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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(MARK ONE)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2004
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ______________________ to ____________________
Commission file number 001-31940
F.N.B. CORPORATION
- --------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
Florida 25-1255406
- ----------------------------------- -------------------------------------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
One F.N.B. Boulevard, Hermitage, PA 16148
- --------------------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
(724) 981-6000
- --------------------------------------------------------------------------------
(Registrant's telephone number, including area code)
- --------------------------------------------------------------------------------
(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes [X] No [ ]
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Class Outstanding at October 31, 2004
Common Stock, $0.01 Par Value 49,960,618 Shares
- ----------------------------- -----------------
F.N.B. CORPORATION
FORM 10-Q
September 30, 2004
INDEX
PAGE
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets (unaudited) 2
Consolidated Statements of Income (unaudited) 3
Consolidated Statements of Cash Flows (unaudited) 5
Consolidated Statement of Stockholders' Equity (unaudited) 6
Notes to Consolidated Financial Statements 7
Report of Independent Registered Public Accounting Firm 22
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 23
Item 3. Quantitative and Qualitative Disclosures About Market Risk 39
Item 4. Controls and Procedures 39
PART II - OTHER INFORMATION
Item 1. Legal Proceedings 40
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 40
Item 3. Defaults Upon Senior Securities 40
Item 4. Submission of Matters to a Vote of Security Holders 40
Item 5. Other Information 40
Item 6. Exhibits 41
Signatures 42
1
F.N.B. CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
DOLLARS IN THOUSANDS, EXCEPT PAR VALUES
SEPTEMBER 30, DECEMBER 31,
2004 2003
-------------- ------------
UNAUDITED
--------------
ASSETS
Cash and due from banks $ 97,251 $ 105,160
Interest bearing deposits with banks 844 1,152
Short-term investments 14,126 --
Securities available for sale 568,713 878,667
Securities held to maturity (fair
value of $561,059 and $24,823) 557,592 24,030
Mortgage loans held for sale 4,387 1,435
Loans, net of unearned income of $29,851 and $31,646 3,219,735 3,259,197
Allowance for loan losses (46,151) (46,139)
---------- ----------
NET LOANS 3,173,584 3,213,058
---------- ----------
Premises and equipment 73,876 79,618
Goodwill 34,428 28,710
Other assets 208,741 225,344
Assets of discontinued operations -- 3,751,136
---------- ----------
TOTAL ASSETS $4,733,542 $8,308,310
========== ==========
LIABILITIES
Deposits:
Non-interest bearing demand $ 612,347 $ 592,795
Savings and NOW 1,495,621 1,513,526
Certificates and other time deposits 1,316,509 1,333,189
---------- ----------
TOTAL DEPOSITS 3,424,477 3,439,510
Other liabilities 64,544 58,096
Short-term borrowings 345,879 232,966
Long-term debt 639,113 584,808
Liabilities of discontinued operations -- 3,386,021
---------- ----------
TOTAL LIABILITIES 4,474,013 7,701,401
---------- ----------
STOCKHOLDERS' EQUITY
Common stock - $0.01 par value
Authorized - 500,000,000 shares
Issued - 46,767,147 and 46,354,673 shares 468 464
Additional paid-in capital 231,107 586,009
Retained earnings 22,981 11,532
Accumulated other comprehensive income 8,230 10,251
Deferred stock compensation (1,693) --
Treasury stock - 70,481 and 40,764 shares at cost (1,564) (1,347)
---------- ----------
TOTAL STOCKHOLDERS' EQUITY 259,529 606,909
---------- ----------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $4,733,542 $8,308,310
========== ==========
See accompanying Notes to Consolidated Financial Statements
2
F.N.B. CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA
UNAUDITED
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------- ------------------
2004 2003 2004 2003
-------- -------- -------- --------
INTEREST INCOME
Loans, including fees $ 51,714 $ 53,625 $154,099 $166,020
Securities:
Taxable 11,298 7,912 30,609 24,123
Nontaxable 651 923 1,837 3,082
Dividends 282 393 887 1,248
Other 5 15 10 38
-------- -------- -------- --------
TOTAL INTEREST INCOME 63,950 62,868 187,442 194,511
-------- -------- -------- --------
INTEREST EXPENSE
Deposits 13,266 14,272 38,271 44,172
Short-term borrowings 2,532 2,126 5,149 5,689
Long-term debt 6,085 5,474 18,282 16,480
-------- -------- -------- --------
TOTAL INTEREST EXPENSE 21,883 21,872 61,702 66,341
-------- -------- -------- --------
NET INTEREST INCOME 42,067 40,996 125,740 128,170
Provision for loan losses 3,570 4,285 11,812 12,315
-------- -------- -------- --------
NET INTEREST INCOME AFTER
PROVISION FOR LOAN LOSSES 38,497 36,711 113,928 115,855
-------- -------- -------- --------
NON-INTEREST INCOME
Service charges 8,676 8,643 25,239 25,675
Insurance commissions and fees 3,257 2,424 8,161 7,236
Securities commissions and fees 1,069 997 3,601 3,122
Trust 1,693 1,829 5,242 5,592
Gain on sale of securities 470 733 1,437 1,887
Gain on sale of loans 365 962 1,447 2,562
Gain on sale of branches -- -- 4,135 --
Other 3,261 2,003 7,678 6,286
-------- -------- -------- --------
TOTAL NON-INTEREST INCOME 18,791 17,591 56,940 52,360
-------- -------- -------- --------
NON-INTEREST EXPENSE
Salaries and employee benefits 18,117 26,510 53,411 65,498
Net occupancy 2,749 2,855 8,155 8,467
Equipment 3,375 4,083 9,661 11,707
Debt extinguishment penalty 1,213 20,737 1,213 20,737
Other 10,448 13,284 31,530 34,660
-------- -------- -------- --------
TOTAL NON-INTEREST EXPENSE 35,902 67,469 103,970 141,069
-------- -------- -------- --------
INCOME (LOSS) BEFORE INCOME TAXES 21,386 (13,167) 66,898 27,146
Income taxes 6,690 (5,352) 20,915 6,282
-------- -------- -------- --------
INCOME (LOSS) FROM CONTINUING OPERATIONS 14,696 (7,815) 45,983 20,864
Earnings from discontinued operations,
net of taxes of $3,749 and $13,541 -- 8,299 -- 27,604
-------- -------- -------- --------
NET INCOME $ 14,696 $ 484 $ 45,983 $ 48,468
======== ======== ======== ========
3
F.N.B. CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME (CONTINUED)
DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA
UNAUDITED
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------ ------------------
2004 2003 2004 2003
-------- ------- ------ ------
NET INCOME PER COMMON SHARE:
Basic:
Continuing operations $.32 $(.17) $.99 $ .45
Discontinued operations -- .18 -- .60
---- ----- ---- -----
$.32 $ .01 $.99 $1.05
==== ===== ==== =====
Diluted:
Continuing operations $.31 $(.17) $.98 $ .44
Discontinued operations -- .18 -- .59
---- ----- ---- -----
$.31 $ .01 $.98 $1.03
==== ===== ==== =====
CASH DIVIDENDS PER COMMON SHARE $.23 $.24 $.69 $.69
==== ==== ==== ====
See accompanying Notes to Consolidated Financial Statements
4
F.N.B. CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
DOLLARS IN THOUSANDS
UNAUDITED
NINE MONTHS ENDED
-----------------------
SEPTEMBER 30,
-----------------------
2004 2003
---------- ----------
OPERATING ACTIVITIES
Net income from continuing operations $ 45,983 $ 20,864
Net income from discontinued operations -- 27,604
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation and amortization 9,937 10,629
Provision for loan losses 11,812 12,315
Deferred taxes (1,643) 4,154
Increase in short-term investments (1,169) --
Net gain on sale of securities (1,437) (1,887)
Net gain on sale of loans (1,447) (2,562)
Proceeds from sale of loans 73,870 135,991
Loans originated for sale (75,375) (120,550)
Net change in:
Interest receivable (359) 1,762
Interest payable (5,354) 565
Change in net assets of discontinued operations -- 20,547
Other, net 3,742 (46,135)
--------- ---------
Net cash flows from operating activities 58,560 63,297
--------- ---------
INVESTING ACTIVITIES
Net change in:
Interest bearing deposits with banks 308 1,958
Loans 24,529 (27,866)
Bank Owned Life Insurance -- 3,130
Securities available for sale:
Purchases (400,009) (604,779)
Sales 11,495 84,664
Maturities 182,613 280,566
Securities held to maturity:
Purchases (27,719) (211)
Maturities 19,344 4,380
Decrease (increase) in premises and equipment (1,483) 896
Cash paid in purchase business combinations,
net of cash acquired (1,301) (150,200)
--------- ---------
Net cash flows from investing activities (192,223) (407,462)
--------- ---------
FINANCING ACTIVITIES
Net change in:
Non-interest bearing deposits, savings and NOW 1,647 207,676
Time deposits (16,680) (150,157)
Short-term borrowings 112,913 215,435
Increase in long-term debt 129,714 378,980
Decrease in long-term debt (75,409) (256,532)
Purchase of common stock (16,556) (33,702)
Issuance of common stock 22,127 25,214
Cash dividends paid (32,002) (31,819)
--------- ---------
Net cash flows from financing activities 125,754 355,095
--------- ---------
NET (DECREASE) INCREASE IN CASH AND DUE FROM BANKS (7,909) 10,930
Cash and due from banks at beginning of period 105,160 129,443
--------- ---------
CASH AND DUE FROM BANKS AT END OF PERIOD $ 97,251 $ 140,373
========= =========
See accompanying Notes to Consolidated Financial Statements
5
F.N.B. CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
DOLLARS IN THOUSANDS
UNAUDITED
Accumulated
Other
Compre- Additional Compre- Deferred
hensive Common Paid-In Retained hensive Stock Treasury
Income Stock Capital Earnings Income Compensation Stock Total
--------- ------ ---------- -------- --------- ------------ -------- ---------
Balance at December 31, 2003 $464 $ 586,009 $ 11,532 $ 10,251 $(1,347) $ 606,909
Net income $ 45,983 45,983 45,983
Change in other comprehensive
income (loss) (124) (124) (124)
--------
Comprehensive income $ 45,859
========
Cash dividends declared -
$0.46 per share (32,002) (32,002)
Purchase of common stock (16,556) (16,556)
Issuance of common stock 4 8,316 (2,532) 16,339 22,127
Change in deferred stock
compensation $(1,693) (1,693)
Spin-off of Florida operations (363,218) (1,897) (365,115)
---- --------- -------- ----------- ------- ------- ---------
Balance at September 30, 2004 $468 $ 231,107 $ 22,981 $ 8,230 $(1,693) $(1,564) $ 259,529
==== ========== ======== =========== ======= ======= =========
See accompanying Notes to Consolidated Financial Statements
6
F.N.B. CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
SEPTEMBER 30, 2004
BUSINESS
F.N.B. Corporation (the Corporation) is a diversified financial services
company headquartered in Hermitage, Pennsylvania. The Corporation owns and
operates First National Bank of Pennsylvania, First National Trust Company,
First National Investment Services Company, F.N.B. Investment Advisors, Inc.,
First National Insurance Agency, Inc. and Regency Finance Company. It has full
service banking offices located in Pennsylvania and Ohio and consumer finance
operations in Pennsylvania, Ohio and Tennessee.
BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements include the
accounts of the Corporation and its subsidiaries. The Corporation's consolidated
financial statements have historically included subsidiaries in which the
Corporation has a controlling financial interest. This requirement has been
applied to subsidiaries in which the Corporation has a majority voting interest.
