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Form 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2003
OR
[ ] TRANSACTION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
---------------- -----------------------------
Commission file number 0-13507
RURBAN FINANCIAL CORP.
- --------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
Ohio 34-1395608
- -------------------------------- -----------------------------------------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
401 Clinton Street, Defiance, Ohio 43512
----------------------------------------
(Address of principal executive offices)
(Zip Code)
(419) 783-8950
----------------------------------------------------
(Registrant's telephone number, including area code)
None
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(Former name, former address and former fiscal year, if changed since last
report.)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by sections 13 or 15(d) of the Securities Exchange Act of 1934
during the proceeding 12 months (or for such shorter period the registrant was
required to file such reports) and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
--------------------- ----------------------
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act)
Yes No X
--------------------- ----------------------
The number of common shares of Rurban Financial Corp. outstanding was
4,565,721 on August 1, 2003.
1
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
The interim condensed consolidated financial statements of Rurban Financial
Corp. and Subsidiaries are unaudited; however, the information contained herein
reflects all adjustments which are, in the opinion of management, necessary for
a fair presentation of financial condition and results of operations for the
interim periods presented. All adjustments reflected in these financial
statements are of a normal recurring nature in accordance with Rule 10-01(b)(8)
of Regulation S-X. Results of operations for the three months ended June 30,
2003 are not necessarily indicative of results for the complete year.
2
RURBAN FINANCIAL CORP.
CONDENSED CONSOLIDATED BALANCE SHEETS
JUNE 30, 2003 AND DECEMBER 31, 2002
ASSETS
(UNAUDITED) (UNAUDITED)
----------- -----------
JUNE 30, DECEMBER 31, JUNE 30,
2003 2002 2002
---- ---- ----
Cash and due from banks $ 28,290,819 $ 37,018,337 $ 21,902,810
Federal funds sold 45,300,000 14,000,000 5,950,000
------------ ------------- ------------
Cash and cash equivalents 73,590,819 51,018,337 27,852,810
Interest-bearing deposits 660,000 260,000 270,000
Available-for-sale securities 77,686,612 115,108,762 94,640,037
Loans held for sale -- 63,536,309 1,780,835
Loans, net of allowance for loan losses of $12,299,309 at June 30,
2003; $17,693,841 at December 31, 2002; and $19,016,725 at June 30,
2002 313,029,132 469,780,785 624,295,651
Premises and equipment 11,749,767 14,695,613 13,215,071
Federal Reserve and Federal Home Loan Bank stock 3,728,900 3,665,900 3,574,000
Foreclosed assets held for sale, net 1,198,070 1,960,276 274,469
Interest receivable 2,169,656 3,966,721 4,891,489
Deferred income taxes 5,397,313 5,495,812 1,965,003
Goodwill 2,144,303 2,323,643 2,475,573
Core deposits and other intangibles 706,742 770,777 654,325
Other 655,343 9,733,744 12,391,461
------------ ------------- ------------
Total assets $492,716,657 $742,316,679 $788,280,724
============ ============ ============
See notes to condensed consolidated financial statements (unaudited)
3
LIABILITIES AND STOCKHOLDERS' EQUITY
(UNAUDITED) (UNAUDITED)
----------- -----------
JUNE 30, DECEMBER 31, JUNE 30,
2003 2002 2002
---- ---- ----
LIABILITIES
Deposits
Demand $ 45,991,520 $ 46,114,153 $ 52,876,568
Savings, NOW and money market 107,058,255 117,738,013 185,187,858
Time 211,632,260 404,007,515 408,266,011
------------- ------------- -------------
Total deposits 364,682,035 567,859,681 646,330,437
Deposits held for sale -- 68,175,660 --
Note payable 14,461,049 6,000,000 --
Federal Home Loan Bank advances 39,500,000 47,850,000 57,350,000
Trust preferred securities 10,000,000 10,000,000 10,000,000
Other borrowed funds -- -- 7,000,000
Interest payable 2,241,987 2,971,448 2,997,021
Accounts payable - FDIC -- -- 19,706,024
Other liabilities 13,674,495 3,077,558 2,090,060
------------- ------------- -------------
Total liabilities 444,559,566 705,934,347 745,473,542
------------- ------------- -------------
COMMITMENTS AND CONTINGENT LIABILITIES
STOCKHOLDERS' EQUITY
Common stock, $2.50 stated value; authorized 10,000,000 shares; issued
4,575,702; outstanding June 30, 2003 - 4,565,721, December 31,
2002 - 4,565,721 and June 30, 2002 - 4,565,721 shares 11,439,255 11,439,255 11,439,255
Additional paid-in capital 11,009,733 11,009,733 11,009,733
Retained earnings 25,683,244 13,904,212 19,888,360
Unearned employee stock ownership plan (ESOP) shares (281,447) (320,765) (410,325)
Accumulated other comprehensive income 621,320 664,911 1,195,173
Treasury stock, at cost
Common; June 30, 2003 - 9,981, December 31, 2002 - 9,981 and June
30, 2002 - 9,981 shares (315,014) (315,014) (315,014)
------------- ------------- -------------
Total stockholders' equity 48,157,091 36,382,332 42,807,182
------------- ------------- -------------
Total liabilities and stockholders' equity $ 492,716,657 $ 742,316,679 $ 788,280,724
============= ============= =============
See notes to condensed consolidated financial statements (unaudited)
Note: The balance sheet at December 31, 2002 has been derived from the
audited consolidated financial statements at that date.
4
RURBAN FINANCIAL CORP.
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
THREE MONTHS ENDED
JUNE 30, JUNE 30,
2003 2002
---- ----
INTEREST INCOME
Loans $ 6,362,205 $ 11,303,047
Securities
Taxable 638,845 1,256,627
Tax-exempt 44,391 59,375
Other 179,205 25,181
------------ ------------
Total interest income 7,224,646 12,644,230
INTEREST EXPENSE
Deposits 2,886,822 5,124,762
Other borrowings 150,247 188,904
Federal Home Loan Bank advances 599,801 743,647
Junior subordinated debentures 267,944 267,944
------------ ------------
Total interest expense 3,904,814 6,325,257
------------ ------------
NET INTEREST INCOME 3,319,832 6,318,973
PROVISION FOR LOAN LOSSES 300,000 11,852,000
------------ ------------
NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES 3,019,832 (5,533,027)
------------ ------------
NONINTEREST INCOME
Data service fees 2,186,261 1,829,902
Trust fees 596,432 656,884
Customer service fees 559,037 672,747
Net gains on loan sales 150,998 54,118
Net realized gains (losses) on sales of available-for-sale
securities (2,901) (1,737,232)
Loan servicing fees 111,484 94,571
Gain (loss) on sale of assets 11,914,699 (3,393)
Other 155,384 147,338
------------ ------------
Total noninterest income 15,671,394 1,714,935
------------ ------------
See notes to condensed consolidated financial statements (unaudited)
5
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (CONTINUED)
JUNE 30, JUNE 30,
2003 2002
---- ----
NONINTEREST EXPENSE
Salaries and employee benefits $ 3,710,122 $ 3,894,342
Net occupancy expense 303,215 334,893
Equipment expense 1,057,472 966,455
Data processing fees 129,392 154,582
Professional fees 2,034,581 812,251
Marketing expense 92,677 126,263
Printing and office supplies 133,323 231,343
Telephone and communications 186,846 211,568
Postage and delivery expense 140,876 145,155
State, local and other taxes 169,032 194,848
Other 895,838 694,169
------------ ------------
Total noninterest expense 8,853,374 7,765,869
------------ ------------
INCOME BEFORE INCOME TAX 9,837,852 (11,583,961)
PROVISION FOR INCOME TAXES 3,358,451 (3,953,676)
------------ ------------
NET INCOME $ 6,479,401 $ (7,630,285)
============ ============
BASIC EARNINGS PER SHARE $ 1.42 $ (1.68)
============ ============
DILUTED EARNINGS PER SHARE $ 1.42 $ (1.68)
============ ============
See notes to condensed consolidated financial statements (unaudited)
6
RURBAN FINANCIAL CORP.
