U. S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-KSB
[X] ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934
For the fiscal year ended December 31, 2003
OR
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the transition period from ________ to ________
Commission file number 0-18599
BLACKHAWK BANCORP, INC.
(Name of small business issuer in its charter)
WISCONSIN 39-1659424
(State of Incorporation) (IRS Employer ID No.)
400 Broad Street, Beloit, Wisconsin 53511
(Address of principal executive offices)
Issuer's Telephone Number (608) 364-8911
Securities Registered Under Section 12(b) of the Exchange Act:
NONE
Securities Registered Under Section 12(g) of the Exchange Act:
COMMON STOCK, $ .01 PAR VALUE
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter
period that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days. Yes X No .
--- ---
Check if there is no disclosure of delinquent filers in response to Item 405 of
Regulation S-B is not contained in this form, and no disclosure will be
contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-KSB
or any amendment to this Form 10-KSB. [ ]
State issuer's revenues for its most recent fiscal year. $20,555,930
As of March 17, 2004, 2,526,145 shares of common stock were outstanding and the
aggregate market value (based on the bid price at March 17, 2004) of the shares
held by non-affiliates (excludes shares reported or beneficially owned by
directors and officers - does not constitute an admission to affiliate status)
was approximately $24,255,000.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of Blackhawk Bancorp, Inc.' s definitive proxy statement for its Annual
Meeting of Stockholders, to be held on May 19, 2004, are incorporated by
reference into Part III hereof.
Transitional Small Business Disclosure Format (check one): Yes [ ] No [ X ]
BLACKHAWK BANCORP, INC.
FORM 10-KSB - TABLE OF CONTENTS
PART I PAGE
Item 1. Description of Business 3
Item 2. Description of Property 7
Item 3. Legal Proceedings 8
Item 4. Submission of Matters to a Vote of
Security Holders 8
PART II
Item 5. Market for Common Equity, Related Stockholder Matters and
Small Business Issuer Purchases of Equity Securities 10
Item 6. Management's Discussion and Analysis
or Plan of Operation 11
Item 7. Financial Statements 36
Item 8. Changes In and Disagreements with
Accountants on Accounting and Financial
Disclosure 37
Item 8A. Controls and Procedures 38
PART III
Item 9. Directors, Executive Officers, Promoters and Control
Persons; Compliance With Section 16(a) of the Exchange Act 39
Item 10. Executive Compensation 39
Item 11. Security Ownership of Certain Beneficial Owners and Management
and Related Stockholder Matters 39
Item 12. Certain Relationships and Related
Transactions 39
Item 13. Exhibits and Reports on Form 8-K 39
Item 14. Principal Accountant Fees and Services 40
Signatures 41
PART I
ITEM 1. DESCRIPTION OF BUSINESS
GENERAL. Blackhawk Bancorp, Inc. (the "Company") was incorporated under the
laws of the state of Wisconsin in November 1989. The Company owns and operates
a subsidiary financial institution, Blackhawk State Bank ("Bank") headquartered
in Beloit, Wisconsin and owns 100% of the common securities of Blackhawk
Statutory Trust I, which was formed in December 2002 for the purpose of issuing
Trust Preferred Securities.
On September 30, 2003 the Company acquired DunC Corp. and its wholly owned
subsidiary, First Bank, bc in a transaction accounted for as a purchase. The
Company paid cash consideration of $7.2 million for DunC Corp. Immediately
thereafter, DunC Corp was merged with and in to the Company and First Bank, bc
was merged with and in to the Bank. In accordance with the requirements of
purchase accounting, the operations of the acquired companies have been included
with the operations of the Company since October 1, 2003. In this document,
unless we specifically otherwise indicate, when we refer to "DunC" we include
both DunC Corp. and First Bank, bc together. See also Item 6. "Recent
Acquisition."
The Bank is a Wisconsin-chartered commercial bank operating eleven free-standing
branches, three of which are in Beloit, Wisconsin and eight are located in the
following cities in Illinois: Belvidere (2), Capron (1), Machesney Park (1),
Oregon (1), Rochelle (1), Rockford (1) and Roscoe (1). Bank management has
begun a program to evaluate the location and profitability of branch locations
and has consolidated its former Beloit Wal-Mart location with the Beloit East
location in 2002 and its former Belvidere North State Street location with the
Belvidere West location during January 2004. The Bank has three wholly-owned
subsidiaries: Nevahawk Investment, Inc. ("Nevahawk"), an investment subsidiary
located in Las Vegas, Nevada; RSL, Inc. ("RSL"), which in turn owns Midland
Acceptance Corporation ("MAC"), both of which are substantially inactive; and
First Financial Services, Inc. ("FFSI"), whose primary activity is ownership of
the closed North State Street facility.
Through its eleven locations the Bank provides various consumer banking,
business banking and related financial services. Consumer banking services to
individuals include demand, savings and time deposits. Consumer lending
services include installment loans, mortgage loans, overdraft protection,
personal lines of credit and credit cards. The Bank also provides trust and
investment services through a separate department of the bank and also through a
third party marketing agreement with a full service brokerage company.
Business banking services, which are provided to small business, commercial and
governmental organizations include commercial and commercial real estate
lending, deposits, cash management and letters of credit.
The Bank's primary source of revenue is interest income and fees earned on its
loans and investments, net of interest paid on deposits and borrowings. Other
non-interest income consists of mortgage loan sale and servicing fees, deposit
service charges, trust fees, retail non-deposit investment sales income, and
investment securities gains or losses.
LENDING ACTIVITIES. A significant amount of the loans in the Bank's loan
portfolio are secured by residential or commercial real estate. Most of the
real estate securing mortgage loans is located within thirty minutes driving
distance of the Bank's offices. Commercial loans are either collateralized by
non-real estate assets or are unsecured and may have fixed or variable interest
rates. Consumer and installment loans are generally secured by automobiles,
boats, or second liens on real estate. The Bank also offers credit cards and
home equity lines of credit. The Analysis of Loan Portfolio, located in the
discussion of "Loans" under Item 6 of this report, shows the changes in the
types of loans from 2001 through 2003.
INVESTMENT ACTIVITIES. The Bank and its subsidiary, Nevahawk, each maintain
investment portfolios, which are separately managed to provide liquidity for
lending or deposit withdrawals, control interest rate risk and enhance earnings.
The investments held by the Bank and Nevahawk consist primarily of U.S.
government and agency securities, mutual funds, corporate bonds, mortgage-backed
securities, collateralized mortgage obligations and municipal bonds or
repurchase agreements backed by similar securities. The Bank's investment
portfolio is managed to maintain the Bank's need for liquidity; next to generate
an acceptable level of interest income from the investment portfolio; and
finally to maintain the interest rate sensitivity of the Bank's net interest
income at desired levels. The investment portfolio of Nevahawk is managed to
generate an acceptable level of interest income; next to maintain the interest
rate sensitivity of the consolidated Bank's net interest income; and finally to
maintain the parent Bank's need for liquidity. As more fully discussed in Item
6 of this report, the Wisconsin Department of Revenue has instituted an audit
program specifically aimed at Nevahawk. The Department may take the position
that the income of Nevahawk is taxable in Wisconsin which could result in a
substantial negative impact on the earnings of the Company.
DEPOSIT ACTIVITIES. Deposits are divided between interest bearing and non-
interest bearing. Non-interest bearing deposits consist of checking accounts of
individuals, businesses and governmental organizations. The interest-bearing
deposits include savings accounts, money market deposit accounts, certificates
of deposit, individual retirement accounts and NOW accounts. The aggregate
balance of time deposits with balances in excess of $0.1 million was $41.1
million at December 31, 2003.
WEALTH MANAGEMENT SERVICES. The Bank provides wealth management services,
including acting as trustee for living and testamentary trusts, and as an agent,
custodian, guardian, conservator, personal representative or administrator for
individuals or their estates. The Bank also provides retail investment and
insurance products through a third-party marketing agreement with Raymond James
Financial Services, Inc. During the first quarter of 2004, the Bank began
offering the trust services of Raymond James Trust Company through this third-
party marketing agreement, and began transitioning internally administered trust
accounts to products and services offered through Raymond James Financial
Services, Inc. and Raymond James Trust Company.
COMPETITION. Active competition exists for all services offered by the Company
with other state banks, national banks, credit unions, savings and loans,
finance companies, personal loan companies, brokerage and mutual fund companies,
mortgage bankers, insurance agencies, and other financial institutions in the
Company's markets. The principal competitive factors in the banking and
financial services industry are quality of services to customers, ease of access
to services, and pricing of services, including interest rates paid on deposits,
interest rates charged on loans, and fees charged for fiduciary and other
services. To compete in this environment, the Company endeavors to offer
competitive rates and fees, convenient hours and locations, and high quality
services, including internet banking and a unique courier service.
EMPLOYMENT. As of December 31, 2003, the Company and the Bank had 186
employees, of which 149 were employed on a full-time basis. The Company
provides a variety of benefit plans to its employees, including health
insurance, long-term disability insurance, group term life insurance, flexible
spending accounts, profit sharing, 401k, and stock options. Management
considers its relations with employees to be good.
REGULATORY FILINGS WITH SECURITIES AND EXCHANGE COMMISSION. Copies of our
Annual Reports on Form 10-KSB, Quarterly Reports on Form 10-QSB, Current Reports
on Form 8-K, and amendments to those reports are available free of charge at the
SEC's website at http://www.sec.gov and/or from the Company. They can be
obtained at our website, http://www.blackhawkbank.com, through a link to the SEC
----------------------------
website under "Shareholder Information" located at the bottom of the "Bank"
page.
SUPERVISION AND REGULATION. The Company and the Bank are extensively regulated
under federal and state law. Any descriptions of statutory and regulatory
provisions contained in the following discussion are qualified in their entirety
by reference to the particular statutory and regulatory provisions. Any change
in applicable law or regulations may have a material effect on the Company.
THE COMPANY.
The Company is registered as a bank holding company with the Federal Reserve
Board (the "FRB") under the Bank Holding Company Act of 1956, as amended (the
"BHC Act"), and in that capacity acquired all of the capital stock of the Bank.
As a result, since formation of the bank holding company in 1990, the Company's
activities have been subject to limitations imposed under the BHC Act.
Transactions between the Company and the Bank and their affiliates are also
subject to certain restrictions. As a registered bank holding company, the
Company is subject to various filing requirements of the FRB and is also subject
to examination by the FRB.
FRB approval must be obtained before a bank holding company acquires all or
substantially all of the assets of a bank or savings association or merges or
consolidates with another bank holding company or savings and loan holding
company. Under the BHC Act, we must obtain approval of the Federal Reserve Board
to acquire another bank or bank holding company. The Federal Reserve Board may
impose substantive conditions on any such acquisition. We obtained the approval
of the Federal Reserve Board to acquire DunC in 2003. In connection with that
acquisition, we agreed to maintain the Bank's tier I capital to average assets
ratio at a minimum of 7.0% through September 30, 2006.
GRAMM-LEACH-BLILEY ACT. The laws and regulations to which the Company is
subject are constantly under review by Congress, regulatory agencies and state
legislatures. In 1999 important legislation was passed by Congress to overturn
Depression-era restrictions on affiliations by banking organizations. This
comprehensive legislation, referred to as the Gramm-Leach-Bliley Act (the
"Act"), eliminates certain barriers to and restrictions on affiliations between
banks and securities firms, insurance companies and other financial service
organizations. The Act provides for a new type of "financial holding company"
structure, under which affiliations among these entities may occur, subject to
the regulation of the Federal Reserve Board and regulation of affiliates by the
functional regulators, including the Securities and Exchange Commission and
state insurance regulators. In addition, the Act permits certain non-banking
financial and financially related activities to be conducted by operating
subsidiaries of a national bank. Under the Act, a bank holding company may
become certified as a financial holding company by filing a notice with the
Federal Reserve Board, together with a certification that the bank holding
company meets certain criteria, including capital, management and Community
Reinvestment Act requirements. The Act contains a number of provisions
allocating regulatory authority among the Federal Reserve Board, other banking
regulators, the Securities and Exchange Commission and state insurance
regulators. In addition, the Act imposes strict new limits on the transfer and
use by financial institutions of nonpublic, personal information about their
customers.
Other important provisions of the Act permit merchant banking activities,
venture capital activities, and insurance underwriting, to be conducted by a
subsidiary of a financial holding company. It also allows municipal securities
underwriting activities to be conducted directly by a national bank or by its
subsidiary. Under the Act, a financial holding company may engage in a broad
list of "financial activities," and any non-financial activity that the Federal
Reserve Board determines is "complementary" to a financial activity and poses no
substantial risk to the safety and soundness of the depository institution or
the financial system. The Company has not elected to become a financial holding
company.
On June 1, 2000, the federal bank regulatory agencies issued final regulations
implementing the Act's consumer privacy protections. Among other things, the
new privacy regulations give customers the right to "opt out" of having their
nonpublic, personal information shared by a financial institution with
nonaffiliated third parties, bars financial institutions from disclosing
customer account numbers or other such access codes to nonaffiliated third
parties for direct marketing purposes and requires annual disclosure by
financial institutions of their policies and procedures for protecting
customers' nonpublic, personal information. Full compliance with the new
privacy regulations was mandatory as of July 1, 2001.
USA PATRIOT ACT OF 2001. The USA Patriot Act of 2001 was adopted in 2001. The
requirements of the Act went into effect in October 2002, upon issuance of final
rules, although certain provisions of the USA Patriot Act are subject to review,
expiration or renewal beginning in 2004. This comprehensive legislation
provides that U.S. depository institutions are prohibited from providing
correspondent banking services to foreign shell banks. It also requires that
upon request of the appropriate federal banking agency the Bank must produce
records relating to its anti-money laundering compliance or its customers within
120 hours of the request. The Act allows the Bank to share information relating
to money laundering or suspected terrorists with the Financial Crimes
Enforcement Network (FinCEN) and other financial institutions. In addition, the
Act requires the institution to establish anti-money laundering programs and
perform due diligence on private banking and correspondent accounts. The Act
allows the Treasury to issue regulations on the maintenance of "concentration
accounts" and to prohibit an institution's customers from anonymously directing
funds into or through such accounts. The Federal Reserve Board and other
regulators are required to consider the effectiveness of a bank holding company
or its financial institution in combating money laundering when ruling on
applications.
Section 326 of the USA Patriot Act of 2001 requires the Bank to develop an
extensive Customer Identification Program and obtain certain information prior
to opening or adding a signatory to an account. The Bank must adopt risk-based
procedures for verifying the elements of customer information and must develop
procedures for determining whether the customer appears on any list of known or
suspected terrorists or terrorist organizations provided to the institution by
any federal government agency. The Bank must provide the customer prior notice
of the requirements of the Act, and must retain all records used to verify the
customer's identity for a period of five years after the account is closed.
SARBANES-OXLEY ACT OF 2002. The Sarbanes-Oxley Act of 2002 (the "Act") impacts
corporate governance of public companies, affecting their officers and
directors, their audit committees, their relationships with their accountants
and the audit function itself.
The Act implements a broad range of corporate governance and accounting measures
for public companies designed to promote honesty and transparency in corporate
America and better protect investors from corporate wrongdoing. The Act includes
the creation of an independent accounting oversight board to oversee the audit
of public companies and their auditors, provisions restricting non-audit
services performed by independent accountants for public companies and
additional corporate governance and responsibility provisions.
The Act requires audit committees to have in place procedures to receive and
address complaints regarding accounting, internal control and auditing issues
and provides protection for corporate whistleblowers. The Company has adopted a
policy providing employees with the opportunity to confidentially report their
concerns directly to members of the Bank's Audit Committee or the Bank's
Internal Auditor and has communicated its policy to all employees.
