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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended: June 30, 2003
or
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from __________________ to __________________
Commission File Number: 000-16931
UNITED NATIONAL BANCORP
(Exact name of registrant as specified in its charter)
New Jersey 22-2894827
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(State or other jurisdiction of (I.R.S. Employer identification No.)
incorporation or organization)
1130 Route 22 East, Bridgewater, New Jersey 08807-0010
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(Address of principal executive offices) (Zip Code)
(908) 429-2200
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(Registrant's telephone number, including area code)
N/A
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(Former name, former address and former fiscal year, if changed since last
report)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
[X] Yes [ ] No
Indicate by check mark whether the Registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2).
[X] Yes [ ] No
As of August 1, 2003, there were 18,811,333 shares of common stock, $1.25 par
value, outstanding.
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UNITED NATIONAL BANCORP
FORM 10 - Q
INDEX
PAGE(S)
-------
PART I - FINANCIAL INFORMATION
ITEM 1 Consolidated Financial Statements and Notes to Consolidated Financial Statements........ 1-9
ITEM 2 Management's Discussion and Analysis of Financial Condition and Results of Operations .. 10-29
ITEM 3 Quantitative and Qualitative Disclosure About Market Risk............................... 30
ITEM 4 Controls and Procedures................................................................. 30
PART II - OTHER INFORMATION
ITEM 4 Submission of Matters to a Vote of Security Holders..................................... 31
ITEM 6 Exhibits and Reports on Form 8-K........................................................ 32
SIGNATURES ....................................................................................... 33
Part I - Financial Information
Item 1 - Financial Statements
UNITED NATIONAL BANCORP AND SUBSIDIARIES
Consolidated Balance Sheet
(In thousands, except per share data)
(unaudited)
June 30, December 31,
2003 2002
---------- ------------
Assets
Cash and due from banks $ 72,506 $ 68,759
Short-term investments -- 40,826
Securities available for sale, at market value 773,945 827,976
Securities held to maturity (market value of $63,558 and $45,829 for 2003 and
2002, respectively) 62,739 45,260
Loans, net of unearned income 1,901,891 1,665,069
Less: allowance for loan losses 22,090 20,407
---------- ----------
Loans, net 1,879,801 1,644,662
Premises and equipment, net 33,389 35,673
Other real estate, net 1,543 570
Goodwill 79,663 79,663
Other intangible assets 17,132 18,713
Cash surrender value of life insurance policies 78,568 76,649
Other assets 32,565 28,948
---------- ----------
Total assets 3,031,851 2,867,699
========== ==========
Liabilities and stockholders' equity
Liabilities
Deposits
Demand 387,569 361,816
NOW Accounts 287,802 267,668
Money Market Accounts 175,881 172,103
Savings 521,760 498,417
Time 838,590 853,404
---------- ----------
Total deposits 2,211,602 2,153,408
Short-term borrowings 157,951 38,787
Other borrowings 360,286 376,565
Other liabilities 34,869 34,259
---------- ----------
Total liabilities 2,764,708 2,603,019
---------- ----------
Stockholders' equity
Preferred stock, authorized 1,000,000 shares in 2003 and 2002
None issued and outstanding -- --
Common stock, $1.25 par value,
Authorized shares - 25,000,000 in 2003 and 2002
Issued shares - 20,992,081 in 2003 and 20,937,783 in 2002
Outstanding shares - 18,811,333 in 2003 and 18,999,035 in 2002 26,240 26,172
Additional paid-in capital 238,129 237,002
Retained earnings 44,112 36,430
Treasury stock, at cost - 2,180,223 shares in 2003 and 1,938,223 shares in 2002 (45,881) (39,655)
Accumulated other comprehensive income 4,543 4,731
---------- ----------
Total stockholders' equity 267,143 264,680
---------- ----------
Total liabilities and stockholders' equity $3,031,851 $2,867,699
========== ==========
See accompanying Notes to Consolidated Financial Statements.
1
UNITED NATIONAL BANCORP AND SUBSIDIARIES
Consolidated Statements of Income
(In thousands, except per share data)
(unaudited)
Three Months Ended Six Months Ended
June 30 June 30,
------------------ -----------------
2003 2002 2003 2002
------- -------- ------- -------
Interest income
Interest and fees on loans $27,362 $ 20,552 $54,093 $41,591
Interest and dividends on securities available for sale:
Taxable 8,456 7,557 17,074 14,890
Tax-exempt 1,291 1,125 2,659 2,215
Interest and dividends on securities held to maturity:
Taxable 179 55 231 128
Tax-exempt 271 351 582 686
Interest on short-term investments 2 7 156 10
------- -------- ------- -------
Total interest income 37,561 29,647 74,795 59,520
------- -------- ------- -------
Interest expense
Interest on NOW accounts 310 295 625 576
Interest on money market accounts 510 181 1,051 370
Interest on savings deposits 1,079 1,168 2,230 2,126
Interest on time deposits 6,021 5,339 12,956 10,888
Interest on short-term borrowings 451 462 578 998
Interest on other borrowings 4,015 4,496 8,553 8,694
------- -------- ------- -------
Total interest expense 12,386 11,941 25,993 23,652
------- -------- ------- -------
Net interest income 25,175 17,706 48,802 35,868
Provision for loan losses 1,605 4,325 3,075 8,950
------- -------- ------- -------
Net interest income after provision for loan losses 23,570 13,381 45,727 26,918
------- -------- ------- -------
Non-interest income
Trust income 1,569 1,433 3,127 2,970
Service charges on deposit accounts 1,868 1,006 3,365 1,960
Other service charges, commissions and fees 1,140 908 2,194 1,779
Net gains from securities transactions 1,297 20 4,146 20
Income on corporate owned life insurance 948 830 1,919 1,659
Dissolution of joint venture -- -- -- 1,171
Gain on the disposition of credit card portfolio -- 920 -- 920
Other income 705 651 1,314 1,197
------- -------- ------- -------
Total non-interest income 7,527 5,768 16,065 11,676
------- -------- ------- -------
Non-interest expense
Salaries, wages and employee benefits 11,096 7,618 21,344 15,186
Occupancy expense, net 2,112 1,414 4,903 2,843
Furniture and equipment expense 1,369 1,091 2,720 2,146
Data processing expense 949 1,449 1,926 2,579
Amortization of intangible assets 790 370 1,581 741
Merger-related charges -- 779 -- 779
Other expenses 4,705 3,818 9,621 6,954
------- -------- ------- -------
Total non-interest expense 21,021 16,539 42,095 31,228
------- -------- ------- -------
Income before provision (benefit) for income taxes 10,076 2,610 19,697 7,366
Provision (benefit) for income taxes 2,457 (415) 4,511 388
------- -------- ------- -------
Net income $ 7,619 $ 3,025 $15,186 $ 6,978
======= ======== ======= =======
Net income per common share:
Basic $ 0.40 $ 0.21 $ 0.80 $ 0.48
======= ======== ======= =======
Diluted $ 0.40 $ 0.21 $ 0.80 $ 0.47
======= ======== ======= =======
Weighted Average Shares Outstanding:
Basic 18,860 14,607 18,920 14,671
======= ======== ======= =======
Diluted 19,050 14,751 19,095 14,810
======= ======== ======= =======
See accompanying Notes to Consolidated Financial Statements.
2
UNITED NATIONAL BANCORP AND SUBSIDIARIES
Consolidated Statements of Changes in Stockholders' Equity
(In thousands, except per share data)
(unaudited)
Accumulated
Additional Other Total
Common Paid-In Retained Treasury Comprehensive Stockholders'
Stock Capital Earnings Stock Income (Loss) Equity
------- ---------- -------- -------- ------------- -------------
Balance - December 31, 2002 $26,172 $237,002 $36,430 $(39,655) $ 4,731 $264,680
Comprehensive income:
Net income -- -- 15,186 -- -- 15,186
Unrealized holding gains on
securities available for sale
arising during the
period, net of tax of $1,564 -- -- -- -- 2,264 2,264
Less: reclassification
adjustment for gains included
in net income, net of
tax of $(1,694) -- -- -- -- (2,452) (2,452)
--------
Total comprehensive income 14,998
Cash dividend declared
(0.40 per share) -- -- (7,504) -- -- (7,504)
Stock activity:
Exercise of stock options - 54,298
shares 68 883 -- -- -- 951
Treasury stock purchased - 242,000
shares -- -- -- (6,226) -- (6,226)
Stock-based compensation -- 244 -- -- -- 244
------- -------- ------- -------- ------- --------
Balance - June 30, 2003 26,240 238,129 44,112 (45,881) 4,543 267,143
======= ======== -====== ======== ======= ========
See accompanying Notes to Consolidated Financial Statements.
3
UNITED NATIONAL BANCORP AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(In thousands)
(unaudited)
Six Months Ended
June 30,
---------------------
2003 2002
--------- ---------
Operating activities
Net income $ 15,186 $ 6,978
Adjustments to reconcile net income to net cash provided by operating
activities:
Depreciation and amortization 3,832 2,398
Amortization of securities premiums, net 699 36
Provision for loan losses 3,075 8,950
(Benefit) expense for deferred income taxes (192) 1,310
Gain on disposition of premises and equipment -- (1)
Impairment on securities -- 105
Gain from securities transactions (4,146) (20)
Net gain on the sale of credit cards -- (920)
Increase in life insurance (1,919) (1,659)
Decrease in other assets (3,293) (4,806)
Increase (decrease) in other liabilities 885 (151)
Stock-based compensation 244 201
Restricted stock activity, net -- 24
--------- ---------
Net cash provided by operating activities 14,371 12,445
--------- ---------
Investing activities
Securities available for sale:
Proceeds from sales of securities 176,253 15,041
Proceeds from maturities of securities 242,561 52,818
Purchases of securities (361,793) (131,197)
Securities held to maturity:
Proceeds from maturities of securities 19,146 6,928
Purchases of securities (36,680) (11,122)
Purchase of corporate owned life insurance -- (1,725)
Net increase in loans (238,214) (33,412)
Proceeds from the sale of credit card business, net -- 14,495
Expenditures for premises and equipment (1,158) (1,157)
Proceeds from the sale of premises and equipment 1,108 2
Increase in other real estate, net (973) (82)
--------- ---------
Net cash used in investing activities (199,750) (89,411)
--------- ---------
Financing activities
Net increase in demand and savings deposits 73,008 55,353
Net decrease in time deposits (14,814) (12,820)
Net increase (decrease) in short-term borrowings 119,164 (4,232)
Advances on other borrowed funds 67,000 102,317
Repayments in other borrowed funds (83,279) (45,634)
Cash dividends on common stock (7,504) (5,836)
Proceeds from exercise of stock options 951 364
Treasury stock acquired, at cost (6,226) (7,114)
--------- ---------
Net cash provided by financing activities 148,300 82,398
--------- ---------
Net (decrease) increase in cash and cash equivalents (37,079) 5,432
Cash and cash equivalents at beginning of period 109,585 55,764
--------- ---------
Cash and cash equivalents at end of period $ 72,506 $ 61,196
========= =========
Supplemental disclosures of cash flow information
Cash paid during the period:
Interest 25,962 25,319
Taxes paid 6,047 4,990
Transfer of loans to other real estate 1,024 148
========= =========
See accompanying Notes to Consolidated Financial Statements.
