SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

ý     QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended March 31, 2003

 

OR

 

o     TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934

For transition period from                  to                 

 

Commission file number 005-57237

 

FIRST OTTAWA BANCSHARES, INC.

(Exact name of Registrant as specified in its charter)

 

 

(815) 434-0044

(Registrant’s telephone number,
including area code)

 

Indicate by check mark whether the Registrant:  (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 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  ý   No  o

 

Indicate by check mark whether the Registrant is an accelerated filer (as defined by Rule 12b-2 of the Exchange Act)  Yes  o   No  ý

 

Indicate the number of shares outstanding of each of the Registrant’s classes of common stock as of the latest practicable date:  As of May 14, 2003, the Registrant had outstanding 656,956 shares of common stock, $1.00 par value per share.

 

 

FIRST OTTAWA BANCSHARES, INC.

 

Form 10-Q Quarterly Report

 

Table of Contents

 

PART I
Item 1.	Condensed Consolidated Financial Statements
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations
Item 3.	Quantitative and Qualitative Disclosures about Market Risk
Item 4.	Controls and Procedures
PART II
Item 1.	Legal Proceedings
Item 2.	Changes in Securities and Use of Proceeds
Item 3.	Defaults Upon Senior Securities
Item 4.	Submission of Matters to a Vote of Security Holders
Item 5.	Other Information
Item 6.	Exhibits and Reports on Form 8-K
Item 7.	Signatures

 

2

 

FIRST OTTAWA BANCSHARES, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands, except share and per share data)

 

		March 31, 2003			December 31, 2002
		(Unaudited)
ASSETS
Cash and cash equivalents		$	8,034		$	8,606
Certificates of deposit		13,086			12,985
Securities available-for-sale		93,494			98,885
Loans held for sale		2,108			1,811
Loans, less allowance for loan losses of $1,172 and $1,167		110,484			108,476
Premises and equipment, net		4,856			4,555
Interest receivable and other assets		5,278			5,344
Total assets		$	237,340		$	240,662
LIABILITIES AND SHAREHOLDERS’ EQUITY
Liabilities
Deposits
Demand – non-interest-bearing		$	19,076		$	19,475
NOW accounts		45,678			54,537
Money market accounts		9,469			9,186
Savings		19,920			19,513
Time, $100,000 and over		29,317			23,813
Other time		65,068			67,243
Total deposits		188,528			193,767
Federal funds purchased		18,900			14,700
Securities sold under agreements to repurchase		1,071			1,622
Borrowings		177			652
Interest payable and other liabilities		3,186			4,738
Total liabilities		211,862			215,479
Commitments and contingent liabilities
Shareholders’ equity
Preferred stock - $1 par value, 20,000 shares Authorized; none issued		—			—
Common stock - $1 par value, 750,000 shares authorized and issued		750			750
Additional paid-in capital		4,000			4,000
Retained earnings		24,105			23,491
Treasury stock, at cost, 93,044 shares		(5,270		)	(5,270		)
Accumulated other comprehensive income		1,893			2,212
Total shareholders’ equity		25,478			25,183
Total liabilities and shareholders’ equity		$	237,340		$	240,662

 

See accompanying notes to condensed consolidated financial statements.

 

3

 

FIRST OTTAWA BANCSHARES, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

Three Months ended March 31, 2003 and 2002

(In thousands, except share and per share data)

(Unaudited)

 

		2003			2002
Interest income
Loans		$	1,965		$	2,021
Securities
Taxable		909			1,058
Exempt from federal income tax		196			228
Certificates of deposit		105			10
Federal funds sold		—			1
Total interest income		3,175			3,318
Interest expense
NOW account deposits		123			75
Money market deposit accounts		29			41
Savings deposits		62			80
Time deposits		906			1,180
Repurchase agreements		7			158
Federal funds purchased		57			15
Borrowings		3			29
Total interest expense		1,187			1,578
NET INTEREST INCOME		1,988			1,740
Provision for loan losses		30			30
NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSS		1,958			1,710
Noninterest income
Service charges on deposit accounts		189			183
Trust and farm management fee income		114			114
Gain on loan sales		220			60
Other income		103			167
Total noninterest income		626			524
Noninterest expenses
Salaries and employee benefits		967			963
Occupancy and equipment expense		226			200
Data processing expense		114			117
Supplies		31			31
Advertising and promotions		17			24
Professional fees		65			88
Other expenses		334			195
Total noninterest expenses		1,754			1,618
INCOME BEFORE INCOME TAXES		830			616
Provision for income taxes		216			94
NET INCOME		$	614		$	522
Earnings per share		$	0.94		$	0.79
Average shares outstanding		656,956			658,356

 

See accompanying notes to condensed consolidated financial statements.

