ITEM 1. BUSINESS.
F&M Bancorporation, Inc. ("F&M" or the "Company") was formed in 1980 to acquire the shares of Farmers and Merchants Bank of Kaukauna, Wisconsin (now known as F&M Bank- Kaukauna). F&M has grown internally and through acquisitions from a one-bank holding company with total assets of $37 million at its inception to a multi-bank holding company with total assets of $1.6 billion at December 31, 1997.
In January 1998, F&M acquired Sentry Bancorp., Inc. ("SBI"), the holding company of Cannon Valley Bank, with total consolidated assets of $26.4 million at December 31, 1997, in a transaction being accounted for using the purchase method of accounting. In February 1998, F&M acquired Bank of South Wayne ("BSW"), with total assets of $19.3 million at December 31, 1997, in a transaction being accounted for using the pooling method of accounting. See "Recent Developments" below. Giving effect to the SBI and BSW acquisitions, F&M had pro forma total assets of $1.7 billion at December 31, 1997. The acquisitions of SBI and BSW occurred in 1998, all financial information and data included in this Annual Report on Form 10-K are prior to those transactions unless otherwise indicated. F&M does not believe that these acquisitions will have a material effect on its financial condition or results of operations.
Unless otherwise indicated, share and per share amounts in this Report on Form 10-K have been restated to reflect F&M's 10% stock dividends in June 1996 and June 1997.
Recent Developments
Pending Acquisitions
Jefferson Acquisition. On December 31, 1997, F&M entered into an agreement to acquire Financial Management Services of Jefferson, Inc. ("Jefferson"), the holding company for The Farmers & Merchants Bank of Jefferson ("FMBJ"). FMBJ has two offices in the city of Jefferson, in southcentral Wisconsin. The agreement provides for the exchange of Jefferson stock for approximately 641,975 shares of F&M Common (subject to adjustments provided in the agreement). The transaction is expected to be completed in the second quarter of 1998.
At December 31, 1997, Jefferson had total assets of $99.7 million, net loans of $62.0 million, total deposits of $80.7 million and shareholders' equity of $13.2 million. For the year ended December 31, 1997, Jefferson had net income of $1.0 million. F&M expects to account for the transaction using the pooling of interests method of accounting.
Marshalltown, Iowa Acquisition. On December 1, 1997, F&M entered into an agreement to acquire BancSecurity Corporation ("BancSecurity") of Marshalltown, Iowa, the holding company for several banks located in Iowa ("BancSecurity Banks"). The BancSecurity Banks have 14 offices in central Iowa. The agreement provides for the exchange of BancSecurity stock for approximately $145 million in value of shares of F&M Common (subject to adjustments provided in the agreement). The transaction is expected to be completed in the second quarter 1998.
At December 31, 1997, BancSecurity had total assets of $546.7 million, net loans of $329.7 million, total deposits of $446.6 million and shareholders' equity of $52.1 million. For the year ended December 31, 1997, BancSecurity had net income of $3.1 million. F&M expects to account for the transaction using the pooling of interests method of accounting.
Other Recent Developments
Dundas, Minnesota Acquisition. On January 27, 1998, F&M acquired Sentry Bancorp., Inc. ("SBI"), the holding company of Cannon Valley Bank ("CVB") (renamed "F&M Bank-Cannon Valley"). CVB has its office in the community of Dundas in southeastern Minnesota. The acquisition represents F&M's first office outside of Wisconsin, and provides F&M a platform for possible future Minnesota expansion. The acquisition was a cash transaction, in which F&M paid SBI shareholders a total of $5.4 million. F&M is accounting for the transaction using the purchase method of accounting.
At December 31, 1997, SBI had total assets of $26.4 million, net loans of $19.2 million, total deposits of $23.5 million and shareholder's equity of $2.3 million. For the year ended December 31, 1997, SBI had net income of $346,000.
South Wayne Acquisition. On February 9, 1998, F&M acquired the Bank of South Wayne ("BSW"). BSW has one office in South Wayne, in southwestern Wisconsin. F&M acquired BSW in exchange for approximately 144,000 shares of F&M Common. F&M is accounting for the transaction using the pooling of interests method of accounting, although periods prior to January 1, 1998 will not be restated because of the relatively small size of BSW as compared to F&M. F&M intends to combine the operations of BSW and F&M Bank - Darlington in the near future.
At December 31, 1997, BSW had total assets of $19.3 million, net loans of $7.8 million, total deposits of $14.7 million and shareholders' equity of $4.5 million. For the year ended December 31, 1997, BSW had net income of $231,000.
Trust Company. In January 1998, F&M announced the formation of F&M Trust Company, a Wisconsin chartered trust company. The F&M Trust Company is continuing the trust business of F&M Bank - Kaukauna, which was established in 1996. F&M intends to expand the operations of F&M Trust Company to other communities served by F&M subsidiary banks.
Antigo Office Acquisition. On October 1, 1997, F&M completed the acquisition of the Antigo branch office of Security Bank ("Security"), which was divested in connection with Security's acquisition by Marshall & Ilsley Corporation. The acquisition included the purchase of the branch buildings and other fixed assets and the assumption of deposit liabilities in a cash transaction, in which F&M's F&M Bank - Central subsidiary purchased the physical assets and was reimbursed in cash (reduced by an agreed-upon premium) for the assumption of deposits. Security's Antigo office had total deposits of approximately $35 million at September 30, 1997.
Darlington Acquisition. On August 14, 1997, F&M acquired Citizens National Bancorp., Inc. ("CNB"), the holding company of Citizens National Bank of Darlington. CNB, which was renamed "F&M Bank - Darlington National Association", has two offices, in Darlington and Hazel Green (in southwest Wisconsin). F&M acquired CNB in exchange for approximately 577,500 shares of F&M Common. F&M is accounting for the transaction using the pooling of interests method of accounting.
At December 31, 1996, CNB had total assets of $75.3 million, net loans of $48.9 million, total deposits of $65.2 million and shareholder's equity of $9.5 million. For the year ended December 31, 1996, CNB had net income of $653,000.
Clear Lake Acquisition. On August 12, 1997, F&M acquired Clear Lake Bancorp Inc. ("CLB"), the holding company of Landmark Bank. CLB, which was renamed "F&M Bank -
Landmark", has four offices in northwest Wisconsin. F&M acquired CNB in exchange for approximately 161,000 shares of F&M Common. F&M is accounting for the transaction using the pooling of interest method of accounting.
At December 31, 1996, CLB had total assets of $35.0 million, net loans of $24.5 million, total deposits of $31.8 million and shareholder's equity of $2.1 million. For the year ended December 31, 1996, CLB had net income of $191,000.
Prairie du Chien Acquisition. On May 30, 1997, F&M acquired Wisconsin Ban Corp. ("WBC"), the holding company of Prairie City Bank ("PCB"). PCB, which has been renamed "F&M Bank-Prairie du Chien", has five offices in southwest Wisconsin. F&M acquired WBC in exchange for approximately 637,000 shares of F&M Common. Also, outstanding WBC preferred stock was redeemed for approximately $350,000 in cash, and outstanding indebtedness of WBC to its shareholders and affiliates, in the amount of approximately $2.6 million (including accrued interest) was repaid in cash. F&M is accounting for the transaction using the pooling of interests method of accounting.
At December 31, 1996, WBC had total assets of $87.3 million, net loans of $56.0 million, total deposits of $69.9 million and shareholders' equity of $8.5 million. For the year ended December 31, 1996, WBC had net income of $740,000.
Brodhead Acquisition. On February 27, 1997, F&M acquired Green County Bank ("GCB"), with one office in Brodhead in south-central Wisconsin. GCB has been renamed "F&M Bank-Brodhead." F&M acquired GCB in exchange for approximately 201,000 shares of F&M Common, in a formula amount set forth in the definitive acquisition agreement; the total value of those shares was approximately $5.4 million for purposes of the agreement. F&M accounted for the transaction using the pooling of interests method of accounting, although periods prior to January 1, 1997 were not restated because of the relatively small size of GCB as compared to F&M.
At December 31, 1996, GCB had total assets of $31.5 million, net loans of $21.5 million, total deposits of $28.1 million and shareholders' equity of $3.2 million. For the year ended December 31, 1996, GCB had net income of $287,000.
East Troy Acquisition. On January 10, 1997, F&M acquired East Troy Bancshares, Inc. ("ETB"), which owned all of the shares of State Bank of East Troy (renamed "F&M Bank-East Troy"), with one office in East Troy in southeast Wisconsin. F&M's acquisition of ETB was made in exchange for approximately 484,000 shares of F&M Common, valued for purposes of the transaction at $13.5 million for purposes of the agreement. F&M accounted for the transaction using the pooling of interests method of accounting, although periods prior to January 1, 1997 were not restated because of the relatively small size of ETB as compared to F&M.
At December 31, 1996, ETB had total assets of $56.0 million, net loans of $43.2 million, total deposits of $46.6 million and shareholders' equity of $7.7 million. For the year ended December 31, 1996, ETB had net income of $224,000.
Additional Locations and Bank Combinations. In October 1997, F&M Bank-Appleton opened an additional full-service supermarket branch in Appleton, to complement its three other Appleton offices. In November 1997, F&M Bank-East Troy opened a full-service express market branch in East Troy, Wisconsin, to complement its other office in that community. In November 1997, F&M Bank-Grant County became the successor in a merger of F&M Banks - Fennimore, Potosi and Lancaster.
Subsidiary Banks
At March 15, 1998, F&M owned 20 subsidiary banks (the "Banks" or the "F&M Banks"). All but two of the Banks are Wisconsin state banks. One bank is a national bank, which is expected to be combined with one of the Wisconsin chartered F&M Banks in the near future; CVB is a Minnesota state bank. Each of the F&M Banks (other than recently acquired CVB and BSW, which have not yet become members) is a member of the Federal Reserve System. The Banks are community banks which provide a full range of services to consumers and businesses in small and medium-sized communities. F&M also owns F&M Trust Company, a full-service trust company. F&M provides the benefits of holding company affiliation while allowing the Banks to operate with considerable autonomy.
The following table presents certain information as to the F&M Banks. Each of the F&M Banks is wholly-owned by F&M.
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(1) In the case of F&M Banks resulting from mergers, represents the date F&M first acquired any of the constituent banks in those mergers. (2) The F&M Banks also maintain a total of 51 ATM locations, certain of which are located at the full-service offices. (3) F&M intends to combine these banks in the near future under the name "F&M Bank- Darlington."
F&M's network of community banks generally operates with significant local autonomy, with general oversight and support from F&M. F&M believes this autonomy allows the F&M Banks to better serve the customers in their respective communities, and thus enhances the F&M Banks' business opportunities and operations. After acquiring banks, F&M generally maintains local bank charters and keeps intact existing management and boards of directors. Generally, F&M Bank managements operate independently of F&M in selecting deposit products developed by F&M and in making pricing and credit decisions. F&M maintains an approval procedure for new loans above certain threshold amounts and provides ongoing loan review and administration assistance and other services for the F&M Banks. F&M encourages F&M Bank officers and employees to be active in community groups and projects.
Markets
F&M Banks provide services through a total of 66 full-service bank offices in 52 Wisconsin communities and one Minnesota community. In recent years, the economic and business environment in the State of Wisconsin and nearby states has been relatively strong and stable. The communities in which the F&M Banks maintain offices range in population from almost 100,000 to less than 500. Although many of the communities in which the F&M Banks are located are relatively small, they generally have diverse economies with representation from many industry groups. In many communities, F&M Banks maintain the only commercial bank offices in those communities. Each F&M Bank branch provides complete retail banking services and full service banking for personal, commercial and service industry customers.
Acquisition and Expansion Strategy
The Company's strategy is to continue to grow by actively pursuing opportunities to acquire other financial institutions and by establishing or acquiring additional branches. The Company's primary geographic area of focus for expansion is small metropolitan areas and other communities in Wisconsin. F&M has recently begun pursuing out-of-state acquisitions, with one acquisition in Minnesota and a pending acquisition in Iowa. F&M believes that markets in nearby states can present attractive markets for future expansion, and provide additional opportunities than those which are available in Wisconsin. However, there can be no assurances that such acquisitions will occur, and acquisitions outside of Wisconsin may present difficulties, due to market differences, state law considerations, and relative distances, which could affect F&M's ability to consummate and integrate any such acquisitions. The Company generally concentrates on acquisitions of banks with $25 million or more in assets, although it would consider acquiring a smaller institution (such as BSW) if the Company would be able conveniently and economically to operate it as a branch of a nearby Bank or other attractive factors exist.
The Company's acquisition strategy also focuses on past performance of the target, management strengths and weaknesses, location, community demographics, relative health of the local economy, organizational structure of the target, size of the target and consideration for the acquisition. In evaluating these criteria, management considers the alternatives and costs associated therewith to enter a particular market, and the impact of the proposed acquisition on the Company's earnings and stock price.
To supplement the presence it has established in various markets, and to expand to new markets, the Banks will from time to time open additional branch offices, including supermarket and other non-traditional branches, in communities which warrant additional coverage. The Company also considers branch purchases (as in the case of Antigo), the relocation of bank offices to more attractive locations, and closing of branch offices where warranted.
The Company believes that its experience in making acquisitions and in assimilating acquired institutions into the Company's system, as well as its philosophy of permitting significant independence of the management of the Banks, position the Company well to take advantage of future expansion opportunities. The Company believes that its experience with, and willingness to acquire banks in smaller communities gives it an advantage in responding to certain acquisition opportunities. These opportunities may be created by management succession needs, desires to obtain assistance in responding to increasing regulatory requirements, bank shareholder liquidity needs and similar situations.
Since its inception, the Company has experienced substantial growth through acquisitions of other financial institutions. F&M's strategy to continue to make acquisitions is dependent upon its ability to identify potential targets for acquisition and consummate transactions on terms acceptable to F&M. Also, F&M's future success is dependent in part upon its ability to integrate the operations of, and manage over time, acquired financial institutions. F&M acquired its first non- Wisconsin bank in 1998. F&M has pending another acquisition in Iowa which would be the largest acquisition by F&M in terms of both consideration paid and assets acquired. The factors of size and distance could combine to make the pending acquisition transition more challenging for F&M than in past acquisitions.
