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HCBK > SEC Filings for HCBK > Form 10-K on 28-Feb-2014All Recent SEC Filings

Show all filings for HUDSON CITY BANCORP INC

Form 10-K for HUDSON CITY BANCORP INC


28-Feb-2014

Annual Report


Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations

This discussion and analysis should be read in conjunction with Hudson City Bancorp's Consolidated Financial Statements and accompanying Notes to Consolidated Financial Statements in Item 8, and the other statistical data provided elsewhere in this document.

Executive Summary

Financial Condition and Results of Operations

During 2013, we continued to focus on our consumer-oriented business model through the origination of one- to four-family mortgage loans. We have traditionally funded this loan production with customer deposits and borrowings. Despite an increase in market interest rates in 2013, market interest rates remained at historically low levels during 2013 and, as a result, we continued to reduce the size of our balance sheet. Our assets decreased by 4.9% to $38.61 billion at December 31, 2013 from $40.60 billion at December 31, 2012, primarily due to elevated repayments of mortgage-related assets in this low interest rate environment.

Our results of operations depend primarily on net interest income, which, in part, is a direct result of the market interest rate environment. Net interest income is the difference between the interest income we earn on our interest-earning assets, primarily mortgage loans, mortgage-backed securities and investment securities, and the interest we pay on our interest-bearing liabilities, primarily time deposits, interest-bearing transaction accounts and borrowed funds. Net interest income is affected by the shape of the market yield curve, the timing of the placement and repricing of interest-earning assets and interest-bearing liabilities on our balance sheet, the prepayment rate on our mortgage-related assets and the puts of our borrowings. Our results of operations may also be affected significantly by general and local economic and competitive conditions, particularly those with respect to changes in market interest rates, credit quality, government policies and actions of regulatory authorities. Our results are also affected by the market price of our stock, as the expense of our employee stock ownership plan is related to the current price of our common stock.

The FOMC noted that economic activity has been expanding at a moderate pace. The FOMC noted that some indicators of labor market conditions have shown further improvement in recent months, but the unemployment rate, which has declined, remains elevated. Household spending and business fixed investment advanced, while the housing sector has slowed in recent months. The national unemployment rate decreased to 6.7% in December 2013 from 7.8% in December 2012. The FOMC decided to maintain the overnight lending target rate at zero to 0.25% during the fourth quarter of 2013 and stated that exceptionally low levels for the federal funds rate will be appropriate for at least as long as the unemployment rate remains above 6.5%. The FOMC anticipates that it likely will be appropriate to maintain the current federal funds rate well past the time that the unemployment rate declines below 6.5%, especially if projected inflation continues to run below the FOMC's 2% longer-run goal.

The FOMC decided to reduce the rate of purchases of agency mortgage-backed securities to $30.0 billion per month from $35.0 billion per month and to reduce purchases of longer-term Treasury securities to $35.0 billion per month from $40.0 billion per month. However, the FOMC noted that the additional asset purchases even at a reduced pace will still increase their holdings of longer-term securities. The FOMC also noted that its sizeable and increasing holdings of longer-term securities should maintain downward pressure on longer-term interest rates, support mortgage markets, promote a stronger economy and help to ensure that inflation, over time, is at the rate most consistent with the FOMC's dual mandate regarding both inflation and unemployment.


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Net interest income decreased $241.4 million, or 28.3%, to $612.5 million for 2013 as compared to $853.9 million for 2012. Our net interest rate spread decreased 53 basis points to 1.32% for 2013 as compared to 1.85% for 2012. Our net interest margin decreased 47 basis points to 1.59% for 2013 as compared to 2.06% for 2012.

The decreases in our interest rate spread and net interest margin for 2013 were primarily due to repayments of higher yielding assets due to the low interest rate environment and increases for those same respective periods in the average balance of Federal funds and other overnight deposits. The average yield earned on Federal funds and other overnight deposits was 0.25% in 2013. The increase in the average balance of Federal funds and other overnight deposits was due primarily to the elevated levels of repayments on mortgage-related assets and the lack of attractive reinvestment opportunities due to low market interest rates as available short term reinvestment opportunities continue to carry low yields, and medium and longer term opportunities are creating more significant duration risk at relatively low yields despite the recent increase in rates.

Mortgage-related assets represented 89.8% of our average interest-earning assets during 2013. Market interest rates on mortgage-related assets remained at near-historic lows primarily due to the FRB's program to purchase mortgage-backed securities to keep mortgage rates low and provide stimulus to the housing markets. Given the current market environment and our concerns about taking on additional interest rate risk, we expect to continue to reduce the size of our balance sheet in the near term.