4
UNITED NATIONAL BANCORP
Notes to Consolidated Financial Statements
(Unaudited)
Note 1. Basis of Presentation
The accompanying unaudited Consolidated Financial Statements included
herein have been prepared by United National Bancorp (the "Company"), in
accordance with accounting principles generally accepted in the United States of
America and pursuant to the rules and regulations of the Securities and Exchange
Commission. Certain information and footnote disclosures normally included in
financial statements have been condensed or omitted pursuant to such rules and
regulations. These Consolidated Financial Statements should be read in
conjunction with the financial statements and the notes thereto included in the
Company's latest annual report on Form 10-K.
In the opinion of the Company, all adjustments (consisting only of
normal recurring accruals), which are necessary for a fair presentation of the
operating results for the interim periods, have been included. The results of
operations for periods of less than a year are not necessarily indicative of
results for the full year.
Certain reclassifications have been made to the prior years' financial
statements to conform with the classifications used in 2003.
Note 2. Acquisition
On August 21, 2002, Vista Bancorp, Inc. ("Vista") was merged with and
into the Company with the Company being the surviving corporation (the "Vista
Merger") in a transaction accounted for under the purchase method of accounting.
Under the terms of the Vista Merger, the Company acquired all 5,350,637
outstanding shares of Vista in exchange for 4,695,184 shares of the Company's
Common Stock and $37,943,095 in cash.
Note 3. Comprehensive Income
Total comprehensive income amounted to the following for the periods
indicated (in thousands):
Three Months Ended Six Months Ended
June 30, 2003 June 30, 2003
------------------ -----------------
2003 2002 2003 2002
------ ------- ------- -------
Net income $7,619 $ 3,025 $15,186 $ 6,978
Unrealized holding gains on securities available
for sale arising during the period, net of tax of
$1,332 and $6,759 in the three months ended June 30, 2003
and 2002, respectively and tax of $1,564 and $4,928
in the six months ended June 30, 2003 and 2002, respectively 1,928 9,787 2,264 7,135
Less: reclassification adjustment for gains included in net
income, net of tax (767) (12) (2,452) (12)
------ ------- ------- -------
Total comprehensive income $8,780 $12,800 $14,998 $14,101
====== ======= ======= =======
Note 4. Net Income per Share
Basic income per common share is computed by dividing net income
available to common stockholders by the weighted average number of shares
outstanding during each year.
Diluted net income per common share is computed by dividing net income
available to common stockholders by the weighted average number of shares
outstanding, as adjusted for the assumed exercise of common stock options, using
the treasury stock method.
5
Three Months Ended Six Months Ended
June 30, 2003 June 30, 2003
------------------ -----------------
2003 2002 2003 2002
------- ------- ------- -------
Net income $ 7,619 $ 3,025 $15,186 $ 6,978
------- ------- ------- -------
Basic weighted average common shares outstanding 18,860 14,607 18,920 14,671
Plus: dilutive stock options and awards 190 144 175 139
------- ------- ------- -------
Diluted weighted average common shares outstanding 19,050 14,751 19,095 14,810
======= ======= ======= =======
Net income per common share:
Basic $ 0.40 $ 0.21 $ 0.80 $ 0.48
Diluted $ 0.40 $ 0.21 $ 0.80 $ 0.47
======= ======= ======= =======
Note 5. Goodwill and Other Intangibles
On July 20, 2001, the Financial Accounting Standards Board ("FASB")
issued Statement of Financial Accounting Standards ("SFAS") No. 142, "Goodwill
and Other Intangible Assets." SFAS No. 142 requires that goodwill and intangible
assets with indefinite useful lives no longer be amortized, but instead tested
for impairment at least annually in accordance with the provisions of SFAS No.
142. SFAS No. 142 also requires that intangible assets with definite useful
lives be amortized over their respective estimated useful lives to their
estimated residual values, and periodically reviewed for impairment. The Company
adopted SFAS No. 142 on January 1, 2002.
The Company recorded a core deposit intangible of $14.8 million in
connection with the Vista Merger during the third quarter of 2002. The core
deposit intangible has an estimated life of 10 years and during the three- and
six-months ended June 30, 2003 the Company amortized $372,000 and $742,000,
respectively. The core deposit intangible will be periodically reviewed for
impairment. In addition, the Company recorded goodwill of $79.5 million in
connection with the Vista Merger. The goodwill will be tested for impairment at
least annually in accordance with the provisions of SFAS No. 142.
During the three- and six-months ended June 30, 2003, the Company
recorded amortization of intangible assets acquired before July 1, 2001 of
approximately $418,000 and $839,000, respectively which primarily represented
core deposit intangibles. The remaining amortization period of these core
deposit intangibles is approximately 2.0 years.
Note 6. Recent Accounting Pronouncements
Statement of Financial Accounting Standards No. 150, "Accounting for
Certain Financial Instruments with Characteristics of both Liabilities and
Equity," was issued in May 2003. Statement 150 requires instruments within its
scope to be classified as a liability (or, in some cases, as an asset).
Statement 150 is generally effective for financial instruments entered into or
modified after May 31, 2003, and otherwise is effective at the beginning of the
first interim period beginning after June 15, 2003 (i.e. July 1, 2003 for
calendar year entities). For financial instruments created before June 1, 2003
and still existing at the beginning of the interim period of adoption,
transition generally should be applied by reporting the cumulative effect of a
change in an accounting principle by initially measuring the financial
instruments at fair value or other measurement attributes of the Statement. The
adoption of Statement 150 did not have a significant effect on the Company's
consolidated financial statements.
Statement of Financial Accounting Standards No. 149, "Amendment of
Statement 133 on Derivative Instruments and Hedging Activities," was issued on
April 30, 2003. The Statement amends and clarifies accounting for derivative
instruments, including certain derivative instruments embedded in other
contracts, and for hedging activities under Statement 133. This Statement is
effective for contracts entered into or modified after June 30, 2003. The
adoption of this Statement is not expected to have a significant effect on the
Company's consolidated financial statements.
In December, 2002, the FASB issued SFAS No. 148, "Accounting for
Stock-Based Compensation-Transition and Disclosure, an amendment to FASB
Statement No. 123". SFAS No. 148 provides alternative methods of transition for
a voluntary change to the fair value based method of accounting for stock-based
employee
6
compensation. In addition, SFAS No. 148 amends the disclosure requirements of
SFAS No. 123 to require prominent disclosures in both interim and annual
financial statements about the method of accounting for stock-based employee
compensation and the effect of the method used on reported results. The interim
reporting requirements of SFAS No. 148 are effective for interim periods
beginning after December 31, 2002. In April 2003, the FASB announced that they
will propose an accounting standard requiring all companies to expense the value
of employee stock options based upon the fair value of options.
Effective December 31, 2002, the Company elected to adopt the fair
value recognition provisions of SFAS No. 123, "Accounting for Stock-Based
Compensation", for stock-based employee compensation. All prior periods
presented have been restated to reflect the compensation cost that would have
been recognized had the recognition provisions of Statement 123 been applied to
all awards granted to employees after January 1, 1995.
Note 7. Lines of Business - Segment Reporting
The Company, for management purposes, is divided into the following
lines of business: Retail Banking, Commercial Banking, Investments, and Trust
and Investment Services. Activities not included in these lines are reflected in
All Other.
Line of business information is based on accounting practices that
conform to and support the current management structure, and is not necessarily
comparable with similar information for any other financial institution.
Net income before taxes on a fully tax-equivalent basis includes
revenues and expenses directly associated with each line, plus allocations of
certain indirect revenues and expenses. Centrally provided corporate services
and general overhead are allocated in proportion to the contribution of each
business line to consolidated pretax income prior to the inclusion of these
costs. A matched maturity funds transfer method is employed to assign a cost of
funds to the earning assets of each business line, as well as to a value of
funds to the liabilities of each business line. The provision for loan losses is
allocated based on the historical net charge-off ratio for each line of
business.
The following tables present the results of operations on a
tax-equivalent basis, using a 35% Federal tax rate, and average balances by
reportable segment for the periods presented below (in thousands).
