ITEM 1. BUSINESS
Provident Bankshares Corporation ("the Corporation"), a Maryland corporation, was organized in 1987 by the management of Provident Bank of Maryland ("the Bank"), and registered as a bank holding company under the Bank Holding Company Act of 1956. Through a reorganization dated December 22, 1987, the Corporation became the sole stockholder of the Bank. The reorganization allowed the Bank to convert from a Maryland chartered mutual savings bank, the form in which it had operated since 1886, to a Maryland chartered stock commercial bank. At December 31, 1996, the Bank was the second largest commercial bank chartered under the laws of the State of Maryland in terms of assets. For the discussion regarding lending and investment activities as well as sources of funds of the Corporation, see pages 14 through 21.
MORTGAGE BANKING ACTIVITIES Provident Mortgage Corp. ("PMC"), a subsidiary of the Bank, was formed in 1992 in conjunction with the acquisition of Consolidated Mortgage Corporation, ("CMC") which occurred during July 1992. The purpose of PMC is to offer a broad range of mortgage lending products to consumers and thereby enhance the Corporation's mortgage banking operations.
BANKING SERVICES ACTIVITIES Provident Investment Center, Inc. ("PIC"), a subsidiary of the Bank, was formed in 1993 to provide consumers a competitive range of banking products, such as purchased annuities and mutual funds.
INSURANCE ACTIVITIES BankSure Insurance Corporation ("BankSure"), a subsidiary of the Bank, was formed by the Bank in 1985 for the purpose of offering insurance products to its loan customers and thereby enhancing the Bank's lending product lines.
REAL ESTATE ACTIVITIES The Bank owns approximately 49,000 square feet of real estate adjacent to the Corporation's headquarters building. Management plans to utilize this real estate to meet future space requirements of the Corporation.
EMPLOYEES At December 31, 1996, the Corporation and its subsidiaries had 966 employees. The Corporation currently maintains what management considers to be a comprehensive, competitive employee benefits program. Employees are not represented by a collective bargaining unit and management considers its relationship with its employees to be good.
COMPETITION The Corporation encounters substantial competition in all areas of its business. There are three commercial banks based in Maryland with assets in excess of $1 billion. The Bank also faces competition from savings and loan associations, savings banks, mortgage banking companies, credit unions, insurance companies, consumer finance companies, money market and mutual funds and various other financial services firms. Current federal law allows acquisitions of bank holding companies nationwide. Further, Maryland law in some instances allows acquisitions among banks in Maryland with banks in other states, provided that the other jurisdiction has approved reciprocal interstate banking legislation. As a consequence of these developments, competition in the Bank's principal market may increase, and a consolidation of financial institutions in Maryland may occur.
REGULATION The Corporation is registered as a bank holding company, under the Bank Holding Company Act of 1956. As such, the Corporation is subject to regulation and examination by the Federal Reserve Board, and is required to file periodic reports and any additional information that the Federal Reserve Board may require. The Bank Holding Company Act imposes certain restrictions upon the Corporation regarding the acquisition of substantially all of the assets of or direct or indirect ownership or control of any bank of which it is not already the majority owner; or, with certain exceptions, of any company engaged in nonbanking activities.
The Bank is subject to supervision, regulation and examination by the Bank Commissioner of the State of Maryland and the Federal Deposit Insurance Corporation. Asset growth, deposits, reserves, investments, loans, consumer law compliance, issuance of securities, payment of dividends, establishment of branches, mergers and consolidations, changes in control, electronic funds transfer, management practices and other aspects of operations are subject to regulation by the appropriate federal and state supervisory authorities. The Bank is also subject to various regulatory requirements of the Federal Reserve Board applicable to FDIC insured depository institutions.
MONETARY POLICY The Corporation and the Bank are affected by fiscal and monetary policies of the federal government, including those of the Federal Reserve Board, which regulates the national money supply in order to mitigate recessionary and inflationary pressures. Among the techniques available to the Federal Reserve Board are engaging in open market transactions of U.S. Government securities, changing the discount rate and changing reserve requirements against bank deposits. These techniques are used in varying combinations to influence the overall growth of bank loans, investments and deposits. Their use may also affect interest rates charged on loans and paid on deposits. The effect of governmental policies on the earnings of the Corporation and the Bank cannot be predicted.
ITEM 2.
ITEM 2. PROPERTIES
In December 1990, the Bank sold its corporate headquarters located at 114 East Lexington Street, Baltimore, Maryland, and simultaneously leased back these facilities for an initial twelve year lease term. The Bank has 44 offices located throughout the Baltimore metropolitan area. The Bank owns 6 and leases 38 of its offices. Most of these leases provide for the payment of property taxes and other costs by the Bank and include one or more renewal options ranging from five to ten years. Some of the leases also contain a purchase option. In 1993, the Bank renewed a long-term agreement to lease a one-story building large enough to consolidate operations and support functions. The Bank currently leases all of the building's 80,000 square feet of space.
ITEM 3.
ITEM 3. LEGAL PROCEEDING
Refer to Note 12 of Item 8 - -"Financial Statements and Supplementary Data."
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO VOTE OF SECURITY HOLDERS
None
PART II
ITEM 5.
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The common stock of Provident Bankshares Corporation is traded over-the-counter and is quoted in the NASDAQ Stock Market. Such over-the-counter market quotations reflect inter-dealer prices, without retail mark-up, mark-down or commission and may not necessarily represent actual transactions. The NASDAQ symbol is PBKS. The trading range of Provident's common stock for the years 1996 and 1995 is shown in the table of Consolidated Quarterly Results of Operations, Market Prices and Dividends contained on page 13 of Management's Discussion and Analysis (Item 7). At January 31, 1997, there were approximately 2,709 holders of record of the Corporation's common stock. For the year 1996, the Corporation declared and paid dividends of $.72 per share of common stock outstanding. See Note 10 of Notes to Consolidated Financial Statements of Provident Bankshares Corporation and Subsidiaries for a discussion of the effect of the liquidation account of the Bank on the ability of the Corporation to pay dividends. Certain provisions of Maryland banking law impose limitations on the amount of dividends payable by the Corporation, but none is as restrictive as the liquidation account.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANAYLSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
FINANCIAL REVIEW
The principal objective of this Financial Review is to provide an overview of the financial condition and results of operations of Provident Bankshares Corporation and its subsidiaries for the three years ended December 31, 1996. The outlook for the Corporation based upon current trends and actions taken during the year is also included. This discussion and tabular presentations should be read in conjunction with the accompanying financial statements and notes. Provident Bankshares Corporation ("the Corporation"), through its wholly-owned subsidiary, Provident Bank of Maryland ("the Bank"), offers consumer and commercial banking services throughout central Maryland. The Bank offers related financial services through its wholly-owned subsidiaries, including mortgages through Provident Mortgage Corp. (PMC), and mutual funds and annuities through Provident Investment Center (PIC). The Corporation recorded significantly improved operating results in 1996, as earnings totaled $23 million or $2.60 per share on a fully diluted basis, a 28% increase over the $18.0 million or $2.10 (adjusted for 5% stock dividend) per share earned in 1995. The growth in net earnings was attributable to an $8.4 million rise in tax-equivalent net interest income and a $16.2 million increase in non-interest income. These increases were partially offset by an $8.7 million increase in operating expenses and $8.4 million rise in the provision for loan losses. These variances are discussed in more detail beginning on the following pages.
FINANCIAL TRENDS
[The following tables are representative of graphs shown on page 6 of the Annual Report.]
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RESULTS OF OPERATIONS
NET INTEREST INCOME
The Corporation's principal source of revenue is net interest income, the difference between interest income on earning assets and interest expense on deposits and borrowings. Interest income, for purposes of analysis, is presented on a tax-equivalent basis to recognize associated tax benefits as this presentation provides a basis for comparison of yields with taxable earning assets. The discussion on net interest income should be read in conjunction with the table 2 -- "Analysis of Changes in Net Interest Income" and table 3 "Consolidated Average Balances -- Interest Income and Expense and Yields and Rates". Tax-equivalent net interest income for 1996 increased $8.4 million or 10.1% from 1995 as average earning assets grew $286 million over the prior year. Net interest margin dropped by 7 basis points primarily caused by lower yields on interest earning assets. Provident's interest income increased $19.7 million or 10.9% during the year primarily due to the growth in average earning assets offset in part by a 10 basis point decrease in yield. The decrease in yield was mainly due to a slightly lower interest rate environment. The increase in average earning assets resulted from a $178 million increase in the loan portfolios and $101 million increase in the investment portfolio. Consumer loans grew $346 million offset by a decline of $265 million in the residential mortgage portfolio, the result of a $282 million securitization at the end of 1995. The commercial business and real estate construction portfolios also experienced growth. Interest income earned on the loan portfolio increased $13.8 million reflecting higher loan outstandings. Average investments increased $101 million during the period mainly due to the securitization described above. The yield on investments and loans fell 17 basis points and 7 basis points, respectively. Interest lost from non-accruing loans was $440 thousand compared to $302 thousand in 1995. Interest expense increased $11.2 million from 1995 resulting from a $245 million growth in average interest bearing liabilities. The overall cost of funds remained relatively flat during 1996 as costs on total interest bearing liabilities declined one basis point. Excluding the effect of off-balance sheet positions in each year, total costs of interest bearing liabilities would have declined 14 basis points. The average rate paid on borrowed funds decreased 19 basis points during 1996. The increase in average interest bearing liabilities reflects a $79.6 million rise in borrowed funds and a $165 million increase in interest bearing deposits, $105 million of which is associated with matched maturity brokered deposits. Non-interest bearing demand deposit accounts grew by $22 million or 19%. Future growth in net interest income will depend upon consumer and commercial loan demand and the general level of interest rates. Please refer to the section entitled "Interest Sensitivity Management" on page 23 for further discussion of the impact of current trends on net interest income in 1996.
The table above analyzes the reasons for the changes from year-to-year in the principal elements that comprise net interest income. The calculation of rate, volume and rate/volume variances is based upon a procedure established for banks by the Securities and Exchange Commission. Rate, volume and rate/volume variances presented for each component will not total to the variances presented on totals of interest income and interest expense because of shifts from year-to-year in the relative mix of interest-earning assets and interest-bearing liabilities.
PROVISION FOR LOAN LOSSES
The provision for loan losses increased $8.4 million to $9.9 million in 1996. The increase was the result of overall growth in the loan portfolio of $406 million and a $5 million write-off of a single commercial credit. The corporation continues to emphasize quality underwriting as well as aggressive management of prior charge-offs and potential problem loans. Net charge-offs were $6.6 million in 1996 compared to $976 thousand in 1995. The increase is mainly associated with the single commercial credit noted above. Net charge-offs as a percentage of average loans were .42% in 1996 compared to .07% in 1995. Absent the commercial credit charge-off, net charge-offs as a percentage of average loans for 1996 were .08%. Non-accrual loans ended the year at $13.9 million, an increase of $5.5 million over December 31, 1995, primarily caused by the $322 million growth in consumer loans. A further discussion of the allowance for loan losses, net charge-offs and non-performing assets appears on pages 17 and 19.
NON-INTEREST INCOME
Non-interest income is principally derived from fee-based services, mortgage banking activities and gains on investment securities sales. Total non-interest income increased 56% to $45.5 million. Excluding net securities gains (losses) and interest income from a federal income tax refund, non-interest income increased $13.8 million or 53%.
The table below presents a comparative summary of the major components of non- interest income.
Loan fees increased $640 thousand from 1995. Retail loan fees increased $435 thousand while commercial fees were up $205 thousand. These increases are tied to an increase in loan volume. Deposit service charges rose 44% over the prior year due to a 51% or $4.7 million increase in retail demand deposit service fees. Interest-bearing demand deposits grew $18.5 million or 13.4% over last year while noninterest-bearing deposits increased $23.5 million or 19.6%. These increases are the result of continued promotion and sales efforts of retail deposit products. Income from mortgage banking activities increased $4.4 million, $3.9 million due to higher gains on the sale of mortgage loans. Gains from mortgage servicing rights increased $712 thousand offset in part by lower origination income of $562 thousand. Mortgage originations during the year declined $29 million to $388 million. This drop in originations reflects the decision to divest five mortgage origination offices in Pennsylvania and New Jersey. Provident Investment Center (PIC), a wholly owned subsidiary of the Bank offers annuities and mutual funds through an affiliation with a securities broker-dealer. Through concentrated sales efforts, additional licensing and training of branch sales personnel, income associated with these products increased by $689 thousand to $1.8 million. The Financial Accounting Standards Board issued Statement of Financial Accounting Standards ("SFAS") No. 125/127 -- "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities" which become effective for the Corporation in 1997. These Statements provide accounting and reporting standards for transfers and servicing of financial assets and extinguishments of liabilities. These Statements are not expected to have any material affect on the results of the Corporation.
NON-INTEREST EXPENSE
Non-interest expense is composed primarily of costs associated with employees' salaries and benefits, bank facilities, external data processing and regulatory fees. Provident's non-interest expense of $91.8 million represented a 10.4% increase, compared to a 4.8% increase in 1995. The table below presents a comparative summary of the major components of non-interest expense.
Salaries and benefits increased $4.7 million during the year. Compensation increased $4.0 million while health insurance was up $272 thousand. Pension expense declined $923 thousand while the 401K match was up $693 thousand. The rise in compensation is attributable to merit increases, new branches and staffing our new Fast 'n Friendly Check Cashing centers. Commissions associated with increased activity within Provident Investment Center, Inc. and maintaining Saturday hours at most of our branches also contributed to increased compensation expense. The lower pension cost is due to the change in the pension plan to a cash balance plan. Health care claims experience led to the increase in health insurance expense. Occupancy costs grew $376 thousand or 4.9% over last year mainly due to additional rent and leasehold improvements in the branch network as well as additional space requirements at our headquarters and operations buildings. Total furniture and equipment expense increased $1.1 million as technology in the bank's office automation and branch platform systems continues to be upgraded. During the year, mortgage loan servicing was out-sourced and account volume grew causing external processing to increase $2.4 million or 30%.
INCOME TAXES
Provident recorded income tax expense of $12.1 million on pre-tax income of $35.1 million for an effective tax rate of 34.4%. This compares with a 34.5% effective tax rate for 1995.
FOURTH QUARTER RESULTS
Provident recorded net income of $6.2 million or $.70 per share in the fourth quarter of 1996, an increase of $1.1 million or 22% over the $5.1 million or $.59 per share recorded in the same period last year. The higher earnings are principally due to a 7.8% increase in net interest income, higher non-interest income and lower tax expense. Higher operating expenses and loan loss provision partially offset these increases. Tax-equivalent net interest income in the fourth quarter rose $1.7 million to $23.9 million as the net interest margin declined 10 basis points to 3.54% and average earning assets grew $268 million to $2.7 billion. The decrease in the net interest margin primarily reflected a lower interest rate environment for earning assets as well as the cost of off balance sheet transactions used in interest rate risk management.
The Corporation recorded a provision for loan losses of $2.3 million during the quarter to provide for loan growth in the portfolio. Non-interest income increased 14 percent to $10.4 million. The increase is derived from fee based services as a result of higher account volumes, security gains and settlement of litigation. Fee income from retail fees increased $1.3 million and net security gains increased $432 thousand. These increases were partially offset by lower mortgage banking income mainly associated with lower sales of mortgage servicing rights and lower volume. Non-interest expense increased $1.4 million to $23.5 million because of higher compensation, advertising and promotion, and external processing expense. External processing costs rose $491 thousand due to increased account volume and outsourcing of mortgage processing. In addition, furniture and equipment expense increased $289 thousand associated with upgrading technology. Other non-interest expense increased $584 thousand mainly related to consulting and legal fees.
The following table presents quarterly trend data for 1996 and 1995.
FINANCIAL CONDITION
SOURCE AND USE OF FUNDS
DEPOSITS
The following table presents information concerning the Bank's average deposits and rates for the respective years.
The table below presents information at December 31, 1996, with respect to the maturity of Certificates of Deposit of $100,000 or more.
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[The following table is representative of the bar graph shown on the top of page 15 of the Annual Report to Stockholders.]
- ------------------------------------------------------------------------------- The graph above reflects the steady growth in deposits over the respective years. A major portion of Provident's funding comes from core deposits which consists of consumer and commercial transaction accounts and consumer savings and time deposits. These deposits are generated through the Bank's 44 branch banking locations. At December 31, 1996, core deposits represented 78% of total deposits and 53% of total liabilities. Provident's future funding growth is expected to be generated from deposit growth through strategies outlined below. The branch network strategy includes traditional full service branch locations supplemented with in-store branches. In-store branch locations are comprised of supermarket locations with plans in 1997 for locations in national retail superstores. Provident Bank of Maryland as of December 31, 1996 had 34 traditional branch locations and 10 in-store branches. The Corporation has an agreement with Super Rite Corporation to operate branches in their Metro and Basic supermarkets in the Baltimore Metropolitan area. Provident will selectively look for additional branch opportunities complementary to existing locations when the cost of entry is reasonable. The Corporation has two traditional branches and six in-store branches planned for 1997. Provident continues to attract increased commercial and retail deposits. Retail demand deposit balances at December 31, 1996 were up $35.5 million or 18% compared to year end 1995. During 1996, the Bank opened four Fast 'n Friendly Check Cashing centers with the purpose of offering alternative banking services. The Corporation has two new centers planned for 1997. Table 7 presents the average deposit balances and rates paid for the five years ended December 31, 1996. As this table indicates, Provident has a stable base of consumer savings deposits. During 1996, average deposits grew $188 million or 12.5% compared to 1995. Money market/demand deposits and noninterest-bearing deposits increased $52.5 million or 14.9%. This growth reflects Provident's emphasis on full banking relationships with its retail and commercial customers. Average time deposits increased $119.2 million or 21%, $105.1 million of which is attributable to matched maturity brokered deposits. Brokered deposits are utilized as a cheaper source of funds compared to other available sources of borrowed money whose terms can be matched against the assets funded. Savings deposits increased $16.1 million as a result of successful cross sell efforts by our branch personnel.
