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Securities and Exchange Commission
Washington, D.C. 20549
Form 10-K
Annual Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of
1934 for the fiscal year ended December 31, 2002
Commission File Number: 0-14815
PROGRESS FINANCIAL CORPORATION
(Exact name of registrant as specified in its charter)
Delaware 23-2413363
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
4 Sentry Parkway -- Suite 200
P. O. Box 3036
Blue Bell, Pennsylvania 19422-0764
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (610) 825-8800
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Securities registered pursuant to Section 12(b) of the Act: Non applicable
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Securities registered pursuant to Section 12(g) of the Act: Common Stock, $1.00 par value
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(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 12 months (or for such shorter period that the registrant was
required to file such reports) and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
---- ----
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. X
-----
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes No X
--- ---
The aggregate market value of the voting stock, held by non-affiliates of the
Registrant as a group, was $60,480,310 as of June 28, 2002, based upon the
closing price of $9.74 per share of the Registrant's common stock on June 28,
2002 as reported by The Nasdaq Stock Market(SM).
As of March 7, 2003, there were 6,612,321 issued and outstanding shares of the
Registrant's Common Stock.
Documents Incorporated By Reference:
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(1) Portions of the definitive proxy statement for the 2003 Annual Meeting
of Shareholders are incorporated into Part I, Item 5 and Part III,
Items 10 through 13 of this Form 10-K.
PROGRESS FINANCIAL CORPORATION
Table of Contents
PART I Page
Item 1. Business.................................................................................. 3
Item 2. Properties................................................................................ 11
Item 3. Legal Proceedings......................................................................... 11
Item 4. Submission of Matters to a Vote of Security Holders....................................... 11
PART II
Item 5. Market for the Registrant's Common Equity and Related Stockholder Matters................. 11
Item 6. Selected Consolidated Financial Data...................................................... 12
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations................................................................. 13
Item 7A. Quantitative and Qualitative Disclosure about Market Risk................................. 28
Item 8. Financial Statements and Supplementary Data............................................... 31
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure.................................................................. 63
PART III
Item 10. Directors and Executive Officers of the Registrant........................................ 63
Item 11. Executive Compensation.................................................................... 63
Item 12. Security Ownership of Certain Beneficial Owners and Management............................ 63
Item 13. Certain Relationships and Related Transactions............................................ 63
Item 14. Controls and Procedures................................................................... 63
PART IV
Item 15. Exhibits, Financial Statement Schedules and Reports on Form 8-K........................... 64
Signatures................................................................................ 66
Certifications............................................................................ 67
2
PART I
Item 1. Business
General
Progress Financial Corporation (the "Company"), headquartered in Blue
Bell, Pennsylvania, is a financial services company incorporated under the laws
of the State of Delaware. The Company owns all of the outstanding stock of
Progress Bank (the "Bank"), a federally chartered savings bank. The Company is a
registered unitary thrift holding company and is authorized as a Delaware
corporation to engage in any activity permitted by the Delaware General
Corporation Law and federal law and regulation. The holding company structure
permits the Company to expand the size and scope of the financial services
offered beyond those that the Bank is permitted to offer.
The Company's current business strategy is to focus on community
banking and wealth management, providing a full range of traditional banking
services including commercial business loans, commercial real estate loans,
residential construction and consumer lending, funded primarily by customer
deposits and providing financial planning services, life insurance and
investments. The Company's business activities also include commercial mortgage
banking and brokerage services and financial and operational management
consulting services for commercial clients, which provide an additional source
of fee income. The Company continues to focus on its corporate simplification
program, which commenced in early 2000. As part of this strategy, the Company
reduced the number of its businesses by the end of 2001, including venture fund
management and real estate development. The Bank sold its technology lending
group to Comerica Bank--California ("Comerica") in January 2002.
Banking. The Bank has nineteen banking offices in southeastern Pennsylvania with
ten full-service banking offices located in Montgomery County, four full-service
banking offices in Bucks County, one full-service banking office in Delaware
County, two full-service banking offices in Chester County, and two full-service
banking offices in Philadelphia County, and one full-service banking office in
Lambertville, Hunterdon County, New Jersey. Banking hours at select offices were
expanded in 2002 to include Saturday and Sunday and in 2003 to include some
holidays to give clients increased convenience of banking. During 2001, item
processing was brought in-house, providing more management oversight, greater
operational efficiency and improved quality.
Historically, the principal business of the Company consisted of
attracting deposits from the general public through the Bank's banking office
network and using such deposits to originate loans secured by first mortgage
liens on existing single-family residential, multi-family residential and
commercial real estate as well as to originate construction loans. Beginning in
1995, the Company's emphasis shifted to commercial business, commercial real
estate, construction lending and equipment leasing, with a focus on providing
such banking services to small- and medium-sized businesses, including companies
in the technology sector. During 2001, the Company decided to reduce its
exposure in the technology sector and dedicate its resources to more traditional
lines of business which have a more predictable earnings level including
expanding the retail franchise and focusing on core banking. Therefore, the
Company exited the business of lending to pre-profit companies and sold a
significant portion of loans in the technology sector in January 2002. The
Company also de-emphasized the equipment leasing operation and exited
asset-based lending.
The Company also invests in mortgage-backed securities, including
securities which are insured or guaranteed by the U.S. Government and agencies
thereof, and other similar investments permitted by applicable laws and
regulations. In addition, the Bank is periodically involved in real estate
development and related activities, through its subsidiaries, primarily to
facilitate the completion and sale of certain property held as real estate
owned.
Commercial Business Lending. The Bank's commercial business lending
area provides customized loan, deposit and investment products, as well as cash
management services to small- and lower middle-market businesses. Through the
Bank, the Company originates secured or unsecured loans for commercial,
corporate, business and agricultural purposes, which include the issuance of
letters of credit.
As a result of acquisitions of small- and medium-sized financial
institutions by large bank holding companies in southeastern Pennsylvania in
recent years, a growing number of small- and middle-market commercial customers
have sought the full range of commercial banking products the Bank offers and
the personalized service the Bank provides. The Company believes it has an
opportunity to expand further its commercial lending relationships and increase
its commercial deposits due to the willingness to tailor its products to the
small- and middle-market businesses. The Bank has made a concentrated effort to
offer high net worth individuals enhanced private banking products and services
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working closely with Progress Financial Resources, Inc., a subsidiary of the
Company, to identify and meet the specialized investment and wealth planning
needs of this affluent market.
The Bank's commercial business lending portfolio was $84.0 million at
December 31, 2002. Most commercial business loan customers are small- to
middle-market businesses located in the Bank's primary market area of Bucks,
Chester, Delaware and Montgomery Counties. Generally, commercial business loans
are between $100,000 and $2.5 million; however, the largest commercial business
loan at December 31, 2002 was $3.5 million. The Bank provides eBusiness Banking,
a device that makes commercial cash management products available on-line.
Several eBusiness Banking access packages are available to coordinate with the
different types of business checking accounts.
Government Guaranteed Lending started in January 2000 providing loans
through a variety of federally guaranteed programs, primarily those administered
by the Small Business Administration ("SBA"). The Bank has been awarded
Preferred Lending Program status, reserved for the most active and knowledgeable
lenders. This designation streamlines the lending process by allowing the unit
to underwrite SBA loans independently and grant credit approval without prior
SBA review. At December 31, 2002, Government Guaranteed Lending had $12.1
million ($30.0 million gross of $17.9 million in participations sold) in
commercial business loans and $3.6 million ($9.8 million gross of $6.2 million
in participations sold) in commercial real estate loans.
The Bank established the Specialized Lending Division in 1996, in order
to provide customized financial services to companies in the technology,
healthcare and insurance industries. In 2000, the Specialized Lending Division
was renamed TechBanc. TechBanc primarily focused on lending to technology-based
companies in the five county Philadelphia area, New Jersey, Northern Delaware
and the Baltimore, Maryland and Washington D.C. regions. Generally, loans were
originated with a balance of between $100,000 and $5.0 million. During 2001, the
Bank decided to exit the business of lending to pre-profit companies and wind
down the technology-based portfolio of loans to pre-profit companies. Although
TechBanc had contributed to the profitability of the Bank, exiting this business
line allows the Bank to dedicate its resources to more traditional lines of
business which have a more predictable earnings level including focusing on
community banking. To comply with the directive issued by the Office of Thrift
Supervision to reduce lending to early stage technology companies, the Bank sold
the technology lending group to Comerica in January 2002. Approximately 25
commercial business loan relationships with balances totaling $23.3 million were
sold to Comerica. The sale also included one loan relationship amounting to $2.3
million which was classified as commercial real estate loan. Also included in
the sale were related customer deposits and warrants to purchase common stock of
these companies. At December 31, 2002, the Bank's TechBanc loan portfolio
consisted of approximately 12 commercial business loan relationships with an
aggregate balance of $3.5 million outstanding (of which $2.6 million are
impaired loans); the largest loan relationship had an outstanding balance of
$1.2 million.
In addition to providing financing to pre-profit companies, the Company
often obtained an equity position in the borrower in the form of warrants to
purchase common stock of the borrower. At December 31, 2002, the Company held
warrants to purchase common stock of 25 companies that were customers of
TechBanc. Warrants to purchase common stock of an additional 14 companies were
included in the sale to Comerica. The Company generally recognizes client
warrant income on such investments when such common stock is publicly traded and
any applicable restriction or lock-up period on the sale of the warrants or the
common stock expires. At December 31, 2002 there is no carrying value for client
warrants. There can be no assurance that the common stock of any of these
companies will become publicly traded or that the common stock will trade at or
above the warrant exercise price. Under the agreement of sale with Comerica, if
any of the warrants sold are exercised, Comerica will pay the Company 20% of the
net warrant value within thirty days ("initial payment"). Twelve months after
the initial payment is made, Comerica will pay the Company an additional 20% of
the net warrant value minus any losses. During 2002, Comerica paid the Company
an initial payment of $20,000 under this agreement. The Company entered into a
warrant participation agreement with now-former employees of TechBanc
("participants") under which the Company will pay the participants 10% of the
net proceeds (net cash received on the exercise of client warrants less 25% of
the net charge-offs on the TechBanc loan portfolio for the previous year)
received by December 31, 2003 on selected exercised warrants. During 2002, the
Company paid $117,000 under this warrant participation agreement.
