ITEM 1. BUSINESS
GENERAL
NORTHWEST BANCORP, INC.
Northwest Bancorp, Inc. is a Federal corporation formed on June 29, 2001, as the successor to a Pennsylvania corporation of the same name. Both the Federal corporation and its Pennsylvania predecessor are referred to as the "Company." The Company became the stock holding company of Northwest Savings Bank (the "Bank") in a transaction (the "Two-Tier Reorganization") that was approved by the Bank's stockholders in December of 1997, and completed in February of 1998. In the Two-Tier Reorganization, each share of the Bank's common stock was converted into and became a share of common stock of the Company, par value $0.10 per share (the "Common Stock"), and the Bank became a wholly-owned subsidiary of the Company. Northwest Bancorp, MHC (the "Mutual Holding Company"), which owned a majority of the Bank's outstanding shares of common stock immediately prior to completion of the Two-Tier Reorganization, became the owner of the same percentage of the outstanding shares of Common Stock of the Company immediately following the completion of the Two-Tier Reorganization. As of June 30, 2002, the primary activity of the Company was the ownership of all of the issued and outstanding common stock of the Bank and of Jamestown Savings Bank ("Jamestown"). Jamestown was formed in November of 1995 as a de novo New York-chartered savings bank headquartered in Jamestown, New York.
As of June 30, 2002, the Company, through the Bank and Jamestown, operated 126 community banking offices throughout its market area in northwest, southwest and central Pennsylvania, western New York, and eastern Ohio. The Company, through the Bank and its wholly owned subsidiaries, also operates 47 consumer lending offices throughout Pennsylvania and two consumer lending offices in New York. The Company has focused its lending activities primarily on the origination of loans secured by first mortgages on owner-occupied, one- to four-family residences. The Company, directly or through its subsidiaries, also emphasizes the origination of consumer loans, including home equity, second mortgage, education and other consumer loans. To a lesser extent, the Company also originates multifamily residential and commercial real estate loans and commercial business loans.
The Company's principal sources of funds are deposits, borrowed funds and the principal and interest payments on loans and marketable securities. The principal source of income is interest received from loans and marketable securities. The Company's principal expenses are the interest paid on deposits and the cost of employee compensation and benefits.
The Company's principal executive office is located at Liberty and Second Streets, Warren, Pennsylvania, and its telephone number at that address is (814) 726-2140.
NORTHWEST SAVINGS BANK
The Bank is a Pennsylvania-chartered stock savings bank headquartered in Warren, which is located in northwestern Pennsylvania. The Bank is a community-oriented institution offering traditional deposit and loan products, and through a subsidiary, consumer finance services. The Bank's mutual savings bank predecessor was founded in 1896. The Bank in its current stock form was established on November 2, 1994, as a result of the reorganization (the "Reorganization") of the Bank's mutual predecessor into a mutual holding company structure. At the time of the Reorganization, the Bank issued a majority of its to-be outstanding shares of common stock to the Mutual Holding Company (which was formed in connection with the Reorganization) and sold a minority of its to-be outstanding shares to stockholders other than the Mutual Holding Company in a stock offering conducted as part of the Reorganization.
The Bank's principal executive office is located at Liberty and Second Streets, Warren, Pennsylvania, and its telephone number at that address is (814) 726-2140.
JAMESTOWN SAVINGS BANK
Jamestown began operations on November 9, 1995 as a de novo New York-chartered stock savings bank. The bank was organized to engage in the retail savings bank business in the area surrounding Jamestown, New York, which is located in Chautauqua County.
Jamestown was capitalized through an initial public offering of 761,866 shares of common stock, including 400,000 shares that were purchased by the Mutual Holding Company. The Mutual Holding Company continued to accumulate additional ownership in Jamestown and in February 1998 sold its entire ownership position, consisting of 490,050 shares, to the Company. On July 8, 1998 the Company conducted a tender offer for the remaining shares of Jamestown, and acquired 100% of the outstanding shares of Jamestown as of July 31, 1998.
As of June 30, 2002, Jamestown had six offices in western New York.
MARKET AREA
The Company has been, and intends to continue to be, an independent community-oriented financial institution offering a wide variety of financial services to meet the needs of the communities it serves. The Company is headquartered in Warren, Pennsylvania which is located in the northwestern region of Pennsylvania, and the Company has its highest concentration of deposits and loans in the portion of its office network located in northwestern Pennsylvania. Since the early 1990s, the Company has expanded, primarily through acquisitions, into the southwestern and central regions of Pennsylvania. As of June 30, 2002, the Company operated in Pennsylvania 116 community banking offices and 47 consumer finance offices located in the counties of Allegheny, Armstrong, Bedford, Berks, Blair, Butler, Cambria, Cameron, Centre, Chester, Clarion, Clearfield, Clinton, Columbia, Crawford, Cumberland, Dauphin, Elk, Erie, Fayette, Forest, Huntingdon, Indiana, Jefferson, Lancaster, Lawrence, Lebanon, Luzerne, Lycoming, McKean, Mercer, Mifflin, Northumberland, Potter, Schuylkill, Tioga, Venango, Warren, Washington, Westmoreland and York. These 41 counties, which comprise 66% of the counties in Pennsylvania, are primarily experiencing a flat to declining growth rate in total population. In addition, like most of Pennsylvania, approximately 40% of the total population is 45 years old or older with approximately 25% of the population under the age of 18. Per capita income in these counties averages approximately $20,500 and the median house value is $74,500. Pennsylvania, like most of the nation, is experiencing an economic slowdown with unemployment rising from 4.6% in May 2001 to 5.7% in May 2002 which is slightly below the national average of approximately 5.8%. Most of the communities the Company serves, while showing improvement, are still dependent on the manufacturing sector which accounts for approximately 15.7% of all Pennsylvania jobs compared to the national average of 13.5%. This sector has been hardest hit by the downturn in the economy and has seen an increase in foreign competition. Bankruptcy filings have also increased with 10.6 out of every 1,000 people in Pennsylvania filing for bankruptcy protection which is below the national average of 13.5 out of every 1,000 people. In addition, the Company operated in Ohio four community banking offices located in the counties of Ashtabula, Geauga and Lake. Through Jamestown, the Company operated in New York six community banking offices located in the counties of Chautauqua, Erie and Cattaraugus. The Company, through the Bank and its subsidiaries, also operates two consumer finance offices in southwestern New York.
LENDING ACTIVITIES
GENERAL. Historically, the principal lending activity of the Company has been the origination, for retention in its portfolio, of fixed-rate and, to a lesser extent, adjustable-rate mortgage loans collateralized by one- to four-family residential real estate located in its market area. To a lesser extent, the Company also originates loans collateralized by multifamily residential and commercial real estate, construction loans, commercial business loans and consumer loans.
In an effort to manage interest rate risk, the Company has sought to make its interest-earning assets more interest rate sensitive by originating adjustable-rate loans, such as adjustable-rate mortgage loans, home equity loans, and education loans, and by originating short-term and medium-term fixed-rate consumer loans. The Company also purchases mortgage-backed securities that generally have adjustable interest rates. Because the Company also originates a substantial amount of long-term fixed-rate mortgage loans collateralized by one- to four-family residential real estate, when possible, such loans are originated and underwritten according to standards that allow the Company to sell them in the secondary mortgage market for purposes of managing interest-rate risk and liquidity. The Company currently sells in the secondary market a limited amount of fixed-rate residential mortgage loans with maturities of more than 15 years, and retains all adjustable-rate mortgage loans and fixed-rate residential mortgage loans with maturities of 15 years or less. The Company is primarily a portfolio lender and at any one time the Company holds only a nominal amount of loans identified as available-for-sale. The Company retains servicing on the mortgage loans it sells and realizes monthly service fee income. The Company generally retains in its portfolio all consumer loans, multifamily residential and commercial real estate loans, and commercial business loans that it originates.
ANALYSIS OF LOAN PORTFOLIO. Set forth below are selected data relating to the composition of the Company's loan portfolio by type of loan as of the dates indicated.
- --------------------------------------- (1) Consist primarily of automobile loans and secured and unsecured personal loans.
FIXED- AND ADJUSTABLE-RATE LOANS. Set forth below are selected data regarding the dollar amounts of the Company's total loans represented by fixed- and adjustable-rate loans at the dates indicated.
LOAN MATURITY AND REPRICING SCHEDULE. The following table sets forth the maturity or period of repricing of the Company's loan portfolio at June 30, 2002. Demand loans and loans having no stated schedule of repayments and no stated maturity are reported as due in one year or less. Adjustable and floating-rate loans are included in the period in which interest rates are next scheduled to adjust rather than in which they contractually mature, and fixed-rate loans are included in the period in which the final contractual repayment is due.
FIXED- AND ADJUSTABLE-RATE LOAN SCHEDULE. The following table sets forth at June 30, 2002, the dollar amount of all fixed-rate and adjustable-rate loans due after June 30, 2003. Adjustable- and floating-rate loans are included in the table based on the contractual due date of the loan.
ONE- TO FOUR-FAMILY RESIDENTIAL REAL ESTATE LOANS. The primary lending activity of the Company consists of the origination for retention in the Company's portfolio of owner-occupied one- to four-family residential mortgage loans secured by properties located in the Company's market area.
The Company currently offers one- to four-family residential mortgage loans with terms typically ranging from 10 to 30 years, with either adjustable or fixed interest rates. Originations of fixed-rate mortgage loans versus adjustable-rate mortgage loans are monitored on an ongoing basis and are affected significantly by such things as the level of market interest rates, customer preference, the Company's interest rate sensitivity position and loan products offered by the Company's competitors. Therefore, even when management's strategy is to increase the originations of adjustable-rate mortgage loans, market conditions may be such that there is greater demand for fixed-rate mortgage loans.
The Company's fixed-rate loans, whenever possible, are originated and underwritten according to standards that permit sale in the secondary mortgage market. Whether the Company can or will sell fixed-rate loans into the secondary market, however, depends on a number of factors including the yield and the term of the loan, market conditions, and the Company's current liquidity and interest rate sensitivity position. The Company historically has been primarily a portfolio lender, and at any one time the Company has held only a nominal amount of loans that may be sold. The Company's current policy is to retain in its portfolio fixed-rate loans with terms of 15 years or less, and sell a limited amount of fixed-rate loans (servicing retained) with terms of more than 15 years. Moreover, the Company is more likely to retain fixed-rate loans if its interest rate sensitivity is within acceptable limits. The Company's mortgage loans are amortized on a monthly basis with principal and interest due each month. One- to four-family residential real estate loans often remain outstanding for significantly shorter periods than their contractual terms because borrowers may refinance or prepay loans at their option.
The Company currently offers adjustable-rate mortgage loans with initial interest rate adjustment periods of one, three and five years, based on changes in a designated market index. The Company determines whether a borrower qualifies for an adjustable-rate mortgage loan based on the fully indexed rate of the adjustable-rate mortgage loan at the
time the loan is originated. One- to four-family residential adjustable-rate mortgage loans totaled $42.5 million, or 1.4% of the Company's gross loan portfolio at June 30, 2002.
The primary purpose of offering adjustable-rate mortgage loans is to make the Company's loan portfolio more interest rate sensitive. However, as the interest income earned on adjustable-rate mortgage loans varies with prevailing interest rates, such loans may not offer the Company as predictable cash flows as long-term, fixed-rate loans. Adjustable-rate mortgage loans carry increased credit risk associated with potentially higher monthly payments by borrowers as general market interest rates increase. It is possible, therefore, that during periods of rising interest rates, the risk of default on adjustable-rate mortgage loans may increase due to the upward adjustment of interest costs to the borrower.
The Company's one- to four-family residential first mortgage loans customarily include due-on-sale clauses, which are provisions giving the Company the right to declare a loan immediately due and payable in the event, among other things, that the borrower sells or otherwise disposes of the underlying real property serving as security for the loan. Due-on-sale clauses are an important means of adjusting the rates on the Company's fixed-rate mortgage loan portfolio, and the Company has generally exercised its rights under these clauses.
Regulations limit the amount that a savings bank may lend relative to the appraised value of the real estate securing the loan, as determined by an appraisal at the time of loan origination. Appraisals are either performed by the Company's in-house appraisal staff or by an appraiser who has been deemed qualified by the Company's chief appraiser. Such regulations permit a maximum loan-to-value ratio of 95% for residential property and 80% for all other real estate loans. The Company's lending policies generally limit the maximum loan-to-value ratio on both fixed-rate and adjustable-rate mortgage loans without private mortgage insurance to 80% of the lesser of the appraised value or the purchase price of the real estate that serves as collateral for the loan. The Company makes a limited amount of one- to four-family real estate loans with loan-to-value ratios in excess of 80%. For one- to four-family real estate loans with loan-to-value ratios in excess of 80%, the Company generally requires the borrower to obtain private mortgage insurance on the entire amount of the loan. The Company requires fire and casualty insurance, as well as a title guaranty regarding good title, on all properties securing real estate loans made by the Company.
In the past, the Company purchased loans that are serviced by other institutions and that are secured by one- to four-family residences. At June 30, 2002, the Company's portfolio of loans serviced by others totaled $1.0 million. The Company currently has no formal plans to enter into new loan participations.
Included in the Company's $2.056 billion of one- to four-family residential real estate loans are construction loans of $53.7 million, or 1.7% of the Company's total loan portfolio. The Company offers fixed-rate and adjustable-rate residential construction loans primarily for the construction of owner-occupied one- to four-family residences in the Company's market area to builders or to owners who have a contract for construction. Construction loans are generally structured to become permanent loans, and are originated with terms of up to 30 years with an allowance of up to one year for construction. During the construction phase the loans have a fixed interest rate and convert into either a fixed-rate or an adjustable-rate mortgage loan at the end of the construction period. Advances are made as construction is completed. In addition, the Company originates loans within its market area that are secured by individual unimproved or improved lots. Land loans are currently offered with fixed-rates for terms of up to 10 years. The maximum loan-to-value ratio for the Company's land loans is 75% of the appraised value, and the maximum loan-to-value ratio for the Company's construction loans is 95% of the lower of cost or appraised value.
Construction lending generally involves a greater degree of credit risk than other one- to four-family residential mortgage lending. The repayment of the construction loan is often dependent upon the successful completion of the construction project. Construction delays or the inability of the borrower to sell the property once construction is completed may impair the borrower's ability to repay the loan.
MULTIFAMILY RESIDENTIAL AND COMMERCIAL REAL ESTATE LOANS. The Company's multifamily residential real estate loans are secured by multifamily residences, such as rental properties. The Company's commercial real estate loans are secured by nonresidential properties such as hotels, church property, and retail establishments. At June 30, 2002, a significant portion of the Company's multifamily residential and commercial real estate loans were secured by properties located within the Company's market area. The Company's largest multifamily residential real estate loan relationship at June 30, 2002, had a principal balance of $4.9 million, and was collateralized by a condominium project in Allegheny County, Pennsylvania. The Company's largest commercial real estate loan relationship at June 30, 2002, had a principal
balance of $9.3 million and was collateralized by nursing home facilities in northwestern, Pennsylvania. Multifamily residential and commercial real estate loans are offered with both adjustable interest rates and fixed interest rates. The terms of each multifamily residential and commercial real estate loan are negotiated on a case-by-case basis. The Company generally makes multifamily residential and commercial real estate loans up to 75% of the appraised value of the property collateralizing the loan.
Loans secured by multifamily residential and commercial real estate generally involve a greater degree of credit risk than one- to four-family residential mortgage loans and carry larger loan balances. This increased credit risk is a result of several factors, including the concentration of principal in a limited number of loans and borrowers, the effects of general economic conditions on income producing properties, and the increased difficulty of evaluating and monitoring these types of loans. Furthermore, the repayment of loans secured by multifamily residential and commercial real estate is typically dependent upon the successful operation of the related real estate property. If the cash flow from the project is reduced, the borrower's ability to repay the loan may be impaired.
CONSUMER LOANS. The principal types of consumer loans offered by the Company are adjustable-rate home equity lines of credit and variable-rate education loans, and fixed-rate consumer loans such as second mortgage loans, home equity loans, automobile loans, sales finance loans, unsecured personal loans, credit card loans, and loans secured by deposit accounts. Consumer loans are offered with maturities generally of less than ten years. The Company's home equity lines of credit are secured by the borrower's principal residence with a maximum loan-to-value ratio, including the principal balances of both the first and second mortgage loans, of 90% or less. Such loans are offered on an adjustable-rate basis with terms of up to ten years. At June 30, 2002, the disbursed portion of home equity lines of credit totaled $69.5 million, or 11.3%, of consumer loans, with $116.6 million remaining undisbursed.
The underwriting standards employed by the Company for consumer loans include a determination of the applicant's credit history and an assessment of ability to meet existing obligations and payments on the proposed loan. The stability of the applicant's monthly income may be determined by verification of gross monthly income from primary employment, and additionally from any verifiable secondary income. Creditworthiness of the applicant is of primary consideration; however, the underwriting process also includes a comparison of the value of the collateral in relation to the proposed loan amount, and in the case of home equity lines of credit, the Company obtains a title guarantee or an opinion as to the validity of title.
Consumer loans entail greater credit risk than do residential mortgage loans, particularly in the case of consumer loans that are unsecured or secured by assets that depreciate rapidly, such as automobiles, mobile homes, boats, recreation vehicles, appliances, and furniture. In such cases, repossessed collateral for a defaulted consumer loan may not provide an adequate source of repayment for the outstanding loan and the remaining deficiency often does not warrant further substantial collection efforts against the borrower. In particular, amounts realizable on the sale of repossessed automobiles may be significantly reduced based upon the condition of the automobiles and the lack of demand for used automobiles. The Company adds a general provision on a regular basis to its consumer loan loss allowance, based on general economic conditions and prior loss experience.
COMMERCIAL BUSINESS LOANS. The Company currently offers commercial business loans to existing customers to finance various activities in the Company's market area, some of which are secured in part by additional real estate collateral. The largest commercial business loan relationship had a principal balance of $5.5 million, and was secured by commercial real estate and inventory.
Commercial business loans are offered with both fixed and adjustable interest rates and with terms of up to 15 years. Underwriting standards employed by the Company for commercial business loans include a determination of the applicant's ability to meet existing obligations and payments on the proposed loan from normal cash flows generated by the applicant's business. The financial strength of each applicant also is assessed through a review of financial statements provided by the applicant.
Commercial business loans generally bear higher interest rates than residential loans, but they also may involve a higher risk of default since their repayment is generally dependent on the successful operation of the borrower's business. The Company generally obtains personal guarantees from the borrower or a third party as a condition to originating its commercial business loans.
LOAN ORIGINATIONS, SOLICITATION, PROCESSING, AND COMMITMENTS. Loan originations are derived from a number of sources such as real estate broker referrals, existing customers, borrowers, builders, attorneys, mortgage brokers and walk-in customers. All of the Company's loan originators are salaried employees, and the Company does not pay commissions in connection with loan originations. Upon receiving a loan application, the Company obtains a credit report and employment verification to verify specific information relating to the applicant's employment, income, and credit standing. In the case of a real estate loan, an in-house appraiser or an appraiser approved by the Company appraises the real estate intended to secure the proposed loan. A loan processor in the Company's loan department checks the loan application file for accuracy and completeness, and verifies the information provided. The Company has a formal loan policy which assigns lending limits to the Company's various loan officers. Also, the Company has a Credit Committee which meets as needed to review and verify that the assigned lending limits are being followed and to monitor the Company's lending policies and the Company's loan activity. The Company has a Senior Loan Committee which has lending authority as designated in the Company's loan policy that is approved by the Board of Directors. Loans exceeding the limits established for the Senior Loan Committee must be approved by the Executive Committee of the Board of Directors or by the entire Board of Directors. The Company's policy is to make no loans either individually or in the aggregate to one entity in excess of $7.5 million without prior approval from the Board of Directors. Fire and casualty insurance is required at the time the loan is made and throughout the term of the loan, and upon request of the Company, flood insurance may be required. After the loan is approved, a loan commitment letter is promptly issued to the borrower. At June 30, 2002, the Company had commitments to originate $74.6 million of loans.
If the loan is approved, the commitment letter specifies the terms and conditions of the proposed loan including the amount of the loan, interest rate, amortization term, a brief description of the required collateral and required insurance coverage. The borrower must provide proof of fire and casualty insurance on the property (and, as required, flood insurance) serving as collateral, which insurance must be maintained during the full term of the loan. A title guaranty, based on a title search of the property, is required on all loans secured by real property.
ORIGINATION, PURCHASE AND SALE OF LOANS. The table below shows the Company's originations of loans for the periods indicated.
LOAN ORIGINATION FEES AND OTHER INCOME. In addition to interest earned on loans, the Company generally receives loan origination fees. To the extent that loans are originated or acquired for the Company's portfolio, Statement of Financial Accounting Standards No. 91 requires that the Company defer loan origination fees and costs and amortize such amounts as an adjustment of yield over the life of the loan by use of the level yield method. Fees deferred under SFAS 91 are recognized into income immediately upon prepayment or the sale of the related loan. At June 30, 2002 the Company had $2.9 million of net deferred loan origination fees. Loan origination fees are volatile sources of income. Such fees vary with the volume and type of loans and commitments made and purchased, principal repayments, and competitive conditions in the mortgage markets, which in turn respond to the demand and availability of money.
In addition to loan origination fees, the Company also receives other fees, service charges, and other income that consist primarily of deposit transaction account service charges, late charges, credit card fees, and income from operations of real estate owned ("REO"). The Company recognized fees and service charges of $11.9 million, $10.0 million and $7.0 million, for the fiscal years ended June 30, 2002, 2001 and 2000, respectively.
LOANS-TO-ONE BORROWER. Savings banks are subject to the same loans-to-one borrower limits as those applicable to national banks, which under current regulations restrict loans to one borrower to an amount equal to 15% of unimpaired capital and unimpaired surplus on an unsecured basis, and an additional amount equal to 10% of unimpaired capital and
unimpaired surplus if the loan is secured by readily marketable collateral (generally, financial instruments and bullion, but not real estate). At June 30, 2002, the largest aggregate amount loaned by the Company to one borrower totaled $9.3 million and was secured by commercial real estate. The Company's second largest lending relationship totaled $8.1 million and was secured by land and real estate. The Company's third largest lending relationship totaled $5.9 million and was secured by commercial real estate. The Company's fourth largest lending relationship was for $5.5 million and was secured by commercial real estate and inventory. The Company's fifth largest lending relationship totaled $5.2 million and was secured by real estate, marketable securities and business personal property.