CAPITAL ADEQUACY. The FRB has adopted capital guidelines as to both minimum
levels of core capital and risk-based capital. The minimum core capital
requirement ranges from 3% to 5% of total assets depending upon the regulator's
determination of the holding company's strength. The guidelines assign risk
weightings to assets and off-balance sheet items, and have minimum risk-based
capital ratios. All bank holding companies are required to have total
consolidated capital of 8% of risk-weighted assets. Core capital consists
principally of shareholders' equity less intangibles, while qualifying total
capital consists of core capital plus certain debt instruments and a portion of
the allowance for loan losses. The discussion of "Capital" under Item 6 of this
report reflects various regulatory measures of capital as of December 31, 2003.
The Company's core and risk-based capital ratios, as shown, are well above the
minimum levels.
Under Wisconsin law, a bank holding company is deemed to be engaged in the
banking business and is subject to supervision and examination by the Wisconsin
Department of Financial Institutions (the "WDFI"). The WDFI is also empowered
to issue orders to a bank holding company to remedy any condition or policy,
which, in the opinion of the WDFI, endangers the safety of deposits of any
subsidiary state bank or trust company. In the event of non-compliance with
such an order, the WDFI has the power to direct the operations of the state bank
or trust company and to restrict dividends paid to the bank holding company.
THE BANK.
Wisconsin-chartered banks, including the Bank, are regulated and supervised by
the WDFI. Each Wisconsin chartered bank is periodically examined by the WDFI or
its primary federal regulator. The approval of the WDFI is required to
establish or close branches, merge with other banks and undertake many other
activities.
Any Wisconsin bank that does not operate in accordance with the regulations,
policies and directives of the WDFI may be subject to sanctions for
noncompliance. The WDFI may, under certain circumstances, suspend or remove
directors, officers or employees who have violated the law, conducted the Bank's
business in a manner which is unsafe, unsound or contrary to the depositors'
interests or been negligent in the performance of their duties.
Wisconsin state banks are authorized to accept deposits (including demand,
savings and time deposits and certificates of deposit). Banks may make a wide
variety of loans (including mortgage loans, loans to corporations and other
commercial loans and other personal consumer loans). Other federal and state
regulations with respect to banks include required reserves, limitations as to
the nature and amount, by type and borrower, of lending, regulatory approval of
mergers and consolidations, issuance and retirement by a bank of its own
securities, and other aspects of banking operations.
In 2003 the Wisconsin legislature enacted legislation allowing certain Wisconsin
financial institutions to be certified as "universal banks" and exercise
expanded powers. The Bank has not applied to the Wisconsin Division of Banking
to be certified as a "universal bank."
PAYMENT OF DIVIDENDS. The Board of Directors of a Wisconsin bank may declare
and pay a dividend from its undivided profits in an amount they consider
expedient. The board of directors shall provide for the payment of all
expenses, losses, required reserves, taxes, and interest accrued or due from the
bank before the declaration of dividends from undivided profits. If dividends
declared and paid in either of the two immediately preceding years exceeded net
income for either of those two years respectively, the bank may not declare or
pay any dividend in the current year that exceeds year-to-date net income except
with the written consent of the WDFI. Federal and state regulations limit
dividends paid by the Bank to the Company to net income of the Bank. The Bank
paid dividends to the Company of $1.4 million, $1.5 million and $1.5 million for
the years ended December 31, 2003, 2002 and 2001, respectively. During 2001 the
Bank received a waiver from the WDFI to pay dividends to the Company in excess
of current net income.
FEDERAL DEPOSIT INSURANCE CORPORATION. The Bank's deposit accounts are insured
by the FDIC. FDIC insurance, at the present time, generally insures up to a
maximum of $0.1 million for each insured depositor. The FDIC imposes an annual
assessment on deposits. Effective since 1993, premiums have been assessed on
the basis of a risk rating assigned by the FDIC. Since that time the Bank's
premium has been at the lowest available rate.
The FDIC issues regulations, conducts periodic examinations, requires the filing
of reports and generally supervises the operations of its insured banks. The
approval of the FDIC is required prior to any merger or consolidation, or the
establishment or relocation of any branch office. This supervision and
regulation is intended primarily for the protection of depositors.
As an FDIC-insured bank, the Bank is subject to certain FDIC requirements
designed to maintain the safety and soundness of individual banks and the
banking system. The FDIC, based upon appraisals during examinations, may
revalue assets of an insured institution and require establishment of specific
reserves in amounts equal to the difference between such revaluation and the
book value of the assets. In addition, the FDIC has adopted regulations
regarding capital adequacy requirements similar to those of the FRB.
OTHER ASPECTS OF FEDERAL AND STATE LAW. The Bank is also subject to federal and
state statutory and regulatory provisions covering, among other things, security
procedures, currency reporting, insider and affiliated party transactions,
management interlocks, community reinvestment, truth-in-lending, electronic
funds transfers, truth-in-savings, privacy, and equal credit opportunity.
Proposals for new legislation or rule making affecting the financial services
industry are continuously being advanced and considered at both the national and
state levels. Proposals are primarily focused upon restructuring and
strengthening regulation and supervision to reduce the risks to which assets of
banks and savings institutions are exposed.
In addition, changes in Wisconsin and Illinois state taxation can affect the
Bank and the Company. See Item 6, "Management's Discussion and Analysis,
Results of Operations--Income Tax" for a discussion of recent Wisconsin
Department of Revenue activity and interpretations which could affect our
Wisconsin state taxes.
Although further changes in the regulatory framework may be enacted, specific
provisions and their ultimate effect upon the business of the Bank and the
Company cannot be reliably anticipated.
GOVERNMENTAL MONETARY POLICIES AND ECONOMIC CONDITIONS. The earnings of the
Bank and the Company are affected not only by general economic conditions but
also by the policies of various governmental regulatory authorities. In
particular, the FRB influences general economic conditions and interest rates
through the regulation of money and credit conditions. It does so primarily
through open-market operations in U.S. Government Securities, varying the
discount rate on member and nonmember bank borrowings, and setting reserve
requirements against bank deposits. FRB monetary policies have had a
significant effect on the operating results of banks in the past and are likely
to continue to have such an effect in the future. The general effect, if any,
of such policies upon the future business and earnings of the Bank cannot be
accurately predicted. In addition, losses sustained by the federal insurance
funds and regulatory costs incurred in connection with failed or failing insured
depository institutions continue to be assessed to those within the industry.
As such, future earnings will be adversely affected by regulations enacted to
cover these losses and costs.
ITEM 2. DESCRIPTION OF PROPERTY
On February 1, 2004, the Company had eleven locations, of which three were
leased. All of these offices are considered by management to be well
maintained and adequate for the purpose intended. The former branch property
at 1021 North State Street in Belvidere was held for sale. Management feels
all properties are adequately insured against loss. The Company's eleven
locations are:
LOCATIONS
---------
Owned or Owned or
Address Leased Address Leased
------- -------- ------- --------
400 Broad St., Owned 2141 N. State St., Leased
Beloit, WI 53511 Belvidere, IL 61108
2200 Cranston Rd., Owned 121 E. Locust Ave., Leased
Beloit, WI 53511 Belvidere, IL 61008
1795 Madison Rd., Owned 422 Cherry Ave., Owned
Beloit, WI 53511 Rochelle, IL 61068
5206 Elevator Rd., Leased 307 N. Franklin Dr., Owned
Roscoe, IL 61073 Oregon, IL 61061
9609 Forest Hills Road, Owned 209 W Main Street, Owned
Machesney Park, IL 61115 Capron, IL 61012
2475 N. Perryville Road, Owned
Rockford, IL 61107
See Note 6 to the Consolidated Financial Statements for further
information on properties.
ITEM 3. LEGAL PROCEEDINGS
Management believes that no litigation is threatened or pending in which the
Company faces potential loss or exposure which will materially affect the
Company's financial position or results of operation, other than noted below.
Since the Company's banking subsidiary acts as a depository of funds, trustee
or escrow agent, it is named as defendant in lawsuits involving claims to the
ownership of funds in particular accounts. This and other litigation is
incidental to the Company's business.
In 2000 the Bank filed a lawsuit in Waukesha County, Wisconsin, against
Fiserv, Inc., a former data processing services provider, for breach of
contract. The bank was seeking to recover damages sustained due to a
processing error in which $0.5 million was improperly charged to the Bank's
check clearing account at the Federal Home Loan Bank of Chicago. On February
14, 2003 a jury delivered a verdict that Fiserv, Inc. did not breach its
contract with the Bank. Fiserv, Inc. also filed a counterclaim seeking a $0.4
million reimbursement of legal fees. On May 12, 2003 a judge in the case
denied Fiserv's motion for reimbursement of legal fees. In July, Fiserv
appealed the trial court's denial of its request to have its legal fees
reimbursed. The Bank thereafter cross-appealed on several grounds, including
the trial court's denial of its motion for a new trial. Fiserv filed a motion
to dismiss the Bank's cross-appeal on procedural grounds. This motion was
denied and the appeal and cross-appeal are currently pending. The Company
plans to aggressively contest Fiserv's appeal of the decision on legal fees
and has not accrued the legal fee reimbursement claimed by Fiserv. The Bank
also intends to aggressively pursue its appeal for a new trial. Although the
ultimate disposition of any appeal can not be predicted with any certainty,
the Company believes that the outcome of the case will not have a material
adverse effect on the Company's consolidated financial position, though an
adverse result could have a material adverse effect on the Company's
consolidated results of operations in a given year.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders during the
fourth quarter of 2003.
EXECUTIVE OFFICERS
NAME AND AGE PRINCIPAL OCCUPATION
------------ --------------------
R. Richard Bastian, III, 57 President and Chief Executive Officer of the
Company since February 2002 and of the Bank since
May 2001. Previously, President of the Bank of
Kenosha from January 1999 to January 2001 and
Executive Vice President and Director of the Clean
Air Action Corporation from August 1994 to January
2000.
Todd J. James, 40 Executive Vice President and Chief Financial
Officer of the Company and the Bank since February
2003. Senior Vice President and Chief Financial
Officer from February 2002 to February 2003.
Previously Senior Vice President, Amcore
Investment Group N.A. from October 1999 to
February 2002 and Vice President Amcore Financial,
Inc. from October 1998 to October 1999.
Todd L. Larson, 44 Senior Vice President, Business Banking for the
Bank since January 2003. Previously Vice
President, Business Banking for the Bank from
November 1999 to January 2003, and Vice President
of Stillman BancCorp, N.A. from November 1998 to
November 1999.
Terri L. Burdick, 40 Senior Vice President, Human Resources of the Bank
since February 2003. Vice President, Human
Resources of the Bank from October 2001 to
February 2003. Employee Benefits Manager for The
Swiss Colony, Inc. from September 1999 to October
2001. Previously, Corporate Benefits Manager for
Regal Beloit Corporation.
Peggy G. Holt, 46 Senior Vice President Operations/Technology of the
Bank since October 2003. Previously, Vice
President, Quality Control & Process Improvement
of the Bank from January 2003 until October 2003.
Self-employed Organizational Effectiveness
Consultant from January 2002 until December 2002.
Prior thereto, Senior Consultant, Leadership
Development and Senior Vice President,
Organizational Development of Bank One
Corporation.
Victoria A. Damron, 54 Vice President of Marketing for the Bank since
August 2002. Previously owner Damron
Communications.
Dale L. Blachford, 49 Senior Vice President-Business Banking of the Bank
since October 2003. Previously President and
Director of First Bank, bc.
PART II
ITEM 5. MARKET FOR COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND SMALL
BUSINESS ISSUER PURCHASES OF EQUITY SECURITIES.
At December 31, 2003 the Company had approximately 900 holders of its common
stock. Of the 2,522,995 shares then outstanding, 1,202,215 are held in street
name by approximately 560 shareholders. The remaining 1,320,780 shares are
issued directly with the Company's transfer agent in book entry or certificate
form and are held by 336 shareholders of record. The Company's stock is
publicly traded on the Over the Counter Market under the symbol BKHB. The
following table sets forth the stock price and dividend information for each
quarter during the years ended December 31, 2003 and 2002. Stock price
information represents high and low asked and bid quotations and as such
reflect inter-dealer prices, without retail mark-up, mark-down or commission
and may not represent actual transactions.
For the Quarter Ended
---------------------------------------------------------------------------------------
12/31/03 09/30/03 06/30/03 03/31/03 12/31/02 09/30/02 06/30/02 03/31/02
-------- -------- -------- -------- -------- -------- -------- --------
Stock Price:
------
High $12.35 $11.95 $12.00 $10.10 $10.00 $9.75 $10.25 $10.25
Low 11.75 11.25 9.15 9.10 8.25 8.55 9.35 9.10
Dividends 0.09 0.09 0.09 0.09 0.09 0.09 0.09 0.09
For disclosures required under the Company's equity compensation plans, see
Notes 1 and 11 to the Company's Consolidated Financial Statements attached as
Exhibit 99.1 of this Form 10-KSB.
The Company does not have a formal dividend policy. The Company currently
pays a quarterly dividend. To determine the actual amount of dividends,
however, the Board must be mindful of regulatory and contractual limits on the
payment of dividends by the Bank and the Company. For example, under the
agreements relating to the Company's trust-preferred securities, if the
Company shall have given notice of its election to defer payments of interest
on the Company's trust preferred securities or if an Event of Default shall
have occurred, the Company shall not, and shall not allow any Affiliate of the
Company to declare or pay any dividends or distribution on, or redeem,
purchase, acquire, or make a liquidation payment with respect to, any of the
Company's capital stock or its Affiliates' capital stock (other than payments
of dividends or distributions to the Company). In addition, the Bank and the
Company are subject to regulatory capital requirements. In connection with
the DunC acquisition, the Company further committed, for a period of three
years after the acquisition, to maintain the Bank's Tier 1 leverage capital
ratio at not less than 7%. In addition, the Company made assurances to Federal
Regulators that if a dividend rate of 80% of the Banks earnings was
insufficient to meet debt service requirements, the Company will fund the debt
service with additional capital. The capital may come from, among other
things, a reduction or elimination of shareholder dividends or from the
issuance of capital securities.
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
The purpose of management's discussion and analysis is to provide relevant
information regarding the Registrant's financial condition and its results of
operations. This discussion focuses on the significant factors which affected
the Company's earnings in 2003, with comparisons to 2002 and 2001, where
applicable.
FACTORS INFLUENCING FORWARD-LOOKING STATEMENTS
This report contains certain forward-looking statements within the meaning of
the Private Securities Litigation Reform Act of 1995 with respect to the
financial condition, results of operations, plans, objectives, future
performance and business of Blackhawk Bancorp, Inc. Statements that are not
historical facts, including statements about beliefs and expectations, are
forward-looking statements. These statements are based upon beliefs and
assumptions of Blackhawk's management and on information currently available to
such management. The use of the words "believe", "expect", "anticipate", "plan",
"estimate", "may", "will" or similar expressions are forward-looking statements.
Forward-looking statements speak only as of the date they are made, and
Blackhawk undertakes no obligation to update publicly any of them in light of
new information or future events.
