UNITED STATES
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 March 31, 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: 000-22407
SVB Financial Services, Inc.
(Exact name of registrant as specified in its charter)
New Jersey 22-3438058
(State of other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
70 East Main Street, Somerville, New Jersey 08876
(Address of principal executive officers) (Zip Code)
(908) 541-9500
(Registrant's telephone number, including area code)
(Former name, former address and former fiscal year, if changed since last
report)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
|X| Yes |_| No
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 126-2 of the Exchange Act).
|_| Yes |X| No
As of May 11, 2004 there were 3,861,053 shares of common stock, $2.09 par
value outstanding.
SVB FINANCIAL SERVICES, INC.
FORM 10-Q
INDEX
PART I - FINANCIAL INFORMATION
ITEM 1 - Financial Statements
ITEM 2 - Management's Discussion and Analysis of Financial Condition and
Results of Operations
ITEM 3 - Quantitative and Qualitative Disclosures about Market Risk
ITEM 4 - Controls and Procedures
PART II - OTHER INFORMATION
ITEM 1 - Legal Proceedings
ITEM 2 - Changes in Securities
ITEM 3 - Defaults Upon Senior Securities
ITEM 4 - Submission of Matters to a Vote of Security Holders
ITEM 5 - Other Information
ITEM 6 - Exhibits and Reports on Form 8-K
SIGNATURES
CERTIFICATIONS
SVB FINANCIAL SERVICES, INC.
CONSOLIDATED BALANCE SHEETS March 31, December 31,
As of March 31, 2004 and December 31, 2003 2004 2003
-------------------------
(in thousands) (Unaudited)
ASSETS
Cash & Due from Banks $ 16,886 $ 24,983
Federal Funds Sold 16,405 6,584
Other Short Term Investments 148 184
-----------------------
Total Cash and Cash Equivalents 33,439 31,751
-----------------------
Interest Bearing Time Deposits 13,337 13,142
Securities
Available for Sale, at Fair Value 38,002 42,855
Held to Maturity (Fair Value $62,550 in 2004 61,980 58,290
and $58,578 in 2003)
-----------------------
Total Securities 99,982 101,145
-----------------------
Loans 279,210 271,543
Allowance for Loan Losses (2,772) (2,680)
Unearned Income (337) (334)
-----------------------
Net Loans 276,101 268,529
-----------------------
Premises & Equipment, Net 7,987 7,356
Bank Owned Life Insurance 4,227 4,187
Other Assets 5,002 4,964
-----------------------
Total Assets $ 440,075 $ 431,074
=======================
LIABILITIES & SHAREHOLDERS' EQUITY
LIABILITIES
Deposits
Demand
Non-interest Bearing $ 64,139 $ 59,601
NOW 67,900 71,813
Savings 47,883 48,290
Money Market 64,770 56,547
Time
Greater than $100,000 27,515 27,755
Less than $100,000 112,251 115,007
-----------------------
Total Deposits 384,458 379,013
-----------------------
Other Borrowings 20,167 18,176
Obligation Under Capital Lease 394 397
Subordinated Debentures 6,702 --
Guaranteed Preferred Beneficial Interest in the
Corporation Subordinated Debentures -- 6,500
-----------------------
Total Borrowings 27,263 25,073
-----------------------
Other Liabilities 1,572 1,299
-----------------------
Total Liabilities 413,293 405,385
-----------------------
SHAREHOLDERS' EQUITY
Common Stock $2.09 Par Value: 20,000,000 8,070 8,041
Shares Authorized; 3,861,053 Shares in 2004 and
3,847,294 Shares in 2003 Issued and Outstanding
Additional Paid-in Capital 14,864 14,786
Retained Earnings 3,785 2,955
Accumulated Other Comprehensive Income/(Loss) 63 (93)
-----------------------
Total Shareholders' Equity 26,782 25,689
-----------------------
Total Liabilities and Shareholders' Equity $ 440,075 $ 431,074
=======================
SVB FINANCIAL SERVICES, INC.
CONSOLIDATED STATEMENTS OF INCOME
For the Three Months Ended March 31 2004 2003
----------- -----------
(Unaudited) (Unaudited)
(in thousands except per share data)
INTEREST INCOME
Loans $4,291 $4,037
Securities Available for Sale 324 466
Securities Held to Maturity 465 487
Other Short Term Investments - 9
Interest Bearing Time Deposits 89 124
Federal Funds Sold 17 34
--------------------
Total Interest Income 5,186 5,157
--------------------
INTEREST EXPENSE
Deposits 1,189 1,496
Other Borrowings 141 103
Obligation Under Capital Lease 5 5
Guaranteed Preferred Beneficial Interest
in the Corporation Subordinated Debentures 79 81
--------------------
Total Interest Expense 1,414 1,685
--------------------
Net Interest Income 3,772 3,472
PROVISION FOR LOAN LOSSES 125 170
--------------------
Net Interest Income after Provision for Loan Losses 3,647 3,302
--------------------
OTHER INCOME
Service Charges on Deposit Accounts 183 212
Gains on the Sale of Securities Available for Sale 31 47
Gains on the Sale of Loans 99 46
Bank Owned Life Insurance 40 45
Other Income 224 157
--------------------
Total Other Income 577 507
--------------------
OTHER EXPENSE
Salaries and Employee Benefits 1,573 1,520
Occupancy Expense 427 462
Equipment Expense 160 157
Other Expenses 826 770
--------------------
Total Other Expense 2,986 2,909
--------------------
Income Before Provision for Income Taxes 1,238 900
Provision for Income Taxes 408 294
--------------------
Net Income $ 830 $ 606
====================
EARNINGS PER SHARE - Basic $ 0.22 $ 0.16
====================
EARNINGS PER SHARE - Diluted $ 0.21 $ 0.15
====================
SVB FINANCIAL SERVICES, INC.
CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY
For the Three Months Ended March 31,
(Unaudited)
ACCUMULATED
ADDITIONAL OTHER TOTAL
COMMON PAID-IN RETAINED COMPREHENSIVE COMPREHENSIVE SHAREHOLDERS'
(in thousands) STOCK CAPITAL EARNINGS INCOME/(LOSS) INCOME EQUITY
-----------------------------------------------------------------------------------
BALANCE, JANUARY 1, 2004 $ 8,041 $ 14,786 $ 2,955 $ (93) $ 25,689
Issuance of Common Stock, Net 29 78 107
Net Income 830 $ 830 830
Accumulated Other Comprehensive
Income Net of Reclassification
Adjustment and Taxes 156 156 156
---------
Total Comprehensive Income $ 986
-----------------------------------------------------------------------------------
BALANCE, March 31, 2004 $ 8,070 $ 14,864 $ 3,785 $ 63 $ 26,782
===================================================================================
CONSOLIDATED STATEMENTS OF
COMPREHENSIVE INCOME
For the Three Months Ended March 31,
2004 2003
--------------------------
(in thousands) (Unaudited) (Unaudited)
Net Income $ 830 $ 606
Other Comprehensive Income, Net of Tax
Unrealized Gains/(Losses) Arising in the
Period, Net of Reclassification Adjustments 156 (38)
----- -----
Comprehensive Income $ 986 $ 568
===== =====
SVB FINANCIAL SERVICES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS 2004 2003
----------- -----------
For the Three Months Ended March 31, (Unaudited) (Unaudited)
(in thousands)
OPERATING ACTIVITIES
Net Income $ 830 $ 606
Adjustments to Reconcile Net Income to
Net Cash Provided by Operating Activities:
Provision for Loan Losses 125 170
Depreciation 183 170
Amortization of Securities Premium 136 186
Gains on the Sale of Securities
Available for Sale (31) (47)
Gains on the Sale of Loans (99) (46)
Decrease/(Increase) in Other Assets 84 (135)
Increase in Other Liabilities 273 335
Increase in Cash Surrender Value of Bank Owned Life Insurance (40) (45)
Increase in Unearned Income 3 5
---------------------
Net Cash Provided By Operating Activities 1,464 1,199
---------------------
INVESTING ACTIVITIES
Increase in Interest Bearing Time Deposits (195) (606)
Proceeds from the Sale of Securities Available for Sale 1,031 1,491
Proceeds from Maturities of Securities
Available for Sale 6,285 5,879
Held to Maturity 12,583 9,500
Purchases of Securities
Available for Sale (2,250) (15,119)
Held to Maturity (16,355) (5,690)
Increase in Loans, Net (7,601) (7,935)
Capital Expenditures (814) (176)
Purchase of Bank Owned Life Insurance -- (1,000)
---------------------
Net Cash Used for Investing Activities (7,316) (13,656)
---------------------
FINANCING ACTIVITIES
Net Increase/(Decrease) in Demand Deposits 625 (10,061)
Net (Decrease)/Increase in Savings Deposits (407) 1,263
Net Increase in Money Market Deposits 8,223 5,851
Net (Decrease)/Increase in Time Deposits (2,996) 1,751
Proceeds of Other Borrowings
One Year or Less 3,000 6,000
Over One Year 2,500 2,000
Repayment of Other Borrowings
One Year or Less (3,000) --
Over One Year (509) (9)
Decrease in Obligation Under Capital Lease (3) (4)
Proceeds from the Exercise of Stock Options 107 30
---------------------
Net Cash Provided by Financing Activities 7,540 6,821
---------------------
Increase/(Decrease) in Cash and Cash Equivalents 1,688 (5,636)
Cash and Cash Equivalents, Beginning of Year 31,751 39,743
---------------------
Cash and Cash Equivalents, End of Period $ 33,439 $ 34,107
=====================
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash Paid During the Period for Interest $ 1,406 $ 1,679
=====================
Cash Paid During the Period for Federal Income Taxes $ 300 $ 14
=====================
SVB FINANCIAL SERVICES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2004 (UNAUDITED)
1. SVB Financial Services, Inc., (the "Company") is a bank holding company and
the parent holding company for Somerset Valley Bank ("the Bank"), a full service
commercial bank. SVB Bald Eagle Statutory Trust I and SVB Bald Eagle Statutory
Trust II, subsidiaries of the Company, were created to issue trust preferred
securities to assist the Company to raise additional regulatory capital. The
Bank has one subsidiary, Somerset Valley Investment Company, Inc.. Somerset
Valley Investment Company, Inc. is the parent company of West End One Corp., a
company incorporated in the State of Delaware, which manages an investment
portfolio for the benefit of Somerset Valley Investment Company.
The consolidated financial statements included herein have been prepared
without an audit pursuant to the rules and regulations of the Securities and
Exchange Commission. Certain information and footnote disclosures normally
included in financial statements prepared in accordance with generally accepted
accounting principles have been omitted pursuant to such rules and regulations.
The accompanying condensed consolidated financial statements reflect all
adjustments, which are, in the opinion of management, necessary to a fair
statement of the results for the interim periods presented. Such adjustments are
of a normal recurring nature. These consolidated condensed financial statements
should be read in conjunction with the audited financial statements and the
notes thereto. The results for the three months ended March 31, 2004 are not
necessarily indicative of the results that may be expected for the year ended
December 31, 2004.
The consolidated financial statements include the accounts of Somerset
Valley Bank. All significant inter-company accounts and transactions have been
eliminated.
2. Loans
At March 31, 2004 and December 31, 2003 the composition of outstanding
loans is summarized as follows:
March 31, December 31,
2004 2003
-------- ------------
(in thousands)
Secured by Real Estate:
Residential Mortgage $ 76,856 $ 75,513
Commercial Mortgage 136,235 131,434
Construction 31,100 29,734
Commercial and Industrial 25,690 23,496
Loans to Individuals 9,266 10,397
Other Loans 63 969
-------- --------
$279,210 $271,543
======== ========
There were no loans past due 90 days or more and still accruing at March
31, 2004. There were no loans past due 90 days or more and still accruing at
December 31, 2003. Loans in non-accrual status totaled $763,000 at March 31,
2004 and $1,012,000 at December 31, 2003. Interest income that would have been
earned for the three months ended March 31, 2004 totaled approximately $20,000.
Interest income that would have been earned for the three months ended March 31,
2003 totaled approximately $13,000.