CREDIT RISK MANAGEMENT
Much of the fundamental business of Provident is based upon understanding, measuring and controlling credit risk. Credit risk entails both general risk, which is inherent in the process of lending, and risk specific to individual borrowers. Each consumer and residential lending product has a generally predictable level of credit loss. For example, loans with generally low credit loss experience include home mortgage and home equity loans. Loans with medium credit loss experience are primarily secured products such as auto and marine loans. The category with high credit loss experience includes unsecured products such as personal revolving credit. In commercial lending, losses as a percentage of outstanding loans can vary widely from period to period and are particularly sensitive to changing economic conditions. The evaluation of specific risk is a basic function of underwriting and loan administration, involving analysis of the borrower's ability to service debt as well as the value of pledged collateral. Policies and procedures have been developed which specify the appropriate credit approval and monitoring for the various types of credit offered. The Bank employs prudent lending practices and adheres to regulatory requirements including loan to value ratios and legal lending limits. These procedures are modified periodically in order to reflect changing conditions and new products. The Bank's lending and loan administration staffs are charged with reviewing the loan portfolio, identifying changes in the economy or in a borrower's circumstances which may affect the ability to repay debt or the value of pledged collateral. In order to assess and monitor the degree of risk in the loan portfolio, credit risk identification and review processes are utilized. Credit risk analysis assigns a grade to each commercial loan based upon an assessment of the borrower's financial capacity to service the debt and the presence and value of collateral for the loan. An independent loan review function tests risk assessment and determines the adequacy of the allowance for loan losses. The Financial Accounting Standards Board issued Statements of Financial Accounting Standards ("SFAS") No. 114/118 -- "Accounting by Creditors for Impairment of a Loan" which became effective for the Corporation in 1995. These Statements require creditors to evaluate the collectibility of contractually due principal and interest on commercial credits to assess the need for providing for losses. The Corporation's credit procedures require monitoring of commercial credits to determine the collectibility of such credits. If a loan is identified as impaired, it will be placed on non-accrual status and recorded according to the provisions of the SFAS No. 114/118. As of December 31, 1996, there were no commercial loans considered to be impaired.
LOANS
The following table sets forth information concerning the Bank's loan portfolio by type of loan at December 31.
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Provident offers a diversified mix of residential and commercial real estate, business and consumer loans. As shown in table 9, the mix of loans outstanding has shifted to more consumer orientation over the past five years. Growth in 1996 was experienced in all categories. Provident's residential mortgage lending includes the origination, sale and servicing of fixed and variable rate mortgage loans. Loans are originated through the offices of Provident Mortgage Corp. Mortgage origination activity in 1996 showed a slightly lower volume as originations totaled $388 million in 1996 compared to $417 million in 1995. In 1997, originations are projected to exceed 1996's production as more emphasis is being placed on the wholesale segment of the business. The residential real estate mortgage loan balance at December 31, 1996 was $127 million compared to $123 million at the end of the prior year. The servicing of residential mortgage loans may be retained or sold. During 1996, $413 million of bulk servicing was sold contributing $3.2 million to the total mortgage banking revenues. In addition, $227 million of loans sold servicing released contributed an additional $3.2 million. The mortgage servicing portfolio ended the year at $441 million. The Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 122 -- "Accounting for Mortgage Servicing Rights" -- which became effective for the Corporation in 1996. This statement requires mortgage banking enterprises that acquire mortgage servicing rights through either the purchase or origination of mortgage loans, and sells, or securitizes, those loans with servicing retained, to allocate the cost of the mortgage loans to the mortgage servicing rights and the loans. Provident offers a wide range of loans to consumers including installment loans, home equity loans, and personal lines of credit. In addition, the Bank may purchase portfolios of quality consumer loans from other financial institutions. All purchased portfolios go through a thorough due diligence process prior to a purchase commitment. Provident's portfolio of acquired loans increased $123 million on average, ending the year at $422 million, and is predominately comprised of second mortgages.
Consumer credit originated by Provident ended the year with a balance of $678.6 million, an increase of 37%. The majority of the increase is the result of automobile loans made through a network of auto dealerships in Maryland, Delaware, Pennsylvania and Virginia. Auto loans made through this network of dealerships grew $132 million, ending the year at $279.3 million. Marine loan balances grew $32 million during 1996, totaling $166.4 million at year-end, and were produced primarily through correspondent brokers. Home equity lines of credit increased $6 million during the year and totaled $142.6 million at the end of 1996. Provident's focus in commercial real estate lending has been on financing commercial and residential construction, as well as on intermediate-term commercial mortgages. Properties securing the loans include office buildings, shopping centers, apartment complexes, warehouses, residential building lots and developments. Commercial real estate mortgage loans increased $13.5 million or 9.1% while commercial construction loans decreased $2.6 million or 21.3%. Residential construction loans increased $24.1 million or 36.6% to end the year at $90.0 million. Provident's commercial loan portfolio consists of general business loans, including asset-based loans, primarily to small and medium sized businesses in the central Maryland region. The Bank stresses the importance of asset quality as well as the development of new marketing programs. Outstandings for the commercial loan portfolio were $250.4 million, an increase of $44.5 million from December 31, 1995. Provident has minimal exposure to highly leveraged transactions ("HLTs"). HLTs totaled $20.1 million as of year-end, and all are performing in accordance with their contractual terms.
NON-PERFORMING ASSETS AND PAST DUE LOANS
Non-performing assets include loans on which interest is no longer accrued and real estate and other assets that have been acquired through foreclosure or repossession. Past due loans are loans that are 90 days or more past due as of December 31 and still accruing interest because they are well secured and in the process of collection. Information with respect to non-performing assets and past due loans is presented in table 10 for the years indicated. As shown in the table, total non-performing assets increased $5.6 million, mainly in the consumer loan portfolio and past due loans increased $2.4 million, mainly in the residential mortgage loans. The $4.9 million increase in non-performing consumer loans is a result of a $322 million or 41% growth in the consumer loan portfolio. As of December 31, 1996, non-performing assets and past due loans ended the year at $14.8 million and $8.1 million, respectively. (See the discussion under Loans) The $7.8 million in past due residential mortgage loans are guaranteed or insured by an agency of United States government and no significant loss is anticipated. Non-performing commercial loans remained relatively unchanged from year to year.
[The following is representative of the bar graph shown in the middle of page 17 of the Annual Report to Stockholders.]
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The ratio of total non-performing loans to year-end loans grew to .80% from .64% at the end of 1995. The increase is mainly attributable to the growth in consumer loans. Presented below is interest income that would have been recorded on all non-accrual loans if such loans had been paid in accordance with their original terms and the interest income on such loans that was actually collected for the year.
ALLOWANCE FOR LOAN LOSSES
The following table reflects the allowance for possible loan losses and the activity during each of the respective years.
Provident maintains an allowance for loan losses which is available to absorb potential losses. The allowance is reduced by actual credit losses and is increased by the provision for loan losses and recoveries of previous losses. Determination of the adequacy of the allowance, which is performed quarterly, is accomplished by assigning specific reserves to individually identified problem credits and general reserves, based on historic and anticipated loss experience, to all other loans. The continued emphasis on loan quality and close monitoring of potential problem credits has resulted in a strong credit portfolio. Senior managers meet at least monthly to review the credit quality of the loan portfolios and at least quarterly with Executive Management to review the adequacy of the allowance for loan losses. The allowance is determined by management's evaluation of the composition and risk characteristics of the loan portfolio. Based upon the evaluation of credit risk, provisions, in the form of charges to operations, are made to bring the allowance up to a level management believes is adequate. An analysis of the loan portfolio was performed at December 31, 1996, and expected losses have been provided for in the allowance for loan losses. During 1996 the loan loss allowance increased $3.4 million to $24.8 million at year-end. The allowance as a percentage of total loans decreased from 1.61% to 1.43%, primarily from the growth in loans during the year. The allowance for loan losses as a percentage of non-accrual loans was 178% at December 31, 1996, compared to 253% the prior year. This decrease is attributable to the increase in non-accrual loans as discussed above. The portion of the allowance which is allocated to non-accrual loans is determined by estimating the potential loss on each credit after giving consideration to the value of underlying collateral.
Provident maintains a loan classification and review system to identify those loans with a higher than normal risk of uncollectibility. Estimated potential losses from internally criticized loans have been provided for in determining the allowance for loan losses.
The table below reflects the allocation of the allowances for loan losses to the various loan categories as required by the Securities and Exchange Commission. The entire allowance for loan losses is available to absorb losses from any type of loan.
INVESTMENT SECURITIES
The following table sets forth information concerning the Bank's investment securities portfolio at December 31.
Provident's investment activities include management of the $913 million investment securities portfolio. The investment securities portfolio includes mortgage-backed securities, U.S. Government securities, municipals and corporate notes. In addition to investment securities, the Corporation invests in federal funds sold, reverse repos, mortgage loans held for sale and other short-term investments (referred to in total as the investment portfolio). The strategies employed in the management of these portfolios depend upon the liquidity, interest sensitivity and capital objectives and requirements of the Corporation. The Treasury Division executes these strategies. During 1996, Provident continued to enjoy a strong capital position, a high degree of liquidity, and a substantial level of core deposits. Management's principal objectives for the investment portfolio during 1996 were to maintain an appropriate level of quality, to insure sufficient liquidity in various interest rate environments while maximizing yield and to increase net income by utilizing excess capital. To successfully achieve these objectives, the Corporation employs off balance sheet and on balance sheet strategies. Total investment securities decreased $136 million during 1996 as a result of shifting funds into the higher yielding loan portfolios. The Corporation applies the provisions of Statement of Financial Accounting Standards No. 115 which requires investment securities to be segregated into three categories: 1) held to maturity, 2) trading, and 3) available for sale. Based on the provisions of the standard, all securities in the available for sale category must be measured at fair market value. The resulting gain or loss is excluded from revenue but is shown as a change in shareholders' equity. Trading securities must be measured at fair value and changes included in income for the period. Securities designated as held to maturity are carried at amortized cost. As of December 31, 1996, $883 million of the Corporation's $913 million investment securities portfolio was classified as available for sale. At December 31, 1996, the available for sale portfolio included net unrealized losses of approximately $2.1 million, compared to net unrealized gains of $11.1 million at December 31, 1995. In addition to unrealized gains and losses, Provident realized $5.97 million in gains and $467 thousand in losses from the sale of securities from the available for sale portfolio in 1996. These sales were the result of management's continuous monitoring of the investment securities portfolio in terms of both credit quality and interest sensitivity. As of December 31, 1996, the Corporation had no investments classified as trading securities.
LIQUIDITY AND SENSITIVITY TO INTEREST RATES
The following table presents the contractual maturities and interest yields of the Bank's investment securities portfolio at December 31, 1996.
LIQUIDITY
An important component of the Bank's asset/liability structure is the level of liquidity available to meet the needs of customers and creditors. Traditional sources of bank liquidity include deposit growth, loan repayments, maturities of investment securities and money market investments, asset sales, borrowings and interest received. Provident's Asset/Liability Management Committee has established general guidelines for the maintenance of prudent levels of liquidity. The committee continually monitors the amount and source of available liquidity, the time required to obtain it and its cost. Management believes the Bank has sufficient liquidity to meet funding needs in the foreseeable future. The primary sources of liquidity at December 31, 1996 were loans held for sale and investment securities available for sale, which totaled $915 million. This represents 35% of total liabilities compared to 46% at December 31, 1995. Maturities of investment securities, as table 14 indicates, is expected to generate $125 million in funds in 1997 and $509 million, or 56%, of the portfolio within the next five years. Another source of liquidity is scheduled loan repayments within one year reflected in table 15, which totaled $245 million or 14% of loans. The liquidity amounts presented are contractual maturities exclusive of prepayments. Core deposits are valuable in assessing liquidity needs because they tend to be stable with little net short or intermediate-term withdrawal demands by customers. At year-end, core deposits represented $1.4 billion, or 60%, of total liabilities and 56% of total assets. An important element in liquidity management is the availability of borrowed funds. At December 31, 1996, short-term borrowings totaled $554 million, or 21%, of liabilities in contrast to $518 million, or 22%, of liabilities at December 31, 1995. This increase was used to fund growth in earning assets. The average maturity of short-term borrowings at the end of the current year was 50 days. The majority of these borrowings are fully collateralized by U.S. Government or mortgage-backed securities owned by the Bank. Long-term borrowings consisted of variable and fixed-rate advances from the Federal Home Loan Bank and totaled $256 million as of December 31, 1996. It is anticipated that Provident will continue to have access to the repurchase market and fed fund lines as well as short and long-term variable and fixed-rate funds from the Federal Home Loan Bank.
The following table presents contractual loan maturities and interest rate sensitivity at December 31, 1996.
INTEREST SENSITIVITY MANAGEMENT
The nature of the banking business, which involves paying interest on deposits at varying rates and terms and charging interest on loans at other rates and terms, creates interest rate risk. As a result, earnings are subject to fluctuations which arise due to changes in the level and direction of interest rates. Management's objective is to minimize this risk. Measuring and managing interest rate risk is a dynamic process which is performed regularly as an important component of management's analysis of the impact of changes in asset and liability portfolios. Control of Provident's interest sensitivity position is accomplished through the structuring of the investment and funding portfolios, securitizing loans for possible sale, the use of variable rate loan products and off-balance sheet derivatives. Management does not try to anticipate changes in interest rates. Its principal objective is to maintain interest margins in periods of both rising and falling rates. Traditional interest sensitivity gap analyses alone do not adequately measure an institution's exposure to changes in interest rates because gap models are not sensitive to changes in the relationship between interest rates charged or paid and do not incorporate balance sheet trends and management actions. Each of these factors can affect an institution's earnings. Accordingly, in addition to performing gap analysis, management also evaluates the impact of differing interest rates on net interest income using an earnings simulation model. The model incorporates the factors not captured by gap analysis by projecting income over a twelve month horizon under a variety of interest rate scenarios. As of December 31, 1996, Provident's interest sensitive liabilities exceeded interest sensitive assets within a one year period by $465 million or 16.6% of assets. The Bank's savings products are structured to give management the ability to reset the rates paid on a monthly basis. This causes the Bank to become more liability sensitive. If interest rates rise, the rate paid on savings deposits may follow, and the Corporation's net interest margin may decline. Management continues to take steps to protect the Bank from possible increases in interest rates. In 1996 these steps included lengthening the maturities on purchased funds and certificates of deposits and shortening asset maturities with straight forward interest rate swaps and caps. Management monitors the interest rate environment and employs appropriate off-balance sheet strategies to address potential changes in interest rates. These strategies lower the net interest margin but are designed to maintain an acceptable margin in a rising rate environment. As a result of off-balance sheet transactions undertaken to insulate the bank from interest rate risk, interest income has been decreased by $2.1 million and interest expense has been decreased by $125 thousand, for a net decrease of $1.97 million for the year ending December 31, 1996. Included in this net interest income decrease were amortization of closed positions which reduced interest income by $1.0 million and increased interest expense by $897 thousand (a net decrease of $1.9 million) for the year ending December 31, 1996. Without the amortization of closed positions, off-balance sheet positions reduced net interest income $64 thousand for the year ended December 31, 1996. The forward yield curve indicates that short-term rates will increase by 65 basis points and long-term will increase 10 basis points over the next twelve months. The Corporation's analysis indicates that if management does not adjust its December 31, 1996 off-balance sheet positions and the forward yield curve assumptions occur, off-balance sheet positions would decrease net interest income by $1.7 million over the next twelve months. This compares to a decrease in net interest income of $2.55 million should interest rates remain unchanged. Amortization of closed positions will reduce net interest income $3.3 million in 1997 and $2.1 million in 1998.
STOCKHOLDERS' EQUITY
It is necessary for banks to maintain a sufficient level of capital in order to sustain growth, absorb unforeseen losses and meet regulatory requirements. In addition, the current economic and regulatory climate places an increased emphasis on capital strength. In this environment, Provident continues to maintain a strong capital position. At December 31, 1996 total stockholders' equity was $197 million, a $12.8 million increase over the prior year. In addition to the ordinary adjustments to stockholders' equity of net income and dividends paid, additional capital was raised through the dividend reinvestment plan of $1.5 million and $2.6 million from the exercise of stock options, while capital decreased by $8.1 million during 1996 as a result of the Statement of Financial Accounting Standards No. 115. This statement requires changes in market value, net of applicable income taxes, of the available for sale investment portfolio to be accounted for through equity. During the second quarter of 1996, the Corporation issued a 5% stock dividend and all earnings per share figures have been adjusted for this dividend. Provident exceeds all regulatory capital requirements as of December 31, 1996. The standards used by federal bank regulators to evaluate capital adequacy are the risk-based capital and leverage ratio guidelines. Equity for regulatory purposes does not include market value adjustments as required by SFAS No. 115. Risk-based capital ratios measure core and total stockholders' equity against risk-weighted assets. Provident's core capital is equal to its common stock, capital surplus and retained earnings less treasury stock. The calculation of Provident's total stockholders' equity, for these purposes, is equal to the above plus the allowance for loan losses subject to certain limitations. Risk- weighted assets are determined by applying a weighting to asset categories and certain off-balance sheet commitments based on the level of credit risk inherent in the assets. At December 31, 1996, Provident's total capital ratio was 10.42% compared to the minimum regulatory guideline of 8%. In addition, core common stockholders' equity (Tier 1 Capital) must be at least 4% of risk-weighted assets. At year-end, Provident's Tier 1 Capital ratio was 9.26%. The leverage ratio represents core capital, as defined above, divided by average total assets. Guidelines for the leverage ratio require the ratio of core stockholders' equity to average total assets to be 100 to 200 basis points above a 3% minimum, depending on risk profiles and other factors Provident's leverage ratio of 7.15% at December 31, 1996 was well in excess of this requirement.
