NORTHERN STATES FI (NSFC) - Description of business

Company Description
     The Company is a bank holding company organized in 1984 under the laws of Delaware, for the purpose of becoming the parent bank holding company of the Bank of Waukegan. In 1991, the Company acquired First Federal Bank, fsb (“First Federal” or the “Thrift”). In 1998 the Thrift was merged with and into the Bank of Waukegan. On January 5, 2004, Northern States Financial Corporation acquired First State Bank of Round Lake (“First State Bank”). On November 10, 2005 First State Bank was merged with and into the Bank of Waukegan and the name of the merged entity was changed to NorStates Bank (the “Bank’).     The Company is registered under the Bank Holding Company Act of 1956, as amended, and owns all the outstanding stock of the Bank and First State Bank. At December 31, 2005, the Company had 356 registered stockholders of record, 4,295,105 shares of Common Stock outstanding, and total consolidated assets of approximately $722 million. Aside from the stock of the Bank and cash, the Company has no other substantial assets.     As a large, community-oriented, independent banking organization in Lake County in the State of Illinois, the Company is well positioned to take advantage of the growth in communities in Lake County, Illinois and the communities in the surrounding counties. The Company has continuously served the community since 1919 when First Federal was chartered. The Company’s local management, coupledwith its long record of service, has allowed it to compete successfully in the banking market. The Company operates traditional community banks with conveniently located branches and a professional staff.     Neither the Company nor the Bank has material patents, licenses or franchises except the banking charters, which permit them to engage in banking and offer trust services pursuant to applicable law.     The principal business of the Company, operating through the Bank, consists of attracting deposits and securities sold under repurchase agreements from the general public, making commercial loans, loans secured by residential and commercial real estate and consumer loans, and operating mortgage banking and trust businesses.     The Company’s annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and all amendments to those reports are currently made available free of charge via the Company’s internet website ( as soon as practicable after such material is electronically filed with, or furnished to, the Securities and Exchange Commission (the “Commission”).Subsidiary Operations     NorStates Bank was chartered as a state bank in 1962 and is located in Waukegan, Illinois. Waukegan is located approximately 37 miles north of Chicago, Illinois and has a population of approximately 90,000. At December 31, 2005, NorStates Bank had total assets of approximately $721.5 million, loans and leases of approximately $400.5 million, deposits of approximately $562.7 million and stockholder’s equity of approximately $72.4 million. The Bank has three branch offices located in Waukegan, one office located in Antioch, Illinois, one office located in Gurnee, Illinois, one office located in Winthrop Harbor, Illinois, one office in Round Lake Beach, Illinois and one office in Round Lake, Illinois.     The Bank provides services to individuals, businesses and local governmental units in northeastern Illinois and southeastern Wisconsin.     The Bank’s full service banking business includes the customary consumer and commercial products and services which banks provide, including the following: demand, savings, and time deposits, securities sold under repurchase agreements and individual retirement accounts; commercial, consumer and real estate lending, including installment loans, home equity loans, lines of credit and overdraft checking; safe deposit operations; trust services; and a variety of additional services tailored to the needs of individual customers, such as the sale of traveler’s checks, money orders, cashier’s checks and foreign currency, direct deposit, and other special services.     Commercial and consumer loans are made to corporations, partnerships and individuals, primarily on a secured basis. Commercial lending focuses on business, capital, construction, inventory and real estate. The bank also make direct and indirect loans to consumers and commercial customers. The Bank also originates and services commercial and residential mortgages.     The Bank’s trust department acts as executor, administrator, trustee, conservator, guardian, custodian and agent. At December 31, 2005, the Trust Department had assets under management or custodial arrangements of approximately $140 million. Its office is located at the Bank’s branch office at 3233 Grand Avenue, Waukegan, Illinois.     During 2002 the Bank formed Northern States Community Development Corporation (“NSCDC”), a wholly-owned subsidiary of the Bank. NSCDC assets consist of cash and of other real estate owned. This subsidiary was formed for the purpose of developing and selling a parcel of other real estate owned as part of the City of Waukegan’s lakefront development plans. At December 31, 2005, assets of NSCDC totaled $1.8 million, which includes cash of $38,000, and the property valued at $1,783,000, and were consolidated into the NorState Bank’s financial statements.COMPANY OPERATING STRATEGY     Corporate policy, strategy and goals are established by the Board of Directors of the Company. Pursuant to the Company’s philosophy, the Company also establishes operational and administrative policies for the Bank. Within this framework, the Bank focuses on providing personalized services and quality products to customers to meet the needs of the communities in which they operate.     