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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the Fiscal Year Ended December 31, 1997
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITY EXCHANGE
ACT OF 1934
For the transition period from _____________ to ___________
Commission file number: 0-28080
UNITED FINANCIAL CORP.
(Exact Name of Registrant as Specified in its Charter)
MINNESOTA 81-0507591
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification Number)
P.O. Box 2779, 120 1st Avenue North, Great Falls, Montana 59403
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (406) 727-6106
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, no par value
(Title of Class)
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding twelve months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
requirements for the past 90 days. YES [X] NO [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of the Registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of the Form 10-K or any
amendment to this Form 10-K. [ ]
The aggregate market value of the voting stock held by non-affiliates of the
Registrant, computed by reference to the closing price of such stock on the
Nasdaq National Market as of February 27, 1998, was $30,522,474.
The number of shares of Registrant's common stock outstanding on February 27,
1998 was 1,698,312. Registrant's common stock is traded on the Nasdaq National
Market, symbol UBMT.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Proxy Statement for the 1998 Annual Meeting of Stockholders
to be held on May 18, 1998 are incorporated by reference into III of this Form
10-K.
UNITED FINANCIAL CORP.
1997 FORM 10-K ANNUAL REPORT
TABLE OF CONTENTS
Page Number
PART I
ITEM 1. BUSINESS............................................................. 1
ITEM 2. PROPERTIES...........................................................22
ITEM 3. LEGAL PROCEEDINGS....................................................22
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS..................22
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS.................................................23
ITEM 6. SELECTED FINANCIAL DATA..............................................25
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS.......................26
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK...........38
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA..........................39
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
ON ACCOUNTING AND FINANCIAL DISCLOSURE..............................39
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT...................39
ITEM 11. EXECUTIVE COMPENSATION...............................................39
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
AND MANAGEMENT......................................................40
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.......................40
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS
ON FORM 8-K.........................................................40
PART V
ITEM 15. FINANCIAL INFORMATION OF HERITAGE....................................41
ITEM 16. UNAUDITED PRO FORMA COMBINED FINANCIAL INFORMATION - HERITAGE
AND UNITED..........................................................41
SIGNATURES....................................................................42
PART I.
ITEM 1. BUSINESS
GENERAL. United Financial Corp. is a savings bank holding company
headquartered in Great Falls, Montana. Its wholly owned subsidiaries, United
Savings Bank, F.A. (United Bank) and Heritage Bank, FSB (Heritage Bank), are
federally chartered stock savings banks. United Financial Corp. and its
subsidiaries are collectively referred to as the Company, and United Financial
is sometimes used to refer to the Company as constituted pre-Merger. Heritage
Bank are collectively referred to herein as the Banks. Full service branches are
located in Shelby, Chester, Havre and Glendive, Montana, and loan production
offices are located in Bozeman, Missoula, Hamilton and Libby, Montana. The
Banks' deposits are insured by the Federal Deposit Insurance Corporation (FDIC)
- - Savings Association Insurance Fund (SAIF). The Banks are members of the
Federal Home Loan Bank (FHLB) of Seattle, Washington and are subject to
comprehensive supervision, regulation, and examination by the Office of Thrift
Supervision (OTS) and the FDIC. The Banks are also subject to the regulations of
the Board of Governors of the Federal Reserve System.
The Company's principal business is attracting deposits from the general
public through its offices and using those deposits, together with other
available funds, to originate commercial (including lease financing), commercial
real estate, residential, agriculture and consumer loans. The residential loans
and certain of the agricultural and commercial loans are secured by mortgages.
The Company also invests in mortgage-backed securities, U.S. Treasury
obligations, other U.S. Government agency obligations and interest-earning
deposits.
The Company's financial condition and results of operations are dependent
primarily on net interest income and fee income. Net interest income is the
difference between the interest income earned on loans, mortgage-backed
securities, other investment securities and interest-earning deposits, less its
cost of funds, consisting of interest paid on deposits and borrowed money. The
Company's financial condition and results of operations are also significantly
influenced by local and national economic conditions, changes in market interest
rates, governmental policies, tax laws and the actions of various regulatory
agencies.
The Company's principal executive offices are located at 120 First Avenue,
Great Falls, Montana, and its telephone number is (406) 727-6106. United Bank
has a wholly owned subsidiary, Community Service Corporation, which owns and
manages real estate held for investment.
MERGER. On February 3, 1998, United Financial and Heritage Bancorporation
(Heritage) merged. In connection with the Merger, which was structured as a
merger of Heritage into United Financial, each outstanding share of Heritage
common stock was converted into shares of United Financial's Common Stock. An
aggregate of 475,000 shares (or 28%) of United Financial's Common Stock was
issued in connection with the Merger. Prior to the Merger, the former
shareholders of Heritage (the Former Heritage Shareholders) owned approximately
3.3% of the outstanding shares of United Financial's Common Stock. Immediately
following the Merger, the Former Heritage Shareholders owned approximately 30%
of the outstanding shares of the Company's Common Stock. It is expected that
United Bank will merge into Heritage Bank on or about May 3, 1998.
In connection with the Merger, the Board of Directors of the Company was
increased to nine members and five persons nominated by the Former Heritage
Shareholders (the Heritage Nominees) were elected to the Board. Consequently,
the Heritage Nominees now constitute a majority of the Board. Three of the
Heritage Nominees were Former Heritage Shareholders and the other two were
executive officers of other banks controlled by the Former Heritage
Shareholders. There are no contractual or other requirements for the Heritage
Nominees to be nominated or re-elected to the Board in the future. The Heritage
Nominees, representing a majority of the Board, will be able to select and
control the management of the Company as well as the board of directors of the
Company's subsidiary banks.
The new management of the Company intends to change the Company's historical
business strategy and engage in a growth-oriented expansion strategy by pursuing
internal and external growth opportunities, when available. The Company intends
to expand the customer base of the Banks by emphasizing commercial and consumer
loans as well as the mortgage business historically emphasized by United Bank.
Management will consider pursuing external growth through opening new branches,
possible acquisitions of other financial institutions, as well as expansion of
the geographic area currently served. This strategy is consistent with the
growth-oriented expansion historically pursued by Heritage. The Company's new
business strategy may subject the Company to a greater degree of risk. These
risks include increased risk of losses on loans, provision for loan losses which
exceed historical levels, difficulties in integrating or managing new branches
or acquired institutions, and problems relating to the management of growth.
There can be no assurance that the Company will be successful in instituting
this new business strategy or in managing growth. Failure of the Company to
successfully address any of these issues could have a material adverse effect on
the Company's business, results of operations, financial condition or dividend
policy.
The Merger was treated as a reverse acquisition and accounted for as a
purchase in accordance with generally accepted accounting principles. Heritage
was considered the accounting acquirer because Heritage effectively acquired the
operations of United Financial, as a result of the change in control and other
related consequences of the Merger. For information regarding the accounting
treatment of the Merger, see the footnote entitled "Subsequent Event-Merger" in
the Company's consolidated financial statements in Part IV, Item 14.
Consistent with Heritage being the acquiring corporation, the historical
financial statements of the combined entity (i.e. the Company) commencing with
the Quarterly Report on Form 10-Q for the quarter ended March 31, 1998 will be
those of Heritage and not United Financial as it existed prior to the Merger.
Accordingly, the historical statements of operations of the combined entity will
reflect only the operations of the United Financial commencing on and after the
closing date of the Merger. United Financial's consolidated financial statements
for the period ending December 31, 1997 contained in this Report reflect the
financial position and results of operations of United Financial for periods
ending prior to the Merger and thus do not reflect or include the financial
position and results of operations of Heritage's operations.
The Company is also filing certain financial statements of Heritage in this
Report, including audited consolidated financial statements for the three years
ending December 31, 1997, 1996 and 1995 and a related Management's Discussion
and Analysis of Financial Condition of Operations of Heritage. The Company is
also filing in this Report Unaudited Pro Forma Combined Financial Information of
Heritage and United Financial. See Part V, Items 15 and 16 of this Report. KPMG
Peat Marwick LLP, United Financial's auditor, was also the auditor for Heritage
for the years ended December 31, 1997 and 1995.
For additional information regarding the Merger and Heritage, see the
Company's Definitive Proxy Statement on Schedule 14A filed with the Securities
and Exchange Commission on January 15, 1998.
MARKET AREA. The Company's primary market area has been the Great Falls,
Montana metropolitan area and the areas surrounding its offices in Shelby,
Glendive and Havre, Montana. With the Merger, Chester, Montana has been added as
a market area as well as market areas served by Loan Production Offices (LPO's)
in Bozeman, Missoula, Hamilton and Libby. Great Falls, the county seat of
Cascade County, is one of the largest cities in Montana. The estimated 1997
Great Falls and Cascade county populations were approximately 58,000 and 81,000,
respectively.
The economy of Great Falls, a regional trade center, is largely based on
agriculture, health care and Department of Defense activities. Located in Great
Falls is Malmstrom Air Force Base (MAFB). MAFB is manned by approximately 4,100
military personnel and civilian employees making it the largest employer in the
city and Cascade county. Also stationed at the MAFB will be the Red Horse Unit,
a new civil engineering group. By October 1998, this new group expects to have
over 400 new military jobs filled. The Montana Air National Guard, 120th Fighter
Wing is also
located in Great Falls. Its complement consists of approximately 1,035 members,
of which approximately 350 are full time. Each of these defense-related
activities contributes significantly to the local economy. There can be no
assurance that future Defense Department cutbacks or base closures will not
adversely influence military operations and thus the economy in the Company's
primary market area.
The economies of Shelby, Chester, Glendive and Havre, Montana are dependent
to a large extent on agricultural, livestock and railroad activities. Areas
served by the Company's LPO's are less dependent upon agriculture. Areas such as
Missoula, Hamilton and Bozeman are also supported by tourism and higher
education. Nevertheless, agriculture is the predominant activity in the state
and any adverse trend could adversely affect the Company.
COMPETITION. The Banks, like other depository institutions, are operating in
a rapidly changing environment and, therefore, face considerable competition in
the attraction of deposits and the origination of loans. Historically, the most
direct competition for deposits has come from other savings institutions, credit
unions and commercial banks. There are approximately 30 depository institutions,
commercial banks, credit unions and savings institutions with offices in the
Company's market areas. Non-depository financial service organizations,
primarily in the securities and insurance industries, have also become
competitors for retail savings and investment funds. The Company's deposit
programs compete with money market mutual funds, government securities and other
investment alternatives. The Company competes for deposits by offering a variety
of deposit accounts at interest rates based upon market conditions, convenient
business hours, quality service and convenient branch locations.
The Federal Deposit Insurance Corporation Improvement Act of 1991 (FDICIA)
expanded the scope of regulations over the Banks' operations. The current and
potential long-term impact of future legislation on the operations of the Banks
is not predictable. However, further consolidation within the industry as well
as technology improvements and financial modernization are imminent. See
"Regulation - Banks."
