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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2003
OR
( ) Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transition period from to
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COMMISSION FILE NUMBER: 0-15536
CODORUS VALLEY BANCORP, INC.
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(Exact name of registrant as specified in its charter)
Pennsylvania 23-2428543
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
105 Leader Heights Road, P.O. Box 2887, York, Pennsylvania 17405
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(Address of principal executive offices) (Zip code)
717-747-1519
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(Registrant's telephone number, including area code)
Not Applicable
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(Former name, former address and former fiscal year,
if changed since the last report.)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]
Indicate by checkmark whether the registrant is an accelerated filer (as defined
in Rule 12b-2 of the Act). Yes [ ] No [X]
APPLICABLE ONLY TO CORPORATE REGISTRANTS
Indicate the number of shares outstanding of each of the registrant's classes of
common stock, as of the latest practicable date. On October 28, 2003, 2,837,634
shares of common stock, par value $2.50, were outstanding.
- 1 -
Codorus Valley Bancorp, Inc.
FORM 10-Q INDEX
Page #
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PART I - FINANCIAL INFORMATION
Item 1. Financial statements:
Consolidated statements of financial condition 3
Consolidated statements of income 4
Consolidated statements of cash flows 5
Consolidated statements of changes in stockholders' equity 6
Notes to consolidated financial statements 7
Item 2. Management's discussion and analysis of financial condition and
results of operations 13
Item 3. Quantitative and qualitative disclosures about market risk 23
Item 4. Controls and procedures 23
PART II - OTHER INFORMATION
Item 1. Legal proceedings 23
Item 2. Changes in securities and use of proceeds 24
Item 3. Defaults upon senior securities 24
Item 4. Submission of matters to a vote of security holders 24
Item 5. Other information 24
Item 6. Exhibits and reports on Form 8-K 24
SIGNATURES 26
- 2 -
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
Codorus Valley Bancorp, Inc.
Consolidated Statements of Financial Condition
Unaudited
September 30, December 31,
(dollars in thousands, except per share data) 2003 2002
- --------------------------------------------------------------------------------------------------------------------------
ASSETS
Interest bearing deposits with banks $ 102 $ 242
Cash and due from banks 8,981 10,878
- --------------------------------------------------------------------------------------------------------------------------
Total cash and cash equivalents 9,083 11,120
Securities, available-for-sale 68,000 70,366
Securities, held-to-maturity (fair value $10,196 for 2003 and $9,539 for 2002) 9,355 9,357
Loans, held for sale 1,506 4,586
Loans (net of deferred fees of $606 in 2003 and $645 in 2002) 251,574 233,960
Less-allowance for loan losses (1,775) (1,515)
- --------------------------------------------------------------------------------------------------------------------------
Net loans 249,799 232,445
Premises and equipment 9,249 9,335
Other assets 15,168 12,688
- --------------------------------------------------------------------------------------------------------------------------
Total assets $ 362,160 $ 349,897
==========================================================================================================================
LIABILITIES
Deposits
Noninterest bearing $ 32,592 $ 30,120
Interest bearing 272,274 262,507
- --------------------------------------------------------------------------------------------------------------------------
Total deposits 304,866 292,627
Short-term borrowings 554 7,089
Long-term debt 19,661 16,164
Other liabilities 3,671 1,794
- --------------------------------------------------------------------------------------------------------------------------
Total liabilities 328,752 317,674
STOCKHOLDERS' EQUITY
Preferred stock, par value $2.50 per share;
1,000,000 shares authorized; 0 shares issued and outstanding 0 0
Common stock, par value $2.50 per share;
10,000,000 shares authorized; 2,831,599 shares issued and
outstanding on 9/30/03 and 2,697,035 on 12/31/02 7,079 6,743
Additional paid-in capital 17,366 15,549
Retained earnings 8,103 8,551
Accumulated other comprehensive income 860 1,380
- --------------------------------------------------------------------------------------------------------------------------
Total stockholders' equity 33,408 32,223
- --------------------------------------------------------------------------------------------------------------------------
Total liabilities and stockholders' equity $ 362,160 $ 349,897
==========================================================================================================================
See accompanying notes
- 3 -
Codorus Valley Bancorp, Inc.
Consolidated Statements of Income
Unaudited
Three months ended Nine months ended
September 30, September 30,
(dollars in thousands, except per share data) 2003 2002 2003 2002
- -----------------------------------------------------------------------------------------------------------------------
INTEREST INCOME
Loans, including fees $ 4,550 $ 4,272 $ 12,741 $ 12,931
Investment securities
Taxable 605 776 1,900 1,920
Tax-exempt 103 133 336 395
Dividends 8 7 31 27
Other 18 39 63 222
- -----------------------------------------------------------------------------------------------------------------------
Total interest income 5,284 5,227 15,071 15,495
INTEREST EXPENSE
Deposits 1,425 1,841 4,459 5,986
Federal funds purchased and other short-term borrowings 2 1 7 1
Long-term debt 275 298 771 911
- -----------------------------------------------------------------------------------------------------------------------
Total interest expense 1,702 2,140 5,237 6,898
- -----------------------------------------------------------------------------------------------------------------------
Net interest income 3,582 3,087 9,834 8,597
PROVISION FOR LOAN LOSSES 254 0 478 70
- -----------------------------------------------------------------------------------------------------------------------
Net interest income after provision for loan losses 3,328 3,087 9,356 8,527
NONINTEREST INCOME
Trust and investment services fees 219 182 631 581
Service charges on deposit accounts 349 202 812 571
Annuity and insurance commissions 190 66 529 166
Income from bank owned life insurance 91 81 240 229
Other income 113 99 304 303
Gain on sale of mortgages 155 136 637 460
Gain on sale of securities 0 107 266 179
- -----------------------------------------------------------------------------------------------------------------------
Total noninterest income 1,117 873 3,419 2,489
NONINTEREST EXPENSE
Salaries and benefits 1,590 1,488 4,866 4,341
Occupancy of premises, net 235 194 754 595
Furniture and equipment 288 257 843 794
Postage, stationery and supplies 84 98 304 299
Professional and legal 132 48 366 176
Marketing and advertising 78 109 243 356
Foreclosed real estate, net (24) 6 80 52
Other 508 517 1,686 1,418
- -----------------------------------------------------------------------------------------------------------------------
Total noninterest expense 2,891 2,717 9,142 8,031
- -----------------------------------------------------------------------------------------------------------------------
Income before income taxes 1,554 1,243 3,633 2,985
PROVISION FOR INCOME TAXES 431 271 936 567
- -----------------------------------------------------------------------------------------------------------------------
Net income $ 1,123 $ 972 $ 2,697 $ 2,418
=======================================================================================================================
Net income per share, basic $ 0.40 $ 0.34 $ 0.95 $ 0.86
Net income per share, diluted $ 0.39 $ 0.34 $ 0.94 $ 0.85
=======================================================================================================================
See accompanying notes.
- 4 -
Codorus Valley Bancorp, Inc.
