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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
-----------------------------------------------------
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2005
[ ] 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 1-15817
------------------------------
OLD NATIONAL BANCORP
(Exact name of Registrant as specified in its charter)
INDIANA 35-1539838
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1 MAIN STREET 47708
EVANSVILLE, INDIANA (Zip Code)
(Address of principal executive offices)
-------------
(812) 464-1294
(Registrant's telephone number, including area code)
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, and (2) has been subject to the filing requirements for
at least 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 [ ]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock. The Registrant has one class of common stock (no par value) with
68,321,000 shares outstanding at April 30, 2005.
OLD NATIONAL BANCORP
FORM 10-Q
INDEX
Page No.
--------
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheet
March 31, 2005 and 2004, and December 31, 2004 3
Consolidated Statement of Income
Three months ended March 31, 2005 and 2004 4
Consolidated Statement of Changes in Shareholders' Equity
Three months ended March 31, 2005 and 2004 5
Consolidated Statement of Cash Flows
Three months ended March 31, 2005 and 2004 6
Notes to Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 20
Item 3. Quantitative and Qualitative Disclosures About
Market Risk 30
Item 4. Controls and Procedures 34
PART II OTHER INFORMATION 35
SIGNATURES 38
2
OLD NATIONAL BANCORP
CONSOLIDATED BALANCE SHEET
(dollars and shares in thousands) MARCH 31, DECEMBER 31,
(unaudited) 2005 2004 2004
- --------------------------------- ---------- ---------- ------------
ASSETS
Cash and due from banks $ 159,516 $ 176,022 $ 204,678
Money market investments 39,854 15,733 12,320
---------- ---------- ----------
Total cash and cash equivalents 199,370 191,755 216,998
Investment securities - available-for-sale, at fair value
U.S. Treasury 33,247 13,117 66,837
U.S. Government agencies and corporations 637,601 552,228 632,473
Mortgage-backed securities 1,248,491 1,298,932 1,267,320
States and political subdivisions 583,051 664,264 597,631
Other securities 215,526 91,077 221,154
---------- ---------- ----------
Investment securities - available-for-sale 2,717,916 2,619,618 2,785,415
Investment securities - held-to-maturity, at amortized cost
(fair value $165,198, $205,812 and $176,166 respectively) 170,194 204,406 177,794
Federal Home Loan Bank stock, at cost 49,556 49,502 49,542
Residential loans held for sale 31,685 17,895 22,484
Loans:
Commercial 1,522,497 1,614,516 1,550,640
Commercial real estate 1,639,968 1,830,532 1,653,122
Residential real estate 558,219 939,156 555,423
Consumer credit, net of unearned income 1,219,655 1,175,450 1,205,657
---------- ---------- ----------
Total loans 4,940,339 5,559,654 4,964,842
Allowance for loan losses (86,307) (100,645) (85,749)
---------- ---------- ----------
Net loans 4,854,032 5,459,009 4,879,093
---------- ---------- ----------
Premises and equipment, net 209,655 194,262 212,787
Goodwill 100,965 129,251 129,947
Other intangible assets 16,526 41,113 38,868
Mortgage servicing rights 15,129 12,319 15,829
Assets held for sale 57,241 - -
Accrued interest receivable and other assets 370,778 348,159 369,547
---------- ---------- ----------
Total assets $8,793,047 $9,267,289 $8,898,304
========== ========== ==========
LIABILITIES
Deposits:
Noninterest-bearing demand $ 850,571 $ 794,502 $ 851,218
Interest-bearing:
NOW 1,826,861 1,587,353 1,920,501
Savings 495,430 467,575 480,392
Money market 619,975 593,222 573,334
Time 2,568,826 2,942,451 2,588,818
---------- ---------- ----------
Total deposits 6,361,663 6,385,103 6,414,263
Short-term borrowings 493,312 471,403 347,353
Other borrowings 1,155,595 1,533,202 1,312,661
Liabilities held for sale 11,238 - -
Accrued expenses and other liabilities 100,650 136,720 120,819
---------- ---------- ----------
Total liabilities 8,122,458 8,526,428 8,195,096
---------- ---------- ----------
SHAREHOLDERS' EQUITY
Preferred stock, 2,000 shares authorized, no shares issued or outstanding - - -
Common stock, $1 stated value, 150,000 shares authorized,
68,717, 66,449 and 69,287 shares issued and outstanding, respectively 68,717 66,449 69,287
Capital surplus 613,857 578,650 629,577
Retained earnings 5,469 59,987 -
Accumulated other comprehensive income (loss), net of tax (17,454) 35,775 4,344
---------- ---------- ----------
Total shareholders' equity 670,589 740,861 703,208
---------- ---------- ----------
Total liabilities and shareholders' equity $8,793,047 $9,267,289 $8,898,304
========== ========== ==========
The accompanying notes to consolidated financial statements are an integral part
of this statement.
3
OLD NATIONAL BANCORP
CONSOLIDATED STATEMENT OF INCOME
THREE MONTHS ENDED
MARCH 31,
(dollars in thousands, except per share data) (unaudited) 2005 2004
- --------------------------------------------------------- ---------- ----------
INTEREST INCOME
Loans including fees:
Taxable $ 68,580 $ 74,382
Nontaxable 4,062 4,367
Investment securities, available-for-sale:
Taxable 21,538 19,893
Nontaxable 6,673 7,362
Investment securities, held-to-maturity, taxable 1,786 2,097
Money market investments 129 8
---------- ----------
Total interest income 102,768 108,109
---------- ----------
INTEREST EXPENSE
Deposits 29,010 29,365
Short-term borrowings 2,017 990
Other borrowings 13,103 12,655
---------- ----------
Total interest expense 44,130 43,010
---------- ----------
Net interest income 58,638 65,099
Provision for loan losses 5,100 7,500
---------- ----------
Net interest income after provision for loan losses 53,538 57,599
---------- ----------
NONINTEREST INCOME
Wealth management fees 4,875 4,922
Service charges on deposit accounts 11,098 10,765
ATM and debit card fees 2,361 1,965
Mortgage banking revenue 1,377 (320)
Insurance premiums and commissions 9,051 9,207
Investment product fees 2,583 3,185
Bank-owned life insurance 1,754 2,053
Net securities gains (losses) (520) 1,985
Other income 3,147 3,744
---------- ----------
Total noninterest income 35,726 37,506
---------- ----------
NONINTEREST EXPENSE
Salaries and employee benefits 39,038 44,225
Occupancy 5,031 4,580
Equipment 3,512 3,441
Marketing 1,912 2,286
Outside processing 5,116 4,931
Communication and transportation 2,521 2,866
Professional fees 2,114 3,011
Loan expense 899 1,467
Supplies 875 1,000
Other real estate owned expense 278 1,656
Other expense 4,781 4,385
---------- ----------
Total noninterest expense 66,077 73,848
---------- ----------
Income before income taxes and discontinued operations 23,187 21,257
Income tax expense 3,747 2,667
---------- ----------
Income from continuing operations 19,440 18,590
---------- ----------
Income (loss) from discontinued operations, net of tax expense (benefit)
of $(68) and $610, respectively (984) 919
---------- ----------
Net income $ 18,456 $ 19,509
========== ==========
Basic net income per share from continuing operations $ 0.28 $ 0.27
Basic net income (loss) per share from discontinued operations (0.01) 0.01
Basic net income per share 0.27 0.28
---------- ----------
Diluted net income per share from continuing operations $ 0.28 $ 0.27
Diluted net income (loss) per share from discontinued operations (0.01) 0.01
Diluted net income per share 0.27 0.28
---------- ----------
Dividends per common share $ 0.19 $ 0.18
The accompanying notes to consolidated financial statements are an integral part
of this statement.
4
OLD NATIONAL BANCORP
CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY
ACCUMULATED
OTHER TOTAL
(dollars and shares COMMON STOCK CAPITAL RETAINED COMPREHENSIVE SHAREHOLDERS'
in thousands) (unaudited) SHARES AMOUNT SURPLUS EARNINGS INCOME (LOSS) EQUITY
- -------------------------- ------ ------- -------- -------- ------------- -------------
BALANCE, DECEMBER 31, 2003 66,575 $66,575 $581,224 $ 53,107 $ 14,584 $ 715,490
Net income - - - 19,509 - 19,509
Unrealized net securities gains,
net of $15,922 tax - - - - 21,929 21,929
Reclassification adjustment for
gains included in net income,
net of $(835) tax - - - - (1,150) (1,150)
Net unrealized derivative gains
on cash flow hedges,
net of $235 tax - - - - 365 365
Reclassification adjustment on
cash flow hedges,
net of $31 tax - - - - 47 47
Cash dividends - - - (12,629) - (12,629)
Stock repurchased (468) (468) (9,613) - - (10,081)
Stock reissued under stock
option and stock purchase plans 342 342 7,039 - - 7,381
------ ------- -------- -------- ------------- -------------
BALANCE, MARCH 31, 2004 66,449 $66,449 $578,650 $ 59,987 $ 35,775 $ 740,861
====== ======= ======== ======== ============= =============
BALANCE, DECEMBER 31, 2004 69,287 $69,287 $629,577 $ - $ 4,344 $ 703,208
Net income - - - 18,456 - 18,456
Unrealized net securities losses,
net of $(16,026) tax - - - - (23,799) (23,799)
Reclassification adjustment for
securities losses included in net
income, net of $209 tax - - - - 311 311
Net unrealized derivative gains
on cash flow hedges,
net of $1,135 tax - - - - 1,756 1,756
Reclassification adjustment on
cash flow hedges,
net of $(42) tax - - - - (66) (66)
Cash dividends - - - (12,987) - (12,987)
Stock repurchased (850) (850) (17,542) - - (18,392)
Stock issued under stock option,
restricted stock and
stock purchase plans 280 280 1,822 - - 2,102
------ ------- -------- -------- ------------- -------------
BALANCE, MARCH 31, 2005 68,717 $68,717 $613,857 $ 5,469 $ (17,454) $ 670,589
====== ======= ======== ======== ============= =============
The accompanying notes to consolidated financial statements are an integral part
of this statement.
5
OLD NATIONAL BANCORP
CONSOLIDATED STATEMENT OF CASH FLOWS
THREE MONTHS ENDED
MARCH 31,
(dollars in thousands) (unaudited) 2005 2004
- ---------------------------------- ---------- ---------
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 18,456 $ 19,509
---------- ---------
Adjustments to reconcile net income to cash provided by operating activities:
Depreciation 3,872 3,229
Amortization of other intangible assets and goodwill impairment 3,561 799
Net premium amortization on investment securities 905 1,565
Amortization of unearned stock compensation 492 -
Provision for loan losses 5,100 7,500
Net securities (gains) losses 520 (1,985)
Net gains on sales and write-downs of loans and other assets (1,167) (1,362)
Residential real estate loans originated for sale (78,115) (83,911)
Proceeds from sale of residential real estate loans 69,299 82,857
(Increase) decrease in accrued interest and other assets (16,344) 16,864
Increase in accrued expenses and other liabilities 5,793 6,778
---------- ---------
Total adjustments (6,084) 32,334
---------- ---------
Net cash flows provided by operating activities 12,372 51,843
---------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchases of investment securities available-for-sale (80,753) (388,541)
Proceeds from maturities, prepayments and calls
of investment securities available-for-sale 73,798 254,910
Proceeds from sales of investment securities available-for-sale 33,881 207,394
Proceeds from maturities, prepayments and calls
of investment securities held-to-maturity 7,418 6,242
Net principal collected from customers 19,961 6,992
Proceeds from sale of premises and equipment and other assets 924 806
Purchase of premises and equipment (1,716) (16,261)
---------- ---------
Net cash flows provided by investing activities 53,513 71,542
---------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES
Net increase (decrease) in deposits and short-term borrowings:
Noninterest-bearing demand deposits (647) (28,644)
Savings, NOW and money market deposits (31,961) (13,599)
Time deposits (19,992) (65,746)
Short-term borrowings 145,959 56,815
Payments for maturities on other borrowings (147,103) (156,559)
Proceeds from issuance of other borrowings - 54,543
Cash dividends paid (12,987) (12,629)
Common stock repurchased (18,392) (10,081)
Common stock issued under stock option, restricted stock
and stock purchase plans 1,610 7,381
---------- ---------
Net cash flows used in financing activities (83,513) (168,519)
---------- ---------
Net decrease in cash and cash equivalents (17,628) (45,134)
Cash and cash equivalents at beginning of period 216,998 236,889
---------- ---------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 199,370 $ 191,755
========== =========
Total interest paid $ 41,916 $ 42,051
Total taxes paid $ 400 $ -
The accompanying notes to consolidated financial statements are an integral part
of this statement.
6
OLD NATIONAL BANCORP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements include the
accounts of Old National Bancorp and its wholly-owned affiliates ("Old
National") and have been prepared in conformity with accounting principles
generally accepted in the United States of America and prevailing practices
within the banking industry. Such principles require management to make
estimates and assumptions that affect the reported amounts of assets,
liabilities and the disclosures of contingent assets and liabilities at the date
of the financial statements and amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates. All
significant intercompany transactions and balances have been eliminated. Certain
prior year amounts have been reclassified to conform with the 2005 presentation.