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
SIX MONTHS ENDED
JUNE 30, JUNE 30,
2003 2002
---- ----
INTEREST INCOME
Loans $ 15,152,228 $ 22,587,172
Securities
Taxable 1,450,322 2,550,886
Tax-exempt 84,316 113,664
Other 280,229 145,211
------------ ------------
Total interest income 16,967,095 25,396,933
------------ ------------
INTEREST EXPENSE
Deposits 6,726,621 10,579,230
Other borrowings 244,012 308,308
Federal Home Loan Bank advances 1,253,302 1,462,407
Junior subordinated debentures 532,944 532,944
------------ ------------
Total interest expense 8,756,879 12,882,889
------------ ------------
NET INTEREST INCOME 8,210,216 12,514,044
PROVISION FOR LOAN LOSSES 1,494,000 13,984,000
------------ ------------
NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES 6,716,216 (1,469,956)
------------ ------------
NONINTEREST INCOME
Data service fees 4,409,445 3,568,766
Trust fees 1,267,933 1,369,766
Customer service fees 1,195,292 1,281,010
Net gains on loan sales 302,410 183,806
Net realized gains (losses) on sales of available-for-sale
securities 23,632 (1,817,938)
Loan servicing fees 228,938 200,185
Gain (loss) on sale of assets 19,950,611 (1,766)
Other 288,538 329,492
------------ ------------
Total noninterest income 27,666,799 5,113,321
------------ ------------
See notes to condensed consolidated financial statements (unaudited)
7
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (CONTINUED)
JUNE 30, JUNE 30,
2003 2002
---- ----
NONINTEREST EXPENSE
Salaries and employee benefits $ 7,525,035 $ 7,762,032
Net occupancy expense 699,569 641,824
Equipment expense 2,116,626 1,848,986
Data processing fees 219,079 286,189
Professional fees 2,809,242 1,454,654
Marketing expense 193,531 235,080
Printing and office supplies 298,459 418,796
Telephone and communications 384,357 391,680
Postage and delivery expense 331,950 299,228
State, local and other taxes 327,430 355,183
Other 1,617,582 1,262,559
------------ ------------
Total noninterest expense 16,522,860 14,956,211
------------ ------------
INCOME BEFORE INCOME TAX 17,860,155 (11,312,846)
PROVISION FOR INCOME TAXES 6,081,123 (3,889,110)
------------ ------------
NET INCOME $ 11,779,032 $ (7,423,736)
============ ============
BASIC EARNINGS PER SHARE $ 2.59 $ (1.64)
============ ============
DILUTED EARNINGS PER SHARE $ 2.59 $ (1.64)
============ ============
See notes to condensed consolidated financial statements (unaudited)
8
RURBAN FINANCIAL CORP.
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS'
EQUITY (UNAUDITED)
Three Months Three Months Six Months Six Months
Ended Ended Ended Ended
June 30, 2003 June 30, 2002 June 30, 2003 June 30, 2002
Total Total Total Total
Shareholders' Shareholders' Shareholders' Shareholders'
Equity Equity Equity Equity
------ ------ ------ ------
Balance at beginning of period $ 41,651,508 $ 50,146,123 $ 36,382,332 $ 50,829,332
Net Income (loss) 6,479,401 (7,630,285) 11,779,032 (7,423,736)
Other comprehensive income (loss):
Net change in unrealized gains (losses)
on securities available for sale, net 26,182 820,931 (43,591) 473,322
------------ ------------ ------------ ------------
Total comprehensive income (loss) 6,505,583 (6,809,354) 11,735,441 (6,950,414)
Cash dividends declared -- (593,544) -- (1,186,930)
Proceeds from sale of treasury stock 13,373 13,373
Paydown of ESOP loan -- 50,584 39,318 101,821
------------ ------------ ------------ ------------
Balance at end of period $ 48,157,091 $ 42,807,182 $ 48,157,091 $ 42,807,182
============ ============ ============ ============
9
RURBAN FINANCIAL CORP.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
SIX MONTHS ENDED
JUNE 30, JUNE 30,
2003 2002
---- ----
OPERATING ACTIVITIES
Net income $ 11,779,032 $ (7,423,736)
Adjustments to reconcile net income to net cash provided by
operating activities
Depreciation and amortization 1,188,049 1,031,781
Provision for loan losses 1,494,000 13,984,000
ESOP shares earned 39,318 101,821
Amortization of premiums and discounts on securities 399,455 124,778
Amortization of intangible assets 243,375 102,806
Deferred income taxes 98,499 --
Proceeds from sale of loans held for sale 26,676,168 4,952,565
Originations of loans held for sale (26,373,758) (6,109,603)
Gain on sale of branch (19,995,365) --
Gain from sale of loans (302,410) (183,806)
Loss on sales of fixed assets 39,834 2,318
Net realized (gains) losses on available-for-sale
securities (23,632) 1,693,160
Changes in
Interest receivable 1,797,065 749,509
Other assets 8,884,683 (6,461,749)
Interest payable and other liabilities 9,881,593 (195,247)
------------ ------------
Net cash provided by operating activities 15,825,906 2,368,597
------------ ------------
INVESTING ACTIVITIES
Net change in interest-bearing deposits (400,000) (10,000)
Purchases of available-for-sale securities (80,243,474) (35,322,699)
Proceeds from maturities of available-for-sale securities 99,611,502 25,719,522
Proceeds from the sales of available-for-sale securities 17,634,708 32,935,249
Net change in loans 80,344,385 (16,421,158)
Purchase of premises and equipment (891,447) (2,500,866)
Purchase of Federal Home Loan Federal Reserve Bank stock (63,000) --
Sale of foreclosed assets 762,206 --
Payment of assumption of liability from sale of branch (70,452,850) --
Proceeds from assumption of net liabilities in business
acquisition -- 58,594,150
------------ ------------
Net cash provided by investing activities 46,302,030 62,994,198
------------ ------------
10
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
JUNE 30, JUNE 30,
2003 2002
---- ----
FINANCING ACTIVITIES
Net increase (decrease) in demand deposits, money market, NOW
and savings accounts $ 44,799,310 $(27,840,062)
Net decrease in certificates of deposit (84,465,813) (28,469,953)
Net decrease in federal funds purchased -- (14,850,000)
Repayment of Federal Home Loan Bank advances (8,350,000) (1,925,069)
Proceeds of Federal Home Loan Bank advances -- 5,000,000
Proceeds of note payable 8,461,049 7,000,000
Dividends paid -- (1,780,317)
Proceeds from sale of 1,208 shares of treasury stock -- 13,373
Net cash used in financing activities (39,555,454) (62,852,028)
------------ ------------
INCREASE IN CASH AND CASH EQUIVALENTS 22,572,482 2,510,767
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 51,018,337 25,342,043
------------ ------------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 73,590,819 $ 27,852,810
============ ============
SUPPLEMENTAL CASH FLOWS INFORMATION
Interest paid $ 9,486,340 $ 13,516,491
Income taxes paid (net of refunds) (3,468,512) --
See notes to condensed consolidated financial statements (unaudited)
11
RURBAN FINANCIAL CORP. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
NOTE A -- BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial information and with the instructions for Form 10-Q. Accordingly, they
do not include all of the information and footnotes required by generally
accepted accounting principles for complete financial statements. The financial
statements reflect all adjustments that are in the opinion of management,
necessary to fairly present the financial position, results of operations and
cash flows of the Company. Those adjustments consist only of normal recurring
adjustments.
The condensed consolidated balance sheet of the Company as of December 31, 2002
has been derived from the audited consolidated balance sheet of the Company as
of that date.
For further information, refer to the consolidated financial statements and
footnotes included in the Company's Annual Report on Form 10-k for the year
ended December 31, 2002.
NOTE B -- EARNINGS PER SHARE
Earnings per share have been computed based on the weighted average number of
shares outstanding during the periods presented. For the periods ended June 30,
2003 and 2002, stock options totaling 199,855 and 287,964 shares of common stock
were not considered in computing EPS as they were anti-dilutive. The number of
shares used in the computation of basic and diluted earnings per share was:
Three Months Ended Six Months Ended
June 30, June 30,
-------- --------
2003 2002 2003 2002
---- ---- ---- ----
Basic earnings per share 4,549,413 4,539,853 4,545,162 4,539,078
Diluted earnings per share 4,549,413 4,539,853 4,545,162 4,539,078
12
NOTE C - LOANS, RISK ELEMENTS AND ALLOWANCE FOR LOAN LOSSES
Total loans on the balance sheet are comprised of the following classifications
at:
June 30, December 31, June 30,
2003 2002 2002
---- ---- ----
Commercial $ 103,665,092 $ 123,053,492 $ 187,561,404
Commercial real estate 76,618,213 129,718,943 147,686,218
Agricultural 40,476,501 68,953,865 78,498,243
Residential real estate 48,056,313 84,431,599 122,666,786
Consumer 40,926,628 60,138,463 79,814,670
Lease financing 15,833,436 21,509,394 27,443,762
------------- ------------- -------------
Total loans 325,576,183 487,805,756 643,671,083
Less
Net deferred loan fees, premiums and discounts (247,742) (331,130) (358,707)
Allowance for loan losses (12,299,309) (17,693,841) (19,016,725)
------------- ------------- -------------
Net loans $ 313,029,132 $ 469,780,785 $ 624,295,651
============= ============= =============
The following is a summary of the activity in the allowance for loan losses
account for the six months ended June 30, 2003 and 2002 and the year ended
December 31, 2002.