 

4

 

FIRST OTTAWA BANCSHARES, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY

Three Months ended March 31, 2003 and 2002

(In thousands, except per share data)

(Unaudited)

 

		Common Stock			Additional Paid-In Capital			Retained Earnings			Treasury Stock			Accumulated Other Comprehensive Income (Loss)			Total Share- holders’ Equity
Balance at January 1, 2003		$	750		$	4,000		$	23,491		$	(5,270	)	$	2,212		$	25,183
Net income		—			—			614			—			—			614
Unrealized net loss on securities available-for-sale, net of reclassi-fications and tax effects		—			—			—			—			(319		)	(319		)
Comprehensive income		—			—			—			—			—			295
Balance at March 31, 2003		$	750		$	4,000		$	24,105		$	(5,270	)	$	1,893		$	25,478
Balance at January 1, 2002		$	750		$	4,000		$	23,178		$	(5,196	)	$	175		$	22,907
Net income		—			—			522			—			—			522
Unrealized net loss on securities available-for-sale, net of reclassi-fications and tax effects		—			—			—			—			(323		)	(323		)
Comprehensive income		—			—			—			—			—			199
Balance at March 31, 2002		$	750		$	4,000		$	23,700		$	(5,196	)	$	(148	)	$	23,106

 

See accompanying notes to condensed consolidated financial statements.

 

5

 

FIRST OTTAWA BANCSHARES, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

Three Months ended March 31, 2003 and 2002

(In thousands)

(Unaudited)

 

		2003			2002
CASH FLOWS FROM OPERATING ACTIVITIES
Net income		$	614		$	522
Adjustments to reconcile net income to net cash from operating activities
Change in deferred loan fees		(2		)	(1		)
Provision for loan losses		30			30
Depreciation and amortization		55			75
Premium amortization on securities, net		46			25
Net change in loans held for sale		(77		)	832
Gain on loan sales		(220		)	(8		)
Loss on sale of other real estate owned		13			—
Change in interest receivable and other assets		(116		)	170
Change in interest payable and other liabilities		(72		)	(995		)
Net cash from operating activities		271			650
CASH FLOWS FROM INVESTING ACTIVITIES
Proceeds from maturities of securities		4,862			3,544
Proceeds from maturities of certificates of deposit		99			—
Purchases of certificates of deposit		(200		)	(150		)
Net change in loans receivable		(2,036		)	271
Proceeds from sale of other real estate owned		166			—
Property and equipment expenditures		(353		)	(1,234		)
Net cash from investing activities		2,538			2,431
CASH FLOWS FROM FINANCING ACTIVITIES
Change in deposits		(5,239		)	(3,431		)
Change in federal funds purchased		4,200			(2,350		)
Change in securities sold under agreements to repurchase		(551		)	1,548
Repayment of borrowings		(475		)	—
Dividends paid		(1,316		)	(1,324		)
Net cash used in financing activities		(3,381		)	(5,557		)
Change in cash and cash equivalents		(572		)	(2,476		)
Cash and cash equivalents at beginning of period		8,606			7,933
CASH AND CASH EQUIVALENTS AT END OF PERIOD		$	8,034		$	5,457

 

See accompanying notes to condensed consolidated financial statements.

 

6

 

FIRST OTTAWA BANCSHARES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINACIAL STATEMENTS

(Table dollars in thousands)

March 31, 2003 and 2002

 

NOTE 1 – BASIS OF PRESENTATION

 

The accounting policies followed in the preparation of the interim condensed consolidated financial statements are consistent with those used in the preparation of annual consolidated financial statements.  The interim condensed consolidated financial statements reflect all normal and recurring adjustments, which are necessary, in the opinion of management, for a fair statement of results for the interim periods presented.  Results for the three months ended March 31, 2003 are not necessarily indicative of the results that may be expected for the year ended December 31, 2003.

