ITEM 1. BUSINESS
General
FSF Financial Corp. (the "Company"), a Minnesota Corporation, was organized in May, 1994, and as of October 6, 1994, became the holding company for First Federal fsb ("First Federal" or the "Bank"). First Federal is the resulting institution of the merger of First State Federal Savings and Loan Association, Hutchinson, MN ("Hutchinson"), and First Federal Savings and Loan Association of Hastings, Hastings, MN ("Hastings"). The merger of the two institutions was completed in September, 1994 ("Merger"). Hutchinson was organized as a state chartered mutual savings and loan association in 1933 and received a federal charter in 1934. Hastings was initially chartered in 1881 as the "Dakota County Building and Loan Association" and obtained a federal charter in 1968.
First Federal's business consists primarily of attracting deposits from the general public and using such deposits, together with borrowings and other funds, to make mortgage loans secured by residential real estate located in Minnesota. At September 30, 1997, First Federal operated 11 retail banking offices in Minnesota.
First Federal is regulated by the Office of Thrift Supervision ("OTS"), and by the Federal Deposit Insurance Corporation ("FDIC") which, through the Savings Association Insurance Fund ("SAIF"), insures, up to certain legal limits, the deposit accounts of institutions such as First Federal. First Federal is also a member of the Federal Home Loan Bank ("FHLB") of Des Moines, which is one of the twelve regional banks for federally insured savings institutions and certain other residential lending entities comprising the Federal Home Loan Bank System.
Market Area
The Bank is authorized to make real estate loans throughout the United States. First Federal's primary market area consists of the ten Minnesota counties of Benton, Carver, Dakota, McLeod, Meeker, Sherburne, Sibley, Stearns, Washington, and Wright. The market area extends from the St. Cloud area northwest of the Minneapolis/St Paul metropolitan area to the Mississippi River southeast of the Minneapolis/St. Paul metropolitan area. The economic composition of the market area is extremely diverse and contains agriculture, commercial, and manufacturing enterprises. The market area is generally considered to be a "bedroom" community for the Minneapolis/St. Paul metropolitan area.
Lending Activities
General. The following table sets forth the composition of the Bank's loan portfolio in dollars and in percentages of total loans at the dates indicated.
- --------------------------------------------- (1) Includes loans held for sale in the amount of $204,000, $443,000, $230,000, $729,000 and $21.6 million as of September 30, 1997, 1996, 1995, 1994, and 1993, respectively.
The following table sets forth the Bank's loan originations, loan purchases, loan sales, and principal payments for the periods indicated:
Maturity of Loans. The following table sets forth the maturity of the Bank's loans at September 30, 1997. The table does not include prepayments or scheduled principal repayments. Prepayments and scheduled principal repayments on loans totaled $72.0 million, $63.8 million, $49.7 million, $49.7 million, and $45.4 million for the years ended September 30, 1997, 1996, 1995, 1994 and 1993, respectively. Adjustable-rate mortgage loans are shown as maturing based on contractual maturities.
The following table sets forth the dollar amount of all loans due after September 30, 1998, which have predetermined interest rates and which have floating or adjustable interest rates.
One- to Four-Family Mortgage Loans. The largest portion of the Bank's loans are made for the purpose of enabling borrowers to purchase one- to four-family residences secured by first liens on the properties. The Bank originates balloon mortgage loans, ARM loans and fixed-rate mortgage loans secured by one- to four-family residences with loan terms up to 30 years. The Bank also offers FHA and VA loans that are originated and then sold, servicing released, in the secondary market. Borrower demand for balloon and ARM loans versus fixed-rate mortgage loans depends on various factors, including, but not limited to, interest rates offered, the expectations of changes in the short- and long-term levels of interest rates and loan fees charged. The relative amount of fixed-rate mortgage loans, balloon loans and ARM loans that can be originated at any time is largely determined by the demand for each in a competitive environment. The Bank sells all fixed-rate loans with an original maturity of greater than twenty years to the Federal Home Loan Mortgage Corporation ("FHLMC"), with servicing retained.
The Bank originates three-, five- and seven-year balloon mortgage loans, the majority of which are three-year balloon mortgages. These mortgages contain no contractual assurances that the loan will be renewed. At maturity the loan is generally rewritten and re-recorded; however, if the borrower's loan payment history is satisfactory, a new appraisal is not required. Management believes that balloon loans have a pricing characteristic that helps offset the detrimental effect that rising rates could have on net interest income because the balloon loans do not contain interest rate adjustment caps. At September 30, 1997, balloon mortgages were $34.3 million, or 12.1% of the Bank's loan portfolio.
The Bank offers ARM loans that adjust every year, with the initial adjustment coming one, three, five, seven or ten years after origination. The loans have terms from 10 to 30 years and the interest rates on these loans are generally based on treasury bill indices. The annual interest rate cap (the maximum amount by which the interest rate may be increased in a year) on the Bank's ARM loans is generally 2.0% and the lifetime cap is generally 6.0% over the initial rate of the loan. The Bank considers market factors and competitive rates on loans as well as its own cost of funds when determining the rates on the loans it offers. The Bank does not originate loans with negative amortization.
Residential Construction Lending. The Bank originates residential construction loans to qualified borrowers for construction of one-to-four family residential properties located in the Bank's market area. Construction loans are made to builders on a pre-
sold, speculative and model home basis and to owners for construction of their primary residence on a construction/permanent basis. Such loans generally have terms from six to nine months. Loans for speculative housing construction are made to area builders only after a thorough background check has been made. The background check includes an analysis of the builder's financial statements, credit reports and reference checks with sub-contractors and suppliers. The Bank usually will have no more than two speculative or model home construction loans outstanding at any time to any single builder. Loan proceeds are disbursed in increments as construction progresses and only after a physical inspection of the project is made by a Bank representative. Accrued interest on loan disbursements is paid monthly.
Loans involving construction financing present a greater level of risk than loans for the purchase of existing homes because collateral value and construction costs can only be estimated at the time the loan is approved. The Bank has sought to minimize the risk by limiting construction lending to qualified borrowers in the Bank's market area, by limiting the number of construction loans for speculative purposes outstanding at any time, and by installing a system to inspect the property and to monitor the loan disbursements.
Land Acquisition and Development Loans, Commercial Real Estate and Multi-Family Lending. The Bank originates land loans on residential properties located in the Bank's primary market area. Land lending generally involves additional risks to the lender as compared with residential mortgage lending. These risks are attributable to the fact loan funds are advanced upon the security of land under development, and predicated on the future value of the property upon completion of development. Loans on undeveloped land may run the risk of adverse zoning changes, environmental or other restrictions on future use. Because of these factors, the analysis of land loans requires an expertise that is different in significant respects from that which is required for residential lending.
Commercial real estate loans are permanent loans secured by improved property such as office buildings, retail-wholesale facilities, industrial buildings and other non-residential buildings. Commercial real estate loans may be originated in amounts up to 80% of the appraised value of the mortgaged property as determined by a certified or licensed independent appraiser.
