SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 FORM 10-K (Mark One) [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 1999 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM TO COMMISSION FILE NUMBER 0-6835 IRWIN FINANCIAL CORPORATION (Exact Name of Corporation as Specified in its Charter) INDIANA 35-1286807 (State or Other Jurisdiction of (I.R.S. Employer Incorporation or Organization) Identification No.) 500 WASHINGTON STREET 47201 COLUMBUS, INDIANA (Zip Code) (Address of Principal Executive Offices) (812) 376-1020 (Corporation's Telephone Number, Including Area Code) Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: Common Shares (Title of Class) Indicate by check mark whether the Corporation: (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 Corporation was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Corporation's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [X] The aggregate market value of the voting stock held by non-affiliates of the Corporation was $155,117,904 as of March 9, 2000. As of March 9, 2000, there were outstanding 21,045,469 common shares of the Corporation. DOCUMENTS INCORPORATED BY REFERENCE SELECTED PORTIONS OF THE FOLLOWING DOCUMENTS PART OF FORM 10-K INTO WHICH INCORPORATED -------------------------------------------- ----------------------------------------- Definitive Proxy Statement for Annual Meeting of Shareholders to be held April 27, 2000 Part III Exhibit Index on Pages 64 through 66 Total Pages in This Filing: 177 -------------------------------------------------------------------------------- -------------------------------------------------------------------------------- 2 FORM 10-K TABLE OF CONTENTS Part I Item 1 -- Business........................................ 1 Item 2 -- Properties...................................... 5 Item 3 -- Legal Proceedings............................... 6 Item 4 -- Submission of Matters to a Vote of Security Holders................................................ 6 Part II Item 5 -- Market for Corporation's Common Equity and Related Security Holder Matters................. 7 Item 6 -- Selected Financial Data......................... 8 Item 7 -- Management's Discussion and Analysis of Financial Condition and Results of Operations................................... 9 Item 8 -- Financial Statements and Supplementary Data..... 38 Item 9 -- Changes in and Disagreements with Accountants on Accounting and Financial Disclosure................................... 62 Part III Item 10 -- Directors and Executive Officers of the Corporation............................................ 63 Item 11 -- Executive Compensation......................... 63 Item 12 -- Security Ownership of Certain Beneficial Owners and Management................................. 63 Item 13 -- Certain Relationships and Related Transactions........................................... 64 Part IV Item 14 -- Exhibits, Financial Statement Schedules and Reports on Form 8-K............................ 64 Signatures.................................................. 67 3 PART I ITEM 1. BUSINESS GENERAL Irwin Financial Corporation (the "Corporation") is a diversified financial services company organized as an Indiana bank holding company in May, 1972. The Corporation's principal subsidiaries are Irwin Mortgage Corporation ("Irwin Mortgage"), a mortgage banking company; Irwin Union Bank and Trust Company ("Irwin Union Bank"), a commercial bank; Irwin Home Equity Corporation ("Home Equity"), a consumer home equity lending company; Irwin Business Finance ("Business Finance"), an equipment leasing company; Irwin Ventures Incorporated ("Irwin Ventures"), a venture capital company; and Irwin Union Credit Insurance Corporation, a credit insurance company. The Corporation is also the sole equity shareholder of IFC Capital Trust I ("Capital Trust"), a special purpose trust. BUSINESS OF SUBSIDIARIES Irwin Mortgage, acquired in 1981, originates, purchases and services conventional or government agency backed (i.e., FHA and VA) residential mortgage loans. Most mortgages are either insured by an agency of the federal government, or in the case of a conventional mortgage, meet requirements for resale to the Federal National Mortgage Association or the Federal Home Loan Mortgage Corporation. Irwin Mortgage also engages in the non-prime first and second mortgage lending market. This market is composed of borrowers who do not qualify under the underwriting guidelines established by the government-sponsored secondary market agencies for conforming first mortgages. Irwin Mortgage sells mortgage loans to institutional and private investors but may retain servicing rights to mortgage loans that it originates or purchases from correspondents. Irwin Mortgage collects and accounts for the monthly payments on each loan serviced and pays the real estate taxes and insurance necessary to protect the integrity of the mortgage lien, for which it receives a servicing fee. Irwin Mortgage operates 107 production and satellite offices in twenty-nine states. During 1999, Irwin Mortgage established offices in Irvine, California; Schererville, Indiana; Springfield, Illinois; Ashland, Kentucky; Kalamazoo and Lansing, Michigan; Sunset Hills and Union, Missouri; Reno, Nevada; Charlotte, Creed Moor and Durham, North Carolina; Weatherford, Oklahoma; Portland, Oregon; Lancaster, Pennsylvania; Brentwood, Tennessee; Houston, Texas; Chesapeake, Virginia; and Green Bay, Wisconsin. During 1999, Irwin Mortgage closed offices in Antioch, California; Aiea, Hawaii; Anderson, Kendalville and New Albany, Indiana; Louisville, Kentucky; Towson, Maryland; Braintree, Massachusetts; Jackson, Mississippi; Las Vegas, Nevada; Charlotte and Madison, North Carolina; Broken Arrow, Oklahoma; Lake Oswego, Oregon; Wyomissing, Pennsylvania; Austin and Rockport, Texas; Suffolk, Virginia; Bellevue, Washington; and Green Bay, Wisconsin. Irwin Union Bank, organized in 1871, is a full service commercial bank offering a wide variety of services to individual, business, institutional, and governmental customers. Irwin Union Bank's services include personal and commercial checking accounts, savings and time deposit accounts, personal and business loans, credit card services, money transfer, financial counseling, property and casualty insurance agency services, trust services, securities brokerage, and safe deposit facilities. Irwin Union Bank is the largest of eleven financial institutions operating in Bartholomew County, Indiana, with eight locations throughout the county. Irwin Union Bank also has branch facilities in Greensburg (Decatur County), Carmel (Hamilton County), Avon (Hendricks County), Seymour (Jackson County -- 2), Franklin and Greenwood (Johnson County -- 2), Indianapolis (Marion County), Bloomington (Monroe County -- 3) and Shelbyville (Shelby County), Indiana. In January, 1999, Irwin Union Bank opened a loan production office in Brentwood (St. Louis), Missouri. Loan production offices established in 1999 in Kalamazoo and Grandville (Grand Rapids), Michigan became branches of the Bank in June, 1999 and January, 2000, respectively. In December, 1999, the Bank opened a branch office in Carson City, Nevada. In July, 1999, Irwin Union Bank acquired the business of Susan Wier, d/b/a Investment Partners. In January, 2000, Irwin Union Insurance, Inc., an insurance agency subsidiary of Irwin Union Bank, acquired Colvin Brokerage & Insurance Agency, Inc. In 1 4 April, 1999, Irwin Union Advisory Services, Inc., a subsidiary of Irwin Union Bank, became a registered investment advisor. Home Equity was formed in 1994 and is located in San Ramon, California. In conjunction with its affiliate Irwin Union Bank, Home Equity originates, securitizes, and services home equity loans and lines of credit. The products are marketed through direct mail, telemarketing and Internet-based solicitations in twenty-nine states. Products are also offered through the use of independent third-party brokers. Additionally, Home Equity offers a first mortgage refinance program in selected states. In January, 2000, Home Equity introduced a product offering a limited amount of credit with an expedited turnaround time called "Immediate Credit." Business Finance, headquartered in Bellevue, Washington, was organized during the second quarter of 1999 for the purpose of originating and servicing small to medium-sized equipment leases and loans. Business Finance commenced operations in January, 2000. The company originates transactions from an established national network of brokers and vendors through an e-commerce system that provides automated credit scoring, documentation and portfolio management services. Irwin Ventures, located in Columbus, Indiana, is a venture capital subsidiary formed in the third quarter of 1999 for the purpose of making investments in early stage companies in the financial services industry and related fields. In August, 1999, Irwin Ventures established a subsidiary, Irwin Ventures Incorporated-SBIC ("IVI-SBIC"). Irwin Ventures has filed an application with the Small Business Administration for a Small Business Investment Company license on behalf of IVI-SBIC. Irwin Union Credit Insurance Corporation is located in Columbus, Indiana and provides credit life insurance to consumer loan customers of Irwin Union Bank. IFC Capital Trust I ("Capital Trust"), is a statutory business trust created under the laws of Delaware. The Corporation owns all of the Common Securities of Capital Trust. Capital Trust exists for the purpose of issuing the Preferred Securities and investing the proceeds thereof in an equivalent amount of 9.25% Subordinated Debentures of the Corporation. The Subordinated Debentures will mature on March 31, 2027, which date may be (i) shortened to a date not earlier than March 31, 2002, or (ii) extended to a date not later than March 31, 2046, in each case if certain conditions are met (including, in the case of shortening the Stated Maturity, the Corporation having received prior approval of the Board of Governors of the Federal Reserve System ("Federal Reserve") to do so if then required under applicable capital guidelines or policies of the Federal Reserve). The Preferred Securities will have a preference under certain circumstances with respect to cash distributions and amounts payable on liquidation, redemption or otherwise over the Common Securities. Holders of Preferred Securities are entitled to receive preferential cumulative cash distributions, at the annual rate of 9.25% of the liquidation amount of $25 per Preferred Security accruing from the date of original issuance and payable quarterly in arrears on the last day of March, June, September and December of each year, commencing March 31, 1997. The Corporation continues to hold certain small-ticket equipment leases in its subsidiary, Irwin Leasing Corporation (the former Affiliated Capital Corp.). The leases were not part of the 1998 sale of substantially all of the assets of Affiliated Capital to DVI Financial Services, Inc. Irwin Leasing and its parent, Irwin Equipment Finance Corporation, are inactive except for the leases. In December, 1999, the Corporation applied to the Office of Thrift Supervision to establish a federal savings bank subsidiary. The federal savings bank would foster the development of branch banking capabilities in markets outside Indiana. No single part of the business of the Corporation is dependent upon a single customer or upon a very few customers and the loss of any one customer would not have a materially adverse effect upon the business of the Corporation. 