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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
_______________
Form 10-K
[X] Annual report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934 for the fiscal year ended December 31, 2003.
OR
[x] Transition report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 for the transition period from _________ to _________
Commission file Number 0-16667
DNB Financial Corporation
(Exact Name of registrant as specified in its charter)
Pennsylvania 23-2222567
(State or other jurisdiction (I.R.S. Employer Identification No.)
of incorporation or organization)
4 Brandywine Avenue
Downingtown, Pennsylvania 19335
(Address of principal executive offices) (Zip Code)
(610) 269-1040
Registrant's telephone number, including area code
Securities registered pursuant to Section 12 (b) of the Act: N/A
Title of each class Name of each exchange on which registered
N/A N/A
Securities registered pursuant to Section 12 (g) of the Act
Common stock, par value $1.00 per share
(Title of class)
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. [X] Yes [ ] 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 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.
[X]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act).
[ ] Yes [X] No
State the aggregate market value of the voting stock held by non-affiliates of
the registrant. The aggregate market value shall be computed by reference to the
price at which the stock was sold, or the average bid and asked prices of such
stock, as of a specified date within 60 days prior to the date of filing.
$49.8 million as of March 18, 2004
Indicate the number of shares outstanding of each class of the registrant's
classes of common stock, as of the latest practicable date.
1,894,375 shares of Common Stock, $1 par value per share,
were outstanding as of March 18, 2004
DOCUMENTS INCORPORATED BY REFERENCE
1. Portions of the Registrant's Annual Report to Shareholders for the
fiscal year ended December 31, 2003 are incorporated by reference into
Parts I, II and IV of this report.
2. Portions of the Registrant's Definitive Proxy Statement relating to the
Annual Meeting of Shareholders to be held April 27, 2004 are
incorporated by reference into Parts III and IV of this report.
2
DNB FINANCIAL CORPORATION
Table of Contents
Page
Part I
Item 1. Business 4
Item 2. Properties 13
Item 3. Legal Proceedings 14
Item 4. Submission of Matters to a Vote of Security Holders 14
Part II
Item 5. Market for Registrant's Common Equity and Related 14
Stockholder Matters
Item 6. Selected Financial Data 14
Item 7. Management's Discussion and Analysis of Financial 14
Condition and Results of Operations
Item 7A. Quantitative and Qualitative Disclosures About Market Risk 14
Item 8. Financial Statements and Supplementary Data 15
Item 9. Changes in and Disagreements with Accountants 15
on Accounting and Financial Disclosure
Item 9A. Controls and Procedures 15
Part III
Item 10. Directors and Executive Officers of the Registrant 16
Item 11. Executive Compensation 16
Item 12. Security Ownership of Certain Beneficial Owners
and Management 16
Item 13. Certain Relationships and Related Transactions 16
Item 14. Principal Accounting Fees and Services 16
Part IV
Item 15. Exhibits, Financial Statement Schedules, and
Reports on Form 8-K 16
SIGNATURES
3
DNB FINANCIAL CORPORATION
FORM 10-K
Forward-Looking Statements
This report contains statements, that are not of historical facts and may
pertain to future operating results or events or management's expectations
regarding those results or events. These are "forward-looking statements" within
the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the
Securities and Exchange Act of 1934. These forward-looking statements may
include, but are not limited to, statements about our plans, objectives,
expectations and intentions and other statements contained in this report that
are not historical facts. When used in this report, the words "expects",
"anticipates", "intends", "plans", "believes", "seeks", "estimates", or words of
similar meaning, or future or conditional verbs, such as "will", "would",
"should", "could", or "may" are generally intended to identify forward-looking
statements. Forward-looking statements involve certain risks and uncertainties,
and actual results may differ materially from those contemplated by such
statements. For example, actual results may be adversely affected by the
following possibilities: (1) competitive pressures among financial institutions
may increase; (2) changes in interest rates may reduce banking interest margins;
(3) general economic conditions and real estate values may be less favorable
than contemplated; (4) adverse legislation or regulatory requirements may be
adopted; (5) other unexpected contingencies may arise; (6) DNB may change one or
more strategies described in this document; or (7) management's evaluation of
certain facts, circumstances or trends and the appropriate responses to them may
change. These forward-looking statements are inherently subject to significant
business, economic and competitive uncertainties and contingencies, many of
which are either beyond our control or not reasonably capable of predicting at
this time. In addition, these forward-looking statements are subject to
assumptions with respect to future business strategies and decisions that are
subject to change. Actual results may differ materially from the results
discussed in these forward-looking statements. Readers of this report are
accordingly cautioned not to place undue reliance on forward-looking statements.
DNB disclaims any intent or obligation to update publicly any of the
forward-looking statements herein, whether in response to new information,
future events or otherwise. With regard to DNB's balance sheet repositioning,
the degree to which these steps can be accomplished will depend on a number of
factors, including changes in the interest rate environment for loans,
investments and deposits, loan prepayments, market opportunities for new loan
and participation originations, and the availability of loan and lease
receivables for purchase at attractive prices and yields, as well as
management's assessment of the timing of each of these opportunities and steps
in light of future, unknown developments affecting DNB's business generally.
Part I
Item 1. Business
General
DNB Financial Corporation (the "Registrant" or "DNB"), a Pennsylvania
business corporation, is a bank holding company registered with and supervised
by the Board of Governors of the Federal Reserve System (Federal Reserve Board).
Registrant was incorporated on October 28, 1982 and commenced operations on July
1, 1983 upon consummation of the acquisition of all of the outstanding stock of
Downingtown National Bank (the "Bank"). Since commencing operations,
Registrant's business has consisted primarily of managing and supervising the
Bank, and its principal source of income has been dividends paid by the Bank. At
December 31, 2003, Registrant had total consolidated assets, total liabilities
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and stockholders' equity of $409.0 million, $383.6 million, and $25.4 million,
respectively.
