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FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
for the quarterly period ended: JUNE 30, 2004
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from:____________ to ____________
Commission file number: 0-26366
ROYAL BANCSHARES OF PENNSYLVANIA, INC.
----------------------------------------------------------
(Exact name of the registrant as specified in its charter)
PENNSYLVANIA 23-2812193
------------------------------- -------------------
(State or other jurisdiction of (IRS Employer
incorporated or organization) identification No.)
732 MONTGOMERY AVENUE, NARBERTH, PA 19072
-----------------------------------------
(Address of principal Executive Offices)
(610) 668-4700
----------------------------------------------------
(Registrant's telephone number, including area code)
N/A
-----------------------------------------------------
(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the bank (1) has filed all reports required to be
filed by Section 13 of the Securities Exchange Act of 1934 during the preceding
12 months (or for such shorter period that the bank was required to file such
reports), and (2) has been subject to such filing requirements for the past 90
days. Yes X No
------- ---------
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Exchange Act 12b-2). Yes X No
------- ---------
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Class A Common Stock Outstanding at July 31, 2004
-------------------- -----------------------------
$2.00 PAR VALUE 10,242,904
Class B Common Stock Outstanding at July 31, 2004
-------------------- -----------------------------
$.10 PAR VALUE 1,942,222
ROYAL BANCSHARES OF PENNSYLVANIA, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands, except share data)
ASSETS JUNE 30,2004 DEC 31, 2003
(UNAUDITED)
----------- -----------
Cash and due from banks $ 24,543 $ 17,470
Federal funds sold 25,000 7,600
----------- -----------
Total cash and cash equivalents 49,543 25,070
----------- -----------
Investment securities held to maturity (HTM) (fair value of $175,947 at
June 30, 2004 and $114,275 at December 31, 2003) 176,528 113,091
Investment securities available for sale (AFS) - at fair value 404,805 452,246
Loans held for sale 2,087 3,157
Loans 435,695 512,557
Less allowance for loan losses 12,539 12,426
----------- -----------
Net loans 423,156 500,131
Premises and equipment, net 70,824 7,480
Accrued interest and other assets 58,791 53,235
----------- -----------
Total assets $ 1,185,734 $ 1,154,410
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities
Deposits
Non-interest bearing $ 58,373 $ 58,942
Interest bearing (includes certificates of deposit in excess
of $100 of $96,238 at June 30, 2004 and
$104,123 at December 31, 2003) 705,299 732,117
----------- -----------
Total deposits 763,672 791,059
Accrued interest payable 8,021 7,733
Borrowings 267,762 212,000
Other liabilities 7,588 7,920
----------- -----------
Total liabilities 1,047,043 1,018,712
----------- -----------
MINORITY INTEREST 3,598 865
Stockholders' equity
Common stock
Class A, par value $2 per share; authorized, 18,000,000 shares; issued,
10,236,505 at June 30, 2004 and 10,027,284 at December 31, 2003 20,473 20,055
Class B, par value $.10 per share; authorized, 2,000,000 shares; issued,
1,942,222 at June 30, 2004 and 1,909,742 at December 31, 2003 194 191
Additional paid in capital 91,364 85,448
Retained earnings 22,223 24,989
Accumulated other comprehensive income 3,104 6,415
----------- -----------
137,358 137,098
Treasury stock - at cost, shares of Class A, 215,388 at June 30, 2004,
and December 31, 2003 (2,265) (2,265)
----------- -----------
Total stockholders' equity 135,093 134,833
----------- -----------
Total liabilities and stockholders' equity $ 1,185,734 $ 1,154,410
=========== ===========
The accompanying notes are an integral part of these statements.
ROYAL BANCSHARES OF PENNSYLVANIA, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED)
THREE MONTHS ENDED
JUNE 30,
-----------------------
(in thousands, except per share data)
2004 2003
------- -------
Interest income
Loans, including fees $10,018 $11,503
Investment securities held to maturity 1,219 579
Investment securities available for sale 5,095 5,427
Deposits in banks 146 199
Federal funds sold 30 46
------- -------
TOTAL INTEREST INCOME 16,508 17,754
------- -------
Interest expense
Deposits 4,288 5,732
Borrowings 2,681 1,899
------- -------
TOTAL INTEREST EXPENSE 6,969 7,631
------- -------
NET INTEREST INCOME 9,539 10,123
Provision for loan losses 4 167
------- -------
NET INTEREST INCOME AFTER PROVISION
FOR LOAN LOSSES 9,535 9,956
------- -------
Other income
Service charges and fees 319 302
Net gains on sales of investment securities 33 --
Gains on sales of other real estate 542 109
Gains on sales of loans 256 153
Other income 2,314 41
------- -------
3,464 605
------- -------
Other expenses
Salaries & wages 2,592 1,995
Employee benefits 558 508
Occupancy and equipment 1,593 328
Other operating expenses 2,039 1,851
------- -------
6,782 4,682
------- -------
INCOME BEFORE INCOME TAXES 6,217 5,879
Income taxes 1,823 1,899
------- -------
NET INCOME $ 4,394 $ 3,980
======= =======
Per share data
Net income - basic $ .36 $ .33
======= =======
Net income - diluted $ .36 $ .33
======= =======
The accompanying notes are an integral part of these statements
ROYAL BANCSHARES OF PENNSYLVANIA, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED)
SIX MONTHS ENDED
JUNE 30,
----------------------
(in thousands, except per share data)
2004 2003
------- -------
Interest income
