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<SEC-DOCUMENT>0000928911-04-000002.txt : 20040315
<SEC-HEADER>0000928911-04-000002.hdr.sgml : 20040315
<ACCEPTANCE-DATETIME>20040315163909
ACCESSION NUMBER: 0000928911-04-000002
CONFORMED SUBMISSION TYPE: 10-K
PUBLIC DOCUMENT COUNT: 6
CONFORMED PERIOD OF REPORT: 20031231
FILED AS OF DATE: 20040315
FILER:
COMPANY DATA:
COMPANY CONFORMED NAME: CASCADE FINANCIAL CORP
CENTRAL INDEX KEY: 0000928911
STANDARD INDUSTRIAL CLASSIFICATION: STATE COMMERCIAL BANKS [6022]
IRS NUMBER: 911661954
STATE OF INCORPORATION: DE
FISCAL YEAR END: 1231
FILING VALUES:
FORM TYPE: 10-K
SEC ACT: 1934 Act
SEC FILE NUMBER: 000-25286
FILM NUMBER: 04670009
BUSINESS ADDRESS:
STREET 1: 2828 COLBY AVE
CITY: EVERETT
STATE: WA
ZIP: 98201
BUSINESS PHONE: 4252598551
MAIL ADDRESS:
STREET 1: 2828 COLBY AVE
CITY: EVERETT
STATE: WA
ZIP: 98201
</SEC-HEADER>
<DOCUMENT>
<TYPE>10-K
<SEQUENCE>1
<FILENAME>c10k-1203.txt
<DESCRIPTION>FORM 10-K
<TEXT>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended December 31, 2003.
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission file number 0-25286
CASCADE FINANCIAL CORPORATION
-----------------------------------------------------
(Exact name of registrant as specified in its charter)
Washington 91-1661954
- -------------------------------- ----------------------------
(State or other jurisdiction of (I.R.S. Employer I.D. Number)
incorporation or organization)
2828 Colby Avenue, Everett, Washington 98201
-------------------------------------- ----------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (425) 339-5500
---------------
Securities registered pursuant to Section 12(b) of the Act: None
---------------
Securities registered pursuant to Section 12(g) of the Act: Common Stock,
Par value $0.01
per share
---------------
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding twelve months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. YES [X] NO [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to
the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act). YES [X] NO [ ]
The aggregate market value of Common Stock held by non-affiliates of
registrant at March 5, 2004 was $128.04 million on (based on the last reported
sale on such date). The number of shares of registrant's Common Stock
outstanding at March 5, 2004 was 8,261,483.
DOCUMENTS INCORPORATED BY REFERENCE
1. Portions of Annual Report to Stockholders for the year ended December 31,
2003, including the Selected Financial Data and the Management Discussion and
Analysis attached as Exhibit 13 (the "Annual Report") (Part I, II & IV).
2. Portions of registrant's Definitive Proxy Statement for the Annual Meeting
of Stockholders (the "Proxy Statement") (Part III).
<PAGE>
Cascade Financial Corporation
FORM 10-K
December 31, 2003
TABLE OF CONTENTS
-----------------------------
Page
PART I ----
------
Item 1. Description of Business 3
Loan Portfolio 5
Asset and Liability Management Activities 13
Investment Portfolio 16
Deposits 17
Return on Equity and Assets 18
Borrowings 18
Regulation 20
Taxation 25
Item 2. Properties 26
Item 3. Legal Proceedings 26
Item 4. Submission of Matters to a Vote of Security Holders 26
PART II
-------
Item 5. Market for Registrant's Common Equity and Related
Stockholder Matters 27
Item 6. Selected Financial Data 27
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations 27
Item 7A. Quantitative and Qualitative Disclosures About Market Risk 27
Item 8. Financial Statements and Supplementary Data 27
Item 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure 27
Item 9A. Controls and Procedures 27
PART III
--------
Item 10. Directors and Executive Officers of the Registrant 29
Item 11. Executive Compensation 30
Item 12. Security Ownership of Certain Beneficial Owners
and Management 30
Item 13. Certain Relationships and Related Transactions 30
Item 14. Principal Accountant Fees and Services 30
PART IV
-------
Item 15. Exhibits, Financial Statement Schedules, and Reports
on Form 8-K 31
-2-
<PAGE>
FORWARD LOOKING STATEMENTS
- --------------------------
In addition to historical information, this Form 10-K contains certain
"forward-looking statements" within the meaning of the Private Securities
Litigation Reform Act of 1995 ("PSLRA"). This statement is included for the
express purpose of availing Cascade Financial Corporation of the protections
of the safe harbor provisions of the PSLRA. The forward-looking statements
contained herein are subject to factors, risks, and uncertainties that may
cause ctual results to differ materially from those projected. The following
items are among the factors that could cause actual results to differ
materially from the forward-looking statements: general economic conditions,
including their impact on capital expenditures; business conditions in the
banking industry; recent world events and their impact on interest rates,
businesses and customers; the regulatory environment; new legislation; vendor
quality and efficiency; employee retention factors; rapidly changing technology
and evolving banking industry standards; competitive standards; competitive
factors, including increased competition with community, regional, and national
financial institutions; fluctuating interest rate environments; and similar
matters. Readers are cautioned not to place undue reliance on these forward-
looking statements, which reflect management's analysis only at the date of the
statement. The Corporation undertakes no obligation to publicly revise or
update these forward-looking statements to reflect events or circumstances that
arise after the date of this report. Readers should carefully review the risk
factors described in this and other documents the Corporation files from time
to time with the Securities and Exchange Commission. There can be no assurance
that any of the strategies described in this Form 10-K will be implemented, or
if implemented, achieve the amounts described or within the time periods
currently estimated. Sentences containing words such as "may," "will,"
"expect," "anticipate," "believe," "estimate," "should," "projected," or
similar words may constitute such forward looking statements.
Item 1. Description of Business
- --------------------------------
General
- -------
Cascade Financial Corporation (the "Corporation") is a bank holding company
incorporated in the state of Washington that was formed in 1994. The
consolidated entity includes the Corporation and its wholly owned subsidiaries.
At December 31, 2003, the Corporation's wholly-owned subsidiaries were
Cascade Bank ("Cascade" or the "Bank") and Cascade Capital Trust I. The
executive offices of the Corporation are located at 2828 Colby Avenue, Everett,
Washington 98201. The telephone number is (425) 339-5500 and the web site is
www.CascadeBank.com.
The Bank has been serving the people of Snohomish and King Counties since
1916 when it was organized as a mutual savings and loan association. On
September 15, 1992, the Bank completed its conversion from a federal mutual to
a federal stock savings bank. The Corporation was organized on August 18, 1994
for the purpose of becoming the holding company for Cascade Bank. On October
23, 1994, the stockholders of the Bank approved a plan to reorganize the Bank
into the holding company form of ownership. The reorganization was completed
on November 30, 1994, on which date the Bank became the wholly-owned subsidiary
of the Corporation, and the stockholders of the Bank became stockholders of the
Corporation. Subsequent to the acquisition of Cascade, the primary activity of
the Corporation has been holding the stock of the Bank. Accordingly, the
information set forth in this report, including financial statements and
related data, relates primarily to the Bank.
In July of 2001, the Bank converted its charter from that of a federal stock
savings bank to a Washington state commercial bank, and the Corporation elected
to be treated as a financial holding company with the Federal Reserve Board. In
May of 2003, the Corporation transferred its state of domicile from Delaware,
which it had maintained since its formation as a holding company in 1994, to
Washington. Following this conversion, the Corporation changed its fiscal year
end from June 30 to December 31 to align its reporting period with those of its
commercial bank peers.
The Corporation conducts its business from its main office in Everett,
Washington, and fifteen other full service offices in the greater Puget Sound
region. At December 31, 2003, the Corporation had total assets of $885.2
million, total deposits of $564.3 million and stockholders' equity of $64.0
million.
The Bank, a full-service community bank, offers a wide range of products and
services. The deposits of the Bank are insured by the Federal Deposit
Insurance Corporation ("FDIC"), up to the limits specified by law.
Market Area
- -----------
Headquartered in Everett, Washington, the Corporation serves its customers
from fifteen full service offices, ten in Snohomish County and five in King
County. Located in the center of the western Washington region, Snohomish and
King counties have experienced significant growth in recent years, although
currently the area is recovering slowly from an economic slowdown.
-3-
<PAGE>
The economy of our market area has been aided by a strong housing market and
the continued strength at Microsoft. While employment at Boeing continued to
contract in 2003, the rate of that decrease slowed dramatically. In December
2003, Boeing announced that Everett had been chosen to assemble its new
commercial airliner, the 7E7. It is too early to determine the impact on the
local economy, but the decision has the potential to arrest the decline in
manufacturing employment in the market area.
Our market area in King County includes the growing cities east of Seattle
and Lake Washington. This area's economy has been dominated by Microsoft, with
other high technology companies playing an important role. Slowdowns and
retrenchment with a number of these firms has led to slower economic growth
than in the past with a potential impact on the financial services firms that
serve the area. The commercial real estate market in east King County has
maintained high vacancy rates in 2003.
On the plus side, Everett is the home port of the Navy's carrier battle
ship, the USS Abraham Lincoln. The contribution that the Navy makes to the
economy is not dependent on other trends. The economy in the Corporation's
market area has become more dependent upon the health care and biotechnology
industries, two industries which have been less affected by the recent economic
slowdown. Snohomish County and Northeast King County are home to numerous
biotechnology companies, including Advanced Technology Labs, a manufacturer of
medical equipment.
As a gateway to Asia, the Bank's market area has also benefited from the
expansion of world trade. Economic weakness in either the United States or
Asia will reduce that trade. Such slowdowns in the international flow of goods
and services could prove detrimental to the economy of the market area and
potentially the quality of our loan portfolios.
Business Strategy
- -----------------
The Corporation is in the process of implementing its business plan to
increase the Bank's emphasis on commercial banking. The Corporation is
attempting to pursue the following strategies:
* Increasing the percentage of its assets consisting of business,
construction, and commercial real estate loans with higher risk-adjusted
returns, shorter maturities and greater sensitivity to interest rate
fluctuations.
* Increasing deposits by attracting lower cost transaction accounts (such as
checking, savings and money market accounts) through an enhanced branch
network, customer service center and online banking.
* Diligently searching for additional sources of fee based revenue.
* Maintaining cost-effective operations by efficiently offering products and
services.
* Maintaining its capital position at or above the "well-capitalized" (as
defined for regulatory purposes) level.
* Exploring prudent means to grow the business internally and/or through
acquisitions.
The primary objectives of these strategies are to: enhance shareholder value
measured through increasing return on equity and/or increasing earnings per
share, and to increase the opportunity for quality earning asset growth,
deposit generation, and fee-based income activities. However, the shift in
emphasis to commercial banking does inherently contain additional risks (See
"LOAN PORTFOLIO" below).
Competition
- -----------
The Bank competes for both loans and deposits. The Puget Sound metropolitan
area has a high density of financial institutions, including major national
banks, several local community banks, and credit unions.
The Bank's competition for loans comes principally from other commercial
banks, the larger of whom offer quick, low documentation credit approval and
attractive pricing. Conversely, many of the local community banks have
specialized in commercial real estate and business lending and therefore may
have a more established reputation in that market. Cascade competes for loans
principally through its ability to customize competitively priced financing to
the needs of its customers, and its local decision-making.
Geographic location is still the primary factor in choosing a bank for the
checking account relationship. As a result, the Bank's competition for
checking deposits comes primarily from the large institutions with a broad
network of locations. Online banking continues to be an important convenience
service to attract checking customers from larger banks. In addition, Cascade
has recently made an arrangement with US Bank to allow customers to use US Bank
-4-
<PAGE>
ATMs without a surcharge. Community banks, savings institutions, as well as
other non-banking financial institutions, provide the greatest competition for
the various savings vehicles such as money market deposit accounts and
certificates of deposit.
In addition to competition from other banking institutions, the Bank
continues to experience increased competition from non-banking companies such
as credit unions, financial services companies and brokerage houses. Recent
amendments to the federal banking laws to eliminate certain barriers between
banking and commercial firms are expected to result in even greater competition
in the future.
The Corporation anticipates continuing opportunities to arise from the
effects of substantial consolidation among financial institutions in Washington
that has occurred to date. Federal law allows mergers or other combinations,
relocations of a bank's main office and branching across state lines. Several
other financial institutions, which have greater resources than the Bank,
compete for banking business in the Bank's market area. Among the advantages
of some of these institutions are their ability to make larger loans, finance
extensive advertising and promotion campaigns, access international money
markets and allocate their investment assets to regions of highest yield and
demand.
LOAN PORTFOLIO
- --------------
General. The Bank originates business, real estate and consumer loans.
Total loans equaled $607.9 million at December 31, 2003. Total loans were
adjusted by loans in process, deferred loan fees, and the allowance for loan
losses for a net loan balance of $567.1 million. At December 31, 2003, $204.4
million or 33.6% of loans consisted of business loans; $93.7 million or 15.41%
were real estate construction loans; $83.9 million or 13.79% of loans consisted
of commercial real estate; $33.2 million or 5.45% were consumer loans; $105.6
million or 17.36% of the Bank's loans consisted of loans secured by one-to-four
family residential properties; and $87.2 million or 14.35% consisted of multi-
family loans, which brings the total loans secured by first liens on
residential real estate to $192.8 million or 31.71% of total loans. The
corporation sells all its 30 year fixed-rate loans and the vast majority of its
15 year fixed-rate loans in the secondary mortgage market. The Corporation had
non-mandatory forward commitments totaling $2,177 and $8,083 to sell loans into
the secondary market at December 31, 2003 and December 31, 2002, respectively.
-5-
<PAGE>
Loan Portfolio Analysis. The following table sets forth the Corporation's
loan portfolio by type of loan and by type of security at the dates indicated.
<TABLE>
<CAPTION>
At December 31, At June 30,
2003 2002 2001 2001 2000 1999
--------------------------------------------------- ---------------------------------------------------
Amount Percent Amount Percent Amount Percent Amount Percent Amount Percent Amount Percent
--------------------------------------------------- ---------------------------------------------------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Type of Loan
- ------------
Real estate mortgage
Residential (1) 192,777 33.99 216,914 39.68 262,460 45.55 272,363 48.22 288,660 53.46 263,987 57.93
Commercial 83,856 14.79 63,108 11.54 62,938 10.92 56,913 10.08 54,320 10.06 49,066 10.77
Construction 93,704 16.52 104,790 19.17 104,131 18.07 103,206 18.27 73,488 13.61 54,500 11.96
Business 204,446 36.05 142,273 26.03 125,342 21.75 113,708 20.13 86,298 15.98 61,676 13.53
Consumer (2) 33,163 5.85 49,331 9.02 58,381 10.13 60,406 10.69 62,061 11.49 52,219 11.45
----------------------------------------------------------------------------------------------------------
Total loans 607,946 107.20 576,416 105.44 613,252 106.42 606,596 107.39 564,827 104.60 481,448 105.64
Less:
Loans in process 30,962 5.46 20,669 3.78 28,220 4.90 33,337 5.90 17,132 3.17 19,087 4.19
Deferred loan fees, net 2,179 0.38 2,198 0.40 2,502 0.43 2,703 0.48 2,719 0.50 2,371 0.52
Allowance for loan losses 7,711 1.36 6,872 1.26 6,304 1.09 5,687 1.01 5,004 0.93 4,254 0.93
----------------------------------------------------------------------------------------------------------
Total loans, net 567,094 100.00% 546,677 100.00% 576,226 100.00% 564,869 100.00% 539,972 100.00% 454,736 100.00%
==========================================================================================================
Type of Security
- ----------------
Real estate mortgage
One-to-four family (2) 221,130 38.99 262,474 48.01 295,941 51.36 307,049 54.35 290,857 53.86 261,822 57.45
Multi-family 87,212 15.38 94,245 17.24 109,734 19.04 107,360 19.01 112,721 20.87 85,893 18.85
Commercial 83,856 14.79 63,108 11.54 62,938 10.92 56,913 10.08 54,320 10.06 49,066 10.77
Land loans 1,786 0.31 1,720 0.32 2,546 0.44 3,269 0.58 29 0.01 106 0.02
Other 213,962 37.73 154,869 28.33 142,093 24.66 132,005 23.37 106,900 19.80 84,561 18.55
----------------------------------------------------------------------------------------------------------
Total loans 607,946 107.20 576,416 105.44 613,252 106.42 606,596 107.39 564,827 104.60 481,448 105.64
Less:
Loans in process 30,962 5.46 20,669 3.78 28,220 4.90 33,337 5.90 17,132 3.17 19,087 4.19
Deferred loan fees, net 2,179 0.38 2,198 0.40 2,502 0.43 2,703 0.48 2,719 0.50 2,371 0.52
Allowance for loan losses 7,711 1.36 6,872 1.26 6,304 1.09 5,687 1.01 5,004 0.93 4,254 0.93
----------------------------------------------------------------------------------------------------------
Total loans, net 567,094 100.00% 546,677 100.00% 576,226 100.00% 564,869 100.00% 539,972 100.00% 455,736 100.00%
==========================================================================================================
(1) Includes construction loans converted to permanent loans, multi-family and land loans.
(2) Includes home equity loans and HELOCs.
</TABLE>
-6-
<PAGE>
At December 31, 2003, loans in process attributed to construction loans,
totaled $31.0 million or 5.46% of total loans net, deferred fees were $2.2
million or .38%, and the allowance for loan losses was $7.7 million or 1.36% of
total loans, net.
Business Loans. Business loans increased from $142.3 million at December
31, 2002 to $204.4 million at December 31, 2003. Unsecured business loans
totaled $14.1 million at December 31, 2003. The Bank's business loan portfolio
consists primarily of commercial business loans to small and medium sized
businesses operating in Snohomish and King counties. These loans are secured
primarily by real estate, receivables, equipment, other assets of the business
and personal property, and the personal guarantee of the borrower. These loans
typically have variable-rate terms or fixed rates with maturities of up to five
years. The Bank also offers secured and unsecured operating lines of credit.
Business loans are underwritten by the Bank on the basis of the borrower's cash
flow and ability to service debt from earnings, as well as the underlying
collateral value. The borrower is generally required to provide the Bank with
financial statements, tax returns, current financial information on any and all
guarantors, and other reports that show trends in their financial condition;
and to update this information annually. Business loans also include owner
occupied real estate loans with terms comparable to the Bank's income property
loans. In addition, as the business banking activity increases, the Bank
expects to expand its lower cost deposit franchise through the growth of
commercial checking as a source of funding.
Business loans are inherently sensitive to adverse conditions in the
economy. In the case of loans secured by accounts receivable, the availability
of funds for the repayment of such loans may be substantially dependent on the
ability of the borrower to collect amounts due from its customers. The
collateral securing other loans may depreciate over time, may be difficult to
appraise and may fluctuate in value based on the success of the business.
Accordingly, the repayment of a business loan depends primarily on the
successful operation of the borrower's business and creditworthiness of the
borrower (and any guarantors), while liquidation of collateral is a secondary
and often insufficient source of repayment.
While most of the business borrowers are established businesses with
successful track records, it is uncertain how the continuing economic slowdown
will affect these loans.
Construction Loans. The Bank originates construction loans on one-to-four
family homes either to borrowers as custom construction loans or to builders as
speculative construction loans. Construction loans generally have terms of
12-18 months. The interest rates charged on construction loans are indexed to
the prime rate and vary depending on the characteristics of the loan,
particularly the credit risk inherent in the project. All construction loans
require approval by various levels of Bank personnel, depending on the size of
the loan. The Bank has attempted to increase its construction loan portfolio
because these loans have relatively high margins, floating interest rates and
short-term maturities and because of the historically favorable housing market
in the Puget Sound area. At December 31, 2003 and December 31, 2002, the
Corporation's construction loans were $93.7 million (including $31.0 million of
loans in process) or 15.4% of the total loan portfolio and $104.8 million
(including $20.7 million of loans in process) or 18.2% of the total loan
portfolio, respectively. Of this amount, $79.4 million was to builders,
including $15.1 million for land acquisition and development, and $14.3 million
was to individuals for custom home construction. The strength of the local
housing market led to a rapid turnover in this portfolio as builders were able
to quickly sell new homes. This strength led to the decline in the portfolio
at December 31, 2003. The Bank's maximum outstanding commitment to one builder
at December 31, 2003 totaled $8.9 million involving several construction
projects which are performing in accordance with the terms of the loan.
Construction loans involve further credit risks because loan funds are
advanced upon the security of the project under construction that is of
uncertain value before completion. The Bank's risk of loss on a construction
loan is dependent largely upon the accuracy of the initial estimate of the
property's value at completion of construction or development and the estimated
cost (including interest) of the construction. If the estimate of construction
costs proves to be inaccurate, the Bank may be required to advance additional
funds to complete the development. If upon completion of the project, the
estimate of the marketability of the property is inaccurate, the borrower may
be unable to sell the completed project in a timely manner or obtain adequate
proceeds to repay the loan. Delays may arise from labor problems, material
shortages and other unpredictable contingencies in completing the project.
Furthermore, if the estimate of value of a completed project is inaccurate,
the Bank may be confronted with a project with a value that is insufficient to
assure full repayment. As a result, these loans may involve the disbursement of
substantial funds with repayment dependent, in part, on the success of the
ultimate project rather than the ability of the borrower or guarantor to repay
principal and interest.
-7-
<PAGE>
Commercial Real Estate Loans. Commercial real estate loans totaled $83.9
million or 13.8% of the Bank's total loans at December 31, 2003. All
commercial real estate loans are secured by properties in western Washington,
mainly in the Puget Sound region. Improved property such as office buildings
and small commercial business properties such as strip shopping centers secure
the Bank's commercial real estate loans. These loans are primarily fixed rate
with a maximum reset on the interest rate of five years. At December 31, 2003,
the largest commercial real estate and land loan in the Bank's portfolio was
$6.1 million, which was performing according to its terms at that date.
Multi-family Loans. Multi-family loans totaled $87.2 million or 14.4% of
the total loan portfolio at December 31, 2003. The multi-family portfolio is
principally comprised of small to medium-size apartment projects with loan-to-
value ratios usually up to 75%. All new loan originations are in the Puget
Sound region with adjustable rates.
Multi-family residential and commercial real estate lending affords the Bank
an opportunity to receive interest at rates higher than those generally
available from one-to-four family mortgage loans. However, loans secured by
such properties usually are greater in amount and may involve a greater degree
of risk than one-to-four family residential mortgage loans. Because payments on
loans secured by multi-family residential and commercial properties are often
dependent on the successful operation and management of the properties,
repayment of such loans may be affected by adverse conditions in the real
estate market or the economy.
One-to-Four Family Residential Loans. At December 31, 2003, residential
loans totaled $105.6 million or 17.4% of the total loan portfolio. Residential
lending consists primarily of first mortgage loans secured by single family
residential properties located principally in Snohomish and King Counties. The
Bank originates both fixed rate and adjustable rate mortgages ("ARMs") with
maturities up to 30 years. ARM loans are generally held in the Bank's
portfolio. Newly originated ARMs have interest rates that adjust based on the
One Year Constant Maturity Treasury Index. Borrower demand for ARMs versus
fixed-rate mortgage loans is a function of the level of interest rates, the
shape of the yield curve, and the differences between the interest rates and
loan fees offered for fixed-rate mortgage loans and the rates and loan fees for
ARMs.
Fixed rate residential loans are generally sold and the servicing released
to one of the Bank's correspondents. The loans are sold on a "best efforts"
basis. The Bank no longer packages its loans to sell as mortgage backed
securities. The Bank had no loans held for sale at December 31, 2003 and $3.4
million in loans held for sale at December 31, 2002. Loans held for sale are
not material and therefore the Bank does not include them as a separate line
item on the balance sheet. The Bank has greatly reduced its emphasis on
mortgage banking and mortgage lending in the past three years.
The Bank's conforming residential loans meet the Federal Home Loan Mortgage
Corporation's underwriting standards with respect to credit, debt ratios and
documentation. The Bank's nonconforming residential loans are those that do not
conform to agency underwriting guidelines, due to the size of the loan, as a
result of credit histories, debt-to-income ratios, reliance on the borrower's
stated income, non-owner occupied property, rural property, or other exceptions
from agency guidelines. At December 31, 2003, $11.2 million or 1.8% of the
Bank's total outstanding loan portfolio and 10.6% of the Bank's one-to-four
family residential loan portfolio consisted of nonconforming one-to-four family
residential loans.
Consumer Loans. The Bank's consumer loan activities take two forms: home
equity loans or lines of credit, and installment loans. Home equity loans are
secured by a junior lien in priority on the borrower's home. Such loans may
have a combined loan-to-value ratio of up to 90% of the value of the home
securing the loan. Home equity loans are fixed amount loans which may have
fixed or floating interest rates. Home equity lines of credit can be drawn upon
at any time by the customer up to a specific amount. All these loans are at a
floating rate with a floor on that rate. The balance outstanding for both types
of home equity loans decreased to $23.6 million at December 31, 2003 as
compared to $36.7 million at December 31, 2002. At December 31, 2003 and
December 31, 2002, the total amount of unused lines of credit were $34.6
million and $38.3 million, respectively. The second type of consumer loans are
installment loans in which boats, automobiles, and recreational vehicles serve
as collateral. This portfolio was $9.5 million at December 31, 2003 as
compared to $12.6 million outstanding at December 31, 2002. Although boat loans
total $5.9 million of the Corporation's installment loans at December 31, 2003,
the Corporation has significantly decreased its origination of boat loans and
expects this amount to decline further in the future. Installment loans are
secured by depreciating assets such as automobiles or boats. Therefore, any
repossessed collateral for a defaulted installment loan may not provide an
adequate source of repayment of the outstanding loan balance as a result of the
greater likelihood of damage, loss or depreciation. The remaining deficiency
often does not warrant further substantial collection efforts against the
borrower beyond obtaining a deficiency judgment. In addition, consumer loan
collections are dependent on the borrower's continuing financial ability, and
-8-
<PAGE>
thus, are more likely to be adversely affected by job loss, divorce, illness or
personal bankruptcy. Furthermore, the application of various Federal and state
laws, including Federal and state bankruptcy and insolvency laws, may limit the
amount which can be recovered on such loans.
Loan Maturity
- -------------
The following table sets forth information at December 31, 2003 regarding the
dollar amount of loans maturing in the Corporation's portfolio based on their
contractual terms to maturity, but does not include scheduled payments or
potential prepayments. Loan balances do not include deferred loan fees.
Construction loans are net of loans in process.
<TABLE>
<CAPTION>
With variable rate With fixed rate
(for maturities of (for maturities of
Due in one year Due in one to Due after five more than one more than one
or less five years years Total year) year)
--------------------------------------------------------------------------------------------------------------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Business $29,631 80,079 94,736 204,446 85,277 89,538
Construction $40,214 22,528 -- 62,742 22,528 --
Commercial Real Estate $ 794 1,191 81,871 83,856 80,207 2,855
Multi-family -- 2,683 84,529 87,212 83,496 3,716
Home Equity/Consumer $ 3,625 3,647 25,891 33,163 24,728 4,810
Residential $ 1,444 2,550 101,571 105,565 93,771 10,350
</TABLE>
Asset Quality
- -------------
Banking regulations require that each insured institution review and classify
its assets regularly. In addition, in connection with examinations of insured
institutions, bank examiners have authority to identify problem assets and, if
appropriate, require them to be adversely classified. There are three
classifications for problem assets: substandard, doubtful and loss. Substandard
assets must have one or more defined weaknesses and are characterized by the
distinct possibility that the insured institution will sustain some loss if the
deficiencies are not corrected. Doubtful assets have the weaknesses of
substandard assets with the additional characteristic that the weaknesses make
collection or payment in full, based on currently existing facts, conditions
and values, questionable, and there is a high possibility of loss. An asset
classified loss is considered uncollectible and of such little value that its
continuance as an asset of the institution is not warranted. Assets classified
as substandard or doubtful require the institution to establish general
allowances for loan losses. If an asset, or portion thereof, is classified
loss, the insured institution must either establish specific allowances for
loan losses in the amount of 100% of the portion of the asset classified loss
or charge off such amounts. The bank uses two other asset classification
categories for potential problem loans. They are watch and special mention.
Borrowers with declining earnings, strained cash flow, increasing leverage
and/or weakening market fundamentals that indicate above average risk are
classified as watch. Loans on special mention represent borrowers who exhibit
potential credit weaknesses or downward trends deserving bank management's
close attention.
Cascade established the Credit Administration Division in 2001 which is
intended to assure that the Bank maintains the quality of its loan portfolio.
Management has comprehensive monthly and annual review procedures for
identifying and classifying assets for weaknesses. Reserves are maintained for
assets classified as substandard or doubtful. The objective of these review
procedures is to identify any trends and determine the levels of loss exposure
to evaluate the need for an adjustment to the reserve accounts.
Delinquencies. A report containing delinquencies of all loans is reviewed
monthly by the Asset Review Committee and periodically by the Board of
Directors. Procedures taken with respect to delinquent loans differ depending
on the particular circumstances of each loan. The Bank's general procedures
provide that when a loan becomes delinquent, the borrower is contacted, usually
-9-
<PAGE>
by phone, within 15 to 30 days. When the loan is over 30 days delinquent, the
borrower is usually contacted in writing. Typically, the Bank will initiate
foreclosure action against the borrower when principal and interest become 90
days or more delinquent. In any event, interest income is reduced by the full
amount of accrued and uncollected interest on loans once they become 90 days
delinquent, go into foreclosure or are otherwise determined to be
uncollectible. Once interest has been paid to date or management considers the
loan fully collectable, it is returned to accrual status. An allowance for
loss is established when, in the opinion of management, the fair value less
sales costs of the property collateralizing the loan is less than the
outstanding principal and the collectibility of the loan's principal becomes
uncertain. It is intended that the Bank's allowance for loan losses be adequate
to cover known potential and reasonably estimated unknown losses. At December
31, 2003 and December 31, 2002, the Bank had $1.9 million and $1.0 million,
respectively, of loans accounted for on a non-accrual basis.
Allowance for Loan Losses/Non-Performing Assets
- -----------------------------------------------
Management provides for possible loan losses by maintaining an allowance. The
level of the allowance is determined based upon judgments regarding the size
and nature of the loan portfolio, historical loss experience, the financial
condition of borrowers, the level of non-performing loans, and anticipated
general economic conditions. Additions to the allowance are charged to expense.
Loans are charged against the allowance when management believes the collection
of principal is unlikely.
As Cascade Bank has evolved from a thrift into a commercial bank, the
inherent risk in its loan portfolio has increased, resulting in the trend of
increasing the allowance for loan losses both in terms of dollars and as a
percentage of total loans. Also impacting the allowance for loan losses has
been the slow economy in the Corporation's market area.
The allowance for loan losses reflects management's best estimate of
probable losses that may be incurred at the balance sheet date. The allowance
for loan losses is maintained at a level considered adequate by management to
provide for loan losses inherent in the loan portfolio based on management's
assessment of various factors affecting the loan portfolio, including local
economic conditions and growth of the loan portfolio and its composition. Net
charge-offs during these periods have been less than experienced by the average
peer banks. Increases in the allowance for loan losses made through provisions
were primarily a result of business loan growth, an increase in net
charge-offs, awareness of the greater risk inherent in business lending and the
impact of the economic climate on the loan portfolio.
Management measures the reasonableness of the allowance for loan losses by
utilizing a loan grading system to determine risk in the loan portfolio and by
considering the results of credit reviews. The loan portfolio is separated by
quality and then by loan type. Loans of acceptable quality are evaluated as a
group, by loan type, with a loss rate assigned to the total loans in each type,
but unallocated to any individual loan. Adversely classified loans may be
individually analyzed, to determine an estimated loss amount. A loss rate is
also assigned to these adversely classified loans, but at a higher rate due to
the greater risk of loss. Past due and impaired loans are actively managed to
minimize the potential loss.
