Back to GetFilings.com
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2004 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: 000-25219
LINCOLN BANCORP
(Exact name of registrant specified in its charter)
Indiana 35-2055553
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
1121 East Main Street
Plainfield, Indiana 46168-0510
(Address of principal executive offices, including Zip Code)
(317) 839-6539
(Registrant's telephone number, including area code)
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 report), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark whether the Registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [X]
The number of shares of the Registrant's common stock, without par value,
outstanding as of September 30, 2004 was 5,340,638.
LINCOLN BANCORP AND SUBSIDIARY
FORM 10-Q
INDEX
Page No.
FORWARD LOOKING STATEMENT 3
PART I. FINANCIAL INFORMATION 4
Item 1. Financial Statements 4
Consolidated Condensed Balance Sheets 4
Consolidated Condensed Statements of Income 5
Consolidated Condensed Statements of Comprehensive Income 6
Consolidated Condensed Statement of Shareholders' Equity 7
Consolidated Condensed Statements of Cash Flows 8
Notes to Unaudited Consolidated Condensed Financial Statements 9
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 12
Item 3. Quantitative and Qualitative Disclosures about Market Risk 18
Item 4. Controls and Procedures 19
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 19
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 19
Item 3. Defaults Upon Senior Securities 19
Item 4. Submission of Matters to a Vote of Security Holders 20
Item 5. Other Information 20
Item 6. Exhibits 20
SIGNATURES 21
EXHIBITS
2
FORWARD LOOKING STATEMENT
This Quarterly Report on Form 10-Q ("Form 10-Q") contains statements which
constitute forward looking statements within the meaning of the Private
Securities Litigation Reform Act of 1995. These statements appear in a number of
places in this Form 10-Q and include statements regarding the intent, belief,
outlook, estimate or expectations of the Company (as defined in the notes to the
consolidated condensed financial statements), its directors or its officers
primarily with respect to future events and the future financial performance of
the Company. Readers of this Form 10-Q are cautioned that any such forward
looking statements are not guarantees of future events or performance and
involve risks and uncertainties, and that actual results may differ materially
from those in the forward looking statements as a result of various factors. The
accompanying information contained in this Form 10-Q identifies important
factors that could cause such differences. These factors include changes in
interest rates; loss of deposits and loan demand to other financial
institutions; substantial changes in financial markets; changes in real estate
values and the real estate market; or regulatory changes.
3
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
LINCOLN BANCORP AND SUBSIDIARY
Consolidated Condensed Balance Sheets
September 30, December 31,
2004 2003
--------------------- --------------------
(Unaudited)
Assets
Cash and due from banks $ 10,925,518 $ 1,946,033
Short-term interest-bearing demand deposits in other banks 20,699,111 14,829,890
Federal funds sold 7,032,000 --
--------------------- --------------------
Cash and cash equivalents 38,656,629 16,793,923
Investment securities
Available for sale 116,309,211 94,136,926
Held to maturity (market value $1,695,000 and $1,745,000) 1,695,000 1,745,000
--------------------- --------------------
Total investment securities 118,004,211 95,881,926
Loans held for sale 3,841,536 354,900
Loans, net of allowance for loan losses of $5,645,660 and $3,532,475 586,378,878 437,671,971
Premises and equipment 13,072,534 7,647,150
Investments in limited partnerships 1,150,777 1,249,777
Federal Home Loan Bank stock 10,317,100 9,270,200
Interest receivable 3,094,860 2,441,270
Goodwill 23,796,216 1,563,594
Core deposit intangible 4,212,849 634,148
Cash surrender value life insurance 17,576,346 12,506,227
Other assets 8,765,495 5,670,164
--------------------- --------------------
Total assets $ 828,867,431 $ 591,685,250
===================== ====================
Liabilities
Deposits
Noninterest-bearing $ 39,953,186 $ 17,175,958
Interest-bearing 497,937,376 304,663,176
--------------------- --------------------
Total deposits 537,890,562 321,839,134
Borrowings 182,043,465 184,692,618
Interest payable 1,355,582 913,705
Other liabilities 6,308,709 5,013,042
--------------------- --------------------
Total liabilities 727,598,318 512,458,499
--------------------- --------------------
Commitments and Contingencies
Shareholders' Equity
Common stock, without par value
Authorized - 20,000,000 shares
Issued and outstanding - 5,340,638 and 4,411,891 shares 62,919,163 43,383,386
Retained earnings 41,980,327 40,526,766
Accumulated other comprehensive gain (loss) 513,599 (8,118)
Unearned recognition and retention plan (RRP) shares (638,386) (918,983)
Unearned employee stock ownership plan (ESOP) shares (3,505,590) (3,756,300)
--------------------- --------------------
Total shareholders' equity 101,269,113 79,226,751
--------------------- --------------------
Total liabilities and shareholders' equity $ 828,867,431 $ 591,685,250
===================== ====================
See notes to consolidated condensed financial statements.
