AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON FEBRUARY 11, 2005
REGISTRATION NO. 333-121178
================================================================================
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
PRE-EFFECTIVE AMENDMENT NO. 3
TO
FORM SB-2
REGISTRATION STATEMENT UNDER
THE SECURITIES ACT OF 1933
FIRST FEDERAL OF NORTHERN MICHIGAN BANCORP, INC.
(Name of Small Business Issuer in Its Charter)
MARYLAND 6712 32-0135202
(State or Other Jurisdiction of (Primary Standard Industrial (I.R.S. Employer
Incorporation or Organization) Classification Code Number) Identification Number)
100 SOUTH SECOND AVENUE
ALPENA, MICHIGAN 49707
(989) 356-9041
(Address and Telephone Number of
Principal Executive Offices)
100 SOUTH SECOND AVENUE
ALPENA, MICHIGAN 49707
(Address of Principal Place of Business)
MARTIN A. THOMSON
100 SOUTH SECOND AVENUE
ALPENA, MICHIGAN 49707
(989) 356-9041
(Name, Address and Telephone Number of Agent for Service)
COPIES TO:
ROBERT B. POMERENK, ESQ.
STEVE LANTER, ESQ.
LUSE GORMAN POMERENK & SCHICK, P.C.
5335 WISCONSIN AVENUE, N.W., SUITE 400
WASHINGTON, D.C. 20015
APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC: As soon as
practicable after this registration statement becomes effective.
If this Form is filed to register additional securities for an offering pursuant
to Rule 462(b) under the Securities Act, check the following box and list the
Securities Act registration statement number of the earlier effective
registration statement for the same offering: [ ]
If this Form is a post-effective amendment filed pursuant to Rule 462(c) under
the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering: [ ]
If this Form is a post-effective amendment filed pursuant to Rule 462(d) under
the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering: [ ]
If the delivery of the prospectus is expected to be made pursuant to Rule 434,
please check the following box: [ ]
CALCULATION OF REGISTRATION FEE
======================================== =================== ==================== ==================== =====================
PROPOSED MAXIMUM PROPOSED MAXIMUM
TITLE OF EACH CLASS OF AMOUNT TO BE OFFERING PRICE AGGREGATE AMOUNT OF
SECURITIES TO BE REGISTERED REGISTERED PER SHARE OFFERING PRICE REGISTRATION FEE
---------------------------------------- ------------------- -------------------- -------------------- ---------------------
Common Stock, $0.01 par value per share 3,853,613 shares $10.00 $38,536,130 (1) $4,883(2)
---------------------------------------- ------------------- -------------------- -------------------- ---------------------
(1) Estimated solely for the purpose of calculating the registration fee.
(2) Registration fee previously paid.
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR DATES
AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL FILE
A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION SHALL
THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(A) OF THE SECURITIES
ACT OF 1933 OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME EFFECTIVE ON SUCH
DATE AS THE SECURITIES AND EXCHANGE COMMISSION, ACTING PURSUANT TO SAID SECTION
8(A), MAY DETERMINE.
PROSPECTUS
FIRST FEDERAL OF NORTHERN MICHIGAN BANCORP, INC.
(PROPOSED HOLDING COMPANY FOR FIRST FEDERAL OF NORTHERN MICHIGAN)
UP TO 2,116,000 SHARES OF COMMON STOCK
First Federal of Northern Michigan Bancorp, Inc. is offering shares of
common stock for sale in connection with the conversion of Alpena Bancshares,
M.H.C. from the mutual to the stock form of organization. The shares of common
stock we are offering represent the ownership interest in Alpena Bancshares,
Inc., a federal corporation, now owned by Alpena Bancshares, M.H.C. The existing
shares of Alpena Bancshares, Inc. common stock held by the public will be
exchanged for new shares of common stock of First Federal of Northern Michigan
Bancorp, Inc. All shares of common stock are being offered for sale at a price
of $10.00 per share. In addition, we intend to establish a charitable foundation
and to fund the foundation with a contribution of up to 37,500 shares of our
common stock and up to $375,000 in cash. We expect that our shares of common
stock will trade on the Nasdaq National Market under the symbol "FFNM."
IF YOU ARE OR WERE A DEPOSITOR OF FIRST FEDERAL OF NORTHERN MICHIGAN:
o You may have priority rights to purchase shares of common stock.
IF YOU ARE CURRENTLY A STOCKHOLDER OF ALPENA BANCSHARES, INC.:
o You may have the opportunity to purchase additional shares of
common stock in the offering after priority orders are filled.
o Each of your shares of common stock will be exchanged at the
conclusion of the offering for between 1.4783 and 2.0000 new
shares (subject to adjustment to up to 2.3000 new shares) of
common stock of First Federal of Northern Michigan Bancorp, Inc.
o Your percentage ownership will remain essentially equivalent to
your current percentage ownership interest in Alpena Bancshares,
Inc., before giving effect to our contribution of shares of
common stock to a charitable foundation.
IF YOU FIT NONE OF THE CATEGORIES ABOVE, BUT ARE INTERESTED IN
PURCHASING SHARES OF OUR COMMON STOCK:
o You may have the opportunity to purchase shares of common stock
after priority orders in the preceding categories are filled.
We are offering up to 1,840,000 shares of common stock for sale on a
best efforts basis. We may sell up to 2,116,000 shares of common stock because
of demand for the shares or changes in market conditions, without resoliciting
subscribers.
In addition to the shares we are selling, we also will simultaneously
issue up to 1,478,360 shares of common stock to current stockholders of Alpena
Bancshares, Inc. in exchange for their existing shares. The number of shares to
be issued in exchange may be increased to up to 1,700,113 shares, depending on
the number of shares sold in the offering. We must sell a minimum of 1,360,000
shares in the offering, and we must issue 1,092,701 shares in the exchange in
order to complete the offering and the exchange of existing shares.
The minimum number of shares you can order is 25. The offering is
expected to expire at 10:00 a.m., Alpena, Michigan time, on March 15, 2005. We
may extend this expiration date without notice to you until April 29, 2005,
unless the Office of Thrift Supervision approves a later date, which may not be
beyond March __, 2007. Once submitted, orders are irrevocable unless the
offering is terminated or is extended beyond April 29, 2005, or the number of
shares of common stock to be sold is increased to more than 2,116,000 shares or
decreased to less than 1,360,000 shares. If the offering is extended beyond
April 29, 2005, or if the number of shares of common stock to be sold is
increased to more than 2,116,000 shares or decreased to less than 1,360,000
shares, subscribers will be resolicited, and all funds delivered to us to
purchase shares of common stock in the offering will be returned promptly to
subscribers, with interest. Funds received during the offering will be held in a
segregated account at First Federal of Northern Michigan or another insured
depository institution and will earn interest at our passbook savings rate.
Ryan Beck & Co., Inc. will assist us in selling our shares of common
stock on a best efforts basis. Ryan Beck & Co., Inc. is not required to purchase
any shares of the common stock that are being offered for sale. Purchasers will
not pay a commission to purchase shares of common stock in the offering.
OFFERING SUMMARY
PRICE: $10.00 PER SHARE
ADJUSTED
MINIMUM MAXIMUM MAXIMUM
Number of shares: 1,360,000 1,840,000 2,116,000
Gross offering proceeds: $ 13,600,000 $ 18,400,000 $ 21,160,000
Estimated offering expenses: $ 716,000 $ 760,000 $ 786,000
Estimated net proceeds: $ 12,884,000 $ 17,640,000 $ 20,374,000
Estimated net proceeds per share: $ 9.47 $ 9.59 $ 9.63
THIS INVESTMENT INVOLVES A DEGREE OF RISK, INCLUDING THE POSSIBLE
LOSS OF PRINCIPAL.
PLEASE READ "RISK FACTORS" BEGINNING ON PAGE 19.
THESE SECURITIES ARE NOT DEPOSITS OR ACCOUNTS AND ARE NOT INSURED OR
GUARANTEED BY THE FEDERAL DEPOSIT INSURANCE CORPORATION OR ANY OTHER GOVERNMENT
AGENCY. NEITHER THE SECURITIES AND EXCHANGE COMMISSION, THE OFFICE OF THRIFT
SUPERVISION, NOR ANY STATE SECURITIES REGULATOR HAS APPROVED OR DISAPPROVED OF
THESE SECURITIES OR DETERMINED IF THIS PROSPECTUS IS ACCURATE OR COMPLETE. ANY
REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE. RYAN BECK & CO.
For assistance, please contact the Stock Information Center at (989) ___-_____
The date of this Prospectus is February __, 2005.
[MAP SHOWING FIRST FEDERAL OF NORTHERN MICHIGAN'S MARKET AREA APPEARS HERE]
i
OFFICE LOCATIONS:
HEADQUARTERS:
100 South Second Avenue
Alpena, MI 49707
BRANCH LOCATIONS:
300 South Ripley Boulevard 625 N. Williams Street
Alpena, MI 49707 Mancelona, MI 49659
6230 River Street 308 North Morenci
Alanson, MI 49706 Mio, MI 48647
101 South Main Street 201 North State Street
Cheboygan, MI 49721 Oscoda, MI 48750
1000 South Wisconsin 11874 U.S. 23 South
Gaylord, MI 49735 Ossineke, MI 49766
P.O. Box 673
4236 Salling Street
Lewiston, MI 49756
ii
TABLE OF CONTENTS
PAGE
SUMMARY........................................................................1
RISK FACTORS..................................................................19
SELECTED CONSOLIDATED FINANCIAL AND OTHER DATA OF ALPENA BANCSHARES,
INC. AND SUBSIDIARY........................................................26
RECENT DEVELOPMENTS...........................................................28
FORWARD-LOOKING STATEMENTS....................................................35
HOW WE INTEND TO USE THE PROCEEDS FROM THE OFFERING...........................36
OUR DIVIDEND POLICY...........................................................37
MARKET FOR THE COMMON STOCK...................................................38
HISTORICAL AND PRO FORMA REGULATORY CAPITAL COMPLIANCE........................40
CAPITALIZATION................................................................41
PRO FORMA DATA................................................................43
COMPARISON OF VALUATION AND PRO FORMA INFORMATION WITH AND
WITHOUT THE FOUNDATION.....................................................51
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS......................................................52
BUSINESS OF ALPENA BANCSHARES, INC. AND FIRST FEDERAL OF NORTHERN MICHIGAN....71
SUPERVISION AND REGULATION....................................................97
TAXATION.....................................................................104
MANAGEMENT OF FIRST FEDERAL OF NORTHERN MICHIGAN BANCORP, INC................106
BENEFICIAL OWNERSHIP OF COMMON STOCK.........................................117
SUBSCRIPTIONS BY DIRECTORS AND EXECUTIVE OFFICERS............................117
THE CONVERSION...............................................................118
FIRST FEDERAL COMMUNITY FOUNDATION...........................................141
COMPARISON OF STOCKHOLDERS' RIGHTS FOR EXISTING STOCKHOLDERS OF
ALPENA BANCSHARES, INC....................................................145
RESTRICTIONS ON ACQUISITION OF FIRST FEDERAL OF NORTHERN MICHIGAN
BANCORP, INC..............................................................152
DESCRIPTION OF CAPITAL STOCK OF FIRST FEDERAL OF NORTHERN MICHIGAN
BANCORP, INC. FOLLOWING THE CONVERSION....................................155
TRANSFER AGENT...............................................................157
EXPERTS......................................................................157
LEGAL MATTERS................................................................157
WHERE YOU CAN FIND ADDITIONAL INFORMATION....................................157
ALPENA BANCSHARES, INC. INDEX TO CONSOLIDATED FINANCIAL STATEMENTS...........F-1
iii
SUMMARY
The following summary explains the significant aspects of the
conversion, the offering and the exchange of existing shares of Alpena
Bancshares, Inc. common stock for new shares of First Federal of Northern
Michigan Bancorp, Inc. common stock. It may not contain all the information that
is important to you. For additional information before making an investment
decision, you should read this entire document carefully, including the
consolidated financial statements and the notes to the consolidated financial
statements, and the section titled "Risk Factors."
THE COMPANIES
ALPENA BANCSHARES, M.H.C.
Alpena Bancshares, M.H.C. is the federally chartered mutual holding
company of Alpena Bancshares, Inc., a federal corporation. Alpena Bancshares,
M.H.C.'s principal business activity is the ownership of 920,000 shares of
common stock of Alpena Bancshares, Inc., or 55.4% of the issued and outstanding
shares as of September 30, 2004. After the completion of the conversion, Alpena
Bancshares, M.H.C. will no longer exist.
Alpena Bancshares, M.H.C.'s executive offices are located at 100 South
Second Avenue, Alpena, Michigan 49707. Its telephone number at this address is
(989) 356-9041.
ALPENA BANCSHARES, INC.
Alpena Bancshares, Inc. is a federally chartered corporation that owns
all of the outstanding common stock of First Federal of Northern Michigan, a
federal savings bank with ten full-service branches. At September 30, 2004,
Alpena Bancshares, Inc. had consolidated assets of $254.5 million, deposits of
$182.4 million and stockholders' equity of $21.9 million. After the completion
of the conversion, Alpena Bancshares, Inc. will cease to exist, but will be
succeeded by a new Maryland corporation with the name First Federal of Northern
Michigan Bancorp, Inc. As of September 30, 2004, Alpena Bancshares, Inc. had
1,659,180 shares of common stock issued and outstanding. As of that date, Alpena
Bancshares, M.H.C. owned 920,000 shares of common stock of Alpena Bancshares,
Inc., representing 55.4% of the issued and outstanding shares of common stock.
The remaining 739,180 shares were owned by the public.
Alpena Bancshares, Inc.'s executive offices are located at 100 South
Second Avenue, Alpena, Michigan 49707. Its telephone number at this address is
(989) 356-9041.
FIRST FEDERAL OF NORTHERN MICHIGAN BANCORP, INC.
First Federal of Northern Michigan Bancorp, Inc. is a newly formed
Maryland corporation that will own all of the outstanding common stock of First
Federal of Northern Michigan upon completion of the conversion and the offering.
Concurrently with the completion of the conversion and offering, First Federal
of Northern Michigan Bancorp, Inc. will be the successor to Alpena Bancshares,
Inc., the federal corporation.
First Federal of Northern Michigan Bancorp, Inc.'s executive offices are
located at 100 South Second Avenue, Alpena, Michigan 49707. Our telephone number
at this address is (989) 356-9041.
1
FIRST FEDERAL OF NORTHERN MICHIGAN
First Federal of Northern Michigan is a full-service, community-oriented
federal savings bank that provides financial services to individuals, families
and businesses from ten full-service facilities located in Alpena, Antrim,
Charlevoix, Cheboygan, Iosco, Otsego, Montmorency and Oscoda Counties, Michigan.
First Federal of Northern Michigan has operated in Alpena, Michigan since its
chartering in 1957. First Federal of Northern Michigan reorganized into the
mutual holding company structure in 1994.
First Federal of Northern Michigan has operated historically as a
traditional savings bank. Its business has consisted primarily of accepting
deposits from the general public and investing those deposits, together with
funds generated from operations and borrowings, in loans, consisting primarily
of one- to four-family residential mortgage loans and, to a lesser extent,
commercial real estate loans, commercial loans and consumer loans, as well as in
agency securities and mortgage-backed securities.
First Federal of Northern Michigan's market area is sparsely populated,
and has had slow population growth and limited industrial development compared
to more urban and suburban markets. Because of the limited growth opportunities
for residential mortgage lending in our market area, in recent years First
Federal of Northern Michigan has taken steps to become more "bank-like," by
emphasizing commercial and commercial real estate lending. Commercial and
commercial real estate loans typically offer higher yields than traditional one-
to four-family residential mortgage loans and generally are of shorter duration.
Therefore, these loans can increase interest income and assist in managing our
interest rate risk. Residential mortgage loans as a percentage of our total loan
portfolio have decreased in each of the past five years, and we expect this
trend to continue. Conversely, while management has not established targets, we
expect that commercial and commercial real estate loans will continue to
increase as a percentage of our total loan portfolio in future periods. At
September 30, 2004, commercial real estate loans comprised 14.0% of total loans,
commercial loans comprised 15.4% of total loans and one- to four-family
residential mortgage loans comprised 53.1% of total loans. For the nine months
ended September 30, 2004, interest income on our commercial real estate and
commercial loans represented 24.9% of our total interest income.
The shift to a more "bank-like" loan portfolio also reflects First
Federal of Northern Michigan's increased mortgage origination and sales
activity. Since 2000, First Federal of Northern Michigan has sold a large
percentage of its one- to four-family, fixed-rate residential mortgage loans to
help manage interest rate risk. For the nine months ended September 30, 2004,
First Federal of Northern Michigan originated $49.1 million of one- to
four-family residential mortgage loans, of which $19.2 million were sold in the
secondary mortgage market. First Federal of Northern Michigan retained servicing
on all of the sold loans. Non-interest income attributable to mortgage banking
activities was $460,700 for the nine months ended September 30, 2004, and
comprised 12.8% of total non-interest income for the period.
First Federal of Northern Michigan's executive offices are located at
100 South Second Avenue, Alpena, Michigan 49707. Its telephone number at this
address is (989) 356-9041.
OUR ORGANIZATIONAL STRUCTURE
In 1994, First Federal of Northern Michigan's mutual predecessor
reorganized into the mutual holding company form of organization. In 2000, First
Federal of Northern Michigan formed Alpena Bancshares, Inc. as its mid-tier
stock holding company. The majority of the outstanding shares of common stock of
Alpena Bancshares, Inc. is owned by Alpena Bancshares, M.H.C., which is a mutual
holding company that has no stockholders. Alpena Bancshares, Inc. owns 100% of
the outstanding shares of common stock of First Federal of Northern Michigan.
2
Pursuant to the terms of Alpena Bancshares, M.H.C.'s plan of conversion
and reorganization, Alpena Bancshares, M.H.C. will convert from the mutual
holding company to the stock holding company corporate structure. As part of the
conversion, we are offering for sale in a subscription offering and possibly in
a community offering the majority ownership interest of Alpena Bancshares, Inc.
that is currently held by Alpena Bancshares, M.H.C. Upon the completion of the
conversion and offering, Alpena Bancshares, M.H.C. will cease to exist, and we
will complete the transition from partial to full public stock ownership. Upon
completion of the conversion, existing public stockholders of Alpena Bancshares,
Inc. will receive new shares of common stock of First Federal of Northern
Michigan Bancorp, Inc. in exchange for their existing shares of Alpena
Bancshares, Inc. at the completion of the conversion.
The following chart shows our current organizational structure, which is
commonly referred to as the "two-tier" mutual holding company structure:
------------------------------------ PUBLIC
ALPENA BANCSHARES, M.H.C. STOCKHOLDERS
------------------------------------
55.4% of Alpena 44.6% of Alpena
Bancshares, Inc. Bancshares, Inc. common
common stock stock
----------------------------------------
ALPENA BANCSHARES, INC.
----------------------------------------
100% of common stock
----------------------------------------
FIRST FEDERAL OF NORTHERN MICHIGAN
----------------------------------------
After the conversion and offering are completed, we will be organized as a fully
public holding company, as follows:
PUBLIC STOCKHOLDERS
(including charitable foundation)
100% of common stock
-----------------------------------------
FIRST FEDERAL OF NORTHERN
MICHIGAN BANCORP, INC.
-----------------------------------------
100% of common stock
-----------------------------------------
FIRST FEDERAL OF NORTHERN MICHIGAN
-----------------------------------------
3
BUSINESS STRATEGY
Our goal is to operate and grow as a well-capitalized and profitable
financial institution. We seek to accomplish this goal by:
o operating as a community savings bank and offering personalized
customer service;
o increasing our commercial real estate and commercial lending;
o increasing our share of lower-cost deposits;
o increasing and diversifying our sources of non-interest income;
o maintaining high asset quality and capital strength; and
o managing our interest rate risk exposure by selling into the
secondary market the majority of fixed-rate residential real
estate loans with maturities of 15 years or more that we
originate.
See page 56 of "Management's Discussion and Analysis of Financial Condition and
Results of Operations --Business Strategy" for a fuller discussion of our
business strategy, including quantitative analysis that highlights elements of
our business strategy.
REASONS FOR THE CONVERSION
We believe that our conversion to a fully public company and the
increased capital resources that will result from the sale of our common stock
will provide us with the flexibility:
o to support internal growth through lending in the communities we
serve;
o to enhance existing products and services and support the
development of new products and services;
o to facilitate growth through branch and whole bank acquisitions
as opportunities arise;
o to improve our overall competitive position; and
o to improve the liquidity of our shares of common stock and
enhance stockholder returns through higher earnings and more
flexible capital management strategies.
As a fully converted stock holding company, we will have greater
flexibility in structuring mergers and acquisitions, including the form of
consideration that we can use to pay for an acquisition. Our current mutual
holding company structure and our relatively small asset size limit our ability
to offer shares of our common stock as consideration in a merger or acquisition
since Alpena Bancshares, M.H.C. is required to own a majority of our outstanding
shares of common stock. Potential sellers often want stock for at least part of
the purchase price. Our new stock holding company structure will enable us to
offer stock or cash consideration, or a combination of stock and cash, and will
therefore enhance our ability to compete with other bidders when acquisition
opportunities arise. We currently have no arrangements or understandings
regarding any specific acquisition.
4
TERMS OF THE CONVERSION AND OFFERING
Pursuant to Alpena Bancshares, M.H.C.'s plan of conversion and
reorganization, our organization will convert from a partially public to a fully
public form of holding company structure. In connection with the conversion, we
are selling shares that represent the ownership interest in Alpena Bancshares,
Inc. currently held by Alpena Bancshares, M.H.C.
We are offering between 1,360,000 and 1,840,000 shares of common stock
to eligible depositors and borrowers of First Federal of Northern Michigan, our
tax-qualified employee benefit plans and, to the extent shares remain available,
to our existing public stockholders and the general public. The number of shares
of common stock to be sold may be increased to up to 2,116,000 as a result of
regulatory considerations, demand for the shares, or changes in the market for
financial institution stocks. Unless the number of shares of common stock to be
offered is increased to more than 2,116,000 shares or decreased to less than
1,360,000 shares, or the offering is extended beyond April 29, 2005, subscribers
will not have the opportunity to change or cancel their stock orders once
submitted. If the number of shares of common stock to be sold is increased to
more than 2,116,000 shares or decreased to less than 1,360,000 shares, or if the
offering is extended beyond April 29, 2005, all funds delivered to us to
purchase shares of common stock in the offering will be returned promptly to
subscribers with interest, and subscribers will have the opportunity to place
new orders for common stock during a designated resolicitation period.
The purchase price of each share of common stock to be offered for sale
in the offering is $10.00. All investors will pay the same purchase price per
share. Investors will not be charged a commission to purchase shares of common
stock in the offering. Ryan Beck & Co., Inc., our marketing advisor in the
offering, will use its best efforts to assist us in selling shares of our common
stock. Ryan Beck & Co., Inc. is not obligated to purchase any shares of common
stock in the offering.
In addition, as part of the conversion and offering, we intend to
contribute up to 37,500 shares of our common stock and up to $375,000 in cash to
a charitable foundation to be established by First Federal of Northern Michigan.
PERSONS WHO MAY ORDER SHARES OF COMMON STOCK IN THE OFFERING
We are offering the shares of common stock in a "subscription offering"
in the following descending order of priority:
(i) First, to depositors with accounts at First Federal of Northern
Michigan with aggregate balances of at least $50 at the close of
business on October 31, 2003.
(ii) Second, to our tax-qualified employee benefit plans, including
First Federal of Northern Michigan's employee stock ownership
plan.
(iii) Third, to depositors with accounts at First Federal of Northern
Michigan with aggregate balances of at least $50 at the close of
business on December 31, 2004.
(iv) Fourth, to depositors of First Federal of Northern Michigan at
the close of business on January 31, 2005 and to borrowers of
First Federal of Northern Michigan as of November 4, 1994 whose
borrowings remained outstanding at the close of business on
January 31, 2005.
Shares of common stock not purchased in the subscription offering may be
offered for sale to the general public in a "community offering," with a
preference given first to natural persons residing in the
5
Michigan counties of Alpena, Alcona, Antrim, Charlevoix, Cheboygan, Crawford,
Emmet, Iosco, Kalkaska, Montmorency, Ogemaw, Oscoda, Otsego and Presque Isle,
and then to Alpena Bancshares, Inc. public stockholders as of February 3, 2005.
The community offering, if held, may begin concurrently with, during or promptly
after the subscription offering as we may determine at any time. We also may
offer for sale shares of common stock not purchased in the subscription offering
or community offering through a "syndicated community offering" managed by Ryan
Beck & Co., Inc. We have the right to accept or reject, in our sole discretion,
orders received in the community offering or syndicated community offering. Any
determination to accept or reject purchase orders in the community offering and
the syndicated community offering will be based on the facts and circumstances
available to management at the time of the determination.
If we receive orders for more shares than we are offering, we may not be
able to fully or partially fill your order. Shares will be allocated first to
categories in the subscription offering. A detailed description of share
allocation procedures can be found in the section entitled "The Conversion."
HOW WE DETERMINED THE OFFERING RANGE AND THE $10.00 PER SHARE STOCK PRICE
The amount of common stock we are offering is based on an independent
appraisal of the estimated market value of First Federal of Northern Michigan
Bancorp, Inc., assuming the conversion and offering are completed. RP Financial,
LC., our independent appraiser, has estimated that, as of November 26, 2004,
this market value, including the establishment of the Foundation, ranged from
$24,799,010 to $33,551,600, with a midpoint of $29,175,300. Based on this
valuation, the ownership interest of Alpena Bancshares, M.H.C. being sold in the
offering and the $10.00 per share price, the number of shares of common stock
being offered for sale by First Federal of Northern Michigan Bancorp, Inc. will
range from 1,360,000 shares to 1,840,000 shares. The $10.00 per share price was
selected primarily because it is the price most commonly used in mutual-to-stock
conversions of financial institutions. The appraisal is based in part on Alpena
Bancshares, Inc.'s financial condition and results of operations, the effect of
the additional capital raised by the sale of shares of common stock in the
offering, and an analysis of a peer group of 13 publicly traded savings bank and
thrift holding companies that RP Financial considered comparable to Alpena
Bancshares, Inc.
The following table presents a summary of selected pricing ratios for
the peer group companies and First Federal of Northern Michigan Bancorp, Inc.
(on a pro forma basis) and Alpena Bancshares, Inc., (on an historical basis),
based on earnings and other information as of and for the twelve months ended
September 30, 2004 and stock price information as of November 26, 2004, as
reflected in the appraisal report. Compared to the average pricing of the peer
group, our pro forma pricing ratios at the maximum of the offering range
indicated a premium of 174.4% on a price-to-core earnings basis, a discount of
25.4% on a price-to-book basis and a discount of 22.3% on a price-to-tangible
book basis. Similarly, compared to the average pricing ratios of the peer group,
our historical pricing ratios on a fully converted basis indicated a premium of
131.0% on a price-to-core-earnings basis, a discount of 22.8% on a price-to-book
basis and a discount of 21.1% on a tangible price-to-book basis. The pricing
ratios result from our generally higher levels of equity than the companies in
the peer group, but lower earnings. Our board of directors, in reviewing and
approving the appraisal, considered the range of price-to-core earnings
multiples and the range of price-to-book value ratios at the different amounts
of shares to be sold in the offering, and did not consider one valuation
approach to be more important than the other. Instead, in approving the
appraisal, the board concluded that these ranges represented the appropriate
balance of the two approaches to establishing our valuation, and the number of
shares to be sold, in comparison to the peer group institutions. Specifically,
in approving the appraisal, the board believed that
6
we would not be able to sell our shares at a price-to-book value that was in
line with the peer group without unreasonably exceeding the peer group on a
price- to-earnings basis. The estimated appraised value and the resulting
premium/discount took into consideration the potential financial impact of the
conversion and offering as well as the trading price of Alpena Bancshares, Inc.
common stock, which increased from $16.30 per share on November 12, 2004, the
closing price on the last trading day immediately preceding the announcement of
the conversion, to $25.25 per share, the trading price on November 26, 2004, the
effective date of the appraisal.
PRICE-TO-CORE EARNINGS PRICE-TO-BOOK PRICE-TO-TANGIBLE
MULTIPLE VALUE RATIO BOOK VALUE RATIO
FIRST FEDERAL OF NORTHERN MICHIGAN
BANCORP, INC. (ON A PRO FORMA BASIS,
ASSUMING COMPLETION OF THE CONVERSION)
Maximum............................... 57.44x 89.67% 99.42%
Minimum............................... 43.57x 74.52% 83.75%
ALPENA BANCSHARES, INC. (ON A FULLY
CONVERTED HISTORICAL BASIS) 1......... 48.54x 92.76% 100.96%
VALUATION OF PEER GROUP COMPANIES, ALL
OF WHICH ARE FULLY CONVERTED (ON AN
HISTORICAL BASIS)
Averages.............................. 20.93x 120.13% 127.89%
Medians............................... 20.38x 112.49 120.13%
1 Our price-to-core earnings multiple, price-to-book-value ratio and
price-to-tangible-book value ratio on November 26, 2004 was 78.75x,
190.98% and 229.34%, respectively. However, the tabular data is
presented on a "fully-converted" basis, which assumes the shares held by
Alpena Bancshares, MHC are sold at $25.25 per share and that the gross
proceeds of the sale are added to our equity. We have presented the data
on a fully-converted basis to ensure a fair comparison to the peer group
companies, all of which are in fully-converted status.
THE INDEPENDENT APPRAISAL DOES NOT INDICATE MARKET VALUE. DO NOT ASSUME
OR EXPECT THAT OUR VALUATION AS INDICATED ABOVE MEANS THAT, AFTER THE CONVERSION
AND OFFERING, THE SHARES OF OUR COMMON STOCK WILL TRADE AT OR ABOVE THE $10.00
PURCHASE PRICE.
The independent appraisal will be updated prior to the completion of the
conversion. If the appraised value changes to either below $24,799,010 or above
$38,536,130, we will resolicit persons who submitted stock orders, and all funds
delivered to us to purchase shares of common stock in the offering will be
returned promptly to subscribers with interest. See "The Conversion--Stock
Pricing and Number of Shares to be Issued."
In addition, we intend to contribute to a charitable foundation cash in
an amount equal to 2% of the shares we sell to purchasers in the offering,
PROVIDED the cash does not exceed $375,000 and common stock equal to 2% of the
shares we sell to purchasers in the offering, PROVIDED the common stock
contribution does not exceed 37,500 shares. The contribution of common stock to
the charitable foundation will have the effect of reducing our pro forma
valuation. See "Comparison of Valuation and Pro Forma Information with and
without the Foundation."
7
AFTER-MARKET PERFORMANCE INFORMATION PROVIDED BY INDEPENDENT APPRAISER
The following table presents stock price performance information for all
"second-step" mutual holding company conversions completed between January 31,
2003 and January 31, 2005. The companies for which the stock price performance
is presented completed their conversions in different markets than First Federal
of Northern Michigan Bancorp, Inc. and may have issued more or less than the
55.4% ownership interest of Alpena Bancshares, M.H.C. being offered by First
Federal of Northern Michigan Bancorp, Inc. In addition, the companies may have
no similarities to First Federal of Northern Michigan Bancorp, Inc. with regard
to the market in which First Federal of Northern Michigan Bancorp, Inc.
competes, earnings quality or growth potential, among other factors. The
information shown in the following table was not included in the appraisal
report; however, RP Financial did consider the after-market trading experience
of any transaction that closed within the three months prior to the November 26,
2004 valuation date used in the appraisal.
PRICE PERFORMANCE FROM INITIAL TRADING DATE
------------------------------------------------------
THROUGH
% CHANGE 1 % CHANGE 1 % CHANGE JANUARY 31,
INSTITUTION CONVERSION DATE EXCHANGE DAY WEEK 1 MONTH 2005
------------------------------------------- --------------- ------------- ------------ ------------- ------------- -------------
Roebling Financial Corp. (NJ) 10/1/04 OTC BB -1.0% -0.5% -8.0% -3.5%
DSA Financial Corporation (IN) 7/30/04 OTC BB -2.0% -5.0% -7.0% 10.0%
Partners Trust Financial Group, Inc. (NY) 7/15/04 NASDAQ -0.1% -0.2% -1.9% 9.2%
Synergy Financial Group, Inc. (NJ) 1/21/04 NASDAQ 8.1% 8.0% 7.9% 28.5%
Provident Bancorp, Inc. (NY) 1/15/04 NASDAQ 15.0% 11.0% 15.1% 27.5%
Bank Mutual Corporation (WI) 10/30/03 NASDAQ 17.8% 18.5% 15.4% 20.8%
Jefferson Bancshares, Inc. (TN) 7/1/03 NASDAQ 23.9% 25.5% 40.0% 32.1%
AVERAGES - SECOND STEP CONVERSIONS 8.8% 8.2% 8.8% 17.8%
MEDIANS - SECOND STEP CONVERSIONS 8.1% 8.0% 7.9% 20.8%
The table above presents only short-term historical information on stock
price performance, which may not be indicative of the longer-term performance of
such stock prices. They are also not intended to predict how our shares of
common stock may perform following the offering. The historical information in
the tables may not be meaningful to you because the data were calculated using a
small sample and the transactions from which the data were derived occurred
primarily during a low market interest rate environment, during which time the
trading prices for financial institution stocks typically increase.
You should bear in mind that stock price appreciation or depreciation is
affected by many factors. THERE CAN BE NO ASSURANCE THAT OUR STOCK PRICE WILL
NOT TRADE BELOW $10.00 PER SHARE. BEFORE YOU MAKE AN INVESTMENT DECISION, WE
URGE YOU TO CAREFULLY READ THIS PROSPECTUS, INCLUDING, BUT NOT LIMITED TO, THE
SECTION ENTITLED "RISK FACTORS" BEGINNING ON PAGE 19.
BENEFITS TO MANAGEMENT AND POTENTIAL DILUTION TO STOCKHOLDERS RESULTING FROM THE
CONVERSION
Our tax-qualified employee stock ownership plan expects to purchase up
to 8% of the shares of common stock we sell in the offering (including shares we
issue to the charitable foundation), or 150,144 shares of common stock, assuming
we sell the maximum number of the shares proposed to be sold. If we receive
orders for more shares of common stock than the maximum of the offering range,
the employee stock ownership plan will have first priority to purchase shares
over this maximum, up to a total of 8% of the shares of common stock sold in the
offering (including the shares we issue to the charitable foundation). We
reserve the right to purchase shares of common stock in the open market
following the offering in order to fund the employee stock ownership plan. This
plan is a tax-qualified retirement plan for the benefit of all our employees
which was established in 1994, and which as of September 30, 2004,
8
had no remaining unallocated shares within the plan. Assuming the employee stock
ownership plan purchases 150,144 shares in the offering, we will recognize
additional compensation expense of $1.5 million (or $991,000 after tax) over a
15-year period, assuming the loan to the employee stock ownership plan has a
15-year term and the shares of common stock have a fair market value of $10.00
per share for the full 15-year period. If, in the future, the shares of common
stock have a fair market value greater or less than $10.00, the compensation
expense will increase or decrease accordingly.
We also intend to implement a stock-based recognition and retention plan
and a stock option plan no earlier than six months after completion of the
conversion. Stockholder approval of these plans will be required. If adopted
within 12 months following the completion of the conversion, the stock
recognition and retention plan will reserve a number of shares equal to 4% of
the shares sold in the offering (including the shares we issue to the charitable
foundation), or up to 75,072 shares of common stock at the maximum of the
offering range, for awards to key employees and directors, at no cost to the
recipients. If the shares of common stock awarded under the stock recognition
and retention plan come from authorized but unissued shares of common stock,
stockholders would experience dilution of up to approximately 2.2% in their
ownership interest in First Federal of Northern Michigan Bancorp, Inc. If
adopted within 12 months following the completion of the conversion, the stock
option plan will reserve a number of shares equal to 10% of the shares of common
stock sold in the offering, or up to 187,680 shares of common stock at the
maximum of the offering range (including shares we issue to the charitable
foundation), for key employees and directors upon their exercise. If the shares
of common stock issued upon the exercise of options come from authorized but
unissued shares of common stock, stockholders would experience dilution of
approximately 5.3% in their ownership interest in First Federal of Northern
Michigan Bancorp, Inc. Awards made under these plans would be subject to vesting
over a period of years. If the stock recognition and retention plan or stock
option plan are adopted more than one year after the completion of the
conversion, awards or grants under such plans may exceed 4% and 10%,
respectively, of the shares issued in the offering.
The following table summarizes the number of shares of common stock and
the aggregate dollar value of grants that are expected under the new stock
recognition and retention plan and the new stock option plan as a result of the
conversion. The table also shows the dilution to stockholders if all such shares
are issued from authorized but unissued shares, instead of shares purchased in
the open market. A portion of the stock grants shown in the table below may be
made to non-management employees.
NUMBER OF SHARES TO BE GRANTED OR
PURCHASED VALUE OF GRANTS (1)
----------------------------------------- DILUTION ----------------------------
AS A RESULTING
PERCENTAGE FROM
OF COMMON ISSUANCE
STOCK TO OF SHARES
AT MINIMUM AT MAXIMUM BE ISSUED FOR STOCK AT MINIMUM AT MAXIMUM
OF OFFERING OF OFFERING IN THE BENEFIT OF OFFERING OF OFFERING
RANGE RANGE OFFERING(2) PLANS (3) RANGE RANGE
------------- ------------- ------------- -------------- -------------- -------------
(DOLLARS IN THOUSANDS)
Employee stock ownership
plan...................... 110,976 150,144 8.2% 4.3% $ 1,110 $ 1,501
Recognition and retention
plan...................... 55,488 75,072 4.1 2.2 555 751
Stock option plan........... 138,720 187,680 10.2 5.3 355 480
---------- --------- ---- --- --------- ---------
Total.................... 305,184 412,896 22.5% 11.8% $ 2,020 $ 2,732
========== ========= ==== ==== ========= =========
9
----------------------------
(1) The actual value of restricted stock grants will be determined based on
their fair value as of the date grants are made. For purposes of this
table, fair value is assumed to be the same as the offering price of
$10.00 per share. The fair value of stock options has been estimated at
$2.56 per option using the Black-Scholes option pricing model with the
following assumptions: a grant-date share price and option exercise
price of $10.00; dividend yield of 1.75%; an expected option life of 10
years; a risk free interest rate of 4.27%; and a volatility rate of
14.89% based on an index of publicly traded thrift institutions. The
actual expense of the stock option plan will be determined by the
grant-date fair value of the options, which will depend on a number of
factors, including the valuation assumptions used in the option pricing
model ultimately adopted.
(2) Percentage does not reflect shares to be issued to the charitable
foundation. The stock option plan and recognition and retention plan may
award a greater number of options and shares, respectively, if the plans
are adopted more than one year after the completion of the conversion,
although such plans may remain subject to supervisory restrictions.
(3) Calculated at the maximum of the offering range.
The value of the shares awarded under the stock recognition and
retention plan is assumed to be the price of First Federal of Northern Michigan
Bancorp, Inc.'s common stock at the time the shares are awarded. The stock
recognition and retention plan is subject to stockholder approval, and cannot be
implemented until at least six months after the offering. The following table
presents the total value of all shares that would be available for award and
issuance under the stock recognition and retention plan, assuming the shares are
awarded when the market price of our common stock ranges from $8.00 per share to
$14.00 per share.
55,488 SHARES 75,072 SHARES 86,140 SHARES
AWARDED AT MINIMUM 65,280 SHARES AWARDED AWARDED AT MAXIMUM AWARDED AT MAXIMUM
SHARE PRICE OF RANGE AT MIDPOINT OF RANGE OF RANGE OF RANGE, AS ADJUSTED
-------------------- -------------------- ------------------------ ------------------- -----------------------
(Dollars in thousands, except per share prices)
$ 8.00 $ 444 $ 522 $ 601 $ 689
$10.00 555 653 751 861
$12.00 666 783 901 1,034
$14.00 777 914 1,051 1,206
The grant-date fair value of the options granted under the stock option
plan will be based in part on the price of shares of common stock of First
Federal of Northern Michigan Bancorp, Inc. at the time the options are granted.
The stock option plan is subject to stockholder approval and cannot be
implemented until at least six months after the completion of the conversion.
The value will also depend on the various assumptions utilized in the option
pricing model ultimately adopted. The following table presents the total
estimated value of the options to be available for grant under the stock option
plan, assuming the market price and exercise price for the stock options are
equal and the range of market prices for the shares is $8.00 per share to $14.00
per share.
215,350 OPTIONS AT
GRANT-DATE FAIR 138,720 OPTIONS AT 163,200 OPTIONS AT 187,680 OPTIONS AT MAXIMUM OF
EXERCISE PRICE VALUE PER OPTION MINIMUM OF RANGE MIDPOINT OF RANGE MAXIMUM OF RANGE RANGE, ASADJUSTED
------------------ ------------------ -------------------- -------------------- -------------------- --------------------
$ 8.00 $ 2.05 $ 284,099 $ 334,234 $ 384,369 $ 441,037
10.00 2.56 355,123 417,792 480,461 551,296
12.00 3.07 426,148 501,350 576,553 661,555
14.00 3.58 497,172 584,909 672,645 771,814
THE TABLES PRESENTED ABOVE ARE PROVIDED FOR INFORMATIONAL PURPOSES ONLY.
THERE CAN BE NO ASSURANCE THAT OUR STOCK PRICE WILL NOT TRADE BELOW $10.00 PER
SHARE. BEFORE YOU MAKE AN INVESTMENT DECISION, WE URGE YOU TO CAREFULLY READ
THIS PROSPECTUS, INCLUDING, BUT NOT LIMITED TO, THE SECTION ENTITLED "RISK
FACTORS" BEGINNING ON PAGE 19.
THE EXCHANGE OF EXISTING SHARES OF ALPENA BANCSHARES, INC. COMMON STOCK
If you are currently a stockholder of Alpena Bancshares, Inc, your
shares will be canceled at the conclusion of the offering and become the right
to receive shares of common stock of First Federal of Northern Michigan Bancorp,
Inc. The number of shares of common stock you receive will be based on an
exchange ratio determined as of the closing of the conversion, which will depend
upon our final
10
appraised value. The number of shares you receive is not based on the market
price of our currently outstanding shares. The following table shows how the
exchange ratio will adjust, based on the valuation of First Federal of Northern
Michigan Bancorp, Inc. and the number of shares of common stock issued in the
offering. The table also shows the number of new shares a hypothetical owner of
Alpena Bancshares, Inc. common stock would receive in exchange for 100 shares of
Alpena Bancshares, Inc. common stock owned at the consummation of the
conversion, depending on the number of shares of common stock issued in the
offering.
NEW SHARES
NEW SHARES TO BE EXCHANGED TOTAL SHARES OF TO BE
NEW SHARES TO BE SOLD FOR EXISTING SHARES OF COMMON STOCK TO RECEIVED
IN THIS OFFERING(1) ALPENA BANCSHARES, INC. BE ISSUED IN FOR 100
--------------------- --------------------- CONVERSION AND EXCHANGE EXISTING
AMOUNT PERCENT AMOUNT PERCENT OFFERING RATIO SHARES
---------- --------- ---------- --------- --------------- ----------- -----------
Minimum............ 1,360,000 55.4% 1,092,701 44.6% 2,479,901 1.4783 147
Midpoint........... 1,600,000 55.4 1,285,530 44.6 2,917,530 1.7391 173
Maximum............ 1,840,000 55.4 1,478,360 44.6 3,355,160 2.0000 200
15% above Maximum.. 2,116,000 55.4 1,700,113 44.6 3,853,613 2.3000 230
-----------------
(1) Does not include 27,200, 32,000, 36,800 and 37,500 shares issued to the
charitable foundation at the minimum, midpoint, maximum and adjusted
maximum of the offering range, respectively.
If you own shares of Alpena Bancshares, Inc. common stock in a brokerage
account in "street name," you do not need to take any action to exchange your
shares of common stock. If you own shares in the form of Alpena Bancshares, Inc.
stock certificates, you will receive a transmittal form with instructions to
surrender your stock certificates after consummation of the conversion. New
certificates of First Federal of Northern Michigan Bancorp, Inc. common stock
will be mailed to you within five business days after the exchange agent
receives properly executed transmittal forms and your Alpena Bancshares, Inc.
stock certificates.
YOU SHOULD NOT SUBMIT A STOCK CERTIFICATE UNTIL YOU RECEIVE A
TRANSMITTAL FORM.
No fractional shares of First Federal of Northern Michigan Bancorp, Inc.
common stock will be issued to any public stockholder of Alpena Bancshares, Inc.
For each fractional share that would otherwise be issued, First Federal of
Northern Michigan Bancorp, Inc. will pay in cash an amount equal to the product
obtained by multiplying the fractional share interest to which the holder would
otherwise be entitled by the $10.00 per share subscription price.
DISSENTERS' RIGHTS OF APPRAISAL
Office of Thrift Supervision regulations generally provide that a
stockholder of a federally chartered corporation that merges, consolidates or
sells all or substantially all of its assets has the right to demand from the
corporation payment of the fair or appraised value of his or her stock in the
corporation, subject to specified procedural requirements. Current stockholders
of Alpena Bancshares, Inc. have dissenters' rights in connection with the
conversion under these regulations. See "Comparison of Stockholders' Rights for
the Existing Stockholders of Alpena Bancshares, Inc. - Dissenters' Rights of
Appraisal" on page 147.
LIMITS ON HOW MUCH COMMON STOCK YOU MAY PURCHASE
The minimum number of shares of common stock that may be purchased is
25.
IF YOU ARE NOT CURRENTLY AN ALPENA BANCSHARES, INC. STOCKHOLDER -
11
No individual, or individual exercising subscription rights through a
qualifying account held jointly, may purchase more than $150,000 (15,000 shares)
of common stock. If any of the following persons purchases shares of common
stock, their purchases, in all categories of the offering, when combined with
your purchases, cannot exceed $250,000 (25,000 shares) of common stock:
o your spouse or relatives of you or your spouse living in your
house;
o most companies, trusts or other entities in which you are a
trustee, have a substantial beneficial interest or hold a senior
position; or
o other persons who may be your associates or persons acting in
concert with you.
See the detailed description of "acting in concert" and "associate" in
"The Conversion--Limitations on Common Stock Purchases."
IF YOU ARE CURRENTLY AN ALPENA BANCSHARES, INC. STOCKHOLDER -
In addition to the above purchase limitations, there is an ownership
limitation. Shares of common stock that you purchase in the offering
individually and together with persons described above, PLUS any new shares you
and they receive in the exchange for existing shares of Alpena Bancshares, Inc.
common stock, may not exceed 5% of the total shares of common stock to be issued
and outstanding after the completion of the conversion. Subject to Office of
Thrift Supervision approval, we may increase or decrease the purchase and
ownership limitations at any time.
ISSUANCE OF SHARES OF OUR COMMON STOCK AND CONTRIBUTION OF CASH TO THE
CHARITABLE FOUNDATION
To further our commitment to our local community, we have made
substantial charitable contributions over the years. In 2004 and 2003, these
contributions totaled $26,000 and $31,000, respectively. As part of the
conversion and offering, we intend to establish a charitable foundation which
will be dedicated exclusively to supporting charitable causes and community
development activities in the communities in which we operate and which will
serve as our vehicle for charitable contributions in future periods. We intend
to fund the foundation through a contribution of cash in an amount equal to 2%
of the shares we sell to purchasers in the offering, PROVIDED the cash does not
exceed $375,000, and common stock equal to 2% of the shares we sell to
purchasers in the offering, PROVIDED the common stock contribution does not
exceed 37,500 shares. As a result of the contribution of shares and cash to the
charitable foundation, we will record an after-tax expense of up to $495,000
during the quarter in which the conversion is completed. We do not expect to
make additional contributions to the charitable foundation subsequent to this
initial funding.
Issuing additional shares of common stock to the charitable foundation
will:
o dilute the voting interests of purchasers of shares of our
common stock in the offering; and
o result in an expense, and a reduction in earnings, during the
quarter in which the contribution is made, equal to the full
amount of the contribution to the charitable foundation, offset
in part by a corresponding tax benefit.
The establishment and funding of the charitable foundation has been
approved by the boards of directors of Alpena Bancshares, Inc. and First Federal
of Northern Michigan.
12
See "Risk Factors--The Issuance of Shares to the Charitable Foundation
Will Dilute Your Ownership Interests and Adversely Affect Net Income in Fiscal
2005," "Comparison of Valuation and Pro Forma Information With and Without the
Foundation" and "First Federal Community Foundation" at page 141.
HOW YOU MAY PURCHASE SHARES OF COMMON STOCK
In the subscription offering and community offering, you may pay for
your shares only by:
(i) personal check, bank check or money order made payable directly
to First Federal of Northern Michigan; or
(ii) authorizing us to withdraw funds from the types of First Federal
of Northern Michigan deposit accounts designated on the stock
order form.
First Federal of Northern Michigan is not permitted to lend funds to
anyone for the purpose of purchasing shares of common stock in the offering.
Additionally, you may not use a First Federal of Northern Michigan line of
credit check or third party check to pay for shares of common stock.
You can subscribe for shares of common stock in the offering by
delivering a signed and completed original stock order form, together with full
payment payable to First Federal of Northern Michigan or authorization to
withdraw funds from one or more of your First Federal of Northern Michigan
qualified deposit accounts, provided that we receive the stock order form before
10:00 a.m., Alpena, Michigan time, March 15, 2005, which is the end of the
offering period. Checks will be deposited with First Federal of Northern
Michigan or another insured depository institution upon receipt. We will pay
interest at First Federal of Northern Michigan's passbook savings rate from the
date funds are received until completion or termination of the conversion. You
may not designate a withdrawal from First Federal of Northern Michigan accounts
with check-writing privileges. Please provide a check instead, because we cannot
place holds on checking accounts. If you request that we do so, we reserve the
right to interpret that as your authorization to treat those funds as if we had
received a check for the designated amount, and we will immediately withdraw the
amount from your checking account(s). After we receive an order for shares of
our common stock, the order cannot be cancelled or changed.
Withdrawals from certificates of deposit to purchase shares of common
stock in the offering may be made without incurring an early withdrawal penalty.
If a withdrawal results in a certificate account with a balance less than the
applicable minimum balance requirement, the certificate will be canceled at the
time of withdrawal without penalty and the remaining balance will earn interest
at the current passbook rate subsequent to the withdrawal. All funds authorized
for withdrawal from deposit accounts at First Federal of Northern Michigan must
be in the accounts at the time the stock order is received. However, funds will
not be withdrawn from the accounts until the completion of the offering and will
earn interest at the applicable deposit account rate until that time. A hold
will be placed on those funds when your stock order is received, making the
designated funds unavailable to you.
By signing the stock order form, you are acknowledging both receipt of a
Prospectus and that the shares of common stock are not deposits or savings
accounts that are federally insured or otherwise guaranteed by First Federal of
Northern Michigan or the federal government.
You may be able to subscribe for shares of common stock using funds in
your individual retirement account, or IRA. However, shares of common stock must
be held in a self-directed retirement account, such as those offered by a
brokerage firm. By regulation, First Federal of Northern Michigan's individual
retirement accounts are not self-directed, so they cannot be invested in our
common stock. If
13
you wish to use some or all of the funds in your First Federal of Northern
Michigan individual retirement account, the applicable funds must be transferred
to a self-directed account maintained by an independent trustee, such as a
brokerage firm. If you do not have such an account, you will need to establish
one before placing your stock order. An annual administrative fee may be payable
to the independent trustee. Because individual circumstances differ and
processing of retirement fund orders takes additional time, we recommend that
you contact our Stock Information Center promptly, preferably at least two weeks
before the March 15, 2005 offering deadline, for assistance with purchases using
your individual retirement account or other retirement account that you may have
at First Federal of Northern Michigan or elsewhere. Whether you may use such
funds for the purchase of shares in the stock offering may depend on timing
constraints and, possibly, limitations imposed by the institution where the
funds are held.
DELIVERY OF STOCK CERTIFICATES
Certificates representing shares of common stock sold in the offering
will be mailed to the persons entitled thereto at the certificate registration
address noted on the order form, as soon as practicable following consummation
of the offering and receipt of all necessary regulatory approvals. IT IS
POSSIBLE THAT, UNTIL CERTIFICATES FOR THE COMMON STOCK ARE DELIVERED TO
PURCHASERS, PURCHASERS MIGHT NOT BE ABLE TO SELL THE SHARES OF COMMON STOCK
WHICH THEY ORDERED, EVEN THOUGH THE COMMON STOCK WILL HAVE BEGUN TRADING.
HOW WE INTEND TO USE THE PROCEEDS FROM THE OFFERING
We estimate net proceeds from the offering will be between $12,822,000
and $17,482,000, or $20,209,000 if the offering range is increased by 15%. First
Federal of Northern Michigan Bancorp, Inc. intends to retain between $2.6
million and $6.7 million of the net proceeds, or $9.1 million if the offering
range is increased by 15%. Approximately $10.3 million to $10.9 million of the
net proceeds (or $11.2 million if the offering range is increased by 15%) will
be invested in First Federal of Northern Michigan.
A portion of the net proceeds retained by First Federal of Northern
Michigan Bancorp, Inc. will be loaned to the employee stock ownership plan to
fund its purchase of shares of common stock in the offering (between 110,976
shares and 150,144 shares, or 172,280 shares if the offering is increased by
15%). The employee stock ownership plan was established in connection with our
1994 mutual holding company reorganization. As of September 30, 2004, there were
no remaining unallocated shares in the plan. The remainder of the net proceeds
will be used for general corporate purposes, including paying cash dividends and
repurchasing shares of our common stock. Funds invested in First Federal of
Northern Michigan will be used to support increased lending and new products and
services. The net proceeds retained by First Federal of Northern Michigan
Bancorp, Inc. and First Federal of Northern Michigan also may be used for future
business expansion through acquisitions of branch offices or banking or
financial services companies. Initially, a substantial portion of the net
proceeds will be invested in short-term investments, investment-grade debt
obligations and mortgage-backed securities.
Please see the section of this Prospectus entitled "How We Intend to Use
the Proceeds From the Offering" for more information on the proposed use of the
proceeds from the offering.
YOU MAY NOT SELL OR TRANSFER YOUR SUBSCRIPTION RIGHTS
Office of Thrift Supervision regulations prohibit you from transferring
your subscription rights. If you order shares of common stock in the
subscription offering, you will be required to state that you are purchasing the
common stock for yourself and that you have no agreement or understanding to
sell or transfer your subscription rights. We intend to take legal action,
including reporting persons to federal or state regulatory agencies, against
anyone who we believe has sold or given away his or her subscription
14
rights. We will not accept your order if we have reason to believe that you have
sold or transferred your subscription rights. On the order form, you may not add
the names of others for joint stock registration who do not have subscription
rights or who qualify only in a lower subscription offering priority than you
do. You may add only those who were eligible to purchase shares of common stock
in the subscription offering at your date of eligibility. In addition, the stock
order form requires that you list all deposit accounts, giving all names on each
account and the account number at the applicable eligibility date. Failure to
provide this information, or providing incomplete or incorrect information, may
result in a loss of part or all of your share allocation, if there is an
oversubscription.
DEADLINE FOR ORDERS OF COMMON STOCK
If you wish to purchase shares of common stock, a properly completed
original stock order form, together with full payment for the shares of common
stock, must be received (not postmarked) by the Stock Information Center or our
main office no later than 10:00 a.m., Alpena, Michigan time, on March 15, 2005,
unless we extend this deadline. You may submit your stock order form by mail
using the return envelope provided, by overnight courier to the indicated
address on the stock order form, or by delivery to our Stock Information Center
located at our main office. Order forms may not be delivered to First Federal of
Northern Michigan's branches (other than the Stock Information Center located in
our main office). Deliveries made to locations other than our main office will
be deemed invalid and will not be accepted. Once submitted, your order is
irrevocable unless the offering is terminated or extended beyond April 29, 2005
or the number of shares of common stock to be sold is increased to more than
2,116,000 shares or decreased to fewer than 1,360,000 shares. If the
subscription offering and/or community offering extend beyond April 29, 2005, we
will be required to resolicit subscriptions before proceeding with the offering,
and all funds delivered to us to purchase shares of common stock in the offering
will be returned promptly to the subscribers with interest.
Although we will make reasonable attempts to provide a Prospectus and
offering materials to holders of subscription rights, the subscription offering
and all subscription rights will expire at 10:00 a.m., Alpena, Michigan time, on
March 15, 2005, whether or not we have been able to locate each person entitled
to subscription rights.
STEPS WE MAY TAKE IF WE DO NOT RECEIVE ORDERS FOR THE MINIMUM NUMBER OF SHARES
If we do not receive orders for at least 1,360,000 shares of common
stock, we may take several steps in order to issue the minimum number of shares
of common stock in the offering range. Specifically, we may:
(i) increase the purchase and ownership limitations; and
(ii) seek regulatory approval to extend the offering beyond the April
29, 2005 expiration date, provided that any such extension will
require us to resolicit subscriptions received in the offering.
PURCHASES BY OFFICERS AND DIRECTORS
We expect our directors and executive officers, together with their
associates, to subscribe for 30,000 shares of common stock in the offering. The
purchase price paid by them will be the same $10.00 per share price paid by all
other persons who purchase shares of common stock in the offering. Following the
conversion, our directors and executive officers, together with their
associates, are expected to own 121,116 shares of common stock, or 4.1% of our
total outstanding shares of common stock at the midpoint of the offering range
(including the shares issued to the charitable foundation).
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MARKET FOR COMMON STOCK
Existing publicly held shares of Alpena Bancshares, Inc.'s common stock
trade over the counter on the OTC Bulletin Board under the symbol "ALPN." Upon
completion of the conversion, the new shares of common stock of First Federal of
Northern Michigan Bancorp, Inc. will replace existing shares, and we expect the
new shares will be traded on the Nasdaq National Market under the symbol "FFNM."
In order to list our stock on the Nasdaq National Market, we are required to
have at least three broker-dealers who will make a market in our common stock.
Alpena Bancshares, Inc. currently has more than three market makers, including
Ryan Beck & Co., Inc., and Ryan Beck & Co., Inc. has advised us that it intends
to make a market in our common stock following the offering, but it is under no
obligation to do so. Although we expect to have more than three market makers at
the time of the completion of the offering, if we do not have three market
makers, we will not qualify to list our stock on the Nasdaq National Market and
our stock will trade on the OTC Bulletin Board.
OUR DIVIDEND POLICY
Alpena Bancshares, Inc. currently pays a quarterly cash dividend of
$0.10 per share, which equals $0.40 per share on an annualized basis. After the
conversion, we intend to continue to pay cash dividends on a quarterly basis.
After adjustment for the exchange ratio, we expect the quarterly dividends to
equal $0.07, $0.06, $0.05 and $0.04 per share at the minimum, midpoint, maximum
and adjusted maximum of the offering range, respectively, which represents an
annual dividend yield of 2.8%, 2.4%, 2.0% and 1.6%, at the minimum, midpoint,
maximum and adjusted maximum of the offering range, respectively, based upon a
price of $10.00 per share. The amount of dividends that we intend to pay after
the conversion will preserve the dividend amount that Alpena Bancshares, Inc.
stockholders currently receive, as adjusted to reflect the exchange ratio.
However, the dividend rate and the continued payment of dividends will depend on
a number of factors, including our capital requirements, our financial condition
and results of operations, tax considerations, statutory and regulatory
limitations, and general economic conditions. No assurance can be given that we
will continue to pay dividends or that they will not be reduced or eliminated in
the future.
See "Selected Consolidated Financial and Other Data of Alpena
Bancshares, Inc. and Subsidiary" and "Market for the Common Stock" for
information regarding our historical dividend payments.
TAX CONSEQUENCES
As a general matter, the conversion will not be a taxable transaction
for purposes of federal or state income taxes to Alpena Bancshares, M.H.C.,
Alpena Bancshares, Inc., First Federal of Northern Michigan, persons eligible to
subscribe in the subscription offering, or existing stockholders of Alpena
Bancshares, Inc. Existing stockholders of Alpena Bancshares, Inc. who receive
cash in lieu of fractional share interests in new shares of First Federal of
Northern Michigan Bancorp, Inc. will recognize a gain or loss equal to the
difference between the cash received and the tax basis of the fractional share.
CONDITIONS TO COMPLETION OF THE CONVERSION
We cannot complete the conversion and offering unless:
o The plan of conversion and reorganization is approved by at
least A MAJORITY OF VOTES ELIGIBLE to be cast by members of
Alpena Bancshares, M.H.C. (depositors and certain borrowers of
First Federal of Northern Michigan);
o The plan of conversion and reorganization is approved by at
least TWO-THIRDS OF THE OUTSTANDING shares of common stock of
Alpena Bancshares, Inc.;
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o The plan of conversion and reorganization is approved by at
least A MAJORITY OF THE OUTSTANDING shares of common stock of
Alpena Bancshares, Inc., excluding those shares held by Alpena
Bancshares, M.H.C.;
o We sell at least the minimum number of shares of common stock
offered; and
o We receive the final approval of the Office of Thrift
Supervision to complete the conversion and offering.
Alpena Bancshares, M.H.C. intends to vote its ownership interest in
favor of the plan of conversion and reorganization. At September 30, 2004,
Alpena Bancshares, M.H.C. owned 55.4% of the outstanding shares of common stock
of Alpena Bancshares, Inc. The directors and executive officers of Alpena
Bancshares, Inc. and their affiliates owned 53,135 shares of Alpena Bancshares,
Inc., or 3.2% of the outstanding shares of common stock. They intend to vote
those shares in favor of the plan of conversion and reorganization.
DECREASE IN STOCKHOLDERS' RIGHTS FOR EXISTING STOCKHOLDERS OF ALPENA BANCSHARES,
INC.
As a result of the conversion, existing stockholders of Alpena
Bancshares, Inc. will become stockholders of First Federal of Northern Michigan
Bancorp, Inc.. Some rights of stockholders of the new Maryland corporation will
be reduced compared to the rights stockholders currently have. The reduction in
stockholder rights results from differences between the federal and Maryland
charters and bylaws, and from distinctions between Maryland and federal law.
Many of the differences in stockholder rights under the Maryland articles of
incorporation and bylaws are not mandated by Maryland law but have been chosen
by management as being in the best interests of First Federal of Northern
Michigan Bancorp, Inc. and all of its stockholders. The differences in
stockholder rights include the following: (i) approval by at least 80% of
outstanding shares required to remove a director for cause; (ii) greater lead
time required for stockholders to submit proposals for new business or nominate
directors; (iii) approval by at least 80% of outstanding shares required to
amend the articles of incorporation and bylaws; (iv) a residency requirement for
directors; and (v) approval by at least 80% of outstanding shares required to
approve business combinations involving an interested stockholder. See
"Comparison of Stockholders' Rights For Existing Stockholders of Alpena
Bancshares, Inc." for a discussion of these differences.
HOW YOU CAN OBTAIN ADDITIONAL INFORMATION - STOCK INFORMATION CENTER
Our branch office personnel may not, by law, assist with
investment-related questions about the offering. If you have any questions
regarding the conversion or offering, please call or visit our Stock Information
Center, located at 100 South Second Avenue, Alpena, Michigan, at ____________,
Monday through Friday between 9:30 a.m. and 4:00 p.m., Alpena, Michigan time.
The Stock Information Center will be closed weekends and bank holidays.
TO ENSURE THAT EACH PERSON RECEIVES A PROSPECTUS AT LEAST 48 HOURS PRIOR
TO THE EXPIRATION DATE OF MARCH 15, 2005 IN ACCORDANCE WITH FEDERAL LAW, NO
PROSPECTUS WILL BE MAILED ANY LATER THAN FIVE DAYS PRIOR TO MARCH 15, 2005 OR
HAND-DELIVERED ANY LATER THAN TWO DAYS PRIOR TO MARCH 15, 2005.
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RISK FACTORS
You should consider carefully the following risk factors in evaluating
an investment in the shares of common stock.
RISKS RELATED TO OUR BUSINESS
OUR COMMERCIAL REAL ESTATE AND COMMERCIAL LOANS EXPOSE US TO INCREASED CREDIT
RISKS AND MAY REQUIRE US TO INCREASE OUR PROVISIONS FOR LOAN LOSSES.
At September 30, 2004, our portfolio of commercial real estate loans
totaled $26.5 million, or 14.0% of total loans, and our portfolio of commercial
loans totaled $29.0 million, or 15.4% of total loans. Commercial real estate and
commercial loans have increased as a percentage of our total loan portfolio as
we have originated these loans for retention in our portfolio and sold into the
secondary mortgage market many of our one- to four-family fixed-rate residential
real estate loans. We plan to continue to originate commercial real estate and
commercial loans and retain them in our portfolio. Commercial real estate and
commercial loans generally have greater credit risk than one- to four-family
residential mortgage loans because repayment of the loans often depends on the
successful business operations of the borrowers. These loans typically have
larger loan balances compared to one- to four-family residential mortgage loans.
Many of our borrowers also have more than one commercial real estate or
commercial loan outstanding with us. Consequently, an adverse development with
respect to one loan or one credit relationship can expose us to significantly
greater risk of loss compared to an adverse development with respect to a one-
to four-family residential mortgage loan. Finally, if we foreclose on a
commercial real estate or commercial loan, our holding period for the
collateral, if any, typically is longer than for one- to four-family residential
mortgage loans because there are fewer potential purchasers of the collateral.
Because we plan to continue to increase our originations of commercial real
estate and commercial loans, it may be necessary to increase the level of our
allowance for loan losses because of the increased risk characteristics
associated with these types of loans. Any such increase to our allowance for
loan losses would adversely affect our earnings.
OUR CONCENTRATION OF LOANS IN OUR PRIMARY MARKET AREA MAY INCREASE OUR RISK.
Our success depends primarily on the general economic conditions in
Alpena, Alcona, Antrim, Charlevoix, Cheboygan, Iosco, Montmorency, Oscoda,
Otsego and Presque Isle Counties, Michigan where we primarily conduct business.
Unlike larger banks that are more geographically diversified, we provide banking
and financial services to customers primarily in these areas. The local economic
conditions in our market area have a significant impact on our loans, the
ability of the borrowers to repay these loans and the value of the collateral
securing these loans. Unemployment rates in our primary market area are
generally higher than state and national levels. Our market area is also
sparsely populated, has experienced slow population growth, and has limited
industrial development compared to more urban and suburban areas. The population
of Alpena (city and township), from which the majority of our deposits are
drawn, has decreased since 2000, and currently is approximately 21,000. The
population of our primary market area, which includes Alpena County and seven
surrounding counties, was approximately 187,000 in 2004, an increase of 2.2%
from 2000, and is expected to increase by 2.1% through 2009. Per capita income
in our market area in 2004 was 15.4% lower than the national level and 16.7%
lower than Michigan as a whole. Growth in per capita income is projected to
increase only modestly in our primary market area over the next five years. A
significant decline in general economic conditions caused by inflation,
recession, unemployment or other factors beyond our control would affect
economic conditions in our market area and could adversely affect our financial
condition and results of operations.
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THE SIZE OF OUR BRANCH NETWORK HAS INCREASED OUR EXPENSES AND MAY CONTINUE TO
REDUCE OUR PROFITABILITY IN THE NEAR TERM.
At September 30, 2004, we operated ten full-service branch offices,
including two full-service branch offices acquired in 2004. We believe our ratio
of branch offices to total assets is higher than most of our peer institutions.
As a result of this extensive branch network, including the expenses associated
with our new offices, our efficiency ratio, which is the ratio of non-interest
expense to net interest income and other income, has been high. Our efficiency
ratio has increased from 76.04% for the year ended December 31, 2001 to 95.34%
for the nine months ended September 30, 2004. We expect it will take some time
for our branch network to generate sufficient loans and deposits to produce
enough income to offset our ongoing expenses, some of which, like compensation
and occupancy costs, are substantially fixed.
CHANGES IN MARKET INTEREST RATES COULD ADVERSELY AFFECT OUR FINANCIAL CONDITION
AND RESULTS OF OPERATIONS.
Our financial condition and results of operations are significantly
affected by changes in market interest rates. Our results of operations depend
substantially on our net interest income, which is the difference between the
interest income that we earn on our interest-earning assets (consisting
primarily of loans and securities) and the interest expense that we pay on our
interest-bearing liabilities (consisting primarily of deposits). As of September
30, 2004, loans and securities represented 90.4% of our total assets, and
deposits and borrowings represented 98.8% of our liabilities. As a result, for
the nine months ended September 30, 2004, interest income represented 73.1% of
our gross revenues (interest income and non-interest income), and interest
expense represented 36.0% of our total expenses (interest expense and
non-interest expense). Because our interest-bearing liabilities generally
reprice or mature more quickly than our interest-earning assets, an increase in
interest rates generally would result in a decrease in our net interest income.
We also are subject to reinvestment risk associated with changes in
interest rates. Changes in interest rates may affect the average life of loans
and mortgage-related securities. Decreases in interest rates often result in
increased prepayments of loans and mortgage-related securities, as borrowers
refinance their loans to reduce borrowing costs. Under these circumstances, we
are subject to reinvestment risk to the extent that we are unable to reinvest
the cash received from such prepayments in loans or other investments that have
interest rates that are comparable to the interest rates on existing loans and
securities. Additionally, increases in interest rates may decrease loan demand
and/or make it more difficult for borrowers to repay adjustable rate loans.
As of September 30, 2004, we were servicing loans sold to third parties
totaling $140.4 million which had a book value, at such date, of $898,000.
Generally, the value of mortgage servicing rights increases as interest rates
rise and decreases as interest rates fall, because the estimated life and
estimated income from the underlying loans increase with rising interest rates
and decrease with falling interest rates.
Changes in interest rates also affect the current market value of our
interest-earning assets, and in particular our securities portfolio. Generally,
the value of securities fluctuates inversely with changes in interest rates. At
September 30, 2004, our agency securities and mortgage-backed securities
available for sale totaled $42.9 million. Unrealized gains on securities
available for sale, net of tax, amounted to $133,700 for the nine months ended
September 30, 2004 and are reported as a separate component of stockholders'
equity. However, decreases in the fair value of securities available for sale in
future periods could have an adverse effect on stockholders' equity.
19
Management evaluates interest rate sensitivity using a model that
estimates the change in our net portfolio value over a range of interest rate
scenarios. Net portfolio value is the discounted present value of expected cash
flows from assets, liabilities and off-balance sheet contracts. At September 30,
2004, in the event of an immediate 200 basis point increase in interest rates,
we would be expected to experience a 20% decrease in net portfolio value. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations--Management of Interest Rate Risk" for further information on the
potential effects of interest rate risk on our financial condition.
STRONG COMPETITION WITHIN OUR MARKET AREA MAY LIMIT OUR GROWTH AND
PROFITABILITY.
Competition in the banking and financial services industry is intense.
In our market area, we compete with commercial banks, savings institutions,
mortgage brokerage firms, credit unions, finance companies, mutual funds,
insurance companies, and brokerage and investment banking firms operating
locally and elsewhere. Many of these competitors have substantially greater
resources and lending limits than we have and offer certain services that we do
not or cannot provide. Within our market area, we hold only 6.2% of all bank and
thrift deposits; our ten full-service offices compare with 106 branch offices of
other financial institutions in our market area. Our profitability depends upon
our continued ability to successfully compete in our market area. The greater
resources and deposit and loan products offered by our competition may limit our
ability to increase our interest earning assets. For additional information, see
"Business of Alpena Bancshares, Inc. and First Federal of Northern
Michigan--Market Area and Competition."
RISKS RELATED TO THE CONVERSION
THE FUTURE PRICE OF THE SHARES OF COMMON STOCK MAY BE LESS THAN THE PURCHASE
PRICE IN THE OFFERING.
We cannot assure you that if you purchase shares of common stock in the
offering you will be able to sell them later at or above the $10.00 purchase
price in the offering. In several cases, shares of common stock issued by newly
converted savings institutions or mutual holding companies have traded below the
price at which such shares were sold in the offering conducted by those
companies. The aggregate purchase price of the shares of common stock sold in
the offering will be based on an independent appraisal. The appraisal is not
intended, and should not be construed, as a recommendation of any kind as to the
advisability of purchasing shares of common stock. The appraisal is based on
estimates and projections of a number of matters, all of which are subject to
change from time to time. After our shares begin trading, the trading price of
our common stock will be determined by the marketplace, and may be influenced by
many factors, including prevailing interest rates, the overall performance of
the economy, investor perceptions of First Federal of Northern Michigan Bancorp,
Inc. and the outlook for the financial institutions industry in general.
OUR FAILURE TO UTILIZE EFFECTIVELY THE NET PROCEEDS OF THE OFFERING COULD REDUCE
OUR PROFITABILITY AND OUR RETURN ON STOCKHOLDERS' EQUITY.
First Federal of Northern Michigan Bancorp, Inc. intends to contribute
between $10.3 million and $10.9 million of the net proceeds of the offering (or
$11.2 million at the adjusted maximum of the offering range) to First Federal of
Northern Michigan. First Federal of Northern Michigan Bancorp, Inc. may use the
remaining net proceeds to finance the acquisition of other financial
institutions or financial services companies, pay dividends to stockholders,
repurchase shares of common stock, purchase investment securities, or for other
general corporate purposes. First Federal of Northern Michigan Bancorp, Inc.
expects to use a portion of the net proceeds to fund the purchase of shares of
common stock in the offering by the employee stock ownership plan. First Federal
of Northern Michigan may use the proceeds it receives to acquire new branches,
acquire financial institutions or financial services
20
companies, fund new loans, purchase investment securities, or for general
corporate purposes. We have not allocated specific amounts of the proceeds for
any of these purposes, and we will have significant flexibility in determining
how much of the net proceeds we apply to different uses and the timing of such
applications. We have not established a timetable for the effective deployment
of the proceeds and we cannot predict how long we will require to effectively
deploy the proceeds.
Additionally, net income divided by average stockholders' equity, known
as "return on equity," is a ratio many investors use to compare the performance
of a financial institution to its peers. Our return on equity ratio for the
twelve months ended September 30, 2004 was 3.44%, compared to an average of
8.38% for all public companies over the same period. We expect our return on
equity to decrease as compared to our performance in recent years until we are
able to utilize effectively the additional capital raised in the offering. Until
we can increase our net interest income and non-interest income, we expect our
return on equity to be below the industry average, which may negatively affect
the value of our common stock.
THE OWNERSHIP INTEREST OF MANAGEMENT AND EMPLOYEES COULD ENABLE INSIDERS TO
PREVENT A MERGER THAT MAY PROVIDE STOCKHOLDERS A PREMIUM FOR THEIR SHARES.
The shares of common stock that our directors and officers intend to
purchase in the conversion, when combined with the shares that they will receive
in the exchange is expected to result in management and the board controlling
approximately 4% of our outstanding shares of common stock. These shares, when
combined with the 8% of the shares expected to be purchased by our employee
stock ownership plan, will result in management and employees controlling a
significant percentage of our common stock. If these individuals were to act
together, they could have significant influence over the outcome of any
stockholder vote. This voting power may discourage a potential sale of First
Federal of Northern Michigan Bancorp, Inc. that our stockholders may desire. In
addition, the total voting power of management and employees could, in the
future, exceed 20% of our outstanding shares of common stock if a stock option
plan or a stock recognition and retention plan is adopted in the future. That
level would enable management and employees as a group to defeat any stockholder
matter that requires an 80% vote, including removal of directors, approval of
certain business combinations with interested stockholders and certain
amendments to our articles of incorporation and bylaws.
THERE MAY BE A LIMITED MARKET FOR OUR COMMON STOCK, WHICH MAY LOWER OUR STOCK
PRICE.
We have applied to list our shares of common stock for trading on the
Nasdaq National Market. We cannot guarantee that the shares will be regularly
traded. If an active trading market for our common stock does not develop, you
may not be able to sell all of your shares of common stock on short notice, and
the sale of a large number of shares at one time could temporarily depress the
market price.
The ISSUANCE OF SHARES AND THE CONTRIBUTION OF CASH TO THE CHARITABLE FOUNDATION
WILL DILUTE YOUR OWNERSHIP INTERESTS AND ADVERSELY AFFECT NET INCOME IN FISCAL
2005.
We intend to establish a charitable foundation in connection with the
conversion and intend to make a contribution of cash in an amount equal to 2% of
the shares we sell to purchasers in the offering, PROVIDED the cash does not
exceed $375,000 and common stock equal to 2% of the shares we sell to purchasers
in the offering, PROVIDED the common stock contribution does not exceed 37,500
shares. This contribution will have an adverse effect on our net income for the
quarter and year in which we make the contribution. The after-tax expense of the
contribution will reduce net income in our 2005 fiscal year by up to
approximately $495,000. Persons purchasing shares in the offering will have
their ownership and voting interests in First Federal of Northern Michigan
Bancorp, Inc. diluted by 1.1% (at the midpoint of the offering range) due to the
issuance of additional shares of common stock to the charitable foundation.
21
OUR CONTRIBUTION TO THE CHARITABLE FOUNDATION MAY NOT BE TAX DEDUCTIBLE, WHICH
COULD REDUCE OUR PROFITS.
We believe that the contribution to the charitable foundation, valued at
up to $750,000, will be deductible for federal income tax purposes. However, we
cannot assure you that the Internal Revenue Service will grant tax-exempt status
to the charitable foundation. If the contribution is not deductible, we would
not receive any tax benefit from the contribution. In addition, even if the
contribution is tax deductible, under federal tax regulations, we are permitted
to deduct only up to 10% of our net income for charitable contributions;
accordingly, we may not have sufficient profits to be able to use the deduction
fully.
THE IMPLEMENTATION OF STOCK-BASED BENEFIT PLANS MAY DILUTE YOUR OWNERSHIP
INTEREST.