Business Planning and Marketing
Company-wide plans are set each year, both for F&M and for the Banks, and are developed after substantial input from and consultation with Bank personnel. Progress is regularly monitored in meetings with Bank employees and in system-wide reports. F&M also uses compensation and performance incentives for all of its employees to help achieve the plan targets.
F&M developed "Lifestyle Banking" for implementation by the Banks to bolster each of their marketing efforts in the communities they serve. Lifestyle Banking seeks to attract new customers and create broad banking relationships with customers by focusing on their varying needs rather than attempting to design products and services of general application or aggressively price a particular product or service. Bank employees are trained to recognize customer needs and take additional responsibility and initiative in marketing the Banks' products and services to provide more individualized customer service. Lifestyle Banking is also designed to provide a continuing customer-level source of ideas to help the Banks better serve their customers and communities.
Lending and Investments
The F&M Banks offer short-term and long-term loans on a secured or unsecured basis for business or personal purposes. The F&M Banks focus their lending activities on individuals and small businesses in their immediate market areas. Lending has been almost exclusively within the State of Wisconsin. The markets of the F&M Banks include a wide variety of businesses; therefore, F&M does not believe it is unduly exposed to problems in any particular industry group.
F&M believes that it can best serve its customers, and thereby enhance F&M's business, operations and profitability, by maximizing local autonomy in credit decisions. Generally, managements of the F&M Banks operate independently of F&M in making credit decisions. F&M maintains an approval procedure for any new loan that exceeds a specified threshold amount (varying depending upon the F&M Bank) or loan participations exceeding $750,000. F&M also provides continuing loan review and administrative assistance for the F&M Banks. The foregoing are in addition to each F&M Bank's internal loan procedures.
The F&M Banks participate in lending guaranteed by the Small Business Administration and/or the Federal Housing Administration. For residential customers, the F&M Banks make mortgage loans and offer a variety of programs which are for resale in secondary mortgage markets or which are retained in the F&M Banks' portfolios. F&M does not have any substantial business with foreign obligors.
Real Estate Loans. Real estate loans include residential mortgages and agricultural real estate, commercial real estate and construction loans. On a company-wide basis, real estate lending represents F&M's largest category of loans outstanding. At December 31, 1997, residential, commercial and agricultural real estate loans represented approximately 62.5% of loans outstanding, the majority of which consists of residential real estate first mortgages, with real estate construction loans approximating an additional 3.3% of the portfolio.
F&M originates residential mortgage loans which generally are long-term, with either fixed or variable interest rates. F&M's general policy, which is subject to review by management as a result of changing market and economic conditions, and other factors, is to retain all variable interest rate mortgage loans in its portfolio and to sell all long-term fixed interest rate mortgage loans to the secondary market, but retaining servicing rights to most of those loans. Variable interest rate real estate loans are generally repriceable on an annual basis or may be adjusted at F&M's discretion. All commercial and agricultural real estate loans are written on an adjustable basis, the majority of which are tied to the prime rate, or short-term fixed rate basis. F&M believes the most significant risks relating to real estate loans result from possible declines in value of the real estate securing loans, as well as the borrower's ability to repay.
Commercial and Industrial Loans. Loans in this category principally include loans to service, retail, wholesale and manufacturing businesses. At December 31, 1997, approximately 20.4% of loans outstanding were in this category. The F&M Banks provide both secured and unsecured loans and lines of credit for the operations and expansion needs of local business. The F&M Banks generally look to a borrower's business operations as the principal source of repayment, but they also receive, when appropriate, mortgages on real estate, security interests in inventory, accounts receivable and other personal property, and/or personal guaranties. Repayment risk relating to commercial and industrial loans generally relates to the success or failure of the underlying business enterprise.
Agricultural Loans. There is a strong focus on the agricultural industry in many of the communities in which F&M Banks' offices are located. The agricultural products produced in these communities vary significantly, and include dairy, livestock, vegetables and other cash crops. At December 31, 1997, approximately 6.6% of loans outstanding were made to agricultural producers, excluding agricultural real estate lending which constitutes an additional approximately 5.0% of loans. These loans are in a variety of communities and relate to a variety of agricultural commodities, thus lessening F&M's exposure to weaknesses in any one geographical area or type of agricultural production. Because of the breadth and relative health of Wisconsin's agricultural industries, F&M has not experienced significant system-wide problems in agricultural-related loans. Credit risks relating to agricultural loans generally depend upon varying commodity prices and crop conditions which affect agricultural producers.
Installment and Other Consumer Loans. F&M makes installment and other consumer loans, including automobile loans, home improvement loans and personal lines of credit. At December 31, 1997, approximately 7.2% of the loans were installment or other consumer loans. F&M believes that consumer loans often represent the beginning of a long-term banking relationship with new customers. Credit risks relating to installment and consumer loans include the risks relating to the
repayment capacity of the borrower involved and the depreciation of the assets used as collateral for such loans.
Other Investments. F&M maintains a diversified portfolio of investments, primarily consisting of U.S. Treasury securities, obligations of U.S. government corporations and agencies, and obligations of states and their political subdivisions. The portfolio includes limited mortgage-backed securities. F&M attempts to balance its portfolio to meet its liquidity needs while endeavoring to maximize investment income, and to maximize tax advantages.
Deposits
Each of the F&M Banks offers the usual and customary range of depository products provided by commercial banks, including checking, savings and money market accounts, and certificates of deposit. Deposits at each F&M Bank are insured by the Federal Deposit Insurance Corporation ("FDIC") up to statutory limits.
Local managements of the F&M Banks are given significant latitude in determining and pricing the depository products offered. F&M makes a general determination of the deposit products which may be offered by the F&M Banks, and its corporate staff regularly consults with local management in developing new products which may be appropriate for local communities. However, local management selects which of F&M's various products can be most successfully offered in the various communities which its F&M Bank serves. In addition, local management is given the flexibility to price deposit products locally, to best compete in an F&M Bank's particular marketplace.
Other Customer Services and Products
Effective in January 1998, F&M established F&M Trust Company as a separate subsidiary, and began operations of trust services through that subsidiary. Previously, F&M Banks-Kaukauna and Lancaster had offered trust services.
Other aspects of the business of the Banks include safety deposit box services, and the sale and purchase of U.S. government securities, obligations of U.S. government agencies, obligations of state and political subdivisions and other similar securities. The Banks use repurchase agreements on a limited basis, primarily with municipal customers.
Certain of the Banks have established "Investment Centers" which, through arrangements with other service providers, offer securities brokerage services, annuities, and mutual fund products in addition to the other banking products and services offered by the Banks.
Administration of the Banks
Although each of the Banks operates with a significant level of independence, F&M has centralized operations for certain functions, and makes available its corporate staff and centralized resources for other functions upon request. In early 1997, the Corporation reorganized its bank subsidiaries under five regions, with teams of bank and holding company officers to oversee the operations of the Banks within those regions.
Credit-Related Services. Initial customer credit decisions are made by the local management of each Bank. To assist local management and to maintain system-wide credit standards, F&M has established a system-wide credit committee to review credits to the extent lending proposals exceed threshold amounts for the Banks, or if a Bank wishes to participate in a credit with other Banks. See "Lending and Investments" above. In addition, F&M's corporate staff will provide individual Banks with assistance on credit review and collection upon request. Internal audit and compliance officers of F&M regularly review the Banks' lending portfolios and require periodic reports from the Banks as to outstanding credits and their quality.
Investments. To help maximize the investment return to F&M and the Banks, F&M has centralized investment functions through commonly-managed investment subsidiaries of each Bank. F&M has determined that this centralized investment management strategy is more efficient and economical and creates the possibility for more advantageous investment returns to the Banks than would be possible with each Bank independently managing its investment portfolio.
Data Processing and Information Systems. F&M has contracted with an outside provider for data processing services through a combination of on-site Bank personnel and remote processing hardware and software. Under this arrangement, hardware and software are being maintained at remote locations although F&M has the option to acquire both the hardware and the software to perform the data processing in-house if that is subsequently deemed in its best interests. F&M provides data processing services to nine of the Banks through this arrangement. Other processing methods are now being utilized for the other Banks (in the case of seven of the Banks, because their relatively recent acquisitions by F&M).
F&M is currently evaluating various options for its data processing services, which may include expansion of the current arrangements to additional F&M Banks or the entry into a new arrangement. F&M would expect to adopt a solution which it would use system-wide. While it is expected that F&M would continue to utilize an outsourcing arrangement for most of its data processing needs, a final decision has not been made. Future costs for processing services, or capital expenditures related to data processing, could change depending upon the ultimate determination of data processing issues.
Like other financial institutions, F&M must assure that its computer and other systems are "year 2000 compliant" (meaning capable of operating, and accurately recognizing dates and processing information, in and after the year 2000). To help assure that F&M's systems are year 2000 compliant on a timely basis, F&M began a focused compliance program, and has designated an F&M employee to coordinate F&M's year 2000 compliance efforts. As part of that effort, F&M is monitoring year 2000 compliance efforts by its suppliers, because many of F&M's affected systems (such as data processing) are contracted from third parties and a significant part of F&M being year 2000 compliant requires such compliance by the third parties. Based in part upon information being received from these third parties, F&M currently believes that it will be year 2000 compliant on a timely basis to avoid material operational disruptions and to comply with the requirements of its regulators. To date, F&M has not identified material expenditures which will be required to become year 2000 compliant. However, there can be no assurance that such operational difficulties or expenditures will not be identified or experienced in the future.
The banking industry is undergoing rapid technological changes with frequent introductions of new technology-driven products and services. In addition to better serving customers, the effective use of technology increases efficiency and enables financial institutions to reduce costs. While the Company's community banking strategy stresses "traditional" personal service, the Company's future success will depend in part on its ability to address the needs of its customers by using technology to provide products and services that will satisfy customer demands for
convenience as well as to create additional efficiencies in F&M's bank operations. Many of F&M's competitors have substantially greater resources to invest in technological improvements.
Other Operations and Services. F&M provides other services for the benefit of the Banks such as marketing assistance, human resources services and benefits administration, internal audit and centralized purchasing of supplies. F&M believes that centralizing these services promotes efficiency and cost savings for the Banks without interfering with their community-oriented management.
Competition
The F&M Banks actively compete with other financial institutions and businesses in both attracting and retaining deposits and making loans. Direct competitors include banks, savings and loans and credit unions. These institutions offer direct competition in the areas of deposits and loans. Other competitors include insurance companies, securities brokerage firms, trust companies and investment management firms which also offer competition for many of the services offered by the F&M Banks, such as discount brokerage and annuities.
F&M believes it has a competitive advantage because in many communities, F&M Bank office locations represent the only commercial bank office in those communities. However, in some of these communities, savings and loan associations, savings banks and/or credit unions also maintain offices, and there are bank offices located in other nearby communities. Competition with other financial institutions and businesses can affect the Banks' ability to obtain and retain customers as well as the pricing levels of their products and services. F&M believes its focus on establishing continuing banking relationships and on individualized customer service provides additional competitive advantages.
F&M also faces competition in seeking institutions to acquire. Wisconsin has recently experienced a significant consolidation of its banking industry, and many large holding companies with greater resources than F&M (including several out-of-state holding companies) are actively pursuing acquisitions in Wisconsin. Similar conditions affect acquisition opportunities in other nearby states such as Minnesota and Iowa. This competition affects the available acquisition opportunities for F&M and can affect the costs of such acquisitions.
Regulation and Supervision
The banking industry is highly regulated by both federal and state regulatory authorities. Regulation includes, among other things, capital and reserve requirements, dividend limitations, limitations on products and services offered, geographical limits, consumer credit regulations, community reinvestment requirements and restrictions on transactions with affiliated parties. Financial institution regulation has been the subject of significant legislation in recent years, may be the subject of further significant legislation in the future, and is not within the control of F&M. This regulation substantially affects the business and financial results of all financial institutions and holding companies, including F&M and the F&M Banks.
All but two of the F&M Banks are incorporated under the banking laws of Wisconsin. Each of the Wisconsin-chartered F&M Banks is therefore subject to supervision and regulation by the Wisconsin Department of Financial Institutions (the "Department") through its Division of Banking. One of the F&M Banks is chartered in Minnesota, and is subject to the supervision and regulation by the Minnesota Department of Commerce. Another F&M Bank is a national bank, regulated by the federal Office of the Comptroller of the Currency; it is expected that this Bank will be merged into one of the Wisconsin chartered banks in the near future.
Each of the F&M Banks (except in certain instances recently acquired banks, which are expected to apply for membership) is a member of the Federal Reserve System, and is therefore subject to regulation by the Federal Reserve Board. The deposits of each of the banks are insured, up to statutory limits, by the FDIC. As a registered bank holding company under the Bank Holding Company Act of 1956, F&M itself is subject to review and regulation by the Federal Reserve Board. F&M, as a holding company, is also subject to review and examination by the Department under Wisconsin law.
In addition to general requirements that banks retain specified levels of capital and otherwise conduct their business in a safe and sound manner, Wisconsin law requires that dividends of Wisconsin banks declared and paid without the approval of the Department be paid out of current earnings or, no more than once within the immediate preceding two years, out of undivided profits in the event there have been insufficient net profits. Any other dividends require the prior written consent of the Department. Each of the F&M Banks is in compliance with all applicable capital requirements. Each of the F&M Banks may pay dividends to F&M.
Under federal legislation enacted in 1994, beginning in September 1995 Wisconsin bank holding companies, including F&M, have been allowed to acquire banks and holding companies nationwide, and holding companies in all other states will be allowed to acquire banks and holding companies in Wisconsin. Wisconsin law generally requires the approval of the Department for all acquisitions of banks in Wisconsin, whether by Wisconsin or out-of-state entities. Interstate bank mergers, under specified circumstances, would be permitted beginning in 1997. In 1997, F&M began to actively pursue acquisitions of institutions outside of Wisconsin (see "Recent Developments"). Wisconsin and Minnesota law permit establishment of full service bank branch offices statewide.