Loans considered to be impaired totaled $872,000 at March 31, 2004, a
valuation reserve of $97,000 is attributed to these loans.
3. Allowance for Loan Losses
The allowance for loan losses is based on estimates and ultimate losses
may vary from the current estimates. These estimates are reviewed periodically
and as adjustments become necessary, they are reflected in operations in the
period in which they become known. An analysis of the allowance for loan losses
is as follows:
Three Months
Ended Year Ended
March 31, December 31,
(in thousands) 2004 2003
------------ ------------
Balance January 1, $ 2,680 $ 2,407
Provision Charged to Operations 125 502
Charge Offs (34) (238)
Recoveries 1 9
------- -------
Balance End of Period $ 2,772 $ 2,680
======= =======
4. Guaranteed Preferred Beneficial Interest in the Corporation Subordinated
Debentures
The Company participates in two separate pooled institutional placements
of trust preferred securities arranged by a third party. The Company formed and
purchased the common stock of SVB Bald Eagle Statutory Trust I on July 30, 2001
followed by the funding of the trust preferred securities on July 31, 2001. This
subordinated debenture will be redeemed in the year 2031. At March 31, 2004, the
rate paid on this subordinated debenture of $4.0 million was based on 3-month
LIBOR plus 358 basis points or 4.71% and is adjusted quarterly in January,
April, July and October.
On June 25, 2002, the Company formed and purchased the common stock of SVB
Bald Eagle Statutory Trust II followed by the funding of the trust preferred
securities on June 26, 2002. This subordinated debenture will be redeemed in the
year 2032. At March 31, 2004, the rate paid on this subordinated debenture of
$2.5 million based on 3-month LIBOR plus 345 basis points or 4.56% and is
adjusted quarterly in March, June, September and December.
5. Letter of Credits
The Company issues financial and performance standby letters of credit,
both of which are subject to the disclosure and initial recognition and
measurement provisions of FIN No. 45. Financial and performance standby letters
of credit are conditional commitments issued by the Bank to assure the financial
and performance obligations of a customer to a third party. At March 31, 2004,
the Company was contingently liable on financial letters of credit totaling
$5,669,000, of which $272,000 were originated in the first three months of this
year. The Company's commitments under standby letters of credit expire at
various dates through March 22, 2005. Amounts due under these letters of credit
would be reduced by any proceeds that the Company would be able to obtain in
liquidating the collateral for the loans, which varies depending on the
customer. The Bank generally holds collateral and/or obtains personal guarantees
supporting these commitments. The extent of collateral held for these
commitments at March 31, 2004 varied from 0% to 100%, and averaged 18%.
6. New Accounting Pronouncements
Variable Interest Entities
Management has determined that SVB Bald Eagle Statutory Trust I and SVB
Bald Eagle Statutory Trust II qualify as variable interest entities under FIN
46, as revised. SVB Bald Eagle Statutory Trust I and SVB Bald Eagle Statutory
Trust II preferred entities issued mandatorily redeemable preferred stock to
investors and loaned the proceeds to the Company. SVB Bald Eagle Statutory Trust
I and SVB Bald Eagle Statutory Trust II are included in the Company's
consolidated balance sheet and statements of income as of and for the year ended
December 31, 2003. Subsequent to the issuance of FIN 46 in January 2003, the
FASB issued a revised interpretation, FIN 46(R) Consolidation of Variable
Interest Entities, the provisions of which must be applied to certain variable
interest entities by March 31, 2004.
The Company adopted the provisions under the revised interpretation in the
first quarter of 2004. Accordingly, the Company no longer consolidates SVB Bald
Eagle Statutory Trust I and SVB Bald Eagle Statutory Trust II. FIN 46(R)
precludes consideration of the call option embedded in the preferred stock when
determining if the Company has the right to a majority of SVB Bald Eagle
Statutory Trust I and SVB Bald Eagle Statutory Trust II expected residual
returns. The deconsolidiation results in the investment in the common stock of
SVB Bald Eagle Statutory Trust I and SVB Bald Eagle Statutory Trust II entities
to be included in other assets as of March 31, 2004 and the corresponding
increase in outstanding debt of $202,000. In addition, the income received on
the Company's common stock investment is included in other income. The adoption
of FIN 46 did not have a material impact on the financial position or results of
operations. The banking regulatory agencies have not issued any guidance that
would change the regulatory capital treatment for the trust-preferred securities
issued by SVB Bald Eagle Statutory Trust I and SVB Bald Eagle Statutory Trust II
based on the adoption of FIN 46(R). However, as additional interpretations from
the banking regulators related to entities such as SVB Bald Eagle Statutory
Trust I and SVB Bald Eagle Statutory Trust II become available, management will
reevaluate its potential impact to its Tier I capital calculation under such
interpretations.
Loan Commitments
The SEC recently released Staff Accounting Bulletin (SAB) No. 105,
Application of Accounting Principles to Loan Commitments. SAB 105 provides
guidance about the measurement of loan commitments recognized at fair value
under FASB Statement No. 133, Accounting for Derivative Instruments and Hedging
Activities. SAB 105 also requires companies to disclose their accounting policy
for those loan commitments including methods and assumptions used to estimate
fair value and associated hedging strategies. SAB 105 is effective for all loan
commitments accounted for as derivatives that are entered into after March 31,
2004. The adoption of SAB 105 is not expected to have a material effect on our
consolidated financial statements.
Stock Options
On March 31, 2004, the Financial Accounting Standards Board (FASB) issued
a proposed Statement, Share-Based Payment an Amendment of FASB Statements No.
123 and APB No. 95, that addresses the accounting for share-based payment
transactions in which an enterprise receives employee services in exchange for
(a) equity instruments of the enterprise or (b) liabilities that are based on
the fair value of the enterprise's equity instruments or that may be settled by
the issuance of such equity instruments. Under the FASB's proposal, all forms of
share-based payments to employees, including employee stock options, would be
treated the same as other forms of compensation by recognizing the related cost
in the income statement. The expense of the award would generally be measured at
fair value at the grant date. Current accounting guidance requires that the
expense relating to so-called fixed plan employee stock options only be
disclosed in the footnotes to the financial statements. The proposed Statement
would eliminate the ability to account for share-based compensation transactions
using APB Opinion No. 25, Accounting for Stock Issued to Employees. The Company
is currently evaluating this proposed statement and its effects on its results
of operations.