The Bank was organized in 1861. The Bank is a national banking association
that is a member of the Federal Reserve System, the deposits of which are
insured by the Federal Deposit Insurance Corporation ("FDIC"). The Bank is a
full service commercial bank providing a wide range of services to individuals
and small to medium sized businesses in its southeastern Pennsylvania market
area, including accepting time, demand, and savings deposits and making secured
and unsecured commercial, real estate and consumer loans. In addition, the Bank
has one limited service branch and a full-service Wealth Management Group - DNB
Advisors. The Bank's subsidiary, Downco, Inc. was incorporated in December, 1995
for the purpose of acquiring and holding other real estate owned acquired
through foreclosure or deed in lieu of foreclosure and now owns certain
Bank-occupied real estate. The Bank's financial subsidiary, DNB Financial
Services, Inc., is a Pennsylvania licensed insurance agency.
The Bank's legal headquarters are located at 4 Brandywine Avenue,
Downingtown, Pennsylvania. As of December 31, 2003, the Bank had total assets of
$407.7 million, total deposits of $292.5 million and total stockholders' equity
of $29.0 million. The Bank's business is not seasonal in nature. The FDIC, to
the extent provided by law, insures its deposits. At December 31, 2003, the Bank
had 114 full-time employees and 20 part-time employees.
The Bank derives its income principally from interest charged on loans and,
to a lesser extent, interest earned on investments and fees received in
connection with the origination of loans and for other services. The Bank's
principal expenses are interest expense on deposits and borrowings and operating
expenses. Funds for activities are provided principally by operating revenues,
deposit growth and the repayment of outstanding loans.
Competition - Bank
The Bank encounters vigorous competition from a number of sources,
including other commercial banks, thrift institutions, other financial
institutions and financial intermediaries. In addition to commercial banks,
Federal and state savings and loan associations, savings banks, credit unions
and industrial savings banks actively compete in the Bank's market area to
provide a wide variety of banking services. Mortgage banking firms, real estate
investment trusts, finance companies, insurance companies, leasing companies and
brokerage companies, financial affiliates of industrial companies and certain
government agencies provide additional competition for loans and for certain
financial services. The Bank also competes for interest-bearing funds with a
number of other financial intermediaries which offer a diverse range of
investment alternatives, including brokerage firms and mutual fund companies.
Supervision and Regulation - Registrant
Sarbanes-Oxley Act of 2002 - On July 30, 2002, President Bush signed into law
the Sarbanes-Oxley Act of 2002 ("Sarbanes-Oxley") which imposed significant
additional requirements and restrictions on publicly-held companies, such as the
Registrant. These provisions include new requirements governing the composition
and responsibilities of audit committees, financial disclosures and reporting
and restrictions on personal loans to directors and officers. Sarbanes-Oxley,
inter alia, now mandates chief executive and chief financial officer
certifications of periodic financial reports, additional financial disclosures
concerning off-balance sheet items, and speedier transaction reporting
requirements for executive officers, directors and 10% shareholders. Rules
promulgated and to be promulgated by the SEC pursuant to Sarbanes-Oxley impose
5
substantial reporting and compliance obligations on management and boards of
directors, and new obligations and restrictions on auditors, audit committees
intended to enhance their independence from management. In addition, penalties
for non-compliance with the federal securities laws are heightened. While the
Registrant has and will incur significant additional expense complying with
Sarbanes Oxley requirements, the Registrant does not anticipate this legislation
to have any other material adverse impact on the Registrant.
Federal Banking Laws
The Registrant is subject to a number of complex Federal banking laws ---
most notably the provisions of the Bank Holding Company Act of 1956, as amended
("Bank Holding Company Act") and the Change in Bank Control Act of 1978 ("Change
in Control Act"), and to supervision by the Federal Reserve Board.
Bank Holding Company Act - Financial Holding Companies
The Bank Holding Company Act requires a "company" (including the
Registrant) to secure the prior approval of the Federal Reserve Board before it
owns or controls, directly or indirectly, more than five percent (5%) of the
voting shares or substantially all of the assets of any bank. It also prohibits
acquisition by any "company" (including the Registrant) of more than five
percent (5%) of the voting shares of, or interest in, or all or substantially
all of the assets of, any bank located outside of the state in which a current
bank subsidiary is located unless such acquisition is specifically authorized by
laws of the state in which such bank is located. A "bank holding company"
(including the Registrant) is prohibited from engaging in or acquiring direct or
indirect control of more than five percent (5%) of the voting shares of any
company engaged in non-banking activities unless the Federal Reserve Board, by
order or regulation, has found such activities to be so closely related to
banking or managing or controlling banks as to be a proper incident thereto. In
making this determination, the Federal Reserve Board considers whether the
performance of these activities by a bank holding company would offer benefits
to the public that outweigh possible adverse effects. Applications under the
Bank Holding Company Act and the Change in Control Act are subject to review,
based upon the record of compliance of the applicant with the Community
Reinvestment Act of 1977 ("CRA"). See further discussion below.
The Registrant is required to file an annual report with the Federal
Reserve Board and any additional information that the Federal Reserve Board may
require pursuant to the Bank Holding Company Act. The Federal Reserve Board may
also make examinations of the Registrant and any or all of its subsidiaries.
Further, under Section 106 of the 1970 amendments to the Bank Holding Company
Act and the Federal Reserve Board's regulations, a bank holding company and its
subsidiaries are prohibited from engaging in certain tie-in arrangements in
connection with any extension of credit or provision of credit or provision of
any property or services. The so-called "anti-tie-in" provisions state generally
that a bank may not extend credit, lease, sell property or furnish any service
to a customer on the condition that the customer provide additional credit or
service to the bank, to its bank holding company or to any other subsidiary of
its bank holding company or on the condition that the customer not obtain other
credit or service from a competitor of the bank, its bank holding company or any
subsidiary of its bank holding company.