Investments in companies in which the Corporation controls operating and
financing decisions (principally defined as owning a voting or economic interest
greater than 50%) are consolidated. In accordance with Financial Accounting
Standards Board Interpretation No. (FIN) 46, Consolidation of Variable Interest
Entities, an Interpretation of ARB No. 51, the Corporation considers a voting
rights entity to be a subsidiary and consolidates it if the Corporation has a
controlling financial interest in the entity. Variable interest entities are
consolidated if the Corporation is exposed to the majority of the variable
interest entity's expected losses and/or residual returns (i.e., the Corporation
is considered to be the primary beneficiary). All significant intercompany
balances and transactions have been eliminated. Certain reclassifications have
been made to the prior years' financial statements to conform to the current
year's presentation.
The accompanying unaudited consolidated financial statements for the
interim periods include all adjustments, consisting only of normal recurring
accruals, which are necessary, in the opinion of management, to fairly reflect
the Corporation's financial position and results of operations. Additionally,
these consolidated financial statements for the interim periods have been
prepared in accordance with instructions for the Securities and Exchange
Commission's Form 10-Q and therefore do not include all information or footnotes
necessary for a complete presentation of financial condition, results of
operations and cash flows in conformity with U.S. generally accepted accounting
principles. For further information, refer to the audited consolidated financial
statements and footnotes thereto for the year ended December 31, 2003, as
contained in the 2003 Annual Report to Shareholders.
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States requires management to make
estimates and assumptions that affect the amounts reported in the financial
statements and accompanying notes. Actual results could differ from those
estimates.
DISCONTINUED OPERATIONS
On January 1, 2004, the Corporation completed the spin-off of its
Florida operations into a separate, publicly traded company known as First
National Bankshares of Florida, Inc. (Bankshares). Effective January 1, 2004,
the Corporation transferred all of its Florida operations to Bankshares. At the
same time, the Corporation
7
distributed all of the outstanding stock of Bankshares to the Corporation's
shareholders of record as of December 26, 2003. Shareholders eligible for the
distribution received one share of Bankshares common stock for each outstanding
share of the Corporation's common stock held. Immediately following the
distribution, the Corporation and its subsidiaries did not own any shares of
Bankshares common stock and Bankshares became an independent public company.
The Corporation incurred approximately $49.7 million in restructuring
expenses, including $10.5 million incurred by Bankshares, during 2003 directly
attributable to the spin-off of Bankshares. These expenses consisted of a
prepayment penalty for refinancing Federal Home Loan Bank (FHLB) debt, early
retirement expenses, involuntary separation costs, professional fees and
miscellaneous other expenses. As of December 31, 2003, a liability of $12.4
million remained in connection with these expenses. This liability has been
reduced during the first nine months of 2004 as follows (in thousands):
Liability at December 31, 2003 $12,436
Liability at Bankshares (5,200)
Reduction in liability:
Early retirement expenses and involuntary
separation costs (3,255)
Professional fees (506)
Miscellaneous other expenses (375)
-------
Liability at September 30, 2004 $ 3,100
=======
This remaining liability of $3.1 million consists of $3.0 million in early
retirement expenses and involuntary separation costs and $116,000 in
miscellaneous other expenses.
As a result of the spin-off, the Florida operations' 2003 earnings have
been reclassified as discontinued operations on the consolidated statement of
income, and assets and liabilities related to these discontinued operations have
been disclosed separately on the consolidated balance sheet for 2003.
INVESTMENT IN SUN BANCORP, INC.
Through September 8, 2004, the Corporation accounted for its ownership of
the common stock of Sun Bancorp, Inc. under the equity method. Under the equity
method, the carrying value of the Corporation's investment in Sun Bancorp was
adjusted for the Corporation's share of Sun Bancorp's earnings and reduced by
dividends received from Sun Bancorp. On September 9, 2004, the Corporation
ceased to have any management control over Sun Bancorp as the Corporation gave
up its two seats on the Sun Bancorp Board of Directors. As a result, the
Corporation changed its accounting method to cost basis of accounting and moved
56% of its investment in Sun Bancorp to trading securities, in short-term
investments on the balance sheet. In conjunction with this transfer, the
Corporation recognized a $1.2 million gain due to the market value being higher
than book value at the end of the third quarter of 2004. The remaining 44% of
the Corporation's investment in Sun Bancorp was moved from the equity method of
accounting to securities available for sale, at the securities carrying value at
that date.
On October 1, 2004, Omega Financial Corporation completed its
acquisition of Sun Bancorp, Inc. Under the terms of the agreement, Sun Bancorp
shareholders were entitled to receive either 0.664 shares of Omega Financial
common stock for each share of Sun Bancorp common stock or $23.25 in cash for
each share held, subject to a pro rata allocation such that 20% of Sun Bancorp
common stock shall be paid in cash and 80% shall be in the form of Omega
Financial common stock. On October 15, 2004, the Corporation received cash for
approximately 56% of the 1,090,122 shares of Sun Bancorp common stock
8
that it owned. The remaining 479,930 shares of Sun Bancorp common stock were
converted into 318,673 shares of Omega Financial Corporation common stock. As
provided under Emerging Issues Task Force (EITF) 91-5, Nonmonetary Exchange of
Cost-Method Investments, on October 1, 2004, the Corporation recorded a gain of
$959,000 to reflect the difference between market value at the transaction date
and carrying value of the remaining shares classified as available for sale.
In conjunction with Omega Financial Corporation's acquisition of Sun
Bancorp, Inc., Omega Financial terminated the servicing agreement that the
Corporation had with Sun Bancorp. For the nine months ended September 30, 2004,
the Corporation recognized $1.0 million pre-tax, in servicing income in
accordance with the terms of the agreement.
COMMON STOCK DIVIDEND
Prior period per share amounts have been adjusted for common stock
dividends, including the 5 percent stock dividend declared on April 28, 2003.
MERGERS AND ACQUISITIONS
On October 15, 2004, the Corporation announced that it had signed a
definitive merger agreement to acquire NSD Bancorp, Inc. (NSD)(Nasdaq: NSDB), a
bank holding company headquartered in Pittsburgh, Pennsylvania with $532.0
million in assets, in a stock transaction valued at approximately $135.8
million. Under the terms of the merger agreement, shareholders of NSD will
receive 1.8 shares of the Corporation's common stock for each share of NSD
common stock. This transaction is scheduled to close during the first quarter of
2005, pending regulatory and NSD shareholder approval.
On October 8, 2004, the Corporation completed its acquisition of Slippery
Rock Financial Corporation (Slippery Rock)(OTC BB: SRCK), a bank holding company
headquartered in Slippery Rock, Pennsylvania with $335.0 million in assets. The
acquisition was a stock and cash transaction valued at $84.3 million. The
Corporation issued 3,309,203 shares of its common stock in exchange for
2,346,952 shares of Slippery Rock common stock. Additionally, the Corporation
paid $11.6 million to Slippery Rock shareholders in exchange for 414,482 shares
of Slippery Rock common stock. Slippery Rock's banking subsidiary, First
National Bank of Slippery Rock, was merged into the Corporation's existing
banking affiliate, First National Bank of Pennsylvania.
On July 26, 2004, the Corporation announced that it had signed a
definitive agreement to acquire the assets of Morrell, Butz and Junker, Inc.
(MBJ), a full-service insurance agency based in Pittsburgh, Pennsylvania. MBJ is
one of the largest independent insurance agencies in western Pennsylvania with
annual revenues of $4.0 million. MBJ, which offers property and casualty, life
and health, and group benefits coverage to both commercial and individual
clients, became a part of the Corporation's existing insurance agency, First
National Insurance Agency, Inc., doubling the size of the Corporation's
insurance division. This transaction closed on July 30, 2004.
The Corporation regularly evaluates the potential acquisition of, and
holds discussions with, various acquisition candidates and, as a general rule,
the Corporation publicly announces such acquisitions only after a definitive
merger agreement has been reached.
DEBENTURES DUE TO A STATUTORY TRUST
During the first quarter of 2003, F.N.B. Statutory Trust I (Statutory
Trust), an unconsolidated subsidiary trust, issued $125.0 million of
Corporation-obligated mandatorily redeemable capital securities (capital
securities). The proceeds from the sale of the capital securities were invested
in junior subordinated debt securities of the Corporation (debentures). The
Statutory Trust was formed for the sole purpose of
9
issuing the capital securities and investing the proceeds from the sale of such
capital securities in the debentures. The debentures held by the Statutory Trust
are its sole assets. Distributions on the capital securities issued by the
Statutory Trust are recorded as interest expense by the Corporation. The capital
securities are subject to mandatory redemption, in whole or in part, upon
repayment of the debentures. The capital securities bear interest at a floating
rate per annum equal to the three-month LIBOR plus 325 basis points. The rate in
effect at September 30, 2004 was 4.84%. The Corporation has entered into
agreements which, taken collectively, fully and unconditionally guarantee the
capital securities subject to the terms of each of the guarantees. The
debentures held by the Statutory Trust qualify as Tier 1 capital under Federal
Reserve Board guidelines and are first redeemable, in whole or in part, by the
Corporation on or after March 31, 2008.
PREFERRED STOCK REDEMPTION
The Corporation completed the planned redemption of its Preferred Stock
Series A and Preferred Stock Series B during 2003. In connection with the
redemption, the Corporation issued shares of its common stock out of treasury
stock in exchange for the remaining outstanding preferred stock. The Corporation
issued 15,882 and 264,568 shares of its common stock for the remaining 19,174
and 98,851 shares of Preferred Stock Series A and Preferred Stock Series B,
respectively. As a result of the redemption, the Corporation no longer has any
outstanding shares of Preferred Stock.
NEW ACCOUNTING STANDARDS
The Financial Accounting Standards Board (FASB) issued Staff Position No.
106-2, Accounting and Disclosure Requirements Related to the Medicare
Prescription Drug, Improvement and Modernization Act of 2003 (the Act), in May
2004. The Act, which was enacted in December 2003 and takes effect in 2006,
introduces a prescription drug benefit under Medicare (the Medicare benefit). It
also provides a federal subsidy to sponsors of retiree healthcare benefit plans
that offer prescription drug coverage to retirees that is at least actuarially
equivalent to the Medicare benefit. In accordance with Staff Position No. 106-2,
sponsoring companies must recognize the subsidy in the measurement of their
plan's accumulated postretirement benefit obligation (APBO) and net
postretirement benefit cost. Because the subsidy does not apply to the
Corporation's postretirement benefit plan, adoption of this guidance is not
expected to have a material effect on the Corporation's financial condition or
results of operations.
The EITF, a standard setting body working under the auspices of the FASB,
revised EITF No. 03-01, The Meaning of Other than Temporary Impairment and its
Application to Certain Investments, in March 2004. In the revised guidance, the
EITF reached a consensus regarding the model to be used in determining whether
an investment is other-than-temporarily impaired. In September 2004, the FASB
deferred the effective date of this other-than-temporary impairment evaluation
until clarifying guidance is issued. The Corporation will further evaluate the
impact of EITF 03-01 on its financial condition and results of operations once
the additional clarifying guidance is issued by the FASB.
The FASB has issued its exposure draft, Share Based Payment, which is a
proposed amendment to Financial Accounting Standards Statement (FAS) 123,
Accounting for Stock-Based Compensation. Generally, the approach in the exposure
draft is similar to the approach described in FAS 123. The exposure draft
utilizes a "modified grant-date" approach in which the fair value of an equity
award is estimated on the grant date without regard to service or performance
vesting criteria. That fair value is recognized (generally amortized as
compensation expense)for all awards that vest. For awards that do not vest
because employment or performance vesting conditions are not achieved, no
compensation is recognized. The exposure draft does not prescribe the use
10
of a specific option-pricing model that takes various inputs into account. The
FASB expects to issue a final standard in late 2004 that would be effective for
the Corporation in the first interim period beginning after June 15, 2005.