Consolidated Statements of Cash Flows
Unaudited
Nine months ended
September 30,
(dollars in thousands) 2003 2002
- ----------------------------------------------------------------------------------------------------------------------
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 2,697 $ 2,418
Adjustments to reconcile net income to net cash provided by operations
Depreciation 737 723
Provision for loan losses 478 70
Provision for losses on foreclosed real estate 55 30
Amortization of investment in real estate partnership 156 589
Increase in cash surrender value of life insurance investment (240) (229)
Originations of held for sale mortgages (57,971) (34,118)
Proceeds from sales of held for sale mortgages 61,688 42,836
Gain on sales of held for sale mortgages (637) (460)
Gain on sales of securities (266) (179)
Gain on sales of foreclosed real estate (81) (58)
Decrease (increase) in accrued interest receivable and other assets 310 (1,189)
(Decrease) increase in accrued interest payable and other liabilities (42) 113
Other, net 526 490
- ----------------------------------------------------------------------------------------------------------------------
Net cash provided by operating activities 7,410 11,036
CASH FLOWS FROM INVESTING ACTIVITIES
Securities, available-for-sale:
Purchases (31,895) (68,539)
Maturities and calls 19,444 17,158
Sales 13,859 14,316
Net increase in loans made to customers (18,210) (4,333)
Purchases of premises and equipment (659) (521)
Investment in real estate partnership (826) (2,982)
Investment in cash surrender value life insurance (7) (306)
Purchase of assets of insurance agency (25) (125)
Proceeds from sales of foreclosed real estate 663 257
- ----------------------------------------------------------------------------------------------------------------------
Net cash used in investing activities (17,656) (45,075)
CASH FLOWS FROM FINANCING ACTIVITIES
Net increase in demand and savings deposits 12,916 20,274
Net decrease in time deposits (677) (4,226)
Net (decrease) increase in short-term borrowings (6,535) 5,255
Proceeds from issuance of long-term debt 5,000 0
Repayment of long-term debt (1,503) (299)
Dividends paid (987) (938)
Issuance of common stock 0 39
Cash paid in lieu of fractional shares (5) (4)
- ----------------------------------------------------------------------------------------------------------------------
Net cash provided by financing activities 8,209 20,101
- ----------------------------------------------------------------------------------------------------------------------
Net decrease in cash and cash equivalents (2,037) (13,938)
Cash and cash equivalents at beginning of year 11,120 25,035
- ----------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents at end of period $ 9,083 $ 11,097
======================================================================================================================
See accompanying notes
- 5 -
Codorus Valley Bancorp, Inc.
Consolidated Statements of Changes in Stockholders' Equity
Unaudited
Accumulated
Additional Other
Common Paid-in Retained Comprehensive
(dollars in thousands) Stock Capital Earnings Income Total
- ----------------------------------------------------------------------------------------------------------------------
For the nine months ended September 30, 2003
Balance, December 31, 2002 $6,743 $ 15,549 $ 8,551 $ 1,380 $ 32,223
Comprehensive income:
Net income 2,697 2,697
Other comprehensive income, net of tax:
Unrealized losses on securities, net (520) (520)
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Total comprehensive income 2,177
Cash dividends ($.348 per share, adjusted) (987) (987)
5% stock dividend - 134,564 shares at fair value 336 1,817 (2,158) (5)
- ----------------------------------------------------------------------------------------------------------------------
Balance, September 30, 2003 $7,079 $ 17,366 $ 8,103 $ 860 $ 33,408
======================================================================================================================
For the nine months ended September 30, 2002
Balance, December 31, 2001 $6,411 $ 14,004 $ 8,526 $ 427 $ 29,368
Comprehensive income:
Net income 2,418 2,418
Other comprehensive income, net of tax:
Unrealized gains on securities, net 862 862
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Total comprehensive income 3,280
Cash dividends ($.332 per share, adjusted) (938) (938)
5% stock dividend - 127,927 shares at fair value 320 1,490 (1,814) (4)
Issuance of common stock - 2,642 shares 6 33 39
- ----------------------------------------------------------------------------------------------------------------------
Balance, September 30, 2002 $6,737 $ 15,527 $ 8,192 $ 1,289 $ 31,745
======================================================================================================================
See accompanying notes.
- 6 -
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1--BASIS OF PRESENTATION
The interim financial statements are unaudited. However, they reflect all
adjustments that are, in the opinion of management, necessary to present fairly
the financial condition and results of operations for the reported periods, and
are of a normal and recurring nature.
These statements should be read in conjunction with the notes to the audited
financial statements contained in the 2002 Annual Report to Stockholders.
The consolidated financial statements include the accounts of Codorus Valley
Bancorp, Inc. and its wholly owned bank subsidiary, PeoplesBank, A Codorus
Valley Company (PeoplesBank), and its wholly owned nonbank subsidiary, SYC
Realty Company, Inc., collectively referred to as Codorus Valley Bancorp, Inc.
PeoplesBank has two wholly owned subsidiaries, SYC Insurance Services, Inc. and
SYC Settlement Services, Inc. All significant intercompany account balances and
transactions have been eliminated in consolidation. The combined results of
operations of the nonbank subsidiaries are not material to the consolidated
financial statements.
The results of operations for the nine-month period ended September 30, 2003 are
not necessarily indicative of the results to be expected for the full year.
NOTE 2--SIGNIFICANT ACCOUNTING POLICIES
Stock dividend and per share computations
All per share computations include the effect of stock dividends declared,
including the 5 percent stock dividend declared April 8, 2003. The weighted
average number of shares of common stock outstanding, used for basic and diluted
calculations follows.
Three months ended Nine months ended
September 30, September 30,
---------------------------------------------------------------------------------
(In thousands) 2003 2002 2003 2002
- -------------------------------------------------------------------------------------------------------------
Basic 2,832 2,828 2,832 2,827
Diluted 2,855 2,839 2,855 2,838
Stock-based compensation
Stock options issued under shareholder approved employee and director stock
option plans are accounted for under Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees" (APB 25). Stock options are granted
at exercise prices not less than the fair value of the common stock on the date
of grant. Under APB 25, no compensation expense is recognized related to these
plans.
In accordance with Financial Accounting Standard No. 123, the Corporation has
elected to disclose the pro forma information regarding net income and net
income per share as if the stock options had been accounted for under the
recognition provisions of the Statement. For purposes of pro forma disclosures,
the estimated fair value of the options is amortized to expense over the
options' vesting period. Pro forma amounts are indicated below:
- 7 -
Three months ended Nine months ended
September 30, September 30,
(Dollars in thousands, except per share data) 2003 2002 2003 2002
- --------------------------------------------------------------------------------------------------------------------------
Reported net income $ 1,123 $ 972 $ 2,697 $ 2,418
Deduct total stock-based employee
compensation expense determined under fair
value based method for all awards, net of
related tax effects 5 46 22 132
- --------------------------------------------------------------------------------------------------------------------------
Pro forma net income $ 1,118 $ 926 $ 2,675 $ 2,286
- --------------------------------------------------------------------------------------------------------------------------
Reported basic earnings per share $ .40 $ .34 $ .95 $ .86
- --------------------------------------------------------------------------------------------------------------------------
Reported diluted earnings per share $ .39 $ .34 $ .94 $ .85
- --------------------------------------------------------------------------------------------------------------------------
Pro forma basic earnings per share $ .39 $ .33 $ .94 $ .81
- --------------------------------------------------------------------------------------------------------------------------
Pro forma diluted earnings per share $ .39 $ .33 $ .94 $ .81
==========================================================================================================================
Comprehensive income
Accounting principles generally require that recognized revenue, expenses, gains
and losses be included in net income. Although certain changes in assets and
liabilities, such as unrealized gains and losses on available-for-sale
securities, are reported as a separate component of the equity section of the
balance sheet, such items, along with net income, are components of
comprehensive income. The components of other comprehensive income and related
tax effects are presented in the following table:
Three months ended Nine months ended
September 30, September 30,
(Dollars in thousands) 2003 2002 2003 2002
- --------------------------------------------------------------------------------------------------------------------------
Unrealized holding (losses) gains arising
during the period $ (900) $ 793 $ (522) $ 1,485
Reclassification adjustment for gains
included in income 0 (107) (266) (179)
- --------------------------------------------------------------------------------------------------------------------------
Net unrealized (losses) gains (900) 686 (788) 1,306
Tax effect 306 (233) 268 (444)
- --------------------------------------------------------------------------------------------------------------------------
Net of tax amount $ (594) $ 453 $ (520) $ 862
- --------------------------------------------------------------------------------------------------------------------------
Reclassifications
Certain amounts in the 2002 financial statements have been reclassified to
conform to the 2003 presentation format. These reclassifications had no impact
on the Corporation's net income.
