UNITED STATESSECURITIES & EXCHANGE COMMISSIONWashington, D.C. 20549
FORM 10-Q
/X/ Quarterly Report Pursuant to Section 13 or 15(d) of theSecurities Exchange Act of 1934
For the Quarterly Period ended September 30, 2001
Commission File Number 0-18082
GREAT SOUTHERN BANCORP, INC.(Exact name of registrant as specified in its charter)
DELAWARE(State or other jurisdiction of incorporation or organization)
43-1524856(IRS Employer Identification Number)
1451 E. BATTLEFIELDSPRINGFIELD, MISSOURI(Address of principal executive offices)
65804(Zip Code)
(417) 887-4400(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes /X/ No / /
The number of shares outstanding of each of the registrant's classes of common stock: 6,865,879 shares of common stock, par value $.01, outstanding at November 12, 2001.
PART I FINANCIAL INFORMATIONITEM 1. FINANCIAL STATEMENTS.
GREAT SOUTHERN BANCORP, INC. AND SUBSIDIARIESCONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
GREAT SOUTHERN BANCORP, INC. AND SUBSIDIARIESCONSOLIDATED STATEMENTS OF INCOME
GREAT SOUTHERN BANCORP, INC. AND SUBSIDIARIESCONSOLIDATED STATEMENTS OF CASH FLOWS
GREAT SOUTHERN BANCORP, INC. AND SUBSIDIARIESNOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1: BASIS OF PRESENTATION
The accompanying unaudited interim consolidated financial statements of Great Southern Bancorp, Inc. (the "Company") have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. The financial statements presented herein reflect all adjustments which are, in the opinion of management, necessary to fairly present the financial position, results of operations and cash flows of the Company for the periods presented. Those adjustments consist only of normal recurring adjustments. Operating results for the three and nine months ended September 30, 2001 and 2000 are not necessarily indicative of the results that may be expected for the full year. The consolidated statement of financial condition of the Company as of December 31, 2000, has been derived from the audited consolidated statement of financial condition of the Company as of that date.
Certain information and note disclosures normally included in the Company's annual financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted. These consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company's Annual Report on Form 10-K for 2000 filed with the Securities and Exchange Commission.
NOTE 2: OPERATING SEGMENTS
The Company's banking operation is its only reportable segment. The banking operation segment is principally engaged in the business of originating residential and commercial real estate loans, commercial business loans and consumer loans. These loans are funded through the attraction of deposits from the general public, brokered deposits originations, and borrowings from the Federal Home Loan Bank ("FHLBank") and others. The operating results of this segment are regularly reviewed by management to make decisions about resource allocations and to assess performance.
The following table provides information about segment profits and has been prepared using the same accounting policies as those described in Note 1. There are no material inter-segment revenues, thus no reconciliations to amounts reported in the consolidated financial statements are necessary. Revenue from segments below the reportable segment threshold is attributable to four operating segments of the Company. These segments include an insurance agency, a travel agency, discount brokerage services and, for 2000 only, real estate appraisal services.
NOTE 3: COMPREHENSIVE INCOME
Statement of Financial Accounting Standards No. 130, "Reporting Comprehensive Income," requires the reporting of comprehensive income and its components. Comprehensive income is defined as the change in equity from transactions and other events and circumstances from non-owner sources, and excludes investments by and distributions to owners. Comprehensive income includes net income and other items of comprehensive income meeting the above criteria. The Company's only component of other comprehensive income is the unrealized gains and losses on available-for-sale securities.
The Company has adopted Statement of Financial Accounting Standards ("SFAS") No. 133, "Accounting for Derivative Instruments and Hedging Activities," as amended by SFAS No. 138, "Accounting for Certain Derivative Instruments and Certain Hedging Activities," as of January 1, 2001. The principal effects of adoption of SFAS 133 and SFAS 138 are related to reclassification as available-for-sale of certain debt securities previously classified as held-to-maturity and recognition of outstanding interest rate swaps as hedges against changes in the fair value of certain fixed rate brokered certificates of deposit caused by changes in market rates of interest. These changes did not have a material impact on the Company's financial statements.
NOTE 5: TRUST PREFERRED SECURITIES
On April 26, 2001 Great Southern Capital Trust I (GSBCP), a newly-formed Delaware business trust subsidiary of the Company, issued 1,725,000 shares of 9.00% Cumulative Trust Preferred Securities at $10 per share in an underwritten public offering. The gross proceeds of the offering were used to purchase a 9.00% Subordinated Debenture from the Company. The Company's proceeds from the issuance of the Subordinated Debenture to GSBCP, net of underwriting fees and offering expenses, were $16.3 million. The Company records distributions payable on the preferred securities as interest expense in the consolidated statements of income for financial reporting purposes. The proceeds from the offering were used to reduce the Company's indebtedness under the existing note payable to bank to $-0- during the quarter ended June 30, 2001.
Also during the quarter ended June 30, 2001, the Company entered into an interest rate swap transaction to effectively convert this fixed rate debt to a variable rate of interest. The variable rate is three-month LIBOR plus 202 basis points, adjusting quarterly. The initial rate was 6.25%. The rate at September 30, 2001, was 5.89%.
ITEM II. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Forward-Looking Statements
When used in this Form 10-Q and in future filings by the Company with the Securities and Exchange Commission (the "SEC"), in the Company's press releases or other public or shareholder communications, and in oral statements made with the approval of an authorized executive officer, the words or phrases "will likely result," "are expected to," "will continue," "is anticipated," "estimate," "project" or similar expressions are intended to identify "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. Such statements are subject to certain risks and uncertainties, including, among other things, changes in economic conditions in the Company's market area, changes in policies by regulatory agencies, fluctuations in interest rates, demand for loans and deposits in the Company's market area and competition, that could cause actual results to differ materially from historical earnings and those presently anticipated or projected. The Company wishes to advise readers that the factors listed above could affect the Company's financial performance and could cause the Company's actual results for future periods to differ materially from any opinions or statements expressed with respect to future periods in any current statements.
