SECURITIES AND EXCHANGE COMMISSION
Washington, D.C.
FORM 10_K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended: September 30, 2001
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission File Number: 0-29709
HARLEYSVILLE SAVINGS FINANCIAL CORPORATION
------------------------------------------
(Exact name of Registrant as specified in its charter)
Pennsylvania
-------------------------- 23-3028464
(State or other jurisdiction ----------------------
of incorporation or organization) (I.R.S. Employer
Identification Number)
271 Main Street
Harleysville, Pennsylvania 19438
-------------------------- ----------------------
(Address of principal officer) (Zip Code)
Registrant's telephone number, including area code: (215) 256-8828
Common Stock, $.01 par value
----------------------------
Title of Class
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months and (2) has been subject to such filing requirements for
the past 90 days. YES [X] NO[_]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of the Registrant's knowledge in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment of this
Form 10-K [X].
The aggregate market value of the 1,893,306 shares of the Registrant's Common
Stock held by non-affiliates (2,306,455 shares outstanding less 413,149 shares
held by affiliates), based upon the
closing price of $18.35 for the Common Stock on December 7, 2001, as reported by
the Nasdaq Stock Market, was approximately $34.7 million. Shares of Common Stock
held by each executive officer and director and by each person who owns 5% or
more of the outstanding Common Stock have been excluded since such persons may
be deemed affiliates. This determination of affiliate status is not necessarily
a conclusive determination for other purposes.
Number of shares of Common Stock outstanding as of December 7, 2001: 2,306,455
DOCUMENTS INCORPORATED BY REFERENCE
Set forth below are the documents incorporated by reference and the part of
the Form 10-K into which the document is incorporated:
(1) Portions of the Annual Report to Stockholders for the year ended September
30, 2001 are incorporated by reference into Part II, Items 5-8 and Part IV,
Item 14 of this Form 10-K.
(2) Portions of the definitive Proxy Statement for the 2002 Annual Meeting of
Stockholders are incorporated by reference into Part III, Items 10-13 of
this Form 10-K.
Forward-Looking Statements
In the normal course of business, the Company, in an effort to help keep
its stockholders and the public informed about the Company's operations, may
from time to time issue or make certain statements, either in writing or orally,
that are or contain forward-looking statements, as that term is defined in the
federal securities laws. Generally, these statements relate to business plans or
strategies, projected or anticipated benefits from potential acquisitions,
projections involving anticipated revenues, earnings, profitability or other
aspects of operating results or other future developments in the affairs of the
Company or the industry in which it conducts business. These forward-looking
statements, which are based on various assumptions (some of which are beyond the
Company's control), may be identified by reference to a future period or periods
or by the use of forward-looking terminology such as "anticipate," "believe,"
"commitment," "consider," "continue," "could," "encourage," "estimate,"
"expect," "intend," "in the event of," "may," "plan," `present," "propose,"
"prospect," "update," "whether," "will," "would," future or conditional verb
tenses, similar terms, variations on such terms or negatives of such terms.
Although the Company believes that the anticipated results or other expectations
reflected in such forward-looking statements are based on reasonable
assumptions, it can give no assurance that those results or expectations will be
attained. Actual results could differ materially from those indicated in such
statements due to risks, uncertainties and changes with respect to a variety of
factors, including, but not limited to, the following: competitive pressure
among depository and other financial institutions may increase significantly;
changes in the interest rate environment may reduce interest margins and net
interest income, as well as adversely affect loan originations and sales
activities and the value of certain assets, such as investment securities;
general economic or business conditions, either nationally or in regions in
which the Company does business, may be less favorable than expected, resulting
in, among other things, a deterioration in credit quality or a reduced demand
for credit; legislation or changes in regulatory requirements, including without
limitation, capital requirements, or accounting standards may adversely affect
the Company and the business in which it is engaged; adverse changes may occur
in the securities markets; competitors of the company may have greater financial
resources and develop products and technology that enable those competitors to
compete more successfully than the company; and the growth and profitability of
the Company's noninterest income may be less than expected.
The Company undertakes no obligation to update forward-looking statements
to reflect events or circumstances occurring after the date of this report on
Form 10-K.
As used in this report, unless the context otherwise requires, the terms
"we," "us," or "the Company" refer to Harleysville Savings Financial
Corporation, a Pennsylvania corporation, and the term "the Bank" refers to
Harleysville Savings Bank, a Pennsylvania chartered savings bank and wholly
owned subsidiary of the Company. In addition, unless the context otherwise
requires, references to the operations of the Company include the operations of
the Bank.
1
PART I
Item 1. Business.
General
Harleysville Savings Financial Corporation is a Pennsylvania corporation
headquartered in Harleysville, Pennsylvania. The Company became the bank holding
company for Harleysville Savings Bank in connection with the holding company
reorganization of the Bank in February 2000 (the "Reorganization"). In August
1987, the Bank's predecessor, Harleysville Savings Association, converted to the
stock form of organization. The Bank, whose predecessor was originally
incorporated in 1915, converted from a Pennsylvania chartered, permanent reserve
fund savings association to a Pennsylvania chartered stock savings bank in June
1991. The Bank operates from five full_service offices located in Montgomery
County, Pennsylvania. The Bank's primary market area includes Montgomery County
and, to a lesser extent, Bucks County. As of September 30, 2001, the Company had
$558.4 million of total assets, $350.1 million of deposits and $34.3 million of
stockholders' equity. The Company's stockholders' equity constituted 6.15% of
total assets as of September 30, 2001.
The Bank's primary business consists of attracting deposits from the
general public through a variety of deposit programs and investing such deposits
principally in first mortgage loans secured by residential properties in the
Bank's primary market area. The Bank also originates construction loans
primarily on residential properties. In recent years, the Bank has engaged to a
significant extent in the origination of a variety of consumer loans. The Bank
also serves its customers through participation in the Star System (formerly
MAC), a shared automated teller machine ("ATM") network located throughout
Pennsylvania and a large portion of the east coast.
Deposits with the Bank are insured to the maximum extent provided by law
through the Savings Association Insurance Fund ("SAIF") administered by the
Federal Deposit Insurance Corporation ("FDIC"). The Bank is subject to
examination and comprehensive regulation by the FDIC and the Pennsylvania
Department of Banking ("Department"). It is also a member of the Federal Home
Loan Bank of Pittsburgh ("FHLB of Pittsburgh" or "FHLB"), which is one of the 12
regional banks comprising the Federal Home Loan Bank System ("FHLB System"). The
Bank is also subject to regulations of the Board of Governors of the Federal
Reserve System ("Federal Reserve Board") governing reserves required to be
maintained against deposits and certain other matters.
The Company's principal executive offices are located at 271 Main Street,
Harleysville, Pennsylvania 19438 and its telephone number is (800) 243_8700.
2
Lending Activities
Loan Portfolio Composition. The Company's loan portfolio is predominantly
comprised of loans secured by first mortgages on single_family residential
properties. As of September 30, 2001, first mortgage loans on residential
properties, including loans on single_family and multi_family residential
properties and construction loans on such properties, amounted to $239.7 million
or 51.5% of the Company's total loan and mortgage_backed securities portfolio.
Loans on the Company's residential properties are primarily long_term and are
conventional (i.e., not insured or guaranteed by a federal agency). At September
30, 2001, mortgage-backed securities totaled $167.7 million and comprised 36.0%
of the portfolio.
As of September 30, 2001, loans secured by commercial real estate comprised
$786 or 0.2% of the total loan and mortgage_backed securities portfolio.
Consumer loans, including installment home equity loans, home equity lines of
credit, automobile loans, loans on savings accounts and education loans,
constituted $55.5 million or 11.9% of the total loan and mortgage_backed
securities portfolio as of September 30, 2001.
As of September 30, 2001, the Company had $167.7 million, ___ or 36.0%, of
the total loan and mortgage_backed securities portfolio invested in Federal Home
Loan Mortgage Corporation ("FHLMC"), Government National Mortgage Association
("GNMA") or Federal National Mortgage Association ("FNMA") backed securities.
FHLMC securities are guaranteed by the FHLMC, GNMA securities by the Federal
Housing Administration and FNMA securities by the FNMA, which are an
instrumentality of the United States government, and, pursuant to federal
regulations, are deemed to be part of the Company's loan portfolio.
3
The following table sets forth information concerning the Company's loan
and mortgage-backed securities portfolio by type of loan at the dates indicated.