We intend to adopt a stock option plan and a recognition and retention
plan following the offering, subject to receipt of stockholder approval. These
stock-based benefit plans may be funded either through open market purchases or
from the issuance of authorized but unissued shares of common stock of First
Federal of Northern Michigan Bancorp, Inc. While our intention is to fund these
plans through open market purchases, stockholders will experience a reduction or
dilution in ownership interest of approximately 7.5% (approximately 5.3%
dilution for the stock option plan and approximately 2.2% dilution for the
recognition and retention plan) in the event newly issued shares are used to
fund stock option exercises and stock awards equal to 10% and 4%, respectively,
of the shares sold in the offering, including shares contributed to the
charitable foundation.
OUR RECOGNITION AND RETENTION PLAN WILL INCREASE OUR COSTS, WHICH WILL REDUCE
OUR PROFITABILITY AND STOCKHOLDERS' EQUITY.
We intend to implement a recognition and retention plan after the
conversion, subject to receipt of stockholder approval. Under this plan, our
officers and directors may be awarded, at no cost to them, shares of common
stock in an aggregate amount equal to 4% of the shares of common stock sold in
the offering (including shares contributed to the charitable foundation) if the
plan is adopted within 12 months after completion of the conversion, and may
exceed 4% of the shares sold in the offering (including shares issued to the
charitable foundation) if adopted more than 12 months after the completion of
the conversion. The shares of common stock awarded under the recognition and
retention plan will be expensed by us over their vesting period at the fair
market value of the shares on the date they are awarded. The recognition and
retention plan cannot be implemented until at least six months after the
completion of the conversion. If the plan is adopted within 12 months after the
completion of the conversion, it will be subject to Office of Thrift Supervision
regulations, including restrictions on accelerated vesting in the event of
retirement, maximum awards to individual officers and directors, and minimum
vesting over five years. If the shares of common stock to be awarded under the
plan are repurchased in the open market (rather than issued directly from
authorized but unissued shares by First Federal of Northern Michigan Bancorp,
Inc.) and cost the same as the purchase price in the offering, the reduction to
stockholders' equity from the plan would be between $554,800 at the minimum of
the offering range and $861,400 at the adjusted maximum of the offering range.
To the extent we repurchase shares of common stock in the open market to fund
the recognition and retention plan, and the price of such shares exceeds the
offering price of $10.00 per share, the reduction to stockholders' equity would
exceed the range described above. Conversely, to the extent the price of such
shares is below the offering price of $10.00 per share, the reduction to
stockholders' equity would be less than the range described above.
VARIOUS FACTORS MAY MAKE TAKEOVER ATTEMPTS MORE DIFFICULT TO ACHIEVE.
Our board of directors has no current intention to sell control of First
Federal of Northern Michigan Bancorp, Inc. Provisions of our articles of
incorporation and bylaws, federal regulations,
22
Maryland law and various other factors may make it more difficult for companies
or persons to acquire control of First Federal of Northern Michigan Bancorp,
Inc. without the consent of our board of directors. You may want a takeover
attempt to succeed because, for example, a potential acquiror could offer a
premium over the then prevailing price of our common stock. The factors that may
discourage takeover attempts or make them more difficult include:
o OFFICE OF THRIFT SUPERVISION REGULATIONS. Office of Thrift
Supervision regulations prohibit, for three years following the
completion of a conversion, the direct or indirect acquisition
of more than 10% of any class of equity security of a converted
savings institution without the prior approval of the Office of
Thrift Supervision.
o ARTICLES OF INCORPORATION AND STATUTORY PROVISIONS. Provisions
of the articles of incorporation and bylaws of First Federal of
Northern Michigan Bancorp, Inc. and Maryland law may make it
more difficult and expensive to pursue a takeover attempt which
management opposes, even if the takeover is favored by a
majority of our stockholders. These provisions also would make
it more difficult to remove our current board of directors or
management, or to elect new directors. Specifically, our
articles of incorporation provide that certain mergers must be
approved by stockholders owning 80% of our shares of common
stock unless the transaction has been approved by a majority of
the disinterested directors or certain fair price and procedure
requirements have been satisfied. Additional provisions include
limitations on voting rights of beneficial owners of more than
10% of our common stock, the election of directors to staggered
terms of three years and not permitting cumulative voting in the
election of directors. Our bylaws also contain provisions
regarding the timing and content of stockholder proposals and
nominations and qualification for service on the board of
directors.
o REQUIRED CHANGE IN CONTROL PAYMENTS AND ISSUANCE OF STOCK
OPTIONS. We intend to enter into change in control agreements
with certain executive officers, which will require payments to
be made to them in the event their employment is terminated
following a change in control of First Federal of Northern
Michigan Bancorp, Inc. or First Federal of Northern Michigan. We
also intend to issue stock options to key employees and
directors that will require payments to them in connection with
a change in control of First Federal of Northern Michigan
Bancorp, Inc. These payments may have the effect of increasing
the costs of acquiring First Federal of Northern Michigan
Bancorp, Inc., thereby discouraging future takeover attempts.
THE RIGHTS OF EXISTING STOCKHOLDERS OF ALPENA BANCSHARES, INC. WILL BE REDUCED
UNDER FIRST FEDERAL OF NORTHERN MICHIGAN BANCORP, INC.'S ARTICLES OF
INCORPORATION AND BYLAWS.
As a result of the conversion, existing stockholders of Alpena
Bancshares, Inc. will become stockholders of First Federal of Northern Michigan
Bancorp, Inc. Some rights of stockholders of the new Maryland corporation will
be reduced compared to the rights stockholders currently have. Many of the
differences in stockholder rights under the Maryland articles of incorporation
and bylaws, while not mandated by Maryland law, are permitted and have been
chosen by management as being in the best interests of First Federal of Northern
Michigan Bancorp, Inc. and all of its stockholders.
For example, current stockholders must submit nominations for election
of directors at an annual meeting of stockholders and any new business to be
taken up at such a meeting by filing the proposal in writing with Alpena
Bancshares, Inc. at least five days before the date of any such meeting.
However, First Federal of Northern Michigan Bancorp, Inc.'s Maryland bylaws
generally provide that any
23
stockholder desiring to make a nomination for the election of directors or a
proposal for new business at an annual meeting of stockholders must submit
written notice to First Federal of Northern Michigan Bancorp, Inc. at least 90
days prior to the anniversary date of the mailing of proxy materials in
connection with the immediately preceding annual meeting of stockholders.
Similarly, under the current federal charter, special meetings of stockholders
may be called by the holders of not less than one-tenth of the outstanding
capital stock entitled to vote at the meeting. However, First Federal of
Northern Michigan Bancorp, Inc.'s Maryland articles of incorporation provide
that special meetings of the stockholders of First Federal of Northern Michigan
Bancorp, Inc. may be called by the president or by a majority of the whole
board. In addition, the Maryland bylaws provide that special meetings of
stockholders shall be called on the written request of stockholders entitled to
cast at least a majority of all votes. See "Comparison of Stockholders' Rights
for Existing Stockholders of Alpena Bancshares, Inc." for a discussion of these
differences.
24
SELECTED CONSOLIDATED FINANCIAL AND OTHER DATA
OF ALPENA BANCSHARES, INC. AND SUBSIDIARY
The summary financial information presented below is derived in part
from the consolidated financial statements of Alpena Bancshares, Inc. The
following is only a summary and you should read it in conjunction with the
financial statements and notes beginning on page F-1. The information at
December 31, 2003 and 2002 and for the years ended December 31, 2003 and 2002 is
derived in part from the audited consolidated financial statements of Alpena
Bancshares, Inc. that appear in this prospectus. The information for the years
ended December 31, 2001, 2000 and 1999 is derived in part from audited
consolidated financial statements that do not appear in this prospectus. The
operating data for the nine months ended September 30, 2004 and 2003 and the
financial condition data at September 30, 2004 were not audited. However, in the
opinion of management of Alpena Bancshares, Inc., all adjustments, consisting of
normal recurring adjustments, necessary for a fair presentation of the results
of operations for the unaudited periods have been made. The results of
operations for the nine months ended September 30, 2004 are not necessarily
indicative of the results of operations that may be expected for the entire
year.
AT AT DECEMBER 31,
SEPTEMBER -------------------------------------------------------------
30, 2004 2003 2002 2001 2000 1999
---------- ---------- ---------- ---------- ---------- ----------
(IN THOUSANDS)
SELECTED FINANCIAL CONDITION DATA:
Total assets...................... $ 254,476 $ 223,923 $ 228,808 $ 241,472 $ 267,009 $ 263,549
Loans receivable, net............. 187,099 163,460 151,341 176,146 218,957 223,866
Loans held-for-sale............... 656 931 542 1,891 850 N/A
Investment securities............. 42,880 34,670 46,944 23,212 19,719 19,049
Deposits.......................... 182,428 151,702 156,092 166,538 162,771 156,393
Borrowings........................ 47,303 47,159 48,414 52,120 82,435 85,872
Stockholders' equity.............. 21,936 21,951 21,747 20,597 19,471 18,805
NINE MONTHS ENDED
SEPTEMBER 30, YEARS ENDED DECEMBER 31,
----------------------- -------------------------------------------------------------
2004 2003 2003 2002 2001 2000 1999
---------- ---------- ---------- ---------- ---------- ---------- ----------
(IN THOUSANDS)
SELECTED OPERATING DATA:
Interest income................... $ 9,798 $ 10,125 $ 13,350 $ 14,499 $ 17,586 $ 18,654 $ 17,059
Interest expense.................. 4,571 4,931 6,455 8,342 11,439 12,558 11,726
---------- ---------- ---------- ---------- ---------- ---------- ----------
Net interest income............ 5,227 5,194 6,895 6,157 6,147 6,096 5,333
Provision for loan losses......... 214 238 267 415 255 280 120
---------- ---------- ---------- ---------- ---------- ---------- ----------
Net interest income after
provision for loan losses.... 5,013 4,956 6,628 5,742 5,892 5,816 5,213
---------- ---------- ---------- ---------- ---------- ---------- ----------
Non-interest income............... 3,599 3,892 5,426 2,385 2,205 2,376 1,040
---------- ---------- ---------- ---------- ---------- ---------- ----------
Non-interest expense.............. 8,113 7,663 10,327 7,072 6,166 5,033 4,877
---------- ---------- ---------- ---------- ---------- ---------- ----------
Income before income tax expense.. 499 1,185 1,727 1,055 1,931 3,159 1,376
Income tax expense................ 167 394 518 285 646 1,035 452
---------- ---------- ---------- ---------- ---------- ---------- ----------
Net income..................... $ 332 $ 791 $ 1,209 $ 770 $ 1,285 $ 2,124 $ 924
========== ========== ========== ========== ========== ========== ==========
25
AT OR FOR THE NINE
MONTHS ENDED
SEPTEMBER 30, AT OR FOR THE YEARS ENDED DECEMBER 31,
------------------ ------------------------------------------------
2004 2003 2003 2002 2001 2000 1999
-------- -------- -------- -------- -------- -------- --------
SELECTED FINANCIAL RATIOS AND OTHER DATA:
PERFORMANCE RATIOS:
Return on assets (ratio of net income to average
total assets) (1)............................... 0.18% 0.46% 0.53% 0.33% 0.51% 0.82% 0.37%
Return on equity (ratio of net income to average
equity) (1)..................................... 2.03% 4.81% 5.52% 3.68% 6.52% 11.37% 5.46%
Average interest rate spread (1) (2)............... 2.87% 2.99% 3.00% 2.50% 2.37% 2.49% 2.36%
Dividend payout ratio.............................. 61.23% 35.04% 30.36% 47.01% 28.02% 17.75% 46.10%
Dividends per share (3)............................ 0.275 0.375 0.50 0.50 0.50 0.525 0.60
Net interest margin (1)(4)......................... 3.09% 3.27% 3.26% 2.78% 2.60% 2.65% 2.50%
Efficiency ratio (5)............................... 95.34% 87.19% 88.02% 87.54% 76.04% 76.29% 79.19%
Non-interest expense to average total assets (1)... 4.45% 4.49% 4.53% 3.01% 2.47% 2.05% 2.04%
Average interest-earning assets to average
interest-bearing liabilities.................... 108.00% 108.59% 108.69% 107.42% 104.66% 103.20% 102.75%
ASSET QUALITY RATIOS:
Non-performing assets to total assets.............. 0.70% 0.77% 1.04% 0.68% 0.36% 0.32% 0.32%
Non-performing loans to total loans................ 0.94% 1.09% 1.28% 0.94% 0.38% 0.32% 0.33%
Allowance for loan losses to non-performing loans.. 64.79% 57.99% 48.88% 62.76% 101.92% 92.06% 64.98%
Allowance for loan losses to total loans........... 0.61% 0.63% 0.63% 0.61% 0.39% 0.30% 0.22%
CAPITAL RATIOS:
Equity to total assets at end of period............ 8.62% 9.45% 9.80% 9.50% 8.53% 7.29% 7.14%
Average equity to average assets................... 8.97% 9.63% 9.62% 8.90% 7.88% 7.24% 6.77%
Risk-based capital ratio (bank only)............... 11.13% 11.68% 11.96% 15.95% 13.11% 10.69% 10.66%
OTHER DATA:
Number of full service offices..................... 10 8 8 9 9 8 6
---------------------------
(1) Ratios for the nine months ended September 30, 2004 and 2003 are
annualized.
(2) The average interest rate spread represents the difference between the
weighted-average yield on interest-earning assets and the weighted-
average cost of interest-bearing liabilities for the period.
(3) The following table sets forth aggregate cash dividends paid per period,
which is calculated by multiplying the dividend declared per share by
the number of shares outstanding as of the applicable record date:
FOR THE NINE MONTHS
ENDED SEPTEMBER 30, FOR THE YEARS ENDED DECEMBER 31,
---------------------- ------------------------------------------------------------
2004 2003 2003 2002 2001 2000 1999
---------- ---------- ---------- ---------- ---------- ---------- ----------
(IN THOUSANDS)
Dividends paid to
public stockholders.. $ 203 $ 277 $ 367 $ 362 $ 360 $ 377 $ 426
Dividends paid to
Alpena Bancshares,
M.H.C.................. --- --- --- --- --- --- ---
---------- ---------- ---------- ---------- ---------- ---------- ----------
Total dividends paid... $ 203 $ 277 $ 367 $ 362 $ 360 $ 377 $ 426
========== ========== ========== ========== ========== ========== ==========
Payments listed above exclude cash dividends waived by Alpena
Bancshares, M.H.C. of $253,000 and 345,000 during each of the nine-month periods
ending September 30, 2004 and 2003, and $460,000, $460,000, $460,000, $483,000,
and $552,000 during the years ended December 31, 2003, 2002, 2001, 2000 and
1999, respectively. Alpena Bancshares, M.H.C. began waiving dividends in March
1995, and, as of December 31, 2003, had waived dividends totaling $4.8 million.
(4) The net interest margin represents net interest income as a percent of
average interest-earning assets for the period.
(5) The efficiency ratio represents non-interest expense divided by the sum
of net interest income and non-interest income.
26
RECENT DEVELOPMENTS
The following tables set forth selected consolidated historical
financial and other data of Alpena Bancshares, Inc. for the periods and at the
dates indicated. The information should be read together with the audited
consolidated financial statements and notes thereto of Alpena Bancshares, Inc.
beginning at page F-2 of this prospectus. The information as of and for the year
ended December 31, 2003 is derived from the audited consolidated financial
statements of Alpena Bancshares, Inc. The information at December 31, 2004 and
September 30, 2004 and for the three and twelve months ended December 31, 2004
and 2003 is unaudited. However, in the opinion of management of Alpena
Bancshares, Inc., all adjustments, consisting of normal recurring adjustments,
necessary for a fair presentation of the results of operations for the unaudited
periods have been made. No adjustments were made other than normal recurring
entries.
AT DECEMBER 31, AT SEPTEMBER 30, AT DECEMBER 31,
2004 2004 2003
---------------- ----------------- ----------------
(IN THOUSANDS)
SELECTED FINANCIAL CONDITION DATA:
Total assets...................................... $ 262,796 $ 254,476 $ 223,923
Loans receivable, net............................. 195,390 187,099 163,460
Loans held for sale............................... 1,096 656 931
Investment securities............................. 42,033 42,880 34,670
Deposits.......................................... 182,489 182,428 151,702
Borrowings........................................ 56,001 47,303 47,159
Stockholders' equity.............................. 21,779 21,936 21,951
THREE MONTHS ENDED TWELVE MONTHS ENDED
DECEMBER 31, DECEMBER 31,
---------------------------- ----------------------------
2004 2003 2004 2003
------------- -------------- ------------- --------------
(IN THOUSANDS)
SELECTED OPERATING DATA:
Interest income................................... $ 3,483 $ 3,225 $ 13,281 $ 13,350
Interest expense.................................. 1,631 1,524 6,202 6,455
------------- -------------- ------------- --------------
Net interest income............................ 1,852 1,701 7,079 6,895
Provision for loan losses......................... 109 29 323 267
------------- -------------- ------------- --------------
Net interest income after provision for loan
losses....................................... 1,743 1,672 6,756 6,628
------------- -------------- ------------- --------------
Non-interest income............................... 1,116 1,534 4,715 5,426
------------- -------------- ------------- --------------
Non-interest expense ............................. 2,746 2,664 10,859 10,327
------------- -------------- ------------- --------------
Income before income tax expense.................. 113 542 612 1,727
Income tax expense................................ 38 124 205 518
------------- -------------- ------------- --------------
Net income..................................... $ 75 $ 418 $ 407 $ 1,209
============= ============== ============= ==============
27
AT OR FOR THE THREE AT OR FOR THE TWELVE
MONTHS ENDED MONTHS ENDED
DECEMBER 31, DECEMBER 31,
---------------------- ----------------------
2004(1) 2003(1) 2004 2003
---------- ---------- ---------- ----------
SELECTED FINANCIAL RATIOS AND OTHER DATA:
PERFORMANCE RATIOS:
Return on assets (ratio of net income to average
total assets)..................................... 0.12% 0.74% 0.17% 0.53%
Return on equity (ratio of net income to average
equity)........................................... 1.37% 7.63% 1.91% 5.52%
Average interest rate spread (2).................... 2.86% 2.97% 2.88% 3.00%
Dividend payout ratio (3)........................... 98.67% 22.06% 68.06% 30.36%
Net interest margin (4)............................. 3.08% 3.24% 3.10% 3.26%
Dividends per share................................. 0.10 0.125 0.375 0.50
Efficiency ratio (5)................................ 96.05% 83.10% 96.38% 88.02%
Non-interest expense to average total assets........ 4.22% 4.72% 4.39% 4.53%
Average interest-earning assets to average
interest-bearing liabilities..................... 108.08% 108.69% 108.08% 108.69%
ASSET QUALITY RATIOS:
Non-performing assets to total assets............... 0.85% 1.04% 0.85% 1.04%
Non-performing loans to total loans................. 0.65% 1.28% 0.65% 1.28%
Allowance for loan losses to non-performing loans... 72.37% 48.88% 72.37% 48.88%
Allowance for loan losses to total loans............ 0.61% 0.63% 0.61% 0.63%
CAPITAL RATIOS:
Equity to total assets at end of period............. 8.29% 9.80% 8.29% 9.80%
Average equity to average assets.................... 8.82% 9.62% 8.82% 9.62%
Risk-based capital ratio (bank only)................ 10.52% 11.96% 10.52% 11.96%
OTHER DATA:
Number of full-service offices...................... 10 8 10 8
------------------------
(1) Ratios for the three months ended December 31, 2004 and 2003 are
annualized.
(2) The average interest rate spread represents the difference between the
weighted-average yield on interest-earning assets and the weighted- average
cost of interest-bearing liabilities for the period.
(3) The dividend payout ratio represents dividends per share divided by basic
earnings per share. The following table sets forth aggregate cash dividends
paid per period, which is calculated by multiplying the dividend declared
per share by the number of shares outstanding as of the applicable record
date:
FOR THE THREE MONTHS FOR TWELVE MONTHS
ENDED DECEMBER 31, ENDED DECEMBER 31,
----------------------- -----------------------
2004 2003 2004 2003
---------- ---------- ---------- ----------
Dividends paid to
public stockholders.. $ 74,000 $ 92,000 $ 277,000 $ 367,000
Dividends paid to
Alpena Bancshares,
M.H.C................ --- --- --- ---
---------- ---------- ---------- ----------
Total dividends paid... $ 74,000 $ 92,000 $ 277,000 $ 367,000
========== ========== ========== ==========
Payments listed above exclude cash dividends waived by Alpena
Bancshares, M.H.C. of $92,000 and 115,000 during each of the three-month periods
ending December 31, 2004 and 2003, and $345,000 and $460,000 during the twelve
months ended December 31, 2004 and 2003, respectively. Alpena Bancshares, M.H.C.
began waiving dividends in March 1995, and, as of December 31, 2004, had waived
dividends totaling $5.2 million.
(4) The net interest margin represents net interest income as a percent of
average interest-earning assets for the period.
(5) The efficiency ratio represents non-interest expense divided by the sum of
net interest income and non-interest income.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RECENT DEVELOPMENTS
COMPARISON OF FINANCIAL CONDITION AT DECEMBER 31, 2004 AND SEPTEMBER 30, 2004
ASSETS. Total assets increased $8.3 million, or 3.3%, to $262.8 million
at December 31, 2004 from $254.5 million at September 30, 2004. Net loans
receivable increased $8.3 million, or 4.4%, to
28
$195.4 million at December 31, 2004 from $187.1 million at September 30, 2004,
reflecting growth in all loan categories. The 8.4% growth in commercial and
commercial real estate loans and the 2.2% growth in consumer loans reflected our
ongoing efforts to increase originations of these types of loans. Cash and cash
equivalents decreased by $86,000, or 1.8%, to $4.7 million at December 31, 2004
from $4.8 million at September 30, 2004, as we invested excess cash in bonds
that pay higher yields than the overnight yields on Federal Funds.
LIABILITIES. Deposits increased slightly to $182.5 million at December
31, 2004 from $182.4 million at September 30, 2004, reflecting our continuing
success in attracting deposits through various time deposit promotions conducted
during the three months ended December 31, 2004. Borrowings, consisting
primarily of Federal Home Loan Bank advances, increased $8.7 million, or 18.4%,
to $56.0 million at December 31, 2004 from $47.3 million at September 30, 2004,
as we funded loan growth from short-term borrowings rather than deposits in
anticipation of the net proceeds of the offering.
STOCKHOLDERS' EQUITY. Stockholders' equity decreased by $157,000 to
$21.8 million at December 31, 2004 from $21.9 million at September 30, 2004. The
decrease was due to lower market values on our investment portfolio. Compared to
September 30, 2004, the net unrealized gain on available for sale securities
decreased $161,000 at December 31, 2004 due to the increase in market interest
rates over the period. The decrease in net unrealized gains on available for
sale securities was partially offset by net income of $75,000 for the three
months ended December 31, 2004.
COMPARISON OF OPERATING RESULTS FOR THE THREE MONTHS ENDED DECEMBER 31, 2004 AND
DECEMBER 31, 2003
GENERAL. Net income decreased to $75,000 for the three months ended
December 31, 2004 from $418,000 for the same period ended December 31, 2003,
primarily due to a $418,000, or 27.2%, decrease in non-interest income. The
decrease in non-interest income included a $153,000, or 56.3%, decrease in
non-interest income attributable to our mortgage banking activities and a
$227,000 decrease in the gain on sale of investment securities. These decreases
were partially offset by a $22,000 increase in service charges and other fees
related to a "skip pay" program under which we offer certain low credit-risk
customers the opportunity, for a fee, to skip a monthly payment on their
residential mortgage loan or home equity line of credit. The "skip pay" program
was introduced in November 2004 and, therefore, did not impact the prior year
period. The decrease in net income also reflected an increase in our provision
for loan losses to $109,000 for the three months ended December 31, 2004
compared to $29,000 for the same period in 2003.
INTEREST INCOME. Our interest income increased to $3.5 million for the
three months ended December 31, 2004 from $3.2 million for the comparable period
in 2003. The $258,000, or 8.0%, increase reflected the higher average balance of
residential mortgage loans to $109.7 million from $100.5 million, and of
non-mortgage loans to $84.2 million from $63.7 million. The increase in the
average balance of mortgage loans reflected our purchase of $9.1 million of one-
to four-family residential mortgage loans in May 2004. The higher loan balances
more than offset the lower average yield on our mortgage loan portfolio, which
decreased 78 basis points to 6.28%, and the lower average yield on our
non-mortgage portfolio, which decreased 8 basis points to 6.36%.
INTEREST EXPENSE. Interest expense increased to $1.6 million for the
three months ended December 31, 2004 from $1.5 million for the same period in
2003, due to an increase in the average balance of our interest-bearing
liabilities to $223.0 million for the three months ended December 31, 2004 from
$193.0 million for the three months ended December 31, 2004. The higher average
balance more than offset the lower average interest rate paid on
interest-bearing liabilities over the three months ended December 31, 2004
compared to the three months ended December 31, 2003. The average cost of
29
interest-bearing liabilities for the three months ended December 31, 2004
declined to 2.89% from 3.12% for the same period one year earlier. The average
cost of borrowings declined to 4.68% for the three months ended December 31,
2004 from 5.53% for the same period in 2003, due to additional shorter-term
borrowings at lower rates in the 2004 period and the re-pricing of higher-cost
advances late in 2003.
NET INTEREST INCOME. Net interest income increased $151,000 to $1.9
million for the three months ended December 31, 2004 from $1.7 million for the
same period in 2003. For the three months ended December 31, 2004, average
interest-earning assets increased $30.1 million, or 14.2% when compared to the
same period in 2003. Average interest-bearing liabilities increased $30.0
million, or 15.5% for the same period. While our average interest rate spread
declined 11 basis points to 2.86% for the three months ended December 31, 2004
from 2.97% for the same period in 2003, the increase in the amount of our
interest earning assets more than compensated for the decline in our average
interest rate spread.
PROVISION FOR LOAN LOSSES. We recorded a provision for loan losses of
$109,000 for the three months ended December 31, 2004 compared to a provision of
$29,000 for the three months ended December 31, 2003. The $80,000 increase in
the provision resulted from an $8.4 million increase in our loan portfolio for
the three months ended December 31, 2004 compared to an increase of $1.6 million
for the three months ended December 31, 2003. We had net charge-offs of $47,000
and $25,000 during the three months ended December 31, 2004 and 2003,
respectively. We used the same methodology and generally similar assumptions in
assessing the adequacy of our allowance for loan losses for both periods. The
allowance for loan losses was $1.2 million, or 0.61% of total loans at December
31, 2004, as compared to $1.0 million, or 0.63% of total loans at December 31,
2003, reflecting a reduction in the amount of non-performing loans in our
portfolio. The level of the allowance is based on estimates, and ultimate losses
may vary from the estimates.
NON-INTEREST INCOME. Non-interest income decreased $416,000, or 27.2%,
to $1.1 million for the three months ended December 31, 2004 from $1.5 million
for the same period in 2003. Non-interest income attributable to our mortgage
banking activities decreased by $153,000, or 56.3%, as the very high volume of
residential mortgage loan refinancing in the 2003 period caused by historically
low market interest rates slowed significantly in the 2004 period. Gain on the
sale of mortgages was $92,000 lower in the 2004 period compared to the 2003
period, and the revenue associated with mortgage servicing rights was $61,000
lower in the 2004 period compared to the 2003 period. In addition, we recorded a
gain of $227,000 on the sale of available-for-sale investment securities in the
2003 period, which did not recur in the 2004 period. Finally, insurance and
brokerage commissions generated by ICA decreased to $734,000 for the three
months ended December 31, 2004 from $740,000 for the three months ended December
31, 2003. The declines were partially offset by a $22,000, or 8.9%, increase in
service charges and other fees due to "skip pay" fees that we introduced in
November 2004. Under the skip pay program, we offered certain mortgage and home
equity line of credit ("HELOC") customers the chance, for a fee, to skip their
payment for either the month of December 2004 or January 2005. The program was
offered only to customers with seasoned loans and with an exemplary past payment
history. The program generated $14,500 in fee income for the month of December
2004.
NON-INTEREST EXPENSE. Non-interest expenses increased $82,000, or 3.1%,
to $2.7 million for the three months ended December 31, 2004 from $2.6 million
for the same period in 2003. Compensation and employee benefits increased
$30,000 to $1.6 million for the three months ended December 31, 2004. The
increase in compensation and employee benefits reflected, in part, a $30,000
increase related to ICA's addition of two new agents and two new investment
brokers in 2004. Advertising increased to $62,000 for the three months ended
December 31, 2004 from $55,000 for the same period in 2003, reflecting an
increase in promotional expenses related to our "skip pay" promotion, along with
a direct mail campaign and a comprehensive customer survey. Other operating
expenses increased to $453,000 for the three
30
months ended December 31, 2004 from $374,000 for the same period in 2003. The
largest component of these increased other operating expenses was a $12,000
increase in service bureau charges related to the third quarter addition of
internet banking. Partially offsetting these increases, insurance and brokerage
commission expense for ICA totaled $294,000 for the three months ended December
31, 2004 compared to $317,000 for the earlier year period, reflecting a
reduction in commissions paid to outside Blue Cross/Blue Shield producers. In
addition, occupancy expense decreased to $297,000 for the three months ended
December 31, 2004 compared to $305,000 for the earlier year period, reflecting a
reduction in property taxes.
INCOME TAXES. Federal income taxes decreased to $38,000 for the three
months ended December 31, 2004 from $124,000 for the same period in 2003. The
effective tax rate was 33.5% for the 2004 period and 23.0% for the 2003 period.
The reduction in income tax reflected lower earnings for the three months ended
December 31, 2004 compared to the earlier year period.
COMPARISON OF OPERATING RESULTS FOR THE TWELVE MONTHS ENDED DECEMBER 31,
2004 AND DECEMBER 31, 2003
GENERAL. Net income decreased to $407,000 for the twelve months ended
December 31, 2004 from $1.2 million for the twelve months ended December 31,
2003. The decrease in net income resulted primarily from a $709,000, or 13.1%,
decrease in non-interest income attributable to our mortgage banking activities
to $580,000 for the twelve months ended December 31, 2004 from $1.6 million for
the twelve months ended December 31, 2003. This decrease was partially offset by
a $487,000, or 19.6%, increase in insurance and brokerage commissions related to
ICA and a $210,000, or 26.2%, increase in service charges and other fees.
INTEREST INCOME. Interest income decreased by $100,000, or 1.0%, to
$13.3 million for the twelve months ended December 31, 2004 from $13.4 million
for the twelve months ended December 31, 2003. The decrease was primarily due to
our sale of longer-term fixed rate mortgage loans in the secondary mortgage
market and the reinvestment of sale proceeds in lower-yielding assets, such as
investment securities and shorter-duration non-mortgage loans, which caused an
overall decline in the yield on our loan portfolio to 6.36% for the twelve
months ended December 31, 2004 from 7.18% for the twelve months ended December
31, 2003. The average balance of our loan portfolio increased by $24.9 million,
or 15.9%, to $181.0 million for the twelve months ended December 31, 2004 from
$156.1 million for the twelve months ended December 31, 2003. The average
balance of non-mortgage loans, principally commercial loans and consumer loans,
increased by $19.3 million, or 34.8%, to $74.7 million for the twelve months
ended December 31, 2004 from $55.4 million for the twelve months ended December
31, 2003. However, the average yield on our commercial loans and consumer loans
declined 10 basis points and 102 basis points, respectively, for the twelve
months ended December 31, 2004 from the twelve months ended December 31, 2003.
The average balance of our one- to four-family residential mortgage loans also
increased to $106.3 million for the twelve months ended December 31, 2004 from
$100.8 million for the twelve months ended December 31, 2003, while the average
yield on such loans decreased to 6.48% from 7.40%.
INTEREST EXPENSE. Interest expense decreased to $6.2 million for the
twelve months ended December 31, 2004 from $6.5 million for the twelve months
ended December 31, 2003, due primarily to lower interest rates paid on our
interest bearing liabilities. The average cost of deposits for the twelve months
ended December 31, 2004 decreased to 2.29% from 2.53% for the twelve months
ended December 31, 2003. Similarly, the average cost of borrowings decreased to
4.67% for the twelve months ended December 31, 2004 from 5.70% for the twelve
months ended December 31, 2003. The decrease in the average cost of deposits and
borrowings reflected lower market interest rates, and more than offset an
31
increase in the average balance of deposits and borrowings to $212.7 million for
the twelve months ended December 31, 2004 from $194.8 million for the twelve
months ended December 31, 2003.
NET INTEREST INCOME. Net interest income increased to $7.0 million for
the twelve months ended December 31, 2004 from $6.9 million for the twelve
months ended December 31, 2003. The increase reflected an increase in average
interest earning assets to $17.2 million from $17.0 million. This increase more
than offset a decrease in our average interest rate spread to 2.88% for the
twelve months ended December 31, 2004 from 3.00% for the twelve months ended
December 31, 2003.
PROVISION FOR LOAN LOSSES. We recorded a provision for loan losses of
$323,000 for the twelve months ended December 31, 2004 compared to a provision
of $267,000 for the twelve months ended December 31, 2003. We had net
charge-offs of $144,500 and $153,000 during the twelve months ended December 31,
2004 and 2003, respectively. We used the same methodology and generally similar
assumptions in assessing the allowance for both periods. The allowance for loan
losses was $1.2 million, or 0.61% of total loans at December 31, 2004, compared
to $1.0 million, or 0.63% of total loans at December 31, 2003. The level of the
allowance is based on estimates, and ultimate losses may vary from the
estimates.
NON-INTEREST INCOME. Non-interest income decreased to $4.7 million for
the twelve months ended December 31, 2004 from $5.4 million for the twelve
months ended December 31, 2003. The decrease was primarily attributable to lower
non-interest income attributable to our mortgage banking activities, which
decreased to $580,000 from $1.6 million as the high volume loan refinances in
2003 which resulted from historically low market interest rates, slowed
significantly in 2004. This decrease reflected a decrease of $730,000 in gain on
the sale of mortgages and a decrease of $239,000 in revenues associated with
mortgage servicing rights. Other non-interest income decreased to $97,000 for
the twelve months ended December 31, 2004 from $257,000 for the twelve months
ended December 31, 2003 reflecting, in part, the settlement of an insurance
claim in 2003 that did not recur in 2004. Gain on the sale of investment
securities decreased to $103,000 for the twelve months ended December 31, 2004
from $320,000 for the twelve months ended December 31, 2003. In 2003, management
elected to sell certain bonds during the year to fund loans and pay off high
cost maturing Federal Home Loan Bank advances. These decreases in non-interest
income were partially offset by a $487,000, or 19.6%, increase in insurance and
brokerage commissions attributable to the operations of ICA. The increase in ICA
insurance and brokerage commissions in the 2004 period reflected a full year of
operations; the 2003 period results reflected only 10 months of ICA operations,
as ICA was acquired on March 1, 2003.
NON-INTEREST EXPENSE. Non-interest expense increased to $10.9 million
for the twelve months ended December 31, 2004 from $10.3 million for the twelve
months ended December 31, 2003. Insurance and brokerage commission expense for
ICA increased to $1.3 million from $1.1 million. The increase reflected
inclusion of 12 months of insurance and brokerage commissions paid to ICA
brokers in 2004 as compared to 10 months in 2003 since ICA was acquired on March
1, 2003. Compensation and employee benefits increased to $6.0 million for the
twelve months ended December 31, 2004 from $5.8 million for the twelve months
ended December 31, 2003. The increase in employee compensation and benefits was
a result of higher funding requirements for the pension plan. In addition, the
increase reflected a $257,000, or 31.9%, increase in ICA employee compensation
and benefits expense as ICA added two new agents and two new brokers in 2004 to
further expand sales. The increase also reflected the inclusion of 12 months of
ICA employee compensation and benefits in 2004 as compared to 10 months in 2003.
Occupancy and equipment expense increased to $1.3 million for the twelve months
ended December 31, 2004 from $1.2 million for the twelve months ended December
31, 2003. Contributing to the increase were higher occupancy expenses related to
ICA's operations. ICA's occupancy and other operating expenses increased by
$48,000, to $273,000 for the twelve months ended December 31, 2004 from $225,000
for the twelve months ended December 31, 2003. The increase
32
reflected the inclusion of 12 months of ICA occupancy and other operating
expense in 2004 as compared to 10 months in 2003.
INCOME TAXES. Federal income taxes decreased to $205,000 for the twelve
months ended December 31, 2004 from $518,000 for the twelve months ended
December 31, 2003. The effective tax rate was 33.5% and 30.0% for 2004 and 2003,
respectively. The reduction in income tax reflected lower earnings for the
twelve months ended December 31, 2004 compared to December 31, 2003. The
increase in the effective tax rate reflected excess income tax accruals which
were reversed partly in 2003, resulting in a lower effective rate for 2003.
33
FORWARD-LOOKING STATEMENTS
This Prospectus contains forward-looking statements, which can be
identified by the use of words such as "estimate," "project," "believe,"
"intend," "anticipate," "plan," "seek," "expect" and words of similar meaning.
These forward-looking statements include, but are not limited to:
o statements of our goals, intentions and expectations;
o statements regarding our business plans, prospects, growth and
operating strategies;
o statements regarding the asset quality of our loan and
investment portfolios; and
o estimates of our risks and future costs and benefits.
These forward-looking statements are based on current beliefs and
expectations of our management and are inherently subject to significant
business, economic and competitive uncertainties and contingencies, many of
which are beyond our control. In addition, these forward-looking statements are
subject to assumptions with respect to future business strategies and decisions
that are subject to change.
The following factors, among others, could cause actual results to
differ materially from the anticipated results or other expectations expressed
in the forward-looking statements:
o general economic conditions, either nationally or in our market
areas, that are worse than expected;
o competition among depository and other financial institutions;
o inflation and changes in the interest rate environment that
reduce our margins or reduce the fair value of financial
instruments;
o adverse changes in the securities markets;
o changes in laws or government regulations or policies affecting
financial institutions, including changes in regulatory fees and
capital requirements;
o our ability to enter new markets successfully and capitalize on
growth opportunities;
o our ability to successfully integrate acquired entities;
o changes in consumer spending, borrowing and savings habits;
o changes in accounting policies and practices, as may be adopted
by the bank regulatory agencies and the Financial Accounting
Standards Board; and
o changes in our organization, compensation and benefit plans.
Because of these and other uncertainties, our actual future results may
be materially different from the results indicated by these forward-looking
statements. Please see "Risk Factors" beginning on page 19.
34
HOW WE INTEND TO USE THE PROCEEDS FROM THE OFFERING
Although we cannot determine what the actual net proceeds from the sale
of the shares of common stock in the offering will be until the offering is
completed, we anticipate that the net proceeds will be between $12.9 million and
$17.6 million, or $20.4 million if the offering range is increased by 15%. First
Federal of Northern Michigan Bancorp, Inc. expects to contribute to First
Federal of Northern Michigan sufficient net proceeds so that First Federal of
Northern Michigan's tangible and core capital ratios will exceed 10% upon
completion of the conversion and offering (or, between $10.3 million and $10.9
million, or $11.2 million if the offering range is increased by 15%). We intend
to retain between $2.6 million and $6.7 million of the net proceeds, or $9.1
million if the offering range is increased by 15%. Between $1.1 million and $1.5
million (or $1.7 million if the offering range is increased) will be used for
the loan to the employee stock ownership plan to fund its purchase of shares of
common stock in the offering.
A summary of the anticipated net proceeds at the minimum, midpoint,
maximum and adjusted maximum of the offering range and distribution of the net
proceeds is as follows:
BASED UPON THE SALE AT $10.00 PER SHARE OF
--------------------------------------------------------------------------------------
1,360,000 SHARES 1,600,000 SHARES 1,840,000 SHARES 2,116,000 SHARES (1)
-------------------- -------------------- -------------------- --------------------
PERCENT PERCENT PERCENT PERCENT
OF NET OF NET OF NET OF NET
AMOUNT PROCEEDS AMOUNT PROCEEDS AMOUNT PROCEEDS AMOUNT PROCEEDS
-------- ---------- -------- ---------- -------- ---------- -------- ----------
(DOLLARS IN THOUSANDS)
Offering proceeds.................. $ 13,600 $ 16,000 $ 18,400 $ 21,160
Less offering expenses............. 716 738 760 786
-------- -------- -------- --------
Net offering proceeds........... $ 12,884 100.0% $ 15,262 100.0% $ 17,640 100.0% $ 20,374 100.0%
======== ======= ======== ======= ======== ======= ======== =======
Distribution of net proceeds:
To First Federal of Northern
Michigan...................... $ 10,312 80.0% $ 10,606 69.5% $ 10,900 61.8% $ 11,232 55.1%
To fund loan to employee
stock ownership plan.......... $ 1,110 8.6% $ 1,306 8.6% $ 1,501 8.5% $ 1,723 8.5%
Retained by First Federal of
Northern Michigan Bancorp,
Inc........................... $ 1,462 11.4% $ 3,350 21.9% $ 5,239 29.7% $ 7,419 36.4%
------------------------------------
(1) As adjusted to give effect to an increase in the number of shares which
could occur due to a 15% increase in the offering range to reflect
demand for the shares, changes in market or general financial conditions
following the commencement of the offering, or regulatory
considerations.
Payments for shares of common stock made through withdrawals from
existing deposit accounts will not result in the receipt of new funds for
investment but will result in a reduction of First Federal of Northern
Michigan's deposits. The net proceeds may vary because total expenses relating
to the offering may be more or less than our estimates. For example, our
expenses would increase if a syndicated community offering were used to sell
shares of common stock not purchased in the subscription and community
offerings.
FIRST FEDERAL OF NORTHERN MICHIGAN BANCORP, INC. MAY USE THE PROCEEDS IT RETAINS
FROM THE OFFERING:
o to fund a loan to the employee stock ownership plan to purchase
shares of common stock in the offering (between $1.1 million and
$1.5 million, or $1.7 million if the offering is increased by
15%);
o to finance the acquisition of financial institutions or other
financial service companies as opportunities arise, although we
do not currently have any agreements or understandings
35
regarding any specific acquisition transaction and it is
impossible to determine when, if ever, such opportunities may
arise;
o to pay cash dividends to stockholders;
o to repurchase shares of our common stock;
o to invest in securities; and
o for other general corporate purposes.
Initially, a substantial portion of the net proceeds will be invested in
short-term investments, investment-grade debt obligations and mortgage-backed
securities.
Under current Office of Thrift Supervision regulations, we may not
repurchase shares of our common stock during the first year following the
completion of the conversion, except when extraordinary circumstances exist and
with prior regulatory approval.
FIRST FEDERAL OF NORTHERN MICHIGAN MAY USE THE NET PROCEEDS IT RECEIVES FROM THE
OFFERING:
o to fund new loans, including one-to four-family residential
mortgage loans, commercial real estate and commercial loans,
construction loans and consumer loans;
o to expand its retail banking franchise by acquiring new branches
or by acquiring other financial institutions or other financial
services companies as opportunities arise, although we do not
currently have any agreements or understandings regarding any
acquisition transaction and it is impossible to determine when,
if ever, such opportunities may arise;
o to enhance existing products and services and to support the
development of new products and services;
o to invest in securities; and
o for other general corporate purposes.
Initially, the net proceeds will be invested in short-term investments,
investment-grade debt obligations and mortgage-backed securities.
We expect our return on equity to decrease as compared to our
performance in recent years until we are able to utilize effectively the
additional capital raised in the offering. Until we can increase our net
interest income and non-interest income, we expect our return on equity to be
below the industry average, which may negatively affect the value of our common
stock. See "Risk Factors -- Our Failure to Utilize Effectively the Net Proceeds
of the Offering Could Reduce Our Profitability and Our Return on Stockholders'
Equity."
OUR DIVIDEND POLICY
We currently pay a quarterly cash dividend of $0.10 per share, which
equals $0.40 per share on an annualized basis. After the conversion, we intend
to continue to pay cash dividends on a quarterly basis. After adjustment for the
exchange ratio, we expect the quarterly dividends to equal $0.07, $0.06,
36
$0.05 and $0.04 per share at the minimum, midpoint, maximum and adjusted maximum
of the offering range, respectively, which represents an annual dividend yield
of 2.8%, 2.4%, 2.0% and 1.6% at the minimum, midpoint, maximum and adjusted
maximum of the offering range, respectively, based upon a stock price of $10.00
per share. The amount of dividends that we intend to pay to our stockholders
following the conversion is intended to preserve the per share dividend amount,
adjusted to reflect the exchange ratio, that our stockholders currently receive
on their shares of Alpena Bancshares, Inc. common stock. However, the dividend
rate and the continued payment of dividends will depend on a number of factors
including our capital requirements, our financial condition and results of
operations, tax considerations, statutory and regulatory limitations, and
general economic conditions. We cannot assure you that we will not reduce or
eliminate dividends in the future.
Under the rules of the Office of Thrift Supervision, First Federal of
Northern Michigan will not be permitted to pay dividends on its capital stock to
First Federal of Northern Michigan Bancorp, Inc., its sole stockholder, if First
Federal of Northern Michigan's stockholder's equity would be reduced below the
amount of the liquidation account established in connection with the conversion.
In addition, First Federal of Northern Michigan will not be permitted to make a
capital distribution if, after making such distribution, it would be
undercapitalized. See "The Conversion--Liquidation Rights." For information
concerning additional federal and state law and regulations regarding the
ability of First Federal of Northern Michigan to make capital distributions,
including the payment of dividends to First Federal of Northern Michigan
Bancorp, Inc., see "Taxation--Federal Taxation" and "Supervision and
Regulation--Federal Banking Regulation."
Unlike First Federal of Northern Michigan, we are not restricted by
Office of Thrift Supervision regulations on the payment of dividends to our
stockholders, although the source of dividends will depend on the net proceeds
retained by us and earnings thereon, and dividends from First Federal of
Northern Michigan. However, First Federal of Northern Michigan Bancorp, Inc.
will be subject to state law limitations on the payment of dividends. Maryland
law generally limits dividends to an amount equal to the excess of our capital
surplus over payments that would be owed upon dissolution to stockholders whose
preferential rights upon dissolution are superior to those receiving the
dividend, and to an amount that would not make us insolvent.
Finally, pursuant to Office of Thrift Supervision regulations, during
the three-year period following the conversion, we will not take any action to
declare an extraordinary dividend to stockholders that would be treated by
recipients as a tax-free return of capital for federal income tax purposes.
See "Selected Consolidated Financial and Other Data of Alpena
Bancshares, Inc. and Subsidiary" and "Market for the Common Stock" for
information regarding our historical dividend payments.
MARKET FOR THE COMMON STOCK
Alpena Bancshares, Inc.'s common stock currently trades over the counter
on the OTC Bulletin Board. Upon completion of the conversion, the new shares of
common stock of First Federal of Northern Michigan Bancorp, Inc. will replace
existing shares and we expect the new shares will be traded on the Nasdaq
National Market under the symbol "FFNM." In order to list our stock on the
Nasdaq National Market, we are required to have at least three broker-dealers
who will make a market in our common stock. Alpena Bancshares, Inc. currently
has more than three market makers, including Ryan Beck & Co., Inc., and Ryan
Beck & Co., Inc. has advised us that it intends to make a market in our common
stock following the offering, but it is under no obligation to do so. Although
we expect to have more than three market makers at the time of the completion of
the offering, if we do not have three market makers, we will not qualify to list
our stock on the Nasdaq National Market and our stock will trade on the OTC
Bulletin Board.
37
The development of a public market having the desirable characteristics
of depth, liquidity and orderliness depends on the existence of willing buyers
and sellers, the presence of which is not within our control or that of any
market maker. The number of active buyers and sellers of our common stock at any
particular time may be limited, which may have an adverse effect on the price at
which our common stock can be sold. There can be no assurance that persons
purchasing the common stock will be able to sell their shares at or above the
$10.00 price per share in the offering. Purchasers of our common stock should
have a long-term investment intent and should recognize that there may be a
limited trading market in our common stock.
The following table sets forth the high and low trading prices for
shares of Alpena Bancshares, Inc. common stock and cash dividends paid per share
for the periods indicated. As of September 30, 2004, there were 739,180 publicly
held shares of Alpena Bancshares, Inc. common stock issued and outstanding
(excluding shares held by Alpena Bancshares, M.H.C.). In connection with the
conversion, each existing publicly held share of common stock of Alpena
Bancshares, Inc. will be converted into a right to receive a number of new
shares of common stock, based upon the exchange ratio that is described in other
parts of this prospectus. See "The Conversion-Share Exchange Ratio."
YEAR ENDING DECEMBER 31, 2005 HIGH LOW DIVIDEND PAID PER SHARE
------------------------------------------ ---------------- ---------------- -------------------------
First quarter (through February __) $ $ $ --(1)
YEAR ENDED DECEMBER 31, 2004 HIGH LOW DIVIDEND PAID PER SHARE
------------------------------------------ ---------------- ---------------- -------------------------
Fourth quarter
Third quarter 17.75 15.60 0.10
Second quarter 23.75 17.50 0.05
First quarter 25.00 22.50 0.125
YEAR ENDED DECEMBER 31, 2004 HIGH LOW DIVIDEND PAID PER SHARE
------------------------------------------ ---------------- ---------------- -------------------------
Fourth quarter 24.00 18.95 0.125
Third quarter 19.00 16.50 0.125
Second quarter 18.50 14.80 0.125
First quarter 15.65 14.00 0.125
-------------------------
(1) Dividend of $______ per share for the first quarter will be paid on
February __, 2005.
On November 12, 2004, the business day immediately preceding the public
announcement of the conversion, and on February __, 2005, the closing prices of
Alpena Bancshares, Inc. common stock as reported on the OTC Bulletin Board were
$16.30 per share and $_____ per share, respectively. At February __, 2005,
Alpena Bancshares, Inc. had approximately _____ stockholders of record. On the
effective date of the conversion, all publicly held shares of Alpena Bancshares,
Inc. common stock, including shares of common stock held by our officers and
directors, will be converted automatically into and become the right to receive
a number of shares of First Federal of Northern Michigan Bancorp, Inc. common
stock determined pursuant to the exchange ratio. See "The Conversion -- Share
Exchange Ratio." Options to purchase shares of Alpena Bancshares, Inc. common
stock will be converted into options to purchase a number of shares of First
Federal of Northern Michigan Bancorp, Inc. common stock determined pursuant to
the exchange ratio, for the same aggregate exercise price. See "Beneficial
Ownership of Common Stock."
38
HISTORICAL AND PRO FORMA REGULATORY CAPITAL COMPLIANCE
At September 30, 2004, First Federal of Northern Michigan exceeded all
of the applicable regulatory capital requirements. The table below sets forth
the historical equity capital and regulatory capital of First Federal of
Northern Michigan at September 30, 2004, and the pro forma regulatory capital of
First Federal of Northern Michigan, after giving effect to the sale of shares of
common stock at a $10.00 per share purchase price and assuming that First
Federal of Northern Michigan received net proceeds in an amount such that it
will have at least a 10% regulatory tangible and core capital ratio upon
completion of the conversion and offering. Accordingly, the table assumes the
receipt by First Federal of Northern Michigan of between $10.3 million and $10.9
million of the net offering proceeds at the minimum and maximum of the offering
range, respectively.
FIRST FEDERAL OF
NORTHERN MICHIGAN PRO FORMA AT SEPTEMBER 30, 2004, BASED UPON THE SALE IN THE OFFERING OF
HISTORICAL AT -------------------------------------------------------------------------------------
SEPTEMBER 30, 2004 1,360,000 SHARES 1,600,000 SHARES 1,840,000 SHARES 2,116,000 SHARES (1)
------------------- ------------------- ------------------- ------------------- -------------------
PERCENT PERCENT PERCENT PERCENT PERCENT
OF OF OF OF OF
ASSETS ASSETS ASSETS ASSETS ASSETS
AMOUNT (2) AMOUNT (2) AMOUNT (2) AMOUNT (2) AMOUNT (2)
-------- -------- -------- -------- -------- -------- -------- -------- -------- --------
(DOLLARS IN THOUSANDS)
Equity capital...... $ 21,936 8.62% $ 30,584 11.62% $ 30,584 11.62% $ 30,584 11.62% $ 30,584 11.62%
Tangible capital.... $ 17,207 6.89% $ 25,855 10.00% $ 25,855 10.00% $ 25,855 10.00% $ 25,855 10.00%
Tangible
requirement....... 3,748 1.50 3,878 1.50 3,878 1.50 3,878 1.50 3,878 1.50
-------- -------- -------- -------- -------- -------- -------- -------- -------- --------
Excess.............. $ 13,459 5.39% $ 21,976 8.50% $ 21,976 8.50% $ 21,976 8.50% $ 21,976 8.50%
======== ======== ======== ======== ======== ======== ======== ======== ======== ========
Core (leverage)
capital........... $ 17,207 6.89% $ 25,855 10.00% $ 25,855 10.00% $ 25,855 10.00% $ 25,855 10.00%
Core (leverage)
requirement (3)... 9,996 4.00 10,342 4.00 10,342 4.00 10,342 4.00 10,342 4.00
-------- -------- -------- -------- -------- -------- -------- -------- -------- --------
Excess.............. $ 7,211 2.89% $ 15,513 6.00% $ 15,513 6.00% $ 15,513 6.00% $ 15,513 6.00%
======== ======== ======== ======== ======== ======== ======== ======== ======== ========
Total risk-based
capital (4)....... $ 18,433 11.13% $ 27,081 16.18% $ 27,081 16.18% $ 27,081 16.18% $ 27,081 16.18%
Risk-based
requirement....... 13,249 8.00 13,387 8.00 13,387 8.00 13,387 8.00 13,387 8.00
-------- -------- -------- -------- -------- -------- -------- -------- -------- --------
Excess.............. $ 5,184 3.13% $ 13,694 8.18% $ 13,694 8.18% $ 13,694 8.18% $ 13,694 8.18%
======== ======== ======== ======== ======== ======== ======== ======== ======== ========
Net Proceeds Infused $ 10,313 $ 10,606 $ 10,900 $ 11,232
Less: ESOP.......... (1,110) (1,306) (1,501) (1,723)
Less: MRP........... (555) (653) (751) (861)
-------- -------- -------- --------
Pro Forma Increase.. $ 8,648 $ 8,648 $ 8,648 $ 8,648
======== ======== ======== ========
------------------------------------
(1) As adjusted to give effect to an increase in the number of shares which
could occur due to a 15% increase in the offering range to reflect
demand for the shares, changes in market or general financial conditions
following the commencement of the offering, or regulatory
considerations.
(2) Tangible and core capital levels are shown as a percentage of total
adjusted assets. Risk-based capital levels are shown as a percentage of
risk-weighted assets.
(3) The current Office of Thrift Supervision core capital requirement for
financial institutions is 3% of total adjusted assets for financial
institutions that receive the highest supervisory rating for safety and
soundness and a 4% to 5% core capital ratio requirement for all other
financial institutions.
(4) Pro forma amounts and percentages assume net proceeds are invested in
assets that carry a 20% risk weighting.
39
CAPITALIZATION
The following table presents the historical consolidated capitalization
of Alpena Bancshares, Inc. at September 30, 2004 and the pro forma consolidated
capitalization of First Federal of Northern Michigan Bancorp, Inc. after giving
effect to the conversion and offering, based upon the assumptions set forth in
the "Pro Forma Data" section.
PRO FORMA AT SEPTEMBER 30, 2004,
ALPENA BASED UPON THE SALE IN THE OFFERING OF
BANCSHARES, -------------------------------------------------------------
INC. 1,360,000 1,600,000 1,840,000 2,116,000
HISTORICAL AT SHARES AT SHARES AT SHARES AT SHARES AT
SEPTEMBER 30, $10.00 $10.00 $10.00 $10.00
2004 PER SHARE PER SHARE PER SHARE PER SHARE
------------ ------------ ------------ ------------ ------------
(DOLLARS IN THOUSANDS)
Deposits (2)............................ $ 182,428 $ 182,218 $ 182,218 $ 182,218 $ 182,218
Borrowed funds.......................... 47,303 47,303 47,303 47,303 47,303
------------ ------------ ------------ ------------ ------------
Total deposits and borrowed funds.... $ 229,731 $ 229,521 $ 229,521 $ 229,521 $ 229,521
============ ============ ============ ============ ============
STOCKHOLDERS' EQUITY:
Preferred stock, $.01 par value,
10,000,000 shares authorized
(post-conversion) (3)................ -- -- -- -- --
Common stock $.01 par value,
20,000,000 shares authorized
(post-conversion); shares to be
issued as reflected (3) (4).......... 1,659 25 29 34 39
Additional paid-in capital (3)........ 5,354 20,355 22,776 25,198 27,934
Retained earnings (5)................. 14,789 14,789 14,789 14,789 14,789
LESS:
Expense of contribution to
foundation........................... -- (544) (640) (736) (750)
PLUS:
Tax benefit of contribution to
foundation (6)....................... -- 185 218 250 255
Accumulated other comprehensive
income............................... 134 134 134 134 134
LESS:
Common stock held by existing
recognition and retention plan....... -- -- -- -- --
Common stock to be acquired by
the employee stock ownership
plan (7)............................. -- (1,110) (1,306) (1,501) (1,723)
Common stock to be acquired by
the recognition and retention
plan (8)............................. -- (555) (653) (751) (861)
------------ ------------ ------------ ------------ ------------
Total stockholders' equity............ $ 21,936 $ 33,279 $ 35,348 $ 37,416 $ 39,816
============ ============ ============ ============ ============
PRO FORMA SHARES OUTSTANDING
Total shares outstanding.............. 2,479,901 2,917,530 3,355,160 3,853,613
Exchange shares issued................ 1,092,701 1,285,530 1,478,360 1,700,113
Shares issued to foundation........... 27,200 32,000 36,800 37,500
Shares offered for sale............... 1,360,000 1,600,000 1,840,000 2,116,000
Total stockholders' equity as a
percentage of total assets........... 8.62% 12.52% 13.19% 13.86% 14.62%
-----------------------------------
(1) As adjusted to give effect to an increase in the number of shares of
common stock which could occur due to a 15% increase in the offering
range to reflect demand for shares, changes in market or general
financial conditions following the commencement of the subscription and
community offerings, or regulatory considerations.
(2) Does not reflect withdrawals from deposit accounts for the purchase of
shares of common stock in the conversion and offering. These withdrawals
would reduce pro forma deposits by the amount of the withdrawals. On a
pro forma basis, reflects transfer of Alpena Bancshares, M.H.C. deposits
of $210,000 to equity.
(3) Alpena Bancshares, Inc. currently has 10,000,000 authorized shares of
preferred stock and 20,000,000 authorized shares of common stock, par
value $1.00 per share. On a pro forma basis, First Federal of Northern
Michigan Bancorp, Inc. common stock and additional paid-in capital have
been revised to reflect the number of shares of First Federal of
Northern Michigan Bancorp, Inc. common stock to be outstanding, which is
2,479,901 shares, 2,917,530 shares, 3,355,160 shares and 3,853,613
shares at the minimum, midpoint, maximum and adjustment maximum of the
offering range, respectively.
40
(4) No effect has been given to the issuance of additional shares of First
Federal of Northern Michigan Bancorp, Inc. common stock pursuant to a
stock option plan. If this plan is implemented, an amount up to 10% of
the shares of First Federal of Northern Michigan Bancorp, Inc. common
stock sold in the offering (including shares contributed to the
foundation) will be reserved for issuance upon the exercise of options
under the stock option plan. No effect has been given to the exercise of
options currently outstanding. See "Management of First Federal of
Northern Michigan Bancorp, Inc."
(5) The retained earnings of First Federal of Northern Michigan will be
substantially restricted after the conversion. See "The
Conversion--Liquidation Rights" and "Supervision and Regulation--Federal
Banking Regulation."
(6) Represents the tax effect of the contribution to the charitable
foundation based on a 34.0% tax rate. The realization of the deferred
tax benefit is limited annually to a maximum deduction for charitable
foundations equal to 10% of First Federal of Northern Michigan Bancorp,
Inc.'s annual taxable income, subject to our ability to carry forward
any unused portion of the deduction for five years following the year in
which the contribution is made.
(7) Assumes that 8.0% of the shares sold in the offering (not including
shares contributed to the foundation) will be acquired by the employee
stock ownership plan financed by a loan from First Federal of Northern
Michigan Bancorp, Inc. The loan will be repaid principally from First
Federal of Northern Michigan's contributions to the employee stock
ownership plan. Since First Federal of Northern Michigan Bancorp, Inc.
will finance the employee stock ownership plan debt, this debt will be
eliminated through consolidation and no liability will be reflected on
First Federal of Northern Michigan Bancorp, Inc.'s consolidated
financial statements. Accordingly, the amount of shares of common stock
acquired by the employee stock ownership plan is shown in this table as
a reduction of total stockholders' equity.
(8) Assumes a number of shares of common stock equal to 4% of the shares of
common stock to be sold in the offering (including shares contributed to
the foundation) will be purchased by the recognition and retention plan
in open market purchases. The funds to be used by the stock recognition
and retention plan to purchase the shares will be provided by First
Federal of Northern Michigan Bancorp, Inc. The dollar amount of common
stock to be purchased is based on the $10.00 per share subscription
price in the offering and represents unearned compensation. This amount
does not reflect possible increases or decreases in the value of common
stock relative to the subscription price in the offering. As First
Federal of Northern Michigan Bancorp, Inc. accrues compensation expense
to reflect the vesting of shares pursuant to the recognition and
retention plan, the credit to capital will be offset by a charge to
operations. Implementation of the recognition and retention plan will
require stockholder approval. If the shares to fund the plan are assumed
to come from authorized but unissued shares of First Federal of Northern
Michigan Bancorp, Inc., the number of outstanding shares at the minimum,
midpoint, maximum and the maximum, as adjusted, of the offering range
would be 2,535,389, 2,982,810, 3,430,232 and 3,939,753, respectively,
total stockholders' equity would be $33.8 million, $36.0 million, $38.2
million and $40.7 million, respectively, and total stockholders'
ownership in First Federal of Northern Michigan Bancorp, Inc. would be
diluted by approximately 2.2% at the maximum of the offering range.
41
PRO FORMA DATA
The following tables summarize historical data of Alpena Bancshares,
Inc. and pro forma data at and for the nine months ended September 30, 2004 and
at and for the year ended December 31, 2003. This information is based on
assumptions set forth below and in the table, and should not be used as a basis
for projections of market value of the shares of common stock following the
conversion and offering. Moreover, pro forma stockholders' equity per share does
not give effect to the liquidation account to be established in the conversion
or, in the event of a liquidation of First Federal of Northern Michigan, to the
recoverability of intangibles or the tax effect of the recapture of the bad debt
reserve. See "The Conversion--Liquidation Rights."
The net proceeds in the tables are based upon the following assumptions:
(i) all shares of common stock will be sold in the subscription and
community offerings;
(ii) 30,000 shares of common stock will be purchased by our executive
officers and directors, and their associates;
(iii) our employee stock ownership plan will purchase 8% of the shares
of common stock sold in the offering, including shares
contributed to the foundation, with a loan from First Federal of
Northern Michigan Bancorp, Inc. The loan will be repaid in
substantially equal payments of principal and interest over a
period of 15 years;
(iv) Ryan Beck & Co. will receive a fee equal to 1.0% of the dollar
amount of shares of common stock sold in the offering. No fee
will be paid with respect to shares of common stock purchased by
our qualified and non-qualified employee stock benefit plans, or
stock purchased by our officers, directors and employees, and
their immediate families, or with respect to shares issued to
the charitable foundation; and
(v) total expenses of the offering, including the marketing fees to
be paid to Ryan Beck & Co., will be between $716,000 at the
minimum of the offering range and $786,000 at the maximum of the
offering range, as adjusted.
We calculated pro forma consolidated net earnings for the nine months
ended September 30, 2004 and the year ended December 31, 2003 as if the
estimated net proceeds we received had been invested at assumed interest rates
of 2.16% and 1.26%, respectively (1.42% and 0.83%, respectively, on an after-tax
basis), which represented the yield on the one-year U.S. Treasury Bill as of
September 30, 2004 and December 31, 2003, respectively (which we consider to
reflect more accurately the pro forma reinvestment rate than an arithmetic
average method in light of current market interest rates). The effect of
withdrawals from deposit accounts for the purchase of shares of common stock has
not been reflected. Historical and pro forma per share amounts have been
calculated by dividing historical and pro forma amounts by the indicated number
of shares of common stock. No effect has been given in the pro forma
stockholders' equity calculations for the assumed earnings on the net proceeds.
It is assumed that First Federal of Northern Michigan Bancorp, Inc. will retain
between $2.6 million and $6.7 million of the estimated net proceeds in the
offering, or $9.1 million if the offering range is increased by 15%. The actual
net proceeds from the sale of shares of common stock will not be determined
until the offering is completed. However, we currently estimate the net proceeds
to be between $12.8 million and $17.5 million, or $20.2 million if the offering
range is increased by 15%.
The following pro forma information may not be representative of the
financial effects of the offering at the dates on which the offering actually
occurs, and should not be taken as indicative of future
42
results of operations. Pro forma consolidated stockholders' equity represents
the difference between the stated amounts of our assets and liabilities. The pro
forma stockholders' equity is not intended to represent the fair market value of
the shares of common stock.
AT OR FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2004
BASED UPON THE SALE AT $10.00 PER SHARE OF
-----------------------------------------------------------------
1,360,000 1,600,000 1,840,000 2,116,000-
SHARES SHARES SHARES SHARES (1)
------------- ------------- ------------- -------------
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Gross proceeds of offering........................ $ 13,600 $ 16,000 $ 18,400 $ 21,160
Market value of shares issued to the foundation... 272 320 368 375
------------- ------------- ------------- -------------
Market value of offering and foundation shares.... 13,872 16,320 18,768 21,535
Gross proceeds of offering........................ 13,600 16,000 18,400 21,160
Less: Cash contribution to Foundation............ (272) (320) (368) (375)
Less: Expenses................................... (716) (738) (760) (786)
Plus: Assets received from the MHC............... 210 210 210 210
------------- ------------- ------------- -------------
Estimated Net Proceeds.......................... $ 12,822 15,152 17,482 20,209
============= ============= ============= =============
Less: Common stock acquired by employee stock
ownership plan................................. (1,110) (1,306) (1,501) (1,723)
Less: Common stock acquired by recognition and
retention plan................................. (555) (653) (751) (861)
------------- ------------- ------------- -------------
Estimated net proceeds, as adjusted............... $ 11,157 13,194 15,230 17,625
============= ============= ============= =============
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2004
Consolidated net earnings:
Historical..................................... $ 332 $ 332 $ 332 $ 332
Pro forma adjustments:
Income on adjusted net proceeds................ 119 141 163 188
Employee stock ownership plan (2).............. (37) (43) (50) (57)
Recognition and retention plan (3)............. (55) (65) (74) (85)
Stock option plan (5).......................... (49) (57) (66) (76)
------------- ------------- ------------- -------------
Pro forma net income......................... $ 310 $ 308 $ 305 $ 302
============= ============= ============= =============
Earnings per share (4):
Historical..................................... $ 0.14 $ 0.12 $ 0.10 $ 0.09
Pro forma adjustments:
Income on adjusted net proceeds................ 0.05 0.05 0.05 0.05
Employee stock ownership plan (2).............. (0.02) (0.02) (0.02) (0.02)
Recognition and retention plan (3)............. (0.02) (0.02) (0.02) (0.02)
Stock option plan (5).......................... (0.02) (0.02) (0.02) (0.02)
------------- ------------- ------------- -------------
Pro forma earnings per share (4) (6)......... $ 0.13 $ 0.11 $ 0.09 $ 0.08
============= ============= ============= =============
Offering price to pro forma net earnings per
share (4)......................................... 57.69x 68.18x 83.33x 93.75x
Number of shares used in earnings per share
calculations...................................... 2,374,474 2,793,498 3,212,523 3,689,947
AT SEPTEMBER 30, 2004
Stockholders' equity:
Historical..................................... $ 21,936 $ 21,936 $ 21,936 $ 21,936
Estimated net proceeds......................... 13,094 15,472 17,850 20,584
Plus: Shares issued to foundation............. 272 320 368 375
Less: Shares contribution to foundation ...... (272) (320) (368) (375)
Less: Cash contribution to foundation......... (272) (320) (368) (375)
Plus: Tax benefit of the foundation........... 185 218 250 255
Less: Common stock acquired by ESOP........... (1,110) (1,306) (1,501) (1,723)
Less: Common stock acquired by MRP (3)........ (555) (653) (751) (861)
------------- ------------- ------------- -------------
Pro forma stockholders equity.................. $ 33,279 $ 35,348 $ 37,416 $ 39,816
Less: Intangible assets....................... (3,668) (3,668) (3,668) (3,668)
------------- ------------- ------------- -------------
Pro forma tangible stockholders' equity........ 29,610 31,679 33,748 36,148
============= ============= ============= =============
Stockholders' equity per share:(7)
Historical..................................... $ 8.85 $ 7.52 $ 6.54 $ 5.69
Estimated net proceeds......................... 5.28 5.31 5.32 5.34
Plus: Shares issued to foundation............. 0.11 0.11 0.11 0.10
Less: Shares contribution to foundation ...... (0.11) (0.11) (0.11) (0.10)
43
AT OR FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2004
BASED UPON THE SALE AT $10.00 PER SHARE OF
-----------------------------------------------------------------
1,360,000 1,600,000 1,840,000 2,116,000-
SHARES SHARES SHARES SHARES (1)
------------- ------------- ------------- -------------
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Less: Cash contribution to foundation......... (0.11) (0.11) (0.11) (0.10)
Plus: Tax benefit of the foundation........... 0.07 0.07 0.07 0.07
Less: Common stock acquired by ESOP........... (0.45) (0.45) (0.45) (0.45)
Less: Common stock acquired by MRP............ (0.22) (0.22) (0.22) (0.22)
------------- ------------- ------------- -------------
Pro forma stockholders' equity per share (6)
(7).......................................... $ 13.42 $ 12.12 $ 11.15 $ 10.33
Pro forma tangible stockholders' equity per
share (6) (7)............................... $ 11.94 $ 10.86 $ 10.06 $ 9.38
Offering price as percentage of pro forma
stockholders' equity per share................. 74.52% 82.51% 89.69% 96.81%
Offering price as percentage of pro forma
tangible stockholders' equity per share........ 83.75% 92.08% 99.40% 106.61%
Number of shares outstanding for pro forma
book value per share calculations.............. 2,479,901 2,917,530 3,355,160 3,853,613
(FOOTNOTES BEGIN ON FOLLOWING PAGE)
44
-------------------------
(1) As adjusted to give effect to an increase in the number of shares which
could occur due to a 15% increase in the offering range to reflect
demand for the shares, changes in market and financial conditions
following the commencement of the offering, or regulatory
considerations.
(2) Assumes that 8% of shares of common stock sold in the offering
(including shares issued to the charitable foundation) will be purchased
by the employee stock ownership plan. For purposes of this table, the
funds used to acquire these shares are assumed to have been borrowed by
the employee stock ownership plan from First Federal of Northern
Michigan Bancorp, Inc. First Federal of Northern Michigan intends to
make annual contributions to the employee stock ownership plan in an
amount at least equal to the required principal and interest payments
due on the debt. First Federal of Northern Michigan's total annual
payments on the employee stock ownership plan debt are based upon 15
equal annual installments of principal and interest. Statement of
Position 93-6 requires that an employer record compensation expense in
an amount equal to the fair value of the shares committed to be released
to employees. The pro forma adjustments assume that the employee stock
ownership plan shares are allocated in equal annual installments based
on the number of loan repayment installments assumed to be paid by First
Federal of Northern Michigan, the fair value of the common stock remains
equal to the subscription price and the employee stock ownership plan
expense reflects an effective combined federal and state tax rate of
34.0%. The unallocated employee stock ownership plan shares are
reflected as a reduction of stockholders' equity. No reinvestment is
assumed on proceeds contributed to fund the employee stock ownership
plan. The pro forma net income further assumes that 5,549, 6,528, 7,507
and 8,614 shares were committed to be released during the period at the
minimum, midpoint, maximum, and adjusted maximum of the offering range,
respectively, and in accordance with Statement of Position 93-6, only
the employee stock ownership plan shares committed to be released during
the period were considered outstanding for purposes of net income per
share calculations.
(3) If approved by First Federal of Northern Michigan Bancorp, Inc.'s
stockholders, the stock recognition and retention plan may purchase an
aggregate number of shares of common stock equal to 4% of the shares to
be sold in the offering (including shares issued to the charitable
foundation) (or a greater number of shares if the plan is implemented
more than one year after completion of the conversion although such
plan, including the amount awarded under such plan, may remain subject
to supervisory restrictions). Stockholder approval of the stock
recognition and retention plan, and purchases by the plan may not occur
earlier than six months after the completion of the conversion. The
shares may be acquired directly from First Federal of Northern Michigan
Bancorp, Inc. or through open market purchases. The funds to be used by
the stock recognition and retention plan to purchase the shares will be
provided by First Federal of Northern Michigan Bancorp, Inc. The table
assumes that (i) the stock recognition and retention plan acquires the
shares through open market purchases at $10.00 per share, (ii) 15% of
the amount contributed to the stock recognition and retention plan is
amortized as an expense during the nine months ended September 30, 2004
and (iii) the stock recognition and retention plan expense reflects an
effective combined federal and state tax rate of 34.0%. Assuming
stockholder approval of the stock recognition and retention plan and
that shares of common stock (equal to 4% of the shares sold in the
offering) are awarded through the use of authorized but unissued shares
of common stock, stockholders would have their ownership and voting
interests diluted by approximately 2.2% at the maximum of the offering
range.
(4) Per share figures include publicly held shares of Alpena Bancshares,
Inc. common stock that will be exchanged for new shares of First Federal
of Northern Michigan Bancorp, Inc. common stock in the conversion. See
"The Conversion -- Share Exchange Ratio." Net income per share
computations are determined by taking the number of shares assumed to be
sold in the offering (including shares issued to the charitable
foundation) and the number of new shares assumed to be issued in
exchange for publicly held shares and, in accordance with Statement of
Position 93-6, subtracting the employee stock ownership plan shares
which have not been committed for release during the respective periods.
See note 2. The number of shares of common stock actually sold and the
corresponding number of exchange shares may be more or less than the
assumed amounts. Pro forma net income per share has been annualized.
(5) If approved by First Federal of Northern Michigan Bancorp, Inc.'s
stockholders, the stock option plan may grant options to acquire an
aggregate number of shares of common stock equal to 10% of the shares to
be sold in the offering (including shares contributed to the foundation,
or possibly a greater number of shares if the plan is implemented more
than one year after completion of the conversion, although such plan,
including the amount awarded under the plan, may remain subject to
supervisory restrictions). Stockholder approval of the stock option plan
may not occur earlier than six months after the completion of the
conversion. In calculating the pro forma effect of the stock option
plan, it is assumed that the exercise price of the stock options and the
trading price of the common stock at the date of grant were $10.00 per
share, the estimated grant-date fair value determined using the
Black-Scholes option pricing model was $2.56 for each option, the
aggregate grant-date fair value of the stock options was amortized to
expense on a straight-line basis over a five-year vesting period of the
options, and that 25.0% of the amortization expense (or the assumed
portion relating to options granted to directors) resulted in a tax
benefit using an assumed tax rate of 34.00%. The actual expense of the
stock option plan will be determined by the grant-date fair value of the
options, which will depend on a number of factors, including the
valuation assumptions used in the option pricing model ultimately
adopted. Under the above assumptions, the adoption of the stock option
plan will result in no additional shares under the treasury stock method
for purposes of calculating earnings per share. There can be no
assurance that the actual exercise price of the stock options will be
equal to the $10.00 price per share. If a portion of the shares to
satisfy the exercise of options under the stock option plan are obtained
from the issuance of authorized but unissued shares, our net income per
share
45
and stockholders' equity per share will decrease. The issuance of
authorized but previously unissued shares of common stock pursuant to
the exercise of options under such plan would dilute stockholders'
ownership and voting interests by approximately 5.3% at the maximum of
the offering range.
(6) The retained earnings of First Federal of Northern Michigan will be
substantially restricted after the conversion. See "Our Dividend
Policy," "The Conversion--Liquidation Rights" and "Supervision and
Regulation--Federal Banking Regulation--Capital Distributions."
(7) Per share figures include publicly held shares of Alpena Bancshares,
Inc. common stock that will be exchanged for new shares of First Federal
of Northern Michigan Bancorp, Inc. common stock in the conversion.
Stockholders' equity per share calculations are based upon the sum of
(i) the number of subscription shares assumed to be sold in the offering
(including shares issued to the charitable foundation) and (ii) new
shares to be issued in exchange for publicly held shares at the minimum,
midpoint, maximum and adjusted maximum of the offering range,
respectively. The exchange shares reflect an exchange ratio of 1.4783,
1.7391, 2.0000 and 2.3000 at the minimum, midpoint, maximum and adjusted
maximum of the offering range, respectively. The number of subscription
shares actually sold and the corresponding number of exchange shares may
be more or less than the assumed amounts.