Loans, including fees $20,652 $23,690
Investment securities held to maturity 2,393 1,171
Investment securities available for sale 10,651 10,950
Deposits in banks 287 284
Federal funds sold 53 90
------- -------
TOTAL INTEREST INCOME 34,036 36,185
------- -------
Interest expense
Deposits 8,655 12,163
Borrowings 5,044 3,495
------- -------
TOTAL INTEREST EXPENSE 13,699 15,658
------- -------
NET INTEREST INCOME 20,337 20,527
Provision for loan losses 5 317
------- -------
NET INTEREST INCOME AFTER PROVISION
FOR LOAN LOSSES 20,332 20,210
------- -------
Other income
Service charges and fees 671 555
Net gains on sales of investment securities 226 144
Gains on sales of other real estate 874 189
Gains on sales of loans 432 284
Other income 4,444 57
------- -------
6,647 1,229
------- -------
Other expenses
Salaries & wages 4,682 3,983
Employee benefits 1,070 892
Occupancy and equipment 2,014 665
Other operating expenses 5,592 3,686
------- -------
13,358 9,226
------- -------
INCOME BEFORE INCOME TAXES 13,621 12,213
Income taxes 4,063 3,833
------- -------
NET INCOME $ 9,558 $ 8,380
======= =======
Per share data
Net income - basic $ .78 $ .69
======= =======
Net income - diluted $ .77 $ .69
======= =======
The accompanying notes are an integral part of these statements
ROYAL BANCSHARES OF PENNSYLVANIA, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
AND COMPREHENSIVE INCOME
SIX MONTHS ENDED JUNE 30, 2004
(UNAUDITED)
ACCUMULATED
CLASS A CLASS B ADDITIONAL OTHER COMPRE-
COMMON STOCK COMMON STOCK PAID IN RETAINED TREASURY COMPREHENSIVE HENSIVE
(in thousands) SHARES AMOUNT SHARES AMOUNT CAPITAL EARNINGS STOCK INCOME (LOSS) INCOME
------ -------- ----- -------- ---------- -------- -------- ------------ --------
Balance, January 1, 2004 10,027 $ 20,054 1,909 $ 191 $ 85,448 $ 24,989 $ (2,265) $ 6,415
Net income for the nine months
ended June 30, -- -- -- -- -- 9,558 -- -- $ 9,558
Conversion of Class B common
stock to Class A C 7 14 (6) (1) -- (13) -- -- --
Purchase of treasury stock -- -- -- -- -- -- -- -- --
2% stock dividend declared 196 392 39 4 5,842 (6,237) -- --
Cash dividends on common stock -- -- -- -- -- (6,063) -- -- --
Cash in lieu of fractional shares -- -- -- -- -- (11) -- -- --
Stock options exercised 7 13 -- -- 74 -- -- -- --
Other comprehensive income, net of
Reclassifications and taxes -- -- -- -- -- -- -- (3,311) (3,311)
------ -------- ----- -------- -------- -------- -------- -------- --------
Comprehensive income $ 6,247
========
Balance, June 30, 2004 10,237 $ 20,473 1,942 $ 194 $ 91,364 $ 22,223 $ (2,265) $ 3,104
====== ======== ===== ======== ======== ======== ======== ========
The accompanying notes are an integral part of the financial statement.
ROYAL BANCSHARES OF PENNSYLVANIA, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
SIX MONTHS ENDED JUNE 30,
(in thousands)
Cash flows from operating activities 2004 2003
--------- ---------
Net income $ 9,558 $ 8,380
Adjustments to reconcile net income to
net cash provided by (used in) operating activities
Depreciation 420 517
Provision for loan loss 5 317
Net accretion of discounts on loans,
mortgage-backed securities and investments 1,539 101
Provision for deferred income taxes (711) 269
Gains on other real estate (874) (189)
Gains on sales of loans (432) (284)
Net (gain) loss on sales of investment securities (226) (144)
Changes in assets and liabilities:
Increase (decrease) in accrued interest receivable 1,132 (1,255)
(Increase) in other assets (5,915) (1,651)
Increase (decrease) in accrued interest payable 6,804 (651)
Increase (decrease) in other liabilities 773 (9)
--------- ---------
Net cash provided by operating activities 12,013 5,401
Cash flows from investing activities
Proceeds from calls/maturities of HTM investment securities 89,285 2,000
Proceeds from calls/maturities of AFS investment securities 126,104 131,522
Proceeds from sales of AFS investment securities 890 19,078
Purchase of AFS investment securities (86,302) (182,766)
Purchase of HTM investment securities (155,125) --
Redemption (purchase) of FHLB Stock 807 (3,654)
Net decrease in loans 78,208 29,323
Purchase of premises and equipment (63,764) (359)
--------- ---------
Net cash (used in) investing activities (9,897) (4,856)
Cash flows from financing activities:
Net (decrease) increase in non-interest bearing and
interest bearing demand deposits and savings accounts (5,280) 83,078
Net decrease in certificates of deposit (22,106) (64,722)
Mortgage payments (31) (30)
Net increase in borrowings 55,762 80,000
Cash dividends (6,064) (5,640)
Cash in lieu of fractional shares (11) (8)
Issuance of common stock under stock option plans 87 193
--------- ---------
Net cash provided by financing activities 22,357 92,871
NET INCREASE IN
CASH AND CASH EQUIVALENTS 24,473 93,416
Cash and cash equivalents at beginning of year 25,070 40,571
--------- ---------
Cash and cash equivalents at end of year $ 49,543 $ 133,987
========= =========
The accompanying notes are an integral part of these statements
ROYAL BANCSHARES OF PENNSYLVANIA, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
The accompanying unaudited consolidated financial statements include the
accounts of Royal Bancshares of Pennsylvania, Inc. (the Company) and its
wholly-owned subsidiaries: Royal Investments of Delaware, Inc. and Royal Bank of
Pennsylvania (the Bank), Royal Real Estate of Pennsylvania, Inc., Royal
Investment of Pennsylvania, Inc. and its 60% ownership interest in Crusader
Servicing Corporation. These financial statements reflect the historical
information of the Company. All significant inter-company transactions and
balances have been eliminated.