2 5 COMPETITION Irwin Mortgage originates and services residential first and second mortgage loans from 107 production and satellite offices in Arizona, California, Colorado, Connecticut, Delaware, Florida, Georgia, Hawaii, Illinois, Indiana, Kentucky, Louisiana, Michigan, Minnesota, Missouri, Nevada, New Jersey, North Carolina, Ohio, Oklahoma, Oregon, Pennsylvania, Tennessee, Texas, Utah, Washington, Wisconsin and the Washington, D.C. metropolitan area, including offices in Maryland and Virginia. In each of these locations, competition for mortgage loans comes from other national, regional, local, and web-enabled mortgage banking companies as well as commercial banks, savings banks, and savings & loan associations. Irwin Mortgage purchases mortgage loans from correspondents in these and other states as well. The commercial banking business for Irwin Union Bank in the Bartholomew, Decatur, Hamilton, Hendricks, Jackson, Johnson, Marion, Monroe and Shelby County, Indiana areas is very competitive. Within these counties, in addition to the commercial banks, there are a number of savings banks, savings & loan associations and credit unions competing for deposits and loans. Irwin Union Bank also competes for the provision of banking services with banks located elsewhere in Indiana, primarily in south central Indiana, and with a number of nonbank companies located throughout the United States, including insurance companies, retailers, brokerage firms, companies offering money market accounts, and national credit card companies. As of December 31, 1999, Irwin Union Bank ranked first among commercial banking and savings bank institutions on the basis of Bartholomew County deposits. In addition to the above mentioned counties, Irwin Union Bank derives its business from several other counties in south central Indiana. Irwin Union Bank's new branch offices in Kalamazoo and Grandville (Grand Rapids), Michigan and Carson City, Nevada, and its loan production office in Brentwood (St. Louis), Missouri experience competition from existing institutions in those areas. Home Equity's primary competitors for home equity loans and lines of credit include banks, thrifts, credit unions, and other home equity lenders with operations that are either national, regional, local, or web-enabled in scope. Such competitors may be headquartered anywhere in the country. The primary competitors of Business Finance include other funding sources that are independent or affiliated with banks or large equipment leasing companies that operate on a national or regional basis. The primary competitors of Irwin Ventures are other venture capital firms and individuals who invest in start-up companies. Such companies and individuals may be located anywhere in the country. SUPERVISION AND REGULATION The Corporation is a bank holding company within the meaning of the Bank Holding Company Act of 1956, as amended, and is registered with, regulated and examined by the Board of Governors of the Federal Reserve System (the "Board of Governors"). Subject to certain exceptions, a bank holding company is prohibited from acquiring direct or indirect ownership or control of more than five percent of the voting shares of any company which is not a bank and from engaging directly or indirectly in activities unrelated to banking or managing or controlling banks. One exception to this prohibition permits activities by a bank holding company or its subsidiary which the Board of Governors determines to be so closely related to banking or managing or controlling banks as to be a proper incident thereto. The Board of Governors has adopted regulations prescribing those activities it presently regards as permissible, which include the activities engaged in by Corporation and its subsidiaries. The Bank Holding Company Act, the Federal Reserve Act, and the Federal Deposit Insurance Act also subject bank holding companies and their subsidiaries to certain restrictions on extensions of credit by subsidiary banks to the bank holding company or any of its subsidiaries, or investments in the securities thereof, and on the taking of such securities as collateral for loans to any borrower. Further, the Bank Holding Company Act and the regulations of the Board of Governors thereunder, prohibit a bank holding company and its subsidiaries from engaging in certain tie-in arrangements in connection with any extension of credit, sale or lease of any property or furnishing of services. 3 6 In addition to the regulation of the Corporation, Irwin Union Bank is subject to extensive regulation and periodic examination, principally by the Indiana Department of Financial Institutions and the Federal Reserve Bank of Chicago. Irwin Mortgage is subject to audit and examination oversight by the federal department of Housing and Urban Development as well as the Government National Mortgage Association, the Federal National Mortgage Association, and the Federal Home Loan Mortgage Corporation. The insurance subsidiary of the Corporation and the insurance subsidiary of Irwin Union Bank are dependent upon state licenses and upon franchise agreements with private corporations for their continued existence. The reinsurance subsidiary of Irwin Union Bank is subject to examination by the state of Vermont. The home equity and equipment leasing subsidiaries of the Corporation are also dependent upon state licenses for their ability to engage in origination and servicing activities in certain states. The securities brokerage activities of Irwin Union Bank's registered broker/dealer are regulated and examined by the Securities and Exchange Commission, the Indiana Securities Division, the securities divisions of the various states in which Irwin Union Securities, Inc. operates, and the National Association of Securities Dealers. The activities of Irwin Union Bank's investment advisor subsidiary are regulated and examined by the Indiana Securities Division and the securities divisions of the states in which Irwin Union Advisory Services, Inc. operates. EMPLOYEES AND LABOR RELATIONS As of December 31, 1999, the Corporation and its subsidiaries had a total of 2,328 employees, including full-time and part-time employees. The Corporation continues a commitment of equal employment opportunity for all job applicants and staff members, and management regards its relations with its employees as satisfactory. EXECUTIVE OFFICERS OF THE CORPORATION The Executive Officers of the Corporation are elected annually by the Board of Directors and serve for a term of one year or until their successors are elected and qualified. There are no arrangements or understandings between any Executive Officer and any other person pursuant to which the Officer was or is to be selected as an Officer. Claude E. Davis (39) is President of Irwin Union Bank since January 2, 1996. He has been an officer since 1988. Elena Delgado (44) is President of Irwin Home Equity Corporation since September 4, 1994. Gregory F. Ehlinger (37) is Senior Vice President and Chief Financial Officer of the Corporation. He has been an officer since August of 1992. Jose M. Gonzalez (41) is Vice President and Director of Internal Audit of the Corporation since October of 1995. From 1993 to 1995, Mr. Gonzalez was Senior Vice President, Audit & Compliance Services of Premier Bank and Trust. Theresa L. Hall (47) is Vice President - Human Resources of the Corporation since 1988. She has been an officer since 1980. Jody A. Littrell (32) is Vice President and Controller of the Corporation since March 13, 2000. He was employed with Arthur Andersen LLP from September, 1990 to March, 2000, most recently as Audit Manager. Rick L. McGuire, (47) is President of Irwin Mortgage since January 1, 1996. He has been an officer since 1978. William I. Miller (43) is Chairman of the Board since 1990, and has been a Director of the Corporation since 1985. Ellen Z. Mufson (51) is Vice President - Legal of the Corporation since September, 1997. She was Vice President - Legal Counsel of Irwin Union Bank and Trust Company from July, 1996 through August, 1997, and Corporate Counsel of Irwin Financial Corporation from January, 1995 through June, 1996. 4 7 John A. Nash (62) is Chairman of the Executive Committee since 1990, and President since 1985, of the Corporation. He has been an officer and Director of the Corporation since 1972. Michael F. Ryan (54) is Vice President - Community Development of the Corporation since January 2, 1996. He was President of Irwin Union Bank from 1981 - 1995. He has been an officer since 1976. Matthew F. Souza (43) is Senior Vice President, Ethics and Secretary of the Corporation. He has been an officer since 1985. Michael E. Taft (59) is President of Irwin Business Finance Corporation since April, 1999. From August of 1998 to April of 1999, he was Executive Vice President of General Electric Capital Business Asset Funding Corp., a subsidiary of General Electric Capital Corporation. From September of 1984 to August of 1998, he was Executive Vice President of MetLife Capital Corp., a subsidiary of Metropolitan Life Insurance Company. (General Electric Capital Corporation acquired MetLife Capital in August of 1998.) Thomas D. Washburn (53) is Executive Vice President of the Corporation. He has been an officer since 1976. ITEM 2. PROPERTIES The location and general character of the materially important physical properties of the Corporation and its subsidiaries are as follows: The main office of Irwin Mortgage, where administrative and servicing activities are centered, is located at 9265 Counselor's Row, Indianapolis, Indiana and a servicing facility is located at 11800 Exit Five Parkway, Indianapolis, Indiana. Irwin Mortgage also has loan production and satellite offices located in Flagstaff, Mesa, Phoenix, Scottsdale and Tucson, Arizona; Bakersfield, Concord, Covina, Irvine, Orinda, Richmond, Sacramento, Salinas, San Diego, Temecula, Ventura, Visalia, Walnut Creek, Woodland, Yreka and Yuba City, California; Castle Rock, Colorado Springs, Denver, Englewood and Woodland Park, Colorado; Rocky Hill, Connecticut; Newark, Delaware; Boca Raton, Clearwater and Longwood, Florida; Atlanta, Georgia; Honolulu, Kailua and Maui, Hawaii; Decatur, Oak Forest and Springfield, Illinois; Indianapolis (5), Carmel, Fishers, Ft. Wayne, Greenwood, Kokomo, Lafayette, Schererville, South Bend and Warsaw, Indiana; Ashland, Kentucky; Baton Rouge, Louisiana; Columbia and Rockville, Maryland; Kalamazoo and Lansing, Michigan; Arden Hills, Burnsville and Minneapolis, Minnesota; Desloge, St. Louis, Sunset Hills and Union, Missouri; Reno, Nevada; Brick, New Jersey; Burlington, Cary, Creed Moor, Durham, Greensboro (2), Raleigh and Wilmington, North Carolina; Dayton, Ohio; Altus, Bristow, Tulsa and Weatherford, Oklahoma; Beaverton, Hillsboro and Portland, Oregon; Lancaster, Pennsylvania; Brentwood, Tennessee; Austin, Corpus Christi, El Paso, Houston (2) and Irving, Texas; Salt Lake City, Utah; Chesapeake, Franklin, Fredericksburg, Glen Allen, Newport News, Richmond, Springfield, and Virginia Beach, Virginia; Battle Ground, Everett and Mount Lake Terrace, Washington; and Madison, Wisconsin. All offices occupied by Irwin Mortgage are leased. The main office of Irwin Union Bank is located in four connected buildings at 500 and 520 Washington Street, Columbus, Indiana. These buildings are owned in fee by Irwin Union Realty Corporation, a wholly-owned subsidiary of Irwin Union Bank, and are leased by Irwin Union Bank. The following Irwin Union Bank branch properties are owned in fee by either Irwin Union Bank or Irwin Union Realty: State Street and Eastbrook in Columbus, Indiana; Hope, Taylorsville, and Franklin, Indiana (the Franklin building and a portion of the land are owned; the remaining land is leased). The other branch offices are leased: Avon, Bloomington (3), Carmel, Columbus (3), Greensburg, Greenwood, Indianapolis, Seymour (2) and Shelbyville, Indiana; Grandville (Grand Rapids) and Kalamazoo, Michigan; and Carson City, Nevada. The loan production office in Brentwood (St. Louis), Missouri is also leased. None of the properties owned by Irwin Union Bank or Irwin Union Realty is subject to any major encumbrances. The main office of Irwin Home Equity is located at 12677 Alcosta Blvd., Suite 500, San Ramon, California. A second office was established in January, 2000 at 3000 Executive Parkway, Building Q, Suite 300, San Ramon, California. Both office locations are leased. The main office of Irwin Business Finance is located at 330 120th Avenue NE, Suite 110, Bellevue, Washington. The office location is leased. 