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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended December 31, 1997
Commission file number 0-11716
[GRAPHIC OMITTED]
COMMUNITY BANK SYSTEM, INC.
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(Exact name of registrant as specified in its charter)
DELAWARE 16-1213679
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(State or other jurisdiction of incorporation) (I.R.S. Employer Identification No.)
5790 Widewaters Parkway, DeWitt, New York 13214-1883
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(Address of principal executive offices) (Zip Code)
(315)445-2282
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Registrant's telephone number, including area code
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
NONE
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
COMMON STOCK, NO PAR VALUE
Indicate by check mark whether the registrant (1) has filed all reports to
be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
all 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
--- ---
State the aggregate market value of the voting stock held by nonaffiliates
of the registrant. The aggregate market value shall be computed by reference to
the price at which the stock was sold, or the average bid and asked prices of
such stock, as of a specified date within 60 days prior to the date of filing.
$260,321,578 based upon average selling price of $34.25 and 7,600,630
shares on March 2, 1998.
Indicate the number of shares outstanding of each of the registrant's
classes of common stock, as of the latest practicable date.
7,600,630 shares Common Stock No Par Value at March 2, 1998.
DOCUMENTS INCORPORATED BY REFERENCE.
List hereunder the following documents if incorporated by reference and the
Part of the Form 10-K into which the document is incorporated: (1) Any annual
report to security holders; (2) Any proxy or information statement; and (3) Any
prospectus filed pursuant to Rule 424(b) or (c) under the Securities Act of
1933.
1. Definitive Proxy Statement for Annual Meeting of Shareholders to be held
on May 13, 1998 . . . Part III
Exhibit index on page 56
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TABLE OF CONTENTS
PART I PAGE
----
Item 1. Business ...................................................... 1
Item 2. Properties .................................................... 6
Item 3. Legal Proceedings ............................................. 6
Item 4. Submission of Matters to a Vote of Security Holders ........... 6
Item 4A. Executive Officers of the Registrant .......................... 7
PART II
Item 5. Market for Registrant's Common Equity
and Related Shareholder Matters ............................. 8
Item 6. Selected Financial Data ....................................... 8
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations ................................... 10
Item 8. Financial Statements and Supplementary Data:
Community Bank System, Inc. and Subsidiaries:
Consolidated Statements of Financial Condition ............ 34
Consolidated Statements of Income ......................... 35
Consolidated Statements of Changes in Shareholders'
Equity .................................................. 36
Consolidated Statements of Cash Flows ..................... 37
Notes to Consolidated Financial Statements ................ 38
Independent Auditor's Report .............................. 54
Two Year Selected Quarterly Data, 1997 and 1996 ............... 55
Item 9. Changes in Disagreements and with Accounting and
Financial Disclosure ........................................ 56
PART III
Item 10. Directors and Executive Officers of the Registrant ............ 56
Item 11. Executive Compensation ........................................ 56
Item 12. Security Ownership of Certain Beneficial Owners
and Management .............................................. 56
Item 13. Certain Relationships and Related Transactions ................ 56
PART IV
Item 14. Exhibits, Financial Statement Schedules,
and Reports on Form 8-K ..................................... 56
Signatures ................................................................ 58
Exhibit 11 Earnings per Share Computation ............................... A
PART I
ITEM 1. BUSINESS
GENERAL
Community Bank System, Inc. ("Company") was incorporated on April 15, 1983,
under the Delaware General Corporation Law. Its principal office is located at
5790 Widewaters Parkway, DeWitt, New York 13214 and its telephone number is
(315) 445-2282. The Company became a bank holding company in 1984 with the
acquisition of The St. Lawrence National Bank ("St. Lawrence Bank") on February
3, 1984 and the First National Bank of Ovid (renamed Horizon Bank, N.A. or
"Horizon Bank") on March 2, 1984. Also in 1984 the Company obtained a national
bank charter for its third wholly-owned subsidiary bank, The Exchange National
Bank ("Exchange Bank"), and on July 1, 1984 Exchange Bank acquired the deposits
and certain of the assets of three branches of the Bank of New York located in
Southwestern New York. On September 30, 1987, the Company acquired The Nichols
National Bank ("Nichols Bank") located in Nichols, New York. On September 30,
1988, the Company acquired ComuniCorp, Inc., a one-bank holding company located
in Addison, New York, the parent company to Community National Bank ("Community
Bank").
On March 26, 1990, Community Bank opened the Corning Market Street branch from
the Company's acquisition of deposits and certain assets from Key Bank of
Central New York. On January 1, 1992, the Company's five banking affiliates
consolidated into a single, wholly-owned national banking subsidiary, known as
Community Bank, N.A. ("Bank"). On March 31, 1993, the Bank's marketing
representative office in Ottawa, Canada was closed. On June 3, 1994, the Company
acquired three branch offices in Canandaigua, Corning and Wellsville, New York
from the Resolution Trust Corporation. On October 28, 1994, the Company acquired
the Cato, New York branch of The Chase Manhattan Bank, N.A. On July 14, 1995,
the Company acquired 15 branch offices from The Chase Manhattan Bank, N.A.
located in Norwich, Watertown (two), Boonville, New Hartford, Utica,
Skaneateles, Geneva, Pulaski, Seneca Falls, Hammondsport, Canton, Newark (two),
and Penn Yan, New York ("Chase Branches"). On December 15, 1995, the Company
sold three of the former Chase Branches, located in Norwich, New Hartford, and
Utica, to NBT Bank, N.A. On June 16, 1997 the Company acquired eight branches
from Key Bank of New York located in Alfred, Cassadaga, Clymer, Cuba, Gowanda,
Ripley, Sherman, and Wellsville in Southwestern New York State. On July 18, 1997
the Company acquired 12 branches from Fleet Bank located in Old Forge,
Boonville, Ogdensburg, St. Regis Falls, Gateway Plaza, Watertown (2), Clayton,
Lowville, Massena (2), and Gouverneur in Northern and Central New York State.
Five of the former Fleet offices or existing Bank offices in Watertown (2),
Ogdensburg, Gouverneur, and Massena have since been combined.
The Company had a wholly-owned data processing subsidiary, Northeastern Computer
Services, Inc. ("Northeastern"). Northeastern was acquired by the Company from
The St. Lawrence Bank on May 31, 1984 pursuant to a corporate reorganization.
Northeastern had previously been a wholly-owned subsidiary of The St. Lawrence
Bank and was the survivor of a merger with Lawban Computer Systems, Inc.,
another wholly-owned subsidiary of the St. Lawrence Bank. Northeastern's office
was located at 6464 Ridings Road, Syracuse, New York. In December 1991, the
Company entered into a five year agreement with Mellon Bank, N.A. ("Mellon") to
provide data processing services (the agreement has since been renewed with the
subsequent acquiror of Mellon's data services, Fiserv, Inc., for a term ending
December 31, 2002). On June 30, 1992, Northeastern ceased operations. On January
17, 1997 all the outstanding shares of common stock of Northeastern were
transferred from the Company to Community Bank, N.A. On that date, Northeastern
became a wholly-owned subsidiary of the Bank and changed its name to CBNA
Treasury Management Corporation ("CBTM"). CBTM is now utilized by the Bank to
manage its Treasury function, including asset/liability, investment portfolio,
and liquidity management.
The Company also had a wholly-owned mortgage banking subsidiary, Community
Financial Services, Inc. (CFSI), which was established in June 1986; it
commenced operation in January 1987. In July 1988, CFSI purchased Salt City
Mortgage Corp., a Syracuse-based mortgage broker. CFSI was dissolved in 1990.
In July 1996, the Company purchased Benefit Plans Administrators of Utica, New
York, a pension administration and consulting firm serving sponsors of defined
benefit and defined contribution plans.
On February 3, 1997, the Company formed a subsidiary business trust, Community
Capital Trust I, for the purpose of issuing preferred securities which qualify
as Tier 1 capital. Concurrent with its formation, the trust issued $30,000,000
of 9.75% preferred securities in an exempt offering maturing in year 2027 and
guaranteed by the Company. The entire net proceeds to the trust from the
offering were invested in junior subordinated obligations of the Company.
The Company provides banking services through its two regional offices at 45-49
Court Street, Canton, New York and 201 North Union Street, Olean, New York, as
well as through 65 customer facilities in the eighteen counties of St. Lawrence,
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Jefferson, Lewis, Oneida, Cayuga, Seneca, Ontario, Oswego, Wayne, Yates,
Allegany, Cattaraugus, Tioga, Steuben, Chautauqua, Franklin, Herkimer, and
Onondaga. The administrative office is located at 5790 Widewaters Parkway,
DeWitt, New York, in Onondaga County.
The Bank is a community retail bank committed to the philosophy of serving the
financial needs of customers in local communities. The Bank's branches are
generally located in small towns and villages within its geographic market
areas. The Company believes that the local character of business, knowledge of
the customer and customer needs, and comprehensive retail and small business
products, together with rapid decision-making at the branch and regional level,
enable the Bank to compete effectively. The Bank is a member of the Federal
Reserve System and the Federal Home Loan Bank of New York ("FHLB"), and its
deposits are insured by the FDIC up to applicable limits.
BANKING SERVICES
The Bank offers a range of commercial and retail banking services in each of its
market areas to business, individual, agricultural and government customers.
ACCOUNT SERVICES. The Bank's account services include checking accounts,
negotiable orders of withdrawal ("NOW"), money market accounts, savings
accounts, time deposit accounts, and individual retirement accounts.
LENDING ACTIVITIES. The Bank's lending activities include the making of
residential and farm loans, business lines of credit, working capital
facilities, inventory and dealer floor plans, as well as installment,
commercial, term and student loans.
The Company's predominant focus on the retail borrower enables its loan
portfolio to be highly diversified. About 66% of loans outstanding are oriented
to consumers borrowing on an installment and residential mortgage loan basis. In
addition, the typical loan to the Company's commercial business borrowers is
under $65,000, with only 30% of the commercial portfolio being in loans in
excess of $500,000.
OTHER SERVICES. The Bank offers a range of trust services, including personal
trust, employee benefit trust, investment management, financial planning and
custodial services. In addition, through an affiliation with Prime Vest, Inc.,
the Bank offers nonbank financial products including fixed- and variable-rate
annuities, mutual funds, and stock investments. The Bank also offers safe
deposit boxes, travelers checks, money orders, wire transfers, collections,
foreign exchange, drive-in facilities, automatic teller machines (ATMs), and
twenty-four hour depositories. Through an accounts receivable management
program, the Bank provides a service to qualifying businesses by purchasing
accounts receivable on a discounted basis. Customers of the Bank also receive
pension administration and consulting service pertaining to their defined
benefit and defined contribution plans from CBSI's nonbank subsidiary, Benefit
Plans Administrative Services, Inc. (BPA); BPA also provides services to nonbank
customers.
COMPETITION
The Company, through the Bank, competes in three distinct banking markets in the
Northern ("Northern Market"), Finger Lakes ("Finger Lakes Market"), and Southern
Tier ("Southern Tier Market") regions of New York State. The Bank considers its
primary market areas in these regions to be the counties in which it has banking
facilities. Major competitors in these markets primarily include local branches
of banks based in Boston, Massachusetts, Albany or Buffalo, New York, and
Cleveland, Ohio, as well as local independent banking and thrift institutions
and federal credit unions. Other competitors for deposits and loans within the
Bank's market areas include insurance companies, money market funds, consumer
finance companies and financing affiliates of consumer durable goods
manufacturers. Lastly, personal and corporate trust and investment counseling
services in competition with the Bank are offered by insurance companies,
investment counseling firms and other financial service firms, and individuals.
NORTHERN MARKET. Branches in the Northern Market compete for loans and deposits
in the six county primary market area of St. Lawrence, Jefferson, Lewis,
Franklin, Herkimer, and Oneida Counties in Northern New York State. Within this
market area, the Bank maintains a market share(1) of 29.0% including commercial
banks, credit unions, savings and loan associations and savings banks. The Bank
operates 29 customer facilities in this market and is ranked either first or
second in market share in 17 of the 20 towns where these offices are located.
FINGER LAKES MARKET. In the Finger Lakes Market, the Bank operates 14 customer
facilities competing for loans and deposits in the six-county primary market
area of Seneca, Oswego, Ontario, Wayne, Onondaga, and Cayuga Counties. Within
the Finger Lakes Market area, the Bank maintains a market share(1) of
approximately 2.6% including commercial
2
banks, credit unions, savings and loan associations and savings banks. The Bank
is ranked either first or second in market share in seven of the eleven Finger
Lakes Market area towns where its offices are located.
SOUTHERN TIER MARKET. The Bank's Southern Tier Market consists of two
sub-markets, the Olean submarket and the Corning submarket.
OLEAN SUBMARKET. The Olean Submarket competes for loans and deposits in the
primary market area of Cattaraugus, Chautaugua, and Allegany Counties in the
Southern Tier of New York State. Within this area, the Bank maintains a market
share(1) of approximately 13.7% including commercial banks, credit unions,
savings and loan associations and savings banks. The Olean Submarket operates 14
office locations, and the Bank is ranked either first or second in market share
in all 11 towns where these offices are located.
CORNING SUBMARKET. The Corning Submarket competes for loans and deposits in the
primary market area of Steuben, Yates and Tioga Counties in the Southern Tier of
New York State. Within this area, the Bank maintains a market share(1) of
approximately 10.1% including commercial banks, credit unions, savings and loan
associations and savings banks. The Corning Submarket operates ten office
locations, and the Bank is ranked either first or second in market share in
eight of the nine towns where these offices are located. The Bank also competes
for loans where it has no banking facilities; this secondary market area
includes Chemung and Schuyler Counties in New York State, and Tioga County in
Pennsylvania.
(1) Deposit market share data as of June 30, 1997, as calculated by Sheshunoff
Information Services, Inc. The number of facilities also includes two de novo
offices opened in 1998 for which deposit market share is de minimus.
EMPLOYEES
As of December 31, 1997, the Bank employed 726 full-time equivalent employees
versus 578 at year-end 1996. The Bank provides a variety of employment benefits
and considers its relationship with its employees to be good.
CERTAIN REGULATORY CONSIDERATIONS
Bank holding companies and national banks are regulated by state and federal
law. The following is a summary of certain laws and regulations that govern the
Company and the Bank. To the extent that the following information describes
statutory or regulatory provisions, it is qualified in its entirety by reference
to the actual statutes and regulations thereunder.
BANK HOLDING COMPANY SUPERVISION
The Company is registered as a bank holding company under the Bank Holding
Company Act of 1956, as amended (the "BHCA") and as such is subject to
regulation by the Board of Governors of the Federal Reserve System (the "Federal
Reserve Board"). As a bank holding company, the Company's activities and those
of its subsidiary are limited to the business of banking and activities closely
related or incidental to banking. Under Federal Reserve Board policy, a bank
holding company is expected to act as a source of financial strength to its
subsidiary banks and to make capital contributions to a troubled bank
subsidiary. The Federal Reserve Board may charge the bank holding company with
engaging in unsafe and unsound practices for failure to commit resources to a
subsidiary bank when required. A required capital injection may be called for at
a time when the Company does not have the resources to provide it. Any capital
loans by the Company to its subsidiary bank would be subordinate in right of
payment to depositors and to certain other indebtedness of such subsidiary
banks.
The BHCA requires the prior approval of the Federal Reserve Board in any case
where a bank holding company proposes to acquire direct or indirect ownership or
control of more than 5% of any class of the voting shares of, or substantially
all of the assets of, any bank (unless it owns a majority of such bank's voting
shares) or otherwise to control a bank or to merge or consolidate with any other
bank holding company. The BHCA also prohibits a bank holding company, with
certain exceptions, from acquiring more than 5% of the voting shares of any
company that is not a bank.
The Riegal-Neal Interstate Banking and Efficiency Act of 1994 (enacted on
September 29, 1994) provides that, among other things, substantially all state
law barriers to the acquisition of banks by out-of-state bank holding companies
are eliminated effective September 29, 1995. The law also permits interstate
branching by banks effective as of June 1, 1997, subject to the ability of
states to opt-out completely or to set an earlier effective date. The Company
anticipates that the effect of the new law may be to increase competition within
the markets where the Company operates, although the Company cannot predict the
effect to which competition will increase in such markets or the timing of such
increase.
3
OCC SUPERVISION
The Bank is supervised and regularly examined by the OCC. The various laws and
regulations administered by the OCC affect corporate practices such as payment
of dividends, incurring debt, and acquisition of financial institutions and
other companies, and affect business practices, such as payment of interest on
deposits, the charging of interest on loans, types of business conducted and
location of offices. There are no regulatory orders or outstanding issues
resulting from regulatory examinations of the Bank.
LIMITS ON DIVIDENDS AND OTHER REVENUE SOURCES
The Company's ability to pay dividends to its shareholders is largely dependent
on the Bank's ability to pay dividends to the Company. In addition to state law
requirements and the capital requirements discussed below, the circumstances
under which the Bank may pay dividends are limited by federal statutes,
regulations and policies. For example, as a national bank, the Bank must obtain
the approval of the OCC for the payment of dividends if the total of all
dividends declared in any calendar year would exceed the total of the Bank's net
profits, as defined by applicable regulations, for that year, combined with its
retained net profits for the preceding two years. Furthermore, the Bank may not
pay a dividend in an amount greater than its undivided profits then on hand
after deducting its losses and bad debts, as defined by applicable regulations.
At December 31, 1997, the Bank had $21.2 million in undivided profits legally
available for the payment of dividends.
In addition, the Federal Reserve Board and the OCC are authorized to determine
under certain circumstances that the payment of dividends would be an unsafe or
unsound practice and to prohibit payment of such dividends. The payment of
dividends that deplete a bank's capital base could be deemed to constitute such
an unsafe or an unsound practice. The Federal Reserve Board has indicated that
banking organizations should generally pay dividends only out of current
operating earnings.
There are also statutory limits on the transfer of funds to the Company by its
banking subsidiary whether in the form of loans or other extensions of credit,
investments or asset purchases. Such transfers by the Bank to the Company
generally are limited in amount to 10% of the Bank's capital and surplus, or 20%
in the aggregate. Furthermore, such loans and extensions of credit are required
to be collateralized in specified amounts.
CAPITAL REQUIREMENTS
The Federal Reserve Board has established risk-based capital guidelines which
are applicable to bank holding companies. The guidelines established a framework
intended to make regulatory capital requirements more sensitive to differences
in risk profiles among banking organizations and take off-balance sheet
exposures into explicit account in assessing capital adequacy. The Federal
Reserve Board guidelines define the components of capital, categorize assets
into different risk classes and include certain off-balance sheet items in the
calculation of risk-weighted assets. At least half of the total capital must be
comprised of common equity, retained earnings and a limited amount of perpetual
preferred stock, less goodwill ("Tier I capital"). Banking organizations that
are subject to the guidelines are required to maintain a ratio of Tier I capital
to risk-weighted assets of at least 4.00% and a ratio of total capital to
risk-weighted assets of at least 8.00%. The appropriate regulatory authority may
set higher capital requirements when an organization's particular circumstances
warrant. The remainder ("Tier 2 capital") may consist of a limited amount of
subordinated debt, limited-life preferred stock, certain other instruments and a
limited amount of loan and lease loss reserves. The sum of Tier I capital and
Tier 2 capital is "total risk-based capital." The Company's Tier I and total
risk-based capital ratios as of December 31, 1997 were 9.30% and 10.55%,
respectively.
In addition, the Federal Reserve Board has established a minimum leverage ratio
of Tier I capital to quarterly average assets less goodwill ("Tier I leverage
ratio") of 3.00% for bank holding companies that meet certain specified
criteria, including that they have the highest regulatory rating. All other bank
holding companies are required to maintain a Tier I leverage ratio of 3.00% plus
an additional cushion of at least 100 to 200 basis points. The Company's Tier I
leverage ratio as of December 31, 1997 was 5.67%, which exceeded its regulatory
requirement of 4.00%. The guidelines also provide that banking organizations
experiencing internal growth or making acquisitions will be expected to maintain
strong capital positions substantially above the minimum supervisory levels,
without significant reliance on intangible assets. The Company is subject to the
same OCC capital requirements as those that apply to the Bank.
In February 1994, the federal banking agencies proposed amendments to their
respective risk-based capital requirements that would explicitly identify
concentration of credit risk and certain risks arising from nontraditional
activities, and the management of such risks, as important factors to consider
in assessing an institution's overall capital adequacy. The proposed amendments
do not, however, mandate any specific adjustments to the risk-based capital
calculations as a result
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of such factors. On August 24, 1994, the Federal Reserve Board issued proposed
amendments to its risk-based capital standards that would increase the amount of
capital required under such standards for long-dated interest rate and exchange
rate contracts and for derivative contracts based on equity securities and
indexes, precious metals (other than gold) and other commodities. The proposed
amendments would also permit banking institutions to recognize the effect of
bilateral netting arrangements in calculating their exposure to derivative
contracts for risk-based capital purposes. The Company and the Bank do not
expect that these proposals, if adopted in their current form, would have a
material effect on its financial condition or results of operations.
FEDERAL DEPOSIT INSURANCE CORPORATION IMPROVEMENT ACT OF 1991
In December 1991, Congress enacted the Federal Deposit Insurance Corporation
Improvement Act of 1991 ("FDICIA"), which substantially revised the bank
regulatory and funding provisions of the Federal Deposit Insurance Act and made
significant revisions to several other federal banking statutes. FDICIA provides
for, among other things, (i) a recapitalization of the Bank Insurance Fund (the
"BIF") of the FDIC by increasing the FDIC's borrowing authority and providing
for adjustments in its assessment rates; (ii) annual on-site examinations of
federally-insured depository institutions by banking regulators; (iii) publicly
available annual financial condition and management reports for financial
institutions, including audits by independent accountants; (iv) the
establishment of uniform accounting standards by federal banking agencies; (v)
the establishment of a "prompt corrective action" system of regulatory
supervision and intervention, based on capitalization levels, with more scrutiny
and restrictions placed on depository institutions with lower levels of capital;
(vi) additional grounds for the appointment of a conservator or receiver; (vii)
a requirement that the FDIC use the least-cost method of resolving cases of
troubled institutions in order to keep the costs to insurance funds at a
minimum; (viii) more comprehensive regulation and examination of foreign banks;
(ix) consumer protection provisions including a Truth-in-Savings Act; (x) a
requirement that the FDIC establish a risk-based deposit insurance assessment
system; (xi) restrictions or prohibitions on accepting brokered deposits, except
for institutions which significantly exceed minimum capital requirements; and
(xii) certain additional limits on deposit insurance coverage.
