Item 1. Business
General
BNCCORP, Inc. ("BNCCORP"), a Delaware corporation, is a multibank holding company registered under the Bank Holding Company Act of 1956 (the "BHCA") headquartered in Bismarck, North Dakota. BNCCORP (together with its consolidated subsidiaries, "BNC" or the "Company") provides a broad range of banking and financial services to small and mid-size businesses, private banking clients and consumers through its 17 facilities in North Dakota and Minnesota. BNCCORP operates primarily through its two commercial banking subsidiaries, BNC National Bank (together with its wholly-owned subsidiaries, BNC Insurance, Inc. and BNC Asset Management, Inc., "BNC--North Dakota"), which is headquartered in Bismarck and has 15 additional offices in North Dakota, and BNC National Bank of Minnesota ("BNC--Minnesota," together with BNC--North Dakota, the "Banks"), which is located in Minneapolis, Minnesota. On December 31, 1999, the Company sold its asset-based lending subsidiary, BNC Financial Corporation ("BNC Financial"). See Note 2 to the Consolidated Financial Statements included under Item 8 of Part II for further details related to the sale of BNC Financial.
Growth Strategy
BNCCORP was formed in 1987 with the objective of acquiring and improving the performance of strategically located banks in North Dakota. Since that time, the banking industry has undergone rapid change. Many non-bank competitors have entered into the banking business. The proliferation of non-bank competitors has resulted in the availability of a multitude of financial products and services. Technological advances have improved delivery systems and given customers immediate access to these products and services. To remain competitive in this rapidly changing environment, BNCCORP has expanded its objectives. See "--Products and Services." The Company is committed to moving into the future as a full-service provider of financial services including traditional banking, trust, asset management, brokerage, insurance, financial planning and other services.
BNC aims to achieve its objectives through expanded product and service offerings and an emphasis on customer service and local relationship banking with small and mid-size businesses, private banking clients and consumers. Management believes that the Company's entrepreneurial approach to banking and the introduction of new products and services will continue to attract small and mid-size businesses which often are not of sufficient size to be of interest to the larger banks in its market areas. See "--Market Areas." Such businesses frequently have difficulty finding banking services that meet their specific needs and have sought, and management believes will continue to seek, banking institutions that are more relationship-oriented.
Acquisitions have played an important role in BNC's growth strategy. The Company has completed several bank and non-bank acquisitions. The largest of these acquisitions was the Company's July 1995 acquisition of seven North Dakota branches, with aggregate deposits of approximately $104.8 million, from First Bank fsb. See Note 2 to the Consolidated Financial Statements included under Item 8 of Part II for a summary of mergers and acquisitions consummated during the three-year period ended December 31, 1999. Management believes that its increased product and service offerings and acquisitions have generated significant growth for the Company. BNC's total assets have increased from $118.0 million at December 31, 1992 to $456.9 million at December 31, 1999. The Company's goal continues to be the creation of a well-capitalized $500 million
to $1 billion financial services organization focused on local relationship banking. Efforts are ongoing to ensure that the executive management team and operating systems are in place to achieve this goal. The Company's management team combines experienced, conscientious overseers of traditional banking services with aggressive and innovative marketers and managers of diversified financial services. BNC will continue to emphasize internally-generated growth. The Company will also seek growth opportunities through acquisition of financial services companies or de novo branching in North and South Dakota, Minnesota and, possibly, Iowa, Nebraska and Wisconsin. The Company expanded its growth opportunities by opening a branch in Fargo, North Dakota during February 1999.
Segments
The Company has provided disclosure of financial and descriptive information about reportable operating segments, including revenues from external customers, a measure of profit or loss and total assets for each of the last three fiscal years in Note 20 to the Consolidated Financial Statements included under Item 8 of Part II.
Market Areas
BNC's primary market areas are the Bismarck/Mandan and Fargo (North Dakota) metropolitan areas, the Minneapolis/St.Paul (Minnesota) metropolitan area and the rural communities surrounding the branch offices of BNC--North Dakota (Crosby, Ellendale, Garrison, Kenmare, Linton, Stanley and Watford City, North Dakota). During 1999, BNC--Minnesota continued to generate loan growth in the Minnesota market area. BNC--North Dakota's Fargo branch also contributed to the Company's loan growth. As of December 31, 1999, 46 percent of the Company's loans were to borrowers located in North Dakota and 43 percent were to borrowers located in Minnesota. The remaining 11 percent represents loans to borrowers in other states. Other than brokered certificates of deposit and direct non-brokered certificates of deposit obtained through national deposit networks, each banking branch draws most of its deposits from its general market area. The following table presents total deposits and loans originated by segment and at each of BNC's geographic locations:
December 31, 1999 ----------------------- Year Opened or Total Loans Location Acquired Deposits Originated ----------------------------- ---------- ---------- ---------- (in thousands) BNC--North Dakota........... Bismarck................. 1990 $ 125,924 $ 124,852 Crosby................... 1995 18,702 191 Ellendale................ 1995 9,901 758 Fargo.................... 1999 7,939 8,541 Garrison................. 1995 14,292 292 Kenmare.................. 1995 15,900 180 Linton................... 1987 47,379 9,699 Stanley.................. 1995 14,597 502 Watford City............. 1995 11,306 115 BNC--Minnesota.............. 1996 58,771 117,124 BNCCORP (parent company)... 1987 -- 16 ---------- ---------- Total ................ $ 324,711 $ 262,270 ========== ==========
Products and Services
Loans. The Company's loans, generated by both the North Dakota and Minnesota segments, primarily consist of commercial and industrial loans, real estate mortgage loans, real estate construction loans, agricultural loans, consumer loans and lease financing. In allocating its assets among loans, investments and other earning assets, BNC attempts to maximize return while managing risk at acceptable levels. BNC's primary lending focus is on commercial loans and
owner-occupied real estate loans to small and mid-size businesses and professionals. The Company offers a broad range of commercial and retail lending services, including commercial revolving lines of credit, residential and commercial real estate mortgage loans, consumer loans and equipment financing. For more information on the lending activities of the Company, see "Management's Discussion and Analysis of Financial Condition and Results of Operations--Financial Condition--Loan Portfolio" included under Item 7 of Part II.
Interest rates charged on loans may be fixed or variable and vary with the degree of risk, loan term, underwriting and servicing costs, loan amount and the extent of other banking relationships maintained with customers. Rates are further subject to competitive pressures, the current interest rate environment, availability of funds and government regulations.
Deposits. Each of BNC's bank branches for both the North Dakota and Minnesota segments offers the usual and customary range of depository products provided by commercial banks, including checking, savings and money market deposits and certificates of deposit. During 1999, the Company introduced its Wealthbuilder NOW and money market deposit accounts into each of its markets. These are floating rate accounts indexed to the three-month Treasury Bill. The accounts have been well-received by the public and have enabled the Company to increase core deposits significantly. Deposits are insured by the Federal Deposit Insurance Corporation ("FDIC") up to statutory limits. The Banks also purchase brokered deposits and obtain direct non-brokered certificates of deposit through national deposit networks when such transactions are beneficial to the Banks. See "Management's Discussion and Analysis of Financial Condition and Results of Operations--Financial Condition--Deposits" included under Item 7 of Part II.
Trust and Financial Services. Since January 1997, BNC--North Dakota's Financial Services Division has provided a wide array of trust and other financial services. Such services include employee benefit and personal trust administration services, financial, tax, business and estate planning, estate administration, agency accounts, employee benefit plan design and administration, individual retirement accounts ("IRAs"), including custodial self-directed IRAs, asset management, tax preparation, accounting and payroll services.
Brokerage Services. BNC--North Dakota's subsidiary, BNC Asset Management, Inc., with offices in Bismarck, North Dakota and Minneapolis, Minnesota, provides access to trading, investment management of institutional and individual accounts, company-sponsored mutual funds and investment banking.
Insurance Services. Insurance services are offered through BNC--North Dakota's subsidiary, BNC Insurance, Inc. Such services include: personal insurance products such as home, automobile and other vehicle insurance, liability, and universal and mortgage life insurance; business insurance such as commercial property and general liability, workers' compensation, business automobile and excess liability coverage; bonds; life, health and annuities; farm and crop insurance; and commercial trucking insurance. The broad base of products and services offered by the Company provides opportunities to solidify customer relationships by meeting more of the banking and financial needs of the Company's current customer base. They also present opportunities to establish new customer relationships in the markets served by BNC.
Distribution Methods
BNC offers its banking and financial products and services through traditional industry distribution methods including its network of bank, branch and other offices. In addition, the Company offers 24-hour telephone banking services through its voice response system, BNC Bankline. The Company also provides cash management services to its commercial customers through its Xpress Cash Management system. This system allows customers to process funds transfers, wires, automated clearing house (ACH) transactions, stop payments and account history inquiries using their office computers and modems. During 1999, BNC--North Dakota obtained regulatory approval to operate mobile branches in the Bismarck and Fargo, North Dakota market areas. Once operational, these branches
are expected to be of great convenience to bank customers. The Company has also established an internet web site which is currently being used to provide corporate financial information, current investment news and stock prices. The Company anticipates that it will begin offering full Internet banking during 2000 in order to provide online banking to customers at any time and from anywhere.
Risk Management
The uncertainty of whether events, expected or otherwise, will have an adverse impact on the Company's capital or earnings is an inevitable component of the business of banking. To ensure that the risks inherent in BNC's business are identified, measured, controlled and monitored, the Company has established a management committee composed of senior management from across the organization (the "Management Committee"). The Management Committee is responsible for determining the desired risk profile of the Company, allocating resources to the lines of business, approving major investment programs that are consistent with strategic priorities and risk appetite and making capital management decisions to appropriately fund the Company's portfolio of investments. The Management Committee addresses each of the major risk categories identified by the banking regulators, if applicable, as well as any additional identified risks inherent in the Company's business. Such risks include, but are not limited to, credit, liquidity, interest rate, transaction, compliance, strategic and reputation risk. In each identified risk area, the Management Committee measures the level of risk to the Company based on the business it conducts and develops plans to bring risks within acceptable tolerances. See "Management's Discussion and Analysis of Financial Condition and Results of Operations--Financial Condition--Loan Portfolio and --Liquidity, Market and Credit Risk" included under Item 7 of Part II and Item 7a of Part II, "Quantitative and Qualitative Disclosures About Market Risk," for further discussion of credit, liquidity and interest rate risk.
Competition
The deregulation of the banking industry, the increasing number of state laws that permit multi-bank holding companies and the increasing availability of nationwide interstate banking have heightened the level of competition in an already intensely competitive market. The North Dakota and Minnesota market areas are highly competitive banking environments. Competition is encountered in seeking deposits, obtaining loan customers and in providing all of the other banking and financial products and services offered by BNC. Principal competitors include multi-regional financial institutions such as Norwest Corporation, U.S. Bancorp and Community First Bankshares, Inc. as well as large and small thrifts, independent banks, credit unions and many national and regional brokerage houses. BNC also competes with other non-bank financial institutions, including retail stores that maintain their own credit programs and government agencies that make low cost or guaranteed loans available to certain borrowers. Some of these competitors have substantially greater resources and lending limits than BNC, and may offer certain services that BNC does not provide. In addition, some of the non-bank financial institutions that compete with BNC are not subject to the extensive federal regulations that govern BNC. Management believes that many competitors have emphasized retail banking and financial services, leaving the small and mid-size business market underserved. This has allowed BNC to compete effectively by emphasizing customer service, establishing long-term customer relationships and providing services meeting the needs of such businesses and the individuals associated with them. The banking and financial services industries are highly competitive, and the future profitability of the Company will depend on its ability to continue to compete successfully in its market areas. See "Supervision and Regulation--Recently Enacted Legislation."
Supervision and Regulation
General. BNCCORP and the Banks are extensively regulated under federal and state laws and regulations. These laws and regulations are primarily intended to protect depositors and the federal deposit insurance funds, not investors in the securities of BNCCORP. The following information briefly summarizes certain material statutes and regulations affecting BNCCORP and the Banks and is
qualified in its entirety by reference to the particular statutory and regulatory provisions. Any change in applicable laws, regulations or regulatory policies may have a material effect on the business, operations and prospects of BNCCORP and the Banks. The Company is unable to predict the nature or extent of the effects that fiscal or monetary policies, economic controls or new federal or state legislation may have on its business and earnings in the future. See "--Recently Enacted Legisation."
Primary Regulators. BNCCORP is a bank holding company registered under the BHCA, and is subject to regulation, supervision and examination by the Board of Governors of the Federal Reserve System ("FRB"). BNCCORP is required to file periodic reports with the FRB and such other reports as the FRB may require pursuant to the BHCA. The Banks are national banking associations and are subject to supervision, regulation and examination by the Office of the Comptroller of the Currency ("OCC"). Since the deposits of the Banks are insured by the FDIC, the Banks are also subject to regulation and supervision by the FDIC. Additionally, the Banks are members of the Federal Reserve System.
Acquisitions and Permissible Activities. As a registered bank holding company, BNCCORP is restricted in its acquisitions, certain of which are subject to approval by the FRB. A bank holding company may not acquire, or may be required to give certain notice regarding acquisitions of, companies considered to engage in activities other than those determined by the FRB to be closely related to banking or managing banks.
Transactions with Affiliates. Under Section 23A of the Federal Reserve Act (the "Act"), certain restrictions are placed on loans and other extensions of credit by the Banks to BNCCORP who is defined as an "affiliate" of the Banks under the Act. Section 23B of the Act places standards of fairness and reasonableness on other of the Banks' transactions with their affiliates.
Anti-Tying Restrictions. Bank holding companies and their affiliates are prohibited from tying the provision of certain services, such as extensions of credit, to other services offered by a holding company or its affiliates.
Restrictions on Loans to One Borrower. Under federal law, permissible loans to one borrower by banks are generally limited to 15 percent of the bank's unimpaired capital, surplus, undivided profits and credit loss reserves. The Banks seek participations to accommodate borrowers whose financing needs exceed their lending limits.
Loans to Executive Officers, Directors and Principal Stockholders. Certain limitations and reporting requirements are also placed on extensions of credit by the Banks to principal stockholders of BNCCORP and to directors and certain executive officers of the Banks (and BNCCORP and its nonbank subsidiaries provided certain criteria are met) and to "related interests" of such principal stockholders, directors and officers. In addition, any director or officer of BNCCORP or the Banks or principal stockholder of BNCCORP may be limited in his or her ability to obtain credit from financial institutions with which the Banks maintain correspondent relationships.
Interstate Banking and Branching. Interstate banking and branching provisions of federal and state laws may place certain limitations on expansion by bank holding companies or banks.
Capital Adequacy. The capital adequacy of BNCCORP and the Banks is monitored by the federal regulatory agencies using a combination of risk-based and leverage ratios. Failure to meet the applicable capital guidelines could subject BNCCORP or the Banks to supervisory or enforcement actions. In addition, BNCCORP could be required to guarantee a capital restoration plan of one or more of its Banks, should such Banks become "undercapitalized" under capital guidelines. See Note 11 to the Consolidated Financial Statements included under Item 8 of Part II for further discussion regarding the capital status of BNCCORP and its subsidiaries.
Dividend Restrictions. Federal rules also limit a bank's ability to pay dividends to its parent bank holding company in excess of certain amounts or if the payment would result in the bank being considered "undercapitalized" under capital guidelines.
Community Reinvestment Act. Under the Community Reinvestment Act ("CRA"), the Banks are encouraged to respond to the credit and other needs of the communities they serve. Bank performance under the CRA is periodically tested and the federal bank regulatory agencies consider CRA ratings in connection with acquisitions involving the change in control of a financial institution.
Deposit Insurance. FDIC-insured depository institutions that are members of the FDIC's Bank Insurance Fund and Savings Association Insurance Fund pay insurance premiums at rates based on their assessment risk classification, which is determined in part based on the Bank's capital ratios and in part on factors that the FDIC deems relevant to determine the risk of loss to the insurance funds. The Banks also pay additional assessments that are used to pay certain Financing Corporation obligations issued between 1987 and 1989 to resolve failed savings and loan associations.
Cross-Guarantee. The Financial Institutions, Reform, Recovery and Enforcement Act of 1989 provides for cross-guarantees of the liabilities of insured depository institutions pursuant to which any bank subsidiary of a bank holding company may be required to reimburse the FDIC for any loss or anticipated loss to the FDIC that arises from a default of any of such holding company's other subsidiary banks or assistance provided to such an institution in danger of default.
Support of Banks. Bank holding companies are also subject to the "source of strength doctrine" which requires such holding companies to serve as a source of "financial and managerial" strength for their subsidiary banks.
Conservator and Receivership Powers. Federal banking regulators have broad authority to place depository institutions into conservatorship or receivership to include, among other things, appointment of the FDIC as conservator or receiver of an undercapitalized institution under certain circumstances. If either of the Banks was placed into conservatorship or receivership, because of the cross-guarantee provisions of the Federal Deposit Insurance Act, as amended, BNCCORP, as the sole stockholder of the Bank, would likely lose its investment in the Bank.
Consumer Laws and Regulations. In addition to the laws and regulations discussed herein, the Banks are also subject to certain consumer laws and regulations that are designed to protect customers in transactions with banks. These include, but are not limited to, the Truth in Lending Act, the Truth in Savings Act, the Electronic Funds Transfer Act, the Expedited Funds Availability Act, the Equal Credit Opportunity Act and the Fair Housing Act. These laws mandate certain disclosure requirements and regulate the manner in which financial institutions must deal with customers when taking deposits or making loans to such customers.
Recently Enacted Legislation. In November 1999, President Clinton signed into law the Gramm-Leach-Bliley Act, wide-reaching legislation which modernizes the laws governing the financial services industry (the "Financial Modernization Act"). This comprehensive legislative package contains provisions of benefit to the banking industry, including language which expands the powers of banks and bank holding companies to sell any financial product or service, closes the unitary thrift loophole, reforms the Federal Home Loan Bank ("FHLB") System to increase community banks' access to loan funding, protects banks from discriminatory state insurance regulation and establishes a new framework for the regulation of bank and bank holding company securities brokerage and underwriting activities. The law also includes new provisions in the privacy area, restricting the ability of financial institutions to share nonpublic personal customer information with third parties.
The Company is in the process of reviewing the provisions of the Financial Modernization Act as well as related implementing regulations as these regulations are being released by the respective bank regulatory or other federal agencies. A comprehensive action plan for implementing the new law and
regulations is in the process of being developed. This plan will include such revisions to BNC's operations, policies and procedures as are deemed appropriate to ensure compliance with the new legislation and its implementing regulations.
Changing Regulatory Structure. The FRB, OCC and FDIC have extensive authority to police unsafe or unsound practices and violations of applicable laws and regulations by depository institutions and their holding companies. The agencies' authority has been expanded by federal legislation in recent years. In addition, the North Dakota Department of Banking and Financial Institutions and the Minnesota Department of Commerce possess significant authority to address violations of their respective state's banking laws by banks operating in their respective states by enforcement and other supervisory actions. Additionally, under the Financial Modernization Act some bank and bank holding company securities brokerage activities could become regulated by the Securities and Exchange Commission.