June 30, December 31, June 30,
2003 2002 2002
---- ---- ----
Balance, beginning of year $ 17,693,841 $ 9,238,936 $ 9,238,936
Amounts assumed in acquisition -- 1,427,000 1,427,000
Sales of Citizens Banking Co. (232,000) -- --
Provision charged to expense 1,494,000 27,530,583 13,984,000
Recoveries 1,515,076 1,270,773 495,024
Loans charged off (8,171,608) (21,773,451) (6,128,235)
------------ ------------ ------------
Balance, end of year $ 12,299,309 $ 17,693,841 $ 19,016,725
============ ============ ============
13
The following schedule summarizes nonaccrual, past due and impaired loans at:
June 30, December 31, June 30,
2003 2002 2002
---- ---- ----
Loans accounted for on a nonaccrual basis $20,326,000 $18,259,000 $20,453,000
Accruing loans which are contractually
past due 90 days or more as to interest or
principal payments 23,000 476,000 1,005,000
----------- ----------- -----------
Total non-performing loans $20,349,000 $18,735,000 $21,458,000
=========== =========== ===========
Individual loans determined to be impaired were as follows:
June 30, December 31, June 30,
2003 2002 2002
---- ---- ----
Loans with no allowance for loan losses allocated $ 917,000 $ 1,186,000 $ 3,808,000
Loans with allowance for loan losses allocated 18,057,000 13,736,000 13,867,000
----------- ----------- -----------
Total impaired loans $18,974,000 $14,922,000 $17,675,000
=========== =========== ===========
Amount of allowance allocated $ 5,340,000 $ 5,067,000 $ 7,060,000
=========== =========== ===========
14
NOTE D - TRUST PREFERRED SECURITIES
On September 7, 2000, Rurban Statutory Trust 1 ("RST"), a wholly owned
subsidiary of the Company closed a pooled private offering of 10,000 Capital
Securities with a liquidation amount of $1,000 per security. The proceeds of the
offering were loaned to the Company in exchange for junior subordinated
debentures with terms similar to the Capital Securities. The sole assets of RST
are the junior subordinated debentures of the Company and payments thereunder.
The junior subordinated debentures and the back-up obligations, in the
aggregate, constitute a full and unconditional guarantee by the Company of the
obligations of RST under the Capital Securities. Distributions on the Capital
Securities are payable semi-annually at the annual rate of 10.6% and are
included in interest expense in the consolidated financial statements. These
securities are considered Tier 1 capital (with certain limitations applicable)
under current regulatory guidelines. As of June 30, 2003, March 31, 2003,
December 31, 2002 and June 30, 2002, the outstanding principal balance of the
Capital Securities was $10,000,000.
The junior subordinated debentures are subject to mandatory redemption, in whole
or in part, upon repayment of the Capital Securities at maturity or their
earlier redemption at the liquidation amount. Subject to the Company having
received prior approval of the Federal Reserve, if then required, the Capital
Securities are redeemable prior to the maturity date of September 7, 2030, at
the option of the Company; on or after September 7, 2010 at a premium, or on or
after September 7, 2020 at par; or upon occurrence of specific events defined
within the trust indenture. The Company has the option to defer distributions on
the Capital Securities from time to time for a period not to exceed 10
consecutive semi-annual periods.
On February 12, 2003, the Trustee was notified that the Company elected to defer
the semi-annual distributions which would have been due on March 7, 2003, until
September 7, 2003.
On July 9, 2003, the Trustee was notified that the Company elected to defer the
semi-annual distributions which would have been due on September 7, 2003, until
March 7, 2004.
NOTE E - NOTE PAYABLE
The Company had a note payable to The Northern Trust Company of $5,499,999,
secured by stock in the Company's subsidiaries, payable in equal monthly
principal installments of $166,667 together with interest at a variable rate.
Final payment was made on June 6, 2003.
RFC Banking Company has a note payable to The Union Bank Company of $9,000,000,
secured by the stock of RFC Banking Company and RDSI, payable in equal quarterly
principal installments of $300,000 together with interest at a variable rate.
The Company also has a line of credit with The Union Bank Company for
$2,000,000. The line of credit was undrawn as of June 30, 2003.
RFC Banking Company has a note payable to First Federal Bank of the Midwest of
$4,363,168, secured by specific loans of RFCBC, payable in equal monthly
installments of $100,000 together with interest at a variable rate.
RDSI had a note payable to RFC Banking Company in the amount of $1,098,000. This
note was acquired by First Federal Bank of the Midwest upon their acquisition of
the branches sold during the second quarter.
15
NOTE F - REGULATORY MATTERS
The Company and the subsidiary banks are subject to various regulatory capital
requirements administered by the federal and state banking agencies. Failure to
meet minimum capital requirements can initiate certain mandatory and possibly
additional discretionary actions by regulators, if undertaken, and could have a
direct material effect on the Company's financial statements. Under capital
adequacy guidelines and the regulatory framework for prompt corrective action,
the Company and the subsidiary banks 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 classification are also subject to qualitative judgments by
the regulators about components, risk weightings and other factors.
Quantitative measures established by regulation to ensure capital adequacy
require the Company and the subsidiary banks to maintain minimum amounts and
ratios (set forth in the table below) of total and Tier I capital (as defined in
the regulations) to risk-weighted assets (as defined), and of Tier I capital (as
defined) to average assets (as defined). Management believes, as of June 30,
2003, the Company and the subsidiary banks meet all "well-capitalized"
requirements to which they are subject.
16
The Company and significant subsidiary banks' actual capital amounts (in
millions) and ratios are also presented in the following table.
TO BE WELL CAPITALIZED
FOR CAPITAL UNDER PROMPT
ADEQUACY CORRECTIVE
ACTUAL PURPOSES ACTION PROVISIONS
------------------- -------------------- --------------------
AMOUNT RATIO AMOUNT RATIO AMOUNT RATIO
------ ----- ------ ----- ------ -----
As of June 30, 2003
Total Capital
(to Risk-Weighted Assets)
Consolidated $59.0 17.3% $27.4 8.0% $ -- N/A
State Bank 35.8 11.6 24.6 8.0 30.8 10.0
RFCBC 19.0 55.8 2.7 8.0 3.4 10.0
Tier I Capital
(to Risk-Weighted Assets)
Consolidated 54.7 16.0 13.7 4.0 -- N/A
State Bank 31.9 10.4 12.3 4.0 18.5 6.0
RFCBC 18.5 54.4 1.4 4.0 2.0 6.0
Tier I Capital
(to Average Assets)
Consolidated 54.7 9.7 22.7 4.0 -- N/A
State Bank 31.9 7.4 17.2 4.0 25.7 5.0
RFCBC 18.5 11.3 6.6 4.0 9.9 5.0
As of December 31, 2002
Total Capital
(to Risk-Weighted Assets)
Consolidated $49.4 9.2% $43.0 8.0% $ -- N/A
State Bank 36.2 10.2 28.5 8.0 35.6 10.0
RFCBC 14.8 8.1 14.6 8.0 18.2 10.0
Tier I Capital
(to Risk-Weighted Assets)
Consolidated 42.6 7.9 21.5 4.0 -- N/A
State Bank 31.7 8.9 14.3 4.0 21.4 6.0
RFCBC 12.4 6.8 7.3 4.0 10.9 6.0
Tier I Capital
(to Average Assets)
Consolidated 42.6 5.4 31.7 4.0 -- N/A
State Bank 31.7 6.7 19.1 4.0 23.8 5.0
RFCBC 12.4 4.2 11.7 4.0 14.6 5.0
17
NOTE G - CONTINGENT LIABILITIES
There are various contingent liabilities that are not reflected in the
consolidated financial statements, including claims and legal actions arising in
the ordinary course of business. In the opinion of management, after
consultation with legal counsel, the ultimate disposition of these matters is
not expected to have a material effect on the Company's consolidated financial
condition or results of operations.
NOTE H - NEW ACCOUNTING PRONOUNCEMENTS
On November 25, 2002, the Financial Accounting Standards Board (FASB) issued
Interpretation No. 45, Guarantor's Accounting and Disclosure Requirements for
Guarantees, Including Indirect Guarantees of Indebtedness of Others (FIN No. 45)
which expands on the accounting guidance of Statements No. 5, 57 and 107 and
incorporates without change the provisions of FASB Interpretation No. 34, which
is being superseded.
FIN No. 45, which is applicable to public and non-public entities, will
significantly change current practice in the accounting for, and disclosure of,
guarantees. Each guarantee meeting the characteristics described in FIN No. 45
is to be recognized and initially measured at fair value, which will be a change
from current practice for most entities. In addition, guarantors will be
required to make significant new disclosures, even if the likelihood of the
guarantor making payments under the guarantee is remote, which represents
another change from current general practice.