1. The accompanying unaudited condensed financial statements have been
prepared in accordance with accounting principles generally accepted in the
United States of America (US GAAP) for interim financial information. The
financial information included herein is unaudited; however, such
information reflects all adjustments (consisting solely of normal recurring
adjustments) that are, in opinion of management, necessary to present a
fair statement of the results for the interim periods. These interim
financial statements should be read in conjunction with the consolidated
financial statements and footnotes thereto included in our Annual Report on
Form 10-K for the year ended December 31, 2003. The results of operations
for the three-month period ended June 30, 2004, are not necessarily
indicative of the results, to be expected for the full year.
2. Segment Information
The Company's community banking segment consists of commercial and retail
banking. The community banking business segment is managed as a single
strategic unit which generates revenue from a variety of products and
services provided by the Bank. For example, commercial lending is dependent
upon the ability of the Bank to fund itself with retail deposits and other
borrowings and to manage interest rate and credit risk. The same is also
true for consumer and residential mortgage lending.
The Company's tax lien operation does not meet the quantitative thresholds
for requiring disclosure, but has different characteristics to the
community banking operation. The Company's tax lien operation consists of
purchasing delinquent tax certificates from local municipalities at
auction. The tax lien operation is managed as a single strategic unit which
generates revenue from a nominal interest rate achieved at the individual
auction along with periodic penalties imposed.
The accounting policies used in this disclosure of business segments are
the same as those described in the summary of significant accountings
policies. The consolidating adjustments reflect certain eliminations of
inter-segment revenues, cash and investments in subsidiaries.
SIX MONTHS ENDED JUNE 30 2004,
---------------------------------------------------------
(in thousands) COMMUNITY TAX LIEN
BANKING OPERATION CONSOLIDATED
------------ ------------------- -----------------
Total assets $1,135,750 $49,984 $1,185,734
Total deposits 763,672 -- 763,672
Net interest income 18,699 1,638 20,337
Provision for loan losses -- 5 5
Other income 5,681 966 6,647
Other expense 12,086 1,272 13,358
Income tax expense 3,809 254 4,063
------------ ------------------- -----------------
Net income $8,485 $1,073 $9,558
============ =================== =================
SIX MONTHS ENDED JUNE 30, 2003,
---------------------------------------------------------
(in thousands) COMMUNITY TAX LIEN
BANKING OPERATION CONSOLIDATED
------------ ------------------- -----------------
Total assets $1,147,104 $48,725 $1,195,829
Total deposits 839,197 -- 839,197
Net interest income 18,803 1,724 20,527
Provision for loan losses 300 17 317
Other income 1,051 178 1,229
Other expense 8,217 1,009 9,226
Income tax expense 3,614 219 3,833
------------- ------------------- -----------------
Net income $7,723 $657 $8,380
============= =================== =================
Interest paid to the Community Bank segment by the Tax Lien Operation was
approximately $857 thousand and $974 thousand for the six months period
ending June 30, 2004, and 2003, respectively.
3. Per Share Information
The Company follows the provisions of SFAS No. 128, "Earnings Per Share.
Basic EPS excludes dilution and is computed by dividing income available to
common shareholders by the weighted average common shares outstanding
during the period. Diluted EPS takes into account the potential dilution
that could occur if securities or other contracts to issue common stock
were exercised and converted into common stock. In January 2004 the Company
declared a 2% stock dividend. All share and per share information has been
restated to reflect this dividend. Basic and diluted EPS are calculated as
follows (In thousands, except per share data):
THREE MONTHS ENDED JUNE 30, 2004
Income Average shares Per share
(numerator) (denominator) Amount
-------------- ------------------ --------------
Basic EPS
Income available to common shareholders $4,394 12,253 $0.36
Effect of dilutive securities
Stock options 79 --
-------------- ------------------ --------------
Diluted EPS
Income available to common shareholders
Plus assumed exercise of options $4,394 12,332 $0.36
THREE MONTHS ENDED JUNE 30, 2003
Income Average shares Per share
(numerator) (denominator) Amount
-------------- ------------------ --------------
Basic EPS
Income available to common shareholders $3,980 12,113 $0.33
Effect of dilutive securities
Stock options 59 --
-------------- ------------------ --------------
Diluted EPS
Income available to common shareholders
Plus assumed exercise of options $3,980 12,172 $0.33
SIX MONTHS ENDED JUNE 30, 2004
Income Average shares Per share
(numerator) (denominator) Amount
-------------- ------------------ --------------
Basic EPS
Income available to common shareholders $9,558 12,251 $0.78
Effect of dilutive securities
Stock options 86 (.01)
-------------- ------------------ --------------
Diluted EPS
Income available to common shareholders
Plus assumed exercise of options $9,558 12,337 $0.77
SIX MONTHS ENDED JUNE 30, 2003
Income Average shares Per share
(numerator) (denominator) Amount
-------------- ------------------ --------------
Basic EPS
Income available to common shareholders $8,380 12,110 $0.69
Effect of dilutive securities
Stock options 57 --
-------------- ------------------ --------------
Diluted EPS
Income available to common shareholders
Plus assumed exercise of options $8,380 12,167 $0.69
4. Investment Securities:
The carrying value and approximate market value of investment
securities at June 30, 2004 are as follows:
AMORTIZED GROSS GROSS APPROXIMATE
PURCHASED UNREALIZED UNREALIZED FAIR CARRYING
(in thousands) COST GAINS LOSSES VALUE VALUE
--------- --------- --------- --------- ---------
HELD TO MATURITY:
Mortgage Backed $ 281 $ -- $ -- $ 281 $ 281
US Agencies 155,125 -- (1,446) 153,679 155,125
Other Securities 21,122 866 (1) 21,987 21,122
--------- --------- --------- --------- ---------
$ 176,528 $ 866 ($ 1,447) $ 175,947 $ 176,528
========= ========= ========= ========= =========
