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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C.
FORM 10-Q
(Mark One)
_X_ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2002 OR
___ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM ______________ TO
_____________
UNITED BANCSHARES, INC.
- --------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
0-25976
- --------------------------------------------------------------------------------
Commission File Number
Pennsylvania 23-2802415
- --------------------------------------------------------------------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
300 North 3rd Street, Philadelphia, PA 19106
- --------------------------------------------------------------------------------
(Address of principal executive office) (Zip Code)
(215) 351-4600
- --------------------------------------------------------------------------------
(Registrant's telephone number, including area code)
N/A
- --------------------------------------------------------------------------------
(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether 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 twelve months (or such shorter period that the registrant was
required to filed such reports), and (2) has been subject to such filing
requirements for the past 90 day. Yes _X_ No____
Applicable only to issuers involved in bankruptcy proceedings during the
preceding five years:
Indicate by check mark whether the registrant has filed all documents and
reports required to be filed by Sections 12, 13, or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court. Yes _____ No _____
Applicable only to corporate issuers:
Indicate the number of shares outstanding of each of the issuer's classes of
common stock as of the latest practicable date.
Registrant has two classes of capital stock authorized - 2,000,000 shares of
$.01 par value Common stock and Series Preferred Stock (Series A Preferred
Stock). The Board of Directors designated a subclass of the common stock,
designated Class B Common Stock, by filing of Articles of Amendment on September
30, 1998. This Class of stock has all of the rights and privileges of Common
Stock with the exception of voting. Of the 2,000,000 shares of Common Stock
authorized, 250,000 have been designated Class B Common Stock. As of August 9,
2002, 1,102,088 (191,667 Class B Non voting) shares were issued and outstanding.
The Board of Directors of United Bancshares, Inc. designated one series
of the Series Preferred Stock (the "Series A Preferred Stock"), 500,000
authorized of which 143,150 shares were outstanding as of August 9, 2002.
2
FORM 10-Q
----------------
Index
Item No. Page
PART I
1. Financial Statements........................................................................... 4
2. Management's Discussion and Analysis of Financial Condition and Results of Operations.......... 7
3. Quantitative and Qualitative Disclosures about Market Risk..................................... 18
PART II
1. Legal Proceedings.............................................................................. 21
2. Working Capital Restrictions on the Payment of Dividends....................................... 21
3. Defaults upon Senior Securities................................................................ 22
4 Submission of Matters to a Vote of Security Holders............................................ 22
5. Other Information.............................................................................. 22
6. Exhibits and Reports on Form 8K................................................................ 22
3
Item 1. Financial Statements
United Bancshares, Inc.
Consolidated Balance Sheets
(Unaudited)
June 30, December 31,
2002 2001
---------- ----------
Assets
Cash and due from banks 4,224,927 5,747,131
Interest bearing deposits with banks 860,668 256,847
Federal funds sold 9,833,000 7,778,000
---------- ----------
Cash & cash equivalents 14,918,595 13,781,978
Investment securities:
Held-to-maturity, at amortized cost, market value of $10,378,581
at June 30, 2002 and 11,735,146 at December 31, 2001 10,093,370 11,466,372
Available-for-sale, at market value 15,382,334 14,339,643
Loans, net of unearned discount 41,589,442 42,999,877
Less: allowance for loan losses (768,123) (708,156)
---------- ----------
Net loans 40,821,319 42,291,721
Bank premises & equipment, net 2,705,376 2,978,265
Accrued interest receivable 783,248 911,470
Other real estate owned 42,500 45,000
Core deposit intangible 2,029,395 2,118,868
Prepaid expenses and other assets 818,435 734,741
---------- ----------
Total Assets 87,594,572 88,668,058
---------- ----------
Liabilities & Shareholders' Equity
Demand deposits, non-interest bearing 19,490,677 19,471,758
Demand deposits, interest bearing 12,202,588 12,613,507
Savings deposits 21,996,218 23,227,604
Time deposits, $100,000 and over 13,299,790 13,795,997
Time deposits 11,503,714 10,313,657
---------- ----------
78,492,987 79,422,523
Accrued interest payable 256,594 263,550
Accrued expenses and other liabilities 471,200 424,275
---------- ----------
Total Liabilities 79,220,781 80,110,348
Shareholders' equity:
Preferred Stock, Series A, non-cum., 6%, $.01 par value,
500,000 shrs auth., 143,150 issued and outstanding 1,432 1,432
Common stock, $.01 par value; 2,000,000 shares authorized;
1,100,388 shares issued and outstanding at June 30, 2002
and December 30, 2001 11,004 11,004
Additional-paid-in-capital 14,729,070 14,729,070
Accumulated deficit (6,562,199) (6,282,615)
Net unrealized gain on available-for-sale securities 194,484 98,819
---------- ----------
Total Shareholders' equity 8,373,791 8,557,710
---------- ----------
87,594,572 88,668,058
---------- ----------
See accompanying note.
