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: June 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: 0-16667
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 by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
[ ] Yes [X] 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) 1,800,103
(Class) (Shares Outstanding as of
August 14, 2003)
- --------------------------------------------------------------------------------
DNB FINANCIAL CORPORATION AND SUBSIDIARY
INDEX
PART I - FINANCIAL INFORMATION PAGE NO.
ITEM 1. FINANCIAL STATEMENTS (Unaudited):
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
June 30, 2003 and December 31, 2002 3
CONSOLIDATED STATEMENTS OF OPERATIONS
Three Months Ended June 30, 2003 and 2002 4
CONSOLIDATED STATEMENTS OF OPERATIONS
Six Months Ended June 30, 2003 and 2002 5
CONSOLIDATED STATEMENTS OF CASH FLOWS
Six Months Ended June 30, 2003 and 2002 6
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
June 30, 2003 and December 31, 2002 7
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS 10
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES
ABOUT MARKET RISK 20
ITEM 4. CONTROLS AND PROCEDURES 21
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS 22
ITEM 2. CHANGE IN SECURITIES AND USE OF PROCEEDS 22
ITEM 3. DEFAULTS UPON SENIOR SECURITIES 22
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF 22
SECURITY HOLDERS
ITEM 5. OTHER INFORMATION 22
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K 22
SIGNATURES 24
DNB FINANCIAL CORPORATION
Consolidated Statements of Financial Condition (Unaudited)
(Dollars in thousands, except per share data)
June 30, December 31,
2003 2002
- ------------------------------------------------------------------------------------------
Assets
Cash and due from banks ......................................... $ 11,104 $ 11,551
Federal funds sold .............................................. -- 10,473
--------- ---------
Total cash and cash equivalents ................................. 11,104 22,024
--------- ---------
Investment securities available for sale, at fair value ......... 136,043 137,365
Investment securities (market value $52,651
in 2003 and $22,811 in 2002) ................................. 52,392 22,430
Loans, net of unearned income ................................... 184,765 187,585
Allowance for loan losses ....................................... (4,583) (4,546)
--------- ---------
Net loans ....................................................... 180,182 183,039
--------- ---------
Office property and equipment, net .............................. 7,907 8,092
Accrued interest receivable ..................................... 1,653 1,890
Bank owned life insurance ....................................... 5,691 5,577
Deferred income taxes ........................................... 1,515 980
Other assets .................................................... 3,947 2,971
--------- ---------
Total assets .................................................... $ 400,434 $ 384,368
========= =========
Liabilities and Stockholders' Equity
Liabilities
Non-interest-bearing deposits ................................... $ 49,098 $ 45,117
Interest-bearing deposits:
NOW accounts ................................................. 56,305 50,400
Money market ................................................. 58,897 59,457
Savings ...................................................... 43,413 39,569
Time ......................................................... 78,809 93,259
--------- ---------
Total deposits .................................................. 286,522 287,802
--------- ---------
Federal funds purchased ......................................... 3,784 --
Borrowings ...................................................... 78,724 63,728
Junior subordinated debentures .................................. 5,000 5,000
--------- ---------
Total borrowings ................................................ 87,508 68,728
--------- ---------
Accrued interest payable ........................................ 931 1,164
Other liabilities ............................................... 474 466
--------- ---------
Total liabilities ............................................... 375,435 358,160
--------- ---------
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; 1,919,556 and 1,902,478
issued, respectively ......................................... 1,920 1,902
Treasury stock, at cost (116,622 and 81,427 shares, respectively) (2,487) (1,687)
Surplus ......................................................... 23,569 23,402
Retained earnings ............................................... 3,631 3,184
Accumulated other comprehensive loss ............................ (1,634) (593)
--------- ---------
Total stockholders' equity ...................................... 24,999 26,208
--------- ---------
Total liabilities and stockholders' equity ...................... $ 400,434 $ 384,368
========= =========
See accompanying notes to consolidated financial statements.
