UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
---
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended SEPTEMBER 30, 2003
-----------------------
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from________ to ________
Commission file number 0-6233
1ST SOURCE CORPORATION
(Exact name of registrant as specified in its charter)
INDIANA 35-1068133
------- ----------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
100 NORTH MICHIGAN STREET, SOUTH BEND, INDIANA 46601
(Address of principal executive offices) (Zip Code)
(574)235-2702
(Registrant's telephone number, including area code)
NOT APPLICABLE
(Former name, former address and former fiscal year,
if changed since last report.)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No______
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes X No ______
Number of shares of common stock outstanding as of
October 28, 2003 - 21,079,434 shares.
TABLE OF CONTENTS
PART I. FINANCIAL INFORMATION
Page
Item 1. Financial Statements (Unaudited)
Consolidated statements of financial condition --
September 30, 2003, and December 31, 2002 3
Consolidated statements of income --
three months and nine months ended September 30, 2003 and 2002 4
Consolidated statements of cash flows --
nine months ended September 30, 2003 and 2002 5
Notes to the Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 9
Item 3. Quantitative and Qualitative Disclosures About Market Risk 20
Item 4. Controls and Procedures 20
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 20
Item 2. Changes in Securities and Use of Proceeds 20
Item 3. Defaults Upon Senior Securities 20
Item 4. Submission of Matters to a Vote of Security Holders 20
Item 5. Other Information 20
Item 6(a). Exhibits 20
Item 6(b). Reports on Form 8-K 20
SIGNATURES 21
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
1ST SOURCE CORPORATION AND SUBSIDIARIES
(UNAUDITED - DOLLARS IN THOUSANDS)
September 30, December 31,
2003 2002
-------------------------------
ASSETS
Cash and due from banks $ 103,256 $ 120,894
Federal funds sold and
interest bearing deposits with other banks 66,109 81,881
Investment securities available-for-sale
(amortized cost of $754,106 and $640,224
at September 30, 2003 and December 31, 2002,
respectively) 760,865 647,617
Trading account securities 10,822 13,347
Mortgages held for sale 67,496 146,640
Loans - net of unearned discount
Commercial and agricultural 406,096 428,367
Truck and automobile financing 480,196 445,195
Aircraft financing 273,149 323,802
Construction equipment financing 241,945 303,126
Loans secured by real estate 522,852 567,950
Consumer loans 96,383 111,012
-------------------------------
Total loans 2,020,621 2,179,452
Reserve for loan losses (63,222) (59,218)
-------------------------------
Net loans 1,957,399 2,120,234
Equipment owned under operating leases,
net of accumulated depreciation 74,916 93,893
Net premises and equipment 38,488 40,899
Other assets 126,897 142,063
-------------------------------
Total assets $3,206,248 $3,407,468
===============================
LIABILITIES AND SHAREHOLDERS' EQUITY
Deposits:
Noninterest bearing 404,544 419,289
Interest bearing 2,088,493 2,293,616
-------------------------------
Total deposits 2,493,037 2,712,905
Federal funds purchased and securities
sold under agreements to repurchase 223,405 212,040
Other short-term borrowings 43,533 48,638
Long-term debt 16,994 16,878
Subordinated notes 56,444 54,750
Other liabilities 53,967 52,828
-------------------------------
Total liabilities 2,887,380 3,098,039
Shareholders' equity:
Preferred stock-no par value - -
Common stock-no par value 7,578 7,579
Capital surplus 214,001 214,001
Retained earnings 98,528 90,897
Cost of common stock in treasury (5,409) (7,637)
Accumulated other comprehensive income 4,170 4,589
-------------------------------
Total shareholders' equity 318,868 309,429
-------------------------------
Total liabilities and shareholders' equity $3,206,248 $3,407,468
===============================
The accompanying notes are a part of the consolidated financial statements.
3
CONSOLIDATED STATEMENTS OF INCOME
1ST SOURCE CORPORATION AND SUBSIDIARIES
(UNAUDITED - DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Three Months Ended Nine Months Ended
September 30 September 30
------------------------ -------------------------
2003 2002 2003 2002
------------------------ -------------------------
Interest and Fee Income:
Loans $ 33,063 $ 42,233 $ 105,776 $ 130,557
Investment securities:
Taxable 4,205 5,122 13,449 16,444
Tax-exempt 1,386 1,463 4,266 4,555
Other 337 41 782 239
------------------------ -------------------------
TOTAL INTEREST INCOME 38,991 48,859 124,273 151,795
Interest Expense:
Deposits 11,919 17,129 38,877 55,035
Short-term borrowings 1,386 1,586 4,148 4,114
Subordinated notes 961 789 2,842 2,374
Long-term debt 181 213 566 637
------------------------ -------------------------
TOTAL INTEREST EXPENSE 14,447 19,717 46,433 62,160
------------------------ -------------------------
NET INTEREST INCOME 24,544 29,142 77,840 89,635
Provision for loan losses 4,078 8,765 14,529 31,324
------------------------ -------------------------
NET INTEREST INCOME AFTER
PROVISION FOR LOAN LOSSES 20,466 20,377 63,311 58,311
Noninterest Income:
Trust fees 2,643 2,606 8,019 7,927
Service charges on deposit accounts 4,010 3,833 11,656 10,988
Loan servicing and sale income 5,786 (1,025) 13,437 2,554
Equipment rental income 6,217 7,157 19,443 21,901
Other income 3,332 3,638 11,945 9,951
Investment securities and
other investment losses (3,134) (600) (3,689) (1,088)
------------------------ -------------------------
TOTAL NONINTEREST INCOME 18,854 15,609 60,811 52,233
------------------------ -------------------------
Noninterest Expense:
Salaries and employee benefits 17,195 16,792 52,732 49,787
Net occupancy expense 1,726 1,745 5,375 5,125
Furniture and equipment expense 2,601 2,537 7,919 7,892
Depreciation - leased equipment 4,789 5,744 15,197 17,857
Supplies and communication 1,532 1,614 4,601 4,875
Loan collection and repossession expense 291 1,224 5,861 3,099
Other 4,570 3,856 13,096 10,785
------------------------ -------------------------
TOTAL NONINTEREST EXPENSE 32,704 33,512 104,781 99,420
------------------------ -------------------------
INCOME BEFORE INCOME TAXES 6,616 2,474 19,341 11,124
Income taxes 1,973 373 5,548 2,048
------------------------ -------------------------
NET INCOME $ 4,643 $ 2,101 $ 13,793 $ 9,076
======================== =========================
Other Comprehensive Income, Net of Tax:
Change in unrealized
appreciation (depreciation)
of available-for-sale securities (1,103) 2,353 (419) 2,372
------------------------ -------------------------
Total Comprehensive Income $ 3,540 $ 4,454 $ 13,374 $ 11,448
======================== =========================
Per Common Share:
Basic Net Income Per Common Share $ 0.23 $ 0.10 $ 0.66 $ 0.43
======================== =========================
Diluted Net Income Per Common Share $ 0.22 $ 0.10 $ 0.65 $ 0.43
======================== =========================
Dividends $ 0.090 $ 0.090 $ 0.270 $ 0.270
======================== =========================
Basic Weighted Average Common Shares Outstanding 21,076,921 20,963,707 21,050,008 20,927,734
======================== =========================
Diluted Weighted Average Common Shares Outstanding 21,435,717 21,346,977 21,381,398 21,316,672
======================== =========================
The accompanying notes are a part of the consolidated financial statements.
