ITEM
1. Business 3 2. Properties 8 3. Legal proceedings 8 4. Submission of matters to a vote of security holders 8
PART II 5. Market for registrant's common equity and related stockholder matters 9 6. Selected financial data 10 7. Management's discussion and analysis of financial condition and results of operations 11 7A. Quantitative and qualitative disclosures about market risk 36 8. Financial statements and supplementary data 36 9. Changes in and disagreements with accountants on accounting and financial disclosure 36
PART III
10. Directors and executive officers of the registrant 37 11. Executive compensation 37 12. Security ownership of certain beneficial owners and management 37 13. Certain relationships and related transactions 37
PART IV
14. Exhibits, financial statement schedules, and reports on Form 8-K 38 PART I
ITEM 1. BUSINESS.
PSB HOLDINGS, INC.
PSB Holdings, Inc., a Wisconsin corporation (the "Company"), was formed in 1995. The Company is a one-bank holding company regulated by the Board of Governors of the Federal Reserve System (the "Board") under the authority of the Bank Holding Company Act of 1956, as amended (the "BHCA"). The Company's sole business is the ownership and management of Peoples State Bank (the "Bank"). Except as may otherwise be noted, this Annual Report on Form 10-K describes the business of the Company and the Bank as in effect on December 31, 2001.
ACQUISITIONS
The Company intends to pursue opportunities to acquire additional bank subsidiaries or banking offices so that, at any time, it may be engaged in some tentative or preliminary discussions for such purposes with officers, directors or principal shareholders of other holding companies or banks. There are no plans, understandings, or arrangements, written or oral, regarding other acquisitions as of the date hereof.
THE BANK
GENERAL
The Bank was organized as a state banking corporation under the laws of the state of Wisconsin in August, 1962. The Bank's principal office is located at 1905 West Stewart Avenue, Wausau, Wisconsin, 54401. The Bank's principal branch offices are located in the communities of Wausau, Rib Mountain, Marathon, Rhinelander and Eagle River, Wisconsin. The Bank provides various commercial and consumer banking services for customers located principally in Marathon, Lincoln, Oneida and Vilas Counties, Wisconsin.
The Bank is engaged in general commercial and retail banking. The Bank serves individuals, businesses, and governmental units and offers most forms of commercial and consumer lending, including lines of credit, secured and unsecured term loans, real estate financing and mortgage lending. In addition, the Bank provides a full range of personal banking services, including checking accounts, savings and time accounts, installment and other personal loans, as well as mortgage loans. The Bank offers automated teller machines and online computer banking to its customers to expand its services to customers on a 24- hour basis. New services are frequently added to the Bank's retail banking departments.
The Bank offers discount brokerage services at its Wausau branch location, including the sale of annuities, mutual funds and other investments to Bank customers and the general public. The Bank maintains an investment subsidiary in Nevada to manage, hold and trade cash, securities, and loans.
PRINCIPAL SOURCES OF REVENUE
The table below shows the amount and percentages of the Bank's total consolidated operating revenues resulting from interest on loans and leases and interest on investment securities for each of the last three years:
BANK MARKET AREA AND COMPETITION
There is a mix of retail, manufacturing, agricultural and service businesses in the area served by the Bank. The Bank has substantial competition in its market area. Much of this competition comes from companies which are larger and have greater resources than the Company. The Bank competes for deposits and other sources of funds with other banks, savings associations, credit unions, finance companies, mutual funds, life insurance companies and other financial and non-financial companies. Many of these nonbank competitors offer products and services which are functionally equivalent to the products and services offered by the Bank.
Recent changes in banking laws have had a significant effect on the competitive environment in which the Bank operates and are likely to continue to increase competition for the Bank. For example, current federal law permits adequately capitalized and managed bank holding companies to engage in interstate banking on a much broader scale than in the past. Banks are also permitted to create interstate branching networks in states which do not "opt out" of the new laws. The Gramm- Leach-Bliley Act of 1999 has also increased the competitive environment for the Bank. Under this act, financial holding companies are now permitted to conduct a broad range of banking, insurance and securities activities. The Company believes that the combined effects of more interstate banking and the development of greater "one-stop" availability for banking, insurance and securities services will both increase the overall level of competition and attract competitors with which the Bank may not now compete for its customers. In addition to competition, the business of the Bank will be affected by general economic conditions, including the level of interest rates and the monetary policies of the Board (see "Regulation and Supervision - Monetary Policy").
EMPLOYEES
The Company has no employees. Officers of the Company serve as full time employees of the Bank.
As of March 15, 2002, the Bank had 100 full-time equivalent employees, including 24 employed on a part-time basis. None of the Bank's employees is covered by a collective bargaining agreement.
EXECUTIVE OFFICERS
The executive officers of the Company as of March 19, 2002, their ages and principal occupations during the last five years are set forth below.
David K. Kopperud, 56 - President of the Company and the Bank since July, 1999; previously Executive Vice President of the Bank (1994-1999).
David A. Svacina, 55 - Vice-President of the Company since March, 2002; Vice President of the Bank.
Todd R. Toppen, 43 - Secretary of the Company since March 2002; Treasurer of the Company (1995- March 2002); Vice President of the Bank.
Scott M. Cattanach, 33 - Treasurer of the Company since March 2002; Chief Financial Officer of the Bank since March 2002. Prior to March 2002, certified public accountant at regional public accounting firm.
REGULATION AND SUPERVISION
REGULATION
The Company and the Bank are subject to regulation under both federal and state law. The Company is a registered bank holding company and is subject to regulation and examination by the Board pursuant to the BHCA. The Bank is subject to regulation and examination by the Federal Deposit Insurance Corporation ("FDIC") and, as a Wisconsin chartered bank, by the Wisconsin Department of Financial Institutions.
