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 0 - 20957
---------------------
SUN BANCORP, INC.
-----------------
(Exact name of registrant as specified in its charter)
New Jersey 52-1382541
- --------------------------------------------- ----------------
(State or other jurisdiction of incorporation (I.R.S. Employer
or organization) Identification)
226 Landis Avenue, Vineland, New Jersey 08360
---------------------------------------------
(Address of principal executive offices)
(Zip Code)
(856) 691 - 7700
----------------
(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.
Yes X No
--- ---
Indicate by check mark whether the registrant is an accelerated filer
(as defined in Exchange Act Rule 12b-2).
Yes X No
--- ---
APPLICABLE ONLY TO CORPORATE ISSUERS
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
$ 1.00 Par Value Common Stock 13,981,883 May 6, 2004
- ----------------------------- ---------- -----------
Class Number of shares outstanding Date
SUN BANCORP, INC.
INDEX
Page
----
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
Unaudited Condensed Consolidated Statements of Financial Condition
At March 31, 2004 and December 31, 2003 3
Unaudited Condensed Consolidated Statements of Income
For the Three Months Ended March 31, 2004 and 2003 4
Unaudited Condensed Consolidated Statements of Cash Flows
For the Three Months Ended March 31, 2004 and 2003 5
Notes to Unaudited Condensed Consolidated Financial Statements 6
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS 14
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES
ABOUT MARKET RISK 20
ITEM 4. CONTROLS AND PROCEDURES 22
PART II - OTHER INFORMATION
ITEM 1. Legal Proceedings 23
ITEM 2. Changes in Securities, Use of Proceeds 23
and Issuer Purchases of Equity Securities
ITEM 3. Defaults upon Senior Securities 23
ITEM 4. Submission of Matters to a Vote of Security Holders 23
ITEM 5. Other Information 23
ITEM 6. Exhibits and Reports on Form 8-K 23
SIGNATURES 24
CERTIFICATIONS 25
2
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
SUN BANCORP, INC.
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
(Dollars in thousands except par value amounts)
March 31, December 31,
2004 2003
---- ----
ASSETS
Cash and due from banks $ 78,760 $ 78,841
Interest-bearing bank balances 3,813 2,789
Federal funds sold 18,521 487
----------- -----------
Cash and cash equivalents 101,094 82,117
Investment securities available for sale (amortized cost -
$856,360; 2004 and $960,877; 2003) 864,502 963,428
Loans receivable (net of allowance for loan losses -
$17,883; 2004 and $17,614; 2003) 1,411,656 1,364,465
Restricted equity investments 13,245 12,551
Bank properties and equipment, net 34,175 34,093
Real estate owned, net 4,444 4,444
Accrued interest receivable 11,920 11,266
Goodwill 50,578 50,600
Intangible assets, net 25,035 26,195
Deferred taxes, net 6,518 8,465
Bank owned life insurance 33,218 32,785
Other assets 37,619 9,078
----------- -----------
TOTAL $ 2,594,004 $ 2,599,487
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
LIABILITIES
Deposits $ 2,072,779 $ 2,111,125
Advances from the Federal Home Loan Bank 159,216 163,964
Federal funds purchased -- 2,500
Securities sold under agreements to repurchase 59,491 55,934
Junior subordinated debentures 72,167 72,167
Other liabilities 37,458 8,079
----------- -----------
Total liabilities 2,401,111 2,413,769
----------- -----------
SHAREHOLDERS' EQUITY
Preferred stock, $1 par value, 1,000,000 shares authorized, none issued
Common stock, $1 par value, 25,000,000 shares authorized,
issued and outstanding: 14,070,311; 2004 and 13,381,310; 2003 14,070 13,381
Additional paid in capital 168,186 151,631
Retained earnings 6,511 20,062
Accumulated other comprehensive income 5,172 1,690
Treasury stock at cost, 90,562 shares (1,046) (1,046)
----------- -----------
Total shareholders' equity 192,893 185,718
----------- -----------
TOTAL $ 2,594,004 $ 2,599,487
=========== ===========
- --------------------------------------------------------------------------------
See notes to unaudited condensed consolidated financial statements.
3
SUN BANCORP, INC.
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(Dollars in thousands, except per share amounts)
For the Three Months
Ended March 31,
---------------------------
2004 2003
------------ ------------
INTEREST INCOME:
Interest and fees on loans $ 21,050 $ 21,106
Interest on taxable investment securities 6,329 5,783
Interest on non-taxable investment securities 506 616
Interest on restricted equity investments 106 173
Interest on federal funds sold 62 11
------------ ------------
Total interest income 28,053 27,689
------------ ------------
INTEREST EXPENSE:
Interest on deposits 5,440 6,800
Interest on short-term borrowed funds 1,800 2,106
Interest on debentures 809 -
Interest on guaranteed preferred beneficial interest in
Company's subordinated debt - 1,058
------------ ------------
Total interest expense 8,049 9,964
------------ ------------
Net interest income 20,004 17,725
PROVISION FOR LOAN LOSSES 625 675
------------ ------------
Net interest income after provision for loan losses 19,379 17,050
------------ ------------
NON-INTEREST INCOME:
Service charges on deposit accounts 2,162 1,754
Other service charges 96 102
Gain on sale of investment securities 325 45
Gain on sale of branches - 1,315
Other 1,191 775
------------ ------------
Total non-interest income 3,774 3,991
------------ ------------
NON-INTEREST EXPENSES:
Salaries and employee benefits 9,516 8,016
Occupancy expense 2,463 2,455
Equipment expense 1,545 1,360
Data processing expense 965 791
Amortization of intangible assets 1,160 925
Real estate owned, net 66 (650)
Other 2,776 2,627
------------ ------------
Total non-interest expenses 18,491 15,524
------------ ------------
INCOME BEFORE INCOME TAXES 4,662 5,517
INCOME TAXES 1,241 1,759
------------ ------------
NET INCOME $ 3,421 $ 3,758
============ ============
Basic earnings per share $ 0.25 $ 0.30
============ ============
Diluted earnings per share $ 0.23 $ 0.29
============ ============
Weighted average shares - basic 13,962,256 12,332,578
============ ============
Weighted average shares - diluted 15,200,422 12,887,379
============ ============
- --------------------------------------------------------------------------------
See notes to unaudited condensed consolidated financial statements.
4
SUN BANCORP, INC.
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
For the Three Months
Ended March 31,
-----------------------
2004 2003
---- ----
OPERATING ACTIVITIES:
Net income $ 3,421 $ 3,758
Adjustments to reconcile net income to net cash provided by
operating activities:
Provision for loan losses 625 675
Depreciation 810 634
Net amortization of investments securities 454 1,521
Amortization of intangible assets 1,160 925
Gain on sale of investment securities available for sale (325) (45)
Gain on sale of bank properties and equipment - (53)
Increase in cash value of BOLI (433) -
Deferred income taxes (163) 599
Change in assets and liabilities which (used) provided cash:
Accrued interest receivable (652) (1,519)
Other assets (28,541) 2,670
Other liabilities 29,379 (3,102)
--------- ---------
Net cash provided by operating activities 5,735 6,063
--------- ---------
INVESTING ACTIVITIES:
Purchases of investment securities available for sale (187,624) (144,354)
Purchases of restricted equity securities (694) (889)
Proceeds from maturities, prepayments or calls of investment securities
available for sale 261,881 93,260
Proceeds from sale of investment securities available for sale 30,131 10,014
Net increase in loans (47,816) (20,754)
Purchase of bank properties and equipment (893) (632)
Proceeds from the sale of bank properties and equipment - 85
Net proceeds from sale of real estate owned - 538
--------- ---------
Net cash provided by (used in) investing activities 54,985 (62,732)
--------- ---------
FINANCING ACTIVITIES:
Net (decrease) increase in deposits (38,346) 35,322
Decrease in cash resulting from branch sale - (19,201)
Purchase price adjustment of branch assets purchased 22 -
Net borrowings under line of credits, advances and repurchase agreements (3,691) 59,447
Principal payments on loan payable - (1,160)
Proceeds from exercise of stock options 162 -
Proceeds from issuance of common stock 110 57
--------- ---------
Net cash (used in) provided by financing activities (41,743) 74,465
--------- ---------
NET INCREASE IN CASH AND CASH EQUIVALENTS 18,977 17,796
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 82,117 65,614
--------- ---------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 101,094 $ 83,410
========= =========
See notes to unaudited condensed consolidated financial statements.