7
Trust and
Results of Operations for the Retail Commercial Investment
Three Months Ending June 30, 2003 Banking Banking Investments Services All Other Consolidated
---------- ---------- ----------- ---------- --------- ------------
Interest income (tax-equivalent
basis) $ 15,136 $ 12,272 $ 11,223 $ -- $ -- $ 38,631
Interest expense 7,880 -- 4,506 -- -- 12,386
Funds transfer pricing allocation 12,566 (7,900) (2,564) -- (2,102) --
---------- --------- --------- ------ -------- ----------
Net interest income (loss) 19,822 4,372 4,153 -- (2,102) 26,245
Provision for loan losses 385 1,220 -- -- -- 1,605
---------- --------- --------- ------ -------- ----------
Net interest income (loss) after
provision for loan losses 19,437 3,152 4,153 -- (2,102) 24,640
Non-interest income 2,567 467 2,389 1,999 105 7,527
Non-interest expense 14,488 2,518 2,434 1,478 103 21,021
---------- --------- --------- ------ -------- ----------
Net income (loss) before taxes (tax-
equivalent basis) 7,516 1,101 4,108 521 (2,100) 11,146
Tax-equivalent adjustment -- (46) (1,024) -- -- (1,070)
---------- --------- --------- ------ -------- ----------
Net income (loss) before taxes $ 7,516 $ 1,055 $ 3,084 $ 521 $ (2,100) $ 10,076
---------- --------- --------- ------ -------- ----------
Average balances:
Gross funds provided $2,171,912 $ -- $ 507,184 $ -- $318,450 $2,997,546
Funds used:
Interest-earning assets 1,015,567 795,110 868,637 -- -- 2,679,314
Non-interest-earning assets 84,644 13,509 78,020 500 141,559 318,232
---------- --------- --------- ------ -------- ----------
Net funds provided (used) $1,071,701 $(808,619) $(439,473) $ (500) $176,891 $ --
---------- --------- --------- ------ -------- ----------
Trust and
Results of Operations for the Retail Commercial Investment
Three Months Ending June 30, 2002 Banking Banking Investments Services All Other Consolidated
---------- ---------- ----------- ---------- --------- ------------
Interest income (tax-equivalent
basis) $ 10,229 $ 10,346 $ 9,890 $ -- $ -- $ 30,465
Interest expense 6,917 -- 5,024 -- -- 11,941
Funds transfer pricing allocation 8,590 (7,120) (3,165) -- 1,695 --
---------- --------- --------- ------ -------- ----------
Net interest income 11,902 3,226 1,701 -- 1,695 18,524
Provision for loan losses (246) 4,571 -- -- -- 4,325
---------- --------- --------- ------ -------- ----------
Net interest income (loss) after
provision for loan losses 12,148 (1,345) 1,701 -- 1,695 14,199
Non-interest income 2,646 474 950 1,712 (14) 5,768
Non-interest expense 11,255 1,802 1,284 1,331 867 16,539
---------- --------- --------- ------ -------- ----------
Net income (loss) before taxes (tax-
equivalent basis) 3,539 (2,673) 1,367 381 814 3,428
Tax-equivalent adjustment -- (23) (795) -- -- (818)
---------- --------- --------- ------ -------- ----------
Net income (loss) before taxes $ 3,539 $ (2,696) $ 572 $ 381 $ 814 $ 2,610
---------- --------- --------- ------ -------- ----------
Average balances:
Gross funds provided $1,414,136 $ -- $ 429,453 $ -- $187,858 $2,031,447
Funds used:
Interest-earning assets 596,163 654,149 624,363 -- -- 1,874,675
Non-interest-earning assets 12,178 2,860 59,233 -- 82,501 156,772
---------- --------- --------- ------ -------- ----------
Net funds provided (used) $ 805,795 $(657,009) $(254,143) $ -- $105,357 $ --
---------- --------- --------- ------ -------- ----------
8
Trust and
Results of Operations for the Retail Commercial Investment
Six Months Ending June 30, 2003 Banking Banking Investments Services All Other Consolidated
---------- ---------- ----------- ---------- --------- ------------
Interest income (tax-equivalent
basis) $ 30,046 $ 24,137 $ 22,807 $ -- $ -- $ 76,990
Interest expense 16,816 -- 9,177 -- -- 25,993
Funds transfer pricing allocation 25,862 (15,718) (5,521) -- (4,623) --
---------- --------- --------- ------ -------- ----------
Net interest income (loss) 39,092 8,419 8,109 -- (4,623) 50,997
Provision for loan losses 1,256 1,819 -- -- -- 3,075
---------- --------- --------- ------ -------- ----------
Net interest income (loss) after
Provision for loan losses 37,836 6,600 8,109 -- (4,623) 47,922
Non-interest income 4,822 930 6,351 3,857 105 16,065
Non-interest expense 29,242 4,934 4,930 2,886 103 42,095
---------- --------- --------- ------ -------- ----------
Net income (loss) before taxes (tax-
equivalent basis) 13,416 2,596 9,530 971 (4,621) 21,892
Tax-equivalent adjustment -- (90) (2,105) -- -- (2,195)
---------- --------- --------- ------ -------- ----------
Net income (loss) before taxes $ 13,416 $ 2,506 $ 7,425 $ 971 $ (4,621) $ 19,697
---------- --------- --------- ------ -------- ----------
Average balances:
Gross funds provided $2,158,128 $ -- $ 466,795 $ -- $318,948 $2,943,871
Funds used:
Interest-earning assets 980,712 774,746 865,940 -- -- 2,621,398
Non-interest-earning assets 83,531 13,509 77,517 500 147,416 322,473
---------- --------- --------- ------ -------- ----------
Net funds provided (used) $1,093,885 $(788,255) $(476,662) $ (500) $171,532 $ --
---------- --------- --------- ------ -------- ----------
Trust and
Results of Operations for the Retail Commercial Investment
Six Months Ending June 30, 2002 Banking Banking Investments Services All Other Consolidated
---------- ---------- ----------- ---------- --------- ------------
Interest income (tax-equivalent
basis) $ 20,533 $ 21,106 $ 19,491 $ -- $ -- $ 61,130
Interest expense 13,809 -- 9,843 -- -- 23,652
Funds transfer pricing allocation 14,773 (13,865) (6,881) -- 5,973 --
---------- --------- --------- ------ -------- ----------
Net interest income 21,497 7,241 2,767 -- 5,973 37,478
Provision for loan losses 247 8,703 -- -- -- 8,950
---------- --------- --------- ------ -------- ----------
Net interest income (loss) after
provision for loan losses 21,250 (1,462) 2,767 -- 5,973 28,528
Non-interest income 4,363 766 1,887 3,433 1,227 11,676
Non-interest expense 21,678 3,713 2,208 2,630 999 31,228
---------- --------- --------- ------ -------- ----------
Net income (loss) before taxes (tax-
equivalent basis) 3,935 (4,409) 2,446 803 6,201 8,976
Tax-equivalent adjustment -- (48) (1,562) -- -- (1,610)
---------- --------- --------- ------ -------- ----------
Net income (loss) before taxes $ 3,935 $ (4,457) $ 884 $ 803 $ 6,201 $ 7,366
---------- --------- --------- ------ -------- ----------
Average balances:
Gross funds provided $1,399,835 $ -- $ 416,582 $ -- $191,611 $2,008,028
Funds used:
Interest-earning assets 594,311 651,043 599,956 -- -- 1,845,310
Non-interest-earning assets 12,163 2,729 58,235 -- 89,591 162,718
---------- --------- --------- ------ -------- ----------
Net funds provided (used) $ 793,361 $(653,772) $(241,609) $ -- $102,020 $ --
---------- --------- --------- ------ -------- ----------
9
Item 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion is an analysis of the financial condition and
results of operations of the Company for the three- and six-months ended June
30, 2003 and 2002, and should be read in conjunction with the related financial
statements and accompanying notes presented elsewhere herein. Results of
operations for the three- and six-month periods ended June 30, 2003 are not
necessarily indicative of results to be attained for any other period.
FORWARD-LOOKING STATEMENTS
The foregoing contains forward-looking statements within the meaning
of The Private Securities Litigation Reform Act of 1995. Such statements are not
historical facts and include expressions about our confidence and strategies and
our expectations about earnings, opportunities, and market conditions. These
statements may be identified by such forward-looking terminology as "expect",
"believe", "anticipate", "optimistic", or by expressions of confidence such as
"for the coming months", "consistent", "continue", "strong", "superior" or
similar statements or variations of such terms. Such forward-looking statements
involve certain risks and uncertainties. These include, but are not limited to,
expected benefits, cost savings and other benefits from the Vista acquisition or
other planned programs not being realized or not being realized within the
expected time frame; income or revenues from the Vista acquisition or other
planned programs being lower than expected or operating costs higher;
efficiencies of our operations not improving as a result of certain cost cutting
measures, competitive pressures in the banking or financial services industries
increasing significantly; business disruption related to program implementation
or methodologies; weakening of economic conditions in New Jersey or
Pennsylvania; changes in legal, regulatory and tax structures; and unanticipated
occurrences delaying planned programs or initiatives or increasing their costs
or decreasing their benefits. Actual results may differ materially from such
forward-looking statements. The Company does not assume any obligation for
updating any such forward-looking statements at any time.
VISTA MERGER
On August 21, 2002, the Company acquired Vista Bancorp, Inc. ("Vista")
in a transaction accounted for under the purchase method of accounting (the
"Vista Merger"). Under the terms of the Vista Merger, the Company acquired all
5,350,637 outstanding shares of Vista in exchange for 4,695,184 shares of the
Company's Common Stock and $37,943,095 in cash.
Based on its unaudited financial statement at June 30, 2002, Vista had
total assets of $713 million, deposits of $600 million and stockholders' equity
of $66 million. Vista was headquartered in Phillipsburg, New Jersey and operated
16 banking offices in western New Jersey and eastern Pennsylvania.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
"Management's Discussion and Analysis of Financial Condition and
Results of Operations" is based upon the Company's Consolidated Financial
Statements, which have been prepared in accordance with accounting principles
generally accepted in the United States of America. Certain information and note
disclosures usually included in financial statements prepared in accordance with
accounting principles generally accepted in the United States of America have
been condensed or omitted pursuant to the rules and regulations of the
Securities and Exchange Commission for the preparation of the Form 10-Q. The
preparation of these financial statements requires the Company to make estimates
and judgments that affect the reported amounts of assets, liabilities, revenues
and expenses. Some accounting policies have a significant impact on amounts
reported in these financial statements. A summary of significant accounting
policies and a description of accounting policies that are considered critical
may be found in the Company's Annual Report on Form 10-K, filed on March 20,
2003, in the Notes to the Consolidated Financial Statements and the Critical
Accounting Policies and Estimates section.
10
RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED JUNE 30, 2003 AND 2002
Earnings Summary
The Company reported net income for the second quarter of 2003 of $7.6
million, up 152% from the $3.0 million earned in the three months ended June 30,
2002. Diluted per share earnings were $0.40 in the second quarter of 2003, up
90% over the $0.21 recorded for the second quarter of 2002. The increase in
earnings per share over the prior year period resulted primarily from a
decreased loan loss provision compared to the second quarter of 2002 as well as
an increase in gains on securities transactions. The substantial decrease in the
loan loss provision for the current quarter was related primarily to one large
credit that was placed on non-accrual in the second quarter of 2002 and the
continued improvement in asset quality. In the second quarter of 2002, the
Company recorded a $2.8 million charge-off on a $5.3 million loan participation
to Suprema Specialties, a company that declared bankruptcy during the first
quarter of 2002, and recorded a $2.4 million charge-off related to a loan to an
insurance premium financing company that was placed on non-accrual during the
second quarter of 2002. The gains on securities transactions largely resulted
from the sale of mortgage-backed securities to take advantage of current market
conditions and the opportunity to reinvest the proceeds, expecting that
otherwise these securities would have been prepaid in the near term at par
value.
The return on average assets was 1.02% and 0.60% for the second
quarter of 2003 and 2002, respectively while the return on average stockholders'
equity was 11.40% and 7.81% for the second quarter of 2003 and 2002,
respectively. The higher loan loss provision recorded in the second quarter of
2002 adversely affected the return on average assets and the return on average
stockholders' equity for that period.
Net Interest Income
The Company's most significant revenue source is net interest income,
which represents the difference between interest earned on assets and interest
paid to depositors and other creditors. A portion of the Company's total
interest income is derived from investments that are exempt from Federal
taxation. Due to the "tax-free" nature of these investments, the amount of
pretax income realized from them is less than the amount of pretax income
realizable from comparable investments subject to Federal taxation. For purposes
of the following discussion, interest exempt from Federal taxation has been
adjusted to a fully tax-equivalent basis assuming a statutory tax rate of 35%
for both the second quarter of 2003 and 2002. This was accomplished by adjusting
this income upward to make it equivalent to the level of taxable income required
to earn the same amount after taxes.
A summary of net interest income on a tax-equivalent basis for the
second quarter of 2003 and 2002 is presented in the following table (in
thousands):
Three Months Ended
June 30, 2003 Over (Under) 2002
------------------ ----------------------
2003 2002 Amount Percent
------- ------- ------ -------
Interest income (tax-equivalent basis) $38,631 $30,465 $8,166 26.8%
Interest expense 12,386 11,941 445 3.7
------- ------- ------
Net interest income (tax-equivalent basis) 26,245 18,524 7,721 41.7
Tax-equivalent adjustment (1,070) (818) (252) 30.8
------- ------- ------
Net interest income $25,175 $17,706 $7,469 42.2%
======= ======= ====== ====
For the second quarter of 2003, tax-equivalent net interest income
increased 42% to $26.2 million from $18.5 million in the second quarter of 2002.