The Board expects a bank holding company to be a source of strength for its subsidiary banks. As such, the Company may be required to take certain actions or commit certain resources to the Bank when it might otherwise choose not to do so. Under federal and state banking laws, the Company and the Bank are also subject to regulations which govern the Company's and the Bank's capital adequacy, loans and loan policies (including the extension of credit to affiliates), deposits, payment of dividends, establishment of branch offices, mergers and other acquisitions, investments in or the conduct of other lines of business, management personnel, interlocking directorates and other aspects of the operation of the Company and the Bank. Bank regulators having jurisdiction over the Company and the Bank generally have the authority to impose civil fines or penalties and to impose regulatory sanctions for noncompliance with applicable banking regulations and policies. In particular, the FDIC has broad authority to take corrective action if the Bank fails to maintain required minimum capital. Information concerning the Company's compliance with applicable capital requirements is set forth in Note 18 of the Notes to Consolidated Financial Statements.
Banking laws and regulations have undergone periodic revisions that often have a direct or indirect effect on the Bank's operations and its competitive environment. From time to time various formal or informal proposals, including new legislation, relating to, among other things, changes with respect to deposit insurance, permitted bank activities and restructuring of the federal regulatory scheme have been made and may be
made in the future. The Gramm-Leach-Bliley Act of 1999, which eliminated many of the barriers to affiliation among banks, insurance companies and other securities or financial services companies, is an example of legislation which may, and often does, materially affect the operation of the Company's business. Depending on the scope and timing of future regulatory changes, it is likely they will affect the competitive environment in which the Company operates or increase costs of regulatory compliance and, accordingly, may have a material adverse effect on the Company's consolidated financial condition, liquidity or results of operations.
MONETARY POLICY
The earnings and growth of the Bank, and therefore the Company, are affected by the monetary and fiscal policies of the federal government and governmental agencies. The Board has a direct and indirect influence on the costs of funds used by the Bank for lending and its actions have a substantial effect on interest rates, the general availability of credit and the economy as a whole. These policies therefore affect the growth of bank loans and deposits and the rates charged for loans and paid for deposits. Governmental and Board monetary policies have had a significant effect on the operating results of commercial banks in the past and are expected to do so in the future. The Company is not able to anticipate the future impact of such policies and practices on the growth or profitability of the Company. CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION
This report contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 (the "Reform Act"). In addition, certain statements in future filings by the Company with the Securities and Exchange Commission, reports to shareholders, press releases, and in other oral and written statements made by or with the approval of the Company which are not statements of historical fact will constitute forward-looking statements within the meaning of the Reform Act.
Examples of forward-looking statements include, but are not limited to: (1) expectations concerning financial performance of the Company, (2) expectations concerning the payment of dividends, (3) statements of plans and objectives of the Company, (4) statements of future economic performance and (5) statements of assumptions underlying such statements. Words such as "believes," "anticipates," "expects," "intends," "targeted" and similar expressions are intended to identify forward-looking statements but are not the exclusive means of identifying such statements. In making forward-looking statements within the meaning of the Reform Act, the Company undertakes no obligation to publicly update or revise any such statement.
Forward-looking statements of the Company are based on information available to the Company as of the date of such statements and reflect the Company's expectations as of such date, but are subject to risks and uncertainties that may cause actual results to vary materially. In addition to specific factors which may be described in connection with any of the Company's forward-looking statements, factors which could cause actual results to differ materially from those discussed in the forward-looking statements include, but are not limited to the following:
(1) the strength of the U.S. economy in general and the strength of the local economies in the markets served by the Bank;
(2) the effects of and changes in government policies, including interest rate policies of the Board;
(3) inflation, interest rate, market and monetary fluctuations;
(4) the timely development of and acceptance of new products and services;
(5) changes in consumer spending, borrowing and saving habits;
(6) increased competition in the Company's principal market area;
(7) technological changes;
(8) acquisitions and the inability to successfully integrate acquired institutions or branches into current operations; (9) the effect of changes in laws and regulations which increase operating costs or increase competition;
(10) the effect of changes in accounting policies and practices; and
(11) the costs and effects of litigation and of unexpected or adverse outcomes in such litigation.
ITEM 2.
ITEM 2. PROPERTIES.
The Company's operations are carried out at the Bank's administrative office facility at 1905 West Stewart Avenue, Wausau, Wisconsin. The Company does not maintain any separate offices.
The Bank operates a total of six office locations. The Bank owns four of the buildings in which it conducts operations and each building is occupied solely by the Bank. All four buildings are designed for commercial banking operations and are suitable for current operations. The Rhinelander and Eagle River branches occupy leased space within supermarkets which are designed for commercial banking operations. A new Rhinelander facility is under construction and will open in 2002.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS.
As of December 31, 2001, the Company was not involved in any legal proceedings, nor was it aware of any threatened litigation.
In the ordinary course of its business, the Bank is or may be engaged from time to time in legal actions as both a plaintiff and a defendant. In some cases, claims for significant compensatory or punitive damages, or unspecified damages, may be made against the Bank. As of the date of this report, the Bank was not a party to any legal or administrative proceedings which, in the opinion of Company management, would have a material adverse effect on the operations, liquidity or consolidated financial condition of the Company.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
No matters were submitted to a vote of the Company's shareholders during the fourth quarter of 2001. PART II
ITEM 5.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
MARKET
There is no active established public trading market in the Company common stock. Bid and ask prices are quoted by one regional broker- dealer on the OTC Bulletin Board under the symbol "PSBQ.OB." Transactions in the Company common stock are limited and sporadic.
On January 10, 2000, the Board of Directors authorized the Company to repurchase up to 45,000 shares of its issued and outstanding common stock. As of March 22, 2002, the Company had repurchased all shares covered by that authorization. As of December 31, 2001, and March 12, 2002, there were 839,705 shares and 839,416 shares of the Company's common stock outstanding, respectively.
HOLDERS
As of December 31, 2001 there were approximately 970 holders of record of the Company's common stock. Some of the Company's shares are held in "street" name and the number of beneficial owners of such shares is not known nor included in the foregoing number.