As part of its community banking approach, the Company encourages the officers of the Bank to actively participate in community organizations. In addition, within credit and rate of return parameters, the Company attempts to ensure that the Bank meets the credit needs of the community. In addition, the Bank invests in local municipal securities.Lending Activities      General - The Bank provides a range of commercial and retail lending services to corporations, partnerships and individuals, including, but not limited to, commercial business loans, commercial and residential real estate construction and mortgage loans, consumer loans, revolving lines of credit and letters of credit. The installment loan department makes direct and indirect loans to consumers and commercial customers. The mortgage department originates and services commercial and residential mortgages. The Bank’s mortgage banking operation originates mortgage loans on behalf of other financial institutions that fund and own the loans.     The Bank aggressively markets its services to qualified borrowers in both the commercial and consumer sectors. The Bank’s commercial lending officers actively solicit the business of new companies entering the surrounding market as well as long-standing members of the business community. Through personalized professional service and competitive pricing, the Bank has been successful in attracting new commercial lending customers. At the same time, the Bank actively advertises its consumer loan products and continually attempt to make its lending officers more accessible.      Commercial Loans - The Bank seeks new commercial loans in its market area and much of the increase in these loans in recent years can be attributed to the successful solicitation of new business. The Bank has also purchased commercial loans or portions of commercial loans from other financial institutions and investment banking firms. The Bank’s lending areas of emphasis include, but are not limited to, loans to manufacturers, building contractors, developers, hotels, business services companies and retailers. The Bank provides a wide range of commercial business loans, including lines of credit for working capital purposes and term loans for the acquisition of equipment and other purposes. Collateral for these loans generally includes accounts receivable, inventory, equipment and real estate. Loans may be made on an unsecured basis where warranted by the overall financial condition of the borrower. Terms of commercial business loans generally range from one to five years. The majority of the Bank’s commercial business loans have floating interest rates or re-price within one year. The primary repayment risk for commercial loans is the failure of the business due to economic or financial factors. In most cases, the Bank collateralizes these loans and/or taken personal guarantees to help assure repayment.     The Bank regularly provides financing to developers who have demonstrated a favorable record of performance for the construction of homes. Sales of these homes have remained very strong in Lake County due to the continued growth in population.      Mortgage Banking - From 1991 until 1998, the Bank funded conforming long-term residential mortgage loans and sold them in the secondary market with servicing retained. Since 1998, the Bank’s mortgage banking operation originates mortgage loans for a fee on behalf of other financial institutions that fund and own the loans. The Bank does not retain servicing on these originated mortgage loans. The Bank has a portfolio of serviced mortgages of approximately $3.8 million at December 31, 2005.      Consumer Lending - The Bank’s consumer lending department provide all types of consumer loans including motor vehicle, home improvement, home equity, unsecured loans and small personal credit lines.     Trust Activities     The Bank’s trust and investment services department has been providing trust services to the community for over 20 years. As of December 31, 2005, the Bank had approximately $140 million of trust assets under management and provides a full complement of trust services for individuals and corporations, including land trust services.     To build on the trust department’s mainstay of personal trust administration, the trust department’s focus is in two major areas: (i) investment management for individuals and (ii) administration and investment services for employee benefit plans.COMPETITION     The Company and its banking subsidiary encounter significant competition in all of their activities. The Chicago metropolitan area and suburban Lake County have a high density of financial institutions, many of which are significantly larger and have substantially greater financial resources than the Company and its subsidiaries, and all of which are competitors of the Company and its subsidiaries to varying degrees. In Lake County, Illinois there are 46 commercial banks and savings institutions. The Company and its subsidiary are subject to competition from various financial institutions, including state and national banks, state and federal savings associations, credit unions, certain non-banking consumer lenders, and other companies or firms, including brokerage firms and mortgage brokers, that provide similar services in northeastern Illinois. The Bank also competes with money market funds and with insurance companies with respect to its individual retirement accounts.     