4
CONSOLIDATED STATEMENTS OF CASH FLOWS
1ST SOURCE CORPORATION AND SUBSIDIARIES
(UNAUDITED - DOLLARS IN THOUSANDS)
Nine Months Ended
September 30
-----------------------
2003 2002
-----------------------
Operating activities:
Net income $ 13,793 $ 9,076
Adjustments to reconcile net income to net cash
provided by operating activities:
Provision for loan losses 14,529 31,324
Depreciation of premises and equipment 19,030 21,725
Amortization of investment security premiums
and accretion of discounts, net 4,317 3,285
Amortization of mortgage servicing rights 5,999 4,539
Mortgage servicing asset impairment charges 2,596 5,269
Deferred income taxes (2,501) 9,072
Realized investment securities losses 3,689 1,088
Unrealized investment losses -- 950
Change in mortgages held for sale 79,144 45,454
Realized losses (gains) on securitized loans 299 (6,556)
Change in trading account securities 2,525 --
Decrease in interest receivable 1,621 4,129
Decrease in interest payable (3,711) (8,141)
Change in other assets 6,645 (29,982)
Change in other liabilities 7,566 (12,346)
Other 2,907 1,237
--------- ---------
Net cash from operating activities 158,448 80,123
Investing activities:
Proceeds from sales and maturities
of investment securities 271,360 225,757
Purchases of investment securities (393,548) (194,096)
Net change in short-term investments 15,772 (44,124)
Loans sold or participated to others 49,784 250,569
Net change in loans 98,522 (182,078)
Net change in equipment owned under operating leases 3,781 (3,653)
Purchases of premises and equipment (2,147) (1,038)
--------- ---------
Net cash from investing activities 43,524 51,337
Financing activities:
Net change in demand deposits, NOW
accounts and savings accounts (105,435) (7,634)
Net change in certificates of deposit (114,433) (113,788)
Net change in short-term borrowings 6,260 (12,550)
Proceeds from issuance of long-term debt 784 126
Payments on long-term debt (668) (368)
Acquisition of treasury stock (438) (2,265)
Cash dividends (5,680) (5,650)
--------- ---------
Net cash used in financing activities (219,610) (142,129)
Net change in cash and cash equivalents (17,638) (10,669)
Cash and cash equivalents, beginning of year 120,894 129,431
--------- ---------
Cash and cash equivalents, end of period $ 103,256 $ 118,762
========= =========
The accompanying notes are a part of the consolidated financial statements
5
1ST SOURCE CORPORATION
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
Note 1. Basis of Presentation
The accompanying unaudited consolidated financial statements reflect all
adjustments (all of which are normal and recurring in nature) which are, in the
opinion of management, necessary for a fair presentation of the consolidated
financial position, the results of operations, and cash flows for the periods
presented. These unaudited consolidated financial statements have been prepared
according to the rules and regulations of the Securities and Exchange Commission
(SEC) and, therefore, certain information and footnote disclosures normally
included in financial statements prepared in accordance with accounting
principles generally accepted in the United States have been omitted. The Notes
to the Consolidated Financial Statements appearing in 1st Source Corporation's
(1st Source) Annual Report on Form 10-K (2002 Annual Report), which include
descriptions of significant accounting policies, should be read in conjunction
with these interim financial statements. The balance sheet at December 31, 2002
has been derived from the audited financial statements at that date but does not
include all of the information and footnotes required by accounting principles
generally accepted in the United States for complete financial statements.
Certain amounts in the prior period consolidated financial statements have been
reclassified to conform with the current year presentation.
1st Source accounts for its stock-based compensation plans under the
recognition and measurement principles provided in Accounting Principles Board
Opinion (APB) No. 25, "Accounting for Stock Issued to Employees", and related
Interpretations. Stock-based employee compensation expense for the Executive
Incentive Plan and the Restricted Stock Award Plan is recognized in net income.
For the stock option plans, the stock option agreement, and the Employee Stock
Purchase Plan, no compensation expense is recognized in net income as all
options granted under these plans had an exercise price equal to the market
value of the underlying common stock on the date of grant.
Statement of Financial Accounting Standards (SFAS) No. 123, "Accounting for
Stock-Based Compensation," as amended by SFAS No.148, requires pro forma
disclosures of net income and earnings per share for companies not adopting its
fair value accounting method for stock-based employee compensation. The pro
forma disclosures presented in Note 5 - Stock-Based Compensation use the fair
value method of SFAS No. 123 to measure compensation expense for stock-based
employee compensation plans.
Effective July 1, 2003, 1st Source fully adopted SFAS No. 91, "Accounting
for Nonrefundable Fees and Costs Associated with Originating or Acquiring Loans
and Initial Direct Costs of Leases." SFAS No. 91 deals with the timing of
recognition of loan and lease origination fees and certain expenses and requires
that such fees and costs be deferred and amortized over the estimated life of
the asset. With the adoption of SFAS No. 91, 1st Source began deferral of such
origination fees and associated expenses prospectively for all loans and leases
originated after June 30, 2003. The effects of this prospective adoption
increased net income in the third quarter by $0.41 million for the three month
and nine month periods ended September 30, 2003. The adoption of SFAS No. 91
increased earnings per share by $0.02 for the three month and nine month periods
ended September 30, 2003.