DIVIDENDS
The Company's bylaws provide that, subject to the provisions of applicable law, the Board of Directors may declare dividends from unreserved and unrestricted earned surplus, at such times and in such amounts as the board shall deem advisable.
The Company's ability to pay dividends depends upon the receipt of dividends from the Bank. Payment of Bank dividends is subject to various limitations under banking laws and regulations. At December 31, 2001, the Bank could have paid approximately $6.8 million in additional dividends to the Company without prior regulatory approval. The declaration of dividends by the Company is discretionary and will depend upon operating results and financial condition, regulatory limitations, tax considerations and other factors. The Company has paid regular dividends since its inception in 1995. MARKET PRICES AND DIVIDENDS
Price ranges of over-the-counter quotations and dividends declared per share on the Company common stock for the periods indicated are:
Prices detailed for the common stock represent the bid prices reported on the OTC Bulletin Board. The prices do not reflect retail mark-up, mark-down or commissions, and may not necessarily represent actual transactions. There is no active established trading market. The common stock was first quoted on the OTC Bulletin Board during January 2000.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCAL CONDITION AND RESULTS OF OPERATIONS
The following management's discussion and analysis reviews significant factors with respect to the Company's financial condition and results of operations at and for the three-year period ended December 31, 2001. This discussion should be read in conjunction with the consolidated financial statements, notes, tables, and the selected financial data presented elsewhere in this report. All figures are in thousands, except per share data.
Management's discussion and analysis contains forward-looking statements that are provided to assist in the understanding of anticipated future financial performance. However, such performance involves risks and uncertainties that may cause actual results to differ materially from those in such statements. For a discussion of certain factors that may cause such forward-looking statements to differ materially from actual results see Item 1, Cautionary Statement Regarding Forward-Looking Information, in this Annual Report on Form 10-K for the year ended December 31, 2001.
RESULTS OF OPERATIONS
2001 COMPARED TO 2000
The Company's consolidated net income for 2001 was $3,366, an increase of $696 or 26.1% higher than 2000. Basic and diluted earnings per share for 2001 were $4.01, a 28.9% increase over 2000 basic and diluted earnings per share of $3.11. Return on average common stockholders' equity and return on average assets were 13.96% and 1.05% for 2001 compared to 12.33% and .94% for 2000. Cash dividends paid in 2001 increased by 4.9% to $1.08 per share over the $1.03 per share paid in 2000. Current year profits were significantly impacted by the following factors:
Taxable equivalent net interest income grew $1,665, or 17.1% from $9,732 in 2000 to $11,397 in 2001. Taxable equivalent interest income was $23,865 for 2001, $1,593 or 7.2% higher than 2000. However, interest expense decreased by $72. Increases in volume and changes in product mix added $1,703 to taxable equivalent net interest income, whereas changes in the rate environment of 2001 resulted in a $38 decrease.
The allowance for loan losses increased $562 from $2,407 in 2000 to $2,969 in 2001. Net loan charge-offs increased $37 from $292 in 2000 to $329 in 2001 and were .14% of average loans outstanding in both 2001 and 2000. The ratio of allowance for loan losses to loans increased to 1.24% from 1.06% due to additional provisions to the allowance for loan losses beyond that needed for new loan growth. Provision for loan losses grew $290, from $600 in 2000 to $890 in 2001.
Noninterest income was $2,065 for 2001, $619 or 42.8% higher than 2000. The primary reason for the increase was additional income from the sale of long-term fixed rate secondary market loans. Gain on sale of such loans was $683 in 2001 compared to $66 in 2000. Separate from this activity, noninterest income increased $2 during 2001.
Noninterest expense was $7,316 in 2001, $842 or 13.0% higher than 2000. Salaries and employee benefits increased $578, while data processing and office operations increased $63, and advertising and promotion increased $96. Separate from these activities, noninterest expense increased $105 during 2001.
2000 COMPARED TO 1999
The Company's consolidated net income for 2000 was $2,670 compared with $2,588 in 1999. Net income increased 3.1% in 2000 from 1999. Return on average common stockholders' equity was 12.33% in 2000 compared to 12.31% in 1999. Return on average assets for 2000 was .94% compared to 1.08% for 1999. Net income per share amounted to $3.11 in 2000, compared to $2.93 in 1999. Cash dividends declared in 2000 was $1.03 per share, compared to $1.00 in 1999. The per share ratio of dividends to shareholders to net income was 32.64% in 2000, compared to 34.12% in 1999.
MARKET RISK
Market risk is the risk of loss from adverse changes in market prices and rates. The Company's market risk arises primarily from interest- rate risk inherent in its lending and deposit taking activities. Management actively monitors and manages its interest-rate risk exposure. The measurement of the market risk associated with financial instruments is meaningful only when all related and offsetting on- and off-balance sheet transactions are aggregated, and the resulting net positions are identified. Disclosures about the fair value of financial instruments that reflect changes in market prices and rates can be found in footnote 20 on the Notes to the Financial Statements.
The Company's primary objective in managing interest-rate risk is to minimize the adverse impact of changes in interest rates on the Company's net interest income and capital, while adjusting the Company's asset-liability structure to obtain the maximum yield-cost spread on that structure. The Company relies primarily on its asset-liability structure to control interest-rate risk.
However, a sudden and substantial change in interest rates may adversely impact the Company's earnings, to the extent that the interest rates borne by assets and liabilities do not change at the same speed, to the same extent, or on the same basis. The Company does not engage in trading activities.
INCOME STATEMENT ANALYSIS
NET INTEREST INCOME
Net interest income represents the difference between interest earned on loans, securities and other interest-earning assets, and the interest expense associated with the deposits and borrowings that fund them. Interest rate fluctuations together with changes in volume and types of earning assets and interest-bearing liabilities combine to affect total net interest income. Additionally, net interest income is impacted by the sensitivity of the balance sheet to change in interest rates, contractual maturities, and repricing frequencies.