DELINQUENCIES AND CLASSIFIED ASSETS
COLLECTION PROCEDURES. The Company's collection procedures provide that when a loan is five days past due, a computer-generated late notice is sent to the borrower requesting payment. If delinquency continues, at 15 days a delinquent notice, plus a notice of a late charge, is sent and personal contact efforts are attempted, either in person or by telephone, to strengthen the collection process and obtain reasons for the delinquency. Also, plans to arrange a repayment plan are made. If a loan becomes 60 days past due, a collection letter is sent, personal contact is attempted, and the loan becomes subject to possible legal action if suitable arrangements to repay have not been made. In addition, the borrower is given information which provides access to consumer counseling services, to the extent required by regulations of the Department of Housing and Urban Development. When a loan continues in a delinquent status for 90 days or more, and a repayment schedule has not been made or kept by the borrower, generally a notice of intent to foreclose is sent to the borrower, giving 30 days to cure the delinquency. If not cured, foreclosure proceedings are initiated.
NONPERFORMING ASSETS. Loans are reviewed on a regular basis and are placed on a nonaccrual status when, in the opinion of management, the collection of additional interest is doubtful. Loans are automatically placed on nonaccrual status when either principal or interest is 90 days or more past due. Interest accrued and unpaid at the time a loan is placed on a nonaccrual status is charged against interest income.
Real estate acquired by the Company as a result of foreclosure or by deed in lieu of foreclosure is classified as REO until such time as it is sold. When real estate is acquired through foreclosure or by deed in lieu of foreclosure, it is recorded at its fair value, less estimated costs of disposal. If the value of the property is less than the loan, less any related specific loan loss reserve allocations, the difference is charged against the allowance for loan losses. Any subsequent write-down of REO is charged against earnings.
LOANS PAST DUE AND NONPERFORMING ASSETS. The following table sets forth information regarding the Company's loans 30 days or more past due, nonaccrual loans 90 days or more past due, and real estate acquired or deemed acquired by foreclosure at the dates indicated. Effective November 1998, the Company changed its policy so that a loan is considered past due if less than 90% of a contractually due payment has been paid. Prior to this change, a loan was considered past due only if no amount had been paid. As a result of this change, the Company recorded a significant increase in the amount of loans which were 90 days or more past due as of June 30, 1999. When a loan is delinquent 90 days or more, the Company fully reserves all accrued interest thereon and ceases to accrue interest thereafter. For all the dates indicated, the Company did not have any material restructured loans within the meaning of SFAS 15.
- ------------------------------------ (1) The Company classifies as nonperforming all loans 90 days or more delinquent.
During the fiscal year ended June 30, 2002, gross interest income of approximately $1.2 million would have been recorded on loans accounted for on a nonaccrual basis if the loans had been current throughout the period. No interest income on nonaccrual loans was included in income during such period.
CLASSIFICATION OF ASSETS. The Company's policies, consistent with regulatory guidelines, provide for the classification of loans and other assets such as debt and equity securities, considered to be of lesser quality as "substandard," "doubtful," or "loss" assets. An asset is considered "substandard" if it is inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. "Substandard" assets include those characterized by the "distinct possibility" that the savings institution will sustain "some loss" if the deficiencies are not corrected. Assets classified as "doubtful" have all of the weaknesses inherent in those classified "substandard" with the added characteristic that the weaknesses present make "collection or liquidation in full," on the basis of currently existing facts, conditions, and values, "highly questionable and improbable." Assets classified as "loss" are those considered "uncollectible" so that their continuance as assets without the establishment of a specific loss reserve is not warranted. Assets that do not expose the savings institution to risk sufficient to warrant classification in one of the aforementioned categories, but which possess some weaknesses, are required to be designated "special mention" by management. At June 30, 2002, the Company had 29 loans, with an aggregate principal balance of $17.5 million, designated as special mention.
The Company regularly reviews its asset portfolio to determine whether any assets require classification in accordance with applicable regulations. The Company's largest classified assets are also the Company's largest nonperforming assets.
The following table sets forth the aggregate amount of the Company's classified assets at the dates indicated.
ALLOWANCE FOR LOAN LOSSES. The loans that have been classified as substandard or doubtful are reviewed by the Credit Review and Administration ("CRA") department for possible impairment under the provisions of Statement of Financial Accounting Standards ("SFAS") No. 114, "Accounting by Creditors for Impairment of a Loan." A loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect all amounts due according to the contractual terms of the loan agreement including both contractual principal and interest payments.
If an individual loan is deemed to be impaired the CRA department determines the proper measurement of impairment for each loan based on one of three methods as prescribed by SFAS No. 114: (1) the present value of expected future cash flows discounted at the loan's effective interest rate; (2) the loan's observable market price; or (3) the fair value of the collateral if the loan is collateral dependent. If the measure of the impaired loan is more or less than the recorded investment in the loan, the CRA department adjusts the specific allowance associated with that individual loan accordingly.
If a substandard or doubtful loan is not considered to be individually impaired, it is grouped with other loans that possess common characteristics for impairment evaluation and analysis under the provisions of SFAS No. 5, "Accounting for Contingencies." This segmentation is accomplished by grouping loans of similar product types, risk characteristics and industry concentration into homogeneous pools. Each pool is then analyzed based on historical delinquency, charge-off and recovery trends adjusting for the current economic, political, regulatory and interest rate environment. A range of losses is then established that reflects the highest and lowest loss ratios in any one fiscal year. This historical net charge-off amount as a percentage of loans outstanding for each group is used to estimate the measure of impairment.
The individual impairment measures along with the estimated range of losses for each homogeneous pool are consolidated into one summary document. This summary schedule along with the support documentation used to establish this schedule is presented to the Credit Committee by the Vice President of CRA on a quarterly basis. The Credit Committee is comprised of members of Senior Management from mortgage, consumer and commercial lending, appraising, administration, finance and the President of the Company. The Credit Committee reviews the processes and documentation presented, reviews the concentration of credit by industry and customer, discusses lending products, activity, competition and collateral values, as well as economic conditions in general and in each market area of the Company. Based on this review and discussion the appropriate range of the allowance for loan losses is estimated and any adjustments to reconcile the actual allowance for loan losses with this estimate is determined. In addition, the Credit Committee considers if any changes to the methodology are needed. The Credit Committee also reviews and discusses the Company's delinquency trends, nonperforming asset amounts and allowance for loan losses levels and ratios with its peer group as well as state and national statistics. Following the Credit Committee's review and approval, a similar review is performed by the Board of Director's Risk Management Committee.
In addition to the reviews by the Credit Committee and the Risk Management Committee, regulators from either the FDIC or State Department of Banking perform an extensive review on an annual basis for the adequacy of the allowance for loan losses and its conformity with regulatory guidelines and pronouncements. The internal audit department also performs a regular review of the detailed supporting schedules for accuracy and reports their findings to the Audit Committee of the Board of Directors. Any recommendations or enhancements from these independent parties are considered by management and the Credit Committee and implemented accordingly.
Management acknowledges that this is a dynamic process and consists of factors, many of which are external and out of management's control, that can change often, rapidly and substantially. The adequacy of the allowance for loan losses is based upon estimates using all the information previously discussed as well as current and known circumstances and events. There is no assurance that actual portfolio losses will not be substantially different than those that were estimated.
ANALYSIS OF THE ALLOWANCE FOR LOAN LOSSES. The following table sets forth the analysis of the allowance for loan losses for the periods indicated.
ALLOCATION OF ALLOWANCE FOR LOAN LOSSES. The following table sets forth the allocation of allowance for loan losses by loan category at the dates indicated.
- ------------------------------ (1) Represents percentage of loans in each category to total loans.
INVESTMENT ACTIVITIES
The Company's investment portfolio comprises mortgage-backed securities, investment securities, and cash and cash equivalents. In recent years, the Company generally has increased both the percentage of its assets held in its investment securities portfolio, and the percentage of assets held in the mortgage-backed securities portfolio. This increase in investment securities and mortgage-backed securities resulted from the Company leveraging its capital by borrowing funds and investing the proceeds in marketable securities in order to improve net interest income. In addition, any excess funds resulting from the acquisition of branch offices, and the related deposits, from other financial institutions is invested by the Company. Also, the Company maintains a high percentage of its assets in marketable securities and cash equivalents to assist in asset/liability management.
The Company is required under federal regulations to maintain a minimum amount of liquid assets that may be invested in specified short term securities and certain other investments. The Company generally has maintained a portfolio of liquid assets that exceeds regulatory requirements. Liquidity levels may be increased or decreased depending
upon the yields on investment alternatives and upon management's judgment as to the attractiveness of the yields then available in relation to other opportunities and its expectation of the level of yield that will be available in the future, as well as management's projections as to the short-term demand for funds to be used in the Company's loan origination and other activities.
PURCHASES, SALES, AND REPAYMENTS OF INVESTMENT AND MORTGAGE-BACKED SECURITIES. Set forth below is information relating to the Company's purchases, sales and repayments of investment securities and mortgage-backed securities for the periods indicated.
- ------------------------------------- (1) Includes mortgage-backed securities available for sale and held to maturity. (2) Includes investment securities available for sale and held to maturity.
AMORTIZED COST AND MARKET VALUE OF INVESTMENT AND MORTGAGE-BACKED SECURITIES. The following table sets forth certain information regarding the amortized cost and market values of the Company's investment securities portfolio and mortgage-backed securities portfolio at the dates indicated.
ISSUERS OF MORTGAGE-BACKED SECURITIES. The following table sets forth information regarding the issuers and the carrying value of the Company's mortgage-backed securities held to maturity and mortgage-backed securities available for sale.
INVESTMENT PORTFOLIO MATURITIES. The following table sets forth the scheduled maturities, carrying values, amortized cost, market values and weighted average yields for the Company's investment securities and mortgage-backed securities portfolios at June 30, 2002. Adjustable-rate mortgage-backed securities are included in the period in which interest rates are next scheduled to adjust.
SOURCES OF FUNDS
GENERAL. Deposits are the major source of the Company's funds for lending and other investment purposes. In addition to deposits, the Company derives funds from the amortization and prepayment of loans and mortgage-backed securities, the maturity of investment securities, operations and, if needed, borrowings from the FHLB. Scheduled loan principal repayments are a relatively stable source of funds, while deposit inflows and outflows and loan prepayments are influenced significantly by general interest rates and market conditions. Borrowings may be used on a short-term basis to compensate for reductions in the availability of funds from other sources or on a longer term basis for general business purposes.
DEPOSITS. Consumer and commercial deposits are attracted principally from within the Company's market area through the offering of a broad selection of deposit instruments including checking accounts, savings accounts, money market deposit accounts, term certificate accounts and individual retirement accounts. While the Company accepts deposits of $100,000 or more, it does not offer substantial premium rates for such deposits. Deposit account terms vary according to the minimum balance required, the period of time during which the funds must remain on deposit, and the interest rate, among other factors. The Company regularly evaluates its internal cost of funds, surveys rates offered by competing institutions, reviews the Company's cash flow requirements for lending and liquidity, and executes rate changes when deemed appropriate. The Company does not obtain funds through brokers, nor does it solicit funds outside its market area.
The following table sets forth the savings activities of the Company for the periods indicated.
The following table sets forth the dollar amount of savings deposits in the various types of savings accounts offered by the Company between the dates indicated.
- ---------------------------------------------------------------- (1) Represents percentage of total deposits. (2) Represents weighted average nominal rate at fiscal year end.
TIME DEPOSIT RATES. The following table sets forth the time deposits in the Company classified by rates as of the dates indicated:
TIME DEPOSIT MATURITIES. The following table sets forth the amount and maturities of time deposits at June 30, 2002.
LARGE CERTIFICATES OF DEPOSIT MATURITIES. The following table indicates the amount of the Company's certificates of deposit of $100,000 or more by time remaining until maturity at June 30, 2002.
CERTIFICATES MATURITY PERIOD OF DEPOSIT - --------------- ---------- (IN THOUSANDS)
Three months or less ................................ $ 59,864 Three through six months ............................ 46,989 Six through twelve months ........................... 52,134 Over twelve months .................................. 130,443 -------- Total .......................................... $289,430 ========
BORROWINGS
Savings deposits are the primary source of funds for the Company's lending and investment activities and for its general business purposes. The Company also relies upon borrowings from the FHLB to supplement its supply of lendable funds and to meet deposit withdrawal requirements. Borrowings from the FHLB typically are collateralized by the Bank's stock in the FHLB and a portion of the Bank's first mortgage loans.
The FHLB functions as a central reserve bank providing credit for the Bank and other member financial institutions. As a member, the Bank is required to own capital stock in the FHLB and is authorized to apply for borrowings on the security of such stock and certain of its first mortgage loans and other assets (principally, securities that are obligations of, or guaranteed by, the United States) provided certain standards related to creditworthiness have been met. Borrowings are made pursuant to several different programs. Each credit program has its own interest rate and range of maturities. Depending on the program, limitations on the amount of borrowings are based either on a fixed percentage of a member institution's net worth or on the FHLB's assessment of the institution's creditworthiness. All FHLB borrowings have fixed interest rates and original maturities of between one day and twenty years.
COMPETITION
The Company's market area in Pennsylvania, western New York and eastern Ohio has a large concentration of financial institutions, some of which are significantly larger and have greater financial resources than the Company, and all of which are competitors of the Company to varying degrees. As a result, the Company encounters strong competition both in attracting deposits and in originating real estate and other loans. Its most direct competition for deposits has come historically from commercial banks, brokerage houses, other savings associations, and credit unions in its market area, and the Company expects continued strong competition from such financial institutions in the foreseeable future. The Company's market area includes offices of several commercial banks that are substantially larger than the Company in terms of state-wide deposits. The Company competes for savings by offering depositors a high level of personal service and expertise together with a wide range of financial services.
The competition for real estate and other loans comes principally from commercial banks, mortgage banking companies, and other savings institutions. This competition for loans has increased substantially in recent years as a result of the large number of institutions competing in the Company's market area as well as the increased efforts by commercial banks to expand mortgage loan originations.
The Company competes for loans primarily through the interest rates and loan fees it charges and the efficiency and quality of services it provides borrowers, real estate brokers, and builders. Factors that affect competition include general and local economic conditions, current interest rate levels, and volatility of the mortgage markets.
SUBSIDIARY ACTIVITIES
The Company has four subsidiaries: the Bank and Jamestown, as well as Northwest Capital Trust I and Northwest Bancorp Trust I, all of which are wholly-owned. The Bank has five wholly owned subsidiaries, Great Northwest Corporation, Northwest Financial Services, Inc., Northwest Consumer Discount Company, Inc., Allegheny Services, Inc., and Northwest Capital Group, Inc. Jamestown has no subsidiaries. For financial reporting purposes all of these companies are included in the consolidated financial statements of the Company.
During fiscal 2002 the Company formed two wholly owned Delaware statutory business trusts, Northwest Capital Trust I and Northwest Bancorp Statutory Trust I. These trusts were formed solely to issue preferred securities to third parties for cash, issue common securities to the Company in exchange for capitalization of the trusts, invest the proceeds from the sale of trust securities in an equivalent amount of debentures of the Company and engage in other activities that are incidental to those previously listed.
Northwest Capital Trust I is a wholly owned Delaware statutory business trust. The sole activity of this Trust was the issuance of 2,760,000 of 8.75% Cumulative Trust Preferred Securities through a public offering on November 30, 2001 (liquidation value of $25 per preferred security or $69,000,000) with a stated maturity date of December 31, 2031. At June 30, 2002, the Company had an equity investment in Northwest Capital Trust I of $2.1 million. For the fiscal year ended June 30, 2002 Northwest Capital Trust I reported no net income.
Northwest Bancorp Statutory Trust I is the second wholly owned Delaware statutory business trust formed by the Company during the 2002 fiscal year. The sole activity of this Trust was the issuance of 30,000 Cumulative Trust Preferred Securities to a pooled vehicle through a private transaction on December 18, 2001 (liquidation value of $1,000 per preferred security or $30,000,000) with a stated maturity date of December 23, 2031. At June 30, 2002, the Company had an equity investment in Northwest Bancorp Statutory Trust I of $928,000, and for the fiscal year ended June 30, 2002, Northwest Bancorp Statutory Trust I reported no net income.
Great Northwest's sole activity is holding equity investments in government-assisted low-income housing projects in various locations in the Company's market area. At June 30, 2002, the Bank had an equity investment in Great Northwest of $3.7 million. For the fiscal year ended June 30, 2002, Great Northwest had net income of $548,000 generated primarily from federal low-income housing tax credits.
Northwest Financial Services' principal activity is the operation of retail brokerage activities for the Company. It also maintains an investment in land acquired by foreclosure and the ownership of the common stock of several financial institutions. In addition, Northwest Financial Services also holds an equity investment in one government assisted low-income housing project and owns 100% of the stock in Rid-Fed, Inc. At June 30, 2002, the Bank had an equity investment in Northwest Financial Services of $6.5 million, and for the fiscal year ended June 30, 2002, Northwest Financial Services had net income of $563,000.
Northwest Consumer Discount Company operates 47 consumer finance offices throughout Pennsylvania and operates two consumer finance offices in New York State as a separate subsidiary doing business therein as Northwest Finance Company. At June 30, 2002, the Bank had an equity investment in Northwest Consumer Discount Company of $15.1 million and the net income of Northwest Consumer Discount Company for the fiscal year ended June 30, 2002 was $1.8 million. Consumer loans entail greater credit risk than do residential mortgage loans, particularly in the case of consumer loans that are unsecured or secured by assets that depreciate rapidly, such as automobiles, mobile homes, boats, and recreation vehicles. In such cases, repossessed collateral for a defaulted consumer loan may not provide an adequate source of repayment for the outstanding loan and the remaining deficiency often does not warrant further substantial collection efforts against the borrower. In particular, amounts realizable on the sale of repossessed automobiles may be significantly reduced based upon the condition of the automobiles and the lack of demand for used automobiles. The Company adds a general provision on a regular basis to its consumer loan loss allowance, based on general economic conditions and prior loss experience.
Allegheny Services, Inc. is a Delaware investment company that holds mortgage loans originated through the Bank's wholesale lending business. In addition, this Company has loans to both Northwest Savings Bank and Northwest Consumer Discount Company. At June 30, 2002 the Bank had an equity investment in Allegheny Services, Inc. of $466.1 million, and for the fiscal year ended June 30, 2002, Allegheny Services, Inc. had net income of $16.4 million.
Northwest Capital Group's principal activity is the development and sale of a timeshare project in Honolulu, Hawaii which was acquired by deed in lieu of foreclosure in 1997. At June 30, 2002 the Bank had an equity investment of $26,000 in Northwest Capital Group and for the fiscal year ended June 30, 2002 Northwest Capital Group reported no net income.
Rid-Fed, Inc., a wholly owned subsidiary of Northwest Financial Services, has as its sole activity a commercial real estate loan to Northwest Capital Group. At June 30, 2002 Northwest Financial Services had an equity investment of $1.1 million in Rid-Fed, Inc. and for the fiscal year ended June 30, 2002 Rid-Fed, Inc. reported no net income.
Northwest Finance Company, Inc. is a wholly owned subsidiary of Northwest Consumer Discount Company. Northwest Finance Company operates two consumer finance offices in Jamestown and Fredonia, New York. As of June 30, 2002, Northwest Consumer Discount Company's equity investment in Northwest Finance Company was $(119,000). For the year ended June 30, 2002, Northwest Finance Company had a net loss of $19,000.
Federal regulations require SAIF-insured institutions to provide 30 days advance notice to the FDIC before establishing or acquiring a subsidiary or conducting a new activity in a subsidiary. The insured institution must also provide the FDIC such information as may be required by applicable regulations and must conduct the activity in accordance with the rules and orders of the FDIC. In addition to other enforcement and supervision powers, the FDIC may determine after notice and opportunity for a hearing that the continuation of a savings association's ownership of or relation to a subsidiary constitutes a serious risk to the safety, soundness or stability of the savings association, or is inconsistent with the purposes of federal banking law. Upon the making of such a determination, the FDIC may order the savings association to divest the subsidiary or take other actions.
PERSONNEL
As of June 30, 2002, the Company and its wholly owned subsidiaries had 1,227 full-time and 289 part-time employees. None of the Company's employees is represented by a collective bargaining group. The Company believes its relationship with its employees to be good.
REGULATION
GENERAL
The Company is a Federal corporation, and the Mutual Holding Company is a Federal mutual holding company. The Company and the Mutual Holding Company are required to file certain reports with, and otherwise comply with the rules and regulations of the OTS.
The Bank is a Pennsylvania-chartered savings bank and its deposit accounts are insured up to applicable limits by the FDIC under the SAIF. The Bank is subject to extensive regulation by the Department of Banking of the Commonwealth of Pennsylvania (the "Department"), as its chartering agency, and by the FDIC, as the deposit insurer. The Bank must file reports with the Department and the FDIC concerning its activities and financial condition in addition to obtaining regulatory approvals prior to entering into certain transactions including, but not limited to, mergers with or acquisitions of other savings institutions. There are periodic examinations by the Department and the FDIC to test the Bank's compliance with various regulatory requirements. This regulation and supervision establishes a comprehensive framework of activities in which an institution can engage and is intended primarily for the protection of the FDIC insurance fund and depositors. The regulatory structure also gives the regulatory authorities extensive discretion in connection with their supervisory and enforcement activities and with their examination policies, including policies with respect to the classification of assets and the establishment of adequate loan loss reserves for regulatory purposes. Any change in such regulation, whether by the Department or the FDIC could have a material adverse impact on the Company, the Mutual Holding Company, the Bank and their operations.
PENNSYLVANIA SAVINGS BANK LAW
The Pennsylvania Banking Code of 1965, as amended (the "Banking Code") contains detailed provisions governing the organization, location of offices, rights and responsibilities of directors, officers, employees, and depositors, as well as corporate powers, savings and investment operations and other aspects of the Bank and its affairs. The Banking Code delegates extensive rulemaking power and administrative discretion to the Department so that the supervision and regulation of state-chartered savings banks may be flexible and readily responsive to changes in economic conditions and in savings and lending practices.
One of the purposes of the Banking Code is to provide savings banks with the opportunity to be competitive with each other and with other financial institutions existing under other Pennsylvania laws as well as other state, federal and foreign laws. A Pennsylvania savings bank may locate or change the location of its principal place of business and establish an office anywhere in Pennsylvania, with the prior approval of the Department.
The Department generally examines each savings bank not less frequently than once every two years. Although the Department may accept the examinations and reports of the FDIC in lieu of the Department's examination, the current practice is for the Department to conduct individual examinations. The Department may order any savings bank to discontinue any violation of law or unsafe or unsound business practice and may direct any trustee, officer, attorney, or employee of a savings bank engaged in an objectionable activity, after the Department has ordered the activity to be terminated, to show cause at a hearing before the Department why such person should not be removed.
INSURANCE OF ACCOUNTS AND REGULATION BY THE FDIC
The Bank is a member of the SAIF, which is administered by the FDIC. Deposits are insured up to applicable limits by the FDIC and such insurance is backed by the full faith and credit of the U.S. Government. As insurer, the FDIC imposes deposit insurance premiums and is authorized to conduct examinations of and to require reporting by FDIC-insured institutions. It also may prohibit any FDIC-insured institution from engaging in any activity the FDIC determines by regulation or order to pose a serious risk to the FDIC. The FDIC also has the authority to initiate enforcement actions against savings banks, after giving the OTS an opportunity to take such action, and may terminate the deposit insurance if it determines that the institution has engaged or is engaging in unsafe or unsound practices, or is in an unsafe or unsound condition.