Multi-family residential real estate loans are permanent loans secured by apartment buildings. Of primary concern in multi-family residential real estate lending is the borrower's creditworthiness, feasibility and cash flow potential of the project. Loans secured by income properties generally are larger and involve greater risks than residential mortgage loans because payments on loans secured by income properties are often dependent on the successful operation or management of the properties. As a result, repayment of such loans may be subject to a greater extent than residential real estate loans to adverse conditions in the real estate market or the economy. In order to monitor cash flows on income properties, the Bank requires borrowers and loan guarantors, if any, to provide annual financial statements and rent rolls on multi-family loans. At September 30, 1997, the five largest land acquisition and development, commercial real estate and multi-family loans ranged from $2.5 million to $7.9 million with an average outstanding balance of $3.9 million. All such loans were current and have performed in accordance with their terms and the property securing such loans is in the Bank's market area.
Commercial Business Lending. The Bank's commercial business loans are for a variety of purposes including working capital, accounts receivable, inventory, equipment and acquisitions. The Bank has no energy or foreign loans and expects to commence Agricultural Lending in the first quarter of fiscal 1998.
Unlike residential mortgage loans, which generally are made on the basis of the borrower's ability to make repayment from his or her employment and other income and which are secured by real property with a value that tends to be more easily ascertainable, commercial business loans typically are made on the basis of the borrower's ability to make repayment from the cash flow of the borrower's business. As a result, the availability of funds for the repayment of commercial business loans may be substantially dependent on the success of the business itself (which is likely to be dependent upon the general economic environment.) The Bank's commercial business loans are sometimes, but not always, secured by business assets, such as accounts receivable, equipment and inventory, as well as real estate. However, the collateral securing the loans may depreciate over time, may be difficult to appraise, and may fluctuate in value based on the success of the business.
The Bank recognizes the generally increased risks associated with commercial business lending. The Bank's commercial business lending policy emphasizes (1) credit file documentation, (2) analysis of the borrower's character, (3) analysis of the borrower's capacity to repay the loan, (4) adequacy of the borrower's capital and collateral, and (5) evaluation of the industry conditions affecting the borrower. Analysis of the borrower's past, present and future cash flows is also an important aspect of the Bank's credit analysis. The Bank plans to continue to expand its commercial business lending, subject to market conditions.
The Bank generally obtains annual financial statements from borrowers for commercial business loans. These statements are analyzed to monitor the quality of the loan.
Consumer and Other Loans. The Bank offers consumer and other loans in the form of home equity and second mortgage loans, automobile loans and loans for other purposes. Federal regulations permit federally chartered thrift institutions to make secured and unsecured consumer loans up to 35% of an institution's assets. The Bank originates consumer loans in order to provide a
wide range of financial services to its customers and because the shorter terms and normally higher interest rates on such loans help maintain a profitable spread between its average loan yield and the Bank's cost of funds.
In connection with consumer loan applications, the Bank verifies the borrower's income and reviews a credit bureau report. In addition, the relationship of the loan to the value of the collateral is considered. Consumer loans entail greater risks than one-to- four family residential mortgage loans, particularly consumer loans secured by rapidly depreciable assets such as automobiles or loans that are unsecured. In such cases, any repossessed collateral for a defaulted loan may not provide an adequate source of repayment of the outstanding loan balance, since there is a greater likelihood of damage, loss or depreciation of the underlying collateral. Further, consumer loan collections are dependent on the borrower's continuing financial stability, and therefore are more likely to be adversely affected by job loss, divorce, illness or personal bankruptcy. Finally, the application of various federal and state laws, including federal and state bankruptcy and insolvency laws, may limit the amount which can be recovered on such loans in the event of a default. At September 30, 1997, consumer loans 90 days or more delinquent totaled $82,000 or 0.19% of such loans. Management believes that the Bank's level of consumer loan delinquencies is relatively low in comparison to other financial institutions. No assurance can be given, however, that the Bank's delinquency rate on consumer loans will continue to remain low in the future.
Loan Approval Authority and Underwriting. First Federal's primary source of mortgage loan applications is referrals from existing or past customers. The Bank also solicits applications from real estate brokers, contractors, and call-ins and walk-ins to its offices. First Federal advertises in local newspapers for first mortgage and home equity loans.
Upon receipt of any loan application from a prospective borrower, a credit report and verifications are ordered to confirm specific information relating to the loan applicant's employment, income and credit standing. An appraisal or valuation determination, subject to regulatory requirements, of the real estate intended to secure the proposed loan is undertaken. First Federal utilizes the services of Board approved appraisers and two authorized appraisers on staff at the Bank. In connection with the loan approval process, First Federal's loan officers analyze the loan applications and the property involved. All residential, home equity, multi-family, construction and commercial real estate loans are underwritten and processed at First Federal's main office by First Federal's loan servicing department, subject to the loan underwriting policies as approved by the Board of Directors. The Chief Executive Officer, President, and the Directors of Lending are authorized to approve all one-to-four family applications. Commercial real estate loans in excess of $1.0 million must be approved by the Board of Directors.
Loan applicants are promptly notified of the decision of the Bank by a letter setting forth the terms and conditions of the decision. If approved, these terms and conditions include the amount of the loan, interest rate basis, amortization term, a brief description of real estate to be mortgaged to First Federal, and the notice of requirement of insurance coverage to be maintained to protect the Bank's interest. First Federal requires title insurance or a title opinion on first mortgage loans and fire and casualty insurance on all properties securing loans, which insurance must be maintained during the entire term of the loan. The Bank also requires flood insurance, if appropriate, in order to protect First Federal's interest in the security property.
Loans-to-One Borrower. Under federal law, federally-chartered savings banks have, subject to certain exemptions, aggregate lending limits to one borrower equal to 15% of the institution's unimpaired capital and surplus. As of September 30, 1997, First Federal's five largest lending relationships included $7.9 million in land development loans to a local developer, a $3.0 million line of credit to an unaffiliated mortgage-banking company, a $3.0 million multi-family real estate loan, a $3.5 million commercial real estate loan, and a $2.8 million commercial real estate loan. At September 30, 1997, all of these loans were within the loans to one borrower limitations, performing in accordance with their terms, and at market rates of interest.
Loan Servicing. The Bank generally retains the servicing on all loans sold to others. In addition, the Bank services substantially all of the loans which it retains in its portfolio. Loan servicing includes collecting and remitting loan payments, accounting for principal and interest, making advances to cover delinquent payments, making inspections as required of mortgaged premises, contacting delinquent mortgagors, supervising foreclosures and property dispositions in the event of unremedied defaults and generally administering the loans. Funds that have been escrowed by borrowers for the payment of mortgage-related expenses, such as property taxes and hazard and mortgage insurance premiums, are maintained in noninterest-bearing accounts at the Bank. At September 30, 1997, the Bank had $237,000 deposited in escrow accounts for its loans serviced for others.
The following table presents information regarding the loans serviced by the Bank for others at the dates indicated.
