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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-K
(Mark One)
[X] Annual Report pursuant to Section 13 or 15(d) of the Securities Exchange Act
of 1934
For the fiscal year ended December 31, 2004 or
[ ] Transition report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the transition period from _________________ to _________________
Commission file number 0-49771
Merchants Bancorp, Inc.
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(Exact name of registrant as specified in its Charter.)
Ohio 31-1467303
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(State or other jurisdiction of (IRS) Employer Identification No.)
incorporation or organization)
100 North High Street, Hillsboro, Ohio 45133
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(Address of principal executive offices) (ZIP Code)
(937) 393-1993
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(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title Of Each Class Name of Each Exchange On Which Registered
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_______________________________ _________________________________________
Securities registered pursuant to Section 12(g) of the Act:
Common Shares
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(Title of class)
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained to
the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this form 10-K. [X]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2).
Yes [ ] No [X]
State the aggregate market value of the voting and non-voting common equity held
by non-affiliates computed by reference to the price at which the common equity
was last sold, or the average bid and asked price of such common equity, as of
the last business day of the registrant's most recently completed second fiscal
quarter. $53,333,000
Indicate the number of shares outstanding of each of the registrant's classes of
common stock, as of the latest practicable date. 2,666,650 common shares
DOCUMENTS INCORPORATED BY REFERENCE
List hereunder the following documents if incorporated by reference and the part
of the Form 10-K (e.g., Part I, Part II, etc.) into which the document is
incorporated: (1) any annual report to security holders; (2) any proxy or
information statement; and (3) any prospectus filed pursuant to Rule 424(b) or
(c) under the Securities Act of 1933. The listed documents should be clearly
described for identification purposes (e.g., annual report to security holders
for fiscal year ended December 24, 1980).
Portions of the Company's Proxy Statement to shareholders in connection with the
2005 annual meeting of shareholders are incorporated by reference into Part III
of this Report on Form 10-K.
1
PART I
ITEM 1. BUSINESS
General
Merchants Bancorp, Inc. (the "Company") was incorporated under the laws of
the State of Ohio on March 29, 1996 at the direction of the Board of Directors
of the Merchants National Bank (the "Bank") for the purpose of becoming a bank
holding company by acquiring all of the outstanding shares of the Bank. In
December, 1996 the Company became the sole shareholder of the Bank. The
principal office of the Company is located at 100 North High Street, Hillsboro,
Ohio 45133. Hillsboro, situated in south central Ohio, is centrally located
between the cities of Columbus, Cincinnati and Dayton, and is the county seat of
Highland County. Highland County has a population of approximately 42,000. The
company, through its banking affiliate, also conducts business in the
neighboring counties of Madison and Fayette, which have populations of
approximately 40,000 and 28,000 respectively.
This tri-county area is primarily agricultural. Madison County is one of
Ohio's principal producers of corn and soybeans, and Fayette County is a
significant horsebreeding area. However, manufacturing also provides a
significant source of employment in the area, accounting for approximately 30%
of all jobs in the three counties. Area manufacturers produce a wide array of
products, including textiles, electrical components and automotive parts. Some
of the area's principal manufacturers include Hobart Corp., Johnson Controls,
Inc., Showa Aluminum Corp., and Yamashita Rubber and Calmas, Inc. The Bank has
operated in Hillsboro, Ohio as a national banking association since its charter
was granted on December 26, 1879.
The Company, through its banking affiliate, offers a broad range of
banking services to the commercial, industrial and consumer market segments
which it serves. The primary business of the Bank consists of accepting deposits
through various consumer and commercial deposit products, and using such
deposits to fund various loan products. The Bank's primary loan products (and
the general terms for each) are as follows: (1) loans secured by residential
real estate, including loans for the purchase of one to four family residences
which are secured by 1st and 2nd mortgages (15 to 30 year terms with fixed and
adjustable rate options) and home equity loans (10 year maturities tied to prime
rate); (2) consumer loans, including new and used automobile loans (up to 60
months), loans for the purchase of mobile homes (10 to 15 year terms) and debt
consolidation loans (exact terms depending upon available collateral); (3)
agricultural loans, including loans for the purchase of real estate used in
connection with agricultural purposes (15 to 30 year terms), operating loans (1
year terms) and loans for the purchase of equipment (5 to 7 year terms); and (4)
commercial loans, including loans for the purchase of real estate used in
connection with office or retail activities (15 to 20 year terms), loans for the
purchase of equipment (7 to 10 year terms) and loans for the purchase of
inventory (1 year terms).
The primary risks inherent in any type of lending include interest rate
risk and credit risk associated with the credit quality of individual borrowers.
For further information regarding interest rate risk, see the section captioned
"Market Risk Management" under "Management's Discussion and Analysis of
Financial Condition and Results of Operations." Credit risk is generally offset
both through the use of security and mortgage interests, and through the
implementation of designated loan approval processes. Senior mortgages in real
estate provide the greatest protection in the event of borrower default, while
junior mortgages and security interests in depreciating assets provide somewhat
less protection. Loans not secured by real or personal property present the
greatest risk of loss upon default. All loans, whether secured or unsecured, are
approved in accordance with a loan policy adopted by the Company's Board of
Directors. While loan officers do have authority to make credit decisions
outside of the parameters of the Board's loan policy, such loan officers must
satisfy designated documentation
2
requirements when doing so. Credit risk is further mitigated both by restricting
the types of loans and by establishing maximum amounts which can be approved by
individual loan officers. Loans made beyond these individual limitations must be
affirmatively approved by a committee comprised of loan officers. The Bank also
engages in certain government guarantee programs, which help to reduce the risk
inherent in certain types of loans.
All of the Bank's deposit and lending services are available at its four
full service offices. The remaining three offices of the Bank are engaged
primarily in deposit-related services. The Company has no foreign operations,
assets or investments.
The Bank is a national banking association organized under the laws of the
United States. The Bank is regulated by the Office of the Comptroller of the
Currency ("OCC"), and its deposits are insured by the Federal Deposit Insurance
Company ("FDIC") to the extent permitted by law and, as a subsidiary of the
Company, is regulated by the Board of Governors of the Federal Reserve. As of
December 31, 2004, the Company and its subsidiary had consolidated total assets
of approximately $364 million, consolidated total deposits of approximately $288
million and consolidated total shareholders' equity of approximately $30.8
million.
Employees
As of December 31, 2004, the Bank had 89 full-time and 6 part-time
employees. The Bank provides a number of benefits for its full-time employees,
including health and life insurance, pension, profit sharing and 401(k) plans,
workers' compensation, social security, paid vacations, and certain bank
services.
Competition
The Bank's market consists of the following Ohio Counties: Fayette,
Highland, and Madison. The commercial banking business in this market is very
competitive. The Company and the Bank are in competition with other commercial
banks operating in the primary market area. Some competitors of the Company and
the Bank are substantially larger than the Bank. In addition to local bank
competition, the Bank competes with larger commercial banks headquartered in
metropolitan areas, savings banks, savings and loan associations, credit unions,
finance companies and other financial institutions for loans and deposits.
Pursuant to Deposit Market Share statistical information compiled by the
Federal Deposit Insurance Corporation, there are approximately twenty (20)
financial institutions operating in the Bank's market. As of June 30, 2004 (the
most recent date for which the compiled statistical information is available)
the Bank possessed the second largest market share with $275.3 million in total
deposits, representing a market share of approximately 18.5%. Three other
depositary institutions also possess over 10% of the market share in the Bank's
market.
The principal methods of competition within the financial services
industry include improving customer service through the quality and range of
services provided, improving efficiencies, and pricing services competitively.
The Bank views its primary competitive advantages as being the provider of
outstanding customer service and maintaining strong relationships with its core
customer base. Rarely does the Bank offer the highest rates on deposit accounts
or the lowest rates on loans. Fees and service charges are priced to meet the
competition. The Bank believes that its distinguishing characteristics are
knowing its customers, offering quality customer service and timely loan
decisions and closings. By focusing on these key attributes, the Bank has built
a loyal customer base, which also serves as its greatest source of new business
by way of customer referrals.
3
SUPERVISION AND REGULATION
General
Merchants Bancorp, Inc. is a corporation organized under the laws of the
State of Ohio. The business in which the Company and its subsidiary are engaged
is subject to extensive supervision, regulation and examination by various bank
regulatory authorities. The supervision, regulation and examination to which the
Company and its subsidiary are subject are intended primarily for the protection
of depositors and the deposit insurance funds that insure the deposits of banks,
rather than for the protection of shareholders.
Several of the more significant regulatory provisions applicable to banks
and bank holding companies to which the Company and its subsidiary are subject
are discussed below, along with certain regulatory matters concerning the
Company and its subsidiary. To the extent that the following information
describes statutory or regulatory provisions, it is qualified in its entirety by
reference to the particular statutory provisions. Any change in applicable law
or regulation may have a material effect on the business and prospects of the
Company and its subsidiary.
Regulatory Agencies
The Company, upon approval from the Board of Governors of the Federal
Reserve System (the "Federal Reserve Board"), became a bank holding company on
December 31, 1996, and continues to be subject to regulation under the Bank
Holding Company Act of 1956 and to inspection, examination and supervision by
the Federal Reserve Board.
The Bank is a national banking association chartered under the laws of the
United States of America. It is subject to regulation and examination primarily
by the Office of the Comptroller of the Currency (the "OCC") and secondarily by
the Federal Reserve Board and the FDIC.
Holding Company Activities
As a bank holding company incorporated and doing business within the State
of Ohio, the Company is subject to regulation and supervision under the Bank
Holding Act of 1956, as amended (the "Act"). The Company is required to file
with the Federal Reserve Board on a quarterly basis information pursuant to the
Act. The Federal Reserve Board may conduct examinations or inspections of the
Company and its subsidiary.
The Company is required to obtain prior approval from the Federal Reserve
Board for the acquisition of more than five percent of the voting shares or
substantially all of the assets of any bank or bank holding company. In
addition, the Company is generally prohibited by the Act from acquiring direct
or indirect ownership or control of more than five percent of the voting shares
of any company which is not a bank or bank holding company and from engaging
directly or indirectly in activities other than those of banking, managing or
controlling banks or furnishing services to its subsidiaries. The Company may,
however, subject to the prior approval of the Federal Reserve Board, engage in,
or acquire shares of companies engaged in activities which are deemed by the
Federal Reserve Board by order or by regulation to be so closely related to
banking or managing and controlling a bank as to be a proper activity.
On November 12, 1999, the Gramm-Leach-Bliley Act (the "GLB Act") was
enacted into law. The GLB Act made sweeping changes with respect to the
permissible financial services which various
4
types of financial institutions may now provide. The Glass-Steagall Act, which
had generally prevented banks from affiliation with securities and insurance
firms, was repealed. Pursuant to the GLB Act, bank holding companies may elect
to become a "financial holding company," provided that all of the depository
institution subsidiaries of the bank holding company are "well capitalized" and
"well managed" under applicable regulatory standards.
Under the GLB Act, a bank holding company that has elected to become a
financial holding company may affiliate with securities firms and insurance
companies and engage in other activities that are financial in nature.
Activities that are "financial in nature" include securities underwriting,
dealing and market-making, sponsoring mutual funds and investment companies,
insurance underwriting and agency, merchant banking, and activities that the
Federal Reserve Board has determined to be closely related to banking. No
Federal Reserve Board approval is required for the Company to acquire a company,
other than a bank holding company, bank or savings association, engaged in
activities that are financial in nature or incidental to activities that are
financial in nature, as determined by the Federal Reserve Board. Prior Federal
Reserve Board approval is required before the Company may acquire the beneficial
ownership or control of more than 5% of the voting shares, or substantially all
of the assets, of a bank holding company, bank or savings association. If any
subsidiary bank of the Company ceases to be "well capitalized" or "well managed"
under applicable regulatory standards, the Federal Reserve Board may, among
other actions, order the Company to divest the subsidiary bank. Alternatively,
the Company may elect to conform its activities to those permissible for a bank
holding company that is not also a financial holding company. If any subsidiary
bank of the Company receives a rating under the Community Reinvestment Act of
1977 of less than satisfactory, the Company will be prohibited from engaging in
new activities or acquiring companies other than bank holding companies, banks
or savings associations. The Company has not elected to become a financial
holding company and has no current intention of making such an election.