46
AT OR FOR THE YEAR ENDED DECEMBER 31, 2003
----------------------------------------------------------------
BASED UPON THE SALE AT $10.00 PER SHARE OF
1,360,000 1,600,000 1,840,000 2,116,000
SHARES SHARES SHARES SHARES (1)
------------ ------------ ------------ ------------
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Gross proceeds of offering........................ $ 13,600 $ 16,000 $ 18,400 $ 21,160
Market value of shares issued to the foundation... 272 320 368 375
------------ ------------ ------------ ------------
Market value of offering and foundation shares.... 13,872 16,320 18,768 21,535
Gross proceeds of offering........................ 13,600 16,000 18,400 21,160
Less: Cash contribution to foundation............ (272) (320) (368) (375)
Less: Expenses................................... (716) (738) (760) (786)
Plus: Assets received from the MHC............... 210 210 210 210
------------ ------------ ------------ ------------
Estimated Net Proceeds.......................... $ 12,822 15,152 17,482 20,209
============ ============ ============ ============
Less: Common stock purchased by ESOP............ (1,110) (1,306) (1,501) (1,723)
Less: Common stock purchased by recognition and
retention plan................................. (555) (653) (751) (861)
------------ ------------ ------------ ------------
Estimated net proceeds, as adjusted............. $ 11,157 13,194 15,230 17,625
============ ============ ============ ============
FOR THE TWELVE MONTHS ENDED DECEMBER 31, 2003
Consolidated net earnings:
Historical..................................... $ 1,209 $ 1,209 $ 1,209 $ 1,209
Pro forma adjustments:
Income on adjusted net proceeds................ 93 110 127 147
Employee stock ownership plan (2).............. (49) (57) (66) (76)
Recognition and retention plan (3)............. (73) (86) (99) (114)
Stock option plan (5).......................... (65) (76) (88) (101)
------------ ------------ ------------ ------------
Pro forma net income......................... $ 1,115 $ 1,100 $ 1,083 $ 1,065
============ ============ ============ ============
Earning per share
Historical..................................... 0.51 0.43 0.38 0.33
Pro form adjustments
Income on adjusted net proceeds................ 0.04 0.04 0.04 0.04
Employee stock ownership plan (2).............. (0.02) (0.02) (0.02) (0.02)
Recognition and retention plan (3)............. $ (0.03) $ (0.03) $ (0.03) $ (0.03)
Stock option plan (4).......................... (0.03) (0.03) (0.03) (0.03)
------------ ------------ ------------ ------------
Pro forma earnings per share (5) (6) ........ $ 0.47 $ 0.39 $ 0.34 $ 0.29
============ ============ ============ ============
Offering price to pro forma net earnings per share 21.28x 25.64x 29.41x 34.48x
Number of shares used in earnings per share
calculations...................................... 2,376,324 2,795,674 3,215,026 3,692,818
AT DECEMBER 31, 2003
Stockholders' equity:
Historical..................................... $ 21,951 $ 21,951 $ 21,951 $ 21,951
Estimated net proceeds......................... 13,094 15,472 17,850 20,584
Plus: Shares issued to foundation............. 272 320 368 375
Less: Shares contribution to foundation ...... (272) (320) (368) (375)
Less: Cash contribution to foundation......... (272) (320) (368) (375)
Plus: Tax benefit of the foundation........... 185 218 250 255
Less: Common stock acquired by ESOP........... (1,110) (1,306) (1,501) (1,723)
Less: Common stock acquired by MRP (3)........ (555) (653) (751) (861)
------------ ------------ ------------ ------------
Pro forma stockholders equity.................. $ 33,293 $ 35,362 $ 37,431 $ 39,831
Less: Intangible assets....................... (3,851) (3,851) (3,851) (3,851)
------------ ------------ ------------ ------------
Pro forma tangible stockholders' equity........ 29,442 31,511 33,580 35,980
============ ============ ============ ============
Stockholders' equity per share:(8)
Historical..................................... $ 8.85 $ 7.52 $ 6.54 $ 5.70
Estimated net proceeds......................... 5.28 5.30 5.32 5.34
Plus: Shares issued to foundation............. 0.11 0.11 0.11 0.10
Less: Shares contribution to foundation ...... (0.11) (0.11) (0.11) (0.10)
Less: Cash contribution to foundation......... (0.11) (0.11) (0.11) (0.10)
Plus: Tax benefit of the foundation........... 0.07 0.07 0.07 0.07
Less: Common stock acquired by ESOP........... (0.45) (0.45) (0.45) (0.45)
Less: Common stock acquired by MRP (3)........ (0.22) (0.22) (0.22) (0.22)
------------ ------------ ------------ ------------
Pro forma stockholders' equity per share (7)
(8).......................................... $ 13.42 $ 12.11 $ 11.15 $ 10.34
Pro forma tangible stockholders' equity per
share (7) (8)............................... $ 11.87 $ 10.80 $ 10.01 $ 9.34
Offering price as percentage of pro forma
stockholders' equity per share................. 74.52% 82.58% 89.69% 96.71%
47
AT OR FOR THE YEAR ENDED DECEMBER 31, 2003
----------------------------------------------------------------
BASED UPON THE SALE AT $10.00 PER SHARE OF
1,360,000 1,600,000 1,840,000 2,116,000
SHARES SHARES SHARES SHARES (1)
------------ ------------ ------------ ------------
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Offering price as percentage of pro forma
tangible stockholders' equity per share........ 84.25% 92.59% 99.90% 107.07%
Number of shares outstanding for pro forma
book value per share calculations.............. 2,479,901 2,917,530 3,355,160 3,853,613
-----------------------------
(1) As adjusted to give effect to an increase in the number of shares which
could occur due to a 15% increase in the offering range to reflect
demand for the shares, changes in market and financial conditions
following the commencement of the offering, or regulatory
considerations.
(2) Assumes that 8% of shares of common stock sold in the offering
(including shares issued to the charitable foundation) will be purchased
by the employee stock ownership plan. For purposes of this table, the
funds used to acquire these shares are assumed to have been borrowed by
the employee stock ownership plan from First Federal of Northern
Michigan Bancorp, Inc. First Federal of Northern Michigan intends to
make annual contributions to the employee stock ownership plan in an
amount at least equal to the required principal and interest payments on
the debt. First Federal of Northern Michigan's total annual payments on
the employee stock ownership plan debt are based upon 15 equal annual
installments of principal and interest. Statement of Position 93-6
requires that an employer record compensation expense in an amount equal
to the fair value of the shares committed to be released to employees.
The pro forma adjustments assume that the employee stock ownership plan
shares are allocated in equal annual installments based on the number of
loan repayment installments assumed to be paid by First Federal of
Northern Michigan, the fair value of the common stock remains equal to
the subscription price and the employee stock ownership plan expense
reflects an effective combined federal and state tax rate of 34.0%. The
unallocated employee stock ownership plan shares are reflected as a
reduction of stockholders' equity. No reinvestment is assumed on
proceeds contributed to fund the employee stock ownership plan. The pro
forma net income further assumes that 7,398, 8,704, 10,010 and 11,485
shares were committed to be released during the period at the minimum,
midpoint, maximum, and adjusted maximum of the offering range,
respectively, and in accordance with Statement of Position 93-6, only
the employee stock ownership plan shares committed to be released during
the period were considered outstanding for purposes of net income per
share calculations.
(3) If approved by First Federal of Northern Michigan Bancorp, Inc.'s
stockholders, the stock recognition and retention plan may purchase an
aggregate number of shares of common stock equal to 4% of the shares to
be sold in the offering (including shares issued to the charitable
foundation) (or a greater number of shares if the plan is implemented
more than one year after completion of the conversion). Stockholder
approval of the stock recognition and retention plan, and purchases by
the plan may not occur earlier than six months after the completion of
the conversion. The shares may be acquired directly from First Federal
of Northern Michigan Bancorp, Inc. or through open market purchases. The
funds to be used by the stock recognition and retention plan to purchase
the shares will be provided by First Federal of Northern Michigan
Bancorp, Inc. The table assumes that (i) the stock recognition and
retention plan acquires the shares through open market purchases at
$10.00 per share, (ii) 20% of the amount contributed to the stock
recognition and retention plan is amortized as an expense during the
year ended December 31, 2003, and (iii) the stock recognition and
retention plan expense reflects an effective combined federal and state
tax rate of 34.0%. Assuming stockholder approval of the stock
recognition and retention plan and that shares of common stock (equal to
4% of the shares sold in the offering, including shares issued to the
charitable foundation) are awarded through the use of authorized but
unissued shares of common stock, stockholders would have their ownership
and voting interests diluted by approximately 2.2% at the maximum of the
offering range.
(4) If approved by First Federal of Northern Michigan Bancorp, Inc.'s
stockholders, the stock option plan may grant options to acquire an
aggregate number of shares of common stock equal to 10% of the shares to
be sold in the offering (or possibly a greater number of shares if the
plan is implemented more than one year after completion of the
conversion, although such plan, including the amount awarded under the
plan, may remain subject to supervisory restrictions). Stockholder
approval of the stock option plan may not occur earlier than six months
after the completion of the conversion. In calculating the pro forma
effect of the stock option plan, it is assumed that the exercise price
of the stock options and the trading price of the common stock at the
date of grant were $10.00 per share, the estimated grant-date fair value
determined using the Black-Scholes option pricing model was $2.56 for
each option, the aggregate grant-date fair value of the stock options
was amortized to expense on a straight-line basis over a five-year
vesting period of the options, and that 25.0% of the amortization
expense (or the assumed portion relating to options granted to
directors) resulted in a tax benefit using an assumed tax rate of
34.00%. The actual expense of the stock option plan will be determined
by the grant-date fair value of the options, which will depend on a
number of factors, including the valuation assumptions used in the
option pricing model ultimately adopted. Under the above assumptions,
the adoption of the stock option plan will result in no additional
shares under the treasury stock method for purposes of calculating
earnings per share. There can be no assurance that the actual exercise
price of the stock options will be equal to the $10.00 price per share.
If a portion of the shares to satisfy the exercise of options under the
stock option plan are obtained from the issuance of authorized but
unissued shares, our net income per share and stockholders' equity per
share will decrease. The issuance of authorized but previously unissued
shares of common stock pursuant to the exercise of options under
48
such plan would dilute stockholders' ownership and voting interests by
approximately 5.3% at the maximum of the offering range.
(5) Per share figures include publicly held shares of Alpena Bancshares,
Inc. common stock that will be exchanged for new shares of First Federal
of Northern Michigan Bancorp, Inc. common stock in the conversion. See
"The Conversion -- Share Exchange Ratio." Net income per share
computations are determined by taking the number of shares assumed to be
sold in the offering (including shares issued to the charitable
foundation) and the number of new shares assumed to be issued in
exchange for publicly held shares and, in accordance with Statement of
Position 93-6, subtracting the employee stock ownership plan shares
which have not been committed for release during the respective periods.
See note 2. The number of shares of common stock actually sold and the
corresponding number of exchange shares may be more or less than the
assumed amounts.
(6) The retained earnings of First Federal of Northern Michigan will be
substantially restricted after the conversion. See "Our Dividend
Policy," "The Conversion--Liquidation Rights" and "Supervision and
Regulation--Federal Banking Regulation--Capital Distributions."
(7) Per share figures include publicly held shares of Alpena Bancshares,
Inc. common stock that will be exchanged for new shares of First Federal
of Northern Michigan Bancorp, Inc. common stock in the conversion.
Stockholders' equity per share calculations are based upon the sum of
(i) the number of subscription shares assumed to be sold in the offering
(including shares issued to the charitable foundation) and (ii) new
shares to be issued in exchange for publicly held shares at the minimum,
midpoint, maximum and adjusted maximum of the offering range,
respectively. The exchange shares reflect an exchange ratio of 1.4783,
1.7391, 2.0000 and 2.3000 at the minimum, midpoint, maximum and adjusted
maximum of the offering range, respectively. The number of subscription
shares actually sold and the corresponding number of exchange shares may
be more or less than the assumed amounts.
49
COMPARISON OF VALUATION AND PRO FORMA INFORMATION WITH
AND WITHOUT THE FOUNDATION
As reflected in the table below, if the charitable foundation is not
established and funded as part of the conversion and offering, RP Financial
estimates that the pro forma valuation of First Federal of Northern Michigan
Bancorp, Inc. would be greater and, as a result, a greater number of shares of
common stock would be issued in the conversion. At the minimum, midpoint,
maximum and adjusted maximum of the valuation range, the pro forma valuation of
First Federal of Northern Michigan Bancorp, Inc. is $24.8 million, $29.2
million, $33.6 million and $38.5 million with the charitable foundation, as
compared to $25.1 million, $29.6 million, $34.0 million and $39.1 million,
respectively, without the charitable foundation. There is no assurance that in
the event the charitable foundation were not formed, the appraisal prepared at
that time would conclude that the pro forma market value of First Federal of
Northern Michigan Bancorp, Inc. would be the same as that estimated in the table
below. Any appraisal prepared at that time would be based on the facts and
circumstances existing at that time, including, among other things, market and
economic conditions.
For comparative purposes only, set forth below are certain pricing
ratios and financial data and ratios at and for the nine months ended September
30, 2004 at the minimum, midpoint, maximum and adjusted maximum of the offering
range, assuming the conversion and offering was completed at September 30, 2004,
with and without the charitable foundation. Pro forma financial ratios are
annualized. The valuation amounts referred to in the table below relate to the
value of the shares sold to the depositors and the public.
1,360,000 SHARES SOLD 1,600,000 SHARES SOLD
-------------------------- --------------------------
WITH WITHOUT WITH WITHOUT
FOUNDATION FOUNDATION FOUNDATION FOUNDATION
------------ ------------ ------------ ------------
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Estimated offering amount...................... $ 13,600 $ 13,940 $ 16,000 $ 16,400
Pro forma Second Step Value.................... $ 13,872 $ 13,940 $ 16,320 $ 16,400
Estimated market capitalization................ $ 24,799 $ 25,140 $ 29,175 $ 29,577
Total assets................................... $ 265,819 $ 266,235 $ 267,888 $ 268,376
Total liabilities.............................. $ 232,540 $ 232,540 $ 232,540 $ 232,540
Pro forma stockholders' equity................. $ 33,279 $ 33,695 $ 35,348 $ 35,836
Pro forma net income........................... $ 310 $ 317 $ 308 $ 315
Pro forma stockholders' equity per share....... $ 13.42 $ 13.40 $ 12.12 $ 12.12
Pro forma net income per share................. $ 0.13 $ 0.13 $ 0.11 $ 0.11
Pro forma shares outstanding for earnings
calculation................................. 2,374,474 2,408,075 2,793,498 2,833,028
PRO FORMA PRICING RATIOS:
Offering price as a percentage of pro forma
stockholders' equity per share............... 74.52% 74.63% 82.51% 82.51%
Offering price to pro forma net income per
share........................................ 57.69x 57.69x 68.18x 68.18x
Offering price to pro forma assets............. 9.33% 9.44% 10.89% 11.02%
PRO FORMA FINANCIAL RATIOS:
Return on assets (1)........................... 0.12% 0.12% 0.11% 0.12%
Return on equity (1)........................... 0.93% 0.94% 0.87% 0.88%
Equity to assets............................... 12.52% 12.66% 13.19% 13.35%
Total shares issued............................ 2,479,901 2,514,019 2,917,530 2,957,668
(continued)
1,840,000 SHARES SOLD 2,116,000 SHARES SOLD
-------------------------- --------------------------
WITH WITHOUT WITH WITHOUT
FOUNDATION FOUNDATION FOUNDATION FOUNDATION
------------ ------------ ------------ ------------
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Estimated offering amount...................... $ 18,400 $ 18,860 $ 21,160 $ 21,689
Pro forma Second Step Value.................... $ 18,768 $ 18,860 $ 21,535 $ 21,689
Estimated market capitalization................ $ 33,552 $ 34,013 $ 38,536 $ 39,115
Total assets................................... $ 269,957 $ 270,518 $ 272,356 $ 272,982
Total liabilities.............................. $ 232,540 $ 232,540 $ 232,540 $ 232,540
Pro forma stockholders' equity................. $ 37,416 $ 37,978 $ 39,816 $ 40,442
Pro forma net income........................... $ 305 $ 313 $ 302 $ 311
Pro forma stockholders' equity per share....... $ 11.15 $ 11.17 $ 10.33 $ 10.34
Pro forma net income per share................. $ 0.09 $ 0.09 $ 0.08 $ 0.08
Pro forma shares outstanding for earnings
calculation................................. 3,212,523 3,257,983 3,689,947 3,746,680
PRO FORMA PRICING RATIOS:
Offering price as a percentage of pro forma
stockholders' equity per share............... 89.69% 89.53% 96.81% 96.71%
Offering price to pro forma net income per
share........................................ 83.33x 83.33x 93.75x 93.75x
Offering price to pro forma assets............. 12.43% 12.57% 14.15% 14.33%
PRO FORMA FINANCIAL RATIOS:
Return on assets (1)........................... 0.11% 0.11% 0.11% 0.11%
Return on equity (1)........................... 0.82% 0.82% 0.76% 0.77%
Equity to assets............................... 13.86% 14.04% 14.62% 14.81%
Total shares issued............................ 3,355,160 3,401,319 3,853,613 3,911,516
-----------------
(1) Annualized.
50
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
This discussion and analysis reflects our consolidated financial
statements and other relevant statistical data, and is intended to enhance your
understanding of our financial condition and results of operations. The
information in this section has been derived from the audited consolidated
financial statements, which appear beginning on page F-1 of this prospectus. You
should read the information in this section in conjunction with the business and
financial information regarding Alpena Bancshares, Inc. provided in this
prospectus. The financial condition and results of operations reported at
September 30, 2004 and for the nine-month periods ended September 30, 2003 and
2004 are unaudited, but in the opinion of management include all adjustments
(consisting only of normal recurring adjustments) necessary for a fair
presentation.
OVERVIEW OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
First Federal of Northern Michigan is a full-service, community-oriented
savings bank whose primary lending activity is the origination of one- to
four-family residential real estate mortgages, commercial real estate loans,
commercial loans and consumer loans. As of September 30, 2004, $100.2 million,
or 53.1% of our total loan portfolio consisted of one- to four-family
residential real estate loans, $26.5 million, or 14.0%, and $29.0 million, or
15.4%, of our total loan portfolio consisted of commercial mortgage loans and
commercial loans, respectively, and $25.0 million, or 13.3%, of our total loan
portfolio consisted of consumer and other loans. In recent years, commercial
mortgage loans and commercial loans have grown as a percentage of our loan
portfolio for two reasons. First, we have increased our emphasis on originating
these loans, which generally have higher interest rates compared to one- to
four-family residential real estate loans. In addition, most of these loans are
originated with adjustable interest rates, which assists us in managing interest
rate risk. Second, most of our one- to four-family residential mortgage loan
customers prefer fixed-rate loans in the low interest rate environment that has
prevailed over the last several years. Since we sell in the secondary mortgage
market a majority of the fixed-rate one- to four-family residential mortgage
loans that we originate, one- to four-family residential real estate loans have
decreased as a percentage of our total loan portfolio.
Our results of operations depend primarily on our net interest income,
which is the difference between the interest income we receive on our
interest-earning assets, such as loans and securities, and the interest expense
we pay on our deposits and borrowings. Our results of operations are also
affected by non-interest income and non-interest expense, the provision for loan
losses and income tax expense. Non-interest income consists primarily of banking
fees, service charges, insurance commissions and gains (losses) on sales of
loans and securities available for sale. Our non-interest expense consists
primarily of salaries and employee benefits, occupancy and office expenses,
advertising and promotion expense and data processing expenses.
As the holding company of a federally chartered savings bank, our
results of operations are significantly affected by general economic and
competitive conditions, and particularly changes in market interest rates,
government policies and actions of regulatory authorities. Numerous factors that
are beyond our control can cause market interest rates to increase or decline.
In addition, we are unable to predict future changes in government policies and
actions of regulatory authorities that could have a material impact on our
financial performance. As a result, we believe that changes in market interest
rates, government policies and actions of regulatory authorities represent the
primary uncertainties in predicting our future performance. See "--Management of
Interest Rate Risk" and "Supervision and Regulation."
51
EXPECTED INCREASE IN NON-INTEREST EXPENSE AS A RESULT OF THE CONVERSION
Following the completion of the conversion, our non-interest expense can
be expected to increase because of the increased compensation expenses
associated with the purchases of shares of common stock by our employee stock
ownership plan, the funding of our charitable contribution, and the adoption of
the recognition and retention plan, if approved by our stockholders.
Assuming that 2,116,000 shares are sold in the offering and up to 37,500
shares are issued to the charitable foundation:
(i) the employee stock ownership plan will acquire 172,280 shares of
common stock with a $1.7 million loan that is expected to be
repaid over 15 years, resulting in an annual expense (pre-tax)
of approximately $115,000 (assuming that the shares of common
stock maintain a value of $10.00 per share);
(ii) the recognition and retention plan would award a number of
shares equal to 4% of the shares sold in the offering (including
shares issued to the charitable foundation), or 86,140 shares,
to eligible participants, and such awards would be expensed as
the awards vest. Assuming all shares are awarded under the
recognition and retention plan at a price of $10.00 per share,
and that the awards vest over five years, the corresponding
annual expense (pre-tax) associated with shares awarded under
the recognition and retention plan would be approximately
$172,000; and
(iii) the after-tax expense of our funding of the charitable
contribution will be approximately $495,000, all of which will
be recorded in the quarter in which we fund the charitable
contribution.
The actual expense that will be recorded for the employee stock
ownership plan will be determined by the market value of the shares of common
stock as they are released to employees over the term of the loan, and whether
the loan is repaid faster than its contractual term. Accordingly, increases in
the stock price above $10.00 per share will increase the total employee stock
ownership plan expense, and accelerated repayment of the loan will increase the
employee stock ownership plan expense for those periods in which accelerated or
larger loan repayments are made. Further, the actual expense of the recognition
and retention plan will be determined by the fair market value of the stock on
the grant date, which might be greater than $10.00 per share.
CRITICAL ACCOUNTING POLICIES
Our accounting and reporting policies are prepared in accordance with
accounting principles generally accepted in the United States of America and
conform to general practices within the banking industry. We consider accounting
policies that require significant judgment and assumptions by management that
have, or could have, a material impact on the carrying value of certain assets
or on income to be critical accounting policies. Changes in underlying factors,
assumptions or estimates could have a material impact on our future financial
condition and results of operations. Based on the size of the item or
significance of the estimate, the FOLLOWING accounting policies are considered
critical to our financial results.
ALLOWANCE FOR LOAN LOSSES.
The allowance for loan losses is calculated with the objective of
maintaining an allowance sufficient to absorb estimated probable loan losses.
Management's determination of the adequacy of the allowance is based on periodic
evaluations of the loan portfolio and other relevant factors. However, this
52
evaluation is inherently subjective, as it requires an estimate of the loss
content for each risk rating and for each impaired loan, an estimate of the
amounts and timing of expected future cash flows, and an estimate of the value
of collateral.
We have established a systematic method of periodically reviewing the
credit quality of the loan portfolio in order to establish an allowance for
losses on loans. The allowance for losses on loans is based on our current
judgments about the credit quality of individual loans and segments of the loan
portfolio. The allowance for losses on loans is established through a provision
for loan losses based on our evaluation of the losses inherent in the loan
portfolio, and considers all known internal and external factors that affect
loan collectability as of the reporting date. Our evaluation, which includes a
review of all loans on which full collectability may not be reasonably assured,
considers among other matters, the estimated net realizable value or the fair
value of the underlying collateral, economic conditions, historical loan loss
experience, our knowledge of inherent losses in the portfolio that are probable
and reasonably estimable and other factors that warrant recognition in providing
an appropriate loan loss allowance. Management believes this is a critical
accounting policy because this evaluation involves a high degree of complexity
and requires us to make subjective judgments that often require assumptions or
estimates about various matters. Historically, we believe our estimates and
assumptions have proven to be relatively accurate. For example, over the past
five years, our provision for loan losses as a percentage of average loans
outstanding has ranged from 0.06% to 0.25%, while our net charge-offs as a
percentage of average loans outstanding has ranged from 0.04% to 0.12%.
Nevertheless, because a small number of non-performing loans could result in net
charge-offs significantly in excess of the estimated losses inherent in our loan
portfolio, you should not place undue reliance on the accuracy of past
estimates.
The analysis of the allowance for loan losses has two components:
specific and general allocations. Specific allocations are made for loans that
are determined to be impaired. Impairment is measured by determining the present
value of expected future cash flows or, for collateral-dependent loans, the fair
value of the collateral adjusted for market conditions and selling expenses. The
general allocation is determined by segregating the remaining loans by type of
loan, risk weighting (if applicable) and payment history. We also analyze
delinquency trends, which have remained stable, general economic conditions and
geographic and industry concentrations. This analysis establishes factors that
are applied to the loan groups to determine the amount of the general reserve.
The principal assumption used in deriving the allowance for loan losses is the
estimate of loss content for each risk rating. To illustrate, if recent loss
experience dictated that the projected loss ratios would be changed by 10% (of
the estimate) across all risk ratings, the allocated allowance as of September
30, 2004 would have changed by approximately $100,000. Actual loan losses may be
significantly more than the allowances we have established, which could have a
material negative effect on our financial results.
MORTGAGE SERVICING RIGHTS. In 2000, we began selling to investors a
portion of our originated one- to four-family residential real estate mortgage
loans. When we acquire mortgage servicing rights through the origination of
mortgage loans and sale of those loans with servicing rights retained, we
allocate a portion of the total cost of the mortgage loans to the mortgage
servicing rights based on their relative fair value. As of September 30, 2004,
we were servicing loans sold to others totaling $140.4 million. We amortize
capitalized mortgage servicing rights as a reduction of servicing fee income in
proportion to, and over the period of, estimated net servicing income by use of
a method that approximates the level-yield method. We periodically evaluate
capitalized mortgage servicing rights for impairment using a model that takes
into account several variables including expected prepayment speeds and
prevailing interest rates. If we identify impairment, we charge the amount of
the impairment to earnings by establishing a valuation allowance against the
capitalized mortgage servicing rights asset. The primary risk of material
changes to the value of the servicing rights resides in the potential volatility
in the economic assumptions used, particularly the prepayment speed. We monitor
this risk and adjust the valuation allowance as necessary to adequately record
any probable impairment in the portfolio.
53
Management believes the estimation of these variables makes this a critical
accounting policy. For purposes of measuring impairment, the mortgage servicing
rights are stratified based on financial asset type and interest rates. In
addition, we obtain an independent third-party valuation of the mortgage
servicing portfolio on a quarterly basis. In general, the value of mortgage
servicing rights increases as interest rates rise and decreases as interest
rates fall. This is because the estimated life and estimated income from a loan
increase as interest rates rise and decrease as interest rates fall. The key
economic assumptions made in determining the fair value of the mortgage
servicing rights at September 30, 2004 included the following:
Annual constant prepayment speed (CPR): 11.08%
Weighted average life remaining (in months): 54
Discount Rate Used: 7.50%
At the September 30, 2004 valuation, we calculated the value of our mortgage
servicing rights to be $1.6 million. The book value of our mortgage servicing
rights as of September 30, 2004 was $898,000, which was $677,000 less than the
independent valuation. Because the fair value exceeded the book value, there was
no need to establish a valuation allowance. Management believes that the
assumptions and estimates used to record and amortize the mortgage servicing
rights have been relatively accurate. As evidence for this statement, the only
time it was necessary to record a valuation allowance was in June of 2003 when
mortgage interest rates reached near historic lows. The allowance recorded at
that time was $29,000. That allowance was reversed in December 2003 when the
valuation calculation showed the fair value to be $428,000 higher than the book
value.
IMPAIRMENT OF INTANGIBLE ASSETS. Goodwill arising from business
acquisitions represents the value attributable to unidentifiable intangible
elements in the business acquired. The fair value of goodwill is dependent upon
many factors, including our ability to provide quality, cost effective services
in the face of competition. Because of these many factors, management believes
this is a critical accounting policy. A decline in earnings as a result of
business or market conditions, a shrinking of deposit customers or a run off of
insurance customers over sustained periods could lead to an impairment of
goodwill which could adversely impact earnings in future periods.
A significant portion of our intangible assets, including goodwill,
relates to the acquisition premiums recorded with the purchase of the
InsuranCenter of Alpena ^("ICA") and certain branches over the last several
years. Intangible assets are reviewed periodically for impairment by comparing
the fair value of the intangible asset to the book value of the intangible
asset. If the book value is in excess of the fair value, impairment is indicated
and the goodwill must be written down to its fair value.
In connection with our acquisition in 2003 of the ICA, we allocated the
excess of the purchase price paid over the fair value of net assets acquired to
intangible assets, including goodwill. These intangible assets included the ICA
customer list and a third party contract to which ICA is a party. We are
amortizing the value assigned to the customer list and the contract over 20
years. Goodwill is not amortized. The impairment test of goodwill and identified
intangible assets that have an indefinite useful life, performed as of September
30, 2004, ^ and December 31, 2003 in accordance with SFAS No. 142, did not
indicate that an impairment charge was required. If, through testing, we
determine that there is impairment, based, for example, on significant runoff of
the customer list or material changes to the third party contract, then we may
need to reduce the recorded value of those intangible assets, which would create
expense and reduce our earnings. To illustrate, if it were determined that 10%
of the acquired customers were to leave ICA in a single year, then we would need
to record an impairment charge that would equal an additional 5% of the original
value assigned to the customer list which, in this case, would be $45,000 on a
pretax basis. This scenario might also lead to impairment of the goodwill asset
which would further impact earnings. Presently, the customer base and the third
party contracts have proven to
54
be longstanding and stable. The third party contract is with a health insurance
provider that is the market leader in northeast lower Michigan in providing
healthcare coverage supporting management's evaluation that the asset in not
impaired.
In connection with branch offices that were acquired over the last
decade, we assigned the excess of the purchase price over the fair value of the
assets acquired to core deposit intangible. The core deposit intangible is
tested periodically for impairment. Our original estimates related to the
expected life of the deposits have proven to be relatively accurate as evidenced
by the fact that no impairment has been recorded. If we determine through
testing that a significant portion of the acquired customers no longer do
business with us then the asset would be deemed to be impaired thereby requiring
a charge to earnings to the extent appropriate given all of the known factors.
We amortize core deposit intangibles over a period of between 10 and 15 years.
BUSINESS STRATEGY
OPERATING AS A COMMUNITY SAVINGS BANK. We are committed to meeting the
financial needs of the communities in which we operate. Our branch network of 10
offices enhances our ability to serve these communities. We provide a broad
range of individual consumer and business financial services on a personalized
basis. We believe that we can be more effective in servicing our customers than
many of our non-local competitors because our employees and senior management
are able to respond promptly to customer needs and inquiries. Our ability to
provide these services is enhanced by the experience of our senior management,
which has an average of 10 years' experience in the financial services industry.
INCREASING OUR COMMERCIAL REAL ESTATE AND COMMERCIAL LENDING. Beginning
in 2001, we began to increase our originations of commercial real estate and
commercial loans. At September 30, 2004, loans secured by commercial real estate
totaled $26.5 million, or 14.0% of our total loan portfolio, and commercial
loans totaled $29.0 million, or 15.4% of our total loan portfolio. We intend to
emphasize the origination of these types of loans in the future and retain them
in our portfolio. Commercial real estate and commercial loans generally are
originated with higher interest rates compared to one- to four-family
residential real estate loans, and therefore, have a positive impact on our net
interest rate spread and net interest income. In addition, most of these loans
are originated with adjustable interest rates, which assists us in managing
interest rate risk. We believe that our 10-branch network will enable us to
increase our commercial and commercial real estate loan portfolio without
significant additional fixed costs.
INCREASING OUR SHARE OF LOWER-COST DEPOSITS. In past years our cost of
funds has been relatively high as we accepted higher-costing long-term
certificates of deposit to fund our long-term assets such as one- to four-family
residential mortgage loans. As we have increased our origination of commercial
real estate and commercial loans, most of which are originated with adjustable
interest rates, we have decreased our need for higher-costing long-term
certificates of deposit. We intend to lower our cost of funds by increasing our
share of lower-cost short-term certificates of deposit and lower-cost money
market deposits. We also intend to market our non-interest-bearing checking
accounts in conjunction with our focus on commercial business lending.
INCREASING AND DIVERSIFYING OUR SOURCES OF NON-INTEREST INCOME. In June
2003, we acquired InsuranCenter of Alpena ("ICA"), a licensed insurance agency
engaged in the business of property, casualty and health insurance, in an effort
to increase and diversify our sources of non-interest income. In 2004, property
insurance sales represented approximately 20% of ICA's revenues, life insurance
sales represented approximately 4% of revenues and health insurance sales
represented approximately 76% of revenues.
55
MAINTAINING HIGH ASSET QUALITY AND CAPITAL STRENGTH. We are committed to
conservative loan underwriting standards and procedures, and we primarily
originate loans secured by real estate. See "Business of Alpena Bancshares, Inc.
and First Federal of Northern Michigan--Lending Activities." As a result, we
have consistently experienced low levels of late payments and losses on loans.
As of September 30, 2004, our ratio of non-performing assets to total assets was
0.70%. At September 30, 2004, our ratio of equity to assets was 8.62%. Assuming
the sale of 1,600,000 shares of common stock at the midpoint of the offering
range, we expect that the ratio of equity to assets will increase to
approximately 13.1% following the conversion.
MANAGING OUR INTEREST RATE RISK EXPOSURE BY SELLING FIXED-RATE
RESIDENTIAL REAL ESTATE LOANS. Historically, most borrowers have preferred
long-term, fixed-rate residential real estate loans when market interest rates
are at relatively low levels. These loans expose us to interest rate risk
because our liabilities, consisting primarily of deposits, have relatively short
maturities. In order to better match the maturities of our loan portfolio to the
maturities of our deposits in the current low interest rate environment, we have
sold substantially all of the fixed-rate, one- to four-family residential real
estate loans with maturities of 15 years or more that we have originated since
2002, and we intend to continue this practice for so long as interest rates
remain at current low levels. However, as interest rates rise in future periods
as we expect, we anticipate deploying our existing cash and cash equivalents, as
well as the net proceeds from the offering, to increase the origination, and
retention, of one-to four-family mortgage loans in our portfolio..
MANAGEMENT OF INTEREST RATE RISK
QUALITATIVE ANALYSIS. Our most significant form of market risk is
interest rate risk. The general objective of our interest rate risk management
is to determine the appropriate level of risk given our business strategy, and
then manage that risk in a manner that is consistent with our policy to reduce
the exposure of our net interest income to changes in market interest rates.
First Federal of Northern Michigan's asset/liability management committee
("ALCO"), which consists of senior management, evaluates the interest rate risk
inherent in our assets and liabilities, our operating environment and capital
and liquidity requirements, and modifies our lending, investing and
deposit-taking strategies accordingly. The Board of Directors reviews the ALCO's
activities and strategies, the effect of those strategies on our net interest
margin, and the effect that changes in market interest rates would have on the
economic value of our loan and securities portfolios, as well as the intrinsic
value of our deposits and borrowings.
We actively evaluate interest rate risk in connection with our lending,
investing and deposit-taking activities. Generally, our loans, which represent
the significant majority of our assets, have longer-terms to maturity than our
deposits, which represent the significant majority of our liabilities. As of
September 30, 2004, $169.0 million, or 88.2% of our loan portfolio, consisted of
loans that mature or reprice during the year ending December 31, 2005 and
beyond. In contrast, as of September 30, 2004, $104.5 million, or 68.9% of our
deposits as of that date, consisted of deposits that mature or reprice in less
than one year.
In an effort to better manage interest-rate risk, we have increased our
focus on the origination and retention in our portfolio of adjustable-rate
residential mortgage loans. In addition, we have increased the origination and
retention in our portfolio of commercial real estate and commercial loans, since
most of these loans are originated with adjustable interest rates. In the
current low interest rate environment, we also have generally sold into the
secondary mortgage market all of the fixed-rate, longer-term (15 years or more)
residential mortgage loans that we originate, generally on a servicing-retained
basis. Finally, we have primarily invested in short- and medium-term securities
and have maintained high levels of liquid assets, such as cash and cash
equivalents. Shortening the average maturity of our interest-earning assets
through these strategies helps us to better match the maturities and interest
rates of our assets and
56
liabilities, thereby reducing the exposure of our net interest income to changes
in market interest rates. Maintaining high levels of liquid assets also permit
us to invest in higher-yielding securities and loans when market interest rates
increase. However, these strategies can be expected to adversely affect net
interest income if long-term interest rates remain at low levels. See "Risk
Factors--Changes in Market Interest Rates Could Adversely Affect Our Financial
Condition and Results of Operations." We expect that as long-term interest rates
rise we will reduce our mortgage-banking operations, and will retain in our
portfolio a larger percentage of the one- to four-family loans that we
originate.
QUANTITATIVE ANALYSIS. We evaluate interest rate sensitivity using a
model that estimates the change in our net portfolio value ("NPV") over a range
of interest rate scenarios. NPV is the discounted present value of expected cash
flows from assets, liabilities and off-balance sheet contracts. In calculating
changes in NPV, we assume estimated loan prepayment rates, reinvestment rates
and deposit decay rates that seem most likely based on historical experience
during prior interest rate changes.
The table below sets forth, as of September 30, 2004, the estimated
changes in our NPV that would result from the designated instantaneous changes
in the U.S. Treasury yield curve. Computations of prospective effects of
hypothetical interest rate changes are based on numerous assumptions including
relative levels of market interest rates, loan prepayments and deposit decay,
and should not be relied upon as indicative of actual results.
NPV AS A PERCENTAGE OF
ESTIMATED INCREASE PRESENT VALUE OF ASSETS (3)
(DECREASE) IN NPV -------------------------------
CHANGE IN INTEREST --------------------------- INCREASE
RATES (BASIS ESTIMATED (DECREASE)
POINTS) (1) NPV (2) AMOUNT PERCENT NPV RATIO (4) (BASIS POINTS)
-------------------- ----------- ------------ ------------- -------------- --------------
(DOLLARS IN THOUSANDS)
+300 $ 19,588 $ (5,171) (21)% 7.85% (164)
+200 22,028 (2,730) (11)% 8.68% (81)
+100 23,911 (848) (3)% 9.28% (21)
-- 24,758 -- 0% 9.50% --
-100 23,963 (795) (3)% 9.12% (38)
---------------------------
(1) Assumes an instantaneous uniform change in interest rates at all
maturities.
(2) NPV is the discounted present value of expected cash flows from
assets, liabilities and off-balance sheet contracts.
(3) Present value of assets represents the discounted present value
of incoming cash flows on interest-earning assets.
(4) NPV Ratio represents NPV divided by the present value of assets.
The table set forth above indicates that at September 30, 2004, in the
event of an immediate 100 basis point decrease in interest rates, we would be
expected to experience a 3% decrease in NPV and a 38 basis point decrease in NPV
ratio. In the event of an immediate 200 basis point increase in interest rates,
we would be expected to experience an 11% decrease in NPV and an 81 basis point
decrease in NPV ratio.
Certain shortcomings are inherent in the methodology used in the above
interest rate risk measurements. Modeling changes in NPV and net interest income
requires making certain assumptions that may or may not reflect the manner in
which actual yields and costs respond to changes in market interest rates. The
NPV and net interest income table presented above assumes that the composition
of our interest-rate sensitive assets and liabilities existing at the beginning
of a period remains constant over the period being measured and, accordingly,
the data do not reflect any actions management may undertake in response to
changes in interest rates. The table also assumes that a particular change in
interest rates is reflected uniformly across the yield curve regardless of the
duration to maturity or the repricing characteristics of specific assets and
liabilities. Accordingly, although the NPV and net interest income table
provides an indication of our sensitivity to interest rate changes at a
particular point in time, such
57
measurements are not intended to and do not provide a precise forecast of the
effect of changes in market interest rates on our net interest income and will
differ from actual results.
ANALYSIS OF NET INTEREST INCOME
Net interest income is the difference between our interest income on
interest-earning assets and our interest expense on interest-bearing
liabilities. Our net interest income depends on the relative amounts of
interest-earning assets and interest-bearing liabilities and the interest rates
earned or paid on them, respectively.
The following tables set forth average balance sheets, average yields
and costs, and certain other information for the periods indicated. No
tax-equivalent yield adjustments were made, as the effect thereof was not
material. All average balances are daily average balances. Non-accrual loans
were included in the computation of average balances, but have been reflected in
the table as loans carrying a zero yield. The yields set forth below include the
effect of deferred fees, discounts and premiums that are amortized or accreted
to interest income or expense.
NINE MONTHS ENDED SEPTEMBER 30,
--------------------------------------------------------------------------------
AT 2004 2003
SEPTEMBER --------------------------------------- ---------------------------------------
30, 2004 AVERAGE AVERAGE
------------ OUTSTANDING OUTSTANDING
YIELD/RATE BALANCE INTEREST YIELD/RATE(1) BALANCE INTEREST YIELD/RATE(1)
------------ ----------- ---------- -------------- ----------- ---------- --------------
(DOLLARS IN THOUSANDS)
INTEREST-EARNING ASSETS:
Loans......................... 6.40% $ 176,682 $ 8,447 6.39% $ 153,420 $ 8,408 7.33%
Investment securities......... 3.42% 42,466 1,084 3.41% 45,677 1,380 4.04%
Other investments (2)......... 3.74% 6,854 267 5.21% 13,051 337 3.45%
----------- ---------- ----------- ----------
Total interest-earning
assets.................... 5.79% 226,002 9,798 5.79% 212,148 10,125 6.37%
----------- ---------- ----------- ----------
Non-interest-earning assets... 17,158 15,562
----------- -----------
Total assets............... $ 243,160 $ 227,710
=========== ===========
INTEREST-BEARING LIABILITIES:
Savings deposits.............. 0.26% $ 27,556 46 0.22% $ 30,027 98 0.44%
Money market/NOW accounts..... 0.90% 29,385 172 0.78% 23,715 145 0.82%
Certificates of deposit....... 3.31% 97,360 2,402 3.30% 93,662 2,631 3.75%
------------ ----------- ---------- -------------- ----------- ---------- --------------
Total deposits............. 2.33% 154,301 2,620 2.27% 147,404 2,874 2.61%
FHLB advances and other (3)... 5.07% 54,956 1,951 4.74% 47,963 2,057 5.73%
------------ ----------- ---------- -------------- ----------- ---------- --------------
Total interest-bearing
liabilities............... 2.95% 209,257 4,571 2.92% 195,367 4,931 3.38%
Non-interest-bearing
liabilities.................. 12,088 10,413
----------- -----------
Total liabilities.......... 221,345 205,780
Stockholders' equity.......... 21,815 21,924
----------- -----------
Total liabilities and
stockholders' equity..... $ 243,160 $ 227,704
=========== ===========
Net interest income........... $ 5,227 $ 5,194
========== ==========
Net interest rate spread 42).. 2.84% 2.87% 2.99%
============ ============== ==============
Net interest-earning assets (5) $ 16,745 $ 16,781
=========== ===========
Net interest margin (6)....... 3.07% 3.09% 3.27%
============ ============== ==============
Average interest-earning
assets to interest-bearing
liabilities................ 108.21% 108.00% 108.59%
============ ============== ==============
(FOOTNOTES ON FOLLOWING PAGE)
58
YEARS ENDED DECEMBER 31,
----------------------------------------------------------------------------------------------------
2003 2002 2001
-------------------------------- -------------------------------- --------------------------------
AVERAGE AVERAGE AVERAGE
OUTSTANDING YIELD/ OUTSTANDING YIELD/ OUTSTANDING YIELD/
BALANCE INTEREST RATE(1) BALANCE INTEREST RATE(1) BALANCE INTEREST RATE(1)
----------- ---------- --------- ----------- ---------- --------- ----------- ---------- ---------
(DOLLARS IN THOUSANDS)
INTEREST-EARNING ASSETS:
Loans...................... $ 156,131 $ 11,214 7.18% $ 163,746 $ 12,133 7.41% $ 201,926 $ 15,761 7.81%
Investment securities...... 43,939 1,736 3.95% 42,805 1,911 4.46% 18,847 1,056 5.60%
Other investments (2)...... 11,639 400 3.44% 15,267 455 2.98% 15,856 769 4.85%
----------- ---------- ----------- ---------- ----------- ----------
Total interest-earning
assets................. 211,709 13,350 6.31% 221,818 14,499 6.54% 236,629 17,586 7.43%
----------- ---------- ----------- ---------- ----------- ----------
Non-interest-earning assets 16,018 13,375 13,469
----------- ----------- -----------
Total assets............ $ 227,727 $ 235,193 $ 250,098
=========== =========== ===========
INTEREST-BEARING LIABILITIES:
Savings deposits........... $ 29,700 119 0.40% $ 31,007 196 0.63% $ 27,582 363 1.32%
Money market/NOW accounts.. 24,206 189 0.78% 23,648 288 1.22% 22,772 288 1.26%
Certificates of deposit.... 92,900 3,411 3.67% 102,370 4,982 4.87% 115,288 7,255 6.29%
----------- ---------- --------- ----------- ---------- --------- ----------- ---------- ---------
Total deposits.......... 146,806 3,719 2.53% 157,025 5,466 3.48% 165,642 7,906 4.77%
FHLB advances and other (3) 47,977 2,736 5.70% 49,462 2,876 5.81% 60,461 3,533 5.84%
----------- ---------- --------- ----------- ---------- --------- ----------- ---------- ---------
Total interest-bearing
liabilities........... 194,783 6,455 3.31% 206,487 8,342 4.04% 226,103 11,439 5.06%
Non-interest-bearing
liabilities............... 11,040 7,770 4,291
----------- ----------- -----------
Total liabilities....... 205,823 214,257 230,394
Stockholders' equity....... 21,904 20,936 19,704
----------- ----------- -----------
Total liabilities and
stockholders' equity.. $ 227,727 $ 235,193 $ 250,098
=========== =========== ===========
Net interest income........ $ 6,895 $ 6,157 $ 6,147
========== ========== ==========
Net interest rate
spread (4)................ 3.00% 2.50% 2.37%
========= ========= =========
Net interest-earning
assets (5)................ $ 16,926 $ 15,331 $ 10,526
=========== =========== ===========
Net interest margin (6).... 3.26% 2.78% 2.60%
========= ========= =========
Average of interest-earning
assets to
interest-bearing
liabilities............. 108.69% 107.42% 104.66%
========= ========= =========
---------------------------
(1) Yields and rates for the nine months ended September 30, 2004 and 2003
are annualized.
(2) Includes income from subsidiary.
(3) Includes $1.3 million in a note payable in annual installments over 10
years to the former owners of InsuranCenter.
(4) Net interest rate spread represents the difference between the yield on
average interest-earning assets and the cost of average interest-bearing
liabilities.
(5) Net interest-earning assets represents total interest-earning assets
less total interest-bearing liabilities.
(6) Net interest margin represents net interest income divided by average
total interest-earning assets.
59
The following table presents the dollar amount of changes in interest
income and interest expense for the major categories of our interest-earning
assets and interest-bearing liabilities. Information is provided for each
category of interest-earning assets and interest-bearing liabilities with
respect to (i) changes attributable to changes in volume (i.e., changes in
average balances multiplied by the prior-period average rate) and (ii) changes
attributable to changes in rate (i.e., changes in average rate multiplied by
prior-period average balances). For purposes of this table, changes attributable
to both rate and volume, which cannot be segregated, have been allocated
proportionately to the change due to volume and the change due to rate.
NINE MONTHS ENDED SEPTEMBER 30, YEARS ENDED DECEMBER 31, YEARS ENDED DECEMBER 31,
2004 VS. 2003 2003 VS. 2002 2002 VS. 2001
-------------------------------- -------------------------------- --------------------------------
INCREASE (DECREASE) INCREASE (DECREASE) INCREASE (DECREASE)
DUE TO TOTAL DUE TO TOTAL DUE TO TOTAL
------------------- INCREASE ------------------- INCREASE ------------------- INCREASE
VOLUME RATE (DECREASE) VOLUME RATE (DECREASE) VOLUME RATE (DECREASE)
-------- -------- ---------- -------- -------- ---------- -------- -------- ----------
(IN THOUSANDS)
INTEREST-EARNING ASSETS:
Loans................... $ 1,140 $ (1,100) $ 40 $ (600) $ (319) $ (919) $ (2,748) $ (880) $ (3,628)
Investment securities... (93) (204) (297) 49 (224) (175) 1,108 (253) 855
Other Investments(1).... (199) 131 (69) (118) 63 (55) (28) (286) (314)
-------- -------- ---------- -------- -------- ---------- -------- -------- ----------
Total interest-earning
assets............. 848 (1,174) (326) (669) (480) (1,149) (1,668) (1,419) (3,087)
-------- -------- ---------- -------- -------- ---------- -------- -------- ----------
INTEREST-BEARING
LIABILITIES:
Savings deposits........ (7) (46) (53) (8) (69) (77) 41 (208) (167)
Money market/NOW
accounts............. 34 (6) 28 7 (106) (99) 10 (10) --
Certificates of deposit 100 (328) (228) (429) (1,142) (1,571) (754) (1,519) (2,273)
-------- -------- ---------- -------- -------- ---------- -------- -------- ----------
Total deposits........ 127 (380) (253) (430) (1,317) (1,747) (703) (1,737) (2,440)
FHLB Advances and
others(2)............ 281 (388) (106) (67) (73) (140) (639) (18) (657)
-------- -------- ---------- -------- -------- ---------- -------- -------- ----------
Total interest-bearing
liabilities........ 409 (768) (360) (497) (1,390) (1,887) (1,342) (1,755) (3,097)
-------- -------- ---------- -------- -------- ---------- -------- -------- ----------
Change in net interest
income............... $ 439 $ (406) $ 33 $ (172) $ 910 $ 738 $ (326) $ 336 $ 10
======== ======== ========== ======== ======== ========== ======== ======== ==========
---------------------------
(1) Includes income from subsidiary.
(2) Includes $1.3 million in a note payable in annual installments over 10
years to the former owners of InsuranCenter.
COMPARISON OF FINANCIAL CONDITION AT SEPTEMBER 30, 2004 AND DECEMBER 31, 2003
ASSETS. Total assets increased $30.6 million, or 13.6%, to $254.5
million at September 30, 2004 from $223.9 million at December 31, 2003. Net
loans receivable increased $23.4 million, or 14.2%, to $187.8 million at
September 30, 2004 from $164.4 million at December 31, 2003, reflecting growth
in all loan categories. The mortgage loan portfolio grew primarily as the result
of our purchase of $9.1 million in mortgage loans from another Michigan bank, of
which $7.8 million remained at September 30, 2004. Except for a single loan that
was secured by real estate in Indiana, all of the loans purchased were secured
by real estate within the state of Michigan. Growth in both the commercial and
consumer loan portfolios resulted from our efforts to increase these types of
loans. Cash and cash and equivalents decreased by $1.9 million, or 28.1%, to
$4.8 million at September 30, 2004 from $6.7 million at December 31, 2003 as we
invested excess cash in bonds that pay higher yields than the overnight yields
on federal funds. Investment securities increased $8.2 million, or 23.7% in the
first nine months of 2004 due to a leveraging strategy we implemented during the
period in which we purchased $10.0 million in short-term (less than three years)
corporate bonds funded with short-duration Federal Home Loan Bank advances.
60
LIABILITIES. Deposits increased $30.7 million, or 20.3%, to $182.4
million at September 30, 2004 from $151.7 million at December 31, 2003. This
increase was primarily attributable to the $12.1 million of deposits acquired in
our May 2004 acquisition from another financial institution of two branches
located in Mancelona and Alanson, Michigan. We also were successful in
attracting deposit through various time deposit promotions conducted during this
period. Federal Home Loan Bank advances increased $250,000, or 0.5%, to $46.1
million at September 30, 2004 from $45.8 million at December 31, 2003.
STOCKHOLDERS' EQUITY. Stockholders' equity decreased by $15,000 to $21.9
million at September 30, 2004 from $22.0 million at December 31, 2003. The
decrease was due to lower market values on our investment portfolio. Compared to
December 31, 2003, the net unrealized gain on available for sale securities
decreased $161,000 at September 30, 2004 due to the rise in market interest
rates over the period. The decrease in net unrealized gain on available for sale
securities was partially offset by net income of $332,000 for the nine months
ended September 30, 2004.
COMPARISON OF FINANCIAL CONDITION AT DECEMBER 31, 2003 AND DECEMBER 31, 2002
ASSETS. Total assets decreased $4.9 million, or 2.1%, to $223.9 million
at December 31, 2003 from $228.8 million at December 31, 2002. Net loans
increased $12.6 million, or 8.2%, to $164.4 million at December 31, 2003 from
$151.9 million at December 31, 2002, due primarily to increased commercial
lending activities. Our commercial loan portfolio grew 54.0% to $42.9 million at
December 31, 2003 from $27.9 million at December 31, 2002. Among the reasons for
the growth of our commercial loan portfolio was our hiring of a new commercial
lender early in 2003. Mortgage lending was strong in 2003 as originations of
one- to four-family residential mortgage loans totaled $133.1 million in 2003,
representing an increase of 36.5% compared to 2002. The increased loan
origination activity reflected the near historic lows in mortgage interest rates
generally, plus our addition of two experienced mortgage lenders who were
employed by us for most of the year. Because low market interest rates resulted
in relatively low rates on these newly originated loans, we elected to sell most
of these loans to reduce our interest rate risk. The cash proceeds of the sales
were used to fund the origination of commercial loans, which increased to $13.5
million at December 31, 2003 from $7.5 million at December 31, 2002. The cash
proceeds also were used to pay off high-cost Federal Home Loan Bank advances. To
fund the growth in higher-yielding loans, we reduced cash and cash equivalents
by $8.4 million, or 55.6%, to $6.7 million at December 31, 2003 from $15.1
million at December 31, 2002. We also reduced investment securities by $12.3
million, or 26.2%, to $34.7 million at December 31, 2003 from $46.9 million at
December 31, 2002.
LIABILITIES. Deposits decreased $4.4 million, or 2.8%, to $151.7 million
at December 31, 2003 from $156.1 million at December 31, 2002 as increased
liquidity from our mortgage banking activities and the reduction in cash and
cash equivalents and investment securities allowed us to reduce the rates
offered on our deposits which led to the decline in deposit balances. Borrowings
in the form of Federal Home Loan Bank advances declined by $2.6 million, or
5.4%, to $45.8 million at December 31, 2003 from $48.4 million at December 31,
2002 as we used our increased liquidity to repay high-cost advances.
STOCKHOLDERS' EQUITY. Stockholders' equity increased by $204,000, or
0.9%, to $22.0 million at December 31, 2003 from $21.7 million at December 31,
2002. The increase in stockholders' equity was due to net income of $1.2
million, which was partially offset by dividends paid of $366,000 and by lower
other comprehensive income resulting from the decline in the value of our
available-for-sale securities as market interest rates rose in the fall of 2003.
61
COMPARISON OF OPERATING RESULTS FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2004 AND
SEPTEMBER 30, 2003
GENERAL. Net income decreased 58.1% to $332,000 for the nine months
ended September 30, 2004 from $791,000 for the same period ended September 30,
2003, primarily due to the significant decrease in mortgage lending resulting
from a reduction in mortgage refinancing activity. Non-interest income decreased
$293,000, or 7.5%, reflecting an $831,000, or 64.3%, decrease in non-interest
income attributable to our mortgage banking activities. This decrease was
partially offset by the $493,000 increase in insurance and brokerage commissions
related to ICA due to the inclusion of nine months of ICA ownership in 2004
compared to seven months of ownership in 2003.
INTEREST INCOME. Interest income was $9.8 million for the nine months
ended September 30, 2004, compared to $10.1 million for the comparable period in
2003. The decrease of $326,000, or 3.2%, was primarily due to our sale of
longer-term fixed rate mortgage loans and the subsequent reinvestment of these
proceeds into lower-yielding assets such as investment securities and
shorter-duration non-mortgage loans, which caused an overall decline in the
yield on our loan portfolio. The average yield of our loan portfolio fell 94
basis points to 6.39% for the nine months ended September 30, 2004 from 7.33%
for the nine months ended September 30, 2003. The average balance of
non-mortgage loans increased during the nine-month period ended September 30,
2004 by $18.9 million, or 36.0%, reflecting a $16.0 million, or 48.6%, increase
in the average balance of commercial loans and a $3.0 million, or 15.1%,
increase in the average balance of consumer loans. The yield on our commercial
loans declined 21 basis points to 5.75% at September 30, 2004 from 5.96% at
September 30, 2003. The yield on our consumer loans declined 123 basis points to
6.96% at September 30, 2004 from 8.19% at September 30, 2003, which was
attributable in part to a home equity loan promotion which offered a sub-prime
introductory interest rate. Partially offsetting these factors was an increase
in the average balance of one- to four-family residential mortgage loans for the
nine months ended September 30, 2004 compared to the same period in 2003 due to
our purchase of $9.1 million such loans in May 2004. The average balance of
investment securities decreased to $42.5 million for the nine months ended
September 30, 2004 from $45.7 million for the earlier year period and the
average yield on the investment securities declined to 3.41% for the nine months
ended September 30, 2004 from 4.04% for the same period in 2003, reflecting the
lower market interest rate environment. As a result, interest income from
investment securities decreased to $1.2 million from $1.5 million. Similarly,
the average balance of interest-earning deposits decreased to $6.9 million for
the nine months ended September 30, 2004 from $13.1 million for the earlier year
period as these assets were deployed into higher-yielding loans, which caused a
decrease in interest income to $171,000 from $244,000.
INTEREST EXPENSE. Interest expense decreased to $4.6 million for the
nine months ended September 30, 2004 from $4.9 million for the same period in
2003, due to lower interest rates paid on interest-bearing liabilities in 2004
compared to the 2003 period. The average cost of deposits for the nine months
ended September 30, 2004 declined to 2.27% from 2.61% for the same period in
2003. The average cost of borrowings decreased to 4.74% for the nine months
ended September 30, 2004 from 5.73% for the same period in 2003. The 99 basis
point reduction in the cost of these funds was the result of additional shorter
term borrowings at lower rates and the re-pricing of higher cost advances late
in 2003. The declines in the average cost of deposits and borrowings more than
offset an increase in the average balance of deposits and borrowings to $209.3
million from $195.4 million. Of this $13.9 million increase in average balances,
$7.0 million was related to Federal Home Loan Bank borrowings, which increased
to $55.0 million for the nine months ended September 30, 2004 from $48.0 million
for the same period in 2003.
NET INTEREST INCOME. Net interest income increased by $33,000 to $5.2
million for the nine months ended September 30, 2004 from $5.2 million for the
same period in 2003. For the nine months
62
ended September 30, 2004, average interest-earning assets increased $13.9
million, or 6.5%, from the same period in 2003. Average interest-bearing
liabilities increased $13.9 million, or 7.1%, for the same period. While our net
interest rate spread declined 12 basis points to 2.87% for the nine months ended
September 30, 2004 from 3.20% for the same period in 2003, the increase in our
total interest earning assets more than compensated for the decline.
PROVISION FOR LOAN LOSSES. We establish provisions for loan losses,
which are charged to operations, at a level necessary to absorb known and
inherent losses that are both probable and reasonably estimable at the date of
the financial statements. In evaluating the level of the allowance for loan
losses, management considers historical loss experience, the types of loans and
the amount of loans in the loan portfolio, adverse situations that may affect
the borrower's ability to repay, the estimated value of any underlying
collateral, and prevailing economic conditions. This evaluation is inherently
subjective as it requires estimates that are susceptible to significant revision
as more information becomes available or as future events change. Based on our
evaluation of these factors, management made a provision of $214,000 for the
nine months ended September 30, 2004 and a provision of $238,000 for the nine
months ended September 30, 2003. We had net charge-offs of $98,000 and $128,000
during the nine months ended September 30, 2004 and 2003, respectively. We used
the same methodology and generally similar assumptions in assessing the
allowance for both periods. The allowance for loan losses was $1.2 million, or
0.61% of total loans at September 30, 2004, as compared to $1.0 million, or
0.63% of total loans at September 30, 2003. The level of the allowance is based
on estimates, and ultimate losses may vary from the estimates. Because we plan
to continue to increase our originations of commercial real estate and
commercial loans, it may be necessary to increase the level of our allowance for
loan losses because of the increased risk characteristics associated with these
types of loans. See "Risk Factors--Our Commercial Real Estate and Commercial
Loans Expose Us to Increased Credit Risks and May Require Us to Increase our
Provisions for Loan Losses." Any such increase to our allowance for loan losses
could adversely affect our earnings.
Although we believe that we use the best information available to
establish the allowance for loan losses, future additions to the allowance may
be necessary based on estimates that are susceptible to change as a result of
changes in economic conditions and other factors. In addition, the Office of
Thrift Supervision, as an integral part of its examination process, periodically
reviews our allowance for loan losses. The Office of Thrift Supervision may
require us to recognize adjustments to the allowance based on its judgment
regarding the adequacy of our allowance for loan losses at the time of its
examination.
NON-INTEREST INCOME. Non-interest income decreased $293,000, or 7.5%, to
$3.6 million for the nine months ended September 30, 2004 from $3.9 million for
the same period in 2003. Non-interest income attributable to our mortgage
banking activities decreased by $831,000, or 64.3%, as the high volume of loan
refinancings in 2003, which resulted from historically low market interest
rates, slowed significantly in 2004. Gain on the sale of mortgages was $637,000
lower in the 2004 period compared to the 2003 period and the revenue associated
with mortgage servicing rights was $177,000 lower in the 2004 period compared to
the 2003 period. In addition, we recorded other non-interest income of $100,000
for the nine months ended September 30, 2003 related to the settlement of an
insurance claim, which did not recur in the 2004 period. These items were
partially offset by an increase of $493,000, or 28.4%, in insurance and
brokerage commissions attributable to the operations of ICA to $2.2 million for
the nine months ended September 30, 2004 from $1.7 million for the same period
one year earlier. This increase was due to nine full months of commissions paid
to brokers in 2004 compared to only seven months in 2003 as the effective date
of our acquisition of ICA was March 1, 2003. The declines also were partially
offset by a $189,000, or 33.7%, increase in service charges and other fees due
to an increase in overdraft fees associated with an overdraft protection product
that we introduced in July 2003.
63
NON-INTEREST EXPENSE. Non-interest expense increased $450,000, or 5.9%,
to $8.1 million for the nine months ended September 30, 2004 from $7.7 million
for the same period in 2003. Insurance and brokerage commission expense for ICA
increased $199,000, or 25.9%, to $970,000 for the nine months ended September
30, 2004 from $771,000 for the earlier year period, representing the seven
months of ICA operations that were included in the 2003 results. Compensation
and employee benefits increased $218,000 to $4.5 million for the nine months
ended September 30, 2004 from $4.2 million for the same period in 2003. This
increase was primarily due to the two additional months of ICA's compensation
expense totaling $227,000 as well as the higher compensation and employee
benefits associated with ICA's addition of two new agents and two new brokers in
the 2004 period. In addition, compensation and employee benefits increased
$113,000 for the nine-month period ended September 30, 2004 when compared to the
same period in 2003 to make up for a shortfall in funding of the Financial
Institutions Retirement Fund, the pension plan for First Federal of Northern
Michigan. At September 30, 2004, the plan was fully funded. Occupancy and
equipment expense increased by $85,000, to $907,000 for the nine months ended
September 30, 2004 from $882,000 for the nine months ended September 30, 2003.
Contributing to the increase were higher occupancy expenses related to ICA's
operations. ICA's occupancy and other operating expenses, which included
utilities, depreciation, repair and maintenance expenses, increased by $26,000,
to $189,000 for the nine months ended September 30, 2004 from $163,000 for the
nine months ended September 30, 2003. The increase reflected the inclusion of 9
months of ICA occupancy and other operating expense in 2004 as compared to 7
months in 2003.
Following completion of the reorganization and offering, non-interest
expense is likely to increase. Compensation expense will increase as a result of
our employee stock ownership plan, and could increase if we implement a
recognition and retention plan and a stock option plan.
INCOME TAXES. Federal income taxes decreased to $167,000 for the nine
months ended September 30, 2004 compared to $394,000 for the same period in
2003. The effective tax rate for both time periods was 33.5%. The reduction in
income tax reflected lower earnings for the nine months ended September 30, 2004
compared to the earlier year period.
COMPARISON OF OPERATING RESULTS FOR THE YEARS ENDED DECEMBER 31, 2003 AND
DECEMBER 31, 2002
GENERAL. Net income increased $439,000, or 57.0%, to $1.2 million for
the year ended December 31, 2003 from $770,000 for the year ended December 31,
2002. The increase in net income was due primarily to higher net interest income
and non-interest income.
INTEREST INCOME. Interest income decreased by $1.1 million, or 7.9% to
$13.4 million for the year ended December 31, 2003 from $14.5 million for the
year ended December 31, 2002. Interest income on mortgage loans decreased by
$1.2 million, or 13.7%, to $7.5 million from $8.7 million, and interest income
on other loans increased by $275,000, or 8.0%, to $3.7 million from $3.4
million. The decrease in interest income was attributable to a $10.1 million, or
4.6%, decrease in the average balance of interest-earning assets to $211.7
million for the year ended December 31, 2003 from $221.8 million for the year
ended December 31, 2002, and to a decrease in the average yield on
interest-earning assets to 6.31% for the year ended December 31, 2003 from 6.54%
for the year ended December 31, 2002. The decrease in the average balance of
interest-earning assets reflected an $18.6 million decrease in the average
balance of mortgage loans, which was partially offset by an $11.0 million
increase in the average balance of other loans. The decrease in the average
balance of mortgage loans resulted from our secondary mortgage market
activities, as we sold $81.5 million of mortgage loans during 2003. Historically
low interest rates on 15- and 30-year mortgage loans caused a large portion of
our balloon mortgage portfolio to refinance into fixed-rate loans, which we in
turn sold in the secondary mortgage market to reduce interest rate risk. The
balances of our balloon mortgage portfolio were $41.1 million and $45.7 million
at December 31, 2003 and 2002, respectively. The average balance of other
investments (comprised of investment
64
securities and interest-earning deposits) also decreased by $2.5 million, or
4.3%, during the year ended December 31, 2003. The decreases in the average
balances of mortgage loans and other investments were partially offset by an
increase in the average balance of other loans to $55.4 million for the year
ended December 31, 2003 from $44.3 million for the year ended December 31, 2002,
including a $15.5 million increase in the average balance of our commercial
loans.
The average yield on our interest earning assets decreased to 6.26% for
the year ended December 31, 2003 from 6.54% for the year ended December 31,
2002, reflecting lower market interest rates which led to lower rates on loans
originated in 2003 as well as lower rates on our existing adjustable rate loans
(which are often indexed to the prime interest rate).
Interest income on investment securities and interest-earning deposits
decreased $230,000 to $2.1 million for the year ended December 31, 2003 from
$2.4 million for the year ended December 31, 2002. This decrease was primarily
due to decreases in the average yield of our mortgage-backed securities and debt
securities (including corporate bonds and federal and state agency obligations),
which decreased to 3.83% and 3.97% for the year ended December 31, 2003 from
5.14% and 4.37%, respectively, for the year ended December 31, 2002.
INTEREST EXPENSE. Interest expense decreased by $1.9 million, or 22.6%,
to $6.5 million for the year ended December 31, 2003 from $8.3 million for the
year ended December 31, 2002. The decrease in interest expense resulted from
decreases in all categories of interest expense, and specifically a $1.7
million, or 32.0%, decrease in interest expense on deposits and a $140,000, or
4.9%, decrease in interest expense on borrowings. The decrease in interest
expense was attributable to a decrease in the average balance of borrowed funds
to $48.0 million for the year ended December 31, 2003 from $49.5 million for the
year ended December 31, 2002, and a $10.2 million, or 6.5%, decrease in the
average balance of deposits to $146.8 million for the year ended December 31,
2003 from $157.0 million for the year ended December 31, 2002. The average cost
of interest-bearing liabilities decreased to 3.31% from 4.04% as the average
cost of borrowed funds decreased to 5.70% from 5.81% and the average cost of
deposits decreased to 2.53% from 3.48%. The decrease in the average balance of
deposits was due primarily to run-off related to certificates of deposit as
depositors sought higher rates from other financial institutions. We did not try
to generate additional funds from deposits by paying high rates on certificates
of deposit because we had sufficient liquidity from secondary market loan sales
during the year. The decrease in the average cost of deposits was attributable
to lower market interest rates during 2003, while the decrease in the cost of
borrowings resulted from the re-pricing of matured high-cost Federal Home Loan
Bank advances and our repayment of some advances during the year.
NET INTEREST INCOME. Because the decrease in our interest expense was
greater than the decrease in our interest income, our net interest income
increased 738,000, or 12.0%, to $6.9 million for the year ended December 31,
2003, from $6.2 million for the year ended December 31, 2002. Our interest rate
spread increased to 3.00% from 2.50% and our net interest margin increased to
3.26% from 2.78%. In addition, our ratio of average interest-earning assets to
average interest-bearing liabilities increased to 108.69% from 107.42%.
PROVISION FOR LOAN LOSSES. The provision for loan losses totaled
$267,000 and $415,000 for the years ended December 31, 2003 and 2002,
respectively. The decrease in the provision for loan losses in 2003 resulted
partly from the settlement of a consumer loan that had a specific allocation of
$115,000 assigned to it. The loan was paid off in 2003 with only a small loss
compared to the provision that had been allocated to it. Additionally, in 2003
we sold approximately 55% of the credit card portfolio which was part of our
consumer loan portfolio. The credit card portfolio generally carries higher
credit risk than other loan types and generally requires a larger loss
allowance. Accordingly, the sale of the credit card portfolio permitted a
reduction in the associated allowance. However, an increase in the balance of
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our credit card portfolio may result in future increases to our provision for
loan losses. We had net charge-offs of $153,000 and $182,000 during the years
ended December 31, 2003 and 2002, respectively. We used the same methodology and
generally similar assumptions in assessing the allowance for both periods. The
allowance for loan losses was $1.0 million, or 0.63% of total loans at December
31, 2003, as compared with $922,000, or 0.61% of total loans at December 31,
2002.
NON-INTEREST INCOME. Non-interest income increased by $3.0 million, or
127.5%, to $5.4 million for the year ended December 31, 2003 from $2.4 million
for the year ended December 31, 2002, due primarily to $2.5 million in insurance
and brokerage commissions generated by ICA in 2003. Since ICA was purchased
during 2003, this income was not included in our non-interest income for the
year ended December 31, 2002. Income from our mortgage banking activities
increased by $162,000, or 11.6%, to $1.6 million for the year ended December 31,
2003 from $1.4 million for the year ended December 31, 2002, as gain on the sale
of mortgage loans increased to $1.1 million for the year ended December 31, 2003
from $951,000 one year earlier, reflecting increased refinancing activity in
2003 when compared to 2002. During the year ended December 31, 2003, we sold
most fixed-rate mortgage loans that we originated because of the low interest
rate environment and our desire to manage interest rate risk. For the year ended
December 31, 2003, the gain on sale of investments was $320,000 compared to
$65,000 for the same period in 2002. In 2003, we sold certain bonds to fund
loans and pay off high cost Federal Home Loan Bank advances.
NON-INTEREST EXPENSE. Non-interest expense increased by $3.3 million, or
46.0%, to $10.3 million for the year ended December 31, 2003 from $7.1 million
for the year ended December 31, 2002. Much of this increase related to the
inclusion of various expenses associated with the acquisition of ICA, which
totaled $2.2 million for the year ended December 31, 2003. Since ICA was
purchased during 2003, these costs were not included in our non-interest expense
for 2002. Compensation and employee benefits expenses increased to $6.9 million
for the year ended December 31, 2003 from $4.0 million for the same period in
2002. Of this $2.9 million increase, $800,000 related to the inclusion of the
employees associated with ICA. We hired additional mortgage and commercial
lending staff late in 2002 to improve our competitive position in our market
area. We also added back-office staff and branch personnel to improve customer
services. In addition to salary increases, commissions and incentives increased
by $93,000 primarily due to higher commissions paid because of increased loan
originations. A new compensation initiative designed to align compensation with
individual performance resulted in a $30,000 increase in compensation expense.
Employee benefit expenses including health, life and pension expenses, rose
20.3% to $640,000 for the year ended December 31, 2003 from $532,000 for the
prior year.
Brokerage and commission expenses for ICA totaled $1.1 million during
the year ended December 31, 2003. Since ICA was purchased during 2003, these
costs were not included in our non-interest expense for 2002. Amortization
expense associated with the intangible assets created in the acquisition of ICA
totaled $87,000 for the year ended December 31, 2003.
Marketing and advertising expenses increased $40,000 to $215,000 for the
year ended December 31, 2003 from $175,000 for the year ended December 31, 2002.
The increase related to advertising by ICA. In 2003 occupancy and equipment
expenses increased by $107,000 to $1.1 million. This increase related to the
addition of ICA which added $133,000 of occupancy and equipment expense that was
not incurred in 2002. Other expense increased $155,000 to $1.5 million in 2003
from $1.4 million in 2002, and was attributable to the other expenses recorded
within ICA.
INCOME TAXES. Federal income tax expense increased to $518,000 for the
year ended December 31, 2003 from $285,000 for the year ended December 31, 2002.
The increase was primarily due to the increase of $672,000 in pre-tax earnings
to $1.7 million for the year ended December 31, 2003
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from $1.1 million for the year ended December 31, 2002. The effective tax rate
for the year ended December 31, 2003 was 30.0% compared to 27.0% for the year
ended December 31, 2002.
IMPACT OF INFLATION AND CHANGING PRICES
The financial statements and related notes of Alpena Bancshares, Inc.
have been prepared in accordance with accounting principles generally accepted
in the United States of America ("GAAP"). GAAP generally requires the
measurement of financial position and operating results in terms of historical
dollars without consideration for changes in the relative purchasing power of
money over time due to inflation. The impact of inflation is reflected in the
increased cost of our operations. Unlike industrial companies, our assets and
liabilities are primarily monetary in nature. As a result, changes in market
interest rates have a greater impact on performance than the effects of
inflation.
LIQUIDITY AND CAPITAL RESOURCES
The overall objective of our liquidity management is to ensure the
availability of sufficient cash funds to meet all financial commitments and to
take advantage of investment opportunities. We manage liquidity in order to meet
deposit withdrawals on demand or at contractual maturity, to repay borrowings as
they mature, and to fund new loans and investments as opportunities arise.
Our primary sources of funds are deposits, principal and interest
payments on loans and securities, and, to a lesser extent, borrowings (Federal
Home Loan Bank advances), the proceeds from maturing securities and short-term
investments, and the proceeds from the sales of loans and securities. The
scheduled amortization of loans and securities, as well as proceeds from
borrowings, are predictable sources of funds. Other funding sources, however,
such as deposit inflows, mortgage prepayments, mortgage loan sales and
mortgage-backed securities sales are greatly influenced by market interest
rates, economic conditions and competition.
Liquidity represents the amount of our assets that can be quickly and
easily converted into cash without significant loss. Our most liquid assets are
cash, short-term U.S. Government securities, U.S. Government agency or
government-sponsored enterprise securities and certificates of deposit. We are
required to maintain sufficient levels of liquidity as defined by the Office of
Thrift Supervision regulations. Current regulations require that we maintain
sufficient liquidity to ensure our safe and sound operation. Our current
objective is to maintain liquid assets equal to at least 20% of total deposits
and Federal Home Loan Bank borrowings due in one year or less. Liquidity as of
September 30, 2004 was $86.0 million, or 46.8% of total deposits and Federal
Home Loan Bank borrowings due in one year or less, compared to $85.4 million, or
54.4% of this amount at December 31, 2003. The levels of liquidity are dependent
on our operating, financing, lending and investing activities during any given
period. Our calculation of liquidity includes additional borrowing capacity
available with the Federal Home Loan Bank. As of September 30, 2004, we had
unused borrowing capacity of $20.5 million. We can pledge additional collateral
in the form of investment securities to increase our borrowing capacity.
We currently retain in our portfolio all adjustable rate residential
mortgage loans, short term balloon mortgage loans and fixed rate residential
mortgage loans with maturities of less than 15 years, and generally sell the
remainder in the secondary mortgage market. We also originate for retention in
our loan portfolio, commercial and commercial real estate loans, including real
estate development loans. During the nine months ended September 30, 2004, we
originated $49.1 million one- to four-family residential mortgage loans, of
which $29.8 million were retained in our portfolio and the remainder were sold
in the secondary mortgage market or are being held for sale. This compares to
$115.4 million one- to four-family originations during the nine months ended
September 30, 2003, of which $44.6 million were retained in our portfolio. At
September 30, 2004, we had outstanding loan commitments of $43.8
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million. These commitments included $12.3 million for permanent one- to
four-family residential mortgage loans, $10.6 million for non-residential loans,
$3.9 million of undisbursed loan proceeds for construction of one- to
four-family residences, $8.6 million of undisbursed lines of credit on home
equity loans, $1.1 million of unused credit card lines, $6.5 million of unused
commercial lines of credit, and $802,000 of undisbursed commercial construction
loans.
Deposits are a primary source of funds for use in lending and for other
general business purposes. At September 30, 2004, deposits funded 71.7% of our
total assets compared to 67.8% at December 31, 2003. Certificates of deposit
scheduled to mature in less than one year at September 30, 2004 totaled $36.7
million. We believe that a significant portion of such deposits will remain with
us. We monitor the deposit rates offered by competitors in our market area, and
we set rates that take into account the prevailing market conditions along with
our liquidity position. Moreover, we currently believe that the growth in assets
is not expected to require significant in-flows of liquidity. As such, we do not
expect to be a market leader in rates paid for liabilities. Borrowings may be
used to compensate for seasonal or other reductions in normal sources of funds
or for deposit outflows at more than projected levels. Borrowings also may be
used on a longer-term basis to support increased lending or investment
activities. At September 30, 2004, we had $46.1 million in Federal Home Loan
Bank advances. Total borrowings as a percentage of total assets were 18.6% at
September 30, 2004 compared to 21.06% at December 31, 2003.
As of September 30, 2004, management was not aware of any known trends,
events or uncertainties that have or are reasonably likely to have a material
impact on our liquidity. As of September 30, 2004, we had no material
commitments for capital expenditures.
Our cash flows are derived from operating activities, investing
activities and financing activities as reported in our Consolidated Statement of
Cash Flows included with our Consolidated Financial Statements.
First Federal of Northern Michigan is subject to federal regulations
that impose minimum capital requirements. For a discussion on these capital
levels, see "Historical and Pro Forma Capital Compliance" on page 34 and
"Supervision and Regulation-Federal Banking Regulation-Capital Requirements" on
page 85. At September 30, 2004, we exceeded all applicable capital requirements.
OFF-BALANCE SHEET ARRANGEMENTS
In the ordinary course of business, First Federal of Northern Michigan
is a party to credit-related financial instruments with off-balance-sheet risk
to meet the financing needs of its customers. These financial instruments
include commitments to extend credit and letter of credit. First Federal of
Northern Michigan follows the same credit policies in making off-balance sheet
commitments as it does for on-balance-sheet instruments.