Contemplated, projected, forecasted or estimated results in such forward-looking
statements involve certain inherent risks and uncertainties. A number of factors
- many of which are beyond the ability of the Company to control or predict -
could cause actual results to differ materially from those described in the
forward-looking statements. Factors which could cause such a variance to occur
include, but are not limited to: heightened competition; adverse state and
federal regulation; failure to obtain new or retain existing customers; ability
to attract and retain key executives and personnel; changes in interest rates;
unanticipated changes in industry trends; unanticipated changes in credit
quality and risk factors, including general economic conditions; success in
gaining regulatory approvals when required; changes in the Federal Reserve Board
monetary policies; unexpected outcomes of new and existing litigation in which
Blackhawk or its subsidiaries, officers, directors or employees are named
defendants; technological changes; changes in accounting principles generally
accepted in the United States; changes in assumptions or conditions affecting
the application of critical accounting policies; and the inability of third
party vendors to perform critical services for the Company or its customers.
CRITICAL ACCOUNTING POLICIES
The financial condition and results of operations for Blackhawk Bancorp, Inc.
presented in the Consolidated Financial Statements, accompanying notes to the
Consolidated Financial Statements, selected financial data appearing elsewhere
within this report, and management's discussion and analysis are, to a large
extent, dependent upon the Company's accounting policies. The selection and
application of these accounting policies involve judgements, estimates and
uncertainties that are susceptible to change.
Presented below are discussions of those accounting policies that management
believes are the most important (Critical Accounting Policies) to the portrayal
and understanding of the Company's financial condition and results of
operations. These Critical Accounting Policies require management's most
difficult, subjective and complex judgements about matters that are inherently
uncertain. In the event that different assumptions or conditions were to
prevail, and depending upon the severity of such changes, the possibility of
materially different financial condition or results of operations is a
reasonable likelihood. See also Note 1 of the Notes to Consolidated Financial
Statements.
LOANS
Loans are the Company's largest income earning asset category. Loans are
recorded at the amount advanced to the borrower plus certain costs incurred by
the Bank to originate the loan, less certain origination fees that are collected
from the borrower. The carrying amount of loans is reduced as principal payments
are made. Payments made by the borrower are allocated between interest income
and principal payment based upon the outstanding principal amount, the
contractual rate of interest and other contractual terms. The carrying amount is
further adjusted to reflect amortization of the origination costs net of
origination fees. These items are amortized over the expected life of the loan.
The accrual of interest income is generally discontinued (Non-Accrual Status)
when management believes that collection of principal and/or interest is
doubtful or when payment becomes 90 days past due. Payments received from the
borrower after a loan is placed on Non-Accrual Status are applied to reduce the
principal balance of the loan until such time that collectibility of remaining
principal and interest is no longer doubtful. Unpaid interest that has
previously been recorded as income is reversed against interest income when a
loan is placed on Non-Accrual Status. The outstanding loan balance is written-
off against the allowance for loan losses when management determines that
probability of collection of principal will not occur. See also the discussion
of Allowance for Loan Losses that follows.
Those judgements and assumptions that are most critical to the application of
this accounting policy are the initial and on-going credit-worthiness of the
borrower, the amount and timing of future cash flows of the borrower that are
available for repayment of the loan, the sufficiency of underlying collateral
and the enforceability of third-party guarantees. These judgements and
assumptions are dependent upon or can be influenced by a variety of factors
including the breadth and depth of experience of lending officers, credit
administration and loan review staff that periodically review the status of the
loan, changing economic and industry conditions, changes in the financial
condition of the borrower and changes in the value and availability of the
underlying collateral and guarantees.
If different assumptions or conditions were to prevail, the amount and timing of
interest income and loan losses, due to the inability to collect all of the
remaining principal balance that is due from a borrower, could be materially
different. These factors are most pronounced during economic downturns. See also
the discussion of "Loans" contained in this Item and Note 5 of the Notes to
Consolidated Financial Statements.
ALLOWANCE FOR LOAN LOSSES
Management periodically reviews the loan portfolio in order to establish an
estimated allowance for loan losses (Allowance) that are probable as of the
respective reporting date. Additions to the Allowance are charged against
earnings for the period as a provision for loan losses (Provision). Actual loan
losses are charged against (reduce) the Allowance when management believes that
the collection of principal will not occur. Unpaid interest for loans that are
placed on Non-Accrual Status is reversed against the interest income previously
recognized. Subsequent recoveries of amounts previously charged to the
Allowance, if any, are credited to (increase) the Allowance.
The Allowance is regularly reviewed by management to determine whether or not
the amount is considered adequate to absorb probable losses. The Bank's policy
considers the Allowance to be adequate within a range of 5% under or 10% over
management's calculation of the required allowance. If not, an additional
Provision is made to increase the Allowance. This evaluation includes specific
loss estimates on certain individually reviewed loans, statistical loss
estimates for loan groups or pools that are based on historical loss experience
and general loss estimates that are based upon the size, quality, and
concentration characteristics of the various loan portfolios, adverse situations
that may affect a borrower's ability to repay, and current economic and industry
conditions.
In addition to the judgements and assumptions noted in the preceding discussion
of Loans, those most critical to the application of this accounting policy are
the frequency and subjectivity of loan reviews and risk gradings, emerging or
changing trends that might not be fully captured in the historical loss
experience, and charges against the Allowance for actual losses that are greater
than previously estimated. While the Company strives to reflect all known risk
factors in its evaluation of the adequacy of the Allowance, estimation or
judgement errors may occur.
If different assumptions or conditions were to prevail, the Allowance may not be
adequate to absorb the new estimate of probable losses. If so, an additional
Provision may be necessary and the amount could be material. See also the
discussion of "Loans" contained in this Item and Note 5 of the Notes to
Consolidated Financial Statements.
RECENT ACQUISITION
On September 30, 2003, the Company acquired DunC Corp. and its wholly-owned
subsidiary, First Bank, bc (referred to together as "DunC") in a transaction
accounted for using the purchase method of accounting. In accordance with the
requirements of purchase accounting, the operations of the acquired companies
have been included with the operations of the Company since date of acquisition.
Because of the relative size of the Company and DunC, the acquisition has had a
significant effect on both the operations and balance sheets of the Company, and
significantly affects comparisons between 2002 and 2003. In addition, as part
of that acquisition, the Company committed to its regulators to maintain the
Bank's Tier 1 leverage capital at not less than 7% for three years, and to raise
capital in the event that the cash flow required to service debt incurred in the
acquisition exceeds 80% of Bank net income.
The following provides certain summary financial information about the financial
condition of DunC and the assets and liabilities acquired in the acquisition,
and DunC's operations, prior to the acquisition to illustrate their impact upon
the corporation:
Balance Sheet
(Dollars in thousands) At September 30, 2003
---------------------- ---------------------
Loans...................... $ 46,781
Allowance for Loan Losses.. (889)
Investments................ 11,104
Total Assets............... 77,726
Deposits................... 64,237
Borrowings................. 3,631
Income Statement Nine Months Ended Year Ended
(Dollars in thousands) September 30, 2003 December 31, 2002
---------------------- ------------------ -----------------
Total Interest Income...... $ 3,645 $ 4,602
Total Interest Expense..... 850 1,453
--------- ---------
Net Interest Income........ 2,795 3,149
Provision for Loan Losses.. 200 628
Non-Interest Income........ 1,819 2,497
Non-Interest Expense....... 4,701 4,208
--------- ---------
Net Income (Loss) before Tax (287) 810
RESULTS OF OPERATIONS
OVERVIEW
The Company reported net income of $1.2 million for the year ended December 31,
2003. This compares to $1.2 million for the year ended December 31, 2002 and
$0.9 million for the year ended December 31, 2001. This represents no increase
when comparing 2003 to 2002, and an increase of $0.3 million when comparing 2002
to 2001. The Company dedicated substantial resources during the second half of
2003 to the successful integration of the DunC acquisition. This produced a
significant drag on short term earnings, including direct expenses incurred of
approximately $0.1 million, and the opportunity cost of management and line
staff time dedicated to the effort. The integration is substantially complete.
This overview section, along with the above information on the recent
acquisition, provides some of the highlights of the Company's operations in
2003. It is only a summary. We urge you to read the more complete discussions
and analysis of that information in the balance of "Results of Operations."
Diluted earnings per share for 2003 were $0.48 compared to $0.50 in 2002 and
$0.36 in 2001. This represents a decrease of $0.02 per share or 4.00% when
comparing 2003 to 2002, and an increase of $0.14 per share when comparing 2002
to 2001. Diluted earnings per share for 2003 reflects a 2.02% increase in the
weighted average common shares outstanding, resulting from the issuance of
shares for stock options exercised.
SELECTED FINANCIAL RATIOS
-------------------------
2003 2002 2001 2000 1999
---- ---- ---- ---- ----
Return on average assets 0.33% 0.38% 0.27% (0.09)% 0.39%
Return on average equity 4.69% 4.92% 3.65% (1.19)% 4.64%
Average equity to average assets 7.14% 7.79% 7.42% 7.78% 7.43%
Dividend payout ratio 74.90% 72.41% 114.58% n/m 100.18%
Interest rate spread 3.04% 3.42% 3.23% 3.01% 3.15%
Net interest margin 3.30% 3.77% 3.66% 3.48% 3.64%
Net noninterest expense
to assets 2.33% 2.56% 2.52% 2.57% 2.54%
Efficiency ratio 86.60% 81.61% 82.04% 86.23% 81.66%
Allowance for loan losses to
total loans at end of period 1.41% 1.10% 1.14% 1.79% 1.04%
The Company's return on average equity for 2003 was 4.69% versus 4.92% in 2002
and 3.65% in 2001. The Company's return on average assets for 2003 was 0.33%
compared to 0.38% in 2002 and 0.27% in 2001.
Both the Company and the Bank continue to exceed the minimum capital
requirements established by regulators for banks and bank holding companies. In
addition, the Bank continues to be "well capitalized" as defined by regulatory
guidelines. See Note 17 to the Consolidated Financial Statements attached as
Exhibit 99.1 to this Form 10-KSB.
In 2002 the Bank invested $5.0 million in Bank Owned Life Insurance. This
redeployment of Bank assets shifted income from net interest income to other
noninterest income, and had the effect of increasing cash surrender value
earnings by $0.2 million year over year with an offsetting reduction in net
interest income.
The 2002 results include the write-off of a $0.3 million receivable related to a
claim against a former data processing provider. In 2000 the bank filed a
breach of contract lawsuit to recover $0.5 million that was charged to its check
clearing account in error. In 2000, $0.3 million of the original claim was
written off and the remaining amount was written off in 2002. On February 14,
2003 a Waukesha County, Wisconsin jury delivered a verdict that the data
processor did not breach its contract with the Bank. The after tax charge to
income in 2002 was $0.2 million. As more fully discussed under Item 3, Part I
of this report, Fiserv, Inc. has appealed the denial of the reimbursement claim
for $0.4 million in legal fees. The Company has not accrued this contingent
liability.
During 2002 the Bank closed its Beloit Wal Mart in-store branch. The 2002
results include an after tax charge of $40.0 thousand due to the abandonment of
leasehold improvements.
In 2002 the Bank changed its vacation policy to eliminate the vesting of
vacation on December 31 for the following year. Instead, vacation will be
earned and used in the same calendar year. This change resulted in a $0.1
million decrease in salary and benefits expense. The Bank's future
profitability is also dependent on the rapidly rising costs of health care and
the cost of its group term health insurance which is anticipated to increase 10%
in 2004.
Pursuant to SFAS No. 142, an accounting standard effective January 1, 2002,
amortization of goodwill, which resulted from purchase accounting adjustments
from previous acquisitions, was discontinued. Goodwill amortization for 2001
was $0.2 million or $0.08 per share. No transition or impairment charge was
required for 2003 or 2002.
NET INTEREST INCOME
Net interest income, which is the sum of interest and certain fees generated by
earning assets minus interest paid on deposits and other funding sources, is the
primary source of the Company's earnings. All discussions of interest income
amounts and rates are on a tax-equivalent basis, which accounts for income
earned on loans and securities that are not fully subject to income taxes as if
they were fully subject to income taxes.
The following rate/volume analysis is prepared with non-accruing loans treated
on a cash basis in accordance with the Company's practices as described in Note
5 to the Consolidated Financial Statements attached to this report. Tax
equivalency is calculated based on an effective combined income tax rate of 34%.
Average Balance Average Rate Interest Earned or Paid
--------------- ------------ -----------------------
2003 2002 2001 2003 2002 2001 (Dollars in thousands) 2003 2002 2001
---- ---- ---- ---- ---- ---- ---- ---- ----
Interest Earning Assets:
$ 95,976 $ 71,938 $ 51,536 3.71% 4.86% 5.96% Taxable investment securities $ 3,556 $ 3,497 $ 3,074
28,971 20,088 17,992 5.96% 6.43% 6.42% Tax-exempt investment securities (1) 1,728 1,292 1,155
-------- -------- -------- ------- ------- -------
124,947 92,026 69,528 4.23% 5.20% 6.08% Total investments 5,284 4,789 4,229
199,256 196,903 222,176 6.54% 7.44% 8.31% Loans 13,026 14,659 18,465
3,521 6,635 1,679 1.65% 2.00% 2.92% Federal funds sold & repurchase agreements 58 133 49
2,440 2,510 1,889 2.09% 1.83% 3.65% Interest bearing deposits in banks 51 46 69
-------- -------- -------- ------- ------- -------
330,164 298,074 295,272 5.58% 6.58% 7.73% TOTAL EARNING ASSETS $18,419 $19,627 $22,812
------- ------- -------
-2,541 -2,529 -3,065 Allowance for loan losses
12,309 10,114 10,017 Cash & cash equivalents
21,627 16,780 17,012 Other assets
-------- -------- --------
$361,559 $322,439 $319,236 TOTAL ASSETS
-------- -------- --------
-------- -------- --------
Interest Bearing Liabilities:
$ 39,734 $ 32,736 $ 28,443 .73% 1.04% 2.13% Interest bearing checking accounts $ 292 $ 342 $ 607
59,336 53,672 51,068 .77% 1.13% 2.20% Savings and money market deposits 454 604 1,123
131,575 122,616 128,596 3.15% 4.06% 5.48% Time deposits 4,146 4,980 7,051
-------- -------- -------- ------- ------- -------
230,645 209,024 208,107 2.12% 2.84% 4.22% Total interest bearing deposits 4,892 5,926 8,781
Company obligated mandatorily redeemable
7,000 249 -0- 5.24% 5.22% preferred securities of subsidiary trust 367 13 -0-
11,889 15,325 11,439 .97% 1.91% 4.04% Short-term borrowings 115 292 462
47,674 40,327 47,157 4.54% 5.34% 5.84% Long-term borrowings 2,163 2,152 2,753
-------- -------- -------- ------- ------- -------
297,209 264,925 266,703 2.54% 3.16% 4.50% TOTAL INTEREST BEARING LIABILITIES $ 7,537 $ 8,383 $11,996
------- ------- -------
3.04% 3.42% 3.23% INTEREST RATE SPREAD
36,370 30,309 26,315 Checking accounts
2,181 2,075 2,531 Other liabilities
-------- -------- --------
335,759 297,309 295,549 TOTAL LIABILITIES
25,800 25,130 23,687 Stockholders' equity
-------- -------- --------
TOTAL LIABILITIES AND
$361,559 $322,439 $319,236 STOCKHOLDERS' EQUITY
-------- -------- --------
-------- -------- --------
3.30% 3.77% 3.66% NET INTEREST MARGIN/INCOME $10,882 $11,244 $10,816
------- ------- -------
------- ------- -------
2003 Compared to 2002 2002 Compared to 2001
Increase (Decrease) due to Increase (Decrease) due to
Rate/Volume Rate/Volume
-------------------------- --------------------------
Rate/ Rate/
Rate Volume Volume Net Rate Volume Volume Net
---- ------ ------ --- ---- ------ ------ ---
Interest Earning Assets:
Taxable investment securities ($ 832) $1,169 ($ 278) $ 59 ($ 569) $1,217 ($ 225) $ 423
Tax-exempt investment securities (1) (94) 571 (41) 436 2 135 0 137
------- ------ ------- ------ ------- ------ ------- ------
Total investments (926) 1,740 (319) 495 (567) 1,351 (225) 560
Loans (1,787) 175 (21) (1,633) (1,924) (2,100) 219 (3,806)
Federal funds sold & repurchase
agreements (24) (62) 11 (75) (15) 145 (45) 84
Interest bearing deposits in banks 6 (1) 0 5 (34) 23 (11) (23)
------- ------ ------- ------ ------- ------ ------- ------
TOTAL EARNING ASSETS (2,731) 1,852 (329) (1,208) (2,541) (582) (63) (3,185)
------- ------ ------- ------ ------- ------ ------- ------
Interest Bearing Liabilities:
Interest bearing checking accounts (101) 73 (22) (50) (310) 92 (47) (265)
Savings and money market deposits (194) 64 (20) (150) (548) 57 (28) (519)
Time deposits (1,116) 364 (82) (834) (1,828) (328) 85 (2,071)
------- ------ ------- ------ ------- ------ ------- ------
Total interest bearing deposits (1,411) 501 (124) (1,034) (2,686) (179) 10 (2,855)
Company obligated mandatorily redeemable
preferred securities of subsidiary trust 0 352 2 354 0 0 13 13
Short-term borrowings (144) (65) 32 (177) (244) 157 (83) (170)
Long-term borrowings (322) 392 (59) 11 (237) (399) 34 (601)
------- ------ ------- ------ ------- ------ ------- ------
TOTAL INTEREST BEARING
LIABILITIES (1,877) 1,180 (149) (846) (3,167) (421) (25) (3,613)
------- ------ ------- ------ ------- ------ ------- ------
NET INTEREST MARGIN ($ 854) $ 672 ($ 180) ($ 362) $ 626 ($ 161) ($ 37) $ 428
------- ------ ------- ------ ------- ------ ------- ------
------- ------ ------- ------ ------- ------ ------- ------
(1) Tax exempt investment securities are presented on a tax-equivalent
basis.
