FARMERS & MERCHANTS BANCORP INC - 10-Q Quarterly Report

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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
X Quarterly Report Pursuant to Section 13 or 15(d)
---
of the Securities Exchange Act of 1934
For the quarterly period ended September 30, 2004

OR

--- Transition Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the transition period from to
------- -------

Commission File Number 0-14492
------------------------------
FARMERS & MERCHANTS BANCORP, INC.
---------------------------------
(Exact name of registrant as specified in its charter)

OHIO 34-1469491
----- ----------
(State or other jurisdiction of (I.R.S Employer
incorporation or organization) Identification No.)

307-11 North Defiance Street, Archbold, Ohio 43502
- -------------------------------------------- --------------
(Address of principal executive offices) (Zip Code)

(419) 446-2501
- --------------------------------------------------------------------------------
Registrant's telephone number, including area code

- --------------------------------------------------------------------------------
(Former name, former address and former fiscal year, if changed since last
report.)

Indicate the number of shares of each of the issuers classes of common stock,
as of the latest practicable date:

Common Stock, No Par Value 1,300,000
- ------------------------------------- -------------------------------------
Class Outstanding as of October 29, 2004

SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10Q

FARMERS & MERCHANTS BANCORP, INC.
INDEX

Form 10-Q Items Page
---------------

PART I. FINANCIAL INFORMATION

Item 1. Financial Statements (Unaudited)

Condensed Consolidated Balance Sheets-
September 30, 2004, December 31, 2003 and September 30, 2003 1

Condensed Consolidated Statements of Net Income-
Three Months and Nine Months Ended September 30, 2004 and September 30, 2003 2

Condensed Consolidated Statements of Cash Flows-
Nine Months Ended September 30, 2004 and September 30, 2003 3

Notes to Condensed Financial Statements 4

Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 4-5

Item 3. Market Risk 5-6

Item 4. Controls and Procedures 6

PART II. OTHER INFORMATION

Item 1. Legal Proceedings 6

Item 2. Changes in Securities and Use of Proceeds 6

Item 3. Defaults Upon Senior Securities 6

Item 4. Submission of Matters to a Vote of Security Holders 7

Item 5. Other Information 7

Item 6. Exhibits and Reports on form 8K 7

Signatures 7

Certifications Under Section 302 8-9

Exhibit 32. Additional Exhibit - Certifications Under Section 906 10

ITEM 1 FINANCIAL STATEMENTS

FARMERS & MERCHANTS BANCORP, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)
(in thousands of dollars)

Sept 30, 2004 December 31, 2003 Sept 30, 2003
------------- ----------------- -------------

ASSETS:
Cash and due from banks $ 15,397 $ 18,873 $ 15,531
Interest bearing deposits with banks 1,740 662 608
Federal funds sold 0 0 0
Investment Securities:
U.S. Treasury 2,913 6,637 2,823
U.S. Government 106,631 111,011 113,212
State & political obligations 56,350 51,016 53,297
All others 3,617 2,028 1,973
Loans and leases (Net of reserve for loan losses of
$7,673, $7,300, and $9,313 respectively) 488,784 480,339 489,928
Bank premises and equipment-net 15,520 15,874 15,906
Accrued interest and other assets 14,539 19,263 18,526
-------- -------- --------
TOTAL ASSETS $705,491 $705,703 $711,804
======== ======== ========

LIABILITIES AND SHAREHOLDERS' EQUITY
LIABILITIES:
Deposits:
Noninterest bearing $ 47,953 $ 50,710 $ 42,623
Interest bearing 530,708 524,356 528,553
Federal funds purchased and securities
sold under agreement to repurchase 21,664 27,319 29,531
Other borrowed money 23,248 24,374 27,139
Accrued interest and other liabilities 3,637 4,088 10,290
-------- -------- --------
Total Liabilities 627,210 630,847 638,136

SHAREHOLDERS' EQUITY:
Common stock, no par value - authorized 1,500,000
shares; issued 1,300,000 shares 12,677 12,677 12,677
Undivided profits 64,629 60,196 58,831
Accumulated other comprehensive income 975 1,983 2,160
-------- -------- --------
Total Shareholders' Equity 78,281 74,856 73,668
-------- -------- --------

LIABILITIES AND SHAREHOLDERS' EQUITY $705,491 $705,703 $711,804
======== ======== ========

See Notes to Condensed Consolidated Unaudited Financial Statements.
Note: The December 31, 2003 Balance Sheet has been derived from the
audited financial statements of that date.