The Bank receives fees for servicing mortgage loans, which generally amount to 0.25% per annum on the declining balance of mortgage loans. Such fees serve to compensate the Bank for the costs of performing the servicing functions. Other sources of loan servicing revenues include late charges. For the years ended September 30, 1997, 1996 and 1995, the Bank earned gross fees of $204,000, $194,000 and $186,000, respectively from loan servicing. The Bank retains a portion of funds received from borrowers on the loans it services for others in payment of its servicing fees received on loans serviced for others.
Non-Performing and Problem Assets
Loan Collections and Delinquent Loans. The Bank's collection procedures provide that when a loan is 30 days or more delinquent, the borrower is contacted by mail and telephone and payment is requested. If the delinquency continues, subsequent efforts will be made to contact the delinquent borrower. In certain instances, the Bank may modify the loan or grant a limited moratorium on loan payments to enable the borrower to reorganize his financial affairs. Once a loan delinquency exceeds 60 days it is classified as special mention and the Bank attempts to work with the borrower to establish a repayment schedule to cure the delinquency. If the borrower is unable to cure the delinquency, the Bank will institute foreclosure actions. If a foreclosure action is taken and the loan is not reinstated, paid in full or refinanced, the property is sold at a judicial sale at which the Bank may be the buyer if there are no offers to satisfy the debt. Any property acquired as the result of a foreclosure or by deed in lieu of foreclosure is classified as foreclosed real estate until such time as it is sold or otherwise disposed of by the Bank. At September 30, 1997, the Bank had $72,000 of foreclosed real estate, consisting of a one-to-four family residential loan. When foreclosed real estate is acquired, it is recorded at the lower of the unpaid principal balance of the related loan or its fair market value less related disposition costs. Any writedown of the property is charged to the allowance for losses on real estate owned.
Non-performing Assets. Loans are reviewed on a regular basis and are placed on a non-accrual status when, in the opinion of management, the collection of additional interest is doubtful. Residential mortgage loans are placed on a non-accrual status when either principal or interest is 90 days or more past due. Consumer loans generally are charged off when the loan becomes over 90 days delinquent. Commercial business and real estate loans are generally placed on non-accrual status when the loan is 90 days or more past due. Interest accrued and unpaid at the time a loan is placed on non-accrual status is charged against interest income. Subsequent payments are either applied to the outstanding principal balance or recorded as interest income, depending on the assessment of the ultimate collectibility of the loan. At September 30, 1997, the Bank had approximately $478,000 of loans that were more than 60 days delinquent.
The following table sets forth information with respect to the Bank's non-performing assets for the periods indicated. During the periods indicated the Bank had no restructured loans within the meaning of SFAS No. 15.
During the years ended September 30, 1997, 1996, 1995, 1994 and 1993, approximately $22,833, $11,812, $11,593, $6,109, and $38,271, respectively would have been recorded on loans accounted for on a non-accrual basis if such loans had been current according to the original loan agreements for the entire period. These amounts were not included in the Bank's interest income for the respective periods. No interest income on loans accounted for on a non-accrual basis was included in income during any of these periods.
Classified Assets. Management, in compliance with regulatory guidelines, has instituted an internal loan review program, whereby loans are classified as special mention, substandard, doubtful or loss. When a loan is classified as substandard or doubtful, management is required to establish a general valuation reserve for loan losses in an amount that is deemed prudent. General allowances represent allowances which have been established to recognize inherent risk associated with lending activities, but which, unlike specific allowances, have not been allocated to particular problem assets. When management classifies a loan as "loss", a reserve equal to 100% of the loan balance may be established or the loan is charged-off.
An asset is considered "substandard" if it is inadequately protected by the paying capacity and net worth of the obligor or the collateral pledged, if any. "Substandard" assets include those characterized by the "distinct possibility" that the institution will sustain "some loss" if the deficiencies are not corrected. Assets classified as "doubtful" have all of the weaknesses inherent in those classified substandard, with the added characteristic that the weaknesses present make "collection or liquidation in full," "highly questionable and improbable," on the basis of currently existing facts, conditions, and values. Assets classified as "loss" are those considered "uncollectible" and of such little value that their continuance as assets without the establishment of a specific loss reserve is not warranted. Assets which do not currently expose the insured institution to a sufficient degree of risk to warrant classification in one of the aforementioned categories but possess credit deficiencies or potential weaknesses, including all loans over 60 days delinquent, are required to be designated "special mention" by management. The OTS has promulgated regulations that discontinue the classification of assets as special mention. However, the Bank continues to utilize this category.
Management's evaluation of the classification of assets and the adequacy of the reserve for loan losses is reviewed by regulatory agencies as part of their periodic examinations. At September 30, 1997, First Federal had total classified assets of $587,000 of which $491,000 were considered substandard, and no assets were classified as doubtful or loss. Special mention assets totaled $96,000 at September 30, 1997.
Allowance for Loan and Lease Losses and Foreclosed Real Estate. In making loans, First Federal recognizes that credit losses will be experienced and that the risk of loss will vary with, among other things, the type of loan being made, the creditworthiness of the borrower over the term of the loan, and in the case of a secured loan, the quality of the collateral for the loan. First Federal's management evaluates the need to establish reserves against losses on loans and other assets each quarter based on estimated losses on specific loans and on any real estate held for sale or investment when a finding is made that a loss is estimable and probable. Such evaluation includes a review of all loans for which full collectibility may not be reasonably assured and considers, among other matters, the estimated market value of the underlying collateral of problem loans, prior loss experience, economic conditions and overall portfolio quality. While management recognizes and charges against the allowance for loan losses accounts which are determined to be uncollectible, experience indicates that at any point in time, possible losses may exist in the loan portfolio which are not specifically identifiable. Therefore, based upon management's best estimate, each year an amount may be charged to earnings to maintain the allowance for loan losses at a level sufficient to recognize potential risk.
Impaired loans, including all loans that are restructured in a troubled debt restructuring involving a modification of terms, are measured at the present value of expected future cash flows discounted at the loan's initial effective interest rate. The fair value of the collateral of an impaired collateral-dependent loan or an observable market price, if one exists, may be used as an alternative to discounting. If the measure of the impaired loan is less than the recorded investment in the loan, impairment is recognized through the allowance for loan losses. A loan is considered impaired when, based on current information and events, it is probable that the Bank will be unable to collect all amounts due according to the contractual terms of the loan agreement.
First Federal believes it has established its existing allowance for loan losses in accordance with GAAP. However, there can be no assurance that banking regulators, in reviewing the Bank's loan portfolio, will not request First Federal to significantly increase its allowance for loan losses, or that a deteriorating real estate market or other unforeseen economic changes, may cause First Federal to significantly increase its allowance for loan losses, therefore negatively affecting First Federal's financial condition and earnings.
The following table sets forth information with respect to the Bank's allowance for loan losses at the dates indicated:
To further monitor and assess the risk characteristics of the loan portfolio, loan delinquencies are reviewed to consider any developing loan problems. Based upon the procedures in place, First Federal's experience regarding charge-offs and recoveries and the current risk elements in the portfolio, management believes the allowance for loan losses at September 30, 1997, is adequate. However, assessment of the adequacy of the allowance for loan losses involves subjective judgments regarding future events and thus there can be no assurance that additional provisions for loan losses will not be required in future periods.
