-----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, FULuECKQQAx7gSXZ18grvgvRzxiHULYUsdRGeQkXRI+opT2d/bROT8qcCaX7uq3b LIBvfO5aMwpr+2QUh/cfKQ== 0000891554-98-000324.txt : 19980401 0000891554-98-000324.hdr.sgml : 19980401 ACCESSION NUMBER: 0000891554-98-000324 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 6 CONFORMED PERIOD OF REPORT: 19971231 FILED AS OF DATE: 19980331 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: FLUSHING FINANCIAL CORP CENTRAL INDEX KEY: 0000923139 STANDARD INDUSTRIAL CLASSIFICATION: SAVINGS INSTITUTION, FEDERALLY CHARTERED [6035] IRS NUMBER: 113209278 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 000-24272 FILM NUMBER: 98581104 BUSINESS ADDRESS: STREET 1: 144-51 NORTHERN BLVD CITY: FLUSHING STATE: NY ZIP: 11354 BUSINESS PHONE: 7189615400 10-K 1 FORM 10-K UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-K ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended DECEMBER 31, 1997 Commission file number 000-24272 FLUSHING FINANCIAL CORPORATION (Exact name of registrant as specified in its charter) DELAWARE 11-3209278 (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 144-51 NORTHERN BOULEVARD, FLUSHING, NEW YORK 11354 (Address of principal executive offices) (718) 961-5400 (Registrant's telephone number, including area code) Securities registered pursuant to Section 12(b) of the Act: NONE. Securities registered pursuant to Section 12(g) of the Act: COMMON STOCK $0.01 PAR VALUE. Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. X Yes No --- --- Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (ss.229.405 of thiS chapter) is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [X] As of January 31, 1998, the aggregate market value of the voting stock held by non-affiliates of the registrant was $165,089,000. This figure is based on the closing price on the Nasdaq National Market for a share of the registrant's Common Stock, $0.01 par value, on January 30 1998, the last trading date in January 1998, which was $22.938. The number of shares of the registrant's Common Stock outstanding as of January 31, 1998 was 7,826,120 shares. DOCUMENTS INCORPORATED BY REFERENCE Portions of the Company's Annual Report to Stockholders for the year ended December 31, 1997 are incorporated herein by reference in Part II, and portions of the Company's definitive Proxy Statement for the Annual Meeting of Stockholders to be held on May 20, 1998 are incorporated herein by reference in Part III. TABLE OF CONTENTS PAGE ---- PART I Item 1. Business....................................................... 1 General ....................................................... 1 Market Area and Competition.................................... 2 Lending Activities............................................. 3 Loan Portfolio Composition................................. 3 Loan Maturity and Repricing................................ 7 One-to-Four Family Mortgage Lending........................ 7 Home Equity Loans.......................................... 9 Multi-Family Lending....................................... 9 Commercial Real Estate Lending............................. 10 Construction Loans......................................... 10 Small Business Administration Lending...................... 11 Consumer and Other Lending................................. 11 Loan Approval Procedures and Authority..................... 11 Loan Concentrations........................................ 12 Loan Servicing............................................. 12 Asset Quality.................................................. 12 Loan Collection............................................ 12 Delinquent Loans and Non-performing Assets................. 14 REO........................................................ 15 Classified and Special Mention Assets...................... 16 Allowance for Loan Losses...................................... 17 Investment Activities.......................................... 21 General.................................................... 21 Mortgage-backed securities................................. 22 Sources of Funds............................................... 25 General.................................................... 25 Deposits................................................... 25 Borrowings................................................. 28 Subsidiary Activities.......................................... 29 Personnel...................................................... 30 RISK FACTORS Effect of Interest Rates....................................... 31 Lending Activities............................................. 31 Local Economic Conditions...................................... 32 Pending Legislation............................................ 32 Legislation and Proposed Changes............................... 33 Certain Anti-Takeover Provisions............................... 33 FEDERAL, STATE AND LOCAL TAXATION Federal Taxation............................................... 34 General.................................................... 34 (i) TABLE OF CONTENTS (CONTINUED) PAGE ---- Bad Debt Reserves.......................................... 34 Distributions.............................................. 35 Corporate Alternative Minimum Tax.......................... 35 State and Local Taxation....................................... 35 New York State and New York City Taxation.................. 35 REGULATION General........................................................ 37 Investment Powers.............................................. 37 Real Estate Lending Standards.................................. 38 Loans-to-One Borrower Limits................................... 38 Insurance of Accounts.......................................... 38 Liquidity Requirements......................................... 40 Qualified Thrift Lender Test................................... 40 Transactions with Affiliates................................... 41 Restrictions on Dividends and Capital Distributions............ 41 Restrictions on Stock Repurchases.............................. 42 Federal Home Loan Bank System.................................. 43 Assessments.................................................... 43 Branching...................................................... 43 Community Reinvestment......................................... 43 Year 2000 Compliance........................................... 44 Brokered Deposits.............................................. 44 Capital Requirements........................................... 44 General.................................................... 44 Tangible Capital Requirement............................... 45 Core Capital Requirement................................... 45 Risk-Based Requirement..................................... 45 Federal Reserve System......................................... 46 Financial Reporting............................................ 46 Standards for Safety and Soundness............................. 46 Prompt Corrective Action....................................... 47 Pending Legislation............................................ 47 Company Regulation............................................. 48 Federal Securities Laws........................................ 49 Item 2. Properties..................................................... 50 Item 3. Legal Proceedings.............................................. 50 Item 4. Submission of Matters to a Vote of Security Holders............ 50 PART II Item 5. Market for the Registrant's Common Stock and Related Stockholder Matters............................................ 51 Item 6. Selected Financial Data........................................ 51 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations............................ 51 Item 7A. Quantitative and Qualitative Disclosures About Market Risk.................................................... 52 Item 8. Financial Statements and Supplementary Data.................... 52 (ii) TABLE OF CONTENTS (CONTINUED) PAGE ---- Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure......................... 52 PART III Item 10. Directors and Executive Officers of the Registrant............. 53 Item 11. Executive Compensation......................................... 53 Item 12. Security Ownership of Certain Beneficial Owners and Management................................................. 53 Item 13. Certain Relationships and Related Transactions................. 53 PART IV Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K.................................................... 54 (a) 1. Financial Statements.................................... 54 2. Financial Statement Schedules........................... 54 (b) Reports on Form 8-K filed during the last quarter of fiscal 1997............................................. 54 (c) Exhibits Required by Securities and Exchange Commission Regulation S-K.................................. 54 SIGNATURES POWER OF ATTORNEY (iii) PART I Statements contained in this Annual Report on Form 10-K relating to plans, strategies, economic performance and trends and other statements that are not descriptions of historical facts may be forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Forward looking information is inherently subject to risks and uncertainties, and actual results could differ materially from those currently anticipated due to a number of factors, which include, but are not limited to, factors discussed under the captions "Business--General", "Business--Market Area anD Competition" and "Risk Factors" below, and elsewhere in this Form 10-K and in other documents filed by the Company with the Securities and Exchange Commission from time to time. The Company has no obligation to update these forward-looking statements ITEM 1. BUSINESS. - -------------------- GENERAL Flushing Financial Corporation (the "Company") is a Delaware corporation organized in May 1994, at the direction of the Board of Trustees of Flushing Savings Bank, FSB (the "Bank") for the purpose of acquiring and holding all of the outstanding capital stock of the Bank issued upon its conversion from a federal mutual savings bank to a federal stock savings bank (the "Conversion"). The Conversion was completed on November 21, 1995. In connection with the Conversion, the Company issued 8,625,000 shares of common stock at a price of $11.50 per share to the Bank's eligible depositors who subscribed for shares, and to an employee benefit trust established by the Company for the purpose of holding shares for allocation or distribution under certain employee benefit plans of the Company and the Bank (the "Employee Benefit Trust"). The Company realized net proceeds of $96.5 million from the sale of its common stock and utilized approximately $48.3 million of such proceeds to purchase 100% of the issued and outstanding shares of the Bank's common stock. Flushing Financial Corporation's common stock is traded on the Nasdaq National Market under the symbol "FFIC". The primary business of the Company is the operation of its wholly-owned subsidiary, the Bank. In addition to directing, planning and coordinating the business activities of the Bank, the Company invests primarily in U.S. government and federal agency securities, federal funds, mortgage-backed securities, and investment grade corporate obligations. The Company also holds a note evidencing a loan that it made to the Employee Benefit Trust to enable the Employee Benefit Trust to acquire 690,000 shares, or 8% of the common stock issued in the Conversion. The Company has in the past increased growth through acquisition of financial institutions and branches of other financial institutions, and will pursue growth through acquisitions that are, or are expected to be within a reasonable time-frame, accretive to earnings, as opportunities arise. The Company may also organize or acquire, through merger or otherwise, other financial services related companies. The activities of the Company are funded by that portion of the proceeds of the sale of common stock in the Conversion that the Company was permitted by the Office of Thrift Supervision ("OTS") to retain, and earnings thereon, and by dividends, if any, received from the Bank. The Company is a unitary savings and loan holding company, which, under existing laws, is generally not restricted as to the types of business activities in which it may engage, provided that the Bank continues to be a qualified thrift lender. Under regulations of the OTS the Bank is a qualified thrift lender if its ratio of qualified thrift investments to portfolio assets ("QTL Ratio") is 65% or more, on a monthly average basis in nine of every 12 months. At December 31, 1997, the Bank's QTL Ratio was 92.20%, and the Bank had maintained more than 65% of its "portfolio assets" in qualified thrift investments in at least nine of the preceding 12 months. See "Regulation--Qualified Thrift Lender Test" and "Regulation--Company Regulation." 1 The Company neither owns nor leases any property but instead uses the premises and equipment of the Bank. At the present time, the Company does not employ any persons other than certain officers of the Bank who do not receive any extra compensation as officers of the Company. The Company utilizes the support staff of the Bank from time to time, as needed. Additional employees may be hired as deemed appropriate by the management of the Company. Unless otherwise disclosed, the information presented in the financial statements and this Form 10-K reflect the financial condition and results of operations of the Company and the Bank on a consolidated basis. At December 31, 1997 the Company had total assets of $1.1 billion. The Bank's principal business is attracting retail deposits from the general public and investing those deposits together with funds generated from operations, primarily in (i) originations and purchases of multi-family income-producing property loans, commercial real estate loans and one-to-four-family residential mortgage loans; (ii) mortgage loan surrogates such as mortgage-backed securities; and (iii) U.S. government and federal agency securities, corporate fixed-income securities and other marketable securities. To a lesser extent, the Bank originates certain other loans, including construction loans and Small Business Administration loans. At December 31, 1997, the Bank had loans receivable, net of allowance for loan losses and unearned income, of $598.4 million, representing approximately 54.99% of the Company's total assets, and held mortgage-backed securities with a carrying value of $217.1 million, representing approximately 19.95% of the Company's total assets. The Bank's revenues are derived principally from interest on its mortgage and other loans and mortgage-backed securities portfolio, and interest and dividends on other investments in its securities portfolio. The Bank's primary sources of funds are deposits, Federal Home Loan Bank-New York ("FHLB-NY") borrowings, principal and interest payments on loans, mortgage-backed and other securities, proceeds from sales of securities and, to a lesser extent, proceeds from sales of loans. On September 9, 1997, the Company acquired New York Federal Savings Bank ("New York Federal") and merged it with the Bank in a cash transaction valued at approximately $13 million. This acquisition is immediately accretive to the Company's earnings and is accounted for under the purchase method of accounting. With this purchase, the Bank acquired $75.1 million in real estate loans, $2.0 million in Small Business Administration loans and $48.4 million in deposits. In November of 1997, the Bank established a wholly owned real estate investment trust subsidiary, Flushing Preferred Funding Corporation ("FPFC"), and transferred $256.7 million in real estate loans from the Bank to FPFC. The assets transferred to FPFC are viewed by regulators as part of the Bank's assets in consolidation. However, the establishment of FPFC provides an additional vehicle for access by the Company to the capital markets for future investment opportunities. In addition, under current law, all income earned by FPFC distributed to the Bank in the form of a dividend has the effect of reducing the Company's New York State and New York City income tax expense. During the first quarter of 1998, the Bank formed a service corporation to market insurance products and mutual funds. The insurance products and mutual funds sold are products of unrelated insurance and securities firms from which the service corporation earns a commission. Management is currently reviewing the profitability potential of various new products to further extend the Bank's product lines and market. MARKET AREA AND COMPETITION The Bank has been, and intends to continue to be, a community oriented savings institution offering a wide variety of financial services to meet the needs of the communities it serves. The Bank is headquartered in Flushing, New York, located in the Borough of Queens. It currently operates out of its main office and six branch offices, located in the New York City Boroughs of Queens, Brooklyn and Manhattan, and in Nassau County, New York. Substantially all of the 2 Bank's mortgage loans are secured by properties located in the New York City metropolitan area. During the last three years, the unemployment and real estate values in the New York City metropolitan area have been relatively stable, which has favorably impacted the Bank's asset quality. See "--Asset Quality." There can be no assurance that the stability of these economic factors will continue. The Bank faces intense and increasing competition both in making loans and in attracting deposits. The Bank's market area has a high density of financial institutions, many of which have greater financial resources, name recognition and market presence than the Bank, and all of which are competitors of the Bank to varying degrees. Particularly intense competition exists for deposits and in all of the lending activities emphasized by the Bank. The Bank's competition for loans comes principally from commercial banks, other savings banks, savings and loan associations, mortgage banking companies, insurance companies, finance companies and credit unions. Management anticipates that competition for multi-family loans, commercial real estate loans and one-to-four family residential mortgage loans will continue to increase in the future. Thus, no assurances can be given that the Bank will be able to maintain or increase its current level of such loans, as contemplated by management's current business strategy The Bank's most direct competition for deposits historically has come from other savings banks, commercial banks, savings and loan associations and credit unions. In addition, the Bank faces increasing competition for deposits from products offered by brokerage firms, insurance companies and other financial intermediaries, such as money market and other mutual funds and annuities. Trends toward the consolidation of the banking industry and the lifting of interstate banking and branching restrictions may make it more difficult for smaller, community-oriented banks, such as the Bank, to compete effectively with large, national, regional and super-regional banking institutions. Notwithstanding the intense competition, the Bank has been successful in maintaining its deposit base. For a discussion of the Company's business strategies, see "Management's Discussion and Analysis of Financial Condition and Results of Operations--Management Strategy," included in the Annual Report of Stockholders for the fiscal year ended December 31, 1997 (the "Annual Report"), incorporated herein by reference. LENDING ACTIVITIES LOAN PORTFOLIO COMPOSITION. The Bank's loan portfolio consists primarily of conventional fixed-rate residential mortgage loans and adjustable rate mortgage ("ARM") loans secured by one-to-four family residences, mortgage loans secured by multi-family income producing properties or commercial real estate, construction loans, Small Business Administration loans and consumer loans. At December 31, 1997 the Bank had gross loans outstanding of $606.7 million (before reserves and unearned income), of which $301.3 million, or 49.66%, were one-to-four family residential mortgage loans (including $17.5 million of condominium loans, and $6.2 million of home equity loans). Of the one-to-four family residential loans outstanding on that date, 67.60% were ARM loans and 32.40% were fixed-rate loans. At December 31, 1997, multi-family loans totaled $230.2 million, or 37.95% of gross loans, commercial real estate loans totaled $68.2 million, or 11.24%, construction loans totaled $2.8 million, or 0.46%, Small Business Administration loans totaled $2.8 million, or 0.46%, and consumer loans totaled $1.4 million, or 0.23% of gross loans. The Bank has traditionally emphasized the origination and acquisition of one-to-four family residential mortgage loans, which include adjustable rate mortgage ("ARM") loans, fixed rate mortgage loans and home equity loans. However, in recent years, the Bank has also placed emphasis on multi-family and commercial real estate loans. The Bank expects to continue its emphasis on multi-family and commercial real estate loans as well as on one-to-four family residential mortgage loans. From December 31, 1996 to December 31, 1997, one-to-four-family residential mortgage loans increased $64.8 million, or 27.41%, multi-family loans increased $125.4 million, or 119.54%, and commercial loans increased $21.5 million, or 46.01%. Fully underwritten one-to-four family residential mortgage loans are considered by the banking 3 industry to have less risk than other types of loans. Multi-family income-producing real estate loans and commercial real estate loans generally have higher yields than one-to-four family loans and shorter terms to maturity, but typically involve higher principal amounts and generally expose the lender to greater credit risk than fully underwritten one-to-four family residential mortgage loans. The Bank's strategy to emphasize multi-family and commercial real estate loans can be expected to increase the overall level of credit risk inherent in the Bank's loan portfolio. The greater risk associated with multi-family and commercial real estate loans may require the Bank to increase its provisions for loan losses and to maintain an allowance for loan losses as a percentage of total loans in excess of the allowance currently maintained by the Bank. The Bank's lending activities are subject to federal and state laws and regulations. Interest rates charged by the Bank on loans are affected primarily by the demand for such loans, the supply of money available for lending purposes, the rate offered by the Bank's competitors and, in the case of corporate entities, the creditworthiness of the borrower. Many of those factors are, in turn, affected by regional and national economic conditions, and the fiscal, monetary and tax policies of the federal government. 4 The following table sets forth the composition of the Bank's loan portfolio at the dates indicated.
AT DECEMBER 31, 1997 1996 1995 1994 1993 ----------------- ------------------ ------------------- ------------------ ------------------ PERCENT PERCENT PERCENT PERCENT PERCENT AMOUNT OF TOTAL AMOUNT OF TOTAL AMOUNT OF TOTAL AMOUNT OF TOTAL AMOUNT OF TOTAL (DOLLARS IN THOUSANDS) Mortgage loans: One-to-four family...... $289,286 47.67% $223,273 57.28% $155,435 54.20% $133,006 51.39% $134,967 51.61% Co-operative................ 12,065 1.99 13,245 3.40 14,653 5.11 16,155 6.24 17,098 6.54 Multi-family ................... 230,229 37.95 104,870 26.91 69,140 24.11 56,559 21.85 49,459 18.91 Commercial ..................... 68,182 11.24 46,698 11.98 45,215 15.77 49,512 19.13 54,310 20.77 Construction ................... 2,797 0.46 -- -- -- -- 364 0.14 1,891 0.72 ---------------- ---------------- ------------------ ---------------- ---------------- Gross mortgage loans ........... 602,559 99.31 388,086 99.57 284,443 99.19 255,596 98.75 257,725 98.55 Small Business Administration.... 2,789 0.46 -- -- -- -- -- -- -- -- Other loans...................... 1,385 0.23 1,680 0.43 2,328 0.81 3,231 1.25 3,791 1.45 ---------------- ---------------- ------------------ ---------------- ---------------- Gross loans..................... 606,733 100.00% 389,766 100.00% 286,771 100.00% 258,827 100.00% 261,516 100.00% ====== ====== ====== ====== ====== Less: Unearned income, unamortized discounts, and deferred loan fees, net.................. (1,838) (1,548) (1,335) (1,341) (1,202) Allowance for loan losses........ (6,474) (5,437) (5,310) (5,370) (5,723) -------- -------- -------- -------- -------- Loans, net $598,421 $382,781 $280,126 $252,116 $254,591 ======== ======== ======== ======== ======== One-to-four family residential loans also include home equity and condominium loans. At December 31, 1997 gross home equity loans totaled $6.2 million and condominium loans totaled $17.5 million. Excludes loans available for sale of $5.6 million at December 31, 1993. Consists of loans secured by shares representing interests in individual co-operative units that are generally owner occupied.
5 The following table sets forth the Bank's loan originations (including the net effect of refinancings) and the changes in the Bank's portfolio of loans, including purchases, sales and principal reductions for the years indicated:
FOR THE YEARS ENDED DECEMBER 31, ---------------------------------- 1997 1996 1995 -------- -------- -------- (IN THOUSANDS) MORTGAGE LOANS: At beginning of year............................ $388,086 $284,443 $255,596 Mortgage loans originated: One-to-four family....................... 42,756 51,309 19,298 Co-operative................................. 475 76 140 Multi-family................................. 79,976 43,184 19,162 Commercial................................... 17,121 7,501 2,144 Construction................................. 3,016 -- -- -------- -------- -------- Total mortgage loans originated........... 143,344 102,070 40,744 -------- -------- -------- Acquired loans: Loans purchased.......................... 49,965 39,873 18,766 Acquired NY Federal 1-4 family loans ........ 901 -- -- Acquired NY Federal multi-family loans ...... 62,405 -- -- Acquired NY Federal commercial loans ........ 11,717 -- -- -------- -------- -------- Total acquired loans...................... 124,988 39,873 18,766 -------- -------- -------- Less: Principal reductions......................... 53,416 37,150 29,384 Mortgage loans sold...................... -- -- 626 Loans securitized............................ -- -- -- Mortgage loan foreclosures................... 443 1,150 653 -------- -------- -------- At end of year.................................. $602,559 $388,086 $284,443 -------- -------- -------- OTHER LOANS: At beginning of year............................ $1,680 $2,328 $3,231 Acquired NY Federal Small Business 2,029 -- -- Administration loans......................... Net bank activity............................... 466 (648) (903) -------- -------- -------- At end of year.................................. $4,175 $1,680 $2,328 ======== ======== ======== Includes mortgage loans originated for sale in the secondary market. For a description of the Bank's loan purchase activity, see "--One-to-Four Family Mortgage Lending."
6 LOAN MATURITY AND REPRICING. The following table sets forth at December 31, 1997, the dollar amount of all loans held in the Bank's portfolio that is due after December 31, 1998, and whether such loans have fixed or adjustable interest rates. Non-performing loans are excluded. The Bank's loan portfolio contained no outstanding construction loans as of the date specified and therefore the following two tables exclude reference to any such loans.
DUE AFTER DECEMBER 31, 1998 --------------------------------------------- FIXED ADJUSTABLE TOTAL -------- ---------- -------- (IN THOUSANDS) Mortgage loans: One-to-four family....................... $115,446 $115,619 $231,065 Co-operative............................. 5,154 3,769 8,923 Multi-family............................. 31,059 182,427 213,486 Commercial............................... 20,560 37,986 58,546 Small Business Administration loans......... -- 1,772 1,772 Other loans................................. 936 -- 936 -------- -------- -------- Total loans................................. $173,155 $341,573 $514,728 ======== ======== ========
The following table shows the maturity or period to repricing of the Bank's loan portfolio at December 31, 1997. Loans that have adjustable-rates are shown as being due in the period during which the interest rates are next subject to change. The table does not reflect prepayments or scheduled principal amortization, which totaled $53.4 million for the year ended December 31, 1997. Certain adjustable rate loans have features which limit changes in interest rates on a short-term basis and over the life of the loan.
AT DECEMBER 31, 1997 -------------------------------------------------------------------------------------------------- MORTGAGE LOANS OTHER LOANS ------------------------------------------------------- --------------------- ONE-TO- MULTI- TOTAL LOANS FOUR FAMILY CO-OPERATIVE FAMILY COMMERCIAL SBA CONSUMER RECEIVABLE ----------- ------------ -------- ---------- -------- -------- ----------- (IN THOUSANDS) Amounts due: Within one year $ 56,324 $ 3,142 $ 16,743 $11,921 $1,017 $ 401 $ 89,548 -------- ------- -------- ------- ------ ------ -------- After one year: One to two years 39,725 2,652 30,920 10,491 703 402 84,893 Two to three years 44,771 2,126 24,414 10,349 702 351 82,713 Three to five years 85,585 674 6,755 16,202 293 102 109,611 Five to ten years 48,590 3,387 68,466 13,378 74 81 133,976 Over ten years 12,394 84 82,931 8,126 -- -- 103,535 -------- ------- -------- ------- ------ ------ -------- Total due after one year 231,065 8,923 213,486 58,546 1,772 936 514,728 -------- ------- -------- ------- ------ ------ -------- Total amounts due $287,389 $12,065 $230,229 $70,467 $2,789 $1,337 $604,276 ======== ======= ======== ======= ====== ====== ======== Excludes $2.5 million in non-performing loans.
ONE-TO-FOUR FAMILY MORTGAGE LENDING. The Bank offers mortgage loans secured by one-to-four family residences, including townhouses and condominium units, located in its primary lending area. For purposes of the description contained in this section, one-to-four family residential mortgage loans and 7 co-operative apartment loans are collectively referred to herein as "residential mortgage loans." The Bank offers both fixed-rate and ARM residential mortgage loans with maturities of up to 30 years and a general maximum loan amount of $650,000. Loan originations generally result from applications received from existing or past customers, persons that respond to Bank advertising and other marketing efforts and referrals from attorneys, real estate brokers, mortgage brokers and mortgage bankers. Partly in response to the intense competition for originations of one-to-four family residential mortgage loans, the Bank has a program of correspondent relationships with several mortgage bankers and brokers operating in the New York metropolitan area. Under this program, the Bank purchases individual newly originated one-to-four family loans originated by such correspondents. The loans are underwritten pursuant to the Bank's credit underwriting standards and each loan is reviewed by Bank personnel prior to purchase to ensure conformity with such standards. During 1997, through these relationships, the Bank purchased $50.0 million in one-to-four family mortgage loans, as compared to $39.9 million in 1996 and $11.6 million during 1995. In addition, from time to time, the Bank will selectively purchase packages of seasoned performing one-to-four family residential loans located within the New York region. During 1995, the Bank purchased one package of such loans totaling $7.2 million with an average yield of 7.97%. Servicing was not acquired. The Bank did not purchase any seasoned loans in 1997 or 1996. The Bank generally originates residential mortgage loans in amounts up to 80% of the appraised value or the sale price, whichever is less. The Bank may make residential mortgage loans with loan-to-value ratios of up to 95% of the appraised value of the mortgaged property; however, private mortgage insurance is required whenever loan-to-value ratios exceed 80% of the appraised value of the property securing the loan. Traditionally, residential mortgage loans originated by the Bank have been underwritten to FNMA and other agency guidelines to facilitate securitization and sale in the secondary market. These guidelines require, among other things, verification of the loan applicant's income. However, from time to time, and with increasing frequency, the Bank originates residential mortgage loans to self-employed individuals within the Bank's local community without verification of the borrower's level of income, provided that the borrower's stated income is considered reasonable for the borrower's type of business. These loans involve a higher degree of risk as compared to the Bank's other fully underwritten residential mortgage loans as there is a greater opportunity for borrowers to falsify or overstate their level of income and ability to service indebtedness. To mitigate this risk, the Bank typically limits the amount of these loans to 75% of the appraised value of the property or the sale price, whichever is less. These loans also are not as readily salable in the secondary market as the Bank's other fully underwritten loans, either as whole loans or when pooled or securitized. FNMA does not purchase such loans. The Bank believes, however, that its willingness to make such loans is an aspect of its commitment to be a community-oriented bank. Although there are a number of purchasers for such loans, there can be no assurance that such purchasers will continue to be active in the market or that the Bank will be able to sell such loans in the future. The Bank originated $26.6 million and $19.0 million in loans of this type during 1997 and 1996, respectively. The Bank's fixed-rate residential mortgage loans typically are originated for terms of 15 and 30 years and are competitively priced based on market conditions and the Bank's cost of funds. The Bank charges origination fees of up to 2%; loans with fees of less than 2% generally carry a higher interest rate. Fixed rate 30-year residential mortgage loans will for the most part be granted when they can be packaged and sold in the secondary market. However, a small amount may be retained in portfolio to provide flexibility in the management of the Company's interest rate sensitivity position. The Bank had originated $4.7 million 30-year fixed rate residential mortgage loans in 1997, and none in 1996. The Bank offers ARM loans with adjustment periods of one, three, five, seven or ten years. Interest rates on ARM loans currently offered by the Bank are adjusted at the beginning of each adjustment period based upon a fixed spread above the average yield on United States treasury securities, adjusted to 8 a constant maturity which corresponds to the adjustment period of the loan (the "U.S. Treasury constant maturity index") as published weekly by the Federal Reserve Board. From time to time, the Bank may originate ARM loans at an initial rate lower than the U.S. Treasury constant maturity index as a result of a discount on the spread for the initial adjustment period. ARM loans generally are subject to limitations on interest rate increases of 2% per adjustment period and an aggregate adjustment of 6% over the life of the loan. Origination fees of up to 2% are charged for ARM loans; loans with fees of less than 2% generally carry a higher interest rate. The Bank originated and purchased one-to-four family residential ARM loans totaling $21.6 million and $29.8 million, respectively, during 1997 and $34.0 million and $32.0 million, respectively, during 1996. At December 31, 1997, $203.7 million, or 67.60%, of the Bank's residential mortgage loans, consisted of ARM loans. The volume and adjustment periods of ARM loans originated by the Bank have been affected by such market factors as the level of interest rates, demand for loans, competition, consumer preferences and the availability of funds. In general, consumers show a preference for ARM loans in periods of high interest rates and for fixed-rate loans when interest rates are low. In periods of falling interest rates, the Bank may experience refinancing activity in ARM loans, whose interest rates may be fully indexed, to fixed-rate loans. The retention of ARM loans, as opposed to fixed-rate 30-year loans, in the Bank's portfolio helps reduce the Bank's exposure to interest rate risks. However, in an environment of rapidly increasing interest rates as was experienced in the 1970's, it is possible for the interest rate increase to exceed the maximum aggregate adjustment on ARM loans and negatively affect the spread between the Bank's interest income and its cost of funds. ARM loans generally involve credit risks different from those inherent in fixed-rate loans, primarily because if interest rates rise, the underlying payments of the borrower rise, thereby increasing the potential for default. However, this potential risk is lessened by the Bank's policy of originating ARM loans with annual and lifetime interest rate caps that limits the increase of a borrower's monthly payment. The Bank has not in the past, nor does it currently originate ARM loans which provide for negative amortization. HOME EQUITY LOANS. Home equity loans are included in the Bank's portfolio of one-to-four family residential mortgage loans. These loans are offered as adjustable-rate "home equity lines of credit" on which interest only is due for an initial term of 10 years and thereafter principal and interest payments sufficient to liquidate the loan are required for the remaining term, not to exceed 20 years. These loans also may be offered as fully amortizing closed-end fixed-rate loans for terms up to 15 years. All home equity loans are made on one-to-four family residential and condominium units, which are owner-occupied, and are subject to a 80% loan-to-value ratio computed on the basis of the aggregate of the first mortgage loan amount outstanding and the proposed home equity loan. They are granted in amounts from $25,000 to $100,000. The underwriting standards for home equity loans are substantially the same as those for residential mortgage loans. At December 31, 1997, home equity loans totaled $6.2 million, or 1.03%, of gross loans. MULTI-FAMILY LENDING. Loans secured by multi-family income producing properties (including mixed-use properties) constituted approximately $230.2 million, or 37.95%, of gross loans at December 31, 1997, all of which were secured by properties located within the Bank's market area. The Bank's multi-family loans had an average principal balance of $508,156 at December 31, 1997, and the largest multi-family loan held in the Bank's portfolio had a principal balance of $6.0 million. Multi-family loans are generally offered at adjustable rates tied to a market index for terms of five to 10 years with adjustment periods from one to five years. On a select and limited basis, multi-family loans may be made at fixed rates for terms of seven, 10 or 15 years. An origination fee of up to 1% is typically charged on multi-family loans. 9 In underwriting multi-family loans, the Bank reviews the expected net operating income generated by the real estate collateral securing the loan, the age and condition of the collateral, the financial resources and income level of the borrower and the borrower's experience in owning or managing similar properties. The Bank typically requires a debt service coverage of at least 125% of the monthly loan payment. Multi-family loans generally are made up to 70% of the appraised value of the property securing the loan or the sales price of the property, whichever is less. The Bank generally obtains personal guarantees from commercial real estate borrowers and typically orders an environmental report on the property securing the loan. Loans secured by multi-family income producing property generally involve a greater degree of risk than residential mortgage loans and carry larger loan balances. The increased credit risk is a result of several factors, including the concentration of principal in a smaller number of loans and borrowers, the effects of general economic conditions on income producing properties and the increased difficulty in evaluating and monitoring these types of loans. Furthermore, the repayment of loans secured by multi-family income producing property is typically dependent upon the successful operation of the related property. If the cash flow from the property is reduced, the borrower's ability to repay the loan may be impaired. Loans secured by multi-family income producing property also may involve a greater degree of environmental risk. The Bank seeks to protect against this risk through obtaining an environmental report. See "--Asset Quality--REO." COMMERCIAL REAL ESTATE LENDING. Loans secured by commercial real estate constituted approximately $68.2 million, or 11.24%, of the Bank's gross loans at December 31, 1997. The Bank's commercial real estate loans are secured by improved properties such as offices, small business facilities, strip shopping centers, warehouses, religious facilities and mixed-use properties. At December 31, 1997, substantially all of the Bank's commercial real estate loans were secured by properties located within the Bank's market area. At that date, the Bank's commercial real estate loans had an average principal balance of $458,493, and the largest of such loans, which was secured by a shopping center, had a principal balance of $3.5 million. Typically, commercial real estate loans are originated at a range of $100,000 to $3.0 million. Commercial real estate loans are generally offered at adjustable rates tied to a market index for terms of five to 15 years, with adjustment periods from one to five years. On a select and limited basis, commercial real estate loans may be made at fixed interest rates for terms of seven, 10 or 15 years. An origination fee of up to 1% is typically charged on all commercial real estate loans. In underwriting commercial real estate loans, the Bank employs the same underwriting standards and procedures as are employed in underwriting multi-family loans. Commercial real estate loans generally carry larger loan balances than one-to-four family residential mortgage loans and involve a greater degree of credit risk for the same reasons applicable to multi-family loans. CONSTRUCTION LOANS. The Bank's construction loans primarily have been made to finance the construction of one-to-four family residential properties and multi-family residential real estate properties. The Bank's policies provide that construction loans may be made in amounts up to 70% of the estimated value of the developed property and only if the Bank obtains a first lien position on the underlying real estate. In addition, the Bank generally requires firm end-loan commitments and personal guarantees on all construction loans. Construction loans are generally made with terms of two years or less and with adjustable interest rates that are tied to a market index. Advances are made as construction progresses and inspection warrants, subject to continued title searches to ensure that the Bank maintains a first lien position. Construction loans outstanding at December 31, 1997 totaled $2.8 million, or 0.46% of gross loans. The Bank had no construction loans outstanding at December 31, 1996. Construction loans involve a greater degree of risk than other loans because, among other things, the underwriting of such loans is based on an estimated value of the developed property, which can be difficult to ascertain 10 in light of uncertainties inherent in such estimations. In addition, construction lending entails the risk that the project may not be completed due to cost overruns or changes in market conditions. SMALL BUSINESS ADMINISTRATION LENDING. With the purchase of New York Federal on September 9, 1997, the Company entered into the Small Business Administration lending ("SBA") market. These loans are extended to small businesses and are guaranteed by the Small Business Administration at 80% of the loan balance for loans with balances of $100,000 or less, and at 75% of the loan balance for loans with balances greater than $100,000. All SBA loans are underwritten in accordance with SBA Standard Operating Procedures and the Bank generally obtains personal guarantees and collateral, where applicable, from SBA borrowers. Typically, SBA loans are originated at a range of $50,000 to $1.0 million with terms ranging from five to 25 years. SBA loans are generally offered at adjustable rates tied to the prime rate with adjustment periods of one to three months. The Bank generally sells the guaranteed portion of the SBA loan in the secondary market and retains servicing of at least 1% of the monthly interest payment. At December 31, 1997, SBA loans totaled $2.8 million, representing 0.46% of gross loans. CONSUMER AND OTHER LENDING. From time to time the Bank may originate other loans for personal, family or household purposes. These loans generally consist of passbook loans, overdraft lines of credit, student loans, automobile loans and other personal loans. Total consumer and other loans outstanding at December 31, 1997 amounted to $1.4 million, or 0.23%, of gross loans. Generally, unsecured loans in this category are limited to amounts of $5,000 or less for terms of up to five years. Certain student loans may be made in amounts up to the maximum amount permitted by the New York State Higher Education Services Corporation, currently $138,500, for terms of up to 10 years. All student loans are sold by the Bank to EXPORT, a subsidiary of Sallie Mae (Student Loan Marketing Association) which administers all such loans sold by the Bank. The Bank offers credit cards to its customers through a third party financial institution and receives an origination fee and transactional fees for processing such accounts, but does not underwrite or finance any portion of the credit card receivables. The underwriting standards employed by the Bank for consumer and other loans include a determination of the applicant's payment history on other debts and assessment of the applicant's ability to meet payments on all of his or her obligations. In addition to the creditworthiness of the applicant, the underwriting process also includes a comparison of the value of the collateral, if any, to the proposed loan amount. Unsecured loans tend to have higher risk, and therefore command a higher interest rate. With the exception of a portfolio of consumer loans acquired by the Bank in 1991 at a discount in connection with the acquisition of a failed savings and loan association, the level of delinquencies in the Bank's consumer and other loan portfolio generally has been within industry standards; however, there can be no assurance that delinquencies will not increase in the future. LOAN APPROVAL PROCEDURES AND AUTHORITY. The Bank's Board-approved lending policies establish loan approval requirements for its various types of loan products. Pursuant to the Bank's Residential Mortgage Lending Policy, all residential mortgage loans require three signatures for approval, at least one of which must be from the President, Executive Vice President or a Senior Vice President (collectively, "Authorized Officers") and the other two may be from the Bank's Senior Mortgage Officer, Loan Underwriting Manager or Senior Underwriter. Residential mortgage loans in excess of $500,000 also must be approved by the Loan Committee, the Executive Committee or the full Board of Directors. Pursuant to the Bank's Commercial Real Estate Lending Policy, all loans secured by commercial real estate properties and multi-family income producing properties, must be approved by the President or the Executive Vice President upon the recommendation of the Commercial Loan Department Manager. Such loans in excess of $600,000 also require Loan or Executive Committee or Board approval. In accordance with the Bank's Consumer Loan Policy, all consumer loans require two signatures for approval, one of which must be from an Authorized Officer. The Bank's Construction Loan Policy requires that all construction loans must be approved by the Loan or Executive Committee or the Board of Directors of the Bank. Any loan, regardless of type, that deviates from 11 the Bank's written loan policies must be approved by the Loan or Executive Committee or the Bank's Board of Directors. For all loans originated by the Bank, upon receipt of a completed loan application, a credit report is ordered and certain other financial information is obtained. An appraisal of the real estate intended to secure the proposed loan is required. Such appraisals currently are performed by the Bank's staff appraiser or an independent appraiser designated and approved by the Bank. The Bank's Board of Directors annually approves the independent appraisers used by the Bank and approves the Bank's appraisal policy. It is the Bank's policy to require borrowers to obtain title insurance and hazard insurance on all real estate first mortgage loans prior to closing. Borrowers generally are required to advance funds on a monthly basis together with each payment of principal and interest to a mortgage escrow account from which the Bank makes disbursements for items such as real estate taxes and, in some cases, hazard insurance premiums. LOAN CONCENTRATIONS. The maximum amount of credit that the Bank can extend to any single borrower or related group of borrowers generally is limited to 15% of the Bank's unimpaired capital and surplus. Applicable law and regulations permit an additional amount of credit to be extended, equal to 10% of unimpaired capital and surplus, if the loan is secured by readily marketable collateral, which generally does not include real estate. See "Regulation." However, it is currently the Bank's policy not to extend such additional credit. At December 31, 1997, the Bank had no loans in excess of the maximum dollar amount of loans to one borrower that the Bank was authorized to make. At that date, the three largest concentrations of loans to one borrower consisted of loans secured by multi-family income producing properties with an aggregate principal balance of $14.1 million, $6.5 million and $6.0 million for each of the three borrowers. LOAN SERVICING. At December 31, 1997, loans aggregating $51.8 million were being serviced for others by the Bank. The Bank's policy is to retain the servicing rights to the mortgage and SBA loans that it sells in the secondary market. In order to increase revenue, management intends to continue this policy. ASSET QUALITY LOAN COLLECTION. When a borrower fails to make a required payment on a loan, the Bank takes a number of steps to induce the borrower to cure the delinquency and restore the loan to current status. In the case of residential mortgage loans and consumer loans, the Bank generally sends the borrower a written notice of non-payment when the loan is first past due. In the event payment is not then received, additional letters and phone calls generally are made in order to encourage the borrower to meet with a representative of the Bank to discuss the delinquency. If the loan still is not brought current and it becomes necessary for the Bank to take legal action, which typically occurs after a loan is delinquent 45 days or more, the Bank may commence foreclosure proceedings against real property that secures the real estate loan and attempt to repossess personal or business property that secures an SBA loan, consumer loan or co-operative apartment loan. If a foreclosure action is instituted and the loan is not brought current, paid in full, or refinanced before the foreclosure sale, the real property securing the loan generally is sold at foreclosure or by the Bank as soon thereafter as practicable. Decisions as to when to commence foreclosure actions for multi-family, commercial real estate and construction loans are made on a case by case basis. Since foreclosure typically halts the sale of the collateral and may be a lengthy procedure in the State of New York, the Bank may consider loan work-out arrangements to work with multi-family or commercial real estate borrowers in an effort to restructure the loan rather than foreclose, particularly if the borrower is, in the opinion of management, able to manage the project. In certain circumstances, on rental properties, the Bank may institute proceedings to seize the rent. On mortgage loans or loan participations purchased by the Bank, the Bank receives monthly reports from its loan servicers with which it monitors the loan portfolio. Based upon servicing agreements with the servicers of the loans, the Bank relies upon the servicer to contact delinquent borrowers, collect 12 delinquent amounts and initiate foreclosure proceedings, when necessary, all in accordance with applicable laws, regulations and the terms of the servicing agreements between the Bank and its servicing agents. 13 DELINQUENT LOANS AND NON-PERFORMING ASSETS. The following table sets forth delinquencies in the Bank's loan portfolio at the dates indicated:
AT DECEMBER 31, ------------------------------------------------------------------------------------------------------------- 1997 1996 1995 ---------------------------------- ----------------------------------- ----------------------------------- 60-89 DAYS 90 DAYS OR MORE 60-89 DAYS 90 DAYS OR MORE 60-89 DAYS 90 DAYS OR MORE ---------------- ---------------- ---------------- ----------------- ---------------- ---------------- NUMBER NUMBER NUMBER NUMBER NUMBER NUMBER OF PRINCIPAL OF PRINCIPAL OF PRINCIPAL OF PRINCIPAL OF PRINCIPAL OF PRINCIPAL LOANS BALANCE LOANS BALANCE LOANS BALANCE LOANS BALANCE LOANS BALANCE LOANS BALANCE ----- --------- ------ --------- ------ --------- ------ --------- ------ --------- ------ --------- (DOLLARS IN THOUSANDS) One-to-four family... 9 $683 19 $1,897 2 $705 15 $1,835 1 $149 25 $2,276 Co-operative......... -- -- -- -- -- -- 2 32 1 53 2 109 Multi-family......... -- -- -- -- -- -- 3 505 1 441 4 2,119 Commercial........... -- -- 2 512 -- -- -- -- -- -- 3 427 Construction......... -- -- -- -- -- -- -- -- -- -- -- -- ----- --------- ------ --------- ------ --------- ------ --------- ------ --------- ------ --------- Total mortgage loans........... 9 683 21 2,409 2 705 20 2,372 3 643 34 4,931 Other loans.......... 4 10 15 49 3 2 6 36 2 1 5 50 ----- --------- ------ --------- ------ --------- ------ --------- ------ --------- ------ --------- Total loans....... 13 $693 36 $2,458 5 $707 26 $2,408 5 $644 39 $4,981 ===== ========= ====== ========= ====== ========= ====== ========= ====== ========= ====== ========= Delinquent loans to gross loans....... 0.11% 0.41% 0.18% 0.62% 0.22% 1.74%
14 The Bank reviews the problem loans in its portfolio on a monthly basis to determine whether any loans require classification in accordance with internal policies and applicable regulatory guidelines. Generally, all non-performing loans delinquent 90 days or more, commercial real estate loans pending foreclosure and real estate owned ("REO") require classification. See "--Classified and Special Mention Assets." The Bank generally discontinues accruing interest on delinquent loans when a loan is 90 days past due or foreclosure proceedings have been commenced, whichever first occurs. Loans in default 90 days or more as to their maturity date but not their payments, however, continue to accrue interest. With respect to loans on non-accrual status, previously accrued but unpaid interest is deducted from interest income six months after the date it becomes past due. The following table sets forth information regarding all non-accrual loans, loans which are 90 days or more delinquent, and REO at the dates indicated. During the years ended December 31, 1997, 1996 and 1995, the amounts of additional interest income that would have been recorded on non-accrual loans, had they been current, totaled $180,000, $145,000 and $344,000, respectively. These amounts were not included in the Bank's interest income for the respective periods.