The provision for loan losses amounted to $36.5 million for 2013 as compared to $95.0 million for 2012. The decrease in our provision for loan losses was due primarily to improving economic conditions, increasing home prices and unemployment rates, a decrease in the size of the loan portfolio, a decrease in net charge-offs and a decrease in the amount of total delinquent loans. However, we cannot assure you that the economy or home prices will continue to improve, that delinquent loans will continue to decrease or that our loss experience will not worsen. Early stage loan delinquencies (defined as loans that are 30 to 89 days delinquent) decreased $159.7 million to $473.4 million at December 31, 2013 from $633.1 million at December 31, 2012. Non-performing loans, defined as non-accrual loans and accruing loans delinquent 90 days or more, amounted to $1.05 billion at December 31, 2013 compared with $1.16 billion at December 31, 2012. The ratio of non-performing loans to total loans was 4.35% at December 31, 2013 compared with 4.29% at December 31, 2012. The increase in this ratio was due primarily to a $2.98 billion decrease in total loans at December 31, 2013 as compared to December 31, 2012. Notwithstanding the decrease in non-performing loans, the foreclosure process and the time to complete a foreclosure, while improving, continues to be prolonged, especially in New York and New Jersey where 68% of our non-performing loans are located at December 31, 2013 as we continue to experience a time frame to repayment or foreclosure of up to 48 months from the initial non-performing period. This protracted foreclosure process delays our ability to resolve non-performing loans through the sale of the underlying collateral and our ability to maximize any recoveries. However, for loans that have been in the foreclosure process for over 48 months, we are beginning to see an increased volume of completed foreclosures.

Total non-interest income was $39.1 million for 2013 as compared to $11.5 million for 2012. Included in non-interest income for 2013 was a $7.2 million gain on the sale of corporate bonds with an amortized cost of $405.7 million and a $21.7 million gain on the sale of $316.2 million of mortgage backed securities. The remainder of non-interest income is primarily made up of service fees and charges on deposit and loan accounts. There were no security sales for the year ended December 31, 2012.

Total non-interest expense amounted to $309.8 million for the year ended December 31, 2013 as compared to $356.6 million for the year ended December 31, 2012. This decrease was due to a $50.2 million decrease in Federal deposit insurance expense and a $2.3 million decrease in other non-interest expense partially offset by a $3.1 million increase in compensation and benefits and a $2.5 million increase in net occupancy costs.


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Loans decreased $2.95 billion to $23.94 billion at December 31, 2013 from $26.89 billion at December 31, 2012. Our loan production was $3.59 billion for 2013 offset by $6.38 billion in principal repayments. Loan production declined during 2013 which reflects our low appetite for adding long-term fixed-rate mortgage loans in the current low market interest rate environment. The decrease in net loans was also due to continued elevated levels of refinancing activity caused by low market interest rates.

Total mortgage-backed securities decreased $2.07 billion to $8.95 billion at December 31, 2013 from $11.02 billion at December 31, 2012. The decrease in mortgage-backed securities reflected continued elevated levels of repayments during 2013. Repayments amounted to $3.21 billion for 2013 as compared to $3.69 billion for 2012. Repayments were partially offset by purchases of $1.67 billion of mortgage-backed securities issued by GSEs during 2013. Additionally, there were sales of mortgage-backed securities with an amortized cost of $316.2 million during 2013

Investment securities decreased $130.7 million to $336.3 million at December 31, 2013. The decrease was due to the sale of corporate bonds with an amortized cost of $405.7 million, partially offset by the purchase of $298.0 million of GSE securities.

Total deposits decreased $2.01 billion, or 8.5%, to $21.47 billion at December 31, 2013 from $23.48 billion at December 31, 2012 due to our maintenance of lower deposit rates to manage deposit reductions during this time of limited investment opportunities.

Borrowings amounted to $12.18 billion at both December 31, 2013 and December 31, 2012. There are no scheduled maturities of borrowings during 2014.

On August 27, 2012, the Company entered into the Merger Agreement with M&T and WTC, pursuant to which the Company will merge with and into WTC, with WTC continuing as the surviving entity. As part of the Merger, the Bank will merge with and into Manufacturers and Traders Trust Company. Subject to the terms and conditions of the Merger Agreement, in the Merger, Hudson City Bancorp shareholders will have the right to receive with respect to each of their shares of common stock of the Company, at their election (but subject to proration and adjustment procedures), 0.08403 of a share of M&T common stock, or cash having a value equal to the product of 0.08403 multiplied by the average closing price of the M&T common stock for the ten days immediately prior to the completion of the Merger. The Merger Agreement also provides that at the closing of the Merger, 40% of the outstanding shares of Hudson City Bancorp common stock will be converted into the right to receive cash and the remainder of the outstanding shares of Hudson City Bancorp common stock will be converted into the right to receive shares of M&T Common Stock.

