As filed with the Securities and Exchange Commission on July 22, 2002
Registration No. 333-91248
================================================================================
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
---------------
Amendment No. 1
to
Form S-4
REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933
---------------
PROSPERITY BANCSHARES, INC.
(Exact name of registrant as specified in its charter)
Texas 6022 74-2331986
(State or other jurisdiction of (Primary Standard Industrial (I.R.S. Employer
incorporation or organization) Classification Code Number) Identification No.)
4295 San Felipe
Houston, Texas 77027
(713) 693-9300
(Address, including zip code, and telephone number, including area code,
of registrant's principal executive offices)
David Zalman
4295 San Felipe
Houston, Texas 77027
(713) 693-9300
(Name, address, including zip code, and telephone
number, including area code, of agent for service)
---------------
Copies to:
Charlotte M. Rasche Donald E. Wood
Bracewell & Patterson, L.L.P. Locke Liddell & Sapp LLP
South Tower Pennzoil Place JP Morgan Chase Tower
711 Louisiana Street 600 Travis Street
Suite 2900 Suite 3400
Houston, Texas 77002 Houston, Texas 77002
---------------
Approximate date of commencement of proposed sale of the securities to the
public: As soon as practicable after this Registration Statement becomes
effective and all other conditions to the proposed merger described herein have
been satisfied or waived.
If any of the Securities being registered on this Form are being offered in
connection with the formation of a holding company and there is compliance with
General Instruction G, check the following box: [_]
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, check the following box and
list the Securities Act registration statement number of the earlier effective
registration statement for the same offering: [_]
If this Form is a post-effective amendment filed pursuant to Rule 462(d)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering: [_]
CALCULATION OF REGISTRATION FEE
====================================================================================================================================
Proposed maximum Proposed maximum
Title of each class of securities to be registered Amount to be offering price aggregate Amount of
registered (1) per share offering price (3) registration fee
------------------------------------------------------------------------------------------------------------------------------------
Common Stock, $1.00 par value ..................... 2,585,864 (2) $18,833,909 $1,733
====================================================================================================================================
(1) Based upon an estimate of the maximum number of shares of common stock of
Prosperity Bancshares, Inc. to be issued pursuant to the Agreement and Plan
of Reorganization dated as of May 1, 2002 by and between Prosperity and
Paradigm Bancorporation, Inc.
(2) Not applicable.
(3) Estimated solely for the purpose of determining the registration fee in
accordance with Rule 457(f)(2) under the Securities Act, based upon the book
value of the Paradigm common stock of $7.93 per share as of May 31, 2002
multiplied by the maximum number of shares of Paradigm common stock to be
acquired by Prosperity in the merger described herein.
---------------
The Registrant hereby amends this Registration Statement on such date or
dates as may be necessary to delay its effective date until the Registrant shall
file a further amendment which specifically states that this Registration
Statement shall thereafter become effective in accordance with Section 8(a) of
the Securities Act of 1933 or until this Registration Statement shall become
effective on such date as the Commission, acting pursuant to said Section 8(a),
may determine.
================================================================================
[Logo of Paradigm] [Logo of Prosperity]
Proxy Statement Prospectus of
for the Special Meeting Prosperity Bancshares, Inc.
of Shareholders of In Connection with an Offering of
Paradigm Bancorporation, Inc. Shares of its Common Stock
The boards of directors of Prosperity Bancshares, Inc. and Paradigm
Bancorporation, Inc. have unanimously approved the merger of Paradigm with and
into Prosperity. If the merger is completed, Paradigm shareholders will be
entitled to receive for each share of Paradigm common stock they own up to
1.08658 shares of Prosperity common stock in the following manner: (i) 1.05489
shares of Prosperity common stock which will be issued upon completion of the
merger and (ii) up to an additional 0.03169 shares of Prosperity common stock,
which will be deposited into a holdback escrow on behalf of Paradigm
shareholders for possible future distribution to you based on whether and to the
extent that certain specified loans of Paradigm are repaid or upgraded within
three years after completion of the merger, as further described in this proxy
statement-prospectus.
Based on the closing price of Prosperity common stock on July 18, 2002 of
$17.69 and a total exchange ratio of 1.08658, the per share value of the
consideration to be received by Paradigm shareholders as of that date would be
$19.22 and the total transaction value would be approximately $45.6 million. Of
this amount, Paradigm shareholders would receive consideration with a value of
$18.66 per share upon completion of the merger and $0.56 per share would be held
in escrow. If the merger were completed as of the date of this proxy
statement-prospectus, a total of 2,505,379 shares of Prosperity common stock
would be issued to Paradigm shareholders upon completion of the merger and
75,270 shares of Prosperity common stock would be deposited into escrow. As a
result, Paradigm shareholders would own approximately 13.4% of the Prosperity
common stock outstanding on a fully diluted basis immediately after the merger.
The exchange ratio is subject to possible upward adjustment in the event
that the price of a share of Prosperity common stock falls below a pre-agreed
level. Consequently, as a Paradigm shareholder you will not know the exact
number of shares or value of Prosperity common stock you will receive in the
merger at the time you vote on the merger.
An investment in the Prosperity common stock in connection with the merger
involves risks. See "Risk Factors" beginning on page 28.
Your board of directors believes that the merger with Prosperity is in the
best interests of Paradigm and you, our shareholders. Accordingly, the board
unanimously recommends that you vote "FOR" the merger.
/s/ Charles J. Howard, M.D.
------------------------------
Charles J. Howard, M.D.
Chairman of the Board
Paradigm Bancorporation, Inc.
--------------------------------------------------------------------------------
Neither the Securities and Exchange Commission nor any state securities
commission has approved or disapproved of the securities to be issued under this
proxy statement-prospectus or determined if this proxy statement-prospectus is
accurate or adequate. Any representation to the contrary is a criminal offense.
The securities that Prosperity is offering through this document are not savings
or deposit accounts or other obligations of its bank subsidiary, and the
securities are not insured by the Federal Deposit Insurance Corporation, the
Bank Insurance Fund or any other governmental agency.
--------------------------------------------------------------------------------
Proxy statement-prospectus dated July 22, 2002
and first mailed to Paradigm shareholders on July 24, 2002
[LOGO of Paradigm]
------------------------------------
PARADIGM BANCORPORATION, INC.
NOTICE OF SPECIAL MEETING OF SHAREHOLDERS
TO BE HELD ON AUGUST 26, 2002
-----------------------------------
Notice is hereby given that a special meeting of shareholders of Paradigm
Bancorporation, Inc., a Texas corporation, will be held on August 26, 2002, at
4:00 p.m., local time, at the Gladebrook Banking Center, 3934 FM 1960 West,
Suite 330, Houston, Texas for the following purposes:
1. To consider and vote upon a proposal to approve the Agreement
and Plan of Reorganization dated May 1, 2002 by and between Prosperity
Bancshares, Inc. and Paradigm. The merger agreement provides that Paradigm
will merge with and into Prosperity, and shareholders of Paradigm will
receive for each share of Paradigm common stock up to 1.08658 shares of
Prosperity common stock in the following manner: (1) 1.05489 shares of
Prosperity common stock to be issued to Paradigm shareholders upon
completion of the merger and (2) 0.03169 shares of Prosperity common stock
to be deposited in escrow for possible future distribution to Paradigm
shareholders. A copy of the merger agreement is attached to the
accompanying proxy statement-prospectus as Appendix A.
2. To transact such other business as may properly come before the
special meeting or any adjournments or postponements of the special
meeting.
Any action may be taken on the foregoing proposals at the special
meeting on the date specified above, or on any date or dates to which the
special meeting may be adjourned or postponed. The close of business on July 17,
2002 has been fixed as the record date for determining those shareholders
entitled to vote at the special meeting or any adjournments or postponements of
the special meeting. A complete list of shareholders entitled to vote at the
special meeting will be available at the main office of Paradigm during the 10
days prior to the special meeting, as well as at the special meeting.
By Order of the Board of Directors,
/s/ William H. Fagan, M.D.
-----------------------------------
William H. Fagan, M.D.
Secretary
Houston, Texas
July 22, 2002
Your Vote is Very Important
A proxy card is enclosed. Whether or not you plan to attend the special
meeting, please complete, sign and date the enclosed proxy card and promptly
mail it in the enclosed envelope. You may revoke your proxy card in the manner
described in the proxy statement-prospectus at any time before it is exercised.
If you attend the special meeting, you may vote in person if you wish, even if
you have previously returned your proxy card.
The Board of Directors of Paradigm unanimously recommends that you vote
FOR approval of the merger agreement.
PLEASE NOTE
We have not authorized anyone to provide you with any information other
than the information included in this document and the documents to which we
refer you. If someone provides you with other information, please do not rely on
it as being authorized by us.
This proxy statement-prospectus has been prepared as of July 22, 2002.
There may be changes in the affairs of Paradigm or Prosperity since that date
which are not reflected in this document.
HOW TO OBTAIN ADDITIONAL INFORMATION
This proxy statement-prospectus incorporates important business and
financial information about Prosperity that is not included in or delivered with
this document. This information is described on page 101 under "Where You Can
Find More Information." You can obtain free copies of this information by
writing or calling:
Dan Rollins
Senior Vice President
Prosperity Bancshares, Inc.
4295 San Felipe
Houston, Texas 77027
Telephone (713) 693-9300
Facsimile (713) 693-9309
To obtain timely delivery of the documents, you must request the
information by August 19, 2002.
TABLE OF CONTENTS
Page
----
QUESTIONS AND ANSWERS ABOUT THE MERGER........................................................................ 1
SUMMARY....................................................................................................... 3
The Companies............................................................................................. 3
The Merger................................................................................................ 3
What You Will Receive in the Merger....................................................................... 3
Effect of the Merger on Paradigm Stock Options and Stock Appreciation Rights.............................. 4
The Exchange of Paradigm Common Stock for Prosperity Common Stock Will Generally Be
Tax-Free to Shareholders......................................................................... 4
Paradigm's Financial Advisor Has Opined that the Merger is Fair to Shareholders........................... 5
Ownership of Prosperity After the Merger.................................................................. 5
Comparative Market Prices of Common Stock................................................................. 5
Dissenters' Appraisal Rights.............................................................................. 5
Our Reasons for the Merger................................................................................ 6
Special Meeting of Paradigm Shareholders.................................................................. 6
Record Date; Majority Shareholder Vote Required........................................................... 6
Recommendation of Paradigm's Board to Shareholders........................................................ 7
Members of Paradigm's Management are Expected to Vote Their Shares For Approval of the
Merger Agreement................................................................................. 7
Effective Time of the Merger.............................................................................. 7
Exchange of Stock Certificates............................................................................ 7
The Distribution of a Portion of the Shares of Prosperity Common Stock to be Issued in the
Merger is Subject to the Terms of a Holdback Escrow Agreement.................................... 7
Conditions to Completion of the Merger.................................................................... 8
Regulatory Approvals...................................................................................... 8
Waiver, Amendment and Termination......................................................................... 9
Expenses and Termination Fees............................................................................. 10
Management and Operations After the Merger................................................................ 10
Some of the Directors and Officers of Paradigm Have Financial Interests in the Merger that
Differ from Your Interests....................................................................... 10
Your Rights as a Shareholder of Prosperity will be Different than as a Shareholder of Paradigm............ 11
Recent and Pending Prosperity Acquisitions................................................................ 11
Recent Developments....................................................................................... 11
SELECTED HISTORICAL CONSOLIDATED FINANCIAL DATA OF PROSPERITY................................................. 14
SELECTED HISTORICAL CONSOLIDATED FINANCIAL DATA OF PARADIGM................................................... 17
UNAUDITED PRO FORMA CONSOLIDATED FINANCIAL STATEMENTS......................................................... 19
Summary of Historical and Pro Forma Per Share Selected Financial Data..................................... 26
Comparative Stock Prices.................................................................................. 27
RISK FACTORS.................................................................................................. 28
A WARNING ABOUT FORWARD-LOOKING STATEMENTS.................................................................... 32
PARADIGM SPECIAL MEETING...................................................................................... 33
Purpose ................................................................................................. 33
Date, Place and Time of Special Meeting................................................................... 33
Shares Entitled to Vote, Quorum and Vote Required......................................................... 33
Voting Procedures and Revocation of Proxies............................................................... 33
Other Matters to be Considered............................................................................ 34
Solicitation of Proxies and Expenses...................................................................... 34
DESCRIPTION OF THE TRANSACTION................................................................................ 35
Terms of the Merger....................................................................................... 35
Holdback Escrow Agreement................................................................................. 36
Effect of the Merger on Paradigm Stock Options and Stock Appreciation Rights.............................. 36
Background of the Merger.................................................................................. 37
Recommendation of the Paradigm Board and Paradigm's Reasons for the Merger................................ 38
Prosperity's Reasons for the Merger....................................................................... 39
Opinion of Paradigm's Financial Advisor................................................................... 40
Exchange of Paradigm Stock Certificates................................................................... 45
Effective Time of the Merger.............................................................................. 46
TABLE OF CONTENTS
(continued)
Page
----
Conduct of Business Pending Effective Time............................................................. 46
Conditions to Completion of the Merger................................................................. 47
Additional Agreements.................................................................................. 48
Representations and Warranties......................................................................... 49
Financial Interests of Paradigm Directors and Officers in the Merger................................... 50
Employee Matters....................................................................................... 51
Amendment and Termination.............................................................................. 51
Expenses............................................................................................... 52
Termination Fee........................................................................................ 52
Nasdaq Stock Market Listing............................................................................ 53
Material Federal Income Tax Consequences............................................................... 53
Dissenters' Rights of Appraisal and Related Issues..................................................... 55
Accounting Treatment................................................................................... 56
Restrictions on Resales of Prosperity Common Stock..................................................... 56
Regulatory Approvals................................................................................... 57
MANAGEMENT AND OPERATIONS AFTER THE MERGER...................................................................... 57
COMPARISON OF RIGHTS OF SHAREHOLDERS OF PROSPERITY AND PARADIGM................................................. 59
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS OF PARADIGM.............................................................................. 64
Overview............................................................................................... 64
Results of Operations.................................................................................. 65
Financial Condition.................................................................................... 71
BUSINESS OF PARADIGM............................................................................................ 86
General .............................................................................................. 86
Bank Activities........................................................................................ 86
Competition............................................................................................ 86
Properties............................................................................................. 87
Employees.............................................................................................. 88
Legal Proceedings...................................................................................... 88
Supervision and Regulation............................................................................. 88
BENEFICIAL OWNERSHIP OF PARADIGM COMMON STOCK BY MANAGEMENT AND
PRINCIPAL SHAREHOLDERS OF PARADIGM..................................................................... 95
PRINCIPAL HOLDERS OF PROSPERITY COMMON STOCK.................................................................... 97
COMPARATIVE MARKET PRICES AND DIVIDEND DATA..................................................................... 97
DESCRIPTION OF PROSPERITY CAPITAL STOCK......................................................................... 98
General .............................................................................................. 98
Prosperity Common Stock................................................................................ 98
Preferred Stock........................................................................................ 99
BUSINESS OF PROSPERITY.......................................................................................... 100
Incorporation of Certain Documents by Reference........................................................ 100
Interests of Certain Persons........................................................................... 100
EXPERTS......................................................................................................... 100
LEGAL MATTERS................................................................................................... 100
OTHER MATTERS................................................................................................... 101
WHERE YOU CAN FIND MORE INFORMATION............................................................................. 101
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS OF
PARADIGM BANCORPORATION, INC........................................................................... F-1
Appendix A
Agreement and Plan of Reorganization............................................................................ A-1
Appendix B
Holdback Escrow Agreement....................................................................................... B-1
Appendix C
Opinion of Hoefer & Arnett, Incorporated........................................................................ C-1
Appendix D
Provisions of the Texas Business Corporation Act Relating to Dissenters' Appraisal Rights....................... D-1
ii
Questions and answers about the merger
Q: What will happen in the merger?
A: In the merger, Paradigm will be merged with Prosperity, with Prosperity
being the surviving corporation. As a result of the merger, you will
receive for each share of Paradigm common stock you own at least 1.05489
shares of Prosperity common stock. In addition, for each outstanding share
of your Paradigm common stock, 0.03169 shares of Prosperity common stock
will be held in escrow on your behalf for possible future delivery to you
based on whether and to the extent that specified loans made by Paradigm
prior to the execution of the merger agreement are paid or upgraded within
three years of completion of the merger. Additionally, upon a decrease in
the price of Prosperity common stock below a pre-agreed level, Prosperity
may increase this exchange ratio, which will prevent Paradigm from
terminating the merger agreement.
Q: When do you expect the merger to be completed?
A: We are working to complete the merger during the third calendar quarter of
2002.
Q: What are the shareholders being asked to vote upon?
A: The shareholders are being asked to approve the merger of Paradigm into
Prosperity.
Q: What votes are required for approval?
A: Approval of the merger requires the affirmative vote of holders of a
majority of the shares of Paradigm common stock outstanding on July 17,
2002. Our directors and holders of 10% or more of common stock
(representing approximately 69.7% of the outstanding shares of common
stock) have agreed to vote all of their shares of Paradigm common stock for
approval of the merger.
Q: How does the board of directors recommend that I vote?
A: Our board of directors, by a unanimous vote, has approved and adopted the
merger and the merger agreement and recommends that the shareholders vote
FOR approval of the merger. The board of directors believes that the merger
is fair to, and in the best interests of, our shareholders.
Q: What happens if I transfer my shares after the record date?
A: The record date for the special meeting is earlier than the expected date
of the merger. Therefore, if you transfer your shares of common stock after
the record date, but prior to the merger, you will retain the right to vote
at the special meeting, but the right to receive the merger consideration
will transfer with the shares of stock.
Q: What do I need to do now?
A: After you have thoroughly reviewed this proxy statement-prospectus, simply
indicate on your proxy card how you want to vote and sign, date and mail it
in the enclosed envelope as soon as possible.
Q: What happens if I don't return a proxy card?
A: The failure to return your proxy card will have the same effect as a vote
against the merger unless you attend the meeting in person and vote for the
merger.
Q: May I vote in person?
A: Yes. You may attend the special meeting and may vote your shares in
person, rather than signing and mailing a proxy card.
1
Q: May I change my vote after I have submitted my proxy?
A: Yes. You may change your vote at any time before your proxy is voted at
the special meeting by following the instructions as detailed in the
"Paradigm Special Meeting - Voting Procedures and Revocation of Proxies" on
page 33. Before your proxy is voted, you may submit a new proxy or you may
attend the special meeting and vote in person.
Q: If my shares are held in "street name" by my broker, will my broker vote my
shares for me?
A: Your broker will vote your shares only if you provide instructions on how
to vote. You should instruct your broker how to vote your shares, following
the directions your broker provides. If you do not provide instructions to
your broker, your shares will not be voted, which will have the same effect
as a vote against the merger.
Q: Do I have any rights to avoid participating in the merger?
A: Yes. You have the right to withhold your vote for the merger, dissent form
the merger and seek appraisal value for yours shares as described in
"Description of the Transaction - Dissenters' Rights of Appraisal and
Related Issues" beginning on page 55. The appraised value may be more or
less than the value of the Prosperity common stock being paid in the
merger.
Q: Should I send in my stock certificates now?
A: No. After the merger is completed, we will send you written instructions
for exchanging your stock certificates.
Q: Who can help answer my questions?
A: If you have additional questions about the merger, you should contact Peter
E. Fisher at (832) 249-7650.
2
SUMMARY
This brief summary highlights selected information from this proxy
statement-prospectus and may not contain all of the information that is
important to you. We urge you to carefully read this entire document and the
other documents we refer to in this document. These documents will give you a
more complete description of the transaction we are proposing. For more
information about Prosperity, see "Where You Can Find More Information" on page
101. We have included page references in this summary to direct you to other
places in this proxy statement-prospectus where you can find a more complete
description of the topics we have summarized. The exchange ratios, number of
shares of Prosperity common stock, per share financial data for Prosperity and
the pro forma financial data have all been adjusted to give effect to
Prosperity's two-for-one stock split in the form of a stock dividend effective
May 31, 2002.
The Companies (pages 86 and 100)
Prosperity Bancshares, Inc.
4295 San Felipe
Houston, Texas 77027
(713) 693-9300
Prosperity, a Texas corporation, is a financial holding company
registered under the Gramm-Leach-Bliley Act and the Bank Holding Company Act.
Through Prosperity Bank, its wholly owned subsidiary bank, Prosperity conducts a
complete range of commercial and personal banking activities throughout the
greater Houston metropolitan area and nine contiguous counties extending to the
south and southwest. Including the main office of Prosperity in Houston, Texas,
Prosperity operates a total of 32 full-service banking centers. At March 31,
2002, on a consolidated basis, Prosperity had total assets of $1.29 billion,
total deposits of $1.14 billion and shareholders' equity of $92.8 million.
Paradigm Bancorporation, Inc.
3934 FM 1960 West, Suite 330
Houston, Texas 77068
(832) 249-7650
Paradigm, a Texas corporation, is a financial holding company
registered under the Gramm-Leach-Bliley Act and the Bank Holding Company Act.
Through Paradigm Bank Texas, its wholly owned subsidiary bank, Paradigm conducts
a complete range of commercial and personal banking activities in the greater
Houston metropolitan area and the surrounding communities of Dayton, Winnie, Mt.
Belvieu and Galveston. Including the main office of Paradigm Bank in Houston,
Paradigm operates a total of 11 full-service banking centers. At March 31, 2002,
on a consolidated basis, Paradigm had total assets of $256.7 million, total
deposits of $230.3 million and shareholders' equity of $18.4 million.
The Merger (page 35)
We have attached the merger agreement to this document as Appendix A.
Please read the merger agreement. It is the legal document that governs the
merger.
We propose a merger whereby Paradigm will merge with and into
Prosperity and immediately thereafter, Paradigm Bank will merge with and into
Prosperity Bank. In connection with the merger, the existing offices of Paradigm
Bank will become full-service banking centers of Prosperity, except that
Prosperity currently intends to close Paradigm's Medical Center, Dayton Clayton
Road and Silver Ridge banking centers upon completion of the merger or shortly
thereafter. We expect to complete the merger in the third quarter of 2002,
although delays could occur.
What You Will Receive in the Merger (page 35)
Each of your shares of Paradigm common stock will automatically become
the right to receive up to 1.08658 shares of Prosperity common stock. Of this
amount, you will receive, for each share of your Paradigm common stock, 1.05489
shares of Prosperity common stock upon completion of the merger and an
additional 0.03169 shares of Prosperity common stock will be deposited into the
holdback escrow on your behalf for possible future distribution to you based on
whether and to the extent that specified loans made by Paradigm are repaid or
upgraded within three years after completion of the merger, as further described
in this proxy statement-prospectus.
3
The exchange ratio is subject to adjustment at Prosperity's discretion
if the price of Prosperity common stock during the 10 consecutive trading days
ending on and including the third trading day immediately prior to completion of
the merger (price measurement period) is less than $12.205 (measurement price)
and the percentage difference between $16.275 and the measurement price is
greater than 10% lower than the percentage decrease between the closing price of
the KBW Bank Index on April 26, 2002 and the average closing price of the KBW
Bank Index during the price measurement period. The adjusted total exchange
ratio will be calculated by dividing the number of shares of Paradigm common
stock outstanding into the number resulting from dividing $31,500,000 by the
measurement price. If Prosperity elects not to adjust the exchange ratio,
Paradigm may terminate the merger agreement. Consequently, you will not know the
exact exchange ratio when you vote on the merger, and even if approved by
Paradigm's shareholders, the merger may not be completed.
The aggregate number of shares of Prosperity common stock to be
exchanged for each share of Paradigm common stock will be adjusted appropriately
to reflect any change in the number of shares of Prosperity common stock by
reason of any stock dividends or splits, reclassification, recapitalization or
conversion with respect to Prosperity common stock, received or to be received
by holders of Prosperity common stock, when the record date or payment occurs
prior to the closing. Prosperity declared a two-for-one stock split in the form
of a 100% stock dividend effective on May 31, 2002. The exchange ratio and
related amounts in this proxy statement-prospectus have been adjusted to give
effect to the stock split.
Prosperity will not issue any certificates for fractional shares of
Prosperity common stock in connection with the merger but will instead pay an
amount of cash determined by multiplying the fractional share by the closing
price of Prosperity common stock on the trading day immediately prior to the
closing.
You will have to surrender your Paradigm common stock certificates in
order to receive new certificates representing shares of common stock of
Prosperity and the cash consideration for your fractional shares. Do not send in
your certificates until you receive written instructions regarding the
certificate exchange process on or after the completion of the merger.
Effect of the Merger on Paradigm Stock Options and Stock Appreciation Rights
(page 36)
In the merger, each option to purchase shares of Paradigm common stock
pursuant to the Paradigm Bancorporation, Inc. 1999 Stock Incentive Plan that is
outstanding immediately prior to completion of the merger will vest, will be
automatically converted into an option to purchase shares of Prosperity common
stock and will continue to be governed by the terms of the original plan under
which it was issued. The number of shares of Prosperity common stock subject to
each of these converted stock options, as well as the exercise price of these
stock options, will be adjusted to reflect the total exchange ratio in the
merger, and will not be subject to the holdback escrow.
In addition, each stock appreciation right granted pursuant to the
Paradigm 1998 Stock Appreciation Rights Plan that is outstanding immediately
prior to completion of the merger will be cancelled and automatically converted
into the right of each holder to receive for each outstanding SAR an amount of
cash determined by multiplying the average of the high and low sale prices of a
share of Prosperity common stock on Nasdaq on the second trading day immediately
prior to completion of the merger by the total exchange ratio of 1.08658 or the
adjusted exchange ratio, if applicable, less the exercise price of the SAR under
each holder's SAR agreement. As a result of the merger, all of the options and
SARs will be fully vested.
The Exchange of Paradigm Common Stock for Prosperity Common Stock Will Generally
Be Tax-Free to Shareholders (page 53)
Prosperity has received an opinion of its legal counsel that generally
for United States federal income tax purposes your exchange of shares of
Paradigm common stock for shares of Prosperity common stock will not cause you
to recognize any gain or loss. However, you will recognize gain or loss in
connection with the receipt of cash in lieu of a fractional share of Prosperity
common stock. The opinion of counsel was filed as an exhibit to the Registration
Statement, of which this proxy statement-prospectus forms a part.
Our obligation to complete the merger is conditioned on, among other
things, receipt by each of us of an opinion of our respective counsels that the
exchange of shares, except for a gain or loss recognized in connection with the
receipt of the cash consideration and cash instead of a fractional share, will
be tax-free for federal income tax purposes. The conditions relating to the
receipt of the tax opinion may be waived by both of us. Neither of us
4
currently intends to waive the conditions related to the receipt of an updated
tax opinion. However, if these conditions were waived, Paradigm would re-solicit
the approval of its shareholders prior to completing the merger.
This tax treatment may not apply to every Paradigm shareholder.
Determining the actual tax consequences of the merger to you may be complicated
and will depend on your specific situation and on variables not within our
control. You should consult your own tax advisor for a full understanding of the
merger's tax consequences.
Paradigm's Financial Advisor Has Opined that the Merger is Fair to Shareholders
(page 40)
Paradigm's financial advisor, Hoefer & Arnett, Incorporated has
delivered a written opinion to the Paradigm board of directors that, as of the
date of this proxy statement-prospectus, the merger consideration is fair to the
holders of Paradigm common stock from a financial point of view. We have
attached this opinion to this document as Appendix C. You should read this
opinion completely to understand the procedures followed, matters considered and
limitations on the reviews undertaken by Hoefer & Arnett in providing its
opinion.
Ownership of Prosperity After the Merger
Based on the closing price of Prosperity common stock on July 18, 2002
of $17.69 and based on an assumed exchange ratio of 1.08658 (which includes the
shares to be held in escrow), upon completion of the merger, Prosperity would
issue a total of approximately 2,580,649 shares of its common stock to former
Paradigm shareholders, with 75,270 of these shares being placed in the holdback
escrow. Based on these numbers, after the merger on a fully diluted basis (which
includes the issuance of options to acquire shares of Prosperity common stock to
the holders of Paradigm stock options), former Paradigm shareholders would own
approximately 13.4% of the outstanding shares of Prosperity.
In addition, as of the date of this proxy statement-prospectus, options
to acquire 4,800 shares of Paradigm common stock are exercisable. If these
options are exercised prior to completion of the merger, the shares of Paradigm
common stock issued to these option holders will be converted into shares of
Prosperity common stock in the merger. Assuming a total exchange ratio of
1.08658, if the options to acquire all 4,800 shares are exercised, Prosperity
would be required to issue an additional 5,215 shares of Prosperity common stock
upon completion of the merger.
Comparative Market Prices of Common Stock (page 97)
Shares of Prosperity common stock are quoted on The Nasdaq Stock Market
under the symbol "PRSP." On May 1, 2002, the last trading day before we
announced the merger, after giving effect to Prosperity's two-for-one stock
split, Prosperity common stock closed at $16.045 per share. On July 18, 2002,
Prosperity common stock closed at $17.69 per share. Shares of Paradigm common
stock are privately held and not listed on an exchange or quoted on an automated
quotation system. The last known sale price of Paradigm common stock of which
management is aware was $9.00 per share on March 20, 2002. You should obtain the
current stock quotation for Prosperity common stock.
Dissenters' Appraisal Rights (page 55)
As a shareholder of Paradigm, under Texas law you have the right to
dissent from the merger and have the appraised fair value of your shares of
Paradigm common stock paid to you in cash. To dissent and receive the appraised
fair value of your shares, you must:
. make a proper demand for appraisal in accordance with the Texas law
as more fully described on pages 55 to 56 and in Appendix D;
. hold your shares of Paradigm common stock until the merger is
completed;
. not vote in favor of the merger (including by appointing a proxy to
vote your shares); and
. otherwise comply with Texas law.
Persons having beneficial interests in Paradigm common stock held of
record in the name of another person, such as a broker or bank, must act
promptly to cause the record holder to take the actions required under
5
Texas law to exercise your dissenter's rights. The appraised fair value may be
more or less than the value of the shares of Prosperity common stock being paid
in the merger.
Our Reasons for the Merger (pages 38 and 39)
Our companies are proposing to merge because we believe that by combining
them we can create a stronger and more diversified company that will provide
significant benefits to our shareholders and customers alike. In deciding to
enter into the merger agreement, Paradigm's board of directors considered a
number of factors, including:
. the additional capital and resources needed for Paradigm's operations
to continue to grow and the dilutive effect on shareholders of
obtaining this additional capital;
. the merger consideration in the form of Prosperity common stock, with
a value as of April 26, 2002 of $16.275 per share, or an aggregate of
$42.0 million, which represented a 196% premium over the most recent
sales price of Paradigm common stock of $9.00 per share in March 2002,
the last day the Paradigm common stock traded prior to Paradigm
board's approval of the merger agreement;
. the current financial services industry environment, including the
continued consolidation within the industry, the increased competition
in the market areas served by Paradigm and the costs of evolving
trends in technology;
. the appreciation in the price of Prosperity common stock since
Prosperity's initial public offering in 1998 and the prospects for
positive long-term performance of Prosperity common stock; and
. the fact that Prosperity common stock is publicly traded on the Nasdaq
National Market, thereby representing a more liquid investment than
Paradigm's common stock, which was closely held with little trading
activity or liquidity.
In deciding to enter into the merger agreement, Prosperity's board of
directors considered a number of factors, including the opportunity for future
growth and an expanded geographic presence as the acquisition of Paradigm's
locations in the greater Houston area is a natural extension of Prosperity's
existing market areas. In addition, based on management's experience in past
acquisitions, Prosperity anticipates that it will achieve cost savings of
approximately $2.3 million pre-tax over a 12 month period through the
combination of back office operations and the elimination of duplicate general,
administrative and salary and benefits expenses. Prosperity also believes that
the merger may create certain revenue enhancement opportunities as Prosperity
offers new products and services to existing Paradigm customers.
The discussion of our reasons for the merger includes forward-looking
statements about possible or assumed future results of our operations and the
performance of the combined company after the merger. For a discussion of
factors that could affect these future results, see "A Warning About
Forward-Looking Statements" on page 32.
Special Meeting of Paradigm Shareholders (page 33)
The special meeting of Paradigm shareholders will be held on August 26,
2002, at 4:00 p.m., local time, at the Gladebrook Banking Center, 3934 FM 1960
West, Suite 330, Houston, Texas. At the Paradigm meeting, you will be asked:
. to approve the merger agreement that provides for the merger of
Paradigm with and into Prosperity; and
. to act on any other matters that may be submitted to a vote at the
special meeting or any adjournment or postponement of the special
meeting.
Record Date; Majority Shareholder Vote Required (page 33)
You can vote at the special meeting of Paradigm shareholders if you owned
Paradigm common stock at the close of business on July 17, 2002, the record
date. You can cast one vote for each share of Paradigm common stock that you
owned at that time. Approval of the merger agreement requires the affirmative
vote of the holders of
6
at least a majority of the outstanding shares entitled to vote. Abstentions,
failures to vote and broker non-votes will have the effect of a vote against the
merger agreement and the merger.
You may vote your shares by attending the meeting or by sending us your
proxy. If you are the record holder of your shares, you can revoke your proxy at
any time before we take a vote at the meeting by sending a written notice
revoking the proxy or a later-dated proxy to the secretary of Paradigm, or by
attending the meeting and voting in person. Attendance at the special meeting
alone will not revoke your proxy. If your shares are held in street name, you
must contact your bank or broker if you wish to revoke your proxy.
Recommendation of Paradigm's Board to Shareholders (page 38)
The board of directors of Paradigm believes that the merger is fair to you
and in your best interests, and unanimously recommends that you vote FOR the
proposal to approve the merger agreement.
Members of Paradigm's Management are Expected to Vote Their Shares For Approval
of the Merger Agreement (page 33)
As of July 17, 2002, the record date, the directors and executive officers
of Paradigm, their immediate family members and entities they control were
entitled to vote 1,409,921 shares, or approximately 59.4% of the outstanding
shares of Paradigm common stock and did not beneficially own any shares of
Prosperity common stock.
Each director and holder of 10% or more of Paradigm common stock who, in
the aggregate, are entitled to vote 69.7% of the outstanding shares of Paradigm
common stock, has executed an agreement pursuant to which he or she has agreed
to vote his or her shares of common stock in favor of approval of the merger
agreement.
Effective Time of the Merger (page 46)
The merger will become final when articles of merger are filed with the
Secretary of State for the State of Texas. If Paradigm shareholders approve the
merger at the special meeting, and if we obtain all required regulatory
approvals, we anticipate that the merger will be completed in the third quarter
of 2002, although delays could occur.
We cannot assure you that we can obtain the necessary shareholder and
regulatory approvals or that the other conditions to completion of the merger
can or will be satisfied.
Exchange of Stock Certificates (page 45)
After the effective time of the merger, you will receive a letter and
instructions from Computershare Investor Services, acting in its role as
Prosperity's transfer agent, regarding the procedure for surrendering your stock
certificates representing shares of Paradigm common stock in exchange for stock
certificates representing shares of Prosperity common stock and cash in lieu of
any fractional share interest. You must carefully review and complete these
materials and return them as instructed along with your stock certificates for
Paradigm common stock. Please do not send Paradigm any stock certificates until
you receive these instructions.
The Distribution of a Portion of the Shares of Prosperity Common Stock to be
Issued in the Merger is Subject to the Terms of a Holdback Escrow Agreement
(page 36)
Of the shares of common stock that Prosperity will issue in the merger,
Prosperity Bank's Trust Department, as escrow agent, will hold 75,270 shares of
Prosperity common stock in escrow to cover possible losses that may be incurred
by Prosperity in the three year period following completion of the merger with
respect to certain specified loans made by Paradigm prior to execution of the
merger agreement. At the end of the three year period, or sooner if all of these
loans are paid in full or upgraded as described below, the escrow agent shall
distribute to the Paradigm shareholders a number of holdback shares equal to the
aggregate defined value of the holdback shares of $1,225,000 minus the sum of
(1) the dollar amount of any losses related to the specified loans and (2) the
outstanding balance of the specified loans at the end of the three year period,
divided by $16.275 or, if the exchange ratio is adjusted, by $12.205. A
specified loan is considered to be upgraded if deemed by Prosperity in its
discretion to no longer be a specified loan based on the performance of the loan
and the financial stability of the borrower. Each Paradigm shareholder will
receive his or her pro rata share of any distribution of holdback shares, any
dividends paid with respect to such holdback shares and cash in lieu of any
fractional share interests.
7
If the merger is approved, you will be bound by the terms of the holdback
escrow agreement whether or not you vote in favor of the merger. A form of the
holdback escrow agreement is attached to this proxy statement-prospectus as
Appendix B. Under the terms of the holdback escrow agreement, the shareholder
representative, who may be removed at any time by a majority vote of the former
Paradigm shareholders, will make decisions on behalf of the former Paradigm
shareholders related to the disposition of the shares held in escrow and will
vote the shares in any action requiring a vote of Prosperity shareholders.
Further, the holdback escrow agreement provides that the former Paradigm
shareholders will indemnify the shareholder representative against any liability
incurred in such capacity in good faith other than as a result of willful
misconduct.
While the shares are held in escrow, the Paradigm shareholders will not
receive any dividends paid against the shares until such time, if any, that the
shares are issued. However, former Paradigm shareholders will be taxed on any
dividends paid during the three year period. See "Material Federal Income Tax
Consequences" on page 53. The rights of Paradigm shareholders under the escrow
agreement are not transferable other than by will or by the laws of descent and
distribution.
Conditions to Completion of the Merger (page 47)
The completion of the merger depends on a number of conditions being met.
These include, among others:
. approval of the merger agreement by the Paradigm shareholders;
. approval of the merger by certain federal and state regulatory
authorities;
. receipt by each of us of an opinion of our respective counsel that the
merger will qualify as a reorganization under Section 368(a) of the
Internal Revenue Code;
. authorization by the Nasdaq Stock Market for the listing of the shares
of Prosperity common stock to be issued in the merger;
. receipt by Prosperity of release agreements signed by the directors
and certain officers of Paradigm and Paradigm Bank;
. receipt by Prosperity of affiliate letters signed by designated
Paradigm shareholders, directors and officers;
. receipt by Paradigm of an opinion of Hoefer & Arnett, Paradigm's
financial advisor, that the merger is fair to Paradigm shareholders
from a financial point of view;
. execution of an employment and non-compete agreement between Peter E.
Fisher, President and Chief Executive Officer of Paradigm, and
Prosperity Bank;
. material accuracy of the representations and warranties made by each
of us as of the date of completion of the merger;
. performance or compliance by each of us with all covenants and
conditions required by the merger agreement; and
. absence of a material adverse change in the financial condition,
results of operation or business of each of us.
A party to the merger agreement could choose to complete the merger even
though a condition has not been satisfied, as long as the law allows it to do
so. We cannot be certain when or if the conditions to the merger will be
satisfied or waived, or that the merger will be completed.
Regulatory Approvals (page 57)
We cannot complete the merger unless it is approved by the Board of
Governors of the Federal Reserve System. Once the Federal Reserve approves the
merger, we have to wait anywhere from 15 to 30 days before we can complete the
merger, during which time the Department of Justice can challenge the merger for
antitrust
8
reasons. In addition, completion of the merger is subject to the approval of, or
notice to, state and other regulatory authorities.
As of the date of this document, we have not received all of the required
approvals. While we do not know of any reason that we would not be able to
obtain the necessary approvals in a timely manner, we cannot be certain when or
if we will obtain them.
Waiver, Amendment and Termination (page 51)
We may jointly amend the merger agreement and each of us may waive our
right to require the other party to adhere to any term or condition of the
merger agreement. However, we may not amend the merger agreement or waive any
term or condition in the merger agreement after the Paradigm special meeting of
shareholders without approval of the Paradigm shareholders if the amendment or
waiver reduces the consideration that will be received by the Paradigm
shareholders.
We can mutually agree at any time to jointly terminate the merger agreement
without completing the merger. Also, either of us can decide, without the
consent of the other, to terminate the merger agreement if:
. any government agency denies an approval we need to complete the
merger;
. any governmental entity issues a final non-appealable order blocking
the merger;
. the approval of Paradigm shareholders is not obtained by reason of the
failure to obtain the required vote at the special meeting;
. the merger has not been completed by November 27, 2002 or such later
date approved in writing by our boards of directors, unless the
failure to complete the merger by that time is due to a breach of the
merger agreement by the party that seeks to terminate the merger
agreement;
. the other party fails to comply in any material respect with any of
its covenants or agreements or if any of its representations or
warranties is innaccurate in any material respect; or
. one or more of the conditions to the merger are not met or waived by
the other party.
Paradigm may terminate the merger agreement, without the consent of
Prosperity, if:
. the average closing price of the Prosperity common stock during the
price measurement period is less than $12.205 per share, that being
the measurement price, and the percentage difference between $16.275
and the measurement price is greater than 10% lower than the
percentage decrease between the closing price of the KBW Bank Index on
April 26, 2002 and the average closing price of the KBW Bank Index
during the price measurement period, and the Prosperity board elects
not to adjust the merger consideration to an aggregate amount of
$31,500,000. For these purposes, the price measurement period is the
10 consecutive trading days ending on and including the third trading
day immediately prior to the closing; or
. the board of directors of Paradigm receives an acquisition proposal
prior to the effective date of the merger that, based on opinions of
independent legal counsel and financial advisors, they determine to be
a superior proposal and that failure to accept such superior proposal
would be inconsistent with the fiduciary duties of Paradigm's board to
its shareholders.
Prosperity may terminate the merger agreement, without the consent of
Paradigm, if:
. the board of directors of Paradigm resolves to accept a superior
proposal, recommends to shareholders of Paradigm that they tender
their shares in a tender or exchange offer by a third party or
withdraws or modifies its recommendation in a manner that is adverse
to Prosperity or approval of the merger or recommends to shareholders
of Paradigm that they accept or approve an alternative acquisition
proposal.
9
Expenses and Termination Fees (page 52)
If we mutually consent to terminate the merger agreement, or if either
of us terminates the merger agreement because the merger has not been completed
by November 27, 2002, then we will each pay our own fees and expenses.
If the merger agreement is validly terminated by either party, the
merger agreement will become void without any liability on the part of any
person except that Paradigm must pay to Prosperity a termination fee of
$2,500,000 if the merger is terminated in any one of the following
circumstances:
. by Paradigm, if the board of directors of Paradigm receives an
acquisition proposal that, based on opinions of independent legal
counsel and financial advisors, they determine to be a superior
proposal and that failure to accept such superior proposal would
be inconsistent with the fiduciary duties of Paradigm's board to
its shareholders;
. by either Prosperity or Paradigm, if Paradigm's shareholders fail
to approve the merger agreement, if at the time of such failure,
Paradigm has received a bona fide acquisition proposal and, within
nine months of the termination of the merger agreement, Paradigm
enters into a definitive agreement with any third party with
respect to any acquisition proposal; or
. by Prosperity, if the board of directors of Paradigm resolves to
accept a superior proposal, recommends to shareholders of Paradigm
that they tender their shares in a tender or exchange offer by a
third party or withdraws or modifies its recommendation or
approval of the merger.
Management and Operations After the Merger (page 57)
The present management of Prosperity and Prosperity Bank will have the
responsibility of managing Prosperity and Prosperity Bank after the completion
of the merger. The number of directors on Prosperity's board of directors will
be increased by two and Prosperity has agreed to appoint William H. Fagan, M.D.
and Charles J. Howard, M.D. as directors of Prosperity upon completion of the
merger if they are still directors of Paradigm immediately prior to completion
of the merger and are willing and eligible to serve as directors of Prosperity.
The number of directors for the board of directors of Prosperity Bank
will be increased by two and Prosperity Bank has agreed to appoint Peter E.
Fisher and Leah Huffmeister Henderson as directors of Prosperity Bank upon
completion of the merger if they are still directors of Paradigm Bank
immediately prior to completion of the merger and are willing and eligible to
serve as directors of Prosperity Bank. In addition, Prosperity has agreed to
appoint Mr. Fisher to serve as Vice Chairman of the Board of Prosperity Bank.
Some of the Directors and Officers of Paradigm Have Financial Interests in the
Merger that Differ from Your Interests (page 50)
Some of the directors and officers of Paradigm have interests in the
merger that differ from, or are in addition to, their interests as shareholders
in Paradigm. These interests include:
. certain of Paradigm's executive officers will serve as officers of
Prosperity Bank following completion of the merger;
. Peter E. Fisher, President and Chief Executive Officer of
Paradigm, will enter into an employment and non-competition
agreement with Prosperity Bank upon completion of the merger.
During the two-year term of the agreement, Mr. Fisher will serve
as Vice Chairman of Prosperity Bank and will receive an annual
salary equal to $185,000, an annual bonus of not less than
$15,000 and options to purchase 30,000 shares of Prosperity
common stock. Upon termination of his employment by Prosperity
Bank for other than good cause, Mr. Fisher will receive his
annual salary and bonus for the remaining term of the agreement
and the 30,000 options will vest. Upon termination of his
employment for any reason and pursuant to the terms of the
agreement, Mr. Fisher will receive a non-competition payment of
$100,000 in consideration for the covenants set forth in the
agreement, including an agreement not to compete with Prosperity
Bank for two years following such termination;
10
. Peter E. Fisher, Brad Fagan and Jay W. Porter, each an executive
officer of Paradigm, will receive change in control payments
aggregating $653,300 pursuant to employment agreements between
each officer and Paradigm;
. eight officers of Paradigm had previously entered into retention
agreements with Paradigm Bank, which will continue to be
effective after the merger and which provide 12 months continued
employment following a change in control or the payment of the
officer's annual salary for any portion of the 12 month period in
which the officer is not employed;
. certain of Paradigm's executive officers hold options to purchase
shares of Paradigm common stock and stock appreciation rights
which will accelerate and become fully vested at the completion
of the merger. These options will convert into options to acquire
shares of Prosperity common stock at the total exchange ratio,
without being subject to the holdback escrow;
. Prosperity has agreed to appoint William H. Fagan, M.D. and
Charles J. Howard, M.D. to serve as directors of Prosperity as of
completion of the merger;
. Prosperity has agreed to appoint Peter E. Fisher and Leah
Huffmeister Henderson to serve as directors of Prosperity Bank as
of completion of the merger; and
. the right of Paradigm's directors and officers to continued
indemnification and insurance coverage by Prosperity for acts or
omissions occurring prior to completion of the merger.
The members of Paradigm's board of directors knew about these
additional interests and considered them in approving the merger agreement and
the merger.
Your Rights as a Shareholder of Prosperity will be Different than as a
Shareholder of Paradigm (page 59)
Both Paradigm and Prosperity are Texas corporations and the rights of
their shareholders are governed by Texas law and their respective articles of
incorporation and bylaws. Upon completion of the merger, Paradigm shareholders
will become shareholders of Prosperity and your rights will be governed by
Prosperity's articles of incorporation and bylaws. Prosperity's articles of
incorporation and bylaws will remain the same unless altered, amended or
repealed in the future.
Recent and Pending Prosperity Acquisitions
On July 15, 2002, Prosperity announced that it had entered into an
agreement to acquire Bank of the Southwest in Dallas, Texas. Bank of the
Southwest has two offices in Dallas, which will continue to operate with the
same management when the acquisition is completed. On June 30, 2002, Bank of the
Southwest reported total assets of $129.6 million, total deposits of $114.3
million, total loans of $55.3 million and total shareholders' equity of $14.7
million. The proposed transaction, which is expected to close in the fourth
quarter of 2002, is subject to approval by Southwest Bank Holding Company
shareholders, approval by regulators and certain closing conditions.
On July 12, 2002, Prosperity acquired The First State Bank in
Needville, Texas in a cash transaction. The office of The First State Bank was
consolidated with Prosperity Bank's full service banking center in Needville on
July 15, 2002. As of March 31, 2002, The First State Bank reported total assets
of $17.3 million, total deposits of $15.1 million and total loans of $5.3
million.
On May 8, 2002, Prosperity acquired Texas Guaranty Bank, N.A. for $11.8
million in cash. Texas Guaranty Bank operated three offices in the western
portion of Houston, Texas, all of which became full service banking centers of
Prosperity Bank. As of March 31, 2002, Texas Guaranty Bank reported total assets
of $79.2 million, total loans of $60.8 million and total deposits of $62.3
million.
Recent Developments
Preliminary Financial Results of Prosperity for the Six Months Ended June 30,
2002
On July 15, 2002, Prosperity announced unaudited preliminary results
for the first six months of 2002. Net income for the six months ended June 30,
2002 was $9.3 million or $0.56 per diluted share compared with $5.2
million or $0.32 per diluted share for the same period in 2001. Included in net
income in 2001 is $2.4 million in
11
one-time merger-related expenses relating to the merger with Commercial
Bancshares, Inc. Additionally, effective January 1, 2002, Prosperity was
required to adopt a new accounting standard which no longer permits goodwill
amortization. Excluding the merger-related expenses and goodwill amortization
expense, net income for the six months ended June 30, 2001 would have been $7.3
million or $0.44 per diluted share. For the six months ended June 30, 2002, the
return on average assets was 1.42% and the return on average shareholders'
equity was 19.77%.
Net income for the three months ended June 30, 2002 was $4.8 million or
$0.29 per diluted share, an increase in net income of $1.2 million or 34.3%
compared with net income of $3.6 million or $0.22 per diluted share for the same
period in 2001. Adjusting prior period results to exclude the effects of
goodwill amortization, earnings per diluted share would have been $0.24 for the
three months ended June 30, 2001. For the three months ended June 30, 2002, the
return on average assets was 1.43% and the return on average shareholders'
equity was 20.16%.
At June 30, 2002, Prosperity had total assets of $1.4 billion compared
with total assets of $1.3 billion at March 31, 2002, total deposits of $1.2
billion and total shareholders' equity of $97.4 million. Total loans were $478.9
million at June 30, 2002, which included $42.8 million in loans from
acquisitions closed during the second quarter of 2002.
Nonperforming assets totaled $444,000 or 0.09% of total loans at June
30, 2002, compared with $1,000 or 0% of total loans at December 31, 2001 and
$439,000 or 0.10% of total loans at June 30, 2001. The provision for credit
losses was $120,000 and $240,000 for the three and six months ended June 30,
2002, respectively. The allowance for credit losses at June 30, 2002 was $6.9
million and represented 1.43% of total loans compared with $5.6 million and
1.30% of total loans at June 30, 2001.
As of and for the
Six Months Ended
June 30,
--------
2002 2001
---------- ----------
(dollars in thousands,
except per share data)
Income Statement Data:
Interest income ................................................... $ 37,486 $ 38,463
Interest expense .................................................. 12,639 19,426
---------- -----------
Net interest income ............................................... 24,847 19,037
Provision for credit losses ....................................... 240 --
---------- -----------
Net interest income after provision for credit losses ............. 24,607 19,037
Noninterest income ................................................ 4,487 4,093
Noninterest expense ............................................... 15,787 15,866
---------- -----------
Income before taxes ............................................... 13,307 7,264
Provision for income taxes ........................................ 4,021 2,027
---------- -----------
Net income ........................................................ $ 9,286 $ 5,237(1)
========== ===========
Per Share Data(2):
Basic earnings per share .......................................... $ 0.57 $ 0.32
Diluted earnings per share ........................................ 0.56 0.32(1)
Book value per share .............................................. 5.99 5.13
Weighted average shares outstanding (basic) (in thousands) ........ 16,236 16,146
Weighted average shares outstanding (diluted) (in thousands) ...... 16,567 16,468
Shares outstanding at end of period (in thousands) ................ 16,270 16,192
Balance Sheet Data (at period end):
Total assets ...................................................... $1,360,356 $ 1,165,780
Securities ........................................................ 785,859 646,981
Loans ............................................................. 478,935 430,135
Allowance for credit losses ....................................... 6,869 5,593
Total deposits .................................................... 1,211,933 1,050,370
Borrowings and notes payable ...................................... 15,477 13,623
Total shareholders' equity ........................................ 97,380 83,080
Company-obligated mandatorily redeemable preferred
securities of subsidiary trusts ................................... 27,000 12,000
12
As of and for the
Six Months Ended
June 30,
--------
2002 2001
---- ----
(dollars in thousands,
except per share data)
Average Balance Sheet Data:
Total assets ................................................. $1,311,888 $ 1,160,590
Securities ................................................... 787,022 627,824
Loans ........................................................ 436,918 416,609
Allowance for credit losses .................................. 6,272 5,563
Total deposits ............................................... 1,165,894 1,037,807
Total shareholders' equity ................................... 93,952 82,367
Company-obligated mandatorily redeemable preferred
securities of subsidiary trusts ............................ 27,000 12,000
Performance Ratios:
Return on average assets ..................................... 1.42% 0.90%(3)
Return on average equity ..................................... 19.77 12.72(3)
Net interest margin (tax equivalent) ......................... 4.17 3.67
Efficiency ratio ............................................. 52.20 67.79(3)
Asset Quality Ratios:
Nonperforming assets to total loans and other real estate .... 0.09% 0.10%
Net loan charge-offs (recoveries) to average loans ........... (0.02) (0.02)
Allowance for credit losses to total loans ................... 1.43 1.30
Capital Ratios:
Leverage ratio ............................................... 7.37% 6.28%
Average shareholders' equity to average total assets ......... 7.16 7.13
Tier 1 risk-based capital ratio .............................. 17.03 14.20
Total risk-based capital ratio ............................... 18.24 15.30
------------------
(1) Excluding merger-related expenses of $2.4 million, net income would have
been $6,814 or $0.42 per diluted share for the six months ended June 30,
2002.
(2) Adjusted for a two-for-one stock split effective May 31, 2002 and a
four-for-one stock split effective September 10, 1998.
(3) Excluding the merger-related expenses of $2.4 million, return on
average assets would have been 1.17%, return on average equity would
have been 16.54% and the efficiency ratio would have been 57.04%.
Preliminary Financial Results of Paradigm for the Six Months Ended June 30, 2002
Net income for the six months ended June 30, 2002 was $1.1 million or
$0.46 per share (basic and diluted) compared with $551,000 or $0.23 per share
(basic and diluted) for the same period in 2001. Included in net income for 2002
is a $427,000 pre-tax gain which Paradigm recognized in June 2002 as
compensation in connection with the State of Texas and Harris County taking part
of the banking center land and parking lot at 2828 FM 1960 East. Excluding this
one-time gain, net income for the six months ended June 30, 2002 would have been
$812,000 or $0.34 per share (basic and diluted). Paradigm posted a return on
average assets of 0.86% and a return on average equity of 11.69% for the six
months ended June 30, 2002.
At June 30, 2002, Paradigm had total assets of $250.3 million, total loans
of $175.3 million, total deposits of $219.7 million and total shareholders'
equity of $19.3 million.
Nonperforming assets totaled $1.6 million or 0.89% of total loans at June
30, 2002 compared with $1.4 million or 0.82% of total loans at December 31, 2001
and $1.2 million or 0.82% of total loans at June 30, 2001. The provision for
credit losses was $331,000 for the six months ended June 30, 2002. The allowance
for credit losses at June 30, 2002 was $1.8 million and represented 1.03% of
total loans compared with $1.2 million and 0.80% of total loans at June 30,
2001.
13
SELECTED HISTORICAL CONSOLIDATED FINANCIAL DATA OF PROSPERITY
The following table summarizes financial results actually achieved by
Prosperity for the periods and at the dates indicated and should be read in
conjunction with Prosperity's consolidated financial statements and the notes to
the consolidated financial statements contained in reports that Prosperity has
previously filed with the Securities and Exchange Commission. Historical
financial information for Prosperity can be found in its Quarterly Report on
Form 10-Q for the three months ended March 31, 2002 and its Annual Report on
Form 10-K for the year ended December 31, 2001. See "Where You Can Find
Additional Information" on 101 for instructions on how to obtain the information
that has been incorporated by reference. Financial amounts as of and for the
three months ended March 31, 2002 and March 31, 2001 are unaudited, but
management of Prosperity believes that such amounts reflect all normal recurring
adjustments necessary for a fair presentation of the results of operations and
financial position for those periods. You should not assume the results of
operations for past periods and for the three months ended March 31, 2002 and
2001 indicate results for any future period.
As of and for the
Three Months Ended As of and for the Year Ended
March 31, December 31,
------------------------ ------------------------------------------------------------
2002 2001 2001 2000 1999 1998 1997
---------- ---------- ---------- ---------- -------- --------- ---------
(dollars in thousands, except per share data)
Income Statement Data:
Interest income .................... $ 18,380 $ 19,320 $ 76,520 $ 70,079 $ 56,458 $ 46,026 $ 39,197
Interest expense ................... 6,356 10,019 35,785 35,564 26,189 21,923 18,434
---------- ---------- ---------- ---------- ---------- --------- ---------
Net interest income ................ 12,024 9,301 40,735 34,515 30,269 24,103 20,763
Provision for credit losses ........ 120 -- 700 275 420 264 720
---------- ---------- ---------- ---------- ---------- --------- ---------
Net interest income after
provision for credit losses ........ 11,904 9,301 40,035 34,240 29,849 23,839 20,043
Noninterest income ................. 2,161 2,035 8,590 7,760 6,151 4,808 4,758
Noninterest expense ................ 7,662 9,129(1) 30,295(1) 26,767 21,822 17,989 16,037
---------- ---------- ---------- ---------- ---------- --------- ---------
Income before taxes ................ 6,403 2,207(1) 18,330(1) 15,233 14,178 10,658 8,764
Provision for income taxes ......... 1,912 540(1) 5,372(1) 4,532 4,747 3,577 2,811
---------- ---------- ---------- ---------- ---------- --------- ---------
Net income ......................... $ 4,491 $ 1,667(1) $ 12,958(1) $ 10,701 $ 9,431 $ 7,081 $ 5,953
========== ========== ========== ========== ========== ========= =========
Per Share Data(2):
Basic earnings per share ........... $ 0.28 $ 0.11(3) $ 0.80(3) $ 0.67 $ 0.59 $ 0.51 $ 0.45
Diluted earnings per share ......... 0.27 0.10(3) 0.79(3) 0.65 0.58 0.50 0.45
Book value per share ............... 5.72 5.06 5.48 4.98 4.32 3.88 3.23
Cash dividends declared ............ 0.06 0.05 0.20 0.18 0.10 0.10 0.08
Dividend payout ratio .............. 19.88% 43.79% 24.39% 25.75% 19.10% 33.82% 35.24%
Weighted average shares outstanding
(basic)(in thousands) .............. 16,222 16,174 16,172 16,064 15,972 13,832 13,156
Weighted average shares outstanding
(diluted)(in thousands) ............ 16,552 16,516 16,498 16,454 16,408 14,230 13,340
Shares outstanding at end of period
(in thousands) ..................... 16,240 16,176 16,210 14,144 15,990 15,946 13,580
Balance Sheet Data (at period end):
Total assets ....................... $1,289,637 $1,169,731 $1,262,325 $1,146,140 $1,027,631 $ 800,158 $ 653,462
Securities ......................... 797,519 664,123 752,322 586,952 514,983 455,202 360,496
Loans .............................. 420,916 418,648 424,400 411,203 366,803 276,106 209,013
Allowance for credit losses ........ 6,126 5,598 5,985 5,523 5,031 3,682 2,567
Total deposits ..................... 1,142,361 1,053,993 1,123,397 1,033,546 878,589 714,365 593,086
Borrowings and notes payable ....... 19,142 13,778 18,080 13,931 53,119 17,508 10,823
Total shareholders' equity ......... 92,781 81,885 88,725 80,333 69,025 61,781 43,868
Company-obligated mandatorily
redeemable preferred securities of
subsidiary trusts .................. 27,000(4) 12,000 27,000(4) 12,000 12,000 -- --
14
As of and for the
Three Months Ended As of and for the Year Ended
March 31, December 31,
--------------------------- ----------------------------------------------------------
2002 2001 2001 2000 1999 1998 1997
---------- ---------- ---------- ---------- ---------- --------- ---------
(dollars in thousands, except per share data)
Average Balance Sheet Data:
Total assets ................... $1,280,327 $1,155,225 $1,191,190 $1,045,882 $ 875,781 $ 700,410 $ 596,625
Securities ..................... 774,623 594,526 666,241 550,431 465,788 392,026 329,484
Loans .......................... 417,098 407,471 419,553 383,054 319,178 238,855 197,423
Allowance for credit losses .... 6,043 5,528 5,586 5,245 4,272 2,994 1,984
Total deposits ................. 1,139,604 1,035,041 1,061,195 920,526 767,879 628,557 540,488
Total shareholders' equity ..... 92,767 82,196 85,319 72,952 64,911 47,574 45,098
Company-obligated mandatorily
redeemable preferred securities
of subsidiary trusts(4) ........ 27,000 12,000 18,875 12,000 1,500 -- --
Performance Ratios:
Return on average assets ....... 1.40% 0.58%(5) 1.09%(5) 1.02% 1.08% 1.01% 1.00%
Return on average equity ....... 19.36 8.11(5) 15.19(5) 14.67 14.53 14.88 13.20
Net interest margin (tax
equivalent)(6) ................. 4.15 3.65 3.86 3.69 3.77 3.75 3.87
Efficiency ratio(7) ............ 52.34 80.02(5) 60.14(5) 62.29 59.29 61.72 62.31
Asset Quality Ratios(8):
Nonperforming assets to total
loans and other real estate .... 0.02% 0.10% 0.00% 0.32% 0.34% 0.14% 0.93%
Net loan charge-offs (recoveries)
to average loans ............... (0.01) (0.02) 0.06 (0.04) (0.11) (0.08) 0.06
Allowance for credit losses to
total loans .................... 1.46 1.34 1.41 1.34 1.37 1.33 1.23
Allowance for credit losses to
nonperforming loans(9) ......... n/m(10) n/m(10) n/m(10) 700.89 657.65 941.69 132.39
Capital Ratios(8):
Leverage ratio ................. 7.68% 6.12% 7.57% 6.17% 6.17% 6.59% 6.00%
Average shareholders' equity to
average total assets ........... 7.25 7.12 7.16 6.98 7.41 6.79 7.56
Tier 1 risk-based capital
ratio .......................... 18.66 13.82 18.34 13.80 13.89 15.06 14.15
Total risk-based capital
ratio .......................... 19.85 14.94 19.52 14.93 15.74 16.14 15.12
-------------
(1) Certain income statement data for the three months ended March 31, 2001
and the year ended December 31, 2001 includes the merger-related
expenses of $2.4 million. If these merger-related expenses were
excluded, the income statement data would have been as follows:
March 31, 2001 December 31, 2001
-------------- -----------------
Noninterest expense $ 6,704 $ 27,870
Income before income taxes 4,632 20,755
Provision for income taxes 1,388 6,221
Net income 3,244 14,534
(2) Adjusted for a two-for-one stock split effective May 31, 2002 and a
four-for-one stock split effective September 10, 1998.
(3) Earnings per share amounts for the three months ended March 31, 2001
and the year ended December 31, 2001 include the merger-related
expenses of $2.4 million. If these merger-related expenses were
excluded, basic earnings per share would have been $0.20 and $0.90,
respectively, and diluted earnings per share would have been $0.20 and
$0.88, respectively.
(4) Consists of $12.0 million of trust preferred securities of Prosperity
Capital Trust I due November 12, 2029 and $15.0 million of trust
preferred securities of Prosperity Statutory Trust II due July 31,
2031.
(5) Selected performance ratios for the three months ended March 31, 2001
and the year ended December 31, 2001 include the merger-related
expenses of $2.4 million. If these merger-related expenses were
excluded, the performance ratios would have been as follows:
March 31, 2001 December 31, 2001
-------------- ----------------
Return on average assets ........ 1.12% 1.22%
Return on average equity ........ 15.79 17.04
Efficiency ratio ................ 58.07 55.06
15
(6) Calculated on a tax-equivalent basis using a 35% federal income tax
rate for the three month periods ended March 31, 2002 and March 31,
2001 and the year ended December 31, 2001 and a 34% federal income tax
rate for the years ended December 31, 1997 through December 31, 2000.
(7) Calculated by dividing total noninterest expense, excluding securities
losses and credit loss provisions, by net interest income plus
noninterest income. The interest expense related to debentures issued
by Prosperity in connection with the issuance by subsidiary trusts of
trust preferred securities is treated as interest expense for this
calculation. Additionally, taxes are not part of this calculation.
(8) At period end, except for net loan charge-offs to average loans and
average shareholders' equity to average total assets, which is for
periods ended at such dates.
(9) Nonperforming loans consist of nonaccrual loans, loans contractually
past due 90 days or more and restructured loans.
(10) Amount not meaningful. Nonperforming assets totaled $68,000 at March
31, 2002, $420,000 at March 31, 2001 and $1,000 at December 31, 2001.
16
SELECTED HISTORICAL CONSOLIDATED FINANCIAL DATA OF PARADIGM
The following table summarizes financial results actually achieved by
Paradigm for the periods and at the dates indicated and should be read in
conjunction with Paradigm's consolidated financial statements and the notes to
the consolidated financial statements. The selected financial data as of
December 31, 2001 and 2000 and for each of the two years in the period ended
December 31, 2001 are derived from Paradigm's audited consolidated financial
statements and related notes included elsewhere in this proxy-statement
prospectus. The selected financial data as of December 31, 1999, 1998 and 1997
and for each of the years in the three year period ended December 31, 1999 is
derived from Paradigm's audited financial statements and related notes, which
are not included in this proxy statement-prospectus. Financial amounts as of and
for the three months ended March 31, 2002 and March 31, 2001 are unaudited, but
management of Paradigm believes that such amounts reflect all normal recurring
adjustments necessary for a fair presentation of the results of operations and
financial position for those periods. You should not assume the results of
operations for past periods and for the three months ended March 31, 2002 and
2001 indicate results for any future period.
As of and for the
Three Months Ended As of and for the Year Ended
March 31, December 31,
------------------ -----------------------------------------------
2002 2001 2001 2000 1999 1998 1997
-------- -------- -------- -------- -------- -------- --------
(dollars in thousands, except per share data)
Income Statement Data:
Interest income .................................. $ 3,576 $ 3,957 $ 15,701 $ 15,771 $ 7,813 $ 6,324 $ 4,758
Interest expense ................................. 977 1,395 5,372 5,065 2,597 2,387 1,871
-------- -------- -------- -------- -------- -------- --------
Net interest income ............................ 2,599 2,562 10,329 10,706 5,216 3,937 2,887
Provision for credit losses ...................... 121 215 1,010 701 309 76 40
-------- -------- ------- -------- ------- -------- --------
Net interest income after provision for
credit losses .................................. 2,478 2,347 9,319 10,005 4,907 3,861 2,847
Noninterest income ............................... 1,104 1,560 4,968 3,758 2,278 1,407 1,125
Noninterest expense .............................. 3,090 3,225 12,815 10,492 5,357 4,151 2,672
-------- -------- -------- -------- -------- -------- --------
Income before taxes ............................ 492 682 1,472 3,271 1,828 1,117 1,300
Provision for income taxes(1) ...................... 138 211 345 1,040 104 -- 330
-------- -------- -------- -------- -------- -------- --------
Net Income ..................................... $ 354 $ 471 $ 1,127 $ 2,231 $ 1,724 $ 1,117 $ 970
======== ======== ======== ======== ======== ======== ========
Per Share Data:
Basic earnings per share ......................... $ 0.15 $ 0.20 $ 0.47 $ 0.94 $ 1.09 $ 0.76 $ 0.65
Diluted earnings per share ....................... 0.15 0.20 0.47 0.94 1.09 0.76 0.65
Book value per share ............................. 7.73 7.45 7.62 7.27 6.42 5.01 3.89
Tangible book value per share(2) ................. 6.34 6.02 6.23 5.82 4.77 4.51 3.28
Cash dividends declared .......................... -- -- 0.06 0.30 0.48 0.14 0.26
Dividend payout ratio ............................ --% --% 12.7% 31.9% 41.3% 18.7% 34.8%
Weighted average shares outstanding (basic)
(in thousands) ................................. 2,375 2,375 2,375 2,375 1,576 1,472 1,499
Weighted average shares outstanding (diluted) (in
thousands) ..................................... 2,375 2,375 2,375 2,375 1,576 1,472 1,499
Shares outstanding at end of period (in
thousands) ..................................... 2,375 2,375 2,375 2,375 2,375 1,500 1,287
Balance Sheet Data (at period end):
Total assets ..................................... $256,737 $220,196 $259,262 $215,304 $210,847 $104,969 $ 93,387
Securities ....................................... 43,305 34,770 43,652 46,750 51,291 24,511 22,211
Loans ............................................ 170,591 134,938 170,758 133,468 111,244 49,368 37,958
Allowance for credit losses ...................... 1,929 894 1,570 1,136 680 113 165
Total deposits ................................... 230,288 193,342 232,375 188,005 182,042 96,796 86,189
Borrowings and notes payable ..................... -- -- -- -- -- -- --
Company-obligated mandatorily redeemable
preferred securities of subsidiary trust ...... 6,000 6,000 6,000 5,125 5,125 -- --
Total stockholders' equity ....................... 18,370 17,684 18,103 17,256 15,248 7,525 5,006
17
As of and for the
Three Months Ended As of and for the Year Ended
March 31, December 31,
------------------ -----------------------------------------------
2002 2001 2001 2000 1999 1998 1997
-------- -------- -------- -------- -------- ------- -------
(dollars in thousands, except per share data)
Average Balance Sheet Data:
Total assets ...................................... $256,059 $217,750 $237,283 $213,076 $116,104 $96,075 $72,110
Securities ........................................ 42,603 42,296 44,266 52,782 32,647 19,353 22,090
Loans ............................................. 168,959 134,203 145,591 122,228 62,483 43,411 29,625
Allowance for credit losses ....................... 1,867 1,015 1,270 859 426 202 164
Total deposits .................................... 226,787 191,196 210,278 185,034 105,408 88,348 65,414
Company-obligated mandatorily redeemable trust
preferred securities of subsidiary trust ....... 6,000 5,562 5,563 5,125 427 -- --
Total stockholders' equity ........................ 18,236 17,470 17,680 16,252 8,166 6,828 6,202
Selected Ratios and Other Data:
Return on average assets .......................... 0.55% 0.87% 0.48% 1.05% 1.49% 1.16% 1.35%
Return on average equity .......................... 7.76 10.78 6.37 13.73 21.11 17.83 15.64
Net interest margin(3) ............................ 4.90 5.75 5.37 6.10 5.44 4.82 4.67
Efficiency ratio(4) ............................... 88.02 85.60 85.80 72.88 73.29 79.26 66.60
Number of banking locations ....................... 11 9 11 11 9 6 4
Asset Quality Ratios(5):
Nonperforming assets to total loans and
other real estate .............................. 0.89% 1.05% 0.82% 1.31% 0.95% 0.70% 2.60%
Net loan charge-offs (recoveries) to
average loans .................................. (0.04) 0.34 0.40 0.20 0.17 0.48 0.08
Allowance for credit losses to total loans ........ 1.13 0.66 0.92 0.85 0.61 0.23 0.43
Allowance for credit losses to nonperforming
loans(6) ....................................... 126.99 62.96 112.14 64.91 129.33 100.00 63.22
Capital Ratios(5):
Leverage Ratio .................................... 8.14% 8.81% 7.93% 8.82% 8.00% 6.45% 6.26%
Average stockholders' equity to average
total assets ................................... 7.12 8.02 7.45 7.63 7.03 7.11 8.61
Tier 1 risk-based capital ratio ................... 10.37 13.64 10.85 12.24 12.82 11.64 12.07
Total risk-based capital ratio .................... 11.35 14.29 11.69 13.00 13.35 11.84 12.58
---------------------
(1) For the federal income tax years beginning after December 31, 1997 and
until December 1, 1999, Paradigm was taxed under Subchapter S of the
Internal Revenue Code. Consequently, there is no provision for income
tax in 1998 and the first eleven months of 1999. Based upon Paradigm's
federal income tax bracket if it were taxed as a C corporation, the
provision for income tax would have been approximately $548,000 and
$277,000 for the years ended December 31, 1999 and 1998, respectively,
which would have resulted in net earnings of $1.3 million and $840,000
for the years ended December 31, 1999 and 1998, respectively.
(2) Calculated by dividing total assets, less total liabilities and
goodwill, by shares outstanding at end of period.
(3) Calculated on a tax-equivalent basis using a 34% federal income tax
rate.
(4) Calculated by dividing total noninterest expenses, excluding securities
losses and credit loss provisions, by net interest income plus
noninterest income. For purposes of this calculation, the minority
interest expense related to the trust preferred securities is treated
as interest expense. Additionally, income taxes are not part of this
calculation.
(5) Asset quality and capital ratios are based on balances at period end,
except for net loan charge-offs to average loans and average
stockholders' equity to average total assets, which are based on
average balances for periods ended at such dates.
(6) Nonperforming loans consist of nonaccruing loans, loans contractually
past due 90 days or more and restructured loans.
18
UNAUDITED PRO FORMA CONSOLIDATED FINANCIAL STATEMENTS
The following unaudited pro forma financial information and related
footnotes as of March 31, 2002 and for the three months ended March 31, 2002 and
the year ended December 31, 2001 are presented to show the impact of the merger
on the historical financial position and results of operations of Prosperity. As
a result of the merger and assuming no adjustment in the exchange ratio,
Paradigm shareholders will receive up to 1.08658 shares of Prosperity common
stock for each share of Paradigm common stock outstanding, with cash paid for
fractional share interests.
The unaudited Pro Forma Consolidated Balance Sheet reflects the historical
position of Paradigm and Prosperity at March 31, 2002 with pro forma adjustments
based on the assumption that the merger was effective March 31, 2002. The pro
forma adjustments are based on the purchase method of accounting. The unaudited
Pro Forma Consolidated Statements of Income assume that the merger was
consummated on January 1 of the earliest indicated period. The adjustments are
based on information available and certain assumptions that Prosperity believes
are reasonable. Management has not identified, quantified or evaluated any
material restructuring costs at this time. The final allocation of the purchase
price between shareholders' equity and goodwill will be determined after the
merger is completed and after completion of thorough analyses to determine the
fair values of Paradigm's tangible and identifiable intangible assets and
liabilities as of the date the merger is completed. Any change in the fair value
of the net assets of Paradigm will change the amount of the purchase price
allocable to goodwill. Further, changes to Paradigm's stockholders' equity,
including net income from April 1, 2002 through the date the merger is complete,
will also change the amount of goodwill recorded. In addition, the final
adjustments may be different from the unaudited pro forma adjustments presented
herein.
The unaudited Pro Forma Consolidated Balance Sheet also reflects the
combined historical position at March 31, 2002 of Texas Guaranty Bank, which
Prosperity acquired on May 8, 2002, and The First State Bank, which Prosperity
acquired on July 12, 2002, with pro forma adjustments based on the assumption
that each of the acquisitions was effective March 31, 2002. The unaudited Pro
Forma Consolidated Statements of Income assume that each of these acquisitions
was consummated on January 1 of the earliest indicated period.
The following information should be read in conjunction with and is
qualified in its entirety by the consolidated financial statements and
accompanying notes of Paradigm included with this proxy statement-prospectus and
the consolidated financial statements of Prosperity incorporated by reference
into this proxy statement-prospectus.
The unaudited pro forma financial information is intended for informational
purposes and is not necessarily indicative of the future financial position or
future operating results of the combined company or of the financial position or
operating results of the combined company that would have actually occurred had
the merger been in effect as of the date or for the period presented.
19
Unaudited Pro Forma Combined Balance Sheet
March 31, 2002
Pro Forma
Adjustments
---------------------
Prosperity Other
Bancshares Acquisitions(1) Debits Credits
---------- ----------------- ------- -------
(Dollars in thousands)
Assets:
Cash and due from banks ............ $ 26,131 $ 3,610 $ 15,540(2)
Federal funds sold ................. 693 3,865
---------- --------- ------- --------
Total cash and cash equivalents 26,824 7,475 - 15,540
Interest-bearing deposits
in financial institutions ......... 198 594
Securities:
Available-for-sale ................. 461,349 19,418
Held-to-maturity ................... 336,170 7
---------- --------- ------- --------
Total securities ................. 797,519 19,435 - -
Loans .............................. 420,916 65,929
Less allowance for credit losses ... (6,126) (739)
--------- --------- ------- --------
Loans, net ........................ 414,790 65,190 - -
Bank premises and
equipment, net .................... 15,415 1,738
Accrued interest receivable ........ 8,784 536
Other real estate owned ............ - 13
Core deposit intangibles ........... - - $ 543(3)
Goodwill, net of accumulated
amortization ..................... 22,641 - 3,482(4)
Other assets ....................... 3,466 1,510
---------- --------- ------- --------
Total assets ..................... $1,289,637 $ 96,491 $ 4,025 $ 15,540
========== ========= ======= ========
Liabilities and Shareholders'
Equity:
Deposits:
Noninterest-bearing ............... $ 179,010 $ 20,999
Interest-bearing .................. 963,351 56,343
---------- --------- ------- --------
Total deposits ................... 1,142,361 77,342 - -
Note payable ...................... 13,142 -
Other borrowings .................. 6,000 7,250
Accrued interest payable .......... 2,384 147
Other liabilities ................. 5,969 238
---------- --------- ------- --------
Total liabilities ................ 1,169,856 84,977 - -
Company-obligated manditorily
redeemable trust preferred
securities of subsidiary trusts .. 27,000 -
Shareholders' Equity:
Preferred stock .................... - -
Common stock 16,248 2,298 2,298(5)
Additional paid in capital ......... 16,899 4,813 4,813(5)
Retained earnings .................. 59,060 4,007 4,007(5)
Accumulated other comprehensive
income, net unrealized gain on
available for sale securities,
net of tax ....................... 610 396 396(5)
Less treasury stock at cost ........ (36) -
Total shareholders' equity ....... 92,781 11,514 11,514 -
---------- --------- ------- --------
Total liabilities and
shareholders' equity ............ $1,289,637 $ 96,491 $11,514 $ -
========== ========= ======= ========
Pro Forma
Adjusted Adjustments
----------------------
Prosperity Paradigm Pro Forma
Subtotal Bancorporation Debits Credits Combined
---------- -------------- -------- ------- ----------
Assets:
Cash and due from banks ............ $ 14,201 $ 15,634 $ 29,835
Federal funds sold ................. 4,558 4,283 $ 665(6) 8,176
---------- -------------- -------- ------- ----------
Total cash and cash 18,759 19,917 - 665 38,011
Interest-bearing deposits
in financial institutions ......... 792 5,314 - 6,106
Securities:
Available-for-sale ................. 480,777 29,552 510,329
Held-to-maturity ................... 336,177 13,753 349,930
---------- -------------- -------- ------- ----------
Total securities ................. 816,954 43,305 - - 860,259
Loans .............................. 486,845 170,591 657,436
Less allowance for credit
losses ............................ (6,865) (1,929) (8,794)
---------- ------------- -------- ------- ----------
Loans, net ........................ 479,980 168,662 - - 648,642
Bank premises and
equipment, net .................... 17,153 12,067 29,220
Accrued interest receivable ........ 9,320 1,367 10,687
Other real estate owned ............ 13 333 346
Core deposit intangibles ........... 543 - $ 2,522(7) 3,065
Goodwill, net of
accumulated amortization .......... 26,123 3,310 23,195(8) 3,310(8) 49,318
Other assets ....................... 4,976 2,462 1,225(9) 8,663
---------- ------------- -------- ------- ----------
Total assets ..................... $1,374,614 $ 256,737 $ 26,942 $ 3,975 $1,654,317
========== ============= ======== ======= ==========
Liabilities and Shareholders'
Equity:
Deposits:
Noninterest-bearing ............... $ 200,009 $ 86,071 $ 286,080
Interest-bearing .................. 1,019,694 144,217 1,163,911
---------- ------------- -------- ------- ----------
Total deposits ................... 1,219,703 230,288 - - 1,449,991
Note payable ...................... 13,142 - 13,142
Other borrowings .................. 13,250 - 13,250
Accrued interest payable .......... 2,531 406 2,937
Other liabilities ................. 6,207 1,674 7,881
---------- ------------- -------- ------- ----------
Total liabilities ................ 1,254,833 232,368 - - 1,487,201
Company-obligated manditorily
redeemable trust preferred
securities of subsidiary trusts .. 27,000 6,000 33,000
Shareholders' Equity:
Preferred stock .................... - -
Common stock ....................... 16,248 2,375 2,375(10) 2,581(11) 18,829
Additional paid in capital ......... 16,899 10,793 10,793(10) 39,419(11) 56,318
Retained earnings .................. 59,060 5,138 5,803(10) 58,395
Accumulated other comprehensive
income, net unrealized gain on
available for sale securities,
net of tax ........................ 610 63 63(10) 610
Less treasury stock at cost ........ (36) - (36)
Total shareholders' equity ....... 92,781 18,369 19,034 42,000 134,116
---------- ------------- -------- ------- ----------
Total liabilities and
shareholders' equity ............ $1,374,614 $ 256,737 $ 19,034 $42,000 $1,654,317
========== ============= ======== ======= ==========
20
_________________________________
(1) Includes the financial data for Texas Guaranty Bank acquired on May 8, 2002
and The First State Bank, Needville, Texas, acquired on July 12, 2002.
(2) This adjustment represents the cash price paid of $11.8 million for Texas
Guaranty Bank and the cash price paid of $3.7 million for The First State
Bank.
(3) This adjustment represents core deposit intangibles of $276,000 for Texas
Guaranty Bank and $267,000 for The First State Bank which will both be
amortized using an accelerated amortization method over a useful life of
eight years.