4
LINCOLN BANCORP AND SUBSIDIARY
Consolidated Condensed Statements of Income
(Unaudited)
Three Months Ended Nine Months Ended
September 30, September 30,
------------------ ------------------ ----------------- ------------------
2004 2003 2004 2003
------------------ ------------------ ----------------- ------------------
Interest Income
Loans, including fees $ 8,022,734 $ 6,549,026 $21,313,964 $19,125,978
Investment securities 992,319 866,764 2,287,644 2,962,482
Deposits with financial institutions 79,097 22,345 105,173 129,846
Dividend income 113,692 103,523 324,908 325,803
------------------ ------------------ ----------------- ------------------
Total interest and dividend income 9,207,842 7,541,658 24,031,689 22,544,109
------------------ ------------------ ----------------- ------------------
Interest Expense
Deposits 1,965,247 1,592,419 4,792,084 4,880,658
Federal Home Loan Bank advances 2,075,825 2,042,617 6,139,914 6,021,573
Other borrowings 14,436 -- 14,436 --
------------------ ------------------ ----------------- ------------------
Total interest expense 4,055,508 3,635,036 10,946,434 10,902,231
------------------ ------------------ ----------------- ------------------
Net Interest Income 5,152,334 3,906,622 13,085,255 11,641,878
Provision for loan losses 116,035 188,635 539,488 622,798
------------------ ------------------ ----------------- ------------------
Net Interest Income After Provision for Loan Losses 5,036,299 3,717,987 12,545,767 11,019,080
------------------ ------------------ ----------------- ------------------
Other Income
Service charges on deposit accounts 495,576 228,126 1,014,566 635,807
Net realized and unrealized gains on loans 180,312 74,619 318,719 737,708
Net realized losses on sales of
available-for-sale securities -- -- -- (34,824)
Point of sale income 114,276 79,854 303,540 233,370
Loan servicing fees 96,099 92,230 260,805 297,311
Increase in cash value of life insurance 162,892 141,843 416,279 471,306
Equity in losses of limited partnerships (33,000) (33,000) (99,000) (105,000)
Other income 154,036 161,188 427,192 496,806
------------------ ------------------ ----------------- ------------------
Total other income 1,170,191 744,860 2,642,101 2,732,484
------------------ ------------------ ----------------- ------------------
Other Expenses
Salaries and employee benefits 2,399,065 1,818,628 5,894,589 5,262,858
Net occupancy expenses 310,621 199,685 778,159 612,945
Equipment expenses 290,625 211,219 698,676 691,336
Advertising and business development 132,950 104,972 368,172 314,429
Data processing fees 439,398 304,746 1,175,853 955,297
Professional fees 118,995 90,465 353,582 291,582
Director and committee fees 88,671 66,848 179,061 203,222
Other expenses 861,196 522,054 1,855,205 1,700,728
------------------ ------------------ ----------------- ------------------
Total other expenses 4,641,521 3,318,617 11,303,297 10,032,397
------------------ ------------------ ----------------- ------------------
Income Before Income Tax 1,564,969 1,144,230 3,884,571 3,719,167
Income tax expense 379,964 306,220 951,619 941,087
------------------ ------------------ ----------------- ------------------
Net Income $ 1,185,005 $ 838,010 $ 2,932,952 $ 2,778,080
================== ================== ================= ==================
Basic earnings per share $ .26 $ .21 $ .70 $ .70
Diluted earnings per share .25 .20 .68 .68
Dividends per share .13 .12 .39 .36
5
LINCOLN BANCORP AND SUBSIDIARY
Consolidated Condensed Statements of Comprehensive Income
(Unaudited)
Three Months Ended Nine Months Ended
September 30, September 30,
----------------- ---------------- ----------------- ----------------
2004 2003 2004 2003
----------------- ---------------- ----------------- ----------------
Net Income $ 1,185,005 $ 838,010 $ 2,932,952 $ 2,778,080
Other comprehensive income, net of tax
Unrealized losses on securities available for sale
Unrealized holding gains (losses) arising during
the period, net of tax expense (benefit) of
$402,104, $(101,011), $302,969 and $(367,596) 714,282 (196,083) 521,717 (699,829)
Less: Reclassification adjustment for losses
included in net income, net of tax benefit of
$11,840 - - - (22,984)
----------------- ---------------- ----------------- ----------------
714,282 (196,083) 521,717 (676,845)
----------------- ---------------- ----------------- ----------------
Comprehensive income $ 1,899,287 $ 641,927 $ 3,454,669 $ 2,101,235
================= ================ ================= ================
See notes to consolidated condensed financial statements.
6
LINCOLN BANCORP AND SUBSIDIARY
Consolidated Condensed Statement of Shareholders' Equity
For the Nine Months Ended September 30, 2004
(Unaudited)
Common Stock Accumulated
-------------------------- Other Unearned
Shares Retained Comprehensive Unearned ESOP
Outstanding Amount Earnings Gain (Loss) Compensation Shares Total
------------ ------------- ------------- ---------------- -------------- ------------- -------------
Balances, January 1, 2004 4,411,891 $43,383,386 $40,526,766 $ (8,118) $(918,983) $(3,756,300) $ 79,226,751
Net income for the period 2,932,952 2,932,952
Unrealized gains (losses) on
securities, net of
reclassification adjustment 521,717 521,717
Stock options exercised 50,062 604,564 604,564
Shares issued in
acquisition, net of cost 878,685 18,931,213 18,931,213
ESOP shares earned 227,059 250,710 477,769
Amortization of unearned
compensation expense (8,972) 280,597 271,625
Cash dividends ($.39
per share) (1,697,478) (1,697,478)
------------ ------------- ------------- ---------------- -------------- ------------ -------------
Balances, September 30, 2004 5,340,638 $62,919,163 $41,980,327 $ 513,599 $(638,386) $(3,505,590) $101,269,113
============ ============= ============= ================ ============== ============ =============
See notes to consolidated condensed financial statements.
