Item 1 - Business CORPORATE PROFILE
The Business of First National Community Bancorp, Inc.
THE COMPANY First National Community Bancorp, Inc. (the "Company") is a Pennsylvania Corporation, incorporated in 1997 and is registered as a bank holding company under the Bank Holding Company Act of 1956, as amended. The Company became an active bank holding company on July 1, 1998 when it assumed ownership of First National Community Bank (the "Bank"). The Bank is a wholly-owned subsidiary of the Company. The Company's primary activity consists of owning and operating the Bank, which provides the customary retail and commercial banking services to individuals and businesses. The Bank provides practically all of the Company's earnings as a result of its banking services.
THE BANK The Bank was established as a national banking association in 1910 as "The First National Bank of Dunmore." Based upon shareholder approval received at a Special Shareholders' Meeting held October 27, 1987, the Bank changed its name to "First National Community Bank" effective March 1, 1988. The Bank's operations are conducted from offices located in Lackawanna and Luzerne Counties, Pennsylvania -- the Main Office in Dunmore, the downtown Scranton branch established in 1980, the Dickson City branch opened in December 1984, the Fashion Mall office, Scranton/Carbondale Highway opened in July 1988, the Wilkes-Barre branch which opened in July 1993, the Pittston Plaza Office which opened in April, 1995, the Kingston Office which opened in August 1996 and the Exeter Office which opened in November, 1998. The Bank provides the usual commercial banking services to individuals and businesses, including a wide variety of deposit instruments. Consumer loans include both secured and unsecured installment loans, fixed and variable rate mortgages, home equity term loans and Lines of Credit and "Instant Money" overdraft protection loans. Additionally, the Bank is also in the business of underwriting indirect auto loans which are originated through various auto dealers in northeastern Pennsylvania and in 1999 began to originate dealer floor plan loans. MasterCard and VISA personal credit cards are available through the Bank, as well as the FNCB Check Card which allows customers to access their checking account at any retail location that accepts VISA and serves the dual purpose of an ATM card. In the commercial lending field, the Bank offers demand and term loans, either secured or unsecured, letters of credit, working capital loans, accounts receivable, inventory or equipment financing loans, and commercial mortgages. In addition, the Bank offers MasterCard and VISA processing services to its commercial customers, as well as Auto Cash Manager which is a personal computer based, menu driven product that allows our business customers to have direct access to their account information and the ability to perform certain daily transactions from their place of business. As a result of the Bank's partnership with INVEST, our customers are able to access alternative products such as mutual funds, annuities, stock and bond purchases, etc. directly from our INVEST representative. The Bank also offers customers the convenience of 24-hour banking, seven days a week, through its Money Access Center ("MAC") network. These automated teller machines are available at the Dunmore, Dickson City, Fashion Mall, Pittston, Kingston and Exeter community offices as well as a remote facility in the C-Plus Mini Mart, 309 Main Street, Blakely. Additionally, to further enhance 24-hour banking services, Telephone Banking (Account Link), Loan by Phone, and Mortgage Link became available to customers during 1997. These services provide consumers the ability to access account information, perform related account transfers, and apply for a loan through the use of a touch tone telephone. As of December 31, 1998, no material portion of the Bank's deposits has been obtained from a single person or entity. An industry concentration exists with regard to the restaurant industry. Loans and letters of credit to the restaurant industry approximated $11.0 million as of December 31, 1998. A majority of these loans are secured by first mortgages on commercial properties where third-party loan payments paid directly to the Bank are the primary source of repayment.
COMPETITION The Bank is one of two financial institutions with principal offices in Dunmore. Primary competition in the Dunmore, Scranton and Mid Valley markets comes from several commercial banks and savings and loan associations operating in these areas. Our Luzerne County offices share many of the same competitors we face in Lackawanna County as well as several banks and savings & loans that are not in our Lackawanna County market. Deposit deregulation has intensified the competition for deposits among banks in recent years. Additional competition is derived from credit unions, finance companies, brokerage firms, insurance companies and retailers.
REGULATORY MATTERS The Company is subject to certain annual reporting requirements regarding its business operations. As a registered Company under the Bank Holding Company Act of 1956, as amended, the Company is subject to the supervision and examination by the Federal Reserve Board under the Act. The Bank is subject to regulation and supervision by the Office of the Comptroller of the Currency, which includes regular examinations of the Bank's records and operations. As a member of the Federal Deposit Insurance Corporation (FDIC), the Bank's depositors' accounts are insured up to $100,000 per depositor. To obtain this protection for its depositors, the Bank pays an assessment and is subject to the regulations of the FDIC. The Bank is also a member of the Federal Reserve System and as such is subject to the rules promulgated by the Federal Reserve Board. EMPLOYEES As of December 31, 1998 the Bank employed 168 persons, including 35 part-time employees.
Item 2
Item 2 - Properties Type of Property Location Ownership Use
1 102 East Drinker Street Dunmore, PA Own Main Office
2 419-421 Spruce Street Scranton, PA Own Scranton Branch
3 934 Main Avenue Dickson City, PA Own Dickson City Branch
4 277 Scranton/Carbondale Highway Scranton, PA Lease Fashion Mall Branch
5 23 West Market Street Wilkes-Barre, PA Lease Wilkes-Barre Branch
6 1700 N. Township Blvd. Pittston, PA Lease Pittston Plaza Branch
7 754 Wyoming Avenue Kingston, PA Lease Kingston Branch
8 1625 Wyoming Avenue Exeter, PA Lease Exeter Branch
9 200 S. Blakely Street Dunmore, PA Lease Administrative Center
10 107-109 S. Blakely Street Dunmore, PA Own Parking Lot
11 114-116 S. Blakely Street Dunmore, PA Own Parking Lot
12 1708 Tripp Avenue Dunmore, PA Own Parking Lot
Item 3
Item 3 - Legal Proceedings
The Company is not involved in any material pending legal proceedings, other than routine litigation incidental to the business.
Item 4
Item 4 - Submission of Matters to a Vote of Security Holders
Not Applicable
Part II.
Item 5
Item 5 - Market for Registrant's Common Equity and Related Stockholder Matters
INVESTOR INFORMATION
MARKET PRICES OF STOCK AND DIVIDENDS PAID
The Company's common stock is not actively traded. The principal market area for the Company's stock is northeastern Pennsylvania. First National Community Bancorp, Inc. is listed in the Over-The-Counter (OTC) Bulletin Board Stocks under the symbol "FNCB". Quarterly market highs and lows and dividends paid for each of the past two years are presented below. These prices do not necessarily represent actual transactions. The Bank expects that comparable cash dividends will be paid in the future. All prices and dividends have been restated to reflect the retroactive effect of the 100% stock dividend paid to shareholders in 1998 and the 10% stock dividend paid in 1997.
MARKET PRICE DIVIDENDS PAID HIGH LOW PER SHARE QUARTER 1998
First $23.50 $19.00 $ .135 Second 23.75 21.19 .135 Third 23.75 23.75 .15 Fourth 32.00 24.25 .29 ------ $ 0.71
QUARTER 1997
First $16.13 $15.63 $ .12 Second 17.50 16.25 .12 Third 18.00 16.75 .12 Fourth 19.81 17.38 .22 ------ $ 0.58
MARKET MAKERS
Dean Witter Reynolds, Inc. INVEST Financial Corporation 415 Spruce Street 102 E. Drinker Street Scranton, PA 18503 Dunmore, PA 18512 1-800-733-7096 1-888-845-3622
First Montauk Securities Legg Mason Wood Walker, Inc. 507 Linden Street 330 Montage Mountain Road Scranton, PA 18503 Scranton, PA 18507 1-800-655-7162 1-800-346-4346
Hopper-Soliday & Co., Inc. Ryan, Beck and Co. 1703 Oregon Pike 80 Main Street Lancaster, PA 17601 West Orange, NJ 07052 1-800-526-6371 1-800-325-7926 TRANSFER AGENT
Registrar and Transfer Company 10 Commerce Drive Cranford, NJ 07016-9982
Shareholder questions regarding stock ownership should be directed to the Investor Relations Department at Registrar and Transfer Company at 1-800-368-5948.
DIVIDEND CALENDAR
Dividends on the Company's common stock, if approved by the Board of Directors, are customarily paid on or about March 15, June 15, September 15 and December 15. Record dates for dividends are customarily March 1, June 1, September 1, and December 1.
SHAREHOLDERS' INQUIRIES
A copy of the Company's Annual Report for the year ended December 31, 1998 on Form 10-K, as required to be filed with the Securities and Exchange Commission, may be obtained free of charge by writing to:
Treasurer First National Community Bancorp, Inc. 102 East Drinker Street Dunmore, PA 18512
INTERNET ADDRESS http://www.fncb.com
E-MAIL ADDRESS fncb@fncb.com
Item 6
Item 6 - Selected Financial Data
FIRST NATIONAL COMMUNITY BANCORP, INC. AND SUBSIDIARIES SELECTED FINANCIAL DATA (In thousands, except per share data)
For the Years Ended December 31, ------------------------------------------------ 1998 1997 1996 1995 1994 ------------------------------------------------ Total assets 483,385 428,335 372,438 318,026 269,679 Interest-bearing balances with financial institutions 2,478 1,586 2,771 775 2,754 Securities 131,830 121,367 82,476 69,408 55,403 Net loans 324,610 280,731 259,880 229,643 193,254 Total deposits 380,039 345,668 320,968 275,739 236,864 Stockholders' equity 34,679 31,580 27,631 25,547 17,117
Net interest income before provision for credit losses 15,445 14,580 12,765 11,286 9,882 Provision for credit losses 920 1,110 820 796 700 Other income 1,583 1,628 1,099 921 925 Other expenses 9,423 8,839 7,904 7,097 6,369 Income before income taxes 6,685 6,259 5,140 4,314 3,738 Provision for income taxes 1,578 1,616 1,265 1,100 888 Net income 5,107 4,643 3,875 3,214 2,850 Cash dividends paid 1,703 1,396 1,178 887 780
Per share data: Net income (1) 2.13 1.94 1.62 1.52 1.39 Cash dividends (2) 0.71 0.58 0.49 0.41 0.38 Book value (1)(3) 14.46 13.17 11.52 12.08 8.35 Weighted average number of shares outstanding 2,398,360 2,398,360 2,398,360 2,114,192 2,050,960
(1) Earnings per share and book value per share are calculated based on the weighted average number of shares outstanding during each year, after giving retroactive effect to the 100% stock dividend declared in 1998 and the 10% stock dividends declared in 1997 and 1996.
(2) Cash dividends per share have been restated to reflect the retroactive effect of the 100% stock dividend declared in 1998 and the 10% stock dividends declared in 1997 and 1996.
(3) Reflects the effect of SFAS No. 115 in the amount of $791,000 in 1998, $1,097,000 in 1997, $384,000 in 1996, $991,000 in 1995 and $(1,558,000) in 1994.
Item 7
Item 7 - Management's Discussion and Analysis of Financial Condition and Results of Operations
The following financial review of First National Community Bancorp, Inc. (the "Company") is presented on a consolidated basis and is intended to provide a comparison of the financial performance of the Company and its wholly-owned subsidiary, First National Community Bank (the "Bank") for the years ended December 31, 1998, 1997 and 1996. The information presented below should be read in conjunction with the Company's consolidated financial statements and accompanying notes appearing elsewhere in this report. All share and per share data has been restated to reflect the 100% stock dividend paid to shareholders on July 20, 1998 and the 10% stock dividends paid December 31, 1997 and May 8, 1996.