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. The commitments for equity lines of credit may
expire without being drawn upon. Therefore, the total commitment amounts do not
necessarily represent future cash requirements. The amount of collateral
obtained, if it is deemed necessary by First Federal of Northern Michigan, is
based on management's credit evaluation of the customer.
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Unfunded commitments under construction lines of credit for residential
and commercial properties and commercial lines of credit are commitments for
possible future extensions of credit to existing customers, for which funds have
not been advanced by First Federal of Northern Michigan.
At September 30, 2004 and December 31, 2003, First Federal of Northern
Michigan had $27.6 million and $35.9 million, respectively, of commitments to
grant loans, $16.2 million and $11.5 million, respectively, of unfunded
commitments under lines of credit and $0 and $35,000, respectively, of letters
of credit. See Note 12 of the Notes to the Consolidated Financial Statements.
RECENT ACCOUNTING STANDARDS
In May 2003, the Financial Accounting Standards Board (the "FASB")
issued Statement of Financial Accounting Standards ("SFAS") No. 150, "Accounting
for Certain Financial Instruments with Characteristics of Both Liabilities and
Equity." This statement establishes standards for how an issuer classifies and
measures certain financial instruments with characteristics of both liabilities
and equity. It requires that an issuer classify a financial instrument that is
within its scope as a liability (or an asset in some circumstances). Such
instruments may have been previously classified as equity. This statement is
effective for financial instruments entered into or modified after May 31, 2003,
and otherwise is effective at the beginning of the first interim period
beginning after September 15, 2003. The adoption of this statement did not have
a material effect on our reported equity.
In December 2003, the FASB issued a revision to Interpretation 46,
"Consolidation of Variable Interest Entities," which established standards for
identifying a variable interest entity ("VIE") and for determining under what
circumstances a VIE should be consolidated with its primary beneficiary.
Application of this Interpretation is required in financial statements of public
entities that have interests in special-purpose entities for periods ending
after December 15, 2003. Application by public entities, other than small
business issuers, for all other types of VIEs is required in financial
statements for periods ending after March 15, 2004. Small business issuers must
apply this Interpretation to all other types of VIEs at the end of the first
reporting period ending after December 15, 2004. The adoption of this
Interpretation has not and is not expected to have a material effect on our
financial position or results of operations.
In March 2004, the Securities and Exchange Commission issued Staff
Accounting Bulletin ("SAB") No. 105, APPLICATION OF ACCOUNTING PRINCIPLES TO
LOAN COMMITMENTS, which provides guidance regarding loan commitments that are
accounted for as derivative instruments. In this SAB, the Securities and
Exchange Commission determined that an interest rate lock commitment should
generally be valued at zero at inception. The rate locks will continue to be
adjusted for changes in value resulting from changes in market interest rates.
We not anticipate this standard will have a material effect on our financial
condition or results of operations.
In December 2004, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 123 (revised 2004), "Share-Based
Payment" ("Statement No. 123R"), which requires entities to measure the cost of
employee services received in exchange for an award of equity instruments based
on the grant-date fair value of the award (with limited exceptions). The cost is
recognized as an expense over the period during which the employee is required
to provide service in exchange for the award, which is usually the vesting
period. The scope of Statement No. 123R includes the recognition and retention
plan and the stock option plan we expect to adopt following the stock offering.
For shares awarded under the recognition and retention plan, we will recognize
the grant-date fair value of the shares as compensation expense on a
straight-line basis over the applicable vesting period, which is the same
accounting required prior to Statement No. 123R. For options granted under the
stock option plan, we will recognize the grant-date fair value of the options as
compensation expense
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on a straight-line basis over the applicable vesting period. This accounting
treatment differs significantly from the previous accounting for fixed stock
options under Accounting Principles Board Opinion No. 25, "Accounting for Stock
Issued to Employees," which generally required expense recognition only when the
exercise price of the option was less than the market price of the underlying
stock on the grant date. As required by Statement No. 123R, we will estimate the
fair value of our stock options on each grant date, using an appropriate
valuation approach such as the Black-Scholes option pricing model. Statement No.
123R did not change existing accounting principles applicable to employee stock
ownership plans. The provisions of this Statement will be effective for us
beginning with our fiscal year ending 2006. We are currently evaluating the
impact this new Standard will have on our financial position, results of
operations or cash flows.
BUSINESS OF ALPENA BANCSHARES, INC.
AND FIRST FEDERAL OF NORTHERN MICHIGAN
ALPENA BANCSHARES, INC.
Alpena Bancshares, Inc. is a federally chartered corporation that owns
all of the outstanding shares of common stock of First Federal of Northern
Michigan. At September 30, 2004, Alpena Bancshares, Inc. had consolidated assets
of $254.5 million, deposits of $182.4 million and stockholders' equity of $21.9
million. As of September 30, 2004, Alpena Bancshares, Inc. had 1,659,180 shares
of common stock issued and outstanding. As of that date, Alpena Bancshares,
M.H.C. owned 920,000 shares of common stock of Alpena Bancshares, Inc.,
representing 55.4% of the issued and outstanding shares of common stock. The
remaining 739,180 shares of common stock were held by the public. Upon
completion of the conversion and stock offering, First Federal of Northern
Michigan Bancorp, Inc. will succeed to all of the business and operations of
Alpena Bancshares, Inc. and Alpena Bancshares, Inc. will cease to exist.
FIRST FEDERAL OF NORTHERN MICHIGAN
First Federal of Northern Michigan is a full-service, community-oriented
savings bank that provides financial services to individuals, families and
businesses from ten full-service facilities located in Alpena, Antrim,
Charlevoix, Cheboygan, Iosco, Otsego, Montmorency and Oscoda Counties, Michigan.
First Federal of Northern Michigan was chartered in 1957, and reorganized into
the mutual holding company structure in 1994. First Federal of Northern Michigan
became the wholly owned subsidiary of Alpena Bancshares, Inc. in November 2000.
First Federal of Northern Michigan's business consists primarily of
accepting deposits from the general public and investing those deposits,
together with funds generated from operations and borrowings, in one- to
four-family residential mortgage loans, commercial real estate loans, commercial
business loans, consumer loans and in investment securities and mortgage-backed
securities.
MARKET AREA AND COMPETITION
First Federal of Northern Michigan conducts operations through its main
office in Alpena, Michigan, which is located in the northeastern lower peninsula
of Michigan, and through its nine other branch offices in Michigan. The
population of Alpena (city and township), from which the majority of our
deposits is drawn, has decreased since 2000, and currently is approximately
21,000. The population of our primary market area, which includes Alpena County
and seven surrounding counties, is approximately 187,000, and increased by 2.2%
from 2000 to 2004. The population of our primary market area is expected to
increase by 2.1% by 2009. Per capita income in our market area was $20,386 in
2004, which was 15.4% less than the national level, and 16.7% less than the
state of Michigan as a whole, reflecting the largely rural nature of our market
area and the absence of more densely populated urban and
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suburban areas. Growth in per capita income in our market area is projected to
increase only modestly over the next five years. The unemployment rate in our
primary market area was 6.6% at September 30, 2004, compared to 5.1% nationally
and 6.2% for the state of Michigan.
Alpena is the largest city located in the northeastern lower peninsula
of Michigan. This area has long been associated with agricultural, wood and
concrete industries. Tourism has also been a major industry in our primary
market area. All of these industries tend to be seasonal and are strongly
affected by state and national economic conditions.
Major employers in our primary market area include various public
schools and governmental agencies, Alpena Regional Medical Center, Besser
Company (a manufacturer of concrete products equipment), Lafarge Corporation (a
limestone mining and cement producer), Treetops Sylvan Resort (an operator of
resort properties), Garland Resort (an operator of resort properties), Otsego
Memorial Hospital, Community Memorial Hospital, Decorative Panels International
(a hardboard manufacturer), OMNI Metalcraft Corp. (a diversified manufacturer),
Champion Fortune Corp. (a hardboard manufacturer), Great Lakes Tissue (a paper
manufacturer) and various other small companies.
As of September 30, 2004, First Federal of Northern Michigan was the
only thrift institution headquartered in our market area. We encounter strong
competition both in attracting deposits and in originating real estate and other
loans. Our most direct competition for deposits has historically come from
commercial banks, other savings institutions, and credit unions in our market
area. Competition for loans comes from such financial institutions as well as
mortgage banking companies. We expect continued strong competition in the
foreseeable future, including increased competition from "super-regional" banks
entering the market by purchasing other financial institutions. Many such
institutions have greater financial and marketing resources than we have. We
compete for savings deposits by offering depositors a high level of personal
service and a wide range of competitively priced financial services. In recent
years, additional strong competition for deposits has come from securities
brokers. We compete for real estate loans primarily on the basis of the interest
rates and fees we charge and through advertising. Strong competition for
deposits and loans may limit our ability to grow and may adversely affect our
profitability in the future.
LENDING ACTIVITIES
GENERAL. The largest part of our loan portfolio is mortgage loans
secured by one- to four-family residential real estate. In recent years, we have
sold most of the fixed-rate conventional one- to four-family mortgage loans that
we originate that have terms of 15 years or more. We retain the servicing on a
majority of the mortgages that we sell. To a lesser extent, we also originate
commercial loans, commercial real estate loans and consumer loans. At September
30, 2004, we had total loans of $188.6 million, of which $100.2 million, or
53.1%, were one-to four-family residential real estate mortgage loans, $26.5
million, or 14.0%, were commercial real estate loans, and $29.0 million, or
15.4%, were commercial loans. Other loans, consisting primarily of consumer
loans, totaled $25.0 million, or 13.3% of total loans.
ONE- TO FOUR-FAMILY RESIDENTIAL REAL ESTATE LENDING. Our primary lending
activity consists of originating of one- to four-family owner-occupied
residential mortgage loans, virtually all of which are collateralized by
properties located in our market area. We also originate one- to four-family
loans that pay interest only during the initial construction period (which
generally does not exceed twelve months) and then pay interest and principal for
the remainder of the loan term. We generally sell all of our one- to four-family
fixed-rate mortgage loans with terms of 15 years or more and retain the loan
servicing on a majority of these mortgage loans. Most of the mortgage loans
originated by us qualify for resale in the secondary mortgage market. One- to
four-family residential mortgage loans are underwritten and
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originated according to policies and guidelines established by the secondary
mortgage market agencies and approved by our Board of Directors. We utilize
existing liquidity, savings deposit growth, loan repayments, and Federal Home
Loan Bank advances to fund new loan originations.
We currently offer fixed rate one- to four-family residential mortgage
loans with terms ranging from 15 to 30 years. One- to four-family residential
mortgage loans often remain outstanding for significantly shorter periods than
their contractual terms because borrowers may refinance or prepay loans at their
option. The average length of time that our one- to four-family residential
mortgage loans remain outstanding varies significantly depending upon trends in
market interest rates and other factors. In recent years, the average maturity
of our mortgage loans has decreased significantly because of the declining trend
in market interest rates and the unprecedented volume of refinancing activity
resulting from such interest rate decreases. Accordingly, estimates of the
average length of one- to four-family loans that remain outstanding cannot be
made with any degree of certainty.
Originations of fixed rate mortgage loans are regularly monitored and
are affected significantly by the level of market interest rates, our interest
rate gap position, and loan products offered by our competitors. Our fixed rate
mortgage loans amortize on a monthly basis with principal and interest due each
month. To make our loan portfolio less interest rate sensitive, loans originated
with terms of 15 years or greater are generally underwritten to secondary
mortgage market standards and sold. Balloon mortgage loans with five-year terms
and adjustable rate mortgage loans are generally underwritten to secondary
mortgage market standards, but are retained in our loan portfolio.
We originate some fixed-rate loans that are generally amortized over 15
years but that have "balloon payments" that are due upon the maturity of the
loan in five years. Upon maturity, the balloon mortgage loans are either
underwritten as fixed-rate loans and sold in the secondary mortgage market or
renewed at current market rates for an additional five-year term. While the
majority of our balloon mortgage loans amortize over 15 years, some amortize
over 10 or 30 years, and a limited number amortize over 5 years.
Our one- to four-family residential mortgage loans customarily include
due-on-sale clauses, which are provisions giving us the right to declare a loan
immediately due and payable in the event, among other things, that the borrower
sells or otherwise disposes of the underlying real property serving as security
for the loan. Due-on-sale clauses are an important means of adjusting the rates
on our fixed-rate mortgage loan portfolio, and we have generally exercised our
rights under these clauses.
Regulations limit the amount that a savings institution may lend
relative to the appraised value of the real estate securing the loan, as
determined by an appraisal at the time of loan origination. Such regulations
permit a maximum loan-to-value ratio of 100% for residential property and 90%
for all other real estate loans. Our lending policies limit the maximum
loan-to-value ratio on fixed-rate loans without private mortgage insurance to
90% of the lesser of the appraised value or the purchase price of the property
serving as collateral for the loan.
We make one- to four-family real estate loans with loan-to-value ratios
of up to 90%. However, for one- to four-family real estate loans with
loan-to-value ratios of between 80% and 90%, we may require the total loan
amount to be covered by private mortgage insurance. We require fire and casualty
insurance, flood insurance when applicable, as well as title insurance, on all
properties securing real estate loans made by us.
Beginning in November 2004 we initiated a "skip pay" program for
customers with seasoned loans and with an exemplary past payment history. Under
this program, for a fee, the customer may
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choose to skip a residential mortgage payment or a HELOC payment. The program
generated $14,500 in fee income for the month of December 2004.
COMMERCIAL REAL ESTATE LENDING. We also originate commercial real estate
loans. At September 30, 2004, we had a total of 136 loans secured primarily by
commercial real estate properties, unimproved vacant land and, to a limited
extent, multifamily properties. Our commercial real estate loans are secured by
income producing properties such as office buildings, retail buildings and
motels. Substantially all of our commercial real estate loans are secured by
properties located in our primary market area. We have originated commercial
construction loans that are originated as permanent loans but are interest-only
during the initial construction period which generally does not exceed nine
months. At September 30, 2004, our commercial real estate loans totaled $26.5
million, or 14.0% of our total loans, and had an average principal balance of
$218,000. Our largest commercial real estate loan had a principal balance of
$3.1 million. The terms of each loan are negotiated on a case-by-case basis,
although such loans typically amortize over 15 years and have a three- or
five-year balloon feature. An origination fee of 0.5% to 1.0% is generally
charged on commercial real estate loans. We generally make commercial real
estate loans up to 75% of the appraised value of the property securing the loan.
Commercial real estate loans generally carry higher interest rates and
have shorter terms than those on one- to four-family residential mortgage loans.
However, loans secured by commercial real estate generally involve a greater
degree of credit risk than one- to four-family residential mortgage loans and
carry larger loan balances. This increased credit risk is a result of several
factors, including the concentration of principal in a limited number of loans
and borrowers, the effects of general economic conditions on income producing
properties, and the increased difficulty of evaluating and monitoring these
types of loans. Furthermore, the repayment of loans secured by commercial real
estate is typically dependent upon the successful operation of the business or
the related real estate property. If the cash flow from the business operation
is reduced, the borrower's ability to repay the loan may be impaired. This may
be particularly true in the early years of the business operation when the risk
of failure is greatest. Many of our commercial real estate loans have been made
to borrowers whose business operations are untested, which increases our risk.
CONSUMER AND OTHER LOANS. We originate a variety of consumer and other
loans, including loans secured by savings accounts, new and used automobiles,
mobile homes, boats, recreational vehicles, and other personal property. As of
September 30, 2004, consumer and other loans totaled $25.0 million, or 13.26% of
our total loan portfolio. At such date, $876,000, or 3.5% of our consumer loans,
were unsecured. As of September 30, 2004, home equity loans totaled $9.2
million, or 4.9% of our total loan portfolio, and automobile loans totaled $4.5
million, or 2.3% of our total loan portfolio. We originate automobile loans
directly to our customers and have no outstanding agreements with automobile
dealerships to generate indirect loans.
Our procedures for underwriting consumer loans include an assessment of
an applicant's credit history and the ability to meet existing obligations and
payments on the proposed loan. Although an applicant's creditworthiness is a
primary consideration, the underwriting process also includes a comparison of
the value of the collateral security, if any, to the proposed loan amount.
Consumer loans generally entail greater risk than residential mortgage
loans, particularly in the case of consumer loans that are unsecured or secured
by assets that tend to depreciate rapidly, such as automobiles, mobile homes,
boats and recreational vehicles. In addition, the repayment of consumer loans
depends on the borrower's continued financial stability, as repayment is more
likely to be adversely affected by job loss, divorce, illness or personal
bankruptcy than a single family mortgage loan.
73
COMMERCIAL LOANS. At September 30, 2004, we had $29.0 million in
commercial loans which amounted to 15.39% of total loans. We make commercial
business loans primarily in our market area to a variety of professionals, sole
proprietorships and small businesses. Commercial lending products include term
loans and revolving lines of credit. The maximum amount of a commercial business
loan is our loans-to-one-borrower limit, which was $2.9 million at September 30,
2004. Such loans are generally used for longer-term working capital purposes
such as purchasing equipment or furniture. Commercial loans are made with either
adjustable or fixed rates of interest. Variable rates are generally based on the
prime rate, as published in THE WALL STREET JOURNAL, plus a margin. Fixed rate
commercial loans are set at a margin above the Federal Home Loan Bank comparable
advance rate.
When making commercial loans, we consider the financial statements of
the borrower, our lending history with the borrower, the debt service
capabilities of the borrower, the projected cash flows of the business and the
value of the collateral. Commercial loans are generally secured by a variety of
collateral, primarily accounts receivable, inventory and equipment, and are
supported by personal guarantees. Depending on the collateral used to secure the
loans, commercial loans are made in amounts of up to 75% of the value of the
collateral securing the loan.
Commercial loans generally have greater credit risk than residential
mortgage loans. Unlike residential mortgage loans, which generally are made on
the basis of the borrower's ability to make repayment from his or her employment
or other income, and which are secured by real property whose value tends to be
more easily ascertainable, commercial loans generally are made on the basis of
the borrower's ability to repay the loan from the cash flow of the borrower's
business. As a result, the availability of funds for the repayment of commercial
loans may depend substantially on the success of the business itself. If the
cash flow from the business operation is reduced, the borrower's ability to
repay the loan may be impaired. This may be particularly true in the early years
of the business operation when the risk of failure is greatest. Many of our
commercial loans have been made to borrowers whose business operations are
untested, which increases our risk. Moreover, any collateral securing the loans
may depreciate over time, may be difficult to appraise and may fluctuate in
value. We seek to minimize these risks through our underwriting standards. At
September 30, 2004, our largest commercial loan was a $1.0 million loan for the
borrower's working capital purposes secured by fixed assets located in our
primary market area. This loan was performing according to its repayment terms
at September 30, 2004.
CONSTRUCTION LOANS. We originate construction loans to local home
builders in our market area, generally with whom we have an established
relationship, and to individuals engaged in the construction of their residence.
Our construction loans totaled $7.9 million, or 4.21% of our total loan
portfolio, at September 30, 2004. To a lesser extent, we also originate
commercial construction loans.
Our construction loans to home builders are repaid on an interest-only
basis for the term of the loan (which is generally six to 12 months), with
interest calculated on the amount disbursed to the builders based upon a
percentage of completion of construction. These loans have a maximum
loan-to-value ratio of 80%, based on the appraised value. Interest rates are
fixed during the construction phase of the loan. Loans to builders are made on
either a pre-sold or speculative (unsold) basis. Construction loans to
individuals who intend to occupy the completed dwelling are terminated and
replaced with a new permanent loan at the end of the construction period. The
permanent loans are generally originated pursuant to the same policy guidelines
regarding loan-to-value ratios and interest rates that are used in connection
with loans secured by one- to four-family residential real estate. Prior to
funding a construction loan, we require an appraisal of the property from a
qualified appraiser approved by us, and all appraisals are reviewed by us.
Construction lending exposes us to greater credit risk than permanent
mortgage financing because of the inherent difficulty in estimating both a
property's value at completion of the project and the
74
estimated cost of the project. If the estimate of construction costs is
inaccurate, we may be required to advance funds beyond the amount originally
committed to permit completion of the project. If the estimate of value upon
completion is inaccurate, the value of the property may be insufficient to
assure full repayment. Projects also may be jeopardized by disagreements between
borrowers and builders and by the failure of builders to pay subcontractors.
Loans to builders to construct homes for which no purchaser has been identified
carry more risk because the repayment of the loan depends on the builder's
ability to sell the property prior to the time that the construction loan is
due. We have attempted to minimize these risks by, among other things, limiting
our construction lending primarily to residential properties in our market area
and generally requiring personal guarantees from the principals of corporate
borrowers.
75
LOAN PORTFOLIO COMPOSITION. The following table sets forth the composition of
our loan portfolio by type of loan at the dates indicated.
AT DECEMBER 31,
----------------------------------------------
AT SEPTEMBER 30, 2004 2003 2002
--------------------- --------------------- ---------------------
AMOUNT PERCENT AMOUNT PERCENT AMOUNT PERCENT
---------- --------- ---------- --------- ---------- ---------
(DOLLARS IN THOUSANDS)
Real estate loans:
Residential mortgage..... $ 100,163 53.12% $ 94,988 57.66% $ 101,943 66.90%
Commercial mortgage...... 26,452 14.03% 29,452 17.88% 20,369 13.37%
Construction............. 7,932 4.21% 5,907 3.59% 2,946 1.93%
Non real estate loans
Commercial............... 29,026 15.39% 13,495 8.19% 7,528 4.94%
Consumer and other loans. 25,001 13.26% 20,895 12.68% 19,587 12.85%
---------- ---------- ----------
Total loans................. $ 188,574 100.00% $ 164,737 100.00% $ 152,373 100.00%
========= ========= =========
Other items:
Unadvanced construction
loans.................... -- -- --
Deferred loan origination
costs.................... 38 28 --
Deferred loan origination
fees..................... (361) (269) (110)
Allowance for loan losses... (1,152) (1,036) (922)
---------- ---------- ----------
Total loans, net............ $ 187,099 $ 163,460 $ 151,341
========== ========== ==========
(continued)
AT DECEMBER 31,
-------------------------------------------------------------------
2001 2000 1999
--------------------- --------------------- ---------------------
AMOUNT PERCENT AMOUNT PERCENT AMOUNT PERCENT
---------- --------- ---------- --------- ---------- ---------
(DOLLARS IN THOUSANDS)
Real estate loans:
Residential mortgage..... $ 132,491 74.89% $ 174,831 79.60% $ 194,106 86.56%
Commercial mortgage...... 14,152 8.00% 10,681 4.86% 8,969 4.00%
Construction............. 3,036 1.72% 3,930 1.79% -- 0.00%
Non real estate loans
Commercial............... 6,052 3.42% 1,424 0.65% -- 0.00%
Consumer and other loans. 21,172 11.97% 28,765 13.10% 21,158 9.44%
---------- ---------- ----------
Total loans................. $ 176,903 100.00% $ 219,631 100.00% $ 224,233 100.00%
========= ========= =========
Other items:
Unadvanced construction
loans.................... -- -- --
Deferred loan origination
costs.................... -- 24 84
Deferred loan origination
fees..................... (68) (49) (3)
Allowance for loan losses... (689) (649) (488)
---------- ---------- ----------
Total loans, net............ $ 176,146 $ 218,957 $ 223,866
========== ========== ==========
76
LOAN PORTFOLIO MATURITIES AND YIELDS. The following table summarizes the
scheduled repayments of our loan portfolio at December 31, 2003. Demand loans,
loans having no stated repayment schedule or maturity, and overdraft loans are
reported as being due in one year or less.
RESIDENTIAL MORTGAGE COMMERCIAL MORTGAGE CONSTRUCTION
---------------------- ---------------------- ----------------------
WEIGHTED WEIGHTED WEIGHTED
AVERAGE AVERAGE AVERAGE
AMOUNT RATE AMOUNT RATE AMOUNT RATE
---------- ---------- ---------- ---------- ---------- ----------
(DOLLARS IN THOUSANDS)
Due During the Years
ENDING DECEMBER 31,
2004................... $ 9,870 5.624% $ 1,519 5.000% $ 5,9075 5.792%
2005................... 8,644 6.132% 2,889 5.555% -- 4.918%
2006................... 6,779 6.253% 5,993 5.632% -- 0.000%
2007 to 2008........... 25,195 6.082% 16,285 6.162% -- 0.000%
2009 to 2013........... 11,396 6.196% 2,073 6.040% -- 0.000%
2014 to 2018........... 18,945 6.576% 693 7.183% -- 0.000%
2018 and beyond........ 14,159 6.085% -- 7.216% -- 0.000%
---------- --------- --------- --------- ---------- ---------
Total......... $ 94,988 6.094% $ 29,452 6.037% $ 5,907 5.267%
========== ========= ==========
(continued)
COMMERCIAL CONSUMER AND OTHER TOTAL
---------------------- ---------------------- ----------------------
WEIGHTED WEIGHTED WEIGHTED
AVERAGE AVERAGE AVERAGE
AMOUNT RATE AMOUNT RATE AMOUNT RATE
---------- ---------- ---------- ---------- ---------- ----------
(DOLLARS IN THOUSANDS)
Due During the Years
ENDING DECEMBER 31,
2004................... $ 6,139 5.915% $ 1,287 7.632% $ 24,722 5.795%
2005................... 237 4.617% 793 8.612% 12,563 5.357%
2006................... 861 7.500% 1,624 8.403% 15,257 6.617%
2007 to 2008........... 6,000 5.987% 10,408 6.118% 57,888 6.087%
2009 to 2013........... -- 5.876% 4,787 6.350% 18,256 6.172%
2014 to 2018........... -- 0.000% 1,898 7.523% 21,536 7.086%
2018 and beyond........ 258 5.000% 98 7.230% 14,515 6.110%
---------- ---------- ---------- ---------- ---------- ----------
Total......... $ 13,495 5.629% $ 20,895 6.655% $ 164,737 6.055%
========== ========== ==========
The following table sets forth the scheduled repayments of fixed- and
adjustable-rate loans at December 31, 2003 that are contractually due after
December 31, 2004.
DUE AFTER DECEMBER 31, 2004
----------------------------------------
FIXED ADJUSTABLE TOTAL
----------- ------------ -----------
(IN THOUSANDS)
Residential mortgage............................ $ 78,612 $ 6,506 $ 85,118
Commercial mortgage............................. 27,933 -- 27,933
Construction.................................... -- -- --
-- --
Commercial...................................... 3,049 4,307 7,356
Consumer and other.............................. 19,608 -- 19,608
----------- ------------ -----------
Total loans............................. $ 129,202 $ 10,813 $ 140,015
=========== ============ ===========
77
LOAN ORIGINATIONS, PURCHASES, SALES AND SERVICING. While we originate
both fixed-rate and adjustable-rate loans, our ability to generate each type of
loan depends upon borrower demand, market interest rates, borrower preference
for fixed- versus adjustable-rate loans, and the interest rates offered on each
type of loan by other lenders in our market area. These lenders include
competing banks, savings banks, credit unions, mortgage banking companies and
life insurance companies that may also actively compete for local commercial
real estate loans. Loan originations are derived from a number of sources,
including real estate agent referrals, existing customers, borrowers, builders,
attorneys, our directors and walk-in customers. Upon receiving a loan
application, we obtain a credit report and employment verification to verify
specific information relating to the applicant's employment, income, and credit
standing. In the case of a real estate loan, we obtain a determination of value
of the real estate intended to collateralize the proposed loan. Our lending
limits vary by officer experience but range from $50,000 to $333,700. The loan
committee must approve any loan from $333,701 up to $400,000, and any loan
request over $400,000 must be approved by our Board of Directors. Consumer
lending limits by officer range from $15,000 to $200,000. For secured commercial
loans, the limit ranges from $150,000 to $400,000.
A commercial commitment letter specifies the terms and conditions of the
proposed loan including the amount of the loan, interest rate, amortization
term, a brief description of the required collateral, and required insurance
coverage. Commitments are typically issued for 15-day periods. The borrower must
provide proof of fire and casualty insurance on the property serving as
collateral, which insurance must be maintained during the full term of the loan.
A title insurance policy is required on all real estate loans. At September 30,
2004, we had outstanding loan commitments of $43.8 million, including unfunded
commitments under lines of credit and commercial and standby letters of credit.
Our loan origination and sales activity may be adversely affected by a
rising interest rate environment that typically results in decreased loan
demand, while declining interest rates may stimulate increased loan demand.
Accordingly, the volume of loan originations, the mix of fixed- and
adjustable-rate loans, and the profitability of this activity can vary from
period to period. One- to four-family residential mortgage loans are generally
underwritten to current Freddie Mac seller/servicer guidelines, and closed on
standard Freddie Mac documents. If such loans are sold, the sales are conducted
using standard Freddie Mac purchase contracts and master commitments as
applicable. All one- to four-family mortgage loans that we have sold to Freddie
Mac have been sold on a non-recourse basis, whereby foreclosure losses are
generally the responsibility of the purchaser and not First Federal of Northern
Michigan.
We are a qualified loan servicer for Freddie Mac. Our policy has been to
retain the servicing rights for all conforming loans sold, and to continue to
collect payments on the loans, maintain tax escrows and applicable fire and
flood insurance coverage, and supervise foreclosure proceedings if necessary. We
retain a portion of the interest paid by the borrower on the loans as
consideration for our servicing activities.
We require appraisals of real property securing loans. Appraisals are
performed by independent appraisers, who are approved by our Board of Directors
annually. We require fire and extended coverage insurance in amounts adequate to
protect our principal balance. Where appropriate, flood insurance is also
required. Private mortgage insurance is required for all residential mortgage
loans with loan-to-value ratios greater than 80%.
LOAN ORIGINATION FEES AND COSTS. In addition to interest earned on
loans, we generally receive fees in connection with loan originations. Such loan
origination fees, net of costs to originate, are deferred and amortized using an
interest method over the contractual life of the loan. Fees deferred are
recognized into income immediately upon prepayment or subsequent sale of the
related loan. At
78
September 30, 2004, we had $314,000 of net deferred loan origination fees. Such
fees vary with the volume and type of loans and commitments made and purchased,
principal repayments, and competitive conditions in the mortgage markets, which
in turn respond to the demand and availability of money. In addition to loan
origination fees, we also generate other income through the sales and servicing
of mortgage loans, late charges on loans, and fees and charges related to
deposit accounts. We recognized fees and service charges of $749,000, $802,000
and $818,000 for the nine months ended September 30, 2004 and the years ended
December 31, 2003 and 2002, respectively.
To the extent that originated loans are sold with servicing retained, we
capitalize a mortgage servicing asset at the time of the sale in accordance with
applicable accounting standards (Statement of Financial Accounting Standards No.
140, "Accounting for Transfers and Servicing of Financial Assets and
Extinguishments of Liabilities"). The capitalized amount is amortized thereafter
(over the period of estimated net servicing income) as a reduction of servicing
fee income. The unamortized amount is fully charged to income when loans are
prepaid. Originated mortgage servicing rights with an amortized cost of $898,152
were included in other assets at September 30, 2004.
DELINQUENT LOANS, OTHER REAL ESTATE OWNED AND CLASSIFIED ASSETS
COLLECTION PROCEDURES. Our general collection procedures provide that
when a mortgage, consumer or commercial loan is 16 days past due, a
computer-generated late charge notice is sent to the borrower requesting
payment. If delinquency continues, a second delinquent notice is mailed when the
loan continues past due for 30 days. If a loan becomes 60 days past due, the
loan becomes subject to possible legal action. We will generally send a "due and
payable" letter upon a loan becoming 60 days delinquent. This letter grants the
mortgagor 30 days to bring the account paid to date prior to the start of any
legal action. If not paid, foreclosure proceedings are initiated after this
30-day period. To the extent required by regulations of the Department of
Housing and Urban Development ("HUD"), generally within 45 days of delinquency,
a Section 160 HUD notice is given to the borrower which provides access to
consumer counseling services. General collection procedures may vary with
particular circumstances on a loan by loan basis. Also, collection procedures
for Freddie Mac serviced loans follow the Freddie Mac guidelines which are
different from our general procedures.
LOANS PAST DUE AND NON-PERFORMING ASSETS. Loans are reviewed on a
regular basis and are placed on non-accrual status when, in the opinion of
management, the collection of additional interest is doubtful or when
extraordinary efforts are required to collect the debt. Interest accrued and
unpaid at the time a loan is placed on non-accrual status is charged against
interest income.
Real estate acquired by us as a result of foreclosure or by deed in lieu
of foreclosure is deemed real estate owned ("REO") until such time as it is
sold. In general, we consider collateral for a loan to be "in-substance"
foreclosed if: (i) the borrower has little or no equity in the collateral; (ii)
proceeds for repayment of the loan can be expected to come only from the
operation or sale of the collateral; and (iii) the borrower has either formally
or effectively abandoned control of the collateral, or retained control of the
collateral but is unlikely to be able to rebuild equity in the collateral or
otherwise repay the loan in the foreseeable future. Cash flow attributable to
in-substance foreclosures is used to reduce the carrying value of the
collateral.
When collateral, other than real estate, securing commercial and
consumer loans is acquired as a result of delinquency or other reasons, it is
classified as Other Repossessed Assets ("ORA") and recorded at the lower of cost
or fair market value until it is disposed of.
When collateral is acquired or otherwise deemed REO/ORA, it is recorded
at the lower of the unpaid principal balance of the related loan or its
estimated net realizable value. This write down is
79
recorded against the allowance for loan losses. Periodic future valuations are
performed by management, and any subsequent decline in fair value is charged to
operations. At September 30, 2004, we held no properties that were classified
REO/ORA.
The following table sets forth certain information with respect to our
loan portfolio delinquencies at the dates indicated.
LOANS DELINQUENT FOR
---------------------------------------------------
60-89 DAYS 90 DAYS AND OVER TOTAL
------------------------ ------------------------ ------------------------
NUMBER AMOUNT NUMBER AMOUNT NUMBER AMOUNT
---------- ---------- ---------- ---------- ---------- ----------
(DOLLARS IN THOUSANDS)
AT SEPTEMBER 30, 2004
Residential mortgage....... 10 $ 522 16 $ 910 26 $ 1,432
Commercial mortgage........ -- -- 3 256 3 256
Construction............... -- -- -- -- -- --
Commercial................. 3 2 -- -- 3 2
Consumer and other......... 21 84 18 132 39 216
---------- ---------- ---------- ---------- ---------- ----------
Total.................... 34 $ 608 37 $ 1,298 71 $ 1,906
========== ========== ========== ========== ========== ==========
AT DECEMBER 31, 2003
Residential mortgage....... 23 $ 1,248 10 $ 617 33 $ 1,865
Commercial mortgage........ -- -- 1 77 1 77
Construction............... 1 43 -- -- 1 43
Commercial................. 3 221 -- -- 3 221
Consumer and other......... 12 90 11 134 23 224
---------- ---------- ---------- ---------- ---------- ----------
Total.................... 39 $ 1,602 22 $ 828 61 $ 2,430
========== ========== ========== ========== ========== ==========
AT DECEMBER 31, 2002
Residential mortgage....... 31 $ 1,411 10 $ 566 41 $ 1,977
Commercial mortgage........ -- -- -- -- -- --
Construction............... -- -- -- -- -- --
Commercial................. 3 123 2 152 5 275
Consumer and other......... 21 1,090 12 89 33 1,179
---------- ---------- ---------- ---------- ---------- ----------
Total.................... 55 $ 2,624 24 $ 807 79 $ 3,431
========== ========== ========== ========== ========== ==========
80
NON-PERFORMING ASSETS. The table below sets forth the amounts and
categories of our non-performing assets at the dates indicated. At each date
presented, we had no troubled debt restructurings (loans for which a portion of
interest or principal has been forgiven and loans modified at interest rates
materially less than current market rates).
AT AT DECEMBER 31,
SEPTEMBER --------------------------------------------------------------
30, 2004 2003 2002 2001 2000 1999
---------- ---------- ---------- ---------- ---------- ----------
(DOLLARS IN THOUSANDS)
Non-accrual loans:
Residential mortgage........... $ 23 $ 245 $ 366 $ -- $ -- $ --
Commercial mortgage............ -- 1040 -- -- -- --
Construction................... -- -- -- -- -- --
Commercial..................... 441 -- -- -- -- --
Consumer and other............. 16 6 261 -- -- --
---------- ---------- ---------- ---------- ---------- ----------
Total non-performing loans... $ 480 $ 1,291 $ 627 $ -- $ -- $ --
---------- ---------- ---------- ---------- ---------- ----------
Loans 90 days or more delinquent
and still accruing:
Residential mortgage........... $ 910 $ 617 $ 566 $ 475 $ 498 $ 626
Commercial mortgage............ 256 77 -- -- 39 --
Construction................... -- -- -- -- -- --
Commercial..................... -- -- 152 -- -- --
Consumer and other............. 132 134 89 201 168 125
---------- ---------- ---------- ---------- ---------- ----------
Total loans 90 days or more
delinquent and still
accruing.................... $ 1,298 $ 828 $ 807 $ 676 $ 705 $ 751
---------- ---------- ---------- ---------- ---------- ----------
Total non-performing loans... $ 1,778 $ 2,119 $ 1,434 $ 676 $ 705 $ 751
---------- ---------- ---------- ---------- ---------- ----------
Real estate owned:
Residential mortgage........... $ -- $ 199 $ 101 $ 167 $ 134 $ 100
Commercial mortgage............ -- -- -- -- -- --
Construction................... -- -- -- -- -- --
Commercial..................... -- -- -- -- -- --
Consumer and other............. 1 -- 27 30 16 --
---------- ---------- ---------- ---------- ---------- ----------
Total real estate owned...... 1 199 128 197 150 100
---------- ---------- ---------- ---------- ---------- ----------
Total non-performing assets....... $ 1,779 $ 2,318 $ 1,562 $ 873 $ 855 $ 851
========== ========== ========== ========== ========== ==========
Ratios:
Non-performing loans to total
loans.......................... 0.94% 1.28% 0.94% 0.38% 0.32% 0.33%
Non-performing assets to total
assets......................... 0.70% 1.04% 0.68% 0.36% 0.32% 0.32%
For the nine months ended September 30, 2004 and the year ended December
31, 2003, gross interest income that would have been recorded had the
non-accrual loans at the end of the period remained on accrual status throughout
the period amounted to $62,000 and $181,000, respectively.
CLASSIFICATION OF ASSETS. Our policies, consistent with regulatory
guidelines, provide for the classification of loans and other assets such as
debt and equity securities and real estate held for sale considered by the
Office of Thrift Supervision to be of lesser quality as "substandard,"
"doubtful," or "loss" assets. An asset is considered "substandard" if it is
inadequately protected by the current net worth and paying capacity of the
obligor or of the collateral pledged, if any. "Substandard" assets include those
characterized by the "distinct possibility" that the savings institution will
sustain "some loss" if the deficiencies are not corrected. Assets classified as
"doubtful" have all of the weaknesses inherent in those classified
"substandard," with the added characteristic that the weaknesses present make
"collection or liquidation in full," on the basis of currently existing facts,
conditions, and values, "highly questionable and improbable." Assets classified
as "loss" are those considered "uncollectible" and of such little value that
their continuance as assets without the establishment of a specific loss reserve
is not warranted. Assets that do not expose the savings institution to risk
sufficient to warrant classification in one of the aforementioned categories,
but which possess some weaknesses, are required to be designated "special
81
mention" by management. Loans designated as special mention are generally loans
that, while current in required payments, have exhibited some potential
weaknesses that, if not corrected, could increase the level of risk in the
future.
When we classify assets as either substandard or doubtful, we allocate a
portion of the related general loss allowances to such assets as deemed prudent
by management. The allowance for loan losses represents amounts that have been
established to recognize losses inherent in the loan portfolio that are both
probable and reasonably estimable at the date of the financial statements. When
we classify problem assets as loss, we charge-off such amount. Our determination
as to the classification of our assets and the amount of our loss allowances are
subject to review by our regulatory agencies, which can order the establishment
of additional loss allowances. Management regularly reviews our asset portfolio
to determine whether any assets require classification in accordance with
applicable regulations. On the basis of management's review of our assets at
December 31, 2003, classified assets consisted of substandard assets of $2.3
million, special mention assets of $647,000, doubtful assets of $105,000 and no
assets classified as loss.
Our investment in land and real estate at December 31, 2003 was
classified as substandard by the Office of Thrift Supervision due to slower than
expected sales of building lots and condominium units. This project (Wyndham
Garden Estates) is an upscale condominium community comprised of 25
single-family building lots and 18 planned condominium units located in Alpena,
Michigan. At September 30, 2004, 18 of the residential lots had been developed
and sold and all but two condominium units had been completed. Management
believes this is a viable project with development and sales ongoing. At
September 30, 2004, our investment in these properties was approximately
$562,000, which is net of an allowance of $121,000 to record the investment at
the lower of cost or fair value, less costs to sell. For reporting purposes,
this investment is considered "impaired" under the definition of SFAS 144,
ACCOUNTING FOR IMPAIRMENT OR DISPOSAL OF LONG-LIVED ASSETS. See "Real Estate
Development Activities" on page 88 for an additional discussion of our
investment in real estate and the related accounting treatment.
ALLOWANCE FOR LOAN LOSSES. We provide for loan losses based on the
allowance method. Accordingly, all loan losses are charged to the related
allowance and all recoveries are credited to it. Additions to the allowance for
loan losses are provided by charges to income based on various factors which, in
management's judgment, deserve current recognition in estimating probable
losses. Management regularly reviews the loan portfolio and makes provisions for
loan losses in order to maintain the allowance for loan losses in accordance
with accounting principles generally accepted in the United States of America.
The allowance for loan losses consists of amounts specifically allocated to
non-performing loans and other criticized or classified loans (if any) as well
as general allowances determined for each major loan category. Commercial loans
and loans secured by commercial real estate are evaluated individually for
impairment. Other smaller-balance, homogeneous loan types, including loans
secured by one- to four-family residential real estate and consumer installment
loans, are evaluated for impairment on a collective basis. After we establish a
provision for loans that are known to be non-performing, criticized or
classified, we calculate percentage loss factors to apply to the remaining
categories within the loan portfolio to estimate probable losses inherent in
these categories of the portfolio. When the loan portfolio increases, therefore,
the percentage calculation results in a higher dollar amount of estimated
probable losses than would be the case without the increase, and when the loan
portfolio decreases, the percentage calculation results in a lower dollar amount
of estimated probable losses than would be the case without the decrease. These
percentage loss factors are determined by management based on our historical
loss experience and credit concentrations for the applicable loan category,
which may be adjusted to reflect our evaluation of levels of, and trends in,
delinquent and non-accrual loans, trends in volume and terms of loans, and local
economic trends and conditions.
82
We consider commercial and commercial real estate loans and construction
loans to be riskier than one- to four-family residential mortgage loans.
Commercial and commercial real estate loans have greater credit risks compared
to one- to four-family residential mortgage loans, as they typically involve
large loan balances concentrated with single borrowers or groups of related
borrowers. In addition, the payment experience on loans secured by
income-producing properties typically depends on the successful operation of the
related real estate project and thus may be subject to a greater extent to
adverse conditions in the real estate market and in the general economy.
Construction loans have greater credit risk than permanent mortgage financing
because of the inherent difficulty in estimating both a property's value at
completion of the project and the estimated cost of the project. If the estimate
of construction costs is inaccurate, we may be required to advance funds beyond
the amount originally committed to permit completion of the project. If the
estimate of value upon completion is inaccurate, the value of the property may
be insufficient to assure full repayment. Projects also may be jeopardized by
disagreements between borrowers and builders and by the failure of builders to
pay subcontractors. Loans to builders to construct homes for which no purchaser
has been identified carry more risk because the repayment of the loan depends on
the builder's ability to sell the property prior to the time that the
construction loan is due. The increased risk characteristics associated with
commercial real estate and land loans and construction loans are considered by
management in the evaluation of the allowance for loan losses and generally
result in a larger loss factor applied to these segments of the loan portfolio
in developing an estimate of the required allowance for loan losses.
We intend to increase our originations of commercial and commercial real
estate loans, and we intend to retain these loans in our portfolio. Because
these loans entail significant additional credit risks compared to one- to
four-family residential mortgage loans, an increase in our origination (and
retention in our portfolio) of these types of loans would, in the absence of
other offsetting factors, require us to make additional provisions for loan
losses.
The carrying value of loans is periodically evaluated and the allowance
is adjusted accordingly. While management uses the best information available to
make evaluations, future adjustments to the allowance may be necessary if
conditions differ substantially from the information used in making the
evaluations. In addition, as an integral part of their examination process, our
regulatory agencies periodically review the allowance for loan losses. Such
agencies may require us to recognize additions to the allowance based on their
judgments of information available to them at the time of their examination.
83
The following table sets forth activity in our allowance for loan losses
for the periods indicated.
AT OR FOR THE
NINE MONTHS ENDED AT OR FOR THE YEARS ENDED DECEMBER 31,
SEPTEMBER 30, ----------------------------------------------------
2004 2003 2003 2002 2001 2000 1999
-------- -------- -------- -------- -------- -------- --------
(DOLLARS IN THOUSANDS)
Balance at beginning of period.. $ 1,036 $ 922 $ 922 $ 689 $ 649 $ 448 $ 478
-------- -------- -------- -------- -------- -------- --------
Charge-offs:
Residential mortgage......... 12 -- 28 36 52 -- --
Commercial mortgage.......... -- -- -- 8 -- -- --
Construction................. -- -- -- -- -- -- --
Commercial................... -- -- -- -- -- -- --
Consumer and other........... 123 180 187 190 237 105 184
-------- -------- -------- -------- -------- -------- --------
Total charge-offs.......... 135 180 215 234 289 105 184
Recoveries:
Residential mortgage......... -- -- -- -- 8 -- --
Commercial mortgage.......... -- -- -- -- -- -- --
Construction................. -- -- -- -- -- -- --
Commercial................... -- -- -- -- -- -- --
Consumer and other........... 37 51 62 52 66 26 34
-------- -------- -------- -------- -------- -------- --------
Total recoveries........... 37 51 62 52 74 26 34
Net (charge-offs) recoveries.... 98 129 153 182 215 79 150
Provision for loan losses....... 214 238 267 415 255 280 120
-------- -------- -------- -------- -------- -------- --------
Balance at end of year.......... $ 1,152 $ 1,031 $ 1,036 $ 922 $ 689 $ 649 $ 448
======== ======== ======== ======== ======== ======== ========
Ratios:
Net charge-offs to average
loans outstanding
(annualized).............. 0.07% 0.11% 0.10% 0.12% 0.11% 0.04% 0.07%
Allowance for loan losses to
non-performing loans at end of
period....................... 64.79% 51.19% 48.89% 62.76% 101.92% 92.06% 59.65%
Allowance for loan losses to
total loans at end of
period.................... 0.61% 0.63% 0.63% 0.61% 0.39% 0.30% 0.22%
84
ALLOCATION OF ALLOWANCE FOR LOAN LOSSES. The following table sets forth
the allowance for loan losses allocated by loan category, the total loan
balances by category (including loans held for sale), and the percent of loans
in each category to total loans at the dates indicated. The allowances include
both specific and general allowances within each category. The allowance for
loan losses allocated to each category is not necessarily indicative of future
losses in any particular category and does not restrict the use of the allowance
to absorb losses in other categories.
AT DECEMBER 31,
--------------------------------------------
AT SEPTEMBER 30, 2004 2003
-------------------------------------------- --------------------------------------------
PERCENT OF PERCENT OF
ALLOWANCE LOAN LOANS IN EACH ALLOWANCE LOAN LOANS IN EACH
FOR LOAN BALANCES BY CATEGORY TO FOR LOAN BALANCES BY CATEGORY TO
LOSSES CATEGORY TOTAL LOANS LOSSES CATEGORY TOTAL LOANS
------------ ------------- ------------- ------------ ------------- -------------
(DOLLARS IN THOUSANDS)
Residential mortgage.. $ 138 $ 100,565 53.24% $ 151 $ 95,748 57.88%
Commercial and
commercial mortgage.. 558 55,371 29.31% 515 42,849 25.9%
Construction.......... -- 7,932 4.20% -- 5,907 3.57%
Consumer and other.... 456 25,039 13.25% 370 20,923 12.65%
Unallocated........... -- -- 0.00% -- -- 0.00%
------------ ------------- ------------ -------------
Total................. $ 1,152 $ 188,907 100.00% $ 1,036 $ 165,427 100.00%
============ ============= =========== ============ ============= ===========
(CONTINUED)
AT DECEMBER 31,
--------------------------------------------
2002
--------------------------------------------
PERCENT OF
ALLOWANCE LOAN LOANS IN EACH
FOR LOAN BALANCES BY CATEGORY TO
LOSSES CATEGORY TOTAL LOANS
------------ ------------- -------------
(DOLLARS IN THOUSANDS)
Residential mortgage.. $ 227 $ 102,449 67.05%
Commercial and
commercial mortgage.. 448 27,823 18.21%
Construction.......... -- 2,946 1.93%
Consumer and other.... 247 19,587 12.82%
Unallocated........... -- -- 0.00%
------------ -------------
Total................. $ 922 $ 152,805 100.00%
============ ============= ===========
AT DECEMBER 31,
-------------------------------------------------------------------------------------------
2001 2000
-------------------------------------------- --------------------------------------------
PERCENT OF PERCENT OF
ALLOWANCE LOAN LOANS IN EACH ALLOWANCE LOAN LOANS IN EACH
FOR LOAN BALANCES BY CATEGORY TO FOR LOAN BALANCES BY CATEGORY TO
LOSSES CATEGORY TOTAL LOANS LOSSES CATEGORY TOTAL LOANS
------------ ------------- ------------- ------------ ------------- -------------
(DOLLARS IN THOUSANDS)
Residential mortgage.. $ 149 $ 134,344 75.17% $ 163 $ 175,646 79.67%
Commercial and
commercial mortgage.. 366 20,174 11.29% 105 12,091 5.48%
Construction.......... -- 3,036 1.70% -- 3,930 1.78%
Consumer and other.... 22 21,172 11.85% 304 28,789 13.06%
Unallocated........... 152 -- 0.00% 77 -- 0.00%
------------ ------------- ------------ -------------
Total................. $ 689 $ 178,726 100.00% $ 649 $ 220,456 100.00%
============ ============= =========== ============ ============= ===========
(CONTINUED)
AT DECEMBER 31,
--------------------------------------------
1999
--------------------------------------------
PERCENT OF
ALLOWANCE LOAN LOANS IN EACH
FOR LOAN BALANCES BY CATEGORY TO
LOSSES CATEGORY TOTAL LOANS
------------ ------------- -------------
(DOLLARS IN THOUSANDS)
Residential mortgage.. $ 241 $ 194,139 86.55%
Commercial and
commercial mortgage.. 33 8,969 4.00%
Construction.......... -- -- 0.00%
Consumer and other.... 158 21,206 9.45%
Unallocated........... 16 -- 0.00%
------------ -------------
Total................. $ 448 $ 224,314 100.00%
============ ============= ===========
85
MORTGAGE BANKING ACTIVITIES
Our mortgage banking operations involve the origination and subsequent
sale of one- to four-family residential mortgage loans. When loans are sold into
the secondary market, we generally retain the rights to service those loans
thereby maintaining our customer relationships. We intend to use these customer
relationships to cross-sell additional products and services. Loans which we
sell are originated using the same personnel and the same underwriting policies
as loans which we maintain in our portfolio. The decision whether to sell a loan
is dependent upon the type of loan product and the term of the loan. In recent
years, we have sold most of our fixed-rate one- to four-family residential loans
with maturities of 15 years or greater, and have retained servicing on all of
these loans.
Mortgage servicing involves the administration and collection of home
loan payments. When we acquire mortgage servicing rights through the origination
of mortgage loans and sale of those loans with servicing rights retained, we
allocate a portion of the total cost of the mortgage loans to the mortgage
servicing rights based on their relative fair value. As of September 30, 2004,
we were servicing loans sold to third parties totaling $140.4 million, and the
mortgage servicing rights associated with such loans had a book value, at such
date, of $898,000. Generally, the value of mortgage servicing rights increases
as interest rates rise and decreases as interest rates fall, because the
estimated life and estimated income from the underlying loans increase with
rising interest rates and decrease with falling interest rates.
INSURANCE BROKERAGE ACTIVITIES
In March 2003, we acquired InsuranCenter of Alpena ("ICA"), a licensed
insurance agency, to increase and diversify our sources of non-interest income.
ICA sells life, property, casualty and health insurance products and, to a
lesser extent, non-insured investment products. All of these products are sold
on an agency basis only. Unlike First Federal of Northern Michigan's net
interest income and loan and deposit fee income, which are subject to and
largely dependent on swings in market interest rates, the commissions earned on
the sales of insurance and investment products generally are not affected by
interest rate moves. As such, we expect the income contributed by ICA will add
stability to our non-interest income specifically and net income generally.
ICA sells life, property, casualty and health insurance products to
First Federal of Northern Michigan's borrower customers and others. For example,
we routinely offer credit life insurance sold through ICA to all borrower
customers of First Federal of Northern Michigan, and we expect that borrower
customers will be a significant source of business for ICA in the future. In
addition, ICA offers workers' compensation insurance, key-man life insurance and
property and casualty insurance to our commercial borrowers, which often are
small businesses, and we expect this activity to increase as we increase our
origination of commercial and commercial real estate loans. Conversely, we
expect to provide the community bank services of First Federal of Northern
Michigan to the existing insurance clients of ICA. Finally, ICA and First
Federal of Northern Michigan are now able to jointly offer complementary
products, including Health Savings Accounts (HSAs) and High Deductible Health
Insurance Plans (HDHPs) to customers of both entities and the public in general.
An HSA is a tax-free savings account established by an eligible individual or by
an employer for an eligible employee that works like an IRA, except that the
money is intended to be used for qualified health care costs. An HSA plan
combines an HDHP with a tax-deductible savings account. An HSA plan can result
in lower health insurance premiums coupled with tax savings, enabling many
people to substantially cut their health care cost. HSA-qualified health
insurance typically costs 10-50% less than traditional full coverage health
insurance because of the higher policy deductibles. HSA assets are required by
Federal law to be held by a qualified trustee or custodian. First Federal of
Northern Michigan has recently completed the requirements to become a qualified
HSA custodian and ICA is able to offer HDHPs through Blue Cross/Blue Shield.
86
All of the revenue from our insurance segment is derived through sales
commissions calculated as a percentage of the premium paid for the insurance
product or the dollar value of the investment product. Generally, commission
rates vary in amount depending on the type of insurance or investment product
sold, as well as the volume and profitability to the underwriter of the business
placed with it by ICA during specific periods. Sales commissions on insurance
products generally are collected from the underwriter of the insurance and not
from the insureds. Sales commissions on investment products generally are
collected from the individual investor.
In recent years, approximately 75% of ICA's revenues have been derived
from the sale of Blue Cross/Blue Shield health insurance products. For the
twelve months ended December 31, 2004, 35.8% of ICA's health insurance revenues
were generated through an exclusive Blue Cross/Blue Shield contract under which
business members of 11 chambers of commerce in our market area use ICA as their
insurance agency. ICA earns a 2% commission on insurance products sold to
business members of the chambers of commerce, and earns a 7% commission on
insurance products sold to others. ICA has been operating under this exclusive
contract since 1988; the contract provides for an indefinite term, though it may
be terminated by either party on 60 days notice. Upon termination, ICA will
continue to receive commissions on insurance products sold prior to the
termination. Blue Cross/Blue Shield may revise the schedule of commissions under
the contract no more frequently than annually.
The insurance brokerage industry generally and ICA's activities
specifically are affected by premium rate levels in the industry and available
insurance capacity, since commissions generally are related to the premiums paid
by insureds. Revenue is also affected by fluctuations in retained limits,
insured values, the development of new products, markets and services, and the
volume of business from new and existing clients.
ICA has operated in Alpena, Michigan since its inception in 1984 and
currently employs seven insurance agents. See "-Subsidiary Activity" on page 93
for a further discussion of ICA. ICA also currently employs three brokers that
sell non-insured investment products in three branch offices of First Federal of
Northern Michigan.
REAL ESTATE DEVELOPMENT ACTIVITIES
On a limited basis, we have purchased real estate for development
through our subsidiary Financial Services & Mortgage Corporation. See
"-Subsidiary Activity" on page 93 for a discussion of our real estate
development subsidiary, Financial Services & Mortgage Corporation. The last such
purchase was a 37 acre lot which we purchased in 1994 for $130,000. As of
September 30, 2004, we had sold 34 of the 43 lots comprising this property. Our
investment in land and real estate is "held for sale" and separately stated in
the statement of financial condition, net of any allowance for impairment.
Management is actively marketing the property by using local real estate agents
to facilitate the sale of these properties. For reporting purposes, this
investment is considered "impaired" under the definition in SFAS 144, ACCOUNTING
FOR IMPAIRMENT OR DISPOSAL OF LONG-LIVED ASSETS. Accordingly, the investment is
recorded at the lower of its cost or fair value less cost to sell. Costs to sell
are the incremental direct costs to transact a sale, that is, the costs that
result directly from and are essential to a sale transaction and that would not
have been incurred by the entity had the decision to sell not been made. Those
costs include realtor commissions, legal and title transfer fees, and closing
costs that must be incurred before legal title can be transferred.
Quarterly, management uses recent sales of comparable property to
determine estimated future cash flows. The estimated future cash flows are used
as the "fair value". The fair value, less cost to sell, is compared to the net
carrying amount. If the fair value, less cost to sell, exceeds the recorded
amount, a
87
loss is recognized. Losses recognized for the initial and subsequent write-down
to fair value, less cost to sell, are recognized in the "gain (loss) on the sale
of real estate" line in the statement of income. A gain is recognized for any
subsequent increase in fair value, less cost to sell, but not in excess of the
cumulative loss previously recognized. A gain or loss not previously recognized
that results from the sale of the property is recognized at the date of sale.
At September 30, 2004, our investment in these properties was
approximately $562,000, which was net of an allowance of $121,000. At September
30, 2004, management prepared an analysis by obtaining an updated fair value,
less cost to sell, on these properties. Based on the analysis, no further
impairment or loss was identified and the allowance remained at $121,000.
INVESTMENT ACTIVITIES
Our investment securities portfolio comprises U.S. Government and state
agency obligations and municipal obligations, mortgage-backed securities,
Federal Home Loan Bank stock, corporate bonds and other investments. At
September 30, 2004, we had no investments in unrated securities. At September
30, 2004, $34.7 million, or 81.4% of our investment portfolio was scheduled to
mature in less than five years, and $8.0 million, or 18.6%, was scheduled to
mature in over five years. At September 30, 2004, $3.8 million, or 8.9% of our
investment portfolio is scheduled to mature in less than one year.
At September 30, 2004, we held U.S. Government and state agency
obligations and municipal obligations classified as available-for-sale, with a
fair market value of $34.3 million. While these securities generally provide
lower yields than other investments such as mortgage-backed securities, our
current investment strategy is to maintain investments in such instruments to
the extent appropriate for liquidity purposes, as collateral for borrowings, and
for prepayment protection.
We invest in mortgage-backed securities in order to: generate positive
interest rate spreads with minimal administrative expense; lower credit risk as
a result of the guarantees provided by Freddie Mac, Fannie Mae and Ginnie Mae;
supplement local loan originations; reduce interest rate risk exposure; and
increase liquidity. Our mortgage-backed securities portfolio consists of
pass-through certificates. At September 30, 2004, mortgage-backed securities
totaled $8.4 million, or 3.3% of total assets. At September 30, 2004, 66.2% of
our mortgage-backed securities were secured by balloon loans. All of our
pass-through certificates are insured or guaranteed by Freddie Mac, Ginnie Mae
or Fannie Mae. Our policy is to hold mortgage-backed securities as available for
sale.
We have interests in pools of single-family mortgages in which the
principal and interest payments are passed from the mortgage originators,
through intermediaries (generally government-sponsored agencies) that pool and
repackage loans and sell the participation interest in the form of securities,
to investors. These government-sponsored agencies include Freddie Mac, GNMA, or
FNMA. The underlying pool of mortgages can be composed of either fixed-rate
mortgage loans or adjustable-rate mortgage loans. The interest rate risk
characteristics of the underlying pool of mortgages, I.E., fixed-rate or
adjustable rate, are shared by the investors in that pool.
Our investment policy also permits investment in corporate debt
obligations. Although corporate bonds may offer higher yields than U.S. Treasury
or agency securities of comparable duration, corporate bonds also have a higher
risk of default due to possible adverse changes in the creditworthiness of the
issuer.
We are required under federal regulations to maintain a minimum amount
of liquid assets that may be invested in specified short term securities and
certain other investments. We generally have maintained a portfolio of liquid
assets that exceeds regulatory requirements. Liquidity levels may be
88
increased or decreased depending upon the yields on investment alternatives and
upon management's judgment as to the attractiveness of the yields then available
in relation to other opportunities and its expectation of the level of yield
that will be available in the future, as well as management's projections as to
the short term demand for funds to be used in our loan origination and other
activities.
SFAS No. 115 requires that, at the time of purchase, we designate a
security as held to maturity, available for sale, or trading, depending on our
ability and intent. Securities available for sale are reported at fair value. As
of September 30, 2004, all of our investment securities were designated as
available for sale except for a $1.8 million state municipal bond investment
designated as held to maturity.
INVESTMENT SECURITIES PORTFOLIO. The following table sets forth the
composition of our investment securities portfolio at the dates indicated.
AT DECEMBER 31,
------------------------------------------------------------------------
AT SEPTEMBER 30, 2004 2003 2002 2001
---------------------- ---------------------- ---------------------- ----------------------
AMORTIZED AMORTIZED AMORTIZED AMORTIZED
COST FAIR VALUE COST FAIR VALUE COST FAIR VALUE COST FAIR VALUE
--------- ---------- --------- ---------- --------- ---------- --------- ----------
(IN THOUSANDS)
DEBT SECURITIES:
U.S. Government and
agency obligations....... $ 27,991 $ 28,100 $ 16,700 $ 17,067 $ 30,940 $ 31,981 $ 13,614 $ 13,870
State agency and
municipal obligations.... 6,232 6,233 3,900 3,960 3,171 3,287 3,686 3,730
--------- ---------- --------- ---------- --------- ---------- --------- ----------
Corporate bonds and other
obligations.............. -- -- 6,163 6,148 4,488 4,580 3,403 3,454
--------- ---------- --------- ---------- --------- ---------- --------- ----------
MORTGAGE-BACKED SECURITIES:
Fannie Mae.................. 884 857 982 942 1,896 1,957 -- --
Freddie Mac................. 4,976 4,925 5,940 5,855 4,098 4,234 946 965
Ginnie Mae.................. 2,592 2,598 520 537 713 739 984 1,008
--------- ---------- --------- ---------- --------- ---------- --------- ----------
Total debt securities...... 42,675 42,713 34,205 34,509 45,305 46,778 22,633 23,026
--------- ---------- --------- ---------- --------- ---------- --------- ----------
MARKETABLE EQUITY SECURITIES:
Common stock............... 2 167 17 161 21 166 21 182
--------- ---------- --------- ---------- --------- ---------- --------- ----------
Total equity
securities............... 2 167 17 161 21 166 21 182
--------- ---------- --------- ---------- --------- ---------- --------- ----------
Total investment
securities............... $ 42,677 $ 42,880 $ 34,222 $ 34,670 $ 45,326 $ 46,944 $ 22,654 $ 23,208
========= ========== ========= ========== ========= ========== ========= ==========
89
PORTFOLIO MATURITIES AND YIELDS. The composition and maturities of the
investment securities portfolio at September 30, 2004 are summarized in the
following table. Maturities are based on the final contractual payment dates,
and do not reflect the impact of prepayments or early redemptions that may
occur. State and municipal securities yields have not been adjusted to a
tax-equivalent basis.
MORE THAN ONE YEAR MORE THAN FIVE YEARS
ONE YEAR OR LESS THROUGH FIVE YEARS THROUGH TEN YEARS
--------------------- --------------------- ---------------------
WEIGHTED WEIGHTED WEIGHTED
AMORTIZED AVERAGE AMORTIZED AVERAGE AMORTIZED AVERAGE
COST YIELD COST YIELD COST YIELD
--------- --------- --------- --------- --------- ---------
(DOLLARS IN THOUSANDS)
DEBT SECURITIES:
U.S. Government and agency
securities.................... $ 3,534 4.89% $ 24,457 3.89% $ -- 0.00%
State agency and municipal
obligations................... 255 5.72% 4,302 3.51% 250 3.63%
--------- --------- ---------
Corporate bonds and other
obligations................... -- 0.00% -- 0.00% -- 0.00%
--------- --------- --------- --------- --------- ---------
Mortgage-backed securities:
Fannie Mae.................. -- 0.00% -- 0.00% 884 3.50%
Freddie Mac................. -- 0.00% 2,178 3.65% 2,759 3.84%
Ginnie Mae.................. -- 0.00% -- 0.00% -- 0.00%
--------- --------- --------- --------- --------- ---------
Total debt securities........... 3,789 30,937 3,893
--------- --------- ---------
MARKETABLE EQUITY SECURITIES:
Common stock.................... -- 0.00% -- 0.00% -- 0.00%
--------- --------- ---------
Total investment securities..... $ 3,789 $ 30,937 $ 3,893
========= ========= =========
(CONTINUED)
MORE THAN TEN YEARS TOTAL SECURITIES
--------------------- ----------------------------------
WEIGHTED WEIGHTED
AMORTIZED AVERAGE AMORTIZED AVERAGE
COST YIELD COST FAIR VALUE YIELD
--------- --------- --------- ---------- ---------
(DOLLARS IN THOUSANDS)
DEBT SECURITIES:
U.S. Government and agency
securities.................... $ -- 0.00% $ 27,991 $ 28,100 4.01%
State agency and municipal
obligations................... 1,425 4.70% 6,232 6,233 3.87%
--------- --------- ----------
Corporate bonds and other
obligations................... -- 0.00% -- -- 0.00%
--------- --------- --------- ---------- ---------
Mortgage-backed securities:
Fannie Mae.................. -- 0.00% 884 857 3.50%
Freddie Mac................. 39 2.75% 4,976 4,925 3.75%
Ginnie Mae.................. 2,592 3.60% 2,592 2,598 3.60%
--------- --------- --------- ---------- ---------
Total debt securities........... 4,056 42,675 42,713
--------- --------- ----------
MARKETABLE EQUITY SECURITIES:
Common stock.................... 2 0.00% 2 167 0.00%
--------- --------- ----------
Total investment securities..... $ 4,058 $ 42,677 $ 42,880
========= ========= ==========
90
The composition and maturities of the investment securities portfolio at
December 31, 2003 are summarized in the following table. Maturities are based on
the final contractual payment dates, and do not reflect the impact of
prepayments or early redemptions that may occur. State and municipal securities
yields have not been adjusted to a tax-equivalent basis.
MORE THAN ONE YEAR MORE THAN FIVE YEARS
ONE YEAR OR LESS THROUGH FIVE YEARS THROUGH TEN YEARS
--------------------- --------------------- ---------------------
WEIGHTED WEIGHTED WEIGHTED
AMORTIZED AVERAGE AMORTIZED AVERAGE AMORTIZED AVERAGE
COST YIELD COST YIELD COST YIELD
--------- --------- --------- --------- --------- ---------
(DOLLARS IN THOUSANDS)
DEBT SECURITIES:
U.S. Government and agency
securities.................... $ 3,007 4.32% $ 13,693 4.65% $ -- 0.00%
State agency and municipal
obligations................... 1,459 5.97% 2,111 2.75% 330 4.25%
--------- --------- ---------
Corporate bonds and other
obligations..................... 2,464 5.95% 3,699 5.65% -- 0.00%
--------- --------- --------- --------- --------- ---------
Mortgage-backed securities:
Fannie Mae.................. -- 0.00% -- 0.00% 982 3.50%
Freddie Mac................. -- 0.00% 2,727 3.66% 3,168 3.89%
Ginnie Mae.................. -- 0.00% -- 0.00% -- 0.00%
--------- --------- --------- --------- --------- ---------
Total debt securities........... 6,930 22,230 4,480
--------- --------- ---------
MARKETABLE EQUITY SECURITIES:
Common stock.................... -- 0.00% -- 0.00% -- 0.00%
--------- --------- ---------
Total investment securities..... $ 6,930 $ 22,230 $ 4,480
========= ========= =========
(continued)
MORE THAN TEN YEARS TOTAL SECURITIES
--------------------- ----------------------------------
WEIGHTED WEIGHTED
AMORTIZED AVERAGE AMORTIZED AVERAGE
COST YIELD COST FAIR VALUE YIELD
--------- --------- --------- ---------- ---------
(DOLLARS IN THOUSANDS)
DEBT SECURITIES:
U.S. Government and agency
securities.................... $ -- 0.00% $ 16,700 $ 17,067 4.59%
State agency and municipal
obligations................... -- 0.00% 3,900 3,960 2.59%
--------- --------- ----------
Corporate bonds and other
obligations..................... -- 0.00% 6,163 6,148 5.77%
--------- --------- --------- ---------- ---------
Mortgage-backed securities:
Fannie Mae.................. -- 0.00% 982 942 3.50%
Freddie Mac................. 46 3.07% 5,940 5,855 3.78%
Ginnie Mae.................. 520 4.89% 520 537 4.89%
--------- --------- --------- ---------- ---------
Total debt securities........... 566 34,206 34,509
--------- --------- ----------
MARKETABLE EQUITY SECURITIES:
Common stock.................... 17 0.00% 17 161 0.00%
--------- --------- ----------
Total investment securities..... $ 583 $ 34,223 $ 34,670
========= ========= ==========
91
SOURCES OF FUNDS
GENERAL. Deposits are the major source of our funds for lending and
other investment purposes. We generate deposits from our ten full-service
offices in Alpena, Ossineke, Mio, Cheboygan, Oscoda, Lewiston, Mancelona,
Alanson and Gaylord. In addition to deposits, we derive funds from borrowings,
proceeds from the settlement of loan sales, the amortization and prepayment of
loans and mortgage-backed securities, the maturity of investment securities, and
operations. Scheduled loan principal repayments are a relatively stable source
of funds, while deposit inflows and outflows and loan prepayments are influenced
significantly by general interest rates and market conditions. Borrowings are
used on a short-term basis to compensate for reductions in the availability of
funds from other sources or on a longer term basis for general business
purposes. We currently are managing liquidity levels and loan funding primarily
through secondary mortgage market sales.
DEPOSITS. We generate deposits primarily from our market area by
offering a broad selection of deposit instruments including NOW accounts,
regular savings, money market deposits, term certificate accounts and individual
retirement accounts. Deposit account terms vary according to the minimum balance
required, the period of time during which the funds must remain on deposit, and
the interest rate, among other factors. The maximum rate of interest which we
must pay is not established by regulatory authority. The asset/liability
committee regularly evaluates our internal cost of funds, surveys rates offered
by competing institutions, reviews the cash flow requirements for lending and
liquidity, and executes rate changes when deemed appropriate. We have sought to
decrease the risk associated with changes in interest rates by offering
competitive rates on some deposit accounts and by pricing certificates of
deposit to provide customers with incentives to choose certificates of deposit
with longer maturities. We also attract non-interest bearing commercial deposit
accounts from our commercial borrowers and offer a competitive sweep product
that is not insured by the FDIC. In recent periods, we generally have not
obtained funds through brokers or through a solicitation of funds outside our
market area. However, at September 30, 2004, we had $1.6 million of brokered
deposits. We offer a limited amount of certificates of deposit in excess of
$100,000 which may have negotiated rates. Future liquidity needs are expected to
be satisfied through the use of Federal Home Loan Bank borrowings as necessary.
Management does not generally plan on paying above market rates on deposit
products.
The following table sets forth the distribution of total deposit
accounts, by account type, at the dates indicated.
AT SEPTEMBER 30, AT DECEMBER 31,
------------------------------ ------------------------------
2004 2003
------------------------------ ------------------------------
WEIGHTED WEIGHTED
AVERAGE AVERAGE
BALANCE PERCENT RATE BALANCE PERCENT RATE
--------- --------- -------- --------- --------- --------
(DOLLARS IN THOUSANDS)
DEPOSIT TYPE:
Demand deposits......... $ 11,664 6.36% 0.00% $ 7,282 4.80% 0.00%
NOW deposits............ 17,225 9.88% 0.33% 13,596 8.96% 0.35%
Money market deposits... 16,641 9.08% 1.62% 11,613 7.66% 1.22%
Regular savings......... 28,082 15.32% 0.14% 28,838 19.01% 0.34%
--------- --------- --------- ---------
Total transaction
accounts........... 73,612 40.64% 61,328 40.43%
--------- --------- --------- ---------
Certificates of
deposit............ 108,816 59.36% 3.31% 90,374 59.57% 3.36%
Total deposits....... $ 182,428 100.00% $ 151,702 100.00%
========= ========= ========= ========
92
AT DECEMBER 31,
---------------------------------------------------------------
2002 2001
------------------------------ ------------------------------
WEIGHTED WEIGHTED
AVERAGE AVERAGE
BALANCE PERCENT RATE BALANCE PERCENT RATE
--------- --------- -------- --------- --------- --------
(DOLLARS IN THOUSANDS)
DEPOSIT TYPE:
Demand deposits........ $ 5,418 3.47% 0.00% $ 3,422 2.06% 0.00%
NOW deposits........... 14,651 9.39% 0.84% 14,390 8.64% 1.12%
Money market deposits.. 8,464 5.42% 1.20% 7,736 4.65% 1.74%
Regular savings........ 32,198 20.62% 0.54% 30,922 18.57% 2.48%
--------- --------- --------- ---------
Total transaction
accounts.......... 60,731 38.90% 56,470 33.92%
--------- --------- --------- ---------
Certificates of
deposit........... 95,361 61.10% 4.87% 110,068 66.08% 6.29%
--------- --------- --------- ---------
Total deposits...... $ 156,092 100.00% $ 166,538 100.00%
========= ========= ========= ========
The following table sets forth the time deposits in the Bank classified
by interest rate as of the dates indicated.
AT AT DECEMBER 31,
SEPTEMBER -------------------------------------
30, 2004 2003 2002 2001
---------- ---------- ---------- ----------
(IN THOUSANDS)
INTEREST RATE
Less than 2.00%. $ 28,132 $ 26,192 $ 19,670 $ 2,399
2.00% -2.99%.... 21,623 14,384 11,537 6,729
3.00% -3.99%.... 29,463 15,349 11,111 21,037
4.00% -4.99%.... 12,090 12,498 13,576 10,555
5.00% -6.99%.... 14,769 18,768 34,394 62,037
7.00% - 8.99%... 2,739 3,183 5,073 7,311
---------- ---------- ---------- ----------
Total........... $ 108,816 $ 90,374 $ 95,361 $ 110,068
========== ========== ========== ==========
The following table sets forth the amount and maturities of time
deposits at September 30, 2004.
AFTER
SEPTEMBER SEPTEMBER SEPTEMBER SEPTEMBER SEPTEMBER SEPTEMBER
30, 2005 30, 2006 30, 2007 30, 2008 30, 2009 30, 2005 TOTAL
----------- ----------- ----------- ----------- ----------- ----------- -----------
INTEREST RATE
Less than 2.00%. $ 22,139 $ 5,883 $ 110 $ -- $ -- $ -- $ 28,132
2.00% -2.99%.... 4,417 15,049 721 729 512 195 21,623
3.00% -3.99%.... 2,037 10,639 9,520 7,086 2 179 29,463
4.00% -4.99%.... 1,984 7,518 2,247 30 23 288 12,090
5.00% -5.99%.... 1,118 2,269 220 -- 1,361 376 5,344
6.00% -6.99%.... 3,768 1,489 425 904 221 2,618 9,425
7.00%- 8.99%.... 1,223 100 135 2 -- 1,279 2,739
----------- ----------- ----------- ----------- ----------- ----------- -----------
Total........... $ 36,686 $ 42,947 $ 13,378 $ 8,751 $ 2,119 $ 4,935 $ 108,816
=========== =========== =========== =========== =========== =========== ===========
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As of September 30, 2004, the aggregate amount of outstanding
certificates of deposit in amounts greater than or equal to $100,000 was
approximately $27.3 million. The following table sets forth the maturity of
those certificates as of September 30, 2004.
AT
SEPTEMBER 30,
2004
-------------------
(IN THOUSANDS)
Three months or less................ $ 4,840
Over three months through six months 1,854
Over six months through one year.... 1,557
Over one year to three years........ 13,268
Over three years.................... 5,819
----------
Total............................... $ 27,338
==========
BORROWINGS. Our borrowings consist primarily of advances from the
Federal Home Loan Bank. At September 30, 2004, we had access to additional
Federal Home Loan Bank advances of up to $20.5 million. The following table sets
forth information concerning balances and interest rates on our Federal Home
Loan Bank advances at the dates and for the periods indicated.
AT OR FOR THE NINE MONTHS
ENDED SEPTEMBER 30, AT OR FOR THE YEARS ENDED DECEMBER 31,
---------------------------- --------------------------------------------
2004 2003 2003 2002 2001
------------ ------------ ------------ ------------ ------------
(DOLLARS IN THOUSANDS)
Balance at end of period (1)........... $ 47,303 $ 53,771 $ 47,159 $ 48,414 $ 52,120
Average balance during period.......... $ 58,570 $ 50,604 $ 49,594 $ 48,532 $ 55,589
Maximum outstanding at any month end... $ 60,802 $ 52,414 $ 49,802 $ 48,414 $ 56,935
Weighted average interest rate at
end of period........................ 5.14% 5.29% 5.25% 5.73% 5.77%
Average interest rate during period.... 4.27% 5.00% 4.73% 5.77% 5.49%
----------------------------
(1) Includes $1.3 million at September 30, 2004 and $1.4 million at
September 30, 2003 and December 31, 2003 in a note payable to former
owners of InsuranCenter.
EMPLOYEES
As of September 30, 2004, we had 112 full-time employees and 16
part-time employees. The employees are not represented by a collective
bargaining unit and we consider our relationship with our employees to be good.