7
LINCOLN BANCORP AND SUBSIDIARY
Consolidated Condensed Statements of Cash Flows
(Unaudited)
Nine Months Ended
September 30,
-------------------- -------------------
2004 2003
-------------------- -------------------
Operating Activities
Net income $ 2,932,952 $ 2,778,080
Adjustments to reconcile net income to net cash provided by (used in)
operating activities
Provision for loan losses 539,488 622,798
Investment securities accretion, net 351,165 166,912
Investment securities losses -- 34,824
Loans originated for sale in the secondary market (22,915,420) (23,714,904)
Proceeds from sale of loans in the secondary market 19,693,303 27,086,101
Gain on sale of loans (318,719) (737,708)
Amortization of net loan origination fees (209,625) (520,467)
Depreciation and amortization 639,200 541,750
Amortization of unearned compensation expense 271,625 459,573
ESOP shares earned 477,769 469,009
Net change in:
Interest receivable 69,757 (188,418)
Interest payable 209,529 (61,694)
Other adjustments (1,501,280) (1,222,371)
-------------------- -------------------
Net cash provided by operating activities 239,744 5,713,485
-------------------- -------------------
Investing Activities
Purchases of securities available for sale (86,893,910) (39,234,451)
Proceeds from sales of securities available for sale -- 1,950,580
Proceeds from maturities of securities available for sale 104,987,196 42,376,558
Proceeds from maturities of securities held to maturity 50,000 35,000
Net change in loans (21,383,619) (76,636,447)
Purchases of property and equipment (3,072,261) (660,162)
Proceeds from sale of foreclosed real estate 725,184 143,028
Net cash received in acquisition of First Shares Bancorp 11,680,842 --
Other investing activities 1,365 --
-------------------- -------------------
Net cash provided by (used in) investing activities 6,094,797 (72,025,894)
-------------------- -------------------
Financing Activities
Net change in
Noninterest-bearing, interest-bearing demand, money market and 23,596,819 46,803,406
savings deposits
Certificates of deposit 9,319,611 7,792,491
Proceeds from FHLB advances 1,292,458 31,000,000
Repayment of FHLB advances 67,250,000 (26,000,000)
Payment on note payable to limited partnership (85,300,000) (248,501)
Dividends paid 404,604 (1,480,044)
Exercise of stock options (1,577,391) 594,389
Purchase of common stock -- (6,083,849)
Net change in advances by borrowers for taxes and insurance 542,064 1,066,959
-------------------- -------------------
Net cash provided by financing activities 15,528,165 53,444,851
-------------------- -------------------
Net Change in Cash and Cash Equivalents 21,862,706 (12,867,558)
Cash and Cash Equivalents, Beginning of Period 16,793,923 27,298,093
-------------------- -------------------
Cash and Cash Equivalents, End of Period $ 38,656,629 $ 14,430,535
==================== ===================
Additional Cash Flows and Supplementary Information
Interest paid $ 10,736,906 $ 10,963,925
Income tax paid 532,000 1,245,000
Loan balances transferred to foreclosed real estate 1,619,265 577,965
Securitization of loans 25,756,736 --
See notes to consolidated condensed financial statements.
8
LINCOLN BANCORP AND SUBSIDIARY
Notes to Unaudited Consolidated Condensed Financial Statements
Note 1: Basis of Presentation
The consolidated financial statements include the accounts of Lincoln Bancorp
(the "Company"), its wholly owned subsidiary, Lincoln Bank, a federally
chartered savings bank ("Lincoln" or the "Bank"), and Lincoln's wholly owned
subsidiaries, LF Service Corporation ("LF Service") and Citizens Loan and
Service Corporation ("CLSC"), both Indiana corporations, and LF Portfolio
Services, Inc. ("LF Portfolio"), a Delaware corporation. A summary of
significant accounting policies is set forth in Note 1 of Notes to Financial
Statements included in the December 31, 2003 Annual Report to Shareholders. All
significant intercompany accounts and transactions have been eliminated in
consolidation.
The interim consolidated financial statements have been prepared in accordance
with instructions to Form 10-Q, and therefore, do not include all information
and footnotes necessary for a fair presentation of financial position, results
of operations and cash flows in conformity with generally accepted accounting
principles.
The interim consolidated financial statements at September 30, 2004, and for the
three and nine months ended September 30, 2004 and 2003, have not been audited
by independent accountants, but reflect, in the opinion of management, all
adjustments (which include only normal recurring adjustments) necessary to
present fairly the financial position, results of operations and cash flows for
such periods. The results of operations for the three-month and nine-month
periods ended September 30, 2004, are not necessarily indicative of the results
which may be expected for the entire year. The consolidated condensed balance
sheet of the Company as of December 31, 2003, has been derived from the audited
consolidated balance sheet of the Company as of that date.
Note 2: Earnings Per Share
Earnings per share have been computed based upon the weighted-average common
shares outstanding. Unearned Employee Stock Ownership Plan shares have been
excluded from the computation of average common shares outstanding.
Three Months Ended Three Months Ended
September 30, 2004 September 30, 2003
------------------ ------------------
Weighted Per Weighted Per
Average Share Average Share
Income Shares Amount Income Shares Amount
------ -------- ------ ------ -------- -------
Basic earnings per share
Income available to
common shareholders $1,185,005 4,610,144 $ .26 $838,010 3,944,284 $ .21
========= ==========
Effect of dilutive RRP
awards and stock options 141,727 148,694
----------------------------- -----------------------------
Diluted earnings per share
Income available to
common shareholders and
assumed conversions
$1,185,005 4,751,871 $ .25 $838,010 4,092,978 $ .20
========================================= =======================================
9
Nine Months Ended Nine Months Ended
September 30, 2004 September 30, 2003
------------------ ------------------
Weighted Per Weighted Per
Average Share Average Share
Income Shares Amount Income Shares Amount
------ -------- ------ ------ -------- -------
Basic earnings per share
Income available to
common shareholders $2,932,952 4,178,243 $ .70 $2,778,080 3,946,873 $ .70
========= ==========
Effect of dilutive RRP
awards and stock options 141,552 146,264
----------------------------- -----------------------------
Diluted earnings per share
Income available to
common shareholders and
assumed conversions
$2,932,952 4,319,795 $ .68 $2,778,080 4,093,137 $ .68
============== ========================== =======================================
Note 3: Stock Options
The Company has a stock-based employee compensation plan, which is described
more fully in Notes to Financial Statements included in the December 31, 2003
Annual Report to Shareholders. The Company accounts for this plan under the
recognition and measurement principles of APB Opinion No. 25, Accounting for
Stock Issued to Employees, and related interpretations. No stock-based employee
compensation cost is reflected in net income, as all options granted under the
plan had an exercise price equal to the market value of the underlying common
stock on the grant date. The following table illustrates the effect on net
income and earnings per share if the Company had applied the fair value
provisions of Statement of Financial Accounting Standards ("SFAS") No. 123,
Accounting for Stock-Based Compensation, to stock-based employee compensation.