The following is a brief description of the companies in which the
Company held warrants at December 31, 2002 for which the underlying common stock
was publicly traded:
Axeda Systems Inc. ("Axeda") formerly Ravisent Technologies, Inc is a
DVD hardware and software company located in Malvern, Pennsylvania. The
Company holds warrants to purchase 62,500 shares of Axeda common stock
with an exercise price of $3.56 per share and an expiration date of
July 2005. Axeda went public at an initial offering price of $12.00 per
share of common stock on July 16, 1999. The trading of this stock, like
many Internet companies, is very volatile. Axeda closed at $.80 per
share on December 31, 2002.
4
Orthovita,Inc. ("VITA"), located in Malvern, Pennsylvania, is a
proprietary technologies company which develops synthetic, biologically
active, tissue engineering products for the restoration of the human
skeleton. The Company holds warrants to purchase 20,000 shares of VITA
common stock with an exercise prices ranging from $4.25 to $6.00 per
share and expiration dates ranging from November 2004 to April 2008.
VITA went public at an initial offering price of $10.50 per share of
common stock on June 25, 1998. VITA closed at $4.35 per share on
December 31, 2002.
Upon exercise of the warrant, the Company would generally be
prohibited, under Rule 144 of the Securities Act of 1933, from selling
or otherwise disposing of the stock acquired for a period of 12 months.
Commercial Real Estate Lending. The Bank originates mortgage loans
secured by multi-family residential and commercial real estate. Commercial real
estate loans originated by the Bank are primarily secured by office buildings,
retail stores, warehouses and general-purpose industrial space. Commercial real
estate loans also include multi-family residential loans, substantially all of
which are secured by apartment buildings. Significant portions of such loans are
secured by owner-occupied properties and relate to borrowers that have an
existing banking relationship with the Bank. Within Commercial Real Estate
Lending, the Real Estate Capital Markets Lending Program enables the Bank to
provide its real estate clients with non-recourse, long-term, fixed-rate
alternatives for all major types of income properties located within and outside
of the normal geographical lending area.
At December 31, 2002, the Bank's commercial real estate loan portfolio
consisted of approximately 390 loans with an aggregate principal balance of
approximately $199.7 million which included $3.6 million in Government
Guaranteed Lending loans. The Bank's largest commercial real estate loan had an
outstanding balance of $5.6 million. Although terms vary, commercial real estate
loans secured by existing properties generally have maturities of ten years or
less and interest rates which adjust every one, three or five years in
accordance with a designated index.
At December 31, 2002, substantially all of the Bank's commercial real
estate loan portfolio was secured by properties located within the eastern
Pennsylvania and New Jersey market area. Loan-to-value ratios on the Bank's
commercial real estate loans are limited to 80% or lower, except in certain
limited circumstances. In addition, as part of the criteria for underwriting
permanent commercial real estate loans, the Bank generally imposes a debt
service coverage ratio (the ratio of net cash from operations before payment of
debt service to debt service) of at least 1.2x. It is also the Bank's general
policy to obtain personal guarantees of its commercial real estate loans from
the principals of the borrower.
Commercial real estate lending is generally considered to involve a
higher degree of risk than single-family residential lending. Such lending
typically involves large loan balances concentrated in a single borrower or
groups of related borrowers. In addition, the payment experience on loans
secured by income-producing properties is typically dependent on the successful
operation of the related real estate project and thus may be subject to a
greater extent to adverse conditions in the real estate market or in the economy
generally. The Bank generally attempts to offset the risks associated with
commercial real estate lending by, among other things, lending primarily in its
market area, periodically inspecting each property, using conservative
loan-to-value ratios in the underwriting process and obtaining financial
statements and rent rolls from all commercial and multi-family borrowers on at
least an annual basis.
The Company also conducts commercial mortgage banking and brokerage
services through Progress Realty Advisors, Inc. ("PRA"), a subsidiary of the
Bank, with offices in Blue Bell, Pennsylvania, and Shrewsbury, New Jersey. PRA
was formed as a complement to the Bank's commercial lending activities in order
to provide lending services for borrowers where borrowing needs are not
consistent with the Bank's lending operations due to, among other things, the
amount of financing required, geographic location of the borrower, recourse
provisions and business/banking relationships. PRA specializes in originating,
underwriting and closing commercial real estate financing for residential,
multi-family and commercial properties for other financial institutions,
insurance and finance companies for a fee.
Construction Lending. Through the Bank, the Company also offers both
residential construction loans and, to a lesser extent, commercial construction
loans. At December 31, 2002, the Company's construction loan portfolio consisted
of approximately 50 relationships with an aggregate principal balance of
approximately $87.7 million and the Company's largest construction loan had an
outstanding balance of $11.0 million, of which $5.3 million was participated to
other financial institutions on a non-recourse basis.
Construction loans generally offer the potential for higher yields and
afford the Company the opportunity to increase the interest rate sensitivity of
its loan portfolio. Construction financing is generally considered to involve a
higher degree of risk of loss than long-term financing on improved,
owner-occupied real estate. Risk of loss on a construction loan is dependent in
large part upon the accuracy of the initial estimate of the property's value at
completion of construction or development, the estimated cost (including
interest) of construction and the financial strength of the borrower. During the
construction phase, a number of factors could result in delays and cost
overruns. If the estimate of construction costs proves to be inaccurate, the
5
Company may be required to advance funds beyond the amount originally committed
to permit completion of the development. If the estimate of value proves to be
inaccurate, the Company may be confronted, at or prior to the maturity of the
loan, with a project having a value which is insufficient to assure full
repayment, in which case the Company would have to rely upon the borrower's
financial ability.
The Company generally attempts to address the additional risks
associated with construction lending by, among other things, limiting lending
primarily to its market area, periodically inspecting each property during the
construction period, using conservative loan-to-value ratios in the underwriting
process and generally requiring personal guarantees. At December 31, 2002,
substantially all of the Company's construction loans were secured by properties
located within the Company's primary market area. In addition, residential
construction loans are generally made for 75% or less of the appraised value of
the property upon completion. For owner-occupied construction/permanent loans,
the Bank will lend up to 80% of the lesser of the full appraised value or the
land plus costs. Moreover, the Company does not originate loans for the
construction of speculative (or unsold) single family residential properties.
Prior to making a commitment to fund a construction loan, the Company requires
an appraisal of the property by independent appraisers approved by the Board of
Directors.
Construction loans, including land loans, generally have maturities of
12 to 24 months (up to three years in the case of land loans). Interest rates on
construction loans generally adjust in accordance with a designated index.
Advances are generally made to cover actual construction costs, and generally
include a reserve for paying the stated interest due on the loan during the life
of the loan. Loan proceeds are disbursed as inspections of construction progress
warrants and as pre-construction sale and leasing requirements generally imposed
by the Company are met.
Single Family Residential Real Estate. The Bank, realizing the
extremely competitive nature of the residential lending arena, has aligned with
a mortgage broker to efficiently offer our customers residential loan products.
The mortgage broker is responsible for all aspects of the residential lending
function, however the Bank monitors this process and any loan purchased meets
the industry standard established by Fannie Mae ("FNMA"). At December 31, 2002
the Bank's single family residential real estate loan portfolio consisted of
approximately 190 loans with an aggregate outstanding balance of $26.9 million.
The Bank provides residential mortgage servicing on an additional 40 loans with
an aggregate outstanding balance of $2.7 million for other financial
institutions.
Consumer Lending. Subject to restrictions contained in applicable
federal laws and regulations, the Bank is authorized to make loans for a wide
variety of personal or consumer purposes. At December 31, 2002 the Bank's
consumer loan portfolio consisted of approximately 1,900 loans with an aggregate
outstanding balance of $50.1 million.
The Bank has been emphasizing a variety of consumer loans in recent
years in order to provide a full range of financial services to its customers
and because such loans generally have shorter terms and higher interest rates
than traditional first mortgage loans. The consumer loans offered by the Bank
include home equity loans and lines of credit, deposit account secured loans and
loans that are secured by personal property, including automobiles.
Home equity loans are originated by the Bank for up to 90% of the
appraised value, less the amount of any existing prior liens on the property.
The Bank also offers home equity lines of credit in amounts up to 90% of the
appraised value, less the amount of any existing prior liens. Home equity loans
have a maximum term of 15 years, and the interest rate is dependent upon the
term of the loan. The Bank secures the loan with a mortgage on the property
(generally a second mortgage) and will originate the loan even if another
institution holds the first mortgage.
Consumer loans generally have shorter terms and higher interest rates
than mortgage loans but generally involve more credit risk than mortgage loans
because of the type and nature of the collateral and, in certain cases, the
absence of collateral. In addition, consumer lending collections are dependent
on the borrower's continuing financial stability, and thus are more likely to be
adversely effected by job loss, divorce, illness and personal bankruptcy. In
most cases, any repossessed collateral for a defaulted consumer loan will not
provide an adequate source of repayment of the outstanding loan balance. The
Company believes that the generally higher yields earned on consumer loans
compensate for the increased credit risk associated with such loans and that
consumer loans are important to its efforts to increase rate sensitivity,
shorten the average maturity of its loan portfolio and provide a full range of
services to its customers.
Equipment Leasing. The Company ceased originating equipment leases in 2002. At
December 31, 2002, the Company's lease financing portfolio consisted of
approximately 1,907 leases with an outstanding aggregate balance of $17.4
million. This was a decrease of $20.1 million from the outstanding balance at
December 31, 2001 primarily due to the leasing operation being de-emphasized as
the result of the corporate simplification initiative. In December 2000, the
Company sold its Maryland-based leasing division resulting in the sale of $31.0
million of lease financing receivables.
6
Equipment lease financing was provided through the Bank's subsidiary,
Progress Leasing Company ("PLC") located in Blue Bell, Pennsylvania. The Company
provided leasing arrangements for essential-use equipment primarily to clients
within the market area. The Company provided lease financing for a wide variety
of business equipment, including computer systems, telephone systems, furniture,
landscaping and construction equipment, medical equipment, dry cleaning
equipment and graphic systems equipment.
For some of the Company's leases, the Company may retain the leased
property upon expiration of the lease based on the residual value, which
generally does not exceed 10% of the original cost. In the event that the
residual value is less than provided for in the lease, the Company may have a
loss related to the disposition of such property. However, because a majority of
the Company's leases are bought out or extended at the end of their terms, the
Company has not experienced any material losses in aggregate residual values to
date. The aggregate residual value of the Company's leasing portfolio was
$664,000 at December 31, 2002.
Private Equity Fund Management. Progress Capital Management, Inc. ("PCM"), a
subsidiary of the Company, manages Ben Franklin/Progress Capital Fund, L.P. (the
"Ben Franklin Fund") and provides consulting services to NewSpring Ventures,
L.P. ("NewSpring"). PCM earned management fees from these funds. PCM is exiting
the venture fund management business as the Company continues to redirect its
focus on community banking and due to the sale of TechBanc relationships to
Comerica.