Such reclassifications had no effect on net income. In the opinion of
management, the consolidated financial statements contain all the normal and
recurring adjustments necessary for a fair statement of the financial position
of Old National as of March 31, 2005 and 2004, and December 31, 2004, and the
results of its operations for the three months ended March 31, 2005 and 2004.
Interim results do not necessarily represent annual results. These financial
statements should be read in conjunction with Old National's Annual Report for
the year ended December 31, 2004.
NOTE 2 - IMPACT OF ACCOUNTING CHANGES
In December 2004, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 123R, "Share-Based
Payment," that requires companies to expense the value of employee stock options
and similar awards. Subsequently, the Securities and Exchange Commission ("SEC")
delayed the effective date of SFAS No. 123R to annual periods beginning after
June 15, 2005. Given this delay, Old National expects to adopt SFAS No. 123R in
the first quarter of 2006 using the modified prospective method applied to all
outstanding and unvested share-based payment awards at the adoption date. Under
this method, Old National expects to expense approximately $1.4 million in 2006
and $0.1 million in 2007. At March 31, 2005, and until the effective date of
SFAS No. 123R, Old National will apply Accounting Principles Board ("APB")
Opinion No. 25 and related Interpretations in accounting for stock-based
compensation plans. Under APB Opinion No. 25, no compensation cost has been
recognized for any of the years presented, except with respect to restricted
stock plans as disclosed in the accompanying table. Old National has presented
in the following table net income and net income per share adjusted to proforma
amounts had compensation costs for Old National's stock-based compensation plans
been recorded based on fair values at grant dates.
THREE MONTHS ENDED
MARCH 31,
(dollars in thousands, except per share data) 2005 2004
- ---------------------------------------------- ------- --------
Net income as reported $18,456 $ 19,509
RESTRICTED STOCK:
Add: restricted stock compensation expense included
in reported net income, net of related tax effects 320 -
Deduct: restricted stock compensation expense
determined under fair value based method for all
awards, net of related tax effects (483) -
STOCK OPTIONS:
Deduct: stock option compensation expense
determined under fair value based method for all
awards, net of related tax effects (1,326) (1,663)
------- --------
Proforma net income $16,967 $ 17,846
======= ========
Basic net income per share:
As reported $ 0.27 $ 0.28
Proforma 0.25 0.26
Diluted net income per share:
As reported $ 0.27 $ 0.28
Proforma 0.25 0.26
7
In March 2004, the Emerging Issues Task Force ("EITF"), a unit of the FASB,
reached a consensus on EITF Issue 03-1, "The Meaning of Other-Than-Temporary
Impairment and Its Application to Certain Investments." This EITF Issue provides
guidance on evaluating when securities losses should be deemed
"other-than-temporary" and, consequently, written down through earnings. In
November 2003, a consensus was reached on the section of this EITF Issue that
mandates certain disclosures in annual financial statements for all investments
in an unrealized loss position for which "other-than-temporary" impairments have
not been recognized. The recognition and measurement guidance of this EITF Issue
was effective for reporting periods beginning after June 15, 2004, and the
disclosure requirements were effective for annual financial statements for
fiscal years ending after December 15, 2003. On September 30, 2004, the FASB
issued a Final FASB Staff Position that delayed the effective date for the
measurement and recognition guidance included in this EITF Issue to enable the
FASB to issue implementation guidance. Until such guidance is finalized, it is
uncertain whether this EITF Issue will have a material impact on Old National.
NOTE 3 - ACQUISITIONS
Subsequent to the quarter ended March 31, 2005, Old National completed the
purchase of J. W. F. Insurance Companies, an Indianapolis, Indiana-based
insurance agency that does business as J.W. Flynn Company and J.W.F. Specialty
Company, Inc. The transaction occurred on May 1, 2005 with a purchase price of
$18.5 million plus acquisition costs. Common shares of 968,271 were issued as
part of the transaction. On the date of acquisition, unaudited financial
statements of the companies showed assets of $5.6 million with year-to-date
revenues of $4.6 million and net loss of $0.2 million.
NOTE 4 - NET INCOME PER SHARE
Basic net income per share is computed by dividing net income by the
weighted-average number of common shares outstanding during each year, adjusted
to reflect all stock dividends. Diluted net income per share is computed as
above and assumes the conversion of outstanding stock options and restricted
stock. Restricted stock shares were antidilutive at March 31, 2005 for purposes
of calculating diluted net income per share in the following table. The
following table reconciles basic and diluted net income per share for the three
months ended March 31:
THREE MONTHS ENDED THREE MONTHS ENDED
(dollars and shares MARCH 31, 2005 MARCH 31, 2004
in thousands, --------------------------- ----------------------------
except per share data) INCOME SHARES AMOUNT INCOME SHARES AMOUNT
- ---------------------- ------- ------ ------ ------- ------ ------
BASIC NET INCOME PER SHARE
Income from continuing operations $19,440 68,589 $ 0.28 $18,590 69,677 $ 0.27
Income (loss) from discontinued operations (984) (0.01) 919 0.01
------- ------ ------ ------- ------ ------
Income from operations $18,456 68,589 $ 0.27 $19,509 69,677 $ 0.28
======= ====== ====== ======= ====== ======
DILUTED NET INCOME PER SHARE
Income from continuing operations $19,440 68,589 $ 0.28 $18,590 69,677 $ 0.27
Effect of dilutive securities:
Stock options - 198 - - 106 -
------- ------ ------ ------- ------ ------
Income from continuing operations and
assumed conversions 19,440 68,787 0.28 18,590 69,783 0.27
Income (loss) from discontinued operations (984) (0.01) 919 0.01
------- ------ ------ ------- ------ ------
Income from operations and assumed
conversions $18,456 68,787 $ 0.27 $19,509 69,783 $ 0.28
======= ====== ====== ======= ====== ======
8
NOTE 5 - INVESTMENT SECURITIES
The following table summarizes the amortized cost and fair value of the
available-for-sale and held-to-maturity investment securities portfolio at March
31 and the corresponding amounts of unrealized gains and losses therein:
AMORTIZED UNREALIZED UNREALIZED FAIR
(dollars in thousands) COST GAINS LOSSES VALUE
- ---------------------- ---------- ---------- ---------- ----------
2005
Available-for-sale $2,747,947 $ 31,310 $ (61,341) $2,717,916
Held-to-maturity 170,194 - (4,996) 165,198
2004
Available-for-sale $2,560,004 $ 68,873 $ (9,259) $2,619,618
Held-to-maturity 204,406 1,406 - 205,812
At March 31, 2005, Old National does not believe any individual unrealized loss
represents other-than-temporary impairment. The unrealized losses are primarily
attributable to changes in interest rates. Factors considered in evaluating the
securities included whether the securities were backed by the U.S. Government or
its agencies and credit quality concerns surrounding the recovery of the full
principal balance. Old National has both the intent and ability to hold
securities with any individual unrealized loss for a time necessary to recover
the amortized cost.
NOTE 6 - ALLOWANCE FOR LOAN LOSSES
Activity in the allowance for loan losses was as follows:
(dollars in thousands) 2005 2004
- ---------------------- ------- --------
Balance, January 1 $85,749 $ 95,235
Transfer from allowance for unfunded commitments - 1,381
Additions:
Provision charged to expense 5,100 7,500
Deductions:
Loans charged-off 6,364 5,652
Recoveries (1,822) (2,181)
------- --------
Net charge-offs 4,542 3,471
------- --------
Balance, March 31 $86,307 $100,645
======= ========
During 2004, Old National reclassified the allowance for loan losses related to
unfunded loan commitments to other liabilities.
The following is a summary of information pertaining to impaired loans at
March 31:
(dollars in thousands) 2005 2004
- ---------------------- ------- --------
Impaired loans without a valuation allowance $10,793 $ 22,137
Impaired loans with a valuation allowance 34,915 71,913
------- --------
Total impaired loans $45,708 $ 94,050
======= ========
Valuation allowance related to impaired loans $14,495 $ 27,475
A loan is considered impaired under SFAS No. 114, "Accounting by Creditors for
Impairment of a Loan, an amendment of FASB Statement No. 5 and 15" when, based
on current information and events, it is probable that a creditor will be unable
to collect all amounts due according to the contractual terms of the loan
agreement. An impaired loan does not include larger groups of smaller-balance
homogeneous loans that are collectively evaluated for impairment, loans that are
measured at fair value or at the lower of cost or fair value, leases and debt
securities.
For the three months ended March 31, 2005, the average balance of impaired loans
was $44.7 million for which no interest was recorded. For the three months ended
March 31, 2004, the average balance of impaired loans was $92.8
9
million for which $0.1 million of interest was recorded. No additional funds are
committed to be advanced in connection with impaired loans. Loans deemed
impaired are evaluated primarily using the fair value of the underlying
collateral.
NOTE 7 - GOODWILL AND OTHER INTANGIBLE ASSETS
At March 31, 2005 and 2004, Old National had goodwill in the amount of $101.0
million and $129.3 million, respectively. During the three months ended March
31, 2005, Old National reclassified specific non-strategic assets as assets held
for sale, including $26.1 million of goodwill. Concurrent with this
classification, these discontinued operations were evaluated for impairment
using estimated fair values in the current market, resulting in goodwill
impairment of $2.9 million.
The change in the carrying amount of goodwill by segment for the three months
ended March 31, 2005, was as follows:
COMMUNITY
(dollars in thousands) BANKING OTHER TOTAL
- ---------------------- --------- -------- --------
Balance, January 1, 2005 $ 70,944 $ 59,003 $129,947
Goodwill transfered to assets held for sale - (26,082) (26,082)
Goodwill impairment - (2,900) (2,900)
--------- -------- --------
Balance, March 31, 2005 $ 70,944 $ 30,021 $100,965
========= ======== ========
At March 31, 2005 and 2004, Old National had $16.5 million and $41.1 million,
respectively, in unamortized intangible assets. During the three months ended
March 31, 2005, Old National reclassified definite-lived intangible assets of
$18.9 million and indefinite-lived assets of $2.8 million to assets held for
sale and discontinued the related amortization. Old National continues to
amortize definite-lived intangible assets in continuing operations over the
estimated remaining life of each respective asset.
The following table shows the gross carrying amounts and accumulated
amortization for other intangible assets as of March 31:
GROSS CARRYING ACCUMULATED NET CARRYING
(dollars in thousands) AMOUNT AMORTIZATION AMOUNT
- ---------------------- -------------- ------------ ------------
2005
Amortized intangible assets:
Core deposit $ 5,574 $ (3,778) $ 1,796
Customer business relationships 17,025 (2,295) 14,730
-------------- ------------ ------------
Total intangible assets $ 22,599 $ (6,073) $ 16,526
============== ============ ============
2004
Amortized intangible assets:
Core deposit $ 5,574 $ (3,198) $ 2,376
Customer business relationships 36,676 (2,544) 34,132
Non-compete agreements 1,100 (96) 1,004
Technology 1,300 (499) 801
-------------- ------------ ------------
Total amortized intangible assets 44,650 (6,337) 38,313
Unamortized intangible assets:
Trade name 2,800 - 2,800
-------------- ------------ ------------
Total intangible assets $ 47,450 $ (6,337) $ 41,113
============== ============ ============
10
Total amortization expense associated with other intangible assets for the three
months ended March 31, was $661 thousand in 2005 and $799 thousand in 2004. The
following is the estimated amortization expense for the future years ending:
(dollars in thousands)
- ----------------------
2005 remaining $ 1,285
2006 1,584
2007 1,283
2008 1,214
2009 1,146
Thereafter 10,014
-------
Total $16,526
=======
NOTE 8 - MORTGAGE SERVICING RIGHTS
Mortgage servicing rights derived from loans sold with servicing retained were
$15.1 million and $12.3 million at March 31, 2005 and 2004, respectively. Loans
serviced for others are not included in the consolidated balance sheet of Old
National. The unpaid principal balance of mortgage loans serviced for others at
March 31 was $1.949 billion in 2005 and $1.737 billion in 2004. At March 31,
2005 and 2004, the fair value of capitalized mortgage servicing rights was $20.4
million and $12.4 million, respectively. Old National's key economic assumptions
used in determining the fair value of mortgage servicing rights were a weighted
average prepayment rate of 232 PSA and a discount rate of 9.10% at March 31,
2005, and a weighted average prepayment rate of 436 PSA and a discount rate of
8.50% at March 31, 2004.