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PROPERTIES
As of September 30, 2004, First Federal of Northern Michigan owned its
main office and all of its branch offices except for the Lewiston branch office.
At September 30, 2004, the net book value of our properties was $4.6 million.
The following is a list of our locations:
MAIN OFFICE
-----------
100 South Second Avenue
Alpena, Michigan 49707
BRANCH OFFICES
--------------
300 South Ripley Boulevard 625 N. Williams Street
Alpena, Michigan 49707 Mancelona, MI 49659
6230 River Street 308 North Morenci
Alanson, MI 49706 Mio, Michigan 48647
101 South Main Street 201 North State Street
Cheboygan, Michigan 49721 Oscoda, Michigan 48750
1000 South Wisconsin 11874 U.S. 23 South
Gaylord, Michigan 49735 Ossineke, Michigan 49766
P.O. Box 673 (1)
4236 Salling Street
Lewiston, Michigan 49756
-----------------------------
(1) Month to month lease.
LEGAL PROCEEDINGS
We are not involved in any pending legal proceedings other than routine
legal proceedings occurring in the ordinary course of business which, in the
aggregate, involve amounts which management believes are immaterial to our
financial condition, our results of operations and our cash flows.
SUBSIDIARY ACTIVITY
Alpena Bancshares, Inc.'s only direct subsidiary is First Federal of
Northern Michigan.
First Federal of Northern Michigan has two wholly owned subsidiaries.
These subsidiaries are consolidated in the financial statements and all
inter-company balances and transactions are eliminated in consolidation.
One subsidiary, Financial Services & Mortgage Corporation, leases,
sells, develops and maintains real estate properties. For reporting purposes,
Financial Services & Mortgage Corporation is included in our Banking segment. As
of September 30, 2004, First Federal of Northern Michigan's investment in
Financial Services & Mortgage Corporation was $562,000. The sole asset of the
subsidiary is an investment in land and real estate. See "Real Estate
Development Activities" on page 88 for a further discussion of our investment in
real estate and the related accounting treatment. As of September 30,
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2004, Financial Services & Mortgage Corporation had developed seven building
sites and two condominiums, all of which were being offered for sale. Financial
Services & Mortgage Corporation is not currently a party to any agreement that
is material to Alpena Bancshares, Inc. on a consolidated basis.
First Federal of Northern Michigan's second subsidiary, the
InsuranCenter of Alpena ("ICA"), is a licensed insurance agency engaged in the
business of property, casualty and health insurance sales. ICA currently employs
three brokers that sell non-insured investment products in three branch offices
of First Federal of Northern Michigan. First Federal of Northern Michigan
acquired ICA in June 2003 for $2.87 million. ICA's revenues are derived from the
sale of life insurance, property and casualty insurance and health insurance. At
December 31, 2004, life insurance revenues represented 4% of sales, property and
casualty insurance revenues represented 20% of sales and health insurance sales
represented 76% of sales. At December 31, 2004, 35% of the health insurance
sales resulted from a contract under which 11 chambers of commerce in 10
surrounding counties offer their constituents the opportunity to purchase group
health plans through ICA.
As part of the acquisition, First Federal of Northern Michigan entered
into an employment agreement with one of ICA's former owners, which will expire
in February 2006. In addition, First Federal of Northern Michigan entered into
an "earn out" agreement with one of the former ICA owners that pays up to
$300,000 per year if certain net sales goals are achieved. One $300,000 payment
was made in February 2004 and another $300,000 payment is expected to be paid in
February 2005. The earn out agreement expires in December 2005.
FIRST FEDERAL COMMUNITY FOUNDATION
In connection with the conversion and offering, we are establishing the
First Federal Community Foundation, which is a private charitable foundation.
This foundation, which is not a subsidiary of First Federal of Northern
Michigan, will provide grants to individuals and not-for-profit organizations
within the communities that First Federal of Northern Michigan serves. The
foundation's board of directors consists of Gary C. VanMassenhove, Michael W.
Mahler and Amy E. Essex. Additionally, as required by Office of Thrift
Supervision regulations, for at least the first five years after its
organization, we will select one additional person to serve on the initial board
of directors who will not be one of our officers or directors and who will have
experience with local charitable organizations and grant making. As part of the
conversion, we will fund the foundation through a contribution of cash in an
amount equal to 2% of the shares we sell to purchasers in the offering, PROVIDED
the cash does not exceed $375,000 and common stock equal to 2% of the shares we
sell to purchasers in the offering, PROVIDED the common stock contribution does
not exceed 37,500 shares. After the conversion, First Federal of Northern
Michigan will continue to maintain the foundation, but does not expect to make
any further contributions to the foundation. See "First Federal Community
Foundation" on page 121.
SUPERVISION AND REGULATION
GENERAL
As a federally chartered savings bank, First Federal of Northern
Michigan is regulated and supervised by the Office of Thrift Supervision and the
Federal Deposit Insurance Corporation. This regulation and supervision
establishes a comprehensive framework of activities in which we may engage, and
is intended primarily for the protection of the Federal Deposit Insurance
Corporation's deposit insurance funds and depositors. Under this system of
federal regulation, financial institutions are periodically examined to ensure
that they satisfy applicable standards with respect to their capital adequacy,
assets, management, earnings, liquidity and sensitivity to market interest
rates. After completing an examination, the federal agency critiques the
financial institution's operations and assigns
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its rating (known as an institution's CAMELS). Under federal law, an institution
may not disclose its CAMELS rating to the public. First Federal of Northern
Michigan also is a member of, and owns stock in, the Federal Home Loan Bank of
Indianapolis, which is one of the twelve regional banks in the Federal Home Loan
Bank System. First Federal of Northern Michigan also is regulated, to a lesser
extent, by the Board of Governors of the Federal Reserve System, governing
reserves to be maintained against deposits and other matters. The Office of
Thrift Supervision examines First Federal of Northern Michigan and prepares
reports for consideration by our board of directors on any operating
deficiencies. First Federal of Northern Michigan's relationship with our
depositors and borrowers also is regulated to a great extent by both federal and
state laws, especially in matters concerning the ownership of deposit accounts
and the form and content of our loan documents.
There can be no assurance that changes to existing laws, rules and
regulations, or any other new laws, rules or regulations, will not be adopted in
the future, which could make compliance more difficult or expensive or otherwise
adversely affect our business, financial condition or prospects. Any change in
these laws or regulations, or in regulatory policy, whether by the Federal
Deposit Insurance Corporation, the Office of Thrift Supervision or Congress,
could have a material adverse impact on our business, financial condition or
operations.
FEDERAL BANKING REGULATION
BUSINESS ACTIVITIES. A federal savings bank derives its lending and
investment powers from the Home Owners' Loan Act, and the regulations of the
Office of Thrift Supervision. Under these laws and regulations, First Federal of
Northern Michigan may invest in mortgage loans secured by residential and
commercial real estate, commercial business and consumer loans, certain types of
debt securities and certain other loans and assets. First Federal of Northern
Michigan also may establish subsidiaries that may engage in activities not
otherwise permissible for First Federal of Northern Michigan directly, including
real estate investment, securities brokerage and insurance agency services.
CAPITAL REQUIREMENTS. Office of Thrift Supervision regulations require
savings banks to meet three minimum capital standards: a 1.5% tangible capital
ratio, a 4% leverage ratio (3% for institutions receiving the highest CAMELS
rating) and an 8% risk-based capital ratio. The prompt corrective action
standards discussed below, in effect, establish a minimum 2% tangible capital
standard.
The risk-based capital standard for savings banks requires the
maintenance of Tier 1 (core) and total capital (which is defined as core capital
and supplementary capital) to risk-weighted assets of at least 4% and 8%,
respectively. In determining the amount of risk-weighted assets, all assets,
including certain off-balance sheet assets, are multiplied by a risk-weight
factor of 0% to 100%, assigned by the Office of Thrift Supervision capital
regulation based on the risks inherent in the type of asset. Core capital is
defined as common stockholders' equity (including retained earnings), certain
noncumulative perpetual preferred stock and related surplus and minority
interests in equity accounts of consolidated subsidiaries, less intangibles
other than certain mortgage servicing rights and credit card relationships. The
components of supplementary capital currently include cumulative preferred
stock, long-term perpetual preferred stock, mandatory convertible securities,
subordinated debt and intermediate preferred stock, allowance for loan and lease
losses up to a maximum of 1.25% of risk-weighted assets, and up to 45% of net
unrealized gains on available-for-sale equity securities with readily
determinable fair market values. Overall, the amount of supplementary capital
included as part of total capital cannot exceed 100% of core capital.
At September 30, 2004, First Federal of Northern Michigan's capital
exceeded all applicable requirements.
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LOANS TO ONE BORROWER. A federal savings bank generally may not make a
loan or extend credit to a single or related group of borrowers in excess of 15%
of unimpaired capital and surplus on an unsecured basis. An additional amount
may be loaned, equal to 10% of unimpaired capital and surplus, if the loan is
secured by readily marketable collateral, which generally does not include real
estate. As of September 30, 2004, First Federal of Northern Michigan was in
compliance with the loans-to-one-borrower limitations.
QUALIFIED THRIFT LENDER TEST. As a federal savings bank, First Federal
of Northern Michigan is subject to a qualified thrift lender, or "QTL," test.
Under the QTL test, First Federal of Northern Michigan must maintain at least
65% of its "portfolio assets" in "qualified thrift investments" in at least nine
months of the most recent 12-month period. "Portfolio assets" generally means
total assets of a savings institution, less the sum of specified liquid assets
up to 20% of total assets, goodwill and other intangible assets, and the value
of property used in the conduct of the institution's business.
"Qualified thrift investments" include various types of loans made for
residential and housing purposes, investments related to such purposes,
including certain mortgage-backed and related securities, and loans for
personal, family, household and certain other purposes up to a limit of 20% of
portfolio assets. "Qualified thrift investments" also include 100% of an
institution's credit card loans, education loans and small business loans. First
Federal of Northern Michigan also may satisfy the QTL test by qualifying as a
"domestic building and loan association" as defined in the Internal Revenue Code
of 1986.
A savings bank that fails the QTL test must either convert to a bank
charter or operate under specified restrictions. At September 30, 2004, First
Federal of Northern Michigan maintained approximately 94.1% of its portfolio
assets in qualified thrift investments, and therefore satisfied the QTL test.
CAPITAL DISTRIBUTIONS. Office of Thrift Supervision regulations govern
capital distributions by a federal savings bank, which include cash dividends,
stock repurchases and other transactions charged to the institution's capital
account. A savings bank must file an application for approval of a capital
distribution if:
o the total capital distributions for the applicable calendar year
exceed the sum of the savings bank's net income for that year to
date plus the savings bank's retained net income for the
preceding two years;
o the savings bank would not be at least adequately capitalized
following the distribution;
o the distribution would violate any applicable statute,
regulation, agreement or Office of Thrift Supervision-imposed
condition; or
o the savings bank is not eligible for expedited treatment of its
filings.
Even if an application is not otherwise required, every savings bank
that is a subsidiary of a holding company must still file a notice with the
Office of Thrift Supervision at least 30 days before the board of directors
declares a dividend or approves a capital distribution.
The Office of Thrift Supervision may disapprove a notice or application
if:
o the savings bank would be undercapitalized following the
distribution;
o the proposed capital distribution raises safety and soundness
concerns; or
98
o the capital distribution would violate a prohibition contained
in any statute, regulation or agreement.
LIQUIDITY. A federal savings bank is required to maintain a sufficient
amount of liquid assets to ensure its safe and sound operation.
COMMUNITY REINVESTMENT ACT AND FAIR LENDING LAWS. All savings banks have
a responsibility under the Community Reinvestment Act and related regulations of
the Office of Thrift Supervision to help meet the credit needs of their
communities, including low- and moderate-income neighborhoods. In connection
with its examination of a federal savings bank, the Office of Thrift Supervision
is required to assess the savings bank's record of compliance with the Community
Reinvestment Act. In addition, the Equal Credit Opportunity Act and the Fair
Housing Act prohibit lenders from discriminating in their lending practices on
the basis of characteristics specified in those statutes. A savings bank's
failure to comply with the provisions of the Community Reinvestment Act could,
at a minimum, result in regulatory restrictions on its activities. The failure
to comply with the Equal Credit Opportunity Act and the Fair Housing Act could
result in enforcement actions by the Office of Thrift Supervision, as well as
other federal regulatory agencies and the Department of Justice. First Federal
of Northern Michigan received a "Satisfactory" Community Reinvestment Act rating
in its most recent federal examination.
TRANSACTIONS WITH RELATED PARTIES. A federal savings bank's authority to
engage in transactions with its "affiliates" is limited by Office of Thrift
Supervision regulations and by Sections 23A and 23B of the Federal Reserve Act.
The term "affiliates" for these purposes generally means any company that
controls or is under common control with an institution. Alpena Bancshares, Inc.
and its non-savings institution subsidiaries will be affiliates of First Federal
of Northern Michigan. In general, transactions with affiliates must be on terms
that are as favorable to the savings bank as comparable transactions with
non-affiliates. In addition, certain types of these transactions are restricted
to an aggregate percentage of the savings bank's capital. Collateral in
specified amounts must usually be provided by affiliates in order to receive
loans from the savings bank. In addition, Office of Thrift Supervision
regulations prohibit a savings bank from lending to any of its affiliates that
are engaged in activities that are not permissible for bank holding companies
and from purchasing the securities of any affiliate, other than a subsidiary.
First Federal of Northern Michigan's authority to extend credit to its
directors, executive officers and 10% stockholders, as well as to entities
controlled by such persons, is currently governed by the requirements of
Sections 22(g) and 22(h) of the Federal Reserve Act and Regulation O of the
Federal Reserve Board. Among other things, these provisions require that
extensions of credit to insiders (i) be made on terms that are substantially the
same as, and follow credit underwriting procedures that are not less stringent
than, those prevailing for comparable transactions with unaffiliated persons and
that do not involve more than the normal risk of repayment or present other
unfavorable features, and (ii) not exceed certain limitations on the amount of
credit extended to such persons, individually and in the aggregate, which limits
are based, in part, on the amount of First Federal of Northern Michigan's
capital. In addition, extensions of credit in excess of certain limits must be
approved by First Federal of Northern Michigan's board of directors.
ENFORCEMENT. The Office of Thrift Supervision has primary enforcement
responsibility over federal savings banks and has the authority to bring
enforcement action against all "institution-affiliated parties," including
stockholders, attorneys, appraisers and accountants who knowingly or recklessly
participate in wrongful action likely to have an adverse effect on an
institution. Formal enforcement action may range from the issuance of a capital
directive or cease and desist order to removal of officers and/or directors of
the savings bank, receivership, conservatorship or the termination of deposit
insurance. Civil penalties cover a wide range of violations and actions, and
range up to $25,000 per day, unless a finding of reckless disregard is made, in
which case penalties may be as high as $1 million per day. The
99
Federal Deposit Insurance Corporation also has the authority to recommend to the
Director of the Office of Thrift Supervision that enforcement action be taken
with respect to a particular savings bank. If action is not taken by the
Director, the Federal Deposit Insurance Corporation has authority to take action
under specified circumstances.
STANDARDS FOR SAFETY AND SOUNDNESS. Federal law requires each federal
banking agency to prescribe certain standards for all insured depository
institutions. These standards relate to, among other things, internal controls,
information systems and audit systems, loan documentation, credit underwriting,
interest rate risk exposure, asset growth, compensation, and other operational
and managerial standards as the agency deems appropriate. The federal banking
agencies adopted Interagency Guidelines Prescribing Standards for Safety and
Soundness to implement the safety and soundness standards required under federal
law. 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. The guidelines address
internal controls and information systems, internal audit systems, credit
underwriting, loan documentation, interest rate risk exposure, asset growth,
compensation, fees and benefits. If the appropriate federal banking agency
determines that an institution fails to meet any standard prescribed by the
guidelines, the agency may require the institution to submit to the agency an
acceptable plan to achieve compliance with the standard. If an institution fails
to meet these standards, the appropriate federal banking agency may require the
institution to submit a compliance plan.
PROMPT CORRECTIVE ACTION REGULATIONS. Under the prompt corrective action
regulations, the Office of Thrift Supervision is required and authorized to take
supervisory actions against undercapitalized savings banks. For this purpose, a
savings bank is placed in one of the following five categories based on the
savings bank's capital:
o well-capitalized (at least 5% leverage capital, 6% tier 1
risk-based capital and 10% total risk-based capital);
o adequately capitalized (at least 4% leverage capital, 4% tier 1
risk-based capital and 8% total risk-based capital);
o undercapitalized (less than 3% leverage capital, 4% tier 1
risk-based capital or 8% total risk-based capital);
o significantly undercapitalized (less than 3% leverage capital,
3% tier 1 risk-based capital or 6% total risk-based capital); or
o critically undercapitalized (less than 2% tangible capital).
Generally, the Office of Thrift Supervision is required to appoint a
receiver or conservator for a savings bank that is "critically
undercapitalized." The regulation also provides that a capital restoration plan
must be filed with the Office of Thrift Supervision within 45 days of the date a
savings bank receives notice that it is "undercapitalized," "significantly
undercapitalized" or "critically undercapitalized." In addition, numerous
mandatory supervisory actions become immediately applicable to the savings bank,
including, but not limited to, restrictions on growth, investment activities,
capital distributions and affiliate transactions. The Office of Thrift
Supervision may also take any one of a number of discretionary supervisory
actions against undercapitalized savings banks, including the issuance of a
capital directive and the replacement of senior executive officers and
directors.
At September 30, 2004, First Federal of Northern Michigan met the
criteria for being considered "well-capitalized."
100
INSURANCE OF DEPOSIT ACCOUNTS. Deposit accounts in First Federal of
Northern Michigan are insured by the Savings Association Insurance Fund of the
Federal Deposit Insurance Corporation, generally up to a maximum of $100,000 per
separately insured depositor. First Federal of Northern Michigan's deposits,
therefore, are subject to Federal Deposit Insurance Corporation deposit
insurance assessments. The Federal Deposit Insurance Corporation has adopted a
risk-based system for determining deposit insurance assessments. The Federal
Deposit Insurance Corporation is authorized to raise the assessment rates as
necessary to maintain the required ratio of reserves to insured deposits of
1.25%. In addition, all Federal Deposit Insurance Corporation-insured
institutions must pay assessments to the Federal Deposit Insurance Corporation
at an annual rate of approximately .0212% of insured deposits to fund interest
payments on federal agency bonds maturing in 2017 that were issued to
recapitalize the predecessor to the Savings Association Insurance Fund.
PROHIBITIONS AGAINST TYING ARRANGEMENTS. Federal savings banks are
prohibited, subject to some exceptions, from extending credit to or offering any
other service, or fixing or varying the consideration for such extension of
credit or service, on the condition that the customer obtain some additional
service from the savings bank or its affiliates or not obtain services of a
competitor of the savings bank.
FEDERAL HOME LOAN BANK SYSTEM. First Federal of Northern Michigan is a
member of the Federal Home Loan Bank System, which consists of 12 regional
Federal Home Loan Banks. The Federal Home Loan Bank System provides a central
credit facility primarily for member institutions. As a member of the Federal
Home Loan Bank of Indianapolis, First Federal of Northern Michigan is required
to acquire and hold shares of capital stock in the Federal Home Loan Bank in an
amount equal to at least 1% of the aggregate principal amount of its unpaid
residential mortgage loans and similar obligations at the beginning of each
year, or 1/20 of its borrowings from the Federal Home Loan Bank, whichever is
greater. As of September 30, 2004, First Federal of Northern Michigan was in
compliance with this requirement.
FEDERAL RESERVE SYSTEM
Federal Reserve Board regulations require savings banks to maintain
non-interest-earning reserves against their transaction accounts, such as
negotiable order of withdrawal and regular checking accounts. At September 30,
2004, First Federal of Northern Michigan was in compliance with these reserve
requirements. The balances maintained to meet the reserve requirements imposed
by the Federal Reserve Board may be used to satisfy liquidity requirements
imposed by the Office of Thrift Supervision.
THE USA PATRIOT ACT
The USA PATRIOT Act gives the federal government new powers to address
terrorist threats through enhanced domestic security measures, expanded
surveillance powers, increased information sharing and broadened anti-money
laundering requirements. Certain provisions of the Act impose affirmative
obligations on a broad range of financial institutions, including federal
savings banks, like First Federal of Northern Michigan. These obligations
include enhanced anti-money laundering programs, customer identification
programs and regulations relating to private banking accounts or correspondence
accounts in the United States for non-United States persons or their
representatives (including foreign individuals visiting the United States).
We have established policies and procedures to ensure compliance with
the USA PATRIOT Act's provisions, and the impact of the USA PATRIOT Act on our
operations has not been material.
PRIVACY REQUIREMENTS OF THE GRAMM-LEACH-BLILEY ACT
101
The Gramm-Leach-Bliley Act of 1999 provided for sweeping financial
modernization for commercial banks, savings banks, securities firms, insurance
companies, and other financial institutions operating in the United States.
Among other provisions, the Gramm-Leach-Bliley Act places limitations on the
sharing of consumer financial information with unaffiliated third parties.
Specifically, the Gramm-Leach-Bliley Act requires all financial institutions
offering financial products or services to retail customers to provide such
customers with the financial institution's privacy policy and provide such
customers the opportunity to "opt out" of the sharing of personal financial
information with unaffiliated third parties.
HOLDING COMPANY REGULATION
Upon completion of the conversion, First Federal of Northern Michigan
Bancorp, Inc. will be a unitary savings and loan holding company, subject to
regulation and supervision by the Office of Thrift Supervision. The Office of
Thrift Supervision will have enforcement authority over First Federal of
Northern Michigan Bancorp, Inc. and its non-savings institution subsidiaries.
Among other things, this authority permits the Office of Thrift Supervision to
restrict or prohibit activities that are determined to be a risk to First
Federal of Northern Michigan.
Under prior law, a unitary savings and loan holding company generally
had no regulatory restrictions on the types of business activities in which it
could engage, provided that its subsidiary savings association was a qualified
thrift lender. The Gramm-Leach-Bliley Act, however, restricts unitary savings
and loan holding companies not existing on, or applied for before, May 4, 1999,
to those activities permissible for financial holding companies or for multiple
savings and loan holding companies. First Federal of Northern Michigan Bancorp,
Inc. will not be a grandfathered unitary savings and loan holding company and,
therefore, will be limited to the activities permissible for financial holding
companies or for multiple savings and loan holding companies. A financial
holding company may engage in activities that are financial in nature, including
underwriting equity securities and insurance, incidental to financial activities
or complementary to a financial activity. A multiple savings and loan holding
company is generally limited to activities permissible for bank holding
companies under Section 4(c)(8) of the Bank Holding Company Act, subject to the
prior approval of the Office of Thrift Supervision, and certain additional
activities authorized by Office of Thrift Supervision regulations.
Federal law prohibits a savings and loan holding company, directly or
indirectly, or through one or more subsidiaries, from acquiring control of
another savings institution or holding company thereof, without prior written
approval of the Office of Thrift Supervision. It also prohibits the acquisition
or retention of, with specified exceptions, more than 5% of the equity
securities of a company engaged in activities that are not closely related to
banking or financial in nature or acquiring or retaining control of an
institution that is not federally insured. In evaluating applications by holding
companies to acquire savings institutions, the Office of Thrift Supervision must
consider the financial and managerial resources and future prospects of the
savings institution involved, the effect of the acquisition on the risk to the
insurance fund, the convenience and needs of the community and competitive
factors.
SARBANES-OXLEY ACT OF 2002
The Sarbanes-Oxley Act of 2002 was enacted in response to public
concerns regarding corporate accountability in connection with recent accounting
scandals. The stated goals of the Sarbanes-Oxley Act are to increase corporate
responsibility, to provide for enhanced penalties for accounting and auditing
improprieties at publicly traded companies, and to protect investors by
improving the accuracy and reliability of corporate disclosures pursuant to the
securities laws. The Sarbanes-Oxley Act generally applies to all companies that
file or are required to file periodic reports with the SEC, under the Securities
Exchange Act of 1934.
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The Sarbanes-Oxley Act includes very specific additional disclosure
requirements and new corporate governance rules requiring the SEC and securities
exchanges to adopt extensive additional disclosure, corporate governance and
other related rules, and mandates further studies of certain issues by the SEC.
The Sarbanes-Oxley Act represents significant federal involvement in matters
traditionally left to state regulatory systems, such as the regulation of the
accounting profession, and to state corporate law, such as the relationship
between a board of directors and management and between a board of directors and
its committees.
Although we will incur additional expense in complying with the
provisions of the Sarbanes-Oxley Act and the regulations that have been
promulgated to implement the Sarbanes-Oxley Act, management does not expect that
such compliance will have a material impact on our results of operations or
financial condition.
FEDERAL SECURITIES LAWS
First Federal of Northern Michigan Bancorp, Inc. has filed with the
Securities and Exchange Commission a registration statement under the Securities
Act of 1933, as amended, for the registration of the shares of common stock to
be issued pursuant to the conversion. Upon completion of the conversion, shares
of First Federal of Northern Michigan Bancorp, Inc. common stock will be
registered with the Securities and Exchange Commission under the Securities
Exchange Act of 1934, as amended. First Federal of Northern Michigan Bancorp,
Inc. will be subject to the information, proxy solicitation, insider trading
restrictions and other requirements under the Securities Exchange Act of 1934.
The registration under the Securities Act of 1933 of shares of common
stock to be issued in the offering does not cover the resale of those shares.
Shares of common stock purchased by persons who are not affiliates of First
Federal of Northern Michigan Bancorp, Inc. may be resold without registration.
Shares purchased by an affiliate of First Federal of Northern Michigan Bancorp,
Inc. will be subject to the resale restrictions of Rule 144 under the Securities
Act of 1933. If First Federal of Northern Michigan Bancorp, Inc. meets the
current public information reporting requirements of Rule 144 under the
Securities Act of 1933, each affiliate of First Federal of Northern Michigan
Bancorp, Inc. that complies with the other conditions of Rule 144, including
those that require the affiliate's sale to be aggregated with those of other
persons, would be able to sell in the public market, without registration, a
number of shares not to exceed, in any three-month period, the greater of 1% of
the outstanding shares of First Federal of Northern Michigan Bancorp, Inc., or
the average weekly volume of trading in the shares during the preceding four
calendar weeks. In the future, First Federal of Northern Michigan Bancorp, Inc.
may permit affiliates to have their shares registered for sale under the
Securities Act of 1933.
TAXATION
FEDERAL TAXATION
GENERAL. Alpena Bancshares, Inc. and First Federal of Northern Michigan
are subject to federal income taxation in the same general manner as other
corporations, with some exceptions discussed below. The following discussion of
federal taxation is intended only to summarize material federal income tax
matters and is not a comprehensive description of the tax rules applicable to
Alpena Bancshares, Inc. and First Federal of Northern Michigan.
METHOD OF ACCOUNTING. For federal income tax purposes, First Federal of
Northern Michigan currently reports its income and expenses on the accrual
method of accounting and uses a tax year ending December 31 for filing its
consolidated federal income tax returns. The Small Business Protection Act of
1996 eliminated the use of the reserve method of accounting for bad debt
reserves by savings institutions, effective for taxable years beginning after
1995.
103
BAD DEBT RESERVES. Prior to the Small Business Protection Act of 1996,
First Federal of Northern Michigan was permitted to establish a reserve for bad
debts for tax purposes and to make annual additions to the reserve. These
additions could, within specified formula limits, be deducted in arriving at
First Federal of Northern Michigan's taxable income. As a result of the Small
Business Protection Act, First Federal of Northern Michigan must use the
specific charge off method in computing its bad debt deduction for tax purposes.
TAXABLE DISTRIBUTIONS AND RECAPTURE. Prior to the Small Business
Protection Act of 1996, bad debt reserves created prior to 1988 were subject to
recapture into taxable income if First Federal of Northern Michigan failed to
meet certain thrift asset and definitional tests. The Small Business Protection
Act of 1996 eliminated these thrift-related recapture rules. However, under
current law, pre-1988 reserves remain subject to tax recapture should First
Federal of Northern Michigan make certain distributions from its tax bad debt
reserve or cease to maintain a bank charter. At September 30, 2004, First
Federal of Northern Michigan's total federal pre-1988 reserve was approximately
$60,000. This reserve reflects the cumulative effects of federal tax deductions
by First Federal of Northern Michigan for which no federal income tax provision
has been made.
MINIMUM TAX. The Internal Revenue Code of 1986, as amended, imposes an
alternative minimum tax at a rate of 20% on a base of regular taxable income
plus certain tax preferences ("alternative minimum taxable income" or "AMTI").
The alternative minimum tax is payable to the extent such AMTI is in excess of
an exemption amount. Net operating losses can, in general, offset no more than
90% of AMTI. Certain payments of alternative minimum tax may be used as credits
against regular tax liabilities in future years. First Federal of Northern
Michigan has not been subject to the alternative minimum tax and has no such
amounts available as credits for carryover.
NET OPERATING LOSS CARRYOVERS. A financial institution may carry back
net operating losses to the preceding five taxable years (for losses incurred in
2001 and 2002) and forward to the succeeding 20 taxable years. This provision
applies to losses incurred in taxable years ending in 2001 and 2002. For net
operating losses incurred in taxable years ending after 2002, the carryback
period is reduced to two years. At September 30, 2004, First Federal of Northern
Michigan had no net operating loss carryforwards for federal income tax
purposes.
CORPORATE DIVIDENDS. We may exclude from our income 100% of dividends
received from First Federal of Northern Michigan as a member of the same
affiliated group of corporations.
Alpena Bancshares, Inc.'s federal income tax returns have not been
audited by the Internal Revenue Service in the last five fiscal years.
STATE AND LOCAL TAXATION
During 1999, the State of Michigan passed legislation that resulted in
elimination of the Michigan single business tax by gradually phasing it out over
the next 23 years. Public Act 115 reduces the single business tax rate by 0.1%
annually beginning January 1, 1999. First Federal of Northern Michigan files
Michigan Single Business Tax (SBT) returns, and in 2003 was subject to tax at a
rate equal to 1.9% of taxable income. For this purpose, "taxable income"
generally means federal taxable income, subject to certain adjustments to arrive
at an adjusted tax base. First Federal of Northern Michigan was audited by the
State of Michigan in 2001 for the tax years 1997 through 2000. No material
adjustments were found.
Other applicable state taxes include generally applicable sales, use and
real property taxes.
104
As a Maryland business corporation, First Federal of Northern Michigan
Bancorp, Inc. will be required to file annual returns and pay annual fees and an
annual franchise tax to the State of Maryland.
MANAGEMENT OF FIRST FEDERAL OF NORTHERN MICHIGAN BANCORP, INC.
SHARED MANAGEMENT STRUCTURE
The directors of First Federal of Northern Michigan Bancorp, Inc. are
those same persons who are the directors of First Federal of Northern Michigan.
In addition, each executive officer of First Federal of Northern Michigan
Bancorp, Inc. is also an executive officer of First Federal of Northern
Michigan. Both First Federal of Northern Michigan Bancorp, Inc. and First
Federal of Northern Michigan may choose to appoint additional or different
persons as directors and executive officers in the future. We expect that First
Federal of Northern Michigan Bancorp, Inc. and First Federal of Northern
Michigan will continue to have common executive officers until there is a
business reason to establish separate management structures. To date, directors
and executive officers have been compensated only for their services to First
Federal of Northern Michigan. These individuals may receive additional
compensation for their services to First Federal of Northern Michigan Bancorp,
Inc.
DIRECTORS OF FIRST FEDERAL OF NORTHERN MICHIGAN BANCORP, INC.
First Federal of Northern Michigan Bancorp, Inc.'s Board of Directors
has five members. Our bylaws provide that approximately one-third of the
directors are to be elected annually. Directors of First Federal of Northern
Michigan Bancorp, Inc. are generally elected to serve for a three-year period
and until their respective successors shall have been elected and shall qualify.
The table below sets forth certain information, as of September 30,
2004, regarding current members of our Board of Directors and executive officers
who are not directors, including the terms of office of board members.
POSITION(S) HELD WITH
FIRST FEDERAL OF NORTHERN
NAME(1) MICHIGAN BANCORP, INC. AGE DIRECTOR SINCE(2) CURRENT TERM EXPIRES
---------------------------- -------------------------------- -------- --------------------- ----------------------
DIRECTORS
James C. Rapin Chairman of the Board 64 1985 2005
Martin A. Thomson President, Chief Executive 55 1986 2005
Officer and Director
Thomas R. Townsend Director 53 2002 2006
Gary C. VanMassenhove Director 57 2001 2006
Keith D. Wallace Director 62 1988 2007
EXECUTIVE OFFICERS WHO ARE NOT DIRECTORS
Michael W. Mahler Executive Vice President 41 N/A N/A
Amy E. Essex Chief Financial Officer 41 N/A N/A
Jerome W. Tracey Senior Vice President, Senior 45 N/A N/A
Lender
(1) The mailing address for each person listed is 100 S. Second Avenue,
Alpena, Michigan 49707. Each of the persons listed is also a director of
First Federal of Northern Michigan, as well as Alpena Bancshares, M.H.C.
(2) Includes service with First Federal of Northern Michigan in mutual form.
The principal occupation during the past five years of each of our
directors and executive officers is set forth below. All directors and executive
officers have held their present positions for five years unless otherwise
stated.
105
JAMES C. RAPIN was elected as the Chairman of the Board of Directors of
Alpena Bancshares, Inc. and First Federal of Northern Michigan in March 2002. He
has been a director of First Federal of Northern Michigan since 1985, and a
director of Alpena Bancshares, Inc. since its formation in November 2000, and
had been Vice Chairman of the Board since April 2001. Mr. Rapin retired as a
pharmacist with LeFave Pharmacy, Alpena, Michigan in 2004.
MARTIN A. THOMSON was named Acting President and Chief Executive Officer
of Alpena Bancshares, Inc. and First Federal of Northern Michigan in May 2001
and later named President and Chief Executive Officer in October 2001. Mr.
Thomson previously held the position of President and Chief Executive Officer of
Presque Isle Electric and Gas Cooperative, Inc., Onaway, Michigan. Mr. Thomson
has been a director of First Federal of Northern Michigan since 1986, and a
director of Alpena Bancshares, Inc. since its formation in November 2000.
THOMAS R. TOWNSEND is the President of the R.A. Townsend Co., a
plumbing, heating and air conditioning distributor located in Alpena, Michigan,
where he has been employed for the past 27 years. Mr. Townsend has been a
director of Alpena Bancshares, Inc. and First Federal of Northern Michigan since
April 2002.
GARY C. VANMASSENHOVE is a partner in VanMassenhove, Kearly, Taphouse &
Faulman, CPAs. Mr. VanMassenhove has been a Certified Public Accountant for 33
years. He has been a director of Alpena Bancshares, Inc. and First Federal of
Northern Michigan since September 2001.
KEITH D. WALLACE is the senior partner of the law firm of Isackson and
Wallace, P.C., located in Alpena, Michigan and local counsel t o First Federal
of Northern Michigan. Mr. Wallace has been a practicing attorney for 37 years.
He has been a director of First Federal of Northern Michigan since 1988, and a
director of Alpena Bancshares, Inc. since its formation in November 2000.
MICHAEL W. MAHLER was named Executive Vice President in November 2004.
Prior to this appointment, since November 2002, Mr. Mahler was Alpena
Bancshares, Inc.'s Chief Financial Officer. From September 2000 until November
2002, Mr. Mahler was Corporate Controller at Besser Company, Alpena Michigan, an
international producer of concrete products equipment. From 1990 until 2000, Mr.
Mahler was employed at LTV Steel Company, East Chicago, Indiana where he served
in financial roles of increasing responsibility and served, from 1997 until
2000, as Controller for a northeast Michigan division.
AMY E. ESSEX was named Chief Financial Officer in November 2004. Prior
to this appointment, since March 2003, Ms. Essex was the Internal Auditor and
Compliance Officer for Alpena Bancshares, Inc.. Prior to March 2003, Ms. Essex
spent eight years as the Director of Tax and Risk for Besser Company, Alpena
Michigan, an international producer of concrete products equipment. Ms. Essex is
a certified public accountant.
JEROME W. TRACEY was named Senior Vice President, Senior Lender of
Alpena Bancshares, Inc. and First Federal of Northern Michigan in September
2001, after joining First Federal of Northern Michigan in November 1999 to serve
as Vice President of Commercial Services. Prior to joining First Federal of
Northern Michigan, Mr. Tracey served as Vice President of Commercial Lending for
National City Bank, Alpena, Michigan, a position he held since 1996. Mr. Tracey
has been in the banking profession since 1981.
106
MEETINGS AND COMMITTEES OF THE BOARD OF DIRECTORS
Regular meetings of the Board of Directors are generally held monthly,
and special meetings are held as needed. During the year ended December 31,
2003, the Board of Directors held 12 regular meetings and five special meetings.
The Board of Directors has established various committees including Executive,
Audit, Personnel and Nominating Committees.
The Executive Committee is authorized to act with the same authority as
the Board of Directors of Alpena Bancshares, Inc. between meetings of the Board,
and is comprised of the full Board. The Executive Committee met four times
during 2003.
The Audit Committee reviews the records and affairs of Alpena
Bancshares, Inc. to determine its financial condition, reviews with management
and the independent auditors the systems of internal control, and monitors
adherence in accounting and financial reporting to accounting principles
generally accepted in the United States of America. Messrs. Rapin, Townsend and
VanMassenhove, each of whom is an "independent director" within the meaning of
the Nasdaq corporate governance standards and the applicable Securities Exchange
Act rules, serve as members of this committee. The Board of Directors of Alpena
Bancshares, Inc. has determined that Director VanMassenhove, a certified public
accountant, qualifies as an "audit committee financial expert" and is serving as
such for the Audit Committee. The Audit Committee met five times during 2003.
The Personnel Committee meets periodically to review the performance of
officers and to determine compensation of officers to be recommended to the
Board. It is comprised of the full Board of Directors. The Personnel Committee
met once during 2003.
The Nominating Committee nominates individuals for election as
directors, and is comprised of Messrs. Rapin, Townsend, VanMassenhove and
Wallace. The Nominating Committee met once during 2003.
Following the conversion we intend to establish a Compensation Committee
which will review compensation matters. The Compensation Committee will replace
our current Personnel Committee and will consist of First Federal of Northern
Michigan Bancorp, Inc.'s independent directors.
DIRECTORS' COMPENSATION
DIRECTORS' FEES. Directors of First Federal of Northern Michigan
Bancorp, Inc. are not compensated for service on First Federal of Northern
Michigan Bancorp, Inc.'s Board of Directors or committees of First Federal of
Northern Michigan Bancorp, Inc.'s Board of Directors.
In 2003, each director of First Federal of Northern Michigan received a
$600 monthly meeting fee, payable only if the director attended the meeting.
Each director is paid for one excused absence. The Chairman of the Board
received $750 for each regular meeting attended, and each director received $600
for each special Board meeting attended.
In addition to the foregoing, during 2003, Messrs. Rapin, Thomson,
Wallace, VanMassenhove and Townsend received $1,400, $700, $1,100, $1,300 and
$1,300, respectively, for their services as members of First Federal of Northern
Michigan's Executive, Personnel and Audit Committees.
First Federal of Northern Michigan paid a total of $61,600 in director
and committee fees to members of the Board of Directors during the year ended
December 31, 2003.
107
RECOGNITION AND RETENTION PLAN. Alpena Bancshares, Inc. maintains a
Recognition and Retention Plan (the "Recognition and Retention Plan") first
adopted in 1996. At the inception of the Recognition and Retention Plan in 1996,
non-employee directors Rapin, Thomson, and Wallace were each granted 2,415
shares of Common Stock, which shares have been earned and issued. Messrs.
VanMassenhove and Townsend, who were appointed to the Board of Directors in
September 2001 and April 2002, respectively, have not been awarded any shares
under the Plan. See "-Benefit Plans - Recognition and Retention Plans."
EXECUTIVE COMPENSATION
The following table sets forth for the years ended December 31, 2003,
2002 and 2001, certain information as to the total remuneration paid by the Bank
or the Company to the Chief Executive Officer of the Bank and the Company (the
"Named Executive Officer"). No other executive officer of the Company received
total annual compensation in excess of $100,000 during the year ended December
31, 2003.
============================================================================================================================
SUMMARY COMPENSATION TABLE
============================================================================================================================
Long-Term
Annual Compensation Compensation Awards
------------------------------------------------------------------------- --------------------------------------------------
Years Other Restricted
Ended Annual Stock Options/ All Other
Name and December Salary Bonus Compensation Award(s) SARs Compensation
Principal Position 31, ($) (1) ($) ($) (2) ($) (#) Payouts ($) (3)
----------------------- ---------- ---------- ------------ -------------- ------------ ---------- ---------- ---------------
Martin A. Thomson 2003 $131,702 $35,067 $11,400 $-- -- $-- $--
President and Chief 2002 128,819 -- 12,700 3,506 1,000 -- 3,809
Executive Officer 2001 65,998 -- 10,200 -- -- -- --
======================= ========== ========== ============ ============== ============ ========== ========== ===============
(1) Amount shown is gross earnings.
(2) Includes fees for services on the Board of Directors and Board
Committees of First Federal of Northern Michigan and Alpena Bancshares,
Inc. First Federal of Northern Michigan also provides the Chief
Executive Officer with the use of an automobile, insurance and other
personal benefits that are not included in the Summary Compensation
Table because such benefits do not exceed $50,000 or 10% of the
officer's cash compensation for the year ended December 31, 2003.
(3) Includes a contribution to the 401(k) plan, and director fees for
service on the Board of the subsidiary, Financial Service & Mortgage
Corporation.
BENEFIT PLANS
DEFINED BENEFIT PLAN. The Bank maintains a noncontributory defined
benefit plan ("Retirement Plan"). All employees age 21 or older, who have worked
at First Federal of Northern Michigan for a period of one year and have been
credited with 1,000 or more hours of employment with First Federal of Northern
Michigan during the year, are eligible to accrue benefits under the Retirement
Plan. First Federal of Northern Michigan annually contributes an amount to the
Retirement Plan necessary to satisfy the actuarially determined minimum funding
requirements in accordance with the Employment Retirement Income Security Act of
1974, as amended ("ERISA").
At the normal retirement age of 65, the Retirement Plan is designed to
provide a life annuity. The retirement benefit provided is an amount equal to
2.5% of a participant's average salary based on the average of the five
consecutive years during the participant's years of employment which provide the
highest average annual salary multiplied by the participant's years of credited
service to the normal retirement date. Retirement benefits are also payable upon
retirement due to early and late retirement. Benefits are also paid from the
Retirement Plan upon a participant's disability or death. A reduced benefit is
payable upon early retirement at or after age 55. Upon termination of employment
other than as specified above, a participant who was employed by the Bank for a
minimum of five years is eligible to receive his or her accrued benefit reduced
for early retirement or a deferred retirement benefit commencing on such
participant's normal retirement date. Benefits are payable in various annuity
forms
108
as well as in the form of a single lump sum payment. For the year ended December
31, 2003 the Bank made contributions to the Retirement Plan of $326,807.
The following table indicates the annual retirement benefit that would
be payable under the Retirement Plan upon retirement at age 65 in plan year
2003, expressed in the form of a single life annuity for the final average
salary and benefit service classification specified below. As of December 31,
2003, Mr. Thomson had three years credited service (i.e., benefit service) with
the Bank.
======================================================================================================================
YEARS OF BENEFIT SERVICE AT RETIREMENT
----------------------------------------------------------------------------------------------------------------------
HIGH 5-YEAR
AVERAGE SALARY 10 15 20 25 30
--------------------- ------------------ ------------------- ------------------ ------------------- ------------------
$15,000 $3,750 $5,625 $7,500 $9,375 $11,250
--------------------- ------------------ ------------------- ------------------ ------------------- ------------------
$25,000 $6,250 $9,375 $12,500 $15,625 $18,750
--------------------- ------------------ ------------------- ------------------ ------------------- ------------------
$50,000 $12,500 $18,750 $25,000 $31,250 $37,500
--------------------- ------------------ ------------------- ------------------ ------------------- ------------------
$100,000 $25,000 $37,500 $50,000 $62,500 $75,000
--------------------- ------------------ ------------------- ------------------ ------------------- ------------------
$150,000 $37,500 $56,250 $75,000 $93,750 $112,500
===================== ================== =================== ================== =================== ==================
EMPLOYEE STOCK OWNERSHIP PLAN AND TRUST. The Bank has established an
Employee Stock Ownership Plan and related Trust for eligible employees. The ESOP
is a tax-qualified plan subject to the requirements of ERISA and the Internal
Revenue Code of 1986 (the "Code"). Employees with a 12-month period of
employment with the Bank during which they worked at least 1,000 hours and who
have attained age 21 are eligible to participate. The ESOP borrowed funds from
an unrelated third party lender and used the funds to purchase 48,000 shares of
the common stock issued in the Bank's initial stock offering in 1994. Collateral
for the loan was the common stock purchased by the ESOP. The loan was being
repaid principally from the Bank's contributions to the ESOP and was fully paid
during 1999.
Contributions to the ESOP and shares released from the suspense account
in an amount proportional to the repayment of the ESOP loan were allocated among
participants on the basis of compensation in the year of allocation, up to an
annual adjusted maximum level of compensation. Benefits generally become 100%
vested after five years of credited service. Forfeitures will be reallocated
among remaining participating employees in the same proportion as contributions.
Benefits are payable upon death, retirement, early retirement, disability or
separation from service. The Bank's contributions to the ESOP are not fixed, so
benefits payable under the ESOP cannot be estimated.
The Bank's Board of Directors administers the ESOP. The Bank has
appointed First Bankers Trust Company, Quincy, Illinois to serve as trustee of
the ESOP. The ESOP Committee may instruct the trustee regarding investment of
funds contributed to the ESOP. The ESOP trustee, subject to its fiduciary duty,
must vote all allocated shares held in the ESOP in accordance with the
instructions of participating employees. Under the ESOP, nondirected shares will
be voted in a manner calculated to most accurately reflect the instructions it
has received from participants regarding the allocated stock so long as such
vote is in accordance with the provisions of ERISA. At September 30, 2004, there
were no remaining unallocated shares held in the ESOP. In connection with the
offering, the ESOP intends to obtain a loan from First Federal of Northern
Michigan Bancorp, Inc. to acquire up to 8% of the offering shares (between
110,976 shares and 150,144 shares, or 172,280 shares if the offering is
increased by 15%). A portion of the net proceeds retained by First Federal of
Northern Michigan Bancorp, Inc. will be used to fund the loan to the ESOP.
109
401(K) PLAN. The Bank established a 401(k) Plan for Bank employees as of
May 1, 1999. The Plan is tax qualified and permits participants to elect to
defer up to 50% (as of January 1, 2002) of the participant's eligible annual
compensation into the Plan. During 1999, the Bank made a matching contribution
of 25% of the participant contribution to the Plan, up to 1% of the
participant's eligible annual compensation for 1999. After 1999, the Bank has
made matching contributions of 50% of the participant's contribution, with the
match being up to 3% of the participant's eligible annual compensation for the
year. All current employees at the time of the establishment of the Plan on May
1, 1999 were 100% vested in their contributions and in matching contributions.
Subsequently, new employees became 100% vested after five years of credited
service in matching contributions. However, beginning January 1, 2002 the
vesting schedule changed to be on an equally graduated basis over a five- year
period, which includes employees hired after May 1, 1999. Employees are 100%
vested in their elective deferral amounts at all times under the Plan.
Participants will be credited for years of service with the Bank prior to the
effective date of the Plan. Forfeitures of discretionary contributions will be
used to reduce the Bank's contributions in succeeding plan years. In connection
with the offering, the 401(k) Plan has been amended to permit participants to
direct the investment of their 401(k) Plan account balances. Participants will
be permitted to invest their account balances in shares of First Federal of
Northern Michigan Bancorp, Inc. in the offering through an employer stock fund
that will be established in the Plan.
STOCK OPTION PLAN. Certain employees and non-employee directors of the
Bank and the Company are eligible to participate in the Bank's 1996 Stock Option
Plan (the "Stock Option Plan"). The Stock Option Plan authorizes the grant of
stock options and limited rights to purchase 69,000 shares, or 10% of the shares
of common stock issued to minority stockholders in the initial public offering
by the Bank. Upon the formation of the Company as the Bank's holding company in
November 2000, the shares of common stock subject to the Stock Option Plan
became the shares of Common Stock of the Company. Pursuant to the Stock Option
Plan, grants may be made of (i) options to purchase Common Stock intended to
qualify as incentive stock options under Section 422 of the Code, (ii) options
that do not so qualify ("non-statutory options") and (iii) limited rights
(described below) that are exercisable only upon a change in control of the Bank
or the Company. Non-employee directors are only eligible to receive
non-statutory options.
The Stock Option Plan is administered by a committee consisting of
certain non-employee directors of the Board of Directors (the "Committee"). In
granting options, the Committee considers factors such as salary, length of
employment with the Bank, and the employee's overall performance. All stock
options are exercisable in five equal annual installments of 20% commencing one
year from the date of grant; PROVIDED, HOWEVER, that all options will be 100%
exercisable in the event the optionee terminates his service due to normal
retirement, death or disability, or in the event of a change in control of the
Company or the Bank. Options may be exercised within 10 years from the date of
grant. Stock options may be exercised up to one year following termination of
service or such later period as determined by the Committee. The exercise price
of the options will be at least 100% of the fair market value of the underlying
Common Stock at the time of the grant. The exercise price may be paid in cash or
Common Stock.
Incentive stock options will only be granted to employees of the Bank
and/or the Company. Non-employee directors will be granted non-statutory stock
options. No incentive stock option granted in connection with the Stock Option
Plan may be exercisable more than three months after the date on which the
optionee ceases to perform services for the Bank and/or the Company, except that
in the event of death, disability, normal retirement, or a change in control of
the Bank or the Company, incentive stock options may be exercisable for up to
one year; PROVIDED, HOWEVER, that if an optionee ceases to perform services for
the Bank or the Company due to retirement or following a change in control (as
defined in the
110
Stock Option Plan), any incentive stock options exercised more than three months
following the date the optionee ceases to perform services shall be treated as a
non-statutory stock option as described above.
Upon the exercise of "limited rights" in the event of a change in
control, the optionee will be entitled to receive a lump sum cash payment, or in
certain cases, Common Stock, equal to the difference between the exercise price
of the option and the fair market value of the shares of Common Stock subject to
the option on the date of exercise of the right in lieu of purchasing the stock
underlying the option. In the event of death or disability, the Bank and/or the
Company, if requested by the optionee or beneficiary, may elect, in exchange for
the option, to pay the optionee, or beneficiary in the event of death, the
amount by which the fair market value of the Common Stock exceeds the exercise
price of the option on the date of the optionee's termination of service for
death or disability.
Pursuant to the Stock Option Plan, non-employee directors at the
inception of the Plan on April 17, 1996, Rapin, Thomson, and Wallace were each
granted options to purchase 6,037 shares of Common Stock. These options were
granted at an exercise price of $10.00 per share, which options have all been
vested but not exercised. No options have been reserved for future issuance to
non-employee directors under the Plan, and therefore Messrs. VanMassenhove and
Townsend, who were appointed to the Board of Directors in September 2001 and
April 2002, respectively, have not been awarded options under the Plan. No stock
options were granted under the Stock Option Plan during the year ended December
31, 2003.
Set forth below is certain information concerning options outstanding to
the Named Executive Officer at December 31, 2003.
=====================================================================================================================
AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR AND
FISCAL YEAR-END OPTION VALUES
=====================================================================================================================
Number of Unexercised Value of Unexercised In-
Options at The-Money Options at
Year-End Year-End
--------------------------- ------------ -------------- ---------------------------- --------------------------------
Shares
Acquired
upon Value Exercisable/Unexercisable Exercisable/Unexercisable
Name Exercise Realized (#) ($)
=========================== ============ ============== ============================ ================================
Martin A. Thomson ----- $----- 6,237 / 800 $77,212 / $7,000
=========================== ============ ============== ============================ ================================
Generally, the Office of Thrift Supervision prohibits the repurchase of
common stock by an institution within one year of the completion of a
conversion, or "second-step" conversion, unless there exist extraordinary
circumstances which justify such repurchases. We have been advised by the Office
of Thrift Supervision that stock repurchases in order to fund the exercise of
stock options will generally not be considered extraordinary circumstances.
Accordingly, to the extent that holders of stock options choose to exercise
options within one year of completion of the conversion and offering, we will
likely fund any such exercises through the issuance of authorized but unissued
common stock, which would have a dilutive effect on existing shareholders.
RECOGNITION AND RETENTION PLAN. Certain employees and non-employee
directors of the Bank and the Company are eligible to participate in the Bank's
Recognition and Retention Plan, which was adopted in 1996 (the "Recognition
Plan"). A Committee of the Board of Directors composed of "disinterested"
directors (the "Recognition Plan Committee") administers the Recognition Plan
and makes awards to executive officers and employees. Participants in the
Recognition Plan earn (become vested in) shares of Restricted Stock covered by
an award and all restrictions lapse over a period of time commencing from the
date of the award; PROVIDED, HOWEVER, that the Recognition Plan Committee may
111
accelerate or extend the earnings rate on any awards made to officers and
employees under the Recognition Plan. Awards to non-employee directors vest at
the rate of 20% of the amount initially awarded commencing one year from the
date of the award. Awards to executive officers and employees become fully
vested upon termination of employment or service due to death, disability or
normal retirement or following a termination of employment or service in
connection with a change in the control of the Bank or the Company. Upon
termination of employment or service for another reason, unvested shares are
forfeited. Awards to non-employee directors fully vest upon a non-employee
director's disability, death, normal retirement, or following termination of
service in connection with a change in control of the Bank or the Company.
Unvested shares of Restricted Stock will be forfeited by a non-employee director
upon failure to seek reelection, failure to be reelected, or resignation from
the Board (other than in connection with normal retirement, as defined by the
Recognition Plan). See "-Directors' Compensation - Recognition and Retention
Plan."
Set forth below is information as of December 31, 2003 regarding equity
compensation plans categorized by those plans that have been approved by
stockholders and those plans that have not been approved by stockholders.
---------------------------------- -------------------------------- --------------------- ----------------------------
Plan Number of securities to be Number of securities
issued upon exercise of Weighted average remaining available for
outstanding options and rights exercise price issuance under plan
---------------------------------- -------------------------------- --------------------- ----------------------------
Equity compensation plans
approved by stockholders 29,011 $10.57 20,109 (1)
---------------------------------- -------------------------------- --------------------- ----------------------------
Equity compensation plans not
approved by stockholders -- -- --
---------------------------------- -------------------------------- --------------------- ----------------------------
Total 29,011 20,109
---------------------------------- -------------------------------- --------------------- ----------------------------
(1) Consists of 42 shares available for future issuance pursuant to the 1996
Recognition and Retention Plan and 20,067 shares underlying options
available for future issuance pursuant to the 1996 Stock Option Plan.
CHANGE IN CONTROL AGREEMENTS. First Federal of Northern Michigan intends
to enter into change in control agreements with Martin A. Thomson, President and
Chief Executive Officer , and Michael W. Mahler, Executive Vice President, which
would provide certain benefits in the event of a change in control of First
Federal of Northern Michigan or Alpena Bancshares Inc. Each of the change in
control agreements provides for a term of up to 36 months. Commencing on each
anniversary date, the Board of Directors may extend the change in control
agreements for an additional year. The change in control agreements enable First
Federal of Northern Michigan to offer to designated officers certain protections
against termination without cause in the event of a change in control (as
defined in the agreements). These protections against termination without cause
in the event of a change in control are frequently offered by other financial
institutions, and First Federal of Northern Michigan may be at a competitive
disadvantage in attracting and retaining key employees if it does not offer
similar protections.
Following a change in control of First Federal of Northern Michigan
Bancorp, Inc. or First Federal of Northern Michigan, an officer is entitled to a
payment under the change in control agreement if the officer's employment is
involuntarily terminated during the term of such agreement, other than for
cause, as defined, death or disability. Involuntary termination includes the
officer's termination of employment during the term of the agreement and
following a change in control as the result of a demotion, loss of title, office
or significant authority, reduction in the officer's annual compensation or
benefits, or relocation of the officer's principal place of employment by more
than 25 miles from its location immediately prior to the change in control. In
addition, for the first 12 months following a change in control, if First
Fedreral of Northern Michigan (or its successor) fails to renew the change in
control agreement, the executive can voluntarily resign and receive the
severance payment . In the event that an officer who is a party to a change in
control agreement is entitled to receive payments pursuant to the change in
control agreement, the officer will receive a cash payment up to a maximum of
two times
112
the sum of base salary and highest rate of bonuses awarded to the officer over
the prior three years, subject to applicable withholding taxes. Under the
proposed change in control agreements, Messrs. Thomson and Mahler would receive
an aggregate of $866,000 upon a change in control, based upon current levels of
compensation. In addition to the severance payment, each covered officer is
entitled to receive life, medical and dental coverage for a period of up to24
months from the date of termination, as well as a lump-sum payment equal to the
excess, if any, of (a) the present value of benefits to which the officer would
be entitled under First Federal of Northern Michigan, defined benefit plan if
the officer had the additional years of service that he would have had if he had
continued working for First Federal of Northern Michigan for 24 months following
his termination, over (b) the present value of the benefits to which the officer
is actually entitled under First Federal of Northern Michigan's defined benefit
plan as of the date of his termination. Notwithstanding any provision to the
contrary in the change in control agreement, payments under the change in
control agreements are limited so that they will not constitute an excess
parachute payment under Section 280G of the Internal Revenue Code.
TRANSACTIONS WITH CERTAIN RELATED PERSONS
In the ordinary course of business, First Federal of Northern Michigan
makes loans available to its directors, officers and employees. These loans are
made in the ordinary course of business on substantially the same terms
(including interest rate), including collateral, as comparable loans to other
borrowers. Management believes that these loans neither involve more than the
normal risk of collectibility nor present other unfavorable features. Federal
regulations permit executive officers and directors to participate in loan
programs that are available to other employees, as long as the director or
executive officer is not given preferential treatment compared to other
participating employees. Loans made to directors or executive officers,
including any modification of such loans, must be approved by a majority of
disinterested members of the Board of Directors. The interest rate on loans to
directors and officers is the same as that offered to other employees.
Indemnification of DIRECTORS and Officers
The officers, directors, agents and employees of First Federal of
Northern Michigan Bancorp, Inc. are indemnified with respect to certain actions
pursuant to First Federal of Northern Michigan Bancorp, Inc.'s Maryland articles
of incorporation and Maryland law. Maryland law allows First Federal of Northern
Michigan Bancorp, Inc. to indemnify any person for expenses, liabilities,
settlements, judgments and fines in suits in which such person has been made a
party by reason of the fact that he or she is or was a director, officer or
employee of First Federal of Northern Michigan Bancorp, Inc. No such
indemnification may be given(i) to the extent that it is proved that the person
actually received an improper benefit or profit in money, property or services
for the amount of the benefit or profit in money, property or services actually
received; (ii) to the extent that a judgment or other final adjudication adverse
to the person is entered in a proceeding based on a finding in the proceeding
that the person's action, or failure to act, was the result of active and
deliberate dishonesty and was material to the cause of action adjudicated in the
proceeding; or (iii) to the extent otherwise provided by Maryland law. The right
to indemnification includes the right to be paid the expenses incurred in
advance of final disposition of a proceeding.
Insofar as indemnification for liabilities arising under the Securities
Act of 1933 may be permitted to our directors, officers and controlling persons
by our bylaws or otherwise, we have been advised that, in the opinion of the
Securities and Exchange Commission, such indemnification is against public
policy as expressed in the Securities Act of 1933 and is, therefore,
unenforceable.
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BENEFITS TO BE CONSIDERED FOLLOWING COMPLETION OF THE CONVERSION
STOCK OPTION PLAN. We intend to request stockholder approval of a stock
option plan no earlier than six months after the completion of the conversion.
If approved by stockholders, the new stock option plan, if implemented within
one year of the conversion, would reserve an amount equal to 10% of the shares
of common stock sold in the offering (including shares issued to the charitable
foundation) for issuance upon exercise of stock options. If the stock option
plan is implemented more than one year after the conversion, the number of
shares reserved under the plan may exceed ten percent of the shares of common
stock sold in the stock offering (including shares issued to the foundation).
Ten percent of the shares of common stock issued in the offering (including
shares issued to the foundation) would amount to 138,720 shares, 163,200 shares,
187,680 shares and 215,350 shares at the minimum, midpoint, maximum and adjusted
maximum of the offering range, respectively. No options would be granted under
the new stock option plan until stockholder approval of the plan is received. In
the event that shares underlying options come from authorized but unissued
shares of common stock, stockholders would experience dilution of approximately
5.3% of their ownership interest in First Federal of Northern Michigan Bancorp,
Inc. at the midpoint of the offering range.
The exercise price of the options granted under the new stock option
plan will be equal to the fair market value of First Federal of Northern
Michigan Bancorp, Inc. common stock on the date of grant of the stock options.
If the stock option plan is adopted within one year following the conversion,
options may vest no faster than 20% per year beginning 12 months after the date
of grant. Options granted under the stock option plan would be adjusted for
capital changes such as stock splits and stock dividends. Awards will be 100%
vested upon termination of employment due to death, disability or following a
change in control, and if the stock option plan is adopted more than one year
after the conversion, awards would be 100% vested upon normal retirement. Under
Office of Thrift Supervision rules, if the stock option plan is adopted within
one year of the conversion, no individual officer may receive more than 25% of
the awards under the plan, no non-employee director may receive more than 5% of
the awards under the plan, and all non-employee directors as a group may receive
in the aggregate no more than 30% of the awards under the plan.
The stock option plan would be administered by a committee of
non-employee members of First Federal of Northern Michigan Bancorp, Inc.'s Board
of Directors. Options granted under the stock option plan to employees may be
"incentive" stock options, which are designed to result in a beneficial tax
treatment to the employee but no tax deduction to First Federal of Northern
Michigan Bancorp, Inc. Non-qualified stock options may also be granted to
employees under the stock option plan, and will be granted to the non-employee
directors who receive stock options. In the event an option recipient terminated
his or her employment or service as an employee or director, the options would
terminate during certain specified periods.
STOCK RECOGNITION AND RETENTION PLAN. We intend to request stockholder
approval of a new stock recognition and retention plan, no earlier than six
months after the completion of the conversion. If approved by stockholders, the
new stock recognition and retention plan would, if implemented within one year
of conversion, reserve an amount equal to 4% of the shares of common stock sold
in the offering (including shares issued to the foundation), or 55,488 shares,
65,280 shares, 75,072 shares and 86,140 shares at the minimum, midpoint, maximum
and adjusted maximum of the offering range, respectively. If the stock
recognition and retention plan is implemented more than one year after the
completion of the conversion, the number of shares reserved under the plan may
exceed 4% of the shares of common stock sold in the offering (including shares
issued to the charitable foundation). We must recognize an expense for shares of
common stock awarded over their vesting period at the fair market value of the
shares on the date they are awarded. The recipients will be awarded shares of
common stock under the stock recognition and retention plan at no cost to them.
No awards would be made under the stock recognition
114
and retention plan until the plan is approved by stockholders. If the shares
awarded under the stock recognition and retention plan come from authorized but
unissued shares of the common stock totaling 4% of the shares sold in the
offering, stockholders would experience dilution of approximately 2.2% in their
ownership interest in First Federal of Northern Michigan Bancorp, Inc. at the
midpoint of the offering range.
Awards granted under the stock recognition and retention plan would be
nontransferable and nonassignable. Under Office of Thrift Supervision
regulations, if the stock recognition and retention plan is adopted within one
year following the conversion, the shares of common stock which are subject to
an award may vest no faster than 20% per year beginning 12 months after the date
of grant of the award. Awards would be adjusted for capital changes such as
stock dividends and stock splits. Awards would be 100% vested upon termination
of employment or service due to death, disability, or following a change in
control, and if the stock recognition and retention plan is adopted more than
one year after the conversion, awards also would be 100% vested upon normal
retirement. If employment or service were to terminate for other reasons, the
award recipient would forfeit any unvested award. If employment or service were
to terminate for cause (as defined), unvested shares would be forfeited. Under
Office of Thrift Supervision rules, if the stock recognition and retention plan
is adopted within one year of the conversion, no individual officer may receive
more than 25% of the awards under the plan, no non-employee director may receive
more than 5% of the awards under the plan, and all non-employee directors as a
group may receive no more than 30% of the awards under the plan in the
aggregate.
The recipient of an award will recognize income equal to the fair market
value of the stock earned, determined as of the date of vesting, unless the
recipient makes an election under Section 83(b) of the Internal Revenue Code of
1986, as amended, to be taxed earlier. The amount of income recognized by the
recipient would be a deductible expense for tax purposes for First Federal of
Northern Michigan Bancorp, Inc.
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BENEFICIAL OWNERSHIP OF COMMON STOCK
The following table provides the beneficial ownership of our common
stock held by our directors and executive officers, individually and as a group,
and all individuals known to management to own more than 5% of our common stock
as of September 30, 2004. The business address of each director and executive
officer is 100 South Second Avenue, Alpena, Michigan 49707.
NUMBER OF SHARES OF COMMON PERCENT OF ALL COMMON
NAME OF BENEFICIAL OWNER STOCK BENEFICIALLY OWNED (1) STOCK OUTSTANDING
------------------------------------------------------ ------------------------------ ------------------------
James C. Rapin 14,401 0.86%
Martin A. Thomson 19,058 1.14%
Thomas R. Townsend 3,037 0.18%
Gary C. VanMassenhove 1,250 0.08%
Keith D. Wallace 13,752 0.83%
Michael W. Mahler --- 0.0%
Amy E. Essex --- 0.0%
Jerome W. Tracey 897 0.05%
All directors and executive officers as a group (8
persons) 52,395 3.2%
Alpena Bancshares, M.H.C.
-----------------------------------------------------
100 South Second Avenue, Alpena, Michigan 49707 920,000 55.4%
Alpena Bancshares, M.H.C. and all directors and
executive officers as a group 972,395 58.6%
=======
* Less than 1%.
(1) In accordance with Rule 13d-3 under the Securities Exchange Act of 1934,
a person is deemed to be the beneficial owner for purposes of this table
of any shares of common stock if he has sole or shared voting or
investment power with respect to such security, or has a right to
acquire beneficial ownership at any time within 60 days from the date as
of which beneficial ownership is being determined. As used herein,
"voting power" is the power to vote or direct the voting of shares and
"investment power" is the power to dispose or direct the disposition of
shares.
SUBSCRIPTIONS BY DIRECTORS AND EXECUTIVE OFFICERS
The table below sets forth, for each of First Federal of Northern
Michigan Bancorp, Inc.'s directors and executive officers and for all of the
directors and executive officers as a group, the following information:
(i) the number of exchange shares to be held upon consummation of
the conversion, based upon their beneficial ownership of Alpena
Bancshares, Inc. common stock as of September 30, 2004;
(ii) the proposed purchases of subscription shares, assuming
sufficient shares of common stock are available to satisfy their
subscriptions; and
(iii) the total amount of First Federal of Northern Michigan Bancorp,
Inc. common stock to be held upon consummation of the
conversion.
In each case, it is assumed that subscription shares are sold at the
midpoint of the offering range. See "The Conversion--Limitations on Common Stock
Purchases." Regulations of the Office of Thrift Supervision prohibit our
directors and officers from selling the shares they purchase in the offering for
one year after the date of purchase.
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PROPOSED PURCHASES OF STOCK
IN THE OFFERING (1) TOTAL COMMON STOCK TO BE HELD
---------------------------- ----------------------------------
NUMBER OF PERCENTAGE OF
EXCHANGE SHARES TO NUMBER OF NUMBER OF TOTAL
NAME OF BENEFICIAL OWNER BE HELD (2) SHARES AMOUNT SHARES OUTSTANDING (3)
---------------------------- ------------------ ------------- ------------ --------------- -----------------
James C. Rapin 25,044 1,500 $ 15,000 26,544 *
Martin A. Thomson 33,143 10,000 100,000 43,143 1.5
Thomas R. Townsend 5,281 2,500 25,000 7,781 *
Gary C. VanMassenhove 2,173 2,500 25,000 4,673 *
Keith D. Wallace 23,916 2,500 25,000 26,416 *
------ ----- ---------- ------
Total 89,557 19,000 190,000 108,557 3.7
------ ------ ---------- ------- ---
Michael W. Mahler --- 2,500 25,000 2,500 *
Amy E. Essex --- 2,500 25,000 2,500 *
Jerome W. Tracey 1,559 6,000 60,000 7,559 *
------ ----- ---------- ------
Total 1,559 11,000 110,000 12,559 *
------ ----- ---------- ------
Total for Directors
and Executive
Officers 91,116 30,000 $ 300,000 121,116 4.1%
====== ====== ========== ======= ---
-----------------------------
* Less than 1%.
(1) Includes proposed subscriptions, if any, by associates.
(2) Based on information presented in "Beneficial Ownership of Common
Stock."
(3) Based upon total shares outstanding at the midpoint of the offering
range (2,917,530 shares).
THE CONVERSION
The Boards of Directors of Alpena Bancshares, Inc. and Alpena
Bancshares, M.H.C. have approved the plan of conversion and reorganization. The
plan of conversion and reorganization must also be approved by the members of
Alpena Bancshares, M.H.C. (depositors and certain borrowers of First Federal of
Northern Michigan) and the stockholders of Alpena Bancshares, Inc. A special
meeting of members and a special meeting of stockholders have been called for
this purpose. The Office of Thrift Supervision has conditionally approved the
plan of conversion and reorganization; however, such approval does not
constitute a recommendation or endorsement of the plan of conversion and
reorganization by that agency.
GENERAL
The respective Boards of Directors of Alpena Bancshares, M.H.C. and
Alpena Bancshares, Inc. adopted the plan of conversion and reorganization on
November 12, 2004. The plan of conversion and reorganization was amended on
December 7, 2004. Pursuant to the plan of conversion and reorganization, our
organization will convert from the mutual holding company form of organization
to the fully stock form. Alpena Bancshares, M.H.C., the mutual holding company
parent of Alpena Bancshares, Inc., will be merged into First Federal of Northern
Michigan, and Alpena Bancshares, M.H.C. will no longer exist. Alpena Bancshares,
Inc. which owns 100% of First Federal of Northern Michigan, will be succeeded by
a new Maryland corporation named First Federal of Northern Michigan Bancorp,
Inc. As part of the conversion, the ownership interest of Alpena Bancshares,
M.H.C. will be offered for sale in the stock offering. When the conversion is
completed, all of the outstanding common stock of First Federal of Northern
Michigan will be owned by First Federal of Northern Michigan Bancorp, Inc., our
newly formed Maryland holding company, and all of the outstanding common stock
of First Federal of Northern Michigan Bancorp, Inc. will be owned by public
stockholders, including a private charitable foundation which we are
establishing in connection with the conversion and to which we will contribute
up to 37,500 shares of our common stock and up to $375,000 in cash. A diagram of
our corporate structure before and after the conversion is set forth in the
Summary of this Prospectus.
117
Under the plan of conversion and reorganization, at the conclusion of
the conversion and offering, each share of Alpena Bancshares, Inc. common stock
owned by persons other than Alpena Bancshares, M.H.C. will be converted
automatically into the right to receive new shares of First Federal of Northern
Michigan Bancorp, Inc. common stock determined pursuant to an exchange ratio.
The exchange ratio will ensure that immediately after the exchange of existing
shares of Alpena Bancshares, Inc. for new shares, the public stockholders will
own the same aggregate percentage of shares of common stock of First Federal of
Northern Michigan Bancorp, Inc. that they owned in Alpena Bancshares, Inc.
immediately prior to the conversion, excluding any shares they purchased in the
offering and cash paid in lieu of fractional shares.
First Federal of Northern Michigan Bancorp, Inc. intends to retain
between $2.6 million and $6.7 million of the net proceeds of the offering and to
contribute the balance of the net proceeds to First Federal of Northern
Michigan. The conversion will be consummated only upon the issuance of at least
the minimum number of shares of our common stock offered pursuant to the plan of
conversion and reorganization.
The plan of conversion and reorganization provides that we will offer
shares of common stock for sale in the subscription offering to eligible account
holders, our employee stock ownership plan, supplemental eligible account
holders and other members. If all shares are not subscribed for in the
subscription offering, we may, at our discretion, offer common stock for sale in
a community offering to members of the general public, with a preference given
in the following order:
(i) Natural persons residing in the Michigan counties of Alpena,
Alcona, Antrim, Charlevoix, Cheboygan, Crawford, Emmet, Iosco,
Kalkaska, Montmorency, Ogemaw, Oscoda, Otsego and Presque Isle;
and
(ii) Alpena Bancshares, Inc.'s public stockholders as of February 3,
2005.
We have the right to accept or reject, in whole or in part, any orders
to purchase shares of the common stock received in the community offering. The
community offering, if any, may begin at the same time as, during, or after the
subscription offering and must be completed within 45 days after the completion
of the subscription offering unless otherwise extended by the Office of Thrift
Supervision. See "--Community Offering."
We determined the number of shares of common stock to be offered in the
offering based upon an independent valuation appraisal of the estimated pro
forma market value of First Federal of Northern Michigan Bancorp, Inc. All
shares of common stock to be sold in the offering will be sold at $10.00 per
share. Investors will not be charged a commission to purchase shares of common
stock. The independent valuation will be updated and the final number of the
shares of common stock to be issued in the offering will be determined at the
completion of the offering. See "--Stock Pricing and Number of Shares to be
Issued" for more information as to the determination of the estimated pro forma
market value of the common stock.
The following is a brief summary of the conversion and is qualified in
its entirety by reference to the provisions of the plan of conversion and
reorganization. A copy of the plan of conversion and reorganization is available
for inspection at each branch office of First Federal of Northern Michigan and
at the Southeast Regional and the Washington, D.C. offices of the Office of
Thrift Supervision. The plan of conversion and reorganization is also filed as
an exhibit to Alpena Bancshares, M.H.C.'s application to convert from mutual to
stock form of which this Prospectus is a part, copies of which may be obtained
from the Office of Thrift Supervision. See "Where You Can Find Additional
Information."
118
REASONS FOR THE CONVERSION
The primary reasons for the conversion and related stock offering are:
o to facilitate growth through branch and whole bank acquisitions
as opportunities arise;
o to support internal growth through lending in the communities we
serve;
o to enhance existing products and services and support the
development of new products and services;
o to improve our overall competitive position; and
o to improve the liquidity of our shares of common stock and
enhance stockholder returns through higher earnings and more
flexible capital management strategies.
As a fully converted stock holding company, we will have greater
flexibility in structuring further mergers and acquisitions, including the form
of consideration that we can use to pay for an acquisition. Our current mutual
holding company structure and our relatively small asset size limit our ability
to offer shares of our common stock as consideration for a merger or acquisition
since Alpena Bancshares, M.H.C. is required to own a majority of our shares of
common stock. Potential sellers often want stock for at least part of the
purchase price. Our new stock holding company structure will enable us to offer
stock or cash consideration, or a combination of stock and cash, and will
therefore enhance our ability to compete with other bidders when acquisition
opportunities arise. We do not currently have any agreement or understanding as
to any specific acquisition.
APPROVALS REQUIRED
The affirmative vote of a majority of the total eligible votes of the
members of Alpena Bancshares, M.H.C. is required to approve the plan of
conversion and reorganization. By their approval of the plan of conversion and
reorganization, the members of Alpena Bancshares, M.H.C. will also be approving
the merger of Alpena Bancshares, M.H.C. into First Federal of Northern Michigan.
The affirmative vote of the holders of at least two-thirds of the outstanding
shares of common stock of Alpena Bancshares, Inc. and the affirmative vote of
the holders of a majority of the outstanding shares of common stock of Alpena
Bancshares, Inc. held by the public stockholders of Alpena Bancshares, Inc. are
also required to approve the plan of conversion and reorganization. The plan of
conversion and reorganization also must be approved by the Office of Thrift
Supervision, which has given its conditional approval.
SHARE EXCHANGE RATIO FOR CURRENT STOCKHOLDERS
Office of Thrift Supervision regulations provide that in a conversion of
a mutual holding company to fully stock form, the public stockholders will be
entitled to exchange their shares for common stock of the new holding company,
provided that the mutual holding company demonstrates to the satisfaction of the
Office of Thrift Supervision that the basis for the exchange is fair and
reasonable. Each publicly held share of Alpena Bancshares, Inc. common stock
will, on the effective date of the conversion, be automatically converted into
the right to receive a number of new shares of First Federal of Northern
Michigan Bancorp, Inc. common stock. The number of new shares of common stock
will be determined pursuant to the exchange ratio, which ensures that the public
stockholders will own the same percentage of common stock in First Federal of
Northern Michigan Bancorp, Inc. after the conversion as they held in Alpena
Bancshares, Inc. immediately prior to the conversion, exclusive of their
purchase of
119
additional shares of common stock in the offering and their receipt of cash in
lieu of fractional exchange shares. The exchange ratio is not dependent on the
market value of First Federal of Northern Michigan Bancorp, Inc. common stock.
The exchange ratio is based on the percentage of Alpena Bancshares, Inc. common
stock held by the public, the independent valuation of First Federal of Northern
Michigan Bancorp, Inc. prepared by RP Financial and the number of shares of
common stock issued in the offering. The exchange ratio is expected to range
from approximately 1.4783 exchange shares for each publicly held share of Alpena
Bancshares, Inc. at the minimum of the offering range to 2.3000 exchange shares
for each publicly held share of Alpena Bancshares, Inc. at the adjusted maximum
of the offering range.
If you are currently a stockholder of Alpena Bancshares, Inc., your
existing shares will be canceled and exchanged for shares of First Federal of
Northern Michigan Bancorp, Inc. The number of shares you receive will be based
on the final exchange ratio determined as of the closing of the conversion.
The following table shows how the exchange ratio will adjust, based on
the number of shares of common stock issued in the offering. The table also
shows how many shares of First Federal of Northern Michigan Bancorp, Inc. a
hypothetical owner of Alpena Bancshares, Inc. common stock would receive in the
exchange for 100 shares owned at the consummation of the conversion.