The Ben Franklin Fund commenced operations in December 1997 and
provided subordinated debt financing to early-stage Mid-Atlantic based
technology companies. In addition, the Ben Franklin Fund generally
received warrants to purchase equity of the borrowers in connection
with such lending. The fund was closed for making new investments at
December 31, 2001 and is currently distributing its profits to limited
partners. At December 31, 2002 the Company's investment in the Ben
Franklin Fund was $988,000.
NewSpring, a $90 million equity Small Business Investment Company
formed in 1999, primarily invested in Mid-Atlantic companies with
significant growth potential, proven management and strategic
competitive advantage. PCM transferred the management of NewSpring on
December 31, 2001 to NewSpring Capital Management, Inc. which was
formed by the NewSpring operating partners. Additionally, as part of
the decision to exit the fund management business, the Company sold its
limited partnership interest in NewSpring to the Eastern Technology
Fund on December 31, 2001. The Company repurchased a 6.67% limited
partnership interest in NewSpring during the first quarter of 2002
which was required as part of the sale at December 31, 2001. At
December 31, 2002 the Company's investment in NewSpring was $9,000.
Insurance/Wealth Management. Progress Financial Resources, Inc. ("PFR"), a
subsidiary of the Company, commenced operations in January 1999. PFR, a Delaware
corporation headquartered in Philadelphia, Pennsylvania, is a comprehensive
wealth management company, serving high net-worth individuals, small business
owners and professionals. PFR offers investments, insurance, estate planning,
401(k) plans, executive compensation planning and retirement planning services.
PFR offers securities and insurance products, primarily but not exclusively,
through AXA Advisors, LLC (New York, NY). During 2001, Progress Financial
Advisors was created to provide fee-based financial planning and business
advisory services such as estate planning, succession planning, executive
compensation plan design and investment management. Beginning the second quarter
of 2002, new business generated through the Insurance/Wealth Management segment
has been through an agency arrangement with AXA Financial ("AXA") where the
sales personnel are dual employees of PFR and AXA.
Other Activities. Progress Capital, Inc. ("PCI"), a subsidiary of the Company,
was formed in 1996 and is the corporate general partner of the Ben Franklin Fund
and hold's the Company's equity interest in the Ben Franklin Fund. PCI holds the
equity interest in NewSpring. PCI also holds several investments in other
privately held companies amounting to $1.6 million at December 31, 2002.
Progress Development Corp ("PDC") was formed by the Company in February
1998 to invest in a joint venture partnership, Progress Development I L.P.,
which had acquired an interest in NewSeasons Assisted Living Communities
("NewSeasons") with Independence Blue Cross. NewSeasons owns, acquires, develops
and operates assisted living residences for the elderly. In addition, Progress
Development I L.P. provided fee based development, construction management and
financial services to NewSeasons and other investors. During the first quarter
of 2001, the Company sold its investment in New Seasons Assisted Living
Communities Series B and C preferred stock and at December 31, 2001, the Company
sold its interest in Progress Development I L.P. to Dewey Commercial Investors,
L.P. as the Company continues to focus on its core banking business.
KMR Management, Inc. ("KMR"), a Pennsylvania based corporation, was
acquired by the Company in January 2000. KMR provides fee-based management
consulting services to companies that are in transition or crisis. Working
primarily for companies with up to $50 million in sales, KMR takes an active
7
role in short-term management of its clients' businesses. Given the
counter-cyclical nature of its business, KMR's services are in greater demand
during periods of economic downturn.
Financial Information by Business Segment
The Company has four principal activities: Banking, Equipment Leasing,
Private Equity Fund Management and Insurance/Wealth Management. Emerging
operating segments not directly related to the four principal activities and
that do not currently meet the quantitative thresholds of a reportable segment
are aggregated under Other Segments. Intercompany business transactions, the
parent company and other non-operating segments are aggregated under Corporate.
The measurement of the performance of these business segments is based on the
Company's current management structure and is not necessarily comparable with
similar information for any other financial institution. The information
presented is also not necessarily indicative of each segment's financial
condition and results of operations if they were independent entities. The
following selected financial information by business segment is presented in
thousands of dollars:
Private Equity Insurance/
Equipment Fund Wealth Other
Banking Leasing (a) Management (b) Management (c) Segments Corporate Total
- ------------------------------------------------------------------------------------------------------------------------------
Assets at:
December 31, 2002 $986,455 $18,262 $ 44 $ 521 $ 595 $ 11,967 $1,017,844
December 31, 2001 803,588 37,351 10 678 1,175 8,578 851,380
Revenues for the year ended:
December 31, 2002 39,295 1,989 247 2,761 904 (2,967) 42,229
December 31, 2001 38,303 3,764 2,428 3,059 2,022 (1,852) 47,724
December 31, 2000 33,376 9,058 2,230 4,566 1,058 1,107 51,395
Income from continuing
operations for the year ended:
December 31, 2002 7,519 (472) 61 -- (710) (2,402) 3,996
December 31, 2001 4,536 (625) 335 (179) 24 (3,348) 743
December 31, 2000 4,531 2,088 349 52 (85) (1,278) 5,657
(a) During the first quarter of 2002, management decided to stop originating
leases due to a change in business climate and subsequently significantly
reduced the staffing levels in the Equipment Leasing segment.
(b) At December 31, 2001, the Private Equity Fund Management segment exited the
venture fund management business.
(c) Beginning the second quarter of 2002, new business generated through the
Insurance/Wealth Management segment has been through an agency arrangement
with AXA where the sales personnel are dual employees of PFR and AXA.
Competition
The Company faces strong competition both in attracting deposits and
making loans. As a provider of a wide range of financial services, the Company
competes with national and state banks, savings and loan associations,
securities dealers, brokers, mortgage bankers, finance and insurance companies,
and other financial service companies. The ability of the Company to attract and
retain deposits depends on its ability to generally provide a rate of return,
liquidity and risk comparable to that offered by competing investment
opportunities. The Company competes for loans principally through the interest
rates and loan fees it charges and the efficiency and quality of services it
provides borrowers.
REGULATION AND SUPERVISION
General
The Company, as a unitary thrift holding company, is subject to
comprehensive examination, supervision and regulation by the Office of Thrift
Supervision ("OTS"). Because the Company was a unitary savings and loan holding
company on May 4, 1999, it is generally not restricted in the types of
investments and activities it may engage in at the holding company and
non-savings association affiliate levels; the Bank is subject to certain
restrictions in its dealings with the Company and affiliates thereof.
The Bank
Lending Restrictions
As a federally chartered savings bank, the Bank is subject to certain
lending restrictions. Commercial business loans are limited to 20% of the Bank's
assets; there is no limitation on the guaranteed portion of Small Business
Association ("SBA") commercial loans. Mortgage loans secured by non-residential
properties are limited to four times the Bank's risk-based capital. Consumer
8
loans are subject to a limitation of 35% of the Bank's assets. Under federal
regulations financing leases are either considered loans, in which case they are
accordingly classified as and aggregated with commercial, consumer or
agricultural loans based upon the underlying collateral or personal property, or
as operating leases which are subject to a separate 10% of assets limitation.
The Company's financing leases may be considered operating leases under these
federal regulations and hence subject to the separate 10% limitation. At
December 31, 2002, the Bank was in compliance with all loan limitations.
The Bank is also limited, under federal regulation, in the amount it
can lend to one borrower. At December 31, 2002, the Bank's loans-to-one-borrower
limit was approximately $12.6 million. The Bank was in compliance with this
limitation at December 31, 2002.
Insurance of Deposits
The Bank's deposits are insured by the Savings Association Insurance
Fund ("SAIF") to a maximum of $100,000 for each depositor. The Federal Deposit
Insurance Corporation ("FDIC") requires an annual audit by independent
accountants and may also examine the Bank.
Federal law requires that the FDIC maintain the reserve level of each
of the SAIF and the Bank Insurance Fund ("BIF") at 1.25% of insured deposits.
Deposit insurance premiums in 2002 averaged 1.75 cents per $100 of deposits
compared to an average 1.90 cents per $100 of deposits in 2001 and 2.07 cents
per $100 of deposits in 2000. Deposit insurance is payable on a quarterly basis.
Qualified Thrift Lender Test
All savings associations are required to meet a qualified thrift lender
("QTL") test set forth in Section 10(m) of the Home Owners' Loan Act ("HOLA")
and regulations of the OTS there under to avoid certain restrictions on their
operations. A savings association qualifies as a QTL if it is a domestic
building and loan association under the Internal Revenue Code of 1986 or if 65%
or more of its "portfolio assets" (as defined) consist of certain housing, small
business, and consumer related assets on a monthly average basis in 9 out of
every 12 months.
The Bank complied with this test for 2002. At December 31, 2002,
approximately 84% of the Bank's assets were invested in qualified thrift
investments, which were in excess of the percentage required to qualify under
the QTL test.
Federal Home Loan Bank System
The Bank is a member of the Federal Home Loan Bank of Pittsburgh
("FHLB"), which administers the home financing credit function and serves as a
source of liquidity for member savings associations, commercial banks and other
eligible institutions within its assigned region. It makes loans to members
(i.e., advances) in accordance with policies and procedures established by its
Board of Directors. As of December 31, 2002, the Bank's advances from the FHLB
amounted to $135.5 million.
As a member, the Bank is required to purchase and maintain stock in the
FHLB in an amount equal to the greater of 5% of its FHLB advances plus .5% of
its unused FHLB borrowing capacity. At December 31, 2002, the Bank had $8.4
million in FHLB stock, which was in compliance with this requirement.
Federal Limitations on Transactions with Affiliates
Transactions between a savings association and any affiliate are
governed by Section 23A and 23B of the Federal Reserve Act. In addition to the
restrictions imposed, no savings association may (i) loan or otherwise extend
credit to an affiliate, except for any affiliate which engages only in
activities which are permissible for bank holding companies, or (ii) purchase or
invest in any stocks, bonds, debentures, notes, or similar obligations of any
affiliate, except for affiliates which are subsidiaries of the savings
association.
In addition, 12 CFR Part 215 (Regulation O) of the Code of Federal
Regulations places restrictions on loans by the Bank to executive officers,
directors, and principal shareholders of the Company and the Bank. At December
31, 2002, the Bank was in compliance with this regulation.