The FDIC's deposit insurance premiums are assessed through a risk-based system under which all insured depository institutions are placed into one of nine categories and assessed insurance premiums, ranging from 0% to .27% of deposits, based upon their level of capital and supervisory evaluation. Under the system, institutions classified as well capitalized (i.e., a core capital ratio of at least 5%, a ratio of core capital to risk-weighted assets of at least 6% and a risk-based capital ratio of at least 10%) and considered healthy would pay the lowest premium while institutions that are less than adequately capitalized (i.e., a core capital or core capital to risk-based capital ratios of less than 4% or a risk-based capital ratio of less than 8%) and considered of substantial supervisory concern would pay the highest premium. Risk classification of all insured institutions is made by the FDIC for each semi-annual assessment period.
The FDIC is authorized to increase assessment rates, on a semiannual basis, if it determines that the reserve ratio of the SAIF will be less than the designated reserve ratio of 1.25% of SAIF insured deposits. In setting these increased assessments, the FDIC must seek to restore the reserve ratio to that designated reserve level, or such higher reserve ratio as established by the FDIC. The FDIC may also impose special assessments on SAIF members to repay amounts borrowed from the United States Treasury or for any other reason deemed necessary by the FDIC. In addition, interest payments on FICO bonds issued in the late 1980's by the Financing Corporation to recapitalize the now defunct Federal Savings and Loan Insurance Corporation are paid jointly by Bank Insurance Fund ("BIF") insured institutions and SAIF-insured institutions. Since January 1, 2000, the FICO interest payments have been paid pro rata by banks and thrifts based on approximately 2.1 basis point of deposits.
As a result of the enactment of the Small Business Job Protection Act of 1996, all savings banks and savings associations are able to convert to a commercial bank charter, diversify their lending, or merge into a commercial bank without having to recapture any of their pre-1988 tax bad debt reserve accumulations. Any post-1987 reserves are subject to recapture, regardless of whether or not a particular thrift intends to convert its charter, be acquired, or diversify its activities. The recapture tax on post-1987 reserves is assessed in equal installments over the six year period beginning in fiscal 1997. However, because the Company met the minimum level of mortgage lending test (i.e., the Company's level of mortgage lending activity (re-financings and home equity loans excluded) exceeded its average mortgage lending activity for the six years preceding fiscal 1997 and 1998, adjusted for inflation), the Company was able to suspend its tax bad debt recapture for the 1997 and 1998 tax years. During each of the fiscal years 1999, 2000, 2001 and 2002, the Company recaptured into taxable income approximately $1.3 million of the post-1987 bad debt reserves. At June 30, 2002, the Company had a balance of approximately $2.6
million of bad debt reserves in retained income that is subject to recapture equally over the next two years under this legislation.
CAPITAL REQUIREMENTS
Any savings institution that fails any of the capital requirements is subject to possible enforcement actions by the FDIC. Such actions could include a capital directive, a cease and desist order, civil money penalties, the establishment of restrictions on an institution's operations, termination of federal deposit insurance, and the appointment of a conservator or receiver. Certain actions are required by law. The FDIC's capital regulation provides that such actions, through enforcement proceedings or otherwise, could require one or more of a variety of corrective actions.
The Bank is also subject to more stringent capital guidelines of the Department. Although not adopted in regulation form, the Department utilizes capital standards of 6% leverage capital and 10% risk-based capital. The components of leverage and risk-based capital are substantially the same as those defined by the FDIC.
LOANS-TO-ONE BORROWER LIMITATION
Under federal regulations, with certain limited exceptions, a Pennsylvania chartered savings bank may lend to a single or related group of borrowers on an "unsecured" basis an amount equal to 15% of its unimpaired capital and surplus. An additional amount may be lent, equal to 10% of unimpaired capital and surplus, if such loan is secured by readily-marketable collateral, which is defined to include certain securities and bullion, but generally does not include real estate. The Company's internal policy, however, is to make no loans either individually or in the aggregate to one entity in excess of $7.5 million without prior approval from the Board of Directors.
PROMPT CORRECTIVE ACTION
Under federal regulations, a bank shall be deemed to be (i) "well capitalized" if it has total risk-based capital of 10.0% or more, has a Tier 1 risk-based capital ratio of 6.0% or more, has a Tier I leverage capital ratio of 5.0% or more and is not subject to any written capital order or directive; (ii) "adequately capitalized" if it has a total risk-based capital ratio of 8.0% or more, a Tier I risk-based capital ratio of 4.0% or more and a Tier I leverage capital ratio of 4.0% or more (3.0% under certain circumstances) and does not meet the definition of "well capitalized"; (iii) "undercapitalized" if it has a total risk-based capital ratio that is less than 8.0%, a Tier I risk-based capital ratio that is less than 4.0% or a Tier I leverage capital ratio that is less than 4.0% (3.0% under certain circumstances); (iv) "significantly undercapitalized" if it has a total risk-based capital ratio that is less than 6.0%, a Tier I risk-based capital ratio that is less than 3.0% or a Tier I leverage capital ratio that is less than 3.0%; and (v) "critically undercapitalized" if it has a ratio of tangible equity to total assets that is equal to or less than 2.0%. Federal regulations also specify circumstances under which a federal banking agency may reclassify a well capitalized institution as adequately capitalized and may require an adequately capitalized institution to comply with supervisory actions as if it were in the next lower category (except that the FDIC may not reclassify a significantly undercapitalized institution as critically undercapitalized). As of June 30, 2002, the Bank and Jamestown were "well-capitalized institutions" for this purpose.
ACTIVITIES AND INVESTMENTS OF INSURED STATE-CHARTERED BANKS
Federal law generally limits the activities and equity investments of FDIC-insured, state-chartered banks to those that are permissible for national banks. Under regulations dealing with equity investments, an insured state bank generally may not, directly or indirectly, acquire or retain any equity investment of a type, or in an amount, that is not permissible for a national bank. An insured state bank is not prohibited from, among other things, (i) acquiring or retaining a majority interest in a subsidiary; (ii) investing as a limited partner in a partnership the sole purpose of which is direct or indirect investment in the acquisition, rehabilitation, or new construction of a qualified housing project, provided that such limited partnership investments may not exceed 2% of the bank's total assets; (iii) acquiring up to 10% of the voting stock of a company that solely provides or reinsures directors', trustees', and officers' liability insurance coverage or bankers' blanket bond group insurance coverage for insured depository institutions; and (iv) acquiring or retaining the voting shares of a depository institution if certain requirements are met.
THE USA PATRIOT ACT
In response to the events of September 11th, the Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001, or the USA PATRIOT Act, was signed into law on October 26, 2001. The USA PATRIOT Act gives the federal government new powers to address terrorist threats through enhanced domestic security measures, expanded surveillance powers, increased information sharing, and broadened anti-money laundering requirements. By way of amendments to the Bank Secrecy Act, Title III of the USA PATRIOT Act takes measures intended to encourage information sharing among bank regulatory agencies and law enforcement bodies. Further, certain provisions of Title III impose affirmative obligations on a broad range of financial institutions, including banks, thrifts, brokers, dealers, credit unions, money transfer agents and parties registered under the Commodity Exchange Act.
Among other requirements, Title III of the USA PATRIOT Act imposes the following requirements with respect to financial institutions:
- Pursuant to Section 352, all financial institutions must establish anti-money laundering programs that include, at minimum: (i) internal policies, procedures, and controls; (ii) specific designation of an anti-money laundering compliance officer; (iii) ongoing employee training programs; and (iv) an independent audit function to test the anti-money laundering program.
- Section 326 of the Act authorizes the Secretary of the Department of Treasury, in conjunction with other bank regulators, to issue regulations by October 26, 2002 that provide for minimum standards with respect to customer identification at the time new accounts are opened.
- Section 312 of the Act requires financial institutions that establish, maintain, administer, or manage private banking accounts or correspondence accounts in the United States for non-United States persons or their representatives (including foreign individuals visiting the United States) to establish appropriate, specific, and, where necessary, enhanced due diligence policies, procedures, and controls designed to detect and report money laundering.
- Effective December 25, 2001, financial institutions are prohibited from establishing, maintaining, administering or managing correspondent accounts for foreign shell banks (foreign banks that do not have a physical presence in any country), and will be subject to certain record keeping obligations with respect to correspondent accounts of foreign banks.
- Bank regulators are directed to consider a holding company's effectiveness in combating money laundering when ruling on Federal Reserve Act and Bank Merger Act applications.
The federal banking agencies have begun to propose and implement regulations pursuant to the USA PATRIOT Act. These proposed and interim regulations would require financial institutions to adopt the policies and procedures contemplated by the USA PATRIOT Act.
HOLDING COMPANY REGULATION
Generally. Federal law allows a state savings bank, such as the Bank, that qualifies as a "Qualified Thrift Lender," discussed below, to elect to be treated as a savings association for purposes of the savings and loan company provisions of the HOLA. Such election results in its holding company being regulated as a savings and loan holding company by the OTS rather than as a bank holding company by the Federal Reserve Board. The Company and the Mutual Holding Company have made such election by converting from a Pennsylvania corporation and a Pennsylvania mutual holding company to a Federal corporation and Federal mutual holding company, respectively, effective June 30, 2001. The Company and the Mutual Holding Company are savings and loan holding companies within the meaning of the HOLA. As such, the Company and the Mutual Holding Company are registered with the OTS and are subject to OTS regulations, examinations, supervision and reporting requirements. In addition, the OTS has enforcement authority over the Company and the Mutual Holding Company and any nonsavings institution subsidiaries. Among other things, this authority permits the OTS to restrict or prohibit activities that are determined to be a serious risk to the subsidiary savings institution. As federal
corporations, the Company and the Mutual Holding Company are generally not subject to state business organizations laws.
Permitted Activities. Pursuant to Section 10(o) of the HOLA and OTS regulations and policy, a mutual holding company and a federally chartered mid-tier holding company, such as the Company, may engage in the following activities: (i) investing in the stock of a savings association; (ii) acquiring a mutual association through the merger of such association into a savings association subsidiary of such holding company or an interim savings association subsidiary of such holding company; (iii) merging with or acquiring another holding company, one of whose subsidiaries is a savings association; (iv) investing in a corporation, the capital stock of which is available for purchase by a savings association under federal law or under the law of any state where the subsidiary savings association or associations share their home offices; (v) furnishing or performing management services for a savings association subsidiary of such company; (vi) holding, managing or liquidating assets owned or acquired from a savings subsidiary of such company; (vii) holding or managing properties used or occupied by a savings association subsidiary of such company; (viii) acting as trustee under deeds of trust; (ix) any other activity (A) that the Federal Reserve Board, by regulation, has determined to be permissible for bank holding companies under Section 4(c) of the Bank Holding Company Act, unless the Director of the OTS, by regulation, prohibits or limits any such activity for savings and loan holding companies; or (B) in which multiple savings and loan holding companies were authorized (by regulation) to directly engage on March 5, 1987; and (x) purchasing, holding, or disposing of stock acquired in connection with a qualified stock issuance if the purchase of such stock by such savings and loan holding company is approved by the Director. In addition, a Federal mutual holding company may engage in any activities permissible for a financial holding company under Section 4(k) of the Bank Holding Company Act and regulations of the Federal Reserve Board thereunder, including underwriting debt and equity securities, insurance agency and underwriting, and merchant banking. If a mutual holding company acquires or merges with another holding company, the holding company acquired or the holding company resulting from such merger or acquisition may only invest in assets and engage in activities listed above, and has a period of two years to cease any nonconforming activities and divest of any nonconforming investments.
The HOLA prohibits a savings and loan holding company, including the Company and the Mutual Holding Company, directly or indirectly, or through one or more subsidiaries, from acquiring another savings institution or holding company thereof, without prior written approval of the OTS. It also prohibits the acquisition or retention of more than 5% of the voting stock of another savings institution or savings and loan holding company without the prior approval of the OTS, and from acquiring or retaining control of an any depository institution that is not FDIC-insured. In evaluating applications by holding companies to acquire savings institutions, the OTS must consider the financial and managerial resources, future prospects of the company and institution involved, the effect of the acquisition on the risk to the insurance fund, the convenience and needs of the community and competitive factors.
The Company is regulated as a multiple savings and loan holding company for interstate acquisition purposes by virtue of its ownership of the Bank and Jamestown Savings Bank. The OTS is prohibited from approving any acquisition that would result in a multiple savings and loan holding company controlling savings institutions in more than one state, subject to two exceptions: (i) the approval of interstate supervisory acquisitions by savings and loan holding companies, and (ii) the acquisition of a savings institution in another state if the laws of the state of the target savings institution specifically permit such acquisitions. The states vary in the extent to which they permit interstate savings and loan holding company acquisitions.
Qualified Thrift Lender Test. To be regulated as a savings and loan holding company by the OTS (rather than as a bank holding company by the Federal Reserve Board), both the Bank and Jamestown Savings bank must qualify as a Qualified Thrift Lender. To qualify as a Qualified Thrift Lender, each of the Bank and Jamestown Savings Bank must maintain compliance with the test for a "domestic building and loan association," as defined in the Internal Revenue Code, or with the Qualified Thrift Lender test. Under the Qualified Thrift Lender test, a savings institution is required to maintain at least 65% of its "portfolio assets" (total assets less: (1) specified liquid assets up to 20% of total assets; (2) intangibles, including goodwill; and (3) the value of property used to conduct business) in certain "qualified thrift investments" (primarily residential mortgages and related investments, including certain mortgage-backed and related securities) in at least 9 months out of each 12-month period. As of June 30, 2002 the Bank and Jamestown Savings Bank met the Qualified Thrift Lender test.
Waivers of Dividends by the Mutual Holding Company. OTS regulations require the Mutual Holding Company to notify the OTS of any proposed waiver of its right to receive dividends. The OTS reviews dividend
waiver notices on a case-by-case basis. Since the Mutual Holding Company converted to a federal charter it has waived all dividends paid by the Company.
Conversion of the Mutual Holding Company to Stock Form. OTS regulations permit the Mutual Holding Company to issue from the mutual to the stock form of ownership (a "Conversion Transaction"). There can be no assurance when, if ever, a Conversion Transaction will occur, and the Board of Directors has no current intention or plan to undertake a Conversion Transaction. In a Conversion Transaction a new holding company would be formed as the successor to the Company (the "New Holding Company"), the Mutual Holding Company's corporate existence would end, and certain depositors of the Bank would receive the right to subscribe for additional shares of the New Holding Company. Based upon current OTS policy, in a Conversion Transaction, each share of Common Stock held by the Company's public stockholders ("Minority Stockholders") would be automatically converted into a number of shares of common stock of the New Holding Company determined pursuant an exchange ratio that ensures that after the Conversion Transaction, subject to any adjustment to reflect the receipt of cash in lieu of fractional shares, the percentage of the to-be outstanding shares of the New Holding Company issued to Minority Stockholders in exchange for their Common Stock would be equal to the percentage of the outstanding shares of Common Stock held by Minority Stockholders immediately prior to the Conversion Transaction. The total number of shares held by Minority Stockholders after the Conversion Transaction would also be affected by any purchases by such persons in the offering that would be conducted as part of the Conversion Transaction.
FEDERAL SECURITIES LAWS
Shares of the Company's common stock are registered with the SEC under Section 12(g) of the Securities Exchange Act of 1934, as amended (the "Exchange Act"). The Company is also subject to the proxy rules, tender offer rules, insider trading restrictions, annual and periodic reporting, and other requirements of the Exchange Act.
SARBANES-OXLEY ACT OF 2002
On July 30, 2002, President Bush signed into law the Sarbanes-Oxley Act of 2002 (the "Sarbanes-Oxley Act"). The Sarbanes-Oxley Act represents a comprehensive revision of laws affecting corporate governance, accounting obligations and corporate reporting. The Sarbanes-Oxley Act is applicable to all companies with equity or debt securities registered under the Securities Exchange Act of 1934. In particular, the Sarbanes-Oxley Act establishes: (i) new requirements for audit committees, including independence, expertise, and responsibilities; (ii) additional responsibilities regarding financial statements for the Chief Executive Officer and Chief Financial Officer of the reporting company; (iii) new standards for auditors and regulation of audits; (iv) increased disclosure and reporting obligations for the reporting company and their directors and executive officers; and (v) new and increased civil and criminal penalties for violation of the securities laws. Many of the provisions became effective immediately while other provisions become effective over a period of 30 to 270 days and are subject to rulemaking by the Securities and Exchange Commission. Although the Company anticipates that it will incur additional expense in complying with the provisions of the Sarbanes-Oxley Act and the resulting regulations, management does not expect that such compliance will have a material impact on the Company's results of operations or financial condition.
REGULATORY ENFORCEMENT AUTHORITY
Federal law provides federal banking regulators with substantial enforcement powers. This enforcement authority includes, among other things, the ability to assess civil money penalties, to issue cease-and-desist or removal orders, and to initiate injunctive actions against banking organizations and institution-affiliated parties, as defined. In general, these enforcement actions may be initiated for violations of laws and regulations and unsafe or unsound practices. Other actions or inactions may provide the basis for enforcement action, including misleading or untimely reports filed with regulatory authorities.
DIVIDENDS
The Company's ability to pay dividends depends, to a large extent, upon the Bank's ability to pay dividends to the Company. The Banking Code of the Commonwealth of Pennsylvania states, in part, that dividends may be declared and paid by the Bank only out of accumulated net earnings and may not be declared or paid unless surplus (retained earnings) is at least equal to capital. The Bank has not declared or paid any dividends which
caused the Bank's retained earnings to be reduced below the amount required. Finally, dividends may not be declared or paid if the Bank is in default in payment of any assessment due to the FDIC. At June 30, 2002, the Bank's retained earnings exceeded required capital by $146.7 million and the Bank was not in default of any assessment due the FDIC.
In addition, the Bank is required to notify the OTS prior to paying a dividend to the Company, and receive the nonobjection of the OTS to any such dividend.
FEDERAL AND STATE TAXATION
FEDERAL TAXATION. For federal income tax purposes, the Company files a consolidated federal income tax return with its wholly owned subsidiaries on a fiscal year basis. The applicable federal income tax expense or benefit is properly allocated to each subsidiary based upon taxable income or loss calculated on a separate company basis. The Mutual Holding Company is not permitted to file a consolidated federal income tax return with the Company, and must pay Federal income tax on 20% of the dividends received from the Company. Because the Mutual Holding Company has nominal assets other than the stock of the Company, it does not have material federal income tax liability other than the tax due on the dividends received from the Company.
In April 1992, the FASB issued SFAS 109. The Company currently is accounting for income taxes in accordance with SFAS 109. The liability method accounts for deferred income taxes by applying the enacted statutory rates in effect at the balance sheet date to differences between the book cost and the tax cost of assets and liabilities. The resulting deferred tax liabilities and assets are adjusted to reflect changes in tax laws. SFAS 109 was implemented by the Bank effective July 1, 1993.
The statute of limitations is open for potential examinations by the Internal Revenue Service for the tax years ended June 30, 1999 through June 30, 2002.
STATE TAXATION. The Company is subject to the Corporate Net Income Tax and the Capital Stock Tax of the Commonwealth of Pennsylvania. Dividends received from the Bank qualify for a 100% dividends received deduction and are not subject to Corporate Net Income Tax. In addition, the Company's investments in its subsidiaries qualify as exempt intangible assets and greatly reduce the amount of Capital Stock Tax assessed.
The Bank is subject to the Mutual Thrift Institutions Tax of the Commonwealth of Pennsylvania based on the Bank's financial net income determined in accordance with generally accepted accounting principles with certain adjustments. The tax rate under the Mutual Thrift Institutions Tax is 11.5%. Interest on state and federal obligations is excluded from net income. An allocable portion of interest expense incurred to carry the obligations is disallowed as a deduction.
The subsidiaries of the Bank are subject to the Corporate Net Income Tax and the Capital Stock Tax of the Commonwealth of Pennsylvania and other applicable taxes in the states where they conduct business.
ITEM 2.
ITEM 2. PROPERTIES
As of June 30, 2002, the Company conducted its business through its main office located in Warren, Pennsylvania, 115 other full-service offices throughout its market area in northwest, southwest and central Pennsylvania, six offices in southwestern New York, and four offices in eastern Ohio. The Company and its wholly owned subsidiaries also operated 47 consumer finance offices located throughout Pennsylvania and two consumer lending office in New York. At June 30, 2002, the Company's premises and equipment had an aggregate net book value of approximately $55.4 million.
Listed below is the location of each of the Company's community banking offices.