As of September 30,
-----------------------------------------------------------------------------
2001 2000 1999
--------------------- -------------------- ----------------------
Amount Percent Amount Percent Amount Percent
------ ------- ------ ------- ------ -------
(Dollars in Thousands)
Real estate loans:
Residential:
Single-family $ 244,100 48.2% $ 205,560 52.1% $ 193,067 50.4%
Multi-family 972 0.2 1,016 0.3 1,056 0.3
Construction 14,649 3.1 6,580 1.7 3,885 1.0
Lot Loans 1,514 0.3 1,351 0.3 1,004 0.3
Mortgage-backed securities 167,727 36.0 123,744 31.3 124,694 32.4
Commercial 786 0.2 807 0.2 767 0.2
------- ----- ------- ----- ------- -----
Total real estate loans and
mortgage-backed securities 409,748 88.1% 339,058 86.0% 324,473 84.6%
------- ----- ------- ----- ------- -----
Consumer Loans:
Education loans 1,041 0.2% 1,414 0.4% 1,348 0.4%
Installment equity loans 43,401 9.3 44,727 11.3 49,240 12.8
Line of credit loans 9,807 2.1 7,889 2.0 7,176 1.9
Savings account loans 617 0.1 619 0.2 535 0.1
Automobile and other loans 629 0.1 641 0.2 661 0.2
------- ----- ------- ----- ------- -----
Total consumer loans 55,495 11.9% 55,290 14.0% 58,960 15.4%
Total loans receivable and
mortgage-backed securities 465,243 100.0% 394,348 100.0% 383,433 100.0%
------- ----- ------- ----- ------- -----
Less:
Loans in process (9,919) (3,845) (2,533)
Deferred Loan Fees (2,052) (1,946) (1,905)
Allowance for Loan Losses (2,036) (2,038) (2,040)
------- ------- -------
Total loans receivable and
mortgage-backed securities, net
$ 451,236 $ 386,519 $ 376,955
========== ========= ==========
4
Contractual Maturities. The following table sets forth scheduled
contractual maturities of the loan and mortgage_backed securities portfolio of
the Company as of September 30, 2001 by categories of loans and securities. The
principal balance of the loan is set forth in the period in which it is
scheduled to mature. This table does not reflect loans in process or unamortized
premiums, discounts and fees.
Principal Repayments Contractually
Due in Years(s) Ended September 30,
--------------------------------------------------------------------------
Principal Balance
at September 30, 2004- 2007- 2012- 2017 and
2001 2002 2003 2006 2011 2016 Thereafter
-------- -------- -------- -------- -------- -------- ----------
(In Thousands)
Real estate loans:
Residential
Single-family $224,100 $ 4,172 $ 4,457 $ 15,162 $ 34,213 $ 40,560 $125,535
Multi-family 972 15 16 52 120 171 599
Construction 14,649 220 234 791 1,802 2,578 9,024
Lot Loans 1,514 82 89 306 686 351 --
Mortgage-backed securities 167,727 2,516 2,851 9,393 21,134 29,688 102,146
Commercial 786 28 31 108 249 370 --
Consumer and other loans 55,495 6,826 7,325 25,403 12,486 3,455 --
-------- -------- -------- -------- -------- -------- --------
Total(1) $465,243 $ 13,859 $ 15,004 $ 51,215 $ 70,690 $ 77,173 $237,303
======== ======== ======== ======== ======== ======== ========
----------
(1) With respect to the $451.5 million of loans with principal maturities
contractually due after September 30, 2001, $311.0 million have fixed rates
of interest and $140.5 million have adjustable or floating rates of
interest.
5
Contractual principal maturities of loans do not necessarily reflect the
actual term of the Company's loan portfolio. The average life of mortgage loans
is substantially less than their contractual terms because of loan payments and
prepayments and because of enforcement of due_on_sale clauses, which give the
Company the right to declare a loan immediately due and payable in the event,
among other things, that the borrower sells the real property subject to the
mortgage and the loan is not repaid. The average life of mortgage loans tends to
increase, however, when current mortgage loan rates substantially exceed rates
on existing mortgage loans and, conversely, decrease when rates on existing
mortgage loans substantially exceed current mortgage loan rates.
Interest rates charged by the Company on loans are affected principally by
the demand for such loans and the supply of funds available for lending
purposes. These factors are, in turn, affected by general economic conditions,
monetary policies of the federal government, including the Federal Reserve
Board, legislative tax policies and government budgetary matters. The interest
rates charged by the Company are competitive with those of other local financial
institutions.
Origination, Purchase and Sale of Loans. Although the Company has general
authority to originate, purchase and sell loans secured by real estate located
throughout the United States, the Company's lending activities are focused in
its assessment area of Montgomery County, Pennsylvania and surrounding suburban
counties.
The Company accepts loan applications through its branch network, and also
accepts mortgage applications from mortgage brokers who are approved by the
Board of Directors to do business with the Company.
The Company generally does not engage in the purchase of whole loans or
loan participations.
During the years ended September 30, 1999 and 2000, the Company did not
sell any residential loans or mortgage-backed securities. The Company sold $7.3
million of mortgage - backed securities during the year ended September 30, 2001
for a gain of $151,663. The Company sold $2.9 million, $3.4 million and $3.3
million of education loans during fiscal 1999, 2000 and 2001, resulting in a
gain of $35,120, $40,245 and $39,647, respectively.
The Company's total loan originations decreased by $2.6 million or 4.1% in
fiscal 2000 and increased by $47.8 million or 79.4% in fiscal 2001. Of the $29.7
million and $54.9 million of single_family loans originated in fiscal 2000 and
2001, $3.6 million and $12.8 million, respectively, were loans originated to
refinance property, $26.1 million and $42.1 million, respectively, were loans to
acquire residential property. During this period, the Company's originations of
consumer loans amounted to $21.0 million and $31.3 million or 35.0% and 29.0% of
total loan originations during fiscal 2000 and 2001, respectively. Management
intends to continue to emphasize origination of consumer loans which may have
adjustable rates, and generally have shorter terms than residential real estate
loans.
6
The following table shows total loans originated, sold and repaid during
the periods indicated.
Year Ended September 30,
2001 2000 1999
-------- -------- --------
(In Thousands)
Real estate loan originations:
Residential:
Single-family $ 54,938 $ 29,712 $ 21,337
Multi-family -- -- --
Construction 20,909 8,602 9,580
Lot loans 693 752 380
-------- -------- --------
Total real estate loan originations 76,540 39,066 31,297
Consumer loan originations(1) 31,308 21,025 31,349
-------- -------- --------
Total loan originations 107,848 60,091 62,646
Purchases of mortgage-backed securities 80,176 13,038 68,220
-------- -------- --------
Total loan originations, and purchases 188,024 73,129 130,866
Principal loan and mortgage-backed securities
repayments 106,529 58,845 87,126
Sales of loans and mortgage-backed securities 10,600 3,369 2,880
-------- -------- --------
Total principal repayments and sales 117,129 62,214 90,006
-------- -------- --------
Net increase in loans $ 70,895 $ 10,915 $ 40,860
======== ======== ========
----------
(1) Includes installment home equity loans, home equity lines of credit,
vehicle loans, Pennsylvania Higher Education Assistance loans, secured and
unsecured personal loans and lines of credit.
Loan Underwriting Policies. Each loan application received by the Company
is underwritten in accordance with the Company's written underwriting policies
as adopted by the Company's Board of Directors. The Company's Board of Directors
has granted loan approval authority to several officers and employees of the
Company, provided the loan meets the guidelines set out in its written loan
underwriting policies. Individual approval authority of $500,000 has been
granted to the Company's President and Chief Lending Officer, $250,000 to the
Assistant Vice President/Loan origination Manager, and $50,000 to a delegated
underwriter who is an employee of the Company. All approved loans are ratified
by the Board of Directors at the next succeeding board meeting. Any loan which
does not meet the guidelines set forth in the lending policies must be approved
by the Company's Board of Directors.
In the exercise of any loan approval authority, the officers of the Company
will take into account the risk associated with the extension of credit to a
single borrower, borrowing entity, or
7
affiliation. The Company has an aggregate loans to one borrower limit of 15% of
the Company's unimpaired capital and unimpaired surplus in accordance with
federal regulations. At September 30, 2001, the largest aggregate amount of
loans outstanding to any borrower, including related entities, was $1.2 million
which did not exceed the Company's loan to one borrower limitation.