6
Note 2. Recent Accounting Pronouncements
CONSOLIDATION OF VARIABLE INTEREST ENTITIES: In January 2003, the Financial
Accounting Standards Board (FASB) issued FASB Interpretation No. (FIN) 46,
"Consolidation of Variable Interest Entities." The objective of this
interpretation is to provide guidance on how to identify a variable interest
entity (VIE) and determine when the assets, liabilities, noncontrolling
interests, and results of operations of a VIE need to be included in a company's
consolidated financial statements. A company that holds variable interests in an
entity will need to consolidate the entity if the company's interest in the VIE
is such that the company will absorb a majority of the VIE's expected losses
and/or receive a majority of the entity's expected residual returns, if they
occur. FIN 46 also requires additional disclosures by primary beneficiaries and
other significant variable interest holders. FIN 46, as originally issued, was
effective immediately for entities created after January 21, 2003, and applied
to previously existing entities in quarters beginning after June 15, 2003. On
October 9, 2003, FASB issued a Staff Position deferring the effective date for
variable interests held prior to February 1, 2003, however, early adoption is
permitted.
1st Source early adopted FIN 46 on July 1, 2003. 1st Source determined that
it is not the primary beneficiary of its investment in 1st Source Capital Trust
I, II, and III (the Trusts) and was required to de-consolidate the Trusts. 1st
Source owns the common stock of the Trusts, which issued mandatorily redeemable
preferred capital securities to third party investors. The Trusts' only assets,
which totaled $56.44 million at July 1, 2003, and September 30, 2003, consisted
of debentures which were acquired by the Trusts using proceeds from the issuance
of the preferred securities and common stock. As a result of the
de-consolidation, 1st Source will include the debentures in "subordinated notes"
and 1st Source's equity interest in the Trusts will be included in "other
assets" on the balance sheet.
Further, in July 2003, the Board of Governors of the Federal Reserve System
issued a supervisory letter instructing bank holding companies to continue to
include the trust preferred securities in their Tier I capital for regulatory
capital purposes until notice is given to the contrary. The Federal Reserve
intends to review the regulatory implications of any accounting treatment
changes and, if necessary or warranted, provide further appropriate guidance.
There can be no assurance that the Federal Reserve will continue to allow
institutions to include trust preferred securities in Tier I capital for
regulatory capital purposes. As of September 30, 2003, assuming 1st Source was
not allowed to include the $54.75 million in trust preferred securities issued
by the Trusts in Tier 1 capital, 1st Source would still be well capitalized per
regulatory guidelines.
As of September 30, 2003 and December 31, 2002, 1st Source had a variable
interest in a securitization trust. This securitization trust is a qualifying
special purpose entity, which is exempt from the consolidation requirements of
FIN 46.
GUARANTEES: In November 2002, the FASB issued FIN 45, "Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others." This interpretation expands the
disclosures to be made by a guarantor in its financial statements about its
obligations under certain guarantees and requires the guarantor to recognize a
liability for the fair value of an obligation assumed under a guarantee. The
initial recognition and measurement provisions of FIN 45 are applicable on a
prospective basis to guarantees issued or modified after December 31, 2002. The
disclosure requirements of FIN 45 are effective for financial statements of
interim or annual periods ending after December 15, 2002, and were adopted in
1st Source's 2002 Annual Report. Implementation of the remaining provisions of
FIN 45 during the first quarter of 2003 did not have a significant impact on the
financial statements.
7
AMENDMENT OF STATEMENT 133 ON DERIVATIVE INSTRUMENTS AND HEDGING
ACTIVITIES: In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement
133 on Derivative Instruments and Hedging Activities." This statement amends and
clarifies financial accounting and reporting for derivative instruments,
including certain derivative instruments embedded in other contracts. The
provisions in this Statement require that contracts with comparable
characteristics be accounted for similarly. The provisions of SFAS No. 149 are
effective for contracts entered into or modified after June 30, 2003, and for
hedging relationships designated after June 30, 2003. The requirements of SFAS
No. 149 do not have a material impact on the results of operations or financial
position of 1st Source.
ACCOUNTING FOR CERTAIN FINANCIAL INSTRUMENTS WITH CHARACTERISTICS OF BOTH
LIABILITIES AND EQUITY: In May 2003, the FASB issued SFAS No. 150, "Accounting
for Certain Financial Instruments with Characteristics of both Liabilities and
Equity." This Statement establishes standards on the classification and
measurement of certain financial instruments with characteristics of both
liability and equity. SFAS No. 150 is effective for all financial instruments
entered into or modified after May 31, 2003, and to all other instruments that
exist as of the beginning of the first interim period beginning after June 15,
2003. The requirements of SFAS No. 150 do not have a material impact on the
results of operations or financial position of 1st Source.
Note 3. Reserve for Loan Losses
The reserve for loan losses is maintained at a level believed to be
adequate by management to absorb probable losses inherent in the loan portfolio.
The determination of the reserve requires significant judgment reflecting
management's best estimate of probable loan losses related to specifically
identified loans as well as probable losses in the remainder of the various loan
portfolios. The methodology for assessing the appropriateness of the reserve
consists of several key elements, which include: specific reserves for
identified special attention loans (classified loans and leases and internal
watch list credits), percentage allocations for special attention loans without
specific reserves, formula reserves for each business lending division portfolio
including a higher percentage reserve allocation for special attention loans
without a specific reserve and reserves for pooled homogenous loans.
Management's evaluation is based upon a continuing review of these portfolios,
estimates of future customer performance and collateral values and disposition,
all of which are subject to judgment and will change.
Note 4. Financial Instruments with Off-Balance-Sheet Risk
To meet the financing needs of its customers, 1st Source and its
subsidiaries are parties to financial instruments with off-balance-sheet risk in
the normal course of business. These off-balance-sheet financial instruments
include commitments to originate, purchase and sell loans and standby letters of
credit. The instruments involve, to varying degrees, elements of credit and
interest rate risk in excess of the amount recognized in the consolidated
statements of financial condition. 1st Source's exposure to credit loss in the
event of nonperformance by the other party to the financial instruments for loan
commitments and standby letters of credit is represented by the dollar amount of
those instruments. 1st Source uses the same credit policies and collateral
requirements in making commitments and conditional obligations as it does for
on-balance-sheet instruments.
Trustcorp Mortgage Company and 1st Source Bank (Bank), subsidiaries of 1st
Source, grant mortgage loan commitments to borrowers, subject to normal loan
underwriting standards. The interest rate risk associated with these loan
commitments is managed by entering into contracts for future deliveries of
loans. Loan commitments generally have fixed expiration dates or other
termination clauses and may require payment of a fee. Since many of the
commitments are expected to expire without being drawn upon, the total
commitment amounts do not necessarily represent future cash requirements.
8
Letters of credit are conditional commitments issued by 1st Source to
guarantee the performance of a customer to a third party. The credit risk
involved and collateral obtained in issuing letters of credit is essentially the
same as that involved in extending loan commitments to customers.