AT DECEMBER 31, ---------------------------------------------------------------- 1997 1996 1995 1994 1993 ------ ------ ------ ------ ------- (DOLLARS IN THOUSANDS) Non-accrual mortgage loans....................... $2,409 $2,372 $4,697 $5,234 $11,548 Other non-accrual loans.......................... 49 36 50 63 142 --------------------------------------------------------------- Total non-accrual loans...................... 2,458 2,408 4,747 5,297 11,690 Mortgage loans 90 days or more delinquent and still accruing............................. -- -- 234 14 4 Other loans 90 days or more delinquent and still accruing............................. -- -- -- -- 1 --------------------------------------------------------------- Total non-performing loans................... 2,458 2,408 4,981 5,311 11,695 --------------------------------------------------------------- In-substance foreclosed real estate.............. -- -- -- 372 4,772 Foreclosed real estate........................... 433 1,218 1,869 3,096 2,990 --------------------------------------------------------------- Total REO.................................... 433 1,218 1,869 3,468 7,762 --------------------------------------------------------------- Total non-performing assets.................. $2,891 $3,626 $6,850 $8,779 $19,457 ================================================================ Troubled debt restructurings..................... -- -- -- $3,220 $6,029 ================================================================ Non-performing loans to gross loans ......... 0.41% 0.62% 1.74% 2.05% 4.47% Non-performing assets to total assets ....... 0.27% 0.47% 0.97% 1.48% 3.16% Ratios do not include troubled debt restructurings where the loans are performing in accordance with the agreement.
REO. The Bank has been aggressively marketing its REO properties. Total REO, including in-substance foreclosed loans, had consistently decreased from $7.8 million at December 31, 1993 to $0.4 million at December 31, 1997. To facilitate the sale of REO, the Bank originated three loans totaling $637,000 during 1997, and nine loans totaling $307,000 during 1996. 15 At December 31, 1997, the largest single REO property resulted from a one-to-four family residential property with a net book value of $141,000. REO properties are carried at the lower of carrying amount or fair value less estimated costs to sell. This determination is made on an individual asset basis. "Carrying amount" represents the book value of the loan at the time a property is foreclosed (after any charge-off against the allowance for loan losses to reflect any difference between the book value of the loan and the fair market value of the collateral), less any payments subsequently received in respect of such loan such as payments from private mortgage insurance or court appointed receivers. See "--Allowance for Loan Losses." If the subsequent fair value is less than the carrying amount, the deficiency is recognized as an REO valuation allowance and, accordingly, is charged against earnings through a provision for losses on REO. The following table sets forth the activity in the Bank's REO portfolio for the three months ended on each of the indicated dates:
FOR THE THREE MONTHS ENDED ---------------------------------------------------------- MARCH JUNE SEPTEMBER DECEMBER 1997 1997 1997 1997 ------ ---- --------- -------- (DOLLARS IN THOUSANDS) Balance, beginning of period $1,218 $280 $316 $287 Foreclosures and other acquisitions -- 141 87 146 Less: Sales 1,031 155 180 -- Reductions (93) (50) (64) -- ------ ---- ---- ---- Balance, end of period $280 $316 $287 $433 ====== ==== ==== ==== Reductions include provisions for losses on REO and payments received subsequent to foreclosure from private mortgage insurance and from court appointed receivers.
The following table sets forth the approximate change in the allowance for losses on REO for the three years ended December 31, 1996:
FOR THE YEARS ENDED DECEMBER 31, ------------------------------------ 1997 1996 1995 ---- ---- ---- (DOLLARS IN THOUSANDS) Balance, beginning of year $281 $388 $774 Provision 150 311 Less: Reduction due to sale of ORE 207 257 697 ---- ---- ---- Balance, end of year $74 $281 $388 ==== ==== ====
Although the Bank currently obtains environmental reports in connection with the underwriting of commercial real estate loans, it obtains environmental reports in connection with the underwriting of multi-family and other loans only if the nature of the current or, to the extent known to the Bank, prior use of the property securing the loan indicates a potential environmental risk. However, the Bank may not be aware of such uses or risks in any particular case, and, accordingly, there is no assurance that real estate acquired by the Bank in foreclosure is free from environmental contamination or that, if any such contamination or other violation exists, the Bank will not have any liability therefor. CLASSIFIED AND SPECIAL MENTION ASSETS. Federal regulations and Bank policy require the classification of loans and other assets, such as debt and equity securities considered to be of lesser quality, as "substandard," "doubtful" or "loss" assets. An asset is considered "substandard" if it is inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. "Substandard" assets include those characterized by 16 the "distinct possibility" that the institution will sustain "some loss" if the deficiencies are not corrected. Assets classified as "doubtful" have all of the weaknesses inherent in those classified "substandard," with the added characteristic that the weaknesses present make "collection or liquidation in full," on the basis of currently existing facts, conditions and values, "highly questionable and improbable." Assets classified as "loss" are those considered "uncollectible" and of such little value that their continuance as assets without the establishment of a specific loss reserve is not warranted. Assets which do not currently expose the Bank to sufficient risk to warrant classification in one of the aforementioned categories but possess weaknesses are designated "special mention." The Bank has a loan secured by a fully occupied one-story retail building with six stores, located in Queens, that is listed as special mention. The Bank has completed its foreclosure action and has been granted judgment on foreclosure. The mortgagor has agreed to make full monthly payments plus additional payments to be applied towards the arrears. At December 31, 1997, all payments due under the borrower's agreement were current and the net book value of the loan was $1.4 million. Since this loan is performing in accordance with the terms of the borrower's agreement, it is recorded on an accrual basis. At December 31, 1997, the Bank had no other classified asset (or group of assets) listed as substandard or special mention with a net book value of $1.0 million or more. Net book value of REO is the lower of carrying amount or fair value less estimated selling costs. ALLOWANCE FOR LOAN LOSSES The Bank has established and maintains on its books an allowance for loan losses that is designed to provide reserves for estimated losses inherent in the Bank's overall loan portfolio. The allowance is established through a provision for loan losses based on management's evaluation of the risk inherent in the various components of its loan portfolio and other factors, including historical loan loss experience, changes in the composition and volume of the portfolio, collection policies and experiences, trends in the volume of non-accrual loans and regional and national economic conditions. The determination of the amount of the allowance for loan losses includes estimates that are susceptible to significant changes due to changes in appraisal values of collateral, national and regional economic conditions and other factors. In connection with the determination of the allowance, the market value of collateral ordinarily is evaluated by the Bank's staff appraiser; however, the Bank may from time to time obtain independent appraisals for significant properties. Current year charge-offs, charge-off trends, new loan production and current balance by particular loan categories also are taken into account in determining the appropriate amount of the allowance. In assessing the adequacy of the allowance, management reviews the Bank's loan portfolio by separate categories which have similar risk and collateral characteristics; e.g. commercial real estate, multi-family real estate, one-to-four family loans, co-operative apartment loans, SBA loans and consumer loans. General provisions are established against performing loans in the Bank's portfolio in amounts deemed prudent from time to time based on the Bank's qualitative analysis of the factors described above. The determination of the amount of the allowance for loan losses also includes a review of loans on which full collectibility is not reasonably assured. The primary risk element considered by management with respect to each one-to-four family loan, co-operative apartment loan, SBA loan and consumer loan is any current delinquency on the loan. The primary risk elements considered with respect to commercial real estate and multi-family loans are the financial condition of the borrower, the sufficiency of the collateral (including changes in the value of the collateral) and the record of payment. When a judgment is made that a specific loan involves a risk of default and loss that is greater than the norm for loans in the relevant category, that loan or a portion thereof may be classified loss, doubtful or substandard. In addition, loans that are judged not to require specific classification at a particular time, but require close monitoring, are categorized as "special mention" loans. See "--Classified Assets." 17 The Bank establishes two types of reserves: specific reserves and general valuation reserves. Specific reserves are established to reflect an actual loss or the best estimate of the risk of loss on a specific loan as of a certain date. All specific reserves are equivalent to direct charge-offs and are reflected as direct reductions to the allowance for loan losses and the related loan balances. Specific reserves are established for 100% of the portion of loans that are classified as loss. General valuation reserves represent allowances that have been established to recognize the inherent risk associated with lending activities. With respect to loans classified by the Bank as substandard and the portion of loans classified doubtful or categorized as special mention, the Bank will make additional provision to its general valuation reserves in an amount equal to a percentage of principal amount outstanding at the time, currently ranging from 1.5% to 15%, which is determined from time to time by the Bank according to loan type and classification. Additional provisions may be made to the general valuation allowance to cover loans which are deemed not to require classification or categorization as special mention, but are performing loans where the Bank has knowledge that the financial condition of the borrower has deteriorated. Provisions to the Bank's general valuation allowance are charged against net income. In addition, when real estate loans are foreclosed, the loan balance is compared to the fair value of the property. The Bank evaluates the fair market value of properties on the basis of information readily available to the Bank at the time the properties are classified as REO. If the carrying value of the loan at the time of foreclosure exceeds the fair value of the property, the difference is charged to the allowance for loan losses and the fair value of the property becomes the book value of the REO. The REO is subsequently carried at the lower of the carrying value of the loan or the fair value of the property less estimated costs of sale with any further adjustment reflected as a charge against earnings. See "--Asset Quality--REO." The Bank's determination as to the classification of its assets and the amount of its valuation allowances is subject to review by the OTS and the Federal Deposit Insurance Corporation ("FDIC"), which can require the establishment of additional general allowances or specific loss allowances or require charge-offs. Such authorities may require the Bank to make additional provisions to the allowance based on their judgments about information available to them at the time of their examination. An OTS policy statement provides guidance for OTS examiners in determining whether the levels of general valuation allowances for savings institutions are adequate. The policy statement requires that if a savings institution's general valuation allowance policies and procedures are deemed to be inadequate, the general valuation allowance would be compared to certain ranges of general valuation allowances deemed acceptable by the OTS depending in part on the savings institution's level of classified assets. The Bank's provision for loan losses was $104,000, $418,000 and $496,000 for the years ended December 31, 1997, 1996 and 1995, respectively. At December 31, 1997, the total allowance for loan losses was $6.5 million, representing 263.38% of non-performing loans and 223.94% of non-performing assets, an increase from the December 31, 1996 ratios of 225.79% and 149.94% respectively. The Bank continues to monitor and modify the level of its allowance for loan losses in order to maintain the allowance at a level which management considers adequate to provide for potential loan losses based on available information. Management of the Bank believes that the current allowance for loan losses is adequate in light of current economic conditions and the composition of its loan portfolio and other available information and the Board of Directors concurs in this belief. However, many factors may require additions to the allowance for loan losses in future periods beyond those reasonably anticipated. These factors include future adverse changes in economic conditions, changes in interest rates and changes in the financial capacity of individual borrowers (any of which may affect the ability of borrowers to make repayments on loans), changes in the local real estate market and the value of collateral, or a review and evaluation of the Bank's loan portfolio in the future. The determination of the amount of the allowance for loan losses includes estimates that are susceptible to significant changes due to changes in appraisal values of 18 collateral, national and regional economic conditions, interest rates and other factors. In addition, the Bank's increased emphasis on commercial real estate and multi-family loans can be expected to increase the overall level of credit risk inherent in the Bank's loan portfolio. The greater risk associated with commercial real estate and multi-family loans may require the Bank to increase its provisions for loan losses and to maintain an allowance for loan losses as a percentage of total loans that is in excess of the allowance currently maintained by the Bank. Provisions for loan losses are charged against net income. See "--Lending Activities" and "--Asset Quality." The following table sets forth the Bank's allowance for loan losses at and for the dates indicated.
FOR THE YEARS ENDED DECEMBER 31, -------------------------------------------------------------- 1997 1996 1995 1994 1993 ---- ---- ---- ---- ---- (DOLLARS IN THOUSANDS) Balance at beginning of year $5,437 $5,310 $5,370 $5,723 $4,555 Provision for loan losses 104 418 496 246 2,522 Provision acquired from NY Federal 979 -- -- -- -- Loans charged-off: One-to-four family 85 220 312 341 287 Co-operative 44 162 183 71 33 Multi-family -- 41 251 14 344 Commercial -- 68 260 303 716 Construction -- -- -- -- -- Other 77 44 46 65 147 ------ ------ ------ ------ ------ Total loans charged-off 206 535 1,052 794 1,527 ------ ------ ------ ------ ------ Recoveries: Mortgage loans 155 244 496 195 173 Other 5 -- -- -- -- ------ ------ ------ ------ ------ Total recoveries 160 244 496 195 173 ------ ------ ------ ------ ------ Balance at end of year $6,474 $5,437 $5,310 $5,370 $5,723 ====== ====== ====== ====== ====== Ratio of net charge-offs during the year to average loans outstanding during the year 0.01% 0.09% 0.21% 0.24% 0.47% Ratio of allowance for loan losses to gross loans at end of year 1.07% 1.39% 1.85% 2.07% 2.19% Ratio of allowance for loan losses to non-performing loans at the end of year 263.38% 225.79% 106.61% 101.11% 48.94% Ratio of allowance for loan losses to non-performing assets at the end of year 223.94% 149.94% 77.52% 61.17% 29.41%
19 The following table sets forth the Bank's allocation of its allowance for loan losses to the total amount of loans in each of the categories listed at the dates indicated. The numbers contained in the "Amount" column indicate the allowance for loan losses allocated for each particular loan category. The numbers contained in the column entitled "Percentage of Loans in Category to Total Loans" indicate the total amount of loans in each particular category as a percentage of the Bank's total loan portfolio.
AT DECEMBER 31, ------------------------------------------------------------------------------------------------------ 1997 1996 1995 1994 1993 ------------------- ------------------- -------------------- -------------------- ------------------- PERCENTAGE PERCENTAGE PERCENTAGE PERCENTAGE PERCENTAGE OF OF OF OF OF LOANS IN LOANS IN LOANS IN LOANS IN LOANS IN CATEGORY CATEGORY CATEGORY CATEGORY CATEGORY TO TOTAL TO TOTAL TO TOTAL TO TOTAL TO TOTAL LOAN CATEGORY AMOUNT LOANS AMOUNT LOANS AMOUNT LOANS AMOUNT LOANS AMOUNT LOANS ------ ---------- ------ ---------- ------ ---------- ------ ---------- ------ ---------- (DOLLARS IN THOUSANDS) Mortgage Loans: One-to-four family....... $1,711 26.42% $1,065 53.84% $1,126 54.20% $1,132 51.39% $957 51.61% Co-operative............. 510 7.88 458 4.76 407 5.11 125 6.24 38 6.54 Multi-family............. 1,021 15.77 1,456 25.74 1,625 24.11 1,024 21.85 1,171 18.91 Commercial............... 3,073 47.47 2,434 14.96 2,139 15.77 3,070 19.13 3,507 20.77 Construction............. 128 1.98 -- -- -- -- -- 0.14 -- 0.72 ------ ------ ------ ------ ------ ------ ------ ------ ------ ------ Total mortgage loans.... 6,443 99.52 5,413 99.30 5,297 99.19 5,351 98.75 5,673 98.55 SBA loans.................. 23 0.35 -- -- -- -- -- -- -- -- Other loans................ 8 0.13 24 0.70 13 0.81 19 1.25 50 1.45 ------ ------ ------ ------ ------ ------ ------ ------ ------ ------ Total................... $6,474 100.00% $5,437 100.00% $5,310 100.00% $5,370 100.00% $5,723 100.00% ====== ====== ====== ====== ====== ====== ====== ====== ====== ======
20 INVESTMENT ACTIVITIES GENERAL. The investment policy of the Company, which is approved by the Board of Directors, is designed primarily to manage the interest rate sensitivity of its overall assets and liabilities, to generate a favorable return without incurring undue interest rate and credit risk, to complement the Bank's lending activities and to provide and maintain liquidity. In establishing its investment strategies, the Company considers its business and growth strategies, the economic environment, its interest rate sensitivity "gap" position, the types of securities to be held, and other factors. See "Management's Discussion and Analysis of Financial Condition and Results of Operation--Management Strategy," included in the Annual Report and incorporated herein by reference. Federally chartered savings institutions have authority to invest in various types of assets, including U.S. government obligations, securities of various federal agencies, mortgage-backed and mortgage-related securities, certain certificates of deposit of insured banks and savings institutions, certain bankers acceptances, repurchase agreements, loans of federal funds, and, subject to certain limits, corporate securities, commercial paper and mutual funds. All mortgage-backed securities held by the Bank are directly or indirectly insured or guaranteed by FNMA, FHLMC or the Government National Mortgage Association ("GNMA"). The Investment Committee of the Bank and the Company meets quarterly to monitor investment transactions and to establish investment strategy. The Board of Directors reviews the investment policy on an annual basis and investment activity on a monthly basis. SFAS 115, which was adopted by the Company, effective December 31, 1993, requires that investments in equity securities that have readily determinable fair values and all investments in debt securities are to be classified in one of the following three categories and accounted for accordingly: (1) trading securities; (2) securities available for sale; and (3) securities held to maturity. Unrealized gains or losses on trading securities would be included in the determination of net income; however, the Company does not intend to trade securities. Unrealized gains and losses for available-for-sale securities are excluded from earnings and reported as a net amount in a separate component of equity, net of taxes. At December 31, 1997, the Company had $356.7 million in securities available for sale which represented 32.78% of total assets. These securities had an aggregate market value at that date that was approximately 2.6 times the amount of the Company's equity at that date. The cumulative balance of unrealized gain on securities available for sale was $1.5 million, net of taxes, at December 31, 1997. As a result of SFAS 115 and the magnitude of the Company's holdings of securities available for sale, changes in interest rates could produce significant changes in the value of such securities and could produce significant fluctuations in the equity of the Company. See Note 7 of "Notes to Consolidated Financial Statements," included in the Annual Report and incorporated herein by reference. The Company may from time to time sell securities and realize a loss if the proceeds of such sale may be reinvested in loans or other assets offering more attractive yields. In November 1995, the Financial Accounting Standards Board ("FASB") issued a special report entitled "A Guide to Implementation of Statement #115 on Accounting for Certain Investments in Debt and Equity Securities", which gave the Company a one-time opportunity to reconsider its ability and intent to hold securities to maturity, and allowed the Company to transfer securities from held-to-maturity to other categories without tainting its remaining held-to-maturity securities. Accordingly, on December 29, 1995, the Company moved all securities classified as held-to-maturity to available-for-sale, totaling $94.7 million, net of a $1.4 million unrealized gain. At December 31, 1997, the Company had no investment in a particular issuer's securities that either alone, or together with any investments in the securities of any affiliate(s) of such issuer, exceeded 10% of the Company's equity. 21 The table below sets forth certain information regarding the amortized cost and market values of the Company's securities portfolio at the dates indicated. Securities available for sale are recorded at market value. See Note 7 of Notes to Consolidated Financial Statements, included in the Annual Report, incorporated herein by reference.
AT DECEMBER 31, ------------------------------------------------------------------------------ 1997 1996 1995 ---------------------- ----------------------- ----------------------- AMORTIZED MARKET AMORTIZED MARKET AMORTIZED MARKET COST VALUE COST VALUE COST VALUE --------- -------- --------- -------- --------- -------- (IN THOUSANDS) SECURITIES AVAILABLE FOR SALE: Bonds and other debt securities: U.S. government and agencies.......... $120,106 $120,123 $150,045 $148,141 $116,296 $116,728 Corporate debentures.................. 13,755 14,365 37,656 38,171 77,227 78,662 Public utility........................ 2,247 2,271 4,305 4,294 6,389 6,501 -------- -------- -------- -------- -------- -------- Total bonds and other debt securities.......................... 136,108 136,759 192,006 190,606 199,912 201,891 -------- -------- -------- -------- -------- -------- Equity securities: Perpetual preferred stock............. 2,768 2,843 250 251 250 256 -------- -------- -------- -------- -------- -------- Total equity securities.............. 2,768 2,843 250 251 250 256 -------- -------- -------- -------- -------- -------- Mortgage-backed securities: FHLMC................................. 34,015 34,120 47,217 46,406 61,529 61,845 FNMA.................................. 55,559 56,068 83,727 83,756 105,374 106,265 GNMA.................................. 125,585 126,922 10,973 10,876 11,354 11,190 -------- -------- -------- -------- -------- -------- Total mortgage-backed securities..... 215,159 217,110 141,917 141,038 178,257 179,300 -------- -------- -------- -------- -------- -------- Total debt and equity securities available for sale:................. 354,035 356,712 334,173 331,895 378,419 381,447 ======== ======== ======== ======== ======== ======== INTEREST-BEARING DEPOSITS AND FEDERAL FUNDS SOLD 84,838 84,838 27,465 27,465 7,438 7,438 FHLB - NEW YORK STOCK 14,356 14,356 4,158 4,158 3,787 3,787 -------- -------- -------- -------- -------- -------- Total debt and equity securities...... $453,229 $455,906 $365,796 $363,518 $389,644 $392,672 ======== ======== ======== ======== ======== ========
MORTGAGE-BACKED SECURITIES. All of the mortgage-backed securities currently held by the Company are issued or guaranteed by FNMA, FHLMC or GNMA. At December 31, 1997, the Company had $217.1 million invested in mortgage-backed securities, of which $37.2 million was invested in adjustable-rate mortgage-backed securities. The Company anticipates that investments in mortgage-backed securities may continue to be used in the future to supplement mortgage lending activities. 22 The following table sets forth the Company's mortgage-backed securities purchases, sales and principal repayments for the years indicated:
FOR THE YEARS ENDED DECEMBER 31, ----------------------------------------- 1997 1996 1995 ----------------------------------------- (IN THOUSANDS) At beginning of year $141,038 $179,300 $174,939 Purchases of mortgage-backed securities 136,063 8,415 21,444 Amortization of unearned premium, net of accretion of unearned discount (473) (908) (849) Net change in unrealized gains (losses) on mortgage-backed securities available for sale 2,830 (2,249) 9,427 Less: Sales of mortgage-backed securities 33,934 4,742 -- Principal repayments received on mortgage-backed securities 28,414 38,778 25,661 ----------------------------------------- Net (decrease) increase in mortgage-backed securities 76,072 (38,262) 4,361 ----------------------------------------- At end of year $217,110 $141,038 $179,300 =========================================
Mortgage-backed securities are more liquid than individual mortgage loans and may be used more easily to collateralize obligations of the Bank. In general, mortgage-backed securities issued or guaranteed by FNMA and FHLMC are weighted at 20% for risk-based capital purposes and GNMA issues are risk-weighted at 0%, compared to the risk weighting assigned to non-securitized whole loans of 50%. While mortgage-backed securities carry a reduced credit risk as compared to whole loans, such securities remain subject to the risk that a fluctuating interest rate environment, along with other factors such as the geographic distribution of the underlying mortgage loans, may alter the prepayment rate of such mortgage loans and so affect both the prepayment speed and value of such securities. The Bank held one collateralized mortgage obligation ("CMO") with a market value of $4.5 million at December 31, 1996 and none at December 31, 1997. The Bank does not have any derivative instruments, including CMO's, with market values that are extremely sensitive to changes in interest rates. 23 The table below sets forth certain information regarding the carrying value, annualized weighted average yields, and maturities of the Company's debt and equity securities at December 31, 1997. The stratification of balances is based on stated maturities. Assumptions for repayments and prepayments are not reflected for mortgage-backed securities.
AT DECEMBER 31, 1997 ------------------------------------------------------------------------------------------------ ONE YEAR ONE TO FIVE TO MORE THAN OR LESS FIVE YEARS TEN YEARS TEN YEARS TOTAL SECURITIES -------------- -------------- -------------- -------------- ------------------------------------ AVERAGE AMOR- WEIGHTED AMOR- WEIGHTED AMOR- WEIGHTED AMOR- WEIGHTED REMAINING AMOR- ESTIMATED WEIGHTED TIZED AVERAGE TIZED AVERAGE TIZED AVERAGE TIZED AVERAGE YEARS TO TIZED MARKET AVERAGE COST YIELD COST YIELD COST YIELD COST YIELD MATURITY COST VALUE YIELD ------ ------ ------- ------ -------- ------ ------ ------- -------- ------- -------- -------- (Dollars in thousands) Securities available for sale: Bonds and other debt securities: U.S. government agencies.... $1,105 5.65% $18,802 6.49% $95,199 6.85% $5,000 6.68% 7.29 $120,106 $120,123 6.78% Corporate debt.............. -- -- 12,049 6.45 198 8.80 1,508 7.73 3.32 13,755 14,365 6.62 Public Utility................ 149 5.50 1,094 6.46 1,004 7.38 -- -- 3.41 2,247 2,271 6.81 ------ ------ ------- ------ ------- ----- ------ ----- ------- ------- -------- ------ Total bonds and other debt securities.................. 1,254 5.63 31,945 6.47 96,401 6.86 6,508 6.92 6.81 136,108 136,759 6.76 ------ ------ ------- ------ ------- ----- ------ ----- ------- ------- -------- ------ Equity securities: Perpetual preferred stock... -- -- 2,201 8.10 309 7.48 258 6.72 -- 2,768 2,843 7.90 ------ ------ ------- ------ ------- ----- ------ ----- ------- ------- -------- ------ Total equity securities... -- -- 2,201 8.10 309 7.48 258 6.72 -- 2,768 2,843 7.90 ------ ------ ------- ------ ------- ----- ------ ----- ------- ------- -------- ------ Mortgage-backed securities: FHLMC....................... -- -- 1,156 7.50 1,527 6.75 31,332 7.62 19.30 34,015 34,120 7.58 FNMA........................ -- -- 1,589 6.37 3,185 6.77 50,785 7.38 20.07 55,559 56,068 7.32 GNMA........................ -- -- -- -- 684 7.97 124,901 7.75 29.21 125,585 126,922 7.75 ------ ------ ------- ------ ------- ----- ------- ----- ------- ------- -------- ------ Total mortgage-backed securities................ -- -- 2,745 6.85 5,396 6.92 207,018 7.64 25.29 215,159 217,110 7.61 ------ ------ ------- ------ ------- ----- ------- ----- ------- ------- -------- ------ Interest-bearing deposits and Federal funds sold...... 84,838 6.36 -- -- -- -- -- -- -- 84,838 84,838 6.36 FHLB - New York stock......... -- -- -- -- -- -- 14,356 7.05 -- 14,356 14,356 7.05 ------ ------ ------- ------ ------- ----- ------- ----- ------- ------- -------- ------ Total securities.......... $86,092 6.35% $36,891 6.60% $102,106 6.86% $228,140 7.58% 14.11 $453,229 $455,906 7.11% ====== ====== ======= ====== ======= ===== ======= ===== ======= ======= ======== ======
24 SOURCES OF FUNDS GENERAL. Deposits, FHLB-NY borrowings, principal and interest payments on loans, mortgage-backed and other securities, and proceeds from sales of loans and securities are the Company's primary sources of funds for lending, investing and other general purposes. DEPOSITS. The Bank offers a variety of deposit accounts having a range of interest rates and terms. The Bank's deposits principally consist of passbook accounts, money market accounts, demand accounts, NOW accounts and certificates of deposit. The Bank has a relatively stable retail deposit base drawn from its market area through its seven full service offices. The Bank seeks to retain existing depositor relationships by offering quality service and competitive interest rates, while keeping deposit growth within reasonable limits. It is management's intention to balance its goal to remain competitive in interest rates on deposits while seeking to manage its cost of funds to finance its strategies. The Bank's core deposits, consisting of passbook accounts, NOW accounts, money market, and non-interest bearing demand accounts, are typically more stable and lower cost than other sources of funding. However, the flow of deposits into a particular type of account is influenced significantly by general economic conditions, changes in money market and prevailing interest rates and competition. During the current low interest rate environment, the Bank experienced a shift by depositors from passbook accounts to higher costing certificate of deposit accounts. Although the Bank has not had to raise interest rates on its deposit accounts to remain competitive, it has had to increase borrowing activity. These trends contributed to the increase in the Company's higher average cost of funds from 4.39% for 1996 to 4.74% for 1997. A continuation of these trends could result in a further increase in the Company's cost of funds and a narrowing of the Company's net interest margin. At December 31, 1997, $29.9 million, or 4.55% of the Bank's total deposits consisted of certificates of deposit accounts with a balance of $100,000 or greater. 25 The following table sets forth the distribution of the Bank's deposit accounts at the dates indicated and the weighted average nominal interest rates on each category of deposits presented.