4
Statement of Operations
(unaudited)
Quarter ended Quarter ended Six months ended Six months ended
June 30, June 30, June 30, June 30,
2002 2001 2002 2001
--------- --------- --------- ---------
Interest Income:
Interest and fees on loans 727,947 $1,021,302 1,465,629 $1,973,095
Interest on investment securities 389,423 403,952 778,784 $909,960
Interest on Federal Funds sold 50,717 86,673 97,591 $150,553
Interest on time deposits with other banks 1,477 2,514 3,167 $4,108
--------- --------- --------- ---------
Total interest income 1,169,564 1,514,441 2,345,171 3,037,716
Interest Expense:
Interest on time deposits 171,835 277,297 376,837 $564,444
Interest on demand deposits 27,792 45,643 55,027 $108,415
Interest on savings deposits 32,768 89,399 65,925 $184,098
--------- --------- --------- ---------
Total interest expense 232,395 412,339 497,789 856,957
Net interest income 937,169 1,102,102 1,847,382 2,180,759
Provision for loan losses 37,500 20,000 75,000 30,000
--------- --------- --------- ---------
Net interest income less provision for
loan losses 899,669 1,082,102 1,772,382 2,150,759
--------- --------- --------- ---------
Noninterest income:
Customer service fees 485,648 555,058 973,634 $1,109,926
Realized gain (loss) on investments 0 0 25,789 0
Other income 58,881 96,692 76,391 $126,878
--------- --------- --------- ---------
Total noninterest income 544,529 651,750 1,075,814 1,236,804
Non-interest expense
Salaries, wages, and employee benefits 615,639 619,852 1,242,822 $1,269,011
Occupancy and equipment 322,997 411,896 703,145 $812,413
Office operations and supplies 111,282 110,204 215,247 $245,909
Marketing and public relations 14,331 20,344 26,864 $41,470
Professional services 54,458 63,556 112,616 $124,749
Data processing 139,878 207,062 306,588 $417,257
Deposit insurance assessments 9,072 37,634 18,594 $77,485
Other noninterest expense 241,911 308,037 501,905 $512,390
--------- --------- --------- ---------
Total non-interest expense 1,509,568 1,778,585 3,127,781 3,500,684
--------- --------- --------- ---------
Net income (loss) ($65,370) ($44,733) ($279,585) ($113,121)
--------- --------- --------- ---------
Earnings per share-basic ($0.06) ($0.04) ($0.25) ($0.10)
Earnings per share-diluted ($0.06) ($0.04) ($0.25) ($0.10)
--------- --------- --------- ---------
Weighted average number of shares 1,100,388 1,099,450 1,100,388 1,099,450
--------- --------- --------- ---------
See accompanying note.
5
Statement of Cash Flows
(unaudited)
Six Months Six Months
ended ended
June 2002 June 2001
---------- ----------
Cash flows from operating activities
Net loss ($ 279,584) (113,121)
Adjustments to reconcile net loss to net cash
provided by operating activities:
Provision for loan losses 75,000 30,000
Gain on sale of fixed assets (39,753) (84,090)
Depreciation and amortization 366,474 387,500
Decrease (increase) in accrued interest receivable and other assets 47,028 (141,994)
Increase (decrease) in accrued interest payable and other liabilities 39,969 (49,670)
---------- ----------
Net cash provided by operating activities 209,134 28,625
Cash flows from investing activities
Purchase of investments-Available-for-Sale (7,791,039) (7,262,797)
Purchase of investments-Held-to Maturity (500,000)
Proceeds from maturity & principal reductions of investments-Available-for-Sale 5,782,223 4,882,964
Proceeds from maturity & principal reductions of investments-Held-to-Maturity 1,890,674 11,625,268
Proceeds from sale of investments-Available-for-Sale 1,091,063 118,600
Net (increase) decrease in loans 1,395,402 628,849
Purchase of premises and equipment (121,304)
Sale of premises and equipment 110,000 147,701
---------- ----------
Net cash provided by investing activities 1,857,018 10,140,585
Cash flows from financing activities
Net (decrease) in deposits (929,536) (2,133,949)
Net proceeds from issuance of common stock 2,000
---------- ----------
Net cash used in financing activities (929,536) (2,133,949)
Increase in cash and cash equivalents 1,136,617 8,037,260
Cash and cash equivalents at beginning of period 13,781,978 6,293,880
Cash and cash equivalents at end of period 14,918,595 14,331,140
========== ==========
Supplemental disclosures of cash flow information
Cash paid during the period for interest 752,539 880,010
========== ==========
See accompanying note.
6
NOTE 1. General
United Bancshares, Inc. (the "Company") is a bank holding company
registered under the Bank Holding Company Act of 1956. The Company's principal
activity is the ownership and management of its wholly owned subsidiary, United
Bank of Philadelphia (the "Bank").
During interim periods, the Company follows the accounting policies set
forth in its Annual Report on Form 10-K filed with the Securities and Exchange
Commission. Readers are encouraged to refer to the Company's Form 10-K for the
fiscal year ended December 31, 2001 when reviewing this Form 10-Q. Quarterly
results reported herein are not necessarily indicative of results to be expected
for other quarters.
In the opinion of management, the accompanying unaudited consolidated
financial statements contain all adjustments (consisting of normal recurring
adjustments) considered necessary to present fairly the Company's consolidated
financial position as of June 30, 2002 and December 31, 2001 and the
consolidated results of its operations for the three and six month periods ended
June 30, 2002 and 2001, and its consolidated stockholders' equity for the six
month period ended June 30, 2002, and its consolidated cash flows for the six
month periods ended June 30, 2002 and 2001.
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations.
Because the Company is a bank holding company for the Bank, the financial
statements in this report are prepared on a consolidated basis to include the
accounts of the Company and the Bank. The purpose of this discussion is to focus
on information about the Bank's financial condition and results of operations,
which is not otherwise apparent from the consolidated financial statements
included in this quarterly report. This discussion and analysis should be read
in conjunction with the financial statements presented elsewhere in this report.