RESULTS OF OPERATIONS
SUMMARY
Net income for 1998 amounted to $5,107,000, which was $464,000, or 10%, higher than the 1997 level. In 1997, net income totaled $4,643,000 or $768,000 over 1996. On a per share basis, net income was $2.13, $1.94 and $1.62, respectively in 1998, 1997 and 1996. The weighted average number of shares outstanding in 1998, 1997 and 1996 were 2,398,360 after giving retroactive effect to the stock dividends paid in 1998, 1997 and 1996, respectively.
The increase in net income recorded in 1998 can be attributed to the $865,000, or 6%, improvement in net interest income combined with a reduced provision for credit losses which more than offset the $585,000, or 7%, increase in other expenses. Management's focus on improvement through growth again proved successful as increased earnings due to volume variances more than compensated for the negative impact of repricing resulting from the reduction in interest rates during the fourth quarter.
The $768,000, or 20%, increase in 1997 over the 1996 earnings can be attributed to the $1.8 million increase in net interest income and a $529,000 improvement in non-interest income, offset partially by additional non-interest expenses, credit loss provisions and applicable income taxes.
Return on assets for the years ended December 31, 1998, 1997 and 1996 was 1.13%, 1.16% and 1.13%, respectively while the return on equity recorded during the same periods amounted to 15.29%, 15.85% and14.83%.
NET INTEREST INCOME
Net interest income, the difference between interest income and fees on earning assets and interest expense on deposits and borrowed funds, is the largest component of the Company's operating income and as such is the primary determinant of profitability. Before providing for future credit losses, net interest income increased 6% from the $14.6 million recorded in 1997 to $15.4 million in 1998. Changes in net interest income generally occur due to fluctuations in the balances and/or mixes of interest-earning assets and interest-bearing liabilities, and changes in their corresponding interest yields and costs. Changes in non-performing assets, together with interest lost and recovered on those assets, also impact comparisons of net interest income. In the following schedules, net interest income is analyzed on a tax-equivalent basis, thereby increasing interest income on certain tax-exempt loans and investments by the amount of federal income tax savings realized. In this manner, the true economic impact on earnings from various assets and liabilities can be more accurately compared.
Tax-equivalent net interest income increased $927,000, or 6%, from the $15.8 million reported in 1997. Sound pricing policies, aggressive growth strategies and effective asset-liability management techniques again enabled the company to improve net interest income during this period of declining interest rates.
Average loans increased $26 million, or 10%, in 1998 and contributed an increase of $1.8 million of interest income over the 1997 level. Commercial loans provided the majority of the growth in 1998 as average loan balances increased $24 million and earnings on those balances improved by $1.8 million. Installment loans also provided significant increases in 1998 comprised of $15 million in average loan balances and $1.2 million of interest income due primarily to growth in indirect auto loans. Mortgage loans outstanding averaged $13 million lower in 1998 than in 1997 due to the sale of almost $23 million of long-term, fixed rate assets in 1998. As a result of the reduced level of average loans outstanding, interest income on mortgage loans decreased $1.2 million in 1998. Repricing and new volume resulted in the sixteen basis point reduction earned on average loan balances in 1998 when compared to the prior period.
Average securities increased $24 million over the 1997 average balance and generated $1.3 million of additional earnings. Declining rates impacted securities yields through repricing, new volume and principal reductions, resulting in a thirty-nine basis point decrease from the 1997 level. Money market assets, which include interest-bearing deposits with banks and federal funds sold, were $1.2 million less in 1998 than in 1997 and earnings from these assets decreased $61,000.
Total interest-bearing deposits increased $22 million in 1998 comprised of an $18 million increase in average certificates of deposit and a $4 million increase in low-cost deposits. Competition for deposits remained fierce in local markets, resulting in an average cost of deposits which was equal to the 1997 level. Borrowed funds and other interest-bearing liabilities increased $20 million on the average due to additional Federal Home Loan Bank advances but repricing and reduced costs on new borrowings resulted in a twenty-five basis point reduction in the cost of these liabilities.
As a result of the interest rate reductions in 1998 and the more immediate impact on interest earning assets, the Company's net interest margin decreased twenty-five basis points to 3.84% in 1998. Investment leveraging transactions continue to add to the profitability of the company, as evidenced by the $433,000 earned in 1998 from the transactions, but also contribute to the reduction in the overall net interest margin. Exclusive of the investment leveraging transactions, the 1998 net interest margin would have been 4.15%, or seven basis points lower than the comparable period of 1997.
During 1997, tax-equivalent net interest income increased $1.9 million, or 14%, from the $13.9 million reported in 1996 to $15.8 million. Interest rates continued the roller coaster ride experienced in 1996 and gradually increased during the first quarter, with the long bond exceeding 7.00%. During the second and third quarters of 1997, rates again fluctuated until decreasing steadily through the fourth quarter as inflation fears subsided. As of year end, the yield on the one-year Treasury Bill was three basis points lower than it began the year while the thirty year bond had decreased seventy-seven basis points to 5.96%. Yields earned on loans and money market assets increased during 1997 from the prior year levels but a three basis point decrease in the yield earned on securities resulted in a yield on total earning assets which remained stable at 8.32%. During the same period, however, competition for deposits remained fierce locally resulting in a nine basis point increase in the cost of interest-bearing deposits. Additionally, the cost of borrowed funds and other interest-bearing liabilities increased during 1997, resulting in a decrease in the net interest margin from the 4.25% recorded in 1996 to 4.09%. During 1997, the Company entered into several investment leveraging transactions which resulted in $164,000 of pre-tax earnings, but the 1.06% spread earned on the transactions had a negative impact on the overall net interest margin. Excluding the effect of these transactions, the 1997 net interest margin would have been 4.22% which is only slightly lower than the 4.25% recorded in 1996. Growth in earning assets which represents 112% of the growth in interest-bearing liabilities also contributed to the 1997 margin.
The most significant impact on net income between periods is derived from the interaction of changes in the volume of and rates earned or paid on interest-earning assets and interest-bearing liabilities. The volume of earning dollars in loans and investments, compared to the volume of interest-bearing liabilities represented by deposits and borrowings, combined with the spread, produces the changes in net interest income between periods.
The following table shows the relative contribution of changes in average volume and average interest rates to changes in net interest income for the periods indicated. The change in interest income and interest expense attributable to changes in both volume and rate, which cannot be segregated, has been allocated proportionately to the change due to volume and the change due to rate.
Rate/Volume Variance Report(1) (dollars in thousands-taxable equivalent basis)
1998 vs 1997 1997 vs 1996 ------------------------- ---------------------------- Increase(Decrease) Increase(Decrease) ------------------ -------------------- Total Due to Due to Total Due to Due to Change Volume Rate Change Volume Rate ------------------------ ----------------------------
Interest Income: Commercial loans- taxable $1,822 $2,126 $(304) $1,984 $1,882 $102 Commercial loans- tax free (29) (7) (22) 335 279 56 Mortgage loans (1,146) (1,032) (114) (205) (268) 63 Installment loans 1,173 1,332 (159) 810 934 (124) ------------------------ --------------------------- Total Loans 1,820 2,419 (599) 2,924 2,827 97 ------------------------ ---------------------------
Securities-taxable 1,092 1,430 (338) 2,016 1,787 229 Securities-tax free 207 288 (81) (84) (63) (21) ------------------------ ---------------------------- Total Securities 1,299 1,718 (419) 1,932 1,724 208 ------------------------ ----------------------------
Interest-bearing deposits with banks 7 5 2 69 63 6 Federal funds sold (68) (69) 1 (3) (15) 12 ------------------------ ---------------------------- Total Money Market Assets (61) (64) 3 66 48 18 ------------------------ ----------------------------
Total Interest Income 3,058 4,073 (1,015) 4,922 4,599 323 ------------------------ ----------------------------
Interest Expense: Interest-bearing demand deposits 115 96 19 173 162 11 Savings deposits (37) (11) (26) (125) (72) (53) Time deposits over $100,000 438 412 26 406 386 20 Other time deposits 511 563 (52) 1,503 1,390 113 ------------------------ ---------------------------- Total Interest- Bearing Deposits 1,027 1,060 (33) 1,957 1,866 91 ------------------------ ---------------------------- Borrowed funds and other interest-bearing liabilities 1,104 1,243 (139) 1,063 958 105 ------------------------ ----------------------------
Total Interest Expense 2,131 2,303 (172) 3,020 2,824 196 ------------------------ ----------------------------
Net Interest Income $927 $1,770 $(843) $1,902 $1,775 $127 ======================== ============================
(1) Changes in interest income and interest expense attributable to changes in both volume and rate have been allocated proportionately to changes due to volume and changes due to rate.
CURRENT YEAR
In 1998, tax-equivalent net interest income increased $927,000 over the 1997 level. Balance sheet growth again resulted in improved earnings as evidenced by the $1.8 million increase in net interest income due to volume. Loan growth added $2.4 million to interest income due to increases in both commercial and installment loans outstanding. New securities purchases, including those purchased in leveraging transactions, also contributed to the improved earnings in the amount of $1.7 million. In order to fund the growth in loans and investments, new deposits and borrowed funds were added which resulted in a $2.3 million increase in interest expense.
The negative impact of rate reductions can be seen in the $1.0 million decrease in interest income due to rate which was only partially offset by the $172,000 decrease in the cost of liabilities due to repricing. Variable rate assets which reprice immediately were reduced by seventy-five basis points during the fourth quarter as the Federal Reserve cut interest rates three times in a seven week period. New volume at lower than historic levels also contributed to the negative variance due to rate. During this same period, the Company held rates steady on its low-cost deposit base while the effect of repricing on certificates of deposit will materialize over time.
PRIOR YEAR
In 1997, growth also lead to improved earnings. The $1.9 million increase in net interest income includes $1,775,000 due to volume but also includes $127,000 due to rate, reflecting a positive repricing impact. Loan and investment portfolio growth added $4.5 million which was partially offset by the $2.8 million increase in the cost of funds to support the asset growth. Rate fluctuations on earning assets added over $300,000 which includes an increase in commercial loans related to the twenty-five basis point hike in the prime rate during the year and investment purchases at increased yields. The cost of certificates of deposit increased as the Company attempted to lengthen its portfolio for asset/liability purposes. New borrowings and variable rate adjustments increased the cost of borrowed funds.
PROVISION FOR CREDIT LOSSES
The provision for credit losses varies from year to year based on management's evaluation of the adequacy of the allowance for credit losses in relation to the risks inherent in the loan portfolio. In its evaluation, management considers credit quality, changes in loan volume, composition of the loan portfolio, past experience, delinquency trends, and the economic conditions. Consideration is also given to examinations performed by regulatory authorities and the Company's independent auditors. The provision for credit losses was $920,000 in 1998, $1,110,000 in 1997 and $820,000 in 1996.
OTHER INCOME
Other Income 1998 1997 1996 - ---------- ---- ---- ---- (dollars in thousands)
Service charges $780 $759 $693 Net gain/(loss) on the sale of securities 125 (8) 130 Net gain on the sale of other real estate 47 377 1 Net gain on the sale of other assets 0 156 0 Other 631 344 275 ------ ------ ------ Total Other Income $1,583 $1,628 $1,099 ====== ====== ======
The company's other income category can be separated into three distinct sub-categories; service charges make up the core component of this area of earnings while net gains (losses) from the sale of assets and other fee income comprise the balance.
In 1998, earnings from service charges were $21,000, or 3%, higher than the 1997 total. Net gains from securities sales totaled $125,000 in 1998 as management sold securities to minimize the risk from prepayments on mortgage-backed securities. The $47,000 net gain from the sale of other assets includes earnings generated from the Bank's real estate subsidiary, FNCB Realty, Inc. During 1998, the Company continued to shed interest rate risk through the sale of $22.8 million of fixed rate residential mortgage loans. These loan sales, with rates ranging from 6.125% to 9.125%, added $189,000 to 1998 earnings after accounting for fees associated with the sale. As importantly, the servicing rights were retained thereby resulting in no impact on our customers and improving future profits through servicing fee income. It is management's intention to continue to shed interest rate risk as opportunities present themselves in order to remain competitive in this area of retail lending. Servicing fees collected on mortgage loans which have been sold were $97,000 in 1998, or $43,000 higher than the same period of 1997. All other fee income increased $81,000 over the 1997 total including a $40,000 improvement in the earnings generated through a partnership with INVEST Financial Services.