F&M, as a member of the banking industry, is affected by general economic conditions, particularly as those conditions affect the Wisconsin communities served by the F&M Banks. A financial institution's earnings also depend to a large extent upon the relationship between the cost of funds (primarily deposits) and the yield on earning assets (loans and investments). This relationship, known as the interest rate margin, is subject to fluctuation and is affected by regulatory, economic and competitive factors which influence the volume and rate of interest on interest-earning assets and interest-bearing liabilities, and the level of non-performing assets.
Statistical Information
The principal sources of income for the subsidiary banks of F&M are interest and fees on loans, interest on short-term investments and interest on securities. The total operating income and the percentage of each to total operating income is shown below:
F&M and its subsidiaries do not have any material foreign deposits, loans or operations.
The following statistical information is offered in response to the Securities and Exchange Commission's "Guide 3 - Statistical Disclosures by Bank Holding Companies". Certain of that information is included in the Company's Management's Discussion and Analysis of Results of Operations and Financial Condition" ("MD&A") at Item 7 hereof, and is incorporated in this section by reference thereto.
I. A. & B. DISTRIBUTION OF ASSETS, LIABILITIES AND STOCKHOLDER'S EQUITY - INTEREST RATES AND DIFFERENTIALS
Incorporated by reference from MD&A under the caption "Results of Operations Net Interest Income."
I. C. INTEREST INCOME AND EXPENSE VOLUME AND RATE CHANGE
Incorporated by reference from MD&A under the caption "Results of Operations Net Interest Income."
II. A. INVESTMENT PORTFOLIO
Incorporated by reference from MD&A under the caption "Financial Condition - Investment Portfolio."
II. B. RELATIVE MATURITIES & WEIGHTED AVERAGE INTEREST RATES
Incorporated by reference from MD&A under the caption "Financial Condition - Investment Portfolio."
III. LOAN PORTFOLIO
A. TYPES OF LOANS
Incorporated by reference from MD&A under the caption "Financial Condition - Loan Portfolio."
The Company does not have any loans known to be to foreign obligors. The Company is not lessee under leases which, in the aggregate, are material to it. To the extent the Company utilizes lease financing for its customers, the leases are accounted for as loans, and included in the appropriate loan categories.
B. MATURITIES AND SENSITIVITIES OF LOANS TO CHANGES IN INTEREST RATES
Incorporated by reference from MD&A under the caption "Financial Condition - Loan Portfolio."
C. RISK ELEMENTS
Incorporated by reference from MD&A under the caption "Financial Condition - NonPerforming Assets."
D. OTHER INTEREST BEARING ASSETS
None
IV. A. SUMMARY OF LOAN LOSS EXPERIENCE
Incorporated by reference from MD&A under the caption "Financial Condition - Summary of Loan Loss Experience."
IV. B. ALLOCATION OF ALLOWANCE FOR LOAN LOSSES
Incorporated by reference from MD&A under the caption "Financial Condition - Allocation of Allowance for Loan Loss."
V. DEPOSITS
The Companies average balances of deposits and the average rate paid on these deposits during the years ended December 31, 1997, 1996 and 1995 are:
The amount of time certificates of deposit issued in amounts of $100,000 or more and outstanding as of December 31, 1997 is: $149,642,000. Their maturing distribution is as follows:
-- three months or less $66,971,000 -- over three months and through twelve months $68,187,000 -- over one year $14,484,000
Neither F&M or its subsidiaries have any deposits in foreign banking offices.
VI. RETURN ON EQUITY AND ASSETS
The various ratios are included in the MD&A under the caption "Results of Operations" and "Financial Condition - Capital Adequacy" and are incorporated by reference thereto.
VII. SHORT-TERM BORROWINGS
The comparison of short-term borrowings as of each indicated December 31 follows:
The following information relates to federal funds purchased and securities sold under repurchase agreements for the years ended December 31:
ITEM 2.
ITEM 2. PROPERTIES.
Of the Banks' 66 total offices, 60 are located in buildings which are owned by the respective Banks. Five grocery store or market offices and one other branch office locations are located in leased facilities; the leases are short-term, which the Company believes is appropriate for the particular locations. In addition, the Company owns its headquarters building in Kaukauna, Wisconsin.
All of the owned facilities are designed for commercial banking operations. All facilities used by the Company and the Banks are suitable for their current and anticipated expanded utilization, although the Company regularly reviews whether any changes or improvements would be advisable.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS.
The Company is not a party to any legal proceedings other than routine litigation which is not material to its business.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
No matters were submitted to a vote of security holders during the fourth quarter of fiscal 1997.
EXECUTIVE OFFICERS OF THE REGISTRANT
The following table sets forth certain information regarding the executive officers of F&M. Executive officers are elected annually by the Board of Directors, and serve at the discretion of the Board.
Mr. Johnson has served as President of F&M since July 1997 and as its Chief Executive Officer since November 1997. Mr. Johnson previously served as a Vice President of F&M since 1994. Mr. Johnson was President and Chief Executive Officer of F&M Bank-Northeast and a predecessor since 1989. Mr. Johnson was elected to F&M's Board of Directors in April 1994, as contemplated by F&M's acquisition of Pulaski Bancshares, Inc.
Mr. Janssen has served as Chairman and a director of F&M since its inception. Mr. Janssen also serves as Chairman of the Board of F&M Bank-Kaukauna. Mr. Janssen served as President of F&M from its inception until 1996, and as Chief Executive Officer of F&M from its inception until 1997. F&M has historically considered itself highly dependent upon the services of Mr. Janssen, although recent changes in management structure, including the designation of Mr. Johnson as President and Chief Executive Officer, were intended in part to lessen that dependence.
Mr. Martin became a Vice President of F&M in 1992. Mr. Martin became Chairman of the Board of F&M Bank-Grant County in 1994. Mr. Martin has been President and Chief Executive Officer of F&M Bank-Grant County since 1985, and has served as a director of F&M since 1990.
Mr. Voet became Chief Financial Officer in 1994 and Treasurer in 1993. Mr. Voet previously served as Corporate Accountant of F&M since 1991, before which he was a certified public accountant in private practice.
Ms. Habert became Vice President-Data Processing of F&M in 1993. Prior to that time, she was Assistant Vice President-Data Processing since 1989. Ms. Habert had been employed by F&M Bank-Kaukauna since 1971.
Ms. Lakso became F&M's Vice President-Administration in 1993 and Secretary at year end 1994. Ms. Lakso was Assistant Vice President-Administration since 1992. Ms. Lakso has served F&M since 1980 as assistant to the President, and was first employed by F&M Bank-Kaukauna in 1970.
Mr. Salazar joined F&M as Assistant Vice President-Investments in 1992 and became Vice President-Investments in 1993. Prior to joining F&M, Mr. Salazar was employed by another financial institution in a variety of positions including Manager of Wire Transfer Operations, Manager of Float Control Operations, Investment Portfolio Manager and as a financial analyst.
Ms. Seefeldt joined F&M as Vice President-Marketing in 1990. Previously, she served as Marketing Director of another Wisconsin bank holding company.
Mr. Smaby became Vice President-Credit Administration in 1993. Mr. Smaby joined F&M in 1987 as a loan review and compliance officer, and was named Assistant Vice President- Compliance/Loan Review in 1990.
Ms. Vanden Boogart became Vice President-Audit in 1993. Ms. Vanden Boogart began employment with F&M Bank-Kaukauna in 1976, and served F&M as Audit Manager from 1987 to 1993.
Ms. Verbruggen joined F&M as Vice President-Human Resources in March 1995. Ms. Verbruggen was Human Resources Director at Shawano Community Hospital from 1993 to 1995, and previously served as Human Resource Manager for CMD Corporation.
F&M and its subsidiaries employed approximately 690 persons on a full-time equivalent basis at December 31, 1997.
* * * * *
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS
The discussions in this Report on Form 10-K and the documents incorporated herein by reference which are not statements of historical fact (including statements in the future tense and those which include terms such as "believe", "will", "expect" and "anticipate") contain forward-looking statements that involve risks and uncertainties. The Company's actual future results could materially differ from those discussed. Factors that could cause or contribute to such differences include, but are not limited to, acceptance of new products and services, the Company's future lending and collection experience, the effects of acquisitions, competition from other institutions, changes in the banking industry and its regulation, needs for technological change, and other factors including those discussed in Item 1 above in this Report and in the Management's Discussion and Analysis in Item 7, as well as those discussed elsewhere in this Report and the documents incorporated herein by reference.
PART II
ITEM 5.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
F&M Common Stock trades on The NASDAQ Stock Market ("NASDAQ") under the symbol "FMBK". F&M had approximately 3,150 shareholders of record at March 1, 1998. The following table summarizes high and low prices and cash dividends paid for F&M Common Stock for the periods indicated.
F&M has paid quarterly or annual cash dividends since its inception. The holders of F&M Common Stock are entitled to receive such dividends as are declared by the board of directors of F&M, which considers (and may change) payment of dividends quarterly. For the first quarter of 1998, F&M has paid a dividend of $.22 per share.
The ability of F&M to pay dividends is dependent upon the receipt of dividends from the F&M Banks, payment of which is subject to regulatory restrictions. In determining cash dividends, the board of directors of F&M considers the earnings, capital requirements, debt servicing requirements, financial ratio guidelines issued by the FRB and other banking regulators, financial condition of F&M and the F&M Banks, and other relevant factors. See Note 15 of Notes to F&M's Consolidated Financial Statements and the discussion under "Management's Discussion and Analysis of Results of Operations and Financial Condition--Financial Condition--Capital Adequacy," incorporated herein by reference, for restrictions on the ability of the F&M Banks to pay dividends.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA.
Incorporated by reference to the Selected Financial Data of the Company appearing at page of this report on Form 10-K.
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
Incorporated by reference to the Management's Discussion and Analysis of the Company appearing at pages through of this report on Form 10-K.
ITEM 7A.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Incorporated by reference to the third through sixth paragraphs under "Liquidity, Interest Sensitivity and Market Risk Management" in Item 7, Management's Discussion and Analysis of Financial Condition and Results of Operations, appearing at page of this report on Form 10-K.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
Incorporated by reference to the financial statements of the Company appearing at pages through of this report on Form 10-K, and to Summary Quarterly Financial Information appearing at page of this report on Form 10-K. Also see the "Index to Financial Statements and Financial Statement Schedules" filed as part of Item 14(a) hereof.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.
Not applicable.
PART III
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
Information in response to this item is incorporated herein by reference to "Election of Directors", "Executive Compensation," and "Section 16(a) Beneficial Ownership Reporting Compliance" in the Company's Proxy Statement to be filed pursuant to Regulation 14A for its Annual Meeting of Shareholders to be held on or about May 21, 1998 ("1998 Proxy Statement"), and "Executive Officers of the Registrant" in Part I hereof.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION.
Incorporated by reference to "Election of Directors", "Executive Compensation" (excluding "Compensation Committee Report on Executive Compensation" therein) and "Compensation Committee Interlocks and Insider Participation" in the 1998 Proxy Statement.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
Information in response to this item is incorporated herein by reference to "Security Ownership of Certain Beneficial Owners and Management" in the 1998 Proxy Statement.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
Incorporated by reference to "Transactions with the Corporation" in the 1998 Proxy Statement.
PART IV
ITEM 14.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.
(a) DOCUMENTS FILED:
1 and 2. Financial Statements and Financial Statement Schedules. See the following "Index to Financial Statements and Financial Statement Schedules," which is incorporated herein by reference.
3. Exhibits. See Exhibit Index included as last part of this report, which is incorporated herein by reference.
(b) REPORTS ON FORM 8-K:
No reports on Form 8-K were filed by the Company during the fourth quarter of 1997.
INDEX TO FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULES
CONSOLIDATED FINANCIAL STATEMENTS AND RELATED INFORMATION
Years Ended December 31, 1997, 1996 and 1995
Page
Independent Auditor's Report..........................................
Financial Statements:
Consolidated Balance Sheets..................................
Consolidated Statements of Income............................
Consolidated Statements of Stockholders' Equity..............
Consolidated Statements of Cash Flows........................
Notes to Consolidated Financial Statements...................
* * *
Selected Financial Data...............................................
Management's Discussion and Analysis..................................
Summary Quarterly Financial Information...............................
INDEPENDENT AUDITOR'S REPORT
Board of Directors F&M Bancorporation, Inc. Kaukauna, Wisconsin
We have audited the accompanying consolidated balance sheets of F&M Bancorporation, Inc. and Subsidiaries as of December 31, 1997 and 1996, and the related consolidated statements of income, stockholders' equity, and cash flows for each of the three years in the period ended December 31, 1997. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to in the first paragraph present fairly, in all material respects, the financial position of F&M Bancorporation, Inc. and Subsidiaries at December 31, 1997 and 1996, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 1997, in conformity with generally accepted accounting principles.
/s/Wipfli Ullrich Bertelson LLP ------------------------------- Wipfli Ullrich Bertelson LLP
January 23, 1998 Appleton, Wisconsin
F&M BANCORPORATION, INC. AND SUBSIDIARIES ------------------------------------------------------------------- CONSOLIDATED BALANCE SHEETS December 31, 1997 and 1996 (Dollars in Thousands) - --------------------------------------------------------------------------------
ASSETS
- --------------------------------------------------------------------------------
LIABILITIES AND STOCKHOLDERS' EQUITY
See accompanying notes to consolidated financial statements.
F&M BANCORPORATION, INC. AND SUBSIDIARIES ------------------------------------------------------------------- CONSOLIDATED STATEMENTS OF INCOME Years Ended December 31, 1997, 1996, and 1995 (Dollars in Thousands, Except Earnings Per Share) - -------------------------------------------------------------------------------
F&M BANCORPORATION, INC. AND SUBSIDIARIES ------------------------------------------------------------------- CONSOLIDATED STATEMENTS OF INCOME (CONTINUED) Years Ended December 31, 1997, 1996, and 1995 (Dollars in Thousands, Except Earnings Per Share) - -------------------------------------------------------------------------------
See accompanying notes to consolidated financial statements.
F&M BANCORPORATION, INC. AND SUBSIDIARIES ------------------------------------------------------------------- CONSOLIDATED STATEMENTS OF STOCKHOLDER'S EQUITY Years Ended December 31, 1997, 1996, and 1995 (Dollars in Thousands) - --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
See accompanying notes to consolidated financial statements.