The following summarizes the activities related to mortgage servicing rights and
the related valuation allowance at March 31:
(dollars in thousands) 2005 2004
- ---------------------- ------- -------
Balance before valuation allowance, January 1 $15,829 $15,790
Rights capitalized 688 830
Amortization (1,388) (1,725)
------- -------
Balance before valuation allowance, March 31 15,129 14,895
------- -------
Valuation allowance:
Balance, January 1 - (1,131)
Additions to valuation allowance - (1,940)
Reductions to valuation allowance - 495
------- -------
Balance, March 31 - (2,576)
------- -------
Mortgage servicing rights, net $15,129 $12,319
======= =======
11
NOTE 9 - FINANCING ACTIVITIES
The following table summarizes Old National's other borrowings at March 31:
(dollars in thousands) 2005 2004
- ---------------------- ---------- ----------
OLD NATIONAL BANCORP:
Medium-term notes, Series 1997 (fixed rates
3.50% to 7.03%) maturities August 2007 to
June 2008 $ 110,000 $ 113,200
Junior subordinated debentures (fixed rates
8.00% to 9.50%) maturities March 2030
to April 2032 150,000 150,000
SFAS 133 fair value hedge and other basis adjustments (1,864) 11,416
OLD NATIONAL BANK:
Securities sold under agreements to repurchase (fixed
rates 2.05% to 3.08% and variable rates 1.70% to 3.61%)
maturities January 2007 to December 2009 198,000 298,000
Federal Home Loan Bank advances (fixed rates
4.28% to 8.34%) maturities June 2005 to
October 2022 434,741 608,788
Senior unsecured bank notes (fixed rate 3.95%
and variable rates 3.02% to 3.38%) maturities
May 2005 to February 2008 115,000 190,000
Subordinated bank notes (fixed rate 6.75%)
maturing October 2011 150,000 150,000
Capital lease obligation 4,515 4,543
SFAS 133 fair value hedge and other basis adjustments (4,797) 7,255
---------- ----------
Total other borrowings $1,155,595 $1,533,202
========== ==========
Contractual maturities of other borrowings at March 31, 2005, were as follows:
(dollars in thousands)
- ----------------------
Due in 2005 $ 95,075
Due in 2006 78,361
Due in 2007 110,034
Due in 2008 343,037
Due in 2009 76,040
Thereafter 459,709
SFAS 133 fair value hedge and other basis adjustments (6,661)
----------
Total $1,155,595
==========
FEDERAL HOME LOAN BANK
Federal Home Loan Bank advances had weighted-average rates of 5.71% and 5.24% at
March 31, 2005 and 2004, respectively. These borrowings are collateralized by
investment securities and residential real estate loans up to 145% of
outstanding debt.
SUBORDINATED BANK NOTES
Subordinated bank notes qualify as Tier 2 Capital for regulatory purposes and
are in accordance with the senior and subordinated global bank note program in
which Old National Bank may issue and sell up to a maximum of $1 billion. Notes
issued by Old National Bank under the global note program are not obligations
of, or guaranteed by, Old National Bancorp.
12
JUNIOR SUBORDINATED DEBENTURES
Junior subordinated debentures related to trust preferred securities are
classified in "other borrowings". These securities qualify as Tier 1 capital for
regulatory purposes.
Old National guarantees the payment of distributions on the trust preferred
securities issued by ONB Capital Trust II. ONB Capital Trust II issued $100
million in preferred securities in April 2002. The preferred securities have a
liquidation amount of $25 per share with a cumulative annual distribution rate
of 8.0% or $2.00 per share payable quarterly and maturing on April 15, 2032.
Proceeds from the issuance of these securities were used to purchase junior
subordinated debentures with the same financial terms as the securities issued
by ONB Capital Trust II. Old National may redeem the junior subordinated
debentures and thereby cause a redemption of the trust preferred securities in
whole (or in part from time to time) on or after April 12, 2007, and in whole
(but not in part) following the occurrence and continuance of certain adverse
federal income tax or capital treatment events. Costs associated with the
issuance of these trust preferred securities totaling $3.3 million in 2002 were
capitalized and are being amortized through the maturity dates of the
securities. The unamortized balance is included in other assets in the
consolidated balance sheet.
Old National guarantees the payment of distributions on the trust preferred
securities issued by ONB Capital Trust I.
ONB Capital Trust I issued $50 million in preferred securities in March 2000.
The preferred securities have a liquidation amount of $25 per share with a
cumulative annual distribution rate of 9.5% or $2.375 per share payable
quarterly and maturing on March 15, 2030. Proceeds from the issuance of these
securities were used to purchase junior subordinated debentures with the same
financial terms as the securities issued by ONB Capital Trust I. Old National
may redeem the junior subordinated debentures and thereby cause a redemption of
the trust preferred securities in whole (or in part from time to time) on or
after March 15, 2005, and in whole (but not in part) following the occurrence
and continuance of certain adverse federal income tax or capital treatment
events. Costs associated with the issuance of the trust preferred securities
totaling $1.8 million in 2000, were capitalized and are being amortized through
the maturity dates of the securities. The unamortized balance is included in
other assets in the consolidated balance sheet.
Subsequent to March 31, 2005, Old National called for the redemption of the $50
million of junior subordinated debentures issued in March 2000, thereby causing
a redemption of all of the ONB Capital Trust I, 9.5% trust preferred securities
effective May 23, 2005. In connection with this redemption, Old National will
expense the remaining $1.7 million of unamortized debt issuance costs related to
this debt.
CAPITAL LEASE OBLIGATION
On January 1, 2004, Old National entered into a long-term capital lease
obligation for a new branch office building in Owensboro, Kentucky, which
extends for 25 years with one renewal option for 10 years. The economic
substance of this lease is that Old National is financing the acquisition of the
building through the lease and accordingly, the building is recorded as an asset
and the lease is recorded as a liability. The fair value of the capital lease
obligation was estimated using a discounted cash flow analysis based on Old
National's current incremental borrowings rate for similar types of borrowing
arrangements.
At March 31, 2005, the future minimum lease payments under the capital lease
were as follows:
(dollars in thousands)
- ----------------------
2005 remaining $ 278
2006 371
2007 371
2008 371
2009 390
Thereafter 12,874
----------
Total minimum lease payments 14,655
Less amounts representing interest 10,140
----------
Present value of net minimum lease payments $ 4,515
==========
13
NOTE 10 - EMPLOYEE BENEFIT PLANS
RETIREMENT PLAN
The following table sets forth the components of the net periodic benefit cost
for Old National's noncontributory defined benefit retirement plan for the three
months ended March 31:
THREE MONTHS ENDED
MARCH 31,
(dollars in thousands) 2005 2004
- ---------------------- ----- -----
Service cost $ 518 $ 537
Interest cost 893 975
Expected return on plan assets (908) (851)
Amortization of prior service cost 8 8
Amortization of transitional asset - (108)
Recognized actuarial loss 408 397
----- -----
Net periodic benefit cost $ 919 $ 958
===== =====
STOCK-BASED COMPENSATION
Under the 1999 Equity Incentive Plan, Old National is authorized to grant up to
7.6 million shares of common stock. At March 31, 2005, 6.6 million shares were
outstanding under the plan, including 6.1 million stock options and 0.5 million
shares of restricted stock as described below, and 1.0 million shares were
available for issuance. In addition, Old National assumed 0.1 million stock
options outstanding through various mergers. Old National accounts for its
stock-based compensation plans in accordance with APB Opinion No. 25 and related
Interpretations, under which no compensation cost has been recognized, except
with respect to restricted stock plans. See Note 2 for proforma net income and
net income per share data.
Stock Options
On February 2, 2004, Old National granted 0.3 million stock options to key
associates at an option price of $20.43, the closing price of Old National's
stock on that date. The options vested 100% on December 31, 2004, and expire in
ten years. Also during 2004, Old National granted 26.3 thousand shares to a key
associate at an option price of $23.99, the closing price of Old National's
stock on that date. These options vest 100% on September 7, 2005, and expire in
ten years. At March 31, 2005, Old National had 6.1 million of stock options
outstanding.
Restricted Stock
On January 27, 2005, Old National's Board of Directors approved a restricted
stock award to grant 0.2 million shares to certain key officers with shares
vesting at the end of a thirty-eight month period based on the achievement of
certain targets. On July 22, 2004, Old National's Board of Directors approved a
restricted stock award to grant 0.3 million shares to certain key officers with
shares vesting at the end of a thirty-two month period based on the achievement
of certain targets. Compensation expense is recognized on a straight-line basis
over the performance period. Shares are subject to certain restrictions and risk
of forfeiture by the participants.
At March 31, 2005, the shares issued have an estimated value of $9.5 million
based on the stock price on that date. The expense recognized during the quarter
ended March 31, 2005, related to the vesting of these awards was $0.5 million.
The remaining $7.9 million of deferred compensation is included as a component
of capital surplus.
14
NOTE 11 - INCOME TAXES
The following is a summary of the major items comprising the differences in
taxes from continuing operations computed at the federal statutory rate and as
recorded in the consolidated statement of income for the three months ended
March 31:
(dollars in thousands) 2005 2004
- ---------------------- ------- -------
Provision at statutory rate of 35% $ 8,115 $ 7,440
Tax-exempt income (4,340) (4,805)
Other, net (28) 32
------- -------
Income tax expense $ 3,747 $ 2,667
======= =======
Effective tax rate 16.2 % 12.5 %
For the three months ended March 31, 2005, the effective tax rate was higher
than for the same period of last year.
The increased effective tax rate for the quarter ended March 31, 2005 resulted
from a lower percentage of tax-exempt income to total income compared to the
quarter ended March 31, 2004.
NOTE 12 - COMPREHENSIVE INCOME
THREE MONTHS ENDED
MARCH 31,
(dollars in thousands) 2005 2004
- ---------------------- -------- -------
Net income: $ 18,456 $19,509
Unrealized gains (losses) on securities:
Unrealized holding gains (losses) arising during the period, net of tax (23,799) 21,929
Less: reclassification adjustment for securities (gains) losses realized in
net income, net of tax 311 (1,150)
Cash flow hedges:
Net unrealized derivative gains on cash flow hedges, net of tax 1,756 365
Less: reclassification adjustment on cash flow hedges, net of tax (66) 47
-------- -------
Net unrealized gains (losses) (21,798) 21,191
-------- -------
Comprehensive income (loss) $ (3,342) $40,700
======== =======
15
NOTE 13 - DERIVATIVE FINANCIAL INSTRUMENTS
Old National designates its derivatives based upon criteria established by SFAS
No. 133, as amended by SFAS No. 138, "Accounting for Certain Derivative
Instruments and Certain Hedging Activities, an Amendment to FASB Statement No.
133," and SFAS No. 149, "Amendment of Statement 133 on Derivative Instruments
and Hedging Activities." The following table summarizes the derivative financial
instruments utilized by Old National at March 31:
2005 2004
---------------------------------- -----------------------------------
ESTIMATED FAIR VALUE ESTIMATED FAIR VALUE
NOTIONAL -------------------- NOTIONAL --------------------
(dollars in thousands) AMOUNT GAIN LOSS AMOUNT GAIN LOSS
- ---------------------- ---------- -------- -------- ---------- ------- -------
FAIR VALUE HEDGES
Receive fixed interest rate swaps $1,204,313 $ 3,392 $(28,103) $1,068,096 $22,118 $(5,877)
Pay fixed interest rate swaps 20,000 180 (3) - - -
Forward mortgage loan contracts 8,745 163 - 2,642 - (16)
CASH FLOW HEDGES
HELOC cash flow 100,000 - (1,244) 100,000 2,073 -
Pay fixed interest rate swaps 50,000 504 - 150,000 109 (468)
Anticipated floating rate debt 195,000 1,942 (29) - - -
STAND ALONE HEDGES
Interest rate lock commitments 36,234 24 - 65,535 230 -
Forward mortgage loan contracts 50,860 282 - 69,786 - (65)
Options on contracts purchased - - - 4,000 - -
MATCHED CUSTOMER HEDGES
Customer interest rate swaps 101,904 478 (1,016) 44,523 1,097 (69)
Customer interest rate swaps
with counterparty 101,904 1,012 (474) 44,523 69 (1,097)
Customer interest rate cap 2,300 - (21) 15,300 - (53)
Customer interest rate cap
with counterparty 2,300 21 - 15,300 53 -
---------- -------- -------- ---------- ------- -------
Total $1,873,560 $ 7,998 $(30,890) $1,579,705 $25,749 $(7,645)
========== ======== ======== ========== ======= =======
NOTE 14 - COMMITMENTS AND CONTINGENCIES
LITIGATION
In the normal course of business, various legal actions and proceedings, which
are being vigorously defended, are pending against Old National and its
affiliates.
Among these are several lawsuits relating to activities in 1995 of First
National Bank & Trust Company, Carbondale, Illinois, ("First National"), which
Old National acquired in 1999. These lawsuits were brought against Old National
Bank, as successor to First National, and were filed by alleged third-party
creditors of certain structured settlement trusts. The lawsuits filed by the
third-party creditors allege actual damages totaling approximately $31.0
million, as well as unspecified punitive damages and other damages and
attorneys' fees. In addition, certain of the corporate defendants in these
lawsuits have filed lawsuits asserting contribution and indemnity against Old
National Bank. The cases were brought in the City of St. Louis and St. Louis
County in Missouri; St. Clair County, Madison County and Cook County in
Illinois; and the U.S. Federal District Court in southern Illinois. During the
quarter ended March 31, 2005, Old National received summary judgement in its
favor in the U.S. Federal District Court case in southern Illinois. No appeal
has been filed from that summary judgement order.
During the fourth quarter of 2003, Old National established a reserve of $10.0
million for settlement of certain of the lawsuits pending in the City of St.
Louis and St. Louis County in Missouri and St. Clair County and Madison County
in Illinois. As of March 31, 2004, Old National had paid $9.1 million of this
reserve to settle a number of lawsuits representing approximately $12.0 million
in alleged damages. The approximate $0.9 million remaining in
16
the reserve for litigation settlement is deemed at this time to be adequate to
cover the remaining exposure for these cases of approximately $3.0 million.
Old National has obtained a summary judgement in its favor at the trial court
level on lawsuits representing approximately $16.0 million of the estimated
$31.0 million in exposure. The Court of Appeals for the First District recently
affirmed the decision of the trial court for these cases filed in Cook County,
Illinois. It is not expected that future judgements or settlements in the Cook
County matters will have a material impact on Old National's results of
operations.