The following table sets forth the breakdown by loan category of the allowance for loan losses.
Investment and Mortgage-backed Securities Activities
General. Federally-chartered thrift institutions have the authority to invest in various types of liquid assets, including United States Treasury obligations, securities of various Federal agencies, certain certificates of deposit of insured banks and savings institutions, certain bankers' acceptances, repurchase agreements, and loans on Federal Funds. To supplement lending activities, subject to various restrictions, First Federal invests a portion of its assets in commercial paper, corporate debt securities and asset-backed securities (e.g., mortgage-backed securities). A significant portion of First Federal's income during recent years has been attributable to interest income on such securities. The Corporation does not have the same investment limitations as the Bank.
Mortgage-backed and Related Securities. First Federal invests in residential mortgage-backed securities guaranteed by participation certificates issues by FHLMC and Government National Mortgage Association ("GNMA"). The mortgage-backed securities portfolio as of September 30, 1997, consisted primarily of fixed-rate certificates issued by the FHLMC ($7,000), GNMA ($63,000) and Real Estate Mortgage Investment Conduits ("REMICs") ($55.4 million).
At September 30, 1997, the carrying value of mortgage-backed and related securities held to maturity totaled $38.5 million, or 9.9% of total assets. The market value of such securities totaled approximately $37.5 million at September 30, 1997. First Federal also held $16.7 million of mortgage-backed and related securities that were classified available for sale.
Mortgage-backed securities represent a participation interest in a pool of single-family or multi-family mortgages, the principal and interest payments on which are passed from the mortgage originators, through intermediaries (generally quasi-governmental agencies) that pool and repackage the participation interest in the form of securities to investors such as the Bank. Such quasi-governmental agencies, which guarantee the payment of principal and interest to investors, primarily include FHLMC, FNMA, and GNMA.
Mortgage-backed securities typically are issued with stated principal amounts, and the securities are backed by pools of mortgages that have loans with interest rates that are within a range and have varying maturities. The underlying pool of mortgages is primarily composed of either fixed-rate mortgages or ARM loans. Mortgage-backed securities are generally referred to as mortgage participation certificates or pass-through certificates. As a result, the interest rate risk characteristics of the underlying pool of mortgages, (i.e. fixed rate or adjustable-rate) as well as prepayment risk, are passed on to the certificate holder. The life of a mortgage-backed pass-through security is equal to the life of the underlying mortgages. Mortgage-backed securities issued by FHLMC, FNMA, and GNMA make up a majority of the pass-through market.
Mortgage-backed securities provide for monthly payments of principal and interest and generally have contractual maturities ranging from five to thirty years. In periods of declining interest rates, payments on many mortgages is received faster than the contractual amount required, causing the estimated lives of mortgage-related securities to be significantly shorter than expected.
REMICs are typically issued by a special-purpose entity (the "issuer"), which may be organized in a variety of legal forms, such as a trust, a corporation, or a partnership. The entity aggregates pools of pass-through securities, which are used to collateralize the mortgage related securities. Once combined, the cash flows can be divided into "tranches" or "classes" of individual securities, thereby creating more predictable average duration for each security than the underlying pass-through pools. Accordingly, under this security structure all principal pay downs from the various mortgage pools are allocated to a mortgage-related class or classes structured to have priority until it has been paid off. Thus, these securities are intended to address the reinvestment concerns associated with mortgage-backed securities pass-through, namely that (i) they tend to pay off when interest rates fall, thereby taking their relatively high coupon with them, and (ii) their expected average life may vary significantly among the different tranches.
Some REMIC instruments are more like traditional debt instruments because they have stated principal amounts and traditionally defined interest rate terms. Purchasers of certain other REMIC securities are entitled to the excess, if any, of the issuer's cash inflows, including reinvestment earnings, over the cash outflows for debt service and administrative expenses. These mortgage related instruments may include instruments designated as residual interests, and are riskier in that they could result in the loss of a portion of the original investment. Cash flows from residual interests are very sensitive to prepayments and, thus, contain a high degree of interest-rate risk. Residual interests represent an ownership interest in the underlying collateral, subject to the first lien of the REMICs investors.
The REMICs held by First Federal at September 30, 1997, consisted of floating-rate tranches. The interest rate of all of the Bank's floating-rate securities adjusts monthly and provides the institution with net interest margin protection in an increasing market rate environment. The securities are backed by mortgages on one- to four-family residential real estate and have contractual maturities up to 30 years. None of the securities are deemed to be "High Risk" according to OTS guidelines. The securities are primarily companion tranches to "PACs" and "TACs". PACs and TACs (Planned and Targeted Amortization Classes) are designed to provide a specific principal and interest cash-flow. Principal payments that are received in excess of the amount needed for the PACs and TACs are allocated to the companion tranches. When the PACs and TACs are repaid in full, all principal is then used to pay the companion tranches. Although the timing of principal payments may be impacted by the amount of prepayments (the higher the level of prepayments, the sooner the principal will be received), all of the principal and interest payments are guaranteed.
Investment Securities. First Federal is required under federal regulations to maintain a minimum amount of liquid assets which may be invested in specified short-term securities and certain other investments. Liquidity levels may be increased or decreased depending upon the yields on investment alternatives and upon management's judgment as to the attractiveness of the yields then available in relation to other opportunities and its expectations of future yield levels, as well as management's projections as to the short-term demand for funds to be used in First Federal's loan origination and other activities. At
September 30, 1997, the carrying value of debt securities held to maturity totaled $37.9 million, or 9.8% of total assets. The market value of such securities totaled $37.1 million at September 30, 1997. These securities consisted mainly of U.S. Government Securities and U.S. government agency obligations. The Bank also held available for sale debt and equity securities with a market value of $1.0 million and $19.3 million respectively, at September 30, 1997.
The Investment Policy of First Federal, which is established by the Board of Directors, is designed to provide and maintain liquidity, to generate favorable return on investments without incurring undue interest rate and credit risk, and to compliment First Federal's lending activity. The policy currently provides for investments held to maturity and investments available for sale.
The amount of short-term securities in excess of regulatory requirements reflects management's strategy to provide interest rate adjustments for securities that are shorter than their maturity. It is the intention of management to maintain a repricing structure in the Bank's investment portfolio that better matches the interest rate sensitivities of its assets and liabilities. However, during periods of rapidly declining interest rates, such investments also decline at a faster rate than the yields on fixed-rate investments. Investment decisions are made within policy guidelines established by the Board of Directors. Unless loan demand increases, the Bank intends to maintain its investments at current levels.
Investment and Mortgage-backed Securities Portfolio. The following table sets forth the carrying value of First Federal's investment securities portfolio, short-term investments, FHLB stock, and mortgage-backed and related securities at the dated indicated. At September 30, 1997, the market value of the debt and equity securities portfolio (including securities available for sale) and mortgage-backed and related securities portfolio (including mortgage-backed securities available for sale) was $57.4 and $54.2 million, respectively.