AVAILABLE FOR SALE:
Federal Home Loan
Bank Stock - at cost $ 10,600 $ -- $ -- $ 10,600 $ 10,600
Mortgage Backed 58,056 115 (462) 57,709 57,709
CMO's 33,212 258 -- 33,470 33,470
US Agencies 94,976 -- (3,316) 91,660 91,660
Other securities 203,257 8,548 (439) 211,366 211,366
--------- --------- --------- --------- ---------
$ 400,101 $ 8,921 ($4,217) $ 404,805 $ 404,805
========= ========= ========= ========= =========
5. Allowance for Credit Losses: Changes in the allowance for credit losses were
as follows:
THREE MONTHS ENDED JUNE 30,
2004 2003
--------------- ---------------
(in thousands)
BALANCE AT BEGINNING OF PERIOD, $12,467 $12,602
Loans charged-off (34) (142)
Recoveries 102 27
--------------- ---------------
Net charge-offs and recoveries 68 (115)
Provision for loan losses 4 167
--------------- ---------------
BALANCE AT END OF PERIOD $12,539 $12,654
=============== ===============
SIX MONTHS ENDED JUNE 30,
2004 2003
--------------- ---------------
(in thousands)
BALANCE AT BEGINNING OF PERIOD, $12,426 $12,470
Loans charged-off (91) (201)
Recoveries 199 68
--------------- ---------------
Net charge-offs and recoveries 108 (133)
Provision for loan losses 5 317
--------------- ---------------
BALANCE AT END OF PERIOD $12,539 $12,654
=============== ===============
6. Non-performing loans
Loans on which the accrual of interest has been discontinued or reduced
amounted to approximately $6.8 million and $13.9 million at June 30, 2004
and 2003, respectively. Although the Company has non-performing loans of
approximately $6.8 million at June 30, 2004, management believes it has
adequate collateral to limit its credit risk with these loans.
The balance of impaired loans which included the loans on which the accrual
of interest has been discontinued, was approximately $6.8 million and $13.9
million at June 30, 2004 and 2003, respectively. The Company identifies a
loan as impaired when it is probable that interest and principal will not
be collected according to the contractual terms of the loan agreements.
Although the company recognizes the balances of impaired loans when
analyzing its' loan loss reserve, the allowance for loan loss associated
with impaired loans was $1.0 million at June 30, 2004. The income that was
recognized on impaired loans during the three-month period ended June 30,
2004 was $-0-. The cash collected on impaired loans during the same period
was $95 thousand of which $95 thousand was credited to the principal
balance outstanding on such loans. The Company's policy for interest income
recognition on impaired loans is to recognize income on currently
performing restructured loans under the accrual method. The Company
recognizes income on non-accrual loans under the cash basis when the
principal payments on the loans become current and the collateral on the
loan is sufficient to cover the outstanding obligation to the Company. If
these factors do not exist, the Company does not recognize income.
7. Pension Plan
The Company has a noncontributory nonqualified defined benefit pension plan
covering certain eligible employees. The Company-sponsored pension plan
provides retirement benefits under pension trust agreements and under
contracts with insurance companies. The benefits are based on years of
service and the employee's compensation during the highest consecutive
years during the last 10 years of employment. The Company's policy is to
fund pension costs allowable for income tax purposes.
Net periodic defined benefit pension expense for the six months ended June
30, 2004 and 2003 included the following components:
2004 2003
------- --------
Service cost 382 206
Interest cost 106 107
------- --------
Net periodic benefit cost 488 313
8. Stock-based Compensation
At June 30, 2004, the Company had both a director and employee stock-based
compensation plan. The Company accounts for the plan under the recognition
and measurement principals of APB No. 25, "Accounting for Stock Issued to
Employee, and related interpretations. Stock-based employee compensation
cost are not reflected in net income, as all options granted under the plan
had an exercise price equal to the market value under the underlying common
stock of the date of the grant.
The Financial Accounting Standards Board issued Statement of Financial
Accounting Standards No. 148 "Accounting for Stock-Based
Compensation--Transition and Disclosure" ("SFAS No. 148") in December 2002.
SFAS No. 148 amends the disclosure and certain transition provisions of
Statement of Financial Accounting Standards No. 123 "Accounting for
Stock-Based Compensation". The new disclosure provisions are effective for
financial statements for fiscal years ending after December 15, 2002 and
financial reports containing condensed financial statement for interim
periods beginning after December 15, 2002.
The following table provides the disclosure required by SFAS No. 148 and
illustrates the effect on net income and earnings per share if the Company
had applied the fair value recognition provisions of SFAS No. 123 to
stock-based employee compensation.
(in thousands, except per share data) 2004 2003
----- ----
Net income (loss), as reported $9,558 $8,380
Less: Stock-based compensation costs under
Fair value based method for all awards. (212) (218)
--------- --------
Pro forma net income $9,346 $8,162
Earnings per share - Basic As reported $0.78 $0.69
Pro forma $0.76 $0.67
Earnings per share - Diluted As reported $0.77 $0.69
Pro forma $0.76 $0.67
9. Variable Interest Entities ("VIE")
The Company, together with a real estate development company, formed Brook
View Investors, L.L.C. ("Brook View") in May 2001. Brook View was formed to
construct 13 apartment buildings with a total of 116 units in a gated apartment
community. The development company is the general partner of the project. The
Company invested 60% of initial capital contributions with the development
company holding the remaining equity interest. Upon the repayment of the initial
capital contributions and a preferred return, distributions will convert to 50%
for the Company and 50% for the development company. At June 30, 2004, Brook
View had total assets of $13.4 million and total borrowings of $13.0 million of
which $0 is guaranteed by the Company. The Company has determined that Brook
View is a VIE and it is the primary beneficiary. The Company's exposure to loss
due to its investment in and receivables due from Brook View is $332 thousand.