Although management has allocated a portion of the allowance to the loan
categories using the method described above, the adequacy of the allowance must
be considered as a whole. To mitigate the imprecision in most estimates of
expected loan losses, the allocated component of the allowance is supplemented
by an unallocated component. The unallocated portion includes management's
judgmental determination of the amounts necessary for qualitative factors such
as the consideration of new products and policies, economic conditions,
concentrations of credit risk, and the experience and abilities of lending
personnel. Loan concentrations, quality, terms, and basic underlying
assumptions remained substantially unchanged during the period.
-10-
<PAGE>
The following table presents information with respect to the Corporation's non-
performing assets and restructured loans at the dates indicated.
<TABLE>
<CAPTION>
12/31/2003 12/31/2002 12/31/2001 6/30/2001 6/30/2000 6/30/1999
-------------------------------------------------------------------------------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Non-performing loans:
Commercial loans:
Commercial $ 128 132 1,039 166 226 338
Commercial real estate -- -- -- -- -- --
-------------------------------------------------------------------------------
128 132 1,039 166 226 338
Residential 1,704 742 762 1,112 221 618
Real estate construction -- -- -- -- -- --
Consumer loans 89 82 198 37 126 245
------------------------------------------------------------------------------
Total non-performing loans 1,921 956 1,999 1,315 57 1,201
Other real estate 474 461 430 787 528 --
------------------------------------------------------------------------------
Total non-performing assets 2,395 $1,417 2,428 2,102 1,101 1,201
==============================================================================
Restructured loans 3,467 -- -- -- -- --
Total non-performing loans to net loans .34% .17% .35 .23 .11 .26
Total non-performing loans to total assets .22 .12 .26 .18 .08 .22
Total non-performing assets to total assets .27 .18 .32 .29 .16 .22
</TABLE>
The Corporation's non-performing assets at December 31, 2003, consisting of
non-performing loans and other real estate, totaled $2.4 million or 0.27
percent of total assets. This is an increase from $1.4 million or 0.18 percent
of total assets at December 31, 2002, and a decrease from $2.4 million or 0.32
percent of total assets at December 31, 2001.
Loans are generally placed on non-accrual when they become past due over 90
days or when the collection of interest or principal is considered unlikely.
Loans past due over 90 or 120 days that are not on non-accrual status must be
well secured by tangible collateral and in the process of collection. The Bank
does not return a loan to accrual status until it is brought current with
respect to both principal and interest and future principal and interest
payments are no longer in doubt.
Non-performing loans increased to $1.9 million at December 31, 2003 compared
to a $1.0 million at December 31, 2002, and $2.0 million at December 31, 2001.
The increase in non-performing loans from December 31, 2002 to December 31,
2003 is due to an increase in non-performing residential loans. Management
believes that the allowance for losses on loans is adequate to provide for
losses that may be incurred on non-performing loans.
Other real estate owned includes property acquired by the Bank through
foreclosure and real estate held for development. Other real estate is carried
at the lower of the estimated fair value or the principal balance of the
foreclosed loans. Non-performing other real estate was $474,000 at December
31, 2003, an increase from $461,000 at December 31, 2002, and an increase from
$430,000 at December 31, 2001. All real estate owned was single-family
residential real estate.
Interest income that would have been recognized for the year ended December
31, 2003, December 31, 2002, the six month period ended December 31, 2001, and
for the fiscal years ended June 30, 2001, 2000 and 1999, had non-accrual loans
been current in accordance with their contractual terms amounted to $90,000,
$32,000, $87,000, $74,000, $32,000 and $86,000, respectively.
-11-
<PAGE>
The following tables set forth information regarding changes in the
Corporation's allowance for loan losses for the most recent five years (dollars
in thousands).
<TABLE>
<CAPTION>
Year Ended Six Months Ended Year Ended
12/31/03 12/31/02 12/31/01 12/31/01 12/31/00 6/30/01 6/30/00 6/30/99
------------------------------- ------------------- ---------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Balance at beginning of period $ 6,872 6,304 5,342 5,687 5,004 5,004 4,254 4,143
Charge Offs:
Business 295 1,028 147 138 48 46 53 49
Commercial Real Estate 95 -- -- -- -- 2 -- --
Single-Family Residence 59 249 193 42 5 166 16 7
Multi-Family -- -- -- -- -- -- -- --
Real Estate Construction -- -- -- -- -- -- -- --
Consumer and other 302 164 93 26 48 115 77 267
Recoveries: (315) (114) (25) (13) (19) (32) (126) (7)
--------------------------------------------------------------------------------------
Net charge-offs (recoveries): 436 1,327 408 193 82 297 20 316
Provision for loan losses 1,275 1,895 1,370 810 420 980 770 427
--------------------------------------------------------------------------------------
Balance at end of period 7,711 6,872 6,304 6,304 5,342 5,687 5,004 4,254
Average loans outstanding $565,453 566,302 573,867 580,221 552,512 560,013 517,405 418,207
======================================================================================
Ratio of net charge-offs during
the period to average loans
outstanding .08 .23 .07 .03 .02 .05 -- .08
Ratio of allowance for loan losses
to average loans outstanding 1.36 1.21 1.10 1.09 .97 1.02 .97 1.02
</TABLE>
A material estimate that is particularly susceptible to significant change
relates to the determination of the allowance for losses on loans and the
valuation of real estate acquired in connection with foreclosures or in
satisfaction of loans. In connection with the determination of the estimated
losses on loans and foreclosed assets held for sale, management obtains
independent appraisals for significant properties.
While management uses available information to recognize losses on loans,
further reductions in the carrying amounts of loans may be necessary based on
changes in local economic conditions. In addition, regulatory agencies, as an
integral part of their examination process, periodically review the estimated
losses on loans. Such agencies may require the Bank to recognize additional
losses based on their judgment about information available to them at the time
of their examination.
Certain loans may meet the criteria of troubled debt restructuring as
defined in Statement of Financial Accounting Standards ("SFAS") No. 114 and No.
118, "Accounting by Creditors for Impairment of a Loan," and "Accounting by
Creditors for Impairment of a Loan-Income Recognition and Disclosures,"
respectively.
The following tables set forth information concerning the Company's
allocation of the allowance for loan losses and the percentage of loans by
category at the dates indicated (dollars in thousands).
<TABLE>
<CAPTION>
12/31/03 12/31/02 12/31/01 6/30/01 6/30/00 6/30/99
Amount %* Amount %* Amount %* Amount %* Amount %* Amount %*
------------ ------------ ------------ ------------ ------------ ------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Business $2,833 35.4 2,918 25.6 2,927 21.4 2,203 19.9 1,886 15.8 740 13.3
Commercial Real Estate 787 14.5 274 11.4 220 10.7 569 9.9 544 9.9 1,160 10.6
Single-Family Residential 745 18.3 745 22.0 861 26.1 1,097 28.8 1,019 32.1 961 38.5
Multi-Family 245 15.1 366 17.0 442 18.8 672 18.7 619 20.6 460 18.6
Real Estate Construction 642 10.9 1,887 15.1 887 13.0 771 12.2 569 10.3 450 7.7
Consumer and Other 444 5.8 252 8.9 356 10.0 295 10.5 367 11.3 370 11.3
Unallocated 2,015 -- 430 -- 611 -- 80 -- -- -- 113 --
---------------------------------------------------------------------------------------------
Total allowance for loan losses $7,711 100.0% 6,872 100.0 6,304 100.0 5,687 100.0 5,004 100.0 4,254 100.0
* Percent of loans in each category to total loans.
</TABLE>
-12-
<PAGE>
The provision for loan losses for the year ended December 31, 2003 totaled
$1,275,000 compared to $1,895,000 for the year ended December 31, 2002. The
provision for loan losses was $810,000 for the six month period ended December
31, 2001, and $420,000 for the six months ended December 31, 2000. Provisions
for the fiscal years ended June 30, 2001, 2000 and 1999 were $980,000,
$770,000, and $427,000 respectively. The decrease in the provision for loan
losses for the twelve month period ended December 31, 2003 was due to the
decrease in adversely classified loans (which includes the substandard and
doubtful categories) under the Bank's loan classification system. Adversely
classified loans decreased to $12.0 million at December 31, 2003 from $24.5
million at December 31, 2002.
ASSET AND LIABILITY MANAGEMENT ACTIVITIES
- -----------------------------------------
The Bank uses a variety of tools to measure, monitor, and manage interest
rate risk. The Board of Directors reviews the interest rate risk management
activities of the Bank on a regular basis and has established policies on the
amount of risk deemed appropriate. The Bank's primary rate risk management tool
is a financial simulation model. The Bank's net interest income and the value
of its capital are measured under different interest rate scenarios. To manage
its interest rate risk, the Bank has focused on originating more interest rate
sensitive assets, such as prime based loans, while reducing its long-term,
fixed rate assets through selling long term residential mortgages in the
secondary market. The vast majority of the loans that the Bank keeps in its
portfolio have repricing periods of five years or less. The Bank often uses
FHLB advances to fund its intermediate term assets. Cascade uses reverse
repurchase agreements to provide inexpensive short term funding. These
agreements are generally for three months or less and provide the Bank with
liabilities that reprice relatively quickly, which helps match the repricing
characteristics of our prime based loans.
The Board of Directors, through the Asset/Liability Management Policy,
establishes limits on the sensitivity to changes in the Bank's exposure to
changes in interest rates. Cascade uses a simulation model to measure rate
risk and the impact on net interest income, the fair value of equity, and the
fair value capital/asset ratio under different interest rate shock scenarios.
Using standard rate shock methodology, the Bank's net interest income
decreases 9.1% in the up 200 bp shock scenario and decreases 6.2% in the down
200 bp scenario, both are within the established limit of a 10% decline. The
Bank's fair value of equity decreases 25.2% in an up 200 bp shock scenario and
increases 2.6% in a down 200 bp shock. The established limit is a decline of
30% in either scenario. The adjusted capital/asset ratio is 5.52% in the up
200 bp scenario and 7.10% in the down 200 bp scenario. The established limit
is 5.0%.
While within the parameters established by policy, the Bank has taken steps
to reduce it exposure, particularly to rising rates. Limits have been
established on the final maturity of investments and limits have been initiated
on the price volatility of MBS (including CMOs). Additionally, the Bank will
look for opportunities to extend the maturities of its FHLB advance portfolio.
These actions, individually and collectively, may have a negative impact on
current net interest income and spread, especially given the steepness of the
yield curve.
The Bank uses interest rate swaps and has used caps and floors in the past
to control the amount of its interest rate risk.
In October 2003, Cascade entered into an interest rate swap agreement to
hedge its junior subordinated debentures payable. The terms of the agreement
include, among other things, a collateral requirement, which is intended to
offset any credit risk between the Company and the third party. The notional
principle on the swap was $10 million where the Corporation received a fixed
rate and paid on an adjustable LIBOR based rate. As of December 31, 2003, the
collateral requirement was $800,000 and a security with a $1.8 million market
value was pledged to meet the collateral requirement. Should interest rates
increase, it is probable that the required collateral on the interest rate swap
will exceed the minimum requirement of $800,000, which would require additional
securities to be pledged. As of December 31, 2003, the Corporation pledged one
security classified as held to maturity as collateral with a market value of
$1.8 million. The unrealized loss on the interest rate swap was $98,000 as of
December 31, 2003. Unrealized gains or losses on the interest rate swap are
recorded as other assets or liabilities with the corresponding change in the
amount of liability for the junior subordinated debentures payable. The change
in unrealized gains or losses on the interest rate swap is offset by the
corresponding changes in the unrealized gains or losses on the junior
subordinated debentures in the accompanying Consolidated Statements of
Operations.
-13-
<PAGE>
The balance sheets and the section of Management's Discussion and Analysis
titled "Average Balances and an Analysis of Average Rates Earned and Paid"
contained in the Annual Report are incorporated herein by reference.
Rate/Volume Analysis. The following table sets forth the effects of
changing rates and volumes on net interest income of the Bank. Information is
provided with respect to (i) effects on interest income attributable to changes
in volume (changes in volume multiplied by prior rate); (ii) effects on
interest income attributable to changes in rate (changes in rate multiplied by
prior volume); and (iii) changes in rate/volume (change in rate multiplied by
change in volume).
-14-
<PAGE>
<TABLE>
<CAPTION>
Year Ended December 31, Year Ended December 31,
----------------------------------------- ----------------------------------------
2002 Compared to Year Ended
2003 Compared to Year Ended December 31, 2001
December 31, 2002 (unaudited)
Increase (Decrease) Due to Increase (Decrease) Due to
Rate Volume Rate/ Net Rate Volume Rate/ Net
Volume Volume
----------------------------------------- ----------------------------------------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Interest-earning assets
- -----------------------
Mortgage loans (1) $(2,877) (2,180) 221 (4,836) (2,927) (1,621) 145 (4,403)
Consumer loans (1) (157) (1,203) 46 (1,314) (654) (421) 54 (1,021)
Business loans (1) (912) 3,251 (316) 2,023 (1,360) 1,461 (209) (108)
----------------------------------------- ----------------------------------------
Total loans (3,946) (132) (49) (4,127) (4,941) (581) (10) (5,532)
Securities held-to-maturity (1,595) 2,237 (399) 243 13 907 30 950
Securities available-for-sale (156) 2,426 (281) 1,989 (464) 1,608 (94) 1,050
Daily interest-earning deposits (83) (173) 44 (212) (88) 359 (153) 118
----------------------------------------- ----------------------------------------
Total net change in income on
interest earning assets (5,780) 4,358 (685) (2,107) (5,480) 2,293 (227) (3,414)
========================================= ========================================
Interest-bearing liabilities
- ----------------------------
Interest-bearing deposits (3,056) 1,984 (484) (1,556) (6,871) 2,887 (1,125) (5,109)
FHLB advances (1,364) (530) 60 (1,834) (395) (1,598) 45 (1,948)
Other borrowings (334) 38 (7) (303) (833) (208) 63 (978)
----------------------------------------- ----------------------------------------
Total net change in expenses on
interest-bearing liabilities $(4,754) 1,492 (431) (3,693) (8,099) 1,081 (1,017) (8,035)
========================================= ========================================
Net increase in net interest income $ 1,586 4,621
======== ======
(1) Does not include interest on loans 90 days or more past due.
</TABLE>
<TABLE>
<CAPTION>
Six Months Ended Year Ended June 30,
----------------------------------------- ----------------------------------------
December 31, 2001 Compared to 2001 Compared to Year
Six months ended December 31, 2000 Ended June 30, 2000
(unaudited) Increase (Decrease)
Increase (Decrease) Due to Due to
Rate Volume Rate/ Net Rate Volume Rate/ Net
Volume Volume
----------------------------------------- ----------------------------------------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Interest-earning assets
- -----------------------
Mortgage loans (1) $(1,335) 267 528 (540) 755 1,248 30 2,033
Consumer loans (1) (428) (347) 401 (374) 243 488 25 756
Business loans (1) (1,443) 2,725 (865) 417 (32) 1,994 (9) 1,953
----------------------------------------- ----------------------------------------
Total loans (3,206) 2,645 64 (497) 966 3,730 46 4,742
Securities held-to-maturity (147) (301) 253 (195) 62 44 9 115
Securities available-for-sale (1,231) 1,302 (136) (65) 41 3,081 25 3,147
Daily interest-earning deposits (76) (25) 53 (48) (38) 175 (34) 103
----------------------------------------- ----------------------------------------
Total net change in income on
interest-earning assets (4,660) 3,621 234 (805) 1,031 7,030 46 8,107
========================================= =======================================
Interest-bearing liabilities
- ----------------------------
Interest-bearing deposits (5,172) 320 2,386 (2,466) 822 (497) (21) 304
FHLB advances (446) 973 (280) 247 923 3,475 352 4,750
Other borrowings (1,143) 442 273 (428) (71) 2,482 (184) 2,227
----------------------------------------- ----------------------------------------
Total net change in expenses on
interest-bearing liabilities $(6,761) 1,735 2,379 (2,647) 1,674 5,460 147 7,281
========================================= =======================================
Net increase in net interest income $1,842 826
======= =====
(1) Does not include interest on loans 90 days or more past due.
Mortgage loans include residential, multi-family, construction and commercial real estate.
</TABLE>
-15-
<PAGE>
INVESTMENT PORTFOLIO
- --------------------
The Board of Directors sets the investment policy of the Bank. This policy
dictates that investments will be made based on the safety of the principal
amount, interest rate risk, liquidity requirements of the Bank as well as the
return on the investment. The Bank's policy does not permit the purchase of
non-investment grade bonds. The policy permits the investment in various types
of assets permissible under FDIC regulation including: United States Treasury
obligations; securities of certain government sponsored enterprises, mortgage-
backed securities ("MBS") including collateralized mortgage obligations
("CMOs"), state and municipal government bonds, deposits at the FHLB-Seattle,
certificates of deposit of federally insured institutions, investment grade
corporate bonds, certain bankers' acceptances and Federal funds. Subject to
various restrictions, the Bank may also invest part of its assets in commercial
paper, corporate debt securities and mutual funds, if those assets conform to
FDIC regulations.
Investment securities increased to $276.5 million at December 31, 2003 from
$209.3 million at December 31, 2002, a 32% increase. The investment portfolio
represented 31% of total assets at December 31, 2003 compared to 26% at
December 31, 2002. MBS (including CMOs) available for sale decreased from
$90.1 million to $70.5 million as of December 31, 2003. However, agency notes
available for sale increased from $55.9 million to $99.2 million. Agency notes
held to maturity increased from $44.9 million to $73.8 million for the year
ended December 31, 2003, as the Corporation sought to capture additional income
by obtaining a higher coupon in return for giving the issuer the option to call
the security before its stated maturity.
The following tables set forth the Bank's securities available for sale at
the dates indicated.
<TABLE>
<CAPTION>
December 31, 2003 December 31, 2002 December 31, 2001 June 30, 2001
--------------------------------------------------------------------------------------------------------------
Estimated Percent of Estimated Percent of Estimated Percent of Estimated Percent of
Fair Value Portfolio Fair Value Portfolio Fair Value Portfolio Fair Value Portfolio
--------------------------------------------------------------------------------------------------------------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
MBS $ 70,523 37.17% 90,073 56.3 56,511 37.6 76,832 59.4
Agency notes 99,240 52.30 55,874 35.0 76,699 51.0 35,492 27.5
FHLB stock 14,741 7.77 13,950 8.7 13,119 8.7 12,668 9.8
Corporate/other 5,243 2.76 -- -- 4,009 2.7 4,221 3.3
-------- ------- ------- -------
Total $189,747 159,897 150,338 129,213
======== ======= ======= =======
</TABLE>
The following table sets forth the contractual maturities and weighted
average yields of the Corporation's securities available for sale at December
31, 2003. Securities with no stated maturity dates are reported as due within
one year.
<TABLE>
<CAPTION>
Less Than One Year One to Five Years Five to Ten Years Over Ten Years
-----------------------------------------------------------------------------------------------------------
Estimated Estimated Estimated Estimated
Fair Value Yield Fair Value Yield Fair Value Yield Fair Value Yield
-----------------------------------------------------------------------------------------------------------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
MBS $ -- -- 945 6.83 -- -- 69,578 5.06
Agency notes 85 2.00 10,030 4.16 57,212 4.83 31,913 4.99
FHLB stock 14,741 5.00 -- -- -- -- -- --
Corporate/other -- -- -- -- 5,243 5.58 -- --
Total $ 14,826 10,975 62,455 101,491
</TABLE>
The following table sets forth amortized cost and estimated fair values for
Cascade's securities held to maturity at the dates indicated.
<TABLE>
<CAPTION>
December 31, 2003 December 31, 2002
Amortized Percent of Amortized Percent of
Cost Fair Value Portfolio Cost Fair Value Portfolio
-------------------------------------------------------------------------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
MBS $12,587 12,328 14.44% $ 4,212 4,378 8.8
Agency notes 73,822 72,709 85.20 44,866 45,261 90.6
Corporate/other 310 307 0.36 310 310 0.6
-------------------- --------------------
Total $86,719 85,344 $49,388 49,949
====== ====== ====== ======
</TABLE>
-16-
<PAGE>
<TABLE>
<CAPTION>
December 31, 2001 June 30, 2001
Amortized Percent of Amortized Percent of
Cost Fair Value Portfolio Cost Fair Value Portfolio
-------------------------------------------------------------------------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
MBS $ 5,989 5,883 100% 6,592 6,456 100%
Corporate/other -- -- -- --
------------------- ----------------
Total $ 5,989 5,883 6,592 6,456
======= ===== ===== =====
</TABLE>
The following table sets forth the contractual maturities and weighted
average yields of the Corporation's securities held to maturity at December 31,
2003. Securities with no stated maturity dates are reported as due within one
year.
<TABLE>
<CAPTION>
Less Than One Year One to Five Years Five to Ten Years Over Ten Years
---------------------------------------------------------------------------------------------------------
Estimated Estimated Estimated Estimated
Fair Value Yield Fair Value Yield Fair Value Yield Fair Value Yield
---------------------------------------------------------------------------------------------------------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
MBS $ -- -- -- -- -- -- 12,328 4.78
Agency Notes -- -- -- -- -- -- 72,709 4.93
Corporate/other -- -- -- -- -- -- 307 11.00
------
Total -- -- -- -- -- -- 85.344
======
</TABLE>
For further information concerning the Corporation's securities portfolio,
see Note 2 of the Notes to the Consolidated Financial Statements contained in
the Annual Report listed in Item 15.
DEPOSITS
- --------
The Bank's primary source of funds is customer deposits. In addition to
checking accounts, the Bank offers a variety of interest-bearing accounts
designed to attract both short-term and longer-term deposits from customers.
Interest-bearing accounts earn interest at rates established by Bank
management based on competitive market factors and the Bank's need for funds.
Deposits increased to $564.3 million at December 31, 2003 from $509.9
million at December 31, 2002, an increase of 10.7% during this period. Deposits
at December 31, 2001 were $420.0 million and at June 30, 2001 were $401.9
million. The market for retail deposits remains fiercely competitive.
Previously, the Bank paid rates at the higher end of the competitive range of
financial institutions in its market area. In an attempt to lower the absolute
and relative cost of funds, the Bank modified its deposit pricing strategy by
pricing its deposits in the middle of that range.
The following table sets forth the average balances for each major category
of deposit and the weighted average interest rate paid for deposits during the
years ended December 31, 2003, 2002, and 2001, and for each of the three years
ended, June 30, 2001, 2000, and 1999 (dollars in thousands).
<TABLE>
<CAPTION>
Average Deposits by Type
December 31, December 31, December 31, June 30, June 30, June 30,
2003 2002 2001 2001 2000 1999
Amount Rate Amount Rate Amount Rate Amount Rate Amount Rate Amount Rate
---------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Non-interest-bearing
demand deposits $ 38,243 -- 29,122 -- 23,028 -- 22,072 -- 22,089 -- 18,100 --
Interest-bearing
demand deposits 21,854 0.48% 22,641 1.04 22,051 1.23 21,783 1.81 18,408 2.11 18,540 2.21
Money market deposit 113,263 1.32 107,363 2.14 94,384 2.98 96,491 4.49 119,219 5.00 69,426 4.66
Savings 11,828 0.46 11,324 1.15 11,073 1.96 10,915 2.83 11,446 3.07 12,781 3.06
Time certificates 357,955 2.60 294,554 3.35 254,836 5.01 242,501 6.22 232,192 5.64 220,921 5.61
-------- ------- ------- ------- ------- -------
$543,143 465,004 405,372 393,762 403,354 339,768
======== ======= ======= ======= ======= =======
</TABLE>
-17-
<PAGE>
The following table indicates the amount of the Bank's jumbo certificates of
deposit by time remaining until maturity at December 31, 2003. Jumbo
certificates of deposit require minimum deposits of $100,000 and rates paid on
such accounts are negotiable.
Jumbo Certificates
Maturity Period of Deposit
- -------------------------------------------------
(Dollars in thousands)
Three months or less $ 61,345
Over three through six months 43,161
Over six through twelve months 83,261
Over twelve months 52,172
Total $239,939
The flow of deposits is influenced significantly by general economic
conditions, changes in the money market and prevailing interest rates. In
addition, there is strong competition for customer dollars from other financial
institutions, mutual funds and non-bank corporations, such as securities
brokerage companies and other diversified companies. The Bank's deposits are
obtained primarily from the areas in which its branches are located. The Bank
relies primarily on customer service and longstanding relationships with
customers to attract and retain these deposits. In the coming year, the Bank
will focus on its deposit gathering activities, and management expects a
significant portion of its deposit growth in 2004 will occur in its business
deposit products. In the event the Bank were liquidated, certain depositors
would be entitled to full payment of their deposit accounts prior to any
payment being made to the shareholders.
RETURN ON EQUITY AND ASSETS
- ---------------------------
The section entitled "Selected Financial Data" of the Annual Report listed
in Item 15 is incorporated herein by reference.
BORROWINGS
- ----------
The Bank relies on advances from the Federal Home Loan Bank of Seattle
(FHLB-Seattle) to supplement its supply of funds and to meet deposit
withdrawal requirements. Advances from the FHLB-Seattle are typically secured
by the Bank's first mortgage residential loans and eligible investment
securities. FHLB advances were $200 million at December 31, 2003, compared to
$197.5 million at December 31, 2002, a 1.3% increase. FHLB advances were
$226.5 million at December 31, 2001.
The FHLB provides credit for member financial institutions. As members,
financial institutions are required to own capital stock in the FHLB, and are
authorized to apply for advances on the security of such stock, certain home
mortgages, and government and agency securities (typically securities that are
obligations of, or guaranteed by, the United States). Advances are made to
member financial institutions pursuant to several different programs. These
programs are generally designed to meet the financial institution's needs while
still reflecting market terms and conditions. The Bank uses advances from the
FHLB to supplement funds available to lend and to meet liquidity guidelines.
Interest rates on these advances vary depending on capital market conditions.
The Bank enters into reverse repurchase agreements with nationally
recognized banks. Reverse repurchase agreements are accounted for as borrowings
by the Bank and are secured by designated investments, primarily the notes of
federal agencies and mortgage-backed securities guaranteed by those agencies.
The proceeds of these transactions are used to meet the cash flow and interest
rate risk management needs of the Bank.
Repurchase agreements increased to $39.9 million at December 31, 2003 from
$20.6 million at December 31, 2002. Repurchase agreements, with notes of
Government Sponsored Enterprises and/or mortgage-backed securities pledged as
collateral, are employed as short term funding vehicles that provide
liabilities with interest rate sensitivity more closely aligned to prime based
loans than the Bank's deposit base.
Cascade Bank has established Fed funds borrowing lines with two of its
correspondent banks. Neither line was used during the year ended December 31,
2003.
-18-
<PAGE>
The following table sets forth certain information regarding borrowings by
the Corporation at the end of, and during, the periods indicated.
<TABLE>
<CAPTION>
At or for the At or for the At or for the
year ended, six months ended year ended
December 31, December 31, June 30,
2003 2002 2001 2001 2000
-------------- --------------- ---------------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
Weighted average rate on:
Securities sold under agreements to repurchase 1.17 1.49 2.16 4.02 6.46
FHLB advances 4.85 5.78 5.79 6.07 6.21
Maximum amount of borrowings outstanding at any month end:
Securities sold under agreements to repurchase 40,587 49,666 49,792 54,237 21,696
FHLB advances 211,750 226,500 235,322 236,712 215,656
Approximate average borrowings outstanding with respect to:
Securities sold under agreements to repurchase 35,334 34,415 38,264 34,231 9,082
FHLB advances 194,229 203,022 229,314 221,075 165,524
Approximate weighted average rate paid on:
Other interest-bearing liabilities* 3.39 4.00 4.93 7.05 7.60
FHLB advances 5.31 5.98 6.14 6.25 5.68
* Including Trust Preferred Securities.
</TABLE>
Junior Subordinated Debentures Payable (Trust Preferred Securities). On
March 1, 2000, $10 million of 11 percent Capital Securities due March 1, 2030
were issued by a wholly owned business Trust whose common equity is 100% owned
by Cascade Financial Corporation. The Trust exists for the exclusive purposes
of issuing and selling the capital securities, using the proceeds from the sale
of the capital securities to acquire junior subordinated debentures issued by
Cascade Financial Corporation, and engaging in only those other activities
necessary, advisable or incidental to the above. The Corporation used the
proceeds for general corporate purposes including stock repurchases and
investment in its subsidiary bank. At December 31, 2003, as a result of the
adoption of FIN 46R, we deconsolidated the Trust and all periods in the
consolidated financial statements have been restated to reflect this change.
The $10.3 million of junior subordinated debentures issued by the Company to
the Trust were reflected as junior subordinated debentures payable in the
consolidated balance sheet at December 31, 2003. The junior subordinated
debentures will mature on March 1, 2030 unless redeemed prior to such date if
certain conditions are met. The Trust will redeem the trust preferred
securities when we pay the junior subordinated debentures at maturity or upon
any earlier redemption of the junior subordinated debentures.
Prior to December 31, 2003, the Trust was consolidated and was included in
liabilities in the consolidated balance sheet, as "Trust Preferred Securities."
The common securities and debentures, along with the related income effects
were eliminated in the consolidated financial statements.
Subsidiary Activity
- -------------------
The Corporation has two subsidiaries: Cascade Bank and Cascade Capital
Trust. The activities of the Corporation are primarily conducted through the
Bank. Accordingly, this Form 10-K principally discusses the Bank's operations.
Cascade Capital Trust I was formed for the exclusive purpose of issuing
Trust Preferred Securities and common securities and using the proceeds to
acquire junior subordinated debentures issued by the Corporation. The junior
subordinated debentures total $10.2 million, have an interest rate of 11.00%,
mature on March 1, 2030 and are the sole assets of Cascade Capital Trust I.
The junior subordinated debentures are prepayable, in whole or in part, at
the Corporation's option on or after March 1, 2010 at declining premiums to
maturity. Proceeds totaling approximately $9.23 million from the issuance of
the junior subordinated debentures were used to increase the capital level of
the Bank.
-19-
<PAGE>
Personnel
- ---------
At December 31, 2003, the Corporation had 172 full-time equivalent
employees. The Corporation believes that employees play a vital role in the
success of a service company and that the Corporation's relationship with its
employees is good. The employees are not represented by a collective
bargaining unit.
REGULATION
Introduction/General
- --------------------
The following generally refers to certain statutes and regulations affecting
the Corporation and the Bank. This provides only a brief summary of the
regulations impacting the Corporation and is not complete. This discussion is
qualified in its entirety by the statutes and regulations. In addition, some
statutes and regulations exist which impact the Corporation which are not
referenced below.
The Corporation is subject to extensive regulation, supervision and
examination. Such regulation and supervision govern the activities in which the
institution can engage and is intended primarily for the protection of the
insurance fund and depositors. Regulatory authorities have been granted
extensive discretion in connection with their supervisory and enforcement
activities, which are intended to strengthen the financial condition of the
banking industry, including the imposition of restrictions on the operation of
an institution, the classification of assets by the institution and the
adequacy of an institution's allowance for loan losses. Any change in such
regulation and oversight could have an adverse material impact on the
Corporation, Cascade and their respective operations.
The Corporation
- ---------------
The Corporation is a bank holding company that has elected to be treated as
a financial holding company with the Board of Governors of the Federal Reserve
Board (the "FRB"). The Bank Holding Company Act of 1956, as amended ("BHCA")
subjects the Corporation and its subsidiaries to supervision and examination by
the FRB. The Corporation files annual reports of operations with the FRB.