LENDING ACTIVITIES
GENERAL. Lending activities are one of the Company's primary sources of
income. The Company's interest income from loans receivable as a percentage of
total interest income for the years ending December 31, 1997, 1996 and 1995 was
approximately 44.1%, 40.8% and 39.0%, respectively. To date, the Company's
principal lending activity has been the origination of residential loans on
existing real estate, including conventional residential real estate loans
(loans which are neither insured nor partially guaranteed by government
agencies) and residential real estate loans insured by the Federal Housing
Administration (FHA) or partially guaranteed by the Veterans Administration
(VA). As a result of the Merger, the Company intends to broaden its lending
activities and expects its interest income from loans receivable to increase as
a percentage of total interest income in the future. See "Business - General"
FIXED VS ADJUSTABLE RATE LENDING. Generally, fixed rate loans have a greater
interest rate risk than adjustable rate loans. However, borrowers have learned
to take advantage of discounted and below market adjustable starting rates by
making early prepayments and refinancing adjustable rate loans when the
adjustment is not favorable to the borrower. United Bank has not generally
offered discounted first year or starting rates for adjustable rate loans that
it retains for its own portfolio. Instead fixed rate loans of varying terms out
to 15 years have been offered where the loan half-life approximates seven years
(i.e. 15-year loan with 7-year half-life).
If and when mortgage loans with longer half-lives than seven to eight years
are to be retained for loan portfolio, United Bank intends to become more
aggressive in providing adjustable rate loan products. Also, as mortgage loan
fixed rates increase the rate differential between adjustable rates and fixed
rates will make adjustable rates more attractive without the first year rate
discounts that presently result in low yields when adjustable rate loans are
paid off early.
Adjustable rate loans have been available to United Bank's mortgage customers
since 1981, however, the majority of adjustable rate mortgage loans produced in
1997, 1996 and 1995 were sold in the secondary market.
United Bank's policy has been to offer both fixed rate and adjustable rate
mortgage loan products enabling it to provide borrowers an alternative when
fixed rates are rising.
United Bank's mortgage portfolio contained adjustable rate loans at December
31, 1997, 1996 and 1995, totaling $1.5 million, $1.8 million, and $2.2 million,
respectively. The percentage of adjustable rate loans to net loans receivable at
the above dates was approximately 4%, 5% and 7%, respectively.
LENDING RISKS. In addition to the aforementioned rate risks, there are a
number of specific risks inherent in both mortgage and non-mortgage commercial
and consumer lending. Generally, shorter-term loans with payments that pay off
the entire principal balance over the term have less credit risk than loans with
balloon balances at the end of the payment term. Historically, United Bank has
concentrated on residential lending as home loans are believed to present the
least amount of risk because of their 20% or more down payments, the ability to
sell loans with terms exceeding 15 years, and the availability of government or
private insurance coverage to protect against losses on loans with small or no
down payments. Commercial real estate loans have been made where United Bank
believed sizable equity and cash flow positions reduced the risks. Residential
construction loans require greater expertise and have greater risk. United Bank
believes, however, its experienced staff has adequately managed these risks.
Non-mortgage commercial and consumer loans usually have more risk than real
estate loans and therefore are underwritten to manage the collateral and payment
risks by having shorter repayment terms, a required down payment and a good
credit history.
CHANGED LOAN POLICIES. As a result of the Merger, the Company has begun to
use, for both Banks, the historical lending policies, guidelines and procedures
of Hertiage Bank. These policies, guidelines and procedures include commercial,
consumer and agricultural lending as well as residential mortgage lending. The
policies, guidelines and procedures give lending authority to certain senior
bank officers and committees and allow the Banks the flexibility to be
responsive and competitive in their lending activities. It is anticipated that
United Savings Bank will merge into Heritage Bank on or about May 3, 1998. For
additional information regarding Heritage, see Part V, Items 15 and 16 and the
Company's Definitive Proxy Statement on Schedule 14A filed with the Securities
and Exchange Commission on January 15, 1998.
LOAN PORTFOLIO COMPOSITION. The following table shows the composition of the
Company's loans receivable as of the dates indicated:
(Dollars in thousands)
December 31,
------------------------------------------------
1997 1996 1995
--------------- --------------- --------------
Loans secured by real estate:
1-4 residential $20,013 52.9% $20,975 56.8% $20,511 64.1%
5 or more residential 5,531 14.6 4,497 12.2 3,986 12.4
Construction 3,731 9.9 4,620 12.5 3,373 10.5
Agricultural 405 1.0
Commercial 2,660 7.0 3,077 8.4 2,517 7.9
------- ------ ------- ------ ------- -----
32,340 85.4% 33,169 89.9% 30,387 94.9%
Consumer:
Home equity loans and
FHA Title I 1,383 3.7% 1,132 3.1% 1,136 3.5%
Loans to depositors
savings secured 103 .3 92 .2 175 .5
Recreational vehicle
auto and other 1,103 2.9 1,251 3.4 55 .2
Commercial:
Agricultural 424 1.1
Lease financing 561 1.5
Floor plan 454 1.2 884 2.4
Lines of credit and other 1,490 3.9 355 1.0 282 .9
------- ------ ------- ------ ------- -----
5,518 14.6% 3,714 10.1% 1,648 5.1%
Total loans receivable 37,858 100.0% 36,883 100.0% 32,035 100.0%
====== ====== ======
Less:
Discounts on loans 2 4 8
Reserve for possible loan
losses 300 75 75
Loans in process 1,239 1,628 1,600
------- ------- -------
Net loans receivable $36,317 $35,176 $30,352
======= ======= =======
LOAN ACTIVITY. The table below shows the loan activity of the Company for the
years indicated.
(Dollars in thousands)
For Year Ended December 31,
-----------------------------
1997 1996 1995
Real estate secured loans originated: ------- ------- -------
1-4 residential $16,431 $16,960 $12,018
5 or more residential 1,680 289 125
Construction 5,142 7,103 5,190
Agricultural 405
Commercial 1,167 45
Consumer and commercial (non-mortgage)
loans originated 4,717 5,807 1,842
Commercial loan participations 1,561
------- ------- -------
Total loans originated 29,936 31,326 19,220
Loans purchased
------- ------- -------
Total originations and purchases 29,936 31,326 19,220
Secondary market loan sales (12,213) (11,996) (8,425)
Portfolio loan sales (2,973) (3,031) (2,748)
Loan repayments - real estate secured (9,301) (7,643) (7,029)
Loan repayments - consumer & commercial (4,474) (3,741) (1,916)
------- ------- -------
Total sales and repayments (28,961) (26,411) (20,118)
Other net changes:
Loans in process and discounts on loans 391 (24) (262)
Reserve for possible loan losses (225)
Real estate owned transfers (67)
------- ------- -------
Total other net changes 166 (91) (262)
Net loan activity $1,141 $4,824 $(1,160)
======= ======= =======
Total loans originated in 1997 were $29.9 million a decrease of $1.4 million,
or 4%, from the $31.3 million of loan volume generated in 1996. Forty-one
percent, or $12.2 million, of the total 1997 loan production and $12.0 million,
or 38%, of the total 1996 loan production was comprised of long-term fixed rate
mortgage loans originated for sale to the secondary market.
RESIDENTIAL (NON-CONSTRUCTION) REAL ESTATE LENDING. At December 31, 1997,
approximately $25.5 million, or 67%, of the Company's $37.9 million total loans
receivable consisted of loans secured by first liens on single-family and
multi-family residential properties. At December 31, 1997, approximately $4.2
million, or 11%, of the Company's total loans receivable consisted of
FHA-insured and VA-guaranteed loans.
Fifty-five percent, or $16.4 million, of the Company's total loan
originations during 1997 and 54%, or $17.0 million, of total loan originations
during 1996 were secured by one-to-four family dwellings.
SECONDARY MARKET AND PORTFOLIO LOAN SALES. For the past several years, the
Company's total production of long-term (15 to 30-year maturity) fixed rate
residential loans have been originated according to prearranged underwriting
standards that result in immediate sale to the secondary market, primarily to
mortgage bankers and pension funds. While origination and sale of these loans
produces fee income, the loans are carried at their outstanding principal
balance, which is the contracted purchase price, and therefore, no gain or loss
is realized at sale. Retaining long-term, fixed-rate loan production for
portfolio in the low market interest rate cycle of the past few years would
expose the Company to declines in market values should interest rates rise. This
origination and sale policy is a component of the Company's overall
"Asset/Liability Management" program. The Company sold long-term fixed-rate
mortgage loans to the secondary market in aggregate amounts of $12.2 million in
1997
and $12.0 million and $8.4 million during 1996 and 1995, respectively. At
December 31, 1997 and 1996, loans held for sale were $1.1 million and $1.2
million, respectively. The Company also sells long-term fixed-rate loans that
were refinances of existing portfolio loans or permanent financing of completed
construction loans to the secondary market or to Montana State agencies. These
loans are carried at their outstanding principal balance, which was the
contracted purchase price, and therefore, no gain or loss was realized at sale.
During 1997, 1996 and 1995 the Company sold portfolio loans in aggregate amounts
of $3.0 million, $3.0 million and $2.7 million, respectively.
See Part II, Item 7. - "Management's Discussion and Analysis of Financial
Condition and Results of Operations - Asset/Liability Management."
REAL ESTATE CONSTRUCTION LOANS. In addition to first-lien mortgage loans,
United Bank also provides interim financing for the construction of
single-family and multi-unit dwellings and improvement of real estate to be used
for the construction of such dwellings. Construction loans are generally made
for periods of six months, with interest paid at quarterly or six-month
intervals. Such loans may be extended for several months due to adverse weather
conditions or other justifiable delays in construction. United Bank provides
financing primarily for a small number of contractors who have demonstrated an
ability to complete projects and financial responsibility in residential
development and construction and have operated in United Bank's lending area for
a number of years. United Bank originated approximately $5.1 million, $7.1
million, and $5.2 million in primarily residential construction loans during
1997, 1996 and 1995, respectively. As of December 31, 1997, construction loans
outstanding were approximately $3.7 million, or 10%, of the Company's total
loans receivable. Ninety percent of construction loans outstanding at December
31, 1997, were residential properties. The $1.2 million of undisbursed loan
funds outstanding at December 31, 1997, was for construction loans.
COMMERCIAL AND AGRICULTURAL REAL ESTATE LOANS. United Bank engages in
commercial real estate lending. Whenever possible in making such loans, United
Bank participates in the United States Small Business Administration's program
for guaranteed commercial real estate loans. United Bank's loans on commercial
real estate are primarily first lien loans with 10 to 15-year maturities and
adjustable interest rates based on U.S. Treasury indexes for 1, 3, and 5 years.
Beginning in 1997, United Bank engaged in agricultural real estate lending. At
December 31, 1997 and 1996, commercial and agricultural real estate loans
receivable were approximately $3.1 million and $3.1 million, respectively. $.4
million of agricultural loans were originated during 1997, while no commercial
real estate loans were originated during the year. The Company is limited on the
amount that it can invest in nonresidential real estate loans, but the
limitation does not have a material impact on United Bank's commercial lending
activities.
NON-MORTGAGE LOANS. In addition to real estate lending, United Bank also
offers consumer and commercial non-mortgage loans. Prior to 1996, United Bank's
consumer loan portfolio included home equity, home improvement, auto, and
deposit account loans. During 1996, United Bank entered into an agreement with a
local merchant to purchase qualifying recreational vehicle (RV) loans. United
Bank requires fire, hazard and casualty insurance for loans secured by home
equity and casualty insurance for loans secured by autos and RV units. At
December 31, 1997, consumer non-mortgage loans receivable were approximately
$2.6 million, or less than 7% of the Company's total loans receivable. United
Bank originated $1.7 million in non-mortgage consumer loans in 1997 and $2.4
million of non-mortgage consumer loans in 1996. This decrease was largely due to
increased competition for RV loans, which was partially offset by a increase in
home equity loans.