PENNSYLVANIA
Austin, Potter Co. -- 21 Turner Street
Bellefonte, Centre Co. -- 117 North Allegheny Street
Bradford (4), McKean Co. -- Bradford Mall - 1001 E. Main Street -- 33 Main Street -- 85 West Washington Street -- 950 E. Main Street
Bridgeville, Allegheny Co. -- 431 Washington Avenue
Butler, Butler Co. -- 151 Pittsburgh Road
Canonsburg, Washington Co. -- 148 West Pike Street
Centre Hall, Centre Co. -- 219 North Pennsylvania Avenue
Clarion (2), Clarion Co. -- 601 Main Street -- 97 West Main Street
Clearfield, Clearfield Co. -- 1200 Old Town Road
Columbia, Lancaster Co. -- 350 Locust Street
Coudersport, Potter Co. -- 302 N. East Street
Corry, Erie Co. -- 150 North Center Street
Cranberry, Venango Co. -- Cranberry Mall
Ebensburg, Cambria Co. -- 176 Lovell Avenue
Edinboro, Erie Co. -- Walmart, 108 Washington Towne Blvd
Elizabethtown, Lancaster Co. -- 2296 South Market Street
Emporium, Cameron Co. -- 2 East Fourth Street
Erie (11), Erie Co. -- 2256 West 8th Street -- K-Mart Plaza West 2863 West 26th Street -- K-Mart Plaza East 4423 Buffalo Road -- Millcreek Mall -- 3805 Peach Street -- 5624 Peach Street -- 401 State Street -- 121 West 26th Street -- K-Mart Plaza South 1328 East Grandview Blvd. -- 1945 Douglas Parkway -- 800 State Street
Franklin, Venango Co. -- 1301 Liberty Street
Fredericktown, Washington Co. -- Front Street
Galeton, Potter Co. -- 30 West Street
Gibsonia, Allegheny Co. -- The Village of St. Barnabus 5850 Meridian Road
Greenville, Mercer Co. -- Walmart, 45 Williamson Road
Grove City, Mercer Co. -- 200 S. Center Street
Hanover, York Co. -- 1 Center Square
Harborcreek, Erie Co. -- 4270 East Lake Road
Hershey, Dauphin Co. -- 10 West Chocolate Avenue
Johnsonburg (2), Elk Co. -- 553 Market Street -- Johnsonburg Plaza, Route 219
Johnstown(2), Cambria Co. -- 225 Franklin Street -- 475 Theatre Drive
Kane, McKean Co. -- 56 Fraley Street
Kittanning (2), Armstrong Co. -- Franklin Village Mall -- 165 Butler Road
Lake City, Erie Co. -- 2102 Rice Avenue
Lancaster(3), Lancaster County -- 24 West Orange Street -- 922 Columbia Avenue -- 1195 Manheim Pike
Lawrenceville, Tioga Co. -- 53 Main Street
Lebanon (2), Lebanon Co. -- 770 Cumberland Street -- 547 South 10th Street
Lewistown, Mifflin County -- 51 West Market Street
Lititz, Lancaster Co. -- 744 South Broad Street
Lock Haven, Clinton Co. -- 104 East Main Street
Loyalsock, Lycoming Co. -- 815 Westminster Drive
Mansfield, Tioga Co. -- 50 South Main Street
Marianna, Washington Co. -- 1784 Main Street
Marienville, Forest Co. -- Walnut & West Spruce Street
McDonald, Washington Co. -- 101 East Lincoln Avenue
Meadville (3), Crawford Co. -- 932 Diamond Park -- 1073 Park Avenue -- 880 Park Avenue
Mount Joy, Lancaster Co. -- 24 East Main Street
Myerstown, Lebanon Co. -- 1 West Main Avenue
New Bethlehem, Clarion Co. -- 301 Broad Street
New Holland, Lancaster Co. -- 201 West Main Street
North East, Erie Co. -- 35 East Main Street
Oil City (3), Venango Co. -- One East First Street -- 301 Seneca Street -- 259 Seneca Street
Palmyra, Lebanon Co. -- 1048 East Main Street
Pleasantville, Venango Co. -- 102 East State Street
Pottsville, Schuylkill Co. -- 104 North Centre Street
Ridgway, Elk Co. -- Main & Mill Streets
Rimersburg, Clarion Co. -- 629 Main Street
Sarver, Butler Co. -- 737 South Pike Road
Schaefferstown, Lebanon Co. -- Dutch-Way Shopping Mall Route 501 North
Sheffield, Warren Co. -- 101 South Main Street
Shinglehouse, Potter Co. -- 105 West Academy Street
Sligo, Clarion Co. -- 1613 Bald Eagle Street
Smethport, McKean Co. -- 428 Main Street
Smithfield, Huntingdon Co. -- Fairgrounds Road & Pennsylvania Avenue
Springboro, Crawford Co. -- 105 South Main Street
St. Marys (2), Elk Co. -- 39 South St. Marys Street -- St. Mary's Plaza 824 Million Dollar Highway
State College (3), Centre Co. -- 201 West Beaver Avenue -- 611 University Drive -- 1524 West College Avenue
Sykesville, Jefferson Co. -- Main and Park Street
Tidioute, Warren Co. -- 5 Buckingham Street
Tionesta, Forest Co. -- 221 Elm Street
Titusville, Crawford Co. -- Spring & Franklin Street
Union City (2), Erie Co. -- 22 North Main Street -- 4 Perry Street
Valencia, Butler Co. -- 1421 Pittsburgh Road
Volant, Lawrence Co. -- Main Street
Wampum, Lawrence Co. -- 342 Main Street
Warren (3), Warren Co. -- Warren Mall 1666 Market Street Ext. -- 125 Ludlow Street -- Liberty Street at Second Avenue
Washington (2), Washington Co. -- Walmart, 30 Trinity Point Drive -- Shop-n-Save, 125 West Beau Street
Wattsburg, Erie Co. -- 14457 Main Street
Weedville, Elk Co. -- Bennetts Valley, Rt. 555
Wellsboro (2), Tioga Co. -- 61 Main Street -- 16 Main Street
Westfield, Tioga Co. -- 100 East Main Street
Westmont, Cambria Co. -- Lyter and Entrance Drive
Wrightsville, York Co. -- 120 North 4th Street
York (3), York Co. -- Queensgate Shopping Center 2220 South Queens Street -- Stonybrook Plaza 3649 East Market Street -- 1700 Roosevelt Avenue
NEW YORK
Jamestown (2) Chautauqua Co. NY -- 23 West Third Street -- 768 Foote Avenue
Lakewood, Chautauqua Co. NY -- 311 East Fairmount Avenue
Mayville, Chautauqua Co. NY -- 29 S. Erie Street
Olean, Cattaraugus Co. NY -- 2513 West State Street
Williamsville, Erie Co. NY -- Eastern Hills Mall 4545 Transit Road
OHIO
Chardon, Geauga Co. OH -- 325 Center Street
Geneva, Ashtabula Co. OH -- 30 East Main Street
Madison, Lake Co. OH -- 1903 Hubbard Road
Painesville, Lake Co. OH -- 70 Richmond Street
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
The Company and its subsidiaries are subject to various legal actions arising in the normal course of business. In the opinion of management, the resolution of these legal actions is not expected to have a material adverse effect on the Company's results of operations.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITIES HOLDERS
During the fourth quarter of the fiscal year covered by this report, the Company did not submit any matters to the vote of security holders.
PART II ITEM 5.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS MARKET FOR COMMON STOCK AND RELATED MATTERS
The Company's common stock is listed on the Nasdaq National Market under the symbol "NWSB." As of June 30, 2002, the Company had 19 registered market makers, 4,174 stockholders of record (excluding the number of persons or entities holding stock in street name through various brokerage firms), and 47,549,659 shares outstanding. As of such date, the Mutual Holding Company held 35,366,218 shares of common stock and stockholders other than the Mutual Holding Company held 12,183,441 shares. The following table sets forth market price and dividend information for the Company's common stock. Information is presented for each quarter of the previous two fiscal years.
Payment of dividends on the Common Stock is subject to determination and declaration by the Board of Directors and will depend upon a number of factors, including capital requirements, regulatory limitations on the payment of dividends, the Company's results of operations and financial condition, tax considerations and general economic conditions. No assurance can be given that dividends will be declared or, if declared, what the amount of dividends will be, or whether such dividends, once declared, will continue.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA
SELECTED FINANCIAL AND OTHER DATA
Set forth below are selected consolidated financial and other data of the Company. For additional information about the Company, please refer to "Management's Discussion and Analysis of Financial Condition and Results of Operations" and the Consolidated Financial Statements of the Company and related notes included elsewhere herein.
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
FORWARD-LOOKING STATEMENTS
In addition to historical information, this document contains forward-looking statements. The forward-looking statements contained in the following sections are subject to certain risks and uncertainties that could cause actual results to differ materially from those projected in the forward-looking statements. Important factors that might cause such a difference include, but are not limited to, those discussed. Readers should not place undue reliance on these forward-looking statements, as they reflect management's analysis as of the date of this report. The Company has no obligation to update or revise these forward-looking statements to reflect events or circumstances that occur after the date of this report. Readers should carefully review the risk factors described in other documents the Company files from time to time with the Securities and Exchange Commission, including quarterly reports on Form 10-Q and current reports filed on Form 8-K.
FINANCIAL CONDITION
GENERAL. Total assets increased by $448.4 million, or 11.6%, to $4.301 billion at June 30, 2002 from $3.853 billion at June 30, 2001. This increase was funded primarily by a $328.2 million increase in deposits, the issuance of $99.0 million of trust preferred securities and net income of $35.9 million. Total assets increased by $445.5 million, or 13.1%, to $3.853 billion at June 30, 2001 from $3.407 billion at June 30, 2000. This increase was funded primarily by a $378.4 million increase in deposits, a $36.3 million increase in borrowed funds and net income of $26.8 million. The additional funds received in both fiscal years 2002 and 2001 were used to increase loans receivable and marketable securities.
INTEREST-EARNING DEPOSITS IN OTHER FINANCIAL INSTITUTIONS. Interest-earning deposits in other financial institutions increased by $108.1 million to $153.1 million at June 30, 2002 from $45.0 million at June 30, 2001. This increase is due to the Company increasing its liquidity position as part of its asset and liability management strategy in preparation for possible rising interest rates. Interest-earning deposits in other financial institutions increased by $36.5 million to $45.0 million at June 30, 2001 from $8.5 million at June 30, 2000 as a result of significant deposit activity during the last several weeks of the fiscal year. The balances in these accounts fluctuate daily based on the net cash flow from the Company's activities.
INVESTMENT SECURITIES. Investment securities increased by $81.0 million, or 35.7%, to $307.6 million at June 30, 2002 from $226.6 million at June 30, 2001. This increase resulted from the investment of funds received from the growth in deposits as well as the proceeds received from the trust preferred offerings. Investment securities increased by $21.0 million, or 10.2%, to $226.6 million at June 30, 2001 from $205.6 million at June 30, 2000. This increase was primarily due to the investment of funds received from both internal deposit growth and branch acquisitions.
MORTGAGE-BACKED SECURITIES. Mortgage-backed securities increased by $20.3 million, or 4.0%, to $524.6 million at June 30, 2002 from $504.3 million at June 30, 2001. This increase resulted from the investment of funds received from the growth in deposits as well as the proceeds received from the trust preferred offerings. Mortgage-backed securities increased by $84.1 million, or 20.0%, to $504.3 million at June 30, 2001 from $420.2 million at June 30, 2000. This increase was primarily due to the investment of funds received from both internal deposit growth and branch acquisitions.
LOANS RECEIVABLE. Net loans receivable increased by $156.0 million, or 5.5%, to $3.013 billion at June 30, 2002 from $2.857 billion at June 30, 2001. This increase resulted primarily from loan growth across the Company's market area as well as the purchase of approximately $21.9 million of loans as part of the acquisition of four retail offices during the current fiscal year. Net loans receivable increased by $312.0 million, or 12.3%, to $2.857 billion at June 30, 2001 from $2.545 billion at June 30, 2000. This increase also resulted primarily from strong loan demand throughout the Company's market area as well as the purchase of approximately $57.2 million of loans as part of the November 2000 purchase of nine retail offices.
BANK-OWNED LIFE INSURANCE. In June 2002, the Company purchased $50.0 million of insurance on the lives of a certain group of key employees. The investment returns from such policies will be used to offset the increase in employee benefit costs such as healthcare. The cash surrender value of these policies is included in other assets on the consolidated statements of financial condition and any increases in the cash surrender value are recorded as other noninterest income on the consolidated statements of income.
DEPOSITS. Deposits increased by $328.2 million, or 10.1%, to $3.593 billion at June 30, 2002 from $3.265 billion at June 30, 2001. This increase was primarily due to deposit growth throughout the Company's market area as well as the successful integration and strong growth of de novo offices opened during the year. In addition, the acquisition of four retail offices during the current fiscal year contributed deposits of approximately $85.0 million. Deposits increased by $378.4 million, or 13.1%, to $3.265 billion at June 30, 2001 from $2.887 billion at June 30, 2000. This increase was primarily due to normal deposit growth in existing offices as well as the successful integration and growth of recently opened offices. In addition, the acquisition of nine retail offices in November 2000 contributed deposits of approximately $138.0 million.
BORROWINGS. Borrowings decreased by $16.9 million, or 6.1%, to $259.3 million at June 30, 2002 from $276.2 million at June 30, 2001, as the Company utilized a portion of the aforementioned deposit growth to replace retail repurchase agreements and reduce its borrowings from the Federal Home Loan Bank of Pittsburgh. Borrowings increased by $36.3 million, or 15.1%, to $276.2 million at June 30, 2001 from $239.9 million at June 30, 2000. This increase resulted from the Company utilizing its borrowing relationship with the FHLB to fund asset growth in an effort to increase net interest income.
TRUST PREFERRED SECURITIES. During the quarter ended December 31, 2001, the Company issued $99.0 million of Trust Preferred Securities in two separate offerings through its newly formed and wholly owned Delaware statutory business trusts, Northwest Capital Trust I and Northwest Bancorp Statutory Trust I. The first involved the issuance of $69.0 million of 8.75% Cumulative Trust Preferred Securities through a public offering on November 30, 2001 (liquidation amount $25 per preferred security). This security trades on the Nasdaq Stock Market under the symbol NWSBP. The second offering of $30.0 million was sold in a private transaction to a pooled investment vehicle on December 18, 2001 with a floating rate of interest equal to three month LIBOR plus 3.60%, reset quarterly. The trust-preferred securities qualify as regulatory Tier 1 capital and the cash distributions are tax deductible. The Company will use the proceeds from these issues for general corporate purposes, including capital contributions to its banking subsidiaries to support their growth strategies.
SHAREHOLDERS' EQUITY. Shareholders' equity increased by $36.7 million, or 13.3%, to $312.4 million at June 30, 2002 from $275.7 million at June 30, 2001. This increase was primarily due to net income of $35.9 million which was partially offset by the declaration of common stock dividends in the amount of $2.9 million. The remaining net increase was the result of the Company recording a net unrealized gain in the value of securities available for sale of $3.0 million due to the decrease in short-term market interest rates. Shareholders' equity increased by $27.8 million, or 11.2%, to $275.7 million at June 30, 2001 from $247.9 million at June 30, 2000. This increase was primarily due to net income of $26.8 million which was partially offset by the declaration of common stock dividends in the amount of $7.6 million. The remaining net increase was the result of the Company recording a net unrealized gain in the value of securities available for sale of $8.3 million due to the decrease in short-term market interest rates.
RESULTS OF OPERATIONS
GENERAL. The earnings of the Company depend primarily on its level of net interest income, which is the difference between interest earned on the Company's interest-earning assets, consisting primarily of loans, mortgage-backed securities and other investment securities, and the interest paid on interest-bearing liabilities, consisting primarily of deposits, borrowed funds, and trust-preferred securities. Net interest income is a function of the Company's interest rate spread, which is the difference between the average yield earned on interest-earning assets and the average rate paid on interest-bearing liabilities, as well as a function of the average balance of interest-earning assets as compared to interest-bearing liabilities. Also contributing to the Company's earnings is noninterest income which consists primarily of service charges, fees related to insurance and investment management and trust services, and gains and losses on sale of assets. Interest income and noninterest income are offset by a provision for loan losses, general administrative and other expenses, including employee compensation and benefits, occupancy and equipment costs, as well as by state and federal income tax expense.
For the fiscal year ended June 30, 2002 net income was $35.9 million, or $.75 per diluted share, and was significantly enhanced by the adoption of Statement of Financial Accounting Standards No. 141, "Business Combinations." This pronouncement required that the Company's remaining negative goodwill of approximately $2.2 million be taken into income as a one-time cumulative change in accounting principle. Excluding the effects of this one-time item, net income for the current fiscal year would have been $33.6 million, or $.70 per diluted share, an increase of $6.8 million, or 25.4%, from $26.8 million, or $.56 per diluted share, for the prior fiscal year ended June 30, 2001. This increase in net income resulted primarily from a $15.1 million, or 13.5%, increase in net interest income and a $3.1 million, or 20.5%, increase in noninterest income partially offset by an increase in noninterest expense of $9.4 million, or 11.4%, and an increase in the provision for loan losses of $1.1 million, or 20.8%. Net income for the fiscal year ended June 30, 2001 was $26.8 million, or $.56 per diluted share, a decrease of $426,000, or 1.6%, from $27.2 million, or $.57 per diluted share, for the prior fiscal year ended June 30, 2000. This decrease in net income resulted from an increase in noninterest expense of $8.7 million, or 11.8%, and an increase in the provision for loan losses of $1.2 million, or 29.3% partially offset by a $4.5 million, or 4.2%, increase in net interest income and a $3.8 million, or 33.6%, increase in noninterest income.
INTEREST INCOME. Total interest income increased by $5.8 million, or 2.1%, on a taxable equivalent basis, to $277.8 million for the fiscal year ended June 30, 2002 from $272.0 million for the fiscal year ended June 30, 2001. This increase was primarily due to an increase in average interest earning assets of $434.4 million, or 12.7%, to $3.859 billion from $3.424 billion, which was partially offset by a decrease in the yield on average interest earning assets to 7.20% from 7.94%. The increase in average interest earning assets was primarily due to the continued strong internal growth of the Company's existing funding sources along with the investment of funds received from acquisitions and new office openings. The yield on average interest earning assets decreased as a result of the aforementioned growth occurring during a period of declining market interest rates and the repricing of variable rate assets at these lower interest rates. Total interest income increased by $30.0 million, or 12.4%, on a taxable equivalent basis, to $272.0 million for the fiscal year ended June 30, 2001 from $242.0 million for the fiscal year ended June 30, 2000. This increase in interest income was primarily attributable to a $320.5 million, or 10.3%, increase in average interest-earning assets to $3.424 billion from $3.104 billion. Also contributing to this increase in interest income was an increase in the taxable equivalent yield on average interest-earning assets to 7.94% from 7.80%. The increase in average interest-earning assets was primarily due to strong internal growth and the investment of funds received from the acquisition of retail offices with average deposits of approximately $150.0 million. The increase in the overall yield on interest earning assets resulted primarily from the aforementioned growth occurring during a period of higher long-term interest rates which increased the yields on both fixed rate mortgages and long-term fixed rate investment securities.
Interest income on loans receivable increased by $5.6 million, or 2.5%, to $228.3 million for the year ended June 30, 2002 from $222.7 million for the year ended June 30, 2001. This increase resulted primarily because average loans outstanding increased by $220.6 million, or 8.1%, to $2.936 billion from $2.715 billion, which was partially offset by a decrease in the average yield on loans to 7.78% from 8.20%. Average loans outstanding increased because of strong loan demand throughout the Company's market area as well as the aforementioned acquisition of four retail offices with loans of approximately $21.9 million. The decrease in average yield resulted primarily from the repricing of variable rate loans and the refinancing of fixed rate loans in a declining interest rate environment along with the growth in the Company's loan portfolio over the past year at interest rate levels lower than the existing average portfolio rate. Interest income on loans receivable increased by $26.1 million, or 13.3%, to $222.7 million for the year ended June 30, 2001 from $196.6 million for the year ended June 30, 2000. This increase was primarily due to a $278.8 million, or 11.4%, increase in average loans outstanding to $2.715 billion from $2.436 billion. Also contributing to the increase in loan interest income was an increase in the yield on average loans to 8.20% from 8.07%. Average loans receivable increased primarily because of strong loan demand throughout the Company's market area as well as the acquisition of retail offices over the past twelve months with average loans of approximately $48.0 million. The increase in average yield resulted primarily from the growth in the Company's loan portfolio at interest rate levels higher than the existing average portfolio rate.
Interest income on mortgage-backed securities decreased by $2.7 million, or 9.2%, to $26.5 million for the year ended June 30, 2002 from $29.2 million for the year ended June 30, 2001. This decrease occurred primarily because of a decrease in the average yield to 5.18% from 6.58% which was partially offset by an increase in the average balance of $69.0 million, or 15.6%, to $512.0 million from $443.0 million. The average yield on mortgage-backed securities, approximately 86% of which are variable rate, decreased in response to the significant reduction in short-
term market interest rates during calendar 2001. The average balance increased primarily as a result of investing the funds from the aforementioned deposit growth. Interest income on mortgage-backed securities increased by $2.0 million, or 7.4%, to $29.2 million for the year ended June 30, 2001 from $27.2 million for the year ended June 30, 2000. This increase was primarily due to an increase in the average balance of mortgage-backed securities of $28.5 million, or 6.9%, to $443.0 million from $414.5 million, combined with an increase in the average yield to 6.58% from 6.57%. The average balance increased primarily as a result of investing the funds received from the aforementioned acquisition of retail offices. The slight change in the average yield on mortgage-backed securities, 86% of which are variable rate, reflects the increase in short-term market interest rates during the first six months of the fiscal year ended June 30, 2001.
Interest income on investment securities increased by $574,000, or 3.2%, on a taxable equivalent basis, to $18.3 million for the year ended June 30, 2002 from $17.7 million for the year ended June 30, 2001. This increase resulted primarily because the average balance of investment securities increased by $42.1 million, or 18.4%, to $270.6 million from $228.5 million, which was partially offset by a decrease in the taxable equivalent yield to 6.76% from 7.76%. The increase in the average balance of investment securities was primarily due to the investment of funds generated from the aforementioned deposit growth. The decrease in the taxable equivalent yield was primarily a result of purchasing investment securities in a lower yielding rate environment. Interest income on investment securities increased by $1.8 million, or 11.3%, on a taxable equivalent basis, to $17.7 million for the year ended June 30, 2001 from $15.9 million for the year ended June 30, 2000. This increase resulted primarily from an increase in the average taxable equivalent yield to 7.76% from 7.24% combined with a $9.4 million, or 4.3%, increase in the average balance of investment securities to $228.5 million from $219.1 million. These increases resulted from the investment of the proceeds received from the aforementioned acquisition of retail offices and from maturing bonds primarily into higher yielding municipal bonds and trust preferred securities of other institutions.
Interest income on interest-earning deposits increased by $2.6 million, or 298.2%, to $3.5 million for the year ended June 30, 2002 from $877,000 for the year ended June 30, 2001. This increase occurred primarily because the average balance of interest-earning deposits increased by $101.4 million to $117.8 million from $16.4 million, which was partially offset by a decrease in the average yield to 2.96% from 5.36%. The increase in average balance is primarily because the proceeds from the $99.0 million of Trust Preferred Securities issued by the Company are currently invested in overnight federal funds. The Company has increased its liquidity position as part of its asset and liability management strategy to be able to take advantage of possible rising interest rates. The decrease in the average yield is a result of the sharp decline in short-term market interest rates over the last eighteen months. Interest income on interest-earning deposits decreased by $3,000, or 0.3%, to $877,000 for the year ended June 30, 2001 from $880,000 for the year ended June 30, 2000. This decrease resulted primarily from a decrease in the average yield to 5.36% from 6.54% partially offset by an increase in the average balance of interest-earning deposits by $2.9 million, or 21.5%, to $16.4 million from $13.5 million. The volatility in the average yield and average balance is largely influenced by the timing as to when the Company begins to earn interest on its daily deposits and the float experienced on checks issued.