NEW SHARES TO BE
EXCHANGED FOR EXISTING TOTAL SHARES OF NEW SHARES TO
NEW SHARES TO BE ISSUED IN SHARES OF ALPENA COMMON STOCK TO BE RECEIVED
THIS OFFERING(1) BANCSHARES, INC. BE ISSUED IN FOR 100
--------------------------- ------------------------ CONVERSION AND EXCHANGE EXISTING
AMOUNT PERCENT AMOUNT PERCENT OFFERING(1) RATIO SHARES
-------------- ----------- ---------- ----------- ---------------- ---------- ---------------
Minimum.............. 1,360,000 55.4% 1,092,701 44.6% 2,479,901 1.4783 147
Midpoint............. 1,600,000 55.4 1,285,530 44.6 2,917,530 1.7391 173
Maximum.............. 1,840,000 55.4 1,478,360 44.6 3,355,160 2.0000 200
15% above Maximum.... 2,116,000 55.4 1,700,113 44.6 3,853,613 2.3000 230
---------------------------
(1) Does not include 27,200, 32,000, 36,800 and 37,500 shares to be issued
to the charitable foundation at the minimum, midpoint, maximum and adjusted
maximum of the offering range, respectively.
EFFECTS OF CONVERSION ON DEPOSITORS, BORROWERS AND MEMBERS
CONTINUITY. While the conversion is being accomplished, the normal
business of First Federal of Northern Michigan of accepting deposits and making
loans will continue without interruption. First Federal of Northern Michigan
will continue to be a federally chartered savings bank and will continue to be
regulated by the Office of Thrift Supervision. After the conversion, First
Federal of Northern Michigan will continue to offer existing services to
depositors, borrowers and other customers. The directors serving Alpena
Bancshares, Inc. at the time of the conversion will be the directors of First
Federal of Northern Michigan Bancorp, Inc. after the conversion.
EFFECT ON DEPOSIT ACCOUNTS. Pursuant to the plan of conversion and
reorganization, each depositor of First Federal of Northern Michigan at the time
of the conversion will automatically continue as a depositor after the
conversion, and the deposit balance, interest rate and other terms of such
deposit accounts will not change as a result of the conversion. Each such
account will be insured by the Federal Deposit Insurance Corporation to the same
extent as before the conversion. Depositors will continue to hold their existing
certificates, passbooks and other evidences of their accounts.
EFFECT ON LOANS. No loan outstanding from First Federal of Northern
Michigan will be affected by the conversion, and the amount, interest rate,
maturity and security for each loan will remain as it was contractually fixed
prior to the conversion.
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EFFECT ON VOTING RIGHTS OF MEMBERS. At present, all depositors and
certain borrowers of First Federal of Northern Michigan are members of, and have
voting rights in, Alpena Bancshares, M.H.C. as to all matters requiring
membership action. Upon completion of the conversion, depositors and qualifying
borrowers will cease to be members of Alpena Bancshares, M.H.C. and will no
longer have voting rights. Upon completion of the conversion, all voting rights
in First Federal of Northern Michigan will be vested in First Federal of
Northern Michigan Bancorp, Inc. as the sole stockholder of First Federal of
Northern Michigan. The stockholders of First Federal of Northern Michigan
Bancorp, Inc. will possess exclusive voting rights with respect to First Federal
of Northern Michigan Bancorp, Inc. common stock.
TAX EFFECTS. We will receive an opinion of counsel or tax advisor with
regard to federal and state income tax consequences of the conversion to the
effect that the conversion will not be taxable for federal or state income tax
purposes to Alpena Bancshares, M.H.C., Alpena Bancshares, Inc., the public
stockholders of Alpena Bancshares, Inc., members of Alpena Bancshares, M.H.C.,
eligible account holders, supplemental eligible account holders, or First
Federal of Northern Michigan. See "--Material Income Tax Consequences."
EFFECT ON LIQUIDATION RIGHTS. Each depositor in First Federal of
Northern Michigan has both a deposit account in First Federal of Northern
Michigan and a pro rata ownership interest in the net worth of Alpena
Bancshares, M.H.C. based upon the deposit balance in his or her account. This
ownership interest is tied to the depositor's account and has no tangible market
value separate from the deposit account. This interest may only be realized in
the event of a complete liquidation of Alpena Bancshares, M.H.C. and First
Federal of Northern Michigan. Any depositor who opens a deposit account obtains
a pro rata ownership interest in Alpena Bancshares, M.H.C. without any
additional payment beyond the amount of the deposit. A depositor who reduces or
closes his or her account receives a portion or all of the balance in the
deposit account but nothing for his or her ownership interest in the net worth
of Alpena Bancshares, M.H.C., which is lost to the extent that the balance in
the account is reduced or closed.
Consequently, depositors in a stock subsidiary of a mutual holding
company normally have no way of realizing the value of their ownership interest,
which has realizable value only in the unlikely event that Alpena Bancshares,
M.H.C. and First Federal of Northern Michigan are liquidated. If this occurs,
the depositors of record at that time, as owners, would share pro rata in any
residual surplus and reserves of Alpena Bancshares, M.H.C. after other claims,
including claims of depositors to the amounts of their deposits, are paid.
In the unlikely event that First Federal of Northern Michigan were to
liquidate after the conversion, all claims of creditors, including those of
depositors, would be paid first, followed by distribution of the "liquidation
account" to depositors as of October 31, 2003 and December 31, 2004 who continue
to maintain their deposit accounts as of the date of liquidation, with any
assets remaining thereafter distributed to First Federal of Northern Michigan
Bancorp, Inc. as the holder of First Federal of Northern Michigan's capital
stock. Pursuant to the rules and regulations of the Office of Thrift
Supervision, a post-conversion merger, consolidation, sale of bulk assets or
similar combination or transaction with another insured savings institution
would not be considered a liquidation and, in such a transaction, the
liquidation account would be assumed by the surviving institution. See
"--Liquidation Rights."
STOCK PRICING AND NUMBER OF SHARES TO BE ISSUED
The plan of conversion and reorganization and federal regulations
require that the aggregate purchase price of the common stock sold in the
offering must be based on the appraised pro forma market value of the common
stock, as determined by an independent valuation. First Federal of Northern
Michigan and Alpena Bancshares, Inc. have retained RP Financial to prepare an
independent valuation
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appraisal. For its services in preparing the initial valuation, RP Financial
will receive a fee of $27,500 and $6,500 for expenses. First Federal of Northern
Michigan and Alpena Bancshares, Inc. have agreed to indemnify RP Financial and
its employees and affiliates against specified losses, including any losses in
connection with claims under the federal securities laws, arising out of its
services as independent appraiser, except where such liability results from its
negligence or bad faith.
The independent valuation appraisal considered the pro forma impact of
the offering. Consistent with the Office of Thrift Supervision appraisal
guidelines, the appraisal applied three primary methodologies: the pro forma
price-to-book value approach applied to both reported book value and tangible
book value; the pro forma price-to-earnings approach applied to reported and
core earnings; and the pro forma price-to-assets approach. The market value
ratios applied in the three methodologies were based upon the current market
valuations of the peer group companies, subject to valuation adjustments applied
by RP Financial to account for differences between Alpena Bancshares, Inc. and
the peer group. RP Financial placed the greatest emphasis on the
price-to-earnings and price-to-book approaches in estimating pro forma market
value.
The independent valuation was prepared by RP Financial in reliance upon
the information contained in this Prospectus, including the consolidated
financial statements of Alpena Bancshares, Inc. RP Financial also considered the
following factors, among others:
o the present results and financial condition of Alpena
Bancshares, Inc. and the projected results and financial
condition of First Federal of Northern Michigan Bancorp, Inc.;
o the economic and demographic conditions in Alpena Bancshares,
Inc.'s existing market area;
o certain historical, financial and other information relating to
Alpena Bancshares, Inc.;
o a comparative evaluation of the operating and financial
characteristics of Alpena Bancshares, Inc. with those of other
similarly situated publicly traded savings institutions located
in the State of Michigan, and other states in the Midwest United
States;
o the aggregate size of the offering of the shares of common
stock;
o the impact of the conversion and offering on Alpena Bancshares,
Inc.'s stockholders' equity and earnings potential;
o the proposed dividend policy of First Federal of Northern
Michigan Bancorp, Inc.;
o the trading market for securities of comparable institutions and
general conditions in the market for such securities; and
o the contribution of shares to the charitable foundation.
Included in RP Financial's independent valuation were certain
assumptions as to the pro forma earnings of First Federal of Northern Michigan
Bancorp, Inc. after the conversion that were utilized in determining the
appraised value. These assumptions included estimated expenses, an assumed
after-tax rate of return on the net offering proceeds and purchases in the open
market of 4% of the common stock issued in the offering by the recognition and
retention plan at the $10.00 per share purchase price. See
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"Pro Forma Data" for additional information concerning these assumptions. The
use of different assumptions may yield different results.
The independent valuation states that as of November 26, 2004, the
estimated pro forma market value, or valuation range, of First Federal of
Northern Michigan Bancorp, Inc. ranged from a minimum of $24,799,010 to a
maximum of $33,551,600, with a midpoint of $29,175,300. The Board of Directors
of First Federal of Northern Michigan Bancorp, Inc. decided to offer the shares
of common stock for a price of $10.00 per share. The aggregate offering price of
the shares will be equal to the valuation range multiplied by the percentage of
Alpena Bancshares, Inc. common stock owned by Alpena Bancshares, M.H.C. The
number of shares offered will be equal to the aggregate offering price of the
shares divided by the price per share. Based on the valuation range, the
percentage of Alpena Bancshares, Inc. common stock owned by Alpena Bancshares,
M.H.C. and the $10.00 price per share, the minimum of the offering range
excluding the shares issued to the foundation will be 1,360,000 shares, the
midpoint of the offering range will be 1,600,000 shares and the maximum of the
offering range will be 1,840,000 shares.
The Board of Directors of First Federal of Northern Michigan Bancorp,
Inc. reviewed the independent valuation and, in particular, considered the
following:
o Alpena Bancshares, Inc.'s financial condition and results of
operations;
o comparison of financial performance ratios of Alpena Bancshares,
Inc. to those of other financial institutions of similar size;
o market conditions generally and in particular for financial
institutions; and
o the historical trading price of the publicly held shares of
Alpena Bancshares, Inc. common stock.
All of these factors are set forth in the independent valuation. The
Board of Directors also reviewed the methodology and the assumptions used by RP
Financial in preparing the independent valuation and believes that such
assumptions were reasonable. The offering range may be amended with the approval
of the Office of Thrift Supervision, if required, as a result of subsequent
developments in the financial condition of Alpena Bancshares, Inc. or First
Federal of Northern Michigan or market conditions generally. In the event the
independent valuation is updated to amend the pro forma market value of First
Federal of Northern Michigan Bancorp, Inc. to less than $24,799,010 or more than
$38,536,130, the appraisal will be filed with the Securities and Exchange
Commission by a post-effective amendment to First Federal of Northern Michigan
Bancorp, Inc.'s registration statement.
THE INDEPENDENT VALUATION IS NOT INTENDED, AND MUST NOT BE CONSTRUED, AS
A RECOMMENDATION OF ANY KIND AS TO THE ADVISABILITY OF PURCHASING OUR SHARES OF
COMMON STOCK. RP FINANCIAL DID NOT INDEPENDENTLY VERIFY OUR CONSOLIDATED
FINANCIAL STATEMENTS AND OTHER INFORMATION THAT WE PROVIDED TO THEM, NOR DID RP
FINANCIAL INDEPENDENTLY VALUE OUR ASSETS OR LIABILITIES. THE INDEPENDENT
VALUATION CONSIDERS FIRST FEDERAL OF NORTHERN MICHIGAN AS A GOING CONCERN AND
SHOULD NOT BE CONSIDERED AS AN INDICATION OF THE LIQUIDATION VALUE OF FIRST
FEDERAL OF NORTHERN MICHIGAN. MOREOVER, BECAUSE THE VALUATION IS NECESSARILY
BASED UPON ESTIMATES AND PROJECTIONS OF A NUMBER OF MATTERS, ALL OF WHICH MAY
CHANGE FROM TIME TO TIME, NO ASSURANCE CAN BE GIVEN THAT PERSONS PURCHASING OUR
COMMON STOCK IN THE OFFERING WILL THEREAFTER BE ABLE TO SELL THEIR SHARES AT
PRICES AT OR ABOVE THE $10.00 PRICE PER SHARE.
Following commencement of the subscription offering, the maximum of the
valuation range may be increased by up to 15%, or up to $38,536,130, without
resoliciting subscribers, which will result in a
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corresponding increase of up to 15% in the maximum of the offering range to up
to 2,116,000 shares, to reflect changes in the market and financial conditions
or demand for the shares. We will not decrease the minimum of the valuation
range and the minimum of the offering range without a resolicitation of
subscribers. The subscription price of $10.00 per share will remain fixed. See
"--Limitations on Common Stock Purchases" as to the method of distribution of
additional shares to be issued in the event of an increase in the offering range
of up to 2,116,000 shares.
If the update to the independent valuation at the conclusion of the
offering results in an increase in the maximum of the valuation range to more
than $38,536,130 and a corresponding increase in the offering range to more than
2,116,000 shares, or a decrease in the minimum of the valuation range to less
than $24,799,010 and a corresponding decrease in the offering range to fewer
than 1,360,000 shares, then, after consulting with the Office of Thrift
Supervision, we may terminate the plan of conversion and reorganization, cancel
deposit account withdrawal authorizations and promptly return by check all funds
received with interest at First Federal of Northern Michigan's passbook savings
rate of interest. Alternatively, we may hold a new offering, establish a new
offering range, extend the offering period and commence a resolicitation of
subscribers or take other actions as permitted by the Office of Thrift
Supervision in order to complete the conversion and offering. In the event that
a resolicitation is commenced, we will promptly cancel deposit account
withdrawal authorizations and return all funds received to subscribers as
described above. We will notify subscribers of their rights to place a new stock
order for a specified period of time. Any resolicitation following the
conclusion of the subscription and community offerings would not exceed 45 days
unless further extended by the Office of Thrift Supervision for periods of up to
90 days.
An increase in the number of shares to be issued in the offering would
decrease both a subscriber's ownership interest and First Federal of Northern
Michigan Bancorp, Inc.'s pro forma earnings and stockholders' equity on a per
share basis while increasing pro forma earnings and stockholders' equity on an
aggregate basis. A decrease in the number of shares to be issued in the offering
would increase both a subscriber's ownership interest and First Federal of
Northern Michigan Bancorp, Inc.'s pro forma earnings and stockholders' equity on
a per share basis, while decreasing pro forma earnings and stockholders' equity
on an aggregate basis. For a presentation of the effects of these changes, see
"Pro Forma Data."
Copies of the independent valuation appraisal report of RP Financial and
the detailed memorandum setting forth the method and assumptions used in the
appraisal report are available for inspection at the main office of First
Federal of Northern Michigan and as specified under "Where You Can Find
Additional Information."
EXCHANGE OF EXISTING STOCKHOLDERS' STOCK CERTIFICATES
The conversion of existing outstanding shares of Alpena Bancshares, Inc.
common stock into the right to receive new shares of First Federal of Northern
Michigan Bancorp, Inc. common stock will occur automatically on the effective
date of the conversion. As soon as practicable after the effective date of the
conversion, we, or a bank or trust company or other entity designated by us in
the capacity of exchange agent, will send a transmittal form to each public
stockholder of Alpena Bancshares, Inc. who holds stock certificates. The
transmittal forms are expected to be mailed within five business days after the
effective date of the conversion and will contain instructions on how to
exchange stock certificates of Alpena Bancshares, Inc. common stock for stock
certificates of First Federal of Northern Michigan Bancorp, Inc. common stock.
We expect that stock certificates evidencing shares of First Federal of Northern
Michigan Bancorp, Inc. common stock will be distributed within five business
days after we receive properly executed transmittal forms, Alpena Bancshares,
Inc. stock certificates and other required documents.
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Shares held by public stockholders in street name will be exchanged
automatically upon the effective date of the conversion; no transmittal forms
will be mailed relating to these shares.
No fractional shares of First Federal of Northern Michigan Bancorp, Inc.
common stock will be issued to any public stockholder of Alpena Bancshares, Inc.
when the conversion is completed. For each fractional share that would otherwise
be issued to a stockholder who holds a stock certificate, we will pay by check
an amount equal to the product obtained by multiplying the fractional share
interest to which the holder would otherwise be entitled by the $10.00 offering
purchase price per share. Payment for fractional shares will be made as soon as
practicable after the receipt by the exchange agent of the transmittal forms and
the surrendered Alpena Bancshares, Inc. stock certificates. If your shares of
common stock are held in street name, you will automatically receive cash in
lieu of fractional shares.
YOU SHOULD NOT FORWARD YOUR STOCK CERTIFICATES UNTIL YOU HAVE RECEIVED
TRANSMITTAL FORMS, WHICH WILL INCLUDE FORWARDING INSTRUCTIONS.
After the conversion, stockholders will not receive new shares of First
Federal of Northern Michigan Bancorp, Inc. common stock and will not be paid
dividends on the new shares of First Federal of Northern Michigan Bancorp, Inc.
common stock until existing certificates representing shares of Alpena
Bancshares, Inc. common stock are surrendered for exchange in compliance with
the terms of the transmittal form. When stockholders surrender their
certificates, any unpaid dividends will be paid without interest. For all other
purposes, however, each certificate that represents shares of Alpena Bancshares,
Inc. common stock outstanding at the effective date of the conversion will be
considered to evidence ownership of new shares of First Federal of Northern
Michigan Bancorp, Inc. common stock into which those shares have been converted
by virtue of the conversion.
If a certificate for Alpena Bancshares, Inc. common stock has been lost,
stolen or destroyed, our exchange agent will issue a new stock certificate upon
receipt of appropriate evidence as to the loss, theft or destruction of the
certificate, appropriate evidence as to the ownership of the certificate by the
claimant, and appropriate and customary indemnification, which is normally
effected by the purchase of a bond from a surety company at the stockholder's
expense.
All new shares of First Federal of Northern Michigan Bancorp, Inc.
common stock that we issue in exchange for existing shares of Alpena Bancshares,
Inc. common stock will be considered to have been issued in full satisfaction of
all rights pertaining to such shares of common stock, subject, however, to our
obligation to pay any dividends or make any other distributions with a record
date prior to the effective date of the conversion that may have been declared
by us on or prior to the effective date, and which remain unpaid at the
effective date.
SUBSCRIPTION OFFERING AND SUBSCRIPTION RIGHTS
In accordance with the plan of conversion and reorganization, rights to
subscribe for shares of common stock in the subscription offering have been
granted in the following descending order of priority. The filling of all
subscriptions that we receive will depend on the availability of common stock
after satisfaction of all subscriptions of all persons having prior rights in
the subscription offering and to the maximum, minimum and overall purchase
limitations set forth in the plan of conversion and reorganization and as
described below under "--Limitations on Common Stock Purchases."
PRIORITY 1: ELIGIBLE ACCOUNT HOLDERS. Each First Federal of Northern
Michigan depositor with aggregate deposit account balances of $50.00 or more (a
"Qualifying Deposit") at the close of business on October 31, 2003 (an "Eligible
Account Holder") will receive, without payment therefor, nontransferable
subscription rights to purchase up to $150,000 (15,000 shares) of our common
stock, subject to the
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overall purchase limitations. See "--Limitations on Common Stock Purchases." If
there are not sufficient shares available to satisfy all subscriptions, shares
will first be allocated so as to permit each Eligible Account Holder to purchase
a number of shares sufficient to make his or her total allocation equal to the
lesser of 100 shares or the number of shares for which he or she subscribed.
Thereafter, unallocated shares will be allocated to each Eligible Account Holder
whose subscription remains unfilled in the proportion that the amount of his or
her Qualifying Deposit bears to the total amount of Qualifying Deposits of all
subscribing Eligible Account Holders whose subscriptions remain unfilled. If an
amount so allocated exceeds the amount subscribed for by any one or more
Eligible Account Holders, the excess shall be reallocated among those Eligible
Account Holders whose subscriptions are not fully satisfied until all available
shares have been allocated.
To ensure proper allocation of our shares of common stock, each Eligible
Account Holder must list on his or her stock order form all deposit accounts in
which he or she has an ownership interest on October 31, 2003. In the event of
oversubscription, failure to list an account could result in fewer shares being
allocated than if all accounts had been disclosed. In the event of an
oversubscription, the subscription rights of Eligible Account Holders who are
also directors or executive officers of Alpena Bancshares, Inc. or their
associates will be subordinated to the subscription rights of other Eligible
Account Holders to the extent attributable to increased deposits in the twelve
months preceding October 31, 2003.
PRIORITY 2: TAX-QUALIFIED PLANS. Our tax-qualified employee plans,
including our employee stock ownership plan, will receive, without payment
therefor, nontransferable subscription rights to purchase up to 10% of the
shares of common stock issued in the offering, although our employee stock
ownership plan intends to purchase 8% of the shares of common stock issued in
the offering.
PRIORITY 3: SUPPLEMENTAL ELIGIBLE ACCOUNT HOLDERS. To the extent that
there are sufficient shares of common stock remaining after satisfaction of
subscriptions by Eligible Account Holders and our tax-qualified employee stock
benefit plans, each First Federal of Northern Michigan depositor with a
Qualifying Deposit at the close of business on December 31, 2004 who is not an
Eligible Account Holder ("Supplemental Eligible Account Holder") will receive,
without payment therefor, nontransferable subscription rights to purchase up to
$150,000 (15,000 shares) of common stock, subject to the overall purchase
limitations. See "--Limitations on Common Stock Purchases." If there are not
sufficient shares available to satisfy all subscriptions, shares will be
allocated so as to permit each Supplemental Eligible Account Holder to purchase
a number of shares sufficient to make his or her total allocation equal to the
lesser of 100 shares of common stock or the number of shares for which he or she
subscribed. Thereafter, unallocated shares will be allocated to each
Supplemental Eligible Account Holder whose subscription remains unfilled in the
proportion that the amount of his or her Qualifying Deposit bears to the total
amount of Qualifying Deposits of all Supplemental Eligible Account Holders whose
subscriptions remain unfilled.
To ensure proper allocation of common stock, each Supplemental Eligible
Account Holder must list on the stock order form all deposit accounts in which
he or she has an ownership interest at December 31, 2004. In the event of
oversubscription, failure to list an account could result in fewer shares being
allocated than if all accounts had been disclosed.
PRIORITY 4: OTHER MEMBERS. To the extent that there are shares of common
stock remaining after satisfaction of subscriptions by Eligible Account Holders,
our tax-qualified employee stock benefit plans, and Supplemental Eligible
Account Holders, each depositor of First Federal of Northern Michigan as of the
close of business on the voting record date of January 31, 2005 who is not an
Eligible Account Holder or Supplemental Eligible Account Holder and each
borrower of First Federal of Northern Michigan as of November 4, 1994 whose
borrowings remain outstanding as of the close of business on January 31, 2005
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("Other Members") will receive, without payment therefor, nontransferable
subscription rights to purchase up to $150,000 (15,000 shares) of common stock,
subject to the overall purchase limitations. See "--Limitations on Common Stock
Purchases." If there are not sufficient shares available to satisfy all
subscriptions, available shares will be allocated in the proportion that the
amount of the subscription of each Other Member bears to the total amount of the
subscriptions of all Other Members whose subscriptions remain unsatisfied.
EXPIRATION DATE. The subscription offering will expire at 10:00 a.m.,
Alpena, Michigan time, on March 15, 2005, unless extended by us for up to 45
days or such additional periods with the approval of the Office of Thrift
Supervision, if necessary. Subscription rights will expire whether or not each
eligible depositor can be located. We may decide to extend the expiration date
of the subscription offering for any reason, whether or not subscriptions have
been received for shares at the minimum, midpoint or maximum of the offering
range. Subscription rights which have not been exercised prior to the expiration
date will become void.
We will not execute orders until at least the minimum number of shares
of common stock have been sold in the offering. If at least 1,360,000 shares
have not been sold in the offering within 45 days after the expiration date and
the Office of Thrift Supervision has not consented to an extension, all funds
delivered to us to purchase shares of common stock in the offering will be
returned promptly to the subscribers with interest at First Federal of Northern
Michigan's passbook savings rate and all deposit account withdrawal
authorizations will be canceled. If an extension beyond the 45-day period
following the expiration date is granted by the Office of Thrift Supervision,
all funds delivered to us to purchase shares of common stock in the offering
will be returned promptly to the subscribers with interest at First Federal of
Northern Michigan's passbook savings rate and all deposit account withdrawal
authorizations will be canceled. We will notify subscribers of their rights of
subscribers to place new stock orders for a specified period of time. Extensions
may not go beyond March __, 2007, which is two years after the special meeting
of members of Alpena Bancshares, M.H.C. to vote on the conversion.
COMMUNITY OFFERING
To the extent that shares of common stock remain available for purchase
after satisfaction of all subscriptions of Eligible Account Holders, our
tax-qualified employee stock benefit plans, Supplemental Eligible Account
Holders and Other Members, we may offer shares pursuant to the plan of
conversion and reorganization to members of the general public in a community
offering. Shares may be offered with the following preferences:
(i) Natural persons residing in the Michigan counties of Alpena,
Alcona, Antrim, Charlevoix, Cheboygan, Crawford, Emmet, Iosco,
Kalkaska, Montmorency, Ogemaw, Oscoda, Otsego and Presque Isle;
(ii) Alpena Bancshares, Inc.'s public stockholders as of February 3,
2005; and
(iii) Other members of the general public.
Subscribers in the community offering may purchase up to 15,000 shares
of common stock, subject to the overall purchase limitations. See "--Limitations
on Common Stock Purchases." The minimum purchase is 25 shares. THE OPPORTUNITY
TO PURCHASE SHARES OF COMMON STOCK IN THE COMMUNITY OFFERING CATEGORY IS SUBJECT
TO OUR RIGHT, IN OUR SOLE DISCRETION, TO ACCEPT OR REJECT ANY SUCH ORDERS IN
WHOLE OR IN PART EITHER AT THE TIME OF RECEIPT OF AN ORDER OR AS SOON AS
PRACTICABLE FOLLOWING THE EXPIRATION DATE OF THE OFFERING.
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If we do not have sufficient shares of common stock available to fill
the orders of natural persons residing in the Michigan counties of Alpena,
Alcona, Antrim, Charlevoix, Cheboygan, Crawford, Emmet, Iosco, Kalkaska,
Montmorency, Ogemaw, Oscoda, Otsego and Presque Isle, we will allocate the
available shares among those persons in a manner that permits each of them, to
the extent possible, to purchase the lesser of 100 shares or the number of
shares subscribed for by such person. Thereafter, unallocated shares will be
allocated among natural persons residing in those counties whose orders remain
unsatisfied on an equal number of shares basis per order. If oversubscription
occurs due to the orders of public stockholders of Alpena Bancshares, Inc. as of
February 3, 2005, the allocation procedures described above will apply to the
stock orders of such persons.
The term "residing" or "resident" as used in this Prospectus means any
person who occupies a dwelling within the Michigan counties of Alpena, Alcona,
Antrim, Charlevoix, Cheboygan, Crawford, Emmet, Iosco, Kalkaska, Montmorency,
Ogemaw, Oscoda, Otsego and Presque Isle, has a present intent to remain within
this community for a period of time, and manifests the genuineness of that
intent by establishing an ongoing physical presence within the community,
together with an indication that this presence within the community is something
other than merely transitory in nature. We may utilize deposit or loan records
or other evidence provided to us to decide whether a person is a resident. In
all cases, however, the determination shall be in our sole discretion.
EXPIRATION DATE. The community offering, if any, may begin during or
after the subscription offering, and is currently expected to terminate at the
same time as the subscription offering, and must terminate no more than 45 days
following the subscription offering. First Federal of Northern Michigan Bancorp,
Inc. may decide to extend the community offering for any reason and is not
required to give purchasers notice of any such extension unless such period
extends beyond April 29, 2005. If 1,360,000 shares have not been sold in the
offering by April 29, 2005, all funds delivered to us will be returned promptly
to the purchasers with interest at First Federal of Northern Michigan's passbook
savings rate and all withdrawal authorizations will be canceled. If an extension
is granted by the Office of Thrift Supervision, we will notify purchasers of the
extension of time and of the rights of purchasers to place new stock orders for
a specified period of time. These extensions may not go beyond March __, 2007,
which is two years after the special meeting of members of Alpena Bancshares,
M.H.C. to vote on the conversion.
SYNDICATED COMMUNITY OFFERING
If feasible, our Board of Directors may decide to offer for sale all
shares of common stock not subscribed for or purchased in the subscription and
community offerings in a syndicated community offering, subject to such terms,
conditions and procedures as we may determine, in a manner that will achieve a
wide distribution of our shares of common stock. However, we retain the right to
accept or reject in whole or in part any orders in the syndicated community
offering. In the syndicated community offering, any person may purchase up to
$150,000 (15,000 shares) of common stock, subject to the overall maximum
purchase limitations. Unless the syndicated community offering begins during the
community offering, the syndicated community offering will begin as soon as
possible after the completion of the subscription and community offerings.
Since all shares of common stock are being offered on a best-efforts
basis, broker-dealers offering shares in the syndicated community offering must
conform with certain Securities and Exchange Commission rules. The syndicated
community offering will be conducted in accordance with certain Securities and
Exchange Commission rules applicable to best efforts offerings. Generally under
those rules, Ryan Beck & Co., Inc., a broker-dealer, will deposit funds it
receives prior to closing from interested investors into a separate
noninterest-bearing bank account. If and when all the conditions for the closing
are met, funds for common stock sold in the syndicated community offering will
be promptly
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delivered to us. If the offering is consummated, but some or all of an
interested investor's funds are not accepted by us, those funds will be returned
to the interested investor promptly, without interest. If the offering is not
consummated, funds in the account will be promptly returned, without interest,
to the potential investor. Normal customer ticketing will be used for order
placement. In the syndicated community offering, order forms will not be used.
If for any reason we cannot effect a syndicated community offering of
shares of common stock not purchased in the subscription and community
offerings, or in the event that there is an insignificant number of shares
remaining unsold after the subscription, community and syndicated community
offerings or in the syndicated community offering, we will try to make other
arrangements for the sale of unsubscribed shares, if possible. The Office of
Thrift Supervision must approve any such arrangements.
LIMITATIONS ON COMMON STOCK PURCHASES
The plan of conversion and reorganization includes the following
limitations on the number of shares of common stock that may be purchased in the
offering:
(i) No person may purchase fewer than 25 shares of common stock or
more than $150,000 (15,000 shares);
(ii) Our employee stock ownership plan may purchase in the aggregate
up to 10% of the shares of common stock issued in the offering
(including shares issued to the foundation), including shares
issued in the event of an increase in the offering range of up
to 15%;
(iii) Except for the employee stock ownership plan, as described
above, no person or entity, together with associates or persons
acting in concert with such person or entity, may purchase more
than $250,000 (25,000 shares) in all categories of the offering
combined;
(iv) Current stockholders of Alpena Bancshares, Inc. are subject to
an ownership limitation. As previously described, current
stockholders of Alpena Bancshares, Inc. will receive new shares
of First Federal of Northern Michigan Bancorp, Inc. common stock
in exchange for their existing shares of Alpena Bancshares, Inc.
common stock. The number of shares of common stock that a
stockholder may purchase in the offering, together with
associates or persons acting in concert with such stockholder,
when combined with the shares that the stockholder and his or
her associates will receive in exchange for existing Alpena
Bancshares, Inc. common stock, may not exceed 5% of the shares
of common stock of First Federal of Northern Michigan Bancorp,
Inc. to be issued and outstanding at the completion of the
conversion; and
(v) The maximum number of shares of common stock that may be
purchased in all categories of the offering by executive
officers and directors of First Federal of Northern Michigan and
their associates, in the aggregate, when combined with new
shares of common stock issued in exchange for existing shares,
may not exceed 30% of the shares issued in the conversion.
Depending upon market or financial conditions, our Board of Directors,
with the approval of the Office of Thrift Supervision and without further
approval of members of Alpena Bancshares, M.H.C., may decrease or increase the
purchase and ownership limitations. If a purchase limitation is increased,
subscribers in the subscription offering who ordered the maximum amount will be
given, and, in our sole discretion, some other large subscribers who through
their subscriptions evidence a desire to purchase the maximum allowable number
of shares may be given, the opportunity to increase their subscriptions up to
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the then applicable limit. The effect of this type of resolicitation will be an
increase in the number of shares of common stock owned by subscribers who choose
to increase their subscriptions.
In the event of an increase in the offering range of up to 15% of the
total number of shares of common stock offered in the offering, shares will be
allocated in the following order of priority in accordance with the plan of
conversion and reorganization:
(i) to fill the employee stock ownership plan's subscription for up
to 10% of the total number of shares of common stock issued in
the offering;
(ii) in the event that there is an oversubscription at the Eligible
Account Holder, Supplemental Eligible Account Holder or Other
Member levels, to fill unfulfilled subscriptions of these
subscribers according to their respective priorities; and
(iii) to fill unfulfilled subscriptions in the community offering,
with preference given first to natural persons residing in the
Michigan counties of Alpena, Alcona, Antrim, Charlevoix,
Cheboygan, Crawford, Emmet, Iosco, Kalkaska, Montmorency,
Ogemaw, Oscoda, Otsego and Presque Isle, and then to Alpena
Bancshares, Inc.'s public stockholders as of February 3, 2005.
The term "associate" of a person means:
(i) any corporation or organization, other than Alpena Bancshares,
Inc., First Federal of Northern Michigan or a majority-owned
subsidiary of First Federal of Northern Michigan, of which the
person is a senior officer, partner or 10% beneficial
stockholder;
(ii) any trust or other estate in which the person has a substantial
beneficial interest or serves as a trustee or in a similar
fiduciary capacity; provided, however, it does not include any
employee stock benefit plan in which the person has a
substantial beneficial interest or serves as trustee or in a
similar fiduciary capacity; and
(iii) any blood or marriage relative of the person, who either has the
same home as the person or who is a director or officer of
Alpena Bancshares, Inc. or First Federal of Northern Michigan.
The term "acting in concert" means:
(i) knowing participation in a joint activity or interdependent
conscious parallel action towards a common goal whether or not
pursuant to an express agreement; or
(ii) a combination or pooling of voting or other interests in the
securities of an issuer for a common purpose pursuant to any
contract, understanding, relationship, agreement or other
arrangement, whether written or otherwise.
A person or company which acts in concert with another person or company
("other party") shall also be deemed to be acting in concert with any person or
company who is also acting in concert with that other party, except that any
tax-qualified employee stock benefit plan will not be deemed to be acting in
concert with its trustee or a person who serves in a similar capacity solely for
the purpose of determining whether common stock held by the trustee and common
stock held by the employee stock benefit plan will be aggregated.
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We have the sole discretion to determine whether prospective purchasers
are "associates" or "acting in concert." Persons living at the same address, and
persons exercising subscription rights through qualifying deposits registered at
the same address, whether or not related, will be deemed to be acting in concert
unless we determine otherwise.
Our directors are not treated as associates of each other solely because
of their membership on the Board of Directors. We have the right to determine
whether prospective purchasers are associates or acting in concert. Common stock
purchased in the offering will be freely transferable except for shares
purchased by executive officers and directors of Alpena Bancshares, Inc. or
First Federal of Northern Michigan and except as described below. Any purchases
made by any associate of Alpena Bancshares, Inc. or First Federal of Northern
Michigan for the explicit purpose of meeting the minimum number of shares of
common stock required to be sold in order to complete the offering shall be made
for investment purposes only and not with a view toward redistribution. In
addition, under NASD guidelines, members of the NASD and their associates are
subject to certain restrictions on transfer of securities purchased in
accordance with subscription rights and to certain reporting requirements upon
purchase of these securities. For a further discussion of limitations on
purchases of our shares of common stock at the time of conversion and
thereafter, see "--Certain Restrictions on Purchase or Transfer of Our Shares
after Conversion" and "Restrictions on Acquisition of First Federal of Northern
Michigan Bancorp, Inc."
PLAN OF DISTRIBUTION; SELLING AGENT COMPENSATION
To assist in the marketing of our common stock, we have retained Ryan
Beck & Co., Inc., which is a broker-dealer registered with the National
Association of Securities Dealers, Inc. Ryan Beck & Co., Inc. will assist us on
a best efforts basis in the offering by:
(i) acting as our financial advisor for the conversion, providing
administrative services and managing the Stock Information
Center;
(ii) targeting our sales efforts, including assisting in the
preparation of marketing materials;
(iii) soliciting orders for common stock; and
(iv) assisting in soliciting proxies of our members.
For these services, Ryan Beck & Co., Inc. will receive an advisory and
administrative fee of $25,000 and a sales fee equal to 1.0% of the dollar amount
of shares of common stock sold in the subscription and community offerings. The
sales fee will be reduced by the advisory and administrative fee. No sales fee
will be payable to Ryan Beck & Co., Inc. with respect to shares purchased by
officers, directors and employees or their immediate families, shares purchased
by our tax-qualified and non-qualified employee benefit plans, or the shares to
be contributed to the charitable foundation. In the event that Ryan Beck sells
common stock through a group of broker-dealers in a syndicated community
offering, it will be paid a fee equal to 1.0% of the dollar amount of total
shares sold in the syndicated community offering, which fee along with the fee
payable to selected dealers (which may include Ryan Beck) shall not exceed 6.0%
in the aggregate. Ryan Beck & Co., Inc. also will be reimbursed for allocable
expenses in an amount not to exceed $25,000, and for attorneys' fees and
allocable expenses in an amount not to exceed $40,000.
We will indemnify Ryan Beck & Co., Inc. against liabilities and
expenses, including legal fees, incurred in connection with certain claims or
litigation arising out of or based upon untrue statements or omissions contained
in the offering materials for the common stock, including liabilities under the
Securities Act of 1933, as amended.
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Some of our directors and executive officers may participate in the
solicitation of offers to purchase common stock. These persons will be
reimbursed for their reasonable out-of-pocket expenses incurred in connection
with the solicitation. Other regular, full-time employees of First Federal of
Northern Michigan may assist in the offering, but only in ministerial
capacities, and may provide clerical work in effecting a sales transaction. No
offers or sales may be made by tellers or at the teller counters. All sales
activity will be conducted in a segregated or separately identifiable area of
First Federal of Northern Michigan's main office apart from the area accessible
to the general public. Other questions of prospective purchasers will be
directed to executive officers or registered representatives of Ryan Beck & Co.,
Inc. Our other employees have been instructed not to solicit offers to purchase
shares of common stock or provide advice regarding the purchase of common stock.
We will rely on Rule 3a4-1 under the Securities Exchange Act of 1934, as
amended, and sales of common stock will be conducted within the requirements of
Rule 3a4-1, so as to permit officers, directors and employees to participate in
the sale of common stock. None of our officers, directors or employees will be
compensated in connection with their participation in the offering.
PROCEDURE FOR PURCHASING SHARES
EXPIRATION DATE. The offering will expire at 10:00 a.m., Alpena,
Michigan time, on March 15, 2005, unless we extend it for up to 45 days, with
the approval of the Office of Thrift Supervision, if required. This extension
may be approved by us, in our sole discretion, without further approval or
additional notice to purchasers in the offering. Any extension of the
subscription and/or community offering beyond April 29, 2005 would require the
Office of Thrift Supervision's approval. All funds delivered to us to purchase
shares of common stock in the offering would be returned promptly to the
subscribers with interest at First Federal of Northern Michigan's passbook
savings rate and all deposit account withdrawal authorizations would be
canceled. Subscribers would be given the right to place new orders for common
stock. If we have not sold the minimum number of shares offered in the offering
by the expiration date or any extension thereof, we may terminate the offering
and promptly refund all orders for shares of common stock. If the number of
shares offered is reduced below the minimum of the offering range, or increased
above the adjusted maximum of the offering range, all funds delivered to us to
purchase shares of common stock in the offering will be returned promptly to the
subscribers with interest at First Federal of Northern Michigan's passbook
savings rate and all deposit account withdrawal authorizations will be canceled.
Purchasers will be given an opportunity to place new stock orders.
To ensure that each purchaser receives a Prospectus at least 48 hours
before the expiration date of the offering in accordance with Rule 15c2-8 of the
Securities Exchange Act of 1934, no Prospectus will be mailed any later than
five days prior to the expiration date or hand delivered any later than two days
prior to the expiration date. Execution of an order form will confirm receipt of
delivery in accordance with Rule 15c2-8. Order forms will be distributed only
with a Prospectus. Subscription funds will be maintained in a segregated account
at First Federal of Northern Michigan and/or another insured financial
institution and will earn interest at our passbook savings rate from the date of
receipt.
We reserve the right in our sole discretion to terminate the offering at
any time and for any reason, in which case we will cancel any deposit account
withdrawal orders and promptly return all funds submitted, with interest at
First Federal of Northern Michigan's passbook savings rate from the date of
receipt.
We have the right to reject any order submitted in the offering by a
person who we believe is making false representations or who we otherwise
believe, either alone or acting in concert with others, is violating, evading,
circumventing, or intends to violate, evade or circumvent the terms and
conditions of the plan of conversion.
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USE OF ORDER FORMS AND DEADLINE. In order to purchase shares of common
stock in the subscription offering and community offering, you must complete an
order form and remit full payment. Incomplete order forms or order forms that
are not signed are not required to be accepted. We will not be required to
accept orders submitted on photocopied or facsimiled order forms. All order
forms must be received (not postmarked) prior to 10:00 a.m. Alpena, Michigan
time, on March 15, 2005. We are not required to accept order forms that are not
received by that time, are executed defectively or are received without full
payment or without appropriate withdrawal instructions. We are not required to
notify subscribers of incomplete or improperly executed order forms, and we have
the right to waive or permit the correction of incomplete or improperly executed
order forms. We do not represent, however, that we will do so and we have no
affirmative duty to notify any prospective subscriber of any such defects. You
may submit your order form and payment by mail using the return envelope
provided, by bringing your order form to our Stock Information Center located at
our main office, or by overnight delivery to the indicated address on the order
form. Once tendered, an order form cannot be modified or revoked without our
consent. We reserve the absolute right, in our sole discretion, to reject orders
received in the community offering, in whole or in part, at the time of receipt
or at any time prior to completion of the offering. If you are ordering shares,
you must represent that you are purchasing shares for your own account and that
you have no agreement or understanding with any person for the sale or transfer
of the shares. Our interpretation of the terms and conditions of the plan of
conversion and reorganization and of the acceptability of the order forms will
be final.
By signing the order form, you will be acknowledging that the common
stock is not a deposit or savings account and is not federally insured or
otherwise guaranteed by First Federal of Northern Michigan or the federal
government, and that you received a copy of this Prospectus. However, signing
the order form will not result in you waiving your rights under the Securities
Act of 1933 or the Securities Exchange Act of 1934.
PAYMENT FOR SHARES. Payment for all shares of common stock will be
required to accompany all completed order forms for the purchase to be valid.
Payment for shares may be made by:
(i) personal check, bank check or money order, made payable to First
Federal of Northern Michigan; or
(ii) authorization of withdrawal from First Federal of Northern
Michigan deposit accounts, as provided on the stock order form.
Appropriate means for designating withdrawals from deposit accounts at
First Federal of Northern Michigan are provided in the order forms. The funds
designated must be available in the account(s) at the time the order form is
received. A hold will be placed on these funds, making them unavailable to the
depositor. Funds authorized for withdrawal will continue to earn interest within
the account at the contract rate until the offering is completed, at which time
the designated withdrawal will be made. Interest penalties for early withdrawal
applicable to certificate accounts will not apply to withdrawals authorized for
the purchase of shares of common stock; however, if a withdrawal results in a
certificate account with a balance less than the applicable minimum balance
requirement, the certificate will be canceled at the time of withdrawal without
penalty and the remaining balance will earn interest at the current passbook
rate subsequent to the withdrawal. In the case of payments made by check or
money order, these funds must be available in the account(s) and will be
immediately cashed and placed in a segregated account at First Federal of
Northern Michigan and/or another depository institution and will earn interest
at First Federal of Northern Michigan's passbook savings rate from the date
payment is received until the offering is completed or terminated.
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You may not remit First Federal of Northern Michigan line of credit
checks, and we will not accept third-party checks, including those payable to
you and endorsed over to First Federal of Northern Michigan Bancorp, Inc.
Additionally, you may not designate a direct withdrawal from First Federal of
Northern Michigan accounts with check-writing privileges. Please provide a check
instead, because we cannot place holds on checking accounts. If you request that
we do so, we reserve the right to interpret that as your authorization to treat
those funds as if we had received a check for the designated amount, and we will
immediately withdraw the amount from your checking account. Once we receive your
executed order form, it may not be modified, amended or rescinded without our
consent, unless the offering is not completed by the expiration date, in which
event purchasers may be given the opportunity to increase, decrease or rescind
their orders for a specified period of time.
USING IRA FUNDS
If you are interested in using your individual retirement account funds
to purchase shares of common stock, you must do so through a self-directed
individual retirement account such as a brokerage firm individual retirement
account. By regulation, First Federal of Northern Michigan's individual
retirement accounts are not self-directed, so they cannot be invested in our
shares of common stock. Therefore, if you wish to use your funds that are
currently in a First Federal of Northern Michigan individual retirement account,
you may not designate on the order form that you wish funds to be withdrawn from
the account for the purchase of common stock. The funds you wish to use for the
purchase of common stock will have to be transferred to a brokerage account.
There will be no early withdrawal or Internal Revenue Service interest penalties
for these transfers. Depositors interested in using funds in an individual
retirement account or any other retirement account to purchase shares of common
stock should contact our Stock Information Center as soon as possible,
preferably at least two weeks prior to the March 15, 2005 offering deadline,
because processing such transactions takes additional time, and whether such
funds can be used may depend on limitations imposed by the institutions where
such funds are currently held. We cannot guarantee that you will be able to use
such funds.
Regulations prohibit First Federal of Northern Michigan from lending
funds or extending credit to any persons to purchase shares of common stock in
the offering.
We shall have the right, in our sole discretion, to permit institutional
investors to submit irrevocable orders together with the legally binding
commitment for payment and to thereafter pay for the shares of common stock for
which they subscribe in the community offering at any time prior to 48 hours
before the completion of the conversion. This payment may be made by wire
transfer.
If our employee stock ownership plan purchases shares in the offering,
it will not be required to pay for such shares until consummation of the
offering, provided that there is a loan commitment from an unrelated financial
institution or First Federal of Northern Michigan Bancorp, Inc. to lend to the
employee stock ownership plan the necessary amount to fund the purchase.
DELIVERY OF STOCK CERTIFICATES. Certificates representing shares of
common stock issued in the offering and First Federal of Northern Michigan
checks representing any applicable refund and/or interest paid on subscriptions
made by check or money order will be mailed to the persons entitled thereto at
the certificate registration address noted on the order form, as soon as
practicable following consummation of the offering and receipt of all necessary
regulatory approvals. Any certificates returned as undeliverable will be held by
the transfer agent until claimed by persons legally entitled thereto or
otherwise disposed of in accordance with applicable law. UNTIL CERTIFICATES FOR
THE SHARES OF COMMON STOCK ARE AVAILABLE AND DELIVERED TO PURCHASERS, PURCHASERS
MAY NOT BE ABLE TO SELL THE SHARES OF COMMON STOCK WHICH THEY ORDERED, EVEN
THOUGH THE COMMON STOCK WILL HAVE BEGUN TRADING.
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OTHER RESTRICTIONS. Notwithstanding any other provision of the plan of
conversion and reorganization, no person is entitled to purchase any shares of
common stock to the extent the purchase would be illegal under any federal or
state law or regulation, including state "blue sky" regulations, or would
violate regulations or policies of the National Association of Securities
Dealers, Inc., particularly those regarding free riding and withholding. We may
ask for an acceptable legal opinion from any purchaser as to the legality of his
or her purchase and we may refuse to honor any purchase order if an opinion is
not timely furnished. In addition, we are not required to offer shares of common
stock to any person who resides in a foreign country, or in a State of the
United States with respect to which any of the following apply: (a) a small
number of persons otherwise eligible to subscribe for shares under the plan of
conversion reside in such state; (b) the issuance of subscription rights or the
offer or sale of shares of common stock to such persons would require us, under
the securities laws of such state, to register as a broker, dealer, salesman or
agent or to register or otherwise qualify our securities for sale in such state;
and (c) such registration or qualification would be impracticable for reasons of
cost or otherwise.
RESTRICTIONS ON TRANSFER OF SUBSCRIPTION RIGHTS AND SHARES
OFFICE OF THRIFT SUPERVISION REGULATIONS PROHIBIT ANY PERSON WITH
SUBSCRIPTION RIGHTS, INCLUDING THE ELIGIBLE ACCOUNT HOLDERS, SUPPLEMENTAL
ELIGIBLE ACCOUNT HOLDERS AND OTHER MEMBERS, FROM TRANSFERRING OR ENTERING INTO
ANY AGREEMENT OR UNDERSTANDING TO TRANSFER THE LEGAL OR BENEFICIAL OWNERSHIP OF
THE SUBSCRIPTION RIGHTS ISSUED UNDER THE PLAN OF CONVERSION AND REORGANIZATION
OR THE SHARES OF COMMON STOCK TO BE ISSUED UPON THEIR EXERCISE. THESE RIGHTS MAY
BE EXERCISED ONLY BY THE PERSON TO WHOM THEY ARE GRANTED AND ONLY FOR HIS OR HER
ACCOUNT. WHEN REGISTERING YOUR STOCK PURCHASE ON THE ORDER FORM, YOU SHOULD NOT
ADD THE NAME(S) OF PERSONS WHO DO NOT HAVE SUBSCRIPTION RIGHTS OR WHO QUALIFY
ONLY IN A LOWER PURCHASE PRIORITY THAN YOU DO. DOING SO MAY JEOPARDIZE YOUR
SUBSCRIPTION RIGHTS. EACH PERSON EXERCISING SUBSCRIPTION RIGHTS WILL BE REQUIRED
TO CERTIFY THAT HE OR SHE IS PURCHASING SHARES SOLELY FOR HIS OR HER OWN ACCOUNT
AND THAT HE OR SHE HAS NO AGREEMENT OR UNDERSTANDING REGARDING THE SALE OR
TRANSFER OF SUCH SHARES. THE REGULATIONS ALSO PROHIBIT ANY PERSON FROM OFFERING
OR MAKING AN ANNOUNCEMENT OF AN OFFER OR INTENT TO MAKE AN OFFER TO PURCHASE
SUBSCRIPTION RIGHTS OR SHARES OF COMMON STOCK TO BE ISSUED UPON THEIR EXERCISE
PRIOR TO COMPLETION OF THE OFFERING.
WE WILL PURSUE ANY AND ALL LEGAL AND EQUITABLE REMEDIES IN THE EVENT WE
BECOME AWARE OF THE TRANSFER OF SUBSCRIPTION RIGHTS, AND WE WILL NOT HONOR
ORDERS THAT WE BELIEVE INVOLVE THE TRANSFER OF SUBSCRIPTION RIGHTS.
STOCK INFORMATION CENTER
If you have any questions regarding the offering, please call our Stock
Information Center, at ___________, from 9:30 a.m. to 4:00 p.m., Alpena,
Michigan time, Monday through Friday. The Stock Information Center is located at
First Federal of Northern Michigan's main office, 100 South Second Avenue,
Alpena, Michigan. Our branches will not have offering materials and will not
accept order forms or proxy cards. The Stock Information Center will be closed
weekends and bank holidays.
LIQUIDATION RIGHTS
In the unlikely event of a complete liquidation of Alpena Bancshares,
Inc. prior to the conversion, all claims of creditors of Alpena Bancshares,
Inc., including those of depositors of First Federal of Northern Michigan (to
the extent of their deposit balances), would be paid first. Thereafter, if there
were any assets of Alpena Bancshares, Inc. remaining, these assets would be
distributed to stockholders, including Alpena Bancshares, M.H.C. In the unlikely
event that Alpena Bancshares, M.H.C. and Alpena Bancshares, Inc. liquidated
prior to the conversion, all claims of creditors would be paid first. Then, if
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there were any assets of Alpena Bancshares, M.H.C. remaining, members of Alpena
Bancshares, M.H.C. would receive those remaining assets, pro rata, based upon
the deposit balances in their deposit account in First Federal of Northern
Michigan immediately prior to liquidation. In the unlikely event that First
Federal of Northern Michigan were to liquidate after the conversion, all claims
of creditors, including those of depositors, would be paid first, followed by
distribution of the "liquidation account" to certain depositors, with any assets
remaining thereafter distributed to First Federal of Northern Michigan Bancorp,
Inc. as the holder of First Federal of Northern Michigan capital stock. Pursuant
to the rules and regulations of the Office of Thrift Supervision, a
post-conversion merger, consolidation, sale of bulk assets or similar
combination or transaction with another insured savings institution would not be
considered a liquidation and, in these types of transactions, the liquidation
account would be assumed by the surviving institution.
The plan of conversion and reorganization provides for the
establishment, upon the completion of the conversion, of a special "liquidation
account" for the benefit of Eligible Account Holders and Supplemental Eligible
Account Holders in an amount equal to the greater of:
(i) Alpena Bancshares, M.H.C.'s ownership interest in the retained
earnings of Alpena Bancshares, Inc. as of the date of its latest
balance sheet contained in this Prospectus; or
(ii) the retained earnings of First Federal of Northern Michigan as
of the date of the latest financial statements set forth in the
Prospectus used by First Federal of Northern Michigan when it
reorganized into Alpena Bancshares, M.H.C. on November 4, 1994.
The purpose of the liquidation account is to provide Eligible Account
Holders and Supplemental Eligible Account Holders who maintain their deposit
accounts with First Federal of Northern Michigan after the conversion with a
liquidation interest in the unlikely event of the complete liquidation of First
Federal of Northern Michigan after the conversion. Each Eligible Account Holder
and Supplemental Eligible Account Holder who continues to maintain his or her
deposit account at First Federal of Northern Michigan, would be entitled, on a
complete liquidation of First Federal of Northern Michigan after the conversion,
to an interest in the liquidation account prior to any payment to the
stockholders of First Federal of Northern Michigan Bancorp, Inc. Each Eligible
Account Holder and Supplemental Eligible Account Holder would have an initial
interest in the liquidation account for each deposit account, including savings
accounts, transaction accounts such as negotiable order of withdrawal accounts,
money market deposit accounts, and certificates of deposit, with a balance of
$50 or more held in First Federal of Northern Michigan on October 31, 2003, or
December 31, 2004. Each Eligible Account Holder and Supplemental Eligible
Account Holder would have a pro rata interest in the total liquidation account
for each such deposit account, based on the proportion that the balance of each
such deposit account on October 31, 2003, or December 31, 2004 bears to the
balance of all deposit accounts in First Federal of Northern Michigan on such
dates.
If, however, on any December 31 annual closing date commencing after the
effective date of the conversion, the amount in any such deposit account is less
than the amount in the deposit account on October 31, 2003 or December 31, 2004
or any other annual closing date, then the interest in the liquidation account
relating to such deposit account would be reduced from time to time by the
proportion of any such reduction, and such interest will cease to exist if such
deposit account is closed. In addition, no interest in the liquidation account
would ever be increased despite any subsequent increase in the related deposit
account. Payment pursuant to liquidation rights of Eligible Account Holders and
Supplemental Eligible Account Holders would be separate and apart from the
payment of any insured deposit accounts to such depositor. Any assets remaining
after the above liquidation rights of Eligible Account Holders and Supplemental
Eligible Account Holders are satisfied would be distributed to First
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Federal of Northern Michigan Bancorp, Inc. as the sole stockholder of First
Federal of Northern Michigan.
MATERIAL INCOME TAX CONSEQUENCES
Consummation of the conversion is subject to the prior receipt of an
opinion of counsel or tax advisor with respect to federal and state income
taxation that the conversion will not be a taxable transaction to Alpena
Bancshares, M.H.C., Alpena Bancshares, Inc., First Federal of Northern Michigan,
Eligible Account Holders, Supplemental Eligible Account Holders, other members
of Alpena Bancshares, M.H.C. and stockholders of Alpena Bancshares, Inc. Unlike
private letter rulings, opinions of counsel or tax advisors are not binding on
the Internal Revenue Service or any state taxing authority, and such authorities
may disagree with such opinions. In the event of such disagreement, there can be
no assurance that Alpena Bancshares, Inc. or First Federal of Northern Michigan
would prevail in a judicial proceeding.
Alpena Bancshares, M.H.C. and Alpena Bancshares, Inc. have received an
opinion of counsel, Luse Gorman Pomerenk & Schick, P.C., regarding all of the
material federal income tax consequences of the conversion, which includes the
following:
1. The conversion of Alpena Bancshares, Inc. to a federally
chartered interim stock savings bank will qualify as a tax-free
reorganization within the meaning of Section 368(a)(1)(F) of the
Internal Revenue Code, and the merger of Alpena Bancshares, Inc.
with and into First Federal of Northern Michigan qualifies as a
tax-free reorganization within the meaning of Section
368(a)(1)(A) of the Internal Revenue Code.
2. Neither Alpena Bancshares, Inc., First Federal of Northern
Michigan, nor the stockholders of Alpena Bancshares, Inc. will
recognize any gain or loss upon the transfer of assets of Alpena
Bancshares, Inc. to First Federal of Northern Michigan in
exchange for shares of common stock of First Federal of Northern
Michigan, which will be constructively received by First Federal
of Northern Michigan Bancorp, Inc.'s stockholders. (Sections 361
and 1032(a) of the Internal Revenue Code.)
3. The basis of the assets of Alpena Bancshares, Inc. and the
holding period of such assets to be received by First Federal of
Northern Michigan will be the same as the basis and holding
period in such assets in the hands of Alpena Bancshares, Inc.
immediately before the exchange. (Sections 362(b) and 1223(2) of
the Internal Revenue Code).
4. The conversion of Alpena Bancshares, M.H.C., to a federally
chartered interim stock savings bank will qualify as a tax-free
reorganization within the meaning of Section 368(a)(1)(F) of the
Internal Revenue Code and the merger of Alpena Bancshares,
M.H.C. with and into First Federal of Northern Michigan
qualifies as a tax-free reorganization within the meaning of
Section 368(a)(1)(A) of the Internal Revenue Code.
5. The exchange of Eligible Account Holders' and Supplemental
Account Holders' interests in Alpena Bancshares, M.H.C. for
interests in a liquidation account established in First Federal
of Northern Michigan will satisfy the continuity of interest
requirement of Section 1.368-1(b) of the Federal Income Tax
Regulations.
6. None of Alpena Bancshares, M.H.C., Alpena Bancshares, Inc.,
First Federal of Northern Michigan, nor Eligible Account
Holders, Supplemental Eligible Account Holders or Other Members,
will recognize any gain or loss on the transfer of the assets of
Alpena
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Bancshares, M.H.C. to First Federal of Northern Michigan in
exchange for an interest in a liquidation account established in
First Federal of Northern Michigan for the benefit of eligible
account holders and supplemental eligible account holders who
remain depositors of First Federal of Northern Michigan.
7. Current stockholders of Alpena Bancshares, Inc. will not
recognize any gain or loss upon their constructive exchange of
Alpena Bancshares, Inc. common stock for shares of First Federal
of Northern Michigan which will in turn be exchanged for new
shares of First Federal of Northern Michigan Bancorp, Inc.
common stock.
8. Each stockholder's aggregate basis in new shares of First
Federal of Northern Michigan Bancorp, Inc. common stock
(including fractional share interests) received in the exchange
will be the same as the aggregate basis of Alpena Bancshares,
Inc. common stock surrendered in exchange therefor.
9. Each stockholder's holding period in his or her First Federal of
Northern Michigan Bancorp, Inc. common stock received in the
exchange will include the period during which Alpena Bancshares,
Inc. common stock surrendered was held, provided that the Alpena
Bancshares, Inc. common stock surrendered is a capital asset in
the hands of the stockholder on the date of the exchange.
10. Cash received by any current stockholder of Alpena Bancshares,
Inc. in lieu of a fractional share interest in new shares of
First Federal of Northern Michigan Bancorp, Inc. common stock
will be treated as having been received as a distribution in
full payment in exchange for a fractional share interest of new
First Federal of Northern Michigan Bancorp, Inc. common stock,
which such stockholder would otherwise be entitled to receive.
Accordingly, a stockholder will recognize gain or loss equal to
the difference between the cash received and the basis of the
fractional share. If the common stock is held by the stockholder
as a capital asset, the gain or loss will be capital gain or
loss.
11. It is more likely than not that the fair market value of the
nontransferable subscription rights to purchase First Federal of
Northern Michigan Bancorp, Inc. common stock is zero.
Accordingly, no gain or loss will be recognized by Eligible
Account Holders, Supplemental Eligible Account Holders or Other
Members upon distribution to them of nontransferable
subscription rights to purchase shares of First Federal of
Northern Michigan Bancorp, Inc. common stock. Eligible Account
Holders, Supplemental Eligible Account Holders or Other Members
will not realize any taxable income as the result of the
exercise by them of the nontransferable subscriptions rights.
12. It is more likely than not that the basis of the shares of First
Federal of Northern Michigan Bancorp, Inc. common stock
purchased in the offering by the exercise of nontransferable
subscription rights will be the purchase price. The holding
period of the First Federal of Northern Michigan Bancorp, Inc.
common stock purchased pursuant to the exercise of
nontransferable subscription rights will commence on the date on
which the right to acquire such stock was exercised.
13. No gain or loss will be recognized by First Federal of Northern
Michigan Bancorp, Inc. on the receipt of money in exchange for
First Federal of Northern Michigan Bancorp, Inc. common stock
sold in the offering.
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The opinion addresses all material federal income tax consequences of
the conversion and reorganization. The tax opinion as to items 11 and12 above is
based on the position that subscription rights to be received by Eligible
Account Holders, Supplemental Eligible Account Holders and Other Members do not
have any economic value at the time of distribution or the time the subscription
rights are exercised. In this regard, Luse Gorman Pomerenk & Schick, P.C. noted
that the subscription rights will be granted at no cost to the recipients, are
legally non-transferable and of short duration, and will provide the recipient
with the right only to purchase shares of common stock at the same price to be
paid by members of the general public in any community offering. The firm also
noted that the Internal Revenue Service has not in the past concluded that
subscription rights have value. Based on the foregoing, Luse Gorman Pomerenk &
Schick, P.C. believes that it is more likely than not that the nontransferable
subscription rights to purchase shares of common stock have no value. However,
the issue of whether or not the nontransferable subscription rights have value
is based on all the facts and circumstances. If the nontransferable subscription
rights granted to eligible subscribers are subsequently found to have an
ascertainable value greater than zero, income may be recognized by various
recipients of the nontransferable subscription rights (in certain cases, whether
or not the rights are exercised) and we could recognize gain on the distribution
of the nontransferable subscription rights.
The opinions of Luse Gorman Pomerenk & Schick, P.C., unlike a letter
ruling issued by the Internal Revenue Service, are not binding on the Internal
Revenue Service and the conclusions expressed therein may be challenged at a
future date. The Internal Revenue Service has issued favorable rulings for
transactions substantially similar to the proposed reorganization and stock
offering, but any such ruling may not be cited as precedent by any taxpayer
other than the taxpayer to whom the ruling is addressed. We do not plan to apply
for a letter ruling concerning the transactions described herein.
The federal tax opinion has been filed with the Securities and Exchange
Commission as an exhibit to First Federal of Northern Michigan Bancorp, Inc.'s
registration statement. Advice regarding the Michigan state income tax
consequences consistent with the federal tax opinion has been issued by Plante &
Moran, PLLC, tax advisors to Alpena Bancshares, M.H.C. and Alpena Bancshares,
Inc.
We also have received a letter from RP Financial, LC stating its belief
that the subscription rights do not have any ascertainable fair market value and
that the price at which the subscription rights are exercisable will not be more
or less than the fair market value of the shares on the date of the exercise.
This position is based on the fact that these rights are acquired by the
recipients without cost, are nontransferable and of short duration, and afford
the recipients the right only to purchase the common stock at the same price as
will be paid by members of the general public in any community offering.
If the subscription rights granted to Eligible Account Holders,
Supplemental Eligible Account Holders and Other Members are deemed to have an
ascertainable value, receipt of these rights could result in taxable gain to
those Eligible Account Holders, Supplemental Eligible Account Holders and Other
Members who exercise the subscription rights in an amount equal to the
ascertainable value, and we could recognize gain on a distribution. Eligible
Account Holders, Supplemental Eligible Account Holders and Other Members are
encouraged to consult with their own tax advisors as to the tax consequences in
the event that subscription rights are deemed to have an ascertainable value.
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CERTAIN RESTRICTIONS ON PURCHASE OR TRANSFER OF OUR SHARES AFTER CONVERSION
All shares of common stock purchased in the offering by a director or an
executive officer of First Federal of Northern Michigan generally may not be
sold for a period of one year following the closing of the conversion, except in
the event of the death of the director or executive officer. Each certificate
for restricted shares will bear a legend giving notice of this restriction on
transfer, and instructions will be issued to the effect that any transfer within
this time period of any certificate or record ownership of the shares other than
as provided above is a violation of the restriction. Any shares of common stock
issued at a later date as a stock dividend, stock split, or otherwise, with
respect to the restricted stock will be similarly restricted. The directors and
executive officers of First Federal of Northern Michigan Bancorp, Inc. also will
be restricted by the insider trading rules promulgated pursuant to the
Securities Exchange Act of 1934.
Purchases of shares of our common stock by any of our directors,
executive officers and their associates, during the three-year period following
the closing of the conversion may be made only through a broker or dealer
registered with the Securities and Exchange Commission, except with the prior
written approval of the Office of Thrift Supervision. This restriction does not
apply, however, to negotiated transactions involving more than 1% of our
outstanding common stock or to purchases of our common stock by our stock option
plan or any of our tax-qualified employee stock benefit plans or
non-tax-qualified employee stock benefit plans, including any recognition and
retention plans or restricted stock plans.
Office of Thrift Supervision regulations prohibit First Federal of
Northern Michigan Bancorp, Inc. from repurchasing its shares of common stock
during the first year following conversion unless compelling business reasons
exist for such repurchases. After one year, the Office of Thrift Supervision
does not impose any repurchase restrictions.
FIRST FEDERAL COMMUNITY FOUNDATION
GENERAL
In furtherance of our commitment to our local community, the plan of
conversion and reorganization provides that we will establish the First Federal
Community Foundation as a non-stock, nonprofit Delaware corporation in
connection with the conversion and offering. The charitable foundation will be
funded with shares of First Federal of Northern Michigan Bancorp, Inc. common
stock and cash, as further described below. By further enhancing our visibility
and reputation in our local community, we believe that the charitable foundation
will enhance the long-term value of First Federal of Northern Michigan's
community banking franchise. The offering presents us with a unique opportunity
to provide a substantial and continuing benefit to our community and to receive
the associated tax benefits.
PURPOSE OF THE CHARITABLE FOUNDATION
In connection with the closing of the offering, First Federal of
Northern Michigan Bancorp, Inc. intends to fund First Federal Community
Foundation through a contribution of cash in an amount equal to 2% of the shares
we sell to purchasers in the offering, PROVIDED the cash does not exceed
$375,000 and common stock equal to 2% of the shares we sell to purchasers in the
offering, PROVIDED the common stock contribution does not exceed 37,500 shares.
The purpose of the charitable foundation is to enhance the relationship between
First Federal of Northern Michigan and the communities in which we operate and
to enable our communities to share in our long-term growth. First Federal
Community Foundation will be dedicated completely to community activities and
the promotion of charitable causes, and may be able to support such activities
in manners that are not presently available to us. We believe that First Federal
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Community Foundation will enable us to assist the communities within our market
area in capacities beyond community development and lending, and will enhance
our current activities under the Community Reinvestment Act. First Federal of
Northern Michigan received a "Satisfactory" rating in its most recent Community
Reinvestment Act examination by the Office of Thrift Supervision.
We further believe that funding First Federal Community Foundation with
shares of First Federal of Northern Michigan Bancorp, Inc. common stock and cash
will allow our community to share in the potential growth and success of First
Federal of Northern Michigan long after the offering is completed. First Federal
Community Foundation will accomplish this goal by establishing continued ties
with First Federal of Northern Michigan, thereby forming a partnership within
the communities in which First Federal of Northern Michigan operates.
STRUCTURE OF THE CHARITABLE FOUNDATION
First Federal Community Foundation will be incorporated under Delaware
law as a non-stock, nonprofit corporation. The certificate of incorporation of
First Federal Community Foundation will provide that the corporation is
organized exclusively for charitable purposes as set forth in Section 501(c)(3)
of the Internal Revenue Code. The foundation's certificate of incorporation will
further provide that no part of the foundation's net earnings will inure to the
benefit of, or be distributable to, its directors, officers or members.
We have selected Gary C. VanMassenhove, Michael W. Mahler and Amy E.
Essex to serve on the initial board of directors of the charitable foundation.
As required by Office of Thrift Supervision regulations, we also will select one
additional person to serve on the initial board of directors who will not be one
of our officers or directors and who will have experience with local charitable
organizations and grant making. While there are no plans to change the size of
the initial board of directors during the year following the completion of the
conversion, following the first anniversary of the conversion, the charitable
foundation may alter the size and composition of its board of directors. For
five years after the conversion, one seat on the foundation's board of directors
will be reserved for a person from our local community who has experience with
local community charitable organizations and grant making and who is not one of
our officers, directors or employees, and one seat on the charitable
foundation's board of directors will be reserved for one of First Federal of
Northern Michigan's directors.
The business experience of Gary C. VanMassenhove, Michael W. Mahler and
Amy E. Essex is described in "Management of First Federal of Northern Michigan
Bancorp, Inc." on page 93.
The board of directors of First Federal Community Foundation will be
responsible for establishing its grant and donation policies, consistent with
the purposes for which it was established. As directors of a nonprofit
corporation, directors of First Federal Community Foundation will at all times
be bound by their fiduciary duty to advance the foundation's charitable goals,
to protect its assets and to act in a manner consistent with the charitable
purposes for which the foundation is established. The directors of First Federal
Community Foundation also will be responsible for directing the activities of
the charitable foundation, including the management and voting of the shares of
common stock of First Federal of Northern Michigan Bancorp, Inc. held by the
charitable foundation. However, as required by Office of Thrift Supervision
regulations, all shares of common stock held by the foundation must be voted in
the same ratio as all other shares of the common stock on all proposals
considered by stockholders of First Federal of Northern Michigan Bancorp, Inc.
First Federal Community Foundation's place of business will be located
at our administrative offices. The board of directors of the foundation will
appoint such officers and employees as may be necessary to manage its
operations. To the extent applicable, we will comply with the affiliates
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restrictions set forth in Sections 23A and 23B of the Federal Reserve Act and
the Office of Thrift Supervision regulations governing transactions between
First Federal of Northern Michigan and the foundation.
First Federal Community Foundation will receive working capital from:
(1) any dividends that may be paid on First Federal of Northern
Michigan Bancorp, Inc.'s shares of common stock in the future;
(2) within the limits of applicable federal and state laws, loans
collateralized by the shares of common stock; or
(3) the proceeds of the sale of any of the shares of common stock in
the open market from time to time.
As a private foundation under Section 501(c)(3) of the Internal Revenue
Code, the foundation will be required to distribute annually in grants or
donations a minimum of 5% of the average fair market value of its net investment
assets. Legislation has been introduced that, if enacted, could have the impact
of increasing the charitable foundation's required annual distribution in grants
or donations. One of the conditions imposed on the gift of common stock is that
the amount of common stock that may be sold by the foundation in any one year
shall not exceed 5% of the average market value of the assets held by the
foundation, except where the board of directors of the charitable foundation
determines that the failure to sell an amount of common stock greater than such
amount would result in a long-term reduction of the value of its assets and/or
would otherwise jeopardize its capacity to carry out its charitable purposes.
TAX CONSIDERATIONS
Our independent tax advisor, Luse Gorman Pomerenk & Schick, P.C., has
advised us that an organization created for the above purposes should qualify as
a Section 501(c)(3) exempt organization under the Internal Revenue Code and
should be classified as a private foundation. First Federal Community Foundation
will submit a timely request to the Internal Revenue Service to be recognized as
an exempt organization. As long as the foundation files its application for
tax-exempt status within 15 months from the date of its organization, and
provided the Internal Revenue Service approves the application, its effective
date as a Section 501(c)(3) organization will be the date of its organization.
Our independent tax advisor, however, has not rendered any advice on whether the
foundation's tax exempt status will be affected by the regulatory requirement
that all shares of common stock of First Federal of Northern Michigan Bancorp,
Inc. held by it must be voted in the same ratio as all other outstanding shares
of common stock of First Federal of Northern Michigan Bancorp, Inc. on all
proposals considered by stockholders of First Federal of Northern Michigan
Bancorp, Inc.
Alpena Bancshares, Inc. and First Federal of Northern Michigan are
authorized by federal law to make charitable contributions. We believe that the
conversion presents a unique opportunity to establish and fund a charitable
foundation given the substantial amount of additional capital being raised. In
making such a determination, we considered the dilutive impact to our
stockholders of the contribution of shares of common stock to First Federal
Community Foundation. We believe that the contribution to the foundation in
excess of the 10% annual limitation on charitable deductions described below is
justified given First Federal of Northern Michigan's capital position and its
earnings, the substantial additional capital being raised in the stock offering
and the potential benefits of the First Federal of Northern Michigan Foundation
to our community. See "Capitalization," "Historical and Pro Forma Regulatory
Capital Compliance, and "Comparison of Valuation and Pro Forma Information With
and Without the Foundation." The amount of the contribution will not adversely
affect our financial condition, and it does
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not raise safety and soundness concerns. We therefore believe that the amount of
the charitable contribution is reasonable given our pro forma capital position.
We have received an opinion from our independent tax advisor that First
Federal of Northern Michigan Bancorp, Inc.'s contribution of shares of its
common stock to the foundation should not constitute an act of self-dealing and
that we should be entitled to a deduction in the amount of the fair market value
of the stock at the time of the contribution less the nominal amount that First
Federal Community Foundation is required to pay First Federal of Northern
Michigan Bancorp, Inc. for such stock. We are permitted to deduct only an amount
equal to 10% of our annual taxable income in any one year. We are permitted
under the Internal Revenue Code to carry the excess contribution over the
five-year period following the contribution to the foundation. We estimate that
substantially all of the contribution should be deductible over the six-year
period. However, we do not have any assurance that the Internal Revenue Service
will grant tax-exempt status to the foundation. Furthermore, even if the
contribution is deductible, we may not have sufficient earnings to be able to
use the deduction in full. We do not expect to make any further contributions to
the foundation within the first five years following the initial contribution,
unless such contributions would be deductible under the Internal Revenue Code.
Any such decisions would be based on an assessment of, among other factors, our
financial condition at that time, the interests of our stockholders and
depositors, and the financial condition and operations of the foundation.
Although we have received an opinion from our independent tax advisor
that we should be entitled to a deduction for the charitable contribution, there
can be no assurances that the Internal Revenue Service will recognize the First
Federal of Northern Michigan Foundation as a Section 501(c)(3) exempt
organization or that the deduction will be permitted. In such event, our
contribution to the foundation would be expensed without tax benefit, resulting
in a larger reduction in earnings in the year in which the Internal Revenue
Service makes such a determination.
As a private foundation, earnings and gains, if any, from the sale of
common stock or other assets are exempt from federal and state income taxation.
However, investment income, such as interest, dividends and capital gains, is
generally taxed at a rate of 2.0%. Legislation has been introduced that, if
enacted, would reduce this rate to 1.0%. First Federal Community Foundation will
be required to file an annual return with the Internal Revenue Service within
four and one-half months after the close of its fiscal year. First Federal
Community Foundation will be required to make its annual return available for
public inspection. The annual return for a private foundation includes, among
other things, an itemized list of all grants made or approved, showing the
amount of each grant, the recipient, any relationship between a grant recipient
and the foundation's managers and a concise statement of the purpose of each
grant.
REGULATORY REQUIREMENTS IMPOSED ON THE CHARITABLE FOUNDATION
Office of Thrift Supervision regulations impose the following
requirements on the establishment of the charitable foundation:
o the Office of Thrift Supervision may examine the charitable
foundation at the foundation's expense;
o the charitable foundation must comply with all supervisory
directives imposed by the Office of Thrift Supervision;
o the charitable foundation must provide annually to the Office of
Thrift Supervision a copy of the annual report that the
foundation submits to the Internal Revenue Service;
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o the charitable foundation must operate according to written
policies adopted by its board of directors, including a conflict
of interest policy;
o the charitable foundation may not engage in self-dealing and
must comply with all laws necessary to maintain its tax-exempt
status under the Internal Revenue Code; and
o the charitable foundation must vote its shares in the same ratio
as all of the other shares voted on each proposal considered by
the stockholders of First Federal of Northern Michigan Bancorp,
Inc.
Within six months of completing the offering, the foundation must submit
to the Office of Thrift Supervision a three-year operating plan.
COMPARISON OF STOCKHOLDERS' RIGHTS FOR EXISTING STOCKHOLDERS
OF ALPENA BANCSHARES, INC.
GENERAL. As a result of the conversion, existing stockholders of Alpena
Bancshares, Inc. will become stockholders of First Federal of Northern Michigan
Bancorp, Inc.. There are differences in the rights of stockholders of Alpena
Bancshares, Inc. and stockholders of First Federal of Northern Michigan Bancorp,
Inc. caused by differences between federal and Maryland law and regulations and
differences in Alpena Bancshares, Inc.'s federal stock charter and bylaws and
First Federal of Northern Michigan Bancorp, Inc.'s Maryland articles of
incorporation and bylaws.