Selected Financial Data
The following table sets forth selected financial data for the each of the
following periods:
(Thousands of dollars, except per share data) Three months ended Three months ended
------------------- ------------------
June 30, 2002 June 30, 2001
------------- -------------
Net interest income $ 937 $1,102
Provision for loan losses 37 20
Noninterest income 545 652
Noninterest expense 1,510 1,779
Net income (loss) (65) (45)
Earnings per share-basic and diluted ($.06) ($.04)
Balance sheet totals: June 30, 2002 December 31, 2001
------------- -----------------
Total assets $ 87,595 $88,668
Loans, net $ 40,821 $42,292
Investment securities $ 25,476 $25,806
Deposits $ 78,493 $79,423
Shareholders' equity $ 8,374 $ 8,558
Ratios
Return on assets (0.63)% (0.95)%
Return on equity (6.90)% (9.31)%
Equity to assets ratio 7.41% 7.67%
Financial Condition
Sources and Uses of Funds
The financial condition of the Bank can be evaluated in terms of trends in its
sources and uses of funds. The comparison of average balances in the following
table indicates how the Bank has managed these elements. Average funding sources
decreased approximately $973 thousand, or 1.22%, during the quarter ending June
30, 2002. Average funding uses increased $1 million, or 1.29%, for the same
quarter.
7
Sources and Uses of Funds Trends
(Thousands of dollars, except percentages)
June 30, 2002 March 31, 2002
Average Increase (Decrease) Average
Balance Amount % Balance
------- ------ --- -------
Funding uses:
Loans $ 41,029 ($379) (0.92)% $41,408
Investment securities
Held-to-maturity 10,823 (422) (3.76) 11,245
Available-for-sale 14,516 1,138 8.51 13,377
Federal funds sold 12,242 667 5.76 11,575
-------- ------ -------
Total uses $ 78,609 $1,004 $77,605
======== ====== =======
Funding sources:
Demand deposits
Noninterest-bearing $ 19,402 ($ 379) (1.92)% $19,781
Interest-bearing 12,103 131 (46.63) 11,972
Savings deposits 22,416 (270) 24.00 22,686
Time deposits 24,752 (455) (1.81) 25,207
-------- ------ -------
Total sources $ 78,673 ($ 973) $79,646
======== ====== =======
Loans
Average loans decreased approximately $379 thousand, or 0.92%, during the
quarter ended June 30, 2002. Compared to the previous quarter, the decline in
loans has began to slow as loan originations came close to offsetting loan
payoffs and paydowns. However, consumers continue to refinance existing loans or
sell existing homes to purchase new homes to take advantage of the current low
interest rate environment. Because the Bank is not a competitive player in the
mortgage loan origination market, it does not generate sufficient mortgage loan
volume to cover these payoffs.
The Bank has developed relationships with other financial institutions in the
region with which it participates in loans as a strategy to stabilize and grow
its loan portfolio. Approximately $1.8 million in commercial loan participations
with other financial institutions were booked during the quarter ended June 30,
2002. This strategy is being utilized while the Bank continues to enhance its
own business development capacity. In addition, the Bank will focus on
originating consumer loans including home equity, automobile, student and credit
card loans as a means to increase volume and diversify credit risk.
The following table shows the composition of the loan portfolio of the Bank by
type of loan.
(Thousands of Dollars)
June 30, December 31,
2002 2001
------- -------
Commercial and industrial $ 9,434 $11,054
Commercial real estate 8,207 5,504
Consumer loans 7,923 8,294
Residential mortgages 16,025 18,148
------- -------
Total Loans $41,589 $43,000
======= =======
Allowance for Loan Losses
The allowance for loan losses reflects management's continuing evaluation of the
loan portfolio, the diversification and size of the portfolio, and adequacy of
collateral. The following factors are considered in determining the adequacy of
the allowance for loan losses: levels and trends in delinquencies and impaired
loans; levels of and trends in charge-offs and recoveries; trends in volumes and
terms of loans, effects of any changes in risk selection and underwriting
standards, and other changes in lending policies, procedures and practices;
8
experience, ability, and depth of lending management and relevant staff;
national and local economic conditions; industry conditions; and effects of
changes in credit concentrations.
The following Table presents an analysis of the allowance for loan losses.
ANALYSIS OF ALLOWANCE FOR LOAN LOSSES
(Dollars in thousands)
Balance at January 1, 2002 $708
Charge-offs:
Commercial and industrial (7)
Residential mortgages ----
Consumer loans (107)
Total charge-offs (114)
Recoveries 99
Net(charge-offs) recoveries (15)
Additions charged to operations 75
--
Balance at June 30, 2002 768
The allowance for loan losses as a percentage of total loans was 1.85% at June
30, 2002. During the past year, there was an economic downturn and economic
uncertainty continues. Because the impact on the borrowers may lag the current
economic conditions, the Bank proactively monitors its credit quality while
working with borrowers in an effort to identify and control credit risk.
Management believes the level of the allowance for loan losses is adequate as of
June 30, 2002.
While management uses available information to recognize losses on loans, future
additions may be necessary based on changes in economic conditions. In addition,
various regulatory agencies, as an integral part of their examination process,
periodically review the Bank's allowance for loan losses. Such agencies may
require the Bank to recognize additions to the allowance based on their
judgments of information available to them at the time of the examination.
