CHITTENDEN CORP /VT/ - 10-Q Quarterly Report

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SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

X Quarterly Report Pursuant to Section 13 or 15(d)

of the Securities Exchange Act of 1934

For Three Months Ended September 30, 2002

Transition Report Pursuant to Section 13 or 15(d)

of the Securities Exchange Act of 1934

For the transition period from _____________ to _____________

Commission File Number 0-7974

CHITTENDEN CORPORATION

(Exact Name of Registrant as Specified in its Charter)

VERMONT		03-0228404
(State of Incorporation)		(IRS Employer Identification No.)

TWO BURLINGTON SQUARE
BURLINGTON, VERMONT		05401
(Address of Principal Executive Offices)		(Zip Code)

Registrant’s Telephone Number: (802) 658-4000

NOT APPLICABLE

Former Name, Former Address and Formal Fiscal Year

If Changed Since Last Report

Indicate by checkmark 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

At October 28, 2002, there were 31,940,640 shares of the Corporation’s $1.00 par value common stock issued and outstanding.

PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

Chittenden Corporation

Consolidated Balance Sheets

(Unaudited)

	September 30,			December 31,
	2002			2001
	(in thousands)
Assets
Cash and cash equivalents	$	300,184		$	308,023
Securities available for sale		1,424,513			826,495
FHLB stock		14,967			13,613
Loans held for sale		62,055			50,208
Loans:
Commercial		567,939			559,752
Municipal		97,912			85,479
Real Estate:
Residential		895,472			855,561
Commercial		1,067,702			903,819
Construction		81,232			79,801

Total Real Estate		2,044,406			1,839,181
Consumer		293,248			353,765

Total Loans		3,003,505			2,838,177
Less: Allowance for loan losses		(48,187	)		(45,268	)

Net loans		2,955,318			2,792,909
Accrued interest receivable		28,586			23,357
Other real estate owned		—			703
Other assets		42,039			33,934
Premises and equipment, net		56,901			55,104
Mortgage servicing rights		15,482			16,020
Identified intangibles		9,827			4,007
Goodwill		55,911			29,341

Total assets	$	4,965,783		$	4,153,714


Liabilities:
Deposits:
Demand deposits	$	681,595		$	620,828
Savings deposits		397,545			346,974
NOW and money market deposits		2,162,630			1,870,835
Certificates of deposit less than $100,000		691,873			634,992
Certificates of deposit $100,000 and over		237,948			196,217

Total deposits		4,171,591			3,669,846

Borrowings		178,189			44,409
Company obligated, mandatorily redeemable securities of subsidiary trust		125,000			—
Accrued expenses and other liabilities		76,651			68,805

Total liabilities		4,551,431			3,783,060
Stockholders’ Equity:
Preferred stock—$100 par value authorized – 200,000 shares; issued and outstanding—none		—			—
Common stock—$1 par value; authorized – 60,000,000 shares; issued – 35,748,653 in 2002 and 35,743,473 in 2001		35,749			35,743
Surplus		145,193			145,687
Retained earnings		283,536			256,677
Treasury stock, at cost – 3,808,013 shares in 2002 and 3,673,027 shares in 2001		(85,383	)		(79,733	)
Accumulated other comprehensive income		31,402			8,621
Directors deferred compensation to be settled in stock		3,909			3,746
Unearned portion of employee restricted stock		(54	)		(87	)

Total stockholders’ equity		414,352			370,654

Total liabilities and stockholders’ equity	$	4,965,783		$	4,153,714

The accompanying notes are an integral part of these consolidated financial statements.

Chittenden Corporation

Consolidated Statements of Income

(Unaudited)

	For the Three Months Ended September 30,					For the Nine Months Ended September 30,
	2002			2001		2002			2001
	(in thousands, except per share amounts)
Interest income:
Interest on loans	$	48,734		$	56,507	$	146,717		$	172,570
Investment securities:
Taxable		17,954			9,788		46,065			29,026
Tax-favored		96			282		304			669
Short-term investments		83			243		125			579

Total interest income		66,867			66,820		193,211			202,844

Interest expense:
Deposits		14,472			22,548		45,819			73,948
Borrowings		2,734			694		4,881			2,459

Total interest expense		17,206			23,242		50,700			76,407

Net interest income		49,661			43,578		142,511			126,437
Provision for loan losses		2,315			2,025		6,081			6,016

Net interest income after provision for loan losses		47,346			41,553		136,430			120,421

Noninterest income:
Investment management income		3,865			4,334		11,750			11,559
Service charges on deposit accounts		4,067			3,570		11,919			10,624
Gains on sales of loans, net		2,086			1,916		6,702			8,800
Merchant services & credit card income, net		1,026			927		2,715			3,041
Insurance commissions, net		1,185			966		3,005			2,694
Other		1,547			4,221		9,408			11,373

Total noninterest income		13,776			15,934		45,499			48,091

Noninterest expense:
Salaries		18,450			16,132		54,092			45,500
Employee benefits		3,678			3,315		11,319			10,183
Net occupancy expense		4,766			4,308		14,546			13,303
Other real estate owned, income and expense, net		(115	)		21		(276	)		68
Amortization of intangibles		348			855		931			2,108
Other		9,919			10,115		31,077			29,872

Total noninterest expense		37,046			34,746		111,689			101,034

Income before income taxes		24,076			22,741		70,240			67,478
Income tax expense		8,364			7,930		24,391			23,829

Net income	$	15,712		$	14,811	$	45,849		$	43,649


Basic earnings per share	$	0.49		$	0.46	$	1.43		$	1.36
Diluted earnings per share		0.48			0.46		1.41			1.34
Dividends per share		0.20			0.19		0.59			0.57

The accompanying notes are an integral part of these consolidated financial statements

