10-Q 1 b43727wbe10vq.txt WARREN BANCORP INC. SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q [X] Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 or the quarterly period ended June 30, 2002 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 No. 0-17222 WARREN BANCORP, INC. (Exact Name of registrant as specified in the charter) MASSACHUSETTS 04-3024165 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 10 MAIN STREET, PEABODY, MASSACHUSETTS 01960 (Address of principal executive offices) (Zip Code) (978) 531-7400 (Registrant's telephone number, including area code) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such report(s), and (2) has been subject to such filing requirement for the past 90 days. Yes [x] No [ ] APPLICABLE ONLY TO CORPORATE ISSUERS: Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. Class Outstanding at August 9, 2002 --------------------------------------- ------------------------------ Common Stock, par value $.10 per share 7,446,311 WARREN BANCORP, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (In thousands, except share data)

See accompanying notes to unaudited consolidated financial statements. 2 WARREN BANCORP, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS (Dollars in thousands, except per-share data) (Unaudited)

See accompanying notes to unaudited consolidated financial statements. 3 CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY SIX MONTHS ENDED JUNE 30, 2002 (Dollars in thousands) (Unaudited)

See accompanying notes to unaudited consolidated financial statements. 4 CONSOLIDATED STATEMENTS OF CASH FLOWS (In thousands) (Unaudited)

See accompanying notes to unaudited consolidated financial statements. 5 WARREN BANCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS BASIS OF PRESENTATION The consolidated financial statements of Warren Bancorp, Inc. (the "Corporation" or "Warren") presented herein should be read in conjunction with the consolidated financial statements of the Corporation as of and for the year ended December 31, 2001. The accompanying consolidated financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in the annual financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been omitted pursuant to those rules and regulations, but the Corporation believes that the disclosures are adequate to make the information presented not misleading. The condensed consolidated balance sheet as of June 30, 2002, the condensed consolidated statement of stockholders' equity for the six months ended June 30, 2002, the condensed consolidated statements of cash flows for the six months ended June 30, 2002 and June 30, 2001, and the related condensed consolidated statements of operations for the three months ended and six months ended June 30, 2002 and June 30, 2001 are unaudited. In the opinion of management, the consolidated financial statements reflect all adjustments necessary for a fair presentation of the results for the interim periods presented. Interim results are not necessarily indicative of results for the full year. EARNINGS PER SHARE The components of basic and diluted EPS for the quarters and six months ended June 30, 2002 and 2001 are as follows:

BUSINESS SEGMENTS For internal reporting, planning and business purposes, the Corporation segments its operations into distinct business groups. An individual business group's profit contribution to the Corporation as a whole is determined based upon the Corporation's profitability reporting system which assigns capital and other balance sheet items and income statement items to each of the business groups. This segmentation mirrors the Corporation's organizational structure. Management accounting policies are in place for assigning revenues and expenses that are not directly incurred by the business groups, such as overhead, the results of asset allocations, and transfer revenues and expenses. Accordingly, the Corporation's business-segment 6 operating results will differ with other similar information published by other financial institutions. In addition, management accounting concepts are periodically refined and results may change to reflect these refinements. For purposes of this disclosure, operating segments are defined as components of an enterprise that are evaluated regularly by the chief operating decision maker in deciding how to allocate resources and in assessing performance. The Corporation's chief operating decision maker is the President and Chief Executive Officer of the Corporation. This disclosure has no effect on the Corporation's primary financial statements. The Corporation has identified its reportable operating business segments as the Corporate Banking Business, the Personal Banking Business and the Residential Mortgage Business. A description of each reportable business segment is discussed below: CORPORATE BANKING BUSINESS The Corporate Banking Business provides services to business customers in the Corporation's market area. These services include, but are not limited to, commercial real estate and construction loans, asset-based financing and cash management/deposit services. It services all loans in its business. PERSONAL BANKING BUSINESS The Personal Banking Business provides services to consumers in