(4) This adjustment represents the purchase price adjustments to mark Texas
Guaranty Bank's and The First State Bank's assets and liabilities to fair
value upon the consummation of both acquisitions and results in goodwill of
$2.3 million for Texas Guaranty Bank and $1.2 million for The First State
Bank.
(5) This adjustment represents the elimination of $9.4 million in capital of
Texas Guaranty Bank and the elimination of $2.1 million in capital of The
First State Bank against the investment in subsidiary of Prosperity.
(6) This adjustment represents change in control payments that will be made in
connection with the Paradigm merger.
(7) This adjustment represents core deposit intangibles of $2.5 million for
Paradigm which will be amortized using an accelerated amortization method
over a useful life of eight years.
(8) This adjustment represents the purchase price adjustments to mark
Paradigm's assets and liabilities to fair value upon the consummation of
the acquisition and results in goodwill of $23.2 million and elimination of
Paradigm's previous goodwill.
(9) This adjustment represents the shares of Prosperity common stock issued in
connection with the Paradigm merger which will be deposited into the
holdback escrow.
(10) This adjustment represents the elimination of Paradigm's equity The
retained earnings adjustment also includes the $665,000 one time charge
adjustment (See footnote 6).
(11) This adjustment represents the purchase of 100% of the outstanding shares
of capital stock of Paradigm through issuance of Prosperity common stock
(adjusted for the 2-for-1 stock split).
21
Unaudited Pro Forma Combined Statement of Income
Three Months Ended March 31, 2002
Pro Forma
Prosperity Other Adjustments Adjusted
--------------------
Prosperity
Bancshares Acquisitions(1) Debits Credits Subtotal
------------- ------------------ -------- ---------- ------------
(Dollars in thousands)
Interest Income:
Interest and fees on loans ................... $ 7,756 $ 1,212 $ 8,968
Interest on securities ....................... 10,557 295 10,852
Federal funds sold and
other earning assets ........................ 67 32 99
---------- ----------------- -------- ------ --------
Total interest income ..................... 18,380 1,539 - - 19,919
Interest Expense:
Interest on deposits ......................... 6,149 490 6,639
Interest on other borrowings ................. 207 47 254
---------- ----------------- -------- ------ --------
Total interest expense .................... 6,356 537 - - 6,893
Net interest income ......................... 12,024 1,002 - - 13,026
Provision for loan losses .................... 120 5 125
---------- ----------------- -------- ------ --------
Net interest income after
provision for credit losses ................. 11,904 997 - - 12,901
Noninterest Income:
Customer service fees ........................ 1,858 127 1,985
Gain (loss) on ORE ........................... - - -
Total realized gain on securities ............ - 7 7
Other operating income ....................... 303 35 338
---------- ----------------- -------- ------ --------
Total noninterest income .................. 2,161 169 - - 2,330
Noninterest Expense:
Employee compensation and
benefits .................................... 3,909 625 $ 200(2) 4,334
Net occupancy ................................ 479 181 660
Core deposit intangibles
amortization ................................ - - $ 22(3) 22
Minority interest-trust
preferred securities ........................ 498 - 498
Other operating expenses ..................... 2,776 248 25(2) 2,999
---------- ----------------- -------- ------ --------
Total noninterest expenses ................ 7,662 1,054 22 225 8,513
Earnings before income taxes ................. 6,403 112 (22) 225 6,718
Provision for income taxes ................... 1,912 25 55(4) 1,992
---------- ----------------- -------- ------ --------
Net earnings before
preferred stock dividends ................. $ 4,491 $ 87 $ (22) $ 170 $ 4,726
Net earnings available to
common shareholders ......................... $ 4,491 $ 87 $ (22) $ 170 $ 4,726
========== ================= ======== ====== ========
Basic earnings per share ..................... $ 0.28 $ 0.29
Average shares outstanding
(basic) ................................... 16,222 16,222
Diluted earnings per share ................... $ 0.27 $ 0.29
Average shares outstanding
(diluted) ................................. 16,552 16,552
Pro Forma
Adjustments
----------------------
Paradigm Pro Forma
Bancorporation Debits Credits Combined
---------------- ----------- ---------- ----------
Interest Income:
Interest and fees on loans ................... $ 3,018 $ 11,986
Interest on securities ....................... 494 11,346
Federal funds sold and
other earning assets ........................ 64 163
------------- -------- ------- ---------
Total interest income ..................... 3,576 - - 23,495
Interest Expense:
Interest on deposits ......................... 977 7,616
Interest on other borrowings ................. - 254
------------- -------- ------- ---------
Total interest expense .................... 977 - - 7,870
Net interest income ......................... 2,599 - 15,625
Provision for loan losses .................... 121 246
------------- -------- ------- ---------
Net interest income after
provision for credit losses ................. 2,478 - - 15,379
Noninterest Income:
Customer service fees ........................ 980 2,965
Gain (loss) on ORE ........................... (84) (84)
Total realized gain on securities ............ 206 213
Other operating income ....................... 2 340
------------- -------- ------- ---------
Total noninterest income .................. 1,104 - - 3,434
Noninterest Expense:
Employee compensation and benefits ........... 1,456 $ 463(5) 5,327
Net occupancy ................................ 289 949
Core deposit intangibles
amortization ................................ - 101(6) 123
Minority interest-trust
preferred securities ........................ 101 599
Other operating expenses ..................... 1,244 113(5) 4,130
------------- -------- ------- ---------
Total noninterest expenses ................ 3,090 101 576 11,128
Earnings before income taxes ................. 492 (101) 576 7,685
Provision for income taxes ................... 138 167(7) 2,297
------------- -------- ------- ---------
Net earnings before
preferred stock dividends ................. $ 354 (101) $ 409 $ 5,388
Net earnings available to
common shareholders ......................... $ 354 (101) $ 409 $ 5,388
============= ======== ======= =========
Basic earnings per share ..................... $ 0.15 $ 0.29
Average shares outstanding
(basic) ................................... 2,375 (2,375) 2,581 18,803
Diluted earnings per share ................... $ 0.15 $ 0.28
Average shares outstanding
(diluted) ................................. 2,375 (2,375) 2,581 19,133
-------------------------
(1) Includes the financial data for Texas Guaranty Bank acquired on May 8, 2002
and The First State Bank acquired on July 12, 2002.
(2) This adjustment represents the anticipated operational cost savings in
connection with the Texas Guaranty Bank acquisition and The First State
Bank acquisition for the combined company over a three month period.
Prosperity anticipates that these savings will occur through the
combination of back office operations and elimination of duplicate general,
administrative and salary and benefits expenses.
(3) This adjustment represents core deposit intangibles amortization of $10,750
per quarter for The First State Bank and $11,000 per quarter for Texas
Guaranty Bank using an accelerated amortization method over a useful life
of eight years for both acquisitions.
(4) This adjustment represents the net tax effect of the anticipated
operational cost savings and core deposit intangibles amortization for
Texas Guaranty Bank and The First State Bank using an effective tax rate of
35%.
22
(5) This adjustment represents the anticipated operational cost savings in
connection with the Paradigm merger for the combined company over a three
month period. Prosperity anticipates that these savings will occur through
the combination of back office operations, elimination of duplicate
general, administrative and salary and benefits expenses.
(6) This adjustment represents core deposit intangibles amortization of
$101,000 per quarter for Paradigm using an accelerated amortization method
over a useful life of eight years.
(7) This adjustment represents the net tax effect of the anticipated
operational cost savings and core deposit intangibles amortization for
Paradigm using an effective tax rate of 35%.
23
Unaudited Pro Forma Combined Statement of Income
Year Ended December 31, 2001
Pro Forma
Adjustments
Prosperity Other ------------- Prosperity
Bancshares Acquisitions(1) Debits Credits Subtotal
---------- ----------------- ------ ------- ----------
(Dollars in thousands)
Interest Income:
Interest and fees on loans ............ $ 34,731 $ 5,345 $ 40,076
Interest on securities ................ 40,353 1,494 41,847
Federal funds sold and
other earning assets ................. 1,436 258 1,694
---------- ---------- ------- ------- ----------
Total interest income .............. 76,520 7,097 - - 83,617
Interest Expense:
Interest on deposits .................. 34,780 2,410 37,190
Federal funds purchased and
other borrowings ..................... 1,005 544 1,549
---------- ---------- ------- ------- ----------
Total interest expense ................ 35,785 2,954 - - 38,739
Net interest income .................. 40,735 4,143 44,878
Provision for credit losses ........... 700 237 937
---------- ---------- ------- ------- ----------
Net interest income after
provision for credit losses .......... 40,035 3,906 - - 43,941
Noninterest Income:
Customer service fees ................. 7,530 529 8,059
Gain (loss) on ORE .................... - - -
Total realized gain on securities ..... - - -
Other operating income ................ 1,060 145 1,205
---------- ---------- ------- ------- ---------
Total noninterest income ........... 8,590 674 - - 9,264
Noninterest Expense:
Employee compensation and benefits .... 12,955 2,396 $ 800(2) 14,551
Net occupancy ......................... 1,971 821 2,792
Core deposit intangibles
amortization ......................... - - $ 87(3) 87
Goodwill amortization ................. 1,363 - 1,363
Minority interest-trust
preferred securities ................. 1,580 - 1,580
Merger related expenses ............... 2,425 - 2,425
Other operating expenses .............. 10,001 1,170 100(2) 11,071
---------- ---------- ------- ------- ----------
Total noninterest expense .......... 30,295 4,387 87 900 33,869
Earnings before income taxes .......... 18,330 193 (87) 900 19,336
Provision for income taxes ............ 5,372 28 100(4) 5,685
---------- ---------- ------- ------- ----------
Net earnings before preferred
stock dividends ...................... $ 12,958 $ 165 $ (87) $ 615 $ 13,651
Net earnings available to
common shareholders .................. $ 12,958 $ 165 $ (87) $ 615 $ 13,651
========== ========== ======= ======= ==========
Basic earnings per share .............. $ 0.80 $ 0.84
Average shares outstanding
(basic) .............................. 16,171 16,171
Diluted earnings per share ............ $ 0.79 $ 0.83
Average shares outstanding
(diluted) ............................ 16,497 16,497
Pro Forma
Adjusted Adjustments
Paradigm -------------- Pro Forma
Bancorporation(2) Debits Credits Combined
------------------ ------ ------- ----------
(Dollars in thousands)
Interest Income:
Interest and fees on loans ......... $ 12,753 $ 52,829
Interest on securities ............. 2,493 44,340
Federal funds sold and
other earning assets .............. 455 2,149
---------- ------- ------- ---------
Total interest income ........... 15,701 - - 99,318
Interest Expense:
Interest on deposits ............... 5,359 42,549
Federal funds purchased and
other borrowings .................. 13 1,562
---------- ------- ------- ---------
Total interest expense ............. 5,372 - - 44,111
Net interest income ............... 10,329 55,207
Provision for credit losses ........ 1,010 1,947
---------- ------- ------- ---------
Net interest income after
provision for credit losses ....... 9,319 - - 53,260
Noninterest Income:
Customer service fees .............. 4,230 12,289
Gain (loss) on ORE ................. - -
Total realized gain on securities .. 449 449
Other operating income ............. 289 1,494
---------- ------- ------- ---------
Total noninterest income ........ 4,968 - - 14,232
Noninterest Expense:
Employee compensation and
benefits .......................... 5,711 $ 1,850(5) 18,412
Net occupancy ...................... 1,159 3,951
Core deposit intangibles
amortization ...................... - $ 404(6) 491
Goodwill amortization .............. 125 125(7) 1,363
Minority interest-trust
preferred securities .............. 539 2,119
Merger related expenses ............ - 2,425
Other operating expenses ........... 5,280 450(5) 15,901
---------- ------- ------- ---------
Total noninterest expense ....... 12,814 404 2,425 44,662
Earnings before income taxes ....... 1,473 (404) 2,425 22,830
Provision for income taxes ......... 345 708(8) 6,738
---------- ------- ------- ---------
Net earnings before
preferred stock dividends ......... $ 1,128 $ (404) $ 1,717 $ 16,092
Net earnings available to
common shareholders ............... $ 1,128 $ (404) $ 1,717 $ 16,092
========== ======= ======= =========
Basic earnings per share ........... $ 0.47 $ 0.86
Average shares outstanding
(basic) ........................... 2,375 (2,375) 2,581 18,752
Diluted earnings per share ......... $ 0.47 $ 0.84
Average shares outstanding
(diluted) ......................... 2,375 (2,375) 2,581 19,078
____________________
(1) Includes the financial data for Texas Guaranty Bank acquired on May 8, 2002
and The First State Bank acquired on July 12, 2002.
(2) This adjustment represents the anticipated operational cost savings in
connection with the acquisition of Texas Guaranty Bank and The First State
Bank for the combined company over a 12 month period. Prosperity
anticipates that these savings will occur through the combination of back
office operations and elimination of duplicate general, administrative and
salary and benefits expenses.
(3) This adjustment represents core deposit intangibles amortization of $43,000
per year for The First State Bank and $44,000 per year for Texas Guaranty
Bank using an accelerated amortization method over a useful life of eight
years.
(4) This adjustment represents the net tax effect of the anticipated
operational cost savings and core deposit intangibles amortization for
Texas Guaranty and The First State Bank using an effective tax rate of 35%.
24
(5) This adjustment represents the anticipated operational cost savings in
connection with the Paradigm merger for the combined company over a 12
month period. Prosperity anticipates that these savings will occur through
the combination of back office operations and the elimination of duplicate
general, administrative and salary and benefits expenses.
(6) This adjustment represents core deposit intangibles amortization of
$404,000 per year for Paradigm using an accelerated amortization method
over a useful life of eight years.
(7) This adjustment represents the elimination of Paradigm's original goodwill
amortization.
(8) This adjustment represents the net tax effect of the anticipated
operational cost savings, core deposit intangibles amortization and the
elimination of previous goodwill amortization for Paradigm using an
effective tax rate of 35%.
25
Summary of Historical and Pro Forma Per Share Selected Financial Data
Set forth below are the net earnings, diluted earnings, cash dividends
and book value per common share data for Prosperity and Paradigm on a historical
basis, on a pro forma combined basis and on a pro forma combined basis per
Paradigm equivalent share. Also included are weighted average shares outstanding
and shares outstanding at end of period for Prosperity and Paradigm and on a pro
forma basis. All share and per share data for Prosperity and the pro forma and
pro forma equivalent share information has been adjusted to reflect a
two-for-one stock split in the Prosperity common stock effective May 31, 2002.
The pro forma data was derived by combining the historical consolidated
financial information of Prosperity and Paradigm using the purchase method of
accounting for business combinations. In July 2001, the Financial Accounting
Standards Board issued Statement No. 142, "Goodwill and Other Intangible
Assets," which eliminates the requirement to amortize goodwill and requires
goodwill to be evaluated annually, or more frequently if impairment indicators
arise, for impairment. However, the historical and pro forma per share financial
information as of and for the year ended December 31, 2001 includes the impact
of amortizing goodwill since Statement No. 142 was not effective for the year
ended December 31, 2001.
The pro forma per share information gives effect to the completion of
the Texas Guaranty Bank and The First State Bank acquisitions. The Paradigm pro
forma equivalent share information shows the effect of the merger from the
perspective of an owner of Paradigm common stock. The information was computed
by multiplying the pro forma information based on an assumed exchange ratio of
1.08658, which includes 0.03169 shares of Prosperity common stock to be
deposited in the holdback escrow.
You should read the information below together with the historical
financial statements and related notes and other information of Paradigm
included in this proxy statement-prospectus and the historical financial
statements and related notes that Prosperity has presented in its prior
Securities and Exchange Commission filings. We have incorporated the information
related to Prosperity into this document by reference. See "Where You Can Find
Additional Information" on page 101 for instructions on how to receive copies of
the incorporated information. We expect that Paradigm and Prosperity will incur
merger and integration charges as a result of combining their companies. The pro
forma information, while helpful in illustrating the financial characteristics
of the combined company under one set of assumptions, does not reflect these
expenses or benefits. The unaudited pro forma combined data below is for
illustrative purposes only. The companies may have performed differently had
they always been combined. You should not rely on this information as being
indicative of the historical results that would have been achieved had the
companies always been combined or the future results that the combined company
will experience after the merger.
As of and for the
Three Months As of and for the
Ended Year Ended
March 31, December 31,
2002 2001
------------------ ------------------
Basic earnings per share
Prosperity ...................................................... $ 0.28 $ 0.80
Paradigm ........................................................ 0.15 0.47
Pro Forma ....................................................... 0.29 0.86
Equivalent pro forma per share of Paradigm stock ................ 0.32 0.93
Diluted earnings per share
Prosperity ...................................................... $ 0.27 $ 0.79
Paradigm ........................................................ 0.15 0.47
Pro Forma ....................................................... 0.28 0.84
Equivalent pro forma per share of Paradigm stock ................ 0.30 0.91
Cash dividends per share
Prosperity ...................................................... $ 0.06 $ 0.20
Paradigm ........................................................ -- 0.06
Pro Forma ....................................................... 0.06 0.20
Equivalent pro forma per share of Paradigm stock ................ 0.07 0.22
26
As of and for the
Three Months As of and for the
Ended Year Ended
March 31, December 31,
2002 2001
------------------ -----------------
Book value per share
Prosperity .................................................... $ 5.71 $ 5.48
Paradigm ...................................................... 7.73 7.62
Pro Forma ..................................................... 7.16 6.93
Equivalent pro forma per share of Paradigm stock .............. 7.78 7.53
Weighted average common shares outstanding (basic)
Prosperity .................................................... 16,222,558 16,171,784
Paradigm ...................................................... 2,375,000 2,375,000
Pro Forma (1) ................................................. 18,803,186 18,752,412
Weighted average common shares outstanding (diluted)
Prosperity .................................................... 16,552,412 16,497,130
Paradigm ...................................................... 2,375,000 2,375,000
Pro Forma (1) ................................................. 19,133,040 19,077,758
Number of shares of common stock outstanding at end of period
Prosperity .................................................... 16,240,070 16,210,870
Paradigm ...................................................... 2,375,000 2,375,000
Pro Forma (1) ................................................. 18,820,698 18,791,498
___________________
(1) Assumes that the 75,270 shares of Prosperity common stock to be
deposited into the holdback escrow are outstanding.
Comparative Stock Prices
The following table summarizes the market values of Paradigm common
stock and Prosperity common stock on May 1, 2002, the business day prior to the
announcement of the merger, and as of the most recent date practicable preceding
the date of this proxy statement-prospectus. Because the market price of
Prosperity stock is subject to fluctuation, the market value of the shares of
Prosperity common stock that holders of Paradigm common stock would receive upon
consummation of the merger may increase or decrease prior to the receipt of such
shares following completion of the merger. You should obtain current market
quotations for the Prosperity common stock.
Equivalent
Historical Pro Forma
------------------------------------------------ Per Share of
Prosperity(1) Paradigm(2) Paradigm Stock(3)
---------- -------- --------------
May 1, 2002 $16.045 $ 9.00 $17.43
July 18, 2002 $17.690 $ 9.00 $19.22
____________________
(1) Represents the closing price on the Nasdaq National Market, adjusted to
give effect to a two-for-one stock split effective May 31, 2002.
(2) Represents the last sale price of the Paradigm common stock of which
management of Paradigm is aware.
(3) Equivalent pro forma market value per share of Paradigm common stock
represents the historical market value per share of Prosperity common
stock multiplied by 1.08658, the assumed exchange ratio under the
merger agreement at which each share of Paradigm common stock would
have been converted into shares of Prosperity common stock if the
merger had closed on the applicable date.
27
RISK FACTORS
An investment in the Prosperity common stock in connection with the
merger involves certain risks. In addition to the other information contained in
this proxy statement-prospectus, you should carefully consider the following
risk factors in deciding whether to vote for approval of the merger agreement.
Risk Factors Related to the Merger
Fluctuations in market price of the shares of Prosperity common stock will
affect the value that Paradigm shareholders receive for their shares of Paradigm
common stock.
Upon completion of the merger, your shares of Paradigm common stock
will be converted into the right to receive shares of Prosperity common stock.
The number of shares of Prosperity common stock that you will receive in the
merger is fixed, except as discussed below with respect to a decrease in the
market price of Prosperity common stock below a pre-agreed level. As a result of
the uncertainty of the price of Prosperity common stock up to the merger, we
cannot assure you of the market value of the shares of Prosperity common stock
you will receive in the merger.
The price of Prosperity common stock may vary from its price on the
date of this proxy statement-prospectus and on the date of the special meeting.
Because the date the merger is to be completed will be later than the date of
the special meeting, the price of the Prosperity common stock on the date of the
special meeting may not be indicative of its price on the date the merger is
completed.
Stock price fluctuations may result from a variety of factors that are
beyond the control of Prosperity, including, among other things, changes in
Prosperity's businesses, operations and prospects, regulatory considerations and
general market and economic conditions. Therefore, Paradigm shareholders cannot
be assured of receiving any specific market value of Prosperity common stock
upon completion of the merger.
If the price of Prosperity common stock falls and the decrease exceeds a
pre-agreed decrease in the KBW Bank Index, and if Prosperity does not elect to
alter the exchange ratio to provide more shares, Paradigm has the right to
terminate the merger agreement.
The number of shares of Prosperity common stock you will receive in the
merger may increase, but not decrease, from the date of this proxy
statement-prospectus until completion of the merger if the following events
occur and Prosperity in its sole discretion elects to increase the exchange
ratio:
. the price of Prosperity common stock during the price measurement
period is less than $12.205 per share, that being the measurement
price; and
. the percentage difference between $16.275 and the measurement
price is greater than 10% lower than the percentage decrease
between the closing price of the KBW Bank Index on April 26, 2002
and the average closing price of the KBW Bank Index during the
price measurement period.
For these purposes, the price measurement period is the 10 consecutive
trading days ending on and including the third trading day immediately prior to
the closing.
If the Prosperity board of directors does not increase the merger
consideration to a total exchange ratio calculated by dividing the number of
shares of Paradigm common stock outstanding into the number resulting from
dividing $31,500,000 by the measurement price, the Paradigm board of directors
has the power to terminate the merger agreement and abandon the merger, although
there is no obligation of either board to exercise such power.
There are no assurances that Paradigm shareholders will receive any of the
75,270 shares of Prosperity common stock to be held in escrow, yet you will have
to pay taxes with respect to any dividends accrued on these shares.
Paradigm has agreed to put into escrow, on behalf of Paradigm
shareholders, 75,270 shares of Prosperity common stock to be issued in the
merger. The Trust Department of Prosperity Bank, acting as escrow agent, will
hold these shares to cover possible losses that may be incurred by Prosperity in
the three year period following completion of the merger with respect to
specified loans made by Paradigm prior to the merger. In the event that a
specified loan is either (1) not paid in full or (2) deemed by Prosperity in its
sole discretion to continue to be a
28
specified loan based on the performance of the loan and the financial stability
of the borrower, the shares will be used to compensate Prosperity for the losses
associated with these loans. As a result, you may receive only a portion or none
of the 75,270 shares held in escrow.
In addition, for the three year period during which your holdback
shares will be held in escrow, you will be required to recognize as income for
federal income tax purposes an amount equal to any dividends that accrue with
respect to your proportionate share of the holdback shares held in escrow in the
tax year in which the dividends are paid into the escrow and interest earned on
such amounts, even though you will not receive these amounts until a later date,
if at all. As a result, dividend payments and interest earned on such amounts
are likely to result in ordinary income, and a related tax liability, for
non-exempt tax paying entities, even though you will only receive the dividends
if and when you receive the related holdback shares. Further, you may not
transfer your interest in these holdback shares other than by will or the laws
of descent and distribution. Therefore, you would be subject to the same tax
liability even if after the merger you sell all of the shares of Prosperity
common stock that you received in the merger.
Prosperity Bank, the escrow agent pursuant to the holdback escrow agreement, is
a wholly-owned subsidiary of Prosperity.
Pursuant to an agreement between Paradigm and Prosperity, the Trust
Department of Prosperity Bank will act as escrow agent under the terms of the
holdback escrow agreement. While Prosperity Bank's duties and obligations are
set forth in the holdback escrow agreement, as a wholly-owned subsidiary of
Prosperity, Prosperity Bank is not an unaffiliated third party and is controlled
by Prosperity. Pursuant to the terms of the holdback escrow agreement,
Prosperity has sole discretion with respect to determining whether the loans
specified in the holdback escrow agreement have been sufficiently upgraded to
warrant the release of shares of Prosperity common stock held in escrow.
Prosperity may have difficulty combining the operations of Paradigm with its own
operations.
Because the markets and industries in which Prosperity operates are
highly competitive, and due to the inherent uncertainties associated with the
integration of acquired companies, Prosperity may not be able to integrate the
operations of Paradigm without encountering difficulties including, without
limitation, the loss of key employees and customers, the disruption of their
respective ongoing businesses and possible inconsistencies in standards,
controls, procedures and policies. Additionally, in determining that the merger
is in the best interests of Prosperity and Paradigm, as the case may be, the
board of directors of each of Prosperity and Paradigm considered that enhanced
earnings may result from the completion of the merger, including from reduction
of duplicate costs, improved efficiency and cross-marketing opportunities.
However, there can be no assurance that any enhanced earnings will result from
the merger.
You will have less influence as a shareholder of Prosperity than as a
shareholder of Paradigm.
As a Paradigm shareholder, you currently have the right to vote in the
election of the board of directors of Paradigm and on other matters affecting
Paradigm. The merger will transfer control of Paradigm to Prosperity and to the
shareholders of Prosperity. When the merger occurs, you will become a
shareholder of Prosperity with a percentage ownership much smaller than your
percentage ownership of Paradigm. Because of this, you will have less influence
on the management and policies of Prosperity than you now have on the management
and policies of Paradigm.
Risk Factors Related to Prosperity
Prosperity's profitability depends significantly on local economic conditions.
Prosperity's success depends primarily on the general economic
conditions of its geographic market. Unlike larger banks that are more
geographically diversified, Prosperity provides banking and financial services
to customers primarily in the greater Houston metropolitan area and the
southeast area of Texas. The local economic conditions in these areas have a
significant impact on Prosperity's commercial, real estate and construction
loans, the ability of the borrowers to repay these loans and the value of the
collateral securing these loans. A significant decline in general economic
conditions, caused by inflation, recession, acts of terrorism, an outbreak of
hostilities or other international or domestic calamities, unemployment or other
factors beyond the control of Prosperity could impact these local economic
conditions and could negatively affect the financial results of its banking
operations.
29
Prosperity may not be able to maintain its historical growth rate, which may
adversely impact its results of operations and financial condition.
To achieve past levels of growth, Prosperity has initiated internal growth
programs and completed acquisitions of community banks and branches of community
banks. Prosperity may not be able to sustain its historical rate of growth or
may not even be able to grow at all. Prosperity may not be able to obtain the
financing necessary to fund additional growth and may not be able to find
suitable candidates for acquisition. Various factors, such as economic
conditions and competition, may impede or prohibit its opening of new banking
centers. Further, the inability of Prosperity to attract and retain experienced
bankers may adversely affect its internal growth. A significant decrease in
Prosperity's historical rate of growth may adversely impact its results of
operation and financial condition.
Prosperity may be unable to integrate its acquisitions successfully or may be
unable to complete acquisitions.
Prosperity's growth strategy includes its ability to acquire other
financial institutions. In addition to the proposed merger with Paradigm,
Prosperity acquired Texas Guaranty Bank, N.A., Houston, Texas in May 2002 and
The First State Bank in Needville, Texas in July 2002, and signed a definitive
agreement on July 14, 2002 to acquire Bank of the Southwest in Dallas, Texas. To
the extent that Prosperity grows through acquisitions, Prosperity may not be
able to adequately and profitably manage such growth. Prosperity's ability to
successfully integrate acquired financial institutions and branches of financial
institutions into its operations depends on its ability to:
. monitor operations;
. control costs;
. maintain positive customer relations;
. maintain regulatory compliance; and
. attract, assimilate and retain qualified personnel.
If Prosperity fails to successfully integrate an acquired financial
institution's or branch's operations with its operations, Prosperity may
experience interruptions in its business that may have a material adverse impact
on its business, financial condition or results of operations. Successful
integration of these operations could be more expensive than anticipated. In
addition, Prosperity may not be able to complete any future acquisitions.
Prosperity's small to medium-sized business target market may have fewer
financial resources to weather a downturn in the economy.
Prosperity targets its business development and marketing strategy
primarily to serve the banking and financial services needs of small to
medium-sized businesses. These small to medium-sized businesses generally have
fewer financial resources in terms of capital or borrowing capacity than larger
entities. If general economic conditions negatively impact this major economic
sector in the southeast Texas area or the other markets in which Prosperity
operates, its results of operations and financial condition may be adversely
affected.
Fluctuations in interest rates could reduce Prosperity's profitability.
Prosperity's earnings are significantly dependent on its net interest
income. Net interest income is the difference between the interest income earned
on loans, investments and other interest-earning assets and the interest expense
paid on deposits, borrowings and other interest-bearing liabilities. Therefore,
any change in general market interest rates, such as a change in the monetary
policy of the Federal Reserve or otherwise, can have a significant effect on
Prosperity's net interest income. Prosperity's assets and liabilities may react
differently to changes in overall market rates or conditions because there may
be mismatches between the repricing or maturity characteristics of the assets
and liabilities. Although Prosperity's asset-liability management strategy is
designed to control its risk from changes in market interest rates, it may not
be able to prevent increases or decreases in interest rates from having a
material adverse effect on Prosperity's net interest margin, results of
operations and financial condition.
30
If Prosperity's allowance for loan losses is not sufficient to cover actual loan
losses, its earnings could decrease.
Prosperity's loan customers may not repay their loans according to the
terms of these loans and the collateral securing the payment of these loans may
be insufficient to assure repayment. Prosperity may experience significant loan
losses, which could have a material adverse effect on its operating results.
Management makes various assumptions and judgments about the collectibility of
its loan portfolio, including the creditworthiness of the borrowers and the
value of the real estate and other assets serving as collateral for the
repayment of many of its loans. Prosperity maintains an allowance for loan
losses in an attempt to cover any loan losses which may occur. In determining
the size of the allowance, Prosperity relies on its experience and its
evaluation of economic conditions. If Prosperity's assumptions prove to be
incorrect, its current allowance may not be sufficient to cover future loan
losses and adjustments may be necessary to allow for different economic
conditions or adverse developments in its loan portfolio. Material additions to
the allowance could materially decrease net income.
In addition, federal and state regulators periodically review Prosperity's
allowance for loan losses and may require it to increase its provision for loan
losses or recognize further loan charge-offs, based on judgments different than
those of Prosperity's management. Any increase in Prosperity's loan allowance or
loan charge-offs as required by these regulatory agencies could have a material
negative effect on its operating results.
Prosperity's current concentration in 1-4 family residential loans could provide
lower yields and profitability, and diversification away from this type of loan
may increase its credit risk.
At March 31, 2002, 1-4 family residential mortgage loans comprised $174.9
million, or 41.6%, of Prosperity's loan portfolio. These loans are secured
primarily by properties located in Prosperity's market area. Because 1-4 family
residential mortgage loans typically have an interest rate that is lower than
other loans, Prosperity's concentration in these loans results in lower yields
and profitability for it. Further, these loans are generally made on the basis
of the borrower's ability to repay and the value of the property securing the
loan. A downturn in the Southeast Texas economy could have an adverse effect on
the ability of borrowers to repay these loans and the value of the property
securing such loans.
In addition, one of Prosperity's business strategies is to diversify its
loan portfolio. This diversification may result in a gradual increase in its
consolidated credit risk, which means that there would be a greater risk that
borrowers will be unable to repay their loans from Prosperity. Such defaults,
which could result in losses in excess of Prosperity's allowance for credit
losses, may have a material adverse effect on its business, financial condition
or results of operation.
The business of Prosperity is dependent on technology and its inability to
invest in technological improvements may adversely affect its results of
operations and financial condition.
The financial services industry is undergoing rapid technological changes
with frequent introductions of new technology-driven products and services. In
addition to better serving customers, the effective use of technology increases
efficiency and enables financial institutions to reduce costs. Prosperity's
future success will depend in part upon its ability to address the needs of its
customers by using technology to provide products and services that will satisfy
customer demands for convenience as well as create additional efficiencies in
our operations. Many of Prosperity's competitors have substantially greater
resources to invest in technological improvements. There can be no assurance
that Prosperity will be able to effectively implement new technology-driven
products and services or be successful in marketing these products and services
to its customers.
Prosperity operates in a highly regulated environment and may be adversely
affected by changes in federal and local laws and regulations.
Prosperity and Prosperity Bank are subject to extensive regulation,
supervision and examination by federal and state banking authorities. Any change
in applicable regulations or federal or state legislation could have a
substantial impact on Prosperity and its subsidiary bank, Prosperity Bank, and
their respective operations. Additional legislation and regulations may be
enacted or adopted in the future that could significantly affect the powers,
authority and operations of Prosperity and Prosperity Bank, which could have a
material adverse effect on Prosperity's results of operations and financial
condition. Further, regulators have extensive discretion and power to prevent or
remedy unsafe or unsound practices or violations of laws by banks and bank
holding companies in the performance of their supervisory and enforcement
duties. The exercise of this regulatory discretion and power may have a negative
impact on Prosperity.
31
In addition, Prosperity is required to serve as a source of financial
strength to Prosperity Bank, which could result in a decrease of available funds
for dividends to Prosperity's shareholders and cash flow to securities ranking
senior to the Prosperity common stock. Prosperity Bank's operations are also
subject to a wide variety of state and federal consumer protection and similar
statutes and regulations. Such federal and state regulatory restrictions limit
the manner in which Prosperity and Prosperity Bank may conduct business and
obtain financing. Those laws and regulations can and do change significantly
from time to time, and any such change could adversely affect Prosperity's
business, financial condition and results of operations.
A WARNING ABOUT FORWARD-LOOKING STATEMENTS
We have each made forward-looking statements in this proxy
statement-prospectus (and in documents to which we refer you in this document)
that are subject to risks and uncertainties. These forward-looking statements
include information about possible or assumed future results of our operations
or the performance of Prosperity after the merger is completed. When we use any
of the words "believes," "expects," "anticipates," "estimates" or similar
expressions, we are making forward-looking statements. Many possible events or
factors could affect the future financial results and performance of each of our
companies before the merger or Prosperity after the merger and could cause those
results or performance to differ materially from those expressed in our
forward-looking statements. These possible events or factors include the
following:
. our actual cost savings resulting from the merger are less than we
expected, we are unable to realize those cost savings as soon as we
expected or we incur additional or unexpected costs;
. our revenues after the merger are less than we expected;
. deposit attrition, operating costs, customer loss and business
disruption before and after the merger are greater than we expected;
. competition among financial services companies may increase;
. we have more difficulty integrating our businesses than we expected;
. changes in the interest rate environment reduce our interest margins;
. general business and economic conditions in the markets we serve
change or are less favorable than we expected;
. legislative or regulatory changes adversely affect our businesses;
. changes occur in business conditions and inflation;
. personal or commercial customers' bankruptcies increase;
. changes occur in the securities markets; and
. technology-related changes are harder to make or more expensive than
we expected.
For other factors, risks and uncertainties that could cause actual results
to differ materially from estimates and projections contained in forward-looking
statements, please read the "Risk Factors" section of this proxy
statement-prospectus.
A forward-looking statement may include a statement of the assumptions or
bases underlying the forward-looking statement. We believe we have chosen these
assumptions or bases in good faith and that they are reasonable. However, we
caution you that assumptions or bases almost always vary from actual results,
and the differences between assumptions or bases and actual results can be
material. When considering forward-looking statements, you should keep in mind
the risk factors and other cautionary statements in this proxy statement
prospectus, any supplement to this proxy statement-prospectus and the documents
we have incorporated by reference. We will not update these statements unless
the securities laws require us to do so.
32
PARADIGM SPECIAL MEETING
Purpose
This proxy statement-prospectus is furnished in connection with the
solicitation of proxies by the board of directors of Paradigm from the
shareholders of Paradigm for use at the special meeting. The special meeting is
a meeting of the shareholders of Paradigm at which the shareholders will
consider and vote upon a proposal to approve the merger agreement. A copy of the
merger agreement is attached to this proxy statement-prospectus as Appendix A.
Date, Place and Time of Special Meeting
The special meeting of Paradigm's shareholders will be held at 4:00 p.m.,
local time, on August 26, 2002 at the Gladebrook Banking Center, 3934 FM 1960
West, Suite 330, Houston, Texas 77068.
Shares Entitled to Vote, Quorum and Vote Required
The holders of record of the outstanding shares of Paradigm common stock
at the close of business on July 17, 2002 will be entitled to notice of and to
vote at the special meeting and any adjournment or postponement of the special
meeting. At the close of business on that date, there were 2,375,020 shares of
Paradigm common stock issued and outstanding and entitled to vote at the special
meeting.
At the special meeting, Paradigm shareholders will be entitled to one vote
for each share of Paradigm common stock owned of record on July 17, 2002, the
record date. The holders of a majority of the Paradigm common stock must be
present, either in person or by proxy, to constitute a quorum at the meeting.
Shares of Paradigm common stock present in person or represented by proxy,
including shares whose holders abstain or do not vote and shares held of record
by a broker or nominee that are voted on any matter, will be counted for
purposes of determining whether a quorum exists at the special meeting.
The affirmative vote of a majority of the issued and outstanding Paradigm
common stock is required to approve the merger agreement. The affirmative vote
of at least a majority of the Paradigm common stock present at the meeting,
either in person or by proxy, is required to approve any other matters that may
be properly presented at the meeting.
The proposal to approve the merger agreement is a "non-discretionary"
item, meaning that brokers and banks who hold shares in an account for customers
who are the beneficial owners of such shares may not give a proxy to vote those
shares without specific instructions from their customers. Any abstentions and
broker non-votes will have the same effect as votes against approval of the
merger agreement. Accordingly, the Paradigm board of directors encourages you to
complete, date and sign the accompanying proxy card and return it promptly in
the enclosed postage-paid envelope.
On the record date, the directors and executive officers of Paradigm were
entitled to vote, in the aggregate, 1,409,921 shares of Paradigm common stock,
or approximately 59.4% of the outstanding shares of Paradigm common stock. Each
director and holder of 10% or more of Paradigm common stock who, in the
aggregate are entitled to vote 69.7% of the outstanding shares of Paradigm
common stock, has executed an agreement to vote his or her shares of Paradigm
common stock in favor of approval of the merger agreement. The Paradigm board of
directors unanimously recommends that you vote in favor of approval of the
merger agreement.
A list of shareholders will be available for examination by holders of the
Paradigm common stock for any purpose related to the special meeting at the
special meeting and during the 10 days prior to the special meeting at
Paradigm's corporate office at 3934 FM 1960 West, Suite 330, Houston, Texas
77068.
Voting Procedures and Revocation of Proxies
Proxies, in the form enclosed, which are properly executed by the
shareholders and returned to Paradigm and not subsequently revoked, will be
voted in accordance with the instructions indicated on the proxies. Any properly
executed proxy on which voting instructions are not specified will be voted FOR
the proposal to approve the merger agreement. The proxy also grants authority to
the persons designated in the proxy to vote in accordance with their own
judgment if an unscheduled matter is properly brought before the meeting.
33
If you are the record holder of your shares, you may revoke any proxy
given pursuant to this solicitation by the Paradigm board of directors at any
time before it is voted at the special meeting by:
. giving written notice to the Secretary of Paradigm;
. executing a proxy bearing a later date filed with the Secretary of
Paradigm at or before the meeting; or
. attending and voting in person at the meeting. Attendance without
voting at the special meeting will not in and of itself constitute
revocation of a proxy.
All written notices of revocation and other communications with respect to
revocation or proxies should be sent to: Paradigm Bancorporation, Inc., 3934 FM
1960 West, Suite 330, Houston, Texas 77068, Attention: William H. Fagan, M.D.,
Secretary. If you hold your shares in street name with a bank or broker, you
must contact the bank or broker if you wish to revoke your proxy.
Other Matters to be Considered
Paradigm's board of directors is not aware of any business or matter other
than the proposal to approve the merger agreement. If, however, any matter
properly comes before the special meeting, the proxy holders will vote on these
matters in their discretion.
Solicitation of Proxies and Expenses
This proxy solicitation is made by the Paradigm board of directors.
Paradigm is responsible for its expenses incurred in preparing, assembling,
printing, and mailing this proxy statement-prospectus. Proxies will be solicited
through the mail. Additionally, directors, officers and regular employees of
Paradigm intend to solicit proxies personally or by telephone or other means of
communication. These directors, officers and employees will not be additionally
compensated. Paradigm will reimburse banks, brokers and other custodians,
nominees and fiduciaries for their reasonable expenses in forwarding the proxy
materials to beneficial owners.
34
DESCRIPTION OF THE TRANSACTION
The following information describes material aspects of the merger. It is
not intended to be a complete description of all information relating to the
merger and is qualified in its entirety by reference to more detailed
information contained in the Appendices to this document, including the merger
agreement. A copy of the merger agreement is included as Appendix A and is
incorporated herein by reference. You are urged to read the merger agreement and
other Appendices in their entirety.
Terms of the Merger
The merger agreement provides for the merger of Paradigm with and into
Prosperity, and immediately thereafter, the merger of Paradigm Bank, a
wholly-owned subsidiary of Paradigm, with and into Prosperity Bank, a
wholly-owned subsidiary of Prosperity. The merger will be effective as soon as
practicable following the receipt of all necessary regulatory and shareholder
approvals and the satisfaction or waiver of all conditions to the consummation
of the merger. As a result of the merger, holders of Paradigm common stock will
be entitled to receive whole shares of Prosperity common stock, with cash paid
in lieu of fractional shares, and will no longer be owners of Paradigm common
stock. As a result of the merger, certificates for Paradigm common stock will
only represent the right to receive the merger consideration pursuant to the
merger agreement, and otherwise will be null and void after completion of the
merger.
Each share of Paradigm common stock outstanding prior to the effective
time of the merger will be converted into and exchanged for the right to receive
up to 1.08658 shares of Prosperity common stock unless the exchange ratio is
adjusted upward under the conditions described below. Of this amount, for each
share of Paradigm common stock, you will be entitled to receive 1.05489 shares
of Prosperity common stock upon completion of the merger and an additional
0.03169 shares of Prosperity common stock will be deposited in the holdback
escrow for possible future distribution to you based on whether and to the
extent that certain specified loans are paid or upgraded within three years
following completion of the merger. Subject to any adjustment to the exchange
ratio or the issuance of additional shares of Paradigm common stock in
connection with the exercise of stock options after the date of this proxy
statement-prospectus, (1) an aggregate of 2,505,379 shares of Prosperity common
stock, less any shares that would otherwise be distributed to shareholders who
exercise dissenters' rights, will be distributed to shareholders of Paradigm
upon completion of the merger and (2) an aggregate of up to 75,270 shares of
Prosperity common stock, less any shares that would otherwise be distributed to
shareholders who exercise their dissenters' rights, will be distributed in the
holdback escrow for possible future issuance as described below.
The exchange ratio may be adjusted in Prosperity's discretion if the price
of Prosperity common stock during the 10 consecutive trading days ending on and
including the third trading day immediately prior to closing (price measurement
period) is less than $12.205 (measurement price) and the percentage difference
between $16.275 and the measurement price is greater than 10% lower than the
percentage decrease between the closing price of the KBW Bank Index on April 26,
2002 and the average closing price of the KBW Bank Index during the price
measurement period. The adjusted total exchange ratio would be calculated by
dividing the number of shares of Paradigm common stock outstanding into the
number resulting from dividing $31,500,000 by the measurement price. If
Prosperity elects not to adjust the exchange ratio, Paradigm may terminate the
merger agreement. Consequently, you will not know the exchange ratio when you
vote on the merger, and even if approved by Paradigm's shareholders, the merger
may not be completed.
In addition, as of the date of this proxy statement-prospectus, options to
acquire 4,800 shares of Paradigm common stock are exercisable. If these options
are exercised prior to completion of the merger, Prosperity must issue
additional shares of Prosperity common stock for each additional share of
Paradigm common stock issued pursuant to the exercise of such options. These
shares, unlike the options, will be subject to the holdback escrow. If all of
the vested options to acquire shares are exercised, based on an assumed total
exchange ratio of 1.08658, Prosperity would be required to issue an additional
5,215 shares of Prosperity common stock upon completion of the merger.
As noted above, Prosperity will not issue any certificates for fractional
shares of Prosperity common stock in connection with the merger but will instead
pay cash. The amount of cash will be determined by multiplying the fractional
share interest by the closing price of Prosperity common stock on the trading
day immediately prior to the effective time of the merger.
35
Holdback Escrow Agreement
Of the shares of common stock that Prosperity will issue in the merger,
Prosperity Bank's Trust Department, as escrow agent, will hold 75,270 shares of
Prosperity common stock in escrow to cover possible losses that may be incurred
by Prosperity in the three year period following consummation of the merger with
respect to specified loans made by Paradigm prior to the execution of the merger
agreement. At the end of the three year period, or sooner if all of these loans
are paid in full or upgraded as described below, the escrow agent shall
distribute to the Paradigm shareholders a number of holdback shares equal to the
aggregate defined value of the holdback shares of $1,225,000 minus the sum of
(1) the dollar amount of any losses related to the specified loans and (2) the
outstanding balance of the specified loans at the end of the three year period,
divided by $16.275 or, if the exchange ratio is adjusted, $12.205. A specified
loan is considered to be upgraded if deemed by Prosperity in its discretion to
no longer be a specified loan based on the performance of the loan and the
financial stability of the borrower. Each Paradigm shareholder will receive his
or her pro rata share of any distribution of holdback shares, any dividends paid
with respect to such holdback shares and any cash paid in lieu of any fractional
share interests with respect to the holdback shares.
If the merger is approved, you will be bound by the terms of the holdback
escrow whether or not you vote in favor of the merger. A form of the holdback
escrow agreement is attached to this proxy statement-prospectus as Appendix B.
Under the terms of the holdback escrow agreement, Walter G. Finger, as the
shareholder representative of the Paradigm shareholders, is required to
participate in and represent the Paradigm shareholders with respect to any
arbitration or legal proceeding relating to the escrow agreement. The
shareholder representative, who may be removed at any time by a majority vote of
those persons who were Paradigm shareholders immediately prior to the merger,
will make decisions on behalf of the former Paradigm shareholders related to the
disposition of the shares held in escrow and other matters and will vote the
shares in any action requiring a vote of Prosperity shareholders. Further, the
holdback escrow agreement provides that the former Paradigm shareholders will
indemnify the shareholder representative against any liability incurred in such
capacity in good faith other than as a result of willful misconduct.
The Paradigm shareholders will not receive any dividends paid with respect
to the shares held in escrow until such time, if at all, that the shares are
distributed from the escrow. However, former Paradigm shareholders will be
required to pay federal income taxes on any dividends paid into the escrow
during the three year period. See "Material Federal Income Tax Consequences" on
page 53. The rights of Paradigm shareholders under the escrow agreement are not
transferable other than by will or by the laws of descent and distribution.
Effect of the Merger on Paradigm Stock Options and Stock Appreciation Rights
Pursuant to the merger agreement, any options to purchase shares of
Paradigm common stock pursuant to the Paradigm Bancorporation, Inc. 1999 Stock
Incentive Plan that are outstanding immediately prior to the completion of the
merger shall be automatically converted into an option to purchase shares of
Prosperity common stock and will continue to be governed by the terms of the
original plan under which they were issued. The number of shares of Prosperity
common stock subject to each of these converted stock options, as well as the
exercise price of these stock options, will be adjusted to reflect the total
exchange ratio in the merger and will not be subject to the holdback escrow. In
addition, upon completion of the merger, all unvested options to purchase shares
of Paradigm common stock will immediately vest and become exercisable. As of
July 17, 2002, there were options outstanding to purchase 32,340 shares of
Paradigm common stock at a weighted average exercise price of $11.61 per share.
Promptly following the merger, Prosperity intends to register with the
Securities and Exchange Commission, the shares of Prosperity common stock
issuable upon the exercise of these converted options. Unless these shares of
Prosperity common stock are acquired by an affiliate of Paradigm, following
registration, the shares issued upon the exercise of the options will be freely
tradeable.
In addition, each stock appreciation right granted pursuant to the
Paradigm 1998 Stock Appreciation Rights Plan that is outstanding immediately
prior to completion of the merger will be cancelled and automatically converted
into the right of each holder to receive for each SAR an amount of cash
determined by multiplying the average of the high and low sale prices of a share
of Prosperity common stock on Nasdaq on the second trading day immediately prior
to the closing by the total exchange ratio of 1.08658, less the exercise price
of the SAR under each holder's SAR agreement.
36
Background of the Merger
In the past several years, Paradigm's board of directors and management
have periodically reviewed Paradigm's future prospects for earnings and asset
growth, and the viability of continuing to operate as an independent bank in
accordance with Paradigm's business plan, considering the long-term best
interests of Paradigm and its shareholders. During that time, several interested
parties other than Prosperity contacted Paradigm to explore the possibility of a
merger. Until early 2002, the Paradigm board elected not to pursue these
expressions of interests, believing it to be in the best interests of Paradigm
and its shareholders for Paradigm to remain independent and to focus on building
a strong community bank.
A significant aspect of Paradigm's growth strategy has included taking
advantage of the consolidation of both large regional banks and community banks
in the greater Houston, Texas metropolitan area by hiring lending officers of
those financial institutions who were able to bring with them significant loan
and deposit portfolios. Additionally, Paradigm developed an aggressive de novo
branching and small bank acquisition strategy. In May 2001, Paradigm opened its
branch in Galveston with the intention of opening one or more branches between
Galveston and Houston. By the end of 2001, Paradigm had 11 banking offices
stretching from the northern portion of Houston, east to Liberty and Chambers
counties and south to Galveston.
During the fourth quarter of 2001, in connection with its strategic review
of Paradigm's business plan, the board of directors of Paradigm recognized that
for Paradigm Bank to continue to grow at its then current pace, it would need to
raise additional capital, especially if its acquisition strategy were to be
continued. However, the board also recognized the dilutive impact of the raising
of additional capital.
In July 2001, Mr. Peter Fisher, Paradigm's President and Chief Executive
Officer, and Mr. David Zalman, President and Chief Executive Officer of
Prosperity, had conversations regarding the possible sale of Paradigm to
Prosperity. Based primarily on those discussions, it was apparent to Mr. Fisher
that Prosperity had a similar business model to Paradigm, in that it operated
banking centers in both urban and rural locations. In addition, each institution
utilized the "branch president" concept to maximize responsiveness to customers.
In October 2001, the Paradigm board met to consider an offer from a
financial institution other than Prosperity. After discussions with Service
Asset Management Company, Dallas, Texas, the board decided to reject the offer
after evaluating it on the basis of consideration proposed, the operations of
the financial institution making the proposal and the expected future operation
of Paradigm. After deliberating on the terms of the proposal, Paradigm's board
determined that the consideration offered was inadequate. Mr. Fisher was
directed to inform the interested institution of its decision.
Mr. Fisher and Mr. Zalman continued their dialogue with the hope that a
merger could be accomplished. By the middle of February 2002, the possibility of
a merger began to take shape. On April 2, 2002, Mr. Fisher and Mr. Zalman
reached an agreement with respect to the financial aspects of a merger.
Prosperity submitted a letter of intent to Mr. Fisher dated April 3, 2002.
During the week of April 8, Mr. Fisher held several informal meetings with
members of the Paradigm board to inform them of the offer and the terms of the
letter of intent.
At a special board meeting held on April 15th, the Paradigm board
discussed the reasons for and the benefits of a merger with Prosperity. It
considered the financial performance, stock performance, market position, growth
prospects and other matters concerning Prosperity. The Paradigm board evaluated
Prosperity's offer in relation to the then perceived current market value of
Paradigm common stock and management's estimate of the future value of the
common stock of Paradigm as an independent entity. After this discussion, the
Paradigm board determined that a merger with Prosperity, as proposed, could
provide substantial long-term benefits to Paradigm's shareholders and its other
constituencies, but, before making any decisions, decided to engage a financial
advisor. The board selected Hoefer & Arnett, Incorporated to serve as its
financial advisor in connection with the merger to analyze the transaction and
determine its fairness for Paradigm shareholders. Subject to Hoefer & Arnett's
analysis of the transaction, Mr. Fisher was authorized to execute the letter of
intent and proceed to negotiate the terms of a definitive merger agreement and
related agreements.
Prosperity's outside counsel delivered to Paradigm and its outside counsel
a draft merger agreement and other related documents on April 22, 2002. During
the course of the next week, Paradigm and Prosperity and their respective
counsel negotiated the terms of the merger documents. Additional special
meetings of the Paradigm board were held on April 25 and April 30, 2002. Both
meetings were attended by representatives of Hoefer & Arnett to discuss the
terms of the deal.
37
On April 25, 2002, the Paradigm board of directors convened to consider
the merger agreement's proposed escrow of 75,270 shares of Prosperity stock to
cover possible losses on specified loans identified by Prosperity during its due
diligence. Mr. Fisher reviewed the events that had occurred since the last
meeting of the Paradigm board and the reasoning of Prosperity for the proposed
escrow of a specified number of shares. Hoefer & Arnett also made a presentation
to the Paradigm board on the proposed transaction with Prosperity, the current
bank merger and acquisition environment and the results of various financial
analyses Hoefer & Arnett had prepared in connection with the proposed
transaction.
At the April 30 special board meeting, the board reviewed the terms of the
merger agreement and related agreements that had been negotiated with
Prosperity. There ensued a lengthy discussion concerning the agreement, timing
for execution of the merger agreement and a review of the implications of taking
Prosperity common stock as the merger consideration. Hoefer & Arnett made a
presentation to the Paradigm board on the proposed transaction and the results
of various financial analyses Hoefer & Arnett had prepared in connection with
the proposed transaction. Hoefer & Arnett then delivered its opinion that the
total merger consideration in the form of a minimum of 1.05489 shares of
Prosperity common stock plus an additional 0.03169 shares of Prosperity common
stock deposited into the holdback escrow, subject to adjustment, for each share
of Paradigm common stock was fair to Paradigm shareholders from a financial
point of view. Throughout the presentations, Hoefer & Arnett responded to
numerous questions from the Paradigm board.
Following a thorough discussion of the terms of the merger agreement, the
structure of the transaction and other items related to the proposed merger, the
Paradigm board determined that the merger pursuant to the definitive agreement
was in the best interests of Paradigm and its shareholders, approved the
proposed merger, subject to the satisfactory finalization of the merger
documents, and authorized Mr. Fisher, as President and Chief Executive Officer
of Paradigm, to execute and deliver the merger documents on behalf of Paradigm.
Prosperity's board of directors met on April 16, 2002 to discuss and
consider the transaction with Paradigm. Based primarily on an extensive
discussion of the terms of the merger, the financial condition and valuation for
both Paradigm and Prosperity and the expansion of Prosperity's market area as a
result of the proposed merger, Prosperity's board of directors determined that
the transaction with Paradigm was in the best interest of both Prosperity and
its shareholders. As a result, Prosperity's board of directors authorized,
subject to the satisfactory finalization of the merger documents, Mr. David
Zalman, as President and Chief Executive Officer of Prosperity, to execute and
deliver the merger documents on behalf of Prosperity.
On May 1, 2002, Paradigm and Prosperity entered into the merger agreement
and each financial institution announced the proposed merger. Prosperity issued
a press release announcing the transaction on May 2, 2002.
Recommendation of the Paradigm Board and Paradigm's Reasons for the Merger
The terms of the merger agreement, including the consideration to be paid
to Paradigm shareholders, were the result of arm's length negotiations between
representatives of Prosperity and Paradigm. In evaluating whether to affiliate
with Prosperity, the Paradigm board considered a number of factors, including,
without limitation, the following:
. the additional capital and resources needed for Paradigm's operations
to continue to grow and the dilutive effect to shareholders of
obtaining this additional capital;
. information regarding the business, operations, earnings, financial
condition, technological capabilities, management, earnings and
prospects of each of Paradigm and Prosperity;
. the merger consideration in the form of Prosperity common stock with
a value as of April 26, 2002 of $16.275 per share, or an aggregate of
$42.0 million, which represented a 196% premium over the most recent
sales price of Paradigm common stock of $9.00 in March 2002, the last
day the Paradigm common stock traded preceding Paradigm board's
approval of the merger agreement;
. the current financial services industry environment, including the
continued consolidation within the industry, the increased
competition in the market areas served by Paradigm and the costs of
evolving trends in technology;
38
. the appreciation in the price of Prosperity common stock since
Prosperity's initial public offering in 1998 and the prospects for
positive long-term performance of Prosperity common stock;
. the belief of Paradigm's board that the terms of the merger and the
merger agreement are fair to and in the best interests of Paradigm
shareholders;
. the analyses provided by Hoefer & Arnett and the oral and written
opinion of Hoefer & Arnett provided on April 30, 2002 that, as of
such date, the exchange ratio as set out in the merger agreement, was
fair from a financial point of view to Paradigm shareholders (see
"Opinion of Paradigm's Financial Advisor");
. the tax-free nature of the exchange of stock as the merger
consideration to Paradigm shareholders for federal income tax
purposes;
. the fact that Prosperity common stock is publicly traded on the
Nasdaq National Market, thereby representing a more liquid investment
than Paradigm common stock, which was closely held with little
trading activity or liquidity;
. Prosperity's record with respect to the employees and customers of
the banks it acquires, and the effect upon Paradigm's employees and
the communities that Paradigm serves;
. the historical dividends paid by Prosperity on its common stock as
compared with the dividends paid on Paradigm common stock;
. the board's review of other strategic alternatives potentially
available to Paradigm;
. Prosperity's ability to provide the ever-increasing and broadening
array of financial services and products demanded by Paradigm's
customers; and
. the financial terms of other recent business combinations in the
banking industry.
Paradigm's board of directors determined that Paradigm's competitive
position and the value of its stock could best be enhanced through affiliation
with Prosperity. The aggregate price to be paid to holders of Paradigm common
stock resulted from negotiations which considered the historical earnings and
dividends of Prosperity and Paradigm; the potential growth in Paradigm's market
and earnings, both as an independent entity and as a part of a larger
organization such as Prosperity; Paradigm's asset quality; and the effect of the
merger on the shareholders, customers, and employees of Paradigm and the
communities that Paradigm serves.
The above discussion of the information and factors considered by the
Paradigm board is not intended to be exhaustive, but includes the material
factors the Paradigm board considered. In reaching its determination to approve
and recommend the merger, the Paradigm board did not assign any relative or
specific weights to the foregoing factors, and individual directors may have
given differing weights to different factors.
The Paradigm board of directors believes that the merger is in the best
interest of Paradigm and its shareholders. Accordingly, the Paradigm board has
unanimously approved the merger agreement and unanimously recommends that you
vote FOR approval of the merger agreement.
Prosperity's Reasons for the Merger
As a part of Prosperity's growth strategy, Prosperity routinely evaluates
opportunities to acquire financial institutions. The acquisition of Paradigm is
consistent with Prosperity's expansion strategy. Prosperity's board of directors
reviewed the business, financial condition, results of operation and prospects
for Paradigm, the compatibility of Paradigm's market area and management and the
proposed financial terms of the merger. Management of Prosperity believes that
the addition of eight new banking locations will expand Prosperity's geographic
presence in the greater Houston metropolitan area and the surrounding counties
in which Paradigm has locations, provide opportunities for future growth and
also result in the realization of cost savings as a larger organization.
Prosperity's board of directors also considered the addition of experienced
lenders, the financial condition and valuation for both Paradigm and Prosperity,
the tax-free nature of the exchange of Paradigm common stock for shares of
Prosperity common stock as well as the financial and other effects the merger
would have on Prosperity's shareholders.
39
Further, based on management's experience in past acquisitions, Prosperity
anticipates that it will achieve cost savings of approximately $2.3 million
pre-tax over a 12-month period through the combination of back office operations
and the elimination of duplicate general, administrative and salary and benefits
expenses. Prosperity also believes that the merger may create certain revenue
enhancement opportunities as Prosperity offers new products and services to
existing Paradigm customers.
In view of the variety of factors considered in connection with its
evaluation of the merger, the Prosperity board did not find it useful to and did
not attempt to quantify, rank or otherwise assign relative weights to the
factors it considered. Further, individual directors may have given differing
weights to different factors. In addition, the Prosperity board did not
undertake to make any specific determination as to whether any particular
factor, or any aspect of any particular factor, was favorable or unfavorable to
its ultimate determination. Rather, the board conducted an overall analysis of
the factors it considered material, including thorough discussions with, and
questioning of, Prosperity's management.
Opinion of Paradigm's Financial Advisor
The fairness opinion of Paradigm's financial advisor, Hoefer & Arnett,
Incorporated, is described below. The description contains projections,
estimates and/or other forward-looking statements about the future earnings or
other measures of the future performance of Prosperity and Paradigm. Hoefer &
Arnett has reviewed and consented to the following description relating to its
opinion. You should not rely on any of these statements as having been made or
adopted by Prosperity or Paradigm.
Paradigm's board of directors retained Hoefer & Arnett as its financial
advisor because Hoefer & Arnett is a nationally recognized investment banking
firm with substantial expertise in transactions similar to the proposed
transaction and is familiar with Paradigm and its business. The firm is a member
of the National Association of Securities Dealers (NASD) with direct access to
inter-dealer markets in NASD Automated Quotation (NASDAQ) and Over-the-Counter
(OTC) securities, and makes markets in securities under its symbol HOFR. As part
of its investment banking activities, Hoefer & Arnett is regularly engaged in
the independent valuation of financial institutions and securities in connection
with mergers, acquisitions, underwritings, sales and distributions of listed and
unlisted securities, private placements and valuations for estate, corporate and
other purposes.
Hoefer & Arnett is familiar with Paradigm, having provided Paradigm with
certain financial advice from time to time, including having provided financial
advisory services to Paradigm in September 1999 in connection with the
acquisition of Dayton State Bank and in connection with the terms of a common
stock and trust preferred securities offering. In connection with these
services, Paradigm paid Hoefer & Arnett a fee of $48,000. In February 2001,
Hoefer & Arnett acted as Paradigm's co-underwriter in the offering of $6,000,000
trust preferred securities. In connection with this underwriting, Paradigm
allowed Hoefer & Arnett a selling commission of $96,824. In November 1998,
Hoefer & Arnett acted as Prosperity's co-underwriter in the offering of
$20,601,396 of common stock. In connection with this underwriting, Prosperity
allowed Hoefer & Arnett a selling commission of $394,792. Hoefer & Arnett
provides a full range of financial advisory and securities services and, in the
course of its normal trading activities, may effect transactions and hold
securities of Prosperity for its own account and for the accounts of customers.
At a meeting of Paradigm's board of directors on April 30, 2002, Hoefer &
Arnett rendered to Paradigm's board of directors a verbal opinion that, as of
such date, and subject to various assumptions and matters considered, the terms
of the proposed merger of Paradigm with and into Prosperity were fair to the
holders of Paradigm common stock from a financial point of view. Hoefer & Arnett
has confirmed its April 30, 2002 oral opinion by delivery of its written opinion
to Paradigm's board of directors, dated the date of this proxy
statement-prospectus, that based upon and subject to various assumptions,
matters considered and limitations described therein, the terms of the proposed
merger of Paradigm with and into Prosperity are fair to the holders of Paradigm
common stock from a financial point of view.
The full text of the Hoefer & Arnett fairness opinion as of the date of
this proxy statement-prospectus describes the procedures followed, assumptions
made, matters considered and limits on the review undertaken, and is attached as
Appendix C to this proxy statement-prospectus. Paradigm's shareholders are urged
to read the Hoefer & Arnett opinion in its entirety.
No limitations were imposed by Paradigm's board of directors upon Hoefer &
Arnett with respect to the investigations made or procedures followed in
rendering its opinion. Hoefer & Arnett's fairness opinion is based on
40
the financial analyses described below. Hoefer & Arnett's fairness opinion is
for the use and benefit of Paradigm's board of directors in connection with its
consideration of the proposed transaction. Hoefer & Arnett's fairness opinion is
not intended to be and does not constitute a recommendation to any Paradigm
shareholder as to how such shareholder should vote with respect to the proposed
transaction. Hoefer & Arnett's fairness opinion does not address Paradigm's
underlying business decision to proceed with the proposed transaction.
In arriving at its opinion, Hoefer & Arnett reviewed and analyzed,
among other things, the following information:
. the merger agreement;
. annual report on Form 10-KSB of Paradigm for the year ended
December 31, 2001; quarterly reports on Form Y-9C for the
quarters ended March, 31, 2002, December 31, 2001, September 30,
2001, June 30, 2001, March 31, 2001 and December 31, 2000; and
internal financial statements as of June 30, 2002;
. annual reports to shareholders and annual reports on Form 10-K of
Prosperity for the years ended December 31, 2001, December 31,
2000 and December 31, 1999; quarterly reports on Form 10-Q of
Prosperity for the quarters ended March 31, 2002, September 30,
2001, June 30, 2001 and March 31, 2001; and the press release
announcing June 30, 2002 financial results of Prosperity issued
on July 15, 2002;
. internal financial analyses for Paradigm prepared by Paradigm's
management;
. information obtained from discussions held with senior management
of Paradigm and Prosperity concerning their past and current
operations, financial condition and prospects, as well as the
results of regulatory examinations;
. the publicly reported historical prices and trading activity for
Prosperity common stock;
. certain other publicly available financial and other information
concerning Paradigm and Prosperity;
. the nature and financial terms of certain other merger and
acquisition transactions involving banks and bank holding
companies; and
. such other information, financial studies, analyses and
investigations that Hoefer & Arnett considered appropriate.
This discussion of the documents and information reviewed and analyzed
by Hoefer & Arnett is not intended to be exhaustive, but it includes all
material documents, studies, analyses, investigations and information reviewed
and considered by Hoefer & Arnett.
In conducting its review and in arriving at its opinion, Hoefer &
Arnett relied upon and assumed the accuracy and completeness of the financial
and other information provided to it or publicly available, and did not attempt
to independently verify the same. Hoefer & Arnett relied upon the management of
Paradigm as to the reasonableness of the financial and operating forecasts, and
projections (and the assumptions and bases therefor) provided to it, and Hoefer
& Arnett assumed that such forecasts and projections reflect the best currently
available estimates and judgments of Paradigm management. Hoefer & Arnett relied
on First Call consensus earnings per share estimates for Prosperity for the
years 2002 and 2003. Hoefer & Arnett also assumed, without independent
verification, that the aggregate allowance for credit losses set forth in the
financial statements of Paradigm and Prosperity is adequate to cover such
losses. Hoefer & Arnett did not make or obtain any evaluations or appraisals of
the properties of Paradigm or Prosperity, nor did it examine any individual loan
credit files. For purposes of its opinion, Hoefer & Arnett assumed that the
reorganization would have the tax, accounting and legal effects described in the
merger agreement. Hoefer & Arnett's opinion as expressed herein is limited to
the fairness, from a financial point of view, to the holders of Paradigm common
stock with respect to the terms of the proposed merger of Paradigm with and into
Prosperity.
As a matter of policy, Paradigm does not publicly disclose internal
management forecasts, projections or estimates of the type furnished to Hoefer &
Arnett in connection with its analysis of the financial terms of the proposed
transaction, and such forecasts and estimates were not prepared with a view
towards public disclosure.
41
These forecasts and estimates were based on numerous variables and assumptions
that are inherently uncertain and that may not be within the control of the
management of Paradigm, including without limitation, the general economic,
regulatory and competitive conditions. Accordingly, actual results could vary
materially from those set forth in such forecasts and estimates.
As more fully discussed below, Hoefer & Arnett considered such
financial and other factors as Hoefer & Arnett deemed appropriate under the
circumstances, including among others, the following:
. the historical and current financial position and results of
operations of Paradigm and Prosperity, including interest income,
interest expense, net interest income, net interest margin,
provision for credit losses, noninterest income, noninterest
expense, earnings, dividends, internal capital generation, book
value, intangible assets, return on assets, return on
shareholders' equity, capitalization, the amount and type of
nonperforming assets, credit losses and the reserve for credit
losses, all as set forth in the financial statements for Paradigm
and Prosperity;
. the assets and liabilities of Paradigm and Prosperity, including
the loan, investment and mortgage portfolios, deposits, other
liabilities, historical and current liability sources and costs
and liquidity; and
. Hoefer & Arnett's assessment of general economic, market and
financial conditions and its experience in other transactions, as
well as its experience in securities valuation and its knowledge
of the banking industry generally.
The opinion expressed by Hoefer & Arnett was based upon market,
economic and other relevant considerations as they existed and have been
evaluated as of the date of the opinion and the information made available to it
through that date. Events occurring after the date of issuance of the opinion,
including but not limited to changes affecting the securities markets, the
results of operations or material changes in the assets or liabilities of
Paradigm or Prosperity, could materially affect the assumptions used in
preparing the opinion.
The following is a summary of the material financial analyses
performed by Hoefer & Arnett in arriving at its opinion and does not purport to
be a complete description of all the analyses performed by Hoefer & Arnett. The
summary includes information presented in tabular format, which should be read
together with the text that accompanies those tables. Hoefer & Arnett believes
that its analyses must be considered as a whole and that selecting portions of
such analyses and the factors considered therein, without considering all
factors and analyses, could create an incomplete view of the analyses and the
processes underlying its opinion. The preparation of a fairness opinion is a
complex process involving subjective judgments and is not necessarily
susceptible to partial analysis or summary description. In its analyses, Hoefer
& Arnett made numerous assumptions with respect to industry performance,
business and economic conditions, and other matters, many of which are beyond
the control of Paradigm and Prosperity. Any estimates contained in Hoefer &
Arnett's analyses are not necessarily indicative of future results or values,
which may be significantly more or less favorable than such estimates. Estimates
of values of companies do not purport to be appraisals or necessarily reflect
the prices at which companies or their securities may actually be sold. Except
as described below, none of the financial analyses performed by Hoefer & Arnett
was assigned a greater significance by Hoefer & Arnett than any other.
Summary of Proposal. Hoefer & Arnett reviewed the terms of the
proposed merger as described in the merger agreement. Pursuant to the merger
agreement and subject to the terms and conditions therein, each share of
Paradigm common stock outstanding prior to the effective time of the merger will
be converted into and exchanged for the right to receive, for each share of
Paradigm common stock they own, up to 1.08658 shares of Prosperity common stock
unless the exchange ratio is adjusted upward under certain conditions. Of this
amount, Paradigm shareholders will be entitled to receive 1.05489 shares of
Prosperity common stock upon completion of the merger and an additional 0.03169
shares of Prosperity common stock will be deposited in the holdback escrow for
possible future distribution to Paradigm shareholders as provided in the merger
agreement.
Hoefer & Arnett's analysis is based on 2,375,020 shares of Paradigm
common stock outstanding, the issuance of an aggregate of 2,505,379 shares of
Prosperity common stock and a market price of $17.69 per share for Prosperity
common stock at July 18, 2002, which translates into a total transaction value
of $44,320,154. On a per share basis, each Paradigm shareholder will be entitled
to receive 1.05489 shares of Prosperity common stock at closing, or a
transaction value of an equivalent of $18.66 per share of Paradigm common stock.
Hoefer & Arnett has assumed that none of the 75,270 holdback shares will be
distributed to Paradigm shareholders.
42
Transaction Summary
-------------------
Prosperity Common Stock Price $ 17.69
Exchange Ratio 1.05489
Implied Transaction Value Per Share $ 18.66
Price to March 31, 2002 Paradigm Book Value 2.41x
Price to March 31, 2002 Paradigm Tangible Book Value 2.94x
Price to 2001 Paradigm Earnings 39.70x
The following table summarizes the implied per share equity value for
Paradigm derived from the analyses indicated, each of which is described in
greater detail below:
Implied Value Per
Valuation Methodology Share for Paradigm
--------------------- ------------------
Implied Transaction Value $18.66
Selected Transaction Analysis $ 8.85-$14.92
Present Value Analysis $ 8.36-$12.07
Discounted Cash Flow Analysis $15.97-$16.37
Analysis of Selected Bank Merger Transactions. Hoefer & Arnett reviewed
information relating to selected banking mergers and acquisitions announced
between January 1, 2001 and July 18, 2002 in which the acquired banking
organizations were located in Texas (the "Selected Transactions"). Hoefer &
Arnett compared financial performance ratios at Paradigm with financial
performance ratios of the banking organizations making up the Selected
Transactions and compared the pricing multiples to be paid for Paradigm with
those paid in the Selected Transactions. This data was obtained from SNL
Financial.
The following table compares selected performance and financial ratios
of Paradigm at March 31, 2002 with the median ratios for the Selected
Transactions:
Paradigm Selected Transactions
-------- ---------------------
Total assets $256.7 million $89.4 million
Return on assets 0.55% 1.01%
Return on equity 7.76% 11.81%
Equity to assets 7.16% 8.82%
On the basis of the pricing multiples for the Selected Transactions,
Hoefer & Arnett calculated a range of purchase prices as a multiple of book
value and earnings. The chart below shows the low, high and median for the
Selected Transactions and the resulting indicated price range for Paradigm based
on Paradigm's equity per share of $7.73 at March 31, 2002, tangible equity per
share of $6.34 at March 31, 2002 and based on 2001 earnings per share of $0.47.
Pricing Multiples for Per Share Value
Selected Transactions for Paradigm
----------------------------- ------------------------------
Low High Median Low High Median
--- ---- ------ --- ---- ------
Price/Book Value 1.15x 5.13x 1.93x $ 8.89 $ 39.65 $ 14.92
Price/Tangible Book Value 1.15x 5.13x 1.93x $ 7.29 $ 32.52 $ 12.24
Price/Earnings 10.42x 57.56x 18.84x $ 4.90 $ 27.05 $ 8.85
Based on the median multiples, this analysis resulted in a range of
imputed values for Paradigm's common stock of between $8.85 and $14.92 per
share, which supports the fairness of the $18.66 per share transaction value.
Present Value Analysis. Hoefer & Arnett calculated the present value of
theoretical future earnings of Paradigm and compared the transaction value to
the calculated present value of one share of Paradigm's common stock on a
stand-alone basis. Based on projected earnings for Paradigm for 2002 through
2006, discount rates
43
ranging from 10% to 14%, and including a residual value, the stand-alone present
value of Paradigm's common stock ranged from $8.36 to $12.07 per share, which is
below the transaction value of $18.66 per share.
Discounted Cash Flow Analysis. Using a discounted cash flow analysis,
Hoefer & Arnett estimated the net present value of the future streams of
after-tax cash flow that Paradigm could produce to benefit a potential acquiror,
referred to as dividendable net income, and added a terminal value. Based on
projected earnings for Paradigm for 2002 through 2006, Hoefer & Arnett
calculated assumed after-tax distributions to a potential acquiror such that its
Tier 1 leverage ratio would be maintained at 7.00%. The terminal values for
Paradigm were calculated based on Paradigm's projected 2006 tangible equity and
earnings, the median price to book and price to earnings multiples paid the
Selected Transactions and utilized a discount rate of 12%. This discounted cash
flow analysis indicated implied values of $15.97 per share and $16.37 per share,
which are both below the transaction value of $18.66 per share.
Accretion/Dilution Analysis. Hoefer & Arnett analyzed the financial
implications of the merger to the Paradigm shareholders. This analysis indicated
the level of accretion to earnings per share, equity per share and dividends per
share that a shareholder of Paradigm would achieve on a pro forma equivalent
basis, based on the closing exchange ratio of 1.05489 and including assumed cost
savings and revenue enhancement opportunities. Such cost savings and revenue
enhancements were assumed to equal 18% of Paradigm's overhead on an annualized
basis, as estimated by Prosperity. The table below summarizes these results:
Estimated 2002 Estimated 2003
------------------------------------ ------------------------------------
Earnings Equity Dividends Earnings Equity Dividends
-------- ------ --------- -------- ------ ---------
Paradigm Standalone $ 0.83 $ 7.98 $ 0.05 $ 0.87 $ 8.80 $ 0.05
Pro Forma Equivalent $ 1.16 $ 8.22 $ 0.23 $ 1.30 $ 9.28 $ 0.25
% Accretion 39.76% 3.01% 360.00% 49.43% 5.45% 400.00%
Stock Trading History. Hoefer & Arnett reviewed the closing per share
market prices and volumes for Prosperity common stock on a daily basis from
January 2, 2002 to July 18, 2002. Hoefer & Arnett compared the stock price
performance for Prosperity to movements in certain stock indices, including the
Standard & Poor's 500 Index, the Nasdaq Bank Index and the median performance of
publicly traded banking organizations with total assets between $1 billion and
$5 billion. During the one year period ended May 31, 2002, Prosperity's common
stock outperformed each of the indices to which it was compared.
Beginning Index Value Ending Index Value
July 18, 2001 July 18, 2002
------------- -------------
Prosperity 100.00% 139.95%
Peer Group 100.00 111.91
Nasdaq Bank Index 100.00 100.11
S&P 500 Index 100.00 72.99
Hoefer & Arnett compared selected financial information, ratios and
multiples for Prosperity to corresponding financial information, ratios and
multiples of publicly traded Texas banking organizations with total assets
greater than $1 billion (the Texas group) and publicly traded banking
organizations with total assets between $1 billion and $5 billion that had a
return on average equity greater than 15%, based on last twelve months' earnings
(the National group). The table below sets forth the comparative data as of
March 31, 2002 with pricing data as of July 18, 2002. This data was obtained
from SNL Financial.
44
Median for Median for
Prosperity Texas Group National Group
---------- ----------- --------------
Total assets $1,289.6 million $3,377.5 million $2,064.1 million
Equity to assets 7.19% 8.03% 8.10%
LTM return on average assets 1.29% 1.31% 1.42%
LTM return on average equity 17.94% 15.97% 16.87%
Dividend yield 1.32% 1.72% 2.13%
Price to book value per share 3.10x 2.54x 2.52x
Price to LTM earnings per share 18.4x* 17.6x 15.0x
*Excludes merger related expenses
Financial Advisory Fees. In its engagement letter, dated April 16, 2002,
Paradigm agreed to pay Hoefer & Arnett 1.00% of the total consideration, up to a
maximum of $420,000, for its services rendered in connection with the proposed
transaction, including the delivery of its opinion. This fee is contingent on
completion of the transaction.
Exchange of Paradigm Stock Certificates
As soon as practicable after the effective time of the merger, Prosperity's
transfer and exchange agent, Computershare Investor Services, will mail to each
Paradigm shareholder a form letter of transmittal, together with instructions
for the exchange of such holder's Paradigm stock certificates for a certificate
representing the shares of Prosperity common stock to which he or she is
entitled.
You should not send in your certificates until you receive a letter of
transmittal and instructions.
After you surrender to the exchange agent one or more certificates for
Paradigm common stock, together with a properly completed letter of transmittal,
the exchange agent will (1) issue and mail to the holder a certificate
representing the number of whole shares of Prosperity common stock and the cash
payment for fractional shares without any interest thereon to which the holder
is entitled and (2) issue and mail to Prosperity Bank, as escrow agent, the
75,270 shares of Prosperity common stock to be held in escrow pursuant to the
holdback escrow agreement. The exchange agent may issue a certificate for
Prosperity common stock in a name other than the name in which the surrendered
certificate is registered only if (a) the certificate surrendered is properly
endorsed or is otherwise in proper form for transfer and (b) the person
requesting the issuance of the certificate either pays to the exchange agent any
transfer or other taxes required by the issuance of a certificate for shares in
a name other than the registered holder of the certificate surrendered or
establishes to the satisfaction of the exchange agent that the taxes have been
paid or are not due.
All Prosperity common stock issued in the merger will be deemed issued as
of the effective time of the merger. No dividends with respect to the Prosperity
common stock with a record date after the effective time will be paid to the
former shareholders of Paradigm entitled to receive certificates for shares of
Prosperity common stock until such shareholders surrender their certificates
representing shares of Paradigm common stock. After the certificates are
surrendered, Prosperity will pay the shareholder of record any dividends,
without any interest thereon, which become payable with respect to the shares of
Prosperity common stock represented by the certificate, other than those shares
to be held in escrow. If your certificate for Paradigm common stock is lost,
stolen or destroyed, the exchange agent will issue the shares of Prosperity
common stock upon your submission of an affidavit by you claiming the
certificate to be lost, stolen or destroyed and the posting of a bond in such
amount as Prosperity may direct as indemnity against any claim that may be made
against Prosperity with respect to the certificate.
Upon completion of the merger, you will cease to have any rights as a
shareholder of Paradigm. Until so surrendered, each certificate will be deemed
for all corporate purposes to represent and evidence solely the right to receive
the consideration to be paid pursuant to the merger agreement. Neither
Prosperity, Paradigm, the exchange agent nor any other party will be liable to
any holder of certificates for any amount paid to a public official pursuant to
any applicable abandoned property, escheat or similar law.
45
Effective Time of the Merger
Subject to the conditions to complete the merger, the merger will become
effective when articles of merger reflecting the merger become effective with
the Secretary of State for the State of Texas. The merger will be completed on a
date we specify after the conditions to the merger have been satisfied or
waived. Although we anticipate that the merger will become effective during the
third quarter of 2002, delays may occur.
We cannot assume that the necessary shareholder and regulatory approvals
will be obtained or that the other conditions to the merger can or will be
satisfied. Either of our boards of directors may terminate the merger agreement
if the merger is not completed by November 27, 2002, unless it is not completed
because of the willful breach of the merger agreement by the party seeking
termination.