Net interest income decreased by $0.4 million, or 3.22%, to $10.9 million for
2003, compared to $11.2 million for the comparable period in 2002. The net
interest margin, which is the tax equivalent net interest income divided by
average interest earning assets was 3.30% in 2003, 3.77% in 2002 and 3.66% in
2001. The decrease in Net Interest Margin between 2003 and 2002 is primarily due
to the impact of loan run-off, primarily in the first quarter, and asset re-
pricings experienced throughout 2003. In the fourth quarter of 2003 the
downward trend in net interest margin was reversed. This was partly due to the
DunC asset and liability mix. It also reflects the implementation of pricing
strategies aimed at generating loans and lowering the Bank's overall cost of
funds. As strategies are implemented to shift the balance sheet mix from
investments to loans, and to attract more low-cost transaction deposit accounts,
management expects to see continued improvement in the net interest margin in
2004. If economic conditions worsen, and negatively impact loan demand, further
improvement in the net interest margin may not materialize. The increase in Net
Interest Margin between 2002 and 2001 is primarily due to the impact of lower
market rates paid on deposit accounts not being fully offset as earning assets
re-priced more slowly in 2002.
For 2003, total tax equivalent interest income decreased by $1.2 million or
6.15%, to $18.4 million compared to $19.6 million for 2002. The decrease in
interest income is due to a 100 basis point decrease in the yield on average
earning assets to 5.58% for 2003, compared to 6.58% for the same period in 2002.
The decrease in the yield on average earning assets for 2003 compared to 2002
was partially offset by a $32.1 million increase in average earning assets due
to the DunC acquisition and growth. At September 30, 2003 DunC had $69.3
million of earning assets. The annualized impact of these assets on 2003 average
earning assets was $17.5 million, with the balance of $14.6 million coming from
growth, primarily in investment securities. For 2002, total tax equivalent
interest income decreased by $3.2 million or 13.96%, to $19.6 million compared
to $22.8 million for 2001. The decrease in interest income is due to a 115 basis
point decrease in the yield on average earning assets to 6.58% for 2002,
compared to 7.73% for the same period in 2001. The decrease in the yield on
average earning assets for 2002 compared to 2001 was partially offset by a $2.8
million increase in average earning assets.
Interest and fees on loans decreased 11.14% to $13.0 million for 2003 compared
to $14.7 million for 2002. This decrease was the result of a 90 basis point
decrease in yield on the portfolio offset by a $2.4 million or 1.20% increase in
average loans outstanding. The annualized impact of the DunC acquisition
increased 2003 average loans outstanding by $11.5 million. Without the
acquisition average loans would have decreased by $9.2 million or 4.62%. The
decrease in average loans outstanding for 2003 is largely attributable to
continued refinancing activity in the residential real estate market and
economic conditions causing lower loan demand in the Company's primary markets.
The lower yield on average loans reflects the overall lower interest rate
environment and continuing competitive pricing pressure for quality credits.
Interest and fees on loans decreased 20.61% to $14.7 million for 2002 compared
to $18.5 million for the same period of 2001. This decrease was the result of a
$25.3 million or 11.38% decrease in average loans outstanding and an 87 basis
point decrease in yield on the portfolio. The decrease in average loans
outstanding for 2002 is largely attributable to the refinancing activity in the
residential real estate market. The remaining decrease is the result of economic
conditions and lower loan demand in the Company's primary markets. The lower
overall portfolio yield on average loans reflects the overall lower interest
rate environment and competitive pricing pressure for quality credit customers
and the Federal Reserve Bank's lowering of managed rates by 375 basis points
during 2001 and another 50 basis points in November 2002.
Interest income on taxable securities increased by $0.1 million or 1.69% in 2003
to $3.6 million compared to $3.5 million for 2002 due to higher invested
balances in 2003. Average balances of taxable investment securities increased
33.41% to $96.0 million for 2003 compared to $71.9 million for the same period
in the prior year. However, the yield on average taxable investment securities
decreased 115 basis points to 3.71% for 2003 compared to 4.86% for 2002 and
reflected lower reinvestment opportunities in 2003 due to the lower market
interest rate environment that existed throughout the year. It also reflects
accelerated amortization of purchase premiums on mortgage-backed securities, due
to high prepayment speeds experienced in 2003. Interest income on taxable
securities increased by $0.4 million or 13.76% in 2002 to $3.5 million compared
to $3.1 million for 2001. Average balances of taxable investment securities
increased 39.59% to $71.9 million for 2002 compared to $51.5 million for the
same period in the prior year. However, the yield on average taxable investment
securities decreased 110 basis points to 4.86% for 2002 compared to 5.96% for
2001.
Interest from fed funds sold and repurchase agreements decreased to $58.0
thousand for the year ended December 31, 2003, compared to $133.0 thousand
during the same period in 2002. The decrease in interest on fed funds sold and
repurchase agreements is primarily due to lower invested average balances. The
Company re-invested the proceeds from the liquidation of short-term investments
into the investment portfolio to achieve higher yields while still effectively
managing its liquidity needs and interest rate risk.
Total interest expense decreased by $0.8 million, or 10.09%, to $7.5 million for
2003 compared to $8.4 million for the same period in 2002. The decrease
primarily reflected lower market rates in 2003 offset by higher balances
outstanding. Average interest bearing liabilities increased by $32.3 million or
12.19% to $297.2 million for 2003 compared to $264.9 million for 2002. The DunC
acquisition added $54.0 million in interest bearing liabilities at the
acquisition date, which was $13.6 million on an annualized basis. Other average
interest bearing liabilities increased by 7.06% or $18.7 million. Total interest
expense decreased by $3.6 million, or 30.12%, to $8.4 million for 2002 compared
to $12.0 million for the same period in 2001. The decrease in total interest
expense is the result of the aforementioned lower interest rate environment
coupled with favorable shifts in the company's funding mix.
Interest paid on deposits decreased by $1.0 million, or 17.45%, to $4.9 million
for 2003 compared to $5.9 million for the same period in 2002. The decrease
primarily reflected lower market rates in 2003 offset by higher balances
outstanding. Average interest bearing deposits increased by $21.6 million or
10.34% to $230.6 million for 2003 compared to $209.0 million for 2002. The DunC
acquisition added $50.3 million in interest bearing deposits as of September 30,
2003, which increased the average balance for the year by $12.7 million. Other
average interest bearing deposits increased by $8.9 million or 4.27%. The Bank
also experienced improvement in its interest bearing deposit mix during 2003 as
time deposits shifted into interest bearing checking accounts and checking
accounts. While interest paid on deposits decreased $2.9 million, or 32.51% to
$5.9 million during 2002 compared to $8.8 million for the same period in 2001,
average total interest bearing deposits increased $0.9 million year over year.
For 2002 the average balance of time deposits decreased $6.0 million, or 4.65%,
to $122.6 million compared to $128.6 million for the same period in 2001. The
decrease in the average balance of time deposits was offset with increases in
the average balances of checking accounts, interest-bearing checking accounts
and savings accounts of $4.0 million, $4.3 million and $2.6 million,
respectively. Management believes that deposit growth and the shifts from time
deposits to non-maturity deposits over the last two years is partly due to
customers holding balances in transaction accounts, waiting to re-invest into
the stock market or into extended maturity time deposits when rates rise. A
significant increase in rates and continued consumer confidence in the stock
market may negatively impact the bank's liquidity and cost of funds.
Interest on Company obligated mandatorily redeemable preferred securities of a
subsidiary trust increased by $0.3 million and reflected the fact that the
securities were issued in December 2002 and were outstanding for the entire year
in 2003. The average balance outstanding was $7.0 million in 2003 and $0.2
million in 2002.
Interest on short-term borrowings decreased $0.2 million to $0.1 million in 2003
compared to $0.3 million in 2002. This decrease is the result of the lower
managed interest rate environment in 2003 previously discussed and a 22.42%
decrease in average balances outstanding. Interest on short-term borrowings
decreased $0.2 million to $0.3 million in 2002 compared to $0.5 million in 2001.
This decrease is the result of the lower managed interest rate environment in
2002 previously discussed which offset the 33.97% increase in average balances
outstanding.
Interest expense on long-term borrowings increased $11.0 thousand to $2.2
million compared to $2.2 million in 2002. The increase reflects higher balances
outstanding offset by lower market rates in 2003. The interest paid on the
Company's long-term borrowing is expected to increase in 2004, as a result of
additional borrowing incurred in late 2003 in connection with the DunC
acquisition, even if market interest rates do not otherwise increase.
PROVISIONS FOR LOAN LOSSES
The provision for loan losses (provision) is an amount added to the allowance
for loan losses (allowance) to provide for the known and estimated amount of
loans that will not be collected. Actual loan losses are charged against
(reduce) the allowance when management believes that the collection of principal
will not occur. Subsequent recoveries of amounts previously charged to the
allowance, if any, are credited to (increase) the allowance. Management
determines the appropriate provision based upon a number of criteria, including
a detailed evaluation of certain credits, historical performance, economic
conditions and overall quality of the loan portfolio.
SUMMARY OF LOAN LOSS EXPERIENCE
-------------------------------
December 31,
--------------------------------------
(Dollars in thousands) 2003 2002 2001 2000 1999
---- ---- ---- ---- ----
Allowance for loan losses, beginning $2,079 $2,404 $3,894 $1,996 $1,915
Amounts associated with acquisition 889 0 0 0 0
Amounts associated with sale 0 0 0 0 24
Amounts charged-off:
Real estate-mortgage 1 78 2,445 196 94
Consumer 499 542 340 170 314
Commercial and commercial real estate 21 769 0 28 0
------ ------ ------ ------ ------
Total Charge-offs 521 1,389 2,785 394 408
------ ------ ------ ------ ------
December 31,
--------------------------------------
2003 2002 2001 2000 1999
---- ---- ---- ---- ----
Recoveries on amounts previously charged-off:
Real estate-mortgage $ 7 $ 2 $ 30 $ 1 $ 5
Consumer 132 56 43 31 44
Commercial and commercial real estate 66 2 0 0 0
------ ------ ------ ------ ------
Total recoveries 205 60 73 32 49
------ ------ ------ ------ ------
Net charge-offs 316 1,329 2,712 362 359
------ ------ ------ ------ ------
Provision charged to expense 650 1,004 1,222 2,260 464
------ ------ ------ ------ ------
Allowance for loan losses, ending $3,302 $2,079 $2,404 $3,894 $1,996
------ ------ ------ ------ ------
------ ------ ------ ------ ------
RATIOS
------
Allowance for loan loss
to period-end loans 1.41% 1.10% 1.14% 1.76% 1.04%
Net charge-offs to average loans 0.16% 0.67% 1.22% 0.18% 0.20%
Recoveries to charge -offs 39.35% 4.32% 2.62% 8.12% 12.01%
Problem loans to gross loans 1.74% 1.59% 2.04% 1.88% 1.60%
EFFECT ON INTEREST INCOME OF NON-ACCRUAL LOANS
----------------------------------------------
Income recognized $ 103 $ 12 $ 177 $ 74 $ 35
Income that would have been
recognized in accordance with
the original loan terms 217 156 185 178 73
The provision for loan losses of $0.6 million for 2003 represents a $0.4 million
or 35.26% decrease compared to $1.0 million for 2002. The decrease reflects the
substantial resources and time devoted to improved credit quality in 2002 and
2003 and reflects the progress in credit quality especially during a time of
economic weakness in the Bank's primary markets. The provision for loan losses
of $1.0 million for 2002 represents a $0.2 million or 17.84% decrease compared
to $1.2 million for 2001. In 2002, the provision includes $0.5 million to cover
a loss on one commercial relationship that was also charged off against the
allowance in 2002. The provision of $1.2 million in 2001 includes an increased
amount based on management's assessment of the portfolio and economic conditions
in the Bank's primary markets. In 2003, the Bank had net charge-offs of $0.3
million (total charge-offs of $0.5 million less recoveries of $0.2 million). In
2002, the Bank had net charge-offs of $1.3 million (total charge-offs of $1.4
million less recoveries of $0.1 million). In 2001, the Bank had net charge-offs
of $2.7 million (total charge-offs of $2.8 million less recoveries of $0.1
million). Net charge-offs to average loans were 0.16% in 2003, 0.67% in 2002
and 1.22% in 2001. The allowance for loan losses as a percent of loans was 1.41%
at December 31, 2003 compared to 1.10% at December 31, 2002 and to 1.14% at
December 31, 2001. The increase in the allowance for loan losses as a percent
of total loans is partially due to the $0.9 million allowance transferred in
with the DunC acquisition and increased specific allocations of the allowance
to identified problem loans. Net charge-offs are expected to increase during
2004 as losses on identified problem loans are charged off. However, management
does not anticipate any significant increases in the provision for loan losses
in 2004, unless economic conditions in the Bank's primary markets deteriorate
further.