AT DECEMBER 31, ------------------------------------------------------------------------------------------ 1997 1996 1995 ----------------------------- ----------------------------- ------------------------------ WEIGHTED WEIGHTED WEIGHTED PERCENT AVERAGE PERCENT AVERAGE PERCENT AVERAGE OF TOTAL NOMINAL OF TOTAL NOMINAL OF TOTAL NOMINAL AMOUNT DEPOSITS RATE AMOUNT DEPOSITS RATE AMOUNT DEPOSITS RATE ------ -------- --------- ------ -------- ---------- ------ -------- -------- (DOLLARS IN THOUSANDS) Passbook accounts $201,668 30.74% 2.85% $209,690 35.88% 2.86% $215,578 38.52% 2.86% NOW accounts 23,825 3.63 1.90 21,408 3.66 1.90 19,565 3.49 1.90 Demand accounts 22,089 3.37 -- 10,293 1.76 -- 10,372 1.85 -- Mortgagors' escrow deposits 2,074 0.32 1.17 3,425 0.59 2.00 2,457 0.44 2.00 ----------------------------- ----------------------------- ------------------------------ Total........................ 249,656 38.06 2.49 244,816 41.89 2.64 247,972 44.30 2.66 ----------------------------- ----------------------------- ------------------------------ Money market accounts 23,526 3.59 2.84 25,180 4.31 2.81 27,590 4.93 2.81 Certificate of deposit accounts: $100,000 or more................. 29,855 4.55 5.89 22,047 3.77 5.86 16,819 3.00 5.93 CD's original maturity of: 6 months and less............ 47,747 7.28 5.25 50,228 8.59 5.04 46,617 8.33 5.05 6 to 12 months............... 60,528 9.23 5.53 74,063 12.67 5.15 71,235 12.72 5.70 12 to 30 months.............. 97,250 14.82 5.53 86,853 14.87 6.20 71,297 12.73 6.06 30 to 48 months.............. 18,977 2.89 6.08 15,307 2.62 6.10 10,340 1.85 5.86 48 to 72 months.............. 66,684 10.18 6.40 47,079 8.05 6.10 47,445 8.47 6.25 72 months or more............ 33,083 5.04 6.65 901 0.15 5.90 929 0.17 5.90 IRA and Keogh accounts 23,604 4.36 6.10 18,005 3.08 5.54 19,620 3.50 5.89 ----------------------------- ----------------------------- ------------------------------ Total........................ 382,728 58.35 5.84 314,483 53.80 5.69 284,302 50.77 5.81 ----------------------------- ----------------------------- ------------------------------ Total deposits $655,910 100.00% 4.46% $584,479 100.00% 4.29% $559,864 100.00% 4.27% ============================= ============================= ============================== Weighted average nominal rate as of the year end date equals the stated rate offered.
26 The following table presents by various rate categories, the amount of certificate of deposit accounts outstanding at the dates indicated and the years to maturity of the certificate accounts outstanding at December 31, 1997.
AT DECEMBER 31, 1997 ------------------------------------- AT DECEMBER 31, WITHIN ONE TO ------------------------------ ONE THREE THERE- 1997 1996 1995 YEAR YEARS AFTER TOTAL -------- -------- -------- -------- -------- ------- -------- (DOLLARS IN THOUSANDS) Certificate of deposit accounts: 2.99 or less.................... $625 $37 $47 $392 $134 $99 $625 3.00 to 3.99.................... -- -- 2 -- -- -- -- 4.00 to 4.99.................... 21,265 28,283 21,338 21,265 -- -- 21,265 5.00 to 5.99.................... 220,994 192,557 150,410 155,286 59,719 $5,989 220,994 6.00 to 6.99.................... 124,682 59,822 75,448 34,363 71,985 18,334 124,682 7.00 to 7.99.................... 15,163 33,784 37,057 2,985 8,346 3,832 15,163 8.00 to 8.99.................... -- -- -- -- -- -- -- -------- -------- -------- -------- -------- ------- -------- Total........................... $382,729 $314,483 $284,302 $214,291 $140,184 $28,254 $382,729 ======== ======== ======== ======== ======== ======= ========
The following table presents by various maturity categories the amount of certificate of deposit accounts with balances of $100,000 or more at December 31, 1997 and their annualized weighted average interest rates.
AMOUNT WEIGHTED AVERAGE RATE ---------------------- --------------------------- (DOLLARS IN THOUSANDS) Maturity Period: Three months or less................................ $ 4,063 5.59% Over three through six months....................... 5,299 5.49 Over six through 12 months.......................... 6,104 5.55 Over 12 months...................................... 14,390 6.30 ---------------------- --------------------------- Total................................................... $29,856 5.91% ====================== ===========================
The following table presents the deposit activity of the Bank for the periods indicated.
FOR THE YEARS ENDED DECEMBER 31, -------------------------------- 1997 1996 1995 ------- ------- ------- (DOLLARS IN THOUSANDS) Net deposits/(withdrawals).......... $(6,009) $ 453 $ 5,376 Interest credited on deposits............... 26,566 24,162 22,347 Deposits acquired with New York Federal..... 50,875 -- -- ------- ------- ------- Total increase in deposits.................. $71,432 $24,615 $27,723 ======= ======= ======= - ------------- Includes mortgagors' escrow deposits. Reflects deposits attributable to subscription orders in the Conversion in 1995, in the amounts of $146.0 million deposited and $162.4 million withdrawn.
27 The following table sets forth the distribution of the Bank's average deposit accounts for the years indicated, the percentage of total deposit portfolio, and the average interest cost of each deposit category presented. Average balances for all years shown are derived from daily balances.
FOR THE YEARS ENDED DECEMBER 31, --------------------------------------------------------------------------------------------- 1997 1996 1995 ------------------------------ ------------------------------ ----------------------------- PERCENT PERCENT PERCENT AVERAGE OF TOTAL AVERAGE AVERAGE OF TOTAL AVERAGE AVERAGE OF TOTAL AVERAGE BALANCE DEPOSITS COST BALANCE DEPOSITS COST BALANCE DEPOSITS COST -------- -------- ------- -------- --------- ------- -------- -------- ------- (DOLLARS IN THOUSANDS) Passbook accounts................. $206,196 33.56% 2.85% $214,843 37.55% 2.86% $227,740 40.73% 2.84% NOW accounts...................... 22,679 3.69 1.90 19,483 3.41 1.90 18,520 3.31 1.88 Demand accounts................... 12,306 2.00 -- 10,230 1.79 -- 12,865 2.30 -- Mortgagors' escrow deposits....... 6,044 0.98 1.17 4,292 0.75 1.47 4,136 0.74 1.38 Total............................. 247,225 40.23 2.58 248,848 43.50 2.64 263,261 47.08 2.61 Money market accounts............. 24,367 3.97 2.84 26,470 4.63 2.80 31,145 5.57 2.79 Subscription deposits............. -- -- -- -- -- -- 4,261 0.76 2.77 Certificate of deposit accounts... 342,898 55.80 5.68 296,867 51.87 5.68 260,462 46.59 5.60 ------- -------- ------- -------- -------- ------- -------- -------- ------- Total deposits.................... $614,490 100.00% 4.32% $572,185 100.00% 4.22% $559,129 100.00% 4.01% ======== ======== ======= ======== ======== ======= ======== ======== =======
BORROWINGS. Although deposits are the Bank's primary source of funds, the Bank has increased utilization of borrowings as an alternative and cost effective source of funds for lending, investing and other general purposes. Upon the Bank's conversion from a New York State chartered mutual savings bank to a federally chartered mutual savings bank on May 10, 1994, the Bank became a member of, and became eligible to obtain advances from, the FHLB-NY. Such advances generally are secured by a blanket lien against the Bank's mortgage portfolio and the Bank's investment in the stock of the FHLB-NY. See "Regulations -- Federal Home Loan Bank System". The maximum amount that the FHLB-NY will advance for purposes other than for meeting withdrawals fluctuates from time to time in accordance with the policies of the FHLB-NY. 28 The following table sets forth certain information regarding the Bank's borrowed funds at or for the periods ended on the dates indicated.
AT OR FOR THE YEARS ENDED DECEMBER 31, ------------------------------------------- 1997 1996 1995 ---------- ----------- --------- (DOLLARS IN THOUSANDS) SECURITIES SOLD WITH THE AGREEMENT TO REPURCHASE: Average balance outstanding.................................... $6,986 -- $395 Maximum amount outstanding at any month end during the period........................................... $100,000 -- 5,000 Balance outstanding at the end of period....................... $100,000 -- -- Weighted average interest rate during the period............... 5.83% -- 6.11% Weighted average interest rate at end of period................ 5.83% -- -- FHLB-NY ADVANCES:.............................................. Average balance outstanding.................................... $104,304 $36,396 $4,767 Maximum amount outstanding at any month end during the period........................................... 187,112 51,000 10,000 Balance outstanding at the end of period....................... 187,112 51,000 -- Weighted average interest rate during the period............... 6.34% 5.77% 7.00% Weighted average interest rate at end of period................ 6.34% 5.85% -- OTHER BORROWINGS: Average balance outstanding.................................... $75 -- -- Maximum amount outstanding at any month end during the period........................................... $75 -- -- Balance outstanding at the end of period....................... $75 -- -- Weighted average interest rate during the period............... -- -- -- Weighted average interest rate at end of period................ -- -- -- TOTAL BORROWINGS: Average balance outstanding.................................... $111,365 $36,396 $5,162 Maximum amount outstanding at any month end during the period........................................... 287,187 51,000 15,000 Balance outstanding at the end of period....................... 287,187 51,000 -- Weighted average interest rate during the period............... 6.16% 5.77% 6.93% Weighted average interest rate at end of period................ 6.16% 5.85% --
SUBSIDIARY ACTIVITIES At December 31, 1997, the Bank had three wholly-owned subsidiaries: FSB Properties, Inc. ("Properties"), Flushing Preferred Funding Corporation ("FPFC") and 780 East 138th Street Property Corporation ("780 Corp."). (a) Properties was formed in 1976 under the Bank's New York State leeway investment authority. The original purpose of Properties was to engage in joint venture real estate equity investments. These activities were discontinued by the Bank in 1986. The last joint venture in which Properties was a partner dissolved in 1989. 29 (b) FPFC was formed in the fourth quarter of 1997 as a real estate investment trust for the purpose of acquiring, holding and managing real estate mortgage assets. (c) 780 Corp. was formed by New York Federal prior to its acquisition by the Company to take title to foreclosed properties. 780 Corp. is currently inactive. In the first quarter of 1998, the Bank formed a fourth subsidiary, Flushing Service Corporation ("Service Corp."), to market insurance products and mutual funds. The insurance products and mutual funds sold are products of unrelated insurance and securities firms from which Service Corp. earns a commission. PERSONNEL At December 31, 1997, the Bank had 177 full-time employees and 51 part-time employees. None of the Bank's employees are represented by a collective bargaining unit, and the Bank considers its relationship with its employees to be good. 30 RISK FACTORS In addition to the other information contained in this Annual Report on Form 10-K, the following factors and other considerations should be considered carefully in evaluating the Company, the Bank and their business. EFFECT OF INTEREST RATES Like most financial institutions, the Company's results of operations depends to a large degree on its net interest income. When interest-bearing liabilities mature or reprice more quickly than interest-earning assets, a significant increase in market interest rates could adversely affect net interest income. Conversely, under such circumstances, a significant decrease in market interest rates could result in increased net interest income. As a general matter, the Company seeks to manage its business to limit its overall exposure to interest rate fluctuations. However, fluctuations in market interest rates are neither predictable nor controllable and may have a material adverse impact on the operations and financial condition of the Company. Prevailing interest rates also affect the extent to which borrowers prepay and refinance loans. Declining interest rates tend to result in an increased number of loan prepayments and loan refinancings to lower than original interest rates, as well as prepayments of mortgage-backed securities. Such prepayments adversely affect the average yield on the Company's loan and mortgage-backed securities portfolio, the value of mortgage loans and mortgage-backed securities in the Company's portfolio, the levels of such assets that are retained by the Company, net interest income and loan servicing income. However, the Bank may receive additional loan fees when existing loans are refinanced, which may partially offset reduced yield on the Bank's loan portfolio resulting from prepayments. In periods of low interest rates, the Bank's level of core deposits also may decline if depositors seek higher yielding instruments or other investments not offered by the Bank, which in turn may increase the Bank's cost of funds and decrease its net interest margin to the extent alternative funding sources are utilized. LENDING ACTIVITIES Multi-family and commercial real estate loans, the increased origination of which is part of management's strategy, are generally viewed as exposing the lender to a greater risk of loss than fully underwritten one-to-four family residential loans and typically involve higher principal amounts per loan. Repayment of multi-family and commercial real estate loans generally is dependent, in large part, upon sufficient income from the property to cover operating expenses and debt service. Economic events and government regulations, which are outside the control of the borrower or lender, also could affect the value of the security for the loan or the future cash flow of the affected properties. As a result of management's strategy to increase its originations of one-to-four family mortgage loans through more aggressive marketing, and the Bank's commitment to be a community-oriented bank, the Bank increased substantially the origination of residential mortgage loans to self-employed individuals within the Bank's local community without verification of the borrower's level of income. These loans involve a higher degree of risk as compared to the Bank's other fully underwritten residential mortgage loans as there is a greater opportunity for borrowers to falsify or overstate their level of income and ability to service indebtedness. To mitigate this risk, the Bank typically limits the amount of these loans to 70% of the appraised value or sale price, whichever is less. These loans are not as readily salable in the secondary market as the Bank's other fully underwritten loans, either as whole loans or when pooled or securitized. The future earnings prospects of the Bank will be affected by the Bank's ability to compete effectively with other financial institutions and to implement its business strategies. There can be no assurance that the Bank will 31 be able to successfully implement its business strategies. In assessing the future earnings prospects of the Bank, investors should consider, among other things, the Bank's level of origination of one-to-four family loans, the Bank's proposed increased emphasis on commercial real estate and multi-family loans and the greater risks associated with such loans. See "Business -- Lending Activities". LOCAL ECONOMIC CONDITIONS Although general economic conditions in the New York City metropolitan area have improved since the early 1990's, there can be no assurance that the local economy will continue to improve or remain at current conditions. A decline in the local economy, national economy or metropolitan area real estate market could adversely affect the financial condition and results of operations of the Company, including through decreased demand for loans or increased competition for good loans, increased non-performing loans and loan losses and resulting additional provisions for loan losses and for losses on real estate owned. Although management of the Bank believes that the current allowance for loan losses is adequate in light of current economic conditions, many factors may require additions to the allowance for loan losses in future periods above those reasonably anticipated. These factors include: (i) adverse changes in economic conditions and changes in interest rates that may affect the ability of borrowers to make payments on loans, (ii) changes in the financial capacity of individual borrowers, (iii) changes in the local real estate market and the value of the Bank's loan collateral, and (iv) future review and evaluation of the Bank's loan portfolio, internally or by regulators. The amount of the allowance for loan losses at any time represents good faith estimates that are susceptible to significant changes due to changes in appraisal values of collateral, national and regional economic conditions, prevailing interest rates and other factors. See "Business Allowance for Loan Losses." YEAR 2000 COMPLIANCE The Company utilizes and is dependent upon data processing systems and software to conduct its business. The data processing systems and software include those developed and maintained by the Company's third party data processing vendor and purchased software run on in-house computer networks. As the year 2000 approaches, a critical business issue has emerged regarding how existing application software programs and operating systems can accommodate this date value. As a result, in 1997, the Company established a year 2000 task force to assure that its computer systems will function properly in the year 2000. The task force has contacted the Company's data processing vendor and software suppliers to determine whether the systems used by the Company are year 2000 compliant and, if not, to assess the corrective steps being taken. The Company's data processing vendor and the majority of the other vendors which have been contacted have indicated that their hardware and/or software will be year 2000 compliant. Testing will be performed for compliance and regular monthly reports will be submitted to the Company's Board of Directors by the task force. While their may be some expense incurred during the next two years, year 2000 compliance is not expected to have a material effect on the Company's consolidated financial condition, results of operations or cash flows. See "Regulation--Year 2000 Compliance." PENDING LEGISLATION Legislation has been enacted that provides for a merger of the two deposit insurance funds administered by the FDIC on January 1, 1999, if there are no savings associations in existence on that date. Pursuant to that legislation, the United States Treasury Department in May 1997 recommended in a report to Congress that separate charters for thrifts and banks be abolished. Various proposals to eliminate the federal thrift charter, create a uniform financial institutions charter, conform holding company regulation and abolish the OTS have been introduced in Congress. The House Committee on Banking and Financial Services has considered and reported H.R. 10, the Financial Services Competition Act of 1997, including Title III, the "Thrift Charter Transition Act of 1997." 32 This act would (i) require federal savings associations to convert to national banks or some type of state charter within two years of enactment; (ii) merge the two deposit insurance funds administered by the FDIC; and (iii) combine the OTS with the Office of the Comptroller of the Currency. A converted federal thrift generally would be permitted to continue to engage in any activity, including the holding of any asset, lawfully conducted on the date prior to enactment, retain all branches established or proposed in a pending application as of enactment and establish new branches in any state in which it has a branch. Otherwise it may establish new branches only under national bank rules. Beginning two years after enactment, national banks would be authorized to exercise all powers formerly authorized for federal savings associations. Under H.R. 10, holding companies for converted savings associations generally would become subject to the same regulation as bank holding companies, with a grandfather provision for former unitary savings and loan companies. Grandfathered companies would be permitted to maintain and establish affiliations with any type of company and to acquire additional depository institutions, as long as any acquired depository institution is merged into its converted savings association and such institution continues to comply with both the qualified thrift lender test and certain asset and investment limitations to which it was subject as a federal savings association. H.R. 10, if adopted, would substantially repeal the Glass-Steagall Act restrictions on bank affiliations with securities firms and thereby allow commercial banking and investment banking to be combined. It would also repeal restrictions on bank affiliations with insurance companies. Various revisions and alternatives to H.R. 10 have been proposed. There can be no assurance as to whether H.R. 10 or any other such legislation will be enacted or what the provisions of any such final legislation may be. As a result, management cannot accurately predict the possible impact of such legislation on the Bank or the Company. See "Regulations--Insurance of Accounts." LEGISLATION AND PROPOSED CHANGES From time to time, legislation is enacted which has the effect of increasing the cost of doing business, limiting or expanding permissible activities or affecting the competitive balance between banks and other financial institutions. Proposals to change the laws and regulations governing the operations and taxation of banks and other financial institutions are frequently made in Congress, in the New York legislature and before various bank regulatory agencies. No prediction can be made as to the likelihood of any major changes or the impact such changes might have on the Bank or the Company. CERTAIN ANTI-TAKEOVER PROVISIONS On September 17, 1996, the Company adopted a Stockholder Rights Plan (the "Rights Plan") designed to preserve long-term values and protect stockholders against stock accumulations and other abusive tactics to acquire control of the Company. Under the Rights Plan, each stockholder of record at the close of business on September 30, 1996 received a dividend distribution of one right to purchase from the Company one one-hundredth of a share of a new series of junior participating preferred stock at a price of $64, subject to certain adjustments. The rights will become exercisable only if any person or group acquires 15% or more of the Common Stock or commences a tender or exchange offer which, if consummated, would result in that person or group owning at least 15% of the Common Stock (the "acquiring person or group"). In such case, all stockholders other than the acquiring person or group will be entitled to purchase, by paying the $64 exercise price, Common Stock (or a common stock equivalent) with a value of twice the exercise price. In addition, at any time after such event, and prior to the acquisition by any person or group of 50% or more of the Common Stock, the Board of Directors may, at its option, require each outstanding right 33 (other than rights held by the acquiring person or group) to be exchanged for one share of Common Stock (or one common stock equivalent). The rights expire on September 30, 2006. The Rights Plan, as well as certain provisions of the Company's Certificate of Incorporation and Bylaws, the Bank's federal Stock charter and Bylaws, certain federal regulations and provisions of Delaware corporation law, and certain provisions of remuneration plans and agreements applicable to employees and officers of the Bank may have anti-takeover effects by discouraging potential proxy contests and other takeover attempts, particularly those which have not been negotiated with the Board of Directors. The Rights Plan and these provisions, as well as applicable regulatory restrictions, may also prevent or inhibit the acquisition of a controlling position in the Common Stock and may prevent or inhibit takeover attempts that certain stockholders may deem to be in their or other stockholders' interest or in the interest of the Company or the Bank, or in which stockholders may receive a substantial premium for their shares over then current market prices. The Rights Plan and these provisions may also increase the cost of, and thus discourage, any such future acquisition or attempt, and would render the removal of the current Board of Directors or management of the Bank or the Company more difficult. FEDERAL, STATE AND LOCAL TAXATION The following discussion of tax matters is intended only as a summary and does not purport to be a comprehensive description of the tax rules applicable to the Bank or the Company. FEDERAL TAXATION GENERAL. The Company and the Bank will report their income using a calendar year and the accrual method of accounting. The Company and the Bank are both subject to the federal tax laws and regulations which apply to corporations generally, including, since the enactment of the Small Business Job Protection Act in 1996 (the "Act"), those governing the Bank's deductions for bad debts, described below. BAD DEBT RESERVES. Prior to the enactment of the Act, which was signed into law on August 20, 1996, savings institutions which met certain definitional tests primarily relating to their assets and the nature of their business ("qualifying thrifts"), such as the Bank, were allowed deductions for bad debts under methods more favorable than those granted to other taxpayers. Qualifying thrifts could compute deductions for bad debts using either the specific charge off method of Section 166 of the Internal Revenue Code (the "Code") or the reserve method of Section 593 of the Code. Prior to its modification by the Act, Section 593 permitted a qualifying thrift to establish a reserve for bad debts and to make annual additions thereto, which, within specified formula limits, could be deducted in arriving at its taxable income. A qualifying thrift could elect annually to compute its allowable deduction to bad debt reserves for "qualifying real property loans," generally loans secured by certain interests in real property, under either (i) the "percentage of taxable income" method applicable only to thrift institutions, or (ii) the "experience" method that also was available to small banks. Under the "percentage of taxable income" method, subject to certain limitations, a qualifying thrift generally was allowed a deduction for an addition to its bad debt reserve equal to 8% of its taxable income (determined without regard to this deduction and with additional adjustments). Under the experience method, a qualifying thrift was generally allowed a deduction for an addition to its bad debt reserve equal to the greater of (i) an amount based on its actual average experience for losses in the current and five preceding taxable years, or (ii) an amount necessary to restore the reserve to its balance as of the close of the base year, defined as the last taxable year beginning before January 1, 1988. The Bank's deduction for additions to its bad debt reserve with respect to non-qualifying loans had to be computed under the experience method. Any deduction for the addition to the reserve for non-qualifying loans reduced the maximum permissible addition to the reserve for qualifying real property loans calculated under the percentage of taxable income method. 34 Section 1616(a) of the Act repealed the Section 593 reserve method of accounting for bad debts by qualifying thrifts, effective for taxable years beginning after 1995. Qualifying thrifts that are treated as large banks, such as the Bank, are required to use the specific charge off method, pursuant to which the amount of any debt may be deducted only as it actually becomes wholly or partially worthless. A thrift institution required to change its method of computing reserves for bad debt is required to treat such change as a change in the method of accounting, initiated by the taxpayer and having been made with the consent of the Secretary of the Treasury. Section 481(a) of the Code requires certain amounts to be recaptured with respect to such change. Generally, the amount of the thrift institution's "applicable excess reserves" must be included in income ratably over a six-taxable year period, beginning with the first taxable year beginning after 1995. In the case of a thrift institution that is treated as a large bank, such as the Bank, the amount of the institution's applicable excess reserves generally is the excess of (i) the balances of its reserve for losses on qualifying real property loans and its reserve for losses on nonqualifying loans as of the close of its last taxable year beginning before January 1, 1996, over (ii) the balances of such reserves as of the close of its last taxable year beginning before January 1, 1988 (i.e., the "pre-1988 reserves"). The Bank's applicable excess reserves as of December 31, 1995 were approximately $20,000. For the taxable year ending December 31, 1996, the repeal of the bad debt reserve deduction resulted in an increased federal income tax liability of approximately $121,000. DISTRIBUTIONS. To the extent that the Bank makes "nondividend distributions" to shareholders that are considered to result in distributions from the pre-1988 reserves or the supplemental reserve for losses on loans ("excess distributions"), then an amount based on the amount distributed will be included in the Bank's taxable income. Nondividend distributions include distributions in excess of the Bank's current and post-1951 accumulated earnings and profits, as calculated for federal income tax purposes, distributions in redemption of stock and distributions in partial or complete liquidation. The amount of additional taxable income resulting from an excess distribution is an amount that when reduced by the tax attributable to the income is equal to the amount of the excess distribution. Thus, slightly more than one and one-half times the amount of the excess distribution made would be includable in gross income for federal income tax purposes, assuming a 35% federal corporate income tax rate. See "Restrictions on Dividends and Capital Distributions" under "Regulation" for limits on the payment of dividends by the Bank. The Bank does not intend to pay dividends or make non-dividend distributions described above that would result in a recapture of any portion of its pre-1988 bad debt reserves. CORPORATE ALTERNATIVE MINIMUM TAX. The Code imposes an alternative minimum tax (the "AMT") on corporations equal to the excess, if any, of 20% of alternative minimum taxable income ("AMTI") over a corporation's regular federal income tax liability. AMTI is equal to taxable income with certain adjustments. Only 90% of AMTI can be offset by net operating loss carryforwards. STATE AND LOCAL TAXATION NEW YORK STATE AND NEW YORK CITY TAXATION. The Bank is subject to the New York State Franchise Tax on Banking Corporations in an annual amount equal to the greater of (i) 9% of "entire net income" allocable to New York State during the taxable year or (ii) the applicable alternative minimum tax. The alternative minimum tax is generally the greater of (a) 0.01% of the value of assets allocable to New York State with certain modifications, (b) 3% of "alternative entire net income" allocable to New York State or (c) $250. Entire net income is similar to federal taxable income, subject to certain modifications (including that net operating losses cannot be carried back or carried forward), and alternative entire net income is equal to entire net income without certain deductions which are allowable in the calculation of entire net income. The Bank also is subject to a similarly calculated New York City tax of 9% on income allocated to New York City and similar alternative taxes. In addition, the Bank is subject to a temporary Metropolitan Transportation Business Tax Surcharge for 35 tax years ending before December 31, 2001, at a rate of 17% of the New York State Franchise Tax. Notwithstanding the repeal of the federal income tax provisions permitting bad debt deductions under the reserve method, New York State has enacted legislation maintaining the preferential treatment of loss reserves for qualifying real property loans of qualifying thrifts for both New York State and New York City tax purposes. For these purposes, the applicable percentage to calculate the bad debt deduction under the percentage of taxable income method is 32% of taxable income, subject to the following limitations: (i) the amount of the addition to the reserve cannot exceed the amount necessary to increase the balance of the reserve for losses on qualifying real property loans at the close of the taxable year to 6% of the balance of the qualifying real property loans outstanding at the end of the taxable year and (ii) the reserves for losses on qualifying real property and non-qualifying loans cannot exceed the amount by which 12% of the amount of the total deposits or withdrawable accounts of depositors of the Bank at the close of the taxable year exceeds the sum of the Bank's surplus, undivided profits and reserves at the beginning of such year. The new legislation also allows an exclusion from entire net income for New York State and New York City tax purposes for any amounts a thrift is required to include in federal taxable income as a recapture of its bad debt reserve as a consequence of the Act. DELAWARE STATE TAXATION. As a Delaware holding company not earning income in Delaware, the Company is exempt from Delaware corporate income tax but is required to file an annual report with and pay an annual franchise tax to the State of Delaware. 36 REGULATION GENERAL On May 10, 1994, the Bank converted from a New York State chartered mutual savings bank to a federally chartered mutual savings bank pursuant to Section 5(o) of the Home Owners' Loan Act, as amended ("HOLA"). On that date, the OTS replaced the New York State Banking Department (the "Banking Department") as the Bank's chartering authority and the FDIC as the Bank's primary federal regulator. Although the FDIC is no longer the primary federal regulator of the Bank, the Bank remains subject to regulation and examination by the FDIC as its deposit insurer. The FDIC administered fund which insures the Bank's deposits is the BIF. The Bank's deposits are insured up to the applicable limits permitted by law. See "--Insurance of Accounts" and "Risk Factors--Pending Legislation." The Bank is also subject to certain regulations promulgated by the Federal Reserve Board. Moreover, in connection with converting to a federal charter, the Bank has become a member of the FHLB-NY. The activities of federal savings institutions are governed by HOLA and, in certain respects, the Federal Deposit Insurance Act ("FDIA"). Most regulatory functions relating to deposit insurance and to conservatorships and receiverships of insured institutions are exercised by the FDIC. The Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA"), among other things, requires that federal banking regulators intervene promptly when a depository institution experiences financial difficulties, mandated the establishment of a risk-based deposit insurance assessment system and required imposition of numerous additional safety and soundness operational standards and restrictions. FDICIA and the Financial Institutions Reform, Recovery, and Enforcement Act of 1989 ("FIRREA") each contain provisions affecting numerous aspects of the operations and regulations of federal savings banks and empowers the OTS and the FDIC, among other agencies, to promulgate regulations implementing its provisions. The OTS has extensive authority over the operations of the Bank. As part of this authority, the Bank is required to file periodic reports with the OTS and is subject to periodic examinations by the OTS and back-up examinations by the FDIC. The Company, as a savings and loan holding company, is required to file certain reports with, and otherwise comply with the rules and regulations of, the OTS. The Company also is subject to regulation under the federal securities laws. Set forth below is a brief description of certain laws and regulations which relate to the regulation of the Bank and the Company. The description does not purport to be a comprehensive description of applicable laws, rules and regulations and is qualified in its entirety by reference to applicable laws, rules and regulations. INVESTMENT POWERS The Bank is subject to comprehensive regulation governing its investments and activities. Among other things, the Bank may invest in (i) residential mortgage loans, education loans and credit card loans in an unlimited amount, (ii) non-residential real estate loans up to 400% of total capital, (iii) commercial business loans up to 20% of assets (however, amounts over 10% of total assets must be used only for small business loans) and (iv) in general, consumer loans and highly rated commercial paper and corporate debt securities in the aggregate up to 35% of assets. In addition, the Bank may invest up to 3% of its assets in service corporations, an unlimited percentage of its assets in operating subsidiaries (which may only engage in activities permissible for the Bank itself) and under certain conditions may invest in finance subsidiaries. Other than investments in service corporations, operating subsidiaries, finance subsidiaries and stock of government-sponsored agencies, such as FHLMC and FNMA, the Bank generally is not permitted to make equity investments. See "Business--Investment Activities." A service corporation in which the Bank may invest is permitted to engage in activities reasonably 37 related to the activities of a federal savings bank as the OTS may approve on a case by case basis and certain activities preapproved by the OTS, which, among other things, include providing certain support services for the institution; originating, investing in, selling, purchasing, servicing or otherwise dealing with specified types of loans and participations (principally loans that the parent institution could make); specified real estate activities, including limited real estate development, securities brokerage services; certain insurance brokerage activities, and other specified investments and services. REAL ESTATE LENDING STANDARDS FDICIA requires each federal banking agency to adopt uniform regulations prescribing standards for extensions of credit (i) secured by real estate, or (ii) made for the purpose of financing the construction of improvements on real estate. In prescribing these standards, the banking agencies must consider the risk posed to the deposit insurance funds by real estate loans, the need for safe and sound operation of insured depository institutions and the availability of credit. The OTS and the other federal banking agencies adopted uniform regulations, effective March 19, 1993. The OTS regulation requires each savings association to establish and maintain written internal real estate lending standards consistent with safe and sound banking practices and appropriate to the size of the institution and the nature and scope of its real estate lending activities. The policy must also be consistent with accompanying OTS guidelines, which include maximum loan-to-value ratios for the following types of real estate loans: raw land (65%), land development (75%), nonresidential construction (80%), improved property (85%) and one-to-four family residential construction (85%). Owner-occupied one-to-four family mortgage loans and home equity loans do not have maximum loan-to-value ratio limits, but those with a loan-to-value ratio at origination of 90% or greater are to be backed by private mortgage insurance or readily marketable collateral. Institutions are also permitted to make a limited amount of loans that do not conform to the proposed loan-to-value limitations so long as such exceptions are appropriately reviewed and justified. The guidelines also list a number of lending situations in which exceptions to the loan-to-value standard are justified. LOANS-TO-ONE BORROWER LIMITS The Bank generally is subject to the same loans-to-one borrower limits that apply to national banks. With certain exceptions, loans and extensions of credit outstanding at one time to one borrower (including certain related entities of the borrower) may not exceed 15% of the Bank's unimpaired capital and surplus, plus an additional 10% of unimpaired capital and surplus for loans fully secured by certain readily marketable collateral. At December 31, 1997, the largest amount the Bank could lend to one borrower was approximately $20.5 million, and at that date, the Bank's largest aggregate amount of loans-to-one borrower was $14.1, all of which was performing according to its terms. See "Business--Lending Activities." INSURANCE OF ACCOUNTS The deposits of the Bank are insured up to $100,000 per depositor (as defined by law and regulations) by the BIF, which is administered by the FDIC. As insurer, the FDIC is authorized to conduct examinations of, and to require reporting by, insured institutions. It also may prohibit any insured institution from engaging in any activity the FDIC determines by regulation or order to pose a serious threat to the BIF. The FDIC also has the authority to initiate enforcement actions where the OTS has failed or declined to take such action after receiving a request to do so from the FDIC. Effective January 1, 1994, a risk-based assessment system was implemented by the FDIC. Under the system, the FDIC assigns each institution to one of three capital categories -- "well capitalized," "adequately capitalized" and "undercapitalized" -- which are defined in the same manner as the regulations establishing the prompt corrective action system under Section 38 of FDIA, as discussed below. These three categories are then divided into three 38 subcategories which reflect varying levels of supervisory concern. The matrix so created results in nine assessment risk classifications. Assessment rates during 1994 and most of 1995 ranged from $0.23 per $100 of deposits for an institution in the highest category to $0.31 of deposits for an institution in the lowest category. On August 8, 1995, the FDIC amended its regulation on assessments to establish a new assessment rate schedule for the BIF ranging from $0.04 per $100 of deposits for an institution in the highest category to $0.31 per $100 of deposits for an institution in the lowest category. The FDIC's new rate schedule for the BIF was made effective with the first day of the month following the month in which the BIF achieved full capitalization to the statutory required 1.25% reserve ratio, which occurred in the second half of 1995. The Bank paid $1.3 million in federal deposit insurance premiums to the BIF for the year ended December 31, 1994. As a result of the lowering of BIF rates in August 1995, the Bank paid $824,000 in deposit insurance premiums for the year ended December 31, 1995. Thereafter, the FDIC voted to reduce the BIF assessment schedule even further so that most BIF members, including the Bank, paid a statutory minimum annual assessment rate of $2,000 for 1996. As of the date of this Report, the annual FDIC assessment rate for BIF member institutions varies between 0.00% to 0.27% per annum. At December 31, 1997, the Bank's annual assessment rate was 0.00%. The Bank's assessment rate in effect from time to time will depend upon the capital category and supervisory subcategory to which the Bank is assigned by the FDIC. In addition, the FDIC is authorized to increase federal deposit insurance assessment rates for BIF members to the extent necessary to protect the BIF and, under current law, would be required to increase such rates to $0.23 per $100 of deposits if the BIF reserve ratio again falls below the required 1.25%. Any increase in deposit insurance assessment rates, as a result of a change in the category or subcategory to which the Bank is assigned or the exercise of the FDIC's authority to increase assessment rates generally, could have an adverse effect on the earnings of the Bank. Under the FDIA, insurance of deposits may be terminated by the FDIC upon a finding that the institution has engaged in unsafe or unsound practices, is in an unsafe or unsound condition to continue operations or has violated any applicable law, regulation, rule, order or condition imposed by the FDIC. The management of the Bank does not know of any practice, condition or violation that might lead to termination of deposit insurance. On September 30, 1996, as part of an omnibus appropriations bill, the Deposit Insurance Funds Act of 1996 (the "Funds Act") was enacted. The Funds Act eliminated the deposit insurance premium disparity that existed since the second half of 1995 between banks insured by the BIF and thrifts insured by the Savings Association Insurance Fund ("SAIF"). The Act (i) required SAIF institutions to pay a one-time special assessment to bring the SAIF's reserve ratio up to 1.25%, (ii) requires BIF institutions, beginning January 1, 1997, to pay a portion of the interest due on the Finance Corporation ("FICO") bonds issued in connection with the savings and loan association crisis in the late 1980s, and (iii) requires BIF institutions to pay their full pro rata share of the FICO payments starting the earlier of January 1, 2000 or the date at which no savings institution continues to exist. Beginning January 1, 1997, the FICO assessment on SAIF institutions is at the rate of $0.065 per $100 of deposits and the FICO assessment on BIF institutions is at the rate of $0.013 per $100 of deposits. These rates are subject to change. The Bank paid $87,000 for its share of the interest due on FICO bonds in 1997. Congress is considering various proposals to merge the BIF with the SAIF. See "Risk Factors--Pending Legislation." Adoption of any of these proposals might increase the cost of deposit insurance for all BIF insured institutions, including the Bank. 39 LIQUIDITY REQUIREMENTS The Bank is subject to OTS regulations that require maintenance of an average daily balance of liquid assets (cash and certain securities with detailed maturity limitations and marketability requirements) equal to a monthly average of not less than a specified percentage of its net withdrawable deposit accounts plus short-term borrowings. The OTS may vary the amount of the liquidity requirement by regulation, but only within pre-established statutory limits of no less than 4% and no greater than 10%. For 1996 and the greater part of 1997, OTS regulation set the liquidity requirement at 5%, with a 1% short term liquidity requirement. Amendments to OTS regulations, effective November 27, 1997, reduced the liquidity requirement from 5% to 4% and removed the 1% short term liquidity requirement. In addition, these amendments eliminated the requirement that obligations of FNMA, GNMA and FHLMC must have five years or less remaining until maturity to qualify as a liquid asset. At December 31, 1996 and 1997, the Bank's liquidity ratio, computed in accordance with the OTS requirements prior to the amendment (and therefore excluding FNMA, GNMA and FHLMC obligations with maturities greater than five years), was 10.91% and 13.45%, respectively. At December 31, 1997, the Bank's liquidity ratio, computed in accordance with the OTS requirements, as amended, was 24.53%. Unlike the Bank, the Company is not subject to OTS regulatory requirements on the maintenance of minimum levels of liquid assets. QUALIFIED THRIFT LENDER TEST Institutions regulated by the OTS are required to meet a qualified thrift lender ("QTL") test to avoid certain restrictions on their operations. FDICIA and applicable OTS regulations require such institutions to maintain at least 65% of its portfolio assets (total assets less intangibles, properties used to conduct the institution's business and liquid assets not exceeding 20% of total assets) in "qualified thrift investments" on a monthly average basis in nine of every 12 months. Qualified thrift investments constitute primarily residential mortgage loans and related investments, including certain mortgage-backed and mortgage-related securities. A savings institution that fails the QTL test must either convert to a bank charter or, in general, it will be prohibited from: (i) making an investment or engaging in any new activity not permissible for a national bank, (ii) paying dividends not permissible under national bank regulations, (iii) obtaining advances from any FHLB, and (iv) establishing any new branch office in a location not permissible for a national bank in the institution's home state. One year following the institution's failure to meet the QTL test, any holding company parent of the institution must register and be subject to supervision as a bank holding company. In addition, beginning