As indicated above, the laws and regulations affecting banks and bank holding companies have changed significantly in recent years, and there is reason to expect that changes will continue in the future, although it is difficult to predict the outcome of these changes.
Monetary Policy. The monetary policy of the FRB has a significant effect on the operating results of bank holding companies and their subsidiaries. The FRB uses the various means at its disposal to influence overall growth and distribution of bank loans, investments and deposits and interest rates charged on loans or paid on deposits. FRB monetary policies have materially affected the operations of commercial banks in the past and are expected to continue to do so in the future. The nature of future monetary policies and the effect of such policies on the business and earnings of BNCCORP and its subsidiaries cannot be predicted.
Employees
At December 31, 1999, BNC had 190 employees, including 179 full-time equivalent employees. None of BNC's employees is covered by a collective bargaining agreement and management believes that its relationship with its employees is good.
Item 2.
Item 2. Properties
The principal offices of BNCCORP and BNC--North Dakota are located in BNC's main office building at 322 East Main Avenue, Bismarck, North Dakota. The building is owned by BNC--North Dakota. BNC--North Dakota also owns branch offices at 219 South 3rd Street and 807 East Century Avenue and an additional office building at 116 North 4th Street in Bismarck. It also owns its banking facilities in Linton, Crosby, Ellendale, Kenmare and Stanley, North Dakota as well as a temporary facility located on its permanent site in Fargo, North Dakota. The Company plans to complete construction of a permanent facility in Fargo by May 2000.
BNC--North Dakota's facilities at 100 West Main Street (Mandan), 500 North 9th Street (Bismarck), Watford City and Garrison, North Dakota and the land at South 3rd Street (Bismarck) are leased. BNC-North Dakota is also leasing a facility at 4656 Amber Valley Parkway in Fargo, pending completion of its permanent facility to be located at 3137 32nd Avenue SW. The facilities occupied by BNC--Minnesota and BNC Asset Management, Inc. at 333 South Seventh Street, Minneapolis, Minnesota are also leased.
All owned and leased properties are considered in good operating condition and, except for the Fargo location, are believed adequate for the Company's present and foreseeable future operations. BNC does not anticipate any difficulty in leasing additional suitable space upon expiration of present lease terms. See Note 16 to the Consolidated Financial Statements included under Item 8 of part II for additional information concerning lease and other commitments and construction of the Fargo facility.
Item 3.
Item 3. Legal Proceedings
The Company's material pending legal actions are discussed in Note 17 to the Consolidated Financial Statements included under Item 8 of Part II and are incorporated herein by reference.
The Company is currently not a party to any other material legal proceedings. Periodically, and in the ordinary course of business, various claims and lawsuits which are incidental to BNC's business may be brought against or by BNC, such as claims to enforce liens, condemnation proceedings on properties in which BNC holds security interests, claims involving the making and servicing of real property loans and other issues incidental to the Company's business. In the opinion of management, the resolution of these matters will not have a material adverse effect on the Company's financial position or results of operations.
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 quarter ended December 31, 1999.
PART II
Item 5.
Item 5. Market for the Registrant's Common Equity and Related Stockholder Matters
BNCCORP's common stock, $.01 par value ("Common Stock"), is traded on the Nasdaq Stock Market under the symbol "BNCC".
The following table lists the high and low sales prices of the Common Stock for the periods indicated as reported by the Nasdaq Stock Market. The quotes represent "inter-dealer" prices without adjustment or mark-ups, mark-downs or commissions and may not represent actual transactions.
January 1 - Current date For the Years Ended December 31, ------------------------ ----------------------------------- 2000 1999 1998 ------------------------ ---------------- ----------------- Period High Low High Low High Low ----------- ------------ ------- ------- ------- ------- First Quarter...... $ 7.25 $ 5.81 $ 11.25 $ 8.63 $ 20.50 $ 16.25 Second Quarter..... -- -- $ 9.38 $ 7.63 $ 23.25 $ 16.88 Third Quarter...... -- -- $ 9.00 $ 7.25 $ 19.00 $ 12.88 Fourth Quarter..... -- -- $ 8.25 $ 5.75 $ 13.00 $ 9.00
On March 15, 1999, there were 110 record holders and approximately 1,300 beneficial owners of the Company's Common Stock.
BNCCORP's policy is to retain its earnings to support the growth of its business. The board of directors of BNCCORP has never declared cash dividends on its Common Stock and does not plan to do so in the foreseeable future. The ability of BNCCORP to pay cash dividends largely depends on the amount of cash dividends paid to it by the Banks. Capital distributions, including dividends, by the Banks are subject to federal regulatory restrictions tied to each institution's earnings and capital. See "Supervision and Regulation--Dividend Restrictions" included under Item 1 of Part I.
Item 6.
Item 6. Selected Financial Data
The selected consolidated financial data presented below under the captions "Income Statement Data" and "Balance Sheet Data" as of and for the years ended December 31, 1999, 1998, 1997, 1996 and 1995 are derived from the historical audited consolidated financial statements of the Company. The Consolidated Balance Sheets as of December 31, 1999, 1998, 1997 and 1996 and the related Consolidated Statements of Income, Comprehensive Income, Stockholders' Equity and Cash Flows for each of the five years in the period ended December 31, 1999
were audited by Arthur Andersen LLP, independent public accountants. The financial data below should be read in conjunction with and are qualified by the Consolidated Financial Statements and the notes thereto included under Item 8.
- ------------------------- (1) From continuing operations for all periods presented. (2) Based on total common shares outstanding of 2,399,980. (3) Based on total common shares outstanding of 2,390,184. (4) Based on total common shares outstanding of 2,402,126
Item 7.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
Overview
The Company's financial performance in 1999 reflected the growing customer acceptance of BNC's broadened financial services offerings as well as an expanding deposit base, although the benefits of the deposit growth were more than offset by changes in market interest rates. Net interest income for the year ended December 31, 1999, was $12.4 million, as compared with $12.6 and $12.1 million reported in the previous two years. Noninterest income, largely from insurance commissions, loan fees and brokerage income, rose sharply to $6.1 million in 1999 from $4.8 and $3.9 million in 1998 and 1997, respectively, due primarily to the dramatic growth of BNC's insurance and brokerage businesses.
1999 results reflected a one-time $438,000 gain on the sale of the Company's former asset-based lending subsidiary, as well as $2.3 million in write-downs to the value of certain nonperforming assets. The Company sold BNC Financial effective December 31, 1999. The Company recorded 1999 net income of $242,000, or $0.10 per share on a diluted basis, compared with net income of $2.3 million, or $0.91 per share (diluted), for 1998 and net income of $1.4 million, or $0.59 per share (diluted), for 1997.
Performance highlights include:
*Deposits increased 14 percent during 1999, to $324.7 million; the growth was driven by the introduction of the Wealthbuilder family of indexed NOW and money market accounts and the opening of BNC-North Dakota's Fargo branch.
*Loans and leases increased 6 percent, to $262.1 million due primarily to loan growth in the Fargo and Minneapolis markets.
*Total assets increased 15 percent, to $456.9 million.
*Long-term debt was reduced by $24.5 million during the 4th quarter of 1999; the Company used proceeds from the sale of BNC Financial to pay down long-term debt which had been incurred primarily for purposes of funding BNC Financial's asset-based loan portfolio.
Results of Operations
Net Interest Income. Net interest income, the difference between total interest income earned on earning assets and total interest expense paid on interest-bearing liabilities, is the Company's principal source of earnings. The amount of net interest income is affected by changes in the volume and mix of earning assets, the level of rates earned on those assets, the volume and mix of interest-bearing liabilities and the level of rates paid on those liabilities.
The following table sets forth, for the periods indicated, certain information relating to BNC's average balance sheets and reflects the yield on average assets and costs of average liabilities. Such yields and costs are derived by dividing income and expense by the average balance of assets and liabilities. All average balances have been derived from monthly averages which are indicative of daily averages.
--------------------
(1) From continuing operations for all periods presented.
(2) Interest income does not include loan origination fees other than those amortized and included as an adjustment to loan yield as required under Statement of Financial Accounting Standards No. 91, "Accounting for Nonrefundable Fees and Costs Associated with Originating or Acquiring Loans and Initial Direct Costs of Leases." Average nonaccrual loans are included in average loans outstanding.
(3) Yields do not include adjustments for tax-exempt interest because such interest is not material.
The following table illustrates, for the periods indicated, the dollar amount of changes in BNC's interest income and interest expense for the major components of interest-earning assets and interest-bearing liabilities and distinguishes between the increase related to higher outstanding balances and the volatility of interest rates. Changes in net interest income due to both volume and rate have been included in the changes due to rate:
- ---------------------- (1) From continuing operations for all periods presented.
Year ended December 31, 1999 compared to year ended December 31, 1998. Net interest income decreased $292,000, or 2.3 percent, to $12.4 million as compared to $12.6 million. Net interest spread and net interest margin declined to 3.09 and 3.41 percent, respectively. The following condensed information summarizes the major factors combining to create the changes to net interest income, spread and margin. Lettered explanations following the summary describe causes of the changes in these major factors.
- -------------------- (1) From continuing operations for all periods presented.
(a) Loan growth primarily attributable to increases in loans originated at BNC-Minnesota and BNC-North Dakota's Fargo location.
(b) The Company has increased its investment securities holdings primarily through FHLB borrowings.
(c) The decreased loan yield is reflective of the 75 basis point decline in the prime rate late in 1998 as well as a decrease in loan pricing spread to prime rate due to competitive pressures in all markets.
(d) Deposit growth primarily attributable to the introduction of the Wealthbuilder NOW and money market accounts.
(e) Increased FHLB borrowings for the purpose of purchasing investment securities.
(f) Reduced costs on certificates of deposit ("CDs") caused by the overall decreased rate environment and related lower CD renewal and offering rates. These rate reductions were somewhat offset by increased costs in the NOW and money market deposit category (related to the Wealthbuilder accounts).
(g) Rates are reflective of the overall decreased rate environment.
Net interest income and margin in future periods are expected to be impacted by several factors. Recent increases in the prime rate will improve interest income and yields on loans. Additionally, the Company has increased its earning asset portfolio by purchasing investment securities funded primarily through FHLB borrowings. While the additional investments will increase interest income, net interest income and earnings, they can be expected to negatively impact yield on earning assets and net interest margin because yields on such investments are typically lower than those achieved in the loan portfolio.
Many factors, including, but not limited to, the competitive environment in the markets in which the Company operates, the multitude of financial and investment products available to the public and the monetary policies of the FRB, can materially impact the Company's operating results. Therefore, management cannot predict, with any degree of certainty, prospects for net interest income in future periods. See "Supervision and Regulation Monetary Policy" included under Item 1 of Part I. See also Item 7a, "Quantitative and Qualitative Disclosures About Market Risk," for information relating to the impact of fluctuating interest rates on the Company's net interest income.
Year ended December 31, 1998 compared to year ended December 31, 1997. Net interest income increased $549,000, or 5 percent, to $12.6 million as compared to $12.1 million. Net interest spread and net interest margin declined to 3.43 and 3.88 percent, respectively. The following condensed information summarizes the major factors combining to create the changes to net interest income, spread and margin. Lettered explanations following the summary describe causes of the changes in these major factors:
- -------------------- (1) From continuing operations for all periods presented.
(a) Loan growth primarily attributable to increases in loans originated at BNC-Minnesota.
(b) Increase in average taxable investments is primarily attributable to the purchase of $18.8 million of fixed rate mortgage-backed securities late in 1997 as part of an interest rate risk management strategy.
(c) 75 basis point decline in prime rate late in 1998 coupled with decreases in loan pricing spread to prime rate due to competitive pressures in all markets.
(d) Primarily attributable to the significant decrease in the Treasury yield curve that occurred during the second half of 1998 and the reinvestment of cash flows from maturing mortgage-backed securities and other investments at then current, lower rates.
(e) Average loans increased by 9 percent. However, average taxable investments increased by $22.7 million, or 35 percent. Late in 1997, the Company purchased $18.8 million of fixed rate mortgage-backed securities funded with an advance from the FHLB as part of an interest rate risk management strategy.
(f) Deposit growth from both BNC-North Dakota and BNC-Minnesota, primarily money market deposit accounts.
(g) The Company relied more heavily on borrowings to fund growth, including increased FHLB borrowings. The borrowing rates charged by the FHLB were often cost effective compared to offering top of market rates for time CD's. Increase also reflects issuance of the Company's 8 5/8 percent Subordinated Notes in May 1997 (outstanding 12 months during 1998 versus 7 months during 1997).
(h) Increased reliance on borrowing caused a higher percentage of the interest-bearing liabilities portfolio to be comprised of borrowings with generally higher costs than interest-bearing deposits. However, the borrowing rates charged by the FHLB were often cost effective compared to offering top of market rates for time certificates of deposits, although these borrowing rates are higher than costs of interest-bearing checking and money market accounts.
(i) Lower overall average cost on federal funds purchased and FHLB borrowings due to 75 basis point decline in federal funds rate late in 1998 along with a similar decrease in rates at the FHLB.
Provision for Credit Losses. Management determines a provision for credit losses which it considers sufficient to maintain the Company's allowance for credit losses at a level considered adequate to provide for an estimate of probable losses related to specifically identified loans as well as probable losses inherent in the remaining loan and lease portfolio that have been incurred as of each balance sheet date. See Note 1 to the Consolidated Financial Statements included under Item 8 and "--Financial Condition--Loan Portfolio--Allowance for Credit Losses" for further discussion of the components of the allowance for credit losses and the Company's methodology for assessing the adequacy of the allowance.
The provision for credit losses for the year ended December 31, 1999 was $1.1 million as compared to $1.2 million in 1998 and $2.5 million in 1997.
Noninterest Income. The following table presents, for the periods indicated, the major categories of the Company's noninterest income as well as the amount and percent of change between each of the periods presented. Related information and material changes are discussed in lettered explanations following the table:
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(1) From continuing operations for all periods presented.
(a) Increased insurance commissions resulted from an increase in the average number of insurance producers as well as successful efforts to cross-sell insurance to bank customers.
(b) The increase in loan fees is largely attributable to loans generated and sold by BNC-Minnesota. Management cannot predict with any degree of certainty the amount of loans which will be originated and related loan fees which will be recognized in future periods.
(c) Increase is attributable to the addition of brokerage staff in BNC-North Dakota's subsidiary, BNC Asset Management, Inc.
(d) Proceeds from securities sold were $58.9 million in 1998 as compared to $27.2 million in 1997. See Note 4 to the Consolidated Financial Statements included under Item 8 for further information related to sales of investment securities.
(e) The increase in other noninterest income in 1998 was attributable to a combination of factors including increased revenue from trust and other professional services and increased income from automated teller machines.
Noninterest Expense. The following table presents, for the periods indicated, the major categories of the Company's noninterest expense as well as the amount and percent of change between each of the periods presented. Related information and material changes are discussed in lettered explanations below the table:
- -------------------- (1) From continuing operations for all periods presented.
(a) Increases represent personnel additions at BNC Asset Management, Inc., BNC Insurance, Inc. and BNC-North Dakota's Fargo branch as well as related occupancy, supplies, telephone, postage and other miscellaneous expenses.
(b)Write-downs to estimated net realizability of other real estate owned and repossessed assets.
(c) Increase in the amount of fixed assets being depreciated including assets related to BNC Asset Management, Inc. and BNC-North Dakota's Fargo branch.
(d)Increase represents an increase in brokerage costs at BNC Asset Management, Inc., legal fees related to the proceedings against a former loan officer and other costs associated with other real estate owned and repossessed assets.
(e) Increased advertising, public relations and promotional expenses, including fees paid to an investor relations firm engaged late in 1998.
(f) Noninterest expense divided by an amount equal to net interest income plus noninterest income. Management does not expect this negative trend in efficiency ratio will continue. Noninterest expense for 1999 included $2.3 million in write-downs of nonperforming assets. Excluding these write-downs, the efficiency ratio for 1999 would have been 86.53 percent. Additionally, during the third quarter of 1999, the Company reorganized. Average full time equivalent employees for the fourth quarter of 1999 and for the first two months of 2000 were 177 as compared to 198 for the third quarter of 1999. The year-to-date efficiency ratio for 2000 through the month of February was 79.01 percent. For the month of February 2000, the efficiency ratio was 75.41 percent, an improvement over both the adjusted 1999 and 1998 ratios.
Financial Condition
Investment Securities. BNC's investment policy is designed to enhance net income and return on equity through prudent management of risk, ensure liquidity for cash-flow requirements, help manage interest rate risk, ensure collateral is available for public deposits, advances and repurchase agreements and manage asset diversification. In managing the portfolio and the composition of the entire balance sheet, the Company seeks a balance among earnings, credit and liquidity considerations, with a goal of maximizing the longer-term overall profitability of the Company.
Investments are centrally managed in order to maximize compliance (federal laws and regulations place certain restrictions on the amounts and types of investments BNC may hold) and effectiveness of overall investing activities. The primary goal of BNC's investment policy is to contribute to the overall profitability of the Company. The objective is to purchase and own securities and combinations of securities with good risk/reward characteristics. "Good" risk/reward securities are those identified through thorough analysis of the cash flows and potential cash flows as well as market value and potential market value of the security in question given various interest rate scenarios. Investment strategies are developed in light of constant view of the Company's overall asset/liability position. As it relates to investment strategies, the focus of the Asset/Liability management committee is to determine the impact of interest-rate changes on both future income and market value of securities in the portfolio. See Item 7a, "Quantitative and Qualitative Disclosures about Market Risk," for additional information relating to the impact of fluctuating interest rates on the Company's net interest income.
The following table presents the composition of the investment portfolio by major category as of the dates indicated:
- --------------------- (1) From continuing operations for all periods presented.
The following table presents maturities for all securities available for sale (other than equity securities) and yields for all securities in the Company's investment portfolio at December 31, 1999:
Investment Portfolio -- Maturity and Yields
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(1)Yields do not include adjustments for tax-exempt interest because such interest is not material; yields also do not reflect changes in fair value that are reflected as a separate component of stockholders' equity (except as noted in (4) below).
(2) Based on amortized cost/book value.
(3)Maturities of mortgage-backed securities and collateralized mortgage obligations are based on contractual maturities.
(4)Yield reflects changes in fair value that are reflected as a separate component of stockholders' equity.
As of December 31, 1999, BNC had $151.0 million of securities in the investment portfolio as compared to $96.6 and $94.6 million at December 31, 1998 and 1997, respectively. During 1999, the Company increased its holdings in agency collateralized mortgage obligations ("CMOs") and municipal bonds by $75.4 and $16.1 million, respectively. During the year, the Company also reduced the investment portfolio's allocation to U.S. Treasury securities by $5.1 million, agency mortgage-backed securities by $25.1 million and government agency securities by $8.5 million.