FAS 148, Accounting for Stock-Based Compensation - Transition and
Disclosure, was issued in December 2002. It provides alternative methods of
accounting for stock-based employee compensation. In addition, it amends
disclosure requirements in both annual and interim financial statements about
the method of accounting for stock-based compensation and the effect of the
method used on reported results. The Corporation continues to account for its
stock-based compensation under Accounting Principles Board (APB) Opinion 25,
Accounting for Stock Issued to Employees. Therefore, FAS 148 is not expected to
have a material impact on the Corporation's financial condition or results of
operations.
FIN 46, Consolidation of Variable Interest Entities, an Interpretation of
ARB No. 51, was issued in January 2003 and amended in December 2003. FIN 46
addresses consolidation by business enterprises of variable interest entities
which have certain characteristics. FIN 46 applies immediately to variable
interest entities created after January 31, 2003. It applies in the first fiscal
year or interim period beginning after December 15, 2003, to variable interest
entities in which an enterprise holds a variable interest that was acquired
before February 1, 2003. The Corporation has limited partnership investments in
affordable housing projects, for which it provides funding as a limited partner
and receives tax credit for any losses incurred by the projects based on its
partnership share. The Corporation's interest in these entities were acquired
prior to February 1, 2003. At September 30, 2004, the Corporation had recorded
investments in other assets on its balance sheet of approximately $2.5 million
associated with these investments. The Corporation currently adjusts the
carrying value of these investments for any losses incurred by the limited
partnership through earnings. The Corporation determined that it is not the
primary beneficiary of these partnerships and will not consolidate them.
Additionally, the Corporation determined that it is not the primary beneficiary
of the Statutory Trust and will not consolidate it.
FAS 146, Accounting for Costs Associated with Exit or Disposal Activities,
was issued in June 2002 and requires that a liability for a cost associated with
an exit or disposal activity be recognized when the liability is incurred. FAS
146 also establishes that fair value is the objective for initial measurement of
the liability. The provisions of FAS 146 became effective for the Corporation on
January 1, 2003. The costs incurred in connection with the spin-off of
Bankshares were accounted for in accordance with the provisions of FAS 146.
The American Institute of Certified Public Accountants issued Statement of
Position (SOP) 03-3, Accounting for Certain Loans or Debt Securities Acquired in
a Transfer, in December 2003. SOP 03-3 addresses accounting for differences
between contractual cash flows and cash flows expected to be collected from an
investors initial investment in loans or debt securities acquired in a transfer
if those differences are attributable, at least in part, to credit quality. SOP
03-3 does not apply to loans originated by the entity. The provisions of SOP
03-3 are effective for loans acquired in fiscal years beginning after December
31, 2004.
The Securities and Exchange Commission issued Staff Accounting Bulletin
(SAB) 105, Application of Accounting Principles to Loan Commitments, in March
2004. SAB 105 informs registrants that the fair value of the recorded loan
commitments that are required to follow derivative accounting under FAS 133,
Accounting for Derivative Instruments and Hedging Activities, should not
consider the expected future cash flows related to the associated servicing of a
future loan. The provisions of SAB 105 are
11
required to be applied to loan commitments accounted for as derivatives that are
entered into after March 31, 2004. The implementation of SAB 105 did not have a
significant impact on the Corporation's financial condition, results of
operations or cash flows.
SECURITIES
Securities that are purchased and held with the intention of selling them
in the near future are considered trading securities. These assets are carried
at fair value and are included in short-term investments on the balance sheet.
Following is a summary of the fair value of securities available for sale
(in thousands):
SEPTEMBER 30, DECEMBER 31,
2004 2003
------------- ------------
U.S. Treasury and other U.S. Government
agencies and corporations $175,030 $124,163
Mortgage-backed securities of U.S.
Government agencies 316,864 634,669
States of the U.S. and political subdivisions 2,410 42,408
Other debt securities 16,355 32,299
-------- --------
Total debt securities 510,659 833,539
Equity securities 58,054 45,128
-------- --------
$568,713 $878,667
======== ========
Following is a summary of the amortized cost of securities held to
maturity (in thousands):
SEPTEMBER 30, DECEMBER 31,
2004 2003
------------ ------------
U.S. Treasury and other U.S. Government
agencies and corporations $ 3,231 $ 3,761
Mortgage-backed securities of U.S.
Government agencies 464,905 --
States of the U.S. and political subdivisions 68,394 17,105
Other debt securities 21,062 3,164
-------- --------
$557,592 $ 24,030
======== ========
Securities are periodically reviewed for impairment based upon a number of
factors, including but not limited to, length of time and extent to which the
market value has been less than cost, financial condition of the underlying
issuer, ability of the issuer to meet contractual obligations, the likelihood of
the security's ability to recover any decline in its market value and the intent
and ability to retain the security for a period of time sufficient to allow for
recovery in market value.
The Corporation does not believe the unrealized losses on securities,
individually or in the aggregate, as of September 30, 2004 represent an
other-than-temporary impairment. The unrealized losses are primarily the result
of changes in interest rates and will not prohibit the Corporation from
receiving its contractual principal and interest payments. The Corporation has
the ability and intent to hold these securities for a period necessary to
recover amortized cost.
12
Following are summaries of the unrealized loss positions as of September
30, 2004 (in thousands):
Securities available for sale:
Less than 12 Months Greater than 12 Months Total
--------------------- ---------------------- ---------------------
Fair Unrealized Fair Unrealized Fair Unrealized
Value Losses Value Losses Value Losses
--------- ---------- ------- ---------- --------- ----------
U.S. Treasury and other U.S. Government
agencies and corporations $ 60,677 $ (563) -- -- $ 60,677 $ (563)
Mortgage-backed securities of
U.S. Government agencies 104,458 (497) -- -- 104,458 (497)
Other debt securities 1,995 (4) -- -- 1,995 (4)
Equity securities 33 -- -- -- 33 --
--------- -------- ----- -------- --------- -------
$ 167,163 $ (1,064) $ 0 $ 0 $ 167,163 $(1,064)
========= ======== ===== ======== ========= =======
Securities held to maturity:
Less than 12 Months Greater than 12 Months Total
---------------------- ---------------------- --------------------
Fair Unrealized Fair Unrealized Fair Unrealized
Value Losses Value Losses Value Losses
------- ---------- ------- ---------- ------- ----------
U.S. Treasury and other U.S. Government
agencies and corporations $ 1,320 $ (3) -- -- $ 1,320 $ (3)
Mortgage-backed securities of
U.S. Government agencies 12,615 (36) -- -- 12,615 (36)
States of the U.S. and political
subdivisions 14,585 (125) -- -- 14,585 (125)
Other debt securities 502 (8) -- -- 502 (8)
------- ----- ---- ---- ------- -----
$29,022 $(172) $ 0 $ 0 $29,022 $(172)
======= ===== ==== ==== ======= =====
13
BORROWINGS
Following is a summary of short-term borrowings (in thousands):
SEPTEMBER 30, DECEMBER 31,
2004 2003
------------- ------------
Securities sold under repurchase agreements $134,143 $ 81,444
Federal funds purchased 60,865 865
Federal Home Loan Bank advances 6,000 6,000
Subordinated notes 144,666 144,006
Other short-term borrowings 205 651
-------- --------
$345,879 $232,966
======== ========
Following is a summary of long-term debt (in thousands):
SEPTEMBER 30, DECEMBER 31,
2004 2003
------------ ------------
Federal Home Loan Bank advances $479,252 $425,141
Debentures due to Statutory Trust 128,866 128,866
Subordinated notes 30,704 30,517
Other long-term debt 291 284
-------- --------
$639,113 $584,808
======== ========
The Corporation's banking subsidiary has available credit with the Federal
Home Loan Bank (FHLB) of $1.7 billion, of which $485.3 million was used as of
September 30, 2004. These advances are secured by residential real estate loans
and FHLB stock and are scheduled to mature in various amounts periodically
through the year 2012.
EARNINGS PER SHARE
Basic earnings per share is calculated by dividing net income, adjusted
for declared dividends on preferred stock, by the weighted average number of
shares of common stock outstanding.
Diluted earnings per common share is calculated by dividing net income by
the weighted average number of shares of common stock outstanding, assuming
conversion of outstanding convertible preferred stock from the beginning of the
year and the exercise of stock options. Such adjustments to net income and the
weighted average number of shares of common stock are made only when such
adjustments dilute earnings per share.
14
The following tables set forth the computation of basic and diluted
earnings per share (in thousands, except per share data):
Three Months Ended Nine Months Ended
September 30, September 30,
---------------------- ----------------------
2004 2003 2004 2003
---------- ---------- ---------- ----------
BASIC
Net income (loss) from
continuing operations $ 14,696 $ (7,815) $ 45,983 $ 20,864
Net income from
discontinued operations -- 8,299 -- 27,604
Less: Preferred stock
dividends declared -- -- -- (62)
---------- ---------- ---------- ----------
Earnings applicable to
basic earnings per share $ 14,696 $ 484 $ 45,983 $ 48,406
========== ========== ========== ==========
Average common shares outstanding 46,537,841 46,091,404 46,326,420 46,065,527
========== ========== ========== ==========
Basic earnings per share:
From continuing operations $ .32 $(.17) $ .99 $ .45
From discontinued operations -- .18 -- .60
---------- ---------- ---------- ----------
Net income $ .32 $ .01 $ .99 $ 1.05
========== ========== ========== ==========
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------ -------------------------
2004 2003 2004 2003
----------- ----------- ----------- ------------
DILUTED
Net income (loss) from
continuing operations $ 14,696 $ (7,815) $ 45,983 $ 20,864
Net income from
discontinued operations -- 8,299 -- 27,604
----------- ----------- ----------- ------------
Earnings applicable to
diluted earnings per share $ 14,696 $ 484 $ 45,983 $ 48,468
=========== =========== =========== ============
Average common shares outstanding 46,537,841 46,091,404 46,326,420 46,065,527
Convertible preferred stock -- -- -- 85,253
Net effect of dilutive stock
options based on the treasury
stock method 815,511 912,581 828,993 785,006
----------- ----------- ----------- ------------
47,353,352 47,003,985 47,155,413 46,935,786
=========== =========== =========== ============
Diluted earnings per share:
From continuing operations $ .31 $ (.17) $ .98 $ .44
From discontinued operations -- .18 -- .59
----------- ----------- ----------- ------------
Net income $ .31 $ .01 $ .98 $ 1.03
=========== =========== =========== ============
15
STOCK-BASED COMPENSATION
In accordance with FAS 148, the following table shows pro forma net income
and earnings per share assuming stock-based compensation had been expensed based
on the fair value of the compensation granted along with significant assumptions
used in the Black-Scholes option pricing model (dollars in thousands, except per
share data):
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------ ------------------------
2004 2003 2004 2003
---------- ----------- ----------- -----------
Net income (loss) from
continuing operations $ 14,696 $ (7,815) $ 45,983 $ 20,864
Stock-based employee compensation
cost included in net income from
continuing operations, net of tax 154 19 492 57
Stock-based employee compensation
cost determined if the fair
value method had been applied
to all awards, net of tax (593) (741) (1,816) (2,232)
---------- ---------- ---------- ----------
Pro forma net income (loss) from
continuing operations $ 14,257 $ (8,537) $ 44,659 $ 18,689
========== ========== ========== ==========
Earnings per share from continuing operations:
Basic as reported $ .32 $ (.17) $ .99 $ .45
Basic pro forma .31 (.19) .96 .40
Diluted as reported $ .31 $ (.17) $ .98 $ .44
Diluted pro forma .30 (.18) .95 .40
Assumptions:
Risk-free interest rate 3.86% 2.93% 3.86% 2.93%
Dividend yield 4.16% 2.95% 4.16% 2.95%
Expected stock price volatility .25% .21% .25% .25%
Expected life (years) 5.00 5.00 5.00 5.00
Fair value of options granted $ 11.79 $ 11.79 $ 11.79 $ 11.79
As a result of the Corporation's spin-off of its Florida operations, the
Corporation developed a methodology designed to adjust the number and exercise
price of outstanding F.N.B. Corporation stock options immediately following the
completion of the spin-off for the purpose of preserving the equivalent value of
these stock options that existed as of the close of business on December 31,
2003. As of September 30, 2004, the Corporation had options outstanding to
purchase 2,054,115 shares of common stock at an average exercise price of $11.28
per share.