5
SUN BANCORP, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(All dollar amounts presented in the tables, except per share amounts, are in
thousands.)
(1) Summary of Significant Accounting Policies
Basis of Financial Statement Presentation - The unaudited condensed
consolidated financial statements include the accounts of the Company
and its principal wholly owned subsidiary, Sun National Bank (the
"Bank") and the Bank's wholly owned subsidiaries, Med-Vine, Inc., Sun
Financial Services, L.L.C. and 2020 Properties, L.L.C. All significant
intercompany balances and transactions have been eliminated in
consolidation. Effective with the adoption of FIN 46 and FIN 46 (R)
(see Recent Accounting Principles, below), on December 31, 2003, the
Company deconsolidated Sun Capital Trust (liquidated in April 2002),
Sun Capital Trust II (liquidated in December 2003), Sun Capital Trust
III, Sun Capital Trust IV, Sun Capital Trust V and Sun Capital Trust
VI, collectively, the "Issuer Trusts".
The accompanying unaudited condensed consolidated financial statements
were prepared in accordance with instructions to Form 10-Q, and
therefore, do not include information or footnotes necessary for a
complete presentation of financial position, results of operations and
cash flows in conformity with accounting principles generally accepted
in the United States of America. However, all normal recurring
adjustments that, in the opinion of management, are necessary for a
fair presentation of the financial statements have been included. These
financial statements should be read in conjunction with the audited
financial statements and the accompanying notes thereto included in the
Company's Annual Report on Form 10-K for the period ended December 31,
2003. The results for the three months ended March 31, 2004 are not
necessarily indicative of the results that may be expected for the
fiscal year ending December 31, 2004 or any other period.
Use of Estimates in the Preparation of Financial Statements - The
preparation of the consolidated financial statements in conformity with
accounting principles generally accepted in the United States of
America requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities, disclosure of
contingent assets and liabilities at the date of the financial
statements and the reported amounts of income and expenses during the
reporting period. The significant estimates include the allowance for
loan losses, goodwill, core deposit and other intangible assets, and
deferred tax asset valuation allowance. Actual results could differ
from those estimates.
Stock Dividend - On March 18, 2004, the Company's Board of Directors
declared a 5% stock dividend paid on April 20, 2004 to shareholders of
record on April 6, 2004. Accordingly, per share data and equity
accounts have been adjusted for all periods presented.
Accounting for Stock Options - In December 2002, the Financial
Accounting Standards Board ("FASB") issued Statement of Financial
Accounting Standards ("SFAS") No. 148, Accounting for Stock-Based
Compensation --Transition and Disclosure, an amendment of FASB
Statement No. 123. SFAS No. 148 amends SFAS No. 123 to provide
alternative methods of transition for a voluntary change to the fair
value based method of accounting for stock-based employee compensation.
Prior to the fourth quarter of 2003, the Company accounted for its
granted stock options according to Accounting Principles Board Opinion
("APB") No. 25, Accounting for Stock Issued to Employees and related
interpretations. All options granted prior to 2003 had an intrinsic
value of zero on the date of grant under APB No. 25, and, therefore, no
stock-based employee compensation expense was recognized in the
Company's consolidated financial statements. During the fourth quarter
of 2003, the Company adopted, effective January 1, 2003, the fair value
recognition provisions of SFAS No. 123. Under the prospective method
provisions of SFAS No. 148, the recognition provisions of SFAS No. 123
will be applied to all option awards granted, modified or settled after
January 1, 2003.
6
In addition, SFAS No. 148 amends the disclosure requirements of SFAS
No. 123 to require prominent disclosures in both annual and interim
financial statements about the method of accounting for stock-based
employee compensation and the effect of the method used on reported
results. This Statement is effective for financial statements for
fiscal years ending after December 15, 2002. The Company has provided
the required disclosures in the tables below.
At March 31, 2004, the Company had three stock-based employee
compensation plans. The following table illustrates the effect on net
income and earnings per share if the Company had applied the fair value
recognition provisions of SFAS No. 123 to stock-based employee
compensation.
For the Three Months Ended
March 31,
----------------
2004 2003
------ ------
Reported net income available to shareholders $3,421 $3,758
Add: Total stock-based employee compensation
expense included in reported net income (net of tax) 10 -
Deduct: Total stock-based employee
compensation expense determined under
fair value method (net of tax) (206) (353)
------ ------
Pro forma net income available to shareholders $3,225 $3,405
====== ======
Earnings per share:
Basic - as reported $ 0.25 $ 0.30
Basic - pro forma $ 0.23 $ 0.28
Diluted - as reported $ 0.23 $ 0.29
Diluted - pro forma $ 0.21 $ 0.26
Derivative Financial Instruments - The Company utilizes certain
derivative financial instruments to enhance its ability to manage
interest rate risk that exist as part of its ongoing business
operations. Derivative financial instruments are entered into for
periods that match the related underlying exposures and do not
constitute positions independent of these exposures. The Company does
not enter into derivative financial instruments for trading purposes,
nor is it a party to any leveraged derivative financial instruments.
The Company accounts for changes in the fair value of fair value hedges
and the corresponding hedged items as a component of other non-interest
income on the Company's consolidated statements of income. The gross
unrealized gains and gross unrealized losses on the Company's
derivative financial instruments are included as a component of other
assets or other liabilities, respectively, in the Company's
consolidated statements of financial condition. The gross unrealized
gains and gross unrealized losses on the corresponding hedged items are
included as part of the carrying value of the hedged item in the
Company's consolidated statements of financial condition. Net interest
income or net interest expense related to outstanding interest rate
swap agreements are accrued and recognized in earnings as an adjustment
to the related interest income or interest expense of the hedged
asset/liability over the life of the related agreement. Gains and
losses associated with the termination of interest rate swap agreements
for identified positions are deferred and amortized over the remaining
lives of the related underlying assets/liabilities as an adjustment to
the yield/rate. Unamortized deferred gains and losses associated with
terminated interest rate swap agreements are included in the underlying
assets/liabilities hedged.
7
Recent Accounting Principles - In January 2003, the FASB issued FASB
Interpretation Number ("FIN") 46, Consolidation of Variable Interest
Entities. In December 2003, the FASB issued a revision of FIN 46 (FIN
46(R)). The Interpretation clarifies the application of Accounting
Research Bulletin No. 51, Consolidated Financial Statements, to certain
entities in which equity investors do not have the characteristics of a
controlling financial interest or do not have sufficient equity at risk
for the entity to finance its activities without additional
subordinated financial support from other parties. The Company has
participated in the issue of preferred trust securities through various
trusts established for such purpose. These trusts are subject to the
requirements of FIN 46 and FIN 46(R). The adoption of the provisions of
FIN 46 and FIN 46(R) impacted the consolidation of four wholly-owned
entities involved in the issuance of trust Company preferred
securities. Effective December 31, 2003, the Company deconsolidated the
wholly-owned issuing trust entities resulting in a recharacterization
of the underlying consolidated debt obligation from the previous trust
preferred securities obligations to the junior subordinated debenture
obligations that exist between the Company and the issuing trust
entities. Under the provisions of FIN 46(R), these securities were
reclassified as junior subordinated debentures. The adoption of FIN 46
and FIN 46(R) did not have a material impact on the Company's financial
statements.