Consolidated Statements of Operations (Unaudited)
(Dollars in thousands, except per share data)
Three Months Ended June 30
--------------------------
2003 2002
- --------------------------------------------------------------------------------
Interest Income:
Interest and fees on loans and leases ............ $ 3,195 $ 3,603
Interest and dividends on investment securities:
Taxable .......................................... 1,183 1,684
Tax-free ......................................... 114 125
Tax preferred .................................... 92 157
Interest on Federal funds sold ................... 12 17
---------- ----------
Total interest income ............................ 4,596 5,586
---------- ----------
Interest Expense:
Interest on Federal funds purchased .............. 4 3
Interest on NOW, money market and savings ........ 282 463
Interest on time deposits ........................ 580 893
Interest on FHLB advances ........................ 943 893
Interest on junior subordinated debentures ....... 66 73
Interest on lease obligations .................... 25 25
---------- ----------
Total interest expense ........................... 1,900 2,350
---------- ----------
Net interest income ................................. 2,696 3,236
Provision for loan losses ........................... -- --
---------- ----------
Net interest income after provision for loan losses . 2,696 3,236
---------- ----------
Non-interest Income:
Service charges .................................. 307 258
Wealth management ................................ 171 97
Gains on sales of investment securities .......... 129 69
Increase in cash surrender value of BOLI ......... 54 49
Other ............................................ 175 152
---------- ----------
Total non-interest income ........................... 836 625
---------- ----------
Non-interest Expense:
Salaries and employee benefits ................... 1,642 1,575
Furniture and equipment .......................... 379 323
Occupancy ........................................ 209 196
Professional and consulting ...................... 119 146
Marketing ........................................ 81 125
Printing and supplies ............................ 97 102
Other ............................................ 474 441
---------- ----------
Total non-interest expense ....................... 3,001 2,908
---------- ----------
Income before income taxes .......................... 531 953
Income tax expense .................................. 103 215
---------- ----------
Net income .......................................... $ 428 $ 738
========== ==========
Earnings Per Share:
Basic ............................................ $ 0.24 $ 0.41
Diluted .......................................... 0.23 0.40
Cash dividends per share ............................ 0.13 0.12
Weighted average number of common shares outstanding:
Basic ............................................ 1,815,783 1,822,340
Diluted .......................................... 1,855,294 1,862,693
========== ==========
See accompanying notes to consolidated financial statements
Consolidated Statements of Operations (Unaudited)
(Dollars in thousands, except per share data)
Six Months Ended June 30
------------------------
2003 2002
- --------------------------------------------------------------------------------
Interest Income:
Interest and fees on loans and leases ............ $ 6,493 $ 7,043
Interest and dividends on investment securities:
Taxable .......................................... 2,393 3,441
Tax-free ......................................... 166 252
Tax-preferred .................................... 231 321
Interest on Federal funds sold ................... 42 44
---------- ----------
Total interest income ............................ 9,325 11,101
---------- ----------
Interest Expense:
Interest on Federal funds purchased .............. 4 3
Interest on NOW, money market and savings ........ 593 930
Interest on time deposits ........................ 1,313 1,951
Interest on FHLB advances ........................ 1,864 1,776
Interest on junior subordinated debentures ....... 132 152
Interest on lease obligations .................... 49 50
---------- ----------
Total interest expense ........................... 3,955 4,862
---------- ----------
Net interest income ................................. 5,370 6,239
Provision for loan losses ........................... -- --
---------- ----------
Net interest income after provision for loan losses . 5,370 6,239
---------- ----------
Non-interest Income:
Service charges .................................. 605 504
Wealth management ................................ 312 198
Gains on sales of investment securities .......... 129 69
Increase in cash surrender value of BOLI ......... 114 98
Other ............................................ 350 304
---------- ----------
Total non-interest income ........................ 1,510 1,173
---------- ----------
Non-interest Expense:
Salaries and employee benefits ................... 3,171 3,104
Furniture and equipment .......................... 733 645
Occupancy ........................................ 404 398
Professional and consulting ...................... 235 312
Marketing ........................................ 143 192
Printing and supplies ............................ 165 179
Other ............................................ 912 878
---------- ----------
Total non-interest expense ..................... 5,763 5,708
---------- ----------
Income before income taxes .......................... 1,117 1,704
Income tax expense .................................. 197 358
---------- ----------
Net income .......................................... $ 920 $ 1,346
========== ==========
Earnings Per Share:
Basic ............................................ $ 0.51 $ 0.73
Diluted .......................................... 0.50 0.72
Cash dividends per share ............................ 0.26 0.25
Weighted average number of common shares outstanding:
Basic ............................................ 1,819,155 1,832,227
Diluted .......................................... 1,858,417 1,870,608
========== ==========
See accompanying notes to consolidated financial statements.
Consolidated Statements of Cash Flows (Unaudited)
(Dollars in thousands)
Six Months Ended June 30
2003 2002
-------- --------
Cash Flows From Operating Activities:
Net income .............................................. $ 920 $ 1,346
Adjustments to reconcile net income to net cash provided
by operating activities:
Depreciation and amortization ........................... 1,707 1,015
Gains on sales of investments ........................... (129) (69)
Decrease in accrued interest receivable ................. 237 89
Decrease in deferred taxes .............................. -- (52)
(Increase) decrease in other assets ..................... (976) 1,577
Increase in investment in bank owned life insurance ..... (114) (98)
Decrease in accrued interest payable .................... (233) (303)
Decrease in current taxes payable ....................... (433) (80)
Increase in other liabilities ........................... 441 36
-------- --------
Net Cash Provided By Operating Activities ............... 1,420 3,461
-------- --------
Cash Flows From Investing Activities:
Proceeds from maturities & paydowns of AFS securities ... 45,136 19,362
Proceeds from maturities & paydowns of HTM securities ... 9,653 17,344
Purchase of AFS securities .............................. (59,143) (19,393)
Purchase of HTM securities .............................. (39,783) (21,752)
Proceeds from sale of AFS securities .................... 12,867 9,866
Net decrease (increase) in loans ........................ 2,857 (6,041)
Purchase of office property and equipment ............... (339) (520)
-------- --------
Net Cash Used In Investing Activities ................... (28,752) (1,134)
-------- --------
Cash Flows From Financing Activities:
Net decrease in deposits ................................ (1,280) (12,700)
Increase in Federal funds purchased ..................... 3,784 1,968
Decrease in lease obligations ........................... (4) (3)
Increase in FHLB advances ............................... 15,000 --
Proceeds from exercise of options ....................... 185 87
Dividends paid .......................................... (473) (452)
Purchase of treasury stock .............................. (800) (973)
-------- --------
Net Cash Provided (Used) In Financing Activities ........ 16,412 (12,073)
-------- --------
Net Change in Cash and Cash Equivalents ................. (10,920) (9,746)
Cash and Cash Equivalents at Beginning of Period ........ 22,024 18,628
-------- --------
Cash and Cash Equivalents at End of Period .............. $ 11,104 $ 8,882
======== ========
Supplemental Disclosure Of Cash Flow Information:
Cash paid during the period for:
Interest ................................................ $ 4,188 $ 5,165
Income taxes ............................................ 166 438
======== ========
Supplemental Disclosure Of Non-Cash Flow Information:
Change in unrealized losses on securities-AFS ........... $ (1,576) $ 189
Change in deferred taxes due to change in unrealized
losses on securities-AFS ............................. 535 (60)
======== ========
See accompanying notes to consolidated financial statements.