During 1997, service charges increased $66,000, or 10%. The majority of this increase can be attributed to uncollected funds, although newly initiated surcharge fees pertaining to automatic teller machines also contributed $34,000 of additional income. The decrease in the area of net gains or losses on the sale of securities also represents the Company's efforts to improve future profits. During 1997, many of the lowest yielding securities in the portfolio were sold as interest rates plummeted, thereby enabling the Company to reposition the portfolio for future benefits. Included in net gains on the sale of other assets is $524,000 recognized on the sale of real estate and other assets by FNCB Realty, Inc. These assets were transferred to the Bank's subsidiary through foreclosure action and subsequently resold. Other income increased $69,000 in comparison to 1996 as letter of credit fees increased considerably and fee income from the Bank's relationship with INVEST financial services also provided an increase of $22,000 over the 1996 level. In 1997, residential mortgage loans totaling $14.7 million were sold, resulting in a net gain of $66,000.
OTHER EXPENSES
Other Expenses 1998 1997 1996 ---- ---- ---- (dollars in thousands)
Salary expense $3,772 $3,482 $3,176 Employee benefit expense 977 960 900 Occupancy expense 869 842 812 Equipment expense 677 610 484 Advertising expense 341 272 259 Data Processing expense 530 424 382 Other operating expenses 2,257 2,249 1,891 ------ ------ ------ Total Other Expenses $9,423 $8,839 $7,904 ====== ====== ======
Total other expenses increased $584,000, or 7%, in comparison to the prior year. Employee costs accounted for $307,000, or 53%, of the increase while occupancy and equipment costs rose $94,000, or 16% of the total. All other expenses increased $183,000, or 31% of the total due primarily to increases in advertising and data processing costs. The Company's overhead ratio, which measures non-interest expenses in relation to average assets improved from the 2.20% recorded in 1997 to 2.08%. In 1996, the overhead ratio was 2.31%.
Salary and benefits amount to 50% of the Company's total other expenses. During 1998, salary expense increased $290,000, or 8%, due to merit increases, and the addition of staff to meet the growing sales and administrative needs of the company. Full-time equivalent employees at December 31, 1998 were 168, an increase from the 151 reported as of the same period last year. Employee benefit costs increased $17,000, or 2%, in 1998 due primarily to a $30,000 increase in the Company's contribution to a defined contribution profit sharing plan. Hospitalization costs, payroll taxes and other benefits decreased $13,000 in comparison to 1997.
Occupancy expenses increased $27,000, or 3%, in 1998 due primarily to rental expense associated with a new community office. Increases in maintenance expenses and depreciation on the new facilities were offset by a reduced level of real estate taxes. Equipment costs increased $67,000, or 11%, due to depreciation expense on new equipment, including computers and related technology.
All other operating expenses increased $183,000, or 6%, compared to 1997. Advertising costs increased $69,000 while data processing expenses rose $106,000 in 1998 due to bank promotions and technological advances. All other components of other operating expenses were limited to an $8,000 net increase.
In 1997, total other expenses increased $935,000, or 12%, in comparison to 1996. During 1996 other expenses increased 11% from the prior period. Employee costs accounted for 39% of the increase in 1997 while occupancy and equipment costs rose by $156,000, or 17% of the total. All other operating expenses increased $413,000, or 44% of the total increase.
Salary and benefit costs comprised the majority of total other expenses in 1997 and increased 9% over the 1996 level. Salaries increased $306,000, or 10%. Contributing to this increased cost are merit increases, as well as the full year's effect of the Kingston Office which opened in August 1996. Full-time equivalent employees at December 31, 1997 were 151, a decrease from the 155 reported in 1996. Employee benefit costs increased $60,000, or 7%, in 1997 due primarily to rising health care costs and a $30,000 increase in the Company's contribution to a defined contribution profit sharing plan. Increases in payroll taxes and other benefits amounted to $5,000.
Occupancy expenses increased $30,000, or 4%, in 1997. The recognition of a full year's effect from the Kingston Office which opened during 1996 accounts for the vast majority of the increase.
Equipment expenses increased $126,000, or 26%, during 1997. Depreciation and maintenance on new equipment accounted for $108,000 of the increase, including $23,000 from our newest office. This increased cost reflects the Company's commitment to new technology, including a complete upgrade to the retail delivery systems.
All other operating expenses increased $413,000 in 1997 from the prior period. Non-controllable items such as FDIC Insurance, Bank Shares Tax and examinations accounted for $97,000 of the increased cost. Also contributing significantly to the increased cost was $169,000 of operating costs from the Bank's subsidiary, FNCB Realty, Inc. The majority of these costs reflect operating expenses associated with a single property which was sold. All other components of other operating expenses increased $159,000, or 7%.
PROVISION FOR INCOME TAXES
Federal income tax expense decreased $39,000 in 1998 in comparison to the 1997 total in spite of the $426,000 improvement in income before taxes. Tax benefits derived from an increased level of tax-exempt income had a $40,000 positive effect while the effect of deferred taxes and other items reduced the 1998 provision by $144,000. The Company's effective tax rate for 1998 and 1997 was 23.6% and 25.8%, respectively.
During 1997, federal income tax expense increased $351,000 in comparison to 1996. The majority of the increase was attributed to the $1,119,000 improvement in pre-tax income as well as the effect of other non-deductible and deferred tax items. Tax benefits related to non-taxable interest income increased $57,000 over the 1996 total. The effective tax rate for 1996 was 24.6%.
FINANCIAL CONDITION
Total assets increased $55 million, or 13%, in 1998 compared to a similar $56 million increase in 1997. Total deposits provided $34 million of new funds in 1998 while borrowed funds increased $17 million. This available liquidity was utilized to fund the $44 million, or 16%, increase in net loans as well as the $10 million growth in the Company's securities portfolio.
SECURITIES
The primary objectives in managing the Company's securities portfolio are to maintain the necessary flexibility to meet liquidity and asset and liability management needs and to provide a stable source of interest income.
During 1998, total securities increased $10 million, inclusive of a $463,000 decrease in the fair value of the portfolio. During 1998, growth was again concentrated in mortgage-backed securities including $15 million which were purchased with structured borrowings from the Federal Home Loan Bank of Pittsburgh, thereby allowing the Company to earn a favorable spread between the rate earned on the securities and the cost of the borrowed funds. Management remains committed to a strategy which limits purchases to those that are virtually free of credit risk and will help to meet the objectives of the Company's Investment and Asset/Liability management policies.
The following table sets forth the carrying amount of securities at the dates indicated:
December 31, ---------------------------------------- 1998 1997 1996 (dollars in thousands)
U.S. Treasury securities and obligations of U.S. government agencies $ 13,109 $ 31,808 $27,946 Obligations of state and political subdivisions 33,671 27,043 29,533 Mortgage-backed securities 77,590 56,615 22,544 Corporate debt securities 992 0 0 Equity securities 6,468 5,901 2,453 -------- -------- ------- Total $131,830 $121,367 $82,476 ======== ======== =======
The following table sets forth the maturities of securities at December 31, 1998 and the weighted average yields of such securities calculated on the basis of the cost and effective yields weighted for the scheduled maturity of each security. Tax-equivalent adjustments using a 34% rate have been made in calculating yields on obligations of state and political subdivisions.
(dollars in thousands) Mortgage- Within 2-5 6-10 Over Backed No Fixed One Year Years Years 10 Years Securities Maturity Total -------- ----- ----- -------- ---------- -------- ------- U.S. Treasury securities $2,005 $ 0 $ 0 $ 0 $ 0 $ 0 $ 2,005 Yield 5.87% 5.87% Obligations of U.S. government agencies 500 7,115 3,457 11,072 Yield 6.03% 6.72% 5.46% 6.30% Obligations of state and political subdivisions(1) 1,732 7,315 23,406 32,453 Yield 6.11% 9.48% 7.66% 7.99% Mortgage-backed securities 77,632 77,632 Yield 5.80% 5.80% Corporate debt securities 504 497 1,001 Yield 6.25% 6.01% 6.13% Equity securities(2) 6,468 6,468 Yield - - - - - 6.48% 6.48% ------ ------ ------- ------- ------- ------ -------- Total maturities $2,005 $2,232 $14,934 $27,360 $77,632 $6,468 $130,631 ====== ====== ======= ======= ======= ====== ======== Weighted yield 5.87% 6.10% 8.06% 7.35% 5.80% 6.48% 6.42% ===== ===== ===== ===== ===== ===== =====
1) Yields on state and municipal securities have been adjusted to a tax-equivalent basis using a 34% federal income tax rate. 2) Yield presented represents 1998 actual return.
LOANS
Total loans increased $45 million, or 16%, in 1998. Commercial loans provided $30 million of the increase while installment lending also contributed $26 million of growth since December 31, 1997. The commercial growth includes $18 million secured by real estate while the growth in installment loans includes $14 million of indirect auto loans and an additional $14 million which is secured by real estate. Residential real estate loans decreased $12 million in 1998 as the Company continued with its strategy of reducing interest rate risk through the sale of long-term, fixed-rate assets. During 1998, over $22 million of these long-term assets were sold in the secondary market resulting in a reduced level of interest rate risk and a net gain on the sales of approximately $189,000. The sale of these assets provides liquidity for future growth and also allows the Company to continue to provide competitive products during the current low-rate environment.
Details regarding the loan portfolio for each of the last five years are as follows:
Loans Outstanding (dollars in thousands) December 31 1998 1997 1996 1995 1994 ---- ---- ---- ---- ---- Commercial and Financial $189,453 $159,644 $136,620 $120,560 $103,602 Real Estate 45,855 57,523 67,262 67,333 65,960 Installment 93,589 67,196 59,183 44,587 26,007 -------- -------- -------- -------- -------- Total Loans Gross 328,897 284,363 263,065 232,480 195,569 Unearned Discount (4) (10) (18) (37) (65) -------- -------- -------- -------- -------- Total Loans 328,893 284,353 263,047 232,443 195,504 Reserve for Credit Losses (4,283) (3,623) (3,167) (2,800) (2,250) -------- -------- -------- -------- -------- Net Loans $324,610 $280,730 $259,880 $229,643 $193,254 ======== ======== ======== ======== ========
The following schedule shows the repricing distribution of loans outstanding as of December 31, 1998. Also provided are these amounts classified according to sensitivity to changes in interest rates.
Loans Outstanding - Repricing Distribution (dollars in thousands)
Within One to Over Five One Year Five Years Years Total --------- ---------- --------- ----- Commercial and Financial $107,992 $ 60,028 21,433 $189,453 Real Estate 16,575 18,676 10,604 45,855 Installment 27,310 56,109 10,170 93,589 -------- -------- ------- -------- Total $151,877 $134,813 $42,207 $328,897 ======== ======== ======= ========
Loans with predetermined interest rates $ 34,041 $ 71,758 $33,232 $139,031 Loans with floating rates 117,836 63,055 8,975 189,866 -------- -------- ------- -------- Total $151,877 $134,813 $42,207 $328,897 ======== ======== ======= ========
ASSET QUALITY
The Company manages credit risk through the application of policies and procedures designed to foster sound underwriting and credit monitoring practices, although, as is the case with any financial institution, a certain degree of credit risk is dependent in part on local and general economic conditions that are beyond the Company's control.