5 8 The main offices of the Corporation, Irwin Ventures, Irwin Ventures Incorporated-SBIC and Irwin Union Credit Insurance Corporation are located at 500 Washington Street, Columbus, Indiana in space leased from Irwin Union Bank. ITEM 3. LEGAL PROCEEDINGS As a part of the ordinary course of business, the Corporation and its subsidiary companies are parties to litigation involving claims to the ownership of funds in particular accounts, the collection of delinquent accounts, challenges to security interests in collateral, and foreclosure interests, that is incidental to their regular business activities. In addition to such claims, the Corporation was involved, as of December 31, 1999, in the following actions: Culpepper, et al. v. Inland Mortgage Corporation. As of December 31, 1999, Irwin Mortgage (previously known as Inland Mortgage Corporation) was a defendant in a class action lawsuit initiated in the United States District Court, Northern District of Alabama in April, 1996. This action is one of a number of "RESPA Section 8" class actions that have been filed against several mortgage lenders challenging the legality of the payment of broker fees by mortgage lenders to mortgage brokers. In June, 1999, the District Court certified a limited class of borrowers. In July, 1999, Irwin Mortgage filed a petition with the Court of Appeals for the Eleventh Circuit for immediate review of the class certification order. In September, 1999, the Court agreed to review the District Court's order. At present, it is impossible to predict the likelihood of an unfavorable outcome or to establish the possible extent or amount of liability or potential loss exposure, if any, to which Irwin Mortgage might be exposed. Heifets, et al. v. Matrix Electromedical, et al. As of December 31, 1999, Affiliated Capital Corp. (now, Irwin Leasing Corporation) and Irwin Financial Corporation were defendants in a class action lawsuit initiated against them in August, 1998 in the Superior Court of Los Angeles County, California. The suit alleged that a manufacturer of certain medical devices made misrepresentations to induce doctors to acquire the devices, which Affiliated Capital Corp. financed by means of leases. In August, 1999, the trial court dismissed the plaintiffs' case with prejudice and awarded attorneys' fees to the Irwin companies. The plaintiffs then appealed. In January, 2000, the plaintiffs agreed to dismiss their appeal and pay a portion of the Irwin companies' attorneys' fees. The court of appeals issued an order of dismissal on February 29, 2000. Kruta et al. v. Inland Mortgage Corporation. As of December 31, 1999, Irwin Mortgage was a defendant in a class action lawsuit initiated in the state of Minnesota in October, 1995 and later assigned to a federal Multidistrict Litigation Panel in Chicago, Illinois. Plaintiffs allege they represent a nationwide class of persons who have or had mortgage escrow accounts allegedly improperly managed by Irwin Mortgage. This case is among a series of class action cases commenced against a number of mortgage servicers in several states challenging the practices used in connection with the administration of escrow accounts for single family residential mortgages. On December 9, 1999, the Court issued its preliminary approval of a settlement timetable in this case. Except as described above, there is no material pending litigation in which the Corporation or any of its subsidiaries is involved or of which any of their property is the subject. Furthermore, there is no pending legal proceeding that is adverse to the Corporation in which any director, officer or affiliate of the Corporation, or any associate of any such director or officer, is a party, or has a material interest. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS During the fourth quarter of 1999, no matters were submitted to a vote of security holders of the Corporation, through the solicitation of proxies or otherwise. 6 9 PART II ITEM 5. MARKET FOR CORPORATION'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS The Common Stock of the Corporation is quoted on the National Association of Securities Dealers Automated Quotation/National Market System (NASDAQ/NMS -- trading symbol, IRWN). The following table sets forth certain information regarding trading in, and cash dividends paid with respect to, the shares of the Corporation's Common Stock in each quarter of the two most recent calendar years. All data have been adjusted for stock splits. The approximate number of shareholders of record on March 9, 2000 was 1,750. STOCK PRICES AND DIVIDENDS: TOTAL QUARTER CASH DIVIDENDS HIGH LOW END DIVIDEND FOR YEAR $ $ $ $ $ ---- --- ------- -------- --------- 1997 (split adjusted) First Quarter.......................................... 15 1/4 12 1/8 13 5/8 $0.035 Second Quarter......................................... 14 3/4 12 14 3/4 $0.035 Third Quarter.......................................... 18 5/8 14 3/8 18 5/8 $0.035 Fourth Quarter......................................... 21 1/2 18 1/4 21 $0.035 $0.14 1998 (split adjusted) First Quarter.......................................... 28 1/4 19 1/2 28 1/8 $ 0.04 Second Quarter......................................... 30 25 1/8 29 $ 0.04 Third Quarter.......................................... 37 20 1/2 24 5/8 $ 0.04 Fourth Quarter......................................... 31 20 1/8 27 1/5 $ 0.04 $0.16 1999 First Quarter.......................................... 28 7/8 20 20 $ 0.05 Second Quarter......................................... 25 1/2 17 1/2 19 1/2 $ 0.05 Third Quarter.......................................... 25 19 1/3 20 $ 0.05 Fourth Quarter......................................... 22 7/8 17 17 4/5 $ 0.05 $0.20 The Corporation expects to continue its policy of paying regular cash dividends, although there is no assurance as to future dividends because they are dependent on future earnings, capital requirements, and financial condition. On February 24, 2000, the Corporation's Board of Directors approved an increase in the first quarter dividend to $.06 per share, payable in March, 2000. Dividends paid by Irwin Union Bank to the Corporation are restricted by banking law. SALES OF UNREGISTERED SECURITIES: In July, 1999, the Corporation issued $30 million of 7.58% subordinated debt, callable in ten years at par, in an institutional private placement. The proceeds will be used to strengthen the Corporation's capital base. 7 10 ITEM 6. SELECTED FINANCIAL DATA FIVE-YEAR SELECTED FINANCIAL DATA 1999 1998 1997 1996 1995 ---- ---- ---- ---- ---- (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) For the Year: Net Revenues.................. $ 271,445 $ 276,760 $ 205,469 $ 181,117 $ 143,374 Other Operating Expense....... 214,111 221,206 158,818 143,829 110,925 Net Income.................... 33,156 30,503 24,444 22,428 20,083 Return on Average Equity...... 21.51% 22.84% 19.80% 20.58% 22.60% Return on Average Assets...... 2.01 1.85 1.94 1.95 2.28 Dividend Payout Ratio......... 12.93 11.39 12.74 12.15 12.36 Per share:* Net Income -- Basic........... $ 1.54 $ 1.40 $ 1.10 $ 0.99 $ 0.89 Net Income -- Diluted......... 1.51 1.38 1.08 0.98 0.88 Cash Dividends................ 0.20 0.16 0.14 0.12 0.11 Book Value.................... 7.55 6.70 5.82 5.23 4.38 Market Value at December 31,........................ 17.81 27.20 20.94 12.38 9.97 At year end: Assets........................ $ 1,680,847 $ 1,946,179 $ 1,496,794 $ 1,300,122 $ 1,037,541 Deposits...................... 870,318 1,009,211 719,596 640,153 563,999 Mortgage Loans Held for Sale....................... 508,997 936,788 528,739 446,898 378,658 Loans and Leases, Net......... 724,869 547,103 602,281 526,175 407,904 Shareholders' Equity.......... 159,296 145,233 127,983 118,903 99,216 Owned first mortgage servicing portfolio.................. 10,488,112 11,242,470 10,713,549 10,810,988 10,301,914 Managed home equity portfolio.................. 842,403 581,241 358,166 230,450 86,691 Equity to Assets Ratio........ 9.48% 7.46% 8.55% 9.15% 9.56% Risk-based Capital Ratio...... 13.50 12.25 14.85 12.88 14.49 Leverage Ratio (Tier one)..... 12.77 10.51 12.06 9.84 10.57 Averages: Assets........................ $ 1,651,010 $ 1,650,384 $ 1,262,714 $ 1,151,535 $ 882,164 Equity........................ 154,143 133,563 123,483 108,970 88,867 Shares Outstanding* -- Basic...... 21,530 21,732 22,326 22,716 22,560 Shares Outstanding* -- Diluted.... 21,886 22,139 22,722 23,030 22,860 ------------------------- --> * Adjusted for stock splits 8 11 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Management's discussion and analysis should be read in conjunction with the accompanying consolidated financial statements, footnotes, and tables. This discussion and other sections of this report contain forward-looking statements that are based on management's expectations, estimates, projections and assumptions. Words such as "expects," "anticipates," "intends," "are likely," "estimates," "outlook," "assumption," and similar expressions are intended to identify forward-looking statements, which include but are not limited to projections of business strategies and future activities. These statements are not guarantees of future performance and involve uncertainties that are difficult to predict. Actual future results may differ materially from what is projected due to a variety of factors, including, but not limited to, unexpected changes in interest rates or in the economies served by the Corporation, competition from other financial service providers, unanticipated difficulties in expanding the Corporation's businesses, availability of appropriate investment opportunities, legislative or regulatory changes, or governmental changes in monetary or fiscal policy. CONSOLIDATED OVERVIEW Irwin Financial Corporation's results in 1999 were up significantly from 1998. The Corporation's home equity lending business experienced a significant improvement in earnings as a result of a more favorable competitive environment and a reduction in loan prepayment activity. Results at the Corporation's commercial bank also improved in connection with growth in its commercial loan portfolio. However, a rising interest rate environment led to a reduction in loan originations and lower net income at the Corporation's mortgage banking line of business, partially offsetting the improvements at the Corporation's other lines of business. Results in 1999 and 1998 include one-time after-tax gains of $1.1 million and $3.1 million from a change in statutory tax rates and the sale of the majority of assets of the medical equipment leasing business, respectively. 1999 % CHANGE 1998 % CHANGE 1997 ---- -------- ---- -------- ---- Net Income ($ Millions)............................. $33.2 8.7% $30.5 36.6% $24.4 Basic Earnings per Share*........................... 1.54 10.0 1.40 40.0 1.10 Diluted Earnings per Share*......................... 1.51 9.4 1.38 39.8 1.08 Return on Average Equity............................ 21.51% -- 22.84% -- 19.80% Return on Average Assets............................ 2.01% -- 1.85% -- 1.94% *Adjusted for Stock Split EARNINGS BY LINE OF BUSINESS Irwin Financial Corporation is composed of five principal lines of business: - Mortgage banking - Commercial banking - Home equity lending - Equipment leasing - Venture capital 9 12 EARNINGS: 1999 1998 1997 ---- ---- ---- (IN THOUSANDS) Mortgage Banking............................................ $23,063 $28,853 $21,300 Commercial Banking.......................................... 7,345 6,509 5,587 Home Equity Lending......................................... 12,606 (6,668) 1,710 Equipment Leasing........................................... (843) -- -- Venture Capital............................................. 656 -- -- Other (including parent, medical equipment leasing, and consolidating entries).................................... (9,671) 1,809 (4,153) ------- ------- ------- $33,156 $30,503 $24,444 ======= ======= ======= SUMMARY OF QUARTERLY FINANCIAL INFORMATION: 1999 ---------------------------------------- FOURTH THIRD SECOND FIRST QUARTER QUARTER QUARTER QUARTER ------- ------- ------- ------- (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) Interest income......................................... $32,900 $31,644 $30,323 $31,746 Interest expense........................................ 15,336 13,103 12,541 13,814 Provision for loan and lease losses..................... 548 364 2,330 1,201 Non-interest income..................................... 47,281 48,627 53,518 54,643 Non-interest expense.................................... 52,991 51,186 54,823 55,111 Income taxes............................................ 2,272 5,733 5,360 6,116 ------- ------- ------- ------- Net income.............................................. 9,034 9,885 8,787 10,147 ------- ------- ------- ------- Distribution on company obligated mandatorily redeemable preferred securities of subsidiary trust.............. 1,174 1,174 1,174 1,175 ------- ------- ------- ------- Net income available to common shareholders............. $ 7,860 $ 8,711 $ 7,613 $ 8,972 ======= ======= ======= ======= Earnings per share of common stock: Basic................................................. $ 0.37 $ 0.41 $ 0.35 $ 0.41 Diluted............................................... $ 0.36 $ 0.40 $ 0.35 $ 0.41 1998 ---------------------------------------- FOURTH THIRD SECOND FIRST QUARTER QUARTER QUARTER QUARTER ------- ------- ------- ------- (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) Interest income......................................... $30,183 $33,649 $31,946 $27,409 Interest expense........................................ 13,094 18,256 15,435 12,504 Provision for loan and lease losses..................... 1,350 1,951 1,056 1,638 Non-interest income..................................... 60,472 59,258 50,089 49,038 Non-interest expense.................................... 64,575 54,749 52,697 49,185 Income taxes............................................ 