This discussion is not intended to be a complete statement of the
differences affecting the rights of stockholders, but rather summarizes the
material differences and similarities affecting the rights of stockholders. This
discussion is qualified in its entirety by reference to the articles of
incorporation and bylaws of First Federal of Northern Michigan Bancorp, Inc. and
the Maryland General Corporation Law. See "Where You Can Find Additional
Information" for procedures for obtaining a copy of First Federal of Northern
Michigan Bancorp, Inc.'s articles of incorporation and bylaws.
AUTHORIZED CAPITAL STOCK. Alpena Bancshares, Inc.'s authorized capital
stock currently consists of 20,000,000 shares of common stock, par value $1.00
per share, and 10,000,000 shares of preferred stock. After the conversion, First
Federal of Northern Michigan Bancorp, Inc.'s authorized capital stock will
consist of 20,000,000 shares of common stock, $0.01 par value per share, and
10,000,000 shares of preferred stock, par value $0.01 per share. We authorized
more capital stock than that which will be issued in the conversion in order to
provide our Board of Directors with flexibility to effect, among other
transactions, financings, acquisitions, stock dividends, stock splits and stock
option grants. These additional authorized shares may also be used by our Board
of Directors, however, consistent with its fiduciary duty, to deter future
attempts to gain control of First Federal of Northern Michigan Bancorp, Inc. Our
Board of Directors also has sole authority to determine the terms of any one or
more series of preferred stock, including voting rights, conversion rates and
liquidation preferences. As a result of the ability to fix voting rights for a
series of preferred stock, our Board of Directors has the power, to the extent
consistent with its fiduciary duty, to issue a series of preferred stock to
persons friendly to management in order to attempt to block a hostile tender
offer, merger or other transaction by which a third party seeks control, and
thereby assist management to retain its position. We currently have no plans for
the issuance of additional shares, other than the issuance of additional shares
through our stock benefit plans.
ISSUANCE OF CAPITAL STOCK. Pursuant to applicable laws and regulations,
Alpena Bancshares, M.H.C. is required to own not less than a majority of the
outstanding shares of Alpena Bancshares, Inc.
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common stock. Alpena Bancshares, M.H.C. will no longer exist following
consummation of the conversion.
First Federal of Northern Michigan Bancorp, Inc.'s Maryland articles of
incorporation do not contain restrictions on the issuance of shares of capital
stock to directors, officers or controlling persons, whereas Alpena Bancshares,
Inc.'s federal stock charter restricts such issuances to general public
offerings, or to directors for qualifying shares, unless the share issuance or
the plan under which they would be issued has been approved by a majority of the
total votes eligible to be cast at a legal stockholders' meeting. Thus,
stock-related compensation plans, such as stock option plans and recognition and
retention plans, may be adopted by First Federal of Northern Michigan Bancorp,
Inc. without stockholder approval and shares of First Federal of Northern
Michigan Bancorp, Inc. capital stock may be issued directly to directors or
officers without stockholder approval. Stockholder approval of stock-related
compensation plans may be sought in certain instances in order to qualify such
plans for favorable federal income tax and securities law treatment under
current laws and regulations, and is required under Nasdaq listing requirements.
VOTING RIGHTS. Neither Alpena Bancshares, Inc.'s federal stock charter
or bylaws nor First Federal of Northern Michigan Bancorp, Inc.'s Maryland
articles of incorporation or bylaws provide for cumulative voting for the
election of directors. For additional information regarding voting rights, see
"--Limitations on Voting Rights of Greater-than-10% Stockholders" below.
PAYMENT OF DIVIDENDS. The ability of Alpena Bancshares, Inc. to pay
dividends on its capital stock is restricted by Office of Thrift Supervision
regulations and by federal income tax considerations related to federal savings
banks such as First Federal of Northern Michigan. See "Supervision and
Regulation--Federal Banking Regulation--Capital Distributions." Although First
Federal of Northern Michigan Bancorp, Inc. is not subject to these restrictions
as a Maryland corporation, such restrictions will indirectly affect First
Federal of Northern Michigan Bancorp, Inc. because dividends from First Federal
of Northern Michigan will be the primary source of funds of First Federal of
Northern Michigan Bancorp, Inc. for the payment of dividends to stockholders of
First Federal of Northern Michigan Bancorp, Inc.
Certain restrictions generally imposed on Maryland corporations may also
have an impact on First Federal of Northern Michigan Bancorp, Inc.'s ability to
pay dividends. Maryland law generally provides that First Federal of Northern
Michigan Bancorp, Inc. is limited to paying dividends in an amount equal to our
capital surplus over payments that would be owed upon dissolution to
stockholders whose preferential rights upon dissolution are superior to those
receiving the dividend, and to an amount that would not make us insolvent.
BOARD OF DIRECTORS. Alpena Bancshares, Inc.'s federal stock charter and
bylaws and First Federal of Northern Michigan Bancorp, Inc.'s Maryland articles
of incorporation and bylaws each require the Board of Directors to be divided
into three classes and that the members of each class shall be elected for a
term of three years and until their successors are elected and qualified, with
one class being elected annually.
Under Alpena Bancshares, Inc.'s federal bylaws, any vacancies on the
Board of Directors of Alpena Bancshares, Inc. may be filled by the affirmative
vote of a majority of the remaining directors although less than a quorum of the
Board of Directors. Persons elected by the Board of Directors of Alpena
Bancshares, Inc. to fill vacancies may only serve until the next annual meeting
of stockholders. Under First Federal of Northern Michigan Bancorp, Inc.'s
Maryland articles of incorporation, any vacancy occurring on the Board of
Directors, including any vacancy created by reason of an increase in the number
of directors, may be filled only by a majority of the remaining directors, and
any director so
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chosen shall hold office for the remainder of the term to which the director has
been elected and until his or her successor is elected and qualified.
Under Alpena Bancshares, Inc.'s federal bylaws, any director may be
removed for cause by the holders of a majority of the outstanding voting shares.
First Federal of Northern Michigan Bancorp, Inc.'s Maryland articles of
incorporation provide that any director may be removed for cause by the holders
of at least 80% of the outstanding voting shares of First Federal of Northern
Michigan Bancorp, Inc.
LIMITATIONS ON LIABILITY. The federal stock charter and bylaws of Alpena
Bancshares, Inc. do not limit the personal liability of directors.
First Federal of Northern Michigan Bancorp, Inc.'s Maryland articles of
incorporation provide that directors will not be personally liable for monetary
damages to First Federal of Northern Michigan Bancorp, Inc. for certain actions
as directors, except for (i) actions or omissions that are determined to have
involved active and deliberate dishonesty, or (ii) receipt of an improper
personal benefit from their positions as directors, or (iii) to the extent
allowed by Maryland law. These provisions might, in certain instances,
discourage or deter stockholders or management from bringing a lawsuit against
directors for a breach of their duties even though such an action, if
successful, might benefit First Federal of Northern Michigan Bancorp, Inc.
INDEMNIFICATION OF DIRECTORS, OFFICERS, EMPLOYEES AND AGENTS. Alpena
Bancshares, Inc.'s federal bylaws provide indemnification to directors, officers
and employees to the fullest extent allowed by law Under current Office of
Thrift Supervision regulations Alpena Bancshares, Inc. shall indemnify its
directors, officers and employees for any costs incurred in connection with any
litigation involving such person's activities as a director, officer or employee
if such person obtains a final judgment on the merits in his or her favor. In
addition, indemnification is permitted in the case of a settlement, a final
judgment against such person, or final judgment other than on the merits, if a
majority of disinterested directors determines that such person was acting in
good faith within the scope of his or her employment as he or she could
reasonably have perceived it under the circumstances and for a purpose he or she
could reasonably have believed under the circumstances was in the best interests
of Alpena Bancshares, Inc. or its stockholders. Alpena Bancshares, Inc. also is
permitted to pay ongoing expenses incurred by a director, officer or employee if
a majority of disinterested directors concludes that such person may ultimately
be entitled to indemnification. Before making any indemnification payment,
Alpena Bancshares, Inc. is required to notify the Office of Thrift Supervision
of its intention and such payment cannot be made if the Office of Thrift
Supervision objects to such payment.
The officers, directors, agents and employees of First Federal of
Northern Michigan Bancorp, Inc. are indemnified with respect to certain actions
pursuant to First Federal of Northern Michigan Bancorp, Inc.'s Maryland articles
of incorporation and Maryland law. Maryland law allows First Federal of Northern
Michigan Bancorp, Inc. to indemnify any person for expenses, liabilities,
settlements, judgments and fines in suits in which such person has been made a
party by reason of the fact that he or she is or was a director, officer or
employee of First Federal of Northern Michigan Bancorp, Inc. No such
indemnification may be given if the acts or omissions of the person are adjudged
to be in bad faith and materials to the matter giving rise to the proceeding, if
such person is liable to the corporation for an unlawful distribution, or if
such person personally received a benefit to which he or she was not entitled.
The right to indemnification includes the right to be paid the expenses incurred
in advance of final disposition of a proceeding.
SPECIAL MEETINGS OF STOCKHOLDERS. Alpena Bancshares, Inc.'s federal
bylaws provide that special meetings of Alpena Bancshares, Inc.'s stockholders
may be called by the Chairman, the President, a
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majority of the Board of Directors or the holders of not less than one-tenth of
the outstanding capital stock of Alpena Bancshares, Inc. entitled to vote at the
meeting. First Federal of Northern Michigan Bancorp, Inc.'s Maryland bylaws
provide that special meetings of the stockholders of First Federal of Northern
Michigan Bancorp, Inc. may be called by the President, by a majority vote of the
total authorized directors, or upon the written request of shareholders entitled
to cast at least a majority of all votes entitled to vote at the meeting.
STOCKHOLDER NOMINATIONS AND PROPOSALS. Alpena Bancshares, Inc.'s federal
bylaws generally provide that stockholders may submit nominations for election
of directors at an annual meeting of stockholders and may propose any new
business to be taken up at such a meeting by filing the proposal in writing with
Alpena Bancshares, Inc. at least five days before the date of any such meeting.
First Federal of Northern Michigan Bancorp, Inc.'s Maryland bylaws
generally provide that any stockholder desiring to make a nomination for the
election of directors or a proposal for new business at a meeting of
stockholders must submit written notice to First Federal of Northern Michigan
Bancorp, Inc. 90 days prior to the anniversary date of the mailing of proxy
materials by First Federal of Northern Michigan Bancorp, Inc. in connection with
the immediately preceding annual meeting of stockholders. However, if the date
of the annual meeting is advanced more than 20 days prior to or delayed by more
than 60 days after the anniversary of the preceding year's annual meeting,
stockholders must submit such written notice no earlier than the 120th day, and
not later than the 90th day, prior to the annual meeting, or alternatively, not
later than the tenth day following the date on which notice of the meeting is
mailed to stockholders or such public disclosure was made if such notice occurs
less than 100 days prior to the meeting. Failure to comply with these advance
notice requirements will preclude such nominations or new business from being
considered at the meeting. Management believes that it is in the best interests
of First Federal of Northern Michigan Bancorp, Inc. and its stockholders to
provide sufficient time to enable management to disclose to stockholders
information about a dissident slate of nominations for directors. This advance
notice requirement may also give management time to solicit its own proxies in
an attempt to defeat any dissident slate of nominations, should management
determine that doing so is in the best interests of stockholders generally.
Similarly, adequate advance notice of stockholder proposals will give management
time to study such proposals and to determine whether to recommend to the
stockholders that such proposals be adopted. In certain instances, such
provisions could make it more difficult to oppose management's nominees or
proposals, even if stockholders believe such nominees or proposals are in their
best interests.
STOCKHOLDER ACTION WITHOUT A MEETING. The federal bylaws of Alpena
Bancshares, Inc. provide that any action to be taken or which may be taken at
any annual or special meeting of stockholders may be taken if a consent in
writing, setting forth the actions so taken, is given by the holders of all
outstanding shares entitled to vote. First Federal of Northern Michigan Bancorp,
Inc.'s Maryland bylaws provide similar authority of stockholders to act without
a meeting.
STOCKHOLDER'S RIGHT TO EXAMINE BOOKS AND RECORDS. A federal regulation,
which is applicable to Alpena Bancshares, Inc., provides that stockholders may
inspect and copy specified books and records of a federally chartered savings
institution after proper written notice for a proper purpose. Maryland law
provides that a stockholder may inspect a company's bylaws, stockholder minutes,
annual statement of affairs and any voting trust agreements. However, only a
shareholder or group of shareholders who together, for at least 6 months hold at
least 5% of the company's total shares, have the right to inspect a company's
stock ledger, list of stockholders and books of accounts.
LIMITATIONS ON VOTING RIGHTS OF GREATER-THAN-10% STOCKHOLDERS. First
Federal of Northern Michigan Bancorp, Inc.'s Maryland articles of incorporation
provide that no record or beneficial owner, directly or indirectly, of more than
10% of the outstanding shares of common stock will be permitted to
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vote any shares in excess of such 10% limit. First Federal of Northern Michigan
Bancorp, Inc.'s federal charter has no similar provision.
MERGERS, CONSOLIDATIONS AND SALES OF ASSETS. A federal regulation
applicable to Alpena Bancshares, Inc. generally requires the approval of
two-thirds of the Board of Directors of Alpena Bancshares, Inc. and the holders
of two-thirds of the outstanding stock of Alpena Bancshares, Inc. entitled to
vote thereon for mergers, consolidations and sales of all or substantially all
of Alpena Bancshares, Inc.'s assets. Such regulation permits Alpena Bancshares,
Inc. to merge with another corporation without obtaining the approval of its
stockholders if:
(i) it does not involve an interim savings institution;
(ii) Alpena Bancshares, Inc.'s federal stock charter is not changed;
(iii) each share of Alpena Bancshares, Inc.'s stock outstanding
immediately prior to the effective date of the transaction will
be an identical outstanding share or a treasury share of Alpena
Bancshares, Inc. after such effective date; and
(iv) either:
(a) no shares of voting stock of Alpena Bancshares, Inc. and
no securities convertible into such stock are to be
issued or delivered under the plan of combination; or
(b) the authorized but unissued shares or the treasury
shares of voting stock of Alpena Bancshares, Inc. to be
issued or delivered under the plan of combination, plus
those initially issuable upon conversion of any
securities to be issued or delivered under such plan, do
not exceed 15% of the total shares of voting stock of
Alpena Bancshares, Inc. outstanding immediately prior to
the effective date of the transaction.
First Federal of Northern Michigan Bancorp, Inc.'s Maryland articles of
incorporation require the approval of the holders of at least 80% of First
Federal of Northern Michigan Bancorp, Inc.'s outstanding shares of voting stock
to approve certain "Business Combinations" involving an "Interested Stockholder"
except where:
(i) the proposed transaction has been approved by a majority of the
members of the Board of Directors who are unaffiliated with the
Interested Stockholder and who were directors prior to the time
when the Interested Stockholder became an Interested
Stockholder; or
(ii) certain "fair price" provisions are complied with.
(iii) The term "Interested Stockholder" includes any person or entity,
other than First Federal of Northern Michigan Bancorp, Inc. or
its subsidiary, which owns beneficially or controls, directly or
indirectly, 10% or more of the outstanding shares of voting
stock of First Federal of Northern Michigan Bancorp, Inc. This
provision of the articles of incorporation applies to any
"Business Combination," which is defined to include, among other
things, any merger or consolidation of First Federal of Northern
Michigan Bancorp, Inc. or transfer, or other disposition of 25%
or more of the assets of First Federal of Northern Michigan
Bancorp, Inc. with an Interested Stockholder;
Under Maryland law, absent this provision, business combinations,
including mergers, consolidations and sales of substantially all of the assets
of a corporation must, subject to certain exceptions, be approved by the vote of
the holders of a majority of the outstanding shares of common
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stock of First Federal of Northern Michigan Bancorp, Inc. and any other affected
class of stock. One exception under Maryland law to the majority approval
requirement applies to stockholders owning 10% or more of the common stock of a
corporation for a period of less than five years. Such 10% stockholder, in order
to obtain approval of a business combination, must obtain the approval of
two-thirds of the outstanding stock, excluding the stock owned by such 10%
stockholder, or satisfy other requirements under Maryland law relating to board
of director approval of his or her acquisition of the shares of First Federal of
Northern Michigan Bancorp, Inc. The increased stockholder vote required to
approve a business combination may have the effect of preventing mergers and
other business combinations which a majority of stockholders deem desirable and
placing the power to prevent such a merger or combination in the hands of a
minority of stockholders.
First Federal of Northern Michigan Bancorp, Inc.'s Maryland articles of
incorporation provide that the Board of Directors may consider certain factors
in addition to the amount of consideration to be paid when evaluating certain
business combinations or a tender or exchange offer. These additional factors
include the social and economic effects of the transaction on its customers and
employees and the communities served by First Federal of Northern Michigan
Bancorp, Inc.
DISSENTERS' RIGHTS OF APPRAISAL. The following discussion is intended as
a brief summary of the material provisions of Office of Thrift Supervision
regulatory procedures that an Alpena Bancshares, Inc. stockholder must follow in
order to dissent from the Conversion and obtain payment of the fair value of his
or her shares of Alpena Bancshares, Inc. common stock. This summary is not,
however, a complete statement of all applicable requirements and is qualified in
its entirety by reference to Section 552.14 of the Rules and Regulations of the
Office of Thrift Supervision (12 C.F.R. ss.552.14).
Office of Thrift Supervision regulations generally provide that a
stockholder of a federally chartered corporation that engages in a merger,
consolidation or sale of all or substantially all of its assets shall have the
right to demand from such institution payment of the fair or appraised value of
his or her stock in the corporation, subject to specified procedural
requirements. A dissenting stockholder must make a written demand for the
appraisal and must vote against the Conversion. Within 10 days after the
effective date of the Conversion, First Federal of Northern Michigan Bancorp,
Inc. will offer, to each dissenting stockholder, to purchase their dissenting
shares at a specified price. A dissenting stockholder may choose to accept this
offer as the fair value of the shares held, or alternatively, a dissenting
stockholder must file a petition with the Office of Thrift Supervision demanding
a determination of the fair value of the shares.
Under Maryland law, stockholders of First Federal of Northern Michigan
Bancorp, Inc. will not have dissenters' appraisal rights in connection with a
plan of merger or consolidation to which First Federal of Northern Michigan
Bancorp, Inc. is a party as long as the common stock of First Federal of
Northern Michigan Bancorp, Inc. trades on the Nasdaq Stock Market.
AMENDMENT OF GOVERNING INSTRUMENTS. No amendment of Alpena Bancshares,
Inc.'s federal stock charter may be made unless it is first proposed by the
Board of Directors of Alpena Bancshares, Inc., then preliminarily approved by
the Office of Thrift Supervision, and thereafter approved by the holders of a
majority of the total votes eligible to be cast at a legal meeting. First
Federal of Northern Michigan Bancorp, Inc.'s Maryland articles of incorporation
may be amended by the vote of the holders of a majority of the outstanding
shares of First Federal of Northern Michigan Bancorp, Inc. common stock, except
that the provisions of the articles of incorporation governing the calling of
meetings of stockholders and the prohibition of action by written consent of
stockholders, stockholder nominations and proposals, limitations on voting
rights of 10% stockholders, the number and staggered terms of directors,
vacancies on the Board of Directors and removal of directors, approval of
certain business combinations, indemnification of officers and directors, and
the manner of amending the articles of
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incorporation and bylaws, may not be repealed, altered, amended or rescinded
except by the vote of the holders of at least 80% of the outstanding shares of
First Federal of Northern Michigan Bancorp, Inc.
The federal bylaws of Alpena Bancshares, Inc. may be amended by a
majority vote of the full Board of Directors of Alpena Bancshares, Inc. or by a
majority of the votes cast by the stockholders of Alpena Bancshares, Inc. at any
legal meeting. First Federal of Northern Michigan Bancorp, Inc.'s Maryland
bylaws may only be amended by a majority vote of the Board of Directors of First
Federal of Northern Michigan Bancorp, Inc. or by the holders of at least 80% of
the outstanding common stock of First Federal of Northern Michigan Bancorp, Inc.
RESIDENCY REQUIREMENT FOR DIRECTORS. First Federal of Northern Michigan
Bancorp, Inc.'s Maryland bylaws provide that only persons who reside or work in
a county in which First Federal of Northern Michigan maintains an office or in a
county contiguous to a county in which First Federal of Northern Michigan
maintains an office will be qualified to be appointed or elected to the Board of
Directors of First Federal of Northern Michigan Bancorp, Inc. Alpena Bancshares,
Inc.'s federal bylaws have no similar provision.
PURPOSE AND ANTI-TAKEOVER EFFECTS OF FIRST FEDERAL OF NORTHERN MICHIGAN
BANCORP, INC.'S MARYLAND ARTICLES OF INCORPORATION AND BYLAWS. Our Board of
Directors believes that the provisions described above are prudent and will
reduce our vulnerability to takeover attempts and certain other transactions
that have not been negotiated with and approved by our Board of Directors. These
provisions also will assist us in the orderly deployment of the offering
proceeds into productive assets during the initial period after the conversion.
Our Board of Directors believes these provisions are in the best interests of
First Federal of Northern Michigan Bancorp, Inc. and its stockholders. Our Board
of Directors believes that it will be in the best position to determine the true
value of First Federal of Northern Michigan Bancorp, Inc. and to negotiate more
effectively for what may be in the best interests of its stockholders.
Accordingly, our Board of Directors believes that it is in the best interests of
First Federal of Northern Michigan Bancorp, Inc. and its stockholders to
encourage potential acquirers to negotiate directly with the Board of Directors
of First Federal of Northern Michigan Bancorp, Inc. and that these provisions
will encourage such negotiations and discourage hostile takeover attempts. It is
also the view of our Board of Directors that these provisions should not
discourage persons from proposing a merger or other transaction at a price
reflective of the true value of First Federal of Northern Michigan Bancorp, Inc.
and that is in the best interests of all stockholders.
Takeover attempts that have not been negotiated with and approved by our
Board of Directors present the risk of a takeover on terms that may be less
favorable than might otherwise be available. A transaction that is negotiated
and approved by our Board of Directors, on the other hand, can be carefully
planned and undertaken at an opportune time in order to obtain maximum value of
First Federal of Northern Michigan Bancorp, Inc. for our stockholders, with due
consideration given to matters such as the management and business of the
acquiring corporation and maximum strategic development of First Federal of
Northern Michigan Bancorp, Inc.'s assets.
Although a tender offer or other takeover attempt may be made at a price
substantially above the current market price, such offers are sometimes made for
less than all of the outstanding shares of a target company. As a result,
stockholders may be presented with the alternative of partially liquidating
their investment at a time that may be disadvantageous, or retaining their
investment in an enterprise that is under different management and whose
objectives may not be similar to those of the remaining stockholders.
Despite our belief as to the benefits to stockholders of these
provisions of First Federal of Northern Michigan Bancorp, Inc.'s Maryland
articles of incorporation and bylaws, these provisions may
150
also have the effect of discouraging a future takeover attempt that would not be
approved by our Board of Directors, but pursuant to which stockholders may
receive a substantial premium for their shares over then current market prices.
As a result, stockholders who might desire to participate in such a transaction
may not have any opportunity to do so. Such provisions will also make it more
difficult to remove our Board of Directors and management. Our Board of
Directors, however, has concluded that the potential benefits outweigh the
possible disadvantages.
Following the conversion, pursuant to applicable law and, if required,
following the approval by stockholders, we may adopt additional anti-takeover
provisions in our articles of incorporation or other devices regarding the
acquisition of our equity securities that would be permitted for a Maryland
business corporation.
The cumulative effect of the restrictions on acquisition of First
Federal of Northern Michigan Bancorp, Inc. contained in the Maryland articles of
incorporation and bylaws of First Federal of Northern Michigan Bancorp, Inc. and
in Maryland law may be to discourage potential takeover attempts and perpetuate
incumbent management, even though certain stockholders of First Federal of
Northern Michigan Bancorp, Inc. may deem a potential acquisition to be in their
best interests, or deem existing management not to be acting in their best
interests.
RESTRICTIONS ON ACQUISITION OF FIRST FEDERAL OF NORTHERN MICHIGAN
BANCORP, INC.
Although the Board of Directors of First Federal of Northern Michigan
Bancorp, Inc. is not aware of any effort that might be made to obtain control of
First Federal of Northern Michigan Bancorp, Inc. after the conversion, the Board
of Directors believes that it is appropriate to include certain provisions as
part of First Federal of Northern Michigan Bancorp, Inc.'s articles of
incorporation to protect the interests of First Federal of Northern Michigan
Bancorp, Inc. and its stockholders from takeovers which the Board of Directors
of First Federal of Northern Michigan Bancorp, Inc. might conclude are not in
the best interests of First Federal of Northern Michigan, First Federal of
Northern Michigan Bancorp, Inc. or First Federal of Northern Michigan Bancorp,
Inc.'s stockholders.
The following discussion is a general summary of the material provisions
of First Federal of Northern Michigan Bancorp, Inc.'s articles of incorporation
and bylaws, First Federal of Northern Michigan's charter and bylaws and certain
other regulatory provisions that may be deemed to have an "anti-takeover"
effect. The following description of certain of these provisions is necessarily
general and, with respect to provisions contained in First Federal of Northern
Michigan Bancorp, Inc.'s articles of incorporation and bylaws and First Federal
of Northern Michigan's stock charter and bylaws, reference should be made in
each case to the document in question, each of which is part of Alpena
Bancshares, M.H.C.'s application for conversion with the Office of Thrift
Supervision and First Federal of Northern Michigan Bancorp, Inc.'s registration
statement filed with the Securities and Exchange Commission. See "Where You Can
Find Additional Information."
FIRST FEDERAL OF NORTHERN MICHIGAN BANCORP, INC.'S ARTICLES OF INCORPORATION AND
BYLAWS
First Federal of Northern Michigan Bancorp, Inc.'s Maryland articles of
incorporation and bylaws contain a number of provisions relating to corporate
governance and rights of stockholders that might discourage future takeover
attempts. As a result, stockholders who might desire to participate in such
transactions may not have an opportunity to do so. In addition, these provisions
will also render the removal of the Board of Directors or management of First
Federal of Northern Michigan Bancorp, Inc. more difficult.
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DIRECTORS. The Board of Directors will be divided into three classes.
The members of each class will be elected for a term of three years and only one
class of directors will be elected annually. Thus, it would take at least two
annual elections to replace a majority of First Federal of Northern Michigan
Bancorp, Inc.'s Board of Directors. Further, the bylaws impose notice and
information requirements in connection with the nomination by stockholders of
candidates for election to the Board of Directors or the proposal by
stockholders of business to be acted upon at an annual meeting of stockholders.
RESTRICTIONS ON CALL OF SPECIAL MEETINGS. The articles of incorporation
and bylaws provide that special meetings of stockholders can be called by the
President, by a majority of the whole board or upon the upon the written request
of shareholders entitled to cast at least a majority of all votes entitled to
vote at the meeting .
PROHIBITION OF CUMULATIVE VOTING. The articles of incorporation prohibit
cumulative voting for the election of directors.
LIMITATION OF VOTING RIGHTS. The articles of incorporation provide that
in no event will any person who beneficially owns more than 10% of the
then-outstanding shares of common stock, be entitled or permitted to vote any of
the shares of common stock held in excess of the 10% limit.
RESTRICTIONS ON REMOVING DIRECTORS FROM OFFICE. The articles of
incorporation provide that directors may only be removed for cause, and only by
the affirmative vote of the holders of at least 80% of the voting power of all
of our then-outstanding common stock entitled to vote (after giving effect to
the limitation on voting rights discussed above in "--Limitation of Voting
Rights.")
AUTHORIZED BUT UNISSUED SHARES. After the conversion, First Federal of
Northern Michigan Bancorp, Inc. will have authorized but unissued shares of
common and preferred stock. See "Description of Capital Stock of First Federal
of Northern Michigan Bancorp, Inc. Following the Conversion." The articles of
incorporation authorize 10,000,000 shares of serial preferred stock. First
Federal of Northern Michigan Bancorp, Inc. is authorized to issue preferred
stock from time to time in one or more series subject to applicable provisions
of law, and the Board of Directors is authorized to fix the designations, and
relative preferences, limitations, voting rights, if any, including without
limitation, offering rights of such shares (which could be multiple or as a
separate class). In the event of a proposed merger, tender offer or other
attempt to gain control of First Federal of Northern Michigan Bancorp, Inc. that
the Board of Directors does not approve, it might be possible for the Board of
Directors to authorize the issuance of a series of preferred stock with rights
and preferences that would impede the completion of the transaction. An effect
of the possible issuance of preferred stock therefore may be to deter a future
attempt to gain control of First Federal of Northern Michigan Bancorp, Inc. The
Board of Directors has no present plan or understanding to issue any preferred
stock.
AMENDMENTS TO ARTICLES OF INCORPORATION AND BYLAWS. Amendments to the
articles of incorporation must be approved by First Federal of Northern Michigan
Bancorp, Inc.'s Board of Directors and also by a majority of the outstanding
shares of First Federal of Northern Michigan Bancorp, Inc.'s voting stock;
provided, however, that approval by at least 80% of the outstanding voting stock
is generally required to amend the following provisions:
(i) The limitation on voting rights of persons who directly or
indirectly beneficially own more than 10% of the outstanding
shares of common stock;
(ii) The inability of stockholders to act by written consent;
(iii) The division of the Board of Directors into three staggered
classes;
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(iv) The ability of the Board of Directors to fill vacancies on the
board;
(v) The inability to deviate from the manner prescribed in the
bylaws by which stockholders nominate directors and bring other
business before meetings of stockholders;
(vi) The requirement that at least 80% of stockholders must vote to
remove directors, and can only remove directors for cause;
(vii) The ability of the Board of Directors to amend and repeal the
bylaws; and
(viii) The ability of the Board of Directors to evaluate a variety of
factors in evaluating offers to purchase or otherwise acquire
First Federal of Northern Michigan Bancorp, Inc.
The bylaws may be amended by the affirmative vote of a majority of the
directors of First Federal of Northern Michigan Bancorp, Inc. or the affirmative
vote of at least 80% of the total votes eligible to be voted at a duly
constituted meeting of stockholders.
CONVERSION REGULATIONS
Office of Thrift Supervision regulations prohibit any person from making
an offer, announcing an intent to make an offer or participating in any other
arrangement to purchase stock or acquiring stock or subscription rights in a
converting institution or its holding company from another person prior to
completion of its conversion. Further, without the prior written approval of the
Office of Thrift Supervision, no person may make an offer or announcement of an
offer to purchase shares or actually acquire shares of a converted institution
or its holding company for a period of three years from the date of the
completion of the conversion if, upon the completion of such offer, announcement
or acquisition, the person would become the beneficial owner of more than 10% of
the outstanding stock of the institution or its holding company. The Office of
Thrift Supervision has defined "person" to include any individual, group acting
in concert, corporation, partnership, association, joint stock company, trust,
unincorporated organization or similar company, a syndicate or any other group
formed for the purpose of acquiring, holding or disposing of securities of an
insured institution. However, offers made exclusively to a bank or its holding
company, or an underwriter or member of a selling group acting on the converting
institution's or its holding company's behalf for resale to the general public
are excepted. The regulation also provides civil penalties for willful violation
or assistance in any such violation of the regulation by any person connected
with the management of the converting institution or its holding company or who
controls more than 10% of the outstanding shares or voting rights of a converted
institution or its holding company.
CHANGE OF CONTROL REGULATIONS
Under the Change in Bank Control Act, no person may acquire control of
an insured federal savings bank or its parent holding company unless the Office
of Thrift Supervision has been given 60 days' prior written notice and has not
issued a notice disapproving the proposed acquisition. In addition, Office of
Thrift Supervision regulations provide that no company may acquire control of a
savings bank without the prior approval of the Office of Thrift Supervision. Any
company that acquires such control becomes a "savings and loan holding company"
subject to registration, examination and regulation by the Office of Thrift
Supervision.
Control, as defined under federal law, means ownership, control of or
holding irrevocable proxies representing more than 25% of any class of voting
stock, control in any manner of the election of a majority of the savings bank's
directors, or a determination by the Office of Thrift Supervision that the
acquiror has the power to direct, or directly or indirectly to exercise a
controlling influence over, the
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management or policies of the institution. Acquisition of more than 10% of any
class of a savings bank's voting stock, if the acquiror is also subject to any
one of eight "control factors," constitutes a rebuttable determination of
control under the regulations. Such control factors include the acquiror being
one of the two largest stockholders. The determination of control may be
rebutted by submission to the Office of Thrift Supervision, prior to the
acquisition of stock or the occurrence of any other circumstances giving rise to
such determination, of a statement setting forth facts and circumstances which
would support a finding that no control relationship will exist and containing
certain undertakings. The regulations provide that persons or companies which
acquire beneficial ownership exceeding 10% or more of any class of a savings
bank's stock who do not intend to participate in or seek to exercise control
over a savings bank's management or policies may qualify for a safe harbor by
filing with the Office of Thrift Supervision a certification form that states,
among other things, that the holder is not in control of such institution, is
not subject to a rebuttable determination of control and will take no action
which would result in a determination or rebuttable determination of control
without prior notice to or approval of the Office of Thrift Supervision, as
applicable. There are also rebuttable presumptions in the regulations concerning
whether a group "acting in concert" exists, including presumed action in concert
among members of an "immediate family."
The Office of Thrift Supervision may prohibit an acquisition of control
if it finds, among other things, that:
(i) the acquisition would result in a monopoly or substantially
lessen competition;
(ii) the financial condition of the acquiring person might jeopardize
the financial stability of the institution; or
(iii) the competence, experience or integrity of the acquiring person
indicates that it would not be in the interest of the depositors
or the public to permit the acquisition of control by such
person.
DESCRIPTION OF CAPITAL STOCK OF FIRST FEDERAL OF NORTHERN MICHIGAN
BANCORP, INC. FOLLOWING THE CONVERSION
GENERAL
At the effective date, First Federal of Northern Michigan Bancorp, Inc.
will be authorized to issue 20,000,000 shares of common stock, par value of
$0.01 per share, and 10,000,000 shares of preferred stock, par value $0.01 per
share. First Federal of Northern Michigan Bancorp, Inc. currently expects to
issue in the offering up to 1,840,000 shares of common stock (not including the
shares to be issued to the foundation), subject to adjustment, and up to
1,478,360 shares, subject to adjustment, in exchange for the publicly held
shares of Alpena Bancshares, Inc. First Federal of Northern Michigan Bancorp,
Inc. will not issue shares of preferred stock in the conversion. Each share of
First Federal of Northern Michigan Bancorp, Inc. common stock will have the same
relative rights as, and will be identical in all respects to, each other share
of common stock. Upon payment of the subscription price for the common stock, in
accordance with the plan of conversion and reorganization, all of the shares of
common stock will be duly authorized, fully paid and nonassessable.
The shares of common stock of First Federal of Northern Michigan
Bancorp, Inc. will represent nonwithdrawable capital, will not be an account of
an insurable type, and will not be insured by the Federal Deposit Insurance
Corporation or any other government agency.
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COMMON STOCK
DIVIDENDS. First Federal of Northern Michigan Bancorp, Inc. may pay
dividends to an amount equal to the excess of our capital surplus over payments
that would be owed upon dissolution to stockholders whose preferential rights
upon dissolution are superior to those receiving the dividend, and to an amount
that would not make us insolvent, as and when declared by its Board of
Directors. The payment of dividends by First Federal of Northern Michigan
Bancorp, Inc. is subject to limitations that are imposed by law and applicable
regulation. The holders of common stock of First Federal of Northern Michigan
Bancorp, Inc. will be entitled to receive and share equally in dividends as may
be declared by the Board of Directors of First Federal of Northern Michigan
Bancorp, Inc. out of funds legally available therefor. If First Federal of
Northern Michigan Bancorp, Inc. issues shares of preferred stock, the holders
thereof may have a priority over the holders of the common stock with respect to
dividends.
VOTING RIGHTS. Upon consummation of the conversion, the holders of
common stock of First Federal of Northern Michigan Bancorp, Inc. will have
exclusive voting rights in First Federal of Northern Michigan Bancorp, Inc. They
will elect First Federal of Northern Michigan Bancorp, Inc.'s Board of Directors
and act on other matters as are required to be presented to them under Maryland
law or as are otherwise presented to them by the Board of Directors. Generally,
each holder of common stock will be entitled to one vote per share and will not
have any right to cumulate votes in the election of directors. Any person who
beneficially owns more than 10% of the then-outstanding shares of First Federal
of Northern Michigan Bancorp, Inc.'s common stock, however, will not be entitled
or permitted to vote any shares of common stock held in excess of the 10% limit.
If First Federal of Northern Michigan Bancorp, Inc. issues shares of preferred
stock, holders of the preferred stock may also possess voting rights. Certain
matters require an 80% stockholder vote.
As a federal stock savings bank, corporate powers and control of First
Federal of Northern Michigan are vested in its Board of Directors, who elect the
officers of First Federal of Northern Michigan and who fill any vacancies on the
Board of Directors. Voting rights of First Federal of Northern Michigan are
vested exclusively in the owners of the shares of capital stock of First Federal
of Northern Michigan, which will be First Federal of Northern Michigan Bancorp,
Inc., and voted at the direction of First Federal of Northern Michigan Bancorp,
Inc.'s Board of Directors. Consequently, the holders of the common stock of
First Federal of Northern Michigan Bancorp, Inc. will not have direct control of
First Federal of Northern Michigan.
LIQUIDATION. In the event of any liquidation, dissolution or winding up
of First Federal of Northern Michigan, First Federal of Northern Michigan
Bancorp, Inc., as the holder of 100% of First Federal of Northern Michigan's
capital stock, would be entitled to receive all assets of First Federal of
Northern Michigan available for distribution, after payment or provision for
payment of all debts and liabilities of First Federal of Northern Michigan,
including all deposit accounts and accrued interest thereon, and after
distribution of the balance in the liquidation account to Eligible Account
Holders and Supplemental Eligible Account Holders. In the event of liquidation,
dissolution or winding up of First Federal of Northern Michigan Bancorp, Inc.,
the holders of its common stock would be entitled to receive, after payment or
provision for payment of all its debts and liabilities, all of the assets of
First Federal of Northern Michigan Bancorp, Inc. available for distribution. If
preferred stock is issued, the holders thereof may have a priority over the
holders of the common stock in the event of liquidation or dissolution.
PREEMPTIVE RIGHTS. Holders of the common stock of First Federal of
Northern Michigan Bancorp, Inc. will not be entitled to preemptive rights with
respect to any shares that may be issued. The common stock is not subject to
redemption.
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PREFERRED STOCK
None of the shares of First Federal of Northern Michigan Bancorp, Inc.'s
authorized preferred stock will be issued as part of the offering or the
conversion. Preferred stock may be issued with preferences and designations as
our Board of Directors may from time to time determine. Our Board of Directors
may, without stockholder approval, issue shares of preferred stock with voting,
dividend, liquidation and conversion rights that could dilute the voting
strength of the holders of the common stock and may assist management in
impeding an unfriendly takeover or attempted change in control.
TRANSFER AGENT
The transfer agent and registrar for First Federal of Northern Michigan
Bancorp, Inc.'s common stock is The Registrar and Transfer Company, Cranford,
New Jersey.
EXPERTS
The consolidated financial statements of Alpena Bancshares, Inc. as of
December 31, 2003 and 2002, and for each of the years in the two-year period
ended December 31, 2003, appearing elsewhere in this Prospectus have been
included herein and in the registration statement in reliance upon the report of
Plante & Moran, PLLC, independent certified public accountants, which is
included herein and upon the authority of that firm as experts in accounting and
auditing.
RP Financial has consented to the publication herein of the summary of
its report to First Federal of Northern Michigan Bancorp, Inc. setting forth its
opinion as to the estimated pro forma market value of the shares of common stock
upon completion of the conversion and offering and its letter with respect to
subscription rights.
LEGAL MATTERS
Luse Gorman Pomerenk & Schick, P.C., Washington, D.C., counsel to First
Federal of Northern Michigan Bancorp, Inc., Alpena Bancshares, M.H.C. and First
Federal of Northern Michigan, will issue to First Federal of Northern Michigan
Bancorp, Inc. its opinion regarding the legality of the common stock, the
federal income tax consequences of the conversion and the establishment of the
charitable foundation. Certain legal matters will be passed upon for Ryan Beck &
Co., Inc. by Muldoon Murphy & Aguggia LLP, Washington, D.C.
WHERE YOU CAN FIND ADDITIONAL INFORMATION
First Federal of Northern Michigan Bancorp, Inc. has filed with the
Securities and Exchange Commission a registration statement under the Securities
Act of 1933 with respect to the shares of common stock offered hereby. As
permitted by the rules and regulations of the Securities and Exchange
Commission, this Prospectus does not contain all the information set forth in
the registration statement. Such information, including the appraisal report
which is an exhibit to the registration statement, can be examined without
charge at the public reference facilities of the Securities and Exchange
Commission located at 450 Fifth Street, N.W., Washington, D.C. 20549, and copies
of such material can be obtained from the Securities and Exchange Commission at
prescribed rates. The Securities and Exchange Commission telephone number is
1-800-SEC-0330. In addition, the Securities and Exchange Commission maintains a
web site (http://www.sec.gov) that contains reports, proxy and information
statements and other information regarding registrants that file electronically
with the Securities and Exchange Commission, including First Federal of Northern
Michigan Bancorp, Inc. The statements contained in this Prospectus as to the
contents of any contract or other document filed as an exhibit to the
156
registration statement are, of necessity, brief descriptions of the material
terms of, and should be read in conjunction with, such contract or document.
Alpena Bancshares, M.H.C. has filed with the Office of Thrift
Supervision an Application on Form AC with respect to the conversion. This
Prospectus omits certain information contained in the application. The
application may be examined at the principal office of the Office of Thrift
Supervision, 1700 G Street, N.W., Washington, D.C. 20552, and at the Southeast
Regional Office of the Office of Thrift Supervision, 1475 Peachtree Street,
N.E., Atlanta, Georgia 30309. Our Plan of Conversion and Reorganization is
available, upon request, at each of our branch offices.
IN CONNECTION WITH THE OFFERING, FIRST FEDERAL OF NORTHERN MICHIGAN
BANCORP, INC. WILL REGISTER ITS COMMON STOCK UNDER SECTION 12(G) OF THE
SECURITIES EXCHANGE ACT OF 1934 AND, UPON SUCH REGISTRATION, FIRST FEDERAL OF
NORTHERN MICHIGAN BANCORP, INC. AND THE HOLDERS OF ITS COMMON STOCK WILL BECOME
SUBJECT TO THE PROXY SOLICITATION RULES, REPORTING REQUIREMENTS AND RESTRICTIONS
ON COMMON STOCK PURCHASES AND SALES BY DIRECTORS, OFFICERS AND GREATER THAN 10%
STOCKHOLDERS, THE ANNUAL AND PERIODIC REPORTING AND CERTAIN OTHER REQUIREMENTS
OF THE SECURITIES EXCHANGE ACT OF 1934. UNDER THE PLAN OF CONVERSION AND
REORGANIZATION, FIRST FEDERAL OF NORTHERN MICHIGAN BANCORP, INC. HAS UNDERTAKEN
THAT IT WILL NOT TERMINATE SUCH REGISTRATION FOR A PERIOD OF AT LEAST THREE
YEARS FOLLOWING THE STOCK OFFERING.
157
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
CONTENTS
REPORT LETTER F - 2
CONSOLIDATED FINANCIAL STATEMENTS
Statement of Financial Condition F - 3
Statement of Income F - 4
Statement of Changes in Stockholders' Equity F - 5
Statement of Cash Flows F - 7
Notes to Consolidated Financial Statements F - 8
All financial schedules are omitted because the required information either is
not applicable or is shown in the financial statements or in the notes thereto.
Separate financial statements for First Federal of Northern Michigan Bancorp,
Inc. have not been included in this prospectus because First Federal of Northern
Michigan Bancorp, Inc., which has engaged only in organizational activities to
date, has no significant assets, contingent or other liabilities, revenues or
expenses.
F - 1
[Letterhead of Plante & Moran, PLLC]
Independent Auditor's Report
Board of Directors
Alpena Bancshares, Inc. and Subsidiaries
We have audited the consolidated statement of financial condition of Alpena
Bancshares, Inc. and Subsidiaries as of December 31, 2003 and 2002 and the
related consolidated statements of income, changes in stockholders' equity, and
cash flows for each year in the two-year period ended December 31, 2003. These
consolidated financial statements are the responsibility of the Company'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 audits to obtain reasonable assurance about whether the consolidated
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the consolidated 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 consolidated financial position of Alpena
Bancshares, Inc. and Subsidiaries as of December 31, 2003 and 2002 and the
consolidated results of their operations and their cash flows for each year in
the two-year period ended December 31, 2003, in conformity with accounting
principles generally accepted in the United States of America.
/s/ Plante & Moran, PLLC
Auburn Hills, Michigan
January 30, 2004
F - 2
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
----------------------------------------------------------------------------------------------------------------------
CONSOLIDATED STATEMENT OF FINANCIAL CONDITION
(000S OMITTED, EXCEPT PER SHARE DATA)
Unaudited
September 30, December 31
------------ --------------------------
2004 2003 2002
------------ ------------ ------------
ASSETS
Cash and cash equivalents $ 4,727 $ 3,380 $ 3,091
Overnight deposits with Federal Home Loan Bank 97 3,326 12,008
------------ ------------ ------------
Total cash and cash equivalents 4,824 6,706 15,099
Securities available for sale (Note 2) 41,080 34,670 46,944
Securities held to maturity (Note 2) 1,800 -- --
Loans - Net (Note 3) 187,099 163,460 151,341
Loans held for sale 656 931 542
Foreclosed assets 1 199 128
Real estate held for sale (Note 4) 562 439 490
Federal Home Loan Bank stock 4,617 4,460 4,294
Property and equipment (Note 5) 6,432 5,817 4,761
Accrued interest receivable 1,222 1,066 1,323
Intangible assets (Note 7) 2,919 3,102 1,698
Goodwill 749 749 --
Other assets (Note 6) 2,515 2,324 2,188
------------ ------------ ------------
Total assets $ 254,476 $ 223,923 $ 228,808
============ ============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES
Non-interest bearing deposits $ 11,664 $ 7,281 $ 5,418
Interest bearing deposits (Note 8) 170,764 144,421 150,674
Advances from borrowers for taxes and insurance 292 96 4
Advances from Federal Home Loan Bank (Note 9) 46,052 45,802 48,414
Note payable (Note 10) 1,251 1,357 --
Accrued expenses and other liabilities (Note 14) 2,181 2,496 1,834
Deferred income taxes (Note 11) 336 519 717
------------ ------------ ------------
Total liabilities 232,540 201,972 207,061
STOCKHOLDERS' EQUITY (Note 13)
Common stock - $1 par value:
Authorized - 20,000,000 shares
Issued and outstanding - 1,659,180 at September 30, 2004,
1,657,480 shares in 2003 and 1,645,258 shares in 2002 1,659 1,657 1,645
Additional paid-in capital 5,354 5,338 5,216
Retained earnings - Restricted 5,060 4,807 4,347
Retained earnings 9,729 9,854 9,472
Accumulated other comprehensive income 134 295 1,067
------------ ------------ ------------
Total stockholders' equity 21,936 21,951 21,747
------------ ------------ ------------
See Notes to Consolidated
Financial Statements
F - 3
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
----------------------------------------------------------------------------------------------------------------------
CONSOLIDATED STATEMENT OF INCOME
(000S OMITTED, EXCEPT PER SHARE DATA)
Unaudited
For Nine Months Ended
Sepetember 30, Year Ended December 31
-------------------------- --------------------------
2004 2003 2003 2002
------------ ------------ ------------ ------------
INTEREST INCOME
Loans, including fees $ 8,447 $ 8,408 $ 11,214 $ 12,133
Investments 1,185 1,510 1,866 2,103
Mortgage-backed securities 166 207 270 263
------------ ------------ ------------ ------------
Total interest income 9,798 10,125 13,350 14,499
INTEREST EXPENSE
Deposits (Note 8) 2,620 2,874 3,719 5,466
Other borrowings 1,951 2,057 2,736 2,876
------------ ------------ ------------ ------------
Total interest expense 4,571 4,931 6,455 8,342
------------ ------------ ------------ ------------
NET INTEREST INCOME - Before provision for loan losses 5,227 5,194 6,895 6,157
PROVISION FOR LOAN LOSSES (NOTE 3) 214 238 267 415
------------ ------------ ------------ ------------
NET INTEREST INCOME - After provision for loan losses 5,013 4,956 6,628 5,742
OTHER INCOME (EXPENSES)
Service charges and other fees 749 560 801 818
Net gain on sale of loans 273 910 1,138 951
Loan servicing fees 188 382 425 450
Insurance and brokerage commissions 2,233 1,740 2,480 --
Gain on sale of investment securities (Note 2) 103 93 320 65
(Gain) loss on sale of real estate (20) 28 7 (17)
Other 73 179 255 118
------------ ------------ ------------ ------------
Total other income 3,599 3,892 5,426 2,385
OPERATING EXPENSES
Compensation and employee benefits (Note 14) 4,460 4,242 5,772 4,016
Amortization of intangible assets 230 214 292 205
Advertising 177 160 215 175
Occupancy and equipment 967 883 1,140 1,033
Data processing service bureau 250 226 304 281
Insurance and brokerage commission 970 771 1,087 --
Other 1,059 1,167 430 1,362
------------ ------------ ------------ ------------
Total operating expenses 8,113 7,663 10,327 7,072
------------ ------------ ------------ ------------
INCOME - Before federal income tax 499 1,185 1,727 1,055
FEDERAL INCOME TAX (Note 11) 167 394 518 285
------------ ------------ ------------ ------------
NET INCOME $ 332 $ 791 $ 1,209 $ 770
============ ============ ============ ============
PER SHARE DATA
Basic earnings per share $ 0.20 $ 0.48 $ 0.73 $ 0.47
Fully diluted earnings per share 0.20 0.48 0.73 0.47
Dividends per common share 0.28 0.38 0.50 0.50
See Notes to Consolidated
Financial Statements
F - 4
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------------------------------------------------------
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
(000S OMITTED, EXCEPT PER SHARE DATA)
Accumulated
Additional Shares Other Total
Common Paid-in Retained Acquired Comprehensive Stockholders'
Stock Capital Earnings by RRP Income (Loss) Equity
---------- ---------- -------- -------- ------------- -------------
BALANCE - January 1, 2002 $ 1,641 $ 5,179 $ 13,411 $ - $ 366 $ 20,597
Comprehensive income:
Net income - - 770 - - 770
Other comprehensive income:
Unrealized appreciation on available-for-
sale securities - Net of tax of $384 - - - - 744 744
Less reclassification adjustment for
realized gains included in net income -
Net of tax of $22 - - - - (43) (43)
-------------
Total comprehensive income 1,471
Stock options exercised 3 22 - - - 25
RRP stock release 1 15 - - - 16
Dividends paid - - (362) - - (362)
---------- ---------- -------- -------- ------------- -------------
BALANCE - December 31, 2002 1,645 5,216 13,819 - 1,067 21,747
See Notes to Consolidated
Financial Statements
F - 5
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------------------------------------------------------
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
(CONTINUED)
(000S OMITTED, EXCEPT PER SHARE DATA)
Accumulated
Additional Shares Other Total
Common Paid-in Retained Acquired Comprehensive Stockholders'
Stock Capital Earnings by RRP Income (Loss) Equity
---------- ---------- -------- -------- ------------- -------------
BALANCE - December 31, 2002 1,645 5,216 13,819 - 1,067 21,747
Comprehensive income:
Net income - - 1,209 - - 1,209
Other comprehensive income:
Unrealized appreciation on available-for-
sale securities - Net of tax of $289 - - - - (561) (561)
Less reclassification adjustment for
realized gains included in net income -
Net of tax of $108 - - - - (211) (211)
-------------
Total comprehensive income 437
Stock options exercised 12 119 - - - 131
RRP stock release - 3 - - - 3
Dividends paid - - (367) - - (367)
---------- ---------- -------- -------- ------------- -------------
BALANCE - December 31, 2003 1,657 5,338 14,661 - 295 21,951
Comprehensive income:
Net income - - 332 - - 332
Other comprehensive income:
Unrealized appreciation on available-for-
sale securities - Net of tax of $48 - - - - (93) (93)
Less reclassification adjustment for
realized gains included in net income -
Net of tax of $35 - - - - (68) (68)
-------------
Total comprehensive income 171
Stock options exercised 2 16 - - - 18
Dividends paid - - (204) - - (204)
---------- ---------- -------- -------- ------------- -------------
BALANCE - September 30, 2004 (Unaudited) $ 1,659 $ 5,354 $ 14,789 $ - $ 134 $ 21,936
========== ========== ======== ======== ============= =============
See Notes to Consolidated
Financial Statements
F - 6
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
----------------------------------------------------------------------------------------------------------------------
CONSOLIDATED STATEMENT OF CASH FLOWS
(000S OMITTED, EXCEPT PER SHARE DATA)
Unaudited
For Nine Months Ended
Sepetember 30, Year Ended December 31
-------------------------- --------------------------
2004 2003 2003 2002
------------ ------------ ------------ ------------
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 332 $ 791 $ 1,209 $ 770
Adjustments to reconcile net income to cash from operating
activities:
Depreciation and amortization 627 580 782 676
Provision for loan losses 197 238 267 415
Amortization and accretion on securities 308 238 339 253
Gain on sale of investment securities (103) (93) (320) (65)
Originations of loans held for sale (19,247) (71,530) (81,510) (68,631)
Principal amount of loans sold 19,522 71,411 81,121 69,980
Purchase of real estate held for sale (123) - (340) (676)
Proceeds from sale of real estate 197 113 398 1,008
Gain (loss) on sale of real estate - (35) (7) 17
Gain (loss) on fixed assets - (28) 5 (2)
Change in accrued interest receivable (156) (351) 257 27
Change in other assets (235) (116) (288) (313)
Change in accrued expenses and other liabilities (317) 1,000 250 91
Change in deferred income taxes (100) - 200 -
------------ ------------ ------------ ------------
Net cash provided by operating activities 902 2,218 2,363 3,550
CASH FLOWS FROM INVESTING ACTIVITIES
Net decrease in loans (23,836) (11,686) (12,386) 24,390
Proceeds from maturity of available-for-sale securities 10,143 13,223 16,852 7,820
Proceeds from sale of securities available for sale 19,213 4,113 11,982 4,977
Purchase of securities available for sale (36,216) (15,693) (17,750) (35,654)
Purchase of securities held to maturity (1,800) (111) - -
Purchase of Federal Home Loan Bank stock (157) (241) (166) -
Purchase of InsuranCenter of Alpena - (1,028) (1,028) -
Purchase of premises and equipment (1,012) (648) (1,114) (386)
------------ ------------ ------------ ------------
Net cash provided by investing activities (33,665) (12,071) (3,610) 1,147
CASH FLOWS FROM FINANCING ACTIVITIES
Net increase (decrease) in deposits 30,726 (4,249) (4,390) (10,446)
Dividends paid on common stock (203) (274) (367) (362)
Net increase (decrease) in advances from borrowers 196 - 92 (99)
Additions to advances from Federal Home Loan Bank 144 4,000 9,500 -
Repayments of advances from Federal Home Loan Bank - - (12,112) (3,706)
Proceeds from exercise of stock options 18 121 131 25
------------ ------------ ------------ ------------
Net cash provided by (used in) financing
activities 30,881 (402) (7,146) (14,588)
------------ ------------ ------------ ------------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (1,882) (10,255) (8,393) (9,891)
CASH AND CASH EQUIVALENTS - Beginning of year 6,705 15,099 15,099 24,990
------------ ------------ ------------ ------------
CASH AND CASH EQUIVALENTS - End of year $ 4,823 $ 4,844 $ 6,706 $ 15,099
============ ============ ============ ============
SUPPLEMENTAL CASH FLOW AND NONCASH INFORMATION
Cash paid for income taxes $ 325 $ 306 $ 556 $ 506
Cash paid for interest on deposits and borrowings 4,452 4,942 6,430 8,239
Stock issued to employees - 3 3 16
See Notes to Consolidated
Financial Statements
F - 7
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
NATURE OF OPERATIONS - Alpena Bancshares, Inc. (the "Company") and its
subsidiary, First Federal of Northern Michigan (the "Bank"), conduct
operations in the northeastern lower peninsula of Michigan. The Bank is
primarily engaged in the business of attracting deposits from the
general public in its market area and investing those deposits in one-
to four-family residential real estate mortgages and, to a lesser
extent, commercial real estate loans and consumer loans.
PRINCIPLES OF CONSOLIDATION AND ORGANIZATION - The consolidated
financial statements include the accounts of Alpena Bancshares, Inc.,
First Federal of Northern Michigan, and the Bank's wholly owned
subsidiaries, Financial Services & Mortgage Corporation ("FSMC") and
InsuraCenter of Alpena. (ICA). FSMC invests in real estate, which
includes leasing, selling, developing, and maintaining real estate
properties. All significant intercompany balances and transactions have
been eliminated in the consolidation. The operating data for the nine
months ended September 30, 2004 and 2003 and the as of data for
September 30, 2004 is unaudited, but in the opinion of management,
reflect all adjustments necessary for a fair presentation. No
adjustments were made other than normal recurring entries. The results
of operations for the nine months ended September 30, 2004 are not
necessarily indicative of the results of operations that may be expected
for the entire year. The 000s have been omitted in tabular columns
except for share and per share data.
Alpena Bancshares, Inc. was formed on November 14, 2000 pursuant to a
plan of reorganization adopted by the Bank and its stockholders.
Pursuant to the reorganization, each share of First Federal Savings and
Loan Association of Alpena stock held by existing stockholders of the
Bank was exchanged for a share of common stock of Alpena Bancshares,
Inc., by operation of law. The reorganization had no financial statement
impact and is reflected for all prior periods presented. Approximately
56 percent of the Company's capital stock is owned by Alpena Bancshares
M.H.C., a mutual holding company. The remaining 44 percent of the
Company's stock is owned by the general public, including the Bank's
Employee Stock Ownership Plan.
On June 12, 2003, First Federal of Northern Michigan acquired 100% of
the stock of the InsuranCenter of Alpena (ICA). ICA is a licensed
insurance agency engaged in the business of property, casualty, and
health insurance. The purchase price was $2,866,400. There is a
provision for an earn-out payment for the former owners who remain with
the organization, of up to $300,000 per year for three years if specific
net sales levels are achieved. For the year ended December 31, 2003, the
net sales level was achieved, the earn-out payment was accrued for at
year-end and added to the cost of the acquisition and recorded as
goodwill.
F - 8
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
The following table summarizes the estimated fair value of the assets
acquired:
Current assets $ 151
Plant, property, and equipment 439
Intangible assets 1,687
Goodwill 657
-----------
Total assets acquired 2,934
Current liabilities 68
-----------
Net assets acquired $ 2,866
===========
After allocating the purchase price to the tangible assets as shown
above (e.g., plant, property and equipment) the remainder was allocated
to the intangible assets. The primary intangible assets are a customer
list and an exclusive contract with BCBS, a health insurance company
based in Michigan. The exclusive contract provides for a two percent
commission related to all insurance premiums collected by ICA sold
through a 10 county Chamber of Commerce group. The intangible asset
recorded for this exclusive contract applies to all existing healthcare
customers obtained through the group and is in effect for as long as
those customers remain with the ICA.. Using historical cash flows the
customer list was assigned a value of $890,000 and the exclusive
contract was valued at $597,000. Both assigned values were arrived at
based on a discounted cash flow (DCF) analysis that assumed a 20 year
life or 5% runoff of revenue each year. The analysis projected net
income which was discounted back to present with a discount rate of 12%.
The expected life was determined using historical runoff rates
experienced by ICA before acquisition which were less than 5% per year.
The value placed on the non-compete agreement is $200,000 which will be
amortized over a 10 year period. The monthly amortization for this
expense equates to $1,700 per month. These amortization expenses will be
recorded in non-interest expenses on a monthly basis. The goodwill of
$657,100 that was created in the transaction will not be amortized but
tested annually for impairment. Any future payments made under the
earn-out agreement will be added to goodwill.
The purchase was paid for with cash of $1,028,000 plus a note payable
(debt) of $1,357,000 and a non-compete liability (balance to be paid
over the next nine years) of $180,000.
F - 9
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
To further expand the Bank's penetration throughout Northern Michigan,
the Bank purchased two branches from a local financial institution. The
branches were
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
located in Mancelona and Alanson. As part of the transaction, the Bank
acquired deposits of $12,100,000, fixed assets including the land,
buildings and equipment of $299,000, cash and loans of $114,000. The
premium paid and the costs associated with the purchase of the two
branches acquired in 2004 were approximately $160,000. Of this amount
approximately $121,000 was allocated to property acquired based on a
third party appraisal and the remaining $39,000 was recorded as Core
Deposit Intangible. The intangible is being amortized on a straight line
basis over 10 years. The transaction closed on May 21, 2004.
PLAN OF CONVERSION - On November 12, 2004, the respective Boards of
Directors of Alpena Bancshares, M.H.C. (the "Mutual Holding Company"),
Alpena Bancshares, Inc. and First Federal of Northern Michigan (the
"Bank") adopted a plan of conversion to convert from the mutual holding
company form of organization to a fully public holding company
structure. The Mutual Holding Company will merge into the Bank, and will
no longer exist. Alpena Bancshares, Inc. will be succeeded by a new
Maryland corporation with the name First Federal of Northern Michigan
Bancorp, Inc. Shares of common stock of Alpena Bancshares, Inc.
representing the ownership interest of the Mutual Holding Company will
be offered for sale in a subscription offering and possibly a community
offering, the net proceeds of which will result in additional capital
for First Federal of Northern Michigan Bancorp, Inc. Shares of common
stock of Alpena Bancshares, Inc. owned by public shareholders
(shareholders other than the Mutual Holding Company) will be converted
into the right to receive new shares of First Federal of Northern
Michigan Bancorp, Inc. common stock determined pursuant to an exchange
ratio. On December 7, 2004, the respective Boards of Directors of the
Mutual Holding Company, Alpena Bancshares, Inc. and the Bank amended the
plan of conversion to establish a charitable foundation in connection
with the conversion. Pursuant to the establishment of the foundation,
First Federal of Northern Michigan Bancorp, Inc. intends to make an
initial contribution to the foundation of up to 37,500 shares of First
Federal of Northern Michigan Bancorp, Inc. common stock and up to
$375,000 of cash. The charitable foundation is subject to the approval
of the majority of the members of the Mutual Holding Company and a
majority of the public shareholders of Alpena Bancshares, Inc. Except
for the effect of the issuance of shares to the charitable foundation,
the exchange ratio will ensure that immediately after the conversion and
exchange of existing shares of Alpena Bancshares, Inc. for new shares,
the public shareholders will own the same aggregate percentage of First
Federal of Northern Michigan Bancorp, Inc. common stock that they owned
immediately prior to the conversion, excluding any shares purchased in
the offering.
F - 10
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
The plan of conversion provides for the establishment, upon the
completion of the conversion, of a special "liquidation account" for the
benefit of Eligible Account Holders and Supplemental Eligible Account
Holders (as those terms are defined in the plan of conversion) in an
amount equal to the greater of (a) the percentage of the outstanding
shares of the common stock of Alpena Bancshares, Inc. owned by the
Mutual Holding Company multiplied by Alpena Bancshares, Inc.'s total
stockholders' equity as reflected in the latest statement of financial
condition contained in the final Prospectus used in the conversion, or
(b) the retained earnings of the Bank as of the latest financial
statements set forth in the prospectus used in connection with the
Bank's initial mutual holding company reorganization and minority stock
offering. Each Eligible Account Holder and Supplemental Eligible Account
Holder who continues to maintain his or her deposit account at the Bank
would be entitled, in the event of a complete liquidation of the Bank
after the conversion, to a pro rata interest in the liquidation account
prior to any payment to the stockholders of Alpena Bancshares, Inc. The
liquidation account will be reduced annually on December 31 to the
extent that Eligible Account Holders and Supplemental Eligible Account
Holders have reduced their qualifying deposits as of each anniversary
date. Subsequent increases will not restore such account holder's
interest in the liquidation account. Subsequent to the conversion, the
Bank may not pay cash dividends or make other capital distributions if
the effect thereof would be to reduce its stockholder's equity below the
amount of the liquidation account.
The conversion and related transactions will be accounted for at
historical cost, with no resulting change in the historical carrying
amounts of assets and liabilities. Costs related to the conversion and
offering will be netted against the gross proceeds from the sale of
common stock; if the offering is not completed, the costs would be
charged to expense. Costs incurred through September 30, 2004 were $0.
CASH AND CASH EQUIVALENTS - For presentation purposes on both the
consolidated statement of financial condition and the consolidated
statement of cash flows, the Bank considers all highly liquid debt
instruments purchased with a maturity of three months or less to be cash
equivalents.
SECURITIES - Securities classified as available for sale are reported at
quoted market value or market value for comparable securities which
represents fair value, with unrealized gains and losses, net of related
deferred income taxes, included in equity as a component of accumulated
other comprehensive income. Gains or losses on the sale of securities
and the amount reclassified out of accumulated other comprehensive
income are computed based on the adjusted cost of the specific security
sold. Mortgage backed securities are all issued by government sponsored
agencies such as Freddie Mac and Fannie Mae. Securities classified as
held to
F - 11
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
maturity are carried at cost. Federal Home Loan Bank stock is considered
restricted investment security and is carried at cost.
SIGNIFICANT GROUP CONCENTRATIONS OF CREDIT RISK - Most of the Company's
activities are with customers located within Michigan. Note 2 discusses
the types of securities in which the Company invests. Note 3 discusses
the types of lending in which the Company engages. The Company does not
have any significant concentrations to any one industry or customer.
LOANS - The Company grants mortgage, commercial, and consumer loans to
customers. Loans are reported at their outstanding unpaid principal
balances adjusted for charge-offs, the allowance for loan losses, and
any deferred fees or costs on originated loans. Interest income is
accrued on the unpaid principal balance. Loan origination fees, net of
certain direct origination costs, are deferred and recognized as an
adjustment of the related loan yield over the contractual life of the
loan.
The accrual of interest on loans is discontinued at the time the loan is
90 days' delinquent unless the credit is well-secured and in process of
collection. In all cases, loans are placed on nonaccrual or charged off
at an earlier date if collection of principal or interest is considered
doubtful.
All interest accrued but not collected, for loans that are placed on
nonaccrual or charged off, is reversed against interest income. The
interest on these loans is accounted for on the cash basis or cost
recovery method, until qualifying for return to accrual. Loans are
returned to accrual status when all the principal and interest amounts
contractually due are brought current and future payments are reasonably
assured.
ALLOWANCE FOR LOAN LOSSES - The allowance for loan losses is established
as losses are estimated to have occurred through a provision for loan
losses charged to earnings. Loan losses are charged against the
allowance when management believes the uncollectibility of a loan
balance is confirmed. Subsequent recoveries, if any, are credited to the
allowance.
The allowance for loan losses is evaluated on a regular basis by
management and is based on management's periodic review of the
collectibility of the loans in light of historical experience, the
nature and volume of the loan portfolio, adverse situations that may
affect the borrower's ability to repay, estimated value of any
underlying collateral, and prevailing economic conditions. This
evaluation is inherently subjective as it requires estimates that are
susceptible to significant revision as more information becomes
available.
F - 12
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
The allowance consists of specific, general and unallocated components.
The specific components relates to loans that are classified as either
doubtful, substandard or special mention. For such loans that are also
classified as impaired, an allowance is established when the discounted
cash flows (or collateral value or observable market price) of the
impaired loan is lower that the carrying value of that loan. The general
component covers non-classified loans and is based on historical loss
experience adjusted for qualitative factors. An unallocated component is
maintained to cover uncertainties that could affect management's
estimate of probable losses. The unallocated component of the allowance
reflects the margin of imprecision inherent in the underlying
assumptions used in the methodologies for estimating specific and
general losses in the portfolio.
A loan is considered impaired when, based on current information and
events, it is probable that the Company will be unable to collect the
scheduled payments of principal or interest when due according to the
contractual terms of the loan agreement. Factors considered by
management in determining impairment include payment status, collateral
value, and the probability of collecting scheduled principal and
interest payments when due. Loans that experience insignificant payment
delays and payment shortfalls generally are not classified as impaired.
Management determines the significance of payment delays and payment
shortfalls on a case-by-case basis, taking into consideration all of the
circumstances surrounding the loan and the borrower, including length of
the delay, the reasons for the delay, the borrower's prior payment
record, and the amount of the shortfall in relation to the principal and
interest owed. Impairment is measured on a loan-by-loan basis for
commercial and construction loans by either the present value of
expected future cash flows discounted at the loan's effective interest
rate, the loan's obtainable market price, or the fair value of the
collateral if the loan is collateral dependent.
Large groups of homogeneous loans are collectively evaluated for
impairment. Accordingly, the Company does not separately identify
individual consumer and residential loans for impairment disclosures.
LOANS HELD FOR SALE - The Bank routinely sells to investors its
long-term fixed rate residential mortgages. These loans are identified
as held for sale and are accounted for at the lower of cost or market on
an aggregate basis. The lower of cost or market allowance for loans held
for sale was $0 at September 30, 2004 and December 31, 2003 and 2002.
F - 13
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
FORECLOSED ASSETS - Assets acquired in settlement of loans are recorded
at the lower of the loan balance or fair value, minus estimated costs to
sell, plus capital improvements made thereafter to facilitate sale.
Adjustments are made to reflect declines, if any, in the fair value
below the recorded amounts. Costs of holding real estate acquired in
settlement of loans are reflected in income currently.
Real Estate Held for Sale - Real estate held for sale is comprised of
developed vacant residential lots and completed condominiums in a
subdivision located in Alpena, Michigan. For reporting purposes, these
properties are included in the Banking segment. These properties are
considered "impaired" under the definition in SFAS 144, ACCOUNTING FOR
IMPAIRMENT OR DISPOSAL OF LONG-LIVED ASSETS. Accordingly, the properties
are recorded at the lower of its cost or fair value less cost to sell.
Costs to sell are the incremental direct costs to transact a sale, that
is, the costs that result directly from and are essential to a sale
transaction and that would not have been incurred by the entity had the
decision to sell not been made. Those costs include realtor commissions,
legal and title transfer fees, and closing costs that must be incurred
before legal title can be transferred.
Quarterly, management uses recent sales of comparable property to
determine estimated future cash flows. The estimated future cash flows
are used as the "fair value". The fair value, less costs to sell, is
compared to the net carrying amount. If the fair value less cost to sell
exceeds the recorded amount, a loss is recognized. Losses recognized for
the initial and subsequent write-down to fair value less cost to sell
are recognized in the gain (loss) on the sale of real estate line in the
statement of income. A gain is recognized for any subsequent increase in
fair value less cost to sell, but not in excess of the cumulative loss
previously recognized. A gain or loss not previously recognized that
results from the sale of the property is recognized at the date of sale.
PROPERTY AND EQUIPMENT - These assets are recorded at cost, less
accumulated depreciation. The Bank uses the straight-line method of
recording depreciation for financial reporting. The depreciable lives
used by the company are: land improvements 7-10 years, buildings 7-40
years and equipment 3-10 years. Maintenance and repairs are charged to
expense and improvements are capitalized.
CORE DEPOSIT INTANGIBLE - In connection with the purchase of certain
branches, the excess of purchase price over fair value of net assets
acquired has been allocated to intangible assets. The expected life for
core deposit intangibles is based on the type of products acquired in an
acquisition. The amortization periods range from 10 to 15 years and are
based on the expected life of the products. The expected life was
determined based on an analysis of the life of similar products within
the
F - 14
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Company and local competition in the markets where the branches were
acquired. The core deposit intangibles are amortized on a straight line
basis. The core deposit intangible is quarterly analyzed for impairment.
The estimated amortization expense for each period during the years
ended December 31, 2004 through December 31, 2010 is approximately
$205,000.
INCOME TAXES - The Company records income tax expense based on the
amount of taxes due on its tax return plus deferred taxes computed based
on the expected future tax consequences of temporary differences between
the carrying amounts and tax bases of assets and liabilities, using
enacted tax rates. As changes in tax laws or rates are enacted, deferred
tax assets and liabilities are adjusted through the provision for income
taxes.
INSURANCE AND BROKERAGE COMMISSIONS - Insurance and brokerage
commissions received are recognized over the life of the related
insurance contracts on a straight-line method.
SERVICING - Servicing assets are recognized as separate assets when
rights are acquired through sale of financial assets. Capitalized
servicing rights are reported in other assets and are amortized into
noninterest income in proportion to, and over the period of, the
estimated future net servicing income of the underlying financial
assets. Servicing assets are evaluated for impairment quarterly based on
the fair value of the rights as compared to amortized cost. Impairment
is determined by stratifying rights by predominant characteristics, such
as interest rates and terms. Fair value is determined using prices for
similar assets with similar characteristics, when available, or based on
discounted cash flows using market-based assumptions. Impairment is
recognized through a valuation allowance for an individual stratum, to
the extent that fair value is less than the capitalized amount for the
stratum.
OFF BALANCE SHEET INSTRUMENTS - In the ordinary course of business, the
Corporation has entered into commitments to extend credit, including
commitments under credit card arrangements, commercial letters of credit
and standby letters of credit.
In November 2002, the FASB issued Interpretation No. 45, (FIN 45)
"Guarantor's Accounting and Disclosure Requirements for Guarantees,
Including Indirect Guarantees of Indebtedness of Others," which
elaborates on the disclosures to be made by a guarantor about its
obligations under certain guarantees issued. It also clarifies that a
guarantor is required to recognize, at the inception of a guarantee, a
liability for the fair value of the obligation undertaken in issuing the
guarantee. The initial recognition and measurement provisions of this
Interpretation have been applied on a prospective basis to guarantees
issued or modified after December 31,
F - 15
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
2002. However, the value of such guarantees is immaterial and the
adoption of this Standard did not have a material effect on the
Corporation's financial statements.
OTHER COMPREHENSIVE INCOME - Accounting principles generally require
that recognized revenue, expenses, gains, and losses be included in net
income. Certain changes in assets and liabilities, however, such as
unrealized gains and losses on available-for-sale securities, are
reported as a separate component in the equity section of the
consolidated statement of financial condition. Such items, along with
net income, are components of comprehensive income.
USE OF ESTIMATES - The preparation of financial statements in conformity
with accounting principles generally accepted in the United States of
America requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenue and expenses during the
reporting period. Actual results could differ from those estimates.
Material estimates that are particularly susceptible to significant
change in the near term relate to the determination of the allowance for
loan losses, and the valuation of goodwill, mortgage servicing rights
and other intangible assets.
STOCK COMPENSATION PLAN - The Company has a stock-based employee
compensation plan, which is described more fully in Note 12. The Company
accounts for this plan under the recognition and measurement principles
of APB Opinion No. 25, ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES, and
related Interpretations. No stock-based employee compensation cost is
reflected in net income, as all options granted under those plans had an
exercise price equal to the market value of the underlying common stock
on the date of grant. The pro forma compensation cost related to options
is insignificant.
The weighted average fair value of options granted in 2002 was $1.04.
There were no options granted in 2004 and 2003. The fair value of
options granted in 2002 is estimated on the date of grant using the
Black-Scholes option-pricing model using the following assumptions:
dividend yield of 7.0 percent, expected life of 8.0 years, expected
volatility of 19.7 percent and a risk free interest rate of 4.0 percent.
F - 16
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
The Company's as reported and pro forma information, including stock
based compensation expense as if the fair value based method had been
applied:
Unaudited
September 30, December 31,
----------------------- -----------------------
2004 2003 2003 2002
--------- --------- --------- ---------
As reported net income available to $ 332 $ 791 $ 1,209 $ 70
common shareholders
Less: stock-based compensation expense (benefit)
determined under fair value method, net of tax 1 1 1 1
--------- --------- --------- ---------
Pro forma net income $ 331 $ 790 $ 1,208 $ 69
========= ========= ========= =========
As reported earnings per share $0.20 $0.48 $0.73 $0.47
Proforma earnings per share $0.20 $0.48 $0.73 $0.47
As reported earnings per diluted share $0.20 $0.48 $0.73 $0.47
Pro forma earnings per diluted share $0.20 $0.48 $0.73 $0.47
EARNINGS PER COMMON SHARE - Basic earnings per share represents income
available to common stockholders divided by the weighted-average number
of common shares outstanding during the period. Diluted earnings per
share reflects additional common shares that would have been outstanding
if dilutive potential common shares had been issued, as well as any
adjustment to income that would result from the assumed issuance.
Potential common shares that may be issued by the Company relate solely
to outstanding stock options and are determined using the treasury stock
method.
Earnings per common share have been computed based on the following:
Unaudited
September 30, December 31,
------------------------ -------------------------
2004 2003 2003 2002
---------- ---------- ---------- ----------
Net income $ 332 $ 791 $ 1,209 $ 770
Average number of common shares
outstanding 1,658,889 1,648,516 1,650,919 1,643,966
Effect of dilutive options 12,036 8,214 10,729 10,347
---------- ---------- ---------- ----------
Average number of common shares
outstanding used to calculate diluted
earnings per common share 1,670,925 1,656,730 1,661,648 1,654,313
========== ========== ========== ==========
The number of options outstanding that were not included in the
computation of diluted earnings per share, as inclusion of such shares
would have been anti-dilutive,
F - 17
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
was 0 for the nine months ended September 30, 2004 and 2003 and years
ended December 31, 2003 and 2002.
RECENT ACCOUNTING PRONOUNCEMENTS - In May 2003, the Financial Accounting
Standards Board (the "FASB") issued Statement of Financial Accounting
Standards ("SFAS") No. 150, "Accounting for Certain Financial
Instruments with Characteristics of Both Liabilities and Equity." This
statement establishes standards for how an issuer classifies and
measures certain financial instruments with characteristics of both
liabilities and equity. It requires that an issuer classify a financial
instrument that is within its scope as a liability (or an asset in some
circumstances). Such instruments may have been previously classified as
equity. This statement is effective for financial instruments entered
into or modified after May 31, 2003. The adoption of this statement did
not have a material effect on our reported equity.