The Company's Risk Management Committee meets quarterly or more often as required and makes recommendations to the Board of Directors regarding provisions for credit losses. The Committee reviews individual problem credits and ensures that ample reserves are established considering both general allowances and specific allocations.
The following schedule reflects various non-performing categories as of December 31 for each of the last five years:
(dollars in thousands) 1998 1997 1996 1995 1994 ---- ---- ---- ---- ---- Nonaccrual loans (including impaired loans) $845 $207 $714 $1,629 $2,285 Loans past due 90 days or more and still accruing 452 1,224 354 157 418 Other Real Estate Owned 0 0 337 25 75 ------ ------ ------ ------ ------ Total Non-Performing Assets $1,297 $1,431 $1,405 $1,811 $2,778 ====== ====== ====== ====== ======
During 1998, total non-performing assets decreased due to the $772,000 reduction in loans past due more than ninety days. Nonaccrual loans increased $638,000 from the December 31, 1997 level and includes $660,000 that was transferred to non accrual status during 1998. The majority of the increase is split between three credits which are substantially secured by real estate. As of December 31, 1998, the Company's ratio of nonaccrual loans to total loans was .26%, less than one-half of the national peer banks reported ratio of .63%. The Company continues to acknowledge the weakness in local real estate markets and in general economic conditions, emphasizing strict underwriting standards to minimize the negative impact of the current environment. Management remains ever conscious to avoid the problems of over-lending experienced during the 1980's and expects future efforts to reduce delinquency percentages during 1999.
ALLOWANCE FOR CREDIT LOSSES
The following table presents an allocation of the allowance for credit losses as of the end of each of the last five years:
The following schedule presents an analysis of the allowance for credit losses for each of the last five years:
(Dollars in thousands) Years Ended December 31 1998 1997 1996 1995 1994 ---- ---- ---- ---- ---- Balance, January 1 $3,623 $3,167 $2,800 $2,250 $2,027 Charge-Offs: Commercial and Financial 77 547 420 449 495 Real Estate 50 9 20 97 60 Installment 180 141 141 59 38 ----- ------ ------ ------ ------ Total Charge-Offs 307 697 581 605 593 ----- ------ ------ ------ ------ Recoveries on Charged-Off Loans: Commercial and Financial 11 8 109 327 103 Real Estate 1 0 0 1 0 Installment 35 35 19 31 13 ------ ------ ------ ------ ------ Total Recoveries 47 43 128 359 116 ------ ------ ------ ------ ------
Net Charge-Offs 260 654 453 246 477 ------ ------ ------ ------ ------ Provision for Credit Losses 920 1,110 820 796 700 ------ ------ ------ ------ ------ Balance, December 31 $4,283 $3,623 $3,167 $2,800 $2,250 ====== ====== ====== ====== ======
Net Charge-Offs during the period as a percentage of average loans outstanding during the period .09% .24% .18% .12% .28% Allowance for credit losses as a percentage of net loans outstanding at end of period 1.30% 1.27% 1.20% 1.20% 1.15%
During 1998, losses charged to the reserve declined considerably from prior periods while recoveries were consistent with the 1997 total. During 1995, payments approximating $300,000 were received from loans charged-off in 1991, 1992 and 1994.
DEPOSITS
The primary source of funds to support the Company's growth is its deposit base, and emphasis has been placed on accumulating new deposits while making every effort to retain current relationships. Total deposits increased $34 million in 1998 comprised primarily of growth in certificates of deposit but also includes over $7 million in low-cost savings and demand accounts.
The average daily amount of deposits and rates paid on such deposits is summarized for the periods indicated in the following table:
Year Ended December 31, 1998 1997 1996 ---- ---- ---- Amount Rate Amount Rate Amount Rate ---------------- --------------- ----------------- (thousands of dollars) Noninterest-bearing demand deposits $ 35,887 $ 31,707 $ 28,116 Interest-bearing demand deposits 50,504 2.43% 45,682 2.43% 38,637 2.43% Savings deposits 41,983 2.38% 42,482 2.44% 45,257 2.57% Time deposits 232,765 5.60% 215,115 5.62% 182,721 5.57% -------- -------- -------- Total $361,139 $334,986 $294,731 ======== ======== ========
Maturities of time certificates of deposit of $100,000 or more outstanding at December 31, 1998, are summarized as follows:
Time Certificates of Deposit (thousands of dollars)
3 months or less $45,474 Over 3 through 6 months 8,083 Over 6 through 12 months 10,818 Over 12 months 4,966 ------- Total $69,341 =======
CAPITAL
A strong capital base is essential to the continued growth and profitability of the Company and in that regard the maintenance of appropriate levels of capital is a management priority. The Company's principal capital planning goals are to provide an adequate return to shareholders while retaining a sufficient base from which to provide for future growth, while at the same time complying with all regulatory standards. As more fully described in Note 12 to the financial statements, regulatory authorities have prescribed specified minimum capital ratios as guidelines for determining capital adequacy to help insure the safety and soundness of financial institutions.
As a result of the significant growth the Company has experienced in recent years, capital ratios, although well above the regulatory minimums, had been steadily decreasing. Based on management's intent to maintain a well-capitalized status as well as a desire to attract new shareholders, 144,000 shares of stock were offered and sold in 1995 resulting in an increase of $3.6 million of Tier 1 capital. On May 15, 1996, stockholders voted to increase the number of authorized shares from 1,500,000 to 5,000,000.
The following schedules present information regarding the Company's risk-based capital at December 31, 1998, 1997 and 1996 and selected other capital ratios.
CAPITAL ANALYSIS (dollars in thousands)
December 31 ----------- 1998 1997 1996 ---- ---- ---- Tier I Capital: Shareholders'equity $ 33,887 $ 30,483 $ 27,247 -------- -------- -------- Total Tier I Capital $ 33,887 $ 30,483 $ 27,247 -------- -------- -------- Tier II Capital: Allowable portion of allowance for credit losses $4,157 $3,483 $3,167 -------- -------- -------- Total Risk-Based Capital $ 38,044 $ 33,966 $ 30,414 -------- -------- -------- Total Risk-Weighted Assets $332,519 $278,680 $265,366 ======== ======== ========
CAPITAL RATIOS December 31 Regulatory Minimum 1998 1997 1996 ------- ---- ---- ---- Total Risk-Based Capital 8.00% 11.45% 12.19% 11.46% Tier I Risk-Based Capital 4.00% 10.19% 10.94% 10.27% Tier I Leverage Ratio 3.00% 7.10% 7.28% 7.41% Return on Assets N/A 1.13% 1.16% 1.13% Return on Equity* N/A 15.29% 15.85% 14.83% Equity to Assets Ratio* N/A 7.17% 7.37% 7.42% Dividend Payout Ratio N/A 33.35% 30.06% 30.40%
* Includes the effect of SFAS 115 in the amount of $791,000 in 1998, $1,097,000 in 1997 and $384,000 in 1996.
It is the philosophy of Management and the Board of Directors to increase capital primarily through the retention of earnings During 1995, the Bank offered and sold 144,000 shares of stock increasing the number of outstanding shares to 991,504. In 1996, the Board approved a 10% stock dividend which resulted in the issuance of 98,920 new shares and which increased the total number of shares outstanding to 1,090,424. During 1997, the Board of Directors again approved the payment of a 10% stock dividend adding 108,756 new shares and increasing the total number of shares outstanding to 1,199,180. In 1998, shareholders received a 100% stock dividend which doubled the outstanding shares to the current 2,398,360.
During 1998, regulatory capital increased $3.4 million due to the retention of earnings after paying $1.7 million in cash dividends. As of December 31, 1998, there were 2,601,640 shares of stock available for future sale or stock dividends. The approximate number of stockholders of record at December 31, 1998 was 900. Quarterly market highs and lows, dividends paid and known market makers are highlighted in the Investor Information section of this Annual Report. Refer to Note 12 to the financial statements for further discussion of capital requirements and dividend limitations.
ECONOMIC CONDITIONS AND FORWARD OUTLOOK
Economic conditions affect financial institutions, as they do other businesses, in a number of ways. Rising inflation affects all businesses through increased operating costs but affects banks primarily through the manner in which they manage their interest sensitive assets and liabilities in a rising rate environment. Economic recession can also have a material effect on financial institutions as the assets and liabilities affected by a decrease in interest rates must be managed in a way that will maximize the largest component of a bank's income, that being net interest income. Recessionary periods may also tend to decrease borrowing needs and increase the uncertainty inherent in the borrowers' ability to pay previously advanced loans. Additionally, reinvestment of investment portfolio maturities can pose a problem as attractive rates are not as available. Management closely monitors the interest rate risk of the balance sheet and the credit risk inherent in the loan portfolio in order to minimize the effects of fluctuations caused by changes in general economic conditions.
When 1998 began, the Federal funds rate was 5.50%, the prime rate was 8.50%, and the thirty year Treasury bond was yielding 5.96%. At the same time, inflationary fears and problems in Asia were sending mixed signals but were providing upward pressure on interest rates as a majority of economists were leaning toward a Fed tightening during the first half of 1998. As recent as July, the Federal Open Market Committee minutes reveal that the risk of inflation was greater than the risk of weakness in the economy, but any change in policy was deferred. During the third quarter, foreign markets in Japan, Russia and Latin America were experiencing further weakness and reduced the chances of inflationary pressure domestically. In September, further pressures from abroad and the adverse consequences on domestic activity resulted in the Fed reducing the federal funds rate by 1/4 of a percentage point with a bias toward further easing. During the next seven weeks, a second and third round of rate cuts followed resulting in the current federal funds rate of 4.75% and the corresponding reduction in the prime lending rate to 7.75%. As of year end, the yield on the thirty year Treasury bond was down eighty-one basis points to 5.15%. Economic forecasts point toward a continued slowing in the expansion of economic activity during 1999 and the possibility of further rate cuts, although underlying forces could affect interest rates in either direction. With this in mind, management maintains a philosophy of not attempting to predict future rate movements but rather on focusing efforts to maintain earnings momentum in various rate environments.
The Company is currently working to address the potential impact of the Year 2000 issue on the processing of date sensitive information. The Year 2000 issue is pervasive and complex as virtually every computer operation will be affected in some way by the rollover of the two-digit year value to 00. The issue is whether computer systems will properly recognize date-sensitive information when the year changes to 2000. Systems that do not properly recognize such information could generate erroneous data or cause a system to fail. In order to address the issues, the Company is utilizing both internal and external resources to identify and modify where necessary to ensure Year 2000 compliance. We believe that the risk lies in the fact that if our customers and suppliers are not Year 2000 compliant, it can cause our plan to fail. The Company's Year 2000 Committee has conducted a comprehensive review of its computer systems and has adopted a five-step approach to correct any potential problem: Awareness, Assessment, Renovation, Validation and Implementation. We have conducted training seminars for both our employees and our customers in order to raise awareness for the project. We have analyzed all of our vendors, loan and deposit customers, and computerized systems to determine those who are mission critical to the success of our plan. Each vendor and customer has been contacted to determine its state of Y2K compliance. Any vendor that does not meet the Company's compliance standards will be addressed on an individual basis. By the end of the second quarter of this year, all of our critical systems will have been renovated for Year 2000 readiness and they will have been put through extensive testing to prove compliance with the century date change. Additionally, exhaustive contingency plans have been formulated for both remediation concerns and for business resumption efforts. The final phase in assuring compliance is comprised of the efforts that we must take to ensure a smooth transition into 2000. In this phase, liquidity, physical plant, and communications issues are addressed. The Year 2000 Project Team has projected that the cost of Year 2000 compliance would be minimal and would not have a negative impact on the earnings of the Company. It is also not anticipated that the Year 2000 issue will have a significant negative impact on the operations of the Company, but no assurance can be made that the systems of others that the Company relies upon will be compliant.
As of this writing, the Company was not aware of any pronouncements or legislation that would have a material impact on the results of operations.