the Corporation's market area through its branch and ATM network. These services include, but are not limited to, home equity loans, installment loans, safe deposit boxes and an array of deposit services. RESIDENTIAL MORTGAGE BUSINESS The Residential Mortgage Business provides services to consumers in the Corporation's market area. These services include making adjustable-rate and fixed-rate mortgage loans. This group also services all loans held in its business and sells fixed-rate loans into the secondary market. NON-REPORTABLE SEGMENTS Non-reportable operating segments of the Corporation's operations that do not meet the qualitative and quantitative thresholds requiring disclosure are included in the Other category in the disclosure of business segments below. Revenues in these segments consist mainly of interest income. 7 Specific reportable segment information as of and for the quarters and six-month periods ended June 30, 2002 and 2001 is as follows (in thousands):

8 OTHER The Bank established as a subsidiary company in 1999 a real estate investment trust ("REIT"). The Corporation has become aware that the Massachusetts Department of Revenue (the "DOR") has sent a Notice of Intent to Assess additional state taxes plus penalties and interest to a number of other banks that have REIT subsidiaries. The DOR contends that dividend distributions from the REITs to the banks are fully taxable in Massachusetts. The banks contend that Massachusetts law provides for a dividends-received deduction equal to 95% of certain of those dividend distributions. The Bank applies the 95% deduction to the dividends it receives from its REIT subsidiary, and the positive impact of that deduction on the net income of the Corporation is as follows: 1999 -- $172,000; 2000 -- $320,000; 2001 -- $469,000; 2002 (through June 30) -- $240,000. No potential penalties or interest have been estimated. As of this date, the Bank has not received a Notice of Intent to Assess from the DOR. The likelihood of receiving and the timing of any notice, and the amount of assessment (including possible penalties and interest) if a notice is issued by the DOR to the Bank cannot be determined at this time. If the DOR assesses the Bank with additional state taxes with regard to the above, the Corporation will vigorously challenge the assessment. SUBSEQUENT EVENT On August 8, 2002, the Corporation entered into an Agreement and Plan of Merger with Banknorth Group, Inc. Under the terms of the agreement, for each share of Warren common stock, the Corporation's shareholders will receive either $15.75 in cash, without interest, or $15.75 in Banknorth common stock determined by dividing $15.75 by the average closing price of Banknorth common stock during the 20 trading-day period preceding the effective date of the merger. The Corporation's shareholders will have the opportunity to elect the form of consideration to be received for their shares of Warren common stock, subject to allocation procedures set forth in the merger agreement, which are intended to ensure that 50% of the outstanding shares of Warren common stock will be converted into the right to receive Banknorth common stock and 50% of the outstanding shares of Warren common stock will be converted into the right to receive cash. The transaction is intended to qualify as a reorganization for federal income tax purposes, and, as a result, the shares of Warren stock exchanged for Banknorth common stock are expected to be transferred on a tax-free basis. The transaction, which is expected to be completed by the end of the year, is subject to Warren shareholder and regulatory approvals, and other customary conditions. 9 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Certain statements in this Form 10-Q constitute "forward-looking statements" as that term is defined under the Private Securities Litigation Reform Act of 1995. The words "believe," "expect," "anticipate," "intend," "estimate," "plan," "assume" and other similar expressions which are predictions of or indicate future events and trends and which do not relate to historical matters identify forward-looking statements. Reliance should not be placed on forward-looking statements because they involve known and unknown risks, uncertainties and other factors, which are in some cases beyond the control of the Corporation and may cause the actual results, performance or achievements of the Corporation to differ materially from anticipated future results, performance or achievements expressed or implied by such forward-looking statements. Certain factors that might cause such differences include, but are not limited to, the following: interest rates may increase, adversely affecting the ability of borrowers to repay adjustable-rate loans and the Corporation's earnings and income which derive in significant part from loans to borrowers; unemployment in the Corporation's market area may increase, adversely affecting the ability of individual borrowers to repay loans; property values may decline, adversely affecting the ability of borrowers to repay loans and the value of real estate securing repayment of loans; and general economic and market conditions in the Corporation's market area may decline, adversely