7. Stock-Based Compensation
For the three months ended March 31, 2004, there were 117,050 stock
options granted. The fair value of each option granted during this period was
$3.21 and was estimated on the date of grant using the Black Scholes pricing
model with the following assumptions: no dividend yield, expected volatility
13.00%, a risk-free interest rate of 2.73% and an expected life of 5.00 years.
Had compensation costs for the quarter been determined based on the fair
value of the options at the grant dates consistent with the method SFAS No. 123
"Accounting for Stock-Based Compensation," the Company's net income and earnings
per share, basic and diluted, would have been as reduced to the proforma amounts
indicated below for the three month period ended March 31, 2004:
For the Three Months
Ended March 31
- -----------------------------------------------------------------------------
(in thousands except per share data) 2004 2003
- -----------------------------------------------------------------------------
Net Income as Reported $ 830 $ 606
Less: Stock-Based Compensation Costs (248) (18)
-------------------
Proforma Net Income $ 582 $ 588
Earnings Per Share Basic
As Reported $0.22 $0.16
Proforma $0.15 $0.15
Earnings Per Share Diluted
As Reported $0.21 $0.15
Proforma $0.15 $0.15
ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
CRITICAL ACCOUNTING POLICIES, JUDGMENTS AND ESTIMATES
The Company's business is dynamic and complex. Consequently, management
must exercise judgment in choosing and applying accounting policies and
methodologies. These choices are important; not only are they necessary to
comply with accounting principles generally accepted in the United States, they
also reflect the exercise of management's judgment in determining the most
appropriate manner in which to record and report the Company's overall financial
performance. All accounting policies are important, and all policies contained
in Note 2 ("Significant Accounting Policies"), which begins on page 8 of the
Annual Report to Shareholders for 2003, should be reviewed for greater
understanding of how the Company's financial performance is recorded and
reported.
In management's opinion, some areas of accounting are likely to have a
more significant effect than others on the Company's financial results and
expose those results to potentially greater volatility. This is because they
apply to areas of relatively greater business importance and/or require
management to exercise judgment in making assumptions and estimates that affect
amounts reported in the financial statements. Because these assumptions and
estimates are based on current circumstances, they may change over time or prove
to be inaccurate based on actual experience. For the Company, the area that
relies most heavily on the use of assumptions and estimates includes, but is not
limited to, accounting for the allowance for loan losses. Our accounting
policies related to these areas are discussed in this report under the section
labeled "Allowance for Loan Losses."
Overview
Management of SVB Financial Services, Inc. (the "Company") is not aware of
any known trends, events or uncertainties that will have or are reasonably
likely to have a material effect on the Company's liquidity, capital resources
or results of operations. The following discussion and analysis should be read
in conjunction with the detailed information and consolidated financial
statements, including notes thereto, included elsewhere in this report. This
discussion and analysis is generally the financial condition and results of
operations for the three month periods ended March 31, 2004 and 2003. The
consolidated financial condition and results of operations of the Company are
essentially those of the Bank. Therefore, the analysis that follows is directed
to the performance of the Bank. Such financial condition and results of
operations are not intended to be indicative of future performance.
In addition to historical information, this discussion and analysis
contains forward-looking statements. The forward-looking statements contained
herein are subject to certain risks and uncertainties that could cause actual
results to differ materially from those projected in the forward-looking
statements. Important factors that might cause such a difference include, but
are not limited to, those discussed in the section entitled "Management's
Discussion and Analysis of Financial Condition and Results of Operations."
Readers are cautioned not to place undue reliance on these forward-looking
statements, which reflect management's analysis only as the date hereof. The
Company undertakes no obligation to publicly revise or update these forward-
looking statements to reflect events or circumstances that arise after the date
hereof.
Non Banking Products and Affiliations
The Company has a service agreement with Aurora Financial Group, Inc. to
provide origination/processing and closing services for residential mortgage
loans. The Company sells mortgage loans to Aurora Financial Group, Inc. on a
non-recourse basis and receives fee income. An employee of Aurora Financial
Group, Inc. is on-site for these purposes.
The Company acts as an agent for AIG Annuity Insurance Company under an
agreement defining the terms and conditions under which the Company's licensed
producers generate fixed insurance products.
The Company also maintains a dual employee arrangement with Linsco Private
Ledger to obtain commissions for the sale of variable annuities, mutual funds
and other investment products.
Results of Operations
Net income for the first three months of 2004 was $830,000 an increase of
$224,000 or 37% as compared to the same period in 2003. Earnings per share-Basic
were $.22 in 2004 and $.16 in 2003. Earnings per share-Diluted were $.21 in 2004
and $.15 in 2003. Earnings per share has been restated for the stock dividend.
Net Interest Income
Net interest income for the first three months of 2004 was $3,647,000
compared to $3,302,000 during 2003, an increase of $345,000 or 10%. A number of
factors contributed to this increase. The Company had growth in average earning
assets of $21.4 million or 6% compared to the first quarter of 2003. The Company
has also had a major emphasis on increasing loan balances. Average loans not
only accounted for all of the growth in earning assets, but were also funded by
reduction in Federal Funds sold and other short-term investments as well as
maturities of investment securities. These instruments generally have yields
which are substantially less than loan yields. Average loans increased by $32.4
million or 13.4% over the first quarter of 2003. Average loans accounted for 69%
of average earning assets as compared to 64% in 2003.
The United States continues to experience the lowest interest rates in 45
years. The Federal Reserve reduced the Federal Funds rate again in June of 2003
to 1%. At the same time, the prime lending rate, which the Company uses to price
a large portion of its loan portfolio dropped to 4%.
Consequently, the yields on all earning asset categories continued to
decline as assets priced with floating rates saw declines while assets maturing
were generally reinvested at lower rates. This caused the overall yield on
earning assets to decline from 5.58% in 2003 to 5.27% in 2004.