In April 2003, the FASB issued SFAS No. 149, Amendment of Statement 133
on Derivative Instruments and Hedging Activities. This Statement amends
and clarifies accounting for derivative instruments, including certain
derivative instruments embedded in other contracts, and for hedging
activities under SFAS No. 133. This Statement is effective for
contracts entered into or modified after June 30, 2003, except for the
provisions of this Statement that relate to SFAS No. 133 Implementation
Issues that have been effective for fiscal quarters that began prior to
June 15, 2003 and for hedging relationships designated after June 30,
2003. All provisions are to be applied prospectively except for the
provisions of this Statement that relate to SFAS No. 133 Implementation
Issues that have been effective for fiscal quarters that began prior to
June 15, 2003. These provisions are to be applied in accordance with
their respective effective dates. The adoption of SFAS No. 149 did not
have an impact on the Company's financial position or results of
operations.
In May 2003, the FASB issued SFAS No. 150, Accounting for Certain
Financial Instruments with Characteristics of Both Liabilities and
Equity. This statement establishes standards for how an issuer
classifies and measures certain financial instruments with
characteristics of both liabilities and equity. It requires that an
issuer classify a financial instrument that is within its scope as a
liability (or an asset in some circumstances). The FASB is addressing
certain implementation issues associated with the application of SFAS
No. 150. In October 2003, the FASB decided to defer certain provisions
of SFAS No. 150 related to mandatorily redeemable financial instruments
representing non-controlling interests in subsidiaries included in
consolidated financial statements. The Company will monitor the actions
of the FASB and assess the impact, if any that these actions may have
on the Company's financial statements. Currently, the Company has no
financial instruments entered into or modified that require application
of this Statement. The adoption of this Statement has not had material
impact on the Company's financial condition or results of operations.
In March 2004, the FASB's Emerging Issues Task Force ("EITF") reached a
consensus regarding EITF 03-1, The Meaning of Other-Than-Temporary
Impairment and Its Application to Certain Investments. The consensus
provides guidance for evaluating whether an investment is
other-than-temporarily impaired and requires certain disclosures for
equity investments accounted for under the cost method. Disclosures
about unrealized losses that have not been recognized as
other-than-temporary impairments that were required under an earlier
EITF 03-1 consensus remain in effect. The EITF 03-1 guidance for
determining other-than-temporary impairment is effective for the
company's quarter ending September 30, 2004, and the disclosures for
the cost method investments are effective for the Company's fiscal year
ending December 31, 2004.
8
(2) Acquisitions
On February 17, 2004, the Company entered into an Agreement and Plan of
Merger (the "Agreement") whereby the Company will acquire Community
Bancorp of New Jersey ("Community") in a stock-for-stock exchange
merger valued at approximately $64 million, based on the Company's
stock price on April 29, 2004. At March 31, 2004, Community's assets
totaled $372 million, loan receivables, net of allowances for loan
losses, were $211 million and total deposits were $34 million. The
Agreement provides that Community shareholders will receive 0.8715
shares of common stock of the Company for each issued and outstanding
share of Community common stock (the "Per Share Stock Consideration").
The Per Share Stock Consideration was increased from that originally
announced as a result of a stock dividend declared by the Company
after the merger agreement was signed. Community will be permitted
under the Agreement to pay a one-time special cash dividend in the
amount of $0.75 per share to its shareholders prior to the
consummation of the proposed merger. The proposed merger is subject to
certain customary conditions for transactions of this type including,
among others, the Company and Community shareholder approval and
regulatory approval. The Company and Community shareholder meetings to
vote on the proposed merger are both scheduled for June 11, 2004. The
proposed merger requires the approval of the Office of the Comptroller
of the Currency (the "OCC") under the Bank Merger Act, which was
received on April 29, 2004. In addition, the Company has received a
waiver from the Federal Reserve Board of the application requirements
that would otherwise apply to the merger under the Bank Holding
Company Act. The merger is expected to be consummated in the third
quarter of this year.
On December 17, 2003, the Company completed the acquisition the eight
branches from New York Community Bank ("NYCB") located in Atlantic,
Camden and Gloucester Counties in New Jersey. The branch acquisition
included approximately $340 million in deposits and approximately $14
million in commercial and consumer loans. In connection with this
branch acquisition, the Company paid a premium of approximately $40
million. Of that premium, $10.1 million relates to the core deposit
intangible which is being amortized over ten years on a straight-line
basis and $30.9 million consists of goodwill which is not subject to
annual amortization. During the first quarter 2004, the Company
recorded a net adjustment to the carrying amount of goodwill of $22,000
related to the acquisition.
(3) Loans
The components of loans as of March 31, 2004 and December 31, 2003 were
as follows:
March 31, 2004 December 31, 2003
-------------- -----------------
Commercial and industrial $1,210,624 $1,169,164
Home equity 85,822 80,292
Second mortgages 48,932 51,531
Residential real estate 32,320 29,788
Other 51,841 51,304
---------- ----------
Total gross loans 1,429,539 1,382,079
Allowance for loan losses (17,883) (17,614)
---------- ----------
Net Loans $1,411,656 $1,364,465
========== ==========
Non-accrual loans $ 19,847 $ 21,568
========== ==========
9
(4) Allowance for Loan Losses
Changes in the allowance for loan losses were as follows:
For the three month
period ended For the year ended
March 31, 2004 December 31, 2003
-------------- -----------------
Balance, beginning of period $17,614 $16,408
Charge-offs (599) (4,380)
Recoveries 243 761
------- -------
Net charge-offs (356) (3,619)
Provision for loan losses 625 4,825
------- -------
Balance, end of period $17,883 $17,614
======= =======
The provision for loan losses charged to expense is based upon past
loan loss experience and an evaluation of estimated losses in the
current loan portfolio, including the evaluation of impaired loans
under SFAS Nos. 114 and 118. A loan is considered to be impaired when,
based upon current information and events, it is probable that the
Company will be unable to collect all amounts due according to the
contractual terms of the loan.
An insignificant delay or insignificant shortfall in amount of payments
does not necessarily result in a loan being identified as impaired. For
this purpose, delays less than 90 days are considered to be
insignificant.
Impairment losses are included in the provision for loan losses. Large
groups of smaller balance, homogeneous loans are collectively evaluated
for impairment, except for those loans restructured under a troubled
debt restructuring. Loans collectively evaluated for impairment include
consumer loans and residential real estate loans, and are not included
in the data that follow:
March 31, 2004 December 31, 2003
-------------- -----------------
Impaired loans with related reserve for loan
losses calculated under SFAS No. 114 $30,382 $31,463
Impaired loans with no related reserve for loan
losses calculated under SFAS No. 114 5,538 6,147
------- -------
Total impaired loans $35,920 $37,610
======= =======
Valuation allowance related to impaired loans $ 2,995 $ 3,439
======= =======
For the three For the
months ended year ended
March 31, 2004 December 31, 2003
-------------- -----------------
Average impaired loans $37,174 $34,715
======= =======
Interest income recognized on impaired loans $ 361 $ 2,177
======= =======
Cash basis interest income recognized on impaired loans $ 346 $ 2,311
======= =======
(5) Deposits
Deposits consist of the following major classifications:
March 31, 2004 December 31, 2003
-------------- -----------------
Demand deposits - interest bearing $ 747,281 $ 784,453
Demand deposits - non-interest bearing 422,101 399,538
Savings deposits 382,584 392,784
Time certificates under $100,000 379,551 390,312
Time certificates $100,000 or more 141,262 144,038
---------- ----------
Total $2,072,779 $2,111,125
========== ==========
10
(6) Junior Subordinated Debentures Held by Trusts that Issued Capital Debt
The following is a summary of the outstanding capital securities issued
by each Issuer Trust and the junior subordinated debentures issued by
the Company to each Trust as of March 31, 2004:
Capital Securities Junior Subordinated Debentures
-------------------------------------------- ---------------------------------------------------
Stated Distribution Principal Redeemable
Issuer Trust Issuance Date Value Rate Amount Maturity Beginning
------------ ------------- ----- ---- ------ -------- ---------
6-mo LIBOR
Sun Trust III April 22, 2002 $20,000 plus 3.70% $20,619 April 22, 2032 April 22, 2007
3-mo LIBOR
Sun Trust IV July 7, 2002 10,000 plus 3.65% 10,310 October 7, 2032 July 7, 2007
3-mo LIBOR
Sun Trust V December 18, 2003 15,000 plus 2.80% 15,464 December 30, 2033 December 30, 2008
3-mo LIBOR
Sun Trust VI December 19, 2003 25,000 plus 2.80% 25,774 January 23, 2034 January 23, 2009
------- -------
Total $70,000 $72,167
======= =======
While the capital securities have been deconsolidated in accordance
with GAAP, they continue to qualify as Tier 1 capital under federal
regulatory guidelines. The change in accounting guidance did not have
an impact on the Tier 1 regulatory capital of either the Company or the
Bank. In July 2003, the Board of Governors of the Federal Reserve
System issued a supervisory letter instructing bank holding companies
to continue to include the capital securities in their Tier 1 capital
for regulatory capital purposes until notice is given to the contrary.