three years after the institution failed the QTL test, the institution would be prohibited from refinancing any investment or engaging in any activity not permissible for a national bank and would have to repay any outstanding advances from an FHLB as promptly as possible. At December 31, 1997, the Bank had maintained more than 65% of its "portfolio assets" in qualified thrift investments in at least nine of the preceding 12 months. Accordingly, on that date, the Bank had met the QTL test. On September 30, 1996, as part of the omnibus appropriations bill, Congress enacted the Economic Growth and Paperwork Reduction Act of 1996 ("Regulatory Paperwork Reduction Act"), modifying and expanding investment authority under the QTL test. Prior to the enactment of the Regulatory Paperwork Reduction Act, commercial, corporate, business, or agricultural loans were limited in the aggregate to 10% of a thrift's assets and education loans were limited to 5% of a thrift's assets. Further, federal savings associations meeting a different asset test under the Code (the "domestic building and loan association test") were qualified for favorable tax treatment. The amendments permit federal thrifts to invest in, sell, or otherwise deal in education and credit card loans without limitation and raise from 10% to 20% of total assets the aggregate amount of commercial, corporate, business, or agricultural loans or investments that may be made by a thrift, subject to a requirement that amounts in excess of 10% of total assets be used only for small business loans. In addition, the legislation defines "qualified thrift investment" to include, without limit, education, small business, and credit card loans; and removes the 10% limit on personal, family, or household loans for purposes of the QTL test. The 40 legislation also provides that a thrift meets the QTL test if it qualifies as a domestic building and loan association under the Code. TRANSACTIONS WITH AFFILIATES Transactions between the Bank and any related party or "affiliate" are governed by Sections 23A and 23B of the Federal Reserve Act. An affiliate is any company or entity which controls, is controlled by or is under common control with the Bank, including the Company, the Bank's subsidiaries, and any other subsidiary of the Bank or the Company that may be formed or acquired in the future. Generally, Sections 23A and 23B (i) limit the extent to which the Bank or its subsidiaries may engage in "covered transactions" with any one affiliate to an amount equal to 10% of the Bank's capital stock and surplus, and impose an aggregate limit on all such transactions with all affiliates to an amount equal to 20% of such capital stock and surplus, and (ii) require that all such transactions be on terms substantially the same, or at least as favorable, to the Bank or subsidiary as those provided to a non-affiliate. Each loan or extension of credit to an affiliate by the Bank must be secured by collateral with a market value ranging from 100% to 130% (depending on the type of collateral) of the amount of credit extended. The term "covered transaction" includes the making of loans, purchase of assets, issuance of a guarantee and other similar types of transactions. In addition, the Bank may not (i) loan or otherwise extend credit to an affiliate, except to any affiliate which engages only in activities which are permissible for bank holding companies under Section 4(c) of the Bank Company Act, or (ii) purchase or invest in any stocks, bonds, debentures, notes or similar obligations of any affiliates, except subsidiaries of the Bank. In addition, the Bank is subject to Regulation O promulgated under Sections 22(g) and 22(h) of the Federal Reserve Act. Regulation O requires that loans by the Bank to a director, executive officer or to a holder of more than 10% of the Common Stock, and to certain affiliated interests of such insiders, may not, in the aggregate, exceed the Bank's loans-to-one borrower limit. Loans to insiders and their related interests must also be made on terms substantially the same as offered, and follow credit underwriting procedures that are not less stringent than those applied, in comparable transactions to other persons, with prior Board approval required for certain loans. In addition, the aggregate amount of extensions of credit by the Bank to all insiders cannot exceed the institution's unimpaired capital and surplus. Section 22(g) places additional restrictions on loans to executive officers of the Bank. RESTRICTIONS ON DIVIDENDS AND CAPITAL DISTRIBUTIONS The Bank is subject to OTS limitations on capital distributions, which include cash dividends, stock redemptions or repurchases, cash-out mergers, interest payments on certain convertible debt and other distributions charged to the Bank's capital account. In general, the applicable regulation permits specified levels of capital distributions by a savings institution that meets at least its minimum capital requirements, so long as the OTS is provided with at least 30 days' advance notice and has no objection to the distribution. The OTS regulation establishes three tiers of institutions, based primarily on their capital level. Generally, the Tier 1 group is composed of institutions that before and after the proposed distribution meet or exceed all applicable capital requirements and have not been informed by the OTS that they are in need of more than normal supervision. A Tier 1 institution may make capital distributions during any calendar year equal to the higher of (i) 100% of net income for the calendar year-to-date plus an amount that would reduce by one-half its "surplus capital ratio" at the beginning of the calendar year or (ii) 75% of net income over the previous four quarters. As applied to the Bank, "surplus capital ratio" means the percentage by which the Bank's ratio of total capital to assets exceeds the ratio of its capital requirement, as modified to reflect any applicable individual minimum capital requirements imposed upon the Bank. Any additional capital distributions would require prior regulatory approval. In the event the Bank's capital fell below its capital requirement or the OTS notified it that it was in need of more than normal supervision, the 41 Bank's ability to make capital distributions would be restricted. In addition, the OTS could prohibit a proposed capital distribution by any institution, which would otherwise be permitted by the regulation, if the OTS determines that such distribution would constitute an unsafe or unsound practice. Furthermore, under FDICIA, the Bank would be prohibited from making any capital distributions if, after the distribution, the Bank would have: (i) a total risk-based capital ratio of less than 8%, (ii) a Tier 1 risk-based capital ratio of less than 4% or (iii) a leverage ratio of less than 4% (3% in the event that the Bank is assigned a MACRO Rating of 1, the highest examination rating of the OTS for savings institutions). At December 31, 1997, the Bank qualified as a Tier 1 institution for purposes of this regulation. In June 1996, the Bank's Board of Directors declared a dividend of $11.5 million, which was paid to the Company in installment amounts from July to November 1996. The Bank's allowable capital distribution at December 31, 1997 was approximately $21.6 million. Tier 2 institutions are those in compliance with their current, but not their fully phased-in, capital requirements. Tier 2 institutions may make distributions of up to 75% of their net income for the most recent four-quarter period. Tier 1 and Tier 2 institutions may seek OTS approval to pay dividends beyond these amounts. Tier 3 institutions have capital levels below their current required minimum levels and may not make any capital distributions without the prior written approval of the OTS. In order to make distributions under these safe harbors, Tier 1 and Tier 2 institutions must submit 30 days prior written notice to the OTS of a proposed distribution. The OTS may object to the distribution during that 30-day period based on safety and soundness concerns. In addition, a Tier 1 institution deemed to be in need of more than normal supervision by the OTS may be treated as a Tier 2 or Tier 3 institution as a result of such a determination. In January of 1998, the OTS proposed amendments to its capital distributions regulation. The amendments would eliminate any requirement for notice or application for cash dividends below a specified amount, provided that the institution making the distribution would remain at least adequately capitalized following the distribution. If adopted as proposed, the proposal would reduce regulatory burden and compliance costs associated with some capital distributions. However, there can be no assurance as to whether the proposal will be adopted or what the provisions of the final amendment might be. RESTRICTIONS ON STOCK REPURCHASES Pursuant to OTS regulations, the Company is prohibited from repurchasing any shares of Common Stock from any person for three years from the date of completion of the Conversion, except that such prohibition does not apply to (i) a repurchase on a pro rata basis pursuant to an offer approved by the OTS and made to all stockholders of the Company; (ii) a repurchase of qualifying shares of a director or (iii) any other repurchase permissible under OTS regulations. Notwithstanding the foregoing, pursuant to OTS regulations, after one year following the Conversion, the Company may repurchase shares of Common Stock so long as (i) the purchases are part of an open-market program not involving more than 5% of the outstanding capital stock during a twelve month period unless otherwise approved by the OTS; (ii) the repurchases do not cause the Bank to become undercapitalized (see "--Prompt Corrective Action"); and (iii) the Company provides to the OTS no later than ten days prior to the commencement of a repurchase program written notice containing a full description of the program to be undertaken, and such program is not disapproved by the OTS. Under current OTS policies, repurchases may be allowed in amounts greater than 5% in the second and third years following the Conversion, provided there are circumstances that would justify such repurchases and the OTS does not object. 42 As of December 31, 1997, the Company had repurchased 1,073,850 shares, or 12.45% of the Common Stock issued in the Conversion, at an aggregate cost of $20.2 million. There were 7,864,620 shares of Common Stock outstanding at December 31, 1997. On that date, 302,946 shares remained to be repurchased under the Company's current repurchase program. FEDERAL HOME LOAN BANK SYSTEM In connection with converting to a federal charter, the Bank became a member of the FHLB-NY, which is one of 12 regional FHLBs governed and regulated by the Federal Housing Finance Board. Each FHLB serves as a source of liquidity for its members within its assigned region. It is funded primarily from proceeds derived from the sale of consolidated obligations of the FHLB System. It makes loans to members (i.e., advances) in accordance with policies and procedures established by its Board of Directors. As a member, the Bank is required to purchase and maintain stock in the FHLB-NY in an amount equal to the greater of 1% of its aggregate unpaid residential mortgage loans, home purchase contracts or similar obligations at the beginning of each year or 5% of total advances. Pursuant to this requirement, at December 31, 1997, the Bank was required to maintain $14.4 million of FHLB-NY stock. The Bank was in compliance with this requirement at that time. ASSESSMENTS Savings institutions are required by OTS regulations to pay assessments to the OTS to fund the operations of the OTS. The general assessment, paid on a quarterly or semi-annual basis, as determined from time to time by the Director of the OTS, is computed upon the savings institution's total assets, including consolidated subsidiaries, as reported in the institution's latest quarterly thrift financial report. Based on the average balance of the Bank's total assets for the year ended December 31, 1997, the Bank's OTS assessments were $164,000 for that period. BRANCHING OTS regulations permit federally chartered savings institutions to branch nationwide to the extent allowed by federal statute. This permits federal savings associations to geographically diversify their loan portfolios and lines of business. The OTS authority preempts any state law purporting to regulate branching by federal savings institutions. COMMUNITY REINVESTMENT Under the Community Reinvestment Act ("CRA"), as implemented by OTS regulations, the Bank has a continuing and affirmative obligation, consistent with its safe and sound operation, to help meet the credit needs of its entire community, including low and moderate income neighborhoods. The CRA does not establish specific lending requirements or programs for financial institutions nor does it limit an institution's discretion to develop the types of products and services that it believes are best suited to its particular community, consistent with the CRA. The CRA requires the OTS, in connection with its examination of a savings institution, to assess the institution's record of meeting the credit needs of its community and to take such record into account in its evaluation of certain applications by the institution. The methodology used by the OTS for determining an institution's compliance with the CRA focuses on three tests: (a) a lending test, to evaluate the institution's record of making loans in its service areas; (b) an investment test, to evaluate the institution's record of investing in community development projects, affordable housing, and programs benefiting low or moderate income individuals and businesses; and (c) a service test, to evaluate the institution's delivery of services through its branches, ATMs, and other offices. The Bank received a CRA rating of "2" in its most recent CRA examination which was conducted by the OTS 43 in July 1997. Under OTS regulations, a CRA rating of "2" is the second highest rating available on a scale from "1" to "4" with "1" being assigned to institutions that have an outstanding record of meeting community credit needs and "4" being assigned to institutions that are in substantial noncompliance in meeting community credit needs. An institution that receives a "2" is considered to have a satisfactory record of meeting community credit needs. Institutions that receive unsatisfactory ratings (i.e., "3" or "4") may face difficulties in securing approval for new activities or acquisitions. The CRA requires all institutions to make public disclosure of their CRA ratings. YEAR 2000 COMPLIANCE In May 1997, the Federal Financial Institutions Examination Council issued an interagency statement to the chief executive officers of all federally supervised financial institutions regarding Year 2000 project management awareness. It is expected that unless financial institutions address the technology issues relating to the coming of the year 2000, there will be major disruptions in the operations of financial institutions. The statement provides guidance to financial institutions, providers of data services, and all examining personnel of the federal banking agencies regarding the year 2000 problem. The federal banking agencies intend to conduct year 2000 compliance examinations, and the failure to implement a year 2000 program may be seen by the federal banking agencies as an unsafe and unsound banking practice. See "Risk Factors--Year 2000 Compliance." BROKERED DEPOSITS The FDIC has promulgated regulations implementing the FDICIA limitations on brokered deposits. Under the regulations, well-capitalized institutions are not subject to brokered deposit limitations, while adequately capitalized institutions are able to accept, renew or roll over brokered deposits only (i) with a waiver from the FDIC and (ii) subject to the limitation that they do not pay an effective yield on any such deposit which exceeds by more than (a) 75 basis points the effective yield paid on deposits of comparable size and maturity in such institution's normal market area for deposits accepted in its normal market area or (b) 120 basis points for retail deposits and 130 basis points for wholesale deposits accepted outside the institution's normal market area, respectively, from the current yield on comparable maturity U.S. Treasury obligations. Undercapitalized institutions are not permitted to accept brokered deposits and may not solicit deposits by offering an effective yield that exceeds by more than 75 basis points the prevailing effective yields on insured deposits of comparable maturity in the institution's normal market area or in the market area in which such deposits are being solicited. Pursuant to the regulation, the Bank, as a well-capitalized institution, may accept brokered deposits. CAPITAL REQUIREMENTS GENERAL. The Bank is required to maintain minimum levels of regulatory capital. Since FIRREA, capital requirements established by the OTS generally must be no less stringent than the capital requirements applicable to national banks. The OTS also is authorized to impose capital requirements in excess of these standards on a case-by-case basis. Any institution that fails any of its applicable capital requirements is subject to possible enforcement actions by the OTS or the FDIC. Such actions could include a capital directive, a cease and desist order, civil money penalties, the establishment of restrictions on the institution's operations and the appointment of a conservator or receiver. The OTS' capital regulation provides that such actions, through enforcement proceedings or otherwise, could require one or more of a variety of corrective actions. See "--Prompt Corrective Action." 44 The OTS' capital regulations create three capital requirements: a tangible capital requirement, a leverage or core capital requirement and a risk-based capital requirement. At December 31, 1997, the Bank's capital levels exceeded applicable OTS capital requirements. The three OTS capital requirements are described below. TANGIBLE CAPITAL REQUIREMENT. Under current OTS regulations, each savings institution must maintain tangible capital equal to at least 1.50% of its adjusted total assets (as defined by regulation). Tangible capital generally includes common stockholders' equity and retained income, and certain noncumulative perpetual preferred stock and related income. In addition, all intangible assets, other than a limited amount of purchased mortgage servicing rights, must be deducted from tangible capital. At December 31, 1997, the Bank had intangible assets consisting of $5.4 million in goodwill and no purchased mortgage servicing rights. At that date, the Bank's tangible capital ratio was 9.11%. In calculating adjusted total assets, adjustments are made to total assets to give effect to the exclusion of certain assets from capital and to appropriately account for the investments in and assets of both includable and non-includable subsidiaries. CORE CAPITAL REQUIREMENT. The current OTS core capital requirement ranges between 3% and 5% of adjusted total assets. Savings institutions that receive the highest supervisory rating for safety and soundness are required to maintain a minimum core capital ratio of 3%, while the capital floor for all other savings institutions generally ranges from 4% to 5%, as determined by the OTS on a case by case basis. Core capital includes common stockholders' equity (including retained income), non-cumulative perpetual preferred stock and related surplus, minority interest in the equity accounts of fully consolidated subsidiaries and (subject to phase-out) qualifying supervisory goodwill. The Bank has no qualifying supervisory goodwill. At December 31, 1997, the Bank's core capital was 9.11%. Current OTS regulations limit the amount of purchased mortgage servicing rights, together with purchased credit card receivables, includable in core capital to 50% of such capital. At December 31, 1997, the Bank had no purchased mortgage servicing rights or purchased credit card receivables. RISK-BASED REQUIREMENT. The risk-based capital standard adopted by the OTS requires savings institutions to maintain a minimum ratio of total capital to risk-weighted assets of 8%. Total capital consists of core capital, defined above, and supplementary capital but excludes the effect of recognizing deferred taxes based upon future income after one year. Supplementary capital consists of certain capital instruments that do not qualify as core capital, and general valuation loan and lease loss allowances up to a maximum of 1.25% of risk-weighted assets. Supplementary capital may be used to satisfy the risk-based requirement only in an amount equal to the amount of core capital. In determining the risk-based capital ratios, total assets, including certain off-balance sheet items, are multiplied by a risk weight based on the risks inherent in the type of assets. The risk weights assigned by the OTS for significant categories of assets are (i) 0% for cash and securities issued by the federal government or unconditionally backed by the full faith and credit of the federal government; (ii) 20% for securities (other than equity securities) issued by federal government sponsored agencies and mortgage-backed securities issued by, or fully guaranteed as to principal and interest by, the FNMA or the FHLMC, except for those classes with residual characteristics or stripped mortgage-related securities; (iii) 50% for prudently underwritten permanent one-to-four family first lien mortgage loans and certain qualifying multi-family mortgage loans not more than 90 days delinquent and having a loan-to-value ratio of not more than 80% at origination unless insured to such ratio by an insurer approved by the FNMA or the FHLMC; and (iv) 100% for all other loans and investments, including consumer loans, home equity loans, commercial loans, and one-to-four family residential real estate loans more than 90 days delinquent, and all repossessed assets or assets more than 90 days past due. At December 31, 1997, the Bank's risk-based capital ratio was 19.76%. Risk-based capital excludes the effect of recognizing deferred taxes based upon future income after one year. 45 In 1993, the OTS adopted a final rule incorporating an interest-rate risk component into the risk-based capital regulation. Under the rule, an institution with a greater than "normal" level of interest rate risk will be subject to a deduction of its interest rate risk component from total capital for purposes of calculating the risk-based capital requirement. As a result, such an institution may be required to maintain additional capital in order to comply with the risk-based capital requirement. An institution with a greater than "normal" interest rate risk is defined as an institution that would suffer a loss of net portfolio value exceeding 2% of the estimated market value of its assets in the event of a 200 basis point increase or decrease (with certain minor exceptions) in interest rates. The interest rate risk component will be calculated, on a quarterly basis, as one-half of the difference between an institution's measured interest rate risk and 2%, multiplied by the market value of its assets. The rule establishes a "lag" time between the reporting date of the data used to calculate an institution's interest rate risk and the effective date of each quarter's interest rate risk component. The rule also authorizes the director of the OTS, or his designee, to waive or defer an institution's interest rate risk component on a case-by-case basis. At December 31, 1997, the Bank did not have more than "normal" interest rate risk and was not subject to any deduction from total capital under this rule. See "Management's Discussion and Analysis of Financial Condition and Results of Operations-Interest Rate Risk," included in the Annual Report and incorporated herein by reference. FEDERAL RESERVE SYSTEM The Federal Reserve Board requires all depository institutions to maintain reserves against their transaction accounts (primarily NOW checking accounts) and non-personal time deposits. At December 31, 1997, the Bank was in compliance with these requirements. The balances maintained to meet the reserve requirements imposed by the Federal Reserve Board may be used to satisfy liquidity requirements imposed by the OTS. Because required reserves must be maintained in the form of vault cash or a non-interest-bearing account at a Federal Reserve Bank directly or through another bank, the effect of this reserve requirement is to reduce an institution's earning assets. The amount of funds necessary to satisfy this requirement has not had a material effect on the Bank's operations. As a creditor and financial institution, the Bank is also subject to additional regulations promulgated by the FRB, including, without limitation, regulations implementing requirements of the Truth in Savings Act, the Expedited Funds Availability Act, the Equal Credit Opportunity Act and the Truth-in-Lending Act. FINANCIAL REPORTING The Bank is required to submit independently audited annual reports to the FDIC and the OTS. These publicly available reports must include (a) annual financial statements prepared in accordance with GAAP and such other disclosure requirements as required by the FDIC or the OTS and (b) a report, signed by the Bank's chief executive officer and chief financial officer which contains statements about the adequacy of internal controls and compliance with designated laws and regulations, and attestations by independent auditors related thereto. The Bank is required to monitor the foregoing activities through an independent audit committee. STANDARDS FOR SAFETY AND SOUNDNESS The FDIA Act, as amended by FDICIA and the Riegle Community Development and Regulatory Improvement Act of 1994 ("Community Development Act"), requires each federal bank regulatory agency to establish safety and soundness standards for institutions under its authority. On July 10, 1995, the federal banking agencies, including the OTS, jointly released Interagency Guidelines Establishing Standards for Safety and Soundness and published a final rule establishing deadlines for submission and review of safety and soundness compliance plans. The final rule and the guidelines took effect August 9, 1995. The guidelines, among other things, require savings institutions to maintain internal controls, information systems and internal audit systems that are appropriate to the size, nature and scope of the institution's business. The guidelines also establish general standards relating to loan documentation, 46 credit underwriting, interest rate risk exposure, asset growth, and compensation, fees and benefits. Savings institutions are required to maintain safeguards to prevent the payment of excessive compensation to an executive officer, employee, director or principal shareholder. The OTS may determine that a savings institution is not in compliance with the safety and soundness guidelines and, upon doing so, may require the institution to submit an acceptable plan to achieve compliance with the guidelines. An institution must submit an acceptable compliance plan to the OTS within 30 days of receipt or request for such a plan. Failure to submit or implement a compliance plan may subject the institution to regulatory actions. Management believes that the Bank currently meets the standards adopted in the interagency guidelines and does not believe that implementation of the regulatory standards will materially affect the Bank's operations. Additionally, under FDICIA, as amended by the Community Development Act, federal banking agencies are required to establish standards relating to asset quality and earnings that the agencies determine to be appropriate. On August 27, 1996, the federal banking agencies, including the OTS, adopted guidelines relating to asset quality and earnings, effective October 1, 1996, which require a savings institution to maintain systems, consistent with its size and the nature and scope of its operations, to identify problem assets and prevent deterioration in those assets as well as to evaluate and monitor earnings and insure that earnings are sufficient to maintain adequate capital and reserves. Management believes that the asset quality and earnings guidelines, as adopted by the banking agencies, will not have a material effect on the Bank's operations. PROMPT CORRECTIVE ACTION Under Section 38 of the FDIA, as added by the FDICIA, each appropriate agency and the FDIC is required to take prompt corrective action to resolve the problems of insured depository institutions that do not meet minimum capital ratios. Such action must be accomplished at the least possible long-term cost to the appropriate deposit insurance fund. The federal banking agencies, including the OTS, adopted substantially similar regulations to implement Section 38 of the FDIA. Under the regulations, an institution is deemed to be (i) "well capitalized" if it has total risk-based capital of 10% or more, has a Tier 1 risk-based capital ratio of 6% or more, has a Tier 1 leverage capital ratio of 5% or more and is not subject to any order or final capital directive to meet and maintain a specific capital level for any capital measure, (ii) "adequately capitalized" if it has a total risk-based capital ratio of 8% or more, a Tier 1 risk-based capital ratio of 4% or more and a Tier 1 leverage capital ratio of 4% or more (3% under certain circumstances) and does not meet the definition of "well capitalized," (iii) "undercapitalized" if it has a total risk-based capital ratio that is less than 8%, a Tier 1 risk-based capital ratio that is less than 4% or a Tier 1 leverage capital ratio that is less than 4% (3% under certain circumstances), (iv) "significantly undercapitalized" if it has a total risk-based capital ratio that is less than 6%, a Tier 1 risk-based capital ratio that is less than 3% or a Tier 1 leverage capital ratio that is less than 3%, and (v) "critically undercapitalized" if it has a ratio of tangible equity to total assets that is equal to or less than 2%. Section 38 of the FDIA and the regulations promulgated thereunder also specify circumstances under which a federal banking agency may reclassify a well capitalized institution as adequately capitalized and may require an adequately capitalized institution or an undercapitalized institution to comply with supervisory actions as if it were in the next lower category (except that the FDIC may not reclassify a significantly undercapitalized institution as critically undercapitalized). At December 31, 1997, the Bank met the criteria to be considered a "well capitalized" institution. PENDING LEGISLATION For a discussion of pending legislation that could impact the Company's business and operations, see "Risk Factors -- Pending Legislation." 47 COMPANY REGULATION The Company is a non-diversified unitary savings and loan holding company within the meaning of HOLA, is required to register with the OTS and is subject to OTS regulations, examinations, supervision and reporting requirements. In addition, the OTS has enforcement authority over the Company and any non-savings institution subsidiaries it later forms or acquires. Among other things, this authority permits the OTS to restrict or prohibit activities that it determines pose a serious risk to the Bank. The Bank must notify the OTS 30 days before declaring any dividend to the Company. See "--Restrictions on Dividends and Capital Distributions." HOLA prohibits a savings and loan holding company, directly or indirectly, or through one or more subsidiaries, from acquiring another savings institution or holding company thereof, without prior written approval of the OTS; acquiring or retaining, with certain exceptions, more than 5% of a non-subsidiary savings institution, a non-subsidiary holding company, or a non-subsidiary company engaged in activities other than those permitted by HOLA; or acquiring or retaining control of a depository institution that is not federally insured. In evaluating applications by holding companies to acquire savings institutions, the OTS will consider the financial and managerial resources and future prospects of the company and institution involved, the effect of the acquisition on the risk to the insurance funds, the convenience and needs of the community and competitive factors. As a unitary savings and loan holding company, the Company currently is not restricted as to the types of business activities in which it may engage, provided that the Bank continues to meet the QTL test. See "--Qualified Thrift Lender Test" and "Risk Factors--Pending Legislation." Upon any non-supervisory acquisition by the Company of another savings association or savings bank that meets the QTL test and is deemed to be a savings institution by the OTS, the Company would become a multiple savings and loan holding company (if the acquired institution is held as a separate subsidiary) and would be subject to extensive limitations on the types of business activities in which it could engage. HOLA limits the activities of a multiple savings and loan holding company and its non-insured institution subsidiaries primarily to activities permissible for bank holding companies under Section 4(c)(8) of the Bank Company Act, subject to the prior approval of the OTS, and activities authorized by OTS regulation. The OTS is prohibited from approving any acquisition that would result in a multiple savings and loan holding company controlling savings institutions in more than one state, subject to two exceptions: (i) the approval of interstate supervisory acquisitions by savings and loan holding companies, and (ii) the acquisition of a savings institution in another state if the laws of the state of the target savings institution specifically permit such acquisitions. Under New York law, reciprocal interstate acquisitions are authorized for savings and loan holding companies and savings institutions. Certain states do not authorize interstate acquisitions under any circumstances; however, federal law authorizing acquisitions in supervisory cases preempts such state law. Federal law generally provides that no "person" acting directly or indirectly or through or in concert with one or more other persons, may acquire "control," as that term is defined in OTS regulations, of a federally insured savings institution without giving at least 60 days' written notice to the OTS and providing the OTS an opportunity to disapprove the proposed acquisition. Such acquisitions of control may be disapproved if it is determined, among other things, that (i) the acquisition would substantially lessen competition; (ii) the financial condition of the acquiring person might jeopardize the financial stability of the savings institution or prejudice the interests of its depositors; or (iii) the competency, experience or integrity of the acquiring person or the proposed management personnel indicates that it would not be in the interest of the depositors or the public to permit the acquisition of control by such person. 48 There is, as of the date of this report, proposed legislation pending in Congress that, if passed and enacted, would eliminate the thrift charter and require the Bank to convert to a bank charter and the Company to convert to a bank holding company. In such an event, the Bank will be regulated by the Office of the Comptroller of the Currency and the Company would be regulated by the FRB. Various revisions and alternatives to this legislation have been proposed. There can be no assurance whether any such legislation will be enacted or what the provisions of any such final legislation may be. As a result, management cannot accurately predict the possible impact of such legislation on the Bank or the Company. See "--Risk Factors--Pending Legislation." In addition, federal regulations governing conversions of mutual savings institutions to the stock form of organization prohibit the direct or indirect acquisition without prior OTS approval of more than 10% of any class of equity security of a savings institution within three years of the savings institution's conversion to stock form. This limitation applies to acquisitions of equity securities of the Company. Such acquisition may be disapproved if it is found, among other things, that the proposed acquisition (a) would frustrate the purposes of the provisions of the regulations regarding conversions, (b) would be manipulative or deceptive, (c) would subvert the fairness of the Conversion, (d) would be likely to result in injury to the savings institution, (e) would not be consistent with economical home financing, (f) would otherwise violate law or regulation, or (g) would not contribute to the prudent deployment of the savings institution's conversion proceeds. FEDERAL SECURITIES LAWS The Company's Common Stock is registered with the SEC under Section 12(g) of the Securities Exchange Act of 1934, as amended (the "Exchange Act"). The Company is subject to the information and reporting requirements, regulations governing proxy solicitations, insider trading restrictions and other requirements applicable to companies whose stock is registered under the Exchange Act. 49 ITEM 2. PROPERTIES. - -------------------- The Bank conducts its business through seven full-service offices. The Bank's main office is located at 144-51 Northern Boulevard, Flushing, New York. The Bank believes that its current facilities are adequate to meet the present and immediately foreseeable needs of the Bank and the Company.
DATE LEASED OR LEASE EXPIRATION NET BOOK VALUE AT OFFICE LEASED OR OWNED ACQUIRED DATE DECEMBER 31, 1996 Main Office 144-51 Northern Blvd. Flushing, NY 11354................. owned 1972 NA $1,107,048 Broadway Branch 159-18 Northern Blvd. Flushing, NY 11358................. owned 1962 NA 555,987 Auburndale Branch 188-08 Hollis Court Blvd. Flushing, NY 11358................. owned 1991 NA 787,406 Springfield Branch 61-54 Springfield Blvd. Bayside, NY 11364.................. leased 1991 11/30/2001 -- Bay Ridge Branch 7102 Third Avenue Brooklyn, NY 11209................. owned 1991 NA 317,133 Irving Place Branch 33 Irving Place New York, NY 10003................. leased 1991 11/30/2001 42,067 New Hyde Park Branch 661 Hillside Avenue New Hyde Park, NY 11040............ leased 1971 12/31/2011 18,038
ITEM 3. LEGAL PROCEEDINGS. - ------------------------------- The Bank is involved in various legal actions arising in the ordinary course of its business which, in the aggregate, involve amounts which are believed by management to be immaterial to the financial condition and results of operations of the Bank. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. - ------------------------------------------------------------- None 50 PART II ITEM 5. MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS. - -------------------------------------------------------------------------------- Flushing Financial Corporation common stock is traded on the Nasdaq National Market and quoted under the symbol "FFIC". Information regarding Flushing Financial Corporation common stock and its price for the 1997 fiscal year appears in the Annual Report under the caption "Market Price of Common Stock" and is incorporated herein by this reference. As of February 28, 1998, Flushing Financial Corporation had approximately 945 stockholders of record, not including the number of persons or entities holding stock in nominee or street name through various brokers and banks. In June 1997, the Board of Directors of the Company adopted a dividend policy to pay an annual dividend rate of $0.24 per share of Common Stock, payable in equal quarterly installments, should the earnings of the Company warrant. In accordance with this policy, dividends were paid in 1997 as follows: DIVIDEND DECLARATION DATE RECORD DATE PAYMENT DATE PAID PER SHARE ---------------- ----------- ------------ -------------- February 18, 1997 March 10, 1997 March 28, 1997 $0.04 April 18, 1997 June 6, 1997 June 30, 1997 $0.06 August 21, 1997 September 9, 1997 September 30, 1997 $0.06 November 18, 1997 December 10, 1997 December 30, 1997 $0.06 The Company's dividend policy may change from time to time. Changes in the Company's dividend policy will depend upon a number of factors, including the investment and business opportunities available to the Company and the Bank, capital requirements of the Bank, regulatory requirements, the Bank's and the Company's financial condition and results of operations, tax considerations and general economic conditions. No assurance can be given that the declaration and payment of dividends will continue. As of December 31, 1997, the Company had repurchased 1,073,850 shares, or 12.45% of the Common Stock issued in the Conversion, at an aggregate cost of $20.2 million. There were 7,864,620 shares of Common Stock outstanding at December 31, 1997. On that date, 302,946 shares remained to be repurchased under the Company's current repurchase program. ITEM 6. SELECTED FINANCIAL DATA. - --------------------------------- Information regarding selected financial data appears on pages 5 and 6 of the Annual Report under the caption "Selected Financial Data" and is incorporated herein by this reference. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. - -------------------------------------------------------------------------------- Information regarding management's discussion and analysis of financial condition and results of operations appears on pages 7 through 17 of the Annual Report under the caption "Management's Discussion and Analysis of Financial Condition and Results of Operations" and is incorporated herein by this reference. 51 ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK - ------------------------------------------------------------------- The information contained in the section captioned "Interest Rate Risk" on page 16 of the Annual Report and in Note 17 of the Notes to Consolidated Financial Statements is incorporated herein by this reference. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA. - ----------------------------------------------------- Information regarding the financial statements and the Independent Auditor's Report appears on pages 18 through 42 of the Annual Report and is incorporated herein by this reference. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. - -------------------------------------------------------------------------------- None. 52 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT. - ------------------------------------------------------------ Information regarding the directors and executive officers of the Company appears in the Company's Proxy Statement for the Annual Meeting of Shareholders to be held May 20, 1998 under the captions "Board Nominees", "Continuing Directors" and "Executive Officers Who Are Not Directors" and is incorporated herein by this reference. ITEM 11. EXECUTIVE COMPENSATION. - -------------------------------- Information regarding executive compensation appears in the Company's Proxy Statement for the Annual Meeting of Shareholders to be held May 20, 1998 under the caption "Executive Compensation" and is incorporated herein by this reference. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT. - ------------------------------------------------------------------------ Information regarding security ownership of certain beneficial owners appears in the Company's Proxy Statement for the Annual Meeting of Shareholders to be held May 20, 1998 under the caption "Stock Ownership of Certain Beneficial Owners" and is incorporated herein by this reference. Information regarding security ownership of management appears on in the Company's Proxy Statement for the Annual Meeting of Shareholders to be held May 20, 1998 under the caption "Stock Ownership of Management" and is incorporated herein by this reference. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS. - -------------------------------------------------------- Information regarding certain relationships and related transactions appears in the Company's Proxy Statement for the Annual Meeting of Shareholders to be held on May 20, 1998 under the caption "Certain Transactions" and is incorporated herein by this reference. 53 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K. - ------------------------------------------------------------------------- (A) 1. FINANCIAL STATEMENTS The following financial statements are included in the Company's Annual Report to Shareholders for the year ended December 31, 1997 and are incorporated herein by this reference: o Consolidated Statements of Condition at December 31, 1997 and 1996 o Consolidated Statements of Operations for each of the years in the three-year period ended December 31, 1997 o Consolidated Statements of Changes in Stockholders' Equity for each of the years in the three-year period ended December 31, 1997 o Consolidated Statements of Cash Flows for each of the years in the three year period ended December 31, 1997 o Notes to Consolidated Financial Statements o Report of Independent Accountants The remaining information appearing in the Annual Report to Stockholders is not deemed to be filed as a part of this report, except as expressly provided herein. 2. FINANCIAL STATEMENT SCHEDULES Financial Statement Schedules have been omitted because they are not applicable or the required information is shown in the Consolidated Financial Statements or Notes thereto. (B) REPORTS ON FORM 8-K FILED DURING THE LAST QUARTER OF FISCAL 1997 None (C) EXHIBITS REQUIRED BY SECURITIES AND EXCHANGE COMMISSION REGULATION S-K [Update]
Exhibit NUMBER - ------ 3.1 Articles of Incorporation of Flushing Financial Corporation 3.2 By-Laws of Flushing Financial Corporation 10.1 Annual Incentive Plan for Selected Officers 10.2 Employment Agreements between Flushing Savings Bank, FSB and Certain Officers 10.3 Employment Agreements between Flushing Financial Corporation and Certain Officers 10.3(a) Amendment No. 1 to Employment Agreement between Flushing Financial Corporation and Michael J. Hegarty 10.3(b) Amendment to Employment Agreement between Flushing Financial Corporation and Certain Officers (including Michael J. Hegarty)
54
Exhibit NUMBER - ------ 10.3(c) Amendment No. 3 to Employment Agreement between Flushing Financial Corporation and Michael J. Hegarty, and Amendment No. 2 to Employment Agreement between Flushing Savings Bank, FSB and Michael J. Hegarty 10.4 Special Termination Agreements 10.5 Employee Severance Compensation Plan of Flushing Savings Bank, FSB 10.6(a) Amended and Restated Outside Director Retirement Plan 10.6(b) Flushing Savings Bank, FSB Outside Director Deferred Compensation Plan 10.7 Flushing Savings Bank, FSB Supplemental Savings Incentive Plan 10.8 Form of Indemnity Agreement among Flushing Savings Bank, FSB, Flushing Financial Corporation, and each Director 10.8(a) Indemnity Agreement among Flushing Savings Bank, FSB, Flushing Financial Corporation, and each Director 10.8(b) Indemnity Agreement among Flushing Savings Bank, FSB, Flushing Financial Corporation, and Certain Officers 10.9 Employee Benefit Trust Agreement 10.9(a) Amendment to the Employee Benefit Trust Agreement 10.10 Loan Document for Employee Benefit Trust 10.11 Guarantee by Flushing Financial Corporation 10.12 Consulting Agreement between Flushing Savings Bank, FSB, Flushing Financial Corporation and Gerard P. Tully, Sr. 10.12(a) Amendment to Gerard P. Tully, Sr. Consulting Agreement 10.13 Flushing Financial Corporation 1996 Restricted Stock Incentive Plan 10.14 Flushing Financial Corporation 1996 Stock Option Incentive Plan 10.15 Amendments to 1996 Restricted Stock Incentive Plan 10.16 Amendments to 1996 Stock Option Incentive Plan 10.17 Agreement and Plan of Merger as of April 24, 1997, by and between Flushing Financial Corporation, Flushing Savings Bank, FSB and New York Federal Savings Bank 13.1 1997 Annual Report to Shareholders 22.1 Subsidiaries information incorporated herein by reference to Part I - Subsidiary Activities 23.1 Consent of Independent Accountants 27 Financial Data Schedule 99.1 Proxy Statement for the Annual Meeting of Shareholders to be held on May 20, 1998, which will be filed with the SEC within 30 days from the date this Form 10-K is filed. - --------------------- Incorporated by reference to Exhibits filed with the Registration Statement on Form S-1, Registration No. 33-96488. Incorporated by reference to Exhibits filed with Form 10-K for the year ended December 31, 1995. Incorporated by reference to Exhibits filed with Form 10-Q for the quarter ended September 30, 1996. Incorporated by reference to Exhibits filed with Form 10-K for the year ended December 31, 1996. Incorporated by reference to Exhibits filed with Form 10-Q for the quarter ended June 30, 1997. Incorporated by reference to Exhibits filed with Form 10-Q for the quarter ended September 30, 1997. Incorporated by reference to Exhibits filed with the Proxy Statement for the Annual Meeting of Stockholders held May 21, 1996. Incorporated by reference to Exhibits filed with the Proxy Statement for the Annual Meeting of Stockholders held April 29, 1997.