9
Sarbanes-Oxley Act of 2002
On July 30, 2002, President George W. Bush signed into law the
Sarbanes-Oxley Act of 2002, which generally establishes a comprehensive
framework to modernize and reform the oversight of public company auditing,
improve the quality and transparency of financial reporting by those companies
and strengthen the independence of auditors. The new legislation's more
significant reforms are noted below.
o The new legislation creates a public company accounting oversight board
which is empowered to set auditing, quality control and ethics
standards, to inspect registered public accounting firms, to conduct
investigations and to take disciplinary actions, subject to Securities
Exchange Commission ("SEC") oversight and review. The new board will be
funded by mandatory fees paid by all public companies. The new
legislation also improves the Financial Accounting Standards Board,
giving it full financial independence from the accounting industry.
o The new legislation strengthens auditor independence from corporate
management by, among other things, limiting the scope of consulting
services that auditors can offer their public company audit clients.
o The new legislation heightens the responsibility of public company
directors and senior managers for the quality of the financial
reporting and disclosure made by their companies. Among other things,
the new legislation provides for a strong public company audit
committee that will be directly responsible for the appointment,
compensation and oversight of the work of the public company auditors.
o The new legislation contains a number of provisions to deter
wrongdoing. Chief executive officers ("CEO") and chief financial
officers ("CFO") will have to certify that company financial statements
fairly present the company's financial condition. If a misleading
financial statement later resulted in a restatement, the CEO and CFO
must forfeit and return to the company any bonus, stock or stock option
compensation received in the twelve months following the misleading
financial report. The new legislation also prohibits any company
officer or director from attempting to mislead or coerce an auditor.
Among other reforms, the new legislation empowers the SEC to bar
certain persons from serving as officers or directors of a public
company; prohibits insider trades during pension funds "blackout
periods;" directs the SEC to adopt rules requiring attorneys to report
securities law violations; and requires that civil penalties imposed by
the SEC go into a disgorgement fund to benefit harmed investors.
o The new legislation imposes a range of new corporate disclosure
requirements. Among other things, the new legislation requires public
companies to report all off-balance-sheet transactions and conflicts,
as well as to present any pro forma disclosures in a way that is not
misleading and in accordance with requirements to be established by the
SEC. The new legislation also accelerated the required reporting of
insider transactions, which now generally must be reported by the end
of the second business day following a covered transaction; requires
that annual reports filed with the SEC include a statement by
management asserting that it is responsible for creating and
maintaining adequate internal controls and assessing the effectiveness
of those controls; and requires companies to disclose whether or not
they have adopted an ethics code for senior financial officers, and, if
not, why not, and whether the audit committee includes at least one
"financial expert," a term which is to be defined by the SEC in
accordance with specified requirements. The new legislation also
requires the SEC, based on certain enumerated factors, to regularly and
systematically review corporate filings.
o The new legislation contains provisions which generally seek to limit
and expose to public view possible conflicts of interest affecting
securities analysts.
o Finally, the new legislation imposes a range of new criminal penalties
for fraud and other wrongful acts, as well as extends the period during
which certain types of lawsuits can be brought against the company or
its insiders.
Employees
As of December 31, 2002, the Company had a total of 268 full-time
equivalent employees. Employment at the Company's individual subsidiaries was as
follows: the Bank and its subsidiaries PLC and PRA had 242 full-time equivalent
employees; PFR had 24 full-time equivalent employees and KMR had 2 full-time
equivalent employees.
10
Available Information
The Company makes available free of charge on its website, its annual
report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form
8-K, and all amendments to those reports as soon as reasonably practicable after
such material is electronically filed with the Commission. The Company's website
address is www.progressbank.com.
Item 2. Properties
The Company's and the Bank's executive offices are located at 4 Sentry
Parkway, Suite 200, Blue Bell, Pennsylvania. The Bank conducts business from
nineteen Pennsylvania banking offices in Bridgeport, Plymouth Meeting, East
Norriton, Chestnut Hill, Conshohocken, Glenside, King of Prussia, Lansdale,
Norristown, Jeffersonville, Paoli, Lionville, Southampton, Trappe, Warrington,
Bensalem, Doylestown, Rosemont and the Andorra community of Philadelphia; seven
of which are owned and twelve are leased. The Bank also conducts business from
its banking office in Lambertville, NJ; which is owned. PRA has leased locations
in Blue Bell, PA and Shrewsbury, NJ. KMR has lease office space in Willow Grove,
PA. PFR leases its location in Philadelphia, PA and leases office space in Blue
Bell, PA.
Item 3. Legal Proceedings
The Company is involved in routine legal proceedings occurring in the
ordinary course of business which management, after reviewing the foregoing
actions with legal counsel, is of the opinion that the liability, if any,
resulting from such actions will not have a material effect on the financial
condition or results of operations of the Company.
On August 29, 2001, a shareholder's derivative action was filed
against the Company and its directors in the Delaware Chancery Court alleging
failure to comply with the Home Owners' Loan Act, insider trading, and breach of
their fiduciary duty. The plaintiff demands judgment against the Company and its
directors for the amount of damages sustained by the Company as a result of the
directors' breaches of fiduciary duty, awarding the plaintiff the costs and
disbursements of the actions, including expenses of the lawsuit and granting
such other and further relief as the Court may deem just and proper. The Company
believes that this action is without merit and is defending the action
vigorously. On December 7, 2001, the Company filed an Opening Brief and Motion
to Dismiss the Complaint, which the plaintiff filed an opposition to on January
25, 2002. On March 8, 2002, the Company filed a Reply Brief in support of its
motion to dismiss. Oral argument was held on April 24, 2002. The Company is
awaiting a ruling on its motion.
Item 4. Submissions of Matters to a Vote of Security Holders
Not applicable.
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters.
Progress Financial Corporation's common stock is traded on The Nasdaq
Stock MarketSM under the symbol "PFNC." At December 31, 2002 the Company had
approximately 1,800 holders of record.
Payment of cash dividends is subject to regulatory restrictions as
described in Note 20 of Notes to Consolidated Financial Statements. The Company
paid cash dividends the last two quarters of 2002 totaling $.10 and for the
first two quarters of 2001 totaling $.12 per share. The following table sets
forth the high and low closing prices, trading volumes and cash dividends per
share paid for the periods described.
2002 2001
---------------------------------------------------- --------------------------------------------------
Low High Volume Dividends Low High Volume Dividends
---------------------------------------------------- --------------------------------------------------
First Quarter $7.44 $ 9.65 758,700 $-- $7.06 $9.63 1,057,900 $.06
Second Quarter 8.61 10.40 804,600 -- 6.88 8.40 819,500 .06
Third Quarter 7.46 10.15 703,539 .05 5.60 7.94 629,200 --
Fourth Quarter 9.90 11.61 546,392 .05 5.90 7.60 485,300 --
The Equity Compensation Plan information table in the section
"Executive Compensation" appearing in the Company's definitive proxy statement
for the 2003 Annual Meeting to held on April 22, 2003 (the "Proxy Statement") is
incorporated herein by reference.
11
Item 6. Selected Consolidated Financial Data
Tabular information is presented in thousands of dollars except for share and
per share data. This data should be read in conjunction with the Notes to
Consolidated Financial Statements.
December 31, 2002 2001 2000 1999 1998
- -----------------------------------------------------------------------------------------------------------------------
Financial Condition
Investment and mortgage-backed securities:
Available for sale $ 359,290 $211,828 $205,166 $149,518 $164,368
Held to maturity 120,006 38,173 41,940 34,309 12,401
Loans and leases, net 459,350 495,025 535,712 497,738 394,246
Loans held for sale -- 25,587 -- -- 25,250
Real estate owned, net -- 1,533 1,750 66 --
Total assets 1,017,844 851,380 914,249 768,941 648,198
Deposits 691,538 629,523 617,543 521,439 408,162
Borrowings and subordinated debt 247,445 160,828 214,592 177,218 181,847
Shareholders' equity 66,729 50,599 50,160 47,809 41,554
Results of Operations
Interest income $53,235 $64,985 $67,028 $52,174 $45,329
Interest expense 26,325 35,650 37,082 27,027 24,043
Net interest income 26,910 29,335 29,946 25,147 21,286
Provision for loan and lease losses 3,814 7,116 4,416 3,548 959
Net interest income after provision for loan and lease 23,096 22,219 25,530 21,599 20,327
losses
Non-interest income 15,319 15,810 19,542 17,587 7,645
Non-interest expense 32,150 37,285 36,399 30,053 20,241
Income from continuing operations before income taxes
and cumulative effect of accounting change 6,265 744 8,673 9,133 7,731
Tax expense 2,269 200 3,016 3,101 2,816
Income from continuing operations before cumulative
effect of accounting change 3,996 544 5,657 6,032 4,915
Gain on sale of discontinued operations, net of tax -- -- 1,519 -- --
Income from discontinued operations, net of tax -- -- 123 639 111
Income before cumulative effect of accounting change 3,996 544 7,299 6,671 5,026
Cumulative effect of accounting change, net of tax
benefit -- -- -- -- (46)
Net income 3,996 544 7,299 6,671 4,980
Per Share Data
Basic income from continuing operations per common
share before cumulative effect of accounting change $ .60 $ .10 $ .98 $ 1.04 $ .92
Diluted income from continuing operations per common
share before cumulative effect of accounting change .59 .10 .95 .99 .84
Basic net income per common share .60 .10 1.26 1.15 .93
Diluted net income per common share .59 .10 1.22 1.10 .85
Dividends .10 .12 .21 .17 .12
Book value 9.85 9.11 8.82 8.26 7.45
Operating Data
Return on average assets .44% .06% .88% .98% .89%
Return on average shareholders' equity 6.38 1.04 15.16 15.47 13.78
Average shareholders' equity to average assets 6.93 5.82 5.78 6.33 6.42
Allowance for loan and lease losses to total loans and
leases 1.39 1.87 1.36 1.18 1.06
Non-performing assets as a percentage of total assets .54 1.28 .63 .75 .57
Interest rate spread 2.83 3.00 3.36 3.46 3.47
Net interest margin 3.23 3.52 3.92 3.99 4.02
Dividends declared as a percent of net income per share 16.95 120.00 17.21 15.45 14.12
Banking Office Data
Number of full service banking offices 20 20 16 14 11
12
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations.
Progress Financial Corporation (the "Company") is a unitary thrift
holding company that has five primary subsidiaries: Progress Bank (the "Bank"),
Progress Capital, Inc. ("PCI"), KMR Management, Inc. ("KMR"), Progress Financial
Resources, Inc. ("PFR") and Progress Capital Management, Inc. ("PCM"). The
Bank's primary operating subsidiaries are Progress Leasing Company ("PLC") and
Progress Realty Advisors, Inc. ("PRA").