 

The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for the interim financial period and with the instructions to Form 10-Q.  Accordingly, they do not include all the information and footnotes required by generally accepted accounting principles for complete financial statements.  These condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and notes included in the Company’s annual report on Form K for 2002 filed with the U.S. Securities and Exchange Commission.  The condensed consolidated balance sheet of the Company as of December 31, 2002 has been derived from the audited consolidated balance sheet as of that date.

 

During 2001, First Ottawa Bancshares, Inc. (Company) organized a wholly-owned subsidiary, First Ottawa Financial Corporation, to sell insurance and investment products.  There was no significant activity at this subsidiary through March 31, 2003.

 

NOTE 2 – CAPITAL RATIOS

 

At the dates indicated, the Company’s and Bank’s capital ratios were the same and were:

 

		March 31, 2003					December 31, 2002
		Amount			Ratio		Amount			Ratio
Total capital (to risk-weighted  assets)		$	24,170		17.4	%	$	23,542		17.5	%
Tier I capital (to risk-weighted assets)		22,998			16.6	%	22,375			16.6	%
Tier I capital (to average assets)		22,998			9.6	%	22,375			9.5	%

 

At the dates indicated, the Company’s and the Bank’s capital ratios were categorized as well capitalized and management is not aware of any conditions or events since the most recent notification that would change the Company’s or Bank’s categories.

 

7

 

NOTE 3 - DERIVATIVES

 

The Company uses derivatives to fix future cash flows for interest payments on some of its floating rate certificates of deposit.  In this regard, the Company has entered into an interest rate swap with the Federal Home Loan Bank of Chicago to fix the interest rate on a specific certificate of deposit product.  At March 31, 2003, the Company had $2.1 million of certificates of deposit, which mature in 2006, 2007, and 2008, in which it pays the Federal Home Loan Bank a weighted average interest rate of 2.95% and will receive an interest rate from the Federal Home Loan Bank based on the appreciation of the S&P 500 Index.  This interest received from the Federal Home Loan Bank will be paid to the customer.  The assets and liabilities in this transaction are being netted and the expense recorded in interest expense on deposits.

 

In addition to the above, the Company also purchased $5.1 million of certificates of deposit, which are included in the certificates of deposit caption on the consolidated balance sheet.  These investments mature throughout 2006, 2007, and 2008.  The investments that individually do not exceed $100,000 are secured by the FDIC.  Investments that do individually exceed $100,000 are guaranteed by a standby letter of credit issued by the Federal Home Loan Bank of Pittsburgh with an interest rate of 0%.  The initial investment is not at risk, but the return on the investment is based on a calculation of the appreciation in the S&P 500 Index.  The fair value of this embedded derivative is recorded in investment certificates of deposit and the fair value adjustment is included in interest income.  At March 31, 2003, the  Bank had allocated $585,000 to this asset and recorded a valuation allowance of $47,000, which is classified with the certificates of deposit caption on the consolidated balance sheet.

 

8

 

FIRST OTTAWA BANCSHARES, INC. AND SUBSIDIARIES

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS

 

ITEM 2.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

The following discussion and analysis is intended as a review of significant factors affecting the financial condition and results of operations of the Company for the periods indicated.  The discussion should be read in conjunction with the Condensed Consolidated Financial Statements and Notes.  In addition to historical information, the following Management’s Discussion and Analysis of Financial Condition and Results of Operations contains forward-looking statements that involve risks and uncertainties.  The Company’s actual results could differ significantly from those anticipated in these forward-looking statements as a result of certain factors discussed elsewhere in this report.

 

CRITICAL ACCOUNTING POLICIES

 

The accounting and reporting policies of the Company are in accordance with accounting principles generally accepted in the United States and conform to general practices within the banking industry.  The Company’s significant accounting policies are described in detail in the notes to the Company’s consolidated financial statements for the year ended December 31, 2002. The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions. The financial position and results of operations can be affected by these estimates and assumptions and are integral to the understanding of reported results. Critical accounting policies are those policies that management believes are the most important to the portrayal of the Company’s financial condition and results, and they require management to make estimates that are difficult, subjective, or complex.

 

Allowance for Credit Losses- The allowance for credit losses provides coverage for probable losses inherent in the Company’s loan portfolio. Management evaluates the adequacy of the allowance for credit losses each quarter based on changes, if any, in underwriting activities, the loan portfolio composition (including product mix and geographic, industry or customer-specific concentrations), trends in loan performance, regulatory guidance and economic factors. This evaluation is inherently subjective, as it requires the use of significant management estimates. Many factors can affect management’s estimates of specific and expected losses, including volatility of default probabilities, rating migrations, loss severity and economic and political conditions. The allowance is increased through provisions charged to operating earnings and reduced by net charge-offs.

