SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(MARK ONE)
[X] Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934.
For the quarterly period ended: September 30, 2002 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: 0-16667
DNB Financial Corporation
(Exact name of registrant as specified in its charter)
Pennsylvania 23-2222567
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
4 Brandywine Avenue - Downingtown, PA 19335
(Address of principal executive offices and Zip Code)
(610) 269-1040
(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.
[X] Yes [ ] No
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Common Stock ($1.00 Par Value) 1,735,210
(Class) (Shares Outstanding as of
November 14, 2002)
- --------------------------------------------------------------------------------
DNB FINANCIAL CORPORATION AND SUBSIDIARIES
INDEX
PART I - FINANCIAL INFORMATION PAGE NO.
ITEM 1. FINANCIAL STATEMENTS (Unaudited):
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
September 30, 2002 and December 31, 2001 3
CONSOLIDATED STATEMENTS OF OPERATIONS
Three Months Ended September 30, 2002 and 2001 4
CONSOLIDATED STATEMENTS OF OPERATIONS
Nine Months Ended September 30, 2002 and 2001 5
CONSOLIDATED STATEMENTS OF CASH FLOWS
Nine Months Ended September 30, 2002 and 2001 6
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2002 and December 31, 2001 7
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS 11
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES
ABOUT MARKET RISK 23
ITEM 4. CONTROLS AND PROCEDURES 24
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS 25
ITEM 2. CHANGE IN SECURITIES 25
ITEM 3. DEFAULTS UPON SENIOR SECURITIES 25
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF 25
SECURITY HOLDERS
ITEM 5. OTHER INFORMATION 25
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K 25
SIGNATURES 26
CERTIFICATION OF THE CHIEF EXECUTIVE OFFICER 27
CERTIFICATION OF THE CHIEF FINANCIAL OFFICER 28
ITEM 1 - FINANCIAL STATEMENTS (Unaudited)
- ----------------------------------------
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
(Dollars in thousands, except share data) September 30, December 31,
2002 2001
- -------------------------------------------------------------------------------------------
ASSETS
Cash and due from banks .......................................... $ 12,683 $ 11,466
Federal funds sold ............................................... 14,191 7,162
--------- ---------
Total cash and cash equivalents .................................. 26,874 18,628
--------- ---------
Investment securities available for sale, at market value ........ 120,544 135,619
Investment securities held to maturity (market value $29,558
in 2002 and $33,618 in 2001) .................................. 29,082 33,089
Loans, net of unearned income .................................... 193,503 186,050
Allowance for loan losses ........................................ (4,776) (4,809)
--------- ---------
Net loans ........................................................ 188,727 181,241
--------- ---------
Office property and equipment, net ............................... 7,946 7,701
Accrued interest receivable ...................................... 1,630 2,230
Bank owned life insurance ........................................ 5,345 5,203
Deferred income taxes ............................................ 1,039 1,213
Other assets ..................................................... 3,333 4,480
--------- ---------
TOTAL ASSETS ..................................................... $ 384,520 $ 389,404
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES
Non-interest-bearing deposits .................................... $ 45,490 $ 40,355
Interest-bearing deposits:
NOW accounts .................................................. 48,432 46,346
Money market .................................................. 62,783 64,491
Savings ....................................................... 37,458 34,480
Time .......................................................... 93,630 107,711
--------- ---------
Total deposits ................................................... 287,793 293,383
--------- ---------
Borrowings ....................................................... 63,730 63,735
Junior subordinated debentures ................................... 5,000 5,000
--------- ---------
Total borrowings ................................................. 68,730 68,735
--------- ---------
Accrued interest payable ......................................... 1,096 1,455
Other liabilities ................................................ 575 543
--------- ---------
TOTAL LIABILITIES ................................................ 358,194 364,116
--------- ---------
STOCKHOLDERS' EQUITY
Preferred stock, $10.00 par value;
1,000,000 shares authorized; none issued ...................... -- --
Common stock, $1.00 par value;
10,000,000 shares authorized; 1,803,637 and 1,785,595
issued, respectively .......................................... 1,804 1,786
Treasury stock, at cost (62,846 and 14,854 shares, respectively) . (1,279) (266)
Surplus .......................................................... 21,422 21,292
Retained earnings ................................................ 4,633 3,235
Accumulated other comprehensive loss ............................. (254) (759)
--------- ---------
TOTAL STOCKHOLDERS' EQUITY ....................................... 26,326 25,288
--------- ---------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY ....................... $ 384,520 $ 389,404
========= =========
See accompanying notes to consolidated financial statements.
CONSOLIDATED STATEMENTS OF OPERATIONS Three Months Ended
(Dollars in thousands, except share amounts) September 30
2002 2001
------ ------
INTEREST INCOME:
Interest and fees on loans and leases ............ $ 3,653 $ 3,793
Interest on taxable investment securities ........ 1,528 1,952
Interest on tax-free investment securities ....... 47 126
Interest on tax-preferred equity securities ...... 158 153
Interest on Federal funds sold ................... 44 69
---------- ----------
TOTAL INTEREST INCOME ............................... 5,430 6,093
---------- ----------
INTEREST EXPENSE:
Interest on time deposits ........................ 877 1,467
Interest on NOW, money market and savings ........ 464 833
Interest on FHLB advances ........................ 903 799
Interest on Junior subordinated debentures ....... 74 80
Interest on Lease obligations .................... 25 25
Interest on Federal funds purchased .............. 4 1
---------- ----------
TOTAL INTEREST EXPENSE .............................. 2,347 3,205
---------- ----------
Net interest income ................................. 3,083 2,888
Provision for loan losses ........................... -- --
---------- ----------
Net interest income after provision for loan losses . 3,083 2,888
---------- ----------
NON-INTEREST INCOME:
Service charges .................................. 277 255
DNB Advisors ..................................... 124 107
Gains on sales of investment securities .......... 96 43
Increase in cash surrender value of BOLI ......... 44 39
Other ............................................ 168 138
---------- ----------
TOTAL NON-INTEREST INCOME ........................... 709 582
---------- ----------
NON-INTEREST EXPENSE:
Salaries and employee benefits ................... 1,552 1,386
Furniture and equipment .......................... 335 300
Occupancy ........................................ 210 201
Professional and consulting ...................... 145 181
Marketing ........................................ 124 80
Printing and supplies ............................ 65 65
Other ............................................ 395 396
---------- ----------
TOTAL NON-INTEREST EXPENSE .......................... 2,826 2,609
---------- ----------
Income before income taxes .......................... 966 861
Income tax expense .................................. 236 249
---------- ----------
NET INCOME .......................................... $ 730 $ 612
========== ==========
COMMON SHARE DATA:
EARNINGS PER SHARE:
Basic ............................................... $ 0.42 $ 0.34
Diluted ............................................. 0.41 0.34
CASH DIVIDENDS PER SHARE ............................ $ 0.13 $ 0.12
WEIGHTED AVERAGE NUMBER OF COMMON SHARES OUTSTANDING:
Basic ............................................... 1,738,217 1,775,850
Diluted ............................................. 1,787,302 1,795,158