Competition has increased as a result of the continuing reduction in the effective restrictions on the interstate operations of financial institutions. The Company and its subsidiary face additional competition for deposits from short-term money market mutual funds and other corporate and government securities funds. Since the elimination of federal interest rate controls on deposits, the competition from other financial institutions for deposits has increased.     The primary factors influencing competition for deposits are interest rates, service, and convenience of office locations. The Company competes for loans principally through the range and quality of the services it provides, interest rate and loan fee terms. The Company believes that its long-standing presence in the community and personal service philosophy enhances its ability to compete favorably in attracting and retaining individual and business customers. The Company actively solicitsdeposit-related clients and competes for deposits by offering customers personal attention, professional service and competitive interest rates.EMPLOYEES     The Company and its subsidiaries employed 181 full-time equivalent employees as of December 31, 2005. None of the Company’s employees is represented by any collective bargaining group. The Company offers a variety of employee benefits and management considers its employee relations to be good.GOVERNMENTAL MONETARY POLICY AND ECONOMIC CONDITIONS     The earnings and growth of the Company are affected not only by general economic conditions, but also by the fiscal and monetary policies of the federal government and its agencies. In particular, the Federal Reserve Board regulates monetary and credit conditions and interest rates in order to influence general economic conditions, primarily through open-market operations in U.S. Government securities, varying the discount rate on bank borrowings, and setting reserve requirements against bank deposits.     These policies have a significant influence on overall growth and distribution of the Company’s loans, investments and deposits, and affect interest rates charged on loans and earned on investments or paid for deposits. The monetary policies of the Federal Reserve Board are expected to continue their substantial influence on the operating results of Bank. The general effect, if any, of such policies upon the future business and earnings of the Company and its subsidiary cannot accurately be predicted.SUPERVISION AND REGULATION     Financial institutions and their holding companies are extensively regulated under federal and state laws. As a result, the business, financial condition and prospects of the Company and its bank subsidiary can be materially affected not only by management decisions and general economic conditions, but also by applicable statutes and regulations and other regulatory pronouncements and policies promulgated by regulatory agencies with jurisdiction over the Company and the Bank, such as the Board of Governors of the Federal Reserve System (“FRB”), the Federal Deposit Insurance Corporation (“FDIC”) and the Illinois Department of Financial and Professional Regulation. Such statutes, regulations and other pronouncements and policies are intended to protect depositors and the FDIC’s deposit insurance funds, rather than stockholders.     The Company and the Bank are “affiliates” within the meaning of the Federal Reserve Act so that the Bank is subject to certain restrictions with respect to loans to the Company and certain other transactions with the Company or involving its securities.     The Company is a bank holding company subject to the Bank Holding Company Act of 1956, as amended (the “Act”), and to regulation by the FRB. The Act limits the activities which may be engaged in by bank holding companies and their nonbank subsidiaries, with certain exceptions, to those so closely related to banking or managing or controlling banks as to be a proper incident thereto. Also, under the Act and the FRB’s regulations, a bank holding company, as well as certain of its subsidiaries, are prohibited from engaging in certain tie-in arrangements in connection with any extension of credit or provision of any property or services. The Act also prohibits bank holding companies from acquiring substantially all the assets of or owning more than 5% of the voting shares of any bank or nonbanking company, which is not already majority owned, without the prior approval of the FRB.     The Gramm-Leach-Bliley Act (the “GLB Act”), signed into law on November 12, 1999, significantly changed financial services regulation by expanding permissible nonbanking activities of bank holding companies and removing barriers to affiliations among banks, insurance companies, securities firms and other financial services entities. These new activities can be conducted through a holding company structure or, subject to certain limitations, through a financial subsidiary of a bank. The GLB Act repeals the anti-affiliation provisions of the Glass-Stegall Act and revises the Act. The GLB Act permits qualifying holding companies, called “financial holding companies,” to engage in, or to affiliate with companies engaged in, a full range of financial activities including banking, insurance activities (including insurance underwriting and portfolio investing), securities activities and merchant banking. A bank holding company’s subsidiary banks must be “well-capitalized” and “well-managed” and have at least a “satisfactory” Community Reinvestment Act rating for the bank holding company to elect, and maintain, status as a financial holding company.     