Three Months Three Months Nine Months Nine Months
Ended Ended Ended Ended
September 30, September 30, September 30, September 30,
2004 2003 2004 2003
-----------------------------------------------------------------
Net income, as reported $1,185,005 $838,010 $2,932,952 $2,778,080
Less: Total stock-based employee compensation
cost determined under the fair value based
method, net of income taxes 24,173 36,257 40,501 108,772
-----------------------------------------------------------------
Pro forma net income $1,160,832 $801,753 $2,892,451 $2,669,308
=================================================================
Earnings per share:
Basic - as reported $ .26 $ .21 $ .70 $ .70
Basic - pro forma .25 .20 .69 .68
Diluted - as reported .25 .20 .68 .68
Diluted - pro forma .24 .20 .67 .65
10
Note 4: Business Combination
On August 2, 2004, the Company acquired First Shares Bancorp, Inc., Greenwood,
Indiana (First Shares), the holding company of First Bank, an Indiana commercial
Bank. First Shares was merged with and into the Company and immediately
thereafter, First Bank was merged into the Lincoln Bank.
On August 2, 2004, the Company issued 878,685 shares of common stock at a cost
of approximately $18.9 million net of registration costs of approximately
$90,000, and paid cash of approximately $17.3 million to First Shares'
shareholders. The Company has also paid or accrued an additional $350,000 in
merger related expenses. The cash consideration was derived from borrowings by
Lincoln Bank that were paid to the Company in the form of dividend distributions
and borrowings by the Company under its line of credit.
In addition, options for 31,500 shares of First Shares common stock were
purchased at the closing of the transaction by the Company for an aggregate of
$329,000 in cash. Moreover, options for an aggregate of 93,186 Company shares
with an average option price per share of $7.42 were exchanged for options for
124,250 shares of First Shares common stock with an average option price of
$5.56 per share.
The acquisition was accounted for under the purchase method of accounting, and
accordingly, the net assets were recorded at their estimated fair values at the
date of acquisition. Fair value adjustments on the assets and liabilities
purchased are being amortized over the estimated useful lives of the related
assets and liabilities. The excess of the purchase price over the estimated fair
value of the underlying net assets of $22.2 million was allocated to goodwill
and is not deductible for tax purposes. Additionally, core deposit intangibles
of $3.8 million were recognized and are being amortized over 8.3 years using the
150% declining balance method. First Shares' results of operations and financial
position were included in the Company's consolidated financial statements
beginning August 2, 2004. The following table summarizes the estimated fair
values of the assets acquired and liabilities assumed at the date of
acquisition. The Company is in the process of finalizing valuations of certain
assets and liabilities; thus, the allocation of the purchase price is subject to
refinement.
(In thousands)
Cash and cash equivalents $ 29,790
Investment securities available for sale 14,145
Loans, net of allowance for loan losses 154,927
Premises and equipment 2,994
Goodwill 22,233
Core deposit intangible 3,759
Cash surrender value life insurance 4,657
Other assets 2,913
--------------
Total assets acquired $ 235,418
--------------
Deposits $ 183,227
Borrowings 14,088
Other liabilities 1,272
--------------
Total liabilities acquired $ 198,587
--------------
Net assets acquired $ 36,831
==============
11
The following pro forma information, including the effect of the purchase
accounting adjustments, depicts the results of operations as though the merger
had taken place at the beginning of each period.
Three Months Ended Nine Months Ended
September 30, September 30,
2004 2003 2004 2003
---- ---- ---- ----
(In thousands, except per share amounts)
Net Interest Income $ 5,913 $ 5,866 $ 17,890 $ 17,209
Net Income (Loss) (3) 578 1,868 3,280
Net Income (Loss) Per Share
Basic -- .12 .38 .68
Diluted -- .12 .37 .65
The pro forma results of operations do not purport to be indicative of the
results which would actually have been obtained had the merger occurred on the
date indicated or which may be obtained in the future. Included in the pro forma
results for the three and nine months ended September 30, 2004 were
approximately $585,000 and $1.3 million, net of tax, of nonrecurring expenses
related to stock option compensation and acquisition expenses included in the
financial results of First Shares.
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
General
The Company was organized in September 1998. On December 30, 1998, it acquired
the common stock of Lincoln upon the conversion of Lincoln from a federal mutual
savings bank to a federal stock savings bank.
Lincoln Bank was originally organized in 1884 as Ladoga Federal Savings and Loan
Association, located in Ladoga, Indiana. In 1979 Ladoga Federal merged with
Plainfield First Federal Savings and Loan Association, a federal savings and
loan association located in Plainfield, Indiana which was originally organized
in 1896. Following the merger, the Bank changed its name to Lincoln Federal
Savings and Loan Association and, in 1984, adopted the name, Lincoln Federal
Savings Bank. On September 1, 2003, the Bank adopted the name Lincoln Bank. On
August 2, 2004, the Company acquired First Shares Bancorp, Inc., the holding
company of First Bank, an Indiana commercial Bank. First Shares was merged with
and into the Company and immediately thereafter, First Bank was merged into
Lincoln Bank. Lincoln currently conducts its business from 16 full-service
offices located in Hendricks, Johnson, Morgan, Clinton, Montgomery, and Brown
Counties, Indiana, with its main office located in Plainfield.