Conduct of Business Pending Effective Time
The merger agreement requires Paradigm to maintain the general character of
its business and conduct its business prior to the merger only in the ordinary
course consistent with past practices and prudent banking principles. These
requirements include the following:
. Paradigm will use its best efforts to preserve its present business
organizations, relationships and goodwill with customers, and
advantageous business relationships and to retain its officers,
directors and key employees; and
. Paradigm will remain current under any loan agreements or other types
of liability or indebtedness, including any liabilities or
obligations regarding the junior subordinated debentures in the
aggregate amount of $6,186,000 and other liabilities relating to the
amended and restated trust agreement of Paradigm Capital Trust II.
Without the written consent of Prosperity, Paradigm and its subsidiaries
may not, among other things:
. make or agree to make or renew any loans or other extensions of
credit in excess of $350,000 to any borrower, with certain
exceptions;
. issue, sell or obligate itself to issue or sell any shares of its
capital stock or securities convertible into its capital stock,
except that Paradigm may issue shares of its common stock upon the
exercise of Paradigm stock options prior to completion of the merger;
. grant any stock appreciation rights or other form of incentive
compensation;
. open, close, acquire or sell or agree to acquire or sell any branch
office or any deposit liabilities;
. enter into, amend or terminate any material agreement, contract or
commitment, except in accordance with prudent banking practices;
. acquire or dispose of any material amount of assets or liabilities
other than in the ordinary course of business consistent with prudent
banking practices;
. grant any severance or termination pay or enter into any employment
or related agreements for itself or any of its subsidiaries;
. pay any dividends other than regular periodic cash dividends paid in
the ordinary course of business and consistent with past practices;
however, the parties have agreed that Paradigm may pay a cash
dividend of $0.05 per share in July 2002 and, if the merger is not
completed prior to the record date for Prosperity's third quarter
dividend, Paradigm may pay a cash dividend in an amount equal to the
quarterly dividend Paradigm shareholders would receive as
shareholders of Prosperity;
. excluding loan commitments made and certificates of deposit issued,
enter into any contract, agreement or commitment that obligates
Paradigm or any of its subsidiaries for an amount in excess of
$10,000 over the term of any such contract, agreement or commitment;
. amend or change any provision of its articles of incorporation or
bylaws;
46
. sell, transfer, convey or otherwise dispose of any real property,
including other real estate owned;
. foreclose upon or otherwise acquire any commercial real property
prior to the receipt and approval of Prosperity of a Phase I
environmental review of such property;
. increase or decrease the rate of interest paid on deposit accounts
other than in accordance with Paradigm's past practices;
. establish a new subsidiary;
. voluntarily make any material change in the interest rate risk
profile of Paradigm Bank;
. materially deviate from policies and procedures existing as of the
date of the merger agreement with respect to classification of
assets, allowance for loan losses or accrual of interest on assets
except as otherwise required by the merger agreement;
. excluding deposits, certificates of deposit, FHLB advances and
borrowings consistent with past practices, undertake any additional
borrowings in excess of ninety (90) days;
. modify any outstanding loan or acquire any loan participation unless
such modification is made in the ordinary course of business,
consistent with past practices; or
. make any capital expenditures individually in excess of $25,000 or in
the aggregate in excess of $100,000, other than previously disclosed
binding commitments or expenditures necessary to maintain existing
assets in good repair.
Refer to the merger agreement for additional restrictions on the conduct of
the business of Paradigm pending the merger.
Conditions to Completion of the Merger
The merger agreement contains a number of conditions to our respective
obligations to complete the merger which must be satisfied as of the closing
date, including, but not limited to, the following:
. receipt of all required regulatory approvals in a manner that does
not impose any restrictions on the operations of Prosperity Bank
which are unacceptable to Prosperity;
. the holders of a majority of the outstanding shares of Paradigm
common stock approve the merger agreement;
. the shares of Prosperity common stock to be issued to Paradigm
shareholders shall have been authorized for listing on the Nasdaq
National Market;
. Peter E. Fisher shall have entered into an employment and
non-competition agreement with Prosperity Bank;
. the registration statement of which this proxy statement-prospectus
forms a part shall have become effective and no stop order suspending
the effectiveness of the registration statement shall be in effect
and no proceedings for that purpose shall have been initiated and
continuing or threatened by the Securities and Exchange Commission;
. all representations and warranties of Paradigm (in the case of
Prosperity's closing obligation) or Prosperity (in the case of
Paradigm's closing obligation) must be true in all material respects
as of the date of the merger agreement and the date the merger
becomes effective;
. absence of a material adverse change in the financial condition,
results of operation or business of Paradigm and its subsidiaries (in
the case of Prosperity's closing obligation) or Prosperity and its
subsidiaries (in the case of Paradigm's closing obligation);
47
. the performance or compliance in all material respects by Paradigm
(in the case of Prosperity's closing obligation) or Prosperity (in
the case of Paradigm's closing obligation) with all covenants and
conditions required by the merger agreement to be performed or
complied with prior to the date the merger becomes effective;
. Paradigm must receive an opinion from its financial advisor to the
effect that the merger is fair to its shareholders from a financial
point of view;
. we must each receive a written opinion of our counsel as to the
tax-free nature of the exchange of shares; and
. we must each receive a written opinion of the other company's counsel
regarding the enforceability of the merger agreement, proper
authorization of the merger and other corporate and related matters.
In addition to the conditions listed above, Prosperity's obligation to
complete the merger is subject to the satisfaction of the following
conditions:
. each shareholder, director and officer of Paradigm designated as an
affiliate shall have delivered to Prosperity an executed copy of an
Affiliate Letter; and
. each director and certain officers of Paradigm and Paradigm Bank
Texas, a wholly-owned, indirect subsidiary of Paradigm, shall have
executed a release agreement.
Any condition to the consummation of the merger, except the required
shareholder and regulatory approvals, and the absence of an order or ruling
prohibiting the merger, may be waived in writing by the party to the merger
agreement entitled to the benefit of such condition.
Additional Agreements
The merger agreement contains additional agreements made by each party,
some of which are substantially reciprocal, the most significant of which
include:
. we each agreed to take all reasonable action to aid and assist in the
consummation of the merger and the transactions contemplated thereby
and to use our best efforts to take or cause to be taken all other
actions necessary, proper or advisable to consummate the transactions
contemplated by the merger agreement, including such actions which
are necessary, proper or advisable in connection with filing
applications with, or obtaining approvals from all regulatory
authorities having jurisdiction over the transactions contemplated by
the merger agreement;
. we agreed, upon request, to provide each other all information
concerning ourselves and our subsidiaries, directors, officers and
shareholders and other matters as may be necessary or advisable in
connection with this proxy statement-prospectus, or any other filing
necessary in connection with the merger;
. Paradigm agreed to give Prosperity access to all of their properties,
books, contracts, commitments and records, to provide information
about their business, properties and personnel and Prosperity agreed
to keep that information confidential;
. we agreed that neither party will, directly or indirectly, before or
after the consummation of the merger or termination of the merger
agreement, disclose any confidential information other than in
connection with the regulatory notice and application process, or use
such confidential information for its own purposes or for the benefit
of any person, firm, corporation, association or other entity under
any circumstances;
. Prosperity has agreed that for a period of three years after
completion of the merger it will indemnify and hold harmless any
person who has indemnification rights from Paradigm and its
subsidiaries for liabilities from their acts or omissions in those
capacities occurring prior to completion of the merger to the fullest
extent permitted by law;
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. Prosperity agreed that for a period of three years after completion
of the merger it will maintain directors' liability insurance
covering the persons presently covered by directors' liability
policies of Paradigm;
. we agreed that neither party or any of their respective subsidiaries,
directors or officers shall, directly or indirectly, purchase or
sell, or bid to purchase or offer to sell, any shares of Prosperity
common stock or securities convertible into or exercisable for shares
of Prosperity common stock during the 15 trading days ending on and
including the third trading day preceding the completion of the
merger;
. Paradigm agreed to take all necessary action to ensure that no
default has or will occur regarding the trust preferred securities
issued in connection with the amended and restated trust agreement
dated February 20, 2001 among Paradigm, First Union Trust Company,
National Association and the Administrative Trustees named therein
and that it will take all steps necessary to remain in compliance
with any other requirements set forth in the governing documents
regarding the trust preferred securities and provide evidence to
Prosperity regarding such compliance;
. Prosperity agreed that at or prior to the closing it would enter into
a supplemental indenture to the indenture between Paradigm and First
Union Trust Company, National Association with respect to the
debentures issued in connection with the above referenced trust
preferred securities, assuming the obligations and performance of
covenants of Paradigm at closing;
. employees of Paradigm and its subsidiaries who continue employment
with Prosperity or any of its subsidiaries upon completion of the
merger will be entitled to participate in the employee benefit plans
and programs maintained by Prosperity and its subsidiaries.
Prosperity will recognize such employees' prior service with Paradigm
or its subsidiaries for all purposes under Prosperity's employee
benefit plans and programs (other than stock option plans); and
. Paradigm has agreed to allow Prosperity to designate two
representatives who will be invited to attend the Paradigm board
meetings and committee meetings. These representatives will have no
voting rights and may be excluded from certain sessions.
Representations and Warranties
In the merger agreement, we have made certain representations to each
other. The more significant of these relate to:
. corporate organization and operation;
. capitalization;
. corporate authority;
. financial statements and reports;
. litigation;
. laws and regulatory filings;
. employee benefit plans;
. tax matters;
. loans;
. in the case of Paradigm, certain contracts and commitments;
. insurance; and
. environmental matters.
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Financial Interests of Paradigm Directors and Officers in the Merger
As a Paradigm shareholder, in considering the recommendations of the
Paradigm board of directors to vote for the proposal to approve the merger
agreement, you should be aware that certain directors and officers of Paradigm
may have interests in the merger that are in addition to or different from the
interests of Paradigm shareholders. The Paradigm board of directors was aware of
these interests and considered them in approving the merger agreement.
Continued Employment. Certain of Paradigm's executive officers will serve
as officers of Prosperity Bank following completion of the merger.
Employment and Non-competition Agreement. Upon completion of the merger,
Prosperity Bank will enter into an employment and non-competition agreement with
Peter E. Fisher, Paradigm's President and Chief Executive Officer. During the
two-year term of the agreement, Mr. Fisher will serve as Vice Chairman of
Prosperity Bank and receive:
. an annual salary of $185,000;
. an annual bonus of not less than $15,000; and
. upon completion of the merger, Prosperity will deliver to Mr. Fisher
an incentive stock option agreement granting him an option to purchase
30,000 shares of Prosperity common stock.
If Prosperity Bank terminates Mr. Fisher's employment without good cause, as
defined in the agreement, Mr. Fisher will be entitled to receive his annual
salary and bonus for the remaining term of the agreement and any of the 30,000
options which are unvested will vest and become immediately exercisable.
In consideration for the covenants agreed to by Mr. Fisher, he will receive
a lump sum payment of $100,000 upon termination of his employment with
Prosperity Bank as provided for in the agreement. For two years following such
termination, Mr. Fisher is prohibited from:
. competing with Prosperity Bank within Houston, Texas and a 50 mile
radius of Houston;
. soliciting employment or employing employees of Prosperity Bank; and
. soliciting customers or prospective customers of Prosperity Bank to
cease or reduce their business relationships with Prosperity Bank.
In addition, under the agreement, Mr. Fisher is prohibited from disclosing
or improperly using any confidential information, former employee information or
third party information.
Retention Agreements. Eight officers of Paradigm had previously entered
into retention agreements with Paradigm Bank which provide for 12 months
continued employment following a change in control or the payment of 12 months
salary prorated for any of the 12 month period the officer was employed
following the change in control. These agreements will continue to be effective
after the merger.
Change in Control Payments. Paradigm has employment agreements with Peter
E. Fisher, Brad Fagan and Jay W. Porter that provide for payments upon a change
in control. The merger will result in payment prior to completion of the merger
of approximately $362,500, $170,800 and $120,000 to Messrs. Fisher, Fagan and
Porter, respectively.
Stock Options. Certain of Paradigm's officers hold options to purchase
32,340 shares of Paradigm common stock at an average exercise price of $11.61,
27,540 of which are unvested with an average exercise price of $11.48. Upon
completion of the merger all unvested options will vest and become immediately
exercisable. In addition, all options to acquire Paradigm common stock will
convert into options to acquire shares of Prosperity common stock at the total
exchange ratio, without being subject to the holdback escrow. As a result,
option holders, including certain officers, could exercise their options
immediately after completion of the merger and receive shares of Prosperity
common stock without being subject to the holdback escrow.
Stock Appreciation Rights. Certain of Paradigm's officers hold stock
appreciation rights which will accelerate and become fully vested upon
completion of the merger. Each SAR will be cancelled and automatically converted
into a specified cash payment.
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Director Positions. Prosperity has agreed to appoint William H. Fagan, M.D.
and Charles J. Howard, M.D. to serve as directors of Prosperity upon completion
of the merger, and Prosperity has agreed to appoint Peter E. Fisher and Leah
Huffmeister Henderson to serve as directors of Prosperity Bank upon completion
of the merger.
Indemnification. Prosperity has agreed, for a period of three years after
completion of the merger, to indemnify and hold harmless any person who has
rights to indemnification from Paradigm and its subsidiaries to the fullest
extent permitted by Texas law and Paradigm's articles and bylaws.
Insurance. Prosperity agreed that for a period of three years after
completion of the merger it will maintain directors' liability insurance
covering the persons presently covered by directors' liability insurance
policies of Paradigm.
Employee Matters
All employees of Paradigm who continue employment after the closing shall
be eligible to participate in the employee benefit plans and programs of
Prosperity and Prosperity Bank. Prosperity will credit such employees for their
length of service with Paradigm for all purposes under each of the employee
benefit plans and programs, except stock option plans.
Amendment and Termination
Mutual Consent. The merger agreement may be terminated and the merger
abandoned at any time upon the mutual consent of Prosperity and Paradigm.
By Either Party. The merger agreement may be terminated and the merger
abandoned at any time prior to the effective date of the merger by either
Prosperity or Paradigm if:
. any court of competent jurisdiction or other federal or state
governmental body shall have issued an order, decree or ruling or
taken any other action restraining, enjoining or otherwise prohibiting
the merger and such order, decree, ruling or other action shall have
been final and non-appealable;
. any of the transactions contemplated by the merger agreement are
disapproved by any regulatory authority or other person whose approval
is required to consummate any of such transactions;
. the approval of the merger agreement by Paradigm shareholders is not
obtained by reason of the failure to obtain the required vote at the
special meeting;
. the merger has not have become effective by November 27, 2002 and the
party exercising its termination right is not in default under the
merger agreement; or
. any of the conditions to the respective obligations of Prosperity,
Prosperity Bank or Paradigm have not been met or waived by the other
party.
By Paradigm. The merger agreement may be terminated and the merger
abandoned at any time prior to the effective date of the merger by Paradigm if:
. Prosperity fails to comply in any material respect with any of its
covenants or agreements or if any of its representations or warranties
shall be inaccurate in any material respect;
. any of the conditions to the obligations of Paradigm to complete the
merger have not been met or waived by Paradigm;
. the average closing price of Prosperity common stock during the price
measurement period is less than $12.205 per share, that being the
measurement price, and the percentage difference between $16.275 and
the measurement price is greater than 10% lower than the percentage
decrease between the closing price of the KBW Bank Index on April 26,
2002 and the average closing price of the KBW Bank Index during the
price measurement period; provided, however, that Prosperity has the
right to nullify Paradigm's termination right by adjusting the
exchange ratio. For these purposes, the price measurement period is
the 10 consecutive trading days ending on and including the third
trading day immediately prior to the closing; or
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. Paradigm receives an acquisition proposal prior to the effective date
that Paradigm's board of directors determines in its good faith
judgment and in the exercise of its fiduciary duties, based in part on
the written opinion of its independent legal counsel and the written
opinion of an investment banking firm of national reputation, that
such alternative acquisition proposal would be more favorable to
Paradigm's shareholders than the merger, and that refusing the
alternative proposal would be inconsistent with the fiduciary duties
of Paradigm's board to its shareholders.
In the event Paradigm desires to terminate the merger agreement as provided
in the third item above, Paradigm must notify Prosperity in writing of its
intent to terminate within two business days following the end of the 10 day
trading period over which the average trading price is determined. Prosperity
has five days from the receipt of the notice to cure the grounds for
termination.
By Prosperity. The merger agreement may be terminated and the merger
abandoned at any time by Prosperity if:
. Paradigm fails to comply in any material respect with any of its
covenants or agreements or if any of its representations or warranties
shall be innaccurate in any material respect;
. any of the conditions to the obligations of Prosperity to complete the
merger have not been met or waived by Prosperity;
. the board of directors of Prosperity determines, after consultation
with counsel, that it will be unable to obtain any required regulatory
approval or such approval contains conditions that would materially
and adversely affect the financial consequences of the merger; or
. the board of directors of Paradigm
. received an acquisition proposal which the board of
directors resolves to accept;
. recommended to Paradigm's shareholders that they tender
their shares of Paradigm common stock in a tender or
exchange offer to a third party;
. withdrew or modified, in any manner that is adverse to
Prosperity, its recommendation or approval of the merger; or
. recommended to Paradigm shareholders that they accept or
approve an alternative acquisition proposal.
Expenses
Except as otherwise noted above, Prosperity and Paradigm will each pay
their own expenses in connection with the merger.
Termination Fee
The provisions of the merger agreement relating to expenses and termination
fees as well as the confidentiality provisions will continue in effect
notwithstanding termination of the merger agreement. If the merger agreement is
validly terminated by either party, the merger agreement will become void
without any liability on the part of any person except that Paradigm must pay to
Prosperity a termination fee of $2,500,000 if the merger is terminated as set
forth below:
. by Paradigm, if it receives an acquisition proposal that Paradigm's
board of directors determines in its good faith judgment and in the
exercise of its fiduciary duties, based in part on the written opinion
of its independent legal counsel and the written opinion of an
investment banking firm of national reputation, that such alternative
acquisition proposal would be more favorable to Paradigm's
shareholders than the merger, and that refusing the alternative
proposal would be inconsistent with the fiduciary duties of Paradigm's
board to its shareholders;
. by either Prosperity or Paradigm, if certain mutual conditions have
not been met at closing due to the failure of Paradigm's shareholders
to approve the merger agreement, if at the time of such failure
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Paradigm has received a bona fide acquisition proposal and, within
nine months of the termination of the merger agreement, Paradigm
enters into a definitive agreement with any third party with respect
to any acquisition proposal; or
. by Prosperity, if the board of directors of Paradigm
. received a superior acquisition proposal which the board of
directors resolves to accept;
. recommended to Paradigm's shareholders that they tender
their shares of Paradigm common stock in a tender or
exchange offer to a third party;
. withdrew or modified, in any manner that is adverse to
Prosperity, its recommendation or approval of the merger; or
. recommended to Paradigm shareholders that they accept or
approve an alternative acquisition proposal.
Nasdaq Stock Market Listing
Prosperity has agreed to use its best efforts to cause the shares of
Prosperity common stock to be issued in the merger to be approved for quotation
on the Nasdaq National Market. The obligations of the parties to complete the
merger are subject to approval for quotation of such shares on the Nasdaq
National Market.
Material Federal Income Tax Consequences
The following discussion is a general summary of the anticipated material
United States federal income tax consequences of the merger to Paradigm
shareholders who hold Paradigm common stock as a capital asset. This discussion
is based upon the Internal Revenue Code, regulations promulgated by the United
States Treasury Department, court cases and administrative rulings in each case
as in effect as of the date hereof and all of which are subject to change at any
time, possibly with retroactive effect.
The obligations of the parties to complete the merger are conditioned upon
the receipt by Prosperity and Paradigm of an opinion of counsel from Bracewell &
Patterson, L.L.P. as to the anticipated United States federal income tax
consequences of the merger, but specifically excluding the following:
. state, local, foreign or other federal tax consequences of the merger
not specifically addressed in the opinion;
. federal income tax consequences to Paradigm shareholders who are
subject to special rules under the Internal Revenue Code, such as
foreign persons, tax-exempt organizations, insurance companies,
financial institutions, dealers in securities and other persons who do
not own such stock as a capital asset;
. federal income tax consequences affecting shares of Paradigm common
stock acquired upon the exercise of stock options, similar derivative
securities or otherwise as compensation; and
. the federal income tax consequences to holders of options or other
rights to acquire shares of Paradigm common stock and Prosperity
common stock or persons who hold their Paradigm common stock as part
of a straddle, hedge or conversion transaction.
Bracewell & Patterson, L.L.P., counsel to Prosperity has delivered its tax
opinion to Prosperity, subject to the limitations discussed above, on the basis
of facts, representations and assumptions set forth or referred to in such
opinion which are consistent with the state of facts existing at the effective
time of the merger. In rendering its tax opinion, such counsel may require and
rely upon representations and covenants, including those contained in
certificates of officers of Prosperity and Paradigm, reasonably satisfactory in
form and substance to such counsel. An opinion of counsel represents counsel's
best legal judgment, but has no binding effect or official status of any kind,
and no assurance can be given that contrary positions will not be taken by the
IRS or a court considering the issues. We have not requested nor do we intend to
request a ruling from the IRS as to the tax consequences of the merger.
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Bracewell & Patterson, L.L.P. has rendered its opinion that for United
States federal income tax purposes:
. the merger will constitute a reorganization within the meaning of
Sections 368(a) of the Internal Revenue Code and Prosperity and
Paradigm will each be a party to the reorganization;
. except as discussed below, you will not recognize any gain or loss for
United States federal income tax purposes when you exchange your
Paradigm common stock solely for Prosperity common stock pursuant to
the merger;
. the aggregate tax basis in the shares of Prosperity common stock you
received as a result of the merger, including the holdback shares held
pursuant to the holdback escrow agreement, will be equal to the
aggregate tax basis of the shares of Paradigm common stock you
surrender in the exchange, increased by the amount of gain recognized
and reduced by the tax basis of any Paradigm common stock for which
you receive cash in lieu of a fractional share interest;
. the holding period of the Prosperity common stock that you receive in
the merger, including the holdback shares held pursuant to the
holdback escrow agreement, will include the holding period of the
shares of Paradigm common stock that you exchange; and
. neither Paradigm nor Prosperity will recognize any gain or loss for
United States federal income tax purposes as a result of the merger.
A copy of this opinion is attached as Exhibit 8.1 to the registration
statement of which this proxy statement-prospectus forms a part. It is a
condition to completion of the merger that each of us receive an updated opinion
of Bracewell & Patterson, L.L.P. The conditions relating to receipt of the tax
opinion may be waived by both of us. Neither of us currently intends to waive
the conditions related to the receipt of an updated tax opinion. However, if
these conditions are waived, Paradigm will circulate additional materials to
their shareholders and re-solicit approval of the merger.
Fractional shares of Prosperity common stock will not be issued in the
merger. You will recognize gain or loss for United States federal income tax
purposes with respect to the cash you receive instead of a fractional share
interest in Prosperity common stock. Your gain or loss will equal the difference
between the amount of cash you receive and the tax basis of your Paradigm common
stock surrendered in the merger that is allocated to fractional shares. This
gain or loss will be capital gain or loss, and will be a long-term capital gain
or loss if your stock has been held for more than one year at the time the
merger is completed.
You will be treated as owning the shares of Prosperity common stock held
under the holdback escrow agreement. If dividends are paid with respect to the
holdback shares, you will be required to report the dividends as ordinary income
even though you do not receive the cash payment. In addition, you will be
required to report as ordinary income any interest earned on the escrowed
dividends. If some or all of the holdback shares are returned to Prosperity to
discharge a liability under the holdback escrow agreement, you will be treated
as though you sold your portion of the returned shares and will recognize
capital gain or loss based on the difference between your basis in the returned
shares and the value of the shares at the time they are released. You will
increase your basis in any remaining shares by the amount of the liability that
was satisfied. If you no longer own any Prosperity common stock at the time the
escrow is terminated and none of the holdback shares are distributed to you, you
will likely report a capital loss equal to the amount of gain recognized. You
may also be able to report as an ordinary loss the amount of any dividends and
interest held by the escrow and not distributed to you to the extent you have
previously reported ordinary income attributable to such dividends and interest.
You should consult your own tax adviser regarding the proper tax treatment of
the escrowed shares.
If you exercise the right to dissent in connection with the merger and
receive only cash in exchange for your Paradigm common stock, you will be
treated as having received such cash as a distribution in redemption of your
Paradigm common stock and will generally recognize a capital gain or loss equal
to the difference between the amount of cash received and the adjusted basis of
your Paradigm common stock. However, different tax consequences could apply to
such payment, under your particular facts and circumstances, including whether
you are deemed under any applicable attribution rules to own Prosperity common
stock if the payment is deemed to have the effect of a dividend distribution and
not a redemption treated as an exchange under the principles of Section 302 of
the Code.
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The foregoing is a summary discussion of material federal income tax
consequences of the merger. The discussion is included for general information
purposes only and may not apply to a particular Paradigm shareholder in light of
such shareholder's particular circumstances. Paradigm shareholders should
consult their own tax advisors as to the particular tax consequences to them of
the merger, including the application of state, local and foreign tax laws and
possible future changes in federal income tax laws and the interpretation
thereof, which can have retroactive effects.
Dissenters' Rights of Appraisal and Related Issues
Paradigm shareholders have a statutory right to dissent from the merger by
following the specific procedures set forth below. If the merger is approved by
the shareholders and consummated, any Paradigm shareholder who properly perfects
his or her dissenters' rights will be entitled to receive an amount of cash
equal to the fair value of his or her shares of Paradigm stock rather than being
required to receive the consideration established by the merger agreement. The
following summary is not a complete statement of the statutory dissenters'
rights of appraisal, and such summary is qualified by reference to the
applicable provisions of the Texas Business Corporation Act, or the TBCA, which
are reproduced in full in Appendix D to this proxy statement-prospectus. You
must follow the exact procedure required by the TBCA in order to properly
exercise your dissenters' rights of appraisal and avoid waiver of those rights.
Any Paradigm shareholder who desires to dissent from the merger must file a
written objection to the merger with the Secretary of Paradigm, William H.
Fagan, M.D., 3934 FM 1960 West, Suite 330, Houston, Texas 77068, prior to the
meeting. The written notice must state that the shareholder will exercise his or
her right to dissent if the merger is consummated and give the shareholder's
address to which notice of effectiveness of the merger should be sent. A vote
against the merger is not sufficient to perfect a shareholder's statutory right
to dissent from the merger. If the merger is consummated, each shareholder of
Paradigm who sent notice to Paradigm as described above and who did not vote in
favor of the merger will be deemed to have dissented from the merger. Failure to
vote against the merger will not constitute a waiver of the dissenters' rights
of appraisal; on the other hand, a vote in favor of the merger will constitute
such a waiver.
As the company surviving the merger, Prosperity will be liable for any
payments to dissenting shareholders and, within 10 days of the effective date of
the merger, must notify the dissenting shareholders in writing that the merger
has occurred. Each dissenting shareholder so notified must, within 10 days of
the delivery or mailing of such notice, make a written demand on Prosperity, for
payment of the fair value of the dissenting shareholder's shares as estimated by
the dissenting shareholder. Failure to follow this procedure will constitute a
waiver of his dissenter's rights of appraisal by such dissenting shareholder.
The demand shall state the number and class of the shares owned by the
dissenting shareholder and the fair value of the shares as estimated by the
dissenting shareholder. The fair value of the shares shall be the value thereof
as of the date immediately preceding the meeting, excluding any appreciation or
depreciation in anticipation of the merger. Dissenting shareholders who fail to
make a written demand within the 10 day period will be bound by the merger and
lose their rights to dissent. Within twenty days after making a demand, the
dissenting shareholder must submit his stock certificates to Prosperity for
notation thereon that such demand has been made. Failure to do so shall
terminate the dissenting shareholder's right to dissent, unless a court
determines otherwise. Dissenting shareholders who have made a demand for payment
of their shares shall not thereafter be entitled to vote or exercise any other
rights of a shareholder except the right to receive payment for their shares
pursuant to the provisions of the TBCA and the right to maintain an appropriate
action to obtain relief on the basis of fraud.
Within twenty days after receipt of a dissenting shareholder's demand
letter as described above, Prosperity shall deliver or mail to the dissenting
shareholder written notice stating that Prosperity accepts the amount claimed in
the demand letter and agrees to pay that amount within ninety days after the
effective date and upon surrender of the certificates duly endorsed by the
dissenting shareholder or containing Prosperity's written estimate of the fair
value of the shares of Paradigm stock together with an offer to pay such amount
within ninety days after the effective date of the merger if Prosperity receives
notice, within sixty days after the effective date of the merger, stating that
the dissenting shareholder agrees to accept that amount and upon surrender of
the certificates duly endorsed by the dissenting shareholder. In either case,
the dissenting shareholder shall cease to have any ownership interest in
Paradigm following consummation of the merger.
If the dissenting shareholder and Prosperity cannot agree on the fair value
of the shares within sixty days after the effective date, either the dissenting
shareholder or Prosperity may, within sixty days of the expiration of the
initial sixty day period, file a petition in any court of competent jurisdiction
in Harris County, Texas requesting a
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finding and determination of the fair value of the dissenting shareholder's
shares. Each dissenting shareholder is not required to file a separate petition.
If one dissenting shareholder files a petition, Prosperity must, within 10 days
after being served with a copy of the petition, file, with the clerk of the
court in which the petition was filed, a list containing the names and addresses
of the dissenting shareholders with whom agreements as to the value of their
shares have not been reached. If Prosperity files the petition, it will include
the list as part of the filing. The court will give notice of the time and place
of the hearing on the petition to the dissenting shareholders named on the list.
Dissenting shareholders so notified by the court will be bound by the final
judgment of the court regarding fair value of the shares. If no petition is
filed within the appropriate time period, then all dissenting shareholders who
have not reached an agreement with Prosperity on the value of their shares shall
be bound by the merger and lose their rights to dissent.
After a hearing concerning the petition, the court shall determine which
dissenting shareholders have complied with the provisions of the TBCA and have
become entitled to the valuation of, and payment for, their shares, and shall
appoint one or more qualified appraisers to determine the value of the shares of
Paradigm stock in question. The appraiser or appraisers shall afford a
reasonable opportunity to the parties to submit pertinent evidence as to the
value of the shares. The appraiser or appraisers shall determine such value and
file a report with the court, notice of which will be given to the parties in
interest. The court shall then in its judgment determine the fair value of the
shares of Paradigm. The judgment of the court shall be binding on Prosperity and
on all dissenting shareholders receiving notice of the hearing. This value may
be more than, less than, or equal to what is received by non-dissenting
shareholders. The court shall direct Prosperity to pay such amount, together
with interest thereon beginning ninety-one days after the effective date to the
date of judgment, to the dissenting shareholders entitled thereto. The judgment
shall be payable upon the surrender to Prosperity of the certificates fully
endorsed by the dissenting shareholder. Upon payment of the judgment, the
dissenting shareholder shall cease to have any interest in the certificates. All
court costs shall be allotted between the dissenting shareholders and Prosperity
in the manner the court determines to be fair and equitable.
Any dissenting shareholder who has made a written demand on Prosperity for
payment of the fair value of his or her Paradigm stock may withdraw such demand
at any time before payment for his shares has been made or before a Petition has
been filed with an appropriate court for determination of the fair value of such
shares. If a dissenting shareholder withdraws his or her demand, or if he or she
is otherwise unsuccessful in asserting his or her dissenters' rights of
appraisal, such dissenting shareholder shall be bound by the merger and his or
her status as a former shareholder shall be restored without prejudice to any
corporate proceedings, dividends, or distributions that may have occurred during
the interim.
In the absence of fraud in the transaction, a dissenting shareholder's
statutory right to appraisal is the exclusive remedy for the recovery of the
value of his shares or money damages to the shareholder with respect to the
merger. See Appendix D.
Accounting Treatment
Under generally accepted accounting principles, the merger will be
accounted for under the purchase method of accounting. The assets and
liabilities of Paradigm, including identifiable intangible assets, will be
reflected in the consolidated financial statements of Prosperity based upon the
estimated fair values as of the effective time of the merger. Results of
operations will be reflected in the consolidated financial statements of
Prosperity for all periods subsequent to the effective time of the merger. The
excess purchase price over the fair market value of assets is recorded as
goodwill and is not amortized. Instead, goodwill is evaluated annually, or more
frequently if impairment indicators arise, for impairment.
Restrictions on Resales of Prosperity Common Stock
Prosperity common stock to be issued in the merger will be registered under
the Securities Act of 1933. Therefore, the Prosperity common stock to be issued
to Paradigm shareholders in the merger will be freely transferable by Paradigm
shareholders who are not considered to be "affiliates" of either of us.
"Affiliates" generally are defined as persons or entities who control, are
controlled by or are under common control with either of us at the time of the
Paradigm special meeting and generally include executive officers, directors and
beneficial owners of 10% or more of the Paradigm common stock.
If you are considered an affiliate of Paradigm or become an affiliate of
Prosperity after the merger, you may resell the shares of Prosperity common
stock acquired in connection with the merger only pursuant to an
56
effective registration statement under the securities laws, pursuant to Rule 145
of the Securities and Exchange Commission's rules, or in transactions otherwise
exempt from registration under the securities laws. Under Rule 145, during the
first calendar year after the merger becomes effective, affiliates of Paradigm
may publicly resell the Prosperity common stock they receive in the merger but
only within certain limitations as to the number of shares of Prosperity common
stock they can sell in any three-month period and as to the manner of sale.
After the one-year period, affiliates of Paradigm who are not affiliates of
Prosperity may resell their shares without restriction. Prosperity must continue
to satisfy its reporting requirements under the Securities Exchange Act of 1934
in order for these affiliates of Paradigm to resell, under Rule 145, shares of
Prosperity common stock received in the merger. Prosperity is not obligated and
does not intend to register for resale the shares issued to affiliates of
Paradigm.
A condition to Prosperity's obligation to complete the merger is that each
affiliate of Paradigm signs a written agreement to the effect that he or she
will not offer or sell or otherwise dispose of any of the shares of Prosperity
common stock issued to him or her in the merger in violation of the Securities
Act of 1933.
Regulatory Approvals
The merger must be approved by the Board of Governors of the Federal
Reserve System. On June 21, 2002, Prosperity filed an application with the
Federal Reserve Bank of Dallas to obtain prior approval of the merger. It is
expected that the Federal Reserve will approve the application in July 2002. The
merger of Paradigm Bank into Prosperity Bank must be approved by the Federal
Deposit Insurance Corporation (FDIC) and the Texas Department of Banking. On
June 3, 2002, Prosperity filed an application with the FDIC and Banking
Department to obtain approval of the bank merger. It is expected that the FDIC
and Banking Department will approve the application in August 2002.
A period of 15 to 30 days must expire following approval by the Federal
Reserve during which time the Department of Justice may file objections to the
merger under the federal antitrust laws. While Paradigm and Prosperity believe
that the likelihood of such action is remote, there can be no assurance that the
Department of Justice will not initiate such a proceeding, or if such a
proceeding is initiated, as to the result of any such challenge.
The approval of any application merely implies satisfaction of regulatory
criteria for approval, which does not include review of the merger from the
standpoint of the adequacy of the consideration to be received by, or fairness
to, shareholders. Regulatory approvals do not constitute an endorsement or
recommendation of the proposed merger.
Prosperity and Paradigm are not aware of any governmental approvals or
compliance with banking laws and regulations that are required for the merger to
become effective other than those described above. There can be no assurance
that any required approval or action can be obtained or taken prior to the
special meeting of Paradigm. The receipt of all necessary regulatory approvals
is a condition to completing the merger.
MANAGEMENT AND OPERATIONS AFTER THE MERGER
Upon completion of the merger, the number of directors of Prosperity will
be increased by two and Prosperity has agreed to appoint William H. Fagan, M.D.
and Charles J. Howard, M.D. as directors of Prosperity if they are still
directors of Paradigm immediately prior to completion of the merger and are
willing and eligible to serve as directors of Prosperity.
The number of directors of Prosperity Bank will also be increased by two
and Prosperity Bank has agreed to appoint Peter E. Fisher and Leah Huffmeister
Henderson as directors of Prosperity Bank if they are still directors of
Paradigm Bank immediately prior to completion of the merger and are willing and
eligible to serve as directors of Prosperity Bank. In addition, Prosperity
agreed to appoint Mr. Fisher to serve as Vice Chairman of the Board of Directors
of Prosperity Bank.
Brief biographical information for Mr. Fisher and each director of Paradigm
who will serve as a director of Prosperity upon completion of the merger is
provided below:
William H. Fagan, M.D. Dr. Fagan is an investor who has served as a
director of Paradigm since its formation in 1996. He has served on the board of
Paradigm Bank Texas since he was an organizing director in 1980. From 1965 to
1980, Dr. Fagan served on the board of directors of Channelview State Bank,
which later changed its name to Prime Bank.
57
Peter E. Fisher. Mr. Fisher has been President and Chief Executive
Officer of Paradigm since 1999 and was President and Chief Operating Officer
from 1997 to 1999. He also has been President and Chief Executive Officer of
Paradigm Bank since 2000 and was Vice Chairman of Woodcreek Bank, Paradigm
Bank's predecessor, from 1999 to 2000. Mr. Fisher has served as a director of
both Paradigm and Paradigm Bank since 1997. From 1996 to 1997, Mr. Fisher was
executive vice president of American Bank in Houston. Prior to that, he was
president of Charter Bank-Houston. Mr. Fisher serves on the board of the Houston
Community College Foundation and the Gulf Coast Regional Blood Center. Mr.
Fisher is an attorney licensed to practice law in Texas and Illinois.
Charles J. Howard, M.D. Dr. Howard is an investor who has been Chairman
of Paradigm's board of directors since its formation in 1996. He has served on
the board of Paradigm Bank Texas since he was an organizing director in 1980.
Dr. Howard has served as a director of Vail Valley Medical Center since 1985,
and served as chairman of that board from 1992 to 1996.
Compensation
The following table provides certain summary information concerning
compensation paid to or accrued by Paradigm to or on behalf of Paradigm's
President and Chief Executive Officer, Peter E. Fisher, who will become Vice
Chairman of Prosperity Bank upon completion of the merger:
Long Term Incentive Compensation
Shares Underlying
Annual Compensation Options SAR All
Name and Principal Position Year Salary Bonus Other (1) Awards Awards Other (2)
Peter Fisher 2001 $ 159,367 $ - 27,600 5,000 - $ 5,003
President and Chief Executive Officer 2000 147,241 22,468 30,100 5,000 - 5,906
1999 145,000 21,750 12,000 - 20,000 5,088
_______________________
(1) Mr. Fisher's other annual compensation includes auto allowance of
$9,600 in 2001 and 2000 and director fees of $18,000, $20,500 and $12,000 in
2001, 2000 and 1999, respectively.
(2) Represents contributions made by Paradigm to its 401(k) Plan on behalf
of Mr. Fisher.
As a director of Prosperity, each of Dr. Fagan and Dr. Howard will be
compensated in accordance with Prosperity's director compensation policies in
effect from time to time. As of the date of this proxy statement-prospectus,
directors of Prosperity receive a fee of $1,660 for each meeting of Prosperity's
board of directors they attend and no additional fee for attendance at committee
meetings.
For information regarding the directors and executive officers of
Prosperity, see Prosperity's proxy statements dated March 15, 2002 for its
annual meeting of shareholders held on April 16, 2002, which is incorporated by
reference in this proxy statement-prospectus.
58
COMPARISON OF RIGHTS OF SHAREHOLDERS
OF PROSPERITY AND PARADIGM
The rights of Paradigm shareholders under the articles of incorporation
and bylaws of Paradigm will differ in some respects from the rights Paradigm
shareholders will have as shareholders of Prosperity under the articles of
incorporation and bylaws of Prosperity. Copies of Prosperity's articles of
incorporation and bylaws have been previously filed by Prosperity with the
Securities and Exchange Commission. Copies of Paradigm's articles of
incorporation and bylaws are available upon written request from Paradigm.
Certain differences between the provisions contained in the Texas
Business Corporation Act, Paradigm's articles of incorporation and bylaws, and
Prosperity's articles of incorporation and bylaws as such differences may affect
the rights of shareholders are summarized below. The summary set forth below is
not intended to be complete and is qualified by reference to Texas law, the
Paradigm articles of incorporation, the Paradigm bylaws, the Prosperity articles
of incorporation and the Prosperity bylaws.
Summary of Material Differences Between Current Rights of
Paradigm Shareholders and Rights Those Persons
Will Have as Shareholders of Prosperity Following the Merger
Paradigm Prosperity
Corporate Governance: The rights of Paradigm shareholders are The rights of Prosperity shareholders are
currently governed by Texas corporate law governed by Texas corporate law and the
and the articles of incorporation and bylaws articles of incorporation and bylaws of
of Paradigm. Following the completion of Prosperity.
the merger, rights of Paradigm shareholders
who become Prosperity shareholders will be
governed by Texas law and the articles of
incorporation and bylaws of Prosperity.
Authorized Capital Paradigm's authorized capital stock consists Prosperity's authorized capital stock
Stock: of 25,000,000 shares of common stock, par consists of 50,000,000 shares of common
value $1.00 per share, and 10,000,000 shares stock, par value $1.00 per share, and
of preferred stock, par value $10.00 per 20,000,000 shares of preferred stock, par
share. value $1.00 per share.
Classification of the Paradigm's bylaws provide that the directors Prosperity's board is also divided into three
Board of Directors: of Paradigm shall be divided into three classes, as nearly equal in number as
classes with each class serving a staggered possible, with each class serving a staggered
three-year term. This means that only three-year term.
one-third of the board is elected at each
annual meeting of shareholders. The
classification makes it more difficult to
change the composition of Paradigm's Board
of Directors because at least two annual
meetings of shareholders are required to
change control of the Board of Directors.
Number of Directors: Paradigm's board of directors currently Prosperity's board of directors currently
consists of eight members. consists of 11 members. As of the closing of
the merger, Prosperity's board will increase
by two members and William H. Fagan, M.D. and
Charles J. Howard, M.D., current members of
Paradigm's board, will become members of
Prosperity's board.
59
Removal of
Directors: Texas law provides that at any meeting of Prosperity's bylaws also provide that any
shareholders called expressly for that director or the entire board of directors may
purpose, any director or the entire board of be removed, but only for cause, by the
directors may be removed, with or without affirmative vote of the holders of a majority
cause, by a specified portion of votes not of shares entitled to vote at an election of
less than a majority of shares entitled to directors.
vote at an election of directors, unless
otherwise provided in a corporation's articles
of incorporation or bylaws. Paradigm's bylaws
provide that any director or the entire Board
may be removed, but only for cause, by the
affirmative vote of the holders of a majority of
the shares then entitled to vote at an election of
directors.
Board Vacancies: Any vacancy occurring on the Paradigm board Any vacancy occurring on the Prosperity board
of directors may be filled by the Paradigm of directors also may be filled by the
board of directors; and any directors so Prosperity board of directors; and any
chosen will hold office until the next directors so chosen will hold office until
election of the class of directors to which the next election of the class of directors
such director has been appointed and until to which such director has been appointed and
such director's successor shall have been until such director's successor shall have
elected and qualified, or until such been elected and qualified, or until such
director's earlier death, resignation or director's earlier death, resignation or
removal. removal.
Vote Required for Texas law provides that on matters other Prosperity's articles of incorporation also
Certain Shareholder than the election of directors, the provide that the vote or concurrence of the
Actions: affirmative vote of the holders of a holders of a majority of the shares of the
majority of the shares entitled to vote and corporation entitled to vote at a meeting of
represented at a shareholders' meeting shall the shareholders at which a quorum is present
be the act of the shareholders, unless the shall be the act of the shareholders.
vote of a greater number is required by law,
the articles of incorporation or the bylaws.
Paradigm's articles of incorporation
provide, except to the extent otherwise
required by law, the vote or concurrence of
the holders of a majority of the shares of
the corporation entitled to vote on the
matter shall be the act of the
shareholders.
Amendment of Under Texas law, unless a corporation's Prosperity's articles of incorporation
Articles of articles of incorporation or a bylaw adopted amended upon the approval of two-thirds of
Incorporation by the shareholders provides otherwise, a the outstanding shares of stock entitled to
and Bylaws: corporation's shareholders may amend the vote thereon.
bylaws. Paradigm's articles of
incorporation may be amended upon the Prosperity's articles of incorporation and
affirmative vote of a majority of the bylaws provide that its bylaws may be amended
outstanding shares of stock entitled to vote only by Prosperity's board of directors and
thereon. Prosperity's shareholders do not have the
power to amend the bylaws.
Paradigm's bylaws provide the board of
directors shall have the power to adopt,
amend and repeal the bylaws and the
shareholders shall not have the power to
adopt, amend or repeal the bylaws.
60
Shareholder Under Texas law, shareholders may act Prosperity's articles of incorporation
Actions Without a without a meeting if a written consent is do not provide for less than unanimous
Meeting: signed by all the shareholders entitled to consent when shareholder action is taken
vote on the matter, unless a corporation's without a meeting; therefore, no action may
articles of incorporation require less than be taken by written consent unless all
unanimous consent (but not less than the shareholders agree.
number of votes necessary to take the action
at a meeting). Paradigm's articles of
incorporation do not provide for less than
unanimous consent when shareholder action is
taken without a meeting; therefore, no
action may be taken by written consent
unless all shareholders agree.
Special Meetings Under Texas law, a special meeting of Prosperity's articles of incorporation and
of Shareholders: shareholders may be called by the President, bylaws provide that special meetings of the
the board of directors, other persons so shareholders may be called only by the
authorized in the corporation's articles of Chairman of the Board, by the President and
incorporation or bylaws or the holders of Chief Executive Officer, by a majority of the
not less than 10% of all the shares entitled Board of Directors or by the holders of 50%
to vote at the meeting, unless a different of the outstanding shares entitled to vote.
percentage, not to exceed 50%, is provided for
in the articles of incorporation. Paradigm's
articles of incorporation and bylaws provide
that special meetings of shareholders may be
called by the Chairman of the Board, by the
holders of 50% of the outstanding shares
entitled to vote or by the majority of the
executive committee (if any).
Proposal of Paradigm's bylaws contain detailed advance Prosperity's bylaws also contain detailed
Business; notice and informational procedures which advance notice and informational procedures
Nomination of must be complied with in order for a which must be complied with in order for a
Directors: shareholder to nominate a person to serve as shareholder to nominate a person to serve as
a director. Paradigm's bylaws generally a director. Prosperity's bylaws generally
require a shareholder to give notice of a require a shareholder to give notice of a
proposed nominee in advance of the proposed nominee in advance of the
shareholders' meeting at which directors shareholders' meeting at which directors will
will be elected. be elected.
In addition, Paradigm's bylaws contain In addition, Prosperity's bylaws contain
detailed informational procedures which must detailed advance notice and informational
be followed in order for a shareholder to procedures which must be followed in order
propose an item of business for for a shareholder to propose an item of
consideration at a meeting of shareholders. business for consideration at a meeting of
To be timely, a shareholder's notice must be shareholders. To be timely, a shareholder's
delivered to the Secretary of Paradigm no notice must be delivered to the Secretary of
later than 60 days prior to the meeting. Prosperity no later than 60 days prior to the
meeting.
Limitation of Article 1302-7.06 of the Texas Civil Prosperity's articles of incorporation also
Director Statutes provides that the articles of provide that no director of Prosperity will
Liability: incorporation may provide that a director of be liable to Prosperity or its shareholders
the corporation shall not be liable, or for monetary damages for an act or omission
shall be liable only to the extent provided in the director's capacity as a director,
in the articles of incorporation, to the except to the extent the foregoing exemption
corporation or its shareholders for monetary from liability is not permitted under Texas
damages for an act or omission in the law. Prosperity's articles of incorporation and
director's
61
capacity as a director, provided that and bylaws provide the corporation shall
there shall be no limitation of have the power to purchase and maintain
liability of a director to the extent insurance on behalf of directors against
the director is found liable for (1) a any liability incurred by directors in
breach of the director's duty of loyalty such a capacity or arising out of such
to the corporation or its shareholders, person's status.
(2) an act or omission not in good faith
that constitutes a breach of duty of the
director to the corporation or that
involves intentional misconduct or a
knowing violation of law, (3) a
transaction from which the director
received an improper benefit, whether or
not the benefit resulted from an action
taken within the scope of the director's
office or (4) an act or omission for
which the liability of a director is
expressly provided by an applicable
statute.
Paradigm's articles of incorporation
provide that no director of Paradigm will
be liable to Paradigm or its shareholders
for monetary damages for an act or
omission in the director's capacity as a
director, except to the extent the
foregoing exemption from liability is not
permitted under Texas law. Paradigm's
articles of incorporation and bylaws
provide the corporation shall have the
power to purchase and maintain insurance
on behalf of directors against any
liability incurred by directors in such a
capacity or arising out of such person's
status.
Indemnification: Under Texas law, Paradigm may indemnify an Prosperity's articles of incorporation
individual acting in his capacity as an and bylaws provide for mandatory
officer or director against liability indemnification to the fullest extent
incurred if (1) he conducted himself in allowed by Texas law for all former or
good faith; and (2) he believed: (a) in present directors or officers and all
the case of conduct in his official persons who were serving at the request
capacity with Paradigm, that his conduct of Prosperity as a director, officer,
was in Paradigm's best interest and (b) partner or trustee of another entity.
in all other cases, that his conduct was
at least not opposed to its best
interests; and (3) in the case of a
criminal proceeding, he had no
reasonable cause to believe his conduct
was unlawful. Texas law also provides
that a director may not be indemnified
with respect to a proceeding (1) in
which the person is found liable on the
basis that personal benefit was
improperly received by him, whether or
not the benefit resulted from an action
taken in the person's official capacity
or (2) in which the person is found
liable to the corporation. Paradigm's
articles of incorporation and bylaws
provide for mandatory indemnification to
the fullest extent allowed by Texas law
for all former or present directors or
officers and all
62
persons who were serving at the request of
Paradigm as a director, officer, partner or
trustee of another entity.
In addition, Prosperity is subject to the provisions of the Texas Business
Combination Law (Articles 13.01 through 13.08 of the TBCA), which provide that a
Texas corporation that has 100 or more shareholders or any class or series of
its voting shares registered under the Securities Exchange Act of 1934 or
similar successor statute, or qualified for trading in a national market system
may not engage in certain business combinations, including mergers,
consolidations and asset sales, with a person, or an affiliate or associate of
such person, who is an "affiliated shareholder" (generally defined as the holder
of 20% or more of the corporation's voting shares) for a period of three years
from the date such person became an affiliated shareholder unless: (1) the
business combination or purchase or acquisition of shares made by the affiliated
shareholder was approved by the board of directors of the corporation before the
affiliated shareholder became an affiliated shareholder or (2) the business
combination was approved by the affirmative vote of the holders of at least
two-thirds of the outstanding voting shares of the corporation not beneficially
owned by the affiliated shareholder, at a meeting of shareholders called for
that purpose (and not by written consent), not less than six months after the
affiliated shareholder became an affiliated shareholder. As long as Paradigm has
less than 100 shareholders or is not a public company as described above,
Paradigm is not subject to this law.
The Texas Business Combination Law is not applicable to:
. the business combination of a corporation:
. where the corporation's original charter or bylaws contain a
provision expressly electing not to be governed by the Texas
Business Combination Law;
. that adopts an amendment to its charter or bylaws before
December 31, 1997, expressly electing not to be governed by
the Texas Business Combination Law; or
. that adopts an amendment to its charter or bylaws after
December 31, 1997, by the affirmative vote of the holders,
other than affiliated shareholders, of at least two-thirds
of the outstanding voting shares of the corporation,
expressly electing not to be governed by the Texas Business
Combination Law;
. a business combination of a corporation with an affiliated shareholder
that became an affiliated shareholder inadvertently, if the affiliated
shareholder:
. as soon as practicable divests itself of enough shares to no
longer be an affiliated shareholder; and
. would not at any time within the three year period preceding
the announcement of the business combination have been an
affiliated shareholder but for the inadvertent acquisition;
. a business combination with an affiliated shareholder that was the
beneficial owner of 20% or more of the outstanding voting shares of
the corporation on December 31, 1996, and continuously until the
announcement date of the business combination;
. a business combination with an affiliated shareholder who became an
affiliated shareholder through a transfer of shares of the corporation
by will or intestate succession and continuously was such an
affiliated shareholder until the announcement date of the business
combination; and
. a business combination of a corporation with a wholly owned subsidiary
if the subsidiary is not an affiliate or associate of the affiliated
shareholder other than by reason of the affiliated shareholder's
beneficial ownership of the voting shares of the corporation.
Neither the articles of incorporation nor the bylaws of Prosperity contain any
provision expressly providing that Prosperity will not be subject to the Texas
Business Combination Law. The Texas Business Combination Law may have the effect
of inhibiting a non-negotiated merger or other business combination involving
Prosperity, even if such event would be beneficial to Prosperity's shareholders.
63
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS OF PARADIGM
Management's Discussion and Analysis of Financial Condition and Results
of Operation of Paradigm analyzes the major elements of Paradigm's balance
sheets and statements of income. This section should be read in conjunction with
Paradigm's consolidated financial statements and the accompanying notes
contained elsewhere in this proxy statement-prospectus.
Overview
During the quarter ended March 31, 2002, Paradigm earned $354,000, or
$0.15 per share (basic and diluted), compared with $471,000, or $0.20 per share
(basic and diluted), for the same period in 2001. Paradigm earned a return on
average assets of 0.55% and 0.87% and a return on average equity of 7.76% and
10.78% for the first quarters of 2002 and 2001, respectively. Paradigm paid no
dividends during the quarters ended March 31, 2002 and 2001.
Paradigm's total assets were $256.7 million at March 31, 2002 compared
with $259.3 million at December 31, 2001, a decrease of $2.6 million, or 1.0%.
Total loans decreased $200,000 to $170.6 million at March 31, 2002 compared with
total loans of $170.8 million at December 31, 2001. Total deposits were $230.3
million at March 31, 2002, a decrease of $2.1 million, or 0.9%, compared with
$232.4 million at December 31, 2001.
In December 2000, Paradigm changed the name of its subsidiary bank,
Woodcreek Bank, to Paradigm Bank Texas to reflect its expanded customer base and
broader geographic range. Also in December 2000, Paradigm merged Dayton State
Bank, which was acquired in December 1999 and operated as a separate bank
subsidiary, into Paradigm Bank in order to expand and improve services offered
to its banking customers, develop efficiencies from a unified management and
consolidate the management, loan processing, back office and accounting
operations.
During the first quarter of 2001, Paradigm, through its subsidiary
Paradigm Capital Trust II, issued $6.0 million in trust preferred securities.
The proceeds were used mainly to redeem all of Paradigm's outstanding 10.375%
debentures and for general corporate purposes. For more information, see the
discussion in "Financial Condition - Trust Preferred Securities" on page 81.
From August 2000 through May 2001, Paradigm opened three new banking
centers. The three new locations are in the Copperfield and Gladebrook areas of
north and northwest Houston and in downtown Galveston. Due to the proximity of
Paradigm's Copperfield and Gladebrook banking centers to the Cy-Fair banking
center, Paradigm closed its Cy-Fair banking center on December 1, 2001. Paradigm
moved the staff and most of the business from Cy-Fair to the nearby Gladebrook
location, enabling it to realize cost savings without material loss of loans or
deposits, and without material charges to income.
During 2001, the Federal Reserve decreased the discount rates eleven
times, totaling 475 basis points. Due to rate re-pricing differences among
Paradigm's interest-bearing assets and liabilities, these rate reductions
effectively lowered Paradigm's net interest margin by 85 basis points for 2001
versus 2000.
Changing Paradigm Bank's name, merging Dayton State Bank into Paradigm
Bank, staffing and establishing new locations, establishing a consolidated
operations center and modernizing computer systems all represented significant
long-term investments, which increased costs in 2001. Due to these factors and
those discussed below, Paradigm earned $1.1 million, or $0.47 per share (basic
and diluted), in 2001, versus $2.2 million, or $0.94 per share (basic and
diluted), in 2000. Paradigm posted returns on average assets of 0.48%, 1.05%,
and 1.49% for 2001, 2000 and 1999, respectively. For those same years, Paradigm
earned returns on average equity of 6.37%, 13.73%, and 21.11%, respectively.
Dividends paid per weighted average share outstanding (basic and diluted) for
2001, 2000 and 1999, respectively, were $0.06, $0.30 and $0.48.
Despite the downward pressure on earnings, Paradigm achieved
significant asset and deposit growth in 2001. Total assets grew to $259.3
million at December 31, 2001 from $215.3 million at December 31, 2000, an
increase of $44.0 million, or 20.4%. Total loans increased to $170.8 million at
December 31, 2001 from $133.5 million at December 31, 2000, an increase of $37.3
million, or 27.9%. Total deposits grew $44.4 million, or 23.6%, in 2001, to
$232.4 million at December 31, 2001. Assets, loans and deposits grew in 2001 due
to the growth in branches opened in 2000 and 2001 and the development of
additional business at existing branches.
64
Results of Operations
Net Interest Income
Net interest income, a main source of Paradigm's earnings, is the
amount by which interest income exceeds interest expense. Interest rate
fluctuations and changes in the amount and type of earning assets and
liabilities combine to affect net interest margins and net interest income.
Changes in yields earned on interest-earning assets, such as loans and
investments, and rates paid on interest-bearing deposits and other borrowed
funds are called rate changes. Changes in the amount and mix of interest-earning
assets and interest-bearing liabilities are referred to as volume changes.
For the quarter ended March 31, 2002, net interest income before
provision for credit losses increased $37,000 to $2.6 million compared with the
same period in 2001, as the increase in average loans offset an 89 basis point
decrease in net interest margin resulting from the interest rate declines
throughout 2001.
Net interest income before provision for credit losses decreased
$377,000 or 3.5%, to $10.3 million for the year ended December 31, 2001 compared
with $10.7 million in 2000. After discount rate reductions by the Federal
Reserve Board, which totaled 475 basis points in 2001, interest rates earned on
Paradigm's interest-earning assets decreased more rapidly and more significantly
than the rates paid on its interest-bearing liabilities. The average rate earned
on interest-earning assets was 7.78% in 2001, down 101 basis points from 8.79%
in 2000. The average rate paid for interest-bearing liabilities decreased 27
basis points to 4.04% in 2001 versus 4.31% in 2000. Paradigm's net interest
margin of 5.15% in 2001 was 85 basis points lower than in 2000.
The increase in average assets and liabilities, and related interest
income and expense, from 1999 to 2000 was mainly due to the purchase of Dayton
State Bank in December 1999.
65
The following tables present for the periods indicated the total dollar
amount of interest income from average interest-earning assets and the resultant
yields, as well as the interest expense on average interest-bearing liabilities,
expressed both in dollars and rates. No tax-equivalent adjustments were made to
the average balances or interest amounts, and all average balances are daily
average balances. Non-accruing loans have been included in the tables as loans
carrying a zero yield.
Three Months Ended March 31,
------------------------------------------------------------------------------
2002 2001
------------------------------------- -------------------------------------
Average Average
Average Interest Yield/ Average Interest Yield/
Balance Earned/Paid Rate (4) Balance Earned/Paid Rate (4)
------------- ------------ ------------ ------------ ------------ -----------
(Dollars in thousands)
Assets
Interest-earning assets:
Loans .................................. $ 168,959 $ 3,018 7.14% $ 134,203 $ 3,224 9.74%
Securities (1) ......................... 42,603 494 4.64 42,296 621 5.96
Federal funds sold and other
temporary investments ................ 9,545 64 2.68 9,140 112 4.97
---------- ---------- ---------- ----------
Total interest-earning assets .......... 221,107 3,576 6.47 185,639 3,957 8.64
Less allowance for credit losses ....... (1,867) (1,015)
Interest-earning assets, net ---------- ----------
of allowance ....................... 219,240 184,624
Noninterest-earning assets ............. 36,819 33,126
---------- ----------
Total assets ......................... $ 256,059 $ 217,750
========== ==========
Liabilities and Stockholders' Equity
Interest-bearing liabilities:
Interest-bearing demand deposits ....... $ 17,089 $ 48 1.12% $ 14,712 $ 60 1.65%
Savings and money market deposits 58,070 294 2.03 41,480 340 3.32
Certificates of deposit ................ 70,218 635 3.62 64,533 983 6.18
Federal funds purchased and - - - 839 12 5.80
other debt ........................... ---------- ---------- ---------- ----------
Total interest-bearing liabilities ..... 145,377 977 2.69 121,564 1,395 4.65
Noninterest-bearing liabilities: 81,410 70,471
Noninterest-bearing deposits ........... 5,036 2,683
Other liabilities ...................... ---------- ----------
231,823 194,718
Total liabilities ....................
Company obligated
mandatorily-redeemable trust 6,000 5,562
preferred securities 18,236 17,470
Stockholders' equity ....................... ---------- ----------
Total liabilities and
$ 256,059 $ 217,750
stockholders' equity ................... ========== ==========
3.78% 3.99%
Net interest rate spread ................... $ 2,599 4.74% $ 2,562 5.63%
Net interest income and margin (2) ......... ========== ==========
Net interest income and margin, tax $ 2,684 4.90% $ 2,631 5.75%
equivalent basis (3) ................... ========== ==========
_______________
(1) Yield on securities is based on amortized cost and does not include
unrealized gains or losses. Average balances for time deposits with other
banks are included in average securities balances above, in the amounts of
$4,646 and $957 for the three months ended March 31, 2002 and 2001,
respectively.
(2) Net interest margin equals net interest income divided by average
interest-earning assets.
(3) To make pretax income and yields on tax exempt investments and loans
comparable to those for taxable investments and loans, a tax-equivalent
adjustment was computed using the federal income tax rate of 34%. The
average balances of non-taxable securities that are included in the average
securities balances above were $10,090 and $11,081 for the three months
ended March 31, 2002 and 2001, respectively.
(4) Annualized.
66
Years ended December 31,
--------------------------------------------------------------------------------------------
2001 2000 1999
----------------------------- ----------------------------- ------------------------------
Interest Average Interest Average Interest Average
Average Earned/ Yield/ Average Earned/ Yield/ Average Earned/ Yield/
Balance Paid Rate Balance Paid Rate Balance Paid Rate
--------- -------- --------- ---------- ---------- ------- ---------- ---------- --------
(Dollars in thousands)
Assets
Interest-earning assets:
Loans ............................ $ 145,591 $ 12,753 8.76% $ 122,228 $ 12,305 10.07% $ 62,483 $ 5,723 9.16%
Securities (1) ................... 44,266 2,493 5.63 52,782 3,204 6.07 32,647 1,860 5.70
Federal funds sold and other
temporary investments .......... 11,931 455 3.81 4,411 262 5.94 3,769 230 6.10
--------- -------- --------- -------- --------- ---------
Total interest-earning assets .... 201,788 15,701 7.78 179,421 15,771 8.79 98,899 7,813 7.90
Less allowance for credit
losses ....................... (1,270) (859) (426)
--------- --------- ---------
Interest-earning assets,
net of allowance ............. 200,518 178,562 98,473
Noninterest-earning assets ....... 36,765 34,514 17,631
--------- --------- ---------
Total assets ................... $ 237,283 $ 213,076 $ 116,104
========= ========= =========
Liabilities and Stockholders' Equity
Interest-bearing liabilities:
Interest-bearing demand
deposits ....................... $ 15,236 $ 209 1.37% $ 15,736 $ 419 2.66% $ 7,380 $ 89 1.21%
Savings and money market
deposits ....................... 46,920 1,390 2.96 40,899 1,308 3.20 25,983 786 3.03
Certificates of deposit .......... 70,761 3,760 5.31 59,426 3,277 5.51 34,360 1,663 4.84
Federal funds purchased and
other debt ..................... 206 13 6.31 1,502 61 4.06 982 59 6.01
--------- -------- --------- -------- --------- ---------
Total interest-bearing
liabilities .................... 133,123 5,372 4.04 117,563 5,065 4.31 68,705 2,597 3.78
Noninterest-bearing liabilities:
Noninterest-bearing deposits ..... 77,361 68,973 37,685
Other liabilities ................ 3,556 5,163 1,121
--------- --------- ---------
Total liabilities .............. 214,040 191,699 107,511
Company obligated
mandatorily-redeemable trust
preferred securities ............. 5,563 5,125 427
Stockholders' equity ................. 17,680 16,252 8,166
--------- --------- ---------
Total liabilities and
stockholders' equity ........... $ 237,283 $ 213,076 $ 116,104
========= ========= =========
Net interest rate spread ............. 3.75% 4.48% 4.12%
Net interest income and margin (2) ... $ 10,329 5.15% $ 10,706 6.00% $ 5,216 5.30%
======== ======== =========
Net interest income and margin,
tax equivalent basis (3) ......... $ 10,764 5.37% $ 10,891 6.10% $ 5,356 5.44%
======== ======== =========
___________________
(1) Yield on securities is based on amortized cost and does not include
unrealized gains or losses. Average balances for time deposits with
other banks are included in average securities balances above, in the
amounts of $2,902, $3,512, and $7,619 for the years ended December 31,
2001, 2000 and 1999, respectively.
(2) Net interest margin equals net interest income divided by average
interest-earning assets.
(3) To make pretax income and yields on tax exempt investments and loans
comparable to those for taxable investments and loans, a
tax-equivalent adjustment was computed using the federal income tax
rate of 34%. The average balances of non-taxable securities which are
included in the average securities balances above were $11,072,
$11,088 and $9,763 for the years ended December 31, 2001, 2000 and
1999, respectively.
67
In 2001, average interest-earning assets increased $22.4 million, or
12.5%, over 2000, mainly due to an increase in average loan volume of $23.4
million, or 19.1%. The increase in loans was not enough, however, to offset the
effect of the 101 basis point decrease in average yield in 2001, resulting in
lower total interest income.
Growth in savings, money market and time deposits helped boost average
interest-bearing liabilities by $15.6 million, or 13.3%, in 2001 compared with
2000. The benefit from the gradual reduction of 27 basis points on average rates
paid on interest-bearing liabilities was offset by the deposit growth, resulting
in higher total interest expense for 2001.
The following tables present the dollar amount of changes in interest
income and interest expense for the major components of interest-earning assets
and interest-bearing liabilities and identifies the change related to
outstanding balances (volume) and the change due to interest rate fluctuations
(rate) for the periods indicated. For purposes of this table, changes
attributable to both rate and volume that cannot be segregated have been
allocated to rate.
Three Months ended March 31, 2002
Compared with
Three Months ended March 31, 2001
-----------------------------------------
Increase (Decrease) Due to
----------------------------
Volume Rate Total
------------ ---------- ------------
(Dollars in thousands)
Average interest-earning assets:
Loans .................................... $ 835 $ (1,041) $ (206)
Securities ............................... 5 (132) (127)
Federal funds sold ....................... 5 (53) (48)
---------- ---------- ----------
Increase (decrease) in interest
income .............................. 845 (1,226) (381)
Average interest-bearing liabilities:
Interest-bearing demand deposits ......... $ 10 $ (22) $ (12)
Savings and money market accounts ........ 136 (182) (46)
Certificates of deposit .................. 87 (435) (348)
Federal funds purchased & other debt ..... (12) - (12)
---------- ---------- ----------
Increase (decrease) in interest
expense ............................. 221 (639) (418)
---------- ---------- ----------
Increase (decrease) in net
interest income ................... $ 624 $ (587) $ 37
========== ========== ==========
Year ended December 31, 2001 Year ended December 31, 2000
Compared with Compared with
Year ended December 31, 2000 Year ended December 31, 1999
------------------------------------- -------------------------------------
Increase (Decrease) Due to Increase (Decrease) Due to
---------------------------- ----------------------------
Volume Rate Total Volume Rate Total
------------ ---------- ---------- ------------ ----------- ----------
(Dollars in thousands)
Average interest-earning assets:
Loans ........................................ $ 2,047 $ (1,599) $ 448 $ 6,016 $ 566 $ 6,582
Securities ................................... (517) (194) (711) 1,222 122 1,344
Federal funds sold ........................... 287 (94) 193 38 (6) 32
---------- ---------- ---------- ---------- ---------- ----------
Increase (decrease) in interest
income ................................... 1,817 (1,887) (70) 7,276 682 7,958
Average interest-bearing liabilities:
Interest-bearing demand deposits ............. $ (14) $ (196) $ (210) $ 222 $ 108 $ 330
Savings and money market accounts ............ 178 (96) 82 477 45 522
Certificates of deposit ...................... 602 (119) 483 1,381 233 1,614
Federal funds purchased & other debt ......... (53) 5 (48) 22 (20) 2
---------- ---------- ---------- ---------- ---------- ----------
Increase (decrease) in interest
expense .................................. 713 (406) 307 2,102 366 2,468
---------- ---------- ---------- ---------- ---------- ----------
Increase (decrease) in net
interest income ....................... $ 1,104 $ (1,481) $ (377) $ 5,174 $ 316 $ 5,490
========== ========== ========== ========== ========== ==========
Provision for Credit Losses
The provision for credit losses represents charges to income to bring
the total allowance for credit losses to a level deemed appropriate by
management based on such factors as Paradigm's historical loan loss experience,
industry diversification of the commercial loan portfolio, the amount of
nonperforming loans and related collateral, the volume, growth and composition
of the loan portfolio, current economic conditions that may affect the
borrower's ability to pay and the value of collateral, the evaluation of the
loan portfolio through the internal loan review process and other relevant
factors. See "Financial Condition - Allowance for Credit Losses" for more
information regarding Paradigm's allowance for credit losses.
68
The allowance for credit losses as a percentage of total loans
increased to 1.13% at March 31, 2002 from 0.66% at March 31, 2001 due primarily
to a contribution of $256,000 to Paradigm's credit loss reserve from the escrow
account established in 1999 in connection with the acquisition of Dayton State
Bank. In January 2002, a final allocation of the escrow funds was made to the
sellers based on the performance of certain loans acquired in the purchase of
Dayton State Bank. In accordance with the escrow agreement, the remaining escrow
funds were paid into Paradigm's credit loss reserve. As a result, Paradigm made
a provision for credit losses of $121,000 for the three months ended March 31,
2002, $94,000 less than the provision of $215,000 made for the same period in
2001.
The provision for credit losses was $1.0 million for the year ended
December 31, 2001, 44.0% more than for 2000. Average total loans increased $23.4
million, or 19.1%, in 2001 compared with 2000. Management increased the
provision in 2001 primarily as a prudent response to loan growth and the general
economic downturn experienced in 2001. The provision was also increased to
provide for certain loans that increased in risk of loss during 2001. Future
provisions will be based on information then available.
Noninterest Income
Paradigm's main source of noninterest income is service charges on
accounts, which are augmented by a variety of service fees, including ATM fees,
merchant and lockbox services, check cashing fees, collection and wire transfer
services and other fee services. Paradigm also realizes noninterest income from
occasional sales of loans, investment securities and fixed assets.
Noninterest income decreased $456,000, or 29.2%, to $1.1 million for
the quarter ended March 31, 2002 compared with the same period in 2001. In the
first quarter of 2002, Paradigm recognized charges to other noninterest income
of $84,000 to write down real estate acquired by foreclosure, based on
reassessments of the value of that group of assets. In addition, in the first
quarter of 2001, Paradigm realized gains on sales of securities of $378,000 as
interest rate declines resulted in appreciation in its portfolio of available
for sale securities, a decrease of $172,000 compared with $206,000 in gains on
sales of securities in the first quarter of 2002, and reported other noninterest
income of $110,000 related to cash value of life insurance and recapture of
deferred compensation expense realized on the departure of certain officers from
Dayton State Bank. Further, due mainly to a decrease in customer usage of check
overdraft privileges, service charges and fee income decreased $71,000 in the
quarter ended March 31, 2002 compared with the same period in 2001.
Noninterest income increased $1.2 million, or 32.2%, to $5.0 million
for the year ended December 31, 2001 compared with 2000. This increase was
mainly due to service charges on deposit accounts and other banking service
fees, plus gains on sales of securities. Customer service charges and other
service fees increased $633,000 and $96,000, respectively, in 2001 compared with
2000. Service charge and fee revenues increased due to growth in average
deposits in 2001, plus fee increases and increased customer activity. Paradigm
realized $450,000 in pre-tax gains on the sale of investment securities in 2001
due to appreciation in the investment portfolio that resulted from declining
interest rates. Paradigm realized a $105,000 gain on the sale of a cash flow
hedge in 2000. No other significant gains or losses on asset sales were realized
in 2001 or 2000.
The following table presents the major categories of noninterest income
for the periods indicated:
Three Months Ended Year Ended
March 31, December 31,
---------------------------- ---------------------------
2002 2001 2001 2000
------------ ------------ ------------ ------------
(Dollars in thousands)
Customer service charges ......................... $ 821 $ 906 $ 3,563 $ 2,930
Service fees ..................................... 159 145 666 570
Gain on sale of securities ....................... 206 378 450 105
Other noninterest income ......................... (82) 131 289 153
------------- ------------ ------------ ------------
Total noninterest income ................ $ 1,104 $ 1,560 $ 4,968 $ 3,758
============ ============ ============ ============
69
Noninterest Expense
Noninterest expenses include salaries and benefits, occupancy costs,
outside service fees, depreciation and amortization of fixed assets and
purchased goodwill, the minority expense for Paradigm obligated mandatorily
redeemable trust preferred securities of Paradigm's trust subsidiaries and other
operating expenses.
The following table shows the major elements of noninterest expense for
the periods indicated:
Three Months Ended Year Ended
March 31, December 31,
----------------------------- -----------------------
2002 2001 2001 2000
------------- ------------ ------------ --------
(Dollars in thousands)
Salaries and employee benefits .................................. $ 1,456 $ 1,467 $ 5,711 $ 5,035
Non-staff expenses:
Net occupancy expenses ..................................... 289 278 1,159 994
Outside service fees ....................................... 211 342 1,166 763
Depreciation and amortization of fixed assets .............. 268 247 1,097 695
Amortization of goodwill ................................... - 55 195 221
Minority interest expense, trust preferred securities ...... 101 139 539 532
Other noninterest expense .................................. 765 697 2,948 2,252
------------- ------------ ------------ ------------
Total noninterest expense ............................ $ 3,090 $ 3,225 $ 12,815 $ 10,492
============= ============ ============ ============
Total noninterest expenses decreased by $135,000, or 4.2%, for the
quarter ended March 31, 2002 compared with the same period in 2001. Non-staff
expenses decreased $124,000, or 7.1%, in the quarter ended March 31, 2002 versus
the same period in 2001. Outside service fees, which includes legal, accounting
and data processing fees, decreased $131,000 due mainly to bringing the majority
of Paradigm Bank's item processing activities in-house in the quarter ended
March 31, 2002. In accordance with Statement of Financial Accounting Standard
(SFAS) No. 142, Paradigm ceased amortizing its goodwill effective January 1,
2002. Other noninterest expenses grew $68,000 in the quarter ended March 31,
2002 compared with the same period in 2001, due mainly to higher internet
banking costs in conjunction with greater customer adoption, plus an increase in
other costs due to increases in activity volume.
Total noninterest expenses increased $2.3 million, or 22.1%, to $12.8
million for 2001 compared with 2000 mainly due to the increase in the number of
branches, establishment of Paradigm's bank operations center and consolidation
activities related to the December 2000 merger of the banks. Salaries and
benefits increased $676,000, or 13.4%, in 2001 compared with 2000. The increase
was due mainly to additional staffing associated with opening three new banking
centers in August and December 2000 and May 2001.
Non-staff expenses increased $1.6 million, or 30.2%, in 2001 versus
2000. Net occupancy costs were up $165,000 for 2001 versus 2000 due to opening
three new banking centers. Depreciation and amortization of fixed assets was
$402,000 higher for 2001 due to the new branches, the establishment of the bank
operations center, loan center and corporate office and data systems
improvements. Outside service fees increased $403,000 in 2001 due mainly to
higher item processing charges from the increased loan and deposit volume, plus
merger and conversion-related costs. Other noninterest expenses increased
$696,000 in 2001 compared with 2000, due mainly to higher printing costs,
telephone expense, postage and courier costs and a variety of other expense
increases associated with the new branches, name change, merger of the banks and
overall growth.
Amortization of goodwill was $195,000 for 2001. Effective January 1,
2002, in accordance with Statement of Financial Accounting Standards (SFAS) No.
142, Paradigm no longer amortizes goodwill, but instead reviews goodwill at
least annually, or as impairment indicators arise.
Income Taxes
The amount of income tax expense is determined by the amounts of
taxable income, tax-exempt income, nondeductible interest expense and other
nondeductible expenses. Income tax expense decreased $74,000 for the quarter
ended March 31, 2002 compared with the same period in 2001. Paradigm's effective
tax rate was 28.1% for the quarter ended March 31, 2002 versus 31.0% for the
same period in 2001. The lower tax expense and effective rate for the first
quarter 2002 was due to higher non-taxable interest income and lower income from
taxable sources.
Due to the lower taxable income in 2001, income tax expense decreased
$695,000 for the year ended December 31, 2001 compared with 2000. Paradigm's
effective tax rate was 23.4% for 2001 versus 31.8% for 2000.
70
The lower effective rate in 2001 is due to higher non-taxable interest income
and lower income from taxable sources.
Effects of Inflation
The effects of inflation on Paradigm's market areas and operating
results have been relatively modest for the past several years. Since
substantially all of our assets and liabilities are monetary in nature, such as
cash, securities, loans and deposits, their values are less sensitive to the
effects of inflation than to changing interest rates, which do not necessarily
change in accordance with inflation rates. Paradigm tries to manage the effect
of interest rate changes by managing the relationship between our interest rate
sensitive assets and liabilities.
Financial Condition
Cash, Cash Equivalents and Deposits in Financial Institutions
Cash and cash equivalents includes cash in vaults, due from other
financial institutions and federal funds sold. Cash and cash equivalents were
$19.9 million at March 31, 2002 compared with $21.3 million at December 31,
2001. Cash and cash equivalents were $21.3 million at December 31, 2001 compared
with $15.8 million at December 31, 2000, an increase of $5.5 million in 2001.
In the normal course of business, Paradigm maintains correspondent bank
accounts with various banks, which totaled $11.0 million at March 31, 2002 and
$10.0 million at December 31, 2001, including $10.0 million and $9.0 million,
respectively, with Frost Bank, its lead correspondent. Each correspondent bank
account is a demand account with normal bank correspondent services, including
sales and purchases of loan participations and federal funds. At March 31, 2002
and December 31, 2001, $4.3 million and $6.3 million, respectively, of cash
equivalents were in federal funds sold. Interest-earning deposits in financial
institutions were $5.3 million and $5.4 million at March 31, 2002 and December
31, 2001, respectively, including over $5.0 million with maturities of less than
one month.
Loan Portfolio
The loan portfolio is the largest category of Paradigm's earning
assets. As a community banking organization, Paradigm focuses on providing loans
to businesses, consumers and other entities in our market areas.
Total loans net of unearned income were $170.6 million at March 31,
2002, down $200,000 from December 31, 2001. At March 31, 2002, loans were 66.5%
of earning assets, compared with 65.9% at December 31, 2001.
Total loans net of unearned income were $170.8 million at December 31,
2001, up $37.3 million, or 27.9%, from $133.5 million at December 31, 2000.
Loans at December 31, 2001 comprised 68.1% of earning assets, compared with
72.2% at December 31, 2000. The loan growth in 2001 was mainly due to the
business development achieved by the banking center presidents and lending
officers at our three new banking centers and our existing banking centers. Loan
growth in 2000 was due to a combination of business expansion in existing
banking centers and growth related to our Copperfield banking center opened in
August 2000. Much of the loan growth from December 31, 1998 to 1999 was due to
the purchase of Dayton State Bank.
71
The following tables summarize the loan portfolio by type of loan at
the dates indicated:
March 31, December 31,
------------------------ ----------------------------------------------
2002 2001 2000
------------------------ ----------------------- -------------------
Amount Percent Amount Percent Amount Percent
------ ------- ------ ------- ------ -------
(Dollars in thousands)
Commercial and industrial ................ $ 36,532 21.41% $ 37,163 21.76% $ 32,205 24.11%
Real estate loans:
Construction and land development .... 16,301 9.56 15,263 8.94 13,014 9.75
1-4 family residential ............... 18,244 10.69 18,999 11.13 18,251 13.68
Home equity/junior liens ............. 1,535 0.90 1,537 0.90 1,640 1.23
Commercial mortgages ................. 57,778 33.88 56,319 32.98 31,540 23.63
Secured by farmland .................. 1,589 0.93 1,652 0.97 1,915 1.44
Multifamily residential .............. 1,588 0.93 1,696 0.99 2,543 1.91
Agricultural ............................. 5,490 3.22 5,933 3.47 6,124 4.59
Consumer, including installment .......... 32,163 18.85 32,963 19.31 27,535 20.63
Less unearned discounts/fees ............. (629) (0.37) (767) (0.45) (1,299) (0.97)
----------- --------- ----------- --------- -------- -------
Total loans ....................... $ 170,591 100.00% $ 170,758 100.00% $133,468 100.00%
=========== ========== =========== ========= ======== =======
December 31,
------------------------------------------------------------------------
1999 1998 1997
------------------------ ------------------------ -------------------
Amount Percent Amount Percent Amount Percent
------ ------- ------ ------- ------ -------
(Dollars in thousands)
Commercial and industrial ................ $ 31,798 28.58% $ 11,857 24.02% $ 7,591 20.00%
Real estate loans:
Construction and land development .... 10,365 9.32 1,958 3.97 2,323 6.12
1-4 family residential ............... 15,922 14.31 9,827 19.91 8,732 23.00
Home equity/junior liens ............. 627 0.56 531 1.08 462 1.22
Commercial mortgages ................. 23,143 20.80 13,137 26.61 9,427 24.84
Secured by farmland .................. 3,881 3.49 795 1.61 460 1.21
Multifamily residential .............. 1,703 1.53 543 1.10 487 1.28
Agricultural ............................. 7,270 6.53 258 0.52 418 1.10
Consumer, including installment .......... 17,939 16.14 10,937 22.14 8,422 22.19
Less unearned discounts/fees ............. (1,404) (1.26) (475) (0.96) (364) (0.96)
----------- --------- ----------- --------- -------- --------
Total loans ....................... $ 111,244 100.00% $ 49,368 100.00% $ 37,958 100.00%
=========== ========= =========== ========= ======== ========
Our lending focus is on commercial mortgages, small and medium-sized
business loans and consumer loans. Paradigm offers a variety of commercial
lending products including term loans and lines of credit. A broad range of
short to medium-term commercial loans, mainly collateralized, is made available
to businesses for working capital (including inventory and receivables),
business expansion (including acquisitions of real estate and improvements) and
the purchase of equipment and machinery. The purpose of a particular loan
generally determines its structure.