affecting the ability of borrowers to repay loans, the value of real estate securing repayment of loans and the Corporation's ability to make profitable loans. Any of the above may also result in lower interest income, increased loan losses, additional charge-offs and writedowns and higher operating expenses. These and other factors that might cause differences between actual and anticipated results, performance and achievements are discussed in greater detail in this Form 10-Q. GENERAL Warren Bancorp, Inc.'s operating results for the three and six months ended June 30, 2002 (the "2002 quarter" and "2002 period") reflect the operations of its only subsidiary, Warren Five Cents Savings Bank (the "Bank"). The Bank, which is wholly owned by the Corporation, operates as a community bank and is in the business of making individual and commercial loans to customers in its market area. The Corporation recorded a decreased profit for the 2002 period as compared to the six months ended June 30, 2001 (the "2001 period") primarily due to decreased spreads. Rates during the 2002 quarter were lower than the 2001 quarter. The yield on the one-year treasury constant maturity index decreased to 2.06% at June 30, 2002 from 3.72% at June 30, 2001, and prime rate decreased to 4.75% at June 30, 2002 from 6.75% at June 30, 2001. When general interest rates decrease, the Corporation's weighted average interest-rate spread and net yield on average earning assets will usually decrease. This is mainly because sources of funds, namely NOW and regular savings deposits, may not have their rates decrease at the same rate as the Corporation's assets. Also, demand deposits and stockholders' equity have no interest rate attached to them; therefore, their costs as a funding source do not decrease. As a result, net interest income decreased in the 2002 period. Also, included in the 2001 period was the receipt of state-tax refunds plus interest for the resolution of certain tax matters of prior years. Nonperforming loans were $84,000 at June 30, 2002 compared to zero at December 31, 2001. Management continues to monitor the nonperforming loan portfolio closely. If conditions in the Massachusetts' real estate market become unstable and values deteriorate, the amount of nonaccrual loans and real estate acquired through foreclosure would be expected to increase, resulting in lower interest income and increased loan losses, which could require additional loan loss provisions to be charged to operating income. Moreover, real estate acquired through foreclosure may give rise to additional charge-offs and writedowns and higher expenses for property taxes and other carrying costs. SUBSEQUENT EVENT -- MERGER AGREEMENT WITH BANKNORTH On August 8, 2002, the Corporation entered into an Agreement and Plan of Merger with Banknorth Group, Inc. Under the terms of the agreement, for each share of Warren common stock, the Corporation's shareholders will receive either $15.75 in cash, without interest, or $15.75 in Banknorth common stock determined by dividing $15.75 by the average closing price of Banknorth common stock during the 20 10 trading-day period preceding the effective date of the merger. The Corporation's shareholders will have the opportunity to elect the form of consideration to be received for their shares of Warren common stock, subject to allocation procedures set forth in the merger agreement, which are intended to ensure that 50% of the outstanding shares of Warren common stock will be converted into the right to receive Banknorth common stock and 50% of the outstanding shares of Warren common stock will be converted into the right to receive cash. The transaction is intended to qualify as a reorganization for federal income tax purposes, and, as a result, the shares of Warren stock exchanged for Banknorth common stock are expected to be transferred on a tax-free basis. The transaction, which is expected to be completed by the end of the year, is subject to Warren shareholder and regulatory approvals, and other customary conditions. ASSET/LIABILITY MANAGEMENT A primary objective of the Corporation's asset/liability management policy is to manage interest-rate risk over time to achieve a prudent level of net interest income in changing interest-rate environments. Management's strategies are intended to be responsive to changes in interest rates and to recognize market demands for particular types of deposit and loan products. These strategies are overseen by an internal Asset/Liability Management Committee and by the Bank's Board of Directors and the risks are managed with techniques such as simulation analysis, which measures the effect on net interest income of possible changes in interest rates, and "gap" analysis, using models similar to the one shown on the following page. The Corporation uses simulation analysis to measure exposure of net interest income to changes in interest rates over a one-year period. This period is measured because the Corporation is most vulnerable to changes in short-term (one year and under) rates. Simulation analysis involves projecting future interest income and expense under various rate scenarios. The Corporation's policy on interest-rate risk specifies that if