The following discussion and analysis of financial condition and
results of operations should be read in conjunction with the Company's
Consolidated Financial Statements and accompanying notes. Certain
reclassifications have been made to prior years' data throughout the following
discussion and analysis for comparability with 2002 data.
This report on Form 10-K release contains forward-looking statements
that involve risks and uncertainties that could cause actual results to differ
materially from estimates. When used in filings by the Company with the
Securities and Exchange Commission, in the Company's press releases or other
public or shareholder communications, or in oral statements made with the
approval of an authorized executive officer, the words or phrases "will likely
result", "are expected to", "will continue", "is anticipated", "estimate",
"project", or similar expressions are intended to identify "forward-looking
statements" within the meaning of the Private Securities Litigation Reform Act
of 1995. Such statements are subject to certain risks and uncertainties
including changes in economic conditions in the Company's market area, changes
in policies by regulatory agencies, fluctuations in interest rates, demand for
loans in the Company's market area and competition that could cause actual
results to differ materially from historical earnings and those presently
anticipated or projected. The Company wishes to caution readers not to place
undue reliance on any such forward-looking statements, which speak only as of
the date made. The Company wishes to advise readers that the factors listed
above could affect the Company's financial performance and could cause the
Company's actual results for future periods to differ materially from any
opinions or statements expressed with respect to future periods in any current
statements.
Critical Accounting Policies
Accounting policies involving significant judgments and assumptions by
management, which have, or could have, a material impact on the carrying value
of certain assets or comprehensive income, are considered critical accounting
policies. The Company recognizes the following as critical accounting policies:
Allowance for Loan and Lease Losses, Goodwill and Other Intangible Asset
Impairment, Stock-Based Compensation, and Unrealized Gains and Losses on Debt
Securities Held for Sale.
Allowance for Loan and Lease Losses: The Company maintains an allowance
for loan and lease losses at a level management believes is sufficient to
provide for known and probable losses in the loan and lease portfolios at the
Banking and Equipment Leasing segments. Risks within the loan and lease
portfolio are analyzed on a continuous basis by the Company's officers, external
independent loan and lease review consultants, and by the Bank's Board of
Directors at each board meeting. Significant estimates are made by management in
determining the allowance for loan and lease losses. Consideration is given to a
variety of factors in establishing these estimates including current and
anticipated economic conditions, diversification of the loan portfolio,
delinquency statistics, results of internal loan reviews, borrowers' perceived
financial and managerial strengths, the adequacy of underlying collateral, the
dependence on collateral, or the strength of the present value of future cash
flows and other relevant factors. Since the allowance for loan and lease losses
is dependent, to a great extent, on general and other conditions that may be
beyond the Company's control, it is at least reasonably possible that the
Company's estimates of the allowance for loan and lease losses could differ
materially in the near term. Although management utilizes its best judgment in
providing for loan and lease losses, there can be no assurance that the Company
will not have to increase its provision for loan and lease losses in the future
as a result of adverse market conditions, future increases in non-performing
loans and leases, or for other reasons. Any such increase could adversely affect
the Company's results of operations. In addition, various regulatory agencies,
as an integral part of their examination process, periodically review the
allowance for loan and lease losses and the carrying value of its other
non-performing assets. Such agencies may require the Company to recognize
additions to its allowance for losses based on their judgments of information
available to them at the time of their examination. The Company and the Bank
were most recently examined by the Office of Thrift Supervision ("OTS") as of
December 31, 2002.
Goodwill and Other Intangible Asset Impairment: Quoted market prices
are not typically available in evaluating the Company's goodwill and other
intangible assets; therefore, the Company estimates the fair value of its
goodwill and other intangible assets using the present value of estimated future
cash flows. The Company's best estimate of the present value of cash flows may
not necessarily equate to the market value of the underlying asset. Goodwill and
other intangible assets are carried by the Banking, Equipment Leasing and Other
segments.
13
Stock-Based Compensation: Under SFAS No. 123 "Accounting for
Stock-Based Compensation" ("FAS 123"), companies had a choice whether to adopt
the fair value based method of accounting for stock-based compensation or remain
with the intrinsic value based method prescribed under APB Option No. 25,
"Accounting for Stock Issued to Employees" ("APB 25") but provide pro-forma
disclosures as if the fair value based method was applied. The Company chose the
intrinsic value based method under APB 25 and provides the pro-forma disclosures
required under FAS 123. In preparing the pro-forma disclosures, the Company
estimates the fair value of employee stock options using a pricing model that
takes into account the exercise price and expected life of the options, the
current price of the underlying stock and its expected volatility, the expected
dividends on the stock and the current risk-free interest rate for the expected
life of the option. The Company's best estimate of the fair value of a stock
option is based on expectations derived from historical experience and may not
necessarily equate to its market value when fully vested. Increasing numbers of
constituents are advocating that companies voluntarily adopt the fair value
based method under FAS 123. If the Company chose to adopt FAS 123, additional
expense, net of tax benefits, of approximately $252,000 would be recognized for
the Year 2002.
Unrealized Gains and Losses on Debt Securities Held for Sale: The
Company receives estimated fair values of debt securities from an independent
valuation service and brokers. In developing these fair values, the valuation
service and brokers use estimates of cash flows based on historical performance
of similar instruments in similar rate environments. Based on experience,
management is aware that estimated fair values of debt securities tend to vary
among brokers and other valuation services. In such instances, management will
use the average of multiple price indications. Debt securities held for sale are
carried at the Banking segment and are mostly comprised of mortgage-backed
securities.
Results of Operations--2002 Versus 2001
The Company reported net income of $4.0 million for the year ended
December 31, 2002, in comparison with $544,000 for the year ended December 31,
2001. Basic net income per common share was $.60 for 2002 and $.10 for 2001.
Fully diluted net income per common share was $.59 for 2002 and $.10 for 2001.
Income from continuing operations was $4.0 million for the year ended December
31, 2002, in comparison with $544,000 for the year 2001. Return on average
shareholders' equity was 6.38% and return on average assets was .44% for the
year ended December 31, 2002. For 2001, return on average shareholders' equity
was 1.04% and return on average assets was .06%.
Net Interest Income
Net interest income on tax-equivalent basis was $27.5 million for 2002,
a decrease of $2.3 million compared to $29.8 million for 2001. This decrease was
primarily due to the reduction in the net interest margin. There was a slight
increase in the positive variance between average interest-earning assets and
average interest-bearing liabilities of $3.9 million which resulted primarily
from higher volumes in mortgage-backed securities partially offset by decreased
commercial business loan volume as a result of the sale and payoffs of TechBanc
loans. The net interest margin was 3.23% for 2002 compared to 3.52% for 2001.
The margin has been negatively impacted by the decline in interest rates, the
sale and payoffs of TechBanc loans and runoff of the lease financing portfolio.
The Company reclassified its capital securities to debt and the related expense
from non-interest expense to interest on borrowings. This reclassification
reduced the net interest margin by 27 basis points for the years ended December
31, 2002 and 2001.
Provision for Loan and Lease Losses
The provision for loan and lease losses amounted to $3.8 million in
2002 compared to $7.1 million in 2001. The higher provision during 2001
reflected the reserve additions to address credit and economic concerns which
have now been reduced as a result of the sale of TechBanc loans to Comerica in
January 2002, the pay-off of higher risk credits and the resulting reduction in
the Company's classified assets. The ratio of the allowance for loan and lease
losses to total non-performing loans and leases was 118.65% and 106.28% at
December 31, 2002 and 2001, respectively.
Non-interest Income
Non-interest income for 2002 was $15.3 million compared to $15.8
million for 2001. Client warrant income was $1.9 million for 2002 primarily from
the sale of client warrants compared to losses of $1.9 million from client
warrants for 2001 due to the permanent impairment of equity securities received
from warrants. Fee income for 2002 decreased $3.6 million primarily due to a
reduction in the Company's business activities related to PCM, KMR and PLC
partially offset by an increase in service charges on deposits. A net gain on
sale of real estate of $1.6 million was recognized during 2002 resulting from
the sale of land and commercial real estate owned. Gain on sale of securities
for 2002 was $655,000, a decrease of $2.1 million compared to $2.8 million for
2001. Equity in unconsolidated entities was $88,000 for 2002 compared to a loss
of $634,000 for 2001.
14
During 2002, the Company recognized income from client warrants of $1.9
million. The Company had previously obtained rights to acquire stock (in the
form of warrants) in certain clients as part of negotiated credit facilities.
The receipt of warrants did not change the loan covenants or other collateral
control techniques employed by the Company to mitigate the risk of a loan
becoming non-performing, and collateral requirements on loans with warrants were
similar to lending arrangements where warrants were not obtained. Additional
information on warrants held by the Company can be found under "Business--
Banking--Commercial Business Lending."
Private equity fund management fees decreased $2.2 million from the
Company's subsidiary PCM as the Company exited the venture fund management
business at December 31, 2001. Consulting fees declined $1.1 million from the
Company's subsidiary KMR. Lease financing fees decreased $533,000 as the Company
winds down its discontinued leasing portfolio. Partially offsetting these
decreases were service charges on deposits which increased $1.1 million. This
41% growth is primarily attributable to new deposit products offered during the
first quarter of 2002.
Non-interest Expense
Total non-interest expense was $32.2 million for 2002, a decrease of
$5.1 million compared to $37.3 million for 2001. Salaries and employee benefits
decreased by $3.1 million in 2002 mainly due to the Company exiting the fund
management, TechBanc and Asset-Based Lending businesses, lower staffing levels
at Progress Leasing Company and decreased commission volume for Progress
Financial Resources, Inc. which were partially offset by additional expense to
support the Company's expanded community based banking strategy. Professional
services expenses decreased $1.1 million primarily due to a reduction in the
business activities of KMR Management, Inc. in 2002, Progress Capital
Management, Inc. exiting the fund management business and legal expenses related
to collecting loans to pre-profit companies during 2001. Other expenses
decreased $600,000 in 2002 primarily due to broker expenses and write-downs of
used asset inventory for Progress Leasing Company during 2001.
Income Tax Expense
The Company recorded income tax expense from continuing operations
of $2.3 million during 2002 compared to $200,000 in 2001. The changes in income
tax expense were primarily due to changes in taxable income.
Results of Operations--2001 Versus 2000
The Company reported net income of $544,000 for the year ended December
31, 2001, in comparison with $7.3 million for the year 2000. Basic net income
per common share was $.10 for 2001 and $1.26 for 2000. Fully diluted net income
per common share was $.10 for 2001 and $1.22 for 2000. Income from continuing
operations was $544,000 for the year ended December 31, 2001, in comparison with
$5.7 million for the year 2001. During 2000, the Company sold the assets of
Procall Teleservices, Inc., its teleservices operations, resulting in a gain of
$2.5 million pretax, $1.5 million net of tax, or diluted earnings per share of
$.25. Return on average shareholders' equity was 1.04% and return on average
assets was .06% for the year ended December 31, 2001. For 2000, return on
average shareholders' equity was 15.16% and return on average assets was .88%.