Affiliate Transactions
Various governmental requirements, including Sections 23A and 23B of the
Federal Reserve Act, limit borrowings by holding companies and non-bank
subsidiaries from affiliated insured depository institutions, and also limit
various other transactions between holding companies and their non-bank
subsidiaries, on the one hand, and their affiliated insured depository
institutions on the other. Section 23A of the Federal Reserve Act also generally
requires that an insured depository institution's loan to its non-bank
affiliates be secured, and Section 23B of the Federal Reserve Act generally
requires that an insured depository institution's transactions with its non-bank
affiliates be on arms-length terms.
Interstate Banking and Branching
Under the Riegle-Neal Interstate Banking and Branching Efficiency Act
("Riegle-Neal"), subject to certain concentration limits and other requirements,
bank holding companies such as the Company are permitted to acquire banks and
bank holding companies located in any state. Any bank that is a subsidiary of a
bank holding company is permitted to receive deposits, renew time deposits,
close loans, service loans and receive loan payments as an agent for any other
bank subsidiary of that bank holding company. Banks are permitted to acquire
branch offices outside their home states by merging with out-of-state banks,
purchasing branches in other states and establishing de novo branch offices in
other states, The ability of banks to acquire branch offices is contingent,
however, on the host state having adopted legislation "opting in" to those
provisions of Riegle-Neal. In addition, the ability of a bank to merge with a
bank located in another state is contingent on the host state not having adopted
legislation "opting out" of that provision of Riegle-Neal. The Company could
from time to time use Riegle-Neal to acquire banks in additional states.
5
Control Acquisitions
The Change in Bank Control Act prohibits a person or group of persons from
acquiring "control" of a bank holding company, unless the Federal Reserve Board
has been notified and has not objected to the transaction. Under the rebuttable
presumption established by the Federal Reserve Board, the acquisition of 10% or
more of a class of voting stock of a bank holding company with a class of
securities registered under Section 12 of the Exchange Act, such as the Company,
would, under the circumstances set forth in the presumption, constitute
acquisition of control of the bank holding company. In addition, a company is
required to obtain the approval of the Federal Reserve Board under the Bank
Holding Company Act before acquiring 25% (5% in the case of an acquiror that is
a bank holding company) or more of any class of outstanding voting stock of a
bank holding company, or otherwise obtaining control or a "controlling
influence" over that bank holding company.
Liability for Banking Subsidiaries
Under the current Federal Reserve Board policy, a bank holding company is
expected to act as a source of financial and managerial strength to each of its
subsidiary banks and to maintain resources adequate to support each subsidiary
bank. This support may be required at times when the bank holding company may
not have the resources to provide it. In the event of a bank holding company's
bankruptcy, any commitment by the bank holding company to a U.S. federal bank
regulatory agency to maintain the capital of a subsidiary bank would be assumed
by the bankruptcy trustee and entitled to priority of payment. Any depository
institution insured by the FDIC can be held liable for any loss incurred, or
reasonably expected to be incurred, by the FDIC in connection with (1) the
"default" of a commonly controlled FDIC-insured depository institution; or (2)
any assistance provided by the FDIC to both a commonly controlled FDIC-insured
depository institution "in danger of default." The Company's subsidiary bank is
an FDIC-insured depository institution. If a default occurred with respect to
the Bank, any capital loans to the Bank from its parent holding company would be
subordinate in right of payment to payment of the Bank's depositors and certain
of its other obligations.
Regulatory Capital Requirements
The Company is required by the various regulatory authorities to maintain
certain capital levels. Bank holding companies are required to maintain minimum
levels of capital in accordance with Federal Reserve capital adequacy
guidelines. If capital falls below minimum guideline levels, a bank holding
company, among other things, may be denied approval to acquire or establish
additional banks or non-bank businesses. The required capital levels and the
Company's capital position at December 31, 2004 are summarized in the table
included in Note 13 to the consolidated financial statements.
FDICIA
The Federal Deposit Insurance Corporation Improvement Act of 1991
("FDICIA"), and the regulations promulgated under FDICIA, among other things,
established five capital categories for insured depository institutions-well
capitalized, adequately capitalized, undercapitalized, significantly
undercapitalized and critically undercapitalized-and requires U.S. federal bank
regulatory agencies to implement systems for "prompt corrective action" for
insured depository institutions that do not meet minimum capital requirements
based on these categories. Unless a bank is well capitalized, it is subject to
restrictions on its ability to offer brokered deposits and on certain other
aspects of its operations. An undercapitalized bank must develop a capital
restoration plan and its parent bank holding company must guarantee the bank's
compliance with the plan up to the lesser of 5% of the bank's or thrift's assets
at the time it became undercapitalized and the amount needed to comply with the
plan. As of December 31,
6
2004, the Company's banking subsidiary was well capitalized pursuant to these
prompt corrective action guidelines.
Dividend Restrictions
The ability of the Company to obtain funds for the payment of dividends
and for other cash requirements will be largely dependent on the amount of
dividends which may be declared by its banking subsidiary. Various U.S. federal
statutory provisions limit the amount of dividends the Company's banking
subsidiaries can pay to the Company without regulatory approval. Dividend
payments by national banks are limited to the lesser of (1) the level of
undivided profits; (2) the amount in excess of which the bank ceases to be at
least adequately capitalized; and (3) absent regulatory approval, an amount not
in excess of net income for the current year combined with retained net income
for the preceding two years.
In addition, U.S. federal bank regulatory authorities have authority to
prohibit the Company's banking subsidiary from engaging in an unsafe or unsound
practice in conducting their business. The payment of dividends, depending upon
the financial condition of the bank in question, could be deemed to constitute
an unsafe or unsound practice. The ability of the Company's banking subsidiary
to pay dividends in the future is currently, and could be further, influenced by
bank regulatory policies and capital guidelines.
Deposit Insurance Assessments
The deposits of the Company's banking subsidiary are insured up to
regulatory limits by the FDIC, and, accordingly, are subject to deposit
insurance assessments to maintain the Bank Insurance Fund (the "BIF") and/or the
Savings Association Insurance Fund (the "SAIF") administered by the FDIC.
Depositor Preference Statute
In the "liquidation or other resolution" of an institution by any
receiver, U.S. federal legislation provides that deposits and certain claims for
administrative expenses and employee compensation against the insured depository
institution would be afforded a priority over general unsecured claims against
that institution, including federal funds and letters of credit.
Government Monetary Policy
The earnings of the Company are affected primarily by general economic
conditions, and to a lesser extent by the fiscal and monetary policies of the
federal government and its agencies, particularly the Federal Reserve. Its
policies influence, to some degree, the volume of bank loans and deposits, and
interest rates charged and paid thereon, and thus have an effect on the earnings
of the Company's subsidiary Bank.
Additional Regulation
The Bank is also subject to federal regulation as to such matters as
required reserves, limitation as to the nature and amount of its loans and
investments, regulatory approval of any merger or consolidation, issuance or
retirement of their own securities, limitations upon the payment of dividends
and other aspects of banking operations. In addition, the activities and
operations of the Bank are subject to a number of additional detailed, complex
and sometimes overlapping laws and regulations. These include state usury and
consumer credit laws, state laws relating to fiduciaries, the Federal
Truth-in-Lending Act and
7
Regulation Z, the Federal Equal Credit Opportunity Act and Regulation B, the
Fair Credit Reporting Act, the Truth in Savings Act, the Community Reinvestment
Act, anti-redlining legislation and antitrust laws.
Future Legislation
Changes to the laws and regulations, both at the federal level and in the
states where the Company and its subsidiary do business, can affect the
operating environment of the Company and its subsidiary in substantial and
unpredictable ways. The Company cannot accurately predict whether those changes
in laws and regulations will occur, and, if those changes occur, the ultimate
effect they would have upon the financial condition or results of operations of
the Company or its subsidiary.
ITEM 2. PROPERTIES.
The Bank owns the real property used in its business as follows:
Main Office: Greenfield Main
100 N. High Street 117 S. Washington Street
Hillsboro, Ohio 45133 Greenfield, Ohio 45123
Hillsboro Branch Greenfield Branch
1478 N. High Street 102 Jefferson Street
Hillsboro, Ohio 45133 Greenfield, Ohio 45123
Hillsboro Uptown Branch Washington Court House Branch
145 W. Beech Street 128 S. North Street
Hillsboro, Ohio 45133 Washington Court House, Ohio 43160
London Branch
279 LaFayette Street
London, Ohio 43140
All such properties are suitable for carrying on the general business of
commercial banking. No such properties are subject to any material encumbrance.
In March 2005, Merchants National Bank filed a branch application with the
Office of the Comptroller of the Currency to open a branch in Mt. Orab, OH.
ITEM 3. LEGAL PROCEEDINGS.
Currently, there are no legal proceedings of a material nature pending to
which either the Company or the Bank is a party, or to which any of their
property is the subject. Additionally, management of the Company is not aware of
the contemplation of any proceedings the institution of which would have a
material adverse impact upon the financial condition of the Company or the Bank.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
There was no matter submitted during the fourth quarter of the fiscal year
covered by this report to a vote of the Company's security holders.
8
PART II
ITEM 5. MARKET PRICE OF AND DIVIDENDS ON THE REGISTRANT'S COMMON EQUITY AND
RELATED STOCKHOLDER MATTERS.
a. Market Information
There is no established public trading market for the Company's common
stock and the shares of the Company are not listed on any exchange. Sale price
information provided below on a quarterly basis for the two most recent fiscal
years is based on information reported to the Company by individual buyers and
sellers of the Company's stock, based on actual transactions of which
information was obtained at the time of transfer. Not all sales transaction
information during these periods was obtained.
2004
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First Quarter Second Quarter Third Quarter Fourth Quarter
- ----------------- -------------------- ------------------ ------------------
High Low High Low High Low High Low
$21.00 $ 20.00 $ 20.00 $ 20.00 $ 21.00 $ 19.00 $ 22.50 $ 18.77
2003
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First Quarter Second Quarter Third Quarter Fourth Quarter
- ----------------- -------------------- ------------------ ------------------
High Low High Low High Low High Low
$25.00 $ 18.00 $ 23.00 $ 20.00 $ 25.00 $ 20.00 $ 22.50 $ 20.00
At December 31, 2004, the Company had 2,666,650 shares of common stock
outstanding. All of such shares are eligible for sale in the open market without
restriction or registration under the Securities Act of 1933, as amended (the
"Securities Act"), except for shares held by "affiliates" of the Company. Shares
held by affiliates are subject to the resale limitations of Rule 144, as
promulgated under the Securities Act. For purposes of Rule 144, "affiliates" are
deemed to be all Directors, Executive Officers and ten percent beneficial owners
of the Company. As of December 31, 2004, affiliates of the Company had
beneficial ownership of an aggregate of 645,129 shares of the Company's common
stock. The Company has one shareholder with beneficial ownership of more than
ten percent of its outstanding shares, and such individual is also a Director of
the Company.
Rule 144 subjects affiliates to certain restrictions in connection with
the resale of Company securities that do not apply to individuals currently
holding outstanding shares of Company stock. Commencing ninety days after the
effective date of this Registration Statement, affiliates of the Company may
sell within any three-month period a number of shares that does not exceed the
greater of one percent of the number of then outstanding shares of Company
common stock, or the average weekly trading volume of the common stock in the
over-the-counter market during the four calendar weeks preceding filing by the
selling affiliate of the requisite notice of sale with the SEC on Form 144.
Sales under Rule 144 are also subject to certain requirements as to the manner
of sale, notice to the Securities and Exchange Commission, and the availability
of current public information about the Company.
9
On August 28, 2003 Merchants Bancorp entered into a stock redemption
agreement with 3 shareholders of the Company. Collectively the three
shareholders owned 351,350 common shares of the Company or 11.71% of outstanding
shares. They sold 333,350 of such shares (referred to herein as the "shares") to
the Company. The Company retained Austin Associates, LLC to determine a "fair
value" and issued a "fairness opinion" to the Company dated July 30, 2003. The
purchase was made in two separate settlements. The first settlement was for
55,000 shares and a total of $1,155,000 and occurred on September 5, 2003. The
second settlement occurred on January 9, 2004 for the 278,350 remaining shares.
The dollar value of the second settlement is $5,845,349.87 and was recorded in
other liabilities on the December 31, 2003 financial statements. The total value
of the transaction was $7,000,349.87.
b. Holders
The number of holders of record of the Company's common stock at December
31, 2004 was 833.
c. Dividends
Dividends are generally declared by the Board of Directors of the Company
semiannually (June 30 and December 31, respectively). Dividends per share
declared by the Company on its common stock during the years of 2004 and 2003
are as follows:
2004 2003
Month
June $ 0.34 $ 0.32
December $ 0.36 $ 0.32
------ ------
TOTALS $ 0.70 $ 0.64
====== ======
The Company currently expects that comparable semiannual cash dividends
will continue to be paid in the future. For information on regulatory
restrictions to the Board's ability to declare and pay dividends, please refer
to the following: (1) Supervision and Regulation - Dividend Restrictions and (2)
Note 13 to the Company's Consolidated Financial Statements, Regulatory Matters.