55 SIGNATURES PURSUANT TO THE REQUIREMENTS OF SECTION 13 OR 15(D) THE SECURITIES EXCHANGE ACT OF 1934, THE COMPANY HAS DULY CAUSED THIS REPORT, OR AMENDMENT THERETO, TO BE SIGNED ON ITS BEHALF BY THE UNDERSIGNED, THEREUNTO DULY AUTHORIZED, IN NEW YORK, NEW YORK, ON MARCH 27, 1998. FLUSHING FINANCIAL CORPORATION By /s/ JAMES F. MCCONNELL ----------------------------- James F. McConnell President and CEO POWER OF ATTORNEY WE, THE UNDERSIGNED DIRECTORS AND OFFICERS OF FLUSHING FINANCIAL CORPORATION (THE "COMPANY") HEREBY SEVERALLY CONSTITUTE AND APPOINT JAMES F. MCCONNELL AND MONICA C. PASSICK AS OUR TRUE AND LAWFUL ATTORNEYS AND AGENTS, EACH ACTING ALONE AND WITH FULL POWER OF SUBSTITUTION AND RE-SUBSTITUTION, TO DO ANY AND ALL THINGS IN OUR NAMES IN THE CAPACITIES INDICATED BELOW WHICH SAID JAMES F. MCCONNELL OR MONICA C. PASSICK MAY DEEM NECESSARY OR ADVISABLE TO ENABLE THE COMPANY TO COMPLY WITH THE SECURITIES EXCHANGE ACT OF 1934, AND ANY RULES, REGULATIONS AND REQUIREMENTS OF THE SECURITIES AND EXCHANGE COMMISSION, IN CONNECTION WITH THE REPORT ON FORM 10K, OR AMENDMENT THERETO, INCLUDING SPECIFICALLY, BUT NOT LIMITED TO, POWER AND AUTHORITY TO SIGN FOR US IN OUR NAMES IN THE CAPACITIES INDICATED BELOW THE REPORT ON FORM 10-K, OR AMENDMENT THERETO; AND WE HEREBY APPROVE, RATIFY AND CONFIRM ALL THAT SAID JAMES F. MCCONNELL OR MONICA C. PASSICK SHALL DO OR CAUSE TO BE DONE BY VIRTUE THEREOF. PURSUANT TO THE REQUIREMENTS OF THE SECURITIES EXCHANGE ACT OF 1934, THIS REPORT ON FORM 10-K, OR AMENDMENT THERETO, HAS BEEN SIGNED BY THE FOLLOWING PERSONS IN THE CAPACITIES AND ON THE DATES INDICATED.
SIGNATURE TITLE DATE - --------- ----- ---- /S/ JAMES F. MCCONNELL Director, President (Principal Executive Officer) March 27, 1998 - ------------------------------------------- James F. McConnell /S/ GERARD P. TULLY, SR. Director, Chairman March 27, 1998 - ------------------------------------------- Gerard P. Tully, Sr. /S/ MONICA C. PASSICK Treasurer (Principal Financial and Accounting Officer) March 27, 1998 - ------------------------------------------- Monica C. Passick /S/ ROBERT A. MARANI Director March 27, 1998 - ------------------------------------------- Robert A. Marani
56
SIGNATURE TITLE DATE - --------- ----- ---- /S/ JOHN O. MEAD Director March 27, 1998 - ------------------------------------------- John O. Mead /S/ MICHAEL J. HEGARTY Director March 27, 1998 - ------------------------------------------- Michael J. Hegarty Director March , 1998 - ------------------------------------------- Franklin F. Regan, Jr. /S/ JOHN E. ROE, SR. Director March 27, 1998 - ------------------------------------------- John E. Roe, Sr. /S/ MICHAEL J. RUSSO Director March 27, 1998 - ------------------------------------------- Michael J. Russo /S/ JOHN M. GLEASON Director March 27, 1998 - ------------------------------------------- John M. Gleason /S/ VINCENT F. NICOLOSI Director March 27, 1998 - ------------------------------------------- Vincent F. Nicolosi
57 Flushing Financial Corporation SELECTED FINANCIAL DATA
==================================================================================================================================== At and for the years ended December 31, 1997 1996 1995 1994 1993 - ------------------------------------------------------------------------------------------------------------------------------------ (Dollars in thousands, except per share data) Selected Financial Condition Data Total assets(1) ........................................ $1,088,476 $ 775,343 $ 708,384 $ 592,014 $ 615,501 Loans, net ............................................. 598,421 382,781 280,126 252,116 254,591 Securities held to maturity ............................ -- -- -- 90,945 58,129 Securities available for sale .......................... 356,712 331,895 381,447 195,978 249,639 Real estate owned, net ................................. 433 1,218 1,869 3,468 7,762 Deposits ............................................... 655,911 584,479 559,864 532,141 561,456 Borrowed funds ......................................... 287,187 51,000 -- 10,000 -- Stockholders' equity ................................... 136,443 133,281 141,330 40,115 45,345 Book value per share(2) ................................ 17.35 16.15 16.39 -- -- Selected Operating Data Interest and dividend income ........................... $ 66,866 $ 55,061 $ 44,705 $ 42,511 $ 43,604 Interest expense ....................................... 34,795 26,302 22,898 19,440 20,030 ------------------------------------------------------------------------ Net interest income ................................ 32,071 28,759 21,807 23,071 23,574 Provision for loan losses .............................. 104 418 496 246 2,522 ------------------------------------------------------------------------ Net interest income after provision for loan losses .................................. 31,967 28,341 21,311 22,825 21,052 ------------------------------------------------------------------------ Non-interest income: Net gains (losses) on sales of securities and loans .......................................... 67 126 (316) (122) 2,004 Amortization of deferred gain from sale of real estate ................................ -- -- 2,784 -- -- New York State gains tax refund ...................... -- -- 387 -- -- Other income ......................................... 2,596 1,623 1,830 1,321 1,426 ------------------------------------------------------------------------ Total non-interest income .......................... 2,663 1,749 4,685 1,199 3,430 ------------------------------------------------------------------------ Non-interest expense: Other operating expenses ............................. 19,324 18,224 17,358 16,258 16,763 Recovery (Provision) for deposits at Nationar ........ -- (660) 660 -- -- Conversion expenses .................................. -- -- 2,222 -- -- ------------------------------------------------------------------------ Total non-interest expense ......................... 19,324 17,564 20,240 16,258 16,763 ------------------------------------------------------------------------ Income before income taxes and cumulative effect of changes in accounting principles ........... 15,306 12,526 5,756 7,766 7,719 Income tax provision ................................... 6,775 5,811 2,470 3,331 3,114 ------------------------------------------------------------------------ Income before cumulative effect of changes in accounting principles ............................. 8,531 6,715 3,286 4,435 4,605 Net cumulative effect of change in accounting principle .............................. -- -- -- -- 718 ------------------------------------------------------------------------ Net income ......................................... $ 8,531 $ 6,715 $ 3,286 $ 4,435 $ 5,323 ==================================================================================================================================== Basic earnings per share(3) ............................ $ 1.20 $ 0.86 Not meaningful -- -- Diluted earnings per share(3) .......................... $ 1.18 $ 0.86 Not meaningful -- -- Dividends declared per share ........................... $ 0.22 $ 0.08 -- -- -- (Footnotes on the following page)
5 Flushing Financial Corporation SELECTED FINANCIAL DATA
==================================================================================================================================== At and for the years ended December 31, 1997 1996 1995 1994 1993 - ------------------------------------------------------------------------------------------------------------------------------------ Selected Financial Ratios and Other Data Performance ratios: Return on average assets(4) ........................... 0.96% 0.89% 0.53% 0.70% 0.76% Return on average equity(4) ........................... 6.41 4.90 6.08 10.66 11.05 Average equity to average assets ...................... 15.00 18.17 8.70 6.56 6.86 Equity to total assets ................................ 12.53 17.19 19.95 6.78 7.37 Interest rate spread during period .................... 3.06 3.29 3.51 3.82 3.95 Net interest margin ................................... 3.74 4.01 3.74 3.90 4.10 Non-interest expense to average assets ................ 2.18 2.33 3.26 2.56 2.76 Efficiency ratio ...................................... 53.91 58.33 64.69 65.48 62.05 Average interest-earning assets to average interest-bearing liabilities ........................ 1.17x 1.20x 1.06x 1.03x 1.04x Regulatory capital ratios(5): Tangible capital ...................................... 9.11% 12.67% 14.85% 7.87% 7.37% Core capital .......................................... 9.11 12.67 14.85 7.87 7.37 Total risk-based capital .............................. 19.76 27.43 30.48 17.01 13.93 Asset quality ratios: Non-performing loans to gross loans(6) ................ 0.41% 0.62% 1.74% 2.05% 4.47% Non-performing assets to total assets(7) .............. 0.27 0.47 0.97 1.48 3.16 Net charge-offs to average loans ...................... 0.01 0.09 0.21 0.24 0.47 Allowance for loan losses to gross loans .............. 1.07 1.39 1.85 2.07 2.19 Allowance for loan losses to total non-performing assets(7) ............................ 223.94 149.94 77.52 61.17 29.41 Allowance for loan losses to total non-performing loans(6) ............................. 263.38 225.79 106.61 101.11 48.94 Full-service customer facilities ........................ 7 7 7 7 7
(1) Includes the effect of the acquisition of New York Federal Savings Bank on September 9, 1997 in a purchase transaction valued at approximately $13.0 million in cash. (2) Calculated by dividing net equity of $136.4 million and $133.3 million at December 31, 1997 and 1996, respectively, by 7,864,620 and 8,250,497 shares outstanding at December 31, 1997 and 1996, respectively. (3) The Company completed its initial public offering on November 21, 1995. Earnings of the Company from the period November 21, 1995 through December 31, 1995 year end were $655,000 which, based on 7,935,552 weighted average shares outstanding for the same period, equals to $0.08 per share. The shares held in the Company's Employee Benefit Trust are not included in shares outstanding for purposes of calculating earnings per share. Unvested restricted stock awards are not included in basic earnings per share calculations, but are included in diluted earnings per share calculations. Weighted average shares outstanding for the years ended December 31, 1997 and 1996, for basic earnings per share calculations, were 7,106,406 and 7,801,029, respectively, and for diluted earnings per share calculations, were 7,210,433 and 7,844,705, respectively, in conformance with SFAS 128. (4) Fiscal year 1993 reflects income before cumulative effects of changes in accounting principles. (5) The Bank exceeded all minimum regulatory capital requirements during the periods presented. (6) Non-performing loans consist of non-accrual loans and loans delinquent 90 days or more that are still accruing. (7) Non-performing assets consists of non-performing loans and real estate owned. Market Price of Common Stock Flushing Financial Corporation Common Stock is traded on the Nasdaq National Market under the symbol "FFIC". As of December 31, 1997, the Company had approximately 970 shareholders of record, not including the number of persons or entities holding stock in nominee or street name through various brokers and banks. At December 31, 1997, the last trading date in 1997 for Nasdaq, the Company's common stock closed at $23.875. The following table shows the high and low closing sales price of the Common Stock during the period indicated. The Common Stock began trading November 21, 1995. 1997 1996 - -------------------------------------------------------------------------------- High Low High Low ================================================================================ First Quarter........................... $21.50 $17.38 $15.63 $14.38 Second Quarter.......................... 23.75 17.75 17.25 14.75 Third Quarter........................... 24.63 20.00 18.88 16.25 Fourth Quarter.......................... 24.75 21.00 19.00 17.63 Disclosure of the frequency and the amount of cash dividends declared on the Common Stock for the two most recent fiscal years is contained in the table at Note 21 of the Notes to Consolidated Financial Statements. Certain restrictions that limit the Company's ability to pay dividends are discussed in this Annual Report under the caption "Liquidity, Regulatory Capital and Capital Resources". 6 Flushing Financial Corporation MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS General Flushing Financial Corporation ("Holding Company") is the parent holding company for Flushing Savings Bank, FSB ("Bank"), a federally chartered stock savings bank. On November 21, 1995, the Bank completed its Conversion ("Conversion") from a federally chartered mutual savings bank to a federally chartered stock savings bank. The following discussion of financial condition and results of operations includes the collective results of the Holding Company and the Bank (collectively the "Company"), but reflects principally the Bank's activities. Unless otherwise indicated, for periods prior to November 21, 1995, the date the Holding Company acquired the Bank, reference to the Company reflects only the Bank's activities. The Company's principal business is attracting retail deposits from the general public and investing those deposits together with funds generated from operations, primarily in (i) originations and purchases of multi-family income-producing property loans, commercial real estate loans and one-to-four family residential mortgage loans; (ii) mortgage loan surrogates such as mortgage-backed securities; and (iii) U.S. government and federal agency securities, corporate fixed-income securities and other marketable securities. To a lesser extent, the Company originates certain other loans, including construction loans and Small Business Administration loans. The Company's results of operations depend primarily on net interest income, which is the difference between the interest income earned on its loan and security portfolios and its cost of funds, consisting primarily of interest paid on deposit accounts and borrowed funds. Net interest income is the result of the Company's interest rate spread, which is the difference between the average yield earned on interest-earning assets and the average cost of interest-bearing liabilities, and the average balance of interest-earning assets compared to the average balance of interest-bearing liabilities. The Company also generates non-interest income from loan fees, service charges on deposit accounts, mortgage servicing fees, late charges and other fees and net gains and losses on sales of securities and loans. The Company's operating expenses consist principally of employee compensation and benefits, occupancy and equipment costs, federal deposit insurance premiums, other general and administrative expenses and income tax expense. The Company's results of operations also can be significantly affected by its periodic provision for loan losses and specific provision for losses on real estate owned ("REO"). Such results also are significantly affected by general economic and competitive conditions, including changes in market interest rates, the strength of the local economy, government policies and actions of regulatory authorities. The Company has in the past increased growth through acquisitions of financial institutions or branches of other financial institutions, and will pursue growth through acquisitions that are, or are expected to be within a reasonable time frame, accretive to earnings, as opportunities arise. On September 9, 1997, the Holding Company acquired New York Federal Savings Bank ("New York Federal") and merged it with the Bank in a cash transaction that is immediately accretive to earnings, valued at approximately $13 million. With this purchase, the Bank acquired $75.1 million in real estate loans, $2.0 million in Small Business Administration loans, and $48.4 million in deposits. This acquisition enhanced the Bank's multi-family and commercial real estate lending businesses and provided entry into the Small Business Administration loan market. In November of 1997, the Bank established a wholly owned real estate investment trust subsidiary, Flushing Preferred Funding Corporation ("FPFC"), and transferred $256.7 million in real estate loans from the Bank to FPFC. The assets transferred to FPFC are viewed by regulators as part of the Bank's assets in consolidation. However, the establishment of FPFC provides an additional vehicle for access by the Company to the capital markets for future investment opportunities. In addition under current law, all income earned by FPFC and distributed to the Bank in the form of a dividend has the effect of reducing the Company's New York State and New York City income tax expense. Statements contained in this Annual Report relating to plans, strategies, objectives, economic performance and trends and other statements that are not descriptions of historical facts may be forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Forward looking information is inherently subject to risks and uncertainties, and actual results could differ materially from those currently anticipated due to a number of factors, which include, but are not limited to, the factors set forth in the third paragraph of this section, and under captions "Management Strategy", "Comparison of Operating Results for the Years Ended December 31, 1997 and 1996", "Comparison of Operating Results for the Years Ended December 31, 1996 and 1995" and "Other Trends and Contingencies" below, and elsewhere in this Annual Report and in other documents filed by the Company with the Securities and Exchange Commission from time to time. The Company has no obligations to update these forward-looking statements. 7 Flushing Financial Corporation Flushing Savings Bank, FSB The Bank was organized in 1929 as a New York State chartered mutual savings bank. On May 10, 1994, the Bank converted to a federally chartered mutual savings bank and changed its name from Flushing Savings Bank to Flushing Savings Bank, FSB. As a federal savings bank, the Bank's primary regulator is the Office of Thrift Supervision ("OTS"). The Bank's deposits are insured to the maximum allowable amount by the Bank Insurance Fund ("BIF"), which is administered by the Federal Deposit Insurance Corporation ("FDIC"). Management Strategy Management's strategy is to continue the Bank's focus as a consumer-oriented institution serving its local markets. In furtherance of this objective, the Company intends to (1) continue its emphasis on the origination of multi-family real estate, commercial real estate and one-to-four family residential mortgage lending, (2) seek to maintain asset quality, (3) seek to manage deposit growth and maintain low cost of funds, and (4) seek to manage interest rate risk. The Company has in the past increased growth through acquisitions of financial institutions and branches of other financial institutions, and will continue to pursue growth through acquisitions that are, or are expected to be within a reasonable time frame, accretive to earnings. There can be no assurance that the Company will be able to effectively implement this strategy. The Company's strategy is subject to change by the Board of Directors. Multi-Family Real Estate, Commercial Real Estate and One-to-Four Family Lending. The Company has traditionally emphasized the origination and acquisition of one-to-four family residential mortgage loans, which include adjustable rate mortgage ("ARM") loans, fixed rate mortgage loans and home equity loans. However, in recent years, the Company has also placed emphasis on multi-family and commercial real estate loans. The Company expects to continue its emphasis on multi-family and commercial real estate loans as well as on one-to-four family residential mortgage loans. At December 31, 1997, the Company's multi-family real estate loans, commercial real estate loans and one-to-four family residential mortgage loans amounted to $230.2 million (37.95%), $68.2 million (11.24%) and $301.4 million (49.66%), respectively, of gross loans. The Company seeks to increase its originations of multi-family real estate, commercial real estate and one-to-four family loans through more aggressive marketing and by maintaining competitive interest rates and origination fees. The Company's marketing efforts include advertising in its local markets and frequent contacts with mortgage brokers and other professionals who serve as referral sources. As part of these efforts, the Company established relationships with mortgage bankers who originate one-to-four family mortgage loans in the New York metropolitan area that are then purchased by the Company. Purchases of such loans increased from $39.9 million during 1996 to $50.0 million during 1997. The acquisition of New York Federal in September of 1997 also augmented the Company's market share, adding $62.4 million of multi-family real estate loans, $11.7 million of commercial real estate loans and $0.9 million of one-to-four family loans at the time of the acquisition. The acquisition of New York Federal also expanded the Bank's line of loan products with the acquisition of $2.0 million in Small Business Administration loans. Fully underwritten one-to-four family residential mortgage loans generally are considered by the banking industry to have less risk than other types of loans. Multi-family income-producing real estate loans and commercial real estate loans generally have higher yields than one-to-four family loans and shorter terms to maturity, but typically involve higher principal amounts and generally expose the lender to a greater credit risk than one-to-four family residential mortgage loans. The Company's increased emphasis on multi-family and commercial real estate loans could increase the overall level of credit risk inherent in the Company's loan portfolio. The greater risk associated with multi-family and commercial real estate loans may require the Company to increase its provisions for loan losses and to maintain an allowance for loan losses as a percentage of total loans in excess of the allowance currently maintained by the Company. Maintain Asset Quality. By adherence to its strict underwriting standards the Bank has been able to minimize net losses from impaired loans with net charge-offs declining $266,000 to $46,000 for the year ended December 31, 1997. The Company has continued to strengthen its loan portfolio, as evidenced by the increase in the Company's ratio of allowance for loan losses to non-performing loans from 225.79% at December 31, 1996 to 263.38% at December 31, 1997. The Company seeks to maintain its loans in performing status through, among other things, strict collection efforts and consistent monitoring of non-performing assets. To this end, the Company maintains an internal loan review committee that reviews the quality of loans and reports to the Loan Committee of the Board of Directors of the Bank on a monthly basis. From time to time, the Company has sold and may continue to make sales of non-performing assets. Non-performing assets declined to $2.9 million at December 31, 1997 from $3.6 million at December 31, 1996. Non-performing assets as a percentage of total assets declined from 0.47% at December 31, 1996 to 0.27% at December 31, 1997. 8 Flushing Financial Corporation Managing Deposit Growth and Maintaining Low Cost of Funds. The Company has a relatively stable retail deposit base drawn from its market area through its seven full-service offices. Although the Company seeks to retain existing deposits and maintain depositor relationships by offering quality service and competitive interest rates to its customers, the Company seeks to keep deposit growth within reasonable limits. During the current low interest rate environment, the Bank has experienced a shift by depositors from low-cost savings, NOW and money market accounts to higher cost certificate of deposit accounts. Management intents to balance its goal to remain competitive in interest rates on deposits while seeking to manage its overall cost of funds to finance its strategies. Historically, the Company has relied on its deposit base as its principal source of funding. In May 1994, the Bank became a member of the Federal Home Loan Bank of New York ("FHLB-NY"), which provides it with an additional source of relatively low cost borrowing which the Company has increasingly utilized. Managing Interest Rate Risk. The Company seeks to reduce its exposure to interest rate risk by managing the interest rate sensitivity of its assets. The mix of loans originated by the Company (fixed-rate or ARM) is determined in large part by borrowers' preferences, and the proportion of loans originated as fixed-rate loans may increase should interest rates decline. The Company seeks to adjust the interest rate sensitivity of its assets by retaining ARM loans it originates, purchasing additional ARM loans or adjustable-rate mortgage-backed securities and fixed-rate mortgage-backed securities with remaining estimated lives of less than five years. In order to maintain flexibility in managing the Company's interest rate sensitive assets, substantially all of the fixed-rate residential mortgage loans originated by the Company since 1990 were made in conformance with Federal National Mortgage Association ("FNMA") requirements to facilitate sale in the secondary market. Prevailing interest rates also affect the extent to which borrowers repay and refinance loans. In a declining interest rate environment, the number of loan prepayments and loan refinancings to lower than original interest rates may increase, as well as prepayments of mortgage-backed securities. Call provisions associated with the Company's investment in U.S. government agency and corporate securities may also adversely affect yield in a declining interest rate environment. Such prepayments and calls may adversely affect the yield of the Company's loan portfolio and mortgage-backed and other securities as the Company reinvests the prepaid funds in a lower interest rate environment. However, the Company typically receives additional loan fees when existing loans are refinanced, which partially offset the reduced yield on the Company's loan portfolio resulting from prepayments. In periods of low interest rates, the Company's level of core deposits also may decline if depositors seek higher yielding instruments or other investments not offered by the Company, which in turn may increase the Company's cost of funds and decrease its net interest margin to the extent alternative funding sources are utilized. Interest Rate Sensitivity Analysis A financial institution's exposure to the risks of changing interest rates may be analyzed, in part, by examining the extent to which its assets and liabilities are "interest rate sensitive" and by monitoring the 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 maturing or repricing within a specific time period and the amount of interest-bearing liabilities maturing or repricing within that time period. A gap is considered positive when the amount of interest-earning assets maturing or repricing exceeds the amount of interest-bearing liabilities maturing or repricing within the same period. A gap is considered negative when the amount of interest-bearing liabilities maturing or repricing exceeds the amount of interest-earning assets maturing or repricing within the same period. Accordingly, a positive gap may enhance net interest income in a rising rate environment and reduce net interest income in a falling rate environment. Conversely, a negative gap may enhance net interest income in a falling rate environment and reduce net interest income in a rising rate environment. The table on the following page sets forth the amounts of interest-earning assets and interest-bearing liabilities outstanding at December 31, 1997 which are anticipated by the Company, based upon certain assumptions, to reprice or mature in each of the future time periods shown. Except as stated below, the amount of assets and liabilities shown which reprice or mature during a particular period was determined in accordance with the earlier of the term to repricing or the contractual terms of the asset or liability. Prepayment assumptions for mortgage-backed securities are based on national averages. Passbook and Money Market accounts were assumed to have a withdrawal or "run-off" rate of 3% and 7%, respectively, based on historical experience. Management believes that these assumptions are indicative of actual prepayments and withdrawals experienced by the Company. 9 Flushing Financial Corporation
---------------------------------------------------------------------------------------- Interest Rate Sensitivity Gap Analysis At December 31, 1997 ---------------------------------------------------------------------------------------- More than More than More than Three Three One Year Three Years Five Years Months Months to to Three to Five to Ten More than and Less One Year Years Years Years Ten Years Total ==================================================================================================================================== Interest-Earning Assets (Dollars in thousands) Mortgage loans(1) ....................... $ 17,830 $ 79,552 $167,046 $175,386 $131,036 $ 31,709 $ 602,559 Other loans(1) .......................... -- -- 4,175 -- -- -- 4,175 Short-term securities(2) ................ 82,095 -- -- -- -- -- 82,095 Securities available for sale: Mortgage-backed securities(3) ......... 12,498 44,339 32,746 39,973 54,816 32,738 217,110 Other(3) .............................. 9,927 14,421 32,139 4,055 73,041 6,019 139,602 ---------------------------------------------------------------------------------------- Total interest-earning assets ....... 122,350 138,312 236,106 219,414 258,893 70,466 1,045,541 ---------------------------------------------------------------------------------------- Interest-Bearing Liabilities Passbook accounts ....................... 1,627 4,881 12,389 11,603 25,886 145,282 201,668 NOW accounts ............................ -- -- -- -- -- 23,825 23,825 Money market accounts ................... 433 1,299 3,092 2,653 5,101 10,948 23,526 Certificate of deposit accounts ......... 99,757 130,034 122,644 24,539 5,755 -- 382,729 Mortgagors' escrow deposits ............. -- -- -- -- -- 2,074 2,074 ---------------------------------------------------------------------------------------- Borrowed funds .......................... 15,425 25,795 140,852 104,760 -- 355 287,187 ---------------------------------------------------------------------------------------- Total interest-bearing liabilities(4) $117,242 $162,009 $278,977 $143,555 $ 36,742 $ 182,484 $ 921,009 Interest rate sensitivity gap ........... $ 5,108 $(23,697) $(42,871) $ 75,859 $222,151 $(112,018) $ 124,532 Cumulative interest-rate sensitivity gap $ 5,108 $(18,589) $(61,460) $ 14,399 $236,550 $ 124,532 $ 124,532 Cumulative interest-rate sensitivity gap as a percentage of total assets(5) .... 0.47% (1.71)% (5.65)% 1.32% 21.73% 11.44% 11.44% Cumulative net interest-earning assets as a percentage of interest-bearing liabilities .......... 104.36% 93.34% 88.99% 102.05% 132.03% 121.17% 121.17%
(1) For purposes of the gap analysis, gross mortgage and other loans are reduced for non-performing loans. (2) Consists of interest-earning deposits. (3) Securities available for sale are presented at their amortized cost. (4) Does not include non-interest-bearing demand accounts totaling $22.1 million at December 31, 1997. (5) The Company's one year cumulative gap ratio improved from -11.32% at December 31, 1996 to -1.71% at December 31, 1997. This improvement reflects the increase of $54.6 million in short-term securities as management took advantage of certain low cost funding opportunities at year-end. Certain shortcomings are inherent in the method of analysis presented in the foregoing table. For example, although certain assets and liabilities may have similar estimated maturities or periods to repricing, they may react in differing degrees to changes in market interest rates and may bear rates that differ in varying degrees from the rates that would apply upon maturity and reinvestment or upon repricing. 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 ARM loans, have features that restrict changes in interest rates on a short-term basis and over the life of the asset. Further, in the event of a significant change in the level of interest rates, prepayments on loans and mortgage-backed securities, and deposit withdrawal or "run-off" levels, would likely deviate materially from those assumed in calculating the above table. In the event of an interest rate increase, some borrowers may be unable to meet the increased payments on their adjustable-rate debt. The interest rate sensitivity analysis assumes that the nature of the Company's assets and liabilities remains static. Interest rates may have an effect on customer preferences for deposits and loan products. Finally, the maturity and repricing characteristics of many assets and liabilities as set forth in the above table are not governed by contract but rather by management's best judgement based on current market conditions and anticipated business strategies. 10 Flushing Financial Corporation Analysis of Net Interest Income Net interest income represents the difference between income on interest-earning assets and expense on interest-bearing liabilities. Net interest income depends upon the relative amount of interest-earning assets and interest-bearing liabilities and the interest rate earned or paid on them. The following table sets forth certain information relating to the Company's consolidated statements of financial condition and the consolidated statements of operations for the years ended December 31, 1997, 1996 and 1995, and reflects the average yield on assets and average cost of liabilities for the periods indicated. Such yields and costs are derived by dividing income or expense by the average balance of assets or liabilities, respectively, for the periods shown. Average balances are derived from average daily balances. The yields include amortization of fees which are considered adjustments to yields.
==================================================================================================================================== For the years ended December 31, 1997 1996 1995 - ------------------------------------------------------------------------------------------------------------------------------------ Average Average Average Average Yield/ Average Yield/ Average Yield/ Balance Interest Cost Balance Interest Cost Balance Interest Cost ---------------------------------------------------------------------------------------------- Assets (Dollars in thousands) Interest-earning assets: Mortgage loans, net(1)(2)(3) ... $491,834 $ 41,835 8.51% $324,427 $ 28,940 8.92% $261,738 $ 24,209 9.25% Other loans, net(1)(2) ......... 2,268 227 10.01 1,997 221 11.07 2,774 277 9.99 Mortgage-backed securities ..... 180,615 12,651 7.00 160,371 10,422 6.50 180,178 11,603 6.44 Other securities ............... 151,400 10,422 6.88 215,772 14,698 6.81 119,343 7,507 6.29 Interest-earning deposits and federal funds sold ....... 30,871 1,731 5.61 14,414 780 5.41 19,344 1,110 5.74 ---------------------------- ------------------------------ ---------------------------- Total interest-earning assets .... 856,988 66,866 7.80 716,981 55,061 7.68 583,377 44,706 7.66 ----------------- ------------------ ----------------- Non-interest-earning assets ...... 30,076 36,736 37,934 -------- -------- -------- Total assets ................... $887,064 $753,717 $621,311 ======== ======== ======== Liabilities and Equity Interest-bearing liabilities: Deposits: Passbook accounts ............ $206,196 $ 5,884 2.85% $214,843 6,142 2.86 $227,740 6,475 2.84 NOW accounts ................. 22,679 432 1.90 19,483 370 1.90 18,520 349 1.88 Money market accounts ........ 24,367 692 2.84 26,470 741 2.80 31,145 869 2.79 Certificate of deposit accounts ........... 342,898 19,487 5.68 296,867 16,848 5.68 260,462 14,597 5.60 Subscription deposits ........ -- -- -- -- -- -- 4,261 118 2.77 Mortgagors' escrow deposits ............ 6,044 71 1.17 4,292 63 1.47 4,136 57 1.38 Securities sold with the agreement to repurchase ........ -- -- -- -- -- -- 395 25 6.33 Other borrowed funds ............. 132,274 8,229 6.22 36,396 2,099 5.77 4,767 337 7.07 Other interest-bearing liabilities -- -- -- 457 39 8.53 757 72 9.51 ---------------------------------------------------------------------------------------------- Total interest-bearing liabilities 734,458 34,795 4.74 598,808 26,302 4.39 552,183 22,899 4.15 -------- ----------------- ------------------ ----------------- Other liabilities(4) ............. 19,570 17,975 15,087 -------- -------- -------- Total liabilities .............. 754,028 616,783 567,270 Equity ........................... 133,036 136,934 54,041 -------- -------- -------- Total liabilities and equity ... $887,064 $753,717 $621,311 ======== ======== ======== Net interest income/net interest rate spread(5) ........ $ 32,071 3.06% $ 28,759 3.29% $ 21,807 3.51% ================= ================== ================= Net interest-earning assets/net interest margin(6) ............. $122,530 3.74% $118,173 4.01% $ 31,194 3.74% Ratio of interest-earning assets to interest-bearing liabilities 1.17x 1.20x 1.06x
(1) Average balances include non-accrual loans. (2) Loan interest income includes loan fee income of approximately $912,000, $1.0 million and $784,000 for the years ended December 31, 1997, 1996 and 1995, respectively. (3) Includes for 1995 a $371,000 non-recurring interest payment related to one loan sold in a prior period. Had this payment not been made, average yield on mortgage loans for 1995 would have been 9.11%. (4) Includes non-interest-bearing demand deposit accounts. (5) Interest rate spread represents the difference between the average rate on interest-earning assets and the average cost of interest-bearing liabilities. (6) Net interest margin represents net interest income before the provision for loan losses divided by average interest-earning assets. 11 Flushing Financial Corporation Rate/Volume Analysis The following table presents the impact of changes in interest rates and in the volume of interest-earning assets and interest-bearing liabilities on the Company's interest income and interest expense during the periods indicated. Information is provided in each category with respect to (i) changes attributable to changes in volume (changes in volume multiplied by the prior rate), (ii) changes attributable to changes in rate (changes in rate multiplied by the prior volume) and (iii) the net change. The changes attributable to the combined impact of volume and rate have been allocated proportionately to the changes due to volume and the changes due to rate.
