------- ----------- Interest income: Loans........................................................... $27,614,632 $28,403,156 $24,220,459 Investment securities and other................................. 2,556,068 3,385,323 4,897,215 Mortgage-backed securities...................................... 1,943,688 970,242 1,221,687 ----------- ----------- ----------- Total interest income....................................... 32,114,388 32,758,721 30,339,361 ----------- ----------- ----------- Interest expense: Deposits........................................................ 13,294,191 17,385,414 16,318,219 Borrowings...................................................... 2,792,526 1,343,239 1,118,979 ----------- ----------- ----------- Total interest expense...................................... 16,086,717 18,728,653 17,437,198 ----------- ----------- ----------- Net interest income......................................... 16,027,671 14,030,068 12,902,163 Provision for losses on loans...................................... 3,990,033 502,500 50,000 ----------- ----------- ----------- Net interest income after provision for losses on loans..... 12,037,638 13,527,568 12,852,163 ----------- ----------- ----------- Other income: Net gain on sales of securities................................. -- 401,120 -- Net gain on sales of real estate held for sale.................. 51,820 27,484 29,968 Net gain on sales of loans held for sale........................ 1,116,423 329,097 328 Net gain on sale of property held for expansion................. -- 800 11,552 Fee income...................................................... 2,535,375 2,352,991 1,942,223 Insurance commissions........................................... 66,701 103,516 187,928 Other........................................................... 781,810 389,243 341,404 ----------- ----------- ----------- Total other income.......................................... 4,552,129 3,604,251 2,513,403 ----------- ----------- ----------- Other expenses: Compensation and benefits....................................... 7,150,815 6,400,114 6,093,309 Occupancy....................................................... 1,249,169 1,241,435 1,097,369 Furniture and equipment......................................... 612,364 646,637 695,048 Federal deposit insurance premiums.............................. 72,067 73,187 72,792 Advertising..................................................... 325,383 386,847 340,257 Provision for losses on real estate held for sale............... 57,315 90,643 138,805 Data processing services........................................ 417,055 404,104 361,006 Telephone and postage........................................... 452,430 431,081 361,987 Amortization of goodwill and intangible assets.................. 184,068 374,748 377,538 Other general and administrative................................ 2,952,814 2,181,691 1,933,943 ----------- ----------- ----------- Total other expenses........................................ 13,473,480 12,230,487 11,472,054 ----------- ----------- ----------- Income before income taxes.................................. 3,116,287 4,901,332 3,893,512 Income taxes....................................................... 883,546 1,640,350 1,309,950 ----------- ----------- ----------- Net income.................................................. $ 2,232,741 $ 3,260,982 $ 2,583,562 =========== =========== =========== Basic Earnings Per Share........................................... $ 1.87 $ 2.68 $ 2.05 =========== =========== =========== Diluted Earnings Per Share......................................... $ 1.86 $ 2.62 $ 1.99 =========== =========== ===========
See Accompanying Notes to Consolidated Financial Statements. 32 CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY Years Ended December 31, 2002, 2001 and 2000 -------------------------------------------------------------- KANKAKEE BANCORP, INC. AND SUBSIDIARY
Accumulated Employee Additional Other Stock Common Paid-In Retained Treasury Comprehensive Ownership Stock Capital Income Stock Income (Loss) Plan Loan ------- ----------- ----------- ------------- ------------- --------- Balance, December 31, 1999.................. $17,500 $16,019,390 $32,309,425 $(10,851,899) $(1,095,478) $(151,211) Comprehensive income: Net income................................ -- -- 2,583,562 -- -- -- Unrealized gain on securities available- for-sale arising during the period, net of tax of $624,070....................... -- -- -- -- 1,211,447 -- Comprehensive income..................... Purchase of 46,300 shares of treasury stock...................................... -- -- (1,023,572) -- -- Exercise of stock options................... -- -- -- 654,653 -- -- Adjustment to paid-in capital due to exercise of stock options.................. -- (691,141) -- 762,283 -- -- Dividends paid on common stock--$.48 per share.................................. -- -- (607,027) -- -- -- Principal payment on ESOP loan.............. -- -- -- -- -- 151,211 ------- ----------- ----------- ------------- ----------- --------- Balance, December 31, 2000.................. 17,500 15,328,249 34,285,960 (10,458,535) 115,969 -- Comprehensive income: Net income................................ -- -- 3,260,982 -- -- -- Unrealized gain on securities available- for-sale arising during the period, net of tax of $401,942....................... -- -- -- -- 780,248 -- Less: Reclassifications adjustment for gains included in net income, net of tax of $(149,981)........................ -- -- -- -- (291,139) -- Comprehensive income..................... Purchase of 64,200 shares of treasury stock...................................... -- -- -- (1,543,360) -- -- Exercise of stock options................... -- -- -- 172,320 -- -- Adjustment to paid-in capital due to exercise of stock options.................. -- (101,396) -- 206,713 -- -- Dividends paid on common stock--$.48 per share.................................. -- -- (582,611) -- -- -- ------- ----------- ----------- ------------- ----------- --------- Balance, December 31, 2001.................. 17,500 15,226,853 36,964,331 (11,622,862) 605,078 -- Comprehensive income: Net income.................................. -- -- 2,232,741 -- -- -- Unrealized gain on securities available-for- sale arising during the period, net of tax of $528,717................................ -- -- -- -- 1,026,270 -- Comprehensive income..................... Purchase of 83,612 shares of treasury stock...................................... -- -- -- (3,202,133) -- -- Exercise of stock options................... -- -- -- 368,495 -- -- Adjustment to paid-in capital due to exercise of stock options.................. -- (187,255) -- 357,496 -- -- Dividends paid on common stock--$.57 per share.................................. -- -- (679,855) -- -- -- ------- ----------- ----------- ------------- ----------- --------- Balance, December 31, 2002.................. $17,500 $15,039,598 $38,517,217 $(14,099,004) $ 1,631,348 $ -- ======= =========== =========== ============= =========== =========
Total Stockholders' Equity ------------- Balance, December 31, 1999.................. $36,247,727 Comprehensive income: Net income................................ 2,583,562 Unrealized gain on securities available- for-sale arising during the period, net of tax of $624,070....................... 1,211,447 ----------- 1,211,447 ----------- Comprehensive income..................... 3,795,009 Purchase of 46,300 shares of treasury stock...................................... (1,023,572) Exercise of stock options................... 654,653 Adjustment to paid-in capital due to exercise of stock options.................. 71,142 Dividends paid on common stock--$.48 per share.................................. (607,027) Principal payment on ESOP loan.............. 151,211 ----------- Balance, December 31, 2000.................. 39,289,143 Comprehensive income: Net income................................ 3,260,982 Unrealized gain on securities available- for-sale arising during the period, net of tax of $401,942....................... 780,248 Less: Reclassifications adjustment for gains included in net income, net of tax of $(149,981)........................ (291,139) ----------- 489,109 ----------- Comprehensive income..................... 3,750,091 Purchase of 64,200 shares of treasury stock...................................... (1,543,360) Exercise of stock options................... 172,320 Adjustment to paid-in capital due to exercise of stock options.................. 105,317 Dividends paid on common stock--$.48 per share.................................. (582,611) ----------- Balance, December 31, 2001.................. 41,190,900 Comprehensive income: Net income.................................. 2,232,741 Unrealized gain on securities available-for- sale arising during the period, net of tax 1,026,270 of $528,717................................ ----------- 1,026,270 ----------- Comprehensive income..................... 3,259,011 Purchase of 83,612 shares of treasury stock...................................... (3,202,133) Exercise of stock options................... 368,495 Adjustment to paid-in capital due to exercise of stock options.................. 170,241 Dividends paid on common stock--$.57 per share.................................. (679,855) ----------- Balance, December 31, 2002.................. $41,106,659 ===========
See Accompanying Notes to Consolidated Financial Statements. 33 CONSOLIDATED STATEMENTS OF CASH FLOWS ------------------------------------------------- KANKAKEE BANCORP, INC. AND SUBSIDIARY