10
The Company's Quarterly Financial Data for 2004 and 2003 follows:
Three months ended
------------------------------------------------------
(in thousands, except per share data) March 31 June 30 Sept 30 Dec 31
- ------------------------------------- --------- --------- --------- ---------
2004
Net interest income $ 3,451 $ 3,449 $ 3,442 $ 3,285
Provision for loan losses 153 181 160 182
Noninterest income 390 390 396 365
Noninterest expense 1,997 2,003 1,992 1,951
Net income $ 1,157 $ 1,132 $ 1,188 $ 1,130
Per common share:
Basic and diluted earnings per share $ 0.43 $ 0.42 $ 0.45 $ 0.42
Dividends declared $ - $ 0.34 $ - $ 0.36
Selected ratios:
Return on average assets, annualized 1.30% 1.27% 1.32% 1.23%
Return on average common equity,
annualized 16.29% 15.25% 15.94% 14.57%
Net interest margin, annualized 4.11% 4.10% 4.10% 3.80%
2003
Net interest income $ 3,459 $ 3,626 $ 3,570 $ 2,931
Provision for loan losses 404 262 1,785 456
Noninterest income 371 370 384 381
Noninterest expense 1,964 1,927 1,665 1,356
Net income $ 1,005 $ 1,223 $ 485 $ 1,078
Per common share:
Basic and diluted earnings
per share $ 0.34 $ 0.41 $ 0.16 $ 0.38
Dividends declared $ - $ 0.32 $ - $ 0.32
Selected ratios:
Return on average assets,
annualized 1.24% 1.44% .57% 1.26%
Return on average common
equity, annualized 12.01% 14.19% 5.93% 13.18%
Net interest margin, annualized 4.53% 4.54% 4.44% 3.50%
11
ITEM 6. SELECTED FINANCIAL DATA.
The following table sets forth certain information derived from the
consolidated financial information of the Company for each of the years as of
December 31 (in thousands, except per share data).
SELECTED FINANCIAL DATA
2004 2003 2002 2001 2000
-------- -------- -------- -------- --------
Interest and loan fee income $ 20,565 $ 20,310 $ 20,866 $ 22,431 $ 21,603
Interest expense 6,938 6,724 7,894 10,793 10,395
Net interest income 13,627 13,586 12,972 11,638 11,208
Provision for loan losses 676 2,907 436 177 177
Net interest income after provision for loan losses 12,951 10,679 12,536 11,461 11,031
Noninterest income 1,541 1,506 1,509 1,472 1,269
Noninterest expense 7,943 6,912 7,110 6,576 6,131
Income before income taxes 6,549 5,273 6,935 6,357 6,169
Income taxes 1,942 1,482 2,163 1,952 1,964
Net income 4,607 3,791 4,772 4,405 4,205
YEAR-END BALANCES
Assets $363,981 $352,421 $318,799 $304,896 $278,734
Securities 31,979 33,085 40,012 38,221 37,753
Loans, net 292,091 286,192 246,164 221,767 220,460
Deposits 287,831 270,432 262,716 262,608 236,046
Short Term Borrowings 2,944 2,784 3,365 1,424 1,887
Federal Home Loan Bank advances 39,920 43,706 17,470 8,993 7,000
Shareholders' equity 30,778 28,227 33,508 30,232 27,114
AVERAGE BALANCES
Assets $359,924 $341,025 $308,488 $288,236 $265,957
Securities 34,152 36,376 45,511 37,245 40,639
Loans 294,130 272,013 237,788 227,150 210,325
Deposits 282,008 268,069 253,869 246,919 231,047
Short-term borrowings 3,445 2,961 3,158 1,996 2,150
Federal Home Loan Bank advances 41,638 34,061 17,649 8,285 6,403
Shareholders' equity 30,278 32,878 32,384 29,357 25,523
SELECTED FINANCIAL RATIOS
Net interest margin (tax equivalent) 4.15% 4.38% 4.63% 4.37% 4.55%
Return on average assets 1.28% 1.11% 1.55% 1.53% 1.58%
Return on average equity 15.22% 11.53% 14.74% 15.00% 16.48%
Average equity to average assets 8.41% 9.64% 10.50% 10.19% 9.60%
Dividend payout ratio 40.52% 50.18% 37.72% 35.41% 32.10%
Ratio of nonperforming loans to total loans 0.40% 0.51% 0.19% 0.17% 0.14%
Ratio of loan loss allowance to total loans 0.86% 0.84% 0.85% 0.88% 0.86%
Ratio of loan loss allowance to nonperforming loans 213% 166% 368% 512% 599%
Basic earnings per share(1) $ 1.73 $ 1.27 $ 1.59 $ 1.47 $ 1.40
Diluted earnings per share(1) $ 1.73 $ 1.27 $ 1.59 $ 1.47 $ 1.40
Dividends declared per share(1) $ 0.70 $ 0.64 $ 0.60 $ 0.52 $ 0.45
Efficiency ratio(2) 52.37% 45.80% 49.10% 50.16% 49.13%
(1) Per share amounts have been retroactively restated to reflect the 3 for 1
stock split in 2001.
(2) Computed by dividing noninterest expense by the sum of net interest income
and noninterest income.
12
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion and analysis comparing 2004 to prior years should
be read in conjunction with the audited consolidated financial statements at
December 31, 2004 and 2003 and for the three years ended December 31, 2004. In
addition to the historical information contained herein with respect to the
Company, the following discussion contains forward-looking statements that
involve risks and uncertainties. Economic circumstances, the Company's operation
and the Company's actual results could differ significantly from those discussed
in the forward-looking statements. Forward-looking statements are typically
identified by words or phrases such as "believe," "expect," "anticipate,"
"intend," "estimate," "may increase," "may fluctuate," and similar expressions
or future or conditional verbs such as "will," "should," "would" and "could."
These forward-looking statements involve risks and uncertainties including, but
not limited to, economic conditions, portfolio growth, the credit performance of
the portfolios, including bankruptcies, and seasonal factors; changes in general
economic conditions including the performance of financial markets, the prices
of crops, prevailing inflation and interest rates, and losses on lending
activities; results of various investment activities; the effects of
competitors' pricing policies, of changes in laws and regulations on competition
and of demographic changes on target market populations' savings and financial
planning needs; industry changes in information technology systems on which we
are dependent; and the resolution of legal proceedings and related matters. In
addition, the policies and regulations of the various regulatory authorities
could affect the Company's results. These statements are representative only on
the date hereof, and the Company undertakes no obligation to update any
forward-looking statements made.
Critical Accounting Policies
Management believes that the determination of the allowance for loan
losses represents a critical accounting policy. The Company maintains an
allowance for loan losses to absorb probable loan losses inherent in the
portfolio. The allowance for loan losses is maintained at a level management
considers to be adequate to absorb probable loan losses inherent in the
portfolio, based on evaluations of the collectibility and historical loss
experience of loans. Credit losses are charged and recoveries are credited to
the allowance. Provisions for loan losses are based on management's review of
the historical loan loss experience and such factors which, in management's
judgment, deserve consideration under existing economic conditions in estimating
probable credit losses. The allowance is based on ongoing assessments of the
probable estimated losses inherent in the loan portfolio. The Company's
methodology for assessing the appropriate allowance level consists of several
key elements, as described below.
Larger commercial loans that exhibit probable or observed credit
weaknesses are subject to individual review. Where appropriate, reserves are
allocated to individual loans based on management's estimate of the borrower's
ability to repay the loan given the availability of collateral, other sources of
cash flow and available legal options. Included in the review of individual
loans are those that are impaired as provided in Statement of Financial
Accounting Standards No. 114, "Accounting by Creditors for Impairment of a
Loan," as amended. Any specific reserves for impaired loans are measured based
on the fair value of the underlying collateral. The Company evaluates the
collectibility of both principal and interest when assessing the need for a
specific reserve. Historical loss rates are applied to other commercial loans
not subject to specific reserve allocations.
Homogenous loans, such as consumer installment and residential mortgage
loans, are not individually reviewed for impairment by management. Reserves are
established for each pool of loans based on the expected net charge-offs. Loss
rates are based on the average two-year net charge-off history by loan category.
13
Historical loss rates for commercial and consumer loans may be adjusted
for significant factors that, in management's judgment, reflect the impact of
any current conditions on loss recognition. Factors which management considers
in the analysis include the effects of the local economy, trends in the nature
and volume of loans (delinquencies, charge-offs, nonaccrual and problem loans),
changes in the internal lending policies and credit standards, collection
practices, and examination results from bank regulatory agencies and the
Company's internal credit review function.
An unallocated reserve is maintained to recognize the imprecision in
estimating and measuring loss when evaluating reserves for individual loans or
pools of loans.
Specific reserves on individual loans and historical loss rates are
reviewed throughout the year and adjusted as necessary based on changing
borrower and/or collateral conditions and actual collection and charge-off
experience.
The Corporation has not substantively changed its overall approach in the
determination of the allowance for loan losses. Excluding the refinement from a
five year to a two year trend in the calculation of the allowance for loan loss
for homogeneous loans, there have been no material changes in assumptions or
estimation techniques as compared to prior years that impacted the determination
of the current year allowance.
Based on the procedures discussed above, management believes the allowance
for loan losses was adequate to absorb estimated loan losses associated with the
loan portfolio at December 31, 2004. See further information regarding the
allowance for loan losses in Notes 1 and 4 of the Notes to the consolidated
financial statements.
NEW ACCOUNTING PRONOUNCEMENTS
In December 2003, the FASB issued SFAS No. 132 (Revised 2003), Employers'
Disclosure about Pension and Other Postretirement Benefits. This Statement
expands upon the existing disclosure requirements as prescribed under the
original SFAS No. 132 by requiring more details about pension plan assets,
benefit obligations, cash flows, benefit costs and related information. SFAS No.
132 (Revised) also requires companies to disclose various elements of pension
and postretirement benefit costs in interim period financial statements
beginning after December 15, 2003. This Statement is effective for financial
statements with fiscal years ending after December 15, 2003. The Corporation
adopted this Standard and all its required disclosures are included in Note 9.
In January 2003, the FASB issued Interpretation No. 46 (FIN 46),
Consolidation of Variable Interest Entities. This Interpretation clarifies the
application of ARB No. 51, Consolidated Financial Statements, for certain
entities in which equity investors do not have the characteristics of a
controlling financial interest or do not have sufficient equity at risk for the
entity to finance its activities without additional subordinated support from
other parties. This Interpretation requires variable interest entities (VIE's)
to be consolidated by the primary beneficiary which represents the enterprise
that will absorb the majority of the VIE's expected losses if they occur,
receive a majority of the VIE's residual returns if they occur, or both.
Qualifying Special Purpose Entities (QSPE) are exempt from the consolidation
requirements of FIN 46. This Interpretation was effective for VIE's created
after January 31, 2003 and for VIE's in which an enterprise obtains an interest
after that date. In December 2003, the FASB issued Staff Interpretation No. 46R
(FIN 46R), Consolidation of Variable Interest Entities -- an interpretation of
ARB 51 (revised December 2003), which replaces FIN 46. FIN 46R was primarily
issued to clarify the required accounting for interests in VIE's. Additionally,
this Interpretation exempts certain entities from its requirements and provides
for special effective dates for enterprises that have fully or partially applied
FIN 46 as of December 24, 2003. Application of FIN 46R is required in financial
statements of public enterprises that have interests in structures that are
commonly referred to as special-purpose entities, or
14
SPE's, for periods ending after December 15, 2003. Application by public
enterprises, other than small business issuers, for all other types of VIE's
(i.e., non-SPE's) is required in financial statements for periods ending after
March 15, 2004, with earlier adoption permitted. The Corporation does not have
any variable interest entities. Management has determined that adoption of this
Interpretation will not have a material impact on the Corporation's financial
statements.
In March 2004, the Securities and Exchange Commission staff released Staff
Accounting Bulletin (SAB)No. 105, "Application of Accounting Principles to Loan
Commitments." This SAB disallows the inclusion of expected future cash flows
related to the servicing of a loan in the determination of the fair value of a
loan commitment. Further, no other internally developed intangible asset should
be recorded as part of the loan commitment derivative. Recognition of intangible
assets would only be appropriate in a third-party transaction, such as a
purchase of a loan commitment or in a business combination. The SAB is effective
for all loan commitments entered into after March 31, 2004, but does not require
retroactive adoption for loan commitments entered into, on or before March 31,
2004. Adoption of this SAB did not have a material effect on the Company's
Condensed Consolidated Financial Statements.