Loans from $150,000 to $500,000 are evaluated and acted upon by the credit
officer in conjunction with the division president or president of Paradigm
Bank. Loans above $500,000 must be approved by the Directors Loan Committee,
which meets weekly.
Generally, Paradigm makes commercial loans in its primary market area and
underwrites them on the basis of the borrower's ability to service such debt
from income. Paradigm usually takes a collateral lien on any available real
estate, equipment or other assets owned by the borrower and obtains a personal
guaranty of the borrower. Short-term assets usually collateralize working
capital loans whereas term loans are usually collateralized by long-term assets.
Paradigm makes commercial mortgage loans to finance the purchase of real
property that generally consists of real estate with completed structures.
Commercial mortgage loans are secured by first liens on real estate, typically
have variable interest rates and amortize over a 10 to 15 year period, with
maturities of 3 to 5 years. In underwriting commercial mortgage loans, Paradigm
considers the property's operating history, future operating projections,
current and projected occupancy, location and physical condition. The
underwriting analysis also includes credit verification, appraisals and a review
of the financial condition of the borrower.
A portion of our lending activity is the origination of one to four-family
residential mortgage loans collateralized by owner-occupied properties located
in our market areas. Paradigm offers a variety of mortgage loan products that
generally are amortized over 5 to 25 years, with maturities typically not
exceeding five years. Loans
72
collateralized by one to four-family residential real estate generally have been
originated in amounts of no more than 85% of appraised value or have mortgage
insurance. Paradigm requires mortgage title insurance and hazard insurance. All
loans in the one to four-family residential category were originated by us and
are typically on a balloon structure.
Paradigm makes loans to finance the construction of residential and
nonresidential properties. Construction loans generally are secured by first
liens on real estate and have floating interest rates. Paradigm conducts
periodic inspections, either directly or through an agent, prior to approval of
periodic draws on these loans. Underwriting guidelines similar to those
described above are also used in our construction lending activities. In keeping
with our community-oriented focus, Paradigm provides construction and permanent
financing for churches and public entities located in our market areas.
Consumer loans made by us include direct "A" credit automobile loans,
recreational vehicle loans, boat loans, home improvement loans, personal loans
(collateralized and uncollateralized) and deposit account collateralized loans.
The terms of these loans typically range from 12 to 120 months and vary based
upon the nature of collateral and size of loan.
The contractual maturity ranges of the loan portfolio (excluding $21.9
million in installment loans net of discount at March 31, 2002) and the amount
of such loans with predetermined interest rates and floating rates in each
maturity range as of March 31, 2002 are summarized in the following table:
After One After
One Year Through Total
or Less Five Years Five Years Total
------------- ------------- ------------- ------------
(Dollars in thousands)
Loans with a predetermined interest rate ............. $ 21,505 $ 37,368 $ 4,610 $ 63,483
Loans with a floating interest rate .................. 40,075 39,857 5,273 85,205
------------- ------------- ------------- ------------
Total loans ................................. $ 61,580 $ 77,225 $ 9,883 $ 148,688
============= ============= ============= ============
Paradigm has adopted Statement of Financial Accounting Standards (SFAS) No.
114, "Accounting by Creditors for Impairment of a Loan", as amended by SFAS No.
118, "Accounting by Creditors for Impairment of a Loan-Income Recognition and
Disclosures". Under SFAS No. 114, as amended, a loan is considered impaired
based on current information and events, if it is probable that Paradigm will be
unable to collect the scheduled payments of principal or interest when due
according to the contractual terms of the loan agreement. The fair value of
impaired loans is based on either the present value of expected future cash
flows discounted at the loan's effective interest rate or the loan's observable
market price or the fair value of the collateral if the loan is
collateral-dependent. The implementation of SFAS Nos. 114 and 118 did not have a
material adverse effect on our financial statements.
At March 31, 2002 and December 31, 2001, Paradigm had outstanding and
unfunded standby letters of credit, which are primarily cash secured, of about
$370,000 and $373,000, respectively. Paradigm also had unfunded loan commitments
at March 31, 2002 of $25.8 million, of which Paradigm considers about 33% likely
to be funded in 2002.
Paradigm accrues interest on its performing loans daily. Interest is
computed using the simple interest method, which recognizes that as principal
balances are reduced during the term of the loan, a smaller portion of each loan
payment represents interest earned on the balance. Paradigm often charges points
and fees on the origination of certain real estate and construction loans.
Paradigm complies with appropriate accounting principles for recognizing income
on fees and points.
Nonperforming Assets
Nonperforming assets include nonaccruing loans, loans past due 90 days or
more, and real estate acquired by foreclosure. Paradigm uses a number of
procedures to maintain the overall quality of our loan portfolio. Paradigm has
established underwriting guidelines for officers, and monitors delinquency
levels for any adverse trends. Paradigm also has a third party perform quarterly
loan reviews to help maintain asset quality.
For potential problem loans, the borrower's overall financial condition is
evaluated to determine the need for possible write-downs or additions to the
allowance for credit losses. Paradigm places a loan on nonaccrual status and
stops accruing interest income when, in the opinion of management, the
borrower's financial condition is such that collection of interest is doubtful.
This assessment is based on criteria such as payments past due or defaulted,
73
asset deterioration, decline in cash flow, operating losses, declining sales,
bankruptcy or other financial indicators. Paradigm usually places a loan on
non-accrual status and stops accruing interest when the payment of principal or
interest is delinquent for 90 days, or earlier in some cases, unless the loan is
in the process of collection and the underlying collateral fully supports the
carrying value of the loan. At March 31, 2002, nonperforming assets were $1.5
million, up from $1.4 million at December 31, 2001.
Paradigm records real estate acquired by foreclosure at the lesser of the
outstanding loan balance or the fair value of the real estate at the time of
foreclosure, less estimated costs to sell. Paradigm requires appraisals on loans
secured by real estate.
The following table presents information regarding nonperforming assets at
the dates indicated:
December 31,
March 31, ------------------------------------------------------------
2002 2001 2000 1999 1998 1997
---------- ---------- ---------- ----------- ---------- ----------
(Dollars in thousands)
Nonaccruing loans .......................... $ 1,110 $ 1,111 $ 1,216 $ 473 $ 113 $ 261
Accruing loans 90 days or more past
due ........................................ 76 23 84 52 - -
Real estate acquired by foreclosure ........ 333 266 450 542 233 769
---------- ---------- ---------- ----------- ---------- ----------
Total nonperforming assets ............. $ 1,519 $ 1,400 $ 1,750 $ 1,067 $ 346 $ 1,030
========== ========== ========== =========== ========== ==========
Nonperforming assets to total loans
and real estate acquired by
foreclosure ............................ 0.89% 0.82% 1.31% 0.95% 0.70% 2.60%
Allowance for Credit Losses
The allowance for credit losses is a reserve established through charges to
earnings in the form of a provision for credit losses. Management has
established an allowance for credit losses that it believes is adequate for
estimated losses in the loan portfolio. Based on an evaluation of the loan
portfolio, management presents a monthly review of the allowance for credit
losses to the bank's board of directors, indicating any change in the allowance
since the last review and any recommendations for adjustments in the allowance.
In evaluating the adequacy of the allowance for credit losses, management
considers the diversification by industry of the commercial loan portfolio, the
effect of changes in the local real estate market on collateral values, the
results of recent regulatory examinations, the effects on the loan portfolio of
current economic indicators and their probable impact on borrowers, the amount
of charge-offs for the period, the amount of nonperforming loans and related
collateral security, and the evaluation of the loan portfolio by the internal
loan review process. Charge-offs are made when loans are deemed to be
uncollectible.
Paradigm follows a loan review program incorporating both internal and
external reviews to evaluate the credit risk in the loan portfolio. Under the
loan review process, Paradigm maintains an internally classified loan list that,
along with the delinquency loan list, helps management assess the overall
quality of the loan portfolio and the adequacy of the allowance for credit
losses. Loans classified as substandard have clear and defined weaknesses such
as highly leveraged position, unfavorable financial ratios, uncertain repayment
sources or poor financial condition, which may jeopardize recoverability of the
debt. Loans classified as doubtful have characteristics similar to substandard
loans but with an increased risk that a loss may occur or a portion of the loan
may require a charge-off if liquidated currently. Loans classified as loss are
in the process of being charged off.
Paradigm also maintains a watch list of loans that have one or more
deficiencies that require attention in the short term, or that have pertinent
financial ratios that have weakened such that more frequent monitoring is
warranted. These loans do not have all of the characteristics of a loan
classified as substandard or doubtful, but do show weakened elements compared to
a satisfactory credit. Paradigm monitors these loans to assist in assessing the
adequacy of the allowance for credit losses.
To determine the adequacy of the allowance for credit losses, management
considers the risk classification (based on grade) or delinquency status of
loans and other factors, such as collateral value, portfolio composition,
economic trends and the financial strength of borrowers. Paradigm establishes
specific allowances for loans that Paradigm believes require reserves greater
than those allocated according to their classification or delinquent status.
Paradigm then charges to operations a provision for credit losses to maintain
the allowance at an adequate level determined by the foregoing methodology.
74
Paradigm incorporates and analyzes the following factors in establishing
the amount in its allowance for credit losses. A loan grade, which is assigned
to each loan, is based on an analysis of the following general credit criteria:
. character (borrower, principals, guarantors, customers, commitments
kept);
. conditions (business, economic, industry, political);
. management (quality, experience, succession, knowledge, reputation,
planning);
. accounting and control systems (confidence, inventory, quality,
records, audits);
. financial condition (leverage, trends, history, agency reports, prior
payment experience, compensating balances);
. repayment ability (cash flow, capital replacement needs,
predictability, reliability, access to outside capital);
. structure (appropriate type and maturity - term or revolving, loan
agreements, borrowing base reports, controls, monitoring ease,
amortization period, clean-up); and
. collateral (type, control, lien perfection, location, liquidity,
marketability, valuation, insurance).
It is Paradigm Bank's policy to diversify credit risk and to make credit
available to a broad segment of Paradigm Bank's target market. Accordingly,
Paradigm tries to avoid excessive credit extensions to any one borrower or
related groups of borrowers. Additionally, Paradigm Bank is subject to certain
statutory legal lending limits.
Through the loan review process, Paradigm assigns one of the following loan
grades to each loan:
Grade 1 loans are those loans that expose Paradigm Bank to the least
possible credit risk. This grade is associated with individuals or companies
with unquestioned financial strength and substantial and reliable excess cash
flows for debt service. It is also associated with loans that are secured by
appropriately margined liquid collateral.
Grade 2 loans represent excellent credit risk but are somewhat below a
Grade 1 credit.
Grade 3 loans represent reasonable and satisfactory credit risk for
Paradigm Bank. Generally these loans will carry additional credit risk compared
to Grades 1 and 2 due to the financial strength of the borrower, type of
collateral pledged, lower but acceptable levels of liquidity, and higher
leverage.
Grade 4 loans include real estate secured loans within Loan Policy
underwriting guidelines, which do not meet qualifications for Grade 3 and
borrowers with acceptable liquidity, cash flow and net worth but not significant
enough to qualify for Grade 3. This grade includes most commercial loans secured
by accounts receivable, inventory, machinery, equipment, furniture, and
fixtures, and most real estate construction loans.
Grade 5 (includes Pass-Watch loans) are those loans that appear to have
been prudently underwritten and are generally performing, but the lending
officer is concerned that a negative trend or bias may be developing.
Loans in the Pass-Watch grade category will also include all loans better
than Grade 6 that are more than thirty (30) days past due (principal or
interest), including all installment loans that are two (2) or more payments
past due, and loans with significant credit and/or collateral exceptions that
have remained uncorrected for more than 60 days.
Grade 6 loans are currently protected, but potentially weak credits. The
deficiencies, if not checked and corrected, may weaken the loan or inadequately
protect the bank's position at some future date. Grade 6 loans are believed to
be potential problems that warrant more than the usual management attention, but
don't quite justify a classification of substandard. The risk may be relatively
minor, yet is unwarranted in light of the circumstances surrounding the credit.
75
Grade 7, or substandard loans, involve more than a normal degree of risk
and are inadequately protected by the solid worth and paying ability of the
borrower. They represent unacceptable risk to Paradigm Bank. The credits may be
performing or not, but the weaknesses in the credit may have placed the agreed
upon repayment program in jeopardy. Restructuring of the loan may be necessary
since the borrower is unable to meet originally agreed upon loan terms.
Additional collateral is often required. Although there may be no identifiable
loss in this type of loan, usually due to excess collateral coverage, the loan
is not expected to liquidate according to its terms and collateral liquidation
or other secondary or tertiary repayment sources, including guarantors, will
likely be utilized. The probability of relying on legal remedies is high. If
SFAS 114 or other analysis suggests the loan is impaired, a portion of the
allowance for credit losses may be specifically allocated to the credit.
Grade 8 loans are doubtful. Grade 8 loans have all the weaknesses of a
substandard loan, but on the basis of currently existing information, collection
in full is unlikely. The probability of some loss is extremely high, but because
of important and reasonably specific pending factors that may work toward
strengthening the loan, loss classification is deferred until a more exact
status may be determined. Pending factors may include a proposed merger,
acquisition, or liquidation, capital injection, additional collateral, or
outside refinancing. The pending factors should be verifiable and likely to be
completed in a reasonably short period. All loans in Grade 8 are on nonaccrual
status.
Grade 9 represents loss loans that are considered uncollectible or of such
little value that their continuance as active assets of the bank is not
warranted. This classification does not mean that the loan has no recovery or
salvage value, but rather that it is not practical or desirable to defer writing
it off as an asset.
All loans assigned a grade of 5 through 9 are placed on the Watch List. The
Watch List is provided to the Directors' Loan Committee monthly.
In connection with the acquisition of Dayton State Bank, about $524,000 of
the purchase price was escrowed as a reserve for the performance of 29 specified
loans. A specific amount of the aggregate reserve was allocated to each loan.
This reserve was held in escrow in an account at the bank. Pursuant to the
escrow agreement, semiannual disbursements of the reserve were made to the
former shareholders of Dayton State Bank only if a specific loan was paid-off or
it was deemed satisfactory by Paradigm. At December 31, 2001, the remaining
escrow balance was $468,000.
The escrow period was completed in December 2001. In early 2002, escrowed
funds totaling $212,000 and due to the former Dayton State Bank shareholders
were paid or allocated to them. The remainder of $256,000 was paid into Paradigm
Bank's loan loss reserve as stipulated in the escrow agreement. Of this
$256,000, $91,000 was allocated to specific loans which had already been charged
off, and was therefore recorded as recoveries among the various categories in
the first quarter of 2002. The remaining $165,000 was recorded as a special
contribution to the reserve in the first quarter of 2002.
For the quarter ended March 31, 2002, net recoveries were $73,000,
primarily due to the $91,000 in recoveries recorded from the escrow
contribution. At March 31, 2002, the allowance for credit losses was 1.13% of
total loans, up from 0.92% at December 31, 2001. This increase was mainly due to
the special contribution from the escrow funds from the Dayton State Bank
purchase.
For 2001, net charge-offs totaled $576,000, or 0.40% of average loans
outstanding for the period, compared with charge-offs of $245,000, or 0.20% of
average loans outstanding for 2000. The increase in net charge-offs was due
primarily to the charge-off of $327,000 on one loan. During 2001, Paradigm
recorded a provision for credit losses of $1.0 million compared with $701,000 in
2000. At December 31, 2001, the allowance for credit losses totaled $1.6
million, or 0.92% of total loans, compared with $1.1 million, or 0.85% of total
loans, at December 31, 2000.
The increase in average loans and the related provision, charge offs and
recoveries, and allowance for credit losses from 1999 to 2000 was due mainly to
the purchase of Dayton State Bank in December 1999.
76
The following table presents, for the periods indicated, an analysis of
the allowance for credit losses and other related data as of the dates
indicated:
March 31, December 31,
-----------------------------------------------------------------
2002 2001 2000 1999 1998 1997
----------- ----------- ---------- ---------- ---------- ----------
(Dollars in thousands)
Average loans outstanding ...................... $ 168,959 $ 145,591 $ 122,228 $ 62,483 $ 43,411 $ 29,625
========= ========= ========= ========= ========= =========
Total loans outstanding at the end of the
period ..................................... $ 170,591 $ 170,758 $ 133,468 $ 111,244 $ 49,368 $ 37,958
========= ========= ========= ========= ========= =========
Allowance for credit losses at the
beginning of the period .................... $ 1,570 $ 1,136 $ 680 $ 113 $ 165 $ 150
Provision for credit losses during the
period ..................................... 121 1,010 701 309 76 40
Special provision from purchase escrow ......... 165
Balance of allowance for credit losses
acquired in purchase of:
First National Bank of Dayton ............... -- -- -- -- 78 --
Dayton State Bank ........................... -- -- -- 363 -- --
Chargeoffs:
Commercial and industrial ................... (29) (684) (173) (22) (198) (1)
Real estate and agricultural ................ -- (27) (1) (48) -- --
Consumer .................................... (54) (224) (195) (91) (25) (30)
All other loans ............................. (2) --
Recoveries:
Commercial and industrial ................... 92 253 41 3 14 3
Real estate and agricultural ................ 60 32 2 48 -- --
Consumer .................................... 6 74 81 5 3 3
--------- --------- --------- --------- --------- ---------
Net recoveries or (chargeoffs) .............. 73 (576) (245) (105) (206) (25)
--------- --------- --------- --------- --------- ---------
Allowance for credit losses at the
end of the period ....................... $ 1,929 $ 1,570 $ 1,136 $ 680 $ 113 $ 165
========= ========= ========= ========= ========= =========
Ratio of allowance to end of period loans ...... 1.13% 0.92% 0.85% 0.61% 0.23% 0.43%
Ratio of net (recoveries) chargeoffs to
average loans for the period ................ (0.04%) 0.40% 0.20% 0.17% 0.48% 0.08%
Ratio of allowance to end of period
nonperforming loans ......................... 126.99% 112.14% 64.91% 129.33% 100.00% 63.22%
The following tables show the allocation of the allowance for credit
losses among various categories of loans and certain other information at the
dates indicated. The allocation is made for analytical purposes and is not
necessarily indicative of the categories in which future losses may occur. The
total allowance is available to absorb losses from any category of loans.
At March 31, 2002 At December 31, 2001 At December 31, 2000
-------------------------- ------------------------- -----------------------
Percent of Percent of Percent of
Loans to Loans to Loans to
Amount Total Loans Amount Total Loans Amount Total Loans
------ ----------- ------ ----------- ------ -----------
(Dollars in thousands)
Commercial and industrial .......... $ 409 21.4% $ 465 21.7% $ 13 24.0%
Real estate ........................ 728 56.9 382 55.9 192 51.6
Agriculture ........................ 55 3.2 74 3.5 100 4.6
Consumer ........................... 530 18.5 494 18.9 43 19.7
Unallocated ........................ 207 - 155 - 788 -
----------- ---------- ----------- ---------- ----------- ---------
Total allowance for credit losses $ 1,929 100.0% $ 1,570 100.0% $ 1,136 100.0%
=========== ========== =========== ========== =========== =========
At December 31, 1999 At December 31, 1998 At December 31, 1997
-------------------------- ------------------------- -----------------------
Percent of Percent of Percent of
Loans to Loans to Loans to
Amount Total Loans Amount Total Loans Amount Total Loans
------ ----------- ------ ----------- ------ -----------
(Dollars in thousands)
Commercial and industrial .......... $ 40 28.6% $ 2 24.0% $ 6 20.0%
Real estate ........................ 51 50.0 29 54.3 17 57.7
Agriculture ........................ 42 6.5 - 0.5 - 1.1
Consumer ........................... 67 14.9 13 21.2 11 21.2
Unallocated ........................ 480 - 69 - 131 -
----------- ---------- ----------- ---------- ----------- ---------
Total allowance for credit losses $ 680 100.0% $ 113 100.0% $ 165 100.0%
=========== ========== =========== ========== =========== =========
77
When management can identify specific loans or groups of loans requiring
specific amounts of reserve, portions of the allowance for credit losses are
specifically allocated to those loans. Federal and state bank regulators also
require that a bank maintain an allowance for credit losses that is sufficient
to absorb an estimated amount of unidentified potential losses based on
management's perception of economic conditions, loan portfolio growth,
historical charge-off experience, exposure concentrations, the results of
regulatory examinations, evaluations by independent loan review contractors, the
review by Paradigm's independent auditors and other factors. Not all of the
amounts shown in the table above as applicable to specific categories of loans
are allocated to specific loans; but rather they reflect management's evaluation
of the relative risks inherent in the loan categories indicated based on the
above factors. Management believes that maintaining unallocated reserves is
prudent and consistent with regulatory requirements. Management believes that
the allowance for credit losses at March 31, 2002 is adequate to cover losses
inherent in the portfolio at that date. There can be no assurance, however, that
Paradigm will not sustain losses in future periods that could be substantial in
relation to the allowance at March 31, 2002.
Investment Portfolio
Paradigm has adopted SFAS No. 115, "Accounting for Certain Investments in
Debt and Equity Securities." At the date of purchase, Paradigm is required to
classify each debt or equity security into one of three categories: held to
maturity (HTM), trading, or available for sale (AFS). Securities are classified
as HTM and measured at amortized cost in the financial statements only if
management has the positive intent and ability to hold them to maturity.
Securities bought mainly to sell in the near term are classified as trading and
measured at fair value in the financial statements, with unrealized gains and
losses included in earnings. Investments not classified as either HTM or trading
are classified as AFS and measured at fair value in the financial statements,
with unrealized gains and losses reported, net of tax, as a separate component
of other comprehensive income in shareholders' equity until realized.
The following table summarizes the carrying value and classification of
securities as of the dates shown:
December 31,
March 31, ----------------------------------------
2002 2001 2000 1999
---------- ---------- ---------- ----------
(Dollars in thousands)
Available for sale ......................... $ 29,552 $ 34,620 $ 27,767 $ 29,846
Held to maturity ........................... 13,753 9,032 18,983 21,445
---------- ---------- ---------- ----------
Total securities ........................ $ 43,305 $ 43,652 $ 46,750 $ 51,291
========== ========== ========== ==========
The following tables summarize the amortized cost of securities classified
as available for sale and their approximate fair values as of the dates shown:
March 31, 2002 December 31, 2001
---------------------------------------------- ----------------------------------------------
Gross Gross Gross Gross
Amortized Unrealized Unrealized Fair Amortized Unrealized Unrealized Fair
Cost Gains Losses Value Cost Gains Losses Value
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
(Dollars in thousands)
U.S. government & agency
securities ................. $ 3,039 $ 13 $ (14) $ 3,038 $ 3,543 $ 25 $ (7) $ 3,561
Mortgage-backed securities .... 14,870 - (159) 14,711 19,292 28 (79) 19,241
Obligations of state and
political subdivisions ..... 8,106 295 - 8,401 8,107 293 - 8,400
Other securities .............. 3,442 - (40) 3,402 3,448 1 (31) 3,418
---------- ---------- --------- ---------- ---------- ---------- --------- ----------
Total ...................... $ 29,457 $ 308 $ (213) $ 29,552 $ 34,390 $ 347 $ (117) $ 34,620
========== ========== ========= ========== ========== ========== ========= ==========
78
December 31, 2000 December 31, 1999
--------------------------------------------- -----------------------------------------------
Gross Gross Gross Gross
Amortized Unrealized Unrealized Fair Amortized Unrealized Unrealized Fair
Cost Gains Losses Value Cost Gains Losses Value
--------- ---------- ---------- ------- ----------- ------------ ------------ --------
(Dollars in thousands)
U.S. government & agency
securities .................... $ 3,244 $ 52 $ - $ 3,296 $ 3,732 $ - $ (31) $ 3,701
Mortgage-backed securities ....... 15,830 269 (2) 16,097 18,107 - (234) 17,873
Obligations of state and
political subdivisions ...... 8,255 119 - 8,374 8,263 - (40) 8,223
Other securities ................. - - - - 49 - - 49
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Total ....................... $ 27,329 $ 440 $ (2) $ 27,767 $ 30,151 $ - $ (305) $ 29,846
========== ========== ========== ========== ========== ========== ========== =========
The following tables summarize the amortized cost of securities
classified as held to maturity and their approximate fair values as of the dates
shown:
March 31, 2002 December 31, 2001
--------------------------------------------- -----------------------------------------------
Gross Gross Gross Gross
Amortized Unrealized Unrealized Fair Amortized Unrealized Unrealized Fair
Cost Gains Losses Value Cost Gains Losses Value
--------- ---------- ---------- ------- ----------- ------------ ------------ --------
(Dollars in thousands)
U.S. government & agency
securities ..................... $ 3,014 $ - $ (25) $ 2,989 $ 1,000 $ - $ (2) $ 998
Mortgage-backed securities ........ 8,760 12 (98) 8,674 6,046 - (83) 5,963
Obligations of state and
political subdivisions ....... 1,979 50 - 2,029 1,986 49 - 2,035
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Total ........................ $ 13,753 $ 62 $ (123) $ 13,692 $ 9,032 $ 49 $ (85) $ 8,996
========== ========== ========== ========== ========== ========== ========== ==========
December 31, 2000 December 31, 1999
--------------------------------------------- -----------------------------------------------
Gross Gross Gross Gross
Amortized Unrealized Unrealized Fair Amortized Unrealized Unrealized Fair
Cost Gains Losses Value Cost Gains Losses Value
--------- ---------- ---------- ------- ----------- ------------ ------------ --------
(Dollars in thousands)
U.S. government & agency
securities ..................... $ 16,000 $ - $ (168) $ 15,832 $ 17,796 $ 3 $ (462) $ 17,337
Mortgage-backed securities ........ 59 - (1) 58 - - - -
Obligations of state and
political subdivisions ....... 2,924 7 (5) 2,926 3,649 - (25) 3,624
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Total ........................ $ 18,983 $ 7 $ (174) $ 18,816 $ 21,445 $ 3 $ (487) $ 20,961
========== ========== ========== ========== ========== ========== ========== ==========
Paradigm uses its securities portfolio as a source of income and
liquidity, to manage interest rate risk and to provide collateral for municipal
pledging requirements. The portfolio is typically invested in low risk assets,
usually securities rated AA or higher or backed by the United States government.
Investments are managed by Paradigm Bank's Asset and Liability Committee based
on policies set by Paradigm Bank's board of directors.
At March 31, 2002, investment securities totaled $43.3 million, down from
$43.7 million at December 31, 2001. During the first quarter of 2002, Paradigm
sold some of its investments to realize profits in the available for sale
portfolio that had accrued due to the interest rate decreases in 2001.
Securities were 16.9% of total assets at both March 31, 2002 and December 31,
2001.
At December 31, 2001, investment securities totaled $43.7 million, down
from $46.8 million at December 31, 2000. Due to interest rate decreases, most of
our investments in callable securities were called in 2001. Paradigm also sold
some of our investments to realize profits in the available for sale portfolio
that had accrued due to the interest rate decreases in 2001. Securities were
16.8% and 21.7% of total assets at December 31, 2001 and 2000, respectively. The
average yield on securities for 2001 was 5.63%, compared with 6.07% for 2000.
79
The following table shows the maturity schedule of investments in
securities by category:
As of March 31, 2002
----------------------------------------------------------------------
Within Over One Over Five Over
One Year to Five Years to 10 Years 10 Years Totals
----------- ------------- ----------- ------------ ----------
(Dollars in thousands)
U.S. government agencies ........................... $ - $ 3,000 $ 3,052 $ - $ 6,052
Mortgage-backed securities ......................... - 985 2,810 19,676 23,471
Obligations of states and political subdivisions ... 158 5,672 4,550 - 10,380
Other securities ................................... - 3,402 - - 3,402
----------- ------------- ----------- ------------ ----------
Total securities .............................. $ 158 $ 13,059 $ 10,412 $ 19,676 $ 43,305
=========== ============= =========== ============ ==========
Yields by maturity at end of period ................ 6.45% 5.84% 6.14% 5.03% 5.55%
Mortgage-backed securities are pools of real estate mortgages and are
mainly issued by federal agencies such as the Federal National Mortgage
Association and Federal Home Loan Mortgage Corporation. They are deemed to have
high credit ratings, and the minimum regular monthly cash flows of principal and
interest are guaranteed by the issuing agencies. Contractual maturity of
mortgage-backed securities is not a reliable indicator of their expected life
because borrowers have the right to prepay their obligations at any time.
At December 31, 2001, 88% of the mortgage-backed securities Paradigm
held had contractual final maturities of more than 10 years. However, unlike
U.S. Treasury and U.S. government agency securities, which have a lump sum
payment at maturity, mortgage-backed securities provide cash flows from regular
principal and interest payments and principal prepayments throughout the lives
of the securities. Mortgage-backed securities bought at a premium will generally
suffer decreasing net yields as interest rates drop because homeowners tend to
refinance their mortgages, thus shortening the premium amortization period.
Mortgage-backed securities bought at a discount will generally provide higher
yields in a decreasing rate environment. As interest rates rise, the opposite
will generally be true. During a period of increasing interest rates, fixed rate
mortgage-backed securities do not tend to experience heavy prepayments of
principal, and consequently, the average life of this security will not be
unduly shortened. If interest rates fall, prepayments will increase.
Deposits
Paradigm relies mainly on its deposits to fund its lending and
investing activities. Deposits also generate service charges and lead to other
fee income. Paradigm offers a variety of deposit accounts with a wide range of
interest rates and terms that are competitive in our market area. Our deposit
liabilities include demand, savings, money market and certificates of deposit.
Paradigm relies mainly on strong customer relationships and service and
competitive pricing to attract and retain these deposits. Paradigm does not have
or accept any brokered deposits.
Total deposits at March 31, 2002 were $230.3 million, down about $2.1
million from December 31, 2001. Total deposits at December 31, 2001 were $232.4
million compared with $188.0 million at December 31, 2000, an increase of $44.4
million, or 23.6%. The increase in deposits in 2001 was due to the development
of our three new branches, growth at existing branches and an economic trend
that fed deposit growth in banks as investors sought security from riskier
deposit and investment options. Noninterest-bearing deposits were 36.1% of total
deposits at year-end 2001 compared with 37.1% of total deposits for 2000.
The increase in average deposits from 1999 to 2000 was due mainly to
the purchase of Dayton State Bank in December 1999.
80
The following table presents for the periods indicated the daily
average balances of deposits and average rates paid:
Three Months Ended Years Ended December 31,
-----------------------------------------
March 31, 2002 2001 2000 1999
------------------ ------------------ ------------------ -----------------
Amount Rate Amount Rate Amount Rate Amount Rate
--------- ------ --------- ------- --------- ------- --------- ------
(Dollars in thousands)
Regular savings ...................... $ 16,052 1.82% $ 14,687 2.25% $ 15,000 2.71% $ 8,243 1.97%
NOW accounts ......................... 17,089 1.12 15,236 1.37 15,763 2.65 7,380 1.04
Money market checking ................ 42,018 2.10 32,231 3.29 25,872 3.48 17,730 3.53
Time deposits less than $100,000 ..... 40,577 3.58 43,506 5.15 40,388 5.48 17,586 5.13
Time deposits $100,000 and over ...... 29,641 3.67 27,257 5.57 19,038 5.60 16,774 4.94
--------- --------- --------- ---------
Total interest-bearing deposits .. 145,377 132,917 116,061 67,723
Non interest-bearing deposits ........ 81,410 77,361 68,973 37,685
--------- --------- --------- ---------
Total deposits ................... $ 226,787 $ 210,278 $ 185,034 $ 105,408
========= ========= ========= =========
The following table sets forth the amount of certificates of deposit
that were $100,000 or greater by time remaining until maturity as of March 31,
2002:
March 31,
2002
-----------
(Dollars in
thousands)
Three months or less ................................. $ 8,599
Over three through six months ........................ 14,561
Over six through 12 months ........................... 5,010
Over 12 months ....................................... 1,072
---------
$ 29,242
=========
Other Borrowings
Deposits are the main source of funds for Paradigm's lending and
investing activities. Occasionally, Paradigm may obtain additional funds from
correspondent banks, the Federal Home Loan Bank, or the purchase of federal
funds. At March 31, 2002 and December 31, 2001, Paradigm had no funds borrowed
from any of those sources. In 2001, Paradigm entered into an agreement with
another commercial bank to borrow up to $500,000 under a revolving line of
credit. At March 31, 2002 and at December 31, 2001, Paradigm had no borrowings
under this line.
Trust Preferred Securities
During the first quarter of 2001, Paradigm formed a new, wholly-owned
Delaware statutory business trust, Paradigm Capital Trust II (Trust II), which
issued $6.0 million of floating rate preferred securities and $186,000 of common
stock. Paradigm purchased the common stock, and third party investors purchased
the preferred securities. Trust II invested the proceeds in $6,186,000 of
Paradigm's floating rate junior subordinated debentures due February 20, 2031
(debentures). These debentures, which are the only assets of the trust, are
subordinate and junior in right of payment to all present and future senior
indebtedness (as defined in the Indenture dated February 20, 2001) of Paradigm.
Paradigm has fully and unconditionally guaranteed the trust's obligations under
the preferred securities.
For financial reporting purposes, Trust II is treated as a subsidiary
of Paradigm and consolidated in the corporate financial statements. The
preferred securities are eligible to be treated as Tier 1 capital by the Federal
Reserve Board, within certain constraints. The treatment of the preferred
securities as Tier 1 capital and the deductibility of interest on the debentures
for federal income tax purposes made this an attractive way to raise capital.
Paradigm received proceeds of $6.0 million, of which $5.2 million was used to
redeem all of Paradigm's outstanding 10.375% subordinated debentures, including
accrued interest of $77,000, and the remainder was used to pay expenses
associated with the offering and for general corporate purposes.
The debentures accrue interest at a floating rate that adjusts
quarterly based on the 90-day LIBOR rate. The quarterly distributions on the
trust preferred securities are paid at the same rate that interest is paid on
the debentures. For the quarter ended December 31, 2001, the rate on the
debentures was 7.65%. For the quarter ending March 31, 2002, the rate was 6.37%,
a decrease of $16,000 compared with the quarter ended December 31, 2001. For the
year ended December 31, 2001, the effective interest rate on the debentures,
including amortization of issuance costs, was 8.99%.
81
Liquidity
Cash and cash equivalents decreased $1.4 million in the quarter ended
March 31, 2002 compared with an increase of $15.7 million for the same period in
2001.
Paradigm generated cash from operations of $363,000 in the first
quarter of 2002 compared with $910,000 in the first quarter of 2001. The
decrease was due mainly to the timing of payments of accrued interest receivable
and payable.
Paradigm realized cash from investing activities of $797,000 in the
first quarter of 2002 compared with $10.1 million in the first quarter of 2001.
Paradigm invested $81,000 of cash in fixed assets in 2002, as it was not
building or remodeling any new banking centers. Paradigm spent $631,000 on fixed
assets in the first quarter of 2001, mainly to complete its Gladebrook banking
center, which opened in December 2000, and to begin work on its Galveston
banking center, which opened in May 2001.
Financing activities used $2.6 million in the quarter ended March 31,
2002 compared with providing $4.7 million for the same period in 2001. Deposits
decreased $2.1 million in the first quarter of 2002. Deposits had increased $5.3
million in the first quarter of 2001, due to growth in Paradigm's new and
existing banking centers, combined with a general trend for deposit growth at
banks as depositors sought security from more volatile investment options.
Cash and cash equivalents increased $5.6 million in 2001 compared with
a decrease of $10.8 million in 2000.
Paradigm generated cash from operations of $2.7 million in 2001
compared with $3.6 million in 2000. The decrease was due mainly to $1.1 million
less net income in 2001.
Paradigm used $40.2 million of cash for investing activities in 2001
compared with $15.8 million in 2000. In 2001, loan growth consumed $37.9 million
and the net increase in securities and interest-bearing deposits used $494,000.
In 2000, loan growth used $22.5 million and investments in securities and
interest-bearing deposits provided $8.9 million. Paradigm invested about $1.8
million of cash in fixed assets in 2001, including completion of its Gladebrook
banking center and corporate offices, its Galveston banking center and
improvement of its computer systems. Paradigm spent $2.1 million on fixed assets
in 2000, including the development of its Copperfield and Gladebrook banking
centers and expansion of its item and data processing systems.
Financing activities provided $43.1 million in 2001 versus $1.4 million
in 2000. Increased deposits provided $44.3 million in 2001 compared with $6.0
million in 2000. The deposit growth in 2001 was due mainly to growth in
Paradigm's new and existing banking centers, combined with a general trend for
deposit growth at banks as depositors sought security from more volatile
investment options.
Paradigm maintains liquidity in the form of readily marketable
investment securities (i.e., U.S. Treasury bills), demand deposits and
short-term time deposits with commercial banks, vault cash and federal funds
sold. While the minimum liquidity requirement for banks is determined by federal
bank regulatory agencies as a percentage of deposit liabilities, Paradigm's
management monitors liquidity requirements as warranted by interest rate trends,
changes in the economy and the scheduled maturity and interest rate sensitivity
of the investment and loan portfolios and deposit liabilities. Paradigm also has
correspondent relationships with other banks in order to sell loans or purchase
overnight funds should additional liquidity be needed. Paradigm is a shareholder
of the Federal Home Loan Bank, which enables it to borrow for an extended
period. Paradigm believes its present position is adequate to meet its liquidity
needs in the near future.
Interest Rate Sensitivity
Paradigm's Asset, Liability and Funds Management Policy provides
management guidelines for effective funds management, and Paradigm uses a
measurement system for monitoring our net interest rate sensitivity position.
Paradigm manages our sensitivity position within established guidelines.
Interest rate risk is managed by the Asset and Liability Committee (ALCO)
composed of senior officers and directors in accordance with policies approved
by the board of directors of Paradigm Bank.
The ALCO formulates strategies based on appropriate levels of interest
risk. To determine the appropriate level of interest rate risk, the ALCO
considers the effect on earnings and capital of potential changes in interest
82
rates, economic conditions, liquidity, business strategies and other factors.
The ALCO meets regularly to review, among other things, the sensitivity of
assets and liabilities to interest rate changes, the book and market values of
assets and liabilities, unrealized gains and losses, purchase and sale
activities, loan commitments, the maturities of investments and borrowing. The
ALCO also reviews liquidity, cash flow flexibility, maturities of deposits and
consumer and commercial deposit activity. Management uses two methods to manage
interest rate risk: (i) an analysis of relationships between interest-earning
assets and interest-bearing liabilities, and (ii) an interest rate shock
simulation model.
An interest rate sensitive asset or liability is one that, within a
defined time period, either matures or experiences an interest rate change in
line with general market interest rates. Interest rate risk is managed by
analyzing the maturity and repricing relationships between interest-earning
assets and interest-bearing liabilities at specific dates (GAP analysis) and by
analyzing the effects of interest rate changes on net interest income over
specific periods by projecting the performance of the mix of assets and
liabilities in varied interest rate environments. Interest rate sensitivity
reflects the potential effect on net interest income of a change in interest
rates. A company is asset sensitive, or has a positive GAP, when the amount of
its interest-earning assets maturing or repricing within that time period
exceeds the amount of its interest-bearing liabilities also maturing or
repricing within that period. Conversely, a company is liability sensitive, or
has a negative GAP, when the amount of its interest-earning liabilities maturing
or repricing in the specified period exceeds the amount of its interest-earning
assets maturing or repricing in that period. In a period of rising interest
rates, a negative GAP tends to lower net interest income, while a positive GAP
would tend to increase interest income. In a period of falling interest rates, a
negative GAP tends to increase net interest income, while a positive GAP tends
to decrease interest income.
The following table shows Paradigm's interest rate sensitivity analysis
at March 31, 2002:
Term to Repricing
-----------------------------------------------------
0-30 31-180 181-360 After
days days days 1 year Total
--------- --------- --------- --------- ---------
(Dollars in thousands)
Interest earning assets:
Loans (excluding non-accruing) .................. $ 88,274 $ 13,515 $ 14,234 $ 53,458 $ 169,481
Investment securities ........................... 2,531 2,929 4,988 32,857 43,305
Other earning assets ............................ 9,284 314 - - 9,598
--------- --------- --------- --------- ---------
Total interest earning assets ................ $ 100,089 $ 16,758 $ 19,222 $ 86,315 $ 222,384
========= ========= ========= ========= =========
Interest-bearing liabilities:
Certificates of deposit ......................... $ 7,791 $ 39,898 $ 15,717 $ 6,486 $ 69,892
Other interest-bearing liabilities .............. 74,326 - - - 74,326
--------- --------- --------- --------- ---------
Total interest-bearing liabilities ........... $ 82,117 $ 39,898 $ 15,717 $ 6,486 $ 144,218
========= ========= ========= ========= =========
Cumulative interest rate gap ...................... $ 17,972 $ (5,168) $ (1,663) $ 78,166 $ 78,166
Cumulative rate sensitivity ratio ................. 1.22 0.96 0.99 1.54
Shortcomings are inherent in GAP analysis to the extent that certain
assets and liabilities may not change proportionally as interest rates change.
To supplement GAP analysis, Paradigm uses an interest rate risk simulation model
and shock analysis to test the interest rate sensitivity of net interest income
and the balance sheet. Contractual maturities and repricing opportunities of
loans are incorporated in the model, as are prepayment assumptions, maturity
data and call options within the investment portfolio. Assumptions based on past
experience are incorporated into the model for nonmaturity deposit accounts.
Based on Paradigm's March 31, 2002 simulation analysis, Paradigm
estimates that a 200 basis point rise in rates over the next 12 months would
increase net interest income $728,000, or 6.7%, and a 200 basis point decline
would reduce net interest income by $687,000, or 6.3%. These estimates are based
on the timing of interest rate changes for liabilities, mainly deposits, and
assets, mainly loans. This assumption incorporated in the simulation model is
generally not fully reflected in a GAP analysis.
Paradigm's primary market risk is interest rate volatility. Interest
rate changes ultimately affect income and expense from most of our assets and
liabilities, and the market value of interest-earning assets and
interest-bearing liabilities that do not have very short-term maturities.
Paradigm is not subject to foreign exchange or commodity price risk, and does
not own any trading assets.
Paradigm reviews its exposure to market risk regularly. Interest rate
risk is the potential of economic losses due to future interest rate changes
that reduce future net interest income and current fair market values.
Paradigm's
83
goal is to measure the effect on net interest income and to manage its assets
and liabilities to minimize the inherent risk while maximizing income.
Paradigm applies a market value (MV) methodology to gauge its interest
rate risk exposure as derived from its simulation model. Generally, MV is the
value of incoming cash flows on interest-earning assets and other investments
less the value of the outgoing cash flows on interest-bearing liabilities. The
methodology attempts to quantify interest rate risk by measuring the change in
MV that would result from a 200 basis point change in market interest rates.
At March 31, 2002, Paradigm estimated that its MV would increase 6.1%
over the next twelve months if a 200 basis point increase in market interest
rates occurs. Paradigm estimates that its MV would decrease 10.0% over the next
twelve months if there were a 200 basis point decrease in market rates over that
year.
Management believes that the MV method overcomes three shortcomings of
the typical maturity GAP method. First, it does not use arbitrary repricing
intervals and accounts for all expected future cash flows. Second, because the
MV method projects cash flows of each financial instrument under different
interest rate environments, it can incorporate the effect of embedded options on
an institution's interest rate risk exposure. Third, it allows interest rates on
different instruments to change by varying amounts in response to changes in
market interest rates, providing more accurate cash flow estimates.
As with any method of gauging interest rate risk, however, there are
certain shortcomings in the MV method. The model assumes interest rate changes
are instantaneous parallel shifts in the yield curve. In reality, rate changes
are rarely instantaneous. The simplifying assumption that short-term and
long-term rates changed by the same degree may also misstate historic rate
patterns, which rarely show parallel yield curve shifts. Further, the model
assumes that certain assets and liabilities of similar maturity or repricing
will react identically to changes in rates. In reality, the market value of
certain types of financial instruments may adjust in anticipation of changes in
market rates, while any adjustment in the valuation of other types of financial
instruments may lag behind the change in general market rates. Also, the MV
method does not reflect the full effect of contractual restrictions on changes
in rates for certain assets, such as adjustable rate loans. When interest rates
change, actual loan prepayments and actual early withdrawals from certificates
of deposit may deviate significantly from the assumptions used in the model.
Finally, this method does not measure or reflect the effect that higher rates
may have on the ability of adjustable-rate loan clients to service their debt.
All of these factors are considered in monitoring Paradigm's exposure to
interest rate risk.
In July 2000, Paradigm purchased an interest rate floor to hedge
against the effect of future interest rate declines for our portfolio of
floating rate loans. Paradigm paid $195,000 for the floor, which would have paid
us seven quarterly payments based on a notional amount of $30.0 million if the
LIBOR interest rate were below 7.0% from October 25, 2000 through April 25,
2002. This floor was accounted for as a cash flow hedge in accordance with SFAS
No.133, "Accounting for Derivative Instruments and Hedging Activities" as
amended by SFAS No. 138, "Accounting for Certain Derivative Instruments and
Certain Hedging Activities." To capitalize on a market fluctuation, the hedge
was sold in the last quarter of 2000, providing a pre-tax gain of $105,000 in
sale of securities.
Capital Resources
Capital management consists of providing equity to support both current
and future operations. Paradigm is subject to capital adequacy requirements
imposed by the Board of Governors of the Federal Reserve and Paradigm Bank is
subject to capital adequacy requirements imposed by the FDIC. Both the Federal
Reserve and the FDIC have adopted risk-based capital requirements for assessing
financial holding company and bank capital adequacy. These standards define
capital and establish minimum capital requirements in relation to assets and
off-balance sheet exposure, adjusted for credit risk. The risk-based capital
standards currently in effect are designed to make regulatory capital
requirements more sensitive to differences in risk profiles among financial
holding companies and banks, to account for off-balance sheet exposure and to
minimize disincentives for holding liquid assets. Assets and off-balance sheet
items are assigned to broad risk categories, each with appropriate relative risk
weights. The resulting capital ratios represent capital as a percentage of total
risk-weighted assets and off-balance sheet items.
The risk-based capital standards of the Federal Reserve require
financial holding companies to have Tier 1 capital of at least 4.0% and total
risk-based capital (Tier 1 and Tier 2) of at least 8.0% of total risk-adjusted
assets. Tier 1 capital generally includes common shareholders' equity and
qualifying perpetual preferred stock together with
84
related surpluses and retained earnings, less deductions for goodwill and
various other intangibles. Tier 2 capital may consist of a limited amount of
intermediate-term preferred stock, a limited amount of term subordinated debt,
certain hybrid capital instruments and other debt securities, perpetual
preferred stock not qualifying as Tier 1 capital, and a limited amount of the
general valuation allowance for loan losses. The sum of Tier 1 capital and Tier
2 capital is total risk-based capital.
The Federal Reserve has also adopted guidelines which supplement the
risk-based capital guidelines with a minimum ratio of Tier 1 capital to average
total consolidated assets (leverage ratio) of 3.0% for institutions with well
diversified risk, including no undue interest rate exposure; excellent asset
quality; high liquidity; good earnings; and that are generally considered to be
strong banking organizations, rated composite 1 under applicable federal
guidelines, and that are not experiencing or anticipating significant growth.
Other banking organizations are required to maintain a leverage ratio of at
least 4.0%. These rules further provide that banking organizations experiencing
internal growth or making acquisitions will be expected to maintain capital
positions substantially above the minimum supervisory levels and comparable to
peer group averages, without significant reliance on intangible assets.
Pursuant to the Federal Deposit Insurance Corporation Improvement Act
(FDICIA), each federal banking agency revised its risk-based capital standards
to ensure that those standards take adequate account of interest rate risk,
concentration of credit risk and the risks of nontraditional activities, as well
as reflect the actual performance and expected risk of loss on multifamily
mortgages. Paradigm Bank is subject to capital adequacy guidelines of the FDIC
that are substantially similar to the Federal Reserve's guidelines. Also
pursuant to FDICIA, the FDIC has promulgated regulations setting the levels at
which an insured institution such as the bank would be considered "well
capitalized," "adequately capitalized," "undercapitalized," "significantly
undercapitalized" and "critically undercapitalized." Paradigm Bank is classified
"well capitalized" for purposes of the FDIC's prompt corrective action
regulations.
Total stockholders' equity was $18.1 million at December 31, 2001
compared with $17.3 million at December 31, 2000, an increase of $800,000, or
4.6%. The increase was due to Paradigm's earnings net of dividends paid and the
change in accumulated gain on securities available for sale. At March 31, 2002,
total shareholders' equity had increased to about $18.4 million due to retained
earnings for the quarter less a reduction in the accumulated gain on securities
available for sale.
The following table provides a comparison of Paradigm's and Paradigm
Bank's leverage and risk-weighted capital ratios at March 31, 2002 and December
31, 2001 to the minimum and well-capitalized regulatory standards:
To be Well-
Minimum Capitalized
Required for Under Prompt Actual Actual
Capital Adequacy Corrective Ratio at Ratio at
Purposes Action Provisions March 31, 2002 December 31, 2001
-------- ----------------- -------------- -----------------
Paradigm
Leverage ratio ......................... 3.00% (1) N/A 8.14% 7.93%
Tier 1 risk-based capital ratio ........ 4.00 N/A 10.37 10.85
Risk-based capital ratio ............... 8.00 N/A 11.35 11.69
Paradigm Bank
Leverage ratio ......................... 3.00% (2) 5.00% 7.96% 7.68%
Tier 1 risk-based capital ratio ........ 4.00 8.00 10.05 10.49
Risk-based capital ratio ............... 8.00 10.00 11.03 11.34
_______________________
(1) The Federal Reserve Board may require Paradigm to maintain a leverage
ratio above the required minimum.
(2) The FDIC may require Paradigm Bank to maintain a leverage ratio above the
required minimum.
85
BUSINESS OF PARADIGM
General
Paradigm is a financial holding company headquartered in Houston,
Texas. Paradigm was formed as a bank holding company for Paradigm Bank Texas
under the laws of the State of Texas in 1996, and elected to become a financial
holding company in 2000.
Paradigm provides commercial and retail banking services from the
community banking offices of Paradigm Bank Texas, its wholly-owned subsidiary, a
Texas banking association headquartered in Houston. Paradigm Bank was originally
chartered in 1980 as Bank of Cypress Trails and renamed Woodcreek Bank when its
principal location was established in the Woodcreek area of north Houston. In
1997, Paradigm acquired First National Bank of Dayton, which was merged into
Woodcreek Bank. In October 2000, Woodcreek Bank changed its name to Paradigm
Bank Texas to reflect its greater geographic and market development.
In December 1999, Paradigm acquired Dayton State Bank, a Texas banking
association with locations in Dayton, Winnie and Mt. Belvieu. Dayton State Bank
was operated as a separate bank for one year, and merged into Paradigm Bank
Texas in December 2000.
Paradigm has grown by increasing loans and deposits at existing banking
centers, by acquiring two existing community banks and by opening new banking
centers. Paradigm Bank Texas operates 11 community banking centers (branches)
serving Texas, six in the greater Houston metropolitan area, two in Dayton and
one each in Winnie, Galveston and Mt. Belvieu. Paradigm opened its Galveston
branch in May 2001, and two new Houston branches in August and December 2000.
Between 1991 and 2000, Paradigm opened six new branches in Houston. In November
2001, Paradigm closed one Houston branch in the Cy-Fair area and transferred its
business and staff to its nearby Gladebrook location.
Bank Activities
Paradigm operates with a community banking philosophy emphasizing
long-term customer relationships based on service and convenience. A key element
of this community banking approach is our banking center model, which Paradigm
implemented in 1998. Each branch is a full-service banking center led by a
banking center president focused on serving local community businesses and
consumers. Paradigm entrusts its banking center presidents with authority and
flexibility for product pricing, customer service and decision-making within
general parameters established by management.
Paradigm offers a variety of traditional loan and deposit products to
its customers, which are mainly small and medium-size businesses and individual
consumers. For businesses, Paradigm provides term loans, lines of credit and
loans for working capital, business expansion and the purchase of equipment and
machinery, interim construction loans for builders and owner occupied commercial
real estate loans. Paradigm offers consumers a variety of products and services,
including automobile loans, home equity loans and debit cards. Paradigm offers
all of its customers a full array of cash management, Internet banking and
traditional deposit services.
Competition
The banking business is highly competitive, with Paradigm's
profitability dependent on the ability to compete in its market areas. Paradigm
competes with other commercial banks, savings banks, savings and loan
associations, credit unions, finance companies, mutual funds, insurance
companies, brokerage and investment banking firms, asset-based nonbank lenders
and certain other nonfinancial entities, including retail stores that offer
credit programs, and certain governmental organizations which may offer more
favorable financing than Paradigm offers. Paradigm expects competition from both
financial and nonfinancial institutions to continue. Recently enacted federal
legislation eased burdens previously imposed on banks, securities firms,
insurance companies, credit unions and other financial service providers. As a
result, it may be easier for nonbank institutions to compete directly with
Paradigm.
Paradigm has been able to compete effectively in its market areas by
providing responsive community banking, experienced community lending officers
and a full range of commercial and retail banking services. The greater Houston
area is marked by a large number of local, regional and national financial
institutions. The Galveston, Dayton, Winnie and Mt. Belvieu markets are mainly
served by a smaller number of local competitors.
86
These local competitors compete in Paradigm's customer niche on loan and deposit
pricing, related terms, traditional services offered, less traditional services
such as insurance and brokerage offerings, branch locations, advertising and
promotional programs, and by developing customer relationships.
Paradigm's competitive edge is built upon developing strong customer
relationships through fast and effective service, and on being more responsive
to the needs and wants of the customer than other institutions. This service
includes loan and deposit pricing within Paradigm's profitability models, being
faster than the competition in providing loan responses and other services,
building a network of convenient locations and providing the banking services
most important to its customers.
Properties
Paradigm operates from 13 locations, including 11 full-service banking
centers, its loan operations office and its corporate office. Paradigm owns six
of its banking centers, and leases the remaining five plus its loan operations
office and corporate office. The lease terms expire in 2003 through 2010, not
including renewal option periods that may be available. Paradigm's item
processing facility shares a building it owns with its Dayton Clayton Road
banking center, and its bank operations department shares a building it owns
with its Dayton Downtown banking center. Prosperity anticipates that Paradigm's
Medical Center, Dayton Clayton Road and Silver Ridge banking centers will be
closed upon completion of the merger or shortly thereafter.
The following table sets forth the address, ownership status and
deposit balances for each of Paradigm's banking centers:
Owned or Deposits at
Facility Location Leased March 31, 2002
----------------- -------- --------------
(dollars in thousands)
Aldine Banking Center owned $17,270
1906 Aldine Bender, Houston
Copperfield Banking Center leased 6,441
8686 Highway 6 North, Houston
Dayton Downtown Banking Center owned 58,055
106 North Main, Dayton
Dayton Clayton Road Banking Center owned 10,508
1300 West Clayton, Dayton
Galveston Banking Center leased 9,365
2424 Market Street, Galveston
Gladebrook Banking Center leased 34,723(1)
3934 FM 1960 West, Houston
Medical Center Banking Center leased 4,011
St. Edwards Dr. at Judiwood, Houston
Mt. Belvieu Banking Center owned 8,242
10305 Eagle Drive, Mt. Belvieu
Silver Ridge Banking Center leased 9,836
1817 FM 1960 West, Houston
Winnie Banking Center owned 9,949
146 Spur 5, Winnie
Woodcreek Banking Center owned 61,888
2828 FM 1960 East, Houston
Loan Operations Office leased N/A
22615 Aldine Westfield, Houston
Corporate Office leased N/A
3934 FM 1960 W., Ste. 330, Houston
--------------
(1) Deposits at the Gladebrook banking center include the transfer of
significant deposits from the Woodcreek banking center associated with an
executive officer transferred to Gladebrook during 2001, along with the
transfer of substantially all of the deposits of our Cy-Fair banking
center upon its closure in December 2001.
87
Employees
At March 31, 2002, Paradigm had 146 employees, including 40 officers
and 29 part-time staff. Paradigm pays a significant portion of the cost of
health insurance for its full-time employees, and provides a significant
matching contribution with the 401(k) savings plan it offers them. Paradigm
considers its relations with its employees to be good. Paradigm is not party to
any collective bargaining agreements.
Legal Proceedings
Paradigm and Paradigm Bank are from time to time parties to or
otherwise involved in legal proceedings arising in the normal course of
business. Management believes that neither Paradigm nor Paradigm Bank is a party
to, nor any of their property the subject of, any material pending or threatened
legal proceedings that, if determined adversely, would have a material adverse
effect on the consolidated financial condition, results of operations or cash
flows of Paradigm.
Supervision and Regulation
The supervision and regulation of financial holding companies, banks
and affiliates is intended primarily for the protections of depositors,
borrowers, the deposit insurance funds of the Federal Deposit Insurance
Corporation and the banking system as a whole, not for the protection of
financial holding company shareholders or creditors. The regulatory authorities
have broad enforcement power over financial holding companies and banks,
including the power to impose substantial fines and other penalties for
violation of laws and regulations.
The following descriptions summarize some of the laws and regulations
to which Paradigm and Paradigm Bank are subject. References herein to applicable
statutes and regulations are brief summaries, do not purport to be complete, and
are qualified in their entirety by reference to such statutes and regulations.
Paradigm believes that it is in compliance in all material respects with these
laws and regulations.
Paradigm Bancorporation, Inc.
-----------------------------
Paradigm is a financial holding company registered under the
Gramm-Leach-Bliley Act, and a bank holding company registered under the Bank
Holding Company Act of 1956 as amended (BHCA). Accordingly, Paradigm is subject
to supervision, regulation and examination by the Federal Reserve. The
Gramm-Leach-Bliley Act, the BHCA and other federal laws subject financial and
bank holding companies to particular restrictions on the types of activities in
which they may engage, and to a range of supervisory requirements and
activities, including regulatory enforcement actions for violations of laws and
regulations.
Regulatory Restrictions on Dividends; Source of Strength. It is the
policy of the Federal Reserve that financial holding companies should pay cash
dividends on common stock only out of income available over the past year and
only if prospective earnings retention is consistent with the organization's
expected future needs and financial condition. The policy provides that
financial holding companies should not maintain a level of cash dividends that
undermines the financial holding company's ability to serve as a source of
strength to its banking subsidiaries.
Under the Federal Reserve policy, a financial holding company is
expected to act as a source of financial strength to each of its banking
subsidiaries and commit resources to their support. Such support may be required
at times when, absent this Federal Reserve policy, a holding company may not be
inclined to provide it. As discussed below, a financial holding company in
certain circumstances could be required to guarantee the capital plan of an
undercapitalized banking subsidiary.
In the event of a financial holding company's bankruptcy under Chapter
11 of the U.S. Bankruptcy Code, the trustee will be deemed to have assumed and
is required to cure immediately any deficit under any commitment by the debtor
holding company to any of the federal banking agencies to maintain the capital
of an insured depository institution, and any claim for breach of such
obligation will generally have priority over most other unsecured claims.
Scope of Permissible Activities. Under the BHCA, bank holding companies
generally may not acquire a direct or indirect interest in or control of more
than 5% of the voting shares of any company that is not a bank or bank holding
company or engage directly or indirectly in activities other than those of
banking, managing or controlling banks or furnishing services to its subsidiary
banks, except that it may engage in and may own shares of
88
companies engaged in certain activities found by the Federal Reserve to be so
closely related to banking or managing and controlling banks as to be a proper
incident thereto. These activities include, among others, operating a mortgage,
finance, credit card, or factoring company; performing certain data processing
operations; providing investment and financial advice; acting as an insurance
agent for certain types of credit-related insurance; leasing personal property
on a full-payout, non-operating basis; and providing certain stock brokerage and
investment advisory services. In approving acquisitions or the addition of
activities, the Federal Reserve considers whether the acquisition or the
additional activities can reasonably be expected to produce benefits to the
public, such as greater convenience, increased competition, or gains in
efficiency, that outweigh such possible adverse effects as undue concentration
of resources, decreased or unfair competition, conflicts of interest or unsound
banking practices.
However, the Gramm-Leach-Bliley Act effective in March 2000, eliminated
the barriers to affiliations among banks, securities firms, insurance companies
and other financial service providers. Paradigm elected and was approved to
become a financial holding company in April of 2000. The Gramm-Leach-Bliley Act
permits bank holding companies to become financial holding companies and thereby
affiliate with securities firms and insurance companies and engage in other
activities that are financial in nature. The Gramm-Leach-Bliley Act defines
"financial in nature" generally to include securities underwriting, dealing and
market making; sponsoring mutual funds and investment companies; insurance
underwriting and agency; merchant banking activities; and activities that the
Federal Reserve has determined to be closely related to banking. No regulatory
approval will be required for a financial holding company to acquire a company,
other than a bank or savings association, engaged in activities that are
financial in nature or incidental to activities that are financial in nature as
determined by the Federal Reserve.
While the Federal Reserve will serve as the umbrella regulator for
financial holding companies and has the power to examine banking organizations
engaged in new activities, regulation and supervision of activities that are
financial in nature or determined to be incidental to such financial activities
will be handled along functional lines. Accordingly, activities of subsidiaries
of a financial holding company will be regulated by the agency or authorities
with the most experience regulating that activity as it is conducted in a
financial holding company.
Safe and Sound Banking Practices. Financial holding companies are not
permitted to engage in unsafe and unsound banking practices. The Federal
Reserve's Regulation Y, for example, generally requires a holding company to
give the Federal Reserve prior notice of any redemption or repurchase of its own
equity securities, if the consideration to be paid, together with the
consideration paid for any repurchases or redemptions in the preceding year, is
equal to 10% or more of its consolidated net worth. The Federal Reserve may
oppose the transaction if it believes that the transaction would constitute an
unsafe or unsound practice or would violate any law or regulation. Depending
upon the circumstances, the Federal Reserve could take the position that paying
a dividend would constitute an unsafe or unsound banking practice.
The Federal Reserve has broad authority to prohibit activities of
financial holding companies and their nonbanking subsidiaries which represent
unsafe and unsound banking practices or which constitute violations of laws or
regulations, and can assess civil money penalties for certain activities
conducted on a knowing and reckless basis, if those activities caused a
substantial loss to a depository institution. The penalties can be as high as $1
million for each day the activity continues.
Anti-Tying Restrictions. Financial holding companies and their
affiliates are prohibited from tying the provision of certain services, such as
extensions of credit, to other nonbanking services offered by a holding company
or its affiliates.
Capital Adequacy Requirements. The Federal Reserve has adopted a system
using risk-based capital guidelines to evaluate the capital adequacy of
financial holding companies. Under the guidelines, specific categories of assets
are assigned different risk weights, based generally on the perceived credit
risk of the asset. These risk weights are multiplied by corresponding asset
balances to determine a "risk-weighted" asset base. The guidelines require a
minimum total risk-based capital ratio of 8.0% (of which at least 4.0% is
required to consist of Tier 1 capital elements). Total capital is the sum of
Tier 1 and Tier 2 capital. At March 31, 2002, Paradigm's ratio of Tier 1 capital
to total risk-weighted assets was 10.37% and Paradigm's total capital to total
risk-weighted assets was 11.35%.
In addition to the risk-based capital guidelines, the Federal Reserve
uses a leverage ratio as an additional tool to evaluate the capital adequacy of
financial holding companies. The leverage ratio is a company's Tier 1 capital
divided by its average total consolidated assets less goodwill and other
intangibles. Certain highly rated
89
financial holding companies may maintain a minimum leverage ratio of 3.0%, but
other financial holding companies are required to maintain a leverage ratio of
at least 4.0%. At March 31, 2002, Paradigm's leverage ratio was 8.14%.
The federal banking agencies' risk-based and leverage ratios are
minimum supervisory ratios generally applicable to banking organizations that
meet certain specified criteria. The federal bank regulatory agencies may set
capital requirements for a particular banking organization that are higher than
the minimum ratios when circumstances warrant. Federal Reserve guidelines also
provide that banking organizations experiencing internal growth or making
acquisitions will be expected to maintain strong capital positions substantially
above the minimum supervisory levels, without significant reliance on intangible
assets.
Imposition of Liability for Undercapitalized Subsidiaries. Bank
regulators are required to take prompt corrective action to resolve problems
associated with insured depository institutions whose capital declines below
certain levels. In the event an institution becomes undercapitalized, it must
submit a capital restoration plan. The capital restoration plan will not be
accepted by the regulators unless each company having control of the
undercapitalized institution guarantees the subsidiary's compliance with the
capital restoration plan up to a certain specified amount. Any such guarantee
from a depository institution's holding company is entitled to a priority of
payment in bankruptcy.
The aggregate liability of the holding company of an undercapitalized
bank is limited to the greater of 5% of the institution's assets at the time it
became undercapitalized or the amount necessary to cause the institution to be
adequately capitalized. The bank regulators have greater power in situations
where an institution becomes significantly or critically undercapitalized or
fails to submit a capital restoration plan. For example, a financial holding
company controlling such an institution can be required to obtain prior Federal
Reserve approval of proposed dividends, or might be required to consent to a
consolidation or to divest the troubled institution or other affiliates.
Acquisitions by Financial Holding Companies. The BHCA requires every
bank holding company to obtain the prior approval of the Federal Reserve before
it may acquire all or substantially all of the assets of any bank, or ownership
or control of any voting shares of any bank, if after such acquisition it would
own or control, directly or indirectly, more than 5% of the voting shares of
such bank. In approving bank acquisitions by financial holding companies, the
Federal Reserve is required to consider the financial and managerial resources
and future prospects of the financial holding company and the banks concerned,
the convenience and needs of the communities to be served, and various
competitive factors.
Control Acquisitions. The Change in Bank Control Act prohibits a person
or group of persons from acquiring control of a financial holding company unless
the Federal Reserve has been notified and has not objected to the transaction.
Under a rebuttable presumption established by the Federal Reserve, the
acquisition of 10% or more of a class of voting stock of a financial holding
company with a class of securities registered under Section 12 of the Exchange
Act would, under the circumstances set forth in the presumption, constitute
acquisition of control of the holding company.
In addition, an entity is required to obtain the approval of the
Federal Reserve under the BHCA before acquiring 25% (5% in the case of an
acquiror that is a financial holding company) or more of Paradigm's outstanding
common stock, or otherwise obtaining control or a controlling influence over
Paradigm.
Paradigm Bank Texas
-------------------
Paradigm Bank is a Texas-chartered banking association, the deposits of
which are insured by the Bank Insurance Fund (BIF) of the FDIC. Paradigm Bank is
not a member of the Federal Reserve System; therefore, it is subject to
supervision and regulation by the FDIC and the Texas Banking Department. Such
supervision and regulation subjects Paradigm Bank to special restrictions,
requirements, potential enforcement actions and periodic examination by the FDIC
and the Texas Banking Department. Because the Federal Reserve regulates
Paradigm, as the financial holding company parent of Paradigm Bank, the Federal
Reserve also has supervisory authority that directly affects Paradigm Bank.
Equivalence to National Bank Powers. The Texas Constitution, as amended
in 1986, provides that a Texas-chartered bank has the same rights and privileges
that are or may be granted to national banks domiciled in Texas. To the extent
that the Texas laws and regulations may have allowed state-chartered banks to
engage in a broader range of activities than national banks, the Federal Deposit
Insurance Corporation Improvement Act of 1991
90
(FDICIA) has operated to limit this authority. FDICIA provides that no state
bank or subsidiary thereof may engage as principal in any activity not permitted
for national banks, unless the institution complies with applicable capital
requirements and the FDIC determines that the activity poses no significant risk
to the insurance fund. In general, statutory restrictions on the activities of
banks are aimed at protecting the safety and soundness of depository
institutions.
Branching. Texas law provides that a Texas-chartered bank can establish
a branch anywhere in Texas provided that the branch is approved by the Texas
Department of Banking and the appropriate federal agency, which in Paradigm's
case is the FDIC, which considers a number of factors, including financial
history, capital adequacy, earnings prospects, character of management, needs of
community and consistency with corporate powers.
Restrictions on Transactions with Affiliates and Insiders. Transactions
between banks and their nonbanking affiliates, including holding companies and
any nonbanking subsidiaries, are subject to Section 23A of the Federal Reserve
Act. In general, Section 23A imposes limits on the amount of such transactions,
and also requires certain levels of collateral for loans to affiliated parties.
It also limits the amount of advances to third parties that are collateralized
by our securities or obligations or the securities or obligations of any of our
nonbanking subsidiaries.
Affiliated transactions are also subject to Section 23B of the Federal
Reserve Act which generally requires that certain transactions between the banks
and their affiliates be on terms substantially the same, or at least as
favorable to the banks, as those prevailing at the time for comparable
transactions with or involving other nonaffiliated persons.
The restrictions on loans to directors, executive officers, principal
shareholders and their related interests (collectively referred to herein as
insiders) contained in the Federal Reserve Act and Federal Reserve Regulation O
apply to all insured institutions and their subsidiaries and holding companies.
These restrictions include limits on loans to one borrower and conditions that
must be met before such a loan can be made. There is also an aggregate
limitation on all loans to insiders and their related interests. These loans
cannot exceed the institution's total unimpaired capital and surplus, and the
FDIC may determine that a lesser amount is appropriate. Insiders are subject to
enforcement actions for knowingly accepting loans in violation of applicable
restrictions.
Restrictions on Distribution of Subsidiary Bank Dividends and Assets.
Dividends paid by Paradigm Bank have provided a substantial part of Paradigm's
operating funds and for the foreseeable future it is anticipated that dividends
paid by Paradigm Bank to Paradigm will continue to be Paradigm's principal
source of operating funds. Capital adequacy requirements serve to limit the
amount of dividends that may be paid by Paradigm Bank. Under federal laws,
Paradigm Bank cannot pay a dividend if, after paying the dividend, Paradigm Bank
will be undercapitalized. The FDIC may declare a dividend payment to be unsafe
and unsound even though Paradigm Bank would continue to meet its capital
requirement after the dividend.
Because Paradigm is a legal entity separate and distinct from its
subsidiaries, its right to participate in the distribution of assets of any
subsidiary upon the subsidiary's liquidation or reorganization will be subject
to the prior claims of the subsidiary's creditors. In the event of a liquidation
or other resolution of an insured depository institution, the claims of
depositors and other general or subordinated creditors are entitled to a
priority of payment over the claims of holders of any obligation of the
institution to its shareholders, including any depository institution holding
company (such as Paradigm) or any shareholder or creditor thereof.
Examinations. The FDIC periodically examines and evaluates insured
banks. Based on such an evaluation, the FDIC may revalue the assets of the
institution and require that it establish specific reserves to compensate for
the difference between the FDIC-determined value and the book value of such
assets. The Texas Banking Department also conducts examinations of state banks
but may accept the results of a federal examination in lieu of conducting an
independent examination.
Capital Adequacy Requirements. The FDIC has adopted regulations
establishing minimum requirements for the capital adequacy of insured
institutions. The FDIC may establish higher minimum requirements if, for
example, a bank has previously received special attention or has a high
susceptibility to interest rate risk.
The FDIC's risk-based capital guidelines generally require state banks
to have a minimum ratio of Tier 1 capital to total-risk weighted asset of 4.0%
and a ratio of total capital to total risk-weighted assets of 8.0%. The capital
categories have the same definitions for banks as for holding companies. At
March 31, 2002, Paradigm
91
Bank's ratio of Tier 1 capital to total risk-weighted assets was 10.05% and its
ratio of total capital to total risk-weighted assets was 11.03%.
The FDIC's leverage guidelines require state banks to maintain Tier 1
capital of no less than 5.0% of average total assets, except in the case of
certain highly rated banks for which the requirement is 3.0% of average total
assets. The Texas Banking Department has issued a policy that generally requires
state chartered banks to maintain a leverage ratio (defined in accordance with
federal capital guidelines) of 6.0%. At March 31, 2002, Paradigm Bank's ratio of
Tier 1 capital to average total assets (leverage ratio) was 7.96%.
Corrective Measures for Capital Deficiencies. The federal banking
regulators are required to take prompt corrective action with respect to
capital-deficient institutions. Agency regulations define, for each capital
category, the levels at which institutions are "well capitalized," "adequately
capitalized," "under capitalized," "significantly under capitalized," and
"critically under capitalized." A "well capitalized" bank has a total risk-based
capital ratio of 10.0% or higher; a Tier 1 risk-based capital ratio of 6.0% or
higher; a leverage ratio of 5.0% or higher; and is not subject to any written
agreement, order or directive requiring it to maintain a specific capital level
for any capital measure. An "adequately capitalized" bank has a total risk-based
capital ratio of 8.0% or higher; a Tier 1 risk-based capital ratio of 4.0% or
higher; a leverage ratio of 4.0% or higher (3.0% or higher if the bank was rated
a composite 1 in its most recent examination report and is not experiencing
significant growth); and does not meet the criteria for being a "well
capitalized bank". A bank is "under capitalized" if it fails to meet any one of
the ratios required to be adequately capitalized. Paradigm Bank is classified as
"well capitalized" for purpose of the FDIC's prompt corrective action
regulations.
In addition to requiring undercapitalized institutions to submit a
capital restoration plan, agency regulations contain broad restrictions on
certain activities of undercapitalized institutions including asset growth,
acquisitions, branch establishment and expansion into new lines of business.
With certain exceptions, an insured depository institution is prohibited from
making capital distributions, including dividends, and is prohibited from paying
management fees to control persons if the institution would be undercapitalized
after any such payment.
As an institution's capital decreases, the FDIC's enforcement powers
become more severe. A significantly undercapitalized institution is subject to
mandated capital raising activities, restrictions on interest rates paid and
transactions with affiliates, removal of management and other restrictions. The
FDIC has only very limited discretion in dealing with a critically
undercapitalized institution and is virtually required to appoint a receiver or
conservator.
Banks with risk-based capital and leverage ratios below the required
minimums may also be subject to certain administrative actions, including the
termination of deposit insurance upon notice and hearing, or a temporary
suspension of insurance without a hearing in the event the institution has no
tangible capital.
Deposit Insurance Assessments. Paradigm Bank must pay assessments to
the FDIC for federal deposit insurance protection. The FDIC has adopted a
risk-based assessment system as required by FDICIA. Under this system,
FDIC-insured depository institutions pay insurance premiums at rates based on
their risk classification. Institutions assigned to higher risk classifications
(that is, institutions that pose a greater risk of loss to their respective
deposit insurance funds) pay assessments at higher rates than institutions that
pose a lower risk. An institution's risk classification is assigned based on its
capital levels and the level of supervisory concern the institution poses to the
regulators. In addition, the FDIC can impose special assessments in certain
instances. The current range of BIF assessments is between zero and 0.27% of
deposits.
The FDIC established a process for raising or lowering all rates for
insured institutions semi-annually if conditions warrant a change. Under this
system, the FDIC has the flexibility to adjust the assessment rate schedule
twice a year without seeking prior public comment, but only within a range of
five cents per $100 above or below the premium schedule adopted. The FDIC can
make changes in the rate schedule outside the five-cent range above or below the
current schedule only after a full rulemaking with opportunity for public
comment.
In addition to BIF assessments, banks insured under the BIF are
required to pay a portion of the interest due on bonds that were issued by the
Financing Corporation (FICO) to help shore up the ailing Federal Savings and
Loan Insurance Corporation in 1987. The BIF-rate was required to equal one-fifth
of the Savings Association Insurance Fund (SAIF) rate through year-end 1999, or
until the insurance funds merged, whichever occurred first. Thereafter, BIF and
SAIF payers will be assessed pro rata for the FICO bond obligations. With regard
to the
92
assessment for the FICO obligation, for the second quarter 2002, both the
BIF and SAIF rates were 0.0176% of deposits.
Enforcement Powers. The FDIC and the other federal banking agencies
have broad enforcement powers, including the power to terminate deposit
insurance, impose substantial fines and other civil and criminal penalties and
appoint a conservator or receiver. Failure to comply with applicable laws,
regulations and supervisory agreements could subject Paradigm or Paradigm Bank,
as well as officers, directors and other institution-affiliated parties of these
organizations, to administrative sanctions and potentially substantial civil
money penalties.
The appropriate federal banking agency may appoint the FDIC as
conservator or receiver for a banking institution (or the FDIC may appoint
itself, under certain circumstances) if any one or more of a number of
circumstances exist, including, without limitation, the banking institution is
undercapitalized and has no reasonable prospect of becoming adequately
capitalized; fails to become adequately capitalized when required to do so:
fails to submit a timely and acceptable capital restoration plan; or materially
fails to implement an accepted capital restoration plan. The Texas Banking
Department also has broad enforcement powers over Paradigm Bank, including the
power to impose orders, remove officers and directors, impose fines and appoint
supervisors and conservators.
Brokered Deposit Restrictions. Institutions that are only adequately
capitalized (as defined for purposes of the prompt corrective action rules
described above) cannot accept, renew or roll over brokered deposits except with
a waiver from the FDIC, and are subject to restrictions on the interest rates
that can be paid on such deposits. Undercapitalized institutions may not accept,
renew, or roll over brokered deposits.
Cross-Guarantee Provisions. The Financial Institutions Reform, Recovery
and Enforcement Act of 1989 (FIRREA) contains a cross-guarantee provision that
generally makes commonly controlled insured depository institutions liable to
the FDIC for any losses incurred in connection with the failure of a commonly
controlled depository institution.
Community Reinvestment Act. The Community Reinvestment Act of 1977
(CRA) and the regulations issued thereunder are intended to encourage banks to
help meet the credit needs of their service area, including low and moderate
income neighborhoods, consistent with the safe and sound bank operations. These
regulations also provide for regulatory assessment of a bank's record in meeting
the needs of its service area when considering applications to establish
branches, merger applications and applications to acquire the assets and assume
the liabilities of another bank. FIRREA requires federal banking agencies to
make public a rating of a bank's performance under the CRA. In the case of a
financial holding company, the CRA performance record of the banks involved in
the transaction are reviewed in connection with the filing of an application to
acquire ownership or control of shares or assets of a bank or to merge with any
other financial holding company. An unsatisfactory record can substantially
delay or block the transaction.
Consumer Laws and Regulations. In addition to the laws and regulations
discussed herein, Paradigm Bank is subject to certain consumer laws and
regulations that are designed to protect consumers in transactions with banks.
While the list set forth herein is not exhaustive, these laws and regulations
include the Truth in Lending Act, the Truth in Savings Act, the Electronic Funds
Transfer Act, The Expedited Funds Availability Act, The Equal Credit Opportunity
Act, and the Fair Housing Act, among others. These laws and regulations mandate
certain disclosure requirements and regulate the manner in which financial
institutions must deal with customers when taking deposits or making loans to
such customers. Paradigm Bank must comply with the applicable provisions of
these consumer protection laws and regulations as part of its ongoing customer
relations.
The USA Patriot Act of 2001. The USA Patriot Act is intended to
strengthen U.S. law enforcement's and the intelligence community's ability to
work cohesively to combat terrorism on a variety of fronts. The potential impact
of the USA Patriot Act on financial institutions of all kinds is significant and
wide ranging. The USA Patriot Act requires financial institutions to prohibit
correspondent accounts with foreign shell banks, establish an anti-money
laundering program that includes employee training and an independent audit,
follow minimum standards for identifying customers and maintaining records of
the identification information and make regular comparisons of customers against
agency lists of suspected terrorists, their organizations and money launderers.
Privacy. In addition to expanding the activities in which banks and
bank holding companies may engage, the Gramm-Leach-Bliley Act also imposed new
requirements on financial institutions with respect to customer privacy. The
Gramm-Leach-Bliley Act generally prohibits disclosure of customer information to
non-affiliated third
93
parties unless the customer has been given the opportunity to object and has not
objected to such disclosure. Financial institutions are further required to
disclose their privacy policies to customers annually. Financial institutions,
however, will be required to comply with state law if it is more protective of
customer privacy than the Gramm-Leach-Bliley Act.
Instability and Regulatory Structure
Various legislation, including proposals to overhaul the bank
regulatory system, expand the powers of banking institutions and financial
holding companies and limit the investments that a depository institution may
make with insured funds, is from time to time introduced in Congress. Such
legislation may change banking statutes and the environment in which Paradigm
and its banking subsidiaries operate in substantial and unpredictable ways.
Paradigm cannot determine the ultimate effect that potential legislation, if
enacted, or implementing regulations with respect thereto, would have upon its
financial condition or results of operations or that of its subsidiaries.