Permitted Non-Banking Activities. The Federal Reserve Board permits bank
holding companies to engage in non-banking activities so closely related to
banking or managing or controlling banks as to be a proper incident thereto. A
number of activities are authorized by Federal Reserve Board regulation, while
6
other activities require prior Federal Reserve Board approval. The types of
permissible activities are subject to change by the Federal Reserve Board.
Recent revisions to the Bank Holding Company Act contained in the Federal
Gramm-Leach Bliley Act of 1999 permit certain eligible bank holding companies to
qualify as "financial holding companies" and thereupon engage in a wider variety
of financial services such as securities and insurance activities.
Gramm-Leach Bliley Act of 1999 ("GLB") - This law repeals certain
restrictions on bank and securities firm affiliations, and allows bank holding
companies to elect to be treated as a "financial holding company" that can
engage in approved "financial activities," including insurance, securities
underwriting and merchant banking. Banks without holding companies can engage in
many of these new financial activities through a "financial subsidiary." The law
also mandates functional regulation of bank securities activities. Banks'
exemption from broker-dealer regulation would be limited to, for example, trust,
safekeeping, custodian, shareholder and employee benefit plans, sweep accounts,
private placements (under certain conditions), self-directed IRAs, third party
networking arrangements to offer brokerage services to bank customers, and the
like. It also requires banks that advise mutual funds to register as investment
advisers. The legislation provides for state regulation of insurance, subject to
certain specified state preemption standards. It establishes which insurance
products banks and bank subsidiaries may provide as principal or underwriter,
and prohibits bank underwriting of title insurance, but also preempts state laws
interfering with affiliations. GLB prohibits approval of new de novo thrift
charter applications by commercial entities and limits sales of existing
so-called "unitary" thrifts to commercial entities. The law bars banks, savings
and loans, credit unions, securities firms and insurance companies, as well as
other "financial institutions," from disclosing customer account numbers or
access codes to unaffiliated third parties for telemarketing or other direct
marketing purposes, and enables customers of financial institutions to "opt out"
of having their personal financial information shared with unaffiliated third
parties, subject to exceptions related to the processing of customer
transactions and joint financial services marketing arrangements with third
parties, as long as the institution discloses the activity to its customers and
requires the third party to keep the information confidential. It requires
policies on privacy and disclosure of information to be disclosed annually,
requires federal regulators to adopt comprehensive regulations for ensuring the
security and confidentiality of consumers' personal information, and allows
state laws to five consumers greater privacy protections. The GLB is likely to
increase the competition the Bank faces, and this increased competition is
likely to come from a wider variety of non-banking competitors as well as banks.
Change in Bank Control Act
Under the Change in Control Act, no person, acting directly or indirectly
or through or in concert with one or more other persons, may acquire "control"
of any Federally insured depository institution unless the appropriate Federal
banking agency has been given 60 days prior written notice of the proposed
acquisition and within that period has not issued a notice disapproving of the
proposed acquisition or has issued written notice of its intent not to
disapprove the action. The period for the agency's disapproval may be extended
by the agency. Upon receiving such notice, the Federal agency is required to
provide a copy to the appropriate state regulatory agency, if the institution of
which control is to be acquired is state chartered, and the Federal agency is
obligated to give due consideration to the views and recommendations of the
state agency. Upon receiving a notice, the Federal agency is also required to
conduct an investigation of each person involved in the proposed acquisition.
Notice of such proposal is to be published and public comment solicited thereon.
A proposal may be disapproved by the Federal agency if the proposal would have
anticompetitive effects, if the proposal would jeopardize the financial
stability of the institution to be acquired or prejudice the interests of its
depositors, if the competence, experience or integrity of any acquiring person
or proposed management personnel indicates that it would not be in the interest
of depositors or the public to permit such person to control the institution, if
7
any acquiring person fails to furnish the Federal agency with all information
required by the agency, or if the Federal agency determines that the proposed
transaction would result in an adverse effect on a deposit insurance fund. In
addition, the Change in Control Act requires that, whenever any Federally
insured depository institution makes a loan or loans secured, or to be secured,
by 25% or more of the outstanding voting stock of a Federally insured depository
institution, the president or chief executive officer of the lending bank must
promptly report such fact to the appropriate Federal banking agency regulating
the institution whose stock secures the loan or loans.
Pennsylvania Banking Laws
Under the Pennsylvania Banking Code of 1965, as amended ("PA Code"), the
Registrant is permitted to control an unlimited number of banks, subject to
prior approval of the Federal Reserve Board as more fully described above. The
PA Code authorizes reciprocal interstate banking without any geographic
limitation. Reciprocity between states exists when a foreign state's law
authorizes Pennsylvania bank holding companies to acquire banks or bank holding
companies located in that state on terms and conditions substantially no more
restrictive than those applicable to such an acquisition by a bank holding
company located in that state. Interstate ownership of banks in Pennsylvania
with banks in Delaware, Maryland, New Jersey, Ohio, New York and other states,
is currently authorized. However, state laws still restrict de novo formations
of branches in other states. Pennsylvania law also provides Pennsylvania state
chartered institutions elective parity with the power of national banks, federal
thrifts, and state-chartered institutions in other states as authorized by the
Federal Deposit Insurance Corporation ("Competing Institutions"). In some cases,
this may give state chartered institutions broader powers than national banks
such as the Bank, and may increase competition the Bank faces from other banking
institutions.
Environmental Laws
The Registrant, the Bank and the Bank's customers are subject in the course
of their activities to a growing number of Federal, state and local
environmental laws and regulations. Neither the Registrant nor the Bank
anticipates that compliance with environmental laws and regulations will have
any material effect on capital expenditures, earnings, or on its competitive
positions.
Supervision and Regulation - Bank
The operations of the Bank are subject to Federal and State statutes
applicable to banks chartered under the banking laws of the United States, to
members of the Federal Reserve System and to banks whose deposits are insured by
the FDIC. Bank operations are also subject to regulations of the Office of the
Comptroller of the Currency ("OCC"), the Federal Reserve Board and the FDIC.