Chittenden Corporation

Consolidated Statements of Cash Flows

(Unaudited)

	For the Nine Months Ended September 30,
	2002			2001
	(in thousands)
Cash flows from operating activities:
Net income	$	45,849		$	43,649
Adjustments to reconcile net income to net cash provided by operating activities:
Provision for loan losses		6,081			6,016
Provision for impairment of mortgage servicing rights		1,200			—
Depreciation		5,591			4,542
Amortization of intangible assets		931			2,108
Amortization of premiums, fees, and discounts, net		2,888			1,523
Investment securities (gains) losses		(328	)		150
Deferred (prepaid) income taxes		(776	)		(6,128	)
Loans originated for sale		(470,437	)		(309,951	)
Proceeds from sales of loans		465,292			330,481
Gains on sales of loans, net		(6,702	)		(8,800	)
Changes in assets and liabilities, net of effect from purchase of acquired companies:
Accrued interest receivable		(3,767	)		3,936
Other assets		1,465			2,264
Accrued expenses and other liabilities		(3,337	)		20,730

Net cash provided by operating activities		43,950			90,520

Cash flows from investing activities:
Cash paid, net of cash received in acquisitions		(41,481	)		8,001
Proceeds from sales (purchases) of Federal Home Loan Bank stock		(148	)		(616	)
Proceeds from sales of securities available for sale		430,656			208,675
Proceeds from maturing securities and principal payments on securities available for sale		237,094			259,201
Purchases of securities available for sale		(1,190,416	)		(505,262	)
Loans originated, net of principal repayments		27,897			67,088
Purchases of premises and equipment		(3,455	)		(2,912	)

Net cash provided by (used in) investing activities		(539,853	)		34,175

Cash flows from financing activities:
Net increase (decrease) in deposits		265,894			56,804
Net increase (decrease) in borrowings		127,105			(48,342	)
Proceeds from issuance of trust preferred securities		120,577			—
Proceeds from issuance of treasury and common stock		3,383			1,277
Dividends on common stock		(18,991	)		(18,576	)
Repurchase of common stock		(9,904	)		(16,473	)

Net cash provided by (used in) financing activities		488,064			(25,310	)

Net increase (decrease) in cash and cash equivalents		(7,839	)		99,385
Cash and cash equivalents at beginning of period		308,023			178,621

Cash and cash equivalents at end of period	$	300,184		$	278,006

Supplemental disclosure of cash flow information:
Cash paid during the period for:
Interest	$	51,245		$	77,546
Income taxes		18,851			20,073
Non-cash investing and financing activities:
Loans transferred to other real estate owned		945			1,116
Issuance of treasury and restricted stock		183			612
Assets acquired and liabilities assumed through acquisitions:
Fair value of assets acquired, including core deposit intangibles	$	269,648		$	239,253
Fair value of liabilities assumed		242,968			212,391
Cash paid		53,250			47,452

Goodwill	$	26,570		$	20,590

The accompanying notes are an integral part of these consolidated financial statements.

Chittenden Corporation

Notes to Consolidated Financial Statements

NOTE 1—ACCOUNTING POLICIES

The financial information included herein is unaudited; however, such information reflects all adjustments (consisting of normal recurring adjustments) which are, in the opinion of management, necessary for a fair statement of results for the interim periods. Results for interim periods are not necessarily indicative of the results of operations for the full year or any other interim period.

The Company’s significant accounting policies are described in Note 1 of the Notes to Consolidated Financial Statements included in its 2001 Annual Report on Form 10-K filed with the Securities and Exchange Commission. For interim reporting purposes, the Company follows the same basic accounting policies and considers each interim period as an integral part of an annual period. Certain reclassifications have been made to prior year balances to conform to the current year presentation.

NOTE 2—RECENTLY ADOPTED ACCOUNTING POLICIES

In July 2001, the Financial Accounting Standards Board issued Statements of Financial Accounting Standards No. 141, Business Combinations (“SFAS 141”), and No. 142, Goodwill and Other Intangible Assets (“SFAS 142”). Statement No. 141 requires that the purchase accounting method be used for all business combinations initiated after June 30, 2001.

The Company adopted SFAS 142 as of January 1, 2002. SFAS 142 addresses the method of identifying and measuring goodwill and other intangible assets acquired in a business combination, eliminates further amortization of goodwill, and requires periodic impairment evaluations of goodwill. As a result of adopting SFAS 142, the Company eliminated goodwill amortization of $2,028,000 in the first nine months of 2002.

In August 2001, the FASB issued SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets (“SFAS 144”), which supersedes SFAS No. 121 and portions of APB Opinion No. 30. This statement addresses the recognition of an impairment loss for long-lived assets to be held and used, or disposed of by sale or otherwise. This statement is effective for financial statements issued for fiscal years beginning after December 15, 2001, and interim periods within those fiscal years. The adoption of SFAS 144 did not have a significant impact on the financial position or results of operations of the Company.

NOTE 3—ACQUISITIONS AND SALES

On February 28, 2002, Chittenden acquired Ocean National Corporation, headquartered in Kennebunk, Maine and its subsidiary Ocean National Bank for $53.25 million in cash. In addition to the purchase price the company incurred approximately $2.2 million of capitalized costs incurred in connection with the acquisition. The transaction has been accounted for as a purchase and, accordingly, the operations of Ocean National Bank (ONB) are included in Chittenden’s consolidated financial statements from the date of acquisition.