The Company does not undertake-and specifically disclaims any obligation- to publicly release the result of any revisions which may be made to any forward-looking statements to reflect events or circumstances after the date of such statements or to reflect the occurrence of anticipated or unanticipated events.
General
The following should be read in conjunction with Management's Discussion and Analysis in the Company's December 31, 2000 Form 10-K.
The profitability of the Company, and more specifically, the profitability of its primary subsidiary, Great Southern Bank (the "Bank"), depends primarily on its net interest income. Net interest income is the difference between the interest income the Company earns on its loans and investment portfolio, and the interest it pays on interest-bearing liabilities, which consists mainly of interest paid on deposits and borrowings. Net interest income is affected by the relative amounts of interest-earning assets and interest-bearing liabilities and the interest rates earned or paid on these balances. When interest-earning assets approximate or exceed interest-bearing liabilities, any positive interest rate spread will generate net interest income.
The Company's profitability is also affected by the level of its non-interest income and non-interest expense. Non-interest income consists primarily of net realized gains on sales of loans and available-for-sale securities, service charges and ATM fees, commissions earned by non-bank subsidiaries and other general operating income. Non-interest expense consists primarily of salaries and employee benefits, net occupancy and equipment expense, postage, insurance, advertising, office supplies and printing and other general operating expenses.
The operations of the Bank, and banking institutions in general, are significantly influenced by general economic conditions and related monetary and fiscal policies of regulatory agencies. Deposit flows and the cost of deposits and borrowings are influenced by interest rates on competing investments and general market rates of interest. Lending activities are affected by the demand for financing real estate and other types of loans, which in turn are affected by the interest rates at which such financing may be offered and other factors affecting loan demand and the availability of funds.
Effect of Federal Laws and Regulations
Federal legislation and regulation significantly affect the banking operations of the Company and the Bank, and have increased competition among commercial banks, savings institutions, mortgage banking enterprises and other financial institutions. In particular, the capital requirements and operations of regulated depository institutions such as the Company and the Bank have been and will be subject to changes in applicable statutes and regulations from time to time, which changes could, under certain circumstances, adversely affect the Company or the Bank.
Asset and Liability Management and Interest Rate Risk
A principal operating objective of the Company is to produce stable earnings by achieving a favorable interest rate spread that can be sustained during fluctuations in prevailing interest rates. The Company has sought to reduce its exposure to adverse changes in interest rates by attempting to achieve a closer match between the periods in which its interest-bearing liabilities and interest-earning assets can be expected to reprice through the origination of adjustable-rate mortgages and loans with shorter terms to maturity, the purchase of other shorter term interest-earning assets and the use of interest rate swap agreements as hedges.
The rates of interest the Bank earns on assets and pays on liabilities generally are established contractually for a period of time. Market interest rates change over time. Accordingly, the Company's results of operations, like those of other financial institutions, are impacted by changes in interest rates and the interest rate sensitivity of the Company's assets and liabilities. The risk associated with changes in interest rates and the Company's ability to adapt to these changes is known as interest rate risk and is the Company's most significant market risk.
The term "interest rate sensitivity" refers to those assets and liabilities that mature within a stated period or reprice within that period in response to fluctuations in market rates and yields. As noted above, one of the principal goals of the Company's asset/liability program is to maintain and match the interest rate sensitivity characteristics of the asset and liability portfolios.
In order to properly manage interest rate risk, the Bank's Board of Directors has established an Asset/Liability Management Committee ("ALCO") made up of members of management to monitor the difference between the Bank's maturing and repricing assets and liabilities and to develop and implement strategies to manage the "gap" between the two. The primary responsibilities of the committee are to assess the Bank's asset/liability mix, recommend strategies to the Board that will enhance income while managing the Bank's vulnerability to changes in interest rates and report to the Board the results of the strategies used. At times, depending on the level of general interest rates, the relationship between long- and short-term interest rates, market conditions and competitive factors, the ALCO may determine to increase the Bank's interest rate risk position in order to maintain its net interest margin. The Company's experience with interest rates is discussed in more detail under the heading "Results of Operations and Comparisons of the Three and Nine Months Ended September 30, 2001 and 2000."
An important element of both earnings performance and liquidity is the management of interest rate sensitivity. Interest rate sensitivity reflects the potential effect on net interest income of a movement in interest rates. The difference between the Bank's interest-sensitive assets and interest-sensitive liabilities for a specified time frame is referred to as "gap." A financial institution is considered to be asset-sensitive, or have a positive gap, when the amount of its earning assets maturing or repricing within a given time period exceeds the amount of its interest-bearing liabilities also maturing or repricing within that time period. Conversely, a financial institution is considered to be liability-sensitive, or have a negative gap, when the amount of its interest-bearing liabilities maturing or repricing within a given period exceeds the amount of earning assets also maturing or repricing within that time period. During a period of rising interest rates, a positive gap would tend to increase net interest income, while a negative gap would tend to have an adverse effect on net interest income. During a period of falling interest rates, a positive gap would tend to have an adverse effect on net interest income, while a negative gap would tend to increase net interest income. At September 30, 2001, the Bank maintained a one-year gap position that was slightly positive.