United Bank also offers commercial non-mortgage loans. Prior to 1997, United
Bank's portfolio consisted of commercial lines of credit and fixed rate
commercial loans. Beginning in 1997, United Bank began to originate agricultural
non-mortgage lines of credit and fixed rate loans. United Bank also entered into
loan participation agreements for lease financing loans and commercial lines of
credit with a loan origination office located in Minneapolis, Minnesota. At
December 31, 1997, the total commercial non-mortgage loan portfolio was
approximately $2.9 million, or almost 8% of the Company's total loans
receivable. United Bank originated
approximately $4.6 million in commercial non-mortgage loans in 1997 and
approximately $3.4 million in commercial non-mortgage loans in 1996. United Bank
makes and retains non-mortgage consumer and commercial loans in its portfolio to
better match the maturities of its assets and liabilities because the term of
consumer loans is relatively short (generally 1 to 15 years).
United Bank mainly originates loans through its loan officers, other staff
members and referrals and now is utilizing outside loan origination offices to
implement a more aggressive loan posture. United Bank's existing customer base
generates many of the loans United Bank originates. United Bank has a written
loan policy in which procedures for loan approval limits by certain loan
officers are set forth.
The use of licensed and/or certified appraisers is required for real
estate-related financial transactions where the value exceeds $250,000. All
transactions of $1,000,000 or more, nonresidential and residential over four
living units where the transaction is $250,000 or more and complex residential
transactions of $250,000 or more require a State Certified Appraiser. United
Bank requires independent appraisals and/or evaluations for all real estate
loans prior to the closing of the loan, with all appraisals conducted in
accordance with applicable OTS or FDIC regulations and United Bank's written
appraisal policy statement. At a minimum, appraisals utilized by United Bank
must be performed in accordance with generally accepted appraisal standards as
evidenced by the standards promulgated by the Appraisal Standards Board of the
Appraisal Foundation. In addition, as part of the loan approval process, United
Bank's loan officers generally conduct on-site inspections of properties
securing real estate loans that are to be held in its portfolio.
Under United Bank's underwriting policies, conventional, owner-occupied,
single-family residential loans can be made up to a 95% loan-to-appraised-value
(LTV) percentage. For these same loans, where the LTV exceeds 80%, United Bank
has the additional requirement of private mortgage insurance. Borrowers
generally may refinance or prepay loans at their option. The terms of United
Bank's conventional real estate loans typically include a due-on-sale clause
that provides for acceleration of indebtedness upon the sale or other
disposition of secured property. Evidence of fire, casualty and hazard insurance
with a mortgagee clause in favor of United Bank is required prior to settlement
of residential and commercial real estate loans. Title insurance is generally
required on properties securing such loans to protect United Bank against prior
liens on the property or other claims against the title.
Pursuant to OTS loan policy regulations, United Bank has established lending
policies, loan portfolio diversification standards, prudent underwriting
standards, including LTV procedures for the institution's real estate loan
portfolio, and established documentation, approval and reporting requirements so
that compliance with the institution's real estate lending policies can be
monitored. United Bank's Board of Directors reviews real estate lending policies
at least once a year.
The regulatory LTV maximums are as follows:
Loan Type Maximum LTV Ratio
Raw land 65%
Land development 75%
Construction:
Commercial, multifamily* and other
nonresidential 80%
1-4 family residential 85%
Improved property 85%
*Multifamily construction includes condominiums and cooperatives.
The guidelines stress that LTV ratios are only one of a number of credit
factors that must be considered to prudently underwrite a real estate loan.
Exceptions to the general lending policy may be made on a case-by-case basis;
however, each institution is responsible for establishing an internal process
for the review and approval of any loan that does not conform to its lending
standards and maximum LTV ratios. Such exceptions must be supported by written
justification kept in the permanent loan file.
These exceptions must also be reported to the institution's board of directors.
The total of all loans that exceed the regulatory LTV limits is limited to 100%
of the institution's total capital. United Bank has a written loan policy, which
includes LTV ratios that are more conservative than the new regulatory ratios.
The guidelines have not had any material effect on the lending posture or
procedures of United Bank.
United Bank is also subject to laws and regulations that could impose
liability on lenders and owners for cleanup expenses and other costs resulting
from hazardous waste located on property securing real estate loans made by
United Bank, or on real estate that is owned by United Bank, following a
foreclosure. Although United Bank's lending procedures include measures designed
to limit lender liability for hazardous waste cleanup and other related
liability, there can be no assurance that United Bank will not become subject to
such liability in the future.
Under federal law, the aggregate amount of loans that United Bank is
permitted to make to any one borrower (LTOB) cannot exceed 15% of unimpaired
capital and surplus. Amounts up to an additional 10% of unimpaired capital and
surplus may be extended for loans and extensions of credit fully secured by
readily marketable collateral, which is defined to include certain financial
instruments and bullion having a market value at least equal to the loan amount.
The OTS has amended the loans to one borrower limitation to permit savings
associations meeting certain requirements, including capital requirements, to
extend loans to one borrower in additional amounts under certain circumstance
limited essentially to loans to develop or complete residential housing units.
At December 31, 1997, United Bank's LTOB limit was approximately $2.3 million.
The aggregate amount of loans outstanding to one borrower at December 31, 1997
was approximately $1.7 million and represented ten loans. At December 31, 1997,
United Bank was in compliance with the LTOB limitations.
United Bank offers a variety of adjustable-rate mortgage loans (ARMs), the
interest rates on which vary with the movement of the index upon which the
interest rates are based. If the interest rates change, loan payments, balances
or terms may be adjusted. United Bank's primary indexes are the 1, 3, 5, and
10-year constant maturity Treasury indexes. Most of the ARMs currently
originated by United Bank have loan terms of 15 to 20 years with rate
adjustments generally every 1, 3 or 5 years during the term of the loan.
Generally, interest rate adjustments on United Bank's ARMs are now limited to
caps of 2% per year and 6% for the life of the loan. At December 31, 1997, ARMs
constituted approximately $1.5 million, or 4%, of the Company's net loans
receivable.
In addition to charging interest on loans, United Bank charges fees for
originating and servicing loans. These fees are for the inspection of property,
payment of invoices during construction and other miscellaneous services. Loan
origination fee income recognition is subject to Financial Accounting Standards
Board (FASB) Statement No. 91. See Part IV, Item 14. - "Notes to Consolidated
Financial Statements - Loan Origination Fees."
For those institutions with significant for-portfolio loan production, the
adoption of FASB No. 91 continues to have a major effect upon the reported
amounts of interest on loans, loan origination fees, compensation and other
employee expenses. Its application, however, has no direct effect upon actual
cash flows but, rather, affects only the timing of their recognition as income
and expense.
Due to United Bank's policy of selling long-term, fixed-rate loans and
retaining short-term loans in its portfolio the average maturity of the United
Bank's portfolio has decreased. Also as borrowers continue to repay and payoff
loans, the percentage of long-term, (greater than 15-year maturity) fixed-rate
loans in United Bank's portfolio continues to decline. Additionally, with the
exception of the FHA-insured and VA-guaranteed loans it originates, the terms of
United Bank's mortgage loans contain due-on-sale clauses, which generally result
in a payoff of the subject loan at the time of sale of the property securing the
loan. Although assumptions of loans containing such clauses are generally not
permitted, United Bank will permit assumption of certain conventional loans,
provided that the assuming party agrees to either a reduction in the term of the
loan being assumed or an increase in the
interest rate on the loan, or both. Because due-on-sale clauses cause
acceleration of indebtedness or may result in assumption of renegotiated loans
with reduced terms, the effect of due-on-sale clauses is a decrease in the
average maturity of United Bank's loan portfolio.
The following table provides information regarding the maturity of all loans
included in the Company's loan portfolio as of December 31, 1997. The amounts
reflected in the following table give no effect to assumptions regarding loan
prepayments or payoffs. Loans with variable rates of interest are classified as
due when the loan principal balances are contractually due, not when the
interest rate reprices.
(Dollars in thousands)
Loan Due Dates
As of December 31, 1997
-------------------------------------------------------
1 yr }1 yr }2 yrs }3 yrs }5 yrs }10 yrs
thru thru thru thru thru thru 15
Real estate first- less 2 yrs 3 yrs 5 yrs 10 yrs 15 yrs yrs Total
mortgage loans: ---- ----- ----- ----- ------ ------- ---- -----
Adjustable rate (all
property types) $35 $42 $115 $699 $177 $430 $1,498
Fixed rate:
1-4 dwelling units 230 355 464 1,222 5,032 9,625 158 17,086
Other residential and
all nonresidential 5 655 867 4,028 1,949 205 7,709
Construction:
Residential 2,492 2,492
Second trust deed 10 13 54 323 551 1,024 39 2,014
Non-mortgage loans:
Consumer 754 67 144 398 817 409 2,589
Commercial 466 15 463 1,000 1,944
Lease loans 383 178 561
Agricultural loans 68 2 89 240 25 424
------ ------ ------ ------ ------- ------- ---- -------
$4,443 $1,107 $1,256 $3,343 $12,152 $13,184 $832 $36,317
====== ====== ====== ====== ======= ======= ==== =======
Total Loans Due after December 31, 1998
(Dollars in thousands)
Fixed interest rates $30,411
Floating or adjustable rates or balloon payments 1,463
-------
$31,874
=======
For additional information regarding loans, see Part IV, Item 14. - "Notes to
Consolidated Financial Statements."
CLASSIFICATION OF ASSETS
GENERAL. When a borrower fails to make a scheduled payment on a loan and does
not cure the delinquency within 15 days, United Bank's policy is to contact the
borrower between the 15th and 30th day of delinquency to establish a repayment
schedule. If a loan is not current, or a realistic repayment schedule is not
being followed by the 90th day of delinquency, United Bank will generally
proceed with legal action to foreclose the property after the loan has become
contractually delinquent 90 days. Loans contractually past due 90 days are
classified as nonperforming. However, not all loans past due 90 days
automatically result in the non-accrual of interest income. If a 90 days past
due loan has adequate collateral, or is FHA insured or VA guaranteed, leading to
the conclusion that loss of principal and interest would likely not be realized,
then interest income will continue to be accrued.
United Bank, pursuant to federal regulations, is required to review, classify
and report to its Board of Directors its assets on a regular basis and classify
them as "substandard" (distinct possibility that some loss will be sustained),
"doubtful" (high likelihood of loss), or "loss" (uncollectible). Adequate
valuation allowances are required to be established for assets classified as
substandard or doubtful in accordance with generally accepted accounting
principles. If an asset is classified as a loss, the institution must either
establish a specific valuation allowance equal to the amount classified as loss
or charge off such amount. As of December 31, 1997 and 1996, United Bank had no
asset classified as doubtful or loss. At December 31, 1997, United Bank had
$50,500 of substandard assets consisting of two repossessed recreational
vehicles held for sale. At December 31, 1996, United Bank had $40,125 of
reported substandard assets. As a percent of total assets, substandard assets
were approximately .05% and .04% at December 31, 1997 and 1996, respectively.
A savings institution is also required to set aside adequate valuation
allowances to the extent that any affiliate possesses assets which pose a risk
to the savings institution. The institution's OTS District Director has the
authority to approve, disapprove or modify any asset classification and amount
established as an allowance pursuant to such classification. In addition, a
savings institution is required to record as liabilities reserves for
off-balance-sheet items, such as letters of credit, when a loss becomes probable
or estimable. Pursuant federal regulations, United Bank has established written
board-approved valuation and loss reserve policies as well as an Internal Asset
Review Committee. Delinquent loans and classified assets are reported to the
Board of Directors monthly.