- ------------------------------------------------------- (1) Consists of Federated ARMS Fund and preferred stock (2) Includes $38.5 million, $38.4 million and $37.0 million of REMICs as of September 30, 1997, 1996, and 1995, respectively.
The following table sets forth certain information regarding the carrying values, weighted average yields and maturities of the Bank's investment portfolio at September 30, 1997.
Deposits and Other Sources of Funds
General. Deposits are the major source of First Federal's funds for lending and other investment purposes. In addition to deposits, the Bank derives funds from loan and mortgage-backed securities principal payments, interest on investment securities, proceeds from the maturity of mortgage-backed securities and investment securities and borrowings. Loan and mortgage-backed securities payments are a relatively stable source of funds, while deposit inflows are significantly influenced by general interest rates and money market conditions. Borrowings may be used on a short-term basis to compensate for reductions in the availability of funds from other sources. They also may be used on a longer-term basis for general business purposes.
Deposits. First Federal offers a wide variety of deposit accounts. It constantly strives to meet consumers' needs by offering new products. This, in addition to interest rate risk management and asset/liability ratios, is taken into consideration prior to offering new products. Deposit account terms vary, primarily as to the required minimum balance amount, the amount of time that the funds must remain on deposit and the applicable interest rate.
First Federal's current deposit products include regular savings, demand deposits, NOW, money market and certificates of deposit accounts ranging in terms from ninety-one days to five years including certificates of deposit with negotiable interest rates and balances in excess of $100,000 (jumbo certificates), and Individual Retirement Accounts (IRAs). All checking and savings accounts are eligible for an Express Teller ATM card. This card can be used at any Express Teller, Fastbank, or Instant Cash ATM in Minnesota and surrounding states. With the addition of the Plus and Cirrus network automated banking system, First Federal's Express Teller ATM card can be used at thousands of ATM locations throughout the United States and the world.
Deposits are obtained primarily from residents in the Minnesota counties of McLeod, Dakota, Meeker, Sibley, Carver, Wright, Benton, Sherburne, Stearns and Washington. First Federal attracts deposit accounts by offering a wide variety of products, competitive interest rates, and convenient locations and service hours. The Bank uses traditional methods of advertising to attract new customers and deposits, including radio and print media advertising.
First Federal pays interest on its deposits which are competitive in its market. Interest rates on deposits are set weekly, based on a number of factors, including: (1) the previous week's deposit flow; (2) a current survey of a selected group of competitors' rates for similar products; (3) external data which may influence interest rates; (4) investment opportunities and loan demand; and (5) scheduled maturities.
The following table shows the amounts of First Federal's deposits by type of account at the dates indicated.
The following table sets forth the amount and maturities of time deposits at September 30, 1997.
The following table indicates the amount of the Bank's certificates of deposit of $100,000 or more by time remaining until maturity as of September 30, 1997.
Certificates of Maturity Period Deposits ------------- (In Thousands) Within three months $ 3,234 Three through six months 5,687 Six through twelve months 15,109 Over twelve months 6,908 ------------- $ 30,938 =============
Borrowings. Savings deposits are the primary source of funds for First Federal's lending and investment activities and for its general business purposes. The Bank, if the need arises, may rely upon advances from the FHLB of Des Moines to supplement its supply of lendable funds and to meet deposit withdrawal requirements. Advances from the FHLB of Des Moines are typically secured by First Federal's stock in the FHLB and a portion of First Federal's residential mortgage loans and other assets (principally securities which are obligations of or guaranteed by the U.S. Government). First Federal has an Open Line of Credit ("LOC") in the amount of $25.0 million with the FHLB, which had an outstanding balance of $8.0 million. The LOC requires an annual review and a commitment fee of 0.05%. The LOC is reviewed for renewal annually. The LOC is maintained in order to help meet on-going liquidity and cash flow needs of First Federal.
Advances have been utilized when adequate spreads can be obtained and the risk (credit risk, interest rate risk, and market risk) in the transaction minimized. Advances have been used to purchased mortgage-backed and related securities and to purchase single family residential mortgages originated by other financial institutions within the state of Minnesota.
The following table sets forth certain information as to the Bank's FHLB advances at the date indicated.
As of and for the Years Ended September 30, -------------------------------------- 1997 1996 1995 -------------------------------------- (Dollars in Thousands) Maximum balance $ 133,839 $ 114,693 $ 73,807 Average balance 120,093 90,408 52,688 Balance at end of period 133,817 114,693 73,807 Weighted average rate: at end of period 5.83% 5.88% 5.82% during the period 5.83% 5.91% 5.16%
It is First Federal's policy to fund loan demand and investment opportunities out of current loan and mortgage-backed securities repayments, investment maturities and new deposits. However, the Bank has utilized FHLB advances to supplement these sources. This policy may change in the future as investment opportunities are presented or loan demand increases.
Subsidiary Activity
First Federal is permitted to invest up to 2% of its assets in the capital stock of, in secured or unsecured loans to, subsidiary corporations, with an additional investment of 1% of assets when such additional investment is utilized primarily for community
development purposes. Under such limitations, as of September 30, 1997, First Federal was authorized to invest up to approximately $7.7 million in the stock of service corporations (based upon the 2% limitation). First Federal has one wholly-owned subsidiary, Firstate Services, Inc. ("FSI"). FSI was incorporated in the State of Minnesota in August, 1983, and is engaged in the sale, on an agency basis, of mutual funds, annuities and life, credit life and disability insurance products. As of September 30, 1997, the net book value of First Federal's investment in stock, unsecured loans, and conforming loans in its subsidiary was $151,977. For the fiscal year ended September 30, 1997, FSI had net income of $22,081.
Personnel
As of September 30,1997, First Federal had 70 full-time employees and 42 part-time employees, representing a total of 90.0 full-time equivalents. The employees are not represented by a collective bargaining agreement. First Federal believes its relationship with its employees is satisfactory.
Competition
First Federal faces strong competition in its attraction of savings deposits, which are its primary source of funding for lending, and in the origination of real estate loans. The Bank's competition for savings deposits and loans historically has come from other savings institutions and commercial banks located in First Federal's market area. However, in recent years, mortgage bankers have captured a larger share of the mortgage market. The size and number of mortgage bankers, as well as their decreased costs due to less regulatory oversight, has contributed to their growth. First Federal also faces competition for investor funds from credit unions, investment firms and insurance companies.
First Federal competes for loans and deposits by charging competitive interest rates and loan fees, remaining efficient, marketing aggressively and providing a wide range of services to its customers. First Federal offers all consumer banking services such as checking accounts, certificates of deposits, retirement accounts, consumer and mortgage loans and ancillary services such as convenient offices and drive-up facilities, automated teller machines and overdraft protection.
Bank Regulation
General First Federal is a federally chartered savings bank and a member of the FHLB of Des Moines. First Federal's deposits are insured by the FDIC through the SAIF. First Federal is subject to examination and regulation by the OTS and the FDIC with respect to most of its business activities, including, among others, lending activities, capital standards, general investment authority, deposit taking and borrowing authority, mergers and other business combinations, establishment of branch offices, and permitted subsidiary investments and activities. The OTS's operations, including examination activities, are funded by assessments levied on its regulated institutions.