========== =========
See accompanying notes to consolidated financial statements
CONSOLIDATED STATEMENTS OF OPERATIONS Nine Months Ended
(Dollars in thousands, except share amounts) September 30
2002 2001
------ ------
INTEREST INCOME:
Interest and fees on loans and leases ............. $ 10,696 $ 11,644
Interest on taxable investment securities ......... 4,968 5,637
Interest on tax-free investment securities ........ 299 368
Interest on tax-preferred equity securities ....... 479 432
Interest on Federal funds sold .................... 89 411
---------- ----------
TOTAL INTEREST INCOME ................................ 16,531 18,492
---------- ----------
INTEREST EXPENSE:
Interest on time deposits ........................ 2,829 4,789
Interest on NOW, money market and savings ........ 1,393 3,014
Interest on FHLB advances ........................ 2,678 2,227
Interest on Junior subordinated debentures ....... 227 80
Interest on Lease obligations .................... 75 75
Interest on Federal funds purchased .............. 7 2
---------- ----------
TOTAL INTEREST EXPENSE ............................... 7,209 10,187
---------- ----------
Net interest income ................................. 9,322 8,305
Provision for loan losses ........................... -- --
---------- ----------
Net interest income after provision for loan losses . 9,322 8,305
---------- ----------
NON-INTEREST INCOME:
Service charges .................................. 781 738
DNB Advisors ..................................... 322 269
Gains on sales of investment securities .......... 165 69
Increase in cash surrender value of BOLI ......... 142 97
Other ............................................ 472 392
---------- ----------
TOTAL NON-INTEREST INCOME ........................... 1,882 1,565
---------- ----------
NON-INTEREST EXPENSE:
Salaries and employee benefits ................... 4,656 4,033
Furniture and equipment .......................... 980 790
Occupancy ........................................ 608 525
Professional and consulting ...................... 457 454
Marketing ........................................ 316 209
Printing and supplies ............................ 244 167
Other ............................................ 1,273 1,123
---------- ----------
TOTAL NON-INTEREST EXPENSE .......................... 8,534 7,301
---------- ----------
Income before income taxes .......................... 2,670 2,569
Income tax expense .................................. 594 744
---------- ----------
NET INCOME ......................................... $ 2,076 $ 1,825
========== ==========
COMMON SHARE DATA:
EARNINGS PER SHARE:
Basic ............................................... $ 1.19 $ 1.03
Diluted ............................................. 1.16 1.02
CASH DIVIDENDS PER SHARE ............................ $ 0.39 $ 0.37
WEIGHTED AVERAGE NUMBER OF COMMON SHARES OUTSTANDING:
Basic ............................................... 1,742,700 1,775,850
Diluted ............................................. 1,790,488 1,795,791
========== ==========
See accompanying notes to consolidated financial statements.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in thousands) Nine Months Ended September 30
2002 2001
------- ------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income .................................................. $ 2,076 $ 1,825
Adjustments to reconcile net income to net cash provided
(used) by operating activities:
Depreciation and amortization ............................... 1,501 709
Gain on sale of investments ................................. (165) (69)
Decrease in accrued interest receivable ..................... 600 164
Increase in investment in BOLI .............................. (142) (3,078)
Decrease (increase) in other assets ......................... 1,147 (300)
Increase in deferred taxes .................................. (79) --
Decrease in accrued interest payable ........................ (359) (85)
Decrease in current taxes payables .......................... (88) (370)
Increase in other liabilities ............................... 120 425
-------- --------
NET CASH PROVIDED (USED) BY OPERATING ACTIVITIES ............ 4,611 (779)
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Maturities & paydowns of available for sale securities ...... 33,514 23,761
Maturities & paydowns of held to maturity securities ........ 25,685 14,424
Purchase of available for sale securities ................... (43,224) (70,979)
Purchase of held to maturity securities ..................... (21,902) (7,910)
Proceeds from sale of available for sale securities ......... 25,107 9,660
Net increase in loans ....................................... (7,485) (567)
Proceeds from sale of OREO .................................. -- 100
Purchase of office property and equipment ................... (922) (2,065)
-------- --------
NET CASH PROVIDED (USED) BY INVESTING ACTIVITIES ............ 10,773 (33,576)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net (decrease) increase in deposits ......................... (5,590) 2,691
Increase in FHLB advances ................................... -- 15,000
Proceeds from issuance of Junior subordinated debentures .... -- 5,000
Decrease in lease obligations ............................... (5) (4)
Purchase of treasury stock .................................. (1,013) (150)
Proceeds from exercise of stock options ..................... 147 --
Dividends paid .............................................. (677) (660)
-------- --------
NET CASH (USED) PROVIDED BY FINANCING ACTIVITIES ............ (7,138) 21,877
-------- --------
NET CHANGE IN CASH AND CASH EQUIVALENTS ..................... 8,246 (12,478)
Cash and Cash Equivalents at Beginning of Period ............ 18,628 27,352
-------- --------
CASH AND CASH EQUIVALENTS AT END OF PERIOD .................. $ 26,874 $ 14,874
======== ========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid during the period for:
Interest .................................................... $ 7,568 $ 10,272
Taxes ....................................................... 686 750
======== ========
SUPPLEMENTAL DISCLOSURE OF NON-CASH FLOW INFORMATION:
Change in unrealized losses on securities- available for sale $ 758 $ 685
Change in deferred taxes due to change in unrealized losses
on securities- available for sale ...................... (253) (196)
======== ========
See accompanying notes to consolidated financial statements.
DNB FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1: BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements of DNB
Financial Corporation (referred to herein as the "Corporation" or "DNB") and its
subsidiaries, Downingtown National Bank (the "Bank") and DNB Capital Trust I
(the "Trust"), have been prepared in accordance with the instructions for Form
10-Q and therefore do not include certain information or footnotes necessary for
the presentation of financial condition, statement of operations and statement
of cash flows required by generally accepted accounting principles. However, in
the opinion of management, the consolidated financial statements reflect all
adjustments (which consist of normal recurring adjustments) necessary for a fair
presentation of the results for the unaudited periods. The results of operations
for the three and nine months ended September 30, 2002 are not necessarily
indicative of the results which may be expected for the entire year. The
consolidated financial statements should be read in conjunction with the Annual
Report and report on Form 10-K for the year ended December 31, 2001.
NOTE 2: EARNINGS PER SHARE (EPS)
------------------
Basic earnings per share is computed based on the weighted average number
of common shares outstanding during the period. Diluted earnings per share
reflect the potential dilution that could occur from the conversion of common
stock equivalents (i.e., stock options) and is computed using the treasury stock
method. For the three and nine months ended September 30, 2002, 161,072 and
162,369 outstanding stock options were not included because such options were
antidilutive. For the three and nine months ended September 30, 2001, 169,075
and 168,442 outstanding stock options were not included because such options
were antidilutive. These shares may be dilutive in the future. Earnings per
share, dividends per share and weighted average shares outstanding have been
adjusted to reflect the effects of the 5% stock dividend paid in December 2001.