NONPERFORMING ASSETS. The following schedule details the amounts of the
Company's nonperforming assets consisting of nonaccrual loans, accruing loans
past due over 90 days, restructured loans, other repossessed assets and all real
estate owned held-for-sale (REO/HFS) as of the dates indicated.
(Dollars in thousands)
December 31,
---------------
1997 1996
Principal Balances: ---- ----
Accruing loans past due over 90 days $174 $18
Non-accrual loans
Restructured loans
Other repossessed assets 51
REO/HFS 40
---- ----
$225 $58
==== ====
As a percent of total assets .23% .06%
==== ====
Interest:
Due on non-accrual loans
Included in income None None
PROVISION FOR LOAN LOSSES. The following schedule details changes in United
Bank's loan loss reserve at December 31 for each of the three years indicated:
(Dollars in thousands)
Years Ended December 31,
------------------------
1997 1996 1995
---- ---- ----
Balance beginning of year $ 75 $ 75 $ 75
Provision for loan losses 225
Charge-offs
Recoveries
---- ---- ----
Balance end of year $300 $ 75 $ 75
==== ==== ====
Loan loss reserve to total loans .79% .20% .23%
Loan loss reserve to nonperforming assets 133% 130% 96%
The following schedule allocates the loan loss reserve based on management's
judgment of potential losses in the respective areas. While management has
allocated the reserve to various portfolio segments for purposes of this table,
the reserve is general in nature and is available for the portfolio in its
entirety:
(Dollars in thousands)
December 31,
------------------------------------------------------------
1997 1996 1995
Allowance Allowance Allowance
for % to for % to for % to
loan loans in loan loans in loan loans in
losses category losses category losses category
------------------- -------------------- -----------------
Real estate loans:
Commercial and
agricultural $ 46 1.50%
1-4 residential 75 .38%
5 or more residential 55 1.00%
Construction 28 .75%
Other loans:
Commercial and
agricultural 44 1.50%
Consumer 52 2.00%
Unallocated $75 $75
------ ------ ------
$300 .79% $75 .20% $75 .23%
====== ====== ======
For additional information regarding loss reserve policy see Part II, Item 7.
- - "Management's Discussion and Analysis of Financial Condition and Results of
Operations - Provision for Losses on Loans and Assets Quality" and Part IV, Item
14. - "Notes to Consolidated Financial Statements - Reserve for possible loan
losses."
REAL ESTATE OWNED
The schedule below details real estate owned (REO) both held for sale and
investment by United Bank as of the dates indicated.
(Dollars in thousands)
December 31,
---------------
1997 1996
---- ----
REO held for sale $ 40
Allowance for possible losses
REO held for investment $755 755
Accumulated depreciation (406) (370)
---- ----
349 385
---- ----
$349 $425
==== ====
As a percent of total assets .36% .41%
REO HELD FOR SALE. At December 31, 1997 United Bank had no property
classified as held for sale. In 1997, two Great Falls commercial lots (with a
book value of $40,125, which were acquired in partial satisfaction of a judgment
and held for over five years) were sold to an individual in exchange for cash at
no loss for United Bank.
REO HELD FOR INVESTMENT. This category at December 31, 1997 and 1996
consisted of two 24-unit apartment complexes located in Glendive, Montana,
foreclosed by United Bank and sold to its subsidiary, the Community Service
Corporation (CSC). The CSC purchased one apartment complex in 1985 for $480,176,
and after thirteen years of
depreciation, the December 31, 1997 net book value was $175,742. The second
complex was sold to the CSC in 1990 for $274,475 and after eight years of
depreciation, the December 31, 1997 net book value was $172,715. The decrease in
REO held for investment between December 31, 1997 and 1996, reflects only
additional depreciation.
For additional information regarding real estate held for sale and loss
reserve policy, see Part IV, Item 14. - "Notes to Consolidated Financial
Statements - Real estate owned."
SOURCES OF FUNDS
The primary sources of funds are deposits, FHLB borrowings, loan and
mortgage-backed securities repayments, proceeds from loan sales, investment
securities interest payments and maturities, and net operating revenues. The
principal uses of funds are loan originations, mortgage-backed securities and
other investment securities purchases, maturing savings certificates and deposit
withdrawals, repayment of FHLB borrowings, cash dividends, maintaining liquidity
and meeting operating expenses. See Part II, Item 7. - "Management's Discussion
and Analysis of Financial Condition and Results of Operations - Liquidity and
Capital Resources," and Part IV, Item 14. - "Consolidated Statements of Cash
Flows." As demonstrated by the referenced Statements of Cash Flows, $1.5 million
of net cash provided by operating activities and $6.2 million of net cash
provided by investing activities were utilized to fund a $7.8 million decrease
in deposits and pay $1.2 million of cash dividends to shareholders. During 1997,
unlike 1996, United Bank experienced deposits as a use, rather than a source of
funds. United Bank's borrowing limit from the FHLB is 25% of assets and there
were no FHLB advances outstanding at December 31, 1997 and 1996.
DEPOSIT ACTIVITIES
Deposits are attracted from within United Bank's market area through the
offering of a broad selection of deposit instruments, including NOW accounts,
money market accounts, regular savings accounts, certificates of deposit and
retirement savings plans. Deposit account terms vary, according to the minimum
balance required, the time periods the funds must remain on deposit and the
interest rate, among other factors. In determining the terms of its deposit
accounts, United Bank considers current market interest rates, profitability to
United Bank, matching deposit and loan products offered by its competition and
its customer preferences and concerns. United Bank reviews its deposit mix and
pricing weekly.
The principal types of deposit accounts offered by United Bank at December
31, 1997 are summarized as follows:
(Dollars in thousands)
Weighted Avg.
Type Term Interest Rate Amount Percent
---- ---- ------------- ------- -------
NOW accounts 2.84% $ 6,100 8.6%
MMDA 3.49% 2,319 3.3%
Savings deposits 3.56% 25,592 36.1%
Time deposits 91-Day 4.31% 192 .3%
182-Day 4.99% 6,338 8.9%
1-Year 5.24% 10,347 14.6%
1 1/2-Year 5.00% 19 - %
2-Year 5.50% 7,623 10.7%
2 1/2-Year 5.65% 1,133 1.6%
4-Year 5.77% 10,709 15.1%
6-Year 4.79% 41 .1%
8-Year 6.00% 511 .7%
----- ------- ------
5.42% 36,913 52.0%
4.46% $70,924 100.0%
===== ======= ======
IRA/Keogh retirement account balances, of all types, at December 31, 1997
were approximately $5.6 million or 7.9% of all deposits. At December 31, 1997,
there were no jumbo time deposits (required minimum balance of $.1 million).
Early withdrawal from time deposits subjects the depositor to an early
withdrawal penalty which is currently equal to six months of simple, nominal
interest when the original maturity is longer than one year, three months of
simple, nominal interest when original maturity is 92 days to one year, and all
interest earned when original maturity is 91 days or less.
Traditionally, a relatively small number of United Bank's depositors have
resided outside Montana. Deposits are not solicited outside of Montana. At
December 31, 1997, accounts held by out-of-state depositors were approximately
$2.5 million, or 3.6% of total deposits.
United Bank experienced a net decrease in deposits of $7.8 million for the
year ended December 31, 1997, and net increase in deposits of $.4 million for
the year ended December 31, 1996, and a net decrease of $10.8 million for the
year ended December 31, 1995. The 1997 outflow was a result of several factors.
First, United Bank has traditionally offered a limited array of loan and deposit
products in its role as a traditional thrift. This limited selection of products
has required that customers go to other financial institutions or other
alternate sources for a wider selection of products to meet their financial
needs. With the Merger, United Bank now offers more varied financial products
and is attempting to keep its customers from migrating to competitors. Secondly,
due to the limited loan products offered by United Bank in the past, its need
for loan funding dictated interest rates on its deposit products be less than
competitive. Management is taking steps to prevent further deposit outflows
while recognizing the need to price its products competitively.
Inasmuch as market demand generally dictates deposit maturities and rates,
United Bank intends to continue to offer those types of accounts that have broad
market appeal. It is United Bank's policy not to accept or place brokered
deposits. See "Regulation - Bank."
The following table presents, by various weighted average interest rate
categories, the amounts of United Bank's time deposits at December 31, 1997,
which mature within the periods indicated.
(Dollars in thousands)
Weighted Avg. Within Within Within
Interest Rate 1 Year 2 Years 3 Years Thereafter Total
------------- ------- ------- ------- ---------- -------
3.25 - 4.99% $ 6,531 $ 37 $ 3 $ 6,571
5.00 - 5.99% 15,786 7,305 4,204 $2,980 30,275
6.00 - 6.75% 67 67
------- ------ ------ ------ -------
Total $22,317 $7,342 $4,207 $3,047 $36,913
======= ====== ====== ====== =======
The following table presents, by various weighted average interest rate
categories, the amounts of United Bank's time deposits at December 31, 1996,
which mature within the periods indicated.
(Dollars in thousands)
Weighted Avg. Within Within Within
Interest Rate 1 Year 2 Years 3 Years Thereafter Total
------------- ------- ------- ------- ---------- -------
3.25 - 4.99% $ 7,432 $ 36 $ 3 $ 7,471
5.00 - 5.99% 19,583 $5,500 3,073 4,420 32,576
6.00 - 7.99% 63 63
------- ------ ------ ------ -------
Total $27,015 $5,500 $3,109 $4,486 $40,110
======= ====== ====== ====== =======
BROKERED DEPOSITS. The Banks, due to their capital position are empowered to,
but by policy do not accept, place or solicit brokered deposits.
For additional information regarding deposits see Part IV, Item 14. - "Notes
to Consolidated Financial Statements - Deposits."
BORROWINGS
The FHLB of Seattle functions as the central reserve bank providing credit
for savings institutions and certain other member financial institutions. As a
member of the FHLB of Seattle, United Bank is required to own capital stock in
the FHLB of Seattle and is authorized to apply for advances on the security of
specified collateral. Advances are made pursuant to several different credit
programs. Each credit program has its own interest rate and range of maturities.
United Bank's currently established available FHLB advance credit line is 25% of
assets. The FHLB of Seattle is required to review its credit limitations and
standards at least annually. Historically, United Bank has relied upon deposits,
loan repayments and investment securities cash flows as its major source of
funds, and consequently has made limited use of FHLB advances. At December 31,
1997 and December 31, 1996, no FHLB advances were outstanding.
For additional information regarding borrowings, see "Regulation - Bank,"
Part II, Item 7. - "Management's Discussion and Analysis of Financial Condition
and Results of Operations" and Part IV, Item 14. - "Notes to Consolidated
Financial Statements - FHLB advances".
INVESTMENT ACTIVITIES
Historically, a major source of the Company's income was from investment
securities and mortgage-backed securities. Interest income from these two
sources as a percentage of total interest income for the years ending December
31, 1997, 1996 and 1995 was approximately 52.1%, 57.1% and 57.6%, respectively.
Commencing with the Merger, the Company expects loan interest income to
significantly exceed investment activity income. See Part IV, Item 14. - "Pro
Forma Combined Financial Statements."
Pursuant to OTS regulatory requirements (including Thrift Bulletin No. 52),
the Company has established an investment committee and has developed
comprehensive, Board of Directors' approved, written investment policies
relating to the investment in income producing assets other than loan
originations. The Company's stated investment policy is to purchase only
held-to-maturity or available-for-sale investments and not for trading. The
Company reports monthly to its Board of Directors all investment activity,
including purchases, sales, maturities and book-vs-market-value comparisons. The
Company reports quarterly to its Board of Directors minutes of Investment
Committee meetings, recapping past activities, forecasting expected cash flows,
interest rate projections and investment strategies for the upcoming quarter.