Real Estate Lending. The Company is permitted to lend up to 100% of the
appraised value of the real property securing a loan. The Company will generally
lend up to 95% of the lesser of the appraised value or the sale price for the
purchase of single family, owner-occupied dwellings which conform to the
secondary market underwriting standards. Refinancings are limited to 80% or
less. Loans over $275,000 and other non-conforming loans, secured by 1-4
residential, owner-occupied dwellings, are limited to 90% of the lesser of the
purchase price or appraised value. The purchase of non-owner occupied, 1-4 unit
dwellings may be financed to 80% of the lower of the appraisal or sale price; a
refinance is limited to 70% of the appraised value.
All appraisals and other property valuations are performed by independent
fee appraisers approved by the Company's Board of Directors. On all real estate
loans, other than certain "streamlined refinances," the Company requires
borrowers to obtain title insurance, insuring the Company a valid first lien on
the mortgaged real estate. Borrowers must also obtain and maintain a hazard
insurance policy prior to closing and, when the real estate is located in a
flood hazard area designated by the Federal Emergency Management Agency, a flood
insurance policy is required. Generally, borrowers are required to advance funds
on a monthly basis together with payment of principal and interest into a
mortgage escrow account from which the Company makes disbursements for items
such as real estate taxes, and insurance premiums when appropriate as they fall
due.
The Company presently originates fixed-rate loans on single-family
residential properties pursuant to underwriting standards consistent with FHLMC
guidelines, which may or may not be sold into the secondary mortgage market as
conditions warrant. Adjustable rate mortgages ("ARMs"), as well as
non-conforming and jumbo fixed-rate loans in amounts up to $500,000, are held
for portfolio. It is the Company's policy to originate both fixed_rate loans and
ARMs for terms up to 30 years. As of September 30, 2001, $238.7 million or 51.3%
and $1.0 million or .2% of the Company's total loan and mortgage_backed
securities portfolio consisted of single_family (including construction loans)
and multi_family residential loans, respectively. As of September 30, 2001,
approximately $268.6 million or 70.0% of the Company's total mortgage loans and
mortgage-backed securities portfolio consisted of fixed_rate, single_family
residential mortgage loans. As of such date, $113.5 million or 30.0% of the
total mortgage loan portfolio consisted of adjustable-rate single-family
residential mortgage loans and mortgage-backed securities. Most of the Company's
residential mortgage loans include "due on sale" clauses.
During the year ended September 30, 2001, the Company originated $10.9
million of ARM mortgages. ARMs represented 41.3% and 14.2% of the Company's
total mortgage loan portfolio originations in fiscal 2000 and 2001,
respectively. The ARM mortgages offered by the Company are originated with
initial adjustment periods varying from one to 10 years, and provide for initial
8
rates of interest below the rates which would prevail were the index used for
repricing applied initially. The Company expects to emphasize the origination of
ARMs as market conditions permit, in order to reduce the impact of rising
interest rates in the market place. Such loans, however, may not adjust as
rapidly as changes in the Company's cost of funds.
The Company also originates, to a lesser extent, loans secured by
multi_family rental units or properties with some commercial usage. The primary
method used by the Company to evaluate a multi_family residential or commercial
mortgage loan is based on both the fair market value of the property and an
income approach pursuant to which the Company determines if the income from the
project will be sufficient to support the related debt and other associated
costs. The Company also considers a review of the costs to develop the project
and the overall financial strength of the borrower. Multi-family residential
loans are made on an adjustable rate basis for a maximum term of 25 years or a
fixed rate of 15 years or less. Initial rates are generally fully indexed to the
one or three year treasury yield.
Construction Loans. The Company offers fixed_rate and adjustable_rate
construction loans on residential properties. Residential construction loans are
originated for individuals who are building their primary residences as well as
to selected local builders for construction of single_family dwellings. As of
September 30, 2001, $14.6 million or 3.1% of the total loan and mortgage-backed
securities portfolio consisted of construction loans.
Construction loans to homeowners are usually made in connection with the
permanent financing on the property. Permanent loans made in conjunction with
residential construction have maximum terms of 30.5 years. At the end of the
initial six month term of such a loan the Company requires the borrower to begin
to make principal repayments on the loan. These loans are reclassified as
permanent mortgage loans when the residences securing the loans are completed.
The Company will make construction/permanent loans up to a maximum of 90% of the
fair market value of the completed project. The rate on the loan during
construction is the same rate as the Company will charge on the permanent loan
on the completed project. Advances are made on a percentage of completion basis
with the Company's receipt of a satisfactory inspection report of the project.
Historically, the Company has been active in on-your-lot home construction
lending and intends to continue to emphasize such lending. Although construction
lending is generally considered to involve a higher degree of risk of loss than
long_term financing on improved, occupied real estate, the Company historically
has not experienced any significant problems.
The Company also offers mortgage loans on undeveloped single lots held for
residential construction. These loans are generally fixed_rate loans with terms
not exceeding 15 years; they are not a significant part of the Company's lending
activities.
Consumer and Other Loans. The Company actively originates consumer loans to
provide a wider range of financial services to its customers and to improve the
interest rate sensitivity of its interest_earning assets. Originations of
consumer loans as a percent of total loan originations
9
amounted to 35.0% and 29.0% during fiscal 2000 and 2001, respectively. The
shorter_term and normally higher interest rates on such loans help the Company
to maintain a profitable spread between its average loan yield and its cost of
funds. The Company's consumer loan department offers a variety of loans,
including home equity installment loans and lines of credit, student loans
guaranteed by the Pennsylvania Higher Education Assistance Agency, vehicle
loans, personal loans and lines of credit. Loans secured by deposit accounts at
the Company are also made to depositors in an amount up to 90% of their account
balances with terms of up to 15 years.
Home equity loans continue to be a popular product and represented $53.2
million or 11.4% of the loan and mortgage-backed securities portfolio at
September 30, 2001. After taking into account first mortgage balances, the
Company will lend up to 80% of the value of owner-occupied property on fixed
rate terms up to fifteen years. This amount may be raised to 100% when
considering other factors, such as excellent credit history and income
stability. At September 30, 2001, the Company had outstanding approximately
2,700 home equity loans of which approximately 2,100 were installment equity
loans and 600 were line of credit loans. As of such date, the Company had an
outstanding balance on line of credit loans of approximately $9.8 million and
there was approximately $14.8 million of unused credit available on such loans.
Consumer loans generally involve more risk of collectibility than mortgage
loans because of the type and nature of the collateral and, in certain cases,
the absence of collateral. As continued payments are dependent on the borrower's
continuing financial stability, these loans may be more likely to be adversely
affected by job loss, divorce, personal bankruptcy or by adverse economic
conditions.
Loan Fee and Servicing Income. The Company receives fees both for the
origination of loans and for making commitments to originate and purchase
residential and commercial mortgage loans. The Company also receives servicing
fees with respect to residential mortgage loans it has sold. It also receives
loan fees related to existing loans, including late charges, and credit life
insurance premiums. Loan origination and commitment fees and discounts are a
volatile source of income, varying with the volume and type of loans and
commitments made and purchased and with competitive and economic conditions.
Loans fees generated on origination of real estate mortgage loans under
accounting principles generally accepted in the United States of America are
deferred to the extent that they exceed the costs of originating such loans.
Deferred loan fees and discounts on mortgage loans purchased are amortized to
income over the estimated remaining terms of such loans using various methods
which approximate the interest method. The Company generated $139,000, $268,000
and $137,000 in deferred loan fees in fiscal 1999, 2000 and 2001, respectively.
In its real estate lending, the Company charges loan fees which are
calculated as a percentage of the amount borrowed. The fees received in
connection with the origination of residential real estate loans and commercial
real estate loans generally do not exceed 3% of the principal amount.
10
All origination fees in excess of loan origination costs are deferred and
amortized into income over the estimated life of the related loans.
As of September 30, 2001, the Company was servicing $4.9 million of loans
for others, substantially all of which related to loans sold by the Company to
the FHLMC. The Company receives a servicing fee of .25% on such loans.