This growth resulted from an increase of $804.6 million in average
interest-earning assets primarily related to the acquisition of Vista during the
third quarter of 2002, which was accounted for using the purchase method of
accounting. The remainder of the increase in average earnings assets was due to
growth in residential mortgage loans and investment securities. A 4 basis-point
narrowing in the net interest margin in the second quarter of 2003 from the same
quarter of 2002 served to limit the growth in net interest income.
The net interest margin for the second quarter of 2003 declined to
3.92% from 3.96% in the second quarter of 2002, despite a 19 basis-point
widening in the net interest spread. This 4 basis point narrowing was partially
attributable to a reduced contribution of net non-interest-bearing funds
resulting from the lower 2003 interest rate
11
environment and to a decline in the proportion of net non-interest-bearing funds
to total sources of funds principally due to the Vista Merger.
Average interest-earning assets grew $804.6 million or 43% in the
second quarter of 2003 from the same quarter in 2002 as average loans,
securities and short-term investments all increased. Average loans increased
$557.6 million or 44% during the second quarter of 2003 compared to the same
quarter in 2002, primarily from loans added in the Vista Merger. Average
securities rose $247.9 million or 40% in the second quarter of 2003 from the
prior year, also due to the Vista Merger. Average short-term investments
decreased $0.9 million to $0.6 million in the second quarter of 2003 from the
prior year quarter. Excluding the impact of the Vista Merger, average loans
increased $143.8 million or 11% and average securities increased $65.4 million
or 11%.
Average deposits grew $762.4 million or 53% in the second quarter of
2003 from the same quarter last year. Average deposits for 2003 contained
approximately $616.2 million in deposits resulting from the Vista Merger.
Excluding the effect of the Vista Merger, average total deposits for the second
quarter of 2003 increased $146.2 million or 10% from the second quarter of 2002.
The increase in average deposits in the second quarter of 2003 over the same
quarter of 2002 excluding the impact of the Vista Merger was largely
attributable to a $24.4 million or 9% growth in average demand deposits and a
$119.6 million or 20% growth in average savings deposits, which includes NOW and
money market accounts. Time deposits, excluding the impact of the Vista Merger,
increased a modest $2.2 million. The Company increased its short-term borrowings
by $46.4 million or 47% due to the aforementioned growth in average loans.
Average other borrowings, which consist of debt having an original maturity of
one year or more, increased $35.4 million or 11% during the second quarter of
2003 from the prior year quarter. The increase in average other borrowings was
principally due to the impact of Vista Merger and liability extensions made to
reduce the liability sensitivity of the Bank and higher amortizing advances from
the Federal Home Loan Bank of New York that were used to match fund certain
fixed-rate loans.
12
Average Consolidated Balance Sheet, Net Interest Income and Net Interest Margin
(Tax-Equivalent Basis)
Three Months Ended
-----------------------------------------------------------------
June 30, 2003 June 30, 2002
------------------------------- -------------------------------
Interest Average Interest Average
Average Income/ Yield/ Average Income/ Yield/
(Dollars in Thousands) Balance Expense Rate Balance Expense Rate
---------- -------- ------- ---------- -------- -------
Assets:
Short-term investments $ 633 $ 2 1.13% $ 1,505 $ 7 1.78%
Securities available for sale: (1) (2)
Taxable 695,544 8,639 4.97 473,230 7,557 6.39
Non-taxable 127,023 1,986 6.26 102,863 1,731 6.73
Securities held to maturity: (2)
Taxable 19,200 179 3.72 5,894 55 3.77
Non-taxable 26,237 417 6.36 38,075 540 5.67
---------- ------- ---- ---------- ------- -----
Total securities 868,004 11,221 5.17 620,062 9,883 6.38
---------- ------- ---- ---------- ------- -----
Loans: (2) (3)
Commercial 394,261 5,217 5.30 321,360 4,085 5.10
Real estate - commercial 463,377 8,098 7.01 359,550 6,707 7.38
Real estate - residential 530,652 7,493 5.65 264,689 4,352 6.58
Consumer 422,387 6,600 6.27 292,994 5,027 6.88
Credit card -- -- -- 14,515 404 11.16
---------- ------- ---- ---------- ------- -----
Total loans 1,810,677 27,408 6.07 1,253,108 20,575 6.55
---------- ------- ---- ---------- ------- -----
Total interest-earning assets 2,679,314 38,631 5.78 1,874,675 30,465 6.49
---------- ------- ---- ---------- ------- -----
Allowance for loan losses (21,891) (16,590)
Cash and due from banks 63,374 42,747
Intangible assets 97,252 4,668
Other assets 179,497 125,947
---------- ----------
Total assets $2,997,546 $2,031,447
========== ==========
Liabilities and stockholders' equity:
Now accounts $ 287,536 310 0.43 $ 159,229 295 0.74
Money market accounts 178,846 510 1.14 76,225 181 0.95
Savings deposits 511,240 1,079 0.85 348,743 1,168 1.34
Time deposits 840,720 6,021 2.87 569,885 5,339 3.76
---------- ------- ---- ---------- ------- -----
Total interest-bearing deposits 1,818,342 7,920 1.75 1,154,082 6,983 2.43
Short-term borrowings 143,963 451 1.26 97,608 462 1.90
Other borrowed funds 358,866 4,015 4.48 323,505 4,496 5.57
---------- ------- ---- ---------- ------- -----
Total interest-bearing liabilities 2,321,171 12,386 2.14 1,575,195 11,941 3.04
---------- ------- ---- ---------- ------- -----
Non-interest-bearing liabilities 377,320 279,174
Other liabilities 31,067 21,631
Stockholders' equity 267,988 155,447
---------- ----------
Total liabilities and stockholders'
equity $2,997,546 $2,031,447
========== ==========
Net interest spread 3.64 3.45
Effect of net non-interest-bearing funds 0.28 0.51
---- ----
Net interest income (tax-equivalent basis) 26,245 18,524
Tax-equivalent adjustment (1,070) (818)
------- -------
Net interest income $25,175 $17,706
======= =======
Net interest margin (4) 3.92% 3.96%
==== ====
- ----------
(1) Securities available for sale are stated at amortized cost.
(2) Interest income is presented on a tax-equivalent basis using a 35% Federal
tax rate.
(3) Average loan balances and yields include non-accruing loans. Loan fees are
included in the interest amounts and are not material.
(4) Net interest income on a tax-equivalent basis as a percentage of total
average interest-earning assets.
13
Provision for Loan Losses
The provision for loan losses represents Management's estimate of the
amount necessary to be charged to operations to bring the allowance for loan
losses to a level that is considered adequate in relation to the risk of losses
inherent in the loan portfolio. Actual loan losses, net of recoveries, serve to
reduce the allowance.
The loan loss provision amounted to $1.6 million in the second quarter
of 2003, representing a $2.7 million decrease from the same quarter of 2002
provision of $4.3 million. The substantial decrease in the loan loss provision
for the current quarter was related primarily to one large credit that was
placed on non-accrual in the second quarter of 2002 and the continued
improvement in asset quality.
Non-Interest Income
Non-interest income has become an increasingly important source of
revenue for the Company. The major components of non-interest income are
presented below (in thousands).
Three Months Ended 2003 Over (Under)
June 30, 2002
------------------ -----------------
2003 2002 Amount Percent
------ ------ ------ -------
Trust income $1,569 $1,433 $ 136 9.5%
Service charges on deposit accounts 1,868 1,006 862 85.7
Other service charges, commissions and fees 1,140 908 232 25.6
Net gains from securities transactions 1,297 20 1,277 NM
Income on life insurance 948 830 118 14.2
Gain on the disposition of credit card portfolio -- 920 (920) NM
Other income 705 651 54 8.3
------ ------ ------ ----
Total non-interest income $7,527 $5,768 $1,759 30.5%
====== ====== ====== ====
NM - Not meaningful.
Non-interest income amounted to $7.5 million in the second quarter of
2003, an increase of 31% from the $5.8 million earned in the prior year quarter.
Excluding the $0.9 million gain on the disposition of a credit card portfolio in
the second quarter of 2002, the growth in non-interest income from the second
quarter of 2002 was primarily attributable to the realization of $1.3 million in
gains on securities transactions in the second quarter of 2003, the effect of
the Vista Merger, and increased deposit services fee income. The Company sold
$105 million in available for sale mortgage-backed securities during the second
quarter of 2003 in an effort to realize gains and reinvest the proceeds,
expecting that otherwise these securities would be prepaid in the near term at
par value. Typically, such prepayments have an adverse effect on the yields on
average loans and securities and, accordingly, on net interest income. As a
result of these transactions, the Company has largely disposed of the Vista
mortgage-backed securities portfolio, therefore eliminated the potential adverse
impact of the amortization of the purchase accounting premium recorded on these
securities at the date of acquisition.
14
Non-Interest Expense
The Company closely monitors non-interest expense growth. The
following table presents an analysis of the major categories of non-interest
expenses (in thousands):
Three Months Ended
June 30, 2003 Over (Under) 2002
------------------ ----------------------
2003 2002 Amount Percent
------- ------- ------ -------
Salaries, wages and employee benefits $11,096 $ 7,618 $3,478 45.7%
Occupancy expense, net 2,112 1,414 698 49.4
Furniture and equipment expense 1,369 1,091 278 25.5
Data processing expense 949 1,449 (500) (34.5)
Amortization of intangible assets 790 370 420 113.5
Merger-related charges -- 779 (779) NM
Other expenses:
Legal and other professional service expense 1,051 912 139 15.2
Marketing and shareholder communications expense 1,373 730 643 88.1
Telecommunication expense 414 325 89 27.4
Loan origination/collection expense 387 230 157 68.3
Credit card expense -- 283 (283) NM
All other 1,480 1,338 142 10.6
------- ------- ------
Total other expenses 4,705 3,818 887 23.2
------- ------- ------
Total non-interest expense $21,021 $16,539 $4,482 27.1%
======= ======= ====== =====
- ----------
NM - Not meaningful.
Non-interest expense increased 27% to $21.0 million in the second
quarter of 2003 over the $16.5 million incurred in the same quarter of 2002. The
increase over the second quarter of 2002 was primarily due to the impact of the
Vista Merger of approximately $3.4 million, higher pension and healthcare costs,
the recognition of $0.9 million in employment termination costs, increased
intangible asset amortization related to the Vista Merger, and higher proxy
solicitation expenses. The Company incurred approximately $0.4 million in proxy
solicitation costs in connection with the election of its nominees for director
at the 2003 Annual Meeting of Shareholders. Partly offsetting these expense
increases were declines in data processing expense related to the in-house
processing of checks and lower credit card expense resulting from the sale of
this portfolio. In addition, the Company incurred $0.8 million in integration
costs in the second quarter of 2002 related to the Vista Merger.
The Company adopted the fair value based method to recognize
compensation expense on all of its outstanding stock option awards in the fourth
quarter of 2002, in accordance with the provisions of SFAS No. 123, "Accounting
for Stock-Based Compensation," as amended by SFAS No. 148, which permits
retroactive restatement. Accordingly, the Company increased its employee benefit
expense in its prior period.
