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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
Annual Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2004
Commission File Number 1-15817
OLD NATIONAL BANCORP
(Exact name of the 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
EVANSVILLE, INDIANA 47708
(Address of principal executive offices) (Zip Code)
(812) 464-1294
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act
Title of Each Class Name of each exchange on which registered
COMMON STOCK, NO PAR VALUE NEW YORK STOCK EXCHANGE
PREFERRED STOCK PURCHASE RIGHTS
Securities registered pursuant to Section 12(g) of the Act:
None
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of the Registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ ]
Indicate by check mark whether the Registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act). Yes [X] No [ ]
The aggregate market value of the Registrant's voting common stock held by
non-affiliates on June 30, 2004, was $1,611,437,618 (based on the closing price
on that date of $23.65, as quoted on the New York Stock Exchange). In
calculating the market value of securities held by non-affiliates of the
Registrant, the Registrant has treated as securities held by affiliates as of
June 30, 2004, voting stock owned of record by its directors and principal
executive officers, and voting stock held by the Registrant's trust department
in a fiduciary capacity for benefit of its directors and principal executive
officers.
The number of shares outstanding of the Registrant's common stock, as of January
31, 2005, was 69,102,000.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Proxy Statement for the Annual Meeting of Shareholders to be
held April 28, 2005, is incorporated by reference into Part III of this Form
10-K.
OLD NATIONAL BANCORP
2004 ANNUAL REPORT ON FORM 10-K
TABLE OF CONTENTS
PART I PAGE
- -------- ----
Item 1. Business 3
Item 2. Properties 10
Item 3. Legal Proceedings 10
Item 4. Submission of Matters to a Vote of Security Holders 10
PART II
Item 5. Market for the Registrant's Common Equity, Related Shareholder Matters and Issuer 11
Purchases of Equity Securities
Item 6. Selected Financial Data 12
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations 13
Item 7A. Quantitative and Qualitative Disclosures About Market Risk 34
Item 8. Financial Statements and Supplementary Data 37
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure 74
Item 9A. Controls and Procedures 74
Item 9B. Other Information 74
PART III
Item 10. Directors and Executive Officers of the Registrant 74
Item 11. Executive Compensation 75
Item 12. Security Ownership of Certain Beneficial Owners and Management 75
Item 13. Certain Relationships and Related Transactions 75
Item 14. Principal Accountant Fees and Services 75
PART IV
Item 15. Exhibits and Financial Statement Schedules 76
SIGNATURES 79
2
OLD NATIONAL BANCORP
2004 ANNUAL REPORT ON FORM 10-K
PART I
ITEM 1. BUSINESS
GENERAL
Old National Bancorp ("Old National") is a financial holding company
incorporated in the State of Indiana and maintains its principal executive
office in Evansville, Indiana. Old National, through its wholly owned banking
subsidiary, provides a wide range of services, including commercial and consumer
loan and depository services, lease financing and other traditional banking
services. Through its non-bank affiliates, Old National provides services to
supplement the banking business including fiduciary and wealth management
services, investment and brokerage services, investment consulting, insurance
and other financial services. As of December 31, 2004, Old National employed
2,743 full-time equivalent associates.
COMPANY PROFILE
Old National Bank, Old National Bancorp's wholly owned banking subsidiary, was
founded in 1834 and is the oldest company in Evansville, Indiana. In 1982, Old
National Bancorp was formed, in 2001 became a financial holding company and is
currently the largest financial holding company headquartered in the state of
Indiana. Also in 2001, Old National completed the consolidation of 21 bank
charters enabling Old National to operate under a common name with consistent
product offerings throughout the financial center locations, consolidating
back-office operations and allowing Old National to provide more convenient
service to clients. Over the past several years, Old National has grown to
include financial services operations in Indiana, Illinois, Kentucky, Tennessee,
Ohio and Missouri.
Old National has identified potential growth areas within its existing franchise
focused on community banking and building long-term client relationships. In
2004, Old National identified three strategic initiatives essential to the
achievement of the company's earnings and financial performance objectives:
- Strengthen Risk Environment
By the end of 2003, Old National had implemented its new lending structure
in which loan approvals require dual signatures from both market
originators and independent credit underwriters. This formalized process
ensures consistency in underwriting criteria across the organization while
maintaining a strong commitment to client needs. Other lending risk
management initiatives include intensified workout and restructuring
efforts, negotiations to move high-risk credit relationships to other
lenders and the sale of pools of problem loans.
During 2004, Old National created a compliance division, combining the
areas of compliance, risk management, vendor risk management, business
continuity and corporate security. By the end of 2004, this division
created new policies, programs and positions to ensure the appropriate
oversight of compliance with applicable laws and regulations and to
enhance operational risk management capabilities. In addition, during
2004, Old National fully implemented processes in compliance with Section
404 of the Sarbanes-Oxley Act for management's assessment of the
effectiveness of internal control over financial reporting.
- Leverage Expense Discipline
Project "Ascend," the company-wide profit improvement initiative announced
in late 2003, is well underway. The initial phases of the project, the
idea generation and evaluation phases, were completed during the second
quarter of 2004. The project is currently in the implementation phase,
with expectations of full implementation by the end of 2005. The idea
generation phase was conducted with the assistance of EHS Partners. The
project was an intense evaluation of every aspect of operations for
expense reductions and revenue growth ideas. The process which was
developed for analyzing and justifying initiatives and the disciplined
approach used in planning and implementing approved ideas is expected to
have a lasting impact on the corporate culture at Old National.
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- Achieve Consistent Quality Earnings
A key strategic goal for the company is to eliminate the volatility that
has plagued results in recent years and return to consistent quality
earnings. During 2000 to 2004, net income was impacted by several unique
items such as higher than usual provisions for loan losses; merger and
restructuring charges; a litigation reserve; gains on sales of assets,
credit card operations and securities; and nonrecurring charges related to
"Ascend." Even without those singular events, earnings generated by
ongoing operations were erratic. Quality revenue growth is key to this
initiative and is expected to be achieved by expanding relationships with
retail and commercial clients, maintaining a strong credit culture,
leveraging the distinctiveness of Old National's wealth management
service, integrating insurance products with relationship-building
initiatives and a focus on accountability at the local market level.
OPERATING SEGMENTS
Old National is divided into three operating segments: community banking,
non-bank services and treasury. A description of each segment follows.
COMMUNITY BANKING SEGMENT
The community banking segment, operating under the name of Old National Bank,
has traditionally been the most significant contributor to Old National,
historically representing approximately 80% of consolidated net income. The
primary goal of the community banking segment is to provide products and
services that address clients' needs and help clients reach their financial
goals by providing a broad array of quality services. Old National's financial
centers focus on convenience factors such as location, space for private
consultations and quick client access to routine transactions.
As of December 31, 2004, Old National Bank operated more than 120 banking
financial centers in Indiana, Illinois, Kentucky, and a limited area in
Tennessee and in Ohio. The community banking segment primarily consists of
lending and depository activities along with merchant cash management, payroll,
Internet banking and other services relating to the general banking business. In
addition, the community banking segment includes the Indiana Old National
Insurance Company ("IONIC") and Central Life Insurance Company, which reinsure
credit life insurance. IONIC also provides property and casualty insurance for
Old National and reinsures most of the coverage with non-affiliated carriers.
Lending Activities
Old National earns interest income on loans as well as fee income from the
origination of loans. Lending activities include loans to individuals which
primarily consist of home equity lines of credit, residential real estate loans
and consumer loans, and loans to commercial clients, which include commercial
loans, commercial real estate loans, letters of credit and lease financing.
Typically, fixed-rate residential real estate loans are sold to secondary
investors with servicing rights retained by Old National, with gains or losses
from the sales being recognized, while adjustable-rate loans are typically held
in the portfolio.
Depository Activities
Old National strives to serve individuals and commercial clients by providing
depository services that fit their needs at competitive rates. Old National pays
interest on the interest-bearing deposits and receives service fee revenue on
various accounts. Deposit accounts include products such as noninterest-bearing
demand, NOW, savings and money market, and time deposits. Debit and ATM cards
provide access to the clients' accounts 24 hours a day at any ATM location. Old
National also provides 24-hour telephone access and online banking as well as
other electronic banking services.
NON-BANK SERVICES SEGMENT
The non-bank services segment provides a variety of financial services including
investment advisory and wealth management, investment and brokerage services,
investment consulting services and insurance agency services. Old National has
identified the non-bank services segment as an important component in achieving
revenue growth. This is consistent with Old National's transition to stronger
client relationships and less dependence on interest rate conditions. These
units serve clients of the community banking segment as well as members of the
general public.
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Wealth Management
Fiduciary and trust services targeted at high net worth individuals are offered
through an affiliate trust company under the business name of Old National Trust
Company. Signal Capital Management, Inc., an affiliate of Old National Trust
Company, provides fee-based asset management and manages mutual funds.
Investment and Brokerage Services
ONB Investment Services, Inc., a registered broker-dealer, operates as a
subsidiary of Old National Bank to provide clients with convenient and
professional investment services and a variety of brokerage products. This line
of business offers a full array of investment options and investment advice to
its clients.
Investment Consulting Services
Fund Evaluation Group, LLC, a subsidiary of Old National Bancorp, provides
investment consulting services specializing in portfolio structure, investment
management research and performance reporting.
Insurance Agency Services
Through its insurance agency subsidiaries, Old National offers full-service
insurance brokerage services including commercial property and casualty, surety,
loss control services, employee benefits consulting and administration, and
personal insurance. These subsidiaries are insurance agencies that offer
products that are issued and underwritten by various insurance companies not
affiliated with Old National.
TREASURY SEGMENT
Treasury manages investments, wholesale funding, interest rate risk, liquidity
and leverage for Old National. Treasury also provides capital markets products,
including interest rate derivatives, foreign exchange and industrial revenue
bond financing for the company's commercial clients.
Additional information about Old National's business segments is included in
Item 7, "Management's Discussion and Analysis of Financial Condition and Results
of Operations" and Note 22 to the consolidated financial statements.
MARKET AREA
Old National provides financial services primarily in Indiana, with limited
presence in the northern part of the state, eastern and southeastern Illinois,
central and western Kentucky, northern Tennessee, western Ohio and eastern
Missouri, supporting both rural and urban communities.
The majority of existing Old National markets can be characterized as low-growth
and high-share markets. According to recent U.S. Census Bureau data, the 5-year
household growth projection for communities surrounding Old National offices is
less than 3%. Deposit market share information provided by FDIC statistics and
company information indicates that approximately 66% of existing client
households reside in communities in which Old National has 20% or greater
deposit market share. In contrast, new expansion markets in Indianapolis,
Indiana and Louisville, Kentucky offer exceptional market growth and share
increase opportunities with growth rates in excess of 5% and current deposit
market share of less than 2%. Median household income in the majority of markets
served by Old National averages $42,400, slightly under the 2003 census bureau
national median of $43,300. Median household income in targeted counties in the
expansion markets of Indianapolis and Louisville exceed national income levels,
reporting median household incomes of $49,300 and $46,400, respectively.
Two key growth strategies built around Old National market profiles focus on: 1)
increasing client household penetration with additional products and services in
low-growth, high-share markets; and 2) further investment into high-growth
markets. In 2004, expansion efforts continued with new offices opening in
Indianapolis, Indiana, O'Fallon, Illinois and Louisville, Kentucky.
After years of registering flat growth, Ball State University and Indiana
University's Kelly School of Business economists project employment will
increase 1.5 to 2 percent in 2005 for the state of Indiana, Old National's
primary state of operation. In addition, Indiana factory employment levels have
stabilized in what has been a challenged manufacturing sector.
5
The following table reflects Old National's market share for significant markets
with the most recent data available.
OLD NATIONAL DEPOSIT MARKET SHARE AND NUMBER OF BRANCH LOCATIONS
DEPOSITS AS OF JUNE 30, 2004
NUMBER OF DEPOSIT MARKET
MARKET LOCATION BRANCHES SHARE RANK
- --------------- --------- --------------
Evansville,Indiana 16 1st
Clarksville,Tennessee 5 2nd
Muncie,Indiana 7 3rd
Bloomington,Indiana 5 4th
Terre Haute,Indiana 6 2nd
Danville,Illinois 3 1st
Source: SNL Financial
ACQUISITION AND DIVESTITURE STRATEGY
Since the formation of Old National Bancorp in 1982, Old National has acquired
more than 40 financial institutions and financial services companies. In the
future, Old National will continue to pursue opportunities to acquire both
financial institutions and financial services companies. Acquisitions and
divestitures will be driven by a disciplined financial process and will be
consistent with the existing focus on community banking, client relationships
and consistent quality earnings. Targeted geographic markets for acquisitions
include mid-size markets within or near Old National's existing franchise with
average to above average growth rates.
As with previous acquisitions, the consideration paid by Old National will be in
the form of cash, debt or Old National Bancorp stock. The amount and structure
of such consideration is based on reasonable growth and cost savings assumptions
and a thorough analysis of the impact on both long- and short-term financial
results.
Old National plans to divest of selected non-strategic assets to better align
its operations with its market and product focus. See Note 23 to the
consolidated financial statements for further discussion regarding the expected
divestitures identified subsequent to December 31, 2004.
COMPETITION
The banking industry and related financial service providers operate in a highly
competitive market. Within its six-state geography, Old National competes with
financial services providers such as local, regional and national banking
institutions, savings and loan associations, credit unions, finance companies
and mortgage banking companies. In addition, Old National's non-bank services
segment faces competition with investment brokers, asset managers and advisory
services, money market and mutual fund companies and insurance agencies.
SUPERVISION AND REGULATION
Old National is registered as a bank holding company and has elected to be a
financial holding company. It is subject to the supervision of, and regulation
by, the Board of Governors of the Federal Reserve System ("Federal Reserve")
under the Bank Holding Company Act of 1956, as amended ("BHC Act"). The Federal
Reserve has issued regulations under the BHC Act requiring a bank holding
company to serve as a source of financial and managerial strength to its
subsidiary banks. It is the policy of the Federal Reserve that, pursuant to this
requirement, a bank holding company should stand ready to use its resources to
provide adequate capital funds to its subsidiary banks during periods of
financial stress or adversity.
The BHC Act requires the prior approval of the Federal Reserve to acquire more
than a 5% voting interest of any bank or bank holding company. Additionally, the
BHC Act restricts Old National's non-banking activities to those which are
determined by the Federal Reserve to be closely related to banking and a proper
incident thereto.
On July 30, 2002, the Senate and the House of Representatives of the United
States ("Congress") enacted the Sarbanes-Oxley Act of 2002, a law that
addresses, among other issues, corporate governance, auditing and accounting,
executive compensation and enhanced and timely disclosures of corporate
information. In response, the New York Stock Exchange also adopted new corporate
governance rules that are intended to allow shareholders to more easily and
efficiently monitor the performance of companies and directors.
6
Effective August 29, 2002, as directed by Section 302(a) of the Sarbanes-Oxley
Act, Old National's principal executive officer and principal financial officer
are required to certify that Old National's quarterly and annual reports do not
contain any untrue statements of a material fact. The rules also require that
these officers certify that they are responsible for establishing, maintaining
and regularly evaluating the effectiveness of Old National's internal controls;
they have made certain disclosures to auditors and the Audit Committee of the
Board of Directors about internal controls; and they have included information
in Old National's quarterly and annual reports about their evaluation and
whether there have been significant changes in Old National's internal controls
or in other factors that could significantly affect internal controls subject to
the evaluation. Old National filed the Section 302(a) certifications with the
SEC and the Listed Company Manual Section 303A.12(a) CEO certification with the
New York Stock Exchange for the prior year.
On January 27, 2005, the Board of Directors approved amendments to the Corporate
Governance and Nominating Committee Charter, the Audit Committee Charter, the
Compensation Committee Charter, and the Code of Business Conduct and Ethics,
including changing the name of the Compensation Committee to the Compensation
and Management Development Committee. In addition, all associates are now
required annually to sign a written acknowledgement of the Code of Business
Conduct and Ethics as a basis of continued employment. The Senior Financial and
Executive Officer Code of Ethics remained intact as previously approved on
January 23, 2003. These corporate governance documents, and any future
amendments, will be available for review under the Corporate Governance link on
Old National's website at www.oldnational.com.
Effective August 14, 2003, pursuant to Section 404 of the Sarbanes-Oxley Act of
2002 the Company is required to include an internal control report of management
in its Annual Report on Form 10-K beginning with its first fiscal year ending
after June 15, 2004. The internal control report must contain (i) a statement of
management's responsibility for establishing and maintaining adequate internal
control over financial reporting, (ii) a statement identifying the framework
used by management to conduct the required evaluation of the effectiveness of
internal control over financial reporting, (iii) management's assessment of the
effectiveness of internal control over financial reporting as of the end of the
most recent fiscal year, including a statement as to whether or not internal
control over financial reporting is effective, and (iv) a statement that the
Company's independent auditors have issued an attestation report on management's
assessment of internal control over financial reporting. Refer to Item 8 for
Management's Report on Internal Control over Financial Reporting.
Effective October 28, 2004, the Board of Governors of the Federal Reserve System
("Board") adopted final amendments to Regulation CC and its commentary to
implement the Check Clearing for the 21st Century Act ("Check 21 Act"). The
Check 21 Act was enacted on October 28, 2003, and became effective on October
28, 2004.
To facilitate check truncation and electronic check exchange, the Check 21 Act
authorizes a new negotiable instrument called a "substitute check" and provides
that a properly prepared substitute check is the legal equivalent of the
original check for all purposes. A substitute check is a paper reproduction of
the original check that can be processed just like the original check. The Check
21 Act does not require any bank to create substitute checks or to accept checks
electronically. The Board's amendments: (i) set forth the requirements of the
Check 21 Act that apply to all banks, including those that choose not to create
substitute checks; (ii) provide a model disclosure and model notices relating to
substitute checks; and (iii) set forth bank endorsement and identification
requirements for substitute checks. The amendments to Regulation CC also clarify
some existing provisions of the rule and commentary. Old National is in
compliance with the Check 21 Act.
On October 26, 2001, the USA Patriot Act of 2001 was signed into law. Enacted in
response to the terrorist attacks in New York, Pennsylvania and Washington, D.C.
on September 11, 2001, the Patriot Act is intended to strengthen U.S. law
enforcement's and the intelligence community's ability to work cohesively to
combat terrorism on a variety of fronts. The potential impact of the Patriot Act
on financial institutions of all kinds is significant and wide-ranging. The
Patriot Act contains sweeping anti-money laundering and financial transparency
laws and requires various regulations, including: (a) due diligence requirements
for financial institutions that administer, maintain, or manage private bank
accounts or correspondent accounts for non-U.S. persons; (b) standards for
verifying customer identification at account opening; (c) rules to promote
cooperation among financial institutions, regulators and law enforcement
entities in identifying parties that may be involved in terrorism or money
laundering; (d) reports by non-financial trades and businesses filed with the
Treasury Department's Financial Crimes Enforcement Network for transactions
exceeding $10,000; and (e) filing of suspicious activities reports by brokers
and dealers if they believe a customer may be violating U.S. laws and
regulations.
7
Under the Federal Deposit Insurance Corporation Improvement Act of 1991
("FDICIA"), a bank holding company is required to guarantee the compliance of
any insured depository institution subsidiary that may become "undercapitalized"
(as defined in FDICIA) with the terms of any capital restoration plan filed by
such subsidiary with its appropriate federal bank regulatory agency.
Bank holding companies are required to comply with the Federal Reserve's
risk-based capital guidelines. The Federal Deposit Insurance Corporation
("FDIC") and the Office of the Comptroller of the Currency ("OCC") have adopted
risk-based capital ratio guidelines to which depository institutions under their
respective supervision are subject. The guidelines establish a systematic
analytical framework that makes regulatory capital requirements more sensitive
to differences in risk profiles among banking organizations. Risk-based capital
ratios are determined by allocating assets and specified off-balance sheet
commitments to four risk-weighted categories, with higher levels of capital
being required for the categories perceived as representing greater risk. Old
National's affiliate bank met all risk-based capital requirements of the FDIC
and OCC as of December 31, 2004. For Old National's regulatory capital ratios
and regulatory requirements as of December 31, 2004, see Note 20 to the
consolidated financial statements.
Old National's affiliate bank is subject to the provisions of the National Bank
Act, is supervised, regulated and examined by the OCC, and is subject to the
rules and regulations of the OCC, Federal Reserve and the FDIC.
A substantial portion of Old National's cash revenue is derived from dividends
paid to it by its affiliate bank. These dividends are subject to various legal
and regulatory restrictions as summarized in Note 20 to the consolidated
financial statements.
Both federal and state law extensively regulates various aspects of the banking
business, such as reserve requirements, truth-in-lending and truth-in-savings
disclosures, equal credit opportunity, fair credit reporting, trading in
securities and other aspects of banking operations. Branching by Old National's
affiliate bank is subject to the jurisdiction and requires notice to or the
prior approval of the OCC.
Old National and its affiliate bank are subject to the Federal Reserve Act,
which restricts financial transactions between banks and affiliated companies.
The statute limits credit transactions between banks, affiliated companies and
its executive officers and its affiliates. The statute prescribes terms and
conditions for bank affiliate transactions deemed to be consistent with safe and
sound banking practices, and restricts the types of collateral security
permitted in connection with a bank's extension of credit to an affiliate.
Additionally, all transactions with an affiliate must be on terms substantially
the same or at least as favorable to the institution as those prevailing at the
time for comparable transactions with nonaffiliated parties.
FDICIA accomplished a number of sweeping changes in the regulation of depository
institutions, including Old National's affiliate bank. FDICIA requires, among
other things, federal bank regulatory authorities to take "prompt corrective
action" with respect to banks which do not meet minimum capital requirements.
FDICIA further directs that each federal banking agency prescribe standards for
depository institutions and depository institution holding companies relating to
internal controls, information systems, internal audit systems, loan
documentation, credit underwriting, interest rate exposure, asset growth,
management compensation, a maximum ratio of classified assets to capital,
minimum earnings sufficient to absorb losses, a minimum ratio of market value to
book value of publicly traded shares and such other standards as the agency
deems appropriate.
The deposits of Old National's affiliate bank are insured up to $100,000 per
insured account by the Bank Insurance Fund ("BIF"), which is administered by the
FDIC, except for deposits acquired in connection with affiliations with savings
associations, which deposits are insured by the Savings Association Insurance
Fund ("SAIF"). Accordingly, Old National's affiliated bank pays deposit
insurance premiums to both BIF and SAIF.
The Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 allows
for interstate banking and interstate branching without regard to whether such
activity is permissible under state law. Bank holding companies may now acquire
banks anywhere in the United States subject to certain state restrictions.
The Gramm-Leach-Bliley Act ("GLBA") permits bank holding companies which have
elected to become financial holding companies to engage in a substantially
broader range of non-banking activities, including securities, investment advice
and insurance activities, than is permissible for bank holding companies that
have not elected to
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become financial holding companies. Old National has elected to be a financial
holding company. As a result, Old National may underwrite and sell securities
and insurance. It may acquire, or be acquired by, brokerage firms and insurance
underwriters. GLBA established new requirements for financial institutions to
provide enhanced privacy protections to customers. In June of 2000, the Federal
banking agencies jointly adopted a final regulation providing for the
implementation of these protections. Financial institutions are required to
provide notice to consumers which details its privacy policies and practices,
describes under what conditions a financial institution may disclose nonpublic
personal information about consumers to nonaffiliated third parties and provides
an "opt-out" method which enables consumers to prevent the financial institution
from disclosing customer information to nonaffiliated third parties. Financial
institutions were required to be in compliance with the final regulation by July
1, 2001, and Old National was in compliance at such date and continues to be in
compliance.
In addition to the matters discussed above, Old National's affiliate bank is
subject to additional regulation of its activities, including a variety of
consumer protection regulations affecting its lending, deposit and collection
activities and regulations affecting secondary mortgage market activities. The
earnings of financial institutions are also affected by general economic
conditions and prevailing interest rates, both domestic and foreign and by the
monetary and fiscal policies of the United States government and its various
agencies, particularly the Federal Reserve.
Additional legislative and administrative actions affecting the banking industry
may be considered by Congress, state legislatures and various regulatory
agencies, including those referred to above. It cannot be predicted with
certainty whether such legislative or administrative action will be enacted or
the extent to which the banking industry in general or Old National and its
affiliate bank in particular would be affected.
FORWARD-LOOKING STATEMENTS AND RISK FACTORS
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-K, 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 addition to those mentioned by Old
National in this and its other filings from time to time when considering any
forward-looking statement.
AVAILABLE INFORMATION
All reports filed electronically by Old National Bancorp with the Securities and
Exchange Commission ("SEC"), including the annual reports on Form 10-K,
quarterly reports on Form 10-Q, current reports on Form 8-K, proxy and
information statements, other information and amendments to those reports filed
(if applicable), are accessible at no cost on Old National's web site at
www.oldnational.com. The SEC maintains an Internet site that contains reports,
proxy and information statements and other information regarding issuers that
file electronically with the SEC, and Old National's filings are accessible on
the SEC's web site at www.sec.gov. The public may read and copy any
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materials filed by Old National with the SEC at the SEC's Public Reference Room
at 450 Fifth Street, NW, Washington, DC 20549. The public may obtain information
on the operation of the Public Reference Room by calling the SEC at
1-800-SEC-0330.