Non_performing Loans and Real Estate Owned. When a borrower fails to make a
required loan payment, the Company attempts to cure the default by contacting
the borrower; generally, after a payment is more than 15 days past due, at which
time a late charge is assessed. Defaults are cured promptly in most cases. If
the delinquency on a mortgage loan exceeds 60 days and is not cured through the
Company's normal collection procedures, or an acceptable arrangement is not
worked out with the borrower, the Company will institute measures to remedy the
default. This may include commencing a foreclosure action or, in special
circumstances, accepting from the borrower a voluntary deed of the secured
property in lieu of foreclosure with respect to mortgage loans and equity loans,
or title and possession of collateral in the case of other consumer loans.
Substantial delays may occur in instituting and completing residential
foreclosure proceedings due to the extensive procedures and time periods
required to be complied with under Pennsylvania law.
If foreclosure is effected, the property is sold at a public auction in
which the Company may participate as a bidder. If the Company is the successful
bidder, the acquired real estate property is then included in the Company's
"real estate owned" account until it is sold. When property is acquired, it is
recorded at the lower of carrying or market value at the date of acquisition and
any write_down resulting therefrom is charged to the allowance for loan losses.
Interest accrual, if any, ceases on the date of acquisition and all costs
incurred in maintaining the property from that date forward are expended. Costs
incurred for the improvement or development of such property are capitalized.
The Company is permitted under Department regulations to finance sales of real
estate owned by "loans to facilitate," which may involve more favorable interest
rates and terms than generally would be granted under the Company's underwriting
guidelines. The Company had no loans outstanding which are recorded as loans
accounted for on a non-accrual basis as of the end of the period.
11
The following table sets forth information regarding non_accrual loans,
loans which are 90 days or more delinquent but on which the Company is accruing
interest, troubled debt restructuring, and other real estate owned held by the
Company at the dates indicated. The Company continues to accrue interest on
loans which are 90 days or more overdue where management believes that such
interest is collectible.
As of September 30,
-----------------------------
2001 2000 1999
---- ---- ----
(Dollars in Thousands)
Residential real estate loans:
Non-accrual loans $ -- $ -- $ --
Accruing loans 90 days overdue 298 184 299
Troubled debt restructurings -- -- --
---- ---- ----
Total 298 184 299
---- ---- ----
Consumer loans:
Non-accrual loans -- -- --
Accruing loans 90 days overdue -- --
Troubled debt restructurings -- -- --
---- ---- ----
Total -- -- --
---- ---- ----
Total non-performing loans:
Non-accrual loans -- -- --
Accruing loans 90 days overdue 298 184 299
Troubled debt restructurings -- -- --
---- ---- ----
Total $298 $184 $299
==== ==== ====
Total non-performing loans to total loans .07% .07% .12%
Total real estate owned, net of related reserves ---- ---- ----
Total non-performing loans and other real
estate owned to total assets .05% .04% .07%
12
Management establishes reserves for losses on slow loans when it determines
that losses are probable. The Company did not record a provision for general
loan losses in fiscal 2000 or 2001 due to the overall performance of the loan
portfolio and management's assessment of the overall adequacy of the allowance
for loan losses. The Company recorded a $16,579 provision for loan losses in
fiscal 1999. Although management believes that it uses the best information
available to make determinations with respect to loan loss reserves, future
adjustments to reserves may be necessary if economic conditions differ
substantially from the assumptions used in making the initial determinations.
Residential mortgage lending generally entails a lower risk of default than
other types of lending. Consumer loans and commercial real estate loans
generally involve more risk of collectibility because of the type and nature of
the collateral and, in certain cases, the absence of collateral. It is the
Company's policy to establish specific reserves for losses on slow consumer
loans and commercial loans when it determines that losses are probable. In
addition, consumer loans are charged against reserves if they are more than 120
days delinquent unless a satisfactory repayment schedule is arranged. Although
management has currently established no specific reserves for losses, no
assurance can be given as to whether future specific reserves may be required.
The establishment of any such reserves could affect net income.
The following table summarizes activity in the Company's allowance for loan
losses during the periods indicated.
Year Ended September 30,
-----------------------------------------------
2001 2000 1999
----------- ----------- -----------
Allowances at beginning of year $ 2,038,131 $ 2,040,000 $ 2,040,000
Provision for loan losses charged to
operating expenses -- -- 16,579
Amounts charged off, net (1,943) (1,869) (16,579)
----------- ----------- -----------
Allowances at end of year $ 2,036,188 $ 2,038,131 $ 2,040,000
=========== =========== ===========
Ratio of net charge-offs to average
loans outstanding -- -- --
Ratio of allowances to period-end loans .69% .77% .81%
Investment Activities
The Company is required to maintain certain liquidity ratios and does so by
investing in securities that qualify as liquid assets under FDIC regulations.
Such securities include obligations issued or fully guaranteed by the United
States government, certain federal agency obligations, certain time deposits and
certificates of deposit as well as other specified investments. See "Regulation
_ Federal Home Loan Bank System."
13
The Company's investment portfolio consists primarily of United States
Treasury securities and obligations of United States government agencies. The
other investments include interest_bearing deposits in other banks, tax exempt
obligations, ARM mutual funds, and stock of the FHLB of Pittsburgh. The Company
has primarily invested in instruments that reprice within five years; the amount
of such investments as of September 30, 2001 was $58.1 million.
The following table sets forth the Company's investment portfolio at
carrying value as of the dates indicated.
As of September 30,
--------------------------------
2001 2000 1999
---- ---- ----
(In Thousands)
Interest-bearing deposits at
other depository institutions $ 7,588 $ 2,856 $ 2,681
Tax exempt obligations 23,771 15,381 8,121
ARM mutual funds 3,294 3,310 3,202
U.S. Government Securities
available-for-sale -- -- --
U.S. Government and agency
obligations held to maturity 38,431 55,900 52,892
FHLB of Pittsburgh stock 8,950 7,365 6,473
------- ------- -------
Total
$82,034 $84,812 $73,369
======= ======= =======
The Company's investment strategy is set and reviewed periodically by the
entire Board of Directors.
Sources of Funds
General. Deposits are the primary source of the Company's funds for use in
lending and for other general business purposes. In addition to deposits, the
Company obtains funds from loan payments and prepayments, FHLB advances and
other borrowings, and, to a lesser extent, sales of loans. Loan repayments are a
relatively stable source of funds, while deposit inflows and outflows are
significantly influenced by general market interest rates and economic
conditions.
Deposits. Due to changes in regulatory and economic conditions in recent
years, the Company has increasingly emphasized deregulated fixed_rate
certificate accounts and other authorized types of deposits. The Company has a
number of different programs designed to attract both short_term and long_term
deposits from the general public by providing an assortment of accounts and
rates consistent with FDIC regulations. These programs include passbook and club
savings accounts, NOW and regular checking accounts, money market deposit
accounts, retirement accounts, certificates of deposit ranging in terms from 90
days to 60 months and jumbo certificates
14
of deposit in denominations of $98,000 or more. The interest rates on the
Company's various accounts are determined weekly by the Interest Rate Risk
Management Officer based on reports prepared by members of senior management.
The Company attempts to control the flow of deposits by pricing its accounts to
remain competitive with other financial institutions in its market area.
The Company's deposits are obtained primarily from residents of Montgomery
and Bucks Counties; the Company does not utilize brokered deposits. The
principal methods used by the Company to attract deposit accounts include local
advertising, offering a wide variety of services and accounts, competitive
interest rates and convenient office locations. The Company also is a member of
the "STAR" ATM network.
The following table shows the distribution of, and certain other
information relating to, the Company's deposits by type as of the dates
indicated.