Income Taxes
The provision for income taxes amounted to $2.5 million in the second
quarter of 2003 compared to a $0.4 million benefit recognized in the second
quarter of 2002. The increase in the income tax provision was due to a 286%
increase in income before provision for income taxes.
LINES OF BUSINESS - SEGMENT REPORTING
The Company, for management purposes, is segmented into the following
lines of business: Retail Banking, Commercial Banking, Investments, and Trust
and Investment Services. Activities not included in these lines are reflected in
All Other. Summary financial information on a fully tax-equivalent basis for the
lines of business is presented in "Note 7. Lines of Business - Segment
Reporting" of this report.
Line of business information is based on accounting practices that
conform to and support the current management structure, and is not necessarily
comparable with similar information for any other financial institution.
15
Net income (loss) before taxes on a fully tax-equivalent basis
includes revenues and expenses directly associated with each line, plus
allocations of certain indirect revenues and expenses. Centrally provided
corporate services and general overhead are allocated in proportion to the
contribution of each business line to consolidated pretax income prior to the
inclusion of these costs. A matched maturity funds transfer method is employed
to assign a cost of funds to the earning assets of each business line, as well
as to a value of funds to the liabilities of each business line. The provision
for loan losses is allocated based on the historical net charge-off ratio for
each line of business.
Retail Banking
Retail Banking meets the needs of individuals and small businesses.
This segment includes loans secured by one-to-four family residential
properties, construction financing, loans to individuals for household, family
and other personal expenditures, and lease financing. In addition, this segment
includes the branch network. Income before taxes for this segment, in the second
quarter of 2003, increased $4.0 million from the second quarter of 2002 due to
an increase of $7.9 million in net interest income. This was offset by increases
in non-interest expense of $3.2 million and the allocation of the provision for
loan losses of $0.6 million, and a decrease of $0.1 million in non-interest
income. The higher net interest income was primarily related to increased
average residential mortgage and consumer loans and wider-spread average core
deposits when compared to the second quarter of 2002. The increase in
non-interest expense was mainly due to the Vista Merger, and the increase in the
loan loss provision was due primarily to the Vista Merger and increased loan
volume.
Commercial Banking
Commercial Banking provides term loans, demand secured loans, Small
Business Administration ("SBA") financing, floor plan loans and financing for
commercial and construction lending and commercial credit to middle-market
businesses. It also includes the operations of United Commercial Capital Group,
which provides non-traditional real estate and commercial financings. Pretax
results in the second quarter of 2003 increased $3.8 million from the second
quarter of 2002 primarily due to a $3.4 million decrease in the loan loss
provision allocation. The substantial decrease in the loan loss provision for
the current quarter was related primarily to one large credit that was placed on
non-accrual in the second quarter of 2002 and the continued improvement in asset
quality. Net interest income increased $1.1 million in the second quarter of
2003 due to increased average commercial and real estate construction loans. In
addition, non-interest expense increased $0.7 million due to the Vista Merger.
Investments
The Investments segment is comprised of the Company's securities
portfolio, which includes U.S. Treasury and Federal Agency securities,
tax-exempt securities, mortgage-backed securities, corporate debt securities,
equity securities and short-term investments. Pretax income for the second
quarter of 2003 increased $2.7 million over the second quarter of 2002 due to a
$2.5 million increase in net interest income and a $1.4 million increase in
non-interest income, offset by a $1.2 million increase in non-interest expense.
The increase in net interest income was largely due to a 40% growth in average
investment securities and wider spreads on mortgage-backed securities purchased
during the past six months, while the increase in non-interest income was due to
the realization of $1.3 million of investment securities gains. The increase in
non-interest expense was due to a larger allocation of corporate overhead due to
the increased pretax income.
Trust and Investment Services
The Trust and Investment Services segment derives revenue in the form
of fees generated for the services provided. The major sources of fee income are
generated from a full range of fiduciary services, ranging from mutual funds to
personal trust, investment advisory and employee benefits. Also included are
fees generated from the financial services area, which provides uninsured
financial products, including the sale of annuities, insurance and mutual funds.
In the second quarter of 2003, income before taxes for this segment increased
$0.1 million from the second quarter of 2002. Fees for trust services increased
$0.2 million, which was offset by an increase in non-interest expense of $0.1
million.
All Other
The All Other segment primarily includes the impact of stockholders'
equity and the allowance for loan losses, as well as funds transfer-pricing
offsets. Additionally, certain revenues and expenses that are not considered
allocable to a line of business are reflected in this segment. Net loss before
taxes in the second quarter of 2003 for this segment was $2.1 million as
compared to net income before taxes of $0.8 million in the second quarter of
2002.
16
This was due primarily to a $2.9 million decline in net interest income related
to a higher funds credit assigned to non-maturity core deposits in Retail
Banking in the second quarter of 2003 due to longer expected life of these
deposits and lower relative funding costs charged on mortgage-related assets in
the Retail Banking and Investments segments. In addition, non-interest expense
was $0.8 million lower in the second quarter of 2003 compared to the second
quarter of 2002 due to $0.8 million of merger related expenses recorded in 2002.
The following table shows the percentage contribution of the various
lines of business to consolidated income before taxes on a fully tax-equivalent
basis:
Three Months Ended
June 30,
------------------
2003 2002
----- -----
Retail banking 67.3% 103.3%
Commercial banking 9.9 (78.0)
Investments 36.9 39.9
Trust and investment services 4.7 11.1
All other (18.8) 23.7
----- -----
Total consolidated 100.0% 100.0%
===== =====
17
RESULTS OF OPERATIONS FOR THE SIX MONTHS ENDED JUNE 30, 2003 AND 2002
Earnings Summary
The Company reported net income for the six months ended June 30, 2003
of $15.2 million, up 118% from the $7.0 million earned in the same period of the
prior year. Diluted per share earnings were $0.80 in the six months ended June
30, 2003, up 70% over the $0.47 recorded for the six months ended June 30, 2002.
The increase in earnings per share over the prior year period resulted primarily
from a decreased loan loss provision compared to the prior year period as well
as an increase in gains on securities transactions. The substantial decrease in
the loan loss provision for the current year period was related primarily to
large charge-offs in the prior year period, as discussed previously in the
comparison of the second quarter results. The gains on securities transactions
largely resulted from the sale of mortgage-backed securities to take advantage
of current market conditions and the opportunity to reinvest the proceeds,
expecting that otherwise these securities would have been prepaid in the near
term at par value.
The return on average assets was 1.04% and 0.70% for the six months
ended June 30, 2003 and 2002, respectively while the return on average
stockholders' equity was 11.43% and 8.97% for the six months ended June 30, 2003
and 2002, respectively. The higher loan loss provision recorded in the first and
second quarters of 2002 adversely affected the return on average assets and the
return on average stockholders' equity for the first half of 2002.
Net Interest Income
A summary of net interest income on a tax-equivalent basis for the six
months ended June 30, 2003 and 2002 is presented in the following table (in
thousands):
Six Months Ended
June 30, 2003 Over (Under) 2002
----------------- ----------------------
2003 2002 Amount Percent
------- ------- ------- -------
Interest income (tax-equivalent basis) $76,990 $61,130 $15,860 25.9%
Interest expense 25,993 23,652 2,341 9.9
------- ------- -------
Net interest income 50,997 37,478 13,519 36.1
Tax-equivalent adjustment (2,195) (1,610) (585) 36.3
------- ------- -------
Net interest income $48,802 $35,868 $12,934 36.1%
======= ======= ======= ====
For the 2003 period, tax-equivalent net interest income increased 36%
to $51.0 million from $37.5 million in the prior year period. This growth was
primarily due to the impact of the Vista Merger and growth in residential
mortgage loans and investment securities. A 17 basis-point narrowing in the net
interest margin during the first six months of this year from the same period of
last year partially offset the favorable effect of the increase in average
interest-earning assets.
The net interest margin narrowed by 17 basis points for the six months
ended June 30, 2003 to 3.90% from 4.07% in the prior year period, despite a
three basis-point widening in the net interest spread during these periods. The
favorable effect of the improvement in spread was offset by a reduced
contribution of net non-interest-bearing funds resulting from the lower 2003
interest rate environment and a decline in the proportion of net
non-interest-bearing funds to total sources of funds resulting from the Vista
Merger. The average rate earned on interest-earning assets declined 74
basis-points to 5.90% while the average rate paid on interest-bearing
liabilities declined 77 basis points to 2.30%.
Average interest-earning assets grew $776.1 million or 42% in the six
months ended June 30, 2003 compared to the same period of the prior year, as
average loans, securities and short-term investments all increased. The decline
in the average rate on interest-earning assets of 74 basis points was largely
due to a sharp rise in prepayments on mortgage-related assets, a 75 basis-point
decline in the prime rate and in other short-term interest rates, and a higher
level of average short-term investments. Average loans increased $507.3 million
or 41% during the six months ended June 30, 2003 compared to the same period in
2002 primarily due to the Vista Merger coupled with strong loan growth
experienced during the second quarter of 2003. Average securities rose $244.6
million or 41% in the first six months of 2003 from the same period of the prior
year, also due to the Vista Merger. Average short-term investments increased
$24.2 million to $25.3 million in the six months ended June 30, 2003 from $1.1
million in the same period of 2002, due to a sharp rise in prepayments on
mortgage-related assets. Excluding
18
the impact of the Vista Merger, average loans increased $93.5 million or 7% and
average securities increased $62.0 million or 10%.
Average deposits grew $763.4 million or 54% in the six months ended
June 30, 2003 from the same period last year. Average deposits for 2003
contained approximately $616.2 million in deposits resulting from the Vista
Merger. Excluding the effect of the Vista Merger, average total deposits for the
current period of 2003 increased $147.2 million or 10% from the same period of
2002. The increase in average deposits in the six month period of 2003 over the
prior year period excluding the impact of the Vista Merger was largely
attributable to a $21.2 million or 8% growth in average demand deposits and a
$124.4 million or 22% growth in average savings deposits, which includes NOW and
money market accounts. Time deposits, excluding the impact of the Vista Merger,
increased a modest $1.6 million. The Company reduced its short-term borrowings
by $6.9 million or 7% due to the effect of the Vista Merger as well as to the
aforementioned growth in average deposits. Average other borrowings, which
consist of debt having an original maturity of one year or more, increased $60.7
million or 20% during the first half of 2003 from the same period last year. The
increase in average other borrowings was principally due to the impact of the
Vista Merger and liability extensions made to reduce the liability sensitivity
of the Bank and higher amortizing advances from the Federal Home Loan Bank of
New York that were used to match fund certain fixed-rate loans.