The Bank, through the ALCO, evaluates interest sensitivity risk and then formulates guidelines regarding asset generation, funding sources and the pricing of each, and off-balance sheet commitments in order to decrease sensitivity risk. These guidelines are based upon management's outlook regarding future interest rate movements, the state of the regional and national economy and other financial and business risk factors. The Bank uses a static gap model and a computer simulation to measure the effect on net interest income of various interest rate scenarios over selected time periods. The Bank's gap can be managed by repricing assets or liabilities, selling available-for-sale investments, replacing an asset or liability prior to maturity or adjusting the interest rate during the life of an asset or liability. Matching the amount of assets and liabilities repricing during the same time interval helps to reduce the risk and minimize the impact on net interest income in periods of rising or falling interest rates.
As a part of its asset and liability management strategy, the Bank has, throughout the past several years, increased its investment in loans which are interest rate sensitive by emphasizing the origination of adjustable-rate, one- to four-family residential loans and adjustable-rate or relatively short-term commercial business and consumer loans, and originating fixed-rate, one- to four-family residential loans primarily for immediate resale in the secondary market. Approximately 45% of total assets are currently invested in commercial real estate, construction, and commercial business loans. This part of the strategy was designed to improve asset yield and fee income, to shorten the average maturity and to increase the interest rate sensitivity of the loan portfolio. While efforts to date have contributed to the changes in the one-year interest rate sensitivity gap and increased net interest income, such lending has increased the Bank's risk levels, and has resulted in an increase in the level of non-performing assets. Management continually evaluates existing and potential commercial real estate and commercial business loans, in order to try to reduce undesirable risks including concentrations in a given geographic area or a particular loan category.
In addition, the Company uses interest rate swaps to manage its interest rate risks from recorded financial assets and liabilities. These instruments are utilized when they can be demonstrated to effectively hedge a designated asset or liability and such asset or liability exposes the Company to interest rate risk.
Interest rate risk exposure estimates (the sensitivity gap) are not exact measures of an institution's actual interest rate risk. They are only indicators of interest rate risk exposure produced in a simplified modeling environment designed to allow management to gauge the Bank's sensitivity to changes in interest rates. The estimates do not necessarily indicate the impact of general interest rate movements on the Bank's net interest income because the repricing of certain categories of assets and liabilities is subject to competitive and other factors beyond the Bank's control. As a result, certain assets and liabilities indicated as maturing or otherwise repricing within a stated period may in fact mature or reprice at different times and in different amounts and would therefore cause a change (which potentially could be material) in the Bank's interest rate risk.
COMPARISON OF FINANCIAL CONDITION AT SEPTEMBER 30, 2001 AND DECEMBER 31, 2000
During the nine months ended September 30, 2001, total assets increased by $95.5 million to $1.23 billion. Available-for-sale securities increased $49.7 million, net loans receivable increased $43.9 million, and net premises and equipment increased $1.8 million, partially offset by a decline in cash of $8.1 million. In addition, other assets increased as a result of recording the $8.5 million mark-to-market value of the Company's interest rate swaps with a corresponding increase in liabilities.
Total liabilities increased $82.6 million to $1.14 billion. Deposits increased $88.6 million, short-term borrowings increased $60.8 million, and trust preferred securities increased $18.1 million, partially offset by a decrease in FHLBank advances of $71.2 million and a decrease in note payable to bank of $15.5 million. The deposit increase was primarily from both brokered deposits and retail certificates of deposit. Total brokered deposits were $316 million at September 30, 2001. The weighted average cost of these deposits was approximately 80 basis points higher than the retail certificate of deposit portfolio, excluding the effect of the Company's interest rate swaps on a portion of these brokered certificates of deposit. The interest rate swaps reduced the weighted average cost of the brokered certificate of deposit portfolio to a rate that is approximately 114 basis points lower than the retail certificate of deposit portfolio. Interest-bearing checking balances accounted for $29.3 million of the increase in deposits. There was a related decrease in savings balances of $19.4 million due to the Company's change of product offerings and the reclassification of certain account types. The note payable to a third-party bank was paid down to $-0- with the proceeds from the trust preferred securities issued in April 2001. This line of credit remains in place to meet operating cash needs, and for use from time to time as a source of funds to repurchase shares of the Company's stock. The increase in short-term borrowings was the result of the utilization of $50.0 million of federal funds purchased lines available from commercial banks and additional overnight funds borrowed from the FHLBank. FHLBank advances were reduced as a result of utilizing these other funding sources. Management utilized these short-term funding sources to take advantage of the falling interest rate environment throughout 2001 and better match the repricing characteristics of the Company's assets. Management continues to feel that FHLBank advances and brokered deposits are viable alternatives to retail deposits when factoring in all the costs associated with the generation and maintenance of additional retail deposits.
Stockholders' equity increased $12.8 million primarily as a result of net income of $14.1 million and an increase in unrealized appreciation on available-for-sale securities of $2.6 million, partially offset by dividend declarations and payments of $2.6 million and net repurchases of the Company's common stock of $1.3 million. The Company repurchased 57,277 shares of common stock at an average price of $26.45 per share during the nine months ended September 30, 2001 and reissued 26,258 shares of treasury stock at an average price of $15.57 per share to cover stock option exercises.
RESULTS OF OPERATIONS AND COMPARISON OF THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2001 AND 2000
The increase in net income of $858,000, or 21.5%, for the three months ended September 30, 2001 compared to the same period in 2000, was primarily due to an increase in net interest income of $2.0 million, or 21.0%. This was partially offset by an increase in non-interest expense of $296,000, or 4.6%, an increase in provision for income taxes of $575,000, or 27.7%, an increase in provision for loan losses of $150,000, or 16.7%, and a decrease in non-interest income of $109,000, or 2.7%, during the three month period.