Recently issued FASB Statements
In May 2003, the Financial Accounting Standards Board issued Statement No. 150
(Statement), "Accounting for Certain Financial Instruments with Characteristics
of Both Liabilities and Equity." This Statement requires that an issuer classify
a financial instrument that is within its scope as a liability. Many of these
instruments were previously classified as equity. This Statement was effective
for financial instruments entered into or modified after May 31, 2003 and
otherwise was effective beginning July 1, 2003. The adoption of this Statement
did not have any impact on the Corporation's financial condition or results of
operations.
In April 2003, the Financial Accounting Standards Board issued Statement No. 149
(Statement), "Amendment of Statement No. 133, Accounting for Derivative
Instruments and Hedging Activities". This Statement clarifies the definition of
a derivative and incorporates certain decisions made by the
- 8 -
Board as part of the Derivatives Implementation Group process. The Statement was
effective for contracts entered into or modified, and for hedging relationships
designated after June 30, 2003. Adoption of this Statement did not have a
significant impact on the Corporation's financial condition or results of
operations.
In January 2003, the Financial Accounting Standards Board issued FASB
Interpretation No. 46, "Consolidation of Variable Interest Entities, an
Interpretation of ARB No. 51." This interpretation provides new guidance for the
consolidation of variable interest entities (VIEs) and requires such entities to
be consolidated by their primary beneficiaries if the entities do not
effectively disperse risk among parties involved. The interpretation also adds
disclosure requirements for investors that are involved with unconsolidated
VIEs. The disclosure requirements apply to all financial statements issued after
January 31, 2003. The consolidation requirements apply immediately to VIEs
created after January 31, 2003, and are effective December 31, 2003, for VIEs
acquired before February 1, 2003. The adoption of this interpretation did not
have and is not expected to have a significant impact on the Corporation's
financial condition or results of operations.
In November 2002, the Financial Accounting Standards Board (FASB) issued FASB
Interpretation No. 45 (FIN 45), "Guarantor's Accounting and Disclosure
Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of
Others." This Interpretation expands the disclosures to be made by a guarantor
in its financial statements about its obligations under certain guarantees and
requires the guarantor to recognize a liability for the fair value of an
obligation assumed under certain specified guarantees. FIN 45 clarifies the
requirements of FASB Statement No. 5, "Accounting for Contingencies." In
general, FIN 45 applies to contracts or indemnification agreements that
contingently require the guarantor to make payments to the guaranteed party
based on changes in an underlying that is related to an asset, liability or
equity security of the guaranteed party, which would include financial standby
letters of credit. Certain guarantee contracts are excluded from both the
disclosure and recognition requirements of this Interpretation, including, among
others, guarantees related to commercial letters of credit and loan commitments.
The disclosure requirements of FIN 45 require disclosure of the nature of the
guarantee, the maximum potential amount of future payments that the guarantor
could be required to make under the guarantee and the current amount of the
liability, if any, for the guarantor's obligations under the guarantee. The
accounting recognition requirements of FIN 45 are to be applied prospectively to
guarantees issued or modified after December 31, 2002. Adoption of FIN 45 did
not have a significant impact on the Corporation's financial condition or
results of operations.
Outstanding letters of credit written are conditional commitments issued by the
Corporation to guarantee the performance of a customer to a third party. The
Corporation's exposure to credit loss in the event of nonperformance by the
other party to the financial instrument for standby letters of credit is
represented by the contractual amount of those instruments. The Corporation had
$2,733,000 of standby letters of credit as of September 30, 2003. PeoplesBank
uses the same credit policies in making conditional commitments as it does for
on-balance sheet instruments.
The majority of these standby letters of credit expire within the next twelve
months. The credit risk involved in issuing letters of credit is essentially the
same as that involved in extending other loan commitments. The Corporation
requires collateral and personal guarantees supporting these letters of credit
as deemed necessary. Management believes that the proceeds obtained through a
liquidation of such collateral and the enforcement of personal guarantees would
be sufficient to cover the maximum potential amount of future payments required
under the corresponding guarantees. The current amount of the liability as of
September 30, 2003 for guarantees under standby letters of credit issued after
December 31, 2002 is not material.
- 9 -
NOTE 3--DEPOSITS
The composition of deposits on September 30, 2003 and December 31, 2002, was as
follows:
September 30, December 31,
(Dollars in thousands) 2003 2002
- -----------------------------------------------------------------------------------------
Noninterest bearing demand $ 32,592 $ 30,120
NOW 38,496 34,851
Money market 78,632 73,938
Savings 15,128 13,023
Time CDs less than $100,000 114,175 114,808
Time CDs $100,000 or more 25,843 25,887
- -----------------------------------------------------------------------------------------
Total deposits $ 304,866 $ 292,627
=========================================================================================
NOTE 4--LONG-TERM DEBT
A summary of long-term debt at September 30, 2003 and December 31, 2002 follows:
September 30, December 31,
(Dollars in thousands) 2003 2002
- -----------------------------------------------------------------------------------------
Obligations of PeoplesBank to FHLBP
Due 2004, 5.12% $ 0 $ 1,025
Due 2005, 5.36%, convertible quarterly 6,000 6,000
Due 2007, 4.69%, amortizing 1,353 1,636
Due 2013, 3.46%, amortizing 4,860 0
Due 2014, 6.43%, convertible quarterly after
July 2009 5,000 5,000
Obligations of Codorus Valley Bancorp, Inc.
Due 2009, 7.35%, amortizing 1,807 1,848
- -----------------------------------------------------------------------------------------
19,020 15,509
Capital lease obligation 641 655
- -----------------------------------------------------------------------------------------
Total long-term debt $ 19,661 $ 16,164
- -----------------------------------------------------------------------------------------
PeoplesBank's obligations to FHLBP are fixed rate and fixed/floating
(convertible) rate instruments. The FHLBP has an option on the convertible
borrowings to convert the rate to a floating rate after the expiration of a
specified period. The floating rate is based on the LIBOR index plus a spread.
If the FHLBP elects to exercise its conversion option, PeoplesBank, can repay
the converted loan without a prepayment penalty. The obligation of Codorus
Valley is secured by a mortgage on the Codorus Valley Corporate Center office
building at 105 Leader Heights Road, York, Pennsylvania.
- 10 -
NOTE 5--REGULATORY MATTERS
Codorus Valley and PeoplesBank are subject to various regulatory capital
requirements administered by banking regulators. Failure to meet minimum capital
requirements can initiate certain mandatory and possible additional
discretionary actions by regulators that, if undertaken, could have a material
effect on Codorus Valley's financial statements. Under capital adequacy
guidelines and the regulatory framework for prompt corrective action, Codorus
Valley and PeoplesBank must meet specific capital guidelines that involve
quantitative measures of assets, liabilities, and certain off-balance sheet
items as calculated under regulatory accounting practices. The capital amounts
and classifications are also subject to qualitative judgments by the regulators.
Quantitative measures established by regulators to ensure capital adequacy
require Codorus Valley and PeoplesBank to maintain minimum ratios, as set forth
below, to total and Tier 1 capital as a percentage of risk-weighted assets, and
of Tier 1 capital to average assets (leverage ratio). Management believes that
Codorus Valley and PeoplesBank were well capitalized on September 30, 2003,
based on FDIC capital guidelines.
CODORUS VALLEY BANCORP, INC.