ITEM 2. PROPERTIES
The principal executive offices of Old National and its community banking,
non-banking services and treasury segments are currently located in the newly
constructed Evansville main financial center and corporate headquarters located
at 1 Main Street, Evansville, Indiana. The building is owned by Old National
Bank and is free from any encumbrances.
Old National's affiliate bank and subsidiaries conduct business primarily from
facilities Old National owns. Of the over 130 banking and financial services
centers operated by Old National in Indiana, Illinois, Kentucky, Tennessee, Ohio
and Missouri, 43 are leased from non-affiliated third parties and the remainder
are owned by Old National and are free from mortgages and major encumbrances.
ITEM 3. LEGAL PROCEEDINGS
Old National has no material pending legal proceedings required to be disclosed
under Item 3. See Note 18 to the consolidated financial statements for further
discussion of Old National's legal proceedings.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders of Old National during
the fourth quarter of 2004.
10
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED SHAREHOLDER MATTERS AND
ISSUER PURCHASES OF EQUITY SECURITIES
Old National's common stock is traded on the New York Stock Exchange ("NYSE")
under the ticker symbol ONB. The following table lists the NYSE price quotes,
share volume and dividend data for 2004 and 2003.
PRICE PER SHARE
---------------------- SHARE DIVIDEND
HIGH LOW VOLUME DECLARED
--------- --------- --------- ---------
2004
First Quarter $ 21.79 $ 20.02 6,498,660 $ 0.18
Second Quarter 24.33 20.89 8,714,895 0.18
Third Quarter 24.56 22.05 6,276,795 0.18
Fourth Quarter 25.41 22.90 5,702,865 0.18
--------- --------- --------- ---------
2003
First Quarter $ 21.63 $ 19.22 3,929,420 $ 0.17
Second Quarter 21.59 19.54 4,476,150 0.17
Third Quarter 21.73 20.28 3,974,513 0.17
Fourth Quarter 21.09 19.63 4,055,988 0.18
--------- --------- --------- ---------
Data adjusted for all stock dividends, including a 5% stock dividend to
shareholders of record on January 5, 2005, distributed on January 26, 2005.
In December 2004, a 5% stock dividend was declared to shareholders of record on
January 5, 2005. There were 26,639 shareholders of record as of December 31,
2004. Also, Old National declared $0.72 per share in dividends during the year
ended December 31, 2004, and $0.69 per share in dividends for the year ended
December 31, 2003. Old National's ability to pay cash dividends primarily
depends on cash dividends received from Old National Bank. Dividend payments
from Old National Bank are subject to various regulatory restrictions. See Note
20 to the consolidated financial statements for additional information.
In December 2003, the Board of Directors approved the repurchase of a maximum of
5% of outstanding stock during the calendar year 2004. Old National announced on
December 9, 2004, that the Board of Directors approved the continuation of the
stock repurchase program up to 5% of outstanding stock for 2005. The following
table summarizes the purchases of equity securities made by Old National during
the fourth quarter of 2004.
TOTAL NUMBER
OF
SHARES
PURCHASED
TOTAL AVERAGE AS MAXIMUM NUMBER OF
NUMBER PRICE PART OF PUBLICLY SHARES THAT MAY YET
OF SHARES PAID PER ANNOUNCED PLANS BE PURCHASED UNDER
PERIOD PURCHASED SHARE OR PROGRAMS THE PLANS OR PROGRAMS
------ --------- --------- ---------------- ---------------------
10/01/04 - 10/31/04 124,950 $ 23.19 124,950 2,143,552
11/01/04 - 11/30/04 34,545 23.75 34,545 2,107,542
12/01/04 - 12/31/04 113,190 24.51 113,190 1,989,549
-------- --------- ------- ---------
Total 272,685 $ 23.81 272,685 1,989,549
======== ========= ======= =========
Data adjusted for all stock dividends, including a 5% stock dividend to
shareholders of record on January 5, 2005, distributed on January 26, 2005.
11
ITEM 6. SELECTED FINANCIAL DATA
FIVE-YEAR
(dollars in thousands GROWTH
except per share data) 2004 2003 2002 2001 2000 1999 RATE
- ----------------------------------- ---------- ---------- ---------- ----------- ----------- ---------- ---------
RESULTS OF OPERATIONS
Net interest income (1) $ 274,702 $ 297,130 $ 314,606 $ 312,620 $ 289,510 $ 299,165 (1.7)%
Fee and service charge income 179,227 168,593 129,580 108,197 101,832 80,513 17.4
Net securities gains (losses) 2,936 23,556 12,444 4,770 (119) 2,637 N/M
Gain on branch divestitures - - 12,473 - - - N/M
---------- ---------- ---------- ----------- ----------- ---------- ------
Total revenue (1) $ 456,865 489,279 469,103 425,587 391,223 382,315 3.6
---------- ---------- ---------- ----------- ----------- ---------- ------
Provision for loan losses 22,400 85,000 33,500 28,700 29,803 14,798 8.6
Salaries and
other operating expenses 335,927 299,716 257,845 245,109 228,034 223,897 8.5
Merger and restructuring costs - - - 9,703 37,503 - N/M
Income taxes (1) 30,967 34,150 59,826 49,031 34,187 50,363 (9.3)
---------- ---------- ---------- ----------- ----------- ---------- ------
Income from
continuing operations 67,571 70,413 117,932 93,044 61,696 93,257 (6.2)
Discontinued operations (after-tax) - - - - - 4,101 N/M
---------- ---------- ---------- ----------- ----------- ---------- ------
Net Income $ 67,571 $ 70,413 $ 117,932 $ 93,044 $ 61,696 $ 97,358 (7.0)%
========== ========== ========== =========== =========== ========== ======
PER SHARE DATA (2)
Net income (diluted) $ 0.97 $ 1.00 $ 1.67 $ 1.29 $ 0.85 $ 1.30 (5.7)%
Cash dividends paid 0.72 0.69 0.63 0.56 0.53 0.49 8.0
Book value at year-end 10.15 10.24 10.52 9.03 8.55 8.10 4.6
Stock price at year-end 24.63 20.72 20.99 20.77 23.46 24.21 0.3
BALANCE SHEET DATA
(AT DECEMBER 31)
Total assets $8,898,304 $9,363,232 $9,612,556 $ 9,080,473 $ 8,767,748 $8,086,012 1.9%
Loans (3) 4,987,326 5,586,455 5,769,635 6,132,854 6,348,313 5,714,688 (2.7)
Deposits 6,414,263 6,493,092 6,439,280 6,616,440 6,583,906 5,962,069 1.5
Other borrowings 1,312,661 1,624,092 1,234,014 1,083,046 863,165 768,055 11.3
Shareholders' equity 703,208 715,490 740,710 639,235 626,341 584,995 3.7
PERFORMANCE RATIOS
Return on average assets 0.74% 0.74% 1.27% 1.05% 0.73% 1.25%
Return on average
shareholders' equity 9.51 9.48 17.05 14.45 10.55 15.82
Dividend payout 74.40 68.69 37.25 43.13 62.84 36.52
Average equity to average assets 7.79 7.78 7.47 7.27 6.92 7.90
Net interest margin (1) 3.31 3.37 3.65 3.77 3.65 4.09
Efficiency ratio
(noninterest expense/revenue)(1) 73.53 61.26 54.97 59.87 67.87 58.56
Net charge-offs
to average loans (3) 0.61 1.21 0.34 0.45 0.39 0.17
Allowance for loan losses to
ending loans (3) 1.72 1.70 1.52 1.21 1.16 1.15
OTHER DATA
Number of full-time
equivalent employees 2,743 3,019
Number of shareholders 26,639 25,459
Number of shares traded
(in thousands) (2) 27,193 16,436
---------- ----------
(1) Includes the effect of taxable equivalent adjustments of $23.9 million for
2004, $25.1 million for 2003, $25.2 million for 2002, $21.3 million for
2001, $19.6 million for 2000, and $17.9 million for 1999, using the
federal statutory tax rate in effect of 35% for all periods.
(2) All share and per share data have been adjusted for stock dividends and
stock splits, including a 5% stock dividend to shareholders of record on
January 5, 2005, distributed on January 26, 2005. Diluted data assumes the
conversion of stock options, restricted stock and subordinated debentures.
(3) Includes residential loans held for sale.
N/M = Not meaningful
12
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
EXECUTIVE SUMMARY
Net income for 2004 decreased compared to previous years, impacted primarily by
nonrecurring charges related to "Ascend", decreased net securities gains and
reduced mortgage banking revenue. Weak loan demand in the markets served by Old
National as well as low interest rates continue to negatively affect the net
interest margin. Positive factors during 2004 included reduced provisions for
loan losses, increased insurance premiums and commissions, and increased service
charge income. In addition, 2003 included a $10.0 million reserve for the
settlement of pending litigation.
Old National's financial condition at December 31, 2004, reflected significant
reductions in loans, time deposits and borrowed funds. The reduction in loans
was primarily the result of two loan sales occurring during the year as well as
soft loan demand. Management uses various indicators such as return on assets,
return on equity and asset quality ratios 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
The following discussion is an analysis of Old National's results of operations
for the years ended December 31, 2002 through 2004, and financial condition as
of December 31, 2004 and 2003. 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.
See Item 1, "Business" for further information regarding forward-looking
statements.
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 the annual 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 intangibles. 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.
13
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
December 31, 2004, resulted in a range for allowance for loan losses of
$7.2 million with the potential effect to net income ranging from a
decrease of $2.6 million to an increase of $2.1 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 December 31,
2004, 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 December 31,
2004, by $0.5 million and $0.9 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 INTANGIBLES. For acquisitions, Old National is required to
record the assets acquired, including identified 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
14
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 intangibles 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".
NON-GAAP FINANCIAL MEASURES
In January 2003, the United States Securities and Exchange Commission ("SEC")
issued Regulation G, "Conditions for Use of Non-GAAP Financial Measures." This
"Management's Discussion and Analysis" may contain non-GAAP financial measures.
For purposes of Regulation G, a non-GAAP financial measure is a numerical
measure of the registrant's historical or future financial performance,
financial position or cash flows that excludes amounts, or is subject to
adjustments that have the effect of excluding amounts, that are included in the
most directly comparable measure calculated and presented in accordance with
GAAP in the statement of income, balance sheet or statement of cash flows (or
equivalent statements) of the issuer; or includes amounts, or is subject to
adjustments that have the effect of including amounts, that are excluded from
the most directly comparable measure so calculated and presented.
In this regard, GAAP refers to generally accepted accounting principles in the
United States of America. Pursuant to the requirements of Regulation G, Old
National has provided reconciliations, as necessary, of the non-GAAP financial
measure to the most directly comparable GAAP financial measure. See the
"Earnings Summary" of this "Management's Discussion and Analysis" for non-GAAP
financial measures.
ACQUISITION, CONSOLIDATION AND DIVESTITURE ACTIVITY
During 2003, Old National acquired three insurance agency operations, which
enhanced the growth of the non-bank services segment. See Note 2 to the
consolidated financial statements for more details.
Subsequent to December 31, 2004, Old National committed to a plan to sell
selected non-strategic assets to better align its operations with its market and
product focus. See Note 23 to the consolidated financial statements for further
discussion regarding the expected divestitures identified subsequent to December
31, 2004.
15
RESULTS OF OPERATIONS
EARNINGS SUMMARY
In 2004, Old National generated $67.6 million of net income and $0.97 net income
per share compared to $70.4 million and $1.00, respectively in 2003. Old
National's return on average assets ("ROA") was 0.74% and return on average
shareholders' equity ("ROE") was 9.51% for the year, which was comparable to the
2003 ratios of 0.74% and 9.48%, respectively. Excluding the nonrecurring
implementation charges related to "Ascend" of $17.5 million after-tax, Old
National's return on average assets and return on average shareholders' equity
for the year ended December 31, 2004, was 0.93% and 11.97%, respectively, as
reconciled in Table 1 and compared to the year ended December 31, 2003.
ROA/ROE (TABLE 1)
ROA ROE
---- ----
As reported December 31, 2004 0.74% 9.51%
Effect of "Ascend" implementation charges 0.19 2.46
---- -----
Excluding "Ascend" implementation charges 0.93% 11.97%
==== =====
As reported December 31, 2003 0.74% 9.48%
==== =====
Lower interest rates, as well as the sale of $405.6 million of residential real
estate loans during the second quarter of 2004, weak commercial loan demand, and
the reduction of the average investment portfolio contributed to a decline of
$22.4 million in net interest income for 2004 compared to 2003.
Noninterest income decreased $10.0 million in 2004, the result of reduced net
securities gains and decreased mortgage revenue, offset primarily by increased
insurance premiums and commissions and service charge income. Increased mortgage
loan rates above the record low rates of 2003 hindered mortgage originations for
2004 compared to 2003. Details are discussed further in the "Noninterest Income"
section of this "Management's Discussion and Analysis."
Noninterest expense increased as a result of the nonrecurring pre-tax charges
related to "Ascend" of $25.5 million, or $17.5 million after tax, as well as
increased severance benefits related to reorganization of management and
increased occupancy expense due to the new Evansville main financial center and
corporate headquarters. Also, in 2003 a charge of $10.0 million pre-tax, or $6.7
million after-tax was recorded to establish a reserve related to litigation
settlements. The details of these expenses are discussed further in the
"Noninterest Expense" section of this "Management's Discussion and Analysis".
Also, see additional information on "Ascend" and details regarding the new
Evansville main financial center and corporate headquarters below.
The most significant positive impact on December 31, 2004 earnings was the
decrease in the provision for loan losses of $62.6 million, largely a result of
the reduction of nonperforming loans and charge-offs and reflective of enhanced
credit administration and underwriting functions during 2004.
The company-wide program, "Ascend," was announced in late 2003. The initial
phase of the project was conducted with the assistance of EHS Partners and was
an intense evaluation of every aspect of operations for expense reductions and
revenue growth ideas. At December 31, 2004, "Ascend" was in the implementation
phase. Ideas representing approximately $36.6 million of the targeted earnings
were complete, $27.8 million were on time, $3.1 million were late, $4.8 million
were at risk of completion, $4.7 million were withdrawn and an additional $3.5
million of new ideas had been identified. Initiatives arising from the project
are expected to be fully implemented by the end of 2005, with full realization
of benefits by 2006.
In 2001, the Board of Directors approved construction of a new Evansville main
financial center and corporate headquarters to be completed prior to expiration
of the operating leases on the buildings then occupied. Prior to this decision,
the Board of Directors evaluated renewal options for the leases on the
then-occupied buildings including capital investments that would be required for
improvements to the leased facilities. It was determined that the costs
associated with continuing the leases and making the required capital
investments would be relatively comparable to constructing a new building. The
new Evansville main financial center and corporate headquarters was placed into
service on August 11, 2004. At December 31, 2004, the total project cost was
$73.7 million including building
16
components of $58.4 million, furniture, fixtures and equipment of $7.3 million,
land of $4.9 million and capitalized interest of $3.1 million.
BUSINESS LINE RESULTS
Old National is managed in three primary business segments. Table 2 summarizes
Old National's business line results for the years ended December 31.
BUSINESS LINE RESULTS (TABLE 2)
(dollars in thousands) 2004 2003 2002
- -------------------------- ------- ------- ---------
Community banking $ 56,584 $50,043 $ 90,336
Non-bank services 2,882 4,628 1,222
Treasury 8,105 22,476 18,092
Other - (6,734) 8,282
-------- ------- ---------
Consolidated net income $ 67,571 $70,413 $ 117,932
======== ======= =========
The 2004 community banking segment profit increased $6.5 million from 2003. The
most significant impact on the community banking segment profit was the decrease
of $62.8 million in the provision for loan losses, which is reflective of
enhanced credit administration and underwriting functions during 2004, as well
as a decline in the loan portfolio. This decline in the provision was offset by
decreased noninterest income of $8.0 million, decreased net interest income of
$5.1 million and increased noninterest expense of $41.1 million. Noninterest
income was affected primarily by the decline in mortgage banking activity during
the current year. The decline in net interest income was reflective of a
decrease in average earning assets as well as an increase in the cost of
funding. The most significant contributors to the increase in noninterest
expense in 2004 were the nonrecurring charges related to "Ascend," severance
benefits related to reorganization of management and professional fees related
to compliance with banking regulations and the first year implementation of
Section 404 of the Sarbanes-Oxley Act.
The 2004 non-bank services segment profit decreased $1.7 million from 2003 which
is reflective of an increase in noninterest income of $17.6 million that was
offset by an increase in noninterest expense of $20.6 million. The growth in
noninterest income was primarily due to the insurance acquisitions made during
2003. The increase in noninterest expense can be partially attributed to these
acquisitions and partially to the allocation of the "Ascend" charges. The
treasury segment profit showed a decline of $14.4 million in 2004 as compared to
2003, primarily as a result of the net securities gains decrease of $20.6
million in 2004 compared to 2003.
The "Other" segment profit included gains or charges which management chose not
to allocate to the various segments. "Other" for 2003 included expenses to
record the litigation reserve of $10.0 million, or $6.7 million after tax.
NET INTEREST INCOME
Net interest income was the most significant component of Old National's
earnings, comprising over 57% of 2004 revenues. Net interest income and net
interest margin in the following discussion is presented on a fully taxable
equivalent basis, which adjusts tax-exempt interest income to an amount that
would be comparable to interest subject to income taxes. Net income is
unaffected by these taxable equivalent adjustments as an offsetting increase of
the same amount is made in the income tax section. Net interest income included
taxable equivalent adjustments of $23.9 million for 2004 and $25.1 million for
2003.
Net interest income and margin are influenced by many factors, primarily the
volume and mix of earning assets and 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.
Taxable equivalent net interest income was $274.7 million in 2004, a 7.5%
decrease from the $297.1 million reported in 2003. The net interest margin was
3.31% for 2004, compared to 3.37% reported for 2003. The reduction in net
interest income was a result of the increase in the cost of funding without
offsetting increases in earning asset yields. Average earning assets declined by
$516.2 million, which consisted of decreased investment
17
securities of $274.3 million and decreased loans of $310.7 million, net of
increased money market investments of $68.8 million. The yield on average
earning assets declined 30 basis points from 5.62% to 5.32%. Average
interest-bearing liabilities declined by $441.3 million or 5.6%, which included
decreased borrowings of $400.1 million and decreased interest-bearing deposits
of $41.2 million. The cost of interest-bearing liabilities declined 27 basis
points from 2.49% to 2.22%. Noninterest-bearing deposits provided $50.3 million
in funding.
The continued decline in interest rates during 2003 and early 2004 had a notable
effect on the volume, mix and yield of average earning assets. The target
Federal funds rate, the rate that dictates national prime rate and determines
many other short-term loan and liability rates, began to rise in June 2004 from
1.00% to 2.25% by December 2004. Market-driven interest rates, as evidenced by
the five-year United States Treasury Note weekly yield, increased slowly but not
significantly during 2004 from 3.05% in January to 3.61% in December.
Significantly affecting average earning assets during 2004 was the sale of
$405.6 million of residential real estate loans at the end of the second quarter
of 2004. In addition, commercial and commercial real estate loans continued to
decline during 2004 as a result of continued 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. During 2004, the company continued its strategy to
reduce its investment portfolio assets because of the narrow spreads available
on those assets in the current rate environment. However, at the end of 2004,
the investment portfolio increased slightly as a short-term investment of funds
from the fourth-quarter loan sale.
Table 3 presents a three-year average balance sheet and for each major asset and
liability category, its related interest income and yield or its expense and
rate for the years ended December 31. Table 4 shows fluctuations in net interest
income attributable to changes in the average balances of assets and liabilities
and the yields earned or rates paid for the years ended December 31.
18
THREE-YEAR AVERAGE BALANCE SHEET AND NET INTEREST ANALYSIS (TABLE 3)
2004 2003 2002
------------------------------ ---------------------------- -------------------------------
(taxable equivalent basis, AVERAGE INTEREST YIELD/ AVERAGE INTEREST YIELD/ AVERAGE INTEREST YIELD/
dollars in thousands) BALANCE & FEES RATE BALANCE & FEES RATE BALANCE & FEES RATE
- ------------------------- ---------- -------- ----- ---------- -------- ----- --------- -------- ------
EARNING ASSETS
Money market investments $ 95,094 $ 1,318 1.39% $ 26,284 $ 314 1.19% $ 25,841 $ 383 1.48%
Investment securities: (5)
U.S. Treasury and
Government agencies (1) 2,062,855 79,777 3.87 2,338,860 94,475 4.04 1,934,693 100,076 5.17
States and political
subdivisions (4) 638,413 44,164 6.92 667,498 46,856 7.02 656,085 46,777 7.13
Other securities 153,329 6,355 4.14 122,507 5,956 4.86 120,467 7,135 5.92
---------- -------- ---- ---------- -------- ---- ---------- -------- ----
Total investment securities 2,854,597 130,296 4.56 3,128,865 147,287 4.71 2,711,245 153,988 5.68
---------- -------- ---- ---------- -------- ---- ---------- -------- ----
Loans: (2)
Commercial (4) 1,611,132 87,191 5.41 1,686,664 94,706 5.61 1,690,377 111,201 6.58
Commercial real estate 1,767,528 100,674 5.70 1,866,105 109,475 5.87 1,844,492 127,877 6.93
Residential real estate (3) 765,537 42,896 5.60 1,003,098 63,947 6.37 1,286,664 94,135 7.32
Consumer, net of
unearned income 1,196,490 78,718 6.58 1,095,567 79,142 7.22 1,056,730 84,976 8.04
---------- -------- ---- ---------- -------- ---- ---------- -------- ----
Total loans (3) 5,340,687 309,479 5.79 5,651,434 347,270 6.14 5,878,263 418,189 7.11
---------- -------- ---- ---------- -------- ---- ---------- -------- ----
Total earning assets 8,290,378 $441,093 5.32% 8,806,583 $494,871 5.62% 8,615,349 $572,560 6.65%
======== ==== ======== ==== ======== ====
Less: Allowance for
loan losses (97,779) (89,127) (81,365)
NON-EARNING ASSETS
Cash and due from banks 191,494 178,189 186,534
Other assets 739,403 660,360 543,421
---------- ---------- ----------
Total assets $9,123,496 $9,556,005 $9,263,939
========== ========== ==========
INTEREST-BEARING LIABILITIES
NOW deposits $1,735,613 $ 16,306 0.94% $1,504,662 $ 13,550 0.90% $1,215,858 $ 15,033 1.24%
Savings deposits 471,339 2,226 0.47 479,328 3,511 0.73 462,633 5,454 1.18
Money market deposits 586,957 6,428 1.10 612,044 5,729 0.94 644,037 10,003 1.55
Time deposits 2,822,872 86,311 3.06 3,061,922 115,881 3.78 3,468,623 156,070 4.50
---------- -------- ---- ---------- -------- ---- ---------- -------- ----
Total interest-bearing
deposits 5,616,781 111,271 1.98 5,657,956 138,671 2.45 5,791,151 186,560 3.22
Short-term borrowings 406,121 3,890 0.96 687,588 7,258 1.06 688,958 10,971 1.59
Other borrowings 1,471,621 51,230 3.48 1,590,262 51,812 3.26 1,283,225 60,423 4.71
---------- -------- ---- ---------- -------- ---- ---------- -------- ----
Total interest-bearing
liabilities 7,494,523 $166,391 2.22% 7,935,806 $197,741 2.49% 7,763,334 $257,954 3.32%
======== ==== ======== ==== ======== ====
NONINTEREST-BEARING
LIABILITIES
Demand deposits 803,074 752,788 712,308
Other liabilities 115,475 124,327 96,601
Shareholders' equity 710,424 743,084 691,696
---------- ---------- ----------
Total liabilities and
shareholders' equity $9,123,496 $9,556,005 $9,263,939
========== ========== ==========
INTEREST MARGIN RECAP
Interest income/average
earning assets $441,093 5.32% $494,871 5.62% $572,560 6.65%
Interest expense/average
earning assets 166,391 2.01 197,741 2.25 257,954 3.00
-------- ---- -------- ---- -------- ----
Net interest income
and margin $274,702 3.31% $297,130 3.37% $314,606 3.65%
======== ==== ======== ==== ======== ====
(1) Includes Government agency mortgage-backed securities.
(2) Includes principal balances of nonaccrual loans. Interest income relating
to nonaccrual loans is included only if received. Includes loan fees of
$7.1 million in 2004, $8.9 million in 2003 and $12.2 million in 2002.
(3) Includes residential loans held for sale.