During the first quarter of 2004, the Corporation issued 107,285
restricted shares of common stock to key employees and directors of the
Corporation under its 2001 Incentive Plan. Under this program, shares awarded to
management are earned, in part, by delivering certain financial performance
results when compared to peers. The rewards are earned over three- to five-year
periods. The unvested portion of these awards, totaling $1.7 million at
September 30, 2004, is reflected as deferred stock compensation in the
stockholders' equity section of the Corporation's balance sheet.
16
RETIREMENT AND OTHER POSTRETIREMENT BENEFIT PLAN
The net periodic benefit cost for the defined benefit plans includes the
following components (in thousands):
Three Months Ended Nine Months Ended
September 30, September 30,
------------------ -----------------
2004 2003 2004 2003
-------- ------- ------- --------
Service cost $ 955 $ 888 $ 2,865 $ 2,664
Interest cost 1,560 1,467 4,680 4,401
Expected return on plan assets (1,671) (1,373) (5,013) (4,119)
Net amortization 223 232 669 696
------- ------- ------- -------
Net periodic cost $ 1,067 $ 1,214 $ 3,201 $ 3,642
======= ======= ======= =======
Net periodic postretirement benefit cost includes the following components
(in thousands):
Three Months Ended Nine Months Ended
September 30, September 30,
------------------ --------------------
2004 2003 2004 2003
-------- -------- -------- --------
Service cost $ 82 $ 73 $246 $219
Interest cost 99 91 297 273
One time charge for
voluntary retirement -- 37 -- 111
Net amortization 34 25 102 75
---- ---- ---- ----
Net periodic cost $215 $226 $645 $678
==== ==== ==== ====
The Corporation sponsors retirement plans for the benefit of its
employees. In conjunction with the spin-off of its Florida operations, a portion
of the obligations associated with these plans was transferred to Bankshares. Of
the December 31, 2003 obligations reported in the Retirement Plans footnote in
the Corporation's 2003 Annual Report on Form 10-K, $88.1 million of the $98.7
million accumulated benefit obligation and $101.7 of the $114.0 million
projected benefit obligation remained with the Corporation after the spin-off.
The fair value of plan assets, which was $84.9 million at December 31, 2003,
remained entirely with the Corporation. Of the $11.0 million pension expense for
the year ended December 31, 2003, $8.0 million was attributable to continuing
operations. With respect to the Other Postretirement Benefit Plans footnote in
the Corporation's 2003 Annual Report on Form 10-K, these obligations remained
entirely with the Corporation after the spin-off and the related postretirement
benefit cost was entirely attributable to continuing operations.
The Corporation's subsidiaries participate in a qualified 401(k) defined
contribution plan under which eligible employees may contribute a percentage of
their salary. The Corporation matches 50 percent of an eligible employee's
contribution on the first 6 percent that the employee defers. Employees are
generally eligible to participate upon completing 90 days of service and having
attained age 21. Employer contributions become 20 percent vested when an
employee has completed one year of service, and vest at a rate of 20 percent per
year thereafter. The Corporation's contribution expense was $924,000 for the
nine months ended September 30, 2004.
17
CASH FLOW INFORMATION
Following is a summary of supplemental cash flow information (in
thousands):
Nine Months Ended
September 30,
2004 2003
Cash paid for:
Interest $ 67,056 $ 65,776
Taxes 17,012 18,728
Noncash Investing and Financing Activities:
Acquisition of real estate in settlement of loans 4,209 1,735
Loans granted in the sale of other real estate 285 47
Spin-off of Florida operations 365,115 --
Transfer of securities from available for sale to
held to maturity 519,410 --
Transfer of investment in Sun Bancorp, Inc. from
other assets to:
Securities 10,191 --
Short-term investments 12,957 --
COMPREHENSIVE INCOME
The components of comprehensive income, net of related tax, are as follows
(in thousands):
Three Months Ended Nine Months Ended
September 30, September 30,
------------------- --------------------
2004 2003 2004 2003
-------- --------- --------- ---------
Net income (loss) from
continuing operations $ 14,696 $ (7,815) $ 45,983 $ 20,864
Net income from
discontinued operations -- 8,299 -- 27,604
Other comprehensive income (loss):
Unrealized gains (losses) on securities:
Unrealized holding gains
(losses) arising during
the period 15,588 (18,360) 642 (8,574)
Less: reclassification
adjustment for gains
included in net income (306) (476) (934) (1,227)
Minimum pension liability
adjustment -- -- 168 --
-------- -------- -------- --------
Other comprehensive income (loss) 15,282 (18,836) (124) (9,801)
-------- -------- -------- --------
Comprehensive income (loss) $ 29,978 $(18,352) $ 45,859 $ 38,667
======== ======== ======== ========
18
BUSINESS SEGMENTS
The Corporation operates in four reportable segments: community banking,
wealth management, insurance and consumer finance. The Corporation's community
banking subsidiary offers services traditionally offered by full-service
commercial banks, including commercial and individual demand and time deposit
accounts and commercial, mortgage and individual installment loans. Wealth
Management provides a broad range of personal and corporate fiduciary services
including the administration of decedent and trust estates. In addition, it
offers various alternative products, including securities brokerage and
investment advisory services, mutual funds, insurance and annuities. The
Corporation's insurance business includes a full-service insurance agency
offering all lines of commercial and personal insurance through major carriers.
The insurance business also includes a reinsurer. The Corporation's consumer
finance subsidiary is primarily involved in making personal installment loans to
individuals. This activity is funded through the sale of the Corporation's
subordinated notes at the finance company's branch offices. The all other
segment includes the parent company, other non-bank subsidiaries and
eliminations, which are necessary for purposes of reconciling to the
consolidated amounts. The following tables provide financial information for
these segments of the Corporation (in thousands).
19
At or for the three months Community Wealth Consumer All
ended September 30, 2004 Banking Management Insurance Finance Other Consolidated
---------- ---------- ---------- ---------- --------- ------------
Interest income $ 56,309 $ 7 $ 7 $ 8,184 $ (557) $ 63,950
Interest expense 18,942 2 -- 1,316 1,623 21,883
Provision for loan losses 1,965 -- -- 1,605 -- 3,570
Non-interest income 12,132 2,950 2,076 467 1,166 18,791
Non-interest expense, excluding
intangible amortization 27,324 2,293 1,640 3,730 340 35,327
Intangible amortization 491 1 83 -- -- 575
Income tax expense (benefit) 6,112 246 159 750 (577) 6,690
Net income (loss) 13,607 415 201 1,250 (777) 14,696
Total assets 4,504,537 5,797 17,590 154,824 50,794 4,733,542
Total intangibles 32,788 1 12,241 1,809 -- 46,839
At or for the three months Community Wealth Consumer All
ended September 30, 2003 Banking Management Insurance Finance Other Consolidated
----------- ---------- ---------- --------- --------- ------------
Interest income $ 56,250 $ 1 $ 7 $ 7,106 $ (496) $ 62,868
Interest expense 19,335 2 -- 1,248 1,287 21,872
Provision for loan losses 2,798 -- -- 1,487 -- 4,285
Non-interest income 11,252 2,929 921 444 2,045 17,591
Non-interest expense, excluding
intangible amortization 52,527 2,439 1,038 3,184 7,738 66,926
Intangible amortization 491 -- 29 -- 23 543
Income tax expense (benefit) (3,524) 141 (46) 609 (2,532) (5,352)
Net income (loss) from
continuing operations (4,125) 348 (93) 1,022 (4,967) (7,815)
Net income from discontinued
operations 7,870 (26) 455 -- -- 8,299
Net income (loss) 3,745 322 362 1,022 (4,967) 484
Total assets from continuing
operations 4,412,651 3,770 5,753 147,845 8,116 4,578,135
Total intangibles from
continuing operations 32,269 12 4,860 1,809 21 38,971
20
At or for the nine months Community Wealth Consumer All
ended September 30, 2004 Banking Management Insurance Finance Other Consolidated
---------- ---------- ---------- --------- ----------- ------------
Interest income $ 165,831 $ 17 $ 19 $ 22,975 $ (1,400) $ 187,442
Interest expense 53,178 7 -- 3,681 4,836 61,702
Provision for loan losses 6,975 -- -- 4,837 -- 11,812
Non-interest income 40,185 9,390 4,449 1,527 1,389 56,940
Non-interest expense, excluding
intangible amortization 79,804 7,099 3,693 10,426 1,334 102,356
Intangible amortization 1,475 2 137 -- -- 1,614
Income tax expense (benefit) 20,249 861 290 2,086 (2,571) 20,915
Net income (loss) 44,335 1,438 348 3,472 (3,610) 45,983
Total assets 4,504,537 5,797 17,590 154,824 50,794 4,733,542
Total intangibles 32,788 1 12,241 1,809 -- 46,839
At or for the nine months Community Wealth Consumer All
ended September 30, 2003 Banking Management Insurance Finance Other Consolidated
---------- ---------- ----------- ---------- ----------- ------------
Interest income $ 174,682 $ 3 $ 28 $ 21,242 $ (1,444) $ 194,511
Interest expense 60,572 6 4 3,957 1,802 66,341
Provision for loan losses 8,054 -- -- 4,261 -- 12,315
Non-interest income 33,768 9,023 2,681 1,354 5,534 52,360
Non-interest expense, excluding
intangible amortization 104,769 7,660 2,738 9,466 14,807 139,440
Intangible amortization 1,475 2 86 -- 66 1,629
Income tax expense (benefit) 8,812 454 (20) 1,797 (4,761) 6,282
Net income (loss) from
continuing operations 24,768 904 (99) 3,115 (7,824) 20,864
Net income from discontinued
operations 25,504 (122) 2,222 -- -- 27,604
Net income (loss) 50,272 782 2,123 3,115 (7,824) 48,468
Total assets from continuing
operations 4,412,651 3,770 5,753 147,845 8,116 4,578,135
Total intangibles from
continuing operations 32,269 12 4,860 1,809 21 38,971
21
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors
F.N.B. Corporation
We have reviewed the accompanying consolidated balance sheet of F.N.B.
Corporation and subsidiaries (F.N.B. Corporation) as of September 30, 2004, and
the related consolidated statements of income for the three-month and nine-month
periods ended September 30, 2004 and 2003, and the consolidated statements of
cash flows for the nine-month periods ended September 30, 2004 and 2003, and the
consolidated statement of stockholders' equity for the nine-month period ended
September 30, 2004. These financial statements are the responsibility of F.N.B.
Corporation's management.
We conducted our review in accordance with the standards of the Public Company
Accounting Oversight Board (United States). A review of interim financial
information consists principally of applying analytical procedures and making
inquiries of persons responsible for financial and accounting matters. It is
substantially less in scope than an audit conducted in accordance with the
standards of the Public Company Accounting Oversight Board, the objective of
which is the expression of an opinion regarding the financial statements taken
as a whole. Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that should
be made to the consolidated interim financial statements referred to above for
them to be in conformity with U.S. generally accepted accounting principles.