Net Interest Income
Net interest income on tax-equivalent basis decreased to $29.8 million
for 2001, in comparison with $30.3 million for 2000. Although there was a $12.7
million increase in the positive variance between average interest-earning
assets and average interest-bearing liabilities resulting from higher volumes in
mortgage-backed securities partially offset by increased deposit volume, this
was offset by the reduction in the net interest margin. The net interest margin
was 3.52% for 2001 compared to 3.92% for 2000. The margin was compressed by an
environment of decreases in short-term rates during 2001 of 475 basis points.
The Company reclassified its capital securities to debt and the related expense
from non-interest expense to interest on borrowings. This reclassification
reduced the net interest margin by 27 basis points and 25 basis points,
respectively, for the years ended December 31, 2001 and 2000.
Provision for Loan and Lease Losses
The provision for loan and lease losses amounted to $7.1 million in
2001 compared to $4.4 million in 2000. The ratio of the allowance for loan and
lease losses to total non-performing loans and leases was 106.28% and 183.61% at
December 31, 2001 and 2000, respectively.
15
Non-interest Income
Non-interest income was $15.8 million in 2001, a decrease of $3.7
million compared to $19.5 million for 2000. This decrease was primarily due to
the recognition of a $1.9 million loss from client warrants during 2001 compared
with a gain of $3.5 million during 2000, fee income which decreased $1.2 million
and a gain on the sale of the Maryland-based leasing division of $1.7 million
during 2000 which was partially offset by gain on sale of securities which
increased $2.3 million and loss in unconsolidated entities which decreased $2.2
million.
The Company recognized a loss of $1.9 million from client warrants
during 2001 due to the permanent impairment of equity securities of U. S.
Interactive, Inc. (USIT) acquired upon the exercise of warrants. USIT filed for
protection under the bankruptcy court during 2001. The $1.9 million loss
represents the amount which was previously included in client warrant income
during 2000 related to market appreciation on these same warrants recorded in
accordance with FASB 133.
Mutual fund, annuity and insurance commissions from the Company's
subsidiary PFR decreased $1.5 million in 2001 compared to 2000. Loan, brokerage
and advisory fees decreased $874,000 from the Company's subsidiary PRA.
Partially offsetting these decreases were consulting fees generated by the
Company's subsidiary KMR which increased $1.0 million.
Gain on sale of securities increased $2.3 million during 2001 primarily
due to increased sale and purchase activity related to the change in the
financial markets and included a $708,000 gain on the disposition of the
Company's investment in NewSeasons Assisted Living Communities Series B and C
stock.
The loss in unconsolidated entities of $634,000 in 2001 primarily
relates to a loss on its investment in the NewSpring
Ventures capital fund of which the Company owned 20% and was accounted for under
the equity method. In December 2001, the Company recorded a gain on the sale of
investments in unconsolidated entities of $802,000. The Company's subsidiary,
PCI, sold its limited partnership interest in the NewSpring Ventures capital
fund resulting in a gain of $964,000 representing the amount by which the
Company had previously written down its investment. The Company's subsidiary,
PDC, sold its interest in Progress Development I, L.P. resulting in a loss of
$162,000. Additional information can be found under "Business-- Private Equity
Fund Management and Other Activities."
Non-interest Expense
Non-interest expense for 2001 amounted to $37.3 million compared to
$36.4 million in 2000. Professional services expense increased $1.2 million in
2001 primarily due to the business activities of KMR and legal expenses related
to collecting loans to pre-profit companies. Occupancy expense increased
$239,000 mainly due to the establishment of four new banking offices. Other
expenses increased $517,000 primarily due to write-offs related to PLC including
a write-down of used asset inventory for $422,000. Salaries and employee
benefits decreased $1.0 million in 2001 mainly due to lower commission expense
for PFR.
Income Tax Expense
The Company recorded income tax expense from continuing operations of
$200,000 during 2001 compared to $3.0 million in 2000. Income tax expense from
the gain on sale of and income from discontinued operations was $1.1 million
during 2000. The changes in income tax expense were primarily due to changes in
taxable income.
Liquidity and Funding
The Company must maintain sufficient liquidity to meet its funding
requirements for loan and lease commitments, scheduled debt repayments,
operating expenses, and deposit withdrawals. The Bank is the primary source of
working capital for the Company.
The Company's need for liquidity is affected by loan demand and net
changes in retail deposit levels. The Company can minimize the cash required
during the times of heavy loan demand by modifying its credit policies or
reducing its marketing efforts. Liquidity demand caused by net reductions in
retail deposits is usually caused by factors over which the Company has limited
control. The Company derives its liquidity from both its assets and liabilities.
Liquidity is derived from assets by receipt of interest and principal payments
and prepayments, by the ability to sell assets at market prices and by utilizing
unpledged assets as collateral for borrowings. Liquidity is derived from
liabilities by maintaining a variety of funding sources, including retail
deposits, FHLB borrowings and securities sold under agreement to repurchase.
16
At December 31, 2002, the total of approved loan commitments amounted
to $52.6 million, and the Company had $144.8 million of undisbursed loan funds.
At December 31, 2002, total FHLB borrowings that are scheduled to mature during
the 12 months ending December 31, 2003 totaled $15.0 million. At December 31,
2002, total securities purchased under agreement to resell which are scheduled
to mature during the 12 months ending December 31, 2003 totaled $81.1 million.
At December 31, 2002, the amount of time deposits that are scheduled to mature
within 12 months totaled $256.3 million, a substantial portion of which
management believes, on the basis of prior experience, will remain in the
Company.
Deposits are obtained primarily from residents near the Bank's ten
full-service offices in Montgomery County, one full-service office in Rosemont,
Delaware County, two full-service offices in Chester County, four full-service
offices in Bucks County, two full-service offices in Philadelphia County and one
full-service office in Lambertville, Hunterdon County, New Jersey. The Bank has
drive-up banking facilities at thirteen of its offices and has installed ATM's
at all of its offices and at four additional locations. The Bank offers a wide
variety of options to its customer base, including consumer and commercial
demand deposit accounts, negotiable order of withdrawal ("NOW") accounts, money
market accounts, passbook accounts, certificates of deposit and retirement
accounts.
As a member of the FHLB, the Bank is required to own capital stock in
the FHLB and is authorized to apply for advances on the security of such stock
and certain of its home mortgages and other assets (principally securities which
are obligations of, or guaranteed by, the United States), provided certain
standards related to creditworthiness have been met. Advances are made pursuant
to several different credit programs. Each credit program has its own interest
rate and range of maturities. Depending on the program, limitations on the
amount of advances are based either on a fixed percentage of a savings bank's
assets or on the FHLB's assessment of the savings bank's creditworthiness. The
FHLB credit policies may change from time to time at its discretion. The Bank's
maximum borrowing authority from the FHLB on December 31, 2002 was approximately
$451.8 million.
The Company's primary sources of funds have historically consisted of
deposits, amortization and prepayments of outstanding loans, FHLB borrowings and
securities sold under agreement to repurchase and sales of investment and
mortgage-backed securities. During 2002, the Company reinvested its working
capital primarily by purchasing mortgage-backed securities to maintain its
liquidity. During 2001, the Company used its working capital primarily to meet
its ongoing commitments to fund existing and continuing loan commitments, repay
short-term debt, fund deposit withdrawals and maintain its liquidity. For the
year ended December 31, 2002, cash was provided by operating activities. Cash
was used in investing activities primarily due to purchases of mortgage-backed
securities partially offset by sales and repayments on mortgage-backed
securities. Cash was provided by financing activities during 2002 primarily due
to increases in deposits and a net increase in short-term borrowings. For the
year ended December 31, 2001, cash was used in operating activities primarily
for the payment of other liabilities including a trade-date accounting entry for
the purchase of mortgage-backed securities. Cash was provided by investing
activities primarily due to the sales of and repayments on mortgage-backed
securities, partially offset by purchases of mortgage-backed securities. Cash
was used in financing activities during 2001 primarily due to a net decrease in
short-term borrowings. For the year ended December 31, 2000, cash was provided
by operating activities. Cash was used in investing activities as purchases of
mortgage-backed and investment securities, and net originations of loans
exceeded repayments and proceeds from sales, maturities and calls of
mortgage-backed and investment securities and proceeds from sales of loans,
lease receivables and the Maryland-based leasing division. Cash provided by
financing activities during 2000, primarily due to increases in deposits, offset
the outflows from investments activities.
Office of Thrift Supervision Directive
During July 2001, the Company's Board of Directors approved a
resolution to comply with the terms of a directive issued by the Office of
Thrift Supervision ("OTS") that required the Bank to (i) reduce its lending to
early stage technology companies; (ii) increase its leverage capital ratio to no
less than 8.0% and its total risk-basked capital ratio to no less than 14.0% by
April 1, 2002 through gradual compliance; and (iii) increase its valuation
allowance and implement improved credit review and monitoring programs. In
addition, the Company could not pay cash dividends on its capital stock until
the Bank achieved the required capital levels and had implemented an acceptable
capital plan. As such, the Company had suspended the quarterly cash dividend on
its common stock and its stock repurchase program and had undertaken measures to
achieve capital compliance as promptly as possible. The increased capital levels
reflect the Bank's level of business lending, particularly in the technology
sector, and continued economic concerns.
On February 7, 2002 the OTS approved the Company's revised Capital
Enhancement Plan and on June 25, 2002 the OTS agreed to extend the dates by
which the Bank must comply with the targeted ratio of classified assets to
capital. As revised, the Bank's classified assets to capital ratio could not
exceed 25% on September 30, 2002 and could not exceed 20% on March 31, 2003. The
Bank worked aggressively to reduce the ratio and comply with the terms of the
directive. The Company achieved the required capital levels at the Bank and both
the Company and the Bank are in full compliance with the OTS approved capital
plan. On July 30, 2002, the Company reinstated its quarterly cash dividend on
its common stock.
17
On October 23, 2002, the OTS released the Company and Progress Bank
from the Supervisory Directive and the Individual Minimum Capital Directive.