Net income and the weighted average number of shares outstanding for basic and
diluted EPS for the three and nine months ended September 30, 2002 and 2001 are
reconciled as follows:
(In thousands, except per share amounts)
Three months ended Three months ended
September 30, 2002 September 30, 2001
-------------------------- --------------------------
Income Shares Amount Income Shares Amount
------- ------ ------- ------- ------ -------
Basic EPS
Income available to common stockholders ........... $ 730 1,738 $ 0.42 $ 612 1,776 $ 0.34
Effect of dilutive common stock equivalents-
stock options ............................. -- 49 (0.01) -- 19 --
------- ----- ------- ------- ----- -------
Diluted EPS ....................................... $ 730 1,787 $ 0.41 $ 612 1,795 $ 0.34
======= ===== ======= ======= ===== =======
Nine months ended Nine months ended
September 30, 2002 September 30, 2001
------------------------- --------------------------
Income Shares Amount Income Shares Amount
------- ------ ------- ------- ------ -------
Basic EPS
Income available to common stockholders .... $ 2,076 1,743 $ 1.19 $ 1,825 1,776 $ 1.03
Effect of dilutive common stock equivalents-
stock options .............................. -- 47 (0.03) -- 20 (0.01)
------- ----- ------- ------- ----- -------
Diluted EPS ................................ $ 2,076 1,790 $ 1.16 $ 1,825 1,796 $ 1.02
======= ===== ======= ======= ===== =======
NOTE 3: COMPREHENSIVE INCOME
Comprehensive income includes all changes in stockholders' equity during
the period, except those resulting from investments by owners and distributions
to owners. Comprehensive income for all periods consisted of net income and
other comprehensive income relating to the change in unrealized gains on
investment securities available for sale, as shown in the following tables:
(Dollars in thousands) For three months For nine months
ended Sept. 30 ended Sept. 30
---------------- ----------------
2002 2001 2002 2001
------ ------ ------- ------
COMPREHENSIVE INCOME:
Net Income .................................. $ 730 $ 612 $ 2,076 $1,825
Other comprehensive income, net of tax,
relating to unrealized gains on investments 376 313 505 1,208
------ ------ ------- ------
Total comprehensive income .................. $1,106 $ 925 $ 2,581 $3,033
====== ====== ======= ======
NOTE 4: CAPITAL PREFERRED SECURITIES
On July 20, 2001, DNB's subsidiary DNB Capital Trust I (the "Trust"), a
Delaware business trust in which DNB owns all of the common equity, issued $5.0
million of floating rate (6 month Libor plus 3.75% to a cap of 12%) capital
preferred securities ("TRuPS") to a qualified institutional buyer. The proceeds
of these securities were used by the Trust, along with DNB's capital
contribution, to purchase $5.2 million principal amount of DNB's floating rate
junior subordinated debentures (the "debentures"). The debentures are the sole
asset of the Trust. DNB's obligations under the TRuPS and related documents,
taken together, constitute a full and unconditional guarantee by DNB of the
Trust's obligation under the preferred securities. The preferred securities are
redeemable by DNB on or after July 25, 2006, or earlier in the event of certain
adverse tax or bank regulatory developments. The preferred securities must be
redeemed upon maturity of the debentures on July 25, 2031.
NOTE 5: RECENT ACCOUNTING PRONOUNCEMENTS
In June 2001, the FASB issued SFAS No. 142, Goodwill and other Intangible
Assets ("SFAS No. 142"). This Statement addresses financial accounting and
reporting for acquired goodwill and other intangible assets and supersedes APB
Opinion No. 17, Intangible Assets. It addresses how intangible assets that are
acquired individually or with a group of other assets (but not those acquired in
a business combination) should be accounted for in financial statements upon
their acquisition. The Statement also addresses how goodwill and other
intangible assets should be accounted for after they have been initially
recognized in the financial statements. The provisions of the statement are
required to be applied starting with fiscal years beginning after December 15,
2001, except that goodwill and intangible assets acquired after June 30, 2001,
will be subject immediately to the nonamortization and amortization provisions
of the Statement. Early application is permitted for entities with fiscal years
beginning after March 15, 2001, provided that the first interim financial
statements have not previously been issued. The Statement is required to be
applied at the beginning of an entity's fiscal year and to be applied to all
goodwill and other intangible assets recognized in its financial statements at
that date. SFAS 142 was adopted by DNB on January 1, 2002. There was no impact
of this statement on the DNB's financial condition, equity, results of
operations or disclosures.
NOTE 5: RECENT ACCOUNTING PRONOUNCEMENTS (Continued)
In June 2001, the FASB issued SFAS No. 143, Accounting for Asset Retirement
Obligation. ("SFAS No. 143"). This Statement addresses financial accounting and
reporting for obligations associated with the retirement of tangible long-lived
assets and the associated asset retirement costs. It applies to legal
obligations associated with the retirement of long-lived assets that result from
the acquisition, construction, development and (or) the normal operation of a
long-lived asset, except for certain obligations of lessees. As used in this
Statement, a legal obligation is an obligation that a party is required to
settle as a result of an existing or enacted law, statute, ordinance, or written
or oral contract or by legal construction of a contract under the doctrine of
promissory estoppel. This Statement requires that the fair value of a liability
for an asset retirement obligation be recognized in the period in which it is
incurred if a reasonable estimate of fair value can be made. The associated
asset retirement costs are capitalized as part of the carrying amount of the
long-lived asset. This Statement amends FASB Statement No. 19, Financial
Accounting and Reporting by Oil and Gas Producing Companies, and it applies to
all entities. It is effective for financial statements issued for fiscal years
beginning after June 15, 2002. Earlier application is encouraged. DNB expects
that there will be no impact of this statement on the Bank's financial
condition, equity, results of operations or disclosures when adopted.
In August 2001, the FASB issued SFAS No. 144, Accounting for the Impairment
or Disposal of Long-Lived Assets ("SFAS No. 144"). This Statement addresses
financial accounting and reporting for the impairment or disposal of long-lived
assets and supersedes SFAS No. 121, Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to Be Disposed Of. However, the Statement
retains the fundamental provisions of Statement 121 for (a) recognition and
measurement of the impairment of long-lived assets to be held and used and (b)
measurement of long-lived assets to be disposed of by sale. This Statement
supersedes the accounting and reporting provisions of APB Opinion No. 30,
Reporting the Results of Operations-Reporting the Effects of Disposal of a
Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring
Events and Transactions, for the disposal of a segment of a business. However,
this Statement retains the requirement of Opinion 30 to report discontinued
operations separately from continuing operations and extends that reporting to a
component of an entity that either has been disposed of (by sale, by
abandonment, or in distribution to owners) or is classified as held for sale.
This Statement also amends ARB No. 51, Consolidated Financial Statements, to
eliminate the exception to consolidation for a temporarily controlled
subsidiary. The provisions of this Statement are effective for financial
statements issued for fiscal years beginning after December 15, 2001, and
interim periods within those fiscal years, with earlier application encouraged.
SFAS 144 was adopted by DNB on January 1, 2002. There was no impact of this
statement on DNB's financial condition, equity, results of operations or
disclosures.
In April 2002, the FASB issued SFAS No. 145, Rescission of FASB Statements
No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections
(SFAS No. 145). This Statement rescinds FASB Statement No. 4, Reporting Gains
and Losses from Extinguishment of Debt, and an amendment of that Statement, FASB
Statement No. 64, Extinguishments of Debt Made to Satisfy Sinking-Fund
Requirements, along with rescinding FASB Statement No. 44, Accounting for
Intangible Assets of Motor Carriers and amending FASB Statement No. 13,
Accounting for Leases. This Statement (1) eliminates an inconsistency between
the required accounting for sale-leaseback transactions and the required
accounting for certain lease modifications that have economic effects that are
similar to sale-leaseback transactions, (2) eliminates the extraordinary item
treatment of reporting gains and losses from extinguishment of debt, and (3)
makes certain other technical corrections.
NOTE 5: RECENT ACCOUNTING PRONOUNCEMENTS (Continued)
The provisions of this Statement related to the rescission of Statement 4
shall be applied in fiscal years beginning after May 15, 2002. The provisions of
this Statement related to Statement 13 shall be effective for transactions
occurring after May 15, 2002. All other provisions of this Statement shall be
effective for financial statements issued on or after May 15, 2002. Early
application of this Statement is encouraged. DNB expects that there will be no
impact of this statement on its financial condition, equity, results of
operations or disclosures when adopted.