We have previously audited, in accordance with the standards of the Public
Company Accounting Oversight Board (United States), the consolidated balance
sheet of F.N.B. Corporation as of December 31, 2003, and the related
consolidated statements of income, shareholders' equity, and cash flows for the
year then ended and in our report dated February 24, 2004, we expressed an
unqualified opinion on those consolidated financial statements. In our opinion,
the information set forth in the accompanying consolidated balance sheet as of
December 31, 2003, is fairly stated, in all material respects, in relation to
the consolidated balance sheet from which it has been derived.
/s/ERNST & YOUNG LLP
November 9, 2004
22
PART I
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS.
Management's discussion and analysis represents an overview of the results
of operations and financial condition of the Corporation. This discussion and
analysis should be read in conjunction with the consolidated financial
statements and notes hereto.
IMPORTANT NOTE REGARDING FORWARD-LOOKING STATEMENTS
Certain statements in this Form 10-Q are "forward-looking" within the
meaning of the Private Securities Litigation Reform Act of 1995, which
statements generally can be identified by the use of forward-looking
terminology, such as "may," "will," "expect," "estimate," "anticipate,"
"believe," "target," "plan," "project" or "continue" or the negatives thereof or
other variations thereon or similar terminology, and are made on the basis of
management's plans and current analyses of the Corporation, its business and the
industry as a whole. These forward-looking statements are subject to risks and
uncertainties, including, but not limited to, economic conditions, competition,
interest rate sensitivity and exposure to regulatory and legislative changes.
The above factors in some cases have affected, and in the future could affect,
the Corporation's financial performance and could cause actual results to differ
materially from those expressed or implied in such forward-looking statements.
The Corporation does not undertake to publicly update or revise its
forward-looking statements even if experience or future changes make it clear
that any projected results expressed or implied therein will not be realized.
FINANCIAL INFORMATION SUMMARY
On January 1, 2004, the Corporation completed the spin-off of its Florida
operations into a separate, publicly traded company. As a result of the
spin-off, the Florida operations' 2003 earnings have been reclassified to
discontinued operations in the consolidated statement of income, and assets and
liabilities related to these discontinued operations have been disclosed
separately on the consolidated balance sheet for 2003.
Net income was $46.0 million for the first nine months of 2004 compared to
net income from continuing operations of $20.9 million for the first nine months
of 2003. Diluted earnings per share were $0.98 for the first nine months of 2004
compared to diluted earnings from continuing operations of $0.44 for the first
nine months of 2003. Net income for the first nine months of 2004 included an
after-tax gain on the sale of two branches of $2.7 million. Net income for the
first nine months of 2003 included after-tax restructuring charges of $20.0
million.
Common ratios for results of operations include the return on average
equity and the return on average assets. The Corporation's return on average
equity was 25.24% for the first nine months of 2004, while its return on average
assets was 1.31% for the same period.
CRITICAL ACCOUNTING POLICIES
The Corporation's significant accounting policies as described in the
"Notes to Consolidated Financial Statements" under "Summary of Significant
Accounting Policies" in the Corporation's 2003 Annual Report on Form 10-K filed
with the Securities and Exchange Commission remain unchanged.
23
FIRST NINE MONTHS OF 2004 AS COMPARED TO FIRST NINE MONTHS OF 2003:
The following table provides average balances and yields and rates on
interest earning assets and interest bearing liabilities (dollars in thousands):
Nine Months Ended September 30 2004 2003
------------------------------ ------------------------------
Average Yield/ Average Yield/
Balance Interest Rate Balance Interest Rate
----------- -------- ------ ----------- --------- ------
ASSETS
Interest earning assets:
Interest bearing deposits
with banks $ 1,203 $ 10 1.11% $ 3,536 $ 11 0.42%
Federal funds sold 29 -- 0.89 3,034 27 1.19
Short-term investments 1,134 -- -- -- -- --
Securities:
Taxable 971,181 31,295 4.30 715,942 22,727 4.24
Non-taxable (1) 75,835 3,008 5.30 133,878 6,779 6.77
Loans (1) (2) 3,241,571 154,908 6.38 3,226,967 166,959 6.92
---------- -------- ---------- ---------
Total interest earning assets 4,290,953 189,221 5.89 4,083,357 196,503 6.43
---------- -------- ---------- ---------
Cash and due from banks 98,986 98,670
Allowance for loan losses (47,161) (47,164)
Premises and equipment 76,890 80,375
Assets of discontinued operations -- 3,389,583
Other assets 254,483 238,682
---------- ----------
$4,674,151 $7,843,503
========== ==========
LIABILITIES
Interest bearing liabilities:
Deposits:
Interest bearing demand $ 830,560 $ 4,800 0.77 $ 776,681 $ 4,979 0.86
Savings 634,027 2,547 0.54 491,111 2,323 0.63
Other time 1,315,743 30,924 3.14 1,493,491 36,870 3.30
Repurchase agreements 125,080 875 0.93 91,586 780 1.14
Other short-term borrowings 239,977 4,274 2.38 246,320 4,909 2.66
Long-term debt 627,981 18,282 3.89 493,977 16,480 4.46
---------- -------- ---------- ---------
Total interest
bearing liabilities 3,773,368 61,702 2.18 3,593,166 66,341 2.47
---------- -------- ---------- ---------
Non-interest bearing,
demand deposits 590,137 568,766
Liabilities of discontinued
operations -- 3,006,064
Other liabilities 67,212 65,738
---------- ----------
4,430,717 7,233,734
---------- ----------
STOCKHOLDERS' EQUITY 243,434 609,769
---------- ----------
$4,674,151 $7,843,503
========== ==========
Net interest earning assets $ 517,585 $ 490,191
========== ==========
Net interest income $127,519 $ 130,162
======== =========
Net interest spread 3.71% 3.97%
==== ====
Net interest margin (3) 3.97% 4.26%
==== ====
(1) The amounts are reflected on a fully taxable equivalent basis using the
federal statutory tax rate of 35% adjusted for certain federal tax
preferences. The Corporation believes this measure to be the preferred
industry measurement of net interest income and provides relevant
comparison between taxable and non-taxable amounts.
(2) Average balance includes non-accrual loans. Loans consist of average total
loans less average unearned income. The amount of loan fees included in
interest income on loans is immaterial.
(3) Net interest margin is calculated by dividing the difference between total
interest earned and total interest paid by average interest earning
assets.
24
The following table sets forth certain information regarding changes in
net interest income attributable to changes in the volumes and rates of interest
earning assets and interest bearing liabilities for the nine months ended
September 30, 2004 as compared to the nine months ended September 30, 2003 (in
thousands):
Volume Rate Net
-------- --------- ---------
Interest Income:
Interest bearing deposits with banks $ (11) $ 10 $ (1)
Federal funds sold (22) (5) (27)
Securities (1) 5,718 (921) 4,797
Loans (1) 770 (12,821) (12,051)
-------- -------- --------
6,455 (13,737) (7,282)
-------- -------- --------
Interest Expense:
Deposits:
Interest bearing demand 346 (525) (179)
Savings 594 (370) 224
Other time (4,225) (1,721) (5,946)
Repurchase agreements 255 (160) 95
Other short-term borrowings (125) (510) (635)
Long-term debt 4,091 (2,289) 1,802
-------- -------- --------
936 (5,575) (4,639)
-------- -------- --------
Net Change $ 5,519 $ (8,162) $ (2,643)
======== ======== ========
(1) The amounts are reflected on a fully taxable equivalent basis using the
federal statutory tax rate of 35% adjusted for certain federal tax
preferences. The Corporation believes this measure to be the preferred
industry measurement of net interest income and provides relevant
comparison between taxable and non-taxable amounts.
(2) The amount of change not solely due to rate or volume changes was
allocated between the change due to rate and the change due to volume
based on the net size of the rate and volume changes.
During 2003, in order to help revive economic growth, the Federal Reserve
Board reduced its target federal funds rate to the lowest level in nearly 45
years. During the first and second quarter of 2003, concerns about continued
economic weakness and possible disinflation drove mid-term and long-term
treasury yields down significantly. This, in turn, sparked the refinancing of
mortgages in the Corporation's loan and mortgage-backed securities portfolios.
Thus, the lower interest rate levels experienced during 2003 and 2004
contributed to the decline in net interest margin as the yield on earning assets
declined by more than the rate on interest bearing liabilities. The impact of
future rate changes on the Corporation's net income is discussed further within
the "Liquidity and Interest Rate Sensitivity" section.
NET INTEREST INCOME
Net interest income, the Corporation's primary source of earnings, is the
amount by which interest and fees generated by interest earning assets,
primarily loans and securities, exceed interest expense on deposits and borrowed
funds. Net interest income totaled $125.7 million for the first nine months of
2004, as compared to $128.2 million for the first nine months of 2003. On a
fully taxable equivalent basis, net interest income totaled $127.5 million and
$130.2 million for these same periods, respectively. On a fully taxable
equivalent basis, net interest income consisted of interest income of $189.2
million and interest expense of $61.7 million for the first nine months of 2004
compared to $196.5 million and $66.3 million for each, respectively, for the
first nine
25
months of 2003. The Corporation's net interest margin decreased 29 basis points
to 3.97% for the nine months ended September 30, 2004 as compared to 4.26% for
the nine months ended September 30, 2003.
Total interest income, on a fully taxable equivalent basis, decreased $7.3
million or 3.7% for the first nine months of 2004, as compared to the first nine
months of 2003. This decrease was the result of lower yield, partially offset by
higher average earning assets. The impact of the lower yield was $13.8 million
while the impact of higher average earning assets was $6.5 million. The decrease
in yield was caused primarily by loan refinancing activity and scheduled
repricing of adjustable rate loans to lower market rates, coupled with
prepayments of mortgage-backed securities. Average earning assets increased by
$207.6 million or 5.1% from the first nine months of 2003 to the first nine
months of 2004. This growth was primarily due to an increase of $197.2 million
in average investment securities coupled with an increase of $14.6 million in
average loans outstanding. Average commercial, direct installment and consumer
lines of credit increased a combined $246.9 million from the first nine months
of 2003, while planned reductions in average indirect installment, residential
mortgages and automobile lease financing combined for a decrease of $232.3
million over this same period. This shift in loan mix is the result of the
Corporation's strategic initiative to improve asset quality and fee income while
focusing on more advantageous loan originations consistent with relationship
lending.
Total interest expense decreased $4.6 million or 7.0% for the first nine
months of 2004, as compared to the first nine months of 2003. This decrease was
driven primarily by the lower rate paid on interest bearing liabilities,
partially offset by an increase in average interest bearing liabilities to fund
the growth in earning assets. The impact of a lower rate paid was $5.6 million
while the impact of higher average interest bearing liabilities was $936,000.
The decrease in rates paid was driven primarily by actions taken by the
Corporation to reduce rates paid on deposits and a reduction in the cost of
debt, which was the result of the early retirement of FHLB borrowings during the
third quarter of 2003. Average balances for total deposits and repurchase
agreements combined increased by $73.9 million for the first nine months of 2004
as compared to the same period of 2003, primarily due to increases of $53.9
million in interest bearing demand, $142.9 million in savings, $33.5 million in
repurchase agreements and $21.3 million in non-interest bearing demand deposits,
partially offset by a decrease of $177.7 million in other time deposits. The
average balance for long-term debt increased by $134.0 million, while the
average balance for other short-term borrowings decreased by $6.3 million for
the nine months ended September 30, 2004 as compared to the nine months ended
September 30, 2003.