The Federal Reserve intends to review the regulatory implications of
any accounting treatment changes and, if necessary or warranted,
provide further appropriate guidance. There can be no assurance that
the Federal Reserve will continue to allow institutions to include
capital securities in Tier 1 Capital for regulatory capital purposes.
The Issuer Trusts are wholly owned subsidiaries of the Company and have
no independent operations. The obligations of Issuer Trusts are fully
and unconditionally guaranteed by the Company. The debentures are
unsecured and rank subordinate and junior in right of payment to all
indebtedness, liabilities and obligations of the Company. Interest on
the debentures is cumulative and payable in arrears. Proceeds from any
redemption of debentures would cause a mandatory redemption of capital
securities having an aggregate liquidation amount equal to the
principal amount of debentures redeemed.
Sun Trust III variable annual rate will not exceed 11.00% through five
years from its issuance. Sun Trust IV variable annual rate will not
exceed 11.95% through five years from its issuance. Sun Trust V and Sun
Trust VI do not have interest rate caps.
During 2003, the Company notified the holders of the outstanding
capital securities of Sun Trust II of its intention to call these
securities contemporaneously with the redemption of the Sun Trust II
debentures on December 31, 2003. The Company wrote off the unamortized
debt issuance costs of the called securities in the amount of
$624,000, net of income tax, through a charge to equity.
(7) Comprehensive Income
The Company classifies items of other comprehensive income by their
nature and displays the accumulated balance of other comprehensive
income separately from retained earnings and additional paid in capital
in the equity section of the statement of financial position. Amounts
categorized as other comprehensive income represent net unrealized
gains or losses on investment securities available for sale, net of
income taxes. Total comprehensive income for the three-months ended
March 31, 2004 and 2003 amounted to $6,903,000 and $3,242,000,
respectively.
11
(8) Earnings Per Share
Basic earnings per share is computed by dividing income available to
shareholders (net income), by the weighted average number of shares of
common stock net of treasury shares outstanding during the period.
Diluted earnings per share is calculated by dividing net income by the
weighted average number of shares of common stock net of treasury
shares outstanding increased by the number of common shares that are
assumed to have been purchased with the proceeds from the exercise of
the options (treasury stock method) along with the assumed tax benefit
from the exercise of non-qualified options. These purchases were
assumed to have been made at the average market price of the common
stock, which is based on the daily closing price. Retroactive
recognition has been given to market values, common stock outstanding
and potential common shares for periods prior to the date of the
Company's stock dividends.
Earnings per share for the periods presented are as follows:
For the
Three Months
Ended March 31,
---------------------------
2004 2003
---- ----
Net income $3,421 $3,758
Dilutive stock options outstanding 2,842,402 2,429,435
Average exercise price per share $9.73 $8.75
Average market price $24.64 $12.78
Average common shares outstanding 13,962,256 12,332,578
Increase in shares due to exercise of options - diluted basis 1,238,166 554,801
---------- ----------
Adjusted shares outstanding - diluted 15,200,422 12,887,379
========== ==========
Net earnings per share - basic $0.25 $0.30
Net earnings per share - diluted $0.23 $0.29
Options that could potentially dilute basic EPS in the future that
were not included in the computation of diluted EPS because to do so
would have been antidilutive for the period presented 0 445,435
========== ==========
(9) Commitments
Standby letters of credit are conditional commitments issued by the
Company to guarantee the performance of a customer to a third party.
The guarantees are primarily issued to support private borrowing
arrangements. The credit risk involved in issuing letters of credit is
essentially the same as that involved in extending loan facilities to
customers. In the event of a draw by the beneficiary that complies with
the terms of the letter of credit, the Company would be required to
honor the commitment. The Company takes various forms of collateral,
such as real estate assets and customer business assets to secure the
commitment. Additionally, all letters of credit are supported by
indemnification agreements executed by the customer. The maximum
undiscounted exposure related to these commitments at March 31, 2004
was $42.8 million, and the portion of the exposure not covered by
collateral was approximately $13.3 million. The Company believes that
the utilization rate of these letters of credit will continue to be
substantially less than the amount of these commitments, as has been
our experience to date.
12
THE COMPANY MAY FROM TIME TO TIME MAKE WRITTEN OR ORAL "FORWARD-LOOKING
STATEMENTS," INCLUDING STATEMENTS CONTAINED IN THE COMPANY'S FILINGS WITH THE
SECURITIES AND EXCHANGE COMMISSION (INCLUDING THIS QUARTERLY REPORT ON FORM 10-Q
AND THE EXHIBITS THERETO), IN ITS REPORTS TO SHAREHOLDERS AND IN OTHER
COMMUNICATIONS BY THE COMPANY, WHICH ARE MADE IN GOOD FAITH BY THE COMPANY
PURSUANT TO THE "SAFE HARBOR" PROVISIONS OF THE PRIVATE SECURITIES LITIGATION
REFORM ACT OF 1995.
THESE FORWARD-LOOKING STATEMENTS INVOLVE RISKS AND UNCERTAINTIES, SUCH AS
STATEMENTS OF THE COMPANY'S PLANS, OBJECTIVES, EXPECTATIONS, ESTIMATES AND
INTENTIONS, THAT ARE SUBJECT TO CHANGE BASED ON VARIOUS IMPORTANT FACTORS (SOME
OF WHICH ARE BEYOND THE COMPANY'S CONTROL). THE FOLLOWING FACTORS, AMONG OTHERS,
COULD CAUSE THE COMPANY'S FINANCIAL PERFORMANCE TO DIFFER MATERIALLY FROM THE
PLANS, OBJECTIVES, EXPECTATIONS, ESTIMATES AND INTENTIONS EXPRESSED IN SUCH
FORWARD-LOOKING STATEMENTS: THE STRENGTH OF THE UNITED STATES ECONOMY IN GENERAL
AND THE STRENGTH OF THE LOCAL ECONOMIES IN WHICH THE COMPANY CONDUCTS
OPERATIONS; THE EFFECTS OF, AND CHANGES IN, TRADE, MONETARY AND FISCAL POLICIES
AND LAWS, INCLUDING INTEREST RATE POLICIES OF THE BOARD OF GOVERNORS OF THE
FEDERAL RESERVE SYSTEM, INFLATION, INTEREST RATE, MARKET AND MONETARY
FLUCTUATIONS; THE TIMELY DEVELOPMENT OF AND ACCEPTANCE OF NEW PRODUCTS AND
SERVICES OF THE COMPANY AND THE PERCEIVED OVERALL VALUE OF THESE PRODUCTS AND
SERVICES BY USERS, INCLUDING THE FEATURES, PRICING AND QUALITY COMPARED TO
COMPETITORS' PRODUCTS AND SERVICES; THE IMPACT OF CHANGES IN FINANCIAL SERVICES'
LAWS AND REGULATIONS (INCLUDING LAWS CONCERNING TAXES, BANKING, RISK-BASED
CAPITAL GUIDELINES AND REPORTING INSTRUCTIONS, SECURITIES AND INSURANCE);
TECHNOLOGICAL CHANGES; ACQUISITIONS; CHANGES IN CONSUMER SPENDING AND SAVING
HABITS; AND THE SUCCESS OF THE COMPANY AT MANAGING THE RISKS INVOLVED IN THE
FOREGOING.