Bank Holding Company Regulation. In general, the BHCA limits bank holding
company business to owning or controlling banks and engaging in other banking-
related activities. Bank holding companies must obtain the FRB's approval
before they: (1) acquire direct or indirect ownership or control of any voting
shares of any bank that results in total ownership or control, directly or
indirectly, of more than 5 percent of the voting shares of such bank; (2) merge
or consolidate with another bank holding company; or (3) acquire substantially
all of the assets of any additional banks. Subject to certain state laws, such
as age and contingency restrictions, a bank holding company that is adequately
capitalized and adequately managed may acquire the assets of both in-state and
out-of-state banks. With certain exceptions, the BHCA prohibits bank holding
companies from acquiring direct or indirect ownership or control of voting
shares in any company that is not a bank or a bank holding company unless the
FRB determines that the activities of such company are incidental or closely
related to the business of banking. If a bank holding company is well-
capitalized and meets certain criteria specified by the FRB, it may engage de
novo in certain permissible non-banking activities without prior FRB approval.
The Change in Bank Control Act of 1978, as amended, requires a person (or
group of persons acting in concert) acquiring "control" of a bank holding
company to provide the FRB with 60 days prior written notice of the proposed
acquisition. Following receipt of this notice, the FRB has 60 days within which
to issue a notice disapproving the proposed acquisition, but the FRB may extend
this time period for up to another 30 days. An acquisition may be completed
before expiration of the disapproval period if the FRB issues written notice of
its intent not to disapprove the transaction. In addition, any "company" must
obtain the FRB's approval before acquiring 25% (5% if the "company" is a bank
holding company) or more of the outstanding shares or otherwise obtaining
control over the Corporation.
Financial Holding Company Election/Affiliations. In 2001, the Corporation
elected to be treated as a financial holding company with the FRB, as permitted
under the Gramm-Leach-Bliley Financial Services Modernization Act (the "GLB").
This election allows the Corporation to conduct activities that previously were
unavailable to bank holding companies, provided that notice requirements are
generally required before engaging in any such activities.
-20-
<PAGE>
In a change from previous law, bank holding companies are in a position to
be owned, controlled or acquired by any company engaged in financially related
activities, so long as such company meets certain regulatory requirements. To
the extent the legislation permits banks, securities firms and insurance
companies to affiliate, the financial services industry may experience further
consolidation. This consolidation could result in a growing number of larger
financial institutions that offer a wider variety of financial services than
the Corporation currently offers and that can aggressively compete in the
markets currently served by the Corporation.
Transactions with Affiliates. The Corporation and its subsidiaries are
deemed affiliates within the meaning of the Federal Reserve Act, and
transactions between affiliates are subject to certain restrictions.
Accordingly, the Corporation and its subsidiaries must comply with Sections 23A
and 23B of the Federal Reserve Act. Generally, Sections 23A and 23B (1) limit
the extent to which a financial institution or its subsidiaries may engage in
"covered transactions" with an affiliate, as defined, to an amount equal to 10%
of such institution's capital and surplus and an aggregate limit on all such
transactions with all affiliates to an amount equal to 20% of such capital and
surplus, and (2) require all transactions with an affiliate, whether or not
"covered transactions," to be on terms substantially the same, or at least as
favorable to the institution or subsidiary, as those provided to a non-
affiliate. The term "covered transaction" includes the making of loans,
purchase of assets, issuance of a guarantee and other similar types of
transactions.
Tie-In Arrangements. The Corporation and its subsidiaries are prohibited
from engaging in certain tie-in arrangements in connection with any extension
of credit, sale or lease of property or furnishing of services. For example,
with certain exceptions, neither the Corporation nor its subsidiaries may
condition an extension of credit on either a requirement that the customer
obtain additional services provided by it or an agreement by the customer to
refrain from obtaining other services from a competitor.
State Law Restrictions. As a Washington corporation, the Corporation is
subject to certain limitations and restrictions as provided under applicable
Washington corporate laws.
Securities Registration and Reporting. The Corporation's common stock is
registered as a class with the SEC under the Securities Exchange Act of 1934
and thus the Corporation is subject to the periodic reporting and proxy
solicitation requirements and the insider-trading restrictions of that Act. The
periodic reports, proxy statements, and other information filed by the
Corporation under that Act can be inspected and copied at or obtained from the
Washington, D.C. office of the SEC. In addition, the securities issued by the
Corporation are subject to the registration requirements of the Securities Act
of 1933 and applicable state securities laws unless exemptions are available.
The corporation is listed as a NASDAQ/Small Capitalization stock. As such,
it is subject to the listing and reporting requirements of the NASD. Failure
to meet these requirements could lead to a delisting of the Corporation's
stock.
Disclosure Controls and Procedures. The Sarbanes-Oxley Act of 2002 and
related rulemaking by the SEC, which effect sweeping corporate disclosure and
financial reporting reform, generally require public companies to focus on
their disclosure controls and procedures. As a result, public companies such
as the Corporation now must have disclosure controls and procedures in place
and make certain disclosures about them in their periodic SEC reports (i.e.,
Forms 10-K and 10-Q) and their chief executive and chief financial officers
must certify in these filings that they are responsible for developing and
evaluating disclosure controls and procedures and disclose the results of an
evaluation conducted by them within the 90-day period preceding the filing of
the relevant report, among other things.
Dividends. The FRB has issued a policy statement on the payment of cash
dividends by bank holding companies, which expresses the FRB's view that a bank
holding company should pay cash dividends only to the extent that the
Corporation's net income for the past year is sufficient to cover both the cash
dividend and a rate of retention consistent with the Corporation's capital
needs. The FRB also indicated that it would be inappropriate for a company
experiencing serious financial problems to borrow to pay dividends.
Capital Requirements. The FRB has established capital adequacy guidelines
for bank holding companies that generally parallel the capital requirements the
FDIC has for the Bank. The FRB regulations provided that capital standards will
be applied on a consolidated basis in the case of a bank holding company with
more than $150 million in total consolidated assets. The Corporation's total
risk based capital must equal 8% of risk weighted assets and 4% must consist of
Tier 1 capital.
-21-
<PAGE>
Stock Repurchases. Bank holding companies, except for certain "well
capitalized" and highly rated companies, are required to give the FRB prior
written notice of any purchase or redemption of its outstanding equity
securities if the gross consideration for the purchase or redemption is equal
to or greater than 10% of consolidated net worth during the preceding twelve
months. The FRB may disapprove any such purchase or redemption if it determines
that the proposal would constitute an unsafe or unsound practice.
Cascade Bank
- ------------
General. Applicable federal and state statutes and regulations governing a
bank's operations relate, among other matters, to capital requirements,
investments, loans, legal lending limits, mergers and consolidations,
borrowings, issuance of securities, payment of dividends, establishment of
branches, and dealings with affiliated persons. The Federal Deposit Insurance
Corporation ("FDIC") has authority to prohibit banks under its supervision from
engaging in what it considers to be unsafe or unsound practices in conducting
their business. Cascade Bank is a state-charted commercial bank subject to
extensive regulation and supervision by both the Washington Department of
Financial Institutions ("DFI") and the FDIC. The federal laws that apply to
Cascade Bank regulate, among other things, the scope of its business, its
investments, the timing of the availability of deposited funds and the nature
and amount of collateral for loans. The laws and regulations governing Cascade
Bank generally have been promulgated to protect depositors and not to protect
shareholders of such institutions or their holding companies.
CRA. The Community Reinvestment Act requires that, in connection with
examinations of financial institutions within their jurisdiction, the FRB or
the FDIC evaluates the record of the financial institutions in meeting the
credit needs of their local communities, including low and moderate income
neighborhoods, consistent with the safe and sound operation of those banks.
These factors are also considered in evaluating mergers, acquisitions, and
applications to open a branch or facility. The four possible ratings of meeting
community credit needs are outstanding, satisfactory, needs to improve and
substantial noncompliance. Cascade Bank received a satisfactory CRA rating at
the last examination.
Standards for Safety and Soundness. The federal banking regulatory agencies
have prescribed, by regulation, standards for all insured depository
institutions and depository institution holding companies relating to: (i)
internal controls, information systems and internal audit systems; (ii) loan
documentation; (iii) credit underwriting; (iv) interest rate risk exposure; (v)
asset growth; (vi) asset quality; (vii) earnings; and (viii) compensation, fees
and benefits ("Guidelines"). The Guidelines set forth the safety and soundness
standards that the federal banking agencies use to identify and address
problems at insured depository institutions before capital becomes impaired.
If a federal banking agency determines that a financial institution fails to
meet any standard prescribed by the Guidelines, the agency may require the bank
to submit to the agency an acceptable plan to achieve compliance with the
standard. Management is not aware of any conditions relating to these safety
and soundness standards which would require the submission of a plan of
compliance.
Insider Credit Transactions. Cascade Bank is also subject to certain
restrictions imposed by the Federal Reserve Act on extensions of credit to
executive officers, directors, principal shareholders, or any related interests
of such persons. Extensions of credit (i) must be made on substantially the
same terms, including interest rates and collateral, and follow credit
underwriting procedures that are not less stringent than those prevailing at
the time for comparable transactions with persons not covered above and who are
not employees; and (ii) must not involve more than the normal risk of repayment
or present other unfavorable features. Cascade Bank is also subject to certain
lending limits and restrictions on overdrafts to such persons. A violation of
these restrictions may result in the assessment of substantial civil monetary
penalties on the affected bank or any officer, director, employee, agent, or
other person participating in the conduct of the affairs of Cascade Bank, the
imposition of a cease and desist order, and other regulatory sanctions.
FDICIA. Under the Federal Deposit Insurance Corporation Improvement Act of
1991 (the "FDICIA"), each federal banking agency has prescribed, by regulation,
non-capital safety and soundness standards for institutions under its
authority. These standards cover internal controls, information systems, and
internal audit systems, loan documentation, credit underwriting, interest rate
exposure, asset growth, compensation, fees and benefits, such other operational
and managerial standards as the agency determines to be appropriate, and
standards for asset quality, earnings and stock valuation. An institution that
fails to meet these standards must develop a plan acceptable to the agency,
specifying the steps that the institution will take to meet the standards.
Failure to submit or implement such a plan may subject the institution to
regulatory sanctions. Management of the Corporation believes that Cascade Bank
meets all such standards, and therefore, does not believe that these regulatory
standards materially affect the Corporation's business operations currently.
-22-
<PAGE>
Loans to One Borrower. Cascade Bank is subject to limitations on the
aggregate amount of loans that it can make to any one borrower, including
related entities. Applicable regulations generally limit loans to one borrower
to 20 percent of unimpaired capital and surplus. At December 31, 2003, the Bank
had no borrowers with balances in excess of the loans-to-one-borrower limit.
Interstate Banking and Branching. The Riegle-Neal Interstate Banking and
Branching Efficiency Act of 1994 (the "Interstate Act") permits nationwide
interstate banking and branching under certain circumstances. This legislation
generally authorizes interstate branching and relaxes federal law restrictions
on interstate banking. Currently, bank holding companies may purchase banks in
any state, and states may not prohibit such purchases. Additionally, banks are
permitted to merge with banks in other states as long as the home state of
neither merging bank has "opted out." The Interstate Act requires regulators to
consult with community organizations before permitting an interstate
institution to close a branch in a low-income area. With regard to interstate
bank mergers, Washington has "opted in" to the Interstate Act and allows in-
state banks to merge with out-of-state banks subject to certain aging
requirements. Washington law generally authorizes the acquisition of an
in-state bank by an out-of-state bank or bank holding company through the
acquisition of or a merger with a financial institution that has been in
existence for at least 5 years prior to the acquisition.
Deposit Insurance. The deposits of Cascade Bank are currently insured to a
maximum of $100,000 per depositor through the Savings Association Insurance
Fund (the "SAIF") administered by the FDIC. All insured banks are required to
pay semi-annual deposit insurance premium assessments to the FDIC. The FDICIA
included provisions to reform the Federal Deposit Insurance System, including
the implementation of risk-based deposit insurance premiums. The FDICIA also
permits the FDIC to make special assessments on insured depository institutions
in amounts determined by the FDIC to be necessary to give it adequate assessment
income to repay amounts borrowed from the U.S. Treasury and other sources, or
for any other purpose the FDIC deems necessary. The FDIC has implemented a
risk-based insurance premium system under which banks are assessed insurance
premiums based on how much risk they present to the SAIF. Banks with higher
levels of capital and a low degree of supervisory concern are assessed lower
premiums than banks with lower levels of capital or a higher degree of
supervisory concern.
Dividends. The principal source of the Corporation's revenue is dividends
received from Cascade Bank. The payment of dividends is subject to government
regulation, in that regulatory authorities may prohibit banks and bank holding
companies from paying dividends that would constitute an unsafe or unsound
banking practice. In addition, a bank may not pay cash dividends if that
payment could reduce the amount of its capital below that necessary to meet
minimum applicable regulatory capital requirements. Other than the laws and
regulations noted above, which apply to all banks and bank holding companies,
neither the Corporation nor Cascade Bank is currently subject to any regulatory
restrictions on its dividends.
Capital Adequacy. Federal bank regulatory agencies use capital adequacy
guidelines in the examination and regulation of bank holding companies and
banks. If capital falls below minimum guideline levels, the holding company or
bank may be denied approval to acquire or establish additional banks or
non-bank businesses or to open new facilities. The FDIC and FRB use risk-based
capital guidelines for banks and bank holding companies. These are designed to
make such capital requirements more sensitive to differences in risk profiles
among banks and bank holding companies, to account for off-balance sheet
exposure and to minimize disincentives for holding liquid assets. Assets and
off-balance sheet items are assigned to broad risk categories, each with
appropriate weights. The resulting capital ratios represent capital as a
percentage of total risk-weighted assets and off-balance sheet items. The
guidelines are minimums, and the FRB has noted that bank holding companies
contemplating significant expansion programs should not allow expansion to
diminish their capital ratios and should maintain ratios well in excess of the
minimum. The current guidelines require all bank holding companies and
federally-regulated banks to maintain a minimum risk-based total capital ratio
equal to 8 percent, of which at least 4 percent must be Tier I capital. Tier I
capital for bank holding companies includes common shareholders' equity,
certain qualifying perpetual preferred stock and minority interests in equity
accounts of consolidated subsidiaries, less intangibles except as described
above. At December 31, 2003, the Bank had Tier 1 capital equal to $73.0 million
or 8.34% of average total assets, which is $38.0 million above the minimum
leverage requirement of 4% as in effect on that date.
The FDIC also employs a leverage ratio, which is Tier I capital as a
percentage of total assets less intangibles, to be used as a supplement to
risk-based guidelines. The principal objective of the leverage ratio is to
constrain the maximum degree to which a bank holding company may leverage its
equity capital base. The FDIC requires a minimum leverage ratio of 3 percent.
However, for all but the most highly rated bank holding companies and for bank
holding companies seeking to expand, the FDIC expects an additional cushion of
at least 1 percent to 2 percent.
-23-
<PAGE>
FDICIA created a statutory framework of supervisory actions indexed to the
capital level of the individual institution. Under regulations adopted by the
FDIC, an institution is assigned to one of five capital categories depending on
its total risk-based capital ratio, Tier I risk-based capital ratio, and
leverage ratio, together with certain subjective factors. Institutions which
are deemed to be "undercapitalized" depending on the category to which they are
assigned are subject to certain mandatory supervisory corrective actions. The
Corporation does not believe that these regulations have any material effect on
its operations currently.
Reference is made to Note 11 of the Notes to the Consolidated Financial
Statements in the Annual Report, which is listed as an exhibit under Item 15,
for additional information concerning regulatory capital.
The FDIC risk-based requirement requires financial institutions to have
total capital of at least 8% of risk-weighted assets. Total capital consists of
Tier I capital and supplementary capital. Supplementary capital consists of
certain permanent and maturing capital instruments that do not qualify as Tier
I capital and general valuation loan and lease loss allowances up to a maximum
of 1.25% of risk-weighted assets. Supplementary capital may be used to satisfy
the risk-based requirement only to the extent of Tier I capital.
In determining the amount of risk-weighted assets, all assets, including
certain off-balance sheet items, are multiplied by a risk weight, ranging from
0% to 100%, based on the risk inherent in the type of asset. For example,
prudently underwritten permanent one-to-four family first lien mortgage loans
not more than 90 days delinquent and having a loan-to-value ratio of not more
than 80% at origination unless insured to such ratio by an insurer approved by
FNMA or FHLMC, have been assigned a risk weight of 50%.
On December 31, 2003, the Bank had total risk-based capital of approximately
$80.6 million, including $73.0 million in Tier I capital and $7.6 million in
qualifying supplementary capital (the allowance for loan losses), and risk-
weighted assets of $609.5 million, or total capital of 13.22% of risk-weighted
assets. This amount was $31.8 million above the 8% requirement in effect on
that date.
FDIC capital requirements are designated as the minimum acceptable standards
for banks whose overall financial condition is fundamentally sound. The FDIC
regulations state that if the FDIC determines that conditions so warrant, it
may impose a greater capital standard on a particular institution.
Management believes that the Bank will continue to meet its minimum capital
requirements in the foreseeable future. However, if circumstances were to
materially and adversely impact the future earnings of the Bank, the ability of
the Bank to meet its capital requirements could be impaired.
Prompt Corrective Action. Federal statutes establish a supervisory framework
based on five capital categories: well capitalized, adequately capitalized,
undercapitalized, significantly undercapitalized, and critically
undercapitalized. An institution's category depends upon where its capital
levels are in relation to relevant capital measures. In order to be adequately
capitalized, an institution must have a total risk-based capital ratio of not
less than 8%, a Tier 1 risk-based capital of not less than 4%, and a leverage
ratio of not less than 4%. Any institution which fails to meet these levels
will be considered undercapitalized.
Undercapitalized institutions are subject to certain prompt corrective
action requirements, regulatory controls and restrictions, which become more
extensive as an institution becomes more severely undercapitalized. Failure by
an institution to comply with applicable capital requirements will result in
restrictions on their activities and lead to enforcement actions, including the
issuance of a capital directive to ensure the maintenance of adequate capital
levels. Banking regulators will take prompt corrective action with respect to
depository institutions that do not meet minimum capital requirements.
At December 31, 2003, Cascade was a "well capitalized" institution under the
prompt corrective action regulations of the FDIC.
Prior Regulation. Prior to converting to a commercial bank, the Bank was
subject to supervision by the Office of Thrift Supervision ("OTS"). The OTS is
an office in the Department of the Treasury subject to the general oversight of
the Secretary of the Treasury. The OTS has extensive authority over the
operations of savings associations. Among its functions, the OTS issues and
enforces regulations affecting federally-insured savings associations and
regularly examines these institutions. All savings associations are required to
-24-
<PAGE>
pay assessments to the OTS to fund the agency's operations. The general
assessments, paid on a semi-annual basis, are determined based on the savings
association's total assets, including consolidated subsidiaries.
TAXATION
--------
Federal Taxation
- ----------------
The Corporation reports its income on a fiscal year basis using the accrual
method of accounting and is subject to federal income taxation in the same
manner as other corporations with some exceptions, including particularly
Cascade's reserve for bad debts discussed below. In 2001, the Corporation's
fiscal year was changed to the calendar year. The following discussion of tax
matters is intended only as a summary and does not purport to be a
comprehensive description of the tax rules applicable to the Bank or the
Corporation.
Tax Bad Debt Reserves
- ---------------------
The reserve method of accounting for bad debt reserves was repealed for
tax
years beginning after December 31, 1995. As a result, the Bank is no longer
able to calculate its deduction for bad debts using the percentage-of-taxable-
income method. Instead, Cascade is required to compute its deduction based on
specific charge-offs during the taxable year.
Distributions
- -------------
To the extent that the Bank makes "non-dividend distributions" to the
Corporation that are considered as made (i) from the reserve for losses as of
June 30, 1988 or (ii) from the supplemental reserve for losses on loans
("Excess Distributions"), then an amount based on the amount distributed will
be included in Cascade's taxable income. Non-dividend distributions include
distributions in excess of the Bank's current and accumulated earnings and
profits, distributions in redemption of stock, and distributions in partial or
complete liquidation. However, dividends paid out of Cascade's current or
accumulated earnings and profits, as calculated for federal income tax
purposes, will not be considered to result in a distribution from the Bank's
bad debt reserve. Thus, any dividends to the Corporation that would reduce
amounts appropriated to the Bank's bad debt reserve and deducted for federal
income tax purposes would create a tax liability for Cascade. The amount of
additional taxable income attributable to an Excess Distribution is an amount
that, when reduced by the tax attributable to the income, is equal to the
amount of the distribution. Thus, if Cascade makes a "non-dividend
distribution," then approximately one and one-half times the amount so used
would be included in gross income for federal income tax purposes.
Dividends-Received Deduction and Other Matters
- ----------------------------------------------
The Corporation may exclude from its income 100% of dividends received from
the Bank as a member of the same affiliated group of corporations. The
corporate dividends-received deduction is generally 70% in the case of
dividends received from unaffiliated corporations with which the Corporation
and the Bank will not file a consolidated tax return, except that if the
Corporation or the Bank owns more than 20% of the stock of a corporation
distributing a dividend, then 80% of any dividends received may be deducted.
Washington Tax
- --------------
The Bank is subject to a business and occupation tax which is imposed under
Washington law at the rate of 1.5% of gross receipts; however interest received
on loans secured by mortgages or deeds of trust on residential properties and
interest on obligations issued or guaranteed by the United States are not
presently subject to the tax. On August 15, 1994, the Department of Revenue of
the State of Washington began an audit of the Corporation's records for
compliance regarding the business and occupation tax. The Corporation had not
been audited for 18 years. The Department of Revenue has issued a tax billing
for approximately $148,000 of which the Corporation has accrued $104,000 and
paid $16,000. The Corporation has filed an appeal with the Department of
Revenue. A determination has been issued reversing two of the three billing
issues in the audit. The Corporation has filed another appeal regarding the
final issue.
-25-
<PAGE>
Subsequent Events
- -----------------
On February 11, 2004, the Corporation signed a Definitive Merger Agreement
to acquire Issaquah Bancshares (Issaquah) and its operating subsidiary,
Issaquah Bank. The merger, which is expected to be completed in the second
quarter of 2004, will expand the Corporation's market presence in East King
County (Washington). Issaquah is a $128 million asset bank holding company
headquartered in Issaquah, Washington. Issaquah will be merged into the
Corporation and Issaquah Bank will be merged into Cascade Bank, where it will
operate as a separate division. As a bank holding company and a bank
respectively, Issaquah is subject to the same legal and regulatory framework
as the Corporation and Cascade Bank. Also, Issaquah has the same risk
characteristics (i.e. credit, interest rate, liquidity and operational) as the
Corporation and Cascade Bank. After an initial due diligence period,
Management believes that the merger with Issaquah will not materially alter the
risk profile of the Corporation.
Availability of Filings
- -----------------------
You may access, free of charge, copies of the following reports of the
Corporation on the SEC's website at www.sec.gov:
1) Annual Reports on Form 10-K; and
2) Quarterly Reports on Form 10-Q.
These documents are posted on the SEC's website, generally within twenty-
four hours after the Corporation files these documents electronically with the
Securities and Exchange Commission. As these reports are currently available
from the SEC's website, the Corporation does not currently post its reports on
its website, but is willing to provide electronic or paper copies of its
filings (subject to actual copying costs) upon reasonable request.
Item 2. Properties
- -------------------
The Corporation owns six full service branch locations and leases nine full
service locations. Owned offices range in size from 3,500 to 52,000 square
feet and have a total net book value at December 31, 2003, including leasehold
improvements, furniture and fixtures, of $8.6 million. The Corporation leases
approximately 10% of its main office and approximately 25% of its Marysville
office to non-affiliated parties. See Note 4 of the Notes to the Consolidated
Financial Statements contained in the Annual Report which is listed in Item 15.
Item 3. Legal Proceedings
- --------------------------
The Corporation is not engaged in any legal proceedings of a material nature
at the present time. Periodically, there have been various claims and lawsuits
involving the Corporation and the Bank, principally as a defendant, such as
claims to enforce liens, condemnation proceedings on properties in which the
Bank holds security interests, claims involving the making and servicing of
real property loans and other issues incident to the Corporation's business.
In the opinion of management and the Corporation's legal counsel, no significant
loss is expected from any of such pending claims or lawsuits.
Item 4. Submission of Matters to a Vote of Security Holders
- ------------------------------------------------------------
None.
-27-
<PAGE>
PART II
-------
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters
- ------------------------------------------------------------------------------
The information contained on the back inside cover of the Annual Report
listed in Item 15 is incorporated herein by reference.
Item 6. Selected Financial Data
- --------------------------------
The information contained in the section entitled "Selected Financial Data"
of the Annual Report listed in Item 15 is incorporated herein by reference.
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations
- ----------------------------------------------------------
The information contained in the section entitled "Management's Discussion
and Analysis of Financial Condition and Results of Operations" of the Annual
Report listed in Item 15 is incorporated herein by reference.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
- --------------------------------------------------------------------
The information contained under the section captioned "Market Risk" in the
Management's Discussion and Analysis section of the Annual Report listed in
Item 15 is incorporated herein by reference.
Item 8. Financial Statements and Supplementary Data
- ----------------------------------------------------
The financial statements and supplementary data in the Annual Report listed
in Item 15 is incorporated herein by reference.
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
- ------------------------------------------------------------------------
On November 10, 2003, the Audit Committee of the Board of Directors of
Cascade Financial Corporation ("Registrant") engaged the accounting firm of
Moss Adams LLP as independent accountants for the Registrant for the fiscal
year 2004. On November 10, 2003, the Board notified KPMG LLP ("KPMG") that
KPMG would be dismissed upon the completion of its independent audit of the
2003 consolidated financial statements of the Registrant and would not be
retained to serve as the Registrant's independent public accountants for the
fiscal year 2004.
Item 9A. Controls and Procedures
- ---------------------------------
(a) Evaluation of Disclosure Controls and Procedures: An evaluation of the
Corporation's disclosure controls and procedures (as defined in section 13(a)
- 14(c) of the Securities Exchange Act of 1934 (the "Act")) was carried out
under the supervision and with the participation of the Corporation's Chief
Executive Officer, Chief Financial Officer and several other members of the
Corporation's senior management effective December 31, 2003. The Corporation's
Chief Executive Officer and Chief Financial Officer concluded that the
Corporation's disclosure controls and procedures as currently in effect are
effective in ensuring that the information required to be disclosed by the
Corporation in the reports it files or submits under the Act is (i)
accumulated and communicated to the Corporation's management (including the
Chief Executive Officer and Chief Financial Officer) in a timely manner, and
(ii) recorded, processed, summarized and reported within the time periods
specified in the SEC's rules and forms.
(b) Changes in Internal Controls: In the year ended December 31, 2003, the
Corporation did not make any significant changes in, nor take any corrective
actions regarding, its internal controls or other factors that could
significantly affect these controls.
Disclosure Controls and Internal Controls. Disclosure controls are
procedures that are designed with the objective of ensuring that information
-27-
<PAGE>
required to be disclosed in the Corporation's reports filed under the
Securities Exchange Act of 1934 (Exchange Act) is recorded, processed,
summarized and reported within the time periods specified in the Securities and
Exchange Commission's (SEC) rules and forms. Disclosure controls are also
designed with the objective of ensuring that such information is accumulated
and communicated to our management, as appropriate to allow timely decisions
regarding required disclosure. Internal Controls are procedures which are
designed with the objective of providing reasonable assurance that (1)
transactions are properly authorized; (2) assets are safeguarded against
unauthorized or improper use; and (3) transactions are properly recorded and
reported, all to permit the preparation of financial statements in conformity
with generally accepted accounting principles.
Limitations on the Effectiveness of Controls. The Corporation's management
does not expect that our disclosure controls or our internal controls will
prevent all error and all fraud. A control system, no matter how well
conceived and operated, can provide only reasonable, not absolute, assurance
that the objectives of the control system are met. Further, the design of
control system must reflect the fact that there are resource constraints, and
the benefits of controls must be considered relative to their costs. Because
of the inherent limitations in all control systems, no evaluation of controls
can provide absolute assurance that all control issues and instances of fraud,
if any, within the Corporation have been detected. These inherent limitations
include the realities that judgments in decision-making can be faulty, and that
breakdowns can occur because of simple error or mistake. Additionally,
controls can be circumvented by the individual acts of some persons, by
collusion of two or more people, or by management override of the control. The
design of any system of controls also is based in part upon certain assumptions
about the likelihood of future events, and there can be no assurance that any
design will succeed in achieving its stated goals under all potential future
conditions; over time, controls may become inadequate because of changes in
conditions, or the degree of compliance with the policies or procedures may
deteriorate. Because of the inherent limitations in a cost-effective control
system, misstatements due to error or fraud may occur and not be detected.
-28-
<PAGE>
PART III
--------
Item 10. Directors and Executive Officers of the Registrant
- ------------------------------------------------------------
The information contained under the section captioned "Proposal I-Election
of Directors" contained in the Corporation's Definitive Proxy Statement for the
Corporation's Annual Meeting of Stockholders (the "Proxy Statement"), is
incorporated herein by reference. Reference is made to the cover page of this
report for information regarding compliance with Section 16(a) of the Exchange
Act, and to the section therein captioned "COMPLIANCE WITH SECTION 16(A) OF THE
EXCHANGE ACT".
The following table sets forth information with respect to the executive
officers of the Corporation and the Bank.
Name Age (a) Position
- ---- ------ --------
Frank M. McCord (b) 72 Chairman, Cascade Financial Corporation
Chairman, Cascade Bank
Carol K. Nelson (b) 46 President, Chief Executive Officer and
Director of Cascade Bank
And Cascade Financial Corporation
Robert G. Disotell 49 Executive Vice President, Chief Credit
Officer
Steven R. Erickson 48 Executive Vice President, Real Estate
Lending
Lars H. Johnson 50 Executive Vice President, Chief
Financial Officer (b)
LeAnne M. Frank 34 Executive Vice President, Quality of
Service and Technology
Wayne M. Fjelstad 45 Executive Vice President, Business
Banking
Vera E. Wildauer 45 Executive Vice President, Marketing
Director
Debbie E. McLeod 38 Executive Vice President, Retail Banking
(a) At December 31, 2003.
(b) Officer of the Corporation and Bank.
The principal occupation of each executive officer of the Corporation and
Bank is set forth in the Proxy Statement or below. There are no family
relationships among or between the executive officers listed above.
ROBERT G. DISOTELL has been employed by Cascade Bank since 1977 and
currently serves as Executive Vice President of Credit Administration. He is
responsible for overseeing the credit quality of the Bank's loan portfolios.
Mr. Disotell has managed a variety of business groups in his tenure at Cascade,
including Mortgage Banking, Loan Servicing, Secondary Marketing, Retail
Banking, and Community Reinvestment Act (CRA) activities. Mr. Disotell is a
resident of Arlington, Washington.
STEVEN R. ERICKSON is the Executive Vice President of Real Estate Lending
for the Bank, responsible for managing residential and income property lending
and serves as the Assistant Secretary for the Corporation. Mr. Erickson joined
Cascade in 1978. He is a member of the Board for Big Brothers and Big Sisters
of Snohomish County and Trustee of the Boys and Girls Club of Snohomish County.
He is a resident of Marysville, Washington.
LEANNE M. FRANK is the Executive Vice President and Chief Administrative
Officer for the Bank. She has 17 years of consumer banking experience starting
-30-
<PAGE>
with Rainier Bank and most recently Bank of America, where she served as Vice
President and Region Service Manager. She is Vice President of the Everett
Theatre Society Board. Ms. Frank is a resident of Everett, Washington.