As of September 30, 2003 and December 31, 2002, 1st Source had commitments
outstanding to originate and purchase mortgage loans aggregating $274.15 million
and $364.00 million, respectively. Outstanding commitments to sell mortgage
loans aggregated $133.06 million at September 30, 2003 and $240.00 million at
December 31, 2002. Standby letters of credit totaled $103.54 million and $117.21
million at September 30, 2003 and December 31, 2002, respectively. Standby
letters of credit have terms ranging from six months to one year.
Note 5. Stock-Based Compensation
The following pro forma information presents net income and earnings per
share for the three and nine months ended September 30, 2003 and 2002 as if the
fair value method of SFAS No. 123, "Accounting for Stock-Based Compensation," as
amended by SFAS No. 148, had been used to measure compensation cost for
stock-based compensation plans. For the purposes of these pro forma disclosures,
the estimated fair value of stock options and restricted stock awards is
amortized to expense over the related vesting periods.
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30 SEPTEMBER 30
-------------------------- -------------- --------------
2003 2002 2003 2002
-------------------------- -------------- --------------
Net income, as reported (000's) $ 4,643 $ 2,101 $13,793 $ 9,076
Add: Stock-based employee compensation expense
included in reported net income, net of related
tax effects 450 -- 760 --
Deduct: Total stock-based employee compensation
expense determined under fair value based method
for all awards, net of related tax effects
(481) (66) (960) (269)
-------- ------- -------- --------
Pro forma net income $ 4,612 $ 2,035 $ 13,593 $ 8,807
========= ========= ========== =========
Earnings per share:
Basic--as reported $0.23 $0.10 $0.66 $0.43
===== ===== ===== =====
Basic--pro forma $0.22 $0.10 $0.65 $0.42
===== ===== ===== =====
Diluted--as reported $0.22 $0.10 $0.65 $0.43
===== ===== ===== =====
Diluted--pro forma $0.22 $0.09 $0.64 $0.41
===== ===== ===== =====
ITEM 2.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Except for historical information contained herein, the matters discussed
in this document express "forward-looking statements." Generally, the words
"believe," "expect," "intend," "estimate," "anticipate," "project," "will" and
9
similar expressions indicate forward-looking statements. Those statements,
including statements, projections, estimates or assumptions concerning future
events or performance, and other statements that are other than statements of
historical fact, are subject to material risks and uncertainties. 1st Source
cautions readers not to place undue reliance on any forward-looking statements,
which speak only as of the date made. 1st Source may make other written or oral
forward-looking statements from time to time. Readers are advised that various
important factors could cause 1st Source's actual results or circumstances for
future periods to differ materially from those anticipated or projected in such
forward-looking statements. Such factors include, but are not limited to,
changes in law, regulations or accounting principles generally accepted in the
United States; 1st Source's competitive position within its markets served;
increasing consolidation within the banking industry; unforeseen changes in
interest rates; unforeseen changes in loan prepayment assumptions; unforeseen
downturns in or major events affecting the local, regional or national economies
or the industries in which 1st Source has credit concentrations; and other
matters discussed in 1st Source's filings with the SEC, including its Annual
Report on Form 10-K for 2002, which filings are available from the SEC. 1st
Source undertakes no obligation to publicly update or revise any forward-looking
statements.
The following management's discussion and analysis is presented to provide
information concerning the financial condition of 1st Source as of September 30,
2003, as compared to December 31, 2002, and the results of operations for the
nine months ended September 30, 2003 and 2002. This discussion and analysis
should be read in conjunction with 1st Source's consolidated financial
statements and the financial and statistical data appearing elsewhere in this
report and 1st Source's 2002 Annual Report.
FINANCIAL CONDITION
1st Source's assets at September 30, 2003 were $3.21 billion, down 5.91%
from December 31, 2002. Total loans were down 7.29% and total deposits decreased
8.10% over the comparable figures at the end of 2002.
Nonperforming assets at September 30, 2003, were $46.00 million compared to
$64.12 million at December 31, 2002, a decrease of 28.25%. Nonperforming assets
decreased due to the liquidation of repossessions and a decrease in construction
equipment non-accrual loans, offset by an increase in aircraft non-accrual
loans. At September 30, 2003, nonperforming assets were 2.20% of net loans and
leases compared to 2.65% at December 31, 2002.
Other assets were as follows:
(Dollars in Thousands)
September 30, December 31,
2003 2002
--------------- --------------
Other Assets:
Corporate owned life insurance cash surrender value 27,087 26,286
Acccrued interest receivable 13,164 14,786
Originated and purchased mortgage servicing rights 22,839 20,757
Other real estate 4,508 4,362
Repossessions 9,369 21,343
Intangible assets 26,386 27,895
All other assets 23,544 26,634
--------------- --------------
Total other assets $ 126,897 $ 142,063
=============== ==============
10
CAPITAL
As of September 30, 2003, total shareholders' equity was $318.87 million,
up 3.05% from the $309.43 million at December 31, 2002. The 1st Source
equity-to-assets ratio was 9.95% as of September 30, 2003, compared to 9.08% at
December 31, 2002. Book value per common share rose to $15.13 at September 30,
2003, up from $14.77 at December 31, 2002.
1st Source declared and paid dividends per common share of $0.09 during
the third quarter of 2003. The dividend payout ratio, representing dividends per
share divided by diluted earnings per share, was 40.91% for the third quarter of
2003. The dividend payout is continually reviewed by management and the Board of
Directors.
The banking regulators have established guidelines for leverage capital
requirements, expressed in terms of Tier 1 or core capital as a percentage of
average assets, to measure the soundness of a financial institution. These
guidelines require all banks to maintain a minimum leverage capital ratio of
4.00% for adequately capitalized banks and 5.00% for well-capitalized banks. 1st
Source's leverage capital ratio was 10.54% at September 30, 2003.
The Federal Reserve Board has established risk-based capital guidelines
for U.S. banking organizations. The guidelines establish a conceptual framework
calling for risk weights to be assigned to on and off-balance sheet items in
arriving at risk-adjusted total assets, with the resulting ratio compared to a
minimum standard to determine whether a bank has adequate capital. The minimum
standard risk-based capital ratios effective in 2003 are 4.00% for adequately
capitalized banks and 6.00% for well-capitalized banks for Tier 1 risk-based
capital and 8.00% and 10.00%, respectively, for total risk-based capital. 1st
Source's Tier 1 risk-based capital ratio on September 30, 2003 was 13.00% and
the total risk-based capital ratio was 14.35%.
LIQUIDITY AND INTEREST RATE SENSITIVITY
The Bank's liquidity is monitored and closely managed by the
Asset/Liability Committee (ALCO), whose members are comprised of the Bank's
senior management. Asset and liability management includes the management of
interest rate sensitivity and the maintenance of an adequate liquidity position.