Item 7A
Item 7A - Quantitative and Qualitative Disclosures About Market Risk
ASSET AND LIABILITY MANAGEMENT
The major objectives of the Company's asset and liability management are to (1) manage exposure to changes in the interest rate environment to achieve a neutral interest sensitivity position within reasonable ranges, (2) ensure adequate liquidity and funding, (3) maintain a strong capital base, and (4) maximize net interest income opportunities. The Company manages these objectives through its Senior Management and Asset and Liability Management Committees. Members of the committees meet regularly to develop balance sheet strategies affecting the future level of net interest income, liquidity and capital. Items that are considered in asset and liability management include balance sheet forecasts, the economic environment, the anticipated direction of interest rates and the Company's earnings sensitivity to changes in these rates.
INTEREST RATE SENSITIVITY
The Company analyzes its interest sensitivity position to manage the risk associated with interest rate movements through the use of gap analysis and simulation modeling. Interest rate risk arises from mismatches in the repricing of assets and liabilities within a given time period. Gap analysis is an approach used to quantify these differences. A positive gap results when the amount of interest-sensitive assets exceeds that of interest-sensitive liabilities within a given time period. A negative gap results when the amount of interest-sensitive liabilities exceeds that of interest-sensitive assets.
While gap analysis is a general indicator of the potential effect that changing interest rates may have on net interest income, the gap report has some limitations and does not present a complete picture of interest rate sensitivity. First, changes in the general level of interest rates do not affect all categories of assets and liabilities equally or simultaneously. Second, assumptions must be made to construct a gap table. For example, non-maturity deposits are assigned a repricing interval based on internal assumptions. Management can influence the actual repricing of these deposits independent of the gap assumption. Third, the gap table represents a one-day position and cannot incorporate a changing mix of assets and liabilities over time as interest rates change.
Because of the limitations of the gap reports, the Company uses simulation modeling to project future net interest income streams incorporating the current gap position, the forecasted balance sheet mix, and the anticipated spread relationships between market rates and bank products under a variety of interest rate scenarios
The Company's interest sensitivity at December 31, 1998 was essentially neutral within reasonable ranges; for example, an interest rate fluctuation of up or down 200 basis points would not be expected to have a significant impact on net interest income.
INTEREST RATE GAP The following schedule illustrates the Company's interest rate gap position as of December 31, 1998. At that date, the Company's cumulative gap position at all intervals measured within one year were within internal guidelines.
The Company's computerized simulation modeling system also measures exposure to interest rate risk, taking into account a growing balance sheet under various interest rate scenarios. As of December 31, 1998, the modeling system provided results which were within policy guidelines of plus or minus ten percent assuming a 200 basis point shift in market interest rates.
LIQUIDITY
The term "liquidity" refers to the ability of the Company to generate sufficient amounts of cash to meet its cash-flow needs. Liquidity is required to fulfill the borrowing needs of the Company's credit customers and the withdrawal and maturity requirements of its deposit customers, as well as to meet other financial commitments. Cash and cash equivalents (cash and due from banks and federal funds sold) are the Company's most liquid assets. At December 31, 1998 cash and cash equivalents totaled $13.4 million, compared to the December 31, 1997 level of $14.7 million. Financing activities provided $50.0 million and operating activities provided $6.8 million of cash and cash equivalents during the year while investing activities utilized $58.0 million. The cash flow provided by financing activities is due to deposit growth and an increase in borrowed funds outstanding while the funds provided by operating activities pertains to interest payments received on loans and investments. The cash used in investing activities consists of loan proceeds and security purchases.
Core deposits, which represent the Company's primary source of liquidity, averaged $299.5 million in 1998, an increase of $18.3 million, or 7%, from the $281.2 million average in 1997. This increase in average core deposits was supplemented with a $7.8 million increase in average jumbo certificates and a $20.3 million increase in average borrowed funds and other interest-bearing liabilities.
The Company has other potential sources of liquidity, including repurchase agreements. Additionally, the Company can borrow on credit lines established at several correspondent banks and at the Federal Home Loan Bank of Pittsburgh. The Federal Reserve Discount Window also provides a funding source of last resort.
Item 8
Item 8 - Financial Statements and Supplementary Data
The information required in Part II, Item 8 is incorporated by reference from the Company's Annual Report to security holders for the fiscal year ended December 31, 1998.
Balance Sheet Exhibit A Statement of Income Exhibit B Statement of Cash Flows Exhibit C Statement of Changes in Equity Exhibit D
Additional references are made in Part IV, Item 14 of this Form 10-K.
Item 9
Item 9 - Changes in and Disagreements with Accountants on Accounting and Financial Disclosures
Not Applicable
FIRST NATIONAL COMMUNITY BANCORP, INC.
Part III.
Item 10
Item 10 - Directors and Executive Officers of the Registrant
A. Identification of Directors of the Company:
Director Since Name Title Term Expires Company/Bank Age
Angelo F. Bistocchi Director 2001 1998/1971 79 Michael G. Cestone Director 2000 1998/1988 36 Michael J. Cestone, Jr. Director Secretary of the Board of the Bank since 1975 1999 1998/1969 67 Joseph Coccia Director 2001 1998/1998 44 William P. Conaboy Director 2001 1998/1998 40 Dominick L. DeNaples Director 2001 1998/1987 61 Louis A. DeNaples Director Chairman of the Board since 1988 1999 1998/1972 58 Joseph J. Gentile Director 1999 1998/1989 68 Martin F. Gibbons Director 2000 1998/1979 83 Joseph O. Haggerty Director 1999 1998/1979 59 George N. Juba Director 2001 1998/1973 72 J. David Lombardi Director President and Chief Executive Officer Since 1988 2000 1998/1986 50 John R. Thomas Director 2000 1998/1967 81
The Company has a classified Board of Directors with staggered three-year terms of office. In a classified board, the directors are generally divided into separate classes of equal number. The terms of the separate classes expire in successive years. At each Annual Meeting of Shareholders, successors to the class of directors whose term shall then expire shall be elected to hold office for a term of three (3) years, so that the term of office of one class of directors shall expire in each year. The Board of Directors shall have the sole discretion to increase the number of Directors that shall constitute the whole Board of Directors; provided however, that the total number of Directors in each class remains relatively proportionate to the others.
B. Identification of Executive Officers of the Company
The following table sets forth selected information about the executive officers of the Company, each of whom is elected by the Board of Directors and each of whom holds office at the discretion of the Board of Directors:
Bank Office and Position Employee Age as of Name with the Company Held Since Since Feb 28, 1999 ---- ---------------- ---------- --------- ------------- Louis A. DeNaples Chairman of the Board 1998 (1) 58 J. David Lombardi President & Chief Executive Officer 1998 1981 50 Michael J. Cestone, Jr. Secretary 1998 (1) 67 William S. Lance Treasurer 1998 1991 39
(1) Messrs. DeNaples and Cestone are non-management members of the Board of Directors of the Company.
C. Identification of Significant Employees:
NONE
D. Family Relationships:
Family relationships exist within the Bank between directors. Michael J. Cestone, Jr., Secretary of the Board of Directors, is the father of Michael G. Cestone. Dominick L. DeNaples is the brother of Louis A. DeNaples, Chairman of the Board.
E. Business Experience:
Angelo F. Bistocchi Vice President of the Board of the Bank since 1978 Retired Restauranteur Michael G. Cestone President, S. G. Mastriani Company (General Contractor) Michael J. Cestone, Jr. President, M. R. Co. (Real Estate Corporation) C.E.O., S. G. Mastriani Company Joseph Coccia President, Coccia Ford, Inc. President, Coccia Lincoln Mercury, Inc. William P. Conaboy Vice President, General Counsel, Allied Services Dominick L. DeNaples President F & L Realty Corp. Vice President, DeNaples Auto Parts, Inc. Vice President, Keystone Landfill Inc. Louis A. DeNaples President, DeNaples Auto Parts, Inc. President, Keystone Landfill, Inc. Vice President, F & L Realty Corp. Joseph J. Gentile President, Dunmore Oil Co., Inc. Martin F. Gibbons Partner, Gibbons Ford Joseph O. Haggerty Retired Superintendent, Dunmore School District George N. Juba Consultant to the Bank since 1988 William S. Lance Senior Vice President since 1994 Vice President and Comptroller -Finance/Control Division Manager since 1991 J. David Lombardi President and Chief Executive Officer since 1988 John R. Thomas Chairman of the Board, Wesel Manufacturing Company (design and manufacturing of precision machinery)
F. Involvement in Certain Legal Proceedings:
No officer or director is involved in legal proceedings pursuant to this item.
G. Promoters and Control Persons:
NONE
Item 11
Item 11 - Executive Compensation
Summary Compensation Table
The following table sets forth all cash compensation paid by the Company for services rendered in all capacities during each of the last three fiscal years to the Chief Executive Officer of the Company and to all Executive Officers whose salary and bonus exceed $100,000.
Employment Agreements
The Bank entered into an employment agreement with Mr. J. David Lombardi, President and Chief Executive Officer effective on January 1, 1990 amended September 28, 1994. On July 8, 1998 the Board of Directors of the Corporation approved and adopted an amendment to the employment agreement which added the Corporation as a party to the agreement. This Agreement is designed to assist the Company and the Bank in retaining a highly qualified executive and to help insure that if the Company is faced with an unsolicited tender offer proposal, Mr. Lombardi will continue to manage the Company without being unduly distracted by the uncertainties of his personal affairs and thereby will be better able to assist in evaluating such a proposal in an objective manner. This agreement provided for a base annual salary of $155,000 in 1998. Additional compensation by way of salary increases, bonuses or fringe benefits may be established from time to time by appropriate Board action. The agreement does not preclude Mr. Lombardi from serving as a director of the Company and the Bank and receiving related fees. The Agreement may be terminated by the Company with or without "just cause" ("just cause" is defined in the Agreement), or upon death, permanent disability, or normal retirement of Mr. Lombardi, or, upon the termination of Mr. Lombardi's employment by resignation or otherwise. In the event employment is terminated with "just cause", Mr. Lombardi shall receive salary payment at his then effective base salary as if his employment had not been terminated for a period of three (3) months, excluding bonuses or fringe or supplemental payments theretofore authorized by the Board of Directors. In the event that the termination of employment is occasioned by the Company without just cause, Mr. Lombardi shall continue to receive each month for a period of two (2) years from the effective date of termination; (a) his monthly base salary payments from the Bank at the rate in effect on the date of the termination; (b) his monthly Board of Directors fee; and (c) one (1/12th) twelfth of the average of the bonuses paid to him over the preceding three (3) years; all computed as if his employment had not been terminated. In the event that there is a "change in control" (as defined in the Agreement) and as a result thereof Mr. Lombardi's employment is terminated or his duties or authority are substantially diminished or he is removed from the office of Chief Executive Officer of the reorganized employer, Mr. Lombardi may terminate the employment by giving notice to the Bank within sixty (60) days of the occurance in the "change of control". Upon such termination, the Company is obligated to pay Mr. Lombardi the total sum of the following: (a) three (3) times his then annual base salary which was in effect as of the date of the change in control; (b) three (3) times his then annual Board of Director's fee; and (c) three (3) times the average of his bonuses for the prior three (3) years. Subsequent to termination, Mr. Lombardi shall not accept employment in any office or branch of any financial institution or subsidiary in Lackawanna County for a period of three (3) years, unless such severance was made by the Company "without just cause".
Compensation of Directors
Members of the Bank's Board of Directors are compensated at the rate of $1,000 per meeting, including four (4) compensated absences at full compensation, after which members are not paid for any unexcused absence. Excused absences are limited to non-attendance due to other bank business. The aggregate amount of such fees paid in 1998 was $284,000. Certain directors also receive fees for additional services rendered. The aggregate amount of such fees paid in 1998 was $31,500. All directors of the Bank also received an additional fee of $7,500 in 1998.