Federally chartered savings institutions are authorized to invest in various
types of liquid assets, including U.S. Treasuries and securities of various U.S.
Government agencies, certificates of deposit at insured banks and thrift
institutions, bankers' acceptances, state and local municipal bonds, federal
funds and mortgage-backed securities. Subject to various restrictions, federally
chartered savings institutions may also invest a portion of their assets in
commercial paper, corporate debt securities and in mutual funds (the assets of
which conform to the investments that such an institution is authorized to make
directly). As of December 31, 1997, the Company had approximately $53.5 million
of investments comprised of $36.2 million, and $17.3 million of securities
classified as held-to-maturity and available-for-sale, respectively.
The following table sets forth the book value, maturities and weighted
average yields of the Company's investment portfolio at December 31, 1997.
Mortgage-backed securities due dates are expected average lives for REMIC
certificates, GNMA, FNMA and FHLMC adjustable rate and maturity dates for 5 and
7-year balloons and fixed rate GNMA. The Kemper U.S. Government bond mutual fund
yield is based on cost.
(Dollars in thousands)
FHLB CD's/ Mortgage- Kemper
U.S. Treasuries/ Backed U.S. Gov't Bond
U.S. Gov't Agencies Securities Mutual Fund Totals
----------------------------------------------------------------
Book Book Book Book
Value Yield Value Yield Value Yield Value Yield
------- ----- ------- ----- ------ ----- ------- -----
Less than 1 yr $11,837 5.63% $ 1,509 5.53% $5,260 6.00% $18,606 5.73%
After 1 yr
through 2 yrs 1,010 6.45% 3,835 6.13% 4,845 6.20%
After 2 yrs
through 5 yrs 11,025 7.00% 8,213 6.45% 19,238 6.77%
After 5 yrs
through 10 yrs 3,000 7.32% 5,013 6.59% 8,013 6.86%
After 10 yrs 2,816 6.28% 2,816 6.28%
------- ----- ------- ----- ------ ----- ------- -----
$26,872 6.41% $21,386 6.34% $5,260 6.00% $53,518 6.34%
======= ===== ======= ===== ====== ===== ======= =====
For additional information regarding investment securities, see Part IV, Item
14. - "Notes to Consolidated Financial Statements - Investments", "Investment
Securities", "Fair Value of Financial Instruments" and "Derivative financial
instruments".
SERVICE CORPORATION ACTIVITIES
United Financial has no direct subsidiaries other than United and Heritage
Banks. United Bank has a wholly owned service corporation, the Community Service
Corporation, which owns and manages real estate held for investment. At December
31, 1997, United Bank had an investment of approximately $349,000 in its service
corporation. A federal savings institution's aggregate outstanding investment to
its service corporation cannot exceed 3% of the institution's assets. United
Bank is in compliance with the subsidiary investment limits.
EMPLOYEES
At March 16, 1998, the Company employed fifty-nine full-time employees and
thirteen part-time employees. Management considers its relations with its
employees to be excellent. The Company maintains a comprehensive employee
benefit program providing, among other benefits, hospitalization and major
medical insurance, paid sick leave, disability, life insurance and 401K
retirement plans. The Company's employees are not represented by any collective
bargaining group. See Part IV, Item 14. - "Notes to Consolidated Financial
Statements - Retirement plans".
EXECUTIVE OFFICERS OF THE REGISTRANT. The following table sets forth
information with respect to the executive officers of the Company (and the
Banks). All executive officers are elected annually by the Board of Directors
and serve at the discretion of the Board of Directors. There are no arrangements
or understandings between individual officers and any other person pursuant to
which he was elected as an officer.
Name Age Position Held
- --------------------- --- -------------------------------------------------
John M. Morrison 61 Chairman and Chief Executive Officer
Kurt R. Weise 41 President and Chief Operating Officer, Vice
President/C.O.O./Investments/Treasurer-Heritage
Bank and United Bank
Kevin P. Clark 42 Secretary to the Board, President and C.E.O.-
Heritage Bank and United Bank
Steve Feurt 42 Chief Credit Officer, Senior Vice President and
C.C.O.-Heritage Bank United Bank
MR. MORRISON has served as Chairman and Chief Executive Officer of the
Company since its merger with Heritage on February 3, 1998. Before joining the
Company, he served as Chairman of Heritage since 1994. Mr. Morrison is also the
Chief Executive Officer and sole shareholder of Central Bancshares, Inc., the
parent company of Central Bank located in Stillwater, Minnesota, which was
founded by Mr. Morrison in 1988. Mr. Morrison was the Chairman and majority
shareholder of Bank of Montana System, a bank holding company with approximately
$800 million in assets, prior to its sale to Norwest Corp. in 1994. He is
currently involved as a shareholder in businesses such as cellular phone
service and precision parts manufacturing.
MR. WEISE has served as President and Chief Operating Officer of the Company
since its merger with Heritage. Before joining the Company, he served as Vice
President, Treasurer and a director of Heritage. Mr. Weise also serves as
President of Central Financial Services Inc., a bank consulting firm, and
President of Central Bancshares, Inc. He has been involved with the Central Bank
group of companies since they were founded in 1988. He was the Chief Financial
Officer of Bank of Montana System until its sale to Norwest Corporation.
MR. CLARK has served as Secretary of the Company and President and Chief
Executive Officer of the Banks since the Company's merger with Heritage. Before
joining the Company, he served as President, Chief Executive Officer and a
director of Heritage Bank since 1994. Prior to 1994, Mr. Clark served in various
capacities with Bank of Montana, most recently as Regional Vice President and
director.
MR. FEURT has served as Chief Credit Officer of the Company and Senior Vice
President/Chief Credit Officer of the Banks since the Company's merger with
Heritage. Before joining the Company, he served as Senior Vice President and
Senior Credit Officer of Heritage Bank since 1994. Mr. Feurt served as Senior
Vice President and Senior Credit Officer of Bank of Montana from 1984 until its
sale to Norwest Corporation.
REGULATION - HOLDING COMPANY
GENERAL. United Financial Corp. is a savings and loan holding company within
the meaning of Section 10 of the Home Owners' Loan Act, as amended (HOLA). As
such, United Financial Corp. is subject to OTS examination and supervision as
well as certain reporting requirements. As SAIF-insured subsidiaries of a
savings institution holding company, the Banks are is subject to certain
restrictions in dealing with United Financial Corp.
Prior to the Merger, United Financial Corp. was a unitary thrift holding
company. There are few limitations on unitary thrift holding companies whose
insured savings association subsidiary complies with the Qualified Thrift Lender
(QTL) test described below under "Regulation - Bank - Qualified Thrift Lender
Test," except for limitations on further acquisitions. The activities of a
multiple savings and loan holding company and its subsidiaries (other than
SAIF-insured savings associations) are
generally subject to the same restrictions as are bank holding companies, unless
all or all but one of such savings and loan holding company's savings
association subsidiaries were acquired in a supervisory acquisition and all of
such savings association subsidiaries qualify as QTLs. Currently, United
Financial Corp. is a multiple savings and loan holding company because of its
ownership of the two Banks. After the merger of Heritage Bank and United Bank,
United Financial Corp. expects to be a unitary savings and loan holding company.
If the Company were to acquire another thrift, the Company would be a multiple
savings and loan holding company unless it merged its thrift subsidiaries. If
the Company were to acquire a commercial bank, the Company would no longer be a
unitary thrift holding company and would be subject to bank holding company
regulations.
HOLA generally prohibits a savings and loan holding company, directly or
indirectly, from (i) acquiring control of another savings institution (or a
holding company thereof) without the prior approval of the OTS, (ii) acquiring
5% or more of the voting shares of another savings institution (or a holding
company thereof) which is not a subsidiary, or (iii) acquiring control of a
savings institution not insured by the FDIC. Further, under the Change of Bank
Control Act and the HOLA, no company or person may acquire direct or indirect
control (including indirect control by acquiring control of a holding company)
of a thrift without approval of the OTS upon application (unless the transaction
qualifies for one of several exemptions). Any person or company is deemed to
have acquired control of a thrift if it acquires more than 25% of the voting
securities of the thrift or its holding company. In addition, any person or
company is presumed to have acquired control of a thrift if it acquires more
than 10% of the voting securities of the thrift or the thrift's holding company
and is subject to certain "control factors." Upon acquiring such ownership, a
holder is required to file a certification with the OTS that such holder is not
in control of the thrift. The OTS may deny an application for control based on a
number of factors and may refute a rebuttal of a presumption of control.
REGULATION - BANKS
GENERAL. The Banks are federally chartered stock savings banks, the deposits
of which are insured and backed by the full faith and credit of the United
States Government. As a result, the Banks are subject to broad federal
regulation and oversight. The Banks are members of the SAIF and the deposits of
the Banks are insured by the FDIC. As a result, the FDIC has certain regulatory
and examination authority over the Banks.
TRANSACTIONS WITH AFFILIATES. All transactions involving a savings
association and its affiliates are subject to sections 23A and 23B of the
Federal Reserve Act (FRA). Generally, these sections restrict "covered
transactions" (i.e. loans, purchases of assets, guarantees and similar
transactions) to a percentage of a savings institution's capital and surplus and
require such transactions to be on terms as favorable to the savings association
as transactions with nonaffiliates. Loans to insiders (officers, directors and
10% shareholders) of a savings association are subject to sections 22(g) and (h)
of FRA and the regulations promulgated thereunder. Among other things, such
loans must be made on terms substantially the same as loans to non-insiders. The
OTS has also adopted Regulation O of the Federal Reserve Board (FRB), which
implements legislative restrictions on insider loan transactions.
FEDERAL REGULATION OF SAVINGS ASSOCIATIONS. The OTS has extensive authority
over the operations of the Banks, including, among other things, the ability to
assess civil money penalties, to issue cease and desist orders or removal
orders, and to initiate injunctive actions for violations of laws and
regulations and for unsafe or unsound practices. The Banks are required to file
periodic reports with the OTS and is also subject to periodic examinations by
the OTS and the FDIC. The last regular OTS safety and soundness and FDIC
examinations of the Banks were completed January 1997 and April 1990,
respectively, for United Bank and March 1997 and October 1990, respectively, for
Heritage Bank. The OTS and the FDIC have entered into an agreement that provides
for joint examinations by the FDIC with the OTS.
DEPOSIT INSURANCE AND FDIC REGULATION. The Banks are members of the SAIF,
which is administered by the FDIC. Savings deposits are insured up to the
applicable limits (generally $100,000 per insured depositor) by the FDIC and
backed by the full faith
and credit of the United States Government. The FDIC is empowered to impose
deposit insurance premiums, conduct examinations and require reporting by the
Banks. The FDIC may also prohibit the Banks from engaging in any activity the
FDIC determines by regulation or order to pose a serious risk to the FDIC. The
FDIC can also initiate enforcement actions against the Banks, after giving the
OTS an opportunity to take such action, and may terminate the deposit insurance
of the Banks if it determines that the Banks have engaged or are engaging in any
unsafe or unsound practice, or is in an unsafe or unsound condition.