In March 2004, the Emerging Issues Task Force ("EITF") reached a consensus
on Issue 03-1, "The Meaning of Other-Than-Temporary Impairment and Its
Application to Certain Investments." The EITF reached a consensus on an
other-than temporary impairment model for debt and equity securities accounted
for under SFAS No. 115, "Accounting for Certain Investments in Debt and Equity
Securities," and cost method investments. The basic model developed to evaluate
whether an investment within the scope of Issue 03-1 is other-than temporarily
impaired involves a three-step process including, determining whether an
investment is impaired (fair value less than cost), evaluating whether the
impairment is other-than-temporary and, if other-than-temporary, requiring
recognition of an impairment loss equal to the difference between the
investment's cost and its fair value. In September 2004, the FASB issued Staff
Position ("FSP") No. EITF 03-01-1, "Effective Date of Paragraphs 10-20 of EITF
Issue No. 03-01." This FSP delays the effective date of the measurement and
recognition guidance contained in paragraphs 10-20 of Issue 03-01. The amount of
any other-than-temporary impairment that may need to be recognized in the future
will be dependent on market conditions, the occurrence of certain events or
changes in circumstances relative to an investee, the Company's intent and
ability to hold the impaired investments at the time of valuation and
measurement and recognition guidance defined in a future FSP issuance.
In May 2004, FASB issued FSP No. 106-2, "Accounting and Disclosure
Requirements Related to the Medicare Prescription Drug, Improvement and
Modernization Act of 2003." This FSP provides guidance on accounting for the
effects of the Medicare prescription drug legislation by employers whose
prescriptions drug benefits are actuarially equivalent to the drug benefit under
Medicare Part D, and the subsidy is expected to offset or reduce the Company's
costs for prescription drug coverage. The FSP is effective for the first interim
period beginning after June 15, 2004. The FS also provides guidance for
disclosures concerning the effect of the subsidy for employers when the employer
has not yet determined actuarial equivalency. The adoption of this FSP did not
have a material impact on the Company's financial condition or results of
operations.
In December 2004, the FASB issued SFAS No. 123 (Revised 2004),
"Share-Based Payment." This Statement requires measurement of the costs of
employee services received in exchange for an awared of equity instruments based
on the grant-date fair value of the award with the cost to be recognized over
the vesting period. This Statement is effective for financial statements as of
the beginning of the first interim or annual reporting period that begins after
June 15, 2005. The Corporation does not anticipate this statement will have a
material effect on the consolidated financial statements.
15
In December 2003, the Accounting Standards Executive Committee of the
American Institute of Certified Public Accountants issued Statement of Position
("SOP") 03-3, "Accounting for Certain Loans and Debt Securities Acquired in a
Transfer." SOP 03-3 addresses the accounting for acquired loans that show
evidence of having deteriorated in terms of credit quality since their
origination (i.e. impaired loans). SOP 03-3 prohibits the carryover of an
allowance for loan loss on certain acquired loans as credit losses are
considered in the future cash flows assessment. SOP 03-3 is effective for loans
that are acquired in fiscal years beginning after December 15, 2004. The Company
does not anticipate this Statement will have a material effect on the Condensed
Consolidated Financial Statements.
I. RESULTS OF OPERATIONS
Overview
Net income for 2004 was $4.6 million, an increase of 21.5% from 2003 net
income of $3.8 million, which was a decrease of 20.5% over 2002 net income of
$4.7 million. Net income per share was $1.73 in 2004, compared to $1.27 in 2003,
and $1.59 in 2002. The increase in net income from 2003 is primarily due to
additional accrual to the loan loss reserve in 2003 for higher than normal
credit losses in the agricultural loan area and one large credit loss in the
commercial area. The credit loss is discussed further in the "Loans and
Allowance for Loan Losses" section of this report. Net interest income before
the provision for loan losses remained flat at $13.6 million in 2004 and 2003,
and was an increase from $13.0 million in 2002, representing an increase of 4.7%
from 2002. The provision for loan losses was $676,000, $2,907,000, and $436,000
in 2004, 2003, and 2002, respectively. Noninterest income remained the same at
$1.5 million in 2004, 2003, and 2002. Noninterest expense increased 14.9% to
$7.9 million for 2004, from $6.9 million in 2003, which was a decrease of 2.8%
from $7.1 million in 2002.
Selected Statistical Information
The following tables set forth certain statistical information relating to
the Company and its subsidiary on a consolidated basis and should be read
together with the consolidated financial statements of the Company.
CONSOLIDATED AVERAGE BALANCE SHEETS AND TAXABLE EQUIVALENT INCOME/EXPENSE AND
YIELDS/RATES
The following table presents the daily average balance of each category of
interest-earning assets and interest-bearing liabilities, and the interest
earned or paid on such amounts (dollars in thousands).
16
CONSOLIDATED AVERAGE BALANCE SHEETS AND TAXABLE EQUIVALENT INCOME/EXPENSE AND
YIELDS/RATES (IN THOUSANDS)
2004 2003 2002
------------------------------- ---------------------------- -------------------------------
AVERAGE YIELD/ AVERAGE YIELD AVERAGE YIELD/
BALANCE INTEREST RATE BALANCE INTEREST RATE BALANCE INTEREST RATE
---------- -------- ---- -------- -------- ---- ------- -------- ----
Interest-earning assets:
Loans (1)(2)(3) $ 294,130 $ 18,770 6.38% $ 272,013 $ 18,455 6.78% $ 237,788 $ 18,520 7.79%
Securities available for sale (3) 31,845 2,061 6.47% 34,198 2,166 6.33% 43,420 2,648 6.10%
FHLB and FRB stock 2,307 98 4.25% 2,178 89 4.09% 2,091 98 4.69%
Interest-bearing deposits 144 9 6.25% 8 3 37.50% 1,553 27 0.80%
Federal funds sold 13,174 166 1.26% 14,605 157 1.07% 6,748 92 1.36%
----------- ----------- ---- ----------- --------- ---- --------- ---------- ----
Total interest-earning assets 341,600 21,104 6.18% 323,002 20,870 6.46% 291,600 21,385 7.33%
----------- ----------- ---- ----------- --------- ---- --------- ---------- ----
Noninterest-earning assets 20,808 20,535 18,950
Less: Allowance for loan losses (2,484) (2,512) (2,062)
----------- ----------- ---------
Total assets $ 359,924 $ 341,025 $ 308,488
=========== =========== =========
Interest-bearing liabilities:
Interest-bearing demand deposits $ 86,863 $ 1,242 1.43% $ 83,020 $ 1,299 1.56% $ 68,787 $ 1,379 2.00%
Savings deposits 27,843 237 0.85% 24,801 225 0.91% 20,759 348 1.68%
Time deposits > $100 31,860 892 2.80% 29,909 794 2.65% 27,798 1,004 3.61%
Other time deposits 104,705 2,744 2.62% 101,253 2,870 2.83% 107,565 4,169 3.88%
Securities sold under repo
agreement 3,445 97 2.82% 2,961 90 3.04% 2,088 91 4.36%
Federal funds purchased 1,070 21 1.96%
Federal Home Loan Bank advances 41,638 1,726 4.15% 34,061 1,447 4.25% 17,649 882 5.00%
----------- ----------- ---- ----------- --------- ---- --------- ---------- ----
Total interest-bearing liabilities 296,354 6,938 2.34% 276,005 6,725 2.44% 245,716 7,894 3.21%
----------- ----------- ---- ----------- --------- ---- --------- ---------- ----
Noninterest-bearing liabilities:
Demand deposits 30,737 29,086 28,960
Other liabilities 2,555 3,056 1,428
Shareholders' equity 30,278 32,878 32,384
----------- ----------- ---------
Total liabilities and shareholders'
equity $ 359,924 $ 341,025 $ 308,488
=========== =========== =========
Net interest income $ 14,166 $ 14,145 $ 13,491
=========== ========= ==========
Net interest spread (4) 3.84% 4.02% 4.12%
==== ==== ====
Net interest margin (5) 4.15% 4.38% 4.63%
==== ==== ====
(1) Nonaccrual loans are included loan totals and do not have a significant
impact on the information presented. Interest on nonaccrual loans is recorded
whe (TEXT MISSING)
(2) Interest includes fees on loans of $567, $398, and $675, in 2004, 2003, and
2002, respectively.
(3) Tax-exempt income on loans and securities is reported on a fully taxable
equivalent basis using a 34% rate.
(4) Net interest spread represents the difference between the average yield on
interest-earning assets and the average rate on interest-bearing liabilities.
(5) Net interest margin represents the net interest income as a percentage of
average interest earning assets.
NET INTEREST DIFFERENTIAL
The following table illustrates the summary of the changes in interest
earned and interest paid resulting from changes in volume and rates for the
major components of interest-earning assets and
17
interest-bearing liabilities on a fully taxable equivalent basis for the periods
indicated (dollars in thousands).
Change Due Change Total Change Due Change Due Total
to Due to Changes to to Changes
Volume Rate 2004/2003 Volume Rate 2003/2002
---------- -------- --------- ---------- ----------- -----------
INTEREST INCOME ATTRIBUTABLE TO:
Loans $ 1,505 $(1,189) $ 316 $ 2,666 $(2,731) $ (65)
Securities available for sale (149) 44 (105) (562) 80 (482)
FHLB and FRB Stock 5 4 9 4 (13) (9)
Interest-bearing deposits 51 (45) 6 (27) 3 (24)
Federal funds sold (15) 24 9 107 (42) 65
------- ------- ------- ------- ------- -------
Total interest income 1,397 (1,162) 235 2,188 (2,703) (515)
INTEREST EXPENSE ATTRIBUTABLE TO:
Demand deposits 60 (117) (57) 285 (365) (80)
Savings deposits 28 (16) 12 68 (191) (123)
Time deposits 151 (179) (28) (161) (1,348) (1,509)
Securities sold under repo agreement 15 (8) 7 38 (39) (1)
Federal funds purchased 0 0 0 (21) 0 (21)
Federal Home Loan Bank advances 327 (44) 283 832 (259) 573
------- ------- ------- ------- ------- -------
Total interest expense 581 (364) 217 1,041 (2,202) (1,161)
Net interest income $ 816 $ (798) $ 18 $ 1,147 $ (501) $ 646
======= ======= ======= ======= ======= =======
Results of Operations
The Company reported net income of $4.6 million, $3.8 million, and $4.8
million for the years ended 2004, 2003, and 2002, respectively. During the same
periods, basic and diluted earnings per share were $1.73, $1.27, and $1.59,
respectively. The increase in net income in 2004 is a result of a large
provision made to loan loss provision due to higher than usual chargeoffs in
2003. The majority of the charge-offs was related to one commercial loan
borrower. See the "Provision for Loan Loss" section for further discussion.
Net interest income remained constant at $13.6 million in 2004 and 2003
and $13.0 million in 2002. Noninterest income remained at $1.5 million in 2004,
2003 and 2002, while noninterest expense was $7.9 million, $6.9 million, and
$7.1 million, for the respective years.
Return on average assets was 1.28%, 1.11%, and 1.55% in 2004, 2003, and
2002, respectively. Return on average equity was 15.22%, 11.53%, and 14.74%, for
the respective years.
Net Interest Income
Net interest income remained unchanged at $13.6 million in 2004 and 2003
from $13.0 million in 2002, representing an increase of 4.7% from 2002. The
Company's tax equivalent yield on average interest-earning assets decreased to
6.18% in 2004 from 6.46% in 2003, which was lower than the 7.33% yield in 2002.
The decrease in yield is primarily a result of the Bank's declining Prime Rate,
real estate contractual repricing to a lower rate, the prepayment of higher
yielding loans and the origination of lower yielding loans. While the bank's
prime rate began to increase incrementally over the last 6 months of 2004, the
bank will not receive the full benefit of the increases until 2005, mainly due
to the repricing
18
schedule of our loan portfolio. Additionally, while prime rate has been
increasing, the treasury curve has flattened and loans due to reprice that are
tied to the treasury curve are not necessarily increasing in rates. The interest
and fees on loans increased slightly 1.71% during 2004. The slight increase in
interest and fees was primarily due to the incremental increase in the prime
rate the second half of the year.