The increase in net income of $2.6 million, or 22.3%, for the nine months ended September 30, 2001 compared to the same period in 2000, was primarily due to an increase in net interest income of $5.0 million, or 18.7%, and an increase in non-interest income of $2.1 million, or 18.5%. These were partially offset by an increase in non-interest expense of $1.3 million, or 7.0%, an increase in provision for income taxes of $1.5 million, or 24.5%, and an increase in provision for loan losses of $1.8 million, or 89.8%, during the nine month period.
Total Interest Income
Total interest income decreased $317,000, or 1.4%, during the three months ended September 30, 2001, when compared to the three months ended September 30, 2000. The decrease was due to a $1.2 million, or 6.2%, decrease in interest income on loans, partially offset by a $926,000, or 40.6%, increase in interest income on investment securities and other. Interest income for investment securities and other increased due to higher average balances. Interest income for loans also increased due to higher average balances, but was significantly reduced by lower average rates. In addition, interest income on loans was positively impacted by a recovery of $635,000 of interest on a commercial real estate loan that was charged off in a prior year.
Total interest income increased $6.7 million, or 10.8%, during the nine months ended September 30, 2001, when compared to the nine months ended September 30, 2000. The increase was due to a $3.1 million, or 5.6%, increase in interest income on loans and a $3.6 million, or 58.3%, increase in interest income on investment securities and other. Interest income for both loans and investment securities and other increased due to higher average balances, while interest on loans was negatively impacted by lower average rates.
In addition, interest income for the nine months ended September 30, 2001, was higher due to the following items:
Interest Income - Loans
During the three months ended September 30, 2001, interest income on loans decreased from lower average interest rates, partially offset by higher average balances. Interest income decreased $3.0 million as the result of lower average interest rates. The average yield on loans decreased from 9.32% during the three months ended September 30, 2000, to 7.99% during the three months ended September 30, 2001, primarily due to lower market rates of interest. A large portion of the Bank's loan portfolio adjusts with changes to the "prime rate" of interest.
Interest income increased $1.8 million as the result of higher average loan balances from $858 million during the three months ended September 30, 2000, to $938 million during the three months ended September 30, 2001. The higher average balance resulted from the Bank's increases in commercial real estate and construction lending, multi-family residential lending, and indirect dealer consumer lending. The Bank's one- to four-family residential loan portfolio has decreased since December 31, 2000, due to the origination of a greater dollar amount of fixed-rate rather than adjustable-rate loans. The Bank generally sells these fixed-rate loans in the secondary market.
During the nine months ended September 30, 2001, interest income on loans increased from higher average balances, partially offset by lower average interest rates. Interest income increased $6.2 million as the result of higher average loan balances from $828 million during the nine months ended September 30, 2000, to $923 million during the nine months ended September 30, 2001. The higher average balance resulted from the Bank's increases in commercial real estate and construction lending, multi-family residential lending, and indirect dealer consumer lending. The Bank's one-to-four family residential loan portfolio has decreased since December 31, 2000, due to the origination of a greater dollar amount of fixed-rate rather than adjustable-rate loans. The Bank generally sells these fixed-rate loans in the secondary market.
Interest income decreased $3.1 million as a result of lower average interest rates. The average yield on loans decreased from 8.96% during the nine months ended September 30, 2000, to 8.49% during the nine months ended September 30, 2001, primarily due to lower market rates of interest. A large portion of the Bank's loan portfolio adjusts with changes to the "prime rate" of interest.
Interest Income - Investment Securities and Other
Interest income on investment securities and other increased from higher average balances, partially offset by lower average interest rates during the three months ended September 30, 2001 when compared to the three months ended September 30, 2000. Interest income increased $1.0 million as a result of higher average balances from $139 million during the three months ended September 30, 2000 to $206 million during the three months ended September 30, 2001. This increase was primarily in available-for-sale securities, where additional securities were acquired for liquidity and for pledging to deposit accounts under repurchase agreements. Interest income decreased $119,000 as a result of lower average yields from 6.55% during the three months ended September 30, 2000, to 6.23% during the three months ended September 30, 2001, due to lower market rates of interest in 2001.
Interest income on investment securities and other increased from both higher average balances and higher average interest rates during the nine months ended September 30, 2001 when compared to the nine months ended September 30, 2000. Interest income increased $3.4 million as a result of higher average balances from $127 million during the nine months ended September 30, 2000 to $197 million during the nine months ended September 30, 2001. This increase was primarily in available-for-sale securities, where additional securities were acquired for liquidity and for pledging to deposit accounts under repurchase agreements. Interest income also increased $138,000 as a result of higher average yields from 6.43% during the nine months ended September 30, 2000, to 6.58% during the nine months ended September 30, 2001, due to higher market rates of interest in the first quarter of 2001, and due to the impact of securities being called by the issuer prior to maturity described previously in "Total Interest Income."
Total Interest Expense
Total interest expense decreased $2.3 million, or 18.0%, during the three months ended September 30, 2001 when compared with the same period in 2000. The decrease during the three month period was due to a $1.0 million, or 12.2%, decrease in interest expense on deposits and a $1.8 million, or 46.9%, decrease in interest expense on FHLBank advances, partially offset by a $533,000, or 94.8%, increase in interest expense on short-term borrowings and trust preferred securities.
Total interest expense increased $1.6 million, or 4.7%, during the nine months ended September 30, 2001 when compared with the same period in 2000. The increase during the nine month period was due to a $2.4 million, or 10.1%, increase in interest expense on deposits and a $752,000, or 47.0%, increase in interest expense on short-term borrowings and trust preferred securities, partially offset by a $1.5 million, or 14.9%, decrease in interest expense on FHLBank advances.