The Reigle-Neal Interstate Banking and Branching Efficiency Act of 1994 (the “Interstate Act”) permits a bank holding company to acquire, with FRB approval, a bank located in a state other than the bank holding company’s home state, without regard to whether the transaction is permitted under any state law, except that a host state may establish, by statute, the minimum age of its banks (up to a maximum of 5 years) subject to acquisition by out-of-state bank holding companies. The FRB may not approve the acquisition if the applicant bank holding company, upon consummation, would control more than 10% of total U.S. insured depository institution deposits or more than 30% of the host state’s total insured depository institution deposits. The Interstate Act also permits a bank, with the approval of the appropriate Federal bank regulatory agency, to establish a de novo branch in a state, other than the bank’s home state, in which the bank does not presently maintain a branch if the host state has enacted a law that applies equally to all banks and expressly permits all out-of-state banks to branch de novo into the host state. Banks having different home states may, with approval of the appropriate Federal bank regulatory agency, merge across state lines, unless the home state of a participating bank has opted-out of the Interstate Act prior to June 1, 1997. In addition the Interstate Act permits any bank subsidiary of a bank holding company to receive deposits, renew time deposits, close loans, service loans and receive payments on loans and other obligations as agent for a bank or thrift affiliate, whether such affiliate is located in a different state or in the same state. Illinois law allows the Bank to establish branches anywhere in the state.     The Illinois Bank Holding Company Act permits Illinois bank holding companies to acquire control of banks in any state and permits bank holding companies whose principal place of business is in another state to acquire control of Illinois banks or bank holding companies upon satisfactory application to the Illinois Department of Financial and Professional Regulation. In reviewing any such application, the Illinois Department of Financial and Professional Regulation will review, among other things, compliance by the applicant with the requirements of the Community Reinvestment Act (the “CRA”) and other information designed to determine such banks’ abilities to meet community credit needs.     The Financial Institutions Reform, Recovery and Enforcement Act of 1989 (“FIRREA”) amended the Act to authorize the FRB to allow bank holding companies to acquire any savings association (whether healthy, failed or failing) and removed “tandem operations” restrictions, which previously prohibited savings associations from being operated in tandem with a bank holding company’s other subsidiaries. As a result, bank holding companies have expanded opportunities to acquire savings associations.     Under FIRREA, an insured depository institution which is commonly controlled with another insured depository institution shall generally be liable for any loss incurred, or reasonably anticipated to be incurred, by the FDIC in connection with the default of such commonly controlled institution, or for any assistance provided by the FDIC to such commonly controlled institution, which is in danger of default. The term “default” is defined to mean the appointment of a conservator or receiver for such institution. Such liability is subordinated in right of payment to deposit liabilities, secured obligations, any other general or senior liability and any obligation subordinated to depositors and or other general creditors, other than obligations owed to any affiliate of the depository institution (with certain exceptions) and any obligations to stockholders in such capacity.     The Bank is subject to regulation by the FDIC, as well as by the Illinois Department of Financial and Professional Regulation.     Federal Reserve policy provides that a bank holding company should not pay dividends unless (i) the bank holding company’s net income over the prior year is sufficient to fully fund the dividends and (ii) the prospective rate of earnings retention appears consistent with the capital needs, asset quality and overall financial condition of the bank holding company and its subsidiaries. Additionally, the Federal Reserve possesses enforcement powers over bank holding companies and their non-bank subsidiaries to prevent or remedy actions that represent unsafe or unsound practices or violations of applicable statutes and regulations. Among these powers is the ability to prohibit or limit the payment of dividends by bank holding companies.     