LARS H. JOHNSON is the Executive Vice President, Chief Financial Officer of
the Bank and Corporation and also serves as the corporate secretary. Mr.
Johnson joined Cascade in April 2000. Mr. Johnson has 29 years of financial
management experience, including 16 years with the Federal Home Loan Bank of
Seattle. Mr. Johnson is a resident of Edmonds, Washington.
WAYNE M. FJELSTAD is the Executive Vice President of Business Banking for
the Bank, responsible for managing business loans, lines of credit, owner-
occupied commercial real estate, and other business services. Mr. Fjelstad
joined Cascade Bank in 2002. He has 23 years of banking experience, previously
working for Bank of America Small Business Banking, and also as a commercial
lender for Frontier Bank. He is involved in a number of community events,
volunteer coaches, and teaches classes in local elementary schools.
DEBBIE E. McLEOD is Executive Vice President of Retail Banking for the Bank.
Ms. McLeod joined Cascade Bank in February 2001. She has over 15 years of
commercial banking experience and was previously Vice President and Northern
Region Sales Manager for Bank of America. Ms. McLeod resides in Burlington,
Washington.
VERA E. WILDAUER joined Cascade in 1997 as Senior Vice President, Marketing
Director. In 2000, she was elected Executive Vice President, Marketing. Ms.
Wildauer has 23 years experience in a full range of bank marketing disciplines
among major Washington State financial institutions. She is Board President of
Bridgeways, a mental health organization in Everett. Ms. Wildauer is a
resident of Bothell, Washington.
Item 11. Executive Compensation
- --------------------------------
The information contained under the section captioned "Executive
Compensation" in the Proxy Statement is incorporated herein by reference.
Item 12. Security Ownership of Certain Beneficial Owners and Management
- ------------------------------------------------------------------------
(a) Security Ownership of Certain Beneficial Owners
Information required by this item is incorporated herein by reference to
the section captioned "Security Ownership of Certain Beneficial Owners and
Management" in the Proxy Statement.
(b) Security Ownership of Management
The information required by this item is incorporated herein by
reference to the section captioned "Security Ownership of Certain Beneficial
Owners and Management" of the Proxy Statement.
(c) Changes in Control
The Corporation is not aware of any arrangements, including any pledge
by any person of securities of the Corporation, the operation of which may at a
subsequent date result in a change in control of the Corporation.
Item 13. Certain Relationships and Related Transactions
- --------------------------------------------------------
The information required by this Item is incorporated herein by reference to
the section captioned "Transactions with Management and Others" of the Proxy
Statement.
Item 14. Principal Accountant Fees and Services
- ------------------------------------------------
The information required by this Item is incorporated herein by reference to
the section captioned "INDEPENDENT AUDITORS" of the Proxy Statement."
-31-
<PAGE>
PART IV
-------
Item 15. Exhibits, Financial Statement Schedules, and Reports on Form 8-K
- --------------------------------------------------------------------------
(a) (1)(2) Independent Auditors' Report
Consolidated Financial Statements
(a) Consolidated Balance Sheets at December 31, 2003 and December
31, 2002.
(b) Consolidated Statements of Operations for the year ended
December 31, 2003, 2002 and 2001, for the six months ended December 31, 2001
and 2000, and the year ended June 30, 2001.
(c) Consolidated Statements of Stockholders' Equity and
Comprehensive Income for the year ended December 31, 2003, 2002 and 2001, and
the year ended June 30, 2001.
(d) Consolidated Statements of Cash Flows for the year ended
December 31, 2003, 2002 and 2001, for the six months ended December 31, 2001
and 2000, and the year ended June 30, 2001.
(e) Notes to Consolidated Financial Statements
All schedules have been omitted, as the required information is either
inapplicable or contained in the Consolidated Financial Statements or related
Notes contained in the Annual Report.
(3) Exhibits
3.1 Certificate of Incorporation of Cascade Financial Corporation
(Incorporated by reference to the Corporation's Proxy statement on Form S-4
(File No. 33-83200)).
3.2 Bylaws of Cascade Financial Corporation (Incorporated by
reference to the Corporation's Registration Statement on Form S-4 (File No. 33-
83200)).
10.1 Cascade Financial Corporation 1994 Employee Stock Purchase Plan
(Incorporated by reference to the Corporation's Registration Statement on Form
S-4 (File No. 33-83200)).
10.2 Cascade Financial Corporation 1992 Stock Option and Incentive
Plan (Incorporated by reference to the Corporation's Form 10-KSB for the period
ending June 30, 1995).
10.3 Cascade Financial Corporation Employee Stock Ownership Plan
(Incorporated by reference to the Corporation's Annual Report on Form 10-KSB
for the period ending June 30, 1995).
10.4 Cascade Financial Corporation 1997 Stock Option Plan
(Incorporated by reference to Appendix E to the Prospectus included in the
Corporation's Registration Statement on Form S-4 (File No. 333-24203)).
10.5 Employment Agreement entered into between the Bank and Carol K.
Nelson dated November 27, 2001.(Incorporated by reference to Exhibit 10.5 of
the Corporation's Form 10-K for the period ending December 31, 2001).
10.6 Form of Change of Control Agreement entered into between the
Bank and its executive officers. (Incorporated by reference to Exhibit 10.6 of
the Corporation's Form 10-K for the period ending December 31, 2001).
10.7 Cascade Financial Corporation 1997 Elective Equity Plan.
(Incorporated by reference to Exhibit 10.7 of the Corporation's Form 10-K for
the period ending December 31, 2001).
13 Cascade Financial Corporation December 31, 2003 Annual Report to
Stockholders, including the Selected Financial Data and Management Discussion
and Analysis.
21 Subsidiaries
23 Consent of Independent Auditors
31.1 Certification of Chief Executive Officer pursuant to Section
302 of the Sarbanes-Oxley Act of 2002.
31.2 Certification of Chief Financial Officer pursuant to Section
302 of the Sarbanes-Oxley Act of 2002.
32 Certification of Annual Report on Form 10-K pursuant to Section
906 of the Sarbanes-Oxley Act of 2002.
(b) Reports on Form 8-K
On December 1, 2003, Cascade Financial Corporation, parent company of
Cascade Bank, declared a 25% stock dividend, under Item 5 of Form 8-K.
On November 10, 2003, the Corporation announced that the Audit Committee of
the Board of Directors of Cascade Financial Corporation ("Registrant") engaged
the accounting firm of Moss Adams LLP as independent accountants for the
Registrant for the fiscal year 2004, under Item 4 of Form 8-K.
-31-
<PAGE>
On October 21, 2003, the Corporation released earnings information for the
third quarter ended September 30, 2003, under Item 12 of Form 8-K.
SIGNATURES
----------
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
CASCADE FINANCIAL CORPORATION
Date: March 12, 2004 By: /s/ Carol K Nelson
-------------------------------------
Carol K. Nelson
President and Chief Executive Officer
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, this report has been signed below by the following persons on
behalf of the registrant and in the capacities and on the dates indicated.
By: /s/ Lars H. Johnson By: /s/ D. R. Murphy
---------------------------- ----------------------------
Lars H. Johnson D. R. Murphy
Executive Vice President Director
(Chief Financial Officer) Date: March 12, 2004
Date: March 12, 2004
By: /s/ Frank M. McCord By: /s/ Ronald E Thompson
---------------------------- ----------------------------
Frank M. McCord Ronald E. Thompson
Chairman Director
Date: March 12, 2004 Date: March 12, 2004
By: /s/ Janice Halladay By: /s/ G. Brandt Westover
---------------------------- ----------------------------
Janice Halladay G. Brandt Westover
Director Director
Date: March 12, 2004 Date: March 12, 2004
By: /s/ David W. Duce By: /s/ Craig Skotdal
---------------------------- ----------------------------
David W. Duce Craig Skotdal
Director Director
Date: March 12, 2004 Date: March 12, 2004
By: /s/ David O'Connor By: /s/ Dwayne Lane
---------------------------- ----------------------------
David O'Connor Dwayne Lane
Director Director
Date: March 12, 2004 Date: March 12, 2004
By: /s/ Henry Robinett
----------------------------
Henry Robinett
Director
Date: March 12, 2004
-33-
</TEXT>
</DOCUMENT>
<DOCUMENT>
<TYPE>EX-13
<SEQUENCE>4
<FILENAME>ex13-1203.txt
<DESCRIPTION>ANNUAL REPORT
<TEXT>
EXHIBIT 13
(COVER PAGE)
2003 ANNUAL REPORT
Winning
Cascade Financial Corporation [LOGO]
[five pictures: Quilceda Creek Vintners, Andrea Ruijters, Platinum Club
Luncheon, United Way Day of Caring, Everett Silvertips]
<PAGE>
Frank M. McCord will retire this year as chairman of the Cascade Financial
Corporation Board of Directors. He joined the board in 1986 and will continue
to serve as a director until 2005. We are grateful for his leadership and many
contributions to the success of Cascade Financial Corporation through the
years.
[photo of Frank McCord]
Letter to Shareholders 1
Financial Highlights 4
Cascade Bank Management Team 7
Board of Directors 8
Management Discussion and Analysis 10
Independent Auditors' Report 23
Annual Meeting Information 48
<PAGE>
[picture of Carol Nelson] [image of trophy with words: Teamwork, Integrity,
Respect, Quality, and Winning]
DEAR SHAREHOLDERS, CUSTOMERS, AND EMPLOYEES:
- -------------------------------------------
Of all of the core values that are the foundation of our success-integrity,
respect, quality, and teamwork-the one that resonates most for 2003 is winning.
Our record-breaking results for the year demonstrate that our vision to be the
preferred community bank is taking shape. We met or exceeded our goals,
delivering shareholder value every step of the way.
* Revenues increased 9.5% to $32.9 million.
* Net interest income after provision for loan losses increased 9.1% to $26.3
million.
* Net income increased 19% to $9.6 million.
* EPS increased 16.1% to $1.13.
* Return on average equity rose to 15.81% from 15.49% in 2002.
* Return on average assets grew to 1.13% from 1.05% in 2002.
* The efficiency ratio improved to 53.87% from 54.29% a year ago.
* Allowance for loan losses grew to 1.34% of total loans.
1
<PAGE>
[image of Washington CEO Magazine cover]
We attribute much of our progress to our talented, committed team of
employees who truly live our core values every day. Together, we continue to
examine and improve business operations, maintain solid asset quality, realize
operational efficiencies, implement new customer service initiatives, and
reward team members for their inspired and caring customer service. As a
result, we set new standards of excellence for what customers should expect
from their banking experience, while making Cascade a more profitable, winning
organization.
To sustain the Cascade cycle of winning, we set high standards for
performance. We lead and coach with passion and conviction to help every staff
member perform at his or her best. We hold one another accountable for our
commitments. Most importantly, we take time to recognize and celebrate our
success.
Among our proudest accomplishments for 2003 was being named the best medium-
size company to work for by Washington CEO magazine. An independent panel of
judges and our employees voted us to the number one position, making the
recognition particularly meaningful. Cascade Bank was also named a finalist in
the Better Business Bureau Business of the Year competition. The contest honors
fine companies committed to providing superior customer service and community
service in an environment of stellar business ethics.
We are inspired to find new and better ways to create and sustain a quality
work environment that encourages and celebrates extraordinary customer service.
Continuing to earn the esteem and loyalty of our employees, while inspiring
their performance, is important to the career satisfaction of every member of
our team and to the continued success of Cascade Financial Corporation.
2
<PAGE>
Andrea Ruijters was recently promoted to Assistant Manager at the Harbour
Pointe branch. Like all of Cascade's employees, she seeks to deliver
exceptional service with every banking transaction.
[picture of Andrea Ruijters]
In 2004, we are adding talent to our business banking and commercial real
estate lending teams internally, and we also signed a definitive agreement to
acquire closely held Issaquah Bancshares Inc., a $128 million asset institution
and parent of Issaquah Bank. The transaction is subject to regulatory and
Issaquah shareholder approval, and will increase our assets to over $1 billion,
from $885 million as of December 31, 2003, and increase our number of banking
offices to 17. This acquisition is expected to be accretive to earnings in
2004, will enhance our commercial banking franchise and establishes us as the
#1 independent bank in the attractive and growing Issaquah market. Issaquah
Bank brings a healthy share of a robust market, a solid commercial loan
portfolio, a strong deposit base and attractive margins to our business mix.
I extend my heartfelt thanks to our employees for making our 2003
accomplishments possible and we look forward to welcoming Issaquah Bank
employees to the Cascade family. I thank our shareholders for the confidence
they express in Cascade Financial Corporation through their ongoing investment.
And I thank our customers for choosing Cascade and providing us the opportunity
to demonstrate our winning ways with every banking transaction. Together, we
will perpetuate our cycle of winning.
Sincerely,
/s/ Carol K. Nelson
President and Chief Executive Officer
Cascade Financial Corporation
February 28, 2004
3
<PAGE>
REVENUE CHART - dollars in millions, unaudited except for 2002 and 2003.
1999 2000 2001 2002 2003
---- ---- ---- ---- ----
Net Interest Income 2.7 2.4 3.3 4.0 5.3
Other Income 17.9 18.7 21.4 26.0 27.6
NET INCOME CHART - dollars in millions, unaudited except for 2002 and 2003.
1999 2000 2001 2002 2003
---- ---- ---- ---- ----
Net Income 4.2 3.8 5.6 8.1 9.6
EFFICIENCY RATIO CHART - percentage unaudited except for 2002 and 2003.
1999 2000 2001 2002 2003
---- ---- ---- ---- ----
Efficiency Ratio 67.2 68.6 60.1 54.3 53.9
FIVE YEAR FINANCIAL HIGHLIGHTS
- ------------------------------
Dollars in thousands except for per share and financial ratios.
12 MONTHS ENDED DECEMBER 31 2003 2002 2001 2000 1999
- -------------------------------------------------------------------------------
Net interest income $ 27,610 $ 26,024 $ 21,403 $ 18,738 $ 17,911
Other income 5,306 4,039 3,322 2,399 2,711
Net income 9,599 8,072 5,617 3,821 4,152
Earnings per share (diluted) 1.13 0.98 0.70 0.47 0.52
AT DECEMBER 31 2003 2002 2001 2000 1999
- -------------------------------------------------------------------------------
Assets $885,220 $804,463 $762,323 $716,439 $616,958
Loans, net 567,094 546,677 576,226 548,722 511,735
Deposits 564,314 509,850 419,980 395,976 438,935
Stockholders' equity 63,957 56,640 47,677 41,240 35,371
Book value per share 7.76 6.99 6.16 5.36 4.73
FINANCIAL RATIOS 2003 2002 2001 2000 1999
- -------------------------------------------------------------------------------
Return on assets 1.13% 1.05% 0.77% 0.57% 0.75%
Return on average equity 15.81% 15.49% 12.63% 10.16% 12.04%
Net interest margin 3.35% 3.44% 3.01% 2.86% 3.32%
% Nonperforming loans/
total loans 0.33% 0.17% 0.34% 0.42% 0.10%
Efficiency ratio 53.87% 54.29% 60.13% 68.62% 67.18%
In 2001, following Cascade Bank's conversion from a thrift institution to a
commercial bank, Cascade Financial Corporation ("Cascade") changed its fiscal
year-end from June 30 to December 31 to align its reporting periods with those
of its commercial bank peers. Except for the years ended December 31, 2002 and
2003, Cascade's financial information, prepared by management for the calendar
years ended December 31, is unaudited.
4
<PAGE>
TOTAL DEPOSITS CHART - dollars in millions, unaudited except for 2002 and 2003.
1999 2000 2001 2002 2003
---- ---- ---- ---- ----
Total Deposits 439 396 420 510 564
BUSINESS LOANS CHART - dollars in millions, unaudited except for 2002 and 2003.
1999 2000 2001 2002 2003
---- ---- ---- ---- ----
Business loans 77 97 125 142 204
LOANS CHART (PIE) - December 31, 2003: $575 million, unaudited, percentage of
loans.
Consumer 6%
Commercial Real Estate 15%
Real Estate Construction 11%
Residential 18%
Business 35%
Multi-family 15%
The City of Everett and Cascade Bank welcomed the Silvertips hockey team to the
neighborhood this year. At press time, the team was the most successful
expansion franchise in the history of the Western Hockey League with their 32
victories.
Giving back to the community is a big part of the team's winning ways.
Players visited local elementary schools to teach hockey basics and initiated
several holiday toy and coat drives. Cascade Bank is proud to sponsor and bank
this team.
"Our goals and values are much the same as Cascade Bank's," Team Owner Bill
Yuill explained. "We want to be part of the community, and we want to win."
[picture of Everett Silvertips]
5
<PAGE>
Quilceda Creek Vintners is a family-owned winery obsessed with producing
quality red wine. The company was one of two repeat winners in Food & Wine
Magazine's Seventh Annual American Wine Awards. Their award for Best Cabernet
Sauvignon Over $20 is one of many the company has earned since beginning
commercial wine production in 1979.
"Our philosophy can be summed up in one word: Quality," said Alex Golitzin,
company founder.
Quality is also what Quilceda Creek Vintners demand from their banking
relationship with Cascade. Over the last 15 years, Cascade has learned a lot
about their winemaking business and refined its understanding of commercial
wine production in general. As a result, Cascade can craft the right blend of
solutions to help this exceptional winery grow.
[picture of Quilceda Creek Vintners]
Giving back to the community is integral to our mission as a community bank.
Employees throughout Cascade continue to give generously of their time, talent,
and resources to a wide variety of nonprofit boards, committees, and charitable
causes.
Many employees participate through volunteerism in the United Way Annual Day
of Caring and also contribute funds to the United Way Annual fundraising drive.
[picture of Pops Martinez and Alicia Daniel building a temporary
kennel at a local PAWS shelter]
6
<PAGE>
CASCADE BANK MANAGEMENT TEAM
- ----------------------------
[pictured left to right across top of page]
Carol K. Nelson Rob Disotell
President and Chief Executive Officer EVP, Chief Credit Officer
Steve Erickson Wayne Fjelstad
EVP, Real Estate Lending EVP, Business Banking
[pictured left to right across bottom of page]
LeAnne Frank Lars Johnson
EVP, Chief Administrative Officer EVP, Chief Financial Officer
Debbie McLeod Vera Wildauer
EVP, Retail Banking EVP, Marketing
7
<PAGE>
Recognizing outstanding performance is a key component in building a
cycle of winning. Each quarter, top team members are honored through
Platinum Club. Winners are selected in two ways: based on their sales
performance for the quarter, and those recognized by their peers and
management for delivering outstanding service. Annually, the best of
the best are celebrated at a special event. Pictured at left are several
of Cascade's Platinum Club members honored in 2003.
[picture of Platinum Club Luncheon]
CASCADE FINANCIAL CORPORATION DIRECTORS
- ---------------------------------------
Frank M. McCord (1) Dennis R. Murphy, Ph.D. (1, 2)
Chairman of the Board Dean, College of Business
Cascade Financial Corporation and Economics
Professor of Economics
Carol K. Nelson (1, 4) Western Washington University
President and CEO
Cascade Financial Corporation David R. O'Connor (1, 3, 4)
Co-Owner
David W. Duce (1, 3) Mobile Country Club
Chairman-Elect of the Board
Attorney Henry M. Robinett (2, 4)
Duce, Bastian, Peterson General Partner
Boyden, Robinett &
G. Brandt Westover (1, 3) Associates L.P.
Vice Chairman
Cascade Financial Corporation Craig Skotdal (2)
Senior Vice President President
UBS Financial Services, Inc. Skotdal Real Estate
Janice Halladay (3, 4) Ronald E. Thompson (2, 4)
Retired Bank Executive President
Windermere Commercial and
Dwayne Lane (3) Property Management of
President Snohomish County
Dwayne Lane Auto Centers
- ----------------------
1. Executive Committee
2. Audit and Finance Committee
3. Compensation and Personnel Committee
4. Loan Committee
[Directors pictured across bottom of page]
8
<PAGE>
CASCADE FINANCIAL CORPORATION SELECTED FINANCIAL DATA
- -----------------------------------------------------
(Dollars in thousands, except per share data. As of December 31, 2001, Cascade
Financial Corporation changed its fiscal year to December 31st from June 30th.
To comply with disclosure requirements, the financial data for calendar/fiscal
years 2003, 2002 and 2001 are presented as well as the six-month transition
period in 2001. In addition, information for the Corporation's three previous
complete fiscal years that ended on June 30th is presented.)
<TABLE>
<CAPTION>
For the
For the six-month For the year
year ended period ended ended
December 31, December 31, June 30,
2003 2002 2001 2001 2001 2000 1999
--------------------------------- ------------ --------------------------------
(unaudited)
<S> <C> <C> <C> <C> <C> <C> <C>
Interest income $50,363 $ 52,470 $ 55,884 $ 27,474 $ 56,689 $ 48,582 $ 38,205
Interest expense 22,753 26,446 34,481 16,272 37,128 29,847 21,956
Net interest income 27,610 26,024 21,403 11,202 19,561 18,735 16,249
Provision for loan losses 1,275 1,895 1,370 810 980 770 427
Net interest income after
provision for loan losses 26,335 24,129 20,033 10,392 18,581 17,965 15,822
Other income 5,306 4,039 3,322 1,817 2,643 2,276 2,837
Other expense 17,733 16,321 14,864 7,461 14,301 14,617 12,438
Income before Federal
income taxes 13,908 11,847 8,491 4,748 6,923 5,624 6,221
Net income 9,599 8,072 5,617 3,150 4,566 3,712 4,104
Net income per common
share, basic (1) 1.17 1.01 0.73 0.41 0.60 0.49 0.55
Net income per common
share, diluted (1) 1.13 0.98 0.70 0.39 0.57 0.46 0.50
Book value per share (1) 7.76 6.99 6.16 6.16 5.80 4.90 4.57
</TABLE>
<TABLE>
<CAPTION>
At December 31, At June 30,
2003 2002 2001 2001 2000 1999
---------------------------------- -------------------------------
(unaudited)
<S> <C> <C> <C> <C> <C> <C>
Assets $885,220 $804,463 $762,323 $733,377 $676,486 $557,396
Loans, net 567,094 546,677 576,226 564,869 539,972 455,736
Cash and securities 290,537 229,880 168,259 149,995 117,965 84,921
Deposits 564,314 509,850 419,980 401,915 398,507 361,786
Borrowings 50,123 30,879 60,102 47,230 16,097 6,261
FHLB advances 200,000 197,500 226,500 232,124 215,656 141,996
Stockholders' equity 63,957 56,640 47,677 44,597 37,256 34,239
Nonperforming loans 1,921 956 1,999 1,315 573 1,201
</TABLE>
<TABLE>
<CAPTION>
Financial Ratios Financial Ratios
For the For the six month Financial Ratios
year ended period ended For the year
December 31, December 31, ended June 30,
2003 2002 2001 2001 2001 2000 1999
------------------------- ----------------- -----------------------
(unaudited)
<S> <C> <C> <C> <C> <C> <C> <C>
Return on assets 1.13% 1.05% 0.77% 0.85% 0.64% 0.60% 0.83%
Return on equity 15.81% 15.49% 12.63% 13.63% 11.26% 10.37% 12.21%
Net interest margin 3.35% 3.44% 3.01% 3.10% 2.84% 3.13% 3.43%
Efficiency ratio 53.87% 54.29% 60.13% 57.31% 64.41% 69.57% 65.17%
Average stockholders' equity
to average assets 7.15% 6.75% 6.11% 6.25% 5.71% 5.78% 6.77%
Total risk-based capital to
risk-weighted assets 13.22% 13.11% 11.98% 11.98% 11.34% 11.69% 10.17%
Tier 1 capital to adjusted
total assets 8.34% 8.07% 7.54% 7.54% 7.35% 7.38% 6.36%
</TABLE>
(1) Per common share data is retroactively adjusted to reflect all stock
splits and stock dividends.
9
<PAGE>
MANAGEMENT DISCUSSION AND ANALYSIS
- ----------------------------------
The following discussion is provided for the consolidated operations of Cascade
Financial Corporation (the "Corporation") as of December 31, 2003. The
Corporation has only one operating subsidiary: Cascade Bank (the "Bank"). The
purpose of this discussion is to focus on significant factors concerning the
Corporation's financial condition and results of operations, and to provide a
more comprehensive review of the Corporation's operating results and financial
condition than can be obtained from reading the consolidated financial
statements alone. This discussion should be read with the consolidated
financial statements and the notes thereto.
In addition to historical information, this report contains certain
"forward-looking statements" within the meaning of the Private Securities
Litigation Reform Act of 1995 (PSLRA). This statement is included for the
express purpose of availing the Corporation of the protections of the safe
harbor provisions of the PSLRA. The forward-looking statements contained herein
are subject to factors, risks, and uncertainties that may cause actual results
to differ materially from those projected. The following items are among the
factors that could cause actual results to differ materially from the forward-
looking statements: general economic conditions, including their impact on
capital expenditures; business conditions in the banking industry; recent world
events and their impact on interest rates, businesses and customers; the
regulatory environment; new legislation; vendor quality and efficiency;
employee retention factors; rapidly changing technology; competitive factors,
including increased competition with community, regional, and national
financial institutions; fluctuating interest rate environments; and similar
matters. Readers are cautioned not to place undue reliance on these forward-
looking statements, which reflect management's analysis only as of the date of
the statement. The Corporation undertakes no obligation to publicly revise or
update these forward-looking statements to reflect events or circumstances that
arise after the date of this report. Readers should carefully review the risk
factors described in this and other documents the Corporation files from time
to time with the Securities and Exchange Commission.
Critical Accounting Policies
- ----------------------------
Corporations may apply certain critical accounting policies requiring
management to make subjective or complex judgments, often as a result of the
need to estimate the effect of matters that are inherently uncertain. The
Corporation considers its only material critical accounting policy to be the
allowance for loan losses. The allowance for loan losses is established through
a provision for loan losses charged against earnings. The balance of the
allowance for loan losses is maintained at the amount management believes will
be adequate to absorb known and inherent losses in the loan portfolio. The
appropriate balance of the allowance for loan losses is determined by applying
estimated loss factors to the credit exposure from outstanding loans. Estimated
loss factors are based on subjective measurements including management's
assessment of the internal risk classifications, changes in the nature of the
loan portfolio, industry concentrations, actual historical loss experience, and
the impact of current local, regional and national economic factors on the
quality of the loan portfolio. Changes in these estimates and assumptions are
reasonably possible and may have a material impact on the Corporation's
consolidated financial statements, results of operation, or liquidity.
For additional information regarding the allowance for loan losses, its
relation to the provision for loan losses and risk related to asset quality,
see Note 3 in the Consolidated Financial Statements for the year ended December
31, 2003, and "Management's Discussion and Analysis of Financial Condition and
Results of Operation - Provision for Loan Losses."
FINANCIAL CONDITION
- -------------------
Total Assets
- ------------
The Corporation's total assets at December 31, 2003 were $885.2 million,
compared to $804.5 million at December 31, 2002, an increase of 10%, due
primarily to the increase in securities held-to-maturity and securities
available-for-sale. The Corporation's total assets at December 31, 2001 were
$762.3 million, and at June 30, 2001, 2000, and 1999 were $733.4 million,
$676.5 million, and $557.4 million, respectively.
Investment Securities
- ---------------------
Securities designated as available-for-sale increased to $189.7 million at
December 31, 2003, versus $159.9 million at December 31, 2002. Securities
designated as held-to-maturity increased to $86.7 million at December 31, 2003,
from $49.4 million a year earlier. The securities in the held-to-maturity
portfolio consist of notes issued by Government Sponsored Enterprises (e.g.
FHLB, FNMA) or mortgage backed securities issued by either FNMA or FHLMC or a
mortgage conduit. These types of securities also comprise all but $19.9 million
of the available-for-sale portfolio. Of the $19.9 million, $14.7 million
represents Federal Home Loan Bank stock and $5.2 million is a corporate note.
During the year, the available-for-sale portfolio held a small position in U.S.
10
<PAGE>
Treasury notes. All of the Bank's investment securities held at December 31,
2003, have received the highest credit rating from at least one of the major
rating agencies. In addition to providing liquidity, the investment portfolio
has been used to leverage our capital base as the growth in equity has exceeded
the growth in the loan portfolio.
Loan Portfolio
- --------------
Net loans increased to $567.1 million at December 31, 2003, a 4% increase over
$546.7 million at December 31, 2002. Net loans were $576.2 million at December
31, 2001, $564.9 million at June 30, 2001, and $540.0 million at June 30, 2000,
respectively.
Business loans grew from $142.3 million at December 31, 2002, to $204.4
million at December 31, 2003, a 44% increase. The strong growth in this
portfolio was the result of our ability to win new borrowing customers in a
very competitive market. Net construction loans decreased to $62.7 million at
December 31, 2003, from $84.1 million at the prior year-end. This portfolio
experienced rapid turnover as the housing market remained very robust during
the year. Builders and developers were able to quickly sell their products and
pay down their loans. Commercial real estate loans increased from $63.1 million
at December 31, 2002 to $83.9 million at December 31, 2003. The Bank's
commercial real estate loan portfolio consists of extensions of credit on small
projects where the borrower is less than a 50% tenant. The Corporation's loan
focus remains on small businesses, builders and developers in the Puget Sound
area. Most business loans are secured with real estate being the most often
used collateral. Construction lending is directed toward building single-family
housing and land development for single-family housing.
Total single-family residential loans decreased from $122.7 million at
December 31, 2002, to $105.6 million at December 31, 2003. High rates of
refinancing activity due to very low interest rates impacted loan balances in
that the Corporation sells all its 30 year fixed-rate loans and the vast
majority of its 15 year fixed-rate loans in the secondary mortgage market.
Since fixed rates were the preferred products in the market, many of the
Corporation's adjustable rate mortgages were refinanced into fixed-rate loans
and sold. Multifamily loans outstanding also declined, dropping from $94.2
million as of December 31, 2002, to $87.2 million at December 31, 2003, as the
refinancing wave reduced this portfolio as well.
Consumer loans dropped $16.2 million from $49.3 million at December 31,
2002, to $33.2 million as of December 31, 2003. The Bank's consumer loan
portfolio is comprised of home equity loans and lines of credit, installment
loans, and credit card loans. Many home equity loans, which take the form of a
second mortgage, were refinanced as part of a first mortgage. In terms of
consumer lending, the Bank has not emphasized these lines of business,
concluding that it is at a competitive disadvantage against the very aggressive
pricing of large banks, captive finance companies and the specialty credit card
issuers.
The chart below indicates the mix of the loan portfolio as of the dates
indicated:
December 31, December 31, December 31,
2003 2002 2001
Dollars in thousands Amount Percent Amount Percent Amount Percent
Business Loans ---------------------------------------------------
Business $204,446 33.6% $142,273 24.7% $125,342 20.4%
Commercial real estate 83,856 13.8% 63,108 10.9% 62,938 10.3%
Total business-like loans 288,302 47.4% 205,381 35.6% 188,280 30.7%
Single-family residential 105,565 17.4% 122,669 21.3% 152,727 24.9%
Real estate construction 93,704 15.4% 104,790 18.2% 104,131 17.0%
Consumer 33,163 5.5% 49,331 8.6% 58,381 9.5%
Multifamily loans 87,212 14.3% 94,245 16.3% 109,733 17.9%
---------------------------------------------------
Total gross loans 607,946 100.0% 576,416 100.0% 613,252 100.0%
---------------------------------------------------
Loans in process (30,962) (20,669) (28,220)
Allowance for losses
on loans (7,711) (6,872) (6,304)
Deferred loan fees
and discounts (2,179) (2,198) (2,502)
---------------------------------------------------
Net loans receivable $567,094 $546,677 $576,226
===================================================
Allowance for Loan Losses
- -------------------------
Management provides for possible loan losses by maintaining an allowance. The
allowance for loan losses reflects management's best estimate of probable
losses as of a particular balance sheet date. The allowance for loan losses is
maintained at a level considered adequate based on management's assessment of
various factors affecting the loan portfolio, including local economic
conditions, growth of the loan portfolio, past loss experience, and its
11
<PAGE>
composition. Increases in the allowance for loan losses made through provisions
were primarily a result of loan growth, awareness of the greater risk inherent
in business lending and the impact of the deteriorating economic climate on the
loan portfolio.