Expanding Enforcement Authority
One of the major additional burdens imposed on the banking industry by
FDICIA is the increased ability of banking regulators to monitor the activities
of banks and their holding companies. In addition, the Federal Reserve and the
FDIC are possessed of extensive authority to police unsafe and unsound practices
and violations of applicable laws and regulations by depository institutions and
their holding companies. For example, the FDIC may terminate the deposit
insurance of any institution that it determines has engaged in unsafe or unsound
practices. The agencies can also assess civil money penalties, issue cease and
desist or removal orders, seek injunctions, and publicly disclose such actions.
FDICIA, FIRREA and other laws have expanded the agencies' authority in recent
years, and the agencies have not yet fully tested the limits of their powers.
Monetary Policy
The policies of regulatory authorities, including the monetary policy
of the Federal Reserve, have a significant effect on the operating results of
financial holding companies and their subsidiaries. Among the means available to
the Federal Reserve to affect the money supply are open market operations in
U.S. government securities, changes in the discount rate on member bank
borrowings, and changes in reserve requirements against member bank deposits.
These means are used in varying combinations to influence overall growth and
distribution of bank loans, investments and deposits, and their use may affect
interest rates charged on loans and paid for deposits.
Federal Reserve monetary policies have materially affected the
operating results of commercial banks in the past and are expected to continue
to do so in the future. The nature of future monetary policies and the effect of
such policies on the business and earnings of Paradigm and its subsidiaries
cannot be predicted.
94
BENEFICIAL OWNERSHIP OF PARADIGM COMMON STOCK BY
MANAGEMENT AND PRINCIPAL SHAREHOLDERS OF PARADIGM
The following table sets forth certain information as of July 17, 2002
regarding the beneficial ownership of Paradigm common stock by (1) each person
who is known by Paradigm to own beneficially more than 5% of the Paradigm common
stock, (2) each director and executive officer of Paradigm and (3) all directors
and executive officers as a group. Also included is the number of shares and
percentage of Prosperity common stock to be owned by such persons and by
directors and executive officers as a group upon the exchange of Paradigm common
stock for Prosperity common stock pursuant to the merger. Unless otherwise
indicated, based on information furnished by such shareholders, management of
Paradigm believes that each person has sole voting and dispositive power with
respect to all shares of which he or she is the beneficial owner and the address
of such shareholder is the same as Paradigm's address.
Pro Forma Amount/
Amount/(Percent) and Nature (Percent) and Nature of
Name of of Beneficial Ownership of Beneficial Ownership of
Beneficial Owner Paradigm Common Stock (1) ProsperityCommon Stock(2)
-------------------------------------------------- ------------------------- --------------------------
Significant Shareholder
Marcella Boomer ............................................. 244,324(4) 265,477
(10.3%) (1.4%)
Directors and Executive Officers
Dennis M. Cain .............................................. 2,000 2,173
(*) (*)
Brad Fagan .................................................. 43,150(5) 54,057
(1.8%) (*)
William H. Fagan, M.D. ...................................... 834,520(6) 906,772
(35.1%) (4.8%)
Walter G. Finger ............................................ 51,875 56,366
(2.2%) (*)
Peter Fisher ................................................ 52,875(7) 67,231
(2.3%) (*)
Charles J. Howard, M.D. ..................................... 406,901(8) 442,130
(17.1%) (2.3%)
Leah Huffmeister Henderson .................................. 15,000(9) 16,298
(*) (*)
Jay W. Porter, Jr. .......................................... 5,400(10) 7,605
(*) (*)
Directors and executive officers of Paradigm ................ 1,411,721 1,552,632
(as a group 8 persons)(3) (59.4%) (8.2%)
-----------------
* Indicates ownership which does not exceed 1.0%.
(1) The percentage beneficially owned was calculated based on 2,375,020
shares of Paradigm common stock issued and outstanding as of July 17,
2002 and assumes the exercise by the shareholder or group named in each
row of all options for the purchase of common stock held by such
shareholder or group and exercisable within 60 days.
(2) The percentage beneficially owned was calculated based on 16,279,370
shares of Prosperity common stock outstanding and assumes the issuance of
1.08658 shares of Prosperity common stock in exchange for each share of
Paradigm common stock in connection with the merger.
The amount and percentage also assume the issuance to and exercise of
fully vested options to acquire 1.08658 shares of Prosperity common stock
for each outstanding option to acquire shares of Paradigm common stock,
which results in
95
the following shareholders receiving fully vested options to acquire the
following number of shares of Prosperity common stock:
Brad F. Fagan - 7,606 Peter E. Fisher - 10,865 Jay W. Porter, Jr. -
shares shares 2,173 shares
(3) For each director and executive officer, the amount of beneficial ownership
includes shares held directly, as well as shares held jointly with family
members, shares held in retirement accounts, held in a fiduciary capacity,
held by certain members of the group members' families, or held by trusts
of which the group member is a trustee or substantial beneficiary, with
respect to which shares the group member may be deemed to have sole or
shared voting and/or investment powers.
(4) Includes 78,000 shares held of record by the James B. Boomer Family Trust,
of which Mrs. Boomer is the Trustee, and 54,162 shares held of record by
the James B. Boomer Marital Exempt Trust, of which Mrs. Boomer is the
Trustee.
(5) Includes 400 shares that may be acquired pursuant to the exercise of fully
vested stock options.
(6) Includes 74,530 shares held of record by the spouse of Dr. Fagan.
(7) Includes 1,000 shares that may be acquired pursuant to the exercise of
fully vested stock options.
(8) Includes 37,392 shares held of record by the spouse of Dr. Howard.
(9) Includes 5,000 shares held of record by Leah Huffmeister Henderson as
custodian for her minor daughter.
(10) Includes 400 shares that may be acquired pursuant to the exercise of fully
vested stock options.
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PRINCIPAL HOLDERS OF PROSPERITY COMMON STOCK
Information regarding ownership of Prosperity common stock by (1) each
director and executive officer of Prosperity, (2) all directors and executive
officers of Prosperity as a group and (3) each person owning five percent (5%)
or more of the outstanding shares of Prosperity common stock is contained in
Prosperity's proxy statement dated March 15, 2002 for its annual meeting of
shareholders held April 16, 2002, which is incorporated by reference in this
proxy statement-prospectus.
COMPARATIVE MARKET PRICES AND DIVIDEND DATA
Market prices. The Prosperity common stock commenced trading on The
Nasdaq Stock Market National Market System under the symbol "PRSP" on November
12, 1998. Prior to that date, Prosperity's common stock was privately held and
not listed on any public exchange or quotation system or actively traded.
Quotations of the sales volume and the closing sales prices of the common stock
of Prosperity are listed daily in Nasdaq's national market listings.
The following table includes the range of high and low sale prices of
Prosperity's common stock as quoted by Nasdaq's monthly statistical report,
adjusted for the two-for-one stock split effective May 31, 2002:
Prosperity
----------
High Low
---- ---
2002 First Quarter ........................... $16.2750 $13.4750
Second Quarter .......................... 18.5900 15.5500
Third Quarter (through July 18, 2002) ... 18.2900 16.5800
2001 First Quarter ........................... 11.3125 9.3750
Second Quarter .......................... 12.6100 8.7500
Third Quarter ........................... 13.9350 10.7500
Fourth Quarter .......................... 13.8700 11.9300
2000 First Quarter ........................... 8.3445 6.4375
Second Quarter .......................... 8.4375 6.9690
Third Quarter ........................... 9.4375 8.0625
Fourth Quarter .......................... 10.0000 8.5625
There has been no active public trading market for shares of Paradigm
common stock. It is traded infrequently in private transactions about which
Paradigm's management has little reliable information regarding price.
On May 1, 2002, the last trading day prior to the date of the joint
announcement by Prosperity and Paradigm that they had entered into the merger
agreement, as reported in The Wall Street Journal, the closing per share sales
price of Prosperity common stock was $16.045 The pro forma equivalent per share
value of the Paradigm common stock on May 1, 2002 was $17.44 per share. This pro
forma equivalent per share value is the quoted Prosperity common stock price
multiplied by the assumed total exchange ratio of 1.08658. On July 18, 2002, as
reported in The Wall Street Journal, the closing price of Prosperity common
stock was $17.69. You are urged to obtain current market quotations.
As of June 10, 2002, Paradigm had approximately 91 shareholders of
record and Prosperity had approximately 448 shareholders of record.
Following the merger, Prosperity common stock will continue to be
traded on and quoted by Nasdaq.
97
Dividend data. The following table sets forth, for the periods
indicated, the cash dividends declared per share of Prosperity common stock and
Paradigm common stock:
Prosperity Paradigm
2002 First Quarter ........................ $0.055 $0.000
Second Quarter........................ 0.055 0.000
2001 First Quarter ........................ 0.045 0.000
Second Quarter........................ 0.050 0.060
Third Quarter ........................ 0.050 0.000
Fourth Quarter........................ 0.050 0.000
2000 First Quarter ........................ 0.045 0.000
Second Quarter........................ 0.045 0.100
Third Quarter ........................ 0.045 0.100
Fourth Quarter........................ 0.045 0.100
Until the merger is completed or the merger agreement is terminated,
Paradigm is prohibited from declaring or paying any dividends on its capital
stock, other than its regular periodic cash dividends per share. However, the
parties have agreed that Paradigm may pay a cash dividend of $0.05 per share in
July 2002 and, if the merger is not completed prior to the record date for
Prosperity's third quarter dividend, Paradigm may pay a cash dividend in an
amount equal to the quarterly dividend Paradigm shareholders would receive as
shareholders of Prosperity. The declaration and payment of such dividends will
be at the discretion of the board of directors of Paradigm and will depend upon
future earnings of Paradigm, its general financial condition, the success of its
business activities, its capital requirements and general business conditions.
The principal source of cash revenues to Prosperity is dividends paid
by Prosperity Bank with respect to its capital stock. There are certain
restrictions on the payment of such dividends imposed by federal and state
banking laws, regulations and authorities. As of June 30, 2002, an aggregate of
approximately $41.7 million was available for payment of dividends by Prosperity
Bank to Prosperity under applicable restrictions, without regulatory approval.
Regulatory authorities could impose administratively stricter limitations on the
ability of Prosperity Bank to pay dividends to Prosperity if such limits were
deemed appropriate to preserve certain capital adequacy requirements.
As of May 31, 2002, an aggregate of approximately $3.5 million was
available for payment of dividends by Paradigm Bank to Paradigm under applicable
restrictions, without regulatory approval. If Prosperity and Paradigm do not
merge, the board of directors of Paradigm intends to continue to consider the
payment of quarterly dividends on the outstanding shares of Paradigm common
stock.
DESCRIPTION OF PROSPERITY CAPITAL STOCK
General
Prosperity has authorized two classes of stock: (1) 50,000,000
authorized shares of Prosperity common stock, par value $1.00 per share,
16,279,370 shares of which are outstanding as of July 18, 2002; and (2)
20,000,000 authorized shares of preferred stock, par value $1.00 per share, none
of which have been issued. The following summary is qualified in its entirety by
reference to the articles of incorporation and bylaws of Prosperity.
Prosperity Common Stock
The holders of Prosperity common stock are entitled to one vote for
each share of Prosperity common stock owned. Except as expressly provided by law
and except for any voting rights that may be conferred on any shares of
preferred stock issued by the Prosperity board, all voting power is in
Prosperity common stock. Holders of Prosperity common stock may not cumulate
their votes for the election of directors. Holders of Prosperity common stock do
not have preemptive rights to acquire any additional, unissued or treasury
shares of Prosperity, or securities of Prosperity convertible into or carrying a
right to subscribe to or acquire shares of Prosperity.
98
Holders of Prosperity common stock will be entitled to receive
dividends out of funds legally available therefor, if and when properly declared
by the Prosperity board. However, the Prosperity board may not declare or pay
cash dividends on Prosperity common stock, and no Prosperity common stock may be
purchased by Prosperity, unless full dividends on outstanding preferred stock
for all past dividend periods and for the current dividend period, if any, have
been declared and paid.
On liquidation of Prosperity, the holders of Prosperity common stock
are entitled to share pro rata in any distribution of the assets of Prosperity,
after the holders of shares of preferred stock have received the liquidation
preference of their shares plus any cumulated but unpaid dividends, whether or
not earned or declared, if any, and after all other indebtedness of Prosperity
has been retired.
Preferred Stock
Prosperity is authorized to issue 20,000,000 shares of preferred stock.
The preferred stock is available for issuance from time to time for various
purposes as determined by the Prosperity board, including making future
acquisitions, raising additional equity capital and financing. Subject to
certain limits set by the Prosperity articles, the preferred stock may be issued
on such terms and conditions, and at such times and in such situations, as the
Prosperity board in its sole discretion determines to be appropriate, without
any further approval or action by the shareholders, unless otherwise required by
laws, rules, regulations or agreements applicable to Prosperity.
Moreover, except as otherwise limited by the Prosperity articles or
applicable laws, rules or regulations, the Prosperity board has the sole
authority to determine the relative rights and preferences of the preferred
stock and any series thereof without shareholder approval. The Prosperity
articles require all shares of preferred stock to be identical, except as to the
following characteristics, which may vary between different series of preferred
stock:
. dividend rate, preference of dividend with respect to any other
class or series of stock, and cumulativity, non-cumulativity or
partial cumulativity of dividends;
. redemption price and terms, including, to the extent permitted by
law, the manner in which shares are to be chosen for redemption
if less than all the shares of a series are to be redeemed;
. sinking fund provisions, if any, for the redemption or purchase
of shares;
. the amount payable upon shares in the event of voluntary or
involuntary liquidation;
. the terms and conditions on which shares may be converted, if the
shares of any series are issued with the privilege of conversion;
and
. voting rights.
The Prosperity board does not intend to seek shareholder approval prior
to any issuance of preferred stock or any series thereof, unless otherwise
required by law or the rules of any applicable securities exchange. Under Texas
law, shareholder approval prior to the issuance of shares of Prosperity common
stock is required in connection with certain mergers. Frequently, opportunities
arise that require prompt action, such as the possible acquisition of a property
or business or the private sale of securities, and it is the belief of the
Prosperity board that the delay necessary for shareholder approval of a specific
issuance could be to the detriment of Prosperity and its shareholders.
The preferred stock could be deemed to have an anti-takeover effect in
that, if a hostile takeover situation should arise, shares of preferred stock
could be issued to purchasers sympathetic with Prosperity's management or others
in such a way as to render more difficult or to discourage a merger, tender
offer, proxy contest, the assumption of control by a holder of a large block of
Prosperity's securities or the removal of incumbent management.
The effects of the issuance of the preferred stock on the holders of
Prosperity common stock could include:
. reduction of the amount otherwise available for payments of
dividends on Prosperity common stock if dividends are payable on
the series of preferred stock;
99
. restrictions on dividends on Prosperity common stock if dividends
on the series of preferred stock are in arrears;
. dilution of the voting power of Prosperity common stock if the
series of preferred stock has voting rights, including a possible
"veto" power if the series of preferred stock has class voting
rights;
. dilution of the equity interest of holders of Prosperity common
stock if the series of preferred stock is convertible, and is
converted, into Prosperity common stock; and
. restrictions on the rights of holders of Prosperity common stock
to share in Prosperity's assets upon liquidation until
satisfaction of any liquidation preference granted to the holders
of the series of preferred stock.
BUSINESS OF PROSPERITY
Prosperity is a financial holding company headquartered in Houston,
Texas. Prosperity conducts business through its subsidiary First Prosperity
Bank. Prosperity operates 32 full-service banking centers located throughout the
greater Houston metropolitan area and nine contiguous counties situated to the
south and southwest of Houston.
Prosperity operates under a community banking philosophy and seeks to
develop broad customer relationships based on service and convenience while
maintaining its conservative approach to lending and strong asset quality.
Prosperity offers its customers, primarily consumers and small and medium-sized
businesses, a variety of traditional loan and deposit products, which it tailors
to the specific needs of customers in a given market.
Prosperity began operations in 1983 as a vehicle to acquire the former
Allied Bank in Edna, which was chartered in 1949, and has grown through a
combination of internal growth, the acquisition of community banks and branches
and the opening of new banking centers. As of March 31, 2002, Prosperity, on a
consolidated basis, had total assets of $1.29 billion, total deposits of $1.14
billion and total shareholders' equity of $92.8 million.
Incorporation of Certain Documents by Reference
Certain documents filed by and relating to Prosperity are incorporated
herein by reference. See "Where You Can Find More Information" on page 101 for a
list of these documents.
Interests of Certain Persons
No director or executive officer of Prosperity has any material direct
or indirect financial interest in Paradigm or the merger, except as a director,
executive officer or shareholder of Prosperity or its subsidiaries.
EXPERTS
The consolidated financial statements of Prosperity incorporated in
this proxy statement-prospectus by reference from the Prosperity Annual Report
on Form 10-K for the year ended December 31, 2001 have been audited by Deloitte
& Touche LLP, independent auditors, as stated in their report which is
incorporated herein by reference, and have been so incorporated in reliance upon
the report of such firm given upon their authority as experts in accounting and
auditing.
The consolidated financial statements of Paradigm as of December 31,
2001 and 2000 and for each of the years in the three-year period ended December
31, 2001 included in this proxy statement-prospectus have been audited by Harper
& Pearson Company, P.C., independent auditors, as stated in their reports
appearing herein, and are included in reliance upon the report of such firm
given upon their authority as experts in accounting and auditing.
LEGAL MATTERS
The validity of the shares of Prosperity common stock to be issued by
Prosperity and certain matters related to federal income tax consequences of the
merger will be passed upon by Bracewell & Patterson, L.L.P., Houston, Texas.
Certain legal matters with respect to the merger will be passed upon for
Paradigm by Locke Liddell & Sapp LLP, Houston, Texas.
100
OTHER MATTERS
As of the date of this proxy statement-prospectus, the board of
directors of Paradigm knows of no matters that will be presented for
consideration at the special meeting of its shareholders other than as described
in this proxy statement-prospectus. However, if any other matters are properly
brought before the Paradigm special meeting or any adjournment or postponement
of the special meeting and are voted upon, it is intended that holders of the
proxies will act in accordance with their best judgment unless otherwise
indicated in the appropriate box on the proxy.
WHERE YOU CAN FIND MORE INFORMATION
Prosperity files reports, proxy statements and other information with
the Securities and Exchange Commission under the Securities Exchange Act of
1934. You may read and copy this information at the SEC's Public Reference Room,
450 Fifth Street, N.W., Washington, D.C. 20549.
You may obtain information on the operation of the Public Reference
Room by calling the SEC at 1-800-SEC-0330. The SEC also maintains an Internet
site that contains reports, proxy and information statements and other
information about issuers, like Prosperity, who file electronically with the
SEC. The address of that site is http://www.sec.gov.
The SEC allows Prosperity to "incorporate by reference," which means
that Prosperity can disclose important business and financial information to you
by referring you to another document filed separately with the SEC. The
information that Prosperity incorporates by reference is considered to be part
of this proxy statement-prospectus, and later information that Prosperity files
with the SEC will automatically update and supersede the information Prosperity
included in this proxy statement-prospectus. Prosperity incorporates by
reference the documents listed below:
. Annual Report on Form 10-K for the year ended December 31, 2001;
. Quarterly Report on Form 10-Q for the quarter ended March 31,
2002;
. Current Report on Form 8-K dated January 16, 2002;
. Current Report on Form 8-K dated February 22, 2002;
. Current Report on Form 8-K dated May 2, 2002;
. Current Report on Form 8-K dated May 8, 2002;
. Current Report on Form 8-K dated May 9, 2002;
. Current Report on Form 8-K dated July 12, 2002;
. Current Report on Form 8-K dated July 15, 2002;
. Current Report on Form 8-K dated July 15, 2002; and
. Proxy Statement dated March 15, 2002, relating to its annual
meeting of shareholders held on April 16, 2002.
Prosperity also incorporates by reference any future filings it makes
with the Commission under Sections 13(a), 13(c), 14 or 15(d) of the Exchange Act
after the date of this proxy statement-prospectus and before the meeting. Any
statement contained in this proxy statement-prospectus or in a document
incorporated or deemed to be incorporated by reference in this proxy
statement-prospectus shall be deemed to be modified or superseded to the extent
that a statement contained herein or in any subsequently filed document that
also is, or is deemed to be, incorporated by reference herein modified or
superceded such statement.
Upon your written or oral request, Prosperity will provide you without
charge a copy of any or all of the documents incorporated by reference herein,
other than the exhibits to those documents, unless the exhibits are specifically
incorporated by reference into the information that this proxy
statement-prospectus incorporates. Your
101
written or oral requests for copies of this proxy statement-prospectus and
documents Prosperity has incorporated by reference should be directed to:
Prosperity Bancshares, Inc.
4295 San Felipe
Houston, Texas 77027
Attention: Dan Rollins
Telephone (713) 693-9300
Facsimile (713) 693-9309
To obtain timely delivery, you must make a written or oral request for
a copy of such information by August 19, 2002.
Any statement contained in a document incorporated or deemed to be
incorporated by reference into this proxy statement-prospectus will be deemed to
be modified or superseded for purposes of this proxy statement-prospectus to the
extent that a statement contained in this proxy statement-prospectus or any
other subsequently filed document that is deemed to be incorporated by reference
into this proxy statement-prospectus modifies or supersedes the statement. Any
statement so modified or superseded will not be deemed, except as so modified or
superseded, to constitute a part of this proxy statement-prospectus.
Prosperity has filed a registration statement on Form S-4 under the
Securities Act with the SEC with respect to Prosperity common stock to be issued
to Paradigm shareholders in the merger. This proxy statement-prospectus
constitutes the prospectus of Prosperity filed as part of the registration
statement. This proxy statement-prospectus does not contain all of the
information set forth in the registration statement because certain parts of the
registration statement are omitted in accordance with the rules and regulations
of the SEC. The registration statement and its exhibits are available for
inspection and copying as set forth above.
You should rely only on the information contained in this proxy
statement-prospectus or contained in documents incorporated by reference into
this document. Neither Prosperity nor Paradigm have authorized anyone to provide
you with different information. Therefore, if anyone gives you different or
additional information, you should not rely on it. The information contained in
this proxy statement-prospectus is correct as of its date. It may not continue
to be correct after this date. Paradigm has supplied all of the information
about Paradigm contained in this proxy statement-prospectus and Prosperity
supplied all of the information contained in this proxy statement-prospectus
about Prosperity and its subsidiaries. Each of us is relying on the correctness
of the information supplied by the other.
This proxy statement-prospectus does not constitute an offer to sell,
or a solicitation of an offer to purchase, the securities offered by this proxy
statement-prospectus, or the solicitation of a proxy, in any jurisdiction or
from any person to whom or from it is unlawful to make such offer, solicitation
of an offer or proxy solicitation in such jurisdiction.
102
Index to Financial Statements of
Paradigm Bancorporation, Inc.
Page
----
Consolidated Statements of Condition as of March 31, 2002 (Unaudited) and December 31, 2001 ............ F-2
Consolidated Statements of Income for the Three Months Ended March 31,
2002 and 2001 (Unaudited) ..................................................................... F-3
Consolidated Statements of Changes in Stockholders' Equity for the Quarter Ended March 31,
2002 (Unaudited) and the Years Ended December 31, 2001 and 2000 ............................... F-4
Consolidated Statements of Cash Flows for the Quarter Ended March 31, 2002
and 2001 (Unaudited) .......................................................................... F-5
Notes to Consolidated Financial Statements ............................................................. F-6
Independent Auditors' Report for the Years Ended December 31, 2001
and 2000 ...................................................................................... F-8
Consolidated Statements of Condition as of December 31, 2001 and 2000 .................................. F-9
Consolidated Statements of Income for the Years Ended December 31, 2001
and 2000 ...................................................................................... F-10
Consolidated Statements of Changes in Stockholders' Equity for the Years Ended
December 31, 2001 and 2000 .................................................................... F-11
Consolidated Statements of Cash Flows for the for the Years Ended
December 31, 2001 and 2000 .................................................................... F-12
Notes to Consolidated Financial Statements ............................................................. F-13
F-1
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Consolidated Statements of Condition
March 31, 2002 (unaudited) and December 31, 2001
--------------------------------------------------------------------------------
March 31, December 31,
ASSETS 2002 2001
----------------- -----------------
Cash and due from banks $ 15,633,752 $ 15,073,333
Federal funds sold 4,283,526 6,255,461
--------------- ---------------
Total cash and cash equivalents 19,917,278 21,328,794
Interest-bearing deposits in financial institutions 5,314,037 5,357,902
Securities available for sale, at fair value 29,551,950 34,619,619
Securities to be held to maturity, at amortized cost 13,753,418 9,032,537
Loans 170,591,305 170,758,122
Less allowance for credit losses (1,928,887) (1,569,769)
--------------- ---------------
Loans, net 168,662,418 169,188,353
Accrued interest receivable 1,366,673 1,467,708
Real estate acquired by foreclosure 332,733 265,874
Premises and equipment, net 12,067,389 12,255,723
Goodwill, net 3,309,858 3,309,858
Other assets 2,461,353 2,435,410
--------------- ---------------
Total Assets $ 256,737,107 $ 259,261,778
=============== ===============
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities
Deposits:
Noninterest-bearing deposits $ 86,070,772 $ 83,858,012
Interest-bearing deposits 74,325,857 76,403,927
Interest-bearing, certificates of deposit 69,891,373 72,112,891
--------------- ---------------
Total Deposits 230,288,002 232,374,830
Accrued interest payable 406,062 520,895
Federal funds purchased - -
Due to former shareholders 346,011 830,715
Other liabilities 1,328,170 1,432,155
--------------- ---------------
Total Liabilities 232,368,245 235,158,595
--------------- ---------------
Commitments and Contingencies
Company obligated mandatorily redeemable trust preferred
securities of subsidiary trust 6,000,000 6,000,000
--------------- ---------------
Stockholders' Equity
Preferred stock, $10 par value, 10,000,000 shares authorized,
1 share issued and outstanding 10 10
Common stock, $1 par value, 25,000,000 shares authorized,
2,375,000 shares issued and outstanding 2,375,000 2,375,000
Capital surplus 10,793,381 10,793,381
Retained earnings 5,137,144 4,783,367
Accumulated other comprehensive income, net of tax 63,327 151,425
--------------- ---------------
Total Stockholders' Equity 18,368,862 18,103,183
--------------- ---------------
Total Liabilities and Stockholders' Equity $ 256,737,107 $ 259,261,778
=============== ===============
See accompanying notes.
F-2
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Consolidated Statements of Income
For the Three Months Ended March 31, 2002 and 2001
Unaudited
--------------------------------------------------------------------------------
Three Months ended March 31
--------------------------------------------
2002 2001
-------------------- --------------------
Interest Income
Interest and fees on loans $ 3,018,057 $ 3,224,153
Investment securities 494,431 621,148
Federal funds sold 64,137 112,359
----------- -----------
Total Interest Income 3,576,625 3,957,660
Interest Expense, Deposits and Debt 977,331 1,395,327
----------- -----------
Net Interest Income 2,599,294 2,562,333
Provision for Credit Losses 121,230 215,000
----------- -----------
Net Interest Income after Provision for Credit Losses 2,478,064 2,347,333
----------- -----------
Non Interest Income
Customer service fees 979,676 1,050,979
Gain on sale of securities 206,389 378,327
Other non interest income (loss) (81,943) 131,053
----------- -----------
Total Non Interest Income 1,104,122 1,560,359
----------- -----------
Total Income before non-interest expenses 3,582,186 3,907,692
----------- -----------
Non Interest Expenses
Salaries and employee benefits 1,456,383 1,467,192
Net occupancy expense 288,824 278,201
Outside service fees 211,123 342,290
Depreciation and amortization 268,488 302,255
Minority interest expense, company obligated mandatorily
redeemable trust preferred securities of subsidiary trust 100,602 139,271
Other non interest expenses 764,989 696,121
----------- -----------
Total Non Interest Expenses 3,090,409 3,225,330
----------- -----------
Net Income Before Income Tax Expense 491,777 682,362
Income Tax Expense 138,000 211,500
----------- -----------
Consolidated Net Income 353,777 470,862
Other Comprehensive Income (Loss)
Unrealized gain on available for sale securities (88,098) (43,475)
----------- -----------
Comprehensive Income $ 265,679 $ 427,387
=========== ===========
Earnings per Share, Basic and Diluted $ 0.15 $ 0.20
=========== ===========
Dividends paid per share on common stock $ - $ -
=========== ===========
See accompanying notes.
F-3
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Consolidated Statements of Changes in Stockholders' Equity
For the Quarter Ended March 31, 2002 (Unaudited) and
Years Ended December 31, 2001 and 2000
--------------------------------------------------------------------------------
Accumulated
Other
Preferred Common Capital Retained Comprehensive
Stock Stock Surplus Earnings Income (Loss) Total
------------ ------------ ------------ ------------ ------------- ------------
Balance December 31, 1999 $ 10 $ 2,375,000 $ 10,793,381 $ 2,280,423 $ (201,036) $ 15,247,778
Consolidated net income 2,230,599 2,230,599
Change in unrealized gain on
securities, net of income taxes
of $252,483 490,115 490,115
------------
Total Comprehensive Income 2,720,714
Cash dividends (712,213) (712,213)
------------ ------------ ------------ ------------ ------------- ------------
Balance December 31, 2000 10 2,375,000 10,793,381 3,798,809 289,079 17,256,279
Consolidated net income 1,127,158 1,127,158
Change in Unrealized gain on
securities, net of income taxes
of $70,913 (137,654) (137,654)
------------
Total Comprehensive Income 989,504
Cash dividends (142,600) (142,600)
------------------------- ------------ ---------------------------- ------------
Balance December 31, 2001 $ 10 $ 2,375,000 $ 10,793,381 $ 4,783,367 $ 151,425 $ 18,103,183
Consolidated net income 353,777 353,777
Change in Unrealized gain on
securities, net of income taxes
of $32,623 (88,098) (88,098)
------------
Total Comprehensive Income 265,679
Cash dividends - -
------------------------- ------------ ---------------------------- ------------
Balance March 31, 2002 $ 10 $ 2,375,000 $ 10,793,381 $ 5,137,144 $ 63,327 $ 18,368,862
========================= ============ ============================ ============
See accompanying notes.
F-4
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
For the Quarter Ended March 31, 2002 and 2001
unaudited
--------------------------------------------------------------------------------
2002 2001
------------ ------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Consolidated net income $ 353,777 $ 470,862
Adjustments to reconcile consolidated net income to
net cash provided by operating activities:
Provision for credit losses 121,230 215,000
Depreciation and amortization of fixed assets 268,848 247,010
Amortization of goodwill - 55,245
Net amortization/accretion on securities 35,666 (25,733)
Gain on sales of securities (206,389) -
Changes in assets and liabilities:
Accrued interest receivable 101,035 369,895
Real estate acquired by foreclosure (66,859) 133,000
Other assets (25,943) (320,213)
Accrued interest payable (114,833) 29,356
Other liabilities (103,985) (264,277)
------------ ------------
Net cash provided by operating activities 362,547 910,145
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from maturities of interest-bearing deposits
in financial institutions 5,059,902 689,000
Purchase of interest-bearing deposits in financial institutions (5,016,037) -
Proceeds from maturities, calls and paydowns of securities 1,324,110 11,589,503
Proceeds from sales of securities 11,978,952 16,126,714
Purchase of securities (12,873,649) (15,710,399)
Net change in loans 404,705 (1,926,866)
Purchases of premises and equipment, net (80,514) (631,335)
------------ ------------
Net cash used by investing activities 797,469 10,136,617
CASH FLOWS FROM FINANCING ACTIVITIES:
Net change in deposits (2,086,828) 5,337,192
Change in federal funds purchased - (1,500,000)
Retirement of trust preferred securities - (5,125,000)
Issuance of trust preferred securities - 6,000,000
Payments due to former shareholders (484,704) (56,183)
------------ ------------
Net cash provided by financing activities (2,571,532) 4,656,009
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (1,411,516) 15,702,771
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 21,328,794 15,768,594
------------ ------------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 19,917,278 $ 31,471,365
============ ============
Supplemental cash flow information
Cash interest payments $ 1,092,164 $ 2,618,397
Cash paid for income taxes $ 119,000 $ 105,000
See accompanying notes.
F-5
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
March 31, 2002 and 2001
--------------------------------------------------------------------------------
NOTE A BASIS OF PRESENTATION
The accompanying unaudited interim consolidated financial statements
have been prepared in accordance with generally accepted accounting
principles for interim financial information and with the rules and
regulations of the Securities and Exchange Commission. Accordingly,
they do not include all of the information and footnotes required by
generally accepted accounting principles for complete financial
statements. In the opinion of management, all adjustments (consisting
of normal recurring items) considered necessary for a fair
presentation have been included. Operating results for the three-month
period ended March 31, 2002 are not necessarily indicative of the
results that may be expected for the entire year or any interim
period. For further information, refer to the consolidated financial
statements and notes thereto included in the annual report on Form
10-KSB of Paradigm Bancorporation, Inc. and Subsidiaries for the year
ended December 31, 2001. Certain prior period amounts have been
reclassified to conform to current period presentation.
NOTE B EARNINGS PER COMMON SHARE
Earnings per common share (EPS) were computed based on the following:
Three months ended March 31
-------------------------------
Earnings Per Share Calculation 2002 2001
------------------------------ --------------- ---------------
Consolidated net income $ 353,777 $ 470,862
Weighted average shares outstanding,
basic and diluted 2,375,000 2,375,000
--------------- ---------------
Earnings per share, basic and diluted $ 0.15 $ 0.20
=============== ===============
Because share prices have been at or below option strike prices, there
were no material dilutive securities as of March 31, 2002 and 2001.
NOTE C SUBSEQUENT EVENT - PROPERTY SALE
In June 2002, Paradigm received gross proceeds of $1,069,000 from the
State of Texas and Harris County as compensation for taking part of
the banking center land and parking lot at 2828 FM 1960 East. In June
2002, Paradigm recognized a gain on sale of that property of $427,000,
net of the property cost basis, attorney's fees and other transaction
costs.
NOTE D EFFECT OF THE MERGER ON COMPENSATION EXPENSE
As a result of the proposed merger between Paradigm Bancorporation,
Inc. and Prosperity Bancshares, Inc., certain senior officers of
Paradigm will receive change in control payments in the aggregate
amount of $653,000. The change in control payments will be recorded as
compensation expense by Paradigm immediately prior to the closing of
the merger.
F-6
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
March 31, 2002 and 2001
--------------------------------------------------------------------------------
NOTE D EFFECT OF THE MERGER ON COMPENSATION EXPENSE (continued)
Stock options issued pursuant to the Paradigm Bancorporation, Inc.
1999 Stock Incentive Plan that are outstanding immediately prior to
completion of the merger will vest and will automatically be converted
into an option to purchase Prosperity common stock and will continue
to be governed by the terms of the original plan under which they were
issued. Management anticipates that 32,340 stock options will be
outstanding at the closing date of the merger.
Stock Appreciation Rights (SAR) granted pursuant to the Paradigm 1998
Stock Appreciation Rights Plan that are outstanding immediately prior
to completion of the merger will be cancelled and automatically
convert into the right of each holder to receive for each SAR an
amount of cash determined by certain calculations related to the price
of Prosperity common stock at the agreed upon exchange rate.
Managements' estimate of expense to be recorded by Paradigm
immediately prior to the closing of the merger, based upon the market
price of Prosperity common stock at May 30, 2002, is $640,000.
F-7
INDEPENDENT AUDITOR'S REPORT
To the Board of Directors
Paradigm Bancorporation, Inc.
Houston, Texas
We have audited the accompanying consolidated statements of condition of
Paradigm Bancorporation, Inc. and Subsidiaries as of December 31, 2001 and 2000,
and the related consolidated statements of income, changes in stockholders'
equity and cash flows for the years then ended. These consolidated financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing standards
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the consolidated financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the consolidated
financial statements. An audit also includes assessing the accounting principles
used and significant estimates made by management, as well as evaluating the
overall financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Paradigm
Bancorporation, Inc. and Subsidiaries at December 31, 2001 and 2000, and the
results of their operations and their cash flows for the years then ended in
conformity with generally accepted accounting principles in the United States.
/s/ Harper & Pearson Company, P.C.
Houston, Texas
February 15, 2002
F-8
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Consolidated Statements of Condition
December 31, 2001 and 2000
--------------------------------------------------------------------------------
ASSETS 2001 2000
------------- -------------
Cash and due from banks $ 15,073,333 $ 15,768,594
Federal funds sold 6,255,461 -
------------- -------------
Total cash and cash equivalents 21,328,794 15,768,594
Interest-bearing deposits in financial institutions 5,357,902 1,479,000
Securities available for sale 34,619,619 27,767,213
Securities to be held to maturity 9,032,537 18,983,049
Loans 170,758,122 133,468,253
Less allowance for credit losses (1,569,769) (1,136,068)
------------- -------------
Loans, net 169,188,353 132,332,185
Accrued interest receivable 1,467,708 1,743,799
Goodwill, net 3,309,858 3,434,426
Premises and equipment, net 12,255,723 11,406,558
Other real estate owned 265,874 450,331
Other assets 2,435,410 1,939,282
------------- -------------
Total Assets $ 259,261,778 $ 215,304,437
============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities
Deposits:
Noninterest-bearing $ 83,858,012 $ 69,808,920
Interest-bearing, checking and savings 76,403,927 56,177,248
Interest-bearing, certificates of deposit 72,112,891 62,018,694
------------- -------------
Total Deposits 232,374,830 188,004,862
Due to former shareholders 830,715 1,305,644
Federal funds purchased - 1,500,000
Accrued interest payable 520,895 596,922
Other liabilities 1,432,155 1,515,730
------------- -------------
Total Liabilities 235,158,595 192,923,158
------------- -------------
Commitments and Contingencies
Company obligated mandatorily redeemable trust preferred
securities of subsidiary trust 6,000,000 5,125,000
------------- -------------
Stockholders' Equity
Preferred stock, $10 par value, 10,000,000 shares authorized,
1 share issued and outstanding 10 10
Common stock, $1 par value, 25,000,000 shares authorized,
2,375,000 shares issued and outstanding 2,375,000 2,375,000
Capital surplus 10,793,381 10,793,381
Retained earnings 4,783,367 3,798,809
Accumulated other comprehensive income 151,425 289,079
------------- -------------
Total Stockholders' Equity 18,103,183 17,256,279
------------- -------------
Total Liabilities and Stockholders' Equity $ 259,261,778 $ 215,304,437
============= =============
See accompanying notes.
F-9
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Consolidated Statements of Income
Years Ended December 31, 2001 and 2000
--------------------------------------------------------------------------------
2001 2000
------------ ------------
INTEREST INCOME
Interest and fees on loans $ 12,753,003 $ 12,305,494
Investment securities 2,492,604 3,203,720
Federal funds sold 455,353 261,947
------------ ------------
Total Interest Income 15,700,960 15,771,161
INTEREST EXPENSE
Deposits and debt 5,371,872 5,064,978
------------ ------------
NET INTEREST INCOME 10,329,088 10,706,183
PROVISION FOR CREDIT LOSSES 1,009,592 701,000
------------ ------------
NET INTEREST INCOME AFTER PROVISION FOR CREDIT LOSSES 9,319,496 10,005,183
------------ ------------
NON INTEREST INCOME
Customer service fees 4,229,601 3,499,740
Gain on sale of securities 449,781 105,000
Other income 288,603 153,259
------------ ------------
Total Non Interest Income 4,967,985 3,757,999
------------ ------------
NON INTEREST EXPENSES
Salaries and employee benefits 5,710,921 5,035,514
Net occupancy expense 1,159,365 994,311
Outside service fees 1,165,494 677,614
Depreciation and amortization 1,292,364 915,752
Minority interest expense, company obligated mandatorily
redeemable trust preferred securities of subsidiary trust 539,306 531,719
Other expenses 2,947,686 2,337,324
------------ ------------
Total Non Interest Expenses 12,815,136 10,492,234
------------ ------------
NET INCOME BEFORE INCOME TAX EXPENSE 1,472,345 3,270,948
INCOME TAX EXPENSE 345,187 1,040,349
------------ ------------
CONSOLIDATED NET INCOME 1,127,158 2,230,599
OTHER COMPREHENSIVE (LOSS) INCOME (137,654) 490,115
COMPREHENSIVE INCOME $ 989,504 $ 2,720,714
============ ============
CONSOLIDATED BASIC AND DILUTED EARNINGS PER SHARE $ 0.47 $ 0.94
============ ============
DIVIDENDS PAID PER SHARE ON COMMON STOCK $ 0.06 $ 0.30
============ ============
See accompanying notes.
F-10
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Consolidated Statements of Changes in Stockholders' Equity
Years Ended December 31, 2001 and 2000
--------------------------------------------------------------------------------
Accumulated
Other
Preferred Common Capital Retained Comprehensive
Stock Stock Surplus Earnings Income (Loss) Total
------------ ------------ ------------ ------------ ------------- ------------
Balance - December 31, 1999 $ 10 $ 2,375,000 $ 10,793,381 $ 2,280,423 ($201,036) $ 15,247,778
Consolidated Net Income - - - 2,230,599 - 2,230,599
Change in Unrealized Gain on
Securities, Net of Income
Taxes of $252,483 - - - - 490,115 490,115
------------
Total Comprehensive Income 2,720,714
Cash Dividends - - - (712,213) - (712,213)
------------ ------------ ------------ ------------ ------------ ------------
Balance - December 31, 2000 10 2,375,000 10,793,381 3,798,809 289,079 17,256,279
Consolidated Net Income - - - 1,127,158 - 1,127,158
Change in Unrealized Gain on
Securities, Net of Income
Taxes of $70,913 - - - - (137,654) (137,654)
------------
Total Comprehensive Income 989,504
Cash Dividends - - - (142,600) - (142,600)
------------ ------------ ------------ ------------ ------------ ------------
Balance - December 31, 2001 $ 10 $ 2,375,000 $ 10,793,381 $ 4,783,367 $ 151,425 $ 18,103,183
============ ============ ============ ============ ============ ============
See accompanying notes.
F-11
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
Years Ended December 31, 2001 and 2000
--------------------------------------------------------------------------------
2001 2000
------------------ -----------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Consolidated net income $ 1,127,158 $ 2,230,599
------------ ------------
Adjustments to reconcile consolidated net income to
net cash provided by operating activities:
Depreciation and amortization of fixed assets 1,097,345 695,052
Provision for credit losses 1,009,592 701,000
Amortization of goodwill 195,019 220,700
Net amortization/accretion on securities 25,225 10,694
Gain on sales of securities (449,781) (105,000)
Change in assets and liabilities:
Accrued interest receivable 276,091 (247,464)
Other real estate owned 39,457 91,412
Other assets (496,128) (343,932)
Accrued interest payable (76,027) 163,578
Other liabilities (83,575) 169,983
------------ ------------
Total adjustments 1,537,218 1,356,023
------------ ------------
Net cash provided by operating activities 2,664,376 3,586,622
------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from maturities of interest-bearing deposits
in financial institutions 1,376,000 4,149,000
Purchase of interest-bearing deposits in financial institutions (5,254,902) (587,000)
Proceeds from maturities, calls and paydowns of securities 25,291,701 5,243,531
Proceeds from sales of securities 22,723,004 300,000
Purchase of securities (44,629,697) (195,000)
Net change in loans (37,865,760) (22,468,798)
Purchases of premises and equipment, net (1,801,510) (2,138,045)
Other (70,451) (63,850)
------------ ------------
Net cash used by investing activities (40,231,615) (15,760,162)
------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net change in deposits 44,369,968 5,962,468
Payments on due to former shareholders (474,929) (5,347,507)
Increase (decrease) in federal funds purchased (1,500,000) 1,500,000
Retirement of trust preferred securities (5,125,000) -
Issuance of trust preferred securities 6,000,000 -
Dividends paid on common stock (142,600) (712,213)
------------ ------------
Net cash provided by financing activities 43,127,439 1,402,748
------------ ------------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 5,560,200 (10,770,792)
CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR 15,768,594 26,539,386
------------ ------------
CASH AND CASH EQUIVALENTS AT END OF YEAR $ 21,328,794 $ 15,768,594
============ ============
See accompanying notes.
F-12
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Notes To Consolidated Financial Statements
December 31, 2001 and 2000
--------------------------------------------------------------------------------
NOTE A ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING AND REPORTING
POLICIES
Principles of Consolidation - The accompanying consolidated financial
---------------------------
statements include the accounts of Paradigm Bancorporation, Inc.
(Paradigm) and its wholly owned subsidiaries Paradigm Capital Trust I
(Trust I), Paradigm Capital Trust II (Trust II), Paradigm Delaware
Bancorporation, Inc. (Delaware), and Paradigm Bank Texas (Paradigm
Bank or Bank). Paradigm Bank was formed as a result of the merger of
Woodcreek Bank (Woodcreek) and Dayton State Bank (Dayton) in 2000.
All significant intercompany balances and activity have been
eliminated.
Nature of Operations - Paradigm through its subsidiary, Paradigm
--------------------
Bank, provides a broad line of banking products and services for
small to medium-sized businesses and for individuals through its
community banking offices in Houston, Galveston, Dayton, Winnie and
Mt. Belvieu, Texas.
Purchase of First National Bank of Dayton (First National) - In 1997,
----------------------------------------------------------
Woodcreek acquired the First National Bank of Dayton for about
$2,508,000. This was accounted for as a purchase and accordingly, the
operating results of First National are included in the results of
operations of Paradigm Bank from the date of acquisition. The excess
of the consideration paid over the fair value of the net assets
acquired was recorded as goodwill of about $794,000. As explained in
Note I, about $331,000 of goodwill from the purchase of First
National was reclassified to deferred tax assets in 2000. The
remaining goodwill of about $463,000 from this purchase is being
amortized ratably over 15 years. A change in accounting treatment for
purchased goodwill will be adopted by Paradigm January 1, 2002 as
explained in Note A under Goodwill and Other Intangible Assets.
Purchase of Dayton State Bank - Effective December 1, 1999, Paradigm
-----------------------------
acquired all of the outstanding common stock of Dayton for
$17,257,912. This acquisition was accounted for as a purchase and
accordingly, the operating results of Dayton are included in
Paradigm's results of operations from the date of acquisition. The
excess of the consideration paid over the fair value of the net
assets acquired was recorded as goodwill of about $3,298,000 and is
being amortized ratably over 20 years. Please refer to Goodwill and
Other Intangible Assets as included in Note A for a change in this
accounting method effective January 1, 2002. In December 2000, Dayton
was merged with Woodcreek to form Paradigm Bank.
To finance the Dayton purchase, Paradigm: (1) sold 875,000 of its
common shares for $7,000,000; (2) formed a wholly-owned subsidiary,
Paradigm Capital Trust I, which sold 512,500 shares of trust
preferred securities for $5,000,000; and (3) upon closing the
transaction with the Dayton shareholders, received a $5,600,000
dividend from Dayton which was then paid to Dayton shareholders as
part of the purchase price.
F-13
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Notes To Consolidated Financial Statements
December 31, 2001 and 2000
--------------------------------------------------------------------------------
NOTE A ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING AND REPORTING
POLICIES (continued)
In 2000, Paradigm Capital Trust II (Trust II), a statutory business
trust was formed under the laws of the State of Delaware. In February
2001, Trust II then sold 600,000 Floating Rate Cumulative Trust
Preferred Securities for $6,000,000 cash. These securities are
registered with the Securities and Exchange Commission and are traded
in the over the counter market. The trust preferred securities of
Trust II have a $10 liquidation preference, provide for quarterly
interest payments at the three month LIBOR rate plus 4.5%, and must
be redeemed no later than February 14, 2031. The trust preferred
securities may be redeemed on or after February 14, 2006 if certain
conditions (including approval from the Federal Reserve, if then
required) are met. Proceeds of this sale were used primarily to pay
off the existing outstanding trust preferred securities of Trust I
for $5,201,814, which included accrued interest of about $77,000.
At December 31, 2001 and 2000, certain of the selling Dayton
shareholders had not yet tendered their Dayton shares to Paradigm.
Consequently, about $222,000 and $646,000 of the purchase cost was
included in due to former shareholders in the accompanying
consolidated statements of condition for December 31, 2001 and 2000,
respectively. This will be paid to the selling Dayton shareholders
upon receipt by Paradigm of the certificates representing the shares
of Dayton common stock held by the former Dayton shareholders.
Pursuant to the terms of the purchase agreement, Paradigm is holding
approximately $468,000 in escrow for the benefit of the selling
Dayton shareholders. This amount is included in due to shareholders
on the consolidated statements of condition. Under this agreement,
some or all of this escrow will be paid to the former Dayton
shareholders after specified loans have been paid off or deemed to be
paying as agreed without risk of loss to the Bank. At the expiration
of the escrow agreement, amounts held in escrow specifically assigned
to loans that have not paid off and continue to present a risk of
loss to the Bank will become the property of Paradigm. The
dispensation of the funds held in escrow is described in Note U.
Summary of Significant Accounting and Reporting Policies - The
--------------------------------------------------------
accounting and reporting policies of Paradigm conform to generally
accepted accounting principles in the United States (GAAP) and to the
prevailing practices within the banking industry. A summary of
significant accounting policies is as follows:
Account Classification - Certain prior year amounts have been
----------------------
reclassified to conform to the current year presentation.
Use of Estimates - The preparation of financial statements in
----------------
conformity with GAAP requires management to make estimates and
assumptions that affect the reported amounts of assets and
liabilities and disclosures of contingent assets and liabilities at
the date of the financial statements and the reported amounts of
revenues and expenses during the reporting period. Actual results
could differ from these estimates.
F-14
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Notes To Consolidated Financial Statements
December 31, 2001 and 2000
--------------------------------------------------------------------------------
NOTE A ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING AND REPORTING
POLICIES (continued)
The determination of the adequacy of the allowance for credit losses
is based on estimates that are susceptible to significant changes in
the economic environment and market conditions. The Bank's loans are
generally secured by specific items of collateral including real
property, consumer assets, and business assets. Although the Bank has
a diversified loan portfolio, a substantial portion of the debtors'
ability to honor their contracts is dependent on local economic
conditions. In connection with the determination of the estimated
exposure and risk of loss on loans, management obtains independent
appraisals for significant collateral.
While management uses available information to recognize losses on
loans, further reductions in the carrying amounts of loans may be
necessary based on changes in local economic conditions. In addition,
regulatory agencies, as an integral part of their examination
process, periodically review the estimated losses on loans. Such
agencies may require the Bank to recognize additional losses based on
their judgments about information available to them at the time of
their examination. Because of these factors, it is reasonably
possible that the estimated losses on loans may change materially in
the near term. However, the amount of the change that is reasonably
possible cannot be estimated.
Cash and Due From Banks - The Bank is required to maintain reserves
-----------------------
for the purpose of facilitating the implementation of monetary
policy. These reserves may be maintained in the form of balances at
the Federal Reserve Bank, a correspondent bank, or by vault cash.
Reserve requirements were $5,302,000 and $2,485,000 at December 31,
2001 and 2000, respectively. Accordingly, cash and due from banks
balances were restricted to that extent. The Bank's cash in financial
institutions exceeded the federally insured deposits limit by
approximately $2,460,000 at December 31, 2001. In managing this
credit risk, the Bank periodically evaluates the stability of the
financial institutions in which it maintains cash balances.
Investment Securities - Available-for-sale investment securities are
---------------------
carried at fair value. Unrealized gains and losses are excluded from
earnings and reported as a separate component of stockholders' equity
until realized. Securities within the available-for-sale portfolio
may be used as part of the Bank's assets/liability strategy and may
be sold in response to changes in interest rate risk, prepayment risk
or other similar economic factors.
Held-to-maturity investment securities are carried at cost, adjusted
for the amortization of premiums and the accretion of discounts.
Management has the positive intent and the Bank has the ability to
hold these assets as long-term investments until their estimated
maturities. Under certain circumstances (including the significant
deterioration of the issuer's creditworthiness or a significant
change in tax-exempt status or statutory or regulatory requirements),
securities held to maturity may be sold or transferred to another
portfolio.
Premiums and discounts are amortized and accreted to operations using
the level yield method of accounting, adjusted for prepayments as
applicable. The specific identification method of accounting is used
to compute gains or losses on the sale of these assets.
F-15
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Notes To Consolidated Financial Statements
December 31, 2001 and 2000
--------------------------------------------------------------------------------
NOTE A ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING AND REPORTING
POLICIES (continued)
Loans - Loans are stated at the principal amount outstanding, net of
-----
unearned discounts. Unearned discounts relate principally to consumer
installment loans and are amortized using a method that approximates
the interest method. For other loans, such income is recognized using
the simple interest method.
Nonperforming Loans and Past-Due Loans - Included in the
--------------------------------------
nonperforming and past-due loans category are loans which have been
categorized by management as nonaccrual because collection of
interest is doubtful and loans which have been restructured to
provide a reduction in the interest rate or a deferral of interest or
principal payments.
When the payment of principal or interest on a loan is delinquent for
90 days, or earlier in some cases, the loan is placed on nonaccrual
status, unless the loan is in the process of collection and the
underlying collateral fully supports the carrying value of the loan.
If the decision is made to continue accruing interest on the loan,
periodic reviews are made to confirm the accruing status of the loan.
When a loan is placed on nonaccrual status, interest accrued during
the current year prior to the judgment of uncollectibility is charged
to operations. Interest accrued during prior periods is charged to
the allowance for credit losses. Generally, any payments received on
nonaccrual loans are applied first to outstanding loan amounts and
next to the recovery of charged-off loan amounts. Any excess is
treated as recovery of lost interest.
Restructured loans are those loans on which concessions in terms have
been granted because of a borrower's financial difficulty. Interest
is generally accrued on such loans in accordance with the new terms.
Allowance for Credit Losses - The allowance for credit losses is a
---------------------------
valuation allowance available for losses incurred on loans. All
losses are charged to the allowance when the loss actually occurs or
when a determination is made that a loss is likely to occur.
Recoveries are credited to the allowance at the time of recovery.
Throughout the year, management estimates the likely level of losses
to determine whether the allowance for credit losses is adequate to
absorb losses inherent in the existing portfolio. Based on these
estimates, an amount is charged to the provision for credit losses
and credited to the allowance for credit losses in order to adjust
the allowance to a level determined to be adequate to absorb such
inherent losses.
Management's judgment as to the level of losses on existing loans
involves the consideration of current and anticipated economic
conditions and their potential effects on specific borrowers; an
evaluation of the existing relationships among loans, potential
credit losses and the present level of the allowance; results of
examinations of the loan portfolio by regulatory agencies; and
management's internal review of the loan portfolio. In determining
the collectibility of certain loans, management also considers the
fair value of any underlying collateral. The amounts ultimately
realized may differ from the carrying value of these assets because
of economic, operating or other conditions beyond the Bank's control.
F-16
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Notes To Consolidated Financial Statements
December 31, 2001 and 2000
--------------------------------------------------------------------------------
NOTE A ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING AND REPORTING
POLICIES (continued)
Estimates of credit losses involve an exercise of judgment. While it
is reasonably possible that in the short-term the Bank may sustain
losses which are substantial relative to the allowance for credit
losses, it is the judgment of management that the allowance for credit
losses reflected in the statements of condition is adequate to absorb
estimated losses which may exist in the loan portfolio as of the dates
of the statements of condition.
Real Estate Acquired by Foreclosure - The Bank records real estate
-----------------------------------
acquired by foreclosure at the lesser of the outstanding loan amount
(including accrued interest, if any) or fair value, less estimated
costs to sell, at the time of foreclosure. Adjustments are made to
reflect declines in value subsequent to acquisition, if any, below the
recorded amounts. Operating expenses of such properties, net of
related income, and gains and losses on their disposition are included
in other non-interest expense.
Premises and Equipment - Land is carried at cost. Premises and
----------------------
equipment are carried at cost less accumulated depreciation and
amortization. Depreciation expense is computed principally using the
straight-line method of accounting over the estimated useful lives of
the assets. Leasehold improvements are amortized straight-line over
the periods of the leases or the estimated useful lives, whichever is
shorter.
Goodwill and Other Intangible Assets - The adoption of Statement of
------------------------------------
Financial Accounting Standard (SFAS) No. 142 by Paradigm, effective
January 1, 2002, will eliminate the regular amortization of purchased
goodwill on the Bank's books. Paradigm recognized amortization expense
for purchased goodwill of $195,000 and $221,000 for the years ended
December 31, 2001 and 2000, respectively which will not recur in 2002
under this standard. Instead, this new standard will require a regular
assessment for impairment of goodwill, and a write down of the
goodwill if impairment occurs.
Income Taxes - Paradigm accounts for and reports income taxes in
------------
accordance with SFAS No. 109, "Accounting for Income Taxes." Applying
SFAS No. 109, deferred tax assets and liabilities are recognized for
temporary differences caused when the tax basis of an asset or
liability differs from that reported in the consolidated financial
statements, and for carryforwards for tax credits and tax losses.
Deferred tax assets and liabilities are measured using enacted tax
rates expected to apply to taxable income in the years in which those
temporary differences are expected to be recovered or settled.
Deferred tax expense or benefit is recognized for the change in the
asset or liability during the year.
Earnings Per Share (EPS) - Paradigm accounts for EPS in compliance
------------------------
with SFAS No. 128, Earnings per Share. Under SFAS No. 128, because it
has potential common shares, the Company has a complex capital
structure and must disclose both basic and diluted EPS. Basic EPS is
computed by dividing consolidated net income available to common
shareholders by the weighted-average number of common shares
outstanding for the year. Diluted EPS reflects the potential dilution
that could occur if all dilutive securities and other contracts to
issue common stock were exercised or converted into common stock or
resulted in the issuance of common stock that then shared in the
consolidated net income of the Company.
F-17
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Notes To Consolidated Financial Statements
December 31, 2001 and 2000
--------------------------------------------------------------------------------
NOTE A ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING AND REPORTING
POLICIES (continued)
Weighted-average shares outstanding were 2,375,000 shares for the
years ended December 31, 2001 and 2000. Because recent sales have not
exceeded the strike price for options, there were no material dilutive
securities as of December 31, 2001 and 2000.
Stock-Based Compensation - The Company accounts for stock-based
------------------------
compensation under SFAS No. 123, Accounting for Stock-Based
Compensation. Under the provisions of SFAS No. 123, companies may
elect to account for stock-based compensation plans using a fair-value
method or may measure compensation expense for those plans using the
intrinsic value method prescribed in Accounting Principles Board
Opinion No. 25, "Accounting for Stock Issued to Employees" and related
Interpretations. The Company has elected to use the intrinsic value
method to account for its stock-based compensation plans. SFAS No. 123
requires companies electing to use the intrinsic value method to make
certain pro forma disclosures (see Notes M and N).
Statements of Cash Flows - Cash and cash equivalents include cash on
------------------------
hand, amounts due from banks, interest-bearing deposits in financial
institutions with remaining maturities of 90 days or less, and federal
funds sold; generally, federal funds are sold for one-day periods.
Comprehensive Income - The Company reports comprehensive income in
--------------------
accordance with SFAS No. 130, Reporting Comprehensive Income. SFAS No.
130 requires the reporting of comprehensive income in addition to net
income from operations. Comprehensive income is a more inclusive
financial reporting methodology that includes disclosure of certain
financial information affecting stockholders' equity that is not
recognized in the calculation of net income.
F-18
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Notes To Consolidated Financial Statements
December 31, 2001 and 2000
--------------------------------------------------------------------------------
NOTE B INVESTMENT SECURITIES
Investment securities are classified as available for sale or held to
maturity according to management's intent. The amortized cost and
estimated market values of investments in debt securities at December
31, 2001 and 2000 are summarized as follows:
Gross Gross Estimated
Amortized Unrealized Unrealized Market
December 31, 2001 Cost Gains Losses Value
----------------- ---------------------------------------------------------
Securities Available For Sale:
U.S. Government & Agency Securities $ 3,543,077 $ 25,314 $ (7,162) $ 3,561,229
Mortgage-backed Securities 19,291,672 29,119 (79,349) 19,241,442
Municipal Bonds 8,107,254 292,246 - 8,399,500
Corporate Bonds 3,448,184 741 (31,477) 3,417,448
------------ ------------ ------------ ------------
$ 34,390,187 $ 347,420 $ (117,988) $ 34,619,619
============ ============ ============ ============
Securities to be Held to Maturity:
U.S. Government Agency Obligations $ 1,000,000 $ - $ (2,279) $ 997,721
Mortgage-backed Securities 6,047,002 - (82,618) 5,964,384
Municipal Bonds 1,985,535 49,120 - 2,034,655
============ ============ ============ ============
$ 9,032,537 $ 9,120 $ (84,897) $ 8,996,760
============ ============ ============ ============
December 31, 2000
-----------------
Securities Available For Sale:
U.S. Government & Agency Securities $ 3,244,331 $ 52,251 $ - $ 3,296,582
Mortgage-backed Securities 15,830,328 269,079 (1,697) 16,097,710
Municipal Bonds 8,254,556 118,570 (205) 8,372,921
------------ ------------ ------------ ------------
$ 27,329,215 $ 439,900 $ (1,902) $ 27,767,213
============ ============ ============ ============
Securities to be Held to Maturity:
U.S. Government Agency Obligations $ 16,000,027 $ 39 $ (167,764) $ 15,832,302
Mortgage-backed Securities 58,750 - (931) 57,819
Municipal Bonds 2,924,272 6,974 (5,714) 2,925,532
------------ ------------ ------------ ------------
$ 18,983,049 $ 7,013 $ (174,409) $ 18,815,653
============ ============ ============ ============
F-19
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Notes To Consolidated Financial Statements
December 31, 2001 and 2000
--------------------------------------------------------------------------------
NOTE B INVESTMENT SECURITIES (continued)
The amortized cost and estimated market value of debt securities at
December 31, 2001, by contractual maturities, are shown below.
Expected maturities will differ from contractual maturities because
borrowers may have the right to call or prepay obligations with or
without call or prepayment penalties.
Securities Available for Sale Securities Held to Maturity
--------------------------------- -------------------------------
Amortized Market Amortized Market
Amounts Maturing In: Cost Value Cost Value
--------------------------------- -------------------------------
1 year or less $ - $ - $ - $ -
1 year through 5 years 8,500,186 8,578,236 2,719,111 2,756,011
5 years through 10 years 6,485,897 6,681,942 266,424 276,365
After 10 years 112,432 117,999 - -
------------ ------------ ------------ ------------
15,098,515 15,378,177 2,985,535 3,032,376
Mortgage-backed securities 19,291,672 19,241,442 6,047,002 5,964,384
------------ ------------ ------------ ------------
$ 34,390,187 $ 34,619,619 $ 9,032,537 $ 8,996,760
============ ============ ============ ============
Investment securities with carrying amounts of approximately
$18,895,000 and $29,487,000 at December 31, 2001 and 2000,
respectively, were pledged to secure public deposits and for other
purposes required or permitted by law.
NOTE C LOANS
The loan portfolio consisted of loans classified by major type as
defined by the Bank as of December 31, 2001 and 2000 as follows:
2001 2000
--------------- ---------------
Commercial and industrial $ 49,912,980 $ 43,098,566
Real Estate 93,365,135 66,738,906
Agricultural 5,765,347 6,265,402
Installment 22,481,705 18,664,070
------------- -------------
171,525,167 134,766,944
Less unearned discount (767,045) (1,298,691)
------------- -------------
170,758,122 133,468,253
Less allowance for credit losses (1,569,769) (1,136,068)
------------- -------------
$ 169,188,353 $ 132,332,185
============= =============
F-20
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Notes To Consolidated Financial Statements
December 31, 2001 and 2000
--------------------------------------------------------------------------------
NOTE C LOANS (continued)
Impaired loans were approximately $3,646,000 and $3,733,000 at
December 31, 2001 and 2000, respectively. Valuation allowances for
credit losses related to impaired loans of about $93,000 and $348,000
have been established and are included in the allowance for loan
losses at December 31, 2001 and 2000, respectively. At December 31,
2001, funds set aside as part of the escrow agreement (discussed in
Note A and U) that were specifically allocated against certain loans
classified as impaired totaled $161,236. Commitments to lend
additional funds to borrowers whose loans were classified as impaired
were $2,000 at December 31, 2001. There were no commitments to lend
additional funds to borrowers whose loans were classified as impaired
at December 31, 2001.
Loan maturities, excluding $21,714,660 of installment loans net of
unearned discount, at December 31, 2001 are as follows:
Within 1 Year 1 - 5 Years After 5 Years Total
----------------------------------------------------------------
Loans at fixed interest rates $ 21,005,766 $ 35,250,965 $ 6,202,227 $ 62,458,958
Loans at variable interest rates 42,218,853 38,232,748 6,132,903 86,584,504
------------ ------------ ------------- --------------
$ 63,224,619 $ 73,483,713 $ 12,335,130 $ 149,043,462
============ ============ ============= ==============
As of December 31, 2001 and 2000, loans outstanding to directors,
officers and their affiliates were $2,414,548 and $2,772,429,
respectively. In the opinion of management, all such transactions were
entered into between the Bank and such related parties in the ordinary
course of business, and were made on the same terms and conditions as
similar transactions with unaffiliated persons. At December 31, 2001,
unfunded commitments to insiders were $486,844. An analysis of
activity with respect to related-party loans is as follows:
2001 2000
--------------- ---------------
Beginning balance $ 2,772,429 $ 1,492,000
New loans during the year 672,144 2,322,276
Repayments during the year (1,030,025) (1,041,847)
--------------- ---------------
Ending balance $ 2,414,548 $ 2,772,429
=============== ===============
F-21
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Notes To Consolidated Financial Statements
December 31, 2001 and 2000
--------------------------------------------------------------------------------
NOTE D NONPERFORMING AND PAST-DUE LOANS
The following table presents information relating to nonperforming
and past due loans:
2001 2000
-------------- --------------
Nonaccrual loans $ 1,110,754 $ 1,216,410
============== ==============
90 days or more past due loans $ 23,253 $ 83,517
============== ==============
With respect to the above nonperforming loans, the following table
presents interest income that would have been earned under the
original terms of the loans.
2001 2000
-------------- --------------
Foregone income $ 9,686 $ 53,996
============== ==============
Income collected $ 14,103 $ 8,847
============== ==============
There were no restructured loans at December 31, 2001 or 2000.
Unfunded commitments to borrowers past due 90 days or on nonaccrual
were $2,000 and $0 at December 31, 2001 and 2000, respectively.
NOTE E ALLOWANCE FOR CREDIT LOSSES
An analysis of activity in the allowance for credit losses is as
follows:
2001 2000
-------------- --------------
Balance at beginning of year $ 1,136,068 $ 679,791
Provision charged to income 1,009,592 701,000
Loan recoveries 358,921 124,201
Loans charged off (934,812) (368,924)
-------------- --------------
Balance at end of year $ 1,569,769 $ 1,136,068
============== ==============
F-22
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Notes To Consolidated Financial Statements
December 31, 2001 and 2000
--------------------------------------------------------------------------------
NOTE F OTHER REAL ESTATE OWNED
An analysis of activity in other real estate owned and acquired by
foreclosure for the years ended December 31, 2001 and 2000 is as
follows:
2001 2000
-------------- --------------
Real Estate Acquired Through Foreclosure
Balance, beginning of year $ 450,331 $ 396,743
Acquisitions 171,257 175,978
Sales (198,584) (266,012)
Write-downs (12,130) (1,655)
Costs capitalized - 277
------------ ------------
Total real estate acquired through foreclosure 410,874 305,331
Real estate held for future bank expansion
transferred to premises and equipment in 2001 (145,000) 145,000
------------ ------------
Other Real Estate Owned Balance, end of year $ 265,874 $ 450,331
============ ============
NOTE G PREMISES AND EQUIPMENT
Premises and equipment are summarized below:
2001 2000
-------------- --------------
Land $ 1,709,257 $ 1,514,352
Buildings 8,174,442 8,192,594
Construction in progress 194,665 -
Leasehold improvements 1,458,715 444,811
Furniture, fixtures and equipment 4,806,226 4,277,991
Automobiles 56,449 75,311
------------ ------------
16,399,754 14,505,059
Less accumulated depreciation and amortization (4,144,031) (3,098,501)
------------ ------------
Bank premises and equipment, net $ 12,255,723 $ 11,406,558
============ ============
F-23
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Notes To Consolidated Financial Statements
December 31, 2001 and 2000
--------------------------------------------------------------------------------
NOTE H DEPOSITS
The aggregate amount of time deposits in the amount of $100,000 or
more at December 31, 2001 and 2000 was $30,737,568 and $21,168,694,
respectively. Interest expense for certificates of deposit of $100,000
or more was approximately $1,519,000 and $1,069,000 for the years
ended December 31, 2001 and 2000, respectively. The Bank has no
brokered deposits and there are no major concentrations of deposits.
At December 31, 2001, the scheduled maturities of all time deposits
are as follows:
2002 $ 66,131,916
2003 3,467,362
2004 1,538,255
2005 808,613
2006 and thereafter 166,745
------------
$ 72,112,891
============
NOTE I INCOME TAXES
The components of the provision for federal income tax expense are as
follows:
2001 2000
------------ ------------
Current $ 534,134 $ 1,135,760
Deferred (188,947) (95,411)
------------ ------------
$ 345,187 $ 1,040,349
============ ============
The provision for federal income taxes differs from the amount
computed by applying the federal income tax statutory rate of 34% on
earnings as follows:
2001 2000
------------ ------------
Taxes calculated at statutory rate $ 500,597 $ 1,112,122
Increase (Decrease) resulting from:
Nondeductible travel, entertainment, dues and other 39,960 44,621
Nondeductible goodwill amortization 66,306 50,728
Nontaxable interest income (261,676) (167,122)
------------ ------------
$ 345,187 $ 1,040,349
============ ============
Due to its corporate structure, state income taxes were not material
for the Company in 2001 or 2000.
F-24
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Notes To Consolidated Financial Statements
December 31, 2001 and 2000
--------------------------------------------------------------------------------
NOTE I INCOME TAXES (continued)
Significant deferred tax assets and liabilities are as follows:
2001 2000
------------ ------------
Deferred Tax Assets
Deferred compensation $ 138,999 $ 198,338
Net operating loss carryforward 240,918 285,858
Loan loss reserve 248,118 -
Other 73,391 95,257
------------ ------------
701,426 579,453
------------ ------------
Deferred Tax Liabilities
Loan loss reserve - (30,193)
Depreciation (86,941) (104,750)
Unrealized gains on securities (78,007) (148,919)
Other (10,719) (58,503)
------------ ------------
(175,667) (342,365)
------------ ------------
$ 525,759 $ 237,088
Net Deferred Tax Asset ============ ============
Paradigm acquired federal income tax net operating loss (NOL)
carryforwards of about $973,000 in the purchase of First National Bank
of Dayton in 1997, which were not recognized prior to December 1999
due to Paradigm's subchapter S tax filing status. The carryforwards
were recognized in December 1999 when Paradigm changed from an S
corporation to C corporation tax filing status. Also in December 1999,
due to the Internal Revenue Code regulations regarding acquired
carryforwards and due to uncertainty about the realization of adequate
taxable income before the carryforwards expire, a valuation allowance
was established for the deferred tax asset related to the
carryforwards.
During 2000, management reevaluated the deferred tax asset related to
the acquired NOL carryforwards. Paradigm earned significant taxable
income for 2000 and established a stable operating environment after
its 1999 purchase of Dayton State Bank, reducing the previous
uncertainty regarding realization of sufficient taxable income.
Therefore, it is considered more likely than not that the
carryforwards will be realized before they expire. Accordingly, the
valuation allowance amounting to $330,799 was reversed in 2000 and
goodwill was reduced by this amount. No reduction in income tax
expense resulted from this valuation allowance reversal.
At December 31, 2001, Paradigm has NOL carryforwards of about
$709,000, which expire during the period 2004 through 2007.
Realization of the NOL carryforwards is limited to approximately
$132,000 annually.
F-25
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Notes To Consolidated Financial Statements
December 31, 2001 and 2000
--------------------------------------------------------------------------------
NOTE J CASH FLOW HEDGE
In 2000, Paradigm purchased an interest rate floor for $195,000 to
hedge against the effect of future declines in interest rates for the
floating rate loan portfolio. This hedge was accounted for as a cash
flow hedge in compliance with SFAS No. 133, as amended by SFAS No.
138. The terms of the floor called for seven quarterly payments to
Paradigm based on a notional amount of $30 million if the 90-day LIBOR
interest rate was below 7% from October 25, 2000 through April 2002.
In the fourth quarter of 2000, Paradigm sold this hedge and realized a
pre-tax gain of $105,000 over the original purchase price.
NOTE K EMPLOYEE BENEFITS
The Company has an employee tax-deferred savings plan (401(k) Plan)
under the Internal Revenue Code available to substantially all
employees. Funds contributed by employees under the 401(k) Plan are
invested in a variety of investment options at the direction of the
employee. Contributions made by the Company to the plan are in cash
and in such amounts, within certain limitations, as management may
authorize. The 401(k) Plan expense totaled $126,583 and $74,717 for
the years ended December 31, 2001 and 2000, respectively.
NOTE L DEFERRED COMPENSATION PLAN
The Company has deferred compensation agreements with certain
employees that provide for payment of $25,000 per year to those
employees or their surviving beneficiaries for a period of ten years
beginning at retirement. For these employees, the Company has whole
life insurance policies to provide a cash value to cover part of the
deferred compensation payments, or in case of the employee's death, to
pay the beneficiaries.
Deferred compensation expense is recorded over the estimated remaining
period of employment. The liability for services previously performed
totaled approximately $194,000 and $360,000 at December 31, 2001 and
2000, respectively, and is included in other liabilities in the
accompanying statements of condition. Cash value of about $485,000 and
$611,000 accumulated in the life insurance policies purchased for
these agreements as of December 31, 2001 and 2000, respectively, is
included in other assets on the accompanying statements of condition.
NOTE M STOCK APPRECIATION RIGHTS
Paradigm maintains a stock appreciation rights (SAR) program to offer
eligible employees an opportunity to acquire or increase their
proprietary interests in Paradigm and provide additional incentive to
contribute to its performance and growth. The Board of Directors had
reserved 150,000 shares under the Plan, however, during 2000 the Board
elected to discontinue issuing any additional stock appreciation
rights under this program.
F-26
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Notes To Consolidated Financial Statements
December 31, 2001 and 2000
--------------------------------------------------------------------------------
NOTE M STOCK APPRECIATION RIGHTS (CONTINUED)
Option Weighted
Number of Price Average
Stock Appreciation Rights Summary Shares Range Exercise Price
-------------------------------------------------------------------------------------------------------------
Rights Outstanding at December 31, 1999 61,000 $4.64 - $6.42 $5.11
Rights Granted in 2000 12,000 $6.42 - $6.57 $6.55
Rights Exercised in 2000 5,000 $4.64 $4.64
----------
Rights Outstanding at December 31, 2000 68,000 $4.64 - $6.57 $5.41
Rights Exercised in 2001 1,600 $6.42 $6.42
Rights Forfeited in 2001 6,400 $6.42 $6.42
----------
Rights Outstanding at December 31, 2001 60,000 $4.64 - $6.57 $5.27
==========
Exercisable at December 31, 2001 31,800 $4.64 - $6.57 $5.00
Available for future grant at December 31, 2001 -
==========
Weighted-average remaining contractual life in
years at December 31, 2001 7.10
==========
Weighted-average fair value
of each SAR at grant date
2000 $ 4.79
==========
2001 (none granted) $ -
==========
Paradigm has reported compensation costs for SARs of $68,000 and
$79,000 in salaries and employee benefits for the years ended December
31, 2001 and 2000, respectively. Reported compensation cost for SARs
is measured as the vested portion of the excess, if any, of the market
price of Paradigm stock at the reporting date over the amount an
employee must pay to exercise the SARs.
The pro forma SARs compensation expense computed under SFAS No. 123
equaled $40,000 and $41,000 for 2001 and 2000, respectively. The pro
forma change in net earnings, if this compensation expense had been
recorded instead of the amounts actually reported, would be an
increase in net earnings after tax of about $18,000 and $24,000 for
2001 and 2000, respectively. Assumptions used to compute the pro forma
SARs values using the Black-Scholes pricing model for options granted
in 2000 are as follows:
2000
---------------
Dividend Yield 3%
Expected Volatility 71%
Risk Free Interest Rates 5.85%
Expected Life in Years 9
F-27
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Notes To Consolidated Financial Statements
December 31, 2001 and 2000
--------------------------------------------------------------------------------
NOTE N STOCK OPTIONS
In 1999, the Board of Directors and shareholders approved a Stock
Option Plan (the Plan), which authorizes the issuance of up to 200,000
shares of common stock for nonqualified and incentive stock options to
employees and nonqualified stock options to non-employee directors.
Outstanding options become exercisable cumulatively in five equal
annual installments commencing one year from the grant date, or
completely upon certain changes in control of the Company or the Bank.
The options generally must be exercised within 10 years of the date of
grant or no later than three months after the grantee's termination of
employment, if earlier.
The Plan also provides for the granting of restricted stock awards,
stock appreciation rights, performance awards and phantom stock
awards. Of these other awards, only stock appreciation rights have
been granted (see Note M).
Weighted
Number of Average
Stock Option Summary Shares Exercise Price
------------------------------------------------------------------------------------------------------
Options Outstanding at December 31, 1999 - -
Options Granted in 2000 32,200 $11.63
Options Exercised in 2000 - -
----------
Options Outstanding at December 31, 2000 32,000 $11.63
Options Granted in 2001 7,000 $10.71
Options Exercised in 2001 - -
Options Forfeited in 2001 (6,100) $10.78
----------
Options Outstanding at December 31, 2001 33,100 $11.59
==========
Exercisable at December 31, 2001 6,525 $11.83
==========
Available for future grant at December 31, 2001 166,900
==========
For shares outstanding at December 31, 2001:
Weighted
Weighted Average
Number of Average Remaining
Range of Exercise Prices Shares Exercise Price Life
--------------------------------------------------------------------------------------------------
$ 9.00 5,000 $ 9.00 8.6
$10.00 5,000 $ 10.00 9.4
$12.50 23,100 $ 12.50 8.9
--------------
$ 9.00 - $12.50 33,100 8.90
==============
F-28
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Notes To Consolidated Financial Statements
December 31, 2001 and 2000
--------------------------------------------------------------------------------
NOTE N STOCK OPTIONS (continued)
The weighted average fair value of each option granted in 2001 was
$6.57. The pro forma effects of reporting stock options using the
fair value approach under SFAS No. 123 for the years ended December
31, 2001 and 2000 are shown below:
2001 2000
------------------ ------------------
Net Earnings
As reported $ 1,127,158 $ 2,230,599
Pro Forma $ 1,087,576 $ 2,229,239
Net Earnings Per Share
As reported $ 0.47 $ 0.94
Pro Forma $ 0.46 $ 0.94
The fair value of each option grant is estimated on the date of
grant using the Black-Scholes option pricing model with the
following assumptions used for grants in 2001 and 2000.
2001 2000
------------------ ------------------
Dividend Yield 6% 3%
Expected Volatility 70% 71%
Risk Free Interest Rates 2.22% 5.85%
Expected Life in Years 9 9
NOTE O FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISK
To meet the financing needs of its customers and to reduce its own
exposure to fluctuations in interest rates, the Bank is party to
various financial instruments with off-balance-sheet risk in the
normal course of business. These financial instruments include
commitments to extend credit and standby letters of credit. These
instruments involve, to varying degrees, elements of credit and
interest rate risk in excess of the amounts recognized in the
statements of condition. The contract or notional amounts of the
instruments reflect the extent of the Bank's involvement in
particular classes of financial instruments. The Bank's exposure to
credit loss in the event of nonperformance by the other party to
the financial instrument for commitments to extend credit and
standby letters of credit is represented by the contractual
notional amount of these instruments. The Bank uses the same credit
policies in making these commitments and conditional obligations as
it does for on-balance-sheet instruments.
The following is a summary of the various financial instruments
whose contract amounts represent credit risk:
2001 2000
------------------ ------------------
Commitments to extend credit $ 23,070,831 $17,605,072
Standby letters of credit $ 373,230 $ 282,870
F-29
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Notes To Consolidated Financial Statements
December 31, 2001 and 2000
--------------------------------------------------------------------------------
NOTE O FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISK (continued)
Commitments to extend credit are agreements to lend to a customer
as long as there is no violation of any condition established in
the contract. Commitments generally have fixed expiration dates or
other termination clauses and may require payment of a fee. Since
many of the commitments are expected to expire without being fully
drawn upon, the total commitment amounts disclosed above do not
necessarily represent future cash requirements.
The Bank evaluates each customer's creditworthiness on a
case-by-case basis. The amount of collateral obtained, if
considered necessary by the Bank upon extension of credit, is based
on management's credit evaluation of the customer.
Standby letters of credit are conditional commitments issued by the
Bank to guarantee the performance of a customer to a third party.
The credit risk involved in issuing letters of credit is
essentially the same as that involved in extending loan facilities
to their customers.
NOTE P OPERATING LEASES
The Bank leases banking and office facilities under operating
leases with terms expiring at various dates, some of which contain
renewal options. A summary of non-cancelable future operating lease
commitments follows:
Year ending December 31,
------------------------
2002 $ 260,748
2003 193,244
2004 175,284
2005 115,663
2006 50,896
Thereafter 179,768
-------------
$ 975,603
=============
It is expected that in the normal course of business, leases that
expire will be renewed or replaced by leases on other property or
equipment. Rent expense under all non-cancelable operating lease
obligations totaled about $315,000 and $191,000 for 2001 and 2000,
respectively.