19
Average Consolidated Balance Sheet, Net Interest Income and Net Interest Margin
(Tax-Equivalent Basis)
Six Months Ended
-----------------------------------------------------------------
June 30, 2003 June 30, 2002
------------------------------- -------------------------------
Interest Average Interest Average
Average Income/ Yield/ Average Income/ Yield/
(Dollars in Thousands) Balance Expense Rate Balance Expense Rate
---------- -------- ------- ---------- -------- -------
Assets:
Short-term investments $ 25,275 $ 156 1.25% $ 1,055 $ 10 1.81%
Securities available for sale: (1) (2)
Taxable 670,504 17,434 5.20 453,580 14,890 6.57
Non-taxable 128,489 4,091 6.37 100,166 3,408 6.80
Securities held to maturity: (2)
Taxable 12,039 231 3.84 6,256 128 4.11
Non-taxable 29,647 895 6.04 36,109 1,055 5.84
---------- ------- ---- ---------- ------- -----
Total securities 840,679 22,651 5.39 596,111 19,481 6.54
---------- ------- ---- ---------- ------- -----
Loans: (2) (3)
Commercial 372,032 10,017 5.43 319,158 8,745 5.54
Real estate - commercial 467,308 16,249 7.01 358,103 13,227 7.35
Real estate - residential 504,578 14,680 5.82 268,566 8,826 6.57
Consumer 411,526 13,237 6.49 287,374 10,013 7.03
Credit card -- -- -- 14,943 828 11.17
---------- ------- ---- ---------- ------- -----
Total loans 1,755,444 54,183 6.21 1,248,144 41,639 6.69
---------- ------- ---- ---------- ------- -----
Total interest-earning assets 2,621,398 76,990 5.90 1,845,310 61,130 6.64
---------- ------- ---- ---------- ------- -----
Allowance for loan losses (21,383) (14,546)
Cash and due from banks 66,059 44,806
Intangible assets 97,664 4,863
Other assets 180,133 127,595
---------- ----------
Total assets $2,943,871 $2,008,028
========== ==========
Liabilities and stockholders' equity:
Now accounts $ 281,353 625 0.45 $ 156,672 576 0.74
Money market accounts 180,457 1,051 1.17 76,818 370 0.97
Savings deposits 507,658 2,230 0.89 337,753 2,126 1.27
Time deposits 843,915 12,956 3.10 573,643 10,888 3.83
---------- ------- ---- ---------- ------- -----
Total interest-bearing deposits 1,813,383 16,862 1.88 1,144,886 13,960 2.46
Short-term borrowings 93,337 578 1.25 100,274 998 2.01
Other borrowed funds 367,036 8,553 4.68 306,291 8,694 5.71
---------- ------- ---- ---------- ------- -----
Total interest-bearing liabilities 2,273,756 25,993 2.30 1,551,451 23,652 3.07
---------- ------- ---- ---------- ------- -----
Non-interest-bearing liabilities 369,903 274,929
Other liabilities 32,300 24,801
Stockholders' equity 267,912 156,847
---------- ----------
Total liabilities and stockholders' equity $2,943,871 $2,008,028
========== ==========
Net interest spread 3.60 3.57
Effect of net non-interest-bearing funds 0.30 0.50
---- -----
Net interest income (tax-equivalent basis) 50,997 37,478
Tax-equivalent adjustment (2,195) (1,610)
------- -------
Net interest income $48,802 $35,868
======= =======
Net interest margin (4) 3.90% 4.07%
==== =====
- ----------
(1) Securities available for sale are stated at amortized cost.
(2) Interest income is presented on a tax-equivalent basis using a 35% Federal
tax rate.
(3) Average loan balances and yields include non-accruing loans. Loan fees are
included in the interest amounts and are not material.
(4) Net interest income on a tax-equivalent basis as a percentage of total
average interest-earning assets.
20
Provision for Loan Losses
The provision for loan losses represents Management's estimate of the
amount necessary to be charged to operations to bring the allowance for loan
losses to a level that is considered adequate in relation to the risk of losses
inherent in the loan portfolio. Actual loan losses, net of recoveries, serve to
reduce the allowance.
The loan loss provision amounted to $3.1 million in the six months
ended June 30, 2003, representing a $5.9 million decrease from the same period
of 2002. The substantial decrease in the loan loss provision for the six months
was related primarily to two credits that were placed on non-accrual in the
first and second quarters of 2002 and the continued improvement in asset
quality.
Non-Interest Income
Non-interest income has become an increasingly important source of
revenue for the Company. The major components of non-interest income are
presented below (in thousands).
Six Months Ended
June 30, 2003 Over (Under) 2002
----------------- ----------------------
2003 2002 Amount Percent
------- ------- ------- -------
Trust income $ 3,127 $ 2,970 $ 157 5.3%
Service charges on deposit accounts 3,365 1,960 1,405 71.7
Other service charges, commissions and fees 2,194 1,779 415 23.3
Net gains from securities transactions 4,146 20 4,126 NM
Income on life insurance 1,919 1,659 260 15.7
Dissolution of joint venture -- 1,171 (1,171) NM
Gain on the disposition of credit card portfolio -- 920 (920) NM
Other income 1,314 1,197 117 9.8
------- ------- -------
Total non-interest income $16,065 $11,676 $ 4,389 37.6%
======= ======= ======= ====
- ----------
NM - Not meaningful.
Non-interest income increased 38% to $16.1 million for the six months
ended June 30, 2003 from the $11.7 million earned in the same period of 2002.
The increase from the prior year period was attributable to the realization of
$4.1 million in gains on securities transactions during the six months ended
June 30, 2003 and the impact of the Vista Merger, partly offset by a $1.2
million recovery on the dissolution of a joint venture in the first quarter of
2002 and the aforementioned gain recognized from the sale of the credit card
portfolio in the second quarter of 2002. The Company sold $152 million in
available for sale mortgage-backed securities during the six months ended June
30, 2003 in an effort to realize gains and reinvest the proceeds, expecting that
otherwise these securities would be prepaid in the near term at par value.
Typically, such prepayments have an adverse effect on the yields on average
loans and securities and, accordingly, on net interest income.
21
Non-Interest Expense
The Company closely monitors non-interest expense growth. The
following table presents an analysis of the major categories of non-interest
expenses (in thousands):
Six Months Ended
June 30, 2003 Over (Under) 2002
----------------- ----------------------
2003 2002 Amount Percent
------- ------- -------- -------
Salaries, wages and employee benefits $21,344 $15,186 $ 6,158 40.6%
Occupancy expense, net 4,903 2,843 2,060 72.5
Furniture and equipment expense 2,720 2,146 574 26.7
Data processing expense 1,926 2,579 (653) (25.3)
Amortization of intangible assets 1,581 741 840 113.4
Merger-related charges -- 779 (779) NM
Other expenses:
Legal and other professional service expense 2,039 1,703 336 19.7
Marketing and shareholder communications expense 2,436 1,428 1,008 70.6
Telecommunication expense 911 648 263 40.6
Loan origination/collection expense 763 456 307 67.3
Credit card expense -- 572 (572) NM
All other 3,472 2,147 1,325 61.7
------- ------- -------
Total other expenses 9,621 6,954 2,667 38.4
------- ------- -------
Total non-interest expense $42,095 $31,228 $10,867 34.8%
======= ======= ======= =====
- ----------
NM - Not meaningful.
Non-interest expense increased 35% to $42.1 million in the six months
ended June 30, 2003 over the $31.2 million incurred in the same period of 2002.
The same factors noted in the comparison of the second quarter 2003 expenses to
those of the same period in 2002 also contributed to the first half expense
variance, as well as increased snow removal/parking lot maintenance costs of
$0.7 million and costs relating to the settlement of a lawsuit, which amounted
to $0.5 million.
The Company adopted the fair value based method to recognize
compensation expense on all of its outstanding stock option awards in the fourth
quarter of 2002, in accordance with the provisions of SFAS No. 123, "Accounting
for Stock-Based Compensation," as amended by SFAS No. 148, which permits
retroactive restatement. Accordingly, the Company increased its employee benefit
expense in its prior period.
Income Taxes
The provision for income taxes amounted to $4.5 million in the six
months ended June 30, 2003 from the $0.4 million incurred in the same period of
the prior year. The increase in the income tax provision was due to a 167%
increase in income before provision for income taxes.
LINES OF BUSINESS - SEGMENT REPORTING
The Company, for management purposes, is segmented into the following
lines of business: Retail Banking, Commercial Banking, Investments, and Trust
and Investment Services. Activities not included in these lines are reflected in
All Other. Summary financial information on a fully tax-equivalent basis for the
lines of business is presented in "Note 7. Lines of Business - Segment
Reporting" of this report.
Retail Banking
Net income before taxes for this segment in the six months ended June
30, 2003, increased $9.5 million from the same period in 2002 due to increases
of $17.6 million in net interest income and $0.5 million in non-interest income.
This was offset by increases in non-interest expense of $7.6 million and an
increase in the allocation of the provision for loan losses of $1.0 million. The
higher net interest income was primarily related to increased average
residential mortgage and consumer loans and wider-spread average core deposits
when compared to the first half of 2002. The increases in non-interest income
and non-interest expense were mainly due to the Vista
22
Merger, and the increase in the loan loss provision was due primarily to the
Vista Merger and increased loan volume.
Commercial Banking
Pretax results in the six months ended June 30, 2003 increased $7.0
million from the same period in 2002 primarily due to a $6.9 million decrease in
the loan loss provision allocation. The substantial decrease in the loan loss
provision for the current quarter was related primarily to two credits that were
placed on non-accrual in the first and second quarters of 2002 and the continued
improvement in asset quality. Net interest income increased $1.2 million in the
six months ended June 30, 2003 due to increased average commercial and real
estate construction loans. In addition, non-interest expense increased $1.2
million due to the Vista Merger.
Investments
Pretax income for the six months ended June 30, 2003 increased $7.1
million over the same period in 2002 due to a $5.3 million increase in net
interest income and a $4.5 million increase in non-interest income, offset by a
$2.7 million increase in non-interest expense. The increase in net interest
income was largely due to a 44% growth in average investment securities and
wider spreads on mortgage-backed securities purchased during the past six
months, while the increase in non-interest income was due to the realization of
$4.1 million of investment securities gains. The increase in non-interest
expense was due to a larger allocation of corporate overhead due to the
increased pretax income.
Trust and Investment Services
In the six months ended June 30, 2003, income before taxes for this
segment increased $0.2 million from the same period in 2002. Fees for trust
services increased $0.4 million, which was offset by a $0.2 million increase in
non-interest expense.
All Other
Net loss before taxes in the six months ended June 30, 2003 for this
segment was $4.6 million as compared to net income before taxes of $6.2 million
for the same period in 2002. This was due primarily to a $10.6 million decline
in net interest income related to a higher funds credit assigned to non-maturity
core deposits in Retail Banking in the first half of 2003 due to longer expected
life of these deposits and lower relative funding costs charged on
mortgage-related assets in the Retail Banking and Investments segments.
Non-interest income decreased $1.1 million from the first quarter of 2002 due to
a $1.2 million recovery from the dissolution of the UFS joint venture recorded
in 2002. In addition, non-interest expense was $0.8 million lower in the six
months ended June 30, 2003 compared to the same period of 2002 due to $0.8
million of merger related expenses recorded in 2002.