FINANCIAL REVIEW 1995/1994
For the year ended December 31, 1995, Provident recorded net income of $18.0 million or $2.10 per share on a fully diluted basis, compared to $12.5 million or $1.63 per share reported in 1994. The per share amounts have been adjusted for a 5% stock dividend issued in 1996. This improvement in earnings was attributable to an $11.1 million rise in tax equivalent net interest income and a $4.4 million increase in retail service charges. These increases more than offset a $3.8 million increase in operating expense. Net interest income on a tax-equivalent basis for 1995 increased $11.1 million or 15.3% from 1994 as average earning assets grew $480 million over the prior year. The net interest margin dropped by 35 basis points primarily caused by the leveraging through investment security purchases of additional capital raised during the fourth quarter of 1994. These margins are lower than is traditionally earned through the generation of loan balances. The provision for loan losses increased $1 million to $1.5 million in 1995. This increase was the result of loan growth in the consumer loan and commercial loan portfolios as total average loans outstanding grew by $176 million. Non-interest income increased 7.2% to $29.2 million. Excluding net securities gains (losses), interest income from a federal income tax refund and gains for mortgage servicing rights, non-interest income increased $3.6 million or 18%. Deposit service charges rose 55% over the prior year due to a 63% or $3.6 million increase in retail demand deposit service fees. Income from mortgage banking activities fell $4.9 million, $4.1 million due to lower gains on the sale of mortgage servicing rights. The remaining decline is due to lower origination fee income as mortgage originations during the year declined $88 million to $417 million. Income from sales of annuities and mutual funds through an affiliation with a securities broker-dealer decreased $900 thousand to $1.1 million for 1995. This decline was believed to have been associated with customer preference for certificates of deposit versus annuities as rates for these products were more attractive in 1995. Provident's non-interest expense rose 4.8% in 1995 over 1994. Salaries and benefits declined $336 thousand during 1995. Compensation and payroll taxes increased $712 thousand while health insurance and pension expense declined $897 thousand and $267 thousand, respectively. Occupancy costs grew $428 thousand or 5.9% over 1994. Much of this increase was due to additional mortgage and supermarket branches as well as additional space requirements at our headquarters and operations buildings. Total furniture and equipment expense increased $760 thousand due to upgrading of technology in the bank's office automation and branch platform systems. External processing increased $1.2 million or 19%, as new branch locations were added. Other expenses increased by $1.7 million mainly associated with settlement of a lawsuit in connection with termination of an acquisition and write-off of personal computer equipment not compatible with a newly installed local area network system. In addition, advertising costs increased $575 thousand or 12% compared to 1994. This increase was attributable to promotion of retail products. Provident recorded an income tax expense of $9.5 million in 1995 based on pre-tax income of $27.5 million, which represented an effective tax rate of 34.5%. This compares with a 36.3% effective tax rate for 1994. The reduction in the effective tax rate was caused by favorable resolution of state tax issues and the recognition of deferred tax items at a higher rate as the current marginal federal rate was higher than when the items were originally deferred.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Provident Bankshares Corporation and Subsidiaries
=============================================================================== Page
Report of Accountants 26
For the Three Years Ended December 31, 1996, 1995 and 1994
Consolidated Statement of Income 28 Consolidated Statement of Changes in Stockholders' Equity 30 Consolidated Statement of Cash Flows 31 Consolidated Statement of Condition at December 31, 1996 and 1995 29 Notes to Consolidated Financial Statements 32-54 ===============================================================================
REPORT OF COOPERS & LYBRAND L.L.P., INDEPENDENT ACCOUNTANTS
To the Board of Directors Provident Bankshares Corporation Baltimore, Maryland
We have audited the accompanying consolidated statement of condition of Provident Bankshares Corporation and subsidiaries (Corporation) as of December 31, 1996, and 1995, and the related consolidated statement of income, changes in stockholders' equity, and cash flows for each of the three years in the period ended December 31, 1996. These financial statements are the responsibility of the Corporation's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the 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 financial statements referred to above present fairly, in all material respects, the consolidated financial position of Provident Bankshares Corporation and subsidiaries as of December 31, 1996 and 1995, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 1996, in conformity with generally accepted accounting principles.
/s/Coopers & Lybrand L.L.P. Coopers & Lybrand L.L.P. Baltimore, Maryland January 15, 1997
FINANCIAL REPORTING RESPONSIBILITY
CONSOLIDATED FINANCIAL STATEMENTS Provident Bankshares Corporation (the "Corporation") is responsible for the preparation, integrity and fair presentation of its published consolidated financial statements as of December 31, 1996, and the year then ended. The consolidated financial statements have been prepared in accordance with generally accepted accounting principles and, as such, include amounts, some of which are based on judgments and estimates of management.
INTERNAL CONTROL STRUCTURE OVER FINANCIAL REPORTING Management maintains a system of internal control over financial reporting, including controls over safeguarding of assets against unauthorized acquisition, use or disposition which is designed to provide reasonable assurance to the Corporation's management and board of directors regarding the preparation of reliable published financial statements and such asset safeguarding. The system contains self-monitoring mechanisms, and actions are taken to correct deficiencies as they are identified. This system encompasses activities that control the preparation of the Corporation's Annual Report/10-K financial statements prepared in accordance with generally accepted accounting principles. There are inherent limitations in the effectiveness of any system of internal control, including the possibility of human error and the circumvention or overriding of controls. Accordingly, even an effective internal control system can provide only reasonable assurance with respect to financial statement preparation. Further, because of changes in conditions, the effectiveness of an internal control system may vary over time. Management assessed its internal control structure over financial reporting as of December 31, 1996. This assessment was based on criteria for effective internal control over financial reporting described in "Internal Control-- Integrated Framework" issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on this assessment, management believes that Provident Bankshares Corporation maintained an effective internal control structure over financial reporting as of December 31, 1996.
COMPLIANCE WITH LAWS AND REGULATIONS Management is also responsible for compliance with the federal and state laws and regulations concerning dividend restrictions and federal laws and regulations concerning loans to insiders designated by the FDIC as safety and soundness laws and regulations. Management assessed its compliance with the designated laws and regulations relating to safety and soundness. Based on this assessment, management believes that Provident Bank of Maryland, the wholly owned subsidiary of Provident Bankshares Corporation complied, in all significant respects, with the designated laws and regulations related to safety and soundness for the year ended December 31, 1996.
The accompanying notes are an integral part of these statements.
The accompanying notes are an integral part of these statements.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Provident Bankshares Corporation and Subsidiaries
NOTE 1 -- SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The following summary of significant accounting policies of Provident Bankshares Corporation and its subsidiaries (the "Corporation") is presented to assist the reader in understanding the financial and other data presented in this report. The accounting and reporting policies of the Corporation are in accordance with generally accepted accounting principles and conform to general practice within the banking industry. Certain prior years' amounts in the Consolidated Financial Statements have been reclassified to conform with the presentation used for the current year.
CONSOLIDATION POLICIES The Consolidated Financial Statements include the accounts of Provident Bankshares Corporation and its wholly owned subsidiary, Provident Bank of Maryland (the "Bank") and its subsidiaries. All significant intercompany accounts and transactions have been eliminated in consolidation.
INVESTMENT SECURITIES The Corporation divides the investment portfolio among three categories: securities held to maturity, securities available for sale and, if applicable, trading account securities. Securities that the Corporation has the intent and ability to hold to maturity are included in securities held to maturity and, accordingly, are carried at cost adjusted for amortization of premiums and accretion of discounts using the interest method. Securities available for sale are securities the Corporation does not have the intent and ability to hold to maturity nor does it intend to trade actively as part of any trading account activity. Available for sale securities are reported at fair value with any unrealized appreciation or depreciation in value reported directly as a separate component of stockholders' equity as unrealized gain (loss) on debt securities which is reflected net of applicable taxes, and therefore, have had no effect on the reported earnings of the Corporation. Gains and losses from sales of securities available for sale are recognized by the specific identification method.
LOANS AND ALLOWANCE FOR LOAN LOSSES Interest on loans is accrued at the contractual rate and credited to income based upon the principal amount outstanding. It is the policy of management to discontinue the accrual of interest and reverse previously accrued but unpaid interest when the quality of the credit has deteriorated to the extent that collectibility of all interest and/or principal cannot be reasonably expected or when it is 90 days past due unless the loan is well secured and in the process of collection. The Corporation adopted the provisions of Statements of Financial Accounting Standards No. 114/118 "Accounting by Creditors for Impairment of a Loan" ("SFAS No. 114/118") on January 1, 1995. Under SFAS No. 114/118, the Corporation considers a loan impaired when, based on available information, it is probable that the Corporation will be unable to collect principal and interest when due in accordance with the contractual terms of the loan agreement. The measurement of impaired loans may be based on the present value of expected future cash flows discounted at the historical effective interest rate or based on the fair value of the underlying collateral. Impairment criteria are applied to the loan portfolio exclusive of smaller balance homogeneous loans such as residential mortgage and consumer loans which are evaluated collectively for impairment. The allowance for loan losses includes reserves for these loans. Collections of interest and principal on loans in nonaccrual status and considered impaired are generally applied as a reduction to the outstanding principal. Once future collectibility has been established, interest income may be recognized on a cash basis. The Corporation defers and amortizes loan origination fees and related costs over the life of the loan using the interest method. Net amortization of fees and costs are recognized in interest income as a yield adjustment and are, accordingly, reported as Interest and Fees on Loans in the Consolidated Statement of Income. The Corporation's allowance for loan losses is based upon management's continuing review and evaluation of the loan portfolio and is intended to maintain an allowance adequate to absorb potential losses on loans outstanding. The level of the allowance is based on an evaluation of the risk characteristics of the loan portfolio and considers such factors as past and expected future loan loss experience, the financial condition of the borrower, current economic conditions and other relevant factors. Adjustments to the allowance due to changes in measurement of impaired loans are incorporated in the provision for loan losses. The adoption of SFAS No. 114/118 has not resulted in any additional provision for loan losses for the years ended December 31, 1995 and 1996, respectively.
PREMISES AND EQUIPMENT Premises, equipment and leasehold improvements are stated at cost less accumulated depreciation and amortization. Depreciation and amortization are computed on the straight-line method over the estimated useful lives of the assets or, for leasehold improvements, the lives of the related leases, if shorter.
STOCKHOLDERS' EQUITY During 1996 and 1995, the Corporation declared five percent stock dividends for each year to the stockholders of record as of April 29, 1996 and May 1, 1995, respectively. The 1996 stock dividend was paid on May 10, 1996 resulting in the distribution of 399,817 common shares with a par value of $1.00 per share. Accordingly, $400 thousand and $12.1 million was transferred from retained earnings to common stock and capital surplus, respectively. The 1995 stock dividend was paid May 12, 1995 with the distribution of 369,977 common shares with a $1.00 par value per share. This dividend resulted in the transfer of $370 thousand to common stock and $7.9 million to capital surplus from retained earnings. The cumulative impact of these stock dividends has been reflected in the restatement of earnings and dividends per share and stock option data in the financial statements and accompanying notes.
INCOME TAXES The Corporation uses the liability method to determine deferred tax amounts and the related income tax expense or benefit. Using this method, deferred taxes are calculated by applying enacted statutory tax rates to temporary differences consisting of items of income and expense that are accounted for in financial reporting periods which differ from income tax reporting periods. The resultant deferred tax assets and liabilities represent future taxes to be recovered or remitted when the related assets and liabilities are recovered or settled. The deferred tax assets are reduced by a valuation allowance for that portion of the tax deferred assets which are unlikely to be realized.
DERIVATIVE FINANCIAL INSTRUMENTS The Corporation uses a variety of derivative financial instruments as part of its interest rate risk management strategy (See Note 12). The Corporation does not hold or issue derivative financial instruments for trading purposes. The derivative products used are interest rate swaps and caps or floors, used separately or in combination to suit the hedge objective and are classified as hedges. To qualify as a hedge, 1) the asset or liability to be hedged exposes the Corporation to interest rate risk, 2) the derivatives act to move the Corporation to a rate insensitive position should interest rates change, and 3) the derivative is designed and is effective as a hedge of a balance sheet item. Interest rate swaps are agreements between two parties which agree to exchange fixed and floating rates on a notional principal amount without the actual exchange of principal for a specified period of time. The notional amounts are not reflected on the Consolidated Statement of Condition because they are merely a unit of measure to determine the effect of the swap. Income and expense on interest rate swaps associated with designated balance sheet items is recognized using the accrual method over the life of the agreement(s) as an adjustment to the income or expense on the designated balance sheet item. Premiums associated with interest rate floor/cap/corridor arrangements are reflected in the Consolidated Statement of Condition and amortized over their life using the straight-line method and included as an adjustment to interest income/expense associated with the balance sheet item. Payments due to or from counterparties under these agreements are accrued as an adjustment to interest income or expense associated with the designated balance sheet item. The Corporation continually monitors each derivative position to ensure the proper relationship between the designated balance sheet item hedged and the derivative position. Any significant divergence between this relationship which results in interest income or expense exceeding projected parameters results in the hedge being marked-to-market with the resultant gain or loss included in earnings. Terminated derivative positions with the designated assets or liabilities retained have the resulting gain or loss deferred and amortized over the estimated remaining life of the hedge. Interest rate swaps used to hedge available for sale debt securities have their fair value included in stockholders' equity which is consistent with the fair value treatment of the available for sale securities. Interest accruals associated with the swap are included as an adjustment to interest income on the associated securities. Derivative products terminated prior to the sale of the related security have the respective gain or loss amortized over the life of the swap as long as the Corporation retains the security. Upon sale of the security, the deferred gain or loss on the derivative is reflected in income at the time of sale. Derivatives associated with liquidated hedged assets or liabilities are marked-to-market and have subsequent changes in their fair value reflected in earnings as the derivative is considered speculative in nature.
PENSION PLAN The Corporation has a defined benefit pension plan which covers substantially all employees. The cost of this noncontributory pension plan was computed and accrued using the projected unit credit method. Prior service cost is amortized on a straight-line method over the average remaining service period of employees expected to receive benefits under the plan.
EARNINGS PER SHARE Primary and fully diluted net income per common share are based upon the weighted average number of common shares outstanding and common stock equivalents using the treasury stock method for each year, as applicable and adjusted for stock dividends.
STATEMENT OF CASH FLOWS For purposes of reporting cash flows, cash equivalents are composed of cash and due from banks and short-term investments.
NOTE 2 -- RESTRICTIONS ON CASH AND DUE FROM BANKS The Federal Reserve requires banks to maintain cash reserves against certain categories of deposit liabilities. Such reserves averaged approximately $18.5 million and $16.5 million during the years ended December 31, 1996 and 1995, respectively. In order to cover the costs of services provided by correspondent banks, the Corporation maintains compensating balance arrangements at these correspondent banks or elects to pay a fee in lieu of such arrangements. During 1996 and 1995, the Corporation maintained average compensating balances of approximately $2.6 million and $2.4 million, respectively. In addition, the Corporation paid fees totaling $366 thousand in 1996, $317 thousand in 1995 and $285 thousand in 1994 in lieu of maintaining compensating balances.
The aggregate amortized cost and market values of the investment securities portfolio by contractual maturity at December 31, 1996 and 1995, are shown below. Expected maturities on mortgage-backed securities may differ from the contractual maturities as borrowers have the right to prepay the obligation without prepayment penalties.
Proceeds from sales of securities available for sale during 1996 were $273.6 million resulting in the realization of gross gains of $6.0 million and gross losses of $467 thousand on such sales. For 1995, sales of securities yielded proceeds of $203.0 million which resulted in gross realized gains of $800 thousand and gross losses of $3.5 million. During 1995, the Financial Accounting Standards Board issued a special report on SFAS No. 115 which provided an opportunity to reclassify from securities held to maturity to securities available for sale. The permitted reclassification resulting from this one-time assessment does not call into question the intent of the Corporation's future investment classifications. On December 31, 1995, the Corporation transferred $385.2 million of securities from Securities Held to Maturity to Securities Available for Sale. The transfer was the result of management's intention to maximize its flexibility to take advantage of future business opportunities. These securities were transferred at fair value and the respective holding gains/(losses) were recognized as a separate component of stockholders' equity. At December 31, 1996, a net unrealized loss of $1.3 million on the securities portfolio was reflected as a separate component of stockholders' equity in the Consolidated Statement of Condition as compared to a net unrealized gain of $6.8 million at December 31, 1995. The aggregate book and estimated market values of investment securities which exceed ten percent of capital at December 31, 1996, are indicated below.
Securities with a market value of $804.1 million and $525.0 million at December 31, 1996 and 1995, respectively, were pledged as collateral for public funds, certain short-term borrowings and for other purposes required by law.
NOTE 4 -- ALLOWANCE FOR LOAN LOSSES A summary of the activity in the allowance for loan losses for the three years ended December 31 is presented below:
At December 31, 1996, 1995 and 1994, the recorded investment in loans which are in non-accrual status and therefore considered impaired totaled $267 thousand, $140 thousand and $1.1 million, respectively. There was no additional allowance required for these loans under the provisions of SFAS No. 114/118. Had these loans performed in accordance with their original terms, interest income of $130 thousand in 1996, $143 thousand in 1995 and $294 thousand in 1994 would have been recorded. During 1996 and 1995 no interest income was recognized on these loans, however $35 thousand was recognized in 1994. The average recorded investment in impaired loans was approximately $624 thousand in 1996 and $757 thousand in 1995.
NOTE 5 -- PREMISES AND EQUIPMENT Real estate and equipment holdings at December 31 are presented in the table below. Real estate owned and used by the Corporation consists of six branches and other facilities in the metropolitan Baltimore area which are used primarily for the operations of the Bank.
Property Held for Future Expansion represents approximately 49,000 square feet of real estate adjacent to the Corporation's headquarters building which is currently being used for employee and public parking. Following an assessment of occupancy requirements, management determined that this property would be necessary to meet the Corporation's growing office and parking requirements. In December 1990, the Corporation entered into a sale and leaseback agreement whereby its headquarters building was sold to an unrelated third party which then leased the building back to the Corporation. In association with the sale, the Corporation financed $6.0 million of this arrangement with a market rate note which has recourse to other assets of the acquiror. The twelve year lease has two renewal options of five years each and contains an escalation clause which acts to increase rental payments throughout the lease term up to specified limits. The associated gain of $2.6 million from the sale has been deferred and will be recognized in proportion to the gross rental expense incurred over the term of the lease. The associated lease payments and sublease rental income are included in the table below.
The Corporation also maintains non-cancelable operating leases associated with Bank premises. Most of these leases provide for the payment of property taxes and other costs by the Bank and include one or more renewal options ranging up to ten years. Some of the leases also contain purchase options at market value. Annual rental commitments under all long-term non-cancelable operating lease agreements consisted of the following at December 31, 1996.
Rental expense for premises and equipment was $5.4 million in 1996, $5.0 million in 1995 and $4.8 million in 1994.