As of September 30,
-----------------------------------------------------------------------
2001 2000 1999
------------------- -------------------- ----------------------
Percent
of Percent Percent
Amount Deposits Amount of Deposits Amount of Deposits
------ -------- ------ ----------- ------ -----------
(Dollars in Thousands)
Passbook and club
accounts $ 2,535 0.7% $ 2,396 0.8% $ 2,707 0.9%
NOW accounts 12,280 3.5 10,749 3.5 11,812 3.9
Checking accounts 6,859 2.0 5,781 1.9 5,372 1.8
Money market demand
accounts 67,383 19.2 49,420 16.0 54,055 17.8
Certificates of deposit:
6 month 25,148 7.2 8,520 2.7 7,159 2.4
9 month 5,949 1.7 4,246 1.4 8,762 2.9
12 month 28,170 8.0 32,121 10.4 16,867 5.6
15 month 10,710 3.1 4,660 1.5 7,047 2.3
17 month 9,490 2.7 40,896 13.2 14,946 4.9
18 month 62,754 17.9 51,037 16.5 52,442 17.2
24 month 35,826 10.2 28,820 9.3 47,099 15.5
27 month 5,171 1.5 5,045 1.6 2,970 1.0
36 month 18,308 5.2 16,519 5.3 24,511 8.1
60 month 18,607 5.3 12,928 4.2 13,195 4.3
Other 3,712 1.1 2,638 0.9 3,052 1.0
Retirement accounts:
Money mark deposit 559 0.2 509 0.2 435 0.1
accounts
Certificates of deposit 36,686 10.5 33,551 10.8 31,229 10.3
-------- ----- -------- ----- -------- -----
Total deposits $350,147 100.0% $309,836 100.0% $303,660 100.0%
======== ===== ======== ===== ======== =====
15
The large variety of deposit accounts offered by the Company has increased
the Company's ability to retain deposits and has allowed it to be competitive in
obtaining new funds, although the threat of disintermediation (the flow of funds
away from savings institutions into direct investment vehicles such as
government and corporate securities and non-deposit products) still exists. The
new types of accounts, however, have been more costly than traditional accounts
during periods of high interest rates. In addition, the Company has become more
vulnerable to short_term fluctuations in deposit flows as customers have become
more rate_conscious and willing to move funds into higher yielding accounts. The
ability of the Company to attract and retain deposits and the Company's cost of
funds have been, and will continue to be, significantly affected by money market
conditions.
16
The following table presents certain information concerning the Company's
deposit accounts as of September 30, 2001 and the scheduled quarterly maturities
of its certificates of deposit.
Percentage of Weighted Average
Amount Total Deposits Nominal Rate
-------- -------------- ----------------
(Dollars in Thousands)
Passbook and club accounts $ 2,535 0.7% 2.09%
NOW accounts 12,985 3.7 1.10
Checking accounts 6,154 1.8 0.00
Money market deposits accounts(1) 67,941 19.4 3.27
-------- ------ ----
Total $ 89,615 25.6% 2.70%
-------- ------ ----
Certificate accounts maturing by quarter:
December 31, 2001
$ 45,486 13.0% 5.42%
March 31, 2002 45,188 12.9 5.35
June 30, 2002 47,579 13.6 5.62
September 30, 2002 30,084 8.6 5.19
December 31, 2002 30,655 8.8 5.25
March 31, 2003 15,267 4.4 5.19
June 30, 2003 7,826 2.2 5.36
September 30, 2003 11,043 3.2 5.18
December 31, 2003 3,865 1.1 5.85
March 31, 2004 5,705 1.6 5.43
June 30, 2004 3,441 1.0 5.04
September 30, 2004 2,995 0.9 4.83
Thereafter 11,397 3.3 5.64
-------- ------ ----
Total certificate accounts(1) 260,531 74.4 5.38
-------- ------ ----
Total deposits $350,146 100.0% 4.69%
======== ====== ====
----------
(1) Includes retirement accounts.
17
Management of the Company expects, based on historical experience and its
pricing policies, to retain a significant portion of the $161.2 million of
certificates of deposit which mature during the 12 months ended September 30,
2002.
The following table sets forth the net deposit flows of the Company during
the periods indicated.
Year Ended September 30,
-----------------------------------------
2001 2000 1999
-------- -------- --------
(In Thousands)
(Decrease)/Increase before interest credited $ 26,472 $ (6,391) $ 1,747
Interest credited 13,839 12,567 12,086
-------- -------- --------
Net deposit increase $ 40,311 $ 6,176 $ 13,833
======== ======== ========
The following table presents by various interest rate categories the
amounts of certificate accounts as of the dates indicated and the amounts of
certificate accounts as of September 30, 2001 which mature during the periods
indicated.
Amounts at September 30, 2001 Maturing
-------------------------------------------------------------------------
As of
September 30, One Year or
2001 Less Two Years Three Years Thereafter
-------- -------- --------- ----------- ----------
(In Thousands)
Certificate accounts:
2.01% to 4.00% $ 24,465 $ 23,598 $767 $ 100
4.01% to 6.00% 142,429 72,522 47,988 13,674 $ 8,245
6.01% to 8.00% 93,637 71,802 16,194 2,464 3,177
-------- -------- -------- -------- --------
Total certificate
accounts(1) $260,531 $167,922 $ 64,949 $ 16,238 $ 11,422
======== ======== ======== ======== ========
----------
(1) Includes retirement accounts.
Borrowings. The Bank obtains advances from the FHLB of Pittsburgh upon the
security of its capital stock in the FHLB of Pittsburgh and a portion of its
first mortgages. See "Regulation _ Regulation of the Bank - Federal Home Loan
Bank System." At September 30, 2001, the Bank had FHLB advances with maturities
of one year or less totaling $5.5 million at an interest rate of 6.35% and FHLB
advances with maturities of 13 months to 10 years totaling $145.3 million at
interest_rates ranging from 5.17% to 6.50%. Such advances are made pursuant to
several different credit programs, each of which has its own interest rate and
range of maturities. Depending on the program, limitations on the amount of
advances are based on either a fixed percentage of assets or the FHLB of
Pittsburgh's assessment of the Bank's creditworthiness. FHLB advances are
generally available
18
to meet seasonal and other withdrawals of deposit accounts to purchase
mortgage-backed securities, investment securities and to expand lending.
The following table sets forth certain information regarding the borrowings
of the Company as of the dates indicated.
September 30,
------------------------------------------------------------------------------------
2001 2000 1999
--------- -------- -------- -------- -------- --------
Weighted Weighted Weighted
Average Average Average
Balance Rate Balance Rate Balance Rate
-------- -------- --------- --------- -------- -------
(Dollars in Thousands)
Advances from FHLB of Pittsburgh $171,309 5.74% $145,134 6.10% $125,180 5.76%
The following table sets forth certain information concerning the
short_term borrowings of the Company for the periods indicated.
Year Ended September 30,
------------------------------------
2001 2000 1999
-------- ------ -------
(Dollars in Thousands)
Advances from FHLB of Pittsburgh:
Average balance outstanding $ 5,222 $6,550 $6,575
Maximum amount outstanding at any
month-end during the period 16,200 14,600 11,700
Weighted average interest rate
during the period 6.31% 6.34% 5.44%
19
Competition
The Company faces significant competition in attracting deposits. Its most
direct competition for deposits has historically come from commercial banks and
other savings institutions located in its market area. The Company faces
additional significant competition for investors' funds from other financial
intermediaries. The Company competes for deposits principally by offering
depositors a variety of deposit programs, convenient branch locations, hours and
other services. The Company does not rely upon any individual group or entity
for a material portion of its deposits.
The Company's competition for real estate loans comes principally from
mortgage banking companies, other savings institutions, commercial banks and
credit unions. The Bank competes for loan originations primarily through the
interest rates and loan fees it charges, the efficiency and quality of services
it provides borrowers, referrals from real estate brokers and builders, and the
variety of its products. Factors which affect competition include the general
and local economic conditions, current interest rate levels and volatility in
the mortgage markets.
FIRREA eliminated many of the distinctions between commercial banks and
savings institutions and holding companies and allowed bank holding companies to
acquire savings institutions. FIRREA has generally resulted in an increase in
the competition encountered by savings institutions and has resulted in a
decrease in both the number of savings institutions and the aggregate size of
the savings industry.
Employees
The Company had 50 full_time employees and 44 part_time employees as of
September 30, 2001. None of these employees is represented by a collective
bargaining agent, and the Company believes that it enjoys good relations with
its personnel.
Regulation
The references to laws and regulations which are applicable to the Company
and the Bank set forth below and elsewhere herein are brief summaries thereof
which do not purport to be complete and are qualified in their entirety by
reference to such laws and regulations.
On November 12, 1999, President Clinton signed into law the
Gramm-Leach-Bliley Act (the "1999 Act") which repealed Depression-era laws that
generally separated the business of banking from other financial services
including the business of insurance and securities. From time to time other
bills may be introduced in the United States Congress which could result in
additional or in less regulation of the business of the Company and the Bank. It
cannot be predicted at this time whether any such legislation actually will be
adopted or how such adoption would affect the business of the Company or the
Bank.