--------------------------------------------------------------------- Increase (Decrease) in Net Interest Income --------------------------------------------------------------------- Year Ended December 31, 1997 Year Ended December 31, 1996 Compared to Year Ended Compared to Year Ended December 31, 1996 December 31, 1995 --------------------------------------------------------------------- Due to Due to -------------------- -------------------- Volume Rate Net Volume Rate Net ==================================================================================================================================== (Dollars in thousands) Interest-Earning Assets Mortgage loans, net ........................................ $ 14,933 $ (2,038) $ 12,895 $ 5,799 $ (1,068) $ 4,731 Other loans ................................................ 30 (24) 6 (78) 22 (56) Mortgage-backed securities ................................. 1,316 913 2,229 (1,276) 95 (1,181) Interest-earning deposits and federal funds sold ........... 890 61 951 (283) (47) (330) Other securities ........................................... (4,384) 108 (4,276) 6,065 1,126 7,191 --------------------------------------------------------------------- Total interest-earning assets ............................ 12,785 (980) 11,805 10,227 128 10,355 --------------------------------------------------------------------- Interest-Bearing Liabilities Deposits: Passbook accounts ........................................ (258) -- (258) (333) -- (333) NOW accounts ............................................. 62 -- 62 21 -- 21 Money market accounts .................................... (59) 10 (49) (128) -- (128) Certificate of deposit accounts .......................... 2,615 24 2,639 2,039 212 2,251 Subscription deposits .................................... -- -- -- (118) -- (118) Mortgagors' escrow deposits .............................. 8 -- 8 6 -- 6 Other borrowed funds ....................................... 5,532 598 6,130 2,211 (474) 1,737 Other interest-bearing liabilities ......................... (39) -- (39) (33) -- (33) --------------------------------------------------------------------- Total interest-bearing liabilities ....................... 7,861 632 8,493 3,665 (262) 3,403 --------------------------------------------------------------------- Net change in net interest income .......................... $ 4,924 $ (1,612) $ 3,312 $ 6,562 $ 390 $ 6,952 ====================================================================================================================================
Comparison of Operating Results for the Years Ended December 31, 1997 and 1996 General. Net income increased $1.8 million from $6.7 million for the year ended December 31, 1996 to $8.5 million for the year ended December 31, 1997. This was due primarily to an increase of $3.3 million in net interest income, partially offset by an increase of $1.8 million in non-interest expense. Interest Income. Interest income increased $11.8 million, or 21.44%, to $66.9 million for the year ended December 31, 1997 from $55.1 million for the year ended December 31, 1996. This increase was primarily due to an additional $12.9 million in interest and fees on loans during 1997, offset in part by a $2.0 million decrease in interest and dividends on investment securities. The increase in interest and fee income from loans resulted from higher average loan balances which increased from $326.4 million for 1996 as compared to $494.1 million for 1997. The decline in interest and dividend income from investment securities was the result of a $44.1 million dollar decline in the average balance of investment securities during 1997 as compared to 1996. Other interest income also increased by $1.0 million due to an increase in the average balance of federal funds sold. 12 Flushing Financial Corporation Interest Expense. Interest expense increased $8.5 million, or 32.29%, from $26.3 million for the year ended December 31, 1996 to $34.8 million for the year ended December 31, 1997. The increase in interest expense was due primarily to a $95.9 million increase in the average balances of borrowed funds from $36.4 million for 1996 as compared to $132.3 million for 1997. The Company has increased its usage of FHLB-NY advances as an alternative source of funding to leverage its highly capitalized balance sheet. The increase in the average balances for deposits from $557.7 million for 1996 to $596.1 million for 1997 have also contributed to the increase in interest expense. The increase in deposits also reflects a shift in depositor preferences from lower cost passbook and money market accounts to higher cost certificate of deposit accounts. Net Interest Income. Net interest income for the year ended December 31, 1997 totaled $32.1 million, an increase of $3.3 million from 1996 net interest income of $28.8 million. Net interest margin, however, declined 27 basis points from 4.01% for the year ended December 31, 1996 to 3.74% for the year ended December 31, 1997. This decline in margin was the result of a 35 basis point increase in the average cost of funds from 4.39% for 1996 to 4.74% for 1997 as the Company increased utilization of borrowed funds and interest rates on deposits increased due to the shift in deposit mix. Partially offsetting this decline in margin was a 12 basis point increase in the average yield of interest-earning assets, primarily as a result of an increase in multi-family and commercial real estate loans. Interest rate spread also declined by 23 basis points from 3.29% for 1996 to 3.06% for 1997. Despite this decline in margin and spread, the actual dollar amount of net interest income earned increased 11.51% from 1996 to 1997 due to the increased loan volume. Provision for Loan Losses. Provision for loan losses for the year ended December 31, 1997 was $104,000 as compared to $418,000 for the year ended December 31, 1996. In assessing the adequacy of the Company's allowance for loan losses, management considers the Company's historical loss experience, recent trends in losses, collection policies and collection experience, trends in the volume of non-performing loans, changes in the composition and volume of the gross loan portfolio, local and national economic conditions, overall portfolio quality and review of specific problem loans. As a result of sales of non-performing assets, which reduced the total volume of non-performing loans held by the Company, the ratio of non-performing loans to gross loans improved from 0.62% at December 31, 1996 to 0.41% at December 31, 1997. Also as a result of the reduction in the overall level of non-performing loans, the Company's allowance for loan losses as a percentage of non-performing loans increased from 225.79% at December 31, 1996 to 263.38% at December 31, 1997. The ratio of allowance for loan losses to gross loans was 1.07% and 1.39% at December 31, 1997 and 1996, respectively. Net charge-offs declined $266,000 from $312,000 for the year ended December 31, 1996 to $46,000 for the year ended December 31, 1997. Non-Interest Income. Non-interest income for the year ended December 31, 1997 totaled $2.7 million, an increase of $914,000 from 1996 levels. The increase was due to a planned increase in loan and other fees and the receipt of $436,000 associated with settlements of contract disputes, offset in part by a decline in gain on sales of securities. Non-Interest Expense. Non-interest expense for the year ended December 31, 1997 totaled $19.3 million, representing an increase of $1.8 million from the year ended December 31, 1996. This increase was primarily attributable to the acquisition of New York Federal in September 1997, and by a onetime recovery of provision for deposits at Nationar in 1996 of $660,000. The effect of these factors was offset in part by a $430,000 decline in professional service expense and a $592,000 decline in data-processing expense as the Company converted to a new data processor in 1997. Income Tax Provisions. Income tax expense for the year ended December 31, 1997 totaled $6.8 million, as compared to $5.8 million for the year ended December 31, 1996. This represents a decline of 2.13% in the effective tax rate of 46.39% for the year ended December 31, 1996 to 44.26% for the year ended December 31, 1997. This decline reflects the ancillary benefit of the Bank's implementation of a real estate investment trust in November of 1997. Comparison of Operating Results for the Years Ended December 31, 1996 and 1995 General. Net income increased $3.4 million from $3.3 million for the year ended December 31, 1995 to $6.7 million for the year ended December 31, 1996. The increase was due primarily to an increase of $7.0 million, or 31.88%, in net interest income less related tax effect. Interest Income. Interest income increased $10.4 million, or 23.16%, to $55.1 million for the year ended December 31, 1996 from $44.7 million for the year ended December 31, 1995. This increase was primarily due to an additional $4.7 million in interest and fee income on loans and an additional $6.0 million in interest and dividend income on securities during 1996 as compared to 1995. The increase in interest income from loans and securities was the result of higher average balances in mortgage loans and investment securities. The average balance of mortgage loans increased 23.95%, or $62.7 million 13 Flushing Financial Corporation from $261.7 million for 1995 to $324.4 million for 1996. The average balance of investment securities increased $76.6 million from $299.5 million for 1995 to $376.1 million for 1996. The increase in interest income on loans and securities was offset in part by a $330,000 decline in other interest income due to a $4.9 million decline in the average balance of federal funds sold and overnight interest-earning deposits from $19.3 million for 1995 to $14.4 million for 1996. Interest Expense. Interest expense increased $3.4 million, or 14.86%, from $22.9 million for the year ended December 31, 1995 to $26.3 million for the year ended December 31, 1996. The increase in interest expense was due primarily to shifts in deposits from lower cost passbook and money market accounts to higher cost certificate of deposit accounts, and increased usage of borrowed funds. The average balances of certificates of deposit accounts increased $36.4 million from $260.5 million for the year ended December 31, 1995 to $296.9 million for the year ended December 31, 1996, while the average balances of passbook and money market accounts declined $12.9 million and $4.7 million, respectively, from 1995 as compared to 1996. The Bank also increased usage of FHLB-NY advances during 1996 as an alternative source of low cost funding to leverage its highly capitalized balance sheet. As a result, average balances for borrowed funds increased $31.3 million from $5.1 million for the year ended December 31, 1995 to $36.4 million for the year ended December 31, 1996. Net Interest Income. Net interest income for the year ended December 31, 1996 totaled $28.8 million, a $7.0 million increase from 1995 net interest income of $21.8 million. This increase occurred primarily as a result of the $10.4 million increase in interest income, offset in part by the $3.4 million increase in interest expense. The net interest margin increased 27 basis points from 3.74% for the year ended December 31, 1995 to 4.01% for the year ended December 31, 1996. However, as a result of declining interest rates on mortgage loans, increasing interest rates on deposits due to the shift in deposit mix, and increased utilization of borrowed funds, the interest rate spread decreased 22 basis points from 3.51% for the year ended December 31, 1995 to 3.29% for the year ended December 31, 1996. Provision for Loan Losses. Provision for loan losses for the year ended December 31, 1996 was $418,000 as compared to $496,000 for the year ended December 31, 1995. In assessing the adequacy of the Company's allowance for loan losses, management considers the Company's historical loss experience, recent trends in losses, collection policies and collection experience, trends in the volume of non-performing loans, changes in the composition and volume of the gross loan portfolio, which increased $103.0 million, or 35.92%, from $286.8 million at December 31, 1995, and local and national economic conditions. As a result of sales of non-performing loans which reduced the total volume of non-performing loans held by the Company, the ratio of non-performing loans to gross loans improved from 1.74% at December 31, 1995 to 0.62% at December 31, 1996. As a result of the reduction in the overall level of non-performing loans, the Company's allowance for loan losses as a percentage of non-performing loans increased from 106.61% at December 31, 1995 to 225.79% at December 31, 1996. The ratio of allowance for loan losses to gross loans was 1.39% and 1.85% at December 31, 1996 and 1995, respectively. Non-Interest Income. Non-interest income for the year ended December 31, 1996 totaled $1.7 million, a decrease of $2.9 million from 1995 levels. The decrease was primarily attributable to certain one time items recorded during the 1995 period consisting of amortization of deferred gains from the sale of real estate amounting to $2.8 million and the receipt of a $387,000 refund of New York State gains tax. Non-Interest Expense. Non-interest expense for the year ended December 31, 1996 totaled $17.6 million, representing a decrease of $2.7 million from the year ended December 31, 1995. This decrease was primarily due to the nonrecurrence of a one-time write-off in 1995 of $2.2 million of deferred costs that were incurred in connection with the Conversion through March 31, 1995, and the recovery in 1996 of $660,000 loss provision made in 1995 for $4.4 million in demand deposits at Nationar, a New York State chartered trust company, which were frozen by the Superintendent of Banks of the State of New York pending the outcome of the Superintendent's liquidation of Nationar. The Company received back all of its deposits in 1996 and the $660,000 loss provision was recovered. The decline in non-interest expenses was also aided by an $822,000 decrease in federal deposit insurance premium from $824,000 for the year ended December 31, 1995 to $2,000 for the year ended December 31, 1996 as a result of a reduction by the FDIC in assessment rate, and a $637,000 decrease in directors' pension expense due to one time expenses incurred in 1995 related to the establishment of the plan. The decreases in non-interest expense were offset in part by an increase of $686,000 in salaries and employee benefits and additional expenses associated with being a publicly held company and costs associated with a proposed change in the Company's provider of data processing systems being implemented as part of the Company's strategy to enhance its systems to improve efficiencies. 14 Flushing Financial Corporation Income Tax Provisions. Income tax expense for the year ended December 31, 1996 totaled $5.8 million, as compared to $2.5 million for the year ended December 31, 1995. This increase of $3.3 million, or 135.24%, was due to a 117.63% increase in income before taxes from $5.8 million for the year ended December 31, 1995 to $12.5 million for the year ended December 31, 1996. The effective tax rate for the year ended December 31, 1996 also increased to 46.39% from 42.92% for the year ended December 31, 1995. This increase in effective tax rates was partially the result of the repeal of favorable tax laws regarding provision for loan losses during 1996. Liquidity, Regulatory Capital and Capital Resources The Company's primary sources of funds are deposits, borrowings, principal and interest payments on loans, mortgage-backed and other securities, proceeds from sales of securities and, to a lesser extent, proceeds from sales of loans. Deposit flows and mortgage prepayments, however, are greatly influenced by general interest rates, economic conditions and competition. The Bank has an over-night line of credit of approximately $36.4 million with the FHLB-NY. In total, as of December 31, 1997, the Bank may borrow up to $263.4 million from the FHLB-NY in Federal Home Loan advances and over-night lines of credit. As of December 31, 1997, the Bank had borrowed $187.1 million in FHLB-NY advances and $100.0 million in reverse repurchase agreements with the FHLB-NY to fund lending and investment opportunities. There was no over-night line of credit outstanding at December 31, 1997. Pursuant to OTS regulations regarding liquidity requirements, the Bank is required to maintain an average daily balance of liquid assets (cash and certain securities with detailed maturity limitations and marketability requirements) equal to a monthly average of not less than a specified percentage of its net withdrawable deposit accounts plus short-term borrowings. The OTS may vary the amount of the liquidity requirement by regulation, but only within pre-established statutory limits of no less than 4% and no greater than 10%. For 1996 and the greater part of 1997, OTS regulation set the liquidity requirement at 5%, with a 1% short term liquidity requirement. Amendments to OTS regulations, effective November 27, 1997, reduced the liquidity requirement from 5% to 4% and removed the 1% short term liquidity requirement. In addition, these amendments eliminated the requirement that obligations of FNMA, GNMA and FHLMC must have five years or less remaining until maturity to qualify as a liquid asset. At December 31, 1997, the Bank's liquidity ratio, computed in accordance with the OTS requirements, as amended, was 24.53%. At December 31, 1996, the Bank's liquidity ratio, computed in accordance with the OTSrequirements prior to the amendment (and therefore excluding FNMA, GNMA and FHLMC obligations with maturities greater than five years), was 10.91%. Had the 1996 regulations been in effect on December 31, 1997, the Bank's liquidity ratio as computed in accordance with the 1996 regulation would have been 13.45%. Unlike the Bank, the Holding Company is not subject to OTS regulatory requirements on the maintenance of minimum levels of liquid assets. The Company's most liquid assets are cash and cash equivalents, which include cash and due from banks, federal funds sold and overnight interest-earning deposits with original maturities of 90 days or less. The level of these assets is dependent on the Company's operating, financing, lending and investing activities during any given period. At December 31, 1997, cash and cash equivalents totaled $90.4 million, an increase of $55.9 million from December 31, 1996. The Company also held marketable securities available for sale with a carrying value of $356.7 million at December 31, 1997. At December 31, 1997, the Company had outstanding loan commitments of $18.1 million, open lines of credit for borrowers of $3.8 million and commitments to purchase mortgage loans of $8.4 million. The Company's total interest and operating expenses in 1997 were $34.8 million and $19.3 million, respectively. Certificate of deposit accounts which are scheduled to mature in one year or less as of December 31, 1997 totaled $161.2 million. Cash flow provided by operating activities totaled $9.7 million for the year ended December 31, 1997 as compared to $13.2 million for the year ended December 31, 1996. This is the result of a $4.4 million recovery of deposits at Nationar during 1996 which increased 1996 cash flow provided by operating activities. Cash flow from financing activities increased $235.6 million to $298.4 million in 1997 as the Company increased borrowing activity by $185.2 million to $236.2 million in 1997 and deposit activity increased by $49.1 million. Cash provided by operating and financing activities was used to fund an increase in net loan origination and purchase activity of $216.8 million in 1997 as compared to $103.8 million in 1996, $7.6 million in net repurchases of the Company's common shares in 1997 and the purchase of New York Federal. At the time of the Bank's conversion from a federally chartered mutual savings bank to a federally chartered stock savings bank, the Bank was required by the OTS to establish a liquidation account which is reduced as and to the extent that eligible account holders reduce their qualifying deposits. The balance of the liquidation account at December 31, 1997 was $15.0 15 Flushing Financial Corporation million. In the unlikely event of a complete liquidation of the Bank, each eligible account holder will be entitled to receive a distribution from the liquidation account. The Bank is not permitted to declare or pay a dividend or to repurchase any of its capital stock if the effect would be to cause the Bank's regulatory capital to be reduced below the amount required for the liquidation account. Unlike the Bank, the Holding Company is not subject to OTS regulatory restrictions on the declaration or payment of dividends to its stockholders, although the source of such dividends could depend upon dividend payments from the Bank. The Holding Company is subject, however, to the requirements of Delaware law, which generally limit dividends to an amount equal to the excess of its net assets (the amount by which total assets exceed total liabilities) over its stated capital or, if there is no such excess, to its net profits for the current and/or immediately preceding fiscal year. Regulatory Capital Position. Under OTS capital regulations, the Bank is required to comply with each of three separate capital adequacy standards: tangible capital, core capital and total risk-based capital. Such classifications are used by the OTS and other bank regulatory agencies to determine matters ranging from each institution's semi-annual FDIC deposit insurance premium assessments, to approvals of applications authorizing institutions to grow their asset size or otherwise expand business activities. At December 31, 1997 and 1996, the Bank exceeded each of the three OTS capital requirements. (See Note 16 of the Notes to Consolidated Financial Statements.) Interest Rate Risk The Consolidated Financial Statements have been prepared in accordance with generally accepted accounting principles ("GAAP"), which requires the measurement of financial position and operating results in terms of historical dollars without considering the changes in fair value of investments due to changes in interest rate risk. Generally, the fair value of financial investments such as loans and securities fluctuates inversely with changes in interest rates. As a result, increases in interest rates could result in decreases in the fair value of the Company's interest-earning assets which could adversely affect the Company's results of operations if sold, or, in the case of securities classified as available-for-sale, the Company's stockholders' equity, if retained. The Company manages the mix of interest-earning assets and interest-bearing liabilities on a continuous basis to maximize return and adjust risk exposure. On a quarterly basis, management prepares the "Earnings and Economic Exposure to Changes In Interest Rate" report for review by the Board of Directors, as summarized below. This report quantifies the potential changes in net interest income and net portfolio value should interest rates go up or down (shocked) 400 basis points, assuming the yield curves of the rate shocks will be parallel to each other. Net portfolio value is defined as interest-earning assets net of interest-bearing liabilities. All changes in income and value are measured as percentage changes from the projected net interest income and net portfolio value at the base interest rate scenario. The base interest rate scenario assumes interest rates at December 31, 1997 and various estimates regarding prepayment and all activities are made at each level of rate shock. Actual results could differ significantly from these estimates. The Company's current interest rate exposure is within the guidelines set forth by the Board of Directors. Projected Percentage Change In - -------------------------------------------------------------------------------- Change in Interest Rate Net Interest Income Net Portfolio Value ================================================================================ - -400 Basis Points..................... 3.01% 25.03% - -300 Basis Points..................... 2.01 18.02 - -200 Basis Points..................... 0.61 11.84 - -100 Basis Points..................... -0.24 6.37 Base Interest Rate.................... -- -- +100 Basis Points..................... -3.42 -11.80 +200 Basis Points..................... -7.78 -24.43 +300 Basis Points..................... -12.73 -36.98 +400 Basis Points..................... -17.85 -48.25 16 Flushing Financial Corporation Impact of New Accounting Standards In June of 1997, the Financial Accounting Standard Board ("FASB") issued SFAS No.130, "Reporting Comprehensive Income", effective for fiscal years beginning after December 15, 1997. This Statement establishes standards for reporting and display of comprehensive income and its components (revenues, expenses, gains and losses) in a full set of general-purpose financial statements. Management anticipates that the potential impact to net income would consist solely of the inclusion of the SFAS 115 adjustments, net of tax, currently included in the stockholders' equity section of the financial statements. In June of 1997, FASB issued SFAS No.131, "Disclosures about Segments of an Enterprise and Related Information", effective for financial statements for periods beginning after December 15, 1997. This Statement establishes standards for the methodology of reporting information about operating segments of public enterprises in annual and interim financial reports. In February of 1998, FASB issued SFAS No.132, "Employers' Disclosures about Pensions and Other Postretirement Benefits", an amendment of FASB Statements No. 87, 88 and 106. This pronouncement is effective for fiscal years beginning after December 15, 1997. This Statement standardizes the disclosure requirements for pensions and other postretirement benefits to the extent practicable and does not change the measurement or recognition of the benefits. Other Trends and Contingencies The Company's net interest rate spread declined 23 basis points from 3.29% for the year ended December 31, 1996 to 3.06% for the year ended December 31, 1997. This decline was due primarily to a 35 basis point increase in the average cost of deposits and borrowings, partially offset by a 12 basis point increase in average yield on loans and other investments. From December 31, 1996 through December 31, 1997, the Company experienced an aggregate decline of $8.6 million in the average balance of its passbook savings account deposits and an aggregate increase of $46.0 million in the average balance of certificate of deposit accounts. The increase in certificate of deposit accounts was due primarily to $48.4 million in certificates of deposit acquired with the purchase of New York Federal. Although the Company has not raised the interest rate offered on its passbook accounts, it has sought to maintain its certificates of deposit at competitive rates. Starting in 1996, the Company also increased its utilization of FHLB-NY advances as an alternative source of funding. Borrowed funds totaled $287.1 million at December 31, 1997 with an average cost of 6.22% for 1997 as compared to the average cost of 5.68% for certificates of deposit during 1997 and 1996. These trends contributed to the increase in the Company's average cost of funds from 4.39% for 1996 to 4.74% for 1997. A continuation of these trends could result in a further increase in the Company's cost of funds and a narrowing of the Company's net interest margin. The Company utilizes and is dependent upon data processing systems and software to conduct its business. The data processing systems and software include those developed and maintained by the Company's third party data processing vendor and purchased software run on in-house computer networks. As the year 2000 approaches, a critical business issue has emerged regarding how existing application software programs and operating systems can accommodate this date value. As a result, in 1997, the Company established a year 2000 task force to assure that its computer systems will function properly in the year 2000. The task force has contacted the Company's data processing vendor and software suppliers to determine whether the systems used by the Company are year 2000 compliant and, if not, to assess the corrective steps being taken. The Company's data processing vendor and the majority of the other vendors which have been contacted have indicated that their hardware and/or software will be year 2000 compliant. Testing will be performed for compliance and regular monthly reports will be submitted to the Company's Board of Directors by the task force. While there may be some expense incurred during the next two years, year 2000 compliance is not expected to have a material effect on the Company's consolidated financial condition, results of operations or cash flows. 17 Flushing Financial Corporation and Subsidiaries CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
==================================================================================================================================== December 31, 1997 1996 - ------------------------------------------------------------------------------------------------------------------------------------ ASSETS Cash and due from banks .............................................................. $ 8,257,791 $ 7,472,155 Federal funds sold and overnight interest-earning deposits ........................... 82,094,629 26,953,000 Securities available for sale: Mortgage-backed securities ......................................................... 217,110,108 141,038,177 Other securities ................................................................... 139,602,095 190,856,985 Loans ................................................................................ 604,895,338 388,217,450 Less: Allowance for loans losses ................................................... (6,474,027) (5,436,832) -------------------------------------- Net loans ........................................................................ 598,421,311 382,780,618 Interest and dividends receivable .................................................... 9,281,705 6,896,504 Real estate owned, net ............................................................... 432,986 1,218,296 Bank premises and equipment, net ..................................................... 6,492,937 5,796,166 Federal Home Loan Bank of New York stock ............................................. 14,355,750 4,158,350 Goodwill ............................................................................. 5,369,899 -- Other assets ......................................................................... 7,056,825 8,172,253 -------------------------------------- Total assets ..................................................................... $ 1,088,476,036 $ 775,342,504 ====================================== LIABILITIES Due to depositors: Non-interest bearing ............................................................... $ 22,089,514 $ 10,292,645 Interest-bearing ................................................................... 631,747,441 570,761,937 Mortgagors' escrow deposits .......................................................... 2,074,434 3,424,764 Borrowed funds ....................................................................... 287,187,199 51,000,000 Other liabilities .................................................................... 8,934,348 6,582,114 -------------------------------------- Total liabilities ................................................................ 952,032,936 642,061,460 -------------------------------------- Commitments and contingencies (Note 17) STOCKHOLDERS' EQUITY Preferred stock, ($0.01 par value, authorized 5,000,000 shares) ...................... -- -- Common stock, ($0.01 par value, authorized 20,000,000 shares; 8,910,100 shares issued; 7,864,620 and 8,250,497 shares outstanding at December 31, 1997 and 1996, respectively) ....................................... 89,101 89,101 Additional paid-in capital ........................................................... 101,697,157 101,277,592 Treasury stock, at average cost (1,045,480 and 659,603 shares at December 31, 1997 and 1996, respectively) .......................................... (19,666,287) (12,065,068) Unearned compensation ................................................................ (10,921,058) (11,660,140) Retained earnings .................................................................... 63,785,160 56,869,884 Net unrealized gain (loss) on securities available for sale, net of taxes ............ 1,459,027 (1,230,325) -------------------------------------- Total stockholders' equity ....................................................... 136,443,100 133,281,044 -------------------------------------- Total liabilities and stockholders' equity ....................................... $ 1,088,476,036 $ 775,342,504 ======================================
The accompanying notes are an integral part of these consolidated financial statements. 18 Flushing Financial Corporation and Subsidiaries CONSOLIDATED STATEMENTS OF INCOME
================================================================================================================================== For the years ended December 31, 1997 1996 1995 - ---------------------------------------------------------------------------------------------------------------------------------- Interest and dividend income Interest and fees on loans .......................................... $ 42,061,973 $ 29,161,455 $ 24,485,869 Interest and dividends on securities: Taxable interest .................................................. 22,779,284 24,707,890 18,573,668 Tax-exempt interest ............................................... 46,723 63,205 106,322 Dividends ......................................................... 246,784 347,759 429,674 Other interest income ............................................... 1,731,033 780,400 1,110,034 ----------------------------------------------------- Total interest and dividend income .............................. 66,865,797 55,060,709 44,705,567 ----------------------------------------------------- Interest expense Deposits ............................................................ 26,565,634 24,163,442 22,465,268 Other interest expense .............................................. 8,229,449 2,137,904 433,092 ----------------------------------------------------- Total interest expense .......................................... 34,795,083 26,301,346 22,898,360 ----------------------------------------------------- Net interest income ............................................. 32,070,714 28,759,363 21,807,207 Provision for loan losses ........................................... 104,143 417,680 495,942 ----------------------------------------------------- Net interest income after provision for loan losses ............. 31,966,571 28,341,683 21,311,265 ----------------------------------------------------- Non-interest income Other fee income .................................................... 1,189,838 763,074 724,759 Net gain (loss) on sales of securities and loans .................... 66,718 126,254 (316,045) Amortization of deferred gain from sale of real estate .............. -- -- 2,784,422 New York State gains tax refund ..................................... -- -- 386,981 Other income ........................................................ 1,406,571 859,827 1,104,399 ----------------------------------------------------- Total non-interest income ....................................... 2,663,127 1,749,155 4,684,516 ----------------------------------------------------- Non-interest expense Salaries and employee benefits ...................................... 10,213,210 8,214,530 7,528,091 Occupancy and equipment ............................................. 1,907,712 2,092,953 1,994,915 Professional services ............................................... 1,583,286 2,013,003 1,563,181 Federal deposit insurance premiums .................................. 86,922 2,000 823,713 Data processing ..................................................... 873,130 1,465,022 995,642 Depreciation and amortization ....................................... 803,645 955,846 737,665 Real estate owned expenses .......................................... 108,660 318,304 539,920 (Recovery) Provision for deposits at Nationar ....................... -- (660,096) 660,096 Conversion expenses ................................................. -- -- 2,221,832 Other operating ..................................................... 3,747,536 3,162,991 3,174,954 ----------------------------------------------------- Total non-interest expense ...................................... 19,324,101 17,564,553 20,240,009 ----------------------------------------------------- Income before income taxes .......................................... 15,305,597 12,526,285 5,755,772 Provision for income taxes Federal ............................................................. 4,491,020 3,539,517 1,497,271 State and local ..................................................... 2,283,889 2,271,373 972,879 ----------------------------------------------------- Total provision for income taxes ................................ 6,774,909 5,810,890 2,470,150 ----------------------------------------------------- Net income .......................................................... $ 8,530,688 $ 6,715,395 $ 3,285,622 ===================================================== Basic earnings per share ............................................ $ 1.20 $ 0.86 Not meaningful Diluted earnings per share .......................................... $ 1.18 $ 0.86 Not meaningful
The accompanying notes are an integral part of these consolidated financial statements. 19 Flushing Financial Corporation and Subsidiaries CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
=================================================================================================================================== For the years ended December 31, 1997 1996 1995 - ----------------------------------------------------------------------------------------------------------------------------------- Common Stock Balance, beginning of year ................................................ $ 89,101 $ 86,250 -- Issuance of 8,625,000 shares on November 21, 1995 ......................... -- -- $ 86,250 Restricted stock awards of 285,100 shares ................................. -- 2,851 -- --------------------------------------------------- Balance, end of year .................................................. $ 89,101 $ 89,101 $ 86,250 =================================================== Additional Paid-In Capital Balance, beginning of year ................................................ $ 101,277,592 $ 96,514,628 -- Issuance of 8,625,000 shares on November 21, 1995, net of conversion costs of $2,658,413 ................................... -- -- $ 96,442,837 Release of shares from Employee Benefit Trust (18,040, 20,658 and 22,100 shares for the years ended December 31, 1997, 1996 and 1995, respectively) ......................... 203,857 134,128 71,791 Restricted stock awards (30,500 and 298,400 shares for the years ended December 31, 1997 and 1996, respectively) ......................... 104,574 4,628,836 -- Stock options exercised (7,400 shares) .................................... (19,707) -- -- Tax benefit of unearned compensations ..................................... 130,841 -- -- --------------------------------------------------- Balance, end of year .................................................. $ 101,697,157 $ 101,277,592 $ 96,514,628 =================================================== Treasury Stock Balance, beginning of year ................................................ $ (12,065,068) -- -- Purchases of common shares outstanding (420,477 and 667,653 shares for the years ended December 31, 1997 and 1996, respectively) ........... $ (8,246,997) $ (12,223,253) -- Restricted stock award forfeitures (3,300 and 5,250 shares for the years ended December 31, 1997 and 1996, respectively) ........... (54,605) (85,313) -- Restricted stock award (30,500 and 13,300 shares for the years ended December 31, 1997 and 1996, respectively) ................... 560,426 243,498 -- Options exercised (7,400 common shares) ................................... 139,957 -- -- --------------------------------------------------- Balance, end of year .................................................. $ (19,666,287) $ (12,065,068) -- =================================================== Unearned Compensations Balance, beginning of year ................................................ $ (11,660,140) $ (7,680,850) -- Purchase of 690,000 shares on November 21, 1995 for Employee Benefit Trust .............................................. -- -- $ (7,935,000) Release of shares from Employee Benefit Trust (18,040, 20,658 and 22,100 shares for the year ended December 31, 1997, 1996 and 1995, respectively) ......................... 240,564 237,583 254,150 Restricted stock awards (30,500 and 298,400 shares for the years ended December 31, 1997 and 1996, respectively) ................... (665,000) (4,875,185) -- Restricted stock award forfeitures (3,300 and 5,250 shares for the years ended December 31, 1997 and 1996, respectively) ........... 54,605 85,313 -- Restricted stock award expense ............................................ 1,108,913 572,999 -- --------------------------------------------------- Balance, end of year .................................................. $ (10,921,058) $ (11,660,140) $ (7,680,850) =================================================== Retained Earnings Balance, beginning of year ................................................ $ 56,869,884 $ 50,777,543 $ 47,491,921 Net income ................................................................ 8,530,688 6,715,395 3,285,622 Cash dividends declared and paid .......................................... (1,615,412) (623,054) -- --------------------------------------------------- Balance, end of year .................................................. $ 63,785,160 $ 56,869,884 $ 50,777,543 =================================================== Net Unrealized (Loss) Gain on Securities Available for Sale, Net of Taxes Balance, beginning of year ................................................ $ (1,230,325) $ 1,632,635 $ (7,377,253) Change in net gain (loss), net of taxes of approximately $2,266,000, $(2,443,000) and $7,899,000 for the years ended December 31, 1997, 1996 and 1995, respectively, on securities available for sale ........... 2,689,352 (2,862,960) 9,009,888 --------------------------------------------------- Balance, end of year .................................................. $ 1,459,027 $ (1,230,325) $ 1,632,635 =================================================== Total stockholders' equity ................................................ $ 136,443,100 $ 133,281,044 $ 141,330,206 ===================================================
The accompanying notes are an integral part of these consolidated financial statements. 20 Flushing Financial Corporation and Subsidiaries CONSOLIDATED STATEMENTS OF CASH FLOW
=================================================================================================================================== For the years ended December 31, 1997 1996 1995 - ----------------------------------------------------------------------------------------------------------------------------------- Operating Activities Net income ............................................................. $ 8,530,688 $ 6,715,395 $ 3,285,622 Adjustments to reconcile net income to net cash provided by operating activities: Provision for loan losses .......................................... 104,143 417,680 495,942 Provision for losses on real estate owned .......................... -- 149,948 311,197 (Recovery) Provision for deposits at Nationar ...................... -- (660,096) 660,096 Depreciation and amortization of bank premises and equipment ...................................... 803,645 955,846 737,665 Amortization of goodwill ........................................... 122,043 -- -- Net (gain) loss on sales of securities ............................. (51,718) (126,254) 316,045 Net gain on sales of loans ......................................... (15,000) -- -- Net loss (gain) on sales of real estate owned ...................... 108,660 (71,958) (70,437) Amortization of unearned premium, net of accretion of unearned discount ................................... 653,593 1,187,865 1,815,108 Amortization of deferred income .................................... (858,411) (933,277) (646,718) Deferred income tax (benefit) provision ............................ (155,244) (42,000) (461,113) Deferred compensation .............................................. 164,382 173,909 90,246 Amortization of deferred gain from sale of real estate ............. -- -- (2,784,422) Origination of mortgage loans available for sale ....................... -- -- (626,000) Proceeds from sales of loans available for sale ........................ -- -- 633,264 Changes in operating assets and liabilities ............................ (747,138) 4,444,271 (48,456) Unearned compensation .................................................. 1,028,647 944,710 -- ----------------------------------------------------- Net cash provided by operating activities ........................ 9,688,290 13,156,039 3,708,039 ----------------------------------------------------- Investing Activities Purchases of bank premises and equipment ............................... (1,500,416) (637,979) (1,192,403) Purchases of Federal Home Loan Bank shares ............................. (8,938,200) -- -- Purchases of securities available for sale ............................. (168,527,000) (141,594,000) (149,751,000) Purchases of securities held to maturity ............................... -- -- (20,147,000) Proceeds from sales and calls of securities available for sale ......... 108,059,718 128,355,254 56,984,691 Proceeds from maturities and prepayments of securities available for sale ..................................... 40,197,830 55,431,385 15,603,325 Proceeds from calls of securities held to maturity ..................... -- -- 249,000 Proceeds from maturities and prepayments of securities held to maturity ....................................... -- -- 16,759,441 Net originations and repayments of loans ............................... (91,785,729) (63,964,857) (9,348,510) Purchases of loans ..................................................... (124,988,000) (39,873,000) (18,766,000) Proceeds from sales of real estate owned ............................... 488,740 1,461,777 1,727,974 Acquisition of New York Federal, net of cash and cash equivalents ...... (5,170,579) -- -- ----------------------------------------------------- Net cash used in investing activities ............................ (252,163,636) (60,821,420) (107,880,482) ----------------------------------------------------- Continued
21
=================================================================================================================================== For the years ended December 31, 1997 1996 1995 - ----------------------------------------------------------------------------------------------------------------------------------- Financing Activities Net increase (decrease) in non-interest bearing deposits .................. 11,796,869 (79,803) 369,577 Net increase in interest-bearing deposits ................................. 60,985,504 23,727,191 43,951,101 Net (decrease) increase in mortgagors' escrow deposits .................... (1,350,330) 967,816 (243,810) Net increase (decrease) in short-term borrowed funds ...................... 5,000,000 25,000,000 (10,000,000) Increases in long-term borrowed funds ..................................... 231,187,199 26,000,000 -- Issuance of common stock, net ............................................. -- -- 72,249,000 Purchases of treasury stock, net .......................................... (7,601,219) (12,223,253) -- Cash dividends paid ....................................................... (1,615,412) (623,054) -- ----------------------------------------------------- Net cash provided by financing activities ............................. 298,402,611 62,768,897 101,325,868 ----------------------------------------------------- Net increase (decrease) in cash and cash equivalents ...................... 55,927,265 15,103,516 (2,846,575) Cash and cash equivalents, beginning of year .............................. 34,425,155 19,321,639 22,168,214 ----------------------------------------------------- Cash and cash equivalents, end of year ................................ $ 90,352,420 $ 34,425,155 $ 19,321,639 ===================================================== Supplemental Cash Flow Disclosure Interest paid ............................................................. $ 33,254,271 $ 26,263,133 $ 22,834,378 Income taxes paid ......................................................... 6,532,165 5,421,633 1,703,966 Non-cash activities: Loans originated as the result of real estate sales ..................... 637,100 306,568 482,292 Loans transferred through the foreclosure of a related mortgage loan to real estate owned ............................ 373,985 1,262,024 870,582 Change in unrealized gain (loss) on securities available for sale ....... 4,955,553 (5,308,535) 16,799,000 Transfer of securities from held to maturity to available for sale ...... -- -- 93,296,000 Transfer of deposits at Nationar to other assets ........................ -- -- 4,408,000 Transfer of depositor balances in exchange for common stock ............. -- -- 16,353,000