The primary supervisory authority of the Bank is the OCC, who regularly
examines the Bank. The OCC has the authority to prevent a national bank from
engaging in an unsafe or unsound practice in conducting its business.
Federal and state banking laws and regulations govern, among other things,
the scope of a bank's business, the investments a bank may make, the reserves
against deposits a bank must maintain, loans a bank makes and collateral it
takes, the activities of a bank with respect to mergers and consolidations and
the establishment of branches. All nationally and state-chartered banks in
Pennsylvania are permitted to maintain branch offices in any county of the
state. National bank branches may be established only after approval by the OCC.
8
It is the general policy of the OCC to approve applications to establish and
operate domestic branches, including ATMs and other automated devices that take
deposits, provided that approval would not violate applicable Federal or state
laws regarding the establishment of such branches. The OCC reserves the right to
deny an application or grant approval subject to conditions if (1) there are
significant supervisory concerns with respect to the applicant or affiliated
organizations, (2) in accordance with CRA, the applicant's record of helping
meet the credit needs of its entire community, including low and moderate income
neighborhoods, consistent with safe and sound operation, is less than
satisfactory, or (3) any financial or other business arrangement, direct or
indirect, involving the proposed branch or device and bank "insiders"
(directors, officers, employees and 10%-or-greater shareholders) involves terms
and conditions more favorable to the insiders than would be available in a
comparable transaction with unrelated parties.
The Bank, as a subsidiary of a bank holding company, is subject to certain
restrictions imposed by the Federal Reserve Act on any extensions of credit to
the bank holding company or its subsidiaries, on investments in the stock or
other securities of the bank holding company or its subsidiaries and on taking
such stock or securities as collateral for loans. The Federal Reserve Act and
Federal Reserve Board regulations also place certain limitations and reporting
requirements on extensions of credit by a bank to principal shareholders of its
parent holding company, among others, and to related interests of such principal
shareholders. In addition, such legislation and regulations may affect the terms
upon which any person becoming a principal shareholder of a holding company may
obtain credit from banks with which the subsidiary bank maintains a
correspondent relationship.
Prompt Corrective Action - Federal banking law mandates certain "prompt
corrective actions" which Federal banking agencies are required to take, and
certain actions which they have discretion to take, based upon the capital
category into which a Federally regulated depository institution falls.
Regulations have been adopted by the Federal bank regulatory agencies setting
forth detailed procedures and criteria for implementing prompt corrective action
in the case of any institution which is not adequately capitalized. Under the
rules, an institution will be deemed to be "adequately capitalized" or better if
it exceeds the minimum Federal regulatory capital requirements. However, it will
be deemed "undercapitalized" if it fails to meet the minimum capital
requirements, "significantly undercapitalized" if it has a total risk-based
capital ratio that is less than 6.0%, a Tier 1 risk-based capital ratio that is
less than 3.0%, or a leverage ratio that is less than 3.0%, and "critically
undercapitalized" if the institution has a ratio of tangible equity to total
assets that is equal to or less than 2.0%. The rules require an undercapitalized
institution to file a written capital restoration plan, along with a performance
guaranty by its holding company or a third party. In addition, an
undercapitalized institution becomes subject to certain automatic restrictions
including a prohibition on the payment of dividends, a limitation on asset
growth and expansion, and in certain cases, a limitation on the payment of
bonuses or raises to senior executive officers, and a prohibition on the payment
of certain "management fees" to any "controlling person". Institutions that are
classified as undercapitalized are also subject to certain additional
supervisory actions, including increased reporting burdens and regulatory
monitoring, a limitation on the institution's ability to make acquisitions, open
new branch offices, or engage in new lines of business, obligations to raise
additional capital, restrictions on transactions with affiliates, and
restrictions on interest rates paid by the institution on deposits. In certain
cases, bank regulatory agencies may require replacement of senior executive
officers or directors, or sale of the institution to a willing purchaser. If an
institution is deemed to be "critically undercapitalized" and continues in that
category for four quarters, the statute requires, with certain narrowly limited
exceptions, that the institution be placed in receivership.
9
Under the Federal Deposit Insurance Act, the OCC possesses the power to
prohibit institutions regulated by it, such as the Bank, from engaging in any
activity that would be an unsafe and unsound banking practice and in violation
of the law. Moreover, Federal law enactments have expanded the circumstances
under which officers or directors of a bank may be removed by the institution's
Federal supervisory agency; restricted and further regulated lending by a bank
to its executive officers, directors, principal shareholders or related
interests thereof; and restricted management personnel of a bank from serving as
directors or in other management positions with certain depository institutions
whose assets exceed a specified amount or which have an office within a
specified geographic area; and restricted management personnel from borrowing
from another institution that has a correspondent relationship with their bank.
Capital Rules - Pursuant to The Financial Institutions Reform, Recovery and
Enforcement Act of 1989 ("FIRREA") and the laws it amended, the Federal banking
agencies have issued certain "risk-based capital" guidelines, which supplemented
existing capital requirements. In addition, the OCC imposes certain "leverage"
requirements on national banks such as the Bank. Banking regulators have
authority to require higher minimum capital ratios for an individual bank or
bank holding company in view of its circumstances.
The risk-based guidelines require all banks and bank holding companies to
maintain two "risk-weighted assets" ratios. The first is a minimum ratio of
total capital ("Tier 1" and "Tier 2" capital) to risk-weighted assets equal to
8.00%; the second is a minimum ratio of "Tier 1" capital to risk-weighted assets
equal to 4.00%. Assets are assigned to five risk categories, with higher levels
of capital being required for the categories perceived as representing greater
risk. In making the calculation, certain intangible assets must be deducted from
the capital base. The risk-based capital rules are designed to make regulatory
capital requirements more sensitive to differences in risk profiles among banks
and bank holding companies and to minimize disincentives for holding liquid
assets.
The risk-based capital rules also account for interest rate risk.