1

FARMERS & MERCHANTS BANCORP, INC.
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)
(in thousands of dollars)

Three Months Ended Nine Months Ended
September 30, 2004 Sept 30, 2003 September 30, 2004 Sept 30, 2003
INTEREST INCOME:

Loans and leases $ 7,727 $ 8,518 $ 23,219 $ 26,028
Investment Securities:
U.S. Treasury securities 19 28 50 112
Securities of U.S. Government
agencies 938 1,048 2,958 3,289
Obligations of states and
political subdivisions 501 531 1,515 1,674
Other 38 45 110 119
Federal funds 2 7 34 24
Deposits in banks 24 5 34 22
-------- -------- -------- --------
Total Interest Income 9,249 10,182 27,920 31,268
INTEREST EXPENSE:
Deposits 2,450 3,046 7,369 10,161
Borrowed funds 309 315 915 1,136
Total Interest Expense 2,759 3,361 8,284 11,297
NET INTEREST INCOME BEFORE
PROVISION FOR LOAN LOSSES 6,490 6,821 19,636 19,971
PROVISION FOR LOAN LOSSES 150 675 941 5,373
NET INTEREST INCOME AFTER
PROVISION FOR LOAN LOSSES 6,340 6,146 18,695 14,598
OTHER INCOME:
Service charges 550 543 1,615 1,604
Other 824 1,044 2,124 2,905
Net securities gains -- 2 127 524
-------- -------- -------- --------
1,374 1,589 3,866 5,033
OTHER EXPENSES:
Salaries and wages 2,099 1,664 5,896 5,110
Pension and other employee benefits 555 462 1,602 1,443
Occupancy expense (net) 246 137 604 488
Other operating expenses 1,744 1,781 5,642 5,339
-------- -------- -------- --------
4,644 4,044 13,744 12,380
-------- -------- -------- --------
INCOME BEFORE FEDERAL INCOME TAX 3,070 3,691 8,817 7,251
FEDERAL INCOME TAXES 929 1,100 2,629 1,691
-------- -------- -------- --------
NET INCOME $ 2,141 $ 2,591 $ 6,188 $ 5,560
======== ======== ======== ========
OTHER COMPREHENSIVE INCOME (NET OF TAX):
Unrealized gains (losses) on securities $ 1,397 $ (1,529) $ (1,008) $ (1,556)
COMPREHENSIVE INCOME (EXPENSE) $ 3,538 $ 1,062 $ 5,180 $ 4,004
NET INCOME PER SHARE (Based upon
weighted average number of shares
outstanding of 1,300,000) $ 1.65 1.993076923 $ 4.76 4.276923077
DIVIDENDS DECLARED $ 0.45 $ 5.40 $ 1.35 $ 6.20

See Notes to Condensed Consolidated Unaudited Financial Statements.

2

FARMERS & MERCHANTS BANCORP, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(in thousands of dollars)

See Notes to Condensed Consolidated Unaudited Financial Statements.

3

FARMERS & MERCHANTS BANCORP, INC.

Notes to Condensed Consolidated Unaudited Financial Statements

NOTE 1 BASIS OF PRESENTATION

The accompanying unaudited condensed consolidated financial statements
have been prepared in accordance with generally accepted accounting
principles for interim financial information and with the instructions
for Form 10Q and Rule 10-01 of Regulation S-X; accordingly, they do not
include all of the information and footnotes required by generally
accepted accounting principles for complete financial statements. In
the opinion of management, all adjustments, consisting of normal
recurring accruals, considered necessary for a fair presentation have
been included. Operating results for the nine months ended September
30, 2004 are not necessarily indicative of the results that are
expected for the year ended December 31, 2004. For further information,
refer to the consolidated financial statements and footnotes thereto
included in the Company's annual report on Form 10-K for the year ended
December 31, 2003.

ITEM 2 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONS AND
RESULTS OF OPERATIONS

Statements contained in this portion of the Company's report may be
forward-looking statements, as that term is defined in the Private
Securities Litigation Reform Act of 1995. Forward-looking statements
may be identified by the use of words such as "intend," "believe,"
"expect," "anticipate," "should," "planned," "estimated," and
"potential." Such forward-looking statements are based on current
expectations, but may differ materially from those currently
anticipated due to a number of factors, which include, but are not
limited to, factors discussed in documents filed by the Company with
the Securities and Exchange Commission from time to time. Other factors
which could have a material adverse effect on the operations of the
company and its subsidiaries which include, but are not limited to,
changes in interest rates, general economic conditions, legislative and
regulatory changes, monetary and fiscal policies of the U.S.
Government, including policies of the U.S. Treasury and the Federal
Reserve Board, the quality and composition of the loan or investment
portfolios, demand for loan products, deposit flows, competition,
demand for financial services in the Bank's market area, changes in
relevant accounting principles and guidelines and other factors over
which management has no control. The forward-looking statements are
made as of the date of this report, and the Company assumes no
obligation to update the forward-looking statements or to update the
reasons why actual results differ from those projected in the
forward-looking statements.