Years Ended December 31, ------------------------------------------- 2002 2001 2000 ------------- ------------- ------------- Cash Flows from Operating Activities Net income....................................................... $ 2,232,741 $ 3,260,982 $ 2,583,562 Adjustments to reconcile net income to net cash from operating activities: Provision for losses on loans.................................. 3,990,033 502,500 50,000 Provision for losses on real estate held for sale.............. 57,315 90,643 138,805 Depreciation and amortization.................................. 1,077,906 1,276,306 1,299,133 Amortization (accretion) of investments, net................... 69,240 (17,790) (832) Accretion of loan fees and discounts, net...................... (52,418) (37,999) 6,722 Deferred income tax provision (benefit)........................ (1,400,000) 23,858 (41,838) (Increase) decrease in interest receivable..................... 27,389 459,124 (392,716) Increase (decrease) in interest payable on deposits............ (95,618) (99,747) 60,641 Net gain on sales of loans..................................... (1,116,423) (329,097) (328) Net gain on sales of securities................................ -- (401,120) -- Net gain on sales of real estate held for sale................. (51,820) (27,484) (29,968) Net gain on sale of property held for expansion................ -- (800) (11,552) Federal Home Loan Bank stock dividend.......................... (132,900) (154,000) (100,600) Increase in cash surrender value of bank owned life insurance.. (349,236) -- -- Other, net..................................................... 1,362,990 (1,689,605) 459,383 ------------- ------------- ------------- Net cash provided by operations before loan originations and sales 5,619,199 2,855,771 4,020,412 Origination of loans held for sale............................. (58,865,231) (24,884,672) (327,882) Proceeds from sales of loans................................... 60,698,465 24,385,159 328,210 ------------- ------------- ------------- Net cash from operating activities................................ 7,452,433 2,356,258 4,020,740 ------------- ------------- ------------- Cash Flow from Investing Activities Investment securities: Available-for-sale: Purchases.................................................... (17,473,494) (22,113,099) (7,499,291) Proceeds from sales.......................................... -- 5,437,350 -- Proceeds from calls and maturities........................... 8,500,000 40,070,000 17,000,000 Held-to-maturity: Purchases.................................................... (195,000) (660,404) (1,200,000) Proceeds from maturities..................................... 592,367 643,166 56,976 Mortgage-backed securities: Available-for-sale: Purchases.................................................... (34,567,058) (300,890) (1,962,724) Proceeds from maturities and paydowns........................ 8,779,262 4,936,631 3,702,154 Held-to-maturity: Proceeds from maturities and paydowns........................ 12,102 29,241 41,857 Proceeds from sale of non-marketable equity securities........... -- 460,000 -- Proceeds from sales of real estate held for sale................. 601,127 361,140 212,951 Deferred loan fees and costs, net................................ 61,808 403,633 90,445 Loans originated................................................. (153,318,322) (197,403,420) (175,146,655) Loans purchased.................................................. (3,078,245) -- -- Principal collected on loans..................................... 161,418,997 141,244,204 106,274,103 Purchases of office properties and equipment, net................ (2,874,396) (703,108) (709,549) Purchases of bank owned life insurance........................... (8,000,000) -- -- ------------- ------------- ------------- Net cash from investing activities................................ (39,540,852) (27,595,556) (59,139,733) ------------- ------------- -------------
(Continued) 34 CONSOLIDATED STATEMENTS OF CASH FLOWS ------------------------------------------------- KANKAKEE BANCORP, INC. AND SUBSIDIARY
Years Ended December 31, ---------------------------------------- 2002 2001 2000 ------------ ------------ ------------ Cash Flows from Financing Activities Net increase in non-certificate of deposit accounts............... 14,017,238 19,012,040 6,165,886 Net increase in certificate of deposit accounts................... 2,643,152 8,504,202 26,846,363 Increase (decrease) in advance payments by borrowers for taxes and insurance....................................................... (165,477) 86,831 265,238 Proceeds from short-term borrowings............................... -- 15,000,000 41,000,000 Repayments of short-term borrowings............................... -- (29,000,000) (27,000,000) Proceeds from other borrowings.................................... 42,600,000 25,000,000 10,000,000 Repayments of other borrowings.................................... (12,900,000) (10,000,000) (6,200,000) Proceeds from issuance of trust preferred debentures.............. 10,000,000 -- -- Proceeds from exercise of stock options........................... 538,736 277,637 725,795 Dividends paid.................................................... (679,855) (582,611) (607,027) Purchase of treasury stock........................................ (3,202,133) (1,543,360) (1,023,572) ------------ ------------ ------------ Net cash from financing activities................................. 52,851,661 26,754,739 50,172,683 ------------ ------------ ------------ Increase (decrease) in cash and cash equivalents................... 20,763,242 1,515,441 (4,946,310) Cash and cash equivalents: Beginning of year................................................. 26,662,714 25,147,273 30,093,583 ------------ ------------ ------------ End of year....................................................... $ 47,425,956 $ 26,662,714 $ 25,147,273 ============ ============ ============ Supplemental Disclosures of Cash Flow Information Cash paid during the year for: Interest on deposits............................................ $ 13,389,809 $ 17,485,200 $ 16,257,600 ============ ============ ============ Interest on borrowed funds...................................... $ 2,653,747 $ 1,360,600 $ 1,037,800 ============ ============ ============ Income taxes.................................................... $ 1,854,014 $ 1,744,718 $ 776,824 ============ ============ ============ Supplemental Disclosures of Noncash Investing Activities: Real estate acquired through foreclosure.......................... $ 461,690 $ 385,674 $ 129,308 ============ ============ ============ Reduction of Employee Stock Ownership Plan loan................... $ -- $ -- $ 151,211 ============ ============ ============
See Accompanying Notes to Consolidated Financial Statements. 35 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - ------------------------------------------------------ KANKAKEE BANCORP, INC. AND SUBSIDIARY Note 1. Significant Accounting Policies Through KFS Bank, F.S.B. (the "Bank"), Kankakee Bancorp, Inc. (the "Company") provides a full range of banking services to individual and corporate customers through its 15 locations throughout central Illinois. The Bank is subject to competition from other financial institutions and nonfinancial institutions providing financial products. Additionally, the Company and the Bank are subject to the regulations of certain regulatory agencies and undergo periodic examinations by those regulatory agencies. The significant accounting and reporting policies of the Company and its subsidiary follow: Basis of Consolidation and Financial Statement Presentation The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiary, the Bank and the Bank's wholly-owned subsidiary, KFS Service Corporation. Kankakee Bancorp Capital Trust I ("Capital Trust I"), a statutory business trust organized under the Delaware Business Trust Act, was formed in March 2002. Kankakee Bancorp owns all of the Common Securities of Capital Trust I. Kankakee Bancorp and Capital Trust I, as part of a pooled trust preferred offering, issued $10 million variable rate Cumulative Trust Preferred Securities issued by Wilmington Trust Company and guaranteed by Kankakee Bancorp. Significant intercompany accounts and transactions have been eliminated in consolidation. Based on the Company's approach to decision making, it has decided that its business is comprised of a single business segment. The consolidated financial statements of the Company have been prepared in conformity with accounting principles generally accepted in the United States of America and conform to predominate practice within the banking industry. In preparing the consolidated financial statements, Company management is required to make estimates and assumptions which significantly affect the amounts reported in the consolidated financial statements. Significant estimates which are particularly susceptible to change in a short period of time include the determination of the market value of investment and mortgage backed securities, the allowance for losses on loans and valuation of real estate and other properties acquired in connection with foreclosures or in satisfaction of amounts due from borrowers on loans. Actual results could differ from those estimates. Comprehensive Income Accounting principles generally require that recognized revenue, expenses, gains and losses be included in net income. Although certain changes in assets and liabilities, such as unrealized gains and losses on available-for-sale securities, are reported as a separate component of the equity section of the balance sheet, such items, along with net income, are components of comprehensive income. Securities Securities classified as held-to-maturity are those securities the Company has both the positive intent and ability to hold to maturity regardless of changes in market conditions, liquidity needs or changes in general economic conditions. These securities are carried at cost adjusted for amortization of premium and accretion of discount, computed by the interest method over their contractual lives. Securities classified as available-for-sale are those securities that the Company intends to hold for an indefinite period of time, but not necessarily to maturity. Any decision to sell a security classified as available-for-sale would be based on various factors, including significant movements in interest rates, changes in the maturity mix of the Company's assets and liabilities, liquidity needs, regulatory capital considerations and other similar factors. Securities available-for-sale are carried at fair value. The difference between fair value and cost, adjusted for amortization of premium and accretion of discounts, results in an unrealized gain or loss. Unrealized gains or losses are reported as NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - -------------------------------------------------------------------------------- 36 accumulated other comprehensive income (loss), net of the related deferred tax effect. Gains or losses on the sale of securities are determined on the basis of