4,162 6,684 4,627 4,881 ------- ------- ------- ------- Net income.............................................. 7,474 11,267 8,220 8,239 ------- ------- ------- ------- Distribution on company obligated mandatorily redeemable preferred securities of subsidiary trust.............. 1,174 1,174 1,174 1,175 ------- ------- ------- ------- Net income available to common shareholders............. $ 6,300 $10,093 $ 7,046 $ 7,064 ======= ======= ======= ======= Earnings per share of common stock: Basic*................................................ $ 0.29 $ 0.47 $ 0.32 $ 0.32 Diluted*.............................................. $ 0.29 $ 0.46 $ 0.32 $ 0.31 10 13 1997 ---------------------------------------- FOURTH THIRD SECOND FIRST QUARTER QUARTER QUARTER QUARTER ------- ------- ------- ------- (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) Interest income......................................... $27,597 $26,237 $23,127 $22,480 Interest expense........................................ 12,989 11,705 10,032 9,856 Provision for loan and lease losses..................... 1,374 2,042 2,019 803 Non-interest income..................................... 45,970 40,018 35,551 35,309 Non-interest expense.................................... 46,458 39,033 35,837 37,490 Income taxes............................................ 5,404 4,989 3,851 3,490 ------- ------- ------- ------- Net income.............................................. 7,342 8,486 6,939 6,150 ------- ------- ------- ------- Distribution on company obligated mandatorily redeemable preferred securities of subsidiary trust.............. 1,174 1,174 1,171 954 ------- ------- ------- ------- Net income available to common shareholders............. $ 6,168 $ 7,312 $ 5,768 $ 5,196 ======= ======= ======= ======= Earnings per share of common stock: Basic*................................................ $ 0.28 $ 0.33 $ 0.26 $ 0.23 Diluted*.............................................. $ 0.28 $ 0.33 $ 0.26 $ 0.23 ------------------------- --> *Adjusted for the May 27, 1998 two-for-one stock split MORTGAGE BANKING BUSINESS PROFILE: MORTGAGE BANKING SELECTED FINANCIAL DATA: 1999 1998 1997 1996 1995 ---- ---- ---- ---- ---- (IN THOUSANDS) SELECTED INCOME STATEMENT DATA: Net interest income................. $ 21,745 $ 26,244 $ 17,577 $ 17,178 $ 13,415 Provision for loan losses........... (1,998) (1,721) (1,383) (455) (125) Loan origination fees............... 46,311 59,328 41,045 43,463 31,871 Gain on sale of loans............... 43,599 55,245 22,213 26,179 18,929 Loan servicing fees................. 54,247 52,217 50,194 45,573 36,087 Amortization and impairment of servicing assets, net of hedging.......................... (24,566) (29,805) (15,843) (13,897) (5,774) Gain on sale of servicing........... 37,801 43,308 32,631 16,378 15,271 Other income........................ 3,628 2,422 1,223 891 787 ---------- ---------- ---------- ---------- ---------- Total net revenue................ 180,767 207,238 147,657 135,310 110,461 Operating expense................... 144,915 159,192 111,367 101,215 78,479 ---------- ---------- ---------- ---------- ---------- Income before tax................... 35,852 48,046 36,290 34,095 31,982 Tax................................. 12,789 19,193 14,990 13,673 12,651 ---------- ---------- ---------- ---------- ---------- Net income....................... $ 23,063 $ 28,853 $ 21,300 $ 20,422 $ 19,331 ========== ========== ========== ========== ========== SELECTED BALANCE SHEET DATA AT END OF PERIOD: Mortgage loans held for sale........ $ 277,614 $ 697,542 $ 528,739 $ 446,897 $ 378,658 Mortgage servicing asset............ 132,648 113,131 81,610 71,715 51,783 Total assets........................ 549,966 1,020,249 792,007 629,528 514,525 Short-term debt..................... 217,691 430,859 429,451 339,688 296,417 Long-term debt...................... 223 2,839 54 4,914 2,300 Shareholders' equity................ 98,556 104,696 81,058 66,182 55,811 SELECTED OPERATING DATA: Mortgage loan originations.......... $5,876,750 $8,944,615 $5,397,338 $5,085,625 $3,559,310 Servicing portfolio: Balance at December 31........... 10,488,112 11,242,470 10,713,549 10,810,988 10,301,914 Weighted average coupon rate..... 7.51% 7.56% 7.85% 7.83% 7.83% Weighted average servicing fee... 0.44 0.43 0.40 0.38 0.38 Servicing sold as a % of production....................... 79.9 54.6 71.8 60.9 28.4 11 14 OVERVIEW & STRATEGY: Irwin Mortgage Corporation originates, sells, and services residential mortgage loans throughout the U.S. Most of the loans originated and serviced are either government-insured through the Veterans' Administration (VA) or Federal Housing Administration (FHA) or conventional loans which conform to the underwriting guidelines of the two principal government-sponsored agencies which support the secondary mortgage markets, the Federal National Mortgage Association (FNMA) and the Federal Home Loan Mortgage Corporation (FHLMC). Mortgage loans are originated through branches (retail), third party sources (wholesale), and to a limited degree, the Internet. Potential borrowers are identified principally through relationships maintained with housing intermediaries including realtors, home builders, and brokers. Loans are funded on a short-term basis through credit facilities provided by commercial banks including Irwin Union Bank. Repurchase agreements with investment banks are also used. Individual loans are pooled, securitized, and sold into the secondary mortgage market. Servicing rights are periodically sold for a variety of reasons including cash flow and servicing portfolio management. 1999 REVIEW: Net income from mortgage banking was $23.1 million in 1999, a decrease of 20.1% from 1998 results of $28.9 million and an increase of 8.3% over 1997 results of $21.3 million. Return on average equity was 22.6% in 1999 compared to 31.5% in 1998 and 29.6% in 1997. The 1999 decline was the result of a rising interest rate environment which slowed production activity throughout the mortgage banking industry. 1999 1998 1997 ---- ---- ---- (IN THOUSANDS) Total originations:...................................... $5,876,750 $8,944,615 $5,397,338 Percent retail loans..................................... 37.4% 35.9% 36.6% Percent wholesale loans.................................. 57.1 59.7 57.2 Percent brokered......................................... 5.5 4.4 6.2 Percent refinances....................................... 28.6 49.5 22.5 As a result of rising interest rates, the mortgage banking line of business experienced a decline in 1999 loan originations as compared to 1998 when a record number of originations were made in a low interest rate environment. Loan originations in 1999 of $5.9 billion were down 34.3% from 1998 and up 8.9% from 1997. Income from mortgage loan originations totaled $46.3 million which was 21.9% lower than 1998 and 12.8% more than 1997. Refinances accounted for 28.6% of 1999 originations as compared to 49.5% in 1998 and 22.5% in 1997. Because certain fees are not collected for loan refinancings, loan origination fees did not decrease at the same rate as loan production in 1999. Gains from the sale of mortgage loans totaled $43.6 million in 1999, compared to $55.2 million in 1998 and $22.2 million in 1997. Lower loan production levels accounted for the 1999 decline. In 1997, the mortgage bank entered into the nonprime mortgage market which is composed of borrowers who do not qualify under the underwriting guidelines established by the government-sponsored secondary market agencies for conforming first mortgages. Total mortgage banking originations include $148.8 million, $173.5 million, and $66.1 million of nonprime loans in 1999, 1998, and 1997, respectively. These loans are sold on a non-recourse, service-released basis to private investors. 12 15 MORTGAGE SERVICING: SERVICING PORTFOLIO: 1999 1998 1997 ---- ---- ---- (PORTFOLIO IN BILLIONS) Beginning Portfolio......................................... $ 11.2 $ 10.7 $ 10.8 Add: Originated Servicing Rights............................... 2.3 3.2 2.0 Purchased Servicing Rights................................ 3.6 5.7 3.4 Deduct: Sale of Servicing Rights.................................. (4.7) (4.9) (3.9) Run-off*.................................................. (1.9) (3.5) (1.6) ------- ------- ------- Ending Portfolio............................................ $ 10.5 $ 11.2 $ 10.7 ======= ======= ======= Number of Loans............................................. 133,990 135,833 141,737 Average Loan Size........................................... $84,500 $82,900 $82,902 Percent GNMA................................................ 70% 65% 59% Percent FHLMC............................................... 4 5 11 Percent FNMA................................................ 8 13 19 Delinquency ratio........................................... 7.1% 5.0% 6.0% Capitalized servicing as a percentage of servicing portfolio................................................. 1.3% 1.0% 0.8% ------------------------- --> * Run-off is the reduction in principal balance of the servicing portfolio due to regular principal payments made by mortgagees and early repayment of an entire loan. The mortgage servicing portfolio was $10.5 billion at December 31, 1999, down 7.1% from the same date in 1998 and 2.5% from 1997. The mortgage bank has followed a strategy to manage the interest rate risk associated with the servicing portfolio by selling servicing rights on those loans that are most likely to refinance should the interest rates decline. The following table sets forth certain information regarding the interest rates of loans in the servicing portfolio at December 31: SERVICING PORTFOLIO BY INTEREST RATE: 1999 1998 1997 ---- ---- ---- Less than 7%................................................ 14.9% 15.1% 8.4% 7.00 -- 7.99%............................................... 53.3 52.7 42.5 8.00 -- 8.99%............................................... 29.9 27.6 42.6 9% or greater............................................... 1.9 4.6 6.5 ---- ---- ---- Total.................................................. 100% 100% 100% ==== ==== ==== Mortgage servicing assets are recorded at the lower of their cost or market value, and a valuation allowance is recorded for any impairment. At December 31, 1999, the market value of these assets was estimated to be $180.5 million, or $47.9 million greater than the carrying value on the balance sheet. LOAN ADMINISTRATION INCOME: 1999 1998 1997 ---- ---- ---- (IN THOUSANDS) Servicing fees..................................... $54,247 $52,217 $50,194 Amortization and impairment of servicing assets.... 13,758 34,123 15,843 ------- ------- ------- Net loan administration income..................... $40,489 $18,094 $34,351 ======= ======= ======= Servicing fee income is recognized by collecting fees which normally range between 25 and 44 basis points annually on the principal amount of the underlying mortgages. Servicing fee income increased 3.9% 13 16 from 1998 and 8.1% from 1997, reflecting the increase in the average size of the servicing portfolio throughout the year. The value of mortgage servicing assets must be amortized over their estimated life and adjusted for impairment which could result from interest rate changes. The amortization and impairment of servicing assets declined 59.7% from 1998 and 13.2% from 1997. The decline is the result of the rising interest rate environment during 1999 that slowed prepayments in underlying loans and reduced impairment levels in mortgage servicing assets. The 1999 improvement in mortgage servicing asset amortization and impairment was partially offset by corresponding losses on hedging activities. The mortgage bank used options on treasury futures to offset the interest rate risk associated with its mortgage servicing assets. By December 31, 1999, options on the mortgage bank's balance sheet had expired. In 1999, the mortgage bank recorded a $10.8 million market loss on options held during the year. This compares with a market gain of $4.3 million recorded in 1998. No gains or losses were recorded in 1997. The mortgage bank does not satisfy the criteria for "hedge accounting." As a result, options are accounted for as trading assets, and changes in fair value are adjusted through earnings as trading gains or losses. SALE OF MORTGAGE SERVICING: The mortgage banking business maintains the flexibility to either sell servicing for current cash flow or retain servicing for future cash flow. The decision to sell or retain servicing is based on current market conditions balanced with the interest rate risk tolerance of the business. Servicing totaling $4.7 billion was sold in 1999 generating a $37.8 million pre-tax gain on those sales. This compares to servicing sales of $4.9 billion in 1998 that produced $43.3 million pre-tax gain and $3.9 billion in 1997 that produced a $32.6 million pre-tax gain. Had all servicing been retained, gains on sales of loans would have been higher than what was recorded, with a corresponding reduction in gains from sales of servicing. Servicing sales in 1999 represented 79.9% of 1999 originations versus 1998 sales which were 54.6% of that year's originations and 1997 sales which were 71.8% of originations. NET INTEREST INCOME: Net interest income is generated from the interest earned on mortgage loans before they are sold to investors, less the interest expense incurred on borrowings to fund the loans. Net interest income totaled $21.7 million in 1999, compared to $26.2 million in 1998 and $17.6 million in 1997. The 1999 decline resulted from the decreased loan production during the year. OPERATING EXPENSES: 1999 1998 1997 ---- ---- ---- ($ IN THOUSANDS) Salaries and employee benefits.................. $ 88,473 $101,477 $ 71,389 Other expenses.................................. 