Business Context and Reporting Period
Company: Old Second Bancorp, Inc.
Filing Type: Form 10-K (Annual Report)
Period Ended: December 31, 2002
Headquarters: Aurora, Illinois
Old Second Bancorp is a registered bank holding company operating a full-service community banking and trust business through its wholly-owned subsidiaries: The Old Second National Bank of Aurora, Yorkville National Bank, Old Second Bank - Kane County, and Old Second Financial, Inc. The company operates 22 banking locations and 4 mortgage offices across six Illinois counties. In 2002, the company simplified its structure by transferring Old Second Mortgage to Old Second Bank and initiated the conversion of Yorkville National Bank to a state-chartered bank.
Key Financial Metrics
Note: All dollar amounts in the tables below are in thousands, except per share data.
| Metric | 2002 | 2001 | 2000 |
|---|---|---|---|
| Total Assets (Average) | $1,451,131 | $1,243,903 | $1,067,104 |
| Total Loans (Gross, Year-End) | $1,061,867 | $895,458 | $729,754 |
| Net Interest Income (Tax Equivalent) | $59,101 | $51,146 | $42,965 |
| Net Interest Margin (Tax Equivalent) | 4.28% | 4.33% | 4.29% |
| Return on Average Assets | 1.39% | 1.38% | 1.26% |
| Return on Average Equity | 15.84% | 14.43% | 12.71% |
| Stockholders' Equity (Average) | $127,155 | $119,382 | $106,008 |
| Allowance for Loan Losses (Year-End) | $15,769 | $12,313 | $9,690 |
| Nonperforming Assets (Year-End) | $5,575 | $3,331 | $2,471 |
Liquidity and Capital: As of December 31, 2002, the Company and all Bank Subsidiaries were "well-capitalized" under applicable regulatory guidelines. Approximately $22.5 million was available to be paid as dividends by the Bank Subsidiaries. The aggregate market value of common equity held by non-affiliates was approximately $255 million as of June 28, 2002.
Material Changes vs. Prior Period
- Asset Growth: Average total assets increased by approximately 16.6% from 2001 to 2002, driven primarily by a 21.9% increase in the loan portfolio (from $895.5 million to $1.06 billion).
- Interest Rate Environment: The average yield on total interest-earning assets declined from 7.32% in 2001 to 6.31% in 2002. Concurrently, the cost of interest-bearing liabilities decreased from 3.67% to 2.45%.
- Net Interest Income: Despite lower yields, net interest income (tax equivalent) increased by $7.95 million (15.6%) due to significant growth in the volume of earning assets.
- Asset Quality: Nonperforming assets increased from $3.33 million in 2001 to $5.58 million in 2002, primarily due to an increase in nonaccrual loans from $2.56 million to $4.80 million. However, the ratio of net charge-offs to average loans remained low at 0.04%.
- Securities Portfolio: The securities portfolio grew from $324.5 million in 2001 to $389.2 million in 2002, with U.S. Government agencies comprising 72.57% of the portfolio.
Outlook, Risks, and Management Commentary
Management Commentary: Management attributes the increase in net interest income to the expansion of the loan portfolio, which offset the impact of declining interest rates. The company retains servicing rights on variable rate residential mortgages to provide a steady source of fee income. The company closed its correspondent division and New Leaf division in 2000 to focus on retail business and reduce risk in the sub-prime market.
Risks and Contingencies:
- Regulatory Risk: The company is subject to extensive federal and state regulation regarding capital adequacy, liquidity, and lending practices. Changes in statutes or regulatory policies could materially affect operations.
- Competition: The market area is highly competitive with over 20 other banks in the Aurora market. Competition is based on service quality, interest rates, and fees.
- Interest Rate Risk: The company faces risks associated with interest rate fluctuations affecting the yield on assets and cost of liabilities.
- Legal Proceedings: The company is involved in routine collection suits and legal actions arising from normal business activities. Management believes these will not have a material adverse effect.
Investor Verification Checklist
- Asset Quality Trend: Verify the cause of the 87% increase in nonperforming assets (from $3.3M to $5.6M) and assess if the $15.8M allowance for loan losses is sufficient given the rise in nonaccrual loans.
- Loan Concentration: Confirm the risk profile of the loan portfolio, noting that Commercial Real Estate (39%) and Residential Real Estate (25%) comprise the majority of loans.
- Dividend Capacity: Review the $22.5 million in available dividends from subsidiaries against the company's capital retention needs and regulatory constraints.
- Interest Rate Sensitivity: Analyze the maturity and rate sensitivity of the loan portfolio versus liabilities to understand exposure to future rate changes.
- Regulatory Status: Confirm the "well-capitalized" status of all subsidiaries remains intact and monitor the progress of Yorkville National Bank's conversion to a state-chartered bank.