Management determines the amount of the allowance for loan losses by
utilizing a loan grading system to determine risk in the loan portfolio and by
considering the results of credit reviews. The loan portfolio is separated by
quality and then by loan type. Loans of acceptable quality are evaluated as a
group, by loan type, with a specific loss rate assigned to the total loans in
each type, but unallocated to any individual loan. Conversely, each adversely
classified loan is individually analyzed to determine an estimated loss amount.
A valuation allowance is also assigned to these adversely classified loans, but
at an assumed higher reserve rate due to the greater risk of loss. Past due
and impaired loans are actively managed to minimize the potential loss of
principal.
At December 31, 2003, the allowance for loan losses was $7.7 million, 1.36%
of average loans outstanding compared to $6.9 million, 1.21% of average loans
outstanding at December 31, 2002, and $6.3 million, 1.09% of average loans
outstanding at December 31, 2001. The coverage ratio (the allowance for loan
losses to nonperforming loans) was 401% at December 31, 2003, 719% at December
31, 2002, and 315% at December 31, 2001.
Net loan charge-offs were $436,000 in 2003, 0.08% of average loans
outstanding compared to $1.3 million for 2002, and 0.23% of average loans
outstanding. Charge-offs in business loans accounted for most of the change,
decreasing from $1.0 million in the year ended December 31, 2002, to $390,000
in the year ended December 31, 2003. Net charge-offs were $185,000 for the year
ended December 31, 2001, and $138,000 for the six-month period ended December
31, 2001. These compare to $297,000, 0.05% of average loans outstanding for the
fiscal year ended June 30, 2001, and $20,000, 0.00% of average loans
outstanding for the fiscal year ended June 30, 2000.
During 2003, the economy in the Corporation's market area, despite the
strong housing market, continued to experience recessionary levels of activity
in many of its components. While there are recent indications that the market
area's economy is improving, the impact of a slow economy on the Bank's loan
portfolio remains uncertain.
Deposit Accounts
- ----------------
Deposit accounts totaled $564.3 million at December 31, 2003, an 11% increase
over the $509.9 million at December 31, 2002. The Bank historically had paid
interest rates on deposits at the higher end of the competitive range of
financial institutions in its market area, but in an attempt to lower the
absolute and relative cost of funds, the Bank modified its deposit pricing
strategy by pricing its deposits in the middle of that range. Checking account
balances grew 15% to $62.9 million during the year as the Corporation continues
its sales efforts to generate transaction accounts. Money market deposit
account balances grew by 17% to $120.6 million aided by low rates offered by
money market funds and the Bank's marketing efforts targeted at growing these
accounts. Certificates of deposit grew 7.9% to $368.4 million as the
Corporation was aided by an increase in its public funds deposits. In addition,
as its business banking activity increases, the bank expects to increase its
noninterest-bearing accounts through the growth of commercial checking
accounts.
Other Borrowings
- ----------------
The Bank uses Federal Home Loan Bank of Seattle (the FHLB) advances to provide
intermediate and longer term funding, as well as augment deposits. As of
December 31, 2003, the Bank had $200.0 million in FHLB advances compared to
$197.5 million as of December 31, 2002. The Bank prepaid $38.5 million in
advances during the year incurring $863,000 in prepayment fees. For 2003, FHLB
advances averaged 22.9% of assets compared to 26.3% in 2002. Subject to its
line of credit with the FHLB, the availability of collateral, and the
parameters of liquidity management, the Bank will continue to use advances as
funding sources.
The Bank also uses repurchase agreements for short term funding to match the
interest rate sensitivity of its prime based loans. At December 31, 2003, the
Bank had executed $39.9 million in repurchase agreements compared to $20.6
million a year earlier.
At December 31, 2003, we had a wholly-owned trust (the "Trust") that was
formed to issue trust preferred securities. At December 31, 2003, as a result
of the adoption of FIN 46R, we deconsolidated the Trust and all periods in the
consolidated financial statements have been restated to reflect this change.
The $10 million of junior subordinated debentures issued by the Corporation to
12
<PAGE>
the Trust were reflected as junior subordinated debentures payable in the
consolidated balance sheet for the years ended December 31, 2003 and 2002 (See
Note 6.) Prior to December 31, 2003, the Trust was consolidated and was
included in liabilities in the consolidated balance sheet, as "Trust Preferred
Securities."
The $10.3 million in junior subordinated debentures issued to the Trust at
December 31, 2003, continue to qualify as Tier 1 capital under guidance issued
by the Federal Reserve Board.
Capital
- -------
Regulations require the Corporation and the Bank to maintain minimum levels of
capital. The Corporation and the Bank manage its capital to maintain a "well
capitalized" designation (the highest rating). As of December 31, 2003, Cascade
Bank remained a "well capitalized" institution under regulatory guidelines,
with a core capital to asset ratio of 8.34% and a risk-based capital to asset
ratio of 13.22%. See Note 11 of the Consolidated Financial Statements of the
Annual Report for a detail of the Corporation's regulatory capital ratios.
At December 31, 2003, the Corporation's total risk-based capital to risk-
weighted assets was 13.42%. The Corporation projects that earnings retention
and existing capital will be sufficient to fund anticipated asset growth and
the existing level of cash dividends, while maintaining a well-capitalized
designation from the FDIC. In December 2003, the Corporation declared a 5-for-4
stock split, while maintaining the quarterly cash dividend at $.07 per share.
This declaration effectively increased the cash dividend by 25%. For the year,
the Corporation returned $1.7 million in dividends to its shareholders compared
to $646,000 in 2002. The dividend pay out ratio for 2003 was a modest 17.7%.
The Corporation announced a stock repurchase program in July 2002. However,
no stock has been purchased under that program as the stock has traded above
the maximum price/book value ratio established by the Board of Directors. The
Corporation did repurchase outstanding stock in conjunction with the exercise
of stock options. However, on balance, because the Corporation does not
repurchase stock to offset option exercise, the number of outstanding shares
has grown as options have been exercised.
The Corporation is committed to managing capital for maximum shareholder
benefit and maintaining strong protection for depositors and creditors. The
Corporation manages various capital levels at both the holding company and
subsidiary bank level to maintain adequate capital ratios and levels in
accordance with external regulations and capital guidelines established by the
Board of Directors of each institution.
RESULTS OF OPERATIONS
- ---------------------
Earnings
- --------
Cascade Financial Corporation earned net income for the year ended December 31,
2003 of $9.6 million or $1.13 per fully diluted share, an increase of 19% over
the $8.1 million or $0.98 per fully diluted share for the same period of 2002.
Higher net interest income due to increased earning assets and a decrease in
the Bank's cost of funds contributed to the improved results. Income was also
enhanced by increased checking fees as well as gains on the sale of loans and
securities. The Corporation earned net income of $4.6 million or $0.57 per
fully diluted share, $3.7 million or $0.46 per fully diluted share, and $4.1
million or $0.50 per fully diluted share for the fiscal years ending June 30,
2001, 2000, and 1999, respectively.
Return on Average Equity
- ------------------------
Return on average equity for the year ended December 31, 2003 was 15.81%
compared to 15.49% for the same period of 2002. Return on average equity for
the fiscal years ending June 30, 2001, 2000, and 1999 were 11.26%, 10.37%, and
12.21%, respectively.
Net Interest Income
- -------------------
The largest component of the Corporation's earnings is net interest income. Net
interest income is the difference between interest earned on earning assets
(primarily loans, interest-bearing deposits with banks, and investment
securities) and the interest expense associated with interest-bearing
liabilities (deposits and borrowings). The volume of and yields earned on
earning assets and the volume of and the rates paid on interest-bearing
liabilities determine net interest income. Interest earned and interest paid is
also affected by general economic conditions, including the demand for loans,
availability of deposits, market rates of interest, government policies, and
the action of regulatory authorities. The Corporation's operations are
sensitive to changes in interest rates and the resulting impact on net interest
13
<PAGE>
income. Interest rates were relatively flat in 2003, dropping mid-year, but
rebounding at year end.
Net interest income for the year ended December 31, 2003 increased by 6%, or
$1.6 million, to $27.6 million from $26.0 million for the year ended December
31, 2002. The improvement in net interest income was primarily due to increased
earning assets that more than offset the decline in net interest margin. Net
interest margin is net interest income expressed as a percent of average
earning assets, and represents the difference between income from earning
assets and the total of interest paid on all sources of funds. Net interest
income for the fiscal year ended June 30, 2001 increased by 4.4% or $826,000 to
$19.6 million from $18.7 million for the same period in 2000 and $16.2 million
for the same period in 1999. These increases resulted from growth in earning
assets and an increase in the average asset yield, which offset the contraction
in the net interest margin. For the fiscal year ended June 30, 2001, the
increase in net interest income was constrained by the escalation of market
interest rates during the first half of the fiscal year that was not fully
offset by the decrease in rates in the second half of the year. The improvement
in net interest income from June 30, 2000 over 1999 was primarily due to growth
in earning assets.
Average earning assets increased 9% to $824.4 million for the year ended
December 31, 2003 from $755.4 million for the year ended December 31, 2002.
Average earning assets increased to $689.5 million for the fiscal year ending
June 30, 2001, from $598.1 million for the same period in 2000 and $472.7
million for the same period in 1999. Average earning assets increased 15.1%
and average loans increased 13.1% in fiscal 2001 compared to fiscal 2000.
The net interest margin for the year ended December 31, 2003 was 3.35%,
compared to 3.44% for the year ended December 31, 2002. The decline in the
margin for this period is primarily attributed to a smaller percentage of
earning assets to total assets and a larger decline in asset yield than the
decline in cost of funds. Due to a high level of loan repayments, modifications
and refinances combined with calls and repayments on investment securities, the
yield on earning assets dropped 84 basis points in 2003. The drop in rates led
to lower liability costs as the cost of funds fell 81 basis points. The net
margin was impacted by the purchase of $10 million in bank owned life insurance
(BOLI) in November 2001 which caused a 1% decline in the ratio of earning
assets to 97.0%. The accretion of the value of life insurance policies is
considered other income rather than interest income. The margin was also
constrained by the growth in the investment portfolio as a percentage of
earnings assets. Investments, which generally have lower yields than loans,
were 31.3% of earning assets in 2003 compared to 25.0% in 2002. The net
interest margin for fiscal years ending June 30, 2001, 2000, and 1999 was
2.84%, 3.13%, and 3.44%, respectively. The volatile nature of interest rates
and intense competition for deposits and loans negatively impacted the net
interest margin from June 30, 1999 through June 30, 2001. In particular, during
the first half of fiscal 2001, the increase in rates decreased the net interest
margin as liabilities repriced more quickly than assets. The 275 basis point
drop in the target federal funds rate from January to June 2001 resulted in a
corresponding drop in Cascade Bank's prime lending rate. The result was the
yield on Prime Rate based loans repriced downward more quickly than the
liabilities funding those loans.
For the six months ended December 31, 2001, the yield on earning assets was
7.60% compared to 8.30% for the six-month period ended December 31, 2000. This
yield reduction was more than offset by the decrease in the cost of interest-
bearing liabilities, which declined from 5.98% for the six-month period ending
December 31, 2000 to 4.93% for the six months ended December 31, 2001. For the
fiscal years ending June 30, 2001, 2000, and 1999, the yield on earning assets
was 8.22%, 8.12%, and 8.08%, respectively. For the fiscal years ending June 30,
2001, 2000, and 1999, the cost of interest-bearing liabilities was 5.82%,
5.39%, and 5.11%, respectively.
14
<PAGE>
Average Balances and an Analysis of Average Rates Earned and Paid
- -----------------------------------------------------------------
The following tables show average balances and interest income or interest
expense, with the resulting average yield or rate by category or average
earning asset or interest-bearing liability.
<TABLE>
<CAPTION>
For the year ended December 31,
-----------------------------------------------------------------------------------------
2003 2002 2001
-----------------------------------------------------------------------------------------
Interest Interest Interest
Average and Yield/ Average and Yield/ Average and Yield/
Balance Dividend Cost Balance Dividend Cost Balance Dividend Cost
-----------------------------------------------------------------------------------------
ASSETS (Dollars in thousands) (unaudited)
- ------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Interest-earning assets (1)
Mortgage loans (2) $351,425 $ 23,534 6.70% $380,676 $ 28,370 7.45% $400,496 $ 32,773 8.18%
Consumer loans 39,592 2,787 7.04% 56,030 4,101 7.32% 61,046 5,122 8.39%
Business loans 174,436 11,420 6.55% 129,596 9,397 7.25% 112,325 9,505 8.46%
-----------------------------------------------------------------------------------------
Total loans 565,453 37,741 6.67% 566,302 41,868 7.39% 573,867 47,400 8.26%
-----------------------------------------------------------------------------------------
Securities available-for-sale 184,558 9,182 4.98% 147,625 8,939 6.06% 122,643 7,890 6.43%
Securities held-to-maturity 65,956 3,327 5.04% 23,438 1,337 5.71% 7,006 387 5.52%
Daily interest-earning deposits 8,455 113 1.34% 18,070 326 1.80% 6,597 207 3.14%
-----------------------------------------------------------------------------------------
Total securities and interest-
earning deposits 258,969 12,622 4.87% 189,133 10,602 5.61% 136,246 8,484 6.23%
Total interest-earning assets 824,422 50,363 6.11% 755,435 52,470 6.95% 710,113 55,884 7.87%
Noninterest-earning assets
Office properties and
equipment, net 8,806 8,605 8,865
Real estate, net 361 694 521
Other noninterest-earning assets 16,189 7,121 8,892
-----------------------------------------------------------------------------------------
Total assets $849,778 $771,855 $728,390
=========================================================================================
LIABILITIES AND EQUITY
- ----------------------
Interest-bearing liabilities
Savings accounts $ 11,828 $ 55 0.46% $ 11,324 $ 130 1.15% $ 10,936 $ 246 2.25%
Checking accounts 21,854 105 0.48% 22,641 235 1.04% 22,202 315 1.42%
Money market accounts 113,263 1,499 1.32% 107,363 2,293 2.14% 91,552 3,198 3.49%
Certificates of deposit 357,955 9,314 2.60% 294,554 9,872 3.35% 249,873 13,880 5.55%
-----------------------------------------------------------------------------------------
Total interest-bearing deposits 504,900 10,973 2.17% 435,882 12,530 2.87% 374,563 17,639 4.71%
-----------------------------------------------------------------------------------------
Other interest-bearing liabilities
FHLB advances 194,229 10,308 5.31% 203,089 12,142 5.98% 229,059 14,090 6.15%
Other interest-bearing liabilities 45,360 1,472 3.24% 44,415 1,774 4.00% 48,025 2,752 5.73%
-----------------------------------------------------------------------------------------
Total interest-bearing
liabilities 744,489 22,753 3.06% 683,386 26,446 3.87% 651,647 34,481 5.29%
-----------------------------------------------------------------------------------------
Other liabilities 44,523 36,366 32,248
-----------------------------------------------------------------------------------------
Total liabilities 789,012 719,752 683,894
Stockholders' equity 60,766 52,103 44,496
-----------------------------------------------------------------------------------------
Total liabilities and
retained earnings $849,778 $771,855 $728,390
=========================================================================================
Net interest income (3) $ 27,610 $ 26,024 $ 21,403
=========================================================================================
Interest rate spread (4) 3.05% 3.08% 2.58%
Net interest margin (5) 3.35% 3.44% 3.01%
Average interest-earning assets
to average interest-bearing
liabilities 110.74% 110.54% 108.97%
</TABLE>
- -----------------------------
(Footnotes appear on page 17)
15
<PAGE>
<TABLE>
<CAPTION>
For the six months ended December 31,
-----------------------------------------------------------
2001 2000
-----------------------------------------------------------
Interest Interest
Average and Yield/ Average and Yield/
Balance Dividend Cost Balance Dividend Cost
-----------------------------------------------------------
(unaudited)
ASSETS (Dollars in thousands)
- ------
<S> <C> <C> <C> <C> <C> <C>
Interest-earning assets (1)
Mortgage loans (2) $400,515 $ 15,986 7.98% $397,309 $ 16,526 8.32%
Consumer loans 59,809 2,426 8.11% 63,756 2,800 8.78%
Business loans 119,897 4,797 8.00% 91,447 4,380 9.58%
-----------------------------------------------------------
Total loans 580,221 23,209 8.00% 552,512 23,706 8.58%
-----------------------------------------------------------
Securities available-for-sale 129,759 3,925 6.05% 114,897 3,990 7.15%
Securities held-to-maturity 6,425 187 5.82% 10,612 382 7.20%
Daily interest-earning deposits 6,159 153 4.97% 3,218 201 6.13%
-----------------------------------------------------------
Total securities and interest-
earning deposits 142,343 4,265 5.99% 128,727 4,573 7.10%
-----------------------------------------------------------
Total interest-earning assets 722,564 27,474 7.60% 681,239 28,279 8.30%
Noninterest-earning assets
Office properties and
equipment, net 8,753 8,904
Real estate, net 386 606
Other noninterest-earning assets 8,134 12,975
-----------------------------------------------------------
Total assets $739,837 $703,724
===========================================================
LIABILITIES AND EQUITY
Interest-bearing liabilities
Savings accounts $ 11,073 $ 109 1.96% $ 11,032 $ 172 3.12%
Checking accounts 22,051 136 1.23% 21,214 216 2.04%
Money market accounts 94,384 1,405 2.98% 104,262 2,535 4.86%
Certificates of deposit 254,836 6,386 5.01% 240,092 7,577 6.31%
-----------------------------------------------------------
Total interest-bearing deposits 382,344 8,035 4.20% 376,600 10,501 5.58%
-----------------------------------------------------------
Other interest-bearing liabilities
FHLB advances 229,451 7,047 6.14% 214,128 6,800 6.35%
Other interest-bearing liabilities 48,264 1,190 4.93% 42,469 1,618 7.62%
-----------------------------------------------------------
Total interest-bearing
liabilities 660,059 16,272 4.93% 633,197 18,919 5.98%
-----------------------------------------------------------
Other liabilities 33,549 32,176
-----------------------------------------------------------
Total liabilities 693,608 665,373
Stockholders' equity 46,229 38,351
Total liabilities and
retained earnings $739,837 $703,724
===========================================================
Net interest income (3) $ 11,202 $ 9,360
Interest rate spread (4) 2.67% 2.33%
Net interest margin (5) 3.10% 2.75%
Average interest-earning assets
to average interest-bearing
liabilities 109.47% 107.59%
</TABLE>
- -------------------------------------
(Footnotes appear on following page.)
16
<PAGE>
<TABLE>
<CAPTION>
For the year ended June 30,
-----------------------------------------------------------------------------------------
2001 2000 1999
-----------------------------------------------------------------------------------------
Interest Interest Interest
Average and Yield/ Average and Yield/ Average and Yield/
Balance Dividend Cost Balance Dividend Cost Balance Dividend Cost
-----------------------------------------------------------------------------------------
ASSETS (Dollars in thousands)
- ------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Interest-earning assets (1)
Mortgage loans (2) $398,893 $ 33,313 8.35% $383,595 $ 31,280 8.15% $321,038 $ 25,878 8.06%
Consumer loans 63,020 5,496 8.72% 57,138 4,740 8.30% 48,755 4,273 8.76%
Business loans 98,100 9,088 9.26% 76,672 7,135 9.31% 48,414 4,600 0.50%
-----------------------------------------------------------------------------------------
Total loans 560,013 47,897 8.55% 517,405 43,155 8.34% 418,207 34,751 8.31%
-----------------------------------------------------------------------------------------
Securities available-for-sale 118,356 8,075 6.82% 72,826 4,928 6.77% 48,229 3,049 6.32%
Securities held-for-sale 5,955 421 7.07% 5,200 306 5.88% 2,978 141 4.73%
Daily interest-earning deposits 5,127 296 5.77% 2,692 193 7.17% 3,298 264 8.00%
-----------------------------------------------------------------------------------------
Total securities and interest-
earning deposits 129,438 8,792 6.79% 80,718 5,427 6.72% 54,505 3,454 6.34%
-----------------------------------------------------------------------------------------
Total interest-earning assets 689,451 56,689 8.22% 598,123 48,582 8.12% 472,712 38,205 8.08%
Noninterest-earning assets
Office properties and
equipment, net 8,941 9,281 9,225
Real estate, net 630 491 209
Other noninterest-earning assets 11,311 11,559 13,947
-----------------------------------------------------------------------------------------
Total assets $710,333 $619,454 $496,093
=========================================================================================
LIABILITIES AND EQUITY
Interest-bearing liabilities
Savings accounts $ 10,915 $ 309 2.83% $ 11,446 $ 351 3.07% $ 12,781 $ 391 3.06%
Checking accounts 21,783 395 1.81% 18,408 389 2.11% 18,540 409 2.21%
Money market accounts 96,491 4,328 4.49% 119,219 5,970 5.01% 69,426 3,233 4.66%
Certificates of deposit 242,501 15,073 6.22% 232,192 13,091 5.64% 220,921 12,392 5.61%
-----------------------------------------------------------------------------------------
Total interest-bearing deposits 371,690 20,105 5.41% 381,265 19,801 5.19% 321,668 16,425 5.11%
-----------------------------------------------------------------------------------------
Other interest-bearing liabilities
FHLB advances 221,397 13,843 6.25% 160,182 9,093 5.68% 102,045 5,280 5.17%
Other interest-bearing liabilities 45,127 3,180 7.05% 12,519 953 7.61% 5,571 251 4.50%
-----------------------------------------------------------------------------------------
Total interest-bearing
Liabilities 638,214 37,128 5.82% 553,966 29,847 5.39% 429,284 21,956 5.11%
-----------------------------------------------------------------------------------------
Other liabilities 31,562 29,710 33,216
-----------------------------------------------------------------------------------------
Total liabilities 669,776 583,676 462,500
Stockholders' equity 40,557 35,778 33,593
-----------------------------------------------------------------------------------------
Total liabilities and
retained earnings $710,333 619,454 496,093
=========================================================================================
Net interest income (3) $ 19,561 $ 18,735 $ 16,249
=========================================================================================
Interest rate spread (4) 2.40% 2.73% 2.97%
Net interest margin (5) 2.84% 3.13% 3.44%
Average interest-earning assets
to average interest-bearing
liabilities 108.03% 107.97% 110.12%
</TABLE>
- -------------------
(1) Does not include interest on loans 90 days or more past due.
(2) Includes single-family and multifamily residential loans, construction
loans and commercial real estate loans.
(3) Interest and dividends on total interest-earning assets less interest on
total interest-bearing liabilities.
(4) Total interest-earning assets yield less total interest-bearing liabilities
cost.
(5) Net interest income as an annualized percentage of total interest-earning
assets.
17
<PAGE>
Other Income
- ------------
Other income is derived from sources other than interest and fees on earning
assets. The Corporation's primary sources of other income are service charge
fees on deposit accounts, gains on the sale of single-family residential loans,
and gains on the sale of securities, as well as the accretion of cash surrender
value of BOLI. Other income for the year ending December 31, 2003 was $5.3
million, compared to $4.0 million for the same period in 2002. This increase
was attributable primarily to a $158,000 increase in gain on sale of loans, a
$714,000 increase in gain on sale of securities, a $286,000 increase in service
charges, and a $512,000 increase in BOLI. The higher gain on sale of loans
reflects an increase in residential mortgage activity, especially refinancings.
The gain on sale of securities resulted primarily from steps taken to
reposition the investment portfolio to take advantage of declining interest
rates and a steep yield curve. The increase in services charges was the result
of the growth in checking services fees of $408,000, which helped offset the
net amortization of the mortgage servicing rights of $230,000 during the year.
Other income increased $700,000 for the year ended December 31, 2002
compared to the twelve-month period ended December 31, 2001. Gain on sale of
securities increased $646,000 to $1.1 million; gain on sale of loans increased
$134,000; and the gain on sale of real estate increased $165,000. These gains
offset the $284,000 drop in service charges.
Other income for the fiscal years ending June 30, 2001, 2000, and 1999 was
$2.6 million, $2.3 million, and $2.8 million, respectively. The increase for
the period ending June 30, 2001 was attributable to $248,000 in growth of fee
income and a $212,000 increase in gain on sale of securities that more than
compensated for the $91,000 decrease in gain on sale of loans. The growth in
fee income was attributable to an increase in transaction fees. The gain on
sale of securities resulted primarily from steps taken to reposition the
investment portfolio. The lower gain on sale of loans, despite an increase in
residential mortgage refinancings, reflects the Corporation's strategic shift
away from mortgage banking. Other income was $2.8 million in 1999 when the
Corporation's mortgage banking operations were much larger. Also, the
Corporation realized a $600,000 gain on the sale of mortgage servicing rights
in the fiscal year ending June 30, 1999.
Other Expense
- -------------
Other expense represents costs not associated with deposits and other interest-
bearing liabilities. It includes expenses associated with personnel, premises
and equipment, data processing, and other operations.
Other expense increased by $1.4 million to $17.7 million for the year ended
December 31, 2003 from $16.3 million for the same period in 2002. The increase
in expense was due to an increase in salaries and employee benefits of
$824,000, an increase of $264,000 in occupancy expense relating to a branch
opening late in 2002, and increased rent and utility charges. The increase in
expenses was also due to the payment of prepayment fees to the FHLB in the
amount of $863,000 to retire high coupon advances, which compares to $648,000
in 2002.
Other expense increased $1.4 million for the year ended December 31, 2002
compared to the twelve-month period ended December 31, 2001. The bulk of this
increase represents $844,000 of increased personnel expense and a $400,000
increase in FHLB prepayment fees.
Other expense for the fiscal years ending June 30, 2001, 2000, and 1999 was
$14.3 million, $14.6 million, and $12.4 million, respectively. For the fiscal
year ended June 30, 2001, lower expenses were partially the result of the
reduction in mortgage banking operations, offset in part by $300,000 in
management transition expenses, including employee severance, recruitment fees,
and executive signing bonuses. The increase in other expense between the fiscal
year ending June 30, 1999 and 2000 was primarily the result of opening three
new branches and bringing data processing operations fully in-house.
A standard measurement used to measure overhead costs of financial
institutions is the efficiency ratio. The efficiency ratio is calculated by
dividing other expense by total revenue, which generally indicates how much an
institution spends to generate a dollar of revenue. The lower the efficiency
ratio, the more efficient the institution. For the years ending December 31,
2003, and 2002, the Corporation's efficiency ratio was 53.87%, and 54.29%,
respectively. Management continues to look for ways in which to improve its
efficiency ratio by increasing other income and net interest margin and
diligently controlling costs while maintaining high standards of service. For
the fiscal years ending June 30, 2001, 2000, and 1999, the Corporation's
efficiency ratio was 64.41%, 69.57%, and 65.17%, respectively.
18
<PAGE>
Liquidity
- ---------
Liquidity is the term used to define the Corporation's ability to meet its
financial commitments. The Corporation is required by prudent business
practice and its regulators to maintain adequate levels of liquidity. The main
liquidity requirements are funding customer loan requests and deposit outflows
of Cascade Bank. Primary sources of liquidity are cash and cash equivalents,
which include highly liquid investments. At December 31, 2003, December 31,
2002, December 31, 2001, and June 30, 2001, cash and cash equivalents totaled
$14.1 million, $20.6 million, $11.6 million, and $13.9 million, respectively.
The Corporation's entire investment portfolio consists of investment grade
securities. All of these securities are of the highest credit quality, with
moderate interest rate risk.
Other significant sources of liquidity are FHLB advances, repurchase
agreements, and loan sales. At December 31, 2003, $110 million of additional
borrowing capacity remained under Cascade Bank's existing credit line from the
FHLB. The use of this line of credit is subject to the availability of eligible
collateral, which includes residential mortgages, investment grade securities,
and a limited amount of other real estate related mortgages. In addition,
Cascade Bank has the ability to borrow from primary dealers of United States
government securities through reverse repurchase agreements. Under these
agreements, borrowings are collateralized with mortgage-backed securities or
other investment securities.
The Bank has also established Fed funds borrowing lines with two of its
larger correspondent banks. During the years ended December 31, 2003 and 2002,
these lines were not used.
Liquidity management is of critical importance to Cascade Bank in that it
significantly relies upon wholesale sources of funds (e.g. FHLB-Seattle
advances), as opposed to keeping very liquid, low yielding assets on its
balance sheet (e.g. Fed funds sold). While these sources have proven to be
stable and reliable, an interruption in the availability of these sources could
have an adverse impact on the operations of the Corporation.
Market Risk
- -----------
The Corporation's results of operations are dependent upon its ability to
manage interest rate risk. Management considers interest rate risk to be a
significant market risk that could have a material effect on the Corporation's
financial condition and results of operations.
The Corporation has taken steps to balance its sensitivity to changes in
interest rates by altering its asset and liability mix. The origination of
floating rate loans such as business, construction and other prime based loans
is emphasized. The vast majority of fixed-rate loans have repricing periods
with a maximum of five years. The mix of floating and fixed rate assets is
designed to mitigate the impact of rate changes on the Corporation's net
interest income. Virtually all fixed-rate residential loans with maturities
greater than five years are sold into the secondary market. Since most of
Cascade Bank's fixed-rate loans do not have provisions for prepayment fees, a
drop in rates can precipitate a refinancing of Cascade Bank's assets.
Interest rate risk is monitored using several methodologies, principally
simulation modeling. The earnings exposure to interest rate changes is
evaluated in the context of certain upward and downward interest rate changes
occurring instantaneously. At December 31, 2003, a 200 basis point increase in
rates would reduce forecasted net interest income over a twelve-month period by
approximately 9.7%, close to the 10% established by the Board of Directors
through its Asset/Liability Management Policy.
The changes of the fair value of assets and liabilities and the resulting
impact on the fair value of equity are also modeled under different rate
scenarios. In the 200 basis point (shock) increase scenario, the market value
of equity declines by $15.8 million or 25.2% of the Bank's fair value of
equity. While within policy limits of 30%, the Bank is taking steps to reduce
this measured exposure by extending the maturity of its FHLB advances
portfolio, limiting the final maturity of all new investments and reducing the
allowable (projected) fluctuations of the average lives of any incremental
purchases of CMOs.
In October 2003, Cascade entered into an interest rate swap agreement with a
third party. The swap will be accounted for as a hedge of the Corporation's
junior subordinated debentures. Under the terms of the agreement, Cascade will
receive an 11% fixed rate and pay a floating rate of USD-six month LIBOR-BBA
plus 520 basis points. The initial rate on the swap is 6.38%. The floating
rate will reprice the first calendar day of each March and September. The
unrealized loss on the interest rate swap was $98,000 as of December 31, 2003.
Unrealized gains or losses on the interest rate swap are recorded as other
assets or liabilities with the corresponding change in the amount of liability
for the trust preferred securities. The change in unrealized gains or losses on
the interest rate swap is offset by the corresponding changes in the unrealized
19
<PAGE>
gains or losses on the trust preferred securities in the accompanying
Consolidated Statements of Operations.