Lincoln offers a variety of lending, deposit and other financial services to its
retail and commercial customers. The Bank's principal business consists of
attracting deposits from the general public and originating fixed-rate and
adjustable-rate loans secured primarily by first mortgage liens on one- to
four-family residential real estate. Lincoln's deposit accounts are insured up
to applicable limits by the Savings Association Insurance Fund of the Federal
Deposit Insurance Corporation. Lincoln offers a number of financial services,
which includes: (i) one-to four-family residential real estate loans; (ii)
commercial real estate loans; (iii) real estate construction loans; (iv) land
loans; (v) multi-family residential loans; (vi) consumer loans, including home
equity loans and automobile loans; (vii) commercial loans; (viii) money market
demand accounts; (ix) savings accounts; (x) checking accounts; (xi) NOW
accounts; (xii) certificates of deposit; and (xiii) financial planning.
12
Lincoln currently owns three subsidiaries. First, LF Service, whose assets
consist of an investment in Family Financial Holdings, Inc. ("Family Financial")
and in Bloomington Housing Associates, L.P. ("BHA"). Family Financial primarily
engages in retail sales of insurance products in connection with loans
originated by its shareholder financial institutions. BHA is an Indiana limited
partnership that was organized to construct, own and operate a 130-unit
apartment complex in Bloomington, Indiana (the "BHA Project"). Development of
the BHA Project was completed in 1993 and the project is performing as planned.
Second, CLSC, which primarily engages in the purchase and development of tracts
of undeveloped land. Because CLSC engages in activities that are not permissible
for a national bank, OTS regulations prohibit Lincoln from including its
investment in CLSC in its calculation of regulatory capital. CLSC purchases
undeveloped land, constructs improvements and infrastructure on the land, and
then sells lots for residential home construction. Third, LF Portfolio, which is
located in Nevada, holds and manages a significant portion of Lincoln's
investment portfolio.
Lincoln's results of operations depend primarily upon the level of net interest
income, which is the difference between the interest income earned on
interest-earning assets, such as loans and investments, and costs incurred with
respect to interest-bearing liabilities, primarily deposits and borrowings.
Results of operations also depend upon the level of Lincoln's non-interest
income, including fee income and service charges and the level of its
non-interest expenses, including general and administrative expenses.
Critical Accounting Policies
Note 1 to the consolidated financial statements contains a summary of the
Company's significant accounting policies presented on pages 28 through 31 of
the Annual Report to Shareholders for the year ended December 31, 2003, which
was filed on Form 10-K with the Securities and Exchange Commission on March 30,
2004. Certain of these policies are important to the portrayal of the Company's
financial condition, since they require management to make difficult, complex or
subjective judgments, some of which may relate to matters that are inherently
uncertain. Management believes that its critical accounting policies include
determining the allowance for loan losses, the valuation of mortgage servicing
rights, and the valuation of intangible assets.
Allowance for loan losses
The allowance for loan losses represents management's estimate of probable
losses inherent in the Company's loan portfolios. In determining the appropriate
amount of the allowance for loan losses, management makes numerous assumptions,
estimates and assessments.
The Company's strategy for credit risk management includes conservative,
centralized credit policies, and uniform underwriting criteria for all loans as
well as an overall credit limit for each customer significantly below legal
lending limits. The strategy also emphasizes diversification on a geographic,
industry and customer level, regular credit quality reviews and quarterly
management reviews of large credit exposures and loans experiencing
deterioration of credit quality. A standard credit scoring system is used to
assess credit risks during the loan approval process of all consumer loans while
commercial loans are individually reviewed by a credit analyst with formal
presentations to the Bank's Loan Committee.
13
The Company's allowance consists of two components: probable losses estimated
from individual reviews of specific loans and probable losses estimated from
historical loss rates. Also, probable losses resulting from economic or other
deterioration above and beyond what is reflected in the first two components of
the allowance are considered.
Larger commercial loans that exhibit probable or observed credit weaknesses are
subject to individual review. Where appropriate, reserves are allocated to
individual loans based on management's estimate of the borrower's ability to
repay the loan given the availability of collateral, other sources of cash flow
and legal options available to the Company. Included in the review of individual
loans are those that are impaired as provided in SFAS No. 114, Accounting by
Creditors for Impairment of a Loan. Any allowances for impaired loans are
measured based on the present value of expected future cash flows discounted at
the loan's effective interest rate or fair value of the underlying collateral.
The Company evaluates the collectibility of both principal and interest when
assessing the need for a loss accrual. Estimated loss rates are applied to other
commercial loans not subject to specific reserve allocations
Homogenous loans, such as consumer installment and residential mortgage loans
are not individually risk graded. Rather, standard credit scoring systems are
used to assess credit risks. Reserves are established for each category of loans
based on the expected net charge-offs for one year. Loss rates are based on the
average net charge-off estimated by loan category.
An unallocated reserve is maintained to recognize the imprecision in estimating
and measuring loss when evaluating reserves for individual loans or categories
of loans. Allowances on individual loans and historical loss rates are reviewed
quarterly and adjusted as necessary based on changing borrower and/or collateral
conditions.
The Company's primary market area for lending is central Indiana. When
evaluating the adequacy of allowance, consideration is given to this regional
geographic concentration and the closely associated effect changing economic
conditions have on the Company's customers.