Institutions with interest rate risk exposure above a normal level, would be
required to hold extra capital in proportion to that risk. A bank's exposure to
declines in the economic value of its capital due to changes in interest rates
is a factor that the banking agencies will consider in evaluating a bank's
capital adequacy. The rule does not codify an explicit minimum capital charge
for interest rate risk. The Bank currently monitors and manages its assets and
liabilities for interest rate risk, and management believes that the interest
rate risk rules which have been implemented and proposed will not materially
adversely affect the Bank's operations.
The OCC's "leverage" ratio rules require national banks which are rated the
highest by the OCC in the composite areas of capital, asset quality, management,
earnings and liquidity to maintain a ratio of "Tier 1" capital to "adjusted
total assets" (equal to the bank's average total assets as stated in its most
recent quarterly Call Report filed with the OCC, minus end-of-quarter intangible
assets that are deducted from Tier 1 capital) of not less than 3.00%. For banks
which are not the most highly rated, the minimum "leverage" ratio will range
from 4.00% to 5.00%, or higher at the discretion of the OCC, and is required to
be at a level commensurate with the nature of the riskiness of the bank's
condition and activities.
For purposes of the capital requirements, "Tier 1" or "core" capital is
defined to include common stockholders' equity and certain noncumulative
perpetual preferred stock and related surplus. "Tier 2" or "qualifying
supplementary" capital is defined to include a bank's allowance for loan and
lease losses up to 1.25% of risk-weighted assets, plus certain types of
preferred stock and related surplus, certain "hybrid capital instruments" and
certain term subordinated debt instruments.
10
Management does not anticipate that the foregoing capital rules will have a
material effect on the Registrant's business and capital plans.
Deposit Insurance Assessments - All Federally insured depository
institutions pay special assessments toward the funding of interest payments on
FICO bonds which were issued in 1989 to fund the savings and loan bailout. The
special assessments are calculated on a deposit-by-deposit basis and differs
depending upon whether a deposit is insured by SAIF or BIF. Currently, the
special assessment rates are 6.1 basis points on all SAIF-assessable deposits,
and 20% of that rate, or approximately 1.2 basis points, on all BIF-assessable
deposits, regardless of whether an institution is a "bank", a "savings
association". All assessable deposits at all institutions are assessed at the
same rates in order to pay FICO bond interest.
The FDIC sets deposit insurance assessment rates on a semiannual basis. The
FDIC has authority to reduce the assessment rates whenever the ratio of its
reserves to insured deposits is equal to or greater than 1.25%, and to increase
deposit insurance assessments whenever that ratio is less than 1.25%.
An institution's semiannual deposit insurance assessment is computed
primarily by multiplying its "average assessment base" (generally, total
insurable domestic deposits) for the prior semiannual period by one-half the
annual assessment rate applicable to that institution depending upon its risk
category, which is based principally on two measures of risk. These measures
involve capital and supervisory factors.
For the capital measure, institutions are assigned semiannually to one of
three capital groups according to their levels of supervisory capital as
reported on their Call Reports: "well capitalized" (group 1), "adequately
capitalized" (group 2) and "undercapitalized" (group 3). The capital ratio
standards for classifying an institution in one of these three groups are total
risk-based capital ratio (10 percent or greater for group 1, and between 8 and
10 percent for group 2), the Tier 1 risk-based capital ratio (6 percent or
greater for group 1, and between 4 and 6 percent for group 2), and the leverage
capital ratio (5 percent or greater for group 1, between 4 and 5 percent for
group 2). Management believes that the Bank has met the definition of "well
capitalized" for regulatory purposes on December 31, 1999 and thereafter.
Within each capital group, institutions are assigned to one of three
supervisory risk subgroups --subgroup A, B, or C, depending upon an assessment
of the institution's perceived risk based upon the results of its most recent
examination and other information available to regulators. Subgroup A will
consist of financially sound institutions with only a few minor weaknesses.
Subgroup B will consist of institutions that demonstrate weaknesses, which, if
not corrected, could result in significant deterioration of the institution and
increased risk of loss to the BIF. Subgroup C will consist of institutions that
pose a substantial probability of loss to the deposit insurance fund unless
effective corrective action is taken. Thus, there are nine possible
classifications to which varying assessment rates are applicable. The regulation
generally prohibits institutions from disclosing their subgroup assignments or
assessment risk classifications without FDIC authorization.
The following table sets forth the current BIF assessment rates by capital
group and supervisory risk subgroup (with no minimum assessment amount):
11
Supervisory subgroup
Capital Group A B C
------------- -------------------------
1 0 3 17
2 3 10 24
3 10 24 27
In addition to deposit insurance assessments, banks are subject to
assessments to pay the interest on Financing Corporation bonds. The Financing
Corporation was created by Congress to issue bonds to finance the resolution of
failed thrift institutions. The FDIC sets the Financing Corporation assessment
rate every quarter.
Interstate Banking - Federal law permits interstate bank mergers and
acquisitions. Limited branch purchases are still subject to state laws.
Pennsylvania law permits out-of-state banking institutions to establish branches
in Pennsylvania with the approval of the Pennsylvania Banking Department,
provided the law of the state where the banking institution is located would
permit a Pennsylvania banking institution to establish and maintain a branch in
that state on substantially similar terms and conditions. It also permits
Pennsylvania banking institutions to maintain branches in other states. Bank
management anticipates that interstate banking will continue to increase
competitive pressures in the Bank's market by permitting entry of additional
competitors, but management is of the opinion that this will not have a material
impact upon the anticipated results of operations of the Bank.
Bank Secrecy Act - Under the Bank Secrecy Act ("BSA"), the Bank is required
to report to the Internal Revenue Service, currency transactions of more than
$10,000 or multiple transactions of which the Bank is aware in any one day that
aggregate in excess of $10,000. Civil and criminal penalties are provided under
the BSA for failure to file a required report, for failure to supply information
required by the BSA or for filing a false or fraudulent report.