MINIMUM FOR WELL CAPITALIZED
ACTUAL CAPITAL ADEQUACY MINIMUM*
--------------------------------------------------------------------
(dollars in thousands) AMOUNT RATIO AMOUNT RATIO AMOUNT RATIO
- ----------------------------------------------------------------------------------------------------
AT SEPTEMBER 30, 2003
Capital ratios:
Tier 1 risk based $32,203 11.51% > or = $ 11,195 > or = 4.0% n/a n/a
Total risk based 33,978 12.14 > or = 22,389 > or = 8.0 n/a n/a
Leverage 32,203 8.82 > or = 14,599 > or = 4.0 n/a n/a
- ----------------------------------------------------------------------------------------------------
AT DECEMBER 31, 2002
Capital ratios:
Tier 1 risk based $30,475 11.32% > or = $ 10,770 > or = 4.0% n/a n/a
Total risk based 31,990 11.88 > or = 21,539 > or = 8.0 n/a n/a
Leverage 30,475 8.93 > or = 13,650 > or = 4.0 n/a n/a
====================================================================================================
PEOPLESBANK
MINIMUM FOR WELL CAPITALIZED
ACTUAL CAPITAL ADEQUACY MINIMUM*
--------------------------------------------------------------------------------------
(dollars in thousands) AMOUNT RATIO AMOUNT RATIO AMOUNT RATIO
- ----------------------------------------------------------------------------------------------------------------------
AT SEPTEMBER 30, 2003
Capital ratios:
Tier 1 risk based $27,646 10.10% > or = $ 10,944 > or = 4.0% > or = $ 16,416 > or = 6.0%
Total risk based 29,421 10.75 > or = 21,889 > or = 8.0 > or = 27,361 > or = 10.0
Leverage 27,646 7.71 > or = 14,350 > or = 4.0 > or = 17,937 > or = 5.0
- ---------------------------------------------------------------------------------------------------------------------
AT DECEMBER 31, 2002
Capital ratios:
Tier 1 risk based $25,946 9.86% > or = $ 10,521 > or = 4.0% > or = $ 15,782 > or = 6.0%
Total risk based 27,461 10.44 > or = 21,042 > or = 8.0 > or = 26,303 > or = 10.0
Leverage 25,946 7.75 > or = 13,390 > or = 4.0 > or = 16,738 > or = 5.0
=====================================================================================================================
* To be well capitalized under prompt correction action provisions.
- 11 -
NOTE 6--CONTINGENT LIABILITIES
During the first quarter of 2003, a business-banking client filed a counterclaim
against PeoplesBank, alleging, among other things, that PeoplesBank: breached an
implied-in-fact agreement to the claimants related to loans made to the
claimants. PeoplesBank's management believes there are substantial defenses to
this lawsuit and intends to defend it vigorously. Further information regarding
this claim is included in this Form 10-Q, on page 23, under Part II, Item 1.
Legal proceedings.
Also during the first quarter of 2003, PeoplesBank became aware of a civil
forfeiture action brought about by the United States Attorney's Office. The
forfeiture action involves real estate supporting a loan that PeoplesBank made
to a customer who was allegedly involved with criminal activity. PeoplesBank is
actively protecting its mortgage interest in the real estate from forfeiture
through available defenses including the "innocent owner defense." Further
information regarding this forfeiture action is included in this Form 10-Q, on
page 20, under Forfeiture action related to mortgaged property.
- 12 -
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF CONSOLIDATED FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Management's discussion and analysis of the significant changes in the results
of operations, capital resources and liquidity presented in the accompanying
consolidated financial statements for Codorus Valley Bancorp, Inc. (Codorus
Valley or Corporation), a bank holding company, and its wholly owned subsidiary,
PeoplesBank, A Codorus Valley Company (PeoplesBank), are provided below. Codorus
Valley's consolidated financial condition and results of operations consist
almost entirely of PeoplesBank's financial condition and results of operations.
Current performance does not guarantee, and may not be indicative of, similar
performance in the future.
FORWARD-LOOKING STATEMENTS:
Management of the Corporation has made forward-looking statements in this Form
10-Q. These forward-looking statements are subject to risks and uncertainties.
Forward-looking statements include information concerning possible or assumed
future results of operations of the Corporation and its subsidiaries. When words
such as "believes," "expects," "anticipates" or similar expressions occur in the
Form 10-Q, management is making forward-looking statements.
Readers should note that many factors, some of which are discussed elsewhere in
this report and in the documents that management incorporates by reference,
could affect the future financial results of the Corporation and its
subsidiaries, both individually and collectively, and could cause those results
to differ materially from those expressed in the forward-looking statements
contained or incorporated by reference in this Form 10-Q. These factors include:
- - operating, legal and regulatory risks;
- - economic, political and competitive forces affecting banking,
securities, asset management and credit services businesses; and
- - the risk that management's analysis of these risks and forces could be
incorrect and/or that the strategies developed to address them could be
unsuccessful.
The Corporation undertakes no obligation to publicly revise or update these
forward-looking statements to reflect events or circumstances that arise after
the date of this report. Readers should carefully review the risk factors
described in other documents that Codorus Valley files periodically with the
Securities and Exchange Commission.
CRITICAL ACCOUNTING ESTIMATES:
Disclosure of Codorus Valley's significant accounting policies is included in
Note 1 to the consolidated financial statements of the 2002 Annual Report to
Stockholders, filed as Exhibit 13 to the Annual Report on Form 10-K for the
period ended December 31, 2002. Some of these policies are particularly
sensitive, requiring that management make significant judgments, estimates and
assumptions. Additional information is contained in Management's Discussion and
Analysis for the most sensitive of these issues, including the provision and
allowance for loan losses, located on pages 17 and 20 of this Form 10-Q.
Management makes significant estimates in determining the allowance for loan
losses. Consideration is given to a variety of factors in establishing this
estimate such as current economic conditions, diversification of the loan
portfolio, delinquency statistics, results of internal loan reviews, financial
and managerial strengths of borrowers, adequacy of collateral, if collateral
dependent, or present value of
- 13 -
future cash flows and other relevant factors. Estimates related to the value of
collateral also have a significant impact on whether or not management continues
to accrue income on delinquent loans and on the amounts at which foreclosed real
estate is recorded on the statement of financial condition. As described in Note
6--Contingent Liabilities, property collateralizing a loan on PeoplesBank's
books is subject to litigation. In establishing the loan loss allowance,
management presumed that the rights to the property would be protected. If,
however, PeoplesBank's property rights are not successfully protected the
allowance for loan losses will need to be increased through provision expense to
cover the loss.
As permitted by SFAS No. 123, the Corporation accounts for stock-based
compensation in accordance with Accounting Principles Board Opinion (APB) No.
25. Under APB No. 25, no compensation expense is recognized in the income
statement related to any options granted under the Corporation's stock option
plans. The pro forma impact of net income and earnings per share that would
occur if compensation expense was recognized, based on the estimated fair value
of the options on the date of grant, is disclosed in Note 2 to the financial
statements under Stock-Based Compensation. The Corporation has no current plans
to change its method of accounting for stock-based compensation.
Management discussed the development and selection of critical accounting
estimates and related Management Discussion and Analysis disclosure with the
Audit Committee. There were no material changes made to the critical accounting
estimates during the periods presented within.
THREE MONTHS ENDED SEPTEMBER 30, 2003
COMPARED TO THREE MONTHS ENDED SEPTEMBER 30, 2002
- -------------------------------------------------
OVERVIEW
Net income for the three-month period ended September 30, 2003, was $1,123,000
or $.39 per diluted share, compared to $972,000 or $.34 per diluted share, for
the same period of 2002. The $151,000 or 16 percent increase in net income was
caused primarily by an increase in net interest income and noninterest income,
which more than offset increases in provision for loan losses, noninterest
expense and federal income tax. Net interest income increased $495,000 or 16
percent over the same period of 2002 due primarily to lower funding costs (rate
driven) and a $306,000 recovery of interest income and loan fees from the payoff
of a nonperforming business loan. Noninterest income increased $244,000 or 28
percent over 2002 due primarily to increases in service charges on deposit
accounts and annuity and insurance commissions. The current period provision for
loan losses was $254,000, compared to $0 for the prior period due to the need to
increase the allowance for selected impaired business loans. Noninterest expense
increased $174,000 or 6 percent over 2002 due primarily to expansion,
principally the acquisition of an insurance agency in September of 2002 and the
addition of a financial center in December 2002. Legal and professional expense,
principally consulting expense, and normal business growth also contributed to
the increase in noninterest expense. The decrease in other expense for the
current quarter resulted in part from a $101,000 recovery of problem loan
carrying costs from the payoff of a nonperforming business loan. Current period
federal income tax increased $160,000 or 59 percent over 2002 due to an increase
in pretax earnings and a decrease in tax credits. An explanation of the factors
and trends that caused changes between the two periods, by earnings category, is
provided below.