The Company, together with a real estate development company, formed
Burrough's Mill Apartment, L.L.C. ("Burrough's Mill") in December 2001.
Burrough's Mill was formed to construct 32 apartment buildings with a total of
308 units in a gated apartment community. The development company is the general
partner of the project. The Company invested 72% of initial capital
contributions with the development company holding the remaining equity
interest. Upon the repayment of the initial capital contributions and a
preferred return, distributions will convert to 50% for the Company and 50% for
the development company. At June 30, 2004, Burrough's Mill had total assets of
$34.7 million and total borrowings of $27.7 million of which $0 is guaranteed by
the Company. The Company has determined that Burrough's Mill is a VIE and it is
the primary beneficiary. The Company's exposure to loss due to its investment in
and receivables due from Burrough's Mill is $5.0 million.
The Company, together with a real estate development company, formed Main
Street West Associates, L.P. ("Main Street") in February 2002. Main Street was
formed to acquire, maintain, improve, and operate office space located in
Norristown, Pennsylvania. The development company is the general partner of the
project. The Company invested 90% of initial capital contributions with the
development company holding the remaining equity interest. Upon the repayment of
the initial capital contributions and a preferred return, distributions will
convert to 50% for the Company and 50% for the development company. At June 30,
2004, Main Street had total assets of $3.7 million and total borrowings of $3.0
million of which $0 is guaranteed by the Company. The Company has determined
that Main Street is a VIE and it is the primary beneficiary. The Company's
exposure to loss due to its investment in and receivables due from Main Street
is $1.0 million.
The Company, together with a real estate investment company, formed 212 C
Associates, L.P. ("212 C") in May 2002. 212 C was formed to acquire, hold,
improve, and operate office space located in Lansdale, Pennsylvania. The
investment company is the general partner of the project. The Company invested
90% of initial capital contributions with the investment company holding the
remaining equity interest. Upon the repayment of the initial capital
contributions and a preferred return, distributions will convert to 50% for the
Company and 50% for the investment company. At June 30, 2004, 212 C had total
assets of $14.2 million and total borrowings of $12.1 million of which $0 is
guaranteed by the Company. The Company has determined that 212 C is a VIE and it
is the primary beneficiary. The Company's exposure to loss due to its investment
in and receivables due from 212 C is $1.7 million.
ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULT OF OPERATIONS
The following discussion and analysis is intended to assist in
understanding and evaluating the changes in the financial condition and earnings
performance of the Company and its' subsidiaries for the six-month period ended
June 30, 2004.
From time to time, the Company may include forward-looking statements
relating to such matters as anticipated financial performance, business
prospects, technological developments, new products, research and development
activities and similar matters in this and other filings with the Securities
Exchange Commission. The Private Securities Litigation Reform Act of 1995
provides safe harbor for forward-looking statements. In order to comply with the
terms of the safe harbor, the Company notes that a variety of factors could
cause the Company's actual results and experience to differ materially from the
anticipated results or other expectations expressed in the Company's
forward-looking statements. The risks and uncertainties that may affect the
operations, performance development and results of the Company's business
include the following: general economic conditions, including their impact on
capital expenditures, business conditions in the banking industry; the
regulatory environment; rapidly changing technology and evolving banking
industry standards; competitive factors, including increased competition with
community, regional and national financial institutions; new service and product
offerings by competitors and price pressures and similar items.
CRITICAL ACCOUNTING POLICIES, JUDGEMENTS AND ESTIMATES
The accounting and reporting policies of the company conform with
accounting principals generally accepted in the United States of America and
general practices within the financial services industry. The preparation of the
financial statements in conformity with accounting principles generally accepted
in the United States of America requires management to make estimates and
assumptions that affect the amounts reported in the financial statements and the
accompanying notes. Actual results could differ from those estimates.
Allowance for Credit Losses
The company considers that the determination of the allowance for loan
losses involves a higher degree of judgment and complexity than its other
significant accounting policies. The balance in the allowance for loan losses is
determined based on management's review and evaluation of the loan portfolio in
relation to past loss experience, the size and composition of the portfolio,
current economic events and conditions, and other pertinent factors, including
management's assumptions as to future delinquencies, recoveries and losses. All
of these factors may be susceptible to significant change. To the extent actual
outcomes differ from managements estimates, additional provisions for loan
losses may be required that would adversely impact earnings in future periods.
Income Taxes
Under the liability method, deferred tax assets and liabilities are
determined based on the difference between the financial statement and tax basis
of assets and liabilities. Deferred tax assets are subject to managements'
judgment based upon available evidence that future realization is more likely
than not. If management determines that the company may be unable to realize all
or part of the net deferred tax assets in the future, a direct charge to income
tax expense may be required to reduce the recorded value of net deferred tax
assets to the expected realizable amount.
FINANCIAL CONDITION
Total consolidated assets as of June 30, 2004 were $1,186 million, an
increase of $32 million from the $1,154 million reported at year-end, December
31, 2003. This increase is primarily due to $59 million of assets relating to
investments in real estate partnerships that are now being consolidated as a
result of FIN 46(R). Previously these investments were accounted for under the
equity method of accounting.
Total loans decreased $76.9 million from the $512.6 million level at
December 31, 2003 to $435.7 million at June 30, 2004. This decrease is
attributed to the speed of loans payoffs resulting from project completions and
rate restructuring. The year-to-date average balance of loans was $480.5 million
at June 30, 2004.