The purchase price has been allocated to assets acquired and liabilities assumed based on estimates of fair value at the date of acquisition. The excess of purchase price over the fair value of net tangible and intangible assets acquired has been recorded as goodwill. The fair value of these assets and liabilities is summarized as follows (in thousands):


Cash and cash equivalents	$	11,769
FHLB Stock		1,256
Securities available for sale		41,498
Net loans		207,443
Prepaid expenses and other assets		(3,003	)
Premises and equipment		3,934
Core Deposit Intangibles		6,751
Goodwill		26,570
Deposits		(235,851	)
Accrued expenses and other liabilities		(7,117	)

Total acquisition cost	$	53,250

On April 30, 2001, the Company acquired Maine Bank Corp., headquartered in Portland, Maine and its subsidiary, Maine Bank & Trust for $49.25 million in cash. Included in the total acquisition cost is approximately $636,000 of capitalized costs incurred in connection with the acquisition. The acquisition has been accounted for as a purchase and, accordingly, the operations of Maine Bank & Trust (MBT) are included in these financial statements from the date of acquisition.

The purchase price has been allocated to assets acquired and liabilities assumed based on estimates of fair value at the date of acquisition. The excess of purchase price over the fair value of assets acquired has been recorded as goodwill. The fair value of these assets and liabilities is summarized as follows (in thousands):


Cash and cash equivalents	$	55,453
FHLB Stock		686
Securities available for sale		5,034
Net loans		168,860
Prepaid expenses and other assets		3,422
Premises and equipment		5,798
Goodwill		20,590
Deposits		(212,425	)
Accrued expenses and other liabilities		34

Total acquisition cost	$	47,452

Following is supplemental information reflecting selected pro forma results as if these acquisitions had been consummated as of January 1, 2001 (in thousands, except EPS):

	For the Three Months Ended September 30,				For the Nine Months Ended September 30,
	2002		2001		2002		2001
Total revenue	$	63,437	$	63,550	$	190,649	$	191,061
Income before income taxes		24,076		24,085		71,165		71,949
Net income		15,712		15,636		46,417		46,237
Diluted earnings per share (EPS)	$	0.48	$	0.48	$	1.42	$	1.42

Total revenue includes net interest income and non-interest income.

During the first quarter of 2001, the Company sold its retail credit card portfolio, totaling approximately $39 million, at a gain of $4.3 million. An additional gain of $330,000 was recognized in the second quarter of 2001 after the expiration of certain contingent obligations accrued in the first quarter.

NOTE 4—ACQUIRED INTANGIBLE ASSETS

	As of September 30, 2002
	Gross Carrying Amount		Accumulated Amortization		Net Carrying Amount
Amortized intangible assets
Core deposit intangibles	$	11,961	$	4,512	$	7,449
Acquired trust relationships		4,000		1,622		2,378

Total	$	15,961	$	6,134	$	9,827

Aggregate Amortization Expense:
For nine months ended September 30, 2002	$	931
Estimated Amortization Expense:
For year ended 12/31/03	$	1,391
For year ended 12/31/04		1,391
For year ended 12/31/05		1,063
For year ended 12/31/06		954
For year ended 12/31/07		954

NOTE 5—GOODWILL

The changes in the carrying amount of goodwill for the nine months ended September 30, 2002 are as follows:

	Commercial Banking Segment		Other Segment		Total
Balance as of January 1, 2002	$	25,940	$	3,401	$	29,341
Goodwill acquired during year		26,570		—		26,570
Impairment losses		—		—		—

Balance as of September 30, 2002	$	52,510	$	3,401	$	55,911

NOTE 6 – CAPITAL TRUST SECURITIES

On May 21, 2002, a wholly-owned subsidiary of the Chittenden Corporation (Chittenden), Chittenden Capital Trust I, issued $125 million of 8% trust preferred securities (“Securities”) to the public and invested the proceeds from this offering in an equivalent amount of junior subordinated debentures issued by Chittenden. These debentures are the sole asset of the trust subsidiary. The proceeds from the offering, which was net of $4.4 million of issuance costs, will be used for general corporate purposes. The Securities pay interest quarterly, are mandatorily redeemable on July 1, 2032 and may be redeemed by the Trust at par any time on or after July 1, 2007. Chittenden has fully and unconditionally guaranteed the Securities issued by the Chittenden Capital Trust I.

Concurrent with the issuance of these securities, Chittenden entered into interest rate swap agreements with two counterparties, in which Chittenden will receive 8% fixed on the notional amount of $125 million, while paying the counterparties a variable rate based on the three month LIBOR (London Interbank Offered Rate), plus approximately 122 basis points.

NOTE 7—COMPREHENSIVE INCOME

The Company’s comprehensive income for the periods ended September 30, 2002 and 2001 is presented below (amounts in thousands):

	For the Three Months Ended September 30,						For the Nine Months Ended September 30,
Net Income	$	15,712		$	14,811		$	45,849		$	43,649
Unrealized gains/losses on investment securities:
Unrealized holding gains (losses) on securities available for sale, net of tax		14,802			8,967			22,994			13,087
Reclassification adjustments for (gains) losses arising during period, net of tax		(4	)		(167	)		(213	)		98

Total Comprehensive income	$	30,510		$	23,611		$	68,630		$	56,834

NOTE 8— EARNINGS PER SHARE

The following table summarizes the calculation of basic and diluted earnings per share:

	Three Months Ended September 30,						Nine Months Ended September 30,
	2002			2001			2002			2001
	(in thousands except per share information)
Net income	$	15,712		$	14,811		$	45,849		$	43,649

Weighted average common shares outstanding		32,133			32,047			32,162			32,205
Dilutive effect of common stock equivalents		404			396			422			372

Weighted average common and common equivalent shares outstanding		32,537			32,443			32,584			32,577

Basic earnings per share	$	0.49		$	0.46		$	1.43		$	1.36
Dilutive effect of common stock equivalents		(0.01	)		(0.00	)~)		(0.02	)		(0.02	)

Diluted earnings per share	$	0.48		$	0.46		$	1.41		$	1.34

NOTE 9—BUSINESS SEGMENTS

The Company has identified Commercial Banking as its reportable operating business segment based on the fact that the results of operations are viewed as a single strategic unit by the chief operating decision-maker. The Commercial Banking segment is comprised of the five Commercial Banking subsidiaries and Chittenden Connecticut Corporation, which provide similar products and services, have similar distribution methods, types of customers and regulatory responsibilities. Commercial Banking derives its revenue from a wide range of banking services, including lending activities, acceptance of demand, savings and time deposits, merchant credit card services, trust and investment management, data processing, brokerage services, mortgage banking, and loan servicing for investor portfolios.