The Corporation does not maintain a trading account for any class of
financial instrument. Moreover, the Corporation is not subject to foreign
currency exchange rate risk or commodity price risk.
The following table represents the repricing/maturity of the individual
categories of assets and liabilities that are subject to interest rate
sensitivity as of December 31, 2003:
<TABLE>
<CAPTION>
<1 year 1-3 years 3-5 years 5-10 years 10 years Total Fair Value
Interest-Sensitive Assets -----------------------------------------------------------------------------------
- ------------------------- (Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C>
Loans $189,182 $109,744 $186,592 $75,012 $16,454 $576,984 $582,859
Investments and other
Interest-earning assets 63,477 43,842 16,156 85,387 68,664 277,526 276,150
Interest-Sensitive Liabilities
Checking accounts $ 31,463 $ - $ - $31,464 $ - $ 62,927 $ 63,150
Money market accounts 60,284 - - 60,285 - 120,569 120,372
Savings accounts 6,209 - - 6,208 - 12,417 12,416
Certificates of deposits 252,258 85,899 30,244 - - 368,401 370,230
Borrowings 79,911 86,000 25,000 49,000 - 239,911 251,006
Junior subordinated
debentures payable (1) 10,212 - - - - 10,212 10,212
</TABLE>
- ---------------------
(1) Net of $98,000 mark-to-market on swap (see note 6)
Off-Balance Sheet Transactions: Credit Commitments
- --------------------------------------------------
Commitments to extend credit are agreements to lend to a customer as long as
there is no violation of any condition established in the contract. Commitments
generally have fixed expiration dates or other termination clauses and may
require payment of a fee. Since many of the commitments are expected to expire
without being drawn upon, the total commitment amounts do not necessarily
represent future cash requirements.
The Bank underwrites its standby letters of credit using its policies and
procedures applicable to loans in general. Standby letters of credit are made
on an unsecured and secured basis. The Bank has not incurred any losses on its
commitments in 2003 or 2002.
A summary of the notional amount of the Bank's financial instruments with
off-balance sheet risk at December 31, 2003 follows:
(Dollars in thousands) LESS THAN 1-3 3-5 THERE-
ONE YEAR YEARS YEARS AFTER TOTAL
-----------------------------------------------
Commitments to extend credit $63,258 $15,891 $911 $27,873 $107,933
Standby letters of credit 665 - - - 665
Unused commitments on bankcards - - - 9,324 9,324
-----------------------------------------------
Total $63,923 $15,891 $911 $37,197 $117,922
===============================================
Contractual Obligations and Commitments
- ---------------------------------------
The following table sets forth the Corporation's long-term contractual
obligations:
(Dollars in thousands) PAYMENTS DUE PER PERIOD
-----------------------------------------------
LESS THAN 1-3 3-5 THERE-
ONE YEAR YEARS YEARS AFTER TOTAL
-----------------------------------------------
Certificates of deposit $33,678 $ 85,273 $30,137 $ 3 $149,091
Federal Home Loan Bank advances 43,000 66,000 20,000 49,000 178,000
Capital lease obligations 38 77 154 32 301
Operating lease obligations 368 737 1,473 909 3,487
Junior subordinated
debentures payable - - - 10,212 10,212
-----------------------------------------------
Total $77,084 $152,087 $51,764 $60,156 $341,091
===============================================
20
<PAGE>
At December 31, 2003, the Corporation's long-term contractual obligations
related to debt totaled $188.2 million. See additional discussion under Note 6
and 7.
The Corporation also has operating leases comprised of leases for office
space.
Summation of Factors that May Affect Financial Condition and Future Results
- ---------------------------------------------------------------------------
Credit risk: The most significant risk that may impact Cascade Financial
Corporation would be deterioration in the quality of the loan portfolio.
Cascade's loan growth has been focused on commercial lending. Historically for
the banking industry, commercial loans have a higher level of losses than
residential loans. The Corporation's ability to meet its profitability and
growth goals would be severely compromised with a large number of impaired
credits. In addition, the Corporation and its subsidiary, Cascade Bank,
could face regulatory restrictions on its activities.
Interest rate risk: While the Corporation actively manages its exposure to
changes in interest rates, volatile interest rates and/or changes in the shape
of the yield curve could have a meaningful impact on Cascade's net income. Many
of the assets and liabilities of the Corporation have embedded options, which
add another layer of complexity in its interest rate risk practices.
Liquidity: Disruptions in the capital markets could have a major impact on
the Corporation's net income and balance sheet. As a user of FHLB advances,
repurchase agreements and brokered CDs, interruption or truncation of these
sources of funds could force the Corporation to liquidate assets at an
inauspicious time or cease lending activity which could adversely affect
customer relationships for many years.
Operational: The Corporation devotes considerable resources to ensure that
its computer and operations are robust and protected from computer viruses,
hackers, natural disasters, etc. However, there is no guarantee that our
operations will not be affected by such occurrences.
Recently issued accounting standards: In April 2002 the Financial
Accounting Standards Board issued FAS No. 145, Rescission of FASB Statements
No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical
Corrections. This Statement rescinds FASB Statement No. 4, Reporting Gains and
Losses from Extinguishment of Debt, and an amendment of that Statement, FASB
Statement No. 64, Extinguishments of Debt Made to Satisfy Sinking-Fund
Requirements. This Statement also rescinds FASB Statement No. 44, Accounting
for Intangible Assets of Motor Carriers. This Statement amends FASB Statement
No. 13, Accounting for Leases, to eliminate an inconsistency between the
required accounting for sale-leaseback transactions and the required accounting
for certain lease modifications that have economic effects that are similar to
sale-leaseback transactions. This statement was adopted June 1, 2002 and did
not have an impact on the results of the Corporation's operations or financial
position.
In June 2002 the Financial Accounting Standards Board issued FAS No. 146,
Accounting for Costs Associated with Exit or Disposal Activities. This
Statement addresses financial accounting and reporting for costs associated
with exit or disposal activities and nullifies Emerging Issues Task Force
(EITF) Issue No. 94-3, Liability Recognition for Certain Employee Termination
Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred
in a Restructuring). The provisions of this Statement are effective for exit
and disposal activities that are initiated after December 31, 2002. This
Statement was adopted January 1, 2003, and did not have a material effect on
the results of the Corporation's operations or financial position.
In October 2002 the Financial Accounting Standards Board issued FAS No.
147, Acquisitions of Certain Financial Institutions-an amendment of FASB
Statements No. 72 and 144 and FASB Interpretation No. 9. This Statement
addresses FAS No. 72, Accounting for Certain Acquisitions of Banking or Thrift
Institutions, and FASB Interpretation No. 9, Applying APB Opinions No. 16 and
17, When a Savings and Loan Association or a Similar Institution Is Acquired in
a Business Combination Accounted for by the Purchase Method, provided
interpretive guidance on the application of the purchase method to acquisitions
of financial institutions. Except for transactions between two or more mutual
enterprises, this Statement removes acquisitions of financial institutions from
the scope of both Statement 72 and Interpretation 9 and requires that those
transactions be accounted for in accordance with FASB Statements No. 141,
Business Combinations, and No. 142, Goodwill and Other Intangible Assets.
In addition, this Statement amends FASB Statement No. 144, Accounting for
the Impairment or Disposal of Long-Lived Assets, to include in its scope
long-term customer-relationship intangible assets of financial institutions
such as depositor- and borrower-relationship, intangible assets, and credit
cardholder intangible assets. This statement was adopted in December 2002 and
did not have a material effect on the results of the Corporation's operations
or financial position.
21
<PAGE>
In December 2002 the Financial Accounting Standards Board issued FAS No.
148, Accounting for Stock-Based Compensation-Transition and Disclosure-an
amendment of FASB Statement No. 123. This Statement amends FASB Statement No.
123, Accounting for Stock-Based Compensation, to provide alternative methods of
transition for a voluntary change to the fair value based method of accounting
for stock-based employee compensation. In addition, this Statement amends the
disclosure requirements of Statement 123 to require prominent disclosures in
both annual and interim financial statements about the method of accounting for
stock-based employee compensation and the effect of the method used on reported
results. The disclosure provisions of this Statement were adopted in December
2002 and did not have a material effect on the results of the Corporation's
operations or financial position.
In November 2002 the FASB issued Interpretation No. 45, Guarantors
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others, clarifying the accounting treatment and
financial statement disclosure of certain guarantees issued and outstanding.
Interpretation No. 45 clarifies that a guarantor is required to recognize, at
the inception of certain guarantees, a liability for the fair value undertaken
in issuing the guarantee. In addition, guarantors must disclose the approximate
term and nature of the guarantee, the maximum potential amount of future
payments, current carrying amount of the liability and the nature of recourse
provisions and collateral. The initial recognition and measurement provisions
of Interpretation No. 45 are effective for guarantees issued or modified after
December 31, 2002. Management does not expect the adoption of the initial
recognition and measurement provisions of Interpretation No. 45 to have a
material impact on the Corporation's consolidated financial statements, results
of operations, or liquidity. Disclosure provisions of Interpretation No. 45
became effective and were adopted by the Corporation on December 31, 2002.
In January 2003, the Financial Accounting Standards Board issued
Interpretation No. 46 (FIN 46), Consolidation of Variable Interest Entities
and, in December 2003, issued Revised Interpretation No. 46 (FIN 46R),
Consolidation of Variable Interest Entities, which replaced FIN 46. We
adopted the disclosure provisions of FIN 46 effective December 31, 2003. At
December 31, 2003, we had a wholly owned trust (the Trust) that was formed and
issued trust preferred securities in March of 2000. At December 31, 2003, as a
result of the adoption of FIN 46R, we deconsolidated the Trust and all periods
in the consolidated financial statements have been restated to reflect this
change. (See Note 6.) The junior subordinated debentures qualify as Tier 1
capital under guidance issued by the Federal Reserve Board. Prior to December
31, 2003, the Trust was consolidated and was included in liabilities in the
consolidated balance sheet, as "Trust Preferred Securities."
Regarding the Emerging Issues Task Force (EITF) Issue 03-1, The Meaning of
Other-Than-Temporary Impairment and Its Application to Certain Investments,
and in connection with its discussion of EITF Issue No. 02-14, Whether the
Equity Method of Accounting Applies When an Investor Does Not Have an
Investment in Voting Stock of an Investee but Exercises Significant
Influence through Other Means, the task force discussed the meaning of other-
than-temporary impairment and its application to certain investments carried at
cost, at the November 21, 2002 meeting. The task force requested that the FASB
staff consider other impairment models within U.S. GAAP when developing its
views. At the November 25, 2003 EITF meeting, the Board ratified a consensus
that certain quantitative and qualitative disclosures for periods ending after
December 15, 2003 should be required for securities accounted for under
Statement 115 that are impaired at the balance sheet date but for which an
other-than-temporary impairment has not been recognized. Application of this
Interpretation did not have a material effect on our financial statements.
Form 10-K
- ---------
A copy of the Corporation's annual report on Form 10-K, which is filed, with
the Securities and Exchange Commission under the Securities Exchange Act of
1934 is available to shareholders, at no charge, upon written request to the
Secretary of Cascade Financial Corporation at 2828 Colby Avenue, Everett,
Washington 98201.
22
<PAGE>
Independent Auditors' Report
- ----------------------------
The Board of Directors
Cascade Financial Corporation:
We have audited the accompanying consolidated balance sheets of Cascade
Financial Corporation and subsidiaries (Corporation) as of December 31, 2003
and 2002, and the related consolidated statements of operations, stockholders'
equity and comprehensive income, and cash flows for the years ended December
31, 2003 and 2002, for the six-month period ended December 31, 2001, and for
the year ended June 30, 2001. These consolidated financial statements are the
responsibility of the Corporation's management. Our responsibility is to
express an opinion on these consolidated financial statements based on our
audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Cascade Financial
Corporation and subsidiaries as of December 31, 2003 and December 31, 2002, and
the results of their operations and their cash flows for the years ended
December 31, 2003 and 2002, for the six-month period ended December 31, 2001,
and for the year ended June 30, 2001 in conformity with accounting principles
generally accepted in the United States of America.
Seattle, Washington
February 20, 2004
/s/ KPMG LLP
23
<PAGE>
CASCADE FINANCIAL CORPORATION
AND SUBSIDIARIES
Consolidated Balance Sheets
December 31, 2003 and 2002
December 31,
(Dollars in thousands) 2003 2002
- ----------------------------------------------------------------------------
Assets
Cash on hand and in banks $ 13,011 $ 9,640
Interest-bearing deposits in other
financial institutions 1,060 10,955
Securities available-for-sale 189,747 159,897
Securities held-to-maturity 86,719 49,388
--------------------
Total securities 276,466 209,285
--------------------
Loans 574,805 553,549
Allowance for loan losses (7,711) (6,872)
--------------------
Loans, net 567,094 546,677
Premises and equipment, net 8,587 9,261
Bank-owned life insurance 11,162 10,619
Accrued interest receivable and other assets 7,840 8,026
--------------------
Total assets $885,220 $804,463
====================
Liabilities and Stockholders' Equity
Liabilities:
Deposits $564,314 $509,850
Federal Home Loan Bank advances 200,000 197,500
Securities sold under agreements to repurchase 39,911 20,569
Junior subordinated debentures payable 10,212 10,310
Advance payments by borrowers for taxes
and insurance 1,057 1,507
Dividends payable 577 324
Accrued interest payable, expenses and
other liabilities 4,515 6,254
Deferred Federal income taxes 677 1,509
--------------------
Total liabilities 821,263 747,823
--------------------
Stockholders' equity:
Preferred stock, $.01 par value.
Authorized 500,000 shares;
no shares issued or outstanding -- --
Common stock, $.01 par value.
Authorized 25,000,000 shares;
issued and outstanding 8,241,288 shares
at December 31, 2003 and 8,105,150 shares
at December 31, 2002 82 81
Additional paid-in capital 11,921 11,268
Retained earnings, substantially restricted 52,109 44,290
Accumulated other comprehensive income (155) 1,001
--------------------
Total stockholders' equity 63,957 56,640
--------------------
Commitments and contingencies -- --
Total liabilities and stockholders' equity $885,220 $804,463
====================
(See accompanying notes to consolidated financial statements)
24
<PAGE>
CASCADE FINANCIAL CORPORATION
AND SUBSIDIARIES
Consolidated Statements of Operations
Years ended December 31, 2003, 2002 and 2001
Six months ended December 31, 2001 and 2000
Year ended June 30, 2001
<TABLE>
<CAPTION>
Year ended Six months ended Year ended
December 31, December 31, June 30,
2003 2002 2001 2001 2000 2001
(unaudited) (unaudited)
----------------------------------------------------------------------------------
(Dollars in thousands, except share amounts)
<S> <C> <C> <C> <C> <C> <C>
Interest income:
Loans $ 37,741 $ 41,868 $ 47,400 $ 23,209 $ 23,706 $ 47,897
Securities held-to-maturity 3,327 1,337 387 187 382 421
Securities available-for-sale 8,391 8,109 7,025 3,474 3,617 7,288
FHLB stock dividends 791 831 865 451 373 787
Interest-bearing deposits 113 325 207 153 201 296
----------------------------------------------------------------------------------
Total interest income 50,363 52,470 55,884 27,474 28,279 56,689
----------------------------------------------------------------------------------
Interest expense:
Deposits 10,973 12,530 17,639 8,035 10,501 20,105
FHLB advances 10,308 12,142 14,090 7,047 6,800 13,843
Securities sold under
agreements to repurchase 438 626 1,598 609 1,025 2,014
Junior subordinated debentures 1,034 1,148 1,154 581 593 1,166
----------------------------------------------------------------------------------
Total interest expense 22,753 26,446 34,481 16,272 18,919 37,128
----------------------------------------------------------------------------------
Net interest income 27,610 26,024 21,403 11,202 9,360 19,561
Provision for loan losses 1,275 1,895 1,370 810 420 980
----------------------------------------------------------------------------------
Net interest income after
provision for loan losses 26,335 24,129 20,033 10,392 8,940 18,581
----------------------------------------------------------------------------------
Other income:
Gain on sale of loans
held-for-sale 855 697 563 335 107 336
Gain on sale of securities
available-for-sale 1,790 1,076 430 294 76 212
Gain on sale of real estate
owned and investment property 48 427 265 - - -
Service charges 1,895 1,609 1,893 908 854 1,839
BOLI 598 86 30 15 13 28
Other 120 144 141 265 88 228
----------------------------------------------------------------------------------
Total other income 5,306 4,039 3,322 1,817 1,138 2,643
----------------------------------------------------------------------------------
Other expenses:
Salaries and employee benefits 9,617 8,793 7,941 3,860 3,634 7,714
Occupancy 2,551 2,287 2,482 1,216 1,453 2,719
Data processing 284 259 237 133 146 249
Marketing 461 455 369 187 273 454
Prepayment penalty FHLB 863 648 245 225 - 20
Other 3,957 3,879 3,590 1,840 1,391 3,145
----------------------------------------------------------------------------------
Total other expenses 17,733 16,321 14,864 7,461 6,897 14,301
----------------------------------------------------------------------------------
Income before Federal income taxes 13,908 11,847 8,491 4,748 3,181 6,923
Federal income taxes 4,309 3,775 2,874 1,598 1,082 2,357
----------------------------------------------------------------------------------
Net income $ 9,599 $ 8,072 $ 5,617 $ 3,150 $ 2,099 $ 4,566
==================================================================================
Net income per common share, basic $ 1.17 $ 1.01 $ 0.73 $ 0.41 $ 0.28 $ 0.60
Weighted average number of shares
outstanding, basic 8,184,455 7,997,713 7,645,324 7,715,611 7,581,665 7,602,461
Net income per diluted share $ 1.13 $ 0.98 $ 0.70 $ 0.39 $ 0.26 $ 0.57
Weighted average number of shares
outstanding, diluted 8,461,503 8,261,448 8,070,963 8,081,834 8,014,374 8,034,468
</TABLE>
(See accompanying notes to consolidated financial statements.)
26
<PAGE>
CASCADE FINANCIAL CORPORATION
AND SUBSIDIARIES
Consolidated Statements of Stockholders' Equity and Comprehensive Income
Years ended December 31, 2003, 2002 and 2001, June 30, 2001
<TABLE
<CAPTION>
Stockholders' Equity
- --------------------
Accumulated Total
Additional other stock-
Common paid-in Retained comprehensive holders'
Shares stock capital earnings loss, net equity
---------------------------------------------------------------------
(Dollars in thousands, except share amounts)
<S> <C> <C> <C> <C> <C> <C>
Balances at June 30, 2000 6,914,846 $ 69 $ 5,026 $ 34,860 $ (2,699) $ 37,256
Options exercised 202,898 2 444 - - 446
Net income - - - 4,566 - 4,566
Shares repurchased (126,169) (1) (115) (607) - (723)
Other comprehensive income,
net of tax of $1,466 - - - - 3,052 3,052
---------------------------------------------------------------------
Balances at June 30, 2001 6,991,575 70 5,355 38,819 353 44,597
Stock dividends 716,236 8 4,651 (4,659) - -
Options exercised 68,037 - 286 - - 286
Net income - - - 3,150 - 3,150
Shares repurchased (24,704) - (38) (118) - (156)
Other comprehensive loss,
net of tax benefit of $(103) - - - - (200) (200)
---------------------------------------------------------------------
Balances at December 31, 2001 7,751,144 78 10,254 37,192 153 47,677
Cash dividends - - - (646) - (646)
Options exercised 405,675 4 1,060 - - 1,064
Net income - - - 8,072 - 8,072
Shares repurchased (51,669) (1) (46) (328) - (375)
Other comprehensive income,
net of tax of $437 - - - - 848 848
---------------------------------------------------------------------
Balances at December 31, 2002 8,105,150 81 11,268 44,290 1,001 56,640
Cash dividends - - - (1,692) - (1,692)
Options exercised 144,051 1 661 - - 662
Net income - - - 9,599 - 9,599
Shares repurchased (7,913) - (8) (88) - (96)
Other comprehensive loss,
net of tax benefit of $(596) - - - - (1,156) (1,156)
=====================================================================
Balances at December 31, 2003 8,241,288 $ 82 $11,921 $ 52,109 $ (155) $ 63,957
</TABLE>
<TABLE>
<CAPTION>
Comprehensive Income
- --------------------
Year ended Six months ended Year ended
December 31, December 31, June 30,
2003 2002 2001 2001 2000 2001
---------------------------------------------------------------
(unaudited) (unaudited)
<S> <C> <C> <C> <C> <C> <C>
Net income $9,599 $8,072 $5,617 $3,150 $2,099 $4,566
Increase in unrealized gains
(losses) on securities available
for sale, net of tax expense (benefit)
of $13, $803, $450, $(3), $1,084,
and $1,539. 25 1,558 874 (6) 2,312 3,192
Less reclassification adjustment for gains
included in net income, net of tax
benefit of $(609), $(366), $(146),
$(100), $(26) and $(72). (1,181) (710) (284) (194) (50) (140)
---------------------------------------------------------------
Comprehensive income $8,443 $8,920 $6,207 $2,950 $4,361 $7,618
===============================================================
(See accompanying notes to consolidated financial statements.)
</TABLE>
26
<PAGE>
CASCADE FINANCIAL CORPORATION
AND SUBSIDIARIES
Consolidated Statements of Cash Flows
Years ended December 31, 2003, 2002 and 2001
Six months ended December 31, 2001 and 2000
Year ended June 30, 2001
<TABLE>
<CAPTION>
Year ended Six months Year ended
December. 31, ended December 31, June 30,
(Dollars in thousands) 2003 2002 2001 2001 2000 2001
-----------------------------------------------------------------------------
(unaudited) (unaudited)
<S> <C> <C> <C> <C> <C> <C>
Cash flows from operating activities:
Net income $ 9,599 $ 8,072 $ 5,617 $ 3,150 $ 2,099 $ 4,566
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation and amortization 1,454 1,218 1,259 655 698 1,302
Amortization of retained servicing rights 230 187 273 135 130 268
Provision for losses on:
Loans 1,275 1,895 1,370 810 420 980
Mortgage servicing rights - - 30 30 - -
Deferred Federal income taxes (236) (205) 322 - 49 469
Additions to mortgage servicing rights - - (7) (4) (24) (27)
Deferred loan fees, net of amortization (19) (304) (432) (202) 215 (16)
Net gain on sales of securities available-
for-sale (1,790) (1,076) (430) (294) (76) (212)
Gain on sales of premises and equipment - (1) (170) (170) - -
Gain on sale of real estate owned and
investment property (48) (427) (265) - - -
Federal Home Loan Bank stock dividend (791) (831) (865) (451) (373) (787)
Net change in accrued interest receivable
and other assets over (under) dividends
payable, accrued interest payable, expenses
and other liabilities (1,696) 2,512 273 1,097 (1,004) (2,386)
---------------------------------------------------------------------------
Net cash provided by operating activities 7,978 11,040 6,975 4,756 2,134 4,157
---------------------------------------------------------------------------
Cash flows from investing activities:
Loans originated, net of principal repayments (22,239) 26,413 (29,565) (11,985) (9,619) (27,007)
Purchases of securities held-to-maturity (105,085) (66,408) - - - -
Proceeds from calls on securities
held-to-maturity 54,913 21,511 - - - -
Proceeds from sale of investment property - 956 - - - -
Principal repayments on securities held-
to-maturity 12,841 1,808 1,210 603 652 1,259
Principal repayments on securities available-
for-sale 96,515 34,460 34,973 15,412 3,091 22,652
Purchases of securities available-for-sale (337,004) (207,201) (182,597) (96,589) (45,631) (131,635)
Proceeds from sales of securities available-
for-sale 211,470 166,374 121,176 60,498 21,052 81,730
Purchases of premises and equipment (799) (1,873) (1,062) (348) (433) (1,147)
Proceeds from sales of premises and equipment 19 15 227 227 - -
Purchase of bank owned life insurance - (10,000) - - - -
---------------------------------------------------------------------------
Net cash used in investing activities (89,369) (33,945) (55,638) (32,182) (30,888) (54,148)
---------------------------------------------------------------------------
Subtotal, carried forward (81,391) (22,905) (48,663) (27,426) (28,754) (49,991)
---------------------------------------------------------------------------
(See accompanying notes to consolidated financial statements.)
</TABLE>
27
<PAGE>
Consolidated Statements of Cash Flows, Continued
- ------------------------------------------------
<TABLE>
<CAPTION>
Year ended Six months Year ended
December. 31, ended December 31, June 30,
(Dollars in thousands) 2003 2002 2001 2001 2000 2001
-----------------------------------------------------------------------------
(unaudited) (unaudited)
<S> <C> <C> <C> <C> <C> <C>
Subtotal, brought forward $ (81,391) $ (22,905) $ (48,663) $ (27,426) $ (28,754) $ (49,991)
Cash flows from financing activities:
Proceeds from exercise of stock options 547 995 412 176 210 446
Dividends paid (1,440) (322) - - - -
Repurchase of common stock (96) (375) (295) (156) (584) (723)
Net increase (decrease) in deposits 54,464 89,870 24,004 18,065 (2,531) 3,408
Net increase (decrease) in Federal Home
Loan Bank advances 2,500 (29,000) 3,523 (5,624) 7,321 16,468
Net increase (decrease) in securities sold
under agreements to repurchase 19,342 (29,223) 12,527 12,872 31,478 31,133
Net (decrease) increase in advance payments
by borrowers for taxes and insurance (450) (67) (146) (165) (240) (221)
---------------------------------------------------------------------------
Net cash provided by financing activities 74,867 31,878 40,025 25,168 35,654 50,511
Net increase (decrease) in cash and
cash equivalents (6,524) 8,973 (8,638) (2,258) 6,900 520
Cash and cash equivalents at beginning of
Period 20,595 11,622 20,260 13,880 13,360 13,360
---------------------------------------------------------------------------
Cash and cash equivalents at end of period $ 14,071 $ 20,595 $ 11,622 $ 11,622 $ 20,260 $ 13,880
===========================================================================
Supplemental disclosures of cash flow
information - cash paid during the period for:
Interest $ 23,238 $ 26,453 $ 33,290 $ 15,655 $ 17,674 $ 35,309
Federal income taxes 4,350 3,310 2,350 1,100 825 2,075
Supplemental schedule of non-cash
Operating activities:
Retirement of treasury stock in
retained earnings (1,237) - - - - -
Supplemental schedule of non-cash
investing activities:
Net mortgage loans transferred to real
estate owned 566 1,545 1,124 211 234 1,147
Mark-to-market on securities-
available-for-sale 1,752 (1,285) (894) 303 (3,320) (4,518)
Tax benefit of non-qualified
options exercised 115 69 110 110 - -
(See accompanying notes to consolidated financial statements.)
</TABLE>
28
<PAGE>
CASCADE FINANCIAL CORPORATION
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollars in thousands, except share amounts)
(1) Summary of Significant Accounting Policies
- ----------------------------------------------
The accounting and financial reporting policies of Cascade Financial
Corporation and subsidiaries (the "Corporation") conform to accounting
principles generally accepted in the United States of America and to general
practice within the financial institutions industry, where applicable. In
preparing the consolidated financial statements, management makes 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 income and expense. Actual results could
differ from those estimates.
The following is a description of the more significant policies, which the
Corporation follows in preparing and presenting its consolidated financial
statements.
(a) Basis of Presentation
- -------------------------
The consolidated financial statements include the accounts of the Corporation,
its subsidiaries, Cascade Bank (the "Bank") and the Bank's subsidiary, Cascade
Investment Services, Inc. All significant intercompany balances and
transactions have been eliminated in the consolidation. In January 2003, the
Financial Accounting Standards Board (FASB) issued Interpretation No. 46 (FIN
46), Consolidation of Variable Interest Entities and, in December 2003, issued
Revised interpretation No. 46 (FIN 46R), Consolidation of Variable Interest
Entities, which replaced FIN 46. Historically, issuer trusts that issued trust
preferred securities have been consolidated by their parent companies and trust
preferred securities have been treated as eligible for Tier 1 capital treatment
by bank holding companies under Federal Reserve Board (FRB) rules and
regulations relating to minority interests in equity accounts of consolidated
subsidiaries.
Applying the provisions of FIN 46R, we deconsolidated our issuer trust as of
December 31, 2003 and all periods in the consolidated financial statements have
been restated to reflect this change. In a Supervisory Letter dated July 2,
2003, the FRB stated that trust preferred securities continue to qualify as
Tier 1 capital until notice is given to the contrary. The FRB will review the
regulatory implications of any accounting treatment changes and will provide
further guidance if necessary or warranted.
(b) Cash Equivalents
- --------------------
The Corporation considers all interest-bearing deposits and short-term highly
liquid investment securities with an original maturity of three months or
less to be cash equivalents.
(c) Loans
- ---------
All of the Corporation's loans are located in Washington State, primarily in
the Puget Sound region. At December 31, 2003, the Corporation's loans were
principally secured by one-to-four-family residences (18%), multifamily
residences (15%), real estate construction (15%), consumer assets (6%),
and commercial real estate properties (15%). Accordingly, the ultimate
collectibility of the Corporation's loan portfolio is susceptible to
changes in the economic and real estate market conditions in the Puget
Sound region.
Business loans comprise 35% of the total loan portfolio. Most of the
business loans are secured. The security includes commercial property,
business inventories, commercial equipment and personal property of the
borrowers and/or guarantors. At December 31, 2003, $21.1 million in
commercial loans were unsecured. Home equity loans and lines of credit
account for the majority of the installment loan portfolio.
Real estate loans originated by the Corporation are generally secured by no
less than 80% of the lesser of the appraised value or purchase price of the
underlying property. The Corporation currently requires first mortgage,
residential customers to obtain private mortgage insurance on all loans above
an 80% loan-to-value ratio.
Loans are stated at principal amounts outstanding, net of deferred loan fees
and costs.
Interest Income
- ---------------
Interest is accrued only if deemed collectible. Accrual of interest income is
generally discontinued when a loan becomes 90 days past due and accrued
interest amounts are reversed. Once interest has been paid to date or
management considers the loan to be fully collectible, it is returned to
accrual status.
29
<PAGE>
CASCADE FINANCIAL CORPORATION
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollars in thousands, except share amounts)
Loan origination fees and certain direct origination costs are deferred and
amortized as an adjustment of the loans' yields over their contractual lives
using the effective interest method. In the event loans are sold, the remaining
net deferred loan origination fees or costs are recognized as a component of
the gains or losses on the sales of loans. When portfolio loans pay off before
their contractual maturity, the remaining deferred fees or costs are recognized
as interest income or expense.
Loan commitment fees are deferred until loans are funded, at which time they
are amortized into interest income using the effective interest method. If the
commitment period expires, the fees are recognized as service charges.
Impairment of Loans and Allowance for Loan Losses
- -------------------------------------------------
An allowance for loan losses is maintained at a level sufficient to provide for
losses based on management's evaluation of known and inherent risks in the loan
portfolio. This evaluation includes analyses of the fair value of the financial
condition of the borrower, collateral securing selected loans, consideration of
historical loss experience and management's projection of trends affecting
credit quality. Interest income is normally recognized on the accrual basis;
however, if a loan is impaired then interest income is recorded upon the
receipt of cash. The difference between interest income recognized on the
accrual basis and cash basis is not significant.