The purpose of interest rate sensitivity management is to stabilize net interest
income during periods of changing interest rates.
Liquidity management is the process by which the Bank ensures that adequate
liquid funds are available to meet financial commitments on a timely basis.
Financial institutions must maintain liquidity to meet day-to-day requirements
of depositors and borrowers, take advantage of market opportunities and provide
a cushion against unforeseen needs.
Liquidity of the Bank is derived primarily from core deposits, principal
payments received on loans, the sale and maturity of investment securities, net
cash provided by operating activities, and access to other funding sources. The
most stable source of liability funded liquidity is deposit growth and retention
of the core deposit base. The principal source of asset funded liquidity is
available for sale investment securities, cash and due from banks, federal funds
sold, securities purchased under agreements to resell and loans and interest
bearing deposits with other banks maturing within one year. Additionally,
liquidity is provided by bank lines of credit, repurchase agreements and the
ability to borrow from the Federal Reserve Bank and Federal Home Loan Bank.
Close attention is given to various interest rate sensitivity gaps and
interest rate spreads. Maturities of rate sensitive assets are relative to the
maturities of rate sensitive liabilities and interest rate forecasts. At
September 30, 2003, the consolidated statement of financial condition was rate
sensitive by $50.00 million more assets than liabilities scheduled to reprice
within one year or approximately 1.03%.
11
RESULTS OF OPERATIONS
Net income for the three and nine month periods ended September 30, 2003,
was $4.64 million and $13.79 million, respectively, compared to $2.10 million
and $9.08 million for the same periods in 2002. Diluted net income per common
share was $0.22 and $0.65, respectively, for the three and nine month periods
ended September 30, 2003, compared to $0.10 and $0.43 for the same periods in
2002. Return on average common shareholders' equity was 5.86% for the nine
months ended September 30, 2003, compared to 3.90% in 2002. The return on total
average assets was 0.56% for the nine months ended September 30, 2003 compared
to 0.35% in 2002.
The increase in net income for the nine months ended September 30, 2003
over the first nine months of 2002, was primarily the result of a $16.80 million
decrease in the provision for loan losses and a $12.98 million increase in
mortgage banking income, offset by an $11.80 million decrease in net interest
income, a $2.95 million increase in salaries and employee benefit expense and a
$2.76 million increase in loan collection and repossession expense. Details of
the changes in the various components of net income are further discussed below.
NET INTEREST INCOME
The taxable equivalent net interest income for the three months ended
September 30, 2003, was $25.29 million, a decrease of 15.44% over the same
period in 2002. The net interest margin on a fully taxable equivalent basis' was
3.33% for the three months ended September 30, 2003 compared to 3.85% for the
three months ended September 30, 2002. The taxable equivalent net interest
income for the nine-month period ended September 30, 2003, was $80.10 million, a
decrease of 12.93% over 2002, resulting in a net yield of 3.57%, compared to
3.92% for the same period in 2002. As a result of the adoption of SFAS No. 91,
the impact on net interest margin on a fully taxable equivalent basis was a
reduction of 10 basis points for the three months ended September 30, 2003, and
3 basis points for the nine months ended September 30, 2003.
Total average earning assets decreased 2.12% and 4.37%, respectively, for
the three and nine-month periods ended September 30, 2003, over the comparative
periods in 2002. Average loan outstandings decreased 10.83% and 10.91% for the
three and nine-month periods, compared to the same periods in 2002, due
primarily to decreased loan volume in commercial loans secured by aircraft and
construction equipment. Total average investment securities increased 10.53% and
5.26% for the three and nine-month periods over one year ago due to an increase
12
in United States treasury, municipal and other securities. For the nine month
period, average mortgages held for sale increased 12.62%, as demand for mortgage
loans was greater in the third quarter of 2003 due to the interest rate
environment. Other investments, which include federal funds sold, time deposits
with other banks and trading account securities, increased for both the three
and nine month periods over one year ago as loan funding needs decreased. The
taxable equivalent yields on total average earning assets were 5.23% and 6.39%
for the three-month periods ended September 30, 2003 and 2002, respectively, and
5.64% and 6.57% for the nine-month periods ended September 30, 2003 and 2002,
respectively.
Average interest bearing deposits decreased 8.47% and 9.55% for the three
and nine month periods, respectively, over the same periods in 2002. The rate on
average interest-bearing deposits was 2.21% and 2.90% for the three-month
periods ended September 30, 2003 and 2002 and 2.39% and 3.06% for the nine-month
periods ended September 30, 2003 and 2002 due to a decrease in public funds and
brokered deposits. These higher cost deposits were not pursued due to lower
funding needs. The rate on average interest-bearing funds was 2.32% and 2.93%
for the three months ended September 30, 2003 and 2002, respectively. For the
nine months ended September 30, 2003 and 2002, the rate on average interest
bearing funds was 2.49% and 3.03%, respectively.
The following table sets forth consolidated information regarding average
balances and rates.