DNB FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 1: BASIS OF PRESENTATION AND RESTATEMENT
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. Prior period amounts not
affecting net income are reclassified when necessary to conform with current
period classifications. The results of operations for the six months ended June
30, 2003 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, 2002.
In December 2002, the FASB issued SFAS No. 148, Accounting for Stock-Based
Compensation-Transition and Disclosure ("SFAS 148"). This statement amends SFAS
123, Accounting for Stock-Based Compensation, to provide alternative methods of
transition for a voluntary change to the fair value based method of accounting
for stock-based employee compensation. In addition, this Statement amends the
disclosure requirements of Statement 123 to require prominent disclosures in
both annual and interim financial statements about the method of accounting for
stock-based employee compensation and the effect of the method used on reported
results. The requirements of Statement No. 148 are effective for fiscal years
ending after December 15, 2002, except for financial reports containing
condensed financial statements for interim periods for which disclosure is
effective for periods beginning after December 31, 2002. DNB applies APB Option
No. 25 in accounting for its Stock Option Plan, and accordingly, no compensation
cost has been recognized for its stock options in the financial statements. Had
DNB determined compensation cost based on the fair value at the grant date for
its stock options under SFAS No. 123, DNB's net income and earnings per share
would have been reduced to the pro forma amounts indicated below:
(Dollars in thousands, except per share data) Three Months Ended Six Months Ended
June 30 June 30
2003 2002 2003 2002
------- ------- ------- ---------
Net income as reported .......................... $ 428 $ 738 $ 920 $ 1,346
Total stock based employee compensation expense
determined under fair value based method for
all awards, net of related tax effects ..... 68 183 68 183
------- ------- ------- ---------
Pro forma net income ............................ $ 360 $ 555 $ 852 $ 1,163
Earnings per share
Basic-as reported .......................... $ 0.24 $ 0.41 $ 0.51 $ 0.73
Basic-pro forma ............................ 0.20 0.30 0.47 0.63
Diluted-as reported ........................ $ 0.23 $ 0.40 $ 0.50 $ 0.72
Diluted-pro forma .......................... 0.19 0.30 0.46 0.62
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 six months ended June 30, 2003, 45,915 and 40,753
stock options were not included in the earnings per share calculation because
such options were antidilutive. For the three and six months ended June 30,
2002, 35,590 and 50,510 stock options were not included because such options
were antidilutive. These options 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 2002.
Net income and the weighted average number of shares outstanding for basic and
diluted EPS for the three and six months ended June 30, 2003 and 2002 are
reconciled as follows:
(In thousands, except per share data)
Three months ended Three months ended
June 30, 2003 June 30, 2002
------------------------------- -----------------------------
Income Shares Amount Income Shares Amount
------ ------ -------- ------ ------ --------
Basic EPS:
Income available to common stockholders ......................... $ 428 1,816 $ 0.24 $ 738 1,822 $ 0.41
Effect of dilutive common stock equivalents-
stock options .............................................. -- 39 (0.01) -- 41 (0.01)
------ ------ --------- ------ ------ --------
Diluted EPS ..................................................... $ 428 1,855 $ 0.23 $ 738 1,863 $ 0.40
====== ====== ========= ====== ====== ========
Six months ended Six months ended
June 30, 2003 June 30, 2002
------------------------------- -----------------------------
Income Shares Amount Income Shares Amount
------ ------ --------- ------ ------ -------
Basic EPS:
Income available to common stockholders ......................... $ 920 1,819 $ 0.51 $1,346 1,832 $ 0.73
Effect of dilutive common stock equivalents-
stock options ............................................. -- 39 (0.01) -- 39 (0.01)
------ ------ --------- ------ ------ --------
Diluted EPS ..................................................... $ 920 1,858 $ 0.50 $1,346 1,871 $ 0.72
====== ====== ========= ====== ====== ========
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 (loss) income relating to the change in unrealized (losses)
gains on investment securities available for sale, as shown in the following
table:
(Dollars in thousands) For three months ended June 30 For six months ended June 30
------------------------------ ----------------------------
2003 2002 2003 2002
------- ------- ------- -------
COMPREHENSIVE INCOME:
Net Income ........................................... $ 428 $ 738 $ 920 $ 1,346
Other comprehensive (loss) income, net of tax,
relating to unrealized (losses) gains on investments (679) 749 (1,041) 129
------- ------- ------- -------
Total comprehensive (loss) income .................... $ (251) $ 1,487 $ (121) $ 1,475
======= ======= ======= =======
NOTE 4: JUNIOR SUBORDINATED DEBENTURES
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%) capital preferred securities
to a qualified institutional buyer. The proceeds of which 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
debentures 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 2002, the FASB issued SFAS No. 146, Accounting for Costs Associated
with Exit or Disposal Activities ("SFAS 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. The
adoption of this statement had no impact on DNB's financial condition, equity,
results of operations or disclosures.