NOTE 6 -- MORTGAGE BANKING ACTIVITIES The Corporation engages in sales of mortgage loans, which are originated internally or purchased from third parties. Mortgage loans held for sale are carried at the aggregate lower of cost or market value. Gains or losses on sales of these mortgage loans are recorded as a component of Non-Interest Income in the Consolidated Statement of Income. Unpaid principal balances of loans serviced for others not included in the accompanying Consolidated Statement of Condition were $282 million and $813 million at December 31, 1996 and 1995, respectively. Under the provisions of Statement of Financial Accounting Standards No. 122 - -- "Accounting for Mortgage Servicing Rights" ("SFAS No.122"), beginning January 1, 1996, the Corporation began to recognize a separate asset for the right to service originated residential mortgage loans for which a definitive plan existed to sell or securitize the associated mortgage loans based upon the fair value of the servicing rights. Application of this guidance to originated servicing rights prior to January 1, 1996 is not permitted. Additionally, any acquisition costs of acquiring mortgage servicing rights are also capitalized. Originated and acquired servicing rights are amortized over the estimated period of and in proportion to estimated net servicing revenue. Servicing rights are evaluated periodically for impairment based on their fair value and impairment, if any, is recognized through a valuation allowance and a charge to operations. At December 31, 1996, no valuation allowance was required. The following is an analysis of originated, acquired and excess mortgage servicing rights for the years ended December 31, 1996, 1995 and 1994, respectively.
NOTE 7 -- SHORT-TERM BORROWINGS
At December 31, the detail of short-term borrowings were as follows:
Securities sold under repurchase agreements at December 31, 1996, are detailed below by due date:
NOTE 8 -- LONG-TERM DEBT Long-term debt consisted of Federal Home Loan Bank Advances of $256.2 million and $267.9 million at December 31, 1996 and 1995, respectively. The principal maturities of long-term debt at December 31, 1996, are presented below.
The Federal Home Loan Bank Advances to the Bank mature in varying amounts through 2016. These advances are composed of $150.5 million fixed rate advances with an average interest rate of 6.31% and $105.7 million variable rate advances with an average rate of 5.53%. These advances are collateralized by investment securities and certain real estate loans with carrying values of $278.4 million and $131.8 million, respectively, at December 31, 1996.
NOTE 9 -- INCOME TAXES The components of income tax expense and the sources of deferred income taxes for the three years ended December 31 are presented below.
Tax expense (benefit) associated with investment securities gains/(losses) was $2.2 million in 1996, $(1.1) million in 1995 and $223 thousand in 1994.
The primary sources of temporary differences that give rise to significant portions of the deferred tax asset and liability at December 31, 1996 and 1995, are presented below.
At December 31, 1996 and 1995, no valuation allowance was required with respect to deferred tax assets.
The combined federal and state effective tax rate for each year is different than the statutory federal income tax rate. The reasons for these differences are set forth below:
NOTE 10 -- STOCKHOLDERS' EQUITY The Corporation's Stock Option Plan (the "Option Plan") covers a maximum of 1.3 million shares of common stock that has been reserved for issuance under the Option Plan described below. Under the provisions of Statement of Financial Accounting Standards No. 123 - "Accounting for Stock-Based Compensation" ("SFAS No. 123"), the Corporation had the option of accruing a compensation expense for stock options granted to employees, or applying the provisions of APB Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB No. 25") which does not require compensation expense to be recognized. The Corporation has elected to continue to apply APB No. 25 in 1996 to account for the Option Plan as had been applied in 1995 and 1994. Under the Option Plan, stock options are granted at an exercise price not less than the market value of the underlying shares of common stock on the date of the grant, as such, the Option Plan is classified as a fixed stock option plan. Accordingly, as a fixed stock option plan, no compensation expense has been recognized in the Consolidated Statement of Income. The Option Plan provides for the granting of nonqualified stock options to certain key employees and directors of Bankshares and the Bank, as designated by the Corporation's board of directors. All options have a maximum duration of ten years from the date of grant. Vesting in the majority of options usually occurs immediately in 50% of the options granted with the remainder vesting in the subsequent year. The vesting provisions on the remaining options may be accelerated on the attainment of specific benchmarks related to the Corporation's performance.
The following table presents a summarization of the activity related to the options for the periods indicated:
The table below provides information on the stock options outstanding at December 31, 1996:
The weighted average fair value of all of the options granted during 1996, 1995 and 1994 has been estimated using the Black-Scholes option-pricing model with the following weighted average assumptions:
The provisions of SFAS No. 123 requires pro forma disclosure of compensation expense for the Corporation based on the fair value of the awards at the date of grant. Under those provisions, the Corporation's net income and earnings per share would have been reduced to the following pro forma amounts below:
At the time of the Corporation's reorganization, a liquidation account was established by the Bank for the benefit of all eligible deposit account holders as of December 31, 1986 who maintain their accounts in the Bank subsequent to the Reorganization. The liquidation account provides these deposit account holders with an interest in the retained earnings of the Bank prior to any distribution to stockholders in the sole event of a complete liquidation. The deposit account holders' interest in the liquidation account decreases as the related deposit account decreases and will never increase. The liquidation account does not restrict the use or application of stockholders' equity of the Bank except that the Bank may not declare or pay a cash dividend on, or repurchase any of its capital stock if, as the result of such dividend or repurchase, the Bank's stockholders' equity would be less than the amount then required for the liquidation account. At December 31, 1996, the balance of the liquidation account was $12.6 million.
NOTE 11 -- EMPLOYEE BENEFIT PLANS
PENSION PLAN The Corporation's non-contributory defined benefit pension plan covers substantially all full-time employees with at least one year of service and provides monthly benefits upon retirement to participants based on average career earnings and length of service.
During 1996 the Plan was amended effective January 1, 1996 to change the Plan into a Cash Balance Plan. Accrued benefits were converted to cash balances as of January 1, 1996 for the Plan participants. This change resulted in a reduction in the Plan expense during 1996 and the liability at December 31, 1996. The Corporation's policy is to contribute amounts to the plan sufficient to meet the minimum funding requirements set forth in the Employee Retirement Income Security Act of 1974, as amended, plus such additional amounts as the Corporation deems appropriate. During 1996, the Corporation contributed $1.3 million to the plan assets.
The following table sets forth the defined benefit plan's funded status at January 1:
The actuarially estimated net pension cost for the year ended December 31 includes the following components:
The Corporation revises the rates applied in the determination of the actuarial present value of the projected benefit obligation to reflect the anticipated performance of the plan and changes in compensation levels.
Plan assets are primarily comprised of equity securities, and short-term and long-term debt securities. The unrecognized net asset arising at transition is being amortized over 15.6 years. The plan held no shares of the Corporation's common stock at December 31, 1996, 1995 and 1994.
RETIREMENT SAVINGS PLAN The Retirement Savings Plan is a defined contribution plan which is qualified under Section 401(a) of the Internal Revenue Code of 1986. The plan generally allows all employees who complete 500 hours of employment during a six month period and elect to participate, to receive matching funds from the Corporation for pre-tax retirement contributions made by the employee. The annual contribution to this plan is at the discretion of and determined by the Board of Directors of the Corporation. During 1996, the Corporation raised the maximum contribution of 50% of an employee's contribution up to 2% of the individual's salary to 75% and 4.5%, respectively. Contributions to this plan amounted to $1.1 million, $441 thousand and $403 thousand for the years ended December 31, 1996, 1995 and 1994, respectively.
POSTRETIREMENT BENEFITS In addition to providing pension benefits, the Corporation provides certain health care and life insurance benefits to retired employees. Substantially all employees of the Corporation that reach retirement age may become eligible for these benefits, generally contingent upon the completion of twenty years of service. The health care plan is contributory where the retiree is responsible for all premiums in excess of the Corporation's contribution. The Corporation's contribution is capped at a growth rate of 4% per year. Under the prospective transition approach, the transition obligation is amortized over a twenty-year period. The cost of life insurance benefits provided to the retiree is borne by the Corporation. At December 31, 1996 and 1995, this plan is unfunded.
The following tables set forth the plan's funded status reconciled with amounts reported in the Corporation's financial statements at December 31:
The actuarially estimated net postretirement benefit cost for the year ended December 31:
NOTE 12 -- OFF-BALANCE SHEET RISK In the normal course of business, the Bank offers various financial products to its customers to meet their credit and liquidity needs. These instruments involve, to varying degrees, elements of credit and market risk which may exceed any amount recognized in the financial statements. Risks that are inherent in normal banking services also exist in some of these financial instruments. Contract amounts of the instruments indicate the maximum exposure the Bank has in each class of financial instruments discussed in the following paragraphs. These commitments and contingencies are not reflected in the accompanying financial statements. Unless noted otherwise, the Bank does not require collateral or other securities to support financial instruments with credit risk. Subject to its normal credit standards and risk monitoring procedures, the Bank makes contractual commitments to extend credit. Commitments to extend credit in the form of consumer, commercial real estate and commercial business loans amounted to $323.8 million and $273.3 million at December 31, 1996 and 1995, respectively. Commitments typically have fixed expiration dates or other termination clauses. The total of commitments does not necessarily represent future cash requirements as many commitments may expire without being exercised. Collateral and amounts thereof are obtained, if necessary, based upon management's evaluation of each borrower's financial condition. Required collateral may be in the form of cash, accounts receivable, inventory, property, plant and equipment and income generating commercial properties and residential properties. The Bank is obligated under various recourse provisions related to sales of residential mortgage loans. The maximum potential recourse obligation was $16.4 million and $21.5 million at December 31, 1996 and 1995, respectively. No losses have been incurred under these recourse provisions. Conditional commitments are issued by the Bank in the form of performance stand-by letters of credit which guarantee the performance of a customer to a third party. These letters of credit are typically included in the amount of funds committed by the Bank to complete associated construction projects. At December 31, commitments under outstanding performance stand-by letters of credit aggregated $30.4 million in 1996 and $18.5 million in 1995. The credit risk of issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. The Bank enters into agreements for the delivery of securitized mortgage pools at a future date at a specified price or yield. The inability of counterparties to meet the terms of these contracts and movements in the value of securities and interest rates imposes risk on the Bank. Forward contracts aggregated $46.4 million and $110.1 million at December 31, 1996 and 1995, respectively. However management does not feel that any significant amounts are at risk with regard to these contracts. The Bank enters into various derivative financial instruments to manage its interest rate risk exposure (see Note 1). The two major types used are interest rate swaps and interest rate floor/cap/corridor arrangements. These derivative financial instruments use notional amounts to represent a unit of measure but not the amount subject to accounting loss, which is much smaller. Risks in these transactions involve nonperformance by counterparties under the terms of the contract (counterparty credit risk) and, for interest rate swaps, the possibility that interest rate movements or general market volatility could result in losses on open off-balance sheet positions (market risk). Credit risk is controlled by dealing with well-established brokers which are highly rated by independent sources. Market risk on interest rate swaps is minimized by using these instruments as hedges, actively managing interest rate risk and by continually monitoring these positions. Market risk associated with the interest rate floor/cap/corridor arrangements only exist when premiums are amortized into interest expense without receiving any compensation from third parties. Unamortized premiums paid and outstanding for floor/cap/corridor arrangements were $ 1.3 million at December 31, 1996, and $1.9 million at December 31, 1995.
Notional amounts of interest rate swaps and interest rate floor/cap/corridor arrangements are detailed below by amounts outstanding, average interest rates/fees and market values at December 31, 1996 and 1995.
For the year ended December 31, 1996, $39.0 million of the interest rate swaps hedged the exposure that the securities available for sale had to declining market values as a result of increasing interest rates. The remaining $273.6 million in swaps was utilized to hedge the interest rate risk inherent in short-term borrowings. The interest rate corridors protect the net interest margin from the impact of increases in savings deposit rates during periods of rising interest rates. The interest rate floors were purchased to hedge the impact of loan repricing on net interest income in future years. The following is an analysis of the activity with regards to interest rate swaps and interest rate floor/cap/corridor arrangements for the years ended December 31, 1996, 1995 and 1994, respectively.
At December 31, 1996, the Corporation had deferred gains of $324 thousand and deferred losses of $6.0 million related to terminated contracts. These deferred gains and losses will be amortized over .3 and 1.6 years, respectively. The Corporation had deferred gains of $3.1 million and deferred losses of $10.7 million related to terminated contracts which were amortized as a yield adjustment over 1.3 and 2.5 years, respectively, at December 31, 1995.
The notional maturities of the interest rate swaps and interest rate floor/cap/corridor arrangements at December 31, 1996, are presented below.
In addition to the previously mentioned commitments and contingencies, there are various legal proceedings against the Bank. Management believes that the aggregate liabilities, if any, arising from such actions would not have a material adverse effect on the consolidated financial position of the Corporation.
NOTE 13 -- CONCENTRATIONS OF CREDIT RISK
The Corporation's investment portfolio contains mortgage-backed securities amounting to $844.7 million and $920.4 million at December 31, 1996 and 1995, respectively. The underlying collateral for these securities is in the form of pools of mortgages on residential properties. The majority of the securities are either directly or indirectly guaranteed by U.S. Government agencies or corporations. Management is of the opinion that credit risk is minimal. Construction and mortgage loan receivables from real estate developers represent $247.6 million and $217.7 million of the total loan portfolio at December 31, 1996 and 1995, respectively. Substantially all loans are collateralized by real property or other assets. These loans are expected to be repaid from the proceeds received by the borrowers from the retail sales or rentals of these properties to third parties.
NOTE 14 -- OTHER NON-INTEREST INCOME AND EXPENSE
The components of other non-interest income and other non-interest expense for the three years ended December 31 were as follows:
NOTE 15 -- REGULATORY CAPITAL
The Corporation is subject to various capital adequacy guidelines imposed by federal and state regulatory agencies. Under these guidelines, the Corporation must meet specific capital adequacy requirements which are quantitative measures of the Corporation's assets, liabilities and certain off-balance sheet items calculated under regulatory accounting practices. Additionally, the Corporation's capital amounts and classifications are subject to qualitative judgments by these agencies about components, risk weightings and other factors. The quantitative measures established by regulation to ensure capital adequacy require the Corporation to maintain amounts and ratios of total and tier 1 capital to risk-weighted assets and tier 1 capital to average assets, known as
the leverage ratio. The Corporation's tier 1 capital is equal to its common stock, capital surplus and retained earnings less treasury stock. Equity for regulatory purposes does not include market value adjustments for available for sale securities. The calculation of the Corporation's total capital is equal to tier 1 capital plus the allowance for loan losses subject to certain limitations. Risk-weighted assets are determined by applying weighting to asset categories and certain off-balance sheet commitments based on the level of credit risk inherent in the assets. At December 31, 1996, the Corporation exceeds all regulatory capital requirements. The most recent notification from the Corporation's primary regulators categorized the Corporation as well capitalized under the regulatory framework for prompt corrective action. There are no conditions or events since that notification that management believes have changed the Corporation's category. If the Corporation is unable to comply with the minimum capital requirements, it would result in regulatory actions which could have a material impact on the Corporation. The minimum regulatory guidelines for total capital and tier 1 capital to risk-weighted assets are 8% and 4%, respectively. Guidelines for the leverage ratio require the ratio of tier 1 capital to average assets to be 100 to 200 basis points above a 3% minimum, depending on risk profiles and other factors. The table below presents the various components used to calculate the capital adequacy ratios.
NOTE 16 -- FAIR VALUE OF FINANCIAL INSTRUMENTS
Statement of Financial Accounting Standards No. 107 "Disclosure about Fair Value of Financial Instruments" requires all entities to disclose the fair value of recognized and unrecognized financial instruments on a prospective basis, where practicable, in an effort to provide financial statement users with information in making rational investment and credit decisions. To estimate the fair value of each class of financial instrument, the Corporation applied the following methods using the indicated assumptions:
CASH AND DUE FROM BANKS AND SHORT-TERM INVESTMENTS
Carrying amount of those investments is used to estimate fair value.
MORTGAGE LOANS HELD FOR SALE
Fair value for mortgage loans held for trading or sale was determined using forward contract commitment pricing for the majority of these loans. Loans not specifically allocated to a forward commitment have been priced using quoted prices for commitments into which these mortgages would be placed in the future.
SECURITIES AVAILABLE FOR SALE AND SECURITIES HELD TO MATURITY
The fair values of the securities are based on quoted market prices or dealer quotes for those investments.
LOANS
Fair value of loans which have homogeneous characteristics, such as residential mortgages and installment loans, was estimated using discounted cash flows. All other loans were valued using discount rates which reflected credit risks of the borrower, types of collateral and remaining maturities.
DEPOSIT LIABILITIES
Fair value of demand deposits, savings accounts and money market deposits is the amount payable on demand at the reporting date. The fair value of certificates of deposit is estimated using the rates currently offered for deposits of similar remaining maturities.
SHORT-TERM BORROWINGS AND LONG-TERM DEBT
Rates currently available to the Corporation for borrowings and debt with similar terms and remaining maturities are used to estimate fair value of the existing debt.
INTEREST RATE ARRANGEMENTS
The fair value of interest rate swaps and floor/cap/corridor arrangements, which the Corporation uses for hedging purposes, is the estimated amount the Corporation would receive or pay to terminate the arrangements at the reporting date, taking into account the current interest rates and the current credit worthiness of the counterparties.
COMMITMENTS TO EXTEND CREDIT
The fair value of commitments is estimated using the fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the credit worthiness of the borrowers. Fixed-rate loan commitments also take into account the difference between current levels of interest rates and committed rates.
The estimated fair values of the Corporation's financial instruments at December 31 are as follows:
These fair value disclosures are made solely to comply with the requirements of SFAS No. 107. The calculations represent estimates and do not represent the underlying value of the Corporation. The information presented is based on fair value calculations and market quotes as of December 31, 1996 and 1995. These amounts are based on the relative economic environment at the respective year ends, therefore, the valuations may have been affected by economic movements since year end.
NOTE 17 -- PARENT COMPANY FINANCIAL INFORMATION
The condensed statements of income, financial condition and cash flows for Provident Bankshares Corporation (parent only) are presented below.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The text and tables under "Election of Directors" in the Corporation's 1997 Proxy Statement is incorporated herein by reference.