On April 12, 2013, M&T and the Company announced that additional time would be required to obtain a regulatory determination on the applications necessary to complete the proposed Merger. On April 13, 2013, M&T and the Company entered into Amendment No. 1 to the Merger Agreement. Amendment No. 1, among other things, extended the date after which either party may elect to terminate the Merger Agreement from August 27, 2013 to January 31, 2014. On December 17, 2013, M&T and the Company announced that they entered into Amendment No. 2 to the Merger Agreement. Amendment No. 2 further extends the date after which either party may terminate the Merger Agreement if the Merger has not yet been completed from January 31, 2014 to December 31, 2014, and provides that the Company may terminate the Merger Agreement at any time if it reasonably determines that M&T is unlikely to be able to obtain the requisite regulatory approvals of the Merger to permit the closing to occur on or prior to December 31, 2014. Amendment No. 2 also permits the Company to take certain interim actions, including with respect to our conduct of business, implementation of our Strategic Plan, retention incentives and certain other matters with respect to our personnel, prior to the completion of the Merger. While Amendment No. 2 extends the date after which either party may elect to terminate the Merger Agreement from January 31, 2014 to December 31, 2014, there can be no assurances that the Merger will be completed by that date or that the Company will not exercise its right to terminate the Merger Agreement in accordance with its terms.


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Amendment No. 2 allows the Company to pursue its Strategic Plan initiatives during the pendency of the Merger without requiring the Company to obtain prior approval from M&T. The Strategic Plan includes initiatives such as secondary mortgage market operations, commercial real estate lending, the introduction of small business banking products and developing a more robust suite of consumer banking products. Many of the initiatives require significant lead time for full implementation and roll out to our customers. We expect commencement of the roll out of the prioritized initiatives during the second half of 2014. Accordingly, we expect to incur start-up expenses for our prioritized initiatives throughout 2014, while we do not expect to realize revenues from these efforts until the second half of 2014.

As part of our Strategic Plan, we are continuing to explore ways to reduce our interest rate risk while strengthening our balance sheet, which may include a further restructuring of our balance sheet during 2014. The Company previously completed a series of restructuring transactions in 2011 that reduced higher-cost structured borrowings on the Company's balance sheet. Management is currently considering a variety of different restructuring alternatives, including whether to restructure all or various portions of our borrowed funds and various alternatives for replacement funding. No decision has been made at this time regarding the timing, structure and scope of any restructuring transaction. Decisions regarding any restructuring transaction are dependent upon, among other things, market interest rates, overall economic conditions and the status of the Merger. However, any such transaction will likely not occur before the second half of 2014. Similar to the 2011 restructuring transactions, we expect a restructuring to result in a net loss and reduction of stockholder equity, though we also expect an improvement in net interest margin and future earnings prospects. Any restructuring will focus on the prospects for long-term overall earnings stability and growth. Any restructuring will likely reduce our excess cash position, but will not adversely affect the liquidity we need to operate in a safe and sound manner.

The Bank is currently subject to the Bank MOU. In accordance with the Bank MOU, the Bank has adopted and has implemented enhanced operating policies and procedures that are intended to continue to (a) reduce our level of interest rate risk, (b) reduce our funding concentration, (c) diversify our funding sources, (d) enhance our liquidity position, (e) monitor and manage loan modifications and (f) maintain our capital position in accordance with our existing capital plan. In addition, we developed the Strategic Plan which establishes objectives for the Bank's overall risk profile, earnings performance, growth and balance sheet mix and to enhance our enterprise risk management program.

The Company is currently subject to the Company MOU. In accordance with the Company MOU, the Company must, among other things support the Bank's compliance with the Bank MOU. The Company MOU also requires the Company to: (a) obtain approval from the FRB prior to receiving a capital distribution from the Bank or declaring a dividend to shareholders and (b) obtain approval from the FRB prior to repurchasing or redeeming any Company stock or incurring any debt with a maturity of greater than one year. In accordance with the Company MOU, the Company submitted a comprehensive Capital Plan and a comprehensive Earnings Plan to the FRB. These agreements will remain in effect until modified or terminated by the OCC (with respect to the Bank MOU) and the FRB (with respect to the Company MOU).