In December 2003, the FASB issued a revision to Interpretation 46,
"Consolidation of Variable Interest Entities," which established
standards for identifying a variable interest entity ("VIE") and for
determining under what circumstances a VIE should be consolidated with
its primary beneficiary. Application of this Interpretation is required
in financial statements of public entities that have interests in
special-purpose entities for periods ending after December 15, 2003.
Application by public entities, other than small business issuers, for
all other types of VIEs is required in financial statements for periods
ending after March 15, 2004. Small business issuers must apply this
Interpretation to all other types of VIEs at the end of the first
reporting period ending after December 15, 2004. The adoption of this
Interpretation has not and is not expected to have a material effect on
our financial position or results of operations.
In March 2004, the Securities and Exchange Commission issued Staff
Accounting Bulletin (SAB) No. 105, Application of Accounting Principles
to Loan Commitments, which provides guidance regarding loan commitments
that are accounted for as derivative instruments. In this SAB, the
Securities and Exchange Commission determined that an interest rate lock
commitment should generally be valued at zero at inception. The rate
locks will continue to be adjusted for changes in value resulting from
changes in market interest rates. This standard will not have a material
effect on our financial condition or results of operations.
In December 2004, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 123 (revised 2004),
"Share-Based Payment" ("Statement No. 123R"), which requires entities to
measure the cost of employee services received in exchange for an award
of equity instruments based on the grant-date fair value of the award
(with limited exceptions). The cost is recognized as an
F - 18
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
expense over the period during which the employee is required to provide
service in exchange for the award, which is usually the vesting period.
The scope of Statement No. 123R includes the recognition and retention
plan and the stock option plan we expect to adopt following the stock
offering. For shares awarded under the recognition and retention plan,
we will recognize the grant-date fair value of the shares as
compensation expense on a straight-line basis over the applicable
vesting period, which is the same accounting required prior to Statement
No. 123R. For options granted under the stock option plan, we will
recognize the grant-date fair value of the options as compensation
expense on a straight-line basis over the applicable vesting period.
This accounting treatment differs significantly from the previous
accounting for fixed stock options under Accounting Principles Board
Opinion No. 25, "Accounting for Stock Issued to Employees," which
generally required expense recognition only when the exercise price of
the option was less than the market price of the underlying stock on the
grant date. As required by Statement No. 123R, we will estimate the fair
value of our stock options on each grant date, using an appropriate
valuation approach such as the Black-Scholes option pricing model.
Statement No. 123R did not change existing accounting principles
applicable to employee stock ownership plans. The provisions of this
Statement will be effective for the Company beginning with its fiscal
year ending 2006. The Company is currently evaluating the impact this
new Standard will have on its financial position, results of operations
or cash flows.
RECLASSIFICATIONS - Certain items from December 2003 and 2002 have been
reclassified to conform to the September 30, 2004 presentation.
F - 19
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 2 - INVESTMENT SECURITIES
Investment securities have been classified according to management's
intent. The carrying value and estimated fair value of securities are as
follows:
September 30, 2004 (Unaudited)
------------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
------------ ------------ ------------ ------------
SECURITIES AVAILABLE FOR SALE
U.S. Treasury securities and obligations
of U.S. government corporations
and agencies $ 27,991 $ 153 $ 43 28,101
Municipal notes 4,432 52 51 4,433
Mortgage-backed securities 8,452 19 91 8,380
Other securities 2 164 - 166
------------ ------------ ------------ ------------
Total $ 40,877 $ 388 $ 185 $ 41,080
============ ============ ============ ============
SECURITIES HELD TO MATURITY
Municipal notes $ 1,800 $ 28 $ - $ 1,828
============ ============ ============ ============
December 31, 2003
------------------------------------------------------
Cost Unrealized Unrealized Value
------------ ------------ ------------ ------------
SECURITIES AVAILABLE FOR SALE
U.S. Treasury securities and obligations
of U.S. government corporations
and agencies $ 16,700 $ 367 $ - 17,067
Municipal notes 3,900 60 - 3,960
Corporation securities 6,163 - 16 6,147
Mortgage-backed securities 7,443 - 108 7,335
Other securities 17 144 - 161
------------ ------------ ------------ ------------
Total $ 34,223 $ 571 $ 124 $ 34,670
============ ============ ============ ============
December 31, 2002
------------------------------------------------------
Cost Unrealized Unrealized Value
------------ ------------ ------------ ------------
SECURITIES AVAILABLE FOR SALE
U.S. Treasury securities and obligations
of U.S. government corporations
and agencies $ 30,940 $ 1,041 $ - $ 31,981
Municipal notes 3,170 116 - 3,286
Corporation securities 4,488 92 - 4,580
Mortgage-backed securities 6,708 224 1 6,931
Other securities 21 145 - 166
------------ ------------ ------------ ------------
Total $ 45,327 $ 1,618 $ 1 $ 46,944
============ ============ ============ ============
F - 20
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 2 - INVESTMENT SECURITIES (CONTINUED)
The amortized cost and estimated market value of securities at September
30, 2004 and December 31, 2003, by contractual maturity, are shown
below. Expected maturities will differ from contractual maturities
because issuers may have the right to call or prepay obligations with or
without call or prepayment penalties:
Unaudited
September 30, 2004 December 31, 2003
------------------------- -------------------------
Amortized Market Amortized Market
Cost Value Cost Value
----------- ----------- ----------- -----------
AVAILABLE FOR SALE:
Due in one year or less $ 3,789 $ 3,821 $ 6,947 $ 7,219
Due after one year through five years 26,959 27,012 19,503 19,782
Due after five years 1,677 1,867 330 335
----------- ----------- ----------- -----------
Subtotal 32,425 32,700 26,780 27,336
Mortgage-backed securities 8,452 8,380 7,443 7,334
----------- ----------- ----------- -----------
Total $ 40,877 $ 41,080 $ 34,223 $ 34,670
=========== =========== =========== ===========
HELD TO MATURITY
Due after one year through five years $ 1,800 $ 1,828 $ - $ -
=========== =========== =========== ===========
At September 30, 2004, December 31, 2003 and 2002, securities with a
carrying value of $3,775,000, $3,500,000 and $4,686,000 and fair value
of $3,975,000, $3,611,000 and $4,686,000, respectively, were pledged to
secure certain deposit accounts.
Gross proceeds from the sale of available-for-sale securities for the
nine months ended September 30, 2004 and 2003, and the years ended
December 31, 2003 and 2002 were $19,213,000, $4,113,000, $11,982,000 and
$4,977,000, respectively, resulting in gross gains of $178,000, $93,000,
$320,000 and $65,000, respectively and gross losses of $75,000, $0, $0
and $0, respectively.
F - 21
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 2 - INVESTMENT SECURITIES (CONTINUED)
The following is a summary of temporarily impaired investments that have
been impaired for less than twelve months as of September 30, 2004 and
December 31, 2003 and 2002:
Unaudited
September 30, 2004 December 31, 2003 December 31, 2002
-------------------------- -------------------------- --------------------------
Gross Gross Gross
Unrealized Unrealized Unrealized
Fair Value Losses Fair Value Losses Fair Value Losses
------------ ------------ ------------ ------------ ------------ ------------
U.S. Treasury securities and obligations
of U.S. government corporations
and agencies $ 7,965 $ 43 $ - $ - $ - $ -
Corporate Securities - - 3,699 41 - -
Municipal notes 3,532 51 1,441 13 - -
Mortgage-backed securities 7,871 91 5,669 70 194 1
------------ ------------ ------------ ------------ ------------ ------------
Total $ 19,368 $ 185 $ 10,809 $ 124 $ 194 $ 1
============ ============ ============ ============ ============ ============
As of September 30, 2004 and December 31, 2003 and 2002, no investment
securities had been impaired for more than 12 months.
The Company does not believe that the unrealized losses as of September
30, 2004, December 31, 2003 and 2002 represent other-than-temporarily
impairment. The unrealized losses reported for the above securities
relate primarily to changes in interest rates. Individually, the losses
were less than 2.0% or less of their respective amortized cost basis.
The Company has both the intent and ability to hold the investment
securities contained in the previous table for a time necessary to
recover the amortized cost.
F - 22
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 3 - LOANS
Loans at September 30, 2004, December 31, 2003 and 2002 are summarized
as follows:
Unaudited
September 30, December 31
-------------- ------------------------------
2004 2003 2002
-------------- -------------- --------------
Real estate loans - One- to four-family residential $ 108,095 $ 100,895 $ 104,889
Commercial loans:
Secured by real estate 26,452 29,452 20,369
Other 29,026 13,495 7,528
-------------- -------------- --------------
Total commercial loans 55,478 42,947 27,897
Consumer loans 25,001 20,895 19,587
-------------- -------------- --------------
Total gross loans 188,574 164,737 152,373
Less net deferred fees (costs) 323 241 110
Less allowance for loan losses 1,152 1,036 922
-------------- -------------- --------------
Total loans - Net $ 187,099 $ 163,460 $ 151,341
============== ============== ==============
Final loan maturities and rate sensitivity of the loan portfolio are as
follows:
September 30, 2004 (Unaudited)
------------------------------
One Year After
Less Than to Five Five
One Year Years Years Total
---------- --------- --------- ---------
Loans at fixed interest rates $ 47,332 $ 59,818 $ 51,078 $ 158,228
Loans at variable interest rates 20,508 6,521 2,994 30,023
---------- --------- --------- ---------
Total $ 67,840 $ 66,339 $ 54,072 $ 188,251
========== ========= ========= =========
December 31, 2003
-----------------
One Year After
Less Than to Five Five
One Year Years Years Total
---------- --------- --------- ---------
Loans at fixed interest rates $ 31,380 $ 60,596 $ 52,154 $ 144,130
Loans at variable interest rates 14,245 4,930 1,191 20,366
Total $ 45,625 $ 65,526 $ 53,345 $ 164,496
========== ========= ========= =========
F - 23
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 3 - LOANS (CONTINUED)
Certain directors and executive officers of the Company were loan
customers during 2004, 2003 and 2002. Such loans were made in the
ordinary course of business and do not involve more than a normal risk
of collectibility. An analysis of aggregate loans outstanding to
directors and executive officers for the nine months ended September 30,
2004 and the years ended December 31, 2003 and 2002 is as follows:
Unaudited
September 30, December 31
-------------- ------------------------------
2004 2003 2002
-------------- -------------- --------------
Aggregate balance - Beginning of Period $ 2,468 $ 981 $ 716
New loans 1,472 4,073 817
Repayments (1,549) (2,586) (552)
-------------- -------------- --------------
Aggregate balance - End of Period $ 2,391 $ 2,468 $ 981
============== ============== ==============
An analysis of the allowance for loan losses is as follows:
Unaudited
Nine Months Ended Year Ended
Sepetember 30, December 31
------------------------------ ------------------------------
2004 2003 2003 2002
-------------- -------------- -------------- --------------
Balance - Beginning of period $ 1,036 $ 922 $ 922 $ 689
Provision for losses 214 238 267 415
Loans - Charged off (135) (180) (215) (234)
Recoveries 37 51 62 52
-------------- -------------- -------------- --------------
Balance - End of period $ 1,152 $ 1,031 $ 1,036 $ 922
============== ============== ============== ==============
F - 24
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 3 - LOANS (CONTINUED)
The following is a summary of information pertaining to impaired,
non-accrual and delinquent loans:
Unaudited
September 30, December 31
-------------- ------------------------------
2004 2003 2002
-------------- -------------- --------------
Impaired loans without a
valuation allowance $ - $ - $ -
Impaired loans with a valuation
allowance 718 1,040 -
-------------- -------------- --------------
Total impaired loans $ 718 $ 1,040 $ -
============== ============== ==============
Valuation allowance related to
impaired loans $ 66 $ 120 $ -
Total non-accrual loans $ 480 $ 1,291 $ 627
Total loans past-due ninety days or
more and still accruing $ 1,280 $ 828 $ 807
Unaudited
Nine Months Ended
Sepetember 30, Year Ended December 31
------------------------------ ------------------------------
2004 2003 2003 2002
-------------- -------------- -------------- --------------
Average investment in
impaired loans $ 780 $ 835 $ 829 $ -
Interest income recognized
on impaired loans $ - $ - $ - $ -
Interest income recognized on
a cash basis on impaired loans $ - $ - $ - $ -
F - 25
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 4 - REAL ESTATE HELD FOR SALE
Management is actively marketing the real estate by using local real
estate agents to facilitate the sale of these properties. The real
estate held for sale is determined to be impaired and is recorded at the
lower of cost or fair value less costs to sell. The valuation allowance
on this project was determined based on recent sales of comparable real
estate and existing real estate listings. Losses recognized for the
initial and subsequent write-down to fair value less cost to sell are
recognized in the "gain (loss) on the sale of real estate" line in the
statement of income. The activity in the allowance is as follows:
Unaudited
Nine Months Ended
Sepetember 30, Year Ended December 31
------------------------- -------------------------
2004 2003 2003 2002
---------- ---------- ---------- ----------
Valuation allowances:
Balance at beginning of year $ 121 $ 102 $ 102 $ 102
Additions - - 19 -
Reductions - - - -
---------- ---------- ---------- ----------
Balance at end of year $ 121 $ 102 $ 121 $ 102
========== ========== ========== ==========
NOTE 5 - PROPERTY AND EQUIPMENT
A summary of property and equipment is as follows:
Unaudited
September 30, December 31
-------------- ------------------------------
2004 2003 2002
-------------- -------------- --------------
Land $ 1,251 $ 878 $ 838
Land improvements 101 62 21
Buildings 4,483 4,504 3,243
Equipment 3,665 3,187 2,745
-------------- -------------- --------------
Total property and equipment 9,500 8,631 6,847
Less accumulated depreciation 3,068 2,814 2,086
-------------- -------------- --------------
Net property and equipment $ 6,432 $ 5,817 $ 4,761
============== ============== ==============
F - 26
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 6 - SERVICING
Loans serviced for others are not included in the accompanying
consolidated statement of financial condition. The unpaid principal
balances of mortgage and other loans serviced for others were
approximately $140,426,000, $138,596,000, $141,340,000 and $119,651,000
at September 30, 2004 and 2003, December 31, 2003 and 2002,
respectively.
The balance of capitalized servicing rights, net of valuation allowance,
is included in other assets at September 30, 2004, December 31, 2003 and
2002.
The key economic assumptions used in determining the fair value of the
mortgage servicing rights are as follows:
Unaudited
September 30, December 31,
-------------- ------------------------------
2004 2003 2002
-------------- -------------- --------------
Annual constant prepayment speed (CPR) 11.08% 13.89% 17.55%
Weighted average life (in months) 54 48 44
Discount rate 7.50% 7.25% 7.25%
F - 27
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 6 - SERVICING (CONTINUED)
The following summarizes mortgage servicing rights capitalized and
amortized, along with the aggregate activity in related valuation
allowances:
Unaudited
September 30, December 31
------------- -----------------------
2004 2003 2002
------------- --------- ---------
Carrying amount - Beginning of year $ 984 $ 869 $ 630
Originated mortgage servicing rights capitalized 158 656 557
Amortization of mortgage servicing rights (244) (541) (318)
------------- --------- ---------
Subtotal 898 984 869
Valuation allowances:
Balance at beginning of year - - -
Additions - 29 -
Reductions - (29) -
Write-downs - - -
------------- --------- ---------
Balance at end of year $ 898 $ 984 $ 869
============= ========= =========
F-28
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 7 - INTANGIBLE ASSETS
Intangible assets of the Company are summarized as follows:
September 30, 2004 (Unaudited)
----------------------------------------------
Gross Carrying Accumulated Net Carrying
Amount Amortization Amount
-------------- ------------ ------------
Amortized intangible assets:
Customer list $ 890 $ 70 $ 820
Customer contract 597 47 550
Core deposit 3,081 1,701 1,380
Non-compete covenant 200 31 169
-------------- ------------ ------------
Total 4,768 1,849 2,919
Unamortized intangible assets:
Goodwill 749 - 749
-------------- ------------ ------------
Total $ 5,517 $ 1,849 $ 3,668
============== ============ ============
December 31, 2003
----------------------------------------------
Gross Carrying Accumulated Net Carrying
Amount Amortization Amount
-------------- ------------ ------------
Amortized intangible assets:
Customer list $ 890 $ 37 $ 853
Customer contract 597 25 572
Core deposit 3,034 1,541 1,493
Non-compete covenant 200 16 184
-------------- ------------ ------------
Total 4,721 1,619 3,102
Unamortized intangible assets:
Goodwill 749 - 749
-------------- ------------ ------------
Total $ 5,470 $ 1,619 $ 3,851
============== ============ ============
December 31, 2002
----------------------------------------------
Gross Carrying Accumulated Net Carrying
Amount Amortization Amount
-------------- ------------ ------------
Amortized intangible assets:
Core deposit $ 3,034 $ 1,336 $ 1,698
F-29
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 7 - INTANGIBLE ASSETS (CONTINUED)
Amortization periods for the major classes of intangible assets and in
total are as follows as of September 30, 2004.
Weighted Average
Amortization Period
Amortizable Intangible (In years)
---------------------------------------------------
Customer list 18.3
Customer contract 18.3
Core deposit 7.5
Non-compete covenant 8.3
-------------------
12.7
-------------------
The amortization expense related to intangibles as of September 30, 2004
is as follows:
Year Ended December 31 Annual Amortization
--------------------------------------------------
2005 $ 287
2006 287
2007 281
2008 278
2009 278
F-30
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 8 - DEPOSITS
Deposit accounts, by type and range of rates, consist of the following:
Unaudited
September 30, December 31
------------- --------------------------
2004 2003 2002
------------- ------------ ------------
Account Type
---------------------------------------------------
NOW accounts and MMDA $ 33,866 $ 25,209 $ 23,115
Regular savings accounts 28,082 28,838 32,198
------------- ------------ ------------
Total 61,948 54,047 55,313
Certificate of Deposit Rates
---------------------------------------------------
0.50 percent to 1.99 percent 28,132 26,192 19,670
2.00 percent to 2.99 percent 21,623 14,384 11,537
3.00 percent to 3.99 percent 29,463 15,349 11,111
4.00 percent to 4.99 percent 12,090 12,498 13,576
5.00 percent to 6.99 percent 14,769 18,768 34,394
7.00 percent to 8.99 percent 2,739 3,183 5,073
------------- ------------ ------------
Total certificate of deposits 108,816 90,374 95,361
------------- ------------ ------------
Total deposits $ 170,764 $ 144,421 $ 150,674
============= ============ ============
Certificates of deposit $100,000 or greater at September 30, 2004,
December 31, 2003 and 2002 were $27,338,000, $17,391,000 and $23,562,000
respectively. The amounts is excess of $100,000 are not federally
insured.
F-31
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 8 - DEPOSITS (CONTINUED)
The following table sets forth the amount and maturities of certificates
of deposit:
September 30, 2004 (Unaudited)
-----------------------------------------------------------------------
Amount Due
-----------------------------------------------------------------------
Greater
Less than 1-2 2-3 3-5 than
Rate 1 Year Years Years Years 5 Years Total
----------------------- ---------- ---------- ---------- ---------- ---------- -----------
0.50 percent to
1.99 percent $ 22,139 $ 5,883 $ 110 $ - $ - $ 28,132
2.00 percent to
2.99 percent 4,417 15,049 721 1,241 195 21,623
3.00 percent to
3.99 percent 2,037 10,639 9,520 7,088 179 29,463
4.00 percent to
4.99 percent 1,984 7,518 2,247 53 288 12,090
5.00 percent to
6.99 percent 4,886 3,758 645 2,486 2,994 14,769
7.00 percent to
8.99 percent 1,223 100 135 2 1,279 2,739
---------- ---------- ---------- ---------- ---------- -----------
Total $ 36,686 $ 42,947 $ 13,378 $ 10,870 $ 4,935 $ 108,816
========== ========== ========== ========== ========== ===========
December 31, 2003
-----------------------------------------------------------------------
Amount Due
-----------------------------------------------------------------------
Greater
Less than 1-2 2-3 3-5 than
Rate 1 Year Years Years Years 5 Years Total
----------------------- ---------- ---------- ---------- ---------- ---------- -----------
0.50 percent to
1.99 percent $ 22,979 $ 1,931 $ 1,224 $ 59 $ - $ 26,193
2.00 percent to
2.99 percent 10,314 1,589 1,501 942 37 14,383
3.00 percent to
3.99 percent 564 5,185 5,764 3,658 178 15,349
4.00 percent to
4.99 percent 2,934 302 7,843 1,109 310 12,498
5.00 percent to
6.99 percent 6,044 3,870 2,822 1,732 4,300 18,768
7.00 percent to
8.99 percent 378 1,306 - 128 1,371 3,183
---------- ---------- ---------- ---------- ---------- -----------
Total $ 43,213 $ 14,183 $ 19,154 $ 7,628 $ 6,196 $ 90,374
========== ========== ========== ========== ========== ===========
F-32
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 8 - DEPOSITS (CONTINUED)
Interest expense on deposits is summarized as follows:
Unaudited
Nine Months Ended
Sepetember 30, Year Ended December 31
------------------------- --------------------------
2004 2003 2003 2002
---------- ---------- ----------- -----------
NOW and MMDAs $ 172 $ 144 $ 190 $ 288
Regular savings 46 98 119 363
Certificates of deposit 2,402 2,632 3,410 4,815
---------- ---------- ----------- -----------
Total $ 2,620 $ 2,874 $ 3,719 $ 5,466
========== ========== =========== ===========
Deposits from related parties held by the Bank at September 30, 2004,
December 31, 2003 and 2002 amounted to $427,000, $558,000 and $170,000
respectively.
F-33
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 9 - FEDERAL HOME LOAN BANK ADVANCES
Advances outstanding from the Federal Home Loan Bank (FHLB) bear
interest that is payable monthly. Pursuant to blanket collateral
agreements with the FHLB, advances are collateralized by one- to
four-family whole mortgage loans, government agency securities, and
highly rated private mortgage-backed securities. The FHLB requires
eligible collateral to have a market value equal to 145 percent of
advances. The carrying value of loans pledged to secure these advances
was approximately $86,122,000, $101,365,000 and $102,542,000 at
September 30, 2004 and December 31, 2003 and 2002, respectively,
The advances are subject to prepayment penalties subject to the
provisions and conditions of the credit policy of the Federal Home Loan
Bank. Future maturities of the advances are as follows:
September 30, 2004 (Unaudited) December 31, 2003 December 31, 2002
---------------------------------- ---------------------------------- ----------------------------------
Weighted Weighted Weighted
Average Average Average
Years Ending Interest Years Ending Interest Years Ending Interest
December 31 Amount Rate December 31 Amount Rate December 31 Amount Rate
------------ ---------- -------- ------------ ---------- -------- ------------ ---------- --------
2004 $ 4,052 4.91 2004 $ 8,052 4.20 2003 $ 12,112 5.31
2005 12,500 5.67 2005 12,250 5.74 2004 4,802 6.02
2006 3,000 2.54 2006 2,000 2.84 2005 11,000 6.15
2008 7,500 4.78 2008 6,500 5.40 2008 4,500 5.62
2009 1,000 3.40 2009 - - 2010 16,000 5.66
----------
2010 18,000 5.49 2010 17,000 5.59 Total $ 48,414 5.72
--------- ---------- ==========
Total $ 46,052 5.14 Total $ 45,802 5.24
========= ==========
F-34
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 10 - NOTE PAYABLE
In connection with the purchase of ICA, a note payable was issued to an
individual, payable in annual installments of $180,000, including
interest at 5.5 percent. Future maturities of the note are as follows:
September 30, 2004 (Unaudited)
------------------------------
Years Ending
December 31 Amount
------------------ ---------------
2004 $ -
2005 111
2006 117
2007 124
2008 130
Thereafter 769
---------
Total $ 1,251
=========
NOTE 11 - FEDERAL INCOME TAX
The analysis of the consolidated provision for federal income tax is as
follows:
Unaudited
Nine Months Ended
Sepetember 30, Year Ended December 31
------------------------ ------------------------
2004 2003 2003 2002
--------- --------- ---------- ---------
Current provision $ 267 $ 394 $ 318 $ 285
Deferred provision (credit) (100) - 200 -
--------- --------- ---------- ---------
Total $ 167 $ 394 $ 518 $ 285
========= ========= ========== =========
F-35
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 11 - FEDERAL INCOME TAX (CONTINUED)
A reconciliation of the federal income tax expense and the amount
computed by applying the statutory federal income tax rate (34 percent)
to income before federal income tax is as follows:
Unaudited
Nine Months Ended
Sepetember 30, Year Ended December 31
------------------------ ------------------------
2004 2003 2003 2002
--------- --------- ---------- ---------
Tax at statutory rate $ 170 $ 403 $ 587 $ 359
Nontaxable dividend (1) (16) (22) (8)
Tax-exempt interest - (15) (20) (24)
Other (2) 22 (27) (42)
--------- --------- ---------- ---------
Federal income tax $ 167 $ 394 $ 518 $ 285
========= ========= ========== =========
Effective Tax Rate 33.5% 33.2% 30.0% 27.0%
===================================================
F-36
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 11 - FEDERAL INCOME TAX (CONTINUED)
The net deferred tax liability was comprised of the following temporary
differences:
Unaudited
September 30, December 31
------------- --------------------------
2004 2003 2002
------------- ----------- -----------
Deferred tax assets:
Allowance for loan losses $ 411 $ 311 $ 282
Valuation allowance for real estate held
for sale 41 41 35
Other 45 45 24
Directors' benefit plan 152 152 189
------------- ----------- -----------
Total deferred tax assets 649 549 530
Valuation allowance for deferred tax assets - - -
Deferred tax liabilities:
Bad debt recapture - - 24
Mortgage servicing rights 334 334 295
Partnership losses 65 65 58
Depreciation 502 502 306
Other 15 15 14
Unrealized gains on available-for-sale
securities 69 152 550
------------- ----------- -----------
Total deferred tax liabilities 985 1,068 1,247
------------- ----------- -----------
Net deferred tax liability $ 336 $ 519 $ 717
============= =========== ===========
For tax years beginning prior to January 1, 1996, a qualified thrift
institution was allowed a bad debt deduction for tax purposes based on a
percentage of taxable income or on actual experience. The Bank used the
percentage of taxable income method through December 31, 1995.
The Small Business Job Protection Act of 1996 (the "Act") requires
qualified thrift institutions, such as the Bank, to recapture the
portion of their tax bad debt reserves at January 1, 1996 that exceeds
the December 31, 1987 ("base year") reserve balance. The amount of this
excess reserve is $422,000 which will be taken into taxable income
ratably over a six-year period beginning in 1998.
F-37
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 11 - FEDERAL INCOME TAX (CONTINUED)
A deferred tax liability has not been recognized for the tax bad debt
base year reserves of the Bank. The base year reserves are the balance
of reserves as of December 31, 1987. At September 30, 2004 and December
31, 2003, the amount of those reserves was approximately $60,000. The
amount of the unrecognized deferred tax liability at September 30, 2004
and December 31, 2003 was approximately $20,000.
NOTE 12 - OFF BALANCE SHEET RISK COMMITMENTS AND CONTINGENCIES
CREDIT-RELATED FINANCIAL INSTRUMENTS - The Company is a party to
credit-related financial instruments with off balance sheet risk in the
normal course of business to meet the financing needs of its customers.
These financial instruments include commitments to extend credit,
standby letters of credit, and commercial letters of credit. Such
commitments involve, to varying degrees, elements of credit and interest
rate risk in excess of the amount recognized in the consolidated
statement of financial condition.
The Company's exposure to credit loss is represented by the contractual
amount of these commitments. The Company follows the same credit
policies in making commitments as it does for on-balance-sheet
instruments.
The following financial instruments were outstanding whose contract
amounts represent credit risk:
Unaudited
September 30, December 31
------------- ------------------------
2004 2003 2002
------------- ----------- -----------
Commitments to grant loans $ 27,613 $ 35,868 $ 33,363
Unfunded commitments under lines of credit 16,228 11,499 10,339
Commercial and standby letters of credit - 35 250
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. The commitments
for equity lines of credit may expire without being drawn upon.
Therefore, the total commitment amounts do not necessarily represent
future cash requirements. The amount of collateral obtained, if it is
deemed necessary by the Company, is based on management's credit
evaluation of the customer.
F-38
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003, 2002 AND 2001
NOTE 12 - OFF BALANCE SHEET RISK COMMITMENTS AND CONTINGENCIES (CONTINUED)
Unfunded commitments under commercial lines of credit, revolving credit
lines, and overdraft protection agreements are commitments for possible
future extensions of credit to existing customers. These lines of credit
are collateralized and may not be drawn upon to the total extent to
which the Company is committed.
Commercial and standby letters of credit are conditional commitments
issued by the Company to guarantee the performance of a customer to a
third party. Those letters of credit are primarily used to support
public and private borrowing arrangements. Essentially all letters of
credit issued have expiration dates within one year. The Company
generally holds collateral supporting those commitments if deemed
necessary.
COLLATERAL REQUIREMENTS - To reduce credit risk related to the use of
credit-related financial instruments, the Company might deem it
necessary to obtain collateral. The amount and nature of the collateral
obtained is based on the Company's credit evaluation of the customer.
Collateral held varies but may include cash, securities, accounts
receivable, inventory, property, plant, and equipment, and real estate.
If the counterparty does not have the right and ability to redeem the
collateral or if the Company is permitted to sell or repledge the
collateral on short notice, the Company records the collateral in its
statement of financial condition at fair value with a corresponding
obligation to return it.
NOTE 13 - STOCKHOLDERS' EQUITY
Payment of dividends on the common stock is subject to determination and
declaration by the Board of Directors and depends on a number of
factors, including capital requirements, regulatory limitation on
payment of dividends, the Bank's results of operations and financial
condition, tax considerations, and general economic conditions.
The Bank filed a notice with the Office of Thrift Supervision (OTS) and
the Federal Deposit Insurance Company (FDIC) requesting approval to
waive payment of cash dividends to Alpena Bancshares M.H.C. (the
"M.H.C.") (majority stockholder of the Company). The OTS and FDIC did
not object to the dividend waiver request subject to the following
conditions:
F-39
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 13 - STOCKHOLDERS' EQUITY (CONTINUED)
(1) For as long as the Company and the Bank are controlled by the
M.H.C., the amount of dividends waived by the M.H.C. must be
segregated and considered as a restriction on retained earnings
of the Company;
(2) The amount of the dividend waived by the M.H.C. shall be
available for declaration as a dividend solely to the M.H.C.;
and
(3) The amount of the dividend waived by the M.H.C. must be
considered as having been paid by the Company in evaluating any
proposed dividend.
In addition, the OTS may rescind its non-objection to the waiver of
dividends for subsequent periods if, based on subsequent developments,
the proposed waivers are determined to be detrimental to the safe and
sound operation of the Bank.
If management determines that it is probable that the waived dividends
will be paid, it will be necessary to record a liability in accordance
with Statement of Financial Accounting Standards No. 5. In management's
opinion, it is not probable that the waived dividends will be paid;
therefore, a liability has not been recorded in the financial statements
of the Company.
The Bank is subject to various regulatory capital requirements
administered by the OTS. Failure to meet certain capital requirements
can initiate certain mandatory and possibly additional discretionary
action by regulators that, if undertaken, could have a direct material
effect on the Company's financial statements. Under capital adequacy
guidelines and the regulatory framework for prompt corrective action,
the Bank must meet specific capital guidelines that involve quantitative
measures of the Bank's assets, liabilities, and certain off balance
sheet items as calculated under regulatory accounting practices. The
Bank's capital amounts and classification are also subject to
qualitative judgments by the regulators regarding components,
risk-weightings, and other factors.
F-40
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 13 - STOCKHOLDERS' EQUITY (CONTINUED)
During the most recent regulatory examination, the OTS categorized the
Bank as "well-capitalized" per definition of 12 CFR Section 565.4(b)(1).
To be categorized as well-capitalized, the Bank must maintain minimum
total risk-based, tier 1 risk based, and tangible equity ratios as set
forth in the table below. There are no conditions or events since that
notification that management believes have changed the Bank's
categorization.
To be Categorized as
Well-Capitalized Under
For Capital Prompt Corrective
Actual Adequacy Purposes Action Provisions
Amount Ratio Amount Ratio Amount Ratio
---------- --------- ---------- --------- ---------- ---------
(Dollars in Thousands)
September 30, 2004 (Unaudited):
Total capital (to risk-
weighted assets) $ 18,601 11.24% $ 13,237 8.00% $ 16,546 10.00%
Tier 1 capital (to risk-
weighted assets) $ 17,376 10.50% $ 6,618 4.00% $ 9,928 6.00%
Tangible capital (to
tangible assets) $ 17,376 6.95% $ 3,750 1.50% $ 5,000 2.00%
December 31, 2003:
Total capital (to risk-
weighted assets) $ 18,119 11.96% $ 12,116 8.00% $ 15,146 10.00%
Tier 1 capital (to risk-
weighted assets) $ 17,019 11.24% $ 6,058 4.00% $ 9,087 6.00%
Tangible capital (to
tangible assets) $ 17,019 7.78% $ 3,283 1.50% $ 4,377 2.00%
December 31, 2002:
Total capital (to risk-
weighted assets) $ 19,137 15.95% $ 9,596 8.00% $ 11,995 10.00%
Tier 1 capital (to risk-
weighted assets) $ 18,149 15.13% $ 4,798 4.00% $ 7,197 6.00%
Tangible capital (to
tangible assets) $ 18,149 8.08% $ 3,370 1.50% $ 4,493 2.00%
F-41
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 13 - STOCKHOLDERS' EQUITY (CONTINUED)
Reconciliation of GAAP to Regulatory Capital
Unaudited
-------------------------------------
September 30, December 31
------------- ----------------------
2004 2003 2002
------------- ---------- ----------
GAAP Capital $ 21,936 $ 21,951 $ 21,747
Reconciling items:
Investment in and advances to
Nonincludable subsidaries 758 786 832
Goodwill and other intangible assets 3,668 3,851 1,698
Unrealized (gain) loss on securities
available for sale (134) (295) (1,068)
Disallowed mortgage servicing rights - - -
------------- ---------- ----------
Tangible and core capital 17,376 17,019 18,149
Allowable unrealized (gain) loss on
securities available for sale 73 64 66
General valuation allowance 1,152 1,036 922
------------- ---------- ----------
Risk Based Capital $ 18,601 $ 18,119 $ 19,137
============= ========== ==========
NOTE 14 - EMPLOYEE BENEFIT PLANS
RETIREMENT PLANS
The Bank is a participant in the multiemployer Financial Institutions
Retirement Fund (FIRF or the "Plan"), which covers substantially all of
its officers and employees. The defined benefit plan covers all
employees who have completed one year of service, attained age 21, and
worked at least 1,000 hours during the year. Normal retirement age is
65, with reduced benefits available at age 55. The Bank's contributions
are determined by FIRF and generally represent the normal cost of the
Plan. Specific Plan assets and accumulated benefit information for the
Bank's portion of the Plan are not available. Under the Employee
Retirement Income Security Act of 1974 (ERISA), a contributor to a
multiemployer pension plan may be liable in the event of complete or
partial withdrawal for the benefit payments guaranteed under ERISA. The
Bank was fully funded in the Plan as of September 30, 2004 and December
31, 2003. The expense of the Plan allocated to the Bank for the nine
months ended September 30, 2004 and 2003 and for the years ended
December 31, 2003 and 2002 was $272,000, $159,000, $263,000 and
$212,000, respectively.
F-42
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 14 - EMPLOYEE BENEFIT PLANS (CONTINUED)
The Bank has a Section 401(k) savings plan covering substantially all of
its employees who meet certain age and service requirements. Under the
plan, the Bank matches 50 percent of participant contributions up to 3
percent of each participant's compensation during the year. This
contribution is dependent upon availability of sufficient net earnings
from current or prior years. Additional contributions may be made as
approved by the Board of Directors. The expense under the plan for the
nine months ended September 30, 2004 and 2003 and for the years ended
December 31, 2003 and 2002 was $58,000, $61,000, $65,000 and $64,000,
respectively.
The Bank has a nonqualified deferred compensation plan for its
directors. Through 1998, each director could voluntarily defer all or
part of his or her director's fees to participate in the program. The
plan is currently unfunded and amounts deferred are unsecured and remain
subject to claims of the Bank's general creditors. Directors are paid
once they reach normal retirement age or sooner for reason of death,
total disability, or termination. The Bank may terminate the plan at any
time. The amount recorded under the plan totaled approximately $638,000,
$617,000 and $550,000 at September 30, 2004, December 31, 2003 and 2002,
respectively. The expense under the plan for the nine months ended
September 30, 2004 and 2003 and for the years ended December 31, 2003
and 2002 was $49,000, $50,000, $67,000 and $90,000, respectively.
EMPLOYEE STOCK OWNERSHIP PLAN
Effective January 1, 1994, the Bank implemented an employee stock
ownership plan (ESOP). The ESOP covers substantially all employees who
have completed one year of service, attained age 21, and worked at least
1,000 hours during the year. To fund the ESOP, the Bank borrowed
$480,000 from an outside party to purchase 48,000 shares of the
Company's common stock at $10 per share. The ESOP note was payable
quarterly with interest at the prime rate and was retired in 1999. All
shares were allocated as of December 31, 1999. Compensation expense is
measured by the fair value of ESOP shares allocated to participants
during a fiscal year. There was no compensation expense for the periods
ended September 30, 2004 and 2003, December 31, 2003 and 2002.
F-43
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 14 - EMPLOYEE BENEFIT PLANS (CONTINUED)
STOCK AWARD PLAN The 1996 Recognition and Retention Plan for employees
and outside directors authorized the issuance of authorized, but
unissued shares of common stock of the Company in an aggregate amount of
27,600 shares of common stock, of which 17,940 shares were available to
be awarded to employees and 9,660 shares were available to be awarded to
non-employee directors. Restricted stock awards are nontransferable and
non-assignable. Awards to non-employee directors vest at the rate of 20
percent of the amount awarded commencing one year from the date of the
award, which was April 17, 1996. Awards to executive officers and
employees would become fully vested upon termination of employment or
service due to death, disability, or normal retirement. Upon termination
of employment or service for any other reason, unvested shares are
forfeited. The expense under the plan for the nine months ended
September 30, 2004 and 2003 and for the years ended December 31, 2003
and 2002 was $0, $3,000, $3,000 and $16,000, respectively.
A summary of shares relating to the Recognition and Retention Plan is as
follows:
Outstanding - January 1, 2002 1,441
Vested in 2002 -
Forfeited in 2002 -
Re-awarded in 2002 (1,199)
--------
Outstanding - December 31, 2002 242
Vested in 2003 -
Forfeited in 2003 -
Re-awarded in 2003 (200)
--------
Outstanding - December 31, 2003 42
Vested in 2004 -
Forfeited in 2004 -
Rewarded in 2004 -
--------
Outstanding - September 30, 2004 (Unaudited) 42
========
F-44
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 14 - EMPLOYEE BENEFIT PLANS (CONTINUED)
The 1996 stock option plan for certain employees and nonemployee
directors authorized the grant of stock options to purchase 69,000
shares of common stock of the Company. Pursuant to the stock option
plan, grants may be made of incentive stock options and nonstatutory
stock options. Simultaneously with the grant of stock options, the
Company may grant limited rights. The limited rights may be exercised
only in the event of a change in control. The Company has not issued
limited rights under this plan and and has no intention to do so under
this plan. Nonemployee directors are only eligible to receive
nonstatutory options. Under the terms of the plan, incentive stock
options have been granted at fair market value as of the date of the
grant that are exercisable any time prior to 10 years from the grant
date. The incentive stock options vest ratably over a five year period.
Nonstatutory fully vested stock options have been granted at fair market
value on the date the option is granted and are exercisable prior to 10
years from the date of grant.
The following is a summary of activity for stock options:
Unaudited
September 30, December 31,
---------------------- --------------------------------------------
2004 2003 2002
---------------------- ---------------------- ---------------------
Weighted Weighted Weighted
Average Average Average
Number of Exercise Number of Exercise Number of Exercise
Shares Price Shares Price Shares Price
---------- ----------- ----------- ---------- ---------- ----------
Options outstanding at
beginning of period 29,011 $ 10.57 41,033 $ 10.35 39,513 $ 9.85
Options granted - - - - 7,000 13.75
Options exercised (1,700) 10.84 (12,022) 9.81 (2,480) 10
Options forfeited (600) 13.75 - - (3,000) 12.38
------ ------ ------
Options outstanding at
end of period 26,711 10.47 29,011 10.57 41,033 10.35
====== ====== ======
Exercisable at end of
period 24,711 10.16 25,011 10.06 36,033 9.88
F-45
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 14 - EMPLOYEE BENEFIT PLANS (CONTINUED)
Information pertaining to options outstanding is as follows:
September 30, 2004 (Unaudited)
---------------------------------------------------------------------------------------
Options Exerciseable Options Outstanding
------------------------------------------ -------------------------------------------
Weighted- Weighted-
Average Weighted- Average Weighted-
Remaining Average Remaining Average
Number Contractual Exercise Number Contractual Exercise
Exercise Prices Outstanding Life (in years) Price Exercisable Life (in years) Price
--------------- ------------- --------------- ---------- ----------- ----------------- -----------
9.625 4,600 3.20 $ 9.63 4,600 3.20 $ 9.63
10.00 18,111 3.05 10.00 18,111 3.05 10.00
13.75 4,000 9.00 13.75 1,600 9.00 13.75
------------ -----------
Total 26,711 3.97 $ 10.57 24,311 3.47 $ 10.06
============ ===========
December 31, 2003
---------------------------------------------------------------------------------------
Options Exerciseable Options Outstanding
------------------------------------------ -------------------------------------------
Weighted- Weighted-
Average Weighted- Average Weighted-
Remaining Average Remaining Average
Number Contractual Exercise Number Contractual Exercise
Exercise Prices Outstanding Life (in years) Price Exercisable Life (in years) Price
--------------- ------------- --------------- ---------- ----------- ----------------- -----------
9.625 5,900 2.45 $ 9.63 5,900 2.45 $ 9.63
10.00 18,111 2.30 10.00 18,111 2.30 10.00
13.75 5,000 8.24 13.75 1,000 8.24 13.75
------------ -----------
Total 29,011 3.35 $ 10.57 25,011 2.57 $ 10.06
============ ===========
NOTE 15 - FAIR VALUES OF FINANCIAL INSTRUMENTS
The fair value of a financial instrument is the current amount that
would be exchanged between willing parties, other than in a forced
liquidation. Fair value is best determined based on quoted market
prices. However, in many instances, there are no quoted market prices
for the Company's various financial instruments. In cases where quoted
market prices are not available, fair values are based on estimates
using present value or other valuation techniques. Those techniques are
significantly affected by the assumptions used, including the discount
rate and estimates of future cash flows. Accordingly, the fair value
estimates may not be realized in an immediate settlement of the
instrument. SFAS 107 excludes certain financial instruments and all
nonfinancial instruments from its disclosure requirements. Accordingly,
the aggregate fair value amounts presented may not necessarily represent
the underlying fair value of the Company.
F-46
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 15 - FAIR VALUES OF FINANCIAL INSTRUMENTS (CONTINUED)
The following methods and assumptions were used by the Company in
estimating fair value disclosures for financial instruments:
CASH AND CASH EQUIVALENTS - The carrying amounts of cash and short-term
instruments approximate fair values.
SECURITIES - Fair values for securities, excluding Federal Home Loan
Bank stock, are based on quoted market prices. The carrying value of
Federal Home Loan Bank stock approximates fair value based on the
redemption provisions of the Federal Home Loan Bank.
LOANS HELD FOR SALE - Fair values of mortgage loans held for sale are
based on commitments on hand from investors or prevailing market prices.
LOANS RECEIVABLE - For variable-rate loans that reprice frequently and
with no significant change in credit risk, fair values are based on
carrying values. Fair values for certain mortgage loans (e.g., one- to
four-family residential), credit card loans, and other consumer loans
are based on quoted market prices of similar loans sold in conjunction
with securitization transactions, adjusted for differences in loan
characteristics. Fair values for other loans (e.g., commercial real
estate and investment property mortgage loans, commercial, and
industrial loans) are estimated using discounted cash flow analyses,
using interest rates currently being offered for loans with similar
terms to borrowers of similar credit quality. Fair values for
nonperforming loans are estimated using discounted cash flow analyses or
underlying collateral values, where applicable.
DEPOSIT LIABILITIES - The fair values disclosed for demand deposits
(e.g., interest and noninterest checking, passbook savings, and certain
types of money market accounts) are, by definition, equal to the amount
payable on demand at the reporting date (i.e., their carrying amounts).
The carrying amounts of variable-rate, fixed-term money market accounts
and certificates of deposit approximate their fair values at the
reporting date. Fair values for fixed-rate certificates of deposit are
estimated using a discounted cash flow calculation that applies interest
rates currently being offered on certificates to a schedule of
aggregated expected monthly maturities on time deposits
LONG-TERM BORROWINGS - The fair values of the Company's long-term
borrowings are estimated using discounted cash flow analyses based on
the Company's current incremental borrowing rates for similar types of
borrowing arrangements.
ACCRUED INTEREST - The carrying amounts of accrued interest approximate
fair value.
F-47
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 15 - FAIR VALUES OF FINANCIAL INSTRUMENTS (CONTINUED)
The estimated fair values and related carrying or notional amounts of
the Company's financial instruments are as follows:
Unaudited
September 30, 2004 December 31, 2003 December 31, 2002
------------------ ----------------- -----------------
Carrying Estimated Carrying Estimated Carrying Estimated
Amounts Fair Value Amounts Fair Value Amounts Fair Value
------- ---------- ------- ---------- ------- ----------
Financial assets:
Cash and cash equivalents $ 4,824 $ 4,824 $ 6,706 $ 6,706 $ 15,099 $ 15,099
Securities 42,880 42,880 34,670 34,670 46,944 46,944
Loans and loans held for sale - Net 187,755 184,466 164,391 165,114 151,883 156,013
Federal Home Loan Bank stock 4,617 4,617 4,460 4,460 4,294 4,294
Accrued interest receivable 1,222 1,222 1,066 1,066 1,323 1,323
Financial liabilities:
Customer deposits 182,428 182,340 7,281 153,572 156,092 160,895
Advances from borrowers for
taxes and insurance 292 292 96 96 4 4
Federal Home Loan Bank advances 46,052 46,323 45,802 50,925 48,414 53,485
Note payable 1,251 1,249 1,357 1,357 - -
Accrued interest payable 447 447 368 368 344 344
NOTE 16 - RESTRICTIONS ON DIVIDENDS
OTS regulations impose limitations upon all capital distributions
including cash dividends. The total amount of dividends that may be paid
is generally limited to the sum of the net profits of the bank for the
preceding three years. An application to and the approval of the OTS is
required prior to any capital distribution if the institution does not
meet the criteria for "expedited treatment" of applications under OTS
regulations. If an application is not required, the institution must
still provide prior notice to the OTS of the capital distribution. In
the event the Bank's capital falls below its regulatory requirements or
the OTS notifies it that it was in need of more than normal supervision,
the Bank's ability to make capital distributions could be restricted. In
addition, the OTS could prohibit a proposed capital distribution by any
institution, which would otherwise be permitted by the regulation, if
the OTS determines that such distribution would constitute an unsafe or
unsound practice. At September 30, 2004 and December 31, 2003, the
Bank's retained earnings available for the payment of dividends totaled
$1,222,000 and $2,191,000, respectively.
F-48
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 17 - PARENT-ONLY FINANCIAL STATEMENTS
The following represents the condensed financial statements of Alpena
Bancshares, Inc. ("Parent") only. The Parent-only financial information
should be read in conjunction with the Company's consolidated financial
statements.
The condensed balance sheet is as follows:
Unaudited
September
30, December 31
---------- -----------------------
2004 2003 2002
---------- ---------- ----------
ASSETS
Cash at subsidiary bank $ 103 $ 148 $ 90
Investment in subsidiary 21,671 21,746 21,698
Other assets 162 76 13
---------- ---------- ----------
Total assets $ 21,936 $ 21,970 $ 21,801
========== ========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities $ - $ 19 $ 54
Stockholders' equity 21,936 21,951 21,747
---------- ---------- ----------
Total liabilities and
stockholders' equity $ 21,936 $ 21,970 $ 21,801
========== ========== ==========
The condensed statement of operations are as follows:
Unaudited
Nine Months
Ended
September 30, December 31
------------- -------------------------
2004 2003 2002
------------- ----------- -----------
Operating income $ 370 $ 350 $ 459
Operating expense 73 60 64
------------- ----------- -----------
Income before income taxes and equity in
undistributed net income of subsidiary 297 290 395
Income tax benefit 25 18 22
------------- ----------- -----------
Income before equity in undistributed net income of
subsidiary 322 308 417
Equity in undistributed net income of subsidiary 10 901 353
------------- ----------- -----------
Net income $ 332 $ 1,209 $ 770
============= =========== ===========
F-49
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 17 - PARENT-ONLY FINANCIAL STATEMENTS (CONTINUED)
The condensed statement of cash flows is as follows:
Unaudited
Nine Months
Ended
September 30, December 31
------------ ---------------------------
2004 2003 2002
------------ ------------ ------------
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 332 $ 1,209 $ 770
Adjustments to reconcile net income to net cash
from operating activities:
Equity in undistributed net income of
subsidiary (10) (901) (353)
Net change in other assets (162) 13 (13)
Net change in other liabilities (19) (27) 1
------------ ------------ ------------
Net cash provided by operating
activities 141 294 405
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from exercise of stock options 18 131 25
Dividends paid (204) (367) (362)
------------ ------------ ------------
Net cash used in financing activities (186) (236) (337)
------------ ------------ ------------
NET INCREASE (DECREASE) IN CASH AND CASH
EQUIVALENTS (45) 58 68
CASH AND CASH EQUIVALENTS - Beginning of year 148 90 22
------------ ------------ ------------
CASH AND CASH EQUIVALENTS - End of year $ 103 $ 148 $ 90
============ ============ ============
F-50
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 18 - SEGMENT REPORTING
The Company's principal activities include banking and the sale of
insurance products through its wholly owned subsidiary, ICA, purchased
in 2003. The Bank provides financial products including retail and
commercial loans as well as retail and commercial deposits. ICA received
commissions from the sale of various insurance products including
health, life, and property. The segments were determined based on the
nature of the products provided to customers.
The financial information for each operating segment is reported on the
basis used internally to evaluate performance and allocate resources.
The allocations have been consistently applied for all periods
presented. Revenues and expenses between affiliates have been transacted
at rates that unaffiliated parties would pay. The only transaction
between the segments thus far relates to a deposit on behalf of the ICA
included in the Bank. The interest income and interest expense for this
transaction has been eliminated. All other transactions are with
external customers. The performance measurement of the operating
segments is based on the management structure of the Company and is not
necessarily comparable with similar information for any other financial
institution. The information presented is also not necessarily
indicative of the segment's financial condition and results of
operations if they were independent entities.
F-51
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 18 - SEGMENT REPORTING (CONTINUED)
Unaudited - For Nine Months Ended
September 30, 2004
------------------------------------------------------
Bank ICA Eliminations Total
------------ ------------ ------------ ------------
INTEREST INCOME $ 9,798 $ 5 $ (5) $ 9,798
INTEREST EXPENSE 4,576 - (5) 4,571
------------ ------------ ------------ ------------
NET INTEREST INCOME - Before
provision for loan losses 5,222 5 - 5,227
PROVISION FOR LOAN LOSSES 214 - - 214
------------ ------------ ------------ ------------
NET INTEREST INCOME - After
provision for loan losses 5,008 5 - 5,013
OTHER INCOME 1,356 2,243 - 3,599
OPERATING EXPENSES 6,048 2,065 - 8,113
------------ ------------ ------------ ------------
INCOME - Before federal income tax 316 183 - 499
FEDERAL INCOME TAX 108 59 - 167
------------ ------------ ------------ ------------
NET INCOME $ 208 $ 124 $ - $ 332
============ ============ ============ ============
DEPRECIATION AND AMORTIZATION $ 526 $ 101 $ - $ 627
============ ============ ============ ============
ASSETS $ 251,153 $ 3,328 $ (5) $ 254,476
============ ============ ============ ============
EXPENDITURES RELATED TO LONG-LIVED
ASSETS:
Goodwill $ - $ - $ - $ -
Intangible assets 47 - - 47
Property and equipment 971 41 - 1,012
------------ ------------ ------------ ------------
TOTAL $ 1,018 $ 41 $ - $ 1,059
============ ============ ============ ============
Unaudited - For Nine Months Ended
September 30, 2003
------------------------------------------------------
Bank ICA Eliminations Total
------------ ------------ ------------ ------------
INTEREST INCOME $ 10,125 $ - $ - $ 10,125
INTEREST EXPENSE 4,931 - - 4,931
------------ ------------ ------------ ------------
NET INTEREST INCOME - Before
provision for loan losses 5,194 - - 5,194
PROVISION FOR LOAN LOSSES 238 - - 238
------------ ------------ ------------ ------------
NET INTEREST INCOME - After
provision for loan losses 4,956 - - 4,956
OTHER INCOME 2,151 1,741 - 3,892
OPERATING EXPENSES 6,076 1,587 - 7,663
------------ ------------ ------------ ------------
INCOME - Before federal income tax 1,031 154 - 1,185
FEDERAL INCOME TAX 343 51 - 394
------------ ------------ ------------ ------------
NET INCOME $ 688 $ 103 $ - $ 791
============ ============ ============ ============
DEPRECIATION AND AMORTIZATION $ 496 $ 84 $ - $ 580
============ ============ ============ ============
ASSETS $ 228,070 $ 2,727 $ - $ 230,797
============ ============ ============ ============
EXPENDITURES RELATED TO LONG-LIVED
ASSETS:
Goodwill $ - $ 449 $ - $ 449
Intangible assets - 1,687 - 1,687
Property and equipment 644 4 - 648
------------ ------------ ------------ ------------
TOTAL $ 644 $ 2,140 $ - $ 2,784
============ ============ ============ ============
F-52
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 18 - SEGMENT REPORTING (CONTINUED)
For Year Ended
December 31, 2003
------------------------------------------------------
Bank ICA Eliminations Total
------------ ------------ ------------ ------------
INTEREST INCOME $ 13,350 $ 1 $ (1) $ 13,350
INTEREST EXPENSE 6,456 - (1) 6,455
------------ ------------ ------------ ------------
NET INTEREST INCOME - Before
provision for loan losses 6,894 1 - 6,895
PROVISION FOR LOAN LOSSES 267 - - 267
------------ ------------ ------------ ------------
NET INTEREST INCOME - After
provision for loan losses 6,627 1 - 6,628
OTHER INCOME 2,946 2,480 - 5,426
OPERATING EXPENSES 8,050 2,277 - 10,327
------------ ------------ ------------ ------------
INCOME - Before federal income tax 1,523 204 - 1,727
FEDERAL INCOME TAX 457 61 - 518
------------ ------------ ------------ ------------
NET INCOME $ 1,066 $ 143 $ - $ 1,209
============ ============ ============ ============
DEPRECIATION AND AMORTIZATION $ 661 $ 121 $ - $ 782
============ ============ ============ ============
ASSETS $ 220,824 $ 3,100 $ (1) $ 223,923
============ ============ ============ ============
EXPENDITURES RELATED TO LONG-LIVED
ASSETS:
Goodwill $ - $ 749 $ - $ 749
Intangible assets - 1,687 - 1,687
Property and equipment 1,101 13 - 1,114
------------ ------------ ------------ ------------
TOTAL $ 1,101 $ 2,449 $ - $ 3,550
============ ============ ============ ============
F-53
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 19 - QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)
The following tables summarize the Company's quarterly results for the
nine months ended September 30, 2004 and the fiscal years ended December
31, 2003 and 2002:
For the Three-Month Period Ending
------------------------------------------------------------
March 31, June 30, September 30, December 31,
2004 2004 2004 2004
------------ ------------ ------------ ------------
Interest income $ 3,091 $ 3,261 $ 3,446 $ -
Interest expense 1,445 1,504 1,622 -
------------ ------------ ------------ ------------
Net interest income 1,646 1,757 1,824 -
Provision for losses on loans 81 65 68 -
Other income 1,138 1,209 1,252 -
Other expenses 2,724 2,748 2,641 -
------------ ------------ ------------ ------------
Income - Before income taxes (21) 153 367 -
Federal income taxes (7) 51 123 -
------------ ------------ ------------ ------------
Net income $ (14) $ 102 $ 244 $ -
============ ============ ============ ============
Basic earnings per share $ (0.01) $ 0.06 $ 0.15 $ -
Fully diluted earnings per share $ (0.01) $ 0.06 $ 0.15 $ -
Weighted average number of shares outstanding 1,659 1,659 1,660 -
Weighted average number of shares outstanding,
including dilutive stock options 1,680 1,672 1,671 -
Cash dividends declared per common share $ 0.125 $ 0.050 $ 0.100 $ -
For the Three-Month Period Ending
------------------------------------------------------------
March 31, June 30, September 30, December 31,
2003 2003 2003 2003
------------ ------------ ------------ ------------
Interest income $ 3,400 $ 3,311 $ 3,414 $ 3,225
Interest expense 1,702 1,652 1,576 1,525
------------ ------------ ------------ ------------
Net interest income 1,698 1,659 1,838 1,700
Provision for losses on loans 162 65 11 29
Other income 582 1,943 1,367 1,534
Other expenses 1,994 2,896 2,774 2,663
------------ ------------ ------------ ------------
Income - Before income taxes 124 641 420 542
Federal income taxes 38 215 140 125
------------ ------------ ------------ ------------
Net income $ 86 $ 426 $ 280 $ 417
============ ============ ============ ============
Basic earnings per share $ 0.05 $ 0.26 $ 0.17 $ 0.25
Fully diluted earnings per share $ 0.05 $ 0.26 $ 0.17 $ 0.25
Weighted average number of shares outstanding 1,646 1,646 1,654 1,645
Weighted average number of shares outstanding,
including dilutive stock options 1,657 1,659 1,663 1,654
Cash dividends declared per common share $ 0.125 $ 0.125 $ 0.125 $ 0.125
F-54
ALPENA BANCSHARES, INC. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003 AND 2002
NOTE 19 - QUARTERLY RESULTS OF OPERATIONS (UNAUDITED) (CONTINUED)
For the Three-Month Period Ending
------------------------------------------------------------
March 31, June 30, September 30, December 31,
2002 2002 2002 2002
------------ ------------ ------------ ------------
Interest income $ 3,747 $ 3,691 $ 3,661 $ 3,400
Interest expense 2,300 2,142 2,038 1,862
Net interest income 1,447 1,549 1,623 1,538
Provision for losses on loans 75 75 75 190
Other income 596 376 828 585
Other expenses 1,825 1,622 1,936 1,689
Income - Before income taxes 143 228 440 244
Federal income taxes 52 81 155 (3)
Net income $ 91 $ 147 $ 285 $ 247
Basic earnings per share $ 0.06 $ 0.09 $ 0.17 $ 0.15
Fully diluted earnings per share $ 0.06 $ 0.09 $ 0.17 $ 0.15
Weighted average number of shares outstanding 1,642 1,644 1,644 1,645
Weighted average number of shares outstanding,
including dilutive stock options 1,653 1,656 1,657 1,654
Cash dividends declared per common share $ 0.125 $ 0.125 $ 0.125 $ 0.125
F-55
--------------------------------------------------------------------------------
NO PERSON HAS BEEN AUTHORIZED TO GIVE ANY INFORMATION OR TO MAKE ANY
REPRESENTATION OTHER THAN AS CONTAINED IN THIS PROSPECTUS AND, IF GIVEN OR MADE,
SUCH OTHER INFORMATION OR REPRESENTATION MUST NOT BE RELIED UPON AS HAVING BEEN
AUTHORIZED BY FIRST FEDERAL OF NORTHERN MICHIGAN BANCORP, INC. OR FIRST FEDERAL
OF NORTHERN MICHIGAN. THIS PROSPECTUS DOES NOT CONSTITUTE AN OFFER TO SELL OR A
SOLICITATION OF AN OFFER TO BUY ANY OF THE SECURITIES OFFERED HEREBY TO ANY
PERSON IN ANY JURISDICTION IN WHICH SUCH OFFER OR SOLICITATION IS NOT AUTHORIZED
OR IN WHICH THE PERSON MAKING SUCH OFFER OR SOLICITATION IS NOT QUALIFIED TO DO
SO, OR TO ANY PERSON TO WHOM IT IS UNLAWFUL TO MAKE SUCH OFFER OR SOLICITATION
IN SUCH JURISDICTION. NEITHER THE DELIVERY OF THIS PROSPECTUS NOR ANY SALE
HEREUNDER SHALL UNDER ANY CIRCUMSTANCES CREATE ANY IMPLICATION THAT THERE HAS
BEEN NO CHANGE IN THE AFFAIRS OF FIRST FEDERAL OF NORTHERN MICHIGAN BANCORP,
INC. OR FIRST FEDERAL OF NORTHERN MICHIGAN SINCE ANY OF THE DATES AS OF WHICH
INFORMATION IS FURNISHED HEREIN OR SINCE THE DATE HEREOF.
UP TO 2,116,000 SHARES
FIRST FEDERAL OF NORTHERN MICHIGAN BANCORP, INC.
(PROPOSED HOLDING COMPANY FOR
FIRST FEDERAL OF NORTHERN MICHIGAN)
COMMON STOCK
PAR VALUE $0.01 PER SHARE
------------------
PROSPECTUS
------------------
RYAN BECK & CO.
FEBRUARY __, 2005
----------------
THESE SECURITIES ARE NOT DEPOSITS OR ACCOUNTS AND
ARE NOT FEDERALLY INSURED OR GUARANTEED.
----------------
UNTIL __________, 2005 OR 25 DAYS AFTER COMMENCEMENT OF THE SYNDICATED COMMUNITY
OFFERING, IF ANY, WHICHEVER IS LATER, ALL DEALERS EFFECTING TRANSACTIONS IN THE
REGISTERED SECURITIES, WHETHER OR NOT PARTICIPATING IN THIS DISTRIBUTION, MAY BE
REQUIRED TO DELIVER A PROSPECTUS WHEN ACTING AS UNDERWRITERS AND WITH RESPECT TO
THEIR UNSOLD ALLOTMENTS OR SUBSCRIPTIONS.
--------------------------------------------------------------------------------
PART II: INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 24. INDEMNIFICATION OF DIRECTORS AND OFFICERS
Articles 12 and 13 of the Articles of Incorporation of First Federal of
Northern Michigan Bancorp, Inc., a Maryland corporation (the "Corporation"), set
forth circumstances under which directors, officers, employees and agents of the
Corporation may be insured or indemnified against liability which they incur in
their capacities as such:
ARTICLE 12. INDEMNIFICATION, ETC. OF DIRECTORS AND OFFICERS.
A. INDEMNIFICATION. The Corporation shall indemnify (1) its current
and former directors and officers, whether serving the Corporation or at its
request any other entity, to the fullest extent required or permitted by the
MGCL now or hereafter in force, including the advancement of expenses under the
procedures and to the fullest extent permitted by law, and (2) other employees
and agents to such extent as shall be authorized by the Board of Directors and
permitted by law; provided, however, that, except as provided in Section B
hereof with respect to proceedings to enforce rights to indemnification, the
Corporation shall indemnify any such indemnitee in connection with a proceeding
(or part thereof) initiated by such indemnitee only if such proceeding (or part
thereof) was authorized by the Board of Directors of the Corporation.
B. PROCEDURE. If a claim under Section A of this Article 12 is not
paid in full by the Corporation within 60 days after a written claim has been
received by the Corporation, except in the case of a claim for an advancement of
expenses, in which case the applicable period shall be 20 days, the indemnitee
may at any time thereafter bring suit against the Corporation to recover the
unpaid amount of the claim. If successful in whole or in part in any such suit,
or in a suit brought by the Corporation to recover an advancement of expenses
pursuant to the terms of an undertaking, the indemnitee shall also be entitled
to be reimbursed the expense of prosecuting or defending such suit. It shall be
a defense to any action for advancement of expenses that the Corporation has not
received both (i) an undertaking as required by law to repay such advances in
the event it shall ultimately be determined that the standard of conduct has not
been met and (ii) a written affirmation by the indemnitee of his good faith
belief that the standard of conduct necessary for indemnification by the
Corporation has been met. In (i) any suit brought by the indemnitee to enforce a
right to indemnification hereunder (but not in a suit brought by the indemnitee
to enforce a right to an advancement of expenses) it shall be a defense that,
and (ii) any suit by the Corporation to recover an advancement of expenses
pursuant to the terms of an undertaking the Corporation shall be entitled to
recover such expenses upon a final adjudication that, the indemnitee has not met
the applicable standard for indemnification set forth in the MGCL. Neither the
failure of the Corporation (including its Board of Directors, independent legal
counsel, or its stockholders) to have made a determination prior to the
commencement of such suit that indemnification of the indemnitee is proper in
the circumstances because the indemnitee has met the applicable standard of
conduct set forth in the MGCL, nor an actual determination by the Corporation
(including its Board of Directors, independent legal counsel, or its
stockholders) that the indemnitee has not met such applicable standard of
conduct, shall create a presumption that the indemnitee has not met the
applicable standard of conduct or, in the case of such a suit brought by the
indemnitee, be a defense to such suit. In any suit brought by the indemnitee to
enforce a right to indemnification or to an advancement of expenses hereunder,
or by the Corporation to recover an advancement of expenses pursuant to the
terms of an undertaking, the burden of proving that the indemnitee is not
entitled to be indemnified, or to such advancement of expenses, under this
Article 12 or otherwise shall be on the Corporation.
C. NON-EXCLUSIVITY. The rights to indemnification and to the
advancement of expenses conferred in this Article 12 shall not be exclusive of
any other right which any Person may have or hereafter acquire under any
statute, these Articles, the Corporation's Bylaws, any agreement, any vote of
stockholders or the Board of Directors, or otherwise.
D. INSURANCE. The Corporation may maintain insurance, at its
expense, to protect itself and any director, officer, employee or agent of the
Corporation or another corporation, partnership, joint venture, trust or other
enterprise against any expense, liability or loss, whether or not the
Corporation would have the power to indemnify such Person against such expense,
liability or loss under the MGCL.
E. MISCELLANEOUS. The Corporation shall not be liable for any
payment under this Article 12 in connection with a claim made by any indemnitee
to the extent such indemnitee has otherwise actually received payment under any
insurance policy, agreement, or otherwise, of the amounts otherwise
indemnifiable hereunder. The rights to indemnification and to the advancement of
expenses conferred in Sections A and B of this Article 12 shall be contract
rights and such rights shall continue as to an indemnitee who has ceased to be a
director or officer and shall inure to the benefit of the indemnitee's heirs,
executors and administrators.
Any repeal or modification of this Article 12 shall not in any way
diminish any rights to indemnification or advancement of expenses of such
director or officer or the obligations of the Corporation arising hereunder with
respect to events occurring, or claims made, while this Article 12 is in force.
ARTICLE 13. LIMITATION OF LIABILITY. An officer or director of the
Corporation, as such, shall not be liable to the Corporation or its stockholders
for money damages, except (A) to the extent that it is proved that the Person
actually received an improper benefit or profit in money, property or services
for the amount of the benefit or profit in money, property or services actually
received; (B) to the extent that a judgment or other final adjudication adverse
to the Person is entered in a proceeding based on a finding in the proceeding
that the Person's action, or failure to act, was the result of active and
deliberate dishonesty and was material to the cause of action adjudicated in the
proceeding; or (C) to the extent otherwise provided by the MGCL. If the MGCL is
amended to further eliminate or limit the Personal liability of officers and
directors, then the liability of officers and directors of the Corporation shall
be eliminated or limited to the fullest extent permitted by the MGCL, as so
amended.
Any repeal or modification of the foregoing paragraph by the
stockholders of the Corporation shall not adversely affect any right or
protection of a director or officer of the Corporation existing at the time of
such repeal or modification.
ITEM 25. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION
Amount
------
* Legal Fees and Expenses........................................ $ 200,000
* Accounting Fees and Expenses................................... 50,000
* Conversion Agent and Data Processing Fees...................... 10,000
* Marketing Agent Fees and Expenses, including legal fees (1).... 206,944
* Appraisal Fees and Expenses.................................... 34,000
* Business Plan Fees and Expenses................................ 22,000
* Printing, Photocopying, Postage, Mailing....................... 65,000
* Filing Fees (OTS, NASD and SEC)................................ 19,883
* Nasdaq National Market Listing Fees............................ 100,000
* SEC EDGAR Document Conversion.................................. 25,000
* Other.......................................................... 5,337
--------------
* Total ......................................................... $ 738,164
==============
------------------
* Estimated
(1) First Federal of Northern Michigan Bancorp, Inc.. has retained Ryan Beck
& Co. to assist in the sale of common stock on a best efforts basis in
the offerings. Fees are estimated at the midpoint of the offering range.
ITEM 26. RECENT SALES OF UNREGISTERED SECURITIES
Not Applicable.
ITEM 27. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES:
The exhibits filed as part of this registration statement are as
follows:
(A) LIST OF EXHIBITS
1.1 Engagement Letter between First Federal of Northern Michigan Bancorp, Inc. and Ryan Beck & Co., Inc*.
1.2 Form of Agency Agreement between First Federal of Northern Michigan Bancorp, Inc. and Ryan Beck & Co., Inc.*
1.3 Addendum to Engagement Letter between First Federal of Northern Michigan Bancorp, Inc. and Ryan Beck & Co., Inc*
2 Plan of Conversion and Reorganization*
3.1 Articles of Incorporation of First Federal of Northern Michigan Bancorp, Inc.*
3.2 Bylaws of First Federal of Northern Michigan Bancorp, Inc.*
4 Form of Common Stock Certificate of First Federal of Northern Michigan Bancorp, Inc.*
5 Opinion of Luse Gorman Pomerenk & Schick regarding legality of securities being registered*
8 Federal Tax Opinion of Luse Gorman Pomerenk & Schick*
10.1 Form of Change in Control Agreements*
10.2 Employment Agreement with Ralph Stepaniak***
10.3 1996 Stock Option Plan*
10.4 1996 Recognition and Retention Plan*
21 Subsidiaries of Registrant*
23.1 Consent of Luse Gorman Pomerenk & Schick (contained in Opinions included as Exhibits 5 and 8)*
23.2 Consent of Plante & Moran PLLC
23.3 Consent of RP Financial LC
24 Power of Attorney (set forth on signature page)
99.1 Appraisal Agreement between First Federal of Northern Michigan Bancorp, Inc. and RP Financial LC.*
99.2 Business Plan Agreement between First Federal of Northern Michigan Bancorp, Inc. and Keller & Company, Inc. *
99.3 Appraisal Report of RP Financial LC. *,**
99.4 Letter of RP Financial LC. with respect to Subscription Rights*
99.5 Marketing Materials*
99.6 Order and Acknowledgment Form*
-------------------------------
* Previously filed.
** Supporting financial schedules filed in paper format only, pursuant to
Rule 202 of Regulation S-T. Available for inspection, during business
hours, at the principal offices of the SEC in Washington, D.C.
*** Incorporated by reference to Form 10-KSB filed on March 30, 2004.
ITEM 28. UNDERTAKINGS
The undersigned Registrant hereby undertakes:
(1) To file, during any period in which it offers or sells
securities, a post-effective amendment to this registration statement to:
(i) Include any prospectus required by Section 10(a)(3) of
the Securities Act of 1933;
(ii) Reflect in the prospectus any facts or events which,
individually or together, represent a fundamental change in the
information in the registration statement. Notwithstanding the
foregoing, any increase or decrease in volume of securities offered (if
the total dollar value of securities offered would not exceed that which
was registered) and any deviation from the low or high end of the
estimated maximum offering range may be reflected in the form of
prospectus filed with the Commission pursuant to Rule 424(b) if, in the
aggregate, the changes in volume and price represent no more than a 20
percent change in the maximum aggregate offering price set forth in the
"Calculation of Registration Fee" table in the effective registration
statement; and
(iii) Include any additional or changed material information
as the plan of distribution.
(2) For determining liability under the Securities Act,
treat each post-effective amendment as a new registration statement as the
securities offered, and the offering of the securities at that time to be the
initial bona fide offering thereof.
(3) To file a post-effective amendment to remove from
registration any of the securities being registered that remain unsold at the
termination of the offering.
Insofar as indemnification for liabilities arising under the
Securities Act of 1933 (the "Act") may be permitted to directors, officers and
controlling persons of the small business issuer pursuant to the foregoing
provisions, or otherwise, the small business issuer has been advised that in the
opinion of the Securities and Exchange Commission such indemnification is
against public policy as expressed in the Act, and is, therefore, unenforceable.
In the event that a claim for indemnification against such liabilities (other
than the payment by the small business issuer of expenses incurred or paid by a
director, officer or controlling person of the small business issuer in the
successful defense of any action, suit or proceeding) is asserted by such
director, officer or controlling person in connection with the securities being
registered, the small business issuer will, unless in the opinion of its counsel
the matter has been settled by controlling precedent, submit to a court of
appropriate jurisdiction the question whether such indemnification by it is
against public policy as expressed in the Act and will be governed by the final
adjudication of such issue.
SIGNATURES
In accordance with the requirements of the Securities Act of 1933, the
registrant certifies that it has reasonable grounds to believe that it meets all
of the requirements of filing on Form SB-2 and authorized this registration
statement to be signed on its behalf by the undersigned, in the City of Alpena,
State of Michigan on February 9, 2005.
FIRST FEDERAL OF NORTHERN MICHIGAN BANCORP, INC.
By: /s/ Martin A. Thomson
------------------------------------
Martin A. Thomson
President, Chief Executive Officer and Director
(Duly Authorized Representative)
POWER OF ATTORNEY
We, the undersigned directors and officers of First Federal of Northern
Michigan Bancorp, Inc. (the "Company") hereby severally constitute and appoint
Martin A. Thomson as our true and lawful attorney and agent, to do any and all
things in our names in the capacities indicated below which said Martin A.
Thomson may deem necessary or advisable to enable the Company to comply with the
Securities Act of 1933, and any rules, regulations and requirements of the
Securities and Exchange Commission, in connection with the registration
statement on Form SB-2 relating to the offering of the Company's common stock,
including specifically, but not limited to, power and authority to sign for us
in our names in the capacities indicated below the registration statement and
any and all amendments (including post-effective amendments) thereto; and we
hereby approve, ratify and confirm all that said Martin A. Thomson shall do or
cause to be done by virtue thereof.
In accordance with the requirements of the Securities Act of 1933, this
registration statement was signed by the following persons in the capacities and
on the dates indicated.
Signatures Title Date
---------- ----- ----
/s/ Martin A. Thomas President, Chief Executive February 9, 2005
------------------------------------ Officer and Director (Principal
Martin A. Thomson Executive Officer)
/s/ Amy E. Essex Chief Financial Officer February 9, 2005
------------------------------------ (Principal Financial and
Amy E. Essex Accounting Officer)
/s/ James C. Rapin Chairman of the Board February 9, 2005
------------------------------------
James C. Rapin
/s/ Thomas R. Townsend Director February 9, 2005
------------------------------------
Thomas R. Townsend
/s/ Gary C. Vanmassenhove Director February 9, 2005
------------------------------------
Gary C. VanMassenhove
/s/ Keith D. Wallace Director February 9, 2005
------------------------------------
Keith D. Wallace
AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON FEBRUARY 11, 2005
REGISTRATION NO. 333-121178
================================================================================
---------------------------------------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
---------------------------------------
EXHIBITS
TO
PRE-EFFECTIVE AMENDMENT NO. 3
TO
REGISTRATION STATEMENT
ON
FORM SB-2
FIRST FEDERAL OF NORTHERN MICHIGAN BANCORP, INC.
ALPENA, MICHIGAN
================================================================================
EXHIBIT INDEX
1.1 Engagement Letter between First Federal of Northern Michigan Bancorp, Inc. and Ryan Beck & Co., Inc*.
1.2 Form of Agency Agreement between First Federal of Northern Michigan Bancorp, Inc. and Ryan Beck & Co., Inc.*
1.3 Addendum to Engagement Letter between First Federal of Northern Michigan Bancorp, Inc. and Ryan Beck & Co., Inc*
2 Plan of Conversion and Reorganization*
3.1 Articles of Incorporation of First Federal of Northern Michigan Bancorp, Inc.*
3.2 Bylaws of First Federal of Northern Michigan Bancorp, Inc.*
4 Form of Common Stock Certificate of First Federal of Northern Michigan Bancorp, Inc.*
5 Opinion of Luse Gorman Pomerenk & Schick regarding legality of securities being registered*
8 Federal Tax Opinion of Luse Gorman Pomerenk & Schick*
10.1 Form of Change in Control Agreements*
10.2 Employment Agreement with Ralph Stepaniak***
10.3 1996 Stock Option Plan*
10.4 1996 Recognition and Retention Plan*
21 Subsidiaries of Registrant*
23.1 Consent of Luse Gorman Pomerenk & Schick (contained in Opinions included as Exhibits 5 and 8)*
23.2 Consent of Plante & Moran PLLC
23.3 Consent of RP Financial LC
24 Power of Attorney (set forth on signature page)
99.1 Appraisal Agreement between First Federal of Northern Michigan Bancorp, Inc. and RP Financial LC.*
99.2 Business Plan Agreement between First Federal of Northern Michigan Bancorp, Inc. and Keller & Company, Inc.*
99.3 Appraisal Report of RP Financial LC. *,**
99.4 Letter of RP Financial LC. with respect to Subscription Rights*
99.5 Marketing Materials*
99.6 Order and Acknowledgment Form*
-------------------------------
* Previously filed.
** Supporting financial schedules filed in paper format only, pursuant to
Rule 202 of Regulation S-T. Available for inspection, during business
hours, at the principal offices of the SEC in Washington, D.C.
*** Incorporated by reference to Form 10-KSB filed on March 30, 2004.