FDICIA requires federal banking agencies to take "prompt corrective action" with
respect to banks that do not meet minimum capital requirements. FDICIA
establishes five capital tiers: "well capitalized," "adequately capitalized,"
"undercapitalized," "significantly undercapitalized," and "critically
undercapitalized." The following table sets forth the minimum capital ratios
that a bank must satisfy in order to be considered "well capitalized" or
"adequately capitalized" under Federal Reserve Board regulations:
Well Capitalized Adequately Capitalized
---------------- ----------------------
Total Risk-Based Capital Ratio 10% 8%
Tier I Risk-Based Capital Ratio 6% 4%
Tier I Leverage Ratio 5% 4%
5
If a bank does not meet all of the minimum capital ratios necessary to be
considered "adequately capitalized," it will be considered "undercapitalized,"
"significantly undercapitalized," or "critically undercapitalized," depending
upon the amount of the shortfall in its capital. As of December 31, 1997, the
Bank's total risk-based capital ratio and Tier I risk-based capital ratio were
10.55% and 9.30%, respectively, and its Tier I leverage ratio as of such date
was 5.67%. Notwithstanding the foregoing, if its principal federal regulator
determines that an "adequately capitalized" institution is in an unsafe or
unsound condition or is engaging in an unsafe or unsound practice, it may
require the institution to submit a corrective action plan; restrict its asset
growth; and prohibit branching, new acquisitions, and new lines of business.
Among other things, an institution's principal federal regulator may deem the
institution to be engaging in an unsafe or unsound practice if it receives a
less than satisfactory rating for asset quality, management, earnings, or
liquidity in its most recent examination.
Possible sanctions for undercapitalized depository institutions include a
prohibition on the payment of dividends and a requirement that an institution
submit a capital restoration plan to its principal federal regulator. The
capital restoration plan of an undercapitalized bank will not be approved unless
the holding company that controls the bank guarantees the bank's performance.
The obligation of a controlling bank holding company to fund a capital
restoration plan is limited to the lesser of five percent (5%) of an
undercapitalized subsidiary's assets or the amount required to meet regulatory
capital requirements. If an undercapitalized depository institution fails to
submit or implement an acceptable capital restoration plan, it can be subjected
to more severe sanctions, including an order to sell sufficient voting stock to
become adequately capitalized. Critically undercapitalized institutions are
subject to the appointment of a receiver or conservator.
In addition, FDICIA requires regulators to impose new noncapital measures of
bank safety, such as loan underwriting standards and minimum earnings levels.
Regulators are also required to perform annual on-site bank examinations, place
limits on real estate lending by banks and tighten auditing requirements.
Many of the provisions of FDICIA will be implemented through the adoption of
regulations by the various federal banking agencies. Although the precise effect
of the legislation on the Company and the Bank therefore cannot be assessed at
this time, the Company does not anticipate that such regulations will materially
affect its operating results, financial condition, or liquidity.
ITEM 2. PROPERTIES
The Company leases its administrative offices at 5790 Widewaters Parkway,
DeWitt, New York. The Bank owns its regional offices in Olean, New York and
Canton, New York. Of the Bank's remaining 65 customer facilities, 42 are owned
by the Bank, and 23 are located on long-term leased premises.
Real property and related banking facilities owned by the Company at December
31, 1997 had a net book value of $15.6 million and none of the properties was
subject to any encumbrances. For the year ended December 31, 1997, rental fees
of $821,000 were paid on facilities leased by the Company for its operations.
ITEM 3. LEGAL PROCEEDINGS
Not applicable
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable
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ITEM 4A. EXECUTIVE OFFICERS OF THE REGISTRANT
The following table sets forth certain information about the principal executive
officers of the Company and the Bank, each of whom is elected by the Board of
Directors and each of whom holds office at the discretion of the Board of
Directors.
NAME AND AGE POSITION
------------ --------
Sanford A. Belden President and Chief Executive Officer of
Age 55 the Company and the Bank
James A. Wears Regional President, Northern Region
Age 48 of the Bank
Michael A. Patton Regional President, Southern Region
Age 52 of the Bank
David G. Wallace Treasurer of the Company and Senior Vice
Age 53 President and Chief Financial Officer of
the Bank
SANFORD A. BELDEN (Director; President and Chief Executive Officer of the
Company and the Bank). Mr. Belden has been President and Chief Executive Officer
of the Company and the Bank since October 1, 1992. Mr. Belden was formerly
Manager, Eastern Region, Rabobank Nederland, New York, New York from 1990 to
1992 and prior thereto served as President, Community Banking, for First Bank
System, Minneapolis, Minnesota, a multi-state bank holding company.
JAMES A. WEARS (Regional President, Northern Region of the Bank). Mr. Wears
served as Senior Vice President of The St. Lawrence National Bank, a former
subsidiary of the Company, from 1988 through January 1991, and as its President
and Chief Executive Officer from January 1991 until January 1992. Following the
January 1992 consolidation of the Company's five subsidiary banks into the Bank,
Mr. Wears was named to his current position as Regional President for the
Northern Region of the Bank.
MICHAEL A. PATTON (Regional President, Southern Region of the Bank). Mr. Patton
was the President and Chief Executive Officer of The Exchange National Bank, a
former subsidiary of the Company, from 1984 until January 1992, when, in
connection with the consolidation of the Company's five subsidiary banks into
the Bank, he was named to his current position as Regional President for the
Southern Region of the Bank.
DAVID G. WALLACE (Treasurer of the Company; Senior Vice President and Chief
Financial Officer of the Bank). Mr. Wallace became Vice President and Chief
Financial Officer in November 1988, and has been Senior Vice President and Chief
Financial Officer since August 1991.
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PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED SHAREHOLDER MATTERS
The common stock has been trading on the New York Stock Exchange under the
symbol "CBU" since December 31, 1997. Prior to that, the common stock traded
over-the-counter on the NASDAQ National Market under the symbol "CBSI" beginning
on September 16, 1986. The following table sets forth the high and low bid
quotations for the common stock, and the cash dividends declared with respect
thereto, for the periods indicated. The quotations represent bid prices between
dealers, do not include retail mark-ups, mark-downs or commissions, and do not
necessarily represent actual transactions. There were 7,586,512 shares of common
stock outstanding on December 31, 1997 held by approximately 1,817 registered
shareholders of record.
COMMON STOCK PERFORMANCE
NYSE Symbol: CBU
Newspaper Listing: CmuntyBkSys
Market (Bid) Price
High Low Closing Price Quarterly
Year/Qtr Price Price Amount % Change Dividend
-------- ----- ----- ------ -------- --------
1997
4th $34.00 $27.00 $31.31 8.0% $0.20
3rd $29.75 $26.25 $29.00 2.7% $0.20
2nd $29.00 $20.00 $28.25 20.2% $0.18
1st $24.25 $19.25 $23.50 19.7% $0.18
1996
4th $20.13 $17.00 $19.63 14.6% $0.18
3rd $17.75 $15.38 $17.13 10.0% $0.18
2nd $16.63 $15.25 $15.57 0.4% $0.17
1st $16.38 $15.13 $15.50 -3.1% $0.17
The Company has historically paid regular quarterly cash dividends on its common
stock, and declared a cash dividend of $0.20 per share for the first quarter of
1998. The Board of Directors of the Company presently intends to continue the
payment of regular quarterly cash dividends on the common stock, as well as to
make payment of regularly scheduled dividends on the trust preferred stock as
and when due, subject to the Company's need for those funds. However, because
substantially all of the funds available for the payment of dividends by the
Company are derived from the Bank, future dividends will depend upon the
earnings of the Bank, its financial condition, its need for funds and applicable
governmental policies and regulations. See "Supervision and Regulation -- Limits
On Dividends and Other Payments."
ITEM 6. SELECTED FINANCIAL DATA
The following table sets forth selected consolidated historical financial data
of the Company as of and for each of the years in the five year period ended
December 31, 1997. The historical "Income Statement Data" and historical
"Statement of Condition Data" are derived from financial statements which have
been audited by Coopers & Lybrand L.L.P., independent public accountants. The
"Per Share Data", "Selected Ratios" and "Other Data" for all periods are
unaudited. All financial information in this table should be read in conjunction
with the information contained in "Capitalization," "Management's Discussion and
Analysis of Financial Condition and Results of Operations" and with the
Consolidated Financial Statements and the related notes thereto included
elsewhere in this Form.
8
SELECTED CONSOLIDATED FINANCIAL INFORMATION
Years ended December 31,
-------------------------------------------------------------------
(000's omitted except per share and ratios) 1997 1996 1995 1994 1993
-------------------------------------------------------------------
INCOME STATEMENT DATA:
Interest income $117,628 $97,688 $83,387 $61,575 $54,642
Interest expense 54,752 42,422 36,307 22,130 17,733
------------- -------------- ------------- ------------ ---------
Net interest income (Excl. FTE) 62,876 55,266 47,080 39,445 36,909
Provision for possible loan losses 4,480 2,897 1,765 1,702 1,506
------------- -------------- ------------- ------------ ---------
Net interest income after provision for
possible loan losses 58,396 52,369 45,315 37,743 35,403
Noninterest income 11,808 8,874 6,558 5,120 4,764
Noninterest expense 45,799 37,450 33,019 26,498 24,827
------------- -------------- ------------- ------------ ---------
Income before income taxes 24,406 23,793 18,854 16,365 15,340
Provision for income taxes 8,844 9,660 7,384 6,256 5,765
------------- -------------- ------------- ------------ ---------
Net income $ 15,562 $14,133 $11,470 $10,109 $ 9,575
============= ============== ============= ============ =========
END OF PERIOD BALANCE SHEET DATA:
Total Assets $1,633,742 $1,343,865 $1,152,045 $915,501 $713,053
Net Loans 843,212 652,474 560,151 483,079 417,871
Earning Assets 1,455,139 1,231,058 1,034,183 861,599 671,415
Total Deposits 1,345,686 1,027,213 1,016,946 679,638 588,315
Long-term debt 60,000 100,000 25,550 550 592
Trust Securities 30,000 0 0 0 0
Shareholders' equity 118,012 109,352 100,060 66,290 61,986
AVERAGE BALANCE SHEET DATA:
Total Assets $1,491,920 $1,251,826 $1,054,610 $808,948 $684,863
Net Loans 749,596 602,717 519,762 446,135 382,680
Earning Assets (Excl. MVA) 1,363,703 1,147,455 975,257 756,871 640,070
Total Deposits 1,213,793 1,032,169 871,050 651,479 598,860
Long-term debt 79,863 57,006 3,399 557 256
Trust Securities 27,290 0 0 0 0
Shareholders' equity 110,689 103,398 84,231 64,033 57,298
COMMON PER SHARE DATA:
Net Income $2.02 $1.83 $1.70 $1.80 $1.72
Cash dividend declared 0.76 0.69 0.62 0.57 0.52
Period-end book value - stated 15.56 14.03 12.99 11.89 11.28
Period-end book value - tangible 7.82 9.85 8.37 10.80 11.20
COMMON OUTSTANDING SHARES:
Average during period (includes common stock
equivalents) 7,676,326 7,482,518 6,522,410 5,629,420 5,576,660
End of period (excludes common stock
equivalents) 7,586,512 7,474,406 7,358,450 5,576,300 5,496,636
SELECTED RATIOS:
Return on average total assets 1.04% 1.13% 1.09% 1.25% 1.40%
Return of average shareholders' equity
(excludes preferred stock) 14.09% 13.88% 13.85% 15.79% 16.71%
Common dividend payout ratio 37.30% 37.27% 34.79% 31.24% 29.67%
Net interest margin (taxable equivalent basis) 4.64% 4.86% 4.88% 5.30% 5.90%
Noninterest income to average assets 0.79% 0.71% 0.64% 0.69% 0.70%
Efficiency ratio (taxable equivalent basis) 60.90% 58.00% 60.82% 57.94% 58.45%
Nonperforming assets to period-end total loans
and other real estate owned 0.60% 0.55% 0.47% 0.72% 0.73%
Allowance for loan losses to period-end loans 1.47% 1.25% 1.25% 1.30% 1.37%
Allowance for loan losses to period-end
nonperforming loans 297.96% 285.58% 349.69% 192.79% 238.67%
Allowance for loan losses to period-end
nonperforming assets 246.02% 224.33% 267.40% 179.67% 186.06%
Net charge offs (recoveries) to average total
loans 0.50% 0.29% 0.21% 0.25% 0.20%
Average net loans to average total deposits 61.76% 58.39% 59.67% 68.48% 63.90%
Period-end total shareholders' equity to period
end assets 7.22% 8.14% 8.69% 7.24% 8.69%
Tier I capital to risk-adjusted assets 9.30% 10.70% 10.62% 12.43% 14.87%
Total risk-based capital to risk-adjusted assets 10.55% 11.83% 11.76% 13.68% 16.12%
Tier I leverage ratio 5.67% 5.88% 5.83% 6.80% 8.46%
9
ITEM 7. MANAGEMENT DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULT
OF OPERATIONS
The following discussion is intended to facilitate an understanding and
assessment of significant changes in trends related to the financial condition
of the Company and the results of its operations. The following discussion and
analysis should be read in conjunction with the Selected Consolidated Financial
Data and the Company's Consolidated Financial Statements and related notes
thereto appearing elsewhere in this Prospectus. All references in the discussion
to financial condition and results of operations are to the consolidated
position and results of the Company and its subsidiaries taken as a whole.
NET INCOME AND PROFITABILITY
Net income and diluted earnings per share reached record highs in 1997 at $15.6
million and $2.02, respectively. Compared to 1996, net income rose 10.1% while
earnings per share were up 10.4%. The 1997 return on equity (ROE) increased 21
basis points to 14.09%. All per share results have been adjusted for the
Company's 2 for 1 stock split effective March 12, 1997.
Recurring or core earnings were up 10.2% from last year to $15.3 million after
removing the impact of one-time income and expense items (including $990,000 in
one-time acquisition expense) and net gains/losses on the sale of investment
securities and other assets. 1996's net income climbed 23.2% over the prior year
to $14.1 million while earnings per share were up 7.6% to $1.83; core earnings
rose at a 17% pace.
These results reflect the fourth consecutive year in which acquisitions had an
important impact on the Company's results. Nineteen ninety-seven's earnings
reflected the contributions of eight branches acquired in Southwestern New York
in mid-June from KeyBank, N.A. and twelve branches acquired in Northern New York
in mid July from Fleet Bank. Taken together, these branch locations (of which
three have been consolidated to date) now account for approximately $301 million
in deposits (or 22% of our year-end deposit base) and $95 million in loans (or
11% of our year-end loan base).
1997's improvement in net income over the prior year is explained by the
following major factors:
O Net interest income (full-tax equivalent basis) climbed 13.8% or $7.6
million due to significant increases in earning asset levels. Growth in
loans and investments was $190.7 million (29.2%) and $33.3 million (5.8%),
respectively. Loans grew $100.6 million or 15.4% excluding acquired Key and
Fleet loans. This marks the fifth consecutive year in which loan growth has
exceeded 15%. Earning asset growth was funded by $318 million (31%) in
deposit growth resulting largely from the aforementioned acquisitions and
was partially offset by reduced borrowings. The increase in net interest
income comes despite the net interest margin, at 4.64%, averaging 22 basis
points lower than the 1996 level. The margin decrease is due largely to the
$30 million in 9.75% company-obligated Mandatorily Redeemable Preferred
Securities issued to support the acquisitions. The Company's net interest
margin declined by 25 basis points on average to 4.51% excluding favorable
one-time items.
O Recurring noninterest income was up 30.6% owing to the impact of continued
strength in fiduciary and related services income; significant increases in
BPA/EBT revenue; higher fees from the sale of mutual funds; expanded
revenues from merchant credit and check card processing; the imposition of
ATM surcharge fees; and greater overdraft fees, service charges, and
commissions from an expanded customer base gained from the Key and Fleet
branch purchase.
O Overhead expense increased by 22.3%; excluding one-time costs of the Key
and Fleet acquisitions, growth was $7.4 million or 19.8%. The bulk of the
latter increase reflects costs related to branch expansion, including more
personnel (both acquired branch staff and volume-sensitive positions in
operations and other areas needed to support the expanded balance sheet),
greater data processing requirements, expanded facilities costs, increased
amortization of intangible assets, and other associated expenses.
O For the year, one-time acquisition related expense totaled $990,000. These
expenses were more than offset by one-time income totaling $1.4 million as
a result of accretion adjustments on called bonds, an unexpected gain on
life insurance, a gain on $8.2 million in loans sold in the secondary
market in conjunction with a planned interest rate risk strategy, and a
loan late fee recording adjustment. With the exception of two potential
branch consolidations in 1998, the last major installment of Key- and
Fleet-related acquisition expenses was absorbed during fourth quarter 1997.
10
O Loan loss provision expense rose 55% reflecting higher net charge offs and
the Company's practice to cover them by 125%; charge offs related to
acquired Key and Fleet loans were absorbed by the one-time valuation
allowance established at acquisition date for that purpose. The ratio of
net charge-offs to average loans outstanding rose to .50% versus .29% in
1996, largely due to consumer installment loans, which accounted for more
than 90% of 1997's increase in net charge offs; over 60% of consumer charge
offs was due to indirect automobile loans. Nonperforming loans increased to
$4.2 million, a level $1.3 million or 47% higher than one year ago; about
55% of the increase pertains to consumer installment loans with the balance
largely in commercial loans. As a result of tighter loan underwriting
standards, changes in personnel, and strengthened monitoring and control,
management anticipates improvement in the charge-off trend during 1998.
O The Company's effective tax rate was significantly reduced in 1997 because
of greater tax-exempt income.
The above combination of factors resulted in a level of profitability which may
be compared to that of CBSI's peer bank holding companies; this group is
comprised of 126 companies nationwide having $1 billion to $3 billion in assets
based on data through September 30, 1997 as provided by the Federal Reserve
System. Through year-to-date September, net income per dollar employed, or
return on average assets, was 1.06% in 1997, compared to the peer norm of 1.31%.
Shareholder return on equity, or net income as a percent of average equity, was
14.22% for the same period versus the median for peers of 14.78%.
Underlying these improved levels of profitability on an annual basis is a steady
increase in quarterly performance measures for the four quarters of 1997. The
two acquisitions were immediately accretive to earnings in the third quarter
when earnings per share reached a record high of $.55. Fourth quarter earnings
per share were off $.03 from that pace to $.52 largely due to increases in loan
loss provision and selected overhead costs.
SELECTED PROFITABILITY AND OTHER MEASURES
Return on average assets, return on average equity, dividend payout and equity
to asset ratios for the years indicated are as follows:
1997 1996 1995
---- ---- ----
Percentage of net income to
average total assets 1.04% 1.13% 1.09%
Percentage of net income to
average shareholders equity 14.09% 13.88% 13.85%
Percentage of dividends declared
per common share to net income
per common share 37.30% 37.27% 34.79%
Percentage of average shareholders'
equity to average total assets 7.42% 7.90% 7.61%
CASH-ADJUSTED EARNINGS AND PROFITABILITY
Consistent earnings growth has been achieved despite the increasing noncash
expense of amortizing deposit intangibles created by branch acquisitions. Many
analysts consider that a better measure of the economic value of an acquisition
is the cash earnings it generates, which is determined by adding back to
reported earnings the after-tax expense of amortizing the acquisition premium.
On that basis, CBSI's cash earnings increased 12.6% in 1997 to $17.8 million,
reflecting the half-year impact of the summer's acquisitions, and climbed 27.3%
in 1996 to $15.8 million, representing the full-year impact of the mid-1995
Chase branch purchases. Nineteen ninety-five's cash earnings were $12.4 million.
Return on assets is also significantly higher on a cash basis, being 1.19%,
1.26%, and 1.18% in 1997, 1996, and 1995, respectively.
In contrast to 1997's 10.4% increase in reported earnings per share (EPS) to
$2.02, cash-basis EPS rose 12.2% to $2.30. Last year's reported EPS rose 7.6%
compared to 10.8% on a cash basis of $2.05. As opposed to the $.09 decline in
11
1995's reported results, cash EPS rose $.01 to $1.85. Fourth quarter 1997 cash
EPS is $.36 higher than reported EPS on an annualized basis.
Performance measured by tangible or cash return on equity also showed better
improvement than reported results, reaching 16.09% in 1997, almost regaining the
pre-1995 level prior to the $27.5 million capital issuance which financed the
Chase branch purchase. Tangible return on equity was 15.52% in 1996 and 15.0% in
1995.
NET INTEREST INCOME
Net interest income is the Company's principal source of core operating income
for payment of overhead and possible loan losses. It is the amount that interest
and fees on earning assets (loans and investments) exceeds the cost of funds,
primarily interest paid to the Company's depositors as well as interest on
borrowings from the Federal Home Loan Bank of New York. Net interest margin is
the difference between the gross yield on earning assets and the cost of
interest bearing funds as a percentage of earning assets.
Net interest income (with nontaxable income converted to a full tax-equivalent
basis) totaled $63.3 million in 1997; this represents a $7.6 million or 13.6%
increase from the prior year. The increase was entirely due to higher earning
asset volumes, which had a positive impact on net interest income of $9.9
million, while interest rate changes had a negative impact of $2.3 million. In
contrast, interest rate changes in 1996 had a negative impact of only $196,000
versus higher earning asset volumes having a positive impact of $8.3 million.
Combining these components, 1996's net interest income rose $8.2 million or
17.1% over the prior year to $55.7 million.
With regard to the interest income component of 1997's net interest income,
greater average earning assets of $216 million contributed all but 6% of the
$19.9 million more in gross interest income (up 20.3%). Nearly 68% or $147
million in 1997's average earning asset growth resulted from increased lending
activity in existing markets and the impact of loans initially acquired at the
Key and Fleet branches. The average ratio of loans to earning assets increased
2.5 percentage points this year to 55.0% as a consequence of the aforementioned
loan growth. Higher loan volume accounted for $14.0 million of the increase in
gross interest income; higher average loan yields, which rose 10 basis points to
9.55% this year, added $615,000 to interest income. Through September 30, 1997,
the Company's loan yield was in the favorable 70th peer bank percentile.
The remaining $69 million of earning asset growth is explained by an increase in
investment outstandings; this reflects both the strategic use of leveraging when
favorable buying opportunities existed and the impact of investments purchased
from funds provided by 1997's branch acquisitions. Higher investment volumes
(including money market instruments) contributed $5.1 million of the increase in
gross interest income, while higher investment yields (up 1 basis point to
7.58%) added only $238,000 in 1997. Through September 30, 1997, the Company's
investment yield (excluding money market instruments) was in the very favorable
92nd peer bank percentile.