NONINTEREST INCOME AND EXPENSE
------------------------------
2003 2002 2001
---- ---- ----
(Dollars in thousands) % of % of % of
Average Average Average
Amount Assets Amount Assets Amount Assets
------ ------ ------ ------- ------ -------
Noninterest expense $12,141 3.36% $11,271 3.49% $10,870 3.41%
Noninterest income 3,726 1.03% 3,006 0.93% 2,826 0.89%
------- ----- ------- ----- ------- -----
Net noninterest expense $ 8,415 2.33% $ 8,265 2.56% $ 8,044 2.52%
------- ----- ------- ----- ------- -----
------- ----- ------- ----- ------- -----
NONINTEREST INCOME
Noninterest income increased 23.95% to $3.7 million in 2003 from $3.0 million in
2002. Net security gains increased $0.1 million or 46.11% to $0.5 million for
2003 compared to $0.3 million in 2002. The increased level of gains reflects a
restructuring of the Bank's and Nevahawk's investment portfolios in the first
quarter of 2003 based on available liquidity. Of securities that would have
matured or been called in the next 12 to 18 months, $10.9 million were sold and
the proceeds were reinvested in longer term securities. The gain on sale of
loans increased 41.63 % or $0.2 million and is the result of better margins and
the higher level of refinancings that occurred in 2003 due to interest rates
being at 45 year historical lows. The ability of the Bank to realize a similar
level of gains in 2004 will be dependent on the level of interest rates and the
amount of home purchases and refinancings occurring in the Bank's primary market
areas during 2004. In 2003, $37.7 million of mortgages were sold to the
secondary market at an average gain of 1.70% compared to an average gain of
1.34% on the $33.8 million of mortgage loans sold to the secondary market in
2002. In 2002 the Bank purchased $5.0 million in Bank Owned Life Insurance
(BOLI) assets. The BOLI, which insures the lives of key employees, was purchased
to help offset the cost of increasing employee benefits. Thus cash surrender
value earnings increased $0.2 million or 191.12% to $0.3 million for 2003
compared to $0.1 million for 2002. Other noninterest income increased by an
additional $0.2 million in 2003 and reflects the absence of the charges for the
closure of the Bank's Beloit Wal-Mart branch and the write down of an OREO
property that occurred in 2002 as discussed below.
Noninterest income increased 6.37% to $3.0 million in 2002 from $2.8 million in
2001. The majority of this increase was from net security gains as they
increased $0.2 million or 143.18% to $0.3 million for 2002 compared to $0.1
million in 2001. Service charges on deposit accounts increased $0.1 million or
4.77% to $1.6 million and primarily reflect higher volumes of demand deposits in
2002. The gain on sale of loans decreased $0.1 million and is the result of
turn-over in the company's mortgage banking management and origination staff.
In 2002, $33.8 million of mortgages were sold to the secondary market at an
average gain of 1.34% compared to an average gain of 1.75% on the $32.2 million
of mortgage loans sold to the secondary market in 2001. Approximately 75% of
the loan volume sold to the secondary market was from refinance activity.
Brokerage and annuity commissions increased $33.0 thousand or 26.83% to $0.2
million. The cash value of BOLI increase was $0.1 million or 181.78% for 2002,
reflecting the BOLI purchase described above. These increases were offset by a
$63.0 thousand loss from abandonment of leasehold improvements related to the
closing of the Bank's Beloit Wal-Mart in-store branch in 2002 and the $0.1
million write down of an OREO property based on a change in the estimate of its
net realizable value.
NONINTEREST EXPENSE
Noninterest expense increased 7.72% to $12.1 million in 2003 from $11.3 million
in 2002. In accordance with the requirements of purchase accounting, the
expenses of DunC were included in 2003 noninterest expense since the date of
acquisition. The Company dedicated substantial resources during the second half
of 2003 to the successful integration of the DunC acquisition. Overall this
produced a significant drag on short term earnings, including direct expenses
incurred of approximately $0.1 million, and the opportunity cost of management
and line staff time dedicated to the effort. Professional fees decreased $0.1
million or 15.04%, primarily due to less legal work on the Fiserv suit mentioned
in Item 3 above. Other noninterest expenses increased $0.2 million or 11.81%
and reflect the costs associated with the DunC operations since October 1, 2003,
higher utilization of the Bank's courier service in 2003 and inflationary
increases. Data processing services increased 18.72% or $0.1 million to $0.9
million for the year ended December 31, 2003 reflecting increased costs due to
the DunC acquisition. Salaries and employee benefits increased $0.6 million or
11.54% to $6.0 million in 2003 and reflect inflationary increases and the costs
of DunC staff after the date of acquisition. Advertising and marketing costs
increased $0.1 million or 19.20% for the year ended December 31, 2003 to $0.4
million and reflect the cost of communications to former First Bank customers to
ensure a smooth transition to Blackhawk.
Noninterest expense increased 3.69% to $11.3 million in 2002 from $10.9 million
in 2001, including a $0.3 million charge to write off the balance of a
receivable related to the Bank's breach of contract claim against a former data
processor. Total salary and benefits increased $0.2 million or 3.72% in 2002
compared to 2001. Salaries and employee benefits for 2002 were reduced by $0.1
million as a result of the Company's change in vacation policy. The Company
changed its vacation policy to eliminate the vesting of vacation on December 31
for the following year. Instead vacation will be earned and used in the same
year. Excluding the favorable impact from the change in vacation policy, salary
and benefits increased 6.51%. This increase reflects the costs associated with
attracting several key members of the management team that joined the
organization in the second half of 2001 and throughout 2002, including the chief
executive officer, chief financial officer and other officers listed in Part I
of this filing.
Equipment expense increased $0.1 million or 17.34% to $0.9 million in 2002 from
$0.8 million in 2001. The increase is primarily due to higher depreciation
expense on computer equipment and systems in 2002. Professional fees, while
down $0.1 million or 11.16% compared to 2001 were still higher than normal,
primarily due to the Fiserv lawsuit. Amortization of intangibles decreased by
$0.2 million as a result of FASB 142 which was adopted by the Company on January
1, 2002 and eliminated the amortization of goodwill resulting from prior
acquisitions accounted for under the purchase method of accounting. Goodwill is
subject to an annual impairment test. No impairment charge was required for the
year. Other expense includes $0.1 million of charges to accrue severance
payments for former executives. In addition, the Company realized a $0.1
million credit against other expenses due to an adjustment related to stale
reconciling items.
Management monitors two ratios related to other operating income and expense:
(1) Net other operating expense as a percentage of average assets, and (2)
Standard efficiency ratio. Net other operating expense to average assets
decreased to 2.33% in 2003 from 2.56% in 2002 compared to 2.52% in 2001. The
decrease from 2002 to 2003 reflects management's commitment to control costs in
2003 to offset pressure on net interest income. The increase from 2001 to 2002
reflected management's commitment to invest resources to create long-term
stockholder value, including the recruitment of a number of key managers and
upgrading desktop computers and operating systems. The standard efficiency ratio
(noninterest expense divided by net interest income plus other noninterest
income) increased to 86.60% in 2003, compared to 81.61% in 2002 and 82.04% in
2001. The increase reflects the lower level of net interest margin realized in
2003 compared to 2002 which was only partially offset by higher noninterest
income and control of noninterest expense.
INCOME TAXES
The effective income tax rate for the Company in 2003 was 1.38%. The effective
income tax rate was 19.53% in 2002 and 25.32% in 2001. The primary reasons for
the decline in the effective income tax rate from 2002 to 2003 were the
increased holdings of tax-exempt municipal securities and the Bank's purchase of
$5.0 million of BOLI, on which the earnings are tax exempt. The primary reasons
for the decline in the effective income tax rate from 2001 to 2002 were the
increased holdings of tax-exempt municipal securities, the decrease in non-
deductible amortization of intangibles and the Bank's purchase of $5.0 million
of BOLI, in 2002, on which the earnings are tax exempt. Income generated at
Nevahawk has not been subject to state income taxes while certain U.S.
government agency investments qualify for state tax exemption for the Bank
within Illinois.
Like out-of-state subsidiaries of many Wisconsin financial institutions,
Nevahawk (an out-of-state subsidiary of the Bank) which holds and manages
investment assets, has not been subject to Wisconsin tax. The Wisconsin
Department of Revenue has instituted an audit program, including an audit of
Blackhawk, specifically aimed at out-of-state bank subsidiaries and has
indicated that it may withdraw favorable rulings previously issued in connection
with such subsidiaries. As a result of these developments, the Department may
take the position that the income of the out-of-state subsidiaries is taxable in
Wisconsin. Such a determination will likely be challenged by financial
institutions in the state, including the Bank. If the Department is successful
in its efforts, it could result in a substantial negative impact on the earnings
of the Company, depending upon the determination made. As of the date of this
filing, the Department has not provided the Company with information to
determine the negative impact of the Department's position in the matter.
BALANCE SHEET ANALYSIS
OVERVIEW
This overview section, along with "Recent Acquisition" above, provides some of
the highlights of changes in the Company's balance sheet in 2003. It is only a
summary. We urge you to read the more complete discussions and analysis of that
information in the balance of "Balance Sheet Analysis."
Total assets as of December 31, 2003 increased $72.8 million or 20.66% to $425.2
million compared to $352.4 million as of December 31, 2002. The DunC
acquisition added $77.7 million in assets as of the acquisition date. In
addition, December 31 total assets included short-term year-end deposits from
one commercial customer of $11.8 million in 2003 and $18.6 million in 2002. In
addition to these effects, other total assets increased 2.04% year over year.
Total average assets for the year increased $39.1 million or 12.13% to $361.6
million compared to $322.4 million in 2002. The annualized impact of the assets
acquired in the DunC acquisition was $19.6 million; other average assets
increased $19.5 million or 6.05% year over year.
THREE-YEAR COMPARISON OF AVERAGE BALANCE SHEETS
-----------------------------------------------
Years Ended December 31,
----------------------------------------------------------------
2003 2002 2001
------------------- -------------------- -------------------
Percent of Percent of Percent of
(Dollars in thousands) Amount Total Amount Total Amount Total
------ ---------- ------ ---------- ------ ----------
ASSETS:
Federal funds sold
and repurchase agreements $ 3,521 0.97% $ 6,635 2.06% $ 1,679 0.53%
Interest bearing deposits
in banks 2,440 0.68% 2,510 0.78% 1,889 0.59%
Taxable investment
Securities 95,976 26.55% 71,938 22.31% 51,537 16.14%
Tax-exempt investment
Securities 28,971 8.01% 20,088 6.23% 17,992 5.64%
Loans, net of unearned
Income 199,256 55.11% 196,903 61.06% 222,176 69.60%
-------- ------- -------- ------- -------- -------
Total earning assets 330,164 91.32% 298,074 92.44% 295,273 92.50%
-------- ------- -------- ------- -------- -------
Cash and due from banks 12,309 3.40% 10,114 3.14% 10,016 3.14%
Office buildings and equipment 7,539 2.09% 6,659 2.07% 6,838 2.14%
Other non-earning assets 11,548 3.19% 7,592 2.35% 7,108 2.22%
-------- ------- -------- ------- -------- -------
Total non-earning assets 31,396 8.68% 24,365 7.56% 23,962 7.50%
-------- ------- -------- ------- -------- -------
TOTAL ASSETS $361,559 100.00% $322,439 100.00% $319,235 100.00%
-------- ------- -------- ------- -------- -------
-------- ------- -------- ------- -------- -------
LIABILITIES AND STOCKHOLDERS' EQUITY/CAPITAL
--------------------------------------------
LIABILITIES: Years Ended December 31,
------------------------------------------------------------------
2003 2002 2001
------------------- -------------------- ---------------------
Percent of Percent of Percent of
Amount Total Amount Total Amount Total
------ ---------- ------ ---------- ------ ----------
Interest bearing checking accounts $ 39,734 10.99% $ 32,736 10.15% $ 28,443 8.91%
Savings deposits 59,336 16.41% 53,672 16.65% 51,068 16.00%
Time deposits 131,575 36.39% 122,616 38.03% 128,596 40.28%
-------- ------- -------- ------- -------- -------
Total interest bearing deposits 230,645 63.79% 209,024 64.83% 208,107 65.19%
Company obligated mandatorily
redeemable preferred securities
of subsidiary trust 7,000 1.94% 249 0.08% -0- 0.00%
Short-term borrowings 11,889 3.29% 15,325 4.75% 11,439 3.58%
Long-term borrowings 47,674 13.18% 40,327 12.51% 47,157 14.78%
-------- ------- -------- ------- -------- -------
Total interest-bearing liabilities 297,209 82.20% 264,925 82.17% 266,703 83.55%
Checking accounts 36,370 10.06% 30,309 9.40% 26,315 8.24%
Other liabilities 2,181 0.60% 2,075 0.64% 2,530 0.79%
-------- ------- -------- ------- -------- -------
Total liabilities 335,759 92.86% 297,309 92.21% 295,548 92.58%
Stockholders' Equity/Capital 25,800 7.14% 25,130 7.79% 23,687 7.42%
-------- ------- -------- ------- -------- -------
TOTAL LIABILITIES AND
STOCKHOLDERS'
EQUITY/CAPITAL $361,559 100.00% $322,439 100.00% $319,235 100.00%
-------- ------- -------- ------- -------- -------
-------- ------- -------- ------- -------- -------
SECURITIES
INVESTMENT SECURITIES
---------------------
December 31,
------------------------------
(Dollars in thousands) 2003 2002 2001
-------- -------- --------
Available-for-Sale:
US Treasury $ 0 $ 0 $ 0
US Government Agency 32,737 36,766 37,459
Tax-exempt obligations 16,904 3,951 233
Other securities 68,466 43,180 4,903
-------- -------- --------
Total market value of available
for sale securities 118,107 83,897 42,595
-------- -------- --------
Held-to-Maturity:
US Treasury 0 0 0
US Government Agency 1,591 3,305 4,768
Tax-exempt obligations 16,015 19,697 18,967
-------- -------- --------
Total book value of
held-to-maturity securities 17,606 23,002 23,735
-------- -------- --------
Total market value of
held-to-maturity securities 18,437 24,016 24,172
-------- -------- --------
Total amortized cost of securities $134,637 $104,843 $ 65,104
-------- -------- --------
MATURITY OF INVESTMENT SECURITIES
---------------------------------
After One but
Within Within Five After Five but
One Year Years Within Ten Years After Ten Years
------------------ ----------------- ----------------- -----------------
(Dollars in thousands) Amount Yield Amount Yield Amount Yield Amount Yield
------ ----- ------ ----- ------ ----- ------ -----
Available-for-Sale:
US Government Agency $3,032 5.23% $24,116 4.39% $ 5,589 4.66% $ 0 0.00%
Tax-exempt obligations 226 2.69% 2,777 2.96% 8,747 3.48% 5,154 3.90%
Other securities 3,034 6.39% 5,549 4.16% 57,471 4.40% 2,412 1.67%
------ ----- ------- ----- ------- ----- ------ -----
Total 6,292 5.70% 32,442 4.23% 71,807 4.31% 7,566 3.19%
------ ----- ------- ----- ------- ----- ------ -----
Held-to-Maturity:
US Government Agency 0 0.00% 0 0.00% 0 0.00% 0 0.00%
Tax-exempt obligations 2,783 4.18% 11,865 4.30% 1,367 4.01% 0 0.00%
Other securities 0 0.00% 264 5.66% 1,232 5.61% 95 6.42%
------ ----- ------- ----- ------- ----- ------ -----
Total 2,783 4.18% 12,129 4.33% 2,599 4.77% 95 6.42%
------ ----- ------- ----- ------- ----- ------ -----
Grand Total $9,075 5.23% $44,571 4.26% $74,406 4.32% $7,661 3.23%
------ ----- ------- ----- ------- ----- ------ -----
------ ----- ------- ----- ------- ----- ------ -----
Available-for-sale and held-to-maturity securities increased $28.8 million, to
$135.7 million, as of December 31, 2003 from $106.9 million as of December 31,
2002. The increase includes $11.1 million in securities from the DunC
acquisition. The remainder of the increase was due to re-investment of proceeds
from loan run-off and investment of additional borrowings in investments to
fully utilize the Bank's capital.