The Company's average interest-earning assets increased approximately
$18.6 million or 5.8% in 2004 and $31.4 million or 10.8% in 2003. The slower
growth rate in 2004 as compared to 2003 is due to the bank not offering a fixed
rate 1-4 family loan that had been offered in the 2003. The bank had increased
its fixed rate 1-4 family loans by approximately $26 million as of December 31,
2003. Historically the bank sold fixed rate 1-4 family loans to independent
parties and continued this practice in 2004, therefore not booking any 1-4
family fixed rate loans.
The cost of funds decreased 10 basis points in 2004 as compared to 2003
while the interest expense increased $213,000 in 2004 from $6.7 million in 2003
to $6.9 million in 2004. Average interest-bearing liabilities increased $20.3
million, or 7.4% in 2004 from $276 million in 2003.
Interest expense increased 3.2% to $6.9 million in 2004 as compared to
$6.7 million in 2003 while the average interest-bearing liabilities increased
$20.3 million, or 7.4%, during 2004 as compared to $30.2 in 2003. The cost of
funds decreased to 2.34% in 2004 from 2.44% in 2003. The average balance of
certificates of deposit increased $5.4 million, or 4.1%, in 2004 while other
interest bearing deposits increased by $6.8 million. The slight fluctuation in
cost of funds can be largely attributed to the changing interest rate
environment.
The Company's tax equivalent net interest margin was 4.15% in 2004, 4.38%
in 2003 and 4.63% in 2002. The decrease in net interest margin in 2004 was
primarily due to the recording of lower yielding loans and the payoff of higher
yielding loans within the portfolio. While prime rate has incrementally
increased over the last 6 months, mortgage rates are still at all time lows due
to the flattening of the yield curve. The decrease in 2003 from 2002 was
primarily attributable to the decrease in the prime rate and the recording of
lower yielding assets.
The Company's securities portfolio experienced a decrease in average
balances and an increase in yield during 2004. The average balance of the
portfolio decreased $2.3 million (6.9%) as compared to 2003, and the tax
equivalent yield increased to 6.47% in 2004 from 6.33% in 2003. The increase in
yield is primarily due to the shift in the mix of the portfolio. The company did
not replace the higher yielding mortgage back securities with a lower
reinvestment rate. The portfolio now contains a proportionally larger percentage
of higher yielding tax-exempt municipals and callable agencies.
For further information, see the table titled "Consolidated Average
Balance Sheets and Taxable Equivalent Income/Expense and Yields/Rates" in the
Selected Statistical Information.
Provision for Loan Losses
The provision for loan losses was $676,000 in 2004, $2,907,000 in 2003 and
$436,000 in 2002. The bank decreased the provision in 2004 from 2003 based upon
the estimated losses in the 2004 which was considerably less than in 2003. The
increase in the provision in 2003 was due to an increased number of charge-offs
in the commercial and agricultural credit. Management increased the provision
for loan losses to reflect the increased loan losses in 2003 and its current
assessment of the loan portfolio characteristics during the year. Net
charge-offs in 2004 were $590,000 compared to $2,580,000 in 2003 and $290,000 in
2002. The ratio of the allowance for loan losses as a percentage of total loans
at December 31 was 0.86% in 2004, 0.84% in 2003, and .85% in 2002. For further
information about the
19
provision and management's methodology for estimating the allowance for loan
losses, see "Allowance for Loan Losses" and "Critical Accounting Policies"
within Management's Discussion and Analysis.
20
Noninterest Income
Total noninterest income was $1.5 million in 2004, 2003, and 2002. As a
percentage of average assets, noninterest income was 0.43%, 0.44%, and 0.49% in
2004, 2003, and 2002, respectively. Service charges and fees have increased
slightly over the last three years due to increased charges and growth in the
number of deposit accounts.
Noninterest Expense
Total noninterest expense was $7.9 million in 2004, $6.9 million in 2003,
and $7.1 million in 2002, representing an increase of 14.9% in 2004 and a
decrease of 2.8% in 2003. As a percentage of average assets, noninterest expense
was 2.21%, 2.02%, and 2.30% in 2004, 2003, and 2002, respectively.
Salaries and benefits expense comprises the largest component of
noninterest expense, with totals of $4.0 million in 2004, $3.2 million in 2003,
and $3.5 million in 2002. As a percentage of average assets, salaries and
benefits expense was 1.11%, 0.94%, and 1.14%, in 2004, 2003, and 2002,
respectively. The average number of full-time equivalent employees was 92 in
2004, 90 in 2003, and 88 in 2002.
Included in salaries and benefits expense was net pension costs of
approximately $248,000 in 2004 and $254,000 in 2003, which are based upon
specific actuarial assumptions, including a long-term rate of return of 7.50%.
Management believes the rate of return is a reasonable assumption of projected
equity and bond indices long-term return projections as well as actual long-term
historical plan returns realized. Management will continue to evaluate the
actuarial assumptions, including the expected rate of return, annually, and will
adjust the assumptions as necessary.
The Company based its determination of pension expense on a market-related
valuation of assets. Investment gains or losses are computed as the difference
between the expected return calculated using the market-related value of assets
and the actual return based on the market-related value of assets. The future
value of assets will be impacted as previously deferred gains or losses are
recognized.
The discount rate that the Company utilizes for determining future pension
obligations decreased to 5.9% in 2004 from 6.0% in 2003, based on management's
evaluation of current yields on long-term yields on highly-rated bonds.
Lowering the expected long-term rate of return on plan assets or the
discount rate by .10% would not have had a significant impact on pension expense
in 2004.
II. FINANCIAL CONDITION
Assets
The Company's total assets increased to $364.0 million in 2004 from $352.4
million in 2003, representing an increase of 3.3%. Average total assets
increased to $359.9 million in 2004 from $341.0 million in 2003, an increase of
5.5%. Average interest-earning assets increased to $341.6 in 2004 from $323.0
million in 2003, and remained at approximately 95% of total average assets.
Securities available for sale
The Company reported securities available for sale (at fair value) of $32
million and $33.1 million at 2004 and 2003, respectively, and average securities
available for sale of $31.8 million in 2004
21
and $34.2 million in 2003. As a percentage of average assets, average securities
were 8.85% in 2004, 10.03% in 2003 and 14.0% in 2002. As of December 31, 2004
and 2003, the Company did not classify any securities as trading or held to
maturity. It is the general practice of management to hold securities until they
are called or matured. But, by classifying securities in the available for sale
category, management has the flexibility to sell the securities should the need
arise. The available for sale portion of the portfolio includes mortgage-backed
securities, U.S. Treasuries and municipals with an average life of 15 years, and
average repricing term of 4 years, and an average tax-equivalent yield of 6.47%
for the year ended December 31, 2004. Total available for sale securities
consisted of the following: U.S. Treasuries and Agencies - 21%; mortgage-backed
securities and CMO's - 23%; and fixed-rate tax-exempt municipal securities -
56%.
INVESTMENT PORTFOLIO
The amortized cost and fair values of securities available for sale as of
December 31, 2004 and 2003 are presented in Note 2 to the consolidated financial
statements. The amortized cost of securities as of December 31, 2004, 2003, and
2002, is presented below (dollars in thousands):
2004 2003 2002
--------- ----------- -----------
Securities available for sale:
U.S. Treasury & agency obligations $ 6,494 $ 4,532 $ 3,556
Obligations of states and political subdivisions 17,454 19,749 19,476
Mortgage-backed securities 7,037 7,554 15,564
--------- ----------- -----------
Total securities available for sale 30,985 31,835 $ 38,596
Federal Home Loan Bank stock 2,230 2,110 2,028
Federal Reserve Bank stock 300 120 120
--------- ----------- -----------
Total securities $ 33,515 $ 34,065 $ 40,744
========= =========== ===========
INVESTMENT PORTFOLIO MATURITIES
The maturity distribution and weighted average interest rates of
securities available for sale as of December 31, 2004, are as follows (dollars
in thousands):
Total
Less than 1 to 5 5 to 10 Over 10 Amortized Fair
1 Year Years Years Years Cost Value
---------------- ------------------- --------------- ------------------ ------------------ ------
Wtd Ave Wtd Ave Wtd Ave Wtd Ave Wtd Ave
Amount Yield Amount Yield Amount Yield Amount Yield Amount Yield Amount
------ ------- ---------- ----- ------ ------- ------ ------- ------ ------- ------
Securities available for sale:
U.S. Treasury and agency
obligations $ 997 2.22% $ 3,995 3.87% $ 1,001 5.02% $ 500 5.79% 6,493 3.94% $ 6,511
Obligations of states and
political sub. 314 3.93% 222 5.25% 662 5.69% $ 16,256 5.15% 17,454 5.17% 18,288
Mortgage-backed securities 0 0.00% 801 4.40% 758 5.84% 5,479 5.24% 7,038 5.21% 7,180
------- ---- -------- ---- ------- ---- -------- ---- -------- ---- -------
Total securities available
for sale $ 1,311 $ 5,018 $ 2,421 $ 22,235 $ 30,985 $31,979
======= ======== ======= ======== ======== =======
22
The calculations of the weighted average interest rates for each maturity
category are based on yield weighted by the respective costs of the securities.
The weighted average rates on states and political subdivisions are computed on
a taxable equivalent basis using a 34% tax rate. For purposes of the above
presentation, maturities of the above securities are based on contractual
maturity dates.
Excluding those holdings of U.S. Treasury securities and other agencies of
the U.S. Government, the Company did not hold any securities of any one issuer
that exceeded 10% of the shareholders' equity of the Company at December 31,
2004.
Loans
The Company reported total loans of $294.6 million and $288.6 million at
2004 and 2003, respectively. As a percentage of average assets, average loans
were 81.7% in 2004, and 79.8% in 2003.
The table below shows the Company's loans outstanding at period-end by
type of loan. The portfolio composition has remained relatively consistent
during the three years ended December 31, 2004. Commercial and industrial loans
totaled $26.3 million in 2004, representing a small increase from $25.2 million
in 2003, and $25.8 million in 2002. Residential real estate loans increased only
slightly by $4.5 million to $136.3 million in 2004 from $131.7 million in 2003.
The largest increase in residential real estate loans was $32 million from 2002
to 2003 due to the Company's decision to hold 1-4 family fixed rate loans and
increased demand by the Company's customers for home equity loans.
For interest rate risk management purposes historically the company has
made and held adjustable rate mortgages in its 1-4 family real estate portfolio.
Commencing in 2000, the Company started originating and selling the majority of
fixed-rate residential real estate loans, while holding the adjustable-rate
loans in the portfolio. The Company recognizes a gain on sale of loans based on
the premium received from the sale of loans to an independent party. The Company
did not have any loans held for sale at December 31, 2004 and 2003. At December
31, 2004, the Company serviced approximately $12,422,000 of mortgage loans
previously sold, for the benefit of others. The servicing asset and the related
servicing fees generated from serviced loans are not material to the Company's
financial statements.
Commercial lending continues to be an important component of the company's
loan portfolio, both real estate and industrial, because of the movement of the
Company into new markets. The Company focused its commercial lending on small-
to medium-sized companies in its market area, most of which are companies with
long established track records. The Company expects to continue to grow in the
real estate and commercial portfolios. At December 31, 2004, the Company
serviced approximately $2.6 million of commercial loans previously sold, for the
benefit of others.
The Company will also continue to focus on agriculture lending and
continue to use the Farm Service Agency (FSA) Guarantee Program which will
guarantee up to 90% of the loan to qualified borrowers and therefore limits the
Company's loss exposure while servicing the agricultural industry.
Installment loans as a percentage of total loans outstanding has remained
relatively consistent with a slight decline between 2004, 2003, and 2002.
23
LOAN PORTFOLIO
The following table displays the loan portfolio composition at December 31
for each respective year (dollars in thousands).