INTEREST EXPENSE. Total interest expense decreased by $10.0 million, or 6.4%, to $147.3 million for the fiscal year ended June 30, 2002 from $157.3 million for the year ended June 30, 2001. This decrease was primarily due to a decrease in the average cost of interest-bearing liabilities to 4.12% from 4.97% which was partially offset by an increase in the average balance of interest-bearing liabilities by $411.0 million, or 13.0%, to $3.575 billion from $3.164 billion. The decrease in the cost of funds resulted from the Company's deposit accounts and borrowing relationships repricing at much lower rates in response to the significant decreases in short-term market interest rates during calendar 2001. Partially offsetting the decrease in short-term interest rates was the effect of the newly issued Trust Preferred Securities which had a weighted average cost of 7.81%. The increase in the average balance of interest-bearing liabilities resulted primarily from an increase of $375.5 million, or 13.0%, in the average balance of deposits, attributed primarily to the growth of existing offices along with new office openings and acquisitions. In addition, the Company issued $99.0 million of Trust Preferred Securities in two separate offerings during the second fiscal quarter which increased average interest-bearing liabilities outstanding by $56.7 million. Partially offsetting these increases in average balances was a decrease in average borrowed funds of $21.3 million, or 7.6%, to $257.3 million from $278.6 million as the Company replaced retail repurchase agreements and FHLB borrowings with deposits. Total interest expense increased by $25.2 million, or 19.1%, to $157.3 million for the year ended June 30, 2001 from $132.1 million for the year ended June 30, 2000. This increase resulted primarily from an increase in the average balance of interest-bearing liabilities by $254.9 million, or 8.8%, to $3.164 billion for the year ended June 30, 2001 from $2.909 billion for the year ended June 30, 2000. In addition, the average cost of interest-bearing liabilities increased to 4.97% from 4.54%. The increase in average interest-bearing liabilities resulted from an increase of $276.2 million, or 10.6%, in the average balance of
deposits, attributed primarily to the acquisition and opening of new offices along with the internal growth of existing offices. Partially offsetting this increase in deposits was a decrease in average borrowed funds of $21.3 million, or 7.1%, to $278.8 million for the year ended June 30, 2001 from $299.9 million for the year ended June 30, 2000. The Company utilized a portion of its deposit growth to repay borrowed funds. The overall increase in the average cost of funds resulted primarily from increases in the interest rates on term deposits over the last two years in response to significant increases in short-term market interest rates during that time period. These deposits had not yet repriced in response to recent decreases in short-term market interest rates. In addition, the average cost of borrowings increased to 5.90% from 5.55% as these fixed-rate fixed-term borrowings were not affected by the decreases experienced in short-term market interest rates over the last six months of the Company's fiscal year ended June 30, 2001.
NET INTEREST INCOME. Net interest income increased by $15.9 million, or 13.9%, on a taxable equivalent basis, to $130.6 million for the fiscal year ended June 30, 2002 compared to $114.7 million for the fiscal year ended June 30, 2001. As previously summarized, this increase in net interest income was attributable to the significant increase in net interest earning assets over the past twelve months coupled with a favorable increase in the Company's net interest margin. The Company was also able to improve its net interest rate spread as the cost of funds on short-term interest bearing liabilities decreased by more than the yield on interest earning assets in response to lower market interest rates. Net interest income increased by $4.8 million, or 4.4%, on a taxable equivalent basis, to $114.7 million for the year ended June 30, 2001 from $109.9 million for the year ended June 30, 2000. This increase in net interest income was attributable to the significant increase in net interest earning assets as the Company's interest rate spread decreased to 2.97% from 3.26% in response to higher short-term market interest rates and an inverted yield curve during the fiscal year ended June 30, 2001.
PROVISION FOR LOAN LOSSES. The provision for loan losses increased by $1.0 million, or 18.9%, to $6.4 million for the year ended June 30, 2002 from $5.3 million for the year ended June 30, 2001. Management analyzes the allowance for loan losses as described in the section "Allowance for Loan Losses." The provision that is recorded is sufficient, in management's judgement, to bring this reserve to a level that reflects the risk inherent in the Company's loan portfolio relative to loan mix, current economic conditions and historical loss experience. As part of this analysis, management considered the increase in net charge-offs of $1.5 million, or 46.1%, to $4.8 million for the year ended June 30, 2002 from $3.3 million for the year ended June 30, 2001. In addition, management considered the growth in the total loan portfolio for the current year of approximately $156 million and the increase in classified assets of approximately $4.7 million, or 13.2%, to $39.9 million for the year ended June 30, 2002 from $35.2 million for the year ended June 30, 2001. The provision for loan losses increased by $1.2 million, or 29.3%, to $5.3 million for the year ended June 30, 2001 from $4.1 million for the year ended June 30, 2000. In recording this provision, management considered the increase in net charge-offs of $630,000, or 23.4%, to $3.3 million for the year ended June 30, 2001 from $2.7 million for the year ended June 30, 2000. In addition, management considered the growth in the total loan portfolio of approximately $312 million and the increase in nonperforming loans of $7.4 million, or 71.9%, to $17.6 million for the year ended June 30, 2001 from $10.3 million for the year ended June 30, 2000.
NONINTEREST INCOME. Noninterest income increased by $3.1 million, or 20.5%, to $18.2 million for the fiscal year ended June 30, 2002 from $15.1 million for the fiscal year ended June 30, 2001. This increase in noninterest income was primarily related to the increase in service charges and fees associated with the Company's growth both internally and through acquisitions. In addition, trust income increased by $1.4 million, or 301.9%, to $1.9 million for the current fiscal year from $465,000 the prior year as a result of the acquisition of Heritage Trust Company in April 2001. Other operating income increased by $678,000, or 56.6%, to $1.9 million for the year ended June 30, 2002 from $1.2 million for the year ended June 30, 2001. This increase is primarily attributable to an increase in brokerage fee income of approximately $230,000 and an increase of approximately $144,000 in the cash surrender value of bank-owned life insurance. Partially offsetting these increases was a decrease in insurance commission income of $390,000, or 20.4%, to $1.5 million for the current fiscal year from $1.9 million the prior year. This decrease in insurance commissions occurred primarily at Northwest Consumer Discount Company as a result of a decrease in both loan originations and outstandings, which is typical in the current low interest rate environment. In addition, the Company incurred a $400,000 loss due to the write-down of two trust-preferred securities of other financial institutions that it maintains in its "held-to-maturity" investment portfolio. This write-down to market value of these "non-rated" securities occurred primarily because of deteriorating financial performance of the issuers. Noninterest income increased by $3.8 million, or 33.6%, to $15.1 million for the year ended June 30, 2001 from $11.3 million for the year ended June 30, 2000. Of this increase, approximately $1.8 million was attributable to increases in fee income relating to
the Company's growth in loans and deposits as well as an increase in overdraft charges. In addition, debit card transaction income and surcharges for foreign ATM use contributed an increase of approximately $672,000 while the investment management and trust and brokerage lines of business added additional income of approximately $560,000 primarily related to the additional fees generated by Heritage Trust Company which was acquired in April 2001. Also occurring in the current fiscal year was the sale of approximately $61.0 million of long-term fixed-rate mortgage loans from the wholesale lending business for a net gain of $478,000. These higher fixed coupon loans were sold in response to the decrease in market interest rates which typically results in an acceleration of prepayments.
NONINTEREST EXPENSE. Noninterest expense increased by $9.4 million, or 11.4%, to $91.7 million for the fiscal year ended June 30, 2002 from $82.3 million for the fiscal year ended June 30, 2001. All major expense categories, except the amortization expense of intangible assets, experienced an increase in the current year. Compensation and employee benefit expense increased by $4.6 million, or 10.6%, to $48.2 million; premises and occupancy costs increased by $1.3 million, or 12.3%, to $11.9 million; processing expenses, which includes data processing, check processing and ATM processing, increased by $666,000, or 10.3%, to $7.1 million; and other operating expenses increased by $1.4 million, or 16.1%, to $10.1 million. These increases were primarily a result of the significant growth of the Company including the growth of its retail network of offices, the expansion of its investment management, trust and brokerage services as well as the addition of new products and services. The amortization of intangibles decreased slightly for the year because the Company adopted SFAS 142 "Goodwill and Other Intangible Assets", on July 1, 2001 and as a result discontinued the scheduled amortization of goodwill. Adoption of this pronouncement eliminated approximately $1.0 million of goodwill amortization in the current year. This expense reduction was, however, almost completely offset by the additional amortization of other intangibles created from the acquisition of retail offices from other institutions over the past eighteen months. Noninterest expense increased by $8.7 million, or 11.8%, to $82.3 million for the year ended June 30, 2001 from $73.6 million for the year ended June 30, 2000. This increase resulted primarily from a $5.6 million, or 14.7%, increase in compensation and employee benefit expense to $43.6 million for the year ended June 30, 2001 from $38.0 million for the year ended June 30, 2000. This increase in compensation and employee benefit expense resulted from the growth of the Company's network of community banking and consumer finance offices, along with the expansion of its investment management, trust and brokerage lines of business. Occupancy costs as well as data processing and check processing expenses also increased by $1.5 million, or 16.5%, $331,000, or 12.4%, and $187,000, or 5.7%, respectively, as a result of the aforementioned increases in the Company's network of offices. In addition, the expense for the amortization of intangibles increased by $1.6 million, or 27.6%, to $7.4 million for the year ended June 30, 2001 from $5.8 million for the year ended June 30, 2000. This was primarily a result of the additional intangible recorded for the acquisition of nine retail offices in November of 2000. Partially offsetting these increases in expense was a decrease in the deposit insurance expense of $313,000, or 35.0%, as a result of the last of a series of scheduled decreases in the FICO debt assessment rate. This rate was reduced on January 1, 2000 to $.21 from $.58 for every $1,000 in deposits.
INCOME TAXES. Income tax expense increased by $1.0 million, or 8.2%, to $13.7 million for the year ended June 30, 2002 from $12.7 million for the year ended June 30, 2001. This increase was primarily due to an increase in net income before tax which was partially offset by a decrease in the effective tax rate to 29.0% for the year ended June 30, 2002 from 32.2% for the year ended June 30, 2001. This decrease in effective tax rate was primarily due to an increase in the Company's portfolio of tax-exempt assets as well as the incorporation of a Delaware investment company which decreased state income tax expense. Income tax expense decreased by $1.2 million, or 8.6%, to $12.7 million for the year ended June 30, 2001 from $13.9 million for the year ended June 30, 2000. This decrease was primarily due to a decrease in net income before tax as well as a decrease in the effective tax rate to 32.2% for the year ended June 30, 2001 from 33.8% for the year ended June 30, 2000. The decrease in the effective tax rate was due to an increase in the Company's portfolio of tax-exempt assets.
AVERAGE BALANCE SHEET. The following table sets forth certain information relating to the Company's average balance sheet and reflects the average yield on assets and average cost of liabilities for the periods indicated. Such yields and costs are derived by dividing income or expense by the average balance of assets or liabilities, respectively, for the periods presented. Average balances are derived from monthly averages.
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(1) Average gross loans receivable includes loans held as available-for-sale and loans placed on nonaccrual status.
(2) Interest income includes accretion/amortization of deferred loan fees/expenses.
(3) Average balances do not include the effect of unrealized gains or losses on securities held as available-for-sale.
(4) Interest income on tax-free investment securities is presented on a taxable equivalent basis.
(5) Average balances include FNMA and FHLMC stock.
(6) Average balances include the effect of unrealized gains or losses on securities held as available-for-sale.
(7) Average balances include FHLB advances, securities sold under agreements to repurchase and other borrowings.
(8) Net interest rate spread represents the difference between the average yield on interest-earning assets and the average cost of interest-bearing liabilities.
(9) Net interest margin represents net interest income as a percentage of average interest-earning assets.
RATE/VOLUME ANALYSIS. Net interest income can also be analyzed in terms of the impact of changes in interest rates on interest-earning assets and interest-bearing liabilities and changes in the volume or amount of these assets and liabilities. The following table represents the extent to which changes in interest rates and changes in the volume of interest-earning assets and interest-bearing liabilities have affected the Company's interest income and interest expense during the periods indicated. Information is provided in each category with respect to (i) changes attributable to changes in volume (change in volume multiplied by prior rate), (ii) changes attributable to changes in rate (changes in rate multiplied by prior volume), (iii) changes in rate-volume (changes in rate multiplied by changes in volume), and (iv) the net change.
REGULATORY CAPITAL REQUIREMENTS. The FDIC's capital regulations establish a minimum 3.0% Tier I leverage capital requirement for the most highly-rated state-chartered, non-member banks, with an additional cushion of at least 100 to 200 basis points for all other state-chartered, non-member banks, which effectively will increase the minimum Tier I leverage ratio for such other banks to 4.0% to 5.0% or more. Under the FDIC's regulation, highest-rated banks are those that the FDIC determines are not anticipating or experiencing significant growth and have well diversified risk, including no undue interest rate risk exposure, excellent asset quality, high liquidity, good earnings and, in general, which are considered a strong banking organization, rated composite 1 under the Uniform Financial Institutions Rating System. Leverage or core capital is defined as the sum of common stockholders' equity (including retained earnings), noncumulative perpetual preferred stock and related surplus, and minority interests in consolidated subsidiaries, minus all intangible assets other than certain qualifying supervisory goodwill, and certain purchased mortgage servicing rights and purchased credit card relationships.
The FDIC also requires that savings banks meet a risk-based capital standard. The risk-based capital standard for savings banks requires the maintenance of total capital which is defined as Tier I capital and supplementary (Tier 2 capital) to risk weighted assets of 8%. In determining the amount of risk-weighted assets, all assets, plus certain off balance sheet assets, are multiplied by a risk-weight of 0% to 100%, based on the risks the FDIC believes are inherent in the type of asset or item.
The components of Tier I capital are equivalent to those discussed above under the 3% leverage standard. The components of supplementary (Tier 2) capital include certain perpetual preferred stock, certain mandatory convertible securities, certain subordinated debt and intermediate preferred stock and general allowances for loan and lease losses. Allowance for loan and lease losses includable in supplementary capital is limited to a maximum of 1.25% of risk-weighted assets. Overall, the amount of capital counted toward supplementary capital cannot exceed 100% of core capital. At June 30, 2002, the Company's banking subsidiaries each exceeded its capital requirements.
A bank which has less than the minimum leverage capital requirement shall, within 60 days of the date as of which it fails to comply with such requirement, submit to its FDIC regional director for review and approval a reasonable plan describing the means and timing by which the bank shall achieve its minimum leverage capital requirement. A bank which fails to file such plan with the FDIC is deemed to be operating in an unsafe and unsound manner, and could be subject to a cease-and-desist order from the FDIC. The FDIC's regulation also provides that any insured depository institution with a ratio of Tier I capital to total assets that is less than 2.0% is deemed to be operating in an unsafe or unsound condition pursuant to Section 8(a) of the FDIA and is subject to potential termination of deposit insurance. However, such an institution will not be subject to an enforcement proceeding thereunder solely on account of its capital ratios if it has entered into and is in compliance with a written agreement with the FDIC to increase its Tier I leverage capital ratio to such level as the FDIC deems appropriate and to take such other action as may be necessary for the institution to be operated in a safe and sound manner. The FDIC capital regulation also provides, among other things, for the issuance by the FDIC or its designee(s) of a capital directive, which is a final order issued to a bank that fails to maintain minimum capital to restore its capital to the minimum leverage capital requirement within a specified time period. Such directive is enforceable in the same manner as a final cease-and-desist order.
The following table summarizes the actual and minimum regulatory capital requirements of the Bank and Jamestown at June 30, 2002 and June 30, 2001.
- ------------ * The FDIC has indicated that the most highly rated institutions which meet certain criteria will be required to maintain a ratio of 3%, and all other institutions will be required to maintain an additional capital cushion of 100 to 200 basis points. As of June 30, 2002, the Company had not been advised of any additional requirements in this regard.
The Bank is also subject to Pennsylvania Department of Banking ("Department") capital guidelines. Although not adopted in regulation form, the Department utilizes capital standards of 6% leverage capital and 10% risk-based capital. The components of leverage and risk-based capital are substantially the same as those defined by the FDIC.
LIQUIDITY AND CAPITAL RESOURCES. The Bank and Jamestown are required to maintain a sufficient level of liquid assets, as determined by management and defined and reviewed for adequacy by the FDIC during their regular examinations. The FDIC, however, does not prescribe by regulation a minimum amount or percentage of liquid assets. The FDIC allows any marketable security, whose sale would not impair the capital adequacy of the Company, to be eligible for liquidity. Liquidity is quantified through the use of a standard liquidity ratio of liquid assets to short-term borrowings plus deposits. Using this formula, the Bank's and Jamestown's liquidity ratios were 22.2% and 53.5%, respectively, as of June 30, 2002. The Bank and Jamestown adjust their liquidity levels in order to meet funding needs of deposit outflows, repayment of borrowings and loan commitments. The Company also adjusts liquidity as appropriate to meet its asset and liability management objectives.
In addition to deposits, the Company's primary sources of funds are the amortization and repayment of loans and mortgage-backed securities, maturities of investment securities and other short-term investments, and earnings and funds provided from operations. While scheduled principal repayments on loans and mortgage-backed securities are a relatively predictable source of funds, deposit flows and loan prepayments are greatly influenced by general interest rate levels, economic conditions, and competition. The Company manages the pricing of its deposits to maintain a desired deposit balance. In addition, the Company invests excess funds in short-term interest-earning and other assets, which provide liquidity to meet lending requirements. Short-term interest-earning deposits with the FHLB of Pittsburgh amounted to $153.1 million at June 30, 2002. Other assets qualifying for liquidity outstanding at June 30, 2002, amounted to $812.5 million. For additional information about cash flows from the Company's operating, financing, and investing activities, see Statements of Cash Flows included in the Consolidated Financial Statements.
A major portion of the Company's liquidity consists of cash and cash equivalents, which are a product of its operating, investing, and financing activities. The primary sources of cash were net income, principal repayments on loans and mortgage-backed securities, and increases in deposit accounts.
Liquidity management is both a daily and long-term function of business management. If the Company requires funds beyond its ability to generate them internally, borrowing agreements exist with the FHLB which provide an additional source of funds. At June 30, 2002, the Company had $235.5 million in advances from the FHLB. The Company borrows from the FHLB to reduce interest rate risk and to provide liquidity when necessary.
At June 30, 2002, the Company's customers had $116.6 million of unused lines of credit available and $74.6 million in loan commitments. This amount does not include the unfunded portion of loans in process. Certificates of deposit scheduled to mature in less than one year at June 30, 2002, totaled $1.047 billion. Based on prior experience, management believes that a significant portion of such deposits will remain with the Company.
The major sources of the Company's cash flows are the areas of loans, marketable securities, deposits and borrowed funds.
Deposits are the Company's primary source of externally generated funds. The level of deposit inflows during any given period is heavily influenced by factors outside of management's control, such as the general level of short-term and long-term interest rates in the economy, as well as higher alternative yields that investors may obtain on competing investments such as money market mutual funds. Financial institutions, such as the Company, are also subject to deposit outflows. The Company's net deposits excluding interest credits and acquisitions, increased by $138.8 million, $133.8 million and $61.5 for the fiscal years ended June 30, 2002, 2001 and 2000, respectively.
Similarly, the amount of principal repayments on loans and the amount of new loan originations is heavily influenced by the general level of interest rates in the economy. Funds received from principal payments on loans for the fiscal years ended in June 30, 2002, 2001 and 2000 were $697.4 million, $450.1 million and $408.8 million, respectively. Loan originations for the years ended June 30, 2002, 2001 and 2000 were $974.4 million, $776.0 million and $629.1 million, respectively. The Company also sells a portion of the loans it originates and the cash flows from such sales for the fiscal years ended June 30, 2002, 2001 and 2000 were $132.5 million, $61.4 million and $1.1 million, respectively.
The Company also experiences significant cash flows from its portfolio of marketable securities as principal payments are received on mortgage-backed securities and as investment securities mature. During recent years, the Company has utilized cash to increase its portfolio of marketable securities. Cash flow from the repayment of principal and the maturity of marketable securities for the fiscal years ended June 30, 2002, 2001 and 2000 were $193.1 million, $77.9 million and $44.4 million, respectively. During the fiscal years ended June 30, 2002, 2001 and 2000, the company utilized cash to purchase marketable securities in the amount of $338.4 million, $183.9 million and $122.4 million, respectively.
The Company utilizes borrowings as a source of liquidity, when necessary, and as a source of funds for long term investment when market conditions permit. The net cash flow from the receipt and repayment of borrowings was a net decrease of $17.0 million for the fiscal year ended June 30, 2002, a net increase of $36.3 million for the fiscal year ended June 30, 2001 and a net decrease of $109.0 million for the fiscal year ended June 30, 2000. In addition, during the current fiscal year the Company issued trust preferred securities in two separate offerings raising $99.0 million in cash to be used for general corporate purposes, including capital contributions to its banking subsidiaries to support their growth strategies.
Other activity with respect to cash flow was the payment of cash dividends on common stock in the amount of $2.9 million, $7.6 million and $7.6 million for the fiscal years ended June 30 2002, 2001 and 2000, respectively. The current fiscal year ended June 30, 2002 was the first year in which Northwest Bancorp, MHC waived its right to receive cash dividends from the Company. Dividends paid to Northwest Bancorp, MHC during the fiscal years ended June 30, 2002, 2001 and 2000 were $0, $5,640,000 and $5,533,000, respectively.
IMPACT OF INFLATION AND CHANGING PRICES. The Consolidated Financial Statements of the Company and notes thereto, presented elsewhere herein, have been prepared in accordance with generally accepted accounting principles, which require the measurement of financial position and operating results in terms of historical dollars without considering the change in the relative purchasing power of money over time and due to inflation. The impact of inflation is reflected in the increased cost of the Company's operations. Unlike most industrial companies, nearly all the assets and liabilities of the Company are monetary. As a result, interest rates have a greater impact on the Company's performance than do the effects of general levels of inflation. Interest rates do not necessarily move in the same direction or to the same extent as the price of goods and services.
IMPACT OF NEW ACCOUNTING STANDARDS
On July 1, 2001, the Company adopted Statement of Financial Accounting Standards No. 141 "Business Combinations"("SFAS 141"). SFAS 141 addresses financial accounting and reporting for business combinations and supersedes APB Opinion No. 16, "Business Combinations", and FASB Statement No. 38, "Accounting for Preacquisition Contingencies of Purchased Enterprises". This statement effectively eliminates the use of the pooling method of accounting for business combinations and states that all business combinations in the scope of this statement are to be accounted for using only the purchase method. The provisions of this statement apply to all business
combinations initiated after June 30, 2001 and to all business combinations accounted for using the purchase method for which the date of acquisition is July 1, 2001, or later. Because the Company has generally used purchase accounting for its business combinations, this statement has not materially changed its ongoing operations.
Also on July 1, 2001, and concurrently with SFAS 141, the company adopted SFAS 142 "Goodwill and Other Intangible Assets" ("SFAS 142"). SFAS 142 addresses financial accounting and reporting for acquired goodwill and other intangible assets and supersedes APB Opinion No. 17, "Intangible Assets". This statement also addresses how goodwill and other intangible assets should be accounted for after they have been initially recognized in the financial statements. This statement, among other things, eliminates the regularly scheduled amortization of goodwill and replaces this method with a two-step process for testing the impairment of goodwill on at least an annual basis. This approach could cause more volatility in the Company's reported net income because impairment losses, if any, could occur irregularly and in varying amounts. Immediately upon adoption, and as required by SFAS 141 and SFAS 142, existing negative goodwill of $2.2 million was recorded in income as a cumulative effect of a change in accounting principle and the Company stopped amortizing the remaining goodwill of $11.3 million. In addition, the Company performed its initial impairment analysis of goodwill and other intangible assets noting that the estimated fair value exceeded the carrying amount.