FEDERAL HOME LOAN BANK OF CHICAGO STOCK
The Bank's investment in stock of the Federal Home Loan Bank of Chicago
increased from $4.5 million at December 31, 2002 to $5.3 million at December 31,
2003. The increase is due to the acquisition of $0.5 million in additional stock
in the DunC acquisition and stock dividends received.
LOANS
ANALYSIS OF LOAN PORTFOLIO
--------------------------
2003 2002 2001
------------------ ----------------- -----------------
(Dollars in thousands) % of % of % of
Amount Total Amount Total Amount Total
------ ----- ------ ----- ------ -----
Real estate-mortgage $ 58,443 25.39% $ 50,355 27.03% $ 65,093 31.13%
Real estate-construction 15,310 6.65% 8,916 4.79% 9,806 4.69%
Real estate-held-for-sale 1,026 .44% 2,315 1.24% 2,752 1.31%
Consumer 41,301 17.95% 34,668 18.61% 40,483 19.36%
Commercial and commercial real estate 117,364 51.00% 92,125 49.45% 93,405 44.66%
-------- ------- -------- ------- -------- -------
Gross loans 233,444 101.43% 188,379 101.12% 211,539 101.15%
Allowance for loan loss (3,302) -1.43% (2,079) -1.12% (2,404) -1.15%
-------- ------- -------- ------- -------- -------
Net loans $230,142 100.00% $186,300 100.00% $209,135 100.00%
-------- ------- -------- ------- -------- -------
-------- ------- -------- ------- -------- -------
Net loans increased 23.53% or $43.8 million during 2003 to $230.1 million at
December 31, 2003 from $186.3 million at December 31, 2002. DunC had $45.9
million of net loans at the acquisition date. The increase occurred across all
categories of loans. Excluding the DunC loans the net decrease in net loans of
$2.1 million reflects weak loan demand during 2003 in the Company's primary
market area and the volume of real estate loans refinanced off the balance sheet
and into the secondary market. To mitigate the impact of prepayments in the
mortgage loan portfolio, the Bank held $29.8 million of new origination 10 to 15
year fixed rate mortgages and adjustable rate mortgages in the portfolio.
Although economic news has been mixed, management has seen some increase in loan
demand in the fourth quarter of 2003 and into the first quarter of 2004. The
Bank is implementing strategies to be more competitive on high quality business
and consumer credits and expects this strategy, along with improved demand in
its primary markets, to reverse the trend of declining loan balances.
ASSET QUALITY AND NON-PERFORMING LOANS
NON-PERFORMING LOANS AT PERIOD END
----------------------------------
2003 2002 2001 2000 1999
---- ---- ---- ---- ----
Impaired loans-still accruing $ 923 $ 418 $1,147 $2,063 $1,984
Impaired loans-non-accrual 2,058 0 0 0 0
Other non-accrual 1,030 2,560 2,808 1,819 565
Past due 90 days or more and still accruing 42 26 356 280 529
------ ------ ------ ------ ------
Total impaired loans $4,053 $3,004 $4,311 $4,162 $3,078
------ ------ ------ ------ ------
------ ------ ------ ------ ------
As of December 31, 2003, total non-performing loans were $4.1 million or 1.74%
of gross loans compared to $3.0 million or 1.59% of gross loans at December 31,
2002. Non-performing loans include loans that are determined by management to
be impaired because full collection of interest and principal is doubtful, have
been placed in non-accrual status, and accruing loans which are past-due ninety
days or more as to interest and/or principal payments. The increase in total
non-performing loans at December 31, 2003 compared to a year earlier is
primarily due to $0.9 million of non-performing loans, obtained in the DunC
acquisition, most of which are secured by commercial real estate.
The Bank uses an internal asset classification system as a means of identifying
and reporting problem and potential problem loans. All commercial and
commercial real estate loans are graded on a scale of 1 to 7, with 1 being the
best credit grade. Loans graded 5, 6 or 7 are classified as "watch",
"substandard" and "doubtful", respectively. An asset is classified as
substandard if it is inadequately protected by the current net worth and paying
capacity of the obligor, or the collateral pledged, if any. Substandard assets
include those characterized by the distinct possibility that the Company will
sustain some loss if the deficiencies are not corrected. Assets classified as
doubtful have all of the weaknesses inherent in those classified as 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. Once an asset is considered
uncollectible and viewed as non-bankable it is charged off as a loss against the
allowance account. Assets that do not currently expose the Company to sufficient
risk to warrant classification as substandard or doubtful, but possess
weaknesses that may or may not be within the control of the customer, are deemed
to be watch loans. The classified loans are reviewed monthly by the directors'
loan committee, which must approve all additions and deletions from the
classified list.
In 2003, the Bank implemented changes in how it categorizes and allocates its
allowance for loan losses to non-performing loans. In years prior to 2003, the
bank applied estimated loss percentages to loans classified as watch,
substandard and doubtful, with deviations from the percentage when a loss was
eminent. In 2003, the bank updated its loan policy to include an internal
process that more effectively categorizes non-performing loans and allocates the
allowance for loan losses. The changes in this internal process and improved
categorization of non-performing loans accounts for the shifts in the categories
of non-performing loans in the table above. Under the policy adopted in 2003,
all commercial and commercial real estate loans classified as watch, substandard
and doubtful are evaluated for impairment quarterly. Specific allocations of
the allowance are made based upon this evaluation. For other segments of the
portfolio and commercial and commercial real estate loans that are not
considered impaired, an estimate of existing probable losses is determined based
on a three year historical loss ratio for each major segment. The amounts
determined using the historical loss factors are then adjusted after considering
the impact of certain qualitative factors, including: levels and trends of
delinquent and non-accrual loans; trends in volume and terms; changes in
underwriting standards; experience and depth of lending staff; national and
local economic trends and conditions; and industry concentrations in the
portfolio. For additional discussion of the Bank's non-performing loans see
Note 5 to the Consolidated Financial Statements attached to this filing as
Exhibit 99.1.
ALLOCATION OF ALLOWANCE FOR LOAN LOSS BY CATEGORY
2003 2002 2001
----------------------- ---------------------- ---------------------
Percent of Percent of Percent of
Gross Loans Gross Loans Gross Loans
(Dollars in thousands) Amount By Category Amount By Category Amount By Category
------ ----------- ------ ----------- ------ -----------
Real estate-mortgage $ 154 4.66% $ 212 10.20% $ 174 7.24%
Real estate-construction 0 0.00% 0 0.00% 0 0.00%
Consumer 445 13.48% 176 8.46% 300 12.48%
Commercial and commercial real estate 2,796 84.68% 1,632 78.50% 1,765 73.42%
Unallocated (93) (2.82%) 59 2.84% 165 6.86%
------ ------- ------ ------- ------ -------
Total $3,302 100.00% $2,079 100.00% $2,404 100.00%
------ ------- ------ ------- ------ -------
------ ------- ------ ------- ------ -------
The allowance for loan losses was $3.3 million or 1.41% of total loans at
December 31, 2003 compared to $2.1 million or 1.10% of total loans at December
31, 2002. At December 31, 2003 the allowance for loan losses to total non-
performing loans equaled 81.47% compared to 69.21% at December 31, 2002.
The unallocated portion of the reserve represents the difference between
management's calculation of the required allowance, based on the Bank's loan
policy, and the actual allowance at year end. The Bank's loan policy, which was
adopted in 2003, considers the allowance for loan losses to be adequate within a
range of 5% under and 10% over management's calculation of the required
allowance. The unallocated portion of the allowance at December 31, 2003
represents a 2.74% shortfall from the calculated allowance, which is within the
policy limit. In addition, the Bank's historical loss ratio for commercial and
commercial real estate loans includes a $1.9 million charge-off that occurred in
the second quarter of 2001. After June 30, 2004 this charge-off will no longer
be included in the calculation of the three year historical loss factor, and
will reduce the required reserve amount by approximately $0.9 million. This
upcoming change in the historical loss factor was one consideration in
determining that the allowance was adequate at 2.74% below the calculated
amount.
The allowance for loan losses is established through a provision for loan losses
charged to expense. Loans are charged against the allowance for loan losses when
management believes that the collectability of the principal is unlikely. The
allowance for loan losses is adequate to cover probable credit losses relating
to specifically identified loans, as well as probable credit losses inherent in
the balance of the loan portfolio. In accordance with FASB Statements 5 and
114, the allowance is provided for losses that have been incurred as of the
balance sheet date. The allowance is based on past events and current economic
conditions, and does not include the effects of expected losses on specific
loans or groups of loans that are related to future events or expected changes
in economic conditions. Management reviews a calculation of the allowance for
loan losses on a quarterly basis. While management uses the best information
available to make its evaluation, future adjustments to the allowance may be
necessary if there are significant changes in economic conditions.
In addition, various regulatory agencies periodically review the allowance for
loan losses. These agencies may require the bank to make additions to the
allowance for loan losses based on their judgments of collectibility based on
information available to them at the time of their examination. The policy of
the Company is to place a loan on non-accrual status if: (a) payment in full of
interest and principal is not expected, or (b) principal or interest has been in
default for a period of 90 days or more, unless the obligation is both in the
process of collection and well secured. Well secured is defined as collateral
with sufficient market value to repay principal and all accrued interest. A debt
is in the process of collection if collection of the debt is proceeding in due
course either through legal action, including judgement enforcement procedures,
or in appropriate circumstances, through collection efforts not involving legal
action which are reasonably expected to result in repayment of the debt or in
its restoration to current status.
GOODWILL
The DunC acquisition increased Goodwill by $1.6 million from $3.8 million at
December 31, 2002 to $5.4 million at December 31, 2003. Goodwill, the excess of
cost over fair value of net assets acquired in acquisitions, is not being
amortized in accordance with the provisions of Statement of Financial Accounting
Standards No. 142. Goodwill is evaluated annually for impairment. Any
impairment in goodwill would be recognized against income in the period of
impairment and could have a material adverse effect on the Company's
consolidated results of operations in a given year.
DEPOSITS
Total deposits at December 31, 2003 were $323.6 million as compared to $263.1
million at December 31, 2002. In the DunC acquisition, $64.2 million in
deposits were assumed. Also, we received short-term deposits of $11.8 million
and $18.6 million made on the final business day of 2003 and 2002, respectively.
Beyond those factors, other deposits increased $3.1 million, or 1.27%. The Bank
continued to see a favorable shift in the mix of its deposits in 2003. Average
interest bearing checking accounts for 2003 were 10.99% of average assets
compared to 10.15% in 2002 and average demand deposit accounts, which are
noninterest bearing, were 10.06% of average assets in 2003 compared to 9.40% in
2002. Time deposits as a percent of average assets decreased to 36.39% of
average assets in 2003 from 38.03% in 2002.
COMPOSITION OF DEPOSITS AND INTEREST RATES PAID
-----------------------------------------------
Years Ended December 31,
------------------------------------------------------------------------------------------------
2003 2002 2001
------------------------------- ------------------------------ ------------------------------
Average Percent of Average Average Percent of Average Average Percent of Average
(Dollars in thousands) Balance Total Rate Balance Total Rate Balance Total Rate
------- ---------- ------- ------- ---------- ------- ------- ---------- -------
Noninterest bearing demand
deposits $ 36,370 13.62% -- $ 30,309 12.66% -- $ 26,315 11.23% --
Interest bearing demand deposits 39,734 14.88% 0.73% 32,736 13.68% 1.04% 28,443 12.13% 2.13%
Savings deposits 59,336 22.22% 0.77% 53,672 22.43% 1.13% 51,068 21.78% 2.20%
Time deposits 131,575 49.28% 3.15% 122,616 51.23% 4.06% 128,596 54.86% 5.48%
-------- ------- ----- -------- ------- ----- -------- ------- -----
Total $267,015 100.00% 2.12% $239,333 100.00% 2.84% $234,422 100.00% 4.22%
-------- ------- ----- -------- ------- ----- -------- ------- -----
-------- ------- ----- -------- ------- ----- -------- ------- -----
SHORT-TERM BORROWINGS
SHORT-TERM BORROWINGS
(Dollars in thousands)
Balance outstanding December 31, 2003 2002 2001
------- ------- -------
Repurchase agreements $ 9,486 $13,399 $ 5,037
Fed funds purchased 0 0 0
FHLB Open line of credit 0 0 0
Line of Credit 0 55 1,050
------- ------- -------
Total Short-Term Borrowings $ 9,486 $13,454 $ 6,087
------- ------- -------
------- ------- -------
Weighted rate December 31,
Repurchase agreements 0.61% 0.95% 1.25%
Fed funds purchased -- -- --
FHLB Open line of credit -- -- --
Line of Credit -- 3.38% 3.93%
------- ------- -------
Total Short-Term Borrowings 0.61% 0.96% 1.71%
------- ------- -------
------- ------- -------
(Dollars in thousands) 2003 2002 2001
------- ------- -------
Maximum month-end outstanding balance
Repurchase agreements $14,324 $18,131 $12,599
Fed funds purchased 16,347 6,395 6,865
FHLB Open line of credit 0 0 0
Line of Credit 55 6,056 1,050
(Dollars in thousands) 2003 2002 2001
------- ------- -------
Year-to-date average amount outstanding
Repurchase agreements $10,008 $11,924 $ 8,071
Fed funds purchased 1,843 921 1,004
FHLB Open line of credit -0- -0- 697
Line of Credit 38 2,480 1,010
------- ------- -------
Total Short-Term Borrowings $11,889 $15,325 $10,782
------- ------- -------
------- ------- -------
Year-to-date average weighted rate 2003 2002 2001
------- ------- -------
Repurchase agreements 0.89% 1.49% 3.92%
Fed funds purchased 1.40% 1.93% 5.14%
FHLB Open line of credit 0.00% 0.00% 6.43%
Line of Credit 3.34% 3.86% 4.94%
------- ------- -------
Total Short-Term Borrowings 0.97% 1.90% 4.29%
------- ------- -------
------- ------- -------
Total short-term borrowings as of December 31, 2003 decreased $4.0 million or
29.49% to $9.5 million compared to $13.5 million at December 31, 2002. This
decrease is due to a decrease in repurchase agreements with business and
governmental organizations. The Bank's customers use repurchase agreements to
invest excess liquidity on a daily basis. In addition, the Company paid off its
$0.1 million line of credit in September 2003.
LONG-TERM BORROWINGS
Long-term borrowings increased $17.0 million to $55.9 million at December 31,
2003 compared to $38.9 million at December 31, 2002. The Company borrowed $7.5
million under a term loan in September 2003 to finance the DunC acquisition. The
term loan provides for quarterly principal payments over a 12-year period
commencing July 15, 2004. The Company has the option to select from various
interest rates, currently 3.17% (200 BP over 3 month LIBOR adjusted quarterly).
Among others, certain covenants placed upon the Company include limitations on
further mergers without the consent of the lender, a requirement to maintain the
Bank's total risk-based capital ratio of at least 11%, a requirement to
maintain a ratio of the Bank's non-performing assets plus other real estate to
total loans plus other real estate at or below 2.25% and to maintain the Bank's
ratio of allowance for loan losses to non-performing loans at or above 1%.
The Company assumed $3.6 million of long-term borrowings in connection with the
DunC acquisition.
The Bank's primary source for long-term borrowings has been, and is expected to
continue to be, the Federal Home Loan Bank of Chicago ("FHLB"). In 2003, the
Bank paid off $2.1 million in FHLB advances and borrowed an additional $8.0
million from the FHLB; at year end, borrowings from the FHLB were $48.4 million.