(4) Interest on states and political subdivisions investment securities and
commercial loans includes the effect of taxable equivalent adjustments of
$15.1 million and $8.8 million, respectively, in 2004; $15.9 million and
$9.2 million, respectively, in 2003; and $16.0 million and $9.2 million,
respectively, in 2002; using the federal statutory tax rate in effect of
35% for all periods.
(5) Yield information does not give effect to changes in fair value that are
reflected as a component of shareholders' equity.
19
NET INTEREST INCOME - RATE/VOLUME ANALYSIS (TABLE 4)
2004 VS. 2003 2003 VS. 2002
------------------------------------- ------------------------------------
(taxable equivalent basis, ATTRIBUTED TO ATTRIBUTED TO
TOTAL --------------------- TOTAL ------------------
dollars in thousands) CHANGE VOLUME RATE CHANGE VOLUME RATE
- -------------------------- -------- -------- ------- -------- ------- --------
INTEREST INCOME
Money market investments $ 1,004 $ 887 $ 117 $ (69) $ 6 $ (75)
Investment securities (1) (16,991) (12,715) (4,276) (6,701) 21,689 (28,390)
Loans (1) (37,791) (18,551) (19,240) (70,919) (15,038) (55,881)
-------- -------- ------- -------- ------- --------
Total interest income (53,778) (30,379) (23,399) (77,689) 6,657 (84,346)
-------- -------- ------- -------- ------- --------
INTEREST EXPENSE
NOW deposits 2,756 2,124 632 (1,483) 3,086 (4,569)
Savings deposits (1,285) (48) (1,237) (1,943) 160 (2,103)
Money market deposits 699 (254) 953 (4,274) (398) (3,876)
Time deposits (29,570) (8,179) (21,391) (40,189) (16,846) (23,343)
Short-term borrowings (3,368) (2,834) (534) (3,713) (18) (3,695)
Other borrowings (582) (3,997) 3,415 (8,611) 12,231 (20,842)
-------- -------- ------- -------- ------- --------
Total interest expense (31,350) (13,188) (18,162) (60,213) (1,785) (58,428)
-------- -------- ------- -------- ------- --------
Net interest income $(22,428) $(17,191) $(5,237) $(17,476) $ 8,442 $(25,918)
======== ======== ======= ======== ======= ========
The variance not solely due to rate or volume is allocated equally between the
rate and volume variances.
(1) Interest on investment securities and loans includes the effect of taxable
equivalent adjustments of $15.1 million and $8.8 million, respectively, in
2004; $15.9 million and $9.2 million, respectively, in 2003; and $16.0
million and $9.2 million, respectively, in 2002; using the federal statutory
tax rate in effect of 35% for all periods.
PROVISION FOR LOAN LOSSES
The provision for loan losses was $22.4 million in 2004, a significant reduction
from the $85.0 million recorded in 2003, which can be primarily attributed to
enhanced credit administration and underwriting functions during 2004. 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 consulting, investment
products and insurance. This source of revenue has remained steady as a
percentage of total revenue at 39.9% in 2004 compared to 39.3% in 2003.
Noninterest income for 2004 was $182.2 million, a decrease of $10.0 million, or
5.2% compared to $192.1 million reported for 2003, impacted most significantly
by a $20.6 million reduction of net securities gains and a $10.7 million
decrease in mortgage revenue. In 2004, Old National realized $2.9 million of
gains on the sales of investment securities in comparison to $23.6 million for
2003. Investment securities transactions are considered part of the continuing
management of the balance sheet to address interest rate and yield curve shifts.
The decrease in mortgage banking revenue was primarily attributable to the
reduction in mortgage origination activity during 2004. Residential real estate
loan originations for 2004 were $0.587 billion compared to the record level of
$1.316 billion for 2003, with high levels of refinancing activity during 2003
being driven by unusually low interest rates. During 2004, net recoveries to the
mortgage servicing rights valuation allowance of $1.1 million and a net gain of
$2.7 million from the sale of $405.6 million of residential real estate loans in
the second quarter of 2004, partially offset reductions in income attributable
to decreased mortgage origination activity.
These decreases were partially offset by net increases of $21.3 million in fee
and service charge income, excluding mortgage revenue. Most of the growth
occurred in insurance premiums and commissions which increased by $14.0 million
or 35.6%, reflective of a full year's results for the insurance agencies
acquired during 2003. Also deposit-related fees and service charges were $48.5
million in 2004, compared to $44.9 million for 2003, an increase of $3.6
million, or 8.1%. The generation of increased revenue was primarily attributable
to processing changes and ideas developed through the "Ascend" process.
20
Table 5 presents changes in the components of noninterest income for the years
ended December 31.
NONINTEREST INCOME (TABLE 5)
% CHANGE FROM
PRIOR YEAR
----------
(dollars in thousands) 2004 2003 2002 2004 2003
- ---------------------- ---- ---- ---- ---- ----
Wealth management fees $ 19,897 $ 19,945 $ 19,209 (0.2) % 3.8 %
Investment consulting fees 11,542 10,525 5,178 9.7 103.3
Service charges on deposit accounts 48,466 44,855 41,988 8.1 6.8
ATM and debit card fees 8,852 7,474 6,876 18.4 8.7
Mortgage banking revenue 8,491 19,144 14,496 (55.6) 32.1
Insurance premiums and commissions 53,175 39,225 16,686 35.6 135.1
Investment product fees 12,025 10,567 8,983 13.8 17.6
Bank-owned life insurance 7,477 6,922 7,944 8.0 (12.9)
Other income 9,302 9,936 8,220 (6.4) 20.9
-------- -------- -------- ---- -------
Total fee and service charge income 179,227 168,593 129,580 6.3 30.1
Net securities gains 2,936 23,556 12,444 N/M N/M
Gain on branch divestitures - - 12,473 N/M N/M
-------- -------- -------- ---- -------
Total noninterest income $182,163 $192,149 $154,497 (5.2) % 24.4 %
======== ======== ======== ==== =======
Noninterest income to total revenue (1) 39.9 % 39.3 % 32.9 %
(1) Total revenue includes the effect of a taxable equivalent adjustment of
$23.9 million in 2004, $25.1 million in 2003 and $25.2 million in 2002.
N/M = Not meaningful
NONINTEREST EXPENSE
Noninterest expense for 2004 totaled $335.9 million, an increase of $36.2
million, or 12.1% over the $299.7 million recorded in 2003. Old National strives
to improve its efficiency through cost control efforts and technology
advancements while still providing quality client service. Driven by an increase
in nonrecurring expenses related to the "Ascend" project, as well as severance
benefits resulting from management reorganization, the efficiency ratio
increased to its highest level in the past six years of 73.53% in 2004 from
61.26% in 2003.
The "Ascend" project, as discussed in Item 1, "Business," was designed to be an
intense evaluation of every aspect of operations for expense reductions and
revenue growth ideas. As a result of this program, Old National expects to have
significant improvements in efficiency by the end of the implementation phase in
2005. Nonrecurring expenses related to "Ascend" are summarized in Table 6.
"ASCEND" (TABLE 6)
(dollars in thousands) 2004
- ---------------------- ----
Professional fees $14,790
Salaries and employee benefits 9,427
Other 1,258
-------
Total "Ascend" expenses $25,475
=======
Salaries and benefits, the largest component of noninterest expense, totaled
$192.7 million in 2004, compared to $169.0 million in 2003, an increase of $23.7
million, or 14.0%. This increase is primarily attributable to severance and
related benefits expense of $14.2 million recorded during 2004, including
expenses related to several members of management and senior executives leaving
the company during the year as well as terminations related to "Ascend"
reflected in the table above. The increase in salaries and employee benefits
expense is also reflective of a full year's operations for three insurance
agencies acquired during 2003.
Professional fees totaled $26.3 million for 2004 compared to $9.1 million for
2003, an increase of $17.2 million. As indicated above, consulting fees paid to
EHS Partners during 2004 in connection with "Ascend" accounted for $14.8 million
of the increase. Other increases related primarily to fees paid in connection
with strengthening compliance with banking regulations and first year
implementation of Section 404 of the Sarbanes-Oxley Act.
21
Other losses totaled $6.2 million, a decrease of $8.4 million compared to $14.7
million for 2003. This decrease was primarily attributable to the $10.0 million
charge in 2003 to establish a reserve in connection with litigation. For
additional information on litigation, see Note 18 to the consolidated financial
statements.
The remaining components of noninterest expense totaled $110.7 million for 2004
compared to $106.9 million for 2003. This increase is primarily attributable to
increased occupancy expense partially related to the new Evansville main
financial center and corporate headquarters, the provision for unfunded
commitments and increased processing expense offset partly by decreases in
several other noninterest expense accounts.
Old National completed construction of its principal executive offices in 2004.
It is estimated that the net increase to occupancy, equipment and other
noninterest expense components will have an annualized decrease to net income
per share of $0.01. However, the impact does not take into account that the
lease of Old National's previous headquarters would have increased substantially
beginning in 2005, reducing the effect below $0.01. See additional details of
the new Evansville main financial center and corporate headquarters in the
"Results of Operations" section of this "Management's Discussion and Analysis."
Table 7 presents changes in the components of noninterest expense for the years
ended December 31.
NONINTEREST EXPENSE (TABLE 7)
% CHANGE FROM
PRIOR YEAR
----------
(dollars in thousands) 2004 2003 2002 2004 2003
- ---------------------- ---- ---- ---- ---- ----
Salaries and employee benefits $192,718 $169,025 $148,450 14.0% 13.9%
Occupancy 20,444 18,166 16,154 12.5 12.5
Equipment 14,662 14,296 15,153 2.6 (5.7)
Marketing 10,051 11,085 11,026 (9.3) 0.5
Outside processing 21,124 19,078 13,640 10.7 39.9
Communications and transportation 11,128 11,595 11,738 (4.0) (1.2)
Professional fees 26,297 9,111 8,959 188.6 1.7
Loan expense 6,509 7,041 6,496 (7.6) 8.4
Supplies 4,019 4,829 5,048 (16.8) (4.3)
Other losses 6,235 14,676 5,445 (57.5) 169.5
Other expense 22,740 20,814 15,736 9.3 32.3
-------- -------- -------- ----- -----
Total noninterest expense $335,927 $299,716 $257,845 12.1% 16.2%
======== ======== ======== ===== =====
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. Old
National's effective tax rate was 9.5% in 2004 and 11.4% in 2003. The decreased
tax rate in 2004 resulted from a higher percentage of tax-exempt income to total
income. The reduction in 2004 total income is discussed in the earnings summary
above. See Note 12 to the consolidated financial statements for additional
details on Old National's income tax provision.
22
INTERIM FINANCIAL DATA
Table 8 provides a detailed summary of quarterly results of operations for the
years ended December 31. These results contain all normal and recurring
adjustments necessary for a fair and consistent presentation.
INTERIM FINANCIAL DATA (TABLE 8)
(dollars and shares QUARTERS ENDED 2004 QUARTERS ENDED 2003
---------------------------------------------- -----------------------------------------------
in thousands, DECEMBER SEPTEMBER JUNE MARCH DECEMBER SEPTEMBER JUNE MARCH
except per share data) 31 30 30 31 31 30 30 31
- ---------------------------- --------- --------- --------- --------- --------- --------- --------- ---------
Interest income $ 102,171 $ 101,478 $ 105,428 $ 108,121 $ 111,176 $ 114,761 $ 120,233 $ 123,578
Interest expense 42,637 40,473 40,271 43,010 44,909 47,289 51,768 53,775
--------- --------- --------- --------- --------- --------- --------- ---------
Net interest income 59,534 61,005 65,157 65,111 66,267 67,472 68,465 69,803
Provision for loan losses - 7,400 7,500 7,500 26,000 27,500 22,500 9,000
Noninterest income 43,332 42,131 51,072 45,628 40,543 45,773 62,913 42,920
Noninterest expense 81,362 75,425 98,687 80,453 80,126 75,465 73,960 70,165
--------- --------- --------- --------- --------- --------- --------- ---------
Income before income taxes 21,504 20,311 10,042 22,786 684 10,280 34,918 33,558
Income tax expense (benefit) 2,909 2,127 (1,241) 3,277 (4,592) (1,530) 7,851 7,298
--------- --------- --------- --------- --------- --------- --------- ---------
Net income $ 18,595 $ 18,184 $ 11,283 $ 19,509 $ 5,276 $ 11,810 $ 27,067 $ 26,260
========= ========= ========= ========= ========= ========= ========= =========
Net income per share (1)
Basic $ 0.27 $ 0.26 $ 0.16 $ 0.28 $ 0.07 $ 0.17 $ 0.39 $ 0.37
Diluted 0.27 0.26 0.16 0.28 0.07 0.17 0.39 0.37
--------- --------- --------- --------- --------- --------- --------- ---------
Weighted average shares (1)
Basic 69,132 69,353 69,651 69,677 70,011 70,249 69,978 70,233
Diluted 70,022 70,067 70,160 69,783 70,064 70,425 70,034 70,292
========= ========= ========= ========= ========= ========= ========= =========
(1) All share and per share data have been adjusted for stock dividends,
including a 5% stock dividend to shareholders of record on January 5, 2005,
distributed on January 26, 2005. Diluted data assumes the conversion of stock
options and restricted stock.
FINANCIAL CONDITION
OVERVIEW
Old National's assets at December 31, 2004, were $8.898 billion, a 5.0% decrease
compared to $9.363 billion recorded at December 31, 2003. Investments increased
$95.5 million, loans decreased $605.3 million and total liabilities declined
$452.6 million compared to December 31, 2003. Total shareholders' equity
decreased $12.3 million since December 31, 2003.
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 $8.012
billion at December 31, 2004, a decrease of 5.9% from $8.518 billion at December
31, 2003. The reduction in earning assets is due to a decline in the loan
portfolio. At December 31, 2004, total loans, including residential loans held
for sale, decreased $599.1 million compared to December 31, 2003. This decline
can be attributed primarily to sales of $448.7 million in commercial, commercial
real estate and residential real estate loans during the year as well as to
continued weakness in commercial lending. Investment securities increased at
December 31, 2004, as a temporary source of earning assets; however, during 2004
Old National reduced its average investment portfolio in light of fewer
attractive investment opportunities and the company's desire to reduce its
sensitivity to rising interest rates.
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 during
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 December 31, 2004, 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.
23
At December 31, 2004, the investment securities portfolio was $2.963 billion
compared to $2.868 billion at December 31, 2003, an increase of 3.3%. Investment
securities represented 37.0% of earning assets at December 31, 2004, compared to
33.7% at December 31, 2003. During the first half of 2003, Old National
increased the investment portfolio as a short-term alternative source of earning
assets to offset declining residential real estate and minimal commercial and
consumer loan growth. During the second half of 2003 and continuing into 2004,
Old National decreased the size of the investment portfolio and used the cash
flows generated by the declining investment portfolio to reduce borrowed funds.
At the end of 2004, investments increased slightly as a short-term investment of
funds from the fourth-quarter loan sale. Stronger economic activity and stronger
commercial loan demand would likely result in increased investments in loans and
a reduction in the investment securities portfolio.
Investment securities available-for-sale portfolio had net unrealized gains of
$9.3 million at December 31, 2004, compared to $23.7 million at December 31,
2003. These unrealized gains are driven by interest rate conditions. The
decrease was a result of higher market interest rates at December 31, 2004,
compared to December 31, 2003. Also, Old National realized pre-tax net gains on
sales of securities from the available-for-sale portfolio of $2.9 million during
2004 and $23.6 million during 2003.
As a result of a planned reduction, the investment portfolio had an effective
duration of 3.70 years at December 31, 2004, compared to 4.31 years at December
31, 2003. The weighted average yields on available-for-sale investment
securities were 4.08% in 2004 and 4.90% in 2003. The average yields on the
held-to-maturity portfolio were 4.31% in 2004 and 4.29% in 2003.
At December 31, 2004, Old National had a concentration of investment securities
issued by certain states and their political subdivisions with the following
aggregate market values: $143.2 million by Indiana, which represented 20.4% of
shareholders' equity, and $113.0 million by Illinois, which represented 16.1% of
shareholders' equity. At December 31, 2003, the aggregate market values of the
concentration of certain states and their political subdivisions were $149.0
million by Indiana, which represented 20.8% of shareholders' equity, and $119.4
million by Illinois, which represented 16.7% of shareholders' equity. There were
no other concentrations of investment securities issued by an individual state
and its political subdivisions that were greater than 10% of shareholders'
equity.
RESIDENTIAL LOANS HELD FOR SALE
Residential loans held for sale were $22.5 million at December 31, 2004,
compared to $16.3 million at December 31, 2003. Residential loans held for sale
are loans that are closed, but 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.
During 2004, loan originations were down compared to 2003, primarily due to a
reduced level of loan refinancing resulting from an upturn in interest rates
above the record low rates of 2003.
LENDING AND LOAN ADMINISTRATION
In 2003, due to continued credit quality concerns, Old National 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 December 31, 2004, the company had no concentration of loans in
any single industry exceeding 10% of its portfolio and has 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 has been
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 increased improvement,
commercial loans will begin to show higher levels of growth.
24
In the past four years, commercial, commercial real estate and residential real
estate loans declined 0.9%, 2.3% and 26.4% per year, respectively while consumer
loans rose 3.8% annually over the same period. Table 9 presents the composition
of the loan portfolio at December 31.
LOAN PORTFOLIO AT YEAR-END (TABLE 9)
FOUR-YEAR
(dollars in thousands) 2004 2003 2002 2001 2000 GROWTH RATE
---------- ---------- ---------- ---------- ---------- ----------
Commercial $1,550,640 $1,618,095 $1,696,347 $1,742,937 $1,606,509 (0.9) %
Commercial real estate 1,653,122 1,849,275 1,883,303 1,848,945 1,810,805 (2.3)
Consumer credit 1,205,657 1,163,325 1,053,571 1,063,792 1,040,127 3.8
---------- ---------- ---------- ---------- ---------- ----
Total loans excluding residential real estate 4,409,419 4,630,695 4,633,221 4,655,674 4,457,441 (0.3)
Residential real estate 555,423 939,422 1,043,816 1,449,080 1,890,872 (26.4)
---------- ---------- ---------- ---------- ---------- ----
Total loans 4,964,842 5,570,117 5,677,037 6,104,754 6,348,313 (6.0) %
Less: Allowance for loan losses 85,749 95,235 87,742 74,241 73,833 ====
---------- ---------- ---------- ---------- ----------
Net loans $4,879,093 $5,474,882 $5,589,295 $6,030,513 $6,274,480
========== ========== ========== ========== ==========
COMMERCIAL AND CONSUMER LOANS
Commercial and consumer loans are the largest classification within the earning
assets of Old National representing 55.0% of earning assets at December 31,
2004, a slight increase from 54.4% at December 31, 2003. At December 31, 2004,
commercial and commercial real estate loans decreased $67.5 million and $196.2
million, respectively, from December 31, 2003. During 2004, Old National sold
$43.1 million of non-performing commercial and commercial real estate loans,
which contributed to the change in commercial and commercial real estate loans.
A write-down of $3.4 million was recorded against the allowance for loan losses
related to these sales. Weak loan demand in Old National' s markets continued to
affect commercial loan growth in 2004. Consumer loans, including automobile
loans, personal and home equity loans and lines of credit, and student loans,
increased $42.3 million or 3.6% at December 31, 2004, compared to December 31,
2003, primarily the result of enhancements to marketing and customer contact
programs.
Table 10 presents the maturity distribution and rate sensitivity of commercial
loans and an analysis of these loans that have predetermined and floating
interest rates. A significant percentage of commercial loans are due within one
year, reflecting the short-term nature of a large portion of these loans.
DISTRIBUTION OF COMMERCIAL LOAN MATURITIES AT DECEMBER 31, 2004 (TABLE 10)
WITHIN 1 - 5 BEYOND
(dollars in thousands) 1 YEAR YEARS 5 YEARS TOTAL
---------- ---------- ---------- ----------
Interest rates:
Predetermined $ 195,618 $ 343,836 $ 176,334 $ 715,788
Floating 577,253 205,301 52,298 834,852
---------- ---------- ---------- ----------
Total $ 772,871 $ 549,137 $ 228,632 $1,550,640
========== ========== ========== ==========
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 or Federal National Mortgage Association. Old National
sells the majority of residential real estate loans originated as a strategy to
better manage interest rate risk and liquidity. These loans are generally sold
with loan servicing retained in order to maintain client 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.
Residential real estate loans were $555.4 million at December 31, 2004, a
decrease of $384.0 million or 40.9% from December 31, 2003. The sale of $405.6
million of residential real estate loans during the year was the most
significant contributor to this decrease. At December 31, 2004, Old National was
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.
25
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 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.
26
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.
ALLOWANCE FOR LOAN LOSSES AND ASSET QUALITY
At December 31, 2004, the allowance for loan losses was $85.7 million, a
decrease of $9.5 million compared to $95.2 million at December 31, 2003. As a
percentage of total loans, including loans held for sale, the allowance
increased to 1.72% at December 31, 2004, from 1.70% at December 31, 2003. During
2004, the provision for loan losses amounted to $22.4 million, a decrease of
$62.6 million compared to 2003. Reductions in nonperforming loans and
charge-offs were significant factors in the decrease of the allowance for loan
losses during 2004. 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, 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. In comparison, the amount
necessary to cover the higher than normal losses in 2003 was significant,
collateral values in the markets served by Old National deteriorated which led
to the need for higher reserves in the event of liquidation and 2003 loss
experience elevated the rate of expected future losses.
In keeping with evolving industry practice and in accordance with generally
accepted accounting principles, the amount of the allowance for loan losses
attributable to the allowance for unfunded loan commitments was reclassified
into a liability account on the balance sheet during 2004. For consistency in
presentation, the allowance for unfunded loan commitments has been reclassified
for the year ended December 31, 2003, as well. The balance of the allowance for
unfunded loan commitments was insignificant for reclassification for years ended
prior to December 31, 2003.
For commercial and commercial real estate loans, the reserve decreased by $12.3
million at December 31, 2004, compared to December 31, 2003. The reserve as a
percentage of that portfolio decreased to 2.19% at December 31, 2004, from 2.38%
at December 31, 2003, which is reflective of the sale of $43.1 million of
nonaccrual loans of this type during the fourth quarter of 2004. The absolute
level of classified and criticized loans at December 31, 2004, decreased 39.2%
from December 31, 2003.
The reserve for residential real estate loans as a percentage of that portfolio
increased to 0.7% at December 31, 2004, from 0.5% at December 31, 2003. This
increase reflected an increase in historical loss rates due to higher
residential real estate loan charge-offs during 2004, including the losses
resulting from the sale of residential real estate loans. The reserve for
consumer loans increased to 1.0% at December 31, 2004, from 0.7% at December 31,
2003. This was reflective of the acknowledgement of the relatively higher growth
rate in the consumer portfolio as well as a change in the inherent loss estimate
used for these types of loans. Table 11 details the allowance for loan losses by
loan category and the percent of loans in each category compared to total loans
at December 31.
ALLOCATION OF THE ALLOWANCE FOR LOAN LOSSES BY CATEGORY OF LOANS AND THE
PERCENTAGE OF LOANS BY CATEGORY TO TOTAL LOANS (TABLE 11)
2004 2003 2002 2001 2000
----------------- ----------------- ---------------- ----------------- -----------------
PERCENT PERCENT PERCENT PERCENT PERCENT
OF OF OF OF OF
LOANS LOANS LOANS LOANS LOANS
TO TO TO TO TO
TOTAL TOTAL TOTAL TOTAL TOTAL
(dollars in thousands) AMOUNT LOANS AMOUNT LOANS AMOUNT LOANS AMOUNT LOANS AMOUNT LOANS
- ----------------- ------- ------- ------- ------- ------- ------- ------- ------- ------- -------
Commercial and
commercial real
estate $70,292 64.5% $82,635 62.2% $79,412 63.1% $65,669 58.9% $61,450 53.8%
Residential real
estate 3,689 11.2 4,400 16.9 1,200 18.4 1,422 23.7 1,500 29.8
Consumer credit 11,768 24.3 8,200 20.9 7,130 18.5 7,150 17.4 10,883 16.4
------- ----- ------- ----- ------- ----- ------- ----- ------- -----
Total $85,749 100.0% $95,235 100.0% $87,742 100.0% $74,241 100.0% $73,833 100.0%
======= ===== ======= ===== ======= ===== ======= ===== ======= =====
27
Charge-offs, net of recoveries, excluding write-downs on loans transferred to
held for sale totaled $28.0 million in 2004 and $53.4 million in 2003.
Additionally write-downs of $4.6 million in 2004 and $14.7 million in 2003 from
loans transferred to held for sale related to loan sales were recognized. The
2003 charge-offs included significant items including one loan relationship
write-down of $10.3 million and a $6.5 million single commercial credit
charge-off resulting from fraud in the client's operation. Although net
charge-offs have been concentrated primarily in commercial loans reflecting
slowdown of the economy, no single industry segment represented a significant
share of total net charge-offs. The allowance to average loans, which ranged
from 1.18% to 1.69% for the last five years, was 1.61% at December 31, 2004.