Item 12
Item 12 - Security Ownership of Certain Beneficial Owners and Management
The following table sets forth certain information, as of February 28, 1999, regarding the beneficial ownership of Company Stock of each director and nominee, all directors and principal officers as a group, and all persons who own beneficially more than five percent of the outstanding common stock of the Company. Management knows of no persons, other than directors Louis A. DeNaples and Dominick L. DeNaples, who own beneficially more than five percent of the outstanding Company Stock. Unless otherwise listed, shares beneficially owned represent sole voting and investment power of the individuals named.
Shares Beneficially Owned (1) Percent of Class Angelo F. Bistocchi 20,146 0.84 Michael G. Cestone 9,984 0.42 Michael J. Cestone, Jr. (2) 36,392 1.52 Joseph Coccia 11,890 0.50 William P. Conaboy 936 0.04 Dominick L. DeNaples (3) 162,856 6.79 Louis A. DeNaples (4) 174,422 7.27 Joseph J. Gentile (5) 106,346 4.43 Martin F. Gibbons 20,554 0.86 Joseph O. Haggerty 3,872 0.16 George N. Juba 14,644 0.61 J. David Lombardi (6) 27,720 1.15 John R. Thomas (7) 38,479 1.60 All directors and principal officers as a group (14) 628,925 26.22
Note: As used throughout, the term "principal officers" refers to Executive Officers of the Company including President and Treasurer.
(1) The securities "beneficially owned" by an individual are determined in accordance with the definitions of "beneficial ownership" set forth in the regulations of the Securities and Exchange Commission and may include securities owned by or for the individual's spouse and minor children and any other relative who has the same home, as well as securities to which the individual has or shares voting or investment power or has the right to acquire beneficial ownership within sixty (60) days after February 28, 1999. Beneficial ownership may be disclaimed as to certain of the securities. Unless otherwise indicated, all shares are legally owned by the reporting person individually or jointly with his spouse. (2) Includes 8,090 shares owned individually by his spouse. (3)Includes 12,000 shares held jointly with his children. (4) Includes 2,282 shares owned individually by his spouse and 7,462 shares held jointly with his children. (5) Includes 21,670 shares owned individually by his spouse. (6) Includes 144 shares held by his minor children. (7) Includes 5,400 shares owned individually by his spouse.
Item 13
Item 13 - Certain Relationships and Related Transactions
Some of the directors and officers of the Bank and the companies with which they are associated were customers of, and had banking transactions with, the Bank in the ordinary course of its business during 1997 and the Bank expects to have such banking transactions in the future. All loans and commitments to loan included in such transactions were made on substantially the same terms, including interest rates and collateral, as those prevailing at the time for comparable transactions with other persons of similar creditworthiness and in the opinion of the Board of Directors of the Bank, do not involve more than a normal risk of collectibility or present other unfavorable features.
Insider Trading Matters
NONE
Part IV.
Item 14
Item 14 - Exhibits, Financial Statement Schedules and Reports on Form 8-K
The information required in Item 14 is incorporated by reference from the Company's Annual Report to security holders for the fiscal year ended December 31, 1998:
EXHIBIT A - Balance Sheet - December 31, 1998 and 1997
EXHIBIT B - Statement of Income - December 31, 1998, 1997 and 1996
EXHIBIT C - Statement of Cash Flows - December 31, 1998, 1997 and 1996
EXHIBIT D - Statement of Changes in Stockholders' Equity - December 31, 1998, 1997 and 1996
EXHIBIT E- Independent Auditor's Report
Notes to Consolidated Financial Statements
1 Summary of Significant Accounting Policies
2 Restricted Cash Balances
3 Investment Securities December 31, 1998 and 1997
4 Loans and Changes in Allowance for Loan Loss December 31, 1998 and
5 Bank Premises and Equipment December 31, 1998 and 1997
6 Deposits
7 Borrowed Funds December 31, 1998 and 1997
8 Benefit Plans
9 Income Taxes December 31, 1998, 1997 and 1996
10 Related Party Transactions
11 Commitments
12 Regulatory Matters December 31, 1998 and 1997
13 Disclosures about Fair Value of Financial Instruments December 31, 1998 and 1997
14 Condensed Financial Information - Parent Company Only
15 Selected Quarterly Financial Data 1998 and 1997
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:
Registrant: FIRST NATIONAL COMMUNITY BANCORP, INC.
/s/ J. David Lombardi ------------------------- J. David Lombardi, President and Chief Executive Officer
/s/ William Lance ------------------------- William Lance, Treasurer Principal Financial Officer
DATE: March 24, 1999
Pursuant to the requirements of the Securities Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated:
Directors:
/s/Joseph J. Gentile 3/24/99 - ------------------- -------- -------------------- -------- Angelo Bistocchi Date Joseph J. Gentile Date
/s/Michael G. Cestone 3/24/99 /s/Martin F. Gibbons 3/24/99 - ------------------- ------- -------------------- -------- Michael G. Cestone Date Martin F. Gibbons Date
/s/Joseph O. Haggerty 3/24/99 - ------------------- ------- -------------------- -------- Michael J. Cestone, Jr. Date Joseph O. Haggerty Date
/s/Joseph Coccia 3/24/99 - ------------------ ------- -------------------- -------- Joseph Coccia Date George N. Juba Date
/s/William P. Conaboy 3/24/99 /s/J. David Lombardi 3/24/99 - ------------------ ------- ------------------- -------- William P. Conaboy Date J. David Lombardi Date
/s/Dominick L. DeNaples 3/24/99 - ------------------ ------- ------------------ ------- Dominick L. DeNaples Date John R. Thomas Date
/s/Louis A. DeNaples 3/24/99 - ------------------ ------- Louis A. DeNaples Date
Exhibit E - Independent Auditors' Report
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders of First National Community Bancorp, Inc.
We have audited the accompanying consolidated balance sheets of First National Community Bancorp, Inc. and Subsidiaries (the "Company") as of December 31, 1998 and 1997, and the related consolidated statements of income, changes in stockholders' equity and cash flows for each of the two years in the period ended December 31, 1998. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. The consolidated statements of income, changes in stockholders' equity and cash flows for the year ended December 31, 1996, were audited by other auditors whose report dated January 21, 1997, expressed an unqualified opinion on those statements.
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 consolidated financial statements referred to above present fairly in all material respects, the financial position of First National Community Bancorp, Inc. and Subsidiaries as of December 31, 1998 and 1997, and the results of their operations and their cash flows for each of the two years in the period ended December 31, 1998 in conformity with generally accepted accounting principles.
Demetrius & Company, L.L.C.
Wayne, New Jersey January 19, 1999
INDEPENDENT AUDITOR'S REPORT
To the Board of Directors and Stockholders of First National Community Bank and Subsidiary
We have audited the accompanying consolidated statements of income, changes in stockholders' equity and cash flows of First National Community Bank and Subsidiary for the year ended December 31, 1996. These financial statements are the responsibility of management. Our responsibility is to express an opinion on these financial statements based on our audit.
We conducted our audit 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 statements presentation. We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the results of operations and cash flows of First National Community Bank and Subsidiary for the year ended December 31, 1996, in conformity with generally accepted accounting principles.
ROBERT ROSSI & CO.
Olyphant, PA January 21, 1997
Notes to Consolidated Financial Statements:
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
The accounting and reporting policies that affect the more significant elements of First National Community Bancorp, Inc.'s (the "Company") financial statements are summarized below. They have been followed on a consistent basis and are in accordance with generally accepted accounting principles and conform to general practice within the banking industry.
NATURE OF OPERATIONS The Company is a registered bank holding company, incorporated under the laws of the state of Pennsylvania. It is the Parent Company of First National Community Bank (the "Bank") and its wholly owned subsidiary FNCB Realty, Inc. The Bank provides a variety of financial services to individuals and corporate customers through its eight banking locations located in northeastern Pennsylvania. It provides a full range of commercial banking services which includes commercial, residential and consumer lending. Additionally, the Bank provides to it's customers a variety of deposit products, including demand checking and interest-bearing deposit accounts. FNCB Realty, Inc.'s operating activities include the acquisition, holding, and disposition of certain real estate acquired in satisfaction of loan commitments owed by third party debtors to First National Community Bank.
PRINCIPLES OF CONSOLIDATION On July 1, 1998, the Company acquired First National Community Bank in a business combination accounted for as a pooling of interests. The Bank became the wholly owned subsidiary of the Company through the exchange of 1,199,180 shares of its common stock for all of the outstanding stock of the Bank. The Company did not conduct business activities prior to the July 1, 1998 stock exchange. Accordingly, the Parent Company only financial information included in Note 14 of these financial statements presents the Company's results of operations and cash flows for its initial period of operations commencing July 1, 1998 and ending on December 31, 1998. The accompanying consolidated financial statements for 1998 are based on the assumption that the companies were combined for the full year, and the financial statements of prior years have been restated to give effect to the combination. All significant intercompany transactions and balances have been eliminated in consolidation.
USE OF ESTIMATES The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
SECURITIES Debt securities that management has the ability and intent to hold to maturity are classified as held-to-maturity and carried at cost, adjusted for amortization of premium and accretion of discounts using methods approximating the interest method. Other marketable securities are classified as available-for-sale and are carried at fair value. Unrealized gains and losses on securities available-for-sale are recognized as direct increases or decreases in stockholders' equity. Cost of securities sold is recognized using the specific identification method.
LOANS Loans are stated at face value, net of unearned discount, unamortized loan fees and costs and the allowance for credit losses. Unearned discount on installment loans is recognized as income over the terms of the loans primarily using the "actuarial method." Interest on all other loans is recognized on the accrual basis, based upon the principal amount outstanding. Loans are placed on nonaccrual when a loan is specifically determined to be impaired or when management believes that the collection of interest or principal is doubtful. This is generally when a default of interest or principal has existed for 90 days or more, unless such loan is fully secured and in the process of collection. When interest accrual is discontinued, interest credited to income in the current year is reversed and interest income in prior years is charged against the allowance for credit losses. Any payments received are applied, first to the outstanding loan amounts, then to the recovery of any charged-off loan amounts. Any excess is treated as a recovery of lost interest.
LOAN IMPAIRMENT The Bank has adopted the provisions of SFAS No. 114, "Accounting by Creditors for Impairment of a Loan," and SFAS No. 118, "Accounting by Creditors for Impairment of a Loan - Income Recognition and Disclosures," in it's evaluation of the loan portfolio. SFAS 114 requires that certain impaired loans be measured based on the present value of expected future cash flows discounted at the loan's original effective interest rate. As a practical expedient, impairment may be measured based on the loan's observable market price or the fair value of the collateral if the loan is collateral dependent. When the measure of the impaired loan is less than the recorded investment in the loan, the impairment is recorded through a valuation allowance.
ALLOWANCE FOR CREDIT LOSSES The allowance for credit losses is maintained at a level which, in management's judgment, is adequate to absorb credit losses inherent in the loan portfolio. The amount of the allowance is based on management's evaluation of the collectibility of the loan portfolio, including the nature of the portfolio, credit concentrations, trends in historical loss experience, specific impaired loans, and economic conditions. Allowances for impaired loans are generally determined based on collateral values or the present value of estimated cash flows. The allowance is increased by a provision for credit losses, which is charged to expense, and reduced by charge-offs, net of recoveries. Changes in the allowance relating to impaired loans are charged or credited to the provision for credit losses.
LOAN FEES Loan origination and commitment fees, as well as certain direct loan origination costs are deferred and the net amount is amortized as an adjustment of the related loan's yield. The Bank is generally amortizing these amounts over the life of the related loans except for residential mortgage loans, where the timing and amount of prepayments can be reasonably estimated. For these mortgage loans, the net deferred fees are amortized over an estimated average life of 7.5 years. Amortization of deferred loan fees is discontinued when a loan is placed on nonaccrual status.