the specific security sold and are included in earnings. Premiums and discounts are recognized in interest income using the interest method over their contractual lives. Loans Loans originated or purchased are identified as either held for sale or portfolio at origination or purchase. Loans held for portfolio are originated or purchased with the intent to hold them to maturity for the purpose of earning interest income. Since the Bank has the ability to hold such loans as intended, they are recorded at cost. Loans held for sale are recorded at the lower of aggregate cost or market until they are sold. Any transfers between portfolios, which are rare, are recorded at the lower of cost or market. Interest is credited to income as earned using the simple interest method applied to the daily balances of the principal outstanding. A loan is considered to be impaired when, based on current information and events, it is probable the Bank will not be able to collect all amounts due. The portion of the allowance for losses on loans applicable to impaired loans has been computed based on the present value of the estimated future cash flows of interest and principal discounted at the loan's effective interest rate or on the fair value of the collateral for collateral dependent loans. The entire change in present value of expected cash flows of impaired loans or of collateral value is reported as a provision for losses on loans in the same manner in which impairment initially was recognized or as a reduction in the amount of a provision for losses on loans that otherwise would be reported. The accrual of interest income on loans is discontinued when, in the opinion of management, there is reasonable doubt as to the borrower's ability to meet payments of interest or principal when they become due. Interest income on these loans is recognized to the extent interest payments are received and the principal is considered fully collectible. Loan origination fees and certain direct origination costs are being amortized as an adjustment of the yield over the contractual life of the related loan, adjusted for prepayments, using the interest method. Allowance for Losses on Loans The allowance for losses on loans ("allowance") is established as losses are estimated to have occurred through a provision for losses on loans charged to earnings. Loan losses are charged against the allowance when management believes that the uncollectibility of a loan balance is confirmed. Subsequent recoveries, if any, are credited to the allowance. The allowance is evaluated on a regular basis by management and is based upon management's periodic review of the collectibility of the loans in light of historical experience, the nature and volume of the loan portfolio, adverse situations that may affect the borrower's ability to repay, estimated values of any underlying collateral and prevailing economic conditions. This evaluation is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available. While management uses the best information available to make its evaluation, future adjustments to the allowance may be necessary if there are significant changes in economic conditions. In addition, various regulatory agencies periodically review the allowance. These agencies may require the Bank to make additions to the allowance based on their judgments of collectibility based on information available to them at the time of their examination. Real Estate Held for Sale Real estate acquired through foreclosure or deed in lieu of foreclosure represents specific assets to which the Company has acquired legal title in satisfaction of indebtedness. Such real estate is recorded at the property's fair value at the date of foreclosure (cost). Initial valuation adjustments, if NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - -------------------------------------------------------------------------------- 37 any, are charged against the allowance for losses on loans. Property is evaluated regularly to ensure the recorded amount is supported by its current fair value. Subsequent declines in estimated fair value are charged to expense when incurred. Revenues and expenses related to holding and operating these properties are included in operations. Office Properties and Equipment Office properties and equipment are stated at cost less accumulated depreciation. Depreciation is computed on the straight-line method over the estimated useful lives of the assets. Other Intangible Assets Other intangible assets consist of core deposit intangibles from the purchase of branch locations. This amount is amortized into other expense on a straight-line basis using periods of 8 to 15 years. On a periodic basis, the Company reviews the intangible assets for events or circumstances that may indicate a change in recoverability of the underlying basis. Goodwill Goodwill resulted from the acquisition of Coal City National Bank in 1998. This amount was originally amortized into expense on a straight-line basis assuming a life of twenty years. As more fully explained in Note 2, the Company adopted Financial Accounting Standard No. 142, "Goodwill and Other Intangible Assets," and ceased amortization of the goodwill. The Company performed an initial impairment assessment as of January 1, 2002 and an annual impairment assessment as of September 30, 2002. Deferred Income Taxes Deferred income tax assets and liabilities are computed for differences between the financial statement and tax bases of assets and liabilities that will result in taxable or deductible amounts in the future based on enacted tax laws and rates applicable to the periods in which the differences are expected to affect taxable income. Deferred tax assets are also recognized for operating loss and tax credit carryforwards. Valuation allowances are established when necessary to reduce deferred tax assets to an amount expected to be realized. Income tax expense is the tax payable or refundable for the period plus or minus the change during the period in deferred tax assets and liabilities. Earnings Per Share Basic earnings per share are computed by dividing net income for the year by the average number of shares outstanding. Diluted earnings per share are determined by dividing net income for the year by the average number of shares of common stock and dilutive potential common shares outstanding. Dilutive potential common shares assume exercise of stock options and use of proceeds to purchase treasury stock at the average market price for the period. The following reflects earnings per share calculations for basic and diluted methods:
December 31, -------------------------------- 2002 2001 2000 ---------- ---------- ---------- Net income available to common stockholders $2,232,741 $3,260,982 $2,583,562 ========== ========== ========== Basic potential common shares: Weighted average shares outstanding..... 1,193,555 1,215,084 1,256,713 ---------- ---------- ---------- Basic average shares outstanding........... 1,193,555 1,215,084 1,256,713 Diluted potential common shares: Stock option equivalents................ 4,370 24,880 39,518 ---------- ---------- ---------- Diluted average shares outstanding......... 1,197,925 1,239,964 1,296,231 ========== ========== ========== Basic earnings per share................... $ 1.87 $ 2.68 $ 2.05 ========== ========== ========== Diluted earnings per share................. $ 1.86 $ 2.62 $ 1.99 ========== ========== ==========
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - -------------------------------------------------------------------------------- 38 Cash and Cash Equivalents For reporting cash flows, cash and cash equivalents represent highly liquid investments with maturities of 90 days or less at the time of purchase and includes cash on hand, due from bank accounts (including cash items in process of clearing), money market funds and federal funds sold. Trust Assets Assets of the trust department, other than trust cash on deposit at the Bank, are not included in these financial statements because they are not assets of the Bank. Stock-Based Employee Compensation The Company has one stock-based employee compensation plan which has been in existence for all periods presented, and which is more fully described in Note 12. As permitted under accounting principles generally accepted in the United States of America, grants of options under the plan are accounted for under the recognition and measurement principles of APB Opinion No. 25, Accounting for Stock Issued to Employees, and related Interpretations. Because options granted under the plan had an exercise price equal to market value of the underlying common stock on the date of the grant, no stock-based employee compensation cost is included in determining net income. The following table illustrates the effect on net income and earnings per share if the Company had applied the fair value recognition provisions of FASB Statement No. 123, Accounting for Stock-Based Compensation, to stock-based employee compensation.
2002 2001 2000 ---------- ---------- ---------- Net income, as reported..................................... $2,232,741 $3,260,982 $2,583,562 Deduct total stock-based compensation expense determined under the fair value method for all awards, net of related tax effects............................................... (5,844) (8,925) (7,593) ---------- ---------- ---------- Pro forma net income........................................ $2,226,897 $3,252,057 $2,575,969 ========== ========== ========== Earnings per share: Basic: As reported.......................................... $ 1.87 $ 2.68 $ 2.05 Pro forma............................................ 1.87 2.68 2.05 Diluted: As reported.......................................... $ 1.86 $ 2.62 $ 1.99 Pro forma............................................ 1.86 2.62 1.99
The fair value of the stock options granted in 2002, 2001 and 2000 has been estimated using the Black-Scholes option pricing model with the following weighted average assumptions. The Black-Scholes option pricing model was developed for use in estimating the fair value of traded options which have no vesting restrictions. In addition, such models require the use of subjective assumptions, including expected stock price volatility. In management's opinion, such valuation models may not necessarily provide the best single measure of option value.