The total of average deposits and borrowings grew by $230 million in 1997,
primarily attributable to acquired deposits. Of the resulting $12.3 million
increase in total interest expense, over 58% of this additional expense was due
to interest paid on time deposits. During 1997, time deposit rates averaged
5.61%, or 12 basis points higher than in 1996. The mix of time deposits to
average liabilities also increased slightly, reflecting the acquired deposits
having a relatively higher proportion of time deposits. CBSI's $30 million in
9.75% trust preferred securities also caused interest expense to rise,
contributing to the 86 basis point increase in the average borrowing rate.
The cost of the Bank's interest-bearing account base not priced relative to the
treasury yield curve remained stable. The average rate on savings (including
interest checking) and money market accounts increased by only two basis points
during 1997, rising from 2.45% in 1996 to 2.47% this year. The ratio of interest
bearing funds to average earning assets rose slightly in 1997 to 87.6%. Overall,
higher interest bearing outstandings contributed $9.1 million more in interest
expense while higher rates added $3.2 million. Through September 30, 1997, the
Company's average cost of funds rate rose to the less favorable 66th peer bank
percentile, as compared to being in the 43rd percentile through September 30,
1996.
In summary, CBSI's net interest margin declined by 22 basis points in 1997, from
4.86% in 1996 to 4.64% this year:
O The average earning asset yield increased 11 basis points to 8.66% because
of the aforementioned increase in average loan yield and an increased mix
of loans to earning assets, as most types of loans have historically had
higher yields than marketable securities.
12
O The increase in the average earning asset yield compares to an unfavorable
31 basis point increase in the average cost of funds (total interest
expense divided by average earning assets) to 4.01% in 1997. This was due
to the aforementioned increased time deposit rate and mix, and the growing
proportion of longer term borrowings (including the trust preferred
securities).
Despite the decline in the Company's net interest margin, it ranks in the peer
normal 51st percentile through September 30, 1997. While the Company's net
interest margin has historically been well above the norm, the primary objective
in recent years has been to maximize shareholder returns through active
utilization of tangible capital. Thus, as management focuses on growing the
earning asset base of the Company, there has been a downward change in margin
resulting from leverage strategies to take advantage of favorable investment
opportunities; this margin decrease is considered secondary to increasing the
future stream of net interest income.
The following table sets forth certain information concerning average
interest-earning assets and interest-bearing liabilities and the yields and rate
thereon for the three-year period ended December 31, 1997. Interest income and
resultant yield information in the tables are on a fully tax-equivalent basis
using a marginal federal income tax rate of 35%. Averages are computed on daily
average balances for each month in the period divided by the number of days in
the period. Yields and amounts earned include loan fees. Nonaccrual loans have
been included in interest earnings for purposes of these computations.
Years Ended December 31,
----------------------------------------------------------------------------------------------------
1997 1996 1995
-------------------------------- -------------------------------- --------------------------------
(000'S omitted except yields
and rates)
Avg. Avg. Avg.
Avg. Amt. of Yield/Rate Avg. Amt. of Yield/Rate Avg. Amt. of Yield/Rate
Balance Interest Paid Balance Interest Paid Balance Interest Paid
---------- -------- ---------- ---------- -------- ---------- ---------- -------- ----------
ASSETS:
Interest-earning assets:
Federal Funds Sold $ 15,882 $ 865 5.45% $ 6,318 $ 336 5.32% $ 24,535 $ 1,422 5.80%
Time deposits in other banks 33 2 6.06% -- -- -- --
Taxable investment
securities 581,743 44,233 7.60% 521,668 39,410 7.55% 414,154 30,955 7.47%
Non-taxable investment
securities 16,449 1,420 8.63% 16,752 1,473 8.79% 16,806 1,580 9.40%
Loans (net of unearned
discount) 749,596 71,563 9.55% 602,717 56,932 9.45% 519,762 49,928 9.61%
---------- ---------- ----------
Total interest-earning
assets 1,363,703 118,083 8.66% 1,147,455 98,151 8.55% 975,257 83,885 8.60%
Noninterest earning assets:
Cash and due from banks 46,750 43,251 39,118
Premises and equipment 19,422 16,848 13,840
Other assets 69,766 50,626 34,099
Less: allowance for loan
losses (10,162) (7,418) (6,589)
Net unrealized gains/(losses)
on available-for-sale
portfolio 2,442 1,063 (1,114)
---------- ---------- ----------
Total $1,491,921 $1,251,825 $1,054,611
========== ========== ==========
LIABILITIES AND SHAREHOLDERS'
EQUITY:
Interest-bearing liabilities
Savings deposits $ 443,667 10,971 2.47% $ 406,925 9,953 2.45% $ 366,604 9,730 2.65%
Time deposits 599,136 33,619 5.61% 481,250 26,430 5.49% 380,494 21,042 5.53%
Short term borrowings 45,008 2,583 5.74% 46,535 2,620 5.63% 85,407 5,376 6.29%
Long term borrowings 106,975 7,578 7.08% 57,006 3,419 6.00% 3,399 159 4.68%
---------- ------ ---------- ------ --------- ------
Total interest-bearing
liabilities 1,194,786 54,751 4.58% 991,716 42,422 4.28% 835,904 36,307 4.34%
Noninterest bearing liabilities:
Demand deposits 170,989 143,995 123,952
Other liabilities 15,459 12,716 10,526
Shareholders' equity 110,687 103,398 84,229
---------- ---------- ----------
Total $1,491,921 $1,251,825 $1,054,611
========== ========== ==========
Net interest earnings $ 63,332 $55,729 $47,578
======== ======= =======
Net yield on interest-earning
assets 4.64% 4.86% 4.88%
===== ===== =====
13
As discussed above, the change in 1997's net interest income may be analyzed by
segregating the volume and rate components of the changes in interest income and
interest expense for each underlying category.
-------------------------------------- --------------------------------------------
1997 Compared to 1996 1996 Compared to 1995
-------------------------------------- --------------------------------------------
Increase (Decrease) Due Increase (Decrease) Due
to Change in (1) to Change in (1)
Net
(000's omitted) Volume Rate Change Volume Rate Net Change
------ ---- ------ ------ ---- ----------
Interest earned on:
Federal funds sold and
securities purchased
under agreements to resell 521 8 529 (979) (107) (1,086)
Time deposits in other banks 2 -- 2 -- -- --
Taxable investment securities 4,566 257 4,823 8,120 335 8,455
Nontaxable investment securities (26) (27) (53) (5) (102) (107)
Loans (net of unearned discounts) 14,016 615 14,631 7,849 (845) 7,004
Total interest-earning assets (2) 18,711 1,221 19,932 14,851 (585) 14,266
Interest paid on:
Savings deposits 907 111 1,018 1,002 (779) 223
Time deposits 6,603 586 7,189 5,541 (153) 5,388
Short-term borrowings (90) 53 (37) (2,239) (517) (2,756)
Long-term debt 3,447 712 4,159 3,202 58 3,260
Total interest-bearing liabilities 9,146 3,183 12,329 6,627 (512) 6,115
Net interest earnings (2) 9,904 (2,301) 7,603 8,347 (196) 8,151
- ----------
(1) The change in interest due to both rate and volume has been allocated to
volume and rate changes in proportion to the relationship of the absolute
dollar amounts of change in each.
(2) Changes due to volume and rate are computed from the respective changes in
average balances and rates of the totals; they are not a summation of the
changes of the components.
14
The following table sets forth certain information concerning average
interest-earning assets and interest-bearing liabilities and the yields and
rates thereon for the three month periods ended December 31, 1997 and 1996.
Interest income and resultant yield information in the tables are on a fully
tax-equivalent basis using a marginal federal income tax rate of 35%. Averages
are computed on daily average balances for each month in the period divided by
the number of days in the period. Yields and amounts earned include loan fees.
Nonaccrual loans have been included in interest earnings for purposes of these
computations.
Fourth Quarters Ended December 31,
-----------------------------------------------------------------------------------
1997 1996
---------------------------------------- ---------------------------------------
Avg. Avg.
(000's omitted except yields and Avg. Amt. of Yield/Rate Avg. Amt. of Yield/Rate
rates) Balance Interest Paid Balance Interest Paid
------------ -------- ------------ ----------- -------- ----------
ASSETS:
Interest-earning assets:
Federal Funds Sold $ 7,590 $ 104 5.44% $ 13 $ 1 16.23%
Time deposits in other banks 35 1 5.70% -- -- --
Taxable investment securities 566,081 10,723 7.52% 556,542 10,496 7.48%
Nontaxable investment
securities 20,048 423 8.37% 18,389 379 8.18%
Loans (net of unearned
discount) 835,673 20,211 9.60% 639,764 15,220 9.44%
---------- ----------
Total interest-earning
assets 1,429,427 31,462 8.73% 1,214,708 26,096 8.52%
Noninterest earning assets:
Cash and due from banks 52,891 40,410
Premises and equipment 22,813 16,777
Other assets 86,698 51,014
Less: allowance for loan losses (12,266) (7,842)
Net unrealized gains/(losses)
on available-for-sale portfolio 4,183 1,241
---------- ----------
Total $1,583,746 $1,316,308
========== ==========
LIABILITIES AND SHAREHOLDERS' EQUITY:
Interest-bearing liabilities
Savings deposits $ 497,257 3,097 2.47% $ 389,547 2,391 2.44%
Time deposits 655,559 9,352 5.66% 491,323 6,847 5.53%
Short-term borrowings 16,089 235 5.80% 68,011 971 5.66%
Long-term borrowings 81,433 1,533 7.47% 100,000 1,536 6.09%
---------- ------- ---------- -------
Total interest-bearing
liabilities 1,250,338 14,217 4.51% 1,048,881 11,745 4.44%
Noninterest bearing liabilities:
Demand deposits 199,373 146,338
Other liabilities 18,801 14,107
Shareholders' equity 115,234 106,983
---------- ----------
Total $1,583,746 $1,316,308
========== ==========
Net interest earnings $17,244 $14,351
======= =======
Net yield on interest-earning
assets 4.79% 4.69%
===== =====
15
The changes in net interest income by volume and rate component for fourth
quarter 1997 versus fourth quarter 1996 is shown below for each major category
of interest-earning assets and interest-bearing liabilities.
------------------------------------------------------
4th Quarter 1997 Compared to 4th Quarter 1996
------------------------------------------------------
Increase (Decrease) Due
to Change in (1)
Volume Rate Net Change
------ ---- ----------
Interest earned on:
Federal funds sold and securities
purchased under agreements to resell 104 (0) 103
Time deposits in other banks 1 -- 1
Taxable investment securities 227 -- 227
Nontaxable investment securities 19 25 44
Loans (net of unearned discount) 4,734 257 4,991
Total interest-earning assets (2) 4,712 654 5,366
Interest paid on:
Savings deposits 670 36 706
Time deposits 2,339 166 2,505
Short-term borrowings (760) 25 (736)
Long-term debt 14 (17) (3)
Total interest-bearing liabilities 2,288 184 2,472
Net interest earnings (2) 2,672 222 2,894
(1) The change in interest due to both rate and volume has been allocated to
volume and rate changes in proportion to the relationship of the absolute dollar
amounts of change in each.
(2) Changes due to volume and rate are computed from the respective changes in
average balances and rates of the totals; they are not a summation of the
changes of the components.
NONINTEREST INCOME
The Company's sources of noninterest income are recurring fees from core banking
operations (including personal trust income) and revenues from one-time events,
defined as net gains/losses from the sale of investments, loans, and
miscellaneous assets. Additional recurring income results from investment
management, recordkeeping, and consulting services provided by Benefit Plans
Administrative Services, Inc. (BPA) and the Bank's Employee Benefit Trust
Function (EBT).
Total noninterest income increased 33% to $11.8 million from 1996 to 1997. A
quarter of the increase was attributable to the acquired branches, and another
quarter attributable to the full year impact of BPA.
Core banking fees (excluding BPA/EBT and nonrecurring income) were up strongly
for the third consecutive year to approximately $9.6 million in 1997, a 26.2%
improvement following a 25.6% increase in 1996. Included in this year's growth
is approximately $785,000 more in fees due to the impact of the former Key and
Fleet branches.
Recurring noninterest income as a percent of total operating income (net
interest income plus recurring noninterest income) reached 15.3% in 1997, up
meaningfully from 13.6% and 12.1% in 1996 and 1995, respectively. While progress
has been steady, this ratio remains below the norm of 21.0% or the 31st peer
percentile.
In light of management's objective to grow noninterest income toward the peer
median, opportunities to develop new fee-based products are actively pursued,
and the collection of fees for providing quality service is emphasized. In 1997,
these efforts resulted in the institution of an ATM transaction surcharge for
nonbank customers and the launching of cash management products for commercial
businesses. The focus on growth has also continued to drive efforts to increase
fiduciary income, control waived fees, and competitively price deposit service
charges and commission-based services.
As a result of these efforts, in addition to the benefits provided by the Key
and Fleet acquisitions and a full year of BPA operations, fees from core banking
operations improved in several key areas in 1997.
16
o Fees from personal trust services expanded to almost $1.2 million, up 7.7%
in 1997 versus 13.1% in 1996, primarily reflecting a greater level of
annual administrative fees on trust and individual investment management
accounts, offset by a decline in estate fees. Continued focus on business
development, including expanded referral programs, is expected to
strengthen future fiduciary income growth. Total assets under management by
CBNA's trust department (excluding BPA/EBT-related assets) were $149
million as of year-end 1997, up from $144 million and $138 million at
year-end 1996 and 1995, respectively.
o Service charges on deposit accounts and overdraft fees increased to $4.9
million in 1997, a 21.3% growth rate versus 21.4% in 1996. The 1997
increase reflects the impact of fees and commissions from an expanded
customer base gained from the Key and Fleet acquisitions and an emphasis on
ensuring competitive pricing and reducing waived fees. Note that 1996's
increase reflected the full year impact of 1995's Chase branch acquisition.
o Fees earned through the Company's Visa affiliation rose 23.4% in 1997 to
$515,000, attributable mainly to continued growth of the Visa Check Card
product (which more than doubled from 1996 to 1997), with Visa merchant
discount fees remaining essentially flat. The direct margin on merchant
discount fees (net of processing expense) dropped 2.3 percentage points to
29.5% in 1997.
o 1997 is the fourth year in which CBSI has offered annuities, mutual funds,
and other investment products through financial services representatives
(FSR's) located in nine selected geographic markets within the Bank's
branch network. These individuals are registered representatives working
through PrimeVest Financial Services, Inc. of Saint Cloud, Minnesota.
Commission income from this activity in 1997 reached $1.0 million on asset
sales of $26.3 million, up over 28% from $782,000 in 1996 on sales of $24.8
million. A greater emphasis continues to be placed on growing this line of
special investment products as evidenced by two additions to sales staff
during the last half of 1997 and the hiring of a full-time program
administrator in early 1998.
General commissions and miscellaneous income at $1.8 million were up more than
44% in 1997. This increase is attributable to $182,000 more in dividends from
the New York State Bankers Association's insurance subsidiary, an increased
level of Canadian exchange revenue, and the impact of miscellaneous fees
generated by the Key and Fleet branches. Nineteen ninety-seven's nonrecurring
other income was $381,000. This includes a $236,000 gain on life insurance and
gains on the sale of student loans and mortgages sold in the secondary market.
Revenue from record keeping and consulting services provided by BPA (acquired in
July 1996) and investment management services provided by the pre-existing EBT
department totaled $1.8 million in 1997 compared to $1.1 million in 1996, a
60.8% increase as a result of the full year impact of BPA operations and strong
business development efforts. Total assets under management by BPA/EBT more than
doubled in 1997 to $125 million as of year end, up from $52 million and $47
million in 1996 and 1995, respectively.
The following table sets forth selected information by category of noninterest
income for the Company for the years and quarters indicated.
----------------------------------------------------------------------
(000's omitted) Years ended Quarters ended
December 31, December 31,
----------------------------------------------------------------------
1997 1996 1995 1997 1996
----- ----- ---- ----- ----
Fiduciary and investment services $ 1,181 $1,097 $ 970 $ 363 $ 342
Service charges on deposits $ 2,709 2,259 1,959 797 528
Overdraft fees $ 2,186 1,778 1,367 658 474
Other service charges and fees $ 3,558 2,501 1,782 983 669
BPA/EBT income $ 1,793 1,115 477 446 403
Nonrecurring income $ 381 124 3 301 64
Total $11,808 $8,874 $6,558 $3,549 $2,481
Total noninterest income (excluding
nonrecurring items) as a percentage of
operating income 15.3% 13.6% 12.1% 15.9% 14.4%
17
NONINTEREST EXPENSE
Noninterest expense or overhead rose $8.3 million or 22.3% in 1997 to $45.8
million compared to a 13.4% increase in 1996. The bulk of 1997's increase is due
to branch expansion. The Key and Fleet acquisitions caused personnel additions
(both acquired branch staff and volume-sensitive positions in operations and
other areas needed to support the expanded balance sheet), greater data
processing requirements, expanded facilities costs, and other expenses
associated with servicing the expanded customer base. Overhead growth also
reflects the impact of a full year of operating Benefit Plans Administrators
acquired in July 1996. Total one-time Key and Fleet-related acquisition expenses
were approximately $990,000 in 1997, including a loss of $47,000 on sale of a
duplicate branch facility (accounted for as an offset to nonrecurring income).
As a percent of average assets, overhead increased from 2.99% in 1996 to 3.07%
in 1997, representing the peer normal 48th percentile.
For CBSI as a whole, higher personnel expense accounted for over 44% of 1997's
increase in overhead, with personnel costs being up 19.2% versus being 14.8%
higher in 1996. Greater salary, benefit, and payroll tax expense primarily
reflect staffing in the new branches, along with modest annual merit awards for
existing personnel. Total full-time equivalent employees (FTE's) at December 31,
1997 were 726 versus 578 a year earlier.
Nonpersonnel expense rose $4.7 million or 25.6% this year as opposed to a $1.9
million or an 11.9% increase in 1996. One-time Key and Fleet-related acquisition
expenses accounted for $897,000 or 19% of the nonpersonnel increase. Higher
occupancy expense, depreciation on equipment, office supplies, telephone,
courier and armored car expense, postage, business development, and computer
services resulted from the impact of the 20 new branches added in mid 1997.
Total amortization of intangibles increased by $1,058,000 or 38.8% to $3.8
million in 1997 as a result of the branch acquisitions. Various other increases
related to inflation, internal volume growth, the full year impact of BPA,
expenses associated with repossessed assets, a change in reporting commission
expense associated with annuity/mutual fund sales, and the valuation of CBSI
director phantom stock were partially offset by lower FDIC insurance expense
which resulted from the absence of a special one-time assessment in 1996 to
rebuild the Savings Association Insurance Fund (SAIF).
The efficiency ratio is defined as overhead expense divided by recurring
operating income (full tax-equivalent net interest income plus noninterest
income, excluding net securities gains and losses); the lower the ratio, the
more efficient a bank is considered to be. In 1997, the efficiency ratio
increased by 2.9 percentage points to 60.9%, which exceeds the national peer
bank median of 57.3% based on data available as of September 30, 1997. The
increase reflects the impact of one-time Key and Fleet acquisition related
expenses incurred in 1997 combined with a disproportionately smaller increase in
operating income, since most of the acquired deposits funded investments rather
than higher yielding loans. However, this year's ratio is essentially equal to
the 60.8% level of 1995, which was impacted by similar circumstances caused by
the Chase branch acquisition.
Excluding all nonrecurring income, one-time expenses, and the Company's
relatively high level of intangible amortization, the efficiency ratio is 55.8%
based on full year 1997 results. This calculation can be more logically compared
to the 57.3% median for peer banks, which generally experience a much lower
level of intangible amortization and which as a group are not heavily impacted
by one-time acquisition expenses. Nonetheless the Company is striving to reduce
its efficiency ratio by capturing opportunities for greater economies of scale
at its enlarged size, including steady deployment of productivity-enhancing
technology. Management has set an objective to bring this ratio (inclusive of
intangible amortization) downward to 55% within the next three years.
While the Company's expense ratios have generally been favorable, management
maintains a heightened focus on controlling costs and eliminating
inefficiencies. Areas for improvement have been identified through detailed peer
comparisons, a bank-wide program of employee involvement in cost containment,
and targeted use of outside consultants. These combined efforts are intended to
offset pressure from price increases and higher transaction volumes and enable
the Company to more fully benefit from economies of scale as it continues to
grow.
18
The following table sets forth information by category of noninterest expenses
of the Company for the years and quarters indicated.
--------------------------------------------------------------------------
(000's omitted) Years ended Quarters ended
December 31, December 31,
--------------------------------------------------------------------------
1997 1996 1995 1997 1996
----- ----- ---- ----- ----
Personnel expense $22,945 $19,247 $16,757 $6,311 $4,908
Net occupancy expense 3,426 3,073 2,608 952 782
Equipment expense 2,728 2,318 1,992 774 592
Professional fees 1,616 1,119 1,102 496 327
Data processing expense 3,584 2,975 2,449 909 729
Amortization 3,787 2,729 1,686 1,204 701
Stationary and supplies 1,749 951 1,231 658 260
Deposit insurance premiums 140 368 925 44 26
Other 5,823 4,670 4,269 1,559 1,155
------------ ------------- -------------- --------------- -------------
Total $45,799 $37,451 $33,019 $12,906 $9,480
============ ============= ============== =============== =============
Total operating expenses as a percentage
of average assets 3.07% 2.99% 3.13% 3.26% 2.88%
Efficiency ratio - nominal (1) 60.9% 58.0% 60.8% 62.0% 56.4%
- adjusted (2) 55.8% 53.9% 56.7% 56.6% 53.0%
(1) Noninterest expense divided by operating income, excluding net securities
gains/losses.
(2) Noninterest expense excluding nonrecurring items and amortization of
deposit intangibles divided by operating income excluding all nonrecurring
items.
INCOME AND INCOME TAXES
Income before tax in 1997 was $24.4 million, up 2.6% over the prior year's
amount. When pre-tax income is recast as if all tax-exempt revenues were fully
taxable on a federal basis, 1997's results rose by $606,000 or 2.5%.