In December 2002, the FASB issued SFAS No. 148, Accounting for Stock-Based
Compensation-Transition and Disclosure ("SFAS 148"). This statement amends SFAS
123, Accounting for Stock-Based Compensation, to provide alternative methods of
transition for a voluntary change to the fair value based method of accounting
for stock-based employee compensation. The Statement also amends the disclosure
requirements of Statement 123 to require prominent disclosures in both annual
and interim financial statements about the method of accounting for stock-based
employee compensation and the effect of the method used on reported results.
This statement is effective for fiscal years ending after December 15, 2002. The
disclosures required by this filing have been included in this filing. This
Statement announces that "in the near future, the Board plans to consider
whether it should propose changes to the U.S. standards on accounting for
stock-based compensation". There was no impact of this statement on DNB's
financial condition, equity, or results of operations. The annual and interim
disclosure requirements of this statement have been complied with.
In April 2003, the FASB issued SFAS No. 149, Amendment to Statement 133 on
Derivative Instruments and Hedging Activities ("SFAS No. 149"). This statement
amends and clarifies accounting for derivative instruments, including certain
derivative instruments embedded in other contracts, and for hedging activities
under SFAS No. 133. The statement is applied prospectively and is effective for
contracts entered into or modified after June 30, 2003, except for SFAS No. 133
implementation issues that have been effective for fiscal quarters that began
prior to June 15, 2003 and certain provisions relating to forward purchases and
sales on securities that do not yet exist. The adoption on April 1, 2003 of the
components of this statement which address SFAS No. 133 implementation issues
that have been effective for fiscal quarters that began prior to June 15, 2003
did not have a material impact on the DNB's consolidated interim financial
position and results of operations. The adoption of the remaining components of
SFAS No. 149 is not anticipated to have a material impact on DNB's financial
condition, equity or results of operations.
In May 2003, the FASB issued SFAS No. 150, Accounting for Certain Financial
Instruments with Characteristics of Both Liabilities and Equity ("SFAS No.
150"). This statement establishes standards for how an issuer classifies and
measures certain financial instruments with characteristics of both liabilities
and equity. It requires that an issuer classify a financial instrument that is
within its scope as a liability (or an asset in some circumstances). Some of the
provisions of this Statement are consistent with the current definition of
liabilities in FASB Concepts Statement No. 6, "Elements of Financial
Statements". The remaining provisions of this Statement are consistent with the
Board's proposal to revise that definition to encompass certain obligations that
a reporting entity can or must settle by issuing its own equity shares,
depending on the nature of the relationship established between the holder and
the issuer. This statement is effective for financial instruments entered into
or modified after May 31, 2003, and otherwise is effective at the beginning of
the first interim period beginning after June 15, 2003. DNB does not expect the
adoption of this Statement to have a impact on DNB's financial condition, equity
or results of operations.
ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
DESCRIPTION OF DNB'S BUSINESS AND
BUSINESS STRATEGY
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 provides a broad range of banking services
to individual and corporate customers through its nine full service community
offices located throughout Chester County, Pennsylvania. DNB is a community bank
that focuses its lending and other services on businesses and consumers in the
local market area. DNB funds all these activities with retail and business
deposits and borrowings. 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.
DNB has embanked on a strategy called "Building Our Future". The key goal
of this strategy is to become the "Bank of Choice" in Chester County by
delivering consistent, high quality customer service to businesses and
individuals. It is our desire to assist our customers in any way that will help
them to become successful. To that end, we will continue to make appropriate
investments in all areas of our business including people, technology,
facilities and marketing.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
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 principles 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 and
estimates impacting DNB's consolidated financial statements are listed below.
These policies are critical because they are highly dependent upon subjective or
complex judgments, assumptions and estimates. Changes in such estimates may have
a significant impact on the financial statements. For a complete discussion of
DNB's significant accounting policies, see the Footnotes to the Consolidated
Financial Statements and discussion in the Annual Report for the year ended
December 31, 2002.
1. Determination of the allowance for loan losses. Loan loss allowance
policies involve 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
"Allowance for Loan Losses" in Management's Discussion and Analysis.
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" in Management's Discussion
and Analysis.