FIN No. 45's disclosure requirements are effective for financial statements of
interim or annual periods ending after December 15, 2002, while the initial
recognition and initial measurement provisions are applicable on a prospective
basis to guarantees issued or modified after December 31, 2002. The Company has
changed its method of accounting and financial reporting for standby letters of
credit by adopting the provisions of FIN No. 45 effective January 1, 2003. There
was no material impact of the adoption on the financial statements.
NOTE I - BRANCH SALES
On February 22, 2003, an agreement was signed to sell the branches, deposits and
certain performing loans of the Peoples Banking Company and First Bank of Ottawa
divisions of RFCBC to First Federal Bank of the Midwest. The sale was closed
June 6, 2003. As of June 6, 2003, these branches had total loans of
approximately $76.6 million, total fixed assets (net of accumulated
depreciation) of approximately $1.4 million and total deposits (including
accrued interest) of approximately $166.2 million. A pre-tax gain of
approximately $13.0 million was recorded in June 2003 from the sale. The pre-tax
gain was offset by a $716,000 FHLB prepayment penalty associated with $6.0
million of FHLB Advances and the write-off of $327,000 of leasehold
improvements.
On March 28, 2003, the Citizens Savings Bank, a division of RFCBC, was sold to
The Union Bank Company. As of March 28, 2003, Citizens had total loans of $57.2
million, total fixed assets (net of accumulated depreciation) of $869,000 and
total deposits of $70.8 million. A pre-tax gain of approximately $8.0 million
was recorded in March 2003 from the sale.
The Company does not maintain a separate statement of operations for each
division.
18
NOTE J - STOCK OPTIONS
The Company accounts for its stock option plan under the recognition and
measurement principles of APB Opinion No. 25, Accounting for Stock Issued to
Employees, and related Interpretations. No stock-based employee compensation
cost is reflected in net income, as all options granted under those plans had an
exercise price equal to the market value of the underlying common stock on the
grant date. The following table illustrates the effect on net income and
earnings per share if the Company had applied the fair value provisions of FASB
Statement No. 123, Accounting for Stock-Based Compensation, to stock-based
employee compensation.
Three Months Ended Six Months Ended
June 30, June 30,
------------------------------- -------------------------------
2003 2002 2003 2002
---------- ----------- ----------- -----------
Net income (loss), as reported $6,479,401 $(7,630,285) $11,779,032 $(7,423,736)
---------- ----------- ----------- -----------
Less: Total stock-based employee compensation
cost determined under
the fair value based method, net of
income taxes (15,777) (19,746) (31,554) (39,492)
---------- ----------- ----------- -----------
Pro forma net income $6,463,624 $(7,650,031) $11,747,478 $(7,463,228)
========== =========== =========== ===========
Earnings per share:
Basic - as reported $1.42 $(1.68) $2.59 $(1.64)
Basic - pro forma $1.42 $(1.68) $2.58 $(1.65)
Diluted - as reported $1.42 $(1.68) $2.59 $(1.64)
Diluted - pro forma $1.42 $(1.68) $2.58 $(1.65)
NOTE K - COMMITMENTS AND CREDIT RISK
Loan commitments and unused lines of credit totaled $50,201,000 and standby
letters of credit totaled $426,000 as of June 30, 2003.
NOTE L - SEGMENT INFORMATION
The reportable segments are determined by the products and services offered,
primarily distinguished between banking and data processing operations. Other
segments include the accounts of the holding company, Rurban Financial Corp.,
which provides management and operational services to its subsidiaries; Reliance
Financial Services, N.A., which provides trust and financial services to
customers nationwide; Rurban Life, which provides insurance products to
customers of the Corporation's subsidiary banks; and Rurban Statutory Trust 1,
which manages the Corporation's junior subordinated debentures. Information
reported internally for performance assessment follows.
19
NOTE L -- SEGMENT INFORMATION (Continued)
As of and for the six months ended June 30, 2003
Data Total Intersegment Consolidated
Banking Processing Other Segments Elimination Totals
------------- ------------- ------------- ------------- ------------- -------------
Income statement information:
Net interest income (expense) $ 9,058,017 $ (154,009) $ (687,604) $ 8,216,404 $ (6,188) $ 8,210,216
Noninterest income - external
customers 20,832,158 4,409,445 1,299,538 26,541,141 -- 26,541,141
Noninterest income - other segments -- 901,343 2,217,278 3,118,621 (1,992,963) 1,125,658
------------- ------------- ------------- ------------- ------------- -------------
Total revenue 29,890,175 5,156,779 2,829,212 37,876,166 (1,999,151) 35,877,015
Noninterest expense 11,147,804 4,160,186 3,207,833 18,515,823 (1,992,963) 16,522,860
Significant non-cash items:
Depreciation and
amortization 343,954 771,266 72,829 1,188,049 -- 1,188,049
Provision for loan losses (1,494,000) -- -- (1,494,000) -- (1,494,000)
Income tax expense (benefit) 5,599,695 338,841 (240,136) 5,698,400 382,723 6,081,123
Segment profit (loss) 10,843,821 657,751 (465,474) 11,036,098 742,934 11,779,032
Balance sheet information:
Total assets 490,002,805 8,845,839 2,975,885 501,824,529 (9,107,872) 492,716,657
Goodwill and intangibles 2,851,045 -- -- 2,851,045 -- 2,851,045
Premises and equipment
expenditures, net 4,309,905 7,134,678 305,184 11,749,767 -- 11,749,767
20
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION
Certain statements within this document which are not statements of historical
fact constitute forward-looking statements within the meaning of the Private
Securities Litigation Reform Act of 1995. Forward-looking statements involve
risks and uncertainties and actual results may differ materially from those
predicted by the forward-looking statements. These risks and uncertainties
include, but are not limited to, risks and uncertainties inherent in the
national and regional banking, insurance and mortgage industries, competitive
factors specific to markets in which Rurban and its subsidiaries operate, future
interest rate levels, legislative and regulatory actions, capital market
conditions, general economic conditions, geopolitical events, the loss of key
personnel and other factors.
Forward-looking statements speak only as of the date on which they are made, and
Rurban undertakes no obligation to update any forward-looking statement to
reflect events or circumstances after the date on which the statement is made.
All subsequent written and oral forward-looking statements attributable to
Rurban or any person acting on our behalf are qualified by these cautionary
statements.
21
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Rurban Financial Corp. ("Rurban" or "the Company") was incorporated on February
23, 1983, under the laws of the State of Ohio. Rurban is a bank holding company
registered with the Federal Reserve Board under the Bank Holding Company Act of
1956, as amended. Rurban's subsidiaries, The State Bank and Trust Company
("State Bank") and RFC Banking Company ("RFCBC") are engaged in the industry
segment of commercial banking. RFCBC was created June 30, 2001 through the
merger of The Peoples Banking Company, The First National Bank of Ottawa and The
Citizens Savings Bank Company. As of June 6, 2003, RFCBC completed the sale of
all its active banking locations, retaining only selected loans. RFCBC has
ceased doing a banking business and will operate as a loan subsidiary of Rurban
in servicing and working out the retained loans. Rurban's subsidiary, Rurbanc
Data Services, Inc. ("RDSI"), provides computerized data processing services to
community banks and businesses including Rurban's subsidiary banks. Rurban's
subsidiary, Rurban Life Insurance Company ("Rurban Life") has a certificate of
authority from the State of Arizona to transact insurance as a domestic life and
disability insurer. Rurban's subsidiary, Rurban Statutory Trust I ("RST") was
established in September 2000 for the purpose of managing the Company's junior
subordinated debentures. Reliance Financial Services, N.A. ("Reliance"), a
wholly owned subsidiary of State Bank, provides trust and financial services to
customers nationwide.
The following discussion is intended to provide a review of the consolidated
financial condition and results of operations of Rurban. This discussion should
be read in conjunction with the consolidated financial statements and related
footnotes in Rurban's 2002 Form 10-K filed with the Securities and Exchange
Commission.
This section may contain statements that are forward-looking as defined by the
Securities and Exchange Commission in its rules, regulations and releases. The
Company intends that such forward-looking statements be subject to the safe
harbors created thereby. All forward-looking statements are based on current
expectations regarding important risk factors including those identified in the
Company's most recent periodic report and other filings with the Securities and
Exchange Commission. Accordingly, actual results may differ materially from
those expressed in the forward-looking statements, and the making of such
statements should not be regarded as a representation by the Company, or any
other person, that the results expressed therein will be achieved.
CRITICAL ACCOUNTING POLICIES
The accounting and reporting policies of the Company are in accordance with
accounting principles generally accepted in the United States and conform to
general practices within the banking industry. The Company's significant
accounting policies are described in detail in the notes to the Company's
consolidated financial statements for the year ended December 31, 2002. The
preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions. The
financial position and results of operations can be affected by these estimates
and assumptions and are integral to the understanding of reported results.
Critical accounting policies are those policies that management believes are the
most important to the portrayal of the Company's financial condition and
results, and they require management to make estimates that are difficult,
subjective, or complex.