The shift between sectors was the result of the investment portfolio management process and the investment objectives as indicated above. Over the course of 1999, principal cash flows as well as sales proceeds from mortgage-backed securities were invested in CMOs because they offered a better risk/reward profile (due to the structure of CMO cash flows) relative to mortgage-backed securities. New investment purchases were primarily directed toward CMOs as well due to their risk/reward profile and structure relative to other sectors. In addition, proceeds from the maturity of U.S. Treasury securities and government agency securities were reinvested into alternate sectors that offered a better relative risk/reward profile than U.S. Treasury and government agency securities. Consistent with the Investment Officer's objective of purchasing and owning combinations of good risk/reward securities, the level of state and municipal bonds increased as well. The risk/reward profile of state and municipal bonds complimented that of the increased portfolio allocation to CMOs. The resulting allocation among security sectors is more consistent with the primary goal of the Company's investment policy.
At December 31, 1999, BNC held no securities of any single issuer, other than the U.S. government agencies securities and agency mortgage-backed securities and CMOs that exceeded ten percent of stockholders' equity. A significant portion of the Company's investment securities portfolio (approximately 84 percent at December 31, 1999) was pledged as collateral for public deposits and borrowings, including borrowings with the FHLB.
Loan Portfolio. The Company's primary source of income is interest earned on loans. The Company's loan portfolio has grown significantly during the past four years as a result of BNC's strategy of increasing the amount of high quality loans outstanding to increase net interest income. Net loans increased $14.9 million, or 6 percent, to $259.2 million at December 31, 1999 as compared to $244.3 million at December 31, 1998. In 1998, net loans increased $27.1 million, or 13 percent, as compared to December 31, 1997. The following table presents the composition of the Company's loan portfolio as of the dates indicated:
- ------------------------- (1) From continuing operations for all periods presented.
The following table presents, for the periods indicated, the amount and percent of change in each category of loans in the Company's loan portfolio. Material changes are discussed in lettered explanations below the table:
Change in Loan Portfolio Composition (1) Increase (Decrease) -------------------------------------------------- 1999 - 1998 1998 - 1997 --------------------- ---------------------- $ % $ % ----------- -------- ---------- --------- (dollars in thousands) Commercial and industrial.. $ 3,350 3% $ 11,106 11% (a) Real estate mortgage....... 15,214 20% (b) 20,284 36% (a) Real estate construction... (4,805) (23)% 2,616 14% Agricultural............... (3,098) (16)% (1,287) (6)% Consumer................... 355 2% (3,965) (21)% Lease financing............ 3,885 52% (1,789) (19)% ----------- ---------- Total face amount of loans. 14,901 6% 26,965 12% Unearned income............ (31) (16)% 67 26% ----------- ---------- Loans, net of unearned income.................. 14,870 6% 27,032 12% Allowance for credit losses (18) (1)% 65 2% ----------- ---------- Net Loans.................. $ 14,852 6% $ 27,097 12% =========== ========== - -------------------- (1) From continuing operations for all periods presented.
(a) Increases are primarily attributable to loan volume generated out of the Minnesota market area.
(b) Increases are attributable to loan volume generated out of both the Minnesota and North Dakota markets.
While prospects for continued loan growth appear favorable, particularly in the Minnesota and Fargo markets, management cannot predict with any degree of certainty the Company's future loan growth potential.
Credit Policy and Approval Procedures. BNC follows a uniform credit policy that sets forth underwriting and loan administration criteria. The loan policy, including lending guidelines for the various types of credit offered by the
Company, is established by the Board of Directors (the "Board") based upon the recommendations of senior lending management and such credit committees as are established at either the bank or corporate level. The loan policy is reviewed and reaffirmed by the Board at least annually. Underwriting criteria are based upon the risks associated with each type of credit offered, the related borrowers and types of collateral.
The Company delegates lending decision authority among various lending officers and the credit committees based on the size of the customer's credit relationship with BNC. All loans and commitments approved in excess of $300,000 are presented to the Board on a monthly basis for summary review. Any exceptions to loan policies and guidelines are subject to special approval by bank executive lenders or the credit committees.
Loan Participations. Pursuant to BNC's lending policy, loans may not exceed 85 percent of bank legal lending limits (except to the extent collateralized by U.S. Treasury securities or bank deposits and, accordingly, excluded from the bank's legal lending limit). To accommodate customers whose financing needs exceed lending limits and internal loan restrictions relating primarily to industry concentration, the Banks sell loan participations to outside participants without recourse. Loan participations sold on a nonrecourse basis to outside financial institutions were as follows as of the dates indicated:
Loan Participations Sold (1)
December 31, ------------------------------------------------------- 1999 1998 1997 1996 1995 ---------- --------- --------- --------- --------- (in thousands) BNC--North Dakota..... $ 67,700 $ 32,300 $ 55,500 $ 54,100 $ 35,000 BNC--Minnesota........ 52,400 24,400 10,300 3,200 -- ---------- --------- --------- --------- --------- Total............... $ 120,100 $ 56,700 $ 65,800 $ 57,300 $ 35,000 ========== ========= ========= ========= ========= - ---------------------- (1) From continuing operations for all periods presented.
The Banks generally retain the right to service the loans as well as the right to receive a portion of the interest income on the loans. The vast majority of the loans sold by the Banks are commercial lines of credit for which balances and related payment streams cannot be reasonably estimated in order to determine the fair value of the servicing rights and/or future interest income retained by the Banks. See Note 1 to the Consolidated Financial Statements included under Item 8 for further discussion of accounting policies related to loans. Management cannot reliably predict BNC's ability to continue to generate or sell loan participations or the terms of any such sales.
Concentrations of Credit. The Company's credit policies emphasize diversification of risk among industries, geographic areas and borrowers. For purposes of the analysis of concentrations of credit as of December 31, 1999, total outstanding loans as well as all outstanding loan commitments were included. As of December 31, 1999, the Company identified concentrations of loans exceeding ten percent of total loans and loan commitments outstanding. These concentrations were in construction and real estate loans which represented 11.2 and 15.9 percent, respectively, of total loans and loan commitments outstanding. Loans and commitments in the construction category were extended to 76 customers who are located in Minnesota, Iowa and North and South Dakota and who can be generally categorized as indicated below:
Percent of total outstanding loans and Number of loan customers commitments ------------- ------------- General building contractors....... 21 3.1% Heavy construction, excluding building........................ 28 6.6% Special trade contractors.......... 27 1.5% ------------- ------------- Total......................... 76 11.2% ============= =============
The contractors are involved in various aspects of the construction industry including highway and street construction, water/sewer drilling, plumbing, heating and air conditioning, commercial painting, electrical, concrete and excavating and foundation contractors. Loans in this category are secured, in many cases, by construction equipment.
The real estate loans and commitments were extended to 132 customers who are diversified across the Company's market areas and who can be generally categorized as indicated below:
Percent of total outstanding loans and Number of loan customers commitments ------------- -------------- Non-residential and apartment building operators, developers and lessors of real property................ 77 11.8% Real estate holding companies.. 55 4.1% ------------- -------------- Total.......................... 132 15.9% ============= ==============
The Company continually monitors industry and other credit concentrations as part of its credit risk management strategies. In cases where significant concentrations exist without sufficient diversification and other mitigating factors, BNC generally sells loans without recourse to outside financial institutions.
Agricultural Loans. BNC's agricultural loan portfolio totals approximately $16.7 million, or 6 percent of total loans. Within the portfolio, loans are diversified by type and include loans to grain and/or livestock producers, agricultural real estate loans, machinery and equipment and other types of loans. The majority of the Company's agricultural loans are extended to borrowers located in North Dakota, and are diversified over several counties. The Company has been monitoring its agricultural loans closely. As of December 31, 1999, nonperforming agricultural loans totaled $12,000.
Loan Maturities. The following table sets forth the remaining maturities of loans in each major category of BNC's portfolio as of December 31, 1999. Actual maturities may differ from the contractual maturities shown below as a result of renewals and prepayments. Loan renewals are evaluated in the same manner as new credit applications:
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(1) Maturities are based upon contractual maturities. Floating rate loans include loans that would reprice prior to maturity if base rates change. See Item 7a, "Quantitative and Qualitative Disclosures about Market Risk," for further discussion regarding repricing of loans and other assets.
Interest Rate Floors. From time to time the Company may use off-balance-sheet instruments, principally interest rate floors, to adjust the interest rate sensitivity of on-balance-sheet items, including loans. See -"Liquidity, Market and Credit Risk," Item 7a, "Quantitative and Qualitative Disclosures about Market Risk," and Notes 1 and 13 to the Consolidated Financial Statements included under Item 8 for further discussion about accounting policies applicable to derivative financial instruments and currently outstanding instruments.
Nonperforming Loans and Assets. BNC's lending personnel are responsible for continuous monitoring of the quality of the loan portfolio. Officer compensation depends, to a substantial extent, on maintaining loan quality and dealing with credit issues in a timely and proactive manner. Lenders are not compensated for growth at the expense of credit quality. Loan officers are responsible for ongoing and regular review of past due loans in their respective portfolios. The loan portfolio is also monitored regularly and examined by the Company's loan review personnel. Loans demonstrating weaknesses are downgraded in a timely fashion and the Board receives a listing of all such loans on a monthly basis. The Company also has an annual independent credit review which tests credit quality, compliance with loan policy and documentation for all loans over $100,000 and a sampling of smaller loans.
The following table sets forth, as of the dates indicated, the amounts of nonperforming loans and other assets, the allowance for credit losses and certain related ratios:
- --------------------
(1) From continuing operations for all periods presented.
(2)If the Company's nonaccrual and restructured loans had been current in accordance with their original terms, BNC would have recognized additional interest income of $112,000, $49,000 and $30,000 for the years ended December 31, 1999, 1998 and 1997, respectively.
(3)The interest income on nonaccrual and restructured loans actually included in the Company's net income was $29,000, $175,000 and $26,000 for the years ended December 31, 1999, 1998 and 1997, respectively.
Loans 90 days or more delinquent and still accruing interest include loans over 90 days past due which management believes, based on its specific analysis of the loans, do not present doubt about the collection of interest and principal in accordance with the loan contract. Loans in this category must be well-secured and in the process of collection. These loans are monitored closely by BNC lending and management personnel.
Nonaccrual loans include loans on which the accrual of interest has been discontinued. Accrual of interest is discontinued when management believes, after considering economic and business conditions and collection efforts, that the borrower's financial condition is such that the collection of interest is doubtful. A delinquent loan is generally placed on nonaccrual status when it becomes 90 days or more past due unless the loan is well-secured and in the process of collection. When a loan is placed on nonaccrual status, accrued but
uncollected interest income applicable to the current reporting period is reversed against interest income of the current period. Accrued but uncollected interest income applicable to previous reporting periods is charged against the allowance for credit losses. No additional interest is accrued on the loan balance until the collection of both principal and interest becomes reasonably certain. When a problem loan is finally resolved, there may ultimately be an actual write down or charge-off of the principal balance of the loan which may necessitate additional charges to earnings.
Restructured loans are those for which concessions, including a reduction of the interest rate or the deferral of interest or principal, have been granted due to the borrower's weakened financial condition. Interest on restructured loans is accrued at the restructured rates when it is anticipated that no loss of its original principal will occur.
Other real estate owned represents properties acquired through, or in lieu of, loan foreclosure. Such properties are included in other assets in the balance sheets. They are initially recorded at fair value at the date of acquisition establishing a new cost basis. Write-downs to fair value at the time of acquisition are charged to the allowance for credit losses. After foreclosure, valuations are periodically performed by management and the real estate is carried at the lower of carrying amount or fair value less cost to sell. Write-downs, revenues and expenses incurred subsequent to foreclosure are charged to operations as recognized / incurred.
Potential Problem Loans. In accordance with accounting standards, the Company identifies loans considered impaired and the valuation allowance attributable to these loans. Impaired loans generally include loans on which management believes, based on current information and events, it is probable that the Company will not be able to collect all amounts due in accordance with the terms of the loan agreement and which are analyzed for a specific reserve allowance. BNC generally considers all loans risk-graded substandard and doubtful as well as nonaccrual and restructured loans as impaired. Impaired loans at December 31, 1999, not including the past due, nonaccrual and restructured loans reported above, totaled $4.3 million. A significant portion of these loans are not in default but may have characteristics such as recent adverse operating cash flows or general risk characteristics that the loan officer feels might jeopardize the future timely collection of principal and interest payments. The ultimate resolution of these credits is subject to changes in economic conditions and other factors. These loans are closely monitored to ensure that the Company's position as creditor is protected to the fullest extent possible.
Customer Year 2000 Issues. The Company implemented a Year 2000 due diligence program relating to its major borrowers and depositors which incorporated guidelines established by regulatory agencies (the "Program"). Major components of the Program included assignment of accountability for the various Program initiatives, establishment of critical Program completion dates, identification of material borrowers and depositors (hereinafter collectively referred to as "customers"), a risk assessment of all identified customers and the establishment of risk controls.
The Company managed the Program with available staff. Therefore, no additional salary and benefit expenses were incurred in the process of implementing and administering the Program. Other expenses incurred, such as postage and materials, were not significant. No material adverse circumstances related to Year 2000 issues of customers have been identified.
Assessment of customer status with respect to Year 2000 issues, while critical to the banking industry, is by nature subjective and imprecise. While the Company has used due diligence in assessing customer status and taking appropriate actions based on the results of such assessments, there can be no assurance that each of its customers has been adequately prepared and, as a result, the potential of an adverse impact on the Company cannot be completely eliminated. See also "Year 2000 Issue" for further information on the Company's Year 2000 program.
Allowance for Credit Losses. BNCCORP maintains an allowance for credit losses sufficient to absorb inherent losses in the loan portfolio. The allowance represents management's recognition of the risks of extending credit and its evaluation of the quality of the loan portfolio. The allowance is adjusted through the provision for credit losses, which is charged to income.
At yearend 1999, the Company's total allowance was $2.9 million which equates to approximately 1.8 and 2.7 times the average charge-offs for the last three and five years, respectively, and 2.4 and 3.8 times the average net charge-offs for the same three- and five-year periods, respectively. Because historical charge-offs are not necessarily indicative of future charge-off levels, the Company also gives consideration to other risk indicators when determining the appropriate allowance level. The Company's charge-off policy is generally consistent with regulatory standards.
The three components to the allowance for credit losses, the specific allowance, allocated inherent allowance and unallocated inherent allowance, are discussed in Note 1 to the Consolidated Financial Statements included under Item 8. A comprehensive analysis of the adequacy of the allowance for loan losses is performed by the Company on a quarterly basis. Additionally, peer review of allowance levels of other financial institutions is conducted on an annual basis.
Historically, senior lending management in each of BNCCORP's banking subsidiaries has been responsible for assessing the adequacy of the respective subsidiary's allowance for credit losses and making provision for credit losses recommendations to the appropriate board of directors. The Company recently established an Allowance for Credit Losses Review Committee (the "Review Committee"), which now has the responsibility of affirming allowance methodology, performing an annual credit loss migration analysis and assessing the allowance components in relation to estimated and actual charge-off trends. The Review Committee is responsible for assessing and reporting on the appropriateness of the allowance for credit losses as well as recommending revisions to the Company's methodology for determining the adequacy of the allowance as they become necessary.
Concentrations of credit risk are discussed under "--Concentrations of Credit." Concentrations exist in construction and real estate loans. Additionally, a geographic concentration of credit risk also arises because BNCCORP operates primarily in the upper midwest with 89 percent of loans outstanding as of December 31, 1999 having been extended to customers in Minnesota and North Dakota. Other groups of credit risk may not constitute a significant concentration, but are analyzed based on other evident risk factors for the purpose of determining an adequate allowance level.
Nonperforming and potential problem loans are defined and discussed under "--Nonperforming Loans and Assets" and "--Potential Problem Loans." Nonperforming loans decreased from $4.5 million at December 31, 1998 to $2.9 million at December 31, 1999. Many of these loans are specifically analyzed for purposes of determining the adequacy of the allowance for credit losses.
Estimating the risk and amount of loss on any loan is subjective and ultimate losses may vary from current estimates. Although management believes that the allowance for credit losses is adequate to cover losses inherent in the loan portfolio, there can be no assurance that the allowance will prove sufficient to cover actual credit losses in the future. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the adequacy of the Company's allowance for credit losses. Such agencies may require BNC to make additional provisions to the allowance based upon their judgments about information available to them at the time of their examination.
The following table summarizes, for the periods indicated, activity in the allowance for credit losses, including amounts of loans charged-off, amounts of recoveries, additions to the allowance charged to operating expense, the ratio of net charge-offs to average total loans, the ratio of the allowance to total loans at the end of each period and the ratio of the allowance to nonperforming loans:
- ---------------------- (1) From continuing operations for all periods presented.
Included in the data above relating exclusively to a former officer are special provisions of $454,000 and $1.9 million, charge-offs of approximately $639,000 and $1.8 million and recoveries of approximately $153,000 and $690,000 for the years ended December 31, 1998 and 1997, respectively. The recoveries primarily represent payments from the Company's fidelity bond carrier. See Note 17 to the Consolidated Financial Statements included under Item 8 for further discussion related to proceedings against the loan officer.
The table below presents, for the periods indicated, an allocation of the allowance for credit losses among the various loan categories and sets forth the percentage of loans in each category to gross loans. The allocation of the allowance for credit losses as shown in the table should neither be interpreted as an indication of future charge-offs, nor as an indication that charge-offs in future periods will necessarily occur in these amounts or in the indicated proportions.
- --------------------- (1) From continuing operations for all periods presented.
Deposits. BNC's core deposits consist of noninterest- and interest-bearing demand deposits, savings deposits, certificates of deposit under $100,000, certain certificates of deposit of $100,000 and over and public funds. These deposits, along with other borrowed funds are used by the Company to support its asset base. See "--Borrowed Funds."
The following table sets forth, for the periods indicated, the distribution of BNC's average deposit account balances and average cost of funds rates on each category of deposits. See "Results of Operations--Net Interest Income" for an explanation of changes in deposit volume and costs during the periods presented:
- ------------------------ (1) From continuing operations for all periods presented.
In recent years, earning asset growth has outpaced core deposit growth resulting in the use of brokered and out of market certificates of deposit and other borrowed funds. See "--Borrowed Funds." This trend has been common in the banking industry because of the proliferation of non-bank competitors and the multitude of financial and investment products available to customers. As of December 31, 1999, BNC held a total of $13.4 million of brokered certificates of deposit. Under current FDIC regulations, only "well capitalized" financial institutions may fund themselves with brokered deposits without prior approval of regulators. BNC--North Dakota and BNC--Minnesota were both well capitalized at December 31, 1999. See Note 11 to the Consolidated Financial Statements included under Item 8 for a summary of capital status of the Banks.