3. Realization of deferred income tax items. Estimates of deferred tax
assets and deferred tax liabilities make up the asset category titled "net
deferred taxes." 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 Footnote 11 (Federal Income Taxes)
to DNB's audited consolidated financial statements for the fiscal year ended
December 31, 2002.
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 $400.4 million at June 30, 2003 compared to $384.4
million at December 31, 2002. Investment securities (AFS and HTM) increased
$28.6 million or 18% to $188.4 million at June 30, 2003. Significant declines in
mortgage-backed securities (MBS) and collateralized mortgage obligation's (CMO)
occurred as lowered interest rates spurred paydowns of approximately $40.5
million. In addition, investment maturities and sales totaled $21.0 million.
Cashflows from these transactions were used to reinvest $87.4 million in MBS's &
CMO's and $11.4 million in tax-free municipal securities. Net loans were $184.8
million, compared to $187.6 million at December 31, 2002. Federal funds
purchased were $3.8 million at June 30, 2003, compared to Federal funds sold of
$10.5 million at December 31, 2002.
Deposits at June 30, 2003 totaled $286.5 million, down $1.3 million or 0.4%
from $287.8 million at December 31, 2002. Time deposits were down $14.4 million
and money market accounts declined $560,000. NOW, non-interest-bearing and
savings accounts increased $5.9 million, $4.0 million and $3.8 million,
respectively, reflecting customer preferences for short-term deposits in this
low interest rate environment. FHLB advances increased $15.0 million or 24% to
$78.0 million at June 30, 2003. Federal funds purchased increased $3.8 million
to $3.8 million at June 30, 2003.
At June 30, 2003, stockholders' equity was $25.0 million or $13.77 per
share, compared to $26.2 million or $14.33 per share at December 31, 2002. The
decrease in stockholders' equity was the result of a $1.0 million increase in
unrealized losses in investment securities available for sale, the purchase of
35,000 shares of treasury stock ($800,000), as well as dividends paid of
$473,000 or $0.26 per share, partially offset by net income of $920,000 for the
six months ended June 30, 2003.
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, investments and Federal
funds sold and interest-earning cash, as well as loan fees and dividend income.
Interest expense includes interest cost for deposits, Federal funds purchased,
Federal Home Loan Bank advances and other borrowings.
On a tax-equivalent basis, net interest income declined $572,000 or 17.0%
to $2.8 million for the three month period ended June 30, 2003 and $927,000 or
14.4% to $5.5 million for the six month period ending June 30, 2003 compared to
the same periods in 2002. The decreases were attributable to the effects of rate
changes as interest-earning assets, particularly investment securities, were
reinvested at lower rates. The reduction in net interest income from the effects
of rate changes amounted to $591,000 and $899,000 for each period, respectively.
The effect of volume changes in both periods were minimal. DNB's earnings
continue to be severely impacted by the historically low interest rate
environment. With strong mortgage refinancing activity, cash flows from
residential loans and mortgage-backed securities have been reinvested in lower
yielding assets. Consequently, our net interest margin has declined as the
yields on our loan and securities portfolio dropped faster than our ability to
reduce interest paid on deposits and other borrowed funds.
The following tables set 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 six months ended June 30, 2003 compared
to the same periods in 2002 (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.
Three Months Ended June 30, 2003
Compared to 2002
Increase (Decrease) Due to
Rate Volume Total
-------- -------- --------
Interest-earning assets:
Loans ................................ $ (316) $ (92) $ (408)
Investment securities
Taxable ......................... (745) 245 (500)
Tax-exempt ...................... (45) 26 (19)
Tax-preferred equity securities . (100) 11 (89)
Federal funds sold ................... (6) -- (6)
-------- -------- --------
Total ........................... $(1,212) $ 190 $(1,022)
-------- -------- --------
Interest-bearing liabilities:
Federal funds purchased .............. -- 1 1
Savings, NOW and money market deposits (190) 9 (181)
Time deposits ........................ (255) (58) (313)
FHLB advances ........................ (169) 219 50
Junior subordinated debentures ....... (7) -- (7)
-------- -------- --------
Total ................................ (621) 171 (450)
-------- -------- --------
Net Interest Income .................. $ (591) $ 19 $ (572)
======== ======== ========
Six Months Ended June 30, 2003
Compared to 2002
Increase (Decrease) Due to
Rate Volume Total
-------- -------- --------
Interest-earning assets:
Loans ................................ $ (470) $ (80) $ (550)
Investment securities
Taxable ......................... (1,348) 300 (1,048)
Tax-exempt ...................... (57) (55) (112)
Tax-preferred equity securities . (149) 27 (122)
Federal funds sold ................... (14) 12 (2)
-------- -------- --------
Total ........................... $(2,038) $ 204 $(1,834)
-------- -------- --------
Interest-bearing liabilities:
Federal funds purchased .............. -- 1 1
Savings, NOW and money market deposits (353) 17 (336)
Time deposits ........................ (490) (149) (639)
FHLB advances ........................ (275) 363 88
Junior subordinated debentures ....... (21) -- (21)
-------- -------- --------
Total ........................... (1,139) 232 (907)
-------- -------- --------
Net Interest Income .................. $ (899) $ (28) $ (927)
======== ======== ========
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 expensed
in current periods, while 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, 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"). The evaluations are also based on
management's review of the economy, interest rates, general market conditions,
estimates of the fair value of collateral, financial strength and ability of the
borrowers and guarantors to pay, and considerations regarding the current and
anticipated operating or sales environment. These estimates are particularly
susceptible to change and may result in a material adjustment to the allowance.