CREDIT-RELATED FINANCIAL INSTRUMENTS
In the normal course of business, Old National's banking affiliates have entered
into various agreements to extend credit, including loan commitments of $1.235
billion, commercial letters of credit of $21.2 million and standby letters of
credit of $121.9 million at March 31, 2005. At March 31, 2004, loan commitments
were $1.520 billion, commercial letters of credit were $19.6 million and standby
letters of credit were $96.1 million. These commitments are not reflected in the
consolidated financial statements. No material losses are expected to result
from these transactions.
At March 31, 2005 and 2004, Old National had credit extensions of $93.4 million
and $72.4 million, respectively, with various unaffiliated banks related to
letter of credit commitments issued on behalf of Old National's clients. At
March 31, 2005 and 2004, Old National provided collateral to the unaffiliated
banks to secure credit extensions totaling $62.7 million and $41.0 million,
respectively. Old National did not provide collateral for the remaining credit
extensions.
NOTE 15 - FINANCIAL GUARANTEES
Old National holds instruments, in the normal course of business with clients
that are considered financial guarantees in accordance with FIN 45, "Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others." Standby letters of credit guarantees are
issued in connection with agreements made by clients to counterparties. Standby
letters of credit are contingent upon failure of the client to perform the terms
of the underlying contract. Credit risk associated with standby letters of
credit is essentially the same as that associated with extending loans to
clients and is subject to normal credit policies. The term of these standby
letters of credit is typically one year or less. At March 31, 2005, the notional
amount of standby letters of credit was $121.9 million, which represents the
maximum amount of future funding requirements, and the carrying value was $0.4
million. Old National also enters into forward contracts for the future delivery
of conforming residential real estate loans at a specified interest rate to
reduce interest rate risk associated with loans held for sale. These forward
contracts are considered derivative instruments accounted for under SFAS No.
133. See additional information in Note 13.
NOTE 16 - SEGMENT INFORMATION
Old National operates in two reportable segments: community banking and
treasury. The community banking segment serves customers in both urban and rural
markets providing a wide range of financial services including commercial, real
estate and consumer loans; lease financing; checking, savings, time deposits and
other depository accounts; cash management services; and debit cards and other
electronically accessed banking services and Internet banking. Treasury manages
investments, wholesale funding, interest rate risk, liquidity and leverage for
Old National. Additionally, treasury provides other miscellaneous capital
markets products for its corporate banking clients. Beginning January 1, 2005,
Old National disaggregated internal reporting for its non-bank operations,
including wealth management, investment consulting, insurance, brokerage and
investment and annuity sales. These lines of business are now included in the
"other" column for all periods reported.
In order to measure performance for each segment, Old National allocates
capital, corporate overhead and income tax provision to each segment. Capital
and corporate overhead are allocated to each segment using various
methodologies, which are subject to periodic changes by management. Income taxes
are allocated using the effective tax rate. Tax-exempt income is primarily
within the treasury segment, creating a tax benefit for this segment.
Intersegment sales and transfers are not significant.
17
Old National uses a funds transfer pricing ("FTP") system to eliminate the
effect of interest rate risk from net interest income in the community banking
segment and from companies included in the other column. The FTP system is used
to credit or charge each segment for the funds the segments create or use. The
net FTP credit or charge is reflected in segment net interest income.
The financial information for each operating segment is reported on the basis
used internally by Old National's management to evaluate performance and is not
necessarily comparable with similar information for any other financial
institution.
Summarized financial information concerning segments is shown in the following
table for the three months ended March 31:
COMMUNITY
(dollars in thousands) BANKING TREASURY OTHER TOTAL
- ---------------------- ---------- ---------- -------- ----------
2005
Net interest income $ 65,801 $ (3,795) $ (3,368) $ 58,638
Provision for loan losses 5,079 21 - 5,100
Noninterest income 17,383 1,661 16,682 35,726
Noninterest expense 54,127 747 11,203 66,077
Income (loss) before income taxes and
discontinued operations 23,978 (2,902) 2,111 23,187
Income tax expense (benefit) 6,349 (3,286) 684 3,747
Loss from discontinued operations,
net of income tax benefit - - (984) (984)
Segment profit 17,629 384 443 18,456
Total assets 5,161,309 3,370,095 261,643 8,793,047
---------- ---------- -------- ----------
2004
Net interest income $ 70,186 $ (1,901) $ (3,186) $ 65,099
Provision for loan losses 7,442 58 - 7,500
Noninterest income 14,907 4,099 18,500 37,506
Noninterest expense 58,302 883 14,663 73,848
Income before income taxes and
discontinued operations 19,349 1,257 651 21,257
Income tax expense (benefit) 4,648 (2,190) 209 2,667
Income from discontinued operations,
net of income tax expense - - 919 919
Segment profit 14,701 3,447 1,361 19,509
Total assets 5,738,373 3,267,233 261,683 9,267,289
---------- ---------- -------- ----------
NOTE 17 - DISCONTINUED OPERATIONS
In February 2005, Old National committed to a plan to sell selected
non-strategic assets. Actions to locate buyers and transact the sales have been
initiated and are expected to be complete during 2005. These sales were
evaluated for asset impairment, including goodwill, in accordance with SFAS No.
144, "Accounting for the Impairment or Disposal of Long-lived Assets," and SFAS
No. 142, "Goodwill and Other Intangible Assets." Goodwill impairment of $2.1
million after-tax was recorded as a result of these evaluations. In addition, in
connection with the sale of one of the disposal groups acquired in a tax-free
reorganization under Internal Revenue Code section 368, tax expense of
approximately $8.0 million to $10.0 million is expected to be recorded and
included in discontinued operations at the time of sale.
18
The operating activities of these non-strategic assets have been reclassified to
discontinued operations for all periods in the consolidated statement of income.
The discontinued operations generated revenues of $8.5 million and an after-tax
loss of $1.0 million for the three months ended March 31, 2005. The after-tax
loss is the net result of an operating profit of $1.1 million and a goodwill
impairment loss of $2.1 million. For the three months ended March 31, 2004, the
discontinued operations generated revenues of $8.1 million and after-tax income
$0.9 million. The discontinued operations are reported in the "other" column in
the segment reporting footnote.
Assets and liabilities related to discontinued operations were recorded at their
estimated net realizable value and reported as held for sale in the consolidated
balance sheet. Carrying amounts of the major classes of assets and liabilities
of the discontinued operations included as held for sale were as follows at
March 31, 2005:
(dollars in thousands)
- ----------------------
ASSETS HELD FOR SALE:
Money market investments $ 5,592
Available-for-sale securities 11
Premises and equipment, net 364
Goodwill 26,082
Other intangible assets 21,681
Other assets 3,511
-------
Total assets held for sale $57,241
=======
LIABILITIES HELD-FOR-SALE:
Other liabilities $11,238
=======
19
PART I. FINANCIAL INFORMATION
ITEM 2.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
EXECUTIVE SUMMARY
Net income for the three months ended March 31, 2005, was $18.5 million, a
decrease of $1.0 million compared to $19.5 million for the three months ended
March 31, 2004. Net income per diluted share was $0.27 for the three months
ended March 31, 2005, compared to $0.28 for the three months ended March 31,
2004. Net income includes after-tax loss from discontinued operations of $1.0
million, or $0.01 per diluted share for the three months ended March 31, 2005,
and after-tax income from discontinued operations $0.9 million, or $0.01 per
diluted share for the three months ended March 31, 2004, related to Old
National's plan to sell selected non-strategic assets during 2005. See Note 17
to the consolidated financial statements for further discussion of discontinued
operations.
Old National's financial condition at March 31, 2005, continues to reflect
reductions in loans, the investment portfolio, time deposits, and borrowed
funds. Total assets at March 31, 2005, were $8.793 billion compared to total
assets at March 31, 2004, of $9.267 billion. At March 31, 2005, Old National's
financial condition includes total assets of $57.2 million and total liabilities
of $11.2 million related to Old National's plan to sell selected non-strategic
assets during 2005. See Note 17 to the consolidated financial statements for
further discussion of discontinued operations.
Management uses various indicators such as return on assets, return on equity
and asset quality ratios in order to evaluate the performance of the business.
These are discussed throughout this "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
FINANCIAL BASIS AND FORWARD-LOOKING STATEMENTS
The following discussion is an analysis of Old National's results of operations
for the three months ended March 31, 2005 and 2004, and financial condition as
of March 31, 2005, compared to March 31, 2004, and December 31, 2004. This
discussion and analysis should be read in conjunction with Old National's
consolidated financial statements and related notes. This discussion contains
forward-looking statements concerning Old National's business that are based on
estimates and involves certain risks and uncertainties. Therefore, future
results could differ significantly from management's current expectations and
the related forward-looking statements.
The following is a cautionary note about forward-looking statements. In its oral
and written communications, Old National from time to time includes
forward-looking statements, within the meaning of the Private Securities
Litigation Reform Act of 1995. Such forward-looking statements can include
statements about estimated cost savings, plans and objectives for future
operations, and expectations about performance as well as economic and market
conditions and trends. These statements often can be identified by the use of
words like "expect," "may," "could," "intend," "project," "estimate," "believe"
or "anticipate." Old National may include forward-looking statements in filings
with the Securities and Exchange Commission, such as this Form 10-Q, in other
written materials and in oral statements made by senior management to analysts,
investors, representatives of the media and others. It is intended that these
forward-looking statements speak only as of the date they are made, and Old
National undertakes no obligation to update any forward-looking statement to
reflect events or circumstances after the date on which the forward-looking
statement is made or to reflect the occurrence of unanticipated events. By their
nature, forward-looking statements are based on assumptions and are subject to
risks, uncertainties and other factors. Actual results may differ materially
from those contained in the forward-looking statement. Uncertainties which could
affect Old National's future performance include, but are not limited to: (1)
economic, market, operational, liquidity, credit and interest rate risks
associated with Old National's business; (2) economic conditions generally and
in the financial services industry; (3) increased competition in the financial
services industry either nationally or regionally, resulting in, among other
things, credit quality deterioration; (4) volatility and direction of market
interest rates; (5) governmental legislation and regulation (see the discussion
under the heading "Supervision and Regulation" above), including changes in
accounting regulation or standards; (6) the ability of Old National to execute
its business plan and execute the "Ascend" project initiatives; (7) a weakening
of the economy which could materially impact credit quality trends and the
ability to generate loans; (8) changes in the securities markets; and (9)
changes in fiscal, monetary and tax policies. Investors should consider these
risks, uncertainties and other factors in
20
addition to those mentioned by Old National in this and its other filings from
time to time when considering any forward-looking statement.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The "Management's Discussion and Analysis of Financial Condition and Results of
Operations," as well as disclosures found elsewhere in this quarterly report,
are based upon Old National's consolidated financial statements, which have been
prepared in accordance with accounting principles generally accepted in the
United States of America. The preparation of these financial statements requires
Old National to make estimates and judgements that affect the reported amounts
of assets, liabilities, revenues and expenses. Material estimates that are
particularly susceptible to significant change in the near term relate to the
determination of the allowance for loan losses, the valuation of the mortgage
servicing rights and the valuation of goodwill and other intangible assets.
Actual results could differ from those estimates.
- - ALLOWANCE FOR LOAN LOSSES. The allowance for loan losses is maintained at
a level believed adequate by management to absorb probable losses inherent
in the consolidated loan portfolio. Management's evaluation of the
adequacy of the allowance is an estimate based on reviews of individual
loans, pools of homogeneous loans, assessments of the impact of current
and anticipated economic conditions on the portfolio and historical loss
experience. The allowance represents management's best estimate, but
significant downturns in circumstances relating to loan quality and
economic conditions could result in a requirement for additional allowance
in the near future. Likewise, an upturn in loan quality and improved
economic conditions may allow a reduction in the required allowance. In
either instance, unanticipated changes could have a significant impact on
results of operations.
The allowance is increased through a provision charged to operating
expense. Uncollectible loans are charged-off through the allowance.
Recoveries of loans previously charged-off are added to the allowance. A
loan is considered impaired when it is probable that contractual interest
and principal payments will not be collected either for the amounts or by
the dates as scheduled in the loan agreement. Old National's policy for
recognizing income on impaired loans is to accrue interest unless a loan
is placed on nonaccrual status.
Old National monitors the quality of its loan portfolio on an on-going
basis and uses a combination of detailed credit assessments by
relationship managers and credit officers, historic loss trends, and
economic and business environment factors in determining its allowance for
loan losses. Old National records provisions for loan losses based on
current loans outstanding, grade changes, mix of loans and expected
losses. A detailed loan loss evaluation on an individual loan basis for
the company's highest risk loans is performed quarterly. Management
follows the progress of the economy and how it might affect Old National's
borrowers in both the near and the intermediate term. Old National has a
formalized and disciplined independent loan review program to evaluate
loan administration, credit quality and compliance with corporate loan
standards. This program includes periodic reviews conducted at the
community bank locations as well as regular reviews of problem loan
reports, delinquencies and charge-offs.