The Corporation reviews all single-family loans, all consumer loans and
multifamily and commercial real estate loans with outstanding principal
balances under $1.0 million for impairment as smaller balance homogeneous
loan groups. The Corporation considers a loan to be impaired when it becomes
nonaccrual; if it is a multifamily or commercial real estate loan less than 90
days delinquent and management believes that the borrower may be experiencing
financial difficulty based on indicators such as an inconsistent payment
pattern, low debt coverage ratio, high loan-to-value ratio; or if it is a
restructured debt. The Corporation bases the measurement of loan impairment for
all loans on the fair value of the loan's underlying collateral. If the
recorded investment in a loan exceeds the measure of impairment, the
Corporation recognizes the impairment by creating a valuation allowance with a
corresponding charge to the provision for loan losses.
Management believes the allowance for losses on loans is adequate. While
management uses available information to recognize losses on these assets,
future additions to the allowance will be necessary based on changes in
economic conditions, particularly in the western Washington region. In
addition, various regulatory agencies, as an integral part of their examination
process, periodically review the Corporation's allowance for losses on loans.
Such agencies may require the Corporation to recognize additions to the
allowance, or change valuations, based on their judgments about information
available to them at the time of their examinations.
(d) Sales of Loans
- ------------------
Loans Held-for-Sale
- -------------------
Any loan that management determines will not be held-to-maturity is classified
as held-for-sale at the time of origination. Loans held-for-sale are carried at
lower of cost or market value, determined on an aggregate basis. Unrealized
losses on such loans are included in gain on sale for loans held-for-sale. All
loans are sold without recourse.
Mortgage Loan Servicing Rights
- ------------------------------
The Corporation acquires mortgage servicing rights (MSR) through the
origination of mortgage loans and the sale of those loans with servicing rights
retained. The total cost of the mortgage loans sold is allocated to the MSR and
the loans based on their relative fair values. The Corporation assesses its MSR
for impairment based on the fair value of those rights. The carrying value of
the MSR is evaluated on a quarterly basis and any impairment is recognized
through a valuation allowance for each impaired stratum. For purposes of
measuring impairment, the Corporation stratifies its MSR by various risk
characteristics such as loan type, investor type, interest rate, and
origination date with appropriate prepayment assumptions for the various MSR
pools. Reversal of the allowance is based upon the recovery of the fair market
value of the amortized asset. The MSR are included in other assets and are
amortized as an offset to service charges in proportion to, and over, the
period of estimated net servicing income.
Loan servicing generally consists of collecting mortgage payments and
certain charges from borrowers, such as late payment fees, maintaining escrow
accounts, and disbursing payments to investors. Loan servicing income is
recognized when earned and is recorded to service charges. Loan servicing costs
are charged to expense as incurred.
The Corporation may sell loan servicing rights. Gains and losses from sales
of loan servicing rights are calculated using the specific identification of
the related carrying value.
30
<PAGE>
CASCADE FINANCIAL CORPORATION
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollars in thousands, except share amounts)
(e) Securities
- --------------
Debt and equity securities, including mortgage-backed securities (MBS), are
classified as trading, available-for-sale, or held-to-maturity. Securities
classified as trading are carried at fair value with unrealized gains and
losses reported in earnings. Securities available-for-sale are carried at
fair value, with unrealized gains and losses reported as a component of other
comprehensive income. Investment securities held-to-maturity are carried at
amortized cost or principal balance, adjusted for amortization of premiums
and accretion of discounts. Amortization of premiums and accretion of discounts
are calculated using a method that approximates the level yield method. The
Corporation has the ability, and it is management's intention, to hold such
securities until maturity.
(f) Real Estate Owned
- ---------------------
Real estate owned includes real estate acquired in settlement of loans. Real
estate owned is recorded at the lower of cost or fair value, based upon the
most recent appraisal, less estimated costs to sell. Any loss recorded at the
time a foreclosure occurs is classified as a charge-off against the allowance
for loan losses. Losses that result from the ongoing periodic valuation of
these properties are charged to operations in the period in which they are
identified. Real estate owned at December 31, 2003 and December 31, 2002 was
$474, and $461, respectively, and is included in other assets.
(g) Premises and Equipment
- --------------------------
Premises and equipment are stated at cost less accumulated depreciation.
Straight-line depreciation is provided over the estimated useful lives of the
respective assets. Leasehold improvements are amortized over the estimated
useful lives of the improvements, or terms of the related leases, whichever is
shorter.
(h) Federal Income Taxes
- ------------------------
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases. Deferred tax assets and liabilities are measured using enacted tax rates
expected to apply to taxable income in the years in which those temporary
differences are expected to be recovered or settled. The effect on the deferred
tax assets and liabilities of a change in tax rates is recognized in income in
the period that includes the enactment date.
(i) Stock-Based Compensation
- ----------------------------
The Corporation measures its employee stock-based compensation arrangements
using the provisions outlined in Accounting Principles Board (APB) Opinion No.
25, "Accounting for Stock Issued to Employees," which is an intrinsic value-
based method of recognizing compensation costs. As none of the Corporation's
stock options have an intrinsic value at grant date, no compensation cost has
been recognized for its stock option plans.
The Corporation applies Accounting Principles Board (APB) Opinion 25,
"Accounting for Stock Issued to Employees," in accounting for its stock
option plans. Had compensation cost on the fair value at the grant dates for
the Corporation's stock option plan been determined consistent with the
Statement of Financial Accounting Standards (SFAS) No. 123, "Accounting for
Stock Based Compensation," the Corporation's net income and earnings per
share would have been reduced to the pro forma amounts indicated below:
31
<PAGE>
CASCADE FINANCIAL CORPORATION
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollars in thousands, except share amounts)
Year Six months Year
ended ended ended
December 31, December 31, June 30,
2003 2002 2001 2001 2000 2001
---------------------------------------------------
(unaudited) (unaudited)
(Dollars in thousands, except share amounts)
Net income
As reported $9,599 $8,072 $5,617 $3,150 $2,099 $4,566
Less: SFAS 123
Compensation costs 140 49 140 63 53 127
Pro forma 9,459 8,023 5,477 3,087 2,046 4,439
Net income per common share
Basic
As reported 1.17 1.01 0.73 0.41 0.28 0.60
Pro forma 1.16 1.00 0.72 0.40 0.27 0.58
Diluted
As reported 1.13 0.98 0.70 0.39 0.26 0.57
Pro forma 1.12 0.97 0.68 0.38 0.26 0.55
The fair value of options granted under the Corporation's stock option plan was
$4.22, $3.31, $3.45, and $3.57 respectively for the years ended December 31,
2003, December 31, 2002, the six months ended December 31, 2001, and the year
ended June 30, 2001. The fair value is estimated on the date of grant using the
Black-Scholes model. The following weighted average assumptions were used for
December 31, 2003, December 31, 2002, December 31, 2001, and June 30, 2001:
risk-free interest rate of 1.00%, 1.25%, 1.75%, and 4.75%, an expected life
of eight years, cash dividends of $0.28 in 2003 and no expected cash dividends
for all other periods, and a volatility factor of 24%.
(j) Hedging/Derivatives
- -----------------------
The Bank's Asset/Liability Management Policy provides that to mitigate interest
rate risk, the Bank may enter into interest rate exchange agreements (swaps,
caps, and floors) with authorized dealers. Before instituting or reinstituting
the use of a particular derivative, the Management Committee and the Audit and
Finance Committee review the strategy and the risks associated with it.
The Corporation accounts for derivatives and hedging activities in
accordance with FASB Statement No. 133, Accounting for Derivative Instruments
and Certain Hedging Activities, as amended, which requires that all derivative
instruments be recorded on the balance sheet at their respective fair values.
On the date a derivative contract is entered into, the Corporation
designates the derivative as either a hedge of the fair value of a recognized
asset or liability or of an unrecognized firm commitment (fair value hedge), a
hedge of a forecasted transaction or the variability of cash flows to be
received or paid related to a recognized asset or liability (cash-flow hedge).
For all hedging relationships, the Corporation formally documents the hedging
relationship and its risk-management objective and strategy for undertaking the
hedge, the hedging instrument, the item, the nature of the risk being hedged,
how the hedging instrument's effectiveness in offsetting the hedged risk will
be assessed, and a description of the method of measuring ineffectiveness.
Changes in the fair value of a derivative that is highly effective and that is
designated and qualifies as a fair-value hedge, along with the loss or gain on
the hedged asset or liability or unrecognized firm commitment of the hedged
item that is attributable to the hedged risk, are recorded in earnings. Changes
in the fair value of a derivative that is highly effective as a cash-flow hedge
are recorded in other comprehensive income. The ineffective portion of the
change in fair value of a derivative instrument that qualifies as either a
fair-value hedge or a cash-flow hedge is reported in earnings. Changes in the
fair value of derivative trading instruments are reported in current period
earnings.
(k) Reclassifications
- ---------------------
Certain balances have been reclassified to conform to the 2003 presentation,
including share and per share amounts which have been restated to reflect the
5-for-4 stock split.
32
<PAGE>
CASCADE FINANCIAL CORPORATION
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollars in thousands, except share amounts)
(2) Securities
- --------------
A summary of securities at December 31, 2003 and December 31, 2002 follows:
<TABLE>
<CAPTION>
December 31, 2003 December 31, 2002
---------------------------------------------------------------------------------
Gross Gross
unreal- unreal-
Gross ized Gross ized
Amor- unreal- losses Amor- unreal- losses
tized ized Less than Fair tized ized Less than Fair
cost gain 1 Year value cost gain 1 Year value
---------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Securities available-for-sale:
MBS $ 70,200 $636 $ 313 $ 70,523 $ 89,145 $1,074 $ 146 $ 90,073
Agency notes 99,677 218 655 99,240 55,285 589 - 55,874
FHLB stock 14,741 - - 14,741 13,950 - - 13,950
Corporate/other 5,363 - 120 5,243 - - - -
---------------------------------------------------------------------------------
$189,981 $854 $1,088 $189,747 $158,380 $1,663 $ 146 $159,897
=================================================================================
Securities held-to-maturity:
MBS $ 12,588 $ 63 $ 323 $ 12,328 $ 4,212 $ 167 $ - $ 4,378
Agency notes 73,821 49 1,161 72,709 44,866 394 - 45,261
Corporate/other 310 - 3 307 310 - - 310
---------------------------------------------------------------------------------
$ 86,719 $112 $1,487 $ 85,344 $ 49,388 $ 561 $ - $ 49,949
=================================================================================
</TABLE>
At December 31, 2003, the unrealized loss on temporarily impaired
investments totaled $1.1 million for available-for-sale securities with a fair
value of $70.9 million and $1.5 million for held-to-maturity securities with a
fair value of $55.4 million. All were impaired for less than one year in both
categories. The majority of the impairment on available-for-sale securities was
in the Agency Notes category, which accounted for 60% of the total impairment.
As of December 31, 2003, the Bank had fifteen available-for-sale and eleven
held-to-maturity securities included in the temporarily impaired report,
compared to thirty-four available-for-sale and eleven held-to-maturity with
unrealized gains. The temporary impairment was less than 1% of the total book
value of investments. Temporarily impaired securities are a result of market
value changes and are expected to regain the lost value with market shifts;
other than temporarily impaired securities are a result of contractual failure
by the issuer and are not expected to rebound and are considered not
collectable. The bank had no securities with other-than-temporary impairments.
Certain investment securities shown above currently have fair values less
than amortized cost and therefore contain unrealized losses. The Corporation
has evaluated these securities and has determined that the decline in value is
temporary and is related to the change in market interest rates since purchase.
All are rated AAA by at least one major rating agency. The decline in value is
not related to any company or industry specific event. The Corporation
anticipates full recovery of amortized cost with respect to these securities
at maturity or sooner in the event of a more favorable market interest rate
environment.
As of December 31, 2003 and 2002, the Corporation was required to maintain
89,722 and 92,610 shares, respectively, of $100 par value FHLB stock.
Accrued interest receivable on securities and interest-bearing deposits was
$2,445 and $1,997 at December 31, 2003 and 2002, respectively.
Proceeds from the sale of securities available-for-sale including calls on
securities held-to-maturity and gross realized gains and losses are summarized
as follows for the year ended December 31, 2003, 2002, and 2001, for the six
months ended December 31, 2001, and 2000, and the year ended June 30, 2001.
There were no sales of securities available-for-sale for the year ended June
30, 2000.
Proceeds Gains Losses
-------- ------- ------
Year ended December 31, 2003 $266,383 $ 1,790 $ -
Year ended December 31, 2002 187,885 1,076 -
Year ended December 31, 2001 (unaudited) 121,176 542 112
Six months ended December 31, 2001 60,498 295 1
Six months ended December 31, 2000 (unaudited) 21,052 76 -
Year ended June 30, 2001 81,730 323 111
33
<PAGE>
CASCADE FINANCIAL CORPORATION
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollars in thousands, except share amounts)
The following table shows the contractual maturities of the Corporation's
securities available-for-sale at December 31, 2003:
Within Over one Over five Over
one to five to ten ten
year years years years Total
Amortized cost --------------------------------------------------
MBS $ - $ 922 $ - $ 69,278 $ 70,200
Agency notes 85 9,988 57,434 32,170 99,677
FHLB stock 14,741 - - - 14,741
Corporate/other - - 5,363 - 5,363
--------------------------------------------------
Total amortized cost $14,826 $10,910 $62,797 $101,448 $189,981
==================================================
Fair Value
MBS $ - $ 945 $ - $ 69,578 $ 70,523
Agency Notes 85 10,030 57,212 31,913 99,240
FHLB Stock 14,741 - - - 14,741
Corporate/Other - - 5,243 - 5,243
--------------------------------------------------
Total fair value $14,826 $10,975 $62,455 $101,491 $189,747
==================================================
The contractual maturities of the Corporations' securities held-to-maturity at
December 31, 2003 were all greater than seven years. Securities are classified
based upon contractual maturity dates. Actual maturities may differ from
contractual maturities because the borrowers have the right to prepay their
obligations. Available-for-sale securities pledged as collateral to secure
public deposits were $32,530 at December 31, 2003, and $10,729 at December 31,
2002. Securities of $54.2 million were pledged to the FHLB at December 31, 2003
and $16.3 million at December 31, 2002. In addition, $1.8 million was pledged
to a third party as collateral for derivatives at December 31, 2003.
(3) Loans and Allowance for Loan Losses
- ---------------------------------------
A summary of loans at December 31, 2003 and 2002 follows:
December 31, December 31,
2003 2002
-----------------------------
Business $204,446 $142,273
Real estate construction 93,704 104,790
Commercial real estate 83,856 63,108
Consumer 33,163 49,331
Residential real estate 105,565 122,669
Multifamily real estate 87,212 94,245
-----------------------------
Total loans 607,946 576,416
Loans in process (30,962) (20,669)
Deferred loan fees, net (2,179) (2,198)
-----------------------------
Loans $574,805 $553,549
=============================
Loans serviced for others $ 16,411 $ 46,521
Accrued interest on loans was $2,388 and $2,759 at December 31, 2003 and
December 31, 2002, respectively. Loans to officers and directors totaled
$3.3 million at December 31, 2003, and $1.8 million at December 31, 2002.
At December 31, 2003, the composition of the total loan portfolio, net of
loans in process, was as follows:
Fixed Adjustable
Rate Rate
Term to maturity ----------------------
Less than one year $ 7,816 $ 67,892
1-3 years 26,126 27,988
3-5 years 42,136 16,428
5-10 years 32,395 98,565
10-20 years 6,221 50,488
Over 20 years 4,391 196,538
----------------------
Total $119,085 $457,899
======================
34
<PAGE>
CASCADE FINANCIAL CORPORATION
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollars in thousands, except share amounts)
Nonaccrual loans totaled $1,921, $956, and $1,999 respectively, at December
31, 2003, December 31, 2002 and December 31, 2001. If interest on these
loans had been recognized, such income would have been $90, $32, and $87
respectively, for the periods ended December 31, 2003, 2002 and 2001. The
Corporation has no commitments to extend additional credit on loans that are
nonaccrual. At December 31, 2003, 2002 and 2001, loans totaling $11,969,
$24,564, and $16,669 were impaired, of which $0, $0, and $1,512 had
allocated allowances of $0, $0, and $480, respectively. The remaining
$11,969, $24,564, and $15,157 had no allowances allocated to them because
the value of the underlying collateral of the impaired loans was equal to or
exceeded the recorded investment. Of the $11,969, $24,564, and $16,669 of
impaired loans, $1,758, $677, and $1,401 were under foreclosure. The average
balance of impaired loans for the years ended December 31, 2003, December
31, 2002, and the six-month period ended December 31, 2001, respectively, was
$17,265, $19,524, and $8,853, and the Corporation recognized $1,250, $1,718,
and $746 of related interest income on such loans during the time such loans
were impaired.
At December 31, 2003, the Corporation had outstanding commitments of $7,244
to fund loans with fixed interest rates and $10,083 for loans with adjustable
rates.
The Corporation had non-mandatory forward commitments totaling $2,177 and
$8,083 to sell loans into the secondary market at December 31, 2003 and
December 31, 2002, respectively.
Commitments to extend credit are agreements to lend to a customer as long as
there is no violation of any condition established in the contract. Commitments
generally have fixed expiration dates or other termination clauses and may
require payment of a fee. Since many of the commitments are expected to expire
without being drawn upon, the total commitment amounts do not necessarily
represent future cash requirements. While approximately 100 percent of
commercial letters of credit are utilized, a significant portion of such
utilization is on an immediate payment basis. The Bank evaluates each
customer's creditworthiness on a case-by-case basis. The amount of collateral
obtained, if it is deemed necessary by the Bank upon extension of credit, is
based on management's credit evaluation of the borrower. Collateral held varies
but may include accounts receivable, inventory, property, plant, and equipment,
and income-producing commercial properties.
Standby letters of credit and financial guarantees written are conditional
commitments issued by the Bank to guarantee the performance of a customer to a
third party. Those guarantees are primarily issued to support public and
private borrowing arrangements, bond financing, and similar transactions. The
Bank underwrites its standby letters of credit using its policies and
procedures applicable to loans in general. Standby letters of credit are made
on an unsecured and secured basis. The Bank has not been required to perform on
any financial guarantees during the past two years. The Bank has not incurred
any significant losses on its commitments in 2003 or 2002.
A summary of the notional amount of the Bank's financial instruments with
off-balance sheet risk at December 31, 2003 follows:
LESS THAN 1-3 3-5 THERE-
ONE YEAR YEARS YEARS AFTER TOTAL
-----------------------------------------------
Commitments to extend credit $63,258 $15,891 $911 $27,873 $107,933
Standby letters of credit and
financial guarantees written 665 - - - 665
Unused commitments on bankcards - - - 9,324 9,234
-----------------------------------------------
Total $63,923 $15,891 $911 $37,197 $117,922
===============================================
A summary of the allowance for losses on loans follows:
Six months
Year ended ended Year ended
December 31, December 31, June 30,
2003 2002 2001 2001 2000 2001
------------------------------------------------------
(unaudited) (unaudited)
Balances at beginning
of year $6,872 $ 6,304 $5,342 $5,687 $5,004 $5,004
Provision for loss 1,275 1,895 1,370 810 420 980
Recoveries 315 114 25 13 19 32
Charge-offs (751) (1,441) (433) (206) (101) (329)
------------------------------------------------------
Balances at end
of year $7,711 $ 6,872 $6,304 $6,304 $5,342 $5,687
======================================================
35
<PAGE>
CASCADE FINANCIAL CORPORATION
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollars in thousands, except share amounts)
(4) Premises and Equipment
- --------------------------
A summary of premises and equipment follows:
Estimated December 31, December 31,
Useful lives 2003 2002
--------------------------------------------
Land $ 1,261 $ 1,261
Buildings 40 years 7,873 7,868
Leasehold improvements Lease term 1,644 1,589
Furniture and equipment 2-10 years 9,738 10,056
---------------------------
20,516 20,774
Accumulated depreciation
and amortization (11,929) (11,513)
---------------------------
$ 8,587 $ 9,261
===========================
(5) Deposits
- ------------
Deposits at December 31, 2003 and 2002 are summarized as follows:
December 31, December 31,
2003 2002
---------------------------
Noninterest-bearing checking accounts $ 39,275 $ 32,116
Interest-bearing checking accounts 23,652 22,454
Money market deposit accounts 120,569 102,674
Savings accounts 12,417 11,277
Certificates of deposit 368,401 341,329
---------------------------
$564,314 $509,850
===========================
Time deposit accounts in amounts of $100 thousand or more totaled $239.9
million and $200.8 million at December 31, 2003 and December 31, 2002,
respectively.
Deposit
Weighted accounts with Accrued
average interest balances in interest
rate on excess of payable on
deposits $100,000 deposits
--------------------------------------------
December 31, 2003 1.68% $323,901 $232
December 31, 2002 2.23% 264,857 159
A summary of interest expense on deposits follows:
Year ended Six months Year ended
Dec. 31, ended Dec. 31, June 30,
2003 2002 2001 2001 2000 2001
Checking and money -------------------------------------------------------
market accounts $ 1,604 $ 2,528 $ 3,513 $ 1,540 $ 2,752 $ 4,724
Savings accounts and
time deposits 9,369 10,002 14,126 6,495 7,749 15,381
-------------------------------------------------------
$10,973 $12,530 $17,639 $ 8,035 $10,501 $20,105
=======================================================
Maturities of time deposits at December 31, 2003 are as follows:
Years ending December 31,
2004 $252,255
2005 78,762
2006 7,225
2007 13,255
2008 16,901
Thereafter 3
--------
$368,401
========
36
<PAGE>
CASCADE FINANCIAL CORPORATION
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollars in thousands, except share amounts)
(6) Junior Subordinated Debentures Payable (Trust Preferred Securities)
- -----------------------------------------------------------------------
On March 1, 2000, $10 million of 11% Capital Securities due March 1, 2030 were
issued by a wholly owned business Trust whose common equity is 100% owned by
Cascade Financial Corporation. The Trust exists for the exclusive purposes of
issuing and selling the capital securities, using the proceeds from the sale of
the capital securities to acquire junior subordinated debentures payable,
issued by Cascade Financial Corporation, and engaging in only those other
activities necessary, advisable or incidental to the above. The Corporation
used the proceeds for general corporate purposes including stock repurchases
and investment in its subsidiary bank. As a result of the adoption of FIN 46R,
we deconsolidated the Trust and all periods in the consolidated financial
statements have been restated to reflect this change. The $10.3 million of
junior subordinated debentures issued by the Company to the Trust were
reflected as junior subordinated debentures payable in the consolidated balance
sheet at December 31, 2003. The junior subordinated debentures will mature on
March 1, 2030 unless redeemed prior to such date if certain conditions are met.
The Trust will redeem the trust preferred securities when we pay the junior
subordinated debentures at maturity or upon any earlier redemption of the
junior subordinated debentures.
Prior to December 31, 2003, the Trust was consolidated and was included in
liabilities in the consolidated balance sheet, as "Trust Preferred Securities."
The common securities and debentures, along with the related income effects
were eliminated in the consolidated financial statements.
In October 2003, Cascade entered into an interest rate swap agreement with a
third party. The swap has been designated as a hedge of the Corporation's
junior subordinated debentures. Under the terms of the agreement, Cascade will
receive an 11% fixed rate and pay a floating rate of USD-six month LIBOR-BBA
plus 520 basis points. The initial rate on the swap is 6.38%. The floating rate
will reprice the first calendar day of each March and September. The unrealized
loss on the interest rate swap was $98,000 as of December 31, 2003. Unrealized
gains or losses on the interest rate swap are recorded as other assets or
liabilities with the corresponding change in the amount of liability for the
junior subordinated debentures. The change in unrealized gains or losses on the
interest rate swap is offset by the corresponding changes in the unrealized
gains or losses on junior subordinated debentures in the accompanying
Consolidated Statements of Operations.
(7) FHLB Advances
- -----------------
FHLB advances are summarized as follows:
December 31, December 31,
2003 2002
-------------------------------------------
Weighted Weighted
average average
interest interest
Maturity date Amount rate Amount rate
At December 31, -------------------------------------------
2003 $ - -% $ 27,500 6.33%
2004 65,000 2.72% 25,000 6.45%
2005 45,000 6.27% 45,000 6.27%
2006 21,000 4.77% 21,000 4.77%
2007 20,000 6.37% 30,000 4.65%
2008 - -% - -%
Thereafter 49,000 5.80% 49,000 5.80%
-------------------------------------------
$200,000 4.85% $197,500 5.78%
===========================================
Six months
Year ended ended Year ended
December 31, December 31, June 30,
2003 2002 2001 2001
Maximum amount of outstanding -------------------------------------------
FHLB advances at any month end $211,750 $226,500 $235,322 $236,712
Average amount of outstanding
FHLB advances during the year 194,229 203,022 229,314 221,075
FHLB advances are collateralized by otherwise unencumbered permanent
residential mortgages and investment grade securities. Federal statute
requires all members of the FHLB to maintain collateral on FHLB borrowings
and advances equivalent to the amount borrowed on a daily basis. The Bank was
37
<PAGE>
CASCADE FINANCIAL CORPORATION
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollars in thousands, except share amounts)
out of compliance with the terms of its collateral agreement for a brief period
during the year. The Bank has received a letter from the FHLB requesting
internal controls to ensure an effective collateral monitoring discipline.
The Corporation has $145 million in fixed-rate advances as of December 31,
2003 where the FHLB has the option to convert these advances to variable rate
advances after a specified period.
At December 31, 2003, the Bank had an unused line of credit from the FHLB of
$110.0 million. The Bank's credit line with the FHLB is on 35% of total assets
or up to approximately $310.0 million.
(8) Securities Sold Under Agreements to Repurchase and Lines of Credit
- ----------------------------------------------------------------------
The Corporation enters into sales of securities under agreements to repurchase
(reverse repurchase agreements) that are treated as financing arrangements.
Accordingly, the obligations to repurchase securities sold are reflected as
a liability in the consolidated balance sheets, and the securities underlying
the agreements remain in the asset accounts. The securities underlying the
agreements are under the Corporation's control and are held by nationally
known government security dealers who are recognized as primary dealers by
the Federal Reserve Board, or other investment banking firms approved by the
Corporation's Board of Directors. Such agreements typically have maturities
ranging from 30 to 91 days.
Securities sold under agreements to repurchase the same securities consist
of agency notes and/or securities summarized as follows:
Underlying securities
---------------------
Weighted Book value,
average including
Balance interest accrued Market
outstanding rate interest value
-----------------------------------------------
December 31, 2003 $39,911 1.17% $44,046 $43,002
December 31, 2002 20,569 1.49% 20,586 20,317
Financial data pertaining to reverse repurchase agreements follows:
December 31, December 31,
2003 2002
Maximum amount of outstanding agreements -----------------------------
at any month-end $40,587 $49,666
Average amount of outstanding agreements
during the year 35,334 34,415
The Corporation has Fed Funds borrowing lines with two of its correspondent
banks. During the year ended December 31, 2003, neither of these lines was
used.
(9) Federal Income Taxes
- ------------------------
Federal income tax expense (benefits) includes the following components:
Year ended Six months ended Year ended
December 31, December 31, June 30,
2003 2002 2001 2001 2000 2001
-----------------------------------------------------------------
(unaudited) (unaudited)
Current $4,073 $3,980 $2,552 $1,696 $1,033 $1,888
Deferred 236 (205) 322 (98) 49 469
----------------------------------------------------------------
$4,309 $3,775 $2,874 $1,598 $1,082 $2,357
================================================================
For the year ended December 31, 2003, the Corporation's effective tax rate
was 31% and 32% for the year ended December 31, 2002. Tax benefits related to
interest on tax-exempt loans and increases in cash surrender value of bank
owned life insurance accounted for the differences in the effective tax rates
in both years.
38
<PAGE>
CASCADE FINANCIAL CORPORATION
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollars in thousands, except share amounts)
Income tax expense differs from that computed by applying the U.S. federal
income tax rate of 34% to pretax income for the years ended December 31 as a
result of the following:
2003 2002 2001
---------------------------
Computed "expected" tax expense $4,729 $4,028 $2,887
Bank owned life insurance (184) (27) -
Tax exempt interest (89) (79) -
Other, net (147) (147) (13)
---------------------------
$4,309 $3,775 $2,874
Under certain provisions of the Internal Revenue Code, the Corporation was
allowed a statutory bad debt deduction (based upon a percentage of taxable
income before such deduction) for additions to tax bad debt reserves
established for the purpose of absorbing losses on loans or property acquired
through foreclosure. Savings banks are not required to provide a deferred tax
liability for additions to the tax bad debt reserve accumulated as of December
31, 1987, which amounts to $473 for the Corporation. This amount represents
allocations of income to bad debt deductions for tax reporting purposes only
Reduction of amounts so allocated for purposes other than to tax bad debt
losses will create income for tax reporting purposes only, which will be
subject to the then current corporate income tax rate.
The following table presents major components of the net deferred tax
liability resulting from differences between financial reporting and tax
bases at December 31, 2003, and December 31, 2002:
December 31, December 31,
2003 2002
Deferred tax assets: ---------------------------
Securities available-for-sale $ 80 $ -
Loans 2,539 2,125
---------------------------
Gross deferred tax assets 2,619 2,125
Deferred tax liabilities:
Deferred loan fees (745) (861)
Securities available-for-sale - (516)
Premises and equipment (200) (201)
FHLB stock (2,271) (2,002)
Other (80) (54)
---------------------------
Gross deferred tax liabilities (3,296) (3,634)
---------------------------
Net deferred tax asset (liability) $ (677) $(1,509)
===========================
A valuation allowance for deferred tax assets was not considered necessary
at December 31, 2003 or 2002. Management believes the Corporation will fully
realize its gross deferred income tax assets as of December 31, 2003 and 2002,
based upon its deferred income tax liabilities that will reverse previous taxes
paid and its current and expected future levels of taxable income.
39
<PAGE>
CASCADE FINANCIAL CORPORATION
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollars in thousands, except share amounts)
(10) Earnings Per Share
- -----------------------
<TABLE>
<CAPTION>
The following table presents EPS information:
Year ended Six months ended Year ended
December 31, December 31, June 30,
2003 2002 2001 2001 2000 2001
----------------------------------------------------------------------------
(unaudited) (unaudited)
<S> <C> <C> <C> <C> <C> <C>
Net income $ 9,599 $ 8,072 $ 5,617 $ 3,150 $ 2,099 $ 4,566
Common shares
outstanding (basic) 8,184,455 7,997,713 7,645,324 7,715,611 7,581,665 7,602,461
Effect of dilutive stock options 277,048 263,735 425,639 366,223 432,709 432,006
----------------------------------------------------------------------------
Common shares
outstanding (diluted) 8,461,503 8,261,448 8,070,963 8,081,834 8,014,374 8,034,468
===========================================================================
EPS, basic $ 1.17 $ 1.01 $ 0.73 $ 0.41 $ 0.28 $ 0.60
EPS, diluted 1.13 0.98 0.70 0.39 0.26 0.57
</TABLE>
For purposes of calculating basic and diluted earnings per share, the
numerator of net income is the same. There were 69,199, 73,164, 176,312,
and 207,567 outstanding options to purchase common stock at December 31,
2003, December 31, 2002, December 31, 2001, and June 30, 2001,
respectively that are considered nondilutive and have been excluded from
the above calculation. Nondilutive options have an exercise price that
is greater than the current market price of the stock. Certain share and
per share amounts have been restated to reflect the 5-for-4 stock split.
(11) Stockholders' Equity
- -------------------------
(a) Restrictions on Dividends
- -----------------------------
Current regulations allow the Bank to pay dividends on its stock if its
regulatory capital would not thereby be reduced below the amount required
for the statutory capital requirements set by the Federal Deposit Insurance
Corporation (FDIC).
(b) Regulatory Capital
- ----------------------
At December 31, 2003, banking regulations required institutions to have a
minimum total risk-based capital to risk-weighted assets ratio of 8% and a Tier
1 (core) capital to average total assets ratio of 4%.