2002 2001 2000 ----- ----- ----- Number of options granted...... 2,500 2,500 2,500 Risk-free interest rate........ 1.44% 3.09% 5.13% Expected life, in years........ 1.00 5.00 5.00 Expected volatility............ 25% 23% 22% Expected dividend yield........ 1.62% 1.82% 2.34% Estimated fair value per option $3.54 $5.41 $4.60
Emerging Accounting Standards Accounting for Asset Retirement Obligations In June 2001, Statement on Financial Accounting Standards No. 143, Accounting for Asset Retirement Obligations, was issued to address financial reporting and obligations associated with the retirement of tangible long-lived assets and the associated asset retirement costs. This Statement applies to all entities and to legal obligations NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - -------------------------------------------------------------------------------- 39 associated with the retirement of long-lived assets that result from the acquisition, construction, development or normal operations of a long-lived asset, except for certain obligations of lessees. Statement No. 143 is effective for financial statements issued for fiscal years beginning after June 15, 2002. The Company does not expect the adoption of Statement No. 143 to have a material impact on the consolidated financial statements. Acquisitions of Certain Financial Institutions--an Amendment of FASB Statements No. 72 and 144 and FASB Interpretation No. 9 In October 2002, Statement on Financial Accounting Standards No. 147, Acquisitions of Certain Financial Institutions--an Amendment of FASB Statements No. 72 and 144 and FASB Interpretation No. 9, was issued. FASB Statement No. 72, Accounting for Certain Acquisitions of Banking or Thrift Institutions, and FASB Interpretation No. 9, Applying APB Opinions No. 16 and 17 When a Savings and Loan Association or a Similar Institution Is Acquired in a Business Combination Accounted for by the Purchase Method, provided interpretive guidance on the application of the purchase method to acquisitions of financial institutions. Except for transactions between two or more mutual enterprises, this Statement removes acquisitions of financial institutions from the scope of both Statement 72 and Interpretation 9 and requires that those transactions be accounted for in accordance with FASB Statements No. 141, Business Combinations, and No. 142, Goodwill and Other Intangible Assets. Thus, the requirement in paragraph 5 of Statement 72 to recognize (and subsequently amortize) any excess of the fair value of liabilities assumed over the fair value of tangible and identifiable intangible assets acquired as an unidentifiable intangible asset no longer applies to acquisitions within the scope of this Statement. In addition, this Statement amends FASB Statement No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets, to include in its scope long-term customer-relationship intangible assets of financial institutions such as depositor- and borrower-relationship intangible assets and credit cardholder intangible assets. Consequently, those intangible assets are subject to the same undiscounted cash flow recoverability test and impairment loss recognition and measurement provisions that Statement 144 requires for other long-lived assets that are held and used. Paragraph 5 of this Statement, which relates to the application of the purchase method of accounting, is effective for acquisitions for which the date of acquisition is on or after October 1, 2002. The provisions in paragraph 6 related to accounting for the impairment or disposal of certain long-term customer-relationship intangible assets are effective on October 1, 2002. Transition provisions for previously recognized unidentifiable intangible assets in paragraphs 8-14 are effective on October 1, 2002, with earlier application permitted. The Company does not anticipate this statement having a significant impact upon the operations of the Company or the Bank. Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others--an interpretation of FASB Statements No. 5, 57 and 107 and rescission of FASB Interpretation No. 34 The Financial Accounting Standards Board has issued Interpretation No. 45, Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others--an interpretation of FASB Statements No. 5, 57 and 107 and rescission of FASB Interpretation No. 34. This Interpretation elaborates on the disclosures to be made by a guarantor in its interim and annual financial statements about its obligations under certain guarantees that it has issued. It also clarifies that a guarantor is required to recognize, at the inception of a guarantee, a liability for the fair value of the obligation undertaken in issuing the guarantee. Implementation of these provisions of the Interpretation is not expected to have a material impact on the Bank's financial statements. Note 2. Adoption of Statement 142 On January 1, 2002, the Company implemented Statement of Financial Accounting Standards No. 142, "Goodwill and Other Intangible Assets." Under the provisions of SFAS 142, goodwill is no longer subject to amortization over its estimated useful life, but instead will be subject to at least annual assessments for impairment by applying a fair value based test. SFAS 142 also requires that an acquired intangible asset should be separately recognized if the benefit of the intangible asset is obtained through contractual or other legal rights, or if the asset can be sold, transferred, licensed, rented or exchanged, regardless of the acquirer's intent to do so. The Company determined that no transitional impairment loss was required at January 1, 2002. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - -------------------------------------------------------------------------------- 40 Goodwill and intangible asset disclosures are as follows (in thousands):
As of December 31, 2002 --------------------------- Gross Carrying Accumulated Amount Amortization -------------- ------------ Amortized intangible assets......... $2,707,764 $1,526,552 Aggregate amortization expense: For the year ended December 31, 2002 $ 184,068 Estimated amortization expense:* For the year ended: 2003......................... $ 142,322 2004-2008.................... $ 122,272 2009......................... $ 122,275 Goodwill............................ $3,065,821
- -------- *Excludes amortization of the intangible asset, with annual amortization of approximately $48,000 for the years ended 2003 to 2006, related to the branch contracted for sale in 2002 as discussed in Note 16. Had the provisions of SFAS 142 been applied in 2001 and 2000, the Company's net income and earnings per share would have been as follows:
December 31, -------------------------------- 2002 2001 2000 ---------- ---------- ---------- Reported net income...................... $2,232,741 $3,260,982 $2,583,562 Add goodwill amortization, net of tax. -- 125,849 127,690 ---------- ---------- ---------- Adjusted net income................... $2,232,741 $3,386,831 $2,711,252 ========== ========== ========== Basic earnings per share: Reported net income................... $ 1.87 $ 2.68 $ 2.05 Goodwill amortization, net of tax..... -- 0.11 0.11 ---------- ---------- ---------- Adjusted net income................... $ 1.87 $ 2.79 $ 2.16 ========== ========== ========== Diluted earnings per share: Reported net income................... $ 1.86 $ 2.62 $ 1.99 Goodwill amortization, net of tax..... -- 0.11 0.10 ---------- ---------- ---------- Adjusted net income................... $ 1.86 $ 2.73 $ 2.09 ========== ========== ==========
Note 3. Securities Amortized costs and fair values of securities are summarized as follows:
Available-for-Sale --------------------------------------------- Gross Gross Amortized Unrealized Unrealized Cost Gains Losses Fair Value ----------- ---------- ---------- ----------- December 31, 2002 U. S. government and agency securities $42,498,673 $1,495,482 $ -- $43,994,155 Mutual fund shares.................... 478,907 -- 13,927 464,980 ----------- ---------- ------- ----------- Total investment securities........ 42,977,580 1,495,482 13,927 44,459,135 Mortgage-backed securities............ 37,189,134 995,736 5,411 38,179,459 ----------- ---------- ------- ----------- Total.............................. $80,166,714 $2,491,218 $19,338 $82,638,594 =========== ========== ======= =========== December 31, 2001 U. S. government and agency securities $33,572,272 $ 813,694 $63,825 $34,322,141 Mutual fund shares.................... 457,275 -- 24,224 433,051 ----------- ---------- ------- ----------- Total investment securities........ 34,029,547 813,694 88,049 34,755,192 Mortgage-backed securities............ 11,444,344 202,437 11,189 11,635,592 ----------- ---------- ------- ----------- Total.............................. $45,473,891 $1,016,131 $99,238 $46,390,784 =========== ========== ======= ===========
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - -------------------------------------------------------------------------------- 41
Held-to-Maturity ------------------------------------------- Gross Gross Amortized Unrealized Unrealized Cost Gains Losses Fair Value ---------- ---------- ---------- ---------- December 31, 2002 Municipal bonds........... $1,066,664 $12,957 $2,642 $1,076,979 Mortgage-backed securities 25,525 -- -- 25,525 ---------- ------- ------ ---------- Total.................. $1,092,189 $12,957 $2,642 $1,102,504 ========== ======= ====== ========== December 31, 2001 Municipal bonds........... $1,464,804 $22,141 $2,999 $1,483,946 Mortgage-backed securities 37,627 376 -- 38,003 ---------- ------- ------ ---------- Total.................. $1,502,431 $22,517 $2,999 $1,521,949 ========== ======= ====== ==========
The amortized cost and fair value of securities classified as held-to-maturity and available-for-sale at December 31, 2002, by contractual maturity, are shown below. Expected maturities may differ from contractual maturities because borrowers may have the right to prepay obligations without prepayment penalties, and certain securities require principal repayments prior to maturity. Therefore, these securities and mutual fund shares are not included in the maturity categories in the following maturity summary.