Largely as a result of the acquisitions, pre-tax earnings were favorably
impacted by $7.6 million greater net interest income (full tax-equivalent basis)
and a $2.9 million climb in noninterest income. These factors were partially
offset by $8.3 million more in overhead expense (also related to the
acquisitions), and $1.6 million more in loan loss provision expense associated
with an increased level of consumer loan charge-offs and the need to maintain
adequate reserves in light of CBSI's strong loan growth.
The Company's combined effective federal and state tax rate dropped a
significant 440 basis points this year to 36.2%. The rate decreased because of
an increasing proportion of tax-exempt investment income; a nonrecurring,
nontaxable gain on life insurance; and the lack of 1996's additional taxes and
interest resulting from an IRS tax audit of the years 1990 to 1993.
CAPITAL
Shareholders' equity ended 1997 at $118.0 million, up over 7.9% from one year
earlier, primarily reflective of the contribution of strong earnings less
dividends paid to shareholders. Excluding the $1.8 million after-tax change in
this year's market value adjustment (MVA) on available-for-sale investment
securities, capital rose 6.3%. Shares outstanding increased by nearly 112,000
during 1997 due to the exercise of stock options.
On January 29, 1997, CBSI placed $30 million of fixed rate capital securities
through Community Capital Trust I, a newly formed Delaware business trust,
controlled by CBSI. The 9.75% Capital Securities, Series A of Community Capital
Trust I were priced at 99.325% of par to yield 9.82%. Cash distributions are
payable semi-annually on January 31 and July 31, and began on July 31, 1997. The
9.75% Capital Securities are rated Investment Grade ("BBB-") by Thomson
BankWatch. The proceeds from the issuance were used to fund the Key and Fleet
branch acquisitions, and to redeem the $4.5 million remaining half of CBSI's
preferred stock issued in mid 1995.
19
The ratio of Tier I capital to assets (or Tier I leverage ratio), the basic
measure for which regulators have established a 5% minimum to be considered
"well capitalized," remains sound at 5.67%. This level compares to 5.88% a year
ago. Despite higher capital produced by this year's strong earnings and the
aforementioned Community Capital Trust I, the decrease in the 1997 Tier I ratio
was a result of increased intangibles attributed to the Key and Fleet branch
acquisitions. The total capital to risk-weighted assets ratio of 10.55% as of
year-end 1997 was well above the 6% minimum requirement for "well capitalized"
banks. The Company is confident that capital levels are being prudently balanced
between regulatory and investor perspectives.
Cash dividends declared on common stock in 1997 of $5.7 million represented an
increase of 12.1% over the prior year. This growth reflects the exercise of
stock options, and a two cent per share increase in the quarterly common stock
dividend in the third quarter of 1997 from $.18 to $.20. Dividends declared on
CBSI's preferred stock in 1997 were $180,000 compared to $405,000 in the prior
year, reflecting the aforementioned redemption of preferred stock.
Raising the Company's expected annualized dividend to $0.80 per common share
represents management's confidence that earnings strength is sustainable and
that capital can be maintained at a satisfactory level. The dividend payout
ratio for the year was approximately 38%, or 37% excluding the preferred
dividend, remaining relatively consistent with the 1996 levels of 39% and 36%,
respectively. The Company's targeted payout range for dividends on common stock
is 30-40%. Its payout ratio has historically been strong relative to peers,
ranging from the 60th-77th percentile from 1993 through 1996. The 1997 peer
payout ratio (including preferred dividend) remained high in the 75th peer
percentile.
LOANS
The amounts of the Bank's loans outstanding (net of deferred loan fees or costs)
at the dates indicated are shown in the following table according to type of
loan:
--------------------------------------------------------------------------
Years ended December 31,
--------------------------------------------------------------------------
(000's omitted) 1997 1996 1995 1994 1993
---- ---- ---- ---- ----
Real Estate Mortgages:
Residential $278,912 $225,088 $204,224 $196,548 $177,059
Commercial loans secured by real estate 85,962 56,959 46,971 35,604 32,914
Farm 10,434 8,296 8,224 7,625 7,421
Total 375,308 290,343 259,419 239,777 217,394
Commercial, Financial, and Agricultural:
Agricultural 23,894 21,689 17,969 13,295 11,564
Commercial and financial 138,067 99,445 81,562 67,976 58,252
Total 161,961 121,134 99,531 81,271 69,816
Installment Loans to Individuals:
Direct 89,138 62,176 57,646 58,371 58,963
Indirect 198,853 171,583 144,566 121,148 89,513
Student and other 10,880 9,635 10,268 8,690 6,337
Total 298,871 243,394 212,480 188,209 154,813
Other Loans 8,887 3,496 2,190 1,482 1,578
-------- -------- -------- -------- --------
Gross Loans 845,027 658,367 573,620 510,739 443,601
Less: Unearned Discounts 1,815 5,893 13,469 27,660 25,730
Reserve for Possible Loan Losses 12,434 8,128 6,976 6,281 5,706
-------- -------- -------- -------- --------
Net Loans $830,778 $644,346 $553,175 $476,798 $412,165
The Company's predominant focus on the retail borrower enables its loan
portfolio to be highly diversified. About two-thirds of loans outstanding are
oriented to consumers borrowing on an installment and residential mortgage loan
basis.
20
Additionally, the typical size loan to the variety of commercial businesses in
the Company's market areas is under $65,000, with only 30% of the commercial
portfolio consisting of loans in excess of $500,000. The portfolio contains no
credit card receivables. The overall yield on the portfolio is in the attractive
75th peer percentile.
Loans outstanding, net of unearned discount, reached a record $843 million as of
year-end 1997, up over $190 million or 29.2% compared to twelve months earlier.
Nearly half of 1997's growth was due the contributions of eight branches
acquired in Southwestern New York in mid June from KeyBank, N.A. and twelve
branches acquired in Northern New York in mid July from Fleet Bank. Taken
together, these branch locations now account for approximately $95 million in
loans (or 11% of our year-end loan base). About 20% of 1997's growth took place
in the markets served by the branches purchased from Chase at mid-year 1995;
outstandings at these branches have risen from $12 million at the July 1995
acquisition date to $101 million at year-end 1997. This marks the fifth
consecutive year in which total loan growth has exceeded 15%; loans in 1996 rose
a strong $92 million or 16.5%.
The "Nature of Lending" table below recasts the Company's loan portfolio into
four major lines of business: consumer mortgages, business lending, consumer
indirect, and consumer direct. Comparing the components of loan growth in 1997
versus 1996, the increase in business lending was slightly more this year at 41%
of $191 million in total loan growth versus 40% of 1996's $92 million increase.
About 37% of 1997's loan growth took place in the consumer direct area compared
to the 19% share in 1996. Consumer indirect loans accounted for 16% of this
year's increase, down from 36% in the prior year. Lastly, the share of this
year's total loan increase from consumer mortgages increased slightly to 6% from
1996's level of 5%. The following discusses the underlying reasons for these
changes by each of the Company's four major lending activities or lines of
business.
NATURE OF LENDING
Mix at Quarter End
($ million and %)
Total Loans Consumer Mortgage Business Lending Consumer Indirect Consumer Direct
- ----------------------- ----------------------- ----------------------- ------------------------ -------------------------
Year 000's % Change 000's % Total % Change 000's % Total % Change 000's % Total % Change 000's % Total % Change
1997 843 29.2% 164 19% 7.8% 288 34% 36.7% 199 24% 18.6% 192 23% 57.5%
1996 652 16.5% 152 23% 3.2% 211 32% 21.3% 168 26% 24.2% 122 19% 17.4%
1995 560 16.0% 147 26% 2.4% 174 31% 25.6% 135 24% 31.8% 104 19% 5.6%
1994 483 15.6% 143 30% 12.2% 139 29% 15.1% 102 21% 37.9% 99 20% 3.4%
1993 418 15.3% 128 30% 26.8% 120 29% 25.7% 74 18% 4.2% 96 23% 0.9%
The combined total of general purpose business lending, dealer floor plans,
mortgages on commercial property, and farm loans is characterized as the
Company's business lending activity. At $288 million, this segment represents
34% of loans outstanding at year end, having expanded its share by five
percentage points since year-end 1993. This relatively high mix compared to the
Bank's other loan types is largely attributable to borrowing by local commercial
businesses. Outstandings climbed over $77 million or 37% in 1997. Comparative
growth rates were 21% for 1996 and 26% in 1995. This year's growth resulted from
strong business development efforts, the aforementioned contribution of acquired
branches, and the addition of a number of experienced commercial lenders over
the last few years.
More than 86% of the Bank's total number of commercial loans have balances less
than $100,000, which as a group constitutes approximately 34% of commercial loan
outstandings. Commercial loans up to $250,000 comprise 23% of loans outstanding
while loans in the size range of $250,000-$500,000 amount to 13%. Again, loans
with balances greater than $500,000 represent 30% of the portfolio; about 9
percentage points of this segment represents floor plan loans to 25 automobile
dealers.
21
Demand for installment debt indirectly originated through automobile, marine,
and mobile home dealers continued to be very active in 1997 for the fourth
consecutive year. Outstandings ended 1997 nearly 19% or $31 million higher
compared to growth of 24% or $33 million in the prior year. Strength was
evidenced in both CBSI's Northern Region, where this type of lending has been
highly successful for a number of years, and in the Southern Region, where the
commitment to indirect lending was re-energized during 1993 and has continued
with success since then. This portfolio segment, of which 92% relates to
automobile lending (71% used vehicles versus 29% new), constitutes 24% of total
loans outstanding, up from its low of 18% at year-end 1993. No indirect loans
were part of the mid-summer 1997 acquisitions.
The segment of the Company's loan portfolio committed to consumer mortgages
includes both fixed and adjustable rate residential lending. It accounts for
$164 million or 19% of total loans outstanding. The growth during the last two
years ($11.9 million or 7.8% in 1997, and $5.1 million or 3.2% in 1996) is lower
than it would otherwise be due to a program which began in mid 1994 to sell
selected fixed rate originations in the secondary market. The purpose of this
program, which resulted in sales of $1.2 million in its first year, $4.3 million
in 1995, $7.2 million in 1996 and $14.0 million this year, is to develop a
meaningful source of servicing income as well as to provide an additional tool
to manage interest rate risk.
The direct consumer lending activity has increased modestly over the last five
years. 1997 outstandings rose 57.5% or $70 million versus 17.0% or $18 million
in 1996 largely due to loans obtained with the summer acquisitions. This line of
business is comprised of conventional installment loans (including some isolated
installment lending to small businesses), personal loans, student loans (which
are sold once principle amortization begins), and borrowing under variable and
fixed rate home equity lines of credit. The consumer direct segment as a percent
of total loans trended downward from 1993 to 1995. However, it stabilized in
1996 at 19%, rising to 23% in 1997.
MATURITIES AND SENSITIVITIES OF LOANS TO CHANGES IN INTEREST RATES
The following table shows the amount of loans outstanding as of December 31,
1997, which, based on remaining scheduled payments of principal, are due in the
periods indicated:
----------------------------------------------------------------------------
At December 31, 1997
----------------------------------------------------------------------------
Maturing
After One
Maturing in but Maturing
One Year or Within Five After Five Total Book
(000's omitted) Less Years Years Value
------------------ ------------------ ----------------- -----------------
(In Thousands)
Commercial, financial, and agricultural $ 69,056 $ 56,842 $ 36,063 $161,961
Real estate - construction 0 0 0 0
Real estate - mortgage 33,316 80,798 261,194 375,308
Installment, net of unearned discount 112,892 177,942 15,109 305,943
------------------ ------------------ ----------------- -----------------
Total loans, net of unearned discount $215,264 $315,582 $312,366 $843,212
================== ================== ================= =================
The following table sets forth the sensitivity of the loan amounts due after one
year to changes in interest rates:
----------------------------------
(000's omitted) At December 31, 1997
----------------------------------
Fixed Rate Variable Rate
Due after one year but within five years $263,480 $52,102
Due after five years 270,122 42,244
------------------ --------------
Total due after one year $533,602 $94,346
================== ==============
22
NONPERFORMING ASSETS/RISK ELEMENTS
The following table presents information concerning the aggregate amount of
nonperforming assets:
-------------------------------------------------------------------------------
Years ended December 31,
-------------------------------------------------------------------------------
1997 1996 1995 1994 1993
---- ---- ---- ---- ----
(Dollars in thousands)
Loans accounted for on a nonaccrual
basis $ 1,385 $ 2,023 $ 1,328 $ 2,396 $ 1,738
Accruing loans which are contractually
past due 90 days or more as to
principal or interest payments 2,788 823 667 862 653
-------- -------- --------- --------- ---------
Total nonperforming loans 4,173 2,846 1,995 3,258 2,391
Loans which are "troubled debt
restructurings" as defined in
Statement of Financial Accounting
Standards No. 15 "Accounting by
Debtors and Creditors for Troubled
Debt Restructurings" 0 32 0 15 243
Other real estate 881 746 614 223 433
-------- -------- --------- --------- ---------
Total nonperforming assets $ 5,054 $ 3,624 $ 2,609 $ 3,496 $ 3,067
======== ======== ========= ========= =========
Ratio of allowance for loan losses to
period-end loans 1.47% 1.25% 1.25% 1.30% 1.37%
Ratio of allowance for loan losses to
period-end nonperforming loans 297.96% 285.58% 349.69% 192.79% 238.67%
Ratio of allowance for loan losses to
period-end nonperforming assets 246.02% 224.27% 267.40% 179.67% 186.06%
Ratio of nonperforming assets to
period-end total loans and other real
estate owned 0.60% 0.55% 0.47% 0.72% 0.73%
The impact of interest not recognized on nonaccrual loans, and interest income
that would have been recorded if the restructured loans had been current in
accordance with their original terms, was immaterial. The Company's policy is to
place a loan on a nonaccrual status and recognize income on a cash basis when it
is more than ninety days past due, except when in the opinion of management it
is well secured and in the process of collection.
PROVISION AND RESERVE FOR LOAN LOSSES
Nonperforming loans, defined as nonaccruing loans plus accruing loans 90 days or
more past due, ended 1997 at $4.2 million. This level is approximately $1.3
million or 47% higher than one year earlier; about 55% of the increase pertains
to consumer installment loans with the balance largely in commercial loans.
Because of strong loan growth, however, the ratio of nonperforming loans to
total loans has risen a relatively small five basis points during the year to
.49%. As of September 30, 1997, when the nonperforming loan ratio stood at .53%,
the Company's asset quality was in the favorable 23rd percentile compared to
peers. The ratio of nonperforming assets (which additionally include troubled
debt restructuring and other real estate) to total loans plus OREO is also
favorable at .60%.
Total delinquencies, defined as loans 30 days or more past due and nonaccruing,
have trended slightly higher as a percent of total loans over the last two
years, generally fluctuating within a range of 1.2% to 1.4% in 1996 versus 1.3%
to 1.7% in 1997; a brief seasonal or event-related spike outside these ranges
occurred during both periods. Though commercial and real estate loan
delinquencies have been relatively flat over the last 12 months, installment
loan delinquencies exhibited an up-trend, averaging 2.29% for the last six
months of 1997 versus 1.66% for the same prior year period.
23
As of year-end 1997, total delinquencies for commercial loans, installment
loans, and real estate mortgages were 1.45%, 2.75%, and 1.00%, respectively.
With the exception of installment loans, these measures compare favorably to
delinquencies of peer bank holding companies as of September 30, 1997 of 2.49%,
2.42%, and 1.92%, respectively. Management views the higher installment loan
delinquencies to be temporary and anticipates that the ratio will improve in
1998 with tighter loan underwriting standards, changes in personnel, and
strengthened monitoring and control. The Bank strives to maintain its total and
component category delinquencies below a 2% internal guideline, and is
comfortable that this objective continues to be realistic.
As of September 30, 1997, when overall delinquencies were at 1.72%, the Company
ranked in the 46th peer percentile. Factors contributing to successful
underwriting, collection, and credit monitoring include selective addition of
experienced lenders over the last several years, loan servicing on a
regionally-based level, collection departments focused on taking prompt
corrective action, and a centralized loan review function which is given
priority attention and has regular Board of Director accountability.
Another measure of the Company's good asset quality is a reasonable net
charge-offs record, which finished the year at $3.7 million or .50% of average
loans. As a result of higher installment loan charge-offs, gross charge-offs
rose 80.9% to $4.4 million, or .59% of average loans outstanding versus .41% in
1996. This year's recoveries rose to an all-time record in dollar amount of
$727,000, while down from 1996 in percentage terms to 29.6% of prior year gross
charge-offs. As of September 30, 1997, the Bank's net charge-off ratio was in
the 70th peer percentile. It should be noted, as with the higher installment
delinquencies, management views the growth in installment loan charge-offs to be
temporary.
A timely charge-off policy and relatively low nonperforming loans have enabled
the Company to carry a reserve for loan losses below peers. As a percent of
total loans, the loss reserve ratio has increased to a 1.47% level for the year
ended 1997. Though the reserve ratio is presently in the 59th peer percentile,
coverage over nonperforming loans as of September 30, 1997 was well above the
norm in the 87th percentile; management believes the year-end level at 298% to
be ample. The Company's small business loan orientation has historically reduced
the likelihood of large, single borrower charge-offs. Another measure of comfort
to management is that after conservative allocation by specific customer and
loan type, over 14% of loan loss reserves remains available for absorbing
general, unforeseen loan losses.
The annual loan loss provision has characteristically been well in excess of net
charge-offs, which have had coverage of over 1.2 times since 1990. This practice
has enabled a steady increase in the loan loss reserve level, which rose by $4.3
million or 53.0% to an all-time high of $12.4 million at year-end 1997 (includes
a $3.5 million valuation allowance to absorb acquired Key and Fleet loan
charge-offs). As a percentage of average loans, the annual loan loss provision
was well above the peer norm in the 77th percentile as of September 30, 1997.
For full year 1997, the loss provision ratio was .60%, having remained in a .34%
to .48% range during the prior three year period. This upward movement reflects
the need to cover 1997's higher net charge-offs by 125% (excluding those
pertaining to acquired Key and Fleet loans) so as to keep pace with record loan
growth and maintain the loss reserve ratio at an adequate level.
24
SUMMARY OF LOAN LOSS EXPERIENCE
The following table summarizes loan balances at the end of each period indicated
and the daily average amount of loans. Also summarized are changes in the
allowance for possible loan losses arising from loans charged off and recoveries
on loans previously charged off and additions to the allowance which have been
charged to expenses.
---------------------------------------------------------------------------
Years ended December 31,
---------------------------------------------------------------------------
1997 1996 1995 1994 1993
---- ---- ---- ---- ----
(Dollars in thousands)
Amount of loans outstanding at end of
period $845,027 $658,367 $573,620 $510,739 $443,601
-------- -------- -------- -------- --------
Daily average amount of loans (net of
unearned discounts) $749,596 $602,717 $519,762 $446,135 $382,680
-------- -------- -------- -------- --------
Balance of allowance for possible
loan losses at beginning of period 8,128 6,976 6,281 5,706 4,982
Loans charged off:
Commercial, financial, and
agricultural 418 324 454 502 236
Real estate construction 0 0 0 0 0
Real estate mortgage 25 26 48 41 19
Installment 4,006 2,108 1,256 1,072 1,155
-------- -------- -------- -------- --------
Total loans charged off 4,449 2,458 1,758 1,615 1,410
Recoveries of loans previously charged off:
Commercial, financial, and
agricultural 185 224 213 38 85
Real estate construction 0 0 0 0 0
Real estate mortgage 1 1 27 1 1
Installment 541 488 448 449 542
-------- -------- -------- -------- --------
Total recoveries 727 713 688 488 628
Net loans charged off 3,722 1,745 1,070 1,127 782
-------- -------- -------- -------- --------
Additions to allowance charged to
expense (1) 4,480 2,897 1,765 1,702 1,506
-------- -------- -------- -------- --------
Reserves on acquired loans (2) 3,548 0 0 0 0
-------- -------- -------- -------- --------
Balance at end of period $ 12,434 $ 8,128 $ 6,976 $ 6,281 $ 5,706
-------- -------- -------- -------- --------
Ratio of net chargeoffs to average
loans outstanding 0.50% 0.29% 0.21% 0.25% 0.20%
(1) The additions to the allowance during 1993 through 1997 were determined
using actual loan loss experience and future projected loan losses and
other factors affecting the estimate of possible loan losses.
(2) These reserve additions are attributable to loans purchased from Key Bank
and Fleet Bank in association with the purchases of branch offices during
1997.
25
The allowance for possible loan losses has been allocated according to the
amount deemed to be reasonably necessary to provide for the possibility of
losses being incurred within the following categories of loans at the dates
indicated.
-------------------------------------------------------------------------------------------------------------------
Years ended December 31,
-------------------------------------------------------------------------------------------------------------------
1997 1996 1995 1994 1993
--------------------- -------------------- ---------------------- --------------------- -----------------------
Percent Percent Percent Percent Percent
of Loans of Loans of Loans of Loans of Loans
in Each in Each in Each in Each in Each
Amt. of Category Amt. of Category Amt. of Category Amt. of Category Amt. of Category
Allow- to Total Allow- to Total Allow- to Total Allow- to Total Allow- to Total
ance Loans ance Loans ance Loans ance Loans ance Loans
-------- ---------- -------- --------- -------- ---------- -------- --------- ---------- ---------
Commercial,
financial, &
agricultural $ 4,136 19.2% $2,668 18.4% $2,035 17.4% $1,832 15.9% $3,464 15.7%
Real estate--
construction -- -- -- -- -- -- -- -- -- --
Real estate--
mortgage 2,026 44.4% 2,234 44.1% 2,255 45.2% 2,222 47.0 % 341 49.0%
Installment 4,461 36.4% 2,309 37.5% 1,527 37.4% 1,422 37.1% 1,342 35.3%
Unallocated 1,811 N/A 917 N/A 1,159 N/A 805 N/A 559 N/A
Total $12,434 100.0% $8,128 100.0% $6,976 100.0% $6,281 100.0% $5,706 100.0%
FUNDING SOURCES
Typical of most commercial banking institutions today is the need to rely on a
variety of funding sources to support its earning asset base as well as to
achieve targeted growth objectives. There are three primary sources of funding
that comprise CBSI's overall funding matrix, which considers maturity,
stability, and price: deposits of individuals, partnerships and corporations
(IPC deposits); collateralized municipal deposits; and capital market
borrowings.