THE COMPANY CAUTIONS THAT THE FOREGOING LIST OF IMPORTANT FACTORS IS NOT
EXCLUSIVE. THE COMPANY DOES NOT UNDERTAKE TO UPDATE ANY FORWARD-LOOKING
STATEMENT, WHETHER WRITTEN OR ORAL, THAT MAY BE MADE FROM TIME TO TIME BY OR ON
BEHALF OF THE COMPANY.
13
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Critical Accounting Policies, Judgments and Estimates
The discussion and analysis of the financial condition and results of
operations are based on the Consolidated Financial Statements, which are
prepared in conformity with accounting principles generally accepted in the
United States of America. The preparation of these financial statements requires
management to make estimates and assumptions affecting the reported amounts of
assets, liabilities, revenue and expenses. Management evaluates these estimates
and assumptions on an ongoing basis, including those related to the allowance
for loan losses, income taxes and goodwill. Management bases its estimates on
historical experience and various other factors and assumptions that are
believed to be reasonable under the circumstances. These form the bases for
making judgments on the carrying value of assets and liabilities that are not
readily apparent from other sources. Actual results may differ from these
estimates under different assumptions or conditions.
Allowance for loan losses. Through the Bank, the Company originates
loans that it intends to hold for the foreseeable future or until maturity or
repayment. The Bank may not be able to collect all principal and interest due on
these loans. Allowance for loan losses represents management's estimate of
probable credit losses inherent in the loan portfolio as of the balance sheet
date. Management performs regular reviews in order to identify inherent losses
and to assess the overall credit risk of the portfolio. The allowance for loan
losses is determined by management based upon past experience, evaluation of
estimated loss and impairment in the loan portfolio, current economic conditions
and other pertinent factors. The allowance for loan losses is maintained at a
level that management considers adequate to provide for estimated losses and
impairment based upon an evaluation of known and inherent risk in the loan
portfolio. Loan impairment is evaluated based on the fair value of collateral or
estimated net realizable value. While management uses the best information
available to make such evaluations, future adjustments to the allowance may be
necessary if economic conditions differ substantially from the assumptions used
in making the evaluations. The determination of the allowance for loan losses
involves the monitoring of delinquency, default and historical loss experience.
Management makes estimates and assumptions regarding existing but yet
unidentified losses caused by current economic conditions and other factors. If
the Bank does not adequately reserve for these uncollectible loans, it may incur
additional charges to loan losses in the consolidated financial statements.
In determining the Bank's allowance for loan losses, management has
established both specific and general pooled allowances. The amount of the
specific allowance is determined through a loan-by-loan analysis of certain
large dollar commercial loans. Loans not individually reviewed are evaluated as
a group using expected loss ratios, which are based on the Bank's historical
charge-off experience and current market and economic conditions. In determining
the appropriate level of the general pooled allowance and projecting losses
management makes estimates based on internal risk ratings, which take into
account such factors as debt service coverage, loan to value ratios and cost and
timing of collateral repossession and disposal. Estimates are periodically
measured against actual loss experience. Adjustments are made to future
projections as assumptions are revised.
The determination of the allowance for loan losses requires management
to make significant estimates with respect to the amounts and timing of losses
and market and economic conditions. Accordingly, a decline in the national
economy or the local economies of the areas in which the Bank's loans are
concentrated could result in an increase in loan delinquencies, foreclosures or
repossessions resulting in increased charge-off amounts and the need for
additional loan loss allowances in future periods. The Bank will continue to
monitor its allowance for loan losses and make future adjustments to the
allowance through the provision for loan losses as economic conditions and other
factors dictate. Although the Bank maintains its allowance for loan losses at
levels considered adequate to provide for the inherent risk of loss in its loan
portfolio, there can be no assurance that future losses will not exceed
estimated amounts or that additional provisions for loan losses will not be
required in future periods. In addition, the Bank's determination as to the
amount of its allowance for loan losses is subject to review by its primary
regulator, the Office of the Comptroller of the Currency (the "OCC"), as part of
its examination process, which may result in the establishment of an additional
allowance based upon the judgment of the OCC after a review of the information
available at the time of the OCC examination.
14
In July 2001, the Securities and Exchange Commission ("SEC") issued
Staff Accounting Bulletin ("SAB") No. 102, Selected Loan Loss Allowance
Methodology and Documentation Issues. SAB No. 102 expresses the SEC staff's
views on the development, documentation and application of a systematic
methodology for determining the allowance for loan losses in accordance with
accounting principles generally accepted in the United States of America. In
addition, in July 2001, the federal banking agencies issued guidance on this
topic through the Federal Financial Institutions Examination Council interagency
guidance, Policy Statement on Allowance for Loan and Lease Losses Methodologies
and Documentation for Banks and Savings Institutions. In management's opinion,
the Bank's methodology and documentation of the allowance for loan losses meets
the guidance issued.
Accounting for income taxes. The Company accounts for income taxes in
accordance with Statement of Financial Accounting Standards ("SFAS") No. 109,
Accounting for Income Taxes, which requires the recording of deferred income
taxes that reflect the net tax effects of temporary differences between the
carrying amounts of assets and liabilities for financial reporting purposes and
the amounts used for income tax purposes. Management exercises significant
judgment in the evaluation of the amount and timing of the recognition of the
resulting tax assets and liabilities and the judgments and estimates required
for the evaluation are periodically updated based upon changes in business
factors and the tax laws.
Valuation of goodwill. The Company assesses the impairment of goodwill
at least annually, and whenever events or significant changes in circumstance
indicate that the carrying value may not be recoverable. Factors that the
Company considers important in determining whether to perform an impairment
review include significant under performance relative to forecasted operating
results and significant negative industry or economic trends. If the Company
determines that the carrying value of goodwill may not be recoverable, then the
Company will assess impairment based on a projection of undiscounted future cash
flows and measure the amount of impairment based on fair value. In the fourth
quarter 2003, the Company performed, with the assistance of an independent third
party other than its independent auditors, its annual impairment test of
goodwill as required under the SFAS No. 142, Goodwill and Other Intangible
Assets, and SFAS No. 147, Acquisitions of Certain Financial Institutions an
amendment of FASB Statements No. 72 and 144 and FASB Interpretation No. 9. Such
testing is based upon a number of factors, which are based upon assumptions and
management judgments. These factors include among other things, future growth
rates, discount rates and earnings capitalization rates. The test indicated that
no impairment charge was necessary for the year ended December 31, 2003.
Derivative Financial Instruments. The Company utilizes certain
derivative financial instruments to enhance its ability to manage interest rate
risk that exist as part of its ongoing business operations. Derivative financial
instruments are entered into for periods that match the related underlying
exposures and do not constitute positions independent of these exposures. The
Company does not enter into derivative financial instruments for trading
purposes, nor is it a party to any leveraged derivative financial instruments.
Net interest income or net interest expense related to outstanding interest rate
swap agreements are accrued and recognized in earnings as an adjustment to the
related interest income or interest expense of the hedged asset/liability over
the life of the related agreement. Gains and losses associated with the
termination of interest rate swap agreements for identified positions are
deferred and amortized over the remaining lives of the related underlying
assets/liabilities as an adjustment to the yield/rate. Unamortized deferred
gains and losses associated with terminated interest rate swap agreements are
included in the underlying assets/liabilities hedged.