short-term interest rates were to shift immediately up or down 200 basis points, estimated net interest income for the next 12 months should decline by less than 15%. This policy remained in effect during the quarter, and in management's opinion there were no material changes in interest rate risk since December 31, 2001, the date as of which the simulation analysis was performed. Certain shortcomings are inherent in a simulation analysis. Estimates of customer behavior to changing interest rates may differ significantly from actual. Areas of these estimates include loan prepayment speeds, shifting between adjustable-rate and fixed-rate loans, and activity within different categories of deposit products. Also, the ability of some borrowers to repay their adjustable-rate loans may decrease in the event of interest-rate increases. The following table summarizes the Corporation's interest-rate sensitivity position as of June 30, 2002. Assets and liabilities are classified as interest-rate sensitive if they have a remaining term to maturity of 0-12 months, or are subject to interest-rate adjustments within those time periods. Adjustable-rate loans and mortgage-backed securities are shown as if the entire balance came due on the repricing date. Estimates of fixed-rate loan and fixed-rate mortgage-backed security amortization and prepayments are included with rate sensitive assets. The following types of deposit accounts are assumed to have effective maturities as follows based on their past retention characteristics: NOW accounts-up to five years; cash manager and passbook plus accounts-up to six months; and regular savings accounts-up to greater than five years. None of these assets is considered a trading asset. 11 INTEREST-RATE SENSITIVITY POSITION

--------- (a) Other deposits consist of regular savings and N.O.W. accounts. 12 Interest-rate sensitivity statistics are static measures that do not necessarily take into consideration external factors which might affect the sensitivity of assets and liabilities and consequently cannot be used alone to predict the operating results of a financial institution in a changing environment. However, these measurements do reflect major trends and thus the Corporation's sensitivity to interest rates changes over time. LIQUIDITY The Bank seeks to ensure sufficient liquidity is available to meet cash requirements while earning a return on liquid assets. The Bank uses its liquidity primarily to fund loan and investment commitments, to supplement deposit flows and to meet operating expenses. The primary sources of liquidity are interest and amortization from loans, mortgage-backed securities and investments, maturities of investments, loan sales, deposits and Federal Home Loan Bank of Boston ("FHLBB") advances, which include a $15 million overnight line of credit as well as other overnight borrowings vehicles. The Bank also has access to the Federal Reserve Bank's ("FRB") discount window and may borrow from the Depositors Insurance Fund Liquidity Fund. During the 2002 period, the Bank did not use the Federal Reserve Bank discount window and did not borrow from the Depositors Insurance Fund Liquidity Fund. The Bank also uses the longer term borrowings facilities within its total available credit line with the FHLBB. Advances from the FHLBB, other than the overnight facility, were $5.7 million at June 30, 2002. During the 2002 period, the primary sources of liquidity were $53.2 million in loan sales, loan paydowns and amortization of $59.9 million, proceeds from maturities of investment securities of $9.6 million, and proceeds from payments of mortgage-backed securities of $1.9 million. Primary uses of funds were $97.3 million in residential, commercial real estate, commercial, and consumer loan originations, a $2.0 million decrease in borrowed funds, a $4.0 million decrease in deposits and a $12.0 million purchase of investment securities. At June 30, 2002, the Bank had $9.8 million in overnight investments. The primary source of liquidity for the Corporation is dividends from the Bank. Dividends paid and, when applicable, stock repurchases by the Corporation are the primary use of this liquidity. From time to time, the Bank has obtained time deposits in denominations of $100,000 and over. The following table summarizes maturities of time deposits of $100,000 or more outstanding at June 30, 2002: WITHIN ONE YEAR (IN THOUSANDS) --------------- Less than 3 months........................... $ 5,676 3 to 6 months................................ 2,549 6 to 12 months............................... 6,574 ------- 14,799 More than 12 months.......................... 8,718 ------- $23,517 ======= CAPITAL ADEQUACY Total stockholders' equity at June 30, 2002 was $44.4 million, an increase of $2.0 million from $42.4 million at December 31, 2001. Included in stockholders' equity at June 30, 2002 is an unrealized gain, net of tax, on securities available for sale, which increased stockholders' equity, of $898,000 as compared to $660,000 at December 31, 2001. Future interest-rate increases could reduce the fair value of these securities and reduce stockholders' equity. As a percentage of total assets, stockholders' equity was 9.66% at June 30, 2002 compared to 9.15% at December 31, 2001. The FRB's leverage capital-to-assets guidelines require the strongest and most highly rated bank holding companies to maintain at least a 3.00% ratio of Tier I capital to average consolidated assets. All other bank holding companies are required to maintain at least 4.00% to 5.00%, depending on how the FRB evaluates their condition. The FRB may require a higher capital ratio. At June 30, 2002, the FRB leverage capital ratio was 9.63% compared to 9.02% at December 31, 2001. 