56,442 57,715 39,978 -------- -------- -------- Total operating expenses........................ $144,915 $159,192 $111,367 ======== ======== ======== Number of employees at December 31,............. 1,492 1,752 1,411 Total operating expenses decreased 9.0% from 1998 and increased 30.1% from 1997. Salaries and employee benefits were down 12.8% from 1998 and up 23.9% from 1997. The decrease reflects the decreased production activities throughout 1999. 2000 OUTLOOK: The mortgage bank anticipates a decline in loan production throughout the mortgage industry in 2000. Interest rates are expected to remain stable, causing refinance activity to return to normal historic levels. 14 17 Competitive pricing pressures are expected to increase and significant growth is expected in the volume of Internet-originated loans. The mortgage bank's strategy for competing in this changing environment is comprised of three components. The first is to grow its loan production activities through the expansion of retail branches and increased nonprime production. This includes expansion to new markets that are thought to be underserved by the mortgage industry and that value the mortgage bank's service-oriented approach to lending. The second component is to improve profit margins as a result of an important process improvement initiative undertaken in 1999 for loan production activities. This initiative uses e-commerce to increase efficiency by allowing the mortgage bank to process, underwrite, and close loans in a highly automated environment. The final component is to manage servicing asset impairment risk by continuing with the strategy of selling servicing rights associated with those loans that are most likely to refinance in the event of a decline in interest rates. COMMERCIAL BANKING BUSINESS PROFILE: COMMERCIAL BANK SELECTED FINANCIAL DATA: 1999 1998 1997 1996 1995 ---- ---- ---- ---- ---- (IN THOUSANDS) SELECTED INCOME STATEMENT DATA: Interest income...................... $ 54,452 $ 46,056 $ 41,115 $ 35,645 $ 31,965 Interest expense..................... 23,525 20,957 19,120 15,908 14,048 Provision for loan losses............ 1,813 1,820 2,201 2,284 2,038 -------- -------- -------- -------- -------- Net interest income after provision for loan losses.................... 29,114 23,279 19,794 17,453 15,879 Non-interest income.................. 11,797 11,712 9,256 9,298 7,187 -------- -------- -------- -------- -------- Total net revenues................. 40,911 34,991 29,050 26,751 23,066 -------- -------- -------- -------- -------- Operating expense.................... 29,080 24,515 20,194 20,225 17,582 -------- -------- -------- -------- -------- Income before taxes.................. 11,831 10,476 8,856 6,526 5,484 Income taxes......................... 4,486 3,967 3,269 2,272 1,845 -------- -------- -------- -------- -------- Net income......................... $ 7,345 $ 6,509 $ 5,587 $ 4,254 $ 3,639 ======== ======== ======== ======== ======== SELECTED BALANCE SHEET DATA AT END OF PERIOD: Loans................................ $720,493 $514,950 $410,272 $336,580 $310,083 Allowance for loan losses............ 7,375 6,680 5,525 4,790 3,668 Total assets......................... 789,560 607,992 539,233 503,507 440,035 Deposits............................. 710,899 567,526 486,481 453,879 400,149 Shareholders' equity................. 63,678 46,990 38,390 33,967 28,722 DAILY AVERAGES: Assets............................... $682,632 $567,116 $515,666 $459,893 $405,249 Deposits............................. 619,308 514,694 463,851 413,935 358,343 Loans................................ 600,877 462,319 370,313 329,658 284,713 Allowance for loan losses............ 7,317 6,308 5,332 4,367 3,566 Shareholders' equity................. 52,867 42,026 36,232 31,863 27,661 Shareholders' equity to assets....... 7.74% 7.41% 7.03% 6.93% 6.83% OVERVIEW & STRATEGY: Commercial banking is conducted by Irwin Union Bank and Trust Company. In recent years, the commercial bank has implemented a growth plan that calls for expansion into new markets outside of its traditional markets in south-central Indiana using de novo offices staffed by senior commercial loan officers who have experience with other commercial banks. As a result, the commercial bank currently operates in 15 18 nine counties in Indiana as well as Kalamazoo and Grandville (Grand Rapids), Michigan; Brentwood (St. Louis), Missouri; and Carson City, Nevada. The commercial bank's strategy in these and other possible new markets is to position itself with local management and staff that can provide highly personalized, flexible service to commercial customers who have been negatively affected by bank consolidation. 1999 REVIEW: Commercial banking net income in 1999 totaled $7.3 million, up 12.9% from 1998 net income of $6.5 million and 31.5% from 1997 net income of $5.6 million. The return on average equity was 13.89% in 1999 as compared to 15.49% in 1998 and 15.42% in 1997. Results in 1999 reflect the continued growth and expansion efforts of the commercial bank into new markets. NET INTEREST REVENUE: 1999 1998 1997 ---- ---- ---- (IN THOUSANDS) Net interest revenue on a taxable equivalent basis*......... $ 31,151 $ 25,367 $ 22,206 Average interest earning assets............................. 645,809 534,439 481,707 Net interest margin......................................... 4.82% 4.75% 4.61% ------------------------- --> * Reflects what net interest revenue would be if all interest income were subject to federal and state income taxes. Net interest revenue on a taxable equivalent basis increased 22.8% from 1998 and 40.3% from 1997 to a total of $31.2 million. Net interest revenue is the product of net interest margin and average earning assets. The 1999 improvement resulted from an increase in the commercial bank's loan portfolio as a result of its expansion efforts. Net interest margin was up for the year, coming in at 4.82% for 1999 compared to 4.75% in 1998 and 4.61% in 1997. This improvement resulted from a change in mix of the commercial bank's assets in 1999 to a lower percentage of investments and federal funds sold and a higher percentage of loans. NONINTEREST INCOME: 1999 1998 1997 ---- ---- ---- (IN THOUSANDS) Trust fees.................................................. $ 2,257 $ 2,136 $2,178 Service charges on deposit accounts......................... 2,021 2,076 1,831 Insurance commissions, fees and premiums.................... 1,635 1,265 1,044 Gain from sale of loans..................................... 901 1,346 1,088 Loan servicing fees......................................... 1,458 1,745 972 Brokerage fees.............................................. 1,546 1,050 757 Other....................................................... 1,979 2,094 1,386 ------- ------- ------ Total noninterest income............................... $11,797 $11,712 $9,256 ======= ======= ====== Reflective of the growth at the commercial bank from expansion into new markets, noninterest income was up 0.7% from 1998 and 27.5% from 1997. OPERATING EXPENSES: 1999 1998 1997 ---- ---- ---- (IN THOUSANDS) Salaries and employee benefits.............................. $16,881 $14,142 $11,333 Other expenses.............................................. 12,199 10,373 8,861 ------- ------- ------- Total operating expenses............................... $29,080 $24,515 $20,194 ======= ======= ======= Number of employees at December 31,......................... 395 353 339 16 19 Operating expenses increased 18.6% from 1998 and 44.0% from 1997. Costs associated with expanding new products and markets contributed to the increase. BALANCE SHEET: Total assets averaged $789.6 million in 1999, compared to $608.0 million in 1998 and $539.2 million in 1997. Average earning assets for the year were $645.8 million, up $111.4 million or 20.8% from 1998 and up $164.1 million or 34.1% from 1997. The most significant component of the 1999 increase was loans which were up $138.6 million on average in 1999 as a result of the commercial bank's expansion efforts into new markets. Average deposits were $619.3 million in 1999, 20.3% higher than 1998 and 33.5% higher than 1997. The commercial bank's risk-based assets ratio was 10.0% at December 31, 1999 compared to 10.1% at the end of 1998 and 10.3% at the end of 1997. Banks having a ratio of at least 10% are considered to be well capitalized by bank regulatory authorities. In 1999, Irwin Financial Corporation commenced offerings under its Preferred Share Program targeted to investors in new commercial banking markets who can assist with deposit growth. Approximately 95 thousand shares under this plan were issued in the first quarter of 2000. More information on this subject is contained in the section on Capital. CREDIT QUALITY: 1999 1998 1997 ---- ---- ---- (IN THOUSANDS) At December 31, Nonperforming loans....................................... $1,168 $1,858 $2,856 Other real estate owned................................... -- 48 413 ------ ------ ------ Total nonperforming assets................................ $1,168 $1,906 $3,269 ====== ====== ====== Nonperforming assets as a percentage of total assets...... 0.15% 0.31% 0.60% ====== ====== ====== Allowance for loan losses................................. $7,375 $6,680 $5,525 ====== ====== ====== Allowance for loan losses as a percentage of loans........ 1.02% 1.30% 1.35% ====== ====== ====== For the Year Ended December 31, Provision for loan losses................................. $1,813 $1,820 $2,201 ====== ====== ====== Net charge-offs........................................... $ 963 $ 592 $1,277 ====== ====== ====== 2000 OUTLOOK: The commercial bank expects significant consolidation to continue in the banking and financial services industry. The commercial bank plans to capitalize on the opportunities brought about by consolidation by continuing its growth strategy for small business lending in new markets throughout the United States. The focus will be to provide personalized lending services to small businesses in cities affected by consolidation, using experienced lenders with a strong presence in those cities. In addition to its lending expansion, the commercial bank looks to develop further its insurance and investment operations in order to provide a full range of financial services to its customers. 17 20 HOME EQUITY LENDING BUSINESS PROFILE: HOME EQUITY LENDING SELECTED FINANCIAL DATA: 1999 1998 1997 1996 1995 ---- ---- ---- ---- ---- (IN THOUSANDS) SELECTED INCOME STATEMENT DATA: Net interest income...................... $ 18,852 $ 5,495 $ 7,129 $ 7,755 $ 1,828 Provision for loan losses................ -- (513) (1,404) (983) (363) Gain on sale of loans.................... 23,998 18,610 15,908 7,798 2,985 Loan servicing fees...................... 4,907 3,323 2,145 710 13 Amortization and impairment of servicing assets................................ (1,445) (842) (334) -- -- Trading gains (losses)................... 2,512 (2,952) (1,961) -- -- Other income............................. 1,742 820 294 140 10 -------- -------- -------- -------- ------- Total net revenues.................... 50,566 23,941 21,777 15,420 4,473 Operating expenses....................... 35,557 30,609 20,067 16,236 7,693 -------- -------- -------- -------- ------- Income before taxes...................... 15,009 (6,668) 1,710 (816) (3,220) Income taxes............................. 2,403 -- -- -- -- -------- -------- -------- -------- ------- Net Income............................ $ 12,606 $ (6,668) $ 1,710 $ (816) $(3,220) ======== ======== ======== ======== ======= SELECTED BALANCE SHEET DATA AT END OF PERIOD: Home equity loans, net of loan loss reserve............................... $ 1,904 $ 7,832 $111,216 $117,588 $36,225 Home equity loans held for sale.......... 231,382 242,702 -- -- -- Interest-only strips..................... 57,833 32,321 22,134 12,661 4,446 Total assets............................. 339,640 311,974 165,242 145,113 50,845 Short-term debt.......................... 260,184 226,998 146,219 129,627 24,981 Shareholders' equity..................... 58,733 40,272 10,936 13,221 5,538 SELECTED OPERATING DATA: Loan Volume: Lines of credit.......................... $ 93,185 $ 98,855 $115,274 $ 80,724 $87,420 Loans.................................... 346,322 290,818 99,244 88,396 -- Servicing portfolio: Balance at December 31,.................. 842,403 581,241 358,166 230,450 86,691 Weighted average coupon rate: Lines of credit....................... 13.48% 11.89% 12.96% 12.80% 13.61% Loans................................. 13.85% 11.86% 13.97% 14.08% -- OVERVIEW & STRATEGY: Irwin Home Equity operates from offices located in San Ramon, California and was incorporated in late 1994. The company markets home equity loans through direct mail, telemarketing, and Internet-based solicitations. The business has the option to either hold the loans in portfolio or securitize and service them. If the loans are held in portfolio, many non production costs incurred during the period to produce the loans are expensed immediately, whereas the revenue from the loans accrues over the lives of the loans. Alternatively, if the loans are securitized and sold on the secondary market to investors, a portion of the present value of the future net revenues from the loans will be recognized in the current period, helping to offset the expenses incurred in producing the loans. 18 21 1999 REVIEW: The home equity lending business recorded net income of $12.6 million in 1999 compared with a pre-tax loss of $6.7 million in 1998 and pre-tax income of $1.7 million in 1997. Results in 1999 are net of $2.4 million of income taxes. It was not until late in 1999 that the net operating losses carried forward by the business were fully used and the business began recording income tax expense. Until that point, income taxes for this business were recorded at the parent company. The improvement in 1999 earnings was the result of higher interest rates, improved competitive environments, and efforts made by the business to shift a substantial portion of its portfolio to product with less prepayment sensitivity. LOAN ORIGINATIONS AND SECURITIZATIONS: During 1999, the home equity lending business originated and acquired $439.5 million of home equity loans, up 12.8% from 1998 volume of $389.7 million and 104.9% from 1997 volume of $214.5 million. The home equity lending business had $233.3 million of loans and loans held for sale at December 31, 1999. This compares to $250.5 million at the end of 1998 and $111.2 million at the end of 1997. The business securitized $420.1 million of loans in 1999 which generated a pre-tax gain of $24.0 million. This compares to a $18.6 million gain recognized in 1998 on the sale of $294.3 million of loans, and a $15.9 million gain recognized in 1997 on the sale of $210.1 million of loans. SERVICING PORTFOLIO: 1999 1998 1997 ---- ---- ---- (IN THOUSANDS) Balance at December 31,..................................... $842,403 $581,241 $358,166 Delinquency ratio........................................... 1.9% 1.3% 1.5% The home equity lending business continues to service loans it has securitized. The servicing portfolio, which includes loans held on the balance sheet as well as securitized loans, increased 44.9% from 1998 and 135.2% from 1997. The business earns a servicing fee equal to one percent of the outstanding principal balance of the securitized loans. Servicing fee income increased to $4.9 million in 1999 from $3.3 million in 1998 and $2.1 million in 1997. The home equity lending business recognizes on its balance sheet a servicing asset equal to the discounted cash flows of estimated future servicing income and expense. At December 31, 1999, net servicing assets totaled $4.5 million, compared with $3.1 million at the end of 1998 and $1.3 million at the end of 1997. Servicing asset amortization and impairment expense totaled $1.4 million in 1999, up from $0.8 million in 1998 and $0.3 million in 1997. When the home equity lending business securitizes loans, the business recognizes an interest-only strip equal to the discounted future cash flows of the interest paid by borrowers less servicing fees, expected losses, and interest paid to investors. Interest-only strips had a balance of $57.8 million at December 31, 1999, compared with $32.3 million at the same date in 1998 and $22.1 million in 1997. Interest-only strips are recorded on the balance sheet as trading assets and are carried at their market values. Market values are determined using assumptions about the duration and performance of the securitized loans and are calculated on the basis of the expected timing of cash receipts by the company. Included in these assumptions are estimates of the lives of the loans, expected losses, and appropriate discount rates. Management continually evaluates these assumptions to determine the proper carrying values of these items on the balance sheet. Adjustments to carrying values are recorded as trading gains or losses. During 1999, the home equity lending business recorded a trading gain of $2.5 million. This compares with trading losses of $3.0 million recorded in 1998 and $2.0 million recorded in 1997. The 1999 improvement was the result of the rising interest rate environment combined with efforts made to shift a substantial portion of the home equity loan portfolio into product with less prepayment sensitivity. 19 22 At the end of 1999 the company owned rights to excess interest in eight securitizations. All interest-only strips have been computed by discounting expected cash flows using a discount rate of 15%. The other assumptions used in the calculation of carrying value for these interest-only strips at December 31, 1999, were as follows: PREPAYMENT REMAINING CONSTANT EXPECTED PENALTY AVERAGE PREPAYMENT ANNUAL POOL PRODUCT TYPE FEATURES LIFE (YEARS) RATE LOSSES ---- ------------ ---------- ------------ ---------- -------- 1995-2 Home Equity Lines of Credit................ No 1.40 26% 2.8% 1996-1 Home Equity Lines of Credit................ No 1.57 39 0.65 No 1.17 38 0.65 Home Equity Loans.......................... 1997-1 Home Equity Lines of Credit................ No 2.03 38 0.65 No 1.61 37 0.65 Home Equity Loans.......................... 1997-2 Home Equity Lines of Credit................ No 2.38 34 0.65 No 1.87 36 0.65 Home Equity Loans.......................... 1998-1 First Mortgage Loans....................... Mixed 3.06 10 0.50 Mixed 3.06 31 0.50 Home Equity Loans.......................... Mixed 3.69 23 0.50 Home Equity Lines of Credit................ Mixed 3.69 22 2.00 125 LTV Home Equity Lines of Credit........ 1999-1 First Mortgage Loans....................... Yes 4.71 8 0.25 No 4.71 16 0.25 First Mortgage Loans....................... Yes 4.71 21 0.50 Home Equity Lines of Credit................ No 4.71 40 0.50 Home Equity Lines of Credit................ 1999-2 First Mortgage Loans....................... Yes 3.68 8 0.25 No 3.68 16 0.25 First Mortgage Loans....................... Yes 3.68 20 0.50 Home Equity Loans.......................... No 3.68 40 0.50 Home Equity Loans.......................... Yes 3.68 15 2.00 125 LTV Home Equity Loans.................. No 3.68 25 2.00 125 LTV Home Equity Loans.................. 1999-3 First Mortgage Loans....................... Yes 3.96 8 0.25 No 3.96 16 0.25 First Mortgage Loans....................... Yes 3.96 18 0.50 Home Equity Loans.......................... No 3.96 35 0.50 Home Equity Loans.......................... Yes 3.96 14 2.00 125 LTV Home Equity Loans.................. No 3.96 23 2.00 125 LTV Home Equity Loans.................. Yes 3.96 14 2.00 125 LTV Home Equity Lines of Credit........ No 3.96 23 2.00 125 LTV Home Equity Lines of Credit........ No 3.96 23 3.00 Home Equity Loans -- Immediate Credit...... No 3.96 20 3.00 Home Equity Lines of Credit -- Immediate Credit................................... NET INTEREST INCOME: Net interest income was $18.9 million in 1999, compared to $5.5 million in 1998 and $7.1 million in 1997. Included in interest income is income earned on the interest-only strip, net of amortization expense. This amounted to $6.5 million in 1999, compared to $0.4 million in 1998 and $1.8 million in 1997. 20 23 OPERATING EXPENSES: 1999 1998 1997 ---- ---- ---- (IN THOUSANDS) Salaries and employee benefits.............................. $21,383 $15,480 $11,175 Marketing and development................................... 3,410 5,314 2,731 Other....................................................... 10,764 9,815 6,161 ------- ------- ------- Total operating expenses............................... $35,557 $30,609 $20,067 ======= ======= ======= Number of employees at December 31,......................... 372 266 189 Operating expenses increased 16.2% from 1998 and 77.2% from 1997, reflecting the growth in the company's managed portfolio and growth in production. 2000 OUTLOOK: The competitive environment became more favorable during 1999 with the exit of many home equity lenders who did not survive the competitive pressures and significant refinance activity of 1998. Management anticipates that the competitive environment will remain favorable, and consumer demand for home equity products is expected to remain high in 2000, allowing the home equity business to continue its expansion of operations. The home equity business anticipates increasing its loan production volume in 2000, particularly its high loan-to-value ratio loans. Moreover, distribution channels will be expanded by the addition of brokers, correspondents and Internet sites. The home equity business will also continue an initiative begun in 1999 of purchasing creditworthy, profitable loans produced by other lenders. EQUIPMENT LEASING During 1999, the Corporation also formed a new leasing subsidiary, Irwin Business Finance. The company began organizing in the second quarter of 1999 and began lease originations in early 2000. During 1999, the leasing line of business incurred a pre-tax loss of $0.84 million. 2000 OUTLOOK: The leasing industry experienced strong growth in new business volume in 1998 and 1999, and 2000 is expected to continue this trend. However, because of aggressive competition, margins in the industry have been compressed as lessors have been slow to increase rates offered to customers despite the rising interest rate environment. Irwin Business Finance has developed a strategy to cultivate relationships with brokers as well as direct relationships with vendors to originate the majority of its lease production. The business expects to differentiate itself from its competition by providing a high level of customer service while providing new and improved ways of doing business. Additionally, the business will explore opportunities for the development of direct e-commerce capability. VENTURE CAPITAL During 1999, the Corporation formed Irwin Ventures, Inc., a venture capital company which makes minority investments in early-stage financial services-related businesses. Its primary focus is on businesses which plan to use the Internet, or other forms of technology, as a key component of their competitive strategy. The company seeks to make investments in opportunities where the financial services experience and expertise of Irwin Ventures' management team can add superior value to innovative companies. The Corporation's Board of Directors has approved an allocation of up to 10% of the Corporation's capital base to support this subsidiary. During 1999, the venture capital line of business recorded net income of $0.7 million which resulted principally from valuation increases in its sole portfolio investment. 