Legislation was enacted in 1996 that provided for a special assessment
against FDIC/SAIF member institutions that capitalized the SAIF insurance
reserve to the prescribed 1.25% of insured deposits level. For United Bank, this
one-time special assessment was $549,700, or 65.7 basis points per $100 of
United Bank's insured deposit base on March 31, 1995. The Company's 1996
consolidated financial statements reflect the expense and payment of this
$549,700 special assessment. For Heritage Bank, this one-time special assessment
was $239,300, or 65.7 basis points per $100 of Heritage Bank's insured deposit
base on March 31, 1995. The Banks' FDIC/SAIF assessment rate, beginning January
1, 1997 decreased from 23 basis points to 6.5 basis points per $100 of insured
deposits. Most commercial banks, insured under the FDIC/Bank Insurance Fund
(BIF), beginning January 1, 1997, were assessed 1.3 basis points per $100 of
insured deposits. For the second half of 1997, the Banks' FDIC/SAIF assessment
rate were 6.3 basis points per $100 of insured deposits, compared 1.26 basis
points for BIF members. As a result, United Bank's 1997 FDIC/SAIF deposit
insurance premium was $49,109 and Heritage's Bank's was $27,389.
REGULATORY CAPITAL REQUIREMENTS. OTS capital regulations require federal
savings institutions such as the Banks to satisfy three capital requirements:
(i) tangible capital must not be less than 1.5% of adjusted total assets, (ii)
core capital must not be less than 3% of adjusted total assets, and (iii)
risk-based capital must not be less than 8.0% of "risk-adjusted" assets. United
Bank and Heritage Bank exceeded these minimum standards at December 31, 1997.
See Part IV, Item 14. - "Notes to Consolidated Financial Statements - Regulatory
Capital". For information regarding Heritage's capital requirements, see Note 14
to the consolidated financial statements of Heritage in Part V, Item 15.
Tangible capital includes shareholder's equity, noncumulative perpetual
preferred stock, certain nonwithdrawable accounts, pledged deposits of mutual
savings institutions, and minority interests in fully consolidated subsidiaries,
less intangible assets and certain investments in subsidiaries that conduct
activities not permissible for a national bank. Purchased mortgage servicing
rights may be included in tangible capital at the lower of 90% of fair market
value, 90% of original cost, or 100% of current amortized book value.
Core capital consists of tangible capital plus a percentage of certain
marketable intangible assets, and a decreasing portion (through 1994) of
qualifying supervisory goodwill.
Risk-based capital is determined by assigning a risk-weight, ranging from 0%
for government securities to 100% for certain equity investments, to each of an
institution's assets, including the credit-equivalent amount of off-balance
sheet assets. An institution is required to maintain total regulatory capital
(consisting of both "core capital" and supplementary capital) equal to the
regulatory mandated percentage (8%) of the sum of its assets multiplied by their
respective risk-weights. The OTS also requires institutions with more than a
"normal" level of interest-rate risk (IRR) to maintain additional risk-based
capital. A savings institution with a greater than normal IRR is required to
deduct from total capital, for purposes of calculating its risk-based capital
requirement, an amount equal to one-half the difference between the
institution's measured IRR and the normal level of IRR, multiplied by the
present value of its total assets. Based on their current capital position, most
recent OTS calculated IRR, and proposed exemption criteria, the Banks would not
have an IRR capital adjustment.
The FDICIA places much greater emphasis on capital as a measure of
performance and establishes a rigid regulatory scheme based almost entirely on
capital levels. The five statutory capital categories established by the FDICIA
are "well capitalized",
"adequately capitalized", "undercapitalized", "significantly undercapitalized"
and "critically undercapitalized". Each Bank's capital position substantially
exceeds the definition of "well capitalized." The FDICIA also mandates that
regulations be promulgated adding other risk-based capital requirements covering
(a) concentrations of credit risk, (b) risks from nontraditional activities and
(c) the capital impact of fair value adjustments associated with FASB Statement
No. 115, "Accounting for Certain Investments in Debt and Equity Securities". At
December 31, 1997, United Bank was well capitalized and Heritage Bank was
adequately capitalized. Upon the merger of United Bank into Heritage Bank,
management believes the merged bank will be well capitalized.
QUALIFIED THRIFT LENDER TEST. Unless a savings institution meets the QTL
test, it is classified and subject to regulation as a national bank or becomes
subject to a number of limitations on investment, branching, advances, dividends
and other activities. In addition, a unitary savings and loan holding company
that owns a thrift failing the QTL test becomes subject to limitations on
activities applicable to multiple savings and loan holding companies. The QTL
test generally requires that an insured institution's Qualified Thrift
Investments (QTIs) (primarily residential mortgages and related investments,
including certain mortgage-related securities) equal or exceed 65% of the
institution's portfolio assets (defined as all assets minus intangible assets,
property used by the institution in conducting its business and qualifying
liquid assets up to 20% of total assets). Certain assets are subject to a
percentage limitation of 20% of portfolio assets. Savings associations may
include shares of stock of the FHLBs, Federal National Mortgage Association, and
Federal Home Loan Mortgage Corporation as QTIs. As of December 31, 1997, over
90% of United Bank's assets and over 79% of Heritage Bank's assets were invested
in QTIs.
CONSUMER ISSUES. The Community Reinvestment Act (CRA) and other fair lending
laws and regulations impose nondiscriminatory lending requirements on financial
institutions. In recent periods, federal regulatory agencies, including the FRB,
the OTS and the Department of Justice (DOJ), have sought a more rigorous
enforcement of the CRA and other fair lending laws and regulations. The DOJ is
authorized to use the full range of its enforcement authority under the fair
lending laws. A successful challenge to an institution's performance under the
CRA and related laws and regulations could result in a wide variety of
sanctions, including the required payment of damages and civil money penalties,
prospective and retrospective injunctive relief and the imposition of
restrictions on mergers and acquisitions activity. Private parties may also have
the ability to challenge an institution's performance under fair lending laws in
private class action litigation. During the most recent OTS compliance
examinations of United Bank and Heritage Bank completed in October 1997 and July
1997, respectively, the OTS conducted CRA performance evaluations and each Bank
was rated as having had "an outstanding record of meeting community credit
needs."
LIQUIDITY. All savings associations are required to maintain qualifying
liquid assets equal to a percentage designated by the Director of the OTS
(currently 4%) of the balance of its withdrawable deposit accounts and
borrowings payable in one year or less. Liquid assets for purposes of this ratio
include specified short-term assets (e.g., cash, certain time deposits, certain
banker's acceptances and short-term United States Government obligations), and
long-term assets (e.g., United States Government obligations and certain state
agency obligations). Monetary penalties will be imposed, unless waived, for
failure to meet liquidity requirements.
FEDERAL HOME LOAN BANK SYSTEM. The Banks are members of the FHLB of Seattle,
Washington, one of several regional banks that administer the home financing
credit function for savings associations. Each FHLB serves as a reserve or
central bank for its members within its assigned region, is funded primarily
from proceeds derived from the sale of consolidated obligations of the FHLB
system and makes loans (advances) to its members in accordance with the policies
and the procedures established by the FHLB board of directors. All advances from
the FHLB are required to be fully secured by sufficient collateral as is
determined by the FHLB. The Banks are required to purchase and maintain FHLB
stock in an amount equal to the greater of 1% of the unpaid principal of
residential mortgage loans, .3% of total assets or 5% of FHLB advances
outstanding.
FEDERAL RESERVE SYSTEM. As a creditor and a financial institution, the Banks
are subject to various regulations promulgated by the FRB. Regulations of the
FRB require savings institutions to maintain non-interest-earning reserves
against certain of their transaction accounts (primarily deposit accounts that
may be accessed by writing checks), nonpersonal time deposits and Eurocurrency
liabilities.
PROPOSED LEGISLATION. The Economic Growth and Regulatory Paperwork Reduction
Act of 1996 (the EGRPRA) requires that the Department of the Treasury prepare a
study on the adoption of a common federal depository institution charter in
anticipation of action by Congress to merge the SAIF and BIF insurance funds and
the thrift and bank charters. If there remains no thrift charter on January 1,
1999, the EGRPRA provides that the BIF and SAIF insurance funds will be merged.
It is unclear the effect a merger of the bank and thrift charters would have
on United Financial Corp. and the Banks. After the merger of the Banks, United
Financial Corp. will have substantial flexibility in its operations as a unitary
thrift holding company. If, however, the Banks become national banks and United
Financial Corp. becomes a bank holding company subject to regulation by the FRB,
the activities of United Financial Corp. would be limited to the bank-related
activities provided for in the Bank Holding Company Act. Further, significant
differences remain between the authority of a national bank and a thrift,
including differences in branching authority, insurance activities, and service
corporation activities imposed on banks but not thrifts, and restrictions on
certain forms of loans and investments imposed on thrifts and not banks.
Although the OTS, the FRB and the Office of the Comptroller of the Currency have
increasingly amended regulations or changed their interpretations of regulations
to equalize such powers, there can be no assurances that a new federal banking
charter would not reduce the authority of the Banks to conduct their operations.
Legislation currently before Congress would allow banks, securities firms and
insurance companies to affiliate with one another under the umbrella of a
financial holding company. This legislation would also prohibit the further
grant of charters for unitary thrift holding companies. As presently
contemplated, existing unitary thrift holding companies would be grandfathered
in and would be regulated by the FRB.
For more information regarding legislation see Part II, Item 7. - "Management
Discussion and Analysis of Financial Condition - Legislation." The full impact
that current, proposed and future legislative rules and regulations will have on
the Banks and other financial institutions are not known at this time and cannot
be predicted.
TAXATION
GENERAL. United Financial and its subsidiaries report their income on a
calendar year basis and have elected to file a consolidated federal income tax
return. The State of Montana allows the filing of a combined Montana income tax
return for the first time in 1997, and thus the Company has elected to file a
combined 1997 state income tax return. A tax sharing agreement provides that
United Financial and the Banks "... pay their respective federal and state taxes
as separate corporations on a stand alone basis." Generally with some
exceptions, including United Bank's reserve for bad debts discussed below, the
Company is subject to federal income taxes in the same manner as other
corporations.
The following discussion of tax matters is intended solely as a summary and
does not purport to be a comprehensive description of all the tax rules
applicable to the Company.
TAX BAD DEBT RESERVES. For taxable years beginning prior to January 1, 1996,
savings institutions, such as United Bank, which met certain definitional tests
primarily relating to their assets and the nature of their business ("qualifying
thrifts"), were permitted to establish a reserve for bad debts and to make
annual additions thereto, which additions may, within specified formula limits,
have been deducted in arriving at their taxable income. United Bank's deduction
with respect to "qualifying loans," which are generally loans secured by certain
interests in real property, including various types of mortgage-backed
securities, may have been computed using an amount based on its actual loss
experience or a percentage equal to
8% of its taxable income, computed with certain modifications and reduced by the
amount of any permitted additions tot he nonqualifying reserve. United Bank's
deduction with respect to nonqualifying loans was computed under the experience
method, which essentially allows a deduction based on United Bank's actual loss
experience over a period of several years. Each year United Bank selected the
most favorable way to calculate the deduction attributable to an addition to the
tax bad debt reserve.
Federal legislation repealed the reserve method of accounting for bad debt
reserves for tax years beginning after December 31, 1995. As a result, savings
associations could no longer calculate their deduction for bad debts using the
percentage-of-taxable-income method. Instead, savings associations were required
to compute their deduction based on actual charge-offs during the taxable year
or, if the savings association or its controlled group had assets of less than
$500 million, based on actual loss experience over a period of years. This
legislation also required savings associations to recapture into income over a
six-year period their post-1987 additions to their bad debt tax reserves,
thereby generating additional current tax liability. At December 31, 1997,
United Bank's bad debt reserve for tax purposes was approximately $3.2 million.