 

The Company determines the amount of the allowance based on relative risk characteristics of the loan portfolio. The allowance recorded for commercial loans is based on reviews of individual credit relationships and an analysis of the migration of commercial loans and actual loss experience. The allowance recorded for homogeneous consumer loans is based on an analysis of loan mix, risk characteristics of the portfolio, fraud loss and bankruptcy experiences, and historical losses, adjusted for current trends, for each homogeneous category or group of loans. The allowance for credit losses relating to impaired loans is based on the loan’s observable market price, the collateral for certain collateral-dependent loans, or the discounted cash flows using the loan’s effective interest rate.

 

9

 

Regardless of the extent of the Company’s analysis of customer performance, portfolio trends or risk management processes, certain inherent but undetected losses are probable within the loan portfolio. This is due to several factors including inherent delays in obtaining information regarding a customer’s financial condition or changes in their unique business conditions, the judgmental nature of individual loan evaluations, collateral assessments and the interpretation of economic trends. Volatility of economic or customer-specific conditions affecting the identification and estimation of losses for larger non-homogeneous credits and the sensitivity of assumptions utilized to establish allowances for homogenous groups of loans are among other factors. The Company estimates a range of inherent losses related to the existence of these exposures.  The estimates are based upon the Company’s evaluation of imprecision risk associated with the commercial and consumer allowance levels and the estimated impact of the current economic environment.

 

Mortgage Servicing Rights- Mortgage servicing rights (“MSRs”) associated with loans originated and sold, where servicing is retained, are capitalized and included in other intangible assets in the consolidated balance sheet. The value of the capitalized servicing rights represents the present value of the future servicing fees arising from the right to service loans in the portfolio. Critical accounting policies for MSRs relate to the initial valuation and subsequent impairment tests. The methodology used to determine the valuation of MSRs requires the development and use of a number of estimates, including anticipated principal amortization and prepayments of that principal balance. Events that may significantly affect the estimates used are changes in interest rates, mortgage loan prepayment speeds and the payment performance of the underlying loans. The carrying value of the MSRs is periodically reviewed for impairment based on a determination of fair value. For purposes of measuring impairment, the servicing rights are compared to a valuation prepared based on a discounted cash flow methodology, utilizing current prepayment speeds and discount rates. Impairment, if any, is recognized through a valuation allowance and is recorded as amortization of intangible assets.

 

Derivatives- As a part of the Company’s funding strategy, derivative financial instruments, all of which are interest rate swap arrangements, are used to reduce exposure to changes in interest rates for certain financial instruments.  These derivatives are accounted for by recognizing the fair value of the contracts on the balance sheet.  The valuation of these derivatives is considered critical because carrying assets and liabilities at fair value inherently results in more financial statement volatility.  The fair values and the information used to record valuation adjustments for the interest rate swaps and related deposit products are provided by third parties.

 

Additionally, the Company has purchased certificate of deposits which contain an equity related embedded derivative component.  The initial investment in the certificate of deposit is not at risk but the return on the investment is based on appreciation in the S&P 500 Index.  Accordingly, the fair value of the embedded derivative is recorded at fair value as an adjustment to the certificate of deposit and interest income.

 

10

 

CONSOLIDATED FINANCIAL CONDITION

 

Total assets at March 31, 2003 were $237.3 million contrasted to $240.7 million at December 31, 2002, a decrease of $3.4 million, or 1.4%.  This decrease was the result of a decrease in cash and due from banks, securities available for sale, and other assets, partially offset by an increase in loans and modest increases in certificates of deposits at other financial institutions, loans held for sale and bank premises and equipment. Loans increased $2.0 million primarily due to an increase in the commercial loan portfolio. The increase in loans was funded by a decrease in securities and an increase in federal funds purchased. Securities available for sale decreased by  $5.4 million, primarily as a result of the decrease in the market value of the securities portfolio and maturities of securities during the quarter.  Loans held for sale increased $297,000 as customers refinanced loans in reaction to the current rate environment during the first three months of the year.   Cash and due from banks decreased $572,000 as a result of a reduction in the balance due from the Federal Reserve Bank at March 31, 2002.  Premises and equipment increased by $301,000 due to capital expenditures on existing buildings and the start of construction on a new Morris, Illinois branch facility. The Bank anticipates additional 2003 capital expenditures of approximately $700,000 to complete this branch facility.