At December 31, 2003, the Bank was in compliance with the regulatory
requirements for well-capitalized institutions. As of January 31, 2003, the
most recent notification from the FDIC categorized the Bank as well capitalized
under the regulatory framework. There are no conditions or events since the
notification that management believes have changed the Bank's category.
<TABLE>
<CAPTION>
Minimum
requirements
for capital Well-capitalized
Actual adequacy requirements
--------------------------------------------------------
Amount Ratio Amount Ratio Amount Ratio
--------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
December 31, 2003:
Total risk-based capital to risk-weighted assets (1) $80,588 13.22% $48,759 8.00% $60,949 10.00%
Tier I (core) capital to risk-weighted assets 72,970 11.97% 24,380 4.00% 36,569 6.00%
Tier I (core) capital to average total assets 72,970 8.34% 35,000 4.00% 43,750 5.00%
December 31, 2002:
Total risk-based capital to risk-weighted assets (1) 71,336 13.11% 43,516 8.00% 54,395 10.00%
Tier I (core) capital to risk-weighted assets 64,536 11.86% 21,758 4.00% 32,637 6.00%
Tier I (core) capital to average total assets 64,536 8.07% 32,007 4.00% 40,009 5.00%
</TABLE>
The Corporation, as a bank holding company regulated by the Federal Reserve, is
also subject to capital requirements that are similar to those for Cascade
Bank. The Corporation is well capitalized under Federal Reserve guidelines at
December 31, 2003 with a Tier 1 ratio of 8.49% and a risk-based ratio of
13.42%.
- ------------------
(1) The FDIC requires institutions to maintain Tier I capital of not less than
one-half of total capital.
40
<PAGE>
CASCADE FINANCIAL CORPORATION
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollars in thousands, except share amounts)
(12) Mortgage Servicing Rights
- ------------------------------
A summary of capitalized mortgage servicing rights, included in other assets,
at December 31, 2003, and December 31, 2002, follows:
December 31, December 31,
2003 2002
---------------------------
Balance at beginning of year $ 310 $ 497
Additions - -
Amortization (230) (187)
Allowance for losses - -
---------------------------
Balance at end of year $ 80 $ 310
===========================
(13) Employee Benefit Plans
- ---------------------------
(a) Savings Plan
- ----------------
The Corporation maintains a savings plan under section 401(k) of the Internal
Revenue Code, covering substantially all full time employees. Under the plan,
employee contributions are matched by the Corporation at a rate of 50% up to
$12,000 contributed. Such matching becomes vested over a period of five years
of credited service. Employees may make investments in various stock, fixed
income or money market plans, or may purchase stock in the Corporation. The
Corporation contributed $188, $92, $64, and $106 to the plan for the years
ended December 31, 2003 and 2002, the six months ended December 31, 2001 and
the year ended June 30, 2001, respectively.
(b) Employee Stock Ownership Plan
- ---------------------------------
The Corporation established an employee stock ownership plan (ESOP) which
became effective on July 1, 1992 for employees of the Corporation, the Bank,
and its subsidiary who have at least one year of continuous service. The
Corporation pays all ESOP expenses. The shares of Cascade Financial Corporation
stock purchased by the ESOP are held in a suspense account for allocation among
the participants. Benefits become 20% vested after the third year of service
with an additional 20% vesting each year thereafter until 100% vesting after
seven years. Allocations to individual participant's accounts are based on
total compensation during the year. Forfeitures are reallocated annually among
remaining participating employees. For the years ended December 31, 2003 and
2002, the six months ended December 31, 2001, and the year ended June 30, 2001,
the Corporation contributed $54, $112, $55 and $108, respectively, to the ESOP.
Allocated and unallocated shares at December 31, 2003 were 187,517 and 0,
respectively. The Corporation has the right of first refusal to purchase the
allocated shares of separated employees.
(c) Employee Stock Purchase Plan
- --------------------------------
The Corporation maintains an employee stock purchase plan, under the terms of
which 182,353 shares of common stock have been authorized for issuance. The
plan allows employees of the Corporation with three months of service the
opportunity to purchase common stock through accumulated salary deductions
during each offering period. On the first day of each six-month offering period
(January 1 and July 1 of each year), eligible employees who elect to
participate are granted options to purchase a limited number of shares and
unless the participant withdraws from the plan, the option is automatically
exercised on the last day of each offering period. The aggregate number of
shares to be purchased in any given offering is determined by dividing the
accumulated salary deduction for the period by the lower of 85% of the market
price of a common share at the beginning or end of an offering period.
(d) Stock Options
- -----------------
The Corporation maintains stock option plans pursuant to which shares of Common
Stock have been authorized for issuance to certain key employees and directors
of the Corporation and its subsidiaries upon exercise of stock options. The
options granted under these plans are, in general, exercisable under a vesting
schedule whereby all options become exercisable over seven years, and expire
not more than ten years after the date of grant.
All options granted have limited rights that enable a holder upon a change
in control of the Corporation, to elect to receive cash equal to the difference
41
<PAGE>
CASCADE FINANCIAL CORPORATION
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollars in thousands, except share amounts)
between the exercise price of the option and the fair market value of the
common stock on the date of exercise. At December 31, 2003 and December 31,
2002, 243,842 and 238,586 shares, respectively, were fully exercisable.
Changes in total options outstanding for the years ended December 31, 2003
and 2002, the six months ended December 31, 2001, and the year ended June 30,
2001 are as follows:
Shares Weighted average
under exercise price of
option option shares
Year ended December 31, 2003
----------------------------------
Outstanding at beginning of year 576,100 $ 7.23
Granted during year 96,100 12.34
Exercised during year (115,619) 3.77
Forfeited during year (16,739) 6.85
5-for-4 stock split 114,985 -
----------------------------------
Outstanding at end of year 654,827 $ 7.24
==================================
Year ended December 31, 2002
----------------------------------
Outstanding at beginning of year 855,216 $ 5.49
Granted during year 109,802 8.81
Exercised during year (324,540) 2.83
Forfeited during year (64,378) 8.96
----------------------------------
Outstanding at end of year 576,100 $ 7.23
==================================
Six months ended December 31, 2001
----------------------------------
Outstanding at beginning of year 834,672 $ 5.85
Granted during year 13,445 8.11
Exercised during year (54,429) 3.33
10% stock dividend 73,987 -
Forfeited during year (12,459) 8.19
----------------------------------
Outstanding at end of year 855,216 $ 5.49
==================================
Year ended June 30, 2001
----------------------------------
Outstanding at beginning of year 864,272 $ 5.02
Granted during year 210,080 7.49
Exercised during year (162,318) 2.01
Forfeited during year (77,362) 9.07
----------------------------------
Outstanding at end of year 834,672 $ 5.85
==================================
Financial data pertaining to outstanding stock options were as follows at
December 31, 2003:
Weighted
average
Weighted exercise
Weighted average Number price of
average exercise of exer- exer-
Number of remaining price of cisable cisable
Ranges of option contractual option option option
Exercise prices shares life shares shares shares
- -------------------------------------------------------------------------------
$3.47 - 5.54 103,616 $ 4.84 $ 4.77 56,877 $ 4.35
5.55 - 5.57 137,501 7.07 5.55 46,438 5.55
5.58 - 6.68 131,273 6.17 5.92 64,394 5.94
6.92 - 8.58 132,785 6.91 7.96 39,699 8.27
8.65 - 14.82 149,652 7.96 11.03 36,434 8.65
3.47 - 14.82 654,827 $ 6.71 $ 7.24 243,842 $ 6.28
(14) Fair Value of Financial Instruments
- ----------------------------------------
The fair value estimates presented below are subjective in nature, involve
uncertainties and matters of significant judgment and, therefore, are not
necessarily indicative of the amounts the Corporation could realize in a
current market exchange. The Corporation has not included certain material
items in its disclosure, such as the value of the long-term relationships
with the Corporation's lending and deposit customers since this is an
intangible and not a financial instrument. Additionally, the estimates do not
include any tax ramifications. There may be inherent weaknesses in any
calculation technique, and changes in the underlying assumptions used,
including discount rates and estimates of future cash flows that could
materially affect the results. For all of these reasons, the aggregation
42
<PAGE>
CASCADE FINANCIAL CORPORATION
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollars in thousands, except share amounts)
of the fair value calculations presented herein do not represent, and
should not be construed to represent, the underlying value of the
Corporation.
The following table presents a summary of the fair value of the
Corporation's financial instruments:
December 31, December 31,
2003 2002
Carrying Estimated Carrying Estimated
Value fair value value fair value
--------------------------------------------
Financial assets:
Cash and cash equivalents $ 14,071 $ 14,071 $ 20,595 $ 20,595
Securities available-for-sale 189,747 189,747 159,897 159,897
Securities held-to-maturity 86,719 85,344 49,388 49,949
Loans, net 567,094 570,799 546,677 561,383
Servicing rights 80 80 310 357
Financial liabilities:
Deposit accounts 564,314 566,760 509,850 512,680
Borrowings 239,911 251,021 218,069 236,008
Junior subordinated debentures
payable (1) 10,212 10,212 10,310 10,310
Mark-to-market on swap 98 98 - -
- ---------------------
(1) Net of $98,000 mark-to-market on swap (see note 6)
Cash and Cash Equivalents
- -------------------------
The carrying amount represents fair value.
Securities Including Mortgage Backed Securities
- -----------------------------------------------
Fair values are based on quoted market prices or dealer quotations.
Loans
- -----
Fair values are estimated using current market interest rates to discount
future cash flows for each of fifteen different loan segments. Interest rates
used to discount the cash flows are based on U.S. Treasury yields or other
market interest rates with appropriate spreads for each segment. The spread
over the treasury yields or other market rates is used to account for
liquidity, credit quality and higher servicing costs. Prepayment rates are
based on expected future prepayment rates or where appropriate and available,
market prepayment rates.
Deposit Accounts
- ----------------
The fair value of deposits with no stated maturity, such as checking accounts,
money market deposit accounts and savings accounts, equals the amount payable
on demand. The fair value of certificates of deposits is calculated based on
the discounted value of contractual cash flows. The discount rate is equal to
the rate currently offered on similar products.
Borrowings
- ----------
The fair value is calculated based on the discounted cash flow method, adjusted
for market interest rates and terms to maturity.
Junior Subordinated Debentures Payable (Trust Preferred Securities)
- -------------------------------------------------------------------
The fair value is calculated based on the discounted cash flow method, adjusted
for market interest rates and terms to maturity.
(15) Contingencies
- ------------------
The Corporation is a defendant in various legal proceedings arising in
connection with its business. It is the opinion of management that the
financial position and the results of operations of the Corporation will
not be materially adversely affected by the final outcome of these legal
proceedings and that adequate provision has been made in the accompanying
consolidated financial statements.
At periodic intervals, the Federal Deposit Insurance Corporation and the
Washington State Department of Financial Institutions routinely examine the
Corporation's financial statements as part of their legally prescribed
oversight of the banking industry. Based on these examinations, the regulators
can direct that the Corporation's financial statements be adjusted in
accordance with their findings.
The Bank has also established Fed funds borrowing lines with two of its
larger correspondent banks. During the years ended December 31, 2003 and 2002,
these lines were not used.
43
<PAGE>
CASCADE FINANCIAL CORPORATION
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollars in thousands, except share amounts)
(16) Subsequent Events
- ----------------------
On February 11, 2004, the Corporation signed a Definitive Merger Agreement to
acquire Issaquah Bancshares (Issaquah) and its operating subsidiary, Issaquah
Bank. Issaquah is a $128 million asset bank holding company
headquartered in Issaquah, Washington.
(17) Condensed Financial Information of Cascade Financial Corporation
- ---------------------------------------------------------------------
Following are the condensed financial statements of Cascade Financial
Corporation (parent only) for the period indicated:
Balance Sheet
- -------------
December 31, December 31,
2003 2002
Assets: ---------------------------
Cash $ 1,272 $ 964
Investment in subsidiary 72,978 64,536
Other assets 1,127 1,165
---------------------------
$75,377 $66,665
===========================
Liabilities and stockholders' equity:
Other liabilities $ 1,053 $ 716
Junior subordinated debentures payable 10,212 10,310
Stockholders' equity 64,112 55,639
---------------------------
$75,377 $66,665
===========================
<TABLE>
<CAPTION>
Statement of Operations
- -----------------------
For the Six months For the
year ended ended year ended
December 31, December 31, June 30,
2003 2002 2001 2001 2000 2001
-----------------------------------------------------------------
(unaudited) (unaudited)
<S> <C> <C> <C> <C> <C> <C>
Equity in undistributed net income
of the subsidiary $10,542 $ 9,113 $ 6,653 $ 3,740 $ 2,548 $ 5,462
Interest income - junior
subordinated debentures 34 34 60 17 - 42
Operating expenses (429) (464) (476) (330) (88) (234)
Interest expense - junior
subordinated debentures (1,034) (1,148) (1,154) (581) (593) (1,166)
-----------------------------------------------------------------
Income before Federal income taxes 9,113 7,535 5,083 2,846 1,867 4,104
Income tax benefit 486 537 534 304 232 462
-----------------------------------------------------------------
Net income $ 9,599 $ 8,072 $ 5,617 $ 3,150 $ 2,099 $ 4,566
=================================================================
</TABLE>
44
<PAGE>
CASCADE FINANCIAL CORPORATION
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollars in thousands, except share amounts)
<TABLE>
<CAPTION>
Statement of Cash Flows
- -----------------------
For the Six months For the
year ended ended year ended
December 31, December 31, June 30,
2003 2002 2001 2001 2000 2001
-----------------------------------------------------------------------
(unaudited) (unaudited)
<S> <C> <C> <C> <C> <C> <C>
Cash flows from operating activities:
Net income $ 9,599 $ 8,072 $ 5,617 $ 3,150 $ 2,099 $ 4,566
Adjustments to reconcile net income to
net cash (used in) operating activities:
Equity in net income of subsidiaries (10,542) (9,113) (6,653) (3,740) (2,548) (5,462)
Increase (decrease) in other assets 38 311 (276) (295) 62 85
(Decrease) increase in other liabilities (15) 109 (33) 4 46 9
-----------------------------------------------------------------------
Net cash used in operating activities (920) (621) (1,345) (881) (341) (802)
Cash flows from investing activities:
Dividends received from subsidiaries 2,100 700 1,600 700 800 1,700
-----------------------------------------------------------------------
Net cash provided (used)
by investing activities 2,100 700 1,600 700 800 1,700
Cash flows from financing activities:
Repurchase of common stock (89) (375) (295) (156) (584) (723)
Proceeds from exercise of stock options 656 1,064 415 176 210 446
Dividends paid (1,439) (322) - - - -
-----------------------------------------------------------------------
Net cash provided by
financing activities (872) 367 120 20 (374) (277)
-----------------------------------------------------------------------
Net increase (decrease) in cash and cash
equivalents 308 446 375 (161) 85 621
-----------------------------------------------------------------------
Cash and cash equivalents:
Beginning of year 964 518 143 679 58 58
-----------------------------------------------------------------------
End of year $ 1,272 $ 964 $ 518 $ 518 $ 143 $ 679
=======================================================================
</TABLE>
(18) Lines of Business
- ----------------------
The Corporation's sole operating subsidiary is Cascade Bank, which is managed
along five major lines of business: business banking, retail banking,
construction lending, income property lending and residential lending. The
administrative group, although not considered a line of business, is
responsible for the management of investments, interest rate risk, marketing,
data processing and regulatory and stockholder reporting. The financial
performance of these business lines is measured by the Corporation's
profitability reporting processes, which utilize various management accounting
techniques to ensure that each business line's financial results reflect the
underlying performance of that business.
Each line of business segment is managed by a senior executive. Back office
support is provided to each segment through executives responsible for
information systems, finance and administration.
The principal activities conducted by Business Banking are the origination
and servicing of commercial business loans and associated merchant services.
Retail Banking includes all deposit products, with their related fee income,
and all consumer loan products such as home equity and installment loans and
credit card products. The Construction unit provides financing to builders and
developers for residential construction and land acquisition and development.
The Income Property unit originates loans secured by multifamily properties and
commercial real estate. The Residential unit's activities are the origination
of single-family loans and the associated loan servicing activities.
The Bank's reportable business segments are the strategic lines of business
noted above, which are managed by the Management Committee, under the direction
of the President and Chief Executive Officer. The Management Committee, which
is the senior decision making group of the Bank, is comprised of eight members
including the President and Chief Executive Officer. To better assess the
contribution of its various business lines, the Bank generates segment results
that include balances directly attributable to business line activities.
Expenses or activities not directly controlled by business unit managers
are allocated to the Administrative unit. In this way, management can assess
the performance of a particular business. The Bank is constantly analyzing its
line of business performance and developing better ways to measure
profitability.
The accounting policies of the segments are the same as those described in
"Note 1: Summary of Significant Accounting Policies." Direct revenues and
expenses are allocated to business segments in determining their net income.
45
<PAGE>
CASCADE FINANCIAL CORPORATION
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollars in thousands, except share amounts)
Corporate overhead, centralized support costs and other costs are assigned
to the Administration unit. The Corporation evaluates performance based on
net income of the respective business segments. Depreciation is allocated
to the segments based upon the utilization of the assets by the segments.
All depreciating assets are included in Administration's total assets.
The organizational structure of the Bank and the allocated methodologies it
employs result in business line financial results that are not necessarily
comparable across companies. As such, the Bank's business line performance
may not be directly comparable with similar information from other financial
institutions.
<TABLE>
<CAPTION>
Year Ended December 31, 2003
- ----------------------------
Resi- Constr- Income Admin-
Business dential uction Property Consumer istration Total
-------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Condensed income statement
Net interest income after
provision for loan losses $ 7,723 $ 1,334 $ 3,683 $ 6,331 $ 1,521 $ 5,743 $ 26,335
Other income 50 872 8 3 1,744 2,629 5,306
Other expense 3,050 1,736 1,112 1,756 1,707 8,372 17,733
---------------------------------------------------------------------------
Income before income tax 4,723 470 2,579 4,578 1,558 - 13,908
Federal income taxes 1,457 159 801 1,414 478 - 4,309
---------------------------------------------------------------------------
Net income $ 3,266 $ 311 $ 1,778 $ 3,164 $ 1,080 $ - $ 9,599
===========================================================================
At December 31, 2003
Total assets $204,446 $105,565 $62,742 $171,068 $33,163 $308,236 $885,220
</TABLE>
<TABLE>
<CAPTION>
Year Ended December 31, 2002
- ----------------------------
Resi- Constr- Income Admin-
Business dential uction Property Consumer istration Total
-------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Condensed income statement
Net interest income after
provision for loan losses $ 5,297 $ 1,961 $ 3,931 $ 5,745 $ 2,019 $ 5,176 $ 24,129
Other income 69 812 - 7 1,308 1,843 4,039
Other expense 2,487 2,015 1,163 1,832 1,805 7,019 16,321
---------------------------------------------------------------------------
Income before income tax 2,879 758 2,768 3,920 1,522 - 11,847
Federal income taxes 917 242 882 1,250 484 - 3,775
---------------------------------------------------------------------------
Net income $ 1,962 $ 516 $ 1,886 $ 2,670 $ 1,038 $ - $ 8,072
===========================================================================
At December 31, 2002
Total assets $142,273 $122,669 $84,121 $157,353 $49,331 $248,716 $804,463
</TABLE>
<TABLE>
<CAPTION>
Six Months Ended December 31, 2001
- ----------------------------------
Resi- Constr- Income Admin-
Business dential uction Property Consumer istration Total
-------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Condensed income statement
Net interest income after
provision for loan losses $ 2,085 $ 1,244 $ 1,968 $ 1,650 $ 746 $ 2,699 $ 10,392
Other income 21 410 - 6 656 724 1,817
Other expense 975 948 495 800 820 3,423 7,461
---------------------------------------------------------------------------
Income before income tax 1,131 706 1,473 856 582 - 4,748
Federal income taxes 380 238 496 288 196 - 1,598
---------------------------------------------------------------------------
Net income $ 751 $ 468 $ 977 $ 568 $ 386 $ - $ 3,150
===========================================================================
At December 31, 2001
Total assets $125,342 $152,727 $75,911 $172,671 $58,381 $177,291 $762,323
</TABLE>
46
<PAGE>
CASCADE FINANCIAL CORPORATION
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollars in thousands, except share amounts)
<TABLE>
<CAPTION>
Year Ended June 30, 2001
- ------------------------
Resi- Constr- Income Admin-
Business dential uction Property Consumer istration Total
-------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Condensed income statement
Net interest income after
provision for loan losses $ 3,573 $ 2,713 $ 3,824 $ 2,687 $ 1,331 $ 4,453 $ 18,581
Other income 73 533 - 5 1,212 820 2,643
Other expense 1,992 2,647 809 1,724 1,856 5,273 14,301
---------------------------------------------------------------------------
Income before income tax 1,654 599 3,015 968 687 - 6,923
Federal income taxes 562 204 1,025 329 237 - 2,357
---------------------------------------------------------------------------
Net income $ 1,092 $ 395 $ 1,990 $ 639 $ 450 $ - $ 4,566
===========================================================================
At June 30, 2001
Total assets $113,707 $161,729 $58,796 $164,274 $60,406 $174,465 $733,377
</TABLE>
(19) Selected Quarterly Financial Data (Unaudited)
- --------------------------------------------------
Quarter Ended
Mar 31, June 30, Sept 30, Dec 31,
2003 2003 2003 2003
-----------------------------------------
Interest income $12,748 $12,532 $12,506 $12,577
Interest expense 6,018 5,821 5,660 5,254
Net interest income 6,730 6,711 6,846 7,323
Provision for loan losses 375 300 300 300
Other income 1,615 1,451 1,353 887
Other expense 4,594 4,398 4,333 4,409
Income before Federal income taxes 3,376 3,464 3,566 3,501
Federal income taxes 1,072 1,105 1,133 999
Net income 2,304 2,359 2,433 2,502
Earnings per share, basic .28 .29 .30 .30
Earnings per share, diluted .28 .28 .29 .29
Quarter Ended
Mar 31, June 30, Sept 30, Dec 31,
2002 2002 2002 2002
-----------------------------------------
Interest income $13,373 $13,298 $12,748 $13,051
Interest expense 6,919 6,719 6,456 6,352
Net interest income 6,454 6,579 6,292 6,699
Provision for loan losses 700 420 375 400
Other income 972 893 1,146 1,028
Other expense 3,975 4,134 4,098 4,114
Income before Federal income taxes 2,751 2,918 2,965 3,213
Federal income taxes 903 906 907 1,058
Net income 1,848 2,012 2,058 2,155
Earnings per share, basic .24 .25 .26 .26
Earnings per share, diluted .22 .24 .25 .26
47
<PAGE>
CASCADE FINANCIAL CORPORATION
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollars in thousands, except share amounts)
Quarter Ended
Sept 30, Dec 31,
2001 2001
--------------------
Interest income $13,937 $13,537
Interest expense 8,614 7,658
Net interest income 5,323 5,879
Provision for loan losses 270 540
Other income 896 921
Other expense 3,708 3,753
Income before Federal income taxes 2,241 2,507
Federal income taxes 745 853
Net income 1,496 1,654
Earnings per share, basic .19 .22
Earnings per share, diluted .18 .21
Quarter Ended
Sept 30, Dec 31, Mar 31, June 30,
2002 2002 2001 2001
-----------------------------------------
Interest income $13,840 $14,439 $14,318 $14,092
Interest expense 9,195 9,725 9,277 8,931
Net interest income 4,645 4,714 5,041 5,161
Provision for loan losses 210 210 290 270
Other income 516 623 793 711
Other expense 3,393 3,505 3,722 3,681
Income before Federal income taxes 1,558 1,622 1,822 1,921
Federal income taxes 530 551 623 653
Net income 1,028 1,071 1,199 1,268
Earnings per share, basic 0.14 0.14 0.16 0.17
Earnings per share, diluted 0.13 0.14 0.14 0.16
ANNUAL SHAREHOLDERS' MEETING
- ----------------------------
The Annual Shareholders' meeting will be held at the Everett Golf & Country
Club, 1500 52nd Street SE, Everett, WA, on Tuesday, May 4, 2003 at 6:30 p.m.
Pacific Time.
<PAGE>
<TABLE>
<CAPTION>
CORPORATE INFORMATION
- ---------------------
<S> <C> <C>
WWW.CASCADEBANK.COM
CASCADE SERVICE CENTER MARYSVILLE of record. The following table
(800) 326-8787 815 State Avenue sets forth market price
Marysville, WA information for the Corpor-
(360) 659-7614 ation's common stock.
MAIN OFFICE NORTH MARYSVILLE QUARTERS
2828 Colby Avenue 3711 88th Street NE ENDED HIGH LOW
Everett, WA Marysville, WA 3/31/02 $ 7.80 6.08
(425) 257-1745 (360) 651-9200 6/30/02 9.78 7.40
9/30/02 9.02 7.92
BELLEVUE PINE LAKE 12/31/02 9.59 8.20
200 108th Avenue NE 2902 228th Avenue SE
Bellevue, WA Issaquah, WA QUARTERS
(425) 455-2300 (425) 369-8322 ENDED HIGH LOW
3/31/03 $10.56 9.04
CLEARVIEW SMOKEY POINT 6/30/03 13.20 9.16
17512 SR 9 SE 3532 172nd Street NE 9/30/03 16.00 12.01
Snohomish, WA Arlington, WA 12/31/03 20.99 14.92
(360) 668-1243 (360) 653-1900
CROSSROADS WOODINVILLE STOCK TRANSFER AGENT
15751 NE 15th Street 17641 Garden Way NE Mellon Investor Services LLC
Bellevue, WA Woodinville, WA P.O. Box 3315
(425) 643-6200 (425) 481-0820 South Hackensack, NJ 07606
(800) 839-2983
EVERETT/BROADWAY All shareholders are encour- (800) 231-5469 TDD for Hearing Impaired
2602 Broadway aged to read Cascade's Form (201) 329-8660 Foreign Shareholders
Everett, WA 10-K for the year ended (201) 329-8354 TDD Foreign Shareholders
(425) 259-1243 December 31, 2003, as filed www.melloninvestor.com
with the Securities and Exchange
EVERETT/EVERGREEN WAY Commission (the "SEC"). The Form AUDITORS
6920 Evergreen Way 10-K includes the significant risk KPMG LLP
Everett, WA factors that could affect 801 2nd Avenue, Suite 900
(425) 353-1243 Cascade's projections and Seattle, Washington 98104
future operating performance.
HARBOUR POINTE This document is qualified in LEGAL COUNSEL
11700 Mukilteo Speedway its entirety by the information Keller Rohrback, LLP
Mukilteo, WA contained in the Form 10-K. 1201 Third Avenue, Suite 3200
(425) 290-7767 The Form 10-K, together Seattle, WA 98101-3052
with all other information filed
ISSAQUAH by Cascade with the SEC, is SPECIAL COUNSEL
305 Front Street N available on the Internet at the Anderson Hunter, PS
Issaquah, WA SEC's web site at http://www 2707 Colby Avenue, Suite 1001
(425) 391-5500 sec.gov. The Form 10-K will be Everett, Washington 98201
furnished by Cascade, upon
LAKE STEVENS receipt of written request
8915 Market Place addressed to Cascade Financial
Everett, WA Corporation, 2828 Colby Avenue,
(425) 334-8880 Everett, WA 98201.
The common stock of Cascade
LYNNWOOD Financial Corporation is traded
19419 Highway 99 on the NASDAQ SmallCap Market
Lynnwood, WA under the symbol CASB. As of
(425) 775-6666 December 31, 2003, there were
approximately 2,550 shareholders
</TABLE>
</TEXT>
</DOCUMENT>
<DOCUMENT>
<TYPE>EX-21
<SEQUENCE>5
<FILENAME>ex21-1203.txt
<DESCRIPTION>SUBSIDIARIES
<TEXT>
EXHIBIT 21
Subsidiaries of the Registrant
------------------------------
Parent
- ------
Cascade Financial Corporation
Percentage Jurisdiction or
Subsidiaries (a) of Ownership State of Incorporation
- ---------------- ----------- ----------------------
Cascade Bank 100% Washington
Cascade Capital Trust I 100% Delaware
Cascade Investment Services, Inc. (b) 100% Washington
(a) The operation of the Corporation's wholly owned subsidiaries are included
in the Corporation's Financial Statements contained in the Annual Report
attached hereto as Exhibit 15.
(b) Wholly-owned subsidiary of Cascade Bank.
</TEXT>
</DOCUMENT>
<DOCUMENT>
<TYPE>EX-31.1
<SEQUENCE>6
<FILENAME>ex311-1203.txt
<DESCRIPTION>CERTIFICATION OF CHIEF EXECUTIVE OFFICER
<TEXT>
EXHIBIT 31.1
CERTIFICATION OF CHIEF EXECUTIVE OFFICER
PURSUANT TO SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002
I, Carol K. Nelson, certify that:
1. I have reviewed this annual report on Form 10-K of Cascade Financial
Corporation;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this annual
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this annual report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities, particularly
during the period in which this annual report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this annual
report (the "Evaluation Date"); and
c) presented in this annual report our conclusions about the effectiveness
of the disclosure controls and procedures based on our evaluation as of the
Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which are reasonably likely to adversely affect the registrant's
ability to record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in internal
controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal controls
over financial reporting.
Date: March 12, 2004 /s/ Carol K. Nelson
---------------------------
Carol K. Nelson, President
and Chief Executive Officer
</TEXT>
</DOCUMENT>
<DOCUMENT>
<TYPE>EX-31.2
<SEQUENCE>7
<FILENAME>ex312-1203.txt
<DESCRIPTION>CERTIFICATION OF CHIEF FINANCIAL OFFICER
<TEXT>
EXHIBIT 31.2
CERTIFICATION OF CHIEF FINANCIAL OFFICER
PURSUANT TO SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002
I, Lars H. Johnson, certify that:
1. I have reviewed this annual report on Form 10-K of Cascade Financial
Corporation;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this annual
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this annual report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities, particularly
during the period in which this annual report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this annual
report (the "Evaluation Date"); and
c) presented in this annual report our conclusions about the effectiveness
of the disclosure controls and procedures based on our evaluation
as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which are reasonably likely to adversely affect the registrant's
ability to record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in internal
controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal control over
financial reporting.
Date: March 12, 2004 /s/ Lars H. Johnson
----------------------------------------
Lars H. Johnson, Chief Financial Officer
</TEXT>
</DOCUMENT>
<DOCUMENT>
<TYPE>EX-32
<SEQUENCE>8
<FILENAME>ex32-1203.txt
<DESCRIPTION>CERTIFICATION OF ANNUAL REPORT
<TEXT>
Exhibit 32
CERTIFICATION OF ANNUAL REPORT ON FORM 10-K
PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
The undersigned are the Chief Executive Officer and the Chief Financial
Officer of Cascade Financial Corporation (the "Registrant"). This
Certification is made pursuant to Section 906 of the Sarbanes-Oxley Act of
2002. This Certification accompanies the Annual Report on Form 10-K of the
Registrant for the annual period ended December 31, 2003.
We certify that such Annual Report on Form 10-K fully complies with the
requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934
and that the information contained in such 10-K Report fairly presents, in all
material respects, the financial condition and the results of operations of the
Registrant.
Date: March 12, 2004
/s/ Carol K. Nelson
----------------------------------------
Carol K. Nelson, President and
Chief Executive Officer
/s/ Lars H. Johnson
----------------------------------------
Lars H. Johnson, Chief Financial Officer
</TEXT>
</DOCUMENT>
</SEC-DOCUMENT>
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