Time deposits in denominations of $100,000 and more totaled $46.8 million at December 31, 1999 as compared to $39.2 and $36.3 million at December 31, 1998 and 1997, respectively. The following table sets forth the amount and maturities of time deposits of $100,000 or more as of December 31, 1999:
Time Deposits of $100,000 and Over (in thousands) Maturing in: 3 months or less................... $ 22,368 Over 3 months through 6 months..... 12,710 Over 6 months through 12 months.... 9,844 Over 12 months..................... 1,857 ---------- Total........................... $ 46,779 ==========
Borrowed Funds. BNC uses short-term borrowings to support its asset base. These borrowings include federal funds purchased and U.S. Treasury tax and loan note option accounts, securities sold under agreements to repurchase and FHLB borrowings. At December 31, 1999, short-term borrowings were $88.7 million, or 20 percent of total liabilities, as compared to $49.3 million, or 13 percent of total liabilities, at December 31, 1998 and $46.5 million, or 14 percent of total liabilities, at December 31, 1997. See Note 9 to the Consolidated Financial Statements included under Item 8 for a listing of borrowings outstanding at December 31, 1999 and 1998, including interest rates and terms.
The following table provides a summary of the Company's short-term borrowings and related cost information as of, or for the periods ended, December 31:
- --------------------- (1) From continuing operations for all periods presented.
As of December 31, 1999, the Company's only outstanding long-term debt was its Subordinated Notes totaling $14.5 million. See Notes 1 and 9 to the Consolidated Financial Statements included under Item 8 for more details. During February 2000 the Company retired $814,000 of the Subordinated Notes. See Note 22 to the Consolidated Financial Statements included under Item 8 for a summary of this transaction.
The Company's decreased usage of long-term borrowings at December 31, 1999 is attributable to the sale of BNC Financial. BNC Financial's asset-based loan portfolio was funded primarily with long-term debt.
Capital Resources and Expenditures. BNC's management actively monitors compliance with bank regulatory capital requirements, including risk-based and leverage capital measures. Under the risk-based capital method of capital measurement, the ratio computed is dependent on the amount and composition of assets recorded on the balance sheet, and the amount and composition of off-balance sheet items, in addition to the level of capital. Note 11 to the Consolidated Financial Statements included under Item 8 includes a summary of the risk-based and leverage capital ratios of BNC and its subsidiary banks as of
December 31, 1999 and 1998. As of each of those dates, BNCCORP and the Banks exceeded capital adequacy requirements and the Banks were considered "well capitalized" under prompt corrective action provisions.
The Company is currently in the process of constructing an office building in Fargo, North Dakota. The total cost to complete the construction and provide furniture and equipment for the building is estimated at between $4.0 and $4.5 million and has been funded through cash generated from operations. Capital expenditures for Fargo were approximately $3.6 million during 1999. There were no other major capital expenditures made during 1999 or 1998.
Liquidity, Market and Credit Risk
The Company's business activities generate, in addition to other risks, significant liquidity, market and credit risks. Liquidity risk is the possibility of being unable to meet all present and future financial obligations in a timely manner. Market risk arises from changes in interest rates, exchange rates, commodity prices and equity prices and represents the possibility that changes in future market rates or prices will have a negative impact on the Company's earnings or value. The Company's principal market risk is interest rate risk. See Item 7a, "Quantitative and Qualitative Disclosures about Market Risk." Credit risk is the possibility of loss from the failure of a customer to perform according to the terms of a contract. BNC is a party to transactions involving financial instruments that create risks that may or may not be reflected on a traditional balance sheet. These financial instruments can be subdivided into three categories:
Cash financial instruments, generally characterized as on-balance-sheet items, include investments, loans, mortgage-based securities, deposits and other debt obligations.
Credit-related financial instruments, generally characterized as off-balance-sheet items, include such instruments as commitments to extend credit and standby letters of credit.
Derivative financial instruments, also generally characterized as off-balance-sheet items, include such instruments as interest rate, foreign exchange, commodity price and equity price contracts, including forwards, swaps and options.
The Company's risk management policies are intended to monitor and limit exposure to liquidity, market and credit risks that arise from each of these financial instruments. See "--Loan Portfolio" for a discussion of the Company's credit risk management strategies.
Liquidity Risk Management. Liquidity risk management encompasses the Company's ability to meet all present and future financial obligations in a timely manner. The objectives of liquidity management policies are to maintain adequate liquid assets, liability diversification among instruments, maturities and customers and a presence in both the wholesale purchased funds market and the retail deposit market.
The Consolidated Statements of Cash Flows in the Consolidated Financial Statements included under Item 8 present data on cash and cash equivalents provided by and used in operating, investing and financing activities. In addition to liquidity from core deposit growth, together with repayments and maturities of loans and investments, BNC utilizes brokered deposits, sells securities under agreements to repurchase and borrows overnight federal funds. The Banks are both members of the FHLB, which affords them the opportunity to borrow funds in terms ranging from overnight to ten years and beyond. Borrowings from the FHLB are generally collateralized by the Banks' mortgage loans and various investment securities. See "--Investment Securities" and Notes 4 and 9 to the Consolidated Financial Statements included under Item 8. The Company has
also obtained funding through long-term borrowings and the issuance of its Subordinated Notes. See "--Borrowed Funds" and Note 9 to the Consolidated Financial Statements included under Item 8.
The following table sets forth, for the periods indicated, a summary of the Company's major sources and (uses) of funds. This summary information is derived from the Consolidated Statements of Cash Flows included under Item 8:
Major Sources and Uses of Funds (1)
- ---------------------- (1) From continuing operations for all periods presented.
BNC's liquidity is measured by its ability to raise cash when it needs it at a reasonable cost and with a minimum of loss. Given the uncertain nature of our customer's demands as well as the Company's desire to take advantage of earnings enhancement opportunities, the Company must have adequate sources of on- and off-balance sheet funds that can be acquired in time of need. Accordingly, in addition to the liquidity provided by balance sheet cash flows, liquidity is supplemented with additional sources such as credit lines with the FHLB, credit lines with correspondent banks for federal funds, wholesale and retail repurchase agreements, brokered certificates of deposit and direct non-brokered national certificates of deposit through national deposit networks. BNC's management measures its liquidity position on a monthly basis. Key factors that determine the Company's liquidity are the reliability or stability of its deposit base, the pledged/nonpledged status of its investments and potential loan demand. BNC's liquidity management system divides the balance sheet into liquid assets, and short-term liabilities that are assumed to be vulnerable to non-replacement under abnormally stringent conditions. The excess of liquid assets over short-term liabilities is measured over a 30-day planning horizon. Assumptions for short-term liabilities vulnerable to non-replacement under abnormally stringent conditions are based on a historical analysis of the month-to-month percentage changes in deposits. The excess of liquid assets over short-term liabilities and other key factors such as expected loan demand as well as access to other sources of liquidity such as lines with the FHLB, federal funds, and those other supplemental sources listed above are tied together to provide a measure of the Company's liquidity. Management has a targeted range and manages its operations such that these targets can be achieved. Management believes that its prudent management policies and guidelines will ensure adequate levels of liquidity to fund anticipated needs of on- and off-balance-sheet items. In addition, a contingency funding plan identifies actions to be taken in response to an adverse liquidity event.
The Company's asset/liability committee implemented a liquidity plan for the period spanning the Year 2000 date change. The Company did not experience any liquidity-related problems as a result of the Year 2000 date change.
Year 2000 Issue
The Company implemented a Year 2000 program which included the following phases: awareness, assessment, renovation, testing / validation and implementation (the "Y2K Program"). The Y2K Program applied to all IT and non-IT systems, as well as any providers who service and maintain these systems.
The Company managed the Y2K Program with available staff (other than a few isolated instances where consultants were engaged for a specific activity). Therefore, the Company did not incur additional salary and benefits expenses related to the development and implementation of the Y2K Program.
The Company invested approximately $156,000 in hardware and software (primarily for the Y2K lab and some non-compliant computers and software which were replaced). Other Y2K Program costs incurred were approximately $48,000 and included costs for items such as materials, supplies, postage and rental of a generator. Management's initial projection for Y2K Program expenses was $200,000 to $400,000. All costs associated with the Y2K Program have been funded through cash generated from operations.
While the Company has remained in close communication with customers, vendors and other intermediaries, it has had no control over the remediation efforts of these third parties with whom it has material business relationships and the failure of certain of these parties to successfully remediate their Year 2000 issues could potentially have a material adverse affect on the Company. The Company received initial assurances from certain of these third parties that their ability to perform their obligations to the Company were not expected to be materially adversely affected by the Year 2000 problem. The Company also tested, to the extent possible, systems, software and interfaces through which business transactions with such third parties are effected. Management is not aware of any materially adverse circumstances related to the Year 2000 remediation efforts of third parties with whom the Company has material business relationships.
The Company completed a contingency plan to handle its most reasonably likely worst case Y2K scenarios. It did not become necessary to implement any portion of the contingency plan in response to Y2K-related events.
All forecasts, estimates and other statements relating to the Year 2000 readiness of the Company and its customers and business partners have been based on information and assumptions about future events. Such "forward looking statements" are subject to various known and unknown risks and uncertainties that could cause actual events to differ from such statements. These uncertainties included, but are not limited to, the understanding of the Company that its core application and other systems are and will continue to be Year 2000 compliant, the ability to identify, repair or replace mission critical non-IT equipment in a timely fashion, the ability of certain third parties to ensure their systems are Year 2000 compliant and the ability of the Company to test interfaces with certain of these third parties, the performance of telecommunications, data transmission and utilities providers, the failure or impairment of certain third parties with which the Company transacts business, systemic occurrences in the banking industry which could impact the Company's liquidity and undiscovered problems in the Company's Year 2000 testing plans and processes. While the Company has exercised due diligence in the development of its Year 2000 plans and has taken appropriate actions based on the best available information, there can be no assurance that events and circumstances will transpire as expected and, as a result, the potential of a material adverse impact on the Company cannot be completely eliminated.
Forward Looking Statements
Statements included in Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations" which are not historical in nature are intended to be, and are hereby identified as "forward looking statements" for purposes of the safe harbor provided by Section 21E of the Securities Exchange Act of 1934, as amended. The Company cautions readers that
forward looking statements, including without limitation, those relating to the Company's future business prospects, revenues, working capital, liquidity, capital needs, interest costs and income, are subject to certain risks and uncertainties that could cause actual results to differ materially from those indicated in the forward looking statements due to several important factors. These factors include, but are not limited to: risks of loans and investments, including dependence on local economic conditions; competition for the Company's customers from other providers of financial services; possible adverse effects of changes in interest rates; risks of unanticipated and still unidentified consequences related to the impact of the Year 2000 Issue on the Company or its customers and business partners; risks associated with the Company's acquisition strategy; and other risks which are difficult to predict and many of which are beyond the control of the Company.
Effects of Inflation
Unlike most industrial companies, the assets and liabilities of financial institutions are primarily monetary in nature. Therefore, banking organizations do not necessarily gain or lose due to the effects of inflation. Changes in interest rates, which are a major determinant of a financial service organization's profitability, do not necessarily correspond to changes in the prices of goods and services. An analysis of a banking organization's asset and liability structure provides the best indication of how the organization is positioned to respond to changing interest rates and maintain profitability.
The financial statements and supplementary financial data have been prepared, primarily, on a historical basis which is mandated by generally accepted accounting principles. Fluctuations in the relative value of money due to inflation or recession are generally not considered.
Recent Accounting Pronouncements
Note 1 to the Consolidated Financial Statements included under Item 8 includes discussions of recent accounting pronouncements applicable to the activities and financial reporting of BNC.
Item 7a.
Item 7a. Quantitative and Qualitative Disclosures About Market Risk
Market risk arises from changes in interest rates, exchange rates, and commodity prices and equity prices and represents the possibility that changes in future market rates or prices will have a negative impact on the Company's earnings or value. The Company's principal market risk is interest rate risk.
Interest rate risk arises from changes in interest rates. Interest rate risk can result from: (1) Re-pricing risk - timing differences in the maturity/re-pricing of assets, liabilities, and off-balance sheet contracts; (2) Options risk - the effect of embedded options, such as loan prepayments, interest rate caps/floors, and deposit withdrawals; (3) Basis risk - risk resulting from unexpected changes in the spread between two or more different rates of similar maturity, and the resulting impact on the behavior of lending and funding rates; and (4) Yield curve risk - risk resulting from unexpected changes in the spread between two or more rates of different maturities from the same type of instrument. The Company has risk management policies to monitor and limit exposure to interest rate risk. To date the Company has not conducted trading activities as a means of managing interest rate risk. BNC's asset/liability management process is utilized to manage the Company's interest rate risk. The measurement of interest rate risk associated with financial instruments is meaningful only when all related and offsetting on- and off-balance-sheet transactions are aggregated, and the resulting net positions are identified.
Interest rate risk exposure is actively managed with the goal of minimizing the impact of interest rate volatility on current earnings and on the market value of equity. In general, the assets and liabilities generated through ordinary business activities do not naturally create offsetting positions with respect to repricing or maturity characteristics. Access to the derivatives market can be an important element in maintaining the Company's interest rate risk position within policy guidelines. Using off-balance-sheet instruments, principally interest rate floors and caps, the interest rate sensitivity of specific on-balance-sheet transactions, as well as pools of assets or liabilities, is adjusted to maintain the desired interest rate risk profile. See "--Loan Portfolio-Interest Rate Floors" and Notes 1 and 13 to the Consolidated Financial Statements included under Item 7 for a summary of the Company's accounting policies pertaining to such instruments.
The Company's primary tool in measuring and managing interest rate risk is net interest income simulation. This exercise includes management assumptions regarding the level of interest rate or balance changes on indeterminate maturity deposit products (savings, NOW, money market and demand deposits) for a given level of market rate changes. These assumptions have been developed through a combination of historical analysis and future expected pricing behavior. Interest rate caps and floors are included to the extent that they are exercised in the 12-month simulation period. Additionally, changes in prepayment behavior of the residential mortgage and mortgage-backed securities portfolios in each rate environment are captured using industry estimates of prepayment speeds for various coupon segments of the portfolio. Finally, the impact of planned growth and anticipated new business activities is factored into the simulation model.
It is the Company's objective to manage its exposure to interest rate risk, bearing in mind that the Company will always be in the business of taking on rate risk and that rate risk immunization is not entirely possible. Also, it is recognized that as exposure to interest rate risk is reduced, so too may the overall level of net interest income.
The Company monitors the results of net interest income simulation on a monthly basis at regularly scheduled Asset/Liability management committee meetings. Each month net interest income is simulated for the upcoming 12-month horizon in seven interest scenarios. The scenarios modeled are parallel interest ramps of +/- 100bp, 200bp, and 300bp along with a rates unchanged scenario. The parallel movement of interest rates means all projected market interest rates move up or down by the same amount. A ramp in interest rates means that the projected change in market interest rates occurs over the 12-month horizon projected. For example, in the +100bp scenario, the projected prime rate will increase from its starting point of 8.75 percent to 9.75 percent 12 months later. The prime rate in this example will increase 1/12th of the overall increase of 100 basis points each month.
The net interest income simulation results for the 12-month horizon that covers the calendar year of 2000 is shown below. The growth assumption used for this simulation was based on the growth projections built into the Company's 2000 budget. The impact of each interest rate scenario on projected net interest income is displayed before and after the impact of the $25.0 million notional interest rate floor on the prime rate with an 8.50 percent strike.
(1) In September 1998, the Company purchased an interest rate floor. The notional amount of the floor is $25.0 million with a maturity date of September 29, 2003. The floor's reference rate is the prime rate with a strike of 8.50 percent. The Company paid a premium of $1,120,000 or (4.48% per million). The premium is being amortized on a straight-line basis over the 5-year term of the option. See "-Loan Portfolio-Interest Rate Floors" and Note 1 and 13 to the Consolidated Financial Statements included under Item 7 for further information on accounting policies related to derivative financial investments.
(2) The swaps were sold in October and November 1997. Gains recognized upon sale of the swaps are being amortized as a reduction of interest expense over the remaining lives of the original swap contracts.
The Company's rate sensitivity position over the projected twelve month horizon is liability sensitive. This is evidenced by the projected decrease of net interest income in the rising interest rate scenarios, and the increase in net interest income in falling rate scenarios. The primary reason for this interest rate risk profile is the growth of the new Wealthbuilder deposit products along with the continued growth in these products that is projected into 2000, as well as the growth and mix of components of the asset side of the balance sheet.
The Company's general policy is to limit the percentage change in projected net interest income to +/- 3%, 6%, and 9% from the rates unchanged scenario for the +/-100bp, 200bp, and 300bp interest rate ramp scenarios, respectively. The Company was within its policy limits for each projected scenario in the table above.
Static gap analysis is another tool which may be used for interest rate risk measurement. The net differences between the amount of assets, liabilities, equity and off-balance-sheet instruments repricing within a cumulative calendar period is typically referred to as the "rate sensitivity position" or "gap position." The following table sets forth the Company's rate sensitivity position as of December 31, 1999. Assets and liabilities are classified by the earliest possible repricing date or maturity, whichever occurs first:
- --------------------
(1) Investment securities are generally reported in the timeframe representing the earliest of repricing date, call date (for callable securities), estimated life or maturity date. Estimated lives of mortgage-backed securities and collateralized mortgage obligations are based on published industry prepayment estimates for securities with comparable weighted average interest rates and contractual maturities.
(2) Loans are stated gross of the allowance for credit losses and are placed in the earliest timeframe in which maturity or repricing may occur.
The table assumes that all savings and interest-bearing demand deposits reprice in the earliest period presented, however, BNC's management believes a significant portion of these accounts constitute a core component and are generally not rate sensitive. Management's position is supported by the fact that aggressive reductions in interest rates paid on these deposits historically has not caused notable reductions in balances.
The table does not necessarily indicate the future impact of general interest rate movements on the Company's net interest income because the repricing of certain assets and liabilities is discretionary and is subject to competitive and other pressures. As a result, assets and liabilities indicated as repricing within the same period may in fact reprice at different times and at different rate levels.
Static gap analysis does not fully capture the impact of embedded options, lagged interest rate changes, administered interest rate products, or certain off-balance-sheet sensitivities to interest rate movements. Therefore, this tool cannot be used in isolation to determine the level of interest rate risk exposure in more complex banking institutions.
Since there are limitations inherent in any methodology used to estimate the exposure to changes in market interest rates, these analyses are not intended to be a forecast of the actual effect of changes in market interest rates such as those indicated above on the Company. Further, this analysis is based on the Company's assets and liabilities as of December 31, 1999 (with forward
adjustments for planned growth and anticipated business activities) and does not contemplate any actions the Company might undertake in response to changes in market interest rates.
Item 8.