NET INTEREST INCOME
Net interest income for the current three-month period ended September 30, 2003,
was $3,582,000, an increase of $495,000 or 16 percent above the same period in
2002. Net interest income increased primarily as a result of lower funding
costs. Current period funding costs reflected a decrease in deposit
- 14 -
rates, principally CDs. Current period net interest income was also positively
impacted by a $306,000 recovery of interest income and loan fees from the payoff
of a nonperforming business loan. Earning assets averaged $328 million and
yielded 6.01 percent (tax equivalent) for the third quarter of 2003, compared to
$313 million and 6.39 percent, respectively, for 2002. The increase in earning
assets occurred primarily in installment loans. Interest bearing liabilities
averaged $295 million at an average rate of 2.29 percent for the third quarter
of 2003, compared to $286 million and 2.97 percent, respectively, for 2002. The
increase in interest bearing liabilities occurred primarily in demand deposits,
while Jumbo CDs ($100,000 or more) declined.
PROVISION FOR LOAN LOSSES
A $254,000 provision expense for loan losses was recorded in the current
three-month period to increase the allowance for selected impaired business
loans. Comparatively, no loss provision was recorded in the third quarter of
2002.
NONINTEREST INCOME
Total noninterest income for the current three-month period was $1,117,000, an
increase of $244,000 or 28 percent above the same period in 2002. The increase
was caused primarily by increases in service charges on deposit accounts and
annuity and insurance commissions. Explanations for the increases are provided
under noninterest income within the year-to-date section of this report. It is
worth noting that the prior period included a $107,000 gain from the periodic
sale of investment securities.
NONINTEREST EXPENSE
Total noninterest expense for the current three-month period was $2,891,000, an
increase of $174,000 or 6 percent above the same period in 2002. The increase
was caused primarily by increases in salaries and benefits, professional and
legal expense, and occupancy expense. Explanations for the increases are
provided under noninterest expense within the year-to-date section of this
report. The decrease in other expense for the current quarter resulted in part
from a $101,000 recovery of problem loan carrying costs from the payoff of a
nonperforming business loan. The reduction in foreclosed real estate expense for
the current quarter resulted from $74,000 in gains from real estate sales.
INCOME TAXES
The provision for federal income tax was $431,000 for the current three-month
period, compared to $271,000 for the same period in 2002. The $160,000 or 59
percent increase in tax reflects an increase in pretax income and a decrease in
federal tax credits. Information about the decrease in tax credits is provided
under income taxes within the year-to-date section of this report.
NINE MONTHS ENDED SEPTEMBER 30, 2003
COMPARED TO NINE MONTHS ENDED SEPTEMBER 30, 2002
- ------------------------------------------------
INCOME STATEMENT ANALYSIS
OVERVIEW
Net income for the nine-month period ended September 30, 2003, was $2,697,000 or
$.94 per diluted share, compared to $2,418,000 or $.85 per diluted share, for
the same period of 2002. The $279,000 or 12 percent increase in net income was
caused primarily by an increase in net interest income and
- 15 -
noninterest income, which more than offset increases in noninterest expense,
provision for loan losses and federal income tax. Net interest income increased
$1,237,000 or 14 percent over the same period of 2002 due primarily to lower
funding costs (rate driven). Current period net interest income was also
positively impacted by a $306,000 recovery of interest income and loan fees in
the third quarter from the payoff of a nonperforming business loan. Noninterest
income increased $930,000 or 37 percent over 2002 due to increases in annuity
and insurance commissions attributable to the acquisition of an insurance agency
in September 2002, service charges on deposit accounts and gains from the sale
of mortgages and investment securities. Noninterest expense increased $1,111,000
or 14 percent over 2002 due primarily to expansion, resulting from the
acquisition of an insurance agency in September of 2002 and the addition of a
full service financial center in December 2002, professional and legal expense
(primarily consulting) and normal business growth. The provision for loan losses
increased $408,000 over 2002, due primarily to a $254,000 provision in the third
quarter to increase the allowance for selected impaired business loans and an
$187,000 provision in the second quarter caused by a decline in the collateral
value supporting a business loan. Current period federal income tax increased
$369,000 or 65 percent over 2002 due to an increase in pretax earnings and a
decrease in tax credits. Net income as a percentage of average total assets for
the first nine months (annualized) of 2003 was 1.01 percent, compared to 0.95
percent for the same period of 2002. Net income as a percentage of average
stockholders' equity for the first nine months (annualized) of 2003 was 10.89
percent, compared to 10.62 percent for the same period of 2002.
Total assets of the Corporation on September 30, 2003, were approximately $362
million, an increase of $12 million or 3.5 percent above December 31, 2002.
Asset growth occurred primarily in consumer and business loans, which were
funded by core deposits. Based on a recent evaluation of probable loan losses
and the current loan portfolio, management believes that the allowance is
adequate to support losses inherent in the portfolio at September 30, 2003.
Management also believes that the Corporation and PeoplesBank were well
capitalized on September 30, 2003, based on FDIC capital guidelines. An
explanation of the factors and trends that caused changes between the two
periods, by earnings category, is provided below.
NET INTEREST INCOME
U.S. economic activity picked up in the second quarter as evidenced by a 3.3
percent GDP. Many market watchers expect the third and fourth quarters to do
even better. Market interest rates (intermediate and long-term rates) and stock
market indices have risen since the beginning of the year. The short-term fed
funds rate and the prime rate are currently at 1 percent and 4 percent,
respectively, the lowest level in 45 years. In general, optimism about economic
growth is tempered by high unemployment, lack of a trend in job growth and
rising energy prices. Management believes that PeoplesBank's asset-sensitive
balance sheet is positioned to benefit from economic growth and rising market
interest rates.
Net interest income for the current nine-month period ended September 30, 2003,
was $9,834,000, an increase of $1,237,000 or 14 percent above the same period in
2002. Net interest income increased primarily as a result of lower funding costs
(rate driven). Current period net interest income was also positively impacted
by a $306,000 recovery of interest income and loan fees in the third quarter
from the payoff of a nonperforming business loan. Earning assets averaged $319
million and yielded 6.40 percent (tax equivalent) for 2003, compared to $310
million and 6.76 percent, respectively, for 2002. The increase in average
earning assets occurred primarily in investment securities and installment
loans. Interest bearing liabilities averaged $288 million at an average rate of
2.43 percent for 2003, compared to $280 million and 3.30 percent, respectively,
for 2002. The increase in interest bearing liabilities occurred primarily in
demand deposits, which more than offset a 3.5 percent decrease in CDs.
- 16 -
PROVISION FOR LOAN LOSSES
A $478,000 provision expense for loan losses was recorded in the current
nine-month period, compared to $70,000 for the same period in 2002. The
provision for loan losses increased $408,000 due primarily to a $254,000
provision in the third quarter to increase the allowance for selected impaired
business loans and an $187,000 provision in the second quarter caused by a
decline in the collateral value supporting a business loan. Information
regarding nonperforming assets and the allowance for loan losses can be found
within those sections of this report.
NONINTEREST INCOME
Total noninterest income for the current nine-month period was $3,419,000, an
increase of $930,000 or 37 percent above the same period in 2002. The increase
was caused primarily by increases in annuity and insurance commissions, service
charges on deposit accounts and gains from the sale of mortgages and investment
securities. The $363,000 or 219 percent increase in annuity and insurance
commissions was attributable to an insurance agency acquired by PeoplesBank in
September 2002. The $241,000 or 42 percent increase in service charges on
deposit accounts was attributable to an increase in insufficient funds fees.