Nonperforming and Nonaccrual Loans
The Bank generally determines a loan to be "nonperforming" when interest or
principal is past due 90 days or more. If it otherwise appears doubtful that the
loan will be repaid, management may consider the loan to be "nonperforming"
before the lapse of 90 days. The policy of the Bank is to charge-off unsecured
loans after 90 days past due. Interest on "nonperforming" loans ceases to accrue
except for loans that are well collateralized and in the process of collection.
When a loan is placed on non-accrual, previously accrued and unpaid interest is
generally reversed out of income unless adequate collateral from which to
collect the principal of and interest on the loan appears to be available. At
June 30, 2002, non-accrual loans were $639 thousand, or .15% of the loan
portfolio of which $373 thousand were guaranteed by the Small Business
Administration.
9
The Bank has one borrower with loans totaling in excess of $1.2 million that is
experiencing financial difficulty. Guarantees from the Small Business
Administration (SBA) reduce the Bank's exposure to approximately $500 thousand.
A specific reserve of $250 thousand has been allocated to this loan for
potential losses. Management continues to work closely with this borrower to
minimize the risk of loss. There is no other known information about possible
credit problems other than those classified as nonaccrual that causes management
to be uncertain as to the ability of any borrower to comply with present loan
terms.
The Bank grants commercial, residential and consumer loans to customers
primarily located in Philadelphia County, Pennsylvania and surrounding counties
in the Delaware Valley. From time to time, the Bank purchases loans from other
financial institutions. These loans are generally located in the Northeast
corridor of the United States. Although the Bank has a diversified loan
portfolio, its debtors' ability to honor their contracts is influenced by the
region's economy.
At June 30, 2002, approximately 26% of the Bank's commercial loan portfolio was
concentrated in loans made to religious organizations. From inception, the Bank
has received support in the form of investments and deposits and has developed
strong relationships with the Philadelphia region's religious community. Loans
made to these organizations were primarily for expansion and repair of church
facilities. At June 30, 2002, none of these loans was nonperforming.
Investment Securities and other short-term investments
Investment securities, including Federal Funds Sold, increased on average by
$1.4 million, or 3.82%, during the quarter ended June 30, 2002. This increase is
due to pay-offs in the Bank's loan portfolio as well as called agency
securities. In April 2002, investment strategies were developed and implemented
to place funds in longer term securities including mortgage-backed (MBS) and
other agency securities to decrease the level of investment in low yielding
Federal Funds Sold. However, in June 2002, management modified this strategy to
shift investable funds to fund the purchase of loan participations from other
financial institutions and to fund the growing commercial loan pipeline.
The Bank's current investment portfolio primarily consists of mortgage-backed
pass-through agency securities, and other government-sponsored agency
securities. The Bank does not invest in high-risk securities or complex
structured notes. The yield on the portfolio is 5.98% and the average duration
of the portfolio is 2.08 years. In the current low interest rate environment,
the duration of the investment portfolio is significantly shortened because of
the high level of callable government agency securities - approximately 39% at
June 30, 2002. Approximately $4 million in securities were called during the
quarter. The average yield of called securities was 6.00%. The Bank re-invested
these funds in securities with average yields of approximately 5.70%. Calls will
likely continue as the rate environment remains at historically low levels. The
result is additional liquidity and a reduction in yield on the portfolio. The
Bank will continue to take steps to combat the impact of the high level of
optionality in the portfolio by identifying replacement loans or securities that
diversify risk and provide some level of monthly cashflow to be reinvested in
the future projected rising rate environment.
10
Deposits
Average deposits decreased approximately $973 thousand, or 1.22%, during the
quarter ended June 30, 2002. Two large certificates of deposit with government
agencies totaling $1.1 million matured and were not rolled over during the
quarter. Because of mandatory capital requirements outlined in the Bank's
Written Agreement with its regulators (See REGULATORY MATTERS below), aggressive
deposit retention or new business development strategies have not been
implemented.
Other Borrowed Funds
The Bank did not borrow funds during the quarter ended June 30, 2002. Generally,
the level of other borrowed funds is dependent on many items such as loan
growth, deposit growth, customer collateral/security requirements and interest
rates paid for these funds. The Bank's liquidity has been enhanced by loan
paydowns/payoffs and called investment securities--thereby, reducing the need to
borrow.
Commitments and Lines of Credit
The Bank is a party to financial instruments with off-balance sheet risk in the
normal course of business to meet the financing needs of its customers. These
financial instruments include commitments to extend credit and letters of
credit, which are conditional commitments issued by the Bank to guarantee the
performance of an obligation of a customer to a third party. Both arrangements
have credit risk essentially the same as that involved in extending loans, and
are subject to the Bank's normal credit policies. Collateral may be obtained
based on management's assessment of the customer. The Bank's exposure to credit
loss in the event of nonperformance by the other party to the financial
instruments is represented by the contractual amount of those instruments.
The Bank's financial instrument commitments at June 30, 2002 are summarized
below:
Commitments to extend credit $10,867,000
Outstanding letter of credit $57,000
Commitments to extend credit are agreements to lend to a customer as long as
there is no violation of any condition established in the contract. Since many
of the commitments are expected to expire without being drawn upon, the total
commitment amounts do not necessarily represent future cash requirements.
Commitments generally have fixed expiration dates or other termination clauses
and may require payment of a fee.