Comparison of Financial Condition at December 31, 2013 and December 31, 2012

Total assets decreased $1.99 billion, or 4.9%, to $38.61 billion at December 31, 2013 from $40.60 billion at December 31, 2012. The decrease in total assets reflected a $2.95 billion decrease in net loans, a $2.07 billion decrease in mortgage-backed securities and a $315.4 million decrease in other assets, partially offset by a $3.50 billion increase in cash and cash equivalents.

Our net loans decreased $2.95 billion to $23.94 billion at December 31, 2013 as compared to $26.89 billion at December 31, 2012. The decrease in loans primarily reflects reduced levels of loan production (loan purchases and originations) as well as elevated levels of loan repayments during 2013 as a result of continued low market


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interest rates. Historically our focus has been on loan portfolio growth through the origination of one- to four-family first mortgage loans in New Jersey, New York, Pennsylvania and Connecticut and, to a lesser extent, the purchases of mortgage loans. During 2013, we originated $3.50 billion and purchased $96.9 million of loans, compared to originations of $5.04 billion and purchases of $28.7 million for 2012. The originations and purchases of loans were offset by principal repayments of $6.38 billion in 2013, as compared to $7.13 billion for 2012. The decrease in loan originations during 2013 reflects our low appetite for adding long-term fixed-rate mortgage loans in the current low market interest rate environment. The decrease in net loans was also due to continued elevated levels of refinancing activity caused by low market interest rates.

Our first mortgage loan production during 2013 was substantially all in one- to four-family mortgage loans. Approximately 75% of mortgage loan originations for 2013 were variable-rate loans as compared to approximately 65% for 2012. All of the mortgage loans purchased for the year ended December 31, 2013 were fixed-rate mortgage loans. Fixed-rate mortgage loans accounted for 55.4% of our first mortgage loan portfolio at December 31, 2013 and 61.1% at December 31, 2012.

Our ALL amounted to $276.1 million at December 31, 2013 and $302.3 million at December 31, 2012. Non-performing loans amounted to $1.05 billion or 4.35% of total loans at December 31, 2013 as compared to $1.16 billion or 4.29% of total loans at December 31, 2012.

Total mortgage-backed securities decreased $2.07 billion to $8.95 billion at December 31, 2013 from $11.02 billion at December 31, 2012. The decrease in mortgage-backed securities reflected continued elevated levels of repayments during 2013. Repayments amounted to $3.21 billion for 2013 as compared to $3.69 billion for 2012. Repayments were partially offset by purchases of $1.67 billion of mortgage-backed securities issued by GSEs during 2013. Additionally, there were sales of mortgage-backed securities with an amortized cost of $316.2 million during 2013.

Total investment securities decreased $130.7 million to $336.3 million at December 31, 2013. The decrease was due to the sale of corporate bonds with an amortized cost of $405.7 million, partially offset by the purchase of $298.0 million of investment securities issued by GSEs.

FHLB stock decreased $9.4 million to $347.1 million at December 31, 2013 as compared to $356.5 million at December 31, 2012. The decrease in the balance of FHLB stock was primarily due to mandatory redemptions of stock due to a decrease in the amount of borrowings outstanding with the FHLB.

Total cash and cash equivalents increased $3.50 billion to $4.32 billion at December 30, 2013 as compared to $828.0 million at December 31, 2012. This increase is primarily due to continued elevated levels of repayments on mortgage-related assets and the lack of attractive reinvestment opportunities in the current low interest rate environment as available short term reinvestment opportunities continue to carry low yields, and medium and longer term opportunities are creating more significant duration risk at relatively low yields despite the recent increase in rates. In addition, during 2013 we received additional cash from previously accrued tax refunds of $364.9 million. Other assets decreased $315.4 million to $364.5 million at December 31, 2013 from $679.9 million at December 31, 2012 due primarily to the receipt of the accrued tax refund noted above

Total liabilities decreased $2.04 billion, or 5.7%, to $33.86 billion at December 31, 2013 from $35.90 billion at December 31, 2012 due entirely to a decrease in deposits. The decrease in deposits reflects our decision to maintain lower deposit rates allowing us to manage deposit reductions at a time when we are experiencing excess liquidity from prepayment activity on mortgage-related assets and limited investment opportunities with attractive yields.

Total deposits decreased $2.01 billion, or 8.6%, to $21.47 billion at December 31, 2013 as compared to $23.48 billion at December 31, 2012. The decrease in total deposits reflected a $1.45 billion decrease in our money market accounts, a $547.1 million decrease in our time deposit accounts, and a $91.2 million decrease in our


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interest-bearing transaction accounts, partially offset by an increase in savings accounts of $61.0 million. The decrease in our money market and time deposit accounts is primarily due to maintaining lower deposit rates to manage deposit reductions while we experience excess liquidity from prepayment activity and limited investment opportunities with attractive yields. We had 135 branches at both December 31, 2013 and 2012.