The accompanying notes are an integral part of these consolidated financial statements. 22 Flushing Financial Corporation and Subsidiaries NOTES TO CONSOLIDATED FINANCIAL STATEMENTS For the years ended December 31, 1997, 1996 and 1995 1. Nature of Operations Flushing Financial Corporation, a bank holding company (the "Holding Company"), was incorporated in May 1994 with authorized capital of 20,000,000 shares of $0.01 par value common stock and 5,000,000 shares of $0.01 par value preferred stock. On November 21, 1995, Flushing Savings Bank, FSB (the "Bank") converted from a mutual to capital stock form of ownership and the Holding Company acquired 100 percent of the outstanding common shares of the Bank. The transaction was accounted for in a manner similar to that of a pooling of interests. The Holding Company had no business or activity prior to its acquisition of the Bank on November 21, 1995. The consolidated financial statements presented for the year ended December 31, 1995 reflect principally the Bank's activities. Flushing Financial Corporation and its wholly direct and indirect owned subsidiaries, Flushing Savings Bank, FSB, FSB Properties, Incorporated, Flushing Preferred Funding Corporation and 780 East 138th Street Property Corporation are collectively herein referred to as the "Company". The Company's principal business is attracting retail deposits from the general public and investing those deposits together with funds generated from operations, primarily in (i) originations and purchases of one-to-four family residential mortgage loans, multi-family income-producing property loans, and commercial real estate loans; (ii) mortgage loan surrogates such as mortgage-backed securities and; (iii) U.S. government and federal agency securities, corporate fixed-income securities and other marketable securities. To a lesser extent, the Company originates certain other loans, including construction loans and Small Business Administration loans. The Bank conducts its business through seven full-service banking offices, of which four are located in Queens County, one in Nassau County, one in Kings County (Brooklyn) and one in New York County (Manhattan), New York. 2. Summary of Significant Accounting Policies The accounting and reporting policies of the Company and the Bank follow generally accepted accounting principles ("GAAP") and general practices applicable to the banking industry. The policies which materially affect the determination of the Company's financial position, results of operations and cash flows are summarized below. Principles of consolidation: The accompanying consolidated financial statements include the accounts of Flushing Financial Corporation and its wholly owned subsidiaries, Flushing Savings Bank, FSB, FSB Properties, Incorporated ("Properties"), 780 East 138th Street Property Corporation ("780 Corp.") and Flushing Preferred Funding Corporation ("FPFC"). Properties is an inactive subsidiary whose purpose was to manage real estate properties and joint ventures. 780 Corp. is an inactive subsidiary, which was used by New York Federal, prior to its acquisition by the Company, to manage its risk in real estate owned. FPFC is a real estate investment trust incorporated on November 5, 1997 to hold approximately $256.7 million of the Bank's mortgage loans. All significant intercompany accounts and transactions have been eliminated in consolidation. Use of estimates: The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, and reported amounts of revenue and expenses during the reporting period. Actual results could differ from these estimates. Cash and cash equivalents: For the purpose of reporting cash flows, the Company defines cash and due from banks, federal funds sold and overnight interest-earning deposits with original maturities of 90 days or less as cash and cash equivalents. Securities available for sale: Securities are classified as available for sale when management intends to hold the securities for an indefinite period of time or when the securities may be utilized for tactical asset/liability purposes and may be sold from time to time to effectively manage interest rate exposure and resultant prepayment risk and liquidity needs. Premiums and discounts are amortized or accreted, respectively, using the level-yield method. Realized gains and losses on the sales of securities are determined using the specific identification method. Unrealized gains and losses on securities available for sale are excluded from earnings and reported as a separate component of equity, net of taxes. Unamortized loan origination fees: The portion of loan origination fees that exceeds the direct costs of underwriting and closing loans is deferred. The deferred fees received in connection with a loan are amortized to income using the interest method over the shorter of the repricing period or the contractual life of the related loan. 23 Flushing Financial Corporation and Subsidiaries Allowance for loan losses: The Company maintains an allowance for loan losses at an amount which, in management's judgment, is adequate to absorb estimated losses on existing loans that may become uncollectible. Management's judgment in determining the adequacy of the allowance is based on evaluations of the collectibility of loans. These evaluations take into consideration such factors as changes in the composition and volume of the loan portfolio, current economic conditions that may affect the borrowers' ability to pay, overall portfolio quality and review of specific problem loans. The above factors may change significantly and therefore affect management's determination of the allowance for loan losses in the near term. Accrual of income on loans: Interest on loans is recognized as income when earned except to the extent that the underlying loan is deemed doubtful of collection and placed on non-accrual status. Loans are generally placed on non-accrual status when they become past due in excess of ninety days as to payment of principal or interest, and previously accrued interest is reversed. A non-accrual loan can be returned to accrual status after the loan meets certain criteria. Subsequent cash payments received on non-accrual loans that do not meet the criteria are applied first as a reduction of principal until all principal is recovered and then subsequently to interest. Mortgage loans available for sale: Mortgage loans available for sale consist of loans originated with the intent to sell. Mortgage loans available for sale are carried at lower of cost or market. Changes in the fair value are included in the determination of net income in the year in which the change occurs. Retained mortgage servicing rights relating to mortgage loans originated for sale are recognized as a separate assets, similar to purchased mortgage servicing rights. Capitalized mortgage servicing rights are assessed for impairment based upon the fair value of those rights. Real estate owned: Real estate owned consists of property acquired by foreclosure. These properties are carried at the lower of carrying amount or fair value less estimated costs to sell (hereinafter defined as fair value). This determination is made on an individual asset basis. If the fair value is less than the carrying amount, the deficiency is recognized as a valuation allowance. Further decreases to fair value will be recorded in this valuation allowance through a provision for losses on real estate owned. The Company utilizes estimates of fair value to determine the amount of its valuation allowance. Actual values may differ from those estimates. Bank premises and equipment: Bank premises and equipment are stated at cost, less depreciation accumulated on a straight-line basis over the estimated useful lives of the related assets (5 to 40 years). Leasehold improvements are amortized on a straight-line basis over the terms of the related leases or the lives of the assets, whichever is shorter. Federal Home Loan Bank Stock: In connection with the Bank's borrowings from the FHLB-NY, the Bank is required to purchase shares of FHLB-NY non-marketable capital stock at par. Such shares are redeemed by FHLB-NY at par with reductions in the Bank's borrowing levels. Securities sold under agreements to repurchase: Securities sold under agreements to repurchase are accounted for as collateralized financing and are carried at amounts at which the securities will be subsequently reacquired as specified in the respective agreements. Goodwill: The portion of the discount on the estimated fair value of net assets acquired in the acquisition of New York Federal is amortized using the interest method over the estimated lives of the related assets or liabilities. The cost of acquisition is amortized using the straight-line method over fifteen years. Earnings per share: Basic earnings per share for the years ended December 31, 1997 and 1996 was computed by dividing net income by the total weighted average number of common shares outstanding, including only the vested portion of restricted stock awards. Diluted earnings per share includes the additional dilutive effect of stock options outstanding and the unvested portions of restricted stock awards during the period. The shares held in the Company's Employee Benefit Trust are not included in shares outstanding for purposes of calculating earnings per share. Earnings per share for the year ended December 31, 1995 was calculated using the weighted average number of common shares outstanding for the period from November 21, 1995 to December 31, 1995 of 7,935,552 shares, and net income of $655,000 for the period from November 21, 1995 to December 31, 1995, and accordingly were not meaningful. 24 Flushing Financial Corporation and Subsidiaries Earnings per share has been computed based on the following:
==================================================================================================================================== 1997 1996 1995 - ------------------------------------------------------------------------------------------------------------------------------------ Net income ............................................................................ $8,530,688 $6,715,395 $ 655,000 Divided by: Weighted average common shares outstanding .......................................... 7,106,406 7,801,029 7,935,552 Weighted average common stock equivalents ........................................... 104,027 43,676 -- ---------------------------------------- Total weighted average common shares outstanding & common stock equivalents ....... 7,210,433 7,844,705 7,935,552 Basic earnings per share .............................................................. $ 1.20 $ 0.86 $ 0.08 Diluted earnings per share ............................................................ $ 1.18 $ 0.86 $ 0.08 ====================================================================================================================================
3. Cash and Cash Equivalents Cash and cash equivalents as of December 31, 1997, 1996 and 1995 are as follows:
==================================================================================================================================== (Dollars in thousands) ................................................................ 1997 1996 1995 - ------------------------------------------------------------------------------------------------------------------------------------ Cash and due from banks ............................................................... $ 8,258 $ 7,472 $ 11,884 Federal funds sold and overnight interest-earning deposits ............................ 82,094 26,953 7,438 ---------------------------------------- Total cash and cash equivalents ................................................... $ 90,352 $ 34,425 $ 19,322 ====================================================================================================================================
4. Loans The composition of loans as of December 31, 1997 and 1996 are as follows: ================================================================================ (Dollars in thousands) 1997 1996 - -------------------------------------------------------------------------------- One-to-four family ........................... $289,286 $223,245 Co-operative ................................. 12,065 13,273 Multi-family ................................. 230,229 104,870 Commercial ................................... 68,182 46,698 Construction ................................. 2,797 -- Small Business Administration ................ 2,789 -- Consumer ..................................... 1,385 1,679 ------------------------- Gross loans ................................ 606,733 389,765 Less: Unearned income ........................ 1,838 1,548 ------------------------- Total loans .............................. $604,895 $388,217 ================================================================================ The Bank adopted SFAS No. 114, "Accounting by Creditors for Impairment of a Loan" and SFAS No. 118, "Accounting by Creditors for Impairment of a Loan--Income Recognition and Disclosure", on January 1, 1995. Adoption of these Pronouncements did not have a significant impact on the Company's financial statements and did not affect the comparability of prior period credit risks. The total amount of loans on non-accrual status as of December 31, 1997, 1996 and 1995 was $2,458,000, $2,408,000 and $4,747,000, respectively. At December 31, 1997, impaired loans totaled $2,771,000; and $330,000, or 5.10%, of the allowance for loan losses relates to impaired loans. At December 31, 1996, impaired loans totaled $2,468,000; and $257,000, or 4.74%, of the allowance for loan losses relates to impaired loans. At December 31, 1995, impaired loans totaled $5,400,000; and $1,178,000 or 22% of the allowance for loan losses relates to impaired loans. The portion of the impaired loan amount above 100% of the loan-to-value ratio is charged off. Impaired loans include loans on non-accrual status and loans that are performing but deemed substandard by management. Impaired loans are analyzed on an individual basis. 25 Flushing Financial Corporation and Subsidiaries The following is a summary of interest foregone on non-accrual and restructured loans:
- ------------------------------------------------------------------------------------------------------------------------------ 1997 1996 1995 ---------------------------------------------------------------------------------- (Dollars in thousands) Non-accrual Restructured Non-accrual Restructured Non-accrual Restructured - ------------------------------------------------------------------------------------------------------------------------------ Interest income that would have been recognized had the loans performed in accordance with their original terms................. $180 -- $210 -- $365 $71 Less: Interest income included in the results of operations............ -- -- 65 -- 21 62 ---------------------------------------------------------------------------------- Foregone interest...................... $180 -- $145 -- $344 $ 9 ==============================================================================================================================
The following are changes in the allowance for loan losses:
============================================================================================================================= (Dollars in thousands) 1997 1996 1995 - ----------------------------------------------------------------------------------------------------------------------------- Balance, beginning of year............................................................ $5,437 $5,310 $ 5,370 Provision for loan losses............................................................. 104 418 496 Additional allowance acquired with the purchase of New York Federal................... 979 -- -- Charge-offs........................................................................... (206) (535) (1,052) Recoveries............................................................................ 160 244 496 ----------------------------------- Balance, end of year................................................................ $6,474 $5,437 $ 5,310 =============================================================================================================================
5. Real Estate Owned The following are changes in the allowance for losses on real estate owned:
============================================================================================================================= (Dollars in thousands) 1997 1996 1995 - ----------------------------------------------------------------------------------------------------------------------------- Balance, beginning of year............................................................ $ 281 $ 388 $ 774 Provision............................................................................. -- 150 311 Reduction due to sales of real estate owned........................................... (207) (257) (697) - ----------------------------------------------------------------------------------------------------------------------------- Balance, end of year................................................................ $ 74 $ 281 $ 388 =============================================================================================================================
6. Bank Premises and Equipment, Net Bank premises and equipment at December 31, 1997 and 1996 are as follows: ================================================================================ (Dollars in thousands) 1997 1996 - -------------------------------------------------------------------------------- Land ................................................... $ 801 $ 801 Building and leasehold improvements .................... 3,317 3,039 Equipment and furniture ................................ 7,383 6,500 ------------------- Total ................................................ 11,501 10,340 Less: Accumulated depreciation and amortization ........ 5,008 4,544 ------------------- Bank premises and equipment, net ..................... $ 6,493 $ 5,796 ================================================================================ 7. Accounting for Debt and Equity Securities Investments in equity securities that have readily determinable fair values and all investments in debt securities are classified in one of the following three categories and accounted for accordingly: (1) trading securities, (2) securities available for sale and (3) securities held to maturity. 26 Flushing Financial Corporation and Subsidiaries The Company did not hold any trading securities or securities held-to-maturity during the years ended December 31, 1997, 1996 and 1995. Securities available for sale are recorded at estimated fair value based on dealer quotations where available. Actual values may differ from estimates provided by outside dealers. Securities classified as held-to-maturity are stated at cost, adjusted for amortization of premium and accretion of discount using the level-yield method. The amortized cost and estimated fair value of the Company's securities, classified as available for sale as of December 31, 1997 are as follows:
- ------------------------------------------------------------------------------------------------------------------------------ Gross Gross Amortized Estimated Unrealized Unrealized (Dollars in thousands) Cost Market Value Gains Losses ============================================================================================================================== Securities Available for Sale U.S. Treasury securities and government agencies............ $120,106 $120,123 $ 366 $ 349 Corporate debt securities................................... 13,755 14,365 617 7 Public utility debt securities.............................. 2,247 2,271 33 9 Preferred stock............................................. 2,768 2,843 84 9 - ------------------------------------------------------------------------------------------------------------------------------ Total other securities.................................... 138,876 139,602 1,100 374 Mortgage-backed securities.................................. 215,159 217,110 2,683 732 - ------------------------------------------------------------------------------------------------------------------------------ Total securities available for sale....................... $354,035 $356,712 $3,783 $1,106 ==============================================================================================================================
The amortized cost and estimated fair value of the Company's securities, classified as available for sale at December 31, 1997, by contractual maturity, are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. ----------------------- Estimated Amortized Market (Dollars in thousands) Cost Value ================================================================================ Securities Available for Sale Due in one year or less .......................... $ 1,254 $ 1,258 Due after one year through five years ............ 34,146 34,214 Due after five years through ten years ........... 96,710 96,755 Due after ten years .............................. 6,766 7,375 ----------------------- Total other securities ......................... 138,876 139,602 Mortgage-backed securities ....................... 215,159 217,110 ----------------------- Total securities available for sale ............ $354,035 $356,712 ================================================================================ The amortized cost and estimated fair value of the Company's securities classified as available for sale at December 31, 1996, are as follows:
============================================================================================================================== Gross Gross Amortized Estimated Unrealized Unrealized (Dollars in thousands) Cost Market Value Gains Losses - ------------------------------------------------------------------------------------------------------------------------------ Securities Available for Sale U.S. Treasury securities and government agencies............ $150,045 $148,141 $ 296 $2,200 Corporate debt securities................................... 33,251 33,553 409 107 Public utility debt securities.............................. 4,305 4,294 8 19 Preferred stock............................................. 4,655 4,869 258 44 -------------------------------------------------------------- Total other securities.................................... 192,256 190,857 971 2,370 Mortgage-backed securities.................................. 141,917 141,038 1,497 2,376 -------------------------------------------------------------- Total securities available for sale....................... $334,173 $331,895 $2,468 $4,746 ==============================================================================================================================
For the year ended December 31, 1997, gross gains of $506,000 and losses of $454,000 were realized on sales of securities available for sale of $98,430,000. For the year ended December 31, 1996, gross gains of $500,000 and losses of $374,000 were realized on sales of securities available for sale of $102,076,000. For the year ended December 31, 1995, gross gains of $334,000 and losses of $650,000 were realized on sales of securities available for sale of $57,000,000. 27 Flushing Financial Corporation and Subsidiaries 8. Due to Depositors Due to depositors as of December 31, 1997 and 1996, and the weighted average rate on deposits for the year ended December 31, 1997, are as follows: ================================================================================ Weighted Average Cost (Dollars in thousands) 1997 1996 1997 - -------------------------------------------------------------------------------- Interest-bearing deposits: Certificate of deposit accounts........ $382,729 $314,483 5.94% Passbook savings accounts.............. 201,668 209,690 2.90 Money market accounts.................. 23,526 25,180 2.86 NOW accounts........................... 23,825 21,408 1.90 --------------------- Total interest-bearing deposits...... 631,748 570,761 Non-interest bearing deposits: Demand accounts........................ 22,089 10,293 --------------------- Total due to depositors.............. $653,837 $581,054 ============================================================================= The aggregate amount of time deposits with denominations greater than $100,000 was $29,856,000 and $22,047,000 at December 31, 1997 and 1996, respectively. Interest expense on deposits, for the years ended December 31, 1997, 1996 and 1995, respectively, is summarized as follows: ================================================================================ For the years ended December 31, 1997 1996 1995 - ------------------------------------------------------------------------------- (Dollars in thousands) Certificate of deposit accounts......... $19,487 $16,848 $14,597 Passbook savings accounts............... 5,884 6,142 6,475 Money market accounts................... 692 741 869 NOW accounts............................ 432 370 349 Subscription deposits................... -- -- 118 ------------------------------------- Total due to depositors............... 26,495 24,101 22,408 Mortgagors' escrow deposits............. 71 63 57 ------------------------------------- Total deposit expense................. $26,566 $24,164 $22,465 ================================================================================ 9. Borrowed Funds Borrowed funds as of December 31, 1997 and 1996, respectively, is summarized as follows:
============================================================================================================================= 1997 1996 ------------------------------------------------------ Weighted Weighted At December 31, Amount Average Rate Amount Average Rate - ----------------------------------------------------------------------------------------------------------------------------- (Dollars in thousands) Short-term Borrowings:(1) Reverse repurchase agreements................................... $ 20,000 5.91% -- -- FHLB-NY advances................................................ 10,000 6.35% $25,000 6.03% ------------------------------------------------------ Total short-term borrowings................................... $ 30,000 6.05% $25,000 6.03% ------------------------------------------------------ Long-term Borrowings: Reverse repurchase agreements................................... $ 80,000 5.82% -- -- FHLB-NY advances................................................ 177,112 6.34% $26,000 5.67% ------------------------------------------------------ Total short-term borrowings................................... $257,112 6.18% $26,000 5.67% ------------------------------------------------------ Other Borrowings.................................................. $ 75 -- ------------------------------------------------------ Total borrowings.................................................. $287,187 $51,000 =============================================================================================================================
(1) Borrowings with an original maturity date of less than one year. 28 Flushing Financial Corporation and Subsidiaries As part of the Company's strategy to finance investment opportunities with low cost funds, the Company had entered into reverse repurchase agreements with the Federal Home Loan Bank of New York ("FHLB-NY"). These agreements are recorded as financing transactions and the obligations to repurchase are reflected as a liability in the consolidated financial statements. The securities underlying the agreements are in the custody of FHLB-NY. FHLB-NY, who may sell, loan or otherwise dispose of such securities to other parties in the normal course of their operations, agreed to resell to the Company the same securities at the maturities of the agreements. The Company retains the right of substitution of collateral throughout the terms of the agreements. All the reverse repurchase agreements are collateralized by mortgage-backed securities. Information relating to these agreements at or for the year ended December 31, 1997 is as follows:
================================================================================================================================= At or for the year ended December 31, 1997 - --------------------------------------------------------------------------------------------------------------------------------- (Dollars in thousands) Book value of collateral...................................................................................... $114,408 Estimated fair value of collateral............................................................................ 115,547 Average balance of outstanding agreements during the year..................................................... 6,904 Maximum balance of outstanding agreements at a month end during the year...................................... 100,000 Average interest rate of outstanding agreements during the year............................................... 5.84% =================================================================================================================================
Pursuant to a blanket collateral agreement with the FHLB-NY, advances are secured by all of the Bank's stock in the FHLB-NY, certain qualifying mortgage loans, mortgage-backed and mortgage-related securities, and other securities not otherwise pledged in an amount at least equal to 110% of the advances outstanding. 10. Income Taxes Flushing Financial Corporation files consolidated Federal and combined New York State and New York City income tax returns with the Bank and Properties. FPFC files separate Federal, New York State and New York City income tax returns as a real estate investment trust entity. Under SFAS No. 109, a deferred tax liability is recognized on all taxable temporary differences and a deferred tax asset is recognized on all deductible temporary differences and operating losses and tax credit carryforwards. A valuation allowance is recognized to reduce the potential deferred tax asset if it is "more likely than not" that all or some portion of that potential deferred tax asset will not be realized. This Statement also requires companies to take into account changes in tax laws or rates when valuing the deferred income tax amounts they carry on their Consolidated Statement of Financial Condition. Income tax provisions (benefits) for the years ended December 31, 1997, 1996 and 1995, are summarized as follows:
============================================================================================================================= For the years ended December 31, 1997 1996 1995 - ----------------------------------------------------------------------------------------------------------------------------- (Dollars in thousands) Federal: Current............................................................................. $5,148 $3,304 $1,951 Deferred............................................................................ (657) 236 (454) ----------------------------------- Total federal tax provision....................................................... 4,491 3,540 1,497 ----------------------------------- State and Local: Current............................................................................. 1,782 2,549 980 Deferred............................................................................ 502 (278) (7) ----------------------------------- Total state and local tax provision............................................... 2,284 2,271 973 ----------------------------------- Total income tax provision............................................................ $6,775 $5,811 $2,470 =============================================================================================================================
29 Flushing Financial Corporation and Subsidiaries The income tax provision in the consolidated statements of income has been provided at effective rates of 44%, 46% and 43% for the years ended December 31, 1997, 1996 and 1995, respectively. The effective rates differ from the statutory federal income tax rate as follows:
============================================================================================================================ For the years ended December 31, 1997 1996 1995 - ---------------------------------------------------------------------------------------------------------------------------- (Dollars in thousands) Taxes at federal statutory rate.................... $5,357 35% $4,258 34% $1,957 34% Increase (reduction) in taxes resulting from: State & local income tax, net of Federal income tax benefit..................... 1,485 10 1,499 12 691 12 Other.............................................. (67) (1) 54 -- (178) (3) --------------------------------------------------------------------- Taxes at effective rate........................ $6,775 44% $5,811 46% $2,470 43% ============================================================================================================================
The components of the income taxes for the years ended December 31, 1997, 1996 and 1995; attributable to income from operations and changes in equity are as follows:
============================================================================================================================== For the years ended December 31, 1997 1996 1995 - ------------------------------------------------------------------------------------------------------------------------------ (Dollars in thousands) Income from operations.......................................................... $6,775 $ 5,811 $ 2,470 Equity: Change in fair value of securities available for sale......................... 2,266 (2,443) 7,899 ---------------------------------------- Total....................................................................... $9,041 $ 3,368 $10,369 ==============================================================================================================================
The components of the net deferred tax asset (liability) as of December 31, 1997 and 1996 are as follows: ================================================================================ For the years ended December 31, 1997 1996 - -------------------------------------------------------------------------------- (In thousands) Deferred tax asset: Postretirement benefits ................................ $1,989 $1,781 Allowance for loan losses .............................. 1,545 1,935 Deferred income ........................................ 230 90 Unrealized losses on securities available for sale ..... -- 1,048 Other .................................................. 518 320 ----------------- Deferred tax asset ................................... 4,282 5,174 ----------------- Deferred tax liabilities: Unrealized gains on securities available for sale ...... 1,218 -- Depreciation expense ................................... 492 473 Other .................................................. -- 17 ----------------- Deferred tax liability ............................... 1,710 490 ----------------- Net deferred tax asset in other assets ................... $2,572 $4,684 ================================================================================ The Company has recorded a net deferred tax asset of $2,572,000. The realization is dependent on generating sufficient taxable income in future years and future loss carryback potential. Although realization is not assured, management believes it is more likely than not that all of the net deferred tax asset will be realized. 11. Benefit Plans The Company maintains a profit-sharing plan and the Bank maintains a 401(k) plan. Both plans are tax-qualified defined contribution plans which cover substantially all employees. Annual contributions are at the discretion of the Company's Board of Directors, but not to exceed the maximum amount allowable under the Internal Revenue Code. Annual contributions by the Bank into the 401(k) plan for employees vests 20% per year over a five year period. Contributions by the Company and its subsidiaries amounted to $469,000, $419,000 and $394,000 for the years ended December 31, 1997, 1996 and 1995, respectively. 30 Flushing Financial Corporation and Subsidiaries Employee Benefit Trust: As a part of the Conversion discussed in Note 14, an Employee Benefit Trust ("EBT") was established to assist the Company in funding its benefit plan obligations. The EBT borrowed $7,928,000 from the Company and used $7,000 of cash received from the Bank to purchase 690,000 shares of the common stock of the Company issued in the Conversion. The loan will be repaid principally from the Company's discretionary contributions to the EBT, dividend payments received on common stock held by the EBT, or forgiven by the Company, over a period of 30 years. At December 31, 1997 the loan had an outstanding balance of $7,191,000, bearing an interest rate of 6.22% per annum. The loan obligation of the EBT is considered unearned compensation and, as such, is recorded as a reduction of the Company's stockholders' equity. Both the loan obligation and the unearned compensation are reduced by the amount of loan repayments made by the EBT or forgiven by the Company. Shares purchased with the loan proceeds are held in a suspense account for contribution to specified benefit plans as the loan is repaid or forgiven. Shares released from the suspense account are used solely for funding matching contributions under the Bank's 401(k) plan and contributions to the Company's profit-sharing plan. Since the Company's annual contributions are discretionary, compensation payable under the EBT cannot be estimated. For the years ended December 31, 1997 and 1996, the Company recorded $411,000 and $372,000, respectively, of compensation expense under the EBT. The shares pledged as collateral are reported as unallocated EBT shares in the stockholders' equity. As shares are released from collateral, the Company reports compensation expense equal to the current market price of the shares, and the shares become outstanding for earnings per share computations. The EBT shares as of December 31, 1997 and 1996 are as follows:
================================================================================================ December 31, 1997 1996 - ------------------------------------------------------------------------------------------------ Shares owned by Employee Benefit Trust, beginning balance......... 647,242 667,900 Shares released and allocated..................................... 18,040 20,658 -------------------------- Shares owned by Employee Benefit Trust, ending balance............ 629,202 647,242 Market value of unallocated shares................................ $15,022,000 $11,731,000 ================================================================================================
Restricted Stock Plan: The 1996 Restricted Stock Incentive Plan ("Restricted Stock Plan") became effective on May 21, 1996 after adoption by the Board of Directors and approval by shareholders. The aggregate number of shares of common stock which may be issued under the Restricted Stock Plan to employees may not exceed 241,500 shares, and to Outside Directors may not exceed 103,500 shares, for a total of 345,000 shares (4% of the number of shares issued in the Company's initial public offering). Lapsed, forfeited or canceled awards and shares withheld from an award to satisfy tax obligations will not count against these limits, and will be available for subsequent grants. The shares distributed under the Restricted Stock Plan may be shares held in treasury or authorized but unissued shares. On May 21, 1996, the Company issued 285,100 restricted common shares under the Restricted Stock Plan, valued at $16.25 per share, based on the average market price on May 20, 1996. Another 13,300 restricted shares were granted from treasury stock under the Restricted Stock Plan on December 17, 1996, valued at $18.2188 per share, based on the average market price on December 17, 1996. An additional 29,500 and 1,000 restricted shares valued at $21.7500 and $23.3750 per share, respectively, were awarded on September 16, 1997 and December 16, 1997, respectively, in connection with the purchase of New York Federal Savings Bank. All grants vest 20% per year over a five year period with full vesting in the event of death, disability, retirement or a change in control. Total restricted stock award expense in 1997 and 1996 was $1,109,000 and $573,000, respectively. Restricted stock forfeitures during 1997 and 1996 totaled 3,300 and 5,250 shares, respectively. ---------------- Number of Shares ================================================================================ Restricted Stock Awards authorized.......................... 345,000 Restricted Stock Awarded.................................... 328,900 Restricted shares repurchased to satisfy tax obligations.... (14,277) Forfeitures................................................. (8,550) ---------------- Shares available for future Restricted Stock Awards......... 38,927 ================================================================================ 31 Flushing Financial Corporation and Subsidiaries Stock Option Plan: The 1996 Stock Option Incentive Plan ("Stock Option Plan") became effective on May 21, 1996 after adoption by the Board of Directors and approval by shareholders. The Stock Option Plan provides for the grant of incentive stock options intended to comply with the requirements of Section 422 of the Internal Revenue Code, nonstatutory stock options, and stock appreciation rights granted in tandem with such options. The aggregate number of shares of common stock which may be issued under the Stock Option Plan with respect to options granted to employees may not exceed 603,750 shares, and with respect to options granted to Outside Directors may not exceed 258,750 shares, for a total of 862,500 shares (10% of the number of shares issued in the Company's initial public offering). Lapsed, forfeited or canceled options will not count against these limits and will be available for subsequent grants. However, the cancellation of an option upon exercise of a related stock appreciation right will count against these limits. Options with respect to more than 75,000 shares of common stock may not be granted to any employee in any calendar year. The shares distributed under the Stock Option Plan may be shares held in treasury or authorized but unissued shares. The Company issued stock options with respect to 737,750 shares on May 21, 1996 with an exercise price of $16.25 per share, based on the average market price on May 20, 1996. Stock options with respect to 26,600 shares were also issued on December 17, 1996 with an exercise price of $18.21 per share, based on the average market price on that date. In connection with the acquisition of New York Federal Savings Bank, additional stock options with respect to 59,000 and 2,000 shares were issued to retained New York Federal employees on September 16, 1997 and December 16, 1997, respectively, with exercise prices of $21.75 and $23.38 per share, respectively. All grants vest 20% per year over a five year period with full vesting upon death, disability, retirement or a change in control. Stock options with respect to 6,600 and 10,500 shares were forfeited during the years ended December 31, 1997 and 1996, respectively. As permitted by SFAS No. 123, "Accounting for Stock-Based Compensation", the Company has chosen to apply APB Opinion No. 25, "Accounting for Stock Issued to Employees" and related Interpretations in accounting for its Stock Option Plan. Accordingly, no compensation cost has been recognized for options granted under the Stock Option Plan. Had compensation cost for the Company's Stock Option Plan been determined based on the fair value at the grant dates, consistent with the method prescribed by SFAS No. 123, the Company's net income and earnings per share would have been as follows. However, the initial impact of the new rules, as per SFAS No. 123, may not be representative of the effect on income in future years because the options vest over several years and additional option grants may be made each year.
=================================================================================================== 1997 1996 --------------------------------------------------------- As Reported Pro Forma As Reported Pro Forma - --------------------------------------------------------------------------------------------------- Net income............................ $8,531,000 $8,101,000 $6,715,000 $6,421,000 Basic earnings per share.............. $ 1.20 $ 1.14 $ 0.86 $ 0.82 Diluted earnings per share............ $ 1.18 $ 1.12 $ 0.86 $ 0.82 ===================================================================================================
The fair value of each option grant is estimated on the date of grant using the Black-Scholes option pricing model. The weighted average assumptions used for grants made in 1997 and 1996 are as follows: ================================================================================ 1997 Grants 1996 Grants - -------------------------------------------------------------------------------- Dividend yield................................... 1.21% 0.93% Expected volatility.............................. 28.55% 27.41% Risk-free interest rate.......................... 6.08% 6.58% Expected option life............................. 7 Years 7 Years ============================================================================== 32 Flushing Financial Corporation and Subsidiaries A summary of the status of the Company's Stock Option Plan as of December 31, 1997, and changes during the year is presented below:
-------------------------- Weighted Shares Average Underlying Exercise Options Price ========================================================================================================= Outstanding, beginning of year............................................. 753,850 $16.32 Granted.................................................................... 61,000 $21.80 Exercised.................................................................. 7,400 $16.25 Forfeited.................................................................. 6,600 $16.25 -------------------------- Outstanding, end of year................................................. 800,850 $17.31 Options exercisable at year-end............................................ 171,770 $16.31 Weighted-average fair value of options granted during the year............. $515,350 =========================================================================================================
The following table summarizes information about the Stock Option Plan at December 31, 1997:
---------------------------------------------------------------------- Options Outstanding Options Exercisable ---------------------------------------------------------------------- Weighted Weighted Number Average Number Average Outstanding at Remaining Exercisable at Exercise Exercise Prices 12/31/97 Contractual Life 12/31/97 Price ======================================================================================================= $16.25 714,250 8.5 Years 166,650 $16.25 $18.21 25,600 9.0 Years 5,120 $18.21 $21.75 59,000 9.6 Years -- -- $23.38 2,000 10.0 Years -- -- ---------------------------------------------------------------------- 800,850 171,770 $16.31 ========================================================================================================
Pension Plan: The Company also has a defined benefit pension plan covering substantially all of its employees (the "Retirement Plan"). The benefits are based on years of service and the employee's compensation during the three consecutive years out of the final ten years of service which produces the highest average. The Company's funding policy is to contribute annually the maximum amount that can be deducted for federal income tax purposes. Contributions are intended to provide not only for the benefits attributed to service to date but also for those expected to be earned in the future. The components of the net pension expense are as follows: ================================================================================ For the years ended December 31, 1997 1996 1995 - -------------------------------------------------------------------------------- (Dollars in thousands) Service cost .................................. $ 298 $ 309 $ 280 Interest cost ................................. 487 422 389 Amortization of transition asset .............. (2) (5) (5) Amortization of past service liability ........ (24) (25) (24) Return on plan assets ......................... (581) (505) (422) ---------------------------- Net pension expense ......................... $ 178 $ 196 $ 218 ================================================================================ 33 Flushing Financial Corporation and Subsidiaries The following table sets forth the funded status of the Retirement Plan and the amounts recognized in the consolidated statements of financial condition at December 31, 1997 and 1996.