Delaware law also places certain limitations on the ability of the Company to pay dividends. For example, the Company may not pay dividends to its shareholders if, after giving effect to the dividend, the Company would not be able to pay its debts as they become due. Since a major potential source of the Company’s revenue is dividends the Company expects to receive from the Bank, the Company’s ability to pay dividends is likely to be dependent on the amount of dividends paid by the Bank. No assurance can be given that the Bank will, in any circumstances, pay dividends to the Company. Various statutes and regulations impose restrictions on the payment of dividends by the Bank, as described below.     Under the Illinois Banking Act (the “IBA”), the Company’s subsidiary bank is permitted to declare and pay dividends in amounts up to the amount of its accumulated net profits provided that it shall retain in its additional paid-in capital at least one-tenth of its net profits since the date of the declaration of its most recent previous dividend until such additions to additional paid-in capital, in the aggregate, equal at least the paid-in capital of the Bank. In no event may the Bank, while it continues its banking business, pay dividends in excess of its net profits then on hand (after deductions for losses and bad debts).     Under the FDIC’s current risk-based insurance assessment system, each insured depository institution is placed in one of nine risk categories based on its level of capital and other relevant information. Each insured depository institution’s insurance assessment rate is then determined by the risk category in which it has been classified by the FDIC. Under the assessment schedule applicable for the second semi-annual assessment period of 2005 to BIF-insured institutions (such as the banks), assessment rates ranged from 0% to 0.27% of deposits. In addition, each of the banks is subject to “FICO assessments” to repay obligations issued by a federally chartered corporation to provide financing for resolving the thrift crises of the 1980s. For the first quarter of 2006, the FICO assessment rate for the Bank is 1.32%. In addition, on February 1, 2006, the Federal Deposit Insurance Reform Act of 2005 (the “Insurance Reform Act”) was signed into law. The Insurance Reform Act calls for the merger of the bank insurance fund and savings association insurance fund into a single deposit insurance fund (“DIF”), which is to take place by July 1, 2006. In addition, the Insurance Reform Act increases the deposit insurance coverage limit to $250,000 for certain retirement accounts (mostly IRA’s, Keogh accounts, “457” Plans for state employees and 401(k) accounts) and indexes future insurance coverage to inflation beginning in 2011. The Insurance Reform Act also allows the FDIC to raise or lower the designated reserve ratiobetween 1.15% and 1.50% on an annual basis. It also authorizes certain one-time premium assessment credits to insured institutions, awards DIF dividends under certain circumstances, and authorizes the FDIC to revise the current risk-based system for determining assessments. The FDIC is required to promulgate regulations implementing the requirements of the Insurance Reform Act by November 2006. Until the FDIC promulgates these regulations, it is uncertain what, if any, impact this legislation will have on our operations.     The Federal bank regulators have adopted risk-based capital guidelines for holding companies and banks. The minimum ratio of qualifying total capital to risk-weighted assets, including certain off-balance sheet items (Total Capital Ratio), is 8%, and the minimum ratio of that portion of total capital that is comprised of common stock, related additional paid-in capital, retained earnings, noncumulative perpetual preferred stock, minority interests and, for bank holding companies, a limited amount of qualifying cumulative perpetual preferred stock, less certain intangibles including goodwill (Tier 1 capital), to risk-weighted assets is 4%. The balance of total capital may consist of other preferred stock, certain other instruments, and limited amounts of subordinated debt and the loan and lease loss allowance.     The Federal Reserve Board risk-based capital standards contemplate that evaluation of capital adequacy will take account of a wide range of other factors, including overall interest rate exposure; liquidity, funding and market risks; the quality and level of earnings; investment, loan portfolio, and other concentrations of credit; certain risks arising from nontraditional activities; the quality of loans and investments; the effectiveness of loan and investment policies; and management’s overall ability to monitor and control financial and operating risks including the risks presented by concentrations of credit and nontraditional activities.     In addition, the Federal Reserve has established minimum Leverage Ratio (Tier 1 capital to quarterly average total assets) guidelines for bank holding companies and banks. These guidelines provide for a minimum Leverage Ratio of 4% for bank holding companies and banks. The 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. Furthermore, the guidelines indicate that the Federal Reserve Board will continue to consider a “Tangible Tier 1 Leverage Ratio” in evaluating proposals for expansion or new activities. The Tangible Tier 1 Leverage Ratio is the ratio of Tier 1 capital, less intangibles not deducted from Tier 1 capital, to quarterly average total assets. At December 31, 2005, the Company had a Tangible Tier 1 Leverage Ratio of 9.74%%.                                       