In June 2002, the FASB issued SFAS No. 146 Accounting for Costs Associated
with Exit or Disposal Activities (SFAS No. 146). This Statement addresses
financial accounting and reporting for costs associated with exit or disposal
activities and nullifies Emerging Issues Task Force (EITF) Issue No. 94-3,
"Liability Recognition for Certain Employee Termination Benefits and Other Costs
to Exit an Activity (including Certain Costs Incurred in a Restructuring)." The
provisions of this Statement are effective for exit or disposal activities that
are initiated after December 31, 2002, with early application encouraged. DNB
expects that there will be no impact of this statement on its financial
condition, equity, results of operations or disclosures when adopted.
In October 2002, the FASB issued SFAS No. 147, Acquisitions of Certain
Financial Institutions (SFAS No. 147), which amends SFAS No. 72, Accounting for
Certain Acquisitions of Banking or Thrift Institutions, SFAS No.144, Accounting
for the Impairment or Disposal of Long-Lived Assets, and FASB Interpretation No.
9. Except for transactions between two or more mutual enterprises, this
Statement removes acquisitions of financial institutions from the scope of both
Statement No. 72 and Interpretation 9 and requires that those transactions be
accounted for in accordance with FASB Statements No. 141, Business Combinations,
and No. 142, Goodwill and Other Intangible Assets. Thus, the requirement in
paragraph 5 of Statement No. 72 to recognize any excess of the fair value of
liabilities assumed over the fair value of tangible and identifiable intangible
assets acquired as an unidentifiable intangible asset no longer applies to
acquisitions within the scope of this Statement. In addition, this Statement
amends Statement No. 144 to include in its scope long-term customer-relationship
intangible assets of financial institutions such as depositor- and
borrower-relationship intangible assets and credit cardholder intangible assets.
Consequently, those intangible assets are subject to the same undiscounted cash
flow recoverability test and impairment loss recognition and measurement
provisions that Statement No. 144 requires for other long-lived assets that are
held and used. With some exceptions, the requirements of Statement No. 147 are
effective October 1, 2002. DNB expects that there will be no impact of this
statement on DNB's financial condition, equity, results of operations or
disclosures.
ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
DESCRIPTION OF DNB'S BUSINESS
DNB Financial Corporation is a bank holding company whose bank subsidiary,
Downingtown National Bank, is a nationally chartered commercial bank with trust
powers, and a member of the FDIC. DNB has nine full service offices located in
Chester County, Pennsylvania. In addition to its main office at 4 Brandywine
Avenue, they are: Little Washington Office (Intersection of Route 322 and
Culbertson Run Road, Downingtown), East End Office (701 East Lancaster Avenue,
Downingtown), Exton Office (410 Exton Square Parkway, Exton), Lionville Office
(Intersection of Route 100 and Welsh Pool Road, Exton), Ludwig's Corner Office
(Intersection of Routes 100 and 401, Uwchland), Caln Office (1835 East Lincoln
Highway, Coatesville), West Goshen Office (1115 West Chester Pike, West
Chester), Kennett Square Office (215 E. Cypress St., Kennett Square). The Bank
also has a limited service office at Tel Hai Retirement Community (Beaver Dam
Road, Honey Brook). Through its DNB Advisors division, Downingtown National Bank
provides wealth management and trust services to individuals and businesses
throughout Chester County. The Bank and its subsidiary, DNB Financial Services,
Inc., make available certain nondepositary products and services, such as
securities brokerage, mutual funds, life insurance and annuities. Customers may
also visit DNB on its website at http://www.dnb4you.com.
BUSINESS STRATEGY
DNB has defined a business strategy we call, "Building our future," one of
the key goals of which is to deliver more consistent, higher-quality customer
service in order to become the bank of choice in Chester County, Pennsylvania.
In this connection, one of DNB's key strategic objectives is to reduce our
reliance on net interest income. Another is to grow our commercial and small
business lending. A third key objective is to continue investing in and growing
newer business lines such as DNB Advisors (trust and wealth management
services), DNB Financial Services (securities and insurance products and
services) and DNB Leasing.
CRITICAL ACCOUNTING POLICIES
The following discussion and analysis of our financial condition and
results of operations is based upon our consolidated financial statements, which
have been prepared in accordance with accounting principals generally accepted
in the United States of America. The preparation of these financial statements
requires management to make estimates and judgments that affect the reported
amounts of assets and liabilities, revenues and expenses, and related
disclosures of contingent assets and liabilities at the date of our financial
statements. Actual results may differ from these estimates under different
assumptions or conditions.
In management's opinion, the most critical accounting policies impacting
DNB's consolidated financial statements are:
1. Determination of the allowance for loan losses. Loan loss allowance
policies involves significant judgments and assumptions by management which
may have a material impact on the carrying value of net loans and,
potentially, on the net income recognized by DNB from period to period. For
a description of DNB's accounting policies in connection with its allowance
for loan losses, see, "Provision for Loan Losses," below.
2. Accrual and recognition of interest on loans. These policies
involve significant judgments and assumptions by management which may have
a material impact on the interest income recognized by DNB from period to
period. For a description of DNB's accounting policies in connection with
accrual and recognition of interest on loans, see, "Asset Quality," below.
3. Realization of deferred income tax items. Estimates of deferred tax
assets and deferred tax liabilities make up the asset category titled, "net
deferred tax asset." These estimates involve significant judgments and
assumptions by management which may have a material impact on the carrying
value of net deferred tax assets for financial reporting purposes. For a
more detailed description of these items and estimates, see Note 11
(Federal Income Taxes) to DNB's audited consolidated financial statements
for the fiscal year ended December 31, 2001 (the "Annual Financial
Statements"), incorporated in DNB's 10-K for the year ended December 31,
2001.
The Notes to DNB's consolidated financial statements set forth herein and
in DNB's Annual Financial Statements identify other significant accounting
policies used in the development and presentation of its financial statements.
This discussion and analysis, the significant accounting policies, and other
financial statement disclosures identify and address key variables and other
qualitative and quantitative factors that are necessary for an understanding and
evaluation of DNB and its results of operations.
FINANCIAL CONDITION
DNB's total assets were $384.5 million at September 30, 2002 compared to
$389.4 million at December 31, 2001. Investment securities (AFS and HTM)
decreased $19.1 million or 11.3% to $149.6 million at September 30, 2002.
Significant decreases in US Agency mortgage-backed securities and CMO's resulted
as lowered interest rates spurred paydowns of approximately $44.3 million. In
addition, investments that were called, matured or sold totaled $39.3 million.
Cashflows from these transactions were used to purchase $44.5 million in US
Agency MBS's & CMO's and $13.0 million in US Agency securities as well as fund
net loan growth of $7.5 million or 4.1%. Net loans were $188.7 million, compared
to $181.2 million at December 31, 2001. Federal funds sold at September 30, 2002
were $14.2 million, compared to $7.2 million at December 31, 2001.
Deposits and other borrowings at September 30, 2002 totaled $356.5 million,
down $5.6 million or 1.5% from $362.1 million at December 31, 2001. Time
deposits were down $14.1 million and money market accounts decreased $1.7
million. Non-interest-bearing, savings and NOW accounts increased $5.1 million,
$3.0 million and $2.1 million, respectively, reflecting customer preferences for
short-term deposits in this low interest rate environment.