Held-to-Maturity Available-for-Sale --------------------- ----------------------- Amortized Amortized Cost Fair Value Cost Fair Value ---------- ---------- ----------- ----------- Due within 1 year............... $ 120,000 $ 120,000 $10,005,568 $10,190,720 Due after 1 year through 5 years 871,115 881,789 32,493,105 33,803,435 Due after 5 through 10 years.... 20,731 20,372 -- -- Due after 10 years.............. 54,818 54,818 -- -- Mortgage-backed securities...... 25,525 25,525 37,189,134 38,179,459 Mutual fund shares.............. -- -- 478,907 464,980 ---------- ---------- ----------- ----------- Total........................ $1,092,189 $1,102,504 $80,166,714 $82,638,594 ========== ========== =========== ===========
The Bank, as a member of the Federal Home Loan Bank of Chicago (the "FHLB"), is required to maintain an investment in capital stock of the FHLB in an amount equal to 1% of its outstanding home loans. No ready market exists for the FHLB stock, and it has no quoted market value. For disclosure purposes, such stock is assumed to have a market value which is equal to cost. U. S. government and agency securities with a carrying value of approximately $32,375,000 and $30,508,000 at December 31, 2002 and 2001, respectively, were pledged in connection with certain deposit accounts and for other purposes as required or permitted by law. Realized gains and losses were as follows:
Year Ended December 31, ----------------------- 2002 2001 2000 ---- -------- ---- Realized gains. $-- $441,120 $-- Realized losses -- (40,000) -- --- -------- --- Net gain.... $-- $401,120 $-- === ======== ===
The tax expense applicable to these net realized gains and losses amounted to $0, $136,381, and $0, respectively. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - -------------------------------------------------------------------------------- 42 Note 4. Loans Loans consisted of the following:
December 31, ------------------------- 2002 2001 ------------ ------------ Real estate mortgage loans: One-to-four family................... $228,495,051 $246,607,410 Multifamily.......................... 13,671,816 11,982,786 Commercial........................... 56,588,938 48,543,332 Construction and development......... 21,285,868 22,555,019 Consumer loans: Mobile home loans.................... 1,131,977 1,408,214 Home equity loans.................... 22,560,137 18,407,160 Credit card loans.................... 1,128,274 1,212,847 Motor vehicle loans.................. 5,350,807 7,005,889 Personal loans....................... 7,984,726 9,704,747 Loans secured by savings accounts.... 811,877 830,612 Commercial loans........................ 33,301,468 31,254,811 ------------ ------------ Gross loans............................. 392,310,939 399,512,827 Less: Unearned discounts................... 809 835 Deferred loan fees, net.............. 504,436 468,877 Undisbursed portion of loan proceeds. 1,042,751 2,671,053 Allowance for losses on loans........ 6,524,306 2,582,234 ------------ ------------ $384,238,637 $393,789,828 ============ ============
The Company's lending activities have been concentrated primarily in the market areas immediately surrounding the branch locations. The largest portion of the Company's loans are originated for the purpose of enabling borrowers to purchase residential real estate property secured by first liens on such property and generally maintain loan-to-value ratios of no greater than 80%. The Company's opinion as to the ultimate collectibility of these loans is subject to estimates regarding the future cash flows from operations and the value of property, real and personal, pledged as collateral. These estimates are affected by changing economic conditions and the economic prospects of the borrowers. The Company utilizes their data processing system to identify loan payments not made by their contractual due date and calculate the number of days each loan exceeds the contractual due dates. The accrual of interest on any loan is discontinued when, in the opinion of management, there is reasonable doubt as to the collectibility of interest or principal. Information about impaired loans and non-accrual loans as of and for the years ended December 31, 2002, 2001 and 2000 is as follows:
December 31, ------------------------------ 2002 2001 2000 ---------- -------- ---------- Impaired loans with a valuation allowance............ $4,820,000 $ -- $ -- Impaired loans without a valuation allowance......... 350,000 -- -- ---------- -------- ---------- Total impaired loans.............................. $5,170,000 $ -- $ -- ========== ======== ========== Related valuation allowance.......................... $3,162,000 $ -- $ -- Non-accrual loans, excluding impaired loans.......... $1,664,000 $730,000 $ 600,000 Loans past due ninety days or more and still accruing $3,439,000 $391,000 $1,890,000 Average monthly balance of impaired loans (based on month-end balances)...................... $3,026,800 $ -- $ -- Interest income recognized on impaired loans......... $ 69,954 $ -- $ -- Interest income recognized on a cash basis on impaired loans.................................. $ 69,954 $ -- $ --
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - -------------------------------------------------------------------------------- 43 Loans serviced by the Company for others approximated $104,764,000, $70,772,000 and $63,138,000 at December 31, 2002, 2001 and 2000. Loans serviced for others are not included in the accompanying consolidated balance sheets. Servicing loans for others generally consists of collecting mortgage payments, maintaining escrow accounts, disbursing payments to investors and foreclosure processing. Loan servicing income is recorded on the accrual basis and includes servicing fees from investors and certain charges collected from borrowers, such as late payment fees and is net of amortization of capitalized mortgage servicing rights. At December 31, 2002 and 2001, the Company had capitalized mortgage servicing rights of $556,332 and $426,330, respectively. At December 31, 2002, one-to-four family real estate mortgage loans of approximately $234,157,000 were pledged to secure advances from the Federal Home Loan Bank of Chicago. 5. Allowance for Losses on Loans Changes in the allowance for losses on loans were as follows:
Year Ended December 31, ---------------------------------- 2002 2001 2000 ---------- ---------- ---------- Balance at beginning of year. $2,582,234 $2,156,420 $2,171,040 Provision for losses on loans 3,990,033 502,500 50,000 Charge-offs.................. (80,994) (102,912) (134,718) Recoveries................... 33,033 26,226 70,098 ---------- ---------- ---------- Balance at end of year....... $6,524,306 $2,582,234 $2,156,420 ========== ========== ==========
Note 6. Office Properties and Equipment Office properties and equipment consisted of:
December 31, ----------------------- 2002 2001 ----------- ----------- Office properties: Land........................................ $ 1,870,798 $ 1,763,733 Building.................................... 8,223,437 7,225,507 Leasehold improvements...................... 462,691 444,902 Parking facilities: Land........................................ 340,862 340,862 Improvements................................ 194,937 189,572 Land acquired for future use................... 1,548,224 997,359 Furniture and equipment........................ 7,639,482 6,485,688 ----------- ----------- 20,280,431 17,447,623 Less: Accumulated depreciation and amortization 9,902,700 9,050,450 ----------- ----------- $10,377,731 $ 8,397,173 =========== ===========
Depreciation and amortization expense amounted to $893,838, $901,558 and $921,595 for the years ended December 31, 2002, 2001 and 2000, respectively. The Company leases space inside three grocery stores, which are the locations of the Bank's Braidwood and Bradley offices, and one of its Coal City offices. The leases on the Braidwood and Coal City locations expire in 2005 with options to renew for two additional periods of five years. The lease on the Bradley location expires in 2013, but the lease terms provide for early termination in either 2003 or 2008, providing certain advance notice requirements are met. The Company has provided advance notice to the lessor of the Bradley location, and the lease will terminate in the fourth quarter of 2003. The Bank's Bradley office will relocate to a new building to be built on nearby leased property. The new lease expires in 2012 with an option to renew for an additional ten-year period NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - -------------------------------------------------------------------------------- 44 The total minimum rental commitment including all option periods, at December 31, 2002, under the leases mentioned above is as follows:
Amount Year of Operation ---------- 2003.......... $ 183,404 2004.......... 145,212 2005.......... 147,938 2006.......... 151,754 2007.......... 151,754 Thereafter.... 2,090,973 ---------- $2,871,035 ==========
The total rental expense included in the income statement for the years ended December 31, 2002, 2001 and 2000 was $132,539, $84,067 and $81,449, respectively. Note 7. Deposits As of December 31, 2002, certificates of deposit had scheduled maturity dates as follows:
Amount Year of Maturity ------------ 2003......... $180,525,033 2004......... 23,935,940 2005......... 40,847,818 2006......... 5,731,853 2007......... 4,965,487 Thereafter... 45,000 ------------ $256,051,131 ============
The aggregate amount of time certificates of deposit in denominations of $100,000 or more was $40,907,051 and $34,949,941 at December 31, 2002 and 2001, respectively. Note 8. Borrowings Borrowings consist of:
December 31, ----------------------- 2002 2001 ----------- ----------- Securities sold under agreements to repurchase $27,600,000 $ -- Federal Home Loan Bank advances............... 32,100,000 30,000,000 ----------- ----------- Total......................................... $59,700,000 $30,000,000 =========== ===========
Mortgage-backed securities available-for-sale with a carrying value of approximately $30,798,000 were pledged to collateralize the repurchase agreements as of December 31, 2002. The advances from the FHLB are collateralized by one-to-four family residential mortgages. The weighted average maturity date was approximately 30 months and 54 months, respectively, and the weighted average interest rates were approximately 4.12% and 4.47%, respectively. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - -------------------------------------------------------------------------------- 45 Future payments at December 31, 2002, for all borrowings were as follows:
Amount Year Ended ----------- 2003...... $12,400,000 2004...... 17,400,000 2005...... 12,400,000 2006...... 8,200,000 2007...... 300,000 Thereafter 9,000,000 ----------- Total..... $59,700,000 ===========