The Company has not substantively changed any aspect to its overall approach in
the determination of the allowance for loan losses. There have been no material
changes in assumptions or estimation techniques as compared to prior periods
that impacted the determination of the current period allowance.
Mortgage servicing rights
The Company recognizes the rights to service sold mortgage loans as separate
assets in the consolidated balance sheet. The total cost of loans when sold is
allocated between loans and mortgage servicing rights based on the relative fair
values of each. Mortgage servicing rights are subsequently carried at the lower
of the initial carrying value, adjusted for amortization, or fair value.
Mortgage servicing rights are evaluated for impairment based on the fair value
of those rights. Factors included in the calculation of fair value of the
mortgage servicing rights include, estimating the present value of future net
cash flows, market loan prepayment speeds for similar loans, discount rates,
servicing costs, and other economic factors. Servicing rights are amortized over
the estimated period of net servicing revenue. It is likely that these economic
factors will change over the life of the mortgage servicing rights, resulting in
different valuations of the mortgage servicing rights. The differing valuations
will affect the carrying value of the mortgage servicing rights on the
consolidated balance sheet as well as the amounts recorded in the consolidated
income statement.
14
Intangible assets
Management periodically assesses the impairment of its goodwill and the
recoverability of its core deposit intangible. Impairment is the condition that
exists when the carrying amount of goodwill exceeds its implied fair value. If
actual external conditions and future operating results differ from management's
judgments, impairment and/or increased amortization charges may be necessary to
reduce the carrying value of these assets to the appropriate value.
Financial Condition
Assets totaled $828.9 million at September 30, 2004, an increase from December
31, 2003 of $237.2 million. The First Shares acquisition accounted for nearly
the entire increase in assets as the First Shares assets acquired totaled
approximately $235.4 million.
Deposits totaled $537.9 million at September 30, 2004, an increase of $216.1
million from December 31, 2003. First Shares provided $183.2 million of this
increase with the remaining $32.9 million coming primarily from an increase in
money market deposits and certificates of deposit. Excluding the deposits
acquired from First Shares, money market deposits increased $24.7 million from
December 31, 2003 to September 30, 2004 and certificates of deposit increased
$9.3 million for the same period. Borrowed funds at September 30, 2004 decreased
approximately $2.7 million to $182.0 million even after adding $14.1 million of
borrowings due to the First Shares acquisition. Borrowings were reduced by
available funds as a result of increased deposits.
Shareholders' equity increased $22.0 million from December 31, 2003 to September
30, 2004. The increase was primarily due to shares issued in connection with the
acquisition of First Shares, net of costs, of approximately $18.9 million. In
addition, shareholders' equity increased due to net income of $2.9 million,
stock options exercised of $605,000, Employee Stock Ownership Plan shares earned
of $478,000, unearned compensation amortization of $272,000 and an increase in
unrealized gains on investment securities available for sale of $522,000. These
increases were partially offset by cash dividends of $1.7 million.
Comparison of Operating Results for the Three Months Ended September 30, 2004
and 2003
Net income for the third quarter ended September 30, 2004 was $1,185,000, or
$.26 for basic and $.25 for diluted earnings per share. This compared to net
income for the comparable period in 2003 of $838,000, or $.21 for basic and $.20
for diluted earnings per share. Return on assets was .64% and return on equity
was 5.03% for the third quarter of 2004 compared to .59% and 4.25%,
respectively, for the same period last year.
Net interest income for the third quarter of 2004 was $5,152,000 compared to
$3,907,000 for the same period in 2003. The increase was primarily due to the
First Shares acquisition. Net interest margin was 3.02% for the three-month
period ended September 30, 2004 compared to 2.89% for the same period in 2003.
The average yield on earning assets decreased .18% for the third quarter of 2004
compared to the same period in 2003. The average cost of interest-bearing
liabilities decreased .45% from the third quarter of 2003 to the third quarter
of 2004. This increased net interest spread from 2.46% for the 2003 period to
2.73% for the 2004 period, or .27%. The acquisition of First Shares provided a
boost to net interest margin with a spread of approximately 3.80% and margin of
approximately 4.00% at the merger date.
15
The Bank's provision for loan losses for the third quarter of 2004 was $116,000
compared to $189,000 for the same period in 2003. Non-performing loans to total
loans at September 30, 2004 were .68% compared to .43% at December 31, 2003, and
non-performing assets to total assets were .74% at September 30, 2004 compared
to .46% at December 31, 2003. The increase in non-performing loans at September
30, 2004, was the result of a $2.3 million commercial real estate loan being
placed in nonaccrual status. This loan is secured by commercial real estate;
however, the borrower has filed chapter 11 bankruptcy. It is anticipated that
the final disposition of the debt will not be determined until 2005.
Approximately $344,000 in reserves has been allocated to this credit. The
increase in non-performing assets was the result of transferring a $1.1 million
loan on a commercial property into other real estate owned. The allowance for
loan losses as a percentage of loans at September 30, 2004 was .95% compared to
..80% at December 31, 2003. The increase of the allowance as a percentage of
loans was in part the result of consolidating First Bank's allowance at 1.12% of
loans into Lincoln's allowance for loan losses.
Other income for the three months ended September 30, 2004 was $1,170,000
compared to $745,000 for the same quarter of 2003. The increase in other income
was primarily due to an increase in service charges on deposit accounts and
gains on sale of loans. Service charges on deposit accounts were $496,000 for
the third quarter of 2004 compared to $228,000 for the same period in 2003. This
increase was partially the result of the First Shares acquisition and the Bank's
efforts to increase the number of customers with checking accounts. However, the
primary reason for the increase in service charge income was the introduction of
Lincoln Advantage, the Bank's courtesy overdraft product introduced in the
second quarter of 2004. Gains on sale of loans were $181,000 for the third
quarter of 2004 compared to $75,000 for the same period in 2003. In the third
quarter of 2003, the Company adopted a strategy to reduce the number of loans
sold into the secondary market. The decision to sell or retain loans is
evaluated regularly depending on the Bank's interest rate sensitivity.