20
Regulation of the Company
General. The Company is a registered bank holding company pursuant to the
Bank Holding Company Act ("BHCA") and, as such, is subject to regulation and
supervision by the Federal Reserve Board and the Department. The Company is
required to file annually a report of its operations with, and will be subject
to examination by, the Federal Reserve Board and the Department.
BHCA Activities and Other Limitations. The BHCA prohibits a bank holding
company from acquiring direct or indirect ownership or control of more than 5%
of the voting shares of any bank, or increasing such ownership or control of any
bank, without prior approval of the Federal Reserve Board. The BHCA also
generally prohibits a bank holding company from acquiring any bank located
outside of the state in which the existing bank subsidiaries of the bank holding
company are located unless specifically authorized by applicable state law. No
approval under the BHCA is required, however, for a bank holding company already
lawfully owning or controlling 50% of the voting shares of a bank to acquire
additional shares of such bank.
The BHCA also prohibits a bank holding company, with certain exceptions,
from acquiring more than 5% of the voting shares of any company that is not a
bank and from engaging in any business other than banking or managing or
controlling banks. Under the BHCA, the Federal Reserve Board is authorized to
approve the ownership of shares by a bank holding company in any company, the
activities of which the Federal Reserve Board has determined to be so closely
related to banking or to managing or controlling banks as to be a proper
incident thereto. In making such determinations, the Federal Reserve Board is
required to weigh the expected benefit to the public, such as greater
convenience, increased competition or gains in efficiency, against the possible
adverse effects, such as undue concentration of resources, decreased or unfair
competition, conflicts of interest or unsound banking practices. The 1999 Act
permits a bank holding company to elect to be considered a financial holding
company ("FHC"). A bank holding company that makes an FHC election is permitted
to engage in activities that are financial in nature or incidental to such
financial activities. The 1999 Act lists certain activities that are considered
financial in nature and permits the Federal Reserve Board to expand that list to
include other activities that are complementary to the activities on the
preapproved list. The preapproved activities include (1) securities
underwriting, dealing and market making; (2) insurance underwriting; (3)
merchant banking; and (4) insurance company portfolio investments. The Company
has not made the financial holding company election.
The Federal Reserve Board has by regulation determined that certain
activities are closely related to banking within the meaning of the BHCA. These
activities include operating a mortgage company, finance company, credit card
company, factoring company, trust company or savings association; performing
certain data processing operations; providing limited securities brokerage
services; acting as an investment or financial advisor; acting as an insurance
agent for certain types of credit-related insurance; leasing personal property
on a full-payout, non-operating basis; providing tax planning and preparation
services; operating a collection agency; and providing certain courier services.
The Federal Reserve Board also has determined that certain other activities,
including real estate brokerage and syndication, land development, property
management and underwriting of life
21
insurance not related to credit transactions, are not closely related to banking
and a proper incident thereto. However, under the 1999 Act certain of these
activities are permissible for a bank holding company that becomes an FHC.
Limitations on Transactions with Affiliates. Transactions between savings
institutions and any affiliate are governed by Sections 23A and 23B of the
Federal Reserve Act. An affiliate of a savings institution is any company or
entity which controls, is controlled by or is under common control with the
savings institution. In a holding company context, the parent holding company of
a savings institution (such as the Company) and any companies which are
controlled by such parent holding company are affiliates of the savings
institution. Generally, Sections 23A and 23B (i) limit the extent to which the
savings institution or its subsidiaries may engage in "covered transactions"
with any one affiliate to an amount equal to 10% of such institution's capital
stock and surplus, and contain an aggregate limit on all such transactions with
all affiliates to an amount equal to 20% of such capital stock and surplus and
(ii) require that all such transactions be on terms substantially the same, or
at least as favorable, to the institution or subsidiary as those provided to a
non-affiliate. The term "covered transaction" includes the making of loans,
purchase of assets, issuance of a guarantee and other similar transactions. In
addition to the restrictions imposed by Sections 23A and 23B, no savings
institution may (i) loan or otherwise extend credit to an affiliate, except for
any affiliate which engages only in activities which are permissible for bank
holding companies, or (ii) purchase or invest in any stocks, bonds, debentures,
notes or similar obligations of any affiliate, except for affiliates which are
subsidiaries of the savings institution.
In addition, Sections 22(h) and (g) of the Federal Reserve Act places
restrictions on loans to executive officers, directors and principal
stockholders. Under Section 22(h), loans to a director, an executive officer and
to a greater than 10% stockholder of a savings institution, and certain
affiliated interests of either, may not exceed, together with all other
outstanding loans to such person and affiliated interests, the savings
institution's loans to one borrower limit (generally equal to 15% of the
institution's unimpaired capital and surplus). Section 22(h) also requires that
loans to directors, executive officers and principal stockholders be made on
terms substantially the same as offered in comparable transactions to other
persons and also requires prior board approval for certain loans. In addition,
the aggregate amount of extensions of credit by a savings institution to all
insiders cannot exceed the institution's unimpaired capital and surplus.
Furthermore, Section 22(g) places additional restrictions on loans to executive
officers.
Capital Requirements. The Federal Reserve Board has adopted capital
adequacy guidelines pursuant to which it assesses the adequacy of capital in
examining and supervising a bank holding company and in analyzing applications
to it under the BHCA. The Federal Reserve Board capital adequacy guidelines
generally require bank holding companies to maintain total capital equal to 8%
of total risk-adjusted assets, with at least one-half of that amount consisting
of Tier I or core capital and up to one-half of that amount consisting of Tier
II or supplementary capital. Tier I capital for bank holding companies generally
consists of the sum of common stockholders' equity and perpetual preferred stock
(subject in the case of the latter to limitations on the kind and amount of such
stocks which may be included as Tier I capital), less goodwill and, with certain
exceptions, intangibles.
22
Tier II capital generally consists of hybrid capital instruments; perpetual
preferred stock which is not eligible to be included as Tier I capital; term
subordinated debt and intermediate-term preferred stock; and, subject to
limitations, general allowances for loan losses. Assets are adjusted under the
risk-based guidelines to take into account different risk characteristics, with
the categories ranging from 0% (requiring no additional capital) for assets such
as cash to 100% for the bulk of assets which are typically held by a bank
holding company, including multi-family residential and commercial real estate
loans, commercial business loans and consumer loans. Single-family residential
first mortgage loans which are not past-due (90 days or more) or non-performing
and which have been made in accordance with prudent underwriting standards are
assigned a 50% level in the risk-weighing system, as are certain
privately-issued mortgage-backed securities representing indirect ownership of
such loans. Off-balance sheet items also are adjusted to take into account
certain risk characteristics.
In addition to the risk-based capital requirements, the Federal Reserve
Board requires bank holding companies to maintain a minimum leverage capital
ratio of Tier I capital to total assets of 3.0%. Total assets for this purpose
does not include goodwill and any other intangible assets and investments that
the Federal Reserve Board determines should be deducted from Tier I capital. The
Federal Reserve Board has announced that the 3.0% Tier I leverage capital ratio
requirement is the minimum for the top-rated bank holding companies without any
supervisory, financial or operational weaknesses or deficiencies or those which
are not experiencing or anticipating significant growth. Other bank holding
companies will be expected to maintain Tier I leverage capital ratios of at
least 4.0% to 5.0% or more, depending on their overall condition.
Financial Support of Affiliated Institutions. Under Federal Reserve Board
policy, the Company is expected to act as a source of financial strength to the
Bank and to commit resources to support the Bank in circumstances when it might
not do so absent such policy. The Congress attempted to clarify the application
of this "source-of-strength" doctrine by an amendment to Section 18 of the FDIA
that was included in the Gramm-Leach-Bliley Act of 1999. The amendment describes
the circumstances under which a Federal banking agency would be protected from a
claim by an affiliate or a controlling shareholder of an insured depository
institution seeking the return of assets of such an affiliate or controlling
shareholder. Under the amended provision, a claim would not be permitted if (1)
the insured depository institution was under a written Federal directive to
raise capital, (2) the institution was undercapitalized, and (3) the subject
Federal banking agency followed the procedures set forth in Section 5(g) of the
BHCA.
Regulation of the Bank
General. The Bank is subject to extensive regulation and examination by the
Department and by the FDIC, which insures its deposits to the maximum extent
permitted by law. The federal and state laws and regulations which are
applicable to banks regulate, among other things, the scope of their business,
their investments, their reserves against deposits, the timing of the
availability of deposited funds and the nature and amount of and collateral for
certain loans. There are periodic examinations by the Department and the FDIC to
test the Bank's compliance with various regulatory
23
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 insurance fund and depositors. The
regulatory structure also gives the regulatory authorities extensive discretion
in connection with their supervisory and enforcement activities and 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, the FDIC or the Congress
could have a material adverse impact on 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 members, 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 and 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 present
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.