Old National uses migration analysis as a tool to determine the adequacy
of the allowance for loan losses for non-retail loans that are not
impaired. Migration analysis is a statistical technique that attempts to
estimate probable losses for existing pools of loans by matching actual
losses incurred on loans back to their origination. The migration-derived
historical commercial loan loss rates are applied to the current
commercial loan pools to arrive at an estimate of probable losses for the
loans existing at the time of analysis.
Old National calculates migration analysis using several different
scenarios based on varying assumptions to evaluate the widest range of
possible outcomes. The amounts determined by migration analysis are
adjusted for management's best estimate of the effects of current economic
conditions, loan quality trends, results from internal and external review
examinations, loan volume trends, credit concentrations and various other
factors. Historic loss ratios adjusted for expectations of future economic
conditions are used in determining the appropriate level of reserves for
consumer and residential real estate loans.
Management's analysis of probable losses inherent in the portfolio at
March 31, 2005, resulted in a range for allowance for loan losses of $8.5
million with the potential effect to net income ranging from a decrease of
$1.4
21
million to an increase of $4.2 million. These sensitivities are
hypothetical and are not intended to represent actual results.
- - MORTGAGE SERVICING RIGHTS. Mortgage servicing rights are recognized as
separate assets when loans are sold with servicing retained. The total
price of loans sold is allocated between the loans sold and the mortgage
servicing rights retained based on the relative fair values of each. The
fair value of capitalized mortgage servicing rights is estimated by
calculating the present value of estimated future net servicing income
derived from related cash flows. Amortization of capitalized mortgage
servicing rights is determined in proportion to and over the period of
estimated net servicing income of the underlying financial assets.
Impairment of mortgage servicing rights exists if the book value of the
mortgage servicing rights exceeds its estimated fair value. In determining
impairment, mortgage servicing rights are stratified by interest rates.
Critical assumptions used in determining fair value include expected
mortgage loan prepayment rates, discount rates and other economic factors,
which are determined based on current market conditions. The expected
rates of mortgage loan prepayments are the most significant factors
driving the value of mortgage servicing rights. Increases in expected
mortgage loan prepayments reduce estimated future net servicing cash flows
because the life of the underlying loan is reduced. Fair values are
derived by using a statistical modeling technique utilizing third-party
market-based prepayment rate assumptions. Negative adjustments to the
value, if any, are recognized through a valuation allowance by charges
against mortgage servicing income. The use of a valuation allowance
enables the recovery of this value as market conditions become more
favorable.
The decrease in fair value of mortgage servicing rights at March 31, 2005,
to immediate 10% and 20% adverse changes in the current prepayment
assumptions would be approximately $0.9 million and $1.7 million,
respectively. A 10% and 20% adverse change in the discount rate assumption
would decrease the fair value of mortgage servicing rights at March 31,
2005, by $0.6 million and $1.2 million, respectively. These sensitivities
are hypothetical and are not intended to represent actual results. Also,
in reality, changes in one factor may result in changes in other factors,
which might magnify or counteract the sensitivities.
- - GOODWILL AND OTHER INTANGIBLE ASSETS. For acquisitions, Old National is
required to record the assets acquired, including identified other
intangible assets, and the liabilities assumed at their fair value. These
often involve estimates based on third-party valuations, such as
appraisals, or internal valuations based on discounted cash flow analyses
or other valuation techniques that may include estimates of attrition,
inflation, asset growth rates or other relevant factors. In addition, the
determination of the useful lives for which an intangible asset will be
amortized is subjective. Under Statement of Financial Accounting Standards
("SFAS") No. 142 "Goodwill and Other Intangible Assets," goodwill and
indefinite-lived assets recorded must be reviewed for impairment on an
annual basis, as well as on an interim basis if events or changes indicate
that the asset might be impaired. An impairment loss must be recognized
for any excess of carrying value over fair value of the goodwill or the
indefinite-lived intangible with subsequent reversal of the impairment
loss being prohibited.
The determination of fair values is based on internal valuations using
management's assumptions of future growth rates, future attrition,
discount rates, multiples of earnings or other relevant factors. Changes
in these factors, as well as downturns in economic or business conditions,
could have a significant adverse impact on the carrying values of goodwill
or intangibles and could result in impairment losses affecting the
financials of the company as a whole and the individual lines of business
in which the goodwill or intangibles reside.
Management believes the accounting estimates related to the allowance for loan
losses; the capitalization, amortization and valuation of mortgage servicing
rights; and the valuation of goodwill and other intangible assets are "critical
accounting estimates" because: (1) the estimates are highly susceptible to
change from period to period because they require company management to make
assumptions concerning, among other factors, the changes in the types and
volumes of the portfolios, rates of future prepayments, valuation assumptions
and anticipated economic conditions, and (2) the impact of recognizing an
impairment or loan loss could have a material effect on Old National's assets
reported on the balance sheet as well as net income. Management has discussed
the development and selection of these critical accounting estimates with the
Audit Committee of the Board of Directors and the Audit Committee has reviewed
the company's disclosure relating to it in this "Management's Discussion and
Analysis".
22
ACQUISITION, CONSOLIDATION AND DIVESTITURE ACTIVITY
During the quarter ended March 31, 2005, Old National committed to a plan to
sell selected non-strategic assets to better align its operations with its
market and product focus. As a result, we are currently in negotiations to sell
the J.W. Terrill Insurance Agency in St. Louis, Missouri, and the Fund
Evaluation Group in Cincinnati, Ohio. These selected non-strategic assets are
reported as held for sale at their estimated net realizable value on the
consolidated balance sheet at March 31, 2005, and are included as discontinued
operations on the consolidated statement of income for all periods shown. See
Note 17 to the consolidated financial statements for further details.
Subsequent to the quarter ended March 31, 2005, Old National completed the
purchase of J. W. F. Insurance Companies, an Indianapolis, Indiana-based
insurance agency that does business as J.W. Flynn Company and J.W.F. Specialty
Company, Inc. Old National issued 968,271 common shares as part of the purchase
transaction. See Note 3 to the consolidated financial statements for further
details.
RESULTS OF OPERATIONS
EARNINGS SUMMARY
Old National reported net income of $18.5 million for the three months ended
March 31, 2005, a decrease of 5.4% from the $19.5 million recorded for the three
months ended March 31, 2004. On a diluted per share basis, net income was $0.27
for the three months ended March 31, 2005, compared to $0.28 for the three
months ended March 31, 2004. Related to Old National's plan to sell selected
non-strategic assets during 2005, net income includes an after-tax loss from
discontinued operations of $1.0 million, or $0.01 per diluted share for the
three months ended March 31, 2005. This after-tax loss was the net result of an
operating profit for discontinued operations of $1.1 million and a goodwill
impairment loss of $2.1 million. Net income for the three months ended March 31,
2004, includes after-tax income from these discontinued operations of $0.9
million, or $0.01 per diluted share. See Note 17 to the consolidated financial
statements for further discussion of discontinued operations.
Income from continuing operations of $19.4 million for the three months ended
March 31, 2005, compared to $18.6 million for the three months ended March 31,
2004, was favorably impacted by a reduction in the provision for loan losses of
$2.4 million and by reductions in salary expense as described below.
Noninterest income for the three months ended March 31, 2005, decreased $1.8
million compared to the three months ended March 31, 2004, primarily as a result
of fewer securities gains.
Noninterest expense for the three months ended March 31, 2005, decreased $7.8
million compared to the three months ended March 31, 2004, primarily the result
of reductions in salary expense. Salary expense for the three months ended March
31, 2004, included severance payments to three senior executives who left Old
National during that quarter and an increase in incentive accruals that occurred
during that quarter. In addition, recent corporate initiatives have reduced
salary expense during 2005.
Old National's return on average assets for the three months ended March 31,
2005, was 0.84% and return on shareholders' equity was 10.48%, compared to
return on average assets of 0.84% and return on shareholders' equity of 10.68%
for the three months ended March 31, 2004.
NET INTEREST INCOME
Net interest income is Old National's most significant component of earnings,
comprising over 62% of revenues at March 31, 2005. Net interest income and
margin are influenced by many factors, primarily the volume and mix of earning
assets, funding sources and interest rate fluctuations. Other factors include
accelerated prepayments of mortgage-related assets and the composition and
maturity of earning assets and interest-bearing liabilities. Loans typically
generate more interest income than investment securities with similar
maturities. Funding from client deposits generally cost less than wholesale
funding sources. Factors, such as general economic activity, Federal Reserve
Board monetary policy and price volatility of competing alternative investments,
can also exert significant influence on Old National's ability to optimize its
mix of assets and funding and its net interest income and margin.
Net interest income and net interest margin in the following discussion are
presented on a fully taxable equivalent basis, which adjusts tax-exempt or
nontaxable interest income to an amount that would be comparable to interest
subject to income taxes using the federal statutory tax rate of 35% in effect
for all periods. Net income is unaffected
23
by these taxable equivalent adjustments as the offsetting increase of the same
amount is made in the income tax section. Net interest income included taxable
equivalent adjustments of $5.6 million and $6.1 million for the three months
ended March 31, 2005 and 2004, respectively.
Taxable equivalent net interest income was $64.2 million for the three months
ended March 31, 2005, a 9.8% decrease from the $71.2 million reported for the
same period of 2004. The net interest margin was 3.22% for the three months
ended March 31, 2005, compared to 3.37% reported for the three months ended
March 31, 2004. The reduction in both net interest income and net interest
margin reflects an increase in the cost of funding without offsetting increases
in earning asset yields. Average earning assets were $7.964 billion for the
three months ended March 31, 2005, compared to $8.461 billion for the same
period of 2004, a decrease of 5.9% or $497.7 million.
Significantly affecting average earning assets at March 31, 2005 compared to
March 31, 2004, was the sale of $405.6 million of residential real estate loans
at the end of the second quarter of 2004. In addition, during 2004 and into 2005
commercial and commercial real estate loans declined as a result of weak loan
demand in Old National's markets, more stringent loan underwriting standards,
and the sale of $43.1 million in nonaccrual commercial and commercial real
estate loans during the fourth quarter of 2004.
PROVISION FOR LOAN LOSSES
The provision for loan losses was $5.1 million for the three months ended March
31, 2005, compared to $7.5 million for the three months ended March 31, 2004,
attributable to enhanced credit administration and underwriting functions that
began in 2004 and decreases in total criticized and classified loans during the
quarter ended March 31, 2005. Refer to "Allowance for Loan Losses and Asset
Quality" section for further discussion of non-performing loans, charge-offs and
additional items impacting the provision.
NONINTEREST INCOME
Old National generates revenues in the form of noninterest income through client
fees and sales commissions from its core banking franchise and other related
businesses, such as wealth management, investment products and insurance.
Noninterest income for the three months ended March 31, 2005, was $35.7 million,
a decrease of $1.8 million, or 4.7% from the $37.5 million reported for the
three months ended March 31, 2004. Despite this decrease, this source of revenue
has grown as a percentage of total revenue to 37.9% in the three months ended
March 31, 2005, compared to 36.6% in the three months ended March 31, 2004,
reflective of the decline in the net interest income portion of total revenue.
The decrease in noninterest income was primarily attributable to a $2.5 million
decrease in securities gains for the three months ended March 31, 2005, compared
to March 31, 2004. Total fee and service charge income, excluding gains on sales
of securities, was $36.2 million for the quarter ended March 31, 2005, compared
to $35.5 million for the quarter ended March 31, 2004. Mortgage banking revenue,
the primary contributor, increased $1.7 million for the three months ended March
31, 2005 compared to March 31, 2004, mostly attributable to the decrease in net
impairment charges. Due to the slowing of prepayment speeds during 2005, no
impairment charge was recognized on the mortgage servicing rights asset at March
31, 2005, compared to $1.4 million of impairment charges at March 31, 2004.
NONINTEREST EXPENSE
Noninterest expense for the three months ended March 31, 2005, totaled $66.1
million, a decrease of $7.8 million, or 10.5% from the $73.8 million recorded
for the three months ended March 31, 2004. Salaries and benefits, the largest
component of noninterest expense, was $39.0 million for the three months ended
March 31, 2005, compared to $44.2 million for the three months ended March 31,
2004, a decrease of $5.2 million. This decrease reflects the 2004 severance
expense of $2.9 million related to three senior executives, including the chief
executive officer, who left the company during the three months ended March 31,
2004, as well as reductions in the 2005 salary expense related to recent
corporate "Ascend" initiatives.
All other components of noninterest expense totaled $27.0 million for the three
months ended March 31, 2005, compared to $29.6 million for the three months
ended March 31, 2004, a decrease of $2.6 million or 8.7%. The quarter ended
March 31, 2004, included $1.4 million of write-downs of foreclosed real estate.
24
PROVISION FOR INCOME TAXES
Old National records a provision for income taxes currently payable and for
income taxes payable or benefits to be received in the future, which arise due
to timing differences in the recognition of certain items for financial
statement and income tax purposes. The major difference between the effective
tax rate applied to Old National's financial statement income and the federal
statutory tax rate is caused by interest on tax-exempt securities and loans. The
provision for income taxes on continuing operations, as a percentage of pre-tax
income, was 16.2% for the three months ended March 31, 2005, compared to 12.5%
in the three months ended March 31, 2004. The increased effective tax rate in
2005 resulted from a lower percentage of tax-exempt income to total income than
in 2004.
FINANCIAL CONDITION
OVERVIEW
Old National's assets at March 31, 2005, were $8.793 billion, a 5.1% decrease
compared to March 31, 2004, and a 4.7% decrease compared to December 31, 2004.