ITEM 11. EXECUTIVE COMPENSATION The text and tables under "Compensation of Officers and Directors" in the Corporation's 1997 Proxy Statement is incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The text and tables under "Voting Securities and Principal Holders Thereof" and "Election of Directors" in the Corporation's 1997 Proxy Statement are incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The text under "Certain Transactions with Management" in the Corporation's 1997 Proxy Statement is incorporated herein by reference.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) (1) The Consolidated Financial Statements of Provident Bankshares Corporation and Subsidiaries are included in Item 8. (a) (2) Financial statement schedules--none applicable or required. (a) (3) Exhibits The following is an index of the exhibits included in this report: (3.1) Articles of Incorporation of Provident Bankshares Corporation.(1) (3.2) By-Laws of Provident Bankshares Corporation, as amended.(3) (4.1) Stockholder Protection Right Agreement.(3) (10.1) 1994 Supplemental Executive Incentive Plan of Provident Bank of Maryland.(3) (10.2) Supplemental Executive Retirement Income Plan of Provident Bank of Maryland.(4) (10.3) Amended and restated Stock Option and Appreciation Rights Plan of Provident Bankshares Corporation.(5) (10.4) Form of Change in Control Agreement between Provident Bankshares Corporation and Certain Executive Officers.(2) (10.5) Form of Change in Control Agreement between Provident Bank of Maryland and Certain Executive Officers.(2) (11) Statement RE: Computation of Per Share Earnings.(6) (21) Subsidiaries of Provident Bankshares Corporation.(6) (23) Consent of Independent Accountants.(6) (24) Power of Attorney.(6) (27) Financial Data Schedule.(6) (b) No reports on Form 8-K were filed by the Corporation in the last quarter of 1996. (1) Incorporated by reference from Registrant's Registration Statement on Form S-3 (File No. 33-73162) filed with the Commission on August 18, 1994. (2) Incorporated by reference from Registrant's 1995 Form 10-K (File No. 0-16421) filed with the Commission on March 18, 1996. (3) Incorporated by reference from the Registrant's 1994 Annual Report on Form 10-K (File No. 0-16421) filed with the Commission on February 17, 1995. (4) Incorporated by reference from Registrant's 1993 Form 10-K (File No. 0-16421) filed with the Commission on March 14, 1994. (5) Incorporated by reference from the Registrant's definitive 1995 Proxy Statement for the Annual Meeting of Stockholders held on April 19, 1995. (6) Filed herewith.
SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
PROVIDENT BANKSHARES CORPORATION (Registrant)
January 31, 1997 BY /s/Carl W. Stearn ----------------------------------------- Carl W. Stearn Chairman of the Board and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacity and on the dates indicated.
Principal Executive Officer: January 31, 1997 BY /s/Carl W. Stearn ----------------------------------------- Carl W. Stearn Chairman of the Board and Chief Executive Officer
Principal Financial Officer: January 31, 1997 BY /s/James R. Wallis ----------------------------------------- James R. Wallis Executive Vice President
Principal Accounting Officer: January 31, 1997 BY /s/R. Wayne Hall ----------------------------------------- R. Wayne Hall Treasurer
A Majority of the Board of Directors* Robert B. Barnhill, Jr., Melvin A. Bilal, Dr. Calvin W. Burnett, Charles W. Cole, Jr., M. Jenkins Cromwell, Jr., Pierce B. Dunn, Clivie C. Haley, Jr., Mark K. Joseph, Norman J. Louden, Barbara B. Lucas, Peter M. Martin, Sister Rosemarie Nassif, C. William Pacy, Francis G. Riggs, Sheila K. Riggs, Carl W. Stearn
January 31, 1997 *BY /s/R. Wayne Hall ---------------------------------------- R. Wayne Hall Attorney-in-fact
ITEM 7. MANAGEMENT'S DISCUSSION AND ANAYLSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
FINANCIAL REVIEW
The principal objective of this Financial Review is to provide an overview of the financial condition and results of operations of Provident Bankshares Corporation and its subsidiaries for the three years ended December 31, 1996. The outlook for the Corporation based upon current trends and actions taken during the year is also included. This discussion and tabular presentations should be read in conjunction with the accompanying financial statements and notes. Provident Bankshares Corporation ("the Corporation"), through its wholly-owned subsidiary, Provident Bank of Maryland ("the Bank"), offers consumer and commercial banking services throughout central Maryland. The Bank offers related financial services through its wholly-owned subsidiaries, including mortgages through Provident Mortgage Corp. (PMC), and mutual funds and annuities through Provident Investment Center (PIC). The Corporation recorded significantly improved operating results in 1996, as earnings totaled $23 million or $2.60 per share on a fully diluted basis, a 28% increase over the $18.0 million or $2.10 (adjusted for 5% stock dividend) per share earned in 1995. The growth in net earnings was attributable to an $8.4 million rise in tax-equivalent net interest income and a $16.2 million increase in non-interest income. These increases were partially offset by an $8.7 million increase in operating expenses and $8.4 million rise in the provision for loan losses. These variances are discussed in more detail beginning on the following pages.
FINANCIAL TRENDS
[The following tables are representative of graphs shown on page 6 of the Annual Report.]
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RESULTS OF OPERATIONS
NET INTEREST INCOME
The Corporation's principal source of revenue is net interest income, the difference between interest income on earning assets and interest expense on deposits and borrowings. Interest income, for purposes of analysis, is presented on a tax-equivalent basis to recognize associated tax benefits as this presentation provides a basis for comparison of yields with taxable earning assets. The discussion on net interest income should be read in conjunction with the table 2 -- "Analysis of Changes in Net Interest Income" and table 3 "Consolidated Average Balances -- Interest Income and Expense and Yields and Rates". Tax-equivalent net interest income for 1996 increased $8.4 million or 10.1% from 1995 as average earning assets grew $286 million over the prior year. Net interest margin dropped by 7 basis points primarily caused by lower yields on interest earning assets. Provident's interest income increased $19.7 million or 10.9% during the year primarily due to the growth in average earning assets offset in part by a 10 basis point decrease in yield. The decrease in yield was mainly due to a slightly lower interest rate environment. The increase in average earning assets resulted from a $178 million increase in the loan portfolios and $101 million increase in the investment portfolio. Consumer loans grew $346 million offset by a decline of $265 million in the residential mortgage portfolio, the result of a $282 million securitization at the end of 1995. The commercial business and real estate construction portfolios also experienced growth. Interest income earned on the loan portfolio increased $13.8 million reflecting higher loan outstandings. Average investments increased $101 million during the period mainly due to the securitization described above. The yield on investments and loans fell 17 basis points and 7 basis points, respectively. Interest lost from non-accruing loans was $440 thousand compared to $302 thousand in 1995. Interest expense increased $11.2 million from 1995 resulting from a $245 million growth in average interest bearing liabilities. The overall cost of funds remained relatively flat during 1996 as costs on total interest bearing liabilities declined one basis point. Excluding the effect of off-balance sheet positions in each year, total costs of interest bearing liabilities would have declined 14 basis points. The average rate paid on borrowed funds decreased 19 basis points during 1996. The increase in average interest bearing liabilities reflects a $79.6 million rise in borrowed funds and a $165 million increase in interest bearing deposits, $105 million of which is associated with matched maturity brokered deposits. Non-interest bearing demand deposit accounts grew by $22 million or 19%. Future growth in net interest income will depend upon consumer and commercial loan demand and the general level of interest rates. Please refer to the section entitled "Interest Sensitivity Management" on page 23 for further discussion of the impact of current trends on net interest income in 1996.
The table above analyzes the reasons for the changes from year-to-year in the principal elements that comprise net interest income. The calculation of rate, volume and rate/volume variances is based upon a procedure established for banks by the Securities and Exchange Commission. Rate, volume and rate/volume variances presented for each component will not total to the variances presented on totals of interest income and interest expense because of shifts from year-to-year in the relative mix of interest-earning assets and interest-bearing liabilities.
PROVISION FOR LOAN LOSSES
The provision for loan losses increased $8.4 million to $9.9 million in 1996. The increase was the result of overall growth in the loan portfolio of $406 million and a $5 million write-off of a single commercial credit. The corporation continues to emphasize quality underwriting as well as aggressive management of prior charge-offs and potential problem loans. Net charge-offs were $6.6 million in 1996 compared to $976 thousand in 1995. The increase is mainly associated with the single commercial credit noted above. Net charge-offs as a percentage of average loans were .42% in 1996 compared to .07% in 1995. Absent the commercial credit charge-off, net charge-offs as a percentage of average loans for 1996 were .08%. Non-accrual loans ended the year at $13.9 million, an increase of $5.5 million over December 31, 1995, primarily caused by the $322 million growth in consumer loans. A further discussion of the allowance for loan losses, net charge-offs and non-performing assets appears on pages 17 and 19.
NON-INTEREST INCOME
Non-interest income is principally derived from fee-based services, mortgage banking activities and gains on investment securities sales. Total non-interest income increased 56% to $45.5 million. Excluding net securities gains (losses) and interest income from a federal income tax refund, non-interest income increased $13.8 million or 53%.
The table below presents a comparative summary of the major components of non- interest income.
Loan fees increased $640 thousand from 1995. Retail loan fees increased $435 thousand while commercial fees were up $205 thousand. These increases are tied to an increase in loan volume. Deposit service charges rose 44% over the prior year due to a 51% or $4.7 million increase in retail demand deposit service fees. Interest-bearing demand deposits grew $18.5 million or 13.4% over last year while noninterest-bearing deposits increased $23.5 million or 19.6%. These increases are the result of continued promotion and sales efforts of retail deposit products. Income from mortgage banking activities increased $4.4 million, $3.9 million due to higher gains on the sale of mortgage loans. Gains from mortgage servicing rights increased $712 thousand offset in part by lower origination income of $562 thousand. Mortgage originations during the year declined $29 million to $388 million. This drop in originations reflects the decision to divest five mortgage origination offices in Pennsylvania and New Jersey. Provident Investment Center (PIC), a wholly owned subsidiary of the Bank offers annuities and mutual funds through an affiliation with a securities broker-dealer. Through concentrated sales efforts, additional licensing and training of branch sales personnel, income associated with these products increased by $689 thousand to $1.8 million. The Financial Accounting Standards Board issued Statement of Financial Accounting Standards ("SFAS") No. 125/127 -- "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities" which become effective for the Corporation in 1997. These Statements provide accounting and reporting standards for transfers and servicing of financial assets and extinguishments of liabilities. These Statements are not expected to have any material affect on the results of the Corporation.
NON-INTEREST EXPENSE
Non-interest expense is composed primarily of costs associated with employees' salaries and benefits, bank facilities, external data processing and regulatory fees. Provident's non-interest expense of $91.8 million represented a 10.4% increase, compared to a 4.8% increase in 1995. The table below presents a comparative summary of the major components of non-interest expense.
Salaries and benefits increased $4.7 million during the year. Compensation increased $4.0 million while health insurance was up $272 thousand. Pension expense declined $923 thousand while the 401K match was up $693 thousand. The rise in compensation is attributable to merit increases, new branches and staffing our new Fast 'n Friendly Check Cashing centers. Commissions associated with increased activity within Provident Investment Center, Inc. and maintaining Saturday hours at most of our branches also contributed to increased compensation expense. The lower pension cost is due to the change in the pension plan to a cash balance plan. Health care claims experience led to the increase in health insurance expense. Occupancy costs grew $376 thousand or 4.9% over last year mainly due to additional rent and leasehold improvements in the branch network as well as additional space requirements at our headquarters and operations buildings. Total furniture and equipment expense increased $1.1 million as technology in the bank's office automation and branch platform systems continues to be upgraded. During the year, mortgage loan servicing was out-sourced and account volume grew causing external processing to increase $2.4 million or 30%.
INCOME TAXES
Provident recorded income tax expense of $12.1 million on pre-tax income of $35.1 million for an effective tax rate of 34.4%. This compares with a 34.5% effective tax rate for 1995.
FOURTH QUARTER RESULTS
Provident recorded net income of $6.2 million or $.70 per share in the fourth quarter of 1996, an increase of $1.1 million or 22% over the $5.1 million or $.59 per share recorded in the same period last year. The higher earnings are principally due to a 7.8% increase in net interest income, higher non-interest income and lower tax expense. Higher operating expenses and loan loss provision partially offset these increases. Tax-equivalent net interest income in the fourth quarter rose $1.7 million to $23.9 million as the net interest margin declined 10 basis points to 3.54% and average earning assets grew $268 million to $2.7 billion. The decrease in the net interest margin primarily reflected a lower interest rate environment for earning assets as well as the cost of off balance sheet transactions used in interest rate risk management.
The Corporation recorded a provision for loan losses of $2.3 million during the quarter to provide for loan growth in the portfolio. Non-interest income increased 14 percent to $10.4 million. The increase is derived from fee based services as a result of higher account volumes, security gains and settlement of litigation. Fee income from retail fees increased $1.3 million and net security gains increased $432 thousand. These increases were partially offset by lower mortgage banking income mainly associated with lower sales of mortgage servicing rights and lower volume. Non-interest expense increased $1.4 million to $23.5 million because of higher compensation, advertising and promotion, and external processing expense. External processing costs rose $491 thousand due to increased account volume and outsourcing of mortgage processing. In addition, furniture and equipment expense increased $289 thousand associated with upgrading technology. Other non-interest expense increased $584 thousand mainly related to consulting and legal fees.
The following table presents quarterly trend data for 1996 and 1995.
FINANCIAL CONDITION
SOURCE AND USE OF FUNDS
DEPOSITS
The following table presents information concerning the Bank's average deposits and rates for the respective years.
The table below presents information at December 31, 1996, with respect to the maturity of Certificates of Deposit of $100,000 or more.
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[The following table is representative of the bar graph shown on the top of page 15 of the Annual Report to Stockholders.]
- ------------------------------------------------------------------------------- The graph above reflects the steady growth in deposits over the respective years. A major portion of Provident's funding comes from core deposits which consists of consumer and commercial transaction accounts and consumer savings and time deposits. These deposits are generated through the Bank's 44 branch banking locations. At December 31, 1996, core deposits represented 78% of total deposits and 53% of total liabilities. Provident's future funding growth is expected to be generated from deposit growth through strategies outlined below. The branch network strategy includes traditional full service branch locations supplemented with in-store branches. In-store branch locations are comprised of supermarket locations with plans in 1997 for locations in national retail superstores. Provident Bank of Maryland as of December 31, 1996 had 34 traditional branch locations and 10 in-store branches. The Corporation has an agreement with Super Rite Corporation to operate branches in their Metro and Basic supermarkets in the Baltimore Metropolitan area. Provident will selectively look for additional branch opportunities complementary to existing locations when the cost of entry is reasonable. The Corporation has two traditional branches and six in-store branches planned for 1997. Provident continues to attract increased commercial and retail deposits. Retail demand deposit balances at December 31, 1996 were up $35.5 million or 18% compared to year end 1995. During 1996, the Bank opened four Fast 'n Friendly Check Cashing centers with the purpose of offering alternative banking services. The Corporation has two new centers planned for 1997. Table 7 presents the average deposit balances and rates paid for the five years ended December 31, 1996. As this table indicates, Provident has a stable base of consumer savings deposits. During 1996, average deposits grew $188 million or 12.5% compared to 1995. Money market/demand deposits and noninterest-bearing deposits increased $52.5 million or 14.9%. This growth reflects Provident's emphasis on full banking relationships with its retail and commercial customers. Average time deposits increased $119.2 million or 21%, $105.1 million of which is attributable to matched maturity brokered deposits. Brokered deposits are utilized as a cheaper source of funds compared to other available sources of borrowed money whose terms can be matched against the assets funded. Savings deposits increased $16.1 million as a result of successful cross sell efforts by our branch personnel.
CREDIT RISK MANAGEMENT
Much of the fundamental business of Provident is based upon understanding, measuring and controlling credit risk. Credit risk entails both general risk, which is inherent in the process of lending, and risk specific to individual borrowers. Each consumer and residential lending product has a generally predictable level of credit loss. For example, loans with generally low credit loss experience include home mortgage and home equity loans. Loans with medium credit loss experience are primarily secured products such as auto and marine loans. The category with high credit loss experience includes unsecured products such as personal revolving credit. In commercial lending, losses as a percentage of outstanding loans can vary widely from period to period and are particularly sensitive to changing economic conditions. The evaluation of specific risk is a basic function of underwriting and loan administration, involving analysis of the borrower's ability to service debt as well as the value of pledged collateral. Policies and procedures have been developed which specify the appropriate credit approval and monitoring for the various types of credit offered. The Bank employs prudent lending practices and adheres to regulatory requirements including loan to value ratios and legal lending limits. These procedures are modified periodically in order to reflect changing conditions and new products. The Bank's lending and loan administration staffs are charged with reviewing the loan portfolio, identifying changes in the economy or in a borrower's circumstances which may affect the ability to repay debt or the value of pledged collateral. In order to assess and monitor the degree of risk in the loan portfolio, credit risk identification and review processes are utilized. Credit risk analysis assigns a grade to each commercial loan based upon an assessment of the borrower's financial capacity to service the debt and the presence and value of collateral for the loan. An independent loan review function tests risk assessment and determines the adequacy of the allowance for loan losses. The Financial Accounting Standards Board issued Statements of Financial Accounting Standards ("SFAS") No. 114/118 -- "Accounting by Creditors for Impairment of a Loan" which became effective for the Corporation in 1995. These Statements require creditors to evaluate the collectibility of contractually due principal and interest on commercial credits to assess the need for providing for losses. The Corporation's credit procedures require monitoring of commercial credits to determine the collectibility of such credits. If a loan is identified as impaired, it will be placed on non-accrual status and recorded according to the provisions of the SFAS No. 114/118. As of December 31, 1996, there were no commercial loans considered to be impaired.
LOANS
The following table sets forth information concerning the Bank's loan portfolio by type of loan at December 31.
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Provident offers a diversified mix of residential and commercial real estate, business and consumer loans. As shown in table 9, the mix of loans outstanding has shifted to more consumer orientation over the past five years. Growth in 1996 was experienced in all categories. Provident's residential mortgage lending includes the origination, sale and servicing of fixed and variable rate mortgage loans. Loans are originated through the offices of Provident Mortgage Corp. Mortgage origination activity in 1996 showed a slightly lower volume as originations totaled $388 million in 1996 compared to $417 million in 1995. In 1997, originations are projected to exceed 1996's production as more emphasis is being placed on the wholesale segment of the business. The residential real estate mortgage loan balance at December 31, 1996 was $127 million compared to $123 million at the end of the prior year. The servicing of residential mortgage loans may be retained or sold. During 1996, $413 million of bulk servicing was sold contributing $3.2 million to the total mortgage banking revenues. In addition, $227 million of loans sold servicing released contributed an additional $3.2 million. The mortgage servicing portfolio ended the year at $441 million. The Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 122 -- "Accounting for Mortgage Servicing Rights" -- which became effective for the Corporation in 1996. This statement requires mortgage banking enterprises that acquire mortgage servicing rights through either the purchase or origination of mortgage loans, and sells, or securitizes, those loans with servicing retained, to allocate the cost of the mortgage loans to the mortgage servicing rights and the loans. Provident offers a wide range of loans to consumers including installment loans, home equity loans, and personal lines of credit. In addition, the Bank may purchase portfolios of quality consumer loans from other financial institutions. All purchased portfolios go through a thorough due diligence process prior to a purchase commitment. Provident's portfolio of acquired loans increased $123 million on average, ending the year at $422 million, and is predominately comprised of second mortgages.