- ------------------------------------------------------------------------------------------------------------------
Sources of Funds
Average Fourth Quarter Balances
($ millions)
- ------------------------------------------------------------------------------------------------------------------
Total
Funds
Year IPC Deposits Public Funds Capital Borrowings Sources
-------------------------- -------------------------- -------------------------- -------------
Amount % Total Amount % Total Amount % Total Amount
------ ------- ------ ------- ------ ------- ------
1997 $1,190 82.1% $163 11.2% $ 97 6.7% $1,450
1996 $ 903 75.6% $124 10.4% $168 14.1% $1,195
1995 $ 921 86.8% $128 12.6% $ 6 0.6% $1,018
1994 $ 583 71.7% $101 12.4% $129 15.9% $ 813
The Company's funding matrix continues to benefit from a high level of IPC
deposits, which reached an all-time high for a fourth quarter average of $1,190
million, up $287 million or 32% from the comparable 1996 period. IPC deposits
are generally considered to be a bank's most attractive source of funding
because of their general stability and relatively low cost, and because they
represent a working customer base with the potential to be cross-sold a variety
of loan, deposit and other financial service-related products.
Strongly impacting the Company's IPC funding source were the Key and Fleet
branch acquisitions which took place in June and July of this year. These
branches account for approximately $260 million or over 90% of the fourth
quarter growth in IPC deposits. Following initial deposit attrition of a modest
3.3% through year-end 1997, steady acclimation of this new customer base within
the Company will help reduce further erosion of this funding source during 1998.
The mix of CBSI's IPC deposits has changed over the last four years. The steady
growth in time deposit share, from 38% of deposits in 1994 to 49% this year,
reflects consumer movement away from immediately available, lower earning
savings and money market accounts.
26
Deposits of local municipalities increased $39 million or 31% during the past
year, with balances for fourth quarter 1997 averaging $163 million versus $124
million for the same quarter in 1996. The Key and Fleet branch acquisitions
contributed $22 and $27 million, respectively, towards the increase. Excluding
the Key and Fleet branches, the Bank experienced a $10 million or 8% decrease in
municipal deposits. Under New York State Municipal Law, the Company is required
to collateralize all local government deposits with marketable securities from
its investment portfolio. Because of this stipulation, management considers this
source of funding to be equivalent to capital market borrowings. As such, CBSI
endeavors to price these deposits at or below alternative capital market
borrowing rates. Utilization of municipal deposits has gradually been decreasing
over the last four years as a percent of total funding sources.
Capital market borrowings are defined as funding sources available on a national
market basis, generally requiring some form of collateralization. Borrowing
sources for the Company include the Federal Home Loan Bank of New York, as well
as access to the national repurchase agreement market through established
relationships with primary market security dealers. Also considered borrowing
(though it serves as Tier I capital) is the $30 million in 9.75%
company-obligated mandatorily redeemable preferred securities issued to support
1997's acquisitions. Capital market borrowings averaged $98 million or 7% of
total funding sources for fourth quarter 1997 compared to $168 million or 14% of
total funding sources for the same period in 1996. The lower level of borrowings
in 1997 is largely due to the net proceeds from the Key and Fleet transaction
being utilized to repay borrowings. As of December 31, 1997, nearly half or $60
million of capital market borrowings (excluding the aforementioned trust
preferred securities) had original terms of one year or more.
The average daily amount of deposits and the average rate paid on each of the
following deposit categories is summarized below for the years indicated.
1997 1996 1995
--------------------------- ---------------------------- ------------------------------
Avg. Avg. Avg. Avg. Avg. Avg.
(000's omitted) Balance Rate Paid Balance Rate Paid Balance Rate Paid
-------------- ------------ -------------- ------------ --------------- --------------
Noninterest-bearing demand
deposits $ 170,989 N/A $ 143,995 N/A $ 123,952 N/A
Interest-bearing demand
deposit 119,769 1.38% 100,278 1.40% 83,812 1.66%
Regular savings accounts 247,330 2.91% 241,199 2.87% 211,867 3.01%
Money market savings 76,567 2.76% 65,448 2.48% 70,925 2.77%
Time deposits 599,136 5.61% 481,250 5.49% 380,494 5.53%
---------- ---------- ----------
Total average daily
amount of domestic
deposits $1,213,791 3.67% $1,032,170 3.53% $ 871,050 3.53%
========== ========== ==========
The remaining maturities of time deposits in amounts of $100,000 or more
outstanding at December 31, 1997 and 1996 are summarized below:
------------------------------
At December 31,
------------------------------
(000's omitted) 1997 1996
---- ----
Less than three months $33,240 $47,556
Three months to six months 29,420 9,944
Six months to one year 19,340 7,856
Over one year 11,439 3,558
------- -------
Total $93,439 $68,914
======= =======
27
The following table summarizes the outstanding balance of short-term borrowings
of the Company for the years indicated.
At December 31,
--------------------------------------------------------
(000's omitted) 1997 1996 1995
----------------- ----------------- -----------------
Federal funds purchased $ 45,000 $31,800 $ --
--
Term borrowings at banks (original term)
90 days or less 20,000 -- --
1 year -- 65,000 --
-------- ------- --------
Balance at end of period $ 65,000 $96,800 $ --
======== ======= ========
Daily average during the year $ 45,008 $46,535 $ 85,407
Maximum month-end balance $128,000 $96,800 $188,200
Weighted average rate during the year 5.74% 5.63% 6.29%
Year-end average rate 6.53% 6.07% 0.00%
INVESTMENTS
The primary objective of CBSI's investment portfolio is to prudently provide a
degree of low-risk, quality assets to the balance sheet. This must be
accomplished within the constraints of: (a) absorbing funds when loan demand is
low and infusing funds when demand is high; (b) implementing certain interest
rate risk management strategies which achieve a relatively stable level of net
interest income; (c) providing both the regulatory and operational liquidity
necessary to conduct day-to-day business activities; (d) considering investment
risk-weights as determined by regulatory risk-based capital guidelines; and (e)
generating a favorable return without undue compromise of other requirements.
When choosing an appropriate investment for balance sheet management, the
applied analytical method favored by the Company is total return. While the type
of strategy considered ultimately determines the scope of analysis performed,
management commonly tests the performance of its investment purchases over a one
and three year forward time horizon, under conditions which include interest
rate movements of up or down 300 basis points from current levels. It is through
this methodology that prepayment risk, embedded option risk, and market value
risk can be properly quantified by the Company.
Throughout 1997, the balance sheet of the Company exhibited a structurally asset
sensitive profile, in large part due to the influence of the Key and Fleet
branch deposit acquisitions consummated in mid summer of this year. As a result,
investment strategies pursued were primarily designed to manage this asset
sensitive interest rate risk exposure, with a focus on improving the relative
performance of net interest income in both rising and falling interest rate
environments.
Among the strategies employed by the Company during 1997 were the purchase of
fixed rate U.S callable agency debentures with three to five years of initial
call protection, as well as premium U.S. agency collateralized mortgage
obligations (CMOs). In addition, a number of longer-dated insured municipal
bonds were added to the portfolio because of their favorable risk/reward profile
when compared to other investment alternatives.
Total portfolio growth slowed to 5.8% during the past year as many of the
Company's capital resources were redirected towards funding growth in the loan
portfolio. As such, much of the 1997 portfolio activity was the result of a
reinvestment of funds from mortgage backed security prepayments and callable
bond proceeds. Total portfolio outstandings as of December 31, 1997 were $612
million as compared to $579 million as of year-end 1996.
The composition of the portfolio continues to favor U.S. Governments and U.S.
Agency mortgage-backed obligations, achieving effective use of regulatory
risk-based capital. At December 31, 1997, these two security types (excluding
Federal Home Loan Bank stock and Federal Reserve Bank stock) accounted for 96%
of total portfolio investments versus 97% in the prior year.
The average life of the portfolio, including the exercise of embedded call
options, increased slightly to 3.6 years as of year end. The increase reflects
$87 million in agency bonds called this year, which resulted in $696,000 of bond
discount accretion being taken into income; $221,000 was earned in 1996 on a
$2.8 million called bond. This source of nonrecurring income added 11 basis
points in average yield to the portfolio (excluding money market instruments) to
7.63% compared to 7.57% in 1996, which was higher by 10 basis points due to bond
discount accretion and another favorable nonrecurring item. Through September
30, 1997, the portfolio's reported average yield at 7.64% was in the 92nd
percentile based on the peer median of 6.74%.
Net losses on the sale of securities were $14,000 in 1997 versus gains of
$32,000 in 1996. Gains and losses incurred by the portfolio are the result of
normal investment management activity, which focuses on improving long-term
portfolio earnings and market value performance.
28
INVESTMENT SECURITIES
The following table sets forth the amortized cost and market value for the
Company's held-to-maturity investment securities portfolio:
Years ended December 31,
------------------------------------------------------------------------------------
1997 1996 1995
------------------------------------------------------------------------------------
Amortized Amortized Amortized
Cost/Book Market Cost/Book Market Cost/Book Market
(000's omitted) Value Value Value Value Value Value
------------ ---------- ------------- ----------- ----------- ----------
U.S. Treasury securities
and obligations
of U.S. Government
corporations and agencies $164,199 $168,799 $248,264 $254,437 $202,802 $212,415
Obligations of states and
political subdivisions 10,221 10,575 17,796 18,292 15,409 16,077
Corporate securities 3,091 3,201 2 2 2 2
Mortgage-backed securities 86,148 88,838 103,795 105,765 97,593 99,848
-------- -------- -------- -------- -------- --------
TOTAL $263,659 $271,413 $369,857 $378,496 $315,806 $328,342
======== ======== ======== ======== ======== ========
The following table sets forth the amortized cost and market value for the
Company's available-for-sale investment portfolio.
Years ended December 31,
----------------------------------------------------------------------------------
1997 1996 1995
-------------------------- ----------------------------- -------------------------
Amortized Amortized Amortized
Cost/Book Market Cost/Book Market Cost/Book Market
(000's omitted) Value Value Value Value Value Value
------------ ---------- ------------- ----------- ----------- -----------
U.S. Treasury securities
and obligations
of U.S. Government
corporations and agencies $ 82,027 $ 84,730 $ 39,684 $ 40,005 $ 32,334 $ 32,695
Obligations of states and
political subdivisions 9,960 10,310 437 452 435 459
Corporate securities 0 0 0 0 0 73
Mortgage-backed securities 225,693 227,350 145,276 146,555 96,326 97,595
Equity securities (1) 23,669 23,669 20,282 20,282 20,070 20,008
Federal Reserve Bank common stock 2,174 2,174 1,403 1,403 1,396 1,396
-------- -------- -------- -------- -------- --------
TOTAL $343,523 $348,233 $207,082 $208,697 $150,561 $152,226
======== ======== ======== ======== ======== ========
Net unrealized gains/(losses) on
available-for-sale portfolio 4,710 1,614 1,665
-------- -------- --------
Total Carrying Value $611,892 $578,553 $468,032
======== ======== ========
(1) Includes $23,059; $19,709; and $19,678 in FHLB common stock at December 31,
1997, 1996, and 1995, respectively.
29
The following table sets forth as of December 31, 1997, the maturities of
investment securities and the weighted-average yields of such securities, which
have been calculated on the basis of the cost, weighted for scheduled maturity
of each security, and adjusted to a fully tax-equivalent basis:
At December 31, 1997
-------------------------------------------------------------------------------
Amount Amount
Amount Maturing Maturing
Maturing After One After Five Amount Total
Within Year but Years but Maturing Cost
One Year Within Within After Book
or Less Five Years Ten Years Ten Years Value
-------------------------------------------------------------------------------
Held-to-Maturity Portfolio
- --------------------------
U.S. Treasury and other
U.S. government agencies $ 5 $ 9,874 $129,978 $ 24,341 $164,198
Mortgage-backed securities 0 3,293 41,863 40,993 86,149
States and political subdivisions 4,811 5,257 153 0 10,221
Other 0 52 2,492 547 3,091
------ ------- -------- -------- --------
Total held-to-maturity portfolio value $4,816 $18,476 $174,486 $ 65,881 $263,659
====== ======= ======== ======== ========
Weighted average yield at year end (1) 8.95% 8.81% 7.58% 8.02% 7.80%
Available-for-Sale Portfolio:
- -----------------------------
U.S. Treasury and other
U.S. government agencies $ -- $ 6,007 $ 45,615 $ 30,406 $ 82,028
Mortgage-backed securities 1,953 1,414 18,093 204,232 225,692
States and political subdivisions 10 249 30 9,671 9,960
Other 0 0 0 0 --
------ ------- -------- -------- --------
Total available-for-sale portfolio value $1,963 $ 7,670 $ 63,738 $244,309 $317,680
Weighted average yield at year end (1) 8.20% 5.91% 7.53% 7.30% 7.32%
(1) Weighted average yields on the tax-exempt obligations have been computed on
a fully tax equivalent basis assuming a marginal federal tax rate of 35%. These
yields are an arithmetic computation of accrued income divided by average
balance; they may differ from the yield to maturity, which considers the time
value of money.
MARKET RISK
Market risk is the risk of loss in a financial instrument arising from adverse
changes in market rates or prices such as interest rates, foreign currency
exchange rates, commodity prices, and equity prices. The Company's primary
market risk exposure is interest rate risk. The ongoing monitoring and
management of this risk is an important component of the Company's
asset/liability management process, which is governed by policies established by
its Board of Directors that are reviewed and approved annually. The Board of
Directors delegates responsibility for carrying out the asset/liability
management policies to the Asset/Liability Committee (ALCO) of the Company. In
this capacity, ALCO develops guidelines and strategies impacting the Company's
asset/liability management activities based upon estimated market risk
sensitivity, policy limits, and the overall level and trend of market interest
rates.
30
INTEREST RATE RISK
At Community Bank, N.A., the fundamental purpose behind interest rate risk
management is to maximize net interest income over both a short-term tactical
and longer-term strategic time horizon. Because the Company does not believe it
is possible to reliably predict future interest rate movements, it has
maintained an appropriate process and set of measurement tools which enable it
to identify and quantify its sources of interest rate risk.
The primary tool used by the Company in managing interest rate risk is income
simulation. The analysis begins by measuring the impact of differences in
maturity and repricing of all balance sheet positions. Such work is further
augmented by adjusting for prepayment and embedded option risk found naturally
in certain asset and liability classes. Finally, balance sheet growth and
funding expectations are added to the analysis in order to reflect the strategic
initiatives set forth by the Company.
Changes in net interest income are reviewed after subjecting the balance sheet
to an array of treasury yield curve possibilities including the traditional
regulatory requirement of an immediate up or down shock of 200 basis points from
current levels. While such an aggressive movement in rates provides management
with good insight as to how its profit margins may perform under extreme market
conditions, results from a more modest shift in interest rates are used as a
basis to conduct day-to-day business decisions.
The following reflects the Company's one year net interest income sensitivity
analysis as of December 31, 1997 assuming a step up or down in rates over a
twelve-month period (one of the simulation tests used for day-to-day decision
making). In addition, this test assumes a static, no growth balance sheet:
Rate Change Estimated
Basis Points Net Interest Income Sensitivity
------------ -------------------------------
+ 200 1.4%
- 200 -5.0%
The preceding sensitivity analysis does not represent a Company forecast and
should not be relied upon as being indicative of expected operating results.
These hypothetical estimates are based upon numerous assumptions including: the
nature and timing of interest rate levels including yield curve shape,
prepayments on loans and securities, deposit decay rates, pricing decisions on
loans and deposits, reinvestment/replacement of asset and liability cashflows,
and others. While the assumptions are developed based upon current economic and
local market conditions, the Company cannot make any assurances as to the
predictive nature of these assumptions including how customer preferences or
competitor influences might change.
Also, as market conditions vary from those assumed in the sensitivity analysis,
actual results will also differ due to: prepayment/refinancing levels likely
deviating from those assumed, the varying impact of interest rate changes on
caps and floors of adjustable rate assets, the potential effect of changing debt
service levels on customers with adjustable rate loans, depositor early
withdrawals and product preference changes, and other internal/external
variables. Furthermore, the sensitivity analysis does not reflect actions that
ALCO might take in responding to or anticipating changes in interest rates.
LIQUIDITY
Due to the potential for unexpected fluctuations in deposits and loans, active
management of the Company's liquidity is critical. In order to respond to these
circumstances, adequate sources of both on- and off-balance-sheet funding are in
place.
CBSI's primary approach to measuring liquidity is known as the Basic
Surplus/Deficit model. It is used to calculate liquidity over two time periods:
first, the relationship within 30 days between liquid assets and short-term
liabilities which are vulnerable to nonreplacement; and second, a projection of
subsequent cash flow funding needs over an additional 60 days. The minimum
policy level of liquidity under the Basic Surplus/Deficit approach is 7.5% of
total assets for both the 30 and 90 day time horizons. As of year-end 1997, this
ratio was 13.9% and 12.6%, respectively.
31
GAP REPORT
COMMUNITY BANK SYSTEM, INC. AND SUBSIDIARIES
as of December 31, 1997
Volumes 1-30 31-60 60-90 91-180 181-360 13-24 25-36 37-48 49-60 Over 60
($000's) Days Days Days Days Days Months Months Months Months Months TOTAL
- ------------------------------------------------------------------------------------------------------------------------------------
ASSETS:
Due from banks - - - - - - - - - 82,106 82,106
Fixed Rate Debentures - - - 10,000 20,932 120,720 9,874 71,839 550 2,499 236,414
Floating Rate Debentures 6,006 6,006
Fixed Rate Mortgage
Backed 3,109 3,871 3,214 9,887 20,405 44,044 41,538 29,230 25,406 100,361 281,065
Floating Rate Mortgage
Backed 21,431 - - - - - - - - - 21,431
Other Investments 321 567 301 2,580 2,912 4,545 3,967 4,215 888 41,970 62,266
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL INVESTMENTS 30,867 4,438 3,515 22,467 44,249 169,309 55,379 105,284 26,844 226,936 689,288
- ------------------------------------------------------------------------------------------------------------------------------------
Mortgages:
Adjustable Rate 1,724 2,014 3,815 5,775 17,489 - - - - - 30,817
Fixed Rate 2,728 2,708 2,758 7,890 15,010 27,184 23,914 21,204 18,693 28,217 150,306
Variable Home Equity 49,373 - - - - - - - - - 49,373
Commercial Variable 205,931 - - - - - - - - - 205,931
Other Commercial 5,014 5,054 5,094 15,527 32,177 27,726 - - - 64 90,656
Installment, Net 15,939 15,900 15,863 47,360 93,733 120,134 - - - 7,199 316,128
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL LOANS 280,709 25,676 27,530 76,552 158,409 175,044 23,914 21,204 18,693 35,480 843,211
Loan Loss Reserve - - - - - - - - - (12,434) (12,434)
Other Assets 397 397 397 1,191 2,382 4,764 4,764 1,588 1,390 96,406 113,676
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL ASSETS 311,973 30,511 31,442 100,210 205,040 349,117 84,057 128,076 46,927 346,389 1,633,742
AVERAGE YIELD 9.76% 8.85% 8.82% 8.79% 8.71% 8.33% 7.22% 7.45% 7.52% 3.17% 7.39%
====================================================================================================================================
LIABILITIES AND CAPTIAL:
Demand Deposits - - - - - - - - - 202,573 202,573
Savings / NOW 1,578 1,578 1,578 4,735 22,521 18,940 - - - 355,904 406,834
Money Markets - - - 63,207 22,160 - - - - - 85,367
CD's / IRA / Other 35,910 35,263 41,752 123,676 191,663 166,602 34,538 12,808 7,014 1,684 650,910
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL DEPOSITS 37,488 36,841 43,330 191,618 236,344 185,542 34,538 12,808 7,014 560,161 1,345,684
Short Term Borrowings 65,000 - - - - - - - - - 65,000
Term Borrowing - - - - 35,000 - 15,000 - 10,000 - 60,000
Trust Securities - - - - - - - - - 29,804 29,804
Other Liabilities - - - - - - - - - 15,241 15,241
Capital - - - - - - - - - 118,013 118,013
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL LIABILITIES
AND CAPITAL 102,488 36,841 43,330 191,618 271,344 185,542 49,538 12,808 17,014 723,219 1,633,742
AVERAGE RATE 5.60% 5.28% 5.38% 4.67% 5.15% 5.52% 6.06% 5.87% 6.13% 1.53% 3.61%
====================================================================================================================================
GAP 209,485 (6,330) (11,888) (91,408) (66,304) 163,575 34,519 115,268 29,913 (376,830)
CUMULATIVE GAP 209,485 203,155 191,267 99,859 33,555 197,130 231,649 346,917 376,830 0
CUMULATIVE GAP /
TOTAL ASSETS 12.82% 12.43% 11.71% 6.11% 2.05% 12.07% 14.18% 21.23% 23.07% 0.00%
Note:
IPC=Accounts of individuals, partnerships, and corporations.
Public=Accounts of U.S. government, state, and local municipalities.
85% of IPC savings are treated as core (>60 months). 100% of Public Fund Savings
are treated as 181-360 days. 95% of IPC Money Markets are treated as core
(91-180 days). 100% of Public Fund Money Markets are treated as 181-360 days.
15% of IPC Savings are spread over 24 months, and 5% of IPC Money Markets are in
181-360 days.
Totals may not foot due to rounding.
32
EFFECTS OF INFLATION
The financial statements and related data presented herein have been prepared in
accordance with generally accepted accounting principals 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 inflation.
Virtually all of the assets and liabilities of the Company are monetary in
nature. As a result, interest rate changes have a more significant impact on the
Company's performance than the effects of general levels of inflation.
YEAR 2000
Our Company is keenly aware of the challenges presented by Year 2000 Business
Risk compliance. We have established a task force comprised of key personnel to
define and coordinate the Year 2000 effort. CBSI has adopted the five elements
outlined by its banking regulators: Awareness, Assessment, Renovation,
Validation, and Implementation. It is anticipated that complete review and
verification of our internal systems, as well as those of our major service
providers, will be accomplished by December 31, 1998.
NEW ACCOUNTING PRONOUNCEMENTS
In June 1997, the Financial Accounting Standards Board ("FASB") issued SFAS No.
130, "Reporting Comprehensive Income." This Statement will require the Company
to report comprehensive income in its financial statements issued after December
31, 1997. For the Company, comprehensive income is determined by adding
unrealized investment holding gains or losses during the period to net income.
Also in June 1997, the FASB issued SFAS No. 131, "Disclosures about Segments of
an Enterprise and Related Information." This Statement requires companies to
disclose financial and descriptive information about its reportable business
segments. Management believes the Company only operates in one segment, which is
the banking segment. Therefore, disclosures required under this pronouncement
will not affect the financial statements of the Company.