Borrowings amounted to $12.18 billion at both December 31, 2013 and December 31, 2012.

At December 31, 2013, we had $6.4 billion of borrowed funds with put dates within one year, including $4.0 billion that can be put back to the Company quarterly. If interest rates were to decrease, or remain consistent with current rates, we believe these borrowings would probably not be put back and our average cost of existing borrowings would not decrease even as market interest rates decrease. Conversely, if interest rates increase above the market interest rate for similar borrowings, we believe these borrowings would likely be put back at their next put date and our cost to replace these borrowings would increase. However, we believe, given current market conditions, that the likelihood that a significant portion of these borrowings would be put back will not increase substantially unless interest rates were to increase by at least 250 basis points.

Other liabilities decreased $20.2 million to $217.4 million at December 31, 2013 from $237.6 million at December 31, 2012. The decrease is due to a $32.3 million decrease in accrued expenses. The decrease in accrued expenses is primarily the result of a decrease in accrued FDIC premiums of $6.1 million and a $23.6 million decrease in the postretirement benefit plan liability.

Total shareholders' equity increased $42.8 million to $4.74 billion at December 31, 2013 as compared to $4.70 billion at December 31, 2012. The increase was primarily due to net income of $185.2 million for the year ended December 31, 2013, partially offset by cash dividends paid to common shareholders of $99.5 million and a $63.7 million change in accumulated other comprehensive income.

Accumulated other comprehensive income amounted to $6.3 million at December 31, 2013 as compared to accumulated other comprehensive income of $70.0 million at December 31, 2012. The resulting $63.7 million change in accumulated other comprehensive income primarily reflects a decrease in the net unrealized gain on securities available for sale at December 31, 2013 as compared to December 31, 2012, due primarily to an increase in market interest rates during 2013 as well as a decrease in the size of our available for sale securities portfolio. The change in the net unrealized gain on securities available for sale was partially offset by a $25.1 million decrease in the after-tax accumulated other comprehensive loss related to the funded status of our employee benefit plans. This decrease was due to an increase in the discount rate which resulted in a lower benefit obligation at December 31, 2013.

As of December 31, 2013, there remained 50,123,550 shares that may be purchased under our existing stock repurchase programs. We did not repurchase any shares of our common stock during 2013 pursuant to our repurchase programs. Pursuant to the Company MOU, any future share repurchases must be approved by the FRB. In addition, pursuant to the terms of the Merger Agreement, we may not repurchase shares of Hudson City Bancorp common stock without the consent of M&T. At December 31, 2013, our capital ratios were in excess of the applicable regulatory requirements to be considered well-capitalized. See "Liquidity and Capital Resources."

At December 31, 2013, our shareholders' equity to asset ratio was 12.28% compared with 11.58% at December 31, 2012. The ratio of average shareholders' equity to average assets was 11.91% for the year ended December 31, 2013 as compared to 10.89% for the year ended December 31, 2012. Our book value per share, using the period-end number of outstanding shares, less purchased but unallocated employee stock ownership plan shares and less purchased but unvested recognition and retention plan shares, was $9.52 at December 31, 2013 and $9.46 at December 31, 2012. Our tangible book value per share, calculated by deducting goodwill and the core deposit intangible from shareholders' equity, was $9.21 as of December 31, 2013 and $9.15 at December 31, 2012.


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Analysis of Net Interest Income

Net interest income represents the difference between the interest income we earn on our interest-earning assets, such as mortgage loans, mortgage-backed securities and investment securities, and the expense we pay on interest-bearing liabilities, such as time deposits and borrowed funds. Net interest income depends on our volume of interest-earning assets and interest-bearing liabilities and the interest rates we earned or paid on them.


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Average Balance Sheet. The following table presents certain information regarding our financial condition and net interest income for 2013, 2012 and 2011. The table presents the average yield on interest-earning assets and the average cost of interest-bearing liabilities for the periods indicated. We derived the yields and costs by dividing income or expense by the average balance of interest-earning assets or interest-bearing liabilities, respectively, for the periods shown. We derived average balances from daily balances over the periods indicated. Interest income includes fees that we considered adjustments to yields. Yields on tax-exempt obligations were not computed on a tax equivalent basis. Non-accrual loans were included in the computation of average balances and therefore have a zero yield. The yields set . . .

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