Loans decreased $619.3 million since March 31, 2004, and decreased $24.5 million
since December 31, 2004. Total liabilities declined $404.0 million compared to
March 31, 2004, and $72.6 million since December 31, 2004. Total shareholders'
equity decreased $70.3 million from March 31, 2004, and $32.6 million from
December 31, 2004, largely due to changes in the unrealized gains on investment
securities.
EARNING ASSETS
Old National's earning assets are comprised of loans and loans held for sale,
investment securities and money market investments. Earning assets were $7.950
billion at March 31, 2005, a decrease of 6.1% from March 31, 2004, and a
decrease of 3.1% since December 31, 2004. Much of the decrease is attributable
to decreases in total loans, related to sales of $448.7 million of commercial,
commercial real estate and residential real estate loans during 2004 and
continued slow commercial lending market during 2004 and into 2005.
INVESTMENT SECURITIES
Old National classifies investment securities primarily as available-for-sale to
give management the flexibility to sell the securities prior to maturity if
needed, based on fluctuating interest rates or changes in the company's funding
requirements. However, Old National added 15- and 20-year fixed-rate mortgage
pass-through securities to its held-to-maturity investment portfolio beginning
in 2003. Emerging Issues Task Force ("EITF") Issue 03-1, "The Meaning of
Other-Than-Temporary Impairment and Its Application to Certain Investments," may
potentially affect the treatment of investments in an unrealized loss position.
Until final guidance is issued by the FASB, it is uncertain whether this EITF
Issue will have a material impact on Old National. At March 31, 2005, Old
National does not believe any individual unrealized loss on available-for-sale
securities represents other-than-temporary impairment. The unrealized losses are
primarily attributable to changes in interest rates. Old National has both the
intent and ability to hold the securities for a time necessary to recover the
amortized cost.
At March 31, 2005, the investment securities portfolio was $2.938 billion
compared to $2.874 billion at March 31, 2004, an increase of $64.1 million or
2.2%. Investment securities decreased $75.1 million at March 31, 2005, compared
to December 31, 2004, a decrease of 10.0%. Investment securities represented
37.0% of earning assets at March 31, 2005, compared to 33.9% at March 31, 2004,
and 37.6% at December 31, 2004.
The investment securities available-for-sale portfolio had net unrealized losses
of $30.0 million at March 31, 2005, a decrease of $89.6 million compared to net
unrealized gains of $59.6 million at March 31, 2004, and a decrease of $39.3
million compared to net unrealized gains of $9.3 million at December 31, 2004.
These decreases were primarily the result of higher market interest rates.
The investment portfolio had an average life of 4.30 years at March 31, 2005,
compared to 4.30 years at March 31, 2004 and 4.41 years at December 31, 2004.
The average yields on investment securities, on a taxable equivalent basis, were
4.46% for the quarter ended March 31, 2005, compared to 4.62% for the quarter
ended March 31, 2004 and 4.45% for the quarter ended December 31, 2004.
RESIDENTIAL LOANS HELD FOR SALE
Residential loans held for sale were $31.7 million at March 31, 2005, compared
to $17.9 million at March 31, 2004, and compared to $22.5 million at December
31, 2004. Residential loans held for sale are loans that are closed, but
25
not yet sold on the secondary market. The amount of residential loans held for
sale on the balance sheet varies depending on the timing of movement of
originations and loan sales to the secondary market.
LENDING AND LOAN ADMINISTRATION
Old National has implemented certain credit approval disciplines in order to
continue to focus on the reduction of problem and non-performing loans in the
portfolio, including a restructuring of the manner in which commercial loans are
analyzed and approved. Community-based credit personnel, which now include
independent underwriting and analytic support staff, extend credit under
guidelines established and administered by Old National's Credit Policy
Committee. This committee, which meets quarterly, includes members from both the
holding company and the bank, as well as outside directors. The committee
monitors credit quality through its review of information such as delinquencies,
problem loans and charge-offs and regularly reviews the loan policy to assure it
remains appropriate for the current lending environment.
Old National lends primarily to small- and medium-sized commercial and
commercial real estate clients in various industries including manufacturing,
agribusiness, transportation, mining, wholesaling and retailing. As measured by
Old National at March 31, 2005, the company had no concentration of loans in any
single industry exceeding 10% of its portfolio and had no exposure to foreign
borrowers or lesser-developed countries. Old National's policy is to concentrate
its lending activity in the geographic market areas it serves, primarily
Indiana, Illinois, Kentucky and Tennessee. Old National continues to be affected
by weakness in the economy of its principal markets, particularly in its home
state of Indiana, which has resulted in a decline of commercial loans and
tighter credit underwriting standards. Old National anticipates that when the
economy in Old National's principal markets shows improvement, commercial loans
will begin to show higher levels of growth.
COMMERCIAL AND CONSUMER LOANS
Commercial and consumer loans are the largest classification within the earning
assets of Old National representing 55.1% of earning assets at March 31, 2005,
an increase from 54.6% at March 31, 2004, and 55.0% at December 31, 2004. At
March 31, 2005, commercial and commercial real estate loans were $3.162 billion,
a decrease of $282.6 million since March 31, 2004, and a decrease of $41.3
million since December 31, 2004. These decreases are partially attributable to
commercial loans sales of $43.1 million during the quarter ended December 31,
2004.
At March 31, 2005, consumer loans, including automobile loans, personal and home
equity loans and lines of credit, and student loans, increased $44.2 million or
3.8% compared to March 31, 2004, and increased $14.0 million or 4.6% since
December 31, 2004, primarily due to enhancements to marketing and customer
contact programs.
RESIDENTIAL REAL ESTATE LOANS
Residential real estate loans, primarily 1-4 family properties, have decreased
in significance to the loan portfolio over the past five years due to higher
levels of loan sales into the secondary market, primarily to Federal Home Loan
Mortgage Corporation and Federal National Mortgage Association. Old National
sells the majority of residential real estate loans it originates as a strategy
to better manage interest rate risk and liquidity. These loans are sold with
loan servicing retained in order to maintain customer relationships and generate
noninterest income and fees. By using this strategy, Old National is able to
recognize an immediate gain in noninterest income versus a small net interest
income spread over a longer period of time. Old National sells the majority of
the residential real estate loans without recourse, currently having less than
1% of loans sold with recourse.
At March 31, 2005, residential real estate loans were $558.2 million, a decrease
of $380.9 million or 40.6% from March 31, 2004. The sale of $405.6 million of
residential real estate loans during second quarter of 2004 was the most
significant contributor to this decrease. Old National is currently in the
process of making a strategic shift from the mortgage operations being managed
as a line of business with free-standing offices to being an integral part of
the focus on expanding customer relationships.
ALLOWANCE FOR LOAN LOSSES AND ASSET QUALITY ADMINISTRATION
Old National monitors the quality of its loan portfolio on an on-going basis and
uses a combination of detailed credit assessments by relationship managers and
credit officers, historic loss trends, and economic and business environment
factors in determining its allowance for loan losses. Old National records
provisions for loan losses based on current loans outstanding, grade changes,
mix of loans and expected losses. A detailed loan loss evaluation on an
individual loan basis for the company's highest risk loans is performed
quarterly. Management follows the
26
progress of the economy and how it might affect Old National's borrowers in both
the near and the intermediate term. Old National has a formalized and
disciplined independent loan review program to evaluate loan administration,
credit quality and compliance with corporate loan standards. This program
includes periodic reviews conducted at the community bank locations as well as
regular reviews of problem loan reports, delinquencies and charge-offs.
Each month, problem loan reports are prepared and reviewed, which include
borrowers that show indications of being unable to meet debt obligations in the
normal course of business, and loans which have other characteristics deemed by
bank management to warrant special attention or have been criticized by
regulators in the examination process. Classified loans include non-performing
loans, past due 90 days or more and other loans deemed to have well-defined
weaknesses while criticized loans, also known as special mention loans, are
loans that are deemed to have potential weaknesses that deserve management's
close attention and also require specific monthly reviews by the bank.
Assets determined by the various evaluation processes to be under-performing
receive special attention by Old National management. Under-performing assets
consist of: 1) nonaccrual loans where the ultimate collectibility of interest or
principal is uncertain; 2) loans renegotiated in some manner, primarily to
provide for a reduction or deferral of interest or principal payments because
the borrower's financial condition deteriorated; 3) loans with principal or
interest past due ninety (90) days or more; and 4) foreclosed properties.
A loan is generally placed on nonaccrual status when principal or interest
become 90 days past due unless it is well secured and in the process of
collection, or earlier when concern exists as to the ultimate collectibility of
principal or interest. When loans are classified as nonaccrual, interest accrued
during the current year is reversed against earnings; interest accrued in the
prior year, if any, is charged to the allowance for loan losses. Cash received
while a loan is classified as nonaccrual is recorded to principal.
Adjustments to the allowance for loan losses are made as deemed necessary for
probable losses inherent in the portfolio. While an estimate of probable losses
is, by its very nature, difficult to precisely predict, management of Old
National believes that the methodology that it uses in determining an
appropriate reserve for expected losses is reasonable.
Loan officers and credit underwriters jointly grade the larger commercial and
commercial real estate loans in the portfolio periodically as determined by loan
policy requirements or determined by specific guidelines based on loan
characteristics as set by management and banking regulation. Periodically, these
loan grades are reviewed independently by the loan review department. For
impaired loans, an assessment is conducted as to whether there is likely loss in
the event of default. If such a loss is determined to be likely, the loss is
quantified and a specific reserve is assigned to the loan. For the balance of
the commercial and commercial real estate loan portfolio, loan grade migration
analysis coupled with historic loss experience within the respective grades is
used to develop reserve requirement ranges based on expected losses.
A loan is considered impaired under SFAS No. 114, "Accounting by Creditors for
Impairment of a Loan, an amendment of FASB Statement No. 5 and 15" when, based
on current information and events, it is probable that a creditor will be unable
to collect all amounts due according to the contractual terms of the loan
agreement. An impaired loan does not include larger groups of smaller-balance
homogeneous loans that are collectively evaluated for impairment, loans that are
measured at fair value or at the lower of cost or fair value, leases and debt
securities.
Old National uses migration analysis as a tool to determine the adequacy of the
allowance for loan losses for non-retail loans that are not impaired. Migration
analysis is a statistical technique that attempts to estimate probable losses
for existing pools of loans by matching actual losses incurred on loans back to
their origination. The migration-derived historical commercial loan loss rates
are applied to the current commercial loan pools to arrive at an estimate of
probable losses for the loans existing at the time of analysis.
Old National calculates migration analysis using several different scenarios
based on varying assumptions to evaluate the widest range of possible outcomes.
The amounts determined by migration analysis are adjusted for management's best
estimate of the effects of current economic conditions, loan quality trends,
results from internal and external review examinations, loan volume trends,
credit concentrations and various other factors. Historic loss
27
ratios adjusted for expectations of future economic conditions are used in
determining the appropriate level of reserves for consumer and residential real
estate loans.
ALLOWANCE FOR LOAN LOSSES AND ASSET QUALITY
At March 31, 2005, the allowance for loan losses was $86.3 million, a decrease
of $14.3 million compared to $100.6 million at March 31, 2004, and an increase
of $0.6 million compared to $85.7 million at December 31, 2004. As a percentage
of total loans held for investment, the allowance decreased to 1.74% at March
31, 2005, from 1.80% at March 31, 2004, and slightly increased from 1.72% at
December 31, 2004. For the three months ended March 31, 2005, the provision for
loan losses amounted to $5.1 million, a decrease of $2.4 million from the three
months ended March 31, 2004. Reductions in nonperforming loans during 2004 and
the first quarter of 2005 were significant factors in the decrease of the
allowance for loan losses. Other factors included the sales of $405.6 million of
residential real estate loans and $43.1 million of nonaccrual commercial and
commercial real estate loans during 2004, changes to separate the loan
production functions from the underwriting functions, significant strengthening
of the commercial underwriting processes and the elevation of the Credit Policy
Committee to a board level committee to improve credit quality.
Charge-offs, net of recoveries, totaled $4.5 million for the three months ended
March 31, 2005, an increase of $1.1 million from the three months ended March
31, 2004. Net charge-offs to average loans were 0.37% for the three months ended
March 31, 2005, as compared to 0.25% for the three months ended March 31, 2004.
Under-performing assets totaled $62.0 million at March 31, 2005, slightly lower
than $65.6 million at December 31, 2004, and significantly lower than $114.8
million at March 31, 2004. As a percent of total loans and foreclosed
properties, under-performing assets at March 31, 2005, were 1.25%, a reduction
from the December 31, 2004, ratio of 1.31% and the March 31, 2004 ratio of
2.06%. Nonaccrual loans were $55.2 million at March 31, 2005, compared to $54.9
million at December 31, 2004, and $107.1 million at March 31, 2004. Management
will continue its efforts to reduce the level of under-performing loans and may
consider the possibility of additional sales of troubled and non-performing
loans, which could result in additional write-downs to the allowance for loan
losses.
Total classified and criticized loans were $311.6 million at March 31, 2005, a
decrease of $28.7 million from December 31, 2004, and $214.8 million from March
31, 2004.