At December 31, 1997, there were no post-1987 reserves.
For additional information regarding federal and state income taxes, see Part
IV, Item 14. - "Notes to Consolidated Financial Statements - Income Taxes".
ITEM 2. PROPERTIES
The physical assets of the Company as of March 1, 1998 consist of a modern
banking facility located at 120 First Avenue North, Great Falls, Montana, which
is the location of the corporate offices as well as the main branch location for
Heritage Bank. This two story facility and basement provide for a full service
bank with 4 drive-up lanes, a loan production office, accounting and loan
servicing departments, and support staff for the Company's employees. This
facility is owned by Heritage Bank. In addition, Heritage Bank leases a drive-up
detached facility located on 10th Avenue South, Great Falls, Montana. The United
Bank facility, located at 601 First Avenue North, Great Falls, Montana,
presently serves its deposit customers through its main teller area and a
three-lane independent drive-up facility. The Banks also have four full-service
branches located in Chester, Glendive, Havre, and Shelby, Montana. These four
facilities are owned by the Banks and have drive-up services. Heritage Bank also
leases four Loan Production Offices which are located in Bozeman, Missoula,
Libby and Hamilton, Montana. There is no debt on any of the owned facilities.
ITEM 3. LEGAL PROCEEDINGS
Although not involved in any pending material litigation, the Company from
time to time engages in litigation normal for its type of business.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted to a vote of security holders through the
solicitation of proxies or otherwise during the quarter ended December 31, 1997.
On February 3, 1998 shareholders, through a proxy solicitation, approved the
plan of merger with Heritage Bancorporation.
For additional information regarding the Merger and Heritage, see the
Company's Definitive Proxy Statement on Schedule 14A filed with the Securities
and Exchange Commission on January 15, 1998.
PART II.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
MARKET INFORMATION
The common stock of the Registrant is traded on the Nasdaq National Market .
The trading symbol is UBMT. As of February 27, 1998, the closing bid price per
share as quoted by NASDAQ on such date was $27.00.
STOCKHOLDERS. As of January 8, 1998, there were approximately 260
shareholders of record, and another approximately 1,100 beneficial owners, for a
total estimated 1,360 shareholders.
COMMON STOCK MARKET PRICES. The Company's quarterly (high and low) stock
prices for the past two years are as follows:
UBMT Stock Price
-----------------
High Low
------ ------
1996 First quarter $18.50 $17.50
Second quarter 18.75 17.75
Third quarter 19.25 18.00
Fourth quarter 19.75 18.50
1997 First quarter $19.75 $18.75
Second quarter 22.25 18.94
Third quarter 24.25 21.75
Fourth quarter 27.00 23.75
DIVIDENDS
The Company's Board of Directors declared dividends of $.235, $.24, $.245 and
$.25 for the four quarters of 1997, for a total of $.97 per share and declared
dividends of $.215, $.22, $.225 and $.23 for the four quarters of 1996, for a
total of $.89 per share. On January 26, 1998, the Company's Board of Directors
declared a quarterly dividend of $.25 per share, paid February 23, 1998, to
shareholders of record on February 9, 1998. The declaration and payment of
future dividends by the new Board of Directors is dependent upon the Company's
net income, financial condition, economic and market conditions, industry
standards, certain regulatory and tax considerations described below and other
conditions. No assurance can be given, or should be assumed, as to the amount,
timing, or frequency of future dividend payments. There are limited restrictions
on the ability of United to pay dividends from its retained earnings.
The OTS utilizes a three-tiered approach to permit savings associations,
based upon their capital level and supervisory condition, to make capital
distributions which includes dividends, stock redemptions or repurchases,
cash-out mergers and other transactions charged to the Bank's capital account.
Generally, Tier 1 institutions, like United Bank, meeting their fully-phased-in
capital requirement (see "Regulation - Bank - Regulatory Capital Requirements")
according to the capital standards effective on January 1, 1995, may
automatically make capital distributions up to 100% of net income to date during
the calendar year, "plus an amount that would reduce by one half its surplus
capital ratio as of the beginning of the calendar year." "Surplus capital ratio"
means the percentage by which an institution's capital-to-assets ratio exceeds
the ratio of its fully phased in capital requirements to assets. Also, the rule
is applied on a pro forma basis: that is, the institution must still meet its
fully phased in capital requirements after the proposed capital distribution.
Tier 2 institutions (those which meet the current minimum capital requirement on
a pro forma basis, but not meeting capital rules applicable on January 1, 1995)
can pay dividends from 25% to 75% of net income, determined on a generally
accepted accounting principles basis, depending on how close they are to meeting
their fully-phased-in,
risk-based component of the capital standards. Tier 3 institutions, which do not
meet their current regulatory capital requirements, may pay dividends with prior
regulatory approval.
Under current federal income tax laws, any dividend distribution of property
(cash or in-kind) by a "tax-qualified" thrift will be taxable as income to the
recipient and not deductible by the issuer. Such nondeductible distributions are
deemed under the Internal Revenue Code Section 593(e) to come from first: (a)
the accumulated "earnings and profits" of the institution amassed since the
onset of federal taxation in 1952, then (b) the tax bad-debt reserves on
qualifying real property loans of the institution then (c) the supplemental
reserve for losses on loans, and (d) other capital accounts.
Any dividend by a thrift deemed to come from the tax bad debt reserves must,
under the Code, be included in taxable income (because of the required recapture
of the original tax benefit of the thrift percentage of taxable income bad-debt
method) to the extent of the lesser of the tax bad debt reserves or the amount
of the distribution grossed up for taxes attributable to the distribution.
ITEM 6. SELECTED FINANCIAL DATA
UNITED FINANCIAL CORP. -
FIVE YEAR SUMMARY OF OPERATIONS AND SELECTED FINANCIAL DATA (Dollar amounts
in thousands, except per share amounts)
December 31,
----------------------------------------------
1997 1996 1995 1994 1993
------ ------ ------ ------ ------
Summary of Financial Condition:
Total assets $96,258 $103,837 $114,440 $112,506 $119,041
Cash and cash equivalents 1,629 2,934 1,221 636 6,001
Investments 53,518 61,013 78,379 74,843 71,971
Loans receivable, net 36,317 35,176 30,352 31,512 36,388
Deposits 70,924 78,697 78,291 89,086 95,292
Federal Home Loan Bank advances 10,500
Stockholders' equity 24,650 24,416 24,688 22,548 22,655
Per share 20.15 19.96 20.18 18.43 18.52
As a percent of assets 25.61% 23.51% 21.57% 20.04% 19.03%
Year Ended December 31,
----------------------------------------------
1997 1996 1995 1994 1993
------ ------ ------ ------ ------
Summary of Operations:
Interest income $7,314 $7,253 $7,394 $7,926 $8,253
Interest expense 3,461 3,565 3,420 3,616 4,046
------ ------ ------ ------ ------
Net interest income 3,853 3,688 3,974 4,310 4,207
Provision for loan losses 225
Non-interest income (1) 675 835 595 772 1,045
Non-interest expense (2) 2,142 2,771 2,133 2,085 2,091
------ ------ ------ ------ ------
Income before income taxes 2,161 1,752 2,436 2,997 3,161
Income taxes 809 649 714 1,111 1,189
------ ------ ------ ------ ------
Net income $1,352 $1,103 $1,722 $1,886 $1,972
====== ====== ====== ====== ======
Ratios:
Net income as a percent of
average assets 1.30% 1.03% 1.62% 1.58% 1.64%
Net income as a percent of
average equity 5.50% 4.50% 7.21% 8.16% 8.89%
Average equity as a percent
of average assets 23.66% 23.00% 22.39% 19.41% 18.40%
Net interest spread 2.83% 2.62% 2.91% 3.04% 2.92%
Net interest margin 3.85% 3.59% 3.83% 3.72% 3.62%
Efficiency ratio (3) 47.31% 49.10% 46.68% 41.03% 39.81%
December 31,
----------------------------------------------
1997 1996 1995 1994 1993
------ ------ ------ ------ ------
Other Data:
Total number of full service
offices 4 4 4 4 4
Number of deposit accounts 5,535 5,998 6,145 6,429 6,736
(1) 1996 includes pre-tax gain of $150,200 from the sale of investment
securities.
(2) 1996 includes pre-tax charge of $549,700 for the FDIC/SAIF deposit insurance
special assessment
(3) 1996 pretax charge of $549,700 for the FDIC/SAIF deposit insurance special
assessment not included.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
BASIS OF PRESENTATION. The following is management's discussion and analysis
of the results of operations and the historical financial condition of United
Financial Corp. and United Bank. The following discussion and analysis is
intended to provide greater details of the results of operations and financial
condition of United Financial Corp. and United Bank. The following discussion
should be read in conjunction with the information under Part I, Item 6 -
"Selected Financial Data" and the Company's consolidated financial statements
and notes thereto and other financial data included elsewhere in this Report.
Certain statements under this caption constitute "forward-looking statements"
within the meaning of Section 27A of the Securities Act of 1933, as amended, and
Section 21E of the Securities Exchange Act of 1934, as amended, which involve
risks and uncertainties. United Financial Corp.'s actual results may differ
significantly from the results discussed in such forward-looking statements.
Factors that might cause such a difference include, but are not limited to,
economic conditions, competition in the geographic and business areas in which
United Financial Corp. conducts its operations, fluctuations interest rates,
credit quality and government regulations.
CHANGES IN FINANCIAL CONDITION DURING 1997. During 1997, total assets
decreased $7.6 million, or 7%, to $96.3 million. The primary reason for this
change was a $7.8 million, or 10%, net deposit outflow, with deposits of $70.9
million at the end of 1997. The deposit outflow was funded primarily from a $7.5
million, or 12%, decrease in investment securities. Loans receivable increased
$1.1 million, or 3%, to $36.3 million, and cash and cash equivalents declined
$1.3 million, or 45%, to $1.6 million. Stockholders' equity increased $.2
million to $24.6 million.
United Bank experienced a net decrease in deposits of $7.8 million for the
year ended December 31, 1997, a net increase in deposits of $.4 million for the
year ended December 31, 1996, and a net decrease of $10.8 million for the year
ended December 31, 1995. The 1997 outflow was a result of several factors.
First, United Bank has traditionally offered a limited array of loan and deposit
products in its role as a traditional thrift. This limited selection of products
has required that customers go to other financial institutions or other
alternate sources for a wider selection of products to meet their financial
needs. With the Merger, United Bank now offers more varied financial products
and is attempting to keep its customers from migrating to competitors. Secondly,
due to the limited loan products offered by United Bank in the past, its need
for loan funding dictated interest rates on its deposit products be less than
competitive. Management is taking steps to prevent further deposit outflows
while recognizing the need to price its products competitively.
The $.2 million increase in stockholders' equity was comprised of $1.4
million of net income, less $1.2 million of cash dividends paid to shareholders
and a less than $.1 million improvement in the unrealized loss adjustment for
available-for-sale investment securities. Stockholders' equity at December 31,
1997 was 25.6% of assets and book value was $20.15 per share.
Total 1997 loan production was $29.9 million, a $1.4 million, or 4%, decrease
compared to 1996. Forty one percent, or $12.2 million, of the total 1997 loan
production was comprised of long-term fixed-rate mortgage loans originated for
sale to the secondary market.
The following table summarizes the major components of the Company's net
income for each of the three years ended December 31, 1997, as well as the
changes which occurred between the periods shown.