Immaterial operating segments of the Company’s operations, which do not have similar characteristics to the commercial banking operations and do not meet the quantitative thresholds requiring disclosure, are included in the Other category in the disclosure of business segments below. Revenue derived from these segments includes insurance commissions from insurance related products and services, as well as other operations associated with the parent holding company.

The accounting policies used in the disclosure of business segments are the same as those described in the summary of significant accounting policies included in Note 1 of the Company’s 2001 Annual Report on Form 10-K. The consolidation adjustments reflect certain eliminations of inter-segment revenue, cash and parent company investments in subsidiaries.

For the Three Months Ended September 30,2002 (in thousands)	Commercial Banking		Other (2)			Consolidation Adjustments			Consolidated
Net interest income (1)	$	50,251	$	(590	)	$	—		$	49,661
Noninterest income		12,617		1,186			(27	)		13,776
Provision for loan losses		2,315		—			—			2,315
Noninterest expense		36,032		1,041			(27	)		37,046

Net income (loss) before income tax		24,521		(445	)		—			24,076
Income tax expense/(benefit)		8,549		(185	)		—			8,364

Net income (loss)	$	15,972		(260	)	$	—		$	15,712

End of Period Assets	$	4,944,651	$	660,792		$	(639,660	)	$	4,965,783

For the Three Months Ended September 30,2001 (in thousands)	Commercial Banking		Other (2)			Consolidation Adjustments			Consolidated
Net interest income (1)	$	43,578	$	61		$	(61	)	$	43,578
Noninterest income		14,961		1,011			(38	)		15,934
Provision for loan losses		2,025		—			—			2,025
Noninterest expense		33,741		1,043			(38	)		34,746

Net income (loss) before income tax		22,773		29			(61	)		22,741
Income tax expense/(benefit)		7,887		43			—			7,930

Net income (loss)	$	14,886	$	(14	)	$	(61	)	$	14,811

End of Period Assets	$	4,028,335	$	371,419		$	(364,463	)	$	4,035,291

For the Nine Months Ended September 30,2002 (in thousands)	Commercial Banking		Other (2)			Consolidation Adjustments			Consolidated
Net interest income (1)	$	143,420	$	(909	)	$	—		$	142,511
Noninterest income		42,492		3,094			(87	)		45,499
Provision for loan losses		6,081		—			—			6,081
Noninterest expense		108,850		2,926			(87	)		111,689

Net income (loss) before income tax		70,981		(741	)		—			70,240
Income tax expense/(benefit)		24,636		(245	)		—			24,391

Net income (loss)	$	46,345	$	(496	)	$	—		$	45,849

End of Period Assets End of Period Assets	$	4,944,651	$	660,792		$	(639,660	)	$	4,965,783

For the Nine Months Ended September 30, 2001 (in thousands)	Commercial Banking		Other (2)			Consolidation Adjustments			Consolidated
Net interest income (1)	$	126,430	$	229		$	(222	)	$	126,437
Noninterest income		45,420		2,770			(99	)		48,091
Provision for loan losses		6,016		—			—			6,016
Noninterest expense		98,091		3,042			(99	)		101,034

Net income (loss) before income tax		67,743		(42	)		(222	)		67,478
Income tax expense/(benefit)		23,770		59			—			23,829

Net income (loss)	$	43,973	$	(102	)	$	(222	)	$	43,649

End of Period Assets	$	4,028,335	$	371,419		$	(364,463	)	$	4,035,291

(1)

The Commercial Banking segment derives a majority of its revenue from interest. In addition, management primarily relies on net interest income, not the gross revenue and expense amounts, in managing the segment. Therefore, only the net amount has been disclosed.

(2)

Revenue derived from these non-reportable segments includes insurance commissions from various insurance related products and services, as well as other operations associated with the parent holding company.

NOTE 10—STOCKHOLDERS’ EQUITY

On July 18, 2001, the Company declared a five-for-four stock split which was distributed on September 14, 2001 to stockholders of record August 31, 2001. This stock split has been reflected in the accompanying balance sheets as of September 30, 2002 and December 31, 2001; all share and per share amounts presented herein have been restated to reflect the split. On October 16, 2002, the Company declared dividends of $0.20 per share or approximately $6.4 million, to be paid on November 15, 2002 to shareholders of record on November 1, 2002.

NOTE 11—RECENT ACCOUNTING PRONOUNCEMENTS

In April 2002, the Financial Accounting Standards Board issued Statement of Financial Accounting No. 145, which rescinded Statement Nos. 4, 44, and 64 and amended Statement No. 13, Accounting for leases. Statement 145 eliminates the requirement to classify gains and losses from an early extinguishment of debt as an extraordinary item. These provisions of the Statement are effective for the Company’s fiscal year beginning January 1, 2003.