DISTRIBUTION OF ASSETS, LIABILITIES AND SHAREHOLDERS' EQUITY
INTEREST RATES AND INTEREST DIFFERENTIAL
(DOLLARS IN THOUSANDS)
THREE MONTHS ENDED SEPTEMBER 30,
----------------------------------------
2003 2002
------------------------------- -------------------------------
Interest Interest
Average Income/ Yield/ Average Income/ Yield/
Balance Expense Rate Balance Expense Rate
------------------------------- -------------------------------
ASSETS:
Investment securities:
Taxable $ 528,971 $ 4,205 3.15% $ 476,951 $ 5,122 4.26%
Tax exempt (1) 167,492 2,053 4.86% 153,147 2,144 5.55%
Mortgages - Held for Sale 120,369 1,738 5.73% 118,269 2,041 6.85%
Net loans (2 & 3) 2,069,261 31,399 6.02% 2,320,707 40,272 6.88%
Other investments 127,901 337 1.05% 10,263 41 1.58%
------------------------------- -------------------------------
Total Earning Assets 3,013,994 39,732 5.23% 3,079,337 49,620 6.39%
Cash and due from banks 84,814 87,905
Reserve for loan losses (63,478) (57,959)
Other assets 247,155 287,278
------------- -----------
Total $ 3,282,485 $ 3,396,561
============= ===========
LIABILITIES AND SHAREHOLDERS' EQUITY:
Interest bearing deposits $ 2,143,112 $ 11,919 2.21% $ 2,341,369 $ 17,129 2.90%
Short-term borrowings 248,642 1,385 2.21% 274,765 1,586 2.29%
Subordinated notes 56,444 961 6.75% 44,750 789 7.00%
Long-term debt 17,062 182 4.23% 11,718 213 7.21%
------------------------------- -------------------------------
Total Interest Bearing Liabilities 2,465,260 14,447 2.32% 2,672,602 19,717 2.93%
Noninterest bearing deposits 447,968 358,419
Other liabilities 53,171 54,089
Shareholders' equity 316,086 311,451
------------- -----------
Total $ 3,282,485 $ 3,396,561
============= ===========
--------- --------
Net Interest Income $ 25,285 $ 29,903
========= ========
Net Yield on Earning Assets on a Taxable
----- -------
Equivalent Basis 3.33% 3.85%
===== =======
13
NINE MONTHS ENDED SEPTEMBER 30,
------------------------------------
2003 2002
--------------------------------- -----------------------------
Interest Interest
Average Income/ Yield/ Average Income/ Yield/
Balance Expense Rate Balance Expense Rate
--------------------------------- -----------------------------
ASSETS:
Investment securities:
Taxable $ 508,667 $ 13,449 3.53% $ 490,808 $ 16,445 4.48%
Tax exempt (1) 165,753 6,304 5.08% 149,909 6,683 5.96%
Mortgages - Held for Sale 127,735 5,582 5.84% 113,419 5,530 6.52%
Net loans (2 & 3) 2,110,811 100,417 6.36% 2,369,284 125,260 7.07%
Other investments 88,584 782 1.18% 15,324 239 2.09%
--------------------------------- ----------------------------
Total Earning Assets 3,001,550 126,534 5.64% 3,138,744 154,157 6.57%
Cash and due from banks 87,313 88,538
Reserve for loan losses (62,523) (58,515)
Other assets 259,003 285,268
-------------- ------------
Total $ 3,285,343 $ 3,454,035
============== ============
LIABILITIES AND SHAREHOLDERS' EQUITY:
Interest bearing deposits $ 2,176,884 $ 38,877 2.39% $ 2,406,845 $ 55,035 3.06%
Short-term borrowings 244,511 4,148 2.27% 280,159 4,114 1.96%
Subordinated notes 55,321 2,842 6.87% 44,750 2,374 7.09%
Long-term debt 17,286 566 4.38% 11,824 637 7.20%
-------------------------------- ----------------------------
Total Interest Bearing Liabilities 2,494,002 46,433 2.49% 2,743,578 62,160 3.03%
Noninterest bearing deposits 422,943 344,330
Other liabilities 53,770 55,373
Shareholders' equity 314,628 310,754
-------------- ------------
Total $ 3,285,343 $ 3,454,035
============== ============
--------- --------
Net Interest Income $ 80,101 $ 91,997
========= ========
Net Yield on Earning Assets on a Taxable
----- -----
Equivalent Basis 3.57% 3.92%
===== =====
(1) Interest income includes the effects of taxable equivalent adjustments,
using a 35% rate. Tax equivalent adjustments for the three months period were
$668 in 2003 and $681 in 2002 and for the nine months period were $2,038 in 2003
and $2,128 in 2002.
(2) Loan income includes fees on loans for the three months period of $528 in
2003 and $1,222 in 2002 and for the nine months period of $3,102 in 2003 and
$3,779 in 2002. Loan income also includes the effects of taxable equivalent
adjustments, using 35% rate for 2003 and 2002. The tax equivalent adjustments
for the three months period were $73 in 2003 and $80 in 2002 and for the nine
months period were $223 in 2003 and $234 in 2002.
(3) For purposes of this computation, nonaccruing loans are included in the
daily average loan amounts outstanding.
14
PROVISION AND RESERVE FOR LOAN LOSSES
The provision for loan losses for the three-month periods ended September
30, 2003, and 2002 was $4.08 million and $8.77 million, respectively, and $14.53
million and $31.32 million for the nine-month periods ended September 30, 2003
and 2002, respectively. Net charge-offs of $4.05 million were recorded for the
third quarter 2003, compared to $7.24 million for the same quarter a year ago.
Year-to-date, net charge-offs of $10.53 million have been recorded in 2003,
compared to net charge-offs of $30.00 million through September 2002.
In the third quarter 2003, 1st Source continued to experience moderate
improvement in credit quality. Overall delinquencies continued to decrease, even
though there has been a slight increase in delinquencies in the construction
equipment loan portfolio. Factors attributing to these delinquencies include bad
weather and the effects of delayed payments from state and municipal governments
to 1st Source customers. Loan delinquencies were down to 1.14% on September 30,
2003, as compared to 1.48% on September 30, 2002, and 1.80% at the end of 2002.
Third quarter 2003 net charge-offs increased slightly as compared to second
quarter 2003. The reserve for loan losses as a percentage of loans outstanding
at the end of the period continued to increase due primarily to reduction of the
loan portfolio. A summary of loan loss experience during the three-month and
nine-month periods ended September 30, 2003 and 2002 is provided below.
Summary of Reserve for Loan Losses
(Dollars in Thousands)
Three Months Ended Nine Months Ended
September 30, September 30,
----------------------------------------------------------------------
2003 2002 2003 2002
--------------- --------------- -------------- ---------------
Reserve for loan losses - beginning balance $ 63,194 $ 57,420 $ 59,218 $ 57,624
Charge-offs (4,931) (7,910) (13,054) (32,345)
Recoveries 881 671 2,529 2,343
--------------- --------------- -------------- ---------------
Net charge-offs (4,050) (7,239) (10,525) (30,002)
Provision for loan losses 4,078 8,765 14,529 31,324
--------------- --------------- -------------- ---------------
Reserve for loan losses - ending balance $ 63,222 $ 58,946 $ 63,222 $ 58,946
=============== =============== ============== ===============
Loans outstanding at end of period $ 2,020,621 $ 2,263,357 $ 2,020,621 $ 2,263,357
Average loans outstanding during period 2,069,261 2,320,707 2,110,811 2,369,284
Reserve for loan losses as a percentage of
loans outstanding at end of period 3.13% 2.60% 3.13% 2.60%
Ratio of net charge-offs during period to
average loans outstanding 0.78% 1.24% 0.67% 1.69%
15
NONPERFORMING ASSETS
Nonperforming assets were as follows:
(Dollars in thousands)
September 30, December 31, September 30,
2003 2002 2002
------------- ------------ --------------
Loans past due 90 days or more $ 353 $ 154 $ 309
Non-accrual loans 32,865 35,664 54,685
Other real estate 3,111 4,362 4,873
Repossessions 9,369 21,343 19,536
Equipment owned under operating leases 305 2,594 1,888
------------- ------------- -------------
Total nonperforming assets $ 46,003 $ 64,117 $ 81,291
============= ============= =============
Nonperforming assets totaled $46.00 million at September 30, 2003,
decreasing 28.25% from $64.12 million at December 31, 2002 and decreasing 43.41%
from $81.29 million at September 30, 2002. The decrease during the third quarter
was primarily related to the liquidation of repossessions and a decrease in
aircraft and construction equipment non-accrual loans. Nonperforming assets as a
percentage of total loans and leases improved to 2.20% at September 30, 2003
from 2.65% at December 31, 2002 and 3.44% at September 30, 2002.