COMPANY OBLIGATED MANDATORILY REDEEMABLE PREFERRED SECURITIES OF SUBSIDIARY
TRUST HOLDING SOLELY SUBORDINATED DEBENTURES
In December of 2002 the Company capitalized Blackhawk Statutory Trust I for the
purpose of issuing $7.0 million in trust preferred capital securities. The
Company capitalized the trust and then issued $7.2 million of subordinated
debentures to the trust, which in turn issued $7.0 million of capital securities
to an outside investor. Management believes that this is an advantageous method
of funding the Company's growth strategies. The subordinated debentures do not
contain restrictions or covenants typically found in bank financing
arrangements. Also, while it qualifies for regulatory purposes as tier 1
capital, with certain limitations, it does not dilute the ownership of the
existing stockholders. See Note 10 to the Consolidated Financial Statements
for further discussion of Company Obligated Mandatorily Redeemable Preferred
Securities of Subsidiary Trust Holding Solely Subordinated Debentures.
As more fully discussed in Notes 1 and 10 of the December 31, 2003
Consolidated Financial Statements the Company will adopt Financial Accounting
Standards Board Interpretation (FIN) No. 46 , in connection with its
consolidated financial statements for the quarter ended March 31, 2004. The
implementation of FIN 46 will require the Company to de-consolidate its
investment in Blackhawk Statutory Trust I (the "Trust") because the Company is
not the primary beneficiary. There will be no impact on stockholders equity,
income from continuing operations or net income upon adoption of the standard.
The trust preferred securities issued by the Trust are currently included in the
Tier 1 capital of the Company for regulatory capital purposes. However, because
the financial statements of the Trust will no longer be included in the
Company's consolidated financial statements, the Federal Reserve Board may in
the future disallow inclusion of the trust preferred securities in Tier 1
capital for regulatory capital purposes. In July 2003, the Federal Reserve
Board issued a supervisory letter instructing bank holding companies to continue
to include the trust preferred securities in their Tier 1 capital for regulatory
capital purposes until notice is given to the contrary. The Federal Reserve
Board intends to review the regulatory implications of the change in accounting
treatment of subsidiary trusts that issue trust preferred securities and, if
necessary or warranted, provide further appropriate guidance. There can be no
assurance that the Federal Reserve Board will continue to permit institutions to
include trust preferred securities in Tier 1 capital for regulatory capital
purposes. As of December 31, 2003, assuming the Company was not permitted to
include the $7 million in trust preferred securities issued by the Trust in its
Tier 1 capital, the Company would still exceed the regulatory required minimums
for capital adequacy purposes.
ASSET/LIABILITY MANAGEMENT
INTEREST RATE RISK ANALYSIS
---------------------------
Two- Four- Seven- Ten- Over
December 31, 2003 One three six nine twelve One
(Dollars in thousands) Month months months months months year Total
----- ------ ------ ------ ------ ---- -----
Federal funds sold and short-term investments $ 6,120 $ 0 $ 0 $ 0 $ 0 $ 0 $ 6,120
Interest bearing deposits 960 198 298 293 0 1,092 2,841
Taxable investment securities 6,808 3,022 4,012 4,802 2,537 81,613 102,794
Tax-exempt investment securities 100 970 597 329 1,270 29,652 32,918
Federal Home Loan Bank of Chicago stock 0 5,327 0 0 0 0 5,327
Loans 62,801 4,498 8,400 10,131 6,343 141,271 233,444
------- ------- ------- ------- ------- -------- --------
Total interest-earning assets $76,789 $14,015 $13,307 $15,555 $10,150 $253,628 $383,444
------- ------- ------- ------- ------- -------- --------
------- ------- ------- ------- ------- -------- --------
MATURITY AND INTEREST SENSITIVITY OF LOANS
------------------------------------------
December 31, 2003
Greater Than
(Dollars in thousands) Time Remaining to Maturity One Year
------------------------------------------------ ----------------------
After One Fixed Floating
Due Within But Within After Five Interest Interest
One Year Five Years Years Total Rate Rate
---------- ---------- ---------- ----- -------- --------
Real estate-mortgage $ 701 $ 5,067 $52,585 $ 58,443 $ 25,692 $31,960
Real estate-construction 8,307 6,933 7,093 15,310 -0- 7,003
Real estate-held for sale 1,026 -0- -0- 1,026 -0- -0-
Consumer 6,394 32,415 1,961 40,770 22,238 12,138
Commercial and commercial
real estate 45,353 67,061 5,481 117,895 62,955 9,587
------- -------- ------- -------- -------- -------
Gross Loans $61,871 $111,476 $60,097 $233,444 $110,884 $60,689
------- -------- ------- -------- -------- -------
------- -------- ------- -------- -------- -------
INTEREST RATE RISK ANALYSIS
---------------------------
Time Remaining to Maturity
----------------------------------------------------------
December 31, 2003 Due Within Four to Seven to After
(Dollars in thousands) 3 months 6 months 12 months 12 months Total
---------- -------- --------- --------- -----
Certificates of Deposit
Less than $100,000 $17,766 $14,518 $22,159 $46,645 $101,088
More than $100,000 5,231 11,331 10,476 14,021 41,059
------- ------- ------- ------- --------
Total $22,997 $25,849 $32,635 $60,666 $142,147
------- ------- ------- ------- --------
------- ------- ------- ------- --------
Asset/liability management is the process of identifying, measuring and managing
the risk to the Company's earnings and capital resulting from the movements in
interest rates. It is the Company's objective to protect earnings and capital
while achieving liquidity, profitability and strategic goals.
The Company focuses its measure of interest rate risk on the effect a shift in
interest rates would have on earnings rather than on the amount of assets and/or
liabilities subject to re-pricing in a given time period. Since not all assets
or liabilities move at the same rate and at the same time, a determination must
be made as to how each interest earning asset and each interest bearing
liability adjusts with each change in the base rate. The Company develops,
evaluates and amends its assumptions on an ongoing basis and analyzes its
earnings exposure quarterly.
In addition to the effect on earnings, a quarterly evaluation is made to
determine the change in the economic value of equity with various changes in
interest rates. This determination indicates how much the value of the assets
and the value of the liabilities change with a specified change in interest
rates. The net difference between the economic values of the assets and
liabilities results in an economic value of equity.
As part of the Company's asset/liability management strategy, the Company
entered into an interest rate swap agreement in June 2003. The swap agreement
had the effect of converting the Company's $7.0 million of variable rate Company
Obligated Mandatorily Redeemable Preferred Securities of Subsidiary Trust
Holding Solely Subordinated Debentures to a fixed rate. See Note 16 to the
Consolidated Financial Statements for a further discussion of the interest rate
swap.
LIQUIDITY
Liquidity, as it relates to the Bank, is a measure of its ability to fund loans
and withdrawals of deposits in a cost-effective manner. The Bank's principal
sources of funds are deposits, scheduled amortization and prepayment of loan
principal, amortization, prepayment and maturity of investment securities,
short-term borrowings and income from operations. Additional sources include
purchasing fed funds, sale of securities, sale of loans, borrowing from both the
Federal Reserve Bank and Federal Home Loan Bank, and dividends paid by Nevahawk,
a wholly owned subsidiary of the Bank.
The liquidity needs of the Company generally consist of payment of dividends to
its stockholders, payments of principal and interest on borrowed funds and
subordinated debentures, and a limited amount of expenses. The sources of funds
to provide this liquidity are issuance of capital stock and dividends from its
subsidiary Bank. Certain restrictions are imposed upon the Bank, which could
limit its ability to pay dividends if it did not have net earnings or adequate
capital in the future. The Company maintains adequate liquidity to pay its
expenses.
The following discussion of the Company's cash flows below provides some of the
highlights of the Company's cash flows. It is only a summary. We urge you to
read the more complete discussions and analysis of the Company's cash flows
contained in the Consolidated Statements of Cash Flows in the Company's
Consolidated Financial Statements attached to this Form 10-KSB as Exhibit 99.1.
The Company had cash flow from operations of $3.5 million in 2003, $5.7 million
in 2002 and $1.5 million in 2001. Cash flow from operations used cash for the
origination of loans for the secondary market of $34.7 million in 2003, $32.9
million in 2002 and $33.6 million in 2001. The sale of loans to the secondary
market provided cash of $37.7 million in 2003, $33.8 million in 2002 and $32.2
million in 2001.
Cash used in investing activities was $2.9 million in 2003, $23.5 million in
2002 and $5.5 million in 2001. The Company received cash from the sale,
maturity or call of investment securities of $84.2 million in 2003, $33.1
million in 2002 and $33.9 million in 2001. Cash was used to purchase investment
securities of $103.5 million in 2003, $72.8 million in 2002 and $26.6 million in
2001. In 2003 the Company used net cash of $4.5 million in the DunC
acquisition. This consisted of the $7.2 million paid for DunC net of $2.7
million in cash received. The acquisition of DunC was funded by the December
2002 issuance of the Company's trust preferred securities, which proceeds were
temporarily used to reduce bank debt. At closing of the DunC acquisition, the
Company increased bank debt by $7.5 million. In addition, the Company invested
$1.4 million, $0.9 million and $0.8 million in fixed assets for the years 2003,
2002 and 2001, respectively.
Cash provided by financing activities was $4.1 million in 2003, $18.6 million in
2002 and $2.3 million in 2001. The Company used $3.6 million in 2003 to fund a
net decrease in deposits. In 2002 net deposit growth provided $13.5 million in
cash, while in 2001 $11.3 million was used to fund a net decrease in deposits.
Cash was used to pay stockholder dividends of $0.9 million in 2003, $0.9 million
in 2002 and $1.1 million in 2001. Net borrowings generated cash of $8.6 million
in 2003, $4.9 million in 2002 and $14.6 million in 2001.
The following table summarizes the Company's cash needs for significant
contractual obligations and other potential funding needs at December 31, 2003
(in thousands):
Time Long-term Operating Data Processing
Deposits debt(1) Leases Commitment Total
-------- ----------- --------- --------------- -----
2004 $ 81,633 $13,475 $ 164 $ 534 $ 95,806
2005 38,537 12,098 164 534 51,333
2006 8,843 3,825 164 534 13,366
2007 11,426 1,953 161 534 14,074
2008 1,708 9,875 114 404 12,101
Thereafter 0 21,687 1,000 0 22,687
-------- ------- ------ ------ --------
Total $142,147 $62,913 $1,767 $2,540 $209,367
-------- ------- ------ ------ --------
-------- ------- ------ ------ --------
Commitments to extend credit $ 34,356
----------
(1) Long-term debt includes company obligated mandatorily redeemable
preferred securities.
OFF-BALANCE SHEET ITEMS
The Company is party to 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 and standby letters
of credit. They involve, to varying degrees, elements of credit risk in excess
of amounts recognized on the consolidated balance sheets.
The Company's exposure to credit loss in the event of nonperformance by the
other party to the financial instrument for commitments to extend credit and
standby letters of credit is represented by the contractual notional amount of
those instruments. The Company uses the same credit policies in making
commitments and issuing letters of credit as they do for on-balance-sheet
instruments.
Off-balance-sheet financial instruments, whose contracts represented credit
and/or interest rate risk at December 31, were as follows:
2003 2002
---- ----
(Amounts in thousands)
Unused Lines of Credit
Commercial and other $29,151 $20,183
Credit cards 4,221 4,463
Standby Letters of Credit 984 950
Commitments to Extend Credit 1,528 5,343
Commitments to extend credit are agreements to lend to a customer as long as
there is no violation of any condition established in the contract. Commitments
generally have fixed expiration dates or other termination clauses and may
require payment of a fee. Since many of the commitments are expected to expire
without being drawn upon, the total commitment amounts do not necessarily
represent future cash requirements.
Standby letters of credit are conditional commitments issued by the Bank to
guarantee the performance of a customer to a third-party. Those guarantees are
primarily issued to support public and private borrowing arrangements and,
generally, have terms of one year or less. The credit risk involved in issuing
letters of credit is essentially the same as that involved in extending loan
facilities to customers. The Company evaluates each customer's credit
worthiness on a case-by-case basis. The amount of collateral obtained, if
deemed necessary by the Company upon extension of credit, is based on
management's credit evaluation of the counterparty. Collateral held varies but
may include accounts receivable, inventory, property and equipment, and income-
producing commercial properties. In the event the customer does not perform in
accordance with the terms of the agreement with the third-party, the Bank would
be required to fund the commitment. The maximum potential amount of future
payments the Bank could be required to make is represented by the contractual
amount shown in the summary above. If the commitment is funded, the Bank would
be entitled to seek recovery from the customer. At December 31, 2003 and 2002,
no amounts have been recorded as liabilities for the Bank's potential
obligations under these guarantees. Credit card commitments are unsecured.
The Bank frequently enters into loan sale commitments prior to closing loans in
order to limit interest rate risk for the period of time between when a loan is
committed and when it is sold. These sale commitments are typically made on a
loan-by-loan basis.
Except for the above-noted commitments to originate loans in the normal course
of business, the Company and Bank have not undertaken the use of off-balance-
sheet derivative financial instruments for any purpose.
The Company and the Bank do not engage in the use of futures or option contracts
as of December 31, 2003.
CAPITAL
SELECTED EQUITY RATIOS
---------------------- 2003 2002 Regulatory
Ratio Ratio Requirement
----- ----- -----------
Equity as a percent of assets 6.06% 7.32% N/A
Core capital as a percent of risk based assets 9.64% 12.94% 4.00%
Total capital as a percent of risk based assets 10.89% 13.94% 8.00%
Leverage ratio 6.01% 8.29% 4.00%
Total stockholder's equity as of December 31, 2003 and 2002 was $25.8 million.
While total stockholder's equity did not change, the individual components
reflected the following changes for 2003:
o Surplus increased by $0.1 million from the issuance of stock under the
employee and director stock option plans;
o Retained earnings increased by $0.3 million (2003 net income of $1.2
million less dividends declared of $0.9 million) and;
o Accumulated Other Comprehensive Income decreased by $0.4 million due to
a $0.6 million decrease in unrealized gains on available for sale
securities offset by a $0.2 million gain on the Company's interest rate
SWAP agreement.
The capital ratios of the Company are in excess of the regulatory requirements.
Under guidelines issued by the Federal Reserve Bank, the $7.0 million of company
obligated mandatorily redeemable preferred securities of subsidiary trust
holding solely subordinated debentures issued in December 2002 are included in
Tier 1 and total capital of the Company at December 31, 2003. Tier 1 capital as
a percent of risk based assets for 2003 is 9.64% compared to a December 31, 2002
ratio of 12.94% and a regulatory requirement of 4.0%. Total capital as a
percent of risk based assets for 2003 is 10.89% compared to a December 31, 2002
ratio of 13.94% and a regulatory requirement of 8.0%. The leverage ratio for the
Company for 2003 is 6.01% compared to a December 31, 2002 ratio of 8.29% and a
4.0% regulatory requirement. The decrease in all three capital ratios reflects
the financing of the DunC acquisition with debt rather than equity in 2003.
As noted in Item 1 of this report, the Bank is also subject to regulatory
capital requirements. The capital ratios at December 31, 2003 and 2002 compared
to the regulatory requirements are detailed in Note 17 to the Consolidated
Financial Statements. As a condition to obtaining approval of the DunC
acquisition by federal and state regulators, the Company has agreed to maintain
the Bank's tier 1 capital to average assets ratio at a minimum of 7.0% through
September 30, 2006. The Bank's tier 1 capital to average assets was 7.5% at
December 31, 2003 and 7.7% at December 31, 2002. The Company also committed
that, in the event the Bank's earnings are not sufficient to produce cash flow
to acquisition service debt at 80% of the earnings dividend rate, the Company
will fund the debt service with additional capital. The capital may come, from,
among other things, a reduction or elimination of stockholder dividends or from
the issuance of capital securities. This may impact the Company's ability to
pay future dividends.