PROVISION FOR LOAN LOSSES
The provision for loan losses was $11.8 million for the first nine months
of 2004, as compared to $12.3 million for the first nine months of 2003. Credit
quality improved during 2004 as evidenced by a decrease of 7 basis points in
annualized net charge-offs to average loans to .48% for the first nine months of
2004. Additionally, non-performing loans to total loans decreased 9 basis points
to .81% as of September 30, 2004, while non-performing assets to total assets
decreased 6 basis points to .65% as of September 30, 2004. The allowance for
loan losses as a percentage of total loans increased slightly to 1.43% at
September 30, 2004 from 1.42% at September 30, 2003.
26
NON-INTEREST INCOME
Total non-interest income was $56.9 million for the first nine months of
2004, as compared to $52.4 million for the same period of 2003. The first nine
months of 2004 included a gain on the sale of two branches totaling $4.1
million. The Corporation's combined income from insurance and securities
commissions and fees increased $1.4 million or 13.6% to $11.8 million for the
nine months ended September 30, 2004, as compared to the nine months ended
September 30, 2003. The largest contributor to the fee income increase was the
addition of Morrell, Butz and Junker, Inc. during the third quarter of 2004.
Separately, the Corporation changed its accounting method for Sun Bancorp, Inc.
to cost basis of accounting and moved 56% of its investment in Sun Bancorp, Inc.
to trading securities. In conjunction with this transfer, the Corporation
recognized a $1.2 million gain due to the market value being higher than book
value at the end of the third quarter of 2004. Partially offsetting these
increases, gain on the sale of mortgage loans decreased $1.1 million due to a
lower volume of mortgage loan originations as higher interest rates in 2004 have
led to a slowdown in mortgage refinancing activity.
NON-INTEREST EXPENSE
Total non-interest expense was $104.0 million for the first nine months of
2004, as compared to $141.1 million for the first nine months of 2003. Total
non-interest expense for the first nine months of 2003 included $30.4 million in
restructuring costs directly related to the spin-off of the Florida operations.
In addition, the Corporation reduced expenses by $6.7 million or 6.1% for the
first nine months of 2004, as compared to the same period of 2003. This
improvement is a result of the Corporation's successful completion of expense
reductions attributable to the spin-off of its Florida operations. The
efficiency ratio for the first nine months of 2004 was 55.49%, which included a
benefit of 1.89% from the gain on sale of branches.
INCOME TAXES
The Corporation's income tax expense was $20.9 million for the first nine
months of 2004 compared to $6.3 million for the same period of 2003. The
effective tax rate of 31.3% for the nine months ended September 30, 2004 was
lower than the 35.0% federal statutory tax rate due to the tax benefits
resulting from tax-exempt instruments and excludable dividend income. The
effective tax rate for the nine months ended September 30, 2003 was 23.1%, which
included a 5.8% impact related to pre-tax restructuring charges of $30.4
million.
27
THIRD QUARTER OF 2004 AS COMPARED TO THIRD QUARTER OF 2003:
The following table provides average balances and yields and rates on
interest earning assets and interest bearing liabilities (dollars in thousands):
Quarter Ended September 30 2004 2003
----------------------------- ----------------------------
Average Yield/ Average Yield/
Balance Interest Rate Balance Interest Rate
---------- -------- ------ ---------- -------- ------
ASSETS
Interest earning assets:
Interest bearing deposits
with banks $ 1,452 $ 5 1.37% $ 1,626 $ 15 3.66%
Short-term investments 3,378 -- -- -- -- --
Securities:
Taxable 1,054,151 11,528 4.35 779,948 7,428 3.78
Non-taxable (1) 81,306 1,038 5.08 125,136 2,093 6.64
Loans (1) (2) 3,229,363 51,964 6.40 3,247,642 53,924 6.59
---------- -------- ---------- ------
Total interest earning assets 4,369,650 64,535 5.88 4,154,352 63,460 6.06
---------- -------- ---------- ------
Cash and due from banks 99,981 99,381
Allowance for loan losses (46,960) (46,932)
Premises and equipment 75,191 82,436
Assets of discontinued operations -- 3,667,069
Other assets 255,447 234,196
---------- ----------
$4,753,309 $8,190,502
========== ==========
LIABILITIES
Interest bearing liabilities:
Deposits:
Interest bearing demand $ 868,598 $ 1,988 0.91 $ 858,842 $ 1,946 0.90
Savings 599,753 787 0.52 470,918 661 0.56
Other time 1,325,421 10,491 3.15 1,426,982 11,665 3.24
Repurchase agreements 129,770 353 1.08 102,283 202 0.78
Other short-term borrowings 219,531 2,179 3.95 294,098 1,924 2.60
Long-term debt 691,806 6,085 3.50 542,303 5,474 4.00
---------- -------- ---------- -------
Total interest
bearing liabilities 3,834,879 21,883 2.27 3,695,426 21,872 2.35
---------- -------- ---------- -------
Non-interest bearing,
demand deposits 607,352 580,979
Liabilities of discontinued
operations -- 3,218,166
Other liabilities 64,218 87,256
---------- ----------
4,506,449 7,581,827
---------- ----------
STOCKHOLDERS' EQUITY 246,860 608,675
---------- ----------
$4,753,309 $8,190,502
========== ==========
Net interest earning assets $ 534,771 $ 460,639
========== ==========
Net interest income $ 42,652 $41,588
======== =======
Net interest spread 3.61% 3.71%
===== ====
Net interest margin (3) 3.88% 3.97%
===== ====
(1) The amounts are reflected on a fully taxable equivalent basis using the
federal statutory tax rate of 35% adjusted for certain federal tax
preferences. The Corporation believes this measure to be the preferred
industry measurement of net interest income and provides relevant
comparison between taxable and non-taxable amounts.
(2) Average balance includes non-accrual loans. Loans consist of average total
loans less average unearned income. The amount of loan fees included in
interest income on loans is immaterial.
(3) Net interest margin is calculated by dividing the difference between total
interest earned and total interest paid by average interest earning
assets.
28
The following table sets forth certain information regarding changes in
net interest income attributable to changes in the volumes and rates of interest
earning assets and interest bearing liabilities for the quarter ended September
30, 2004 as compared to the quarter ended September 30, 2003 (in thousands):
Volume Rate Net
-------- -------- --------
Interest Income:
Interest bearing deposits with banks $ (1) $ (9) $ (10)
Securities (1) 2,238 807 3,045
Loans (1) (320) (1,640) (1,960)
------- ------- -------
1,917 (842) 1,075
------- ------- -------
Interest Expense:
Deposits:
Interest bearing demand 21 21 42
Savings 175 (49) 126
Other time (845) (329) (1,174)
Repurchase agreements 62 89 151
Other short-term borrowings (572) 827 255
Long-term debt 1,358 (747) 611
------- ------- -------
199 (188) 11
------- ------- -------
Net Change $ 1,718 $ (654) $ 1,064
======= ======= =======
(1) The amounts are reflected on a fully taxable equivalent basis using the
federal statutory tax rate of 35% adjusted for certain federal tax
preferences. The Corporation believes this measure to be the preferred
industry measurement of net interest income and provides relevant
comparison between taxable and non-taxable amounts.
(2) The amount of change not solely due to rate or volume changes was
allocated between the change due to rate and the change due to volume
based on the net size of the rate and volume changes.
NET INTEREST INCOME
During the third quarter of 2004, net interest income of $42.1 million
increased $1.1 million or 2.6% from the same period last year. Net interest
income, on a fully taxable equivalent basis was $42.7 million for the third
quarter of 2004 compared to $41.6 million for the third quarter of 2003. While
the Corporation's net interest margin decreased 9 basis points to 3.88% in the
third quarter of 2004, earning assets increased $213.6 million or 5.1% from the
same period last year.
Total interest income, on a fully taxable equivalent basis, of $64.5
million for the third quarter of 2004 increased $1.1 million or 1.7% from the
same period last year. Average earning assets of $4.4 billion for the third
quarter of 2004 increased $215.3 million or 5.2%, as compared to the third
quarter of 2003, primarily driven by growth in the investment security
portfolio. This increase was partially offset by a lower interest rate
environment in 2004 as compared to 2003 which led to lower yields earned on
loans. Partially offsetting the decrease in yield, total average loans decreased
$18.0 million or .6% from the third quarter of 2003 to the third quarter of
2004. Average commercial, direct installment and consumer lines of credit grew a
combined $200.0 million or 9.3%, while average indirect loans, mortgage loans
and automobile leases decreased a combined $218.3 million or 20.1% from the
third quarter of 2003 to the third quarter of 2004. These strategic changes in
the Corporation's loan mix are designed to improve asset quality, generate fee
income and focus on more advantageous loan originations consistent with interest
rate risk management and relationship lending.
29
Total interest expense remained constant at $21.9 million for both the
third quarter of 2004 and 2003, however, the cost of funds decreased to 2.27% in
the third quarter of this year from 2.35% in the same period last year. This
decrease was a direct result of the Corporation's efforts to reduce rates paid
on non-maturity deposits coupled with customers re-investing funds into lower
rate certificates of deposit. In addition, the Corporation prepaid $220.3
million higher rate FHLB borrowings in the third quarter of 2003.
PROVISION FOR LOAN LOSSES
The provision for loan losses totaled $3.6 million for the third quarter
of 2004, as compared to $4.3 million for the third quarter of 2003. Credit
quality improved during the third quarter of 2004 as evidenced by a decrease of
12 basis points in annualized net charge-offs to average loans to .43% for the
third quarter of 2004. Additionally, non-performing loans to total loans
decreased 9 basis points to .81% for the third quarter of 2004, while
non-performing assets to total assets decreased 6 basis points to .65% for this
same period.
NON-INTEREST INCOME
Non-interest income of $18.8 million for the third quarter of 2004
increased $1.2 million or 6.8% from the third quarter of 2003. This increase is
primarily due to the Corporation changing its accounting method for its
investment in Sun Bancorp, Inc. to the cost basis of accounting and moving 56%
of its investment to trading securities. In conjunction with this transfer, the
Corporation recognized a $1.2 million gain due to the market value being higher
than book value at the end of the third quarter of 2004. Insurance commissions
and fees increased to $3.3 million in the third quarter of 2004 from $2.4
million in the third quarter of 2003, primarily as a result of the Morrell, Butz
and Junker, Inc. acquisition during the third quarter of 2004. Partially
offsetting these increases was a $597,000 lower gain on the sale of mortgage
loans due to a lower volume of mortgage loan originations as higher interest
rates in 2004 have led to a slowdown in mortgage loan refinancing.
NON-INTEREST EXPENSE
Non-interest expense of $35.9 million in the third quarter of 2004
decreased $31.6 million or 46.8% from the same period last year. The Corporation
incurred $30.4 million in restructuring costs directly related to the spin-off
of the Florida operations during the third quarter of 2003. Non-interest expense
decreased $2.4 million from the third quarter of 2003 to the third quarter of
2004, primarily due to the cost reduction initiative implemented in the later
part of 2003 in anticipation of the spin-off. Partially offsetting the decrease
in non-interest expense for the third quarter of 2004 were a $1.2 million charge
for the early extinguishment of $46.0 million of higher cost FHLB debt, $700,000
in additional expenses related to the acquisitions of Morrell, Butz and Junker,
Inc. in the third quarter of 2004 and eight finance company offices during the
second quarter of 2004 and a $300,000 increase in certain employee benefit
related expenses driven by an increase in the Corporation's stock price.