13 The FDIC's leverage capital-to-assets ratio guidelines are substantially similar to those adopted by the FRB and described above. At June 30, 2002, the Bank's leverage capital ratio, under FDIC guidelines, was 9.18% compared to 8.66% at December 31, 2001. The FRB and the FDIC have also imposed risk-based capital requirements on the Corporation and the Bank, respectively, which give different risk weightings to assets and to off-balance sheet assets such as loan commitments and loans sold with recourse. Both the FRB and FDIC guidelines require the Corporation and the Bank to have an 8.00% risk-based capital ratio. The Corporation's and the Bank's risk-based capital ratios were 13.08% and 12.52%, respectively, at June 30, 2002 compared to 12.43% and 11.98%, respectively at December 31, 2001, thus exceeding their risk-based capital requirements. As of June 30, 2002, the Bank's total risk-based capital ratio, Tier I risk-based capital ratio and leverage capital ratio were 12.52%, 11.27%, and 9.18%, respectively. Based on these capital ratios, the Bank is considered to be "well capitalized." FINANCIAL CONDITION The Corporation's total assets decreased to $459.7 million at June 30, 2002 from $463.6 million at December 31, 2001. Decreases occurred in mortgage-backed securities, residential mortgage loans and receivables due from mortgage investors, while increases occurred in cash and cash equivalents, consumer loans, and commercial real estate loans. DUE FROM MORTGAGE INVESTORS Due from mortgage investors was zero at June 30, 2002 compared to $13.0 million at December 31, 2001. This represented the amount owed to the Corporation by mortgage investors for loans sold. INVESTMENTS AND MORTGAGE-BACKED SECURITIES Investment securities and mortgage-backed securities consisting of available-for-sale, held-to-maturity and cost-basis investments, increased to $65.3 million at June 30, 2002 from $64.4 million at December 31, 2001. The increase is the result of a net increase of the amortized cost of U.S. Government Agencies and an increase in the market value of investment securities available for sale. The amortized cost of mortgage-backed securities decreased to $7.9 million at June 30, 2002 from $9.8 million at December 31, 2001 due to principal paydowns. Future increases in interest rates could reduce the value of these investments. 14 INVESTMENTS AT JUNE 30, 2002 ARE AS FOLLOWS:

LOANS AND LOANS HELD FOR SALE Loans held for sale decreased by $6.3 million during the 2002 period to $7.2 million at June 30, 2002. Loans increased by $3.6 million during the 2002 period to $345.3 million at June 30, 2002. This increase is the result of increases in commercial real estate and consumer loans offset by a decrease in residential mortgage loans. Commercial real estate, commercial construction, and commercial loans typically earn higher yields than residential mortgage loans, but usually carry higher risk due to loan size. The following table sets forth the classification of the Corporation's loans as of June 30, 2002 and December 31, 2001 (in thousands):

Residential mortgage loan originations during the 2002 period were $42.6 million compared to $58.2 million in the 2001 period. The Corporation originated $30.9 million in fixed-rate loans during the 2002 period compared to $48.4 million during the 2001 period. Adjustable-rate loans totaling $11.7 million were originated during the 2002 period compared to $9.8 million during the 2001 period. The Corporation sold loans totaling $39.9 million during the 2002 period compared to $51.8 million sold in the 2001 period. 15 CREDIT QUALITY IMPAIRED AND NONPERFORMING LOANS Loans are deemed by the Corporation to be impaired when, based on current information and events, it is probable that the Corporation will be unable to collect all amounts due according to the contractual terms of the original loan agreement. Generally, nonaccruing loans are deemed impaired. Large groups of homogeneous loans, such as smaller balance residential mortgage and consumer installment loans are collectively evaluated for impairment. Typically, the maximum delay in receiving payments according to the contractual terms of the loan that can occur before a loan is considered impaired is ninety days. Impaired loans are analyzed and categorized by level of credit risk and collectibility in order to determine their related allowance for loan losses. At June 30, 2002 there were three loans considered impaired and performing totaling $1.8 million and one loan for $84,000 considered impaired and nonperforming, compared to three loans considered impaired and performing totaling $1.8 million at December 31, 2001. Loans past due 90 days or more, or past due less than 90 