At September 30, 2002, stockholders' equity was $26.3 million or $15.11 per
share, compared to $25.3 million or $14.51 per share at December 31, 2001. The
increase in stockholders' equity was the result of net income of $2.1 million
for the nine months ended September 30, 2002, a $505,000 increase in the fair
market value of available-for-sale securities, net of taxes, as well as a
$147,000 increase due to proceeds from the exercise of stock options offset by
the purchase of 48,000 shares of treasury stock ($1.0 million) and dividends
paid of approximately $677,000 or $.39 per share.
RESULTS OF OPERATIONS
NET INTEREST INCOME
DNB's earnings performance is primarily dependent upon its level of net
interest income, which is the excess of interest revenue over interest expense.
Interest revenue includes interest earned on loans (net of interest reversals on
non-performing loans), investments, Federal funds sold and interest-earning
cash, as well as net loan fee amortization and dividend income. Interest expense
includes the interest cost for deposits, FHLB advances, Federal funds purchased
and other borrowings.
On a tax-equivalent basis, net interest income increased $162,000 or 5.4%
to $3.2 million and $1.0 million or 11.7% to $9.6 million for the three and nine
month periods ended September 30, 2002, compared to the same periods in 2001. As
shown in the following tables, the increase in net interest income was largely
attributable to rate changes, as interest-bearing deposits repriced more quickly
than interest-earning assets. The effects of these rate changes added
approximately $143,000 and $861,000, respectively, to net interest income for
the periods. Volume changes resulted in an $19,000 and $149,000 benefit to net
interest income for the respective periods. For the three and nine month periods
ended September 30, 2002, average interest-earning assets rose $1.5 million and
$11.1 million, respectively, compared to average interest-bearing liabilities
which rose $0.9 million and $9.6 million, respectively.
The following tables sets forth, among other things, the extent to which
changes in interest rates and changes in the average balances of
interest-earning assets and interest-bearing liabilities have affected interest
income and expense during the three and nine months ended September 30, 2002
compared to the same periods in 2001 (tax-exempt yields and yields on
agency-preferred stock that have a 70% dividend received deduction have been
adjusted to a tax equivalent basis using a 34% tax rate). For each category of
interest-earning assets and interest-bearing liabilities, information is
provided with respect to changes attributable to (i) changes in rate (change in
rate multiplied by old volume) and (ii) changes in volume (change in volume
multiplied by old rate). The net change attributable to the combined impact of
rate and volume has been allocated proportionately to the change due to rate and
the change due to volume.
(Dollars in Thousands) Three Months Ended
September 30, 2002
Compared to 2001
Increase (Decrease) Due to Rate Volume Total
-------- -------- --------
Interest-earning assets:
Loans .................................... $ (166) $ 26 $ (140)
Investment securities-taxable ............ (449) 25 (424)
Investment securities-tax exempt ......... (8) (106) (114)
Investment securities-tax preferred ...... (11) 18 7
Federal funds sold ....................... (46) 21 (25)
-------- -------- --------
Total ............................... $ (680) $ (16) $ (696)
-------- -------- --------
Interest-bearing liabilities:
Savings, NOW and money market deposits ... $ (401) $ 32 $ (369)
Time deposits ............................ (373) (217) (590)
Federal funds purchased .................. -- 3 3
Junior subordinated debentures ........... (24) 18 (6)
FHLB advances ............................ (25) 129 104
-------- -------- --------
Total ............................... (823) (35) (858)
-------- -------- --------
Net interest income/interest rate spread . $ 143 $ 19 $ 162
======== ======== ========
(Dollars in Thousands)
Nine Months Ended
September 30, 2002
Compared to 2001
Increase (Decrease) Due to Rate Volume Total
-------- -------- -------
Interest-earning assets:
Loans ......................................... $ (670) $ (278) $ (948)
Investment securities-taxable ................. (1,421) 752 (669)
Investment securities-tax exempt .............. 1 (94) (93)
Investment securities-tax preferred ........... (36) 100 64
Federal funds sold ............................ (200) (122) (322)
-------- -------- -------
Total .................................... $(2,326) $ 358 $(1,968)
-------- -------- -------
Interest-bearing liabilities:
Savings, NOW and money market deposits ........ $(1,743) $ 122 $(1,621)
Time deposits ................................. (1,285) (675) (1,960)
FHLB advances ................................. (95) 546 451
Trust preferred securities .................... (64) 211 147
Federal funds purchased ....................... -- 5 5
-------- -------- -------
Total .................................... (3,187) 209 (2,978)
-------- -------- -------
Net interest income/interest rate spread ...... $ 861 $ 149 $ 1,010
======== ======== =======
Provision for Loan Losses
To provide for known and inherent losses in the loan portfolio, DNB
maintains an allowance for loan losses. Provisions for loan losses are charged
against income to increase the allowance when necessary. Loan losses are charged
directly against the allowance and recoveries on previously charged-off loans
are added to the allowance. In establishing its allowance for loan losses,
management considers the size and risk exposure of each segment of the loan
portfolio, past loss experience, present indicators of risk such as delinquency
rates, levels of nonaccruals, the potential for losses in future periods, and
other relevant factors. Management's evaluation of the loan portfolio generally
includes reviews, on a sample basis, of individual borrowers regardless of size
and reviews of problem borrowers of $100,000 or greater. Consideration is also
given to examinations performed by regulatory agencies, primarily the Office of
the Comptroller of the Currency ("OCC").
In determining the allowance, DNB utilizes a methodology which includes an
analysis of historical loss experience for the commercial real estate,
commercial, residential real estate, home equity and consumer installment loan
pools to determine a historical loss factor. The historical loss factors are
then applied to the current portfolio balances to determine the required reserve
percentage for each loan pool based on risk rating. In addition, specific
allocations are established for loans where loss is probable and reasonably
identifiable, based on management's judgment and an evaluation of the individual
credit, which includes various factors mentioned above. The allocated portion of
the reserve is then determined as a result of an analysis of the loan pools and
specific allocations.
In establishing and reviewing the allowance for adequacy, emphasis has been
placed on utilizing the methodology prescribed in the OCC's Handbook (which
utilizes BC 201 qualitative risk factors). As a result, management has taken
into consideration factors and variables which may influence the risk of loss
within the loan portfolio, including: (i) trends in delinquency and nonaccrual
loans; (ii) changes in the nature and volume of the loan portfolio; (iii)
effects of any changes in lending policies; (iv) experience, ability, and depth
of management/quality of loan review; (v) national and local economic trends and
conditions; (vi) concentrations of credit; and (vii) effect of external factors
on estimated credit losses. The unallocated portion of the allowance is intended
to provide for probable losses that are not otherwise identifiable using the
BC201 risk factors such as (i) the effect of expansion into new markets or lines
of business that are not as familiar as DNB's current market or business lines;
(ii) the risk that the information we receive from our borrowers is inaccurate
or misleading and (iii) the non-qualifiable impact that a terrorist action or
threat of action may have on a particular industry.
There were no provisions made during the nine months ended September 30,
2002 based on managements analysis of the loan portfolio and the level of net
charge-offs compared to the total allowance. Net loan charge-offs were $33,000
for the nine months ended September 30, 2002, compared to net loan charge-offs
of $108,000 for the year ended December 31, 2001 and net loan charge-offs of
$7,000 for the nine months ended September 30, 2001. The percentage of net
charge-offs to total average loans was .02%, .06% and .004% for the same
respective periods. Another measure of the allowance is the coverage ratio of
the allowance to non-performing loans, which was 176.4% at September 30, 2002.