First Federal is further subject to regulations of the Board of Governors of the Federal Reserve System (the "Federal Reserve Board") concerning reserves required to be maintained against deposits and certain other matters. Financial institutions, including the Bank, may also be subject, under certain circumstances, to potential liability under various statutes and regulations applicable to property owners generally, including statutes and regulations relating to the environmental condition of real property and the remediation thereof.
The descriptions of the statutes and regulations applicable to the Company and First Federal set forth below and elsewhere herein do not purport to be complete descriptions of such statutes and regulations and their effects on the Company and First Federal. Such descriptions also do not purport to identify every statute and regulation that may apply to the Company or the Bank.
The FDIC may terminate the deposit insurance of any insured depository institution if the FDIC determines, after a hearing, that the institution has engaged or is engaging in unsafe or unsound practices, is in an unsafe or unsound condition to continue operations or has violated any applicable law, regulation or order or any condition imposed in writing by the FDIC. In addition, FDIC regulations provide that any insured institution that falls below a 2% minimum leverage ratio will be subject to FDIC deposit insurance termination proceedings unless it has submitted, and is in compliance with, a capital plan with its primary federal regulator and the FDIC. The FDIC may also suspend deposit insurance temporarily during the hearing process if the institution has no tangible capital.
Federal Home Loan Bank System As a member of the FHLB System, First Federal is required to own capital stock in its regional FHLB, the FHLB of Des Moines, in an amount at least equal to the greater of 1% of the aggregate principal amount of its unpaid residential mortgage loans, home purchase contracts and similar obligations at the end of each year, or 5% of its outstanding borrowings from the FHLB of Des Moines. First Federal was in compliance with this requirement, with an investment of $6.7 million in FHLB of Des Moines stock at September 30, 1997.
The FHLB of Des Moines serves as a reserve or central bank for the member institutions within its assigned region, the Eighth FHLB District. It is funded primarily from proceeds derived from the sale of consolidated obligations of the FHLB System. It makes advances to members in accordance with policies and procedures established by the Federal Housing Finance Board and the Board of Directors of the FHLB of Des Moines.
Current law requires each FHLB to transfer a certain portion of its reserves and undivided profits to the Resolution Funding Corporation ("REFCORP"), the entity established to raise funds to resolve troubled thrift cases, to fund the principal and a portion of the interest on bonds issued by the REFCORP and certain other obligations. In addition, each FHLB is required to transfer 5% of its annual net earnings to fund certain affordable housing programs. That amount is scheduled to increase to at least 10% of its annual net income in 1996 and subsequent years. As a result of these requirements and other factors, the FHLB of Des Moines has experienced reduced earnings since these provisions became effective in 1989. It is anticipated that this may continue and that First Federal will continue to receive a reduced level of dividends on its FHLB of Des Moines stock in future periods. During 1997, 1996, and 1995, First Federal recorded dividend income of $417,929, $328,853, and $177,660, respectively, on its FHLB of Des Moines stock.
Insurance of Accounts The FDIC administers two separate deposit insurance funds. Generally, the Bank Insurance Fund (the "BIF") insures the deposits of commercial banks and the SAIF insures the deposits of savings institutions. The FDIC is authorized to increase deposit insurance premiums if it determines such increases are appropriate to maintain the reserves of either the SAIF or BIF or to fund the administration of the FDIC. In addition, the FDIC is authorized to levy emergency special assessments on BIF and SAIF members.
Community Reinvestment Act. The Community Reinvestment Act ("CRA") requires each savings institution, as well as commercial banks and certain other lenders, to identify the communities served by the institution and assess the credit needs of those communities. The CRA also requires the OTS to assess an institution's performance in meeting the credit needs of its identified communities as part of its examination of the institution, and to take such assessments into consideration in reviewing applications with respect to branches, mergers and other business combinations, and savings and loan holding company acquisitions. An unsatisfactory CRA rating may be the basis for denying such an application and community groups have successfully protested applications on CRA grounds. The OTS assigns CRA ratings of "outstanding, satisfactory, need to improve, or substantial noncompliance". First Federal was rated "outstanding" in its last CRA examination in May, 1996.
Regulatory Capital Requirement. The following table reflects, in both dollars and ratios, First Federal's regulatory capital position as of September 30, 1997, as well as the requirements at that date.
- --------------------------------------- (1) Based upon a percentage of adjusted total assets for tangible and core capital and a percentage of risk-adjusted assets for risk-based capital.
Beginning July 1, 1994, OTS regulated institutions are required to maintain additional risk-based capital equal to one-half of the amount by which the decline in its "net portfolio value" that would result from a hypothetical 200 basis point change (up or down, depending on which would result in the greater reduction in net portfolio value) in interest rates on its assets and liabilities exceeds 2% of the estimated "economic value" of its assets. The one exception to this general rule is that if the three month Treasury bond equivalent yield falls below 4%, an institution would measure the hypothetical downward change at one-half of that Treasury yield. An institution's "net portfolio value" is defined for this purpose as the difference between the aggregate expected future cash inflows from an institution's assets and the aggregate expected cash outflows on its liabilities, plus the net expected cash flows from existing off-balance sheet contract, each discounted to present value. The estimated "economic value" of an institution's assets is defined as the discounted present value of the estimated future cash flows from its assets. Both the "net portfolio value" and the "economic value" include, as specified in the regulation, the book value of assets and liabilities that are not interest rate sensitive. The OTS has stated that implementation of this amendment to its regulations will require additional capital to be maintained only by institutions having "above normal" interest rate risk. Based on the assets and
liabilities comprising First Federal's statement of financial condition as of September 30, 1997, there was no additional increase required in First Federal's minimum capital requirement.
Prompt Corrective Action. The Federal Deposit Insurance Corporation Improvement Act of 1989 ("FDICIA"), among other things, established a system of prompt corrective action to resolve problems of undercapitalized institutions. Under this system, the banking regulators are required to take certain supervisory actions against undercapitalized institutions, the severity of which depends upon the institution's degree of capitalization. Under the OTS final rule implementing the prompt corrective action provisions, an institution shall be deemed to be (i) "well capitalized" if it has total risk-based capital of 10.0% or more, has a Tier I risk-based capital ratio (core or leverage capital to risk-weighted assets) of 6.0% or more, has a leverage capital of 5.0% or more and is not subject to any order or final capital directive to meet and maintain a specific capital level for any capital measure, (ii) "adequately capitalized" if it has a total risk-based capital ratio of 8.0% or more, Tier I risk-based ratio of 4.0% or more and a leverage capital ratio of 4.0% or more (3.0% under certain circumstances) and does not meet the definition of well capitalized, (iii) "undercapitalized" if it has a total risk-based capital ratio that is less than 6.0%, a Tier I risk-based capital ratio that is less than 4.0% or a leverage capital ratio that is less than 4.0% (3.0% in certain circumstances), (iv) "significantly undercapitalized" if it has a total risk-based capital ratio that is less than 6.0%, a Tier I risk-based capital ratio that is less than 3.0% or a leverage capital ratio that is less than 3.0% and (v) "critically undercapitalized" if it has a ratio of tangible equity to total assets that is equal to or less than 2.0%. In addition, under certain circumstances, a federal banking agency may reclassify a well capitalized institution as adequately capitalized and may require an adequately capitalized institution or an undercapitalized institution to comply with supervisory actions as if it were in the next lower category (except that the OTS may not reclassify a significantly undercapitalized institution as critically undercapitalized). At September 30, 1997 First Federal was a "well capitalized institution" as defined in the prompt corrective action regulations and as such is not subject to any prompt corrective action measures.