Consumer credit originated by Provident ended the year with a balance of $678.6 million, an increase of 37%. The majority of the increase is the result of automobile loans made through a network of auto dealerships in Maryland, Delaware, Pennsylvania and Virginia. Auto loans made through this network of dealerships grew $132 million, ending the year at $279.3 million. Marine loan balances grew $32 million during 1996, totaling $166.4 million at year-end, and were produced primarily through correspondent brokers. Home equity lines of credit increased $6 million during the year and totaled $142.6 million at the end of 1996. Provident's focus in commercial real estate lending has been on financing commercial and residential construction, as well as on intermediate-term commercial mortgages. Properties securing the loans include office buildings, shopping centers, apartment complexes, warehouses, residential building lots and developments. Commercial real estate mortgage loans increased $13.5 million or 9.1% while commercial construction loans decreased $2.6 million or 21.3%. Residential construction loans increased $24.1 million or 36.6% to end the year at $90.0 million. Provident's commercial loan portfolio consists of general business loans, including asset-based loans, primarily to small and medium sized businesses in the central Maryland region. The Bank stresses the importance of asset quality as well as the development of new marketing programs. Outstandings for the commercial loan portfolio were $250.4 million, an increase of $44.5 million from December 31, 1995. Provident has minimal exposure to highly leveraged transactions ("HLTs"). HLTs totaled $20.1 million as of year-end, and all are performing in accordance with their contractual terms.
NON-PERFORMING ASSETS AND PAST DUE LOANS
Non-performing assets include loans on which interest is no longer accrued and real estate and other assets that have been acquired through foreclosure or repossession. Past due loans are loans that are 90 days or more past due as of December 31 and still accruing interest because they are well secured and in the process of collection. Information with respect to non-performing assets and past due loans is presented in table 10 for the years indicated. As shown in the table, total non-performing assets increased $5.6 million, mainly in the consumer loan portfolio and past due loans increased $2.4 million, mainly in the residential mortgage loans. The $4.9 million increase in non-performing consumer loans is a result of a $322 million or 41% growth in the consumer loan portfolio. As of December 31, 1996, non-performing assets and past due loans ended the year at $14.8 million and $8.1 million, respectively. (See the discussion under Loans) The $7.8 million in past due residential mortgage loans are guaranteed or insured by an agency of United States government and no significant loss is anticipated. Non-performing commercial loans remained relatively unchanged from year to year.
[The following is representative of the bar graph shown in the middle of page 17 of the Annual Report to Stockholders.]
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The ratio of total non-performing loans to year-end loans grew to .80% from .64% at the end of 1995. The increase is mainly attributable to the growth in consumer loans. Presented below is interest income that would have been recorded on all non-accrual loans if such loans had been paid in accordance with their original terms and the interest income on such loans that was actually collected for the year.
ALLOWANCE FOR LOAN LOSSES
The following table reflects the allowance for possible loan losses and the activity during each of the respective years.
Provident maintains an allowance for loan losses which is available to absorb potential losses. The allowance is reduced by actual credit losses and is increased by the provision for loan losses and recoveries of previous losses. Determination of the adequacy of the allowance, which is performed quarterly, is accomplished by assigning specific reserves to individually identified problem credits and general reserves, based on historic and anticipated loss experience, to all other loans. The continued emphasis on loan quality and close monitoring of potential problem credits has resulted in a strong credit portfolio. Senior managers meet at least monthly to review the credit quality of the loan portfolios and at least quarterly with Executive Management to review the adequacy of the allowance for loan losses. The allowance is determined by management's evaluation of the composition and risk characteristics of the loan portfolio. Based upon the evaluation of credit risk, provisions, in the form of charges to operations, are made to bring the allowance up to a level management believes is adequate. An analysis of the loan portfolio was performed at December 31, 1996, and expected losses have been provided for in the allowance for loan losses. During 1996 the loan loss allowance increased $3.4 million to $24.8 million at year-end. The allowance as a percentage of total loans decreased from 1.61% to 1.43%, primarily from the growth in loans during the year. The allowance for loan losses as a percentage of non-accrual loans was 178% at December 31, 1996, compared to 253% the prior year. This decrease is attributable to the increase in non-accrual loans as discussed above. The portion of the allowance which is allocated to non-accrual loans is determined by estimating the potential loss on each credit after giving consideration to the value of underlying collateral.
Provident maintains a loan classification and review system to identify those loans with a higher than normal risk of uncollectibility. Estimated potential losses from internally criticized loans have been provided for in determining the allowance for loan losses.
The table below reflects the allocation of the allowances for loan losses to the various loan categories as required by the Securities and Exchange Commission. The entire allowance for loan losses is available to absorb losses from any type of loan.
INVESTMENT SECURITIES
The following table sets forth information concerning the Bank's investment securities portfolio at December 31.
Provident's investment activities include management of the $913 million investment securities portfolio. The investment securities portfolio includes mortgage-backed securities, U.S. Government securities, municipals and corporate notes. In addition to investment securities, the Corporation invests in federal funds sold, reverse repos, mortgage loans held for sale and other short-term investments (referred to in total as the investment portfolio). The strategies employed in the management of these portfolios depend upon the liquidity, interest sensitivity and capital objectives and requirements of the Corporation. The Treasury Division executes these strategies. During 1996, Provident continued to enjoy a strong capital position, a high degree of liquidity, and a substantial level of core deposits. Management's principal objectives for the investment portfolio during 1996 were to maintain an appropriate level of quality, to insure sufficient liquidity in various interest rate environments while maximizing yield and to increase net income by utilizing excess capital. To successfully achieve these objectives, the Corporation employs off balance sheet and on balance sheet strategies. Total investment securities decreased $136 million during 1996 as a result of shifting funds into the higher yielding loan portfolios. The Corporation applies the provisions of Statement of Financial Accounting Standards No. 115 which requires investment securities to be segregated into three categories: 1) held to maturity, 2) trading, and 3) available for sale. Based on the provisions of the standard, all securities in the available for sale category must be measured at fair market value. The resulting gain or loss is excluded from revenue but is shown as a change in shareholders' equity. Trading securities must be measured at fair value and changes included in income for the period. Securities designated as held to maturity are carried at amortized cost. As of December 31, 1996, $883 million of the Corporation's $913 million investment securities portfolio was classified as available for sale. At December 31, 1996, the available for sale portfolio included net unrealized losses of approximately $2.1 million, compared to net unrealized gains of $11.1 million at December 31, 1995. In addition to unrealized gains and losses, Provident realized $5.97 million in gains and $467 thousand in losses from the sale of securities from the available for sale portfolio in 1996. These sales were the result of management's continuous monitoring of the investment securities portfolio in terms of both credit quality and interest sensitivity. As of December 31, 1996, the Corporation had no investments classified as trading securities.
LIQUIDITY AND SENSITIVITY TO INTEREST RATES
The following table presents the contractual maturities and interest yields of the Bank's investment securities portfolio at December 31, 1996.
LIQUIDITY
An important component of the Bank's asset/liability structure is the level of liquidity available to meet the needs of customers and creditors. Traditional sources of bank liquidity include deposit growth, loan repayments, maturities of investment securities and money market investments, asset sales, borrowings and interest received. Provident's Asset/Liability Management Committee has established general guidelines for the maintenance of prudent levels of liquidity. The committee continually monitors the amount and source of available liquidity, the time required to obtain it and its cost. Management believes the Bank has sufficient liquidity to meet funding needs in the foreseeable future. The primary sources of liquidity at December 31, 1996 were loans held for sale and investment securities available for sale, which totaled $915 million. This represents 35% of total liabilities compared to 46% at December 31, 1995. Maturities of investment securities, as table 14 indicates, is expected to generate $125 million in funds in 1997 and $509 million, or 56%, of the portfolio within the next five years. Another source of liquidity is scheduled loan repayments within one year reflected in table 15, which totaled $245 million or 14% of loans. The liquidity amounts presented are contractual maturities exclusive of prepayments. Core deposits are valuable in assessing liquidity needs because they tend to be stable with little net short or intermediate-term withdrawal demands by customers. At year-end, core deposits represented $1.4 billion, or 60%, of total liabilities and 56% of total assets. An important element in liquidity management is the availability of borrowed funds. At December 31, 1996, short-term borrowings totaled $554 million, or 21%, of liabilities in contrast to $518 million, or 22%, of liabilities at December 31, 1995. This increase was used to fund growth in earning assets. The average maturity of short-term borrowings at the end of the current year was 50 days. The majority of these borrowings are fully collateralized by U.S. Government or mortgage-backed securities owned by the Bank. Long-term borrowings consisted of variable and fixed-rate advances from the Federal Home Loan Bank and totaled $256 million as of December 31, 1996. It is anticipated that Provident will continue to have access to the repurchase market and fed fund lines as well as short and long-term variable and fixed-rate funds from the Federal Home Loan Bank.
The following table presents contractual loan maturities and interest rate sensitivity at December 31, 1996.
INTEREST SENSITIVITY MANAGEMENT
The nature of the banking business, which involves paying interest on deposits at varying rates and terms and charging interest on loans at other rates and terms, creates interest rate risk. As a result, earnings are subject to fluctuations which arise due to changes in the level and direction of interest rates. Management's objective is to minimize this risk. Measuring and managing interest rate risk is a dynamic process which is performed regularly as an important component of management's analysis of the impact of changes in asset and liability portfolios. Control of Provident's interest sensitivity position is accomplished through the structuring of the investment and funding portfolios, securitizing loans for possible sale, the use of variable rate loan products and off-balance sheet derivatives. Management does not try to anticipate changes in interest rates. Its principal objective is to maintain interest margins in periods of both rising and falling rates. Traditional interest sensitivity gap analyses alone do not adequately measure an institution's exposure to changes in interest rates because gap models are not sensitive to changes in the relationship between interest rates charged or paid and do not incorporate balance sheet trends and management actions. Each of these factors can affect an institution's earnings. Accordingly, in addition to performing gap analysis, management also evaluates the impact of differing interest rates on net interest income using an earnings simulation model. The model incorporates the factors not captured by gap analysis by projecting income over a twelve month horizon under a variety of interest rate scenarios. As of December 31, 1996, Provident's interest sensitive liabilities exceeded interest sensitive assets within a one year period by $465 million or 16.6% of assets. The Bank's savings products are structured to give management the ability to reset the rates paid on a monthly basis. This causes the Bank to become more liability sensitive. If interest rates rise, the rate paid on savings deposits may follow, and the Corporation's net interest margin may decline. Management continues to take steps to protect the Bank from possible increases in interest rates. In 1996 these steps included lengthening the maturities on purchased funds and certificates of deposits and shortening asset maturities with straight forward interest rate swaps and caps. Management monitors the interest rate environment and employs appropriate off-balance sheet strategies to address potential changes in interest rates. These strategies lower the net interest margin but are designed to maintain an acceptable margin in a rising rate environment. As a result of off-balance sheet transactions undertaken to insulate the bank from interest rate risk, interest income has been decreased by $2.1 million and interest expense has been decreased by $125 thousand, for a net decrease of $1.97 million for the year ending December 31, 1996. Included in this net interest income decrease were amortization of closed positions which reduced interest income by $1.0 million and increased interest expense by $897 thousand (a net decrease of $1.9 million) for the year ending December 31, 1996. Without the amortization of closed positions, off-balance sheet positions reduced net interest income $64 thousand for the year ended December 31, 1996. The forward yield curve indicates that short-term rates will increase by 65 basis points and long-term will increase 10 basis points over the next twelve months. The Corporation's analysis indicates that if management does not adjust its December 31, 1996 off-balance sheet positions and the forward yield curve assumptions occur, off-balance sheet positions would decrease net interest income by $1.7 million over the next twelve months. This compares to a decrease in net interest income of $2.55 million should interest rates remain unchanged. Amortization of closed positions will reduce net interest income $3.3 million in 1997 and $2.1 million in 1998.
STOCKHOLDERS' EQUITY
It is necessary for banks to maintain a sufficient level of capital in order to sustain growth, absorb unforeseen losses and meet regulatory requirements. In addition, the current economic and regulatory climate places an increased emphasis on capital strength. In this environment, Provident continues to maintain a strong capital position. At December 31, 1996 total stockholders' equity was $197 million, a $12.8 million increase over the prior year. In addition to the ordinary adjustments to stockholders' equity of net income and dividends paid, additional capital was raised through the dividend reinvestment plan of $1.5 million and $2.6 million from the exercise of stock options, while capital decreased by $8.1 million during 1996 as a result of the Statement of Financial Accounting Standards No. 115. This statement requires changes in market value, net of applicable income taxes, of the available for sale investment portfolio to be accounted for through equity. During the second quarter of 1996, the Corporation issued a 5% stock dividend and all earnings per share figures have been adjusted for this dividend. Provident exceeds all regulatory capital requirements as of December 31, 1996. The standards used by federal bank regulators to evaluate capital adequacy are the risk-based capital and leverage ratio guidelines. Equity for regulatory purposes does not include market value adjustments as required by SFAS No. 115. Risk-based capital ratios measure core and total stockholders' equity against risk-weighted assets. Provident's core capital is equal to its common stock, capital surplus and retained earnings less treasury stock. The calculation of Provident's total stockholders' equity, for these purposes, is equal to the above plus the allowance for loan losses subject to certain limitations. Risk- weighted assets are determined by applying a weighting to asset categories and certain off-balance sheet commitments based on the level of credit risk inherent in the assets. At December 31, 1996, Provident's total capital ratio was 10.42% compared to the minimum regulatory guideline of 8%. In addition, core common stockholders' equity (Tier 1 Capital) must be at least 4% of risk-weighted assets. At year-end, Provident's Tier 1 Capital ratio was 9.26%. The leverage ratio represents core capital, as defined above, divided by average total assets. Guidelines for the leverage ratio require the ratio of core stockholders' equity to average total assets to be 100 to 200 basis points above a 3% minimum, depending on risk profiles and other factors Provident's leverage ratio of 7.15% at December 31, 1996 was well in excess of this requirement.
FINANCIAL REVIEW 1995/1994
For the year ended December 31, 1995, Provident recorded net income of $18.0 million or $2.10 per share on a fully diluted basis, compared to $12.5 million or $1.63 per share reported in 1994. The per share amounts have been adjusted for a 5% stock dividend issued in 1996. This improvement in earnings was attributable to an $11.1 million rise in tax equivalent net interest income and a $4.4 million increase in retail service charges. These increases more than offset a $3.8 million increase in operating expense. Net interest income on a tax-equivalent basis for 1995 increased $11.1 million or 15.3% from 1994 as average earning assets grew $480 million over the prior year. The net interest margin dropped by 35 basis points primarily caused by the leveraging through investment security purchases of additional capital raised during the fourth quarter of 1994. These margins are lower than is traditionally earned through the generation of loan balances. The provision for loan losses increased $1 million to $1.5 million in 1995. This increase was the result of loan growth in the consumer loan and commercial loan portfolios as total average loans outstanding grew by $176 million. Non-interest income increased 7.2% to $29.2 million. Excluding net securities gains (losses), interest income from a federal income tax refund and gains for mortgage servicing rights, non-interest income increased $3.6 million or 18%. Deposit service charges rose 55% over the prior year due to a 63% or $3.6 million increase in retail demand deposit service fees. Income from mortgage banking activities fell $4.9 million, $4.1 million due to lower gains on the sale of mortgage servicing rights. The remaining decline is due to lower origination fee income as mortgage originations during the year declined $88 million to $417 million. Income from sales of annuities and mutual funds through an affiliation with a securities broker-dealer decreased $900 thousand to $1.1 million for 1995. This decline was believed to have been associated with customer preference for certificates of deposit versus annuities as rates for these products were more attractive in 1995. Provident's non-interest expense rose 4.8% in 1995 over 1994. Salaries and benefits declined $336 thousand during 1995. Compensation and payroll taxes increased $712 thousand while health insurance and pension expense declined $897 thousand and $267 thousand, respectively. Occupancy costs grew $428 thousand or 5.9% over 1994. Much of this increase was due to additional mortgage and supermarket branches as well as additional space requirements at our headquarters and operations buildings. Total furniture and equipment expense increased $760 thousand due to upgrading of technology in the bank's office automation and branch platform systems. External processing increased $1.2 million or 19%, as new branch locations were added. Other expenses increased by $1.7 million mainly associated with settlement of a lawsuit in connection with termination of an acquisition and write-off of personal computer equipment not compatible with a newly installed local area network system. In addition, advertising costs increased $575 thousand or 12% compared to 1994. This increase was attributable to promotion of retail products. Provident recorded an income tax expense of $9.5 million in 1995 based on pre-tax income of $27.5 million, which represented an effective tax rate of 34.5%. This compares with a 36.3% effective tax rate for 1994. The reduction in the effective tax rate was caused by favorable resolution of state tax issues and the recognition of deferred tax items at a higher rate as the current marginal federal rate was higher than when the items were originally deferred.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Provident Bankshares Corporation and Subsidiaries
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Report of Accountants 26
For the Three Years Ended December 31, 1996, 1995 and 1994
Consolidated Statement of Income 28 Consolidated Statement of Changes in Stockholders' Equity 30 Consolidated Statement of Cash Flows 31 Consolidated Statement of Condition at December 31, 1996 and 1995 29 Notes to Consolidated Financial Statements 32-54 ===============================================================================
REPORT OF COOPERS & LYBRAND L.L.P., INDEPENDENT ACCOUNTANTS
To the Board of Directors Provident Bankshares Corporation Baltimore, Maryland
We have audited the accompanying consolidated statement of condition of Provident Bankshares Corporation and subsidiaries (Corporation) as of December 31, 1996, and 1995, and the related consolidated statement of income, changes in stockholders' equity, and cash flows for each of the three years in the period ended December 31, 1996. These financial statements are the responsibility of the Corporation's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the 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 financial statements referred to above present fairly, in all material respects, the consolidated financial position of Provident Bankshares Corporation and subsidiaries as of December 31, 1996 and 1995, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 1996, in conformity with generally accepted accounting principles.