The allowance for loan loss increased $113 thousand to $12.5 million at
June 30, 2004 from $12.4 million at December 31, 2003. The level of allowance
for loan loss reserve represents approximately 2.9% of total loans at June 30,
2004 versus 2.4% at December 31, 2003. While management believes that, based on
information currently available, the allowance for loan loss is sufficient to
cover losses inherent in the Company's loan portfolio at this time, no
assurances can be given that the level of allowance will be sufficient to cover
future loan losses or that future adjustments to the allowance will be
sufficient to cover future loan losses or that future adjustments to the
allowance will not be necessary if economic and/or other conditions differ
substantially from the economic and other conditions considered by management in
evaluating the adequacy of the current level of the allowance.
The $16.0 million increase in total investment securities is primarily
attributable to the redeployment of excess cash held during the quarter.
Total cash and cash equivalents increased $24.4 million from the $25.1
million level at December 31, 2003 to $49.5 million at June 30, 2004. This
increase is primarily due to loan payoffs which occurred at the end of the
quarter.
Total deposits, the primary source of funds, decreased $27.4 million to
$763.7 million at June 30, 2004, from $791.1 million at December 31, 2003. The
balance of brokered deposits was $73.1 million, representing approximately 10%
of total deposits at June 30, 2004. Generally, these brokered deposits cannot be
redeemed prior to the stated maturity, except in the event of the death or
adjudication of incompetence of the deposit holder.
Total borrowings increased $55.8 million to $267.8 million at June 30,
2004, from $212.0 million at December 31, 2003. This increase is primarily
attributed to the consolidation of investments in real estate partnerships as a
result of FIN 46(R). In the balance at June 30, 2004, $55.8 million of
borrowings are not an obligation nor guaranteed by the company.
Consolidated stockholder's equity increased $260 thousand to $135.1 million
at June 30, 2004 from $134.8 million at December 31, 2003. This increase is
primarily due to net income of $9.6 million, partially offset by quarterly cash
dividends totaling $6.1 million. Additionally, stockholders' equity decreased by
$3.3 million due to an adjustment in the market value of available-for-sale
investment securities during the first six months of 2004.
RESULTS OF OPERATIONS
Results of operations depend primarily on net interest income, which is the
difference between interest income on interest earning assets and interest
expense on interest bearing liabilities. Interest earning assets consist
principally of loans and investment securities, while interest bearing
liabilities consist primarily of deposits and borrowings. Net income is also
effected by the provision for loan losses and the level of non-interest income
as well as by non-interest expenses, including salary and employee benefits,
occupancy expenses and other operating expenses.
Consolidated net income for the three months ended, June 30, 2004 was $4.4
million or $0.36 basic earnings per share, as compared to net income of $4.0
million or $0.33 basic earnings per share for the same three month period in
2003. Consolidated net income for the six months ended, June 30, 2004 was $9.6
million or $0.78 basic earnings per share, as compared to net income of $8.4
million or $0.69 basic earnings per share for the same six month period in 2003.
For the second quarter 2004, net interest income was $9.5 million as
compared to $10.1 million for the same quarter in 2003, a decrease of $584
thousand. This decrease is primarily due to $865 thousand of interest paid
relating to investments in real estate partnerships that are now being
consolidated as a result of FIN 46(R). Interest income including fees on loans
decreased $1.5 million for the second quarter of 2004 versus 2003 primarily due
to a decrease in the average balance of loans during the same period. Interest
income on investment securities during the second quarter increased $308
thousand, a 5% increase over the same three-month period in 2003, which is
primarily due to the larger average balance in investment securities held during
the quarter. Total interest expense on deposits and borrowings decreased $662
thousand to $7.0 million as compared to $7.6 million for the same three-month
period in 2003. This decrease in interest expense is primarily due the reduction
of interest rates on deposits and borrowings offset by an increase of interest
reported as a result investments in real estate partnerships that are now being
consolidated as a result of FIN 46(R).
Provision for loan losses was $4 thousand for the second quarter of 2004
and $167 for the same three-month period in 2003. Charge-offs and recoveries
were $34 thousand and $102 thousand respectively. Overall, management considers
the current level of allowance for loan loss to be adequate at June 30, 2004.
Total non-interest income for the three-month period ended June 30, 2004
was $3.5 million as compared to $605 thousand for the same three-month period in
2003. The $2.9 million increase in 2004 is primarily due to a $2.4 million
addition from the consolidation as a result of FIN 46(R) and gains realized from
the sale of other real estate owned.
Total non-interest expense for the three months ended June 30, 2004 was
$6.8 million, an increase of $2.1 million, as compared to $4.7 million for the
same period in 2003. The increase is primarily attributed to the $1.3 million
addition from the consolidation as a result of FIN 46(R).
CAPITAL ADEQUACY
The company is required to maintain minimum amounts of capital to total
"risk weighted" assets and a minimum Tier 1 leverage ratio, as defined by the
banking regulators. At June 30, 2004, the Company was required to have a minimum
Tier 1 and total capital ratios of 4% and 8%, respectively, and a minimum Tier 1
leverage ratio of 3% plus an additional 100 to 200 basis points.
The table below provides a comparison of Royal Bancshares of
Pennsylvania's risk-based capital ratios and leverage ratios:
JUNE 30, 2004 DECEMBER 31, 2003
------------- -----------------
CAPITAL LEVELS
Tier 1 leverage ratio 11.4% 11.1%
Tier 1 risk-based ratio 16.1% 15.3%
Total risk-based ratio 17.4% 16.5%
CAPITAL PERFORMANCE
Return on average assets 1.5% (1) 1.6% (1)
Return on average equity 13.3% (1) 14.5% (1)
(1) annualized
The Company's ratios compare favorably to the minimum required amounts of
Tier 1 and total capital to "risk weighted" assets and the minimum Tier 1
leverage ratio, as defined by banking regulators. The Company currently meets
the criteria for a well-capitalized institution, and management believes that
the Company will continue to meet its' minimum capital requirements. At present,
the Company has no commitments for significant capital expenditures.