Table 12 summarizes activity in the allowance for loan losses for the years
ended December 31, along with related statistics for the allowance and net
charge-offs.
ALLOWANCE FOR LOAN LOSSES (TABLE 12)
(dollars in thousands) 2004 2003 2002 2001 2000
- ---------------------------------------- ----------- ----------- ----------- ----------- -----------
Balance, January 1 $ 95,235 $ 87,742 $ 74,241 $ 73,833 $ 65,685
Loans charged-off:
Commercial and commercial real estate 28,656 50,173 16,429 25,292 19,561
Residential real estate 2,197 1,358 1,211 1,399 1,500
Consumer credit 10,393 10,123 9,936 9,461 8,284
----------- ----------- ----------- ----------- -----------
Total charge-offs 41,246 61,654 27,576 36,152 29,345
----------- ----------- ----------- ----------- -----------
Recoveries on charged-off loans:
Commercial and commercial real estate 9,940 5,622 3,989 5,013 2,402
Residential real estate 19 82 913 165 510
Consumer credit 3,257 2,523 2,675 2,682 2,546
----------- ----------- ----------- ----------- -----------
Total recoveries 13,216 8,227 7,577 7,860 5,458
----------- ----------- ----------- ----------- -----------
Net charge-offs 28,030 53,427 19,999 28,292 23,887
Transfer from (to) allowance for unfunded
commitments 755 (9,336) - - -
Write-downs on loans transferred
to held for sale (4,611) (14,744) - - -
Provision charged to expense 22,400 85,000 33,500 28,700 29,803
Acquired by acquisition - - - - 2,232
----------- ----------- ----------- ----------- -----------
Balance, December 31 $ 85,749 $ 95,235 $ 87,742 $ 74,241 $ 73,833
=========== =========== =========== =========== ===========
Average loans for the year (1) $ 5,340,687 $ 5,651,434 $ 5,878,263 $ 6,280,995 $ 6,087,869
Asset Quality Ratios: (1)
Allowance/year-end loans 1.72% 1.70% 1.52% 1.21% 1.16%
Allowance/average loans 1.61 1.69 1.49 1.18 1.21
Net charge-offs/average loans (2) 0.61 1.21 0.34 0.45 0.39
----------- ----------- ----------- ----------- -----------
(1) Loans include residential loans held for sale.
(2) Net charge-offs include write-downs on loans transferred to held for sale.
Management believes that it has appropriately identified and reserved for loan
losses related to nonaccrual loans at December 31, 2004. A loan is generally
placed on nonaccrual status when principal or interest becomes 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.
Approximately $17.9 million of nonaccrual loans less than thirty days delinquent
were still contractually performing at December 31, 2004. Management will
continue its efforts to reduce the level of non-performing loans and will
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.
Interest income of approximately $3.0 million and $6.8 million would have been
recorded on nonaccrual and renegotiated loans outstanding at December 31, 2004
and 2003, respectively if such loans had been accruing interest throughout the
year in accordance with their original terms. The amount of interest income
actually recorded on nonaccrual and renegotiated loans was $1.2 million in 2004
and $3.1 million in 2003. Old National had no renegotiated loans at December 31,
2004 and 2003. The total portfolio of loans identified by Old National as
problem credits continues to decline.
28
Under-performing assets totaled $65.6 million at December 31, 2004 and $118.5
million at December 31, 2003. As a percent of total loans and foreclosed
properties, under-performing assets at December 31 were 1.31% for 2004 and 2.12%
for 2003. The nonaccrual category of under-performing loans was $54.9 million at
December 31, 2004, a decrease of $49.7 million since December 31, 2003, which is
reflective of both the sale of $43.1 million in nonaccrual loans and the
enhanced credit administration and underwriting functions during 2004. At
December 31, 2004, the allowance for loan losses to under-performing assets
ratio stood at 130.65% compared to 80.36% at December 31, 2003.
Classified loans were $192.2 million at December 31, 2004, a decrease of $151.7
million from $343.9 million at December 31, 2003. Of this total, other problem
loans, which are loans reviewed for the borrowers' ability to comply with
present repayment terms, totaled $134.9 million at December 31, 2004, compared
to $234.2 million at December 31, 2003. Criticized loans, or special mention
loans, were $148.1 million at December 31, 2004, a decrease of $67.6 million
from $215.7 million at December 31, 2003.
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.
Table 13 presents the components of under-performing assets for the years ended
December 31.
ASSET QUALITY (TABLE 13)
(dollars in thousands) 2004 2003 2002 2001 2000
- ---------------------------------------- -------- -------- -------- -------- --------
Nonaccrual loans $ 54,890 $104,627 $100,287 $ 37,894 $ 22,690
Renegotiated loans - - - 25,871 227
Past due loans (90 days or more):
Commercial and commercial real estate 870 4,127 8,567 8,024 2,269
Residential real estate 270 67 322 2,946 2,795
Consumer 1,274 926 627 1,610 1,524
-------- -------- -------- -------- --------
Total past due loans 2,414 5,120 9,516 12,580 6,588
Foreclosed properties 8,331 8,763 7,916 9,204 3,616
-------- -------- -------- -------- --------
Total under-performing assets $ 65,635 $118,510 $117,719 $ 85,549 $ 33,121
======== ======== ======== ======== ========
Classified loans (includes nonaccrual,
renegotiated, past due 90 days
and other problem loans) $192,214 $343,943 $455,723 $359,847 $211,108
Criticized loans 148,118 215,700 257,059 340,007 198,064
-------- -------- -------- -------- --------
Total criticized and classified loans $340,332 $559,643 $712,782 $699,854 $409,172
======== ======== ======== ======== ========
Asset Quality Ratios:
Non-performing loans/total loans (1)(2) 1.10% 1.87% 1.74% 1.04% 0.36%
Under-performing assets/total loans
and foreclosed properties (1) 1.31 2.12 2.04 1.39 0.52
Under-performing assets/total assets 0.74 1.27 1.22 0.94 0.38
Allowance for loan losses/
under-performing assets 130.65 80.36 74.54 86.78 222.92
-------- -------- -------- -------- --------
(1) Loans include residential loans held for sale.
(2) Non-performing loans include nonaccrual and renegotiated loans.
29
PREMISES AND EQUIPMENT
Premises and equipment totaled $212.8 million at December 31, 2004, an increase
of $31.4 million or 17.3% since December 31, 2003. This increase is primarily
attributable to the construction of Old National's Evansville main financial
center and corporate headquarters, which began in April 2002, and has a total
project cost at December 31, 2004, of $73.7 million. The building was placed in
service on August 11, 2004. See the "Earnings Summary" of this "Management's
Discussion and Analysis" for additional discussion of the Evansville main
financial center and corporate headquarters.
FUNDING
Total average funding, comprised of deposits and wholesale borrowings, was
$8.298 billion at December 31, 2004, a decrease of 4.5% from $8.689 billion at
December 31, 2003. Average deposits increased 0.1% in 2004 compared to a
decrease of 1.4% in 2003. Total deposits were $6.414 billion, including $3.825
billion in transaction accounts and $2.589 billion in time deposits at December
31, 2004. Total deposits decreased 1.2% or $78.8 million compared to December
31, 2003. Transaction accounts increased 9.8% or $340.6 million compared to
December 31, 2003. Time deposits decreased 13.9% or $419.4 million compared to
December 31, 2003. Old National experienced growth in demand deposits and other
low cost transaction accounts offset by a reduction in time deposits during
2004, due to lower interest rates and a marketing strategy that focused on
increasing transaction accounts. The reduction in time accounts was also due to
the maturity of a group of higher interest rate certificates of deposit during
2004.
Old National uses wholesale funding to augment deposit funding and to help
maintain its desired interest rate risk position. Average wholesale borrowings,
including short-term borrowings and other borrowings, decreased 17.6% in 2004,
compared with an increase of 15.5% in 2003. Increases during the first half of
2003 financed investment portfolio growth, offset a reduction in certificates of
deposits and was designed to take advantage of favorable interest rates. During
the second half of 2003 and continuing into 2004, wholesale borrowings decreased
as investment portfolio growth and loan growth slowed. Wholesale borrowings as a
percentage of total funding was 20.6% at December 31, 2004, compared to 23.9% at
December 31, 2003. The lower level of earning assets, primarily due to loan
sales totaling $448.7 million during 2004, reduced the company's reliance on
wholesale funding. See Notes 10 and 11 to the consolidated financial statements
for additional details on Old National's financing activities. Refer to the
"Liquidity Management" section of this "Management's Discussion and Analysis"
regarding information pertaining to a shelf registration filed with the
Securities and Exchange Commission during the 2004. Table 14 presents changes in
the average balances of all funding sources for the years ended December 31.
FUNDING SOURCES - AVERAGE BALANCES (TABLE 14)
% CHANGE FROM
PRIOR YEAR
--------------
(dollars in thousands) 2004 2003 2002 2004 2003
- ------------------------ ---------- ---------- ---------- ----- -----
Demand deposits $ 803,074 $ 752,788 $ 712,308 6.7% 5.7%
NOW deposits 1,735,613 1,504,662 1,215,858 15.3 23.8
Savings deposits 471,339 479,328 462,633 (1.7) 3.6
Money market deposits 586,957 612,044 644,037 (4.1) (5.0)
Time deposits 2,822,872 3,061,922 3,468,623 (7.8) (11.7)
---------- ---------- ---------- ----- -----
Total deposits 6,419,855 6,410,744 6,503,459 0.1 (1.4)
Short-term borrowings 406,121 687,588 688,958 (40.9) (0.2)
Other borrowings 1,471,621 1,590,262 1,283,225 (7.5) 23.9
---------- ---------- ---------- ----- -----
Total funding sources $8,297,597 $8,688,594 $8,475,642 (4.5)% 2.5%
========== ========== ========== ===== =====
30
Table 15 presents a maturity distribution for certificates of deposit with
denominations of $100,000 or more at December 31.
CERTIFICATES OF DEPOSIT, $100,000 AND OVER (TABLE 15)
MATURITY DISTRIBUTION
------------------------------------------------
YEAR-END 1-90 91-180 181-365 BEYOND
(dollars in thousands) BALANCE DAYS DAYS DAYS 1 YEAR
- --------------------------------------------------------------------------------------
2004 $ 675,811 $ 205,440 $ 83,877 $ 68,155 $ 318,339
2003 760,278 477,835 79,753 41,435 161,255
2002 887,366 507,218 115,535 53,242 211,371
- --------------------------------------------------------------------------------------
CAPITAL RESOURCES AND REGULATORY GUIDELINES
Shareholders' equity totaled $703.2 million or 7.9% of total assets at December
31, 2004, and $715.5 million or 7.6% of total assets at December 31, 2003. The
primary contributors to the decline in shareholders' equity at December 31,
2004, compared to December 31, 2003, were decreased net income and the reduction
of comprehensive income during 2004.
Old National paid cash dividends of $0.72 per share in 2004 (restated for the 5%
stock dividend distributed on January 26, 2005), which decreased equity by $50.3
million, compared to cash dividends of $0.69 per share in 2003, which decreased
equity by $48.4 million. Old National purchased shares of its stock in the open
market under an ongoing repurchase program, reducing shareholders' equity by
$32.7 million in 2004, and $37.8 million in 2003. Shares issued for stock
options, restricted stock and stock purchase plans increased shareholders'
equity by $13.4 million in 2004, compared to $6.7 million in 2003. Additionally,
stock issued for purchase merger transactions increased shareholders' equity by
$21.1 million in 2003.
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. For additional
information on capital adequacy see Note 20 to the consolidated financial
statements.
31
CONTRACTUAL OBLIGATIONS, COMMITMENTS, CONTINGENT LIABILITIES AND OFF-BALANCE
SHEET ARRANGEMENTS
Table 16 presents Old National's significant fixed and determinable contractual
obligations and significant commitments at December 31, 2004. Further discussion
of each obligation or commitment is included in the referenced note to the
consolidated financial statements.
CONTRACTUAL OBLIGATIONS, COMMITMENTS, CONTINGENT LIABILITIES
AND OFF-BALANCE SHEET ARRANGEMENTS (TABLE 16)
PAYMENTS DUE IN
-----------------------------------------------------
NOTE ONE YEAR ONE TO THREE TO OVER
(dollars in thousands) REFERENCE OR LESS THREE YEARS FIVE YEARS FIVE YEARS TOTAL
- --------------------------------------------- --------- ----------- ------------ ---------- ---------- -----------
Deposits without stated maturity $ 3,825,445 $ - $ - $ - $ 3,825,445
Consumer and brokered certificates of deposit 9 977,728 863,305 216,977 530,808 2,588,818
Short-term borrowings 10 347,353 - - - 347,353
Other borrowings 11 195,082 235,436 419,077 463,066 1,312,661
Operating leases 18 4,692 7,394 6,281 10,409 28,776
--------- ----------- ----------- ---------- ---------- -----------
COMMITMENTS, CONTINGENT LIABILITIES
AND OFF-BALANCE SHEET ARRANGEMENTS
Commitments to extend credit 18 1,239,223 - - - 1,239,223
Commercial letters of credit 18 16,736 - - - 16,736
Standby letters of credit 18 106,051 - - - 106,051
--------- ----------- ----------- ---------- ---------- -----------
Old National is party to various derivative contracts as a means to manage the
balance sheet and its related exposure to changes in interest rates, to manage
its residential real estate loan origination and sale activity, and to provide
derivative contracts with its clients. Since the derivative liabilities recorded
on the balance sheet change frequently and do not represent the amounts that may
ultimately be paid under these contracts, these liabilities are not included in
the table of contractual obligations presented above. Further discussion of
derivative instruments is included in Note 17 to the consolidated financial
statements.
In the normal course of business, various legal actions and proceedings are
pending against Old National and its affiliates which are incidental to the
business in which they are engaged. Further discussion of contingent liabilities
is included in Note 18 to the consolidated financial statements.
COMPARISON OF 2003 WITH 2002
In 2003, Old National generated net income of $70.4 million and net income per
share of $1.00 compared to $117.9 million and $1.67, respectively in 2002. The
2002 earnings included an $8.3 million, or $0.12 per share, after-tax gain on
branch sales. The most significant impact on net income in 2003 was the
provision for loan losses of $85.0 million, an increase of $51.5 million over
the $33.5 million recorded in 2002, resulting from significant deterioration in
credit quality. Other significant factors negatively affecting net income
included weak commercial loan demand, deterioration of the net interest margin
from declining interest rates and a charge of $10.0 million pre-tax, or $6.7
million after-tax, to establish a reserve related to litigation settlements.
During 2003, Old National recognized $23.6 million of gains on the sales of
investment securities compared to $12.4 million recognized in 2002. In addition,
record origination volumes in mortgage operations and acquisitions in the
non-bank services segment had a positive impact on 2003 earnings results.
Old National's return on average assets was 0.74% and return on average
shareholders' equity was 9.48% for the year, which decreased significantly from
2002 ratios of 1.27% and 17.05%, respectively.
Taxable equivalent net interest income was $297.1 million in 2003, a 5.6%
decrease from the $314.6 million reported in 2002. The net interest margin was
3.37% for 2003, compared to 3.65% reported for 2002. The decline in interest
rates and a shift in earning assets from loans to lower yielding investment
securities were the factors contributing to lower net interest income in 2003.
32
During 2003, the provision for loan losses amounted to $85.0 million, an
increase of $51.5 million over 2002. Various factors led to Old National's
higher provision in 2003. First, the amount necessary to cover the higher than
normal losses in 2003 was significant. Second, loan collateral values in the
markets served by Old National deteriorated which led to the need for higher
reserves in the event of liquidation. Third, recent experience elevated the rate
of expected losses.
Noninterest income for 2003 was $192.1 million, an increase of $37.7 million, or
24.4% over the $154.5 million reported for 2002. In 2003, Old National realized
$23.6 million of gains on the sales of investment securities in comparison to
$12.4 million for 2002. Mortgage banking revenue, a major component of this
increase, totaled $19.1 million for 2003 compared to $14.5 million for 2002, an
increase of $4.6 million, or 32.1%. Residential real estate loan originations
reached record levels in 2003 with dollars of loans closed of $1.316 billion
compared to $1.100 billion for 2002 and number of closed loans of 13,249 in 2003
compared to 11,537 in 2002. During 2003 and in the second half of 2002, Old
National acquired various insurance agencies and an investment consulting
company increasing noninterest wealth management and investment consulting fees
by $5.0 million, insurance brokerage fees by $22.6 million and investment
product revenue by $0.5 million over 2002 results.
Noninterest expense for 2003 totaled $299.7 million, an increase of $41.9
million, or 16.2% over the $257.8 million recorded in 2002. Salaries and
benefits, the largest component of noninterest expense, totaled $169.0 million
in 2003 compared to $148.5 million in 2002, an increase of $20.6 million, of
which $18.1 million directly related to acquisitions. Outside processing
expenses totaled $19.1 million for 2003 compared to $13.6 million recorded in
2002. This increase in 2003 primarily resulted from a full year of expense
related to the mortgage third-party servicing subcontractor compared to one-half
year in 2002. Other losses of $14.7 million in 2003 compared to $5.4 million in
2002, included a $10.0 million charge in 2003 to establish a reserve in
connection with litigation. For additional information, see Note 18 to the
consolidated financial statements. Overall, the remaining components of
noninterest expense totaled $96.9 million for 2003 compared to $90.3 million for
2002, an increase of 7.3% or $6.6 million, with $6.1 million directly related to
acquisitions. Old National's efficiency ratio increased to 61.26% in 2003
compared to 54.97% in 2002.
The provision for income taxes was $9.0 million in 2003 compared to $34.6
million in 2002. Old National's effective tax rate was 11.4% in 2003 and 22.7%
in 2002. The decreased tax rate in 2003 resulted from a higher percentage of
tax-exempt income to total income.
In regard to segment reporting, the community banking segment profit was $50.0
million in 2003 compared to $90.3 million in 2002, affected primarily by the
increase in the provision for loan losses in 2003. The non-bank services segment
profit was $4.6 million in 2003 compared to $1.2 million in 2002 with
acquisitions accounting for the majority of the changes in noninterest income
and noninterest expenses. The treasury segment profit was $22.5 million in 2003
compared to $18.1 million in 2002. The "Other" segment profit included expenses
to record the litigation reserve of $10.0 million in 2003 and included the gain
of $12.5 million related to the sales of branches in 2002. Management chose not
to allocate these charges to the various segments.
33
ITEM 7A. QUANTITATIVE 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 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. The Funds Management Committee
establishes policy guidelines for the allowable change in cumulative net
interest income over a two-year period and the change in Economic Value of
Equity in an +/- 200 basis point instantaneous parallel change to the yield
curve (+/- 200 basis point yield curve shock). As of December 31, 2004, the
guideline for Net Interest Income at Risk was +/- 5% of net interest income over
a two-year period in a 200 basis point shock to the yield curve. As of December
31, 2004, the guideline for the allowable fluctuation in Economic Value of
Equity was +/- 12% in a 200 basis point shock to the yield curve. In addition to
the output of the model in +/- 200 basis point shocks to the yield curve, Old
National has provided the output of its rate risk model in +/- 50 and 100 basis
point yield curve shocks to provide a better understanding of Old National's
sensitivity to market interest rate changes.
As of December 31, 2004, Old National projects that in a -200 basis point shock
to interest rates, Net Interest Income at Risk would be -2.94% cumulatively over
the next two years. In a +200 basis point shock to interest rates, Old National
projects Net Interest Income at Risk would be -4.81% cumulatively over the next
two years. As of December 31, 2004, Old National projects Economic Value of
Equity at -15.64% in a -200 basis point shock to interest rates and at -3.08% in
a +200 basis point shock.
At December 31, 2004, modeling indicated Old National was within its policy
limit of Net Interest Income at Risk in a +/- 200 basis point interest rate
shock. Estimated change in Economic Value of Equity in a +200 basis points yield
curve shock was estimated at -3.08%, well within the policy limit of +/-12%.
Estimated change in Economic Value of Equity in a -200 basis points yield curve
shock was estimated at -15.64%, which was outside of the company's policy
guideline of +/- 12%. The Funds Management Committee has deemed this an
acceptable risk given the company's outlook for rising interest rates.
34
ESTIMATED 24-MONTH ESTIMATED CHANGE
CUMULATIVE IMPACT ON IN ECONOMIC
INTEREST RATE NET INTEREST INCOME VALUE OF EQUITY
CHANGE ---------------------- --------------------
(basis points) POLICY ACTUAL POLICY ACTUAL
-------------- --------- ------- --------- -------
2004
+200 +/- 5.00% -4.81% +/-12.00% -3.08%
+100 -2.33 -0.15
+50 -1.05 0.44
-50 0.06% -1.86%
-100 0.31 -5.00
-200 +/- 5.00% -2.94 +/-12.00% -15.64
2003
+200 +/- 5.00% -5.59% +/-12.00% -8.07%
+100 -2.61 -2.92
+50 -1.25 -1.02
-50 0.46% 0.68%
-100 0.14 0.11
-200 +/- 5.00% -2.19 +/-12.00% -7.39
At December 31, 2004, a notable change in the company's rate risk profile is
reflected in the decrease in the company's Estimated Change in Economic Value of
Equity resulting from a +200 basis points yield curve shock. Economic Value of
Equity changed from -8.07% in December 2003 to -3.08% in December 2004. The
company reduced its long term exposure to rising interest rates by reducing the
effective duration of the investment portfolio to 3.70 years at December 31,
2004, compared to 4.31 years at December 31, 2003, by selling $405.6 million of
residential mortgages in June 2004, and by executing $295.0 million in
forward-starting interest rate swaps that become effective between January 7,
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 $9.1 million at December 31, 2004, compared to an
estimated market gain of $2.2 million at December 31, 2003. The decline in
market value is due both to the increase in interest rates during the year and
the fact that Old National terminated certain receive fixed rate swaps. As
explained above, Old National added forward-starting pay fixed rate swaps in
2004. All of these transactions served to better position the company's balance
sheet for rising rates. See Note 17 to the consolidated financial statements for
further discussion of derivative financial instruments.
On January 26, 2005, the Funds Management Committee approved new policy
guidelines for the allowable change in Net Interest Income at Risk and the
change in Economic Value of Equity to enhance the monitoring of compliance
within identified interest rate risk exposure zones. Red zone policy limits will
represent Old National's absolute interest rate risk exposure compliance limit.
Policy limits defined as green zone will 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 will
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). The new policy guidelines become effective for
2005.
35
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 December 31, 2004. The senior debt ratings of Old
National Bancorp and Old National Bank at December 31, 2004, 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 December 31, 2004, Old National Bank had the capacity to borrow $857.9
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
December 31, 2004, Old National had $685 million available for issuance under a
$1 billion global bank note program for senior and subordinated debt.
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. At
December 31, 2004, the parent company's other borrowings outstanding was $262.4
million, compared with $270.5 million at December 31, 2003. The decrease in
other borrowings in 2004 was driven by a $3.2 million maturity of medium-term
notes payable and a $5.0 million decline in derivative market values. Old
National Bancorp, the parent company, has no debt scheduled to mature within the
next 12 months. Federal banking laws regulate the amount of dividends that may
be paid by banking subsidiaries without prior approval. At December 31, 2004,
prior regulatory approval was not required for Old National's affiliate bank.
During 2004, Old National filed a Form S-3 for a $750 million global shelf
registration with the Securities and Exchange Commission, which became effective
on December 2, 2004. The shelf permits the issuance of a variety of securities
including debt, common and preferred stock, depositary shares, units and
warrants of Old National. The proceeds of any issuance will be added to the
general funds of the Company and may be used for debt reduction or debt
refinancing, including the refinancing of outstanding capital securities,
investments in or advances to subsidiaries, repurchase of shares of common stock
or other securities and other general corporate purposes. At December 31, 2004,
there were no borrowings under this shelf registration.
36
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
REPORT OF MANAGEMENT
MANAGEMENT'S RESPONSIBILITY FOR FINANCIAL REPORTING
Management is responsible for the preparation of the financial statements and
related financial information appearing in this annual report on Form 10-K. The
financial statements and notes have been prepared in conformity with generally
accepted accounting principles and include some amounts which are estimates
based upon currently available information and management's judgement of current
conditions and circumstances. Financial information throughout this annual
report on Form 10-K is consistent with that in the financial statements.
Management maintains a system of internal accounting controls which is believed
to provide, in all material respects, reasonable assurance that assets are
safeguarded against loss from unauthorized use or disposition, transactions are
properly authorized and recorded, and the financial records are reliable for
preparing financial statements and maintaining accountability for assets. In
addition, Old National has a Code of Business Conduct and Ethics, a Senior
Financial and Executive Officer Code of Ethics and Corporate Governance
Guidelines that outline high levels of ethical business standards. All systems
of internal accounting controls are based on management's judgement that the
cost of controls should not exceed the benefits to be achieved and that no
system can provide absolute assurance that control objectives are achieved.
Management believes Old National's system provides the appropriate balance
between cost of controls and the related benefits.