While management uses the latest information available to make its evaluation of
the adequacy of the allowance, future adjustments may be necessary if conditions
differ substantially from the assumptions used in making the evaluations.
There were no provisions made during the three and six months ended June
30, 2003, and 2002 since management determined the allowance for loan losses was
adequate based on its analysis and the level of net recoveries/(charge-offs)
compared to the total allowance. Net loan recoveries (charge-offs) were $37,000
for the six months ended June 30, 2003, compared to $(263,000) for the year
ended December 31, 2002 and $(15,000) for the six months ended June 30, 2002.
The percentage of net recoveries/ (charge-offs) to total average loans was .02%,
(.14%) and (.01%) for the same respective periods. Another measure of the
adequacy of the allowance is the coverage ratio of the allowance to
non-performing loans, which was 227.9% at June 30, 2003, compared to 117.5% at
December 31, 2002. In addition, the ratio of non-performing loans to total loans
was 1.09% at June 30, 2003, compared to 2.06% at December 31, 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.
6 Months Year 6 Months
Ended Ended Ended
6/30/03 12/31/02 6/30/02
Beginning balance .......... $ 4,546 $ 4,809 $ 4,809
Provisions ................. -- -- --
Loans charged off:
Real estate ......... (11) -- --
Commercial .......... (204) (221) --
Consumer ............ (58) (89) (42)
------- ------- -------
Total charged off (273) (310) (42)
Recoveries:
Real estate ......... 98 18 10
Commercial .......... 195 18 11
Consumer ............ 17 11 6
------- ------- -------
Total recoveries 310 47 27
------- ------- -------
Net recoveries/(charge-offs) 37 (263) (15)
------- ------- -------
Ending balance ............. $ 4,583 $ 4,546 $ 4,794
======= ======= =======
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 ("BOLI"), 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 six month periods ended June 30, 2003, non-interest
income was $836,000 and $1.5 million, respectively, compared to $625,000 and
$1.2 million for the same periods in 2002. Income from DNB's Wealth Management
Group (DNB Advisors and DNB Financial Services) rose $74,000 to $171,000 and
$114,000 to $312,000 for the three and six month periods, respectively.
Increases in gains from sales of investments of $60,000 were reflected in the
three and six months periods ending June 30, 2003. In addition, income from the
cash surrender value of the bank owned life insurance rose $5,000 to $54,000 and
$16,000 to $114,000 for the three and six month periods, respectively.
Other non-interest income increased $23,000 and $46,000 to $175,000 and
$350,000 for the three and six month periods ended June 30, 2003, respectively.
The increase in other income for the three and six month periods reflected
higher commissions on STAR/Visa debit card products and cash management 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 $93,000 to $3.0 million and $55,000 to $5.8
million for the three and six month periods ended June 30, 2003, compared to the
same periods ended June 30, 2002. The increase during the three and six month
periods was due to increases in a majority of the expense categories, as
discussed below.
Salaries & employee benefits increased $67,000 or 4.17% to $1.6 million and
$67,000 or 2.2% to $3.2 million for the three and six months ended June 30,
2003, compared to $1.6 million and $3.1 million for the same periods in 2002.
The increase in this category largely reflects severance payments of $67,000.
Furniture & equipment and occupancy expense increased $56,000 or 17.3% to
$379,000 and $88,000 or 13.6% to $733,000 for the three and six months ended
June 30, 2003, respectively, compared to $323,000 and $645,000 for the same
periods in 2002. The increase was due to higher levels of equipment depreciation
relating to a new bank-wide voice-mail system and other equipment/software
upgrades.
Professional & consulting expense decreased $27,000 or 22.7% to $119,000
and $77,000 or 24.7% to $235,000 for the three and six month periods ended June
30, 2003, respectively, compared to $146,000 and $312,000 for the same periods
in 2002. The decrease was due to one-time recoveries of $48,000 of legal fees on
two delinquent loans, as well as expenses incurred for Bank-wide training and
consulting services for various areas of the Bank during 2002 that were not
incurred in 2003.
INCOME TAXES
Income tax expense was $103,000 and $197,000 for the three and six months
ended June 30, 2003, respectively, compared to $215,000 and $358,000 for the
same periods in 2002. The effective tax rate was 19% for the three month period
and 18% for the six month period ending June 30, 2003 compared to 23% and 21%
for the same periods ending June 30, 2002. The effective tax rates were less
than the statutory rate due to the effect of tax exempt income, tax credits
recognized on a low-income housing limited partnership and DNB's ownership of
BOLI policies relative to a lower level of pretax income.
ASSET QUALITY
Non-performing assets are comprised of nonaccrual loans, loans delinquent
over ninety days and still accruing, troubled debt restructurings ("TDR's") 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 non-performing 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,
(iii) loans restructured in a troubled debt restructuring and (iv) other real
estate owned as a result of foreclosure or voluntary transfer to DNB.