SFAS 142 does not change, however, the accounting prescribed in FASB Statement No. 72, "Accounting for Certain Acquisitions of Banking or Thrift Institutions" (paragraphs 4-7). The FASB affirmed in an Action Alert "that paragraph 5 of FASB Statement No. 72, Accounting for Certain Acquisitions of Banking or Thrift Institutions, applies to all acquisitions of financial institutions (or branches thereof) whether `troubled' or not, in which the fair value of liabilities assumed exceeds the fair value of tangible and intangible assets acquired." As a result, the Company continues to amortize intangible assets of $55.4 million which meet the requirements of FASB Statement No. 72. The Company notes that the FASB has decided to undertake a limited-scope project to reconsider part of the guidance, specifically paragraphs 5 and 6, of Statement No. 72.
On July 5, 2001, the FASB released SFAS No. 143, "Accounting for Asset Retirement Obligations" (SFAS 143). This statement addresses financial accounting and reporting for obligations associated with the retirement of tangible long-lived assets and the associated retirement costs. This statement is effective for fiscal years beginning after June 15, 2002, with earlier application encouraged. The impact of adopting this statement is not expected to have a material effect on the financial statements of the Company.
On October 3, 2001, the FASB released SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets" (SFAS 144). This statement replaces Statement No. 121, "Accounting for the Impairment of Long-Lived Assets to Be Disposed Of" and replaces the provisions of APB Opinion No. 30, "Reporting Results of Operations-Reporting the Effects of Disposal of a Segment of a Business." The provisions of SFAS 144 are effective for financial statements issued for fiscal years beginning after December 15, 2001 and, generally, are to be applied prospectively. Early application is encouraged. The Company will be using this statement to recognize and measure the impairment, if any, of its intangible assets that are subject to amortization and does not anticipate a material change from the methods currently used under SFAS No. 121.
On April 30, 2002, the FASB released SFAS No. 145, "Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections." This statement updates, clarifies and simplifies existing accounting pronouncements. The provisions of this statement are effective for fiscal years beginning after May 15, 2002. The impact of adopting this statement is not expected to have a material effect on the financial statements of the Company.
On July 30, 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated with Exit or Disposal Activities." The standard requires companies to recognize costs associated with exit or disposal activities when they are incurred rather than at the date of commitment to an exit or disposal plan. The new requirements are effective prospectively for exit or disposal activities after December 31, 2002. Earlier adoption is encouraged. A company may not restate its previously issued financials. The new statement grandfathers the accounting for liabilities that a company had previously recorded under EITF Issue 94-3. The impact of adopting this statement is not expected to have a material effect on the financial statements of the Company.
SUBSEQUENT BUSINESS ACQUISITIONS
In September 2002, the Company completed its previously announced acquisition of Prestige Bancorp, Inc., and its subsidiary Prestige Bank, a Federal Savings Bank. Prestige Bank had four offices in the South Hills area of Pittsburgh, Pennsylvania and assets of approximately $190 million, deposits of approximately $122 million and shareholders' equity of approximately $11.7 million. Under terms of the agreement, shareholders received $13.75 in cash for each share of Prestige Bancorp, resulting in a cash payment of approximately $14.7 million and intangible assets of approximately $5.0 million.
Also as previously announced on August 16, 2001 and reported on Form 8-K, the Company had entered into an agreement to acquire Leeds Federal Bankshares, Inc. The transaction is subject to the approval of the OTS and Northwest's application is currently on file with the OTS pending approval. The parties have twice agreed to extend the date upon which the transaction must be completed to provide additional time to review the application of SFAS 141 and 142, which has been the primary reason for the delay in completing the application process. On August 28, 2002, the parties extended the date for completion of the merger to December 31, 2002. The parties also agreed to amend the merger agreement to modify the structure of the transaction in which Leeds Federal Savings Bank will become a wholly-owned subsidiary of Northwest Bancorp, MHC and will not be part of the Northwest Bancorp, Inc. consolidated group immediately after the merger as previously proposed. The $32.00 per share cash consideration to be paid to the public stockholders of Leeds Federal Bankshares, Inc. and all other terms and conditions of the merger remain generally unchanged.
ITEM 7A.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
ASSET AND LIABILITY MANAGEMENT-INTEREST RATE SENSITIVITY ANALYSIS. The matching of assets and liabilities may be analyzed by examining the extent to which such assets and liabilities are "interest rate sensitive" and by monitoring an institution's interest rate sensitivity "gap." An asset or liability is said to be interest rate sensitive within a specific time period if it will mature or reprice within that time period. The interest rate sensitivity gap is defined as the difference between the amount of interest-earning assets maturing or repricing within a specific time period and the amount of interest-bearing liabilities maturing or repricing within that same time period. A gap is considered positive when the amount of interest rate sensitive assets exceeds the amount of interest rate sensitive liabilities. A gap is considered negative when the amount of interest rate sensitive liabilities exceeds the amount of interest rate sensitive assets. During a period of rising interest rates, a negative gap would tend to adversely affect net interest income while a positive gap would tend to positively affect net interest income. Similarly, during a period of falling interest rates, a negative gap would tend to positively affect net interest income while a positive gap would tend to adversely affect net interest income.
The Company's policy in recent years has been to reduce its exposure to interest rate risk generally by better matching the maturities of its interest rate sensitive assets and liabilities and by increasing the interest rate sensitivity of its interest-earning assets. The Company (i) emphasizes the origination of short-term, fixed-rate consumer loans, and at June 30, 2002, such loans constituted $452.6 million, or 14.7%, of the Company's total loan portfolio; (ii) emphasizes the origination of one- to four-family residential mortgage loans with terms of 15 years or less, and purchases shorter term or adjustable-rate investment securities and mortgage-backed securities; and (iii) originates adjustable-rate mortgage loans, adjustable-rate consumer loans, and adjustable-rate commercial loans, which at June 30, 2002, totaled $455.5 million or 14.8% of the Company's total loan portfolio. Of the Company's $4.023 billion of interest-earning assets at June 30, 2002, $1.022 billion, or 25.4%, consisted of assets with adjustable rates of interest. The Company also attempts to reduce interest rate risk by lengthening the maturities of its interest-bearing liabilities by using FHLB advances as a source of long-term fixed-rate funds, and by promoting longer term certificates of deposit.
At June 30, 2002, total interest-bearing liabilities maturing or repricing within one year exceeded total interest-earning assets maturing or repricing in the same period by $236.2 million, representing a cumulative negative one-year gap ratio of 5.5%. The Company has an Asset/Liability Committee with members consisting of various individuals from Senior Management. This committee meets monthly in an effort to effectively manage the Company's balance sheet and to monitor activity and set pricing. The Company also has a Risk Management Committee comprised of certain members of the Board of Directors which is responsible for reviewing the Company's asset and liability management policies. The Committee meets quarterly and, as part of their risk management assessment, reviews
interest rate risks and trends, the Company's interest sensitivity position and the liquidity and market value of the Company's investment portfolio.
The following table sets forth, on an amortized cost basis, the amounts of interest-earning assets and interest-bearing liabilities outstanding at June 30, 2002, which are expected to reprice or mature, based upon certain assumptions, in each of the future time periods shown. Except as stated below, the amounts of assets and liabilities shown that reprice or mature during a particular period were determined in accordance with the earlier of the term of repricing or the contractual term of the asset or liability. Management believes that these assumptions approximate the standards used in the savings industry and considers them appropriate and reasonable. For information regarding the contractual maturities of the Company's loans, investments and deposits, see "Business of the Company--Lending Activities," "--Investment Activities" and "--Sources of Funds."
When assessing the interest rate sensitivity of the company, analysis of historical trends indicates that loans will prepay at various speeds (or annual rates) depending on the variance between the weighted average portfolio rates and the current market rates. In preparing the table above, it has been assumed market rates will remain constant at current levels and as a result, the Company's loans will be affected as follows: (i) adjustable-rate mortgage loans will prepay at an annual rate of 20%; (ii) fixed-rate mortgage loans will prepay at an annual rate of 10% to 15%; (iii) commercial loans will prepay at an annual rate of 15%; (iv) consumer loans held by the Bank will prepay at an annual rate of 25%; and (v) consumer loans held by Northwest Consumer will prepay at an annual rate of 60% to 65%. In regards to the Company's deposits, it has been assumed that (i) fixed maturity deposits will not be withdrawn prior to maturity; (ii) money market accounts will gradually reprice over the next five years; and (iii) savings accounts and checking accounts will reprice either when the rates on such accounts reprice as interest rate levels change, or when deposit holders withdraw funds from such accounts and select other types of deposit accounts, such as certificate accounts, which may have higher interest rates. For purposes of this analysis, management has estimated, based on historical trends, that only $135 million of the Company's checking accounts and $300 million of the Company's
savings accounts are interest sensitive and will reprice in one year or less, and that the remainder will reprice over longer time periods.
The above assumptions utilized by management are annual percentages based on remaining balances and should not be regarded as indicative of the actual prepayments and withdrawals that may be experienced by the Company. Moreover, certain shortcomings are inherent in the analysis presented by the foregoing table. For example, although certain assets and liabilities may have similar maturities or periods to repricing, they may react in different degrees to changes in market interest rates. Also, interest rates on certain types of assets and liabilities may fluctuate in advance of or lag behind changes in market interest rates. Additionally, certain assets, such as some adjustable-rate loans, have features that restrict changes in interest rates on a short-term basis and over the life of the asset. Moreover, in the event of a change in interest rates, prepayment and early withdrawal levels would likely deviate significantly from those assumed in calculating the table.
In an effort to assess the market risk, the Company utilizes a simulation model to determine the effect of immediate incremental increases or decreases in interest rates on net interest income and the market value of the Company's equity. Certain assumptions are made regarding loan prepayments and decay rates of passbook and NOW accounts. Because it is difficult to accurately project the market reaction of depositors and borrowers, the effects of actual changes in interest on these assumptions may differ from simulated results.
The Company has established the following guidelines for assuming interest rate risk:
- NET INCOME SIMULATION. Given a parallel shift of 2% in interest rates, the estimated net income may not decrease by more than 20% within a one-year period.
- MARKET VALUE OF EQUITY SIMULATION. The market value of the Company's equity is the net present value of the Company's assets and liabilities. Given a parallel shift of 2% in interest rates, equity may not decrease by more than 50% of total shareholder's equity.
The following table illustrates the simulated impact of a 1% or 2% upward or downward movement in interest rates on net income, return on average equity, diluted earnings per share and market value of equity. This analysis was prepared assuming that interest-earning asset levels at June 30, 2002 remain constant. The impact of the rate movements was computed by simulating the effect of an immediate and sustained shift in interest rates over a twelve-month period from the June 30, 2002 levels.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The Financial Statements are included in Part III, Item 14 of this Form 10-K.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
Not Applicable
PART III
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS
The "Proposal I--Election of Directors" section of the Company's definitive proxy statement for the Company's 2002 Annual Meeting of Stockholders (the "2002 Proxy Statement") is incorporated herein by reference.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION
The "Proposal I--Election of Directors" section of the Company's 2002 Proxy Statement is incorporated herein by reference.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS
The "Proposal I--Election of Directors" section of the Company's 2002 Proxy Statement is incorporated herein by reference.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The "Transactions with Certain Related Persons" section of the Company's 2002 Proxy Statement is incorporated herein by reference.
ITEM 14.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a)(1) FINANCIAL STATEMENTS
The following documents are filed as part of this Form 10-K.
(A) Independent Auditors' Report
(B) Consolidated Statements of Financial Condition - at June 30, 2002 and 2001
(C) Consolidated Statements of Income - Years ended June 30, 2002, 2001 and 2000
(D) Consolidated Statements of Changes in Shareholders' Equity - Years ended June 30, 2002, 2001 and 2000
(E) Consolidated Statements of Cash Flows - Years ended June 30, 2002, 2001 and 2000
(F) Notes to Consolidated Financial Statements.
(a)(2) FINANCIAL STATEMENT SCHEDULES
(b) REPORTS ON FORM 8-K
On May 10, 2002 the Company filed a current report on Form 8-K stating that the Company, its mutual holding company, Northwest Bancorp, MHC, and its subsidiary savings bank Northwest Savings Bank (collectively "Northwest") entered into an Agreement with Leeds Federal Bankshares, Inc., its mutual holding company, Leeds Federal Bankshares, MHC, and its subsidiary savings bank Leeds Federal Savings Bank (collectively "Leeds") extending the deadline for Northwest to acquire Leeds until August 28, 2002. Also included as exhibits were the original agreement and plan of merger dated August 16, 2001 (incorporated by reference to Exhibit 2.1 to the Registrant's Form 8-K filed on August 24, 2001), the agreement by Northwest and Leeds dated April 30, 2002 to extend the deadline for closing the acquisition until August 28, 2002, and the joint press release dated April 30, 2002 announcing the agreement.
(c) EXHIBITS
(a) (3) EXHIBITS: - -----------------
- ------------ * Incorporated by reference to the Company's Registration Statement on Form S-4 (File No. 333-31687), originally filed with the SEC on July 21, 1997, as amended on October 9, 1997 and November 4, 1997.
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(With Independent Auditors' Report Thereon)
INDEPENDENT AUDITORS' REPORT
The Board of Directors Northwest Bancorp, Inc.:
We have audited the accompanying consolidated statements of financial condition of Northwest Bancorp, Inc. and subsidiaries as of June 30, 2002 and 2001 and the related consolidated statements of income, changes in shareholders' equity, and cash flows for each of the years in the three-year period ended June 30, 2002. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Northwest Bancorp, Inc. and subsidiaries as of June 30, 2002 and 2001 and the results of their operations and their cash flows for each of the years in the three-year period ended June 30, 2002 in conformity with accounting principles generally accepted in the United States of America.
As discussed in note 1 to the consolidated financial statements, effective July 1, 2001, the Company adopted the provisions of Statement of Financial Accounting Standards ("SFAS") No. 141, "Business Combinations," and certain provisions of SFAS No. 142, "Goodwill and Other Intangible Assets," as required for goodwill and intangible assets resulting from business combinations consummated after June 30, 2001.
/s/ KPMG LLP
Pittsburgh, Pennsylvania July 19, 2002
NORTHWEST BANCORP, INC. AND SUBSIDIARIES Consolidated Statements of Financial Condition June 30, 2002 and 2001 (Amounts in thousands, excluding share data)
ASSETS 2002 2001 ---------- ----------
Cash and cash equivalents $ 64,687 50,958 Interest-earning deposits in other financial institutions 153,067 45,008 Marketable securities available-for-sale (amortized cost of $426,160 and $386,689) 435,723 391,579 Marketable securities held-to-maturity (market value of $398,891 and $333,372) 396,503 339,331 Loans receivable, net of allowance for estimated losses of $22,042 and $20,290 3,012,606 2,856,581 Accrued interest receivable 19,738 18,795 Real estate owned, net 5,157 3,697 Federal Home Loan Bank stock, at cost 23,702 22,499 Premises and equipment, net 55,374 46,767 Other intangible assets 55,424 55,012 Goodwill 11,268 9,031 Other assets 67,997 13,573 ---------- ---------- Total assets $4,301,246 3,852,831 ========== ==========
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities: Deposits $3,593,122 3,264,940 Borrowed funds 259,260 276,212 Advances by borrowers for taxes and insurance 21,065 21,832 Accrued interest payable 5,169 3,720 Other liabilities 11,279 10,414 Guaranteed preferred beneficial interests in Company's junior subordinated deferrable interest debentures 99,000 -- ---------- ---------- Total liabilities 3,988,895 3,577,118
Shareholders' equity Common stock, $0.10 par value. Authorized 100,000,000 shares; issued and outstanding 47,549,659 and 47,426,755 shares at June 30, 2002 and 2001, respectively 4,755 4,743 Paid-in capital 71,838 71,283 Retained earnings, substantially restricted 229,542 196,566 Accumulated other comprehensive income, net 6,216 3,178 Unearned recognition and retention plan shares -- (57) ---------- ---------- Total shareholders' equity 312,351 275,713 ---------- ---------- Total liabilities and shareholders' equity $4,301,246 3,852,831 ========== ==========
See accompanying notes to consolidated financial statements.
NORTHWEST BANCORP, INC. AND SUBSIDIARIES Consolidated Statements of Income Years ended June 30, 2002, 2001, and 2000 (Amounts in thousands, excluding share data)
2002 2001 2000 --------- --------- --------- Interest income: Loans receivable $ 228,333 222,740 196,596 Mortgage-backed securities 26,531 29,161 27,236 Taxable investment securities 9,710 11,630 10,608 Tax-free investment securities 6,434 5,022 4,404 Interest-earning deposits 3,492 877 880 --------- --------- --------- Total interest income 274,500 269,430 239,724
Interest expense: Deposits 129,004 140,881 115,450 Borrowed funds 18,251 16,441 16,649 --------- --------- --------- Total interest expense 147,255 157,322 132,099 --------- --------- --------- Net interest income 127,245 112,108 107,625 Provision for loan losses 6,360 5,347 4,149 --------- --------- --------- Net interest income after provision for loan losses 120,885 106,761 103,476
Noninterest income: Service charges and fees 11,910 10,030 7,020 Trust income 1,869 465 155 Insurance commission income 1,523 1,913 2,135 Gain on sale of marketable securities, net 73 368 397 Gain (loss) on sale of loans 730 478 (74) Gain on sale of real estate owned 592 602 621 Writedown of investment securities (400) -- -- Other operating income 1,876 1,198 1,017 --------- --------- --------- Total noninterest income 18,173 15,054 11,271
3 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES Consolidated Statements of Income Years ended June 30, 2002, 2001, and 2000 (Amounts in thousands, excluding share data)
2002 2001 2000 ------- ------- -------
Noninterest expense: Compensation and employee benefits $48,176 43,569 38,028 Premises and occupancy costs 11,869 10,570 9,138 Office operations 7,148 5,639 4,983 Processing expenses 7,108 6,442 5,924 Amortization of intangibles 7,306 7,371 5,831 Other expenses 10,064 8,748 9,730 ------- ------- ------- Total noninterest expense 91,671 82,339 73,634 ------- ------- ------- Income before income taxes and cumulative effect of accounting change 47,387 39,476 41,113
Provision for income taxes: Federal 12,199 10,488 11,263 State 1,543 2,211 2,647 ------- ------- ------- Total provision for income taxes 13,742 12,699 13,910 ------- ------- ------- Income before cumulative effect of accounting change 33,645 26,777 27,203 Cumulative effect of accounting change 2,237 -- -- ------- ------- ------- Net income $35,882 26,777 27,203 ======= ======= ======= Basic per share amounts: Income before cumulative effect of accounting change $ 0.71 0.57 0.58 Cumulative effect of accounting change 0.05 -- -- ------- ------- ------- Net income $ 0.76 0.57 0.58 ======= ======= ======= Diluted per share amounts: Income before cumulative effect of accounting change $ 0.70 0.56 0.57 Cumulative effect of accounting change 0.05 -- -- ------- ------- ------- Net income $ 0.75 0.56 0.57 ======= ======= =======
See accompanying notes to consolidated financial statements.
4 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES Consolidated Statements of Changes in Shareholders' Equity Years ended June 30, 2002, 2001, and 2000 (Amounts in thousands, excluding share data)
5 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES Consolidated Statements of Changes in Shareholders' Equity Years ended June 30, 2002, 2001, and 2000 (Amounts in thousands, excluding share data)
See accompanying notes to consolidated financial statements.
6 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES Consolidated Statements of Cash Flows Years ended June 30, 2002, 2001, and 2000 (Amounts in thousands, excluding share data)
2002 2001 2000 --------- -------- ---------
Operating activities: Net income $ 35,882 26,777 27,203 Adjustments to reconcile net income to net cash provided by operating activities: Provision for loan losses 6,360 5,347 4,149 Net gain on sales of assets (1,395) (1,448) (944) Proceeds from sale of marketable securities, trading -- -- 8,822 Amortization of goodwill and other intangible assets 7,306 7,371 5,831 Net depreciation, amortization and accretion 5,892 5,449 4,002 Decrease (increase) in other assets (5,474) (6,080) 1,080 Increase (decrease) in other liabilities 1,998 3,011 (3,682) Net accretion of discounts on marketable securities (2,491) (1,839) (541) Noncash compensation expense related to stock benefit plans 57 7 1,145 Noncash writedown of investment securities 400 -- -- Noncash cumulative change in accounting principle (2,237) -- -- Other -- 26 -- --------- -------- --------- Net cash provided by operating activities 46,298 38,621 47,065 --------- -------- --------- Investing activities: Purchase of marketable securities held-to-maturity (129,047) (126,420) (9,252) Purchase of marketable securities available-for-sale (209,396) (57,488) (113,176) Proceeds from maturities and principal reductions of marketable securities held-to-maturity 72,144 25,662 25,514 Proceeds from maturities and principal reductions of marketable securities available-for-sale 120,960 52,291 18,884 Proceeds from sales of marketable securities available-for-sale 50,720 15,477 21,616 Purchase of bank-owned life insurance (50,000) -- -- Loan originations (974,413) (776,001) (629,104) Proceeds from loan maturities and principal reductions 697,427 450,120 408,837 Proceeds from loan sales 132,464 61,365 1,137 Purchase of Federal Home Loan Bank stock (1,203) (1,230) (3,112) Proceeds from sale of real estate owned 3,514 2,429 3,473 Sale of real estate owned for investment 32 97 534 Purchase of premises and equipment (13,184) (8,166) (8,282) Acquisitions, net of cash received 53,443 59,681 203,319 --------- -------- --------- Net cash used by investing activities (246,539) (302,183) (79,612) --------- -------- ---------
7 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES Consolidated Statements of Cash Flows Years ended June 30, 2002, 2001, and 2000 (Amounts in thousands, excluding share data)
2002 2001 2000 --------- --------- ---------
Financing activities: Increase in deposits, net $ 243,222 240,490 151,988 Proceeds from long-term borrowings 1,041 116,963 37,112 Repayments of long-term borrowings (17,294) (31,217) (33,607) Net decrease in short-term borrowings (699) (49,475) (112,479) Increase (decrease) in advances by borrowers for taxes and insurance (767) (725) 3,603 Proceeds from issuance of guaranteed preferred beneficial interests in Company's junior subordinated debentures 99,000 -- -- Cash dividends paid (2,906) (7,582) (7,577) Proceeds from options exercised 432 308 20 --------- --------- --------- Net cash provided by financing activities 322,029 268,762 39,060 --------- --------- --------- Net increase in cash and cash equivalents 121,788 5,200 6,513 --------- --------- --------- Cash and cash equivalents at beginning of period 95,966 90,766 84,253 Net increase in cash and cash equivalents 121,788 5,200 6,513 --------- --------- --------- Cash and cash equivalents at end of period $ 217,754 95,966 90,766 ========= ========= ========= Cash paid during the year for:
Interest on deposits and borrowings (including interest credited to deposit accounts of $104,426, $106,708, and $90,526, respectively) $ 145,806 155,954 133,445 Income taxes 14,689 15,808 13,926 Noncash activities: Business acquisitions: Fair value of assets acquired $ 32,566 79,253 68,643 Net cash received 53,443 59,681 203,319 --------- --------- --------- Liabilities assumed $ 86,009 138,934 271,962 ========= ========= ========= Loan foreclosures and repossessions $ 4,382 3,380 1,625 Sale of real estate owned financed by the Company $ 838 315 536
See accompanying notes to consolidated financial statements.