21 24 Venture capital investments held by Irwin Ventures, Inc. are carried at market value with changes in market value recognized in other income. The investment committee of Irwin Ventures determines the value of the investments at the end of each reporting period and the values are adjusted based upon review of the investee's financial results, condition, and prospectus. Changes in estimated market values can also be made when an event such as a new funding round from other private equity investors would cause a change in estimated market value. In the future, should the company have investments in publicly-traded securities, it would look to the traded market value of the investments as the basis of its mark-to-market. At December 31, 1999, the business had an investment in a single company as follows: INVESTMENT CARRYING COMPANY PUBLIC/PRIVATE AT COST VALUE ------- -------------- ---------- -------- LiveCapital.com..................................... Private $1.76 million $3.07 million 2000 OUTLOOK: Numerous opportunities have arisen in the past few years for technology-focused private equity investment in the financial service industry. Irwin Ventures believes this will continue in 2000 as improvements in technology and entreprenuerial innovation continue to change the manner in which financial services are delivered to businesses and consumers. Irwin Ventures anticipates that its organizational efforts in 1999 will allow it to identify and fund attractive opportunities in 2000 and beyond. In early 2000, Irwin Ventures increased its investment in LiveCapital.com by $0.2 million and increased the carrying value of the entire investment by approximately $4.5 million after-tax, reflecting the valuation used in the fourth round of funding and the introduction into the investment of three new private equity investors. In addition, during the first quarter, the company made a $1.2 million first-round investment in Bremer Associates. Bremer produces enterprise application integration software, a subset of the general category of software known as middleware and which provides a seamless integration among mainframe, client/server, and web-based applications. It has had successful implementations for the federal government and for a private sector financial services company. Irwin Ventures was the only private equity investor in the first round of funding. OTHER (INCLUDES PARENT, MEDICAL EQUIPMENT LEASING, AND CONSOLIDATING ENTRIES): Results at the Corporation's other businesses totaled a net loss of $9.7 million in 1999, compared with net income of $1.8 million in 1998 and a net loss of $4.2 million in 1997. The components of these other results are as follows: 1999 1998 1997 ---- ---- ---- (IN THOUSANDS) Parent Company operating results............................ $(6,269) $(3,722) $(3,438) Income tax benefit (expense) generated at home equity line of business............................................... (3,601) 2,667 (684) Income tax benefit generated at leasing line of business.... 335 NA NA ------- ------- ------- Total parent company................................. (9,535) (1,055) (4,122) Medical equipment leasing line of business.................. (257) 2,898 151 Other, net.................................................. 121 (34) (182) ------- ------- ------- $(9,671) $ 1,809 $(4,153) ======= ======= ======= Parent company operating losses were higher in 1999 as a result of increased net interest expense for funding to support the growth of its subsidiaries. Tax benefits resulting from the operating losses generated by the home equity line of business were recorded by the parent company until late 1999 when all of the losses carried forward had been used. Each subsidiary pays taxes to the parent company at the statutory rate. Subsidiaries also pay fees to the parent company to cover direct and indirect services. In addition, services are provided from one subsidiary to 22 25 another. Intercompany income and expenses are calculated on an arm's-length, external market basis and are eliminated in consolidation. CONSOLIDATED INCOME STATEMENT ANALYSIS Pre-tax income for 1999 totaled $52.6 million, up 3.5% from 1998 and 24.8% from 1997. The effective income tax rate was 37% in 1999, 40.0% in 1998, and 42.0% in 1997. The lower rate in 1999 was the result of a change in the Indiana Financial Institutions Tax which took effect in 1999. The change in tax law caused the Corporation's current year income taxes to decline and also resulted in a reduction in the Corporation's deferred Indiana income tax liability. Net interest revenue for 1999 totaled $67.4 million, up 16.4% from 1998 and 38.6% from 1997. The net interest margin was 5.36% in 1999 compared to 4.41% in 1998 and 4.95% in 1997. These improvements were primarily due to a shift in composition of mortgage loans held for sale from a concentration in first mortgage loans in 1997 and 1998 to a greater share of higher-yielding second mortgage loans in 1999. The following table sets forth, for the periods indicated, a summary of the changes in interest income and interest expense resulting from changes in volume and rates for the major components of interest-earning assets and interest-bearing liabilities on a fully taxable equivalent basis. 1999 OVER 1998 1998 OVER 1997 ------------------------------ ----------------------------- VOLUME RATE TOTAL VOLUME RATE TOTAL ------ ---- ----- ------ ---- ----- (IN THOUSANDS) Interest Income: Loans and leases................... $ 5,135 $(8,509) $(3,374) $ 1,562 $(5,753) $(4,191) Mortgage loans held for sale....... (15,716) 17,238 1,522 26,051 4,417 30,468 Taxable investment securities...... (277) 102 (175) (731) (577) (1,308) Tax-exempt securities.............. (32) (11) (43) 96 (81) 15 Trading assets..................... 312 5,155 5,467 474 (1,509) (1,035) Interest bearing deposits with financial institutions.......... 314 (250) 64 (84) (210) (294) Federal funds sold................. (56) (23) (79) 47 10 57 -------- ------- ------- ------- ------- ------- Total......................... (10,320) 13,702 3,382 27,415 (3,703) 23,712 -------- ------- ------- ------- ------- ------- Interest Expense: Money market checking.............. 320 (735) (415) 199 4 203 Money market savings............... (13) (19) (32) (82) (2) (84) Regular savings.................... (282) (202) (484) (265) (124) (389) Time deposits...................... 4,627 (1,845) 2,782 3,856 (178) 3,678 Short-term borrowings.............. (10,013) 3,332 (6,681) 13,280 (1,963) 11,317 Long-term debt..................... 269 138 407 (35) 17 (18) -------- ------- ------- ------- ------- ------- Total......................... (5,092) 669 (4,423) 16,953 (2,246) 14,707 -------- ------- ------- ------- ------- ------- Net Interest Revenue............... $ (5,228) $13,033 $ 7,805 $10,462 $(1,457) $ 9,005 ======== ======= ======= ======= ======= ======= The consolidated provision for loan and lease losses for 1999 was $4.4 million, down 25.9% from 1998 and 28.8% from 1997. More information on this subject is contained in the section on credit risk. Other income decreased 6.8% in 1999 to $204.1 million. This compares to $218.9 million in 1998 and $156.8 million in 1997. Improvements at the commercial banking and home equity lines of business were offset by declines at the mortgage bank. Other expenses in 1999 totaled $214.1 million, down 3.2% from 1998 and up 34.8% from 1997. The 1999 decrease in consolidated other expense of $7.1 million was mostly due to lower loan production costs at the mortgage bank, mitigated by operating expenses associated with higher commercial and home equity loan production. 23 26 CONSOLIDATED BALANCE SHEET ANALYSIS Total assets at year-end 1999 were $1.68 billion, down 13.6% from 1998 and up 12.3% from 1997. However, changes in the average balance sheet are a more accurate reflection of the actual changes in the level of activity on the balance sheet. Average assets were $1.65 billion in 1999, relatively unchanged from 1998 and up 30.8% from 1997. Although loans held for sale were down as a result of the decreased production activities at the Corporation's mortgage banking line of business, it was partially offset by the increased loan production at the commercial banking and home equity lines of business. The Corporation's commercial loans are extended primarily to midwest regional businesses. The Corporation also extends credit to consumers through installment loans and revolving credit arrangements. The majority of the remaining portfolio consists of residential mortgage loans (1-4 family dwellings) and mortgage loans on commercial property. Loans by major category at the end of the last five years were as follows: AT DECEMBER 31, -------------------------------------------------------- 1999 1998 1997 1996 1995 ---- ---- ---- ---- ---- (IN THOUSANDS) Commercial, financial and agricultural.... $443,985 $278,834 $212,095 $179,650 $150,312 Real estate construction.................. 121,803 97,253 73,279 48,991 36,126 Real estate mortgage...................... 115,265 123,980 222,818 214,696 108,351 Consumer.................................. 48,936 51,730 39,985 38,371 67,756 Direct lease financing.................... 3,890 6,375 78,079 62,372 60,979 Unearned income........................... (455) (1,181) (15,163) (11,030) (10,999) -------- -------- -------- -------- -------- Total................................ $733,424 $556,991 $611,093 $533,050 $412,525 ======== ======== ======== ======== ======== MATURITY DISTRIBUTION OF LOANS: AT DECEMBER 31, 1999 ------------------------------------------------ AFTER ONE BUT WITHIN WITHIN AFTER ONE YEAR FIVE YEARS FIVE YEARS TOTAL -------- ---------- ---------- ----- (IN THOUSANDS) Commercial, financial and agricultural.............. $105,045 $117,297 $221,643 $443,985 Real estate construction............................ 77,502 17,797 26,504 121,803 Real estate mortgage................................ 11,341 20,732 83,192 115,265 Consumer loans...................................... 4,141 27,383 17,412 48,936 Direct lease financing.............................. 2,777 658 -- 3,435 -------- -------- -------- -------- Total.......................................... $733,424 ======== Loans due after one year with: Fixed interest rates.............................. $218,010 Variable interest rates........................... 314,608 -------- Total.......................................... $532,618 ======== On average, investment securities decreased $4.2 million in 1999 to $44.1 million. The decline resulted from a change at the commercial bank to shift assets from investment securities to commercial loans. The carrying value of investments at December 31, 1999 includes $117 thousand of unrealized losses on available-for-sale securities. 24 27 MATURITY DISTRIBUTION OF INVESTMENT SECURITIES: AT DECEMBER 31, 1999 ------------------------------------------------- AFTER ONE AFTER FIVE BUT BUT WITHIN WITHIN WITHIN AFTER ONE YEAR FIVE YEARS TEN YEARS TEN YEARS -------- ---------- ---------- --------- (IN THOUSANDS) U.S. Treasury and government obligations.............. $ -- $7,664 $ -- $18,508 Obligations of states and political subdivisions...... 100 1,022 1,060 2,524 Mortgage-backed securities............................ -- 276 3,501 2,274 Other................................................. 579 -- -- -- ---- ------ ------ ------- Total............................................ $679 $8,962 $4,561 $23,306 ==== ====== ====== ======= Weighted Average Yield Held-to-maturity.................................... 6.65% 6.52% 7.08% 7.81% Available-for-sale.................................. 5.21% 6.29% 6.75% 6.83% Average yield represents the weighted average yield to maturity. The yield on state and municipal obligations has been calculated on a fully taxable equivalent basis, assuming a 35% tax rate. Deposits averaged $944.6 million during 1999, compared to $878.6 million in 1998 and $691.8 million in 1997. Demand deposits were down 6.2% on average, or $23.6 million from 1998. A significant portion of demand deposits is related to deposits at Irwin Union Bank which are associated with escrow accounts held on loans in the servicing portfolio of Irwin Mortgage. These escrow accounts averaged $283.9 million in 1999 and $342.2 million in 1998. Maturities of certificates of deposit of $100 thousand or more are set forth in the following table: AT DECEMBER 31, ------------------------------- 1999 1998 1997 ---- ---- ---- (IN THOUSANDS) Under 3 months.............................................. $ 92,965 $ 81,850 $60,379 3 to 6 months............................................... 28,387 17,107 10,123 6 to 12 months.............................................. 40,292 17,807 10,115 after 12 months............................................. 78,872 25,207 5,411 -------- -------- ------- Total.................................................. $240,516 $141,971 $86,028 ======== ======== ======= Short-term borrowings averaged $406.5 million in 1999, compared to $568.8 million in 1998 and $365.0 million in 1997. The decrease in 1999 is due to the decrease in mortgage loan closings in 1999. 25 28 The following table shows the distribution of the Corporation's short-term borrowings and the weighted average rates at the end of each of the last three years. Also provided are the maximum amount of borrowings and the average amounts of borrowings as well as weighted average interest rates for the last three years: REPURCHASE AGREEMENTS & DRAFTS PAYABLE FEDERAL HOME RELATED TO LOAN BANK LINES OF MORTGAGE COMMERCIAL BORROWINGS & CREDIT AND LOAN CLOSINGS PAPER FEDERAL FUNDS OTHER -------------- ---------- ------------- ---------- (IN THOUSANDS) Year Ended December 31: 1999........................................ $ 46,796 $21,894 $173,000 $231,413 1998........................................ 172,126 26,617 266,000 180,118 1997........................................ 240,659 16,375 142,650 112,591 Weighted average interest rates at year-end: 1999........................................ 5.35% 6.00% 5.46% 6.02% 1998........................................ 5.43 5.78 4.93 6.01 1997........................................ 5.88 6.00 6.18 6.87 Maximum amount outstanding at any month's end: 1999........................................ $162,251 $28,215 $249,500 $308,422 1998........................................ 301,849 29,691 316,200 249,519 1997........................................ 274,363 16,375 142,650 151,111 Average amount outstanding during the year: 1999........................................ $105,591 $24,810 $108,422 $167,665 1998........................................ 218,342 26,166 115,479 208,785 1997........................................ 237,953 12,738 48,823 65,490 Weighted average interest rate during the year: 1999........................................ 5.40% 5.82% 5.40% 5.45% 1998........................................ 5.84 6.05 5.63 6.20 1997........................................ 5.82 6.01 6.00 6.65 In 1999, the Corporation issued $30 million of subordinated debt securities which bear interest at a rate of 7.58% and mature in 2014. CAPITAL Shareholders' equity averaged $154.1 million in 1999, up 15.4% from 1998 and 24.8% from 1997. Year-end shareholders' equity of $159.3 million represented book value per share of $7.55, compared to $6.70 and $5.82 at December 31, 1998 and 1997, respectively. The Corporation paid an aggregate of $4.3 million in dividends on the Corporation's common stock in 1999, compared to $3.5 million in 1998 and $3.1 million in 1997. Prior to the adoption of a new mortgage banking accounting standard in the second quarter of 1995, mortgage banking accounting did not allow the full value of mortgage servicing rights to be reflected on the balance sheet. Since a significant portion of the Corporation's mortgage servicing portfolio was generated prior to the adoption of the new accounting standard, it represents substantial economic value which is not recorded on the balance sheet. Management estimated this value to be approximately $29.0 million after-tax or $1.37 per share at December 31, 1999. This estimate was based on the market value of servicing assets related to loans with similar interest rates and servicing fees. With the implementation of the new accounting standard in 1995, this off-balance sheet value will decline over future years and eventually be reduced to zero as the underlying loans pay off, servicing fees are collected, and the income from servicing the loans is fully accreted into earnings. 26 29 CAPITAL 1999 1998 1997 ---- ---- ---- (IN THOUSANDS) Tier 1 capital........................................... $ 207,627 $ 191,806 $ 169,366 Tier 2 capital........................................... 38,556 11,505 16,170 ---------- ---------- ---------- Total risk-based capital....................... 246,183 203,311 185,536 Risk weighted assets..................................... 1,823,633 1,649,227 1,249,385 Risk-based ratios: Tier 1 capital......................................... 11.39% 11.63% 13.56% Total capital.......................................... 13.50 12.25 14.85 Tier 1 leverage ratio.................................... 12.77 10.51 12.06 Ending shareholders' equity to assets.................... 9.48 7.46 8.55 Average shareholders' equity to assets................... 9.33 8.09 9.78 Capital is a major focus of regulatory attention, with both book and risk-based capital standards used as capital adequacy measures. Unless an institution has adequate capital in the opinion of the regulators, they may withhold approval for new activities or force additions to capital. Therefore, the Corporation considers both the regulators' viewpoint and its own analysis of the capital structure and leverage amounts that are consistent with underlying business risks. At year-end 1999, the Corporation's total risk-adjusted capital ratio was 13.5% compared to 10.0% which is required to be considered well capitalized by the regulators. The Corporation's ending equity to assets ratio for 1999 was 9.48%. However, as previously discussed, temporary conditions that existed at year-end make the average balance sheet ratio a more accurate measure of capital. The Corporation's average equity to assets for 1999 was 9.33%. In July 1999, the Corporation raised $30 million of 7.58%, 15-year subordinated debt which is callable in 10 years at par, to strengthen and add flexibility in the management of its capital base. The debt was privately placed. These funds qualify as Tier 2 capital. The securities are not convertible into common stock of the Corporation. To assist Irwin Union Bank in generating deposits in new markets, Irwin Financial Corporation initiated a program in 1999 to issue Irwin Financial non-coupon, convertible preferred shares to certain qualified investors thought to be in a position to support deposit growth. Under the program, each preferred share is issued for cash at approximately the market price of one common share. A preferred share automatically converts into one common share at a determined future date. If a banking branch reaches a specified level of deposits prior to the conversion date, the number of common shares into which a preferred share converts is increased by as much as 25%, depending upon the date on which the deposit level was attained. A maximum of approximately 400,000 shares of preferred stock are issuable under the program. Offerings for a portion of these shares are expected to be completed in the first quarter of 2000. In January 1997, the Corporation issued $50 million of 9.25% trust preferred securities through a trust created and controlled by the Corporation. The securities have an initial maturity of 30 years with a 19-year extension option which the Corporation can exercise at any point during the first 30 years. The securities are callable at par after five years, or immediately, in the event of an adverse tax development affecting the Corporation's classification of the securities for federal income tax purposes. The securities are not convertible into common stock of the Corporation. In 1999, the Corporation repurchased approximately 800,000 common shares. Over the past three years repurchases of $46 million of common stock were made in an effort to restructure capital to reach a more optimal mix between common equity and less expensive, hybrid forms of capital. 27 30 RISK MANAGEMENT As a financial intermediary, Irwin Financial Corporation is engaged in businesses which involve the assumption of financial risks including: - Credit risk - Liquidity risk - Interest rate risk Each line of business that assumes financial risk uses a formal process to manage this risk. In all cases, the objectives are to ensure that risk is contained within prudent levels and that we are adequately compensated for the level of risk assumed. The Chairman, the President, and the Chief Financial Officer of the parent company participate in each subsidiary's risk management process. CREDIT RISK The assumption of credit risk is a key source of earnings for the commercial banking and home equity lending lines of business. In addition, the mortgage banking business assumes some credit risk despite the fact that its mortgages are typically insured. The credit risk in the loan portfolios of the commercial bank and the home equity lending business have the most potential to have a significant effect on consolidated financial performance. The commercial bank and home equity lending business manage credit risk through the use of lending policies, credit analysis and approval procedures, periodic loan reviews, and personal contact with borrowers. Loans over a certain size are reviewed by a loan committee prior to approval. An allowance for loan losses is established as an estimate of the probable credit losses on the loans held by the Corporation. A specific allowance is determined by evaluating those loans which are either substandard or have the potential to become substandard. In general, commercial loans, mortgage loans, and leases are evaluated individually. Consumer loans, including home equity loans, are generally evaluated as a group. A specific allowance is set at a level which management considers sufficient to cover probable losses on these loans. A general allowance is determined by analyzing historical loss experience by loan type and then adjusting these loss factors for current conditions not reflected in prior experience. The allowance for loan losses is an estimate which is based on management's judgement combined with a quantitative process of evaluation and analysis. Loans and leases that are determined by management to be uncollectible are charged against the allowance. The allowance is increased by provisions against income and recoveries of loans and leases previously charged off. The table on page 29 analyzes the consolidated allowance for loan and lease losses over the past five years. Net charge-offs in 1999 were $1.7 million, down 11.1% from 1998, and 33.7% from 1997. Net charge-offs to average loans and leases was 0.27% compared to 0.33% in 1998 and 0.46% in 1997. At year-end, the allowance for loan and lease losses was 1.17% of outstanding loans and leases, compared to 1.78% in 1998 and 1.44% in 1997. Total nonperforming loans and leases at year-end were $4.3 million, compared to $11.7 million at the end of 1998 and $7.7 million at the end of 1997. Nonperforming loans and leases as a percent of total loans and leases were 0.59% at year-end 1999 compared to 2.11% in 1998 and 1.26% in 1997. The 1999 decline occurred primarily at the Corporation's mortgage bank in connection with a change in the classification of nonperforming loans to the "loans held for sale" category to more accurately reflect management's intent with respect to the ultimate disposition of these assets. These loans are carried at the lower of their cost or market value. Any impairment provision is recorded through the markdown of the loans to their market value. Other real estate owned totaled $3.8 million at December 31, 1999, up from $3.5 million in 1998 and $1.8 in 1997. Total nonperforming assets were $8.1 million, or 0.48% of total assets at December 31, 1999, as compared to $15.4 million, or 0.78%, at year-end 1998 and $9.5 million, or 0.64% at the end of 1997. 28 31 ANALYSIS OF ALLOWANCE FOR LOAN AND LEASE LOSSES: 1999 1998 1997 1996 1995 ---- ---- ---- ---- ---- (IN THOUSANDS) Loans and leases outstanding at end of period, net of unearned income.......... $733,424 $556,991 $611,093 $533,050 $412,525 ======== ======== ======== ======== ======== Average loans and leases for the period, net of unearned income.................. $642,435 $585,025 $569,325 $496,729 $369,220 ======== ======== ======== ======== ======== Allowance for possible loan and lease losses: Balance beginning of period............... $ 9,888 $ 8,812 $ 6,875 $ 5,033 $ 4,174 Charge-offs: Commercial, financial and agricultural loans................................ 646 246 800 495 845 Real estate mortgage loans.............. -- 232 356 37 2 Consumer loans.......................... 813 761 734 959 953 Lease financing......................... 772 1,263 1,255 883 690 -------- -------- -------- -------- -------- Total charge-offs.................... 2,231 2,502 3,145 2,374 2,490 -------- -------- -------- -------- -------- Recoveries: Commercial, financial and agricultural loans................................ 32 14 32 133 2 Real estate mortgage loans.............. -- -- 1 -- -- Consumer loans.......................... 307 362 246 214 197 Lease financing......................... 164 183 259 246 191 -------- -------- -------- -------- -------- Total recoveries..................... 503 559 538 593 390 -------- -------- -------- -------- -------- Net charge-offs........................... (1,728) (1,943) (2,607) (1,781) (2,100) Reduction due to sale of loans............ (3,126) (2,976) (1,694) (930) (239) Reclassification of loans to loans held for sale................................ (922) -- -- -- -- Provision charged to expense.............. 4,443 5,995 6,238 4,553 3,198 -------- -------- -------- -------- -------- Balance end of period..................... $ 8,555 $ 9,888 $ 8,812 $ 6,875 $ 5,033