Branch Rationalization Program
Under the ongoing branch rationalization program, the Company
consolidated one branch in the first quarter, three branches have closed in
April and discussions continue for further branch sales. The Company remains on
target to close, consolidate or sell ten additional branches during the
remainder of 2004.
Financial Condition
Total assets at March 31, 2004 decreased by $5.5 million, or 0.2% to
$2.59 billion as compared to $2.60 billion at December 31, 2003. The decrease
was primarily the result of a decrease in investment securities of $98.9
million, partially offset by an increase in loans receivable of $47.2 million,
and increases in other assets (consisting primarily of approximately $30 million
in obligations to purchase when-issued securities), and in cash and cash
equivalents of $19.0 million.
15
Cash and cash equivalents increased $19.0 million, from $82.1 million
at December 31, 2003 to $101.1 million at March 31, 2004, resulting primarily
from the increase of federal funds sold of $18.0 million. Investment securities
available for sale decreased $98.9 million or 10.3%, from $963.4 million at
December 31, 2003 to $864.5 million at March 31, 2004. The net change to federal
funds sold together with investment securities during the first three months of
2004 was consistent with the Company's asset and liability management goals
which are designed to maintain a portfolio of high quality investments which
optimizes interest income within acceptable limits of safety and liquidity.
Investment securities at December 31, 2003 included $125.0 million short-term
investments related to the Company's acquisition of branches from New York
Community Bank. These short-term investments were expected to be reinvested into
either the loan portfolio or intermediate term investments during 2004.
Net loans receivable at March 31, 2004 were $1.41 billion, an increase
of $47.2 million from $1.36 billion at December 31, 2003. The increase was
primarily in commercial and industrial loans and home equity consumer loans. The
ratio of allowance for loan losses to total loans was 1.25% at March 31, 2004
compared to 1.27% at December 31, 2003.
Non-performing loans were $20.4 million at March 31, 2004 compared to
$21.8 million at December 31, 2003. The ratio of non-performing assets to total
loans and real estate owed was 1.73% at March 31, 2004 compared to 1.89% at
December 31, 2003. The ratio of allowance for loan losses to total
non-performing loans was 87.67% at March 31, 2004 compared to 80.74% at December
31, 2003.
Other assets at March 31, 2004 were $37.6 million, an increase of $28.5
million from $9.1 million at December 31, 2003. The increase was primarily from
the purchase of $30.0 million of when-issued investment securities with an
offsetting increase in other liabilities.
Total deposits were $2.07 billion at March 31, 2004, reflecting a $38.4
million decrease from December 31, 2003. The Company's core deposits, (demand
and savings deposits) decreased $24.8 million, or 1.6% while the non-core
deposits (time deposits) decreased $13.6 million, or 2.5%. The decrease in
deposits is attributed to a decline in public funds as well as the projected
runoff of NYCB deposits as a result of the December 2003 branch acquisition.
Approximately $19 million of public funds were anticipated withdrawals from the
Bank as a result of two municipality funding projects. The Company expects the
deposits in the former NYCB branches to increase in the second quarter.
The Company's deposit strategy stresses the importance of building
customer relationships. During the first quarter, the Company continued to
maintain its relationship pricing strategy which has enabled the Company to keep
the deposit mix at a higher concentration of lower costing core deposits.
Total shareholders' equity increased $7.2 million, from $185.7 million
at December 31, 2003, to $192.9 million at March 31, 2004. The increase was
primarily the result of the three months ended net income amounting to $3.4
million and a $3.5 million increase in accumulated other comprehensive income,
resulting from an increased unrealized net gain on available for sale
securities.
Liquidity and Capital Resources
Liquidity management is a daily and long-term business function. The
Company's liquidity, represented in part by cash and cash equivalents, is a
product of its operating, investing and financing activities. Proceeds from
repayment and maturities of loans, sales and maturities of investment
securities, net income and increases in deposits and borrowings are the primary
sources of liquidity of the Company.
The Company anticipates that cash and cash equivalents on hand, the
cash flow from assets as well as other sources of funds will provide adequate
liquidity for the Company's future operating, investing and financing needs. In
addition to cash and cash equivalents of $101.1 million at March 31, 2004, the
Company had additional secured borrowing capacity with the FHLB of approximately
$9 million and other sources of approximately $57 million.
16
The Company's largest cash flows are investing activities. During the
three months ended March 31, 2004 the Company's primary source of cash from
investing activities was the proceeds from sales, maturities, prepayments or
calls of investment securities. The primary use of cash from investing
activities was the purchase of investment securities and the increase in loans.
Financing activities, which used $41.7 million of net cash, was primarily the
result of the net decrease in deposits and net repayments under lines of credit.
The activity during this period reflects the Company's continued focus on
overall balance sheet and capital management, concentrating on growth of its
core businesses, with emphasis on commercial lending and retail banking, while
managing the Company's liquidity, interest-rate risk and capital resources.
Management has developed a capital plan for the Company and the Bank
that should allow the Company and the Bank to grow capital internally at levels
sufficient for achieving its internal growth projections while managing its
operating and financial risks. The Company has also considered a contingent
capital plan, and when appropriate, the Company's Board of Directors may
consider various capital raising alternatives. The principle components of the
capital plan are to generate additional capital through retained earnings from
internal growth, access the capital markets for external sources of capital,
such as common equity of trust preferred securities, when necessary or
appropriate, redeem existing capital instruments and refinance such instruments
at lower rates when conditions permit and maintain sufficient capital for safe
and sound operations. The capital plan is not expected to have a material impact
on our liquidity. It is the Company's intention to maintain "well-capitalized"
risk-based capital levels.
As part of its capital plan, the Company issued trust preferred
securities that qualify as Tier 1 or core capital of the Company, subject to a
25% capital limitation under risk-based capital guidelines developed by the
Federal Reserve Board. The portion that exceeds the 25% capital limitation
qualifies as Tier 2, or supplementary capital of the Company. At March 31, 2004,
of the Company's $70.0 million trust preferred securities, $62.6 million qualify
as Tier 1 capital and $7.4 million qualify as Tier 2 capital.
Comparison of Operating Results for the Three Months Ended March 31, 2004 and
2003
Net income decreased by $337,000, or 9.0% for the three months ended
March 31, 2004 to $3.4 million from $3.8 million for the three months ended
March 31, 2003. As more fully described below, the decrease in net income was
primarily due to an increase in non-interest expense of $3.0 million and a
$217,000 decrease non-interest income offset by an increase of $2.3 million in
net interest income.
Net Interest Income. The interest rate spread and margin for the three
months ended March 31, 2004 was 3.22% and 3.46%, respectively, compared to 3.22%
and 3.60%, respectively, for the same period 2003. The yield on the average
interest-earning assets declined 75 basis points from 5.59% for the three months
ended March 31, 2003 to 4.84% for the same period in 2004, while the cost of
funds on average interest-bearing liabilities decreased 75 basis points from
2.37% for the three months ended March 31, 2003 to 1.62% for the same period in
2004.
17
The following table sets forth a summary of average balances with
corresponding interest income (on a tax-equivalent basis) and interest expense
as well as average yield and cost information for the periods presented. Average
balances are derived from daily balances.