% of % of % of % of % of
2004 Total 2003 Total 2002 Total 2001 Total 2000 Total
---- ----- ---- ----- ---- ----- ---- ----- ---- -----
Commercial and industrial $ 26,370 8.9% $ 25,158 8.7% $ 25,759 10.4% $ 24,126 10.8% $ 22,918 10.3%
Commercial real estate 64,460 21.9% 60,833 21.1% 53,104 21.4% 41,917 18.7% 39,247 17.7%
Agricultural 39,970 13.6% 40,362 14.0% 41,106 16.5% 34,313 15.3% 34,316 15.5%
Residential real estate 136,273 46.2% 131,741 45.6% 99,728 40.2% 97,115 43.4% 99,242 44.6%
Installment 25,152 8.5% 27,893 9.7% 27,122 10.9% 24,995 11.2% 24,681 11.1%
Other 2,585 0.9% 2,781 0.9% 1,493 0.6% 1,267 0.6% 1,857 0.8%
--------- ----- --------- ----- --------- ----- --------- ----- ---------- -----
Total loans 294,810 100.0% $ 288,768 100.0% $ 248,312 100.0% $ 223,733 100.0% $ 222,261 100.0%
Less:
Net deferred loan (200) (144) (42) (6) 110
origination
fees/costs
Allowance for loan losses (2,519) (2,432) (2,106) (1,960) (1,911)
--------- ----- --------- ----- --------- ---- --------- ----- ---------- -----
Net loans $ 292,091 $ 286,192 $ 246,164 $ 221,767 $ 220,460
========= ===== ========= ===== ========= ==== ========= ===== ========== =====
The following tables show the Company's loan maturities and composition of fixed
and adjustable rate loans at December 31, 2004 (in thousands).
Less than 1 Year 1 - 5 Years Over 5 Years Total
---------------- ----------- ------------ -------
Commercial real estate $11,424 $ 7,318 $ 45,718 $ 64,460
Commercial and industrial 11,884 8,151 6,315 26,350
Agricultural 7,363 7,295 25,312 39,970
Residential real estate 7,872 5,435 122,858 136,165
Installment 2,074 20,651 2,355 25,080
Other 909 560 1,116 2,585
------- ------- -------- --------
Total $41,526 $49,410 $203,674 $294,610
======= ======= ======== ========
Predetermined Floating or
Rates Adjustable Rates Total
---------------- ---------------- ----------
Commercial real estate $12,801 $ 51,659 $ 64,460
Commercial and industrial 9,994 16,356 26,350
Agricultural 7,726 32,244 39,970
Residential real estate 36,826 99,339 136,165
Installment 24,688 392 25,080
Other 2,401 184 2,585
------- -------- --------
Total $94,436 $200,174 $294,610
======= ======== ========
Allowance for Loan Losses
Federal regulations and generally accepted accounting principles require
that the Company establish prudent allowances for loan losses. The Company
maintains an allowance for loan losses to absorb probable loan losses inherent
in the portfolio, based on evaluations of the collectibility and
24
historical loss experience of loans. Loan losses are charged and recoveries are
credited to the allowance. Provisions for loan losses are based on management's
review of the historical loan loss experience and such factors which, in
management's judgment, deserve consideration under existing economic conditions
in estimating probable loan losses. The allowance is based on ongoing
assessments of the probable estimated losses inherent in the loan portfolio. The
Company's methodology for assessing the appropriate allowance level consists of
several key elements, described below.
Larger commercial loans that exhibit probable or observed credit
weaknesses are subject to individual review. Where appropriate, reserves are
allocated to individual loans based on management's estimate of the borrower's
ability to repay the loan given the availability of collateral, other sources of
cash flow and available legal options. Included in the review of individual
loans are those that are impaired as provided in Statement of Financial
Accounting Standards No. 114, "Accounting by Creditors for Impairment of a
Loan," as amended. Any specific reserves for impaired loans are measured based
on the fair value of the underlying collateral. The Company evaluates the
collectibility of both principal and interest when assessing the need for a
specific reserve. Historical loss rates are applied to other commercial loans
not subject to specific reserve allocations.
Homogenous loans, such as consumer installment and residential mortgage
loans, are not individually reviewed by management. Reserves are established for
each pool of loans based on the expected net charge-offs. Loss rates are based
on the average two-year net charge-off history by loan category.
Historical loss rates for commercial and consumer loans may be adjusted
for significant factors that, in management's judgment, reflect the impact of
any current conditions on loss recognition. Factors which management considers
in the analysis include the effects of the local economy, trends in the nature
and volume of loans (delinquencies, charge-offs, nonaccrual and problem loans),
changes in the internal lending policies and credit standards, collection
practices, and examination results from bank regulatory agencies and the
Company's internal credit review function.
Specific reserves on individual loans and historical loss rates are
reviewed throughout the year and adjusted as necessary based on changing
borrower and/or collateral conditions and actual collection and charge-off
experience.
A portion of the allowance is not allocated to any particular loan type
and is maintained in recognition of the inherent inability to precisely
determine the loss potential in any particular loan or pool of loans. Among the
factors used by management in determining the unallocated portion of the
allowance are current economic conditions, trends in the Corporation's loan
portfolio delinquency, losses and recoveries, level of underperforming and
nonperforming loans, and concentrations of loans in any one industry.
The Corporation has not substantively changed its overall approach in the
determination of the allowance for loan losses. Excluding the refinement from a
five year to a two year trend in the calcuation of the allowance for loan loss
for homogeneous loans, there have been no material changes in assumptions or
estimation techniques as compared to prior years that impacted the determination
of the current year allowance.
Real estate acquired, or deemed acquired, by the Company as a result of
foreclosure proceedings is classified as other real estate owned ("OREO") until
it is sold. Interest accrual, if any, ceases no later than the date of
acquisition of the real estate, and all costs incurred from such date in
maintaining the property are expensed. OREO is recorded by the Company at the
lower of cost or fair value less estimated costs of disposal, and any write-down
resulting there from is charged to the allowance for loan
25
losses. When the foreclosed property is sold, the difference between proceeds
received on OREO and the recorded value is recognized in current earnings.
As discussed above, the allowance is maintained at a level necessary to
absorb probable losses in the portfolio. Management's determination of the
adequacy of the reserve is based on reviews of specific loans, loan loss
experience, general economic conditions and other pertinent factors. If, as a
result of charge-offs or increases in risk characteristics of the loan
portfolio, the reserve is below the level considered by management to be
adequate to absorb probable loan losses, the provision for loan losses is
increased.
The allowance for loan losses was 0.86% of total loans as of December 31,
2004, a slight increase from 0.84% at the end of 2003. In 2004, the Company
experienced net charge-offs of $590,000, or 0.20% of average loans, compared to
net charge-offs of $2,580,000 (0.95%) in 2003 and $290,000 (0.12%) in 2002. The
Company recorded a provision for loan losses of $676,000, $2,907,000 and
$436,000 in 2004, 2003, and 2002, respectively. As a percentage of the provision
for loan losses, net charge-offs were 87.3%, 88.7%, and 66.5% in 2004, 2003, and
2002, respectively. Management increased the provision for loan losses during
the year 2003 to reflect the increased actual and probable loan losses in 2003,
primarily related to a certain commercial borrower, which was identified by
management on July 23, 2003. An estimated $1.6 million was charged off in 2003
relating to the mentioned borrower. Additional charge offs in 2003 were
primarily within the agricultural portfolio. Management conducted a review of
its agricultural lending approval process and made modifications where necessary
to strengthen its underwriting process of agricultural operating loans.
Management believes its review process has adequately identified problem loans
within its portfolio on a timely basis. In 2004 the chargeoffs returned to a
more normal and acceptable level.
The Company ceases accruing interest on loans when principal or interest
payments are delinquent 90 days or more, unless the loan is adequately
collateralized and is in the process of collection. If management determines
that interest is incollectible, all interest previously accrued is reversed
against current period interest income. If collection of principal or interest
is considered doubtful, loans are placed on nonaccrual status or charged against
income at an earlier dated.
The amount of nonaccrual loans decreased to $728,000 in 2004 from
$1,462,000 in 2003. As a percentage of total loans, nonaccrual loans represented
..25% in 2004 and .51% in 2003. The Company would have reported additional
interest income of approximately $90,000, $191,000 and $79,000 in 2004, 2003 and
2002, respectively, if nonaccrual loans had been accruing interest. The decrease
in nonaccrual loans is largely due to a single commercial borrower whose
nonaccrual borrowings total $888,000 transferred to other real estate owned.
Interest income from nonaccrual loans of approximately $40,000 has been included
in net income in 2004 and $4,000 in 2003 and $2,000 in 2002. Nonaccrual loans at
December 31, 2004 consisted of 14 relationships. Nonaccrual loans are expected
to be resolved through payments or through liquidation of collateral in the
normal course of business. No loans in the nonaccrual status have been
identified through the loan loss analysis to have any associated loss.
The category of accruing loans which are past due 90 days or more
decreased at December 31, 2004 to $452,000 as compared to $1,441,000 at December
31, 2003. As a percentage of total loans, loans past due 90 days and still
accruing interest represented 0.15% in 2004 and 0.51% in 2003. Management has
analyzed these credits as to the borrower's current circumstances, value of the
security pledged and the likely ultimate disposition of these loans. In
management's opinion, appropriate specific reserves have been allocated to
absorb any probable loss and these accounts are expected to be resolved through
payments or liquidation of collateral in the normal course of business. The
$452,000 of delinquent loans is represented by 12 accounts as follows:
26
- 4 residential real estate accounts with outstanding balances of
$142,000 of which $14,000 has been included as a specific reserve in
the allowance for loan losses;
- 1 commercial loan account with outstanding balance of $303,000 of
which $30,000 has been specifically reserved;
- 7 consumer installment loans with outstanding balances of $7,000 of
which $0 has been specifically reserved;
As a percentage of the allowance for loan losses, total nonaccrual loans and
loans past due 90 days or more were 46.8% in 2004 and 119.5% in 2003.
ANALYSIS OF THE ALLOWANCE FOR LOAN LOSSES
Activity in the allowance for loan losses for the years ended December 31 are as
follows (in thousands).
2004 2003 2002 2001 2000
-------- -------- -------- -------- --------
Balance, beginning of period $ 2,432 $ 2,106 $ 1,960 $ 1,911 $ 1,905
Loans charged-off:
Commercial and industrial 108 582 44 34 42
Commercial real estate 91 1,050 - - -
Agricultural 27 648 67 - -
Residential real estate 93 152 91 9 -
Installment 335 176 154 139 161
-------- -------- -------- -------- --------
Total charge-offs 654 2,608 356 182 203
Recoveries of loans previously charged-off:
Commercial and industrial 18 8 22 3 5
Commercial real estate 2 - - - -
Agricultural 1 - - - -
Residential real estate 4 2 - 5 -
Installment 38 18 44 46 27
-------- -------- -------- -------- --------
Total recoveries 64 28 66 54 32
Net charge-offs 590 2,580 290 128 171
Provision for loan losses 676 2,907 436 177 177
-------- -------- -------- -------- --------
Balance, end of period $ 2,519 $ 2,432 $ 2,106 $ 1,960 $ 1,911
======== ======== ======== ======== ========
Allowance to loans, end of year .86% 0.84% 0.85% 0.88% 0.86%
Ratio of net charge-offs to average loans .20% 0.95% 0.12% 0.06% 0.08%
outstanding
Loan balance, end of year $294,610 $288,624 $248,270 $223,727 $222,372
Total average net loans $294,130 $272,013 $237,788 $227,150 $210,325
27
ALLOCATION OF THE ALLOWANCE FOR LOAN LOSSES
The following table indicates the portion of the loan loss reserve
management has allocated to each loan type and the percentage of each loan
category to total loans at December 31 (in thousands).
Loans by Loans by Loans by Loans by Loans by
category category category category category
as a % of as a % of as a % of as a % of as a % of
2004 Total Loans 2003 Total Loans 2002 Total Loans 2001 Total Loans 2000 Total Loans
---- ----------- ---- ----------- ---- ----------- ---- ----------- ---- -----------
Commercial and industrial $ 297 8.9% $ 521 8.7% $ 371 10.4% $ 315 10.8% $ 271 10.3%
Commercial real estate 668 21.9% 445 21.1% 276 21.4% 648 18.7% 603 17.7%
Agricultural 395 13.6% 482 14.0% 676 16.5% 274 15.3% 255 15.5%
Residential real estate 857 46.2% 554 45.6% 402 40.2% 334 43.4% 311 44.6%
Installment 258 8.5% 325 9.7% 284 10.9% 283 11.2% 248 11.1%
Other 6 0.9% 12 0.9% 0 0.6% 10 0.6% 16 0.8%
Unallocated 38 93 97 96 207
------ ---- ------ ---- ------ ---- ------ ---- ------ ----
Balance, end of year $2,519 100% $2,432 100% $2,106 100% $1,960 100% $1,911 100%
====== ==== ====== ==== ====== ==== ====== ==== ====== ====
NONPERFORMING ASSETS
The following table represents the total of nonaccrual loans and loans 90
days past due and accruing interest at December 31 (in thousands).