USA PATRIOT Act - The Uniting and Strengthening America by Providing
Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001
(together with its implementing regulations, the "Patriot Act"), designed to
deny terrorists and others the ability to obtain access to the United States
financial system, has significant implications for banks and other financial
institutions. It requires the Registrant and its subsidiaries to implement new
policies and procedures or amend existing policies and procedures with respect
to, anti-money laundering, compliance, suspicious activity and currency
transaction reporting and due diligence on customers, as well as related
matters. The Patriot Act permits and in some cases requires information sharing
for counter-terrorist purposes between federal law enforcement agencies and
financial institutions, as well as among financial institutions, and it requires
federal banking agencies to evaluate the effectiveness of an institution in
combating money laundering activities, both in ongoing examinations and in
connection with applications for regulatory approval. While the Registrant has
and will incur significant additional expense complying with Patriot Act
requirements, the Registrant does not anticipate this legislation to have any
other material adverse impact on the Registrant.
Community Reinvestment Act - Under the Community Reinvestment Act of 1977
("CRA"), the record of a bank holding company and its subsidiary banks must be
considered by the appropriate Federal banking agencies, including the Federal
Reserve and the OCC, in reviewing and approving or disapproving a variety of
regulatory applications including approval of a branch or other deposit
facility, office relocation, a merger and certain acquisitions of bank shares.
Federal banking agencies have recently demonstrated an increased readiness to
deny applications based on unsatisfactory CRA performance. The OCC is required
to assess the record of the Bank to determine if it is meeting the credit needs
of the community (including low and moderate neighborhoods) which it serves.
12
FIRREA amended the CRA to require, among other things, that the OCC make
publicly available an evaluation of the Bank's record of meeting the credit
needs of its entire community including low- and moderate-income neighborhoods.
This evaluation includes a descriptive rating (outstanding, satisfactory, needs
to improve, or substantial noncompliance) and a statement describing the basis
for the rating.
Other Laws and Regulations - The Bank is subject to a variety of consumer
protection laws, including the Truth in Lending Act, the Truth in Savings Act
adopted as part of the Federal Deposit Insurance Corporation Improvement Act of
1991 ("FDICIA"), the Equal Credit Opportunity Act, the Home Mortgage Disclosure
Act, the Electronic Funds Transfer Act, the Real Estate Settlement Procedures
Act and the regulations adopted thereunder. In the aggregate, compliance with
these consumer protection laws and regulations involves substantial expense and
administrative time on the part of the Bank and the Registrant.
Legislation and Regulatory Changes - From time to time, legislation is
enacted which has the effect of increasing the cost of doing business, limiting
or expanding permissible activities and/or affecting the competitive balance
between banks and other financial institutions. Proposals to change the laws and
regulations governing the operations and taxation of banks, bank holding
companies and other financial institutions are frequently made in Congress, and
before various bank regulatory agencies. No prediction can be made as to the
likelihood of any major changes or the impact such changes might have on the
Registrant and its subsidiary Bank.
Effect of Government Monetary Policies - The earnings of the Registrant are
and will be affected by domestic economic conditions and the monetary and fiscal
policies of the United States Government and its agencies (particularly the
Federal Reserve Board). The monetary policies of the Federal Reserve Board have
had and will likely continue to have, an important impact on the operating
results of commercial banks through its power to implement national monetary
policy in order, among other things, to curb inflation or combat a recession.
The Federal Reserve Board has a major effect upon the levels of bank loans,
investments and deposits through its open market operations in United States
Government securities and through its regulation of, among other things, the
discount rate on borrowing of member banks and the reserve requirements against
member bank deposits. It is not possible to predict the nature and impact of
future changes in monetary and fiscal policies.
Additional information regarding the Registrant's business is included in
Management's Discussion and Analysis of Financial Condition and Results of
Operations (pages 3 through 26) in the Registrant's 2003 Annual Report to
Shareholders and is incorporated herein by reference and attached to this filing
as Exhibit 13.
Item 2. Properties
The main office of the Bank is located at 4 Brandywine Avenue, Downingtown,
Pennsylvania 19335. The Registrant's registered office is also at this location.
The Registrant pays no rent or other form of consideration for the use of the
Bank's main office as its principal executive office. The Bank also has an
operations center located at 104-106 Brandywine Avenue, Downingtown. With the
exception of the West Goshen office, Exton office and a limited service office
at Tel Hai Retirement Community, all of which are leased, the Bank owns all of
its existing branches as described below which had a net book value of $5.4
million including leasehold improvements at December 31, 2003.
13
The bank has nine full service offices located in Chester County,
Pennsylvania. In addition to the Main Office discussed above, they are:
Office Office Location Owned/Leased
- ------------------ --------------------------------------------------- -----------
Caln Office 1835 East Lincoln Highway, Coatesville Owned
East End Office 701 East Lancaster Avenue, Downingtown Owned
Exton Office 410 Exton Square Parkway, Exton Leased
Kennett Square Office 215 E. Cypress St., Kennett Square Owned
Lionville Office Intersection of Route 100 and Welsh Pool Road, Exton Owned
Little Washington Office Route 322 and Culbertson Run Road, Downingtown Owned
Ludwig's Corner Office Intersection of Routes 100 and 401, Uwchland Owned
Tel Hai Office Tel Hai Retirement Community, Honey Brook (Limited Service) Leased
West Goshen Office 1115 West Chester Pike, West Chester Leased
Item 3. Legal Proceedings
DNB is a party to a number of lawsuits arising in the ordinary course of
business. While any litigation causes an element of uncertainty, management is
of the opinion that the liability, if any, resulting from the actions, will not
have a material effect on the accompanying financial statements.
Item 4. Submission of Matters to a Vote of Security Holders
No matter was submitted during the fourth quarter of 2003 to a vote of
holders of the Corporation's common stock.
Part II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters
The information required herein is incorporated by reference to the
Registrant's Annual Report to Shareholders ("Annual Report") for the year ended
December 31, 2003 at page 25, filed as Exhibit 13.