Management believes it has taken a prudent approach to the evaluation of
under-performing, criticized and classified loans, and the loan portfolio in
general both in acknowledging the portfolio's general condition and in
establishing the allowance for loan losses. Old National has been affected by
weakness in the economy of its markets, which has resulted in minimal growth of
commercial loans and tighter credit underwriting standards. Management expects
that trends in under-performing, criticized and classified loans will be
influenced by the degree to which the economy strengthens. Old National operates
in the Midwest, primarily in the state of Indiana, which has been particularly
negatively affected by the weakness in the manufacturing segment of the economy.
The longer the significant softness in manufacturing continues the more stress
it puts on Old National's borrowers, increasing the potential for additional
nonaccrual loans.
28
The table below shows the various components of under-performing assets:
MARCH 31, DECEMBER 31,
(dollars in thousands) 2005 2004 2004
- ---------------------- -------- -------- ------------
Nonaccrual loans $ 55,172 $107,122 $ 54,890
Renegotiated loans - - -
Past due loans (90 days or more) 1,782 2,334 2,414
Foreclosed properties 5,073 5,304 8,331
-------- -------- ------------
Total under-performing assets $ 62,027 $114,760 $ 65,635
======== ======== ============
Classified loans (includes nonaccrual,
renegotiated, past due 90 days and other problem loans) $183,241 $321,328 $ 192,214
Criticized loans 128,347 205,101 148,118
-------- -------- ------------
Total criticized and classified loans $311,588 $526,429 $ 340,332
======== ======== ============
Asset Quality Ratios: (1)
Non-performing loans/total loans (1) (2) 1.11 % 1.92 % 1.10 %
Under-performing assets/total loans and
foreclosed properties (1) 1.25 2.06 1.31
Under-performing assets/total assets 0.71 1.24 0.74
Allowance for loan losses/under-performing assets 139.14 87.70 130.65
(1) Items referring to loans are net of unearned income and include
residential loans held for sale.
(2) Non-performing loans include nonaccrual and renegotiated loans.
GOODWILL AND OTHER INTANGIBLE ASSETS
Goodwill and other intangible assets at March 31, 2005 totaled $117.5 million, a
decrease of $52.9 million compared to $170.4 million at March 31, 2004, and a
decrease of $51.3 million compared to $168.8 million at December 31, 2004. These
decreases in goodwill and other intangible assets at March 31, 2005, are
primarily the result of the reclassification of $47.8 million in goodwill and
other intangibles to assets held for sale in connection with Old National's plan
to sell selected non-strategic assets. In addition, concurrent with this
reclassification, these discontinued operations were evaluated for impairment
using estimated fair market values in the current market, resulting in goodwill
impairment of $2.9 million. See Note 7 to the consolidated financial statements
for further details.
ASSETS HELD FOR SALE
Assets held for sale totaling $57.2 million at March 31, 2005, are comprised
primarily of money market investments, goodwill and other intangible assets
related to discontinued operations reported during the quarter. See Note 17 to
the consolidated financial statements for further details.
FUNDING
Total funding, comprised of deposits and wholesale borrowings, was $8.011
billion at March 31, 2005, a decrease of 4.5% from $8.390 billion at March 31,
2004, and a decrease of 3.2% from $8.074 billion at December 31, 2004. Total
deposits were $6.362 billion at March 31, 2005, a decrease of 0.4% compared to
March 31, 2004, and a decrease of 3.3% compared to December 31, 2004. Old
National has experienced growth in demand deposits and other low cost
transaction accounts offset by a reduction in time deposits, due to the lower
rate environment throughout 2004 and customer preference for transaction
accounts. The reduction in time accounts was also due to the maturity of a group
of higher interest rate certificates of deposits during 2004.
Old National uses wholesale funding to augment deposit funding and to help
maintain its desired interest rate risk position. At March 31, 2005, wholesale
borrowings, including short-term borrowings and other borrowings, decreased
17.7% and 2.7% from March 31, 2004, and December 31, 2004, respectively. During
2004, wholesale borrowings decreased as the investment portfolio growth slowed.
Wholesale borrowings as a percentage of total funding was 20.6% at March 31,
2005, compared to 23.9% at March 31, 2004, and 20.6% at December 31, 2004. The
lower level of earning assets, primarily due to loan sales of $448.7 million
during 2004, reduced the company's reliance on wholesale funding.
29
CAPITAL RESOURCES AND REGULATORY GUIDELINES
Shareholders' equity totaled $670.6 million at March 31, 2005, compared to
$740.9 million at March 31, 2004, and $703.2 million at December 31, 2004.
Unrealized losses on investment securities was the primary contributor to the
decrease in shareholders' equity at March 31, 2005.
Old National paid cash dividends of $0.19 per share for the three months ended
March 31, 2005, which decreased equity by $13.0 million, compared to cash
dividends of $0.18 per share for the three months ended March 31, 2004,
(restated for the 5% stock dividend distributed on January 26, 2005), which
decreased equity by $12.6 million. Old National purchased shares of its stock in
the open market under an ongoing repurchase program, reducing shareholders'
equity by $18.4 million during the first quarter of 2005 and $10.1 million
during the first quarter of 2004. Shares reissued for stock options and stock
purchase plans increased shareholders' equity by $2.1 million during the first
quarter of 2005 compared to $7.4 million during the first quarter of 2004.
Old National filed an S-3 Registration Statement with the Securities and
Exchange Commission for the purpose of amending the Old National Bancorp Stock
Purchase and Dividend Reinvestment Plan, which became effective on January 6,
2005. The plan has two main purposes. First, the plan allows investors and
shareholders a convenient, low-cost way to buy shares and reinvest cash
dividends in additional shares of Old National common stock. Secondly, the plan
gives Old National the ability to raise capital by selling newly issued shares
of common stock. A key feature is the ability for Old National to sell newly
issued shares at a discount from the market price. Common stock totaling 3.5
million shares can be issued under this plan.
Old National and the banking industry are subject to various regulatory capital
requirements administered by the federal banking agencies. Old National's
consolidated capital position remains strong as evidenced by the following
comparisons of key industry ratios.
REGULATORY
GUIDELINES MARCH 31, DECEMBER 31,
MINIMUM 2005 2004 2004
---------- ------ ------ ------------
RISK-BASED CAPITAL:
Tier 1 capital to total avg assets (leverage ratio) 4.00 % 7.76 % 7.53 % 7.68 %
Tier 1 capital to risk-adjusted total assets 4.00 11.01 11.08 11.18
Total capital to risk-adjusted total assets 8.00 14.72 14.76 14.90
Shareholders' equity to assets N/A 7.63 8.00 7.90
ITEM 3. QUANTITIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
MARKET RISK MANAGEMENT
Inherent in Old National's balance sheet is market risk, defined as the
sensitivity of income, fair market values and capital to changes in interest
rates, foreign currency exchange rates, commodity prices and other relevant
market rates or prices. The primary market risk to which Old National has
exposure is interest rate risk. Interest rate risk arises because assets and
liabilities may reprice, mature or prepay at different times or based upon
different market instruments as market interest rates change. Changes in the
slope of the yield curve and the pace of interest rate changes may also impact
net interest income and the fair value of the balance sheet.
Old National manages interest rate risk within an overall asset and liability
management framework that includes attention to credit risk, liquidity risk and
capitalization. A principal objective of asset/liability management is to manage
the sensitivity of net interest income to changing interest rates. Asset and
liability management activity is governed by a policy reviewed and approved
annually by the Board of Directors. The Board of Directors has delegated the
administration of this policy to the Funds Management Committee, a committee of
the Board of Directors, and the Balance Sheet Management Committee, a committee
comprised of senior company management. The Funds Management Committee meets
quarterly and oversees adherence to policy and recommends policy changes to the
Board. The Balance Sheet Management Committee meets monthly and provides
guidance to Treasury and other operating units of the company regarding the
execution of asset/liability management strategies.
Old National uses two modeling techniques to quantify the impact of changing
interest rates on the company, Net Interest Income at Risk and Economic Value of
Equity. Net Interest Income at Risk is used by management and the
30
Board of Directors to evaluate the impact of changing rates over a two-year
horizon. Economic Value of Equity is used to evaluate long-term interest rate
risk. These models simulate the likely behavior of the company's net interest
income and the likely change in the company's economic value due to changes in
interest rates under various possible interest rate scenarios. Because the
models are driven by expected behavior in various interest rate scenarios and
many factors besides market interest rates affect the company's net interest
income and value, Old National recognizes that model outputs are not guarantees
of actual results. For this reason, Old National models many different
combinations of interest rates and balance sheet assumptions to best understand
its overall sensitivity to market interest rate changes.
Old National's Board of Directors, through its Funds Management Committee,
monitors the company's interest rate risk. On January 26, 2005, the Funds
Management Committee approved new policy guidelines for the allowable change in
Net Interest Income at Risk and Economic Value of Equity to enhance the
monitoring of compliance within identified interest rate risk exposure zones.
Policy guidelines, in addition to March 31, 2005 and 2004 results, are as
follows.
NET INTEREST INCOME - 12 MONTH POLICIES (+/-)
INTEREST RATE CHANGE IN BASIS POINTS
DOWN 200 DOWN 100 UP 100 UP 200 UP 300
------------ ------------ ------------ ------------ --------------
Green Zone 6.50% 3.00% 3.00% 6.50% 12.00%
Yellow Zone 6.50% - 8.50% 3.00% - 4.00% 3.00% - 4.00% 6.50% - 8.50% 12.00% - 15.00%
Red Zone 8.50% 4.00% 4.00% 8.50% 15.00%
3/31/2005 2.78% 2.31% -3.22% -7.33% -11.97%
3/31/2004 -1.90% 0.75% -2.87% -6.06% -10.10%
NET INTEREST INCOME - 24 MONTH CUMULATIVE POLICIES (+/-)
INTEREST RATE CHANGE IN BASIS POINTS
DOWN 200 DOWN 100 UP 100 UP 200 UP 300
------------ ------------ ------------ ------------ --------------
Green Zone 5.00% 2.25% 2.25% 5.00% 10.00%
Yellow Zone 5.00% - 7.00% 2.25% - 3.25% 2.25% - 3.25% 5.00% - 7.00% 10.00% - 12.50%
Red Zone 7.00% 3.25% 3.25% 7.00% 12.50%
3/31/2005 -0.25% 1.28% -2.53% -5.97% -10.06%
3/31/2004 -3.87% -0.45% -2.01% -4.55% -8.12%
ECONOMIC VALUE OF EQUITY POLICIES (+/-)
INTEREST RATE CHANGE IN BASIS POINTS
DOWN 200 DOWN 100 UP 100 UP 200 UP 300
------------ ------------ ------------ -------------- --------------
Green Zone 12.00% 5.00% 5.00% 12.00% 22.00%
Yellow Zone 12.00% - 17.00% 5.00% - 7.00% 5.00% - 7.00% 12.00% - 17.00% 22.00% - 30.00%
Red Zone 17.00% 7.50% 7.50% 17.00% 30.00%
3/31/2005 -13.78% -3.27% -1.21% -4.02% -7.96%
3/31/2004 -13.85% -3.21% -2.94% -8.43% -14.96%
Red zone policy limits represent Old National's absolute interest rate risk
exposure compliance limit. Policy limits defined as green zone represent the
range of potential interest rate risk exposures that the Funds Management
Committee believes to be normal and acceptable operating behavior. Yellow zone
policy limits represent a range of interest rate risk exposures falling below
the bank's maximum allowable exposure (red zone) but above its normally
acceptable interest rate risk levels (green zone).
At March 31, 2005, modeling indicated Old National was within the yellow zone
policy limits for the following 12 month Net Interest Income at Risk Scenarios:
Up 100 and Up 200. In addition, modeling indicated Old National was within the
yellow zone policy limits for the following 24 month cumulative Net Interest
Income at Risk Scenarios: Up 100, Up 200, and Up 300. Old National's position
within the yellow zone was deemed acceptable by
31
management at this time. All other Net Interest Income at Risk modeling
scenarios fell within Old National's green zone, which is considered the normal
and acceptable interest rate risk level.
At March 31, 2005, modeling indicated Old National was within the yellow zone
policy limits for the Down 200 Economic Value of Equity Scenario. The Funds
Management Committee has deemed this an acceptable risk given the company's
outlook for rising interest rates. All other modeling scenarios fell within Old
National's green zone, which is considered the normal and acceptable interest
rate risk level.
At March 31, 2005, a notable change in the company's rate risk profile was
reflected in the decrease in the company's estimated change in Economic Value of
Equity resulting in the Up 200 basis points yield curve shock. Economic Value of
Equity changed from - 8.43% in March 2004 to - 4.02% in March 2005. The company
reduced its long term exposure to rising interest rates by reducing the
effective duration of the investment portfolio to 3.76 years at March 31, 2005,
compared to 4.00 years at March 31, 2004, by selling $405.6 million of
residential mortgages in June 2004, and by executing $195.0 million in
forward-starting interest rate swaps that become effective between April 1, 2005
and June 1, 2006. Old National will pay a fixed rate and receive a floating rate
on these derivatives beginning on future dates. These derivatives will serve to
fix the interest rates of future debt issuances. The fixed interest rates range
from 2.78% to 4.69% and have maturities of 2 to 3 years after the swaps become
effective.