2004 2003 2002 2001 2000
------ ------ ------ ------ ------
Loans accounted for on nonaccrual basis $ 728 $1,462 $ 476 $ 383 $ 319
Accruing loans which are past due 90 days or
more 452 1,441 1,133 1,649 668
Restructured loans - - - - -
------ ------ ------ ------ ------
Total $1,180 $2,903 $1,609 $2,032 $ 987
====== ====== ====== ====== ======
Deposits
Deposits have traditionally been the primary source of the Company's funds
for use in lending and other investment activities. In addition to deposits, the
Company derives funds from interest payments and principal repayments on loans
and income on earning assets. Loan payments are a relatively stable source of
funds, while deposit inflows and outflows fluctuate more in response to general
interest rates and money market conditions.
Deposits are attracted principally from within the Company's market area
through the offering of numerous deposit instruments, including checking
accounts, regular passbook savings accounts, NOW accounts, money market deposit
accounts, term certificate accounts and individual retirement accounts ("IRAs").
Interest rates paid, maturity terms, service fees and withdrawal penalties for
the various types of accounts are established periodically by the Company's
management based on the Company's liquidity requirements, growth goals and
market trends.
The table below presents a summary of period end deposit balances. The
composition of deposit categories has remained relatively consistent as a
percentage of total deposits throughout the three-year
28
period ended December 31, 2004. As a percentage of total deposits,
interest-bearing demand accounts have remained relatively the same at 22% in
2004 and 24% in 2003 and 2002. Certificates of deposits (less than $100,000)
have also remained relatively the same at 38% in 2004 and 37% in 2003 and 40% in
2002. Savings and money market accounts remained the same from 2003 to 2004 and
have only a 1% increase from 2002 as a percentage of deposits. Certificates of
deposit $100,000 and over are primarily short-term public funds. Balances of
such large certificates fluctuate depending on the Company's pricing strategy
and funding needs at any particular time and were comparable as a percentage of
total deposits in 2004, 2003 and 2002.
Interest rates, maturity terms, service fees, and withdrawal penalties for
the various types of accounts are established periodically by management based
on the Company's liquidity requirements, growth goals and market trends. The
amount of deposits currently from outside the Company's market area is not
significant.
DEPOSIT COMPOSITION
The following table indicates the total deposits by type at December 31
(dollars in thousands):
2004 Percent 2003 Percent 2002 Percent
Amount of Total Amount of Total Amount of Total
------ -------- ------ -------- ------ --------
Noninterest-bearing demand deposits $ 34,834 12% $ 31,693 12% $ 30,195 12%
Interest-bearing demand deposits 63,485 22% 64,645 24% 63,755 24%
Money market deposits 19,714 7% 19,426 7% 16,150 6%
Savings 26,680 9% 24,384 9% 21,852 9%
Time deposits greater than $100 34,294 12% 29,799 11% 27,296 10%
Other time deposits 108,824 38% 100,485 37% 103,468 40%
-------- --- -------- --- -------- ---
Total $287,831 100% $270,432 100% $262,716 100%
======== === ======== === ======== ===
The following table indicates the annual average amount of and the annual
average rate paid on deposit categories which exceeded 10% of average total
deposits at December 31 (in thousands):
2004 2003 2002
Amount Rate Amount Rate Amount Rate
------ ---- ------ ---- ------ ----
Noninterest-bearing demand deposits $ 30,737 $ 29,086 $ 28,960
Interest-bearing demand deposits
including money market deposits 86,863 1.43% 83,020 1.56% 68,787 2.00%
Time deposits greater than $100 31,860 2.80% 29,909 2.65% 27,798 3.61%
Other time deposits 104,705 2.62% 101,253 2.83% 107,565 3.88%
-------- ---- -------- ---- -------- ----
$254,165 $243,268 $233,110
======== ==== ======== ==== ======== ====
29
MATURITIES OF TIME DEPOSITS GREATER THAN $100,000
The following table indicates the amount of the Company's time deposits
greater than $100,000 by time remaining until maturity as of December 31,
2004(dollars in thousands):
Three months or less $ 3,741
Over three through 6 months 7,556
Over six through 12 months 12,125
Over 12 through 60 months 10,872
-------
Total $34,294
=======
Other Borrowings
Periodically, the Company will borrow long term money from the Federal
Home Loan Bank (FHLB) as a way to provide funding for loan demand. At December
31, 2004, the Company had outstanding $39.9 million of total borrowings from the
FHLB with a weighted average cost of 4.12%. Borrowings of $7 million consist of
three fixed-rate notes with maturities in 2008 and 2010. At the option of the
FHLB, these notes can be converted at certain dates to instruments that adjust
quarterly at the three-month LIBOR rate. The note amount and nearest optional
conversion dates at December 31, 2004, are $1 million in January 2005; $3
million in March 2005; and $3 million in March 2005 if the three month LIBOR
reaches 8%. Additionally, the Company utilized a borrowing of $10 million, due
in 2012, with a rate that can adjust quarterly if the three-month LIBOR reaches
7.75%. With the funds, the Company purchased $10 million in securities
classified as available for sale with an average yield of 5% and call features
ranging from 2011 to 2013, resulting in a net spread of 2.7% on the borrowing.
The Company began keeping fixed rate 1-4 family mortgages in-house. To
fund these loans the Company borrowed long term money from the FHLB to lock in a
spread and match the amortization with the average life of the loan. The Company
borrowed funds with a maturities ranging from 10 to 20 years with all of them
having a 10% annual principal prepayment rate. The average life of these loans
is approximately 5 years. The average rate on the borrowings is 3.47%. The
balance on these borrowings is $22.8 million as of December 31, 2004.
Capital
The declaration and payment of dividends by the Company are subject to the
discretion of the Board of Directors and to the earnings and financial condition
of the Company and applicable laws and regulations. The dividend payout ratio
was 40.52% in 2004, 50.1% in 2003, and 37.7% in 2002. At December 31, 2004
consolidated Tier 1 risk based capital was 11.4%, and total risk-based capital
was 12.3%. The minimum Tier 1 and total risk-based capital ratios required by
the Board of Governors of the Federal Reserve are 4% and 8%, respectively.
30
Liquidity
Effective liquidity management ensures that the cash flow requirements of
depositors and borrowers, as well as company cash needs, are met. The Company
manages liquidity on both the asset and liability sides of the balance sheet.
Community bank liquidity management currently involves the challenge of
attracting deposits while maintaining positive loan growth at a reasonable
interest rate spread. The loan to deposit ratio at December 31, 2004, was
102.4%, compared to 106.73% in 2003. Loans to total assets were 80.9% at the end
of 2004, compared to 81.9% in 2003. The securities portfolio is available for
sale and consists of securities that are readily marketable. Approximately 90%
of the available for sale portfolio is pledged to secure public deposits,
short-term and long-term borrowings and for other purposes as required by law.
The balance of the available for sale securities could be sold if necessary for
liquidity purposes. Also, a stable deposit base, consisting of 88% core
deposits, makes the Company less susceptible to large fluctuations in funding
needs. The Company also has both short- and long-term borrowings capacity
available through FHLB with unused available credit of approximately $26.2
million as of December 31, 2004. The Company has the ability to obtain deposits
in the brokered certificate of deposit market to help provide liquidity to fund
loan growth, if necessary. Generally, the Company uses short-term borrowings to
fund overnight and short-term funding needs in the Company's balance sheet.
Longer-term borrowings have been primarily used to fund mortgage-loan
originations. This has occurred when FHLB longer-term rates are a more
economical source of funding than traditional deposit gathering activities.
Additionally, the Company occasionally uses FHLB borrowings to fund larger
commercial loans.
Impact of Inflation, Changing Prices and Local Economic Conditions
The majority of the Company's assets and liabilities are monetary in
nature. Therefore, the Company differs greatly from most commercial and
industrial companies that have significant investments in non-monetary assets,
such as fixed assets and inventories. However, inflation does have an important
impact on the growth of assets in the banking industry and on the resulting need
to increase equity capital at higher than normal rates in order to maintain an
appropriate equity to assets ratio. Inflation also affects other expenses, which
tend to rise during periods of general inflation.
Management believes the most significant impact on financial and operating
results is the Company's ability to react to changes in interest rates.
Management seeks to maintain an essentially balanced position between interest
sensitive assets and liabilities in order to protect against the effects of wide
interest rate fluctuations.
The Company's success is dependent on the general economic conditions of
the communities we serve. Unlike larger banks that are more geographically
diversified, we provide financial and banking services primarily in south
central Ohio. The economies of our markets are dependent to a significant extent
on the agricultural industry. The economic conditions in these areas have a
significant impact on loan demand, the ability of borrowers to repay these
loans, and the value of the collateral securing these loans. A significant
decline in general economic conditions, and in particular the agricultural
industry, could affect these local economic conditions and could negatively
impact the financial results of our banking operations. Factors influencing
general conditions include inflation, recession, unemployment, and other factors
beyond our control.
Contractual Obligations and Commercial Commitments
The Company has certain obligations and commitments to make future
payments under contracts. At December 31, 2004, the aggregate contractual
obligations and commercial commitments are:
31
Contractual Obligations
Payments Due by Period
----------------------
Less than 1-3 3-5 After 5
($ in thousands) Total One Year Years Years Years
- ---------------- -------- --------- ------- ------- -------
Total Deposits $287,831 $240,971 39,016 7,832 12
FHLB Borrowings 39,920 3,518 5,497 8,213 22,692
Int expense on FHLB Borrowings 1,576 2,781 2,980 1,824
Repurchase Agreements 2,944 2,944 1,659
-------- -------- ------- ------- -------
Total $330,695 $249,009 $47,294 $19,025 $26,187
Other Commercial Commitments
Amount of Unused Commitments - Expirations by Period
----------------------------------------------------
Less than 1-3 3-5 After 5
(in thousands) Total One Year Years Years Years
- -------------- ------- --------- ------ ------ -------
Commitments to Extend Credit $26,250 $11,166 $4,241 $1,358 $9,485
Letters of Credit $ 71 $ 71
------- ------- ------ ------ ------
Total $26,321 $11,237 $4,241 $1,358 $9,485
The company's off balance sheet arrangement consist primarily of business
and consumer lines of credit. These arrangements arise in the normal course of
business. Management considers the company's liquidity to meet the funding
requirements of the arrangements as they occur in the normal course of business.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
III. MARKET RISK MANAGEMENT
Market risk is the risk of loss arising from adverse changes in the fair
value of financial instruments due to variations in interest rates, exchange
rates, equity price risk and commodity prices. The Company does not maintain a
trading account for any class of financial instrument, and is not currently
subject to currency exchange rate risk, equity price risk or commodity price
risk. The Company's market risk is composed primarily of interest rate risk.
The major source of the Company's interest rate risk is the difference in
the maturity and repricing characteristics between the Company's core banking
assets and liabilities - loans and deposits. This difference, or mismatch, poses
a risk to net interest income. Most significantly, the Company's core banking
assets and liabilities are mismatched with respect to repricing frequency,
maturity and/or index. Most of the Company's commercial loans, for example,
reprice rapidly in response to changes in short-term interest. In contrast, many
of the Company's consumer deposits reprice slowly, if at all, in response to
changes in market interest rates.
The Company's Senior Management is responsible for reviewing the interest rate
sensitivity position of the Company and establishing policies to monitor and
limit exposure to interest rate risk. Mangement hired an outside consulting firm
in 2004 to prepare and assist the bank's ALCO committee that was also formed in
2004 in interest rate risk monitoring and reporting. The guidelines established
by senior management are approved by the Company's Board of Directors. The
primary goal of the asset/liability management function is to maximize net
interest income within the interest rate risk limits
32
set by approved guidelines. Techniques used include both interest rate risk
analysis that performs simulation modeling that measures the effect of rate
changes on net interest income and market value of equity under different rate
scenarios. The current policy imposes limits on earnings at risk over a 12 month
period.
INTEREST RATE RISK ANALYSIS
The table below summarizes the earnings at risk over a 12 month period in
a rising and declining rate environment of 100, 200, and 300 basis points as of
December 31, 2004.
Net Interest Dollar Change Percent Change Board Approved
Income (In thousands) from Base Case Guidelines
------------ -------------- -------------- ----------------
Rising 300 13.933 471 3.50% +/- 10% of base
Rising 200 13.778 316 2.35% +/- 7.5% of base
Rising 100 13.622 161 1.19% +/- 5% of base
------ ---- ----- ----------------
Base Case 13.461
------ ---- ----- ----------------
Falling 100 13.280 -181 -1.35% +/- 5% of base
Falling 200 13.034 -427 -3.18% +/- 7.5% of base
Falling 300 12.725 -737 -5.47% +/- 10% of base
In the Company's simulation models, each asset and liability balance is
projected over a time horizon. Net interest income is then projected based on
expected cash flows and projected interest rates under a stable rate scenario
and analyzed. The results of this analysis are factored into decisions made
concerning pricing strategies for loan and deposits, balance sheet mix,
securities portfolio strategies, liquidity and capital adequacy.