Note 9. Trust Preferred Debentures In April 2002, Kankakee Bancorp, Inc. issued $10,000,000 in cumulative trust preferred securities through a newly formed special-purpose trust, Kankakee Bancorp Capital Trust I, L.P. The proceeds of the offering were invested by Kankakee Bancorp Capital Trust I in junior subordinated deferrable interest debentures of the Company. The Trust is a wholly-owned consolidated subsidiary of the Company, and its sole assets are the junior subordinated deferrable interest debentures. Distributions are cumulative and are payable quarterly at a variable rate of 3.70% over the LIBOR rate (an effective rate of 5.32% at December 31, 2002) per annum of the stated liquidation amount of $1,000 per preferred security. Interest expense on the trust preferred securities was $451,834 for the year ended December 31, 2002. The obligations of the trust are fully and unconditionally guaranteed, on a subordinated basis, by the Company. The trust preferred securities are mandatorily redeemable upon the maturity of the debentures on April 7, 2032, or to the extent of any earlier redemption of any debentures by the Company, and are callable beginning April 7, 2007. Issuance costs of $310,000 related to the trust preferred securities were deferred and are being amortized over the period until mandatory redemption of the securities in April 2032. Note 10. Income Taxes Under provisions of the Internal Revenue Code and similar sections of the Illinois income tax law that apply to tax years beginning before December 31, 1995, qualifying thrifts were allowed to claim bad debt deductions based on the greater of (1) a specified percentage of taxable income, as defined, or (2) actual loss experience. If, in the future, any of the accumulated bad debt deductions are used for any purpose other than to absorb bad debt losses, gross taxable income may result and income taxes may be payable. As of December 31, 2002, the Company had state net operating loss carryforwards of approximately $2,740,000 for income tax purposes. The difference between book and tax net operating income results from interest income from certain investments which is exempt from income tax for state income tax purposes. The net operating loss carryforwards expire through 2007. Income taxes consisted of:
Year Ended December 31, ---------------------------------- 2002 2001 2000 ----------- ---------- ---------- Current................................. $ 2,283,546 $1,616,492 $1,351,788 Deferred................................ (1,400,000) 23,858 (41,838) ----------- ---------- ---------- $ 883,546 $1,640,350 $1,309,950 =========== ========== ==========
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - -------------------------------------------------------------------------------- 46 The Company's income tax expense differed from the maximum statutory federal rate of 35% as follows:
Year Ended December 31, ---------------------------------- 2002 2001 2000 ---------- ---------- ---------- Expected income taxes...................... $1,090,700 $1,715,466 $1,362,729 Income tax effect of: State income tax (carryforward), net of federal benefit....................... (180,115) (149,305) (174,254) Income taxed at lower rate.............. (31,163) (49,013) (38,935) Bank owned life insurance............... (122,233) -- -- Tax exempt interest, net................ (105,617) (106,178) (58,402) Utilization of (addition to) state net operating loss carryforwards.......... 180,115 149,305 174,254 Other................................... 51,859 80,075 44,558 ---------- ---------- ---------- $ 883,546 $1,640,350 $1,309,950 ========== ========== ==========
Significant components of the deferred tax liabilities and assets were as follows:
December 31, ------------------------ 2002 2001 ----------- ----------- Deferred tax assets: Allowance for losses on loans................................. $ 2,218,264 $ 877,959 State net operating loss carryforwards........................ 129,855 309,970 Accrued benefits.............................................. 139,855 136,680 OREO.......................................................... 107,497 141,342 Premises and equipment........................................ 84,939 62,949 Other......................................................... 209,882 5,765 ----------- ----------- Total deferred tax assets................................. 2,890,292 1,534,665 Valuation allowance for deferred tax assets................... 129,855 309,970 ----------- ----------- Total deferred tax assets, net of valuation allowance..... 2,760,437 1,224,695 ----------- ----------- Deferred tax liabilities: Unrealized gain in assets available-for-sale.................. (840,532) (311,815) Loan fees deferred for income tax purposes.................... (26,719) (38,292) Stock dividend on FHLB stock.................................. (198,207) (148,884) Loan costs deferred for book purposes......................... (349,556) (346,168) Mortgage servicing rights..................................... (189,153) (146,108) Intangible assets............................................. (94,828) (12,982) Prepaid expense............................................... (79,751) (109,635) Other......................................................... (10,786) (11,189) ----------- ----------- Total deferred tax liabilities............................ (1,789,532) (1,125,073) ----------- ----------- Net deferred tax assets.......................................... $ 970,905 $ 99,622 =========== ===========
Retained earnings at December 31, 2002 and 2001 included approximately $8,998,000 of the tax reserve which accumulated prior to 1988, for which no deferred income tax liability has been recognized. This amount represents an allocation of income to bad debt deductions for tax purposes only. Reduction of amounts so allocated for purposes other than tax bad debt losses or adjustments arising from carryback of net operating losses would create income for tax purposes only, which would be subject to the then-current corporate income tax rate. The unrecorded deferred income tax liability on the above amounts was approximately $3,059,000 as of December 31, 2002 and 2001. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - -------------------------------------------------------------------------------- 47 Note 11. Stockholders' Equity and Regulatory Capital 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 Bank'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 assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The Bank's capital amounts and classifications are also subject to qualitative judgments by the 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 by the regulations) to tangible assets (as defined) and Total and Tier I capital (as defined) to risk-weighted assets (as defined). Management believes, as of December 31, 2002, that the Bank meets all capital adequacy requirements to which it is subject. As of December 31, 2002, the most recent notification from the Office of Thrift Supervision (the "OTS"), 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 I risk-based and Tier I leverage ratios as set forth in the table below. There are no conditions or events since that notification that management believes have changed the Bank's category.
To be Well Capitalized Under For Capital Prompt Corrective Actual Adequacy Purposes Action Provisions ------------- ---------------- ---------------- Amount Ratio Amount Ratio Amount Ratio ------- ----- ------- ----- ------- ----- (Dollars in thousands) As of December 31, 2002 Tangible Capital to Tangible Assets KFS Bank, F.S.B...................... $35,726 6.73% $ 7,961 1.50% N/A Core Capital to Tangible Assets KFS Bank, F.S.B...................... 35,726 6.73% 21,230 4.00% $26,537 5.00% Tier I Capital to Risk Weighted Assets KFS Bank, F.S.B...................... 35,726 10.57% N/A 20,280 6.00% Total Capital to Risk Weighted Assets KFS Bank, F.S.B...................... 38,785 11.47% 27,040 8.00% 33,800 10.00% As of December 31, 2001 Tangible Capital to Tangible Assets KFS Bank, F.S.B...................... 33,522 6.94% 7,248 1.50% N/A Core Capital to Tangible Assets KFS Bank, F.S.B...................... 33,522 6.94% 19,328 4.00% 24,160 5.00% Tier I Capital to Risk Weighted Assets KFS Bank, F.S.B...................... 33,522 10.32% N/A 19,497 6.00% Total Capital to Risk Weighted Assets KFS Bank, F.S.B...................... 36,080 11.10% 25,996 8.00% 32,496 10.00%
A liquidation account in the amount of $17,720,139 was established for the benefit of eligible deposit account holders who continue to maintain their deposit accounts in the Bank after the December 30, 1992 conversion from a mutual savings and loan association to a stock savings bank. In the unlikely event of a complete liquidation of the Bank, each eligible deposit account holder would be entitled to receive a liquidation distribution from the liquidation account, in the proportionate amount of the then-current adjusted balance for deposit accounts held, before any distribution may be made with respect to the Bank's capital stock. The Bank may not declare or pay a cash dividend to the Company on, or repurchase any of, its capital stock if the effect thereof would cause the net worth of the Bank NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - -------------------------------------------------------------------------------- 48 to be reduced below the amount required for the liquidation account. Due to various natural events, such as death, relocation and general attrition of accounts, the balance in the liquidation account has been reduced to $1,466,071 as of December 31, 2002. The OTS capital distribution regulations restrict the Bank's cash dividend payments or other capital distributions. The OTS regulations generally provide that an institution can make capital distributions during a calendar year up to 100% of its net income to date during the calendar year plus the amount that would reduce by one-half the excess capital over fully phased-in capital requirements at the beginning of the calendar year. Any additional capital distributions would also require prior notice to the OTS. The Company is not subject to these regulatory restrictions on the payment of dividends to its stockholders; however, the ability of the Company to pay future dividends will depend on dividends from the Bank. Note 12. Officer, Director and Employee Plans Money Purchase Pension Plan and Trust The Bank sponsored a Money Purchase Pension Plan and Trust (the "Money Purchase Plan") for the benefit of its employees meeting certain age and service requirements. The Bank contributed to the Money Purchase Plan on behalf of each Participant an amount equal to 7% of the Participant's compensation, as defined by the Money Purchase Plan. Expense related to the Money Purchase Plan amounted to approximately $309,000 and $254,000, for the years ended December 31, 2001 and 2000, respectively. On January 1, 2002, the Money Purchase Plan was merged into the 401(k) Savings Plan, where it retained its identity as a separate part of the 401(k) Plan. The Bank contributed $301,000 for the year ended December 31, 2002, representing 7% of each Participant's compensation as defined by the plan. 401(k) Savings Plan The Bank sponsors a qualified, tax-exempt pension plan qualifying under section 401(k) of the Internal Revenue Code (the "401(k) Plan"). Virtually all employees are eligible to participate after meeting certain age and service requirements. Eligible employees are permitted to contribute 1% to 10% of their compensation to the 401(k) Plan. Expense related to the 401(k) Plan, including plan administration, amounted to approximately $17,400, $15,300 and $19,600, for the years ended December 31, 2002, 2001 and 2000, respectively. Employee Stock Ownership Plan The Kankakee Bancorp, Inc. Employee Stock Ownership Plan (the "ESOP") covers all full time employees who have completed twelve months of service and have attained the minimum age of twenty-one. A participant is 100 percent vested after seven years of credited service. During 2002, the Company made a direct cash contribution totaling $120,000 to the ESOP. The trust used the contribution to acquire Company stock in the open market, and the acquired shares were allocated to the participants at the end of the plan year. The contribution amount for 2003 and future years will be determined annually by the Board of Directors. Shares allocated to participants totaled 99,187, 99,920 and 106,081 at December 31, 2002, 2001 and 2000. There were no unallocated shares during this time period. Prior to 2001, the ESOP operated as a leveraged employee stock ownership plan. The ESOP borrowed from the Company to purchase the shares of common stock. The shares were held in trust and allocated to participants' accounts in the ESOP as the loan obligation was repaid. The loan obligation was considered unearned employee compensation and was recorded as a reduction of stockholders' equity, while the loan was outstanding. The final loan payment was made in December 2000. The Bank made discretionary cash contributions to the ESOP which, along with dividend payments, were sufficient to service the principal payments plus interest at 7 percent over the eight year loan term. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - -------------------------------------------------------------------------------- 49 Interest expense recognized by the ESOP was $7,939 for the year ended December 31, 2000. The Bank contributed $151,698 to the ESOP to fund principal and interest payments for the year ended December 31, 2000. The Board of Directors of the Company may direct payment of dividends with respect to shares allocated to the participants to be paid in cash to the participants. Dividends on unallocated shares were used to make payments on the loan. All shares of stock owned by the ESOP are considered outstanding and included in the weighted average shares outstanding for calculating earnings per share. Stock Option Plan In 1992, the Company adopted an incentive stock option plan for the benefit of directors, officers, and employees of the Company or the Bank (the "Stock Option Plan"). The number of shares of common stock authorized under the Stock Option Plan is 175,000. The option exercise price of an incentive stock option must be at least equal to the fair market value per share of the common stock on the date of grant. The Stock Option Plan also provides for the issuance of nonqualified stock options, restricted stock and stock appreciation rights and limited stock appreciation rights. Activity in the Stock Option Plan was as follows:
2002 2001 2000 ------------------ ------------------ ------------------ Weighted- Weighted- Weighted- Average Average Average Exercise Exercise Exercise Shares Price Shares Price Shares Price Fixed Options ------- --------- ------- --------- ------- --------- Outstanding at beginning of year 35,385 $11.717 50,335 $10.350 115,610 $ 9.960 Granted......................... 2,500 37.150 2,500 26.390 2,500 20.500 Exercised....................... (33,135) 11.121 (17,450) 9.875 (66,025) 9.915 Forfeited....................... -- -- -- -- (1,750) 15.500 ------- ------- ------- Outstanding at end of year...... 4,750 29.263 35,385 11.717 50,335 10.350 ======= ======= ======= Options exercisable at year-end. 4,750 35,385 50,335 ======= ======= ======= Weighted-average fair value of options granted during the year.......................... 3.54 5.41 4.60 ======= ======= =======
Stockholders' Rights Plan On May 14, 1999, the Company's Board of Directors adopted a Stockholders' Rights Plan. The Plan provided for the distribution of one Right on June 15, 1999, for each share of the Company's outstanding common stock as of May 24, 1999. The Rights have no immediate economic value to stockholders because they cannot be exercised unless and until a person, group or entity acquires 15% or more of the Company's common stock or announces a tender offer. The Plan also permits the Company's Board of Directors to redeem each Right for one cent under various circumstances. In general, the Rights Plan provides that if a person, group or entity acquires a 15% or larger stake in the Company or announces a tender offer, and the Company's Board chooses not to redeem the Rights, all holders of Rights, other than the 15% stockholder or the tender offeror, will be able to purchase a certain amount of the Company's common stock for half of its market price. Note 13. Commitments and Contingencies In the normal course of business, there are outstanding various contingent liabilities such as claims and legal action, which are not reflected in the consolidated financial statements. In the opinion of management, the ultimate resolution of these matters is not expected to have a material effect on the financial position or on the results of operations of the Company and its subsidiary. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - -------------------------------------------------------------------------------- 50 Note 14. Financial Instruments The Bank is party to financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit, standby letters of credit, and financial guarantees. Those instruments involve, to varying degrees, elements of credit and interest rate risk. The contract or notional amounts of those instruments reflect the extent of involvement the Bank has in particular classes of financial instruments. The Bank's exposure to credit loss, in the event of nonperformance by the other party to the financial instruments for commitments to extend credit and standby letters of credit, is represented by the contractual notional amount of those instruments. The Bank uses the same credit policies in making commitments and conditional obligations as it does for on-balance-sheet instruments. Financial instruments whose contract amount represent credit risk follows:
December 31, ----------------------- 2002 2001 ----------- ----------- Commitments to originate new loans $19,100,000 $34,672,000 Commitments to extend credit...... 31,106,000 23,792,000 Standby letters of credit......... 1,228,000 1,712,000
Such commitments are recorded in the financial statements when they are funded or related fees are incurred or received. These commitments are principally at variable interest rates. Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. Standby letters of credit written are conditional commitments issued by the bank to guarantee the performance of a customer to a third party. Those guarantees are primarily issued to support public and private borrowing arrangements, including commercial paper, bond financing, and similar transactions. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. In the event the customer does not perform in accordance with the terms of the agreement with the third party, the Bank would be required to fund the commitment. The maximum potential amount of future payments the Bank could be required to make is represented by the contractual amount shown in the summary above. If the commitment is funded, the Bank would be entitled to seek recovery from the customer. At December 31, 2002 and 2001, no amounts have been recorded as liabilities for the Bank's potential obligations under these guarantees. The Company and the Bank do not engage in the use of interest rate swaps, futures, forwards, or option contracts. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - -------------------------------------------------------------------------------- 51 Note 15. Fair Value of Financial Instruments The following table reflects a comparison of carrying amounts and the fair values of the financial instruments:
December 31 --------------------------------------------------- 2002 2001 ------------------------- ------------------------- Carrying Carrying Amount Fair Value Amount Fair Value ------------ ------------ ------------ ------------ Assets: Cash and cash equivalents... $ 47,425,956 $ 47,425,956 $ 26,662,714 $ 26,662,714 Certificates of Deposit..... 50,000 50,000 50,000 50,000 Investment and mortgage- backed securities......... 83,730,783 83,741,098 47,893,215 47,912,733 Loans, gross................ 390,762,943 395,142,336 396,372,062 397,542,235 Loans held for sale......... 128,000 130,225 828,610 832,268 FHLB stock.................. 2,740,500 2,740,500 2,443,300 2,443,300 Accrued interest receivable. 2,795,701 2,795,701 2,823,090 2,823,090 Liabilities: Deposits.................... $432,031,608 $436,033,508 $415,466,836 $420,301,232 Borrowed funds.............. 59,700,000 62,219,740 30,000,000 29,204,398 Trust preferred debentures.. 10,000,000 10,000,000 -- -- Advance payments by borrowers for taxes and insurance................. 1,751,128 1,751,128 1,905,766 1,905,766 Accrued interest payable-- borrowed funds and trust preferred debentures...... 254,361 254,361 115,582 115,582
The fair values utilized in the table were derived using the information described below for the group of instruments listed. It should be noted that the fair values disclosed in this table do not represent market values of all assets and liabilities of the Company and, thus, should not be interpreted to represent a market or liquidation value for the Company. The following methods and assumptions were used by the Bank in estimating the fair value disclosures for financial instruments: Cash and cash equivalents and certificates of deposit: The carrying amounts reported in the balance sheet for cash and short-term instruments approximate those assets' fair values. Investment and mortgage-backed securities: Fair values for securities are based on quoted market prices, where available. If quoted market prices are not available, fair values are based on quoted market prices of comparable instruments. The carrying amounts of accrued interest approximate their fair values. Nonmarketable equity securities and FHLB stock: Those securities are carried at cost, as fair values are not readily determinable. Loans: For variable-rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying values. The fair values for fixed-rate loans are estimated using discounted cash flow analyses using interest rates currently being offered for loans with similar terms to borrowers of similar credit quality. The carrying amounts of accrued interest approximate their fair value. Loans held for sale: Fair values are based on quoted market price. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - -------------------------------------------------------------------------------- 52 Off-balance-sheet instruments: Fair values for the Bank's off-balance-sheet Instruments (guarantees and loan commitments) are based on fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the counterparties' credit standing. The fair value for such commitments is nominal. Deposits: The fair values disclosed for demand deposits are, by definition, equal to the amount payable on demand at the balance sheet date. The carrying amounts for variable-rate, fixed-term money market accounts approximate their fair values at the balance sheet date. Fair values for fixed-rate certificates of deposit are estimated using a discounted cash flow calculation that applies interest rates currently being offered on certificates to a schedule of aggregated expected monthly maturities on time deposits. The carrying amounts of accrued interest payable, which is included in the deposit amount, and advance payments by borrowers for taxes and insurance approximates their fair value. Borrowed funds: Rates currently available to the Company for debt with similar terms and remaining maturities are used to estimate fair value of existing debt. The Trust Preferred Debentures are privately held, therefore the carrying amount approximates fair value. Accrued interest payable: The carrying amounts of accrued interest payable on borrowings and trust preferred debentures approximate their fair value. Note 16. Sale of Branch On October 10, 2002, the Company signed an agreement to sell their Hoopeston bank branch at a premium. At December 31, 2002, the branch had approximately $6.6 million in loans and $19.9 million in deposits. The transaction, which was completed on February 14, 2003, resulted in a net gain of approximately $460,000, which will be included in the Company's 2003 operating results. Note 17. Subsequent Event On February 24, 2003, the Company purchased 174,270 shares of stock from existing stockholders for a total cost of $6,982,999. As a result, purchases of treasury stock for the period of January 1, 2003 to February 24, 2003 totaled 193,270 shares at a total cost of $7,737,244. Note 18. Condensed Parent Company Only Financial Statements