Farmers & Merchants Bancorp, Inc. was incorporated on February 25,
1985, under the laws of the State of Ohio. Farmers & Merchants Bancorp,
Inc., and its subsidiaries The Farmers & Merchants State Bank and
Farmers & Merchants Life Insurance Company are engaged in commercial
banking and life and disability insurance, respectively. The executive
offices of Farmers & Merchants Bancorp, Inc. are located at 307-11
North Defiance Street, Archbold, Ohio 43502.

LIQUIDITY AND CAPITAL RESOURCES

Liquidity continues to remain strong as the investment portfolio holds
steady. Deposit growth was moderate during the first nine months and
has grown by $7.5 million as compared to September 30, 2003. The third
quarter of 2004 shows an increase in net loans of approximately $8.4
million compared to December 31, 2003, but remains behind the loans
balances of September 2003. Loans showed an increase of $5.6 million
over previous quarter, June 2004. Loan growth for the third quarter has
come primarily from the real estate market. The bank focused
advertising on home equity loans and were able to increase the
borrowings on lines while capturing additional market share through a
new promotion. Balances in the overall real estate portfolio increased
by $7.7 million over previous quarter. Overall, company assets have
declined in comparison to nine months and one year ago.

Loan demand has seen a slight improvement throughout the first nine
months of 2004. Loan demand is projected to increase as the economy
continues to strengthen. Financial results for the agricultural
community, which comprises

4

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONS AND
RESULTS OF OPERATIONS (Continued)

ITEM 2 approximately 12% of the overall portfolio, were strong during 2003
after two rough years. This has helped to strengthen the asset quality
of the portfolio. Past dues (over 30 days) in the total loan portfolio
have continued to decline and hit historical lows for the company. This
is a positive indicator for future loan losses to remain low during
2004.

Deposits increased compared to both year-end and a year ago totaling
$3.6 and $7.5 million, respectively. During 2003 a great deal of
depositors invested short term in the hopes of rising rates. Fifty
percent of the certificate of deposit portfolio matured during the
first half. The goal was to extend the duration of the portfolio while
maintaining the balances. The bank has been successful with promotions
to encourage depositors to invest longer. The bank has seen the most
growth in time deposits during 2004 and is striving to maintain its net
interest margin by controlling the liabilities repricing.

The additional deposit money and a small portion of the investment
portfolio was used to finance the modest increase in loans. Should loan
growth outpace deposit generation in the last quarter, the investment
portfolio will be used to fund the loan growth. Additional funds are
available in short and long-term borrowings as those balances have
decreased $11.8 and $6.8 million compared to September and December
2003, respectively.

The income statement shows yields on all portfolios have decreased
compared to 2003. Overall net interest income is lower by $335,000 for
the nine months ended September 2004 from 2003 income. Maintaining the
margin is an important part of the ongoing profitability of the
company. The discussion on market risk to follow documents the
exposure of margin and earnings to interest rate risk. The decrease in
net interest margin has followed the table as we saw the interest rates
increase these last two quarters.

The largest determinant for the improved profitability in 2004 is the
lower loan loss provision. Approximately $5.4 million was the provision
for September 2003 compared to $.9 million as of September 2004. The
reduction in provision offset the loss of other noninterest income that
had been derived from real estate refinancing during 2003 accounted for
in the other income of $2.9 million of September 2003 compared to $2.1
million so far in 2004. Personnel expenses have increased during 2004
due to increased medical costs, additional staff and an incentive
accrual based on the improved performance of the bank. Earnings per
share ended at a record high of $4.76.

The company continues to be well-capitalized as the capital ratios
below show:

Primary Ratio 11.81%
Tier I Leverage Ratio 10.89%
Risk Based Capital Tier 1 14.84%
Total Risk Based Capital 16.09%
Stockholders' Equity/Total Assets 11.10%

ITEM 3 MARKET RISK

Market risk is the exposure to loss resulting from changes in interest
rates and equity prices. The primary market risk to which the Company
is subject is interest rate risk. The majority of the Company's
interest rate risk arises, from the instruments, positions and
transactions entered into for the purposes, other than trading, such as
loans, available for sale securities, interest bearing deposits, short
term borrowings and long term borrowings. Interest rate risk occurs
when interest bearing assets and liabilities reprice at different times
as market interest rates change. For example, if fixed rate assets are
funded with variable rate debt, the spread between asset and liability
rates will decline or turn negative if rates increase.