Item 6. Selected Financial Data
The information required herein is incorporated by reference to the
Registrant's Annual Report for the year ended December 31, 2003 at page 2, filed
as Exhibit 13.
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations
The information required herein is incorporated by reference to the
Registrant's Annual Report for the year ended December 31, 2003 from pages 4 to
27, filed as Exhibit 13.
Item 7a. Quantitative and Qualitative Disclosures About Market Risk
To measure the impacts of longer-term asset and liability mismatches beyond
two years, DNB utilizes Modified Duration of Equity and Economic Value of
Portfolio Equity ("EVPE") models. The modified duration of equity measures the
potential price risk of equity to changes in interest rates. A longer modified
duration of equity indicates a greater degree of risk to rising interest rates.
Because of balance sheet optionality, an EVPE analysis is also used to
dynamically model the present value of asset and liability cash flows, with
rates ranging up or down 200 basis points. The economic value of equity is
likely to be different if rates change. Results falling outside prescribed
14
ranges require action by management. At December 31, 2003 and 2002, DNB's
variance in the economic value of equity as a percentage of assets with an
instantaneous and sustained parallel shift of 200 basis points was within its
negative 3% guideline, as shown in the tables below. However, the change as a
percentage of the present value of equity with a 200 basis point decline at
December 31, 2002, was negative 35.1% and outside of DNB's negative 25% policy.
This occurred as the duration of DNB's assets shortened more quickly than the
duration of DNB's liabilities. Subsequent to December 31, 2002, management has
taken the necessary steps to move this ratio within policy guidelines, including
but not limited to reducing the level of Federal funds sold, purchasing
municipal securities with positive convexity, promoting five year fixed rate
lending and attempting to shorten the overall duration of deposits through
pricing. In addition management reduced the amount of its short-term borrowings
and duration of its investment portfolio. At December 31, 2003 DNB's change as a
percentage of the present value of equity with a 200 basis point rise was
negative 19.3% and a 200 basis point decline was negative 11.7%; both well
within policy guidelines.
December 31, 2002 December 31, 2003
Change in rates Flat -200bp +200bp Flat -200bp +200 bp
EVPE $33,915 $29,953 $27,357 $27,381 $17,760 28,553
Change (3,691) (6,557) (9,621) 1,172
Change as a % of assets (1.0%) (1.6%) (2.5%) 0.3%
Change as a % of PV equity (11.7%) (19.3%) (35.1%) 4.3%
Item 8. Financial Statements and Supplementary Data
The information required herein is incorporated by reference to the
Registrant's Annual Report for the year ended December 31, 2003 from pages 28 to
49, filed as Exhibit 13.
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
None
Item 9a. Controls and Procedures
The Registrant's Chief Executive Officer and Chief Financial Officer
have reviewed and evaluated the effectiveness of disclosure controls and
procedures (as defined in Exchange Act Rule 15d-14(c)) as of December 31, 2003
in accordance with the requirements of Exchange Act Rule 240.15d-15(b). Based on
that evaluation, the Chief Executive Officer and the Chief Financial Officer
have concluded that the Registrant's current disclosure controls and procedures
are effective and timely, providing them with material information relating to
the Registrant and its subsidiaries required to be disclosed in the reports the
Registrant files under the Exchange Act.
The Registrant conducted an evaluation of internal control over
financial reporting to determine whether any changes occurred during the quarter
ended December 31, 2003, that have materially affected, or are reasonably likely
to materially affect, the Registrant's internal control over financial
reporting. Based on this evaluation, there has been no such change during the
quarter that ended December 31, 2003.
15
Part III
Item 10. Directors and Executive Officers of the Registrant
The information required herein is incorporated by reference to the
Registrant's Proxy Statement from pages 3 to 7. The Registrant's Code of Ethics
is attached as Exhibit 14.
Item 11. Executive Compensation
The information required herein is incorporated by reference to the
Registrant's Proxy Statement from pages 8 to 11.
Item 12. Security Ownership of Certain Beneficial Owners and Management
The information required herein is incorporated by reference to the
Registrant's Proxy Statement at page 2.
Item 13. Certain Relationships and Related Transactions
The information required herein is incorporated by reference to the
Registrant's Proxy Statement at page 13.
Item 14. Principal Accountant Fees and Services
The information required herein is incorporated by reference to the
Registrant's Proxy Statement at page 27.
Part IV
Item 15 Exhibits, Financial Statement Schedules, and Reports on Form 8-K
(a) The following documents are filed as part of this report:
(1.) Financial statements.
Page
Consolidated Statements of Income for the Years Ended December 31, 2003, 2002 and 2001 *
Consolidated Balance Sheets as of December 31, 2003 and 2002 *
Consolidated Statements of Changes in Shareholders' Equity for the Years Ended
December 31, 2003, 2002 and 2001 *
Consolidated Statements of Cash Flows for the Years Ended
December 31, 2003, 2002 and 2001 *
Notes to Consolidated Financial Statements *
Report of Independent Auditors -- KPMG LLP *
* Incorporated by reference to pages 28 through 50 of the Registrant's 2003
Annual Report to Shareholders attached to this filing as Exhibit 13.
(2.) Those financial statement schedules required to be filed
by Item 8 of this form, and by paragraph (d) below. All schedules
normally required by Form 10-K are omitted because they are not
applicable or the required information is shown in the financial
statements or notes thereto contained in the Annual Report filed as
part of this report.
(3.) Exhibits, pursuant to Item 601 of Regulation S-K.
16
Exhibit Number Referred to
Item 601 of Regulation S-K Description of Exhibit
3 (i) Amended and Restated Articles of Incorporation, as amended
effective June 15, 2001, filed on August 14, 2001, as Item
6(a) to Form 10Q (No. 0-16667) and incorporated herein by
reference.
(ii) By-laws of the Registrant as amended December 19, 2001, filed
on March 24, 2002 at Item 3b to Form 10-K for the fiscal year
ended December 31, 2001 (No. 0-16667) and incorporated herein
by reference.