==================================================================================================================================== December 31, 1997 1996 - ------------------------------------------------------------------------------------------------------------------------------------ (Dollars in thousands) Actuarial present value of benefit obligations: Accumulated benefit obligation, including vested benefits of $6,013,000 and $4,602,000 as of December 31, 1997 and 1996, respectively .................................. $ 6,143 $ 4,946 ==================================================================================================================================== Projected benefit obligation for service rendered to date ...................................... $(7,270) $(6,077) Plan assets at fair value ...................................................................... 8,863 7,255 -------------------------- Plan assets in excess of projected benefit obligation .......................................... 1,593 1,178 Unrecognized net gain from past experience different from that assumed and effects of changes in assumptions ........................................................ (1,144) (733) Prior service cost not yet recognized in periodic pension cost ................................. (159) (184) Unrecognized net asset ......................................................................... -- (2) -------------------------- Prepaid pension cost included in other assets ................................................ $ 290 $ 259 ====================================================================================================================================
For the years ended December 31, 1997 and 1996, the weighted average discount rate used in determining the actuarial present value of the projected benefit obligation was 7.25% and 7.5%. Compensation was projected to increase 5.0% and 5.5% for the years ended December 31, 1997 and 1996, respectively. The expected long-term rate of return on assets was 8%. Assets in the Retirement Plan consist of various equity and fixed income funds. The Bank has an Outside Director Retirement Plan (the "Directors' Plan"), which provides benefits to each outside director whose years of service as an outside director (including service as a director or trustee of the Bank or any predecessor) plus age equal or exceed 75. Benefits are also payable to an outside director whose status as an outside director terminates because of disability or who is an outside director upon a change of control (as defined in the Directors' Plan). An eligible director will be paid an annual retirement benefit equal to the last annual retainer paid, plus fees paid for attendance at Board meetings during the twelve month period prior to retirement. Such benefit will be paid in equal monthly installments for the lesser of the number of months such director served as an outside director or 120 months, provided, however, that a director's retirement benefits will be paid in a cash lump sum in the event of a change of control. In the event of the director's death, the surviving spouse shall receive the equivalent benefit. No benefits will be payable to a director who is removed for cause. The Holding Company has guaranteed the payment of benefits under the Directors' Plan. Upon adopting the Directors' Plan, the Bank elected to immediately recognize the effect of adopting the Directors' Plan of approximately $644,000. In addition, the periodic cost of the Directors' Plan for the year ended December 31, 1996 was $59,000. Expenses for the Directors' Plan for the year ended December 31, 1997 totaled $92,000. The following table sets forth the Directors' Plan's funded status and amounts recognized in the consolidated statements of financial condition at December 31, 1997 and 1996: =================================================================================== December 31, 1997 1996 - ----------------------------------------------------------------------------------- (Dollars in thousands) Actuarial present value of benefit obligation: Accumulated benefit obligation .......................... $ 1,654 $ 729 =================================================================================== Projected benefit obligation for service rendered to date (1,654) $(729) Plan assets at fair value ............................... -- -- -------------------- Plan assets in excess of projected benefit obligation ... (1,654) (729) Unrecognized gain ....................................... (18) (41) Unrecognized past service liability ..................... 828 -- -------------------- Accrued pension cost included in other liabilities ...... $ (844) $(770) ===================================================================================
For the years ended December 31, 1997 and 1996, the weighted average discount rate used in determining the actuarial present value of the projected benefit obligation was 7.25% and 7.75%, respectively. The level of future retainers was projected to remain constant. 34 Flushing Financial Corporation and Subsidiaries 12. Postretirement Benefits Other Than Pension In December 1990, the FASB issued SFAS No. 106, "Employers' Accounting for Postretirement Benefits Other Than Pensions". This Statement established accounting standards for postretirement benefits other than pensions (hereinafter referred to as postretirement benefits). The Statement principally focuses on health care benefits, although it applies to all forms of postretirement benefits other than pensions. The Company sponsors two defined benefit postretirement plans that cover all full time permanent employees and their spouses. One plan provides medical benefits through a fifty percent cost sharing arrangement. The other plan provides life insurance benefits and is noncontributory. These retiree programs are available to retirees with five years of service. Eligible retirees receive lifetime medical and life insurance coverage for themselves and lifetime medical coverage for their spouses. Comprehensive medical plan benefits equal the lesser of the normal plan benefit or the total amount not paid by Medicare. Life insurance benefits for retirees are based on annual compensation and age at retirement. As of December 31, 1997, the Bank has not adopted a funding policy. The following table sets forth the funded status and amounts recognized in the consolidated statement of financial condition:
============================================================================================================================= December 31, 1997 1996 - ----------------------------------------------------------------------------------------------------------------------------- (Dollars in thousands) Accumulated postretirement benefit obligation: Retirees...................................................................................... $ 724 $ 666 Fully eligible active plan participants....................................................... 516 129 Other active plan participants................................................................ 420 509 ------------------------ Accumulated postretirement plan obligations................................................. 1,660 1,304 ------------------------ Plan assets at fair value....................................................................... -- -- Accumulated postretirement benefit obligation in excess of plan assets.......................... 1,660 1,304 Unrecognized amounts: Past service liability........................................................................ 722 824 Ultimate net gain............................................................................. (113) 130 ------------------------ Postretirement benefit liability included in other liabilities.............................. $2,269 $2,258 =============================================================================================================================
Assumptions used in determining the actuarial present value of the accumulated postretirement benefit obligations as of December 31, 1997 and 1996 are as follows: ================================================================================ December 31, 1997 1996 - -------------------------------------------------------------------------------- Rate of return on plan assets............................ NA NA Discount rate............................................ 7.25% 7.50% Rate of increase in health care costs: Initial................................................ 7.5% 10.0% Ultimate (year 2005)................................... 5.0% 5.5% Annual rate of salary increases.......................... NA NA ================================================================================ The health care cost year end rate assumes a grading down of 0.5% per year from the initial rate to the ultimate rate. The health care cost trend rate assumptions have a significant effect on the amounts reported. To illustrate, increasing the assumed health care cost trend rates by one percentage point in each year would increase the accumulated postretirement benefit obligation as of December 31, 1997 by $134,000 and the aggregate of the service and interest cost components of net periodic postretirement benefit costs for the year ended by $16,000. 35 Flushing Financial Corporation and Subsidiaries For the year ended December 31, 1997, 1996 and 1995, the resulting net periodic postretirement benefit expense consisted of the following components:
============================================================================================================================== For the year ended December 31, 1997 1996 1995 - ------------------------------------------------------------------------------------------------------------------------------ (Dollars in thousands) Service cost--benefits earned during the period......................................... $ 69 $ 49 $ 66 Interest cost on accumulated postretirement benefit obligation......................... 110 96 131 Amortization of past service liability................................................. (102) (102) (57) ----------------------------------- Net postretirement benefit expense................................................... $ 77 $ 43 $140 ==============================================================================================================================
13. Related Party Transactions December 31, 1997 and 1996, loans to officers and related persons of officers, directors and the Company aggregated approximately $1,439,000 and $1,140,000, respectively. During the year ended December 31, 1997, repayments totaled approximately $125,000. 14. Conversion Costs On July 15, 1994, the registration statement on Form S-1 filed by the Company with the Securities and Exchange Commission became effective in accordance with Section 8(a) of the Securities Act of 1933. In March 1995, the Company withdrew the registration statement on Form S-1 and de-registered the shares thereunder. Costs incurred of approximately $2,222,000 that were directly associated with the Conversion through March 31, 1995, were expensed effective March 31, 1995. 15. Stockholders' Equity On November 21, 1995, the Company, through an initial public offering ("IPO"), completed the issuance and sale of 7,935,000 shares of common stock to the Bank's depositors and 690,000 shares to the Bank's Employee Benefit Trust ("EBT"). From the IPO, the Company received gross proceeds of $99,188,000, before reduction of $7,935,000 related to the EBT shares which were purchased through a loan from the Company to the EBT and $2,658,000 of IPO related expenses. Included in gross proceeds were $16,353,000 of bank depositor balances that were converted into IPO purchases of common stock. At December 31, 1997, restricted stock awards of 38,927 shares remain available for future grants and stock options in respect to 54,250 shares were also available for future grants. Stock options in respect to 800,850 shares are outstanding and not exercised. Additionally, the Bank established, in accordance with the requirements of the Office of Thrift Supervision ("OTS"), a liquidation account for $47,620,000 which was equal to its capital as of the date of the latest consolidated statement of financial condition appearing in the final IPO prospectus. The liquidation account is reduced as and to the extent that eligible account holders have reduced their qualifying deposits. Subsequent increases in deposits do not restore an eligible account holder's interest in the liquidation account. In the event of a complete liquidation of the Bank, each eligible account holder will be entitled to receive a distribution from the liquidation account in an amount proportionate to the current adjusted qualifying balances for accounts then held. As of December 31, 1997, the Bank's liquidation account was $15,021,000 and was presented within retained earnings. Accordingly, the Company's retained earnings were restricted by that amount. In addition to the restriction described above, the Company may not declare or pay cash dividends on or repurchase any of its shares of common stock if the effect thereof would cause the stockholders' equity to be reduced below applicable regulatory capital maintenance requirements or if such declaration and payment would otherwise violate regulatory requirements. Dividends paid for the years ended December 31, 1997 and 1996 totaled $1,615,000 and $623,000, respectively. Starting in the second quarter of 1997, the Board of Directors increased quarterly dividend payable from $0.04 per share to $0.06 per share, subject to the conditions stated above and the discretion of the Board of Directors. 16. Regulatory Capital The Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA") imposes a number of mandatory supervisory measures on banks and thrift institutions. Among other matters, FDICIA established five capital zones or classifications (well-capitalized, adequately capitalized, undercapitalized, significantly undercapitalized and critically undercapitalized). 36 Flushing Financial Corporation and Subsidiaries Such classifications are used by the OTS and other bank regulatory agencies to determine matters ranging from each institution's semi-annual FDIC deposit insurance premium assessments, to approvals of applications authorizing institutions to grow their asset size or otherwise expand business activities. Under OTS capital regulations, the Bank is required to comply with each of three separate capital adequacy standards. Set forth below is a summary of the Bank's compliance with OTS capital standards as of December 31, 1997 and 1996:
================================================================================================== December 31, 1997 December 31, 1996 -------------------------------------------------------- Percent of Percent of Amount Assets Amount Assets ================================================================================================== Tangible capital: Capital level....................... $ 95,355 9.11% $93,138 12.67% Requirement......................... 15,708 1.50% 11,028 1.50% Excess.............................. $ 79,647 7.61% $82,110 11.17% Core (Tier I) capital: Capital level....................... $ 95,355 9.11% $93,138 12.67% Requirement......................... 41,887 4.00% 29,408 4.00% Excess.............................. $ 53,468 5.11% $63,730 8.67% Total risk-based capital: Capital level....................... $101,794 19.76% $97,597 27.43% Requirement......................... 41,212 8.00% 28,464 8.00% Excess.............................. $ 60,582 11.76% $69,133 19.43% ==================================================================================================
17. Commitments and Contingencies Commitments: The Company is a 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 and lines of credit. The instruments involve, to varying degrees, elements of credit and market risks in excess of the amount recognized in the consolidated financial statements. The Company's exposure to credit loss in the event of nonperformance by the counterparty to the financial instrument for loan commitments and lines of credit is represented by the contractual amounts of these instruments. Commitments to extend credit (principally real estate mortgages), purchase mortgage loans and lines of credit (principally home equity lines of credit) amounted to approximately $18,077,000, $37,431,000 and $3,799,000, respectively, at December 31, 1997. Since generally all of the loan commitments are expected to be drawn upon, the total loan commitments approximate future cash requirements, whereas the amounts of lines of credit may not be indicative of the Company's future cash requirements. The Company uses the same credit policies in making commitments and conditional obligations as it does for on-balance-sheet instruments. The following is a summary, as of December 31, 1997, of commitments to extend credit for fixed-rate real estate mortgages. Total Commitments Average Interest Rate Average Commitment Term --------------------------------------------------------------------- $5,380,000 7.24% 180 days Commitments to extend credit are legally binding 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 and require payment of a fee. The Company evaluates each customer's credit worthiness on a case by case basis. Collateral held consists primarily of real estate. 37 Flushing Financial Corporation and Subsidiaries The Company's minimum annual rental payments for Bank premises due under noncancellable leases are as follows: -------------- Minimum Rental ================================================================================ (In thousands) Years ending December 31: 1998........................................................... $ 424 1999........................................................... 437 2000........................................................... 451 2001........................................................... 475 2002........................................................... 495 Thereafter..................................................... 2,187 -------------- Total minimum payments required.............................. $2,282 ============================================================================== The leases have escalation clauses for operating expenses and real estate taxes. Certain lease agreements provide for increases in rental payments based upon increases in the consumer price index. The Company has an option to renew the leases expiring in 2001 for two periods of five years each. Rent expense under these leases for the years ended December 31, 1997, 1996 and 1995 was approximately $449,000, $406,000 and $378,000, respectively. Contingencies: The Company is a defendant in various lawsuits. Management of the Company, after consultation with outside legal counsels, believes that the resolution of these various matters will not result in any material effect on the Company's consolidated financial condition, results of operations or cash flows. 18. Concentration of Credit Risk The Company's lending is concentrated in residential and commercial real estate loans to borrowers in the metropolitan New York area. The Company evaluates each customer's credit worthiness on a case-by-case basis under the Company's established underwriting policies. The collateral obtained by the Company generally consists of first liens on residential real estate and commercial income producing real estate. 19. Disclosures About Fair Value of Financial Instruments SFAS No. 107, "Disclosures About Fair Value of Financial Instruments", requires that the Company disclose the estimated fair values for certain of its financial instruments. Financial instruments include items such as loans, deposits, securities, commitments to lend and other items as defined in SFAS No. 107. Fair value estimates are supposed to represent estimates of the amounts at which a financial instrument could be exchanged between willing parties in a current transaction other than in a forced liquidation. However, in many instances current exchange prices are not available for many of the Company's financial instruments, since no active market generally exists for a significant portion of the Bank's financial instruments. Accordingly, the Company uses other valuation techniques to estimate fair values of its financial instruments such as discounted cash flow methodologies and other methods allowable under SFAS No. 107. Fair value estimates are subjective in nature and are dependent on a number of significant assumptions based on management's judgment regarding future expected loss experience, current economic condition, risk characteristics of various financial instruments, and other factors. In addition, SFAS No. 107 allows a wide range of valuation techniques, therefore, it may be difficult to compare the Company's fair value information to independent markets or to other financial institutions' fair value information. The Company generally holds its earning assets, other than securities available for sale, to maturity and settles its liabilities at maturity. However, fair value estimates are made at a specific point in time and are based on relevant market information. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Company's entire holdings of a particular instrument. Accordingly, as assumptions change, such as interest rates and prepayments, fair value estimates change and these amounts may not necessarily be realized in an immediate sale. SFAS No. 107 does not require disclosure about fair value information for items that do not meet the definition of a financial instrument or certain other financial instruments specifically excluded from its requirements. These items include core 38 Flushing Financial Corporation and Subsidiaries deposit intangibles and other customer relationships, premises and equipment, leases, income taxes, foreclosed properties and equity. Further, SFAS No. 107 does not attempt to value future income or business. These items are material and accordingly, the fair value information presented does not purport to represent, nor should it be construed to represent, the underlying "market" or franchise value of the Company. The estimated fair value of each material class of financial instruments as of December 31, 1997 and 1996 and the related methods and assumptions used to estimate fair value are as follows: Cash and due from banks, overnight interest-earning deposits and federal funds sold, interest and dividends receivable, mortgagors' escrow deposits, borrowed funds and other liabilities The carrying amounts are a reasonable estimate of fair value. Securities held to maturity and securities available for sale The estimated fair values of securities available for sale are contained in Note 7 of notes to consolidated financial statements. Fair value is based upon quoted market prices, where available. If a quoted market price is not available, fair value is estimated using quoted market prices for similar securities and adjusted for differences between the quoted instrument and the instrument being valued. Loans The estimated fair value of loans as of December 31, 1997 and 1996 is $608,164,000 and $396,140,000, respectively. For commercial mortgages, fair value is estimated by discounting the expected future cash flows using the current rates at which similar loans would be made to borrowers with similar credit ratings and remaining maturities. For residential mortgages, co-operative, and condominium loans, fair value is estimated using the quoted market prices for securities backed by similar loans, adjusted for differences in loan characteristics. For consumer loans, fair value is estimated by discounting the expected future cash flows using the current rates at which similar loans would be made to borrowers with similar credit ratings and remaining maturities. For non-accruing loans, fair value is generally estimated by discounting management's estimate of future cash flows with a discount rate commensurate with the risk associated with such assets. Due to depositors The estimated fair value of deposits as of December 31, 1997 and 1996 was $653,300,000 and $581,638,000, respectively. The fair values of demand, passbook savings, NOW and money market deposits are, by definition, equal to the amount payable on demand at the reporting date (i.e. their carrying value). The fair value of fixed-maturity certificates of deposits are estimated by discounting the expected future cash flows using the rates currently offered for deposits of similar remaining maturities. Other financial instruments The fair values of commitments to sell, lend or borrow are estimated using the fees currently charged or paid to enter into similar agreements, taking into account the remaining terms of the agreements and the present credit worthiness of the counterparties or on the estimated cost to terminate them or otherwise settle with the counterparties at the reporting date. For fixed-rate loan commitments to sell, lend or borrow, fair values also consider the difference between current levels of interest rates and committed rates (where applicable). As of December 31, 1997 and 1996, the fair values of the above financial instruments approximate the recorded amounts of the related fees and were not considered to be material. 20. Recent Accounting Pronouncements In June of 1997, the Financial Accounting Standard Board ("FASB") issued SFAS 130, "Reporting Comprehensive Income", effective for fiscal years beginning after December 15, 1997. This Statement establishes standards for reporting and display of comprehensive income and its components (revenues, expenses, gains and losses) in a full set of general-purpose financial statements. Management anticipates that the potential impact to net income would consist solely of the inclusion of the SFAS 115 adjustments, net of tax, currently included in the equities section of the financial statements. In June of 1997, FASB issued SFAS No.131, "Disclosures about Segments of an Enterprise and Related Information", effective for financial statements for periods beginning after December 15, 1997. This Statement establishes standards for the methodology of reporting information about operating segments of public enterprises in annual and interim financial reports. 39 Flushing Financial Corporation and Subsidiaries In February of 1998, FASB issued SFAS No.132, "Employers' Disclosures about Pensions and Other Postretirement Benefits", an amendment of FASB Statements No. 87, 88 and 106. This pronouncement is effective for fiscal years beginning after December 15, 1997. This Statement standardizes the disclosure requirements for pensions and other postretirement benefits to the extent practicable and does not change the measurement or recognition of the benefits. 21. Quarterly Financial Data (UNAUDITED) Selected unaudited quarterly financial data for the fiscal year ended December 31, 1997 and 1996 is presented below:
============================================================================================================================== 1997 1996 ------------------------------------------------------------------------------------------ Unaudited 4th 3rd 2nd 1st 4th 3rd 2nd 1st - ------------------------------------------------------------------------------------------------------------------------------ (In thousands except per share data) Quarterly operating data Interest income................. $18,903 $17,366 $15,940 $14,658 $14,427 $14,220 $13,514 $12,900 Interest expense................ 10,649 9,132 7,994 7,021 6,962 6,797 6,401 6,142 ------------------------------------------------------------------------------------------ Net interest income........... 8,254 8,234 7,946 7,637 7,465 7,423 7,113 6,758 Provision for loan losses....... 37 -- 47 20 96 20 150 152 Other operating income.......... 1,014 774 444 431 152 309 546 742 Other expense................... 5,324 5,013 4,434 4,554 4,173 4,637 4,512 4,242 ------------------------------------------------------------------------------------------ Income before income tax expense................. 3,907 3,995 3,909 3,494 3,348 3,075 2,997 3,106 Income tax expense.............. 1,582 1,802 1,786 1,604 1,617 1,404 1,346 1,444 ------------------------------------------------------------------------------------------ Net income (loss)............. $ 2,325 $ 2,193 $ 2,123 $ 1,890 $ 1,731 $ 1,671 $ 1,651 $ 1,662 ========================================================================================== Basic earnings per share........ $ 0.33 $ 0.31 $ 0.30 $ 0.26 $ 0.23 $ 0.21 $ 0.21 $ 0.21 Diluted earnings per share...... $ 0.32 $ 0.30 $ 0.29 $ 0.26 $ 0.23 $ 0.21 $ 0.21 $ 0.21 Dividends per share............. $ 0.06 $ 0.06 $ 0.06 $ 0.04 $ 0.04 $ 0.04 -- -- Average common shares outstanding for basic earnings per share...... 7,041 7,088 7,125 7,173 7,394 7,898 7,958 7,957 diluted earnings per share.... 7,191 7,206 7,203 7,240 7,452 7,945 7,958 7,957 ==============================================================================================================================
22. Parent Company Only Financial Information Earnings of the Bank are recognized by the Holding Company using the equity method of accounting. Accordingly, earnings of the Bank are recorded as increases in the Holding Company's investment, any dividends would reduce the Holding Company's investment in the Bank, and any changes in the Bank's unrealized gain or loss on securities available for sale, net of taxes, would increase or decrease, respectively, the Holding Company's investment in the Bank. The condensed financial statements for the Holding Company at and for the years ended December 31, 1997 and 1996 are presented below:
==================================================================================================================================== 1997 1996 - ------------------------------------------------------------------------------------------------------------------------------------ Condensed Statement of Financial Condition Assets: Cash and due from banks ......................................................................... $ 243,000 $ 185,000 Federal funds sold and overnight interest-earning deposit ....................................... 6,500,000 9,600,000 Securities available for sale: Mortgage-backed securities .................................................................... -- -- Other securities .............................................................................. 28,005,000 31,300,000 Interest receivable ............................................................................. 402,000 387,000 Receivable from Bank ............................................................................ -- -- Investment in Bank .............................................................................. 101,840,000 92,066,000 Other assets .................................................................................... 2,000 144,000 ------------------------------- Total assets .................................................................................. $ 136,992,000 $ 133,682,000 ==================================================================================================================================== Continued
40 Flushing Financial Corporation and Subsidiaries 22. Parent Company Only Financial Information (continued) Liabilities: Due to Bank ..................................................................................... -- $ 247,000 Other liabilities ............................................................................... $ 549,000 154,000 ------------------------------- Total liabilities ............................................................................. 549,000 401,000 ------------------------------- Stockholders' equity: Common stock .................................................................................... 89,000 89,000 Additional paid-in capital ...................................................................... 101,697,000 101,278,000 Unearned compensation ........................................................................... (10,921,000) (12,065,000) Treasury stock .................................................................................. (19,666,000) (11,660,000) Retained earnings ............................................................................... 63,785,000 56,869,000 Net unrealized gain (loss) on securities available for sale ..................................... 1,459,000 (1,230,000) ------------------------------- Total equity .................................................................................. 136,443,000 133,281,000 ------------------------------- Total liabilities and equity .................................................................. $ 136,992,000 $ 133,682,000 ==================================================================================================================================== Condensed Statement of Income Interest income ................................................................................... $ 2,391,000 $ 2,677,000 Other operating expenses .......................................................................... 478,000 776,000 ------------------------------- Income before taxes and equity in undistributed earnings of subsidiary .......................... 1,913,000 1,901,000 Income tax expense ................................................................................ 848,000 885,000 ------------------------------- Income before equity in undistributed earnings of subsidiary .................................... 1,065,000 1,016,000 Equity in undistributed earnings of the Bank ...................................................... 7,466,000 5,699,000 ------------------------------- Net income .................................................................................... $ 8,531,000 $ 6,715,000 ==================================================================================================================================== Condensed Statement of Cash Flow Operating activities: Net income ...................................................................................... $ 8,531,000 $ 6,715,000 Adjustments to reconcile net income to net cash provided by (used in) operating activities: Equity in undistributed earnings of the Bank .................................................. (7,466,000) (5,699,000) Net change in operating assets and liabilities ................................................ (146,000) 451,000 Unearned compensation, net .................................................................... 1,028,000 945,000 ------------------------------- Net cash provided by operating activities ................................................... 1,947,000 2,412,000 ------------------------------- Investing activities: Purchases of securities available for sale ...................................................... (3,075,000) (23,591,000) Proceeds from sales and calls of securities available for sale .................................. 7,302,000 29,177,000 Investment in Bank, net ......................................................................... -- 11,500,000 ------------------------------- Net cash provided by investing activities ................................................... 4,227,000 17,086,000 ------------------------------- Financing activities: Issuance of common stock ........................................................................ -- -- Purchase of treasury stock ...................................................................... (7,601,000) (12,260,000) Cash dividends paid ............................................................................. (1,615,000) (623,000) ------------------------------- Net cash used in financing activities ....................................................... (9,216,000) (12,883,000) ------------------------------- Net (decrease) increase in cash and cash equivalents .............................................. (3,042,000) 6,615,000 Cash and cash equivalents, beginning of year ...................................................... 9,785,000 3,170,000 ------------------------------- Cash and cash equivalents, end of year ............................................................ $ 6,743,000 $ 9,785,000 ====================================================================================================================================
41 REPORT OF INDEPENDENT ACCOUNTANTS To the Board of Directors and Stockholders of Flushing Financial Corporation: We have audited the accompanying consolidated statements of financial condition of FLUSHING FINANCIAL CORPORATION and SUBSIDIARIES (the "Company") as of December 31, 1997 and 1996, and the related consolidated statements of income, changes in stockholders' equity and cash flows for each of the three years in the period ended December 31, 1997. 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 generally accepted auditing standards. 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 financial statements referred to above present fairly, in all material respects, the consolidated financial position of Flushing Financial Corporation and Subsidiaries at December 31, 1997 and 1996, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 1997, in conformity with generally accepted accounting principles. /s/ Coopers & Lybrand LLP New York, New York February 19, 1998 EX-10.6(A) 2 OUTSIDE DIRECTOR RETIREMENT PLAN OUTSIDE DIRECTOR RETIREMENT PLAN OF FLUSHING SAVINGS BANK, FSB (Adopted Effective February 21, 1995 and Amended and Restated Effective January 1, 1997) 1. PURPOSE. The purpose of the Outside Director Retirement Plan (the "Plan") of Flushing Savings Bank, FSB (the "Bank") is to provide Retirement benefits to Outside Directors who have provided expertise in enabling the Bank to experience successful growth and development. The Plan is amended and restated effective January 1, 1997. 2. DEFINITIONS. (a) "Annual Retirement Benefit" means an amount equal to the last annual retainer paid to the Outside Director prior to the Termination Date, plus the total of actual Board of Directors meeting fees (excluding fees earned for committee meetings) paid to the Outside Director for the twelve months immediately preceding the Termination Date. (b) "Cause" means termination for dishonesty or willful misconduct involving moral turpitude. (c) "Change of Control" means: (i) the acquisition of all or substantially all of the assets of the Bank by any person or entity, or by any persons or entities acting in concert; (ii) the occurence of any event if, immediately following such event, a majority of the members of the Board of Directors of the Bank or of any successor corporation shall consist of persons other than Current Members (for these purposes, a "Current Member" shall mean any member of the Board of Directors as of the Effective Date of the Plan and any successor of a Current Member whose nomination or 1 election has been approved by a majority of the Current Members then on the Board of Directors); (iii) the acquisition of beneficial ownership, directly or indirectly (as provided in Rule 13d-3 under the Securities Exchange Act of 1934 (the "Act"), or any successor rule), of 25% or more of the total combined voting power of all classes of stock of the Bank by any person or group deemed a person under Section 13(d)(3) of the Act; or (iv) approval by the stockholders of the Bank of an agreement providing for the merger or consolidation of the Bank with another corporation where the stockholders of the Bank, immediately prior to the merger or consolidation, would not beneficially own, directly or indirectly, immediately after the merger or consolidation, shares entitling such stockholders to 50% or more of the total combined voting power of all classes of stock of the surviving corporation. Notwithstanding the foregoing, the conversion of the Bank to a stock form of ownership and/or the acquisition of the Bank by Flushing Financial Corporation ("FFC") shall not constitute a Change of Control so long as a majority of the members of the Board of Directors and a majority of the members of the Board of FFC shall consist of Current Members. (d) "Disability" means inability to serve as a director due to medically determinable physical or mental impairment which can be expected to result in death or which has lasted or can be expected to last for a continuous period of not less than 12 months. (e) "Effective Date" means the day on which the Plan first became effective, February 21, 1995. (f) "Outside Director" means a person who is not an employee of the Bank or any of its subsidiaries, and who is elected or appointed to serve as a member of the Board of Directors (or, prior to the Bank's conversion to a stock form of ownership, the Board of Trustees) of the Bank. (g) "Participant" means an Outside Director who is eligible to receive retirement benefits hereunder. 2 (h) "Surviving Spouse" means the lawful spouse of a Participant on the date of a benefit first becomes payable to such Participant in accordance with the Plan. (i) "Termination Date" means the date of a Participant's termination from service as a director by retirement, resignation, discharge or otherwise. 3. ELIGIBILITY. Any person (i) who has been elected and served as an Outside Director for two years or more subsequent to the Effective Date of the Plan (or any current Outside Director who after the Effective Date of the Plan has been nominated for reelection, agreed to stand for reelection, and failed to be reelected) and (ii) whose years of service as an Outside Director plus age equals or exceeds 75 shall be a Participant in the Plan. In addition, any person (iii) who is an Outside Director at the time of a Change of Control or (iv) who ceases to be an Outside Director by reason of Disability shall be a Participant in the Plan. Any Outside Director who has been removed for Cause regardless of length of service shall not be a Participant in the Plan and shall have no rights to benefits hereunder. For purposes of clause (ii) of this Section 3, a Participant's years of service as a director or trustee of the Bank or any predecessor of the Bank prior to the Effective Date of the Plan shall be counted as years of service as an Outside Director. 4. BENEFITS. A Participant shall be paid an Annual Retirement Benefit, in equal monthly installments commencing upon his or her Termination Date, for the number of months equal to the lessor of; (i) the number of months the Participant has served as an Outside Director, or (ii) 120 months; provided, however, that in the event of a Change of Control, a Participant shall be paid such Annual Retirement Benefit in a cash lump sum equal to the remaining monthly installments that would be owed to the Participant if the Participant lived to receive all benefits payable to such Participant under this Plan. Notwithstanding the foregoing, no benefits may be paid to a Participant if a formal cease and desist order has been entered by the Office of Thrift Supervision or the Federal Deposit Insurance Corporation that requires such Participant to cease participating in the conduct of the affairs of the Bank. 5. DEATH OF A PARTICIPANT. If a Participant dies, then, except as hereafter provided with respect to a Surviving Spouse, all benefits payable hereunder shall cease and such Participant's beneficiaries, heirs or assigns shall have no right to any benefit hereunder. If a Participant dies with a Surviving Spouse, the Surviving Spouse shall be paid the following amount, in equal monthly installments, commencing upon the first day of the month following the Participant's death: 3 (i) if the Participant died while in service as a director, the Surviving Spouse shall be paid the Annual Retirement Benefit the Participant would have received if the date of his death had been his Termination Date; or (ii) if on the date of his death the Participant was receiving payment of an Annual Retirement Benefit under the Plan, the Surviving Spouse shall be paid the balance of the monthly benefit installments the Participant would have received if he had lived to receive the entire Annual Retirement Benefit payable to the Participant under Section 4. All payments under this Section 5 shall cease upon the death of a Surviving Spouse. If a Participant is predeceased by a Surviving Spouse, all benefits under the Plan shall cease upon the death of a Participant. In the event of a Change of Control, each Surviving Spouse hereunder shall receive a cash lump sum benefit equal to the remaining monthly installments otherwise payable to such Surviving Spouse under this Section. 6. UNFUNDED ARRANGEMENT. This Plan shall be an unfunded arrangement, and shall not relate to any specific funds of the Bank. Payments of benefits due under the Plan shall be made from the general assets of the Bank, and a Director shall have only the rights of an unsecured creditor of the Bank with respect thereto. Notwithstanding the foregoing, the Bank shall have the right in its sole discretion to provide for the funding of payments required to be made hereunder through a trust or otherwise. 7. ADMINISTRATION. This Plan shall be administered by the Board of Directors of the Bank, who shall have full authority to interpret the Plan and make all factual determinations necessary therefor. No member of the Board of Directors shall be liable for any act done or determination made in good faith. The construction and interpretation of any provision of the Plan by the Board of Directors, and a determination by the Board of Directors of the amount of any Participant's benefit under the Plan, shall be final and conclusive. 8. AMENDMENT. The Board of Directors may amend, modify, suspend or terminate this Plan at any time; provided, however, that any amendment, modification, suspension or termination shall not affect the rights of Participants to benefits which have accrued prior to the date of amendment. 4 9. NON-ALIENATION. No Outside Director (or Surviving Spouse or estate of an Outside Director) shall have the power to transfer, assign, anticipate, mortgage or otherwise encumber any rights or any amounts payable hereunder; nor shall any such rights or payments be subject to seizure for the payment of any debts, judgements, alimony, or separate maintenance, or be transferable by operation of law in the event of bankruptcy, insolvency, or otherwise. 10. GOVERNING LAW. This Plan shall be governed by the laws of the State of New York, without reference to conflicts of law principles. 5 EX-10.9(A) 3 AMENDMENT TO EMPLOYEE BENEFIT TRUST AGREEMENT AMENDMENT TO THE FLUSHING FINANCIAL CORPORATION EMPLOYEE BENEFIT TRUST (Effective as of November 18, 1997) The TRUST AGREEMENT dated as of June 28, 1994 by and between Flushing Financial Corporation and J.P. Morgan Trust Company of Delaware, as Trustee, is hereby amended as follows, effective as of November 18, 1997. 1. The first sentence of Section 3.2 is hereby amended to read as follows: Available Shares shall be distributed by the Trustee to the Plans then listed on Exhibit A or to employees pursuant to the terms of such Plans at the direction of the Board of Directors of the Bank or the Board of Directors of the Company or any committee of either such Board composed solely of directors who satisfy the requirements of Rule 16b-3 under the Securities Exchange Act of 1934 (either such Board of Directors or such committee hereafter referred to as the "Committee") or to an officer of the Company designated by the Committee (a "Designated Officer"), to the extent indicated in such designation. 2. Section 8.4 is hereby amended by deleting the phrase "Qualified Employees of the Company and/or the Bank" and replacing it with the phrase "Qualified Employees." 3. Section 9.3 is hereby amended to read as follows: 9.3 QUALIFIED EMPLOYEES. For purposes of this Trust Agreement, a "Qualified Employee" means any full time employee of the Company, the Bank or a Participating Employer (as defined below) who has completed at least one year of service within 30 days prior to the date on which the Company or the Trustee solicits instructions or consents pursuant to Section 4.4 or 8.1, or, for purposes of Section 8.4, who has completed at least one year of service within 30 days prior to the date of termination of the Trust. A Participating Employer shall mean any direct or indirect subsidiary of the Company or the Bank which the Board of Directors of the Company has designated a "Participating Employer" for purposes of this Trust Agreement. 4. Exhibit A to the Trust Agreement is hereby amended by changing the name of the first plan listed from "Flushing Financial Corporation 401(k) Savings Incentive Plan" to "Flushing Savings Bank, FSB 401(k) Savings Plan in RSI Retirement Trust." 1 5. Except as expressly provided above, the terms of the Trust Agreement dated as of June 28, 1994 shall continue in full force and effect. IN WITNESS WHEREOF, the Company and the Trustee have caused this Amendment to the Trust Agreement to be signed by their authorized officers effective as of the date first above written. FLUSHING FINANCIAL CORPORATION By: /s/ ANNA M. PIACENTINI ------------------------------------ Title: Senior Vice President J.P. MORGAN TRUST COMPANY OF DELAWARE, as Trustee By: /s/ DAVID A. DIAMOND ------------------------------------ Title: Vice President 2 ACKNOWLEDGMENTS --------------- FLUSHING FINANCIAL CORPORATION STATE OF NEW YORK ) :ss.: COUNTY OF QUEENS ) On the 12th day of December, 1997, before me personally came Anna M. Piacentini, to me known, who being by me duly sworn, did depose and say that she resides at 34-21 200th Street, Bayside, New York 11361; that she is the Senior Vice President of Flushing Savings Bank, the organization described in and which executed the above instrument; that she knows the seal of said organization; that the seal affixed to said instrument is such seal; that it was so affixed by order of the board of directors of said organization, and that she signed his name thereto to by like order. SEAL: /s/ ANNA I. DEMARCO ------------------------------------- Notary Public of State of New York My Commission Expires 10/16/2019 J.P. Morgan Trust Company of Delaware STATE OF DELAWARE ) :ss.: COUNTY OF NEW CASTLE ) On the 18th day of December, 1997, before me personally came David A. Diamond, to me known, who being by me duly sworn, did depose and say that he resides at Newark, Delaware; that he is Vice President of J.P. Morgan Trust Company of Delaware, the organization described in and which executed the above instrument; that he knows the seal of said organization; that the seal affixed to said instrument is such seal; that it was so affixed by order of the board of directors of said organization, and that [s]he signed his name thereto by like order. SEAL: /s/ KATHLEEN M. SCZUBELEK ------------------------------------- Notary Public of Delaware My Commission Expires________________ 3 EX-10.12(A) 4 AMENDMENT TO TULLY AGREEMENT AMENDMENT TO TULLY AGREEMENT This Amendment to the Agreement dated as of December 1, 1995 (the "Agreement") is entered into as of July 1, 1997 between Flushing Savings Bank, FSB (the "Bank"), Flushing Financial Corporation (the "Company") and Gerard P. Tully, Sr. ("Mr. Tully"). WITNESSETH: The Agreement is amended as set forth herein; 1. Section 3 of the Agreement is hereby amended by replacing the aggregate fee per month to be $7,083.33. 2. The amendment set forth in paragraph 1 hereof shall be effective July 1, 1997 and except as amended by paragraph 1 hereof, the Agreement shall remain in effect in accordance with its terms. IN WITNESS WHEREOF, Mr. Tully and the Bank have caused this Amendment to be executed on this 15th day of July, 1997. FLUSHING SAVINGS BANK, FSB By /s/ JAMES F. MCCONNELL ----------------------------------- FLUSHING FINANCIAL CORPORATION By /s/ MICHAEL J. HEGARTY ----------------------------------- /s/ GERARD P. TULLY, SR. ----------------------------------- EX-23.1 5 CONSENT OF INDEPENDENT ACCOUNTANTS [LOGO] COOPERS Coopers & Lybrand L.L.P. & LYBRAND a professional services firm CONSENT OF INDEPENDENT ACCOUNTANTS We consent to the incorporation by reference in the Registration Statement of Flushing Financial Corporation on Form S-8 No. 33-98202 and Form S-8 No. 333-3878, of our report dated February 19, 1998, on our audits of the consolidated financial statements and financial statment schedules of Flushing Financial Corporation and Subsidiaries as of December 31, 1997, which report is included in the Annual Report on Form 10-K of Flushing Financial Corporation. /s/COOPERS and LYBRAND L.L.P. COOPERS and LYBRAND L.L.P. New York, New York March 26, 1998 EX-27 6 FINANCIAL DATA SCHEDULE
9 This schedule contains summary financial information extracted from the Condensed Consolidated Statement of Financial Condition at December 31, 1997 (Audited) and the Condensed Consolidated Statement of Income for the year ended December 31, 1997 (Audited) and is qualified in its entirety by reference to such financial statements. 1,000 12-MOS DEC-31-1997 JAN-01-1997 DEC-31-1997 5,515 2,743 82,095 0 356,712 0 0 604,895 6,474 1,088,476 655,911 30,000 8,934 257,187 0 0 89 136,354 1,088,476 42,062 23,073 1,731 66,866 26,566 34,795 32,071 104 67 16,728 15,306 15,306 0 0 8,531 1.20 1.18 7.80 2,458 0 0 0 5,437 206 160 6,474 6,474 0 6,474
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