/s/Coopers & Lybrand L.L.P. Coopers & Lybrand L.L.P. Baltimore, Maryland January 15, 1997
FINANCIAL REPORTING RESPONSIBILITY
CONSOLIDATED FINANCIAL STATEMENTS Provident Bankshares Corporation (the "Corporation") is responsible for the preparation, integrity and fair presentation of its published consolidated financial statements as of December 31, 1996, and the year then ended. The consolidated financial statements have been prepared in accordance with generally accepted accounting principles and, as such, include amounts, some of which are based on judgments and estimates of management.
INTERNAL CONTROL STRUCTURE OVER FINANCIAL REPORTING Management maintains a system of internal control over financial reporting, including controls over safeguarding of assets against unauthorized acquisition, use or disposition which is designed to provide reasonable assurance to the Corporation's management and board of directors regarding the preparation of reliable published financial statements and such asset safeguarding. The system contains self-monitoring mechanisms, and actions are taken to correct deficiencies as they are identified. This system encompasses activities that control the preparation of the Corporation's Annual Report/10-K financial statements prepared in accordance with generally accepted accounting principles. There are inherent limitations in the effectiveness of any system of internal control, including the possibility of human error and the circumvention or overriding of controls. Accordingly, even an effective internal control system can provide only reasonable assurance with respect to financial statement preparation. Further, because of changes in conditions, the effectiveness of an internal control system may vary over time. Management assessed its internal control structure over financial reporting as of December 31, 1996. This assessment was based on criteria for effective internal control over financial reporting described in "Internal Control-- Integrated Framework" issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on this assessment, management believes that Provident Bankshares Corporation maintained an effective internal control structure over financial reporting as of December 31, 1996.
COMPLIANCE WITH LAWS AND REGULATIONS Management is also responsible for compliance with the federal and state laws and regulations concerning dividend restrictions and federal laws and regulations concerning loans to insiders designated by the FDIC as safety and soundness laws and regulations. Management assessed its compliance with the designated laws and regulations relating to safety and soundness. Based on this assessment, management believes that Provident Bank of Maryland, the wholly owned subsidiary of Provident Bankshares Corporation complied, in all significant respects, with the designated laws and regulations related to safety and soundness for the year ended December 31, 1996.
The accompanying notes are an integral part of these statements.
The accompanying notes are an integral part of these statements.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Provident Bankshares Corporation and Subsidiaries
NOTE 1 -- SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The following summary of significant accounting policies of Provident Bankshares Corporation and its subsidiaries (the "Corporation") is presented to assist the reader in understanding the financial and other data presented in this report. The accounting and reporting policies of the Corporation are in accordance with generally accepted accounting principles and conform to general practice within the banking industry. Certain prior years' amounts in the Consolidated Financial Statements have been reclassified to conform with the presentation used for the current year.
CONSOLIDATION POLICIES The Consolidated Financial Statements include the accounts of Provident Bankshares Corporation and its wholly owned subsidiary, Provident Bank of Maryland (the "Bank") and its subsidiaries. All significant intercompany accounts and transactions have been eliminated in consolidation.
INVESTMENT SECURITIES The Corporation divides the investment portfolio among three categories: securities held to maturity, securities available for sale and, if applicable, trading account securities. Securities that the Corporation has the intent and ability to hold to maturity are included in securities held to maturity and, accordingly, are carried at cost adjusted for amortization of premiums and accretion of discounts using the interest method. Securities available for sale are securities the Corporation does not have the intent and ability to hold to maturity nor does it intend to trade actively as part of any trading account activity. Available for sale securities are reported at fair value with any unrealized appreciation or depreciation in value reported directly as a separate component of stockholders' equity as unrealized gain (loss) on debt securities which is reflected net of applicable taxes, and therefore, have had no effect on the reported earnings of the Corporation. Gains and losses from sales of securities available for sale are recognized by the specific identification method.
LOANS AND ALLOWANCE FOR LOAN LOSSES Interest on loans is accrued at the contractual rate and credited to income based upon the principal amount outstanding. It is the policy of management to discontinue the accrual of interest and reverse previously accrued but unpaid interest when the quality of the credit has deteriorated to the extent that collectibility of all interest and/or principal cannot be reasonably expected or when it is 90 days past due unless the loan is well secured and in the process of collection. The Corporation adopted the provisions of Statements of Financial Accounting Standards No. 114/118 "Accounting by Creditors for Impairment of a Loan" ("SFAS No. 114/118") on January 1, 1995. Under SFAS No. 114/118, the Corporation considers a loan impaired when, based on available information, it is probable that the Corporation will be unable to collect principal and interest when due in accordance with the contractual terms of the loan agreement. The measurement of impaired loans may be based on the present value of expected future cash flows discounted at the historical effective interest rate or based on the fair value of the underlying collateral. Impairment criteria are applied to the loan portfolio exclusive of smaller balance homogeneous loans such as residential mortgage and consumer loans which are evaluated collectively for impairment. The allowance for loan losses includes reserves for these loans. Collections of interest and principal on loans in nonaccrual status and considered impaired are generally applied as a reduction to the outstanding principal. Once future collectibility has been established, interest income may be recognized on a cash basis. The Corporation defers and amortizes loan origination fees and related costs over the life of the loan using the interest method. Net amortization of fees and costs are recognized in interest income as a yield adjustment and are, accordingly, reported as Interest and Fees on Loans in the Consolidated Statement of Income. The Corporation's allowance for loan losses is based upon management's continuing review and evaluation of the loan portfolio and is intended to maintain an allowance adequate to absorb potential losses on loans outstanding. The level of the allowance is based on an evaluation of the risk characteristics of the loan portfolio and considers such factors as past and expected future loan loss experience, the financial condition of the borrower, current economic conditions and other relevant factors. Adjustments to the allowance due to changes in measurement of impaired loans are incorporated in the provision for loan losses. The adoption of SFAS No. 114/118 has not resulted in any additional provision for loan losses for the years ended December 31, 1995 and 1996, respectively.
PREMISES AND EQUIPMENT Premises, equipment and leasehold improvements are stated at cost less accumulated depreciation and amortization. Depreciation and amortization are computed on the straight-line method over the estimated useful lives of the assets or, for leasehold improvements, the lives of the related leases, if shorter.
STOCKHOLDERS' EQUITY During 1996 and 1995, the Corporation declared five percent stock dividends for each year to the stockholders of record as of April 29, 1996 and May 1, 1995, respectively. The 1996 stock dividend was paid on May 10, 1996 resulting in the distribution of 399,817 common shares with a par value of $1.00 per share. Accordingly, $400 thousand and $12.1 million was transferred from retained earnings to common stock and capital surplus, respectively. The 1995 stock dividend was paid May 12, 1995 with the distribution of 369,977 common shares with a $1.00 par value per share. This dividend resulted in the transfer of $370 thousand to common stock and $7.9 million to capital surplus from retained earnings. The cumulative impact of these stock dividends has been reflected in the restatement of earnings and dividends per share and stock option data in the financial statements and accompanying notes.
INCOME TAXES The Corporation uses the liability method to determine deferred tax amounts and the related income tax expense or benefit. Using this method, deferred taxes are calculated by applying enacted statutory tax rates to temporary differences consisting of items of income and expense that are accounted for in financial reporting periods which differ from income tax reporting periods. The resultant deferred tax assets and liabilities represent future taxes to be recovered or remitted when the related assets and liabilities are recovered or settled. The deferred tax assets are reduced by a valuation allowance for that portion of the tax deferred assets which are unlikely to be realized.
DERIVATIVE FINANCIAL INSTRUMENTS The Corporation uses a variety of derivative financial instruments as part of its interest rate risk management strategy (See Note 12). The Corporation does not hold or issue derivative financial instruments for trading purposes. The derivative products used are interest rate swaps and caps or floors, used separately or in combination to suit the hedge objective and are classified as hedges. To qualify as a hedge, 1) the asset or liability to be hedged exposes the Corporation to interest rate risk, 2) the derivatives act to move the Corporation to a rate insensitive position should interest rates change, and 3) the derivative is designed and is effective as a hedge of a balance sheet item. Interest rate swaps are agreements between two parties which agree to exchange fixed and floating rates on a notional principal amount without the actual exchange of principal for a specified period of time. The notional amounts are not reflected on the Consolidated Statement of Condition because they are merely a unit of measure to determine the effect of the swap. Income and expense on interest rate swaps associated with designated balance sheet items is recognized using the accrual method over the life of the agreement(s) as an adjustment to the income or expense on the designated balance sheet item. Premiums associated with interest rate floor/cap/corridor arrangements are reflected in the Consolidated Statement of Condition and amortized over their life using the straight-line method and included as an adjustment to interest income/expense associated with the balance sheet item. Payments due to or from counterparties under these agreements are accrued as an adjustment to interest income or expense associated with the designated balance sheet item. The Corporation continually monitors each derivative position to ensure the proper relationship between the designated balance sheet item hedged and the derivative position. Any significant divergence between this relationship which results in interest income or expense exceeding projected parameters results in the hedge being marked-to-market with the resultant gain or loss included in earnings. Terminated derivative positions with the designated assets or liabilities retained have the resulting gain or loss deferred and amortized over the estimated remaining life of the hedge. Interest rate swaps used to hedge available for sale debt securities have their fair value included in stockholders' equity which is consistent with the fair value treatment of the available for sale securities. Interest accruals associated with the swap are included as an adjustment to interest income on the associated securities. Derivative products terminated prior to the sale of the related security have the respective gain or loss amortized over the life of the swap as long as the Corporation retains the security. Upon sale of the security, the deferred gain or loss on the derivative is reflected in income at the time of sale. Derivatives associated with liquidated hedged assets or liabilities are marked-to-market and have subsequent changes in their fair value reflected in earnings as the derivative is considered speculative in nature.
PENSION PLAN The Corporation has a defined benefit pension plan which covers substantially all employees. The cost of this noncontributory pension plan was computed and accrued using the projected unit credit method. Prior service cost is amortized on a straight-line method over the average remaining service period of employees expected to receive benefits under the plan.
EARNINGS PER SHARE Primary and fully diluted net income per common share are based upon the weighted average number of common shares outstanding and common stock equivalents using the treasury stock method for each year, as applicable and adjusted for stock dividends.
STATEMENT OF CASH FLOWS For purposes of reporting cash flows, cash equivalents are composed of cash and due from banks and short-term investments.
NOTE 2 -- RESTRICTIONS ON CASH AND DUE FROM BANKS The Federal Reserve requires banks to maintain cash reserves against certain categories of deposit liabilities. Such reserves averaged approximately $18.5 million and $16.5 million during the years ended December 31, 1996 and 1995, respectively. In order to cover the costs of services provided by correspondent banks, the Corporation maintains compensating balance arrangements at these correspondent banks or elects to pay a fee in lieu of such arrangements. During 1996 and 1995, the Corporation maintained average compensating balances of approximately $2.6 million and $2.4 million, respectively. In addition, the Corporation paid fees totaling $366 thousand in 1996, $317 thousand in 1995 and $285 thousand in 1994 in lieu of maintaining compensating balances.
The aggregate amortized cost and market values of the investment securities portfolio by contractual maturity at December 31, 1996 and 1995, are shown below. Expected maturities on mortgage-backed securities may differ from the contractual maturities as borrowers have the right to prepay the obligation without prepayment penalties.
Proceeds from sales of securities available for sale during 1996 were $273.6 million resulting in the realization of gross gains of $6.0 million and gross losses of $467 thousand on such sales. For 1995, sales of securities yielded proceeds of $203.0 million which resulted in gross realized gains of $800 thousand and gross losses of $3.5 million. During 1995, the Financial Accounting Standards Board issued a special report on SFAS No. 115 which provided an opportunity to reclassify from securities held to maturity to securities available for sale. The permitted reclassification resulting from this one-time assessment does not call into question the intent of the Corporation's future investment classifications. On December 31, 1995, the Corporation transferred $385.2 million of securities from Securities Held to Maturity to Securities Available for Sale. The transfer was the result of management's intention to maximize its flexibility to take advantage of future business opportunities. These securities were transferred at fair value and the respective holding gains/(losses) were recognized as a separate component of stockholders' equity. At December 31, 1996, a net unrealized loss of $1.3 million on the securities portfolio was reflected as a separate component of stockholders' equity in the Consolidated Statement of Condition as compared to a net unrealized gain of $6.8 million at December 31, 1995. The aggregate book and estimated market values of investment securities which exceed ten percent of capital at December 31, 1996, are indicated below.
Securities with a market value of $804.1 million and $525.0 million at December 31, 1996 and 1995, respectively, were pledged as collateral for public funds, certain short-term borrowings and for other purposes required by law.
NOTE 4 -- ALLOWANCE FOR LOAN LOSSES A summary of the activity in the allowance for loan losses for the three years ended December 31 is presented below:
At December 31, 1996, 1995 and 1994, the recorded investment in loans which are in non-accrual status and therefore considered impaired totaled $267 thousand, $140 thousand and $1.1 million, respectively. There was no additional allowance required for these loans under the provisions of SFAS No. 114/118. Had these loans performed in accordance with their original terms, interest income of $130 thousand in 1996, $143 thousand in 1995 and $294 thousand in 1994 would have been recorded. During 1996 and 1995 no interest income was recognized on these loans, however $35 thousand was recognized in 1994. The average recorded investment in impaired loans was approximately $624 thousand in 1996 and $757 thousand in 1995.
NOTE 5 -- PREMISES AND EQUIPMENT Real estate and equipment holdings at December 31 are presented in the table below. Real estate owned and used by the Corporation consists of six branches and other facilities in the metropolitan Baltimore area which are used primarily for the operations of the Bank.
Property Held for Future Expansion represents approximately 49,000 square feet of real estate adjacent to the Corporation's headquarters building which is currently being used for employee and public parking. Following an assessment of occupancy requirements, management determined that this property would be necessary to meet the Corporation's growing office and parking requirements. In December 1990, the Corporation entered into a sale and leaseback agreement whereby its headquarters building was sold to an unrelated third party which then leased the building back to the Corporation. In association with the sale, the Corporation financed $6.0 million of this arrangement with a market rate note which has recourse to other assets of the acquiror. The twelve year lease has two renewal options of five years each and contains an escalation clause which acts to increase rental payments throughout the lease term up to specified limits. The associated gain of $2.6 million from the sale has been deferred and will be recognized in proportion to the gross rental expense incurred over the term of the lease. The associated lease payments and sublease rental income are included in the table below.
The Corporation also maintains non-cancelable operating leases associated with Bank premises. Most of these leases provide for the payment of property taxes and other costs by the Bank and include one or more renewal options ranging up to ten years. Some of the leases also contain purchase options at market value. Annual rental commitments under all long-term non-cancelable operating lease agreements consisted of the following at December 31, 1996.
Rental expense for premises and equipment was $5.4 million in 1996, $5.0 million in 1995 and $4.8 million in 1994.
NOTE 6 -- MORTGAGE BANKING ACTIVITIES The Corporation engages in sales of mortgage loans, which are originated internally or purchased from third parties. Mortgage loans held for sale are carried at the aggregate lower of cost or market value. Gains or losses on sales of these mortgage loans are recorded as a component of Non-Interest Income in the Consolidated Statement of Income. Unpaid principal balances of loans serviced for others not included in the accompanying Consolidated Statement of Condition were $282 million and $813 million at December 31, 1996 and 1995, respectively. Under the provisions of Statement of Financial Accounting Standards No. 122 - -- "Accounting for Mortgage Servicing Rights" ("SFAS No.122"), beginning January 1, 1996, the Corporation began to recognize a separate asset for the right to service originated residential mortgage loans for which a definitive plan existed to sell or securitize the associated mortgage loans based upon the fair value of the servicing rights. Application of this guidance to originated servicing rights prior to January 1, 1996 is not permitted. Additionally, any acquisition costs of acquiring mortgage servicing rights are also capitalized. Originated and acquired servicing rights are amortized over the estimated period of and in proportion to estimated net servicing revenue. Servicing rights are evaluated periodically for impairment based on their fair value and impairment, if any, is recognized through a valuation allowance and a charge to operations. At December 31, 1996, no valuation allowance was required. The following is an analysis of originated, acquired and excess mortgage servicing rights for the years ended December 31, 1996, 1995 and 1994, respectively.
NOTE 7 -- SHORT-TERM BORROWINGS
At December 31, the detail of short-term borrowings were as follows:
Securities sold under repurchase agreements at December 31, 1996, are detailed below by due date:
NOTE 8 -- LONG-TERM DEBT Long-term debt consisted of Federal Home Loan Bank Advances of $256.2 million and $267.9 million at December 31, 1996 and 1995, respectively. The principal maturities of long-term debt at December 31, 1996, are presented below.
The Federal Home Loan Bank Advances to the Bank mature in varying amounts through 2016. These advances are composed of $150.5 million fixed rate advances with an average interest rate of 6.31% and $105.7 million variable rate advances with an average rate of 5.53%. These advances are collateralized by investment securities and certain real estate loans with carrying values of $278.4 million and $131.8 million, respectively, at December 31, 1996.
NOTE 9 -- INCOME TAXES The components of income tax expense and the sources of deferred income taxes for the three years ended December 31 are presented below.
Tax expense (benefit) associated with investment securities gains/(losses) was $2.2 million in 1996, $(1.1) million in 1995 and $223 thousand in 1994.
The primary sources of temporary differences that give rise to significant portions of the deferred tax asset and liability at December 31, 1996 and 1995, are presented below.
At December 31, 1996 and 1995, no valuation allowance was required with respect to deferred tax assets.
The combined federal and state effective tax rate for each year is different than the statutory federal income tax rate. The reasons for these differences are set forth below:
NOTE 10 -- STOCKHOLDERS' EQUITY The Corporation's Stock Option Plan (the "Option Plan") covers a maximum of 1.3 million shares of common stock that has been reserved for issuance under the Option Plan described below. Under the provisions of Statement of Financial Accounting Standards No. 123 - "Accounting for Stock-Based Compensation" ("SFAS No. 123"), the Corporation had the option of accruing a compensation expense for stock options granted to employees, or applying the provisions of APB Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB No. 25") which does not require compensation expense to be recognized. The Corporation has elected to continue to apply APB No. 25 in 1996 to account for the Option Plan as had been applied in 1995 and 1994. Under the Option Plan, stock options are granted at an exercise price not less than the market value of the underlying shares of common stock on the date of the grant, as such, the Option Plan is classified as a fixed stock option plan. Accordingly, as a fixed stock option plan, no compensation expense has been recognized in the Consolidated Statement of Income. The Option Plan provides for the granting of nonqualified stock options to certain key employees and directors of Bankshares and the Bank, as designated by the Corporation's board of directors. All options have a maximum duration of ten years from the date of grant. Vesting in the majority of options usually occurs immediately in 50% of the options granted with the remainder vesting in the subsequent year. The vesting provisions on the remaining options may be accelerated on the attainment of specific benchmarks related to the Corporation's performance.