Insufficient funds fees increased primarily as a result of a discretionary
overdraft service, which PeoplesBank implemented in June 2003. The $177,000 or
38 percent increase in gains from the sale of mortgages was the result of
unusually low market interest rates, which prevailed through the second quarter
of the current period. During the third quarter however, long-term market
interest rates began to rise, curtailing mortgage refinancings and lowering
expectations for gains in future periods. Low market interest rates during the
first half of 2003 improved securities prices and enabled management to realize
an $87,000 increase in gains from the sale of investment securities.
NONINTEREST EXPENSE
Total noninterest expense for the current nine-month period was $9,142,000, an
increase of $1,111,000 or 14 percent above the same period in 2002. The increase
was caused primarily by increases in salaries and benefits, occupancy,
professional and legal, and other expense. Salaries and benefits increased
$525,000 or 12 percent due primarily to planned corporate expansion. The current
period included the full impact of prior year initiatives such as the
acquisition of an insurance agency in September 2002 and the addition of a
financial center in December 2002. The $159,000 or 27 percent increase in
occupancy expense was also caused primarily by corporate expansion. The $190,000
or 108 percent increase in professional and legal, principally consulting
expense, is described below. Other expense increased $268,000 or 19 percent due
in part to an increase in problem loan carrying costs and normal business
growth. The $113,000 or 32 percent decrease in marketing expense is due
primarily to timing.
During the first quarter of 2003, management engaged a consulting firm to
conduct a company wide performance evaluation, including staffing and work
processes. For the period January 1 through September 30, 2003, the Corporation
incurred $198,000 in consulting expense for this project. The consulting
engagement is expected to be completed by December 31, 2003, at an estimated
cost of $275,000. Management believes that the evaluation will reduce expense
and increase revenue and operating efficiency in the current and future periods.
Aggregate benefits are expected to exceed the one-time consultant's fee.
- 17 -
INCOME TAXES
The provision for federal income tax was $936,000 for the current nine-month
period, compared to $567,000 for the same period in 2002. The $369,000 or 65
percent increase in tax reflects an increase in pretax income and a $169,000
decrease in federal tax credits. Tax credits were maximized in 2002 due to the
inclusion of historic rehabilitation tax credits from PeoplesBank's investment
in a low-income housing project; available only in the year the rehabilitation
construction is complete.
BALANCE SHEET REVIEW
LOANS
On September 30, 2003, loans were approximately $252 million, an increase of $18
million or 8 percent above year-end 2002. The increase was attributable to
growth in the consumer loan portfolio in response to an aggressive marketing
promotion and, secondarily, to an increase in business loans.
OTHER ASSETS AND OTHER LIABILITIES
In March 2003, PeoplesBank committed to invest $2.8 million in a real estate
partnership whose purpose is to construct 60 new townhouses and rent them to
people who qualify for low-income housing. Actual disbursements are scheduled as
installments throughout 2003-2004 with project completion scheduled by the end
of the third quarter of 2004. Rain delays have hampered construction efforts
thus far and could continue to delay completion of the project. PeoplesBank is a
limited partner that holds a 73.5 percent interest in the partnership. Its role
in the partnership is solely as an investor, whose return is in the form of
federal tax credits, to be realized over a ten-year period beginning in 2004.
DEPOSITS
On September 30, 2003, total deposits were approximately $305 million, an
increase of $12 million or 4 percent above year-end 2002. The increase occurred
in core deposits such as demand, money market and savings accounts. Relatively
low CD rates, heavily influenced by low market interest rates, and an improving
stock market may have caused customers to favor highly liquid core deposit
accounts. Other factors that contributed to deposit growth included the addition
of a financial center in December 2002 and normal business growth.
LONG-TERM DEBT
During the second quarter of 2003, PeoplesBank borrowed $5 million from the
Federal Home Loan Bank of Pittsburgh to secure low cost funding and to partially
match fund loan growth that resulted from the home equity loan promotion. The
loan will amortize over 10 years and has a 3.46 percent fixed rate of interest.
STOCKHOLDERS' EQUITY AND CAPITAL ADEQUACY
Stockholders' equity or capital, as a source of funds, enables Codorus Valley to
maintain asset growth and absorb losses. Total stockholders' equity was
approximately $33,408,000 on September 30, 2003, an increase of $1,185,000 or 4
percent above December 31, 2002. The increase was caused primarily by an
increase in retained net income from profitable operations.
On October 14, 2003, the board of directors declared a quarterly cash dividend
of $0.12 per common share, payable on or before November 11, 2003, to
shareholders of record October 28, 2003. The
- 18 -
following cash dividends per share were paid in 2003: $0.12 paid in August;
$0.12 ($0.114 adjusted) paid in May; and $0.12 ($0.114 adjusted) paid in
February. On June 5, 2003, Codorus Valley paid a 5 percent stock dividend, which
resulted in the issuance of 134,564 common shares.
Codorus Valley and PeoplesBank are subject to various regulatory capital
requirements administered by banking regulators that involve quantitative
guidelines and qualitative judgments. Quantitative measures established by
regulators pertain to minimum capital ratios, as set forth in Note 5--Regulatory
Matters, to the financial statements. Management believes that Codorus Valley
and PeoplesBank were well capitalized on September 30, 2003, based on FDIC
capital guidelines.
RISK MANAGEMENT
NONPERFORMING ASSETS
Table 1--Nonperforming Assets, provides a summary of nonperforming assets and
related ratios. The paragraphs below provide information for selected categories
for September 30, 2003, compared to December 31, 2002.
TABLE 1-NONPERFORMING ASSETS
September 30, December 31,
(dollars in thousands) 2003 2002
- -------------------------------------------------------------------------------
Nonaccrual loans $ 2,121 $ 5,051
Accruing loans that are contractually past due
90 days or more as to principal or interest 37 453
Foreclosed real estate, net of allowance 164 465
- -------------------------------------------------------------------------------
Total nonperforming assets $ 2,322 $ 5,969
- -------------------------------------------------------------------------------
Ratios:
Nonaccrual loans as a % of total period-end loans 0.84% 2.16%
Nonperforming assets as a % of total period-end
loans and net foreclosed real estate 0.92% 2.55%
Nonperforming assets as a % of total period-end
stockholders' equity 6.95% 18.52%
Allowance for loan losses as a multiple of
nonaccrual loans .8x .3x
Nonaccrual loans were principally comprised of collateral dependent business
loans. Accordingly, Codorus Valley recognized interest income on a cash basis
for these loans. On September 30, 2003, the nonaccrual loan portfolio was
$2,121,000, significantly below the $5,051,000 reported on December 31, 2002.
The decrease resulted primarily from the payoff of a $2,635,000 impaired
business loan in September. No loss allowance was established for this loan
because it was adequately collateralized in management's judgment. The payoff
resulted in the full recovery of principal and interest due on the loan. On
September 30, 2003, nonaccrual loans were comprised of twenty unrelated
accounts, ranging in size from $1,600 to $1,230,000. The largest account, which
management believes is adequately collateralized, represents 58 percent of the
nonaccrual loan portfolio. During March 2003, the borrowers of the $1,230,000
nonaccrual loan filed a counterclaim against PeoplesBank described in the
- 19 -
Legal Proceedings section of this report (Part II--Other Information, Item 1).
Accounts within the nonaccrual loan portfolio vary by industry and are generally
collateralized with real estate assets. Since year-end 2002, the allowance
increased to a .8x multiple of nonaccrual loans due to credit quality concerns
for selected nonaccrual business loans. Management and the board of directors
evaluate the allowance for loan losses at least quarterly. Efforts to modify
contractual terms for individual accounts, based on prevailing market
conditions, or liquidate collateral assets, are proceeding as quickly as
potential buyers can be located and legal constraints permit.