Interest Expense - Deposits
Interest expense on deposits increased $1.5 million as a result of higher average balances of time deposits from $484 million during the three months ended September 30, 2000, to $593 million during the three months ended September 30, 2001, and decreased $2.4 million due to lower average interest rates on time deposits from 6.26% during the three months ended September 30, 2000, to 4.51% during the three months ended September 30, 2001. The average balances on time deposits increased as a result of the Bank's continued use of brokered deposits and the average interest rates decreased due to lower overall market rates of interest and the effects of the Company's interest rate swaps. Interest on demand deposits increased $130,000 due to higher average balances from $125 million during the three months ended September 30, 2000, to $152 million during the three months ended September 30, 2001, and decreased $123,000 due to lower average rates from 2.11% during the three months ended September 30, 2000, to 1.75% during the three months ended September 30, 2001. Interest on savings deposits decreased $139,000 due to lower average balances from $24 million during the three months ended September 30, 2000, to $1 million during the three months ended September 30, 2001. The changes in average balances for demand deposits and savings deposits approximately offset each other and resulted from the Company's change of product offerings and the reclassification of certain account types.
Interest expense on deposits increased $4.8 million as a result of higher average balances of time deposits from $467 million during the nine months ended September 30, 2000, to $581 million during the nine months ended September 30, 2001, and decreased $2.0 million due to lower average interest rates on time deposits from 5.96% during the nine months ended September 30, 2000, to 5.11% during the nine months ended September 30, 2001. The average balances on time deposits increased as a result of the Bank's continued use of brokered deposits and the average interest rates decreased due to lower overall market rates of interest and the effects of the Company's interest rate swaps. Interest on demand deposits increased $274,000 due to higher average balances from $122 million during the nine months ended September 30, 2000, to $141 million during the nine months ended September 30, 2001, and decreased $262,000 due to lower average rates from 2.12% during the nine months ended September 30, 2000, to 1.85% during the nine months ended September 30, 2001. Interest on savings deposits decreased $354,000 due to lower average balances from $27 million during the nine months ended September 30, 2000, to $7 million during the nine months ended September 30, 2001. The changes in average balances for demand deposits and savings deposits approximately offset each other and resulted from the Company's change of product offerings and the reclassification of certain account types.
Interest Expense - FHLBank Advances, Short-term Borrowings and Trust Preferred Securities
Interest expense on FHLBank advances, short-term borrowings and trust preferred securities decreased $1.6 million due to lower average rates of interest from 6.73% in the three months ended September 30, 2000 to 4.44% in the three months ended September 30, 2001. The Company's use of FHLBank advances, short-term borrowings and trust preferred securities which reprice daily or monthly contributed to the significant decrease in average rates of interest. This decrease was partially offset ($321,000) by an increase in average balances from $263 million during the three months ended September 30, 2000, to $284 million during the three months ended September 30, 2001. The average balance increase was used to fund growth in loans and securities.
Interest expense on FHLBank advances, short-term borrowings and trust preferred securities decreased $2.4 million due to lower average rates of interest from 6.32% in the nine months ended September 30, 2000 to 5.12% in the nine months ended September 30, 2001. The Company's use of FHLBank advances, short-term borrowings and trust preferred securities which reprice daily or monthly contributed to the significant decrease in average rates of interest. This decrease was partially offset ($1.7 million) by an increase in average balances from $244 million during the nine months ended September 30, 2000, to $282 million during the nine months ended September 30, 2001. The average balance increase was used to fund growth in loans and securities.
Net Interest Income
The Company's overall interest rate spread increased 38 basis points, or 11.8%, from 3.21% during the three months ended September 30, 2000, to 3.59% during the three months ended September 30, 2001. The increase was due to a 164 basis point decrease in the weighted average rate paid on interest-bearing liabilities, partially offset by a 126 basis point decrease in the weighted average yield received on interest-earning assets. In comparing the two periods, the yield on loans decreased 133 basis points while the yield on investment securities decreased 32 basis points. The rate paid on deposits decreased 135 basis points while the rate paid on FHLBank advances and other borrowings decreased 229 basis points. The Company's overall net interest margin increased 21 basis points, or 5.5%, from 3.79% during the three months ended September 30, 2000, to 4.00% during the three months ended September 30, 2001.
The prime rate of interest averaged 9.25% during the three months ended September 30, 2000, compared to an average of 6.58% during the three months ended September 30, 2001. As a large percentage of the Bank's loans are tied to prime, this decrease was the primary reason for the decrease in the weighted average yield received on interest-earning assets.
The Company's overall interest rate spread increased 12 basis points, or 3.7%, from 3.22% during the nine months ended September 30, 2000, to 3.34% during the nine months ended September 30, 2001. The increase was due to a 60 basis point decrease in the weighted average rate paid on interest-bearing liabilities, partially offset by a 48 basis point decrease in the weighted average yield received on interest-earning assets. In comparing the two periods, the yield on loans decreased 47 basis points while the yield on investment securities increased 15 basis points. The rate paid on deposits decreased 35 basis points while the rate paid on FHLBank advances and other borrowings decreased 120 basis points. The Company's overall net interest margin increased 5 basis points, or 1.3%, from 3.76% during the nine months ended September 30, 2000, to 3.81% during the nine months ended September 30, 2001. See "Total Interest Income" for a discussion of additional items that impacted net interest income for the nine months ended September 30, 2001.