In June 2002, the Financial Accounting Standards Board issued Statement of Financial Accounting No. 146, Accounting for Costs Associated with Exit or Disposal Activities. The statement addresses financial accounting and reporting for costs associated with exit or disposal activities and nullifies Emerging Issues Task Force (EITF) Issue 94-3. The Board decided to address the accounting and reporting for costs associated with exit or disposal activities because entities increasingly are engaging in exit and disposal activities and certain costs associated with those activities were recognized as liabilities at a plan (commitment) date under issue 94-3 that did not meet the definition of a liability in FASB Concepts Statement No. 6, Elements of Financial Statements. The provisions of this Statement are effective for exit or disposal activities that are initiated after December 31, 2002 and early application is permitted. Management does not expect the adoption of SFAS No. 146 to have a significant impact on the Company’s financial position or results of operations.

In October 2002, the Financial Accounting Standards Board issued Statement of Financial Accounting No. 147, Acquisitions of Certain Financial Institutions, an amendment of FASB Statements No 72 and 144 and FASB Interpretation No. 9. This Statement clarifies that a branch acquisition that meets the definition of a business should be accounted for as a business combination, otherwise the acquisition of a less-than-whole financial institution (often referred to as a branch acquisition) should be accounted for as an acquisition of net assets that does not result in the recognition of goodwill. In the event that the Company were to acquire branch operations from another institution in the future, the excess purchase price, if any, over book value, would result in an amortizing intangible asset rather than goodwill.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Results of Operations

Chittenden Corporation posted third quarter 2002 net income of $0.48 per diluted share, compared to the net income of $0.46 per diluted share posted in the third quarter of last year. Net income for the third quarter of 2002 was $15.7 million, compared to net income of $14.8 million recorded in the same quarter a year ago. For the first nine months of 2002, diluted earnings per share were $1.41, compared to the $1.34 diluted earnings per share recorded for the same time period in 2001. Year to date net income for 2002 was $45.8 million, compared to net income of $43.6 million for the same period a year ago.

Return on average equity was 15.36% for the quarter ended September 30, 2002 compared with return on average equity of 16.52% for the same period in 2001. Return on average equity for the first nine months of 2002 was 15.78%, down from a return on average equity of 16.77% a year ago. The decline in return on average equity for the quarter and year ended September 30, 2002 was a result of higher levels of average stockholders’ equity due to higher unrealized gains on the investment portfolio and the acquisitions of MBT and ONB.

Return on average assets was 1.32% for the third quarter of 2002, compared with the return on average assets of 1.49% for the third quarter of last year. Return on average assets for the first nine months of 2002 was 1.38%, down from 1.54% a year ago. The decline in return on average assets for the quarter and the year ended September 30, 2002 was primarily due to higher levels of average earning assets caused by the acquisition of ONB, growth in deposits, and the issuance of the Trust Preferred Securities (TPS).

The yield on earning assets was 4.49% in the third quarter of 2002, compared with 4.76% in the same period of 2001 and 4.69% for the second quarter of 2002. The decrease in the Company’s net interest margin primarily relates to strong deposit flows in the third quarter of 2002, which were mainly deployed in either municipal loans or investment securities. Net interest income on a tax equivalent basis for the three months ended September 30, 2002 was $50.0 million, up from $44.2 million for the same period a year ago. The increase in the net interest income from the third quarter of 2001 was attributed primarily to higher levels of average earning assets and deposits that resulted from the acquisition of ONB, growth in deposits and the TPS issuance.

The following table presents an analysis of average rates and yields on a fully taxable equivalent basis for the three months and nine months ended September 30, 2002 and 2001:

For the Three Months

Ended September 30,

2002

For the Three Months

Ended September 30,

2001

For the Nine Months

Ended September 30,

2002

For the Nine Months

Ended September 30,

2001

Average Balance

Interest

Income/

Expense(1)

Average

Yield/

Rate(1)

Average

Balance

Interest

Income/

Expense(1)

Average

Yield/

Rate(1)

Description

Average

Balance

Interest

Income/

Expense(1)

Average

Yield/

Rate(1)

Average

Balance

Interest

Income/

Expense(1)

Average

Yield/

Rate(1)

ASSETS

Interest-Earning Assets:

Loans:

$565,917

8,523

5.98%

628,791

12,050

7.60%

Commercial

566,147

25,801

6.09%

594,683

36,584

8.22%

98,325

906

3.69%

115,521

1,507

5.22%

Municipal

89,563

2,856

4.25%

97,278

4,522

6.20%

Real Estate:

945,779

15,332

6.47%

1,013,996

18,960

7.46%

Residential

937,326

46,941

6.68%

1,017,813

59,072

7.74%

1,051,040

17,004

6.42%

789,725

15,544

7.81%

Commercial

1,013,289

49,083

6.48%

742,878

45,922

8.26%

77,417

1,562

8.01%

56,777

1,160

8.11%

Construction

83,371

4,925

7.90%

50,542

3,109

8.22%

2,074,236

33,898

6.50%

1,860,498

35,664

7.63%

Total Real Estate

2,033,986

100,949

6.63%

1,811,233

108,103

7.97%

299,155

5,728

7.60%

391,902

7,789

7.89%

Consumer

315,584

18,125

7.68%

419,142

24,876

7.93%

3,037,633

49,055

6.42%

2,996,712

57,010

7.56%

Total loans

3,005,280

147,731

6.57%

2,922,336

174,085

7.96%

Investments:

1,371,196

17,954

5.24%

648,057

9,788

6.04%

Taxable

1,146,872

46,065

5.36%

613,817

29,026

6.31%

16,582

136

3.25%

27,124

394

5.77%

Tax-Favored Securities

17,112

434

3.39%

21,502

938

5.83%

225

3.02%

225

3.50%

Interest-Bearing Deposits in banks

225

3.27%

225

3.70%

18,179

1.77%

27,995

241

3.41%

Federal Funds Sold

9,286

119

1.72%

17,272

574

4.44%

4,443,815

67,228

6.02%

3,700,113

67,435

7.25%

Total Interest-Earning Assets

4,178,775

194,355

6.21%

3,575,152

204,629

7.65%

333,050

282,563

Noninterest-Earning Assets

315,442

266,164

(49,228)