11
Liquidity and Interest Rate Sensitivity Management
The primary functions of asset/liability management are to assure adequate
liquidity and maintain appropriate balance between interest-sensitive earning
assets and interest-bearing liabilities. Liquidity management involves the
ability to meet cash flow requirements of customers who may be either depositors
wanting to withdraw funds or borrowers needing assurance that sufficient funds
will be available to meet their credit needs. Interest rate sensitivity
management seeks to avoid fluctuating net interest margins and to enhance
consistent growth of net interest income through periods of changing interest
rate.
The Bank is required to maintain minimum levels of liquid assets as defined by
Federal Reserve Board (the "FRB") regulations. This requirement is evaluated in
relation to the composition and stability of deposits; the degree and trend of
reliance on short-term, volatile sources of funds, including any undue reliance
on particular segments of the money market or brokered deposits; any difficulty
in obtaining funds; and the liquidity provided by securities and other assets.
In addition, consideration is given to the nature, volume and anticipated use of
commitments; the adequacy of liquidity and funding policies and practices,
including the provision for alternate sources of funds; and the nature and trend
of off-balance-sheet activities. As of June 30, 2002, management believes the
Bank's liquidity is satisfactory and in compliance with the FRB regulations
The Bank's principal sources of asset liquidity include investment securities
consisting principally of U.S. Government and agency issues, particularly those
of shorter maturities, and mortgage-backed securities with monthly repayments of
principal and interest. Other types of assets such as federal funds sold, as
well as maturing loans, are sources of liquidity. Approximately $6.5 million
loans are scheduled to mature within one year.
The Bank's overall liquidity continues to be enhanced by a significant level of
core deposits which management has determined are less sensitive to interest
rate movements. The Bank continues to avoid reliance on large denomination time
deposits as well as brokered deposits
The following is a summary of the remaining maturities of time deposits of
$100,000 or more outstanding at June 30, 2002:
(Thousands of dollars)
3 months or less $ 9,359
Over 3 through 12 months 2,899
Over 1 through three years 1,042
Over three years --
-------
Total $13,300
=======
Within the maturing certificates of deposit of $100,000 or more that mature in
three months or less, the Bank has one $5 million deposit with a government
agency that matured and was renewed in July 2002 for six months. While this is a
short-term renewal, this certificate has continuously been renewed for 8 years.
14
Capital Resources
Total shareholders' equity increased approximately $139 thousand during the
quarter ended June 30, 2002. The increase in equity was due to an increase in
other comprehensive income (FAS 115 unrealized gains on available-for-sale
securities) because of declining interest rates that enhance the value of the
portfolio. This was partially offset by an increase in the accumulated deficit
as a result of the loss of $65 thousand experienced during the quarter.
FRB standards for measuring capital adequacy for U.S. Banking organizations
requires that banks maintain capital based on "risk-adjusted" assets so that
categories of assets with potentially higher risk will require more capital
backing than assets with lower risk. In addition, banks are required to maintain
capital to support, on a risk-adjusted basis, certain off-balance-sheet
activities such as loan commitments. The FRB standards classify capital into two
tiers, referred to as Tier 1 and Tier 2. Tier 1 consists of common shareholders'
equity, non-cumulative and cumulative perpetual preferred stock, and minority
interests less goodwill. Tier 2 capital consists of allowance for loan losses,
hybrid capital instruments, term-subordinated debt, and intermediate-term
preferred stock. Banks are required to meet a minimum ratio of 8% of qualifying
capital to risk-adjusted total assets with at least 4% Tier 1 capital and a Tier
I Leverage ratio of at least 6%. Capital that qualifies as Tier 2 capital is
limited to 100% of Tier 1 capital.
As indicated in the table below, the Company's and the Bank's risk-based capital
ratios are above the minimum requirements. (Refer to REGULATORY MATTERS below
for Written Agreement requirements) Management continues the objective of
increasing capital by offering additional stock (preferred and common) for sale
to knowledgeable investors on a limited offering basis. However, the focus
continues to be on increasing the rate of internal capital growth as a means of
maintaining the required capital ratios. The Company and the Bank do not
anticipate paying dividends in the near future.
Company Company
June 30, December 31,
2002 2001
---- ----
Total Capital $8,373 $8,459
Less: Intangible Assets (2,224) (2,119)
------ ------
Tier 1 Capital 6,149 6,340
------ ------
Tier 2 Capital 499 510
------ ------
Total Qualifying Capital $6,648 $6,850
====== ======
Risk Adjusted Total Assets (including off-
Balance sheet exposures) $39,647 $41,624
Tier 1 Risk-Based Capital Ratio 16.77% 15.23%
Tier 2 Risk-Based Capital Ratio 17.26% 16.46%
Leverage Ratio 7.14% 7.12%
13
Bank Bank
June 30, December 31,
2002 2001
---- ----
Total Capital $8,085 $8,170
Less: Intangible Asset/Net
unrealized gains (losses) on
available for sale portfolio (2,029) (2,119)
Tier 1 Capital 6,344 6,051
------ -------
Tier 2 Capital 499 510
------ -------
Total Qualifying Capital $6,843 $ 6,561
====== =======
Risk Adjusted Total Assets (including off-
Balance sheet exposures) $39,647 $41,624
Tier 1 Risk-Based Capital Ratio 14.78% 14.90%
Tier 2 Risk-Based Capital Ratio 16.04% 16.15%
Leverage Ratio 6.85% 6.80%
Results of Operations
Summary
The Bank had a net loss of approximately $65 thousand ($0.06 per common share)
for the quarter ended June 30, 2002 compared to a net loss of $45 thousand
($0.04 per common share) for the quarter ended June 30, 2001. The financial
results for the quarter ended June 30, 2002 were negatively impacted by the high
level of Federal Funds Sold (averaging approximately $12 million) in the current
low interest rate environment. In addition, loan pay-offs and called agency
securities created additional liquidity that required investment in a lower
interest rate environment--thereby reducing interest income.