The following consolidated financial statements and auditor's reports of
Community Bank System, Inc. and subsidiaries are contained on pages 34 through
54 of this item.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
- - Consolidated Statements of Condition--
December 31, 1997 and 1996
- - Consolidated Statements of Income -
Years ended December 31, 1997, 1996, and 1995
- - Consolidated Statements of Changes in Shareholder's Equity -
Years ended December 31, 1997, 1996, and 1995
- - Consolidated Statements of Cash Flows -
Years ended December 31, 1997, 1996, and 1995
- - Notes to Consolidated Financial Statements -
December 31, 1997
- - Auditor's Report
Quarterly Selected Data (Unaudited) for 1997 and 1996 are contained on page 55
33
CONSOLIDATED STATEMENTS OF CONDITION
COMMUNITY BANK SYSTEM, INC. AND SUBSIDIARIES
December 31, December 31,
1997 1996
- ---------------------------------------------------------------------------------------------------------------------------
ASSETS
Cash and due from banks $ 82,106,403 $ 52,534,726
Federal funds sold 0 0
- ---------------------------------------------------------------------------------------------------------------------------
Total cash and cash equivalents 82,106,403 52,534,726
Investment securities
(approximate fair value of $619,646,000 and $587,193,000) $ 611,891,978 578,553,291
Loans 843,211,857 652,473,875
Reserve for possible loan losses 12,433,812 8,127,752
- ---------------------------------------------------------------------------------------------------------------------------
Net loans 830,778,045 644,346,123
Premises and equipment, net 23,649,279 16,782,034
Accrued interest receivable 13,392,818 10,790,071
Intangible assets, net 58,671,755 31,241,489
Other assets 13,251,973 9,616,928
- ---------------------------------------------------------------------------------------------------------------------------
TOTAL ASSETS $1,633,742,251 $1,343,864,662
===========================================================================================================================
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities:
Deposits
Noninterest bearing $ 202,573,162 $ 144,351,214
Interest bearing 1,143,112,796 882,862,042
- ---------------------------------------------------------------------------------------------------------------------------
Total deposits 1,345,685,958 1,027,213,256
Federal funds purchased 45,000,000 31,800,000
Borrowings 80,000,000 165,000,000
Mandatorily redeemable capital securities of subsidiary 29,803,688
Accrued interest and other liabilities 15,240,622 10,499,179
- ---------------------------------------------------------------------------------------------------------------------------
Total liabilities 1,515,730,268 1,234,512,435
- ---------------------------------------------------------------------------------------------------------------------------
Shareholders' equity:
Preferred stock $1 par, $100 stated value
500,000 shares authorized
45,000 shares issued and 0 and 45,000 outstanding 0 4,500,000
Common stock no par $1.00 stated value for 1997; $1.25
par for 1996; 20,000,000 and 5,000,000 shares authorized for 1997
and 1996, respectively; 7,586,512 and 7,474,406 (adjusted for stock
split and change in par value) shares issued and
outstanding for 1997 and 1996, respectively. 7,586,512 4,671,504
Surplus 32,401,331 33,584,773
Undivided profits 75,335,527 65,691,025
Unrealized gains on available for sale securities, net 2,778,913 947,853
Shares issued under employee stock plan - unearned (90,300) (42,928)
- ---------------------------------------------------------------------------------------------------------------------------
Total shareholders' equity 118,011,983 109,352,227
- ---------------------------------------------------------------------------------------------------------------------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $1,633,742,251 $1,343,864,662
===========================================================================================================================
The accompany notes are an integral part of the consolidated financial
statements.
34
CONSOLIDATED STATEMENTS OF INCOME
COMMUNITY BANK SYSTEM, INC. AND SUBSIDIARIES
Years Ended December 31,
1997 1996 1995
- ----------------------------------------------------------------------------------------------------------------------------------
INTEREST INCOME:
Interest and fees on loans $71,562,755 $56,931,658 $49,927,725
Interest and dividends on investments:
U.S. Treasury 269,240 493,117 993,238
U.S. Government agencies and corporations 23,767,244 21,169,844 15,699,390
States and political subdivisions 964,917 1,010,860 1,082,381
Mortgage-backed securities 18,317,165 16,074,631 13,081,731
Other securities 1,879,799 1,672,300 1,180,775
Interest on federal funds sold and deposits with other banks 867,046 336,002 1,421,785
- ----------------------------------------------------------------------------------------------------------------------------------
Total interest income 117,628,166 97,688,412 83,387,025
- ----------------------------------------------------------------------------------------------------------------------------------
INTEREST EXPENSE:
Interest on deposits 44,590,208 36,383,486 30,772,056
Interest on federal funds purchased 698,859 1,152,922 1,118,220
Interest on short-term borrowings 1,884,314 1,465,894 4,257,866
Interest on long-term borrowings 7,578,370 3,420,155 158,756
- ----------------------------------------------------------------------------------------------------------------------------------
Total interest expense 54,751,751 42,422,457 36,306,898
- ----------------------------------------------------------------------------------------------------------------------------------
Net interest income 62,876,415 55,265,955 47,080,127
Less: Provision for possible loan losses 4,480,000 2,897,068 1,765,148
- ----------------------------------------------------------------------------------------------------------------------------------
Net interest income after provision for loan losses 58,396,415 52,368,887 45,314,979
- ----------------------------------------------------------------------------------------------------------------------------------
OTHER INCOME:
Fiduciary and investment services 1,725,084 1,522,653 1,446,898
Service charges on deposit accounts 5,054,542 4,037,150 3,326,274
Commissions on investment products 1,001,588 782,178 473,101
Other service charges, commissions and fees 2,397,375 1,719,251 1,323,026
Other operating income 1,643,151 780,834 140,720
Investment security gain (loss) (13,881) 32,394 (152,375)
- ----------------------------------------------------------------------------------------------------------------------------------
Total other income 11,807,859 8,874,460 6,557,644
- ----------------------------------------------------------------------------------------------------------------------------------
OTHER EXPENSES:
Salaries and employee benefits 22,944,801 19,247,336 16,756,706
Occupancy expense, net 3,426,189 3,073,107 2,608,104
Equipment and furniture expense 2,727,739 2,318,489 1,991,541
Amortization of intangible assets 3,702,850 2,728,886 1,569,478
Other 12,997,062 10,082,166 10,092,890
- ----------------------------------------------------------------------------------------------------------------------------------
Total other expenses 45,798,641 37,449,984 33,018,719
- ----------------------------------------------------------------------------------------------------------------------------------
Income before income taxes 24,405,633 23,793,363 18,853,904
Income taxes 8,844,127 9,660,319 7,384,000
- ----------------------------------------------------------------------------------------------------------------------------------
NET INCOME $15,561,506 $14,133,044 $11,469,904
==================================================================================================================================
EARNINGS PER COMMON SHARE - BASIC $2.05 $1.85 $1.72
==================================================================================================================================
EARNINGS PER COMMON SHARE - DILUTED $2.02 $1.83 $1.70
==================================================================================================================================
The accompany notes are an integral part of the consolidated financial
statements.
35
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
COMMUNITY BANK SYSTEM, INC. AND SUBSIDIARIES
YEARS ENDED DECEMBER 31, 1995, 1996 AND 1997
COMMON
SHARES UNREALIZED
ISSUED NET GAINS
UNDER (LOSSES) ON
PREFERRED COMMON STOCK EMPLOYEE AVAILABLE-
---------------------- UNDIVIDED STOCK PLAN FOR-SALE
STOCK SHARES AMOUNT SURPLUS PROFITS -UNEARNED SECURITIES TOTAL
- ------------------------------------------------------------------------------------------------------------------------------------
Balance at January 1, 1995 5,576,300 $3,485,187 $14,885,096 $49,853,313 ($3,667) ($1,930,414) $66,289,515
Net income - 1995 11,469,904 11,469,904
Cash dividends:
Preferred, $9.00
per share (253,125) (253,125)
Common, $0.62 per
share (3,990,591) (3,990,591)
Issuance of preferred
stock $9,000,000 9,000,000
Repurchase of preferred
stock (4,500,000) (4,500,000)
Issuance of common stock 1,725,000 1,078,125 17,364,533 18,442,658
Common stock issued
under employee
stock plan 57,950 36,219 705,644 (47,846) 694,017
Market value adjustment
on available-for-sale
investments 2,907,871 2,907,871
- ------------------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1995 4,500,000 7,359,250 4,599,531 32,955,273 57,079,501 (51,513) 977,457 100,060,249
Net income - 1996 14,133,044 14,133,044
Cash dividends:
Preferred, $9.00 per
share (405,000) (405,000)
Common, $0.69 per
share (5,116,520) (5,116,520)
Common stock issued
under employee stock plan 33,906 21,192 554,817 8,585 584,594
Common stock issued
in acquisition 81,250 50,781 74,683 125,464
Market value adjustment
on available-for-sale
investments (29,604) (29,604)
- ------------------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1996 4,500,000 7,474,406 4,671,504 33,584,773 65,691,025 (42,928) 947,853 109,352,227
Net income - 1997 15,561,506 15,561,506
Cash dividends:
Preferred, $9.00 per
share (180,000) (180,000)
Common, $0.76 per
share (5,737,004) (5,737,004)
Preferred stock redeemed (4,500,000) (180,000) (4,680,000)
Common stock issued
under employee
stock plan 112,106 95,660 1,815,906 (47,372) 1,864,194
Change in par value 0 2,819,348 (2,819,348) 0
Market value adjustment
on available-for-sale
investments 1,831,060 1,831,060
- ------------------------------------------------------------------------------------------------------------------------------------
BALANCE AT DECEMBER 31, 1997 $ 0 7,586,512 $7,586,512 $32,401,331 $75,335,527 (90,300) $2,778,913 118,011,983
====================================================================================================================================
36
CONSOLIDATED STATEMENTS OF CASH FLOWS
COMMUNITY BANK SYSTEM, INC. AND SUBSIDIARIES
FOR TWELVE MONTHS ENDED DECEMBER 31, 1997, 1996, AND 1995
1997 1996 1995
- -----------------------------------------------------------------------------------------------------------------------
OPERATING ACTIVITIES:
Net income $ 15,561,506 $ 14,133,044 $ 11,469,904
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation 2,130,434 1,948,619 1,618,205
Net amortization of intangible assets 3,702,850 2,728,886 1,569,477
Net accretion of security premiums and discounts 8,005 (1,690,528) (1,422,859)
Provision for loan losses 4,480,000 2,897,068 1,765,148
Provision for deferred taxes (223,394) (1,840,573) (99,586)
(Gain)\Loss on sale of investment securities 13,881 (32,394) 152,375
(Gain)\Loss on sale of loans and other assets (158,033) (91,780) (140,720)
Change in interest receivable (2,602,746) (1,639,568) (2,493,177)
Change in other assets and other liabilities 1,750,674 1,254,964 (679,527)
Change in unearned loan fees and costs (883,108) (659,412) (225,949)
- -----------------------------------------------------------------------------------------------------------------------
Net cash Provided by operating activities 23,780,069 17,008,326 11,513,291
- -----------------------------------------------------------------------------------------------------------------------
INVESTING ACTIVITIES:
Proceeds from sales of investment securities 51,916,026 15,803,016 4,125,000
Proceeds from maturities of held to maturity investment securities 114,946,856 77,849,167 35,575,390
Proceeds from maturities of available for sale investment 13,507,367 27,014,893 28,579,113
securities
Purchases of held to maturity investment securities (7,989,300) (130,151,635) (97,175,179)
Purchases of available for sale investment securities (202,645,932) (99,364,521) (54,418,605)
Net change in loans outstanding (103,025,001) (93,336,338) (64,934,240)
Loans purchased in branch acquisition (86,800,537) 0 (12,835,406)
Capital expenditures (9,042,922) (1,775,188) (8,831,705)
Proceeds from sales of capital assets 0 0 939,922
Premium paid for branch acquisitions (31,133,116) 0 (29,621,013)
- -----------------------------------------------------------------------------------------------------------------------
Net cash used by investing activities (260,266,559) (203,960,606) (198,596,723)
- -----------------------------------------------------------------------------------------------------------------------
FINANCING ACTIVITIES:
Net change in demand deposits, NOW accounts, and savings accounts (6,835,157) (22,671,180) (58,313,216)
Net change in certificates of deposit 15,967,588 32,938,212 13,045,466
Deposits assumed in branch acquisition 309,340,271 0 382,576,350
Net change in Federal Funds purchased 13,200,000 171,800,000 25,000,000
Net change in term borrowings (85,000,000) (550,000) (162,300,000)
Issuance of mandatorily redeemable capital securities of subsidiary 29,803,688 0 0
Debt issuance costs (1,222,041) 0 0
Issuance (retirement) of common and preferred stock (3,451,047) 457,142 23,321,763
Cash dividends (5,745,135) (5,390,271) (3,866,017)
- -----------------------------------------------------------------------------------------------------------------------
Net cash provided by financing activities 266,058,167 176,583,903 219,464,346
- -----------------------------------------------------------------------------------------------------------------------
CHANGE IN CASH AND CASH EQUIVALENTS 29,571,677 (10,368,377) 32,380,914
Cash and cash equivalents at beginning of year 52,534,726 62,903,103 30,522,189
- -----------------------------------------------------------------------------------------------------------------------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 82,106,403 $ 52,534,726 $ 62,903,103
=======================================================================================================================
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid for interest $ 52,235,280 $ 42,090,983 $ 35,002,244
=======================================================================================================================
Cash paid for income taxes $ 9,716,995 $ 10,654,673 $ 7,635,999
=======================================================================================================================
SUPPLEMENTAL DISCLOSURE OF NONCASH FINANCING AND INVESTING
ACTIVITIES:
Dividends declared and unpaid $ 1,517,262 $ 1,345,393 $ 1,214,144
=======================================================================================================================
The accompanying notes are an integral part of the consolidated financial
statements.
37
COMMUNITY BANK SYSTEM, INC. AND SUBSIDIARIES
NOTE A: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
NATURE OF OPERATIONS
Community Bank System, Inc. (the Company) is a one bank holding company which
wholly owns two active operating subsidiaries, Community Bank, N.A. (the Bank)
and Benefit Plans Administrative Services, Inc. (BPA). In addition, the Company
wholly owns a subsidiary trust and one inactive subsidiary. The Bank operates 67
customer facilities throughout Northern New York, the Finger Lakes Region, the
Southern Tier, and Southwestern New York. It provides individual, business,
agricultural, and government customers with a complete range of banking
services, including qualified retirement plan administration, investment
management, and personal trust services; retail and commercial loan and deposit
products, and nondeposit annuities and investment products. BPA, located in
Utica, New York, provides pension administration and actuarial services to
various customers throughout New York State. The Bank wholly owns one nonbanking
subsidiary, CBNA Treasury Management Corporation (TMC). TMC operates the cash
management, investment, and treasury functions of the Bank. During 1997, the
Company formed a subsidiary business trust, Community Capital Trust I, for the
purpose of issuing manditorily redeemable convertible securities, which are
considered Tier I capital under regulatory capital adequacy requirements. (see
Note Q).
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of the Company and
its wholly-owned subsidiaries: the Bank and its subsidiary TMC; BPA, and a
currently inactive nonbanking subsidiary. All intercompany accounts and
transactions have been eliminated in consolidation.
USE OF ESTIMATES IN THE PREPARATION OF FINANCIAL STATEMENTS
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
CASH AND CASH EQUIVALENTS
For purposes of reporting cash flows, cash and cash equivalents include cash on
hand, amounts due from banks and federal funds sold. Generally, federal funds
are sold for one-day periods. The carrying amounts reported in the balance sheet
for cash and cash equivalents approximate those assets' fair values.
INVESTMENT SECURITIES
The Company has classified its investments in debt and equity securities as
held-to-maturity or available-for-sale. Held-to-maturity securities are those
for which the Company has the positive intent and ability to hold to maturity,
and are reported at cost, which is adjusted for amortization of premiums and
accretion of discounts. Debt securities not classified as held-to-maturity are
classified as available-for-sale and are reported at fair market value with net
unrealized gains and losses reflected as a separate component of shareholders'
equity, net of applicable income taxes. None of the Company's investment
securities has been classified as trading securities.
The average cost method is used in determining the realized gains and losses on
sales of investment securities, which are reported under other income as
investment security gains (losses). Premiums and discounts on securities are
amortized and accreted, respectively, on a systematic basis over the period to
maturity, estimated life, or earliest call date of the related security.
Fair values for investment securities are based on quoted market prices, where
available. If quoted market prices are not available, fair values are based on
quoted market prices of comparable instruments.
LOANS
Loans are stated at unpaid principal balances. Fair values for variable rate
loans that reprice frequently, with no significant credit risk, are based on
carrying values. Fair values for fixed rate loans are estimated using discounted
cash flows and interest rates currently being offered for loans with similar
terms to borrowers of similar credit quality. The carrying amount of accrued
interest approximates its fair value.
INTEREST ON LOANS AND RESERVE FOR POSSIBLE LOAN LOSSES
Interest on commercial loans and mortgages is accrued and credited to operations
based upon the principal amount outstanding. Unearned discount on installment
loans is recognized as income over the term of the loan, principally by the
38
actuarial method. Nonrefundable loan fees and related direct costs are deferred
and amortized over the life of the loan as an adjustment to loan yield using the
effective interest method.
The Bank places a loan on nonaccrual status and recognizes income on a cash
basis when it is more than ninety days past due (or sooner, if management
concludes collection of interest is doubtful), except when, in the opinion of
management, it is well-collateralized and in the process of collection.
The reserve for possible loan losses is maintained at a level considered
adequate to provide for potential loan losses. The reserve is increased by
provisions charged to expense and reduced by net charge-offs. The level of the
reserve is based on management's evaluation of potential losses in the loan
portfolio, as well as prevailing economic conditions. A loan is considered
impaired, based current information and events, if it is probable that the Bank
will not be able to collect the scheduled payments of principal or interest when
due according to the contractual terms of the loan agreement. The measurement of
impaired loans is generally based on the present value of expected future cash
flows discounted at the historical effective interest rate, except that all
collateral-dependent loans are measured for impairment based on the fair value
of the collateral.
PREMISES AND EQUIPMENT
Premises and equipment are stated at cost less accumulated depreciation. The
annual provision for depreciation is computed using the straight-line method in
amounts sufficient to recognize the cost of depreciable assets over their
estimated useful lives. Maintenance and repairs are charged to expense as
incurred.
OTHER REAL ESTATE
Properties acquired through foreclosure, or by deed in lieu of foreclosure, are
carried at the lower of the unpaid loan balance plus settlement costs, or fair
value less estimated costs of disposal, At December 31, 1997 and 1996, other
real estate, included in other assets, amounted to $881,456 and $745,504,
respectively.
INTANGIBLE ASSETS
Intangible assets represent core deposit value and goodwill arising from
acquisitions. The Company periodically reviews the carrying value of intangible
assets using fair value methodologies. Core deposit intangibles are being
amortized principally on an accelerated basis over ten years. Goodwill is being
amortized on a straight-line basis over 15 to 25 years.
DEPOSITS
The fair values disclosed for demand and savings deposits are equal to the
carrying amounts at the reporting date. The carrying amounts for variable rate
money market accounts and certificates of deposit approximate their fair values
at the reporting date. Fair values for fixed rate certificates of deposit are
estimated using discounted cash flows and interest rates currently being offered
on similar certificates. The carrying value of accrued interest approximates
fair value.
BORROWINGS
The carrying amounts of federal funds purchased and borrowings approximate their
fair values.
INCOME TAXES
Provisions for income taxes are based on taxes currently payable or refundable,
and deferred taxes are based on temporary differences between the tax basis of
assets and liabilities and their reported amounts in the financial statements.
Deferred tax assets and liabilities are reported in the financial statements at
currently enacted income tax rates applicable to the period in which the
deferred tax assets and liabilities are expected to be realized or settled.
EARNINGS PER SHARE AND STOCK SPLIT
As of December 31, 1997 the Company adopted Statement of Financial Accounting
Standards No. 128, "Earnings Per Share." Under this new standard, both basic and
diluted earnings per share are presented for each period for which an income
statement is presented. Basic earnings per share is computed on the basis of
actual weighted average common shares outstanding for the period. Diluted
earnings per share reflects the dilutive effect of outstanding common stock
equivalents.
On March 12, 1997, a two-for-one split of the Company's common stock was
effected in the form of a stock dividend of one share of common stock for each
share of common stock outstanding at the close of business on February 10, 1997.
The number of authorized shares of common stock was increased from 5,000,000 to
20,000,000 pursuant to shareholder approval. All share and per share data of
prior periods has been restated, where required, to retroactively reflect the
stock split.
39
During 1997, the par value of the Company's common stock was changed from $1.25
par to no par $1.00 stated value per share.
FAIR VALUES OF FINANCIAL INSTRUMENTS
The Company determines fair values based on quoted market values where available
or on estimates using present values or other valuation techniques. Those
techniques are significantly affected by the assumptions used, including the
discount rate and estimates of future cash flows. In that regard, the derived
fair value estimates cannot be substantiated by comparison to independent
markets and, in many cases, could not be realized in immediate settlement of the
instrument. Statement Financial Accounting Standard No. 107, "Disclosures about
Fair Value of Financial Instruments," excludes certain financial instruments and
all nonfinancial instruments from its disclosure requirements. Accordingly, the
aggregate fair value amounts presented do not represent the underlying value of
the Company. The fair values of investment securities, loans, and deposits have
been disclosed in footnotes C, D, and G, respectively.
NOTE B: BRANCH ACQUISITIONS
During 1997, the Company acquired certain assets and assumed certain liabilities
relating to eight branch offices of Key Bank, N.A. located in Southwestern New
York State and 12 branch offices of Fleet Bank located in Northern and Central
New York State.