DNB'S coverage ratio is high relative to peers. However, its level of
delinquencies and non-performing assets, although down significantly in the last
few years, still remains above peer averages. In addition, the ratio of
non-performing loans to total loans was 1.39% at September 30, 2002.
The following table summarizes the changes in the allowance for loan losses
for the periods indicated. Real estate includes both residential and commercial
real estate.
9 Months Year 9 Months
Ended Ended Ended
(Dollars in Thousands) 9/30/02 12/31/01 9/30/01
------- -------- --------
Beginning balance ............................. $ 4,809 $ 4,917 $ 4,917
Provisions .................................... -- -- --
Loans charged off:
Real estate ............................ -- (209) (113)
Commercial ............................. -- (66) (10)
Consumer ............................... (72) (9) (46)
------- ------- -------
Total charged off .................. (72) (284) (169)
Recoveries:
Real estate ............................ 15 132 126
Commercial ............................. 15 36 23
Consumer ............................... 9 8 13
------- ------- -------
Total recoveries ................... 39 176 162
------- ------- -------
Net charge-offs ............................... (33) (108) (7)
------- ------- -------
Ending balance ................................ $ 4,776 $ 4,809 $ 4,910
======= ======= =======
NON-INTEREST INCOME
Total non-interest income includes service charges on deposit products;
fees received in connection with the sale of nondepository products and
services, including fiduciary and investment advisory services offered through
DNB Advisors; securities brokerage products and services and insurance brokerage
products and services offered through DNB Financial Services; and other sources
of income such as increases in the cash surrender value of bank owned life
insurance, net gains on sales of investment securities and other real estate
owned ("OREO") properties. In addition, DNB receives fees for cash management,
merchant services, debit cards, safe deposit box rentals, check cashing, lockbox
services and similar activities.
For the three and nine month periods ended September 30, 2002, non-interest
income was $709,000 and $1.9 million, respectively, compared to $582,000 and
$1.6 million for the same periods in 2001. Service charges increased $22,000 and
$43,000, to $277,000 and $781,000 for the three and nine month periods ended
September 30, 2002, compared with the same periods in 2001. Much of the increase
in this category came from non-sufficient funds ("NSF") fees, which rose $13,000
and $21,000, respectively, due to an increase in the volume of accounts as well
as a concerted effort by management to reduce the waived fee percentage on
deposit account overdrafts. Business analysis fees also contributed with
increases of $6,000 and $21,000 for the three and nine month periods ended
September 30, 2002, compared with the same periods in 2001.
Income from DNB Advisors rose $17,000 to $124,000 and $53,000 to $322,000
for the three and nine month periods, respectively. Gains from sales of
investments rose $53,000 to $96,000 and $96,000 to $165,000 for the three and
nine month periods, respectively. In addition, increases in income from the cash
surrender value of the bank owned life insurance of $5,000 and $46,000 were
reflected in the three and nine months periods ending September 30, 2002,
respectively.
Other non-interest income increased $30,000 and $79,000 to $168,000 and
$471,000 for the three and nine month periods ended September 30, 2002,
respectively. The increase in other income for the three and nine month periods
reflected higher commissions on MAC/Visa debit card products, cash management
fees and safe deposit box fees.
NON-INTEREST EXPENSE
Non-interest expense includes salaries & employee benefits, furniture &
equipment, occupancy, professional & consulting fees as well as printing &
supplies, marketing and other less significant expense items.
Non-interest expenses increased $217,000 to $2.8 million and $1.2 million
to $8.5 million for the three and nine month periods ended September 30, 2002,
compared to the same periods in 2001. The increase during the three and nine
month periods was due to increases in a majority of the expense categories, as
discussed below.
Salaries & employee benefits increased $166,000 or 12.0% to $1.6 million
and $623,000 or 15.4% to $4.7 million for the three and nine months ended
September 30, 2002, compared to $1.4 million and $4.0 million for the same
periods in 2001. The increase in this category reflects an increase in full-time
equivalent employees, merit increases as well as the creation of new positions
associated with staffing of a new full service branch in Exton, PA in the third
quarter of 2001, the establishment of a Leasing department during the second
half of 2001, as well as expansion of the Commercial lending department and DNB
Advisors.
Furniture & equipment expense increased $35,000 or 11.7% to $335,000 and
$190,000 or 24.1% to $980,000, respectively, for the three and nine months ended
September 30, 2002, compared to $300,000 and $790,000 for the same periods in
2001. The increase for the three and nine month periods in these categories
reflects the added costs incurred for the new office as well as higher costs for
repairs and maintenance of all facilities.
Occupancy expense increased approximately $9,000 or 4.5% to $210,000 and
$83,000 or 15.8% to $608,000 for the three and nine months ended September 30,
2002, compared to $201,000 and $525,000 for the same periods in 2001. The
increase was due to higher levels of depreciation, rental and utility expenses
due to capital expenditures for the new office.
Marketing expense increased $44,000 or 55.0% to $124,000 and $107,000 or
51.2% to $316,000 for the three and nine months ended September 30, 2002,
respectively, compared to $80,000 and $209,000 for the same periods in 2001.
This increase was primarily the result of a marketing initiative to promote
DNB's commercial loan products and services.
Professional & consulting expense decreased $36,000 or 19.9% to $145,000
for the three month period ended September 30, 2002, compared to $181,000 for
the same period in 2001. The decrease was due mainly to $26,000 of one-time
legal fees incurred in 2001. Professional & consulting expense increased
slightly to $457,000 for the nine month period ended September 30, 2002,
compared to $454,000 for the same period in 2001.
Printing & supplies expense remained flat at $65,000 for the three month
period ended September 30, 2002 as compared to the three months ended September
30, 2001. Printing & supplies expense increased $77,000 or 46.1% to $244,000 for
the nine month period ended September 30, 2002, compared to $167,000 for the
same period in 2001. The increased cost is primarily due to higher printing
costs for DNB's annual report as well as expenditures to improve DNB's central
filing system.
Other expenses include such items as postage, PA shares tax, insurance, ATM
charges, OREO expense, satisfaction fees, appraisal fees, telephone & fax, and
other miscellaneous expenses. Other expenses remained relatively flat at
$395,000 for the three months ended September 30, 2002. Other expenses increased
$150,000 or 13.4% to $1.3 million for the nine months ended September 30, 2002
compared to $1.1 million for the same period in 2001. This was due to
miscellaneous costs associated with the new branch in addition to higher postage
costs.
INCOME TAXES
Income tax expense was $236,000 and $594,000 for the three and nine months
ending September 30, 2002 compared with $249,000 and $744,000 for the three and
nine months ending September 30, 2001. The effective tax rate was 24% and 22%
for the three and nine month period ending September 30, 2002, respectively,
compared to 29% for the three and nine month periods ending September 30, 2001.
The change in the effective tax rate is due to the company adjusting its tax
expense to its previously filed tax returns. The rates used for income taxes for
both periods were less than the statutory rate due to DNB's receipt of benefits
attributable to tax-exempt interest income, tax-preferred dividend income, tax
credits recognized on a low-income housing limited partnership and DNB's
ownership of bank-owned life insurance investments.
ASSET QUALITY
Non-performing assets are comprised of nonaccrual loans, loans delinquent
over ninety days and still accruing and Other Real Estate Owned ("OREO").