days but in nonaccrual status were $84,000 at June 30, 2002 compared to zero at December 31, 2001. Accrual of interest on loans is discontinued either when a reasonable doubt exists as to that the full, timely collection of principal or interest or when the loans become contractually past due by ninety days or more, unless they are adequately secured and are in the process of collection. When a loan is placed on nonaccrual status, all interest previously accrued but not collected is reversed against current period interest income. Income on such loans is recognized to the extent that cash is received and where the ultimate collection of principal and interest is probable. Following collection procedures, the Corporation generally institutes appropriate action to foreclose the property or acquire it by deed in lieu of foreclosure. The table below details nonperforming loans at:

16 ALLOWANCE FOR LOAN LOSSES The following table presents the activity in the allowance for loan losses for the six months ended June 30, 2002 and June 30, 2001 (dollars in thousands):

Notwithstanding the foregoing allocations, the entire allowance for loan losses is available to absorb charge-offs in any category of loans. Loan losses are charged against the allowance when management believes that the collectibility of the loan principal is doubtful. Balances in the allowance for loan losses are determined on a periodic basis by management and the Loan Committee of the Board of Directors with assistance from a third-party credit-review consulting firm. Management uses a consistent systematic process that takes into consideration specific and general portfolio risk, economic conditions and the current regulatory environment. For impaired loans, management quantifies potential losses. For all other loans a grading system is used based on assessed credit risk, and loss percentages are applied to these loans. The loss percentages are determined by reviewing historic loss trends in each grade category and taking into consideration industry and regulatory norms, current economic conditions, delinquency levels, experience of staff and other trends. In addition to the above components, management applies an unallocated allowance that is not attributable to any specific loan or loan grade. This allowance is based on various factors. Among the factors are: the risk characteristics of the loan portfolio generally; general economic trends; assessment of the current business cycle; credit quality trends in relation to current economic conditions; trends in the outlook of banking regulators with respect to allowance for loan losses and supervisory concerns in general; and 17 industry trends with respect to levels of allowance for loan losses. For purposes of the table on the preceding, the unallocated allowance is reallocated to specific categories on a "pro-rata" basis. Assessing the adequacy of the allowance for loan losses involves substantial uncertainties and is based upon management's evaluation of the amounts required to meet estimated charge-offs in the loan portfolio after weighting the above factors. Because the allowance for loan losses is based on various estimates and includes a high degree of judgment, subsequent changes in general economic conditions and the economic prospects of the borrowers may require changes in those estimates. The associated provision for loan losses is the amount required to bring the allowance for loan losses to the balance considered necessary by management at the end of the period after accounting for the effect of loan charge-offs (which decrease the allowance) and loan-loss recoveries (which increase the allowance). The allowance for loan losses included above attributable to $1.9 million of impaired loans, all of which is measured using the fair value method, is $182,000 at June 30, 2002. OTHER ASSETS Included in other assets at June 30, 2002 and December 31, 2001 are $832,000 and $1.0 million, respectively, of deferred income taxes receivable. LIABILITIES Deposits decreased to $394.4 million at June 30, 2002 from $398.3 million at December 31, 2001. The following table sets forth the classification of the Corporation's deposits as of June 30, 2002 and December 31, 2001 (in thousands):

Federal Home Loan Bank of Boston advances were $5.7 million at June 30, 2002 and December 31, 2001. Securities sold under agreement to repurchase were $11.4 million at June 30, 2002 and $13.4 million at December 31, 2001. LEGAL AND OFF-BALANCE SHEET RISKS Various legal claims arise from time to time in the course of business of the Corporation and its subsidiaries. At June 30, 2002, there were no material legal claims against the Corporation or its subsidiaries. The Corporation is party to financial instruments with off-balance sheet risk in the normal course of business to meet the financial needs of its customers and to reduce its own exposure to fluctuations of interest rates. These financial instruments include commitments to originate loans, unused lines of credit, standby letters of credit, recourse arrangements on sold assets and forward commitments to sell loans. The financial instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the consolidated balance sheets. 