(Dollars in thousands)
Years Ended December 31,
----------------------------------------
1997 1996 1995
-------------- -------------- ------
Amount Change Amount Change Amount
------ ------ ------ ------ ------
Interest income $7,314 $ 61 $7,253 $(141) $7,394
Interest expense 3,461 (104) 3,565 145 3,420
------ ----- ------ ------ ------
Net interest income 3,853 165 3,688 (286) 3,974
Provision for losses on loans 225 225
Non-interest income 675 (160) 835 240 595
Non-interest expense 2,142 (629) 2,771 638 2,133
------ ------ ------ ------ ------
Income before income taxes 2,161 409 1,752 (684) 2,436
Provision for income taxes 809 160 649 (65) 714
------ ------ ------ ------ ------
Net income $1,352 $ 249 $1,103 $(619) $1,722
====== ====== ====== ====== ======
COMPARISON OF YEARS ENDED DECEMBER 31, 1997 AND DECEMBER 31, 1996
GENERAL. Net income for 1997 was $1,351,600, a $248,700, or 23%, increase
over 1996. The primary reasons for this change were a $164,700 increase in 1997
net interest income and the 1996 one-time $549,700 FDIC/SAIF deposit insurance
special assessment. These two positive changes were partially offset by a
$225,000 1997 loan loss reserve provision and a $159,800 reduction in
non-interest income due primarily to a 1996 gain from the sale of investment
securities.
Net interest margin (net interest income divided by average interest-earning
assets) improved 26 basis points to 3.85%. Net interest spread (the difference
between the average yield on interest-earning assets less the average cost of
interest-bearing liabilities) improved 21 basis points to 2.83%. Return on
average assets for 1997 was 1.30%, compared to 1.03% for 1996. Based on weighted
average shares outstanding, 1997 net income was $1.10 per share compared to $.90
per share in 1996.
INTEREST INCOME. Average 1997 interest-earning assets declined $2.7 million,
or 3%, to $100.0 million. Average 1997 loans receivable increased $3.0 million,
or 9%, to $34.8. Average mortgage-backed securities declined $9.3 million, or
29%, to $23.2 million. Average other investments increased $1.3 million, or 4%,
to $36.8 million and average interest-earning deposits increased $2.3 million,
or 79%, to $5.2 million. Loans receivable average yields declined 3 basis points
to 9.26%, mortgage-backed securities average yields increased 31 basis points to
6.51%, other investment average yields increased 24 basis points to 6.25% and
average interest-earning assets yields increased 21 basis points to 5.43%. As a
result, the 1997 average yield for all interest-earning assets was 25 basis
points higher, 7.32% compared to 7.07% in 1996.
INTEREST EXPENSE. Average 1997 deposits decreased $4.1 million, or 5%, to
$74.3 million. Average daily savings deposits declined $3.2 million, or 10%, and
average time deposits declined $.8 million, or 2%. The 1997 average cost for all
deposits was 4.43%, approximately the same as in 1996. As a result, total
deposit interest expense in 1997 declined $179,500, or 5%, to $3,293,100.
Average 1997 FHLB advances were $2.8 million, a $1.2 million, or a 75%, increase
compared to 1996. The 1997 average cost and interest expense for FHLB advances
were 5.98% and $168,000, compared to 5.72% and $92,000 in 1996. The 1997 average
cost of all interest-bearing liabilities was 4.49%, compared to 4.45% in 1996.
NET INTEREST INCOME. This category improved $164,700, or 4%, to $3,852,700
for the reasons cited above.
NON-INTEREST INCOME. This category decreased $159,800, or 19%, to $674,700.
The primary reason for this decline was $150,200 in 1996 gains from the sale of
available-for-sale investment securities. Loan fees and discount income remained
approximately the same, $435,100 in 1997, compared to $443,500 in 1996. During
1997 loans originated for sale to the secondary market were $12.2 million,
compared to $12.0 million in 1996, while loans originated for portfolio were
$17.7 million, compared to $19.3 million in 1996.
NON-INTEREST EXPENSE. This category decreased $629,100, or 23%, to
$2,141,700. The primary reason for this decrease was the 1996 $549,700 FDIC/SAIF
deposit insurance premium previously discussed. The after tax impact of this
one-time special assessment was a $338,300, or a $.28 per share, reduction in
1996 net income. Compared to the prior year, 1997 salaries and employees
benefits were $86,100 higher. This 7% increase was due primarily to salary
increases, the employment of two experienced agricultural and commercial loan
officers and additional expenses resulting from termination of United Bank's
Savings Association Retirement Fund. Due to a decrease in both deposit balances
and FDIC/SAIF insurance rates, regular FDIC/SAIF insurance premium expense
declined $121,200, or 71%, from $170,300 in 1996 to $49,100 in 1997. Other
expenses declined $48,800, or over 9%, to $489,000 due primarily to a $25,100,
or 27%, decrease in advertising related expenses, from $91,600 in 1996 to
$66,500 in 1997 and a $15,900 1996 loss on the sale of real estate owned.
PROVISION FOR INCOME TAXES. Income before taxes in 1997 was $2,161,700, a
$409,000, or 23%, improvement compared to 1996. Total 1997 income taxes were
$809,000, a $160,300, or 25%, increase compared to 1996. For both 1997 and 1996
the Company incurred the 34% federal corporate tax rate and a 6.75% Montana
corporate license tax.
PROVISION FOR LOSSES ON LOANS AND ASSET QUALITY. The provision for loan
losses is determined by management as the amount to be added to the allowance
for loan losses after net charge-offs to bring the allowance to a level
considered adequate to absorb losses inherit in the loan portfolio. United Bank
provided $225,000 for loan losses in 1997, bringing the total reserve to
$300,200 at December 31, 1997 compared to $75,200 at December 31, 1996. There
were no loan charge-offs in 1997. Non-performing assets consisting of
non-accrual loans, accruing loans past due over 90 days, restructured loans,
other repossessed assets and real estate owned held-for-sale (REO/HFS) were
$225,000 at December 31, 1997 and $57,000 at December 31, 1996, representing
.23% and .06% of total assets, respectively. The loan loss reserve as a
percentage of nonperforming assets at December 31, 1997 and December 31, 1996
were 133% and 130%, respectively. United Bank's allowance for loan losses as a
percentage of total loans was .79% at December 31, 1997 and .20% at December 31,
1996.
United Bank has recently embarked on a growth orientated expansion strategy,
which has already resulted in an increase and a change in its traditional loan
portfolio. This strategy reflects the beginning of a transition from a
traditional thrift to activities resembling those of a commercial bank. This
business strategy is subject to greater risk, including the increased risk of
losses on loans.
In 1997, United Bank has hired two experienced Montana agricultural and
commercial lenders to originate agricultural and commercial loans for United
Bank's portfolio. In addition, United Bank is purchasing lease financing and
commercial loan participations originated out of United Bank's market area.
These loans have different risks in terms of loan monitoring and higher exposure
due to economic conditions and markets outside of United Bank's traditional
market area.
United Bank's market area is concentrated in Montana, increasing its exposure
to loan losses from a deterioration in economic conditions in this state.
Montana has experienced a decline in consumer credit quality consistent with
that experienced on a national level. The filings of personal bankruptcies in
Montana have increased in recent years. Based on the average for all insured
commercial banks in Montana, the net loss to average total loans increased 300%
in 1995 and increased nearly 100% in 1996. The average loan loss reserve for
Montana commercial banks at December 31, 1997 and December 31, 1996 was 1.55%
and 1.62% of total loans, respectively.
The initial growth and ongoing change in United Bank's loan portfolio,
combined with the apparent deterioration and economic trends both on a national
and a Montana state-wide basis and deficiencies in United Bank's loan loss
reserve coverage compared to state-wide averages, resulted in management's
addition to the loan loss reserve in 1997. United Bank's portfolio is and will
in future periods continue to be exposed to greater risk than has historically
been experienced with a portfolio comprised primarily of secured residential
loans. Additional provisions to the loan loss reserve and future charge-offs can
be expected to occur.
COMPARISON OF YEARS ENDED DECEMBER 31, 1996 AND DECEMBER 31, 1995
GENERAL. Net income for 1996 was $1,102,900, a $618,900, or 36%, decrease
compared to 1995. The primary reasons for this decline were: (1) a $549,700
FDIC/SAIF deposit insurance special assessment, (2) a $285,800 decline in net
interest income resulting primarily from higher deposit costs and borrowing
expense, and (3) higher other expenses due to $91,600 of advertising expense.
Net interest margin (net interest income divided by average interest-earning
assets) declined 24 basis points to 3.59%. Net interest spread (the difference
between the average yield on interest-earning assets less the average cost of
interest-bearing liabilities) declined 29 basis points to 2.62%. The return on
average assets for 1996 was 1.03% compared to 1.62% for 1995. Based on weighted
average shares outstanding, 1996 net income was $.90 per share, compared to
$1.41 per share for 1995.
INTEREST INCOME. Average 1996 interest-earning assets declined $1.1 million,
or 1%, to $102.6 million. Average 1996 loans receivable increased $1.0 million,
or 3%, to $31.8 million, and average other interest-earning assets declined $2.1
million to $70.8 million. Loans receivable average yields decreased 4 basis
points to 9.29% and overall lower yields on all other interest-earning assets
resulted in a 1996 average yield for all interest-earning assets of 7.07%,
compared to 7.13% in 1995.
INTEREST EXPENSE. Average 1996 deposits decreased $2.5 million, or 3%, to
$78.5 million. The mix of average deposits changed with average lower cost
statement savings decreasing $5.2 million, or 15%, while higher cost/repricing
average time deposits increased $2.5 million, or 7%. The 1996 cost of average
time deposits increased 29 basis points to 5.43%. The 1996 average cost of
deposits rose to 4.43%, compared to 4.22% in 1995. Deposit interest expense in
1996 therefore increased $60,900, or 2%, to $3,472,600. Primarily due to $10.5
million dollars of FHLB advances outstanding at the end of 1995, average 1996
borrowings were $1.6 million, a $1.5 million increase over 1995, resulting in
$92,000 of interest expense in 1996, compared to $8,200 in 1995. The 1996
average cost of borrowings was 5.72%, compared to 5.89% in 1995. The 1996
average cost of all interest-bearing liabilities increased to 4.45%, compared to
4.22% in 1995.
NET INTEREST INCOME. This category decreased $285,800, or 7%, to $3,688,000
for the reasons cited above.
NON-INTEREST INCOME. This category increased $240,000, or 40%, to $834,500.
The primary reason for this increase was $150,200 in gains from 1996 sales of
available-for-sale investment securities. In 1996, loan origination fee and
discount income increased $85,400, or 24%, to $443,500. This improvement was the
direct result of increased loan production. During 1996 loans originated for
sale to the secondary market were $12 million, compared to $8.4 million in 1995,
and loans originated for portfolio in 1996 were $19.3 million, compared to $10.8
million in 1995.
NON-INTEREST EXPENSE. This category increased $638,100, or 30%, to
$2,770,800. The primary reason for this increase was the 1996 $549,700 FDIC/SAIF
deposit insurance premium previously discussed. The after tax impact of this
special assessment was a $338,300, or a 28 cent per share, reduction in 1996 net
income. Other expenses increased $119,400, or 29%, to $537,800 due primarily to
a $60,700, or an 196% increase in advertising related expenses, from $30,900 in
1995 to $91,600 in 1996 and a $15,900 1997 loss on the sale of real estate
owned.
PROVISION FOR INCOME TAXES. Income before