INCOME TAXES
The Corporation's income tax expense was $6.7 million for the third
quarter of 2004 compared to a benefit of $5.4 million for the same period of
2003. The tax benefit for the third quarter of 2003 was a direct result of
pre-tax restructuring charges of $30.4
30
million relating to the spin-off of the Corporation's Florida operations. The
effective tax rate for the third quarter of 2004 was 31.3%, as compared to a
(40.7)% benefit for the third quarter of 2003. The third quarter of 2003
included an 11.6% impact related to the restructuring charges.
LIQUIDITY
The Corporation's goal in liquidity management is to meet the cash flow
requirements of depositors and borrowers as well as the operating cash needs of
the Corporation, with cost-effective funding. Liquidity is centrally managed on
a daily basis by treasury personnel. In addition, the Corporate Asset/Liability
Committee (ALCO), which includes members of executive management, reviews
liquidity on a periodic basis and approves significant changes in strategies
which affect balance sheet or cash flow positions. The Board of Directors has
established an Asset/Liability Policy in order to achieve and maintain earnings
performance consistent with long-term goals while maintaining acceptable levels
of interest rate risk, a "well-capitalized" balance sheet (as defined by the
applicable federal banking regulations) and adequate levels of liquidity. This
policy designates the ALCO as the body responsible for meeting this objective.
Liquidity sources from assets include payments from loans and investments
as well as the ability to securitize or sell loans and investment securities.
The Corporation continues to originate mortgage loans, most of which are resold
in the secondary market. Proceeds from the sale of mortgage loans totaled $73.9
million for the first nine months of 2004.
Liquidity sources from liabilities are generated primarily through
deposits. As of September 30, 2004, deposits comprised 76.5% of total
liabilities. To a lesser extent, the Corporation also makes use of wholesale
sources which include federal funds purchased, repurchase agreements and public
funds. In addition, the banking affiliate has the ability to borrow funds from
the FHLB. FHLB advances are a competitively priced and reliable source of funds.
The Corporation has made use of FHLB advances and has a large reserve available
for contingency funding purposes. As of September 30, 2004, outstanding advances
were $485.3 million, or 10.3% of total assets, while FHLB availability was $1.7
billion, or 35.6% of total assets.
The principal source of cash for the parent company is dividends from its
subsidiaries. The parent also has approved lines of credit with several major
domestic banks totaling $101.0 million, which were unused as of September 30,
2004. The Corporation also issues subordinated debt on a regular basis and its
banking affiliate has access to the Federal Reserve Bank as well as access to
the capital markets.
The Corporation has repurchased shares of its common stock for re-issuance
under various employee benefit plans and the Corporation's dividend reinvestment
plan since 1991. In addition, the Corporation has repurchased shares for
specific re-issuance in connection with certain business combinations accounted
for as purchase transactions. During the first nine months of 2004 and 2003, the
Corporation purchased 803,844 and 1,122,575 treasury shares totaling $16.6
million and $34.1 million, respectively, and re-issued 774,127 and 1,077,231
treasury shares totaling $16.3 million and $31.6 million, respectively.
The ALCO regularly monitors various liquidity ratios and forecasts of cash
position. Management believes the Corporation has sufficient liquidity available
to meet its normal operating and contingency funding cash needs.
31
INTEREST RATE SENSITIVITY
The financial performance of the Corporation is at risk from interest rate
fluctuations. This interest rate risk arises due to differences between the
amount of interest earning assets and interest bearing liabilities subject to
repricing over a period of time, the change in the shape of the yield curve and
the prepayment and early redemption opportunities embedded in certain financial
instruments. The Corporation utilizes an asset/liability model to support its
balance sheet strategies. The Corporation uses gap analysis, net interest income
simulations and the economic value of equity (EVE) to measure its interest rate
risk.
Gap and EVE are static measures which do not incorporate assumptions
regarding future business. Gap, while a helpful diagnostic tool, displays cash
flows for only a single rate environment. EVE's long term horizon helps identify
changes in optionality and longer-term positions. However, EVE's liquidation
perspective does not translate into the earnings based measures that are the
focus of managing and valuing a going concern. Net interest income simulations
explicitly measure the exposure to earnings from changes in market rates of
interest. The Corporation's current financial position is combined with
assumptions regarding future business to calculate net interest income under
various hypothetical rate scenarios. The ALCO reviews earnings simulations over
multiple years under various interest rate scenarios. The following measures
include the effect of the merger with First National Bank of Slippery Rock.
The following gap analysis compares the difference between the amount of
interest earning assets and interest bearing liabilities subject to repricing
over a period of time. The ratio of rate sensitive assets to rate sensitive
liabilities repricing within a one year period was 1.01 and .80 for the current
period of 2004 and 2003, respectively. A ratio of more than one indicates a
higher level of repricing assets over repricing liabilities over the next twelve
months.
Following is the gap analysis for the current period (dollars in
thousands):
Within 2-3 4-6 7-12 Total
1 Month Months Months Months 1 Year
----------- ----------- ----------- ---------- ----------
INTEREST EARNING ASSETS (IEA)
Loans $ 756,323 $ 172,363 $ 261,030 $ 430,489 $1,620,205
Investments 43,907 30,068 81,729 99,331 255,035
---------- ---------- ---------- ---------- ----------
$ 800,230 $ 202,431 $ 342,759 $ 529,820 $1,875,240
INTEREST BEARING LIABILITIES (IBL)
Non-maturity deposits $ 614,319 $ 614,319
Time deposits 86,595 $ 139,095 $ 269,217 $ 326,998 821,905
Borrowings 225,978 142,031 18,219 37,420 423,648
---------- ---------- ---------- ---------- ----------
$ 926,892 $ 281,126 $ 287,436 $ 364,418 $1,859,872
GAP:
Period $ (126,662) $ (78,695) $ 55,323 $ 165,402 $ 15,368
========== ========== ========== ========== ==========
Cumulative $ (126,662) $ (205,357) $ (150,034) $ 15,368
========== ========== ========== ==========
IEA/IBL (CUMULATIVE) .86 .83 .90 1.01
========== ========== ========== ==========
CUMULATIVE GAP TO IEA (2.72) (4.42) (3.23) .33
========== ========== ========== ==========
32
The allocation of non-maturity deposits to the one-month maturity bucket
is based on the estimated sensitivity of each product to changes in market
rates. For example, if a product's rate is estimated to increase by 50% as much
as the market rates, then 50% of the account balance was placed in this bucket.
The following table presents an analysis of the potential sensitivity of
the Corporation's annual net interest income and EVE to sudden and parallel
changes (shocks) in market rates versus if rates remained unchanged from the
current period of 2004, as compared to the same period of 2003:
2004 2003
------- ------
Net interest income change (12 months):
+ 100 basis points .4 % (1.8)%
- 100 basis points (3.1)% (2.3)%
Economic value of equity:
+ 100 basis points (3.9)% (2.7)%
- 100 basis points (11.1)% (8.1)%
The Corporation's ALCO is responsible for the identification and
management of interest rate risk exposure. As such, the Corporation continuously
evaluates strategies to minimize its exposure to interest rate fluctuations. In
order to help mitigate the effect of rising interest rates, the ALCO has
transacted strategies during 2004 including limiting the length of terms of
securities acquired, promoting long-term certificates of deposit, locking
long-term wholesale funds through the FHLB and selling fixed rate mortgages. In
addition, First National Bank of Slippery Rock's "asset-sensitive" balance sheet
contributed to positioning the Corporation more favorably for interest rates.
The measures identified above are well within the Corporation's Asset/Liability
Policy.
The Corporation recognizes that earnings simulation models are based on
methodologies which may have inherent shortcomings. Further, earnings
simulations require certain assumptions be made, such as prepayment rates on
earnings assets and pricing impact on non-maturity deposits, and may differ from
actual experience. These business assumptions are based upon the Corporation's
experience, business plans and published industry experience. While management
believes such assumptions to be reasonable, there can be no assurances that
modeled results will approximate actual results.
33
DEPOSITS AND REPURCHASE AGREEMENTS
Following is a summary of deposits and repurchase agreements (in
thousands):
SEPTEMBER 30, DECEMBER 31,
2004 2003
------------- ------------
Non-interest bearing $ 612,347 $ 592,795
Savings and NOW 1,495,621 1,513,526
Certificates and other time deposits 1,316,509 1,333,189
---------- ----------
Total deposits 3,424,477 3,439,510
Securities sold under repurchase agreements 134,143 81,444
---------- ----------
Total deposits and repurchase agreements $3,558,620 $3,520,954
========== ==========
Total deposits and repurchase agreements increased $37.7 million from
December 31, 2003 to September 30, 2004. In February 2004, the Corporation sold
$39.9 million in deposits associated with the divestiture of two branches in
non-strategic locations. The deposits sold were comprised of $6.1 million, $11.4
million and $22.4 million in non-interest bearing, savings and NOW and
certificates of deposits, respectively. In addition, deposits grew $24.9 million
from December 31, 2003, primarily in the more desirable core deposit categories.
Repurchase agreements, mostly with the Corporation's commercial customers,
increased $52.7 million as the Corporation was successful in attracting new
customers and expanding existing relationships at favorable interest rates. This
strategy allows for the Corporation to expand commercial relationships by
providing additional valuable services and information to its customers.
LOANS
Following is a summary of loans (in thousands):
SEPTEMBER 30, DECEMBER 31,
2004 2003
------------- ------------
Commercial $1,336,979 $1,297,559
Direct installment 795,394 776,716
Consumer line of credit 241,122 229,005
Residential mortgages 429,846 468,173
Indirect installment 407,809 452,170
Lease financing 5,865 16,594
Other 2,720 18,980
---------- ----------
$3,219,735 $3,259,197
========== ==========
The Corporation's loan portfolio consists principally of loans to
individuals and small- and medium-sized businesses within the Corporation's
primary market area of western and central Pennsylvania and northeastern Ohio.
Additionally, the portfolio contains consumer finance loans to individuals in
Pennsylvania, Ohio and Tennessee.
Total loans decreased $39.5 million from December 31, 2003 to September
30, 2004. This decrease was driven by planned reductions in indirect
installment, residential mortgages and automobile lease financing, which
decreased $44.5 million, $38.3 million and $10.7 million, respectively, for a
combined decrease of $93.5 million or 10.0% from December 31, 2003. Partially
offsetting these tactical reductions were increases in more desirable segments
of the loan portfolio. Commercial, direct installment and consumer
34
lines of credit increased by $39.4 million, $18.7 million and $12.1 million,
respectively, for a combined increase of $70.2 million or 3.1% from December 31,
2003. These strategic initiatives are designed to improve asset quality and fee
income while focusing attention on more advantageous loan originations
consistent with relationship lending.
NON-PERFORMING ASSETS
Non-performing assets include non-performing loans, both non-accrual and
restructured, and other real estate owned. Non-accrual loans represent loans on
which interest accruals have been discontinued. Restructured loans are loans in
which the borrower has been granted a concession on the interest rate or the
original repayment terms due to financial distress.
It is the Corporation's policy to discontinue interest accruals when
principal or interest is due and has remained unpaid for 90 to 180 days or more
depending on the loan type unless the loan is both well-secured and in the
process of collection. When a loan is placed on non-accrual status, all unpaid
interest is reversed. Non-accrual loans may not be restored to accrual status
until all delinquent principal and interest has been paid.
Non-performing loans are closely monitored on an ongoing basis as part of
the Corporation's loan review and work-out process. The potential risk of loss
on these loans is evaluated by comparing the loan balance to the fair value of
any underlying collateral or the present value of projected future cash flows.
Losses are recognized where appropriate.