18 RESULTS OF OPERATIONS -- FOR THE THREE MONTHS ENDED JUNE 30, 2002 COMPARED TO THE THREE MONTHS ENDED JUNE 30, 2001 GENERAL The Corporation recorded a profit for the 2002 quarter of $1.5 million compared to a profit for the 2001 quarter of $2.0 million. The decrease in the 2002 quarter profit is primarily due to decrease spreads as a result of lower interest rates in the 2002 quarter and increases in non-interest expenses. Also included in the 2001 quarter was the receipt of $467,000 of state-tax refunds plus interest ($294,000, or $.04 per share, net of applicable taxes) for the resolution of certain tax matters of prior years. Net interest income for the 2002 and 2001 quarters was $4.8 million and $5.0 million, respectively. The weighted average interest rate spread for the 2002 quarter was 4.39% compared to 4.45% for the 2001 quarter. The net yield on average earning assets was 4.51% for the 2002 quarter and 4.68% for the 2001 quarter. The return on average assets and the return on average stockholders' equity were 1.35% and 14.07%, respectively, for the 2002 quarter compared to 1.81% and 20.66%, respectively, for the 2001 quarter. INTEREST AND DIVIDEND INCOME Total interest and dividend income decreased to $6.7 million for the 2002 quarter from $8.5 million for the 2001 quarter. Interest on loans decreased to $5.9 million for the 2002 quarter from $7.6 million for the 2001 quarter. The average loan yield decreased to 6.94% for the 2002 quarter from 8.11% for the 2001 quarter and average loans outstanding decreased during the 2002 quarter as compared to the 2001 quarter. Interest and dividends on investments was $603,000 for the 2002 quarter and $706,000 in the 2001 quarter. The average amount of investments held increased and the average yield on investments decreased to 3.11% for the 2002 quarter from 6.13% for the 2001 quarter. Mortgage-backed securities income decreased to $121,000 in the 2002 quarter from $199,000 in the 2001 period due to a decrease in the average amount of mortgage-backed securities held due to paydowns and a decrease in yield to 5.77% in the 2002 quarter from 7.43% in the 2001 quarter. INTEREST EXPENSE Interest on deposits decreased to $1.7 million for the 2002 quarter from $3.2 million for the 2001 quarter. The average balance of deposits increased in the 2002 quarter, and the average cost of deposits decreased to 1.81% for the 2002 quarter from 3.37% for the 2001 quarter. Interest on borrowed funds and escrow deposits of borrowers decreased to $119,000 from $303,000 for the 2002 and 2001 quarters. The average borrowings decreased and the average cost decreased to 1.91% for the 2002 quarter from 4.15% in the 2001 quarter. NON-INTEREST INCOME Total non-interest income for the 2002 quarter was $689,000 compared to $703,000 for the 2001 quarter. Customer service fees were $517,000 in the 2002 quarter and $322,000 in the 2001 quarter. Included in this change is an increase in commissions for selling annuities and an increase in general deposit fees due to increases in prices and deposit account activity. The gain from the sale of mortgage loans was $171,000 in the 2002 quarter compared to $180,000 in the 2001 quarter. Also included in non-interest income in the 2001 quarter is $200,000 of pre-tax interest for the resolution of certain tax matters of prior years. NON-INTEREST EXPENSE Total non-interest expense increased to $3.3 million in the 2002 quarter from $3.0 million in the 2001 quarter. Salaries and employee benefits increased to $2.0 million in the 2002 quarter from $1.8 million in the 2001 quarter. This increase is primarily due to salary increases, the filling of vacant positions, and increases in benefits-related expenses. Office occupancy and equipment has increased from $353,000 in the 2002 quarter from $320,000 in the 2001 quarter due to write-offs of existing computer equipment which was retired during the quarter. Other expense was $601,000 in the 2002 quarter and $519,000 in the 2001 quarter. 19 The increase is due to increases in costs associated with the general operations of the Corporation including ATM expense, check processing, and other volume-related expenses. INCOME TAX EXPENSE The Corporation's tax rate increased to 30.6% in the 2002 quarter from 27.2% in the 2001 quarter. Included in income tax expense for 2002 quarter is a decrease in tax valuation reserves. Included in the 2001 quarter is $176,000 reduction of state tax expense, net of federal tax, due to resolution of certain tax matters of prior years. RESULTS OF OPERATIONS -- FOR THE SIX MONTHS ENDED JUNE 30, 2002 COMPARED TO THE SIX MONTHS ENDED JUNE 30, 2001 GENERAL The Corporation recorded a profit for the 2002 period of $3.1 million compared to a profit for the 2001 period of $3.8 million. The decrease in the 2002 period profit is primarily due to decreased spreads as a result of lower interest rates in the 2002 period and increase in non-interest expenses. Also included in the 2001 period was the receipt of $467,000 of state-tax refunds plus interest ($294,000, or $.04 per share, net of applicable taxes) for the resolution of certain tax matters of prior years. Net interest income for the 2002 and 2001 periods was $9.6 million and $10.0 million, respectively. The