TIER 1   TOTAL             RISKED-BASED   RISKED-BASED     LEVERAGE RATIO   RATIO   RATIO Company Ratio as of December 31, 2005     9.74 %     14.88 %     16.14 %                           Well Capitalized   Not Applicable   6% or above   10% or above Adequately Capitalized   4% or above   4% or above   8% or above      The Bank, on May 17, 2005, approved and signed a memorandum of understanding (“MOU”) with the Federal Deposit Insurance Corporation and the Illinois Department of Financial and Professional Regulation. The MOU requires the Bank to restore Tangible Tier 1 Leverage Ratio to 8% should this ratio fall below the 8% level. At December 31, 2005, the Company had a Tangible Tier 1 Leverage Ratio of 9.74% and the Bank’s Tangible Tier 1 Leverage Ratio was 8.61%. For more detailed informationregarding the MOU, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations”.                                       TIER 1   TOTAL             RISKED-BASED   RISKED-BASED     LEVERAGE RATIO   RATIO   RATIO Bank Ratio as of December 31, 2005     8.61 %     13.16 %     14.42 %                           Well Capitalized   5% or above   6% or above   10% or above Adequately Capitalized   4% or above*   4% of above   8% or above Undercapitalized   Less than 4%   Less than 4%   Less than 8% Significantly Undercapitalized   Less than 3%   Less than 3%   Less than 6%           RATIO OF     TANGIBLE     EQUITY TO     TOTAL ASSETSCritically Undercapitalized   2% or below *   3% for banks with the highest CAMEL (supervisory) rating.      The Federal Deposit Insurance Corporation Improvement Act of 1991 (“FDICIA”) substantially revised the bank regulatory and funding provisions of the Federal Deposit Insurance Act and made revisions to several other federal banking statutes. In general, FDICIA subjects depository institutions to significantly increased regulation and supervision. Among other things, FDICIA requires federal bank regulatory authorities to take “prompt corrective action” with respect to depository institutions that do not meet minimum capital requirements, and imposes certain restrictions upon depository institutions which meet minimum capital requirements but are not “well capitalized” for purposes of FDICIA. FDICIA and the regulations adopted under it establish five capital categories as shown above, with the category for any institution determined by the lowest of any of these ratios shown above.     An insured depository institution may be deemed to be in a capital category that is lower than is indicated by its capital ratios if it receives an unsatisfactory rating by its examiners with respect to its assets, management, earnings or liquidity.     Under FDICIA, a bank that is not well capitalized is generally prohibited from accepting or renewing brokered deposits and offering interest rates on deposits significantly higher than the prevailing rate in its normal market area or nationally (depending upon where the deposits are solicited); in addition, “pass through” insurance coverage may not be available for certain employee benefit accounts.     FDICIA generally prohibits a depository institution from making any capital distribution (including payment of a dividend) or paying any management fee to its holding company if the depository institution would thereafter be undercapitalized. Undercapitalized depository institutions are subject to limitations on growth and are required to submit a capital restoration plan, which must be guaranteed by the institution’s parent company. Institutions that fail to submit an acceptable plan, or that are significantly undercapitalized, are subject to a host of more drastic regulatory restrictions and measures.     The Company is considered “well capitalized” as defined under the regulations of the Federal Reserve. The Bank is considered “well capitalized” according to FDICIA guidelines as of December 31, 2005.     Federal and state statutes and regulations provide financial institution regulatory agencies with great flexibility to undertake enforcement action against an institution that fails to comply with regulatory requirements, particularly capital requirements. Possible enforcement actions range from the imposition of a capital plan and capital directive to, in the most severe cases, placing the institution into conservatorship or receivership or terminating deposit insurance.     FDICIA directs that each federal banking agency prescribe standards for depository institutions or depository institutions’ holding companies relating to internal controls, information systems, internal audit systems, loan documentation, credit underwriting, interest rate exposure, asset growth, compensation, a maximum ratio of classified assets to capital, minimum earnings sufficient to absorb losses and other standards as they deem appropriate. Many regulations implementing these directives have been adopted by the agencies.     As an insured depository institution, the Bank is subject to regulations requiring depository institutions to maintain reserves against a specified percentage of transaction accounts (primarily NOW and regular checking). Reserves are maintained in the form of vault cash or non-interest bearing deposits with the FRB. The FRB regulations generally require 3% reserves on the first $48.3 million of transaction accounts; however, the first $7.8 million of these otherwise reservable balances (subject to adjustments by the FRB) are exempted from the 3% reserve requirement. Net transaction balances over $48.3 million are subject to a reserve requirement of 10%. The Bank is in compliance with the forgoing requirements.     