Item 8. Financial Statements and Supplementary Data
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Consolidated Financial Statements: Page
Report of Independent Public Accountants................................ 41
Consolidated Balance Sheets as of December 31, 1999 and 1998............ 42
Consolidated Statements of Income for the years ended December 31, 1999, 1998 and 1997........................................................ 43
Consolidated Statements of Comprehensive Income (Loss) for the years ended December 31, 1999, 1998 and 1997..................................... 44
Consolidated Statements of Stockholders' Equity for the years ended December 31, 1999, 1998 and 1997..................................... 45
Consolidated Statements of Cash Flows for the years ended December 31, 1999, 1998 and 1997.................................................. 46
Notes to Consolidated Financial Statements.............................. 47
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To BNCCORP, Inc.:
We have audited the accompanying consolidated balance sheets of BNCCORP, Inc. (a Delaware corporation) and Subsidiaries as of December 31, 1999 and 1998, and the related consolidated statements of income, comprehensive income (loss), stockholders' equity and cash flows for each of the three years in the period ended December 31, 1999. These financial statements are the responsibility of BNCCORP's management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted in the United States. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of BNCCORP, Inc. and Subsidiaries as of December 31, 1999 and 1998, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1999 in conformity with accounting principles generally accepted in the United States. ARTHUR ANDERSEN LLP
Minneapolis, Minnesota, February 8, 2000
BNCCORP, INC. AND SUBSIDIARIES Consolidated Balance Sheets As of December 31 (In thousands, except share and per share data)
ASSETS 1999 1998 ---------- -------- CASH AND DUE FROM BANKS.................................... $ 12,816 $ 7,475 INTEREST-BEARING DEPOSITS WITH BANKS....................... 5,565 2,809 FEDERAL FUNDS SOLD......................................... 3,500 -- INVESTMENT SECURITIES AVAILABLE FOR SALE................... 150,992 96,601 LOANS AND LEASES, net of unearned income................... 262,051 247,181 ALLOWANCE FOR CREDIT LOSSES................................ (2,872) (2,854) ---------- -------- Net loans and leases.................................... 259,179 244,327 PREMISES, LEASEHOLD IMPROVEMENTS AND EQUIPMENT, net.......................................... 12,006 8,786 INTEREST RECEIVABLE........................................ 2,613 2,356 OTHER ASSETS............................................... 6,945 5,929 DEFERRED CHARGES AND INTANGIBLE ASSETS, net................ 3,261 3,957 ASSETS OF DISCONTINUED OPERATION........................... -- 24,092 --------- --------- $ 456,877 $396,332 ========= ========= LIABILITIES AND STOCKHOLDERS' EQUITY
DEPOSITS: Noninterest-bearing..................................... $ 29,798 $ 28,475 Interest-bearing -- Savings, NOW and money market........................ 127,454 89,887 Time deposits $100,000 and over...................... 46,779 39,162 Other time deposits.................................. 120,680 126,975 ---------- --------- Total deposits.......................................... 324,711 284,499 NOTES PAYABLE.............................................. 103,170 58,485 OTHER LIABILITIES.......................................... 5,847 6,362 LIABILITIES OF DISCONTINUED OPERATION..................... -- 21,731 ---------- --------- Total liabilities................................. 433,728 371,077 ---------- --------- COMMITMENTS AND CONTINGENCIES (Notes 16 and 17) STOCKHOLDERS' EQUITY: Preferred stock, $.01 par value, 2,000,000 shares authorized; no shares issued or outstanding.......... -- -- Common stock, $.01 par value, 10,000,000 shares authorized; 2,399,980 and 2,390,184 shares issued and outstanding (excluding 42,880 shares held in treasury) in 1999 and 1998, respectively....................... 24 24 Capital surplus.......................................... 13,976 13,951 Retained earnings....................................... 11,893 11,651 Treasury stock (42,880 shares).......................... (513) (513) Accumulated other comprehensive income (loss), net of income tax effects............................ (2,231) 142 ---------- --------- Total stockholders' equity........................ 23,149 25,255 ---------- --------- $ 456,877 $ 396,332 ========== ========= The accompanying notes are an integral part of these consolidated balance sheets.
BNCCORP, INC. AND SUBSIDIARIES Consolidated Statements of Income For the Years Ended December 31 (In thousands, except per share data)
1999 1998 1997 -------- -------- -------- INTEREST INCOME: Interest and fees on loans...................... $ 22,083 $ 22,148 $ 20,697 Interest and dividends on investment securities-- Taxable......................................... 6,090 4,977 3,714 Tax-exempt...................................... 386 95 71 Dividends....................................... 263 304 446 Other........................................... 109 277 304 -------- -------- -------- Total interest income..................... 28,931 27,801 25,232 -------- -------- -------- INTEREST EXPENSE: Interest on deposits............................ 12,537 11,809 11,282 Interest on short-term borrowings............... 3,303 2,694 1,294 Interest on long-term borrowings................ 734 649 556 -------- -------- -------- Total interest expense.................... 16,574 15,152 13,132 -------- -------- -------- Net interest income....................... 12,357 12,649 12,100 PROVISION FOR CREDIT LOSSES........................ 1,138 1,201 2,518 -------- -------- -------- NET INTEREST INCOME AFTER PROVISION FOR CREDIT LOSSES................................... 11,219 11,448 9,582 -------- -------- -------- NONINTEREST INCOME: Insurance commissions........................... 2,045 1,769 1,694 Fees on loans................................... 1,435 1,376 884 Brokerage income................................ 797 53 46 Service charges................................. 536 566 471 Net gain on sales of securities................. 198 130 8 Rental income................................... 121 43 56 Other........................................... 936 906 769 -------- -------- -------- Total noninterest income.................. 6,068 4,843 3,928 -------- -------- -------- NONINTEREST EXPENSE: Salaries and employee benefits.................. 8,854 7,463 6,184 Write-down of other real estate owned and repossessed assets........................... 2,271 2 -- Depreciation and amortization................... 1,586 1,498 1,310 Occupancy....................................... 1,248 988 948 Professional services........................... 1,214 766 552 Office supplies, telephone and postage.......... 941 749 647 Marketing and promotion......................... 621 455 363 FDIC and other assessments...................... 191 184 171 Other........................................... 1,289 1,274 1,081 -------- -------- -------- Total noninterest expense................. 18,215 13,379 11,256 -------- -------- -------- Income (loss) before income taxes.................. (928) 2,912 2,254 Income taxes....................................... (399) 1,030 955 -------- -------- -------- Income (loss) from continuing operations........... (529) 1,882 1,299
BNCCORP, INC. AND SUBSIDIARIES Consolidated Statements of Income, continued For the Years Ended December 31 (In thousands, except per share data)
1999 1998 1997 -------- -------- -------- Discontinued Operation: Income from operations of discontinued asset-based lending subsidiary (less applicable income taxes of $292, $263 and $89 for the years ended December 31, 1999, 1998 and 1997, respectively)................. 429 385 127 Gain on disposal of asset-based lending subsidiary, including operating income of $50 during phase-out period (less applicable income taxes of $268)....... 438 -- -- -------- -------- -------- Income before cumulative effect of change in accounting principle............................ 338 2,267 1,426 Cumulative effect of change in accounting principle, net of income tax effects............ (96) -- -- -------- -------- -------- NET INCOME......................................... $ 242 $ 2,267 $ 1,426 ======== ======== ========
BASIC EARNINGS PER COMMON SHARE: Income (loss) from continuing operations........... $ (0.22) $ 0.79 $ 0.54 Income from operations of discontinued asset-based lending subsidiary (less applicable income taxes).......................................... 0.18 0.16 0.05 Gain on disposal of asset-based lending subsidiary (less applicable income taxes).................. 0.18 -- -- Cumulative effect of change in accounting principle, net of income tax effects............ (0.04) -- -- -------- -------- -------- Earnings per share, basic.......................... $ 0.10 $ 0.95 $ 0.59 ======== ======== ========
DILUTED EARNINGS PER COMMON SHARE:
Income (loss) from continuing operations........... $ (0.22) $ 0.75 $ 0.54 Income from operations of discontinued asset-based lending subsidiary (less applicable income taxes) .................................. 0.18 0.16 0.05 Gain on disposal of asset-based lending subsidiary (less applicable income taxes).................. 0.18 -- -- Cumulative effect of change in accounting principle, net of income tax effects............ (0.04) -- -- -------- -------- ------- Earnings per share, diluted........................ $ 0.10 $ 0.91 $ 0.59 ========= ======== =======
The accompanying notes are an integral part of these consolidated financial statements.
BNCCORP, INC. AND SUBSIDIARIES Consolidated Statements of Comprehensive Income (Loss) For the Years Ended December 31 (In thousands)
1999 1998 1997 --------- --------- --------- NET INCOME............................ $ 242 $ 2,267 $ 1,426 OTHER COMPREHENSIVE INCOME -- Unrealized gains (losses) on securities: Unrealized holding gains (losses) arising during the period, net of income tax effects.............. (2,373) (28) 127 Less: reclassification adjustment for gains included in net income, net of income tax effects....... (121) (79) (5) --------- --------- --------- OTHER COMPREHENSIVE INCOME (LOSS)..... (2,494) (107) 122 --------- --------- --------- COMPREHENSIVE INCOME (LOSS)........... $ (2,252) $ 2,160 $ 1,548 ========= ========= =========
The accompanying notes are an integral part of these consolidated financial statements.
The accompanying notes are an integral part of these consolidated financial statements.
BNCCORP, INC. AND SUBSIDIARIES Consolidated Statements of Cash Flows For the Years Ended December 31 (In thousands)
The accompanying notes are an integral part of these consolidated financial statements.
BNCCORP, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements December 31, 1999 and 1998
1. Summary of Significant Accounting Policies
BNCCORP, Inc. ("BNCCORP") is a registered bank holding company incorporated under the laws of Delaware. It is the parent company of BNC National Bank (together with its wholly-owned subsidiaries, BNC Insurance, Inc. and BNC Asset Management, Inc., "BNC-North Dakota") and BNC National Bank of Minnesota ("BNC-Minnesota" and, together with BNC-North Dakota, "the Banks"). Through these wholly-owned subsidiaries, which operate from seventeen locations in North Dakota and Minnesota, BNCCORP provides a broad range of banking and financial services to small and mid-size businesses and individuals. An additional wholly-owned subsidiary, Bismarck Properties, Inc., is inactive.
The accounting and reporting policies of BNCCORP and its subsidiaries (collectively, the "Company") conform to generally accepted accounting principles and general practices within the financial services industry. The more significant accounting policies are summarized below. On December 31, 1999 the Company sold its asset-based lending subsidiary, BNC Financial Corporation, which is treated as a discontinued operation.
Business Combinations. Business combinations which have been accounted for under the purchase method of accounting include the results of operations of the acquired businesses from the date of acquisition. Net assets of the companies acquired were recorded at their estimated fair value as of the date of acquisition. Other business combinations have been accounted for under the pooling-of-interests method of accounting which requires the assets, liabilities and stockholders' equity of the merged entity to be retroactively combined with the Company's respective accounts at recorded value. Prior period financial statements have been restated to give effect to business combinations accounted for under this method.
Discontinued Operation. The results of the discontinued operation and any gain or loss on disposal are reported separately from continuing operations. Prior period financial statements have been restated to give effect to the discontinued operation accounted for under this method.
Principles of Consolidation. The accompanying consolidated financial statements include the accounts of BNCCORP and its wholly-owned subsidiaries. All significant intercompany transactions and balances have been eliminated in consolidation.
Cash and Cash Equivalents. For the purpose of presentation in the consolidated statements of cash flows, the Company considers amounts included in the consolidated balance sheet captions "cash and due from banks" and "interest-bearing deposits with banks" to be cash equivalents.
Investment Securities. Investment and mortgage-backed securities which the Company intends to hold for indefinite periods of time, including securities that management intends to use as part of its asset/liability management strategy, or that may be sold in response to changes in interest rates, changes in prepayment risk, the need to increase regulatory capital or similar factors, as well as securities on which call options have been written, are classified as available for sale. Available-for-sale securities are measured at fair value. Net unrealized gains and losses, net of deferred income taxes, on investments and mortgage-backed securities available for sale, while included in comprehensive income (see "Comprehensive Income"), are excluded from earnings and reported as a separate component of stockholders' equity until realized. All securities were classified as available for sale as of December 31, 1999 and 1998. Investment and mortgage-backed securities which the Company intends to hold until maturity are stated at cost, adjusted for amortization of premiums and accretion of discounts using a method that approximates level yield.
Declines in the fair value of individual available-for-sale or held-to-maturity securities below their cost which are other than temporary could result in write-downs of the individual securities to their fair value. Such write-downs, should they occur, would be included in earnings as realized losses. There were no such write-downs during 1999, 1998 or 1997.
Securities purchased and sold for purposes of generating profits on short-term differences in market prices are classified as trading securities. Trading securities are stated at fair value and adjustments to fair value are reported in noninterest income. The Company held no securities for trading purposes as of December 31, 1999 or 1998.
Realized gains and losses on sales of investment securities are computed using the specific identification method at the time of sale and are recorded in noninterest income.
Loans and Leases. Loans are stated at their outstanding principal amount net of unearned income and an allowance for credit losses.
Loans are generally placed on a nonaccrual status for recognition of interest income when, in the opinion of management, uncertainty exists as to the ultimate collection of principal or interest. At the time a loan is placed on nonaccrual status, accrued but uncollected interest income applicable to the current reporting period is reversed against interest income of the current period. Accrued but uncollected interest income applicable to previous reporting periods is charged against the credit loss reserve. While a loan is classified as nonaccrual, collections are generally applied as a reduction to principal outstanding.
Allowance for Credit Losses. The Company maintains its allowance for credit losses at a level considered adequate to provide for an estimate of probable losses related to specifically identified loans as well as probable losses inherent in the remaining loan and lease portfolio that have been incurred as of each balance sheet date. The loan and lease portfolio and other credit exposures are reviewed regularly to evaluate the adequacy of the allowance for credit losses. In determining the level of the allowance, the Company evaluates the allowance necessary for specific nonperforming loans and also estimates losses inherent in other credit exposures. The resultant three allowance components are as follows:
Specific Allowance. This component is determined through a loan-by-loan analysis of nonperforming loans that considers expected future cash flows, the value of collateral and other factors that may impact the borrower's ability to pay.
Allocated Inherent Allowance. This component is based on loss factors assigned to the Company's credit exposures based on internal credit risk ratings. These loss factors are primarily based on management's judgment concerning the effect of the business cycle on the creditworthiness of the Company's borrowers as well as historical charge-off experience.
Unallocated Inherent Allowance. The unallocated portion of the inherent loss allowance is based on factors that cannot be associated with a specific credit or loan risk rating categories. These factors include management's subjective evaluation of local and national economic and business conditions, portfolio concentrations and changes in the character and size of the loan portfolio. The unallocated portion of the inherent loss allowance reflects management's attempt to ensure that the overall allowance appropriately reflects a margin for the imprecision necessarily inherent in estimates of expected credit losses.
Continuous credit monitoring processes and the quarterly analysis of specific and inherent loss components is the principal method relied upon by management to ensure that changes in estimated credit loss levels are reflected in the Company's allowance for credit losses on a timely basis. Management also considers experience of peer institutions and regulatory guidance in addition to the Company's own experience.
Loans, leases and other extensions of credit deemed uncollectible are charged to the allowance. Subsequent recoveries, if any, are credited to the allowance. Actual losses may vary from current estimates and the amount of the provision may be either greater than or less than actual net charge-offs. The related provision for credit losses, which is charged to income, is the amount necessary to adjust the allowance to the level determined appropriate through application of the above process.
Loan Origination Fees and Costs. Loan origination fees and costs incurred to extend credit are deferred and amortized over the term of the loan as a yield adjustment. Loan fees representing adjustments of yield are generally deferred and amortized into interest income over the term of the loan using the interest method. Loan commitment fees are generally deferred and amortized into noninterest income on a straight-line basis over the commitment period.
Mortgage Servicing and Transfers of Financial Assets. The Banks regularly sell loans to others on a non-recourse basis. Sold loans are not included in the accompanying balance sheets. The Banks generally retain the right to service the loans as well as the right to receive a portion of the interest income on the loans. At December 31, 1999 and 1998, the Banks were servicing loans for the benefit of others with aggregate unpaid principal balances of $148.7 and $73.8 million, respectively. The vast majority of the loans sold by the Banks are commercial lines of credit for which balances and related payment streams cannot be reasonably estimated in order to determine the fair value of the servicing rights and/or future interest income retained by the Banks.
Premises, Leasehold Improvements and Equipment. Premises, leasehold improvements and equipment are reported at cost less accumulated depreciation and amortization. Depreciation and amortization for financial reporting purposes is charged to operating expense using the straight-line method over the estimated useful lives of the assets. Estimated useful lives are up to 40 years for buildings and three to ten years for furniture and equipment. Leasehold improvements are amortized over the shorter of the lease term or the estimated useful life of the improvement. The costs of improvements are capitalized. Maintenance and repairs, as well as gains and losses on dispositions of premises and equipment, are included in noninterest expense as incurred.
Other Real Estate Owned and Repossessed Property. Real estate properties and other assets acquired through, or in lieu of, loan foreclosure are included in other assets in the balance sheet and are stated at the lower of carrying amount or fair value less cost to sell. When an asset is acquired, the excess of the recorded investment in the asset over fair value, if any, is charged to the allowance for credit losses. Subsequent declines in the estimated fair value, net operating results and gains and losses on disposition of the asset are included in other noninterest expenses. The Company's investment in such assets at December 31, 1999 and 1998 was $1.2 and $2.1 million, respectively.
Deferred Charges and Intangible Assets. Deferred charges and intangible assets includes premiums paid for deposits assumed, goodwill, debt related costs and other miscellaneous intangibles. Deposit premiums are being amortized over their estimated lives of ten years using the straight-line method. Goodwill represents the aggregate excess of the cost of subsidiaries acquired over the fair value of their net assets at dates of acquisition and is being amortized over its estimated useful life of 15 to 25 years using the straight-line method. Debt related costs represent legal, accounting and other fees and expenses associated with the issuance of such indebtedness. These costs are being amortized over the term of the notes using the effective interest rate method. The Company's intangible assets are monitored to assess recoverability and determine whether events and circumstances require adjustment to the recorded amounts or amortization periods. See "Impairment of Long-Lived Assets."
Impairment of Long-Lived Assets. The Company periodically reviews long-lived assets including property and equipment, certain identifiable intangibles and goodwill for impairment. If impairment is identified, the assets are written down to their fair value through a charge to noninterest expense. No such impairment losses were recorded during 1999, 1998 or 1997.
Securities Sold Under Agreements to Repurchase. From time to time, the Company enters into sales of securities under agreements to repurchase, generally for periods of less than 90 days. Fixed coupon agreements are treated as financings, and the obligations to repurchase securities sold are reflected as a liability in the balance sheets. The cost of securities underlying the agreements remain in the asset accounts.
Fair Values of Financial Instruments. The following methods and assumptions were used by the Company in estimating fair values of financial instruments as disclosed herein:
Cash and Cash Equivalents, Noninterest-Bearing Deposits and Demand Deposits. The carrying amounts approximate fair value due to the short maturity of the instruments. The fair value of deposits with no stated maturity, such as NOW, savings and money market accounts, is equal to the amount payable on demand at the reporting date.
Securities. The fair value of the Company's securities equals the quoted market price.
Loans. Fair values for loans are estimated by discounting future cash flow payment streams using rates at which current loans to borrowers with similar credit ratings and similar loan maturities are being made.
Interest-Bearing Deposits. Fair values of interest-bearing deposit liabilities are estimated by discounting future cash flow payment streams using rates at which comparable current deposits with comparable maturities are being issued.