F&M BANCORPORATION, INC. AND SUBSIDIARIES ------------------------------------------------------------------- CONSOLIDATED STATEMENTS OF CASH FLOWS Years Ended December 31, 1997, 1996, and 1995 (Dollars in Thousands) - --------------------------------------------------------------------------------
F&M BANCORPORATION, INC. AND SUBSIDIARIES ------------------------------------------------------------------- CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED) Years Ended December 31, 1997, 1996, and 1995 (Dollars in Thousands) - --------------------------------------------------------------------------------
See Note 3 for details of noncash consideration paid in acquisitions which occurred in 1997, 1996, and 1995.
See accompanying notes to consolidated financial statements.
F&M BANCORPORATION, INC. AND SUBSIDIARIES ------------------------------------------------------------------- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - --------------------------------------------------------------------------------
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The accounting and reporting policies of F&M Bancorporation, Inc. (the "Company") and its subsidiaries conform to generally accepted accounting principles and general practices within the banking industry. Significant accounting policies are summarized below.
Nature of Operations
F&M Bancorporation, Inc. is a Wisconsin multibank holding company. Its subsidiary banks provide a full range of commercial and retail banking services to customers throughout Wisconsin. Through its subsidiary banks, the Company provides to its customers commercial, real estate, agricultural, and consumer loans, as well as a variety of traditional deposit and trust products.
Principles of Consolidation
The consolidated financial statements include the accounts of F&M Bancorporation, Inc. and all of its subsidiaries. All significant intercompany balances and transactions have been eliminated.
Use of Estimates in Preparation of Financial Statements
The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results may differ from these estimates.
Cash and Cash Equivalents
For purposes of reporting cash flows, cash and cash equivalents include cash on hand and non-interest-bearing deposits in correspondent banks and federal funds sold. Generally, federal funds are sold for one-day periods.
Investment Securities
The Company's investment securities are classified in two categories and accounted for as follows:
Securities available for sale - Securities available for sale consist of investment securities not classified as securities held to maturity. These securities are stated at fair value. Unrealized holding gains and losses, net of tax, on securities available for sale are reported as a net amount in a separate component of stockholders' equity until realized.
F&M BANCORPORATION, INC. AND SUBSIDIARIES ------------------------------------------------------------------- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - --------------------------------------------------------------------------------
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Securities held to maturity - Investment securities for which the Company has the positive intent and ability to hold to maturity are reported at cost, adjusted for amortization of premiums and accretion of discounts, which are recognized in interest income using the interest method over the period to maturity.
Gains and losses on the sale of securities available for sale are determined using the specific-identification method.
Interest and Fees on Loans
Interest on loans is credited to income as earned. Interest income is not accrued on loans where management has determined collection of such interest is doubtful. When a loan is placed on nonaccrual status, previously accrued but unpaid interest deemed uncollectible is reversed and charged against current income. Loan-origination fees are credited to income when received, as capitalization of the fees and related costs would not have a material effect on the consolidated financial statements.
Allowance for Credit Losses
The allowance for credit losses includes specific allowances related to commercial loans which have been judged to be impaired. A loan is impaired when, based on current information, it is probable that the Company will not collect all amounts due in accordance with the contractual terms of the loan agreement. These specific allowances are based on discounted cash flows of expected future payments using the loan's initial effective interest rate or the fair value of the collateral if the loan is collateral dependent.
The Company continues to maintain a general allowance for credit losses for loans not considered impaired. The allowance for credit losses is maintained at a level which management believes is adequate to provide for possible credit losses. Management periodically evaluates the adequacy of the allowance using the Company's past credit loss experience, known and inherent risks in the portfolio, composition of the portfolio, current economic conditions, and other factors. This evaluation is inherently subjective since it requires material estimates that may be susceptible to significant change.
Mortgage Servicing Rights
The cost of mortgage servicing rights is amortized in proportion to, and over the period of, estimated net servicing revenues. Impairment of mortgage servicing rights is assessed based on the fair value of those rights. Fair values are estimated using discounted cash flows based on a current market interest rate. For purposes of measuring impairment, the rights are stratified by rate in the quarter in which the related mortgage loans were sold.
F&M BANCORPORATION, INC. AND SUBSIDIARIES ------------------------------------------------------------------- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - --------------------------------------------------------------------------------
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Premises and Equipment
Premises and equipment are stated at cost. Maintenance and repair costs are charged to expense as incurred. Gains or losses on disposition of premises and equipment are reflected in income. Depreciation is computed principally on the straight-line method and is based on the estimated useful lives of the assets.
Goodwill
The excess of cost over the net assets of subsidiaries acquired is amortized from the date of acquisition using the straight-line method over periods ranging from ten to fifteen years.
Other Real Estate
Other real estate is carried at the lower of cost or fair value, less estimated sales costs.
Income Taxes
Deferred income taxes have been provided under the liability method. Deferred tax assets and liabilities are determined based on the difference between the financial statement and tax bases of assets and liabilities as measured by the current enacted tax rates which will be in effect when these differences are expected to reverse. Deferred tax expense (benefit) is the result of changes in the deferred tax asset and liability.
Off-Balance-Sheet Financial Instruments
In the ordinary course of business, the Company has entered into off-balance-sheet financial instruments consisting of commitments to extend credit, commitments under credit card arrangements, commercial letters of credit, and standby letters of credit. Such financial instruments are recorded in the consolidated financial statements when they become payable.
F&M BANCORPORATION, INC. AND SUBSIDIARIES ------------------------------------------------------------------- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - --------------------------------------------------------------------------------
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Future Accounting Changes
In June 1997, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 130, "Reporting Comprehensive Income." This statement establishes standards for reporting and display of comprehensive income in a full set of general-purpose financial statements. This statement requires all items that are required to be recognized under accounting standards as components of comprehensive income be reported in a financial statement that is displayed with the same prominence as other financial statements. This statement requires that an enterprise display an amount representing total comprehensive income for the period in a financial statement, but does not require a specific format for that financial statement. This statement also requires that an enterprise, a) classify items of other comprehensive income by their nature in a financial statement and, b) display the accumulated balance of other comprehensive income separately from retained earnings and surplus in the equity section of the balance sheet. The statement is effective for fiscal years beginning after December 15, 1997. Reclassification of financial statements for earlier periods provided for comparative purposes is required. Management, at this time, cannot determine the effect that adoption of this statement may have on the consolidated financial statements of the Company as comprehensive income is dependent on the amount and nature of assets and liabilities held which generate nonincome changes to equity.
In June 1997, the FASB issued SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information." This statement establishes standards for the way that public business enterprises report information about operating segments in annual financial statements and requires that those enterprises report selected information about operating segments in interim financial reports issued to shareholders. This statement supersedes SFAS No. 14, "Financial Reporting for Segments of a Business Enterprise," but retains the requirement to report information about major customers. It also amends SFAS No. 94, "Consolidation of All Majority-Owned Subsidiaries," to remove the special disclosure requirements for previously unconsolidated subsidiaries. The statement is effective for fiscal years beginning after December 15, 1997. In the initial year of application, comparative information for earlier years is to be restated. The statement is not expected to have an effect on the financial position or operating results of the Company, but may require additional disclosures in the consolidated financial statements.
NOTE 2 - CHANGE IN ACCOUNTING PRINCIPLES FASB issued SFAS No. 125, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities," in June 1996. The Company adopted the provisions of SFAS No. 125 effective January 1, 1997. SFAS No. 125 provides accounting and reporting standards for transfers and servicing of financial assets and extinguishment of liabilities. The statement provides guidelines for classification of a transfer as a sale. The statement also requires liabilities incurred or obtained by transferors as part of a transfer of financial assets be initially recorded at fair value. Subsequent to acquisition, the servicing assets and liabilities are to be amortized over the estimated net servicing period.
F&M BANCORPORATION, INC. AND SUBSIDIARIES ------------------------------------------------------------------- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - --------------------------------------------------------------------------------
NOTE 3 - BUSINESS COMBINATIONS
On January 10, 1997, the Company acquired, through a merger, 100% of the outstanding stock of East Troy Bancshares, Inc. which owned 100% of State Bank of East Troy (n/k/a F&M Bank - East Troy) in exchange for 483,992 shares (after giving effect to the 10% stock dividend) of the Company's stock.
On February 27, 1997, the Company acquired, through a merger, 100% of the outstanding stock of Green County Bank (n/k/a F&M Bank - Brodhead) in exchange for 201,264 shares (after giving effect to the 10% stock dividend) of the Company's stock.
On August 12, 1997, the Company acquired, through a merger, 100% of the outstanding stock of Clear Lake Bancorp, Inc. which owned 98.17% of Landmark Bank (n/k/a F&M Bank - Landmark) in exchange for 161,040 shares of the Company's stock. The minority shares of Landmark Bank were subsequently acquired for cash.
The above transactions have been accounted for as poolings of interests. The transactions were not material to the Company's consolidated financial statements; accordingly, previously reported financial information has not been restated to include the results of these acquisitions.
On May 30, 1997, the Company acquired, through a merger, 100% of the outstanding shares of Wisconsin Ban Corp., which owned 100% of Prairie City Bank (n/k/a F&M Bank - Prairie du Chien), in exchange for 637,010 shares (after giving effect to the 10% stock dividend) of the Company's stock. In addition, the Company redeemed the outstanding preferred stock of Wisconsin Ban Corp. for cash of $350,871. Cash of $2,634,825 was also used to pay the indebtedness of Wisconsin Ban Corp. to its shareholders.
On August 14, 1997, the Company acquired, through a merger, 100% of the outstanding shares of Citizens National Bancorp, Inc. which owned 100% of Citizens National Bank of Darlington (n/k/a F&M Bank - Darlington, N.A.) in exchange for 577,465 shares of the Company's stock.
F&M BANCORPORATION, INC. AND SUBSIDIARIES ------------------------------------------------------------------- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - --------------------------------------------------------------------------------
NOTE 3 - BUSINESS COMBINATIONS (CONTINUED)
These transactions have been accounted for as poolings of interests. All financial information included in the consolidated financial statements and notes thereto has been restated to include the results of Wisconsin Ban Corp. and Citizens National Bancorp, Inc. The following summarizes the separate results of operations of the Company, Wisconsin Ban Corp., and Citizens National Bancorp, Inc. (through the acquisition dates noted above) for the years ended December 31:
On February 5, 1996, the Company acquired, through a merger, 100% of the outstanding stock of Monycor Bancshares, Inc. ("Monycor") which owned 98.408% of Monycor Bank of Superior (n/k/a F&M Bank - Superior) in exchange for 190,650 shares (after giving effect to the 10% stock dividends) of the Company's stock. This transaction has been accounted for as a pooling of interests, although the transaction was not material to the Company's financial statements and, accordingly, prior financial statements were not restated. The minority shares of Monycor Bank of Superior were subsequently acquired for cash.
F&M BANCORPORATION, INC. AND SUBSIDIARIES ------------------------------------------------------------------- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - --------------------------------------------------------------------------------
NOTE 3 - BUSINESS COMBINATIONS (CONTINUED)
On May 13, 1996, F&M Bank - Lakeland, a wholly owned subsidiary, acquired, through a merger, 100% of the outstanding stock of Bradley Bank for cash of $6,595,000. Bradley Bank had total assets of $35,310,000 at the time of the merger. The operations of Bradley Bank were merged into F&M Bank - Lakeland. This transaction has been accounted for as a purchase; accordingly, the consolidated financial statements include the results of operations from the acquisition date. This transaction resulted in goodwill of $3,192,000.
On June 28, 1996, F&M Bancorporation, Inc. acquired, through a merger, 100% of the outstanding stock of Community State Bank (n/k/a F&M Bank - Algoma) in exchange for 465,489 shares of the Company's stock. This transaction has been accounted for as a pooling of interests. All financial information included in the consolidated financial statements and notes thereto has been restated to include the results of Community State Bank.
On January 9, 1995, the Company acquired 100% of the outstanding stock of Union State Bank (n/k/a F&M Bank - Waushara County) in an exchange offer. Company stock totaling 896,078 shares was issued in exchange for 99.97% of the outstanding shares of Union State Bank. The remaining shares of Union State Bank stock were acquired for cash. This transaction has been accounted for as a pooling of interests. All financial information included in the consolidated financial statements and notes thereto has been restated to include the results of Union State Bank.
NOTE 4 - RESTRICTIONS ON CASH AND CASH EQUIVALENTS
Cash and cash equivalents in the amount of $5,402,000 are restricted at December 31, 1997, to meet the reserve requirements of the Federal Reserve System.
F&M BANCORPORATION, INC. AND SUBSIDIARIES ------------------------------------------------------------------- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - --------------------------------------------------------------------------------
NOTE 5 - INVESTMENT SECURITIES
The estimated fair value and amortized cost of investment securities at December 31 are as follows:
F&M BANCORPORATION, INC. AND SUBSIDIARIES ------------------------------------------------------------------- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - --------------------------------------------------------------------------------
NOTE 5 - INVESTMENT SECURITIES (CONTINUED)
Fair values of securities are estimates based on financial methods or prices paid for similar securities. It is possible interest rates could change considerably resulting in a material change in the estimated fair value.
The estimated fair value and amortized cost of investment securities (available for sale and held to maturity) at December 31, 1997, by contractual maturity, are shown below. Contractual maturities will differ from expected maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
Following is a summary of the proceeds from sales of investment securities available for sale as well as gross gains and losses for the years ended December 31:
The estimated fair value and amortized cost of investment securities pledged to secure public deposits, short-term borrowings, and for other purposes required by law were $38,049,000 and $38,139,000, respectively, as of December 31, 1997.
F&M BANCORPORATION, INC. AND SUBSIDIARIES ------------------------------------------------------------------- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - --------------------------------------------------------------------------------
NOTE 5 - INVESTMENT SECURITIES (CONTINUED)
The obligations of states and political subdivisions are generally purchased with the intent to hold to maturity. A significant portion of these securities are rated by Moody's with ratings ranging from A to AAA. For those securities not rated, market values are obtained from brokerage services utilized by the Company. At December 31, 1997, the total carrying value of nonrated obligations of states and political subdivisions was $34,170,000.