ALLOWANCE FOR LOAN LOSSES - The allowance for loan losses provides coverage for
probable losses inherent in the Company's loan portfolio. Management evaluates
the adequacy of the allowance for loan
22
losses each quarter based on changes, if any, in underwriting activities, the
loan portfolio composition (including product mix and geographic, industry or
customer-specific concentrations), trends in loan performance, regulatory
guidance and economic factors. This evaluation is inherently subjective, as it
requires the use of significant management estimates. Many factors can affect
management's estimates of specific and expected losses, including volatility of
default probabilities, rating migrations, loss severity and economic and
political conditions. The allowance is increased through provisions charged to
operating earnings and reduced by net charge-offs.
The Company determines the amount of the allowance based on relative risk
characteristics of the loan portfolio. The allowance recorded for commercial
loans is based on reviews of individual credit relationships and an analysis of
the migration of commercial loans and actual loss experience. The allowance
recorded for homogeneous consumer loans is based on an analysis of loan mix,
risk characteristics of the portfolio, fraud loss and bankruptcy experiences,
and historical losses, adjusted for current trends, for each homogeneous
category or group of loans. The allowance for credit losses relating to impaired
loans is based on the loan's observable market price, the collateral for certain
collateral-dependent loans, or the discounted cash flows using the loan's
effective interest rate.
Regardless of the extent of the Company's analysis of customer performance,
portfolio trends or risk management processes, certain inherent but undetected
losses are probable within the loan portfolio. This is due to several factors
including inherent delays in obtaining information regarding a customer's
financial condition or changes in their unique business conditions, the
judgmental nature of individual loan evaluations, collateral assessments and the
interpretation of economic trends. Volatility of economic or customer-specific
conditions affecting the identification and estimation of losses for larger
non-homogeneous credits and the sensitivity of assumptions utilized to establish
allowances for homogenous groups of loans are among other factors. The Company
estimates a range of inherent losses related to the existence of these
exposures. The estimates are based upon the Company's evaluation of imprecision
risk associated with the commercial and consumer allowance levels and the
estimated impact of the current economic environment.
GOODWILL AND OTHER INTANGIBLES - The Company records all assets and liabilities
acquired in purchase acquisitions, including goodwill and other intangibles, at
fair value as required by SFAS 141. Goodwill is subject, at a minimum, to annual
tests for impairment. Other intangible assets are amortized over their estimated
useful lives using straight-line and accelerated methods, and are subject to
impairment if events or circumstances indicate a possible inability to realize
the carrying amount. The initial goodwill and other intangibles recorded and
subsequent impairment analysis requires management to make subjective judgements
concerning estimates of how the acquired asset will perform in the future.
Events and factors that may significantly affect the estimates include, among
others, customer attrition, changes in revenue growth trends, specific industry
conditions and changes in competition.
QUARTERLY AND YEAR-TO-DATE EARNINGS SUMMARY
Net income for the quarter was $6.5 million, or $1.42 per diluted share, versus
a net loss of $7.6 million, or $1.68 per diluted share, for the second quarter
2002. Net income for the six months was $11.8 million, or $2.59 per diluted
share, versus a net loss of $7.4 million, or $1.64 per diluted share for the
same period in 2002. The year-to-date net income was primarily driven by the
sale of the branches of RFC Banking Company resulting in a pre-tax gain of
approximately $21.0 million.
23
Net interest income declined $3.0 million to $3.3 million for the three months
ended June 30, 2003 compared to $6.3 million for the second quarter 2002. The
decline in net interest income is due to a lower level of average earning
assets, declining market rates, a higher level of non-accrual loans and
increased balance sheet liquidity as the Company focused on strengthening its
risk based capital ratios. The decrease in earning assets is principally
attributable to the sale of assets associated with the disposition of the RFCBC
branches and lower loan demand.
The provision for loan losses of $0.3 million for the second quarter of 2003
decreased $11.6 million compared to the first three months of 2002.
Noninterest income increased $14.0 million to $15.7 million in the second
quarter of 2003 compared to $1.7 million for the second quarter of 2002. The
increase in noninterest income was mainly the result of the sale of the Peoples
Banking Company and First Bank of Ottawa on June 6, 2003, divisions of RFC
Banking Company, resulting in a pre-tax gain of $13.0 million. The pre-tax gain
was offset by a $716,000 FHLB prepayment penalty and the write-off of $327,000
of leasehold improvements.
Noninterest expense increased $1.1 million to $8.9 million for the second
quarter of 2003 compared to $7.8 million for the second quarter of 2002. This is
the result of professional fees increasing $1.2 million as a result of increased
attorney/consulting fees related to loan workouts, foreclosures, risk
assessments and branch divestitures and $165,000 in costs related to relocations
resulting from the restructuring and other staff changes. These increases are
partially offset by a $216,000 decrease in salary and benefits.
CHANGES IN FINANCIAL CONDITION
At June 30, 2003, total assets were $492.7 million, a decrease of $249.6 million
from December 31, 2002. The decrease was primarily attributable to decreases in
loans of $162.2 million, loans held for sale of $63.5 million, available for
sale securities of $37.4 million and other assets of $9.1 million. The decreases
were partially offset by an increase in federal funds sold of $31.3 million.
At June 30, 2003, the decreases in total liabilities and stockholders' equity
was mainly attributable to decreases in deposits of $203.2 million, deposits
held for sale of $68.2 million and FHLB Advances of $8.4 million. The decreases
were partially offset by increases in other liabilities of $10.6 million and
retained earnings of $11.8 million. The increase in other liabilities is
primarily due to a payable of $10.3 million due to First Federal Bank of Midwest
for the sell of branches.
The decrease in the balance sheet is the direct result of the sale of the RFCBC
branches in the first and second quarters of 2003. Also impacting the results
were reductions in loan balances due to residential loan refinancings and the
Company's low level of production of new loans.
LINKED QUARTER COMPARISON
The Company reported a net profit for the second quarter of 2003 of $6.5
million, or $1.42 per diluted share, versus a net profit of $5.3 million, or
$1.17 per diluted share, for the first quarter of 2003. The second quarter
profit was mainly driven by the sale of the Peoples Banking Company and First
Bank of Ottawa, divisions of RFC Banking Company, on June 6, 2003 for a net
pre-tax gain of approximately $12.0 million. The first quarter profit was mainly
due to the sale of the Citizens
24
Savings Bank, a division of RFC Banking Company, on March 28, 2003 for a pre-tax
gain of approximately $8.0 million.
A comparison of financial results for the quarter ended June 30, 2003 to the
previous quarter ended March 31, 2003 is as follows:
Three Months Ended
------------------- Linked Quarter Annualized
06/30/03 03/31/03 % Change % Change
------- ------- -------- --------
(dollars in millions, except per share data)
Total Assets $ 493 $ 646 -24% -95%
Loans Held for Sale -- 79.8 -- --
Loans (Gross) 326 366 -11% -44%
Allowance for Loan Losses 12.3 13.5 -9% -36%
Deposits Held for Sale -- 166.1 -- --
Total Deposits 365 371 -2% -6%
Total Revenue 19.0 16.9 12% 50%
Net interest Income 3.3 4.9 -32% -131%
Loan Loss Provision 0.3 1.2 -75% -300%
Noninterest Income 15.7 12.0 31% 123%
Noninterest Expense 8.9 7.7 15% 62%
Net Income 6.5 5.3 -- --
Basic Earnings Per Share $ 1.42 $ 1.17 -- --
Diluted Earnings Per Share $ 1.42 $ 1.17 -- --
On a linked quarter basis, loans declined $40 million and total assets declined
$153 million. The decline in loans was primarily due to reductions in loan
balances due to residential loan refinancings and the Company's lower level of
production of new loans. The loans sold due to the branch sales in the second
quarter of 2003 were held-for-sale as of March 31, 2003.
NET INTEREST INCOME
Three Months Ended
----------------------------------------------
06/30/03 03/31/03 $Change %Change
-------- -------- ------- -------
(dollars in thousands)
Net Interest Income $3,320 $4,890 $-1,570 -32%
Net interest income decreased $1.6 million or 32% to $3.3 million for the three
months ended June 30, 2003 compared to $4.9 million for the first quarter of
2003. This decrease was largely due to a $2.4 million decline in loan interest
income in the second quarter, resulting from the disposition of loans included
with the branch sales. The net interest margin for the second quarter of 2003
was the same as the previous quarter of 2.92%.
25
LOAN LOSS PROVISION
The provision for loan losses of $0.3 million for the second quarter of 2003
decreased $0.9 million compared to the first quarter of 2003.