In order to monitor compliance with this system of controls, Old National
maintains an extensive internal audit program. Internal audit reports are issued
to appropriate officers and significant audit exceptions, if any, are reviewed
with management and the Audit Committee of the Board of Directors.
The Board of Directors, through an Audit Committee comprised solely of outside
directors, oversees management's discharge of its financial reporting
responsibilities. The Audit Committee meets regularly with Old National's
independent registered public accounting firm, PricewaterhouseCoopers LLP, and
the managers of internal audit and loan review. During these meetings, the
committee has the opportunity to meet privately with the independent registered
public accounting firm as well as with internal audit and loan review personnel
to review accounting, auditing, loan and financial reporting matters. The
appointment of the independent registered public accounting firm is made by the
Audit Committee of the Board of Directors.
The consolidated financial statements in this annual report on Form 10-K have
been audited by PricewaterhouseCoopers LLP, for the purpose of determining that
the consolidated financial statements are presented fairly, in all material
respects in conformity with accounting principles generally accepted in the
United States of America. PricewaterhouseCoopers LLP's report on the financial
statements follows.
MANAGEMENT'S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING
The management of Old National is responsible for establishing and maintaining
adequate internal control over financial reporting. A company's internal control
over financial reporting is a process designed to provide reasonable assurance
regarding the reliability of financial reporting and the preparation of
financial statements for external purposes in accordance with generally accepted
accounting principles. Because of its inherent limitations, internal control
over financial reporting may not prevent or detect misstatements. Also,
projections of any evaluation of effectiveness to future periods are subject to
the risk that controls may become inadequate because of changes in conditions,
or that the degree of compliance with the policies or procedures may
deteriorate.
Old National management assessed the effectiveness of the company's internal
control over financial reporting as of December 31, 2004. In making this
assessment, management used the criteria set forth by the Committee of
Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control -
Integrated Framework. Based on that assessment Old National has concluded that,
as of December 31, 2004, the company's internal control over financial reporting
is effective based on those criteria. Old National's independent registered
public accounting firm has audited that assessment of the effectiveness of the
company's internal control over financial reporting as of December 31, 2004 as
stated in their report which follows.
37
[PRICEWATERHOUSECOOPERS LOGO]
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Shareholders and
Board of Directors of
Old National Bancorp:
We have completed an integrated audit of Old National Bancorp's 2004
consolidated financial statements and of its internal control over financial
reporting as of December 31, 2004 and audits of its 2003 and 2002 consolidated
financial statements in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Our opinions, based on our audits,
are presented below.
Consolidated financial statements
In our opinion, the accompanying consolidated balance sheets and the related
consolidated statements of income, changes in shareholders' equity and cash
flows present fairly, in all material respects, the financial position of Old
National Bancorp and its subsidiaries (the "Company") at December 31, 2004 and
2003, and the results of their operations and their cash flows for each of the
three years in the period ended December 31, 2004 in conformity with accounting
principles generally accepted in the United States of America. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits. We conducted our audits of these statements in accordance with the
standards of the Public Company Accounting Oversight Board (United States).
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit of financial statements includes examining, on a test
basis, evidence supporting the amounts and disclosures in the financial
statements, assessing the accounting principles used and significant estimates
made by management, and evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
Internal control over financial reporting
Also, in our opinion, management's assessment, included in Management's Report
on Internal Control Over Financial Reporting appearing under Item 8 of the
Company's annual report on Form 10-K for the year ended December 31, 2004, that
the Company maintained effective internal control over financial reporting as of
December 31, 2004 based on criteria established in Internal Control - Integrated
Framework issued by the Committee of Sponsoring Organizations of the Treadway
Commission (COSO), is fairly stated, in all material respects, based on those
criteria. Furthermore, in our opinion, the Company maintained, in all material
respects, effective internal control over financial reporting as of December 31,
2004, based on criteria established in Internal Control - Integrated Framework
issued by the COSO. The Company's management is responsible for maintaining
effective internal control over financial reporting and for its assessment of
the effectiveness of internal control over financial reporting. Our
responsibility is to express opinions on management's assessment and on the
effectiveness of the Company's internal control over financial reporting based
on our audit. We conducted our audit of internal control over financial
reporting in accordance with the standards of the Public Company Accounting
Oversight Board (United States). Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether effective
internal control over financial reporting was maintained in all material
respects. An audit of internal control over financial reporting includes
obtaining an understanding of internal control over financial reporting,
evaluating management's assessment, testing and evaluating the design and
operating effectiveness of internal control, and performing such other
procedures as we consider necessary in the circumstances. We believe that our
audit provides a reasonable basis for our opinions.
38
A company's internal control over financial reporting is a process designed to
provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance
with generally accepted accounting principles. Management's assessment and our
audit of the Company's internal control over financial reporting also included
controls over the preparation of financial statements in accordance with the
instructions to the Consolidated Financial Statements for Bank Holding Companies
(Form FR Y-9C) to comply with the reporting requirements of Section 112 of the
Federal Deposit Insurance Corporation Improvement Act (FDICIA). A company's
internal control over financial reporting includes those policies and procedures
that (i) pertain to the maintenance of records that, in reasonable detail,
accurately and fairly reflect the transactions and dispositions of the assets of
the company; (ii) provide reasonable assurance that transactions are recorded as
necessary to permit preparation of financial statements in accordance with
generally accepted accounting principles, and that receipts and expenditures of
the company are being made only in accordance with authorizations of management
and directors of the company; and (iii) provide reasonable assurance regarding
prevention or timely detection of unauthorized acquisition, use, or disposition
of the company's assets that could have a material effect on the financial
statements.
Because of its inherent limitations, internal control over financial reporting
may not prevent or detect misstatements. Also, projections of any evaluation of
effectiveness to future periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree of compliance
with the policies or procedures may deteriorate.
/s/ PricewaterhouseCoopers LLP
Chicago, Illinois
March 11, 2005
39
OLD NATIONAL BANCORP
CONSOLIDATED BALANCE SHEET
DECEMBER 31,
(dollars and shares in thousands) 2004 2003
- --------------------------------- ----------- -----------
ASSETS
Cash and due from banks $ 204,678 $ 222,385
Money market investments 12,320 14,504
----------- -----------
Total cash and cash equivalents 216,998 236,889
Investment securities - available-for-sale, at fair value 2,785,415 2,656,850
Investment securities - held-to-maturity, at amortized cost
(fair value $176,166 and $209,316, respectively) 177,794 210,905
Federal Home Loan Bank stock, at cost 49,542 49,490
Residential loans held for sale 22,484 16,338
Loans, net of unearned income 4,964,842 5,570,117
Allowance for loan losses (85,749) (95,235)
----------- -----------
Net loans 4,879,093 5,474,882
----------- -----------
Premises and equipment, net 212,787 181,398
Accrued interest receivable 57,087 55,800
Goodwill 129,947 129,251
Other intangible assets 38,868 41,912
Mortgage servicing rights 15,829 14,659
Other assets 312,460 294,858
----------- -----------
Total assets $ 8,898,304 $ 9,363,232
=========== ===========
LIABILITIES
Deposits:
Noninterest-bearing demand $ 851,218 $ 823,146
Interest-bearing:
NOW 1,920,501 1,612,145
Savings 480,392 441,427
Money market 573,334 608,177
Time 2,588,818 3,008,197
----------- -----------
Total deposits 6,414,263 6,493,092
----------- -----------
Short-term borrowings 347,353 414,588
Other borrowings 1,312,661 1,624,092
Accrued expenses and other liabilities 120,819 115,970
----------- -----------
Total liabilities 8,195,096 8,647,742
----------- -----------
Commitments and contingencies (Note 18)
SHAREHOLDERS' EQUITY
Preferred stock, 2,000 shares authorized, no shares issued or outstanding - -
Common stock, $1 stated value, 150,000 shares authorized,
69,287 and 66,575 shares issued and outstanding, respectively 69,287 66,575
Capital surplus 629,577 581,224
Retained earnings - 53,107
Accumulated other comprehensive income, net of tax 4,344 14,584
----------- -----------
Total shareholders' equity 703,208 715,490
----------- -----------
Total liabilities and shareholders' equity $ 8,898,304 $ 9,363,232
=========== ===========
The accompanying notes to consolidated financial statements are an integral part
of this statement.
40
OLD NATIONAL BANCORP
CONSOLIDATED STATEMENT OF INCOME
YEARS ENDED DECEMBER 31,
(dollars and shares in thousands, except per share data) 2004 2003 2002
- ------------------------------------------------------- -------- -------- --------
INTEREST INCOME
Loans including fees:
Taxable $283,588 $320,859 $391,412
Nontaxable 17,062 17,240 17,578
Investment securities, available-for-sale:
Taxable 78,319 93,564 107,268
Nontaxable 29,020 30,828 30,742
Investment securities, held-to-maturity, taxable 7,891 6,943 -
Money market investments 1,318 314 383
-------- -------- --------
Total interest income 417,198 469,748 547,383
-------- -------- --------
INTEREST EXPENSE
Deposits 111,271 138,671 186,560
Short-term borrowings 3,890 7,258 10,971
Other borrowings 51,230 51,812 60,423
-------- -------- --------
Total interest expense 166,391 197,741 257,954
-------- -------- --------
Net interest income 250,807 272,007 289,429
Provision for loan losses 22,400 85,000 33,500
-------- -------- --------
Net interest income after provision for loan losses 228,407 187,007 255,929
-------- -------- --------
NONINTEREST INCOME
Wealth management fees 19,897 19,945 19,209
Investment consulting fees 11,542 10,525 5,178
Service charges on deposit accounts 48,466 44,855 41,988
ATM and debit card fees 8,852 7,474 6,876
Mortgage banking revenue 8,491 19,144 14,496
Insurance premiums and commissions 53,175 39,225 16,686
Investment product fees 12,025 10,567 8,983
Bank-owned life insurance 7,477 6,922 7,944
Net securities gains 2,936 23,556 12,444
Gain on branch divestitures - - 12,473
Other income 9,302 9,936 8,220
-------- -------- --------
Total noninterest income 182,163 192,149 154,497
-------- -------- --------
NONINTEREST EXPENSE
Salaries and employee benefits 192,718 169,025 148,450
Occupancy 20,444 18,166 16,154
Equipment 14,662 14,296 15,153
Marketing 10,051 11,085 11,026
Outside processing 21,124 19,078 13,640
Communication and transportation 11,128 11,595 11,738
Professional fees 26,297 9,111 8,959
Loan expense 6,509 7,041 6,496
Supplies 4,019 4,829 5,048
Other losses 6,235 14,676 5,445
Other expense 22,740 20,814 15,736
-------- -------- --------
Total noninterest expense 335,927 299,716 257,845
-------- -------- --------
Income before income taxes 74,643 79,440 152,581
Income tax expense 7,072 9,027 34,649
-------- -------- --------
Net income $ 67,571 $ 70,413 $117,932
======== ======== ========
NET INCOME PER COMMON SHARE
Basic $ 0.97 $ 1.00 $ 1.67
Diluted 0.97 1.00 1.67
-------- -------- --------
WEIGHTED AVERAGE NUMBER OF COMMON SHARES OUTSTANDING
Basic 69,452 70,118 70,536
Diluted 70,024 70,174 70,673
-------- -------- --------
The accompanying notes to consolidated financial statements are an integral part
of this statement.
41
\
OLD NATIONAL BANCORP
CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY
ACCUMULATED
OTHER TOTAL
(dollars and shares COMMON STOCK CAPITAL RETAINED COMPREHENSIVE SHAREHOLDERS' COMPREHENSIVE
in thousands) SHARES AMOUNT SURPLUS EARNINGS INCOME EQUITY INCOME
- ----------------------------------- ------ ------- ------- -------- ------------- ------------- --------------
BALANCE, DECEMBER 31, 2001 61,174 $61,174 $472,467 $ 91,062 $ 14,532 $639,235
Net income - - - 117,932 - 117,932 $117,932
Unrealized net securities gains,
net of $28,458 tax - - - - 44,075 44,075 44,075
Reclassification adjustment for
gains included in net income,
net of $(4,882) tax - - - - (7,562) (7,562) (7,562)
Net unrealized derivative gain
on cash flow hedge,
net of $389 tax - - - - 603 603 603
Reclassification adjustment on
cash flow hedges, net of $113 tax - - - - 175 175 175
Stock issued for acquisition 656 656 14,717 - - 15,373
Cash dividends - - - (43,926) - (43,926)
5% stock dividend 3,040 3,040 65,376 (68,416) - -
Stock repurchased (1,302) (1,302) (30,250) - - (31,552)
Stock issued under stock
option and stock purchase plans 288 288 6,069 - - 6,357
------ ------- -------- -------- -------- -------- --------
BALANCE, DECEMBER 31, 2002 63,856 63,856 528,379 96,652 51,823 740,710 $155,223
========
Net income - - - 70,413 - 70,413 $ 70,413
Unrealized net securities losses,
net of $(15,566) tax - - - - (23,321) (23,321) (23,321)
Reclassification adjustment for
gains included in net income,
net of $(9,429) tax - - - - (14,127) (14,127) (14,127)
Net unrealized derivative gain
on cash flow hedge,
net of $23 tax - - - - 35 35 35
Reclassification adjustment on
cash flow hedges, net of $113 tax - - - - 174 174 174
Stock issued for acquisitions 918 918 20,156 - - 21,074
Cash dividends - - - (48,366) - (48,366)
5% stock dividend 3,170 3,170 62,422 (65,592) - -
Stock repurchased (1,681) (1,681) (36,149) - - (37,830)
Stock issued under stock
option and stock purchase plans 312 312 6,416 - - 6,728
------ ------- -------- -------- -------- -------- --------
BALANCE, DECEMBER 31, 2003 66,575 66,575 581,224 53,107 14,584 715,490 $ 33,174
========
Net income - - - 67,571 - 67,571 $ 67,571
Unrealized net securities losses,
net of $(4,431) tax - - - - (7,109) (7,109) (7,109)
Reclassification adjustment for
gains included in net income,
net of $(1,127) tax - - - - (1,809) (1,809) (1,809)
Net unrealized derivative losses
on cash flow hedges,
net of $(776) tax - - - - (1,201) (1,201) (1,201)
Reclassification adjustment on
cash flow hedges,
net of $(78) tax - - - - (121) (121) (121)
Adjustments to stock issued
for prior acquisitions (3) (3) (65) - - (68)
Cash dividends - - - (50,275) - (50,275)
5% stock dividend 3,299 3,299 67,104 (70,403) - -
Stock repurchased (1,405) (1,405) (31,259) - - (32,664)
Stock issued under stock
option, restricted stock and
stock purchase plans 821 821 12,573 - - 13,394
------ ------- -------- -------- -------- -------- --------
BALANCE, DECEMBER 31, 2004 69,287 $69,287 $629,577 $ - $ 4,344 $703,208 $ 57,331
====== ======= ======== ======== ======== ======== ========
The accompanying notes to consolidated financial statements are an integral part
of this statement.
42
OLD NATIONAL BANCORP
CONSOLIDATED STATEMENT OF CASH FLOWS
YEARS ENDED DECEMBER 31,
(dollars in thousands) 2004 2003 2002
----------- ----------- -----------
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 67,571 $ 70,413 $ 117,932
----------- ----------- -----------
Adjustments to reconcile net income to cash provided by operating activities:
Depreciation 14,077 13,018 12,401
Amortization of other intangible assets 3,172 2,612 1,174
Net premium amortization on investment securities 2,832 12,472 7,074
Amortization of unearned stock compensation 1,044 - -
Provision for loan losses 22,400 85,000 33,500
Net securities gains (2,936) (23,556) (12,444)
Gain on branch divestitures - - (12,473)
Net gains on sales and write-downs of loans and other assets (3,165) (11,369) (5,977)
Residential real estate loans originated for sale (342,130) (844,902) (913,794)
Proceeds from sale of residential real estate loans 339,847 930,999 853,755
(Increase) decrease in interest receivable (1,288) 3,301 (5,740)
Increase in other assets (25,212) (39,404) (35,856)
Increase (decrease) in accrued expenses and other liabilities 11,897 5,408 (10,167)
----------- ----------- -----------
Total adjustments 20,538 133,579 (88,547)
----------- ----------- -----------
Net cash flows provided by operating activities 88,109 203,992 29,385
----------- ----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchases of investment securities available-for-sale (1,176,889) (2,155,166) (2,339,004)
Proceeds from maturities, prepayments and calls
of investment securities available-for-sale 693,274 1,413,262 812,993
Proceeds from sales of investment securities available-for-sale 341,523 1,062,875 762,066
Purchases of investment securities held-to-maturity - (237,190) -
Proceeds from maturities, prepayments and calls
of investment securities held-to-maturity 32,215 25,417 -
Purchases of subsidiaries, net of cash acquired - (12,838) (30,115)
Payments related to branch divestitures - - (82,160)
Proceeds from sale of loans 444,070 47,934 -
Net principal collected from (loans made to) customers 128,564 (9,185) 303,969
Proceeds from sale of premises and equipment and other assets 4,973 1,434 2,305
Purchases of premises and equipment (51,890) (57,246) (32,223)
----------- ----------- -----------
Net cash flows provided by (used in) investing activities 415,840 79,297 (602,169)
----------- ----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES
Net increase (decrease) in deposits and short-term borrowings:
Noninterest-bearing demand deposits 28,072 44,717 58,740
Savings, NOW and money market deposits 312,478 231,883 292,520
Time deposits (419,379) (222,788) (326,207)
Short-term borrowings (67,235) (503,761) 316,037
Proceeds from guaranteed preferred beneficial interests in
subordinated debentures - - 100,000
Payments for maturities on other borrowings (361,730) (184,809) (135,008)
Proceeds from issuance of other borrowings 54,543 431,600 275,683
Cash dividends paid (50,275) (48,366) (43,926)
Common stock repurchased (32,664) (37,830) (31,552)
Common stock issued under stock option, restricted stock
and stock purchase plans 12,350 6,728 6,357
----------- ----------- -----------
Net cash flows provided by (used in) financing activities (523,840) (282,626) 512,644
----------- ----------- -----------
Net increase (decrease) in cash and cash equivalents (19,891) 663 (60,140)
Cash and cash equivalents at beginning of period 236,889 236,226 296,366
----------- ----------- -----------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 216,998 $ 236,889 $ 236,226
=========== =========== ===========
The accompanying notes to consolidated financial statements are an integral part
of this statement.
43
OLD NATIONAL BANCORP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION
The accompanying 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. 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 December 31, 2004 and
2003, and the results of its operations for the years ended December 31, 2004,
2003 and 2002.
All significant intercompany transactions and balances have been eliminated. A
summary of the more significant accounting and reporting policies used in
preparing the statements is presented below.
NATURE OF OPERATIONS
Old National, a financial holding company headquartered in Evansville, Indiana,
operates in Indiana, Illinois, Kentucky, Tennessee, Ohio and Missouri. Through
its bank and non-bank affiliates, Old National provides to its clients an array
of financial services including loan, deposit, wealth management, investment
consulting, investment and insurance products.
INVESTMENT SECURITIES
Old National classifies investment securities as available-for-sale or
held-to-maturity on the date of purchase. Securities classified as
available-for-sale are recorded at fair value with the unrealized gains and
losses, net of tax effect, recorded as a separate component of shareholders'
equity. Realized gains and losses affect income and the prior fair value
adjustments are reclassified within shareholders' equity. Securities classified
as held-to-maturity, which management has the intent and ability to hold to
maturity, are reported at amortized cost. Premiums and discounts are recognized
in interest income using the interest method over the period to maturity. Gains
and losses on the sale of available-for-sale securities are determined using the
specific-identification method.
RESIDENTIAL LOANS HELD FOR SALE
Residential loans held for sale are recorded at lower of cost or market value
determined as of the balance sheet date. Interest rate risk on a portion of Old
National's residential loans held for sale have been hedged using fair value
hedge accounting in accordance with Statement of Financial Accounting Standards
("SFAS") No. 133, "Accounting for Derivative Instruments and Hedging
Activities," as amended. The loans' carrying bases reflect the effects of the
SFAS No. 133 adjustments.
LOANS
Loans are stated at the principal amount outstanding. Interest income is accrued
on the principal balances of loans outstanding. A loan is generally placed on
nonaccrual status when principal or interest becomes 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. Interest accrued
during the current year on such loans is reversed against earnings. Interest
accrued in the prior year, if any, is charged to the allowance for loan losses.
The interest on these loans is accounted for on the cash-basis or cost-recovery
method until qualifying for return to accrual. Loans are returned to accrual
status when all the principal and interest amounts contractually due are brought
current, remain current for six months and future payments are reasonably
assured.
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 is increased
44
through a provision charged to operating expense. Loans deemed to be
uncollectible are charged to 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.
PREMISES AND EQUIPMENT
Premises and equipment are stated at cost less accumulated depreciation. Land is
stated at cost. Depreciation is charged to operating expense over the useful
lives of the assets, principally on the straight-line method. Useful lives for
premises and equipment are as follows: buildings and building improvements - 7
to 39 years; and furniture and equipment - 3 to 10 years. Maintenance and
repairs are expensed as incurred while major additions and improvements are
capitalized. Interest costs on construction of qualifying assets are
capitalized.
GOODWILL AND OTHER INTANGIBLE ASSETS
The excess of the cost of acquired entities over the fair value of identifiable
assets acquired less liabilities assumed is recorded as goodwill. In accordance
with SFAS No. 142, "Goodwill and Other Intangible Assets," amortization on
goodwill and indefinite-lived assets is not recorded. However, the
recoverability of goodwill and other intangible assets are annually tested for
impairment. Other intangible assets are amortized, on an accelerated cash flow
basis over the period benefited, ranging from 4 to 40 years.
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.
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 Financial Accounting
Standards Board ("FASB") Statement No. 133," and SFAS No. 149, "Amendment of
Statement 133 on Derivative Instruments and Hedging Activities." For
asset/liability management purposes, Old National uses interest rate contracts
such as interest rate swaps to hedge various exposures or to modify interest
rate characteristics of various balance sheet accounts. Such derivatives are
used as part of the asset/liability management process and are linked to
specific assets or liabilities, and have high correlation between the contract
and the underlying item being hedged, both at inception and throughout the hedge
period. Interest rate derivative financial instruments receive hedge accounting
treatment only if they are designated as a hedge and are expected to be, and
are, effective in substantially reducing interest rate risk arising from the
assets and liabilities identified as providing exposure to risk. For a
derivative designated as a fair value hedge, the derivative is recorded at fair
value on the consolidated balance sheet. Fair value is defined as the amount at
which the instrument could be exchanged in a current transaction between willing
parties. The change in fair value of the derivative and hedged item (related to
the hedged risk) along with any ineffectiveness of the hedge is recorded in
current earnings. For a derivative designated as a cash flow hedge, the
effective portion of the derivative's gain or loss is initially reported as a
component of accumulated other comprehensive income (loss) and subsequently
reclassified into earnings when the hedged exposure affects earnings. Any
ineffective portion of the gain or loss is reported in earnings immediately.
Upon close out or termination, the net settlement that offsets changes in the
value of the hedged item is deferred and
45
amortized into net interest income over the life of the hedged item. The net
interest receivable or payable on swaps is accrued and recognized as an
adjustment to the interest income or expense of the hedged asset or liability.
Old National assesses the effectiveness of each hedging relationship by
comparing the changes in fair value or cash flows of the derivative hedging
instrument with the changes in fair value or cash flows of the designated hedged
item or transaction.
Old National enters into various stand-alone mortgage banking derivatives in
order to hedge the risk associated with the fluctuation of interest rates. Old
National also enters into various stand-alone derivative contracts primarily to
focus on providing derivative products to customers. These derivative contracts
are not linked to specific assets and liabilities on the balance sheet and,
therefore, do not qualify for hedge accounting. They are carried at fair value
with changes in fair value recorded as noninterest income in the statement of
income.
Old National is exposed to losses if a counterparty fails to make its payments
under a contract in which Old National is in the net receiving position. Old
National anticipates that the counterparties will be able to fully satisfy their
obligations under the agreements. In addition, Old National obtains collateral
up to certain thresholds of the fair value of its hedges for each counterparty
based upon their credit standing. All of the contracts to which Old National is
a party settle monthly, quarterly or semiannually. Further, Old National has
netting agreements with the dealers with which it does business.
CREDIT-RELATED FINANCIAL INSTRUMENTS
In the ordinary course of business, Old National's affiliate bank has entered
into credit-related financial instruments consisting of commitments to extend
credit, commercial letters of credit and standby letters of credit. These
commitments are not reflected in the consolidated financial statements until
they are funded.
FORECLOSED REAL ESTATE
Other assets include real estate properties acquired as a result of foreclosure
and are valued at the lower of the recorded investment in the related loan or
fair value of the property less estimated cost to sell. The recorded investment
is the sum of the outstanding principal loan balance, any accrued interest which
has not been received and acquisition cost associated with the loan. Any excess
recorded investment over the fair value of the property received is charged to
the allowance for loan losses. Any subsequent write-downs are charged to
expense, as are the costs of operating the properties. Such costs are not
material to Old National's results of operation.
SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE
Securities sold under agreements to repurchase, which are classified as secured
borrowings, are generally accounted for as collateralized financing transactions
and are recorded at the amount of cash received in connection with the
transaction. Short-term securities sold under agreements to repurchase generally
mature within one to four days from the transaction date. Securities, generally
U.S. government and federal agency securities, pledged as collateral under these
financing arrangements can be repledged by the secured party. Additional
collateral may be required based on the fair value of the underlying securities.
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. The following table reconciles basic and diluted net income per share for
the years ended December 31:
46
NET INCOME PER SHARE RECONCILIATION
2004 2003 2002
------------------------------ ------------------------------ -----------------------------
(dollars and shares in thousands,
except per share data) INCOME SHARES AMOUNT INCOME SHARES AMOUNT INCOME SHARES AMOUNT
-------- -------- --------- -------- -------- --------- ---------- ------- --------
BASIC NET INCOME PER SHARE
Income from operations $ 67,571 69,452 $ 0.97 $ 70,413 70,118 $ 1.00 $ 117,932 70,536 $ 1.67
========= ========= ========
EFFECT OF DILUTIVE SECURITIES
Restricted stock - 35 - - - -
Stock options - 537 - 56 - 137
-------- -------- -------- -------- --------- ----------
DILUTED NET INCOME PER SHARE
Income from operations
and assumed conversions $ 67,571 70,024 $ 0.97 $ 70,413 70,174 $ 1.00 $ 117,932 70,673 $ 1.67
======== ======== ========= ======== ========= ========= ========== ======= ========
Options to purchase 26 shares, 6,047 shares and 1,898 shares outstanding at
December 31, 2004, 2003 and 2002, respectively, were not included in the
computation of net income per diluted share because the exercise price of these
options was greater than the average market price of the common shares and,
therefore, the effect would be antidilutive.
INCOME TAXES
Deferred income tax assets and liabilities are determined using the liability
(or balance sheet) method. Under this method, the net deferred tax asset or
liability is determined based on the tax effects of the temporary differences
between the book and tax bases of the various balance sheet assets and
liabilities and gives current recognition to changes in tax rates and laws.
Recognition of deferred tax assets is based on management's belief that it is
more likely than not that the tax benefit associated with certain temporary
differences, tax operating loss carryforwards and tax credits will be realized.
STATEMENT OF CASH FLOWS DATA
For the purpose of presentation in the accompanying consolidated statement of
cash flows, cash and cash equivalents are defined as cash, due from banks and
money market investments, which have maturities less than 90 days. Cash paid
during 2004, 2003 and 2002 for interest was $168.7 million (net of capitalized
interest of $1.6 million), $201.8 million (net of capitalized interest of $1.2
million) and $261.2 million (net of capitalized interest of $0.3 million),
respectively. Cash paid for income tax during 2004, 2003 and 2002 was $6.6
million, $26.0 million and $33.0 million, respectively. Other noncash
transactions include stock issued in acquisitions of subsidiaries of $21.1
million in 2003 and $15.4 million in 2002 and loans transferred to loans held
for sale of $448.7 million in 2004 and $62.7 million in 2003.
IMPACT OF ACCOUNTING CHANGES
In December 2004, the FASB issued SFAS No. 123R, "Share-Based Payment," that
requires companies to expense the value of employee stock options and similar
awards. SFAS No. 123R is effective for interim and annual periods beginning
after June 15, 2005, and applies to all outstanding and unvested share-based
payment awards at the adoption date. Old National expects to adopt SFAS No. 123R
in the third quarter of 2005 using the modified prospective method. Under this
method, Old National expects to expense approximately $1.3 million in 2005, $1.8
million in 2006 and $0.1 million in 2007 for unvested awards outstanding at the
adoption date. At December 31, 2004, 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. In accordance with SFAS No. 148, "Accounting for
Stock-based Compensation - Transition and Disclosure" and SFAS No. 123,
"Accounting for Stock-Based Compensation," 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. All per share data has been
adjusted for stock dividends, including a 5% stock dividend distributed to
shareholders on January 26, 2005.
47
(dollars in thousands, except per share data) 2004 2003 2002
- ------------------------------------------------------ ---------- ---------- -----------
Net income as reported $ 67,571 $ 70,413 $ 117,932
RESTRICTED STOCK:
Add: restricted stock compensation expense included
in reported net income, net of related tax effects 679 - -
Deduct: restricted stock compensation expense
determined under fair value based method for all
awards, net of related tax effects (617) - -
STOCK OPTIONS:
Deduct: stock option compensation expense
determined under fair value based method for all
awards, net of related tax effects (4,122) (6,002) (2,992)
---------- ---------- -----------
Proforma net income $ 63,511 $ 64,411 $ 114,940
========== ========== ===========
Basic net income per share:
As reported $ 0.97 $ 1.00 $ 1.67
Proforma 0.91 0.92 1.63
Diluted net income per share:
As reported $ 0.97 $ 1.00 $ 1.67
Proforma 0.91 0.92 1.63
---------- ---------- -----------
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. Old National made the required
disclosures in Note 3 to the consolidated financial statements. 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.
In December 2003, the FASB revised SFAS No. 132, "Employers' Disclosures about
Pensions and Other Postretirement Benefits." This statement requires annual and
interim disclosures in addition to those in the original SFAS No. 132, which
provides additional information regarding assets, obligations, cash flows and
net periodic benefit costs of defined benefit pension plans. The revised SFAS
No. 132 is effective for financial statements with fiscal years ending after
December 15, 2003. Old National adopted this statement as of December 31, 2003,
and has included all such required disclosures in Note 13.
In December 2003, the FASB revised FASB Interpretation No. 46 ("FIN 46R"),
"Consolidation of Variable Interest Entities," which was initially released in
January 2003. FIN 46R provides guidance with respect to variable interest
entities and when the assets, liabilities, noncontrolling interest and results
of operations of a variable interest entity need to be included in a company's
consolidated financial statements. FIN 46R was effective for companies with
"special-purpose entities" as of December 31, 2003. Old National does not have
special-purpose entities. However, under this new guidance, Old National was
required to deconsolidate ONB Capital Trust I and ONB Capital Trust II as these
trusts no longer meet the definition of a related subsidiary under the terms of
FIN 46R. This change also resulted in the remaining debt being disclosed in
"other borrowings" beginning with the year ended December 31, 2003, compared to
separate disclosure on the balance sheet prior to that date. The effect of this
deconsolidation was an increase of $4.6 million to both assets and liabilities
with no impact to the results of operations. The effective date for
consolidation of all other entities was after March 15, 2004. Old National
consolidated various low income housing partnerships on March 31, 2004, for
which the impact on the results of operations and financial position was
immaterial.
48
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain Financial
Instruments with Characteristics of Both Liabilities and Equity." SFAS No. 150
establishes standards for classification and measurement in the statement of
financial position of certain financial instruments with characteristics of both
liabilities and equity. Old National has determined that it has no such
instruments.
In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities." This statement clarifies
reporting of contracts as either derivatives or hybrid instruments. Old National
has determined that all derivatives or hybrid instruments covered under this
statement have been properly reported under SFAS No. 149.
In November 2002, FIN 45, "Guarantor's Accounting and Disclosure Requirements
for Guarantees, Including Indirect Guarantees of Indebtedness of Others" was
issued. FIN 45 elaborates on the disclosures to be made by a guarantor in its
financial statements about its obligations under certain guarantees that it has
issued. It also clarifies that a guarantor is required to recognize, at the
inception of a guarantee, a liability for the fair value of the obligation
undertaken in issuing the guarantee. Certain guarantee contracts are excluded
from both the disclosure and recognition requirements of FIN 45, including,
among others, residual value guarantees under capital lease arrangements,
commercial letters of credit and loan commitments. The disclosure requirements
of FIN 45 were effective as of December 31, 2002. The recognition requirements
of FIN 45 are to be applied prospectively to guarantees issued or modified after
December 31, 2002. The impact of FIN 45 at December 31, 2003, resulted in
additional liabilities of $0.3 million and reduced noninterest income by the
same amount.
RECLASSIFICATIONS
Certain prior year amounts have been reclassified to conform to the 2004
presentation. Such reclassifications had no effect on net income.
NOTE 2 - ACQUISITION AND DIVESTITURE ACTIVITY
COMPLETED MERGERS
Old National acquired three companies in the non-bank services segment during
2003. All acquisitions were accounted for as purchases in accordance with SFAS
No. 141.
PURCHASE PRICE
---------------------------------------------
(dollars in thousands) SHARES STOCK CASH OTHER
ENTITY ACQUIRED DATE ISSUED VALUE PAID TOTAL GOODWILL INTANGIBLES
- -------------------------------- ---------- --------- --------- --------- --------- --------- -----------
Insurance and Risk Management 08/01/2003 590,411 $13,739 $16,206 $29,945 $14,213 $12,376
Graham and Peat Insurance Agency 06/01/2003 131,992 3,029 72 3,101 2,058 1,797
James L. Will Insurance Agency 05/01/2003 195,427 4,306 92 4,398 2,634 2,667
---------- --------- --------- --------- --------- --------- -----------
Intangible assets related to client business relationships from these purchases
are being amortized over a weighted-average amortization period of 19 years. Of
the $18.9 million of goodwill recorded from these transactions $14.2 million is
expected to be deductible for tax purposes. Unaudited financial statements of
aggregate companies acquired during 2003 showed assets of $12.2 million on the
acquisition dates and revenues from the beginning of the year to acquisition
dates of $10.9 million with net income of $1.5 million. Contingent payments are
often made as a result of these acquisitions. These payments, which are not
deemed to be material, result in a change to the purchase price and goodwill
when paid.
DIVESTITURES
During 2004, Old National sold its Greencastle, Indiana insurance operations and
Robinson, Illinois trust operations resulting in pre-tax gains totaling $1.2
million. During 2003, Old National sold its Fort Wayne, Indiana, trust
operations resulting in a pre-tax gain totaling $0.3 million. Old National
finalized the sales of branches in the normal course of business resulting in a
pre-tax gain totaling $12.5 million during 2002.
Subsequent to December 31, 2004, Old National committed to a plan to sell
selected non-strategic assets consisting of non-bank subsidiaries to better
align its operations with its market and product focus. See Note 23 for further
discussion regarding the expected divestitures identified subsequent to December
31, 2004.
49
NOTE 3 - INVESTMENT SECURITIES
The following tables summarize the amortized cost and fair value of the
available-for-sale and held-to-maturity investment securities portfolio at
December 31 and the corresponding amounts of unrealized gains and losses
therein:
AMORTIZED UNREALIZED UNREALIZED FAIR
(dollars in thousands) COST GAINS LOSSES VALUE
- ----------------------------------------- ------------ ---------- ---------- ------------
2004
AVAILABLE-FOR-SALE
U.S. Treasury $ 67,661 $ - $ (824) $ 66,837
U.S. Government agencies and corporations 641,121 466 (9,114) 632,473
Mortgage-backed securities 1,280,051 6,443 (19,174) 1,267,320
States and political subdivisions 568,970 29,191 (530) 597,631
Other securities 218,339 3,200 (385) 221,154
------------ ---------- ---------- ------------
Total available-for-sale securities $ 2,776,142 $ 39,300 $ (30,027) $ 2,785,415
============ ========== ========== ============
HELD-TO-MATURITY
Mortgage-backed securities $ 177,794 $ 98 $ (1,726) $ 176,166
============ ========== ========== ============
2003
AVAILABLE-FOR-SALE
U.S. Treasury $ 25,972 $ 115 $ (30) $ 26,057
U.S. Government agencies and corporations 590,941 1,863 (11,984) 580,820
Mortgage-backed securities 1,306,293 12,629 (20,041) 1,298,881
States and political subdivisions 617,703 37,543 (178) 655,068
Other securities 92,192 3,862 (30) 96,024
------------ ---------- ---------- ------------
Total available-for-sale securities $ 2,633,101 $ 56,012 $ (32,263) $ 2,656,850
============ ========== ========== ============
HELD-TO-MATURITY
Mortgage-backed securities $ 210,905 $ 170 $ (1,759) $ 209,316
============ ========== ========== ============
Proceeds from sales of investment securities available-for-sale were $341.5
million in 2004, $1.063 billion in 2003 and $762.1 million in 2002. In 2004,
realized gains were $4.9 million and losses were $2.0 million. In 2003, realized
gains were $24.3 million and losses were $0.7 million. In 2002, realized gains
were $12.7 million and losses were $0.3 million. At December 31, investment
securities were pledged to secure public and other funds with a carrying value
of $1.542 billion in 2004 and $1.743 billion in 2003.
The amortized cost and fair value of the investment securities portfolio are
shown by expected maturity. Expected maturities may differ from contractual
maturities if borrowers have the right to call or prepay obligations with or
without call or prepayment penalties. Weighted average yield is based on
amortized cost.
2004 2003
------------------------- WEIGHTED -------------------------- WEIGHTED
(dollars in thousands) AMORTIZED FAIR AVERAGE AMORTIZED FAIR AVERAGE
MATURITY COST VALUE YIELD COST VALUE YIELD
- ---------------------- ------------ ----------- --------- ----------- ------------- --------
AVAILABLE-FOR-SALE
Within one year $ 34,793 $ 34,894 3.15 % $ 148,498 $ 149,591 4.31 %
One to five years 893,490 897,625 3.58 1,394,858 1,402,042 4.46
Five to ten years 540,235 538,164 3.96 704,216 698,180 4.60
Beyond ten years 1,307,624 1,314,732 4.50 385,529 407,037 7.29
------------ ----------- --------- ----------- ------------- --------
Total $ 2,776,142 $ 2,785,415 4.08 % $ 2,633,101 $ 2,656,850 4.90 %
============ =========== ========= =========== ============= ========
HELD-TO-MATURITY
One to five years $ 177,794 $ 176,166 4.31 % $ 210,905 $ 209,316 4.29 %
============ =========== ========= =========== ============= ========
50
The following table summarizes the investment securities with unrealized losses
at December 31 by aggregated major security type and length of time in a
continuous unrealized loss position:
LESS THAN 12 MONTHS 12 MONTHS OR LONGER TOTAL
----------------------- ----------------------- -----------------------
FAIR UNREALIZED FAIR UNREALIZED FAIR UNREALIZED
(dollars in thousands) VALUE LOSSES VALUE LOSSES VALUE LOSSES
- ------------------------------------------- ---------- ---------- ---------- ---------- ---------- ----------
2004
AVAILABLE-FOR-SALE
U.S. Treasury $ 66,837 $ (824) $ - $ - $ 66,837 $ (824)
U.S. Government agencies and corporations 390,016 (3,460) 172,597 (5,654) 562,613 (9,114)
Mortgage-backed securities 609,186 (7,099) 372,850 (12,075) 982,036 (19,174)
States and political subdivisions 28,661 (509) 805 (21) 29,466 (530)
Other securities 96,863 (365) 693 (20) 97,556 (385)
---------- ---------- ---------- ---------- ---------- ----------
Total available-for-sale $1,191,563 $ (12,257) $ 546,945 $ (17,770) $1,738,508 $ (30,027)
========== ========== ========== ========== ========== ==========
HELD-TO-MATURITY
Mortgage-backed securities $ 137,330 $ (1,726) $ - $ - $ 137,330 $ (1,726)
========== ========== ========== ========== ========== ==========
2003
AVAILABLE-FOR-SALE
U.S. Treasury $ 7,939 $ (30) $ - $ - $ 7,939 $ (30)
U.S. Government agencies and corporations 399,248 (11,984) - - 399,248 (11,984)
Mortgage-backed securities 837,218 (20,041) - - 837,218 (20,041)
States and political subdivisions 17,243 (167) 444 (11) 17,687 (178)
Other securities 688 (30) - - 688 (30)
---------- ---------- ---------- ---------- ---------- ----------
Total available-for-sale $1,262,336 $ (32,252) $ 444 $ (11) $1,262,780 $ (32,263)
========== ========== ========== ========== ========== ==========
HELD-TO-MATURITY
Mortgage-backed securities $ 162,808 $ (1,759) $ - $ - $ 162,808 $ (1,759)
========== ========== ========== ========== ========== ==========
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 the
securities for a time necessary to recover the amortized cost.
NOTE 4 - LOANS HELD FOR SALE
At December 31, 2004 and 2003, Old National had residential loans held for sale
of $22.5 million and $16.3 million, respectively. As of December 31, 2004 and
2003, ineffectiveness related to the hedge of a portion of the residential loans
held for sale as calculated in accordance with SFAS No. 133 was immaterial.
During 2004, residential real estate loans held for investment of $405.6 million
were reclassified to residential loans held for sale and sold for $404.4 million
resulting in a write-down on loans transferred to held for sale of $1.2 million,
which was recorded as a reduction to the allowance for loan losses. Also, in
connection with this transaction, mortgage servicing rights of $2.7 million were
capitalized, and a net gain of $2.7 million was recognized. Also, during 2004,
Old National entered into an ongoing agency agreement with a third party for
assistance with facilitation of periodic loan sales. In connection with this
arrangement, commercial and commercial real estate loans held for investment of
$43.1 million were transferred to loans held for sale and sold for $39.7 million
net of expenses, resulting in a net write-down on loans transferred to held for
sale of $3.4 million, which was recorded as a reduction to the allowance for
loan losses. At December 31, 2004, there were no loans held for sale under this
arrangement.
During 2003, residential real estate loans of $14.5 million and commercial loans
of $48.2 million held for investment were reclassified to loans held for sale
and sold for $11.1 million and $36.9 million, respectively. This resulted in
write-downs on loans transferred to held for sale of $3.4 million and $11.3
million, respectively, which were recorded as reductions to the allowance for
loan losses.
51
NOTE 5 - LOANS
The composition of loans at December 31 by lending classification was as
follows:
(dollars in thousands) 2004 2003
- ---------------------- ---- ----
Commercial $1,550,640 $1,618,095
Commercial real estate 1,653,122 1,849,275
Residential real estate 555,423 939,422
Consumer credit, net of unearned 1,205,657 1,163,325
---------- ----------
Total loans $4,964,842 $5,570,117
========== ==========
Through its affiliate bank, Old National makes loans to clients in various
industries including manufacturing, agribusiness, transportation, mining,
wholesaling and retailing. Old National predominately operates in the geographic
market areas of Indiana, Illinois, Kentucky and Tennessee. Old National has no
concentration of loans in any single industry exceeding 10% of its portfolio.
Executive officers and directors of Old National and significant subsidiaries
and their related interests are loan clients of Old National's affiliate bank in
the normal course of business. These loans are made on substantially the same
terms, including interest rates and collateral, as those prevailing at the same
time for comparable transactions with unrelated parties and involve no unusual
risk of collectibility. An analysis of the current year activity of these loans
is as follows:
(dollars in thousands) 2004
- ---------------------- ----
Balance, January 1 $ 21,099
New loans 78,572
Repayments (62,113)
Officer and director changes (8,609)
--------
Balance, December 31 $ 28,949
========
NOTE 6 - ALLOWANCE FOR LOAN LOSSES
Activity in the allowance for loan losses was as follows:
(dollars in thousands) 2004 2003 2002
- ---------------------- ---- ---- ----
Balance, January 1, as previously reported $ 95,235 $ 87,742 $ 74,241
Transfer (to) from allowance for unfunded commitments 755 (9,336) -
Additions:
Provision charged to expense 22,400 85,000 33,500
Deductions:
Write-downs from loans transferred to held for sale 4,611 14,744 -
Loans charged-off 41,246 61,654 27,576
Recoveries (13,216) (8,227) (7,577)
-------- -------- --------
Net charge-offs 32,641 68,171 19,999
-------- -------- --------
Balance, December 31 $ 85,749 $ 95,235 $ 87,742
======== ======== ========
During 2004, Old National reclassified the allowance for loan losses related to
unfunded loan commitments to other liabilities. Prior period amounts deemed to
be material were reclassified for conformity of presentation and comparability
of ratios related to the allowance for loan losses.
52
The following is a summary of information pertaining to impaired and nonaccrual
loans at December 31:
(dollars in thousands) 2004 2003
- ---------------------- ---- ----
Impaired loans without a valuation allowance $ 13,052 $ 31,027
Impaired loans with a valuation allowance 30,626 60,562
-------- --------
Total impaired loans $ 43,678 $ 91,589
======== ========
Valuation allowance related to impaired loans $ 14,282 $ 20,588
-------- --------
Total nonaccrual loans $ 54,890 $104,627
Total loans past due 90 days or more
and still accruing 2,414 5,120
-------- --------
For the year ended December 31, 2004, the average balance of impaired loans was
$79.1 million for which no interest was recorded. For the year ended December
31, 2003, the average balance of impaired loans was $182.6 million for which no
interest was recorded. No additional funds are committed to be advanced in
connection with impaired loans. Loans deemed impaired are evaluated using the
fair value of the underlying collateral.
NOTE 7 - GOODWILL AND OTHER INTANGIBLE ASSETS
At December 31, 2004 and 2003, Old National had goodwill in the amount of $129.9
million and $129.3 million, respectively. Old National performed its annual
impairment testing resulting in no impairment for 2004 and 2003. Fair values
used for this test are estimated using the expected present value of future cash
flows. Other intangible assets are evaluated for impairment if events and
circumstances indicate a possible impairment. The changes in the carrying amount
of goodwill by segment for the years ended December 31 were as follows:
COMMUNITY NON-BANK
(dollars in thousands) BANKING SERVICES TOTAL
- ---------------------- --------- -------- -----
Balance, January 1, 2003 $70,944 $39,704 $110,648
Goodwill acquired during the year - 18,905 18,905
Adjustments to goodwill acquired in prior year - (74) (74)
Goodwill related to divestitures - (228) (228)
------- ------- --------
Balance, December 31, 2003 70,944 58,307 129,251
Adjustments to goodwill acquired in prior year - 696 696
------- ------- --------
Balance, December 31, 2004 $70,944 $59,003 $129,947
======= ======= ========
Old National continues to amortize definite-lived intangible assets over the
estimated remaining life of each respective asset. At December 31, 2004, Old
National had $38.9 million in unamortized intangible assets compared with $41.9
million in unamortized intangible assets at December 31, 2003. Indefinite-lived
assets of $2.8 million were included in each year.
53
The following table shows the gross carrying amounts and accumulated
amortization for intangible assets as of December 31:
GROSS CARRYING ACCUMULATED NET CARRYING
(dollars in thousands) AMOUNT AMORTIZATION AMOUNT
- --------------------------------------- -------------- ------------- ------------
2004
Amortized intangible assets:
Core deposit $ 5,574 $ (3,639) $ 1,935
Customer business relationships 36,767 (4,185) 32,582
Non-compete agreements 1,100 (137) 963
Technology 1,300 (712) 588
--------- -------- --------
Total amortized intangible assets 44,741 (8,673) 36,068
Unamortized intangible assets:
Trade name 2,800 - 2,800
--------- -------- --------
Total intangible assets $ 47,541 $ (8,673) $ 38,868
========= ======== ========
2003
Amortized intangible assets:
Core deposit $ 5,574 $ (3,044) $ 2,530
Customer business relationships 36,676 (1,984) 34,692
Non-compete agreements 1,100 (82) 1,018
Technology 1,300 (428) 872
--------- -------- --------
Total amortized intangible assets 44,650 (5,538) 39,112
Unamortized intangible assets:
Trade name 2,800 - 2,800
--------- -------- --------
Total intangible assets $ 47,450 $ (5,538) $ 41,912
========= ======== ========
Total amortization expense associated with intangible assets was $3.2 million in
2004, $2.6 million in 2003 and $1.2 million in 2002. The following is the
estimated amortization expense for the future years.
(dollars in thousands)
- ----------------------
2005 $ 3,069
2006 2,853
2007 2,389
2008 2,226
2009 2,134
Thereafter 23,397
--------
Total $ 36,068
========
NOTE 8 - MORTGAGE SERVICING RIGHTS
Mortgage servicing rights derived from loans sold with servicing retained were
$15.8 million and $14.7 million at December 31, 2004 and 2003, 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 December 31 was $1.955 billion in 2004, $1.738 billion in 2003 and $1.523
billion in 2002.