Accruing loans that are contractually past due 90 days or more as to principal
or interest totaled $37,000 on September 30, 2003, compared to $453,000 on
December 31, 2002. Generally, loans in the past due category are adequately
collateralized and in the process of collection.
Foreclosed real estate, net of allowance, was $164,000 on September 30, 2003,
compared to $465,000 on December 31, 2002. An allowance for losses, which is
evaluated at least quarterly, has been established for foreclosed real estate
assets where the estimated fair value, less selling expenses, is below the
financial carrying value. On September 30, 2003, the allowance was $35,000. For
the first nine months of 2003, a $55,000 loss provision was recorded to reflect
losses associated with declines in net realizable value. Comparatively, a
$30,000 loss provision was recorded for the same period of 2002. Efforts to
liquidate foreclosed real estate are proceeding, as quickly as potential buyers
can be located.
FORFEITURE ACTION RELATED TO MORTGAGED PROPERTY
On March 26, 2003, the United States Attorney's Office began a property (in rem)
civil forfeiture action, by Complaint in the United States District Court for
the Middle District of Pennsylvania, titled United States of America v.
Approximately 83 Acres of Real Estate Located in Fairview Township, York County,
Pennsylvania, titled in the name of CCA Associates, Inc. The real property,
which is the subject of the forfeiture action, serves as the sole collateral for
a loan by PeoplesBank to CCA Associates, Inc. (CCA), the owner or reputed owner
of this property. The loan to CCA, which was guaranteed by a third party, has a
current principal balance of $1,500,000 plus accrued interest and other fees and
costs. The third party guarantor recently pled guilty and is awaiting sentencing
by the federal government for his involvement in criminal activity. PeoplesBank
intends to protect its mortgage interest in the real estate from forfeiture
through available defenses including the "innocent owner defense." As of the
date this report was filed, the loan was current and classified as a performing
asset. Management believes that the primary debt obligation to PeoplesBank will
be satisfied once the property is liquidated and the proceeds from the sale
distributed. Therefore, management does not believe that the forfeiture action
will have a material adverse impact on the Corporation.
ALLOWANCE FOR LOAN LOSSES
Table 2--Analysis of Allowance for Loan Losses, shows a $1,775,000 allowance on
September 30, 2003, representing a $294,000 or 14 percent decrease from
September 30, 2002. The allowance for loan losses as a percentage of total loans
was 0.71 percent on September 30, 2003, compared to 0.90 percent on September
30, 2002. The decrease in the allowance was primarily the result of charge-offs
relating to equipment financing contracts amounting to $864,000 for calendar
year 2002. Management believes that the loss on these contracts was caused by
external fraud and is presently seeking legal redress, including the initiation
of lawsuits with other defrauded financial institutions. Additionally, in June
2003, management charged off $163,000 on a nonaccruing business loan to reflect
a loss from a decline in collateral value. Management decreased the allowance
since September 2002, based on the strength of the collateral position of
nonaccrual loans and it's overall assessment of the condition of the loan
portfolio. Based on a recent evaluation of potential loan losses in the current
portfolio, management
- 20 -
believes that the allowance is adequate to support losses inherent in the loan
portfolio on September 30, 2003.
TABLE 2-ANALYSIS OF ALLOWANCE FOR LOAN LOSSES
(dollars in thousands) 2003 2002
- ------------------------------------------------------------------------
Balance-January 1, $ 1,515 $ 1,898
Provision charged to operating expense 478 70
Loans charged off:
Commercial 193 66
Real estate-mortgage 0 7
Consumer 69 66
- ------------------------------------------------------------------------
Total loans charged off 262 139
Recoveries:
Commercial 19 227
Real estate-mortgage 0 0
Consumer 25 13
- ------------------------------------------------------------------------
Total recoveries 44 240
- ------------------------------------------------------------------------
Net charge-offs 218 (101)
Balance-September 30, $ 1,775 $ 2,069
========================================================================
Ratios:
Net charge-offs (annualized) to average total loans 0.12% -0.06%
Allowance for loan losses to total loans
at period-end 0.71% 0.90%
Allowance for loan losses to nonaccrual loans
and loans past due 90 days or more 82.3% 31.2%
LIQUIDITY
Codorus Valley's loan-to-deposit ratio, which is used as a broad measure of
liquidity, was approximately 83 percent on September 30, 2003, compared to 80
percent on December 31, 2002. Liquidity for both periods was adequate based on
availability from many sources, including the potential liquidation of a $68
million portfolio of available-for-sale securities, valued at September 30,
2003. Another important source of liquidity for PeoplesBank is available credit
from the Federal Home Loan Bank of Pittsburgh (FHLBP). On June 30, 2003, the
latest available date, available funding from the FHLBP was approximately $77
million. As a result of a sluggish U.S. economy and abnormally low short-term
market interest rates, the financial services industry has experienced increased
liquidity, as deposit customers sought safe haven from depressed securities
markets, loan customers refinanced and bond issuers called bonds.
Codorus Valley's financial statements do not reflect various commitments that
are made in the normal course of business, which may involve some liquidity
risk. These commitments consist primarily of commitments to grant new loans,
unfunded commitments of existing loans, and letters of credit made under the
same standards as on-balance sheet instruments. Unused commitments on September
30, 2003, totaled $64,592,000 and consisted of $41,025,000 in unfunded
commitments of existing loans, $20,834,000 to grant new loans and $2,733,000 in
letters of credit. Due to fixed maturity dates and specified conditions within
these instruments, many will expire without being drawn upon. Management
believes that amounts actually drawn upon can be funded in the normal course of
operations and therefore do not present a significant liquidity risk to Codorus
Valley.
- 21 -
Codorus Valley has various long-term contractual obligations outstanding at
September 30, 2003, including long-term debt, time deposits and obligations
under capital and operating leases. With the exception of long-term debt, such
obligations have not changed significantly from those reported in Table 11 of
the Form 10-K for 2002. A schedule of long-term debt for period ended September
30, 2003, compared to December 31, 2002, is provided in Note 4 of this report.
MARKET RISK MANAGEMENT
In the normal course of conducting business, Codorus Valley is exposed to market
risk, principally interest rate risk, through the operations of its banking
subsidiary. Interest rate risk arises from market driven fluctuations in
interest rates, which may affect cash flows, income, expense and values of
financial instruments. An asset-liability management committee comprised of
members of management manages interest rate risk.
Codorus Valley performed a simulation on its balance sheet at September 30, 2003
and December 31, 2002. The results of the point-in-time analyses are shown in
Table 3--Interest Rate Sensitivity. The analyses reveal that the Corporation's
balance sheet was asset sensitive for both periods. Asset sensitive means that
loan and investment assets will reprice to a greater and faster degree than the
deposits and debt that fund them. Therefore, the balance sheet is positioned to
benefit from economic growth and rising market interest rates. Conversely, if
market interest rates decline, earnings are expected to decline. Since year end
2002, market interest rates have remained at abnormally low levels causing an
increase in liquidity and asset sensitivity for Codorus Valley and the banking
industry as deposit customers sought safe haven from depressed capital markets,
loan customers refinanced, bond issuers called bonds and mortgage-backed
securities prepaid faster than scheduled. A detailed discussion of market
interest risk is provided in the Corporation's annual report on Form 10-K for
the period ended December 31, 2002.
TABLE 3-INTEREST RATE SENSITIVITY
at September 30, 2003
- ------------------------------------------------------------------
Change in
Change in interest rates Forecasted interest net income
(basis points) over 12 mos rate scenario $000's %
- -------------------------- ------------------- ---------------
+200 High 344 10.7
0 Flat (baseline) 0 0.0
-200 Low (518) (16.1)
+8 Most likely (52) (1.6)
at December 31, 2002
- ------------------------------------------------------------------
Change in
Change in interest rates Forecasted interest net income
(basis points) over 12 mos rate scenario $000's %
- -------------------------- ------------------- ---------------
+200 High 217 6.0
0 Flat (baseline) 0 0.0
-200 Low (393) (10.8)
+118 Most likely 94 2.6
OTHER RISKS
Additional grand acts of terrorism in the United States of America, or in other
countries, could erode consumer and business confidence and disrupt commerce,
resulting in a prolonged economic recession.