In July 1995, the Company acquired certain assets and assumed certain
liabilities relating to fifteen branch offices of The Chase Manhattan Bank, N.A.
located in the Northern, Central, and Finger Lakes Regions of New York State. In
December 1995, the Company sold the assets and liabilities of three of these
branches to another banking entity. A summary of these acquisitions and the
divestiture activity is as follows:
ACQUISITIONS
--------------------------------------------------------
KEY BANK FLEET BANK CHASE MANHATTAN DIVESTITURE
(6/16/97) (7/18/97) BANK (7/14/95) (12/15/95)
-------------------------------------------------------- -------------
CASH RECEIVED (PAID) $110,752,957 $76,516,971 $330,229,952 ($37,707,788)
LOANS ACQUIRED (DIVESTED) 24,093,903 62,706,634 13,954,164 (1,118,758)
PROPERTY AND EQUIPMENT ACQUIRED (DIVESTED) 1,836,405 2,438,645 5,133,354 (741,500)
OTHER ASSETS AND (LIABILITIES) ACQUIRED 34,323 (172,683) 1,247,553 (124,406)
(DIVESTED), NET
PURCHASE (DIVESTED) PRICE ALLOCATED TO:
CORE DEPOSIT VALUE 16,375,717 (1,941,210)
GOODWILL 13,563,861 17,569,255 15,635,610 (917,463)
------------ ------------
------------ -------------
DEPOSIT LIABILITIES ASSUMED (DIVESTED) $150,281,449 $159,058,822 $382,576,350 ($42,551,125)
=============================================================================================================================
Net core deposit value and goodwill arising from these transactions is being
amortized over ten years on an accelerated basis, and over a range of 15 to 25
years on a straight-line basis, respectively.
The transactions above have been recorded under the purchase method of
accounting and, accordingly, the operating results of the branches acquired have
been included in the Company's consolidated financial statements from the date
of acquisition. Results of operations on a pro forma basis are not presented
since historical financial information for the branches acquired is not
available.
In July 1996, the Company acquired all of the outstanding shares of common stock
of Benefit Plan Administrators, Inc., a pension administration and actuarial
firm, in exchange for 81,250 shares of the Company's common stock. The
transaction was accounted for as a pooling of interests, and, accordingly, the
consolidated financial statements for 1996 include the accounts of Benefit Plan
Administrators. Consolidated financial statements for the prior periods
presented were not restated as the effect on those periods is not significant.
40
NOTE C: INVESTMENT SECURITIES
The amortized cost and estimated fair values of investments in securities as of December 31 are as follows:
1997 1996
- -----------------------------------------------------------------------------------------------------------------------------------
GROSS GROSS ESTIMATED GROSS GROSS ESTIMATED
AMORTIZED UNREALIZED UNREALIZED FAIR AMORTIZED UNREALIZED UNREALIZED FAIR
HELD-TO-MATURITY COST GAINS LOSSES VALUE COST GAINS LOSSES VALUE
- ------------------------------------------------------------------------------------------------------------------------------------
U.S. Treasury securities and
obligations of U.S. government
corporations and agencies $164,198,645 $4,607,000 $ 7,000 $168,799,000 $248,264,441 $6,210,000 $ 37,000 $254,437,000
Obligations of
states and political
subdivisions 10,221,035 355,000 1,000 10,575,000 17,795,714 499,000 3,000 18,292,000
Corporate Securities 3,090,597 111,000 1,000 3,201,000 1,500 500 0 2,000
Mortgage-backed securities 86,148,702 2,702,000 13,000 88,838,000 103,794,817 2,184,000 214,000 105,765,000
------------ ---------- ---------- ------------ ------------ ---------- -------- ------------
TOTALS 263,658,979 7,775,000 22,000 271,413,000 369,856,472 8,893,500 254,000 378,496,000
- ------------------------------------------------------------------------------------------------------------------------------------
AVAILABLE-FOR-SALE
- ------------------------------------------------------------------------------------------------------------------------------------
U.S. Treasury securities and
obligations of U.S. government
corporations and agencies 82,027,316 2,742,939 40,046 84,730,209 39,684,493 527,326 207,137 40,004,682
Obligations of
states and political
subdivisions 9,960,459 349,594 0 10,310,053 436,856 15,574 0 452,430
Mortgage-backed securities 225,691,821 3,103,934 1,446,399 227,349,356 145,276,186 1,853,074 574,405 146,554,855
------------ ---------- ---------- ------------ ------------ ---------- -------- ------------
TOTALS 317,679,596 6,196,467 1,486,445 322,389,618 185,397,535 2,395,974 781,542 187,011,967
Federal Home Loan Bank &
other equity securities 23,669,431 0 0 23,669,431 20,282,002 0 0 20,282,002
Federal Reserve
Bank common stock 2,173,950 0 0 2,173,950 1,402,850 0 0 1,402,850
------------ ---------- ---------- ------------ ------------ ---------- -------- ------------
TOTALS 343,522,977 6,196,467 1,486,445 348,232,999 207,082,387 2,395,974 781,542 208,696,819
- ------------------------------------------------------------------------------------------------------------------------------------
Net unrealized gain/(loss) on
Available-for-Sale 4,710,022 1,614,432
- ------------------------------------------------------------------------------------------------------------------------------------
GRAND TOTAL
CARRYING VALUE $611,891,978 $578,553,291
====================================================================================================================================
The amortized cost and estimated fair value of debt securities at December 31,
1997, by contractual maturity, are shown below. Expected maturies will differ
from contractual maturities because borrowers may have the right to call or
prepay obligations with or without call or prepayment penalties.
HELD-TO-MATURITY AVAILABLE-FOR-SALE
CARRYING EST. MARKET EST. MARKET
VALUE VALUE VALUE VALUE
- ----------------------------------------------------------------------------------------------------------
Due in one year or less $4,815,772 $4,869,000 $10,000 $10,067
Due after one through five years 15,182,745 16,323,000 6,256,359 6,245,108
Due after five years through ten years 132,623,337 135,777,000 45,644,652 47,276,747
Due after ten years 24,888,416 25,606,000 40,076,764 41,508,340
-------------------------------------------------------------------
TOTAL 177,510,270 182,575,000 91,987,775 95,040,262
Mortgage-backed securities 86,148,709 88,838,000 225,691,821 227,349,356
-------------------------------------------------------------------
TOTAL $263,658,979 $271,413,000 $317,679,596 $322,389,618
==========================================================================================================
Proceeds from sales of investments in debt securities during 1997, 1996, and
1995 were $51,916,000, $12,940,000 and $3,950,000, respectively. Gross gains of
approximately $283,000 and $32,000 for 1997 and 1996 respectively, and gross
losses of $297,000 and $150,000 in 1997 and 1995, respectively, were realized on
those sales.
Investment securities with a carrying value of $320,953,967 and $304,022,444 at
December 31, 1997 and 1996, repectively, were pledged to collateralize deposits
and securities sold under agreements to repurchase and for other purposes
required by law.
41
NOTE D: LOANS
Major classifications of loans at December 31 are summarized as follows:
- ---------------------------------------------------------------------------------------------------
1997 1996
- ---------------------------------------------------------------------------------------------------
Real estate mortgages:
Residential $278,912,124 $224,998,461
Commercial 85,962,156 56,958,511
Farm 10,433,795 8,295,934
Agricultural loans 23,894,346 21,688,695
Commercial loans 138,066,982 99,682,495
Installment loans to individuals 298,871,021 243,246,292
Other loans 8,886,538 3,496,175
------------ ------------
845,026,962 658,366,563
Less: Unearned interest, and deferred
loan fees and costs, net (1,815,105) (5,892,688)
Reserve for possible loan losses (12,433,812) (8,127,752)
------------ ------------
Net loans $830,778,045 $644,346,123
==================================================================================================================
The estimated fair value of loans receivable at December 31, 1997 and 1996 was
$848,000,000 and $662,000,000, respectively.
Changes in the reserve for possible loan losses for the years ended December 31
are summarized below:
- ------------------------------------------------------------------------------------------------------------------
1997 1996 1995
- ------------------------------------------------------------------------------------------------------------------
Balance at the beginning of year $ 8,127,752 $6,976,385 $6,281,109
Reserves on acquired loans 3,547,641
Provision charged to expense 4,480,000 2,897,068 1,765,148
Loans charged off (4,448,281) (2,458,651) (1,757,584)
Recoveries 726,700 712,950 687,712
----------- ---------- -----------
Balance at end of year $12,433,812 $8,127,752 $6,976,385
=========== ========== ===========
As of December 31, 1997 and 1996, the Company's impaired loans for which
specific valuation allowances were recorded were not significant.
NOTE E: PREMISES AND EQUIPMENT
Premises and equipment consist of the following at December 31:
- ------------------------------------------------------------------------------------------
1997 1996
- -------------------------------------------------------------------------------------------
Land and land improvements $ 4,417,606 $ 3,715,154
Bank premises owned 19,980,010 16,026,615
Equipment 16,578,656 12,378,636
----------- ------------
Premises and equipment gross 40,976,272 32,120,405
Less: Allowance for depreciation 17,326,993 15,338,371
----------- ------------
Premises and equipment net $23,649,279 $16,782,034
===========================================================================================
NOTE F: INTANGIBLE ASSETS
Intangible assets consist of the following at December 31:
- ------------------------------------------------------------------------------------------
1997 1996
- ------------------------------------------------------------------------------------------
Core deposit intangible $14,434,507 $15,007,907
Goodwill and other intangibles 52,760,397 21,591,942
----------- -----------
Intangible assets, gross 67,194,904 36,599,849
Less: Accumulated amortization (8,523,149) (5,358,360)
----------- -----------
Intangible assets, net $58,671,755 $31,241,489
==========================================================================================
42
NOTE G: DEPOSITS
Deposits by type at December 31 are as follows:
- ------------------------------------------------------------------------------
1997 1996
- ------------------------------------------------------------------------------
Demand $ 202,573,162 $ 144,351,214
Savings 492,201,426 387,545,640
Time 650,911,370 495,316,402
Total Deposits $1,345,685,958 $1,027,213,256
==============================================================================
The estimated fair values of deposits at December 31, 1997 and 1996 were
approximately $1,348,000,000 and $1,027,000,000 respectively.
At December 31, 1997 and 1996, time certificates of deposit in denominations of
$100,000 and greater totaled $93,439,246 and $68,914,112, respectively.
NOTE H: BORROWINGS
At December 31, 1997 and 1996, outstanding borrowings were as follows:
- ------------------------------------------------------------------------------
1997 1996
- ------------------------------------------------------------------------------
Federal funds purchased $ 45,000,000 $ 31,800,000
Federal Home Loan Bank advances 80,000,000 165,000,000
Mandatorily redeemable capital
securities of subsidiary, net of
discount of $196,312 29,803,688 0
------------ ------------
$154,803,688 $196,800,000
==============================================================================
Federal Home Loan Bank advances are secured by a blanket lien on the Company's
residential real estate loan portfolio and mortgage-backed securities portfolio.
Borrowings at December 31, 1997 have maturity dates as follows:
WEIGHTED
AVERAGE RATE AMOUNT
-------------- ------------
January 2, 1998 6.38% $ 45,000,000
February 2, 1998 6.88% 20,000,000
July 22, 1998 6.50% 25,000,000
December 14, 1998 5.69% 10,000,000
December 13, 2000 5.86% 15,000,000
December 17, 2002 6.20% 10,000,000
January 30, 2027 9.75% 29,803,688
------------
7.01% $154,803,688
==============================================================================
43
NOTE I: INCOME TAXES
The provision (benefit) for income taxes for the years ended December 31 is as
follows:
- -----------------------------------------------------------------------------------------------
1997 1996 1995
- -----------------------------------------------------------------------------------------------
Current:
Federal $8,071,488 $ 8,909,495 $5,658,251
State 996,033 2,591,397 1,825,335
Deferred:
Federal (174,176) (1,426,394) (76,248)
State (49,218) (414,179) (23,338)
---------- ------------ ----------
Total income taxes $8,844,127 $ 9,660,319 $7,384,000
===============================================================================================
Components of the net deferred tax asset, included in other assets, as of
December 31 are as follows:
- -----------------------------------------------------------------------------------------------
1997 1996
- -----------------------------------------------------------------------------------------------
Allowance for loan losses $3,630,000 $3,331,971
Postretirement and other reserves 607,577 606,481
Pension 373,735 348,537
Intangible assets 279,172 184,239
Other 515,036 166,950
Total deferred tax asset $5,405,520 $4,638,178
---------- ----------
Investment securities 2,186,796 901,553
Deferred loan fees 363,034
Depreciation 252,167 91,965
---------- ----------
Total deferred tax liability $2,801,997 $993,518
---------- ----------
Net deferred tax asset $2,603,523 $3,644,660
===============================================================================================
The Company has determined that no valuation allowance is necessary as it is
more likely than not that deferred tax assets will be realized through future
reversals of existing temporary differences and through future taxable income.
A reconciliation of the differences between the federal statutory income tax
rate and the effective tax rate for the years ended December 31 is shown in the
following table:
- -----------------------------------------------------------------------------------------------------------------
1997 1996 1995
- -----------------------------------------------------------------------------------------------------------------
Federal statutory income tax rate 35.0% 35.0% 35.0%
Increase (reduction) in taxes resulting from:
Tax-exempt interest (1.2) (1.3) (1.8)
State income taxes, net of federal benefit 2.4 5.8 6.2
Other 0.0 1.1 (0.2)
---- ---- ----
Effective income tax rate 36.2% 40.6% 39.2%
=================================================================================================================
NOTE J: LIMITS ON DIVIDENDS AND OTHER REVENUE SOURCES
The Company's ability to pay dividends to its shareholders is largely dependent
on the Bank's ability to pay dividends to the Company. In addition to state law
requirements and the capital requirements discussed below, the circumstances
under which the Bank may pay dividends are limited by federal statutes,
regulations, and policies. For example, as a national bank, the Bank must obtain
the approval of the Office of the Comptroller of the Currency (OCC) for payment
of dividends if the total of all dividends declared in any calendar year would
exceed the total of the Bank's net profits as defined by applicable regulations,
for that year, combined with its retained net profits for the preceding two
years. Furthermore, the Bank may not pay a dividend in an amount greater than
its undivided profits then on hand after deducting its losses and bad debts, as
defined by applicable regulations. At December 31, 1997, the Bank had
approximately $21,186,000 in undivided profits legally available for the payment
of dividends.
In addition, the Federal Reserve Board and the OCC are authorized to determine
under certain circumstances that the payment of dividends would be an unsafe or
unsound practice and to prohibit payment of such dividends. The payment of
dividends that deplete a bank's capital base could be deemed to constitute such
an unsafe or an unsound practice. The Federal Reserve Board has indicated that
banking organizations could generally pay dividends only out of current
operating earnings. There are also statutory limits on the transfer of funds to
the Company by its banking subsidiary whether in the form of loans or other
extensions of credit, investments, or asset purchases. Such transfers by the
Bank to the Company generally are limited in amount to 10% of the Bank's capital
and surplus, or 20% in the aggregate. Furthermore, such loans and extensions of
credit are required to be collateralized in specific amounts.
44
NOTE K: BENEFIT PLANS
The Company has a noncontributory pension plan for all eligible employees which
is administered by the Trust Department of Community Bank, N.A. under the
direction of an appointed retirement board. The policy of the Company is to fund
the plan to the extent of its maximum tax deductibility.
The net periodic pension cost and actuarial assumptions for the years ended
December 31 were as follows:
- -----------------------------------------------------------------------------------------------------------------------
1997 1996 1995
- -----------------------------------------------------------------------------------------------------------------------
Service cost-benefits earned during the year $353,762 $281,318 $197,695
Interest cost on projected benefit obligation 631,010 596,266 551,207
Actual return on plan assets (1,819,260) (1,257,927) (1,424,112)
Administrative expenses 130,444 123,625 73,162
Net amortization and deferral 916,794 507,801 837,321
----------- ----------- -----------
Net periodic pension cost $212,750 $251,083 $235,273
=======================================================================================================================
Discount rate 7.00% 7.25% 7.0%
Expected long term rate of return on assets 9.0% 9.0% 9.0%
Rate of increase in compensation levels 4.0% 4.0% 4.0%
=======================================================================================================================
The following table presents a reconciliation of the plan's funded status at
December 31:
- ------------------------------------------------------------------------------------------------
1997 1996
- ------------------------------------------------------------------------------------------------
Actuarial present value of benefit obligations:
Vested $8,339,305 $7,386,006
Nonvested 123,386 105,342
---------- ----------
Accumulated benefit obligation $8,462,691 $7,491,348
The entire amount of unrecognized gains and losses is amortized over the average
remaining service lives of the participants on a straight-line basis.
- ------------------------------------------------------------------------------------------------
1997 1996
- ------------------------------------------------------------------------------------------------
Projected benefit obligation ($9,775,164) ($8,893,253)
Plan assets at fair value 10,689,215 9,095,755
----------- -----------
Plan assets in excess of projected benefit 914,051 202,502
obligation
Unrecognized net loss/(gain) from past
experience different from that assumed and
effects of changes in assumptions 275,476 872,861
Unrecognized prior service cost, being
recognized over 17 years (278,747) (293,937)
Unrecognized net asset at date of adoption,
being recognized over 17 years (136,778) (159,026)
---------- ----------
Prepaid pension cost included in other assets $ 774,002 $ 622,400
================================================================================================
The decrease in the discount rate from 7.25% to 7% increased the projected
benefit obligation at December 31, 1997 by $306,534.
Plan assets consist primarily of listed stocks, governmental securities, and
cash equivalents. The plan is authorized to invest up to 10% of the fair value
of its total assets in common stock of Community Bank System, Inc. At December
31, 1997 and 1996, the plan holds 41,128 and 52,128 shares, respectively, of the
sponsor company common stock.
The Company also has an Employee Savings and Retirement Plan, which is
administered by the Trust Department of Community Bank, N.A. The Employee
Savings and Retirement Plan includes Section 401(k) and Thrift provisions as
defined under the Internal Revenue Code. The provisions permit employees to
contribute up to 15% of their total compensation on a pre-tax or post-tax basis.
The Company matches 50% of the first 6% of employee contributions. Company
contributions to the trust amounted to $757,444, $598,998, and $522,680 in 1997,
1996, and 1995, respectively.
45
The Company has deferred compensation agreements with its President and Chief
Executive Officer and several former executives and officers whereby monthly
payments are to be provided upon retirement over periods ranging from ten to 25
years. Expense recognized during 1997, 1996 and 1995 related to these agreements
amounted to approximately $257,000, $377,000, and $369,000, respectively.
Effective January 1, 1996, the Board approved a Stock Balance Plan for
nonemployee directors who have completed six months of service. The Plan is a
nonqualified, noncontributory deferred compensation plan. The Plan provides
benefits for periods of service prior to January 1, 1996 based on a
predetermined formula. Amounts credited to participant accounts for all
creditable service after January 1, 1996 are based on performance of the
Company's stock. Participants become fully vested after six years of service.
Benefits are payable in the form of an annuity on the first of the month
following the later of a participant's disassociation from the Board or
attainment of age 70. Unrecognized prior service cost of $628,206 is being
amortized over 20 years. Expense related to the Plan recognized in 1997 and 1996
approximated $203,000, and $150,000, respectively.
NOTE L: POSTRETIREMENT BENEFITS OTHER THAN PENSIONS
The Company provides health and life insurance benefits for eligible retired
employees and their dependents. An employee becomes eligible for these benefits
by satisfying plan provisions which include certain age and/or service
requirements. Medical benefits are based on years of service at retirement, with
forty years of service being required in order to be fully eligible for
benefits. The medical plans pay a stated percentage of medical expenses reduced
by deductibles and other coverages. The Medicare supplement policy provides for
a $100,000 maximum lifetime benefit. Generally, life insurance benefits are
equal to $5,000.
The cost of postretirement benefits is recognized over the active service lives
of employees. The Company is amortizing the transition obligation over a 20-year
period. Net periodic postretirement benefit cost for the years ended December 31
include the following components:
1997 1996 1995
- --------------------------------------------------------------------------------
Service Cost $125,779 $111,252 $80,600
Amortization of transition 61,200
obligation over 20.1 years 61,200 61,200
Amortization of prior service cost 18,610 10,200 5,100
Amortization of unrecognized net 13,400
loss over 19.3 years 14,948 16,985
Interest on APBO less interest on
expected benefit payments 195,508 164,656 163,800
-------- -------- --------
Net periodic postretirement benefit $416,045 $364,293 $324,100
cost
================================================================================
46
A 9.5% annual rate of increase in the per capita costs of covered health care
benefits was assumed for 1997, gradually decreasing to 5.5 percent by the year
2017. Increasing the assumed health care cost trend rates by one percentage
point each year would increase the accumulated postretirement benefit obligation
as of January 1, 1997 by $172,500 and increase the aggregate service cost and
interest components of net periodic postretirement benefit cost for 1997 by
$12,000. Discount rates of 7.25% for 1997 and 1996 were used to determine the
accumulated postretirement benefit obligation. The following sets forth the
funded status of the plan as of December 31:
- -----------------------------------------------------------------------------------------------------------------------
1997 1996
- -----------------------------------------------------------------------------------------------------------------------
Accumulated Postretirement Benefit Obligation (APBO):
Retirees 974,066 $ 837,825
Fully eligible active plan participants 273,103 153,558
Other active plan participants 1,716,386 1,420,035
---------- ----------
Total APBO 2,963,555 2,411,418
Plan assets at fair value 0 0
---------- ----------
Accumulated postretirement benefits obligation in excess of plan (2,963,555) (2,411,418)
assets
Unrecognized prior service cost 279,055 126,100
Unrecognized portion of net obligation at transition 924,500 985,700
Unrecognized net loss 565,264 466,523
---------- ----------
Accrued postretirement benefit cost ($1,194,736) ($ 833,095)
=======================================================================================================================
NOTE M: STOCK-BASED COMPENSATION PLANS
The Company has long-term stock-based incentive compensation programs for
directors, officers, and key employees including incentive stock options
(ISO's), restricted stock awards (RSA's), nonqualified stock options (NQSO's),
warrants, retroactive stock appreciation rights, and discounted options. The
Company has authorized the grant of options for up to 605,000 shares of the
Company's common stock. All options granted have ten year terms and vest and
become fully exercisable at the end of five years of continued employment.