 

Total liabilities at March 31, 2003 were $211.9 million compared to $215.5 million at December 31, 2002, a decrease of $3.6 million, or 1.7%. This decrease was a result of  a decrease in deposits, repurchase agreements, other borrowings and other liabilities, partially offset by an increase in federal funds purchased.  Deposits decreased by $5.2 million,  from $193.8 million at December 31, 2002, to $188.5 million at March 31, 2003, primarily due to reductions in State of Illinois public funds and also offered rates on time deposits.  Federal funds purchased totaled $18.9 million at March 31, 2003, a $4.2 million increase from December 31, 2002. Other liabilities decreased by $1.6 million due to the reduction of dividends payable of $1.3 million as of December 31, 2002 and decreases in interest payable due to the decline in deposit balances and deposit interest rates during the quarter ended March 31, 2003.  Securities sold under agreements to repurchase decreased $551,000 million to $1.1 million as of March 31, 2003. This decrease was due to the maturity of an agreement with a local municipality.

 

Total equity was $25.5 million at March 31, 2003 compared to $25.2 million at December 31, 2002.  This increase was the result of $614,000 of additional retained earnings from net income for the quarter ended March 31, 2003 and a decrease of $319,000, net of tax, in the Company’s investment portfolio due to increasing interest rates.

 

CONSOLIDATED RESULTS OF OPERATIONS

 

Net income for the first quarter of 2003 was $614,000, or $.94 per share, a 17.6% increase compared to $522,000, or $.79 per share, in the first quarter of 2002.  The increase in net income for the quarter was primarily the result of an increase in net interest income of $248,000, and an increase in non-interest income of $102,000. These changes were partially offset by an increase in non interest expense of $136,000, and a $122,000 increase in the provision for income taxes.  This increase in the Company’s tax provision reflected both an increase in pre-tax income and a migration from tax exempt to taxable investments held in the securities portfolio.

 

11

 

The annualized return on average assets was 1.04% in the first quarter of 2003 compared to .99% in the first quarter of 2002.   The annualized return on average equity increased to 10.58% in the first quarter of 2003 from 9.73% in the first quarter of 2002.

 

NET INTEREST INCOME

 

Net interest income was $2.0 and $1.8 million for the three months ended March 31, 2003 and 2002.  Total interest income declined to $3.2 million for the three months ended March 31, 2003 from $3.3 million for the same period ended March 31, 2002.  This decrease was primarily the result of a decrease in interest income from securities to $1.1 million for the three months ended March 31, 2003 from $1.3 million for the same period a year earlier. This decrease was mitigated by an increase in interest income from investment certificates of deposits of $95,000 and a similar decline in interest expense, to $1.2 million for the three months ended March 31, 2003 from $1.6 million for the same period ended March 31, 2002, a 25% decrease.

 

The Company’s net interest margin was 3.71% for the three months ended March 31, 2003 and 3.59% a year earlier.  The yield on average earning assets decreased to 5.87% for the three months ended March 31, 2003 from 6.42% for the same period ended March 31, 2002, a 55 basis point decline.  This decrease was offset by a corresponding decrease in the cost of funds to 2.52% from 3.52% paid for the same period ended March 31, 2002, a 100 basis point decline. These decreases were reflective of  the declining rate environment throughout 2002, with the low rates continuing into 2003.

 

PROVISION FOR LOAN LOSSES

 

The provision for loan losses remained constant at $30,000 in the first quarter of 2003 compared to the same period in 2002. As of March 31, 2003, the allowance for loan losses totaled $1.2 million, or 1.05% of total loans, which is a slight decrease from 1.06% as of December 31, 2002.  Nonaccrual loans decreased from $364,000 at December 31, 2002 to $170,000 at March 31, 2003. Nonperforming loans, including nonaccrual loans, decreased $490,000 to $631,000 over the same period.