8 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(a) NATURE OF OPERATIONS
The Northwest group of companies is organized in a two-tier holding company structure. Northwest Bancorp, MHC is a federal mutual holding company and owns approximately 74% of the outstanding shares of common stock of Northwest Bancorp, Inc. (the Company). The current fiscal year ended June 30, 2002 was the first fiscal year in which Northwest Bancorp, MHC applied for, and received, approval from the Office of Thrift Supervision (OTS), its primary regulator, to waive its right to receive cash dividends from the Company. Dividends paid to Northwest Bancorp, MHC during June 30, 2002, 2001 and 2000 were $-0-, $5,640,000 and $5,533,000, respectively.
Northwest Bancorp, Inc., which is headquartered in Warren, Pennsylvania, is a federal savings and loan holding company for its wholly owned subsidiaries Northwest Savings Bank (Northwest) and Jamestown Savings Bank (Jamestown). These retail oriented financial institutions offer traditional deposit and loan products through their 116 banking locations in Pennsylvania, six banking locations in southwestern New York and four banking locations in eastern Ohio. The Company and its subsidiaries also offer loan products through 47 consumer finance offices in Pennsylvania and two in New York. The majority of the Company's real estate loans are in Pennsylvania.
(b) CONSOLIDATION
The consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries after elimination of all intercompany accounts and transactions.
(c) CASH AND CASH EQUIVALENTS
For purposes of the statement of cash flows, cash and cash equivalents include cash and amounts due from depository institutions and interest-bearing deposits in other financial institutions.
(d) MARKETABLE SECURITIES
The Company classifies marketable securities at the time of their purchase as either held-to-maturity, available-for-sale or trading securities. Securities for which management has the intent and the Company has the ability to hold until their maturity are classified as held-to-maturity and are carried on the Company's books at cost, adjusted for amortization of premium and accretion of discount on a level yield basis. If it is management's intent at the time of purchase to hold securities for an indefinite period of time and/or to use such securities as part of its asset/liability management strategy, the securities are classified as available-for-sale and are carried at fair value, with unrealized gains and losses excluded from net earnings and reported as accumulated other comprehensive income, a separate component of shareholders' equity, net of tax. Securities available-for-sale include securities which may be sold in response to changes in interest rates, resultant prepayment risk or other market factors. Securities that are bought and held principally for the purpose of selling them in the near term are classified as trading and are reported at fair value, with unrealized gains and losses included in earnings. The cost of securities sold is determined on a specific identification basis.
9 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
Federal law requires a member institution of the Federal Home Loan Bank (FHLB) system to hold stock of its district FHLB according to a predetermined formula. This stock is recorded at cost and may be pledged to secure FHLB advances.
(e) LOANS RECEIVABLE
Loans are stated at their unpaid principal balance net of any deferred origination fees or costs and the allowance for estimated loan losses. Interest income on loans is credited to income as earned. Interest earned on loans for which no payments were received during the month is accrued at month end. Interest accrued on loans more than ninety days delinquent is offset by a reserve for uncollected interest, and such loans are placed on nonaccrual status.
The Company has identified certain residential loans which will be sold prior to maturity. These loans are recorded at the lower of amortized cost or market value and are not significant as of June 30, 2002 and 2001.
Loan fees and certain direct loan origination costs are deferred, and the net deferred fee or cost is then recognized using the level-yield method over the contractual life of the loan as an adjustment to interest income.
(f) PROVISION FOR LOAN LOSSES
Provisions for estimated losses on the loan portfolios, in addition to those specifically identified, are charged to earnings in an amount that results in a loss allowance sufficient, in management's judgment, to cover losses based on past experience and economic conditions. Estimated losses on specific loans are charged to the allowance for loan losses when, in the opinion of management, a significant decline reduces the estimated fair value of the underlying collateral to less than the loan's current carrying value.
Management considers a loan to be impaired when it is probable that the Company will be unable to collect all amounts due according to the contractual terms of the loan agreement. Nonaccrual loans are deemed to be impaired unless fully secured with liquid collateral. In evaluating whether a loan is impaired, management considers not only the amount that the Company expects to collect but also the timing of collection. Generally, if a delay in payment is insignificant (e.g., less than 30 days), a loan is not deemed to be impaired.
When a loan is considered to be impaired, the amount of impairment is measured based on the present value of expected future cash flows discounted at the loan's effective interest rate or at the loan's market price or fair value of the collateral if the loan is collateral dependent. Loans are evaluated individually for impairment. Smaller balance, homogeneous loans (e.g., primarily consumer and residential mortgages) are evaluated collectively for impairment. Impairment losses are included in the allowance for loan losses. Impaired loans are charged off when management believes that the ultimate collectibility of a loan is not likely.
Interest income on impaired loans is recognized using the cash basis method. Such interest ultimately collected is credited to income in the period of recovery or applied to reduce principal if there is
10 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
sufficient doubt about the collectibility of principal. Interest on impaired loans that are contractually past due ninety days and over is reserved.
(g) REAL ESTATE OWNED
Real estate owned is comprised of property acquired through foreclosure or voluntarily conveyed by delinquent borrowers. These assets are recorded on the date acquired at the lower of the related loan balance or market value of the collateral, as determined by an appraisal. Subsequently, foreclosed assets are valued at the lower of the amount recorded at acquisition date or the current market value, less estimated disposition costs. Gains or losses realized from the disposition of such property are credited or charged to noninterest income.
(h) PREMISES AND EQUIPMENT
Premises and equipment are stated at cost less accumulated depreciation and amortization. Depreciation is accumulated on a straight-line basis over the estimated useful lives of the related assets. Estimated lives range from three to thirty years. Amortization of leasehold improvements is accumulated on a straight-line basis over the terms of the related leases or the useful lives of the related assets, whichever is shorter.
(i) GOODWILL AND OTHER INTANGIBLES
On July 1, 2001 the Company adopted Statement of Financial Accounting Standards No. 141 "Business Combinations" (SFAS 141). SFAS 141 addresses financial accounting and reporting for business combinations and supercedes APB Opinion No. 16, "Business Combinations", and FASB Statement No. 38, "Accounting for Preacquisition Contingencies of Purchased Enterprises." This statement effectively eliminates the use of the pooling method of accounting for business combinations and states that all business combinations in the scope of this statement are to be accounted for using only the purchase method. The provisions of this statement apply to all business combinations initiated after June 30, 2001 and to all business combinations accounted for using the purchase method for which the date of acquisition is July 1, 2001, or later. Because the Company has generally used purchase accounting for its business combinations, this statement has not materially changed its ongoing operations.
Also on July 1, 2001, and concurrently with SFAS 141, the Company adopted SFAS 142 "Goodwill and Other Intangible Assets" (SFAS 142). SFAS 142 addresses financial accounting and reporting for acquired goodwill and other intangible assets and supercedes APB Opinion No. 17, "Intangible Assets." This statement addresses how goodwill and other intangible assets should be accounted for after they have been initially recognized in the financial statements. This statement, among other things, eliminates the regularly scheduled amortization of goodwill and replaces this method with a two-step process for testing the impairment of goodwill on at least an annual basis. This approach could cause more volatility in the Company's reported net income because impairment losses, if any, could occur irregularly and in varying amounts. Immediately upon adoption, and as required by SFAS 141 and SFAS 142, existing negative goodwill of $2.2 million was recorded in income as a cumulative effect of a change in accounting principle and the Company stopped amortizing the remaining goodwill of $11.3 million. There was no tax effect associated with the recognition of negative goodwill of $2.2 million as such amount arose in a tax-free reorganization. In addition, the Company performed its initial impairment
11 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
analysis of goodwill and other intangible assets noting that the estimated fair value exceeded the carrying amount.
SFAS 142 does not change, however, the accounting prescribed in FASB Statement No. 72, "Accounting for Certain Acquisitions of Banking or Thrift Institutions" (paragraphs 4-7). The FASB affirmed in an Action Alert "that paragraph 5 of FASB Statement No. 72, Accounting for Certain Acquisitions of Banking or Thrift Institutions, applies to all acquisitions of financial institutions (or branches thereof) whether 'troubled' or not, in which the fair value of liabilities assumed exceeds the fair value of tangible and intangible assets acquired." As a result, the Company continues to amortize intangible assets of $55.4 million which meet the requirements of FASB Statement No. 72. The Company notes that the FASB has decided to undertake a limited-scope project to reconsider part of the guidance, specifically paragraphs 5 and 6, of Statement No. 72.
Prior to adopting SFAS 141 and SFAS 142, the Company amortized goodwill and other intangible assets using the straight-line method over the estimated benefit period of ten years.
(j) CORE DEPOSIT INTANGIBLES
Upon acquiring another financial institution, or branches thereof, the Company engages an independent third party of experts to analyze and prepare a core deposit study. This study reflects the cumulative present value benefit of acquiring deposits versus an alternative source of funding. Based upon this analysis, the amount of the premium related to the core deposits of the business purchased is calculated along with the estimated life of the acquired deposits. The core deposit intangible is then amortized to expense on a level yield basis over an approximate life of 7 to 10 years.
(k) BANK-OWNED LIFE INSURANCE
In June 2002, the Company purchased $50 million of insurance on the lives of a certain group of key employees. The policies were purchased to help offset the cost of increases in various fringe benefit plans including healthcare. The cash surrender value of these policies is included in other assets on the consolidated statements of financial condition and any increases in the cash surrender value are recorded as other noninterest income on the consolidated statements of income. In the event of the death of an insured individual under these policies, the Company would receive a death benefit which would be recorded as noninterest income.
(l) DEPOSITS
Interest on deposits is accrued and charged to expense monthly and is paid or credited in accordance with the terms of the accounts.
(m) PENSION PLAN
The Company has noncontributory defined benefit pension plans. The net periodic pension cost has been calculated in accordance with Statement of Financial Accounting Standards No. 87, Employers' Accounting for Pensions.
12 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
(n) INCOME TAXES
The Company joins with its wholly owned subsidiaries, Northwest and Jamestown, in filing a consolidated federal income tax return.
The Company accounts for income taxes using the asset and liability method. The objective of the asset and liability method is to establish deferred tax assets and liabilities for temporary differences between the financial reporting and tax basis of the Company's assets and liabilities based on enacted tax rates expected to be in effect when such amounts are realized or settled.
(o) TRUST PREFERRED SECURITIES
During the quarter ended December 31, 2001, the Company issued $99 million of Trust Preferred Securities in two separate offerings. The first offering involved the issuance of $69 million of 8.75% Cumulative Trust Preferred Securities (liquidation amount $25 per preferred security) of Northwest Capital Trust I, a Delaware business trust and newly formed subsidiary of the Company. This security trades on the NASDAQ Stock Market under the symbol NWSBP. The second offering of $30 million was also issued through a special purpose business trust formed by the Company and was sold in a private transaction to a pooled investment vehicle with a floating rate of interest equal to LIBOR plus 3.60%, reset quarterly.
(p) RECLASSIFICATION OF PRIOR YEARS' STATEMENTS
Certain items previously reported have been reclassified to conform with the current year's reporting format.
(q) OFF-BALANCE-SHEET INSTRUMENTS
In the normal course of business, the Company extends credit in the form of loan commitments, undisbursed lines of credit and standby letters of credit. These off-balance-sheet instruments involve, to various degrees, elements of credit and interest rate risk not reported in the consolidated statement of financial condition.
(r) USE OF ESTIMATES
The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of the financial statements and the reported amount of revenues and expenses during the reporting period. Actual results could differ from these estimates.
(2) CHARTER CONVERSION
Effective June 29, 2001, the Company converted its charter from a Pennsylvania corporation to a Federal corporation as approved by its stockholders at the annual meeting held on December 20, 2000. In addition, Northwest Bancorp, MHC, the Company's Mutual Holding Company, also changed its charter from a Pennsylvania mutual holding company to a federal mutual holding company. As a result of this conversion, the primary regulator(s) also changed from the current Board of Governors of the Federal Reserve System
13 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
and the Pennsylvania Department of Banking to the Office of Thrift Supervision. The Company's savings bank subsidiaries, however, have both retained their state savings bank charters.
(3) BUSINESS COMBINATIONS
On December 14, 2001, the Company completed the acquisition of two retail banking offices located in the Pennsylvania communities of Johnsonburg and Emporium. The acquisition included approximately $55 million in deposits, $22 million in loans and the related fixed assets. This cash purchase created intangible assets of approximately $5.7 million.
On November 16, 2001, the Company purchased a retail banking office in Ebensburg, Pennsylvania. The acquisition included approximately $26 million of deposits and the related fixed assets. This cash purchase created intangible assets of approximately $2.0 million.
On October 26, 2001, the Company purchased a retail banking office located within the Shop n' Save supermarket in Washington, Pennsylvania. The acquisition included approximately $4.5 million in deposits and the related fixed assets. This cash purchase created intangible assets of approximately $91,000.
On April 27, 2001, the Company completed its acquisition of Heritage Trust Company, an independent investment management and trust company headquartered in Erie, Pennsylvania. With assets under management of almost $300 million, Heritage provides a wide range of investment management and trust services for individuals, businesses and charitable organizations throughout northwestern Pennsylvania. The transaction was accounted for using the purchase method of accounting resulting in goodwill of approximately $4,170,000.
On January 31, 2001, the Company completed its purchase of a retail brokerage office in Warren, Pennsylvania, through its subsidiary, Northwest Financial Services, Inc. The new office provides financial consulting and full service brokerage to the greater Warren area. The transaction was accounted for using the purchase method of accounting resulting in goodwill of approximately $50,000.
On November 3, 2000, the Company acquired nine retail banking offices in Potter and Tioga counties in north central Pennsylvania. The acquisition included approximately $138 million in deposits and $57 million in consumer and business loans, along with the related fixed assets. The transaction was accounted for using the purchase method of accounting and resulted in recording an intangible asset of approximately $15,325,000.
In September 1999, the Company purchased eight retail banking offices located in various communities in Western Pennsylvania. This acquisition included approximately $270,000,000 in deposits, $47,000,000 in consumer and business loans and the related office facilities and equipment. The acquisition was accounted for using the purchase method of accounting and resulted in an intangible asset of approximately $20,400,000.
14 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
(4) MARKETABLE SECURITIES
Marketable securities at June 30, 2002, are as follows:
15 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
16 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
Marketable securities at June 30, 2002, are as follows:
17 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
Expected maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations.
The following table presents information regarding the issuers and the carrying value of the Company's mortgage-backed securities:
18 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
Marketable securities having a carrying value of $111,824,000 at June 30, 2002, were pledged under collateral agreements. During the fiscal years 2002, 2001, and 2000, the Company sold marketable securities classified as either available-for-sale or trading for $50,720,000, $15,477,000, and $30,438,000, respectively. The gross pretax profit on these sales was $73,000, $368,000, and $397,000. In addition, during fiscal 2002, the Company experienced other than temporary declines in its held-to-maturity portfolio resulting in write-downs of $400,000.
(5) LOANS RECEIVABLE
Loans receivable at June 30, 2002 and 2001, are summarized in the table below:
At June 30, 2002 and 2001, the Company serviced loans for others approximating $214,269,000 and $110,700,000, respectively. These loans serviced for others are not assets of the Company and are appropriately excluded from the Company's financial statements.
At June 30, 2002, approximately 93% of the Company's loan portfolio was secured by properties located in Pennsylvania. The Company does not believe it has significant concentrations of credit risk to any one group of borrowers given its underwriting and collateral requirements.
Loans receivable at June 30, 2002, include $455,485,000 of adjustable rate loans and $2,618,269,000 of fixed rate loans.
19 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
Loans receivable at June 30, 2001, include $367,457,000 of adjustable rate loans and $2,551,739,000 of fixed rate loans.
The Company's exposure to credit loss in the event of nonperformance by the other party to off-balance-sheet financial instruments is represented by the contract amount of the financial instrument. The Company uses the same credit policies in making commitments for off-balance-sheet financial instruments as it does for on-balance-sheet instruments. Financial instruments with off-balance-sheet risk as of June 30, 2002 and 2001, are presented in the following table:
Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. The Company evaluates each customer's creditworthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary, by the Company upon extension of credit is based on management's credit evaluation of the counterparty. Collateral held varies but generally may include cash, marketable securities and property.
Outstanding mortgage loan commitments at June 30, 2002, for fixed rate loans, are $55,605,000. The interest rates on these commitments approximate market rates at June 30, 2002. Outstanding mortgage loan commitments at June 30, 2002, for adjustable rate loans are $18,976,000. The fair value of these commitments are affected by fluctuations in market rates of interest.
The Company automatically places loans on nonaccrual status when they become more than 90 days contractually delinquent or when the paying capacity of the obligor becomes inadequate to meet the requirements of the contract. When a loan is placed on nonaccrual, all previously accrued and uncollected interest is reversed against current period interest income. Nonaccrual loans at June 30, 2002, 2001 and 2000 were $15,800,000, $17,635,000 and $10,260,000, respectively.
A loan is considered to be impaired, as defined by SFAS No. 114 "Accounting by Creditors for Impairment of a Loan," when, based on current information and events, it is probable that the Company will be unable to collect all amounts due according to the contractual terms of the loan agreement including both contractual principal and interest payments. The amount of impairment is required to be measured using one of the three methods prescribed by SFAS 114: (1) the present value of expected future cash flows discounted at the loan's effective interest rate; (2) the loan's observable market price; or (3) the fair value of collateral if the loan is collateral dependent. If the measure of the impaired loan is less than the recorded investment in the loan a specific reserve is allocated for the impairment. Impaired loans at June 30, 2002, 2001, and 2000 were $15,327,000, $16,043,000, and $6,002,000, respectively. Average
20 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
impaired loans during fiscal 2002, 2001 and 2000 were $16,152,000, $12,979,000 and $13,886,000, respectively.
There were no commitments to lend additional funds to debtors on nonaccrual status.
(6) ACCRUED INTEREST RECEIVABLE
Accrued interest receivable as of June 30, 2002 and 2001, is presented in the following table:
(7) ALLOWANCE FOR LOAN LOSSES
Changes in the allowance for losses on loans receivable for the years ended June 30, 2002, 2001, and 2000, are presented in the following table:
Management believes that the allowance for estimated loan losses is appropriate as of June 30, 2002. While management uses available information to provide for losses, future additions to the allowance may be necessary based on changes in economic conditions. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Company's allowance for loan losses. Such agencies may require the Company to recognize additions to the allowance based on their judgments about information available to them at the time of their examination.
(8) FEDERAL HOME LOAN BANK STOCK
The Company's banking subsidiaries are members of the Federal Home Loan Bank system. As a member, Northwest maintains an investment in the capital stock of the Federal Home Loan Bank of Pittsburgh, at cost, in an amount not less than 1% of its outstanding home loans or 1/20 of its outstanding notes payable to the Federal Home Loan Bank, whichever is greater.
21 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
(9) PREMISES AND EQUIPMENT
Premises and equipment at June 30, 2002 and 2001, are summarized by major classification in the following table:
Depreciation and amortization expense for the years ended June 30, 2002, 2001, and 2000, was $5,339,000, $4,517,000, and $3,840,000, respectively.
Premises used by certain of the Company's branches and offices are occupied under formal operating lease arrangements. The leases expire on various dates through 2021. Minimum annual rentals by fiscal year are summarized in the following table:
2003 $ 1,955 2004 1,729 2005 1,414 2006 1,124 2007 881 Thereafter 3,698 -------------- $ 10,801 ==============
Rental expense for the years ended June 30, 2002, 2001, and 2000, was $2,535,000, $2,237,000, and $1,962,000, respectively.
(10) DEPOSITS
Deposit balances at June 30, 2002 and 2001, are shown in the table below:
22 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
The aggregate amount of certificates of deposit with a minimum denomination of $100,000 was approximately $289,430,000 at June 30, 2002 and $300,709,000 at June 30, 2001.
The following table summarizes the contractual maturity of the certificate accounts:
The following table summarizes the interest expense incurred on the respective deposits:
23 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
(11) BORROWED FUNDS
Borrowed funds at June 30, 2002 and 2001, are presented in the following table:
Borrowings from the Federal Home Loan Bank of Pittsburgh are secured by the Company's investment securities, mortgage-backed securities and qualifying residential first mortgage loans. Certain of these borrowings are subject to restrictions or penalties in the event of prepayment.
The revolving line of credit with the Federal Home Loan Bank of Pittsburgh carries a commitment of $175,000,000 maturing on January 2, 2003. The rate is adjusted daily by the Federal Home Loan Bank and any borrowings on this line may be repaid at any time without penalty.
The securities sold under agreements to repurchase are collateralized by various securities held in safekeeping by the Federal Home Loan Bank of Pittsburgh. The market value of such securities exceeds the value of the securities sold under agreements to repurchase. The average amount of agreements outstanding in fiscal years 2002 and 2001 was $14,841,000 and $24,059,000, respectively. The maximum amount of security repurchase agreements outstanding during fiscal years 2002 and 2001 was $19,568,000 and $28,997,000, respectively.
24 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
(12) INCOME TAXES
Total income tax was allocated for the years ended June 30, 2002, 2001, and 2000, as follows:
Income tax expense (benefit) applicable to income before taxes consists of:
The significant components of deferred income tax expense (benefit) are as follows:
A reconciliation from the expected federal statutory income tax rate to the effective rate, expressed as a percentage of pretax income, is as follows:
25 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
The tax effects of temporary differences that give rise to significant portions of the deferred tax assets and deferred tax liabilities at June 30, 2002 and 2001, are presented below:
The Company has revised the valuation allowance on the net operating loss carryforward related to Jamestown. The Company has determined that no valuation allowance is necessary for the deferred tax assets because it is more likely that these assets will be realized through carryback to taxable income in prior years, future reversals of existing temporary differences and, to a lesser extent, through future taxable income. The Company will continue to review the criteria related to the recognition of deferred tax assets on a quarterly basis.
Under provisions of the Internal Revenue Code, Northwest has approximately $101,000 of net operating losses which expire in years 2006 through 2020.
(13) SHAREHOLDERS' EQUITY
Retained earnings are partially restricted in connection with regulations related to the insurance of savings accounts which require Northwest and Jamestown to maintain certain statutory reserves. Northwest and Jamestown may not pay dividends on or repurchase any of their common stock if the effect thereof would reduce retained earnings below the level of adequate capitalization as defined by federal and state regulators.