- 22 -
A prolonged economic recession could have a material adverse effect on the
liquidity, capital resources or results of operations of Codorus Valley.
Periodically, federal and state legislation is proposed that could result in
additional regulation of, or restrictions on, the business of Codorus Valley and
its subsidiaries. Other than as discussed in the Corporation's Form 10-K for the
period ended December 31, 2002, it cannot be predicted whether such legislation
will be adopted or, if adopted, how such legislation would affect the business
of Codorus Valley and its subsidiaries.
Management is not aware of any other current specific recommendations by
regulatory authorities or proposed legislation, which, if they were implemented,
would have a material adverse effect upon the liquidity, capital resources, or
results of operations. Although the general cost of compliance with numerous
federal and state laws and regulations has, and in the future, may have a
negative impact on Codorus Valley's results of operations.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Refer to the section entitled "Market risk management" within Management's
Discussion and Analysis of Consolidated Financial Condition and Results of
Operations.
ITEM 4. CONTROLS AND PROCEDURES
Codorus Valley maintains controls and procedures designed to ensure that
information required to be disclosed in the reports that the Corporation files
or submits under the Securities Exchange Act of 1934 is recorded, processed,
summarized and reported within the time periods specified in the rules and forms
of the Securities and Exchange Commission. Based upon their evaluation of those
controls and procedures performed as of September 30, 2003, the chief executive
and chief financial officers of Codorus Valley concluded that Codorus Valley's
disclosure controls and procedures were adequate.
Codorus Valley made no significant changes in its internal controls or in other
factors that could significantly affect these controls in the quarter ended
September 30, 2003, as evaluated by the chief executive and chief financial
officers.
PART II--OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
In conjunction with an $864,000 loss recognized by Codorus Valley in 2002
associated with a group of related equipment financing contracts, suit has been
filed in the United States District Court for the Eastern District of New York
on behalf of PeoplesBank, A Codorus Valley Company and for other similarly
situated financial institutions against Professional Leasing Services, Inc., its
principals and Bank of New York. The suit alleges claims under section 1962 (a),
(b), (c) and (d) of the Racketeering Influenced and Corrupt Organizations Act
and for common law fraud. The suit is in its early stages, and while PeoplesBank
believes that its claims are meritorious, neither the prospect of nor the amount
of recovery can be ascertained at this time.
On March 19, 2003, In the Net Sports, LLC, James B. Murphy and Barbara S. Murphy
filed a counterclaim against PeoplesBank in the Court of Common Pleas of Dauphin
County, Pennsylvania, alleging, among other things, that PeoplesBank: breached
an implied-in-fact agreement to the claimants related to loans made to the
claimants; intentionally interfered with the claimants' existing contracts and
- 23 -
prospective business relations; and made certain misrepresentations to the
claimants. The claimants allege to have incurred unliquidated losses and other
damages in excess of $3.9 million and exemplary damages in excess of $35,000.
The counterclaim was filed in response to a complaint filed by PeoplesBank
whereby PeoplesBank alleges that the claimants defaulted on a promissory note
resulting in damages to PeoplesBank in excess of $1.2 million. Management
believes there are substantial defenses to this lawsuit and intends to defend it
vigorously. The impact of the final disposition of this lawsuit cannot be
assessed at this time. Counsel believes that the claim may qualify as a "covered
claim" under PeoplesBank's lender liability insurance policy, which provides
coverage for losses in excess of $100,000, and which should cover the defense
and indemnification of PeoplesBank for the claim. The factual discovery process
has not been completed. Although Codorus Valley expects to incur costs in
defending these claims, based on the results of its investigation thus far and
preliminary discussions with its lawyers, Codorus Valley currently does not
believe the ultimate resolution of the claims will have a material impact on its
financial condition or results of operations.
Management of Codorus Valley and PeoplesBank is not aware of any other material
litigation, other than routine litigation incident to the nature of its
business, nor any material proceedings pending, threatened or contemplated
against Codorus Valley and PeoplesBank by government authorities.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
Nothing to report.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Nothing to report.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
Nothing to report.
ITEM 5. OTHER INFORMATION
Nothing to report.
ITEM 6. (a) EXHIBITS
Exhibit
Number Description of Exhibit
3(i) Articles of Incorporation (Incorporated by reference to Exhibit 3(i)
to Current Report on Form 8-K, filed with the Commission on March
29, 2001.)
3(ii) By-laws (Incorporated by reference to Exhibit 3(ii) to Current
Report on Form 8-K, filed with the Commission on March 29, 2001.)
4 Rights Agreement dated as of November 4, 1995 (Incorporated by
reference to Current Report on Form 8-K, filed with the Commission
on March 29, 2001.)
10.1 1996 Stock Incentive Plan (Incorporated by reference to Exhibit 99
of Registration Statement No. 333-9277 on Form S-8, filed with the
Commission on July 31, 1996.)
10.2 Amendments to the Employment Agreement by and among PeoplesBank, A
Codorus Valley Company, Codorus Valley Bancorp, Inc., and Larry J.
Miller dated October 1, 1997, including Executive Employment
Agreement dated January 1, 1993 between Codorus Valley Bancorp,
Inc., Peoples Bank of Glen Rock and Larry J. Miller. (Incor-
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porated by reference to Exhibit 10.1 to Registrant's Current Report
on Form 8-K, dated and filed with the Commission on March 20, 2003.)
10.3 Change of Control Agreement between PeoplesBank, A Codorus Valley
Company, Codorus Valley Bancorp, Inc. and Jann A. Weaver, dated
October 1, 1997. (Incorporated by reference to Exhibit 10.2 to the
Registrant's Current Report on Form 8-K, dated and filed with the
Commission March 20, 2003.)
10.4 Change of Control Agreement between PeoplesBank, A Codorus Valley
Company, Codorus Valley Bancorp, Inc. and Harry R. Swift, dated
October 1, 1997. (Incorporated by reference to Exhibit 10.4 to the
Registrant's Current Report on Form 8-K, filed with the Commission
on March 20, 2003.)
10.5 1998 Independent Directors Stock Option Plan (Incorporated by
reference to Exhibit 4.3 of Registration Statement No. 333-61851 on
Form S-8, filed with the Commission on August 19, 1998.)
10.6 2000 Stock Incentive Plan (Incorporated by reference to Exhibit 4.3
of Registration Statement No. 333-40532 on Form S-8, filed with the
Commission on June 30, 2000.)
10.7 2001 Employee Stock Bonus Plan (Incorporated by reference to Exhibit
99.1 of Registration Statement No. 333-68410 on Form S-8, filed with
the Commission on August 27, 2001.)
31.1 Certification of Principal Executive Officer, pursuant to Section
302 of the Sarbanes-Oxley Act of 2002
31.2 Certification of Principal Financial Officer, pursuant to Section
302 of the Sarbanes-Oxley Act of 2002
32.1 Certification of Principal Executive Officer, pursuant to Section
906 of the Sarbanes-Oxley Act of 2002
32.2 Certification of Principal Financial Officer, pursuant to Section
906 of the Sarbanes-Oxley Act of 2002
ITEM 6. (b) REPORTS ON FORM 8-K
None.
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SIGNATURES
Under the requirements of the Securities Exchange Act of 1934, the Registrant
has caused this report to be signed on its behalf by the authorized undersigned.
Codorus Valley Bancorp, Inc.
(Registrant)
November 10, 2003 /s/ Larry J. Miller
Date -----------------------------
Larry J. Miller
President & CEO
(Principal executive officer)
November 10, 2003 /s/ Jann A. Weaver
Date --------------------------------------------
Jann A. Weaver
Treasurer & Assistant Secretary
(Principal financial and accounting officer)
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