2001 COMPARED TO 2000
Fully taxable equivalent net interest income was $11,397 for 2001, an increase of $1,665 or 17.1% from 2000. The increase in fully taxable equivalent net interest income was due primarily to an increase in earning assets of 13.5% during 2001. To a lesser extent, taxable equivalent net interest income increased due to an increased interest rate spread caused by a liability sensitive repricing gap during 2001's falling interest rate environment. As indicated in tables 2 and 3, increases in volume and changes in the mix of both earning assets and interest bearing liabilities added $1,703 to fully taxable equivalent net interest income, and the changes in the interest rates resulted in a $38 decrease, for a net increase of $1,665. The net interest margin and interest rate spread improved to 3.73% and 3.02% compared to 3.62% and 2.83% in 2000.
For 2001, the yield on earning assets decreased 47 basis points, decreasing interest income by $1,654 while the cost of interest bearing liabilities decreased 66 basis points, decreasing interest expense by $1,616 for a net decrease of $38 in fully taxable equivalent net interest income as a result in changes in interest rates. The decrease in net interest margin was impacted by the interest rate environment of 2001 causing the liability sensitive balance sheet of the Company to reprice at the declining interest rates. However, the Company had a substantial portion of earning assets in liquid and overnight funds which earned interest at currently declining interest rates despite maintaining a liability sensitive balance sheet.
The growth and composition change of earning assets contributed an additional $3,247 to fully taxable equivalent net interest income, while the growth and composition of interest bearing liabilities cost an additional $1,544, netting a $1,703 increase in fully taxable equivalent net interest income.
Average earning assets were $305,499 in 2001, an increase of $36,429 or 13.5%, from 2000. Average interest bearing liabilities increased $30,596, or 13.3% from 2000. The composition of interest bearing liabilities shifted from higher cost short-term borrowings to more core deposit lower interest rate products and fixed rate long term borrowings. Total borrowings were $44,178 on average for 2001, up $5,212 or 13.4%. Total interest bearing deposits cost 4.52% on average for 2001 (77 basis points less than last year), while wholesale borrowings cost 6.11% (14 basis points less than last year).
2000 COMPARED TO 1999
The 2000 figures as a percent of average earning assets reflect an increase in interest rates during 2000. Loans are the largest component of earning assets. On average, loans grew $43,598 to $207,527 for 2000, and represented 77.13% of earning assets. A change in the total yield on the loan portfolio generally has the largest impact on net interest income. The yield on total loans increased 23 basis points to 8.81% in 2000. The yield was strongly impacted by the loans tied to the prime lending rate repricing immediately with a change in the rate. The prime rate increased 1.0% during 2000 from 6.5% to 7.5%.
Deposits are the largest component of interest bearing liabilities. Deposit growth has not kept pace with asset growth, in part because of a low rate of personal savings by households and competition for depositor funds from higher-yielding investments. On average, total deposits grew $22,636 for 2000, and represented 83.05% of interest bearing liabilities, compared to 89.92% for 1999. As a result, the Bank had greater dependence on wholesale funds to fund the asset growth. On average, borrowed funds increased $20,137 to $38,966 in 2000.
During 2000 the gross yield on interest earning assets increased 32 basis points. The average rate on taxable investment securities increased 12 basis points in 2000 to 6.20%, up from 6.08% in 1999. Time deposits rates increased by 66 basis points while funds shifted into the more liquid Money Market deposit accounts, which the Company continued to promote throughout 2000 in an effort to retain deposits to support loan demand. The average rate on all interest bearing liabilities increased by 85 basis points in 2000 to 5.45% up from 4.60% in 1999.
The table on the following page sets forth average consolidated balance sheet data and average rate data on a tax equivalent basis for the periods, indicated.
NONINTEREST INCOME
Noninterest income was $2,065 for 2001, $619 or 42.8% higher than 2000. Noninterest income as a percentage of total revenues was 8.1% for 2001 compared to 6.2% last year.
Service fees were $1,010, $155 or 18.1% higher than 2000. Service fees as a percent of average noninterest bearing demand deposits were 3.1% in 2001 compared to 2.8% in 2002. due in part to an increase in the annual fee to maintain an overdraft protection account. Noninterest income from the sale of long-term fixed rate residential mortgage loans increased from $66 in 2000 to $683 during 2001. The increase was largely a result of historically low long-term fixed rates for residential mortgages. Consequently, many existing customers and new customers refinanced existing adjustable rate mortgages or purchased new homes to take advantage of these historically low mortgage rates. During 2001 a total of $60,251 of fixed rate residential mortgages were sold to outside investors and the Federal Home Loan Bank.
Investment product commissions consist of annuity sales, brokerage services, mutual fund sales, life insurance commissions, and self- directed IRA fees. Investment product commissions decreased $12 or 6.2% from last year. The change was predominantly due to a decrease in the fair market value of assets under management, primarily from the declines in the stock and bond markets during 2001.
Other operating income during 2000 included $39 from a gain on sale of student loans. There were no student loan sales during 2001. In addition, during the third quarter 2001, the annual check card and bank credit card fees were discontinued, decreasing 2001 other income by $20 compared to 2000. Gain on sale of premises and equipment is also included in other income and was $48 in 2001 and $69 in 2000. Separate from these items, other income decreased $61 compared to 2000.
NONINTEREST EXPENSE
Total noninterest expense increased $842 to $7,316 during 2001, representing a 13.0% increase over 2000.
Salaries and employee benefits increased $577 or 15.0% over 2000 and represented 60.4% of total noninterest expense in 2001 compared to 59.3% in 2000. The increase includes an additional $103 in 401(k) profit sharing expense for 2001 over 2000. The increase also includes incentive compensation pay earned by employees in 2001 under the incentive plan totaling $294. There was no incentive compensation pay earned in 2000. The average number of full time equivalent employees increased from 89 in 2000 to 93 in 2001. Separate from the increase in profit sharing expense and incentive pay noted above, average salaries and benefits per full time equivalent employee increased .2% during 2001.