Nonaccrual loans are loans for which the accrual of interest ceases when the
collection of principal or interest payments is determined to be doubtful by
management. It is the policy of DNB to discontinue the accrual of interest when
principal or interest payments are delinquent 90 days or more (unless the loan
principal and interest are determined by management to be fully secured and in
the process of collection), or earlier, if considered prudent. Interest received
on such loans is applied to the principal balance, or may in some instances, be
recognized as income on a cash basis. A nonaccrual loan may be restored to
accrual status when management expects to collect all contractual principal and
interest due and the borrower has demonstrated a sustained period of repayment
performance in accordance with the contractual terms. OREO consists of real
estate acquired by foreclosure or deed in lieu of foreclosure. OREO is carried
at the lower of cost or estimated fair value, less estimated disposition costs.
Any significant change in the level of nonperforming assets is dependent, to a
large extent, on the economic climate within DNB's market area.
The following table sets forth those assets that are: (i) on nonaccrual
status, (ii) contractually delinquent by 90 days or more and still accruing and
(iii) other real estate owned as a result of foreclosure or voluntary transfer
to DNB.
Sept. 30 Dec. 31 Sept. 30
(Dollars in Thousands) 2002 2001 2001
-------- ------- --------
Nonaccrual Loans:
Residential mortgage ....................... $ 247 $ 224 $ 235
Commercial mortgage ........................ 190 567 573
Commercial ................................. 1,506 1,964 1,196
Consumer ................................... 253 301 296
------ ------ ------
Total nonaccrual loans .......................... 2,196 3,056 2,300
Loans 90 days past due and still accruing ....... 512 155 155
------ ------ ------
Total non-performing loans ...................... 2,708 3,211 2,455
Other real estate owned ......................... -- -- 83
------ ------ ------
Total non-performing assets ..................... $2,708 $3,211 $2,538
====== ====== ======
The following table sets forth the DNB's asset quality and allowance
coverage ratios at the dates indicated:
Sept. 30 Dec. 31 Sept. 30
2002 2001 2001
-------- ------- --------
Non-performing Loans/Total Loans ................ 1.4% 1.7% 1.3%
Non-performing Assets/Total Assets .............. 0.7 0.8 1.4
Allowance for Loan Losses/Total Loans ........... 2.5 2.6 2.6
Allowance for Loan Losses/Total Loans and OREO .. 2.5 2.6 2.6
Allowance for Loan Losses/Non-performing Assets . 176.4 149.8 193.5
Allowance for Loan Losses/Non-performing Loans .. 176.4 149.8 200.0
If interest income had been recorded on nonaccrual loans, interest would
have increased as shown in the following table:
9 Months Year 9 Months
Ended Ended Ended
(Dollars in thousands) 9/30/02 12/31/01 9/30/01
-------- -------- --------
Interest income which would have been recorded
under original terms .................... $ 117 $ 220 $ 129
Interest income recorded during the period ..... (47) (111) (41)
------ ----- -----
Net impact on interest income .................. $ 70 $ 109 $ 88
====== ===== =====
At September 30, 2002 and December 31, 2001, DNB had impaired loans with a
total recorded investment of $1,620,000 and $1,194,000, respectively, and an
average recorded investment of $1,276,000 for the nine month period ended
September 30, 2002 and $1,121,000 for the year ended December 31, 2001. As of
September 30, 2002 and December 31, 2001, there was no related allowance for
credit losses necessary for these impaired loans. Total cash collected on
impaired loans was credited to the outstanding principal balance in the amount
of $123,114 for the nine months ended September 30, 2002 and $2,929 for the year
ended December 31, 2001. Interest income of $21,138 was recorded on such loans
during 2002. No interest income was recorded on such loans during 2001.
LIQUIDITY AND CAPITAL RESOURCES
For a financial institution, liquidity is a measure of the ability to fund
customers' needs for loans and deposit withdrawals. Management regularly
evaluates economic conditions in order to maintain a strong liquidity position.
One of the most significant factors considered by management when evaluating
liquidity requirements is the stability of DNB's core deposit base. In addition
to cash, DNB maintains a portfolio of short term investments to meet its
liquidity requirements. DNB has historically relied on cash flow from operations
and other financing activities. Liquidity is provided by investing activities,
including the repayment and maturing of loans and investment securities.
At September 30, 2002 DNB has $18.6 million in commitments to fund
commercial real estate, construction and land development. In addition, DNB had
commitments to fund $4.2 million in home equity lines of credit and $15.6
million in other unused commitments. Management anticipates the majority of
these commitments will be funded by means of normal cash flows. In addition,
$20.2 million of time deposits at DNB are scheduled to mature during the three
months ending December 31, 2002. Management believes that the majority of such
deposits will be reinvested with DNB and that certificates that are not renewed
will be funded by a reduction in Federal funds sold or by paydowns and
maturities of loans and investments.
On July 25, 2001, DNB authorized the buyback of up to 175,000 shares of its
Common Stock over an indefinite period. The buyback, if fully completed, would
reduce the number of outstanding shares by approximately 10%. The repurchases
are conducted through open market or privately negotiated transactions. Shares
purchased in the program are held as treasury stock. During the nine months
ended September 30, 2002, DNB had repurchased 47,992 shares of its Common Stock
pursuant to the program at a total cost of $1,013,000.
Stockholders' equity increased to $26.3 million at September 30, 2002 as a
result of the $2.1 million profit reported for the nine months then ended, a
$505,000 increase in the fair market value of available-for-sale securities, net
of taxes, and a $147,000 increase due to proceeds from the exercise of stock
options less $1.0 million for the purchase of treasury shares and dividends paid
totaling $677,000 year-to-date. The Corporation's common equity position at
September 30, 2002 exceeds the regulatory required minimums. The following table
summarizes data and ratios pertaining to the Corporation and the Bank's capital
structure.
To Be Well
Capitalized Under
For Capital Prompt Corrective
Actual Adequacy Purposes Action Provisions
----------------- ------------------ -------------------
(Dollars in thousands) Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ------ -------- ------
DNB Financial Corporation
As of September 30, 2002:
Total risk-based capital ..... $34,094 13.58% $20,090 8.00% $25,113 10.00%
Tier 1 capital ............... 30,935 12.32 10,045 4.00 15,068 6.00
Tier 1 (leverage) capital .... 30,935 8.18 15,134 4.00 18,918 5.00
Downingtown National Bank
As of September 30, 2002:
Total risk-based capital ..... $30,776 12.26% $20,079 8.00% $25,098 10.00%
Tier 1 capital ............... 27,619 11.00 10,039 4.00 15,059 6.00
Tier 1 (leverage) capital .... 27,619 7.30 15,129 4.00 18,911 5.00
In addition, the Federal Reserve Bank (the "FRB") leverage ratio rules
require bank holding companies to maintain a minimum level of "primary capital"
to total assets of 5.5% and a minimum level of "total capital" to total assets
of 6%. For this purpose, (i) "primary capital" includes, among other items,
common stock, certain perpetual debt instruments such as eligible Trust
preferred securities, contingency and other capital reserves, and the allowance
for loan losses, (ii) "total capital" includes, among other things, certain
subordinated debt, and "total assets" is increased by the allowance for loan
losses. DNB's primary capital ratio and its total capital ratio are both 8.4%,
well in excess of FRB requirements.
REGULATORY MATTERS
Dividends payable to the Corporation by the Bank are subject to certain
regulatory limitations. Under normal circumstances, the payment of dividends in
any year without regulatory permission is limited to the net profits (as defined
for regulatory purposes) for that year, plus the retained net profits for the
preceding two calendar years.