Under the Bank Secrecy Act (“BSA”), a financial institution is required to have systems in place to detect certain transactions, based on the size and nature of the transaction. Financial institutions are generally required to report cash transactions involving more than $10,000 to the United States Treasury. In addition, financial institutions are required to file suspicious activity reports for transactions that involve more than $5,000 and which the financial institution knows, suspects or has reason to suspect involves illegal funds, is designed to evade the requirements of the BSA or has no lawful purpose. In addition, the BSA requires banks to comply with recently adopted customer identification procedures when opening accounts for new customers. The USA PATRIOT Act of 2001, enacted in response to the September 11, 2001 terrorist attacks, requires bank regulators to consider a financial institution’s compliance with the BSA when reviewing applications.     Under the Community Reinvestment Act (“CRA”), a financial institution has a continuing and affirmative obligation, consistent with the safe and sound operation of such institution, to serve the “convenience and needs” of the communities in which they are chartered to do business, including low and moderate income neighborhoods. The CRA does not establish specific lending requirements or programs for financial institutions nor does it limit an institution’s discretion to develop the types of products and services that it believes are best suited to its particular community as long as they are consistent with the CRA. The CRA requires each federal banking agency, in connection with its examination of a financial institution, to assess and assign one of four ratings to the institution’s record of meeting the credit needs of its community and to take such record into account in its evaluation of certain applications by the institution, including applications for charters, branches and other deposit facilities, relocations, mergers, consolidations and acquisitions of assets or assumptions of liabilities. The CRA also requires that all institutions make public disclosure of their CRA ratings. The Bank received a “satisfactory” rating on its most recent CRA examination in March 2004.Item 1A. Risk Factors     Our business, financial condition and results of operations are subject to various risks, including those discussed below, which may affect the value of our common stock. Set forth below are certain risk factors which we believe to be relevant to an understanding of our business. This list should not be considered a comprehensive list of all potential risks and uncertainties. You should also refer to the other information included or incorporated by reference in this Form 10-K, including our consolidated financial statements and related notes for the year ended December 31, 2005.     Significant risk factors include:      Interest rate risk — Our earnings and profitability depend significantly on our net interest income, which is the difference between the interest earned on loans and investments and the interest paid on deposits and borrowings. Since interest rates can fluctuate in response to general economic conditions and the policies of various governmental and regulatory agencies, including the Federal Reserve Board, our asset-liability management strategy may not be able to prevent changes in interest rates from having a material adverse effect on our earnings.      Geographic risk — We operate primarily in the Chicago market and a prolonged economic downturn in this market could have a negative impact on earnings.      Credit Risk — Our loan customers may not repay their loans according to their terms and the collateral may be insufficient to repay the loan. Management makes various assumptions in determining the adequacy of the allowance for loan and lease losses and if those assumptions are incorrect, the result could have an adverse affect on earnings. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations” for discussion of our allowance for loan and lease losses.      Regulatory Risk — We are subject to extensive federal and state legislation and supervision which governs nearly every aspect of our business. The burden of compliance has in the past and will continue to have an impact on the banking industry and changes to these laws could affect our ability to deliver or expand our services. See “Supervision and Regulation”.      Industry Risk — We operate in a rapidly changing environment having numerous competitors including other banks and insurance companies, securities dealers, trust and investment companies and mortgage bankers. Our profitability depends upon our continued success in competing in the Chicago market.      Operational Risk — We are subject to operations risks, including, but not limited to, an interruption or breach in security of information systems, customer or employee fraud and catastrophic failures. While we maintain a system of internal controls and insurance coverage where applicable, an event may occur that has an adverse affect on earnings.      Personnel Risk — Our success depends upon the continued service of our senior management team and our ability to attract and retain qualified financial services personnel. Loss of key personnel could negatively impact our earnings through loss of their customer relationships and the potential difficulty promptly replacing officers in this competitive environment.Item 1B. Unresolved Staff Comments     Not Applicable.