NONINTEREST INCOME
Three Months Ended
------------------------------------------------------------
06/30/03 03/31/03 $Change %Change
-------- -------- ------ -------
(dollars in thousands)
Total Noninterest Income $ 15,671 $ 11,995 $3,676 31%
- - Gains on Sale of Assets 11,915 8,036 3,879 48%
- - Data Service Fees 2,186 2,223 -37 -2%
- - Trust Fees 596 657 -61 -9%
- - Deposit Service Fees 559 636 -77 -12%
- - Gains on Sale of Loans 151 151 -- --
- - Gain (Loss) on Securities (3) 27 -30 -111%
Noninterest income increased by $3.7 million to $15.7 million in the second
quarter of 2003. The second quarter increase was the result of the sale of the
remaining branches of RFC Banking Company resulting in a net pre-tax gain of
approximately $12.0 million recorded in gain on sale of assets compared to the
net pre-tax gain of $8.0 million on the branches sold during the first quarter.
NONINTEREST EXPENSE
Three Months Ended
---------------------------------------------------------
06/30/03 03/31/03 $Change %Change
-------- -------- ------- -------
(dollars in thousands)
Total Noninterest Expense $8,853 $7,669 $1,184 15%
- - Salaries & Employee Benefits 3,710 3,815 -105 -3%
- - Equipment Expense 1,057 1,059 -2 --
- - Professional Fees 2,035 775 1,260 163%
- - All Other 2,051 2,020 31 2%
Noninterest expense for the second quarter of 2003 was $8.9 million compared to
$7.7 million for the first quarter of 2003, a increase of $1.2 million or 15%.
This is the result of a $1.3 million increase in professional fees due to
increased attorney/consulting fees related to loan workouts, foreclosures, risk
assessments, a profit improvement study and branch divestitures.
26
LOANS
As Of
----------------------------------------------------------------------
% of % of Inc
06/30/03 Total 03/31/03 Total (Dec)
-------- ----- -------- ----- -----
(dollars in millions)
Commercial $ 104 32% $ 85 23% $ 19
Commercial real estate 77 24% 110 30% (33)
Agricultural 40 12% 55 15% (15)
Residential 48 15% 54 15% (6)
Consumer 41 13% 43 12% (2)
Leasing 16 4% 19 5% (3)
----- ----- -----
Total $ 326 $ 366 $ (40)
Loans held for sale -- 80 (80)
----- ----- -----
Total $ 326 $ 446 $(120)
Loans decreased $40 million to $326 million at June 30, 2003. The decline in
loans was primarily due to reductions in loan balances due to residential loan
refinancings and the Company's lower level of production of new loans. The loans
sold due to the branch sales in the second quarter of 2003 were held-for-sale as
of March 31, 2003.
Commercial real estate, agricultural, residential, consumer loans and leasing
for the quarter declined 30%, 27%, 11%, 5% and 16%, respectively, as loan demand
has softened and the Company's new lending efforts have become focused on
smaller local relationships. Commercial loans for the quarter increased 22%.
ASSET QUALITY
As Of And For The Quarter Ended
(dollars in millions)
06/30/03 03/31/03 Change
-------- -------- ------
Non-performing loans $ 20.3 $ 21.0 $-.7
Non-performing assets 21.9 23.6 -1.7
Nonperforming assets/ loans plus OREO 6.70% 6.41% +.29%
Nonperforming assets/ total assets 4.44% 3.65% +.79%
Net chargeoffs 1.5 5.2
Net chargeoffs (annualized)/ total loans 1.8% 4.7%
Loan loss provision 0.3 1.2
Allowance for loan loss - $ 12.3 13.5 -1.2
Allowance for loan loss - % 3.78% 3.03% +.75
Allowance/nonperforming loans 61% 64% --
Allowance/nonperforming assets 56% 57% --
Non-performing assets at June 30, 2003 decreased to $21.9 million or 4.44% of
total assets, versus $23.6 million, or 3.65% at March 31, 2003, a decrease of
$1.7 million. Net chargeoffs for the second quarter of 2003 were $1.5 million
compared to $5.2 million in the first quarter of 2003.
27
ALLOWANCE FOR LOAN LOSSES
The Company grades its loans using an eight grade system. Problem loans are
classified as either:
Substandard: Inadequately protected, with well-defined weakness that
jeopardize liquidation of debt
Doubtful: Inherent weaknesses well-defined and high probability of loss
(impaired)
Loss: Considered uncollectible. May have recovery or salvage value with
future collection efforts (these loans are either fully reserved or
charged off)
The Company's allowance for loan losses has four components. Those components
are shown in the following table:
06/30/03 03/31/03
---------------------------- ----------------------------
ALLOCATION ALLOCATION
LOAN ----------------- LOAN -----------------
BALANCE $ % BALANCE $ %
------- ------ ----- ------- ------ -----
Allocations for individual
commercial loans graded doubtful
(impaired) $ 19.0 $ 5.3 27.89% $ 18.2 $ 4.9 26.92%
Allocations for individual
commercial loans graded substandard 36.5 3.7 10.14 44.6 6.0 13.45
"General" allowance based on
chargeoff history of nine
categories of loans 236.9 2.3 1.00 347.2 1.5 0.40
Allocation based on special mention
loan balance 33.2 1.0 -- 36.0 1.1 --
------- ------ ----- ------- ------ -----
TOTAL $325.6 $ 12.3 3.78% $446.0 $ 13.5 3.03%
The amount of loans classified as doubtful increased $0.8 million to $19.0
million while substandard loans decreased $8.1 million to $36.5 million.
Allowance allocations on doubtful loans increased $0.4 million while allowance
allocations on substandard loans decreased $2.3 million from March 31, 2003. The
allowance for loan losses at June 30, 2003 was $12.3 million or 3.78% of loans
compared to $13.5 million or 3.03% at March 31, 2003.
CAPITAL RESOURCES
At June 30, 2003, actual capital levels (in millions) and minimum required
levels were:
Minimum Required
Minimum Required To Be Well Capitalized
For Capital Under Prompt Corrective
Actual Adequacy Purposes Action Regulations
------------------- -------------------- --------------------
Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ----- ------ -----
Total capital (to risk weighted assets)
Consolidated $59.0 17.3% $27.4 8.0% $ -- N/A
State Bank 35.8 11.6 24.6 8.0 30.8 10.0
RFC Banking Company 19.0 55.8 2.7 8.0 3.4 10.0
The Company, State Bank and RFCBC were categorized as well capitalized at June
30, 2003.
28
WRITTEN AGREEMENT
On July 9, 2002, the Company and State Bank announced they entered into a
Written Agreement ("Agreement") with the Federal Reserve Bank of Cleveland and
the Ohio Division of Financial Institutions on July 5, 2002. The Agreement was
the result of an examination of State Bank as of December 31, 2001, which was
conducted in March and April 2002.
The results of the November 4, 2002 regulatory examinations indicated that as of
that date, Rurban and State Bank were in compliance with most provisions of the
Agreement. Management believes that Rurban is currently in substantial
compliance with each of the provisions of the Agreement.
The Company and RFCBC have been advised by RFCBC's regulators, the FDIC and the
Ohio Division of Financial Institutions, that the preliminary results of the
November 4, 2002 examination of RFCBC indicated that the Bank may be presented
with a formal agreement based on concerns raised. RFCBC's December 31, 2002
total risk-based capital ratio was 8.1%, above the "adequately capitalized"
minimum of 8%. The closing of the sale of all the branches of RFCBC improved the
total risk-based capital ratio to approximately 56% and to date, no formal
written agreement has been received.
State Bank and RFCBC are prohibited from paying dividends to Rurban without
prior regulatory approval. Rurban is prohibited from paying Trust Preferred
"dividends" and common stock dividends without prior regulatory approval.
GOALS FOR 2003 AND 2004
The Company's near term goals include:
- Focus on the quality of the loan underwriting process
- Continued focus on Customer Relationship Management (CRM)
- Completion of the centralization of operations functions
- Continued monitoring of all corrective actions necessary to achieve
the release from the Written Agreement
- Restoring earnings to a level sufficient to resume the payment of a
dividend
LIQUIDITY
Liquidity relates primarily to the Company's ability to fund loan demand, meet
deposit customers' withdrawal requirements and provide for operating expenses.
Assets used to satisfy these needs consist of cash and due from banks, interest
earning deposits in other financial institutions, securities available-for sale
and loans held for sale. These assets are commonly referred to as liquid assets.
Liquid assets were $106.6 million at June 30, 2003 compared to $200.9 million at
March 31, 2003.
The Company's residential first mortgage portfolio of $48.1 million at June 30,
2003 and $53.9 million at March 31, 2003, which can and has been readily used to
collateralize borrowings, is an additional source of liquidity. Management
believes its current liquidity level is sufficient to meet its liquidity needs.
At June 30, 2003, all eligible mortgage loans were pledged under an a Federal
Home Loan Bank ("FHLB") blanket lien.
The cash flow statements for the periods presented provide an indication of the
Company's sources and uses of cash as well as an indication of the ability of
the Company to maintain an adequate level of liquidity. A discussion of the cash
flow statements at June 30, 2003 and 2002 follows.