As more fully discussed under "Company Obligated Mandatorily Redeemable
Preferred Securities of Subsidiary Trust Holding Solely Subordinated Debentures"
above, the Company's capital ratios may be negatively impacted should federal
regulators no longer permit the inclusion of the Company's trust preferred
securities in Tier 1 capital. Such a determination could have a material
adverse effect on the Company's ability to meet its capital commitments.
IMPACT OF INFLATION AND CHANGING PRICES
Unlike most industrial companies, most of the assets and liabilities of the Bank
are monetary in nature. Consequently, interest rates have a more significant
impact on the Company's performance and results of operations than the effect of
general levels of inflation. Interest rates do not necessarily move in the same
direction or in the same magnitude as the prices of goods and services as
measured by the Consumer Price Index. As discussed previously under
Asset/Liability Management, the Bank's interest rate exposure in conjunction
with the direction of the movement in interest rates, is an important factor in
the Company's results of operations. The Company's financial statements are
prepared in accordance with generally accepted accounting principles, which
require the measurement of financial position and results of operations in terms
of historical dollars, without giving consideration to changes in the relative
purchasing power of money over time due to inflation.
ITEM 7. FINANCIAL STATEMENTS
The required financial statements are attached to this Form 10-KSB as Exhibit
99.1 and are incorporated herein by reference.
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
On August 27, 2002, the Audit Committee of the Board of Directors of the Company
approved a change in auditors. The Board of Directors ratified the Audit
Committee's engagement of McGladrey & Pullen, LLP to serve as the Company's
independent public accountants and replacement of Wipfli Ullrich Bertelson LLP
("Wipfli") as the Company's independent public accountants, effective August 28,
2002.
Wipfli performed audits of the consolidated financial statements for the two
years ended December 31, 2001 and 2000. Their reports did not contain an adverse
opinion or a disclaimer of opinion and were not qualified or modified as to
uncertainty, audit scope, or accounting principles.
During the two years ended December 31, 2001, and from December 31, 2001 through
the effective date of the Wipfli termination, there were no disagreements
between the Company and Wipfli on any matter of accounting principles or
practice, financial statement disclosure, or auditing scope or procedure, which
disagreements would have caused Wipfli to make reference to the subject matter
of such disagreements in connection with this report.
During the two years ended December 31, 2001, and from December 31, 2001 until
the effective date of the dismissal of Wipfli, Wipfli did not advise the Company
of any of the following matters:
1. That the internal controls necessary for the Company to develop reliable
financial statements did not exist;
2. That information had come to Wipfli's attention that had led it to no longer
be able to rely on management's representations, or that had made it unwilling
to be associated with the financial statements prepared by management;
3. That there was a need to expand significantly the scope of the audit of the
Company, or that information had come to Wipfli's attention that if further
investigated: (i) may materially impact the fairness or reliability of either a
previously-issued audit report or underlying financial statements, or the
financial statements issued or to be issued covering the fiscal periods
subsequent to the date of the most recent financial statements covered by an
audit report (including information that may prevent it from rendering an
unqualified audit report on those financial statements) or (ii) may cause it to
be unwilling to rely on management's representation or be associated with the
Company's financial statements and that, due to its dismissal, Wipfli did not so
expand the scope of its audit or conduct such further investigation;
4. That information had come to Wipfli's attention that it had concluded
materially impacted the fairness or reliability of either: (i) a previously-
issued audit report or the underlying financial statements or (ii) the financial
statements issued or to be issued covering the fiscal period subsequent to the
date of the most recent financial statements covered by an audit report
(including information that, unless resolved to the accountant's satisfaction,
would prevent it from rendering an unqualified audit report on those financial
statements), or that, due to its dismissal, there were no such unresolved issues
as of the date of its dismissal.
Wipfli has furnished a letter to the SEC dated August 29, 2002, stating that it
agrees with the above statements, which was included in earlier filings by the
Company. The letter is provided as Exhibit 16.1.
During the two years ended December 31, 2001, and from December 31, 2001 through
engagement of McGladrey & Pullen, LLP as the Registrant's independent
accountant, neither the Company nor anyone on its behalf had consulted McGladrey
& Pullen, LLP with respect to any accounting or auditing issues involving the
Company. In particular, there was no discussion with the Company regarding the
application of accounting principles to a specified transaction, the type of
audit opinion that might be rendered on the financial statements, or any related
item.
ITEM 8A. CONTROLS AND PROCEDURES
We maintain disclosure controls and procedures designed to ensure that the
information we must disclose in our filings with the Securities and Exchange
Commission is recorded, processed, summarized and reported on a timely basis.
Our principal executive officer and principal financial officer have reviewed
and evaluated our disclosure controls and procedures as defined in Rules 13a-
15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the
"Exchange Act") as of the end of the period covered by this report (the
"Evaluation Date"). Based on such evaluation, such officers have concluded
that, as of the Evaluation Date, our disclosure controls and procedures are
effective in bringing to their attention on a timely basis material information
relating to us required to be included in our periodic filings under the
Exchange Act.
There have not been any changes in our internal control over financial reporting
(as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) that occurred during
our most recent fiscal quarter that have materially affected, or are reasonably
likely to materially affect, our internal control over financial reporting.
PART III
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; COMPLIANCE
WITH SECTION 16(A) OF THE EXCHANGE ACT
a) Directors of the Company. The information that will appear under "Election
of Directors" in the definitive Proxy Statement to be prepared and filed
for the Company's Annual Meeting of Stockholders to be held on May 19, 2004
is incorporated herein by this reference.
b) Executive officers of the Company. The information presented in Item I of
this report is incorporated herein by this reference.
c) Section 16(a) Beneficial Ownership Reporting Compliance. The information
that will appear under "Section 16(a) Beneficial Ownership Reporting
Compliance" in the definitive proxy statement to be prepared and filed for
the Company's Annual Meeting of Stockholders to be held on May 19, 2004 is
incorporated herein by this reference.
d) Code of Ethics. The information that will appear under "Company Code of
Ethical Practices" in the definitive Proxy Statement to be prepared and
filed for the Company's Annual Meeting of Stockholders to be held on May
19, 2004 is incorporated herein by this reference.
ITEM 10. EXECUTIVE COMPENSATION
The information that will appear under "Director and Executive Compensation" in
the definitive Proxy Statement to be prepared and filed for the Company's Annual
Meeting of Stockholders to be held on May 19, 2004 is incorporated herein by
this reference.
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
The information that will appear under "Equity Compensation Plan Information"
and "Beneficial Ownership of Securities" in the definitive Proxy Statement to be
prepared and filed for the Company's Annual Meeting of Stockholders to be held
on May 19, 2004 is incorporated herein by this reference.
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information that will appear under "Certain Transactions with Management and
Others" in the definitive Proxy Statement to be prepared and filed for the
Company's Annual Meeting of Stockholders to be held on May 19, 2004 is
incorporated herein by this reference.
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K
a) Documents Filed:
1. and 2. Financial Statements. The Company's Consolidated Balance Sheets,
Consolidated Statements of Income,
Consolidated Statements of Changes in
Stockholders' Equity, Consolidated Statements
of Cash Flows and Notes to Consolidated
Financial Statements are attached to this
Form 10-KSB as exhibit 99.1.
3. Exhibits. See "Exhibit Index" which is incorporated
herein by this reference.
b) Reports On Form 8-K:
During the fourth quarter of 2003 the Company filed an 8-K dated
October 14, 2003 which provided the information required under Item 2
as a result of the Company's acquisition of DunC Corp. An 8-K/A was
filed on November 12, 2003 to amend that filing, to furnish the
financial Statements and Exhibits required under Item 7. Those
statements were as follows:
o Consolidated Balance Sheets of DunC Corp. as of December 31,
2002 and 2001.
o Consolidated Statements from Income of DunC Corp. for the years
ended December 31, 2002 and 2001.
o Consolidated Statements of Changes in Stockholders' Equity of
DunC Corp. for the years ended December 31, 2002 and 2001.
o Consolidated Statements of Cash Flows of DunC Corp. for the
years ended December 31, 2002 and 2001.
o Unaudited Consolidated Statements of Financial Condition of
DunC Corp. as of June 30, 2003 and 2002 and as of December 31,
2002.
o Unaudited Consolidated Statements of Income of DunC Corp. for
the six months ended June 30, 2003 and 2002.
o Unaudited Consolidated Statements of Cash Flows of DunC for the
six months ended June 30, 2003 and 2002.
o Unaudited Pro Forma Condensed Combined Statements of Financial
Condition of The Corporation and DunC as of June 30, 2003.
o Unaudited Pro Forma Condensed Combined Statements of Income for
the six months ended June 30, 2003 and for the year ended
December 31, 2002 of The Corporation and DunC
Also, the Company furnished a Report on Form 8-K dated November 12,
2003 under Item 12 which reported 3rd quarter 2003 results; that
report is not deemed "filed."
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
The information that will appear under "Audit and Non-Audit Fees" in the
definitive Proxy Statement to be prepared and filed for the Company's Annual
Meeting of Stockholders to be held on May 19, 2004 is incorporated herein by
this reference.
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
Blackhawk Bancorp, Inc.
By /s/ Todd J. James
-----------------------------------
Todd J. James
Executive Vice President and Secretary
March 17, 2004
In accordance with the Exchange Act, this report has been signed below by the
following persons on behalf of the registrant and in the capacities on March 17,
2004.
Principal Executive Officer and Director:
Director, President and /s/ R. Richard Bastian, III
Chief Executive Officer ---------------------------
R. Richard Bastian, III,
President and Chief Executive Officer
Principal Financial Officer /s/ Todd J. James
-----------------
Todd J. James
Executive Vice President,
Treasurer and Chief Financial Officer
Principal Accounting Officer /s/ Thomas L. Lepinski
----------------------
Thomas L. Lepinski, C.P.A.,
Principal Accounting Officer
Directors:
/s/ John B. Clark /s/ Merritt J. Mott
----------------- -------------------
John B. Clark Merritt J. Mott
/s/ Roger G. Bryden /s/ Stephen P. Carter
------------------- ---------------------
Roger G. Bryden Stephen P. Carter
/s/ Charles Hart /s/ George D. Merchant
---------------- ----------------------
Charles Hart George D. Merchant
/s/ Kenneth A Hendricks /s/ Prudence A. Harker
----------------------- ----------------------
Kenneth A. Hendricks Prudence A. Harker
/s/ Charles J. Howard /s/ Stephen R. Thomas
--------------------- ---------------------
Charles J. Howard Stephen R. Thomas
Blackhawk Bancorp, Inc.
Exhibit Index To
2003 Annual Report on Form 10-KSB
Exhibit Incorporated Herein Filed
Number Description By Reference To: Here-with Page No.
------ ----------- ---------------- --------- --------
2.1 Agreement and Plan of Exhibit 2.1 to Form 8-K
Merger By and Among dated March 17, 2003
Blackhawk Bancorp, Inc.
DunC Merger Corporation
and DunC Corp
3.1 Amended and Restated Exhibit 3.1 to
Articles of Incorporation Amendment No. 1 to
of Blackhawk Bancorp, Registration
Inc. Statement on Form
S-1(Reg. No. 33.32351)
3.2 By-Laws of Blackhawk Exhibit 3.2 to
Bancorp, Inc., as Amendment No. 1 to
amended. Registration
Statement on Form S-1
3.3 Amendments to By-Laws Exhibit 3.3 to 1994
of Blackhawk Bancorp, Form 10-KSB dated March
Inc., as amended. 29, 1995
3.4 Amendments to By-Laws of Exhibit 3.4 to 1994
Blackhawk Bancorp, Inc., Form 10-KSB dated March
as amended. 29, 1995.
4.1 Sections 15 and 19 of Exhibit 1.2 to
Plan of Conversion of Amendment No. 1 to
Beloit Savings Bank, as Registration
amended Statement on Form-1
(No. 33-32351) filed on
March 5, 1990.
4.2 Blackhawk Bancorp, Inc. X 45
Floating Rate Junior
Subordinated Deferrable
Interest Debentures
Indenture Dated as of
December 19, 2002
4.3 Credit Agreement with US Exhibit 4 to Form 8-K
Bank National Association dated September 30,
dated September 26, 2003 2003
10.12 Blackhawk State Bank Exhibit 10.12 to 1996
Officer Bonus Plan, as Form 10-KSB, dated
amended * March 28, 1997
10.2 Written description of Proxy Statement for its
Plan for Life Insurance Annual Meeting of
of Blackhawk State Stockholders, on May 8,
Bank * 1991, dated April 4,
1991
10.3 Blackhawk Bancorp, Inc. Exhibit 10.3 to 1990
Employee Stock Ownership Form 10-K, dated
Plan * March 31, 1990
10.31 Amendment to Blackhawk Exhibit 10.31 to 1994
Bancorp, Inc. Form 10-KSB, dated
Employee Stock Ownership March 29,1995
Plan *
10.4 Blackhawk Bancorp, Inc. Exhibit 10.4 to
Employee Stock Ownership Amendment No. 1 to
Trust * Registration Statement
Form S-1 (No. 33-32351)
10.5 Blackhawk Bancorp, Inc. Exhibit 10.5 to
Directors' Stock Option Amendment No. 1 to
Plan * Registration
Statement Form S-1
(No. 33-32351)
10.6 Blackhawk Bancorp, Inc. Exhibit 10.6 to
Executive Stock Option Registration
Plan * Statement Form S-1
(No. 33-32351)
10.7 Form of Severance Payment Exhibit 10.8 to
Agreement entered into Amendment No. 1 to
between Blackhawk State Registration
Bank and Messrs. Calkins, Statement Form S-1
Kelley and Rusch * (No. 33-32351)
10.71 Form of Severance Payment Exhibit 10.8 to 1994
Agreement entered into Form 10-KSB, dated
between Blackhawk State March 29, 1995
Bank and Mr.
Conerton *
10.72 Employment Agreement Exhibit 4.4 to 2002
between Blackhawk State Form 10-QSB for the
Bank and R. Richard quarter ended September
Bastian, III 30, 2002
10.73 Employment Agreement X 46
between Blackhawk State
Bank and Dale Blachford
10.8 Blackhawk Bancorp, Inc. Exhibit 10.9 to 1994
Directors' Stock Option Form 10-KSB, dated
Plan * March 29, 1995
10.9 Blackhawk Bancorp, Inc. Proxy Statement for its
Executive Stock Option Annual Meeting of
Plan * Stockholders on May 13,
1998, dated April 2,
1998
14 Code of Ethics X 55
16.1 Letter on Change in X 56
Certifying Accountant
21 Subsidiaries of X 57
Registrant
31.1 Rule 13a-14(a)/15d-14(a) X 58
Certification
31.2 Rule 13a-14(a)/15d-14(a) X 59
Certification
32.1 Certification Pursuant to
18 U. S. C. Section 1350,
as Adopted Pursuant to
Section 906 of the
Sarbanes-Oxley Act of
2002 X 60
32.2 Certification Pursuant to
18 U. S. C. Section 1350,
as Adopted Pursuant to
Section 906 of the
Sarbanes-Oxley Act of
2002 X 61
99.1 Financial Statements X 62
* Each management contract and compensatory plan or arrangement required
to be filed as an exhibit to this report is identified in the Exhibit
Index by an asterisk following the description of the exhibit.