As of September 30, 2003, the Bank had a $4.01 million standby letter of
credit outstanding which supported bond indebtedness of a customer. Due to the
current financial condition of the customer, if this standby letter of credit is
funded, the Bank likely will foreclose on the real estate securing the
customer's reimbursement obligation. This likely will result in an increase in
other real estate for approximately the same amount as the funding.
Repossessions consist primarily of aircraft collateral, $6.77 million of
the $9.37 million as of September 30, 2003. These aircraft primarily have come
from defaulted loans to air cargo operators and aircraft dealers. There are also
automobiles, light trucks, construction equipment and environmental equipment in
repossessed assets at September 30, 2003. At the time of repossession, the
recorded amount of the loan is written down, if necessary, to the estimated
value of the equipment or vehicle by a charge to the reserve for loan losses,
unless the equipment is in the process of immediate sale. Any subsequent
write-downs are included in non-interest expense.
Repossessed assets are valued by the sales and credit officers or, in
certain circumstances, an independent third party. The estimated value generally
is determined on an orderly liquidation basis based on a variety of available
sources. These sources typically include vehicle and equipment dealers,
valuation guides and other third parties, including appraisers. A number of
variables can lead to a decrease in value after the asset is repossessed. These
include deterioration in the market value, discovery of new or additional
information about the asset, and validity or invalidity of other liens against
the asset. Valuation adjustments and net gains upon disposition of repossessions
for the three-month period ended September 30, 2003 totaled $0.75 million as
compared to the valuation adjustments and net losses for the three-month period
ended September 30, 2002 of $0.15 million. For the nine month period ended
September 30, 2003 and 2002, valuation adjustments and net losses totaled $1.97
million and $0.85 million, respectively.
16
SUPPLEMENTAL LOAN INFORMATION AS OF SEPTEMBER 30, 2003
(Dollars in thousands) Other real estate
Loan and Year-to-date
outstandings Non-accrual repossessions net credit losses
--------------- ---------------- --------------------- ------------------
Commercial and agricultural loans $ 406,096 $ 4,000 $ - $ 434
Truck and automobile financings 480,196 6,548 639 1,745
Aircraft financing 273,149 15,232 6,771 6,571
Construction equipment financing 241,945 4,613 1,876 2,983
Loans secured by real estate 522,852 1,700 3,111 107
Consumer loans 96,383 772 83 656
--------------- ---------------- --------------------- ------------------
Total $2,020,621 $ 32,865 $ 12,480 $ 12,496
=============== ================ ===================== ==================
For financial statements purposes, non-accrual loans are included in loan
outstandings, whereas repossessions and other real estate are included in other
assets. Net credit losses include net charge-offs on loans and valuation
adjustments and gains and losses on disposition of repossessions and defaulted
operating leases.
NON-INTEREST INCOME
Non-interest income for the three-month periods ended September 30, 2003
and 2002 was $18.85 million and $15.61 million, respectively, and $60.81 million
and $52.23 million for the nine-month periods ended September 30, 2003 and 2002,
respectively. The predominant factor behind the growth in 2003 was mortgage loan
servicing and sale income, which reached near record levels in the first nine
months of 2003.
(Dollars in Thousands) Three Months Ended Nine Months Ended
September 30, September 30,
------------------------ -------------------------
2003 2002 2003 2002
------------------------ -------------------------
Noninterest Income:
Trust fees $ 2,643 $ 2,606 $ 8,019 $ 7,927
Service charges on deposit accounts 4,010 3,833 11,656 10,988
Mortgage banking 5,440 (1,895) 12,626 (356)
Securitization income 841 1,248 2,438 3,788
Insurance commissions 800 626 2,228 1,683
Equipment rental income 6,217 7,157 19,443 21,901
Other income 2,037 2,634 8,090 7,390
Investment securities and other investment losses (3,134) (600) (3,689) (1,088)
----------- ----------- ----------- -----------
Total Noninterest Income $ 18,854 $ 15,609 $ 60,811 $ 52,233
=========== =========== =========== ===========
The increase in mortgage banking revenue on both a year-over-year and a
quarter-over-quarter basis continued to be driven primarily by heavy origination
volumes and higher gains on sales of loans into the secondary market.
Origination volumes remained high even though interest rates for new loans
climbed slightly during the quarter. The carrying value of mortgage servicing
rights was strongly impacted in the third quarter of 2003 due to rising interest
rates, which resulted in a recovery of mortgage servicing rights impairment in
the amount of $2.82 million for the three months ended September 30, 2003, as
compared to mortgage service impairment of $4.10 million, for the three months
ended September 30, 2002. For the nine months ended September 30, 2003 and 2002,
mortgage servicing rights impairment was $2.60 million and $5.27 million,
respectively.
17
The nine months ended September 30, 2003, saw increases in trust fees,
service charges on deposit accounts and insurance commission income. Equipment
rental income decreased due to the decrease in the operating lease portfolio.
Other income increased due to increased trading security income. Trading
security income may be adversely affected by an increase in interest rates.
During the third quarter of 2003, investment security losses increased due to
the effects of market value adjustments of venture capital investments and an
impairment charge relating to securitized loans.
1st Source recorded an impairment charge of $2.47 million in the third
quarter of 2003 relating to the estimated value of its retained interest in the
1998 1st Source Master Trust Securitization (Master Trust). The Bank is the
originator and servicer of aircraft and auto rental loans owned by the Master
Trust. As reported previously, the Bank has begun allowing its $400 million
revolving loan securitization to liquidate. As of September 30, 2003, there were
$268.73 million outstanding auto and aircraft loans in the Master Trust compared
to $309.06 million at June 30, 2003 and $387.79 million at December 31, 2002.
The agreements governing the Master Trust provide for a cash reserve equal
to 7.5% of the outstanding loans to cover first losses, if any, on the
portfolio. Any excess cash above the required reserve is payable to the Bank on
a monthly basis. The amount of the required reserve has declined coincident with
the decline in the outstandings of the portfolio and the Master Trust has begun
to accumulate excess cash. The first payment of excess cash due and payable to
the Bank was scheduled for September 15, 2003.