NOTE Q COMMITMENTS AND CONTINGENCIES
Litigation - Various lawsuits are pending against Paradigm arising
----------
in the normal course of business. Paradigm management, after
reviewing these lawsuits with outside legal counsel, considers that
the aggregate liabilities, if any, will not be material to the
consolidated financial statements.
F-30
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Notes To Consolidated Financial Statements
December 31, 2001 and 2000
--------------------------------------------------------------------------------
NOTE R REGULATORY MATTERS
Paradigm and the Bank are subject to various regulatory
capital requirements administered by their primary federal
regulators. The regulations include, but are not limited to,
the payment of dividends and minimum capital requirements. The
payment of dividends by the Bank is limited to the sum of the
current year's earnings plus undistributed earnings from the
prior two years. As of December 31, 2001, Paradigm had
approximately $2,469,000 of retained earnings that could be
paid under this restriction without regulatory approval.
Any institution that fails to meet its minimum capital
requirements is subject to certain mandatory and possibly
discretionary actions by regulators that could have a direct
material effect on the financial statements of the Company and
the Bank. Under the capital adequacy guidelines and the
regulatory framework for prompt corrective action, the Bank
must meet specific capital guidelines based on the Bank's
assets, liabilities and certain off-balance-sheet items as
calculated under regulatory accounting practices. Capital
amounts and classification are also subject to qualitative
judgments by the regulators about components, risk weightings
and other factors.
To meet the capital adequacy requirements, the Company and the
Bank must maintain minimum capital amounts and ratios as
defined in the regulations. Management believes, as of
December 31, 2001, that the Company and the Bank met all
capital adequacy requirements to which it was subject.
As of December 31, 2001, the most recent notifications from
the Federal Deposit Insurance Corporation which occurred in
the year 2001, the Bank was categorized as well capitalized
under the regulatory framework for prompt corrective action.
To be categorized as well capitalized, the Bank must maintain
minimum total risk- based, Tier I risk-based, and Tier I
leverage ratios as set forth in the table below. There are no
conditions or events since that notification that management
believes have changed the Bank's category.
The following is a summary of the capital ratios at December
31, 2001 and 2000 for the Company and the Bank:
To Be Well Capitalized
For Capital Under Prompt Corrective
Actual Adequacy Purposes Action Provisions
--------------------------------------------------------------------------
Company 2001 Amount Ratio Amount Ratio Amount Ratio
------------ --------------------------------------------------------------------------
Total Risk Based Capital $21,686,000 11.7% $14,838,000 8.0% N/A N/A
(to Risk Weighted Assets)
Tier I Capital $20,100,000 10.8% $ 7,419,000 4.0% N/A N/A
(to Risk Weighted Assets)
Tier I Capital $20,100,000 7.9% $10,143,000 4.0% N/A N/A
(to Adjusted Total Assets)
Bank 2001
---------
Total Risk Based Capital $20,960,000 11.3% $14,786,000 8.0% $18,482,000 10.0%
(to Risk Weighted Assets)
Tier I Capital $19,390,000 10.5% $ 7,393,000 4.0% $11,089,000 6.0%
(to Risk Weighted Assets)
Tier I Capital $19,390,000 7.7% $10,105,000 4.0% $12,632,000 5.0%
(to Adjusted Total Assets)
F-31
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Notes To Consolidated Financial Statements
December 31, 2001 and 2000
--------------------------------------------------------------------------------
NOTE R REGULATORY MATTERS (Continued)
To Be Well Capitalized
Under Prompt
For Capital Corrective
Actual Adequacy Purposes Action Provisions
--------------------------------------------------------------------------
Company 2000 Amount Ratio Amount Ratio Amount Ratio
------------ --------------------------------------------------------------------------
Total Risk Based Capital $19,612,000 13.0% $12,077,000 8.0% N/A N/A
(to Risk Weighted Assets)
Tier I Capital $18,476,000 12.2% $ 6,038,000 4.0% N/A N/A
(to Risk Weighted Assets)
Tier I Capital $18,476,000 8.8% $ 8,380,000 4.0% N/A N/A
(to Adjusted Total Assets)
Bank 2000
---------
Total Risk Based Capital $19,384,000 13.3% $11,707,000 8.0% $14,634,000 10.0%
(to Risk Weighted Assets)
Tier I Capital $18,248,000 12.5% $ 5,854,000 4.0% $ 8,780,000 6.0%
(to Risk Weighted Assets)
Tier I Capital $18,248,000 8.6% $ 8,473,000 4.0% $10,591,000 5.0%
(to Adjusted Total Assets)
NOTE S SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid during the year for: 2001 2000
----------- -----------
Interest paid $ 5,447,900 $ 4,901,400
Income taxes paid $ 537,000 $ 545,000
NOTE T DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
The following disclosure of the estimated fair value of financial
instruments is made in accordance with the requirements of SFAS No.
107, Disclosures About Fair Value of Financial Instruments. The
estimated fair value amounts have been determined by management using
available market information and appropriate valuation methodologies.
However, considerable judgment is necessarily required in interpreting
market data to develop the estimates of fair value. Accordingly, the
estimates presented herein are not necessarily indicative of the
amounts that could be realized in a current market exchange. The use
of different market assumptions and/or estimation methodologies may
have a material effect on the estimated fair value amounts. The
following methods and assumptions were used to estimate the fair value
of each class of financial instruments for which it is practicable to
estimate that value.
Cash and Cash Equivalents - For these short-term instruments, the
-------------------------
carrying amount is a reasonable estimate of fair value.
Investment Securities - For securities held as investments, fair value
---------------------
equals quoted market price, if available. If a quoted market price is
not available, fair value is estimated using the quoted market price
for similar securities.
F-32
PARADIGM BANCORPORATION, INC. AND SUBSIDIARIES
Notes To Consolidated Financial Statements
December 31, 2001 and 2000
--------------------------------------------------------------------------------
NOTE T DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS (continued)
Loan Receivables - The fair value of loans is estimated by discounting
----------------
the future cash flows using the current rates at which similar loans
would be made to borrowers with similar credit ratings and for the
same remaining maturities.
Deposit Liabilities - The fair value of demand deposits, savings
-------------------
accounts and certain money market deposits is the amount payable on
demand at the reporting date. The fair value of fixed-maturity
certificates of deposit is estimated using the rates currently offered
for deposits of similar remaining maturities.
Due to Former Shareholders and Other Liabilities - The fair value of
------------------------------------------------
due to former shareholders and other liabilities is the amount payable
on demand at the reporting date. Because it is anticipated that these
amounts will be paid in the near term, the carrying value is a
reasonable estimate of fair value.
The estimated fair values of financial instruments are as follows (in
thousands):
2001 2000
------------------------------ ----------------------------
Carrying Fair Carrying Fair
Amount Values Amount Values
------------- ------------- ------------ -----------
Financial Assets
----------------
Cash and cash equivalents $ 21,329 $ 21,329 $ 15,769 $ 15,769
Investment securities 49,010 48,979 48,229 48,062
Loans 169,188 173,922 132,332 132,575
---------- ---------- ---------- -----------
$ 239,527 $ 244,230 $ 196,330 $ 196,406
========== ========== ========== ===========
Financial Liabilities
---------------------
Deposits $ 232,375 $ 233,085 $ 188,005 $ 189,019
Due to former shareholders
and other liabilities 2,784 2,784 4,918 4,918
---------- ---------- ---------- -----------
$ 235,159 $ 235,869 $ 192,923 $ 193,937
========== ========== ========== ===========
The fair value estimates are based on pertinent information available
to management as of December 31, 2001 and 2000. Although management is
not aware of any factors that would significantly affect the estimated
fair value amounts, such amounts have not been comprehensively
revalued for purposes of these financial statements since that date
and, therefore, current estimates of fair value may differ
significantly from the amounts presented herein.
NOTE U SUBSEQUENT EVENT
Escrow Agreement - In January 2002, the funds held in escrow and
----------------
included in the amount due to former shareholders, pursuant to the
terms of the purchase agreement between Paradigm and the selling
Dayton shareholders, were distributed according to the terms of the
escrow agreement. As agreed upon by Paradigm and the escrow agent, the
funds were disbursed according to the payment status of the loans
subject to this agreement. Of the approximate $468,000 held in escrow
by Paradigm, $212,000 was distributed to the former Dayton
shareholders and $256,000 was retained by Paradigm and the funds were
added to the Bank's reserve for credit losses as stipulated by the
terms of the escrow agreement.
F-33
Appendix A
----------
------------------------------------------------
AGREEMENT AND PLAN OF REORGANIZATION
by and between
PROSPERITY BANCSHARES, INC.
And
PARADIGM BANCORPORATION, INC.
Dated as of May 1, 2002
------------------------------------------------
TABLE OF CONTENTS
Page
I. THE MERGER .............................................................................................. A-2
Section 1.1 The Merger ........................................................................ A-2
Section 1.2 Articles of Incorporation, Bylaws and Facilities of Continuing Company ............ A-2
Section 1.3 Effect of Merger .................................................................. A-2
Section 1.4 Liabilities of Continuing Company ................................................. A-3
Section 1.5 Ratification by Shareholders ...................................................... A-3
Section 1.6 Tax Consequences .................................................................. A-3
II. MERGER CONSIDERATION AND EXCHANGE PROCEDURES ............................................................ A-3
Section 2.1 Merger Consideration .............................................................. A-3
Section 2.2 Determination and Adjustment of Exchange Ratio .................................... A-4
Section 2.3 Conversion of Paradigm Stock Options .............................................. A-5
Section 2.4 Stock Appreciation Rights ......................................................... A-6
Section 2.5 Dissenting Shares ................................................................. A-6
Section 2.6 Exchange Agent .................................................................... A-6
Section 2.7 Exchange Procedures ............................................................... A-7
Section 2.8 Paradigm Shareholder Representative ............................................... A-8
III. REPRESENTATIONS AND WARRANTIES OF PARADIGM .............................................................. A-10
Section 3.1 Organization and Authority ........................................................ A-10
Section 3.2 Capitalization .................................................................... A-11
Section 3.3 Authority; Approvals .............................................................. A-12
Section 3.4 Investments ....................................................................... A-12
Section 3.5 Financial Statements .............................................................. A-13
Section 3.6 Real Property Owned or Leased ..................................................... A-13
Section 3.7 Personal Property ................................................................. A-14
Section 3.8 Environmental Laws ................................................................ A-14
Section 3.9 Litigation and Other Proceedings .................................................. A-15
Section 3.10 Taxes and Tax Returns ............................................................. A-16
Section 3.11 Loan Portfolio .................................................................... A-18
Section 3.12 Certain Loans and Related Matters ................................................. A-18
Section 3.13 Contracts and Commitments ......................................................... A-19
-i-
TABLE OF CONTENTS
(Continued)
Page
Section 3.14 Insurance ................................................................... A-20
Section 3.15 No Conflict With Other Instruments .......................................... A-21
Section 3.16 Laws and Regulatory Filings ................................................. A-21
Section 3.17 Absence of Certain Changes .................................................. A-22
Section 3.18 Employment Relations ........................................................ A-23
Section 3.19 Employee Benefit Plans ...................................................... A-23
Section 3.20 Brokers and Finders ......................................................... A-24
Section 3.21 Community Reinvestment Act .................................................. A-24
Section 3.22 Accounting Controls ......................................................... A-24
Section 3.23 Derivative Contracts ........................................................ A-24
Section 3.24 Deposits .................................................................... A-24
Section 3.25 Securities and Exchange Commission Reporting Obligations .................... A-25
Section 3.26 Certain Interests ........................................................... A-25
Section 3.27 Outstanding Trust Preferred Securities of Subsidiary Trust .................. A-25
Section 3.28 Intellectual Property Rights ................................................ A-26
IV. REPRESENTATIONS AND WARRANTIES OF PROSPERITY ...................................................... A-26
Section 4.1 Organization ................................................................ A-26
Section 4.2 Capitalization .............................................................. A-27
Section 4.3 Approvals; Authority ........................................................ A-28
Section 4.4 No Conflict With Other Instruments .......................................... A-28
Section 4.5 Litigation and Other Proceedings ............................................ A-28
Section 4.6 Brokers and Finders ......................................................... A-29
Section 4.7 Financial Statements ........................................................ A-29
Section 4.8 Securities and Exchange Commission Reporting Obligations .................... A-29
Section 4.9 Prosperity Employee Benefit Plans ........................................... A-30
Section 4.10 Regulatory Approvals ........................................................ A-30
Section 4.11 Taxes ....................................................................... A-30
Section 4.12 Insurance ................................................................... A-30
Section 4.13 Laws and Regulatory Filings ................................................. A-31
Section 4.14 Employment Relations ........................................................ A-31
Section 4.15 Community Reinvestment Act .................................................. A-31
-ii-
TABLE OF CONTENTS
(Continued)
Page
V. COVENANTS OF PARADIGM ............................................................................. A-31
Section 5.1 Approval of Paradigm Shareholders ........................................... A-31
Section 5.2 Activities of Paradigm Pending Closing ...................................... A-32
Section 5.3 Access to Properties and Records ............................................ A-34
Section 5.4 Information for Regulatory Applications and SEC Filings ..................... A-35
Section 5.5 Attendance at Certain Paradigm Meetings ..................................... A-35
Section 5.6 No Solicitation ............................................................. A-35
Section 5.7 Termination Fee ............................................................. A-37
Section 5.8 Voting Agreement ............................................................ A-38
Section 5.9 Termination of Data Processing Contracts .................................... A-38
Section 5.10 Affiliates' Letters ......................................................... A-38
Section 5.11 Assumption of Paradigm Stock Options ........................................ A-38
Section 5.12 Conforming Accounting Adjustments ........................................... A-38
Section 5.13 Consents to Assign and Use Leased Premises .................................. A-39
Section 5.14 Trust Preferred Securities .................................................. A-39
Section 5.15 Environmental Investigation; Rights to Terminate Agreement .................. A-39
VI. COVENANTS OF PROSPERITY ........................................................................... A-40
Section 6.1 Best Efforts ................................................................ A-40
Section 6.2 Information for Regulatory Applications and Proxy Solicitation .............. A-40
Section 6.3 Registration Statement ...................................................... A-41
Section 6.4 Nasdaq Listing .............................................................. A-41
Section 6.5 Rule 144 Compliance ......................................................... A-41
Section 6.6 Indemnification; Insurance .................................................. A-41
Section 6.7 Access to Properties and Records ............................................ A-42
Section 6.8 Assumption of Paradigm Stock Options ........................................ A-43
Section 6.9 Supplemental Indenture ...................................................... A-43
Section 6.10 Appointment of Directors .................................................... A-43
Section 6.11 Regulatory and Other Approvals .............................................. A-44
VII. MUTUAL COVENANTS OF PARADIGM AND PROSPERITY ....................................................... A-44
Section 7.1 Notification; Updated Disclosure Schedules .................................. A-44
Section 7.2 Employee Benefit Plans ...................................................... A-44
-iii-
TABLE OF CONTENTS
(Continued)
Page
Section 7.3 Confidentiality ............................................................. A-45
Section 7.4 Publicity ................................................................... A-45
Section 7.5 Restrictions on Trading in Prosperity Common Stock .......................... A-45
VIII. CLOSING ........................................................................................... A-45
Section 8.1 Closing ..................................................................... A-45
Section 8.2 Effective Time .............................................................. A-46
IX. TERMINATION ....................................................................................... A-46
Section 9.1 Termination ................................................................. A-46
Section 9.2 Effect of Termination ....................................................... A-48
X. CONDITIONS TO OBLIGATIONS OF PROSPERITY ........................................................... A-48
Section 10.1 Compliance with Representations and Covenants ............................... A-49
Section 10.2 Performance of Obligations .................................................. A-49
Section 10.3 Absence of Material Adverse Changes ......................................... A-49
Section 10.4 Legal Opinion ............................................................... A-49
Section 10.5 Tax Opinion ................................................................. A-49
Section 10.6 Releases .................................................................... A-49
Section 10.7 Affiliates' Letters ......................................................... A-49
Section 10.8 Conversion of Paradigm Stock Options ........................................ A-50
Section 10.9 Acknowledgment of SAR Cancellation .......................................... A-50
Section 10.10 Employment Issues ........................................................... A-50
XI. CONDITIONS TO OBLIGATIONS OF PARADIGM ............................................................. A-50
Section 11.1 Compliance with Representations and Warranties .............................. A-50
Section 11.2 Performance of Obligations .................................................. A-50
Section 11.3 Absence of Material Adverse Changes ......................................... A-50
Section 11.4 Legal Opinion ............................................................... A-51
Section 11.5 Opinion of Financial Advisor ................................................ A-51
Section 11.6 Tax Opinion ................................................................. A-51
Section 11.7 Employment and Non-Competition Agreement .................................... A-51
XII. MUTUAL CONDITIONS TO RESPECTIVE OBLIGATIONS OF PROSPERITY AND PARADIGM ............................ A-51
Section 12.1 Government Approvals ........................................................ A-51
-iv-
TABLE OF CONTENTS
(Continued)
Page
Section 12.2 Shareholder Approval ...................................... A-52
Section 12.3 Registration of Prosperity Common Stock ................... A-52
Section 12.4 Listing of Prosperity Common Stock ........................ A-52
XIII. MISCELLANEOUS ............................................................. A-52
Section 13.1 Definitions ............................................... A-52
Section 13.2 Non-Survival of Representations and Warranties ............ A-52
Section 13.3 Amendments ................................................ A-53
Section 13.4 Expenses .................................................. A-53
Section 13.5 Notices ................................................... A-53
Section 13.6 Governing Law ............................................. A-54
Section 13.7 Headings .................................................. A-54
Section 13.8 Modifications or Waiver ................................... A-54
Section 13.9 Severability .............................................. A-54
Section 13.10 Assignment ................................................ A-54
Section 13.11 Entire Agreement .......................................... A-55
Section 13.12 Counterparts .............................................. A-55
Section 13.13 Binding on Successors ..................................... A-55
Section 13.14 Gender .................................................... A-55
Section 13.15 Disclosures ............................................... A-55
Section 13.16 Delivery of Disclosure Schedules .......................... A-55
-v-
AGREEMENT AND PLAN OF REORGANIZATION
This Agreement and Plan of Reorganization (the "Agreement") dated as of
May 1, 2002, is by and between Prosperity Bancshares, Inc., a Texas corporation
and registered financial holding company under the Gramm-Leach-Bliley Act ("GLB
Act") ("Prosperity"), and Paradigm Bancorporation, Inc., a Texas corporation and
registered financial holding company under the GLB Act ("Paradigm").
WHEREAS, Paradigm desires to affiliate with Prosperity and Prosperity
desires to affiliate with Paradigm in the manner provided in this Agreement; and
WHEREAS, Prosperity and Paradigm believe that the merger of Paradigm
into Prosperity in the manner provided by, and subject to the terms and
conditions set forth in, this Agreement and all exhibits, schedules and
supplements hereto is desirable and in the best interests of their respective
shareholders; and
WHEREAS, Prosperity and Paradigm intend the Merger to qualify as a
reorganization under the provisions of Section 368(a) of the Internal Revenue
Code of 1986, as amended (the "Code"), and the regulations thereunder; and
WHEREAS, the respective Boards of Directors of Prosperity and Paradigm
have approved this Agreement and the transactions proposed herein substantially
on the terms and conditions set forth in this Agreement;
NOW, THEREFORE, in consideration of such premises and the mutual
representations, warranties, covenants and agreements contained herein, and
other good and valuable consideration, the receipt and sufficiency of which are
hereby acknowledged, the parties hereto agree as set forth below:
INTRODUCTION
A. This Agreement provides for the merger of Paradigm with and into
Prosperity with Prosperity as the survivor (the "Merger"), all pursuant to this
Agreement and a Plan of Merger by and between Prosperity and Paradigm, a copy of
which is attached hereto as Exhibit A and all of the terms of which are
incorporated by reference for all purposes. In connection with the Merger,
Prosperity will acquire all of the issued and outstanding shares of common
stock, $1.00 par value, of Paradigm ("Paradigm Common Stock") for an aggregate
consideration as set forth in this Agreement.
B. After the Effective Time (as hereinafter defined) of the Merger and
on the same date as the Merger, Paradigm Delaware Bancorporation, Inc., a
Delaware corporation and wholly-owned subsidiary of Paradigm ("Paradigm
Delaware"), shall be merged with and into Prosperity Holdings, Inc., a Delaware
corporation and wholly-owned subsidiary of Prosperity ("Delaware Company"), (the
"Delaware Merger"), all pursuant to an Agreement of Merger by and between the
Delaware Company and Paradigm Delaware, a copy of which is attached hereto as
Exhibit B.
C. After the Effective Time of the Merger and on the same date as the
Merger, Paradigm Bank Texas, a Texas banking association and wholly-owned
subsidiary of Paradigm Delaware (the "Bank"), shall be merged with and into
Prosperity Bank, a Texas banking association and wholly-owned subsidiary of
Delaware Company ("PRSP Bank") (the "Bank Merger"), all pursuant to a Plan of
Merger by and between the Bank and PRSP Bank, a copy of which is attached hereto
as Exhibit C.
I. THE MERGER
Section 1.1 The Merger. Paradigm shall be merged with and into
Prosperity (which, as the surviving corporation, is hereinafter referred to as
"Continuing Company" whenever reference is made to it at or after the Effective
Time) under the Articles of Incorporation of Prosperity pursuant to the
provisions of, and with the effect provided in Article 5 of the Texas Business
Corporation Act ("TBCA").
Section 1.2 Articles of Incorporation, Bylaws and Facilities of
Continuing Company. At the Effective Time and until thereafter amended in
accordance with applicable law, the Articles of Incorporation of Continuing
Company shall be the Articles of Incorporation of Prosperity as in effect
immediately prior to the Effective Time. Until altered, amended or repealed as
therein provided and in the Articles of Incorporation of Continuing Company, the
Bylaws of Continuing Company shall be the Bylaws of Prosperity as in effect
immediately prior to the Effective Time. The established offices and facilities
of Paradigm immediately prior to the Merger shall become established offices and
facilities of the Continuing Company. Unless and until changed by the Board of
Directors of Continuing Company, the main office of Prosperity as of the
Effective Time shall become the main office of the Continuing Company. Until
thereafter changed in accordance with law or the Articles of Incorporation or
Bylaws of Continuing Company, all corporate acts, plans, policies, contracts,
approvals and authorizations of Paradigm and Prosperity and their respective
shareholders, boards of directors, committees elected or appointed thereby,
officers and agents, which were valid and effective immediately prior to the
Effective Time, shall be taken for all purposes as the acts, plans, policies,
contracts, approvals and authorizations of Continuing Company and shall be as
effective and binding thereon as the same were with respect to the Paradigm and
Prosperity, respectively, as of the Effective Time.
Section 1.3 Effect of Merger. At the Effective Time, the corporate
existence of Paradigm and Prosperity shall, as provided in the provisions of law
heretofore mentioned, be merged and continued in Continuing Company, and
Continuing Company shall be deemed to be a continuation in entity and identity
of Paradigm and Prosperity. All rights, franchises and interests of Paradigm and
Prosperity, respectively, in and to any type of property and choses in action
shall be transferred to and vested in Continuing Company by virtue of such
Merger without any deed or other transfer. Continuing Company, without any order
or other action on the part of any court or otherwise, shall hold and enjoy all
rights of property, franchises and interest, including appointments,
designations and nominations, and all other rights and interests as trustee,
executor, administrator, transfer agent or registrar of stocks and bonds,
guardian of estates, assignee, receiver and committee of estates and lunatics,
and in every other fiduciary capacity, in the same manner and to the same extent
as such rights, franchises, and interests were held or enjoyed by Paradigm and
Prosperity, respectively, as of the Effective Time.
A-2
Section 1.4 Liabilities of Continuing Company. At the Effective Time,
Continuing Company shall be liable for all liabilities of Paradigm and
Prosperity. All debts, liabilities, obligations and contracts of Paradigm and of
Prosperity, respectively, matured or unmatured, whether accrued, absolute,
contingent or otherwise, and whether or not reflected or reserved against on
balance sheets, books of account, or records of Paradigm or Prosperity, as the
case may be, shall be those of Continuing Company and shall not be released or
impaired by the Merger. All rights of creditors and other obligees and all liens
on property of either Paradigm or Prosperity shall be preserved unimpaired
subsequent to the Merger.
Section 1.5 Ratification by Shareholders. Subject to the terms of
this Agreement, this Agreement shall be submitted to the shareholders of
Paradigm in accordance with applicable provisions of law and the Articles of
Incorporation and Bylaws of Paradigm. Paradigm and Prosperity shall proceed
expeditiously and cooperate fully in the procurement of any other consents and
approvals and the taking of any other actions in satisfaction of all other
requirements prescribed by law or otherwise necessary for consummation of the
Merger on the terms herein provided, including, without limitation, the
preparation and submission of all necessary filings, requests for waivers and
certificates with the Securities and Exchange Commission ("SEC"), Board of
Governors of the Federal Reserve System ("Federal Reserve"), the Federal Deposit
Insurance Corporation ("FDIC") and the Texas Department of Banking (the "Banking
Department.")
Section 1.6 Tax Consequences. It is intended by the parties hereto
that the Merger shall constitute a reorganization within the meaning of Section
368(a) of the Code, and the parties hereto hereby adopt this Agreement as a
"plan of reorganization" within the meaning of Sections 1.368-2(g) and
1.368-3(a) of the Treasury Regulations promulgated thereunder.
II. MERGER CONSIDERATION AND EXCHANGE PROCEDURES
Section 2.1 Merger Consideration.
(a) Each share of the Paradigm Common Stock issued and
outstanding immediately prior to the Effective Time, other than Dissenting
Shares (as defined in Section 2.5 of the Agreement), shall, by virtue of the
Merger and without any action on the part of the holder thereof, be cancelled
and converted into and represent the right to receive, upon surrender of the
certificate representing such share, that number of shares of common stock,
$1.00 par value, of Prosperity ("Prosperity Common Stock") equal to the Total
Exchange Ratio or, if applicable, the Adjusted Total Exchange Ratio, as set
forth in Section 2.2 (the "Merger Consideration"), without interest thereon;
provided, however, that a portion of such shares will be distributed in trust
subject to the holdback rights set forth in Section 2.2(d) hereof.
(b) Each share of Paradigm Common Stock held in the treasury
of Paradigm and each share of Paradigm Common Stock owned by any direct or
indirect wholly owned Subsidiary of Paradigm immediately prior to the Effective
Time shall be cancelled without any conversion and no payment or distribution
shall be made with respect thereto.
(c) Notwithstanding anything in this Agreement to the
contrary, Prosperity will not issue any certificates or scrip representing
fractional shares of Prosperity Common Stock
A-3
otherwise issuable pursuant to the Merger. In lieu of the issuance of any such
fractional shares, Prosperity shall pay to each former holder of Paradigm Common
Stock otherwise entitled to receive such fractional share an amount of cash
determined by multiplying (i) the average closing price per share of Prosperity
Common Stock on The Nasdaq Stock Market, Inc. National Market System ("Nasdaq")
(as reported by The Wall Street Journal or, if not reported thereby, another
alternative source as chosen by Prosperity) on the trading day immediately prior
to the day during which the Effective Time occurs by (ii) the fraction of a
share of Prosperity Common Stock which such holder would otherwise be entitled
to receive pursuant to this Section 2.1.
Section 2.2 Determination and Adjustment of Exchange Ratio.
(a) The aggregate number of shares of Prosperity Common Stock to
be exchanged for each share of Paradigm Common Stock shall be adjusted
appropriately to reflect any change in the number of shares of Prosperity Common
Stock by reason of any stock dividends or splits, reclassification,
recapitalization or conversion with respect to Prosperity Common Stock, received
or to be received by holders of Prosperity Common Stock, when the record date or
payment occurs prior to the Effective Time.
(b) Unless otherwise adjusted as provided in Section 2.2(c), each
share of Paradigm Common Stock outstanding prior to the Effective Time of the
Merger shall be converted into and exchanged for the right to receive up to
0.54329 shares of Prosperity Common Stock (the "Total Exchange Ratio") in the
following manner: (i) each shareholder will receive 0.52745 shares of Prosperity
Common Stock at Closing (the "Closing Exchange Ratio") and (ii) each shareholder
will have the right to receive up to 0.01584 shares of Prosperity Common Stock
which will be distributed in trust as further provided in Section 2.2(d) (the
"Holdback Exchange Ratio"). Subject to any adjustment as provided in Section
2.2(c), (i) an aggregate of 1,252,687 shares of Prosperity Common Stock, less
any shares that would otherwise be distributed to shareholders who exercise
dissenters' rights, shall be distributed to shareholders of Paradigm at closing
(collectively, the "Closing Shares") and (ii) an aggregate of up to 37,635
shares of Prosperity Common Stock, less any shares that would otherwise be
distributed to shareholders who exercise their dissenters' rights, shall be
distributed in trust for possible future issuance (collectively, the "Holdback
Shares") as set forth in Section 2.2(d).
(c) The Total Exchange Ratio may, at the option of Prosperity, be
adjusted ("Adjusted Total Exchange Ratio") if (i) the average of the closing
price per share of Prosperity Common Stock ("Measurement Price") on Nasdaq (as
reported by The Wall Street Journal or, if not reported thereby, another
alternative source as chosen by Prosperity) during the period of the ten
consecutive trading days ending on the third trading day immediately prior to
the Closing Date ("Price Measurement Period") is less than $24.41 per share and
(ii) the percentage difference between $32.55 and the Measurement Price is
greater than 10% lower than the percentage decrease between the closing price of
the KBW Bank Index on April 26, 2002 and the average closing price of the KBW
Bank Index during the Price Measurement Period. If adjusted, each share of
Paradigm Common Stock outstanding immediately prior to the Effective Time will
be converted and exchanged into the number of shares of Prosperity Common Stock
determined by dividing the Adjusted Prosperity Shares by the number of shares of
Paradigm Common Stock then outstanding. The "Adjusted Prosperity Shares" shall
be a number equal to $31,500,000 divided by the Measurement Price. If Prosperity
elects not to adjust the Total
A-4
Exchange Ratio, Paradigm may terminate this Agreement as provided in Section
9.1(d) hereof. If Prosperity elects to adjust the Total Exchange Ratio, the
Closing Exchange Ratio and the Holdback Exchange Ratio shall be adjusted
accordingly.
(d) The Holdback Shares shall be distributed in trust to PRSP
Bank Trust Department, as trustee ("PRSP Trustee"), to be held (the "Escrow")
for possible future distribution to Paradigm shareholders or to be returned to
Prosperity for cancellation, as described in the Holdback Escrow Agreement
referred to in Section 2.8 hereof. Each former Paradigm shareholder (other than
any shareholder who has validly exercised such shareholder's dissenters' rights)
shall be entitled to receive a distribution of Holdback Shares equal to the
number of Holdback Shares to be distributed multiplied by a fraction the
numerator of which is the number of shares of Paradigm Common Stock held by that
shareholder immediately prior to the Effective Time, and the denominator of
which is the total number of Paradigm shares outstanding immediately prior to
Effective Time (excluding for these purposes any shares attributable to
shareholders who have validly exercised their dissenters' rights). The rights
under the trust, including the right to receive any Holdback Shares, will not be
transferable or assignable by the Paradigm shareholders other than by will or by
the laws of descent and distribution in the case of a natural person, or in the
case of a trust or entity, to any successor trustee or successor entity,
including without limitation, the distribution to the beneficial owners in
accordance with the terms of the governing documents or under applicable law.
The Holdback Shares are being distributed in trust in part to protect Prosperity
from any actual or potential losses arising out of or in any manner related to
losses incurred by Prosperity in connection with any of the loans of Paradigm
set forth in Schedule 2.2(d). As of the date hereof, the aggregate outstanding
balance of the Scheduled Loans is $1,877,839 and the value of the Holdback
Shares, based on a price of $32.55 per share, was $1,225,000 ("Holdback Share
Value").
(e) For purposes of this Agreement, the aggregate number of
Closing Shares and Holdback Shares as stated in Section 2.2(b) (including for
these purposes any shares that would be distributed to Paradigm shareholders but
for their exercise of dissenters' rights of appraisal), prior to any adjustment
pursuant to Section 2.2(c), and whether or not all Holdback Shares are in fact
actually distributed, is referred to herein as the "Aggregate Maximum Number of
Shares."
Section 2.3 Conversion of Paradigm Stock Options. (a) At the Effective
Time, each option to acquire shares of Paradigm Common Stock which is
outstanding and unexercised immediately prior thereto ("Paradigm Stock Option")
pursuant to the Paradigm Bancorporation, Inc. 1999 Stock Incentive Plan
("Paradigm Stock Option Plan") shall, in accordance with its terms, be converted
(automatically and without any action on the part of the holder thereof) into an
option to purchase shares of Prosperity Common Stock in an amount and at an
exercise price determined as provided below (and otherwise subject to the terms
of the Paradigm Stock Option Plan and agreements evidencing the grants
thereunder):
(i) The number of shares of Prosperity Common Stock to be
subject to the new option shall be equal to the number of shares of Paradigm
Common Stock subject to the original option multiplied by the Total Exchange
Ratio or, if applicable, the Total Adjusted Exchange Ratio; and
A-5
(ii) The exercise price per share of Prosperity Common
Stock under the new option shall be equal to the exercise price per share of
Paradigm Common Stock under the original option divided by the Total Exchange
Ratio or, if applicable, the Adjusted Total Exchange Ratio.
(b) The adjustment provided herein with respect to any
options which are "incentive stock options" as defined in Section 422 of the
Internal Revenue Code, shall be and is intended to be effected in a manner which
is consistent with Section 424(a) of the Internal Revenue Code. The duration and
other terms of the new option shall be the same as the original option except
that all references to Paradigm shall be deemed to be references to Prosperity.
Section 2.4 Stock Appreciation Rights.
(a) Immediately prior to the Effective Time, all rights with
respect to the Stock Appreciation Rights ("Paradigm SARs") granted pursuant to
the Paradigm 1998 Stock Appreciation Rights Plan ("Paradigm SAR Plan") which are
listed and described (including exercise prices, vesting schedules, expiration
dates, holders of and numbers of SARs) in Schedule 2.4(a), which are outstanding
immediately prior to the Effective Time shall be cancelled immediately prior to
the Effective Time and shall be converted into the right of each holder thereof
to receive for each Paradigm SAR cash in an amount equal to the difference
between (i) the average of the high and low sale prices of a share of Prosperity
Common Stock on Nasdaq on the second trading day immediately prior to the
Closing Date multiplied by the Total Exchange Ratio, or if applicable, the
Adjusted Total Exchange Ratio and (ii) the exercise price of each Paradigm SAR
under such holder's SAR Agreement.
(b) Paradigm shall procure from each holder of Paradigm SARs,
and shall deliver to Prosperity at the Closing, an executed acknowledgement of
the treatment and disposition of such holder's Paradigm SARs as provided for
under this Section 2.4 and Section 10.9.
Section 2.5 Dissenting Shares. Each share of Paradigm Common Stock
issued and outstanding immediately prior to the Effective Time, the holder of
which has not voted in favor of the Merger and who has delivered a written
demand for payment of the fair value of such shares within the time and in the
manner provided in Article 5.12 of the TBCA, is referred to herein as a
"Dissenting Share." Notwithstanding anything in this Agreement to the contrary,
Dissenting Shares shall not be converted into or represent the right to receive
the Merger Consideration pursuant to Section 2.1 of this Agreement unless and
until such holder shall have failed to perfect or shall have effectively
withdrawn or lost his right to appraisal and payment under the TBCA. If any such
holder shall have so failed to perfect or shall have effectively withdrawn or
lost such right, such holder's Dissenting Shares shall thereupon be deemed to
have been converted into and to have become exchangeable for, at the Effective
Time, the right to receive the Merger Consideration without any interest
thereon.
Section 2.6 Exchange Agent. Immediately prior to the Closing Date,
Prosperity shall deposit or cause to be deposited in trust with Computershare
Investor Services, Inc., Denver, Colorado (the "Exchange Agent") (i)
certificates representing shares of Prosperity Common Stock and (ii) cash, each
in an aggregate amount estimated to be sufficient to make the payments
A-6
of the Merger Consideration set forth in Section 2.1 of this Agreement and to
make the appropriate cash payments (A) to holders of Dissenting Shares pursuant
to Section 2.5 hereof, if any, and (B) holders of a fraction of a share of
Prosperity Common Stock (such amounts being hereinafter referred to as the
"Exchange Fund"). The Exchange Fund shall not be used for any other purpose,
except as provided in this Agreement.
Section 2.7 Exchange Procedures.
(a) At least ten (10) days prior to the Closing Date,
Paradigm shall deliver to Prosperity a list of Paradigm's shareholders which
shall include each shareholder's name, address and the number of shares of
Paradigm Common Stock owned.
(b) Promptly after the Effective Time, the Exchange Agent
shall mail to each record holder of an outstanding certificate or certificates
which as of the Effective Date represented shares of Paradigm Common Stock (the
"Certificates"), a form letter of transmittal which will specify that delivery
shall be effected, and risk of loss and title to the Certificates shall pass,
only upon proper delivery of the Certificates to the Exchange Agent and contain
instructions for use in effecting the surrender of the Certificates for payment
therefor. Upon surrender to the Exchange Agent of a Certificate, together with
such letter of transmittal duly executed, the holder of such Certificate shall
be entitled to receive in exchange therefor the amount of cash and number of
shares of Prosperity Common Stock provided in Section 2.1 hereof, and such
Certificate shall forthwith be cancelled. Prosperity shall provide the Exchange
Agent with certificates for Prosperity Common Stock, as requested by the
Exchange Agent, for the number of shares provided in Section 2.1 or, if
applicable, Section 2.2 hereof. No interest will be paid or accrued with respect
to cash payable upon surrender of the Certificate in accordance with this
Article II. Until surrendered in accordance with the provisions of this Section
2.7, each Certificate (other than Certificates representing Dissenting Shares)
shall represent for all purposes the right to receive the Merger Consideration
without any interest thereon.
(c) Former shareholders of Paradigm shall be entitled to
vote after the Effective Time at any meeting of Prosperity's shareholders the
number of shares of Prosperity Common Stock into which their shares are
converted, regardless of whether such shareholders of Paradigm have surrendered
their Certificates in exchange therefor.
(d) No dividends or other distributions declared after the
Effective Time with respect to shares of Prosperity Common Stock and payable to
the holders thereof shall be paid to the holder of a Certificate until such
holder surrenders such Certificate to the Exchange Agent in accordance with this
Section 2.7. After the surrender of a Certificate in accordance with this
Section 2.7, the holder thereof shall be entitled to receive any such dividends
or other distributions, without interest thereon, which had become payable after
the Effective Time with respect to the shares of Prosperity Common Stock
represented by such Certificate. Any dividends (including stock dividends) or
other amounts attributable to Holdback Shares held in trust pursuant to Section
2.2(d) hereof, shall accrue during the holdback period set forth in the Holdback
Escrow Agreement and shall be distributed to Paradigm shareholders, without
interest thereon, at the same time and in the same proportion as any Holdback
Shares are distributed to
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Paradigm shareholders. No dividends will be paid with respect to any Holdback
Shares which are not distributed to Paradigm shareholders.
(e) After the Effective Time, the stock transfer ledger of
Paradigm shall be closed and there shall be no transfers on the stock transfer
books of Paradigm of the shares of Paradigm Common Stock which were outstanding
immediately prior to such time of filing. If, after the Effective Time,
Certificates are presented to Prosperity, they shall be promptly presented to
the Exchange Agent and exchanged as provided in this Section 2.7.
(f) Any portion of the Exchange Fund (including the proceeds of
any investments thereof) that remains unclaimed by the shareholders of Paradigm
for six months after the Exchange Agent mails the letter of transmittal pursuant
to Section 2.7(b) shall be delivered to Prosperity upon demand, and any
shareholders of Paradigm who have not theretofore complied with the exchange
procedures in this Article II shall look to Prosperity only, and not the
Exchange Agent, for the payment of any Merger Consideration in respect of such
shares.
(g) If any certificate representing shares of Prosperity Common
Stock is to be issued in a name other than that in which the Certificate
surrendered in exchange therefor is registered, it shall be a condition of the
issuance thereof that the Certificate so surrendered shall be appropriately
endorsed (or accompanied by an appropriate instrument of transfer) and otherwise
in proper form (reasonably satisfactory to Prosperity) for transfer, and that
the person requesting such exchange shall pay to the Exchange Agent in advance
any transfer or other taxes required by reason of the issuance of a certificate
representing shares of Prosperity Common Stock in any name other than that of
the registered holder of the Certificate surrendered, or required for any other
reason, or shall establish to the satisfaction of the Exchange Agent that such
tax has been paid or not payable.
(h) None of Prosperity, Paradigm, the Exchange Agent or any other
person shall be liable to any former holder of shares of Paradigm Common Stock
for any Prosperity Common Stock (or dividends or distributions with respect
thereto) or cash properly delivered to a public official pursuant to applicable
abandoned property, escheat or similar laws.
(i) In the event any Certificate shall have been lost, stolen or
destroyed, then upon the making of an affidavit of that fact by the person
claiming such Certificate to be lost, stolen or destroyed and, if required by
Prosperity or the Exchange Agent, the posting by such person of a bond in such
amount as Prosperity or the Exchange Agent may direct as indemnity against any
claim that may be made against the Continuing Company with respect to such
Certificate, the Exchange Agent will issue in exchange for such lost, stolen or
destroyed Certificate the shares of Prosperity Common Stock and cash in lieu of
a fractional share interest deliverable in respect thereof pursuant to this
Agreement.
Section 2.8 Paradigm Shareholder Representative.
(a) Walter G. Finger (the "Paradigm Shareholder Representative")
is hereby irrevocably appointed as the attorney in fact and agent of the
Paradigm shareholders effective immediately prior to Closing (other than
Paradigm shareholders who properly and fully exercise
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their dissenters' rights) and any person to whom rights to the Holdback Shares
have been properly assigned under Section 2.2(d) (individually, a "Holdback
Beneficial Owner" and collectively, the "Holdback Beneficial Owners") for all
purposes of the Holdback Escrow Agreement, attached hereto as Exhibit D and made
a part hereof, to act as agent for the Paradigm shareholders to facilitate the
consummation of the transactions herein described and to facilitate distribution
of consideration to the Holdback Beneficial Owners. Prosperity shall be entitled
to rely upon the Paradigm Shareholder Representative's authority to act on
behalf of the Holdback Beneficial Owners in his capacity as such agent. The
Paradigm Shareholder Representative shall have authority on behalf of the
Paradigm shareholders, and shall promptly and completely exercise such authority
in a timely fashion to:
(i) participate in, represent and bind the Holdback Beneficial
Owners in all respects with respect to any arbitration or legal proceeding
relating to the Holdback Escrow Agreement, including, without limitation, the
defense and settlement of any matter, and the calculation thereof for every
purpose thereunder, consent to jurisdiction, to enter into any settlement, and
to entry of judgment, each with respect to any or all of the Holdback Beneficial
Owners; provided, however, the Paradigm Shareholder Representative shall have no
authority under this Agreement or the Holdback Escrow Agreement to bind any
Holdback Beneficial Owner to pay or return any money or property other than the
money and/or Holdback Shares that are then being held by the PRSP Trustee under
the Holdback Escrow Agreement;
(ii) receive, accept and give notices and other communications
relating to the Holdback Escrow Agreement;
(iii) take any action that the Paradigm Shareholder
Representative deems necessary or desirable in order to fully effectuate the
transactions contemplated by the Holdback Escrow Agreement; and
(iv) execute and deliver any instrument or document that the
Representative deems necessary or desirable in the exercise of his authority
under this Section 2.8.
(b) Those Holdback Beneficial Owners who have the right to receive a
majority of the Prosperity Common Stock that may distributed to the Holdback
Beneficial Owners out of the Escrow (a "Majority in Interest"), may at any time
and by written action delivered to Prosperity, remove the Paradigm Shareholder
Representative or any successor thereto, but such removal shall be effective
only upon the replacement of such Paradigm Shareholder Representative or
successor by a new Paradigm Shareholder Representative designated, by written
notice delivered to Prosperity, by those Holdback Beneficial Owners who hold a
Majority in Interest; provided, however, that any such notice shall be only
effective upon actual receipt by Prosperity. Any such written notice shall be
delivered to Prosperity in accordance with the notice provisions set forth
herein. If any Paradigm Shareholder Representative shall have died, become
incapacitated or unable to serve, those Holdback Beneficial Owners who, as of
immediately prior to the Effective Date, hold a Majority in Interest shall
promptly designate by written notice delivered to Prosperity, a replacement
Paradigm Shareholder Representative. Any reasonable costs and expenses incurred
by the Paradigm Shareholder Representative in connection with actions taken
pursuant to or permitted by this
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section will be borne, directly or indirectly, by the Holdback Beneficial Owners
and paid or reimbursed to the Paradigm Shareholder Representative pro rata. If a
Holdback Beneficial Owner does not pay or reimburse such costs and expenses, the
Paradigm Shareholder Representative may require that Holdback Shares or other
property which would otherwise be distributed to such Holdback Beneficial Owners
pursuant to the Holdback Escrow Agreement be distributed to the Paradigm
Shareholder Representative at any time in connection with such reimbursement.
(c) The foregoing authority is granted and conferred in consideration
for the various agreements and covenants of Prosperity contained herein. In
consideration of the foregoing, and subject to the successorship provisions of
this section, this authorization granted to the Paradigm Shareholder
Representative shall not be terminated by any act of any of the Paradigm
shareholders or by operation of law, whether by death or incompetence of any
Holdback Beneficial Owner or by the occurrence of any other event. If after the
execution hereof, any such Holdback Beneficial Owners shall die or become
incompetent, the Paradigm Shareholder Representative is nevertheless authorized
and directed to exercise the authority granted in this section as if such death
or incompetence had not occurred and regardless of notice thereof. In addition
to the authority granted to the Shareholder Representative as attorney in fact
and agent for the Holdback Beneficial Owners, all the powers, rights and
responsibilities are also given to the Shareholder Representative directly under
the terms of this Agreement and the Holdback Escrow Agreement, and he or she
shall have all such powers, rights and responsibilities whether or not he or she
is or deemed to be the actual attorney in fact or agent for any Holdback
Beneficial Owner. The rights of each Paradigm Shareholder to the Holdback Shares
is subject to this Section 2.8 and the other terms and conditions of this
Agreement and the Holdback Escrow Agreement. The Paradigm Shareholder
Representative shall have no liability to any Holdback Beneficial Owner for any
act or omission or obligation hereunder, provided that such action or omission
is taken by the Paradigm Shareholder Representative in good faith and without
willful misconduct.
III. REPRESENTATIONS AND WARRANTIES OF PARADIGM
Paradigm represents and warrants to Prosperity, that each of the statements
made in this Article III are true and correct in all material respects. Paradigm
agrees that, at the Closing (as defined in Section 8.1 of this Agreement), it
shall provide Prosperity with supplemental Schedules reflecting any material
changes in the information contained in the Schedules which have occurred in the
period from the date of delivery of such Schedules to the date of Closing.
Section 3.1 Organization and Authority.
(a) Paradigm is a corporation duly organized, validly existing and
in good standing under the laws of the State of Texas and a financial holding
company duly registered under the Bank Holding Company Act of 1956, as amended
("BHC Act") and the GLB Act, subject to all laws, rules and regulations
applicable to financial holding companies. Paradigm owns 100% of the issued and
outstanding shares of common stock, $1.00 par value, of Paradigm Delaware
("Paradigm Delaware Stock"). Paradigm Delaware, a Delaware corporation and a
bank holding company registered under the BHC Act, is duly organized, validly
existing and in good standing under the laws of the State of Delaware. Paradigm
Delaware owns 100% of the
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issued and outstanding shares of common stock, $0.40 par value, of the Bank (the
"Bank Stock"). The Bank is a Texas banking association duly organized, validly
existing and in good standing under the laws of the State of Texas. Paradigm,
Paradigm Delaware and the Bank have full power and authority (including all
licenses, franchises, permits and other governmental authorizations which are
legally required) to own, lease and operate their properties, to engage in the
business and activities now conducted by them and to enter into this Agreement,
except where the failure to be so licensed or qualified would not have a
Material Adverse Effect (as defined in Section 13.1(b) hereof) on the business,
assets, operations, financial condition or results of operations (such business,
assets, operations, financial condition or results hereinafter collectively
referred to as the "Condition") of Paradigm.
(b) The Bank is duly authorized to conduct a general banking
business, embracing all usual deposit functions of commercial banks as well as
commercial, industrial and real estate loans, installment credits, collections
and safe deposit facilities subject to the supervision of the FDIC and the
Banking Department. The Bank does not conduct trust activities.
(c) True and complete copies of the Articles of Incorporation and
Bylaws of Paradigm, the Certificate of Incorporation and Bylaws of Paradigm
Delaware and the Articles of Association and Bylaws of the Bank, each as amended
to date (collectively, "Paradigm Constituent Documents"), have been delivered or
made available to Prosperity.
(d) Except as set forth in Schedule 3.1(d), neither Paradigm nor
any of its Subsidiaries (as defined in Section 13.1(c) hereof), (i) has any
Subsidiaries or Affiliates, (ii) is a general partner or material owner in any
joint venture, general partnership, limited partnership, trust or other
non-corporate entity, and (iii) knows of any arrangement pursuant to which the
stock of any corporation is or has been held in trust (whether express,
constructive, resulting or otherwise) for the benefit of all shareholders of
Paradigm.
(e) The deposit accounts of the Bank are insured by the FDIC
through the Bank Insurance Fund to the fullest extent permitted by law, and all
premiums and assessments due and owing as of the date hereof required in
connection therewith have been paid by the Bank.
Section 3.2 Capitalization.
(a) The authorized capital stock of Paradigm consists of
25,000,000 shares of Paradigm Common Stock, 2,375,000 of which are issued and
outstanding and 37,140 of which are reserved for issuance upon the exercise of
stock options granted pursuant to the Paradigm Stock Option Plan as of the date
of this Agreement, and 10,000,000 shares of preferred stock, $1.00 par value,
one of which is issued and outstanding. The authorized capital stock of Paradigm
Delaware consists of 1,000 shares of Paradigm Delaware Stock, all of which are
issued and outstanding. The authorized capital stock of the Bank consists of
1,500,000 shares of the Bank Stock, all of which are issued and outstanding. All
of the issued and outstanding shares of Paradigm Common Stock, Paradigm Delaware
Stock and the Bank Stock are validly issued, fully paid and nonassessable, and
have not been issued in violation of the preemptive rights of any person or in
violation of any applicable federal or state laws.
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(b) Schedule 3.2(b) will contain a list of the exercise prices,
vesting schedules, expiration dates, holders of and numbers of shares subject to
all such Paradigm Stock Options outstanding. Except as set forth in Schedule
3.2(b), all Paradigm Stock Options have been duly authorized and all Paradigm
Stock Options (i) were granted at a per share price which was not less than the
fair market value per share of Paradigm Common Stock at the date of grant and
(ii) all Paradigm Stock Options intended to qualify as "incentive" stock options
under Section 422(b) of the Internal Revenue Code met all the requirements under
the Internal Revenue Code for such qualification.
(c) Except for the Paradigm Stock Options and except as set forth
in Schedule 3.2(c), there are no existing options, warrants, calls, convertible
securities or commitments of any kind obligating Paradigm or any of its
Subsidiaries to issue any authorized and unissued Paradigm Common Stock,
Paradigm Delaware Stock or the Bank Stock nor does Paradigm or any of its
Subsidiaries have any outstanding commitment or obligation to repurchase,
reacquire or redeem any of their outstanding capital stock.
(d) Except as disclosed in Schedule 3.2(d), there are no voting
trusts, voting agreements, buy-sell agreements or other similar arrangements
affecting the Paradigm Common Stock, Paradigm Delaware Stock or the Bank Stock.
Section 3.3 Authority; Approvals.
(a) Paradigm has full corporate power and authority to execute and
deliver this Agreement (and any related documents), and Paradigm and each of its
Subsidiaries has full legal capacity, power and authority to perform their
respective obligations hereunder and thereunder and to consummate the
contemplated transactions. Except for the approval of the respective
shareholders of Paradigm, Paradigm Delaware and the Bank, all actions or
proceedings on the part of Paradigm and each of its Subsidiaries necessary to
approve this Agreement (and any related documents) and to consummate the
contemplated transactions have been taken.
(b) The Board of Directors of Paradigm has duly and validly
approved this Agreement and the transactions contemplated herein and no further
corporate proceedings of Paradigm are needed to execute and deliver this
Agreement and consummate the Merger. This Agreement has been duly executed and
delivered by Paradigm and, is a duly authorized, valid, legally binding
agreement of Paradigm enforceable against Paradigm in accordance with its terms,
subject to the effect of bankruptcy, insolvency, reorganization, moratorium or
other similar laws relating to creditors' rights generally and general equitable
principles.
Section 3.4 Investments. Paradigm has furnished to Prosperity a complete
list, as of March 31, 2002, of all securities, including municipal bonds, owned
by Paradigm (the "Securities Portfolio"). Except as set forth in Schedule 3.4,
all such securities are owned by Paradigm (i) of record, except those held in
bearer form, and (ii) beneficially, free and clear of all mortgages, liens,
pledges and encumbrances. Schedule 3.4 also discloses any entities in which the
ownership interest of Paradigm equals 5% or more of the issued and outstanding
voting securities of the issuer thereof. There are no voting trusts or other
agreements or understandings with respect to the voting of any of the securities
in the Securities Portfolio.
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Section 3.5 Financial Statements.
(a) Paradigm has furnished or made available to Prosperity true
and complete copies of (i) Paradigm's audited consolidated balance sheets as of
December 31, 2001, 2000 and 1999, and the related audited consolidated
statements of income, statements of cash flow and statements of shareholders'
equity for the years then ended, together with the notes thereto and (ii)
Paradigm's unaudited consolidated balance sheet as of March 31, 2002, and the
related unaudited consolidated statements of income, statements of cash flow and
statements of shareholders' equity for the three months then ended. Paradigm has
also delivered to Prosperity a true and correct copy of the Consolidated Reports
of Condition and Income ("Call Reports") filed by the Bank as of and for the
years ended December 31, 2001, 2000 and 1999. The audited and unaudited
financial information and Call Reports referred to in this Section 3.5 are
collectively referred to herein as the "Paradigm Financial Statements."
(b) Each of the Paradigm Financial Statements fairly present the
financial position and results of operations of Paradigm at the dates and for
the periods indicated in conformity with generally accepted accounting
principles ("GAAP") applied on a consistent basis, except for the Call Reports
which are in compliance with regulatory accounting principles.
(c) Except as set forth in Schedule 3.5(c), since March 31, 2002,
Paradigm has not had any obligations or liabilities, fixed or contingent, that
(i) have or might reasonably be expected to have, individually or in the
aggregate, a Material Adverse Effect on the Condition of Paradigm or (ii) are
not fully shown or provided for in the Paradigm Financial Statements or
otherwise disclosed in this Agreement, or in any of the documents delivered to
Prosperity. Since March 31, 2002, there have been no material changes in the
financial condition, assets, liabilities or business of Paradigm, other than
changes in the ordinary course of business, which individually or in the
aggregate have not had a Material Adverse Effect on the Condition of Paradigm.
(d) Except as set forth in Schedule 3.5(d), Paradigm has not
changed its independent auditing firm since December 31, 1997, and there has
been no disagreement (as such term is used in Item 304 of Regulation S-K under
the Securities Act) between Paradigm and its independent auditing firm since
December 31, 1997 concerning any aspect of the manner in which Paradigm
maintains its books and records or the manner in which it has reported upon its
financial condition and results of operations during such period.
Section 3.6 Real Property Owned or Leased.
(a) Other than real property acquired through foreclosure or deed
in lieu of foreclosure, Schedule 3.6(a) contains a true, correct and complete
list of all real property owned or leased by Paradigm, Paradigm Delaware and the
Bank (the "Paradigm Real Property"). True and complete copies of all of its
deeds, leases and title insurance policies for, or other documentation
evidencing ownership of, the properties referred to in Schedule 3.6(a) and all
mortgages, deeds of trust and security agreements to which such property is
subject have been furnished or made available to Prosperity.
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(b) Except as set forth in Schedule 3.6(b), no lease with respect
to any Paradigm Real Property and no deed with respect to any Paradigm Real
Property contains any restrictive covenant that materially restricts the use,
transferability or value of such Paradigm Real Property. Each of such leases is
a legal, valid and binding obligation enforceable in accordance with its terms
(except as may be limited by bankruptcy, insolvency, moratorium, reorganization
or similar laws affecting the rights of creditors generally and the availability
of equitable remedies), and is in full force and effect; there are no existing
defaults by Paradigm, Paradigm Delaware and the Bank or the other party
thereunder and there are no allegations or assertions of such by any party under
such agreement or any events that with notice lapse of time or the happening or
occurrence of any other event would constitute a default thereunder.
(c) Except as set forth in Schedule 3.6(c), to the knowledge of
Paradigm, none of the buildings and structures located on any Paradigm Real
Property, nor any appurtenances thereto or equipment therein, nor the operation
or maintenance thereof, violates in any material manner any restrictive
covenants or encroaches on any property owned by others, nor does any building
or structure of third parties encroach upon any Paradigm Real Property, except
for those violations and encroachments which in the aggregate would not
reasonably be expected to cause a Material Adverse Effect on the Condition of
Paradigm. No condemnation proceeding is pending or, to Paradigm's knowledge,
threatened, which would preclude or materially impair the use of any Paradigm
Real Property in the manner in which it is currently being used.
(d) Except as set forth in Schedule 3.6(d), Paradigm and its
Subsidiaries have good and indefeasible title to, or a valid and enforceable
leasehold interest in, or a contract vendee's interest in, all Paradigm Real
Property, and such interest is free and clear of all liens, charges or other
encumbrances, except (i) statutory liens for amounts not yet delinquent or which
are being contested in good faith through proper proceedings and (ii) those
liens related to real property taxes, local improvement district assessments,
easements, covenants, restrictions and other matters of record which do not
individually or in the aggregate materially adversely affect the use and
enjoyment of the relevant real property.
(e) All buildings and other facilities used in the business of
Paradigm are adequately maintained and, are free from defects which would be
reasonably likely to materially interfere with the current or future use of such
facilities.
Section 3.7 Personal Property. Paradigm and its Subsidiaries have good
title to, or a valid leasehold interest in, all personal property, whether
tangible or intangible, used in the conduct of their business (the "Paradigm
Personalty"), free and clear of all liens, charges or other encumbrances, except
(a) statutory liens for amounts not yet delinquent or which are being contested
in good faith through proper proceedings and (b) such other liens, charges,
encumbrances and imperfections of title as to not individually or in the
aggregate materially adversely affect the use and enjoyment of the relevant
Paradigm Personalty. Subject to ordinary wear and tear, the Paradigm Personalty
is in good operating condition and repair and is adequate for the uses to which
it is being put.
Section 3.8 Environmental Laws. To the knowledge of Paradigm, Paradigm and
its Subsidiaries, and any properties or business owned or operated by any of
them, whether or not held in a fiduciary or representative capacity, are in
material compliance with all terms and
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conditions of all applicable federal and state Environmental Laws (as defined
below) and permits thereunder. Except as set forth in Schedule 3.8, (a) neither
Paradigm nor any of its Subsidiaries has received notice of or has knowledge of
any material violation of any Environmental Laws or of any placement, disposal
or release of any materials designated as Hazardous Materials (as defined below)
under the Environmental Laws in a manner that would result in a material claim
or lien against any of them under any Environmental Laws; (b) during the term of
ownership by Paradigm or any of its Subsidiaries no real estate currently owned,
operated, or leased (including any property acquired by foreclosure or deeded in
lieu thereof) by Paradigm or its Subsidiaries, or owned, operated or leased by
Paradigm or its Subsidiaries within the five years preceding the date of this
Agreement, has, to the knowledge of Paradigm, been designated by applicable
governmental authorities as requiring any environmental cleanup or response
action by Paradigm or any of its Subsidiaries to comply with Environmental Laws,
or has been the site of release of any Hazardous Materials; (c) to the knowledge
of Paradigm or any Subsidiary, no friable asbestos was used in the construction
of any portion of Paradigm's or any Subsidiaries' facilities; and (d) to the
knowledge of Paradigm or any Subsidiary, no real property currently owned by
Paradigm or any Subsidiary is, or has been a landfill.
"Environmental Laws," as used in this Agreement, means any applicable
federal, state or local statute, law, rule, regulation, ordinance, code or rule
of common law now in effect and in each case as amended to date and any judicial
or administrative interpretation thereof, including any judicial or
administrative order, consent decree, or judgment, relating to pollution, the
protection of human health or safety, the environment, or emissions, discharges,
releases or threatened releases of Hazardous Materials or otherwise relating to
the manufacture, processing, distribution, use, treatment, storage, disposal,
handling, or transport of Hazardous Materials, including without limitation the
Comprehensive Environmental Response, Compensation and Liability Act of 1980, as
amended, 42 U.S.C.(S) 9601, et seq.; The Hazardous Materials Transportation
Authorization Act, as amended, 49 U.S.C.(S) 5101, et seq.; the Resource
Conservation and Recovery Act of 1976, as amended, 42 U.S.C. (S) 6901, et seq.;
the Federal Water Pollution Control Act, as amended, 33 U.S.C.(S) 1201, et seq.;
the Toxic Substances Control Act, 15 U.S.C.(S) 2601, et seq.; the Clean Air Act,
42 U.S.C.(S) 7401, et seq.; and the Safe Drinking Water Act, 42 U.S.C.(S) 300f,
et seq.
"Hazardous Materials," as used in this Agreement, includes, but is not
limited to, (a) any petroleum or petroleum products, natural gas, or natural gas
products, radioactive materials, friable asbestos, urea formaldehyde foam
insulation, transformers or other equipment that contains dielectric fluid
containing levels of polychlorinated biphenyls (PCBs) greater than 500 mg/l, and
radon gas in levels above 4 picocures/liter; (b) any chemicals, materials, waste
or substances defined as or included in the definition of "hazardous
substances," "hazardous wastes," "hazardous materials," "extremely hazardous
wastes," "restricted hazardous wastes," "toxic substances," "toxic pollutants,"
"contaminants," or "pollutants," or words of similar import, under any
Environmental Laws; and (c) any other chemical, material, waste or substance
which is in any way regulated as hazardous or toxic as of the date hereof by any
federal, state or local government authority, agency or instrumentality,
including mixtures thereof with other materials.
Schedule 3.9 Litigation and Other Proceedings. Except as set forth in
Schedule 3.9, there are no legal, quasi-judicial, regulatory or administrative
proceedings of any kind or nature
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now pending or, to the knowledge of Paradigm, threatened before any court or
administrative body in any manner against Paradigm or any of its Subsidiaries,
or any of their properties or capital stock, which is reasonably likely to have
a Material Adverse Effect on the Condition of Paradigm or the transactions
proposed by this Agreement. To Paradigm's knowledge, there is no basis on which
any litigation or proceeding could be brought which is reasonably likely to have
a Material Adverse Effect on the Condition of Paradigm or which would reasonably
be likely to question the validity of any action taken or to be taken in
connection with this Agreement and the transactions contemplated hereby. Neither
Paradigm nor any of its Subsidiaries is in default with respect to any judgment,
order, writ, injunction, decree, award, rule or regulation of any court,
arbitrator or governmental agency or instrumentality.
Section 3.10 Taxes and Tax Returns.
(a) For purposes of this Agreement, the following terms shall
have the defined meanings as set forth below:
"Affiliated Group" means any affiliated group within the meaning of the
Internal Revenue Code of 1986, as amended (the "Code")(S) 1504(a).
"Deferred Intercompany Transaction" has the meaning set forth in Treasury
Regulation ("Reg.")(S) 1.1502-13.
"Excess Loss Account" has the meaning set forth in Reg.(S) 1.1502-19.
"Liability" means any liability (whether known or unknown, whether asserted
or unasserted, whether absolute or contingent, whether accrued or unaccrued,
whether liquidated or unliquidated, and whether due or to become due), including
any liability for Taxes.
"Person" means an individual, a partnership, a corporation, an association,
a joint stock company, a trust, a joint venture, an unincorporated organization
or a governmental entity (or any department, agency, or political subdivision
thereof).
"Security Interest" means any mortgage, pledge, lien, encumbrance, charge,
or other security interest, other than (a) mechanic's, materialmen's, and
similar liens, (b) liens for Taxes not yet due and payable or for Taxes that
Paradigm or any Subsidiary is contesting in good faith through appropriate
proceedings, if any, (c) purchase money liens and liens securing rental payments
under capital lease arrangements, and (d) other liens arising in the ordinary
course of business and not incurred in connection with the borrowing of money.
"Tax" means any federal, state, local or foreign income, gross receipts,
license, payroll, employment, excise, severance, stamp, occupation, premium,
windfall profits, environmental, customs duties, capital stock, franchise,
profits, withholding, social security (or similar) unemployment, disability,
real property, personal property, sales, use, transfer, registration, value
added, alternative or add-on minimum, estimated or other tax of any kind
whatsoever, including any interest, penalty, or addition thereto, whether
disputed or not.
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"Tax Return" means any return, declaration, report, claim for refund, or
information return or statement relating to Taxes, including any schedule or
attachment thereto, and including any amendment thereof.
(b) Paradigm and its Subsidiaries have filed all Tax Returns that
each was required to file, including without limitation any Tax Returns of any
affiliated, consolidated, combined or unitary group of which either Paradigm or
any Subsidiary is or was a member. At the time of filing, all such Tax Returns
were correct and complete in all material respects. All Taxes owed by Paradigm
or any Subsidiary and any affiliated, consolidated, combined or unitary group of
which either Paradigm or any Subsidiary is or was a member (whether or not shown
on any Tax Return) have been paid with respect to periods or any portion of a
period ending on or before the Closing Date. Neither Paradigm nor any Subsidiary
is currently the beneficiary of any extension of time within which to file any
Tax Return. No claim has ever been raised in writing by an authority in a
jurisdiction where Paradigm or any Subsidiary does not file Tax Returns that
Paradigm or any Subsidiary is or may be subject to taxation by that
jurisdiction. There are no Security Interests on any of the assets of the Bank
that arose in connection with any failure (or alleged failure) of the Paradigm
or any Subsidiary to pay any Tax.
(c) Paradigm and its Subsidiaries have collected or withheld and
duly paid to the appropriate governmental authority all Taxes required to have
been collected or withheld in connection with amounts paid or owing to any
employee, independent contractor, creditor, shareholder, or other third party.
(d) No director or officer (or employee responsible for Tax
matters) of either of Paradigm or any Subsidiary expects any authority to assess
any additional Taxes for any period for which Tax Returns have been filed. There
is no action, suit, proceeding, audit, assessment, dispute or claim concerning
any Tax Liability of Paradigm or any Subsidiary either (i) claimed or raised by
any authority in writing or (ii) as to which any of the directors and officers
of Paradigm or any Subsidiary has knowledge based upon personal contact with any
agent of such authority. Schedule 3.10(d) lists all federal, state, local, and
foreign income Tax Returns filed with respect to Paradigm or any Subsidiary for
taxable periods ended on or after December 31, 1998, indicates those Tax Returns
that have been audited, and indicates those Tax Returns that currently are the
subject of audit. Paradigm has delivered to the Prosperity correct and complete
copies of all federal income Tax Returns, examination reports, and statements of
deficiencies assessed against or agreed to by the Bank with respect to all
periods beginning after December 31, 1998.
(e) Paradigm has not waived any statute of limitations in respect
of Taxes or agreed to any extension of time with respect to a Tax assessment or
deficiency.
(f) Paradigm has not filed a consent under Code (S) 341(f)
concerning collapsible corporations. Paradigm has not been a United States real
property holding corporation within the meaning of Code (S) 897(c)(2) during the
applicable period specified in Code (S) 897(c)(1)(A)(ii). Paradigm has disclosed
on its federal income Tax Returns all positions taken therein that could give
rise to a substantial understatement of federal income Tax within the meaning of
Code (S) 6662. Except as set forth in Schedule 3.10(f), neither Paradigm nor any
of its Subsidiaries is (i) a party to any Tax allocation or sharing agreement,
(ii) has been a
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member of an Affiliated Group filing a consolidated federal income Tax Return or
(iii) has any Liability for the Taxes of any Person under Reg. (S) 1.1502-6 (or
any similar provision of state, local, or foreign law), as a transferee or
successor, by contract, or otherwise.
(g) Schedule 3.10(g) sets forth the following information with
respect to Paradigm and its Subsidiaries as of the most recent practicable date
(as well as on an estimated pro forma basis as of the Closing Date giving effect
to the consummation of the transactions contemplated hereby): (i) the amount of
any net operating loss, net capital loss, unused investment or other credit,
unused foreign tax, or excess charitable contribution allocable to the Bank; and
(ii) the amount of any deferred gain or loss allocable to Paradigm and it
Subsidiaries arising out of any Deferred Intercompany Transaction.
(h) The unpaid Taxes of Paradigm and its Subsidiaries (i) did
not, as of December 31, 2001, exceed the current liability accruals for Tax
Liability (excluding any reserves for deferred Taxes established to reflect
timing differences between book and Tax income) set forth on the face of the
Paradigm Financial Statements (rather than in any notes thereto) and (ii) do not
exceed such current liability accruals for Taxes (excluding reserves any for
deferred Taxes) as adjusted for the passage of time through the Closing Date in
accordance with the past custom and practice of Paradigm in filing its Tax
Returns.
(i) Except as set forth in Schedule 3.10(i), neither Paradigm nor
any of its Subsidiaries is required to make any adjustment under Code (S) 481(a)
by reason of a change in accounting method or otherwise.
(j) Paradigm has validly terminated its election and that of its
Subsidiaries to operate as a Subchapter "S" corporation for federal income tax
purposes, and there are no current or anticipated liabilities related to such
termination.
Section 3.11 Loan Portfolio. Except as set forth in Schedule 3.11, (i) all
evidences of indebtedness in original principal amount in excess of $15,000
reflected as assets in the Paradigm Financial Statements as of and for the three
months ended March 31, 2002, were as of such dates in all material respects the
binding obligations of the respective obligors named therein in accordance with
their respective terms, (ii) the allowance for loan losses shown on the Paradigm
Financial Statements as of and for the three months ended March 31, 2002, was,
and the allowance for loan losses to be shown on the Paradigm Financial
Statements as of any date subsequent to the execution of this Agreement will be,
as of such dates, in the reasonable judgment of management of Paradigm, adequate
to provide for possible losses, net of recoveries relating to loans previously
charged off, in respect of loans outstanding (including accrued interest
receivable) of Paradigm and other extensions of credit (including letters of
credit or commitments to make loans or extend credit), and (iii) the allowance
for loan losses described in (ii) above has been established in accordance with
GAAP as applied to banking institutions and all applicable rules and
regulations; provided, however, that no representation or warranty is made as to
the sufficiency of collateral securing or the collectibility of such loans.
Section 3.12 Certain Loans and Related Matters.
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(a) Except as set forth in Schedule 3.12(a), neither Paradigm nor
any of its Subsidiaries is a party to any written or oral: (i) loan agreement,
note or borrowing arrangement, other than credit card loans and other loans the
unpaid balance of which does not exceed $15,000 per loan, under the terms of
which the obligor is sixty (60) days delinquent in payment of principal or
interest or in default of any other material provisions as of the date hereof;
(ii) loan agreement, note or borrowing arrangement which has been classified or,
in the exercise of reasonable diligence by Paradigm or any Subsidiary or any
regulatory agency with supervisory jurisdiction over Paradigm or any Subsidiary,
should have been classified as "substandard," "doubtful," "loss," "other loans
especially mentioned," "other assets especially mentioned" or any comparable
classifications by such persons; (iii) loan agreement, note or borrowing
arrangement, including any loan guaranty, with any director or executive officer
of Paradigm or any Subsidiary, or any 10% or greater shareholder of the
Paradigm, or any person, corporation or enterprise controlling, controlled by or
under common control with any of the foregoing; or (iv) loan agreement, note or
borrowing arrangement in violation of any law, regulation or rule applicable to
Paradigm or any Subsidiary including, but not limited to, those promulgated,
interpreted or enforced by any regulatory agency with supervisory jurisdiction
over Paradigm or any Subsidiary and which violation could have a Material
Adverse Effect on the Condition of Paradigm.
(b) Schedule 3.12(b) contains the "watch list of loans" of the
Bank ("Watch List") as of March 31, 2002. Except as set forth in Schedule
3.12(b), to the knowledge of Paradigm, there is no loan agreement, note or
borrowing arrangement which should be included on the Watch List in accordance
with Paradigm's past practices and prudent banking principles.
Section 3.13 Contracts and Commitments.
(a) Except as set forth in Schedule 3.13, neither Paradigm nor
any of its Subsidiaries is a party to or bound by any of the following (whether
written or oral, express or implied):
(i) employment contract, severance arrangement,
change-in-control agreement or parachute (including without limitation any
collective bargaining contract or union agreement or agreement with an
independent consultant) which is not terminable by Paradigm or its Subsidiaries
on less than sixty (60) days' notice without payment of any amount on account of
such termination;
(ii) bonus, stock option, deferred compensation or
profit-sharing, pension or retirement plan or other employee benefit
arrangement;
(iii) material lease or license with respect to any
property, real or personal, whether as landlord, tenant, licensor or licensee;
(iv) contract or commitment for capital expenditures;
(v) material contract or commitment made in the ordinary
course of business for the purchase of materials or supplies or for the
performance of services over a period of more than one hundred twenty (120) days
from the date of this Agreement;
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(vi) contract or option to purchase or sell any real or
personal property other than in the ordinary course of business;
(vii) contract, agreement or letter with respect to the
management or operations of Paradigm or any of its Subsidiaries imposed by any
bank regulatory authority having supervisory jurisdiction over Paradigm or any
of its Subsidiaries;
(viii) agreement, contract or indenture related to the
borrowing by Paradigm or its Subsidiaries of money other than those entered into
in the ordinary course of business;
(ix) guaranty of any obligation for the borrowing of money,
excluding endorsements made for collection, repurchase or resell agreements,
letters of credit and guaranties made in the ordinary course of business;
(x) agreement with or extension of credit to any executive
officer or director of Paradigm or any of its Subsidiaries or holder of more
than ten percent (10%) of the issued and outstanding Paradigm Common Stock, or
any affiliate of such person, which is not on substantially the same terms
(including, without limitation, in the case of lending transactions, interest
rates and collateral) as, and following credit underwriting practices that are
not less stringent than, those prevailing at the time for comparable
transactions with unrelated parties or which involve more than the normal risk
of collectibility or other unfavorable features; or
(xi) contracts, other than the foregoing, with annual
payments aggregating $10,000 or more not made in the ordinary course of business
and not otherwise disclosed in this Agreement, in any schedule attached hereto
or in any document delivered or referred to or described in writing by Paradigm
to Prosperity.
(b) Paradigm and its Subsidiaries have in all material respects
performed all material obligations required to be performed by them to date and
are not in default under, and no event has occurred which, with the lapse of
time or action by a third party or both, could result in default under any
material indenture, mortgage, contract, lease or other agreement to which
Paradigm or any of its Subsidiaries is a party or by which Paradigm or any of
its Subsidiaries is bound or under any provision of the Paradigm Constituent
Documents.
Section 3.14 Insurance.
(a) A true, correct and complete list of all insurance policies
owned or held by or on behalf of either Paradigm or any of its Subsidiaries
(other than credit-life policies), including the insurer, policy numbers, amount
of coverage, deductions, exclusions, type of insurance, effective and
termination dates and any pending claims thereunder involving more than $50,000
is set forth in Schedule 3.14(a).
(b) All policies of general liability, theft, life, fire, workers'
compensation, health, directors and officers, and other forms of insurance owned
or held by Paradigm or any of its Subsidiaries (i) are in full force and effect
and all premiums that are due and payable with respect thereto are currently
paid; (ii) to Paradigm's knowledge, are sufficient for compliance with all
requirements of applicable laws and of all agreements to which Paradigm or any
of its
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Subsidiaries is a party; (iii) are adequate for the business conducted by
Paradigm and its Subsidiaries in respect of amounts, types and risks insured;
(iv) are, to Paradigm's knowledge, valid, outstanding and enforceable policies
(except as may be limited by bankruptcy, insolvency, moratorium, reorganization
or similar laws affecting the rights of creditors generally and the availability
of equitable remedies); and (v) to Paradigm's knowledge, will remain in full
force and effect through the Effective Time, subject to normal renewal policies
and procedures, including, without limitation, the payment of premiums. No
insurer under any such policy or bond has canceled or indicated an intention to
cancel or not to renew any such policy or bond effective at any time prior to
the Effective Time or generally disclaimed liability thereunder. Neither
Paradigm nor any of its Subsidiaries is in default under any such policy or
bond, and all material claims thereunder have been filed in a timely fashion.
Neither Paradigm nor any of its Subsidiaries has been denied or had revoked or
rescinded any policy of insurance during the last three fiscal years.
Section 3.15 No Conflict With Other Instruments. The execution,
delivery and performance of this Agreement by the Paradigm, and the consummation
or performance by the Paradigm and its Subsidiaries of the transactions
contemplated hereby, will not (i) violate any provision of the Paradigm
Constituent Documents, or (ii) assuming the consents and approvals contemplated
by Section 3.3(a) hereof and as set forth in Schedule 3.15 are duly obtained,
(A) violate any statute, code, ordinance, rule, regulation, judgment, order,
writ, decree or injunction applicable to Paradigm or any of its Subsidiaries or
any of their respective properties or assets, or (B) violate, conflict with,
result in a breach of any provision of or constitute a default (or an event
which, with or without notice or lapse of time, would constitute a default)
under, result in the termination of or a right of termination or cancellation
under, accelerate the performance required by, cause Prosperity or Paradigm to
become subject to or liable for the payment of any tax, or result in the
creation of any Encumbrance upon any of the properties or assets of Paradigm
under, any of the terms, conditions or provisions of any note, bond, mortgage,
indenture, deed of trust, license, lease agreement, instrument or obligation to
which Paradigm is a party, or by which any of its properties or assets may be
bound or affected, except for such violations, conflicts, breaches or defaults
which either individually or in the aggregate will not have a Material Adverse
Effect on the Condition of Paradigm.
Section 3.16 Laws and Regulatory Filings. Except as set forth in
Schedule 3.16, Paradigm and its Subsidiaries are in material compliance with all
applicable federal, state and local laws, rules, regulations and orders
applicable to them. Except for approvals by regulatory authorities having
supervisory jurisdiction over Paradigm and its Subsidiaries, no prior consent,
approval or authorization of, or declaration, filing or registrations with, any
person or regulatory authority is required of Paradigm and its Subsidiaries in
connection with the execution, delivery and performance by Paradigm of this
Agreement and the transactions contemplated hereby. Paradigm and its
Subsidiaries have filed all reports, registrations and statements, together with
any amendments required to be made thereto, that are required to be filed with
the Federal Reserve Board, the FDIC, the Banking Department or any other
regulatory authority having supervisory jurisdiction over Paradigm and its
Subsidiaries, and such reports, registrations and statements, as finally amended
or corrected, are, to the knowledge of Paradigm and its Subsidiaries, true and
correct in all material respects.
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Section 3.17 Absence of Certain Changes. Except as set forth in Schedule
3.17, since March 31, 2002, Paradigm has not:
(a) declared, paid or set aside of any dividend or distribution
(whether in cash, stock or property) in respect of the Paradigm Common Stock or
issued or sold any of its capital stock or any warrants, rights or options to
acquire, or any securities convertible into shares of its capital stock or
corporate debt obligations;
(b) discharged or satisfied any encumbrance or paid any obligation
or liability (fixed or contingent), other than accruals, accounts and notes
payable included in the Paradigm Financial Statements, accruals, accounts and
notes payable incurred since March 31, 2002 in the ordinary course of business
and accruals, accounts and notes payable incurred in connection with the
transactions contemplated by this Agreement;
(c) sold, exchanged or otherwise disposed of any of its capital
assets other than in the ordinary course of business;
(d) made any general or individual wage or salary increase
(including increases in directors' or consultants' fees) other than in
accordance with past practices, paid any bonus, granted or paid any perquisites
such as automobile allowance, club membership or dues or other similar benefits,
entered into any employment contract or made any accrual or arrangement for or
payment of bonuses or special compensation of any kind or severance or
termination pay to any present or former officer or salaried employee or
instituted any employee welfare, retirement or similar plan or arrangement other
than in accordance with past practices;
(e) suffered any physical damage, destruction or casualty loss,
whether or not covered by insurance, which may have a Material Adverse Effect on
the Condition of Paradigm;
(f) made any or acquiesced with any change in accounting methods,
principles and practices except as may be required by GAAP;
(g) excluding loan commitments made and certificates of deposit
issued, entered into any contract, agreement or commitment which obligates
Paradigm or any of its Subsidiaries for an amount in excess of $10,000 over the
term of any such contract, agreement or commitment;
(h) except in the ordinary course of business, entered or agreed
to enter into any agreement or arrangement granting any preferential rights to
purchase any of their assets, properties or rights or requiring the consent of
any party to the transfer and assignment of any such assets, properties or
rights; or
(i) incurred any change or any event involving a prospective
change in the Condition of Paradigm which has had, or is reasonably likely to
have, a Material Adverse Effect on the Condition of Paradigm generally,
including, without limitation any change in the administrative or supervisory
standing or rating of Paradigm or any Subsidiary with any regulatory agency
having jurisdiction over Paradigm or any Subsidiary, and no fact or condition
exists as of the date hereof which might reasonably be expected to cause any
such event or change in the future.