 

The amounts of the provision and allowance for loan losses are influenced by current economic conditions, actual loss experience, industry trends and other factors, including real estate values in the Company’s market area and management’s assessment of current collection risks within the loan portfolio. Along with other financial institutions, management shares a concern for the possible continued weak economy for the remainder of 2003. Should the economic climate continue to deteriorate, borrowers may experience difficulty, and the level of non-performing loans, charge- offs, and delinquencies could rise and require increases in the provision. The allowance for loan losses represents management’s estimate of probable incurred losses based on information available as of the date of the financial statements.  The allowance for loan losses is based on management’s evaluation of the collectibility of the loan portfolio, including past loan loss experience, known and inherent risks in the nature and volume of the portfolio,

 

12

 

information about specific borrower situations and estimated collateral values, and economic conditions.

 

Management has concluded that the allowance for loan losses is adequate at March  31, 2003. However, there can be no assurance that the allowance for loan losses will be adequate to cover all losses.

 

NONINTEREST INCOME

 

The Company’s noninterest income totaled $626,000 for the three months ended March 31, 2003 compared to $524,000 for the same period in 2002, an increase of $102,000 or 19.5%. The increase in noninterest income was primarily due to increased mortgage refinancing activity in the low rate environment. Gains on loan sales to the secondary market increased $160,000 to $220,000 in 2003 compared to 2002. Service charges on deposit accounts increased modestly by $6,000, or 3.3%, to $189,000. Trust and farm management fee income remained constant at $114,000 in 2003 compared to the same period in 2002.  Other income decreased $64,000 to $103,000, largely due to a decrease in income related to bank owned life insurance proceeds.

 

NONINTEREST EXPENSE

 

The Company’s non-interest expense was $1.8 and $1.6 million for the three months ended March 31, 2003 and 2002.  Salaries and benefits increased $4,000, or .4%, to $967,000.  Increases in occupancy and equipment expense of $26,000 and other expenses of $139,000 were offset to some extent by decreases in professional fees of $23,000, data processing expense of $3,000, and advertising expense of $7,000. The increase in occupancy and equipment expenses was due primarily to increased depreciation on capital expenditures related to the renovation of the main banking facility. Increases in other expenses resulted from increased mortgage banking expenses of $35,000, an increase in other real estate owned expense of $14,000, losses on sale of other real estate and repossessed autos of $32,000, an increase in director life insurance expense of $18,000, and other expenses related to index powered certificates of deposits of $12,000.

 

LIQUIDITY AND CAPITAL RESOURCES

 

The Company’s primary sources of funds are deposits, repurchase agreements, and proceeds from principal and interest payments on loans and securities.  While maturities and scheduled amortization of loans and securities and calls of securities are predictable sources of funds, deposit flows and mortgage prepayments are greatly influenced by general interest rates, economic conditions, and competition.  The Company generally manages the pricing of its deposits to be competitive and to increase core deposit relationships.

 

Liquidity management is both a daily and long-term responsibility of management.  The Company adjusts its investments in liquid assets based upon management’s assessment of  (i) expected loan demand, (ii) expected deposit flows, (iii) yields available on interest-earning

 

13

 

deposits and securities, and (iv) the objectives of its asset/liability management program.  Excess liquid assets are invested generally in interest-earning overnight deposits and short- and intermediate-term U.S. government and agency obligations.

 

The Company’s most liquid assets are cash and short-term investments.  The levels of these assets are dependent on the Company’s operating, financing, lending, and investing activities during any given year.  At March 31, 2003, cash and short-term investments totaled $15.9 million.  The Company has other sources of liquidity if a need for additional funds arises, including securities maturing within one year and the repayment of loans.  The Company may also utilize the sale of securities available-for-sale, federal funds lines of credit from correspondent banks, and borrowings from the Federal Home Loan Bank of Chicago and Bank One.

 

The following table discloses contractual obligations and commercial commitments of the Company as of March 31, 2003:

 

		Total				Less Than 1 Year			1 – 3 Years			4 – 5 Years			After 5 Years
Federal funds purchased		$	18,900			$	18,900		$	—		$	—		$	—
Securities sold under agreements to repurchase		1,071				1,071			—			—			—
Note payable		177				177			—			—			—
		$		20,148		$	20,148		$	—		$	—		$	—

 

		Total Amounts Committed				Less Than 1 Year			1 – 3 Years			4 – 5 Years			Over 5 Years
Lines of credit(1)		$	15,754			$	7,615		$	845		$	1,213		$	6,081
Standby letters of credit(1)		190				190			—			—			—
		$		15,944		$	7,805		$	845		$	1,213		$	6,081

 

(1)  Represents amounts committed to customers.