At or for the three months ended At or for the three months ended
March 31, 2004 March 31, 2003
-------------------------------- -------------------------------
Average Average Average Average
Balance Interest Yield/Cost Balance Interest Yield/Cost
------- -------- ---------- ------- -------- ----------
Interest-earning assets:
Loans receivable (1), (2):
Commercial and industrial $1,187,246 $17,921 6.04 % $1,059,424 $17,926 6.77 %
Home equity 82,843 797 3.85 46,931 498 4.24
Second mortgage 50,442 798 6.33 45,698 811 7.10
Residential real estate 30,623 515 6.72 41,085 764 7.44
Other 51,721 1,019 7.88 53,186 1,107 8.32
---------- ------- ---------- -------
Total loans receivable 1,402,875 21,050 6.00 1,246,324 21,106 6.77
Investment securities (3) 904,036 7,192 3.18 746,622 6,876 3.68
Interest-bearing deposit with banks 6,697 9 0.55 5,653 11 0.81
Federal funds sold 26,818 62 0.93 3,556 11 1.19
---------- ------- ---------- -------
Total interest-earning assets 2,340,426 28,313 4.84 2,002,155 28,004 5.59
---------- ------- ---------- -------
Cash and due from banks 70,673 60,356
Bank properties and equipment 34,229 29,501
Goodwill and intangible assets 76,353 39,105
Other assets 74,689 33,936
---------- ----------
Non-interest-earning assets 255,944 162,898
---------- ----------
Total Assets $2,596,370 $2,165,053
========== ==========
Interest-bearing liabilities:
Interest-bearing deposit accounts:
Interest-bearing demand deposits $777,699 1,525 0.78 % $644,085 2,085 1.29 %
Savings deposits 386,269 729 0.76 324,839 1,269 1.56
Time deposits 525,901 3,186 2.42 409,292 3,446 3.37
---------- ------- ---------- -------
Total interest-bearing deposit accounts 1,689,869 5,440 1.29 1,378,216 6,800 1.97
---------- ------- ---------- -------
Borrowed money:
Federal funds purchased 2,939 11 1.51 7,486 31 1.67
Securities sold under agreements to
repurchase 59,886 54 0.36 62,838 95 0.60
FHLB advances 160,837 1,735 4.31 175,014 1,980 4.53
Junior subordinated debentures 72,234 809 4.48 - - -
---------- ------- ---------- -------
Total borrowings 295,896 2,609 3.53 245,338 2,106 3.43
Guaranteed preferred beneficial interest in
Company's subordinated debt - - - 59,274 1,058 7.14
---------- ------- ---------- -------
Total interest-bearing liabilities 1,985,765 8,049 1.62 1,682,828 9,964 2.37
---------- ------- ---------- -------
Non-interest-bearing demand deposits 389,393 303,256
Other liabilities 32,581 31,369
---------- ----------
Non-interest-bearing liabilities 421,974 334,625
---------- ----------
Total liabilities 2,407,739 2,017,453
Shareholders' equity 188,631 147,600
---------- ----------
Total liabilities and shareholders' equity $2,596,370 $2,165,053
========== ==========
Net interest income $20,264 $18,040
======= =======
Interest rate spread (4) 3.22 % 3.22 %
====== ======
Net interest margin (5) 3.46 % 3.60 %
====== ======
Ratio of average interest-earning assets to
average interest-bearing liabilities 117.86 % 118.98 %
====== ======
- --------------------------------------------------------------------------------------------------------------------
(1) Average balances include non-accrual loans.
(2) Loan fees are included in interest income and the amount is not material
for this analysis.
(3) Interest earned on non-taxable investment securities is shown on a tax
equivalent basis assuming a 34% marginal federal tax rate for all periods.
(4) Interest rate spread represents the difference between the average yield on
interest-earning assets and the average cost of interest-bearing
liabilities.
(5) Net interest margin represents net interest income as a percentage of
average interest-earning assets.
18
The table below sets forth certain information regarding changes in
interest income and interest expense of the Company for the periods indicated.
For each category of interest-earning assets and interest-bearing liabilities,
information is provided on changes attributable to (i) changes in volume
(changes in average volume multiplied by old rate) and (ii) changes in rate
(changes in rate multiplied by old average volume). The combined effect of
changes in both volume and rate has been allocated to volume or rate changes in
proportion to the absolute dollar amounts of the change in each.
Three Months Ended March 31,
2004 vs. 2003
-----------------------------
Increase (Decrease)
Due to
-----------------------------
Volume Rate Net
------ ---- ---
Interest income
Loans receivable:
Commercial and industrial $ 2,039 $(2,044) $ (5)
Home equity 349 (50) 299
Second mortgage 80 (93) (13)
Residential real estate (181) (68) (249)
Other (30) (58) (88)
------- ------- -------
Total loans receivable 2,257 (2,313) (56)
Investment securities 1,330 (1,014) 316
Interest-bearing deposits accounts 2 (4) (2)
Federal funds sold 54 (3) 51
------- ------- -------
Total interest-earning assets $ 3,643 $(3,334) $ 309
------- ------- -------
Interest expense Interest-bearing deposit accounts:
Interest-bearing demand deposit $ 374 $ (934) $ (560)
Savings deposits 207 (747) (540)
Time deposits 843 (1,103) (260)
------- ------- -------
Total interest-bearing deposit accounts 1,424 (2,784) (1,360)
Borrowed money:
Federal funds purchased (17) (3) (20)
Securities sold under agreements to
repurchase (4) (37) (41)
FHLB advances (156) (89) (245)
Debentures and trust securities 199 (448) (249)
------- ------- -------
Total borrowed money 22 (577) (555)
Total interest-bearing liabilities $ 1,446 $(3,361) $(1,915)
------- ------- -------
Net change in net interest income $ 2,197 $ 27 $ 2,224
======= ======= =======
Net interest income (on a tax-equivalent basis) increased $2.3 million,
or 12.3% to $20.3 million for the three months ended March 31, 2004 from $18.0
million for the same period in 2003. From the volume component, net interest
income (on a tax-equivalent basis) increased $2.2 million, the majority of which
is due to an increase in the average balance of interest-earning assets. The
rate component increased net interest income by $27,000.
Interest income (on a tax-equivalent basis) increased by $309,000, to
$28.3 million for the three months ended March 31, 2004 compared to $28.0
million for the same period in 2003. The increase in interest income was due to
the combined 16.9% increase in the average balance of loans receivable,
investment securities and federal funds sold which produced an increase in
interest income of $3.6 million offset by a continued drop in interest rates,
which lowered the yield on average interest-earning assets by 75 basis points,
or $3.3 million.
19
Interest expense decreased $1.9 million, or 19.2%, to $8.1 million for
the three months ended March 31, 2004 compared to $10.0 million for the same
period in 2003. The decrease in interest expense was primarily due to a
continued drop in interest rates, which lowered the yield on average
interest-bearing liabilities by 75 basis points, or $2.8 million, offset by the
22.6% increase in the average balance of interest-earning deposits which
produced an increase in interest expense $1.4 million.
Provision for Loan Losses. For the three months ended March 31, 2004,
the provision for loan losses was $625,000, a decrease of $50,000, compared to
$675,000 for the same period in 2003. The Company focuses on its loan portfolio
management and credit review process to effectively address the current risk
profile of the portfolio and aggressively manage troubled credits. This analysis
includes evaluations of concentrations of credit, past loss experience, current
economic conditions, amount and composition of the loan portfolio, estimated
fair value of underlying collateral, loan commitments outstanding, delinquencies
and other factors.
Non-Interest Income. Non-interest income decreased $217,000, or 5.4%
for the three-month period ended March 31, 2004 compared to the three-month
period ended March 31, 2003. The decrease was primarily the result of a $1.3
million decrease in gain on sale of branches, offset by a $408,000 increase in
service charges on deposit accounts resulting primarily from the Company's
overdraft privilege program, an increase in the gain on sale of investment
securities of $280,000, and an increase of $416,000 in other income primarily
resulting from $433,000 in BOLI investment income.
Non-Interest Expenses. Non-interest expenses increased $3.0 million, or
19.1% to $18.5 million for the three months ended March 31, 2004 as compared to
$15.5 million for the same period in 2003. Of the increase, $1.5 million was in
salaries and employee benefits due to an increase in staffing during 2003,
$235,000 was in amortization of intangible assets expense relating to the
December 2003 branch acquisition and $716,000 in other real estate expense, of
which $650,000 related to a gain on sale of real estate during the first quarter
2003 and no gain or loss during 2004.