Other expenses were $4,642,000 for the three months ended September 30, 2004
compared to $3,319,000 for the same three months of 2003, an increase of
$1,323,000. The increase in the 2004 period was primarily from the acquisition
of First Shares with an operating expense level of approximately $1.1 million
for the two month period after the effective date of the merger on August 2,
2004. The expense level for First Shares was estimated based on First Bank's
actual other operating expenses of $3.9 million for the first seven months of
2004. First Shares' holding company expenses were excluded from the estimate as
these expenses were primarily related to the acquisition and other non-recurring
expenses. Core deposit intangible amortization increased by $117,000 for the
quarter ended September 30, 2004 to $140,000 from $23,000 for the same period in
2003 as a result of the First Shares acquisition. Other real estate owned
expenses were $146,000 for the third quarter of 2004 compared to a net credit of
$17,000 for the same period of 2003 or an increase of $163,000.
Income tax expense was approximately 24% of pretax income for the third quarter
of 2004 compared to 27% for the same period in 2003.
16
Comparison of Operating Results for the Nine Months Ended September 30, 2004 and
2003
Net income for the nine-month period ended September 30, 2004 was $2,933,000, or
$.70 for basic and $.68 for diluted earnings per share. This compared to
$2,778,000, or $.70 for basic and $.68 for diluted earnings per share for the
same period of 2003. For the nine months ended September 30, 2004, return on
average assets was .61% and return on average equity was 4.59% compared to .67%
and 4.67%, respectively, for same period in 2003.
Net interest income year-to-date through September 30, 2004 was $13,085,000
compared to $11,642,000 for the same period in 2003. Net interest income
increased primarily due to the First Shares acquisition offset by a declining
net interest margin. The Company's net interest margin was 2.91% for the nine
months ended September 30, 2004 as compared to 2.97% for the same nine-month
period one year ago.
The provision for loan losses for the first nine months of 2004 was $539,000
compared to $623,000 last year for the same period.
Other income for the nine months ended September 30, 2004 was $2,642,000
compared to $2,732,000 for the same period in 2003. The decline in other income
was primarily the result of a $419,000 reduction in gains on sale of loans.
Gains on sale of loans totaled $319,000 for the nine-month period ended
September 30, 2004 compared to $738,000 for the same period in 2004. This
decline was the result of less residential mortgage loan volume as the
refinancing boom experienced in 2003 did not continue into 2004. This decline in
gains on sale of loans was partially offset by an increase in service charges on
deposit accounts, up $379,000 to $1,015,000 for the nine-month period ended
September 30, 2004 from $636,000 for the same period in 2003.
Other expenses for the nine months ended September 30, 2004 were $11,303,000
compared to $10,032,000 for the same period last year. As discussed above, the
First Shares acquisition was the primary reason for the increase.
Income tax expense was approximately 25% of pretax income for the nine months
ended September 30, 2004 and 2003.
Asset Quality
The Company currently classifies loans as special mention, substandard, doubtful
and loss to assist management in addressing collection risks and pursuant to
regulatory requirements. Special mention loans represent credits that have
potential weaknesses that deserve management's close attention. If left
uncorrected, these potential weaknesses may result in deterioration of the
repayment prospects or Lincoln's credit position at some future date.
Substandard loans represent credits characterized by the distinct possibility
that some loss will be sustained if deficiencies on the loans are not corrected.
Doubtful loans possess the characteristics of substandard loans, but collection
or liquidation in full is doubtful based upon existing facts, conditions and
values. A loan classified as a loss is considered uncollectible. Lincoln had
$10.9 million and $5.2 million of loans classified as special mention as of
September 30, 2004 and December 31, 2003, respectively. In addition, Lincoln had
$6.1 million and $2.5 million of loans classified as substandard at September
30, 2004 and December 31, 2003, respectively. At September 30, 2004 and December
31, 2003, no loans were classified as doubtful or loss. At September 30, 2004,
and December 31, 2003, respectively, non-accrual loans were $3.7 million and
$1.6 million. At September 30, 2004 and December 31, 2003, respectively,
accruing loans delinquent 90 days or more totaled $280,000 and $272,000. At
September 30, 2004 and December 31, 2003, the allowance for loan losses was $5.6
million and $3.5 million, respectively or approximately .95% and .80% of loans,
including loans held for sale, respectively.
17
Liquidity and Capital Resources
The Financial Regulatory Relief and Economic Efficiency Act of 2000, which was
signed into law on December 27, 2000, repealed the former statutory requirement
that all savings associations maintain an average daily balance of liquid assets
in a minimum amount of not less than 4% or more than 10% of their withdrawable
accounts plus short-term borrowings. The OTS adopted a rule that implemented
this revised statutory requirement, although savings associations remain subject
to the OTS regulation that requires them to maintain sufficient liquidity to
ensure their safe and sound operation.
Pursuant to OTS capital regulations in effect at September 30, 2004, savings
associations were required to maintain a 1.5% tangible capital requirement, a 4%
leverage ratio (or core capital) requirement, and a total risk-based capital to
risk-weighted assets ratio of 8%. At September 30, 2004, Lincoln's capital
levels exceeded all applicable regulatory capital requirements in effect as of
that date.
Lincoln's previously announced intention to convert from a federally chartered
savings bank to a state chartered commercial bank is expected to be completed in
the first quarter of 2005.
Other
The Securities and Exchange Commission maintains a Web site that contains
reports, proxy information statements, and other information regarding
registrants that file electronically with the Commission, including the Company.