5

ITEM 3 MARKET RISK (Continued)

Interest rate risk is managed within an overall asset/liability
framework for the Company. The principal objectives of asset/liability
management are to manage sensitivity of net interest spreads and net
income to potential changes in interest rates. Funding positions are
kept within predetermined limits designed to ensure that risk-taking is
not excessive and that liquidity is properly managed. The Company
employs a sensitivity analysis in the form of a net interest rate shock
as shown in the table following.

Interest Rate Shock on Net Interest Margin

Interest Rate Shock on Net Interest Income
Net Interest % Change to Rate Rate Cumulative % Change to
Margin (Ratio) Flat Rate Direction Changes by Total ($000) Flat Rate
- -------------- --------- --------- ---------- ------------ ---------

4.23% -3.388% Rising 3.000% 27,221 -4.785%
4.25% -2.901% Rising 2.000% 27,561 -3.595%
4.28% -2.379% Rising 1.000% 27,909 -2.380%
4.38% 0.000% Flat 0.000% 28,589 0.000%
4.41% 0.788% Falling -1.000% 28,800 0.737%
4.17% -4.761% Falling -2.000% 27,230 -4.755%
3.78% -13.775% Falling -3.000% 24,864 -13.032%

As the table shows, should rates increase as predicted, the bank's
exposure to interest rate risk is minimal. To the extent that the bank
has the ability not to instantly reprice the liability side of the
balance sheet, the risk would decrease even more.With the rate change
increases that have occurred during the last quarter, the bank did
experience a decrease in net interest income as predicted with the June
table and reflected in the positive numbers shown for a 100 basis point
falling rate shock. Very little movement of interest bearing asset or
liability balances has occurred during the last quarter that would
effect the maturity or pricing of those instruments. The falling rate
scenario shows the highest risk on a 300 basis point drop. With the
Federal Reserve upward movement that has occurred so far this year,
this scenario seems most unlikely.

ITEM 4 CONTROLS AND PROCEDURES

As of September 30 2004, an evaluation was performed under the
supervision and with the participation of the Company's management
including the CEO and CFO, of the effectiveness of the design and
operation of the Company's disclosure controls and procedures. Based on
that evaluation, the Company's management, including the CEO and CFO,
concluded that the Company's disclosure controls and procedures were
effective as of September 30, 2004. There have been no significant
changes in the Company's internal controls subsequent to September 30,
2004.

PART II

ITEM 1 LEGAL PROCEEDINGS

None

ITEM 2 CHANGES IN SECURITIES AND USE OF PROCEEDS

None

ITEM 3 DEFAULTS UPON SENIOR SECURITIES

None

6

ITEM 4 SUBMISSION OF MATTERS TO A VOTE OF SECURITIES HOLDERS

None

ITEM 5 OTHER INFORMATION

Daniel Schutt has joined the bank as an Executive Vice President and
Chief Lending Administrator. Mr. Schutt brings over 35 years of banking
experience and strengthens the executive management team, specifically
in the lending documentation and procedures area.

The Corporate Governance and Nominating Board Committee held its first
meeting August 20th and appointed Robert Frey as Chairman. The
committee plans to have regularly scheduled meetings and already has a
full slate of agenda items. The committee will be recommending
additional policies and procedures surrounding governance and stock
issues.

ITEM 6 EXHIBITS AND REPORTS ON FORM 8-K

3.1 Articles of Incorporation of the Registrant (incorporated by
reference to Registrant's Quarterly Report on Form 10-Q filed
with the Commission on May 10, 2004)

3.2 Code of Regulations of the Registrant (incorporated by reference
to Registrant's Quarterly Report on Form 10-Q filed with the
Commission on May 10, 2004)

31.1 Rule 13-a-14(a) Certification -CEO

31.2 Rule 13-a-14(a) Certification -CFO

32.1 Section 1350 Certification - CEO

32.2 Section 1350 Certification - CFO

No reports on Form 8-K were filed by the registrant during the quarter
ended September 30, 2004.

SIGNATURES

Pursuant to the requirements of Section 13 or 15 (d) of the Securities Exchange
Act of 1934, the registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.

Farmers & Merchants Bancorp, Inc.,

Date: October 29, 2004 By: /s/ Joe E. Crossgrove
-------------------------------
Joe E. Crossgrove
President and CEO

Date: October 29, 2004 By: /s/ Barbara J. Britenriker
-------------------------------
Barbara J. Britenriker
Exec. Vice-President and CFO

7

EXHIBIT INDEX

EXHIBIT NO. DESCRIPTION

31.1 Certification of Chief Executive Officer pursuant to Section 302

31.2 Certification of Chief Financial Officer pursuant to Section 302

32.1 Certification pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

32.2 Certification pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002