10 (a) Employment Agreement between Downingtown National Bank and
Henry F. Thorne dated December 31, 1996 filed on March 26,
1999 at Item 10.1 to Form 10-K for the fiscal year ended
December 31, 1998 (No. 0-16667) and incorporated herein by
reference.
(b) Form of Change of Control Agreements (i) dated May 5, 1998
between DNB Financial Corporation and Downingtown National
Bank and the following executive officers: Ronald K.
Dankanich; Eileen M. Knott and Bruce E. Moroney and (ii)
dated July 18, 2000, April 28, 2003 and September 22, 2003
between DNB Financial Corporation and Downingtown National
Bank and Kristen J. LaDow, William J. Hieb and Richard M.
Wright, respectively, each in the form filed on March 26,
1999 at Item 10.2 to Form 10-K for the fiscal year ended
December 31, 1998 (No. 0-16667), and incorporated herein
by reference.
(c) 1995 Stock Option Plan of DNB Financial Corporation (as
amended and restated, effective as of April 27, 1999), filed
on May 20, 1999 as Exhibit 4 to Registration Statement No.
33-93272, and incorporated herein by reference.
(d) Death Benefit Agreement between Downingtown National Bank and
Henry F. Thorne dated November 24, 1999, filed March 20, 2002
as Item 10(d) to Form 10-K for the fiscal year ended December
31, 2001 (No. 0-16667) and incorporated herein by reference.
17
(e) Form of Change of Control Agreements, as amended November 10,
2003, between DNB Financial Corporation and Downingtown
National Bank and each of the following Directors: William S.
Latoff, James H. Thornton, Louis N. Teti, Joseph G. Riper,
James J. Koegel, Eli Silberman and Henry F. Thorne, filed on
November 14, 2003 as Item 10(e) to Form 8-K (No. 0-16667) and
incorporated herein by reference.
(f) Retirement and Change of Control Agreement dated as of
February 27, 2002, between DNB Financial Corporation and
Downingtown National Bank and Thomas R. Greenleaf, a
Director, filed on November 14, 2003 as Item 10(f) to Form
8-K (No. 0-16667) and incorporated herein by reference.
(g) First Amendment to Employment Agreement of Henry F. Thorne
dated December 23, 2003.
(h) Retirement and Death Benefit Agreement between Downingtown
National Bank and Henry F. Thorne dated December 23, 2003.
11 Statement of Computation of earnings per share, see footnote
#1 in Annual Report of the Registrant for the year ended
December 31, 2003, attached hereto as Exhibit 13 and
incorporated herein by reference.
13 Annual Report to Stockholders for the year ended December 31,
2003.
14 Code of Ethics.
21 List of Subsidiaries.
23 Consent of KPMG LLP.
31.1 Certification Pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002 for the Chief Executive Officer.
31.2 Certification Pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002 for the Chief Financial Officer.
32.1 Certification of Chief Executive Officer pursuant to Section
906.
32.2 Certification of Chief Financial Officer pursuant to Section
906.
(b) Reports on Form 8-K
The Registrant filed the following Current Reports on Form 8-K
during the quarter ended December 31, 2003:
18
Date Item Reported
October 17, 2003 Items 7 and 9 - Press Release announcing hiring of
Richard M. Wright as SVP of Retail Banking and
Marketing
October 27, 2003 Items 7, 9 and 12 - Third quarter earning release with
summary financial information.
November 14, 2003 Items 5, 7 and 9 - Announcements of changes in the
following: 10(e) Form of Change of Control Agreements,
as amended November 10, 2003, between DNB Financial
Corporation and Downingtown National Bank and each of
the following Directors: William S. Latoff, James H.
Thornton, Louis N. Teti, Joseph G. Riper, James J.
Koegel, Eli Silberman and Henry F. Thorne
10(f) Retirement and Change of Control Agreement dated
as of February 27, 2002, between DNB Financial
Corporation and Downingtown National Bank and Thomas R.
Greenleaf, a Director
99.1 A copy of the Bank's Notice of Cessation of Future
Benefit Accruals under the Bank's Retirement Plan,
Effective as of December 31, 2003
99.2 A copy of the November 14, 2003 cover letter to
employees from Henry F. Thorne, the Bank's President
and Chief Executive Officer, providing the notice and
explaining certain facts and circumstances relating to
the Bank's decision to amend its Retirement Plan and to
implement a defined contribution plan.
November 28, 2003 Items 7 and 9 - Announcement of cash dividend and stock
dividend.
(c) Exhibits required by Item 601 of Regulation S-K. The exhibits
required to be filed pursuant to this item are listed above under (a)(3) of this
Item.
(d) Financial statements required by Regulation S-X which are excluded
from the annual report. Not Applicable.
19
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
DNB FINANCIAL CORPORATION
March 26, 2004
BY: /s/ Henry F. Thorne
------------------------
Henry F. Thorne, President and
Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934,
this Report has been signed below by the following persons and on behalf of the
Registrant and in the capacities and on the dates indicated.
/s/ Henry F. Thorne March 26, 2004
----------------------------
Henry F. Thorne, President,
Chief Executive Officer and Director
/s/ Bruce E. Moroney March 26, 2004
----------------------------
Bruce E. Moroney
Chief Financial Officer
(Principal Accounting Officer)
/s/ William S. Latoff March 26, 2004
----------------------------
William S. Latoff
Chairman of the Board
/s/ James H. Thornton March 26, 2004
----------------------------
James H. Thornton
Vice-Chairman of the Board
/s/ Thomas R. Greenleaf March 26, 2004
----------------------------
Thomas R. Greenleaf
Director
/s/ James J. Koegel March 26, 2004
----------------------------
James J. Koegel
Director
/s/ Joseph G. Riper March 26, 2004
----------------------------
Joseph G. Riper
Director
/s/ Eli Silberman March 26, 2004
----------------------------
Eli Silberman
Director
/s/ Louis N. Teti March 26, 2004
----------------------------
Louis N. Teti
Director
20