The prime rate of interest averaged 8.97% during the nine months ended September 30, 2000, compared to an average of 7.51% during the nine months ended September 30, 2001. As a large percentage of the Bank's loans are tied to prime, this decrease was the primary reason for the decrease in the weighted average yield received on interest-earning assets.
Provision for Loan Losses
The provision for loan losses increased from $900,000 during the three months ended September 30, 2000 to $1.1 million during the three months ended September 30, 2001. For the nine months ended September 30, 2001, the provision for loan losses was $3.8 million compared to $2.0 million for the same period in 2000.
Management records a provision for loan losses in an amount it believes sufficient to result in an allowance for loan losses that will cover current net charge-offs as well as risks believed to be inherent in the loan portfolio of the Bank. The amount of provision charged against current income is based on several factors, including, but not limited to, past loss experience, current portfolio mix, actual and potential losses identified in the loan portfolio, economic conditions, regular reviews by internal staff and regulatory examinations.
Weak economic conditions, higher inflation or interest rates, or other factors may lead to increased losses in the portfolio. Management has established various controls in an attempt to limit future losses, such as a watch list of possible problem loans, documented loan administration policies and a loan review staff to review the quality and anticipated collectibility of the portfolio. Management determines which loans are potentially uncollectible, or represent a greater risk of loss, and makes additional provisions to expense, if necessary, to maintain the allowance at a satisfactory level.
Non-performing assets decreased $5.5 million during the nine months ended September 30, 2001 from $15.2 million at December 31, 2000 to $9.7 million at September 30, 2001. Non-performing assets as a percentage of total assets were .77% at September 30, 2001. Non-performing loans decreased $5.9 million, or 46.2%, from $12.5 million at December 31, 2000 to $6.6 million at September 30, 2001. Foreclosed assets increased $0.4 million, or 14.8%, from $2.7 million at December 31, 2000 to $3.1 million at September 30, 2001. Non-performing loans decreased as a result of the resolution of two relationships which were described in the December 31, 2000 Annual Report on Form 10-K. The majority of the $7.3 million relationship secured by condominium buildings and lots, single-family residences and lots, and other developed land has been removed from non-performing status, although this relationship remains on the problem asset watch list currently. The loan relationship has been strengthened through a participation in this credit with another financial institution, which resulted in additional collateral being provided for the loan. The $2.4 million relationship secured by a golf course and undeveloped lots has been foreclosed and the asset is now included in the total of foreclosed assets. This increase in foreclosed assets was partially offset by the sale of a theater in Branson, Missouri, and the sale of other smaller properties owned at December 31, 2000.
Potential problem loans increased $14.8 million during the nine months ended September 30, 2001 from $7.5 million at December 31, 2000 to $22.3 million at September 30, 2001, due primarily to the reclassification of the $7.3 million relationship described above from non-performing to potential problem status and the addition of one other loan of $6.0 million secured by a nursing care facility. The Company believes it is well-secured on this loan and the borrower has made recent loan payments as scheduled. Potential problem loans are loans which management has identified through routine internal review procedures as having possible credit problems which may cause the borrowers difficulty in complying with current loan repayment terms. These loans are not reflected in the non-performing loans.
The Bank's allowance for loan losses as a percentage of total loans was 2.10% and 2.06% at September 30, 2001, and December 31, 2000, respectively. Management considers the allowance for loan losses adequate to cover losses inherent in the Company's loan portfolio at this time, based on current economic conditions. If economic conditions deteriorate significantly, it is possible that additional assets would be classified as non-performing, and accordingly, additional provisions for losses would be required, thereby adversely affecting future results of operations and financial condition.
Total Non-interest Income
Total non-interest income decreased $109,000, or 2.7%, in the three months ended September 30, 2001 when compared to the same period in 2000. The decrease was primarily due to: (i) a decrease in commission revenues earned by the Company's travel and investment subsidiaries in 2001 of $472,000, or 28.0%; and (ii) expenses on foreclosed assets of $347,000 in 2001 versus gains on foreclosed assets of $299,000 in 2000. In 2001, the Company incurred expenses to prepare properties for sale primarily related to two properties. Both the travel and investment subsidiaries have experienced decreased sales activity as a result of general economic conditions prevailing in 2001. The investment subsidiary has been adversely affected by declining activity by investors in the U. S. stock markets. The travel subsidiary has been adversely affected by the merger of American Airlines and Trans World Airlines (TWA). Special incentives negotiated between the travel subsidiary and TWA were discontinued in 2001 as a result of the merger. In addition, the terrorist attacks on September 11, 2001, caused the cancellation of many travel activities, resulting in commission refunds by the travel subsidiary. Due to the current instability in the travel industry, the travel subsidiary likely will continue to generate little net income.
This decrease was partially offset by (i) an increase in service charges and ATM fees of $746,000, or 54.1%; (ii) an increase in net realized gains on sales of fixed-rate residential and student loans of $120,000, or 67.9%; and (iii) an increase in net realized gains on sales of available-for-sale securities of $99,000. The increase in service charge fees resulted from new products introduced, increased activity and a larger number of accounts. The increase in ATM fees was related to an increase in overall usage by customers and non-customers. During the three months ended September 30, 2001, the Bank sold significantly more residential and student loans than in the same period during 2000. During the 2001 period, lower interest rates were conducive to the generation of fixed-rate mortgages, which the Bank typically sells, rather than adjustable-rate mortgages, which the Bank typically retains in its portfolio. The increase in gain on sale of available-for-sale securities was due to the sale of U. S. agency bonds that had a high probability to be called at par in the future. Management elected to sell these bonds at a premium and reinvest the proceeds.