(Dollars in thousands) June 30 Dec. 31 June 30
2003 2002 2002
------ ------ ------
Nonaccrual Loans:
Residential mortgage .......................... $ 330 $ 285 $ 214
Commercial mortgage ........................... 434 1,057 193
Commercial .................................... 260 254 248
------ ------ ------
Total nonaccrual loans ............................. 1,527 3,354 2,310
Loans 90 days past due and still accruing .......... 484 514 549
Troubled debt restructurings ....................... -- -- --
------ ------ ------
Total non-performing loans ......................... 2,011 3,868 2,859
Other real estate owned ............................ -- -- --
------ ------ ------
Total non-performing assets ........................ $2,011 $3,868 $2,859
====== ====== ======
The following table sets forth the DNB's asset quality and allowance
coverage ratios at the dates indicated:
June 30 Dec. 31 June 30
2003 2002 2002
------- ------- ------
Non-performing Loans/Total Loans ................... 1.1% 2.1% 1.5%
Non-performing Assets/Total Assets ................. 0.5 1.0 0.8
Allowance for Loan Losses/Total Loans .............. 2.5 2.4 2.5
Allowance for Loan Losses/Total Loans and OREO ..... 2.5 2.4 2.5
Allowance for Loan Losses/Non-performing Assets .... 227.9 117.5 167.7
Allowance for Loan Losses/Non-performing Loans ..... 227.9 117.5 167.7
If interest income had been recorded on nonaccrual loans, interest would
have been increased as shown in the following table:
6 Months Year 6 Months
Ended Ended Ended
(Dollars in thousands) 6/30/03 12/31/02 6/30/02
------- -------- -------
Interest income which would have been recorded
under original terms ........................ $ 50 $ 230 $ 82
Interest income recorded during the period ......... (47) (159) (46)
------ ------ -----
Net impact on interest income ...................... $ 3 $ 71 $ 36
====== ====== =====
Information regarding impaired loans is as follows:
6 Months Year 6 Months
Ended Ended Ended
(Dollars in thousands) 6/30/03 12/31/02 6/30/02
------- -------- -------
Total recorded investment ................. $ 509 $2,400 $ 932
Average recorded investment ............... 931 2,000 1,251
Specific ALLL allocation .................. -- -- --
Total cash collected ...................... 3 47 21
Interest income recorded .................. -- 21 21
====== ======= ======
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 June 30, 2003 DNB has $14.1 million in commitments to fund commercial
real estate, construction and land development. In addition, DNB had commitments
to fund $8.4 million in home equity lines of credit and $11.2 million in other
unused commitments. Management anticipates the majority of these commitments
will be funded by means of normal cash flows. In addition, $46.7 million of time
deposits at DNB are scheduled to mature during the six months ending December
31, 2003. Management believes that the majority of such deposits will be
reinvested with DNB and that certificates that are not renewed will be funded by
cash flow from 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 to be conducted through open market or privately negotiated transactions.
Shares purchased in the program are held as treasury stock. During the period
ending June 30, 2003, DNB repurchased 35,195 shares of its Common Stock pursuant
to the program at a total cost of $800,000.
Stockholders' equity decreased to $25.0 million at June 30, 2003 as a
result of a decrease in market value of available for sale investments, net of
tax ($1 million), the purchase of treasury stock ($800,000) and dividends paid
($473,000), partially offset by the year-to-date profit reported for the six
months then ended ($920,000). The Bank's common equity position at June 30, 2003
exceeds the regulatory required minimums. The following table summarizes data
and ratios pertaining to DNB'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 June 30, 2003:
Total risk-based capital .... $32,691 12.71% $20,571 8.00% $25,713 10.00%
Tier 1 capital .............. 29,460 11.46 10,285 4.00 15,428 6.00
Tier 1 (leverage) capital ... 29,460 7.41 15,912 4.00 19,890 5.00
Downingtown National Bank
As of June 30, 2003:
Total risk-based capital .... $30,791 11.98% $20,565 8.00% $25,706 10.00%
Tier 1 capital .............. 27,561 10.72 10,282 4.00 15,424 6.00
Tier 1 (leverage) capital ... 27,561 6.93 15,906 4.00 19,883 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 8.3%,
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 DNB's margins.
FACTORS THAT MAY AFFECT FUTURE RESULTS
As a financial institution, DNB's earnings are significantly affected by
general business and economic conditions. These conditions include short-term
and long-term interest rates, inflation, monetary supply, fluctuations in both
debt and equity capital markets, and the strength of the United States economy
and local economies in which we operate. For example, an economic downturn,
increase in unemployment, or other events that negatively impact household
and/or corporate incomes could decrease the demand for DNB's loan and non-loan
products and services and increase the number of customers who fail to pay
interest or principal on their loans.