The following table shows the percentage contribution of the various
lines of business to consolidated income before taxes on a fully tax-equivalent
basis:
Six Months Ended
June 30,
----------------
2003 2002
----- -----
Retail banking 61.3% 43.8%
Commercial banking 11.9 (49.1)
Investments 43.5 27.3
Trust and investment services 4.4 8.9
All other (21.1) 69.1
----- -----
Total consolidated 100.0% 100.0%
===== =====
23
FINANCIAL CONDITION
Loan Portfolio
An analysis of loans outstanding, net of unearned income, is presented
in the following table (in thousands):
June 30, December 31,
2003 2002
---------- ------------
Commercial mortgage $ 390,614 $ 399,826
Residential mortgage 565,380 447,940
Construction 80,415 81,808
Commercial 424,873 339,635
Consumer 440,609 395,860
---------- ----------
Total $1,901,891 $1,665,069
========== ==========
At June 30, 2003, total loans increased $236.8 million or 14% from
year-end 2002, which represents an annual growth rate of 28%. The Company
achieved strong growth in residential, commercial and consumer loans, which
increased $117.4 million, $85.2 million and $44.7 million, respectively. On an
annualized basis, this represents growth of 52%, 50% and 23%, respectively.
Activity in the commercial mortgage portfolio, which declined $9.2 million from
year-end 2002, had been affected by the adverse weather conditions this past
winter.
Asset Quality
Lending policies are formulated by the Company's Senior Lending
Officer and reviewed and approved by the Board of Directors of the Company and
the Bank. Loan approval requirements are dictated by the policies for the
respective loan areas of the Bank, which are based on, but not limited to,
reputation of the customer, collateral securing the loan, capital, ability to
repay, and current economic conditions. Individual approval limits for each of
the Bank's loan officers have been reviewed and reset, as appropriate. However,
authority for approval of credits between $1 million and $15 million, is still
retained by the Bank's Management Loan Committee, consisting of the Bank's Chief
Executive Officer, President, Chief Operating Officer and Senior Lending
Officer, Executive Vice President Commercial and Consumer Lending, Executive
Vice President Real Estate Lending, Senior Vice President and Commercial Real
Estate Department Head, Vice President and Commercial Loan Department Head and
the Senior Credit Officer, as appropriate. Additionally, the Executive Committee
of the Board of Directors of the Company and the Bank approve credit extensions
exceeding $15 million.
Loan officers are required to identify potentially deteriorating loan
situations through a self-reporting system. The Bank maintains a risk rating
system for all commercial, construction and commercial real estate loans. Each
of these loans is evaluated and given a rating upon origination. Subsequently,
these loans are monitored on a regular basis and rating revisions are made, as
appropriate. Each month, the Bank's lending staff reviews delinquent loans for
all loan portfolios with the Credit Quality Committee of the Bank, consisting of
the same management group as the Bank's Management Loan Committee as well as
other lending department heads, and the Executive Committee of the Board of
Directors of the Company and the Bank. These processes allow for implementation
of a strategy to react in the early stage of a potential credit concern.
The Company's independent loan review function is an integral part of
its overall loan administration. The Bank has engaged an independent consultant
to perform the loan review function. The independent consultant is responsible
for the evaluation of credit extensions with respect to quality, documentation
and risk criteria. The consultant's direct reporting line to the Audit Committee
of the Board of Directors of the Bank is intended to maintain its independence
and to provide assurance that troubled loan situations will be identified and
proper procedures followed to establish corrective measures. The loan review and
the self-reporting and risk rating systems are designed to provide the Company
with an early warning mechanism to detect loans to customers with deteriorating
financial conditions or loans that may represent potentially troubled
situations. In addition, the Company's internal audit department reviews loan
documentation and collateral as part of its regular audit procedures.
24
Non-Performing Assets
The Company defines non-performing assets as non-accrual loans,
impaired loans, loans past due 90 days or more and still accruing, other real
estate owned and other assets owned. At June 30, 2003, non-performing assets
totaled $17.0 million or 0.56% of total assets compared to $16.3 million or
0.57% of total assets at December 31, 2002.
Non-performing loans at June 30, 2003 were $15.4 million or 0.81% of
total loans, compared to $15.7 million or 0.95% of total loans at December 31,
2002.
At June 30, 2003, the Company's holdings in other real estate owned
amounted to $1.5 million compared to $570,000 at December 31, 2002. Foreclosures
will continue to result in assets migrating from non-performing loans to other
real estate owned. It is the Company's intent to actively negotiate and dispose
of these properties at fair market values, which are considered reasonable under
the circumstances. In the six months ended June 30, 2003, the Company recognized
$72,000 in net recoveries relating to these properties compared to $75,000 in
net costs during the same period of 2002. Other assets owned amounted to $84,000
at June 30, 2003 compared to $30,000 at December 31, 2002.
The following table provides an analysis of non-performing assets as
of the periods indicated (in thousands):
December 31,
June 30, ----------------------------------
2003 2002 2001 2000 1999
------- ------- ------ ------ ------
Non-accrual loans (1) $12,541 $14,029 $4,373 $5,619 $4,382
Loans past due 90 days or more (2) 2,842 1,720 2,064 1,118 3,732
------- ------- ------ ------ ------
Total non-performing loans 15,383 15,749 6,437 6,737 8,114
Other real estate owned (OREO) (3) 1,543 570 127 165 56
Other assets owned (OAO) (4) 84 30 64 28 53
------- ------- ------ ------ ------
Non-performing assets $17,010 $16,349 $6,628 $6,930 $8,223
======= ======= ====== ====== ======
Troubled debt restructurings $ -- $ 12 $ -- $ 14 $ 28
======= ======= ====== ====== ======
Non-performing loans as a % of:
Loans 0.81% 0.95% 0.52% 0.52% 0.64%
Total assets 0.51 0.55 0.33 0.32 0.39
Non-performing assets as a % of:
Loans, OREO and OAO 0.89 0.98 0.54 0.54 0.65
Total assets 0.56 0.57 0.34 0.33 0.39
- ----------
(1) Generally represents those loans on which Management has determined that
borrowers may be unable to meet contractual principal and/or interest
obligations or where interest or principal is past due for a period of 90
days or more (except when such loans are both well-secured and in the
process of collection). When loans are placed on non-accrual status, all
accrued but unpaid interest is reversed.
(2) Represents loans on which payments of interest and/or principal are
contractually past due 90 days or more, but are currently accruing interest
at the previously negotiated rates, based on a determination that such
loans are both well-secured and in the process of collection.
(3) Consists of real estate acquired through foreclosure.
(4) Consists of assets, other than real estate, acquired through repossession,
forfeiture or abandonment.
25
Loan Loss Experience
The following table presents an analysis of the allowance for loan
losses, including charge-offs and recoveries for the periods indicated.
December 31,
June 30, -------------------------------------
2003 2002 2001 2000 1999
-------- ------- ------- ------- -------
Beginning balance $20,407 $12,478 $12,419 $10,386 $11,174
Charge-offs (1,662) (9,985) (3,770) (3,745) (4,787)
Recoveries 270 640 1,068 1,048 967
------- ------- ------- ------- -------
Net charge-offs (1,392) (9,345) (2,702) (2,697) (3,820)
Provision for loan losses 3,075 11,150 2,761 4,730 3,825
Addition related to Vista Merger -- 6,124 -- -- --
Reduction related to loan sale -- -- -- -- (793)
------- ------- ------- ------- -------
Ending balance $22,090 $20,407 $12,478 $12,419 $10,386
======= ======= ======= ======= =======
Net charge-offs as a % of Average
loans 0.16%(1) 0.67% 0.22% 0.21% 0.34%
Allowance for loans losses as a % of:
Loans 1.16 1.23 1.01 0.96 0.82
Non-performing loans 143.60 129.58 193.85 184.34 128.00
- ----------
(1) Annualized basis.
Asset/Liability Management
The Company's asset/liability management activities are intended to
ensure adequate liquidity and to protect net interest revenue from the effect of
adverse movements in the level of interest rates and the shape of the interest
rate yield curve. The Asset/Liability Management Committee (the "ALCO") is
responsible for monitoring the Company's liquidity and interest rate risk
positions. The ALCO meets regularly to assess the Company's current and
prospective risk exposure and to establish strategies to achieve net interest
margin objectives. Both on-balance sheet and off-balance sheet (e.g., interest
rate swap agreements) techniques are used to implement ALCO strategies.
ALCO monitors and manages interest rate sensitivity through simulation
and market value of equity analyses in order to avoid unacceptable earnings
fluctuations due to interest rate changes. The Company's simulation model
includes certain management assumptions based upon past experience and the
expected behavior of customers during various interest rate scenarios. The
assumptions include principal prepayments for various loan and security products
and classifying the non-maturity deposit balances by degree of interest rate
sensitivity.
Management believes that the simulation of net interest income in
different interest rate environments provides a meaningful and dynamic measure
of interest rate risk. Income simulation analysis captures not only the
potential of all assets and liabilities to mature or reprice, but the
probability that such would occur. Income simulation also permits management to
assess the probable effects on the balance sheet not only of changes in interest
rates, but also of proposed strategies for responding to them.
The Company's income simulation model analyzes interest rate
sensitivity by projecting net interest income over the next 24 months in a flat
rate scenario versus net interest income in alternative interest rate scenarios.
Management reviews and refines its interest rate risk management process in
response to the changing economic climate. The model incorporates management
assumptions regarding the level of interest rate or balance changes on
non-maturity deposit products, such as NOW, savings, money market and demand
deposit accounts, for a given level of market rate changes. These assumptions
incorporate historical analysis and future expected customer behavior patterns.
Interest rate caps and floors are included, if applicable. Changes in prepayment
behaviors of mortgage-based products for both loans and securities in each rate
environment are also captured. Additionally, the impact of planned growth and
anticipated new business activities are factored into the model.
26
Currently, the Company's earnings simulation model employs a 400 basis
point differential in rates (i.e., the difference between a rising rate
projection and a declining rate projection) during the first year, in even
monthly increments, with rates held constant in the second year. The Company's
ALCO policy has established that interest income sensitivity will be considered
acceptable if the change in net interest income in the above interest rate
scenario is within 10% of net interest income from the flat rate scenario in the
first year and over a two-year timeframe. At June 30, 2003, the Company's income
simulation model indicates an acceptable level of interest rate risk and is
materially consistent with the year-end disclosure.
In light of significant changes occurring in market interest rates,
the Company will continue to evaluate its sensitivity to interest rates.
Liquidity and Funding
Liquidity management involves the Company's ability to maintain
prudent amounts of liquid assets in its portfolio in order to meet the borrowing
needs and deposit withdrawal requirements of customers and to support asset
growth. Current and future liquidity needs are reviewed by ALCO to determine the
appropriate asset/liability mix.
The ALCO analysis includes an examination of the maturity and
potential volatility characteristics of the Company's liabilities. Funding
sources available to the Company include retail and commercial deposits,
purchased liabilities and stockholders' equity. During 2002 and into 2003, the
Company was able to reduce its reliance on short-term borrowings or other
"purchased" funds to satisfy liquidity requirements through the growth in core
deposits and the impact of the Vista Merger. Consequently, the sum of average
large-denomination municipal certificates of deposit and average short-term
borrowings for the six months ended June 30, 2003 was $127.6 million or only
4.3% of average total assets.