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Section 3.18 Employment Relations. The relations of Paradigm and its
Subsidiaries with their employees are generally satisfactory, and neither
Paradigm nor any of its Subsidiaries has received any notice of any
controversies with, or organizational efforts or other pending actions by,
representatives of their employees. Each of Paradigm and its Subsidiaries has
materially complied with all laws relating to the employment of labor with
respect to their employees, including any provisions thereof relating to wages,
hours, collective bargaining and the payment of worker's compensation insurance
and social security and similar taxes, and, except as set forth in Schedule
3.18, no person has asserted that Paradigm or its Subsidiaries is liable for any
arrearages of wages, worker's compensation insurance premiums or any taxes or
penalties for failure to comply with any of the foregoing.
Section 3.19 Employee Benefit Plans.
(a) Schedule 3.19(a) lists all employee benefit plans or
agreements providing benefits to any employees or former employees of Paradigm
or any of its Subsidiaries that are sponsored or maintained by Paradigm or any
of its Subsidiaries to which Paradigm or any of its Subsidiaries contributes or
is obligated to contribute on behalf of employees or former employees of
Paradigm or any of its Subsidiaries, including without limitation any employee
welfare benefit plan within the meaning of Section 3(1) of the Employment
Retirement Income Security Act of 1974, as amended ("ERISA"), any employee
pension benefit plan within the meaning of Section 3(2) of ERISA or any
collective bargaining, bonus, incentive, deferred compensation, stock purchase,
stock option, severance, change of control or fringe benefit plan.
(b) No employee benefit plans of Paradigm or its ERISA Affiliates
(as defined below) (the "Paradigm Plans") are "multiemployer plans" within the
meaning of Section 4001(a)(3) of ERISA ("Multiemployer Plans"). None of Paradigm
or any of its respective ERISA Affiliates has, at any time during the last six
years, contributed to or been obligated to contribute to any Multiemployer Plan,
and none of Paradigm, or any of its respective ERISA Affiliates has incurred any
withdrawal liability under Part I of Subtitle E of Title IV of ERISA that has
not been satisfied in full.
(c) There does not now exist, nor, to the knowledge of Paradigm or
any Subsidiary, do any circumstances exist that could result in, any Controlled
Group Liability that would be a material liability of Paradigm now or following
the Closing. "Controlled Group Liability" means (i) any and all liabilities (A)
under Title IV of ERISA, (B) under Section 302 of ERISA, (C) under Sections 412
and 4971 of the Code, or (D) as a result of a failure to comply with the
continuation coverage requirements of Section 601 et seq. of ERISA and Section
4980B of the Code, and (E) under corresponding or similar provisions of foreign
laws or regulations; (ii) with respect to any Paradigm Plan any other material
liability under Title I of ERISA or Chapter 43 or 68 of the Code, and (iii)
except as set forth in Schedule 3.19(c), material unfunded liabilities under any
non-qualified deferred compensation plan for the benefit of any employee or
former employee of Paradigm or any Subsidiary.
(d) There is no contract, agreement, plan or arrangement covering
any employee or former employee of Paradigm or any of its Affiliates that,
individually or in the aggregate, could give rise to the payment by Paradigm or
any of its Subsidiaries of any amount that would not be deductible pursuant to
the terms of Section 162(m) or Section 280G of the
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Code. Except as required by the continuation coverage requirements of Section
601 et seq. of ERISA and Section 4980B of the Code, neither Paradigm nor any of
its Subsidiaries has any liability to provide post-retirement health or life
benefits to any employee or former employee of Paradigm or any Subsidiary.
(e) "ERISA Affiliates" means, with respect to any entity, trade or
business, any other entity, trade or business that is a member of a group
described in Section 414(b), (c), (m) or (o) of the Code or Section 4001(b)(1)
of ERISA that includes the first entity, trade or business, or that is a member
of the same "controlled group" as the first entity, trade or business pursuant
to Section 4001(a)(14) of ERISA.
Section 3.20 Brokers and Finders. Except as set forth in Schedule 3.20,
neither Paradigm nor its Subsidiaries nor any of their officers, directors or
employees have employed any broker or finder or incurred any liability for any
brokerage fees, commissions or finders' fees in connection with the Mergers
contemplated herein.
Section 3.21 Community Reinvestment Act. The Bank is in material compliance
with the Community Reinvestment Act (12 U.S.C. (S) 2901 et seq.) and all
regulations promulgated thereunder ("CRA"). The Bank has a rating of
"satisfactory" as of its most recent CRA compliance examination and, knows of no
reason why it would not receive a rating of "satisfactory" or better pursuant to
its next CRA compliance examination or why the FDIC, Banking Department or any
other governmental entity may seek to restrain, delay or prohibit the
transactions contemplated hereby as a result of any act or omission of the Bank
under the CRA.
Section 3.22 Accounting Controls. Paradigm has devised and maintained a
system of internal accounting controls sufficient to provide reasonable
assurances that: (i) all material transactions are executed in accordance with
general or specific authorization of the Board of Directors and the duly
authorized executive officers of Paradigm; (ii) all material transactions are
recorded as necessary to permit the preparation of financial statements in
conformity with GAAP consistently applied with respect to institutions such as
Paradigm or other criteria applicable to such financial statements, and to
maintain proper accountability for items therein; (iii) access to the material
properties and assets of Paradigm is permitted only in accordance with general
or specific authorization of the Board of Directors and the duly authorized
executive officers of Paradigm; and (iv) the recorded accountability for items
is compared with the actual levels at reasonable intervals and appropriate
actions taken with respect to any differences.
Section 3.23 Derivative Contracts. Paradigm is not a party to nor has it
agreed to enter into an exchange traded or over-the-counter swap, forward,
future, option, cap, floor or collar financial contract or agreement, or any
other contract or agreement not included in the Paradigm Financial Statements
which is a financial derivative contract (including various combinations
thereof).
Section 3.24 Deposits. Except as set forth in Schedule 3.24, to the
knowledge of Paradigm, none of the deposits of Paradigm is a "brokered" deposit
(as such term is defined in 12 CFR 337.6(a)(2)) or is subject to any
encumbrance, legal restraint or other legal process (other than garnishments,
pledges, set off rights, escrow limitations and similar actions taken in the
ordinary course of business).
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Section 3.25 Securities and Exchange Commission Reporting Obligations.
Paradigm has filed all material reports and statements, together with any
amendments required to be made with respect thereto, that it was required to
file with the SEC pursuant to the Securities Exchange Act of 1934, as amended
(the "Exchange Act"). As of their respective dates, each of such reports and
statements, (or if amended, as of the date so amended), were true and correct
and complied in all material respects with the relevant statutes, rules and
regulations enforced or promulgated by the SEC and such reports did not contain
any untrue statement of a material fact or omit to state a material fact
necessary in order to make the statements therein, in light of the circumstances
under which they were made, not misleading.
Section 3.26 Certain Interests. Except as set forth in Schedule 3.26, to
Paradigm's knowledge: (a) no officer, director, employee or agent of Paradigm or
any Subsidiary, any of their respective family members, any corporation or
organization (other than Paradigm or any Subsidiary) of which any of the
foregoing persons is an officer, director or beneficial owner of 10% or more of
any class of its equity securities, or any trust or other estate in which any of
the foregoing persons has a substantial beneficial interest or as to which such
person serves as a trustee or in a similar capacity, nor any Affiliate (unless
otherwise stated, when used in this Agreement, "Affiliate" has the meaning given
it in Rule 405 promulgated under the Securities Act of 1933, as amended
("Securities Act") of Paradigm or any Subsidiary, nor any current or former
beneficial owner of 5% or more of any of the outstanding stock of Paradigm has
any material interest in any property, real or personal, tangible or intangible,
used in or pertaining to the business of Paradigm or any Subsidiary or in any
transaction or series of similar transactions to which Paradigm or any
Subsidiary is a party; (b) no such person included in clause (a) hereto is
indebted to Paradigm or any Subsidiary except for (i) normal business expense
advances and (ii) loans that have been entered into in the ordinary course of
business on terms no less favorable to such person, or the lender, as the case
shall be, than if the loan had been entered into on an arm's length basis
pursuant to normal commercial terms and conditions and in compliance with
applicable law; (c) neither Paradigm nor any Subsidiary is indebted to any such
person except for amounts due under normal salary or reimbursement or ordinary
business expenses; and (d) no such person is a party to an agreement (other than
a plan or agreement already disclosed in a Schedule to this Agreement) with
Paradigm or any Subsidiary. Except as set forth in Schedule 3.26, to Paradigm's
knowledge, none of the persons or entities described in clause (a) hereto has
any other relationship or has engaged or proposes to engage in any other
transaction or series of transactions that would be required to be disclosed
pursuant to Item 404 of Regulation S-K promulgated under the Securities Act.
Section 3.27 Outstanding Trust Preferred Securities of Subsidiary Trust.
Paradigm has issued and has presently outstanding an aggregate of $6,186,000 in
aggregate principal amount of Floating Rate Junior Subordinated Debentures
issued by Paradigm to Paradigm Capital Trust II pursuant to the Indenture dated
as of February 20, 2001 between Paradigm and First Union Trust Company, National
Association ("First Union") ("Indenture"). Paradigm Capital Trust II has issued
and outstanding $6,000,000 in aggregate principal amount of trust preferred
securities pursuant to the terms of the Amended and Restated Trust Agreement
dated February 20, 2001 among Paradigm, First Union, as Property Trustee and as
Delaware Trustee, and the Administrative Trustees named therein (such issuance
of securities and all documents and instruments related thereto being herein
referred to as the "Trust Preferred Issue"). In connection with the Trust
Preferred Issue, Paradigm hereby represents, warrants and agrees as follows:
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(a) All representations and warranties as made by Paradigm in the
documents related to the Trust Preferred Issue were true in all material
respects when made, and continue to be true and correct in all material
respects. The Trust Preferred Issue was created, offered and sold in compliance
with the applicable legal requirements in all material respects.
(b) Paradigm shall upon execution hereof notify First Union, or any
successor trustee named for purposes of the Trust Preferred Issue, of the
execution of this Agreement and shall use every reasonable effort to obtain from
such trustee confirmation that (i) no Default or Event of Default (as those
terms are defined in the Indenture and the Trust Preferred Securities Guarantee
Agreement dated February 20, 2001) exists or is continuing; (ii) no Default or
Event of Default will occur as a result of the execution, delivery and
performance by Paradigm of its obligations under the terms of this Agreement;
and (iii) Paradigm has not elected to exercise its right to commence an Extended
Interest Payment Period as that term is defined in the Indenture and the Trust
Preferred Securities Guarantee Agreement.
(c) Paradigm has filed prior to the date hereof, and will continue to
file between the date hereof and the Closing, all required reports, information
and documents which Paradigm is required to file with the trustees or any other
person under the terms of the documents related to the Trust Preferred Issue.
Section 3.28 Intellectual Property Rights. Schedule 3.28 will contain a
correct and complete list of all registered trademarks, registered service
marks, trademark and service mark applications, trade names and registered
copyrights presently owned or held by Paradigm or any Subsidiary or used under
license by them in the conduct of their business (the "Intellectual Property").
Paradigm or its Subsidiaries own or have the right to use and continue to use
the Intellectual Property in the operation of their business. Except as set
forth in Schedule 3.28, neither Paradigm nor any Subsidiary is infringing or
violating any patent, copyright, trademark, service mark, label filing or trade
name owned or otherwise held by any other party, nor has Paradigm or any
Subsidiary used any confidential information or any trade secrets owned or
otherwise held by any other party, without holding a valid license for such use.
To Paradigm's knowledge, neither Paradigm or any Subsidiary is engaging,
nor has any been charged with engaging, in any kind of unfair or unlawful
competition. Neither the execution, delivery and performance of this Agreement
nor the consummation of the transactions contemplated hereby will in any way
impair the right of Paradigm or any Subsidiary or the Continuing Company to use,
sell, license or dispose of, or to bring any action for the infringement of, the
Intellectual Property.
IV. REPRESENTATIONS AND WARRANTIES OF PROSPERITY
Prosperity represents and warrants to Paradigm that the statements
contained in this Article III are true and correct in all material respects.
Prosperity agrees that, at the Closing, it shall provide Paradigm with
supplemental schedules reflecting any material changes in the information
contained in the Schedules which have occurred in the period from the date of
delivery of such Schedules to the date of Closing.
Section 4.1 Organization.
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(a) Prosperity is a corporation duly organized, validly existing and
in good standing under the laws of the State of Texas and a financial holding
company duly registered under the BHC Act and the GLB Act, subject to all laws,
rules and regulations applicable to financial holding companies. Prosperity owns
100% of the issued and outstanding shares of common stock, $1.00 par value, of
Delaware Company ("Delaware Stock"). Delaware Company, a Delaware corporation
and a bank holding company registered under the BHC Act, is duly organized,
validly existing and in good standing under the laws of the State of Delaware.
Delaware Company owns 100% of the issued and outstanding shares of common stock,
$4.00 par value, of PRSP Bank ("PRSP Bank Stock"). PRSP Bank is a Texas banking
association duly organized, validly existing and in good standing under the laws
of the State of Texas. Prosperity, Delaware Company and PRSP Bank have full
power and authority (including all licenses, franchises, permits and other
governmental authorizations which are legally required) to own, lease and
operate their properties, to engage in the business and activities now conducted
by them and to enter into this Agreement, except where the failure to be so
licensed or qualified would not have a Material Adverse Effect on the Condition
of Prosperity.
(b) PRSP Bank (i) is duly authorized to conduct a general banking
business, embracing all usual deposit functions of commercial banks as well as
commercial, industrial and real estate loans, installment credits, collections
and safe deposit facilities subject to the supervision of the FDIC and the
Banking Department, and (ii) is an insured bank as defined in the Federal
Deposit Insurance Act. PRSP Bank conducts trust activities.
(c) True and complete copies of the Articles of Incorporation and
Bylaws of Prosperity, the Certificate of Incorporation and Bylaws of Delaware
Company and the Articles of Association and Bylaws of PRSP Bank, each as amended
to date (collectively, the "Prosperity Constituent Documents"), have been
delivered or made available to Paradigm.
(d) Except as otherwise disclosed in Schedule 4.1(c), neither
Prosperity, Delaware Company nor PRSP Bank (i) has any Subsidiaries or
Affiliates, (ii) is a general partner or material owner in any joint venture,
general partnership, limited partnership, trust or other non-corporate entity,
and (iii) knows of any arrangement pursuant to which the stock of any
corporation is or has been held in trust (whether express, constructive,
resulting or otherwise) for the benefit of all shareholders of Prosperity.
Section 4.2 Capitalization.
(a) The authorized capital stock of Prosperity consists of 50,000,000
shares of Prosperity Common Stock, 8,123,611 of which are issued and 8,120,035
of which are outstanding as of the date of this Agreement and 812,090 of which
are reserved for issuance upon the exercise of stock options, and 20,000,000
shares of preferred stock, $1.00 par value, none of which is issued and
outstanding. The authorized capital stock of Delaware Company consists of 10,000
shares of Delaware Stock, 1,000 of which are issued and outstanding. The
authorized capital stock of PRSP Bank consists of 130,000 shares of PRSP Bank
Stock, 130,000 of which are issued and outstanding. All of the issued and
outstanding shares of Prosperity Common Stock, Delaware Stock and PRSP Bank
Stock are validly issued, fully paid and nonassessable, and have not been issued
in violation of the preemptive rights of any person or in violation of any
applicable federal or state laws. The shares of Prosperity Common Stock to be
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issued to Paradigm shareholders pursuant to the provisions of this Agreement
have been duly authorized, will be validly issued, fully paid and nonassessable
and will not be issued in violation of the preemptive rights of any person.
There are no voting trusts, voting agreements or other similar arrangements
affecting the Delaware Company Stock or the PRSP Bank Stock, or to Prosperity's
knowledge, the Prosperity Common Stock.
(b) At the Effective Time, the shares of Prosperity Common Stock
issued pursuant to the Merger will be dully authorized, validly issued, fully
paid and nonassessable, and not issued in violation of any preemptive rights.
Section 4.3 Approvals; Authority.
(a) Prosperity has full corporate power and authority to execute and
deliver this Agreement (and any related documents), and Prosperity and each of
its Subsidiaries has full legal capacity, power and authority to perform their
respective obligations hereunder and thereunder and to consummate the
contemplated transactions. Except for the approval of the respective
shareholders of Delaware Company and PRSP Bank, all actions or proceedings on
the part of Prosperity and each of its Subsidiaries necessary to approve this
Agreement (and any related documents) and to consummate the contemplated
transactions have been taken.
(b) The Board of Directors of Prosperity has duly and validly
approved this Agreement and the transactions contemplated herein and no further
corporate proceedings of Prosperity are needed to execute and deliver this
Agreement and consummate the Merger. This Agreement has been duly executed and
delivered by Prosperity and is a duly authorized, valid, legally binding
agreement of Prosperity enforceable against Prosperity in accordance with its
terms, subject to the effect of bankruptcy, insolvency, reorganization,
moratorium or other similar laws relating to creditors' rights generally and
general equitable principles.
Section 4.4 No Conflict With Other Instruments. The execution, delivery
and performance of this Agreement or the consummation of the transactions
contemplated hereby will not (i) violate any provision of the Articles of
Incorporation or Bylaws of Prosperity or (ii) assuming all required shareholder
and regulatory consents and approvals are duly obtained, (A) violate any
statute, code, ordinance, rule, regulation, judgment, order, writ, decree or
injunction applicable to Prosperity or any of its properties or assets, or (B)
violate, conflict with, result in a breach of any provision of or constitute a
default (or an event which, with or without notice or lapse of time, would
constitute a default) under, result in the termination of or a right of
termination or cancellation under, accelerate the performance required by, cause
Prosperity to become subject to or liable for the payment of any tax, or result
in the creation of any encumbrance upon any of the properties or assets of
Prosperity under, any of the terms, conditions or provisions of any note, bond,
mortgage, indenture, deed of trust, license, lease agreement, instrument or
obligation to which Prosperity is a party, or by which any of its properties or
assets may be bound or affected, except for such violations, conflicts, breaches
or defaults which either individually or in the aggregate will not have a
Material Adverse Effect on the Condition of Prosperity.
Section 4.5 Litigation and Other Proceedings. There are no legal,
quasi-judicial or administrative proceedings of any kind or nature now pending
or, to the knowledge of
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Prosperity, threatened before any court or administrative body in any
manner against Prosperity or any of its Subsidiaries, or any of their respective
properties or capital stock, which is reasonably likely to have a Material
Adverse Effect on the Condition of Prosperity or the transactions proposed by
this Agreement. To Prosperity's knowledge, there is no basis on which any
litigation or proceeding could be brought which could have a Material Adverse
Effect on the Condition of Prosperity or which would be reasonably likely to
question the validity of any action taken or to be taken in connection with this
Agreement and the transactions contemplated hereby. Prosperity is not in default
with respect to any judgment, order, writ, injunction, decree, award, rule or
regulation of any court, arbitrator or governmental agency or instrumentality.
Section 4.6 Brokers and Finders. Except as set forth in Schedule 4.6,
neither Purchaser nor any of its officers, directors or employees have employed
any broker or finder or incurred any liability for any brokerage fees,
commissions or finders' fees in connection with this Agreement.
Section 4.7 Financial Statements.
(a) Prosperity has furnished or made available to Paradigm true and
complete copies of its (i) Annual Report on Form 10-K for the year ended
December 31, 2001 ("Annual Report"), as filed with the SEC, which contains
Prosperity's audited balance sheet as of December 31, 2001 and 2000, and the
related statements of income and statements of changes in shareholders' equity
and cash flow for the years ended December 31, 2001, 2000 and 1999 and (ii) its
unaudited balance sheets and related statements of income and statements of
changes in shareholders' equity and cash flows as of and for the three months
ended March 31, 2002 and 2001. The financial statements referred to above
included in the Annual Report and the unaudited financial statements are
collectively referred to herein as the "Prosperity Financial Statements."
(b) The Prosperity Financial Statements fairly present the financial
position and results of operation of Prosperity at the dates and for the periods
indicated in conformity with GAAP applied on a consistent basis.
(c) Since December 31, 2001, Prosperity has not had any obligations
or liabilities, fixed or contingent, which are material and are not fully shown
or provided for in the Prosperity Financial Statements or otherwise disclosed in
this Agreement, or in any of the documents delivered to Paradigm. Since December
31, 2001, there have been no material changes in the financial condition,
assets, liabilities or business of Prosperity, other than changes in the
ordinary course of business, which individually or in the aggregate have not had
a Material Adverse Effect on the Condition of Prosperity.
Section 4.8 Securities and Exchange Commission Reporting Obligations.
Since January 1, 1999, Prosperity has filed all material reports and statements,
together with any amendments required to be made with respect thereto, that it
was required to file with the SEC pursuant to the Securities Exchange Act of
1934, as amended (the "Exchange Act"). As of their respective dates, each of
such reports and statements, (or if amended, as of the date so amended), were
true and correct and complied in all material respects with the relevant
statutes, rules and regulations enforced or promulgated by the SEC and such
reports did not contain any untrue
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statement of a material fact or omit to state a material fact necessary in order
to make the statements therein, in light of the circumstances under which they
were made, not misleading.
Section 4.9 Prosperity Employee Benefit Plans. The employee pension
benefits plans and welfare benefit plans (referred to collectively herein as the
"Prosperity Plans") in effect at Prosperity and its Subsidiaries have all been
operated in all material respects in compliance with ERISA, since ERISA became
applicable with respect thereto. None of the Prosperity Plans nor any of their
respective related trusts have been terminated (except the termination of any
Prosperity Plan which is in compliance with the requirements of ERISA and which
will not result in any additional liability to Prosperity), and there has been
no "reportable event," as that term is defined in Section 4043 of ERISA,
required to be reported since the effective date of ERISA which has not been
reported, and none of such Prosperity Plans nor their respective related trusts
have incurred any "accumulated funding deficiency," as such term is defined in
Section 302 of ERISA (whether or not waived), since the effective date of ERISA.
The Prosperity Plans are the only employee pension benefit plans covering
employees of Prosperity and its Subsidiaries. Prosperity and its Subsidiaries
will not have any material liabilities with respect to employee pension
benefits, whether vested or unvested as of the Closing Date, for any of their
employees other than under the Prosperity Plans, and as of the date hereof the
actuarial present value of Prosperity Plan assets of each Prosperity Plan is not
less (and as of the Effective Time of the Merger such present value will not be
less) than the present value of all benefits payable or to be payable
thereunder.
Section 4.10 Regulatory Approvals. Prosperity has no reason to believe that
it will not be able to obtain all requisite regulatory approvals necessary to
consummate the transactions set forth in this Agreement.
Section 4.11 Taxes. Prosperity and its Subsidiaries have filed with the
appropriate federal, state and local governmental authorities all material Tax
Returns and reports required to be filed, and have paid all Taxes and
assessments shown to be due and payable thereon. At the time of filing, all such
Tax Returns were correct in all material respects. Neither Prosperity nor any of
its Subsidiaries has executed or filed with the Internal Revenue Service any
agreement extending the period for assessment and collection of any federal
income Tax. None of Prosperity, or any Subsidiary is a party to any pending
action or proceeding by any governmental authority for assessment or collection
of Taxes, nor has any written claim for assessment or collection of Taxes been
asserted against Prosperity or any Subsidiary. All Taxes which Prosperity or any
Subsidiary is or was required by law to withhold or to collect have been duly
withheld and collected and have been paid over to the proper authorities to the
extent due and payable, or segregated and set aside for such payment and, if so
segregated and set aside will be so paid by Prosperity or any Subsidiary, as
required by applicable law.
Section 4.12 Insurance. Prosperity currently maintains insurance in amounts
reasonably necessary for its operations. In the judgment of the Board of
Directors of Prosperity, such insurance policies in respect of amounts, types
and risks insured are adequate to insure against risks to which Prosperity and
its assets are normally exposed in the operation of its business, subject to
customary deductibles and policy limits. Prosperity has no reason to believe
that existing insurance coverage cannot be renewed as and when the same shall
expire upon terms and conditions as favorable as those presently in effect,
other than possible increases in
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premiums or unavailability of coverage that do not result from any extraordinary
loss experience on the part of Prosperity.
Section 4.13 Laws and Regulatory Filings. Prosperity and its Subsidiaries
are in material compliance with all applicable federal, state and local laws,
rules, regulations and orders applicable to them. Except for approvals by
regulatory authorities having supervisory jurisdiction over Prosperity and its
Subsidiaries, no prior consent, approval or authorization of, or declaration,
filing or registrations with, any person or regulatory authority is required of
Prosperity and its Subsidiaries in connection with the execution, delivery and
performance by Prosperity of this Agreement and the transactions contemplated
hereby. Prosperity and its Subsidiaries have filed all reports, registrations
and statements, together with any amendments required to be made thereto, that
are required to be filed with the Federal Reserve Board, the FDIC, the Banking
Department or any other regulatory authority having supervisory jurisdiction
over Prosperity and its Subsidiaries, and such reports, registrations and
statements, as finally amended or corrected, are, to the knowledge of Prosperity
and its Subsidiaries, true and correct in all material respects.
Section 4.14 Employment Relations. The relations of Prosperity and its
Subsidiaries with their employees are generally satisfactory, and neither
Prosperity nor any of its Subsidiaries has received any notice of any
controversies with, or organizational efforts or other pending actions by,
representatives of their employees. Each of Prosperity and its Subsidiaries has
materially complied with all laws relating to the employment of labor with
respect to their employees, including any provisions thereof relating to wages,
hours, collective bargaining and the payment of worker's compensation insurance
and social security and similar taxes, and no person has asserted that
Prosperity or its Subsidiaries is liable for any arrearages of wages, worker's
compensation insurance premiums or any taxes or penalties for failure to comply
with any of the foregoing.
Section 4.15 Community Reinvestment Act. PRSP Bank is in material
compliance with the CRA and all regulations promulgated thereunder. PRSP Bank
has a rating of "satisfactory" as of its most recent CRA compliance examination
and, knows of no reason why it would not receive a rating of "satisfactory" or
better pursuant to its next CRA compliance examination or why the FDIC, Banking
Department or any other governmental entity may seek to restrain, delay or
prohibit the transactions contemplated hereby as a result of any act or omission
of the PRSP Bank under the CRA.
V. COVENANTS OF PARADIGM
Paradigm covenants and agrees with Prosperity as follows:
Section 5.1 Approval of Paradigm Shareholders.
(a) Paradigm shall duly call a meeting of its shareholders ("Paradigm
Shareholders' Meeting") at such time as may be mutually agreed to be the parties
for the purpose of considering and approving the Agreement and all other matters
necessary to consummate the transactions contemplated by the Agreement. The
Board of Directors of Paradigm will recommend to its shareholders the approval
of this Agreement and the transactions contemplated
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hereby and Paradigm will use its best efforts to obtain the necessary approvals
by its shareholders of this Agreement and the transactions contemplated hereby.
(b) If the transaction is approved by the Paradigm shareholders,
Paradigm shall take all reasonable action to aid and assist in the consummation
of the Merger, and will use its best efforts to take or cause to be taken all
other actions necessary, proper or advisable to consummate the transactions
contemplated by this Agreement, including such actions as Prosperity reasonably
considers necessary, proper or advisable in connection with filing applications
and registration statements with, or obtaining approvals from, all regulatory
authorities having jurisdiction over the transactions contemplated by this
Agreement.
Section 5.2 Activities of Paradigm Pending Closing.
(a) From the date hereof to and including the Closing Date, as long
as this Agreement remains in effect, Paradigm shall and shall cause each of its
Subsidiaries to:
(i) conduct its affairs (including, without limitation, the
making of or agreeing to make any loans or other extensions of credit) only in
the ordinary course of business consistent with past practices and prudent
banking principles;
(ii) use its best efforts to preserve intact its present
business organizations, keep available the services of its present officers,
directors, key employees and agents and preserve its relationships and goodwill
with customers and advantageous business relationships;
(iii) fully perform, according to the terms thereof, their
respective liabilities, debts and obligations, including any liabilities and
obligations for borrowed money indebtedness and any outstanding liabilities and
obligations described in or incurred pursuant to the Junior Subordinated
Debentures in the aggregate amount of $6,186,000 created pursuant to the
Indenture by and between Paradigm and First Union Trust Company, and other
obligations incurred, created and sold pursuant to the Amended and Restated
Trust Agreement of Paradigm Capital Trust II and the related Underwriting
Agreement, Trust Preferred Securities Guarantee Agreement and Subscription
Agreement;
(iv) promptly give written notice to Prosperity of (a) any
material change in its business, operations or prospects, (b) any complaints,
investigations or hearings (or communications indicating that the same may be
contemplated) of any regulatory authority having jurisdiction over Paradigm or
any of its Subsidiaries, (c) the institution or threat of any material
litigation against Paradigm, or (d) any event or condition that would cause any
of the representations or warranties of Paradigm contained in this Agreement to
be untrue in any material respect or which would otherwise cause a Material
Adverse Effect on the Condition of Paradigm; and
(v) except as required by law or regulation, take no action
which would adversely affect or delay the ability of Prosperity or its
Subsidiaries to obtain any approvals from any regulatory agencies or other
approvals required for consummation of the transactions contemplated hereby or
to perform its and agreements under this Agreement.
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(b) From the date hereof to and including the Closing Date, except as
required by law or regulation or as permitted or required under the Agreement,
as long as this Agreement remains in effect or unless Prosperity otherwise
consents in writing (which consent shall not be unreasonably withheld or
delayed), Paradigm shall not, and shall not permit any of its Subsidiaries, to:
(i) make or agree to make or renew any loans or other
extensions of credit to any borrower in excess of $350,000 (except (A) pursuant
to commitments made prior to the date of this Agreement, (B) loans fully secured
by a certificate of deposit at the Bank and (C) renewals, extensions and
consolidations of any loans other than those loans listed in Schedules 2.2(d)
and 3.12); provided, however, that Paradigm shall consult and advise Prosperity
in writing prior to making or renewing any loans or extensions of credit to any
borrower in excess of $350,000. Prosperity shall notify Paradigm in writing
within three (3) business days of receipt of such notice whether Prosperity
consents to such loan or extension of credit, provided that if Prosperity fails
to notify Paradigm with such time frame, Prosperity shall be deemed to have
consented to such loan or extension of credit;
(ii) issue or sell or obligate itself to issue or sell any
shares of its capital stock or any warrants, rights, options or warrants to
acquire, or any securities convertible into, any shares of its capital stock,
except upon the exercise and conversion of Paradigm Stock Options as provided in
Section 2.3 hereof;
(iii) grant any stock appreciation rights or other form of
incentive compensation;
(iv) open or close any branch office, or acquire or sell or
agree to acquire or sell, any branch office or any deposit liabilities, and
shall otherwise consult with and seek the advice of Prosperity with respect to
basic policies relating to branching, site location and relocation;
(v) enter into, amend or terminate any agreement of the type
that would be required to be disclosed in Schedule 3.13, or any other material
agreement, or acquire or dispose of any material amount of assets or
liabilities, except in the ordinary course of business consistent with prudent
banking practices;
(vi) grant any severance or termination pay (other than
pursuant to Paradigm's policies in effect on the date hereof, if any) to, or
enter into any employment, consulting, noncompetition, retirement, parachute,
severance or indemnification agreement with, any officer, director, employee or
agent of Paradigm or any of its Subsidiaries, either individually or as part of
a class of similarly situated persons;
(vii) except for the payment of dividends from any of its
Subsidiaries to Paradigm, cause or allow any of the things listed in Section
3.17 to occur (except with respect to Section 3.17(e), the Bank shall use its
best efforts to not cause or allow any of the things listed therein to occur);
(viii) sell, transfer, convey or otherwise dispose of any real
property (including "other real estate owned") or interest therein;
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(ix) foreclose upon or otherwise acquire any commercial real
property prior to receipt and approval by Prosperity of a Phase I environmental
review thereof;
(x) increase or decrease the rate of interest paid on deposit
accounts, except in a manner and pursuant to policies consistent with Paradigm's
past practices;
(xi) establish any new Subsidiary;
(xii) voluntarily make any material change in the interest rate
risk profile of the Bank from that as of March 31, 2002;
(xiii) materially deviate from policies and procedures existing
as of the date of this Agreement with respect to (A) classification of assets,
(B) the allowance for loan losses and (C) accrual of interest on assets, except
as otherwise required by the provisions of this Agreement;
(xiv) amend or change any provision of Paradigm's Constituent
Documents;
(xv) make any capital expenditures individually in excess of
$25,000, or in the aggregate in excess of $100,000, other than pursuant to
binding commitments existing on December 31, 2001 and disclosed in Schedule
5.2(b)(xv) and other than expenditures necessary to maintain existing assets in
good repair;
(xvi) excluding deposits, certificates of deposit, FHLB advances
and borrowings consistent with past practices, undertake any additional
borrowings in excess of ninety (90) days; or
(xvii) modify any outstanding loan or acquire any loan
participation, unless such modification is made in the ordinary course of
business, consistent with past practice.
Section 5.3 Access to Properties and Records. To the extent permitted by
applicable law, including, without limitation, banking laws and regulations and
antitrust laws and regulations, Paradigm shall, and shall cause each of its
Subsidiaries to, (i) afford the executive officers and authorized
representatives (including legal counsel, accountants and consultants) of
Prosperity full access upon reasonable notice to Paradigm's properties, books
and records and other documents and data in order that Prosperity may have full
opportunity to make such reasonable investigation as it shall desire to make of
the affairs of Paradigm, and (ii) furnish Prosperity with such additional
financial and operating data and other information as to its business and
properties as Prosperity shall, from time to time, reasonably request. As soon
as practicable after they become available, Paradigm will deliver or make
available to Prosperity all unaudited quarterly financial statements prepared
for the internal use of management of Paradigm and all Call Reports filed by the
Bank with the appropriate federal regulatory authority after the date of this
Agreement. All such financial statements shall be prepared in accordance with
GAAP (or regulatory accounting principles, as applicable) applied on a
consistent basis with previous accounting periods. In the event of the
termination of this Agreement, Prosperity
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will return to Paradigm all documents and other information obtained pursuant
hereto and will keep confidential any information obtained pursuant to this
Agreement.
Section 5.4 Information for Regulatory Applications and SEC Filings. To
the extent permitted by law, Paradigm will furnish Prosperity with all
information concerning Paradigm required for inclusion in (a) any application,
statement or document to be made or filed by Prosperity or any Subsidiary with
any federal or state regulatory or supervisory authority in connection with the
transactions contemplated by this Agreement during the pendency of this
Agreement and (b) any filings with the SEC, including a Registration Statement
on Form S-4, and any applicable state securities authorities and (c) any proxy
materials to be furnished to shareholders of Paradigm in connection with their
consideration of the Merger. Paradigm represents and warrants that all
information so furnished for such applications and filings shall, to Paradigm's
knowledge, be true and correct in all material respects without omission of any
material fact required to be stated to make the information not misleading.
Paradigm agrees at any time, upon the request of Prosperity, to furnish to
Prosperity a written letter or statement confirming the accuracy of the
information with respect to Paradigm contained in any report or other
application or statement referred to in Sections 5.1(b) or 5.4 of this
Agreement, and confirming that the information with respect to Paradigm
contained in such document or draft was furnished by Paradigm expressly for use
therein or, if such is not the case, indicating the inaccuracies contained in
such document or indicating the information not furnished by Paradigm expressly
for use therein.
Section 5.5 Attendance at Certain Paradigm Meetings. In order to
facilitate the continuing interaction of Prosperity with Paradigm, and in order
to keep Prosperity fully advised of all ongoing activities of Paradigm, subject
to the limitation in this Section 5.5, Paradigm agrees and shall cause its
Subsidiaries to agree to allow Prosperity to designate two representatives (who
shall be officers of Prosperity Bank), each of whom will be allowed to attend as
an invited guest and fully monitor all regular and called meetings of the board
of directors and loan and discount and asset liability management committees of
Paradigm and each of its Subsidiaries (including, but not limited to, meetings
of the officers' loan committee of the Bank). Paradigm shall promptly give
Prosperity prior notice by telephone of all called meetings. Such representative
shall have no right to vote and may be excluded from sessions of the board of
directors or loan or investment committee during which there is being discussed
(a) matters involving this Agreement, (b) information or material which Paradigm
or any of its Subsidiaries is required or obligated to maintain as confidential
under applicable laws or regulations or other legal agreements, or (c) pending
or threatened litigation or investigations if, in the opinion of counsel to
Paradigm, the presence of such representative would or might adversely affect
the confidential nature of or any privilege relating to any matters to be
discussed. No attendance by representatives of Prosperity at board meetings
under this Section 5.5 or knowledge gained or deemed to have been gained by
virtue of such attendance will affect any of the representations and warranties
of Paradigm made in this Agreement. If the transactions contemplated by this
Agreement are disapproved by any regulatory authority whose approval is required
or the Agreement is otherwise terminated prior to the Effective Time, then
Prosperity's designees will no longer be entitled to notice of and permission to
attend such meetings.
Section 5.6 No Solicitation.
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(a) So long as this Agreement is in effect, neither Paradigm nor any
Subsidiary nor any of their respective directors or officers shall initiate,
solicit, encourage or otherwise facilitate any inquiries, provide any
information to or negotiate with any other party any proposal or offer that
constitutes, or may reasonably be expected to lead to an Acquisition Proposal,
or (ii) enter into or maintain or continue discussions or negotiate with any
person in furtherance of such inquiries or to obtain an Acquisition Proposal, or
(iii) agree to, approve, recommend, or endorse any Acquisition Proposal, or
authorize or permit any of its or their directors or officers to take any such
action and Paradigm shall notify Prosperity orally (within one business day) and
in writing (as promptly as practicable) of any such inquiries and proposals
received by Paradigm or any Subsidiary or any of their respective directors or
officers, relating to any of such matters; provided, however, that nothing
contained in this Agreement shall prohibit the Board of Directors of Paradigm
from (A) furnishing information to, or engaging in discussions or negotiations
with, any person in response to an unsolicited bona fide written Acquisition
Proposal; or (B) recommending such an unsolicited bona fide written Acquisition
Proposal to the shareholders of Paradigm, if and only to the extent that (w) the
Board of Directors of Paradigm concludes in good faith (after consultation with
its financial advisors) that such Acquisition Proposal would constitute a
Superior Proposal (as defined below), and (x) the Board of Directors of Paradigm
determines in good faith (after consultation with outside legal counsel) that
the failure to take such action would result in a breach by the Board of
Directors of Paradigm of its fiduciary duties to Paradigm's shareholders under
applicable laws, and (y) prior to furnishing such information to, or entering
into discussions or negotiations with, such person Paradigm provides prompt
written notice to Prosperity to the effect that it is furnishing information to,
or entering into discussions or negotiations with, such person (which notice
shall identify the nature and material terms of the proposal), and (z) prior to
providing any information or data to any person in connection with an
Acquisition Proposal by any such person, the Board of Directors of Paradigm
receives from such person an executed confidentiality agreement. Subject to the
requirements of any applicable law, Paradigm agrees to keep Prosperity fully and
timely informed of the status of any discussions, negotiations, furnishing of
non-public information, or other activities relating to an Acquisition Proposal.
(b) For purposes of this Agreement, "Acquisition Proposal" means a
written offer or proposal which contains a fixed price per share or a
mathematically ascertainable formula for calculating a price per share for the
Paradigm Common Stock regarding any of the following (other than the
transactions contemplated by this Agreement) involving Paradigm or any
Subsidiary: (i) any merger, reorganization, consolidation, share exchange,
recapitalization, business combination, liquidation, dissolution or other
similar transaction involving any sale, lease, exchange, mortgage, pledge,
transfer or other disposition of, all or any significant portion of the assets
or equity securities or deposits of, Paradigm or any Subsidiary, in a single
transaction or series of related transactions which could reasonably be expected
to impede, interfere with, prevent or materially delay the completion of the
Merger; (ii) any tender offer or exchange offer for 50% or more of the
outstanding shares of capital stock of Paradigm or the filing of a registration
statement under the Securities Act in connection therewith; or (iii) any public
announcement of a proposal, plan or intention to do any of the foregoing or any
agreement to engage in any of the foregoing.
(c) For purposes of this Agreement, "Superior Proposal" means a bona
fide Acquisition Proposal made by a third person that the Board of Directors of
Paradigm determines
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in its good faith judgment to be more favorable to Paradigm's shareholders than
the Merger (taking into account, in good faith, the written opinion, with only
customary qualifications, of Paradigm's independent financial advisor that the
value of the consideration to Paradigm's shareholders provided for in such
proposal exceeds the value of the consideration to Paradigm's shareholders
provided for in the Merger) and for which financing, to the extent required, is
then committed or which, in the good faith judgment of the Board of Directors of
Paradigm (taking into account, in good faith, the written advice of Paradigm's
independent financial advisor), is reasonably capable of being obtained by such
third person.
(d) Nothing contained in this Section 5.6 shall prohibit Paradigm
from making any disclosure to Paradigm's shareholders which, in the good faith
judgment of the Board of Directors of Paradigm taking into account, in good
faith, the advice of outside counsel, is required under applicable law; provided
that Paradigm does not withdraw or modify, or propose to withdraw or modify, its
position with respect to the Merger or approve or recommend, or propose to
approve or recommend, an Acquisition Proposal unless Paradigm and its Board of
Directors has complied with all provisions of this Section 5.6.
Section 5.7 Termination Fee. To compensate Prosperity for entering into
this Agreement, taking actions to consummate the transactions contemplated
hereunder and incurring the costs and expenses related thereto and other losses
and expenses, including foregoing the pursuit of other opportunities by
Prosperity, Paradigm and Prosperity agree as follows:
(a) Provided that Prosperity shall not be in material breach of its
obligations under this Agreement (which breach has not been cured promptly
following receipt of written notice thereof by Paradigm specifying in reasonable
detail the basis of such alleged breach), Paradigm shall pay to Prosperity the
sum of $2,500,000 (the "Termination Fee") if this Agreement is terminated (i) by
Paradigm under the provisions of Section 9.1(g), (ii) by either Prosperity or
Paradigm under the provisions of Section 9.1(e) due to the failure of Paradigm's
shareholders to approve and adopt this Agreement and the Merger, if at the time
of such failure to so approve and adopt this Agreement and the Merger there
shall exist an Acquisition Proposal with respect to Paradigm and, within nine
months of the termination of this Agreement, Paradigm enters into a definitive
agreement with any third party with respect to any Acquisition Proposal with
respect to Paradigm or (iii) by Prosperity under the provisions of Section
9.1(h).
(b) Any payment required by paragraph (a) of this Section 5.7 shall
become payable within two (2) business days after termination of this Agreement.
(c) Paradigm acknowledges that the agreements contained in this
Section 5.7 are an integral part of the transactions contemplated in this
Agreement, and that, without these agreements, Prosperity would not enter into
this Agreement; accordingly, if Paradigm fails to promptly pay the Termination
Fee when due, Paradigm shall in addition thereto pay to Prosperity all costs and
expenses (including fees and disbursements of counsel) incurred in collecting
such Termination Fee together with interest on the amount of the Termination Fee
(or any unpaid portion thereof) from the date such payment was required to be
made until the date such payment is received by Prosperity at the prime rate as
reported in The Wall Street Journal as in effect from time to time during such
period.
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Section 5.8 Voting Agreement. Paradigm acknowledges that the directors and
10% or greater shareholders of Paradigm as of the date hereof have agreed to
vote their shares of Paradigm Common Stock in favor of this Agreement and the
transactions contemplated hereby, subject to required regulatory approvals,
pursuant to a Voting Agreement substantially in the form of Exhibit E to this
Agreement which has been executed as of the date of this Agreement.
Section 5.9 Termination of Data Processing Contracts. Paradigm will timely
take any and all actions necessary, including but not limited to notifying
appropriate parties, to ensure that its current data processing contracts will
if the Merger occurs, be terminated.
Section 5.10 Affiliates' Letters. No later than the fifteenth (15/th/) day
following the date of execution of this Agreement, Paradigm shall deliver to
Prosperity, after consultation with legal counsel, a list of names and addresses
of those persons who are then "affiliates" of Paradigm with respect to the
Merger within the meaning of Rule 144 under the Securities Act. There shall be
added to such list the names and addresses of any other person (within the
meaning of Rule 144) which Prosperity identifies (by written notice to Paradigm
within three business days after receipt of such list) as possibly being a
person who may be deemed to be an "affiliate" of Paradigm within the meaning of
Rule 144. Paradigm shall cause each person identified as an "affiliate" to
deliver, to Prosperity, not later than the thirtieth (30th) day following the
date of execution of this Agreement, an agreement dated as of the date of
delivery thereof in the form of Exhibit F attached hereto.
Section 5.11 Assumption of Paradigm Stock Options. Paradigm will use its
best efforts to cause each of the holders of Paradigm Stock Options as of the
Execution Date to execute and deliver to Prosperity, at least ten (10) days
prior to the Closing Date, an acknowledgment that such holder's Paradigm Stock
Option shall be converted, in accordance with its terms, into an option to
purchase a number of shares of Prosperity Common Stock equal to the number of
shares of Paradigm Common Stock subject to the original option multiplied by the
Total Exchange Ratio or, if applicable, the Adjusted Total Exchange Ratio, at an
exercise price per share equal to the exercise price per share of the original
option divided by the Total Exchange Ratio or, if applicable, the Adjusted Total
Exchange Ratio, consistent with the provisions of Section 2.3 hereof.
Section 5.12 Conforming Accounting Adjustments. Paradigm shall, if
requested by Prosperity, consistent with GAAP, immediately prior to Closing,
make such accounting entries as Prosperity may reasonably request in order to
conform the accounting records of Paradigm to the accounting policies and
practices of Prosperity. No such adjustment shall of itself constitute or be
deemed to be a breach, violation or failure to satisfy any representation,
warranty, covenant, condition or other provision or constitute grounds for
termination of this Agreement or be an acknowledgment by Paradigm (i) of any
adverse circumstances for purposes of determining whether the conditions to
Prosperity's obligations under this Agreement have been satisfied, or (ii) that
such adjustment is required for purposes of determining satisfaction of the
condition to Prosperity's obligations under this Agreement set forth in Section
10.3 hereof or (iii) that such adjustment has any bearing on the number of
shares of Prosperity Common Stock issuable hereunder. No adjustment required by
Prosperity shall (a) require any prior filing with any governmental agency or
regulatory authority or (b) violate any law, rule or regulation applicable to
Paradigm.
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Section 5.13 Consents to Assign and Use Leased Premises. With respect to
the leases disclosed in Schedule 3.6(a), the Paradigm will, or will cause its
Subsidiaries to, obtain all consents, approvals, authorizations, waivers or
similar affirmations necessary to transfer and assign all right, title and
interest of the Paradigm and its Subsidiaries to Prosperity and to permit the
use and operation of the leased premises by Prosperity.
Section 5.14 Trust Preferred Securities. Prosperity shall have received
evidence that all notices required to be given and any consents required to be
obtained pursuant to any document or instrument related to the Trust Preferred
Issue have in fact been given or obtained by Paradigm. Prosperity shall have
received the confirmation referred to in Section 3.27 hereof.
Section 5.15 Environmental Investigation; Rights to Terminate Agreement.
(a) Prosperity and its consultants, agents and representatives shall
have the right to the same extent that Paradigm or its Subsidiaries has such
right, but not the obligation or responsibility, to inspect any property,
including, without limitation, conducting asbestos surveys and sampling,
environmental assessments and investigation, and other non-invasive or
non-destructive environmental surveys and analyses including soil and ground
sampling ("Environmental Inspections") at any time on or prior to thirty (30)
days after the date of this Agreement. If, as a result of any such Environmental
Inspection, further investigation ("secondary investigation") including, without
limitation, test borings, soil, water, asbestos or other sampling, is deemed
desirable by Prosperity, Prosperity shall (i) notify Paradigm of any property
for which it intends to conduct such a secondary investigation and the reasons
for such secondary investigation, and (ii) conclude such secondary
investigation, on or prior to sixty (60) days after the date of this Agreement.
Prosperity shall give reasonable notice to Paradigm of such secondary
investigations, and Paradigm may place reasonable time and place restrictions on
such secondary investigations.
(b) Paradigm agrees to indemnify and hold harmless Prosperity for any
claims for damage to property, or injury or death to persons, made as a result
of any Environmental Inspection or secondary investigation conducted by
Prosperity or its agents, or to the extent such damage or injury is attributable
to the negligent actions or negligent omissions of Paradigm or their respective
agents. Prosperity agrees to indemnify and hold harmless Paradigm for any claims
for damage to property, or injury or death to persons, to the extent
attributable to the negligent actions or omissions of Prosperity or its agents
in performing any Environmental Inspection or secondary investigation.
Prosperity shall not have any liability or responsibility of any nature
whatsoever for the results, conclusions or other findings related to any
Environmental Inspection, secondary investigation or other environmental survey.
If this Agreement is terminated, then except as otherwise required by law,
reports to any governmental authority of the results of any Environmental
Inspection, secondary investigation or other environmental survey shall be made
by Paradigm and not by Prosperity. Prosperity shall make no such report prior to
Closing unless required to do so by law, and in such case will give Paradigm
reasonable prior notice of Prosperity's intentions.
(c) Prosperity shall have the right to terminate this Agreement
within ninety (90) days after the date of this Agreement if (i) the results of
such Environmental Inspection, secondary investigation or other environmental
survey are disapproved by Prosperity because the
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Environmental Inspection, secondary investigation or other environmental survey
identifies violations or potential violations of Environmental Laws that would
have or are reasonably likely to have a Material Adverse Effect on the Condition
of Paradigm; (ii) any past or present event, condition or circumstance that
would require remedial or cleanup action under Environmental Laws involving an
expenditure in excess of $500,000 or having a Material Adverse Effect on the
Condition of Paradigm; (iii) the Environmental Inspection, secondary
investigation or other environmental survey identifies the presence of any
underground or above ground storage tank in, on or under any property that is
not shown to be in compliance with all Environmental Laws applicable to the tank
either now or at a future time certain, or that has had a release of petroleum
or some other Hazardous Material that has not been cleaned up to the
satisfaction of the relevant governmental authority or any other party with a
legal right to compel cleanup; or (iv) the Environmental Inspection, secondary
investigation or other environmental survey identifies the presence of any
asbestos-containing material in, on or under any property, the removal of which
would have a Material Adverse Effect on the Condition of Paradigm.
(d) Paradigm agrees to make available upon request to Prosperity
and its consultants, agents and representatives all documents and other material
relating to environmental conditions of any property including, without
limitation, the results of other environmental inspections and surveys to the
extent such documents are in the actual possession of Paradigm. Paradigm also
agrees that all engineers and consultants who prepared or furnished such reports
may discuss such reports and information with Prosperity and, at Prosperity's
cost, shall be entitled to certify the same in favor of Prosperity and its
consultants, agents and representatives and make all other data available to
Prosperity and its consultants, agents and representatives.
VI. COVENANTS OF PROSPERITY
Prosperity covenants and agrees with Paradigm as follows:
Section 6.1 Best Efforts. Prosperity will take all reasonable action to
aid and assist in the consummation of this Agreement and the transactions
contemplated hereby, and will use its best efforts to take or cause to be taken
all other actions necessary, proper or advisable to consummate the transactions
contemplated by this Agreement, including such actions which are necessary,
proper or advisable in connection with filing applications with, or obtaining
approvals from, all regulatory authorities having jurisdiction over the
transactions contemplated by this Agreement.
Section 6.2 Information for Regulatory Applications and Proxy
Solicitation. To the extent permitted by law, Prosperity will furnish Paradigm
with all information concerning Prosperity required for inclusion in (a) any
application, statement or document to be made or filed by Paradigm with any
federal or state regulatory or supervisory authority in connection with the
transactions contemplated by this Agreement during the pendency of this
Agreement and (b) any proxy materials to be furnished to the shareholders of
Paradigm in connection with their consideration of the Merger. Prosperity
represents and warrants that all information so furnished for such statements
and applications shall, to the best of its knowledge, be true and correct in all
material respects without omission of any material fact required to be stated to
make the information not misleading. Prosperity agrees, upon the request of
Paradigm, to furnish to
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Paradigm a written letter or statement confirming to the best of its knowledge
the accuracy of the information with respect to Prosperity and its Subsidiaries
contained in any report or other application or statement referred to in
Sections 6.1 or 6.2 of this Agreement, and confirming that the information with
respect to Prosperity contained in such document or draft was furnished
expressly for use therein or, if such is not the case, indicating the
inaccuracies contained in such document or indicating the information not
furnished by Prosperity expressly for use therein.
Section 6.3 Registration Statement. Within thirty (30) days after the
execution of this Agreement, Prosperity will prepare and file with the SEC a
Registration Statement on Form S-4 under the Securities Act and any other
applicable documents, relating to the shares of Prosperity Common Stock to be
delivered to the shareholders of Paradigm pursuant to this Agreement, and will
use its best efforts to cause the Registration Statement to become effective.
Paradigm and its counsel shall be given the opportunity to participate in the
preparation of the Registration Statement and shall have the right to approve
the content of the Registration Statement with respect to Paradigm and the
Paradigm meeting of shareholders. At the time the Registration Statement becomes
effective, the Registration Statement will comply in all material respects with
the provisions of the Securities Act and the published rules and regulations
thereunder, and will not contain any untrue statement of a material fact or omit
to state a material fact required to be stated therein or necessary to make the
statements therein not false or misleading, and at the time of mailing thereof
to Paradigm's shareholders and at the time of the Paradigm Shareholders' Meeting
held to approve the Merger, the prospectus included as part of the Registration
Statement, as amended or supplemented by any amendment or supplement filed by
Prosperity (the "Proxy Statement/Prospectus"), will not contain any untrue
statement of a material fact or omit to state any material fact necessary to
make the statements therein not false or misleading; provided, however, that
none of the provisions of this subparagraph shall apply to statements in or
omissions from the Registration Statement or the Proxy Statement/Prospectus made
in reliance upon and in conformity with information furnished by Paradigm for
use in the Registration Statement or the Proxy Statement/Prospectus.
Section 6.4 Nasdaq Listing. Prosperity will file all documents required
to be filed to have the shares of Prosperity Common Stock to be issued pursuant
to the Agreement included for quotation on Nasdaq and use its best efforts to
effect said listing.
Section 6.5 Rule 144 Compliance. For a period of not less than two years
after the date hereof (or such shorter period of time as may be applicable for
"affiliates" of Paradigm to sell shares of Prosperity Common Stock in accordance
with Rule 145 of the Securities Act), Prosperity shall use its best efforts to
file in a timely manner all reports with the SEC required to be filed by it
pursuant to Section 13 and Section 15(d) of the Exchange Act.
Section 6.6 Indemnification; Insurance.
(a) For a period of three (3) years from and after the Effective
Time, Prosperity (the "Indemnifying Party") shall indemnify and hold harmless
each present and former director, officer and employee of Paradigm and its
Subsidiaries determined as of the Effective Time (the "Indemnified Parties")
against any costs or expenses (including reasonable attorneys' fees), judgments,
fines, losses, claims, damages or liabilities (collectively, "Costs") incurred
in connection with any claim, action, suit, proceeding or investigation whether
civil or
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criminal, administrative or investigative, arising out of matters existing or
occurring at or prior to the Effective Time, whether asserted or claimed prior
to, at or after the Effective Time to the fullest extent to which such
Indemnified Parties were entitled under the Paradigm Constituent Documents. The
indemnification provisions currently contained in the Paradigm Constituent
Documents shall not be amended after the date of this Agreement.
(b) Any Indemnified Party wishing to claim indemnification under
this section, upon learning of any such claim, action, suit, proceeding or
investigation, shall promptly notify the Indemnifying Party, but the failure to
so notify shall not relieve the Indemnifying Party of any liability it may have
to such Indemnified Party if such failure does not materially prejudice the
Indemnifying Party. In the event of any such claim, action, suit, proceeding or
investigation (whether arising before or after the Effective Time), (i) the
Indemnifying Party shall have the right to assume the defense thereof and the
Indemnifying Party shall not be liable to such Indemnified Parties for any legal
expenses of other counsel or any other expenses subsequently incurred by such
Indemnified Parties in connection with the defense thereof, except that if the
Indemnifying Party elects not to assume such defense or counsel for the
Indemnified Party and the Indemnified Parties, the Indemnified Parties may
retain counsel which is reasonably satisfactory to the Indemnifying Party, and
the Indemnifying Party shall pay, promptly as statements therefor are received,
the reasonable fees and expenses of such counsel for the Indemnified Parties
(which may not exceed one firm in any jurisdiction unless the use of one counsel
for such Indemnified Parties would present such counsel with a conflict of
interest), (ii) the Indemnified Parties will cooperate in the defense of any
such matter and (iii) the Indemnifying Party shall not be liable for any
settlement effected without its prior written consent.
(c) Prosperity shall use its commercially reasonable efforts to
maintain its existing policy of directors and officers liability insurance (or
comparable coverage) for a period of not less than three (3) years after the
Effective Time; which policy shall be amended, however, to include the directors
and officers of Paradigm currently covered under the policy held by Paradigm,
and which shall be a "claims made" policy providing coverage for (among other
things) acts or omissions occurring prior to the Effective Time.
(d) In the event that Prosperity or any of its respective
successors or assigns (i) consolidates with or merges into any other person and
shall not be the continuing or surviving corporation or entity of such
consolidation or merger or (ii) transfers all or substantially all of its
properties and assets to any person, then, and in each such case, the successors
and assigns of such entity shall assume the obligations set forth in this
Agreement, which obligations are expressly intended to be for the irrevocable
benefit of, and shall be enforceable by, each director and officer covered
hereby.
Section 6.7 Access to Properties and Records. To the extent permitted by
applicable laws and any applicable contractual obligations, Prosperity will (i)
afford the executive officers and authorized representatives (including legal
counsel, accountants and consultants) of Paradigm full access upon reasonable
notice to the properties, books and records of Prosperity in order that Paradigm
may have full opportunity to make such reasonable investigation as it shall
desire to make of the affairs of Prosperity, and (ii) furnish Paradigm with such
additional financial and operation data and other information as to the business
and properties of Prosperity
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as Paradigm shall, from time to time, reasonably request. As soon as practicable
after they become available, Prosperity will deliver or make available to
Paradigm all unaudited quarterly financial statements prepared for the internal
use of management of Prosperity and all Call Reports filed by PRSP Bank with the
appropriate federal regulatory authority after the date of this Agreement. All
such financial statements shall be prepared in accordance with GAAP (or
regulatory accounting principles, as applicable) applied on a consistent basis
with previous accounting periods. In the event of the termination of this
Agreement, Paradigm will return to Prosperity all documents and other
information obtained pursuant hereto and will keep confidential any information
obtained pursuant to this Agreement.
Section 6.8 Assumption of Paradigm Stock Options.
(a) At the Effective Time, each outstanding and unexercised
Paradigm Stock Option shall be assumed by Prosperity as provided in Section 2.3
hereof.
(b) Prosperity shall take all corporate action necessary to
reserve for issuance a sufficient number of shares of Prosperity Common Stock
for delivery upon exercise of Paradigm Stock Options assumed by Prosperity in
accordance with Section 2.3. As soon as practicable after the Effective Time,
Prosperity shall file a registration statement on Form S-8 (or any successor or
other appropriate form) with respect to the shares of Prosperity Common Stock
subject to such options and shall use its best efforts to maintain the
effectiveness of the registration statement (and maintain the current status of
the prospectus contained therein) for so long as such options remain
outstanding. With respect to those individuals who subsequent to the Merger will
be subject to the reporting requirements under Section 16(a) of the Exchange
Act, where applicable, Prosperity shall administer the Paradigm Stock Option
Plan in a manner that complies with Rule 16b-3 promulgated under the Exchange
Act to the extent the Paradigm Stock Option Plan complied with such rule prior
to the Merger.
Section 6.9 Supplemental Indenture. Prosperity agrees that at or prior
to the Effective Time it will enter into a supplemental indenture to the
Indenture dated February 20, 2001 by and between Paradigm and First Union, as
trustee (the "Indenture"), assuming the obligations and performance of the
covenants of Paradigm under the Indenture at the Effective Time in accordance
with Section 12.1 of the Indenture.
Section 6.10 Appointment of Directors.
(a) Prosperity agrees, at the Effective Time, to take all
actions necessary to (i) increase by two (2) the number of positions on the
Prosperity Board of Directors and (ii) cause each of William H. Fagan, MD and
Charles J. Howard, MD to be elected or appointed as a director of Prosperity at
the Effective Time, if each is still a member of the Paradigm Board of Directors
immediately prior to the Effective Time and if each is willing and eligible to
serve as a director of Prosperity.
(b) Prosperity agrees, at the Effective Time, to take all
actions necessary to (i) increase by two (2) the number of positions on the PRSP
Bank Board of Directors and (ii) cause each of Peter E. Fisher and Leah
Huffmeister to be elected or appointed as a director of PRSP Bank at the
Effective Time, if each is still a member of the Paradigm Bank Board of
Directors
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immediately prior to the Effective Time and if each is willing and eligible to
serve as a director of PRSP Bank. Prosperity agrees to appoint Mr. Fisher to
serve as Vice Chairman of the Board of Directors of PRSP Bank.
Section 6.11 Regulatory and Other Approvals. Prosperity shall promptly,
but in no event later than forty-five (45) days after the date of this
Agreement, file or cause to be filed applications for all regulatory approvals
required to be obtained by Prosperity, Delaware Company or PRSP Bank in
connection with this Agreement and the other agreements contemplated hereby.
Prosperity shall promptly furnish Paradigm with copies of all such regulatory
filings and all correspondence for which confidential treatment has not been
requested. Prosperity shall use its best efforts to obtain all such regulatory
approvals and any other approvals from third parties, at the earliest
practicable time.
VII. MUTUAL COVENANTS OF PARADIGM AND PROSPERITY
Section 7.1 Notification; Updated Disclosure Schedules. Paradigm shall
give prompt notice to Prosperity, and Prosperity shall give prompt notice to the
Paradigm, of (i) any representation or warranty made by it in this Agreement
becoming untrue or inaccurate in any material respect, including, without
limitation, as a result of any change in a Schedule, or (ii) the failure by it
to comply with or satisfy in any material respect any covenant, condition or
agreement to be complied with or satisfied by it under this Agreement; provided,
however, that no such notification shall affect the representations, warranties,
covenants or agreements of the parties or the conditions to the obligations of
the parties under this Agreement.
Section 7.2 Employee Benefit Plans. Paradigm shall execute and deliver
such instruments and take such other actions as Prosperity may reasonably
require in order to cause the amendment or termination of any employee benefit
plan of Paradigm or any of its Subsidiaries on terms satisfactory to Prosperity
and in accordance with applicable law and effective as of the Closing Date.
Prosperity agrees that the employees of Paradigm and its Subsidiaries who
continue their employment after the Closing Date (the "PBT Employees") will be
entitled to participate as newly hired employees in the employee benefit plans
and programs maintained for employees of Prosperity and its Subsidiaries, in
accordance with the respective terms of such plans and programs, and Prosperity
shall take all actions necessary or appropriate to facilitate coverage of the
PBT Employees in such plans and programs from and after the Closing Date,
subject to the following:
(a) Each PBT Employee will be entitled to credit for prior
service with the Bank for all purposes under the employee welfare benefit plans
and other employee benefit plans and programs (other than stock option plans),
sponsored by Prosperity and PRSP Bank to the extent Paradigm or the Bank
sponsored a similar type of plan in which the PBT Employees participated
immediately prior to the Closing Date. Any eligibility waiting period and
pre-existing condition exclusion applicable to such plans and programs shall be
waived with respect to each PBT Employee and their eligible dependents. For
purposes of determining PBT Employee's benefit for the calendar year in which
the Merger occurs under Prosperity's vacation program, any vacation taken by the
PBT Employee immediately preceding the Effective Time for the calendar year in
which the Merger occurs will be deducted from the total Prosperity vacation
benefit available to such PBT Employee for such calendar year. Prosperity
further
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agrees to credit each PBT Employee and their eligible dependents for the year
during which coverage under Prosperity's group health plan begins, with any
deductibles already incurred during such year, under Paradigm's group health
plan.
(b) Each PBT Employee shall be entitled to credit for past
service with the Bank for the purpose of satisfying any eligibility or vesting
periods applicable to Prosperity's employee benefit plans which are subject to
Sections 401(a) and 501(a) of the Code (including, without limitation,
Prosperity's 401(k) Profit Sharing Plan).
Section 7.3 Confidentiality. Neither Prosperity nor Paradigm will,
directly or indirectly, before or after the consummation or termination of this
Agreement, disclose any confidential information, whether written or oral
("Subject Information") acquired from the other party to any person, firm,
corporation, association or other entity for any reason or purpose whatsoever,
other than in connection with the regulatory notice and application process or,
after termination of this Agreement pursuant to Section 9.1 hereof, use such
Subject Information for its own purposes or for the benefit of any person, firm,
corporation, association, or other entity under any circumstances. The term
"Subject Information" does not include any information that (i) at the time of
disclosure or thereafter is generally available to and known to the public,
other than by a breach of this Agreement by the disclosing party, (ii) was
available to the disclosing party on a nonconfidential basis from a source other
than the nondisclosing party or (iii) was independently acquired or developed
without violating any obligations of this Agreement.
Section 7.4 Publicity. Except as otherwise required by applicable law or
the rules of the Nasdaq, as long as this Agreement is in effect, neither
Prosperity nor Paradigm shall, nor shall they permit any of their respective
Subsidiaries and Affiliates to, issue or cause the publication of any press
release or other public announcement with respect to, or otherwise make any
public statement concerning, the transactions contemplated by this Agreement
without the consent of the other party, which consent shall not be unreasonably
withheld or delayed; provided, however, that this shall not include notices
required to be published pursuant to the regulatory application process. The
parties agree that they will make a good faith effort to reach agreement
expeditiously on such press releases, announcements or other public statements.
Section 7.5 Restrictions on Trading in Prosperity Common Stock. Neither
Prosperity, Paradigm, any of their respective Subsidiaries nor any director or
executive officer of Prosperity, Paradigm or their respective Subsidiaries shall
directly or indirectly purchase or sell on the Nasdaq any shares of Prosperity
Common Stock, or any options, warrants, rights or other securities convertible
into or exercisable for shares of Prosperity Common Stock during the fifteen
trading days ending on and including the third trading day preceding the
Effective Time.
VIII. CLOSING
Section 8.1 Closing. Subject to the other provisions of this Article
VIII, on a mutually acceptable date ("Closing Date") as soon as practicable
within a thirty (30) day period commencing with the latest of the following
dates:
(a) the receipt of all requisite shareholder approvals and the
last approval from any requisite regulatory or supervisory authority and the
expiration of any statutory or
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regulatory waiting period which is necessary to effect the Merger, the Delaware
Merger and the Bank Merger; or
(b) if the transactions contemplated by this Agreement are being
contested in any legal proceeding and Prosperity or Paradigm, pursuant to
Section 12.1 herein, have elected to contest the same, then the date that such
proceeding has been brought to a conclusion favorable, in the judgment of each
of Prosperity and Paradigm, to the consummation of the transactions contemplated
herein, or such prior date as each of Prosperity and Paradigm shall elect
whether or not such proceeding has been brought to a conclusion;
A meeting ("Closing") will take place at which the parties to this
Agreement will exchange certificates, opinions, letters and other documents in
order to determine whether any condition exists which would permit the parties
hereto to terminate this Agreement. If no such condition then exists or if no
party elects to exercise any right it may have to terminate this Agreement, then
and thereupon the appropriate parties shall execute such documents and
instruments as may be necessary or appropriate to effect the transactions
contemplated by this Agreement.
The Closing shall take place at the offices of Bracewell & Patterson,
L.L.P. in Houston, Texas, or at such other place to which the parties hereto may
mutually agree.
Section 8.2 Effective Time. Prosperity and Paradigm shall, in accordance
with Section 5.04 of the TBCA, file Articles of Merger with the Secretary of
State of Texas regarding the Merger. The Merger shall become effective as of the
close of business on the date on which such filing has been completed and the
Secretary of State of Texas has issued a Certificate of Merger with respect to
the Merger (the "Effective Time"). The parties hereto shall take all such other
and further actions as may be required by applicable law to make the Merger, the
Delaware Merger and the Bank Merger effective on the same date.
IX. TERMINATION
Section 9.1 Termination. Notwithstanding any other provision of this
Agreement, this Agreement may be terminated and the Merger may be abandoned at
any time prior to the Effective Time:
(a) by the Board of Directors of Prosperity or Paradigm at any
time prior to the Effective Time if:
(i) any court of competent jurisdiction in the United
States or other United States (federal or state) governmental body shall have
issued an order, decree or ruling or taken any other action restraining,
enjoining or otherwise prohibiting the Merger and such order, decree, ruling or
other action shall have been final and non-appealable;
(ii) any of the transactions contemplated by this Agreement
are disapproved by any regulatory authority or other person whose approval is
required to consummate any of such transactions; or
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(iii) the Merger shall not have become effective on or before
November 27, 2002, the two hundred and tenth (210th) day following the date of
this Agreement, or such later date as shall have been approved in writing by the
Boards of Directors of Prosperity and Paradigm; provided, however, that the
right to terminate under this Section 9.1(a)(iii) shall not be available to any
party whose failure to fulfill any material obligation under this Agreement has
been the cause of, or has resulted in, the failure of the Merger to become
effective on or before such date;
(b) by the Board of Directors of Paradigm if (i) Prosperity shall
fail to comply in any material respect with any of its covenants or agreements
contained in this Agreement, or if any of the representations or warranties of
Prosperity contained herein shall be inaccurate in any material respect or (ii)
any of the conditions set forth in Article XI have not been met or waived by
Paradigm. In the event the Board of Directors of Paradigm desires to terminate
this Agreement because of an alleged breach or inaccuracy as provided in (i)
above, such Board of Directors must notify Prosperity in writing of its intent
to terminate stating the reason therefor. Prosperity shall have fifteen (15)
days from the receipt of such notice to cure the alleged breach or inaccuracy,
subject to the approval of Paradigm (which approval shall not be unreasonably
withheld or delayed);
(c) by action of the Board of Directors of Prosperity if (i)
Paradigm shall fail to comply in any material respect with any of its covenants
or agreements contained in this Agreement, or if any of the representations or
warranties of Paradigm contained herein shall be inaccurate in any material
respect, (ii) if the conditions set forth in Article X have not been met or
waived by Prosperity or (iii) the Board of Directors of Prosperity reasonably
concludes, after consulting with counsel, that Prosperity will be unable to
obtain any regulatory approval required in order to consummate the Merger, the
Delaware Merger or the Bank Merger or any such approval is accompanied by terms
or conditions which materially and adversely impact the financial consequences
of the Merger, the Delaware Merger or the Bank Merger to Prosperity. In the
event the Board of Directors of Prosperity desires to terminate this Agreement
because of an alleged breach or inaccuracy as provided in (i) above, the Board
of Directors must notify Paradigm in writing of its intent to terminate stating
the cause therefor. Paradigm shall have fifteen (15) days from the receipt of
such notice to cure the alleged breach or inaccuracy, subject to the approval of
Prosperity (which approval shall not be unreasonably withheld or delayed);
(d) by Paradigm if the average closing bid price of a share of
Prosperity Common Stock on the Nasdaq (as reported by The Wall Street Journal
or, if not reported thereby, another alternative source as chosen by Prosperity)
during the Price Measurement Period is less than $24.41 per share and (ii) the
percentage difference between $32.55 and the Measurement Price is less than 10%
lower than the percentage difference between the closing price of the KBW Bank
Index on April 26, 2002 and the average closing price of the KBW Bank Index
during the Price Measurement Period. To terminate this Agreement pursuant to
this Section 9.1(d), Paradigm must provide to Prosperity written notice of its
intent to terminate within two business days following the end of the Price
Measurement Period ("Termination Notice"). For a period of five business days
from the date of receipt of the Termination Notice, Prosperity shall have the
option, but not the obligation, to increase the aggregate number of shares of
Prosperity Common Stock into which shares of Paradigm Common Stock will be
converted at the Effective Time as set forth in Section 2.2 hereof ("Walkaway
Counter Offer").
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In the event that Prosperity elects to make the Walkaway Counter Offer, the
Termination Notice previously sent by Paradigm shall be null and void and of no
effect, and Paradigm shall no longer have the right to terminate the Agreement
pursuant to this Section 9.1(d). If Prosperity does not elect to make the
Walkaway Counter Offer, this Agreement shall terminate;
(e) by the Board of Directors of either Paradigm or Prosperity if
the conditions set forth in Article XII have not been met or waived by the other
party;
(f) by mutual written consent of the Board of Directors of
Prosperity and Paradigm;
(g) by Paradigm if (i) there shall not have been a breach of any
covenant or agreement on the part of Paradigm or any Subsidiary under this
Agreement and (ii) prior to the Effective Time, Paradigm shall have received a
bona fide Acquisition Proposal and the Paradigm Board of Directors determines in
its good faith judgment and in the exercise of its fiduciary duties, based as to
legal matters on the written opinion of independent legal counsel and as to
financial matters on the written opinion of an investment banking firm of
national reputation, that such alternative Acquisition Proposal (if consummated
pursuant to its terms) is a Superior Proposal and that the failure to terminate
this Agreement and accept such Superior Proposal would be inconsistent with the
proper exercise of such fiduciary duties; provided, however, that termination
under this clause (ii) shall not be deemed effective until payment of the
Termination Fee required by Section 5.7 hereof; and
(h) by Prosperity if the Paradigm Board of Directors shall have
(i) resolved to accept a Superior Proposal, (ii) recommended to the shareholders
of Paradigm that they tender their shares in a tender or exchange offer
commenced by a third party or (iii) withdrawn or modified, in any manner that is
adverse to Prosperity, its recommendation or approval of this Agreement or the
Merger or recommended to the Paradigm shareholders acceptance or approval of any
alternative Acquisition Proposal, or shall have resolved to the foregoing.
Section 9.2 Effect of Termination. In the event of abandonment of the
Merger and termination of this Agreement by either Prosperity or Paradigm as
provided under Section 9.1 hereof without breach by any party hereto, this
Agreement shall become void and have no effect, without any liability, except as
specifically contemplated in Section 9.1, on the part of any party or its
directors, officers, agents, representatives or shareholders, except that the
provisions of this Section 9.2, Section 7.3, Section 5.7 and Section 13.4 shall
survive any such termination and abandonment. Nothing contained in this Section
9.2 shall relieve any party of any liability for a breach of this Agreement.
X. CONDITIONS TO OBLIGATIONS OF PROSPERITY
The obligations of Prosperity under this Agreement are subject to the
satisfaction, at or prior to the Closing Date of all of the following
conditions, which may be waived by Prosperity in its sole discretion:
Section 10.1 Compliance with Representations and Covenants. Each of the
representations and warranties made by Paradigm in this Agreement must have been
true and correct in all material respects when made and shall be true and
correct in all material respects as
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of the Closing Date with the same force and effect as if such representations
and warranties were made at and as of the Closing Date, except to the extent
such representations and warranties are by their express provisions made as of a
specified date, and Prosperity shall have received a certificate signed on
behalf of Paradigm by the chief executive officer of Paradigm to that effect.
Section 10.2 Performance of Obligations. Paradigm shall have performed or
complied in all material respects with all covenants and obligations required by
this Agreement to be performed and complied with prior to or at the Closing.
Prosperity shall have received a certificate signed by the by the chief
executive officer of Paradigm to that effect.
Section 10.3 Absence of Material Adverse Changes. There shall have been no
change after the date hereof in the assets, properties, business or financial
condition of Paradigm or any of its Subsidiaries which, individually or in the
aggregate, has had or is reasonably likely to have, a Material Adverse Effect on
the Condition of Paradigm or the transactions contemplated hereby, nor shall any
event have occurred which, with the lapse of time, will cause or result in a
Material Adverse Effect on the Condition of Paradigm; provided, however, that
such a change for purposes of this Section 10.3, does not include a change with
respect to, or effect on, Paradigm resulting from (i) a change in law, rule,
regulation or GAAP, (ii) as a result of entering into this Agreement or
complying with the terms of this Agreement or (iii) from any other matter
affecting federally-insured depository institutions generally (including without
limitation, their holding companies), including, without limitation, changes in
general economic conditions and changes in prevailing interest or deposit rates;
provided, any such change does not impact Paradigm more adversely than other
similarly situated financial institutions.
Section 10.4 Legal Opinion. Prosperity shall have received an opinion of
counsel to Paradigm, dated as of the Closing Date, in form and substance
satisfactory to counsel for Prosperity.
Section 10.5 Tax Opinion. Prosperity shall have received an opinion of
Bracewell & Patterson, L.L.P. to the effect that on the basis of certain facts,
representations and opinions set forth in such opinion that the Merger will
qualify as a reorganization under Section 368(a) of the Internal Revenue Code.
In rendering such opinion, such counsel may require and rely upon and may
incorporate by reference representations and covenants, including those
contained in certificates of officers and/or directors of Prosperity, Paradigm
and others.
Section 10.6 Releases. Each of the officers (with a title of senior vice
president or above as of the date hereof) and directors of Paradigm and the Bank
shall deliver to Prosperity an instrument in the form of Exhibit G dated as of
the Closing Date releasing Paradigm and Prosperity from any and all claims of
such directors and officers (except as described in such instrument).
Section 10.7 Affiliates' Letters. Each person who is an "affiliate" (as
defined in Rule 144 under the Securities Act) of Paradigm shall have delivered
to Prosperity an executed copy of the Affiliate Letter contemplated by Section
5.10 hereof.
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Section 10.8 Conversion of Paradigm Stock Options. Each of the holders of
Paradigm Stock Options shall have executed and delivered to Prosperity the
acknowledgment contemplated by Section 5.11 hereof.
Section 10.9 Acknowledgment of SAR Cancellation. Each Paradigm Stock
Appreciation Right shall be canceled and terminated as of the Effective Time as
provided for in Section 2.4 hereof, and each holder of a Paradigm SAR
outstanding immediately prior to the Effective Time shall have executed and
delivered to Prosperity such instruments as Prosperity, with the advice of
counsel, may deem necessary to effectuate the cancellation and termination of
such Paradigm SARs and the release of rights under the Paradigm SARs and the
Paradigm SAR Plan.
Section 10.10 Employment Issues. The employment agreements between
Paradigm or any Subsidiary and each of Peter E. Fisher, Brad Fagan and Jay W.
Porter shall be terminated and any change in control payments due with respect
to such agreements shall have been paid by Paradigm immediately prior to the
Effective Time. Each of Messrs. Fisher, Fagan and Porter shall have executed a
release with respect to the payment of any benefits to them pursuant to their
respect employment agreements.
XI. CONDITIONS TO OBLIGATIONS OF PARADIGM
The obligations of Paradigm under this Agreement are subject to the
satisfaction, at or prior to the Closing Date, of the following conditions,
which may be waived by Paradigm in its sole discretion:
Section 11.1 Compliance with Representations and Warranties. Each of the
representations and warranties made by Prosperity in this Agreement must have
been true and correct in all material respects when made and shall be true and
correct in all material respects as of the Closing Date with the same force and
effect as if such representations and warranties were made at and as of the
Closing Date, except to the extent such representations and warranties are by
their express provisions made as of a specified date, and Paradigm shall have
received a certificate signed on behalf of Prosperity by the chief executive
officer of Prosperity to that effect.
Section 11.2 Performance of Obligations. Prosperity shall have performed
or complied in all material respects with all covenants and obligations required
by this Agreement to be performed and complied with prior to or at the Closing.
Paradigm shall have received a certificate signed by the by the chief executive
officer of Prosperity to that effect.
Section 11.3 Absence of Material Adverse Changes. There shall have been
no change after the date hereof in the assets, properties, business or financial
condition of Prosperity which, individually or in he aggregate, has had or is
reasonably likely to have, a Material Adverse Effect on the Condition of
Prosperity or the transactions contemplated hereby; provided, however, that for
purposes of this Section 11.3, such a change will not include a change with
respect to, or effect on, Prosperity resulting (i) from a change in law, rule,
regulation or GAAP or (ii) from any other matter affecting federally-insured
depository institutions generally (including without limitation, their holding
companies), including, without limitation, changes in general economic
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conditions and changes in prevailing interest or deposit rates; provided, any
such change does not impact Prosperity more adversely than other similarly
situated financial institutions.
Section 11.4 Legal Opinion. Paradigm shall have received an opinion of
counsel to Prosperity, dated as of the Closing Date and in form and substance
satisfactory to counsel for Paradigm.
Section 11.5 Opinion of Financial Advisor. Paradigm shall have received a
written opinion from a financial advisor dated as of the date of the
Prospectus/Proxy Statement that the Merger Consideration is fair to the Paradigm
shareholders from a financial point of view and such opinion shall not have been
withdrawn.
Section 11.6 Tax Opinion. Paradigm shall have received an opinion of
counsel satisfactory to Paradigm to the effect that on the basis of certain
facts, representations and opinions set forth in such opinion that the Merger
will qualify as a reorganization under Section 368(a) of the Internal Revenue
Code. In rendering such opinion, such counsel may require and rely upon and may
incorporate by reference representations and covenants, including those
contained in certificates of officers and/or directors of Paradigm, Prosperity
and others.
Section 11.7 Employment and Non-Competition Agreement. Peter E. Fisher
shall have entered into an employment and non-competition agreement with PRSP
Bank substantially in the form set forth in Schedule 11.7.