Occupancy expense was $917 for 2001 decreasing 2.1% from last year. The majority of the decrease was due to reduced depreciation expense of $31, much of it related to original furniture and fixtures costs at the Bank's Rib Mountain, and Marathon branch locations now being fully depreciated. The Eagle River branch location opened later in 2001 and had minimal impact on 2001 occupancy costs.
Data processing costs increased $63 or 13.7% during 2001 reflecting the increasing cost of software maintenance contracts and paper and forms supplies. Advertising and promotion expense increased $96, or 45.5% during 2001. The Bank expanded its internal marketing staff and contracted with an independent consultant to improve and expand ongoing marketing initiatives. Additional advertising costs were also incurred in connection with opening of the new Eagle River branch location.
Other operating expense increased $126 or 12.3% in 2001. The majority of the change is due to $104 of expense related to settlement related to benefits vested under the previously terminated directors' retirement plan. Separate from this expense, other operating expense increased $22, or 2.1% over 2000.
PROVISION FOR LOAN LOSSES
The adequacy of the allowance for loan losses is assessed based upon credit quality, existing economic conditions and loss exposure by loan category. Management determines the allowance for loan losses based on past loan experience, current economic conditions, composition of the loan portfolio, and the potential for future loss. Accordingly, the amount charged to expense is based on management's evaluation of the loan portfolio. It is the Company's policy that when available information confirms that specific loans, or portions thereof, including impaired loans, are uncollectible, these amounts are promptly charged off against the allowance. The provision for loan losses was $890 in 2001; compared to $600 in 2000 and $460 in 1999. See additional discussion under section, "Allowance for Loan Losses."
INCOME TAXES
The effective tax rate was 30.2% in 2001, 29.2% in 2000, and 29.2% in 1999. See footnote 14 to the financial statements for additional tax information.
BALANCE SHEET ANALYSIS
INVESTMENT PORTFOLIO
The investment securities portfolio is intended to provide the Company with adequate liquidity, flexible asset/liability management and a source of stable income. All but tax-exempt municipal securities are classified as available for sale and reported at fair value. Unrealized gains and losses are excluded from earnings but are reported as other comprehensive income in a separate component of stockholders' equity, net of income tax. Tax-exempt municipal securities are considered held to maturity and are recorded at net amortized cost. The investment portfolio represented 21% and 22% of average earning assets in 2001 and 2000, respectively.
At December 31, 2001, the Company's securities portfolio did not contain securities of any single issuer where the aggregate carrying value of such securities exceeded 10% of stockholders' equity.
Securities with an approximate carrying value of $9,225 and $12,555, at December 31, 2001 and 2000, respectively, were pledged primarily to secure public deposits, short-term borrowings, and for other purposes required by law.
The market value of the investment portfolio as a percentage of book value has increased due to the decrease in overall market interest rates. At December 31, 2001 market value was 101.2% of book value. The net unrealized gain on securities available for sale, recorded as a separate component of stockholders' equity, was $491, net of deferred taxes of $260 compared to a loss of $125, net of deferred income taxes of $79 at December 31, 2000.
During 2000, the interest rates beyond one year decreased. The market value of the fixed income portion on the investment portfolio as a percentage of book value increased due to the decrease in interest rates. At December 31, 2000, market value was 99.73% of book value. The net unrealized loss on securities available for sale, recorded as a separate component of stockholders' equity, was $125, net of deferred income taxes of $79, compared to a loss of $1,043, net of deferred taxes of $461 at December 31, 1999.
The Bank's investment subsidiary, PSB Investments, Inc., was formed in May, 1992, and currently holds approximately $64,456 in investment securities and loans at book value. Income tax expense for 2001 was approximately $213 lower as a result of holding these investments and loans at the subsidiary.
As a member of the Federal Home Loan Bank (FHLB) system, the Bank is required to hold stock in the FHLB based on total assets and anticipated level of long-term borrowings to be advanced to the Bank. This stock has a purchase cost and par value of $100 per share. The stock is recorded at cost which approximates market value. Transfer of the stock is substantially restricted. The stock earns a quarterly dividend generally approximating .75% over the moving average of one-year LIBOR. The dividend rate paid on FHLB stock was 6.34%, 7.47%, and 6.69% in 2001, 2000, and 1999, respectively.
LOANS
Total loans as presented in Table 10 include loans held for sale to the secondary market and construction loans not yet fully disbursed. Total loans were $244,551 at December 31, 2001, an increase of $14,142 or 6.1% over December 31, 2000.
Retained, in-house real estate mortgage loans totaled $158,849 at the end of 2001 and $149,859 at the end of 2000. Loans in this classification include $72,299 of loans secured by 1-to-4 family residential properties. Residential real estate loans consist of home mortgages, home equity lines, and second mortgages.
In addition to residential real estate loans retained by the Company and recognized on the balance sheet, the Company also services approximately $36 million of residential real estate loans which have been sold to the Federal Home Loan Bank (FHLB) under the Mortgage Partnership Finance Program. As part of the asset/liability and interest rate sensitivity management strategy, the Company does not retain long term 15 to 30 year fixed rate mortgages in their own portfolio. These serviced loans are not recognized on the Company's balance sheet. A servicing fee equal to .25% of outstanding principal is retained from payments collected from the customer as payment for servicing the loan for the FHLB. Historically low long-term fixed rate mortgage interest rates during 2001 increased the amount of loans originated and subsequently sold to the FHLB from approximately $1 million at December 31, 2000.
During 2001, the Company recognized a mortgage servicing right asset due to the substantial volume of loans now serviced for the FHLB. Recognition of initial mortgage servicing rights of $320 increased the gain on sale of loans during 2001. The mortgage servicing right is amortized as a reduction to loan servicing income over the estimated servicing life of the loan in proportion to the amount of servicing fees
collected. The amortization period takes into account the likelihood that the loan will be prepaid or refinanced prior to the original term. The anticipated servicing period used to amortize mortgage servicing rights ranges from 6 years for a 15 year fixed rate loan up to 10 years for a 30 year fixed rate loan. These amortization periods are based on Company experience and standards recognized within the mortgage servicing industry and would be accelerated in the event repayment occurred faster than originally anticipated.