Income Taxes. Income taxes decreased $518,000 for the three months
ended March 31, 2004 as compared to the same period in 2003. The increase
resulted from lower pre-tax earnings and an increase in BOLI investment income.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Asset and Liability Management
Interest rate, credit and operational risks are among the most
significant market risks impacting the performance of the Company. Interest risk
is reviewed monthly by the Asset Liability Committee ("ALCO"), composed of
senior management representatives from a variety of areas within the Company.
ALCO devises strategies and tactics to maintain the net interest income of the
Company within acceptable ranges over a variety of interest rate scenarios.
Should the Company's risk modeling indicate an undesired exposure to changes in
interest rates, there are a number of remedial options available including
changing the investment portfolio characteristics, and changing loan and deposit
pricing strategies. Two of the tools used in monitoring the Company's
sensitivity to interest rate changes are gap analysis and net interest income
simulation.
Gap Analysis
Banks are concerned with the extent to which they are able to match
maturities or repricing characteristics of interest-earning assets and
interest-bearing liabilities. Such matching is facilitated by examining the
extent to which such assets and liabilities are interest-rate sensitive and by
monitoring the bank's interest rate sensitivity gap. An asset or liability is
considered to be interest-rate sensitive if it will mature or reprice within a
specific time period, over the interest-bearing liabilities maturing or
repricing within that same time period. On a monthly basis the Company and the
Bank monitor their gap, primarily cumulative through both six months and one
year maturities.
20
At March 31, 2004, the Company had a positive position with respect to
its exposure to interest rate risk maturing or repricing within one year. Total
interest-earning assets maturing or repricing within one year exceeded
interest-bearing liabilities maturing or repricing during the same time period
by $286.8 million, representing a positive one-year gap ratio of 11.06%.
The following table sets forth the maturity and repricing
characteristics of the Company's interest-earning assets and interest-bearing
liabilities at March 31, 2004. All amounts are categorized by their actual
maturity, anticipated call or repricing date with the exception of
interest-bearing demand deposits and savings deposits. As a result of prior
experience during periods of rate volatility and management's estimate of future
rate sensitivities, the Company allocates the interest-bearing demand deposits
and savings deposits into categories noted below, based on the estimated
duration of those deposits.
Maturity/Repricing Time Periods
-------------------------------------------------------------------------
0-3 Months 4-12 Months 1-5 Years Over 5 Yrs. Total
---------- ----------- --------- ----------- -----
FHLB interest-bearing deposit $ 3,812 $ 3,812
Loans receivable 568,122 $192,073 $621,012 $ 48,332 1,429,539
Investment securities 250,084 178,693 376,405 64,423 869,605
Federal funds sold 18,521 - - - 18,521
-------- -------- -------- -------- ----------
Total interest-earning assets 840,539 370,766 997,417 112,755 2,321,477
-------- -------- -------- -------- ----------
Interest-bearing demand deposits 246,514 110,442 335,454 54,871 747,281
Savings deposits 35,003 81,370 238,818 27,393 382,584
Time certificates 130,448 171,732 201,294 17,339 520,813
Federal Home Loan Bank advances 4,800 14,701 123,621 16,094 159,216
Securities sold under agreements
to repurchase 59,491 - - - 59,491
Trust preferred securities 70,000 - - - 70,000
-------- -------- -------- -------- ----------
Total interest-bearing liabilities 546,256 378,245 899,187 115,697 1,939,385
-------- -------- -------- -------- ----------
Periodic Gap $294,283 $(7,479) $ 98,230 $(2,942) $ 382,092
======== ======== ======== ======== ==========
Cumulative Gap $294,283 $286,804 $385,034 $382,092
======== ======== ======== ========
Cumulative Gap Ratio 11.34 % 11.06 % 14.84 % 14.73 %
======== ======== ======== ========
Net Interest Income Simulation
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, level 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
linear yield curve shifts, subject to certain limits agreed to by ALCO. The
Company uses a base interest rate scenario provided by Data Resources, Inc.
("DRI") a third party econometric modeling service.
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.
The following table shows the Company's estimated earnings sensitivity
profile versus the most likely DRI rate forecast as of March 31, 2004:
Change in Interest Rates Percentage Change in Net Interest Income
------------------------ ----------------------------------------
(Basis Points) Year 1
+200 -0.4%
+100 -0.1%
-100 -0.3%
21
Derivative Financial Instruments
The Company utilizes certain derivative financial instruments to
enhance its ability to manage interest rate risk that exist as part of its
ongoing business operations. Derivative financial instruments are entered into
for periods that match the related underlying exposures and do not constitute
positions independent of these exposures. The Company does not enter into
derivative financial instruments for trading purposes, nor is it a party to any
leveraged derivative financial instruments. The Company accounts for changes in
the fair value of fair value hedges and the corresponding hedged items as a
component of Other Non-Interest Income on the Company's Consolidated Statements
of Income. The gross unrealized gains and gross unrealized losses on the
Company's derivative financial instruments are included as a component of Other
Assets or Other Liabilities, respectively, in the Company's Consolidated
Statements of Financial Condition. The gross unrealized gains and gross
unrealized losses on the corresponding hedged items are included as part of the
carrying value of the hedged item in the Company's Consolidated Statements of
Financial Condition.
Net interest income or net interest expense related to outstanding
interest rate swap agreements are accrued and recognized in earnings as an
adjustment to the related interest income or interest expense of the hedged
asset/liability over the life of the related agreement. Gains and losses
associated with the termination of interest rate swap agreements for identified
positions are deferred and amortized over the remaining lives of the related
underlying assets/liabilities as an adjustment to the yield/rate. Unamortized
deferred gains and losses associated with terminated interest rate swap
agreements are included in the underlying assets/liabilities hedged.
ITEM 4. CONTROLS AND PROCEDURES
(a) Evaluation of disclosure controls and procedures. Based on their evaluation
------------------------------------------------
of the Company's disclosure controls and procedures (as defined in Rule
13a-15(e) under the Securities Exchange Act of 1934 (the "Exchange Act")), the
Company's principal executive officer and principal financial officer have
concluded that as of the end of the period covered by this Quarterly Report on
Form 10-Q such disclosure controls and procedures are effective to ensure that
information required to be disclosed by the Company in reports that it files or
submits under the Exchange Act is recorded, processed, summarized and reported
within the time periods specified in Securities and Exchange Commission rules
and forms.
(b) Changes in internal control over financial reporting. During the quarter
-------------------------------------------------------
under report, there was no change in the Company's internal control over
financial reporting that has materially affected, or is reasonably likely to
materially affect, the Company's internal control over financial reporting.
22
PART II - OTHER INFORMATION
ITEM 1. Legal Proceedings
The Company is not engaged in any legal proceedings of a material
nature at March 31, 2004. From time to time, the Company is a party
to legal proceedings in the ordinary course of business wherein it
enforces its security interest in loans.
ITEM 2. Changes in Securities, Use of Proceeds and Issuer Purchases of Equity
Securities
Not applicable
ITEM 3. Defaults upon Senior Securities
Not applicable
ITEM 4. Submission of Matters to a Vote of Security Holders
Not applicable
ITEM 5. Other Information
Not applicable
ITEM 6. Exhibits and Reports on Form 8-K
Exhibit 31 Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2003
Exhibit 32 Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of 2003
Form 8-K The Company filed a Current Report on Form 8-K on January 21, 2004, to
report earnings for the fiscal year ended December 31, 2003
Form 8-K The Company filed a Current Report on Form 8-K on February 16, 2004 to
report the Agreement and Plan of Merger between Sun Bancorp, Inc. and
Community Bancorp of New Jersey
Form 8-K The Company filed a Current Report on Form 8-K on March 18, 2004 to report
the declaration of a 5% stock dividend.
23
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.
Sun Bancorp, Inc.
-------------------------------------
(Registrant)
Date: May 7, 2004 /s/Thomas A. Bracken
-------------------------------------
Thomas A. Bracken
President and Chief Executive Officer
Date: May 7, 2004 /s/Dan A. Chila
-------------------------------------
Dan A. Chila
Executive Vice President and
Chief Financial Officer
24