OPERATING ENVIRONMENT AND CERTAIN TRENDS
DNB operates its franchise throughout Chester County, PA. Chester County
has extremely attractive demographics, which makes it one of the fastest growing
counties in Pennsylvania. Due to these factors, the operating environment is
very competitive as Chester County hosts over 40 banks, thrifts and credit
unions. In addition, brokerage firms, mutual fund companies and boutique
investment firms dot the landscape. This intense competition continually puts
pressures on DNB's margins and operating results as competitors offer a full
range of loan, deposit and investment products and services. In addition, many
of these competitors are much larger than DNB and consistently outspend the Bank
in marketing to attract new customers. We anticipate these pressures will
continue to adversely affect our margins.
RECENT DEVELOPMENTS
During the latter part of 2001, the US economy slipped into a recession
which continues to affect Pennsylvania's and Chester County's economy. Many
economists anticipate a gradual improvement in the economy during 2003. The slow
economy has affected DNB's ability to generate new commercial loans as potential
borrowers are waiting for clearer signs that the economy has rebounded.
FORWARD-LOOKING STATEMENTS
Certain statements in this report, including any which are not statements
of historical fact, may constitute "forward-looking statements" within the
meaning of Section 27A of the Securities Act and Section 21E of the Exchange
Act. Without limiting the foregoing, the words "expect", "anticipate", "plan",
"believe", "seek", "estimate", "predict", "internal" and similar words are
intended to identify expressions that may be forward-looking statements.
Forward-looking statements involve certain risks and uncertainties, and actual
results may differ materially from those contemplated by such statements. For
example, actual results may be adversely affected by the following
possibilities: (1) competitive pressure among depository institutions may
increase; (2) changes in interest rates may reduce banking interest margins; (3)
general economic conditions and real estate values may be less favorable than
contemplated; (4) adverse legislation or regulatory requirements may be adopted;
and (5) other unexpected contingencies may arise. Many of these factors are
beyond DNB's ability to control or predict. Readers of this report are
accordingly cautioned not to place undue reliance on forward-looking statements.
DNB disclaims any intent or obligation to update publicly any of the
forward-looking statements herein, whether in response to new information,
future events or otherwise.
ITEM 3 - QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
To measure the impacts of longer-term asset and liability mismatches beyond
two years, DNB utilizes Modified Duration of Equity and Economic Value of
Portfolio Equity ("EVPE") models. The modified duration of equity measures the
potential price risk of equity to changes in interest rates. A longer modified
duration of equity indicates a greater degree of risk to rising interest rates.
Because of balance sheet optionality, an EVPE analysis is also used to
dynamically model the present value of asset and liability cash flows, with
rates ranging up or down 200 basis points. The economic value of equity is
likely to be different if rates change. Results falling outside prescribed
ranges require action by management. At September 30, 2002 and December 31,
2001, DNB's variance in the economic value of equity as a percentage of assets
with an instantaneous and sustained parallel shift of 200 basis points is within
its negative 3% guideline, as shown in the tables below.
September 30, 2002 December 31, 2001
--------------------------------- ---------------------------------
Change in rates ........................................ Flat -200bp +200bp Flat -200bp +200 bp
-------- -------- -------- -------- -------- ---------
Economic Value of
Portfolio Equity .................................. $ 27,519 $ 17,067 $ 28,997 $ 29,379 $ 25,078 $ 24,237
Change ........................................ (10,452) 1,479 (4,301) (5,142)
Change as a % of assets ................................ (2.72%) 0.38% (1.10%) (1.32%)
ITEM 4 - CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
The Company's Chief Executive Officer and Chief Financial Officer have
reviewed and evaluated the effectiveness of our disclosure controls and
procedures (as defined in Exchange Act Rules 240.13a-14(c) and 15d-14(c) as of a
date within 90 days before the filing date of this quarterly report. Based on
that evaluation, the Chief Executive Officer and the Chief Financial Officer
have concluded that the Company's current disclosure controls and procedures are
effective and timely, providing them with material information relating to the
Company required to be disclosed in the report we file or submit under the
Exchange Act.
Changes in Internal Controls
There have not been any significant changes in our internal controls or in
other factors that could significantly affect these controls subsequent to the
date of their evaluation. We are not aware of any significant deficiencies or
material weaknesses, therefore no corrective actions were taken.
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Not Applicable
ITEM 2. CHANGES IN SECURITIES
Not Applicable
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not Applicable
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not Applicable
ITEM 5. OTHER INFORMATION
Not Applicable
ITEM 6.
(a) EXHIBITS:
Not Applicable
(b) REPORTS ON FORM 8-K
Current report on Form 8-K dated and filed August 14,
2002, Item 7.
Current report on Form 8-K dated and filed October 24,
2002, Item 7.
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.
DNB FINANCIAL CORPORATION
(Registrant)
DATE: November 14, 2002 /S/ Henry F. Thorne
------------------------------
Henry F. Thorne, President
and Chief Executive Officer
DATE: November 14, 2002 /S/ Bruce E. Moroney
----------------------------
Bruce E. Moroney
Chief Financial Officer
Certification Pursuant to Section 302
of the Sarbanes-Oxley Act of 2002
for the Chief Executive Officer
I, Henry F. Thorne, certify that:
1. I have reviewed this quarterly report on Form 10-Q of DNB Financial
Corporation;
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect to
the period covered by this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented in
this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15-d14) for the registrant,
and we have:
* designed such disclosure controls and procedures to ensure that
material information relating to the ? registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this quarterly
report is being prepared;
* evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this quarterly report (the "Evaluation Date"); and
* presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the
audit committee of the registrant's board of directors (or persons
performing the equivalent function):
* all significant deficiencies in the design or operation of internal
controls which could adversely ? affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
* any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
6. The registrant's other certifying officers and I have indicated in
this quarterly report whether or not there were significant changes in
internal controls or in other factors that could significantly affect
internal controls subsequent to the date of our most recent
evaluation, including any corrective actions with regard to
significant deficiencies and material weaknesses.
/s/ Henry F. Thorne
- -----------------------
Henry F. Thorne
President and
Chief Executive Officer
November 14, 2002
Certification Pursuant to Section 302
of the Sarbanes-Oxley Act of 2002
for the Chief Financial Officer
I, Bruce E. Moroney, certify that:
1. I have reviewed this quarterly report on Form 10-Q of DNB Financial
Corporation;
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect to
the period covered by this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented in
this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15-d14) for the registrant,
and we have:
* designed such disclosure controls and procedures to ensure that
material information relating to the ? registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this quarterly
report is being prepared;
* evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this quarterly report (the "Evaluation Date"); and
* presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the
audit committee of the registrant's board of directors (or persons
performing the equivalent function):
* all significant deficiencies in the design or operation of
internal controls which could adversely ? affect the registrant's
ability to record, process, summarize and report financial data
and have identified for the registrant's auditors any material
weaknesses in internal controls; and
* any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
6. The registrant's other certifying officers and I have indicated in
this quarterly report whether or not there were significant changes in
internal controls or in other factors that could significantly affect
internal controls subsequent to the date of our most recent
evaluation, including any corrective actions with regard to
significant deficiencies and material weaknesses.
/s/ Bruce E. Moroney
- -----------------------
Bruce E. Moroney
Chief Financial Officer
November 14, 2002