Interstate Acquisitions. The Interstate Banking Act allows federal
regulators to approve mergers between adequately capitalized banks from
different states regardless of whether the transaction is prohibited under any
state law, unless one of the banks' home states has enacted a law expressly
prohibiting out-of-state mergers before June 1997. This act also allows a state
to permit out-of-state banks to establish and operate new branches in this
state. The Commonwealth of Pennsylvania has "opted in" to this interstate merger
provision. Therefore, the prior requirement that interstate acquisitions would
only be permitted when another state had "reciprocal" legislation that allowed
acquisitions by Pennsylvania-based bank holding companies has been eliminated.
The new Pennsylvania legislation, however, retained the requirement that an
acquisition of a Pennsylvania institution by a Pennsylvania or a
non-Pennsylvania-based holding company must be approved by the Banking
Department.
24
FDIC Insurance Premiums. The deposits of the Bank are insured by the SAIF,
which is administered by the FDIC. Under current FDIC regulations, SAIF-insured
institutions are assigned to one of three capital groups which are based solely
on the level of an institution's capital. SAIF assessment rates are then tied to
the level of an institution's supervisory concern based on risk classifications
derived from the capital groups. Rates during the last six months of 2001 ranged
from zero for well capitalized, healthy institutions, such as the Bank, to 27
basis points for undercapitalized institutions with substantial supervisory
concerns.
In addition, all institutions with deposits insured by the FDIC are
required to pay assessments to fund interest payments on bonds issued by the
Financing Corporation, a mixed-ownership government corporation established to
recapitalize the predecessor to the SAIF. The current assessment rate is .0184%
of insured deposits and is adjusted quarterly. These assessments will continue
until the Financing Corporation bonds mature in 2017 through 2019.
Under the Federal Deposit Insurance Act ("FDIA"), insurance of deposits may
be terminated by the FDIC upon a finding that the institution has engaged or is
engaging in unsafe and unsound practices, is in an unsafe or unsound condition
to continue operations or has violated any applicable law, regulation, rule,
order or condition imposed by the FDIC or written agreement entered into with
the FDIC. The management of the Bank does not know of any practice, condition or
violation that might lead to termination of deposit insurance. At September 30,
2001, the Bank's regulatory capital exceeded all of its capital requirements.
Capital Requirements. The FDIC has promulgated regulations and adopted a
statement of policy regarding the capital adequacy of state-chartered banks
which, like the Bank, are not members of the Federal Reserve System. 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 and
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
25
25 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 September 30, 2001,
the Bank met each of 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 subject the
bank 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 Bank is also subject to more stringent Department capital guidelines.
Although not adopted in regulation form, the Department utilizes capital
standards requiring a minimum 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.
Activities and Investments of Insured State-Chartered Banks. Section 24 of
the FDIA, as amended by the FDICIA, generally limits the activities and equity
investments of FDIC-insured,
26
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 FDIC has adopted final regulations pertaining to the other activity
restrictions imposed upon insured savings banks and their subsidiaries by
Section 24. Pursuant to such regulations, insured savings banks engaging in
impermissible activities may seek approval from the FDIC to continue such
activities. Savings banks not engaging in such activities but that desire to
engage in otherwise impermissible activities may apply for approval from the
FDIC to do so, however, if such bank fails to meet the minimum capital
requirements or the activities present a significant risk to the FDIC insurance
funds, such application will not be approved by the FDIC.
Regulatory Enforcement Authority. FIRREA included substantial enhancement
to the enforcement powers available to federal banking regulators. 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. FIRREA
significantly increased the amount of and grounds for civil money penalties and
requires, except under certain circumstances, public disclosure of final
enforcement actions by the federal banking agencies.
The foregoing references to laws and regulations are brief summaries
thereof which do not purport to be complete and which are qualified in their
entirety by reference to such laws and regulations.
Federal and State Taxation
General. The Bank is subject to federal income taxation in the same general
manner as other corporations with some exceptions, including particularly the
reserve for bad debts discussed below. The following discussion of federal
taxation is intended only to summarize certain pertinent federal income tax
matters and is not a comprehensive description of the tax rules applicable to
the Bank.
27
Method of Accounting. For federal income tax purposes, the Bank currently
reports its income and expenses on the accrual method of accounting and uses a
tax year ending September 30 for filing its federal income tax returns.
Bad Debt Reserves. As of January 1, 1996, the Company changed its method of
computing reserves for bad debts to the experience method. The bad debt
deduction allowable under this method is available to small banks with assets
less than $500 million. Beginning October 1, 2000, the Company changed its
method of computing reserves for bad debts to the specific charge-off method.
The bad debt deduction allowable under this method is available to large banks
with assets greater than $500 million. Generally, this method allows the Company
to deduct an annual addition to the reserve for bad debts equal to it its net
charge-offs.
A thrift institution required to change its method of computing reserves
for bad debts to the experience method treats such change as a change in method
of accounting determined solely with respect to the "applicable excess reserves"
of the institutions. The amount of applicable excess reserves is taken into
account ratably over a six taxable-year period, beginning with the first taxable
year beginning after December 31, 1995. For financial reporting purposes, the
Company has not incurred any additional tax expense. Amounts that had been
previously deferred will be reversed for financial reporting purposes and will
be included in the income tax return of the Company, increasing income tax
payable. The change from the experience method to the specific charge-off method
in the current year will not result in a recapture of bad debt reserves for tax
purposes. Retained earnings at September 30, 2001 and 2000 included
approximately $1,325,000 representing bad debt deductions for which no deferred
income taxes have been provided.
Distributions. If the Bank distributes cash or property to its
stockholders, and the distribution is treated as being from its accumulated
pre-1988 tax bad debt reserves, the distribution will cause the Bank to have
additional taxable income. A distribution to stockholders is deemed to have been
made from accumulated bad debt reserves to the extent that (a) the reserves
exceed the amount that would have been accumulated on the basis of actual loss
experience, and (b) the distribution is a "non_dividend distribution." A
distribution in respect of stock is a non_dividend distribution to the extent
that, for federal income tax purposes, (i) it is in redemption of shares, (ii)
it is pursuant to a liquidation of the institution, or (iii) in the case of a
current distribution, together with all other such distributions during the
taxable year, it exceeds the Bank's current and post_1951 accumulated earnings
and profits. The amount of additional taxable income created by a non_dividend
distribution is an amount that when reduced by the tax attributable to it is
equal to the amount of the distribution.
Minimum Tax. The Code imposes an alternative minimum tax at a rate of 20%
on a base of regular taxable income plus certain tax preferences ("alternative
minimum taxable income" or "AMTI"). The alternative minimum tax is payable to
the extent such AMTI is in excess of an exemption amount. The Code provides that
an item of tax preference is the excess of the bad debt deduction allowable for
a taxable year pursuant to the percentage of taxable income method over the
amount allowable under the experience method. The other items of tax preference
that constitute
28
AMTI include (a) tax exempt interest on newly_issued (generally, issued on or
after August 8, 1986) private activity bonds other than certain qualified bonds
and (b) for taxable years beginning after 1989, 75% of the excess (if any) of
(i) adjusted current earnings as defined in the Code, over (ii) AMTI (determined
without regard to this preference and prior to reduction by net operating
losses). Net operating losses can offset no more than 90% of AMTI. Certain
payments of alternative minimum tax may be used as credits against regular tax
liabilities in future years.
Net Operating Loss Carryovers. A financial institution may carry back net
operating losses to the preceding three taxable years and forward to the
succeeding 15 taxable years. Effective for net operating losses arising in tax
years beginning after October 1, 1997, the carryback period is reduced from
three years to two years and the carryforward period is extended from 15 years
to 20 years. At September 30, 2001, the Bank had no net operating loss
carryforwards for federal income tax purposes.
Corporate Dividends_Received Deduction. The corporate dividends_received
deduction is 80% in the case of dividends received from corporations with which
a corporate recipient does not file a consolidated tax return, and corporations
which own less than 20% of the stock of a corporation distributing a dividend
may deduct only 70% of dividends received or accrued on their behalf. However, a
corporation may deduct 100% of dividends from a member of the same affiliated
group of corporations.