weighted average interest rate spread for the 2002 period was 4.34% compared to 4.50% for the 2001 period. The net yield on average earning assets was 4.47% for the 2002 period and 4.73% for the 2001 period. The return on average assets and the return on average stockholders' equity were 1.36% and 14.26%, respectively, for the 2002 period compared to 1.71% and 19.49%, respectively, for the 2001 period. INTEREST AND DIVIDEND INCOME Total interest and dividend income decreased to $13.7 million for the 2002 period from $17.0 million for the 2001 period. Interest on loans decreased to $12.3 million for the 2002 period from $15.1 million for the 2001 period. Average loans outstanding decreased during the 2002 period while the average loan yield decreased to 7.06% for the 2002 period compared to 8.26% for the 2001 period. Interest and dividends on investments was $1.1 and $1.5 million for the 2002 and 2001 periods, respectively. The average amount of investments held increased and the average yield on investments decreased to 3.27% for the 2002 period from 6.34% for the 2001 period. Mortgage-backed securities income decreased to $258,000 in the 2002 period from $416,000 in the 2001 period due to a decrease in the average amount of mortgage-backed securities held due to paydowns and a decrease in yield to 5.81% in the 2002 period from 7.54% in the 2001 period. INTEREST EXPENSE Interest on deposits decreased to $3.9 million for the 2002 period from $6.5 million for the 2001 period. This decrease was related to a decrease in the average cost of deposits to 2.05% for the 2002 period from 3.47% for the 2001 period despite an increased average balance of deposits. Interest on borrowed funds and escrow deposits of borrowers decreased to $228,000 in the 2002 period from $523,000 in the 2001 period. The average cost decreased to 2.01% in the 2002 period from 4.32% in the 2001 period, and the average balance of borrowed funds decreased. NON-INTEREST INCOME Total non-interest income for the 2002 and 2001 periods was $1.2 million. Customer service fees increased to $861,000 in the 2002 period from $610,000 in the 2001 period. This increase is due to an increase in commissions for selling annuities and an increase in general deposit fees due to increases in prices and deposit account activity. The gain from the sale of mortgage loans was $298,000 in the 2002 period compared to $368,000 in the 2001 period. Also included in non-interest income in the 2001 period is $200,000 of pre-tax interest for the resolution of certain tax matters of prior years. A $40,000 pre-tax recovery of an investment written off several years ago is also reflected in the 2001 period. 20 NON-INTEREST EXPENSE Total non-interest expense was $6.4 million in the 2002 period and $5.7 million in the 2001 period. Salaries and employee benefits increased to $3.9 million in the 2002 period from $3.5 million in the 2001 period. This increase is primarily due to salary increases, the filling of vacant positions and increases in benefits-related expenses. Occupancy and equipment increased in the 2002 period to $686,000 from $651,000 in the 2001 period due to write offs of existing computer equipment, which was retired during the period. Other expense increased to $1.2 million in the 2002 period from $1.0 million in the 2001 period due to increases in costs associated with the general operations of the Corporation including ATM expense, check processing, and other volume-related expenses. INCOME TAX EXPENSE The Corporation's tax rate decreased in the 2002 period to 30.6% from 30.8% in the 2001 period. Included in income tax expense for the 2002 period is a decrease in tax valuation reserves. Included in income tax expense during the 2001 period is $176,000 reduction of state tax expense, net of federal tax, due to resolution of certain tax matters of prior years. 20 WARREN BANCORP, INC. AND SUBSIDIARIES PART II -- OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS None ITEM 2. CHANGES IN SECURITIES None ITEM 3. DEFAULTS UPON SENIOR SECURITIES None ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS ANNUAL MEETING -- MAY 1, 2002 A. ELECTION OF DIRECTORS TERM TO EXPIRE IN 2005

OTHER DIRECTORS TERM TO EXPIRE IN 2003 TERM TO EXPIRE IN 2004 ---------------------- ---------------------- Stephen J. Connolly, IV Francis L. Conway Robert R. Fanning, Jr. Arthur E. Holden Paul M. Peduto Stephen G. Kasnet John R. Putney Linda Lerner George W. Phillips John H. Womack B. PROPOSAL TO APPROVE THE WARREN BANCORP, INC. 2002 STOCK OPTION AND INCENTIVE PLAN FOR AGAINST ABSTAIN --------- ------- ------- 5,545,042 951,611 27,038 ITEM 5. OTHER INFORMATION None ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K On May 20, 2002 the Corporation filed a current report on Form 8-K regarding a change in its certifying accountant. 21 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. WARREN BANCORP, INC. DATE: August 12, 2002 By: /s/ John R. Putney ------------------------------------- John R. Putney President and Chief Executive Officer DATE: August 12, 2002 By: /s/ Paul M. Peduto ------------------------------------- Paul M. Peduto Treasurer (Principal Financial Officer and Principal Accounting Officer) 22

WARREN BANCORP INC 10-Q