However, on September 12, 2003, the credit insurer of the Master Trust's
indebtedness to noteholders delivered a notice to the trustee of the Master
Trust directing the trustee to retain the excess cash in the Master Trust. The
stated basis for the directive was the credit insurer's belief that an "Early
Amortization Event" (as defined in the Master Trust agreements) had occurred
citing purported deficiencies in the loan servicing practices of the Bank. As a
consequence, the trustee did not pay the excess cash due and payable on
September 15, 2003, and continues to retain all excess cash in the Master Trust.
The trustee has not, however, taken any position as to the merits of whether an
Early Amortization Event has occurred.
After a preliminary investigation, the Bank concluded that no Early
Amortization Event has occurred. Nevertheless, the Bank engaged the services of
an independent accounting firm to provide an independent assessment of the
manner in which the Bank serviced certain loans in the Master Trust. The parties
are awaiting the report of the independent accounting firm. The Bank cannot say
if or when the trustee will commence payments of excess cash to the Bank.
The model used to estimate the value of the Bank's retained interest asset
assumes monthly payments of the excess cash. Given the uncertainty of the timing
of the payments of excess cash, management believed it was prudent to assume
that payments of excess cash would be received upon completion of the
liquidation of the Master Trust. The change in assumption led to the $2.47
million impairment charge.
18
NON-INTEREST EXPENSE
Non-interest expense for the three-month periods ended September 30, 2003
and 2002 was $32.71 million and $33.51 million, respectively, and $104.78
million and $99.42 million for the nine-month periods ended September 30, 2003
and 2002, respectively. The increase in non-interest expense in 2003 was
primarily due to increased salaries and employee benefits and increased loan
collection and repossession expense.
(Dollars in Thousands) Three Months Ended Nine Months Ended
September 30, September 30,
------------------------ --------------------------
2003 2002 2003 2002
------------------------ --------------------------
Noninterest Expense:
Salaries and employee benefits $ 17,195 $ 16,792 $ 52,732 $ 49,787
Net occupancy expense 1,726 1,745 5,375 5,125
Furniture and equipment expense 2,601 2,537 7,919 7,892
Depreciation - leased equipment 4,789 5,744 15,197 17,857
Supplies and communication 1,532 1,614 4,601 4,875
Business development and marketing expense 978 314 2,542 1,924
Intangible asset amortization 647 625 2,088 1,463
Repossession valuation adjustment,
loan collection and repossession expense 291 1,224 5,861 3,099
Other expense 2,945 2,917 8,466 7,398
----------- ----------- ------------ -----------
Total Noninterest Expense $ 32,704 $ 33,512 $ 104,781 $ 99,420
=========== =========== ============ ===========
Salaries and employee benefits increased on a year-over-year basis caused
by increased mortgage commissions of $1.08 million, incentives of $0.54 million
and group insurance expenses of $0.62 million. Due to the July 1, 2003, adoption
of SFAS No. 91, $1.40 million in salaries and employee benefits which were
directly related to the cost of loan originations during the third quarter of
2003 were deferred to amortize over the life of the loan. Loan collection and
repossession expense decreased during the third quarter, but continued to remain
up substantially for the first nine months of 2003 overall as 1st Source
continues to work through problem loans and liquidate repossessions.
Net occupancy expense, furniture and equipment expense and supplies and
communication, all remained comparable to 2002 levels. Business development and
marketing expense increased due to increased contribution expense in the third
quarter of 2003. Leased equipment depreciation decreased due to the decrease in
the operating lease portfolio. Intangible asset amortization increased for the
nine months ended September 30, 2003, due to the September 2002 reclassification
of certain goodwill to unidentifiable intangible assets in accordance with SFAS
No. 147, Acquisitions of Certain Financial Institutions. Other expenses
increased primarily due to higher insurance costs and losses on the disposition
of leasehold improvements at three branches that were closed as of March 31,
2003.
INCOME TAXES
The provision for income taxes for the nine months ended September 30,
2003, was $5.55 million, compared to $2.05 million for the comparable period in
2002. The provision for income taxes for the nine months ended September 30,
2003, and 2002, is at a rate which management believes approximates the
effective rate for the year.
19
ITEM 3.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
There have been no material changes in market risks faced by 1st Source
since December 31, 2002. For information regarding 1st Source's market risk,
refer to 1st Source's Annual Report on Form 10-K for the year ended December 31,
2002.
ITEM 4.
CONTROLS AND PROCEDURES
1st Source carried out an evaluation, under the supervision and with the
participation of 1st Source's management, including 1st Source's Chief Executive
Officer and Chief Financial Officer, of the effectiveness of the design and
operation of 1st Source's disclosure controls and procedures pursuant to
Exchange Act Rule 13a-15. Based upon that evaluation, the Chief Executive
Officer and Chief Financial Officer concluded that, at September 30, 2003, 1st
Source's disclosure controls and procedures are effective in accumulating and
communicating to management (including such officers) the information relating
to 1st Source (including its consolidated subsidiaries) required to be included
in 1st Source's periodic SEC filings.
PART II. OTHER INFORMATION
ITEM 1. Legal Proceedings.
1st Source and its subsidiaries are defendants in various legal
proceedings arising in the normal course of business. In the
opinion of management, based upon present information including
the advice of legal counsel, the ultimate resolution of these
proceedings will not have a material effect on 1st Source's
financial condition or results of operations.
ITEM 2. Changes in Securities and Use of Proceeds
None
ITEM 3. Defaults Upon Senior Securities.
None
ITEM 4. Submission of Matters to a Vote of Security Holders.
None
ITEM 5. Other Information.
None
ITEM 6. Exhibits and Reports on Form 8-K.
(a) The following exhibits are filed with this report:
1. Exhibit 31.1 Certification of Chief Executive Officer
required by Rule 13a-14(a).
2. Exhibit 31.2 Certification of Chief Financial Officer
required by Rule 13a-14(a).
3. Exhibit 32.1 Certification pursuant to 18 U.S.C. Section
1350 of Chief Executive Officer.
4. Exhibit 32.2 Certification pursuant to 18 U.S.C. Section
1350 of Chief Financial Officer.
(b) Reports on Form 8-K.
A report on Form 8-K, dated July 28, 2003, was filed under
report item numbers 5 and 9, concerning 1st Source's results
of operations for the quarter ended June 30, 2003.
20
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
1ST SOURCE CORPORATION
DATE OCTOBER 30, 2003
/s/Christopher J. Murphy III
Chairman of the Board, President and CEO
DATE OCTOBER 30, 2003
/s/Larry E. Lentych
Treasurer and Chief Financial Officer
Principal Accounting Officer
21