Activity in these plans for 1997, 1996, and 1995 was as follows:
- ----------------------------------------------------------------------------------------------------------
Options Range of Shares Weighted
Outstanding Option Exercisable Average
Price Exercise Price
Per Share Shares
Outstanding
- ----------------------------------------------------------------------------------------------------------
Outstanding at
December 31, 1994 250,580 $7.75 - 15.13 149,680
Granted 54,500 13.13 - 16.13
Exercised (51,800) 7.75 - 14.50
Forfeited (4,800) 5.87
Outstanding at
December 31, 1995 248,480 6.75 - 19.13 123,500 $11.01
Granted 177,300 16.00 - 19.13 17.80
Granted at a discount 16,000 12.13 12.13
Exercised (40,850) 7.75 - 13.13 11.55
Forfeited (3,300) 7.75 - 15.875 7.75
Outstanding at
December 31, 1996 397,630 6.75 - 19.13 168,460 14.20
Granted 5700 27.25
Exercised/cancelled (100,300) 7.50 - 16.125 11.56
Forfeited 0
Outstanding at
December 31, 1997 293,030 $5.87 - 19.13 129,765 $14.53
==========================================================================================================
47
The Company granted 8,000 discounted options in 1996 and recognized compensation
expense of approximately $13,000. Restricted stock awarded in 1997 and 1996
amounted to 5,700 and 1,500 shares, respectively. Total expense is based on the
market value of the stock at the date of grant and is being accrued over the
period the restrictions lapse. Expense in 1997, 1996, and 1995 was $145,753,
$92,047, and $77,618, respectively. There were 356,600, 362,300; and 205,500
shares available for future grants or awards under the various programs
described above at December 31, 1997, 1996, and 1995, respectively. Directors
may elect to defer all or a portion of their director fees until a certain
distribution date pursuant to a Deferred Compensation Plan. The administrator
has established an account for each participating director and credits to such
account the number of shares of Company common stock which would have been
purchased with the director fees and shares equal to the amount of dividends
which would have been received. On the distribution date, the director shall be
entitled to receive either shares of the Company common stock equal to the
number of shares accumulated or at the Company's election, cash equal to the
fair value of the number of shares accumulated. There were 11,920 shares
credited to participant accounts at December 31, 1997 for which a liability of
approximately $373,000 was accrued and approximately $194,000 was recognized as
expense in 1997.
The FASB issued Statement of Financial Accounting Standards No. 123, "Accounting
for Stock-Based Compensation," effective for 1996, which establishes a
fair-value-based method of accounting for stock compensation plans with
employees and others. Alternatively, the statement allows that entities may
continue to account for stock-based compensation plans in accordance with
Accounting Principles Board (APB) Opinion No. 25, "Accounting for Stock Issued
to Employees," with disclosure of pro forma amounts reflecting the difference
between cost charged to operations pursuant to APB No. 25 and compensation cost
that would have been charged to operations had Statement No. 123 been applied.
The Company has elected to continue following APB No. 25 in accounting for its
stock-based compensation plans. Application of the fair-value-based accounting
provision of Statement No. 123 results in the following pro forma amounts of net
income and earnings per share:
- --------------------------------------------------------------------------------
1997 1996
- --------------------------------------------------------------------------------
Net Income:
As reported $15,561,506 $14,133,044
Pro forma 15,372,474 13,699,412
Earnings per share:
As reported $2.05 $1.85
Pro forma basic earnings per share 2.03 1.79
The fair value for these options was estimated at the date of grant using a
Black-Scholes options pricing model with the following weighted average
assumptions for 1997 and 1996: risk-free interest rates by grant ranging from
5.48% to 7.83% during 1997 and 5.75% during 1996; dividend yields of 3.00%
during 1997 and 3.95% during 1996; volatility factors of the expected market
price of the Company's common stock of 45.93% for 1997 and 48.21% for 1996; and
a weighted-average expected life of the option of 7.18 years for 1997 and 7.13
years for 1996.
For the purposes of pro forma disclosures, the estimated fair value of the
options is amortized to expense over the options' vesting period. Therefore,
these results are not likely to be representative of the effects on reported net
income for future years due to additional years of vesting. At December 31, 1997
the weighted average information for outstanding and exersisable shares is as
follows:
- ------------------------------------------------------------------------------------------------------------------------------
Shares Outstanding Shares Exercisable
Weighted Average
Range of Shares ------------------------- Shares Weighted Average
Exercise Outstanding Exercise Remaining Outstanding Exercise
Price Price Life (years) Price
- ------------------------------------------------------------------------------------------------------------------------------
$ 0.0000 - $ 3.1313 0 $0.0000 0.0 0 $0.0000
$ 3.1314 - $ 6.2625 0 $0.0000 0.0 0 $0.0000
$ 6.2626 - $ 9.3938 29,430 $7.5719 3.0 29,430 $7.5719
$ 9.3939 - $12.5250 15,600 $12.1250 8.0 2,800 $12.1250
$12.5251 - $15.6563 65,100 $13.5622 6.6 26,300 $13.7230
$15.6563 - $18.7875 77,000 $15.9937 8.0 30,276 $16.0017
$18.7876 - $21.9187 100,200 $19.1250 9.0 40,959 $19.1250
$21.9188 - $25.0500 0 $0.0000 0.0 0 $0.0000
$25.0501 - $28.1813 5,700 $27.2500 9.5 0 $0.0000
$28.1814 - $31.3125 0 $0.0000 0.0 0 $0.0000
--------------------------------------------------------------------------------------
293,030 $15.6914 7.6 129,765 $14.5302
==============================================================================================================================
48
NOTE N: EARNINGS PER SHARE
Basic earnings per share is computed based on the weighted average shares
outstanding. Diluted earnings per share is computed based on the weighted
average shares outstanding adjusted for the dilutive effect of the assumed
exercise of stock options during the year. The following is a reconciliation of
basic to diluted earnings per share for the years ended December 31:
- ---------------------------------------------------------------------------------------------------
INCOME SHARES PER SHARE
AMOUNT
- ---------------------------------------------------------------------------------------------------
1997 NET INCOME $15,561,506
LESS: PREFERRED STOCK DIVIDENDS (78,750)
-----------
BASIC EPS 15,482,756 7,537,043 $2.05
=====
EFFECT OF DILUTIVE SECURITIES:
STOCK OPTIONS 0 139,283
--------------------------
DILUTED EPS $15,482,756 7,676,326 $2.02
===================================================================================================
- ---------------------------------------------------------------------------------------------------
1996 Net Income $14,133,044
Less: Preferred stock dividends (405,000)
-----------
Basic EPS 13,728,044 7,407,212 $1.85
=====
Effect of dilutive securities:
Stock options 0 75,306
--------------------------
Diluted EPS $13,728,044 7,482,518 $1.83
===================================================================================================
- ---------------------------------------------------------------------------------------------------
1995 Net Income $11,469,904
Less: Preferred stock dividends (354,375)
-----------
Basic EPS 11,115,529 6,457,288 $1.72
=====
Effect of dilutive securities
Stock options 0 65,122
--------------------------
Diluted EPS $11,115,529 6,522,410 $1.70
===================================================================================================
NOTE O: COMMITMENTS, CONTINGENT LIABILITIES AND RESTRICTIONS
The Company is a party to financial instruments with off-balance-sheet risk in
the normal course of business to meet the financing needs of its customers.
These financial instruments consist primarily of commitments to extend credit,
which involve, to varying degrees, elements of credit risk in excess of the
amount recognized in the statement of condition. The contract amount of those
commitments to extend credit reflects the extent of involvement the Company has
in this particular class of financial instrument. The Company's exposure to
credit loss in the event of nonperformance by the other party to the financial
instrument for commitments to extend credit is represented by the contractual
amount of the instrument. The Company uses the same credit policies in making
commitments as it does for on-balance-sheet instruments.
- ----------------------------------------------------------------------------------------------------
1997 1996
- ----------------------------------------------------------------------------------------------------
Financial instruments whose contract amounts represent
credit risk at December 31:
Letters of Credit
$2,427,000 $843,000
Commitments to make or purchase loans or
to extend credit on lines of credit 157,931,000 94,730,000
Total $160,358,000 $95,573,000
====================================================================================================
The fair value of these financial instruments is not significant.
49
Commitments to extend credit are agreements to lend to a customer as long as
there is no violation of any condition established in the contract. Commitments
generally have fixed expiration dates or other termination clauses and may
require payment of a fee. Since some of the commitments are expected to expire
without being drawn upon, the total commitment amounts do not necessarily
represent future cash requirements. The Company evaluates each customer's
creditworthiness on a case-by-case basis. The amount of collateral obtained, if
deemed necessary by the Company upon extension of credit, is based on
management's credit evaluation of the customer. Collateral held varies but may
include residential real estate, income-producing commercial properties, and
personal property. The Company has unused lines of credit totaling $43,486,000
and $0 at December 31, 1997 and 1996, respectively. The Company has additional
unused borrowing capacity through collateralized transactions with the Federal
Home Loan Bank.
The Company is required to maintain a reserve balance, as established by the
Federal Reserve Bank of New York. The required average total reserve for the
14-day maintenance period ended December 31, 1997 was $20,688,000 of which
$2,000,000 was required to be on deposit with the Federal Reserve Bank of New
York. The remaining $18,688,000 was represented by cash on hand.
NOTE P: LEASES
Rental expense included in operating expenses amounted to $913,306, $740,398,
and $630,459 in 1997, 1996, and 1995, respectively.
The future minimum rental commitments as of December 31, 1997 for all
noncancelable operating leases are as follows:
===============================================================================
Years ending
December 31: Building Equipment Total
===============================================================================
1998 $867,814 $18,447 $886,261
1999 649,067 649,067
2000 575,328 0 575,328
2001 525,477 0 525,477
2002 444,695 0 444,695
Thereafter 3,656,305 0 3,656,305
===============================================================================
NOTE Q: REGULATORY MATTERS
The Bank is subject to various regulatory capital requirements administered by
the federal banking agencies. Failure to meet minimum capital requirements can
initiate certain mandatory-and possibly additional discretionary-actions by
regulators that, if undertaken, could have a direct material effect on the
Bank's financial statements. Under capital adequacy guideline and the regulatory
framework for prompt corrective action, the Bank must meet specific capital
guidelines that involve quantitative measures of the Bank's assets, liabilities,
and certain off-balance sheet items as calculated under regulatory accounting
practices. The Bank's capital amounts and classification are also subject to
qualitative judgments by the regulators about components, risk weightings, and
other factors.
Quantitative measures established by regulation to ensure capital adequacy
require the Bank to maintain minimum amounts and ratios (set forth in the table
below) of total and Tier I capital (as defined in the regulations) to
risk-weighted assets (as defined), and of Tier I capital (as defined) to average
assets (as defined). Management believes, as of December 31, 1997 and 1996, that
the Bank meets all capital adequacy requirements to which it is subject and is
"well capitalized" under the regulatory framework of prompt corrective action.
To be categorized as "well capitalized," the Bank must maintain minimum total
risk-based, Tier I risk-based, and Tier I leverage ratios as set forth in the
following table.
50
- --------------------------------------------------------------------------------------------------------------------------------
To Be Well
Capitalized Under
For Capital Prompt Corrective
Actual Adequacy Purposes Action Provisions
- --------------------------------------------------------------------------------------------------------------------------------
Amount Ratio Amount Ratio Amount Ratio
- --------------------------------------------------------------------------------------------------------------------------------
AS OF DECEMBER 31, 1997:
Total Core Capital
(to Risk Weighted Assets) $98,001 10.5% $74,469 8.0% $93,087 10.0%
Tier I Capital
(to Risk Weighted Assets) $86,365 9.3% $37,235 4.0% $55,852 6.0%
Tier I Capital
(to Average Assets) $86,365 5.7% $60,892 4.0% $76,115 5.0%
As of December 31, 1996:
Total Core Capital
(to Risk Weighted Assets) $85,291 11.8% $57,675 8.0% $72,094 10.0%
Tier I Capital
(to Risk Weighted Assets) $77,163 10.7% $28,838 4.0% $43,256 6.0%
Tier I Capital
(to Average Assets) $77,163 6.2% $49,918 4.0% $62,398 5.0%
================================================================================================================================
NOTE R: PARENT COMPANY STATEMENTS
- ---------------------------------------------------------------------------------------------------
CONDENSED BALANCE SHEETS
- ---------------------------------------------------------------------------------------------------
DECEMBER 31
1997 1996
- ---------------------------------------------------------------------------------------------------
Assets:
Cash and cash equivalents $ 873,416 $ 1,089,623
Investment securities 527,229 500,000
Investment in and advances
to subsidiaries 148,623,329 109,613,349
Other assets 1,514,286 2,111
------------ ------------
Total assets $151,538,260 $111,205,083
===================================================================================================
Liabilities:
Accrued interest and other liabilities $ 2,800,853 $ 1,852,856
Borrowings 30,725,424
Shareholders' equity 118,011,983 109,352,227
------------ ------------
Total liabilities and
shareholders' equity $151,538,260 $111,205,083
===================================================================================================
51
CONDENSED STATEMENTS OF INCOME
- -------------------------------------------------------------------------------------------------------------
YEARS ENDED DECEMBER 31
1997 1996 1995
- -------------------------------------------------------------------------------------------------------------
Dividends from subsidiaries $ 7,646,993 $ 5,521,520 $ 8,743,717
Interest on investments
and deposits 50,368 20,006 6,376
----------- ----------- -----------
Total revenues 7,697,361 5,541,526 8,750,093
----------- ----------- -----------
Expenses:
Interest on long term
notes and debentures 2,753,370 0 0
Other Expenses 2,250 2,005 1,700
----------- ----------- -----------
Total expenses 2,755,620 2,005 1,700
----------- ----------- -----------
Income before tax benefit and
equity in undistributed net
income of subsidiaries 4,941,741 5,539,521 8,748,393
Income tax benefit 980,331 0 0
----------- ----------- -----------
Income before equity in
undistributed net income
subsidiaries 5,922,072 5,539,521 8,748,393
Equity in undistributed
net income:
Subsidiary banks 9,639,434 8,593,523 2,721,511
Bank-related subsidiaries 0 0 0
----------- ----------- -----------
Net Income $15,561,506 $14,133,044 $11,469,904
=============================================================================================================
52
NOTE R: PARENT COMPANY STATEMENTS (CONTINUED)
- -----------------------------------------------------------------------------------------------------------------
STATEMENTS OF CASH FLOWS
- -----------------------------------------------------------------------------------------------------------------
Increase (Decrease) in Cash, Cash Equivalents, and Noncash Activities
YEARS ENDED DECEMBER 31
1997 1996 1995
- -----------------------------------------------------------------------------------------------------------------
OPERATING ACTIVITIES:
Net income $15,561,506 $14,133,044 $11,469,904
Adjustments to reconcile
net income to net cash
provided by operating activities:
Equity in undistributed
net income
of subsidiaries (9,639,435) (8,593,523) (2,721,511)
Net change other assets
and accrued liabilities 240,777 14,840 98,029
- -----------------------------------------------------------------------------------------------------------------
Net Cash Provided By
Operating Activities 6,162,848 5,554,361 8,846,422
- -----------------------------------------------------------------------------------------------------------------
INVESTING ACTIVITIES:
Purchase of available for
sale investment securities (27,229) (502,812) (6,218)
Sale of available for sale
investment securities 322,154 25,000
Capital contributions
to subsidiaries (27,374,880) (378,334) (28,516,591)
- -----------------------------------------------------------------------------------------------------------------
Net Cash Used By
Investing Activities (27,402,109) (558,992) (28,497,809)
- -----------------------------------------------------------------------------------------------------------------
FINANCING ACTIVITIES:
Net change in loans
to subsidiaries (500,000) 500,000
Proceeds from issuance of junior
subordinated debentures to subsidiary 30,719,236
Issuance (retirement) of common
and preferred stock (3,451,047) 457,143 23,321,762
Cash dividends (5,745,135) (5,390,271) (3,866,017)
- -----------------------------------------------------------------------------------------------------------------
Net Cash Provided (Used)
By Financing Activities 21,023,054 (4,433,128) 19,455,745
- -----------------------------------------------------------------------------------------------------------------
CHANGE IN CASH
AND CASH EQUIVALENTS: (216,207) 562,241 (195,642)
Cash and cash equivalents
at beginning of year 1,089,623 527,382 723,024
- -----------------------------------------------------------------------------------------------------------------
CASH AND CASH EQUIVALENTS
AT END OF YEAR $ 873,416 $ 1,089,623 $ 527,382
=================================================================================================================
SUPPLEMENTAL DISCLOSURES
OF CASH FLOW INFORMATION:
Cash Paid For Interest $ 1,497,175 $ 0 $ 0
=================================================================================================================
SUPPLEMENTAL DISCLOSURES
OF NONCASH FINANCING ACTIVITIES:
Dividends declared
and unpaid $ 1,517,262 $ 1,345,393 $ 1,214,144
=================================================================================================================
The accompanying notes are an integral part of the consolidated financial statements.
53
COOPERS & LYBRAND L.L.P
a professional services firm
Board of Directors and Shareholders
Community Bank System, Inc.
We have audited the accompanying consolidated statements of condition of
Community Bank System, Inc. and Subsidiaries as of December 31, 1997 and 1996
and the related consolidated statements of income, changes in shareholders'
equity, and cash flows for each of the three years in the period ended December
31, 1997. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the consolidated financial condition of Community Bank
System, Inc. and Subsidiaries as of December 31, 1997 and 1996, and the
consolidated results of their operations and their cash flows for each of the
three years in the period ended December 31, 1997 in conformity with generally
accepted accounting principles.
/s/ Coopers & Lybrand L.L.P.
Syracuse, New York
January 30, 1998
54
TWO YEAR SELECTED QUARTERLY DATA
1997 RESULTS 1ST 2ND 3RD 4TH
(Dollars in Thousands) QUARTER QUARTER QUARTER QUARTER TOTAL
------- ------- ------- ------- -----
Net interest income $14,370 $14,585 $16,813 $17,108 $62,876
Provision for loan losses 730 850 1,235 1,665 4,480
------- ------- ------- ------- -------
Net interest income after
provision for loan losses 13,640 13,735 15,578 15,443 58,396
Total other income 2,326 2,530 3,403 3,549 11,808
Total other expense 10,179 10,426 12,287 12,906 45,798
------- ------- ------- ------- -------
Income before income taxes 5,787 5,839 6,694 6,086 24,406
Income taxes 2,122 2,171 2,459 2,092 8,844
------- ------- ------- ------- -------
Net income $ 3,665 $ 3,668 $ 4,235 $ 3,994 $15,562
======= ======= ======= ======= =======
Earnings per share - Basic $ 0.48 $ 0.49 $ 0.56 $ 0.53 $ 2.05
Earnings per share - Diluted $ 0.47 $ 0.48 $ 0.55 $ 0.52 $ 2.02
========================================================================================================================
1996 RESULTS 1st 2nd 3rd 4th
(Dollars in Thousands) Quarter Quarter Quarter Quarter Total
------- ------- ------- ------- -----
Net interest income $13,205 $13,590 $14,238 $14,233 $55,266
Provision for loan losses 588 609 630 1,070 2,897
------- ------- ------- ------- -------
Net interest income after
provision for loan losses 12,617 12,981 13,608 13,163 52,369
Total other income 1,953 2,001 2,440 2,480 8,874
Total other expense 9,252 9,059 9,660 9,479 37,450
------- ------- ------- ------- -------
Income before income taxes 5,318 5,923 6,388 6,164 23,793
Income taxes 2,180 2,398 2,596 2,486 9,660
------- ------- ------- ------- -------
Net income $ 3,138 $ 3,525 $ 3,792 $ 3,678 $14,133
======= ======= ======= ======= =======
Earnings per share - Basic $ 0.41 $ 0.46 $ 0.50 $ 0.48 $ 1.85
Earnings per share - Diluted $ 0.41 $ 0.46 $ 0.50 $ 0.47 $ 1.83
========================================================================================================================
55
ITEM 9. CHANGES IN DISAGREEMENTS AND WITH ACCOUNTING AND FINANCIAL DISCLOSURE
- ------------------------------------------------------------------------------
None
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
- ------------------------------------------------------------
This item is incorporated by reference from the registrant's definitive Proxy
Statement. Information concerning executive officers is included in Part I after
Item 4 of this Form 10-K Annual Report.
ITEM 11. EXECUTIVE COMPENSATION
- --------------------------------
This item is incorporated by reference from the registrant's definitive Proxy
Statement.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
- ------------------------------------------------------------------------
This item is incorporated by reference from the registrant's definitive Proxy
Statement.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
- --------------------------------------------------------
This item is incorporated by reference from the registrant's definitive Proxy
Statement.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
- --------------------------------------------------------------------------
A. Documents Filed
1. The following consolidated financial statements of Community Bank
System, Inc. and subsidiaries are included in Item 8:
- Consolidated Statements of Condition --
December, 31, 1997 and 1996
- Consolidated Statements of Income --
Years ended December 31, 1997, 1996, and 1995
- Consolidated Statements of Changes in Stockholders' Equity -- Years
ended December 31, 1997, 1996, and 19945
- Consolidated Statement of Cash Flows --
Years ended December 31, 1997, 1996, and 1995
- Notes to Consolidated Financial Statements --
December 31, 1997
- Auditor's report
- Quarterly selected data --
Years ended December 31, 1997 and 1996 (unaudited)
2. Schedules are omitted since the required information is either not
applicable or shown elsewhere in the financial statements.
56
3. Listing of Exhibits
(11) Statement re: Computation of earnings per share
(21) Subsidiaries of the registrant
- Community Bank, National Association, State of New York
- Community Capital Trust I, State of Delaware
- Community Financial Services, Inc., State of New York
- Benefit Plan Administrative Services, Inc., State of New York
B. Reports on Form 8-K
Report on Form 8-K was filed on December 10, 1997. Item number 5-other
events: News release announcing CBSI filed application to list its common
stock on the New York Stock Exchange.
C. See Exhibit 14(a)(3) above.
D. See Exhibit 14(a)(2) above
57
SIGNATURES
Pursuant to the requirements of Section 13 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.
COMMUNITY BANK SYSTEM, INC.
By: /s/ SANFORD A. BELDEN
-----------------------------------------------
Sanford A. Belden
President, Chief Executive Officer and Director
March 18, 1998
Pursuant to the requirements of the Securities and Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities indicated on the 18th day of March 1998.
Name
----
/s/ DR. EARL W. MACARTHUR
- --------------------------------------------------
Dr. Earl W. MacArthur
Chairman of the Board of Directors and Director
/s/ DAVID G. WALLACE
- --------------------------------------------------
David G. Wallace
Treasurer
Directors:
/s/ JOHN M. BURGESS
- -------------------------------------------------
John M. Burgess, Director
/s/ RICHARD C. CUMMINGS
- -------------------------------------------------
Richard C. Cummings, Director
/s/ WILLIAM M. DEMPSEY
- -------------------------------------------------
William M. Dempsey, Director
/s/ NICHOLAS A. DICERBO
- -------------------------------------------------
Nicholas A. DiCerbo, Director
/s/ JAMES A. GABRIEL
- -------------------------------------------------
James A. Gabriel, Director
/s/ LEE T. HIRSCHEY
- -------------------------------------------------
Hirschey, Director
/s/ DAVID C. PATTERSON
- -------------------------------------------------
David C. Patterson, Director
/s/ WILLIAM N. SLOAN
- -------------------------------------------------
William N. Sloan, Director
58