The address is http://www.sec.gov.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Presented below, as of September 30, 2004 and 2003, is an analysis performed by
the OTS of Lincoln's interest rate risk as measured by changes in Lincoln's net
portfolio value ("NPV") for instantaneous and sustained parallel shifts in the
yield curve, in 100 basis point increments, up 300 basis points and down 100
basis points.
September 30, 2004
------------------
Net Portfolio Value NPV as % of PV of Assets
Changes
In Rates $ Amount $ Change %Change NPV Ratio Change
- -------- -------- -------- ------- --------- ------
(Dollars in thousands)
+300 bp $72,865 $(13,382) (16)% 9.25% (128) bp
+200 bp 78,753 (7,495) (9) 9.86 (67) bp
+100 bp 83,576 (2,671) (3) 10.33 (20) bp
0 bp 86,248 10.53
- -100 bp 83,952 (2,295) (3) 10.17 (36) bp
September 30, 2003
------------------
Net Portfolio Value NPV as % of PV of Assets
Changes
In Rates $ Amount $ Change %Change NPV Ratio Change
- -------- -------- -------- ------- --------- ------
(Dollars in thousands)
+300 bp $53,695 $(14,510) (21)% 9.43% (192) bp
+200 bp 60,118 (8,086) (12) 10.35 (99) bp
+100 bp 65,319 (2,885) (4) 11.04 (30) bp
0 bp 68,204 11.34
- -100 bp 66,410 (1,794) (3) 10.92 (42) bp
18
Management believes at September 30, 2004, there have been no material changes
in Lincoln's interest rate sensitive instruments which would cause a material
change in the market risk exposures which affect the quantitative and
qualitative risk disclosures as presented in Item 7A of the Company's Annual
Report on Form 10-K for the period ended December 31, 2003.
Item 4. Controls and Procedures
(a) Evaluation of disclosure controls and procedures. The Company's chief
executive officer and chief financial officer, after evaluating the
effectiveness of the Company's disclosure controls and procedures (as defined in
Sections 13a-15(e) and 15d-15(e) of the regulations promulgated under the
Securities Exchange Act of 1934, as amended), as of the end of the most recent
fiscal quarter covered by this quarterly report (the "Evaluation Date"), have
concluded that as of the Evaluation Date, the Company's disclosure controls and
procedures were adequate and are designed to ensure that material information
relating to the Company would be made known to such officers by others within
the Company on a timely basis.
(b) Changes in internal controls. There were no significant changes in the
Company's internal control over financial reporting identified in connection
with the Company's evaluation of controls that occurred during the Company's
last fiscal quarter that has materially affected, or is reasonably likely to
materially affect, the Company's internal control over financial reporting.
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
Although the Company and its subsidiaries are involved, from time to
time, in various legal proceedings arising in the ordinary course of
business, there are no material legal proceedings to which they are a
party or to which their property is subject.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
The Company announced a stock repurchase program on April 23, 2003,
and up to 127,963 additional shares may still be repurchased under
that program. No shares were repurchased during the quarter ended
September 30, 2004. The repurchase program does not have an expiration
date.
Item 3. Defaults Upon Senior Securities
None.
19
Item 4. Submission of Matters to a Vote of Security Holders
On July 15, 2004, the Company held its Annual Meeting of the
Shareholders, at which the following proposals were voted upon:
(1) Merger Proposal. A total of 3,793,491 shares were represented in
person or by proxy at the meeting. The shareholders approved the
Agreement and Plan of Reorganization dated March 10, 2004 (the "Merger
Agreement"), by and among Lincoln Bancorp, First Shares Bancorp, Inc.,
Lincoln Bank, a wholly-owned subsidiary of Lincoln, and First Bank, a
wholly-owned subsidiary of First Shares. 2,315,547 shares were voted
in favor of the merger, 164,403 shares were voted against the merger,
1,292,900 were broker non votes and 20,641 votes were withheld.
(2) Election of Directors. W. Thomas Harmon was elected to the Board
of Directors for a three-year term expiring in 2007. 3,603,754 shares
were voted in favor of the election of the nominee and 189,737 votes
were withheld. Jerry R. Holifield was elected to the Board of
Directors for a three-year term expiring in 2007. 3,455,462 shares
were voted in favor of the election of the nominee and 338,029 votes
were withheld. John C. Milholland was elected to the Board of
Directors for a three-year term expiring in 2007. 3,604,643 shares
were voted in favor of the nominee and 188,848 votes were withheld.
The term of office of the following directors of Lincoln Bancorp
continued after the Annual Shareholder Meeting:
Name Term Expires In
---- ---------------
Lester N. Bergum, Jr. 2006
Dennis W. Dawes 2006
T. Tim Unger 2005
John L. Wyatt 2005
David Mansfield 2005
Following consummation of the merger on August 2, 2004, three former
directors of First Shares Bancorp - Jerry Engle, Frank A. Rogers and
R.J. McConnell - were appointed to the Lincoln Bancorp Board of
Directors.
Item 5. Other Information
None.
Item 6. Exhibits
Exhibits
31(1) Certification required by 17 C.F.R. Section 240.13a-14(a)
31(2) Certification required by 17 C.F.R. Section 240.13a-14(a)
32 Certification pursuant to 18 U.S.C. Section 1350, as
adopted pursuant to Section 906 of the Sarbanes-Oxley Act
of 2002
20
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, as amended,
the Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
LINCOLN BANCORP
Date: November 12, 2004 By: /s/ T. Tim Unger
---------------------------------------
T. Tim Unger
President and Chief Executive Officer
Date: November 12, 2004 By: /s/ John M. Baer
---------------------------------------
John M. Baer
Secretary and Treasurer
21