NOTE 6 - LOANS
The composition of loans at December 31 follows:
The aggregate amount of nonperforming loans was $10,998,000 and $13,003,000 at December 31, 1997 and 1996, respectively. Nonperforming loans are those which are contractually past due 90 days or more as to interest or principal payments, those loans on a nonaccrual status, or loans the terms of which have been renegotiated to provide a reduction or deferral of interest or principal. If nonaccrual and renegotiated loans had been current, or not troubled, $1,085,000, $886,000, and $632,000 of interest income would have been recorded for the years ended December 31, 1997, 1996, and 1995, respectively. Interest income actually recorded on these loans was $369,000, $251,000, and $213,000 for the years ended December 31, 1997, 1996, and 1995, respectively.
The recorded investment in loans considered to be impaired was $5,603,000 and $7,483,000 of which $4,053,000 and $5,144,000 was on a nonaccrual basis at December 31, 1997 and 1996, respectively. The related allowance for credit losses on impaired loans was $1,303,000 and $1,207,000 as of December 31, 1997 and 1996, respectively. The average recorded investment in impaired loans was $6,657,000 and $5,923,000 during 1997 and 1996, respectively. The Company recognized interest income on those impaired loans of $215,000, $392,000, and $364,000 which included $197,000, $378,000, and $356,000 of interest income recognized using the cash basis method of income recognition for the years ended December 31, 1997, 1996, and 1995, respectively.
F&M BANCORPORATION, INC. AND SUBSIDIARIES ------------------------------------------------------------------- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - --------------------------------------------------------------------------------
NOTE 6 - LOANS (CONTINUED)
The subsidiary banks in the ordinary course of banking business grant loans to the Company's executive officers and directors including their families and firms in which they are principal owners.
Substantially all loans to executive officers and directors were made on the same terms, including interest rates and collateral, as those prevailing at the time for comparable transactions with others and did not involve more than the normal risk of collectibility or present other unfavorable features. Activity in such loans during 1997 is summarized below:
An analysis of the allowance for credit losses for the years ended December 31 follows:
The financial statements do not include loans serviced for others, which totaled $134,491,000 at December 31, 1997.
NOTE 7 - MORTGAGE SERVICING RIGHTS
An analysis of changes in mortgage servicing rights for the years ended December 31 follows:
F&M BANCORPORATION, INC. AND SUBSIDIARIES ------------------------------------------------------------------- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - --------------------------------------------------------------------------------
NOTE 7 - MORTGAGE SERVICING RIGHTS (CONTINUED)
No impairment of mortgage servicing rights existed at December 31, 1997 and 1996; therefore, no valuation allowance was recorded.
The carrying value of the mortgage servicing rights is included with other assets and approximates fair market value at December 31, 1997 and 1996.
NOTE 8 - PREMISES AND EQUIPMENT
An analysis of premises and equipment at December 31 follows:
Depreciation and amortization of premises and equipment charged to operating expenses amounted to $2,623,000 in 1997, $2,145,000 in 1996, and $1,926,000 in 1995.
NOTE 9 - OTHER REAL ESTATE
Included in other assets is other real estate totaling $917,000 and $1,842,000 at December 31, 1997 and 1996, respectively. There is no allowance for losses on other real estate. Other real estate expenses totaled $156,000, $140,000, and $133,000 for 1997, 1996, and 1995, respectively.
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NOTE 10 - DEPOSITS
The distribution of deposits at December 31 is as follows:
Time deposits of $100,000 or more were $149,642,000 and $99,859,000 at December 31, 1997 and 1996, respectively. Interest expense on time deposits of $100,000 or more was $7,359,000, $5,407,000, and $4,349,000 for the years ended December 31, 1997, 1996, and 1995, respectively.
NOTE 11 - SHORT-TERM BORROWINGS
The short-term borrowings of $47,685,000 and $42,263,000 at December 31, 1997 and 1996, respectively, consisted of federal funds purchased and securities sold under repurchase agreements.
The following information relates to federal funds purchased and securities sold under repurchase agreements for the years ended December 31:
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NOTE 12 - OTHER BORROWINGS
Other borrowings at December 31 consist of the following:
(a) As members of the Federal Home Loan Bank (FHLB) system, individual bank subsidiaries may utilize various borrowing alternatives, secured by pledges of mortgage loans (totaling $276,637,000) and FHLB stock. At December 31, 1997, the subsidiaries' outstanding advances had original maturities ranging from five months to eight years and fixed and adjustable rates ranging from 5.26% to 7.73%. Interest is payable monthly.
The scheduled principal maturities of these advances at December 31, 1997, are summarized as follows:
(b) Note payable was due January 1, 1997. The note was unsecured.
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NOTE 13 - INCOME TAXES
The components of the provision for income taxes are as follows for the years ended December 31:
Included in the total provision for income taxes is expense of $70,000, $20,000, and $12,000 for the years ended December 31, 1997, 1996, and 1995, respectively, related to security transactions.
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NOTE 13 - INCOME TAXES (CONTINUED)
As of December 31, 1997 and 1996, deferred income taxes are provided for the temporary differences between the financial reporting basis and the tax basis of the Company's assets and liabilities. The major components of deferred tax assets and deferred tax liabilities are as follows:
The change in net deferred assets in 1997 includes changes related to acquisitions and $308,000 of tax expense allocated directly to stockholders' equity for unrealized gains on securities available for sale.
The Company and one of its subsidiaries have separate Wisconsin net operating loss carryforwards totaling $16,662,000 at December 31, 1997. These net operating loss carryforwards begin to expire in 1998. Since the Company and these subsidiaries are required to file separate returns for Wisconsin and they are not expected to generate taxable income, no tax benefit from these losses is anticipated. The valuation allowance represents the benefit of these losses, which is not expected to be realized.
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NOTE 13 - INCOME TAXES (CONTINUED)
One subsidiary has a federal net operating loss carryforward of $382,000 and two other subsidiaries have Wisconsin net operating loss carryforwards of $3,632,000. These carryforwards occurred prior to the acquisition of these subsidiaries and, therefore, can only be used to offset future taxable income of these subsidiaries. The federal carryforwards begin to expire in 2001 and the Wisconsin carryforwards begin to expire in 2006. Based on the annual usage limitations, it is expected these net operating losses will be utilized.
A summary of the source of differences between income taxes at the federal statutory rate and the provision for income taxes for the years ended December 31 follows:
NOTE 14 - RETIREMENT PLANS
The Company sponsors a defined contribution 401(k) retirement savings plan covering substantially all employees. Employees are allowed to make voluntary contributions to the plan. The Company makes a matching contribution which is based on the Company's return on equity. The Company may also make a discretionary profit-sharing contribution.
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NOTE 14 - RETIREMENT PLANS (CONTINUED)
F&M Bank - Lakeland continues to maintain an Employee Stock Ownership Plan (ESOP), which was established prior to the Company's acquisition of this bank. The assets of this plan, which include 185,353 shares of the Company stock, remain frozen and have not been transferred into the Company's 401(k) retirement savings plan as of December 31, 1997.
F&M Bank - East Troy, F&M Bank - Brodhead, F&M Bank - Prairie du Chien, F&M Bank - Landmark, and F&M Bank - Darlington, N.A. sponsor defined contribution 401(k) retirement savings plans which cover substantially all of their respective employees. The contributions to these plans for 1997 were consistent with those of the Company's 401(k) retirement savings plan discussed above. It is expected that the assets of these plans will be transferred into the Company's plan during 1998.
Retirement plan contribution expense charged to operations for all plans (excluding the defined benefit pension plan discussed below) totaled $1,392,000, $1,092,000, and $1,035,000 for 1997, 1996, and 1995, respectively.
F&M Bank - Waushara County sponsored a defined benefit plan covering substantially all employees of the former Union State Bank. Effective August 27, 1994, the plan was frozen resulting in a plan curtailment. Subsequent to the curtailment, plan participants will not accrue any additional benefit for service. The Bank's funding policy is to make contributions on an annual basis to the extent allowed for tax purposes. The following table sets forth F&M Bank - Waushara County's defined benefit pension plan funded status and amounts reflected in the accompanying consolidated balance sheets at December 31:
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NOTE 14 - RETIREMENT PLANS (CONTINUED)
Net pension cost included the following components:
The following assumptions were used in determining the projected benefit obligation:
The plan assets consist primarily of insurance investment contracts, U.S. government securities, and short-term mutual funds.
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NOTE 15 - STOCKHOLDERS' EQUITY
Earnings per share are based upon the weighted average number of shares outstanding, restated to reflect the 10% stock dividends paid to stockholders on June 9, 1997 and June 10, 1996. The following shows the computation of the basic and diluted earnings per share for the years ended December 31:
On June 9, 1997, the Company issued 821,875 shares of common stock as a 10% stock dividend. These shares had a value of $23,015,000 at the date of issuance. All references to the number of shares of common stock in the footnotes have been restated for the stock dividend; however, on the financial statements, these shares are recognized as having been issued in 1997.
On June 10, 1996, the Company issued 637,880 shares of common stock as a 10% stock dividend. These shares had a value of $16,538,000 at the date of issuance. All references to the number of shares of common stock in the footnotes have been restated for the stock dividend; however, on the financial statements, these shares are recognized as having been issued in 1996.
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NOTE 15 - STOCKHOLDERS' EQUITY (CONTINUED)
The Company is subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory--and possibly additional discretionary--actions by regulators that, if undertaken, could have a direct material effect on the Company's consolidated financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company must meet specific capital guidelines that involve quantitative measures of the Company's assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The Company's capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors.
Quantitative measures established by regulation to ensure capital adequacy require the Company to maintain minimum amounts and ratios (set forth in the table below) of total and Tier I capital to risk-weighted assets and of Tier I capital to average assets. Management believes, as of December 31, 1997, that the Company meets all capital adequacy requirements to which it is subject.
As of December 31, 1997, the most recent notifications from the supervisory agencies categorized all of the subsidiary banks as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized, the banks must maintain minimum total risk-based, Tier I risk-based, and Tier I leverage ratios of 10.0%, 6.0%, and 5.0%, respectively. There are no conditions or events since those notifications that management believes have changed the subsidiary banks' categories.
The Company's consolidated actual and minimum regulatory capital amounts (in thousands) and ratios, as of December 31, are presented in the following table:
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NOTE 15 - STOCKHOLDERS' EQUITY (CONTINUED)
Banking subsidiaries are restricted by banking regulations from making dividend distributions above prescribed amounts. At December 31, 1997, the Company's subsidiaries could have paid $45,483,000 of additional dividends to the Company without prior regulatory approval.
NOTE 16 - STOCK OPTION PLANS
The Company sponsors two stock option plans, one for officers and employees (the "Executive Plan") and one for nonemployee directors (the "Directors' Plan"). Options under the Executive Plan are granted at the discretion of the stock option committee of the Company's Board of Directors. Options under the Directors' Plan are granted automatically each year at a date and in an amount specified in the Directors' Plan. Under both plans, options to purchase shares of the Company's common stock are granted at a price equal to the market price of the stock at the date of grant. A total of 181,500 shares were made available for grant under these plans.
The fair value of each option granted is estimated on the grant date using the Black-Scholes methodology. The following assumptions were made in estimating fair value for options granted for the years ended December 31:
The weighted average fair value of options granted as of their grant date, using the assumptions shown above, was computed at $5.75, $2.70, and $2.10 per share for options granted in 1997, 1996, and 1995, respectively.
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NOTE 16 - STOCK OPTION PLANS (CONTINUED)
No compensation cost has been recognized for the plans. Had compensation cost been determined on the basis of fair value, net income and earnings per share would have been reduced as follows:
Following is a summary of stock option transactions for the years ended December 31:
Options granted under these plans expire ten years after the grant.
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NOTE 16 - STOCK OPTION PLANS (CONTINUED)
Following is a summary of the options outstanding at December 31, 1997:
All options outstanding at December 31, 1997, were exercisable.
In connection with an acquisition in 1994, an unexercised option under a separate stock option plan was converted into an option for 15,958 shares of the Company's common stock with an exercise price of $7.73 per share. During 1997, 1996, and 1995, the option was exercised for 1,500, 2,000, and 1,500 shares, respectively. The option remains outstanding for 7,158 shares as of December 31, 1997. The option expires December 15, 2002.
NOTE 17 - ADVERTISING COSTS
Advertising costs are expensed as incurred (or the first time advertising takes place). Advertising expense for 1997, 1996, and 1995 was $1,095,000, $768,000, and $688,000, respectively.
NOTE 18 - COMMITMENTS, CONTINGENCIES, AND CREDIT RISK
Financial Instruments With Off-Balance-Sheet Risk
The Company is a party to financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit and standby letters of credit. Those instruments involve, to varying degrees, elements of credit risk in excess of the amount recognized in the balance sheets.
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NOTE 18 - COMMITMENTS, CONTINGENCIES, AND CREDIT RISK (CONTINUED)
The Company's exposure to credit loss, in the event of nonperformance by the other party to the financial instrument for commitments to extend credit and standby letters of credit, is represented by the contractual amount of those instruments. The Company uses the same credit policies in making commitments and conditional obligations as it does for on-balance-sheet instruments. These commitments at December 31, 1997 and 1996, are as follows:
Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The Company evaluates each customer's creditworthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Company upon extension of credit, is based on management's credit evaluation of the party. Collateral held varies but may include accounts receivable; inventory; property, plant, and equipment; and income-producing commercial properties.
Standby letters of credit are conditional commitments issued by the Company to guarantee the performance of a customer to a third party. Those guarantees are primarily issued to support public and private borrowing arrangements. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. The commitments are structured to allow for 100% collateralization on all standby letters of credit.
Credit card commitments are commitments on credit cards issued by the Company's subsidiaries and serviced by other companies. These commitments are unsecured.
Contingencies
In the normal course of business, the Company is involved in various legal proceedings. In the opinion of management, any liability resulting from such proceedings would not have a material adverse effect on the consolidated financial statements.
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NOTE 18 - COMMITMENTS, CONTINGENCIES, AND CREDIT RISK (CONTINUED)
Concentration of Credit Risk
The Company's subsidiary banks grant residential, commercial, agricultural, and consumer loans throughout Wisconsin. Due to the diversity of locations, the ability of debtors to honor their contracts is not tied to any particular economic sector.