Following is a summary of non-performing assets (2003 information based on
continuing operations)(dollars in thousands):
SEPTEMBER 30, DECEMBER 31,
2004 2003
------------- ------------
Non-performing assets:
Non-accrual loans $20,496 $22,449
Restructured loans 5,741 5,719
------- -------
Total non-performing loans 26,237 28,168
Other real estate owned 4,507 3,109
------- -------
Total non-performing assets $30,744 $31,277
======= =======
Asset quality ratios:
Non-performing loans as percent of total loans .81% .86%
Non-performing assets as percent of total assets .65% .69%
35
ALLOWANCE FOR LOAN LOSSES
The allowance for loan losses represents management's estimate of probable
loan losses inherent in the loan portfolio at a specific point in time. This
estimate includes losses associated with specifically identified loans, as well
as estimated probable credit losses inherent in the remainder of the loan
portfolio. Additions are made to the allowance through both periodic provisions
charged to income and recoveries of losses previously incurred. Reductions to
the allowance occur as loan losses are recognized and loans are charged off.
Management evaluates the adequacy of the allowance at least quarterly, and in
doing so relies on various factors including, but not limited to, assessment of
historical loss experience, delinquency and non-accrual trends, portfolio
growth, underlying collateral coverage and current economic conditions.
Naturally, this evaluation is subjective and requires material estimates that
may change over time.
The components of the allowance for loan losses represent estimates based
upon FAS 5, Accounting for Contingencies, and FAS 114, Accounting by Creditors
for Impairment of a Loan. FAS 5 applies to smaller balance homogeneous loan
pools such as consumer installment, residential mortgages and consumer lines of
credit, as well as commercial loans that are not individually evaluated for
impairment under FAS 114. FAS 114 is applied to larger balance commercial loans
that are considered impaired.
Under FAS 114, a loan is impaired when, based upon current information and
events, it is probable that the loan will not be repaid according to its
contractual terms, including both principal or interest. Management performs
individual assessments of impaired loans to determine the existence of loss
exposure and, where applicable, the extent of loss exposure based upon the
present value of expected future cash flows available to pay the loan, or based
upon the estimated realizable collateral where a loan is collateral dependent.
Commercial loans excluded from FAS 114 individual impairment analysis are
collectively evaluated by management to estimate reserves for loan losses
inherent in those loans in accordance with FAS 5.
In estimating loan loss contingencies, management applies historical loss
rates and also considers how the loss rates may be impacted by changes in
current economic conditions, delinquency and non-performing loan trends, changes
in loan underwriting guidelines and credit policies, as well as the results of
internal loan reviews. Smaller balance homogeneous loan pools are evaluated
using similar criteria that are based upon historical loss rates of various loan
types. Historical loss rates are adjusted to incorporate changes in existing
conditions that may impact, both positively or negatively, the degree to which
these loss histories may vary.
This determination inherently involves a high degree of uncertainty and
considers current risk factors that may not have occurred in the Corporation's
historical loss experience.
36
Following is a summary of changes in the allowance for loan losses and
selected ratios (dollars in thousands):
Three Months Ended Nine Months Ended
September 30, September 30,
------------------ --------------------
2004 2003 2004 2003
-------- -------- --------- ---------
Balance at beginning of period $46,099 $46,330 $ 46,139 $ 46,984
Reduction due to loan sale -- -- (54) --
Charge-offs (3,996) (5,090) (13,495) (14,816)
Recoveries 478 597 1,749 1,639
------- ------- ------- ---------
Net charge-offs (3,518) (4,493) (11,746) (13,177)
Provision for loan losses 3,570 4,285 11,812 12,315
------- ------- ------- ---------
Balance at end of period $46,151 $46,122 $ 46,151 $ 46,122
======= ======= ======= =========
Allowance for loan losses to:
Total loans, net of unearned income 1.43% 1.42%
Non-performing loans 175.90% 156.81%
Annualized net charge-offs to
average loans 0.43% 0.55% 0.48% 0.55%
Consumer installment loans are generally charged off against the allowance
for loan losses upon reaching 90 to 180 days past due, depending on the
installment loan type. Commercial loan charge-offs, either in whole or in part,
are generally made as soon as facts and circumstances raise a serious doubt as
to the collectibility of all or a portion of the principal.
CAPITAL RESOURCES AND REGULATORY MATTERS
The assessment of capital adequacy depends on a number of factors such as
asset quality, liquidity, earnings performance, changing competitive conditions
and economic forces. The Corporation seeks to maintain a strong capital base to
support its growth and expansion activities, provide stability to current
operations and promote public confidence.
The Corporation has an existing registration statement for the
Corporation's subordinated notes which are issued through its finance company,
Regency Finance Company (Regency). The net proceeds from the issuance of the
subordinated notes are used to finance Regency's lending and purchasing
activities. In addition, the Corporation has an effective $200.0 million shelf
registration with the Securities and Exchange Commission. The Corporation may,
from time to time, issue any combination of common stock, preferred stock, debt
securities or trust preferred securities in one or more offerings.
Quantitative measures established by regulators to ensure capital adequacy
require the Corporation and its banking subsidiary to maintain minimum amounts
and ratios of total and tier 1 capital (as defined in applicable federal banking
regulations) to risk-weighted assets (as defined in such regulations) and of
tier 1 capital to average assets (as defined in such regulations).
As of June 30, 2004, the Corporation and its banking subsidiary have been
categorized by the various banking regulators as "well capitalized" under the
regulatory framework for prompt corrective action. As of September 30, 2004, the
Corporation and its banking subsidiary meet all capital adequacy requirements to
which they are subject.
37
Following are capital ratios as of September 30, 2004 for the Corporation
(dollars in thousands):
Well Capitalized Minimum Capital
Actual Requirements Requirements
--------------- ---------------- ---------------
Amount Ratio Amount Ratio Amount Ratio
-------- ----- -------- ----- -------- -----
Total Capital $381,887 11.9% $321,791 10.0% $257,433 8.0%
(to risk-weighted assets)
Tier 1 Capital 288,624 9.0% 193,075 6.0% 128,716 4.0%
(to risk-weighted assets)
Tier 1 Capital 288,624 6.1% 235,334 5.0% 188,268 4.0%
(to average assets)
The Corporation and its banking subsidiary are subject to various
regulatory capital requirements administered by the federal banking agencies.
Failure to meet minimum capital requirements can initiate certain mandatory, and
possibly additional discretionary actions by regulators that, if undertaken,
could have a direct material effect of the Corporation's financial statements.
Under capital adequacy guidelines and the regulatory framework for prompt
corrective action, the Corporation and its banking subsidiary must meet specific
capital guidelines that involve quantitative measures of assets, liabilities and
certain off-balance sheet items as calculated under regulatory accounting
practices. The Corporation's and banking subsidiary's capital amounts and
classifications are also subject to qualitative judgments by the regulators
about components, risk weightings and other factors.
38
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
The information called for by this item is provided under the caption
"Liquidity and Interest Rate Sensitivity" under Item 2 - Management's Discussion
and Analysis of Financial Condition and Results of Operations.
ITEM 4. CONTROLS AND PROCEDURES.
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES. The Corporation's Chief
Executive Officer (CEO) and Chief Financial Officer (CFO) have concluded that
the Corporation's disclosure controls and procedures (as defined in Rules 13a -
15(e) and 15d - 15(e) under the Securities and Exchange Act of 1934, as
amended), based on their evaluation of these controls and procedures as of the
end of the period covered by this Form 10-Q, were effective as of such date at
the reasonable assurance level as discussed below to ensure that information
required to be disclosed by the Corporation in the reports it files under the
Securities Exchange Act of 1934, as amended, is recorded, processed, summarized
and reported within the time periods specified in the rules and forms of the
Securities and Exchange Commission and that such information is accumulated and
communicated to the Corporation's management, including its principal executive
officer and principal financial officer, as appropriate to allow timely
decisions regarding required disclosure.
LIMITATIONS ON THE EFFECTIVENESS OF CONTROLS. The Corporation's
management, including the CEO and CFO, does not expect that the Corporation's
disclosure controls and internal controls will prevent all errors and all fraud.
A control system, no matter how well conceived and operated, can provide only
reasonable, not absolute assurance that the objectives of the control system are
met. Because of the inherent limitations in all control systems, no evaluation
of controls can provide absolute assurance that all control issues and instances
of fraud, if any, within the Corporation have been detected. These inherent
limitations include the realities that judgements in decision-making can be
faulty, and that breakdowns can occur because of simple error or mistake.
Additionally, controls can be circumvented by the individual acts of some
persons, by collusion of two or more people, or by management override of the
controls.
CHANGES IN INTERNAL CONTROLS. The CEO and CFO have evaluated the changes
to the Corporation's internal controls over financial reporting that occurred
during the Corporation's fiscal quarter ended September 30, 2004, as required by
paragraph (d) of Rules 13a - 15 and 15d - 15 under the Securities Exchange Act
of 1934, as amended, and have concluded that there were no such changes that
materially affected, or are reasonably likely to materially affect, the
Corporation's internal controls over financial reporting.
39
PART II
ITEM 1. LEGAL PROCEEDINGS
The Corporation and persons to whom the Corporation may have
indemnification obligations, in the normal course of business, are subject
to various pending and threatened lawsuits in which claims for monetary
damages are asserted. Should the outcome of the pending or threatened
lawsuits be adverse, the value of the property will be impaired and other
costs may be incurred. Management, after consultation with outside legal
counsel, does not at the present time anticipate the ultimate liability
arising out of such pending and threatened lawsuits will have a material
adverse effect on the Corporation's financial position. At the present
time, management is not in a position to determine whether any pending or
threatened litigation will have a material adverse effect on the
Corporation's results of operation in any future reporting period.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
The following table provides information about purchases of equity
securities by the Corporation during the quarter ended September 30, 2004:
ISSUER PURCHASES OF EQUITY SECURITIES (1)
Total Number
of Shares Maximum Number
Total Purchased as of Shares that May
Number Average Part of Publicly Yet Be Purchased
of Shares Price Paid Announced Plans Under the
Period Purchased Per Share or Programs Plans or Programs
- ------------------ --------- ---------- ---------------- ------------------
July 1-31, 2004 54,000 $20.19 N/A N/A
August 1-31, 2004 42,000 20.30 N/A N/A
September 1-30, 2004 74,800 22.29 N/A N/A
(1) All shares were purchased in open-market transactions, and were not
purchased as part of a publicly announced purchase plan or program.
The Corporation has funded the shares required for employee benefit
plans and the Corporation's dividend reinvestment plan through
open-market transactions or purchases directed from the Corporation.
This practice may be discontinued at the Corporation's discretion.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not applicable
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable
ITEM 5. OTHER INFORMATION
Not applicable
40
ITEM 6. EXHIBITS
(a) Exhibits
2.1. Amendment and Plan of Merger dated as of October 14, 2004,
between F.N.B. Corporation and NSD Bancorp, Inc. (incorporated
herein by reference and filed as Exhibit 2.1. to the Report on
Form 8-K filed by NSD Bancorp, Inc. on October 18, 2004).
31.1. Rule 13a-14(a)/15(d) - 14(a) Certification of Chief Executive
Officer. (filed herewith).
31.2. Rule 13a-14(a)/15(d) - 14(a) Certification of Chief Financial
Officer. (filed herewith).
32.1. Section 1350 Certification of Chief Executive Officer. (filed
herewith).
32.2. Section 1350 Certification of Chief Financial Officer. (filed
herewith).
41
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
F.N.B. Corporation
-------------------------------------
(Registrant)
Dated: November 9, 2004 /s/ Stephen J. Gurgovits
-------------------------------------
Stephen J. Gurgovits
President and Chief Executive Officer
(Principal Executive Officer)
Dated: November 9, 2004 /s/ Brian F. Lilly
------------------------------------
Brian F. Lilly
Chief Financial Officer
(Principal Financial Officer)
42