Total non-interest income increased $2.1 million, or 18.5%, in the nine months ended September 30, 2001 when compared to the same period in 2000. The increase was primarily due to: (i) an increase in service charges and ATM fees of $2.3 million, or 57.6%; (ii) an increase in net realized gains on sales of fixed-rate residential and student loans of $893,000, or 211%; and (iii) an increase in net realized gains on sales of available-for-sale securities of $373,000. The increase in service charge fees resulted from new products introduced, increased activity and a larger number of accounts. The increase in ATM fees was related to an increase in overall usage by customers and non-customers. During the nine months ended September 30, 2001, the Bank sold significantly more residential and student loans than in the same period during 2000. During the 2001 period, lower interest rates were conducive to the generation of fixed-rate mortgages, which the Bank typically sells, rather than adjustable-rate mortgages, which the Bank typically retains in its portfolio. In addition, during the 2001 period, the Company sold one commercial real estate loan that was purchased at a discount from the Resolution Trust Corporation in a prior year, resulting in a gain of $300,000. The increase in gain on sale of available-for-sale securities was due to the sale of U. S. agency bonds that had a high probability to be called at par in the future. Management elected to sell these bonds at a premium and reinvest the proceeds.
This increase was partially offset by a decrease in commission revenues earned by the Company's travel and investment subsidiaries in 2001 of $882,000, or 16.8%. Both subsidiaries have experienced decreased sales activity as a result of general economic conditions prevailing in 2001. The investment subsidiary has been adversely affected by declining activity by investors in the U. S. stock markets. The travel subsidiary has been adversely affected by the merger of American Airlines and Trans World Airlines (TWA). Special incentives negotiated between the travel subsidiary and TWA were discontinued in 2001 as a result of the merger. In addition, the terrorist attacks on September 11, 2001, caused the cancellation of many travel activities, resulting in commission refunds by the travel subsidiary. Also, the Company incurred expenses on foreclosed assets of $440,000 in 2001 versus gains on foreclosed assets of $222,000 in 2000. In 2001, the Company incurred expenses to prepare properties for sale primarily related to two properties. Subsequent to September 30, 2001, one of these properties has been sold.
Total Non-interest Expense
Total non-interest expense increased $296,000, or 4.6%, in the three months ended September 30, 2001, compared to the same period in 2000. The increase was primarily due to an increase of $365,000, or 10.8%, in salaries and employee benefits primarily due to normal merit increases for existing employees and the hiring of additional experienced personnel to fill key supervisory and customer sales positions, partially offset by minor increases and decreases in other non-interest expense areas.
Total non-interest expense increased $1.3 million, or 7.0%, in the nine months ended September 30, 2001, compared to the same period in 2000. The increase was primarily due to: (i) an increase of $927,000, or 9.1%, in salaries and employee benefits primarily due to normal merit increases for existing employees and the hiring of additional experienced personnel to fill key supervisory and customer sales positions; (ii) an increase in net occupancy and equipment expense of $121,000, or 3.8%, primarily due to increases in depreciation; (iii) an increase in other operating expenses of $111,000, or 4.0%, due primarily to approximately $250,000 of fees paid to consultants in the 2001 period for implementation of new customer products and services; and (iv) other increases and decreases in non-interest expense areas.
Provision for Income Taxes
Provision for income taxes as a percentage of pre-tax income increased from 34.2% in the three months ended September 30, 2000, to 35.3% in the three months ended September 30, 2001. Provision for income taxes as a percentage of pre-tax income increased slightly from 34.6% in the nine months ended September 30, 2000, to 35.0% in the nine months ended September 30, 2001.
Average Balances, Interest Rates and Yields
The following tables present, for the periods indicated, the total dollar amount of interest income from average interest-earning assets and the resulting yields, as well as the interest expense on average interest-bearing liabilities, expressed both in dollars and rates, and the net interest margin. Average balances of loans receivable include the average balances of non-accrual loans for each period. Interest income on loans includes interest received on non-accrual loans on a cash basis. The tables do not include non-interest-bearing demand deposits and do not reflect any effect of income taxes.
(1) Defined as the Company's net interest income divided by total interest-earning assets.
Rate/Volume Analysis
The following table presents the dollar amount of changes in interest income and interest expense for major components of interest-earning assets and interest-bearing liabilities for the periods shown. For each category of interest-earning assets and interest-bearing liabilities, information is provided on changes attributable to (i) changes in rate (i.e., changes in rate multiplied by old volume) and (ii) changes in volume (i.e., changes in volume multiplied by old rate). For purposes of this table, changes attributable to both rate and volume, which cannot be segregated, have been allocated proportionately to volume and to rate.
Liquidity is a measure of the Company's ability to generate sufficient cash to meet present and future financial obligations in a timely manner through either the sale or maturity of existing assets or the acquisition of additional funds through liability management. These obligations include the credit needs of customers, funding deposit withdrawals, and the day-to-day operations of the Company. Liquid assets include cash, interest-bearing deposits with financial institutions and certain investment securities and loans. As a result of the Company's management of the ability to generate liquidity primarily through liability funding, management believes that the Company maintains overall liquidity sufficient to satisfy its depositors' requirements and meet its customers' credit needs. At September 30, 2001, the Company had commitments of approximately $114 million to fund loan originations, issued lines of credit, outstanding letters of credit and unadvanced loans.
Management continuously reviews the capital position of the Company and the Bank to ensure compliance with minimum regulatory requirements, as well as exploring ways to increase capital either by retained earnings or other means.
The Company's stockholders' equity was $83.9 million, or 6.8% of total assets of $1.23 billion at September 30, 2001, compared to equity at $71.0 million, or 6.3% of total assets of $1.13 billion at December 31, 2000.