NOTE 19 - PENDING ACQUISITIONS
On June 10, 1997, the Company signed a Plan and Agreement of Merger and Reorganization to acquire 100% of the outstanding shares of Sentry Bancorp., Inc., in exchange for cash. Sentry Bancorp., Inc. owns 100% of the stock of Cannon Valley Bank. This transaction has received regulatory and stockholder approval. The transaction is expected to be completed in the first quarter of 1998.
On September 30, 1997, the Company signed a Plan and Agreement of Merger and Reorganization to acquire 100% of the outstanding shares of Bank of South Wayne in exchange for Company stock. This transaction has received stockholder approval and is subject to regulatory approval. The transaction is expected to be completed in the first quarter of 1998.
On December 1, 1997, the Company signed a Plan and Agreement of Merger and Reorganization to acquire 100% of the outstanding shares of BancSecurity Corporation, Inc. in exchange for Company stock. BancSecurity Corporation, Inc. owns 100% of Security Bank, Story County Bank and Trust, and Security Bank Jasper-Poweshiek. This transaction is subject to regulatory and stockholder approval. The transaction is expected to be completed in the second quarter of 1998.
On December 31, 1997, the Company signed a Plan and Agreement of Merger and Reorganization to acquire 100% of the outstanding shares of Financial Management Services of Jefferson, Inc. in exchange for Company stock. Financial Management Services of Jefferson, Inc. owns 100% of Farmers & Merchants Bank. This transaction is subject to regulatory and stockholder approval. The transaction is expected to be completed in the second quarter of 1998.
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NOTE 20 - FAIR VALUE OF FINANCIAL INSTRUMENTS
Fair value estimates, methods, and assumptions are set forth below for the Company's financial instruments:
Cash and cash equivalents - The carrying values approximate the fair values for these assets.
Investment securities - Fair values are based on quoted market prices, where available. If a quoted market price is not available, fair value is estimated using quoted market prices for similar securities. Interest-bearing deposits in other financial institutions are included in this category.
Loans - Fair values are estimated for portfolios of loans with similar financial characteristics. Loans are segregated by type such as commercial, residential mortgage, and other consumer. The fair value of loans is calculated by discounting scheduled cash flows through the estimated maturity using estimated market discount rates that reflect the credit and interest rate risk inherent in the loan. The estimate of maturity is based on the Company's repayment schedules for each loan classification.
The methodology in determining fair value of nonaccrual loans is to average them into the blended interest rate at 0% interest. This has the effect of decreasing the carrying amount below the risk-free rate amount and therefore discounts the estimated fair value.
Impaired loans are measured at the estimated fair value of the expected future cash flows at the loan's effective interest rate or the fair value of the collateral for loans which are collateral dependent. Therefore, the carrying values of impaired loans approximate the estimated fair values for these assets.
Deposit liabilities - The fair value of deposits with no stated maturity, such as non-interest-bearing demand deposits, savings, NOW accounts, money market, and checking accounts, is equal to the amount payable on demand at the reporting date. The fair value of certificates of deposit is based on the discounted value of contractual cash flows. The discount rate reflects the credit quality and operating expense factors of the Company.
Short-term and other borrowings - Rates currently available for debt with similar terms and remaining maturities are used to estimate the fair value of existing debt. The fair value of borrowed funds due on demand is the amount payable at the reporting date.
Off-balance-sheet instruments - The fair value of commitments is estimated using the fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements, the current interest rates, and the present creditworthiness of the counterparties. Since this amount is immaterial, no amounts for fair value are presented.
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NOTE 20 - FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED)
The following table presents information for financial instruments at December 31:
Limitations - Fair value estimates are made at a specific point in time based on relevant market information and information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Company's entire holdings of a particular financial instrument. Because no market exists for a significant portion of the Company's financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments, and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and, therefore, cannot be determined with precision. Changes in assumptions could significantly affect the estimates. Fair value estimates are based on existing on- and off-balance-sheet financial instruments without attempting to estimate the value of anticipated future business and the value of assets and liabilities that are not considered financial instruments. Significant assets and liabilities that are not considered financial assets or liabilities include premises and equipment, other assets, and other liabilities. In addition, the tax ramifications related to the realization of the unrealized gains and losses can have a significant effect on fair value estimates and have not been considered in the estimates.
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NOTE 21 - PARENT COMPANY ONLY FINANCIAL STATEMENTS
BALANCE SHEETS December 31, 1997 and 1996 (Dollars in Thousands)
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NOTE 21 - PARENT COMPANY ONLY FINANCIAL STATEMENTS (CONTINUED)
STATEMENTS OF INCOME Years Ended December 31, 1997, 1996, and 1995 (Dollars in Thousands)
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NOTE 21 - PARENT COMPANY ONLY FINANCIAL STATEMENTS (CONTINUED)
STATEMENTS OF CASH FLOWS Years Ended December 31, 1997, 1996, and 1995 (Dollars in Thousands)
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NOTE 21 - PARENT COMPANY ONLY FINANCIAL STATEMENTS (CONTINUED)
STATEMENTS OF CASH FLOWS (CONTINUED) Years Ended December 31, 1997, 1996, and 1995 (Dollars in Thousands)
SELECTED CONSOLIDATED FINANCIAL DATA
The following table presents selected consolidated financial data of F&M Bancorporation, Inc. (the "Company" or "F&M") and its subsidiaries for the five years ended December 31, 1997. This information and the following discussion and analysis should be read in conjunction with other financial information presented elsewhere in this report. See Note (1) below regarding accounting for business combinations.
- --------------------- (1) Except as indicated, the data have been restated to reflect the Company's acquisitions of F&M Bank-Portage County in 1993, F&M Bank-Northeast in 1994, F&M Bank-Waushara County in 1995, F&M Bank-Algoma in 1996, and Wisconsin Ban Corp. ("WBC") and Citizen's National Bancorporation, Inc. ("CNB") in 1997, all using the pooling of interests method of accounting. See Note 3 of Notes to the Company's Consolidated Financial Statements. The F&M Bank-Superior acquisition in 1996, and the 1997 acquisitions of East Troy Bancshares, Inc.("ETB"), Green County Bank ("GCB") and Clear Lake Bancorp, Inc.("CLB"), accounted for as poolings of interests, were not material to prior years' reported operating results and accordingly, previous years' results have not been restated. The acquisitions of Bradley Bank ("BB") and the TCF office in Little Chute in 1996 and the 1997 acquisition of the Security office in Antigo were accounted for using the purchase method of accounting; accordingly, the financial data includes results of operations only since the dates of acquisition. On January 27, 1998, the Company acquired Sentry Bancorp ("SB") and on February 9, 1998 the Company acquired Bank of South Wayne("BSW"). The Sentry Bancorp transaction was accounted for using the purchase method of accounting and the Bank of South Wayne was accounted as a pooling of interests, although F&M does not intend to restate prior results because of the bank's relative size.
(2) Cumulative effect of change in accounting principle in 1993 represents the adoption of SFAS No. 109 (Accounting for Income Taxes) by one of the Company's acquired subsidiaries.
(3) Per share information has been restated to reflect the two-for-one stock split paid to stockholders on March 19, 1993 and the 10% stock dividend paid to stockholders on June 10, 1996 and June 9, 1997.
(4) Cash dividends per common share are not restated to reflect the acquisitions accounted for using the pooling of interests method of accounting.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION
GENERAL
The following discussion and analysis provides information regarding the Company's results of operations and financial condition for the years ended December 31, 1997, 1996 and 1995. These statements have been restated to reflect the acquisitions, Union State Bank ("USB"), acquired January 9, 1995, Community State Bank ("CSB") acquired June 28, 1996, Wisconsin Ban Corp ("WBC"), acquired on May 30, 1997 and Citizen's National Bancorporation, Inc. ("CNB"), acquired on August 14, 1997. These transactions have been accounted for using the pooling of interests method of accounting. Monycor Bancshares, Inc., acquired on February 5, 1996, East Troy Bancshares ("ETB"), acquired on January 10, 1997, Green County Bank ("GCB"), acquired on February 27, 1997, and Clear Lake Bancorp.("CLB"), Inc., acquired on August 12, 1997, accounted for as pooling of interests, were not material to prior years' reported operating results; accordingly, previous years' results have not been restated. The acquisitions of TCF office in Little Chute, acquired April 23, 1996, Bradley Bank, acquired May 10, 1996, and the Security office in Antigo, acquired on September 29, 1997, were accounted for using the purchase method of accounting; accordingly, the Company's financial data includes results of operations of these entities only since the dates of acquisition. All per share information has been adjusted to reflect the 10% stock dividends, paid to shareholders on June 10, 1996 and June 9, 1997.
The Company acquired Sentry Bancorp., Inc. ("SB") on January 27, 1998. This acquisition was accounted for using the purchase method of accounting. The Company acquired Bank of South Wayne ("BSW") on February 9, 1998. This acquisition is being accounted for using the pooling of interests method of accounting. See Note 19 of Notes to the Company's Consolidated Financial Statements. Because of the relative size of BSW as compared to F&M, the Company does not intend to restate periods prior to January 1, 1998 to reflect this acquisition. Because they were consummated after December 31, 1997, the SB and BSW acquisitions are not reflected in the following discussion. While future results and financial condition will reflect the addition of SB and BSW, F&M does not expect the effects to be material to the Company.
The Company has also announced two pending acquisitions: BancSecurity Corporation ("BSC") and Financial Management Services of Jefferson ("FMS"). These acquisition will be accounted for using the pooling of interests method of accounting. Because of the relative size of the entities (those entities having total assets of approximately $500 million and $100 million, respectively, at December 31, 1997), the acquisitions are expected to have a material effect upon F&M and its financial results and condition. Although the pending acquisitions are expected to be consummated in 1998, each remains subject to conditions precedent and there can be no assurance of completion.
Discussions in this Management's Discussion and Analysis, and elsewhere in this Annual Report, that are not statements of historical fact (including statements in the future tense or which include terms such as "believe", "expect", "anticipate" or "may") are forward-looking statements that involve risks and uncertainties, and the Company's actual future results could materially differ from those discussed. Factors that could cause or contribute to such differences include, but are not limited to, the Company's future lending and collections experiences, the effects of acquisitions, competition from other institutions, changes in the banking industry and its regulation, needs for technological change, and other factors, including those described in this Management's Discussion and Analysis and elsewhere in this report.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (continued)
RESULTS OF OPERATIONS
1997 was a year of continuing growth for F&M. Net interest income in 1997 increased $11.2 million, or 20.9%, to $64.7 million from $53.5 million in 1996 (compared with $48.2 million in 1995). Net income in 1997 increased $4.9 million, or 31.9%, to $20.3 million from $15.4 million in 1996 (compared with $13.8 million in 1995).
Net income per share was $2.09 in 1997 compared with $1.73 in 1996 and $1.59 in 1995. Fully diluted net income per share was $2.08 in 1997 compared with $1.73 in 1996 and $1.59 in 1995.
Return on average assets was 1.33% in 1997, compared with 1.24% in 1996 and 1.26% in 1995. Return on average stockholders' equity was 14.37% in 1997, compared with 13.12% in 1996 and 13.31% in 1995.
Increased net interest income, resulting from both acquisitions and internal growth, has been the major factor affecting the growth in earnings over the last three years. The Company has been able to keep its net interest margin relatively constant over this time period, while at the same time increasing its interest earning assets.
The remainder of this section provides a more detailed explanation of factors affecting the results of operations.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (continued)
NET INTEREST INCOME
Net interest income is the most significant component of the Company's earnings. For analytical purposes, interest earned on tax exempt assets, such as industrial development revenue bonds and state and municipal obligations, is adjusted in this discussion to a fully-taxable equivalent basis. This adjustment is based upon the statutory federal corporate income tax rate, and any interest expense which is disallowed as a deduction in connection with carrying these tax exempt assets, and thus facilitates a meaningful comparison between taxable and nontaxable earning assets.
Net interest income in 1997 increased $11.2 million, or 20.9%, to $64.7 million from $53.5 million in 1996. This increase is attributable to the increase in asset volume due to the Company's internal growth, acquisitions accounted for using the purchase method of accounting and pooling of interests method for which prior periods were not restated and relative stability of the Company's net interest margin. Net interest income in 1996 increased 11.1% from $48.2 million in 1995, also attributable to the increase in asset volume.
Interest expense increased due to increase in deposits; both internally generated and due to acquisitions, an increase in rates on deposits due to growth in savings deposits, mainly the Treasury Plus product which mirrors the three month Treasury, and increased other borrowings, which were utilized to fund loan demand in excess of deposit growth.
Changes in net interest income occur due to fluctuations in the balances and/or mixes of interest-earning assets and interest-bearing liabilities, and changes in their corresponding interest yields and costs. In both 1997 and 1996, the Company experienced its greatest asset growth in loans, which enhanced the Company's net interest income because loans tend to produce higher rates of interest paid to the Company than other types of interest earning assets. Changes in nonperforming assets, together with interest lost and recovered on those assets also affect comparisons of net interest income.
The following table presents the relative contribution of changes in volume and interest rates on changes in net income for the periods indicated using average balances.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (continued)
(1) The change in interest due to both rate and volume has been allocated to volume and rate changes in proportion to the relationship of the absolute dollar amounts of the change in each.
(2) The amount of interest income on nontaxable loans and investment securities has been adjusted to its fully taxable equivalent.
(3) Out of period adjustments reflect acquisitions in that year for which prior financial statements were not restated.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (continued)
The following table presents the components of the changes in the net yield on interest-earning assets (on a fully tax equivalent basis) for the three-year period ended December 31, 1997. Because of the increase in the percentage of assets represented by loans, the Company's yield on interest-earning assets for 1997 increased from 1996, although the interest rates earned for various classes of assets decreased slightly during the year. The Company's effective rate on interest-bearing liabilities increased in 1997 as compared to 1996, as a result of increased interest paid on deposits, and slightly lower rates paid on other borrowings. The increase over the period is reflected in the 1997 yield on interest-earning assets which increased by 0.05%, after a decrease of 0.01% in 1996 and an increase of 0.65% in 1995 respectively. The effective rate on liabilities as a percentage of interest-earning assets increased by 0.12% in 1997 and 0.06% in 1996, respectively, producing a negative impact on net interest margin on interest-earning assets of 0.07% for both 1997 and 1996. In 1995, net interest margin on interest-earning assets decreased 0.06%.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (continued)
The following table sets forth average consolidated balance sheet data and average yield and rate data on a tax equivalent basis for the periods indicated.