Dividend and Other Capital Distribution Limitations. OTS regulations require the Bank to give the OTS 30 days advance notice of any proposed declaration of dividends to the Holding Company, and the OTS has the authority under its supervisory powers to prohibit the payment of dividends to the Holding Company. In addition, the Bank may not declare or pay a cash dividend on its capital stock if the effect thereof would be to reduce the regulatory capital of the Bank below the amount required for the liquidation account established in connection with its Conversion.
OTS regulations impose limitations upon all capital distributions by savings institutions, such as cash dividends, payments to repurchase or otherwise acquire its shares, payments to shareholders of another institution in a cash-out merger and other distributions charged against capital. The rule establishes three tiers of institutions, based primarily on an institution's capital level. An institution that exceeds all fully phased-in capital requirements before and after a proposed capital distribution ("Tier 1 institution") and has not been advised by the OTS that it is in need of more than the normal supervision can, after prior notice but without approval of the OTS, make capital distributions during a calendar year equal to the greater of (i) 100% of its net income to date during the calendar year plus the amount that would reduce by one-half its "surplus capital ratio" (the excess capital over its fully phased-in capital requirements) at the beginning of the calendar year, or (ii) 75% of its net income over the most recent four quarter period. Any additional capital distributions require prior regulatory approval. An institution is further limited in its ability to pay dividends as its capital levels decrease below its regulatory requirement. As of September 30, 1997, First Federal was a Tier 1 institution.
The OTS retains the authority to prohibit any capital distribution otherwise authorized under the regulation if the OTS determines that the capital distribution would constitute an unsafe or unsound practice. The regulation also states that the capital distribution limitations apply to direct and indirect distributions to affiliates, including those occurring in connection with corporate reorganizations.
Qualified Thrift Lender Test. The Home Owners' Loan Act, as amended ("HOLA"), requires savings institutions to meet a Qualified Thrift Lender ("QTL") test. If an institution maintains an appropriate level of Qualified Thrift Investments (primarily residential mortgages and related investments, including mortgage-backed securities) ("QTIs") on a monthly basis in nine out of every 12 months and otherwise qualifies as a QTL, it will continue to enjoy full borrowing privileges from the FHLB of Des Moines. The required percentage of QTIs is 65% of portfolio assets (defined as all assets minus intangible assets, property used by the institution in conducting its business and liquid assets equal to 10% of total assets). Certain assets are subject to a percentage limitation of 20% of portfolio assets. In addition, savings associations may include shares of stock of the FHLBs, FNMA and FHLMC as qualifying QTIs. As of September 30, 1997, First Federal was in compliance with its QTL requirement with 90.9% of assets invested in QTIs.
Loans-to-One Borrower. See "Lending Activities -- Loans-to-One Borrower."
Transactions with Affiliates. Generally, restrictions on transactions with affiliates require that transactions between a savings association or its subsidiaries and its affiliates be on terms as favorable to the Bank as comparable transactions with non-affiliates. In addition, certain of these transactions are restricted to an aggregate percentage of the Bank's capital; collateral in specified amounts must usually be provided by affiliates to receive loans from the Bank. Affiliates of the Bank include the
Company and any company which would be under common control with the Bank. In addition, a savings association may not lend to any affiliate engaged in activities not permissible for a bank holding company or acquire the securities of any affiliate which is not a subsidiary. The OTS has the discretion to treat subsidiaries of savings associations as affiliates on a case-by-case basis.
Branching by Federal Associations. Effective May 11, 1992, the OTS amended its Policy Statement on Branching by Federal Savings Associations to permit interstate branching to the full extent permitted by statute (which is essentially unlimited). This permits savings associations with interstate networks to diversify their loan portfolios and lines of business. The OTS authority preempts any state law purporting to regulate branching by federal associations. However, the OTS will evaluate a branch's record of compliance with the CRA. A poor CRA record may be the basis for denial of a branching application.
Federal Reserve System. The Federal Reserve Board requires all depository institutions to maintain non-interest bearing reserves at specified levels against their transaction accounts (primarily checking, NOW and Super NOW checking accounts) and non-personal time deposits. The balances maintained to meet the reserve requirements imposed by the Federal Reserve Board may be used to satisfy the liquidity requirements that are imposed by the OTS. At September 30, 1997, the Bank was in compliance with all applicable requirements.
Savings associations have authority to borrow from the Federal Reserve Bank "discount window," but Federal Reserve policy generally requires savings associations to exhaust all other sources before borrowing from the Federal Reserve System.
Holding Company Regulation
General. The Company is registered with the OTS as a unitary savings and loan holding company. As such, the Company is required to register and file reports with the OTS and is subject to regulation and examination by the OTS. In addition, the OTS has enforcement authority over the Company and its non-savings association subsidiaries, should such subsidiaries be formed, which also permits the OTS to restrict or prohibit activities that are determined to be a serious risk to the subsidiary savings association. This regulation and oversight is intended primarily for the protection of the depositors of the Bank and not for the benefit of stockholders of the Company. The Company also is required to file certain reports with, and otherwise comply with, the rules and regulations of the Securities and Exchange Commission ("SEC").
QTL Test. As a unitary savings and loan holding company, the Company generally is not subject to activity restrictions, provided the Bank satisfies the QTL test. If the Company acquires control of another savings association as a separate subsidiary, it would become a multiple savings and loan holding company, and the activities of the Company and any subsidiaries (other than the Bank or any other SAIF-insured savings association) would become subject to restrictions applicable to bank holding companies unless such other associations each also qualify as a QTL and were acquired in a supervisory acquisition.
Restrictions on Acquisitions. The Company must obtain approval from the OTS before acquiring control of any SAIF-insured association. Such acquisitions are generally prohibited if they result in a multiple savings and loan holding company controlling savings associations in more than one state. However, such interstate acquisitions are permitted based on specific state authorization or in a supervisory acquisition of a failing savings association.
Federal law generally provides that no "person," acting directly or indirectly or through or in concert with one or more other persons, may acquire "control," as that term is defined in OTS regulations, of a federally insured savings institution without giving at least 60 days' written notice to the OTS and providing the OTS an opportunity to disapprove the proposed acquisition. Such acquisitions of control may be disapproved if it is determined, among other things, that (a) the acquisition would substantially lessen competition; (b) the financial condition of the acquiring person might jeopardize the financial stability of the savings institution or prejudice the interest of its depositors; or (c) the competency, experience or integrity of the acquiring person or the proposed management personnel indicates that it would not be in the interest of the depositors or the public to permit the acquisitions of control by such person.