The following table presents a summarization of the activity related to the options for the periods indicated:
The table below provides information on the stock options outstanding at December 31, 1996:
The weighted average fair value of all of the options granted during 1996, 1995 and 1994 has been estimated using the Black-Scholes option-pricing model with the following weighted average assumptions:
The provisions of SFAS No. 123 requires pro forma disclosure of compensation expense for the Corporation based on the fair value of the awards at the date of grant. Under those provisions, the Corporation's net income and earnings per share would have been reduced to the following pro forma amounts below:
At the time of the Corporation's reorganization, a liquidation account was established by the Bank for the benefit of all eligible deposit account holders as of December 31, 1986 who maintain their accounts in the Bank subsequent to the Reorganization. The liquidation account provides these deposit account holders with an interest in the retained earnings of the Bank prior to any distribution to stockholders in the sole event of a complete liquidation. The deposit account holders' interest in the liquidation account decreases as the related deposit account decreases and will never increase. The liquidation account does not restrict the use or application of stockholders' equity of the Bank except that the Bank may not declare or pay a cash dividend on, or repurchase any of its capital stock if, as the result of such dividend or repurchase, the Bank's stockholders' equity would be less than the amount then required for the liquidation account. At December 31, 1996, the balance of the liquidation account was $12.6 million.
NOTE 11 -- EMPLOYEE BENEFIT PLANS
PENSION PLAN The Corporation's non-contributory defined benefit pension plan covers substantially all full-time employees with at least one year of service and provides monthly benefits upon retirement to participants based on average career earnings and length of service.
During 1996 the Plan was amended effective January 1, 1996 to change the Plan into a Cash Balance Plan. Accrued benefits were converted to cash balances as of January 1, 1996 for the Plan participants. This change resulted in a reduction in the Plan expense during 1996 and the liability at December 31, 1996. The Corporation's policy is to contribute amounts to the plan sufficient to meet the minimum funding requirements set forth in the Employee Retirement Income Security Act of 1974, as amended, plus such additional amounts as the Corporation deems appropriate. During 1996, the Corporation contributed $1.3 million to the plan assets.
The following table sets forth the defined benefit plan's funded status at January 1:
The actuarially estimated net pension cost for the year ended December 31 includes the following components:
The Corporation revises the rates applied in the determination of the actuarial present value of the projected benefit obligation to reflect the anticipated performance of the plan and changes in compensation levels.
Plan assets are primarily comprised of equity securities, and short-term and long-term debt securities. The unrecognized net asset arising at transition is being amortized over 15.6 years. The plan held no shares of the Corporation's common stock at December 31, 1996, 1995 and 1994.
RETIREMENT SAVINGS PLAN The Retirement Savings Plan is a defined contribution plan which is qualified under Section 401(a) of the Internal Revenue Code of 1986. The plan generally allows all employees who complete 500 hours of employment during a six month period and elect to participate, to receive matching funds from the Corporation for pre-tax retirement contributions made by the employee. The annual contribution to this plan is at the discretion of and determined by the Board of Directors of the Corporation. During 1996, the Corporation raised the maximum contribution of 50% of an employee's contribution up to 2% of the individual's salary to 75% and 4.5%, respectively. Contributions to this plan amounted to $1.1 million, $441 thousand and $403 thousand for the years ended December 31, 1996, 1995 and 1994, respectively.
POSTRETIREMENT BENEFITS In addition to providing pension benefits, the Corporation provides certain health care and life insurance benefits to retired employees. Substantially all employees of the Corporation that reach retirement age may become eligible for these benefits, generally contingent upon the completion of twenty years of service. The health care plan is contributory where the retiree is responsible for all premiums in excess of the Corporation's contribution. The Corporation's contribution is capped at a growth rate of 4% per year. Under the prospective transition approach, the transition obligation is amortized over a twenty-year period. The cost of life insurance benefits provided to the retiree is borne by the Corporation. At December 31, 1996 and 1995, this plan is unfunded.
The following tables set forth the plan's funded status reconciled with amounts reported in the Corporation's financial statements at December 31:
The actuarially estimated net postretirement benefit cost for the year ended December 31:
NOTE 12 -- OFF-BALANCE SHEET RISK In the normal course of business, the Bank offers various financial products to its customers to meet their credit and liquidity needs. These instruments involve, to varying degrees, elements of credit and market risk which may exceed any amount recognized in the financial statements. Risks that are inherent in normal banking services also exist in some of these financial instruments. Contract amounts of the instruments indicate the maximum exposure the Bank has in each class of financial instruments discussed in the following paragraphs. These commitments and contingencies are not reflected in the accompanying financial statements. Unless noted otherwise, the Bank does not require collateral or other securities to support financial instruments with credit risk. Subject to its normal credit standards and risk monitoring procedures, the Bank makes contractual commitments to extend credit. Commitments to extend credit in the form of consumer, commercial real estate and commercial business loans amounted to $323.8 million and $273.3 million at December 31, 1996 and 1995, respectively. Commitments typically have fixed expiration dates or other termination clauses. The total of commitments does not necessarily represent future cash requirements as many commitments may expire without being exercised. Collateral and amounts thereof are obtained, if necessary, based upon management's evaluation of each borrower's financial condition. Required collateral may be in the form of cash, accounts receivable, inventory, property, plant and equipment and income generating commercial properties and residential properties. The Bank is obligated under various recourse provisions related to sales of residential mortgage loans. The maximum potential recourse obligation was $16.4 million and $21.5 million at December 31, 1996 and 1995, respectively. No losses have been incurred under these recourse provisions. Conditional commitments are issued by the Bank in the form of performance stand-by letters of credit which guarantee the performance of a customer to a third party. These letters of credit are typically included in the amount of funds committed by the Bank to complete associated construction projects. At December 31, commitments under outstanding performance stand-by letters of credit aggregated $30.4 million in 1996 and $18.5 million in 1995. The credit risk of issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. The Bank enters into agreements for the delivery of securitized mortgage pools at a future date at a specified price or yield. The inability of counterparties to meet the terms of these contracts and movements in the value of securities and interest rates imposes risk on the Bank. Forward contracts aggregated $46.4 million and $110.1 million at December 31, 1996 and 1995, respectively. However management does not feel that any significant amounts are at risk with regard to these contracts. The Bank enters into various derivative financial instruments to manage its interest rate risk exposure (see Note 1). The two major types used are interest rate swaps and interest rate floor/cap/corridor arrangements. These derivative financial instruments use notional amounts to represent a unit of measure but not the amount subject to accounting loss, which is much smaller. Risks in these transactions involve nonperformance by counterparties under the terms of the contract (counterparty credit risk) and, for interest rate swaps, the possibility that interest rate movements or general market volatility could result in losses on open off-balance sheet positions (market risk). Credit risk is controlled by dealing with well-established brokers which are highly rated by independent sources. Market risk on interest rate swaps is minimized by using these instruments as hedges, actively managing interest rate risk and by continually monitoring these positions. Market risk associated with the interest rate floor/cap/corridor arrangements only exist when premiums are amortized into interest expense without receiving any compensation from third parties. Unamortized premiums paid and outstanding for floor/cap/corridor arrangements were $ 1.3 million at December 31, 1996, and $1.9 million at December 31, 1995.
Notional amounts of interest rate swaps and interest rate floor/cap/corridor arrangements are detailed below by amounts outstanding, average interest rates/fees and market values at December 31, 1996 and 1995.
For the year ended December 31, 1996, $39.0 million of the interest rate swaps hedged the exposure that the securities available for sale had to declining market values as a result of increasing interest rates. The remaining $273.6 million in swaps was utilized to hedge the interest rate risk inherent in short-term borrowings. The interest rate corridors protect the net interest margin from the impact of increases in savings deposit rates during periods of rising interest rates. The interest rate floors were purchased to hedge the impact of loan repricing on net interest income in future years. The following is an analysis of the activity with regards to interest rate swaps and interest rate floor/cap/corridor arrangements for the years ended December 31, 1996, 1995 and 1994, respectively.
At December 31, 1996, the Corporation had deferred gains of $324 thousand and deferred losses of $6.0 million related to terminated contracts. These deferred gains and losses will be amortized over .3 and 1.6 years, respectively. The Corporation had deferred gains of $3.1 million and deferred losses of $10.7 million related to terminated contracts which were amortized as a yield adjustment over 1.3 and 2.5 years, respectively, at December 31, 1995.
The notional maturities of the interest rate swaps and interest rate floor/cap/corridor arrangements at December 31, 1996, are presented below.
In addition to the previously mentioned commitments and contingencies, there are various legal proceedings against the Bank. Management believes that the aggregate liabilities, if any, arising from such actions would not have a material adverse effect on the consolidated financial position of the Corporation.
NOTE 13 -- CONCENTRATIONS OF CREDIT RISK
The Corporation's investment portfolio contains mortgage-backed securities amounting to $844.7 million and $920.4 million at December 31, 1996 and 1995, respectively. The underlying collateral for these securities is in the form of pools of mortgages on residential properties. The majority of the securities are either directly or indirectly guaranteed by U.S. Government agencies or corporations. Management is of the opinion that credit risk is minimal. Construction and mortgage loan receivables from real estate developers represent $247.6 million and $217.7 million of the total loan portfolio at December 31, 1996 and 1995, respectively. Substantially all loans are collateralized by real property or other assets. These loans are expected to be repaid from the proceeds received by the borrowers from the retail sales or rentals of these properties to third parties.
NOTE 14 -- OTHER NON-INTEREST INCOME AND EXPENSE
The components of other non-interest income and other non-interest expense for the three years ended December 31 were as follows:
NOTE 15 -- REGULATORY CAPITAL
The Corporation is subject to various capital adequacy guidelines imposed by federal and state regulatory agencies. Under these guidelines, the Corporation must meet specific capital adequacy requirements which are quantitative measures of the Corporation's assets, liabilities and certain off-balance sheet items calculated under regulatory accounting practices. Additionally, the Corporation's capital amounts and classifications are subject to qualitative judgments by these agencies about components, risk weightings and other factors. The quantitative measures established by regulation to ensure capital adequacy require the Corporation to maintain amounts and ratios of total and tier 1 capital to risk-weighted assets and tier 1 capital to average assets, known as
the leverage ratio. The Corporation's tier 1 capital is equal to its common stock, capital surplus and retained earnings less treasury stock. Equity for regulatory purposes does not include market value adjustments for available for sale securities. The calculation of the Corporation's total capital is equal to tier 1 capital plus the allowance for loan losses subject to certain limitations. Risk-weighted assets are determined by applying weighting to asset categories and certain off-balance sheet commitments based on the level of credit risk inherent in the assets. At December 31, 1996, the Corporation exceeds all regulatory capital requirements. The most recent notification from the Corporation's primary regulators categorized the Corporation as well capitalized under the regulatory framework for prompt corrective action. There are no conditions or events since that notification that management believes have changed the Corporation's category. If the Corporation is unable to comply with the minimum capital requirements, it would result in regulatory actions which could have a material impact on the Corporation. The minimum regulatory guidelines for total capital and tier 1 capital to risk-weighted assets are 8% and 4%, respectively. Guidelines for the leverage ratio require the ratio of tier 1 capital to average assets to be 100 to 200 basis points above a 3% minimum, depending on risk profiles and other factors. The table below presents the various components used to calculate the capital adequacy ratios.
NOTE 16 -- FAIR VALUE OF FINANCIAL INSTRUMENTS
Statement of Financial Accounting Standards No. 107 "Disclosure about Fair Value of Financial Instruments" requires all entities to disclose the fair value of recognized and unrecognized financial instruments on a prospective basis, where practicable, in an effort to provide financial statement users with information in making rational investment and credit decisions. To estimate the fair value of each class of financial instrument, the Corporation applied the following methods using the indicated assumptions:
CASH AND DUE FROM BANKS AND SHORT-TERM INVESTMENTS
Carrying amount of those investments is used to estimate fair value.
MORTGAGE LOANS HELD FOR SALE
Fair value for mortgage loans held for trading or sale was determined using forward contract commitment pricing for the majority of these loans. Loans not specifically allocated to a forward commitment have been priced using quoted prices for commitments into which these mortgages would be placed in the future.
SECURITIES AVAILABLE FOR SALE AND SECURITIES HELD TO MATURITY
The fair values of the securities are based on quoted market prices or dealer quotes for those investments.
LOANS
Fair value of loans which have homogeneous characteristics, such as residential mortgages and installment loans, was estimated using discounted cash flows. All other loans were valued using discount rates which reflected credit risks of the borrower, types of collateral and remaining maturities.
DEPOSIT LIABILITIES
Fair value of demand deposits, savings accounts and money market deposits is the amount payable on demand at the reporting date. The fair value of certificates of deposit is estimated using the rates currently offered for deposits of similar remaining maturities.
SHORT-TERM BORROWINGS AND LONG-TERM DEBT
Rates currently available to the Corporation for borrowings and debt with similar terms and remaining maturities are used to estimate fair value of the existing debt.
INTEREST RATE ARRANGEMENTS
The fair value of interest rate swaps and floor/cap/corridor arrangements, which the Corporation uses for hedging purposes, is the estimated amount the Corporation would receive or pay to terminate the arrangements at the reporting date, taking into account the current interest rates and the current credit worthiness of the counterparties.
COMMITMENTS TO EXTEND CREDIT
The fair value of commitments is estimated using the fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the credit worthiness of the borrowers. Fixed-rate loan commitments also take into account the difference between current levels of interest rates and committed rates.
The estimated fair values of the Corporation's financial instruments at December 31 are as follows:
These fair value disclosures are made solely to comply with the requirements of SFAS No. 107. The calculations represent estimates and do not represent the underlying value of the Corporation. The information presented is based on fair value calculations and market quotes as of December 31, 1996 and 1995. These amounts are based on the relative economic environment at the respective year ends, therefore, the valuations may have been affected by economic movements since year end.
NOTE 17 -- PARENT COMPANY FINANCIAL INFORMATION
The condensed statements of income, financial condition and cash flows for Provident Bankshares Corporation (parent only) are presented below.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None
PART III
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The text and tables under "Election of Directors" in the Corporation's 1997 Proxy Statement is incorporated herein by reference.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION The text and tables under "Compensation of Officers and Directors" in the Corporation's 1997 Proxy Statement is incorporated herein by reference.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The text and tables under "Voting Securities and Principal Holders Thereof" and "Election of Directors" in the Corporation's 1997 Proxy Statement are incorporated herein by reference.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The text under "Certain Transactions with Management" in the Corporation's 1997 Proxy Statement is incorporated herein by reference.
PART IV
ITEM 14.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) (1) The Consolidated Financial Statements of Provident Bankshares Corporation and Subsidiaries are included in Item 8. (a) (2) Financial statement schedules--none applicable or required. (a) (3) Exhibits The following is an index of the exhibits included in this report: (3.1) Articles of Incorporation of Provident Bankshares Corporation.(1) (3.2) By-Laws of Provident Bankshares Corporation, as amended.(3) (4.1) Stockholder Protection Right Agreement.(3) (10.1) 1994 Supplemental Executive Incentive Plan of Provident Bank of Maryland.(3) (10.2) Supplemental Executive Retirement Income Plan of Provident Bank of Maryland.(4) (10.3) Amended and restated Stock Option and Appreciation Rights Plan of Provident Bankshares Corporation.(5) (10.4) Form of Change in Control Agreement between Provident Bankshares Corporation and Certain Executive Officers.(2) (10.5) Form of Change in Control Agreement between Provident Bank of Maryland and Certain Executive Officers.(2) (11) Statement RE: Computation of Per Share Earnings.(6) (21) Subsidiaries of Provident Bankshares Corporation.(6) (23) Consent of Independent Accountants.(6) (24) Power of Attorney.(6) (27) Financial Data Schedule.(6) (b) No reports on Form 8-K were filed by the Corporation in the last quarter of 1996. (1) Incorporated by reference from Registrant's Registration Statement on Form S-3 (File No. 33-73162) filed with the Commission on August 18, 1994. (2) Incorporated by reference from Registrant's 1995 Form 10-K (File No. 0-16421) filed with the Commission on March 18, 1996. (3) Incorporated by reference from the Registrant's 1994 Annual Report on Form 10-K (File No. 0-16421) filed with the Commission on February 17, 1995. (4) Incorporated by reference from Registrant's 1993 Form 10-K (File No. 0-16421) filed with the Commission on March 14, 1994. (5) Incorporated by reference from the Registrant's definitive 1995 Proxy Statement for the Annual Meeting of Stockholders held on April 19, 1995. (6) Filed herewith.
SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
PROVIDENT BANKSHARES CORPORATION (Registrant)
January 31, 1997 BY /s/Carl W. Stearn ----------------------------------------- Carl W. Stearn Chairman of the Board and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacity and on the dates indicated.
Principal Executive Officer: January 31, 1997 BY /s/Carl W. Stearn ----------------------------------------- Carl W. Stearn Chairman of the Board and Chief Executive Officer
Principal Financial Officer: January 31, 1997 BY /s/James R. Wallis ----------------------------------------- James R. Wallis Executive Vice President
Principal Accounting Officer: January 31, 1997 BY /s/R. Wayne Hall ----------------------------------------- R. Wayne Hall Treasurer
A Majority of the Board of Directors* Robert B. Barnhill, Jr., Melvin A. Bilal, Dr. Calvin W. Burnett, Charles W. Cole, Jr., M. Jenkins Cromwell, Jr., Pierce B. Dunn, Clivie C. Haley, Jr., Mark K. Joseph, Norman J. Louden, Barbara B. Lucas, Peter M. Martin, Sister Rosemarie Nassif, C. William Pacy, Francis G. Riggs, Sheila K. Riggs, Carl W. Stearn
January 31, 1997 *BY /s/R. Wayne Hall ---------------------------------------- R. Wayne Hall Attorney-in-fact