OTHER REAL ESTATE (ORE) Real estate acquired in satisfaction of a loan and in-substance foreclosures are reported in other assets. In-substance foreclosures are properties in which the borrower has little or no equity in collateral, where repayment of the loan is expected only from the operation or sale of the collateral, and the borrower either effectively abandons control of the property or the borrower has retained control of the property but his ability to rebuild equity based on current financial conditions is considered doubtful. Properties acquired by foreclosure or deed in lieu of foreclosure and properties classified as in-substance foreclosures are transferred to ORE and recorded at the lower of cost or fair value (less estimated selling cost for disposal of real estate) at the date actually or constructively received. Costs associated with the repair or improvement of the real estate are capitalized when such costs significantly increase the value of the asset, otherwise, such costs are expensed. An allowance for losses on ORE is maintained for subsequent valuation adjustments on a specific property basis.
BANK PREMISES AND EQUIPMENT Bank premises and equipment are stated at cost less accumulated depreciation. Routine maintenance and repair expenditures are expensed as incurred while significant expenditures are capitalized. Depreciation expense is determined on the straight-line method over the following ranges of useful lives: Buildings and improvements 10 to 40 years Furniture, fixtures and equipment 3 to 15 years Leasehold improvements 5 to 30 years
ADVERTISING COSTS Advertising costs are charged to operations in the year incurred and totaled $341,000, $272,000 and $259,000 in 1998, 1997 and 1996, respectively.
INCOME TAXES Deferred tax assets and liabilities are reflected at currently enacted income tax rates applicable to the period in which the deferred tax assets or liabilities are expected to be realized or settled. As changes in tax laws or rates are enacted, deferred tax assets and liabilities are adjusted through the provision for income taxes.
CASH EQUIVALENTS For purposes of reporting cash flows, cash equivalents include cash on hand, amounts due from banks, and federal funds sold. Generally, federal funds are purchased and sold for one-day periods.
NET INCOME PER SHARE Net income per share of common stock is computed using the weighted average number of shares outstanding during the periods. Such shares amounted to 2,398,360 in 1998, 1997 and 1996 after giving retroactive effect to the 100% stock dividend declared in 1998 and the 10% stock dividends declared in 1997 and 1996.
COMPREHENSIVE INCOME In June 1997, FASB issued SFAS No. 130, "Reporting Comprehensive Income" ("SFAS 130"). SFAS 130 establishes standards for reporting and display of comprehensive income and its components in the financial statements. SFAS 130 is effective for fiscal years beginning after December 15, 1997. Reclassification of financial statements for earlier periods provided for comparative purposes is required. The adoption of SFAS had no impact on the Company's consolidated results of operations, financial position or cash flows.
NEW FINANCIAL ACCOUNTING STANDARDS During 1998, the FASB issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities" ("SFAS 133"), which establishes accounting and reporting standards for derivative instruments and for hedging activities. The statement requires that all derivatives be recognized as either assets or liabilities in the statement of financial position and be measured at fair value. SFAS 133 is effective for fiscal quarters of all fiscal years beginning after June 15, 1999; earlier application is permitted. The company does not hold or issue derivative instruments as defined by SFAS 133; and accordingly, it is the opinion of management that there will be no future impact from this recent accounting standard.
2. RESTRICTED CASH BALANCES:
The Bank is required to maintain certain average reserve balances as established by the Federal Reserve Bank. The amount of those reserve balances for the reserve computation period which included December 31, 1998 was $75,000, which amount was satisfied through the restriction of vault cash. In addition, the Bank maintains compensating balances at correspondent banks, most of which are not required, but are used to offset specific charges for services. At December 31, 1998, the amount of these balances was $1,445,000.
3. SECURITIES:
Securities have been classified in the consolidated financial statements according to management's intent. The carrying amount of securities and their approximate fair values at December 31 follow:
Held-to-maturity Securities:
Gross Gross Unrealized Unrealized Amortized Holding Holding Fair Cost Gains Losses Value ---------- ---------- ------------ ---------- December 31, 1998 ------------------- U.S. Treasury securities and obligations of U.S. government agencies $711,213 $5,385 $2,537 $714,061 ======== ====== ====== ========
December 31, 1997 ------------------- U.S. Treasury securities and obligations of U.S. government agencies $678,049 $3,793 $1,707 $680,135 ======== ====== ====== ========
The following table shows the amortized cost and approximate fair value of the Bank's debt securities at December 31, 1998 using contracted maturities. Expected maturities will differ from contractual maturity because issuers may have the right to call or prepay obligations with or without call or prepayment penalties.
Gross proceeds from the sale of securities for the years ended December 31, 1998, 1997, and 1996 were $14,451,152, $8,920,368, and $25,175,471, respectively with the gross realized gains being $153,290, $64,826 and $232,306, respectively, and gross realized losses being $28,383, $72,857 and $102,283, respectively. At December 31, 1998 and 1997, securities with a carrying amount of $73,195,096 and $51,207,254, respectively, were pledged as collateral to secure public deposits and for other purposes.
4. LOANS:
Major classifications of loans are summarized as follows:
(dollars in thousands) 1998 1997 Real estate loans, secured by residential properties $ 98,534 $96,030 Real estate loans, secured by nonfarm, nonresidential properties 113,020 94,236 Commercial and industrial loans 49,796 36,790 Loans to individuals for household, family and other personal expenditures 58,799 46,174 Loans to state and political subdivisions 8,570 10,938 All other loans, including overdrafts 178 195 -------- ------- Gross loans 328,897 284,363 Less: Unearned discount on loans (4) (10) -------- ------- Total loans 328,893 284,353 Less: Allowance for credit losses (4,283) (3,623) -------- -------- Net loans $324,610 $280,730 ======== ========
Changes in the allowance for credit losses were as follows:
(dollars in thousands)
1998 1997 1996 ---- ---- ---- Balance, beginning of year $ 3,623 $ 3,167 $ 2,800 Recoveries credited to allowance 47 43 128 Provision for credit losses 920 1,110 820 ------- ------- ----- TOTAL 4,590 4,320 3,748 Losses charged to allowance 307 697 581 ------- ------- ------- Balance, end of year $ 4,283 $ 3,623 $ 3,167 ======= ======= =======
Information concerning the Company's recorded investment in nonaccrual and restructured loans is as follows:
(dollars in thousands) 1998 1997 Nonaccrual loans Impaired $ 0 $ 0 Other 845 207 Restructured loans 289 744 ----- ---- Total $1,134 $951 ====== ====
The interest income that would have been earned in 1998, 1997 and 1996 on nonaccrual and restructured loans outstanding at December 31, 1998, 1997 and 1996 in accordance with their original terms approximated $125,000, $99,000 and $154,000. The interest income actually realized on such loans in 1998, 1997 and 1996 approximated $51,000, $85,000 and $37,000. As of December 31, 1998, there were no outstanding commitments to lend additional funds to borrowers of impaired, restructured or nonaccrual loans.
5. BANK PREMISES AND EQUIPMENT:
Bank premises and equipment are summarized as follows:
1998 1997 ----- ---- Land $783,150 $783,150 Buildings 2,268,485 2,236,630 Furniture, fixtures and equipment 3,889,518 3,149,059 Leasehold improvements 1,755,841 1,281,333 ---------- ---------- Total 8,696,994 7,450,172 Less accumulated depreciation 3,884,487 3,354,455 ---------- ---------- Net $4,812,507 $4,095,717 ========== ==========
6. DEPOSITS:
At December 31, 1998, time deposits including certificates of deposit and Individual Retirement Accounts have the scheduled maturities as follows:
(in thousands)
Time Deposits $100,000 Other and Over Time Deposits Total --------- ----------- -------- 1999 $ 64,374 $115,319 $179,693 2000 3,762 39,552 43,314 2001 100 13,771 13,871 2002 1,105 4,296 5,401 2003 and Thereafter 0 5,076 5,076 -------- -------- -------- Total $ 69,341 $178,014 $247,355 ======== ======== ========
7. BORROWED FUNDS:
Borrowed funds at December 31, 1998 and 1997 include the following:
1998 1997 ------- ------ Treasury Tax and Loan Demand Note $ 437,119 $ 306,948 Borrowings under Lines of Credit 64,738,463 47,527,648 ----------- ----------- Total $65,175,582 $47,834,596 =========== ===========
The following table presents Federal Home Loan Bank of Pittsburgh ("FHLB of Pittsburgh") advances at the earlier of the callable date or maturity date (in thousands):
December 31, 1998 Weighted Average Amount Interest Rate -------- ------------ Within one year $22,977 5.89% After one year but within two years 13,178 5.89% After two years but within three years 8,195 5.88% After three years but within four years 388 6.42% After four years but within five years 15,000 5.57% After five years 5,000 5.15% ------- $64,738 =======
The FHLB of Pittsburgh advances are comprised of $49,738,000 of fixed rate advances and $15,000,000 of variable rate borrowings. All advances are collateralized either under a blanket pledge agreement by one to four family mortgage loans or with mortgage-backed securities.
At December 31, 1998, the Company had available from the FHLB of Pittsburgh an open line of credit for $14,620,000 which expires on November 24, 1999. The line of credit may bear interest at either a fixed rate or a variable rate, such rate being set at the time of the funding request. At December 31, 1998 and 1997, the Company had no borrowings under this credit line. In addition, at December 31, 1998, the Company had available overnight repricing lines of credit with other correspondent banks totaling $7,000,000. There were no borrowings under these lines at December 31, 1998 or 1997.
8. BENEFIT PLANS:
The Bank has a defined contribution profit sharing plan which covers all eligible employees. The Bank's contribution to the plan is determined at management's discretion at the end of each year and funded. Contributions to the plan in 1998, 1997 and 1996 amounted to $250,000, $220,000, and $190,000, respectively. The Bank also fully funded a non-qualified deferred compensation plan in 1986 covering one of its former executive officers. The Bank is accruing the present value of its obligation for deferred compensation benefits expected to become payable under the terms of the plan. The provision for such benefits amounted to $3,800 in 1998, $4,871 in 1997, and $5,835 in 1996. Benefits paid to the former executive officer under the aforementioned non-qualified deferred compensation plan amounted to $14,375 in 1998, 1997 and 1996. At December 31, 1998 and 1997, the present value of deferred compensation payable amounted to $29,449 and $40,023 and is included in other liabilities in the accompanying balance sheet. During 1994, the Bank established an unfunded non-qualified deferred compensation plan covering all eligible bank officers and directors as defined by the plan. This plan provides eligible participants to elect to defer a portion of their compensation. At December 31, 1998, elective deferred compensation amounting to $488,410 plus $138,335 in accrued interest has been recorded as other liabilities in the accompanying balance sheet.