(44,994

)

Allowance for Loan Losses

(48,538

)

(42,658

)

$4,727,637

3,937,682

Total Assets

4,445,679

3,798,658

LIABILITIES AND

STOCKHOLDERS’ EQUITY

Interest-Bearing Liabilities:

$396,322

1,089

1.09%

386,251

1,744

1.79%

Savings

383,378

3,321

1.16%

368,238

5,292

1.92%

2,002,458

6,498

1.29%

1,671,411

10,524

2.50%

NOW and money market accounts

1,949,124

20,379

1.40%

1,594,080

36,273

3.04%

226,240

1,479

2.59%

213,526

2,451

4.55%

Certificates of deposit under $100,000

219,646

4,648

2.83%

213,180

8,167

5.12%

688,467

5,406

3.12%

635,374

7,829

4.89%

Certificates of deposit $100,000and over

670,957

17,471

3.48%

629,163

24,216

5.15%

3,313,487

14,472

1.73%

2,906,562

22,548

3.08%

Total Interest-Bearing Deposits

3,223,105

45,819

1.90%

2,804,661

73,948

3.53%

299,786

2,734

3.62%

45,530

694

6.05%

Borrowings

160,557

4,881

4.06%

55,295

2,459

5.95%

3,613,273

17,206

1.89%

2,952,092

23,242

3.12%

Total Interest-Bearing Liabilities

3,383,662

50,700

2.00%

2,859,956

76,407

3.57%

NonInterest-Bearing Liabilities:

637,675

575,560

Demand Deposits

611,605

535,254

70,906

54,266

Other Liabilities

61,982

55,434

4,321,854

3,581,918

Total Liabilities

4,057,250

3,450,644

405,783

355,764

Stockholders’ Equity

388,429

348,014

$4,727,637

3,937,682

Total Liabilities and Stockholders’ Equity

4,445,679

3,798,658

50,022

44,193

Net Interest Income

143,655

128,222

4.13%

Interest Rate Spread (2)

4.21%

4.08%

4.49%

4.76%

Net Yield on Earning Assets (3)

4.59%

4.79%

(1)

On a fully taxable equivalent basis, calculated using a Federal income tax rate of 35%. Loan income includes fees.

(2)

Interest rate spread is the average rate earned on total interest-earning assets less the average rate paid on interest-bearing liabilities.

(3)

Net yield on earning assets is net interest income divided by total interest-earning assets.

Noninterest income amounted to $13.8 million for the third quarter of 2002 down from $15.9 for the same quarter of last year. Increases were seen in several categories, including service charges on deposit accounts, insurance commissions, gains on sales of mortgage loans, and merchant services/credit card income. Lower investment management income and a decline in other income offset these increases. The decline in other income was caused by several factors, including higher amortization of mortgage servicing rights (MSR) of $549,000 and a related provision for impairment to the MSR asset of $1.2 million, lower gains on sales of investments and closed facilities of $252,000 and $725,000, respectively, and a write-down of $571,000 on one of the Company’s venture capital investments.

For the first nine months of 2002, noninterest income was $45.5 million, down from $48.1 million a year ago. Gains on sales of loans were $6.7 million for the nine months of 2002 compared with $8.8 million last year. Included in gains on sales of loans for 2001 was a $4.6 million gain on the sale of the Company’s retail credit card portfolio. Service charges on deposit accounts increased from $10.6 million in 2001 to $11.9 million in 2002 due to higher levels of deposits and the acquisition of ONB. Insurance commissions increased $311,000 to $3.0 million for the first nine months of 2002 compared to $2.7 million for the same period in 2001. Other noninterest income amounted to $9.4 million and $11.4 million for the nine months ended September 30, 2002 and 2001 respectively. The primary drivers for this decline were the MSR related items, lower gains on sales of investments and closed facilities, and the venture capital investment write-down described above, which totaled $3.3 million.

Noninterest expenses were $37.0 million for the third quarter of 2002, up from the $34.7 million for the third quarter of 2001. Salaries and employee benefits increased $2.7 million from the third quarter of 2001. The inclusion of ONB in 2002 amounted to approximately $1.7 million of the variance in salaries and benefits. In addition, sales-based incentive compensation increased $302,000 and employee benefits increased $451,000 from the same period a year ago, driven primarily by medical/dental insurance and pension costs. Amortization of intangibles decreased $507,000 from the third quarter 2001 to $348,000 due to the adoption of FAS 142, which eliminated goodwill amortization. The amortization recognized in 2002 relates primarily to core deposit intangibles recorded in relation to the ONB and Bank of Western Massachusetts acquisitions.

For the first nine months, total noninterest expenses were $111.7 million in 2002, compared with $101.0 million in the prior year. Salaries and employee benefits increased $9.7 million from the 2001 level. Approximately $7.2 million of the variance in salaries and employee benefits was due to the acquisition of ONB, and MBT while sales-based incentive payments, were $1.4 million higher in 2002 and performance-based incentive accruals, were up $1.1 million from a year ago. Net occupancy expenses increased $1.2 million, substantially all of which is attributed to the ONB and MBT acquisitions. Amortization of intangibles decreased $1.2 million from the third quarter of 2001 due to the adoption of FAS 142.

Income Taxes

The Company and its subsidiaries are taxed on income by the IRS at the Federal level and by various states in which they do business. Approximately half of the Company’s income is generated in the State of Vermont, which levies franchise taxes on banks based upon average deposit levels in lieu of taxing income. Franchise taxes are included in income tax expense in the consolidated statements of income.