Old National uses derivatives, primarily interest rate swaps, to manage interest
rate risk in the ordinary course of business. The company's derivatives had an
estimated fair value loss of $22.9 million at March 31, 2005, compared to an
estimated market gain of $18.1 million at March 31, 2004. The decline in market
value is due both to the increase in interest rates for the quarter ended March
31, 2005 compared to the quarter ended March 31, 2004 and the fact that Old
National terminated certain receive fixed rate swaps. As explained above, Old
National added forward-starting pay fixed rate swaps. All of these transactions
served to better position the company's balance sheet for rising rates. See Note
13 to the consolidated financial statements for further discussion of derivative
financial instruments.
LIQUIDITY MANAGEMENT
The Funds Management Committee of the Board of Directors establishes liquidity
risk guidelines and, along with the Balance Sheet Management Committee, monitors
liquidity risk. The objective of liquidity management is to ensure Old National
has the ability to fund balance sheet growth and meet deposit and debt
obligations in a timely and cost-effective manner. Management monitors liquidity
through a regular review of asset and liability maturities, funding sources, and
loan and deposit forecasts. The company maintains strategic and contingency
liquidity plans to ensure sufficient available funding to satisfy requirements
for balance sheet growth, properly manage capital markets' funding sources and
to address unexpected liquidity requirements.
Old National's ability to raise funding at competitive prices is influenced by
rating agencies' views of the company's credit quality, liquidity, capital and
earnings. All three rating agencies have issued a stable outlook in conjunction
with their ratings as of March 31, 2005. The senior debt ratings of Old National
Bancorp and Old National Bank at March 31, 2005, are shown in the following
table.
SENIOR DEBT RATINGS
STANDARD AND POOR'S MOODY'S INVESTOR SERVICES FITCH, INC.
----------------------- ------------------------- ---------------------
LONG-TERM SHORT-TERM LONG-TERM SHORT-TERM LONG-TERM SHORT-TERM
--------- ---------- --------- ---------- --------- ----------
Old National Bancorp BBB N/A Baa1 N/A BBB F2
Old National Bank BBB+ A2 A3 P-2 BBB F2
N/A = not applicable
As of March 31, 2005, Old National Bank had the capacity to borrow $747.8
million from the Federal Reserve Bank's discount window. Old National Bank is
also a member of the Federal Home Loan Bank ("FHLB") of Indianapolis, which
provides a source of funding through FHLB advances. Old National maintains
relationships in capital markets with brokers and dealers to issue certificates
of deposits and short-term and medium-term bank notes as well. In addition, at
March 31, 2005, Old National had $660 million available for issuance under a $1
billion global bank note program for senior and subordinated debt.
32
Old National Bancorp, the parent company, has routine funding requirements
consisting primarily of operating expenses, dividends to shareholders, debt
service, net derivative cash flows and funds used for acquisitions. Old National
Bancorp obtains funding to meet its obligations from dividends and management
fees collected from its subsidiaries and the issuance of debt securities. In
addition, at March 31, 2005, Old National Bancorp has $750 million available
under a $750 million global shelf registration for the issuance of a variety of
securities including debt, common and preferred stock, depository shares, units
and warrants of Old National. At March 31, 2005, the parent company's other
borrowings outstanding was $258.1 million, compared with $274.6 million at March
31, 2004. The decrease in other borrowings in 2005 was driven by a $3.2 million
maturity of medium-term notes payable and a $13.3 million decline in derivative
market values. Old National Bancorp, the parent company, has no debt scheduled
to mature within the next 12 months. However, subsequent to March 31, 2005, Old
National called for the redemption of $50 million of junior subordinated
debentures, thereby redeeming the trust preferred securities of ONB Capital
Trust I.
Federal banking laws regulate the amount of dividends that may be paid by
banking subsidiaries without prior approval. At March 31, 2005, prior regulatory
approval was not required for Old National's affiliate bank.
33
ITEM 4. CONTROLS AND PROCEDURES
CONCLUSION REGARDING THE EFFECTIVENESS OF DISCLOSURE CONTROLS AND PROCEDURES
Evaluation of disclosure controls and procedures. Old National's principal
executive officer and principal financial officer have concluded that Old
National's disclosure controls and procedures (as defined in Exchange Act Rule
13a-15(e) under the Securities 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, are effective at the reasonable assurance level as discussed
below to ensure that information required to be disclosed by Old National 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 Old National'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. Management, including the
principal executive officer and principal financial officer, does not expect
that Old National's disclosure controls and internal controls will prevent all
error 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 company 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.
The design of any system of controls also is based in part upon certain
assumptions about the likelihood of future events, and there can be only
reasonable assurance that any design will succeed in achieving its stated goals
under all potential future conditions. Over time, control may become inadequate
because of changes in conditions or the degree of compliance with the policies
or procedures may deteriorate. Because of the inherent limitations in a
cost-effective control system, misstatements due to error or fraud may occur and
not be detected.
Changes in Internal Control over Financial Reporting. There were no changes in
Old National's internal control over financial reporting that occurred during
the period covered by this report that have materially affected, or are
reasonably likely to materially affect, Old National's internal control over
financial reporting.
34
PART II
OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
NONE
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
(c) ISSUER PURCHASES OF EQUITY SECURITIES
TOTAL NUMBER
OF SHARES
TOTAL AVERAGE PURCHASED AS MAXIMUM NUMBER OF
NUMBER PRICE PART OF PUBLICALLY SHARES THAT MAY YET
OF SHARES PAID PER ANNOUNCED PLANS BE PURCHASED UNDER
PERIOD PURCHASED SHARE OR PROGRAMS THE PLANS OR PROGRAMS
- ------ --------- -------- ------------------ --------------------
01/01/05 - 01/31/05 183,000 $ 23.51 183,000 3,272,118
02/01/05 - 02/28/05 489,800 21.34 489,800 2,768,947
03/01/05 - 03/31/05 177,400 20.29 177,400 2,585,632
--------- -------- ------------ ---------------
Year-to-date 3/31/05 850,200 $ 21.62 850,200 2,585,632
========= ======== ============ ===============
Data adjusted for all stock dividends, including a 5% stock dividend to
shareholders of record on January 5, 2005, distributed on January 26,
2005.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
NONE
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
NONE
ITEM 5. OTHER INFORMATION
NONE
ITEM 6. EXHIBITS
The exhibits filed as part of this report and exhibits incorporated herein
by reference to other documents are as follows:
Exhibit
Number
3(i) Articles of Incorporation of Old National (incorporated by
reference to Exhibit 3(i) of Old National's Quarterly Report on Form
10-Q for the quarter ended June 30, 2002).
3(ii) By-Laws of Old National, amended and restated effective April
22, 2004 (incorporated by reference to Exhibit 3(ii) of Old
National's Quarterly Report on Form 10-Q for the quarter ended March
31, 2004).
4 Instruments defining rights of security holders, including
indentures
4.1 Senior Indenture between Old National and J.P. Morgan Trust Company,
National Association (as successor to Bank One, NA), as trustee
(incorporated by reference to Exhibit 4.3 to Old National's
Registration Statement on Form S-3, Registration No. 333-118374,
filed with the Securities and Exchange Commission on December 2,
2004).
35
4.2 Form of Indenture between Old National and J.P. Morgan Trust
Company, National Association (as successor to Bank One, NA), as
trustee (incorporated by reference to Exhibit 4.1 to Old National's
Registration Statement on Form S-3, Registration No. 333-87573,
filed with the Securities and Exchange Commission on September 22,
1999).
4.3 Rights Agreement, dated March 1, 1990, as amended on February 29,
2000, between Old National Bancorp and Old National Bank, as trustee
(incorporated by reference to Old National's Form 8-A, dated March
1, 2000).
10 Material contracts
(a) Deferred Compensation Plan for Directors of Old National Bancorp and
Subsidiaries (As Amended and Restated Effective as of January 1,
2003) (incorporated by reference to Exhibit 10(a) of Old National's
Current Report on Form 8-K filed with the Securities and Exchange
Commission on December 15, 2004).*
(b) Second Amendment to the Deferred Compensation Plan for Directors of
Old National Bancorp and Subsidiaries (As Amended and Restated
Effective as of January 1, 2003) (incorporated by reference to
Exhibit 10(b) of Old National's Current Report on Form 8-K filed
with the Securities and Exchange Commission on December 15, 2004).*
(c) 2005 Directors Deferred Compensation Plan (Effective as of January
1, 2005) (incorporated by reference to Exhibit 10(c) of Old
National's Current Report on Form 8-K filed with the Securities and
Exchange Commission on December 15, 2004).*
(d) Supplemental Deferred Compensation Plan for Select Executive
Employees of Old National Bancorp and Subsidiaries (As Amended and
Restated Effective as of January 1, 2003) (incorporated by reference
to Exhibit 10(d) of Old National's Current Report on Form 8-K filed
with the Securities and Exchange Commission on December 15, 2004).*
(e) Second Amendment to the Supplemental Deferred Compensation Plan for
Select Executive Employees of Old National Bancorp and Subsidiaries
(As Amended and Restated Effective as of January 1, 2003)
(incorporated by reference to Exhibit 10(e) of Old National's
Current Report on Form 8-K filed with the Securities and Exchange
Commission on December 15, 2004).*
(f) Third Amendment to the Supplemental Deferred Compensation Plan for
Select Executive Employees of Old National Bancorp and Subsidiaries
(As Amended and Restated Effective as of January 1, 2003)
(incorporated by reference to Exhibit 10(f) of Old National's
Current Report on Form 8-K filed with the Securities and Exchange
Commission on December 15, 2004).*
(g) 2005 Executive Deferred Compensation Plan (Effective as of January
1, 2005) (incorporated by reference to Exhibit 10(g) of Old
National's Current Report on Form 8-K filed with the Securities and
Exchange Commission on December 15, 2004).*
(h) Summary of Old National Bancorp's Outside Director Compensation
Program (incorporated by reference to Old National's Quarterly
Report on Form 10-Q for the quarter ended June 30, 2003).*
(i) Old National Bancorp Short-Term Incentive Compensation Plan
(incorporated by reference to Appendix II of Old National's
Definitive Proxy Statement filed with the Securities and Exchange
Commission on March 16, 2005).*
(j) Severance Agreement, between Old National and Robert G. Jones
(incorporated by reference to Exhibit 10(a) of Old National's
Current Report on Form 8-K filed with the Securities and Exchange
Commission on January 4, 2005).*
36
(k) Form of Severance Agreement for Named Executive Officers, as amended
(incorporated by reference to Exhibit 10(b) of Old National's
Current Report on Form 8-K filed with the Securities and Exchange
Commission on January 4, 2005).*
(l) Form of Severance Agreement for John S. Poelker, as amended
(incorporated by reference to Exhibit 10(a) of Old National's
Quarterly Report on Form 10-Q for the quarter ended March 31,
2004).*
(m) Form of Change of Control Agreement for Named Executive Officers, as
amended (incorporated by reference to Exhibit 10(c) of Old
National's Current Report on Form 8-K filed with the Securities and
Exchange Commission on January 4, 2005).*
(n) Form of Change of Control Agreement for John S. Poelker, as amended
(incorporated by reference to Exhibit 10(b) of Old National's
Quarterly Report on Form 10-Q for the quarter ended March 31,
2004).*
(o) Old National Bancorp 1999 Equity Incentive Plan (incorporated by
reference to Old National's Form S-8 filed on July 20, 2001).*
(p) First Amendment to the Old National Bancorp 1999 Equity Incentive
Plan (incorporated by reference to Exhibit 10(f) of Old National's
Quarterly Report on Form 10-Q for the quarter ended September 30,
2004).*
(q) Form of 2004 "Performance-Based" Restricted Stock Award Agreement
between Old National and certain key associates (incorporated by
reference to Exhibit 10(g) of Old National's Quarterly Report on
Form 10-Q for the quarter ended September 30, 2004).*
(r) Form of 2005 "Performance-Based" Restricted Stock Award Agreement
between Old National and certain key associates, is filed herewith.*
(s) Form of Executive Stock Option Award Agreement between Old National
and certain key associates (incorporated by reference to Exhibit
10(h) of Old National's Quarterly Report on Form 10-Q for the
quarter ended September 30, 2004).*
(t) Construction Manager Contract, dated as of May 30, 2002, between Old
National Bancorp and Industrial Contractors, Inc. (incorporated by
reference to Old National's Quarterly Report on Form 10-Q for the
quarter ended September 30, 2002).
(u) Owner-Contractor Agreement, dated as of October 11, 2002, between
Old National Bancorp and Industrial Contractors, Inc. (incorporated
by reference to Old National's Quarterly Report on Form 10-Q for the
quarter ended September 30, 2002).
(v) Stock Purchase and Dividend Reinvestment Plan (incorporated by
reference to Old National's Registration Statement on Form S-3,
Registration No. 333-120545 filed with the Securities and Exchange
Commission on November 16, 2004).
31.1 Certification of Principal Executive Officer pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.
31.2 Certification of Principal Financial Officer pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.
32.1 Certification of Principal Executive Officer pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
32.2 Certification of Principal Financial Officer pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
- --------------
* Management contract or compensatory plan or arrangement
37
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.
OLD NATIONAL BANCORP
--------------------
(Registrant)
By: /s/ Christopher A. Wolking
--------------------------
Christopher A. Wolking
Executive Vice President and Chief Financial Officer
Duly Authorized Officer and Principal Financial Officer
Date: May 10, 2005
38