XII. MUTUAL CONDITIONS TO RESPECTIVE OBLIGATIONS OF
PROSPERITY AND PARADIGM
The respective obligations of Prosperity and Paradigm under this Agreement
are subject to the satisfaction of the following conditions which may be waived
by Prosperity and Paradigm, respectively, in their sole discretion:
Section 12.1 Government Approvals. Prosperity and Paradigm shall have
received the approval, or waiver of approval, of the transactions contemplated
by this Agreement from all necessary governmental agencies and authorities,
including the Federal Reserve, the FDIC, the Banking Department and any other
regulatory agency whose approval must be received in order to consummate the
Merger, which approvals shall not impose any restrictions on the operations of
the Continuing Company which would reduce the benefits of the transactions
contemplated by this Agreement in such a material manner that Prosperity in its
good faith and reasonable judgment, would not have entered into this Agreement
had such restrictions been known at the date hereof; provided, however, that any
branch divestiture required by any governmental agency shall not be deemed to
impose unacceptable restrictions on the operations of Prosperity, and such
approvals and the transactions contemplated hereby shall not have been contested
by any federal or state governmental authority or any third party (except
shareholders asserting dissenters' rights) by formal proceeding. It is
understood that, if any such contest is brought by formal proceeding, Prosperity
or Paradigm may, but shall not be obligated to, answer and defend such contest
or otherwise pursue the Merger over such objection.
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Section 12.2 Shareholder Approval. The holders of at least 50% of the
outstanding shares of Paradigm Common Stock entitled to vote at the Paradigm
Shareholders' Meeting shall have approved this Agreement and the transactions
contemplated by this Agreement.
Section 12.3 Registration of Prosperity Common Stock. The Registration
Statement covering the Prosperity Common Stock to be issued in the Merger shall
have become effective under the Securities Act and no stop orders suspending
such effectiveness shall be in effect, and no action, suit, proceeding or
investigation by the SEC to suspend the effectiveness of the Registration
Statement shall have been initiated or continuing, or have been threatened and
be unresolved, and all necessary approvals under state's securities laws
relating to the issuance or trading of the Prosperity Common Stock to be issued
in the Merger shall have been received.
Section 12.4 Listing of Prosperity Common Stock. The shares of Prosperity
Common Stock to be delivered to the shareholders of Paradigm pursuant to this
Agreement shall have been authorized for listing on Nasdaq.
XIII. MISCELLANEOUS
Section 13.1 Definitions. Except as otherwise provided herein, the
capitalized term set forth below shall have the following meanings:
(a) "Affiliate" means any natural person, corporation, general
partnership, limited partnership proprietorship, other business organization,
trust, union, association or governmental authority that directly, or indirectly
through one or more intermediaries, controls or is controlled by or is under
common control with the person specified
(b) "Material Adverse Effect," with respect to any party shall
mean an event, change, or occurrence which, individually or together with any
other event, change or occurrence, has or is reasonably likely to have a
material adverse impact on (i) the financial position, business or results of
operations or financial performance of such party and their respective
Subsidiaries, taken as a whole, or (ii) the ability of such party to perform its
obligations under this Agreement or to consummate the Merger and the other
transactions contemplated by this Agreement.
(c) "Subsidiary" shall mean, in the case of either Prosperity or
Paradigm, any corporation, association or other entity in which it owns or
controls, directly or indirectly, 25% or more of the outstanding voting
securities or 25% or more of the total equity interest; provided, however, that
the term shall not include any such entity in which such voting securities or
equity interest is owned or controlled in a fiduciary capacity, without sole
voting power, or was acquired in securing or collecting a debt previously
contracted in good faith.
Section 13.2 Non-Survival of Representations and Warranties. The
representations, warranties, covenants and agreements of Prosperity and Paradigm
contained in this Agreement shall terminate at the Closing, other than covenants
that by their terms are to be performed after the Effective Time (including,
Sections 2.2(d), 6.2, 6.5, 6.6 and 6.8), which shall survive the Closing.
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Section 13.3 Amendments. To the extent permitted by applicable law, this
Agreement may be amended only by a writing signed by Prosperity and Paradigm at
any time prior to the Closing Date with respect to any of the terms contained
herein; provided, however, that the Merger Consideration to be received by the
shareholders of Paradigm pursuant to this Agreement shall not be decreased
subsequent to the approval of the transactions contemplated by the Agreement
without the further approval by such shareholders.
Section 13.4 Expenses. Whether or not the transactions provided for herein
are consummated, each party to this Agreement will pay its respective expenses
incurred in connection with the preparation and performance of its obligations
under this Agreement. Similarly, each party agrees to indemnify the other
parties against any cost, expense or liability (including reasonable attorneys'
fees) in respect of any claim made by any party for a broker's or finder's fee
in connection with this transaction other than one based on communications
between the party and the claimant seeking indemnification.
Section 13.5 Notices. Except as explicitly provided herein, any notice or
communication given hereunder shall be in writing and shall be delivered in
person or mailed by certified or first class mail, postage prepaid or sent by
courier or by facsimile to the persons at the addresses set forth below (or at
other address as may be provided hereunder):
If to Prosperity:
Prosperity Bancshares, Inc.
4295 San Felipe
Houston, Texas 77027
Facsimile: (713) 693-9309
Attention: Mr. David Zalman
With a copy to:
Bracewell & Patterson, L.L.P.
711 Louisiana Street, Suite 2900
Houston, Texas 77002-2781
Facsimile: (713) 221-1212
Attention: Mr. William T. Luedke IV
If to Paradigm:
Paradigm Bancorporation, Inc.
3934 F.M. 1960 West, Suite 330
Houston, Texas 77068
Facsimile:
Attention: Mr. Peter E. Fisher
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With a copy to:
Winstead, Sechrest & Minick, P.C.
2400 Bank One Center
910 Travis
Houston, Texas 77002
Facsimile: (713) 650-2400
Attention: Mr. James Doyle
All notices sent by mail as provided above shall be deemed delivered three (3)
days after deposit in the mail. All notices sent by courier as provided above
shall be deemed delivered one day after being sent and all notices sent by
facsimile shall be deemed delivered upon confirmation of receipt. All other
notices, including notices of changes of address, shall be deemed delivered when
actually received. Any party to this Agreement may change its address for the
giving of notice specified above by giving notice as herein provided.
Section 13.6 Governing Law. All questions concerning the validity,
operation and interpretation of this Agreement and the performance of the
obligations imposed upon the parties hereunder shall be governed by the laws of
the State of Texas, without taking into account provisions regarding choice of
law.
Section 13.7 Headings. The headings and titles to the sections of this
Agreement are inserted for convenience only and shall not be deemed a part
hereof or affect the construction or interpretation of any provision hereof.
Section 13.8 Modifications or Waiver. No termination, cancellation,
modification, amendment, deletion, addition or other change in this Agreement,
or any provision hereof, or waiver of any right or remedy herein provided, shall
be effective for any purpose unless specifically set forth in a writing signed
by the party or parties to be bound thereby. The waiver of any right or remedy
in respect to any occurrence or event on one occasion shall not be deemed a
waiver of such right or remedy in respect to such occurrence or event on any
other occasion.
Section 13.9 Severability. If any term or other provision of this
Agreement is prohibited by or unlawful or unenforceable under any applicable law
or any jurisdiction, such term or provision shall as to such jurisdiction be
ineffective, without affecting any other provision of this Agreement, or shall
be deemed to be severed or modified to conform with such law, and the remaining
provisions of this Agreement shall remain in force, provided that the purpose of
the Agreement can be effected. To the fullest extent, however, that the
provisions of such applicable law may be waived, they are hereby waived, to the
end that this Agreement be deemed to be a valid and binding agreement
enforceable in accordance with its terms.
Section 13.10 Assignment. This Agreement shall be binding upon and inure to
the benefit of the parties hereto and their respective successors and assigns,
but shall not be assigned by any party hereto without the prior written consent
of the other parties.
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Section 13.11 Entire Agreement. All understandings and agreements
heretofore made between the parties hereto are merged in this Agreement which
(together with any agreements executed by the parties hereto contemporaneously
with or subsequent to the execution of this Agreement) shall be the sole
expression of the agreement of the parties respecting the Merger.
Section 13.12 Counterparts. This Agreement may be executed in multiple
counterparts, each of which shall be deemed an original and all of which shall
be deemed to constitute one and the same instrument.
Section 13.13 Binding on Successors. Except as otherwise provided herein,
this Agreement shall be binding upon, and shall inure to the benefit of, the
parties and their respective heirs, executors, trustees, administrators,
guardians, successors and assigns.
Section 13.14 Gender. Any pronoun used herein shall refer to any gender,
either masculine, feminine or neuter, as the context requires.
Section 13.15 Disclosures. Any disclosure made in any document delivered
pursuant to this Agreement or referred to or described in writing in any section
of this Agreement or any schedule attached hereto shall be deemed to be
disclosure for purposes of any section herein or schedule hereto.
Section 13.16 Delivery of Disclosure Schedules. In order to provide for the
prompt execution of this Agreement, the parties hereto agree that with respect
to the schedules to this Agreement:
(a) Full and complete originals of all of the schedules to this
Agreement described in this Agreement shall be delivered to Prosperity pursuant
to Section 13.5 as soon as possible following execution of this Agreement, but
in no event later than ten (10) business days following the date of this
Agreement.
(b) Prosperity will have five (5) business days after receipt of
the schedules to this Agreement to review such schedules to determine whether
they are in form and substance satisfactory to Prosperity in its sole
discretion. No later than five (5) business days following the date of
Prosperity's receipt of the schedules, Prosperity shall notify the Paradigm
whether (i) Prosperity accepts the schedules and this Agreement remains in full
force and effect, (ii) Prosperity objects to certain disclosures contained in
the schedules or (iii) Prosperity objects to the schedules. Prosperity shall
have the unconditional right to terminate this Agreement and all of its
obligations hereunder by providing Paradigm notice of such termination in
accordance with the terms of Section 13.5 of the Agreement no later than 6:00
p.m., Houston, Texas time on the fifth business day after receipt of the
schedules to this Agreement. If Prosperity objects to any disclosure contained
in the schedules, the Paradigm shall, within one business day of its receipt of
such objection, notify Prosperity as to whether Paradigm will remedy such
matter. If Paradigm notifies Prosperity that Paradigm is unwilling to delete or
modify such disclosure item, Prosperity shall have one additional business day
after receipt of such notification to either terminate this Agreement or accept
such disclosure.
[SIGNATURE PAGE FOLLOWS]
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IN WITNESS WHEREOF, the parties have caused this Agreement to be executed
and delivered as of the date first above written.
PROSPERITY BANCSHARES, INC.
ATTEST: By:/s/ David Zalman
----------------------------------
By:/s/ H. E. Timanus, Jr. Name: David Zalman
------------------------------- Title: President and Chief Executive
Officer
PARADIGM BANCORPORATION, INC.
ATTEST: By:/s/ Peter E. Fisher
----------------------------------
By:/s/ Jay W. Porter, Jr. Name: Peter E. Fisher
------------------------------- Title: President and Chief Executive
Officer
[Signature Page to Agreement and Plan of Reorganization]
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Appendix B
----------
HOLDBACK
ESCROW AGREEMENT
THIS HOLDBACK ESCROW AGREEMENT dated as of ________________, 2002 (the
"Escrow Agreement") is entered into by and among Prosperity Bancshares, Inc.
("Prosperity"), Paradigm Bancorporation, Inc. ("Paradigm") and Prosperity Bank,
the Trust Department of which will serve as the escrow agent (the "Escrow
Agent").
Walter G. Finger joins in the execution hereof to evidence his
agreement to serve as the initial representative for the shareholders of
Paradigm listed on Schedule 1 and any person to which rights to the Holdback
Shares have been properly assigned under Section 4, (each a "Beneficial Owner"
and collectively the "Beneficial Owners"). Walter G. Finger or any successor
appointed as the Shareholder Representative for the Beneficial Owners pursuant
to the terms hereof is herein referred to as the "Shareholder Representative."
W I T N E S S E T H:
- - - - - - - - - -
WHEREAS, Prosperity and Paradigm entered into that certain Agreement
and Plan of Reorganization dated as of May 1, 2002 (the "Merger Agreement"),
pursuant to which Paradigm will be merged with and into Prosperity (the
"Merger") and the holders of the common stock of Paradigm, par value $1.00 per
share (the "Paradigm Common Stock"), shall receive consideration in the form of
shares of common stock of Prosperity, par value $1.00 per share ("Prosperity
Common Stock") and cash in lieu of fractional shares, in accordance with such
Merger Agreement (the "Merger Consideration");
WHEREAS, Section 2.2 of the Merger Agreement provides for the escrow of
a portion of the shares of Prosperity Common Stock (along with all shares of
Prosperity Common Stock received as a result of a stock split, stock dividends
or other similar transaction and any securities received in exchange for the
Prosperity Common Stock as a result of a merger, stock exchange, sale of
substantially all of the assets of Prosperity or other corporate reorganization)
(collectively, the "Holdback Shares") and cash to be distributed to Beneficial
Owners, and such Holdback Shares and cash shall be distributed either to
Prosperity, to the Beneficial Owners, or to both Prosperity and the Beneficial
Owners as more particularly described herein; and
WHEREAS, Prosperity, Paradigm and the Escrow Agent believe it is in
their respective best interests and the best interests of the shareholders of
Prosperity and Paradigm to enter into this Escrow Agreement;
NOW, THEREFORE, in consideration of the premises and covenants
contained herein and in the Merger Agreement, and other good and valuable
consideration, the receipt and sufficiency of which are hereby acknowledged, the
parties, intending to be legally bound, hereby agree as follows:
1. Definitions. Except as herein defined, capitalized terms used in
-----------
this Holdback Escrow Agreement have the meanings set forth in the Merger
Agreement.
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2. Appointment of Escrow Agent. Prosperity Bank is hereby appointed as
---------------------------
Escrow Agent under this Holdback Escrow Agreement to perform the services
described herein, and the Escrow Agent hereby accepts such appointment.
3. Loan Portfolio. Attached hereto as Schedule 2 is a list of certain
--------------
loans in Paradigm's loan portfolio as of the Closing Date (the "Scheduled
Loans"), setting forth the principal amount and outstanding balance as of the
date of the Merger Agreement. As of the date of the Merger Agreement, the
aggregate outstanding balance of the Scheduled Loans was $1,877,839 and the
aggregate value of the Holdback Shares, based on a price of $16.275 per share,
was $1,225,000 ("Holdback Share Value").
4. Holdback Shares Deposited into Escrow. Pursuant to the terms of the
-------------------------------------
Merger Agreement, Prosperity shall deposit or cause to be deposited 75,270
shares of Prosperity Common Stock, subject to adjustment as provided in Section
2.2(c) of the Merger Agreement, into an account maintained by the Escrow Agent
("Escrow Account") on the Closing Date. All Holdback Shares and all dividends
earned on the Holdback Shares, shall remain in the Escrow Account, subject only
to disbursement in accordance with Section 5 of this Escrow Agreement, and such
shares shall not be disbursed in any other manner.
At all times during which any Holdback Shares are held pursuant to this
Holdback Escrow Agreement, the Beneficial Owners shall be treated as the
beneficial owners of the Holdback Shares and as the beneficial owners of any
dividends thereon and any other proceeds thereof, in each case subject to the
rights of Prosperity under this Holdback Escrow Agreement to require that such
Holdback Shares and dividends thereon be distributed to Prosperity in payment of
Covered Losses (as herein defined) attributable to one or more Scheduled Loans.
The Beneficial Owners shall have no right to substitute other property for the
Holdback Shares. The Shareholder Representative shall be entitled to vote the
allocated Holdback Shares in any action requiring a vote of the shareholders of
Prosperity, until such time as such Holdback Shares are distributed to
Prosperity or to the Beneficial Owners as set out herein. The rights of the
Beneficial Owners hereunder, including any interest in or right to receive
Holdback Shares and dividends thereon held by any Beneficial Owner, are not
transferable or assignable by the Beneficial Owners other than by will or by the
laws of descent and distribution in the case of a natural person, or in the case
of a trust or entity, to any successor trustee or successor entity, including,
without limitation, the distribution to the beneficial owners in accordance with
the terms of the governing documents or under applicable law.
5. Investment of Escrowed Funds. Pending distribution of any cash held
----------------------------
in the Escrow Account, the Escrow Agent shall invest and reinvest all cash
balances in the Escrow Account. The cash balances shall be invested in the
discretion of the Escrow Agent, provided that the Escrow Agent shall invest such
cash balances in a money market account providing an annual percentage yield
comparable to money market mutual funds to the extent prudent and practicable.
The Escrow Agent in its discretion may hold any portion of the funds held in the
Escrow Account in cash pending investment without liability for interest,
provided that the Escrow Agent shall not hold any portion of the funds held in
the Escrow Account uninvested for any period of time greater than the time
reasonably required to settle the sale or liquidation of any investment and to
settle the subsequent purchase of an investment as required herein. The Escrow
Agent will use its best efforts to collect investments at maturity but assumes
no responsibility for failure to do so as a result of any factor beyond its
control and shall not be obligated to institute or participate in any legal
proceedings relative thereto. The Escrow Agent shall not be responsible for any
loss resulting from
B-2
any investment made in accordance with the provisions hereof or any loss
resulting from any such sale, absent the Escrow Agent's gross negligence or
willful misconduct. The Escrow Agent shall have no authority or obligation to
sell or liquidate any Holdback Shares held in the Escrow Account under any
circumstance.
6. Disbursement From Escrow. The Holdback Shares shall be disposed of
------------------------
as follows:
(a) Within ten (10) business days following the earlier of (i) the
third anniversary of the Closing Date or (ii) the date on which all Scheduled
Loans have been paid in full or upgraded as set forth below ("Holdback Payment
Date"), Prosperity shall deliver to the Escrow Agent and the Shareholder
Representative a written accounting (the "Notice") setting forth (i) any
Scheduled Loans (A) that have paid-off during such three-year period or (B) that
have been deemed by Prosperity's management, in its sole discretion, to no
longer be a Scheduled Loan based on the performance of the loan and the
financial stability of the borrower (collectively, "Satisfactory Loans");
provided, that renewed or restructured loans shall not be considered paid off
loans and (ii) the amount of any losses arising in the Scheduled Loans
(including all costs and expenses, including, without limitation, legal fees,
expenses, reasonable research time (as published by Prosperity) incurred in
investigating, attempting to collect or enforce the same) (the "Covered Losses")
incurred by Prosperity or its successor on or after the Closing Date.
(b) Fifteen (15) business days after receipt of the Notice, the
Escrow Agent shall distribute to the Beneficial Owners (i) the aggregate number
of the Holdback Shares equal to (A) the Holdback Share Value less (x) the
Covered Losses and (y) the outstanding balance of Scheduled Loans on the
Holdback Payment Date, divided by (B) $16.275, or, if adjusted pursuant to
Section 2.2(c) of the Merger Agreement, by $12.205, (ii) any dividends with
respect to the Holdback Shares and (iii) an accompanying pro rata portion of the
cash paid in lieu of fractional shares (collectively, the "Holdback
Distribution"). Immediately prior to distribution of the Holdback Shares,
Prosperity shall deposit with the Escrow Agent cash sufficient to pay any
fractional shares and upon payment therefor such fractional shares shall be
returned to Prosperity. After the Holdback Distribution to the Beneficial
Owners, all of Prosperity's and the Escrow Agent's liabilities and obligations
to the Beneficial Owners in connection with the Holdback Shares, any dividends
with respect thereto, and cash, shall terminate.
(c) Five (5) business days after the Holdback Distribution to the
Beneficial Owners, the Escrow Agent shall distribute the remaining Holdback
Shares and remaining dividends thereon and cash in the Escrow Account to
Prosperity. In the event of any return of Holdback Shares to Prosperity pursuant
to this Holdback Escrow Agreement, such Holdback Shares shall be deemed
repurchased by Prosperity as treasury stock as of the date of return of the
Holdback Shares. After all Holdback Shares have been distributed out `of the
Escrow Account, this Escrow Agreement shall terminate, whereupon all of the
Escrow Agent's liabilities and obligations in connection with the Holdback
Shares and cash shall terminate.
7. Dividends or Other Proceeds. Dividends or other distributions paid
---------------------------
to the Escrow Agent with respect to the Holdback Shares then being held by the
Escrow Agent shall be allocated, distributed and paid to the Beneficial Owners
at the same time and in the same proportion as distribution of the Holdback
Shares, if any, along with dividends on the fractional shares that are returned
to Prosperity. No dividends or other proceeds will be paid to Beneficial Owners
with respect to any Holdback Shares that are distributed to Prosperity other
than those that relate to fractional shares.
B-3
8. Changes to Capital Structure or Ownership. In the event that the
-----------------------------------------
Prosperity Common Stock is changed into any shares of any other class, or if
Prosperity's capital structure is otherwise modified in a manner that
reclassifies the Prosperity Common Stock, then the Escrow Agent shall be given
full power and authority to tender any Holdback Shares for exchange or
modification, and thereafter such securities as have been received in exchange
shall be held as Holdback Shares for purposes of this Section 8.
9. Distributions to Beneficial Owners. Subject to Section 5 hereof,
----------------------------------
the Holdback Shares shall be distributed to the Beneficial Owners as follows:
(a) Each Beneficial Owner will receive his or her pro rata share
(rounded to the nearest whole share) of any distribution made of the Holdback
Shares, and will receive an accompanying pro rata portion of the cash received
in lieu of any fractional share interest. Prosperity shall pay to each
Beneficial Owner otherwise entitled to receive such fractional share an amount
of cash determined by multiplying (i) the average closing price per share of
Prosperity Common Stock on The Nasdaq Stock Market, Inc. National Market System
("Nasdaq") (as reported by The Wall Street Journal or, if not reported thereby,
another alternative source as chosen by Prosperity) on the trading day
immediately prior to the day during which the Effective Time occurs by (ii) the
fraction of a share of Prosperity Common Stock which such holder would otherwise
be entitled to receive. For purposes of the first sentence in this paragraph,
each Beneficial Owner's pro rata share of the Holdback Shares shall be
determined by the number of Holdback Shares to be distributed multiplied by a
fraction the numerator of which is the number of shares of Paradigm Common Stock
held by that Beneficial Owner immediately prior to the Closing Date, and the
denominator of which is the total number of Paradigm shares outstanding on the
Closing Date (excluding for these purposes any shares attributable to
shareholders who have validly exercised their dissenters' rights). In the event
the Escrow Agent shall have any questions regarding the amount to be paid to any
Beneficial Owner, the Escrow Agent shall promptly refer such questions to the
Shareholder Representative for resolution. The Escrow Agent shall be entitled to
rely on the instructions and decisions of the Shareholder Representative with
respect to the amount to be paid to any Beneficial Owner, and the Escrow Agent
shall have no duty to determine or confirm the accuracy of any calculations or
other information provided to the Escrow Agent by the Shareholder
Representative.
(b) Each Beneficial Owner shall provide the Escrow Agent with all
information and shall execute all documents deemed necessary or advisable by the
Escrow Agent as to the Holdback Shares. The Escrow Agent shall not be obligated
to make distributions to a Beneficial Owner until all such information and
documentation has been supplied to the Escrow Agent.
(c) Each Beneficial Owner shall be responsible for complying with
Federal income tax laws as they relate to him or her.
10. Shareholder Representative.
--------------------------
(a) Walter G. Finger shall be the initial representative for the
Beneficial Owners and shall have and exercise the responsibility and authority
set forth in this Escrow Agreement and shall have such authority on behalf of
the Beneficial Owners, and shall promptly and completely exercise such authority
in a timely manner to:
B-4
(i) participate in, represent and bind the Beneficial Owners
in all respects with respect to any arbitration or legal proceeding relating to
this Escrow Agreement, including, without limitation, the defense and settlement
of any matter, and the calculation thereof for every purpose thereunder, consent
to jurisdiction, to enter into any settlement, and to entry of judgment, each
with respect to any or all of the Beneficial Owners; provided, however, the
Shareholder Representative shall have no authority under the Merger Agreement or
this Escrow Agreement to bind any Beneficial Owner to pay or return any money or
property other than the money and/or Holdback Shares that are then being held by
the Escrow Agent under this Escrow Agreement;
(ii) receive, comment on, accept and give notices and other
communications relating to this Escrow Agreement;
(iii) take any action that the Shareholder Representative deems
necessary or desirable in order to fully effectuate the transactions
contemplated by this Escrow Agreement;
(iv) vote the Holdback Shares in any action requiring a vote of
the shareholders of Prosperity until such Holdback Shares are distributed to
Prosperity or to the Beneficial Owners as set out herein; and
(v) execute and deliver any instrument or document that the
Shareholders Representative deems necessary or desirable in the exercise of his
authority under this Escrow Agreement.
(b) Those Beneficial Owners who have the right to receive a majority
of the Prosperity Common Stock that may be distributed to the Beneficial Owners
out of the Escrow (a "Majority in Interest"), may at any time and by written
action delivered to the Escrow Agent, remove the Shareholder Representative or
any successor thereto, but such removal shall be effective only upon the
replacement of such Shareholder Representative or successor by a new Shareholder
Representative designated, by written notice delivered to the Escrow Agent by
those Beneficial Owners who hold a Majority in Interest; provided, however, that
any such notice shall be only effective upon actual receipt by the Escrow Agent.
Any such written notice shall be delivered to the Escrow Agent in accordance
with the notice provisions set forth herein. If any Shareholder Representative
shall have died, become incapacitated or unable to serve or resigned, those
Beneficial Owners who, as of immediately prior to the Effective Date, hold a
Majority in Interest shall promptly designate by written notice delivered to the
Escrow Agent, a replacement Shareholder Representative.
(c) Any reasonable costs and expenses incurred by the Shareholder
Representative in connection with actions taken pursuant to or permitted by this
section will be borne, directly or indirectly, by the Beneficial Owners and paid
or reimbursed to the Shareholder Representative pro rata. If a Beneficial Owner
does not pay or reimburse such costs and expenses, the Shareholder
Representative may require that Holdback Shares or other property which would
otherwise be distributed to such Beneficial Owners pursuant to this Escrow
Agreement be distributed to the Shareholder Representative at any time in
connection with such reimbursement. Any such claims for reimbursement shall be
delivered to the Escrow Agent on or before the date of notice required pursuant
to Section 6(a) hereof.
(d) All parties hereto shall be entitled to rely on all actions and
communications of any such Shareholder Representative as being genuine and
binding on all of the Beneficial Owners.
B-5
(e) The Shareholder Representative shall have no liability to any
Beneficial Owner for any act or omission or obligation hereunder, provided that
such action or omission is taken by the Shareholder Representative in good faith
and without willful misconduct.
11. The Escrow Agent's Responsibilities.
(a) The Escrow Agent's Responsibilities. The Escrow Agent's sole
-----------------------------------
responsibilities with respect to the Holdback Shares and cash shall be for the
receipt and holding of the Holdback Shares in the Escrow Account, and the
disbursement thereof in accordance with this Escrow Agreement. The Escrow Agent
shall have no other responsibility or obligation of any kind, and shall not be
required to take any other action with reference to any matters that might
arise, in connection with the Holdback Shares and cash in the Escrow Account,
any dividends with respect thereto, or this Escrow Agreement. The Escrow Agent
may in accordance with this Escrow Agreement act upon (and shall be fully
protected in acting upon) any written instruction or other instrument that the
Escrow Agent in good faith believes to be genuine and what it purports to be.
The Escrow Agent shall not be liable to any person for anything that the Escrow
Agent may do or refrain from doing in accordance with this Escrow Agreement,
unless such action or inaction results from the Escrow Agent's gross negligence
or willful misconduct.
The Escrow Agent has no duty to determine or inquire into any
happening or occurrence or any performance or failure of performance of the
Shareholder Representative with respect to agreements or arrangements with any
other party. The Escrow Agent shall not be required to determine the validity or
sufficiency, whether in form or in substance, of any instrument, document,
certificate, statement or notice referred to in this Escrow Agreement or
contemplated hereby, and it shall be sufficient if any writing purporting to be
such instrument, document, certificate, statement or notice is delivered to the
Escrow Agent and purports on its face to be correct in form and signed or
otherwise executed by the party or parties required to sign or execute the same
under this Escrow Agreement.
The duties and responsibilities of the Escrow Agent hereunder
shall be determined solely by the express provisions of this Escrow Agreement
and no other or further duties or responsibilities shall be implied, including,
but not limited to, any obligation under or imposed by any laws of the State of
Texas upon fiduciaries.
No shares of Prosperity Common Stock or monies with respect
thereto shall be disbursed by the Escrow Agent until it has collected such
shares and funds. The Escrow Agent shall act as a depository only, and the
Escrow Agent is not a party to, and is not bound by or charged with notice of,
any agreement out of which this escrow may arise, other than this Escrow
Agreement.
(b) Possible Disagreements. If any disagreement should arise
----------------------
among any of the parties hereto or any other party (and the Escrow Agent is
notified in writing of such disagreement) with respect to the Holdback Shares or
cash held in the Escrow Account, any dividends with respect thereto, or this
Escrow Agreement, or if the Escrow Agent in good faith is in doubt as to what
action should be taken hereunder, the Escrow Agent shall have the absolute right
(but not the obligation) as its election to do either or both of the following:
B-6
(i) withhold or stop all further performance under this
Escrow Agreement and all notices or instructions received in connection
herewith until the Escrow Agent is satisfied that such disagreement or
such doubt has been resolved; or
(ii) file a suit in interpleader and obtain an order from a
court of appropriate jurisdiction requiring all persons involved to
litigate in such court, at their own expense, their respective claims
arising out of or in connection with the Holdback Shares and cash held
in the Escrow Account and any dividends with respect thereto (the right
of the Escrow Agent to institute such bill of interpleader, however,
shall not be deemed to modify the manner in which the Escrow Agent is
entitled to make disbursements of the Holdback Shares and cash held in
the Escrow Account and any dividends with respect thereto as herein
above set forth, other than to tender the Holdback Shares into a
registry of such court).
12. Reimbursement of Expenses. The Escrow Agent will be reimbursed by
-------------------------
Prosperity for the costs and expenses incurred by the Escrow Agent in connection
with the operation, administration and enforcement of this Escrow Agreement;
provided, however, that the Escrow Agent shall not have any right to
reimbursement for any such costs or expenses incurred as a result of the Escrow
Agent's acting outside the scope of its responsibilities and duties hereunder or
as a result of the Escrow Agent's gross negligence or willful misconduct.
13. Hold Harmless. The Shareholder Representative, on behalf of all of
-------------
the Beneficial Owners, hereby releases, acquits and discharges the Escrow Agent
and agrees to hold the Escrow Agent and its officers, directors, employees,
agents and attorneys (collectively, the "Indemnitee") harmless from any and all
losses, costs, damages, expenses, claims and attorneys' fees suffered or
incurred by the Shareholder Representative or the Beneficial Owners as a result
of, in connection with or arising from or out of the acts or omissions of an
Indemnitee in performance of or pursuant to this Escrow Agreement, except such
acts or omissions as may result from such Indemnitee's willful misconduct or
gross negligence. All protections and indemnities benefiting the Escrow Agent
(and any other Indemnitee) are cumulative of any other rights it (or they) may
have by law or otherwise, and shall survive the termination of the Escrow
Agreement.
14. Miscellaneous.
(a) Notices. Any and all notices, requests, instructions and
-------
other communications required or permitted to be given under this Escrow
Agreement after the date hereof by any party hereto to any other party may be
delivered personally or by nationally recognized overnight courier service or
sent by mail or by facsimile transmission, at the respective addresses or
transmission numbers set forth below and shall be effective (i) in the case of
personal delivery or facsimile transmission, when received; (ii) in the case of
mail, upon the earlier of actual receipt or three (3) business days after
deposit in the United States Postal Service, first class certified or registered
mail, postage prepaid, return receipt requested; and (iii) in the case of
nationally-recognized overnight courier service, one (1) business day after
delivery to such courier service together with all appropriate fees or charges
and instructions for such overnight delivery. The parties may change their
respective addresses and transmission numbers by written notice to all other
parties, sent as provided in this Section 12(a). All communications must be in
writing and addressed as follows:
B-7
If to Prosperity:
Prosperity Bancshares, Inc.
4295 San Felipe
Houston, Texas 77027
Fax No.: (713) 693-9309
Attention: Mr. David Zalman
With a copy to:
Bracewell & Patterson, L.L.P.
South Tower Pennzoil Place
711 Louisiana Street, Suite 2900
Houston, Texas 77002-2781
Fax No.: (713) 221-1212
Attention: Mr. William T. Luedke IV
If to Paradigm:
Paradigm Bancorporation, Inc.
3934 FM 1960 West, Suite 330
Houston, Texas 77068
Fax No.: (832) 249-7606
Attention: Mr. Peter E. Fisher
With a copy to:
Locke Liddell & Sapp LLP
JP Morgan Chase Tower
600 Travis Street, Suite 3400
Houston, Texas 77002
Fax No.: (713) 223-3717
Attention: Mr. Donald E. Wood
If to Beneficial Owners or the Shareholder
Representative:
Walter G. Finger
5858 Westheimer, Suite 800
Houston, Texas 77057
Fax No.: (713) 266-1873
B-8
If to Escrow Agent:
Prosperity Bank
4295 San Felipe
Houston, Texas 77027
Fax No.: (713) 693-9369
Attention: Mr. Kent Smith
(b) Binding Agreement. This Escrow Agreement shall be binding upon and
-----------------
inure to the benefit of the parties hereto and their respective successors,
personal representatives and assigns. Nothing in this Escrow Agreement is
intended or shall be construed to give any party, other than the parties hereto,
any legal or equitable rights, remedy or claim under or in respect of this
Escrow Agreement or any provision contained herein.
(c) Specific Performance. The parties to this Escrow Agreement hereby
--------------------
declare that it may be impossible to measure in money the damages that will
accrue to a party to this Escrow Agreement, his legal representatives,
successors or assigns by reason of a failure to perform any of the obligations
under this Escrow Agreement. Therefore, if a party hereto, his legal
representatives, successors or assigns shall institute any action or proceeding
to enforce the provisions of this Escrow Agreement, any person against whom such
action or proceeding is brought hereby agrees that specific performance may be
sought and obtained for any breach of this Escrow Agreement without the
necessity or providing actual damages.
(d) Attorney's Fees. If any action at law or in equity, including an
---------------
action for declaratory relief, is brought to enforce or interpret the provisions
of this Escrow Agreement, including an action to compel the other party to give
any notice that is reasonably required under the terms of this Section 13 of
this Escrow Agreement, the prevailing party shall be entitled to recover
reasonable attorney's fees from the other party, which fees may be set by the
court in the trial of such action or may be enforced in a separate action
brought for that purpose, and which fees shall be in addition to any other
relief that may be awarded.
(e) Assignment. This Escrow Agreement shall not be assigned by
----------
operation of law or otherwise. No portion of the Holdback Shares shall be
subject to interference or control by any creditor of the Shareholder
Representative or the Escrow Agent or be subject to being taken or reached by
any legal or equitable process in satisfaction of any debt or other liability of
any such party hereto prior to the disbursement thereof to such party hereto in
accordance with the provisions of this Escrow Agreement. This Escrow Agreement
and the Merger Agreement constitute the entire agreement among the parties and
there are no agreements, understandings, representations or warranties among the
parties on the subject matter hereof other than those set forth herein and
therein.
(f) Headings. The section headings contained herein are for the
--------
purposes of convenience only and are not intended to define or limit the
contents of said sections.
B-9
(g) Further Cooperation. Each party hereto shall cooperate, shall take
-------------------
such further action and shall execute and deliver such further documents as may
be reasonably requested by any other party in order to carry out the provisions
and purposes of this Escrow Agreement.
(h) Counterparts. This Escrow Agreement may be executed in one or more
------------
counterparts, all of which taken together shall be deemed one original.
(i) APPLICABLE LAW. THIS ESCROW AGREEMENT SHALL BE GOVERNED BY AND
--------------
CONSTRUED IN ACCORDANCE WITH THE LAWS OF THE STATE OF TEXAS APPLICABLE TO
CONTRACTS MADE AND TO BE PERFORMED THEREIN WITHOUT GIVING EFFECT TO THE
CONFLICTS OF LAWS PRINCIPLES, EXCEPT THAT THE PROVISIONS OF THE TEXAS TRUST
CODE, SECTION 111.001, ET SEQ. OF THE PROPERTY CODE, V.A.T.S. CONCERNING
-- ---
FIDUCIARY DUTIES AND LIABILITIES OF TRUSTEES SHALL NOT APPLY TO THIS ESCROW
AGREEMENT. THE PARTIES EXPRESSLY WAIVE SUCH DUTIES AND LIABILITIES, IT BEING
THEIR INTENT TO CREATE SOLELY AN AGENCY RELATIONSHIP AND HOLD THE ESCROW AGENT
LIABLE ONLY IN THE EVENT OF ITS GROSS NEGLIGENCE OR WILLFUL MISCONDUCT.
(j) Amendment. This Escrow Agreement may be amended only by a written
---------
instrument executed by Paradigm, the Escrow Agent and the Shareholder
Representative; provided, however, that no amendment that reduces the amount
that any Beneficial Owner will receive under this Agreement shall be effective
without such Beneficial Owners' consent, unless it effects all of the Beneficial
Owners proportionately.
[Signature Page Follows]
B-10
IN WITNESS WHEREOF, the parties have duly caused this Escrow Agreement
to be executed as of the date first written.
PROSPERITY BANCSHARES, INC.
By:_______________________________________________
David Zalman
President and Chief Executive Officer
PARADIGM BANCORPORATION, INC.
By:_______________________________________________
Peter E. Fisher
President and Chief Executive Officer
"ESCROW AGENT"
PROSPERITY BANK
By:_______________________________________________
Kent Smith
Senior Vice President and Trust Officer
"SHAREHOLDER REPRESENTATIVE"
__________________________________________________
Walter G. Finger, Shareholder Representative
[Signature Page to Holdback Escrow Agreement]
B-11
Schedule 1
Shareholder Information
B-12
Schedule 2
Scheduled Loans
B-13
[Letterhead of Hoefer & Arnett, Incorporated]
Appendix C
----------
July 22, 2002
Members of the Board of Directors
Paradigm Bancorporation, Inc.
3934 F.M. 1960, Suite 330
Houston, Texas 77068
Members of the Board:
You have requested our opinion as investment bankers as to the fairness, from a
financial point of view, to the shareholders of Paradigm Bancorporation, Inc.,
Houston, Texas ("Paradigm") of the consideration to be paid in connection with
the proposed merger of Paradigm with and into Prosperity Bancshares, Inc.,
Houston, Texas ("Prosperity") in accordance with the terms and conditions of the
Agreement and Plan of Reorganization, dated as of May 1, 2002, (the
"Agreement"). Pursuant to the Agreement and subject to the terms and conditions
therein, each share of Paradigm common stock outstanding prior to the effective
time of the merger will be converted into and exchanged for the right to
receive, for each share of Paradigm common stock they own, up to 1.08568 shares
of Prosperity common stock unless the exchange ratio is adjusted upward under
certain conditions. Of this amount, Paradigm shareholders will be entitled to
receive a minimum of 1.05489 shares of Prosperity common stock upon completion
of the merger and an additional 0.03169 shares of Prosperity common stock will
be deposited in a holdback escrow for possible future distributions to Paradigm
shareholders as provided in the Agreement. Subject to any adjustment, (1) an
aggregate of 2,505,379 shares of Prosperity common stock, less any shares that
would otherwise be distributed to shareholders who exercise dissenters' rights,
will be distributed to shareholders of Paradigm upon completion of the merger
and (2) an aggregate of up to 75,270 shares of Prosperity common stock, less any
shares that would otherwise be distributed to shareholders who exercise their
dissenters' rights, will be distributed in the holdback escrow for possible
future issuance as set forth in the Agreement.
Based on 2,375,020 common shares outstanding at Paradigm, the issuance of
2,505,379 shares of Prosperity common stock and a market price of $17.69 per
share for Prosperity common stock at July 18, 2002, the transaction value equals
$44,320,154. On a per share basis, each Paradigm shareholder will be entitled to
receive 1.05489 shares of Prosperity common stock at closing, or a transaction
value equivalent to $18.66 per share. We have assumed that none of the 75,270
holdback shares will be distributed to Paradigm shareholders. A transaction
value of $44,320,154 or $18.66 per share represents a price to stated book value
at March 31, 2002 of 2.41x, a price to tangible book value at March 31, 2002 of
2.94x, a price to 2001 earnings multiple of 39.70x and a price to estimated 2002
earnings multiple of 22.48x.
As part of its investment banking business, Hoefer & Arnett, Incorporated is
regularly engaged in the valuation of bank, bank holding company and thrift
securities in connection with mergers, acquisitions, underwritings, sales and
distributions of listed and unlisted securities, private placements and
valuations for estate, corporate and other purposes.
Hoefer & Arnett, is familiar with Paradigm, having provided certain financial
advice from time to time, including having provided financial advisory services
to Paradigm in September 1999 in connection with the acquisition of Dayton State
Bank and in connection with the terms of a common stock and trust preferred
securities offering. Paradigm paid Hoefer & Arnett $48,000 for such services. In
February of 2001, Hoefer and Arnett acted as Paradigm's co-underwriter in the
offering of $6,000,000 trust preferred securities. In connection with this
underwriting, Paradigm allowed Hoefer & Arnett a selling commission of $96,824.
In November of 1998, Hoefer & Arnett acted as Prosperity's co-underwriter in the
offering of $20,601,396 of common stock. In connection with this underwriting,
Prosperity allowed Hoefer & Arnett a selling commission of $394,792. Hoefer &
Arnett Incorporated provides a full range of financial advisory and securities
services and, in the course of its normal trading activities, may effect
transactions and hold securities of Prosperity for its own account and for the
accounts of customers.
In connection with this assignment, we have reviewed and analyzed, among other
things, the following: (i) the Agreement and Plan of Reorganization dated May 1,
2002; (ii) Annual Report on Form 10-KSB to shareholders of Paradigm for the year
ended December 31, 2001; Quarterly reports on Form Y-9C for the quarters ended
March, 31, 2002, December 31, 2001, September 30, 2001, June 30, 2001, March 31,
2001 and December 31, 2000; and internal financial statements as of June 30,
2002; (iii) Annual Reports to Shareholders and Annual Reports on Form 10-K of
Prosperity for December 31, 2001, December 31, 2000 and December 31, 1999;
Quarterly Reports on Form 10-Q of Prosperity for the quarters ended March 31,
2002, September 30, 2001, June 30, 2001 and March 31, 2001; and the press
release announcing June 30, 2002 financial results of Prosperity; (iv) certain
other publicly available financial and other information concerning Paradigm and
Prosperity; (v) publicly reported historical prices and trading activity for
Prosperity common stock; and (vi) the nature and terms of certain other merger
and acquisition transactions we believe relevant to our inquiry. We have held
discussions with senior management of Paradigm and Prosperity concerning their
past and current operations, financial condition and prospects, as well as the
results of regulatory examinations. We have conducted such other financial
studies, analyses and investigations, as we deemed appropriate for purposes of
this opinion.
In conducting our review, we have relied upon and assumed the accuracy and
completeness of the financial and other information provided to us or publicly
available, and we have not assumed any responsibility for independent
verification of the same. We have relied upon the management of Paradigm as to
the reasonableness of the financial and operating forecasts, projections (and
the assumptions and bases therefor) provided to us, and we have assumed that
such forecasts and projections reflect the best currently available estimates
and judgments of the management of Paradigm. Hoefer & Arnett relied on First
Call consensus earnings per share estimates for Prosperity for the years 2002
and 2003. We have also assumed, without assuming any responsibility for the
independent verification of same, that the aggregate allowance for loan losses
for Paradigm and Prosperity is adequate to cover such losses. We have not made
or obtained any evaluations or appraisals of the property of Paradigm or
Prosperity, nor have we examined any individual loan credit files. Our opinion
as expressed herein is limited to the fairness, from a financial point of view,
to the holders of the common shares of Paradigm of the terms of the proposed
merger of Paradigm with and into Prosperity and does not address Paradigm's
underlying business decision to proceed with the transaction.
We have considered such financial and other factors as we have deemed
appropriate under the circumstances, including among others the following: (i)
the historical and current financial position and results of operations of
Paradigm and Prosperity, including interest income, interest expense, net
interest income, net interest margin, provision for loan losses, non-interest
income, non-interest expense, earnings, dividends, internal capital generation,
book value, intangible assets, return on assets, return on shareholders' equity,
capitalization, the amount and type of non-performing assets, loan losses and
the reserve for loan losses, all as set forth in the financial statements for
Paradigm and Prosperity; (ii) the assets and liabilities of Paradigm and
Prosperity, including the loan, investment and mortgage portfolios, deposits,
other liabilities, historical and current liability sources and costs and
liquidity; and (iii) the nature and terms of certain other merger and
acquisition transactions involving banks and bank holding companies. We have
also taken into account our assessment of general economic, market and financial
conditions and our experience in other transactions, as well as our experience
in securities valuation and our knowledge of the banking industry generally. Our
opinion is necessarily based upon conditions as they exist and can be evaluated
on the date hereof and the information made available to us through the date
hereof.
Based upon and subject to the foregoing, we are of the opinion as investment
bankers that, as of the date hereof, the terms of the proposed merger of
Paradigm with and into Prosperity are fair, from a financial point of view, to
the holders of shares of Paradigm common stock.
Our opinion is directed to the Board of Directors of Paradigm for its
information and assistance in connection with its consideration of the financial
terms of the transaction
contemplated by the Agreement and does not constitute a recommendation to any
shareholder of Paradigm as to how such shareholder should vote on the proposed
transaction. We hereby consent to the reference to our firm in the proxy
statement related to the transaction and to the inclusion of our opinion as an
exhibit to the proxy statement related to the transaction.
Respectfully Submitted,
/s/ Hoefer & Arnett, Incorporated
Hoefer & Arnett, Incorporated
Appendix D
PROVISIONS OF THE TEXAS BUSINESS CORPORATION ACT
RELATING TO RIGHTS OF
DISSENTING SHAREHOLDERS
(Articles 5.11 - 5.13)
Article 5.11. Rights of Dissenting Shareholders in the Event of Certain
Corporate Actions
A. Any shareholder of a domestic corporation shall have the right to
dissent from any of the following corporate actions:
(1) Any plan of merger to which the corporation is a party if
shareholder approval is required by Article 5.03 or 5.16 of this Act and the
shareholder holds shares of a class or series that was entitled to vote thereon
as a class or otherwise;
(2) Any sale, lease, exchange or other disposition (not including
any pledge, mortgage, deed of trust or trust indenture unless otherwise provided
in the articles of incorporation) of all, or substantially all, the property and
assets, with or without goodwill, of a corporation requiring the special
authorization of the shareholders as provided by this Act;
(3) Any plan of exchange pursuant to Article 5.02 of this Act in
which the shares of the corporation of the class or series held by the
shareholder are to be acquired.
B. Notwithstanding the provisions of Section A of this Article, a
shareholder shall not have the right to dissent from any plan of merger in which
there is a single surviving or new domestic or foreign corporation, or from any
plan of exchange, if:
(1) the shares held by the shareholder are part of a class or series,
shares of which are on the record date fixed to determine the shareholders
entitled to vote on the plan of merger or plan of exchange:
(a) listed on a national securities exchange;
(b) listed on the Nasdaq Stock Market (or successor quotation
system) or designated as a national market security on an interdealer quotation
system by the National Association of Securities Dealers, Inc., or successor
entity; or
(c) held of record by not less than 2,000 holders;
(2) the shareholder is not required by the terms of the plan of
merger or plan of exchange to accept for the shareholder's shares any
consideration that is different than the consideration (other than cash in lieu
of fractional shares that the shareholder would otherwise be entitled to
receive) to be provided to any other holder of shares of the same class or
series of shares held by such shareholder; and
(3) the shareholder is not required by the terms of the plan of
merger or the plan of exchange to accept for the shareholder's shares any
consideration other than:
(a) shares of a domestic or foreign corporation that,
immediately after the effective time of the merger or exchange, will be part of
a class or series, shares of which are:
(i) listed, or authorized for listing upon official
notice of issuance, on a national securities exchange;
(ii) approved for quotation as a national market security
on an interdealer quotation system by the National Association of Securities
Dealers, Inc., or successor entity; or
(iii) held of record by not less than 2,000 holders;
(b) cash in lieu of fractional shares otherwise entitled to be
received; or
(c) any combination of the securities and cash described in
Subdivisions (a) and (b) of this subsection.
Article 5.12. Procedure for Dissent by Shareholders as to Said Corporate
Actions
A. Any shareholder of any domestic corporation who has the right to
dissent from any of the corporate actions referred to in Article 5.11 of this
Act may exercise that right to dissent only by complying with the following
procedures:
(1)(a) With respect to proposed corporate action that is submitted to
a vote of shareholders at a meeting, the shareholder shall file with the
corporation, prior to the meeting, a written objection to the action, setting
out that the shareholder's right to dissent will be exercised if the action is
effective and giving the shareholder's address, to which notice thereof shall be
delivered or mailed in that event. If the action is effected and the shareholder
shall not have voted in favor of the action, the corporation, in the case of
action other than a merger, or the surviving or new corporation (foreign or
domestic) or other entity that is liable to discharge the shareholder's right of
dissent, in the case of a merger, shall, within ten (10) days after the action
is effected, deliver or mail to the shareholder written notice that the action
has been effected, and the shareholder may, within ten (10) days from the
delivery or mailing of the notice, make written demand on the existing,
surviving, or new corporation (foreign or domestic) or other entity, as the case
may be, for payment of the fair value of the shareholder's shares. The fair
value of the shares shall be the value thereof as of the day immediately
preceding the meeting, excluding any appreciation or depreciation in
anticipation of the proposed action. The demand shall state the number and class
of the shares owned by the shareholder and the fair value of the shares as
estimated by the shareholder. Any shareholder failing to make demand within the
ten (10) day period shall be bound by the action.
(b) With respect to proposed corporate action that is approved
pursuant to Section A of Article 9.10 of this Act, the corporation, in the case
of action other than a merger, and the surviving or new corporation (foreign or
domestic) or other entity that is liable to discharge the shareholder's right of
dissent, in the case of a merger, shall, within ten (10) days after the date the
action is effected, mail to each shareholder of record as of the effective date
of the action notice of the fact and date of the action and that the shareholder
may exercise the
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shareholder's right to dissent from the action. The notice shall be accompanied
by a copy of this Article and any articles or documents filed by the corporation
with the Secretary of State to effect the action. If the shareholder shall not
have consented to the taking of the action, the shareholder may, within twenty
(20) days after the mailing of the notice, make written demand on the existing,
surviving, or new corporation (foreign or domestic) or other entity, as the case
may be, for payment of the fair value of the shareholder's shares. The fair
value of the shares shall be the value thereof as of the date the written
consent authorizing the action was delivered to the corporation pursuant to
Section A of Article 9.10 of this Act, excluding any appreciation or
depreciation in anticipation of the action. The demand shall state the number
and class of shares owned by the dissenting shareholder and the fair value of
the shares as estimated by the shareholder. Any shareholder failing to make
demand within the twenty (20) day period shall be bound by the action.
(2) Within twenty (20) days after receipt by the existing, surviving,
or new corporation (foreign or domestic) or other entity, as the case may be, of
a demand for payment made by a dissenting shareholder in accordance with
Subsection (1) of this Section, the corporation (foreign or domestic) or other
entity shall deliver or mail to the shareholder a written notice that shall
either set out that the corporation (foreign or domestic) or other entity
accepts the amount claimed in the demand and agrees to pay that amount within
ninety (90) days after the date on which the action was effected, and, in the
case of shares represented by certificates, upon the surrender of the
certificates duly endorsed, or shall contain an estimate by the corporation
(foreign or domestic) or other entity of the fair value of the shares, together
with an offer to pay the amount of that estimate within ninety (90) days after
the date on which the action was effected, upon receipt of notice within sixty
(60) days after that date from the shareholder that the shareholder agrees to
accept that amount and, in the case of shares represented by certificates, upon
the surrender of the certificates duly endorsed.
(3) If, within sixty (60) days after the date on which the corporate
action was effected, the value of the shares is agreed upon between the
shareholder and the existing, surviving, or new corporation (foreign or
domestic) or other entity, as the case may be, payment for the shares shall be
made within ninety (90) days after the date on which the action was effected,
and in the case of shares represented by certificates, upon surrender of the
certificates duly endorsed. Upon payment of the agreed value, the shareholder
shall cease to have any interest in the shares or in the corporation.
B. If, within the period of sixty (60) days after the date on which
the corporate action was effected, the shareholder and the existing, surviving,
or new corporation (foreign or domestic) or other entity, as the case may be, do
not so agree, then the shareholder or the corporation (foreign or domestic) or
other entity may, within sixty (60) days after the expiration of the sixty (60)
day period, file a petition in any court of competent jurisdiction in the county
in which the principal office of the domestic corporation is located, asking for
a finding and determination of the fair value of the shareholder's shares. Upon
the filing of any such petition by the shareholder, service or a copy thereof
shall be made upon the corporation (foreign or domestic) or other entity, which
shall, within ten (10) days after service, file in the office of the clerk of
the court in which the petition was filed a list containing the names and
addresses of all shareholders of the domestic corporation who have demanded
payment for their shares and with whom agreements as to the value of their
shares have not been reached by the corporation
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(foreign or domestic) or other entity. If the petition shall be filed by the
corporation (foreign or domestic) or other entity, the petition shall be
accompanied by such a list. The clerk of the court shall give notice of the time
and place fixed for the hearing of the petition by registered mail to the
corporation (foreign or domestic) or other entity and to the shareholders named
on the list at the addresses therein stated. The forms of the notices by mail
shall be approved by the court. All shareholders thus notified and the
corporation (foreign or domestic) or other entity shall thereafter be bound by
the final judgment of the court.
C. After the hearing of the petition, the court shall determine the
shareholders who have complied with the provisions of this Article and have
become entitled to the valuation of and payment for their shares, and shall
appoint one or more qualified appraisers to determine that value. The appraisers
shall have power to examine any of the books and records of the corporation the
shares of which they are charged with the duty of valuing, and they shall make a
determination of the fair value of the shares upon such investigation as to them
may seem proper. The appraisers shall also afford a reasonable opportunity to
the parties interested to submit to them pertinent evidence as to the value of
the shares. The appraisers shall also have such power and authority as may be
conferred on Masters in Chancery by the Rules of Civil Procedure or by the order
of their appointment.
D. The appraisers shall determine the fair value of the shares of the
shareholders adjudged by the court to be entitled to payment for their shares
and shall file their report of their value in the office of the clerk of the
court. Notice of the filing of the report shall be given by the clerk to the
parties in interest. The report shall be subject to exceptions to be heard
before the court both upon the law and the facts. The court shall by its
judgment determine the fair value of the shares of the shareholders entitled to
payment for their shares and shall direct the payment of that value by the
existing, surviving, or new corporation (foreign or domestic) or other entity,
together with interest thereon, beginning 91 days after the date on which the
applicable corporate action from which the shareholder elected to dissent was
affected to the date of such judgment, to the shareholders entitled to payment.
The judgment shall be payable to the holders of uncertificated shares
immediately but to the holders of shares represented by certificates only upon,
and simultaneously with, the surrender to the existing, surviving, or new
corporation (foreign or domestic) or other entity, as the case may be, of duly
endorsed certificates for those shares. Upon payment of the judgment, the
dissenting shareholders shall cease to have any interest in those shares or in
the corporation. The court shall allow the appraisers a reasonable fee as court
costs, and all court costs shall be allotted between the parties in the manner
that the court determines to be fair and equitable.
E. Shares acquired by the existing, surviving, or new corporation
(foreign or domestic) or other entity, as the case may be, pursuant to the
payment of the agreed value of the shares or pursuant to payment of the judgment
entered for the value of the shares, as in this Article provided, shall, in the
case of a merger, be treated as provided in the plan of merger and, in all other
cases, may be held and disposed of by the corporation as in the case of other
treasury shares.
F. The provisions of this Article shall not apply to a merger if, on
the date of the filing of the articles of merger, the surviving corporation is
the owner of all the outstanding shares of the other corporations, domestic or
foreign, that are parties to the merger.
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G. In the absence of fraud in the transaction, the remedy provided
by this Article to a shareholder objecting to any corporate action referred to
in Article 5.11 of this Act is the exclusive remedy for the recovery of the
value of his shares or money damages to the shareholder with respect to the
action. If the existing, surviving, or new corporation (foreign or domestic) or
other entity, as the case may be, complies with the requirements of this
Article, any shareholder who fails to comply with the requirements of this
Article shall not be entitled to bring suit for the recovery of the value of his
shares or money damages to the shareholder with respect to the action.
Article 5.13. Provisions Affecting Remedies of Dissenting Shareholders
A. Any shareholder who has demanded payment for his shares in
accordance with either Article 5.12 or 5.16 of this Act shall not thereafter be
entitled to vote or exercise any other rights of a shareholder except the right
to receive payment for his shares pursuant to the provisions of those articles
and the right to maintain an appropriate action to obtain relief on the ground
that the corporate action would be or was fraudulent, and the respective shares
for which payment has been demanded shall not thereafter be considered
outstanding for the purposes of any subsequent vote of shareholders.
B. Upon receiving a demand for payment from any dissenting
shareholder, the corporation shall make an appropriate notation thereof in its
shareholder records. Within twenty (20) days after demanding payment for his
shares in accordance with either Article 5.12 or 5.16 of this Act, each holder
of certificates representing shares so demanding payment shall submit such
certificates to the corporation for notation thereon that such demand has been
made. The failure of holders of certificated shares to do so shall, at the
option of the corporation, terminate such shareholder's rights under Articles
5.12 and 5.16 of this Act unless a court of competent jurisdiction for good and
sufficient cause shown shall otherwise direct. If uncertificated shares for
which payment has been demanded or shares represented by a certificate on which
notation has been so made shall be transferred, any new certificate issued
therefor shall bear similar notation together with the name of the original
dissenting holder of such shares and a transferee of such shares shall acquire
by such transfer no rights in the corporation other than those which the
original dissenting shareholder had after making demand for payment of the fair
value thereof.
C. Any shareholder who has demanded payment for his shares in
accordance with either Article 5.12 or 5.16 of this Act may withdraw such demand
at any time before payment for his shares or before any petition has been filed
pursuant to Article 5.12 or 5.16 of this Act asking for a finding and
determination of the fair value of such shares, but no such demand may be
withdrawn after such payment has been made or, unless the corporation shall
consent thereto, after any such petition has been filed. If, however, such
demand shall be withdrawn as hereinbefore provided, or if pursuant to Section B
of this Article the corporation shall terminate the shareholder's rights under
Article 5.12 of 5.16 of this Act, as the case may be, or if no petition asking
for a finding and determination of fair value of such shares by a court shall
have been filed within the time provided in Article 5.12 or 5.16 of this Act, as
the case may be, or if after the hearing of a petition filed pursuant to Article
5.12 or 5.16, the court shall determine that such shareholder is not entitled to
the relief provided by those articles, then, in any such case, such shareholder
and all persons claiming under him shall be conclusively presumed to have
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approved and ratified the corporate action from which he dissented and shall be
bound thereby, the right of such shareholder to be paid the fair value of his
shares shall cease, and his status as a shareholder shall be restored without
prejudice to any corporate proceedings which may have been taken during the
interim, and such shareholders shall be entitled to receive any dividends or
other distributions made to shareholders in the interim.
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PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
Item 20. Indemnification of Directors and Officers
The Registrant's Articles of Incorporation and Bylaws require the
Registrant to indemnify officers and directors of the Registrant to the fullest
extent permitted by Article 2.02-1 of the Business Corporation Act of the State
of Texas (the "TBCA"). The Articles of Incorporation and Bylaws of the
Registrant are filed as Exhibit 3.1 and 3.2 to the Registration Statement.
Generally, Article 2.02-1 of the TBCA permits a corporation to indemnify a
person who was, is, or is threatened to be made a named defendant or respondent
in a proceeding because the person was or is a director or officer if it is
determined that such person (i) conducted himself in good faith; (ii) reasonably
believed (a) in the case of conduct in his official capacity as a director or
officer of the corporation, that his conduct was in the corporation's best
interests; and/or (b) in other cases, that his conduct was at least not opposed
to the corporation's best interests; and (iii) in the case of any criminal
proceeding, had no reasonable cause to believe that his conduct was unlawful. In
addition, the TBCA requires a corporation to indemnify a director or officer for
any action that such director or officer is wholly successfully in defending on
the merits.
The Registrant's Articles of Incorporation provide that a director of
the Registrant will not be liable to the corporation for monetary damages for an
act or omission in the director's capacity as a director, except to the extent
not permitted by law. Texas law does not permit exculpation of liability in the
case of (i) a breach of the director's duty of loyalty to the corporation or its
shareholders; (ii) an act or omission not in good faith that constitutes a
breach of duty of the director to the corporation or that involves intentional
misconduct or a knowing violation of the law; (iii) a transaction from which a
director received an improper benefit, whether or not the benefit resulted from
an action taken within the scope of the director's office; or (iv) an act or
omission for which the liability of the director is expressly provided by
statute.
The Registrant may provide liability insurance for each director and
officer for certain losses arising from claims or changes made against them
while acting in their capabilities as directors or officers of the Registrant,
whether or not the Registrant would have the power to indemnify such person
against such liability, as permitted by law.
Item 21. Exhibits and Financial Statements and Schedules
(a) Exhibits
The following documents are filed as exhibits to this
Registration Statement:
Exhibit
Number Description of Exhibit
------- ----------------------
2.1 Agreement and Plan of Reorganization dated as of May 1,
2002 by and between Prosperity Bancshares, Inc. and
Paradigm Bancorporation, Inc. (included as Appendix A to
the proxy statement-prospectus, which forms a part of
this Registration Statement on Form S-4)
2.2 Stock Purchase Agreement dated as of February 22, 2002 by
and between Prosperity Bancshares, Inc. and American
Bancorp of Oklahoma, Inc. (incorporated herein by
reference to the Company's Quarterly Report on Form 10-Q
for the quarter ended March 31, 2002)
2.3 Agreement and Plan of Reorganization dated as of April
26, 2002 by and among Prosperity Bancshares, Inc.,
Prosperity Bank and The First State Bank (incorporated
herein by reference to the Company's Quarterly Report on
Form 10-Q for the quarter ended March 31, 2002)
2.4 Agreement and Plan of Reorganization by and between
Prosperity Bancshares, Inc. and Commercial Bancshares,
Inc. dated November 8, 2000 (incorporated herein
II-1
by reference to Exhibit 2.1 to the Company's Registration
Statement on Form S-4 (Registration No. 333-52342 ))
2.5 Agreement and Plan of Reorganization by and between Prosperity
Bancshares, Inc. and South Texas Bancshares, Inc. dated June
17, 1999 (incorporated herein by reference to Exhibit 2.1 to
the Company's Form 10-Q for the quarter ended June 30, 1999)
2.6 Agreement and Plan of Reorganization dated June 5, 1998 by and
among Prosperity, First Prosperity Bank and Union State Bank
(incorporated herein by reference to Exhibit 10.4 to the
Company's Registration Statement on Form S-1 (Registration No.
333-63267) (the "Registration Statement"))
3.1 Amended and Restated Articles of Incorporation of Prosperity
(incorporated herein by reference to Exhibit 3.1 to the
Company's Registration Statement on Form S-1 (Registration No.
333-63267))
3.2 Amended and Restated Bylaws of Prosperity (incorporated herein
by reference to Exhibit 3.2 to the Company's Registration
Statement on Form S-1 (Registration No. 333-63267))
4.1 Form of certificate representing shares of Prosperity common
stock (incorporated herein by reference to Exhibit 4 to the
Company's Registration Statement on Form S-1 (Registration No.
333-63267))
4.2 Form of Indenture by and between Prosperity Bancshares, Inc.
and First Union Trust Company, N.A. with respect to the Junior
Subordinated Debentures of Prosperity Bancshares, Inc.
(incorporated herein by reference to Exhibit 4.1 of the
Company's Registration Statement on Form S-1 (Registration No.
333-89481))
4.3 Form of Amended and Restated Trust Agreement of Prosperity
Capital Trust I (incorporated herein by reference from Exhibit
4.5 to the Company's Registration Statement on Form S-1
(Registration No. 333-89481))
4.4 Form of Trust Preferred Securities Guarantee Agreement by and
between Prosperity and First Union Trust Company, N.A.
(incorporated herein by reference to Exhibit 4.7 of the
Company's Registration Statement on Form S-1 (Registration No.
333-89481))
4.5 Indenture dated as of July 31, 2001 by and between Prosperity
Bancshares, Inc., as Issuer, and State Street Bank and Trust
Company of Connecticut, National Association, with respect to
the Floating Rate Junior Subordinated Deferrable Interest
Debentures of Prosperity Bancshares, Inc. (incorporated herein
by reference to Exhibit 4.1 of the Company's Quarterly Report
on Form 10-Q for the quarter ended September 30, 2001)
4.6 Amended and Restated Declaration of Trust of Prosperity
Statutory Trust II dated as of July 31, 2001 (incorporated
herein by reference to Exhibit 4.2 of the Company's Quarterly
Report on Form 10-Q for the quarter ended September 30, 2001)
4.7 Guarantee Agreement dated as of July 31, 2001 by and between
Prosperity Bancshares, Inc. and State Street Bank and Trust
Company of Connecticut, National Association (incorporated
herein by reference to Exhibit 4.3 of the Company's Quarterly
Report on Form 10-Q for the quarter ended September 30, 2001)
5.1** Opinion of Bracewell & Patterson, L.L.P. as to the legality of
the shares being registered
II-2
8.1** Opinion of Bracewell & Patterson, L.L.P. as to certain tax
matters
10.1+ Prosperity Bancshares, Inc. 1995 Stock Option Plan
(incorporated herein by reference to Exhibit 10.1 to the
Company's Registration Statement on Form S-1 (Registration
No. 333-63267))
10.2+ Prosperity Bancshares, Inc. 1998 Stock Incentive Plan
(incorporated herein by reference to Exhibit 10.2 to the
Company's Registration Statement on Form S-1 (Registration
No. 333-63267))
10.3+ Form of Employment Agreements (incorporated herein by
reference to Exhibit 10.3 to the Company's Registration
Statement on Form S-1 (Registration No. 333-63267))
10.4 Loan Agreement dated December 27, 1997 between Prosperity and
Norwest Bank Minnesota, National Association (incorporated
herein by reference to Exhibit 10.5 to the Company's
Registration Statement on Form S-1 (Registration No.
333-63267))
10.5+ Form of Employment Agreement by and between First Prosperity
Bank and H. E. Timanus, Jr. (incorporated herein by reference
to Exhibit 10.5 to the Company's Registration Statement on
Form S-4 (Registration No. 333-52342))
10.6+ Commercial Bancshares, Inc. Incentive Stock Option Plan for
Key Employees (incorporated herein by reference to Exhibit
4.5 to the Company's Registration Statement on Form S-8
(Registration No. 333-57238))
10.7+ Form of Stock Option Agreement under the Commercial
Bancshares, Inc. Incentive Stock Option Plan for Key
Employees (incorporated herein by reference to Exhibit 4.6 to
the Company's Registration Statement on Form S-8
(Registration No. 333-57238))
21.1 Subsidiaries of Prosperity (incorporated herein by reference
to Exhibit 21 to the Company's Annual Report on Form 10-K for
the year ended December 31, 2001)
23.1* Consent of Deloitte & Touche LLP, independent auditors of
Prosperity
23.2* Consent of Harper & Pearson Company, P.C., independent
auditors of Paradigm
23.3** Consent of Bracewell & Patterson, L.L.P. (included in the
opinion to be filed as Exhibit 5.1)
23.4** Consent of Bracewell & Patterson, L.L.P. (included in the
opinion to be filed as Exhibit 8.1)
24.1 Powers of Attorney of directors and officers of Prosperity.
Included on the signature page of this Form S-4 and
incorporated herein by reference.
99.1** Consent of William H. Fagan, M.D.
99.2** Consent of Charles J. Howard, M.D.
99.3* Consent of Hoefer & Arnett, Incorporated
-------------------------------------
* Filed herewith.
** Previously filed.
+ Management contract or compensatory plan or arrangement.
II-3
(b) Financial Statements and Schedules
Either not applicable or shown in the financial statements or notes thereto.
(c) Opinion of Financial Advisor
Furnished as Appendix C to the proxy statement-prospectus, which forms a part of
this Registration Statement on Form S-4.
Item 22. Undertakings
(a) The undersigned registrant hereby undertakes:
(1) To file, during any period in which offers or sales are being
made, a post-effective amendment to this Registration Statement:
(i) To include any prospectus required by Section 10(a)(3) of
the Securities Act of 1933;
(ii) To reflect in the prospectus any facts or events arising
after the effective date of the registration statement
(or the most recent post-effective amendment thereof),
which, individually or in the aggregate, represent a
fundamental change in the information set forth in the
registration statement. Notwithstanding the foregoing,
any increase or decrease in volume of securities offered
(if the total dollar value of securities offered would
not exceed that which was registered) and any deviation
from the low or high end of the estimated maximum
offering range may be reflected in the form of prospectus
filed with the Commission pursuant to Rule 424(b) if, in
the aggregate, the changes in volume and price represent
no more than a 20 percent change in the maximum aggregate
offering price set forth in the "Calculation of
Registration Fee" table in the effective Registration
Statement;
(iii) To include any material information with respect to the
plan of distribution not previously disclosed in the
Registration Statement or any material change to such
information in the Registration Statement.
(2) That, for the purpose of determining any liability under the
Securities Act of 1933, each such post-effective amendment shall
be deemed to be a new registration statement relating to the
securities offered therein, and the offering of such securities at
that time shall be deemed to be the initial bona fide offering
thereof.
(3) To remove from registration by means of a post-effective
amendment any of the securities being registered which remain
unsold at the termination of the offering.
(b) The undersigned Registrant hereby undertakes that, for purposes of
determining any liability under the Securities Act, each filing of the
registrant's annual report pursuant to Section 13(a) or Section 15(d)
of the Securities Exchange Act of 1934, as amended (and, where
applicable, each filing of an employee benefit plan's annual report
pursuant to section 15(d) of the Exchange Act) that is incorporated by
reference in the Registration Statement shall be deemed to be a new
Registration Statement relating to the securities offered therein, and
the offering of such securities at that time shall be deemed to be the
initial bona fide offering thereof.
(g)
(1) The undersigned registrant hereby undertakes as follows: that
prior to any public reoffering of the securities registered
hereunder through use of a prospectus which is a part of this
registration statement, by any person or party who is deemed
to be an underwriter within the meaning of Rule 145(c), the
issuer undertakes that such reoffering prospectus will contain
the information called for by the applicable registration form
with respect to reofferings by persons who may be deemed
underwriters, in addition to the information called for by the
other items of the applicable form.
II-4
(2) The registrant undertakes that every prospectus: (i) that is
filed pursuant to paragraph (1) immediately preceding; or (ii)
that purports to meet the requirements of Section 10(a)(3) of
the Act and is used in connection with an offering of
securities subject to Rule 415, will be filed as a part of an
amendment to the registration statement and will not be used
until such amendment is effective, and that, for purposes of
determining any liability under the Securities Act of 1933,
each such post-effective amendment shall be deemed to be a new
registration statement relating to the securities offered
therein, and the offering of such securities at that time
shall be deemed to be the initial bona fide offering thereof.
(h) Insofar as indemnification for liabilities arising under the
Securities Act of 1933 may be permitted to directors, officers and
controlling persons of the Registrant pursuant to the foregoing
provisions, or otherwise, the registrant has been advised that in the
opinion of the Securities and Exchange Commission, such
indemnification is against public policy as expressed in the
Securities Act and is, therefore, unenforceable. In the event that a
claim for indemnification against such liabilities (other than the
payment by the registrant of expenses incurred or paid by a director,
officer or controlling person of the registrant in the successful
defense of any action, suit or proceeding) is asserted by such
director, officer or controlling person in connection with the
securities being registered, the registrant will, unless in the
opinion of its counsel the matter has been settled by controlling
precedent, submit to a court of appropriate jurisdiction the question
whether such indemnification by it is against public policy as
expressed in the Securities Act and will be governed by the final
adjudication of such issue.
The undersigned registrant hereby undertakes to respond to requests for
information that is incorporated by reference into the prospectus
pursuant to Item 4, 10(b), 11 or 13 of this Form, within one business
day of receipt of such request, and to send the incorporated documents
by first class mail or other equally prompt means. This includes
information contained in documents filed subsequent to the effective
date of the registration statement through the date of responding to
the request.
The undersigned registrant hereby undertakes to supply by means of a
post-effective amendment all information concerning a transaction, and
the company being acquired involved therein, that was not the subject
of and included in the registration statement when it became effective.
II-5
SIGNATURES
Pursuant to the requirements of the Securities Act, the Registrant has
caused this Registration Statement or amendment thereto to be signed on its
behalf by the undersigned, thereunto duly authorized, in Houston, Texas, on July
22, 2002.
PROSPERITY BANCSHARES, INC.
(Registrant)
By: /s/ David Zalman
----------------------
Name: David Zalman
Title: President and Chief
Executive Officer
Pursuant to the requirements of the Securities Act of 1933, this
Registration Statement has been signed by the following persons in the
capacities indicated and on the dates indicated above.
Signature Title Date
--------- ----- ----
/s/ David Zalman President and Chief Executive Officer July 22, 2002
-------------------------------
David Zalman (principal executive officer)
/s/ David Hollaway Chief Financial Officer
-------------------------------
David Hollaway (principal financial officer; July 22, 2002
principal accounting officer)
* Chairman of the Board; July 22, 2002
-------------------------------
Ned S. Holmes Director
* Director July 22, 2002
-------------------------------
Harry Bayne
* Director July 22, 2002
-------------------------------
James A. Bouligny
II-6
* Director July 22, 2002
----------------------------------
Charles A. Davis, Jr.
* Director July 22, 2002
----------------------------------
Perry Mueller, Jr.
* Director July 22, 2002
----------------------------------
A. Virgil Pace, Jr.
* Director July 22, 2002
----------------------------------
Tracy T. Rudolph
Director July 22, 2002
----------------------------------
Charles M. Slavik
* Director July 22, 2002
----------------------------------
Harrison Stafford II
* Director July 22, 2002
----------------------------------
Robert Steelhammer
* Director July 22, 2002
----------------------------------
H. E. Timanus, Jr.
--------------------
* By David Zalman pursuant to a Power of Attorney executed by the directors
listed above, which Power of Attorney has previously been filed with the
Securities and Exchange Commission.
By: /s/ David Zalman
-----------------------------
David Zalman
President and Chief
Executive Officer
II-7
Exhibit
Number Description of Exhibit
------ ----------------------
2.1 Agreement and Plan of Reorganization dated as of May 1, 2002 by
and between Prosperity Bancshares, Inc. and Paradigm
Bancorporation, Inc. (included as Appendix A to the proxy
statement-prospectus, which forms a part of this Registration
Statement on Form S-4)
2.2 Stock Purchase Agreement dated as of February 22, 2002 by and
between Prosperity Bancshares, Inc. and American Bancorp of
Oklahoma, Inc. (incorporated herein by reference to the Company's
Quarterly Report on Form 10-Q for the quarter ended March 31,
2002)
2.3 Agreement and Plan of Reorganization dated as of April 26, 2002 by
and among Prosperity Bancshares, Inc., Prosperity Bank and The
First State Bank (incorporated herein by reference to the
Company's Quarterly Report on Form 10-Q for the quarter ended
March 31, 2002)
2.4 Agreement and Plan of Reorganization by and between Prosperity
Bancshares, Inc. and Commercial Bancshares, Inc. dated November 8,
2000 (incorporated herein by reference to Exhibit 2.1 to the
Company's Registration Statement on Form S-4 (Registration No.
333-52342 ))
2.5 Agreement and Plan of Reorganization by and between Prosperity
Bancshares, Inc. and South Texas Bancshares, Inc. dated June 17,
1999 (incorporated herein by reference to Exhibit 2.1 to the
Company's Form 10-Q for the quarter ended June 30, 1999)
2.6 Agreement and Plan of Reorganization dated June 5, 1998 by and
among Prosperity, First Prosperity Bank and Union State Bank
(incorporated herein by reference to Exhibit 10.4 to the Company's
Registration Statement on Form S-1 (Registration No. 333-63267)
(the "Registration Statement"))
3.1 Amended and Restated Articles of Incorporation of Prosperity
(incorporated herein by reference to Exhibit 3.1 to the Company's
Registration Statement on Form S-1 (Registration No. 333-63267))
3.2 Amended and Restated Bylaws of Prosperity (incorporated herein by
reference to Exhibit 3.2 to the Company's Registration Statement
on Form S-1 (Registration No. 333-63267))
4.1 Form of certificate representing shares of Prosperity common stock
(incorporated herein by reference to Exhibit 4 to the Company's
Registration Statement on Form S-1 (Registration No. 333-63267))
4.2 Form of Indenture by and between Prosperity Bancshares, Inc. and
First Union Trust Company, N.A. with respect to the Junior
Subordinated Debentures of Prosperity Bancshares, Inc.
(incorporated herein by reference to Exhibit 4.1 of the Company's
Registration Statement on Form S-1 (Registration No. 333-89481))
4.3 Form of Amended and Restated Trust Agreement of Prosperity Capital
Trust I (incorporated herein by reference from Exhibit 4.5 to the
Company's Registration Statement on Form S-1 (Registration No.
333-89481))
4.4 Form of Trust Preferred Securities Guarantee Agreement by and
between Prosperity and First Union Trust Company, N.A.
(incorporated herein by reference to Exhibit
4.7 of the Company's Registration Statement on Form S-1
(Registration No. 333-89481))
4.5 Indenture dated as of July 31, 2001 by and between Prosperity
Bancshares, Inc., as Issuer, and State Street Bank and Trust
Company of Connecticut, National Association, with respect to the
Floating Rate Junior Subordinated Deferrable Interest Debentures
of Prosperity Bancshares, Inc. (incorporated herein by reference
to Exhibit 4.1 of the Company's Quarterly Report on Form 10-Q for
the quarter ended September 30, 2001)
4.6 Amended and Restated Declaration of Trust of Prosperity Statutory
Trust II dated as of July 31, 2001 (incorporated herein by
reference to Exhibit 4.2 of the Company's Quarterly Report on Form
10-Q for the quarter ended September 30, 2001)
4.7 Guarantee Agreement dated as of July 31, 2001 by and between
Prosperity Bancshares, Inc. and State Street Bank and Trust
Company of Connecticut, National Association (incorporated herein
by reference to Exhibit 4.3 of the Company's Quarterly Report on
Form 10-Q for the quarter ended September 30, 2001)
5.1** Opinion of Bracewell & Patterson, L.L.P. as to the legality of the
shares being registered
8.1** Opinion of Bracewell & Patterson, L.L.P. as to certain tax matters
10.1+ Prosperity Bancshares, Inc. 1995 Stock Option Plan (incorporated
herein by reference to Exhibit 10.1 to the Company's Registration
Statement on Form S-1 (Registration No. 333-63267))
10.2+ Prosperity Bancshares, Inc. 1998 Stock Incentive Plan
(incorporated herein by reference to Exhibit 10.2 to the Company's
Registration Statement on Form S-1 (Registration No. 333-63267))
10.3+ Form of Employment Agreements (incorporated herein by reference to
Exhibit 10.3 to the Company's Registration Statement on Form S-1
(Registration No. 333-63267))
10.4 Loan Agreement dated December 27, 1997 between Prosperity and
Norwest Bank Minnesota, National Association (incorporated herein
by reference to Exhibit 10.5 to the Company's Registration
Statement on Form S-1 (Registration No. 333-63267))
10.5+ Form of Employment Agreement by and between First Prosperity Bank
and H. E. Timanus, Jr. (incorporated herein by reference to
Exhibit 10.5 to the Company's Registration Statement on Form S-4
(Registration No. 333-52342))
10.6+ Commercial Bancshares, Inc. Incentive Stock Option Plan for Key
Employees (incorporated herein by reference to Exhibit 4.5 to the
Company's Registration Statement on Form S-8 (Registration No.
333-57238))
10.7+ Form of Stock Option Agreement under the Commercial Bancshares,
Inc. Incentive Stock Option Plan for Key Employees (incorporated
herein by reference to Exhibit 4.6 to the Company's Registration
Statement on Form S-8 (Registration No. 333-57238))
21.1 Subsidiaries of Prosperity (incorporated herein by reference to
Exhibit 21 to the Company's Annual Report on Form 10-K for the
year ended December 31, 2001)
23.1* Consent of Deloitte & Touche LLP, independent auditors of
Prosperity
23.2* Consent of Harper & Pearson Company, P.C., independent auditors
of Paradigm
23.3** Consent of Bracewell & Patterson, L.L.P. (included in the
opinion to be filed as Exhibit 5.1)
23.4** Consent of Bracewell & Patterson, L.L.P. (included in the
opinion to be filed as Exhibit 8.1)
24.1 Powers of Attorney of directors and officers of Prosperity.
Included on the signature page of this Form S-4 and
incorporated herein by reference.
99.1** Consent of William H. Fagan, M.D.
99.2** Consent of Charles J. Howard, M.D.
99.3* Consent of Hoefer & Arnett, Incorporated
-----------------------------
* Filed herewith.
** Previously filed.
+ Management contract or compensatory plan or arrangement.