Mortgage servicing rights are recorded at the lower of amortized cost or fair value. At December 31, 2001, mortgage servicing rights included in Other Assets on the balance sheet were $284. Mortgage servicing right amortization of $37 was recorded during 2001. There were no mortgage servicing rights recorded during 2000.
Commercial loans were $55,363 at the end of 2001, up $1,942 since year- end 2000, but comprising 22.6% of the total loans outstanding, down from 23.2% at the end of 2000. The commercial, industrial, and agricultural loan classification primarily consists of commercial loans to small businesses. Loans of this type are in a broad range of industries. Loans to finance agricultural production totaled just $2,908 or 1.2% of total loans.
Real estate construction loans grew 39.0% to $15,609 at the end of 2001 compared to $11,231 at the end of 2000. Loans in this classification are primarily short-term loans that provide financing for the acquisition or development of commercial real estate, such as multi- family or other commercial development projects.
Installment loans to consumers and individuals totaled $13,327, down from $15,784 at year-end 2000. Installment loans include short-term installment loans, automobile loans, recreational vehicle loans, credit card loans, and other personal loans. The Bank experiences extensive competition from local credit unions offering low rates on installment loans.
The loan portfolio is widely diversified by types of borrowers, industry groups, and market areas. Significant loan concentrations are considered to exist for a financial institution when there are amounts loaned to numerous borrowers engaged in similar activities that would cause them to be similarly impacted by economic conditions. At December 31, 2001, no concentrations existed in the Company's portfolio in excess of 10% of total loans.
ALLOWANCE FOR LOAN LOSSES
The loan portfolio is the primary asset subject to credit risk. Credit risk is controlled through the use of credit standards, review of potential borrowers, and loan payment performance. During 2001, the allowance for loan losses grew from $2,407 at December 31, 2000 to $2,969 at December 31, 2001. As of December 31, 2001 the allowance for loan losses as a percentage of total loans outstanding was 1.24% and was 60.4% of nonperforming loans, compared to 1.06% and 55.1%, respectively, at December 31, 2000. In addition to coverage from the allowance for loan losses, nonperforming loans are secured by various collateral including real estate and consumer collateral.
The allowance for loan losses represents management's estimate of an amount adequate to provide for potential losses in the loan portfolio. Adequacy of the allowance for loan losses is based on management's ongoing review and grading of the loan portfolio, past loan loss experience, trends in past due and nonperforming loans, and current economic conditions. The Company has an internal risk analysis and review staff that continuously reviews loan quality.
The allocation of the year-end allowance for loan losses for each of the past five years based on management's estimates of loss exposure by category of loans is shown in Table 13. The allocation methodology applied by the Company focuses on changes in the size and character of the loan portfolio, current and expected economic conditions, the geographic and industry mix of the loan portfolio and historical losses by category. The total allowance is available to absorb losses from any segment of the portfolio. Management allocates the allowance for credit losses by pools of risk. The Company combines estimates of the allowance needed for loans analyzed individually and loans analyzed on a pool basis. The determination of allocated reserves for larger commercial loans involves a review of individual higher-risk transactions, focusing on loan grading, and assessment of specific loss content and possible resolutions of problem credits. During 2001, the Company expanded ongoing credit review and risk rating procedures. As a result, loan loss allowance allocations were updated on a basis different than prior years. The new basis is considered to more accurately match loss allowance with nonperforming, or other loans with heightened risk factors. The primary impact of this allocation change was to decrease allowances allocated to consumer and individual loans, and to increase allowances allocated to real estate mortgage loans.
As a FHLB Mortgage Partnership Finance loan servicer (as described in the LOANS section above), the Company has provided a credit enhancement guarantee to reimburse the FHLB for foreclosure losses in excess of 1% of the original loan principal sold to the FHLB. At December 31, 2001, the maximum Company obligation for such guarantees would be approximately $131 if total foreclosure losses on the entire pool of approximately $36 million loans exceeded $510. In exchange for this guarantee, the Company is paid a "credit enhancement" fee of .07% of outstanding serviced principal in addition to the .25% collected for servicing the loan for the FHLB. These first mortgage loans are underwritten using standardized and conservative criteria on residential properties in the Bank's local communities. As an indicator of foreclosure loss exposure on these FHLB guaranteed loans, CUMULATIVE net loan charge-offs on mortgage loans retained by the bank in their own portfolio were approximately .15% of average mortgage principal during the 5 years ended December 31, 2001. Management believes loans serviced for the FHLB will realize minimal foreclosure losses in the future and that the Company will experience no loan losses related to charge-offs in excess of the FHLB 1% loss pool.
In the opinion of management, the allowance for loan losses is adequate as of December 31, 2001. While management uses available information to recognize losses on loans, future adjustments may be necessary based on changes in economic conditions.
Net loans charged off were $328 or .14% of average loans for 2001, compared to $292 or .14% of average loans for 2000, and were $308 or .19% of average loans for 1999. Loans charged off are subject to continuous review and specific efforts are taken to achieve maximum recovery of principal, accrued interest, and related expenses.
Nonperforming loans are defined as nonaccrual loans, loans 90 days or more past due but still accruing, loans defined as impaired under current accounting standards, and restructured loans. Loans are generally placed on nonaccrual status when contractually past due 90 days or more as to interest or principal payments. Previously accrued and uncollected interest on such loans is reversed, and income is recorded only to the extent that interest payments are subsequently received and principal is collectible.
Loans past due 90 days or more but still accruing interest are also included in nonperforming loans. Also included in nonperforming loans are restructured loans. Restructured loans involve the granting of concession to the borrower involving the modification of terms of the loan, such as changes in payment schedule or interest rate. The majority of restructured loans represent capitalized loan principal and/or interest that borrowers were unable to repay according to the original repayment terms. Such loans are subject to senior management review and ongoing monitoring and are made in cases where the borrower's delinquency is considered short-term from circumstances the borrower is believed able to overcome.