December 31, -------------------------- 2002 2001 ------------ ------------ Statements of financial condition Assets: Cash and cash equivalents................. $ 8,727,801 $ 1,104,576 Certificate of deposit.................... 50,000 50,000 Investment securities, available-for-sale. 464,980 433,051 Equity in net assets of KFS Bank, F.S.B... 41,613,916 39,417,652 Investment in Kankakee Capital Trust I.... 310,000 -- Other assets.............................. 538,011 273,908 ------------ ------------ $ 51,704,708 $ 41,279,187 ============ ============ Liabilities and stockholders' equity: Trust preferred debentures................ $ 10,000,000 $ -- Other liabilities......................... 598,049 88,287 Common stock.............................. 17,500 17,500 Additional paid-in capital................ 15,039,598 15,226,853 Retained income........................... 38,517,217 36,964,331 Accumulated comprehensive income.......... 1,631,348 605,078 Treasury stock............................ (14,099,004) (11,622,862) ------------ ------------ $ 51,704,708 $ 41,279,187 ============ ============
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - -------------------------------------------------------------------------------- 53
Years Ended December 31, ------------------------------------- 2002 2001 2000 ----------- ----------- ----------- Statements of income Dividends from subsidiary................................. $ 1,874,497 $ 1,714,888 $ 1,300,989 Interest income........................................... 141,172 53,630 110,498 ----------- ----------- ----------- Operating income....................................... 2,015,669 1,768,518 1,411,487 ----------- ----------- ----------- Equity in undistributed earnings of Kankakee Federal Savings Bank.................................... 1,176,736 1,821,132 1,487,864 Other noninterest income.................................. 253 -- 6,388 ----------- ----------- ----------- Total other income..................................... 1,176,989 1,821,132 1,494,252 Interest expense.......................................... 451,834 -- -- Other expenses............................................ 985,737 470,318 427,927 ----------- ----------- ----------- Income before income tax benefit....................... 1,755,087 3,119,332 2,477,812 Income tax benefit........................................ 477,654 141,650 105,750 ----------- ----------- ----------- Net income............................................. $ 2,232,741 $ 3,260,982 $ 2,583,562 =========== =========== =========== Years Ended December 31, ------------------------------------- 2002 2001 2000 ----------- ----------- ----------- Statements of cash flows Operating activities: Net income............................................. $ 2,232,741 $ 3,260,982 $ 2,583,562 Adjustments to reconcile net income to net cash provided by operating activities: Equity in undistributed earnings of Kankakee Federal Savings Bank.................... (1,176,736) (1,821,132) (1,487,864) Other.............................................. (67,815) (88,715) 22,999 ----------- ----------- ----------- Net cash provided by operating activities.................................... 988,190 1,351,135 1,118,697 ----------- ----------- ----------- Investing activities: Available-for-sale investment and mortgage backed securities:.......................................... Purchase........................................... (21,713) (24,300) (23,854) ----------- ----------- ----------- Net cash (used in) investing activities......... (21,713) (24,300) (23,854) ----------- ----------- ----------- Financing activities: Principal collected on ESOP loan....................... -- -- 151,211 Purchase of treasury stock............................. (3,202,133) (1,543,360) (1,023,572) Dividends paid to stockholders......................... (679,855) (582,611) (607,027) Proceeds from issuance of trust preferred debentures 10,000,000 -- -- Proceeds from exercise of stock options................ 538,736 277,637 725,795 ----------- ----------- ----------- Net cash provided by (used in) financing activities.................................... 6,656,748 (1,848,334) (753,593) ----------- ----------- ----------- Increase (decrease) in cash and cash equivalents.......... 7,623,225 (521,499) 341,250 Cash and cash equivalents: Beginning of period.................................... 1,104,576 1,626,075 1,284,825 ----------- ----------- ----------- End of period.......................................... $ 8,727,801 $ 1,104,576 $ 1,626,075 =========== =========== ===========
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - -------------------------------------------------------------------------------- 54 Note 19. Quarterly Results of Operations (Unaudited)
Year Ended December 31, 2002 ---------------------------------------------- Three Months Ended December 31 September 30 June 30 March 31 ----------- ------------ ---------- ---------- Interest income............................ $7,899,153 $ 8,118,907 $8,316,556 $7,779,772 Interest expense........................... 3,852,476 4,062,755 4,238,416 3,933,070 ---------- ----------- ---------- ---------- Net interest income..................... 4,046,677 4,056,152 4,078,140 3,846,702 Provision for losses on loans.............. 234,413 3,143,700 463,952 147,968 ---------- ----------- ---------- ---------- Net interest income after provision for losses on loans....................... 3,812,264 912,452 3,614,188 3,698,734 Other income............................... 1,397,464 1,081,245 1,113,959 959,461 Other expense.............................. 3,478,706 3,238,743 3,375,869 3,380,162 ---------- ----------- ---------- ---------- Income (loss) before income taxes....... 1,731,022 (1,245,046) 1,352,278 1,278,033 Income taxes............................... 541,100 (456,250) 413,850 384,846 ---------- ----------- ---------- ---------- Net income (loss)....................... $1,189,922 $ (788,796) $ 938,428 $ 893,187 ========== =========== ========== ========== Basic earnings (loss) per share............ $ 1.02 $ (0.67) $ 0.78 $ 0.73 ========== =========== ========== ========== Diluted earnings (loss) per share.......... $ 1.02 $ (0.67) $ 0.77 $ 0.72 ========== =========== ========== ========== Year Ended December 31, 2001 ---------------------------------------------- December 31 September 30 June 30 March 31 ----------- ------------ ---------- ---------- Interest income............................ $8,093,804 $ 8,212,360 $8,257,817 $8,194,740 Interest expense........................... 4,359,799 4,666,657 4,852,741 4,849,456 ---------- ----------- ---------- ---------- Net interest income..................... 3,734,005 3,545,703 3,405,076 3,345,284 Provision for losses on loans.............. 308,500 139,000 40,000 15,000 ---------- ----------- ---------- ---------- Net interest income after provision for losses on loans......... 3,425,505 3,406,703 3,365,076 3,330,284 Other income............................... 974,804 1,242,460 789,422 597,565 Other expense.............................. 3,082,929 3,116,248 3,051,764 2,979,546 ---------- ----------- ---------- ---------- Income before income taxes.............. 1,317,380 1,532,915 1,102,734 948,303 Income taxes............................... 441,200 512,700 369,150 317,300 ---------- ----------- ---------- ---------- Net income.............................. $ 876,180 $ 1,020,215 $ 733,584 $ 631,003 ========== =========== ========== ========== Basic earnings per share................... $ 0.72 $ 0.84 $ 0.61 $ 0.51 ========== =========== ========== ========== Diluted earnings per share................. $ 0.71 $ 0.82 $ 0.59 $ 0.50 ========== =========== ========== ==========
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - -------------------------------------------------------------------------------- 55 EX-21 4 dex21.txt SUBSIDIARIES OF THE REGISTRANT Exhibit 21 SUBSIDIARIES OF THE REGISTRANT KFS Bank, F.S.B., a federally chartered savings bank KFS Service Corporation, an Illinois corporation KFS Insurance Agency, Inc., an Illinois corporation EX-23 5 dex23.txt CONSENT OF INDEPENDENT AUDITOR EXHIBIT 23 CONSENT OF INDEPENDENT AUDITOR'S We consent to the incorporation by reference in the Registration Statement (Form S-1 No. 33-51950) pertaining to the l992 Stock Option and Incentive Plan of Kankakee Bancorp, Inc. and the Kankakee Federal Amended and Restated 401 (K) Savings Plan, of our report dated February 6, 2003, with respect to the consolidated financial statements of Kankakee Bancorp, Inc. incorporated by reference in the Annual Report (Form 10-K) for the year ended December 31, 2002. /s/ McGladrey & Pullen, LLP Champaign, Illinois March 26, 2003 EX-99.1 6 dex991.txt CERTIFICATION OF CHIEF EXECUTIVE OFFICER Exhibit 99.1 CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 In connection with the annual report of Kankakee Bancorp, Inc. (the "Company") on Form 10-K for the period ending December 31, 2002 as filed with the Securities and Exchange Commission on the date hereof (the "Report), I, Larry D. Huffman, Chief Executive Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that: (1) The Report fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (2) The information contained in the Report fairly presents, in all material respects, the financial condition and result of operations of the Company. /s/ Larry D. Huffman - ----------------------- Larry D. Huffman, Chief Executive Officer March 26, 2003 EX-99.2 7 dex992.txt CERTIFICATION OF PRINCIPAL FINANCIAL OFFICER Exhibit 99.2 CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 In connection with the annual report of Kankakee Bancorp, Inc (the "Company") on Form 10-K for the period ending December 31, 2002 as filed with the Securities and Exchange Commission on the date hereof (the "Report), I, Ronald J. Walters, Principal Financial Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that: (1) The Report fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (2) The information contained in the Report fairly presents, in all material respects, the financial condition and result of operations of the Company. /s/ Ronald J. Walters - --------------------------- Ronald J. Walters, Principal Financial Officer March 26, 2003 -----END PRIVACY-ENHANCED MESSAGE-----