54
The following summarizes the activities related to mortgage servicing rights and
the related valuation allowance:
(dollars in thousands) 2004 2003
- ---------------------- ---- ----
Balance before valuation allowance, January 1 $ 15,790 $ 13,423
Rights capitalized 6,250 8,655
Amortization (6,211) (6,288)
-------- --------
Balance before valuation allowance, December 31 15,829 15,790
-------- --------
Valuation allowance:
Balance, January 1 (1,131) (2,056)
Additions to valuation allowance (2,390) (6,433)
Reductions to valuation allowance 3,521 7,358
-------- --------
Balance, December 31 - (1,131)
-------- --------
Mortgage servicing rights, net $ 15,829 $ 14,659
======== ========
The following summarizes the fair market value of mortgage servicing rights as
of December 31 and the key economic assumptions used in determining this value
as well as a sensitivity analysis:
(dollars in thousands) 2004 2003
- ---------------------- ---- ----
Fair value $ 17,121 $ 15,039
Expected weighted-average life (in years) 5.2 5.2
Weighted-average prepayment speed assumptions 315 335
Discount rate 9.10 % 8.50 %
Prepayment speed assumptions:
Decrease in fair value from 10% adverse change $ (865) $ (743)
Decrease in fair value from 20% adverse change (1,650) (1,423)
Discount rate:
Decrease in fair value from 10% adverse change (456) (376)
Decrease in fair value from 20% adverse change (890) (735)
The key economic assumptions used in determining the fair value of mortgage
servicing rights capitalized during the year was as follows:
(dollars in thousands) 2004 2003
- ---------------------- ---- ----
Weighted-average prepayment speed assumptions 310 397
Weighted-average life (in years) 6.1 4.4
Weighted-average discount rate 9.30% 9.43%
---- ----
NOTE 9 - DEPOSITS
The aggregate amount of time deposits in denominations of $100,000 or more at
December 31, 2004 and 2003 was $675.8 million and $760.3 million, respectively.
At December 31, 2004, the scheduled maturities of time deposits were as follows:
(dollars in thousands)
- ----------------------
Due in 2005 $ 977,728
Due in 2006 566,459
Due in 2007 296,846
Due in 2008 123,667
Due in 2009 93,310
Thereafter 530,808
-----------
Total $ 2,588,818
===========
55
NOTE 10 - SHORT-TERM BORROWINGS
The following table presents the distribution of Old National's short-term
borrowings and related weighted-average interest rates for each of the years
ended December 31:
OTHER
FEDERAL FUNDS REPURCHASE SHORT-TERM
(dollars in thousands) PURCHASED AGREEMENTS BORROWINGS TOTAL
- ------------------------------- ------------- ---------- ---------- -----
2004
Outstanding at year-end $ 39,273 $288,934 $ 19,146 $347,353
Average amount outstanding 105,353 284,689 16,079 406,121
Maximum amount outstanding at
any month-end 243,954 332,447 37,530
Weighted average interest rate:
During year 1.07% 0.91% 0.99% 0.96%
End of year 1.93 1.67 1.90 1.72
-------- -------- -------- --------
2003
Outstanding at year-end $123,582 $276,471 $ 14,535 $414,588
Average amount outstanding 340,124 327,101 20,363 687,588
Maximum amount outstanding at
any month-end 592,880 429,425 73,397
Weighted average interest rate:
During year 1.18% 0.91% 1.42% 1.06%
End of year 0.92 0.94 0.77 0.93
-------- -------- -------- --------
2002
Outstanding at year-end $500,180 $334,418 $ 83,751 $918,349
Average amount outstanding 299,846 323,386 65,726 688,958
Maximum amount outstanding at
any month-end 500,180 352,687 281,889
Weighted average interest rate:
During year 1.67% 1.49% 1.76% 1.59%
End of year 1.21 1.09 1.42 1.18
-------- -------- -------- --------
56
NOTE 11 - FINANCING ACTIVITIES
The following table summarizes Old National's other borrowings at December 31:
(dollars in thousands) 2004 2003
- ---------------------- ---------- ----------
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 2,374 7,336
OLD NATIONAL BANK:
Securities sold under agreements to repurchase (fixed
rates 1.70% to 2.75% and variable rates 2.07% to
3.06%) maturities January 2007 to December 2009 245,000 248,000
Federal Home Loan Bank advances (fixed rates
4.28% to 8.34%) maturities January 2005 to
October 2022 484,837 765,347
Senior unsecured bank notes (fixed rate 3.95%
and variable rates 1.99% to 2.84%) maturities
January 2005 to February 2008 165,000 190,000
Subordinated bank notes (fixed rate 6.75%)
maturing October 2011 150,000 150,000
Capital lease obligation 4,523 -
SFAS 133 fair value hedge and other basis adjustments 927 209
---------- ----------
Total other borrowings $1,312,661 $1,624,092
========== ==========
Contractual maturities of long-term debt at December 31, 2004, were as follows:
(dollars in thousands)
- ----------------------
Due in 2005 $ 195,082
Due in 2006 78,402
Due in 2007 157,034
Due in 2008 343,037
Due in 2009 76,040
Thereafter 459,765
SFAS 133 fair value hedge and other basis adjustments 3,301
-----------
Total $ 1,312,661
===========
FEDERAL HOME LOAN BANK
Federal Home Loan Bank advances had weighted-average rates of 5.79% and 5.48% at
December 31, 2004, and 2003, 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.
57
JUNIOR SUBORDINATED DEBENTURES
In accordance with FIN 46, junior subordinated debentures related to trust
preferred securities are classified in "other borrowings" beginning in 2003.
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 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 (for debentures owned by ONB Capital Trust I)
and on or after April 12, 2007 (for debentures owned by ONB Capital Trust II),
and in whole (but not in part) following the occurrence and continuance of
certain adverse federal income tax or capital treatment events. These securities
qualify as Tier 1 capital for regulatory purposes.
Costs associated with the issuance of the trust preferred securities totaling
$3.3 million in 2002 and $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.
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 December 31, 2004, the future minimum lease payments under the capital lease
were as follows:
(dollars in thousands)
- ----------------------
2005 $ 371
2006 371
2007 371
2008 371
2009 390
Thereafter 12,875
-------
Total minimum lease payments 14,749
Less amounts representing interest 10,226
-------
Present value of net minimum lease payments $ 4,523
=======
58
NOTE 12 - TAXES
Following is a summary of the major items comprising the differences in taxes
computed at the federal statutory tax rate and as recorded in the consolidated
statement of income for the years ended December 31:
(dollars in thousands) 2004 2003 2002
- ---------------------- -------- -------- --------
Provision at statutory rate of 35% $ 26,125 $ 27,804 $ 53,403
Tax-exempt income (18,486) (19,055) (19,060)
State income taxes (557) (594) 1,377
Other, net (10) 872 (1,071)
-------- -------- --------
Income tax expense $ 7,072 $ 9,027 $ 34,649
======== ======== ========
Effective tax rate 9.5% 11.4% 22.7%
-------- -------- --------
The effective tax rate was significantly lower in 2004 and 2003 compared to
2002. The main factor for the significant decrease in the effective tax rate was
that tax-exempt income comprised a larger percentage of total income. The
provision for income taxes consisted of the following components for the years
ended December 31:
(dollars in thousands) 2004 2003 2002
- ---------------------- -------- -------- --------
Income taxes currently payable
Federal $ 11,972 $ 16,715 $ 31,829
State (856) (914) 2,114
Deferred income taxes related to:
Provision for loan losses 2,769 (6,505) (5,642)
Other, net (6,813) (269) 6,348
-------- -------- --------
Deferred income tax expense (benefit) (4,044) (6,774) 706
-------- -------- --------
Provision for income taxes $ 7,072 $ 9,027 $ 34,649
======== ======== ========
Significant components of net deferred tax assets (liabilities) were as follows
at December 31:
(dollars in thousands) 2004 2003
- ---------------------- -------- --------
DEFERRED TAX ASSETS
Allowance for loan losses,
net of recapture $ 37,603 $ 40,372
Benefit plans accruals 2,903 3,706
AMT credit 14,777 8,389
Net operating loss 10,616 8,523
Unrealized losses on hedges 1,319 465
Other, net 6,711 1,416
-------- --------
Total deferred tax assets $ 73,929 $ 62,871
-------- --------
DEFERRED TAX LIABILITIES
Premises and equipment (11,046) (3,580)
Accretion on investment securities (307) (47)
Unrealized gains on available-
for-sale investment securities (2,569) (9,398)
Lease receivable, net (9,752) (12,713)
Mortgage servicing rights (6,173) (5,717)
Purchase accounting (7,986) (7,047)
-------- --------
Total deferred tax liabilities (37,833) (38,502)
-------- --------
Net deferred tax assets $ 36,096 $ 24,369
======== ========
No valuation allowance was recorded at December 31, 2004 and 2003.
Old National has a federal net operating loss carryforward totaling $25.8
million that may be offset against future taxable income. If not used, $22.3
million of the carryforward will expire in 2023 and $3.5 million of the
carryforward will expire in 2024.
59
NOTE 13 - EMPLOYEE BENEFIT PLANS
RETIREMENT PLAN
Old National has qualified and nonqualified noncontributory defined benefit
pension plans. During 2001, Old National amended the plans freezing the benefits
accrued for all participants except active participants who had completed at
least 20 years of service or who had attained age 50 with at least five years of
vesting service. In addition, the amendment discontinued new enrollments under
the plans after December 31, 2001.
Retirement benefits are based on years of service and compensation during the
highest paid five years of employment. Old National's policy is to contribute at
least the minimum funding requirement determined by the plan's actuary. Old
National uses a December 31 measurement date for its defined benefit pension
plans.
The following table sets forth the plan's benefit obligation and funded status
at December 31:
(dollars in thousands) 2004 2003 2002
- ---------------------- --------- -------- --------
CHANGE IN BENEFIT OBLIGATION
Balance at January 1 $ 63,519 $ 54,267 $ 51,912
Service cost 1,993 1,866 1,816
Interest cost 3,972 3,846 3,720
Benefits paid (6,554) (4,605) (6,422)
Actuarial loss 94 8,145 3,241
--------- -------- --------
Balance at December 31 63,024 63,519 54,267
--------- -------- --------
CHANGE IN PLAN ASSETS
Fair value at January 1 44,935 27,409 32,253
Actual return on plan assets 2,494 3,405 (2,549)
Employer contributions 8,935 18,726 4,127
Benefits paid (6,554) (4,605) (6,422)
--------- -------- --------
Fair value at December 31 49,810 44,935 27,409
--------- -------- --------
Funded status (13,214) (18,584) (26,858)
Unrecognized:
Net actuarial loss 22,883 23,298 17,436
Transition asset - (431) (862)
Prior service cost 200 233 267
--------- -------- --------
Net amount recognized $ 9,869 $ 4,516 $(10,017)
========= ======== ========
Net amount recognized in
financial statements:
Prepaid benefit cost $ 12,099 $ 6,187 $ -
Accrued benefit liability (2,230) (1,671) (10,017)
--------- -------- --------
Net amount recognized $ 9,869 $ 4,516 $(10,017)
========= ======== =========
The accumulated benefit obligation for the defined benefit pension plans was
$48.6 million, $45.6 million and $39.1 million at December 31, 2004, 2003 and
2002, respectively. The net periodic benefit cost and its components were as
follows for the years ended December 31:
(dollars in thousands) 2004 2003 2002
- ---------------------- -------- -------- ---------
Service cost $ 1,993 $ 1,866 $ 1,816
Interest cost 3,972 3,846 3,720
Expected return on plan assets (3,556) (2,411) (2,622)
Amortization of prior service cost 33 33 33
Amortization of transitional asset (431) (431) (431)
Recognized actuarial loss 1,571 1,291 373
-------- -------- ---------
Net periodic benefit cost $ 3,582 $ 4,194 $ 2,889
======== ======== =========
60
The weighted-average assumptions used to determine benefit obligations at
December 31 were as follows:
2004 2003 2002
---- ---- ----
Discount rate 6.00% 6.25% 6.75%
Rate of compensation increase 4.00 5.00 5.00
The weighted-average assumptions used to determine net periodic benefit costs
for the years ended December 31 were as follows:
2004 2003 2002
---- ---- ----
Discount rate 6.25% 6.75% 7.25%
Expected return on plan assets 8.00 8.00 8.00
Rate of compensation increase 5.00 5.00 5.00
Old National's pension plan weighted-average asset allocations at December 31 by
asset category were as follows:
2005 TARGET
ASSET CATEGORY ALLOCATION 2004 2003 2002
- ----------------- ----------- ---- ---- ----
Equity securities 40 - 70% 61% 50% 53%
Debt securities 30 - 60% 35 27 39
Cash equivalents 0 - 15% 4 23 8
------- ---- ---- ----
Total 100% 100% 100%
======= ==== ==== ====
The expected long-term rate of return on assets, based on 10-year compounded
trailing returns on equity and fixed income indices weighted by the typical
asset allocation for the plan, exceeds the assumed long-term rate of return of
8%. This assumption is monitored on an on-going basis.
The plan's assets are invested in the plan trust within the ranges specified
above. Fixed income securities and cash equivalents must meet minimum rating
standards. Exposure to any particular company or industry is also limited. The
investment policy is reviewed annually. Equity securities included common stock
of Old National in the amount of $3.9 million (8% of total plan assets), $3.3
million (7% of total plan assets) and $3.4 million (12% of total plan assets) at
December 31, 2004, 2003 and 2002 respectively.
At December 31, 2003, asset category allocations were outside the target range
due to a December employer contribution included in cash equivalents. On January
31, 2004, subsequent to investing this contribution, allocations were 60% equity
securities, 31% debt securities and 9% cash equivalents.
During the fourth quarter of 2004, Old National made an additional contribution
of $8.1 million to the plan. Old National expects to contribute $0.6 million to
the pension plan in 2005. In addition, the following benefit payments, which
reflect expected future service, are expected to be paid:
(dollars in thousands)
- ----------------------
2005 $ 1,823
2006 2,122
2007 2,438
2008 2,804
2009 2,762
Years 2010 - 2014 20,706
EMPLOYEE STOCK OWNERSHIP PLAN
Old National has an Employee Stock Ownership Plan (ESOP) covering all associates
who have completed an eligibility period of at least 12 months of employment and
1,000 hours of service, as defined under the plan. Old National's contributions
to the plan are made in the form of Old National Bancorp stock or cash
contributed to the plan for purchase of Old National Bancorp stock on the
market. Contributions made to the plan are a percentage match up to 4% of
covered salaries, based on years of service, of each eligible participant's
contributions to the Old National Bancorp Employees' Savings Plan (401k). In
addition, Old National may contribute an amount designated
61
at the sole discretion of the Board of Directors. Old National's Board of
Directors' designated discretionary contributions equal to 5%, 4% and 5% of each
participant's salary in 2004, 2003 and 2002, respectively. The plan includes a
diversification feature which permits plan participants, upon reaching age 55,
to sell up to 100% of their Old National Bancorp shares on the market and invest
proceeds in their 401k. Dividends paid on shares held by the plan are charged to
retained earnings. Participants can annually elect to have dividends reinvest in
the plan or have dividends be paid to the participant. All shares owned through
the ESOP are included in the calculation of weighted-average shares outstanding
for purposes of calculating diluted and basic earnings per share.
At December 31, 2004, 2003 and 2002, the number of allocated shares in the plan
were 2.5 million, 2.4 million and 2.1 million, respectively. Unallocated shares
were minimal for these years. Contribution expense under the plan was $9.5
million in 2004, $7.4 million in 2003 and $7.7 million in 2002. Effective
January 1, 2005, the Employee Stock Ownership Plan and the Employees' Saving
Plan (401k) were merged into a single plan with the same terms and conditions as
the predecessor plans.
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 December 31, 2004, 6.5 million shares
were outstanding under the plan, including 6.3 million stock options and 0.2
million shares of restricted stock as described below, and 1.1 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 1 for proforma net income and
net income per share data. All per share data and exercise price data have been
adjusted for a 5% stock dividend that was declared to shareholders of record on
January 5, 2005, and distributed on January 26, 2005.
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. On January 31, 2003, Old National granted 2.7 million stock options
to key associates at an option price of $20.68, the closing price of Old
National's stock on that date. On January 22, 2002, Old National granted 2.1
million stock options to key associates at an exercise price of $20.59, the
closing price of Old National's stock on that date. The 2003 and 2002 options
vest 25% per year over a four-year period and expire in ten years. If certain
financial targets are achieved, vesting is accelerated. At December 31, 2004,
Old National had 6.3 million of stock options outstanding. The fair value of
each option grant is estimated on the date of grant using a ten-year expected
life and the Black-Scholes option-pricing model using the following
weighted-average assumptions: dividend yield of 3.4% in 2004, 3.1% in 2003 and
3.0% in 2002; expected volatility of 18.4% in 2004, 18.0% in 2003 and 18.0% in
2002; and a risk-free rate of 4.5% in 2004, 4.5% in 2003 and 5.4% in 2002.
2004 2003 2002
----------------- ----------------- -----------------
WEIGHTED WEIGHTED WEIGHTED
AVERAGE AVERAGE AVERAGE
EXERCISE EXERCISE EXERCISE
(shares in thousands) SHARES PRICE SHARES PRICE SHARES PRICE
- -------------------------------------- ------- -------- ------- -------- ------- --------
Outstanding, January 1 6,790 $ 20.80 4,257 $ 20.83 2,358 $ 20.75
Granted 321 20.74 2,738 20.68 2,079 20.59
Exercised (254) 18.73 (22) 9.21 (60) 8.92
Forfeited (529) 21.86 (183) 21.01 (120) 21.15
------ ------- ------ ------- ------ -------
Outstanding, December 31 6,328 $ 20.88 6,790 $ 20.80 4,257 $ 20.83
====== ======= ====== ======= ====== =======
Options exercisable at end of year 3,956 $ 20.99 2,312 $ 20.91 1,024 $ 20.24
Weighted-average fair value of options
granted during the year 4.00 4.18 4.89
------ ------- ------ ------- ------ -------
62
Information pertaining to options outstanding was as follows at December 31,
2004:
(shares in OPTIONS OUTSTANDING OPTIONS EXERCISABLE
thousands) ----------------------------------------- ---------------------
WEIGHTED WEIGHTED WEIGHTED
AVERAGE AVERAGE AVERAGE
RANGE OF NUMBER REMAINING EXERCISE NUMBER EXERCISE
EXERCISE PRICE OUTSTANDING CONTRACTUAL LIFE PRICE EXERCISABLE PRICE
- --------------- ------------ ---------------- --------- ----------- --------
$ 5.08 - 5.08 1 0.3 YEARS $ 5.08 1 $ 5.08
9.21 - 11.12 30 2.0 10.29 30 10.29
11.90 - 14.36 18 3.4 13.06 18 13.06
15.82 - 17.16 14 3.1 16.45 14 16.45
20.43 - 23.99 6,265 7.4 20.96 3,893 21.13
----- --- -------- ----- -------
Total 6,328 7.3 $ 20.88 3,956 $ 20.99
===== === ======== ===== =======
Restricted Stock
On July 22, 2004, Old National's Board of Directors approved a restricted stock
award to grant 0.2 million shares to certain key officers. The shares vest 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 December 31, 2004, 0.2 million shares were
issued at an estimated value of $6.7 million based on the stock price on that
date. The expense recognized during 2004 related to the vesting of these awards
was $1.0 million. The remaining $5.7 million of deferred compensation is
included as a component of capital surplus.
NOTE 14 - OUTSIDE DIRECTOR STOCK COMPENSATION PROGRAM
During 2003, Old National implemented a director stock compensation program
covering all outside directors. Compensation shares are earned semi-annually. A
maximum of 165,375 shares of common stock is available for issuance under this
program. As of December 31, 2004, Old National had issued 11,289 shares under
this program.
NOTE 15 - SHAREHOLDERS' EQUITY
STOCK DIVIDEND
A 5% stock dividend was declared on December 9, 2004, and distributed on January
26, 2005, to the shareholders of record on January 5, 2005. The 5% stock
dividend was issued from retained earnings and capital surplus. Old National
issued 2.9 million shares from retained earnings at market price and issued 0.4
million shares from capital surplus as a return of shareholder investment. All
share and per share amounts have been retroactively adjusted to reflect this
stock dividend.
DIVIDEND REINVESTMENT AND STOCK PURCHASE PLAN
Old National has a dividend reinvestment and stock purchase plan under which
common shares issued may be either repurchased shares or authorized and
previously unissued shares. As of December 31, 2004, 0.5 million authorized and
unissued common shares were reserved for issuance under the plan. A new plan
became effective on January 6, 2005, which increased the total authorized and
unissued common shares reserved for issuance to 3.5 million.
SHAREHOLDER RIGHTS PLAN
Old National has adopted a Shareholder Rights Plan whereby one right is
distributed for each outstanding share of Old National's common stock. The
rights become exercisable on the tenth day following a public announcement that
a person has acquired or intends to acquire beneficial ownership of 20% or more
of Old National's outstanding common stock. Upon exercising the rights, the
holder is entitled to buy 1/100 of a share of Junior Preferred Stock at $60,
subject to adjustment, for every right held. Upon the occurrence of certain
events, the rights may be redeemed by Old National at a price of $0.01 per
right.
In the event an acquiring party becomes the beneficial owner of 20% or more of
Old National's outstanding shares, rights holders (other than the acquiring
person) may purchase two shares of Old National common stock for the price of
one share at the then market price. If Old National is acquired and is not the
surviving corporation, or if Old National survives a merger but has all or part
of its common stock exchanged, each rights holder will be entitled to acquire
shares of the acquiring company with a value of two times the then exercise
price for each right held.
63
NOTE 16 - FAIR VALUE OF FINANCIAL INSTRUMENTS
The fair value of certain financial instruments, both assets and liabilities
recognized and not recognized in the consolidated balance sheet, are required to
be disclosed when it is practicable to estimate fair value. The following
methods and assumptions were used to estimate the fair value of each type of
financial instrument.
CASH, DUE FROM BANKS AND MONEY MARKET INVESTMENTS
For these instruments, the carrying amounts approximate fair values.
INVESTMENT SECURITIES
Fair values for investment securities, excluding Federal Home Loan Bank stock,
are based on quoted market prices, if available. For securities where quoted
prices are not available, fair values are estimated based on market prices of
similar securities. The carrying value of Federal Home Loan Bank stock
approximates fair value based on the redemption provisions of the Federal Home
Loan Bank.
RESIDENTIAL LOANS HELD FOR SALE
The fair value of residential loans held for sale is based on quoted market
prices. A portion of the residential loans held for sale have been hedged using
fair value hedge accounting in accordance with SFAS No. 133. The loans' carrying
bases reflects the effects of the SFAS No. 133 adjustments.
LOANS
The fair value of loans is estimated by discounting future cash flows using
current rates at which similar loans would be made to borrowers with similar
credit ratings and for the same remaining maturities.
MORTGAGE SERVICING RIGHTS
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.
DERIVATIVE FINANCIAL INSTRUMENTS
The fair values of derivative financial instruments are determined based on
dealer quotes and are recorded in "Other assets" or "Accrued expenses and other
liabilities".
DEPOSITS
The fair value of noninterest-bearing demand deposits and savings, NOW and money
market deposits is the amount payable as of the reporting date. The fair value
of fixed-maturity certificates of deposit is estimated using rates currently
offered for deposits with similar remaining maturities.
SHORT-TERM BORROWINGS
Federal funds purchased and securities sold under agreements to repurchase
generally have an original term to maturity of 30 days or less and, therefore,
their carrying amount is a reasonable estimate of fair value.
OTHER BORROWINGS
The fair values of other borrowings are estimated using rates currently
available to Old National for obligations with similar terms and remaining
maturities.
STANDBY LETTERS OF CREDIT
Fair values for standby letters of credit are based on fees currently charged to
enter into similar agreements. The fair value for standby letters of credit was
recorded in "Accrued expenses and other liabilities" on the consolidated balance
sheet in accordance with FIN 45.
OFF-BALANCE SHEET FINANCIAL INSTRUMENTS
Fair values for off-balance sheet credit-related financial instruments are based
on fees currently charged to enter into similar agreements, and for fixed-rate
commitments, also considered the difference between current levels of interest
rates and committed rates. For further information regarding the notional
amounts of these financial instruments, see Notes 18 and 19.