In April 2002, management implemented a profit restoration plan that included
among other things staff reductions/consolidations, salary reductions, reduction
in branch operating hours, elimination of director fees, and the reduction of
other operating expenses. In addition, revenue enhancement strategies began to
be employed to include shifting funds out of Federal Funds Sold into higher
yielding investment securities and loans. To enhance fee income the Bank plans
to implement products like the debit card and mutual fund sales. The marketing
of consumer loan products to include home equity, automobile, student, and
credit card loans, and; the installation of additional high volume automated
teller machines will also contribute to increased revenues.
While some improvement in operating performance was experienced during the
quarter ended June 30, 2002 compared to the quarter ended March 31, 2002, a
greater impact will be realized with continued loan originations that increase
the Bank's loan-to-deposit ratio. This will lead to a higher net interest margin
and therefore increased revenues.
A more detailed explanation for each component of earnings is included in the
sections below.
Net Interest Income
Net interest income is an effective measure of how well management has balanced
the Bank's interest rate sensitive assets and liabilities. Net interest income,
the difference between (a) interest and fees on interest earning assets and
interest paid on interest-bearing liabilities, is a significant component of the
earnings of the Bank. Changes in net interest income result primarily from
14
increases or decreases in the average balances of interest earning assets, the
availability of particular sources of funds and changes in prevailing interest
rates.
Net interest income decreased $165 thousand, or 14.97%, for the quarter ended
June 30, 2002 compared to June 30, 2001. The decrease was primarily attributable
to a lower interest rate environment and the composition of earning assets. The
lower interest rate environment triggered the call of certain investment
securities as well as loan pay-offs as consumers rushed to refinance their
loans-- thereby creating additional liquidity for the Bank. Because the Bank did
not have a significant level of loan origination activity, funds were invested
in lower yielding investment securities and Federal Funds Sold. The result was a
reduction in interest income. Strategies have been implemented to shift low
yielding earning assets to higher yielding loan participations and investment
securities. (Refer below to Item 3. Quantitative and Qualitative Disclosures
about Market Risk for discussion on measures used by the Bank to minimize its
interest rate risk.).
Provision for Loan Losses
The provision is based on management's estimate of the amount needed to maintain
an adequate allowance for loan losses. This estimate is based on the review of
the loan portfolio, the level of net credit losses, past loan loss experience,
the general economic outlook and other factors management feels are appropriate.
The provision for loan losses charged against earnings for the quarter ending
June 30, 2002 was $37 thousand compared to $20 thousand for the same quarter in
2001. The increase in provisions was necessary because of an increase in
classified loans for which specific reserves were provided. Management continues
to closely monitor the portfolio for signs of weakness and will proactively make
provisions to cover potential losses.
Noninterest Income
The amount of the Bank's noninterest income generally reflects the volume of the
transactional and other accounts handled by the Bank and includes such fees and
charges as low balance account charge, overdrafts, account analysis, and other
customer service fees. Total noninterest income for the quarter ended June 30,
2002 declined $107 thousand, or 16.45%, compared to the same quarter in 2001.
Customer service fees made up the largest part of this decline. These fees
decreased $69 thousand for the quarter ended June 30, 2002 compared to 2001,
primarily because of a reduction in activity fees on deposits. The Bank's lower
deposit levels in 2002 compared to 2001 result in less overdraft fees, activity
service charges and low balance fees.
As a result of the 714 Market Street branch closure in January 2002, an
automobile accident disrupting the service of the ATM located at Two Penn Center
in May 2002 and another ATM location lease expiration, the Bank had three high
volume automated teller machines out of service during the quarter. The result
was a lower level of non-customer ATM surcharge income for the quarter ended
June 30, 2002. Management is currently in the process of identifying other
potentially high volume locations to re-deploy these machines and others.
In addition in June 2002, the Bank sold its former Frankford branch for a gain
of $39,753.
15
Noninterest Expense
Salaries and benefits decreased $4 thousand, or .68%, during the quarter ended
June 30, 2002 compared to 2001. In April 2002 as part of it Profit Restoration
Plan, the Bank made strategic reductions in staff and job consolidations to
reduce the level of personnel expense. However, due to severance payments made
to certain employees, the full impact of the reductions was not realized during
the quarter. Management continues its review to ensure the Bank is operating
with the most efficient organizational structure.
Data processing expenses are a result of the management decision of the Bank to
out source data processing to third party processors the bulk of its data
processing. Such expenses are reflective of the high level of accounts being
serviced for which the Bank is charged a per account charge by processors. In
addition, the Bank uses outside loan servicing companies to service its
mortgage, credit card, installment and student loan portfolios. Data processing
expenses decreased $67 thousand, or 32.45%, during the quarter ended June 30,
2002 compared to 2001. The decrease is primarily attributable to a reduction in
deposit levels for which the Bank pays an outside servicer to process
transactions and provide statement rendering. The Bank continues to study
methods by which it may reduce its data processing costs, including but not
limited to a consolidation of servicers, in-house loan servicing options and the
re-negotiation of existing contracts with servicers.