Offsetting this decline, the cost of funding earning assets declined from
1.82% to 1.44% for the respective quarters. This occurred for a number of
reasons. The Company was able to significantly reduce the rates on its less
expensive "core deposits" (savings deposits, money market deposits and NOW
accounts), while at the same time increase the percentage of these deposits as a
total funding source. During the first quarter of 2004, 47% of earnings assets
were funded by core deposits with an average cost of 0.79% compared to 44% core
funding of earning assets with an average cost of 0.97% in 2003. In addition,
maturing certificates of deposit were renewed at lower rates reducing the
overall cost of these deposits from 3.01% in 2003 to 2.38% in 2004. The Company
has also used Federal Home Loan Bank advances to fund loans when the rates
compared favorably with certificates of deposits. Average advances increased
$8.5 million while the cost of these advances declined from 4% to 2.99%.
By reducing its cost of funds at a greater rate than the reduction in the
yield on earning assets, the Company
improved its net interest margin from 3.76% to 3.83%
Provision for Loan Losses
The provision for loan losses was $125,000 in the first three months of
2004 as compared to $170,000 during the first three months of 2003. The decrease
in provision is based on the Company's most recent analysis and a decrease in
loans in non-accrual status of $249,000 since December 31, 2003. The allowance
for loan losses is 363% of non-performing loans at March 31, 2004 as compared to
265% at December 31, 2003.
Other Income
During the first three months of 2004, total other income increased
$70,000 or 14% from 2003. Gains on the sale of loans increased $53,000 or 115%
from the same period in 2003. The Company is a preferred SBA lender and, as
such, originates SBA loans and sells the government guaranteed portions in the
secondary market while retaining the servicing. The amount of gains recognized
on SBA loans is dependent on the volume of new SBA loans generated each quarter.
Other income increased $43,000, which included a $20,000 increase in the
commission from the sales of insurance, annuities and mutual funds. Service
charges and deposit accounts declined $29,000 primarily from a reduction in the
volume of wire transfer and sweep account fees.
Other Expense
Total other expense for the first three months of 2004 increased $77,000
or 3% from the same period last year. Salaries and benefit expense increased by
$53,000 or 4%, which included the additions to staff for the opening of the
Reading Ridge office. The Company has realigned the staffing of its branches
based on transaction volumes and outsourced its back-office item processing
operations since the first quarter of 2003. In addition, a salaried employee in
the first quarter of 2003 is now on a commission based compensation.
While opening an additional branch, the Company was able to reduce its
occupancy costs $35,000 or 8%. The Company's obligation under its lease for the
original Hillsborough office expired in December 2003. The Company also
purchased the facilities at 103 and 117 West End Avenue in Somerville and
thereby eliminated those lease obligations.
Other expenses increased $56,000 or 7% of this amount $41,000 resulted
from increased marketing and business development costs.
Financial Condition
March 31, 2004 compared to December 31, 2003
Total assets were $440.1 million at March 31, 2004 increasing $9.0 million
from December 31, 2003. Total loans increased $7.7 million. Investment
securities declined by $1.1 million.
Total deposits increased $5.4 million during the first three months of
2004. Savings accounts decreased $.4 million. NOW accounts decreased $3.9
million and money market accounts increased $8.2 million. Total certificates of
deposits decreased $3.0 million. Non interest bearing accounts increased $4.5
million.
Asset Quality
There were no loans past due 90 days or more and still accruing as of
March 31, 2004. There were no loans past due 90 days and still accruing as of
December 31, 2003.
Loans in a non-accrual status totaled $763,000 at March 31, 2004 and
represented 0.27% of total loans. Loans in non-accrual status totaled $1,012,000
at December 31, 2003 and represented 0.37% of total loans.
The Company had no other real estate owned at March 31, 2004.
Allowance for Loan Losses
The Company maintains an allowance for loan losses at a level deemed
sufficient to absorb losses, which are inherent in the loan portfolio at each
balance sheet date. Management determines the adequacy of the allowance on a
monthly basis to ensure that the provision for loan losses has been charged
against earnings in an amount necessary to maintain the allowance at a level
that is appropriate based on management's assessment of probable estimated
losses. The Company's methodology for assessing the appropriateness of the
allowance for loan losses consists of several key elements. These elements
include a specific allowance for all commercial loans based upon a risk rating
assigned to the loan, an allowance for homogeneous types of loans such as
consumer installment loans, residential mortgage loans and home equity loans,
and an additional allowance for loans deemed to be impaired and an unallocated
portion. The Company consistently applies the following comprehensive
methodology:
All commercial loans are assigned a two-digit risk rating at the time of
closing. The first digit of the rating refers to the strength of the borrower
based on their financial condition and past history. Current economic conditions
and the effect on the borrower's business are also taken into account. The
second digit refers to the collateral strength and liquidity with zero being
assigned to unsecured loans. An allowance amount is then assigned to each risk
rating. Since, in its thirteen-year history, the Company has had very few
commercial loan losses, the amount of the allowance is based on the experience
of management and their judgment with respect to these types of loans. A risk
rating may be changed with the approval of the senior loan officer. A rating
change may be requested if the individual loan officer or the Bank's credit
analyst is aware of a change in the borrower's financial condition. In addition,
approximately 60% of the dollar amount of commercial loans are reviewed on an
annual basis by an outside independent loan review firm at which time a change
to the risk rating may be recommended.
The allowance for homogenous loans is established based on a number of
factors, including current economic conditions and the loss experience with
these types of loans as well as management's judgment.
The AICPA's Accounting Standards Executive Committee has issued an
exposure draft of a proposed Statement of Position (SOP), "Allowance for Credit
Losses." The proposed SOP addresses the recognition and measurement by creditors
of the allowance for credit losses related to all loans, as that term is defined
in Financial Accounting Standards Board (FASB) Statement of Financial Accounting
Standards No. 114, "Accounting by Creditors for Impairment of a Loan," with
certain exceptions. If adopted, the proposed SOP would apply to all creditors
other than state and local governmental entities and federal governmental
entities. The Corporation is currently reviewing the components of the proposed
SOP and the impact it will have on its consolidated financial position and
results of operations.
Loans are deemed to be impaired if they are 60 days or more past due for
principal or interest or are in a non-accrual status. If there is insufficient
collateral to pay the amount of the loan an allowance is determined over and
above the amount required by the risk rating by taking the difference between
the carrying amount of the loan and the present value of expected future cash
flows discounted at the loan's current rate less any amounts already established
by the risk rating.
The Company also maintains an unallocated allowance. The unallocated
allowance is used to cover any factors or conditions, which may cause a
potential loan loss but are not specifically identifiable. This amount totaled
$47,000 at March 31, 2004. It is prudent to maintain an unallocated portion of
the allowance because no matter how detailed an analysis of potential loan
losses is performed, these estimates by definition lack precision.
Since all identified losses are immediately charged off, no portion of the
allowance for loan losses is restricted to any individual loan or groups of
loans, and the entire allowance is available to absorb any and all loan losses.
A loan is placed in a non-accrual status at the time when ultimate
collectibility of principal or interest, wholly or partially, is in doubt. Past
due loans are those loans which were contractually past due 90 days or more as
to interest or principal payments but are well secured and in the process of
collection.
At March 31, 2004, the allowance for loan losses was $2.8 million and
represented 0.99% of total loans and 363% of non-performing loans compared to an
allowance for loan losses at December 31, 2003 of $2.7 million or 0.99% of total
loans and 265% of non-performing loans.
Net charge-offs for the first three months of 2004 totaled $33,000
compared to $229,000 for the year ended December 31, 2003. Of the 2003
charge-offs, $139,000 occurred during the third quarter and represented one
loan.
Capital Resources
Total Shareholders' Equity was $26.8 million at March 31, 2004 compared to
$25.7 million at December 31, 2003. Subordinated debentures in the amount of
$6.5 million are also included in the calculation of regulatory capital ratios
with certain limitations, as permitted by FDIC regulations.
Under the FDIC Improvement Act of 1991, banks are required to maintain a
minimum ratio of total capital to risk based assets of 8% of which at least 4%
must be in the form of Tier I Capital (primarily Shareholders' Equity). The
following are the Company's capital ratios at the end of the periods indicated.
March 31, December 31,
2004 2003
--------- ------------
Leverage Ratio 7.34% 7.39%
Tier 1 Capital to Risk Weighted Assets 10.09% 10.06%
Total Capital to Risk Weighted Asset 10.97% 10.94%
Liquidity
Cash and Cash Equivalents totaled $33.4 million at March 31, 2004, an
increase of $1.7 million since December 31, 2003.
The increase in Cash and Cash Equivalents resulted from a combination of
various components of the balance sheet. Net cash provided by financing
activities was $7.5 million. Deposits increased a net of $5.4 million and
Federal Home Loan Bank Advances increased a net of $2.0 million. Partially
offsetting this, net cash used for investing activities totaled $7.3 million. Of
this total, $7.6 million was used to increase loan balances.
ITEM 3 - QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Interest rate risk is defined as the sensitivity of the Company's current
and future earnings as well as its capital to changes in the level of market
interest rates. The Company's exposure to interest rate risk results from, among
other things, the difference in maturities on interest earning assets and
interest bearing liabilities. The relationship between the interest rate
sensitivity of the Bank's assets and liabilities is continually monitored by the
Bank's Asset/Liability Management Committee (the "ALCO"). The purpose of the
ALCO is to review and monitor the volume, mix and pricing of the interest
earning assets and interest bearing liabilities consistent with the Bank's
overall liquidity, capital, growth, profitability and interest rate risk goals.
Loans make up the largest portion of the Bank's assets. In making
commercial loans, the emphasis is placed on either floating rate loans tied to
the Prime Lending Rate or fixed rate loans with prepayment penalties depending
upon the Bank's overall rate sensitivity position. Fixed rate commercial loans
are generally written so that the rates can be adjusted within 3 to 7 years with
payouts up to 25 years. Mortgage loans are currently written to be adjusted
annually after the first 3, 5 or 10-year term with payouts up to 30 years. Home
equity lines of credit are tied to the Prime Lending Rate although special
promotions may offer a fixed rate for periods of not greater than one year.
Fixed rate home equity loans are offered with a maturity of 5 or 10 years,
amortizing over a 15-year period. These loans also contain interest rate floors.
Installment loans are written at fixed rates amortizing over 1 to 5 years.
The Bank utilizes its securities to manage its liquidity and rate
sensitivity. Fixed rate agency and corporate securities are purchased for terms
of less than 5 years. Adjustable rate securities require an estimated average
life at time of purchase of 10 years or less. Callable securities can be
purchased for terms of 5 years or less with a call period of three months to 2
years. Fixed rate mortgage-backed securities are purchased with estimated
average lives at the time of purchase of not more than 5 years. These securities
are reviewed for changes in yield and average life resulting from changes in
interest rates. The Bank also invests in FDIC insured CDs of other financial
institutions with a maturity of three months to three years for amounts up to
$100,000.
Short-term rate sensitivity is also managed through the investment into
high quality short-term Money Market securities, US Government securities and/or
US Treasury securities made available through Money Market funds, which can be
liquidated at anytime. In general, the day-to-day rate sensitivity is managed
through the sale or purchase of Federal Funds from approved correspondent banks.
A significant portion of the Bank's assets have been funded with
Certificates of Deposits ("CDs") including jumbo CDs. Unlike other deposit
products, such as checking and savings accounts, CDs carry a high degree of
interest rate sensitivity and competitiveness of the Bank's interest rates. The
Bank has attempted to price its CDs competitively. Interest rates on savings
accounts, NOW and Money Market accounts are variable and can be changed at the
discretion of the Company. These accounts are not tied to any particular index.
As members of the Federal Home Loan Bank, the Company can borrow advances
at a fixed or floating rate and on a non-amortizing or amortizing basis. These
advances can be for terms ranging from overnight to up to 30 years. The advances
can be matched against various earning assets.
The nature of the Bank's current operations is such that it is not subject
to foreign currency exchange or commodity price risk. Additionally, neither the
Company nor the Bank owns any trading assets. At March 31, 2004, the Bank did
not have any hedging transactions in place.
INTEREST RATE SENSITIVITY ANALYSIS
One measure of the Bank's interest rate sensitivity is through the use of
a sensitivity gap analysis. The interest rate sensitivity gap is defined as the
difference between the amount of interest earning assets maturing or repricing
within a specific time period and the amount of interest bearing liabilities
maturing or repricing within that same time period. A gap is positive when the
amount of interest earning assets maturing or repricing exceeds the amount of
interest bearing liabilities maturing or repricing within that same period and
is negative when the amount of interest bearing liabilities maturing or
repricing exceeds the amount of interest earning assets maturing or repricing
within the same period. Accordingly, during a period of rising interest rates,
an institution with a negative gap position would not be in as favorable a
position, compared to an institution with a positive gap, to invest in higher
yielding assets. A negative gap may result in the yield on an institution's
interest earning assets increasing at a slower rate than the increase in an
institution's cost of interest bearing liabilities than if it had a positive
gap. During a period of falling interest rates, an institution with a negative
gap would experience a repricing of its interest earning assets at a slower rate
than its interest bearing liabilities, which consequently, may result in its net
interest income growing at a faster rate than an institution with a positive gap
position.
The ALCO attempts to maintain the Company's cumulative gap ratios at
+/-15% for 90 days or less, +/-20% for four to six months and +/-25% for
between six months and one year.
The following table depicts the Company's gap position as of March 31, 2004.
INTEREST RATE SENSITIVITY AT MARCH 31, 2004
MATURITY OR REPRICING IN (1)
DUE IN BETWEEN NON-
90 DAYS 91 DAYS - AFTER INTEREST
($in thousands) OR LESS ONE YEAR ONE YEAR BEARING TOTAL
- -----------------------------------------------------------------------------------------------------------------------
ASSETS:
Securities $ 25,041 $ 28,947 $ 45,994 $ -- $ 99,982
Federal Funds Sold 16,405 -- -- -- 16,405
Other Short Term Investments 148 -- -- -- 148
Interest Bearing Time Deposits 1,990 7,065 4,282 -- 13,337
Loans 81,624 13,054 183,769 763 279,210
Allowance For Loan Losses -- -- -- (2,772) (2,772)
Non-interest Earning Assets -- -- -- 33,765 33,765
- -----------------------------------------------------------------------------------------------------------------------
Total Assets $ 125,208 $ 49,066 $ 234,045 $ 31,756 $ 440,075
- -----------------------------------------------------------------------------------------------------------------------
LIABILITIES AND STOCKHOLDERS' EQUITY
Interest Bearing liabilities:
Money Market $ 16,193 $ 25,260 $ 23,317 $ -- $ 64,770
NOW 4,074 24,444 39,382 -- 67,900
Savings Deposits 5,745 19,152 22,986 -- 47,883
Time Deposits over $100,000 8,153 10,760 8,602 -- 27,515
Other Time Deposits 31,649 44,761 35,841 -- 112,251
Other Borrowings 3,000 2,000 15,167 -- 20,167
Obligation Under Capital Lease 3 11 380 -- 394
Subordinated Debentures 6,702 -- -- -- 6,702
- -----------------------------------------------------------------------------------------------------------------------
Total Interest Bearing Liabilities 75,519 126,388 145,675 -- 347,582
- -----------------------------------------------------------------------------------------------------------------------
Non-interest Bearing Demand Deposits 5,772 8,979 49,388 -- 64,139
Other Liabilities -- -- -- 1,572 1,572
Stockholder's Equity -- -- -- 26,782 26,782
- -----------------------------------------------------------------------------------------------------------------------
Total Liabilities and
Stockholders' Equity $ 81,291 $ 135,367 $ 195,063 $ 28,354 $ 440,075
- -----------------------------------------------------------------------------------------------------------------------
Interest Rate Sensitivity Gap $ 43,917 $ (86,301) $ 38,982 $ 3,402
- -----------------------------------------------------------------------------------------------------------------------
Cumulative Gap $ 43,917 $ (42,384) $ (3,402)
- -----------------------------------------------------------------------------------------------------------------------
Cumulative Gap to Total Assets 9.98% (9.63)% (0.77)%
- -----------------------------------------------------------------------------------------------------------------------
(1) The following are the assumptions that were used to prepare the Gap
analysis:
(A) Interest rates remain flat during the period covered by the table,
i.e. a prime rate of 4.00% and a Federal Funds rate of 1.00%.
(B) Callable agency securities are spread at their call dates or
maturity date depending upon the relationship of the rate of the
securities to the treasury yield curve as dictated by the rates
listed in (A).
(C) Prepayments on mortgage-backed securities as well as various types
of loans are based on estimates in relationship to the rates listed
in (A).
(D) Loans are spread based on the earlier of their actual maturity date
or the date of their first potential rate adjustment.
(E) The maturity or decay rate of non maturity deposits, i.e. Money
Market, NOW, Savings and non-interest bearing Demand deposits is
estimated.
(F) Time deposits are spread based on their actual maturity dates.
While gap analysis is a general indicator of the potential effect that
changing interest rates may have on net interest income, the gap itself does not
present a complete picture of interest rate sensitivity. First, changes in the
general level of interest rates do not affect all categories of assets and
liabilities equally or simultaneously. Second, assumptions must be made to
construct a gap analysis. Management can influence the actual repricing of the
deposits independent of the gap assumption. Third, certain securities are
callable and, therefore, repriceable prior to their maturity dates depending on
the level of interest rates. The cash flows of certain loans and mortgage-backed
securities and the repricing of those cash flows will vary under different
interest rates. Fourth, the gap analysis represents a one-day position and
cannot incorporate a changing mix of assets and liabilities over time as
interest rates change. Volatility in interest rates can also result in
disintermediation, which is the flow of funds away from financial institutions
into direct investments, such as U.S. Government and corporate securities and
other investment vehicles, including mutual funds, which, because of the absence
of federal insurance premiums and reserve requirements, generally pay higher
rates of return than financial institutions.
As indicated in the previous table, the Bank has had a positive gap
position in the period of 1 to 90 days. During periods of continual increases in
short-term rates the Company will generally experience expansion of its net
interest margin.
In 2003, the Federal Funds rate and the Prime Lending Rate remained flat
for 5 months and were then reduced 25 basis points in June, where they have
remained at 1.00% and 4.00%, respectively. These rates have not been this low
since 1958. The net interest margin improved to 3.83% in the first quarter 2004.
For further discussion of the net interest margin see "Net Interest Income."
Past performance is no indication of future results. The net interest
margin can be affected by more than the change in the level of interest rates.
Such items as the changes in the mix of assets and liabilities and a change in
the competitive factors governing the pricing of assets and liabilities can also
greatly impact the net interest margin.
An additional analysis of the Bank's interest rate risk is a forecast of
changes in the Bank's Market Value of Portfolio Equity (MVPE) under alternative
interest rate environments. The MVPE is defined as the net present value of the
Bank's existing assets, liabilities and off-balance sheet instruments. The
calculated estimated change in MVPE for the Bank at March 31, 2004 is as
follows:
CHANGE IN INTEREST (in thousands) MVPE AMOUNT $ CHANGE
- --------------------------------------------------------------------------------
+200 Basis Points $24,945 $(1,837)
Base Amount Rate 26,782 --
- -200 Basis Points 29,058 2,276
- --------------------------------------------------------------------------------
The policy of the Company requires that a parallel shock of +/-200 basis
points may not change the MVPE by more than 1% of total assets. For 2004, this
amount would be $4.4 million.
It is important to note that as of March 31, 2004 a downward parallel
shock of 200 basis points could not be
applied to all assets and liabilities. For example, at March 31, 2004 the
Federal Funds rate was at 1.00%. Certain loans rates, such as home equity loans,
have contractual floors which at quarter end 2004 were above the current market
rates. In addition, certain deposit rates could not realistically be reduced by
200 basis points. Assumptions were made as to implied floors for these rates.
The Company also uses simulation models to measure the impact of changing
interest rates on its operations. The simulation model attempts to capture the
cash flow and repricing characteristics of the current assets and liabilities on
the Company's balance sheet. Assumptions regarding such things as prepayments,
rate change behaviors, levels and composition of new balance sheet activity and
new product lines are incorporated into the simulation model. Net interest
income is simulated over a twelve month horizon under a variety of yield changes
subject to certain limits agreed to by ALCO. The Company uses three interest
rate scenarios provided by Global Insight, a third party econometric modeling
service.
The first scenario is a projection by Global Insight of what rates are
most likely to be over a twelve month time horizon given the most recent set of
facts and circumstances. The remaining scenarios are a rising and a declining
rate scenario that are purely hypothetical in nature. These three scenarios are
then compared to the base case of a flat rate scenario. The following table
depicts the approximate change in net interest income after taxes (35% tax rate)
under the three rate scenarios at March 31, 2004.
Point To Point Dollar Change In
Change In The Thousands In Net
Prime Lending Interest Income
Rate Over From Flat Rate
Scenarios Twelve Months Scenario
--------------- --------------- ----------------
($ in thousands)
Most Likely .87% $ 61
Rising 2.87% 444
Declining (.38)% (185)
Actual results may differ from the simulated results due to such factors
as the timing, magnitude and frequency of interest rate changes, changes in
market conditions, management strategies and differences in actual versus
forecasted balance sheet composition and activity.
ITEM 4 - CONTROLS AND PROCEDURES
The Company's Chief Executive Officer and Chief Financial Officer
(collectively, the "Certifying Officers") are responsible for establishing and
maintaining disclosure controls and procedures for the Company. Such officers
have concluded (based upon their evaluation of these controls and procedures as
of a date within 90 days of the filing of this report) that the Company's
disclosure controls and procedures are effective to ensure that information
required to be disclosed by the Company in this report is accumulated and
communicated to the Company's management, including its principal executive
officers as appropriate, to allow timely decisions regarding required
disclosure.
The Certifying Officers also have indicated that there were no significant
changes in the Company's internal controls or other factors that could
significantly affect such controls subsequent to the date of their evaluation,
and there were no corrective actions with regard to significant deficiencies and
material weaknesses.
PART II-OTHER INFORMATION
ITEM 1- Legal Proceedings
The Company is party in the ordinary course of business to litigation
involving collection matters, contract claims and other miscellaneous
causes of action arising from its business. Management does not
consider that such proceedings depart from usual routine litigation
and, in its judgment, the Company's financial position and results of
operations will not be affected materially by such proceedings.
ITEM 2- Changes in Securities
None.
ITEM 3- Defaults upon Senior Securities
None.
ITEM 4- Submission of Matters to a Vote of Security Holders
None.
ITEM 5- Other Information
The common stock of the Company is traded on the Nasdaq National
Market Small-Cap, under the trading symbol SVBF. On March 31, 2004,
the closing bid of the Company's common stock was $18.25 per share.
The Company has a web site located at www.somersetvalleybank.com.
ITEM 6- Exhibits and Reports on Form 8-K
(a) Exhibits
31 Certifications
32 906 Certification
(b) Form 8-K
There have been two reports on Form 8-K filed during the first
quarter of 2004.
February 20, 2004------------Press release announcing South
Plainfield Office
January 26, 2004-------------2003 Earnings Press Release.
SIGNATURES
I, Robert P. Corcoran, hereby certify that the periodic report being filed
herewith containing financial statements fully complies with the requirements of
section 13(a) or 15(d) of the Securities Exchange Act of 1934 (16 U.S. C. 78m or
78o(d)) and that information contained in said periodic report fairly presents,
in all material respects, the financial condition and results of operations of
SVB Financial Services, Inc. for the period covered by said periodic report.
SVB FINANCIAL SERVICES, INC.
(Registrant)
/s/ Robert P. Corcoran
-------------------------------
Robert P. Corcoran
Chief Executive Officer
I, Keith B. McCarthy, hereby certify that the periodic report being filed
herewith containing financial statements fully complies with the requirements of
section 13(a) or 15(d) of the Securities Exchange Act of 1934 (16 U.S. C. 78m or
78o(d)) and that information contained in said periodic report fairly presents,
in all material respects, the financial condition and results of operations of
SVB Financial Services, Inc. for the period covered by said periodic report.
SVB FINANCIAL SERVICES, INC.
(Registrant)
/s/ Keith B. McCarthy
------------------------------
Keith B. McCarthy
Chief Financial Officer
Chief Accounting Officer
Dated: May 12, 2004