Capital Resources
The Federal Deposit Insurance Corporation Improvement Act of 1991
("FDICIA") was signed into law on December 19, 1991; regulations implementing
the prompt corrective action provision of FDICIA became effective on December
19, 1992. In addition to the prompt corrective action requirements, FDICIA
includes significant changes to the legal and insured depository institutions,
including reductions in insurance coverage for certain kinds of deposits,
increased supervision by the federal regulatory agencies, increased reporting
requirements for insured institutions, and new regulations concerning internal
controls, accounting, and operations. The prompt corrective action regulations
defined specific capital categories based on an institution's capital ratios.
The capital categories, in declining order, are "well capitalized," "adequately
capitalized," "undercapitalized," "significantly undercapitalized," and
"critically undercapitalized." To be considered "well capitalized," an
institution must generally have a tangible equity ratio of at least 2%, a Tier 1
or leverage capital ratio of at least 5%, a Tier 1 risk-based capital ratio of
at least 6%, and a total risk-based capital ratio of at least 10%. An
institution is deemed to be "critically undercapitalized" if it has a tangible
equity ratio of 2% or less.
At December 31, 2002, the Bank met all regulatory capital requirements.
At December 31, 2002, the Bank's leverage capital ratio was 7.82%, Tier 1
risk-based capital ratio was 14.09%, total risk-based ratio was 15.20% and
tangible equity ratio was 7.80%, based on leverage capital of $77.9 million,
Tier 1 risk-based capital of $77.9 million, total risk-based capital of $84.0
million, and tangible capital of $77.6 million, respectively. As of December 31,
2002, the Bank is classified as "well capitalized."
In December 2002, the Company issued $5.0 million of variable rate,
currently 4.76% (three-month LIBOR plus 3.35%, capped at 12.5% until January 7,
2008, the date on which the Company can call the capital securities) capital
securities due January 7, 2033 (the "Capital Securities IV") in a private
offering managed by Credit Suisse First Boston. The Capital Securities IV were
issued by the Company's recently formed subsidiary, Progress Capital Trust IV, a
statutory business trust created under the laws of Delaware. The Company is the
owner of all of the preferred and common securities of the Trust. The Trust
issued $5.0 million of Capital Securities IV (and together with the preferred
and common securities of the Trust, the "Trust Securities IV"), the proceeds
from which were used by the Trust, along with the Company's $155,000 capital
contribution for the Common Securities, to acquire $5.2 million aggregate
principal amount of the Company's Junior Subordinated Debentures due January 7,
2033 (the "Debentures"), which constitute the sole assets of the Trust. The
Company has fully, irrevocably and unconditionally guaranteed all of the Trust's
obligations under the Capital Securities IV. Net proceeds from the sale of the
securities will be used for general purposes, including but not limited to,
repurchases of the Company's common stock under its existing stock repurchase
program.
In November 2002, the Company issued $10.0 million of variable rate,
currently 4.96% (three-month LIBOR plus 3.35%, capped at 12% until November 15,
2007, the date on which the Company can call the capital securities), capital
securities due November 8, 2032 (the "Capital Securities III") in a private
offering managed by Trapeza CDO I, LLC. The Capital Securities III were issued
by the Company's subsidiary, Progress Capital Trust III (the "Trust III"), a
statutory business trust created under the laws of Delaware. The Company is the
owner of all of the common securities of the Trust III (the "Common
Securities"). The Trust III issued $10.0 million of variable rate Capital
Securities III (and together with the Common Securities, the "Trust III
Securities"), the proceeds from which were used by the Trust III along with the
Company's $310,000 capital contribution for the Common Securities, to acquire
$10.3 million aggregate principal amount of the Company's variable rate Junior
Subordinated Notes due November 8, 2032 (the "Notes"), which constitute the sole
assets of the Trust III. The Company has fully, irrevocably and unconditionally
guaranteed all of the Trust III's obligations under the Capital Securities III.
Net proceeds from the sale of the capital securities were used for general
purposes, including but not limited to, the retirement of the subordinated
debentures, retirement of previously issued capital securities and for
repurchases of the Company's common stock under its existing stock repurchase
program.
In July 2000, the Company issued 6,000 shares, or $6.0 million, of
11.445% trust preferred securities, $1,000 liquidation amount per security, due
July 19, 2030 (the "Capital Securities II"), in a private offering managed by
First Union Securities, Inc. The Capital Securities II represent undivided
beneficial interests in Progress Capital Trust II (the "Trust II"), a statutory
business trust created under the laws of Delaware, which was established by the
Company for the purpose of issuing the Capital Securities II. The Company has
fully, irrevocably and unconditionally guaranteed all of the Trust II's
obligations under the Capital Securities II. Net proceeds from the sale of the
securities were used for general purposes, including but not limited to, capital
contributions to the Bank to fund its growth and for repurchases of the
Company's common stock under its existing stock repurchase program.
18
During 1997 the Company issued $15.0 million of 10.5% capital
securities due June 1, 2027 (the "Capital Securities"). The Capital Securities
were issued by the Company's recently formed subsidiary, Progress Capital Trust
I, a statutory business trust created under the laws of Delaware. The Company is
the owner of all of the common securities of the Trust (the "Common
Securities"). The Trust issued $15.0 million of 10.5% Capital Securities (and
together with the Common Securities, the "Trust Securities"), the proceeds from
which were used by the Trust, along with the Company's $464,000 capital
contribution for the Common Securities, to acquire $15.5 million aggregate
principal amount of the Company's 10.5% Junior Subordinated Deferrable Interest
Debentures due June 1, 2027 (the "Debentures"), which constitute the sole assets
of the Trust. The Company has, through the Declaration of Trust establishing the
Trust, Common Securities and Capital Securities Guarantee Agreements, the
Debentures and a related Indenture, taken together, fully irrevocably and
unconditionally guaranteed all of the Trust's obligations under the Trust
Securities. The Company contributed approximately $6.0 million of the net
proceeds to Progress Bank, to increase its regulatory capital ratios and support
the growth of the expanded lending operations. Net proceeds retained by the
Company were used for general purposes, including investments in other
subsidiaries and potential future acquisitions. During 2002, the Company retired
$6.3 million of the capital securities and recorded a loss on the extinguishment
of debt of $25,000.
Subsequently, on February 11, 2002, the Company closed a private
placement offering of common stock to accredited investors of 1,153,330 common
shares priced at $7.50 a share, totaling $8.6 million, resulting in net proceeds
of approximately $8.3 million. The Company contributed $4.2 million of the net
proceeds to the Bank to increase its regulatory capital ratios and to position
the Company for strong, solid growth as it continues to focus on community
banking strategy in 2002. The Company is in compliance with the capital targets
set forth in the directive.
Statistical Information
Statistical information is furnished pursuant to the requirements of
Guide 3 (Statistical Disclosure by Bank Holding Companies) promulgated under the
Securities Act of 1933. Tabular information is provided in thousands of dollars
except for share and per share data.
19
Distribution of Average Assets, Liabilities and Shareholders' Equity
The following table sets forth, for the periods indicated,
tax-equivalent information regarding (i) the total dollar amount of interest
income on average interest-earning assets and the resultant average yield; (ii)
the total dollar amount of interest expense on average interest-bearing
liabilities and the resultant average cost; (iii) net interest income; (iv)
interest rate spread; and (v) net interest margin. Information is based on
average daily balances during the indicated periods. For the purposes of this
table, non-accrual loans have been included in the appropriate average balance
category.
For the years ended December 31, 2002 2001 2000
- ------------------------------------------------------------------------------------------------------------------------------
Average Yield/ Average Yield/ Average Yield/
Balance Interest Rate Balance Interest Rate Balance Interest Rate
---------------------------------------------------------------------------------------
Interest-earning assets:
Interest-earning deposits $ 14,588 $ 219 1.50% $ 25,606 $ 945 3.69% $ 21,244 $ 1,320 6.21%
Securities:
Trading securities -- -- -- -- -- -- 264 -- --
Taxable investment securities(1) 26,509 1,447 5.46 33,769 2,127 6.30 50,709 3,507 6.92
Tax-exempt investment
securities(2) 20,032 1,522 7.60 14,850 1,156 7.78 14,820 923 6.23
Mortgage-backed securities (1) 310,517 16,929 5.45 218,012 13,935 6.39 145,056 10,461 7.21
-------- ------- ----- -------- ------- ----- -------- ------- -----
Total securities 357,058 19,898 5.57 266,631 17,218 6.46 210,849 14,891 7.06
Loans:
Commercial business loans(2)(3) 97,606 5,699 5.84 175,959 14,642 8.32 146,332 13,801 9.43
Commercial real estate loans(2)(3) 195,807 14,986 7.65 190,313 16,191 8.51 170,180 14,980 8.80
Construction loans 84,376 5,421 6.42 69,889 6,075 8.69 54,435 5,944 10.92
Single family residential real
estate loans 27,438 1,904 6.94 31,312 2,633 8.41 39,078 2,991 7.65
Consumer loans 46,660 2,854 6.12 40,714 2,994 7.35 37,538 3,049 8.12
Lease financing(2) 27,717 2,817 10.16 45,518 4,750 10.44 93,615 10,446 11.16
-------- ------- ----- -------- ------- ----- -------- ------- -----
Total loans 479,604 33,681 7.02 553,705 47,285 8.54 541,178 51,211 9.46
-------- ------- ----- -------- ------- ----- -------- ------- -----
Total interest-earning assets 851,250 53,798 6.32 845,942 65,448 7.74 773,271 67,422 8.72
-------- ------- ----- -------- ------- ----- -------- ------- -----
Non-interest-earning assets:
Cash 15,401 16,568 16,762
Allowance for loan and lease losses (8,457) (8,956) (6,263)
Other assets 45,235 42,273 49,535
-------- -------- --------
Total non-interest-earning
assets 52,179 49,885 60,034
-------- -------- --------
Total assets $903,429 $895,827 $833,305
======== ======== ========
Interest-bearing liabilities:
Interest-bearing deposits:
NOW and Super NOW $107,385 1,310 1.22 $113,406 2,844 2.51 $ 91,975 3,119 3.39
Money market accounts 81,281 1,716 2.11 42,382 1,112 2.62 37,223 1,172 3.15
Passbook and statement savings 32,373 311 .96 28,892 425 1.47 29,752 527 1.77
Time deposits 341,604 12,328 3.61 364,891 19,016 5.21 329,874 19,344 5.86
-------- ------- ----- -------- ------- ----- -------- ------- -----
Total interest-bearing deposits 562,643 15,665 2.78 549,571 23,397 4.26 488,824 24,162 4.94
Short-term borrowings 39,500 1,172 2.97 36,513 1,759 4.82 76,515 4,707 6.15
Long-term debt 130,591 7,258 5.56 145,566 8,216 5.64 108,752 6,306 5.80
Capital securities 20,554 2,230 10.85 20,245 2,278 11.25 17,795 1,907 10.71
-------- ------- ----- -------- ------- ----- -------- ------- -----
Total interest-bearing
liabilities 753,288 26,325 3.49 751,895 35,650 4.74 691,886 37,082 5.35
-------- ------- ----- -------- ------- ----- -------- ------- -----
Non-interest-bearing liabilities:
Non-interest-bearing deposits 79,853 77,352 72,626
Other liabilities 7,703 14,440 20,652
-------- -------- --------
Total non-interest-bearing
liabilities 87,556 91,792 93,278
-------- -------- --------
Total liabilities 840,844 843,687 785,164
Shareholders' equity 62,585 52,140 48,141
-------- -------- --------
Total liabilities and
shareholders' equity $903,429 $895,827 $833,305
======== ======== ========
Net interest income $27,473 $29,798 $30,340
======= ======= =======
Interest rate spread (4) 2.83% 3.00% 3.36%
Effect of net interest-free funding
sources(5) .40 .52 .56
------ ------ ------
Net interest margin (6) 3.23% 3.52% 3.92%
====== ====== ======
Average interest-earning assets to
average interest-bearing
liabilities 113.00% 112.51% 111.76%
====== ====== ======
(1) Includes investment and mortgage-backed securities classified as available
for sale. Yield information does not give effect to changes in fair values
that are reflected as a component of shareholders' equity.