Occupancy expense decreased approximately $89 thousand, or 21.58%, during the
quarter ended June 30, 2002 compared to 2001. The decrease is primarily
attributable to the closure/consolidation of the Bank's 714 Market Street branch
in January 2002. In addition, the Bank's former West Girard branch was sold in
June 2001 and the Bank's former Frankford branch office was sold on June 8,
2002. The sale of these branches resulted in occupancy expense savings.
Professional services expense decreased approximately $9 thousand, or 14.31%,
for the quarter ended June 2002 compared to 2001. In April 2002, the Bank
implemented a Profit Restoration Plan that eliminated all non-essential uses of
professional services. Management continues to seek methods to further reduce
this cost.
Office operations and supplies expense remained relatively the same for the
quarter-ended June 30, 2002 compared to 2001. Savings should be realized as a
result of the closure/consolidation of the Bank's 714 Market Street branch
because of reductions in branch operating cost (i.e. security guards, supplies,
etc.). In addition, in conjunction with the Bank's earnings enhancement / profit
restoration plan, all other operating expenses are being tightly controlled.
Federal deposit insurance premiums decreased by $29 thousand, or 75.89%, for the
quarter ended June 2002 compared to 2001. FDIC insurance premiums are applied to
all financial institutions based on a risk based premium assessment system.
Under this system, bank strength is based on three factors: 1) asset quality, 2)
capital strength, and 3) management. Premium assessments are then assigned based
16
on the institution's overall rating, with the stronger institutions paying lower
rates. The Bank's assessment was based on 1.96 basis points for BIF (Bank
Insurance Fund) assessable deposits and SAIF (Savings Insurance Fund) assessable
deposits. The decrease during 2002, is a result of a reduction in the Bank's
level of deposits as well as improvement in the Bank's risk rating.
All other expenses are reflective of the general cost to do business and compete
in the current regulatory environment and maintenance of adequate insurance
coverage.
Regulatory Matters
In February 2000, as a result of a regulatory examination completed in December
1999, the Bank entered into a Written Agreement (herein sometimes referred to as
the Agreement) with its primary regulators with regard to, among other things,
achievement of agreed-upon capital levels, implementation of a viable
earnings/strategic plan, adequate funding of the allowance for loan losses, the
completion of a management review and succession plan, and improvement in
internal controls. The Agreement requires the Bank to increase its capital ratio
to 6.5% by June 30, 2000 and to 7% at all times thereafter. As of December 31,
2000, the Bank had met the required ratios by implementing strategies that
included: reducing expenses, consolidating branches, and soliciting new and
additional sources of capital. Management continues to address all matters
outlined in the Agreement. Management believes that the Bank is "substantially"
in compliance with the Agreement's terms and conditions. Failure to comply could
result in additional regulatory supervision and/or actions.
As of June 30, 2002, the Bank's tier one leverage capital ratio was 6.85%, below
the 7% minimum capital ratio required by the Agreement. The failure of the Bank
to maintain a minimum capital ratio of at least 7% at all times while the
Agreement is in force is a violation of the Agreement. The Federal Reserve
authorities could take regulatory and supervisory actions against the Bank for
violation of the Agreement. As of August 9, 2002, no such actions have been
taken.
Management is reviewing and revising its capital plan to address the development
of new equity. In addition, a profit restoration plan has been developed to
include numerous expense reduction and profit enhancement strategies.
17
Cautionary Statement
Certain statements contained herein are not based on historical fact and are
"forward-looking statements" within the meaning of the Private Securities
Litigation Reform Act of 1995. Forward-looking statements, which are based upon
various assumptions (some of which are beyond the control of the Bank and the
Company), may be identified by reference to a future period, or periods, or by
the use of forward-looking terminology such as "may," "will," "believe,"
"expect," "estimate," "anticipate," "continue," or similar terms or variations
on those terms, or the negative of those terms. Actual results could differ
materially from those set forth in forward-looking statements. Factors that
could cause actual results to differ materially from those in the
forward-looking statements include, but are not limited to, economic growth;
governmental monetary policy, including interest rate policies of the FRB;
sources and costs of funds; levels of interest rates; inflation rates; market
capital spending; technological change; the state of the securities and capital
markets; acquisition; consumer spending and savings; expense levels; tax,
securities, and banking laws; and prospective legislation.
Item 3. Quantitative and Qualitative Disclosures about Market Risk
Interest rate sensitivity varies with different types of interest-earning assets
and interest-bearing liabilities. Overnight federal funds on which rates change
daily and loans which are tied to prime or other short term indices differ
considerably from long-term investment securities and fixed-rate loans.
Similarly, time deposits are much more interest sensitive than passbook savings
accounts. The shorter-term interest rate sensitivities are key to measuring the
interest sensitivity gap, or excess earning assets over interest-bearing
liabilities. Management of interest sensitivity involves matching repricing
dates of interest-earning assets with interest-bearing liabilities in a manner
designed to optimize net interest income within the limits imposed by regulatory
authorities, liquidity determinations and capital considerations.
At June 30, 2002, an asset sensitive position is maintained on a cumulative
basis through 1 year of 3.25% that is within the Bank's policy guidelines of +/-
15% on a cumulative 1-year basis. The current gap position is primarily due to
high level of funds in short-term investments (i.e. Federal Funds Sold) and the
level of callable agency securities which are subject to be called in the
current declining rate environment. This position is somewhat mitigated by the
high concentration of fixed rate mortgage loans the Bank has in its loan
portfolio and the significant level of core deposits which have been placed in
longer repricing intervals. Generally, because of the positive gap position of
the Bank in shorter time frames, the Bank can anticipate that increases in
market rates will have a positive impact on the net interest income, while
decreases will have the opposite effect.