Borrowings. The carrying amount of short-term borrowings approximates fair value due to the short maturity and the instruments' floating interest rates, which are tied to market conditions. The fair values of long-term borrowings, for which the maturity extends beyond one year, are estimated by discounting future cash flow payment streams using rates at which comparable borrowings are currently being offered.
Derivative Financial Instruments. As part of managing its interest rate risk, the Company may, from time to time, use derivative financial instruments such as interest rate swaps, floors and caps. Such instruments are used to hedge market values and to alter the cash flow characteristics of certain on-balance sheet instruments. The derivative instruments used to manage interest rate risk are linked with a specific asset or liability or a group of related assets or liabilities at the inception of the derivative contract and have a high degree of correlation with the associated balance sheet item during the hedge period. Net interest income or expense on derivative contracts used for interest rate risk management is accrued. Realized gains and losses on contracts, either settled or terminated, are deferred and are recorded as either an adjustment to the carrying value of the related on-balance sheet asset or liability or in other assets or other liabilities. Deferred amounts are amortized into interest income or expense over either the remaining original life of the derivative instrument or the expected life of the associated asset or liability. Unrealized gains or losses on these contracts are not recognized on the balance sheet. The Company does not conduct trading activities or hold derivative financial instruments for speculative purposes.
Trust Fees. Trust fees are recorded on the accrual basis of accounting.
Income Taxes. BNCCORP and its subsidiaries file a consolidated federal income tax return. State income tax returns are filed separately by each subsidiary. In accordance with a tax sharing arrangement, BNCCORP collects for or pays to each of its subsidiaries the tax or tax benefit resulting from its inclusion in the consolidated federal return.
Deferred income taxes are reported for temporary differences between items of income or expense reported for financial statement purposes and those reported for income tax purposes. The differences relate primarily to differences in
accounting for loan losses, depreciation timing differences, unrealized gains and losses on investment securities, deferred compensation and leases which are treated as operating leases for tax purposes and capital leases for financial statement purposes.
Earnings Per Common Share. Basic earnings per share is computed by dividing net income by the weighted average common shares outstanding during the applicable period. Diluted earnings per share is computed based on the amount of net income that would be available for each common share, assuming all dilutive potential common shares were issued. Such dilutive potential common shares include stock options and warrants (see Note 19).
Comprehensive Income (Loss). The Company presents a consolidated statement of comprehensive income (loss) detailing changes in the amounts of items which bypass the income statement and are reported with a balance in stockholders' equity.
Segment Disclosures. The Company has provided disclosure of financial and descriptive information about reportable operating segments in Note 20.
Other Recently Issued Accounting Standards. On January 1, 1999, the Company adopted Statement of Position 98-5, "Reporting on the Costs of Start-Up Activities" ("SOP 98-5"), which requires costs of start-up activities and organization costs to be expensed as incurred. SOP 98-5 did not require restatement of prior period financial statements. The impact of adoption of SOP 98-5 is presented in the consolidated financial statements as a cumulative effect of change in accounting principle.
In June 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging Activities," ("SFAS 133"). SFAS 133 establishes accounting and reporting standards requiring that every derivative instrument (including certain derivative instruments embedded in other contracts) be recorded in the balance sheet as either an asset or liability measured at its fair value. SFAS 133 requires that changes in the derivative=s fair value be recognized currently in earnings unless specific hedge accounting criteria are met. Special accounting for qualifying hedges allows a derivative's gains and losses to offset related results on the hedged item in the income statement, and requires that a company must formally document, designate, and assess the effectiveness of transactions that receive hedge accounting.
SFAS 133 is effective for fiscal years beginning after June 15, 2000 and cannot be applied retroactively. SFAS 133 must be applied to (a) derivative instruments and (b) certain derivative instruments embedded in hybrid contracts that were issued, acquired, or substantively modified after December 31, 1997 (and, at the Company's election, before January 1, 1998).
The Company plans to adopt SFAS 133 on January 1, 2001 and is currently in the process of developing applicable policy statements, effecting any necessary system changes and quantifying the impact of the adoption of SFAS 133 on its financial statements. Adoption of the accounting standard could increase volatility in earnings and other comprehensive income.
Regulatory Environment. BNCCORP and its subsidiaries are subject to regulations of certain state and federal agencies, including periodic examinations by those regulatory agencies. BNCCORP and its subsidiary banks are also subject to minimum regulatory capital requirements. At December 31, 1999, capital levels exceed minimum capital requirements (see Note 11).
Reclassifications. Certain amounts in the financial statements for prior years have been reclassified to conform with the current year's presentation.
Use of Estimates. The preparation of consolidated 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 revenues and expenses during the reporting period. The actual results could differ from those estimates.
2. Acquisitions and Divestitures:
On December 31, 1999, the Company sold its asset-based lending subsidiary, BNC Financial Corporation ("BNC Financial"), to Associated Banc-Corp of Green Bay, Wisconsin. The Company received $5.3 million in cash for all of the issued and outstanding common stock of BNC Financial.
Operating results of BNC Financial for the nine months ended September 30, 1999 are shown separately in the accompanying consolidated statement of income. The gain on disposal of BNC Financial of $438,000 (pretax gain of $706,000, net of income tax effects of $268,000) included operating results for the subsidiary during the phase out period of October 1 through December 31, 1999 and other adjustments related to the winding down of BNC Financial's operations. The income statements for the years ended December 31, 1998 and 1997 have been restated to reflect the operating results of BNC Financial as discontinued.
Net interest income and noninterest income for BNC Financial for the years ended December 31, 1999, 1998 and 1997 were $1.6 million and $266,000, $1.1 million and $208,000, and $528,000 and $196,000, respectively. These amounts are not included in net interest income and noninterest income in the accompanying consolidated income statements.
The net assets and liabilities of BNC Financial at December 31, 1998 and 1997 have been separately classified in the accompanying consolidated balance sheets.
The following mergers and acquisitions were consummated during the three years ended December 31, 1999:
In January 1997, BNC-North Dakota acquired the stock of J.D. Meier Insurance Agency, Inc., Linton, North Dakota ("J.D. Meier") for $34,000. Three executive officers of the Company owned stock in J.D. Meier.
In August 1997, BNC-North Dakota purchased a management agreement between Preferred Investment Services, Inc., and Preferred Pension Investors I-87, an Illinois Partnership (the "Agreement") for $394,000. An executive officer/director of BNCCORP owned stock in Preferred Investment Services, Inc. Under the Agreement, BNC-North Dakota, through its trust and financial services division, provides administrative management services for pension assets. Goodwill of $394,000 resulting from the transaction is being amortized over 15 years.
On January 1, 1998, the Company acquired Lips & Lahr, Inc. ("Lips & Lahr") in a business combination accounted for as a pooling of interests. Lips & Lahr, which engages in the insurance business was merged into J.D. Meier and became a wholly owned subsidiary of BNC-North Dakota through the exchange of 63,406 shares of BNCCORP common stock for all of the outstanding stock of Lips & Lahr. The name of the combined agency was subsequently changed to BNC Insurance, Inc. ("BNC Insurance"). Under the provisions of the agreement and plan of merger related to the business combination, former stockholders of Lips & Lahr had the right to receive additional shares of BNCCORP common stock on the first anniversary of the initial share distribution date based on a formula relating to final resolution of contingencies pending at the consummation date.
3. Restrictions on Cash and Due From Banks:
BNCCORP's subsidiary banks are required to maintain reserve balances in cash with the Federal Reserve Bank. The amount of those reserve balances was $1.5 and $1.3 million as of December 31, 1999 and 1998, respectively.
4. Debt and Equity Securities:
Debt and equity securities have been classified in the consolidated balance sheets according to management's intent. The Company had no securities designated as trading or held-to-maturity in its portfolio at December 31, 1999 or 1998. The carrying amount of securities and their approximate market values were as follows as of December 31 (in thousands):
The amortized cost and estimated fair market value of securities available for sale (other than equity securities) classified according to their contractual maturities at December 31, 1999, were as follows (in thousands):
Available-for-Sale Securities ---------------------- Estimated Amortized Market Cost Value ---------- ----------- Due in one year or less........... $ 1,413 $ 1,409 Due after one year through five 3,920 3,886 years............................. Due after five years through ten 20,707 20,452 years............................. Due after ten years............... 122,826 119,602 ---------- ----------- Total.......................... $ 148,866 $ 145,349 ========== ===========
Securities carried at approximately $126.5 and $83.8 million at December 31, 1999 and 1998, respectively, were pledged as collateral for public deposits and borrowings, including borrowings with the Federal Home Loan Bank ("FHLB").
Sales proceeds and gross realized gains and losses on securities available for sale were as follows for the years ended December 31 (in thousands):
1999 1998 1997 ----------- ----------- ----------- Sales proceeds........ $ 39,732 $ 58,855 $ 27,198 Gross realized gains.. $ 239 $ 164 $ 40 Gross realized losses. $ 41 $ 34 $ 32
Income taxes applicable to net gains and losses on securities available for sale were $75,000, $49,000 and $3,000 for the years ended December 31, 1999, 1998 and 1997, respectively.
5. Loans and Leases:
Composition of Loan and Lease Portfolio. The composition of the loan and lease portfolio was as follows as of December 31 (in thousands):
1999 1998 ---------- ----------- Commercial and industrial..... $ 111,236 $ 107,886 Real estate: Mortgage................... 91,906 76,692 Construction............... 16,026 20,831 Agricultural.................. 16,679 19,777 Consumer...................... 13,232 14,345 Lease financing............... 11,307 7,422 Other......................... 1,884 416 ---------- ----------- Total...................... 262,270 247,369 Less: Allowance for credit losses (2,872) (2,854) Unearned income............ (219) (188) ---------- ----------- Net loans and leases.... $ 259,179 $ 244,327 ========== ===========
Geographic Location and Types of Loans. Loans were to borrowers located in the following market areas as of December 31:
1999 1998 -------- ------- North Dakota............ 46% 42% Minnesota............... 43 49 Other................... 11 9 ======== ======= Totals............ 100% 100% ======== =======
Commercial loan borrowers are generally small- and mid-sized corporations, partnerships and sole proprietors in a wide variety of businesses. Loans to consumers are both secured and unsecured. Real estate loans are fixed or variable rate and include both amortizing and revolving line-of-credit loans. Real estate mortgage loans include various types of loans for which the Company holds real property as collateral. Of the $91.9 and $76.7 million real estate mortgages as of December 31, 1999 and 1998, respectively, approximately $38.2 and $35.0 million, respectively, were loans made to commercial customers where the collateral for the loan is, among other things, the real estate occupied by the business of the customer. Accordingly, certain loans categorized as real estate mortgage loans can be characterized as commercial loans that are secured by real estate. Single- and multi-family residential mortgage loans totaling $9.6 million at December 31, 1999 and 1998 were pledged as collateral for FHLB borrowings. Commercial loans totaling $30.9 million at December 31, 1999 were pledged as collateral for borrowings, including FHLB borrowings.
The Company's credit policies emphasize diversification of risk among industries, geographic areas and borrowers. The only concentrations of loans exceeding 10 percent of total loans at December 31, 1999 are construction loans and real estate loans such as loans to non-residential and apartment building operators and lessors of real property. Loans within these categories are diversified across different types of contractors and operators, geographically dispersed and secured by many different types of real estate and other collateral.
Impaired Loans. As of December 31, the Company's recorded investment in impaired loans and the related valuation allowance were as follows (in thousands):
1999 1998 ------------------------ ----------------------- Recorded Valuation Recorded Valuation Investment Allowance Investment Allowance ----------- ----------- ---------- ---------- Impaired loans -- Valuation allowance required............... $ 5,255 $ 911 $ 8,639 $ 960 No valuation allowance required.................. 742 -- 624 -- =========== =========== ========== ========== Total impaired loans... $ 5,997 $ 911 $ 9,263 $ 960 =========== =========== ========== ==========
Impaired loans generally include loans on which management believes, based on current information and events, it is probable that the Company will not be able to collect all amounts (i.e., contractual principal and interest) due in accordance with the terms of the loan agreement and which are analyzed for a specific reserve allowance. The Company generally considers all loans risk-graded substandard and doubtful as well as nonaccrual and restructured loans as impaired loans.
The valuation allowance on impaired loans is included in the allowance for credit losses noted above.
Interest payments received on impaired loans are recorded as interest income unless collection of the remaining recorded investment is doubtful at which time payments received are recorded as reductions of principal. The average recorded
investment in impaired loans and approximate interest income recognized for such loans were as follows for the years ended December 31 (in thousands):
1999 1998 1997 --------- --------- --------- Average recorded investment in impaired loans.............................. $ 8,977 $ 9,542 $ 7,308 ========= ========= ========= Interest income recognized on impaired loans.............................. $ 914 $ 992 $ 747 ========= ========= ========= Average recorded investment in impaired loans as a percentage of average total loans.............................. 3.6% 4.1% 3.4% ========= ========= =========
Nonaccrual and Restructured Loans. As of December 31, 1999 and 1998, the Company had $1.6 and $2.0 million, respectively, of nonaccrual loans and $16,000 and $44,000, respectively, of restructured loans (included as impaired loans above). The following table indicates the effect on income if interest on such loans outstanding at year-end had been recognized at original contractual rates during the year ended December 31 (in thousands):
1999 1998 1997 --------- --------- --------- Interest income that would have been recorded.............................. $ 141 $ 224 $ 56 Interest income recorded.............. 29 175 26 ========= ========= ========= Effect on interest income............. $ 112 $ 49 $ 30 ========= ========= =========
As of December 31, 1999, the Company had no commitments to lend additional funds to borrowers with loans whose terms have been modified in troubled debt restructurings.
Allowance for Credit Losses. Transactions in the allowance for credit losses were as follows for the years ended December 31 (in thousands):
1999 1998 1997 --------- --------- --------- Balance, beginning of year............. $ 2,854 $ 2,919 $ 1,545 Provision for credit losses......... 1,138 1,201 2,518 Loans charged off................... (1,290) (1,455) (1,921) Loans recovered..................... 170 189 777 ========= ========= ========= Balance, end of year................... $ 2,872 $ 2,854 $ 2,919 ========= ========= =========
6. Premises, Leasehold Improvements and Equipment:
Premises, leasehold improvements and equipment consisted of the following at December 31 (in thousands):
1999 1998 ---------- ---------- Land and improvements.......................... $ 1,118 $ 530 Buildings and improvements..................... 7,732 5,046 Leasehold improvements......................... 971 892 Furniture, fixtures and equipment.............. 6,759 5,896 ---------- ---------- Total cost.................................. 16,580 12,364 Less accumulated depreciation and amortization. (4,574) (3,578) ---------- ---------- Net premises, leasehold improvements and equipment................................ 12,006 8,786 ========== ==========
Depreciation and amortization expense on premises, leasehold improvements and equipment charged to continuing operations totaled approximately $1.0 million, $887,000 and $706,000 for the years ended December 31, 1999, 1998 and 1997, respectively.
7. Deferred Charges and Intangible Assets:
Deferred charges and intangible assets consisted of the following at December 31 (in thousands):
1999 1998 ----------- ----------- Premiums paid for deposits assumed............. $ 4,022 $ 4,022 Goodwill....................................... 1,115 1,115 Covenants not to compete....................... 480 480 Debt related costs............................. 161 161 Other miscellaneous intangibles................ 112 472 ----------- ----------- Total costs................................. 5,890 6,250 Less accumulated amortization ................. (2,629) (2,293) ----------- ----------- Net deferred charges and intangible assets.. $ 3,261 $ 3,957 =========== ===========
Amortization expense charged to continuing operations was $541,000, $611,000 and $585,000 for the years ended December 31, 1999, 1998 and 1997, respectively.
8. Income Taxes:
The provision (benefit) for income taxes consists of the following for the years ended December 31 (in thousands):
1999 1998 1997 -------- --------- -------- Continuing Operations-- Current................................ $ 726 $ 1,136 $ 1,375 Deferred income taxes from the following timing differences: Provision for credit losses....... 117 (80) (550) Depreciation...................... (66) 46 40 Write-downs of other real estate owned and repossessed assets..... (829) -- -- Leases............................ (69) (38) 18 Other............................. (278) (34) 72 -------- --------- -------- $ (399) $ 1,030 $ 955 ======== ========= ========
1999 1998 1997 -------- --------- -------- Discontinued Operation-- Current................................ $ 410 $ 331 $ 126 Deferred income taxes from the following timing differences: Provision for credit losses....... 98 (36) (42) Depreciation...................... 4 -- 2 Other............................. 48 (32) 3 -------- --------- -------- $ 560 $ 263 $ 89 ======== ========= ========
The provision (benefit) for federal income taxes expected at the statutory rate differs from the actual provision as follows for the years ended December 31 (in thousands):
1999 1998 1997 -------- --------- -------- Tax at 34% statutory rate................ $ (316) $ 990 $ 766 Increase (decrease) resulting from: State taxes (net of federal benefit).. (1) 43 154 Tax-exempt interest................... (142) (28) (20) Other, net............................ 60 25 55 -------- --------- -------- $ (399) $ 1,030 $ 955 ======== ========= ========
Temporary differences between the financial statement carrying amounts and tax bases of assets and liabilities that result in significant portions of the Company's deferred tax assets and liabilities are as follows as of December 31 (in thousands):
1999 1998 -------- -------- Deferred tax asset: Loans, primarily due to differences in accounting for credit losses.............................. $ 1,087 $ 1,165 Unrealized loss on securities available for sale.. 1,288 -- Write-downs of other real estate owned and repossessed assets................................... 829 -- Net operating loss carry forwards................. 18 18 Other............................................. 420 294 -------- -------- Deferred tax asset.......................... 3,642 1,477 -------- -------- Deferred tax liability: Unrealized gain on securities available for sale.. -- 90 Leases, primarily due to differences in accounting for leases..................................... 435 504 Premises and equipment, primarily due to differences in original cost basis and depreciation................................... 469 535 Other............................................ 97 210 -------- -------- Deferred tax liability...................... 1,001 1,339 ======== ======== Net deferred tax asset...................... $ 2,641 $ 138 ======== ========
9. Notes Payable:
The Company's notes payable consist of the following as of December 31 (in thousands):
- ---------------- (1) The weighted average interest rate on short-term borrowings outstanding as of December 31, 1999 and 1998 was 5.74% and 4.99%, respectively.
In January 2000, the Company reduced its fixed rate FHLB borrowings by $16.5 million and increased its FHLB repurchase agreements by $43.5 million. Terms and rates on the new advances are comparable to those indicated above.
The Subordinated Notes, which qualify as Tier 2 capital up to a certain limit under the Federal Reserve Board's risk-based capital guidelines (76 percent at December 31, 1999), are considered unsecured general obligations of BNCCORP. They are redeemable, at the option of BNCCORP, at par plus accrued interest to the date of redemption, beginning on May 31, 2000. Payment of principal of the Notes may be accelerated only in the case of certain events relating to bankruptcy, insolvency or reorganization of BNCCORP. An initial discount of $750,000 is being amortized to interest expense over the term of the Notes using the effective interest rate method.