The Company applies hypothetical interest rate movements for up and down
interest rate movements of 100, 200, and 300 basis points. The interest
movements move in equal amounts each quarter to give a more likely and
meaningful scenerio should rates change.
Simulation models are also performed under an instantaneous parallel 300
basis point increase or decrease in interest rates. The model includes
assumptions as to repricing and expected prepayments, anticipated calls, and
expected decay rates of transaction accounts under the different rate scenarios.
The results of these simulations include changes in market value of equity.
The Company's rate shock simulation models provide results in extreme
interest rate environments and results are used accordingly. Reacting to changes
in economic conditions, interest rates and market forces, the Company has been
able to alter the mix of short and long-term loans and investments, and increase
or decrease the emphasis on fixed and variable rate products in response to
changing market conditions. By managing the interest rate sensitivity of its
asset composition in this manner, the Company has been able to maintain a fairly
stable flow of net interest income.
Complicating management's efforts to control non-trading exposure to
interest rate risk is the fundamental uncertainty of the maturity, repricing,
and/or runoff characteristics of some of the Company's core banking assets and
liabilities. This uncertainty often reflects options embedded in these financial
instruments. The most important embedded options are contained in consumer
deposits and loans.
33
For example, many of the Company's interest bearing retail deposit
products (e.g., interest checking, savings and money market deposits) have no
contractual maturity. Customers have the right to withdraw funds from these
deposit accounts freely. Deposit balances may therefore run off unexpectedly due
to changes in competitive or market conditions. To forestall such runoff, rates
on interest bearing deposits may have to be increased more (or reduced less)
than expected. Such repricing may not be highly correlated with the repricing of
prime rate-based or U.S. Treasury-based loans. Finally, balances that leave the
banking franchise may have to be replaced with other more expensive retail or
wholesale deposits. Given the uncertainties surrounding deposit runoff and
repricing, the interest rate sensitivity of core bank liabilities cannot be
determined precisely.
The following table indicates the Company's interest rate-sensitive instruments
and their repricing year and current average yield/(cost) for the periods ended
December 31 (in thousands).
Later
2005 2006 2007 2008 2009 Years Total Fair Value
------- ------ ------ ------ ------ ------ ------- ----------
Fixed rate loans 35,321 11,706 9,209 5,598 3,492 29,110 94,436 94,737
Average interest rate 6.45% 6.99% 6.80% 6.60% 6.57% 6.19%
Adjustable rate loans 103,492 28,310 23,312 23,089 20,068 1,903 200,174 200,727
Average interest rate 6.20% 5.98% 6.33% 6.14% 6.19% 6.78%
Securities(1) 12,186 3,472 1,770 1,504 4,668 9,915 33,515 34,509
Average interest rate 4.06% 4.98% 5.96% 5.96% 5.32% 5.02%
Interest-bearing time deposits 96,405 21,821 17,049 308 7,524 12 143,119 143,740
Average interest rate 2.63% 3.06% 3.70% 2.93% 4.98% 4.74%
Interest-bearing demand deposits 109,879 - - - - - 109,879 107,193
Average interest rate 1.20% - - - - -
Short-term borrowings 2,944 - - - - - 2,944 2,944
Average interest rate 2.24% - - - - -
Long-term debt - - - 4,000 - 35,920 39,920 39,589
Average interest rate - - - 4.93% - 4.03%
(1) For the purpose of this table, securities include FHLB Stock and FRB Stock
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Registrant's consolidated audited financial statements and the report of its
registered public accounting firm are attached hereto as an exhibit 99. The
selected quarterly financial data is provided under Item 5 of this Annual Report
on Form 10-K.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
None.
34
ITEM 9A. CONTROLS AND PROCEDURES
The Registrant maintains disclosure controls and procedures that are
designed to ensure that information required to be disclosed in the Registrant's
Exchange Act reports is recorded, processed, summarized and reported within the
time periods specified in the SEC's rules and forms, and that such information
is accumulated and communicated to the Registrant's management, including its
Chief Executive Officer and Chief Financial Officer, as appropriate, to allow
timely decisions regarding required disclosure based on the definition of
"disclosure controls and procedures" in Exchange Act Rules 13a-15(e) and
15d-15(e). In designing and evaluating the disclosure controls and procedures,
management recognized that any controls and procedures, no matter how well
designed and operated, can provide only reasonable assurance of achieving the
desired control objectives, and management was required to apply its judgment in
evaluating the cost-benefit relationship of possible controls and procedures.
The Registrant has carried out an evaluation, under the supervision and
with the participation of the Registrant's management, including the
Registrant's Chief Executive Officer and Chief Financial Officer, of the
effectiveness of the design and operation of the Registrant's disclosure
controls and procedures. Based on the foregoing, the Registrant's Chief
Executive Officer and Chief Financial Officer concluded that, as of the end of
the period covered by this report, the Registrant's disclosure controls and
procedures were effective, in all material respects, to ensure that information
required to be disclosed in the reports the Registrant files and submits under
the Exchange Act is recorded, processed, summarized and reported as and when
required.
There was no change in the Company's internal control over financial
reporting that occurred during the Company's fiscal quarter ended December 31,
2004 that has materially affected, or is reasonably likely to materially affect,
the Company's internal control over financial reporting.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
Certain information required by this item is set forth in the Company's
definitive Proxy Statement for the 2005 Annual Meeting of Shareholders to be
held April 26, 2005 under the sections captioned "ELECTION OF DIRECTORS AND
VOTING PROCEDURES," "EXECUTIVE COMPENSATION AND RELATED ITEMS" and "SECTION
16(a) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE," and is incorporated herein by
reference.
The Board of Directors has determined that the Company does not have an
audit committee financial expert serving on its audit committee. However, the
Board of Directors believes that each audit committee member has sufficient
knowledge in financial and auditing matters to effectively serve on the
committee. At this time, the Board does not believe it is necessary to actively
search for an outside person to serve on the Board who would qualify as a
financial expert.
The Company has adopted a code of ethics that applies to its principal
executive, financial and accounting officers. A copy of the Company's code of
ethics will be provided without charge to any person submitting a written
request for the code of ethics. All such requests should be submitted to the
attention of Ms. Nancy Hendrickson at the address of the main office of the
Company.
35
ITEM 11. EXECUTIVE COMPENSATION.
The information required by this item is set forth in the Company's
definitive Proxy Statement for the 2005 Annual Meeting of Shareholders to be
held April 26, 2005 under the section captioned "EXECUTIVE COMPENSATION AND
RELATED ITEMS," and is incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS.
The information required by this item is set forth in the Company's
definitive Proxy Statement for the 2005 Annual Meeting of Shareholders to be
held April 26, 2005 under the section captioned "SECURITY OWNERSHIP OF CERTAIN
BENEFICIAL OWNERS AND MANAGEMENT," and is incorporated herein by reference.
The Company currently has no securities authorized for issuance under
equity compensation plans which would require the disclosures mandated by
Section 201(d) of Regulation S-K.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
The information required by this item is set forth in the Company's
definitive Proxy Statement for the 2005 Annual Meeting of Shareholders to be
held April 26, 2005 under the section captioned "CERTAIN RELATIONSHIPS AND
RELATED TRANSACTIONS," and is incorporated herein by reference.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
THE INFORMATION REQUIRED BY THIS ITEM IS SET FORTH IN THE COMPANY'S DEFINITIVE
PROXY STATEMENT FOR THE 2005 ANNUAL MEETING OF SHAREHOLDERS TO BE HELD APRIL 26,
2005 UNDER THE SECTION CAPTIONED "INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM"
AND IS INCORPORATED HEREIN BY REFERENCE.
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.
A. Annual Financial Statements
Independent Registered Public Accounting Firm Report
Consolidated Balance Sheets,
December 31, 2004 and 2003
Consolidated Statements of Income,
Years ended December 31, 2004, 2003 and 2002
Consolidated Statements of Changes in Shareholders' Equity
Years ended December 31, 2004, 2003 and 2002
Consolidated Statements of Cash Flows,
Years ended December 31, 2004, 2003 and 2002
Notes to Consolidated Financial Statements,
December 31, 2004, 2003 and 2002
B. Reports on Form 8-K
No reports on Form 8-K were filed by the registrant during its fiscal
quarter ended December 31, 2004.
36
C. Exhibits
(3) Corporate Governance Items
3.1 Articles of Incorporation, filed as Exhibit (3)(I) to the Form
10 filed with the SEC on April 30, 2002 and incorporated
herein by reference.
3.2 Code of Regulations, filed as Exhibit (3)(II) to the Form 10
filed with the SEC on April 30, 2002 and incorporated herein
by reference.
(10) Material Contracts:
10.1 The Merchants National Bank Defined Benefit Retirement Plan,
filed as Exhibit 10.1 to the Form 10 filed with the SEC on
April 30, 2002 and incorporated herein by reference.
10.2 The Merchants National Bank Profit Sharing and 401(k) Savings
Retirement Plan and Trust, filed as Exhibit 10.2 to the Form
10 filed with the SEC on April 30, 2002 and incorporated
herein by reference.
- Defined Contribution Prototype Plan; and
- Non-Standardized 401(k) Savings Plan and Trust Prototype
Plan Adoption Agreement
10.3 The Merchants National Bank Profit Sharing Bonus Plan, filed
as Exhibit 10.3 to the Form 10 filed with the SEC on April 30,
2002 and incorporated herein by reference.
10.4 The Merchants National Bank of Hillsboro, Ohio Executive
Investment Plan, filed as Exhibit 10.4 to the Form 10 filed
with the SEC on April 30, 2002 and incorporated herein by
reference.
10.5 The Merchants National Bank Directors' Deferred Compensation
Plan, filed as Exhibit 10.5 to the Form 10 filed with the SEC
on April 30, 2002 and incorporated herein by reference.
(31) Rule 13a-14(a) Certification
(32) Section 1350 Certification
(99) Independent Registered Public Accounting Firms' Report and
Consolidated Financial Statements
37
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act or 1934, the registrant has duly caused this registration statement
to be signed on its behalf by the undersigned, thereunto duly authorized.
Merchants Bancorp, Inc.
--------------------------------------
(Registrant)
Date March 30, 2005 By /s/ Paul W. Pence, Jr.
-----------------------------------
Paul W. Pence, Jr., President
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
Date March 30, 2005 By /s/ Paul W. Pence, Jr.
--------------------------------
Paul W. Pence, Jr.
Principal Executive Officer, Principal
Financial Officer and Director
Date March 30, 2005 By /s/ James D. Evans
--------------------------------
James D. Evans, Principal Accounting
Officer
Date March 30, 2005 By /s/ Donald Fender, Jr.
--------------------------------
Donald Fender, Jr., Director
Date March 30, 2005 By /s/ Richard S. Carr
--------------------------------
Richard S. Carr, Director
Date March 30, 2005 By /s/ James R. Vanzant
--------------------------------
James R. Vanzant, Director
Date March 30, 2005 By /s/ Robert Hammond
--------------------------------
Robert Hammond, Director
Date March 30, 2005 By /s/ William Butler
--------------------------------
William Butler, Director
Date March 30, 2005 By /s/ Charles A. Davis
--------------------------------
Charles A. Davis, Director
Date March 30, 2005 By /s/ Jack Walker
--------------------------------
Jack Walker, Director
38
EXHIBIT INDEX
Exhibit Page
Number Number Exhibit Description
- ------- ------ -------------------
3.1 N/A Articles of Incorporation(1)
3.2 N/A Code of Regulations(1)
10.1 N/A Merchants National Bank Defined Benefit Retirement Plan(1)
10.2 N/A Merchants National Bank Profit Sharing and 401(k) Savings
Retirement Plan and Trust(1)
10.3 N/A Merchants National Bank Profit Sharing Bonus Plan(1)
10.4 N/A Merchants National Bank of Hillsboro, Ohio Executive Investment
Plan(1)
10.5 N/A Merchants National Bank Directors' Deferred Compensation Plan(1)
21 N/A Subsidiaries of the Registrant(1)
31 42 Rule 13a-14(a) Certification
32 43 Section 1350 Certification
99 44 Independent Registered Public Accounting Firms' Report and
Consolidated Financial Statements
(1) Incorporated by reference to the Company's Form 10 filed with the SEC on
April 30, 2002
39