 

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IMPACT OF INFLATION AND CHANGING PRICES

 

The financial statements and related data presented herein have been prepared in accordance with accounting principles generally accepted in the United States of America, which require the measurement of financial position and operating results in terms of historical dollars without considering changes in the relative purchasing power of money over time due to inflation.  The primary impact of inflation on the operations of the Company is reflected in increased operating costs.  Unlike most industrial companies, virtually all of the assets and liabilities of a financial institution are monetary in nature.  As a result, interest rates, generally, have a more significant impact on a financial institution’s performance than does inflation.  Interest rates do not necessarily move in the same direction or to the same extent as the prices of goods and services.

 

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---

 

SAFE HARBOR STATEMENT

 

This document (including information incorporated by reference) contains, and future oral and written statements of the Company and its management may contain, forward-looking statements, within the meaning of such term in the Private Securities Litigation Reform Act of 1995, with respect to the financial condition, results of operations, plans, objectives, future performance and business of the Company.  Forward-looking statements, which may be based upon beliefs, expectations and assumptions of the Company’s management and on information currently available to management, are generally identifiable by the use of words such as “believe,” “expect,” “anticipate,” “plan,” “intend,” “estimate,” “may,” “will,” “would,” “could,” “should” or other similar expressions.  Additionally, all statements in this document, including forward-looking statements, speak only as of the date they are made, and the Company undertakes no obligation to update any statement in light of new information or future events.

 

The Company’s ability to predict results or the actual effect of future plans or strategies is inherently uncertain.  Factors which could have a material adverse effect on the operations and future prospects of the Company and its subsidiaries include, but are not limited to, the following:

 

•                                        The strength of the United States economy in general and the strength of the local economies in which the Company conducts its operations which may be less favorable than expected and may result in, among other things, a deterioration in the credit quality and value of the Company’s assets.

 

•                                        The economic impact of past and any future terrorist attacks, acts of war or threats thereof and the response of the United States to any such threats and attacks.

 

•                                        The effects of, and changes in, federal, state and local laws, regulations and policies affecting banking, securities, insurance and monetary and financial matters.

 

•                                        The effects of changes in interest rates (including the effects of changes in the rate of prepayments of the Company’s assets) and the policies of the Board of Governors of the Federal Reserve System.

 

•                                        The ability of the Company to compete with other financial institutions as effectively as the Company currently intends due to increases in competitive pressures in the financial services sector.

 

•                                        The inability of the Company to obtain new customers and to retain existing customers.

 

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•                                        The timely development and acceptance of products and services, including products and services offered through alternative delivery channels such as the Internet.

 

•                                        Technological changes implemented by the Company and by other parties, including third party vendors, which may be more difficult or more expensive than anticipated or which may have unforeseen consequences to the Company and its customers.

 

•                                        The ability of the Company to develop and maintain secure and reliable electronic systems.

 

•                                        The ability of the Company to retain key executives and employees and the difficulty that the Company may experience in replacing key executives and employees in an effective manner.

 

•                                        Consumer spending and saving habits which may change in a manner that affects the Company’s business adversely.

 

•                                        Business combinations and the integration of acquired businesses which may be more difficult or expensive than expected.

 

•                                        The costs, effects and outcomes of existing or future litigation.

 

•                                        Changes in accounting policies and practices, as may be adopted by state and federal regulatory agencies and the Financial Accounting Standards Board.

 

•                                        The ability of the Company to manage the risks associated with the foregoing as well as anticipated.

 

These risks and uncertainties should be considered in evaluating forward-looking statements and undue reliance should not be placed on such statements.  Additional information concerning the Company and its business, including other factors that could materially affect the Company’s financial results, is included in the Company’s filings with the Securities and Exchange Commission.

 

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FIRST OTTAWA BANCSHARES, INC. AND SUBSIDIARIES

QUANITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

ITEM 3:   QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

The Company’s overall interest rate sensitivity is demonstrated by net income analysis and “Gap” analysis.  Net income analysis measures the change in net income in the event of hypothetical changes in interest rates.  This analysis assesses the risk of change in net income in the event of sudden and sustained 2.0% increases and decreases in market interest rates.  The tables below present the Company’s projected changes in annualized net income for the various rate shock levels at March 31, 2003 and March 31, 2002.