For the nine months ended September 30, 2002 and 2001, Federal and state income tax provisions amounted to $24.4 million and $23.8 million, respectively. The effective income tax rates for the respective periods were 34.7% and 35.3%. The decrease from 2001 to 2002 is primarily attributable to lower provisions for state income taxes in Massachusetts, caused by the establishment in the second half of 2001 of Real Estate Investment Trusts (REITs) in that state. REITs receive preferential tax treatment in the ownership of mortgage loans secured by real estate in Massachusetts. During all periods, the Company’s statutory Federal corporate tax rate was 35%.

Financial Position

The Company invests the majority of its assets in loans and securities. Total assets increased from $4.2 billion at December 31, 2001 to $5.0 billion at September 30, 2002, largely due to the acquisition of ONB, the TPS issuance and to seasonal increases in deposits from the June 30, 2002 level. Mid-year is historically the Company’s low point for deposit balances primarily due its government banking business. Total loans at September 30, 2002 were up $165 million from December 31, 2001, primarily due to the acquisition of ONB ($210 million) offset by a decline in consumer loans of $60.5 million. The decline in consumer loans was due to paydowns on the automotive finance portfolio, driven by lower market interest rates, which outpaced originations. Overall commercial balances increased approximately $172 million from December 31, 2001 primarily as a result of the purchase of ONB and continued growth throughout the franchise.

Total deposits at September 30, 2002 were $4.2 billion, up $502 million from December 31, 2001. The increase from December 31, 2001 was partially attributable to the acquisition of ONB, which contributed $236 million in deposits, and to stronger than normal deposit flows due to the current recessionary environment.

Credit Quality

Nonperforming assets (NPAs) include nonaccrual loans and foreclosed real estate (Other Real Estate Owned). As of September 30, 2002, nonperforming assets plus loans 90 days past due and still accruing totaled $19.6 million, up $6.3 million from a quarter ago, and $1.3 million from a year ago. Loans on nonaccrual status increased from $14.7 million at September 30, 2001 to $16.2 million at September 30, 2002. As a percentage of total loans, NPAs were 54 basis points at September 30, 2002, compared with 50 basis points the year before. The Company believes the level of NPAs at June 30, 2002 was unusually low, and that the September 30, 2002 amount is a more normal operating level. Net charge-off activity totaled $3.1 million for the third quarter of 2002, compared to $1.3 million for the same period in 2001. Net charge offs totaled $6.1 million for the nine months ended September 30, 2002 and $5.1 million for the same period in 2001. As a percentage of average loans, annualized year-to-date charge-offs were 27 basis points in 2002 compared with 23 basis points for the first nine months of 2001. The allowance for loan losses was $48.2 million at September 30, 2002, down slightly from $49.0 million at June 30, 2002 and up from $45.3 million at December 31, 2001.

A summary of credit quality follows:

	9/30/02			6/30/02			12/31/01			9/30/01
	(in thousands)
Nonaccrual loans		16,184		$	10,407		$	12,374			14,660
Troubled debt restructuring		231			235			—			—
Other real estate owned (OREO)		—			230			703			298

Total nonperforming assets (NPAs)	$	16,415		$	10,872		$	13,077		$	14,958

Loans past due 90 days or more and still accruing interest	$	3,213		$	2,477		$	4,583		$	3,400
NPAs plus loans past due 90 days or more and still accruing interest		19,628			13,349			17,660			18,358
Allowance for loan losses		48,187			48,994			45,268			45,261
NPAs as % of loans plus OREO		0.54	%		0.36	%		0.46	%		0.50	%
Allowance as % of loans		1.57	%		1.64	%		1.59	%		1.53	%
Allowance as % of nonperforming loans		293.56	%		460.38	%		365.83	%		308.74	%
Allowance as % of NPAs		293.56	%		450.64	%		346.17	%		302.59	%

Provisions for and activity in the allowance for loan losses are summarized as follows:

	Three Months Ended September 30,						Nine Months Ended September 30,
	2002			2001			2002			2001
	(in thousands)
Beginning balance	$	48,994		$	44,541		$	45,268		$	40,255
Provision for loan losses		2,315			2,025			6,081			6,016
Allowance acquired through acquisitions		—			—			2,972			4,083
Loans charged off		(3,849	)		(2,014	)		(8,574	)		(7,750	)
Loan recoveries		727			709			2,440			2,657

Ending balance	$	48,187		$	45,261		$	48,187		$	45,261

The allowance for loan losses is based on management’s estimate of the amount required to reflect the potential inherent losses in the loan portfolio, based on circumstances and conditions known or anticipated at each reporting date. There are inherent uncertainties with respect to the collectibility of the Banks’ loans. Because of these inherent uncertainties, actual losses experienced in the near term may differ from the amounts reflected in the consolidated financial statements.

Adequacy of the allowance is determined using a consistent, systematic methodology which analyzes the size and risk of the loan portfolio. In addition to evaluating the collectibility of specific loans when determining the adequacy of the allowance for loan losses, management also takes into consideration other factors such as changes in the mix and volume of the loan portfolio, historic loss experience, the amount of delinquencies and loans adversely classified, and economic trends. An allocation process whereby specific loss allocations are made against certain adversely classified loans assesses the adequacy of the allowance for loan losses, and general loss allocations are made against segments of the loan portfolio, which have similar attributes. The Company’s historical loss experience, industry trends, and the impact of the local and regional economies on the Company’s borrowers, were considered by management in determining the adequacy of the allowance for loan losses. For a full discussion on the Company’s allowance for loan loss policies see “Allowance for Loan Losses” in the Company’s 2001 annual report on Form 10-K.