Other Matters. The Company's federal income tax returns for its tax years
1993 and beyond are open under the statute of limitations and are subject to
review by the Internal Revenue Service ("IRS").
Pennsylvania Taxation. The Bank is subject to tax under the Pennsylvania
Mutual Thrift Institutions Tax Act, which imposes a tax at the rate of 11.5% on
the Bank's net earnings, determined in accordance with generally accepted
accounting principles, as shown on its books. For fiscal years beginning in
1983, and thereafter, NOLs may be carried forward and allowed as a deduction for
three succeeding years. This Act exempts the Bank from all other corporate taxes
imposed by Pennsylvania for state tax purposes, and from all local taxes imposed
by political subdivisions thereof, except taxes on real estate and real estate
transfers.
Subsidiary
The Bank is the only direct wholly owned subsidiary of the Company. The
Bank formed HSB, Inc., a Delaware company, as a wholly owned subsidiary of the
Bank during fiscal 1997. HSB, Inc. was formed in order to accommodate the
transfer of certain assets that are legal investments for the Bank and to
provide for a greater degree of protection to claims of creditors. The laws of
the State of Delaware and the court system create a more favorable environment
for the proposed business affairs of the subsidiary. HSB, Inc. currently manages
the investment securities for the Bank, which as of September 30, 2001 amounted
to approximately $95.2 million.
29
Item 2. Properties
As of September 30, 2001, the Company conducted its business from its main
office in Harleysville, Pennsylvania and four other full service branch offices.
The Company is also part of the STAR ATM System, which provides customers with
access to their deposits at locations throughout Pennsylvania, Delaware, New
York and New Jersey.
Net Book Value
of Property and
Leasehold
Lease Improvements at
Owned or Expiration September 30,
County Address Leased Date 2001 Deposits
------ ------- -------- ---------- --------------- --------
(In Thousands)
Montgomery 271 Main Street
Harleysville, Pennsylvania Owned -- $1,282 $145,812
Montgomery 640 East Main Street May
Lansdale, PA 19446 Leased 2043(1) 1,029 7,127
Montgomery 1550 Hatfield Valley Road January
Hatfield, Pennsylvania Leased 2064(1) 968 83,128
Montgomery 2301 West Main Street
Norristown, Pennsylvania Owned -- 660 75,795
Montgomery 3090 Main Street
Sumneytown, Pennsylvania Owned -- 142 38,285
------ --------
Total $4,081 $350,147
====== ========
----------
(1) The land at this office is leased, however, the Bank owns the building.
30
Item 3. Legal Proceedings.
The Company is not involved in any legal proceedings except nonmaterial
litigation incidental to the ordinary course of business.
Item 4. Submission of Matters to a Vote of Security Holders.
Not Applicable.
PART II.
Item 5. Market for The Company's Common Stock Related Stockholder Matters.
The information required herein is incorporated by reference from page 28
of the Company's 2001 Annual Report to Stockholders ("Annual Report").
Item 6. Selected Financial Data.
The information required herein is incorporated by reference from page 1 of
the Annual Report.
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations.
The information required herein is incorporated by reference from pages 6
to 10 of the Annual Report.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.
The information required herein is incorporated by reference from pages 8
to 10 of the Annual Report.
Item 8. Financial Statements and Supplementary Data.
The information required herein is incorporated by reference from pages 12
to 27 of the Annual Report.
Item 9. Changes in and Disagreements With Accountants on Accounting and
Financial Disclosure.
Not Applicable
31
PART III.
Item 10. Directors and Principal Officers of the Company.
The information required by Item 10 of Form 10-K with respect to
identification of directors and executive officers is incorporated by reference
from the information contained in the section captioned "Information with
Respect to Nominees for Director, Directors Whose Terms Continue and Executive
Officers" in the Company's definitive Proxy Statement for the Annual Meeting of
Stockholders to be held January 23, 2002 (the "Proxy Statement"), a copy of
which will be filed with the Securities and Exchange Commission before the
meeting date.
Item 11. Executive Compensation.
The information required by Item 11 of Form 10-K is incorporated by
reference from the information contained in the sections captioned "Management
Compensation" in the Proxy Statement.
Item 12. Security Ownership of Certain Beneficial Owners and Management.
The information required by Item 12 of Form 10-K is incorporated by
reference from the information contained in the section captioned "Beneficial
Ownership of Common Stock by Beneficial Owners and Management" in the Proxy
Statement.
Item 13. Certain Relationships and Related Transactions.
The information required by Item 13 of Form 10-K is incorporated by
reference from the information contained in the section captioned "Indebtedness
of Management" in the Proxy Statement.
32
PART IV.
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K.
(a) Contents
--------
(1) The following financial statements are incorporated by reference
from Item 8 hereof (see Exhibit 13):
Independent Auditors' Report
Consolidated Statements of Financial Condition as of September 30,
2001 and 2000
Consolidated Statements of Income for the Years Ended September 30,
2001, 2000 and 1999
Consolidated Statements of Stockholders' Equity for the Years Ended
September 30, 2001, 2000 and 1999
Consolidated Statements of Cash Flows for the Years Ended September
30, 2001, 2000, and 1999
Notes to Consolidated Financial Statements
(b) Reports on Form 8-K
-------------------
No reports on Form 8-K were filed during the last quarter of the period
covered by this report.
33
(c) Exhibits
(2) The following exhibits are filed as part of this Form 10-K and
this list includes the Exhibit Index.
No. Exhibits Location
3.1 Articles of Incorporation (1)
3.2 Bylaws (1)
4 Common Stock Certificate (1)
10.1 Stock Compensation Program* (2)
10.2 1995 Employee Stock Purchase Plan* (3)
10.3 1995 Stock Option Plan* (3)
10.4 2000 Stock Option Plan* (4)
10.5 Profit Sharing Incentive Plan* (5)
Employment Agreements with Edward J. Molnar, Ronald B. Geib, and Marian
10.6 Bickerstaff* (2)
13 Annual Report to Stockholders Filed herewith
22 Subsidiaries of the Registrant - Reference is made to "Item
1. Business - Subsidiaries" of this Form 10-K for the required information
23 Consent of Deloitte & Touche Filed herewith
----------
* Denotes management compensation plan or arrangement
(1) Incorporated herein by reference to the Company's Current Report on Form
8-K filed with the Securities and Exchange Commission ("SEC") on February
25, 2000.
(2) Incorporated herein by reference to Harleysville Savings Bank's
Registration Statement on Form 10 filed with the Federal Home Loan Bank
Board, the predecessor to the Office of Thrift Supervision ("OTS"), on July
1, 1987.
(3) Incorporated herein by reference to Harleysville Savings Bank's definitive
proxy statement dated December 19, 1995 filed with the Federal Deposit
Insurance Corporation.
(4) Incorporated by reference to the Company's definitive proxy statement dated
December 19, 2000 filed with the SEC.
(5) Incorporated herein by reference to Harleysville Savings Bank's Annual
Report on Form 10-K for the fiscal year ended September 30, 1989 filed with
the OTS.
34
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.
HARLEYSVILLE SAVINGS
FINANCIAL CORPORATION
December 19, 2001 By:/s/ Edward J. Molnar
--------------------
Edward J. Molnar
President, Chief Executive
Officer and Director
Pursuant to the requirements 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 and on the date indicated.
/s/ Edward J. Molnar December 19, 2001
--------------------
Edward J. Molnar
President, Chief Executive
Officer and Director
/s/ Brendan J. McGill December 19, 2001
---------------------
Brendan J. McGill
Senior Vice President, Treasurer
and Chief Financial Officer
/s/ Sandford L. Alderfer December 19, 2001
------------------------
Sanford L. Alderfer
Director
/s/ Paul W. Barndt December 19, 2001
------------------
Paul W. Barndt
Director
35
/s/ Philip A. Clemens December 19, 2001
---------------------
Philip A. Clemens
Director
/s/ Mark R. Cummins December 19, 2001
-------------------
Mark R. Cummins
Director
/s/ David J. Friesen December 19, 2001
--------------------
David J. Friesen
Director
/s/ George W. Meschter December 19, 2001
----------------------
George W. Meschter
Director
/s/ Ronald B. Geib December 19, 2001
------------------
Ronald B. Geib
Director, Executive Vice President
and Chief Operating Officer