9. INCOME TAXES:
The provision for income taxes included in the statement of income is comprised of the following components:
1998 1997 1996 ---- ---- ---- Current $1,883,810 $1,662,345 $1,204,150 Deferred (306,402) (46,495) 61,064 ---------- ---------- ---------- TOTAL $1,577,408 $1,615,850 $1,265,214 ========== ========== ==========
Deferred tax (liabilities) assets are comprised of the following at December 31:
1998 1997 ---- ---- Unrealized Holding Gains (Losses) on Securities Available-for-Sale $(407,668) $(565,086) Deferred Loan Origination Fees (157,105) (131,637) Depreciation (133,665) (127,097) Other (23,474) 0 ---------- ---------- Gross Deferred Tax Liability $(721,912) $(823,820) ---------- ----------
Reserve for Credit Losses 1,261,338 1,011,022 Deferred Compensation 223,106 157,330 ---------- ---------- Gross Deferred Tax Asset 1,484,444 $1,168,352 ---------- ---------- Deferred Tax Asset Valuation Allowance (547,838) (593,658) ---------- ----------- Net Deferred Tax (Liabilities) Assets $214,694 $ (249,126) ========== ===========
The provision for Income Taxes differs from the amount of income tax determined applying the applicable U.S. Statutory Federal Income Tax Rate to pre-tax income from continuing operations as a result of the following differences:
1998 1997 1996 ---- ---- ---- Provision at Statutory Tax Rates $2,272,790 $2,127,999 $1,747,540 Add (Deduct): Tax Effects of Non-Taxable Interest Income (828,624) (788,744) (732,248) Non-Deductible Interest Expense 115,929 106,785 96,101 Other Items Net 17,313 169,810 153,821 ---------- ---------- ---------- Provision for Income Taxes $1,577,408 $1,615,850 $1,265,214 ========== ========== ==========
The net change in the valuation allowance for deferred tax asset was a decrease of $45,820 in 1998. The change relates to a decrease in the provision for income taxes to which this valuation relates.
10. RELATED PARTY TRANSACTIONS:
At December 31, 1998 and 1997, certain officers and directors and/or companies in which they had 10% or more beneficial ownership were indebted to the Bank in the aggregate amounts of $10,497,630 and $7,435,105. Such indebtedness was incurred in the ordinary course of business on substantially the same terms as those prevailing at the time for comparable transactions with other persons. The Bank was also committed under standby letters of credit as described in Note 11.
During 1998, $5,679,303 of new loans were made and repayments totaled $2,616,778.
11. COMMITMENTS:
(a) Leases:
The Bank conducts its Fashion Mall, Wilkes-Barre, Pittston Plaza, Kingston and Exeter branch operations from leased facilities. The Fashion Mall lease expires May 2003 and carries three additional renewal options of five years each with specified increases at the beginning of each option period. The Wilkes-Barre lease, which expires May 2003, carries three additional renewal options of five years each with specified increases at the beginning of each option period. The Pittston Plaza lease expires September 2008 and carries two additional renewal options of five years each, with specified increases at the beginning of each option period. The Kingston lease, which expires August 2006, carries two additional options of five years each with specified increases at the beginning of each option period. The Exeter lease expires August 2008 and carries four additional options of five years each with specified increases at the beginning of each option period. The Bank also leases office space for certain administrative and operational functions. Such lease, which expires in 1999, provides the bank the option of renewal for five successive three year periods commencing January 1, 2000; and carries specified annual rental increases. At December 31, 1998, the Bank was obligated under certain noncancelable leases for equipment with terms expiring over the next five years.
The aforementioned leases have been treated as operating leases in the accompanying financial statements. Minimum future obligations under noncancelable operating leases in effect at December 31, 1998 are as follows:
FACILITIES EQUIPMENT 1999 $ 280,098 $ 70,962 2000 155,098 44,989 2001 155,781 26,765 2002 157,150 10,078 2003 and thereafter 569,056 2,793 ---------- -------- Total $1,317,183 $155,587 ========== ========
Total rental expense under operating leases amounted to $322,231 in 1998, $295,168 in 1997, and $272,355 in 1996.
(b) Financial Instruments with Off-Balance Sheet Risk:
The Bank is a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. Such financial instruments include commitments to extend credit and standby letters of credit which involve varying degrees of credit, interest rate or liquidity risk in excess of the amount recognized in the balance sheet. The Bank's exposure to credit loss from nonperformance by the other party to the financial instruments for commitments to extend credit and standby letters of credit is represented by the contractual amount of those instruments. The Bank does not require collateral or other security to support financial instruments with off-balance sheet credit risk. Financial instruments whose contract amounts represent credit risk at December 31 are as follows:
1998 1997 ---- ---- Commitments to extend credit $48,566,776 $36,695,453 Standby letters of credit 11,203,184 8,717,944
Outstanding commitments to extend credit and standby letters of credit issued to or on behalf of related parties amounted to $3,307,423 and $947,367 and $5,653,691 and $5,461,081 at December 31, 1998 and 1997, respectively.
(c) Concentration of Credit Risk:
Cash Concentrations: The Bank maintains cash balances at several correspondent banks. The aggregate cash balances represent federal funds sold of $3,400,000 and $5,450,000; and due from bank accounts in excess of the limit covered by the Federal Deposit Insurance Corporation amounting to $5,442,038 and $3,705,438 as of December 31, 1998 and 1997, respectively.
Loan Concentrations: At December 31, 1998, 22% of the Bank's commercial loan portfolio was concentrated in loans in the restaurant industry. Substantially all of these loans are secured by first mortgages on commercial properties.
12. REGULATORY MATTERS:
The Bank is subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory - and possibly additional discretionary - actions by regulators that, if undertaken, could have a direct material effect on the Bank's financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Bank must meet specific capital guidelines that involve quantitative measures of the Bank's assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The Bank's capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors. Quantitative measures established by regulation to ensure capital adequacy require the Bank to maintain minimum amounts and ratios (set forth in the table below) of total and Tier I capital (as defined in the regulations) to risk-weighted assets (as defined), and of Tier I capital (as defined) to average assets (as defined). Management believes, as of December 31, 1998, that the Bank meets all capital adequacy requirements to which it is subject. As of December 31, 1998, the most recent notification from the Office of the Comptroller of the Currency categorized the Bank as "Well Capitalized" under the regulatory framework for prompt corrective action. To be categorized as "Well Capitalized" the Bank must maintain minimum Total risk-based, Tier I risk-based, and Tier I leverage ratios as set forth in the table. There are no conditions or events since that notification that management believes have changed the institution's category.
Banking Regulations also limit the amount of dividends that may be paid without prior approval of the Bank's regulatory agency. Retained earnings against which dividends may be paid without prior approval of the federal banking regulators amounted to $11,051,000 at December 31, 1998, subject to the minimum capital ratio
13. DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS:
Statement of Financial Accounting Standards No. 107 "Disclosures about Fair Value of Financial Instruments", (SFAS 107) requires annual disclosure of estimated fair value of on-and off-balance sheet financial instruments.
The following methods and assumptions were used to estimate the fair value of each class of financial instruments for which it is practicable to estimate that value:
Cash and short-term investments: Cash and short-term investments include cash on hand, amounts due from banks, and federal funds sold. For these short-term instruments, the carrying amount is a reasonable estimate of fair value.
Interest-Bearing balances with financial institutions: The fair value of these financial instruments is estimated using rates currently available for investments of similar maturities.
Securities: For securities held for investment purposes, the fair values have been individually determined based on currently quoted market prices. If a quoted market price is not available, fair value is estimated using quoted market prices for similar securities.
Loans: The fair value of loans has been estimated by discounting the future cash flows using the current rates which similar loans would be made to borrowers with similar credit ratings and for the same remaining maturities.
Deposits: The fair value of demand deposits, savings deposits, and certain money market deposits is the amount payable on demand at the reporting date. The fair value of fixed-maturity certificates of deposit is estimated using the rates currently offered for deposits of similar remaining maturities.
Borrowed Funds: Rates currently available to the Bank for debt with similar terms and remaining maturities are used to estimate fair value of existing debt.
Commitments to extend credit and standby letters of 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 present creditworthiness of the counterparties. For fixed-rate loan commitments, fair value also considers the difference between current levels of interest rates and the committed rates. The fair value of letters of credit is based on fees currently charged for similar agreements or on the estimated cost to terminate them or otherwise settle the obligations with the counterparties at the reporting date.
The estimated fair values of the Bank's financial instruments are as follows:
December 31, 1998 Carrying Fair Value Value FINANCIAL ASSETS Cash and short term investments $ 13,426,909 $13,426,909 Interest-bearing balances with financial institutions 2,478,000 2,478,000 Securities 131,830,084 131,832,932 Gross Loans 328,893,297 328,626,736
FINANCIAL LIABILITIES Deposits $380,038,788 $381,215,158 Borrowed funds 65,175,582 65,650,009
OFF-BALANCE SHEET FINANCIAL INSTRUMENTS Commitments to extend credit and standby letters of credit $0 $68,068
December 31, 1997 Carrying Fair Value Value FINANCIAL ASSETS Cash and short term investments $ 14,681,033 $14,681,033 Interest-bearing balances with financial institutions 1,586,000 1,586,000 Securities 121,366,782 121,368,868 Gross Loans 284,353,338 285,206,610
FINANCIAL LIABILITIES Deposits $345,667,579 $345,950,003 Borrowed funds 47,845,737 47,996,796
OFF-BALANCE SHEET FINANCIAL INSTRUMENTS Commitments to extend credit and standby letters of credit $0 $71,126
14. CONDENSED FINANCIAL INFORMATION - PARENT COMPANY ONLY
Condensed parent company only financial information is as follows (in thousands):
Condensed Balance Sheet December 31, 1998 Assets: Cash $ 32 Investment in Subsidiary (equity method) 34,595 Other assets 52 ------- Total Assets $34,679 =======
Liabilities and Stockholders' Equity: Stockholders' equity $34,679 =======
Condensed Statement of Income for the initial period of operations commencing July 1, 1998 and ending December 31, 1998 Income: Dividends from Subsidiary $1,155 Other Income 2 Equity in Undistributed Income of Subsidiary 1,367 ------ Total Income $2,524 ------ Expenses 18 ------ Net Income $2,506 ======
Condensed Statement of Cash Flows for the initial period of operations commencing July 1, 1998 and ending December 31, 1998 Cash Flows from Operating Activities: Net income $2,506 Adjustments to reconcile net income to net cash provided by operating activities: Equity in undistributed income of subsidiary (1,367) Increase in other assets (52) ------- Net Cash Provided by Operating Activities $1,087 -------
Cash Flows from Financing Activities: Cash dividends $(1,055) Proceeds from borrowings 840 Repayment of borrowings (840) Advances from subsidiary 82 Repayment of advances from subsidiary (82) -------- Net cash used in financing activities $(1,055) --------
Increase in Cash $ 32 Cash at Beginning of Period 0 ----- Cash at End of Year $ 32 =====
Non-cash investing and financing activities: On July 1, 1998, the Company issued 1,199,180 shares of its common stock in exchange for all of the outstanding shares of the Bank. The investment in subsidiary was recorded at $33,550,000 which equaled the Stockholders' Equity of the Bank at the time of the exchange.
15. SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED)
In Thousands, Except Per Share Amount
Quarter Ending March 31, June 30, September 30, December 31, Interest income $8,093 $8,332 $8,704 $8,777 Interest expense 4,387 4,509 4,732 4,833 ------ ------ ------ ------ Net interest income 3,706 3,823 3,972 3,944 Provision for credit losses 180 180 180 380 Other income 335 449 450 349 Other expenses 2,225 2,260 2,426 2,512 Provision for income taxes 394 473 431 280 ------ ------ ------ ------ Net income $1,242 $1,359 $1,385 $1,121 ====== ====== ====== ====== Net income per share* $0.52 $0.56 $0.58 $0.47 ===== ===== ===== =====
Interest income $7,282 $7,558 $7,975 $8,091 Interest expense 3,804 3,958 4,256 4,308 ------ ------ ------ ------ Net interest income 3,478 3,600 3,719 3,783 Provision for credit losses 180 180 225 525 Other income 636 267 417 307 Other expenses 2,130 2,137 2,313 2,259 Provision for income taxes 466 383 428 338 ------ ------ ------ ------ Net income $1,338 $1,167 $1,170 $ 968 ====== ====== ====== ====== Net income per share* $0.56 $0.48 $0.49 $0.41 ===== ===== ===== =====
o Per share data reflects the retroactive effect of the 100% stock dividend issued in 1998 and the 10% stock dividend issued in 1997.