29
The Company experienced a net increase in cash from operating activities at June
30, 2003 and 2002. Net cash from operating activities was $15.8 million and $2.4
million, respectively, at June 30, 2003 and 2002.
Net cash flow from investing activities was $46.3 million and $63.0 million at
June 30, 2003 and 2002 respectively. The changes in net cash from investing
activities at June 30, 2003 include a decrease in securities of $(37.0) million,
a decrease in loans of $(80.3) million, a decrease from the sale of the RFC
Banking Company branches of $(70.5) million as well as changes in
interest-bearing deposits, purchases of premises and equipment and other
investing activities. The changes in net cash from investing activities at June
30, 2002 include increases in loans of $16.4 million, decrease in securities of
$(23.3) million and the purchase of net liabilities from the Oakwood acquisition
of $58.6 million.
Net cash flow from financing activities was $(40.0) million and $(62.9) million
at June 30, 2003 and 2002, respectively. The net cash decrease was primarily due
to a reduction in total deposits of $(40.0) million at June 30, 2003 compared to
$(56.3) at June 30, 2002. Other changes included decreases in Federal Home Loan
Bank (FHLB) advances of $(8.4) million and a note payable increase of $(8.5)
million at June 30, 2003 compared to a $(1.9) decrease in FHLB advances, an
increase of $7.0 million for a note payable and payment of dividends of $(1.8)
million at June 30, 2002.
OFF-BALANCE-SHEET BORROWING ARRANGEMENTS:
Significant additional off-balance-sheet liquidity is available in the form of
FHLB advances, unused federal funds lines from correspondent banks, and the
national certificate of deposit market. While such additional off-balance-sheet
liquidity is available, the Written Agreement between Rurban, State Bank, the
Federal Reserve Bank of Cleveland and the Ohio Division of Financial
Institutions requires Rurban and State Bank to obtain written approval of the
Federal Reserve Bank of Cleveland and the Ohio Division of Financial
Institutions prior to directly or indirectly incurring any debt.
Approximately $33.5 million residential first mortgage loans of the Company's
$48.1 million portfolio qualify to collateralize FHLB borrowings and have been
pledged to meet FHLB collateralization requirements as of June 30, 2003. In
addition to residential first mortgage loans, $29.0 million in investment
securities are pledged to meet FHLB collateralization requirements. Based on the
current collateralization requirements of the FHLB, approximately $6.0 million
of additional borrowing capacity existed at June 30, 2003.
As of June 30, 2003, the Company had unused federal funds lines totaling
approximately $8.0 million from one correspondent bank. At March 31, 2003, the
Company had unused federal funds lines totaling approximately $14.0 million from
two correspondent banks. Federal funds borrowed were $0 at June 30, 2003 and
March 31, 2003.
Approximately $11.0 million performing commercial loans are pledged to the
Federal Reserve Discount Window to establish additional borrowing capacity of
$7.7 million. Such loans are pledged for contingency funding purposes and to
date this borrowing capacity has not been used.
30
TABULAR DISCLOSURE OF CONTRACTUAL OBLIGATIONS
PAYMENT DUE BY PERIOD
---------------------------------------------------------------------------------------
LESS MORE
THAN 1 1 - 3 3 - 5 THAN 5
Contractual Obligations TOTAL YEAR YEARS YEARS YEARS
----------- ----------- ----------- ----------- -----------
FHLB Advances $39,500,000 $10,500,000 $ 0 $ 4,000,000 $25,000,000
Other Debt Obligations 23,363,168 10,000,000 13,363,168 0 0
Capital Lease Obligations 0 0 0 0 0
Operating Lease Obligations 846,600 99,600 199,200 199,200 348,600
Purchase Obligations 0 0 0 0
Other Long-Term Liabilities
Reflected on the Registrant's
Balance Sheet under GAAP 0 0 0 0 0
----------- ----------- ----------- ----------- -----------
Total $63,709,768 $20,599,600 $13,562,368 $ 4,199,200 $25,348,600
The Company's contractual obligations as of June 30, 2003 were comprised of FHLB
Advances, other debt obligation and operating lease obligations. Other debt
obligations include notes payable to The Union Bank Company and First Federal.
The operating lease obligation is a lease on the RDSI building of $99,600 a
year.
ASSET LIABILITY MANAGEMENT
Asset liability management involves developing and monitoring strategies to
maintain sufficient liquidity, maximize net interest income and minimize the
impact that significant fluctuations in market interest rates would have on
earnings. The business of the Company and the composition of its balance sheet
consists of investments in interest-earning assets (primarily loans and
securities available for sale) which are primarily funded by interest-bearing
liabilities (deposits and borrowings). With the exception of loans which are
originated and held for sale, all of the financial instruments of the Company
are for other than trading purposes. All of the Company's transactions are
denominated in U.S. dollars with no foreign exchange exposure. In addition, the
Company has limited exposure to commodity prices related to agricultural loans.
The impact of changes in commodity prices on interest rates are assumed to be
insignificant. The Company's financial instruments have varying levels of
sensitivity to changes in market interest rates resulting in market risk.
Interest rate risk is the Company's primary market risk exposure; to a lesser
extent, liquidity risk also impacts market risk exposure.
Interest rate risk is the exposure of a banking institution's financial
condition to adverse movements in interest rates. Accepting this risk can be an
important source of profitability and stockholder value; however, excessive
levels of interest rate risk could pose a significant threat to the Company's
earnings and capital base. Accordingly, effective risk management that maintains
interest rate risks at prudent levels is essential to the Company's safety and
soundness.
Evaluating a financial institution's exposure to changes in interest rates
includes assessing both the adequacy of the management process used to control
interest rate risk and the organization's quantitative level of exposure. When
assessing the interest rate risk management process, the Company seeks to ensure
that appropriate policies, procedures, management information systems, and
internal controls are in place to maintain interest rate risks at prudent levels
of consistency and continuity. Evaluating the quantitative level of interest
rate risk exposure requires the Company to assess the existing and potential
31
future effects of changes in interest rates on its consolidated financial
condition, including capital adequacy, earnings, liquidity, and asset quality
(when appropriate).
The Federal Reserve Board together with the Office of the Comptroller of the
Currency and the Federal Deposit Insurance Company, adopted an Inter-Agency
Policy Statement on interest rate risk effective June 26, 1996. The policy
statement provides guidance to examiners and bankers on sound practices for
managing interest rate risk, which will form the basis for ongoing evaluation of
the adequacy of interest rate risk management at supervised institutions. The
policy statement also outlines fundamental elements of sound management that
have been identified in prior Federal Reserve guidance and discusses the
importance of these elements in the context of managing interest rate risk.
Specifically, the guidance emphasizes the need for active Board of Director and
senior management oversight and a comprehensive risk management process that
effectively identifies, measures, and controls interest rate risk.
Financial institutions derive their income primarily from the excess of interest
collected over interest paid. The rates of interest an institution earns on its
assets and owes on its liabilities generally are established contractually for a
period of time. Since market interest rates change over time, an institution is
exposed to lower profit margins (or losses) if it cannot adapt to interest rate
changes. For example, assume that an institution's assets carry intermediate or
long term fixed rates and that those assets are funded with short-term
liabilities. If market interest rates rise by the time the short-term
liabilities must be refinanced, the increase in the institution's interest
expense on its liabilities may not be sufficiently offset if assets continue to
earn at the long-term fixed rates. Accordingly, an institution's profits could
decrease on existing assets because the institution will either have lower net
interest income or possibly, net interest expense. Similar risks exist when
assets are subject to contractual interest rate ceilings, or rate sensitive
assets are funded by longer-term, fixed-rate liabilities in a declining rate
environment.
There are several ways an institution can manage interest rate risk including:
1) matching repricing periods for new assets and liabilities, for example, by
shortening terms of new loans or investments; 2) selling existing assets or
repaying certain liabilities; and 3) hedging existing assets, liabilities, or
anticipated transactions. An institution might also invest in more complex
financial instruments intended to hedge or otherwise change interest rate risk.
Interest rate swaps, futures contacts, options on futures contracts, and other
such derivative financial instruments can be used for this purpose. Because
these instruments are sensitive to interest rate changes, they require
management's expertise to be effective. The Company has not purchased derivative
financial instruments in the past and does not presently intend to purchase such
instruments.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
The following table provides information about the Company's financial
instruments used for purposes other than trading that are sensitive to changes
in interest rates as of June 30, 2003. It does not present when these items may
actually reprice. For loans receivable, securities, and liabilities with
contractual maturities, the table presents principal cash flows and related
weighted-average interest rates by contractual maturities as well as the
Company's historical experience of the impact of interest rate fluctuations on
the prepayment of loans and mortgage backed securities. For core deposits
(demand deposits, interest-bearing checking, savings, and money market deposits)
that have no contractual maturity, the table presents principal cash flows and,
as applicable, related weighted-average interest rates based upon the Company's
historical experience, management's judgment and statistical analysis, as
applicable, concerning their most likely withdrawal behaviors. The current
historical interest rates for core deposits have been assumed to apply for
future periods in this table as the actual interest rates that will need to be
paid to maintain these deposits are not currently known. Weighted average
variable rates are based upon contractual rates existing at the reporting date.