In tax years prior to fiscal 1997, Northwest was permitted, under the Internal Revenue Code (the Code), to deduct an annual addition to a reserve for bad debts in determining taxable income, subject to certain limitations. Bad debt deductions for income tax purposes are included in taxable income of later years only
26 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
if the bad debt reserve is used subsequently for purposes other than to absorb bad debt losses. Because Northwest does not intend to use the reserve for purposes other than to absorb losses, no deferred income taxes have been provided prior to fiscal 1987. Retained earnings at June 30, 2002, includes approximately $28,293,000 representing such bad debt deductions for which no deferred income taxes have been provided.
(14) EARNINGS PER SHARE
Basic earnings per common share (EPS) is computed by dividing net income available to common shareholders by the weighted-average number of common shares outstanding for the period, without considering common stock equivalents or any dilutive items. Diluted EPS reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock that then shared in the earnings of the Company. The computation of basic and diluted earnings per share is shown in the table below:
(15) EMPLOYEE BENEFIT PLANS
(a) PENSION PLANS
The Company maintains noncontributory defined benefit pension plans covering substantially all employees and the members of its board of directors. Retirement benefits are based on certain compensation levels, age, and length of service. Contributions are based on an actuarially determined amount to fund not only benefits attributed to service to date but also for those expected to be earned
27 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
in the future. In addition, the Company has an unfunded Supplemental Executive Retirement Plan (SERP) to compensate those executive participants eligible for the Company's defined benefit pension plan whose benefits are limited by Section 415 of the Code of the Internal Revenue Service.
The Company also sponsors a retirement savings plan in which substantially all employees participate. The Company provides a matching contribution of 50% of each employee's contribution to a maximum of 6% of the employee's compensation.
Total expense for all retirement plans, including defined benefit pension plans, was approximately $3,186,000, $2,652,000, and $2,310,000 for the years ended June 30, 2002, 2001, and 2000, respectively. Net periodic pension cost for the Company's defined benefit pension plans consist of the following:
28 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
The following table sets forth, for the Company's defined benefit pension plans, the plans' funded status and amounts recognized in the Company's consolidated statements of financial condition at June 30, 2002 and 2001:
The following table sets forth the assumptions used to develop the preceding information for the net pension cost and benefits:
Assets of the Company's qualified noncontributory defined benefit plan consists primarily of equity and fixed income securities.
(b) POSTRETIREMENT HEALTHCARE PLAN
In addition to pension benefits, the Company provides postretirement healthcare benefits for certain employees who were employed by the Company as of October 1, 1993, and were at least 55 years of age on that date. The Company accounts for these benefits in accordance with Statement of Financial Accounting Standards No. 106, Employers' Accounting for Postretirement Benefits Other than
29 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
Pensions (SFAS 106). SFAS 106 requires the accrual method of accounting for postretirement benefits other than pensions.
Net periodic cost for the Company's postretirement healthcare benefits consist of the following:
The following table sets forth the funded status of the Company's postretirement healthcare benefit plan and the amounts recognized in the Company's consolidated statements of financial condition at June 30, 2002 and 2001:
The assumptions used to develop the preceding information for postretirement healthcare benefits are as follows:
If the assumed rate of increase in healthcare costs was increased by one percentage point to 5% from the level of 4% presented above, the service and interest cost components of net periodic
30 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
postretirement healthcare benefit cost would increase by $6,109, in the aggregate, and the accumulated postretirement benefit obligation for healthcare benefits would increase by $88,172.
(c) EMPLOYEE STOCK OWNERSHIP PLAN
The Company has continued its previously leveraged employee stock ownership plan (ESOP) for employees who have attained age 21 and who have completed a 12-month period of employment with the Company during which they worked at least 1,000 hours. The Company now makes annual contributions to the ESOP at the board's discretion based on current year earnings. Company shares are then purchased periodically in the open market and allocated to employee accounts based on each employee's relative portion of the Company's total eligible compensation recorded during the year.
ESOP compensation expense was $871,000, $831,000, and $909,000 for the fiscal years ended June 30, 2002, 2001, and 2000, respectively.
(d) RECOGNITION AND RETENTION PLAN
On November 21, 1995, the Company established a Recognition and Retention Plan for Employees and Outside Directors (RRP). The objective of the RRP was to enable the Company to provide directors, officers and employees with a proprietary interest in the Company as an incentive to contribute to its success. The number of common shares issued and granted under the RRP was 552,000 (total market value of $3,243,000 at issuance date). Shares of common stock granted pursuant to the RRP were in the form of restricted stock and generally are payable over a five-year period at the rate of 20% per year, commencing on the date of the award grant. Compensation expense, in the amount of the fair market value of the common stock at the date of the grant, was recognized pro rata over the five years during which the shares were payable. The recipients are entitled to all voting and other shareholder rights, except that the shares, while restricted, may not be sold, pledged or otherwise disposed of and are required to be held in a trust.
(e) STOCK OPTION PLAN
On November 21, 1995, the Company adopted the 1995 Stock Option Plan. The objective of the Stock Option Plan is to provide an additional performance incentive to the Company's employees and outside directors. The Stock Option Plan authorized the grant of stock options and limited stock appreciation rights for 1,380,000 shares of the Company's common stock. On December 20, 1995, the Company granted 242,000 nonstatutory stock options to its outside directors at an exercise price of $5.58 per share (95% of the Company's common stock fair market value per share at grant date) and 923,200 incentive stock options to employees at an exercise price of $5.875 per share. On March 22, 1996, the Company granted 122,800 incentive stock options to employees at an exercise price of $5.625 per share. On December 16, 1998, the Company granted 15,086 incentive stock options to employees at an exercise price of $9.875 per share. On October 20, 1999, the Company granted 57,700 incentive stock options to employees at an exercise price of $7.812 per share. On June 21, 2000, the Company granted the remaining 19,214 incentive stock options as well as 9,186 previously forfeited options at an exercise price of $6.875 per share. On November 17, 2000, the Company adopted the 2000 Stock Option Plan. This Plan authorized the grant of stock options and limited stock rights for 800,000 shares of the Company's common stock. On October 17, 2001 the
31 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
Company granted 94,000 nonstatutory stock options to its outside directors and 143,845 incentive stock options to employees at an exercise price of $9.780 per share. These options are exercisable for a period of ten years from the grant date with each recipient vesting at the rate of 20% per year commencing with the grant date.
The following table summarizes the activity in the Company's Option Plan during the periods ending June 30:
(a) Weighted average fair value of options at grant date: $2.48 and $2.70, respectively.
32 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
The Company applies APB Opinion No. 25 and related interpretations in accounting for its plans. Had compensation costs for the Stock Option Plan been determined consistent with the fair value method of SFAS 123, Accounting for Stock-Based Compensation, which permits entities to expense an estimated fair value of employee stock options granted, the Company's net income and earnings per share would have been reduced to the pro forma amounts indicated below:
The fair value of each option grant is estimated on the date of grant using the Black-Scholes option-pricing model with the following weighted average assumptions: (1) dividend yields ranging from 1.60% to 2.50%; (2) expected volatility of 18% to 33%; (3) risk-free interest rates ranging from 4.50% to 6.50%; and (4) expected lives of seven years. The effects of applying SFAS No. 123 may not be representative of the effects on reported net income in future years.
(16) DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
SFAS No. 107, Disclosure about Fair Value of Financial Instruments (SFAS 107), requires disclosure of fair value information about financial instruments whether or not recognized in the consolidated statement of financial condition. SFAS 107 excludes certain financial instruments and all nonfinancial instruments from its disclosure requirements. Accordingly, the aggregate fair value amounts presented do not represent the underlying value of the Company. The carrying amounts reported in the consolidated statement of financial condition approximate fair value for the following financial instruments: cash on hand and interest-earning deposits in other institutions, accrued interest receivable, accrued interest payable, marketable securities available-for-sale, and variable rate borrowings.
33 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
The following table sets forth the carrying amount and estimated fair value of the Company's financial instruments included in the consolidated statement of financial condition as of June 30:
Fair value estimates are made at a point-in-time, based on relevant market data and information about the instrument. The following methods and assumptions were used in estimating the fair value of financial instruments at June 30, 2002 and 2001.
MARKETABLE SECURITIES
Estimated market values are based on quoted market prices, dealer quotes and prices obtained from independent pricing services. If a quoted market price is not available, fair value is estimated using quoted market prices for similar securities. Refer to note 4 of the consolidated financial statements for the detail of type of investment products.
LOANS RECEIVABLE
Loans with comparable characteristics including collateral and repricing structures were segregated for valuation purposes. Each loan pool was separately valued utilizing a discounted cash flow analysis. Projected monthly cash flows were discounted to present value using a market rate for comparable loans. Characteristics of comparable loans included remaining term, coupon interest and estimated prepayment speeds. Delinquent loans were evaluated separately given the impact delinquency has on the projected future cash flow of the loan and the approximate discount or market rate.
34 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
DEPOSIT LIABILITIES
SFAS 107 defines the estimated fair value of deposits with no stated maturity, which includes demand deposits, money market and other savings accounts, to be the amount payable on demand. Although market premiums paid for depository institutions reflect an additional value for these low-cost deposits, SFAS 107 prohibits adjusting fair value for any value expected to be derived from retaining those deposits for a future period of time or from the benefit that results from the ability to fund interest-earning assets with these deposit liabilities. The fair value estimates of deposit liabilities do not include the benefit that results from the low-cost funding provided by these deposits compared to the cost of borrowing funds in the market. Fair values for time deposits are estimated using a discounted cash flow calculation that applies contractual cost currently being offered in the existing portfolio to current market rates being offered locally for deposits of similar remaining maturities. The valuation adjustment for the portfolio consists of the present value of the difference of these two cash flows, discounted at the assumed market rate of the corresponding maturity.
BORROWED FUNDS
Variable rate borrowings were estimated to approximate their carrying amounts. The fixed rate advances were valued by comparing their contractual cost to the prevailing market cost.
TRUST-PREFERRED SECURITIES
The fair value of fixed rate trust-preferred securities is based on the closing trade price on the last day of the fiscal year. The variable rate trust-preferred securities are calculated using the discounted cash flows at the prevailing rate of interest.
OFF-BALANCE SHEET FINANCIAL INSTRUMENTS
These financial instruments generally are not sold or traded, and estimated fair values are not readily available. However, the fair value of commitments to extend credit and standby letters of credit is estimated using the fees currently charged to enter into similar agreements. Commitments to extend credit issued by the Company are generally short-term in nature and, if drawn upon, are issued under current market terms. At June 30, 2002 and 2001, there was no significant unrealized appreciation or depreciation on these financial instruments.
(17) REGULATORY CAPITAL REQUIREMENTS
The Company's banking subsidiaries are subject to various regulatory capital requirements administered by the federal and state banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory - and possibly additional discretionary - actions by the regulators that, if undertaken, could have a direct material effect on the Company's financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, specific capital guidelines that involve quantitative measures of assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices must be met. The capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings and other factors.
35 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
Quantitative measures established by regulation to ensure capital adequacy require the Company's banking subsidiaries to maintain minimum amounts and ratios (set forth in the table below) of total and Tier I capital (as defined in the regulations) to risk-weighted assets (as defined), and of Tier I capital to average assets (as defined). At June 30, 2002 and 2001, the Company's banking subsidiaries exceed all capital adequacy requirements to which they are subject.
As of June 14, 2002, the most recent notification from the FDIC categorized Northwest and Jamestown as "well capitalized" under the regulatory framework for prompt corrective action. To be categorized as "well capitalized," the banks must maintain minimum total risk-based, Tier 1 risk-based and Tier 1 leverage ratios as set forth in the table. There are no conditions or events since that notification that management believes have changed the banks' categories.
The actual, required and well capitalized levels as of June 30, 2002 and 2001, are as follows: (in thousands)
36 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
* The FDIC has indicated that the most highly rated institutions which meet certain criteria will be required to maintain a ratio of 3%, and all other institutions will be required to maintain an additional capital cushion of 100 to 200 basis points. As of June 30, 2002, the Company had not been advised of any additional requirements in this regard.
(18) CONTINGENT LIABILITIES
The Company and its subsidiaries are subject to a number of asserted and unasserted claims encountered in the normal course of business. Management believes that the aggregate liability, if any, that may result from such potential litigation will not have a material adverse effect on the Company's financial statements.
37 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
(19) SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED)
38 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
(20) COMPONENTS OF COMPREHENSIVE INCOME
For the year ended June 30:
39 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
(21) NORTHWEST BANCORP, INC. (PARENT COMPANY ONLY)
Statements of Financial Condition
(Amounts in thousands)
40 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
Statements of Income
41 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
Statements of Cash Flows
42 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
(22) BUSINESS SEGMENTS
The Company has identified two reportable business segments based upon the operating approach currently used by management. The Community Banks segment includes the two savings bank subsidiaries of the Company, Northwest Savings Bank and Jamestown Savings Bank, as well as the subsidiaries of the savings banks that provide similar products and services. The savings banks are community-oriented institutions that offer a full array of traditional deposit and loan products, including mortgage, consumer and commercial loans, as well as trust, investment management, actuarial and benefit plan administration, and brokerage services typically offered by a full service financial institution. The Consumer Finance segment is comprised of Northwest Consumer Discount Company, a subsidiary of Northwest Savings Bank, that operates forty-seven offices in Pennsylvania and two in southwestern New York. This subsidiary compliments the services of the banks by offering personal installment loans for a variety of consumer and real estate products. This activity is funded primarily through its intercompany borrowing relationship with Northwest Savings Bank. Net income is primarily used by management to measure segment performance. The following tables provide financial information for these segments. The All Other column represents the parent company, other nonbank subsidiaries, and elimination entries necessary to reconcile to the consolidated amounts presented in the financial statements.
43 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
* Eliminations consist of intercompany interest income and interest expense.
(23) GUARANTEED PREFERRED BENEFICIAL INTERESTS IN COMPANY'S JUNIOR SUBORDINATED DEFERRABLE INTEREST DEBENTURES (TRUST-PREFERRED SECURITIES)
During fiscal 2002 the Company formed two wholly owned Delaware statutory business trusts, Northwest Capital Trust I and Northwest Bancorp Statutory Trust I (the Trusts). These trusts were formed solely to issue preferred securities to third parties for cash, issue common securities to the Company in exchange for capitalization of the trusts, invest the proceeds from the sale of trust securities in an equivalent amount of debentures of the Company and engage in other activities that are incidental to those previously listed.
44 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
Northwest Capital Trust I issued 2,760,000 of 8.75% Cumulative Trust Preferred Securities through a public offering on November 30, 2001 (liquidation value of $25 per preferred security or $69,000,000) with a stated maturity of December 31, 2031. The securities trade on the Nasdaq Stock Market under the symbol NWSBP. Northwest Bancorp Statutory Trust I issued 30,000 Cumulative Trust Preferred Securities in a private transaction to a pooled investment vehicle on December 18, 2001 (liquidation value of $1,000 per preferred security or $30,000,000) with a stated maturity of December 23, 2031 and a floating rate of interest, which is reset quarterly, equal to three month LIBOR plus 3.60%. The trust-preferred securities qualify as regulatory Tier I capital and the cash distributions are tax deductible. For financial reporting purposes, the trusts are included in the consolidated financial statements of the Company. The trust-preferred securities are presented as a separate line item on the Consolidated Statements of Financial Condition and the distributions are included with interest expense on borrowed funds on the Consolidated Statements of Income.
The Trusts have invested the proceeds of the offerings in junior subordinated deferrable interest debentures issued by the Company. The structure of these debentures mirror the structure of the trust-preferred securities. Northwest Capital Trust I holds $71,134,025 of the Company's 8.75% junior subordinated debentures, due December 31, 2031. Northwest Bancorp Statutory Trust I holds $30,928,000 of the Company's junior subordinated debentures due December 23, 2031 with a floating rate of interest, reset quarterly, of three-month LIBOR plus 3.60%. The rate in effect at June 30, 2002 was 5.48%. These subordinated debentures are the sole assets of the trusts. The Company will use the proceeds from the sale of the debentures for general corporate purposes, including capital contributions to its banking subsidiaries to support their growth strategies.
Cash distributions on the trust securities are made on a quarterly basis to the extent interest on the debentures is received by the trusts. The Company has the right to defer payment of interest on the subordinated debentures at any time, or from time-to-time, for periods not exceeding five years. If interest payments on the subordinated debentures are deferred, the distributions on the trust securities also are deferred. Interest on the subordinated debentures and distributions on the trust securities is cumulative. The Company obligation constitutes a full, irrevocable and unconditional guarantee on a subordinated basis of the obligations of the trust under the preferred securities.
The trusts must redeem the preferred securities when the debentures are paid at maturity or upon an earlier redemption of the debentures to the extent the debentures are redeemed. All or part of the debentures may be redeemed at any time on or after December 31, 2006. Also, the debentures may be redeemed at any time if existing laws or regulations, or the interpretation or application of these laws or regulations, change, causing:
- the interest on the debentures to no longer be deductible by the Company for federal income tax purposes;
- the trust to become subject to federal income tax or to certain other taxes or governmental charges;
- the trust to register as an investment company;
- the Company to become subject to capital requirements and the preferred securities do not qualify as Tier I capital.
45 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
In addition, all or part of the debentures may be redeemed on or after December 31, 2003 and prior to December 31, 2006 in the unlikely event of a mutual-to-stock conversion of Northwest Bancorp, MHC (the mutual holding company of Northwest Bancorp, Inc.). Under such circumstances the debentures may be redeemed at a price equal to the accrued and unpaid interest to the date fixed for redemption plus 107% of the principal amount, thereof, and holders of the preferred securities will receive 107% of the liquidation amount of $25 per preferred security plus any accrued and unpaid distributions to the date of redemption.
The Company may, at any time, dissolve the trust and distribute the debentures to the trust security holders, subject to receipt of any required regulatory approval(s).
(24) GOODWILL AND OTHER INTANGIBLE ASSETS
As a result of adopting SFAS 141 and SFAS 142 as described in footnote 1(i), remaining negative goodwill at June 30, 2001 of $2.2 million was recorded in income as a cumulative effect of a change in accounting principle. The following table shows the effect on net income and earnings per share as a result of adopting SFAS No. 141 and 142:
46 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
The following table provides information for intangible assets subject to amortization for the periods indicated:
The following information shows the actual aggregate amortization expense for the current and prior fiscal years as well as the estimated aggregate amortization expense for each of the five succeeding fiscal years:
For the fiscal year ended 6/30/00 $ 5,831 For the fiscal year ended 6/30/01 7,371 For the fiscal year ended 6/30/02 7,306 For the fiscal year ended 6/30/03 8,100 For the fiscal year ended 6/30/04 8,220 For the fiscal year ended 6/30/05 8,220 For the fiscal year ended 6/30/06 8,220 For the fiscal year ended 6/30/07 8,220
47 (Continued)
NORTHWEST BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2002, 2001, and 2000
(All dollar amounts presented in tables are in thousands)
The following table provides information for the changes in the carrying amount of goodwill:
(25) SUBSEQUENT EVENTS (UNAUDITED)
In September 2002, the Company completed its previously announced acquisition of Prestige Bancorp, Inc., and its subsidiary Prestige Bank. Prestige Bank was a federal savings bank with four offices in the South Hills of Pittsburgh, Pennsylvania, and assets of approximately $190 million, deposits of approximately $122 million, and shareholders' equity of approximately $11.7 million. Under terms of the agreement, shareholders received $13.75 for each share of Prestige Bancorp, resulting in a cash payment of approximately $14.7 million and intangible assets of approximately $5 million.
Also, as previously announced on August 16, 2001 and reported on Form 8-K, the Company has entered into an agreement to acquire Leeds Federal Bankshares, Inc. The transaction is subject to the approval of the OTS and Northwest's application is currently on file with the OTS pending approval. The parties have twice agreed to extend the date upon which the transaction must be completed. On August 28, 2002, the parties extended the date for completion of the merger to December 31, 2002. The parties also agreed to amend the merger agreement to modify the structure of the transaction in which Leeds Federal Savings Bank will become a wholly-owned subsidiary of Northwest Bancorp, MHC and will not be part of the Northwest Bancorp, Inc. consolidated group immediately after the merger as previously proposed. The $32.00 per share cash consideration to be paid to the public stockholders of Leeds Federal Bankshares, Inc. and all other terms and conditions of the merger remain generally unchanged.
48 (Continued)
SIGNATURES ----------
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
NORTHWEST BANCORP, INC.
Date: September 25, 2002 By: /s/ William J. Wagner ----------------------------------- William J. Wagner, President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
By: /s/ John O. Hanna By: /s/ William J. Wagner ---------------------------- ------------------------------------ John O. Hanna, Chairman William J. Wagner, President, Chief Executive Officer and Director (Principal Executive Officer)
Date: September 25, 2002 Date: September 25, 2002
By: /s/ John M. Bauer By: /s/ Richard L. Carr ----------------------------- ------------------------------------ John M. Bauer, Director Richard L. Carr, Director
Date: September 25, 2002 Date: September 25, 2002
By: /s/ Richard E. McDowell By: /s/ Thomas K. Creal, III ----------------------------- ------------------------------------ Richard E. McDowell, Director Thomas K. Creal, III, Director
Date: September 25, 2002 Date: September 25, 2002
By: /s/ Joseph T. Stadler By: /s/ Joseph F. Long ----------------------------- ------------------------------------ Joseph T. Stadler, Director Joseph F. Long, Director
Date: September 25, 2002 Date: September 25, 2002
By: /s/ A. Paul King By: /s/ Robert G. Ferrier ----------------------------- ------------------------------------ A. Paul King, Director Robert G. Ferrier, Director
Date: September 25, 2002 Date: September 25, 2002
By: /s/ William W. Harvey, Jr. ------------------------------------ William W. Harvey, Jr. Senior Vice President, Finance (Principal Financial and Accounting Officer)
Date: September 25, 2002
CERTIFICATION PURSUANT TO RULE 13a-14 OF THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED, AS ADOPTED PURSUANT TO SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002
I, William J. Wagner, President and Chief Executive Officer of Northwest Bancorp, Inc., certify that:
1. I have reviewed this annual report on Form 10-K of Northwest Bancorp, Inc.;
2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report;
3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the period presented in this annual report.
September 25, 2002 /s/ William J. Wagner - ------------------ ------------------------------------- Date William J. Wagner President and Chief Executive Officer
CERTIFICATION PURSUANT TO RULE 13a-14 OF THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED, AS ADOPTED PURSUANT TO SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002
I, William W. Harvey, Senior Vice President, Finance of Northwest Bancorp, Inc., certify that:
1. I have reviewed this annual report on Form 10-K of Northwest Bancorp, Inc.;
2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report;
3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the period presented in this annual report.
September 25, 2002 /s/ William W. Harvey - ------------------ ------------------------------ Date William W. Harvey Senior Vice President, Finance (Chief Financial Officer)