Subject to appropriate regulatory approvals, a bank holding company can acquire control of a savings association, and it controls a savings association, merge or consolidate the assets and liabilities of the savings association with, or transfer assets and liabilities to, any subsidiary bank which is a member of the BIF with the approval of the appropriate federal banking agency and the Federal Reserve Board. Generally, federal savings associations can acquire or be acquired by any insured depository institution.
Federal Securities Law. The Company's stock held by persons who are affiliates (generally officers, directors, and principal shareholders) of the Company may not be resold without registration or unless sold in accordance with certain sale restrictions. If the Company meets specified current public information requirements, each affiliate of the Company is able to sell in the public market, without registration, a limited number of shares in any three-month period.
ITEM 2.
ITEM 2. PROPERTIES
The Bank operates from its main office located at 201 Main Street South, Hutchinson, Minnesota. The Bank owns this 20,000 square feet office facility which it built in 1985/86. The total investment in property and equipment at 201 Main Street South had a net book value of $1.4 million at September 30, 1997.
Additional offices, either owned or leased by the Bank, are set forth below with information regarding net book value of the premises and equipment at such facilities at September 30, 1997.
(1) One year lease expires in April, 1998 with option to renew for one year terms thereafter. The Bank expects to renew the lease. (2) Lease expires in July, 1998 with option to renew for one year terms. The Bank expects to renew the lease. (3) Lease expires in September, 1998 with options to renew for five year terms
The Bank leases approximately 5,713 square feet of the property in Hastings, Minnesota to various tenants under three year operating leases. These leases expire April 14, 2000 and April 30, 1999. The annual rents total $39,698 in addition to each tenant's proportionate share of the operating expenses.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
First Federal, from time to time, is a party to legal proceedings in the ordinary course of business when it enforces security interests in loans made by it. The Bank is not engaged in any legal proceedings of a material nature at the present time.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
PART II
ITEM 5.
ITEM 5. MARKET FOR REGISTRANTS COMMON EQUITY AND RELATED STOCKHOLDERS MATTERS
Information relating to the market for Registrant's common equity and related stockholder matters appears under "Corporate Profile and Stock Market Information" in the Registrant's 1997 Annual Report to Stockholders on page 1, and is incorporated herein by reference.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA
The above-captioned information appears under "Selected Financial Data" in the Registrant's 1997 Annual Report to Stockholders on page 3 and is incorporated herein by reference.
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The above-captioned information appears under Management's Discussion and Analysis of Financial Condition and Results of Operations in the Registrant's 1997 Annual Report to Stockholders on Pages 5 through 15 and is incorporated herein by reference.
ITEM 7A.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
The above information appears under Management's Discussion and Analysis of Financial Condition and Results of Operations in the Registrant's 1997 Annual Report to Stockholders on pages 5 through 7 and is incorporated herein by reference.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The Consolidated Financial Statements of the Company and its subsidiary, together with the report thereon by Bertram Cooper & Co., LLP appears in the Bank's 1997 Annual Report to Stockholders on pages 16 through 37 and are incorporated herein by reference.
Quarterly Results of Operations on page 38 of the 1997 Annual Report to Stockholders is incorporated herein by reference.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURES
None.
PART III
ITEM 10.
ITEM 10. DIRECTORS AND OFFICERS OF THE REGISTRANT
The information contained under the section captioned "Information with Respect to Nominees for Director, Directors Continuing in Office, and Executive Officers" at pages 4 to 13 the Registrant's definitive proxy statement for the Company's Annual Meeting of Stockholders to be held on January 20, 1998 (the "Proxy Statement"), which was filed with the Commission on December 8, 1997, and incorporated herein by reference.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION
The information relating to executive compensation is incorporated herein by reference to the Registrant's Proxy Statement at pages 9 through 13.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information relating to security ownership of certain beneficial owners and management is incorporated herein by reference to the Registrant's Proxy Statement at pages 3 through 5.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information relating to certain relationships and related transactions is incorporated herein by reference to the Registrant's Proxy Statement at page 15.
PART IV
Item 14.
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K - -------------------------------------------------------------------------
(a) The following documents are filed as a part of this report:
(1) Consolidated Financial Statements of the Bank are incorporated by reference to the following indicated pages of the 1997 Annual Report to Stockholders.
PAGE ----
Independent Auditors' Report . . . . . . . . . . . . . . . . . . . 16 Consolidated Statements of Financial Condition as of September 30, 1997 and 1996 . . . . . . . . . . . . . . . . . 17 Consolidated Statements of Income for the Years Ended September 30, 1997, 1996 and 1995 . . . . . . . . . . . 18 Consolidated Statements of Changes in Stockholders' Equity for the Years Ended September 30, 1997, 1996 and 1995 . . . . . . . . 19 Consolidated Statements of Cash Flows for the Years Ended September 30, 1997, 1996 and 1995 . . . . . . . . . . . . . . 20 Notes to Consolidated Financial Statements . . . . . . . . . . . . 22
The remaining information appearing in the Annual Report to Stockholders is not deemed to be filed as part of this report, except as expressly provided herein.
(2) All schedules are omitted because they are not required or applicable, or the required information is shown in the consolidated financial statements or the notes thereto.
(3) Exhibits (a) The following exhibits are filed as part of this report.
2.1 Plan of Conversion Merger of Hutchinson and Hastings * 2.2 Agreement of Merger * 3.1 Articles of Incorporation of FSF Financial Corp. * 3.2 Bylaws of FSF Financial Corp. * 4.0 Stock Certificate of FSF Financial Corp. * 10.1 Form of Employment Agreement with Donald A. Glas, George B. Loban and Richard H. Burgart * 10.2 First Federal fsb Management Stock Plan** 10.3 FSF Financial Corp. 1995 Stock Option Plan** 11.0 Statement regarding computation of earnings per share *** 13.0 1997 Annual Report to Stockholders 21.0 Subsidiary Information 23.0 Consent of Accountant 27.0 Financial Data Schedule **** - --------------------- * Incorporated herein by reference into this document from the Exhibits to Form S-1, Registration Statement, initially filed with the Commission, on June 1, 1994, Registration No. 33-79570. ** Incorporated herein by reference into this document from the Registrant's proxy statement for the Annual Meeting of Stockholders held on January 17, 1995, and filed with the Commission on December 13, 1994. *** See the consolidated financial statements of the registrant in 1997 Report to Stockholders. **** Included with electronic filing only.
SIGNATURES
Pursuant to the requirements of Section 13 o4 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized.
FSF Financial Corp.
Dated: December 12, 1997 By: /s/ Donald A. Glas ------------------ Donald A. Glas Co-Chair of the Board and Chief Executive Officer (Duly Authorized Representative)
Pursuant to the requirement of the Securities Exchange Act of 1934, this Report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated,