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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
/x/ QUARTERLY REPORT PURSUANT TO SECTION 13 or 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2002
OR
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from______________to____________
Commission File Number 0-15137
MASSBANK Corp.
(Exact name of registrant as specified in its charter)
Delaware 04-2930382
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
123 HAVEN STREET
Reading, Massachusetts 01867
(Address of principal executive offices, including Zip Code)
Registrant's telephone number, including area code: (781) 662-0100
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
The number of shares outstanding of the issuer's classes of common stock,
as of the latest practicable date is:
Class: Common stock $1.00 per share.
Outstanding at July 31, 2002: 4,674,250 shares.
MASSBANK CORP. AND SUBSIDIARIES
INDEX
PART I - FINANCIAL INFORMATION
Page
ITEM 1. Financial Statements
Consolidated Balance Sheets as of
June 30, 2002 (unaudited) and December 31, 2001 3
Consolidated Statements of Income (unaudited)
for the three months ended June 30, 2002 and 2001 4
and for the six months ended June 30, 2002 and 2001 5
Consolidated Statements of Changes in Stockholders' Equity
for the six months ended June 30, 2002 (unaudited)
and the year ended December 31, 2001 6 - 7
Consolidated Statements of Cash Flows (unaudited)
for the six months ended June 30, 2002 and 2001 8 - 9
Condensed Notes to the Consolidated Financial Statements 10 - 11
ITEM 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 12 - 34
ITEM 3. Quantitative and Qualitative Disclosures About Market Risk 34
PART II - OTHER INFORMATION
ITEM 1. Legal Proceedings 35
ITEM 2. Changes in Securities 35
ITEM 3. Defaults Upon Senior Securities 35
ITEM 4. Submission of Matters to a Vote of Security Holders 35
ITEM 5. Other Information 35
ITEM 6. Exhibits and Reports on Form 8-K 35
Signature Page 36
2
MASSBANK CORP. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands except share data)
June 30, December 31,
2002 2001
(unaudited)
Assets:
Cash and due from banks $ 10,418 $ 8,945
Short-term investments (Note 3) 207,785 236,382
- -------------------------------------------------------------------------------------
Total cash and cash equivalents 218,203 245,327
Interest-bearing deposits in banks 4,322 6,490
Securities available for sale, at market value (amortized
cost of $380,910 in 2002 and $362,076 in 2001) 391,379 372,584
Trading securities, at market value 34,560 3,089
Loans: (Note 4)
Mortgage loans 310,525 296,469
Other loans 18,440 34,548
Allowance for loan losses (2,642) (2,643)
- -------------------------------------------------------------------------------------
Net loans 326,323 328,374
Premises and equipment 6,763 6,927
Accrued interest receivable 4,890 3,950
Goodwill 1,090 1,090
Current income tax asset, net 377 208
Other assets 8,532 3,129
- -------------------------------------------------------------------------------------
Total assets $996,439 $971,168
Liabilities and Stockholders' Equity:
Deposits $873,880 $849,684
Escrow deposits of borrowers 1,245 1,403
Employee stock ownership plan liability 156 156
Deferred income taxes 2,181 2,275
Other liabilities 2,459 2,746
- -------------------------------------------------------------------------------------
Total liabilities 879,921 856,264
Stockholders' Equity:
Preferred stock, par value $1.00 per share;
2,000,000 shares authorized, none issued -- --
Common stock, par value $1.00 per share;
10,000,000 shares authorized, 7,569,479 and
7,494,980 shares issued, respectively 7,569 7,495
Additional paid-in capital 52,480 62,875
Retained earnings 92,829 99,996
- -------------------------------------------------------------------------------------
152,878 170,366
Accumulated other comprehensive income: (Note 6)
Net unrealized gains on securities
available for sale, net of tax effect 6,515 6,443
Treasury stock at cost, 2,893,829 and
4,362,289 shares, respectively (Note 5) (42,719) (61,749)
Common stock acquired by ESOP (156) (156)
- -------------------------------------------------------------------------------------
Total stockholders' equity 116,518 114,904
- -------------------------------------------------------------------------------------
Total liabilities and stockholders' equity $996,439 $971,168
See accompanying condensed notes to consolidated financial statements.
3
MASSBANK CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)
Three months ended
June 30,
(In thousands except share data) 2002 2001
- --------------------------------------------------------------------------------
Interest and dividend income:
Mortgage Loans $ 5,222 $ 4,807
Other loans 387 613
Securities available for sale:
Mortgage-backed securities 3,900 4,696
Other securities 1,362 1,443
Trading securities 195 32
Federal funds sold 724 2,186
Other investments 160 328
- --------------------------------------------------------------------------------
Total interest and dividend income 11,950 14,105
- --------------------------------------------------------------------------------
Interest expense:
Deposits 5,943 8,476
- --------------------------------------------------------------------------------
Total interest expense 5,943 8,476
- --------------------------------------------------------------------------------
Net interest income 6,007 5,629
Provision for loan losses -- 12
- --------------------------------------------------------------------------------
Net interest income after provision for loan losses 6,007 5,617
- --------------------------------------------------------------------------------
Non-interest income:
Deposit account service fees 141 159
Gains on securities available for sale, net 750 1,122
Gains on trading securities, net 168 18
Other 177 253
- --------------------------------------------------------------------------------
Total non-interest income 1,236 1,552
- --------------------------------------------------------------------------------
Non-interest expense:
Salaries and employee benefits 1,800 1,695
Occupancy and equipment 473 513
Data processing 132 122
Professional services 152 147
Advertising and marketing 35 54
Amortization of intangibles -- 80
Deposit insurance 46 43
Other 349 337
- --------------------------------------------------------------------------------
Total non-interest expense 2,987 2,991
- --------------------------------------------------------------------------------
Income before income taxes 4,256 4,178
Income tax expense 1,554 1,490
- --------------------------------------------------------------------------------
Net income $ 2,702 $ 2,688
- --------------------------------------------------------------------------------
Weighted average common shares outstanding:
Basic 4,724,320 4,673,880
Diluted 4,859,530 4,795,362
Earnings per share (in dollars):
Basic $ 0.57 $ 0.57
Diluted 0.56 0.56
See accompanying condensed notes to consolidated financial statements.
4
MASSBANK CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)
Six months ended
June 30,
(In thousands except share data) 2002 2001
- --------------------------------------------------------------------------------
Interest and dividend income:
Mortgage Loans $ 10,404 $ 9,595
Other loans 788 1,322
Securities available for sale:
Mortgage-backed securities 8,045 9,483
Other securities 2,593 3,279
Trading securities 323 145
Federal funds sold 1,449 4,555
Other investments 388 619
- --------------------------------------------------------------------------------
Total interest and dividend income 23,990 28,998
- --------------------------------------------------------------------------------
Interest expense:
Deposits 12,037 17,388
- --------------------------------------------------------------------------------
Total interest expense 12,037 17,388
- --------------------------------------------------------------------------------
Net interest income 11,953 11,610
Provision for loan losses -- 24
- --------------------------------------------------------------------------------
Net interest income after provision for loan losses 11,953 11,586
- --------------------------------------------------------------------------------
Non-interest income:
Deposit account service fees 287 320
Gains on securities available for sale, net 1,749 1,901
Gains on trading securities, net 102 96
Other 354 406
- --------------------------------------------------------------------------------
Total non-interest income 2,492 2,723
- --------------------------------------------------------------------------------
Non-interest expense:
Salaries and employee benefits 3,626 3,283
Occupancy and equipment 994 1,091
Data processing 260 251
Professional services 296 249
Advertising and marketing 76 96
Amortization of intangibles 29 162
Deposit insurance 92 88
Other 649 638
- --------------------------------------------------------------------------------
Total non-interest expense 6,022 5,858
- --------------------------------------------------------------------------------
Income before income taxes 8,423 8,451
Income tax expense 3,071 3,018
- --------------------------------------------------------------------------------
Net income $ 5,352 $ 5,433
- --------------------------------------------------------------------------------
Weighted average common shares outstanding:
Basic 4,729,024 4,686,297
Diluted 4,860,566 4,802,435
Earnings per share (in dollars):
Basic $ 1.13 $ 1.16
Diluted 1.10 1.13
See accompanying condensed notes to consolidated financial statements.
5
MASSBANK CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
For The Six Months Ended June 30, 2002 (unaudited)
(In thousands except share data)
ACCUMULATED COMMON
ADDITIONAL OTHER STOCK
COMMON PAID-IN RETAINED TREASURY COMPREHENSIVE ACQUIRED
STOCK CAPITAL EARNINGS STOCK INCOME BY ESOP TOTAL
-------- ---------- ---------- ---------- ------------- --------- --------
Balance at December 31, 2001 $7,495 $ 62,875 $ 99,996 $(61,749) $6,443 $(156) $114,904
Net Income -- -- 5,352 -- -- -- 5,352
Other comprehensive income,
net of tax:
Unrealized gains on securities,
net of reclassification adjustment (Note 6) -- -- -- -- 72 -- 72
-----
Comprehensive income 5,424
Cash dividends paid ($0.44 per share) -- -- (2,089) -- -- -- (2,089)
Tax benefit resulting from dividends
paid on unallocated shares held by the ESOP -- -- 2 -- -- -- 2
Amortization of ESOP shares
committed to be released -- 119 -- -- -- -- 119
Purchase of treasury stock -- -- -- (3,417) -- -- (3,417)
Purchase of company stock for
deferred compensation plan -- 30 -- (30) -- -- --
Exercise of stock options
and related tax benefits 74 1,501 -- -- -- -- 1,575
Transfer resulting from three-for-two
stock split -- (12,045) (10,432) 22,477 -- -- --
- ----------------------------------------------------------------------------------------------------------------------------------
Balance at June 30, 2002 $7,569 $ 52,480 $ 92,829 $(42,719) $6,515 $(156) $116,518
See accompanying condensed notes to consolidated financial statements.
6
MASSBANK CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
For The Year Ended December 31, 2001
(In thousands except share data)
ACCUMULATED COMMON
ADDITIONAL OTHER STOCK
COMMON PAID-IN RETAINED TREASURY COMPREHENSIVE ACQUIRED
STOCK CAPITAL EARNINGS STOCK INCOME BY ESOP TOTAL
------ ---------- -------- --------- ------------- -------- --------
Balance at December 31, 2000 $7,448 $61,674 $93,165 $(59,704) $5,972 $(312) $108,243
Net income -- -- 10,759 -- -- -- 10,759
Other comprehensive income, net of tax:
Unrealized gains on securities,
net of reclassification adjustment (Note 6) -- -- -- -- 471 -- 471
--------
Comprehensive income 11,230
Cash dividends paid
($0.84 per share) -- -- (3,935) -- -- -- (3,935)
Tax benefit resulting from dividends
paid on unallocated shares held by the ESOP -- -- 7 -- -- -- 7
Net decrease in liability to ESOP -- -- -- -- -- 156 156
Amortization of ESOP shares
committed to be released -- 151 -- -- -- -- 151
Purchase of treasury stock -- -- -- (1,989) -- -- (1,989)
Purchase of company stock for deferred
compensation plan (Note 5) -- 56 -- (56) -- -- --
Exercise of stock options
and related tax benefits 47 994 -- -- -- -- 1,041
- -----------------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 2001 $7,495 $62,875 $99,996 $(61,749) $6,443 $(156) $114,904
See accompanying condensed notes to consolidated financial statements.
7
MASSBANK CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
Six Months Ended
June 30,
2002 2001
---- ----
(In thousands)
Cash flows from operating activities:
Net income $ 5,352 $ 5,433
Adjustments to reconcile net income to net cash
(used in) provided by operating activities:
Depreciation and amortization 334 423
Loan interest capitalized (18) (20)
Amortization of ESOP shares committed to be released 119 67
(Increase) decrease in accrued interest receivable (940) 1,425
Decrease in other liabilities (287) (227)
Increase in current income tax asset, net (169) (142)
Amortization of premiums (accretion of discounts) on
securities, net 199 (407)
Net trading securities activity (31,369) 20,442
Gains on securities available for sale, net (1,789) (1,894)
More than temporary impairment writedown of security
available for sale 40 --
Gains on trading securities, net (102) (103)
Decrease in deferred mortgage loan
origination fees, net of amortization (88) (65)
Deferred income tax (benefit) 17 (113)
(Increase) decrease in other assets (357) 1,126
Provision for loan losses -- 24
Gains on sales of premises and equipment -- (4)
Decrease in escrow deposits of borrowers (158) (71)
- -----------------------------------------------------------------------------------------
Net cash (used in) provided by operating activities (29,216) 25,894
- -----------------------------------------------------------------------------------------
Cash flows from investing activities:
Purchases of term federal funds -- (10,000)
Proceeds from maturities of term federal funds -- 40,000
Net decrease (increase) in interest bearing bank deposits 2,168 (3,191)
Proceeds from sales of investment securities available for sale 24,662 15,473
Proceeds from maturities of investment securities
available for sale 24,000 52,230
Purchases of investment securities
available for sale (100,422) (8,326)
Purchases of mortgage-backed securities (19,977) (30,167)
Principal repayments of mortgage-backed securities 49,403 33,304
Principal repayments of securities available for sale 3 2
Loans originated (54,288) (43,901)
Loan principal payments received 56,436 35,673
Purchases of premises & equipment (131) (2,058)
Proceeds from sales of premises and equipment -- 4
- -----------------------------------------------------------------------------------------
Net cash (used in) provided by investing activities (18,146) 79,043
- -----------------------------------------------------------------------------------------
8
MASSBANK CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (continued)
(unaudited)
Six Months Ended
June 30,
2002 2001
---- ----
(In thousands)
Cash flows from financing activities:
Net increase in deposits 24,167 15,264
Payments to acquire treasury stock (3,447) (1,441)
Purchase of Company stock for deferred compensation plan 30 30
Issuance of common stock under stock option plan 1,162 317
Tax benefit resulting from stock options exercised 413 78
Cash dividends paid on common stock (2,089) (1,968)
Tax benefit resulting from dividends paid on
unallocated shares held by the ESOP 2 4
- -----------------------------------------------------------------------------------------
Net cash provided by financing activities 20,238 12,284
- -----------------------------------------------------------------------------------------
Net (decrease) increase in cash and cash equivalents (27,124) 117,221
Cash and cash equivalents at beginning of period 245,327 122,021
- -----------------------------------------------------------------------------------------
Cash and cash equivalents at end of period $218,203 $239,242
- -----------------------------------------------------------------------------------------
Supplemental cash flow disclosures:
Cash transactions:
Cash paid during the period for interest $ 12,053 $ 17,440
Cash paid during the period for taxes, net of refunds 2,807 3,195
Purchases of securities not settled at beginning of
period which settled during the period 47 60
Sales and maturities of securities not settled at
beginning of period which settled during the period 1,008 573
Non-cash transactions:
SFAS 115:
Increase in accumulated other comprehensive income 72 452
(Decrease) increase in deferred tax liabilities (111) 215
Purchases of securities not settled at end of period 133 272
Sales and maturities of securities not settled at end
of period 6,141 1,511
- -----------------------------------------------------------------------------------------
See accompanying condensed notes to consolidated financial statements.
9
MASSBANK CORP.
CONDENSED NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(1) Basis of Presentation
The financial condition and results of operations of MASSBANK Corp. (the
"Company") essentially reflect the operations of its subsidiary, MASSBANK (the
"Bank"). All significant intercompany balances and transactions have been
eliminated in consolidation.
The accompanying financial statements have been prepared in accordance with
accounting principles generally accepted in the United States of America and in
the opinion of management, include all adjustments of a normal recurring nature
necessary for the fair presentation of the financial condition of the Company as
of June 30, 2002 and December 31, 2001, and its operating results for the six
months ended June 30, 2002 and 2001. The results of operations for any interim
period are not necessarily indicative of the results to be expected for the
entire year.
Certain amounts in the prior years' consolidated financial statements were
reclassified to facilitate comparison with the current fiscal year. The
Company's reported per share amounts and weighted average common shares
outstanding for the current and prior year have been restated to reflect the
Company's three-for-two stock split of April 19, 2002.
The information in this report should be read in conjunction with the
financial statements and related notes included in the Annual Report on Form
10-K for the year ended December 31, 2001.
(2) Cash and Cash Equivalents:
For purposes of reporting cash flows, cash and cash equivalents consist of
cash and due from banks, and short-term investments with original maturities of
less than 90 days.
(3) Short-Term Investments
Short-term investments consist of the following:
- --------------------------------------------------------------------------------
At At
(In thousands) June 30, 2002 December 31, 2001
- --------------------------------------------------------------------------------
Federal funds sold (overnight) $182,913 $204,294
Money market funds 24,872 32,088
- --------------------------------------------------------------------------------
Total short-term investments $207,785 $236,382
- --------------------------------------------------------------------------------
The investments above are stated at cost which approximates market value and
have original maturities of less than 90 days.
(4) Commitments
At June 30, 2002, the Company had outstanding commitments to originate
mortgage loans and to advance funds for construction loans amounting to
$6,454,000 and commitments under existing home equity lines of credit and other
loans of approximately $41,006,000 which are not reflected on the consolidated
balance sheet. In addition, as of June 30, 2002, the Company had a performance
standby letter of credit conveyed to others in the amount of $156,000 which is
also not reflected on the consolidated balance sheet.
(5) Directors' Deferred Compensation Plan
In 1988, the Company established a deferred compensation plan for its
directors. The plan allows the Company's directors to defer receipt of all or a
portion of their compensation until (1) their attaining the age of 72, or (2)
their termination as a director of the Company. The plan was later amended to
allow the directors' compensation to be invested in Company stock held in an
10
CONDENSED NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
irrevocable trust. At June 30, 2002 the trust held 23,200 shares of MASSBANK
Corp. stock that the Company has classified as treasury stock. The treasury
shares are considered outstanding in the computation of earnings per share and
book value per share.
(6) Comprehensive Income
Comprehensive income is defined as "the change in equity of a business
enterprise during a period from transactions and other events and circumstances
from non-owner sources." It includes all changes in equity during a period
except those resulting from investments by and distributions to shareholders.
The term "comprehensive income" describes the total of all components of
comprehensive income including net income.
The Company's other comprehensive income and related tax effect for the six
months ended June 30, 2002 and the year ended December 31, 2001 is as follows:
For the Six Months Ended
June 30, 2002
- ------------------------------------------------------------------------------------
Tax
Before-Tax (Expense) Net-of-Tax
(In thousands) Amount or Benefit Amount
------ ---------- ------
Unrealized gains on securities:
Unrealized holding (gains) arising
during period $ 1,710 $ (620) $ 1,090
Less: reclassification adjustment for
gains realized in net income 1,749 (731) 1,018
------- -------- -------
Net unrealized gains (losses) (39) 111 72
------- -------- -------
Other comprehensive income (loss) $ (39) $ 111 $ 72
------- -------- -------
For the Year Ended
December 31, 2001
- ------------------------------------------------------------------------------------
Tax
Before-Tax (Expense) Net-of-Tax
(In thousands) Amount or Benefit Amount
------ ---------- ------
Unrealized gains on securities:
Unrealized holding gains arising
during period $ 4,785 $(1,833) $ 2,952
Less: reclassification adjustment for
gains realized in net income 4,262 (1,781) 2,481
------- -------- -------
Net unrealized gains 523 (52) 471
------- -------- -------
Other comprehensive income $ 523 $ (52) $ 471
------- -------- -------
11
MASSBANK CORP. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION & ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
June 30, 2002
Forward-Looking Statement Disclosure.
This Form 10-Q may contain forward-looking information, including
information concerning the Company's expectations of future business prospects.
These forward-looking statements are made pursuant to the safe harbor provisions
of the Private Securities Litigation Reform Act of 1995. The Company may also
make written or oral forward-looking statements in other documents filed with
the Securities and Exchange Commission ("SEC"), in annual reports to stock-
holders, in press releases and other written materials, and in oral statements
made by the Company's officers, directors or employees. You can identify
forward-looking statements by the use of the words "believe," "expect,"
"anticipate," "intend," "estimate," "assume," "will," "should," and other
expressions which predict or indicate future events and trends and which do not
relate to historical matters. These forward-looking statements involve known and
unknown risks, uncertainties and other factors that may cause the Company's
actual results or performance to be materially different from the results and
performance expressed or implied by the forward-looking statements. Forward-
looking statements include, but are not limited to, statements concerning the
Company's belief, expectations, or intentions concerning the Company's future
performance, the financial outlook of the markets it serves and the performance
and activities of its competitors. These statements reflect the Company's
current views, are based on numerous assumptions and are subject to numerous
risks, uncertainties and other factors including but not limited to the
following:
- Unexpected fluctuations in market interest rates
- Unexpected fluctuations in the market for equities, bonds, federal
funds and other financial instruments
- An increase in the level of non-performing assets
- An increase in competitive pricing pressures within the Company's
market which may result in the following:
. An increase in the Company's cost of funds
. Changes in volume of loan originations
. Limit the ability of the Company to attract and retain
banking customers
- Adverse legislative or regulatory developments
- Adverse impacts resulting from the continuing war on terrorism
- An increase in medical insurance and other employee-related costs
- The impact of inflation, and other factors described in the Company's
annual report on Form 10-K.
12
Results of Operations for the three months ended June 30, 2002
GENERAL
For the quarter ended June 30, 2002, MASSBANK Corp. reported net income of
$2,702,000, or $0.56 in diluted earnings per share compared to net income of
$2,688,000 or $0.56 in diluted earnings per share in the second quarter of 2001.
Basic earnings per share in the recent quarter were $0.57 per share, unchanged
from the same quarter last year. The current and prior year per share amounts
reflect the three-for-two split of the Company's common stock that occurred on
April 19, 2002.
The Company's net income for the second quarter 2002 compared to the same
quarter of 2001 reflects an improvement of $390,000 in net interest income after
provision for loan losses. This increase, however, is partially offset by a
decrease in non-interest income of $316,000 due primarily to lower securities
gains in the recent quarter. Earnings results for the second quarter 2002 also
reflect a slight increase in the Company's effective income tax rate.
Net interest income
Net interest income totaled $6,007,000 in the second quarter of 2002, an
increase of $378,000 from the same quarter a year ago. This is the third
consecutive quarter that the Company has increased its net interest income. The
increase was principally attributable to an improvement in the Company's net
interest margin combined with the positive effect of average earning asset
growth. The Company's net interest margin for the three months ended June 30,
2002 was 2.49%, an increase from 2.41% reported in the second quarter of 2001.
Average earning assets for the quarter ended June 30, 2002 increased $33.7
million to $969.7 million, from $936.0 million in the same quarter of 2001.
Interest and Dividend Income
Interest and dividend income on a fully taxable equivalent basis for the
three months ended June 30, 2002, decreased $2,154,000 or 15.3% to $11,969,000
from $14,123,000 for the three months ended June 30, 2001. The decrease in
interest and dividend income resulted from a decrease in yield on the Company's
average earning assets, partially offset by the higher interest income resulting
from an increase of $33.7 million in average earning assets. As reflected in the
table on page 14 of this report, the yield on the Company's average earning
assets in the second quarter of 2002 was 4.94%, down from 6.04% in the same
quarter of 2001.
The reduction in yield on the Company's average earning assets is primarily
attributable to lower market interest rates. During the period April 1, 2001 to
June 30, 2002, the Federal Reserve Bank cut the Federal Funds rate eight times,
reducing the rate from 5.00% to 1.75%. Due to the Company's large balance of
overnight Federal Funds, this Federal Funds rate reduction contributed
significantly to the decrease in the Company's interest and dividend income in
the second quarter 2002.
Interest Expense
Total interest expense for the three months ended June 30, 2002 decreased
$2,533,000, or 29.9% to $5,943,000 from $8,476,000 for the three months ended
June 30, 2001. The decrease in interest expense is due primarily to a reduction
in the Bank's average cost of funds, partially offset by an increase in interest
expense due to higher average deposits. A decrease in the Bank's deposit rates,
due to declining market interest rates in the last twelve months, has caused the
Bank's cost of funds to decrease 133 basis points, from 4.07% in the second
quarter of 2001 to 2.74% in the recent quarter. The Company's average deposits,
as shown in the table on page 15, increased $32.7 million to $868.6 million in
the second quarter of 2002, from $835.9 million in the second quarter of 2001.
13
AVERAGE BALANCE SHEETS
Three Months Ended
June 30,
2002 2001
---- ----
Interest Average Interest Average
Average Income/ Yield/ Average Income/ Yield/
(In thousands) Balance Expense Rate Balance Expense Rate
(4) (4) (4) (4)
- -----------------------------------------------------------------------------------------
Assets:
Earning assets:
Federal funds sold $170,290 $ 724 1.71% $202,492 $ 2,186 4.33%
Short-term investments (2) 28,973 160 2.22 28,597 328 4.60
Investment securities 147,265 1,381 3.75 110,687 1,461 5.28
Mortgage-backed securities 244,318 3,900 6.39 280,677 4,696 6.69
Trading securities 36,443 195 2.14 2,460 32 5.15
Mortgage loans (1) 311,827 5,222 6.70 274,804 4,807 7.00
Other loans (1) 30,563 387 5.07 36,239 613 6.75
- -------------------------------------------------- ----------------
Total earning assets 969,679 $11,969 4.94% 935,956 $14,123 6.04%
Allowance for loan losses (2,642) (2,609)
- -----------------------------------------------------------------------------------------
Total earning assets
less allowance for
loan losses 967,037 933,347
Other assets 22,555 20,469
- -----------------------------------------------------------------------------------------
Total assets $989,592 $953,816
- -----------------------------------------------------------------------------------------
14
AVERAGE BALANCE SHEETS - (continued)
Three Months Ended
June 30,
2002 2001
---- ----
Interest Average Interest Average
Average Income/ Yield/ Average Income/ Yield/
(In thousands) Balance Expense Rate Balance Expense Rate
(4) (4) (4) (4)
- -----------------------------------------------------------------------------------------
Liabilities:
Deposits:
Demand and NOW $ 82,476 $ 89 0.43% $ 81,907 $ 125 0.61%
Savings 452,056 3,064 2.72 345,425 2,886 3.35
Time certificates of deposit 334,088 2,790 3.35 408,568 5,465 5.37
- -------------------------------------------------- -----------------
Total deposits 868,620 5,943 2.74 835,900 8,476 4.07
Other liabilities 4,669 6,326
- -----------------------------------------------------------------------------------------
Total liabilities 873,289 842,226
Stockholders' equity 116,303 111,590
- -----------------------------------------------------------------------------------------
Total liabilities and
stockholders' equity $989,592 $953,816
- -----------------------------------------------------------------------------------------
Net interest income
(tax-equivalent basis) 6,026 5,647
Less adjustment of tax-exempt
interest income 19 18
- -----------------------------------------------------------------------------------------
Net interest income $6,007 $5,629
- -----------------------------------------------------------------------------------------
Interest rate spread 2.20% 1.97%
- -----------------------------------------------------------------------------------------
Net interest margin (3) 2.49% 2.41%
- -----------------------------------------------------------------------------------------
(1) Loans on non-accrual status are included in the average balance.
(2) Short-term investments consist of interest-bearing deposits in banks and
investments in money market funds.
(3) Net interest income (tax equivalent basis) before provision for loan losses
divided by average interest-earning assets.
(4) Includes average net unrealized gains or losses on securities available for
sale.
15
Provision for Loan Losses
The provision for loan losses represents a charge against current earnings
and an addition to the allowance for loan losses. There was no provision for
loan losses in the second quarter of 2002. This compares to a $12,000 provision
for loan losses in the second quarter of last year. In determining the amount to
provide for loan losses, the key factor is the adequacy of the allowance for
loan losses. Management uses a methodology to systematically measure the amount
of estimated loan loss exposure inherent in the portfolio for purposes of
establishing a sufficient allowance for loan losses. The methodology includes
three elements: an analysis of individual loans deemed to be impaired in
accordance with the terms of Statement of Financial Accounting Standard No. 114,
"Accounting by Creditors for Impairment of a Loan", general loss allocations for
various loan types based on loss experience factors and an unallocated allowance
which is maintained based on management's assessment of many factors including
the risk characteristics of the portfolio, concentrations of credit, current and
anticipated economic conditions that may effect the borrower's ability to pay,
and trends in loan delinquencies and charge-offs. Realized losses, net of
recoveries, are charged directly to the allowance. While management uses the
information available in establishing the allowance for loan losses, future
adjustments to the allowance may be necessary if economic conditions differ from
the assumptions used in making the evaluation. In addition, various regulatory
agencies, as an integral part of their examination process, periodically review
the Bank's allowance for loan losses. Such agencies may require the Bank to
recognize additions to the allowance based on judgments different from those of
management. At June 30, 2002, the allowance for loan losses was $2,642,000
representing 655.6% of nonaccrual loans. The Bank's nonaccrual loans totaled
$403,000 at June 30, 2002 down from $644,000 at December 31, 2001 and $472,000
at June 30, 2001. The Bank had net loan charge-offs of $1,000 in the recent
quarter compared to net loan charge-offs of $3,000 in the same quarter last
year. Management believes that the allowance for loan losses as of June 30, 2002
is adequate to cover the risks inherent in the loan portfolio under current
conditions.
16
Non-Interest Income
Non-interest income consists of deposit account service fees, net gains on
securities and other non-interest income.
Non-interest income decreased $316,000 to $1,236,000 in the recent quarter,
from $1,552,000 in the comparable quarter of the prior year. This decrease is
due primarily to lower securities gains in the second quarter of 2002.
Net gains on securities available for sale totaled $750,000 in the second
quarter of this year compared to $1,122,000 in the second quarter of last year.
Realized gains on the sale of equity securities and debt securities totaled
$684,000 and $106,000, respectively, for the three months ended June 30, 2002.
In addition, the Company in the recent quarter recorded a charge to earnings of
$40,000 due to an equity security in its investment securities portfolio having
suffered a loss in value which was considered by management to be other than
temporary. Due to the decline in equity market prices over the past six months
the Company expects that opportunities for securities gains from the equity
portfolio will be substantially reduced in future quarters. In addition, if
these market conditions persist or deteriorate further, the Company may incur
losses in its equity securities portfolio.
Net gains on trading securities increased to $168,000 in the recent quarter
from $18,000 in the same quarter last year. During the second quarter 2002, the
Company recorded net trading securities gains on sales of U.S. Treasury
obligations and marketable equity securities of $13,000 and $8,000,
respectively. Net gains on trading securities in the recent quarter also include
mark-to-market gains on U.S. Treasury obligations of $147,000. Falling interest
rates and recent volatility in the bond markets has provided the Company with
trading gains that may not be available in future periods.
The Bank's deposit account service fees and other non-interest income
totaled $141,000 and $177,000, respectively, in the second quarter of 2002
compared to $159,000 and $253,000, respectively, in the second quarter of 2001.
The decline in other non-interest income is due primarily to the assets in the
Company's deferred compensation plan having declined in market value in the
recent quarter versus having appreciated in value in the same quarter last year.
This decrease is offset by a corresponding decline in non-interest expense under
the salaries and employee benefits expense component.
Non-Interest Expense
Non-interest expense for the second quarter 2002 remained essentially
unchanged from the same quarter last year. Total non-interest expense decreased
$4,000 to $2,987,000.
Salaries and employee benefits, the largest component of non-interest
expense increased $105,000 or 6.2% to $1,800,000 in the recent quarter, from
$1,695,000 in the comparable quarter of 2001. This increase reflects higher
salaries due to merit increases, higher pension costs and an increase in costs
associated with various other employee benefits partially offset by a decrease
in deferred compensation expense referred to in the non-interest income section
above.
Occupancy and equipment expenses declined $40,000 to $473,000 in the recent
quarter, from $513,000 in the same quarter last year. This decrease is due in
part to the construction of one new branch and the purchase of another branch,
replacing existing leases and reducing net occupancy expenses.
Amortization of intangibles expense decreased $80,000 in the first quarter
2002, compared to the first quarter last year. This expense decreased for the
following reasons:
17
1. The deposit acquisition premium that the Bank recorded in 1992 in
connection with its acquisition of the deposits and certain assets of
the former Central Savings Bank, Lowell was fully amortized in February
2002.
2. On January 1, 2002 the Company adopted Statement of Financial
Accounting Standard ("SFAS") No. 142, "Goodwill and Other Intangible
Assets." SFAS 142 requires that upon adoption of the Statement, any
goodwill recorded on a company's balance sheet would no longer be
amortized, but be reviewed for impairment periodically or upon the
occurrence of certain triggering events. At January 1, 2002 the Company
had $1,090,000 of goodwill on its balance sheet that was previously
being amortized at a rate of $25,000 per quarter.
All other non-interest expenses combined, consisting of data processing,
professional services, advertising and marketing, deposit insurance and other
expenses, increased $11,000 to $714,000 for the three months ended June 30, 2002
from $703,000 for the three months ended June 30, 2001.
Income Tax Expense
The Company, the Bank and its subsidiaries file a consolidated federal
income tax return. The Parent Company is subject to a State of Delaware
Franchise Tax and a State of Massachusetts Bank Excise Tax and the Bank's
subsidiaries are subject to a State of Massachusetts Corporate Excise Tax.
The Company recorded income tax expense of $1,554,000 in the second quarter
of 2002, an increase of $64,000 when compared to the same quarter last year. The
increase in income tax expense is due primarily to an increase in income before
income taxes and an increase in effective income tax rate. The Company's income
before income taxes was $4,256,000 in the recent quarter compared to $4,178,000
for the same quarter a year ago. The effective income tax rate for the three
months ended June 30, 2002 and 2001 was 36.5% and 35.7%, respectively.
18
Results of Operations for the six months ended June 30, 2002
General
For the six months ended June 30, 2002, the Company reported net income of
$5,352,000 or $1.10 in diluted earnings per share ($1.13 in basic earnings per
share) compared to net income of $5,433,000 or $1.13 in diluted earnings per
share ($1.16 in basic earnings per share) for the six months ended June 30,
2001. The current and prior year per share amounts reflect the three-for-two
split of the Company's common stock that occurred on April 19, 2002.
The Company's financial performance in the first six months of 2002
reflects an increase in net interest income after provision for loan losses of
$367,000. This increase, however, is offset by a decrease in non-interest income
of $231,000 due primarily to lower securities gains in the first half of 2002,
and an increase in non-interest expense of $164,000. Earnings results for the
six months ended June 30, 2002 also reflect a slight increase in the Company's
effective income tax rate.
Net Interest Income
Net interest income totaled $11,953,000 for the six months ended June 30,
2002, compared to $11,610,000 for the same period in 2001. The $343,000 increase
is primarily attributable to an increase in average earning assets, partially
offset by a decrease in the Company's net interest margin.
The Company's net interest margin for the first six months of 2002 was
2.49% compared to 2.50% for the same period last year. Average earning assets
for the six months ended June 30, 2002 increased $33.2 million to $964.0 million
from $930.8 million for the corresponding period in 2001.
The Company's interest rate spread for the first half of 2002 increased to
2.18% from 2.02% for the first six months of last year. The yield on the
Company's average earning assets in the first half of 2002 decreased 125 basis
points to 4.99% from 6.24% in the corresponding period of 2001. The Company's
average cost of funds for the first half of 2002 decreased 141 basis points to
2.81% from 4.22% for the six months ended June 30, 2001.
19
AVERAGE BALANCE SHEETS
Six Months Ended
June 30,
2002 2001
-------------- --------------
Interest Average Interest Average
Average Income/ Yield/ Average Income/ Yield/
(In thousands) Balance Expense Rate Balance Expense Rate
(4) (4) (4) (4)
- ------------------------------------------------------------------------------------------
Assets:
Earning assets:
Federal funds sold $172,369 $ 1,449 1.70% $185,356 $ 4,555 4.96%
Short-term investments (2) 33,421 388 2.34 25,055 616 4.96
Investment securities 136,361 2,636 3.87 123,139 3,324 5.40
Mortgage-backed securities 250,698 8,045 6.42 282,641 9,483 6.71
Trading securities 30,400 323 2.13 4,956 145 5.93
Mortgage loans (1) 308,355 10,404 6.75 273,208 9,595 7.02
Other loans (1) 32,440 788 4.89 36,499 1,322 7.27
- -------------------------------------------------- ----------------
Total earning assets 964,044 $24,033 4.99% 930,854 $29,040 6.24%
Allowance for loan losses (2,643) (2,605)
- ------------------------------------------------------------------------------------------
Total earning assets
less allowance for
loan losses 961,401 928,249
Other assets 22,408 20,092
- ------------------------------------------------------------------------------------------
Total assets $983,809 $948,341
20
AVERAGE BALANCE SHEETS - (continued)
Six Months Ended
June 30,
2002 2001
-------------- --------------
Interest Average Interest Average
Average Income/ Yield/ Average Income/ Yield/
(In thousands) Balance Expense Rate Balance Expense Rate
(4) (4) (4) (4)
- ------------------------------------------------------------------------------------------
Liabilities:
Deposits:
Demand and NOW $ 82,039 $ 178 0.44% $ 80,126 $ 244 0.61%
Savings 428,965 5,758 2.71 341,751 5,728 3.38
Time certificates of deposit 351,472 6,101 3.50 409,253 11,416 5.63
- -------------------------------------------------- ----------------
Total deposits 862,476 12,037 2.81 831,130 17,388 4.22%
Other liabilities 5,033 6,294
- -------------------------------------------------------------------------------------
Total liabilities 867,509 837,424
Stockholders' equity 116,300 110,917
- -------------------------------------------------------------------------------------
Total liabilities and
stockholders' equity $983,809 $948,341
- -------------------------------------------------------------------------------------
Net interest income
(tax-equivalent basis) 11,996 11,652
Less adjustment of tax-exempt
interest income 43 42
- -------------------------------------------------------------------------------------
Net interest income $11,953 $11,610
- -------------------------------------------------------------------------------------
Interest rate spread 2.18% 2.02%
- -------------------------------------------------------------------------------------
Net interest margin (3) 2.49% 2.50%
- -------------------------------------------------------------------------------------
(1) Loans on non-accrual status are included in the average balance.
(2) Short-term investments consist of interest-bearing deposits in banks and
investments in money market funds.
(3) Net interest income (tax equivalent basis) before provision for loan losses
divided by average interest-earning assets.
(4) Includes average net unrealized gains or losses on securities available for
sale.
21
Provision for Loan Losses
The provision for loan losses represents a charge against current earnings
and an addition to the allowance for loan losses. There was no provision for
loan losses in the first half of 2002. This compares to a $24,000 provision for
loan losses in the first half of last year. The Bank has made no provision for
loan losses in 2002 because it has had minimal net loan charge-offs in the
current and prior year. Net loan charge-offs for the six months ended June 30,
2002 and 2001 were $1,000 and $2,000, respectively. In addition, management
believes that the allowance for loan losses as of June 30, 2002 is adequate to
cover the risks inherent in the loan portfolio under current conditions.
Non-Interest Income
Non-interest income consists of deposit account service fees, net gains on
securities and other non-interest income.
Non-interest income decreased $231,000 to $2,492,000 for the first six
months of 2002 from $2,723,000 for the same period of the prior year. This
decrease is due primarily to lower securities gains in the first half of 2002.
Net gains on securities available for sale totaled $1,749,000 in the first
half of 2002 compared to $1,901,000 in the first half of last year. Realized
gains on the sale of equity securities and debt securities totaled $1,680,000
and $109,000, respectively, for the six months ended June 30, 2002. In addition,
the Company in the first half of 2002 recorded a charge to earnings of $40,000
due to an equity security in its investment securities portfolio having suffered
a loss in value which was considered by management to be other than temporary.
Due to the decline in equity market prices over the past six months the Company
expects that opportunities for securities gains from the equity portfolio will
be substantially reduced in future quarters. In addition, if these market
conditions persist or deteriorate further, the Company may incur losses in its
equity securities portfolio.
Net gains on trading securities increased to $102,000 for the first six
months of 2002 from $96,000 for the same period last year. During the first half
of 2002, the Company recorded net trading securities gains on sales of
marketable equity securities and U.S. Treasury obligations of $22,000 and
$15,000, respectively. Net gains on trading securities in the first half of 2002
also include mark-to-market gains on U.S. Treasury obligations of $65,000.
Falling interest rates and recent volatility in the bond markets has provided
the Company with trading gains that may not be available in future periods.
Trading gains in the bond portfolio are more likely during periods of falling
interest rates.
The Bank's deposit account service fees and other non-interest income
totaled $287,000 and $354,000, respectively, for the first half of 2002 compared
to $320,000 and $406,000, respectively, for the first half of 2001. The decline
in other non-interest income is due primarily to the assets in the Company's
deferred compensation plan having declined in market value in the six month
period ended June 30, 2002 versus having appreciated in value in the same period
last year. This decrease is offset by a corresponding decline in non-interest
expense under the salaries and employee benefits expense component.
Non-Interest Expense
Non-interest expense for the six months ended June 30, 2002 increased
$164,000 or 2.8% to $6,022,000 from $5,858,000 for the same period last year.
This increase is due primarily to increases in salaries and employee benefits
and professional services expenses.
22
Salaries and employee benefits, the largest component of non-interest
Expense increased $343,000 or $10.4% to $3,626,000 for the first half of 2002,
from $3,283,000 for the comparable period of 2001. This increase reflects higher
salaries due to merit increases, higher pension costs and an increase in costs
associated with various other employee benefits partially offset by a decrease
in deferred compensation expense referred to in the non-interest income section
above.
Occupancy and equipment expenses declined $97,000 or 8.9% to $994,000 for
the first half of 2002, from $1,091,000 for the same period last year. This
decrease is due in part to the construction of one new branch and the purchase
of another branch, replacing existing leases and reducing net occupancy
expenses.
Professional services expense increased $47,000 or 18.9% to $296,000 for
the first six months of 2002, from $249,000 for the same period last year. The
increase is due primarily to higher legal and audit fees.
Amortization of intangibles expense decreased $133,000 for the first half
of 2002, compared to the same period last year. This expense decreased for the
following reasons:
1. The deposit acquisition premium that the Bank recorded in 1992 in
connection with its acquisition of the deposits and certain assets of
the former Central Savings Bank, Lowell was fully amortized in February
2002.
2. On January 1, 2002 the Company adopted Statement of Financial
Accounting Standard ("SFAS") No. 142, "Goodwill and Other Intangible
Assets." SFAS 142 requires that upon adoption of the Statement, any
Goodwill recorded on a company's balance sheet would no longer be
amortized, but be reviewed for impairment periodically or upon the
occurrence of certain triggering events. At January 1, 2002 the Company
had $1,090,000 of goodwill on its balance sheet that was previously
being amortized at a rate of $25,000 per quarter.
All other non-interest expenses combined, consisting of data processing,
advertising and marketing, deposit insurance and other expenses, increased
$4,000 to $1,077,000 for the six months ended June 30, 2002 from $1,073,000 for
the six months ended June 30, 2001.
Income Tax Expense
The provision for federal and state income taxes increased to $3,071,000
for the six months ended June 30, 2002 from $3,018,000 for the same period in
2001. This increase is due primarily to an increase in the Company's effective
income tax rate partially offset by lower income before income taxes in the
first half of 2002. The Company's combined effective income tax rate for the
first half of 2002 is 36.5% compared to 35.7% for the same period a year ago.
The Company's income before income taxes was $8,423,000 for the first half of
2002 compared to $8,451,000 for the first half of 2001.
23
Financial Condition
The Company's total assets amounted to $996.4 million as of June 30, 2002,
an increase of $25.2 million or 2.6% from $971.2 million at December 31, 2001.
This reflects an increase in total investments of $19.5 million or 3.2% and a
decrease in the Bank's loan portfolio of $2.1 million or less than 1%. Cash and
due from banks increased $1.5 million and all other assets increased $6.3
million.
Investments
At June 30, 2002, the Company's investment portfolio, consisting of
investment securities (including mortgage-backed securities), short-term
investments and interest-bearing bank deposits totaled $638.0 million
representing 64.0% of total assets, compared to $618.5 million or 63.7% of total
assets at December 31, 2001. The investment securities portfolio included U.S.
government and agency obligations, 15-year mortgage-backed securities,
collateralized mortgage obligations and equity securities. For further
information concerning the composition, maturity and market value of the Bank's
investment securities, see pages 26 through 28 of this Form 10-Q.
Loans
The loan portfolio decreased $2.1 million or less than 1% in the first six
months of 2002. At June 30, 2002, the loan portfolio, net of allowance for loan
losses, was $326.3 million representing 32.7% of total assets compared to $328.4
million representing 33.8% of total assets at December 31, 2001.
The majority of loans in the portfolio are residential mortgages.
Residential mortgages amounted to $308.0 million at June 30, 2002, representing
93.6% of the total loan portfolio. See page 29 of this Form 10-Q for a table
setting forth the composition of the loan portfolio at June 30, 2002 and year-
end 2001.
Lower interest rates in the beginning of the year 2002 resulted in
increased loan origination growth for the Bank. In the first six months of 2002,
the Bank originated loans of $54.3 million, an increase of $10.4 million or
23.7% from the $43.9 million in loans originated in the first six months of
2001.
Asset Quality
Asset quality remains strong. Non-accrual loans, generally those loans
which are 90 days or more delinquent, were $403 thousand and $644 thousand,
respectively, at June 30, 2002 and December 31, 2001. This represents 0.12% of
total loans at June 30, 2002.
The Bank's allowance for loan losses at June 30, 2002 totaled $2.6 million,
representing 656% of non-accrual loans and 0.80% of total loans. The Bank
believes that its allowance for loan losses is adequate to cover the risks
inherent in the loan portfolio under current conditions. The Bank has no real
estate acquired through foreclosure at June 30, 2002.
Deposits
Deposits have historically been the Bank's primary source of funds for
lending and investment activities. Deposit flows vary significantly and are
influenced by prevailing interest rates, market conditions, economic conditions
and competition. The Bank's management attempts to manage its deposits through
selective pricing and marketing. Deposits increased $24.2 million or 2.8% to
$873.9 million at June 30, 2002 from $849.7 million at December 31, 2001. This
increase was primarily the result of an increase in savings and money market
account deposits of $87.1 million or 22.7%, partially offset by a decrease in
time certificates of deposit of $65.1 million or 17.0%. Other deposits grew by
$2.2 million during the first half of 2002. For information concerning the
composition of the Bank's deposits at June 30, 2002 and year-end 2001, see page
32 of this Form 10-Q.
24
Financial Condition (continued)
Stockholders Equity
Total stockholders' equity increased to $116.5 million at June 30, 2002,
representing a book value per share of $24.80, from $114.9 million representing
a book value per share of $24.34 at December 31, 2001. The Company's book value
per share as of year-end 2001 has been adjusted to reflect the three-for- two
split of the Company's common stock on April 19, 2002.
Investments
As previously noted, total investments consisting of investment securities,
short-term investments and interest-bearing bank deposits equaled $638.0 million
at June 30, 2002, up $19.5 million from $618.5 million at year-end 2001. These
investments are principally in federal funds sold, U.S. Treasury and government
agency obligations, government agency fifteen year mortgage-backed securities,
collateral mortgage obligations and bank certificates of deposit. The Bank also
maintains an equity securities portfolio, valued at $11.8 million as of June 30,
2002, that has yielded substantial realized and unrealized gains in recent
years. While the Company's equity securities portfolio has produced increased
realized gains in recent years, management does not expect this trend to
continue. Due to the decline in equity market prices over the past six months
the Company expects that opportunities for securities gains from the equity
portfolio will be substantially reduced in future quarters. In addition, if
these market conditions persist or deteriorate further, the Company may incur
losses in its equity securities portfolio.
Nearly all of the Bank's investment securities are classified as available
for sale or trading securities. Management evaluates its investment alternatives
in order to properly manage the mix of assets on its balance sheet. Investment
securities available for sale and trading securities provide liquidity,
facilitate interest rate sensitivity management and enhance the Bank's ability
to respond to customers' needs should loan demand increase and/or deposits
decline.
The Bank continues to maintain a large proportion of its securities
portfolio in government agency mortgage-backed securities. These represent an
attractive investment with minimal credit risk, no servicing responsibilities,
and no delinquencies. The Bank's investment in mortgage-backed securities
totaled $238.0 million at June 30, 2002 versus $265.0 million at year-end 2001.
The Bank also maintains a portfolio of trading securities which consisted
of the following as of the dates shown:
June 30, December 31,
(In thousands) 2002 2001
---------- -------------
U.S. Treasury obligations $34,557 $ 3,086
Investments in mutual funds 3 3
------- -------
Total $34,560 $ 3,089
25
FINANCIAL CONDITION
INVESTMENT SECURITIES
The amortized cost and estimated market value of investment securities at
June 30, 2002 with gross unrealized gains and losses, follows:
- ------------------------------------------------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Market
(In thousands) At June 30, 2002 Cost Gains Losses Value
- ------------------------------------------------------------------------------------------
Securities available for sale:
Debt securities:
U.S. Treasury obligations $112,081 $ 1,098 $ (27) $113,152
U.S. Government agency obligations 28,139 291 (3) 28,427
- -----------------------------------------------------------------------------------------
Total 140,220 1,389 (30) 141,579
- -----------------------------------------------------------------------------------------
Mortgage-backed securities:
Government National Mortgage
Association 18,750 1,131 -- 19,881
Federal Home Loan Mortgage
Corporation 207,030 9,182 -- 216,212
Federal National Mortgage
Association 949 33 -- 982
Collateralized mortgage
obligations 947 22 -- 969
- -----------------------------------------------------------------------------------------
Total mortgage-backed securities 227,676 10,368 -- 238,044
- -----------------------------------------------------------------------------------------
Total debt securities 367,896 11,757 (30) 379,623
- -----------------------------------------------------------------------------------------
Equity securities 13,014 391 (1,649) 11,756
- -----------------------------------------------------------------------------------------
Total securities available for sale 380,910 $ 12,148 $ (1,679) $391,379
- -----------------------------------------------------------------------------------------
Net unrealized gains on securities
available for sale 10,469
- -----------------------------------------------------------------------------------------
Total securities available
for sale, net 391,379
- -----------------------------------------------------------------------------------------
Total investment securities, net $391,379
- -----------------------------------------------------------------------------------------
Trading securities $ 34,494 $ 34,560
- -----------------------------------------------------------------------------------------
26
FINANCIAL CONDITION
INVESTMENT SECURITIES (continued)
The amortized cost and estimated market value of investment securities at
December 31, 2001 with gross unrealized gains and losses, follows:
- ------------------------------------------------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Market
(In thousands) At December 31, 2001 Cost Gains Losses Value
- ------------------------------------------------------------------------------------------
Securities available for sale:
Debt securities:
U.S. Treasury obligations $ 79,932 $ 1,165 $ (214) $ 80,883
U.S. Government agency obligations 10,142 115 (4) 10,253
- ------------------------------------------------------------------------------------------
Total 90,074 1,280 (218) 91,136
- ------------------------------------------------------------------------------------------
Mortgage-backed securities:
Government National Mortgage
Association 22,499 1,025 -- 23,524
Federal Home Loan Mortgage
Corporation 231,603 7,062 (31) 238,634
Federal National Mortgage
Association 1,346 38 (1) 1,383
Collateralized mortgage
obligations 1,452 38 -- 1,490
- -----------------------------------------------------------------------------------------
Total mortgage-backed securities 256,900 8,163 (32) 265,031
- -----------------------------------------------------------------------------------------
Total debt securities 346,974 9,443 (250) 356,167
- -----------------------------------------------------------------------------------------
Equity securities 15,102 3,931 (2,616) 16,417
- -----------------------------------------------------------------------------------------
Total securities available for sale 362,076 $13,374 $(2,866) $372,584
- -----------------------------------------------------------------------------------------
Net unrealized gains on securities
available for sale 10,508
- -----------------------------------------------------------------------------------------
Total securities available
for sale, net 372,584
- -----------------------------------------------------------------------------------------
Total investment securities, net $372,584
- -----------------------------------------------------------------------------------------
Trading securities $ 3,089 $ 3,089
- -----------------------------------------------------------------------------------------
27
Investments (continued)
The amortized cost and estimated market value of debt securities available
for sale by contractual maturity at June 30, 2002 and December 31, 2001 are
shown in the following tables. Actual maturities will differ from contractual
maturities because of callable government agency securities in the Bank's
portfolio that may be called prior to maturity.
June 30, 2002
-------------------------
Available for Sale
Amortized Market
Maturing: Cost Value
(In thousands)
Within 1 year $ 28,119 $ 28,486
After 1 year but within 5 years 107,962 108,888
After 5 years but within 10 years 4,000 4,069
After 10 years but within 15 years 139 136
-------- --------
U.S. Treasury and Government agency obligations (a) 140,220 141,579
Mortgage-backed securities 227,676 238,044
-------- --------
Total $367,896 $379,623
December 31, 2001
-------------------------
Available for Sale
Amortized Market
Maturing: Cost Value
(In thousands)
Within 1 year $ 28,993 $ 29,531
After 1 year but within 5 years 60,939 61,467
After 15 years 142 138
-------- --------
U.S. Treasury and Government agency obligations (b) 90,074 91,136
Mortgage-backed securities 256,900 265,031
-------- --------
Total $346,974 $356,167
(a) At June 30, 2002 the Bank's debt securities available for sale portfolio
included $28,000,000 (amortized cost) in callable securities with a market
value of $28,291,000.
(b) At December 31, 2001 the Bank's debt securities available for sale
portfolio included $4,000,000 (amortized cost) in callable securities with
a market value of $4,045,000.
28
LOANS
The composition of the Bank's loan portfolio is summarized as follows:
- ---------------------------------------------------------------------------------------
At At
(In thousands) June 30, 2002 December 31, 2001
- ---------------------------------------------------------------------------------------
Mortgage loans:
Residential $308,370 $294,023
Commercial 2,504 2,641
Construction 761 993
- ---------------------------------------------------------------------------------------
311,635 297,657
Premium on loans 41 51
Deferred mortgage loan origination fees (1,151) (1,239)
- ---------------------------------------------------------------------------------------
Total mortgage loans 310,525 296,469
Other loans:
Consumer:
Installment 1,092 1,178
Guaranteed education 4,263 4,937
Other secured 772 873
Home equity lines of credit 12,032 12,271
Unsecured 192 201
- ---------------------------------------------------------------------------------------
Total consumer loans 18,351 19,460
Commercial 89 15,088
- ---------------------------------------------------------------------------------------
Total other loans 18,440 34,548
- ---------------------------------------------------------------------------------------
Total loans $328,965 $331,017
- ---------------------------------------------------------------------------------------
The Bank's loan portfolio decreased $2.1 million in the first six months of
2002, from $331.0 million at December 31, 2001 to $328.9 million at June 30,
2002. Mortgage loans increased $14.0 million, however, this increase was offset
by a decrease in consumer loans of $1.1 million and a decrease of $15.0 in
commercial loans. The decrease in commercial loans is due to a loan with a
single borrower that was repaid in the recent quarter. The loan was refinanced
with another financial institution.
Loan originations increased by $10.4 million to $54.3 million in the first
six months of 2002 compared to $43.9 million in the first six months of last
year.
29
NON-PERFORMING ASSETS
The following table shows the composition of the Bank's non-performing
assets at June 30, 2002 and 2001, and December 31, 2001:
At At At
June 30, December 31, June 30,
(In thousands) 2002 2001 2001
- --------------------------------------------------------------------------------
Non-Performing Assets:
Non-accrual loans $ 403 $ 644 $ 472
Real estate acquired through foreclosure -- -- --
- --------------------------------------------------------------------------------
Total non-performing assets $ 403 $ 644 $ 472
- --------------------------------------------------------------------------------
Allowance for loan losses $ 2,642 $ 2,643 $ 2,616
Allowance as a percent of
non-accrual loans 655.6% 410.4% 554.2%
Allowance as a percent of
non-performing assets 655.6% 410.4% 554.2%
Non-accrual loans as a percent
of total loans 0.12% 0.19% 0.15%
Non-performing assets as a percent
of total assets 0.04% 0.07% 0.05%
- --------------------------------------------------------------------------------
The Bank generally does not accrue interest on loans which are 90 days or
more past due. It is the Bank's policy to place such loans on non-accrual status
and to reverse from income all interest previously accrued but not collected and
to discontinue all amortization of deferred loan fees.
Non-performing assets decreased from December 31, 2001 to June 30, 2002 as
noted in the table above. The principal balance of non-accrual loans was down to
$403,000, or approximately 0.12% of total loans at June 30, 2002.
The Bank did not have any impaired loans as of June 30, 2002.
30
ALLOWANCE FOR LOAN LOSSES
An analysis of the activity in the allowance for loan losses is as follows:
Six Months Ended
June 30,
2002 2001
- ---------------------------------------------------------------------------
(In thousands)
Balance at beginning of period $ 2,643 $ 2,594
Provision for loan losses -- 24
Recoveries of loans previously charged-off 1 1
Charge-offs (2) (3)
- --------------------------------------------------------------------------
Balance at end of period $ 2,642 $ 2,616
- --------------------------------------------------------------------------
The Company maintains an allowance for probable losses that are inherent in
the Company's loan portfolio. The allowance for loan losses is increased by
provisions charged to operations based on the estimated loan loss exposure
inherent in the portfolio. Management uses a methodology to systematically
measure the amount of estimated loan loss exposure inherent in the portfolio for
purposes of establishing a sufficient allowance for loan losses. The methodology
includes three elements: an analysis of individual loans deemed to be impaired
in accordance with the terms of Statement of Financial Accounting Standard No.
114, "Accounting by Creditors for Impairment of a Loan," general loss
allocations for various loan types based on loss experience factors and an
unallocated allowance which is maintained based on management's assessment of
many factors including the risk characteristics of the portfolio, concentrations
of credit, current and anticipated economic conditions that may effect the
borrower's ability to pay, and trends in loan delinquencies and charge-offs.
Realized losses, net of recoveries, are charged directly to the allowance. While
management uses the information available in establishing the allowance for loan
losses, future adjustments to the allowance may be necessary if economic
conditions differ from the assumptions used in making the evaluation. In
addition, various regulatory agencies, as an integral part of their examination
process, periodically review the Bank's allowance for loan losses. Such agencies
may require the Bank to recognize additions to the allowance based on judgments
different from those of management.
At June 30, 2002 the balance of the allowance for loan losses was
$2,642,000 representing 655.6% of non-accrual loans. Management believes that
the allowance for loan losses is adequate to cover the risks inherent in the
portfolio under current conditions.
31
DEPOSITS
Deposit accounts of all types have traditionally been the primary source of
funds for the Bank's lending and investment activities. The Bank's deposit flows
are influenced by prevailing interest rates, competition and other market
conditions. The Bank's management attempts to manage its deposits through
selective pricing and marketing.
The Bank's total deposits increased by $24.2 million to $873.9 million at
June 30, 2002 from $849.7 million at December 31, 2001.
The composition of the Bank's total deposits as of the dates shown are
summarized as follows:
June 30, December 31,
2002 2001
- ------------------------------------------------------------------------------
(In thousands)
Demand and NOW $ 84,373 $ 82,143
Savings and money market accounts 471,061 383,960
Time certificates of deposit 318,446 383,610
Deposit acquisition premium,
net of amortization -- (29)
- ------------------------------------------------------------------------------
Total deposits $873,880 $849,684
- ------------------------------------------------------------------------------
Recent Accounting Developments
"Goodwill and Other Intangible Assets"
In July 2001, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standard ("SFAS") No. 142, "Goodwill and Other
Intangible Assets." SFAS 142 requires that upon adoption of the Statement, any
goodwill recorded on an entity's balance sheet would no longer be amortized.
This would include existing goodwill (i.e., recorded goodwill at the date the
financial statement is issued), as well as goodwill arising subsequent to the
effective date of the Statement. Goodwill will not be amortized but will be
reviewed for impairment periodically or upon the occurrence of certain
triggering events. This Statement is effective for fiscal years beginning after
December 15, 2001. The Company adopted the new standard on January 1, 2002. At
June 30, 2002, the Company had $1,090,000 of goodwill on its balance sheet.
32
Liquidity and Capital Resources
The Bank must maintain a sufficient amount of cash and assets which can
readily be converted into cash in order to meet cash outflows from normal
depositor requirements and loan demands. The Bank's primary sources of funds are
deposits, loan and mortgage-backed securities amortization and prepayments,
sales or maturities of investment securities, investment securities called
before maturity and income on earning assets. In addition to loan payments and
maturing investment securities, which are relatively predictable sources of
funds, the Bank maintains a high percentage of its assets invested in overnight
federal funds sold, which can be immediately converted into cash and United
States Treasury and Government agency securities, which can be sold or pledged
to raise funds. At June 30, 2002 the Bank had $182.9 million or 18.4% of total
assets and $176.1 million or 17.7% of total assets invested, respectively, in
overnight federal funds sold and United States obligations.
The Bank is a Federal Deposit Insurance Corporation ("FDIC") insured
institution subject to the FDIC regulatory capital requirements. The FDIC
regulations require all FDIC insured institutions to maintain minimum levels of
Tier 1 capital. Highly rated banks (i.e., those with a composite rating of 1
under the CAMELS rating system) are required to maintain a minimum leverage
ratio of Tier 1 capital to total assets of at least 3.00%. An additional 100 to
200 basis points are required for all but these most highly rated institutions.
The Bank is also required to maintain a minimum level of risk-based capital.
Under the risk-based capital standards, FDIC insured institutions must maintain
a Tier 1 capital to risk-weighted assets ratio of 4.00% and are generally
expected to meet a minimum total qualifying capital to risk-weighted assets
ratio of 8.00%. The risk-based capital guidelines take into consideration risk
factors, as defined by the regulators, associated with various categories of
assets, both on and off the balance sheet. Under the guidelines, capital
strength is measured in two tiers which are used in conjunction with risk
adjusted assets to determine the risk-based capital ratios. Tier II components
include supplemental capital components such as qualifying allowance for loan
losses and qualifying subordinated debt and up to 45 percent of the pre-tax net
unrealized holding gains on certain available for sale equity securities. Tier I
capital plus the Tier II capital components are referred to as total qualifying
capital.
The capital ratios of the Bank and the Company currently exceed the minimum
regulatory requirements. At June 30, 2002, the Bank had a leverage Tier I
capital to total assets ratio of 10.32%, a Tier I capital to risk- weighted
assets ratio of 30.70% and a total capital to risk-weighted assets ratio of
31.50%. The Company, on a consolidated basis, had ratios of leverage Tier I
capital to total assets of 10.98%, Tier I capital to risk-weighted assets of
32.66% and total capital to risk-weighted assets of 33.45% at June 30, 2002.
33
Impact Of Inflation And Changing Prices
MASSBANK Corp.'s financial statements presented herein have been prepared
in accordance with generally accepted accounting principles which require the
measurement of financial position and operating results in terms of historical
dollars, without considering changes in the relative purchasing power of money
over time, due to the fact that substantially all of the assets and liabilities
of a financial institution are monetary in nature. As a result, interest rates
have a more significant impact on a financial institution's performance than the
effects of general levels of inflation. Interest rates do not necessarily move
in the same direction or in the same magnitude as the prices of goods and
services.
Quantitative and Qualitative Disclosures About Market Risk
Interest Rate Sensitivity and Liquidity
See discussion and analysis of interest rate sensitivity and liquidity
provided in the Corporation's Annual Report on Form 10-K for the year ended
December 31, 2001. There have been no material changes in reported market risks
faced by the Corporation since the filing of the Corporation's 2001 Annual
Report on Form 10-K.
34
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
From time to time, MASSBANK Corp. and/or the Bank are involved as a
plaintiff or defendant in various legal actions incident to their
business. As of June 30, 2002, none of these actions individually or in
the aggregate is believed by management to be material to the financial
condition of MASSBANK Corp. or the Bank.
Item 2. Changes in Securities
Not Applicable.
Item 3. Defaults Upon Senior Securities
Not Applicable.
Item 4. Submission of Matters to a Vote of Security Holders
At the Annual Meeting of Stockholders of MASSBANK Corp. held on
April 16, 2002, stockholders voted affirmatively on the following
proposal:
1.) To elect four Directors to serve until the 2005 Annual Meeting
of Stockholders.
Elected at Meeting Term
Gerard H. Brandi 3 Years
Peter W. Carr 3 Years
Robert S. Cummings 3 Years
Herbert G. Schurian 3 Years
Item 5. Other Information
None.
Item 6. Exhibits and Reports on Form 8-K
a. Exhibits:
1. Exhibit No. 11.1: Statement regarding computation of per
share earnings.
b. Reports on Form 8-K
None.
c. Additional Exhibits:
1. Exhibit A: Certifications by the CEO and CFO.
35
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
MASSBANK Corp. & Subsidiaries
-----------------------------
(Registrant)
Date: August 13, 2002 /s/Gerard H. Brandi
---------------------------
(Signature)
Gerard H. Brandi
President and CEO
Date: August 13, 2002 /s/Reginald E. Cormier
---------------------------
(Signature)
Reginald E. Cormier
Sr. V.P., Treasurer and CFO
36