Capital

Stockholders’ equity totaled $414.4 million at September 30, 2002, compared to $370.7 million at year-end 2001. The current level reflects net income of $45.8 million less dividends paid to shareholders totaling $19.0 million and share repurchases totaling $9.9 million. Accumulated other comprehensive income increased $22.8 million to $31.4 million at September 30, 2002 due to higher unrealized gains on the available for sale securities portfolio. “Tier One” capital, consisting of common equity and the allowable portion of the TPS (approximately $102.6 million), measured 11.38% of risk-weighted assets at September 30, 2002. Total capital, including the “Tier Two” allowance for loan losses and the remaining $22.4 million of the TPS, was 13.25% of risk-weighted assets. The leverage capital ratio was 8.85%. These ratios placed Chittenden in the “well-capitalized” category according to regulatory standards.

The Company periodically repurchases its own stock under a share repurchase program originally authorized by the Board of Directors on January 19, 2000. Subsequent authorizations have increased the number of shares authorized to be repurchased under the program to six million shares. As of September 30, 2002, the Company has repurchased 4.2 million shares at a total cost of $83 million since the inception of the program. Based on the resolution passed by the Corporation’s Board of Directors, the Company has until December 31, 2003 to purchase the remaining 1.8 million shares authorized.

Liquidity

The Company’s liquidity and rate sensitivity are managed by the asset and liability committee, based upon policies approved by the Board of Directors. This committee meets periodically to review and direct the Banks’ lending, investment, deposit gathering, and borrowing activities.

The measure of an institution’s liquidity is its ability to meet its cash commitments at all times with available cash or by conversion of other assets to cash at a reasonable price. At September 30, 2002, the Company maintained cash balances and short-term investments of approximately $300 million, compared with $278 million at September 30, 2001 and $308 million at December 31, 2001.

Controls and Procedures

(a)

Evaluation of disclosure controls and procedures.

As required by new Rule 13a-15 under the Securities Exchange Act of 1934, within the 90 days prior to the date of this report, the Company carried out an evaluation under the supervision and with the participation of the Company’s management, including the Company’s Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures. Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures are effective to ensure that information required to be disclosed by the Company in the reports it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the Securities and Exchange Commission’s rules and forms. In connection with the new rules, we currently are in the process of further reviewing and documenting our disclosure controls and procedures, including our internal controls and procedures for financial reporting, and may from time to time make changes aimed at enhancing their effectiveness and to ensure that our systems evolve with our business.

(b)

Changes in internal controls.

None.

Item 3. Qualitative and Quantitative Disclosures About Market Risk

To measure the sensitivity of its income to changes in interest rates, the Company uses a variety of methods, including simulation, valuation techniques and gap analyses. Interest-rate risk is the sensitivity of income to variations in interest rates over both short-term and long-term horizons. The primary goal of interest-rate management is to control this risk within limits approved by the Board of Directors. These limits and guidelines reflect the Company’s tolerance for interest-rate risk. The Company attempts to control interest-rate risk by identifying exposures, quantifying them and taking appropriate actions. For a full discussion of interest-rate risk see “Liquidity and Rate Sensitivity” in the Company’s 2001 annual report on Form 10-K. There has not been a material change in the Company’s interest-rate exposure or its anticipated market risk during the current period.

PART II—OTHER INFORMATION

Item 6. EXHIBITS AND REPORTS ON FORM 8-K

(a)

EXHIBITS

None.

(b)

REPORTS ON FORM 8-K

The Company’s second quarter 2002 press release announcing earnings and quarterly dividends, and attached financial statements was filed on Form 8-K under item 5 on July 19, 2002.

Pursuant to section 906 of the Sarbanes-Oxley Act of 2002 the certifications of Paul A. Perrault, Chairman, President and Chief Executive Officer of Chittenden Corporation, and Kirk W. Walters, Executive Vice President and Chief Financial Officer, were filed on Form 8-K under item 9 on August 14, 2002. The certification were filed in connection with the filing of the Company’s report on Form 10-Q for the period ended June 30, 2002,

The Company’s investor presentation made at the RBC Capital Markets conference on September 20, 2002 was filed on Form 8-K under item 9 on September 19, 2002.

CHITTENDEN CORPORATION

SIGNATURES

Pursuant to the requirement 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.

		CHITTENDEN CORPORATION
		Registrant

October 31, 2002		/S/ PAUL A. PERRAULT
Date		Paul A. Perrault, Chairman, President and Chief Executive Officer

October 31, 2002		/s/ Kirk W. Walters
Date		Kirk W. Walters Executive Vice President, Treasurer, and Chief Financial Officer

CERTIFICATION

I, Paul A. Perrault, certify that:

I have reviewed this quarterly report on Form 10-Q of Chittenden Corporation;

Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report;

Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report;

The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared;

evaluated the effectiveness of this registrant’s disclosure controls and procedures as of a date with 90 days prior to the filing date of this quarterly report (the “Evaluation Date”) ; and

presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of Evaluation Date;

The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant’s auditors and the audit committee of registrant’s board of directors:

all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant’s ability to record, process, summarize and report financial data and have identified for the registrant’s auditors any material weaknesses in internal controls; and

any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls; and

The registrant’s other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.


Date:	October 31, 2002	/S/ PAUL A. PERRAULT
		Chairman, President, and Chief Executive Officer

CERTIFICATION

I, Kirk W. Walters, certify that:

I have reviewed this quarterly report on Form 10-Q of Chittenden Corporation;

evaluated the effectiveness of this registrant’s disclosure controls and procedures as of a date with 90 days prior to the filing date of this quarterly report (the “Evaluation Date”); and

presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of Evaluation Date;

The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant’s auditors and the audit committee of registrant’s board of directors:

any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls; and


Date:	October 31, 2002	/S/ KIRK W. WALTERS
		Executive Vice President and Chief Financial Officer