64
The estimated carrying and fair values of Old National's financial instruments
as of December 31 are as follows:
CARRYING FAIR
(dollars in thousands) VALUE VALUE
- ------------------------------------------------- ---------- ----------
2004
FINANCIAL ASSETS
Cash, due from banks and money market investments $ 216,998 $ 216,998
Investment securities available-for-sale 2,785,415 2,785,415
Investment securities held-to-maturity 177,794 176,166
Federal Home Loan Bank stock 49,542 49,542
Residential loans held for sale 22,484 22,572
Loans, net 4,879,093 4,860,823
Mortgage servicing rights 15,829 17,121
Derivative assets 9,322 9,322
FINANCIAL LIABILITIES
Deposits $6,414,263 $6,421,718
Short-term borrowings 347,353 347,353
Other borrowings 1,312,661 1,356,568
Derivative liabilities 18,399 18,399
Standby letters of credit 396 396
OFF-BALANCE SHEET FINANCIAL INSTRUMENTS
Commitments to extend credit $ - $ 1,748
Commercial letters of credit - 41
- ------------------------------------------------- ---------- ----------
2003
FINANCIAL ASSETS
Cash, due from banks and money market investments $ 236,889 $ 236,889
Investment securities available-for-sale 2,656,850 2,656,850
Investment securities held-to-maturity 210,905 209,316
Federal Home Loan Bank stock 49,490 49,490
Residential loans held for sale 16,338 16,435
Loans, net 5,474,882 5,469,966
Mortgage servicing rights 14,659 15,039
Derivative assets 15,244 15,244
FINANCIAL LIABILITIES
Deposits $6,493,092 $6,542,898
Short-term borrowings 414,588 414,588
Other borrowings 1,624,092 1,692,186
Derivative liabilities 13,024 13,024
Standby letters of credit 326 326
OFF-BALANCE SHEET FINANCIAL INSTRUMENTS
Commitments to extend credit $ - $ 2,590
Commercial letters of credit - 69
- ------------------------------------------------- ---------- ----------
65
NOTE 17 - DERIVATIVE FINANCIAL INSTRUMENTS
The following table summarizes the derivative financial instruments utilized by
Old National at December 31:
2004 2003
------------------------------------ ------------------------------------
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 $1,219,313 $7,312 $(14,545) $ 714,696 $12,878 $(11,784)
Pay fixed interest rate swaps 20,000 - (329) - - -
Forward mortgage loan contracts 4,663 - (7) 6,679 - (76)
CASH FLOW HEDGES
HELOC cash flow 100,000 - (373) 100,000 1,127 -
Pay fixed interest rate swaps - - - 30,000 - (12)
Anticipated floating rate debt 295,000 742 (1,939) - - -
STAND ALONE HEDGES
Interest rate lock commitments 28,073 201 - 26,152 280 -
Forward mortgage loan contracts 37,638 - (135) 30,153 - (190)
Options on contracts purchased 4,000 - (4) 3,000 - (3)
MATCHED CUSTOMER HEDGES
Customer interest rate swaps 69,449 641 (374) 43,756 618 (293)
Customer interest rate swaps
with counterparty 69,449 374 (641) 43,756 293 (618)
Customer interest rate cap 2,300 - (18) 13,000 - (48)
Customer interest rate cap
with counterparty 2,300 18 - 13,000 48 -
Customer foreign exchange
forward contract 329 34 - - - -
Customer foreign exchange
forward contract with
counterparty 329 - (34) - - -
---------- ------ -------- ---------- ------- --------
Total $1,852,843 $9,322 $(18,399) $1,024,192 $15,244 $(13,024)
========== ====== ======== ========== ======= ========
Old National has interest rate contracts that are an exchange of interest
payments with no effect on the principal amounts of the underlying hedged assets
or liabilities. For fair value hedges on liabilities, Old National pays the
counterparty a variable rate based on LIBOR and receives fixed rates ranging
from 2.69% to 9.50%. For fair value hedges on assets, Old National pays the
counterparty a fixed rate ranging from 3.88% to 4.38% and receives a variable
rate based on LIBOR. The contracts terminate on or prior to April 15, 2032.
Old National also has interest rate contracts classified as cash flow hedges.
For cash flow hedges on assets, Old National pays the counterparty a variable
rate based on prime and receives a fixed rate ranging from 5.57% to 6.15%.
During 2004, Old National also had cash flow hedges on various liabilities that
paid the counterparty a fixed rate ranging from 2.12% to 3.04% and received a
variable rate based on LIBOR. Old National also has interest rate contracts on
anticipated floating rate debt, in which payments begin on or after January 7,
2005, and terminate on or prior to June 1, 2009. The change in net unrealized
losses on cash flow hedges reflects a reclassification of $0.1 million of net
unrealized gains from accumulated other comprehensive income to net interest
income during 2004. During 2005, Old National expects approximately $0.1 million
of net unrealized losses will be reclassified.
Old National has various derivatives related to its mortgage-banking activities.
In accordance with SFAS No. 149, interest rate lock commitments issued on
residential mortgage loans with clients are considered stand alone derivatives
and are accounted for at fair value. Also, Old National uses forward mortgage
loan contract, primarily mortgage-backed whole loan cash forward sale
agreements, to hedge exposure to changes in interest rates related to its
mortgage loan pipeline and its residential loans held for sale warehouse, which
are recorded at fair value. Beginning in February 2003, Old National began
assigning a portion of its residential real estate loans held for sale warehouse
to qualifying forward mortgage loan contracts, which receives fair value
accounting treatment under FAS No. 133.
66
Old National enters into various derivative contracts with its clients, which
include interest rate swaps, caps and foreign exchange forward contracts. Old
National hedges the exposure of these derivatives by entering into an offsetting
third-party contract with reputable counterparties with matching terms, which
are offset through earnings. These derivative contracts are not linked to
specific assets and liabilities in the balance sheet or to a forecasted
transaction in an accounting hedge relationship and, therefore, do not qualify
for hedge accounting. Contracts are carried at fair value with changes recorded
as a component of other noninterest income. Old National does not assume any
interest rate risk associated with these contracts.
NOTE 18 - 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. Subsequent
to December 31, 2004, 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 December 31, 2004, Old National has 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 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. These cases were filed in Cook County, Illinois and
are currently on appeal to the Court of Appeals in 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.
LEASES
Old National rents certain premises and equipment under operating leases, which
expire at various dates. Many of these leases require the payment of property
taxes, insurance premiums, maintenance and other costs. In some cases, rentals
are subject to increase in relation to a cost-of-living index. Total rental
expense was $7.3 million in 2004, $6.8 million in 2003 and $5.7 million in 2002.
The following is a summary of future minimum lease commitments as of December
31, 2004:
(dollars in thousands)
- ---------------------- -------
2005 $ 4,692
2006 3,861
2007 3,533
2008 3,218
2009 3,063
Thereafter 10,409
- ---------------------- -------
Total $28,776
====================== =======
67
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 $1.239
billion, commercial letters of credit of $16.7 million and standby letters of
credit of $106.1 million at December 31, 2004. At December 31, 2003, loan
commitments were $1.577 billion, commercial letters of credit were $19.3 million
and standby letters of credit were $85.4 million. These commitments are not
reflected in the consolidated financial statements. At December 31, 2004 and
2003, the balance of the allowance for unfunded loan commitments was $9.9
million and $9.3 million, respectively.
At December 31, 2004 and 2003, Old National had credit extensions of $72.8
million and $70.2 million, respectively with various unaffiliated banks related
to letter of credit commitments issued on behalf of Old National's clients. At
December 31, 2004 and 2003, the unsecured portion was $31.9 million and $31.6
million respectively.
NOTE 19 - 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 December 31, 2004, the
notional amount of standby letters of credit was $106.1 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 17.
NOTE 20 - REGULATORY RESTRICTIONS
RESTRICTIONS ON CASH AND DUE FROM BANKS
Old National's affiliate bank is required to maintain reserve balances on hand
and with the Federal Reserve Bank which are noninterest bearing and unavailable
for investment purposes. The reserve balances at December 31 were $52.5 million
in 2004 and $58.5 million in 2003.
RESTRICTIONS ON TRANSFERS FROM AFFILIATE BANK
Regulations limit the amount of dividends an affiliate bank can declare in any
year without obtaining prior regulatory approval. Prior regulatory approval is
required if dividends to be declared in any year would exceed net earnings of
the current year plus retained net profits for the preceding two years. At
December 31, 2004, prior regulatory approval was not required for Old National's
affiliate bank.
CAPITAL ADEQUACY
Old National and its bank subsidiary are subject to various regulatory capital
requirements administered by the federal banking agencies. Failure to meet
minimum capital requirements can elicit certain mandatory actions by regulators
that, if undertaken, could have a direct material effect on Old National's
financial statements. Under capital adequacy guidelines and the regulatory
framework for prompt corrective action, Old National and its bank subsidiary
must meet specific capital guidelines that involve quantitative measures of
assets, liabilities and certain off-balance sheet items as calculated under
regulatory accounting practices. The capital amounts and classifications are
also subject to qualitative judgements by the regulators about components, risk
weightings and other factors. Prompt corrective action provisions are not
applicable to bank holding companies. Quantitative measures established by
regulation to ensure capital adequacy require Old National and its bank
subsidiary to maintain minimum amounts and ratios as set forth in the following
table.
At December 31, 2004, Old National and its bank subsidiary exceeded the
regulatory minimums and met the regulatory definition of well-capitalized. To be
categorized as well-capitalized, the bank subsidiary must maintain minimum total
risk-based, Tier 1 risked-based and Tier 1 leverage ratios.
68
The following table summarizes capital ratios for Old National and its bank
subsidiary as of December 31:
FOR CAPITAL FOR WELL
ACTUAL ADEQUACY PURPOSES CAPITALIZED PURPOSES
-------------------- -------------------- --------------------
(dollars in thousands) AMOUNT RATIO AMOUNT RATIO AMOUNT RATIO
- ------------------------- -------- -------- -------- -------- -------- --------
2004
Total capital to
risk-weighted assets
Old National Bancorp $904,589 14.90% $485,621 8.00% $ N/A N/A%
Old National Bank 868,203 14.58 476,532 8.00 595,665 10.00
Tier 1 capital to
risk-weighted assets
Old National Bancorp 678,466 11.18 242,811 4.00 N/A N/A
Old National Bank 643,485 10.80 238,266 4.00 357,399 6.00
Tier 1 capital to
average assets
Old National Bancorp 678,466 7.68 353,279 4.00 N/A N/A
Old National Bank 643,485 7.38 261,582 3.00 435,969 5.00
-------- ----- -------- ---- -------- -----
2003
Total capital to
risk-weighted assets
Old National Bancorp $905,941 14.65% $494,882 8.00% $ N/A N/A
Old National Bank 861,986 14.23 484,706 8.00 605,883 10.00
Tier 1 capital to
risk-weighted assets
Old National Bancorp 678,279 10.96 247,441 4.00 N/A N/A
Old National Bank 635,898 10.50 242,353 4.00 363,530 6.00
Tier 1 capital to
average assets
Old National Bancorp 678,279 7.35 369,195 4.00 N/A N/A
Old National Bank 635,898 6.97 273,526 3.00 455,876 5.00
-------- ----- -------- ---- -------- -----
69
NOTE 21 - PARENT COMPANY FINANCIAL STATEMENTS
The following are the condensed parent company only financial statements of Old
National Bancorp:
OLD NATIONAL BANCORP (PARENT COMPANY ONLY)
CONDENSED BALANCE SHEET
DECEMBER 31,
(dollars in thousands) 2004 2003
- ---------------------- ---- ----
ASSETS
Deposits in affiliate bank $ 263 $ 174
Deposits in banks - 8
Investments at fair value 1,181 1,181
Investment in affiliates:
Bank, including purchase accounting goodwill
of $5,102 in 2004 and 2003 732,883 731,978
Non-banks 104,515 112,411
Advances to affiliates 53,527 81,611
Other assets 87,408 84,418
---------- ----------
Total assets $ 979,777 $1,011,781
========== ==========
LIABILITIES AND SHAREHOLDERS' EQUITY
Other liabilities $ 14,195 $ 25,755
Other borrowings 262,374 270,536
Shareholders' equity 703,208 715,490
---------- ----------
Total liabilities and shareholders' equity $ 979,777 $1,011,781
========== ==========
OLD NATIONAL BANCORP (PARENT COMPANY ONLY)
CONDENSED STATEMENT OF INCOME
YEARS ENDED DECEMBER 31,
(dollars in thousands) 2004 2003 2002
- ---------------------- ---- ---- ----
INCOME
Dividends from affiliates $ 72,400 $ 56,000 $ 71,550
Other income 2,356 2,089 2,263
Other income from affiliates 41,437 24,306 22,311
--------- --------- ---------
Total income 116,193 82,395 96,124
--------- --------- ---------
EXPENSE
Interest on borrowings 8,024 8,141 9,726
Other expenses 48,959 34,557 19,709
--------- --------- ---------
Total expense 56,983 42,698 29,435
--------- --------- ---------
Income before income taxes and equity
in undistributed earnings of affiliates 59,210 39,697 66,689
Income tax benefit (6,296) (8,042) (3,417)
--------- --------- ---------
Income before equity in undistributed
earnings of affiliates 65,506 47,739 70,106
Equity in undistributed earnings of affiliates 2,065 22,674 47,826
--------- --------- ---------
Net income $ 67,571 $ 70,413 $ 117,932
========= ========= =========
70
OLD NATIONAL BANCORP (PARENT COMPANY ONLY)
CONDENSED STATEMENT OF CASH FLOWS
YEARS ENDED DECEMBER 31,
(dollars in thousands) 2004 2003 2002
- ---------------------- ---- ---- ----
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 67,571 $ 70,413 $ 117,932
--------- --------- ---------
Adjustments to reconcile net income to cash
provided by operating activities:
Depreciation 469 491 483
Amortization of unearned stock compensation 468 - -
Net gains on sales of premises and equipment (12) - -
Increase in other assets (8,838) (13,108) (26,891)
(Decrease) increase in other liabilities (11,346) 9,904 3,850
Equity in undistributed earnings of affiliates (2,065) (22,674) (47,826)
--------- --------- ---------
Total adjustments (21,324) (25,387) (70,384)
--------- --------- ---------
Net cash flows provided by operating activities 46,247 45,026 47,548
--------- --------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchases and adjustments to purchase prices of subsidiaries (857) (16,295) (31,863)
Purchases of investment securities available-for-sale - - 16,608
Net repayments from (advances to) affiliates 28,084 (3,804) (38,344)
Proceeds from sales of premises and equipment 107 - -
Purchases of premises and equipment (287) (412) (670)
--------- --------- ---------
Net cash flows provided by (used in) investing activities 27,047 (20,511) (54,269)
--------- --------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES
Payments for maturities on other borrowings (3,200) (45,000) (24,100)
Proceeds from issuance of other borrowings - 100,000 -
Proceeds from guaranteed preferred beneficial
interest in subordinated debentures - - 100,000
Cash dividends paid (50,275) (48,366) (43,926)
Common stock repurchased (32,664) (37,830) (31,552)
Common stock issued under stock option, restricted stock
and stock purchase plans 12,926 6,728 6,357
--------- --------- ---------
Net cash flows provided by (used in) financing activities (73,213) (24,468) 6,779
--------- --------- ---------
Net increase in cash and cash equivalents 81 47 58
Cash and cash equivalents at beginning of period 182 135 77
--------- --------- ---------
Cash and cash equivalents at end of period $ 263 $ 182 $ 135
========= ========= =========
NOTE 22 - SEGMENT INFORMATION
Old National operates in three reportable segments: community banking, non-bank
services 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.
The non-bank services segment combines the management and operations of wealth
management, investment consulting, insurance brokerage and investment and
annuity sales. 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
customers. The accounting policies of the segments are the same as those
described in Note 1.
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. The
"Other" column for 2003 includes noninterest expense of $10.0 million and
segment loss of $6.7 million after-tax related to litigation as discussed in
Note 18. The "Other" column for 2002 also includes noninterest income of $12.5
million and segment profit of $8.3 million after-tax related to the branch
divestitures as
71
discussed in Note 2. Intersegment sales and transfers are not significant. In
prior years, to provide a basis for employee incentives, revenues and expenses
related to the non-bank services segment were allocated to the community banking
segment and reflected in both the community banking segment and the non-bank
services segment. This practice was discontinued in 2004, and prior year numbers
have been restated to conform to the current year presentation. The impact of
this change on the 2003 disclosure was to decrease the community banking segment
profit by $8.7 million with corresponding increases to the non-bank services and
treasury segment profits of $0.1 million and $8.6 million, respectively. The
impact on the 2002 disclosure was to decrease the community banking and non-bank
services segment profits by $2.9 million and $1.2 million, respectively, with an
increase to the treasury segment profit of $4.1 million.
Old National uses a funds transfer pricing ("FTP") system to eliminate the
effect of interest rate risk from the community banking and non-bank services
segments net interest income. 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 years ended December 31:
COMMUNITY NON-BANK
(dollars in thousands) BANKING SERVICES TREASURY OTHER TOTAL
- ---------------------- ------- -------- -------- ----- -----
2004
Net interest income $ 275,042 $ 550 $ (10,017) $ (14,768) $ 250,807
Provision for loan losses 22,189 - 211 - 22,400
Noninterest income 75,036 92,649 10,071 4,407 182,163
Noninterest expense 254,202 88,996 3,090 (10,361) 335,927
Income tax expense (benefit) 17,103 1,321 (11,352) - 7,072
Segment profit 56,584 2,882 8,105 - 67,571
Total assets 5,219,840 120,369 3,428,172 129,923 8,898,304
----------- ----------- ----------- ----------- -----------
2003
Net interest income $ 280,157 $ 260 $ (12,282) $ 3,872 $ 272,007
Provision for loan losses 85,000 - - - 85,000
Noninterest income 83,068 75,055 30,647 3,379 192,149
Noninterest expense 213,082 68,442 941 17,251 299,716
Income tax expense (benefit) 15,100 2,245 (5,052) (3,266) 9,027
Segment profit (loss) 50,043 4,628 22,476 (6,734) 70,413
Total assets 5,809,635 137,927 3,286,544 129,126 9,363,232
----------- ----------- ----------- ----------- -----------
2002
Net interest income $ 293,677 $ 1,535 $ (7,259) $ 1,476 $ 289,429
Provision for loan losses 33,500 - - - 33,500
Noninterest income 73,598 43,329 20,705 16,865 154,497
Noninterest expense 206,802 43,022 2,152 5,869 257,845
Income tax expense (benefit) 36,637 620 (6,798) 4,190 34,649
Segment profit 90,336 1,222 18,092 8,282 117,932
Total assets 6,072,644 97,051 3,359,364 83,497 9,612,556
----------- ----------- ----------- ----------- -----------
72
NOTE 23 - SUBSEQUENT EVENT
Subsequent to December 31, 2004, Old National committed to a plan to sell
selected non-strategic assets. At that time, the disposal groups were
reclassified on the balance sheet as held for sale at fair value. Actions to
locate buyers and complete the sales have been initiated and are expected to be
complete during 2005. The carrying amounts of the major classes of assets and
liabilities of the disposal groups were as follows at December 31, 2004:
ASSETS
(dollars in thousands) (LIABILITIES)
- ---------------------- -------------
Money market investments $ 2,908
Available-for-sale securities 11
Premises and equipment, net 364
Goodwill 28,982
Other intangible assets 21,906
Other assets 6,853
Other liabilities (17,623)
--------
73
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable
ITEM 9A. 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-14(c) 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 annual report on Form 10-K, 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.
Refer to Item 8 for Management's Report on Internal Control over Financial
Reporting.
ITEM 9B. OTHER INFORMATION
Not Applicable.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
This information is omitted from this report pursuant to General Instruction
G.(3) of Form 10-K as Old National will file with the Commission its definitive
Proxy Statement pursuant to Regulation 14A of the Securities Exchange Act of
1934, as amended, not later than 120 days after December 31, 2004.
Old National has adopted a code of ethics that applies to Old National's
principal executive officer, principal financial officer and principal
accounting officer. The text of the code of ethics is available on Old
National's Internet website at www.oldnational.com or in print to any
shareholder who requests it.
74
ITEM 11. EXECUTIVE COMPENSATION
This information is omitted from this report pursuant to General Instruction
G.(3) of Form 10-K as Old National will file with the Commission its definitive
Proxy Statement pursuant to Regulation 14A of the Securities Exchange Act of
1934, as amended, not later than 120 days after December 31, 2004. The
applicable information appearing in our 2004 Proxy Statement is incorporated by
reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
This information is omitted from this report, with the exception of the equity
compensation plan information, pursuant to General Instruction G.(3) of Form
10-K as Old National will file with the Commission its definitive Proxy
Statement pursuant to Regulation 14A of the Securities Exchange Act of 1934, as
amended, not later than 120 days after December 31, 2004. The applicable
information appearing in the 2004 Proxy Statement is incorporated by reference.
EQUITY COMPENSATION PLAN INFORMATION
The following table contains information concerning the 1999 Equity Incentive
Plan approved by security holders in 1999 as of the fiscal year ended December
31, 2004.
NUMBER OF SECURITIES
NUMBER OF SECURITIES TO REMAINING AVAILABLE FOR
BE ISSUED UPON EXERCISE FUTURE ISSUANCE UNDER
OF OUTSTANDING OPTIONS WEIGHTED-AVERAGE EQUITY COMPENSATION PLAN
AND ISSUANCE OF EXERCISE PRICE OF (EXCLUDING SECURITIES
PLAN CATEGORY RESTRICTED STOCK OUTSTANDING OPTIONS REFLECTED IN COLUMN (A))
- ----------------------------- ----------------------- ------------------- ------------------------
Equity compensation plans
approved by security holders 6,536,141 $ 20.96 1,102,404
Equity compensation plans not
approved by security holders - - -
----------------------- ------------------- ------------------------
Total 6,536,141 $ 20.96 1,102,404
======================= =================== ========================
Old National has assumed a number of stock options through various mergers. The
number of stock options outstanding related to acquisitions at December 31,
2004, was 63,211 with a weighted-average exercise price of $12.42. The table
above includes 271,318 shares of restricted stock with no exercise price. All
shares outstanding and the exercise price have been adjusted for a 5% stock
dividend to shareholders of record on January 5, 2005, and distributed on
January 26, 2005.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
This information is omitted from this report pursuant to General Instruction
G.(3) of Form 10-K as Old National will file with the Commission its definitive
Proxy Statement pursuant to Regulation 14A of the Securities Exchange Act of
1934, as amended, not later than 120 days after December 31, 2004. The
applicable information appearing in the 2004 Proxy Statement is incorporated by
reference.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
This information is omitted from this report pursuant to General Instruction
G.(3) of Form 10-K as Old National will file with the Commission its definitive
Proxy Statement pursuant to Regulation 14A of the Securities Exchange Act of
1934, as amended, not later than 120 days after December 31, 2004. The
applicable information appearing in the 2004 Proxy Statement is incorporated by
reference.
75
PART IV
ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
1. Financial Statements:
The following consolidated financial statements of the registrant and its
subsidiaries are filed as part of this document under "Item 8. Financial
Statements and Supplementary Data."
Report of Independent Accountants
Consolidated Balance Sheet--December 31, 2004 and 2003
Consolidated Statement of Income--Years Ended December 31, 2004, 2003
and 2002
Consolidated Statement of Changes in Shareholders' Equity--Years Ended
December 31, 2004, 2003 and 2002
Consolidated Statement of Cash Flows--Years Ended December 31, 2004, 2003
and 2002
Notes to Consolidated Financial Statements
2. Financial Statement Schedules
The schedules for Old National and its subsidiaries are omitted because of
the absence of conditions under which they are required, or because the
information is set forth in the consolidated financial statements or the
notes thereto.
3. 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).
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).*
76
(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) 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).*
(j) Form of Severance Agreement for Michael R. Hinton and Daryl D.
Moore, 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).*
(k) 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).*
(l) Severance Agreement, between Old National and James Risinger
(incorporated by reference to Exhibit 10(c) 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 Michael R. Hinton, Daryl D.
Moore and Robert G. Jones, 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).*
77
(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 "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 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).*
(s) 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).
(t) 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).
(u) 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).
21 Subsidiaries of Old National Bancorp
23 Consent of PricewaterhouseCoopers LLP
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
With the exception of the information herein expressly incorporated by
reference, the 2004 Proxy Statement is not to be deemed filed as part of
this annual report on Form 10-K.
78
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, Old National has duly caused this report to be signed on its behalf
by the undersigned, thereunto duly authorized.
OLD NATIONAL BANCORP
By: /s/ Robert G. Jones Date: March 16, 2005
------------------------
Robert G. Jones,
President and Chief Executive Officer
(Principal Executive Officer)
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below on March 16, 2005, by the following persons on behalf of
Old National and in the capacities indicated.
By: /s/ Joseph D. Barnette, Jr. By: /s/ Robert G. Jones
-------------------------------- ----------------------------------
Joseph D. Barnette, Jr., Director Robert G. Jones,
President and Chief Executive
By: /s/ Alan W. Braun Officer (Principal Executive
----------------------------- Officer)
Alan W. Braun, Director
By: /s/ Marjorie Z. Soyugenc
By: /s/ Larry E. Dunigan ---------------------------------
------------------------------ Marjorie Z. Soyugenc, Director
Larry E. Dunigan,
Chairman of the Board of Directors By: /s/ Kelly N. Stanley
----------------------------------
By: /s/ David E. Eckerle Kelly N. Stanley, Director
----------------------------
David E. Eckerle, Director By: /s/ Charles D. Storms
---------------------------------
By: /s/ Niel C. Ellerbrook Charles D. Storms, Director
---------------------------
Niel C. Ellerbrook, Director By: /s/ Christopher A. Wolking
---------------------------------
By: /s/ Douglas D. French Christopher A. Wolking
--------------------------- Executive Vice President and Chief
Douglas D. French, Director Financial Officer (Principal
Financial Officer)
By: /s/ Andrew E. Goebel By: /s/ Candice J. Jenkins
--------------------------- ---------------------------------
Andrew E. Goebel, Director Candice J. Jenkins
Vice President and Corporate
By: /s/ Phelps L. Lambert Controller (Principal Accounting
--------------------------- Officer)
Phelps L. Lambert, Director
79