32
PRINCIPAL/NOTIONAL AMOUNT MATURING OR ASSUMED TO WITHDRAW IN:
(DOLLARS IN THOUSANDS)
Comparison of 2003 to 2002: First Years
Total rate-sensitive assets: Year 2 - 5 Thereafter Total
--------- --------- --------- ---------
At June 30, 2003 $ 219,606 $ 149,983 $ 83,363 $ 452,952
At December 31, 2002 317,174 217,623 149,581 684,378
--------- --------- --------- ---------
Increase (decrease) $ (97,568) $ (67,640) $ (66,218) $(231,426)
Total rate-sensitive liabilities:
At June 30, 2003 $ 190,317 $ 199,380 $ 38,946 $ 428,643
At December 31, 2002 317,332 339,592 42,961 699,885
--------- --------- --------- ---------
Increase (decrease) $(127,015) $(140,212) $ (4,015) $(271,242)
Total rate sensitive assets decreased approximately $231.4 million and rate
sensitive liabilities decreased approximately $271.2 million for the six months
ended June 30, 2003 due primarily to the sale of the loans ($164.2 million) and
deposits ($244.4 million) of RFC Banking Company.
Currently, the Company is paying down maturing broker CD's and FHLB advances.
During the six months ended June 30, 2003, $18.0 million in broker CD's and $8.4
million in FHLB advances were paid off. The Cleveland office has also been
closed resulting in a reduction of $15.9 million in loans and $4.7 million in
deposits.
The above table reflects expected maturities, not expected repricing. The
contractual maturities adjusted for anticipated prepayments and anticipated
renewals at current interest rates, as shown in the preceding table, are only
part of the Company's interest rate risk profile. Other important factors
include the ratio of rate-sensitive assets to rate sensitive liabilities (which
takes into consideration loan repricing frequency but not when deposits may be
repriced) and the general level and direction of market interest rates. For core
deposits, the repricing frequency is assumed to be longer than when such
deposits actually reprice. For some rate sensitive liabilities, their repricing
frequency is the same as their contractual maturity. For variable rate loans,
repricing frequency can be daily or monthly and for adjustable rate loans,
repricing can be as frequent as annually for loans whose contractual maturities
range from one to thirty years. While increasingly aggressive local market
competition in lending rates has pushed loan rates lower; the Company's
increased reliance on non-core funding sources has restricted the Company's
ability to reduce funding rates in concert with declines in lending rates.
The Company manages its interest rate risk by the employment of strategies to
assure that desired levels of both interest-earning assets and interest-bearing
liabilities mature or reprice with similar time frames. Such strategies include;
1) loans which are renewed (and repriced) annually, 2) variable rate loans, 3)
certificates of deposit with terms from one month to six years and 4) securities
available for sale which mature at various times primarily from one through ten
years 5) federal funds borrowings with terms of one day to three days, and 6)
Federal Home Loan Bank borrowings with terms of one day to ten years.
33
ITEM 4. CONTROLS AND PROCEDURES
With the participation of Rurban Financial Corp.'s management, including our
principal executive officer and principal financial officer, we have evaluated
the effectiveness of our disclosure controls and procedures (as defined in Rules
13a-15 and 15d-15 of the Securities Exchange Act of 1934 (the "Exchange Act"))
as of the end of the period covered by this Quarterly Report on Form 10-Q. Based
upon that evaluation, our principal executive officer and principal financial
officer have concluded that the Company's disclosure controls and procedures are
effective as of the end of the period covered by this Quarterly Report on Form
10-Q to ensure that material information relating to Rurban Financial
Corporation and its consolidated subsidiaries is made known to them,
particularly during the period for which our periodic reports, including this
Quarterly Report on Form 10-Q, are being prepared.
In addition, there were no significant changes during the period covered by this
Quarterly Report on Form 10-Q in our internal control over financial reporting
(as defined in Rules 13a-15 and 15d-15 of the Exchange Act) that have materially
affected, or are reasonably likely to materially affect, our internal control
over financial reporting.
34
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
Not applicable
Item 2. Changes in Securities and Use of Proceeds
Not applicable
Item 3. Defaults Upon Senior Securities
Not Applicable
Item 4. Submission of Matters to a Vote of Security Holders
Not applicable
Item 5. Other Information
Not applicable
Item 6. Exhibits and Reports on Form 8-K
a. Exhibits
31.1 - Rule 13a-14(a)/15d-14(a) Certification (Chief Executive Officer)
31.2 - Rule 13a-14(a)/15d-14(a) Certification (Chief Financial Officer)
32.1 - Section 1350 Certification (Chief Executive Officer)
32.2 - Section 1350 Certification (Chief Financial Officer)
b. Reports on Form 8-K
A Form 8-K was filed on January 2, 2003 to report information under
Item 5 regarding a press release announcing that a "Purchase and
Assumption Agreement" was signed between RFC Banking Company, Rurban
Financial Corp.'s wholly-owned subsidiary, and The Union Bank
Company on December 30, 2002. The press release was included as
Exhibit 99.
A Form 8-K was filed on January 21, 2003 to report information under
Item 5 regarding a press release announcing that Rurban Financial
Corp. and its wholly owned subsidiary, RFC Banking Company, intend
to make available for purchase RFC Banking Company bank branches
located in Hancock and Putnam Counties. The offices consist of The
Peoples Banking Company Division and the First Bank of Ottawa
Division. The press release was included as Exhibit 99.
A Form 8-K was filed on February 14, 2003 to report information
under Item 5 regarding a press release announcing that Rurban
Financial Corp. filed a deferral notice on February 12, 2003 with US
Bank, Trustee of Rurban Financial Corp.'s trust preferred indenture,
to
35
defer payments of interest on the debt securities which would have
been due on March 7, 2003. The press release was included as Exhibit
99(a).
A Form 8-K was filed on February 25, 2003 to report information
under Item 5 regarding a press release announcing that a "Purchase
and Assumption Agreement" was signed on February 22, 2003 with First
Federal Bank of the Midwest, a wholly owned subsidiary of First
Defiance Financial Corp. The Purchase and Assumption Agreement
outlined the sale of assets and assumption of deposits at RFC
Banking Company's Hancock and Putnam County branches. The Purchase
and Assumption Agreement was included as Exhibit 2, and the press
release was included as Exhibit 99.
A Form 8-K was filed on February 26, 2003 to report information
under Item 5 regarding a press release announcing the financial
results for the fourth quarter and year ended December 31, 2002. The
press release was included as Exhibit 99.
A Form 8-K was filed on March 18, 2003 to report information under
Item 5 regarding a press release announcing the appointment of James
E. Adams as Chief Financial Officer to replace retiring CFO, Richard
C. Warrener. The press release was included as Exhibit 99.
A Form 8-K was filed on April 1, 2003 to report information under
Item 5 regarding a press release announcing that RFC Banking
Company, a wholly-owned subsidiary of Rurban Financial Corp.,
completed the sale of its Wood and Sandusky County branches located
in Pemberville, Gibsonburg and the Otterbein-Portage Valley
Retirement Village to The Union Bank Company, a wholly-owned
subsidiary of United Bancshares, Inc. The press release was included
as Exhibit 99.
A Form 8-K was filed on May 2, 2003 to furnish information under
Item 9 (which was also deemed provided under Item 12) regarding the
press release announcing the financial results for the first quarter
of 2003 and the excerpts of a presentation by Kenneth A. Joyce,
Chief Executive Officer, at the Annual Meeting of Shareholders held
on April 28, 2003. The press release was included as Exhibit 99(a),
and the excerpts were includeD as Exhibit 99(b).
A Form 8-K was filed on June 18, 2003 to report under Item 2 that
RFC Banking Company, a wholly-owned subsidiary of Rurban Financial
Corp., completed the sale of its Findlay, McComb and Ottawa branches
to First Federal Bank of the Midwest, a wholly-owned subsidiary of
First Defiance Financial Corp. A press release announcing the
closing of the transaction was included as Exhibit 99. The required
pro forma financial information will be filed by amendment no later
than August 20, 2003.
36
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has caused this report to be signed on its behalf by the undersigned
hereunto duly authorized.
RURBAN FINANCIAL CORP.
Date: August 14, 2003 By /S/ Kenneth A. Joyce
--------------------
Kenneth A. Joyce
President & Chief
Executive Officer
By /S/ James E. Adams
------------------
James E. Adams
Executive Vice President &
Chief Financial Officer
37