The Company is not under any agreement with regulatory authorities nor is
the Company aware of any current recommendations by the regulatory authorities
that, if such recommendations were implemented, would have a material effect on
liquidity, capital resources or operations of the Company.
LIQUIDITY & INTEREST RATE SENSITIVITY
Liquidity is the ability to ensure that adequate funds will be available to
meet its' financial commitments as they become due. In managing its' liquidity
position, all sources of funds are evaluated, the largest of which is deposits.
Also taken into consideration is the repayment of loans. These sources provide
alternatives to meet its' short-term liquidity needs. Longer liquidity needs may
be met by issuing longer-term deposits and by raising additional capital. The
liquidity ratio is generally maintained equal to or greater than 25% of deposits
and short-term liabilities.
The liquidity ratio of the Company remains strong at approximately 53% and
exceeds the Company's peer group levels and target ratio set forth in the
Asset/Liability Policy. The Company's level of liquidity is provided by funds
invested primarily in corporate bonds, capital trust securities, US Treasuries
and agencies, and to a lesser extent, federal funds sold. The overall liquidity
position is monitored on a monthly basis.
Interest rate sensitivity is a function of the repricing characteristics of
the Company's assets and liabilities. These include the volume of assets and
liabilities repricing, the timing of the repricing, and the interest rate
sensitivity gaps is a continual challenge in a changing rate environment. The
following table shows separately the interest sensitivity of each category of
interest earning assets and interest bearing liabilities as of June 30, 2004:
INTEREST RATE SENSITIVITY
(IN MILLIONS) DAYS
-------------------------- 1 TO 5 OVER 5 NON-RATE
ASSETS 0 - 90 91 - 365 YEARS YEARS SENSITIVE TOTAL
------------ ------------ ------------ ------------ ------------ ------------
Interest-bearing deposits in banks $15.1 $-- $-- $-- $9.4 $24.5
Federal funds sold 25.0 -- -- -- -- 25.0
Investment securities:
Available for sale 18.1 19.8 264.4 97.8 4.7 404.8
Held to maturity 1.0 11.5 162.7 1.3 -- 176.5
------------ ------------ ------------ ------------ ------------ ------------
Total investment securities 19.1 31.3 427.1 99.1 4.7 581.3
Loans:
Fixed rate 36.1 60.5 118.7 7.0 -- 222.3
Variable rate 121.5 93.9 -- -- (12.5) 202.9
------------ ------------ ------------ ------------ ------------ ------------
Total loans 157.6 154.4 118.7 7.0 (12.5) 425.2
Other assets -- -- -- -- 129.7 129.7
------------ ------------ ------------ ------------ ------------ ------------
Total Assets $216.8 $185.7 $545.8 $106.1 $131.3 $1,185.7
============ ============ ============ ============ ============ ============
LIABILITIES & CAPITAL
Deposits:
Non interest bearing deposits $-- $-- $-- $-- $58.4 $58.4
Interest bearing deposits 56.9 170.7 262.9 -- -- 490.5
Certificate of deposits 51.1 73.1 80.5 10.1 -- 214.8
------------ ------------ ------------ ------------ ------------ ------------
Total deposits 108.0 243.8 343.4 10.1 58.4 763.7
Borrowings (1) -- 67.0 87.5 57.5 55.8 267.8
Other liabilities -- -- .3 -- 18.8 19.1
Capital -- -- -- -- 135.1 135.1
------------ ------------ ------------ ------------ ------------ ------------
Total liabilities & capital $108.0 $310.8 $431.2 $67.6 $268.1 $1,185.7
============ ============ ============ ============ ============ ============
Net interest rate GAP $108.8 ($125.1) $114.6 $38.5 ($136.8)
============ ============ ============ ============ ============
Cumulative interest rate GAP $108.8 ($16.3) $98.3 $136.8 --
============ ============ ============ ============ ============
GAP to total assets 9% (11%)
============ ============
GAP to total equity 81% (93%)
============ ============
Cumulative GAP to total assets 9% (1%)
============ ============
Cumulative GAP to total equity 81% (12%)
============ ============
(1) The $55.8 in borrowings classified as non-rate sensitive are related to
variable interest entities and are not obligations of the Company.
The Company's exposure to interest rate risk is mitigated somewhat by a
portion of the Company's loan portfolio consisting of floating rate loans, which
are tied to the prime lending rate but which have interest rate floors and no
interest rate ceilings. Although the Company is originating fixed rate loans, a
portion of the loan portfolio continues to be comprised of floating rate loans
with interest rate floors.
ITEM 4 - CONTROLS AND PROCEDURES
We maintain a system of controls and procedures designed to provide
reasonable assurance to the reliability of the financial statements and other
disclosures included in this report, as well as to safeguard assets from
unauthorized use or disposition. We evaluated the effectiveness of the design
and operation of our disclosure controls and procedures under the supervision
and with the participation of management, including our Chief Executive Officer
and Chief Financial Officer, within 90 days prior to the filing date of this
report. Based upon that evaluation, our disclosure controls and procedures are
effective in timely alerting them to material information required to be
included in our periodic Securities and Exchange Commission filings. No
significant changes were made to our internal controls or other factors that
could significantly affect these controls subsequent to the date of their
evaluation.