 

		2003
		Amount			Net Income Change			Change
		(Dollars in Thousands)
+200 bp		$	2,243		$	(138	)	(5.8	)%
Base		2,381			—			—
–200 bp		2,195			(186		)	(7.8	)%

 

		2003
		Amount			Net Income Change			Change
		(Dollars in Thousands)
+200 bp		$	2,126		$	(311	)	(12.8	)%
Base		2,437			—			—
–200 bp		2,671			234			9.6	%

 

As shown above, at March 31, 2003, the effect of an immediate 200 basis point increase in interest rates would decrease the Company’s net income by 5.8% or approximately $138,000.  The effect of an immediate 200 basis point decrease in rates would increase the Company’s net interest income by 7.8% or approximately $186,000. However, the Company does not anticipate market interest rates decreasing an additional 200 basis points, so these results may not be acheivable.  Net income sensitivity has decreased since March 31, 2002.

 

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ITEM 4:   CONTROLS AND PROCEDURES

 

Based upon an evaluation within the 90 days prior to the filing date of this report, the Company’s Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures are effective.  There have been no significant changes in the Company’s internal controls or in other factors that could significantly affect the Company’s internal controls subsequent to the date of the evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.

 

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PART II

 

ITEM 1.		LEGAL PROCEEDINGS
		There are no material pending legal proceedings to which the Company or its subsidiaries are a party other than ordinary routine litigation incidental to their respective businesses.
ITEM 2.		CHANGES IN SECURITIES
		None
ITEM 3.		DEFAULTS UPON SENIOR SECURITIES
		None
ITEM 4.		SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
		None
ITEM 5.		OTHER INFORMATION
		None
ITEM 6.		EXHIBITS AND REPORTS ON FORM 8-K
		Exhibits
		99.1         Certificate of Chief Executive Officer pursuant to The Sarbanes-Oxley Act of 2002
		99.2         Certificate of Principal Financial Officer pursuant to The Sarbanes-Oxley Act of 2002
		Reports on Form 8-K
		A report on Form 8-K was filed on April 25, 2003 pursuant to Item 12, which reported, in the form of a press release, the Corporation’s financial results for the quarter ended March 31, 2003.
		A report on Form 8-K was filed on May 1, 2003 under Item 4, which reported the Company’s change in independent public accountants.

 

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SIGNATURES

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

 

	FIRST OTTAWA BANCSHARES, INC.
	(Registrant)
Date: May 15, 2003	/S/ JOACHIM J. BROWN
	Joachim J. Brown
	President (Principal Executive Officer)
	/S/ DONALD J. HARRIS
	Donald J. Harris
	Executive Vice President, Cashier, and Trust Officer
	(Principal Financial Officer)

 

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I,  Joachim J. Brown, Principal Executive Officer of the Company, certify that:
1.		I have reviewed this quarterly report on Form 10-Q of First Ottawa Bancshares, Inc.;
2.		Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report;
3.		Based on my knowledge, the financial statements, and other financial information included in the Report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report;
4.		The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
		(a)		designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared;
		(b)		evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the “Evaluation Date”); and
		(c)		presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;
5.		The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent function):
		(a)		all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant’s ability to record, process, summarize and report financial data and have identified for the registrant’s auditors any material weaknesses in internal controls; and
		(b)		any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls; and
6.		The registrant’s other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to date of their evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.

 

 

Date:  May 15, 2003
		/s/ Joachim J. Brown
		Joachim J. Brown
		Principal Executive Officer

 

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I , Donald J. Harris, Principal Financial Officer of the Company, certify that:
1.		I have reviewed this quarterly report on Form 10-Q of First Ottawa Bancshares, Inc.;
2.		Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report;
3.		Based on my knowledge, the financial statements, and other financial information included in the Report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report;
4.		The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
		(a)		designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared;
		(b)		evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the “Evaluation Date”); and
		(c)		presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;
5.		The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent function):
		(a)		all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant’s ability to record, process, summarize and report financial data and have identified for the registrant’s auditors any material weaknesses in internal controls; and
		(b)		any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls; and
6.		The registrant’s other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to date of their evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.

 

Date:  May 15, 2003
		/s/ Donald J. Harris
		Donald J. Harris
		Principal Financial Officer

 

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