(1) For the purposes of these computations, non-accruing loans are included in the daily average loan amounts outstanding.
(2) The amount of interest income on non-taxable investment securities and loans has been adjusted to its fully taxable equivalent.
(3) Loan fees are included in total interest income as follows: 1997-$2,163,000; 1996-$1,675,000; 1995-$1,230,000.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (continued)
The following table sets forth the mix of average interest-earning assets and average interest-bearing liabilities.
The preceding table reflects the results of Management's strategy to increase loans as a percent of earning assets coupled with generally strong demand for loans. It also reflects the effects of pooled acquisitions. Acquired banks frequently have a lower loan percentage than F&M, which F&M is then able to increase after acquisition. However, because of pooling accounting, their percentages may affect F&M's prior periods. Based on the current economic conditions, management has established a range of average loans to earning assets of between 70% and 80% which it believes to be the optimum level for F&M.
Interest rates fluctuated throughout 1997, but remained relatively stable. Savings deposits increased faster than time deposits, this increase was partially attributed to the promotion of our money market product (Treasury Plus) indicating that a larger part of F&M's deposit growth has come from increase balances of savings deposits. Short-term borrowing increased because the Company took advantage of the situation in which the short term rates were more attractive than current deposit rates. The increase in other borrowings is due to the Company locking historically lower interest rates for a longer period of time. Increasing long term borrowing, also, balances out the mix of short term borrowing and long term borrowing. For more information regarding borrowing, see "Borrowings" below and Notes 11 and 12 of Notes to the Company's Consolidated Financial Statements.
PROVISION FOR LOAN LOSSES
The amount charged to provision for loan losses is based on Management's evaluation of the loan portfolio. Management determines the adequacy of the allowance for loan losses, both on a bank by bank basis and on an overall basis for the Company, based on past loan loss experience, current economic conditions, composition of the loan portfolio (including the historical performance of, and the F&M subsidiary banks' evaluation of the prospects for, each of the component loans, and the collateral value therefore) and the anticipated potential for future loss. Management is also mindful of the expectations of banking industry regulators for certain levels of allowances, although no particular regulatory obligations have been imposed on the Company in this regard.
The provision for loan losses was $2.8 million in 1997, compared with $2.9 million in 1996 and $1.7 million in 1995. Although total loans grew, the provision decreased slightly in 1997 because of increased recoveries on charged off loans and a decrease in non-performing assets. The allowance for loan losses as a percentage of gross loans outstanding was 1.26% at December 31, 1997, as compared to 1.27% at both December 31, 1996 and 1995. The reduction in the allowance percentage resulted from the relatively greater increase in the level of loans as compared to net provision. Net charge-offs as a percentage of average loans outstanding were 0.12% in 1997, 0.14% in 1996 and 0.12% in 1995. Charge-offs in 1997 were not concentrated in any industry or business segment.
NON-INTEREST INCOME
The following table presents the major components of non-interest income.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (continued)
The Company stresses the importance of growth in non-interest income as one of its key long-term strategies. Non-interest income for 1997 increased $2.2 million or 33.8% when compared to 1996. The increase in service fees during 1997 was attributable primarily to increased services (primarily relating to checking and other depository accounts) sold, along with an increase in the amount charged for those services. Purchase acquisitions and acquisitions of banks for which prior periods were not restated also contributed to the increase of non-interest income.
During all three periods, net security gains were minimal. These gains were realized as management responded to market conditions and opportunities. For additional detail see Note 5 of Notes to the Company's Consolidated Financial Statements.
The increase in other operating income during 1997 was due principally to increases in secondary market commissions, along with an increase in other miscellaneous charges. The volume of mortgage refinancings and new home purchases increased in 1997, in spite of fluctuating interest rate conditions, and therefore increased the Company's related secondary market commissions. The increase in the operating income between 1995 and 1996 reflects primarily an increase in mortgage refinancing (and, therefore, secondary market commissions).
NON-INTEREST EXPENSE
The following table presents the major components of non-interest expense.
The Company's total non-interest expense in 1997 increased $6.5 million, or 18.8%, to $41.4 million from $34.8 million in 1996. The increase was primarily due to acquisitions in 1997 and 1996, resulting both from the costs of the acquisitions and increase from those with respect to which prior periods were not restated. Salary and employee benefits rose due to new locations as well as increased salary levels. Occupancy expenses increased due to servicing of new locations and operations. Data processing fees increased slightly, primarily due to volume. The Company expects to review its data processing arrangements during 1998, including continuing review of its "year 2000 compliance". While the Company has not identified expected material expenditures as a result of "year 2000 compliance"; there can be no assurances that will be the case in part because certain decisions as to future processing have not been finalized and certain "year 2000 compliance" issues assume third party resolution. FDIC deposit insurance premiums increased due to increased deposit levels from acquisition and internal growth, although remained well below 1995 levels due to changes in insurance rates in May 1995. The increase in other operating expenses resulted from a variety of increases in other expense categories, including increases resulting from acquisitions for which prior periods were not restated.
The Company's overhead ratio, which is computed by subtracting non-interest income from non-interest expense (excluding net securities transactions) and dividing by average total assets, was 2.14% in 1997, 2.27% in 1996, and 2.41% in 1995.
Due to the sensitivity of the overhead ratio to changes in the size of the balance sheet, management also looks at trends in the efficiency ratio to assess the changing relationship between operating expenses and income. The efficiency ratio measures the amount of cost expended by the Company to generate a given level of revenues in the normal course of business. It is computed by dividing total operating expense by net interest income on a fully-taxable equivalent basis and non-interest income from ongoing operations, excluding nonrecurring items. The efficiency ratio was 53.85% in 1997, 55.70% in 1996 and 57.32% in 1995. The decreases in this ratio and the overhead ratio resulted from the various factors set forth above.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (continued)
INCOME TAXES
The Company's provision for income taxes in 1997 increased $2.0 million, or 28.9%, to $9.0 million from $7.0 million in 1996. The 1996 level represents a 14.5% increase from $6.1 million in 1995. As a percentage of taxable income, the effective tax rate was 30.7% in 1997, 31.2% in 1996 and 30.6% in 1995 of income before taxes. The effective tax rate has remained constant as compared to 1996. For more information regarding income taxes see Note 13 of Notes to the Company's Consolidated Financial Statements.
NET INCOME
Net income in 1997 increased by $4.9 million, or 31.9% to $20.3 million from $15.4 million in 1996. This compares with an increase in income of $1.6 million, or 11.3%, for 1996 from $13.8 million in 1995.
Return on average stockholders' equity was 14.37% in 1997 compared with 13.12% in 1996 and 13.31% in 1995. The return on average assets was 1.33% in 1997 compared with 1.24% in 1996 and 1.26% in 1995.
Basic net income per share was $2.09 in 1997 compared with $1.73 in 1996 and $1.59 in 1995. The Company maintains a stock option plan. Fully diluted net income per share was $2.08 in 1997 compared with $1.73 in 1996 and $1.59 in 1995; the difference from basic net income per share results from the effects of outstanding stock options.
FINANCIAL CONDITION
In addition, 1997 was a year of growth for F&M in total assets and equity. Year end total assets in 1997 grew to $1.646 billion, a 23.2% increase from $1.336 billion in 1996. Of the 23.2% increase, approximately 12% growth resulted from acquisitions for which prior financial statements were not restated, and approximately 11% resulted from internal growth. Total shareholders' equity at December 31, 1997 was $149 million, a 21.8% increase from $122 million in 1996. The balance of this section further discusses changes in the Company's assets, liabilities and equity.
[BAR GRAPH]
Note: These figures reflect individual bank assets as of the end of each year. They do not reflect a restatement for subsequent acquisitions accounted for as a pooling of interest.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (continued)
LOAN PORTFOLIO
The following table sets forth the major categories of loans outstanding and the percentage of total loans for each category at the dates indicated.
LOAN PORTFOLIO COMPOSITION
December 31, 1997
[PIE GRAPH]
7% Agriculture 7% Installment and Other Consumer 3% Real Estate Construction 20% Commercial and Industrial 63% Real Estate Mortgage
Loan growth was 23.4% in 1997 compared with 22.4% in 1996. The 1997 and 1996 increase was primarily a result of increased sales efforts at the Company's subsidiary banks, although approximately $93.0 million in loans (representing approximately 10% of the increase) resulted from acquisitions in which the Company did not restate its prior financial statements, with the remaining balance resulting from internal growth.
During 1997 and 1996 the loan mix in the Company's portfolio remained relatively constant, with a trend toward commercial loans due to greater demand.
The Company maintains a diversified loan portfolio and therefore, management believes there is minimal exposure to loan concentration losses. At December 31, 1997, the Company believes that there were no loan concentrations to a multiple number of borrowers engaged in similar activities which would cause them to be similarly impacted by economic or other conditions. By maintaining a diversity of types of borrowers, the Company has attempted to prevent material losses due to economic difficulties affecting particular industries.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (continued)
The following table sets forth the scheduled repayments of the loan portfolio and the sensitivity of loans to interest rate changes at December 31, 1997 (excluding one to four family residential property mortgages and consumer loans).
NON-PERFORMING ASSETS
Non-performing assets are a broad measure of problem loans. The following table sets forth the amount of non-performing loans, other real estate owned and non-performing assets, and each of their percentages to total loans as of the dates indicated.
Maintaining excellent credit quality continues to be a priority for the Company. Non-performing assets as a percentage of total loans outstanding decreased in 1997 to 1.00% compared with 1.52% in 1996 and 1.18% in 1995. Non-accrual loans decreased in 1997 because of developments with respect to a number of separate loans, in different locations and industries. The decrease in 1997 was due largely to the Company's attentive monitoring of the loan portfolio. Management continues to take an aggressive collection effort on these assets and regularly reviews and evaluates the non-performing credits to determine appropriate handling and action.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (continued)
LOAN QUALITY
[BAR GRAPH]
Non-accrual loans at December 31, 1997 decreased 0.38% as a percentage of total loans, as compared to 1996. Non-accrual loans are at a level the Company considers manageable and continues to work at reducing the level of nonperforming loans. Furthermore, the Company considers its allowance for loan losses adequate to cover this level of non-accrual loans, although it regularly reviews the various factors used in determining the provision and allowance for loan losses.
The gross interest income that would have been recognized on non-accrual loans in 1997 if the loans had been current in accordance with their original terms was approximately $1,085,000, of which approximately $369,000 was collected and included in the Company's income for 1997.
It is the policy of the F&M subsidiary banks to place a loan on non-accrual status when the loan's principal and accrued interest is not expected to be collected in full or when the loan becomes contractually past due 90 days or more as to principal or interest and is not guaranteed by an outside source. Loans past due 90 days or more may be retained on accrual status if they are guaranteed by a third party and the bank believes that such guaranty will be adequate to assure collection.
There were no particular loans as to which payments were current at December 31, 1997, which in the opinion of management, and to its best knowledge, will not be paid according to their terms.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (continued)
SUMMARY OF LOAN LOSS EXPERIENCE
The following table summarizes average loan balances at the end of each period; changes in the allowance for loan losses arising from loans charged-off and recoveries on loans previously charged-off, by loan category; and provisions for loan losses which have been charged to expense.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (continued)
ALLOCATION OF ALLOWANCE FOR LOAN LOSSES
The following table summarizes the allocation of allowances for loan losses and gives a breakdown of the percentage of loans in each category.
The allowance for loan losses is maintained at a level sufficient to provide for estimated loan losses based on evaluating known and inherent risks in the loan portfolio. The allowance for loan losses is an amount that management believes will be adequate to absorb possible losses on existing loans that may become uncollectible based on evaluations of the collectibility of loans and prior loan loss experience. In determining the additions to the allowance charged to operating expenses, management considered historical loss experience, changes in the nature and volume of the loan portfolio, overall portfolio quality, and current economic conditions that may affect the borrower's ability to pay.
The degree of risk associated with the Company's loans is generally greater in the commercial, industrial and agricultural categories, representing 27.0% of total loans at December 31, 1997. Accordingly, management has allocated a significantly larger portion of the allowance for loan losses to these types of loans.
The ultimate recovery of all loans is susceptible to future market and economic factors beyond the Company's control as well as factors affecting particular borrowers. Also, the process of setting loss reserves involves an estimation of future occurrences, and is inherently uncertain. These factors may result in future losses or recoveries differing significantly from the allowances and reserves provided in the financial statements.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (continued)
INVESTMENT PORTFOLIO
The following table sets forth the distribution of investment securities (securities held to maturity and available for sale) and their percentage to total investment securities at the dates indicated.
During 1997, the investment portfolio make-up changed relative with past years, with a decrease in U.S. treasuries and agencies and an increase in obligations of states and political subdivisions and mortgage-backed securities. The Company took advantage of attractive spread relationships in the non-taxable market and also lengthened the average maturity in the investment portfolio to increase yields. Mortgage-back securities increased due to acquisitions for which prior periods were not restated and more attractive rates than U.S. treasury securities.
INVESTMENT PORTFOLIO
December 31, 1997
[PIE CHART] [PIE CHART]
Composition Quality
Other 7.5% BAA 1% Treasuries/Agencies 13.9% AA 2% Mortgage Backed 33.2% A 5% Municipals 45.4% Non-rated 12% Treasuries/Agencies AAA 80%
The following tables show the relative maturities and weighted average interest rates on a tax equivalent basis of investment securities as of December 31, 1997. Although the maturities of the investment portfolio have lengthened from 1996, the Company feels liquidity remains adequate.