Nonperforming loans at December 31, 2001, were $4,912, an increase of $540 from December 31, 2000.
Interest payments on nonaccrual and impaired loans are typically applied to principal unless collectability of the principal amount is fully assured, in which case interest is recognized on the cash basis. The interest that would have been reported in 2001 if all such loans had been current throughout the year in accordance with their original terms was $228 in comparison to $160 actually collected. The total reduction in interest income during 2000 as a result of discontinuing the accrual of interest on loans that are delinquent for over 90 days was $135,000.
DEPOSITS
Deposits are the Company's largest source of funds. At December 31, 2001, deposits were $273,635, up $32,101 or 13.3% over last year. At year-end, noninterest bearing demand deposits were approximately $9 million greater than the 2001 average balance due to collections of municipal deposits and increased seasonal consumer retail demand deposits.
The Company's retail deposit growth is continuously influenced by competitive pressure from other financial institutions, as well as other investment opportunities available to customers. During 2001, the Company experienced a shift of deposit mix to more short-term liquid accounts from time deposits due to the interest rate environment.
On average, deposits were $249,041 for 2001, up $27,885 or 12.6% over the average for 2000. Average savings deposits, including money markets, increased $14,312 or 16.5% over 2000.
Table 16: Maturity Distribution of Certificates of Deposit of $100,000 42,327 or More
(dollars in thousands) DECEMBER 31, 2001
3 months or less $ 10,759 Over 3 months through 6 months 9,668 Over 6 months through 12 months 16,445 Over 1 year through 5 years 16,359
Totals $ 53,231
OTHER FUNDING SOURCES
Other funding sources, including short-term borrowings and long-term debt, were $42,327 at December 31, 2001 up $2,812 from $39,515 at December 31, 2000. Short-term borrowings at December 31, 2001 consist of securities sold under repurchase agreements. The repurchase agreements are payable on demand. Other available short-term borrowings include federal funds purchased and the FHLB open line of credit, which were not used at December 31, 2001. During 2001, higher rate repurchase agreement borrowings were replaced with long-term fixed rate FHLB advances. Long-term debt at December 31, 2001, was $38,000 up from $28,000 at the end of last year. The mix of other funding sources shifted toward longer-term borrowings, with average long-term debt representing 85.5% of other funding sources from 55.8% last year, in response to asset/liability objectives. Average long-term debt increased $16,031 during 2001. Within the short- term borrowing category average, draws on the FHLB open line of credit and securities sold under repurchase agreements were down $10,819.
LIQUIDITY AND INTEREST RATE SENSITIVITY
The Bank's Asset Liability Management process provides a unified approach to management of liquidity, capital and interest rate risk, and to provide adequate funds to support the borrowing requirements and deposit flow of its customers. Management views liquidity as the ability to raise cash at a reasonable cost or with a minimum of loss and as a measure of balance sheet flexibility to react to marketplace, regulatory, and competitive changes.
The Bank's primary funding source is deposits. Average deposits as a percentage of other funding sources used were 84.9% at December 31, 2001 and 85.0% at December 31, 2000. Other funding sources represent the balance of the Bank's total funding needs. The primary funding sources utilized are long-term fixed rate and short-term variable rate Federal Home Loan Bank advances, federal funds purchased, brokered CDs, and repurchase agreements from a base of individuals, businesses, and public entities.
Management's overall strategy is to coordinate the volume of rate sensitive assets and liabilities to minimize the impact of interest rate movement on the net interest margin. Table 18 represents the Company's earning sensitivity to changes in interest rates at December 31, 2001. It is a static indicator which does not reflect various repricing characteristics and may not indicate the sensitivity of net interest income in a changing interest rate environment. Table 18 reflects a positive gap position in all individual (not cumulative) categories except 91 to 180 days, and 181 to 365 days. The cumulative one-year gap ratio is negative at 88.24%. The Bank believes the cumulative gap position at December 31, 2001 was adequate considering anticipated changes in interest rates in the upcoming 1 year period. A significant portion of consumer deposits do not re-price or mature on a contractual basis. Rather, the Bank has the ability to re- price or change these deposits on demand. These deposit balances and rates are considered to be core deposits since these balances are generally not susceptible to significant interest rate changes. The Bank's Asset/Liability Committee attempts to distribute these deposits over a number of periods to reflect those portions of such accounts that are expected to re-price fully with market rates over the simulation period. The assumptions are based on historical experience with the Bank's individual markets and customers and include projections for how management expects to continue to price in response to marketplace and market changes. These assumptions allocate interest bearing demand deposits and money market funds as 30%, 20%, 20%, and 30% of balances to the 0-90 days, 181-365 days, 1-5 years, and beyond 5 year categories, respectively. The assumptions also allocate savings (excluding time deposits) balances as 10%, 15%, 15%, and 60% of balances to the 0-90 days, 181-365 days, 1-5 years, and beyond 5 year categories, respectively.
The Asset/Liability Committee uses financial modeling techniques that measure the interest rate risk. Policies established by the Bank's Asset/Liability Committee are intended to limit exposure of earnings at risk. Management considers that an acceptable range for the rate sensitivity ratio is 70-150%.
CAPITAL ADEQUACY
Stockholders' equity at December 31, 2001, increased to $25,349, or $30.19 per share compared with $22,274 or $26.53 per share at the end of 2000. The primary increase in stockholders' equity in 2001 was net income ($3,366) in excess of cash dividends paid to shareholders ($907), of $2,459. Cash dividends paid in 2001 were $1.08 per share compared to $1.03 per share in 2000. The 2001 dividend payout ratio as a percentage of net income was 26.94% in 2001 compared to $32.64% in 2000. Capital at year-end 2001 included $491 related to unrealized gains on securities AFS, net of their tax effect. Stockholders' equity increased $616 during 2001 due to unrealized gains on securities AFS.