Additionally, asset liquidity is provided by short-term investments
and the marketability of securities available for sale. Short-term investments
averaged $25.3 million in the six months ended June 30, 2003 while securities
available for sale at market value averaged $840.7 million in the same period of
2003. The Company did not maintain any short-term investments at June 30, 2003,
while securities available for sale at market value amounted to $773.9 million
at June 30, 2003.
The Company intends to hold its investment securities for the
foreseeable future. However, the level and composition of the portfolio may
change as a result of maturities and purchases undertaken as part of the
asset/liability management process. Unexpected changes in the financial
environment are likely to affect the Company's interest rate risk, liquidity
position and the potential return on the portfolio. Additionally, the Company
may also purchase and sell those securities that are available for sale in order
to address these changes. Overall balance sheet size and capital adequacy are
considered in determining the appropriate level for the portfolio. When economic
factors cause changes in the balance sheet or when the Company reassesses its
interest rate risk, liquidity or capital position, strategic changes may be made
in both the securities held to maturity and securities available for sale
portfolios based on opportunities to enhance the ongoing total return of the
balance sheet.
The following table sets forth the market value of securities
available for sale at June 30, 2003 and at December 31, 2002 (in thousands)
June 30, December 31,
2003 2002
-------- ------------
Debt Securities:
U.S. Treasury securities $ 8,151 $ 3,174
Federal agency obligations 15,158 13,561
State and municipal securities 138,880 134,629
Mortgage-backed securities 475,278 546,733
Corporate debt securities 110,609 106,603
-------- --------
Total debt securities 748,076 804,700
-------- --------
Equity securities:
Marketable equity securities 3,721 4,259
Federal Reserve Bank and Federal Home Loan Bank Stock 22,148 19,017
-------- --------
Total equity securities 25,869 23,276
-------- --------
27
-------- --------
Total securities available for sale $773,945 $827,976
======== ========
The following table sets forth the amortized costs of securities held
to maturity at June 30, 2003 and at December 31, 2002.
June 30, December 31,
2003 2002
-------- ------------
Debt Securities:
U.S. Treasury securities $ 3,006 $ 3,048
State and municipal securities 25,036 39,134
Mortgage-backed securities 34,497 831
Corporate debt securities -- 1,997
Foreign government securities 200 250
------- -------
Total securities held to maturity $62,739 $45,260
======= =======
Asset liquidity is represented by the ease with which assets can be
converted into cash. This liquidity is provided by marketable equity securities
and debt securities with maturity dates, assuming prepayments, of one year or
less, which totaled $339.4 million at June 30, 2003. Included within this figure
are marketable equity securities amounting to $1.5 million. Debt securities
consist primarily of U.S. Treasury securities, Federal agency obligations,
mortgage-backed securities and state and municipal securities. All securities
held by the Company are believed to be readily marketable. As of June 30, 2003,
debt securities scheduled to mature within one year based upon estimated cash
flows, amounted to $337.9 million and represented 40% of the total debt
securities portfolio. Approximately 86% of the entire debt portfolio is
projected to mature or reprice within five years, based upon estimated cash
flows. There was no security issue held which represented more than 10% of the
Company's stockholders' equity. Additional liquidity is derived from scheduled
loan and investment payments of principal and interest, as well as prepayments
received.
Capital Adequacy
The Company strives to maintain a strong capital position. Capital
adequacy is monitored in relation to the size, composition and quality of its
asset base and with consideration given to regulatory guidelines and
requirements, as well as industry standards. Management seeks to maintain a
capital structure that will support anticipated asset growth and provide for
favorable access to the capital markets.
At June 30, 2003, total stockholders' equity was $267.1 million, an
increase of $2.5 million from year-end 2002. During the six months ended June
30, 2003, the Company generated net retained earnings of $7.7 million. These
increases were partially offset by a reduction of $6.2 million resulting from
the Company's purchases under its stock repurchase program of 242,000 shares to
be held in Treasury at an average price of $25.73 per share and a decline of
$188,000 in the market value of the Company's available for sale securities
portfolio from December 31, 2002 to June 30, 2003.
28
The following reflects the Company's capital ratios as of June 30,
2003 and December 31, 2002 in accordance with current regulatory guidelines
(dollars in thousands):
June 30, 2003 December 31, 2002
---------------- -----------------
Amount Ratio Amount Ratio
-------- ----- -------- ------
Risk-Based Capital Ratios:
Tier I Capital
Actual $212,085 9.77% $208,429 10.34%
Regulatory Minimum Requirement 86,871 4.00 80,602 4.00
For Classification as Well Capitalized 130,306 6.00 120,903 6.00
Combined Tier I and Tier II Capital
Actual 234,175 10.78 228,836 11.36
Regulatory Minimum Requirement 173,741 8.00 161,204 8.00
For Classification as Well Capitalized 217,177 10.00 201,505 10.00
Leverage Ratio:
Actual 212,085 7.28 208,429 7.40
Regulatory Minimum Requirement 116,464 4.00 112,603 4.00
For Classification as Well Capitalized 145,580 5.00 140,754 5.00
The Company's risk based capital ratios (Tier I Capital and Combined
Tier I and Tier II Capital) and Tier I leverage ratio continue to exceed the
minimum requirements set forth by the Company's regulators to be considered well
capitalized.
Common Stock and Dividends
The Company's Common Stock is traded in the over-the-counter market on
the NASDAQ Stock Market. The market price of its common shares increased during
the six months ended June 30, 2003 reaching a high of $28.47 near the end of the
second quarter. The Company's Common Stock price was $27.58 at June 30, 2003
compared to $23.05 at December 31, 2002. Book value per common share increased
1.9% during the six months ended June 30, 2003 and amounted to $14.20 per share
at June 30, 2003. This resulted in the Company's per share market price to book
value rising to 194% from 165% at the end of 2002.
The Company has paid cash dividends for 60 consecutive quarters since
it commenced operations in 1988. While the Company presently expects to continue
to pay dividends, no assurance can be given that dividends will be paid in the
future since the declaration and payment of such dividends will be based on a
number of factors considered by the Board of Directors, including current and
prospective earnings, anticipated asset growth, the Company's capital position
and the economic outlook. Future dividends will also depend on, among other
things, the earnings and financial condition of the Bank, its need for funds and
applicable governmental policies and regulations. Any deferral of payments due
to the trust preferred securities would prevent the Company from paying
dividends until the deferred amounts are paid.
29
Item 3 - Quantitative and Qualitative Disclosure About Market Risk
Information pertaining to this item can be found in the section
"Asset/Liability Management" in Item 2 of this report.
Item 4 - Controls and Procedures
The Company's Chief Executive Officer and Chief Financial Officer,
with the assistance of other members of the Company's management, have evaluated
the effectiveness of the Company's disclosure controls and procedures as of the
end of the period covered by this Quarterly Report on Form 10-Q. Based on such
evaluation, the Company's Chief Executive Officer and Chief Financial Officer
have concluded that the Company's disclosure controls and procedures are
effective.
The Company's Chief Executive Officer and Chief Financial Officer have
also concluded that there have not been any changes in the Company's internal
control over financial reporting that has materially affected, or is reasonably
likely to materially affect, the Company's internal control over financial
reporting.
30
Part II - Other Information
Item 4 - Submission of Matters to a Vote of Security Holders
On or about April 25, 2003, the Company mailed to its shareholders a
proxy statement ("Proxy Statement") for the purpose of soliciting proxies for
use at its Annual Meeting of Shareholders. The proxies were solicited pursuant
to Regulation 14A under the Securities Exchange Act of 1934.
At the Annual Meeting, held on May 20, 2003, the shareholders approved
the following proposals set forth in the Proxy Statement, by the votes
indicated:
1. Election of the six (6) directors nominated by the Company's Board of
Directors to serve until the expiration of their terms and thereafter until
their successors shall have been duly elected and have been qualified.
Director Term Expiration Affirmative Votes Authority to Vote Withheld
- ------------------------ --------------- ----------------- --------------------------
William T. Kelleher, Jr. 2006 13,510,018 483,146
Charles N. Pond, Jr. 2006 13,505,039 488,125
Arlyn D. Rus 2006 13,494,381 498,783
Ronald E. West 2006 11,319,392 104,762
J. Marshall Wolff 2006 13,509,449 483,715
Barbara Harding 2004 13,434,383 558,781
The following directors' terms of office continued after the meeting:
George W. Blank
C. Douglas Cherry
Thomas C. Gregor
John R. Kopicki
John W. McGowen III
Patricia A. McKiernan
Paul K. Ross
David Walker
George Wickard
The following nominee to the Board of Directors was not elected and
received votes as indicated:
Nominee Affirmative Votes Authority to Vote Withheld
- --------------- ----------------- --------------------------
Harold Schecter 2,474,611 94,399
2. Ratification of the selection of KPMG, LLP as the Company's independent
auditors for the year ending December 31, 2003.
For Against Abstain
- ---------- ------- --------
13,753,001 106,290 133,873
31
Item 6 - Exhibits and Reports on Form 8-K
Exhibit List
(3) By-laws of the Company, as amended through June 17, 2003.
(31.1) Certification of Chairman of the Board, President and Chief Executive
Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
(31.2) Certification of Vice President and Treasurer (Principal Financial
Officer) Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
(32) Certification of the Chairman of the Board, President and CEO and
certification of the Vice President and Treasurer pursuant to Section
302 of Sarbanes-Oxley Act of 2002.
Reports on Form 8-K
A Form 8-K was filed on April 16, 2003, under Item 7 "Financial
Statements and Exhibits" and Item 9 "Regulation FD Disclosure". The
Company's press release dated April 16, 2003, United National Bancorp
Reports Increased First Quarter Earnings.
A Form 8-K was filed on April 21, 2003, under Item 5 "Other
Events" and Item 7 "Financial Statements, Pro Forma Financial Information
and Exhibits." The Company filed its Bylaws as amended through April 15,
2003.
A Form 8-K was filed on May 30, 2003, under Item 5 "Other
Information." The Company's press release dated May 30, 2003, United
National Bancorp Announces Results Of Annual Meeting of Shareholders.
A Form 8-K was filed on June 18, 2003, under Item 5 "Other
Information." The Company's press release dated June 18, 2003, United
National Bancorp Declares Cash Dividend.
32
SIGNATURES
Pursuant to the requirements of the Securities and Exchange Act of
1934, the Registrant has duly caused this report to be signed on its behalf by
the undersigned hereunto duly authorized.
UNITED NATIONAL BANCORP
-----------------------
(Registrant)
Dated: August 14, 2003 By: /s/ Thomas C. Gregor
--------------------------
Thomas C. Gregor
Chairman, President and CEO
Dated: August 13, 2003 By: /s/ Alfred J. Soles
--------------------------
Alfred J. Soles
Senior Vice President & Chief
Financial Officer
(Principal Financial Officer)
33