RECENT ACCOUNTING PRONOUNCEMENTS
In January 2003, the FASB issued Interpretation No. 46, Consolidation of
Variable Interest Entities (FIN 46). In general, a variable interest entity is a
corporation, partnership, trust or any other legal structures used for business
purposes that either (a) does not have equity investors with voting rights or
(b) has equity investors that do not provide sufficient financial resources for
the entity to support its activities. FIN 46 requires certain variable interest
entities to be consolidated by the primary beneficiary if the investors do not
have the characteristics of a controlling financial interest or do not have
sufficient equity at risk for the entity to finance its activities without
additional subordinated financial support from other parties. The consolidation
requirements of FIN 46 apply immediately to interest entities created after
January 31, 2003. In December 2003, the FASB issued FIN 46(R) with respect to
variable interest entities created before January 31, 2003, which among other
things revised the implementation date to the first fiscal year or interim
period ended after March 15, 2004, with the exception of Special Purpose
Entities (SPE). The Company currently has no SPEs. The Company adopted the
provisions of FIN 46 effective for the period ending March 31, 2004, which
required the Company to consolidate its investment in real estate partnerships.
Prior to FIN 46 and 46(R), the Company accounted for its investment in the real
estate partnerships under the equity method of accounting.
The Company's investment in real estate partnerships is further discussed in
Note 9.
In November 2003, the Emerging Issues Task Force (EITF) of the FASB issued
EITF Abstract 03-1, The Meaning of Other-Than-Temporary Impairment and its
Application to Certain Investments (EITF 03-1). The quantitative and qualitative
disclosures provisions of EITF 03-1 were effective for years ending after
December 15, 2003 and were included in the Corporation's 2003 Form 10-K. In
March 2004, the EITF issued a Consensus on Issue 03-1 requiring that the
provisions of EITF 03-1 be applied for reporting periods beginning after June
15, 2004 to investments accounted for under SFAS No. 115 and 124. EITF 03-1
establishes a three-step approach for determining whether an investment is
considered impaired, whether the impairment is other-than-temporary, and the
measurement of an impairment loss. The Corporation is in the process of
determining the impact that this EITF will have on its financial statements.
The SEC recently released Staff Accounting Bulletin No. 105, Application of
Accounting Principles to Loan Commitments. SAB 105 provides guidance about the
measurements of loan commitments recognized at fair value under FASB Statement
No. 133, Accountings for Derivative Instruments and Hedging Activities. SAB 105
also requires companies to disclose their accounting policy for those loan
commitments including methods and assumptions used to estimate fair value and
associated hedging strategies. SAB 105 is effective for all loan commitments
accounted for as derivatives that are entered into after March 31, 2004. The
adoption of SAB 105 is not expected to have a material effect on our
consolidated financial statements.
On March 31, 2004, the Financial Accounting Standards Board (FASB) issued a
proposed Statement, Share-Based Payment an Amendment of FASB Statements No. 123
and APB No. 95, that addresses the accounting for share-based payment
transactions in which an enterprise receives employee services in exchange for
(a) equity instruments of the enterprise or (b) liabilities that are based on
the fair value of the enterprise's equity instruments or that may be settled by
the issuance of such equity instruments. Under the FASB's proposal, all forms of
share-based payments to employees, including employee stock options, would be
treated the same as other forms of compensation by recognizing the related cost
in the income statement. The expense of the award would generally be measured at
fair value at the grant date. Current accounting guidance requires that the
expense relating to so called fixed plan employee stock options only be
disclosed in the footnotes to the financial statements. The proposed Statement
would eliminate the ability to account for share-based compensation transactions
using APB Opinion No. 25, Accounting for Stock Issued to Employees. The Company
is currently evaluating this proposed statement and its effects on its results
of operations.
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
None
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
None
ITEM 3. DEFAULT AND UPON SENIOR SECURITIES
None
ITEM 4. SUBMISSION OF MATTERS TO VOTE SECURITY HOLDERS
On Wednesday, May 19, 2004, the Annual Meeting of Shareholders of Royal
Bancshares of Pennsylvania was convened in Philadelphia, PA at 6:30 P.M. The
following nominees were elected as Class II Directors of the Registrant to serve
for a three year term:
FOR WITHHOLD
--- --------
Jack Loew 25,285,186 9,945
Anthony MiCale 25,286,693 8,438
Mitchell Morgan 25,287,443 7,688
Albert Ominsky 25,285,186 9,945
Gregory Reardon 25,286,693 8,438
Robert Tabas 25,151,534 143,597
ITEM 5. OTHER INFORMATION
None
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
31.1 Section 302 Certification Pursuant to Section 13(a) or 15(d) of the
Securities and Exchange Act of 1934 signed by Joseph P. Campbell, Chief
Executive Officer of Royal Bancshares of Pennsylvania on August 9, 2004.
31.2 Section 302 Certification Pursuant to Section 13(a) or 15(d) of the
Securities and Exchange Act of 1934 signed by Jeffrey T. Hanuscin, Chief
Financial Officer of Royal Bancshares of Pennsylvania on August 9, 2004.
32.1 Certification Pursuant to 18 U.S.C. Section 1350, as adopted pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002, signed by Joseph P. Campbell,
Chief Executive Officer of Royal Bancshares of Pennsylvania on August 9, 2004.
32.2 Certification Pursuant to 18 U.S.C. Section 1350, as adopted pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002, signed by Jeffrey T. Hanuscin,
Chief Financial Officer of Royal Bancshares of Pennsylvania on August 9, 2004.
(b) The Company filed the following report on Form 8-K on July 22, 2004
announcing it's 37th quarterly cash dividend and also released
earnings for the 2nd quarter ending June 30, 2004.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
ROYAL BANCSHARES OF PENNSYLVANIA, INC.
(Registrant)
Dated: August 9th, 2004 /s/ Jeffrey T. Hanuscin
------------------------
Jeffrey T. Hanuscin
Chief Financial Officer