The adequacy of the Company's capital and the Bank's capital is regularly reviewed to ensure that sufficient capital is available for current and future needs and is in compliance with regulatory guidelines. As of December 31, 2001, 2000, and 1999, the Company's
and the Bank's Tier 1 leverage ratios, Tier 1 risk-based capital ratios, and total risk-based capital ratios were well in excess of regulatory requirements to be considered well-capitalized under regulatory requirements (see note 18 of the notes to Consolidated Financial Statements). Management feels the capital structure of the Company and Bank is adequate.
ITEM 7A.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The information required by this Item 7A is set forth in Item 6, "Selected Financial Data" and under sub captions "Results of Operations", "Market Risk", "Net Interest Income", "Provision for Loan Losses", "Investment Portfolio", "Deposits", and "Liquidity and Interest Sensitivity" under Item 7, Management's Discussion and Analysis of Financial Conditions.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The consolidated financial statements of the Company for the years ended December 31, 2001, 2000, and 1999 are incorporated by reference to Exhibit 99.1 to this Annual Report on Form 10-K. Exhibit 99.1 is located immediately following page 40.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None PART III
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
Information relating to directors of the Company is incorporated into this Form 10-K by this reference to the disclosure in the Company's proxy statement dated March 29, 2002 relating to the 2002 annual meeting of shareholders (the "2002 Proxy Statement") under the caption "Election of Directors." Information relating to the identification of executive officers of the Company is found in Part I of this Form 10-K. Information required under Rule 405 of Regulation S-K is incorporated into this Form 10-K by this reference to the disclosure in the 2002 Proxy Statement under the subcaption "Section 16(a) Beneficial Ownership Reporting Compliance."
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION.
Information relating to director compensation is incorporated into this Form 10-K by this reference to the disclosure in the 2002 Proxy Statement under the subcaption "Compensation of Directors." Information relating to the compensation of executive officers is incorporated into this Form 10-K by this reference to (1) the disclosure in the 2002 Proxy Statement beginning under the caption "Executive Officer Compensation," through the disclosure ending under the subcaption, "Stock Options," and (2) the disclosure in the 2002 Proxy Statement under the subcaption "Compensation Committee and Board Interlocks and Insider Participation."
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
Information relating to security ownership of certain beneficial owners and management is incorporated into this Form 10-K by this reference to the disclosure in the 2002 Proxy Statement beginning under the caption "Beneficial Ownership of Common Stock" and ending at the subcaption "Section 16(a) Beneficial Ownership Reporting Compliance."
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
Information relating to certain relationships and related transactions with directors and officers is incorporated into this Form 10-K by this reference to the disclosure in the 2002 Proxy Statement under the caption "Certain Relationships and Related Transactions."
PART IV
ITEM 14.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8- K.
(a) Documents filed as part of this report.
(1) The financial statements filed as part of this report are set forth in Exhibit 99.1.
(2) No financial statement schedules are required by Item 14(d).
(3) The following exhibits required by Item 601 of Regulation S-K are filed as part of this report.
Exhibit NUMBER DESCRIPTION
3.1 Restated Articles of Incorporation, as amended (incorporated by reference to Exhibit 3.1 to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2000)
3.2 Bylaws (incorporated by reference to Exhibit 3.2 to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2000)
4.1 Articles of Incorporation and Bylaws (see Exhibits 3.1 and 3.2)
10.1 Bonus Plan of Directors of the Bank (incorporated by reference to Exhibit 10.1 to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2000)*
10.2 Non-Qualified Retirement Plan for Directors of the Bank*
10.3 Senior Management Incentive Compensation Plan (incorporated by reference to Exhibit 10.4 to the Company's Quarterly Report on Form 10-Q for the period ended June 30, 2000)*
10.4 2001 Stock Option Plan (incorporated by reference to Exhibit 10.5 to the Company's Quarterly Report on Form 10-Q for the period ended June 30, 2001)*
21.1 Subsidiaries of the Company (incorporated by reference to Exhibit 21.1 to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2000) 99.1 Consolidated financial statements for the years ended December 31, 2001, 2000, and 1999
(b) Reports on Form 8-K.
None.
*Denotes Executive Compensation Plans and Arrangements.
SIGNATURES
Pursuant to the requirements of Section 13 of the Securities Exchange Act of 1934, the Company has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
PSB Holdings, Inc.
By DAVID K. KOPPERUD March 29, 2002 David K. Kopperud, President and Chief Executive Officer
Pursuant to the requirement of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities indicated on this 29th day of March, 2001.
SIGNATURE AND TITLE SIGNATURE AND TITLE
DAVID K. KOPPERUD SCOTT M. CATTANACH David K. Kopperud, President Scott M. Cattanach, Treasurer Chief Executive Officer and a Director (Principal Financial Officer and Accounting Officer)
DIRECTORS:
GORDON P. CONNOR PATRICK L. CROOKS Gordon P. Connor Patrick L. Crooks
WILLIAM J. FISH CHARLES A. GHIDORZI William J. Fish Charles A. Ghidorzi
GORDON P. GULLICKSON LAWRENCE HANZ, JR. Gordon P. Gullickson Lawrence Hanz, Jr.
THOMAS R. POLZER THOMAS A. RIISER Thomas R. Polzer Thomas A. Riiser
WILLIAM M. REIF EUGENE WITTER William M. Reif Eugene Witter
EXHIBIT INDEX TO FORM 10-K OF PSB HOLDINGS, INC. FOR THE FISCAL YEAR ENDED DECEMBER 31, 2001 Pursuant to Section 102(d) of Regulation S-T (17 C.F.R. 232.102(d)
Exhibit NUMBER DESCRIPTION
10.2 Non-Qualified Retirement Plan for Directors of the Bank
99.1 Consolidated financial statements for the years ended December 31, 2001, 2000, and 1999