*Includes floating rate securities which reprice monthly but which mature during the indicated time period.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (continued)
Inherent in any portfolio which includes mortgage-backed securities, there exist both prepayment and maturity extension risk. The Company is not immune to these same type risks. The Company's investments in these type of securities are predominantly in straight U.S. Agency issued mortgage-backed pass-throughs and lower risk types of real estate mortgage investments conduits/collateralized mortgage obligations. The major categories of the mortgage-backed security portfolio and dollar values as of December 31, 1997, are as follows: fixed rate mortgage-backed pass-throughs-$10.7 million; variable rate mortgage-backed pass-thoughs-$7.6 million; fixed rate real estate mortgage investment conduits/collateralized mortgage obligations-$46.3 million; and floating rate real estate mortgage investment conduits/collateralized mortgage obligations-$37.3 million.
For more information regarding the investment portfolio, including the breakdown between securities held to maturity and available for sale, see Note 5 of Notes to the Company's Consolidated Financial Statements.
DEPOSITS
The following table sets forth average deposits and their percentage to total average deposits at the dates indicated.
Year-end deposits increased 20.4% in 1997 compared with an increase of 14.8% in 1996 over 1995.
The amount of time certificates of deposit issued in amounts of $100,000 or more and outstanding as of December 31, 1997 was: $149,642,000. Their maturing distribution was as follows:
The increase in time certificates of deposit issued in amounts of $100,000 or more of approximately $50 million over December 31, 1996 was due primarily to internal growth, acquisitions for which prior periods were not restated and purchase transactions. Neither F&M or its subsidiaries have any deposits in foreign banking offices.
Borrowings
Short-term borrowings at December 31, 1997 were $47.7 million, as compared to $42.3 million at December 31, 1996. Short-term borrowings consist primarily of repurchase agreements and federal funds purchased. During 1997, F&M has used short-term borrowings (along with increased deposits) to fund its increasing loan demand. Use of short-term funds at year end 1997 reflected the attractiveness of rates for those funds. Going forward, continued reliance on short-term borrowings may be required if loan demand continues to outpace deposit growth, and therefore short-term borrowings are expected to vary from time to time.
Several of the Company's subsidiary banks, as members of the Federal Home Loan Bank (FHLB), had borrowings from the FHLB as of December 31, 1997 and 1996. These borrowings are secured by pledges of mortgage loans, and totaled $60.9 million at December 31, 1997, compared to $18.2 million at December 31, 1996. The increase in other borrowings in 1997 was due primarily to attractiveness of longer term rates and the Company's implementation of a leverage program in which FHLB borrowings are matched to securities purchased. These borrowings had original maturities of five months to eight years, with rates at December 31, 1997 ranging from 5.26% to 7.73%.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (continued)
CAPITAL ADEQUACY
Stockholders' equity increased in 1997 by $26.6 million, to $148.8 million. This increase was a result of net income during the year, along with the net increase in the fair value of available for sale securities which increased stockholders' equity by $494,000, offset by dividends of $7.3 million paid to common stockholders.
Equity (Thousands)
[LINE CHART]
94 102,126 95 110,919 96 122,678 97 148,822
Numbers exclude FASB 115 adjustment.
Regulatory Capital Ratios December 31, 1997
[LINE CHART]
Leverage Ratio Tier One Risk Total Risk Based Capital Ratio Based Capital Ratio
F&M Bancorporation 8.65% 11.35% 12.58% Well Capitalized 5.00% 6.00% 10.00% Adequately Capitalized 4.00% 4.00% 8.00%
At December 31, 1997, the risk-based capital ratio for Tier 1 capital was 11.4% and the total risk-based capital ratio was 12.6%, as compared to minimum regulatory requirements of 4.0% and 8.0%, respectively. The ratio of average equity to average assets amounted to 9.23% at December 31, 1997 compared with 9.44% at December 31, 1996 and 9.44% at December 31, 1995. The Company's leverage ratio at December 31, 1997 was 8.7%, as compared to a minimum regulatory requirement of 4.0%.
At December 31, 1997, the F&M subsidiary banks in the aggregate could have paid approximately $45,483,000 of additional dividends to the Company without prior regulatory approval. The payment of dividends is subject to the statutes governing its subsidiary chartered banks. At December 31, 1997, each of the F&M banks was in compliance with all applicable capital requirements, and management believes that the capital structure of the F&M Banks is adequate. The Company's common stock dividend payout ratio was 36.0% in 1997, as compared to 35.2% in 1996 and 31.1% in 1995. These numbers include the dividends historically paid by CSB, USB, WBC and CNB prior to their acquisitions by the Company; differences in dividend policies affect the comparability of information.
F&M's acquisitions of GCB, ETB, CLB, CNB, WBC, and BSW were, and its pending acquisitions of BSC, and FMS are, stock for stock transactions, and therefore additive to the Company's capital. The acquisitions which have been consummated did not significantly affect F&M's capital ratios (and F&M does not expect the pending acquisitions to do so). F&M's 1998 acquisition of SB was for cash, financed through existing capital resources.
F&M did not incur any significant capital expenditures in 1997. The Company to date has not committed to any major commitments to build or purchase in 1998 but also expects to finance future expenditures through earnings and existing capital resources.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (continued)
LIQUIDITY, INTEREST SENSITIVITY AND MARKET RISK MANAGEMENT
As shown in the Company's Consolidated Statement of Cash Flows for 1997, cash and cash equivalents increased by $20.6 million during 1997 to $93.3 million at December 31, 1997. The increase primarily reflected $130.1 million in net cash provided by financing activities plus $24.5 million in net cash provided by operating activities offset by $134.0 million in net cash used in investing activities. Net cash used in investing activities consisted primarily of a net increase in loans plus necessary capital expenditures. Net cash provided by operating activities primarily consisted of the Company's net income in 1997, increased by adjustments for non-cash charges. Net cash provided by financing activities principally reflected a net increase in deposits and other borrowings offset in part by payments on the Company's other borrowings, and dividends paid.
The Company manages its liquidity 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 primary sources of the Company's liquidity are marketable assets maturing within one year. At December 31, 1997, the carrying value of securities maturing within one year was $41.3 million, or 13.4% of the total investment securities portfolio. The Company attempts, when possible, to match relative maturities of assets and liabilities, while maintaining the desired net interest margin. Although the percentage of earning assets represented by loans is increasing, management believes that liquidity is adequate.
A derivative financial instrument includes futures, forwards, interest rate swaps, option contracts and other financial instruments with similar characteristics. The Company does not currently engage in the use of derivative instruments. In addition, the Company has no market risk sensitive instruments held for trading purposes.
The Company is, however, party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit, standby letters of credit and credit card commitments. For additional detail see Note 18 of Notes to the Company's Consolidated Financial Statements.
Interest rate risk is the most significant market risk affecting the Company. Other types of market risk, such as foreign currency exchange rate risk and commodity price risk, do not arise in the normal course of the Company's business activities. Managing interest rate risk is fundamental to banking. Banking institutions manage the inherently different maturity and repricing characteristics of the lending and deposit-taking lines of business to achieve a desired interest rate sensitivity position and to limit their exposure to interest rate risk. The Company manages its balance sheet to achieve maximum shareholder value within the constraints of its interest rate risk discipline, the maintenance of high credit quality, and sound leverage and liquidity positions. Both the interest rate sensitivity and liquidity position of the Company are reviewed regularly. The primary objective of interest rate sensitivity management is to maintain net interest income growth while reducing exposure to the risks inherent in interest rate movements.
The Company's Asset and Liability Management Committee ("ALCO") attempts to structure the Company's balance sheet to provide for an approximately equal amount of rate sensitive assets and rate sensitive liabilities. In addition to facilitating liquidity needs, this strategy assists management in maintaining relative stability in net interest income despite unexpected fluctuations in interest rates. The Company believes its market risk exposure, based on the potential of near-term losses in future earnings, fair values, and cash flows from reasonably possible near-term changes in market rates or prices is acceptable at this time.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (continued)
A historical tool for measuring interest rate sensitivity is the gap analysis. The following table shows the Company's approximate consolidated rate sensitivity gap position at December 31, 1997.
Rate-sensitive liabilities in the preceding table exclude 50% of negotiable order of withdrawal interest-bearing demand accounts and 70% of regular savings accounts because management believes, based on the Company's previous experience, that this treatment more closely approximates actual results due to the relatively stable nature of these accounts. The F&M banks' regulators have acknowledged these formulas for examination purposes.
Management's overall strategy is to coordinate the volume of rate-sensitive assets and liabilities to minimize the impact of interest rate movements on the net interest margin. The above table reflects a negative gap position for the 90-day interval with a positive position for the longer maturities. A negative position is favorable in a falling interest rate environment; a positive position is favorable in a
rising interest rate environment. The gap is within the acceptable range established by management at each level of maturity. The December 31, 1997 net interest margin decreased slightly to 4.71% from 4.78% for 1996. Since this is a dynamic ratio, management has the ability to influence net interest income in a positive manner when interest rate changes do occur.
The Company's rollover policy is such that loans are written with limited maturities if they are not in conjunction with amortized payments or otherwise tied to a variable rate. This allows the F&M banks to restructure the terms and interest rate of the loan to correspond with the Company's cost of funds.
CHANGES IN ACCOUNTING PRINCIPLES
FASB issued SFAS No. 125, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities," in June 1996. The Company adopted the provisions of SFAS No. 125 effective January 1, 1997. SFAS No. 125 provides accounting and reporting standards for transfers and servicing of financial assets and extinguishment of liabilities. The statement provides guidelines for classification of a transfer as a sale. The statement also requires liabilities incurred or obtained by transferors as part of a transfer of financial assets be initially recorded at fair value. Subsequent to acquisition, the servicing assets and liabilities are to be amortized over the estimated net servicing period.
FUTURE ACCOUNTING CHANGES
In June 1997, FASB issued Statement of Financial Accounting Standards (SFAS) No. 130, "Reporting Comprehensive Income." This statement establishes standards for reporting and display of comprehensive income in a full set of general purpose financial statements. This statement requires all items that are required to be recognized under accounting standards as components of comprehensive income be reported in a financial statement that is displayed with the same prominence as other financial statements. This statement requires that an enterprise display an amount representing total comprehensive income for the period in a financial statement, but does not require a specific format for that financial statement. This statement also requires that an enterprise, a) classify items of other
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (continued)
comprehensive income by their nature in a financial statement and, b) display the accumulated balance of other comprehensive income separately from retained earnings and surplus in the equity section of the balance sheet. The statement is effective for fiscal years beginning after December 15, 1997. Reclassification of financial statements for earlier periods provided for comparative purposes is required. Management, at this time, cannot determine the effect that adoption of this statement may have on the consolidated financial statements of the Company as comprehensive income is dependent on the amount and nature of assets and liabilities held which generate nonincome changes to equity.
In June 1997, the FASB issued SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information." This statement establishes standards for the way that public business enterprises report information about operating segments in annual financial statements and requires that those enterprises report selected information about operating segments in interim financial reports issued to shareholders. This statement supersedes SFAS No. 14, "Financial Reporting for Segments of a Business Enterprise," but retains the requirement to report information about major customers. It also amends SFAS No. 94, "Consolidation of All Majority-Owned Subsidiaries," to remove the special disclosure requirements for previously unconsolidated subsidiaries. The statement is effective for fiscal years beginning after December 15, 1997. In the initial year of application, comparative information for earlier years is to be restated. The statement is not expected to have an effect on the financial position or operating results of the Company, but may require additional disclosures in the consolidated financial statements.
SUMMARY QUARTERLY FINANCIAL INFORMATION
The following is a summary of the quarterly results of operations for the years ended December 31, 1997 and 1996.
SIGNATURES
PURSUANT TO THE REQUIREMENTS OF SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934, THE REGISTRANT HAS DULY CAUSED THIS REGISTRATION STATEMENT TO BE SIGNED ON ITS BEHALF BY THE UNDERSIGNED, THEREUNTO DULY AUTHORIZED.
F&M BANCORPORATION, INC.
Dated March 24, 1998 By:/s/ John W. Johnson -------------------- John W. Johnson, President and Chief Executive Officer ------------- POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that each person whose signature appears below constitutes and appoints John W. Johnson, Daniel E. Voet and Janet M. Lakso, and each of them, his true and lawful attorneys-in-fact and agents, with full power of substitution and resubstitution for him and in his name, place and stead, in any and all capacities, to sign any and all amendments (including post-effective amendments) to this report, and to file the same, with all exhibits thereto, and other documents in connection therewith, with the Securities and Exchange Commission and any state securities commission, granting unto said attorneys-in-fact and agents, and each of them, full power and authority to do and perform each and every act and thing requisite and necessary to be done in and about the premises, as fully to all intents and purposes as he might or could do in person, hereby ratifying and confirming all that said attorneys-in-fact and agents or any of them, or their or his substitute or substitutes, may lawfully do or cause to be done by virtue hereof.
---------------
Pursuant to the requirements of the Securities Act of 1933, this report has been signed by the following persons in the capacities and on the dates indicated.*
SIGNATURE AND TITLE
/s/ John W. Johnson /s/ Douglas A. Martin - ------------------------------------------- --------------------------- John W. Johnson, President, Chief Executive Douglas A. Martin, Director Officer and Director
/s/ Daniel E. Voet /s/ Duane G. Peppler - ------------------------------------------- --------------------------- Daniel E. Voet, Chief Financial Officer and Duane G. Peppler, Director Treasurer (also, Principal Accounting Officer)
/s/ Gail E. Janssen /s/ Robert C. Safford - ------------------------------------------- --------------------------- Gail E. Janssen, Chairman of the Board Robert C. Safford, Director and Director
/s/ Otto L. Cox /s/ Glenn L. Schilling - ------------------------------------------- --------------------------- Otto L. Cox, Director Glenn L. Schilling, Director
/s/ Paul J. Hernke /s/ Joseph F. Walsh - ------------------------------------------- --------------------------- Paul J. Hernke, Director Joseph F. Walsh, Director
- ------------- * Each of the above signatures is affixed as of March 24, 1998.
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F&M BANCORPORATION, INC. (THE "REGISTRANT")
EXHIBIT INDEX TO 1997 REPORT ON FORM 10-K
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* Excluding schedules and exhibits, which are identified in such documents. The Registrant agrees to furnish supplementally a copy of any omitted schedule or exhibit to the Commission upon request.
** Designates management contracts or compensatory plans or arrangements which are filed as exhibits hereto.
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