The Financial Accounting Standards Board's Interpretation No. 46 and its
Statement of Financial Accounting Standards ("SFAS") 150 will affect certain
special-purpose entities ("SPEs") that banking and other companies hold off the
balance sheet. Beginning in the third quarter of 2003, companies with SPEs may
be required to consolidate them onto their balance sheets. One of the potential
results of this change could be to reclassify trust-preferred securities as debt
rather than equity. This raises the question whether, as a result, bank
regulatory agencies would begin to treat trust preferred securities as debt not
qualifying for Tier 1 capital status for purposes of calculating certain
regulatory capital ratios of bank holding companies and federally insured
depository institutions. On July 2, 2003, the Federal Reserve Board announced
that, for the time being, bank holding companies should continue to include
trust preferred securities as elements of Tier 1 capital. However, it is
uncertain whether the Federal Reserve Board will maintain this position
indefinitely or, if it decides to disqualify trust preferred securities as
elements of Tier 1 capital, whether the Federal Reserve Board will "grandfather"
the Tier 1 capital status of existing issues of trust preferred securities. If
the Federal Reserve Board were to change its treatment of trust preferred
securities and not grandfather existing issues, DNB (and not the Bank) would be
required to reduce its Tier 1 capital for regulatory purposes. Management does
not believe that such an adjustment would have a material adverse impact on DNB
or the Bank.
Geopolitical conditions can also affect DNB's earnings. Acts or threats of
terrorism, actions taken by the United States or other governments in response
to acts or threats of terrorism and our military conflicts including the
aftermath of the war with Iraq, could impact business conditions in the United
States.
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
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 June 30, 2003 and December 31, 2002, 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. At June 30, 2003 and December 31, 2002,
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 the
DNB's negative 3% policy guideline, however the change as a percentage of the
present value of equity was a negative 27.6% for a negative 200 basis point rate
change, which is outside of DNB's negative 25% policy. This occurred as the
duration of DNB's assets shortened more quickly than the duration of its
liabilities. Subsequent to June 30, 2003, management has taken the necessary
steps to move this ratio within policy guidelines, including but not limited to
reducing the level of Federal funds sold, purchasing municipal securities with
positive convexity, promoting five year fixed rate lending and attempting to
shorten the overall duration of deposits through pricing.
June 30, 2003 December 31, 2002
------------------------------------ -----------------------------------
Change in rates Flat -200bp +200bp Flat -200bp +200bp
-------- --------- --------- --------- --------- --------
Economic Value of
Portfolio Equity .......... $ 26,694 $ 19,334 $ 24,624 $ 27,381 $ 17,760 $ 28,553
Change ................ (7,360) (2,070) (9,621) 1,172
Change as a % of assets (1.84%) (0.52%) (2.5%) 0.3%
Change as a % of PV equity ..... (27.57%) (7.75%) (35.1%) 4.3%
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 240.15d-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
At the Corporation's Annual Meeting held April 30, 2003, the
stockholders voted as follows:
A. Election of Class "B" Directors: James J. Koegel
For: 1,384,633 Withheld: 75,824
Eli Silberman
For: 1,384,683 Withheld: 75,324
Henry F. Thorne
For: 1,375,032 Withheld: 84,925
B. The motion to ratify the appointment of KPMG LLP as the independent
auditors for the fiscal year ending December 31, 2003 was voted on as
follows:
For: 1,387,023 Against: 61,265 Abstain: 11,669
ITEM 5. OTHER INFORMATION
Not Applicable
ITEM 6.
(a) EXHIBITS:
31.1 Certification Pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002 for the Chief Executive Officer.
31.2 Certification Pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002 for the Chief Financial Officer.
32 Certification of Chief Executive Officer and Chief Financial
Officer pursuant to Section 906 of Sarbanes-Oxley Act of
2002.
(b) REPORTS ON FORM 8-K
Current report on Form 8-K dated and filed April 3, 2003,
Items 7 and 9. The Chief Executive Officer and Chief
Financial Officer of DNB Financial Corporation (the
"Company") each submitted to the Securities and Exchange
Commission on March 24, 2003 the certifications required by
Section 906 of the Sarbanes-Oxley Act of 2002 in connection
with the filing of the Company's Annual Report on Form 10-K
for the period ending December 31, 2002.
Current report on Form 8-K dated and filed April 24, 2003,
Item 7 and 9. DNB Financial Corporation filed a Current
Report on Form 8-K disclosing the Company's press release
announcing first quarter 2003 earnings and an amended Code
of Ethics for all directors, the principal executive
officer, senior financial officers, and employees as
required by Section 406(b) of the Sarbanes-Oxley Act of
2002.
Current report on Form 8-K dated and filed May 28, 2003,
Item 7 and 9. The Board of Directors of DNB Financial
Corporation declared a cash dividend of $0.13 per share for
the second quarter of 2003 to shareholders of record on June
10, 2003.
Current report on Form 8-K dated and filed June 3, 2003,
Item 7 and 9. On June 2, 2003, DNB Financial Corporation
issued a press release announcing two new additions to its
Board of Directors, as well as its executive staff. Also,
Board member William S. Latoff was elected Chairman of the
Board during the Board's reorganizing meeting.
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: August 14, 2003 /S/ Henry F. Thorne
------------------------------
Henry F. Thorne, President
and Chief Executive Officer
DATE: August 14, 2003 /S/ Bruce E. Moroney
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Bruce E. Moroney
Chief Financial Officer