Banks are required to maintain minimum risk-based capital ratios. These ratios compare capital, as defined by the risk-based regulations, to assets adjusted for their relative risk as defined by the regulations. Guidelines require banks to have a minimum Tier 1 risk-based capital ratio, as defined, of 4.00%, a minimum total risk-based capital ratio of 8.00%, and a minimum 4.00% core capital ratio. To be considered "well capitalized," banks must have a minimum Tier 1 risk-based capital ratio, as defined, of 6.00%, a minimum total risk-based capital ratio of 10.00%, and a minimum 5.00% core capital ratio. On September 30, 2001, the Bank's Tier 1 risk-based capital ratio was 8.95%, total risk-based capital ratio was 10.21% and the core capital ratio was 7.41%. As of September 30, 2001, the Bank was "well capitalized" as defined by the Federal banking agencies' capital-related regulations. The Federal Reserve Bank has established capital regulations for bank holding companies that generally parallel the capital regulations for banks. On September 30, 2001, the Company's Tier 1 risk-based capital ratio was 9.79%, total risk-based capital ratio was 11.05% and the leverage ratio was 8.12%. As of September 30, 2001, the Company was "well capitalized" as defined by the Federal banking agencies' capital-related regulations.
At September 30, 2001, the held-to-maturity investment portfolio included no gross unrealized losses.
The Company's primary sources of funds are certificates of deposit, FHLBank advances, other borrowings, loan repayments, proceeds from sales of loans and available-for-sale securities and funds provided from operations. The Company utilizes particular sources of funds based on the comparative costs and availability at the time. The Company has from time to time chosen not to pay rates on deposits as high as the rates paid by certain of its competitors and, when believed to be appropriate, supplements deposits with less expensive alternative sources of funds.
Statements of Cash Flows. During the nine months ended September 30, 2001, and 2000, respectively, the Company experienced positive cash flows from operating activities and financing activities.
Cash flows from operating activities for the periods covered by the Statements of Cash Flows have been primarily related to the origination and sale of loans held-for-sale, changes in accrued and deferred assets, credits and other liabilities, the provision for loan losses, depreciation, and the amortization of deferred loan origination fees and discounts (premiums) on loans and investments, all of which are non-cash or non-operating adjustments to operating cash flows. Net income adjusted for non-cash and non-operating items was the primary source of cash flows from operating activities during the nine months ended September 30, 2001 and 2000. Operating activities provided cash flows of $17.4 million during the nine months ended September 30, 2001, and $18.1 million during the nine months ended September 30, 2000.
During the nine months ended September 30, 2001 and 2000, respectively, investing activities used cash of $95.4 million and $106.9 million primarily due to the net increase in loans and investment securities.
Changes in cash flows from financing activities during the periods covered by the Statements of Cash Flows are due to increases in deposits after interest credited, net increases in FHLBank advances, and proceeds from the issuance of trust preferred securities, offset by decreases in short-term borrowings, as well as purchases of treasury stock and dividend payments to stockholders. Financing activities provided $69.2 million in cash during the nine months ended September 30, 2001 and $77.1 million in cash during the nine months ended September 30, 2000. Financing activities in the future are expected to primarily include changes in deposits, FHLBank advances, and short-term borrowings, purchase of treasury stock, and payment of dividends.
Dividends. During the nine months ended September 30, 2001, the Company declared and paid dividends of $.375 per share, or 18% of net income per share, compared to dividends declared and paid during the nine months ended September 30, 2000 of $.375 per share, or 24% of net income per share. The Board of Directors meets regularly to consider the level and the timing of dividend payments.
Common Stock Repurchases. The Company has been in various buy-back programs since May 1990. During the nine months ended September 30, 2001, the Company repurchased 57,277 shares of its common stock at an average price of $26.45 per share and reissued 26,258 shares of treasury stock at an average price of $15.57 per share to cover stock option exercises. During the nine months ended September 30, 2000, the Company repurchased 480,384 shares of its common stock at an average price of $18.59 per share and reissued 29,705 shares of treasury stock at an average price of $12.49 per share to cover stock option exercises.
Management intends to continue its stock buy-back programs from time to time as long as repurchasing the stock contributes to the overall growth of shareholder value after taking into consideration the earnings of the Company and other alternative uses of available capital. The number of shares of stock that will be repurchased and the price that will be paid is the result of many factors, several of which are outside of the control of the Company. The primary factors, however, are the number of shares available in the market from sellers at any given time and the price of the stock within the market as determined by the market.
ITEM III. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
As discussed in the "Asset and Liability Management and Interest Rate Risk" section of Management's Discussion and Analysis, the Company utilizes interest rate swaps to effectively convert a portion of its fixed rate brokered deposits and fixed rate trust preferred securities to variable rates of interest.
In addition to the disclosures previously made by the Company in the December 31, 2000, Annual Report on Form 10-K, the following table summarizes interest rate sensitivity information for the Company's interest rate derivatives at September 30, 2001.
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
From time to time, the Company and its subsidiaries are involved as plaintiff or defendant in various legal actions arising in the normal course of their business. While the ultimate outcome of the various legal proceedings involving the Company and its subsidiaries cannot be predicted with certainty, it is the opinion of management, after consultation with legal counsel, that these legal actions currently are not material to the Company.
Item 2. Changes in Securities
None.
Item 3. Defaults Upon Senior Securities
Item 4. Submission of Matters to Vote of Common Stockholders
Item 5. Other Information
Item 6. Exhibits and Reports on Form 8-K
a) Exhibits
See the attached Exhibit 11, Statement re computation of earnings per share.
b) Reports on Form 8-K
None
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
Exhibit No. Description
11 Statement Re Computation of Earnings Per Share