The indenture pursuant to which the Subordinated Notes were issued contains covenants which, among other matters, restrict or limit the ability of BNCCORP and its subsidiaries, under certain circumstances, to pay cash dividends, redeem or repurchase stock or make other capital distributions, or allow liens or other encumbrances on property owned or acquired. The Company was in compliance with the indenture covenants as of December 31, 1999 and 1998.
10. Stockholders' Equity:
BNCCORP and its subsidiary banks are subject to certain minimum capital requirements (see Note 11). In addition, certain regulatory restrictions exist regarding the ability of the subsidiary banks to transfer funds to BNCCORP in the form of cash dividends, loans or advances. Approval of the principal regulator is required for the Banks to pay dividends to BNCCORP in excess of the subsidiary banks' earnings retained in the current year plus retained net profits for the preceding two years.
In connection with its initial public offering in 1995, BNCCORP agreed to sell to the underwriters, for nominal consideration, a warrant to purchase 50,000 shares of common stock (the "Warrant"). The Warrant became exercisable at $12 per share in June 1996 and expires on July 18, 2000. No warrants were exercised as of December 31, 1999.
11. Regulatory Capital:
BNCCORP and its subsidiary banks are subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatoryCand possibly additional discretionaryCactions by regulators that, if undertaken, could have a direct material effect on the Company's financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, BNCCORP and its subsidiary banks must meet specific capital guidelines that involve quantitative measures of their assets, liabilities and certain off-balance-sheet items as calculated under regulatory accounting practices. Capital amounts and classifications of BNCCORP and its banks are also subject to qualitative judgments by the regulators about components, risk weightings and other factors.
Quantitative measures established by the regulations to ensure capital adequacy require BNCCORP and its banks to maintain minimum amounts and ratios (set forth in the tables that follow) of total and Tier I capital (as defined in the regulations) to risk-weighted assets (as defined), and of Tier I capital (as defined) to average assets (as defined). Management believes that, as of December 31, 1999, BNCCORP and its banks met all capital adequacy requirements to which they are subject.
As of December 31, 1999, the most recent notifications from the Office of the Comptroller of the Currency categorized BNCCORP's 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 as set forth in the table that follows. There are no conditions or events since that notification that management believes have changed the institutions' categories.
Actual capital amounts and ratios of BNCCORP and its subsidiary banks as of December 31 are also presented in the tables (dollar amounts in thousands):
12. Fair Value of Financial Instruments:
The estimated fair values of the Company's financial instruments are as follows as of December 31 (in thousands):
13. Financial Instruments With Off-Balance-Sheet Risk:
In the normal course of business, the Company uses various off-balance sheet financial instruments to meet the needs of its customers and to manage its interest rate risk. These instruments carry varying degrees of credit, interest rate or liquidity risk.
Commitments to extend credit are legally binding and generally have fixed expiration dates or other termination clauses. The contractual amount represents the Company's exposure to credit loss in the event of default by the borrower. The Company manages this credit risk by using the same credit policies it applies to loans. Collateral is obtained to secure commitments based on management's credit assessment of the borrower. The collateral may include marketable securities, receivables, inventory, equipment and real estate. Since the Company expects many of the commitments to expire without being drawn, total commitment amounts do not necessarily represent the Company's future liquidity requirements related to such commitments.
Standby letters of credit are conditional commitments the Company issues to guarantee the performance of a customer to a third party. Commercial letters of credit are issued on behalf of customers to ensure payment or collection in connection with trade transactions. In the event of a customer's nonperformance,
the Company's credit loss exposure is the same as in any extension of credit, up to the letter's contractual amount. Management assesses the borrower's credit to determine the necessary collateral, which may include marketable securities, real estate, accounts receivable and inventory. Since the conditions requiring the Company to fund letters of credit may not occur, the Company expects its liquidity requirements related to such letters of credit to be less than the total outstanding commitments.
Interest rate swaps are contracts to exchange fixed and floating rate interest payment obligations based on a notional principal amount. The Company enters into swaps to hedge its balance sheet against fluctuations in interest rates. Interest rate caps and floors are also used to minimize the impact of fluctuating interest rates on earnings. The credit risk related to interest rate contracts is that counterparties may be unable to meet the contractual terms of the agreements. This risk is estimated by calculating the present value of the cost to replace outstanding contracts in a gain position at current market rates, reported on a net basis by counterparties. The Company manages the credit risk of its interest rate contracts through bilateral collateral agreements, credit approvals, limits and monitoring procedures. Additionally, the Company reduces the assumed counterparty credit risk through master netting agreements that permit the Company to settle interest rate contracts with the same counterparty on a net basis.
The contractual or notional amounts of these financial instruments were as follows as of December 31 (in thousands):
1999 1998 ---------- ---------- Commitments to extend credit........ $ 68,932 $ 82,311 Letters of credit................... 2,399 1,840 Interest rate floors................ 25,000 25,000
The $25.0 million prime based interest rate floor was purchased in September 1998. The contract is for a term of five years and is designated as a hedge of floating rate commercial loans. The strike rate on the floor is 8.50 percent. A $1.1 million premium paid upon acquisition of the contract is being amortized over the life of the contract. Market value of the contract, defined as the contract's current replacement value, was approximately $400,000 at December 31, 1999.
The Company entered into three interest rate swap agreements and closed out those agreements during 1997. The resulting gains of $430,000 have been amortized over the life of the contracts. At December 31, 1999 and 1998, deferred gains of $271,000 and $332,000, respectively, resulting from the sale of interest rate swap contracts during 1997 were included in the balance sheet and were being amortized as a reduction of interest expense over the original lives of the swap contracts.
14. Related-Party Transactions:
The Company has entered into transactions with related parties including the insurance agency and management agreement purchases discussed in Note 2. In the opinion of management, such transactions have been fair and reasonable to the Company and have been entered into under terms and conditions substantially the same as those offered by the Company to unrelated parties.
In the normal course of business, loans are granted to executive officers, directors, principal stockholders and to associates of such persons. The aggregate dollar amount of these loans, exclusive of loans to any such persons which in the aggregate did not exceed $60,000, were $1.4 million and $969,000 at December 31, 1999 and 1998, respectively. During 1999, $630,000 of new loans were made and repayments totaled $245,000. Loans to these parties were made on substantially the same terms, including interest rates and collateral, as those
prevailing at the time for comparable transactions with unrelated persons and do not involve more than the normal risk of collectibility.
15. Write Downs of Other Real Estate Owned and Repossessed Assets:
The Company recorded write downs to estimated net realizability of other real estate owned and repossessed assets of $2.3 million and $2,000 for the years ended December 31, 1999 and 1998, respectively. The Company's investment in other real estate owned and repossessed assets of $1.2 million as of December 31, 1999 represents management's current estimate of net realizable value based upon current outstanding offers received by the Company.
16. Benefit Plans:
BNCCORP has a 401(k) plan covering all employees of BNCCORP and its subsidiaries who meet specified age and service requirements. Eligible employees may elect to defer up to 15 percent of compensation each year not to exceed the dollar limit set by law. At their discretion, BNCCORP and its subsidiaries provide matching contributions of up to 50 percent of employee deferrals up to a maximum employer contribution of 5 percent of compensation. The Company made matching contributions of $171,000, $172,000, and $131,000 in 1999, 1998 and 1997, respectively. Under the investment options available under the 401(k) plan, employees may elect to invest their salary deferrals in BNCCORP stock.
17. Commitments and Contingencies:
Employment Agreements and Noncompete Convenants. The Company has entered into three-year employment agreements with its chief executive officer ("CEO"), president and chief operating officer ("COO") and the presidents of BNC-North Dakota's Fargo Branch and BNC-Minnesota (the "Executives"). The Executives will be paid minimum annual salaries throughout the terms of the agreements and annual incentive bonuses as may, from time to time, be fixed by the board of directors. The Executives will also be provided with benefits under any employee benefit plan maintained by BNCCORP for its employees generally, or for its senior executive officers in particular, on the same terms as are applicable to other senior executives of BNCCORP. Under the agreements of the CEO and COO, if status as employees with BNCCORP is terminated for any reason other than death, disability, cause, as defined in the agreements, or if they terminate their employment for good reason, as defined in the agreements, or following a change in control of the Company, as defined in the agreements, then the CEO and COO will be paid a lump-sum amount equal to three times their current annual compensation. Under the agreement with the president of BNC-Minnesota, if status as an employee with the Company is terminated for any reason other than death, disability, cause, or if the president terminates his employment for good reason, except in the event of a change in control of the Company, then he will be paid a lump-sum amount equal to 1/12th of his current annual compensation multiplied by the number of partial or full months remaining in the employment agreement. If status as an employee with the Company is terminated following a change in control of the Company, then he will be paid a lump-sum amount equal to three times his current annual compensation.
In conjunction with the business combination with Lips & Lahr, the Company assumed five-year employment agreements with two officers of Lips & Lahr (the "Officers"). The agreements, which originally provided for salaries based upon a percentage of all net annual commissions received by Lips & Lahr on business written by the Officers, were amended to provide for minimum annual salaries through the remainder of the contract term which runs through December 31, 2000. Additionally, the contracts provide for the payment of deferred compensation for a term of ten years commencing on February 1, 2001 and continuing monthly until paid in full. Finally, as separate consideration for the release of all present and future claims to the Officer's book of business at the end of the term of the employment contract and for other terms of the contract involving confidentiality, nonpiracy and a restrictive covenant covering a period of five years after the term of the agreement, the agreements provide for 120 monthly
payments also commencing on February 1, 2001. Both of the Officers resigned and are now acting as consultants to BNC Insurance pursuant to consulting agreements. Under these agreements, the Officers' annual salaries are replaced with annual consulting fees and the Company remains obligated under the deferred compensation and non-compete provisions of the original employment agreements.
In the business combination with Lips & Lahr, BNC Insurance assumed two additional non-compete agreements with former officers of Lips & Lahr. Monthly payments under these agreements, which commenced in 1996, are scheduled to continue into 2006.
Leases. The Company has entered into operating lease agreements for certain facilities and equipment used in its operations. Rent expense for the years ended December 31, 1999, 1998 and 1997, was $467,000, $333,000 and $324,000, respectively. Minimum annual base lease payments for operating leases with remaining terms of greater than one year are as follows:
2000............... $ 512,000 2001............... 496,000 2002............... 488,000 2003............... 450,000 2004............... 367,000 Thereafter......... 418,000
Property and Equipment. The Company is in the process of constructing an office building in Fargo, North Dakota. The total cost to complete the construction and provide furniture and equipment for the building is estimated at between $4.0 and $4.5 million and has been funded though available cash. The Company anticipates that excess office space in the new building will be rented out until such time as the Company's Fargo operations require use of the full building.
Legal Proceedings. In September 1998, BancInsure, BNC--North Dakota's insurer of employee fidelity, brought a declaratory judgment action in federal court against the bank and a former loan officer. The bank has filed proofs of loss with BancInsure claiming a loss in excess of $2.9 million resulting from the officer's unauthorized activities while she was a senior loan officer with the bank. The bank alleged that the officer's unauthorized activities consist of misrepresentation to management, conflicts of interest and breach of fiduciary duties to the bank in conjunction with her handling of her loan portfolio. BancInsure paid the bank the sum of $886,000 under a reservation of rights and in its lawsuit BancInsure requested that the court determine BancInsure's obligations to the bank under the fidelity insurance agreement it issued to the bank. BancInsure also requested that in the event the court determines that it is obligated to pay the bank under its insuring agreement, that a judgment of indemnity be entered for that amount against the officer. The bank filed a cross claim against the officer in the federal action for the losses sustained by the bank as a result of the officer's unauthorized activities. Prior state actions were dismissed and all claims will be litigated in federal court. The matter is set for trial February 28, 2000. The key issues to be determined at the trial are whether the bank should be required to refund any of the $886,000 received from BancInsure and/or whether BancInsure should be required to pay additional amounts to the bank under its insuring agreement. Management does not anticipate that the court will require the bank to refund any of the amount received from BancInsure and is uncertain as to how the court will rule on the issue of BancInsure's further obligations to the bank.
In April 1999, a complaint was filed in federal district court by a former customer of BNC--North Dakota (the "Plaintiff") against the bank, three of the bank's officers or employees, a second bank and two former customers of the bank (the "Customers"). The Plaintiff alleged violation of the federal Racketeer Influenced and Corrupt Organizations Act ("RICO"), fraud and breach of fiduciary duty. The Plaintiff alleged that these violations occurred in the course of his purchase of two businesses from the Customers in 1995. The Plaintiff also alleged that the same senior loan officer referred to in the legal proceedings
with BancInsure, with the assistance of the Customers and others, misrepresented the true financial state of the businesses to convince him to purchase these businesses and thereby keep the bank (and the Customers) from taking a significant financial loss. On September 22, 1999 the federal district judge dismissed the federal action based on failure to state a federal claim under the RICO statute. On September 28, 1999 the Plaintiff refiled the matter in state district court with essentially the same allegations and against the same parties. Motions to dismiss have been filed by all defendants and a hearing on these motions was heard on February 7, 2000. The court has taken the matter under advisement and the bank is awaiting a decision in the matter. Management considers this suit a frivolous action without merit and expects the state district court also to dismiss the action based on failure to state a claim under the RICO statute.
18. Stock-Based Compensation:
BNCCORP's Stock Incentive Plan (the "Stock Plan") is intended to provide long-term incentives to its key employees, including officers and directors who are employees of the Company. The Stock Plan, which is administered by the compensation committee of the board of directors (the "Committee"), provides for an authorization of 250,000 shares of common stock for issuance thereunder. Under the Stock Plan, the Company may grant employees incentive stock options, nonqualified stock options, restricted stock, stock awards or any combination thereof. The Committee establishes the exercise price of any stock options granted under the Stock Plan provided that the exercise price may not be less than the fair market value of a share of common stock on the date of grant. As of December 31, 1999, 31,500 restricted shares were outstanding under the Stock Plan. 20,000 shares of restricted stock vest in 33 1/3 percent increments during 1998, 1999 and 2000. 5,000 shares vest 60 percent in 2002 and an additional 20 percent in each of 2003 and 2004. 5,500 shares vest in 10 percent increments from 1999 through 2008 and the remaining 1,000 shares vest 30 percent in each of 2000 and 2001 and an additional 40 percent in 2002. The Company records the compensation expense related to restricted stock over the applicable service period. A total of 186,700 options had been awarded under the Stock Plan as of December 31, 1999.
The Company's Nonemployee Director Stock Option Plan (the "Directors' Plan") was adopted during 1998 and was also administered by the Committee. The Directors' Plan provided for 650 options to be issued to each nonemployee director of BNCCORP and its subsidiaries who was serving as a director immediately following each annual meeting of stockholders. The exercise price of stock options granted under the Directors' Plan was equal to the fair market value of a share of common stock on the date of grant. As of December 31, 1999, 4,550 options had been awarded under the Directors' Plan. The options are exercisable at a price of $17.75 per share and became fully vested on December 17, 1998. The Directors' Plan was terminated during 1999.
The Company applies Accounting Principles Board Opinion No. 25 and related interpretations in accounting for both the Stock Plan and the Directors' Plan. Accordingly, no compensation cost has been recognized for the options issued under the plans in 1999, 1998 or 1997. For the restricted stock issued under the Stock Plan, compensation cost charged to operations was $70,000 and $146,000 in 1999 and 1998, respectively. There was no compensation cost related to restricted stock charged to operations during 1997. Had compensation cost been determined on the basis of fair value pursuant to Statement of Financial Accounting Standards No. 123, net income and earnings per share ("EPS") would have been reduced as follows:
1999 1998 1997 ----------- ------------ ----------- Net Income: As Reported................ $ 242,000 $ 2,267,000 $1,426,000 Pro Forma.................. 139,000 2,118,000 1,412,000 Basic EPS: As Reported................ 0.10 0.95 0.59 Pro Forma.................. 0.06 0.85 0.58 Diluted EPS: As reported................ 0.10 0.91 0.59 Pro Forma.................. 0.06 0.80 0.58
A summary of the status of stock options under the Stock Plan and the Directors' Plan at December 31, 1999 and 1998 and changes during the years then ended, is presented in the tables and narrative below:
Stock Plan 1999 1998 --------------------- -------------------- Options Weighted Options Weighted To Average to Average Purchase Exercise Purchase Exercise Shares Price Shares Price --------- ---------- --------- --------- Outstanding, beginning of year.................... 146,210 $ 15.92 27,926 $ 10.00 Granted.................... 14,500 7.17 142,200 17.00 Exercised.................. -- -- 1,935 10.00 Forfeited.................. 42,826 16.29 21,981 15.92 --------- ---------- --------- --------- Outstanding, end of year... 117,884 $ 14.71 146,210 $ 15.92 ========= ========== ========= ========= Exercisable, end of year... 47,384 $ 11.73 18,088 $ 10.00 ========= ========== ========= ========= Weighted average fair value of options: Granted............... $ 3.18 $ 7.60 ========= ========= Exercised............. $ -- $ 4.50 ========= ========= Forfeited............. $ 7.29 $ 7.12 ========= =========
The fair value of each option granted is estimated on the grant date using the Black-Scholes option pricing model. The following assumptions were made in estimating fair value:
Following is a summary of the status of options outstanding under each of the Company's plans at December 31, 1999:
19. Earnings Per Common Share:
The following table shows the amounts used in computing EPS and the effect on weighted average number of shares of potential dilutive common stock issuances:
Net Income Shares Per-Share (Loss) (Denominator) Amount (Numerator) ------------ -------------- ----------- Basic earnings per share: Loss from continuing operations.... $ (529,000) 2,406,618 $ (0.22) Income from operations of discontinued asset- based lending subsidiary...................... 429,000 2,406,618 0.18 Gain on disposal of asset-based lending subsidiary.............. 438,000 2,406,618 0.18 Cumulative effect of change in accounting principle, net of income tax effects........... (96,000) 2,406,618 (0.04) ============ =========== Income available to common stockholders.................... $ 242,000 2,406,618 $ 0.10 ============ =========== Effect of dilutive shares -- Options......................... 400 -------------- Diluted earnings per share: Loss from continuing operations.... $ (529,000) 2,407,018 $ (0.22) Income from operations of discontinued asset-based lending subsidiary...................... 429,000 2,407,018 0.18 Gain on disposal of asset-based lending subsidiary.............. 438,000 2,407,018 0.18 Cumulative effect of change in accounting principle, net of income tax effects........... (96,000) 2,407,018 (0.04) ============ ============== =========== Income available to common stockholders.................... $ 242,000 2,407,018 $ 0.10 ============ ============== ===========
Net Income Shares Per-Share (Loss) (Denominator) Amount (Numerator) ------------ -------------- ----------- Basic earnings per share: Income from continuing operations.. $ 1,882,000 2,397,340 $ 0.79 Income from operations of discontinued asset-based lending subsidiary...................... 385,000 2,397,340 0.16 ============ =========== Income available to common stockholders.................... $ 2,267,000 2,397,340 $ 0.95 ============ =========== Effect of dilutive shares -- Options......................... 58,013 Warrants........................ 48,182 -------------- Diluted earnings per share: Income from continuing operations.. $ 1,882,000 2,503,535 $ 0.75 Income from operations of discontinued asset-based lending subsidiary...................... 385,000 2,503,535 0.16 ============ ============== =========== Income available to common stockholders.................... $ 2,267,000 2,503,535 $ 0.91 ============ ============== ===========
Basic earnings per share: Income from continuing operations.. $ 1,299,000 2,402,126 $ 0.54 Income from operations of discontinued asset-based lending subsidiary...................... 127,000 2,402,126 0.05 ============ =========== Income available to common stockholders.................... $ 1,426,000 2,402,126 $ 0.59 ============ =========== Effect of dilutive shares -- Options......................... 5,831 Warrants........................ 4,791 -------------- Diluted earnings per share: Income from continuing operations.. $ 1,299,000 2,412,748 $ 0.54 Income from operations of discontinued asset-based lending subsidiary...................... 127,000 2,412,748 0.05 ============ ============== =========== Income available to common stockholders.................... $ 1,426,000 2,412,748 $ 0.59 ============ ============== ===========
The following options and warrants, with exercise prices ranging from $5.875 to $17.75, were outstanding during the periods indicated but were not included in the computation of diluted EPS because their effects were antidilutive:
20. Segment Disclosures:
BNCCORP segments its operations into two separate business activities, based on the nature of the products and services for each segment: BNC - North Dakota and BNC - Minnesota.