(2) Interest income and rates are presented on a tax-equivalent basis, assuming
a federal income tax rate of 34%.
(3) Includes loans held for sale.
(4) Represents the difference between the weighted average yield on
interest-earning assets and the weighted average cost of interest-bearing
liabilities.
(5) Represents the effect on the net interest margin of the difference between
non-interest-earning assets and non-interest-bearing liabilities and
shareholders' equity.
(6) Represents net interest income divided by average interest-earning assets.
20
Rate/Volume Analysis
The following table presents the degree to which changes in the
Company's tax-equivalent interest income, interest expense and net interest
income are attributable to changes in the average amount of interest-earning
assets and interest-bearing liabilities outstanding and/or to changes in rates
earned or paid thereon. The net change attributable to both volume and rate has
been allocated proportionately. Amounts in brackets represent a decrease in
interest income or expense.
--------------------------------------------------------------------------------------------------------
For the years ended December 31, 2002 vs. 2001 2001 vs. 2000
--------------------------------------------------------------------------------------------------------
Volume Rate Total Volume Rate Total
------------------------------------------------------------
Interest-earning assets:
Interest-earning deposits ($ 305) ($421) ($726) $ 234 ($609) ($375)
Securities:
Taxable investment securities (419) (261) (680) (1,088) (292) (1,380)
Tax-exempt securities 394 (28) 366 2 231 233
Mortgage-backed securities 5,266 (2,272) 2,994 4,773 (1,299) 3,474
------ ------- ------- ------ ------- -----
Total securities 5,241 (2,561) 2,680 3,687 (1,360) 2,327
Loans:
Commercial business (5,357) (3,586) (8,943) 2,586 (1,745) 841
Commercial real estate loans 460 (1,665) (1,205) 1,720 (509) 1,211
Construction loans 1,114 (1,768) (654) 1,488 (1,357) 131
Single family residential real estate
loans (302) (427) (729) (635) 277 (358)
Consumer loans 402 (542) (140) 247 (302) (55)
Lease financing (1,809) (124) (1,933) (5,061) (635) (5,696)
------ ------- ------- ------ ------- -----
Total loans (5,492) (8,112) (13,604) 345 (4,271) (3,926)
--------------------------------------------------------------------------------------------------------
Interest income (556) (11,094) (11,650) 4,266 (6,240) (1,974)
--------------------------------------------------------------------------------------------------------
Interest-bearing liabilities:
Deposits:
NOW and Super NOW (144) (1,390) (1,534) 636 (911) (275)
Money market accounts 855 (251) 604 151 (211) (60)
Passbook and statement savings 46 (160) (114) (15) (87) (102)
Time deposits (1,151) (5,537) (6,688) 1,937 (2,265) (328)
------ ------- ------- ------ ------- -----
Total deposits (394) (7,338) (7,732) 2,709 (3,474) (765)
Short-term borrowings 134 (721) (587) (2,085) (863) (2,948)
Long-term debt (842) (116) (958) 2,088 (178) 1,910
Capital securities 34 (82) (48) 273 98 371
--------------------------------------------------------------------------------------------------------
Interest expense (1,068) (8,257) (9,325) 2,985 (4,417) (1,432)
--------------------------------------------------------------------------------------------------------
Net interest income $ 512 ($2,837) ($2,325) $1,281 ($1,823) ($542)
========================================================================================================
Investment and Mortgage-Backed Securities
Investment and mortgage-backed securities are comprised of the
following at December 31, 2002, 2001 and 2000:
Held to Maturity Available for Sale
-------------------------------------------------
Amortized Estimated Amortized Estimated
December 31, 2002 Cost Fair Value Cost Fair Value
-------------------------------------------------------------------------------------------------
FHLB stock $ 8,401 $ 8,401 $ -- $ --
U.S. agency obligations 3,330 3,382 10,653 10,666
Bank deposits -- -- 166 166
Corporate bonds -- -- 8,034 7,676
Municipal bonds 34,805 35,351 -- --
Equity investments -- -- 1,696 1,685
Mortgage-backed securities 73,470 74,834 333,139 339,097
-------------------------------------------------------------------------------------------------
Total investment and mortgage-backed
securities $120,006 $121,968 $353,688 $359,290
=================================================================================================
21
Held to Maturity Available for Sale
-------------------------------------------------
Amortized Estimated Amortized Estimated
December 31, 2001 Cost Fair Value Cost Fair Value
-------------------------------------------------------------------------------------------------
FHLB stock $ 6,500 $ 6,500 $ -- $ --
U.S. agency obligations 16,808 16,719 2,770 2,774
Bank deposits -- -- 440 440
Corporate bonds -- -- 1,919 1,545
Municipal bonds 14,865 14,801 -- --
Equity investments -- -- 1,923 1,923
Mortgage-backed securities -- -- 205,741 205,146
-------------------------------------------------------------------------------------------------
Total investment and mortgage-backed
securities $38,173 $38,020 $212,793 $211,828
=================================================================================================
Held to Maturity Available for Sale
-------------------------------------------------
December 31, 2000 Amortized Estimated Amortized Estimated
Cost Fair Value Cost Fair Value
-------------------------------------------------------------------------------------------------
FHLB stock $ 6,350 $ 6,350 $ -- $ --
U.S agency obligations 20,755 19,230 16,524 16,687
Bank deposits -- -- 447 447
Corporate bonds -- -- 1,913 1,570
Municipal bonds 14,835 14,645 -- --
Equity investments -- -- 5,436 2,994
Mortgage-backed securities -- -- 183,475 183,468
-------------------------------------------------------------------------------------------------
Total investment and mortgage-backed
securities $41,940 $40,225 $207,795 $205,166
=================================================================================================
The following table sets forth the contractual maturities of the
investment and mortgage-backed securities at December 31, 2002 by investment
type and the weighted average yield for each range of maturities. The yield on
municipal bonds is calculated on a tax-equivalent basis.
US Government Business Weighted
Agencies Corporations Municipalities Total Average Yield
-------------------------------------------------------------------------------------------------------------
Available for sale:
Due one year or less $ 8,657 $ 176 $ -- $ 8,833 1.08%
Due after one year through 5 years 2,009 6,306 -- 8,315 5.23
Due after 5 years through 10 years -- -- -- -- --
Due after 10 years -- 1,360 -- 1,360 2.51
Mortgage-backed securities 339,097 -- -- 339,097 5.91
Equity securities -- 1,685 -- 1,685 .03
-------------------------------------------------------------------------------------------------------------
Total available for sale $349,763 $9,527 $ -- $359,290 5.73%
=============================================================================================================
Held to maturity:
Due after 5 years through 10 years $ -- $ -- $ 785 $ 785 6.83%
Due after 10 years 3,331 -- 34,020 37,350 6.88
FHLB stock 8,401 -- -- 8,401 3.25
Mortgage-backed securities 73,470 -- -- 73,470 5.74
-------------------------------------------------------------------------------------------------------------
Total held to maturity $ 85,202 -- $34,805 $120,006 5.93%
=============================================================================================================
Loan and Lease Portfolio
The principal categories in the Company's loan and lease portfolio are
commercial business loans; commercial real estate loans, which are secured by
multi-family (over five units) residential and commercial real estate; loans for
the construction of single-family, multi-family and commercial properties,
including land acquisition and development loans; residential real estate loans,
which are secured by single-family (one to four units) residences; consumer
loans; and lease financing. Substantially all of the Company's mortgage loan
portfolio consists of conventional mortgage loans, which are loans that are
neither insured by the Federal Housing Administration nor partially guaranteed
by the Department of Veterans Affairs.
22
The Company's net loan and lease portfolio, including loans held for
sale, totaled $459.4 million at December 31, 2002 or 45.1% of its total assets,
a decrease of $61.2 million or 11.8% from the $520.6 million outstanding at
December 31, 2001.
The following table depicts the composition of the Company's loan and
lease portfolio, net of unearned income, at December 31 for the years indicated:
At December 31, 2002 2001 2000 1999 1998
- ------------------------------------------------------------------------------------------------------------------------------------
Amount Percent Amount Percent Amount Percent Amount Percent Amount Percent
----------------------------------------------------------------------------------------------------------
Commercial business(1) $ 83,994 18.03% $146,844 27.68% $175,972 32.40% $119,807 23.79% $ 92,737 21.87%
Commercial real estate(2) 199,672 42.87 197,394 37.21 178,874 32.93 162,588 32.28 134,380 31.69
Construction 87,728 18.83 77,380 14.58 60,172 11.08 58,813 11.68 44,546 10.51
Single family
residential mortgage 26,870 5.77 26,518 5.00 34,676 6.39 40,554 8.05 50,086 11.81
Consumer loans 50,105 10.76 44,821 8.45 37,242 6.86 34,918 6.93 28,738 6.78
Lease financing 17,444 3.74 37,572 7.08 56,183 10.34 86,985 17.27 73,499 17.34
----------------------------------------------------------------------------------------------------------
Total loans and leases 465,813 100.00% 530,529 100.00% 543,119 100.00% 503,665 100.00% 423,986 100.00%
====== ====== ====== ====== ======
Allowance for loan
and lease losses (6,463) (9,917) (7,407) (5,927) (4,490)
-------- -------- -------- --------