The operations of BNC - North Dakota provide traditional community banking services to individuals and small and mid-size businesses, such as accepting deposits, consumer and mortgage banking activities and making commercial loans. The mortgage and commercial banking activities include the origination and purchase of loans as well as servicing of loans to others. In addition to these banking services, BNC - North Dakota also provides brokerage, trust and other financial services and sells insurance products.
BNC - Minnesota also provides traditional banking services, but this segment is identified primarily from its commercial banking activities in Minnesota.
The accounting policies of the two segments are the same as those described in the summary of significant accounting policies, which conform to generally accepted accounting principles. The information shown in the following tables have been restated to give the effect of any business combinations that have been accounted for under the pooling-of-interests method.
The Company's financial information for each segment is derived from the internal profitability reporting system used by management to monitor and manage the financial performance of the company. The operating segments have been determined by how management has organized the business for making operating decisions and assessing performance.
The following tables present segment profit or loss, assets and a reconciliation of segment information as of, and for the periods ended, December 31 (in thousands): ----------------------------------------------- BNC- North BNC- Other Dakota Minnesota (a) Total ----------- ----------- --------- ---------- Net interest income (loss).. $ 9,540 $ 3,547 $ (730) $ 12,357 Other revenue-external customers................ 5,035 1,033 -- 6,068 Other revenue-from other segments................. 282 -- 1,870 2,152 Depreciation and amortization 1,385 135 66 1,586 Equity in the net income of investees................. -- -- 96 96 Other significant noncash items: Provision for credit losses................ 719 417 18 1,154 Income tax expense (benefit). (211) 245 (433) (399) Segment profit (loss)from continuing operations..... (164) 338 (703) (529) Income from operations of discontinued asset-based lending subsidiary........ -- -- 429 429 Gain on disposal of asset-based lending subsidiary................ -- -- 438 438 Cumulative effect of change in accounting principle, net of income tax effects. (43) (35) (18) (96) Segment profit.............. (207) 303 146 242 Segment assets.............. 359,944 120,949 40,894 521,787 Expenditures for additions to assets................... 4,099 324 21 4,444
------------------------------------------------- Inter- Reportable Other segment Consolidated Segments (a) Elimination Total ----------- ----------- ----------- ----------- Net interest income (loss). $ 13,087 $ (730) $ -- $ 12,357 Other revenue-external customers............... 6,068 -- -- 6,068 Other revenue - from other segments................. 282 1,870 (2,152) -- Depreciation and amortization............ 1,520 66 -- 1,586 Equity in the net income of investees............. -- 96 (96) -- Other significant noncash items: Provision for credit losses............... 1,136 18 (16) 1,138 Income tax expense (benefit)............... 34 (433) -- (399) Segment profit (loss) from continuing operations.... 174 (703) -- (529) Income from operations of discontinued asset-based lending subsidiary....... -- 429 -- 429 Gain on disposal of asset-based lending subsidiary............... -- 438 -- 438 Cumulative effect of change in accounting principle, net of income tax effects.............. (78) (18) -- (96) Segment profit............. 96 146 -- 242 Segment assets............. 480,893 40,894 (64,910) 456,877 Expenditures for additions to assets................ 4,423 21 -- 4,444 - ---------------
(a) The financial information presented in the "Other" column is for the bank holding company. This component of the Company is not intended to earn revenue and does not qualify as an operating segment. The profit presented for the bank holding company includes the undistributed income from BNCCORP's consolidated subsidiaries.
------------------------------------------------ BNC- North BNC- Other Dakota Minnesota (a) Total ------------ ---------- --------- ---------- Net interest income (loss). $ 9,830 $ 3,422 $ (603) $ 12,649 Other revenue-external customers............... 3,945 868 30 4,843 Other revenue - from other segments................. 216 -- 4,423 4,639 Depreciation and amortization............ 1,303 124 71 1,498 Equity in the net income of investees................ -- -- 2,612 2,612 Other significant noncash items: Provision for credit losses......... 871 330 -- 1,201 Income tax expense (benefit) 710 661 (341) 1,030 Segment profit (loss) from continuing operations.... 1,662 950 (730) 1,882 Income from operations of discontinued asset-based lending subsidiary....... -- -- 385 385 Segment assets from continuing operations.... 318,216 74,226 55,334 447,776 Expenditures for additions to assets................. 877 176 74 1,127
------------------------------------------------- Inter- Reportable Other segment Consolidated Segments (a) Elimination Total ----------- ----------- ---------- ----------- Net interest income (loss). $ 13,252 $ (603) $ -- $ 12,649 Other revenue-external customers............... 4,813 30 -- 4,843 Other revenue - from other segments................. 216 4,423 (4,639) 0 Depreciation and amortization............... 1,427 71 -- 1,498 Equity in the net income of investees............. -- 2,612 (2,612) 0 Other significant noncash items: Provision for credit losses 1,201 -- -- 1,201 Income tax expense (benefit)............... 1,371 (341) -- 1,030 Segment profit (loss) from continuing operations.... 2,612 (730) -- 1,882 Income from operations of discontinued asset-based lending subsidiary....... -- 385 -- 385 Segment assets from continuing operations.... 392,442 55,334 (75,536) 372,240 Expenditures for additions to assets................ 1,053 74 -- 1,127 - --------------- (a) The financial information presented in the "Other" column is for the bank holding company. This component of the Company is not intended to earn revenue and does not qualify as an operating segment. The profit presented for the bank holding company includes the undistributed income from BNCCORP's consolidated subsidiaries.
----------------------------------------------- BNC- North BNC- Other Dakota Minnesota (a) Total ----------- ----------- --------- ---------- Net interest income (loss). $ 10,168 $ 2,388 $ (501) $ 12,055 Other revenue-external customers.................. 3,469 450 9 3,928 Other revenue-from other segments................. 155 -- 2,972 3,127 Depreciation and amortization............ 1,141 111 58 1,310 Equity in the net income of investees............. -- -- 1,879 1,879 Other significant noncash items: Provision for credit losses 2,260 258 -- 2,518 Income tax expense (benefit)............... 909 328 (282) 955 Segment profit (loss) from continuing operations.... 1,405 474 (625) 1,254 Income from operations of discontinued asset-based lending subsidiary....... -- -- 127 127 Segment assets from continuing operations.... 309,946 57,796 45,768 413,510 Expenditures for additions to assets................ 2,628 46 12 2,686
- --------------- (a) The financial information presented in the "Other" column is for the bank holding company. This component of the Company is not intended to earn revenue and does not qualify as an operating segment. The profit presented for the bank holding company includes the undistributed income from BNCCORP's consolidated subsidiaries.
21. Condensed Financial InformationCParent Company Only:
Condensed financial information of BNCCORP on a parent company only basis is as follows:
Parent Company Only Condensed Balance Sheets As of December 31 (In thousands, except share and per share data)
1999 1998 ---------- ------------ Assets: Cash and cash equivalents..................... $ 3,832 $ 353 Investment in subsidiaries.................... 33,471 33,151 Loans......................................... 16 341 Receivable from subsidiaries.................. 194 20,106 Deferred changes and intangible assets, net... 298 360 Other......................................... 852 1,023 ---------- ------------ $ 38,663 $ 55,334 ========== ============ Liabilities and stockholders' equity: Notes payable................................. $ 14,708 $ 29,148 Accrued expenses and other liabilities........ 806 931 ---------- ------------ 15,514 30,079 ---------- ------------ Preferred stock, $.01 par value, 2,000,000 shares authorized; no shares issued or outstanding................................ -- -- Common stock, $.01 par value, 10,000,000 shares authorized; 2,399,980 and 2,390,184 shares issued and outstanding (excluding 42,880 shares held in treasury) in 1999 and 1998, respectively............. 24 24 Capital surplus............................... 13,976 13,951 Retained earnings............................. 11,893 11,651 Treasury stock (42,880 shares)................ (513) (513) Accumulated other comprehensive income (loss), net of income tax effects................. (2,231) 142 ---------- ------------ Total stockholders' equity................... 23,149 25,255 ---------- ------------ $ 38,663 $ 55,334 ========== ============
Parent Company Only Condensed Statements of Income For the Years Ended December 31 (In thousands)
1999 1998 1997 ---------- ---------- --------- Income: Management fee income....................... $ 1,606 $ 1,426 $ 965 Interest.................................... 1,757 1,623 847 Other....................................... 9 30 9 ---------- ---------- --------- Total income............................. 3,372 3,079 1,821 ---------- ---------- --------- Expenses: Interest.................................... 2,486 2,226 1,348 Personnel expense........................... 1,320 1,268 849 Legal and other professional................ 134 188 103 Depreciation and amortization............... 66 71 58 Other....................................... 502 397 370 ---------- ---------- --------- Total expenses........................... 4,508 4,150 2,728 ---------- ---------- --------- Loss before income tax benefit and equity in undistributed income of subsidiaries........ (1,136) (1,071) (907) Income tax benefit............................. 433 341 282 ---------- ---------- --------- Loss before equity in undistributed income of subsidiaries................................ (703) (730) (625) Equity in undistributed income of subsidiaries. 96 2,612 1,879 ---------- ---------- --------- Income (loss) from continuing operations....... (607) 1,882 1,254 Equity in undistributed income from operations of discontinued asset-based lending subsidiary................................. 429 385 127 ---------- ---------- --------- Income (loss) before gain on disposal of asset-based lending subsidiary............. (178) 2,267 1,381 Gain on disposal of asset-based lending subsidiary.................................. 438 -- -- ---------- ---------- --------- Income before cumulative effect of change in accounting principle....................... 260 2,267 1,381 Cumulative effect of change in accounting principle, net of income tax effects....... (18) -- -- ========== ========== ========= Net income............................... $ 242 $ 2,267 $ 1,381 ========== ========== =========
22. Subsequent Event:
During February 2000, the Company retired $814,000 of its 8 5/8% Subordinated Notes due in 2004. The Company paid a discount to debenture holders, and the transaction resulted in an extraordinary gain of $121,000 ($.05 per share), net of income taxes of $63,000. The debentures were retired using cash generated from the sale of BNC Financial.
23. Quarterly Financial Data (unaudited, in thousands, except earnings per share):
Item 9.
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None
PART III
Item 10.
Item 10. Directors and Executive Officers of the Registrant
Information concerning the Company's directors and officers called for by this item will be included in the Company's definitive Proxy Statement prepared in connection with the 2000 Annual Meeting of Stockholders and is incorporated herein by reference.
Item 11.
Item 11. Executive Compensation
Information concerning the compensation of the Company's executives called for by this item will be included in the Company's definitive Proxy Statement prepared in connection with the 2000 Annual Meeting of Stockholders and is incorporated herein by reference.
Item 12.
Item 12. Security Ownership of Certain Beneficial Owners and Management
Information concerning security ownership of certain beneficial owners and management called for by this item will be included in the Company's definitive Proxy Statement prepared in connection with the 2000 Annual Meeting of Stockholders and is incorporated herein by reference.
Item 13.
Item 13. Certain Relationships and Related Transactions
Information concerning certain relationships and related transactions called for by this item will be included in the Company's definitive Proxy Statement prepared in connection with the 2000 Annual Meeting of Stockholders and is incorporated herein by reference.
PART IV
Item 14.
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K
(a) Exhibits. Reference is made to the Exhibit Index beginning on page E-1 hereby. The Company will furnish to any eligible stockholder, upon written request of such stockholder, a copy of any exhibit listed upon the payment of a reasonable fee equal to the Company's expenses in furnishing such exhibit.
(b) Reports on Form 8-K. No reports on Form 8-K were filed during the quarter ended December 31, 1999.
Signatures
Pursuant to the requirements of Section 13 or 15(d) of the Exchange Act, the Registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, on March 29, 2000.
Name of Issuer By: /s/ Tracy Scott Chief Executive Officer
In accordance with the Exchange Act, this report has been signed below by the following persons on behalf of the Registrant and in the capacities indicated, on March 29, 2000.
Chairman of the Board, Chief Executive /s/ Tracy Scott Officer and Director (Principal Executive Officer) President, Chief Operating Officer and /s/ Gregory K. Cleveland Director (Principal Financial Officer) (Principal Accounting Officer) /s/ Brenda L. Rebel Director
/s/ James D. LaBreche Director
/s/ John A. Hipp, M.D. Director
/s/ Richard M. Johnsen, Jr. Director
/s/ John M. Shaffer Director
/s/ Jerry R. Woodcox Director
/s/ Brad J. Scott Director
EXHIBIT INDEX
- -------------------------------------------------------------------------------- Exhibit No. Exhibit Description - -------------------------------------------------------------------------------- 2.1 Contract for Sale of Assets dated December 31, 1996 by and between Gregory K. Cleveland, P.C. and BNC National Bank, incorporated by reference to Exhibit 2.5 to the Registrant's Form 10-KSB dated as of March 26, 1997. 2.2 Stock Purchase Agreement dated February 26, 1997 by and between BNC National Bank and Shareholders of J.D. Meier Insurance Agency, incorporated by reference to Exhibit 2.6 to the Registrant's Form 10-KSB dated as of March 26, 1997. 2.3 Amended and Restated Agreement and Plan of Merger dated December 19, 1997 among BNCCORP, Inc., J.D. Meier Insurance Agency, Inc. and Lips & Lahr, Inc., William Wade, Dale Ely, Laif Olson, Richard Lahr and David Clausnitzer, incorporated by reference to Exhibit 2.7 to the Registrant's Form 10-KSB dated as of March 25, 1998. 2.4 Stock Purchase Agreement dated as of December 6, 1999, by and between BNCCORP, Inc. and Associated Banc-Corp, incorporated by reference to Exhibit 2.1 to the Registrant's Form 8-K dated as of January 14, 2000. 3.1 Certificate of Incorporation of the Company, incorporated by reference to Exhibit 3.1 to the Registrant's Registration Statement on Form SB-2 (Registration No. 33-92369). 3.2 Bylaws of the Company, incorporated by reference to Exhibit 3.2 to the Registrant's Registration Statement on Form SB-2 (Registration No. 33-92369). 4.1 Specimen of Common Stock Certificate, incorporated by reference to Exhibit 4 to Amendment No. 1 to the Registrant's Registration Statement on Form SB-2 (Registration No. 33-92369). 4.2 Warrant to Subscribe for and Purchase Common Stock of BNCCORP, Inc. by and between the Company and Dain Bosworth Incorporated, incorporated by reference to Exhibit 4.2 to the Registrant's Form 10-KSB dated as of March 29, 1996. 4.3 Form of Indenture by and between BNCCORP, Inc. and Firstar Trust Company, as Trustee, incorporated by reference to Exhibit 4.1 to the Registrant's Registration Statement on Form SB-2 (Registration No. 333-26703). 10.1 Form of Indemnity Agreement by and between the Company and each of the Company's Directors, incorporated by reference to Exhibit 10.1 to the Registrant's Registration Statement on Form SB-2 (Registration No. 33-92369). 10.2 Form of Employment Agreement between the Company and each of Tracy J. Scott and Gregory K. Cleveland, incorporated by reference to Exhibit 10.2 to the Registrant's Registration Statement on Form SB-2 (Registration No. 33-92369).
10.3 Form of BNCCORP, INC. Stock Incentive Plan, incorporated by reference to Exhibit 10.3 to the Registrant's Registration Statement on Form SB-2 (Registration No. 33-92369). 10.4 Form of Stock Option Agreement for the Grant of Non-Qualified Stock Options Under the BNCCORP, INC. 1995 Stock Incentive Plan dated as of June 7, 1995, incorporated by reference to Exhibit 10.5 to the Registrant's Form 10-KSB dated as of March 29, 1996. 10.5 Form of Stock Option Agreement for the Grant of Incentive Stock Options Under the BNCCORP, Inc. 1995 Stock Incentive Plan dated as of January 2, 1998 between the Company and each of Tracy J. Scott, Gregory K. Cleveland and Brad J. Scott, incorporated by reference to Exhibit 10.15 to the Registrant's Form 10-KSB dated as of March 25, 1998. 10.6 Contract of Sale dated as of August 29, 1997, by and between BNC National Bank and Preferred Investment Services, Inc., incorporated by reference to Exhibit 10.16 to the Registrant's Form 10-KSB dated as of March 25, 1998. 10.7 Assignment Agreement dated as of August 29, 1997, by and between Preferred Investment Services, Inc. and BNC National Bank, incorporated by reference to Exhibit 10.17 to the Registrant's Form 10-KSB dated as of March 25, 1998. 10.8 Form of Amended and Restated Employment Agreement Between J.D. Meier Insurance Agency, Inc. and each of David Clausnitzer, Dale Ely, Richard Lahr and Laif Olson, dated as of June 30, 1998, incorporated by reference to Exhibit 10.18 to the Registrant's Form 10-QSB dated as of August 13, 1998. 10.9 Employment Agreement Among BNCCORP, Inc., BNC National Bank and David J. Sorum dated as of October 13, 1998, incorporated by reference to Exhibit 10.23 to the Registrant's Form 10-QSB dated as of November 13, 1998. 10.10 Employment Agreement Among BNCCORP, Inc., BNC National Bank of Minnesota and James LaBreche dated as of March 1, 1999, incorporated by reference to Exhibit 10.25 to the Registrant's Form 10-KSB dated as of March 29, 1999. 10.11 Form of Restricted Stock Agreement Under the BNCCORP, Inc. 1995 Stock Incentive Plan dated as of October 15, 1998 and March 1, 1999 between BNCCORP, Inc. and David J. Sorum and James D. LaBreche, incorporated by reference to Exhibit 10.28 to the Registrant's Form 10-KSB dated as of March 29, 1999. 21.1 Subsidiaries of Company. 23.1 Consent of Arthur Andersen LLP 27 Financial Data Schedule