18
While using the interest sensitivity gap analysis is a useful management tool as
it considers the quantity of assets and liabilities subject to repricing in a
given time period, it does not consider the relative sensitivity to market
interest rate changes that are characteristic of various interest rate-sensitive
assets and liabilities. Consequently, although the Bank currently has a positive
gap position because of unequal sensitivity of these assets and liabilities,
management believes this position will not materially impact earnings in a
changing rate environment. For example, changes in the prime rate on variable
commercial loans may not result in an equal change in the rate of money market
deposits or short-term certificates of deposit. A simulation model is therefore
used to estimate the impact of various changes, both upward and downward, in
market interest rates and volumes of assets and liabilities on the net income of
the Bank. This model produces an interest rate exposure report that forecast
changes in the market value of portfolio equity under alternative interest rate
environments. The market value of portfolio equity is defined as the present
value of the Company's existing assets, liabilities and off-balance-sheet
instruments. The calculated estimates of changes in market value of equity at
June 30, 2002 are as follows:
Market value of Market value of equity
Changes in rate equity as a % of MV of Assets
----------------- ----------- ----------------------
(Dollars in thousands)
+400 basis points ($2,233) (2.98)%
+300 basis points 158 .02
+200 basis points 3,470 4.24
+100 basis points 5,580 6.60
Flat rate 7,712 8.84
-100 basis points 9,612 10.77
-200 basis points 11,568 12.50
-300 basis points 13,216 13.99
-400 basis points 14,722 15.25
The market value of equity may be impacted by the composition of the Bank's
assets and liabilities. A shift in the level of variable versus fixed rate
assets will create swings in the market value of equity.
The assumptions used in evaluating the vulnerability of the Company's earnings
and capital to changes in interest rates are based on management's consideration
of past experience, current position and anticipated future economic conditions.
The interest sensitivity of the Company's assets and liabilities, as well as the
estimated effect of changes in interest rates on the market value of portfolio
equity, could vary substantially if different assumptions are used or actual
experience differs from the assumptions on which the calculations were based.
19
The Board of Directors of the Bank and management consider all of the relevant
factors and conditions in the asset/liability planning process. Interest-rate
exposure is not considered significant and is within the policy limits of the
Bank at June 30, 2002. However, if significant interest rate risk arises, the
Board of Directors and management may take (but are not limited to) one or all
of the following steps to reposition the balance sheet as appropriate:
1. Limit jumbo certificates of deposit (CDs) and movement into money
market deposit accounts and short-term CDs through pricing and other
marketing strategies.
2. Purchase quality loan participations with appropriate interest
rate/gap match for the balance sheet of the Bank.
3. Restructure the investment portfolio of the Bank.
The Board of Directors has determined that active supervision of the
interest-rate spread between yield on earnings assets and cost of funds will
decrease the vulnerability of the Bank to interest-rate cycles.
20
PART II - OTHER INFORMATION
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Item 1. Legal Proceedings.
- -------------------------
None.
The Bank is a defendant in certain 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 adverse effect on the consolidated
financial condition of the Company.
The Bank had a One Million Dollar ($1,000,000) unsecured loan participation
in a $40.4 Million ($40,400,000) line of credit to KMART Corporation. The
Bank was repaid the One Million Dollar ($ 1,000,000) loan participation in
full on January 8, 2002. KMART Corporation filed for protection under
Chapter 11 of the federal bankruptcy laws on January 22, 2002 and such a
filing by KMART Corporation could expose the Bank to a future claim that the
repayment to the Bank of its loan participation was a preference payment. If
the preference claim is made and is successful, the Bank may be required to
return the One Million Dollar ($1,000,000) loan repayment and incur a loss
in that amount to the extent that the Bank can not obtain repayment of the
loan participation from KMART Corporation or as an unsecured creditor in the
bankruptcy proceeding. As of August 9, 2002, the Bank has not received any
notification in regard to this matter.
Item 2. Working Capital Restrictions on Payment of Dividends.
- ------------------------------------------------------------
The holders of the Common Stock are entitled to such dividends as may be
declared by the Board of Directors out of funds legally available therefor under
the laws of the Commonwealth of Pennsylvania. Under the Pennsylvania Banking
Code of 1965, funds available for cash dividend payments by a bank are
restricted to accumulated net earnings and if the surplus of a bank is less than
the amount of its capital, the bank shall, until surplus is equal to such
amount, transfer to surplus an amount which is at least 10% of its net earnings
for the period since the end of the last fiscal year or any shorter period since
the declaration of a dividend. If the surplus of a bank is less than 50% of the
amount of its capital, no dividend may be declared or paid by the bank without
prior approval of the Secretary of Banking of the Commonwealth of Pennsylvania.
Under the Federal Reserve Act, if a bank has sustained losses up to or exceeding
its undivided profits, no dividend shall be paid, and no dividends can ever be
paid in an amount greater than such bank's net profits less losses and bad
21
debts. Cash dividends must be approved by the Federal Reserve Board if the total
of all cash dividends declared by a bank in any calendar year, including the
proposed cash dividend, exceeds the total of the Bank's net profits for that
year plus its retained net profits from the preceding two years, less any
required transfers to surplus or to a fund for the retirement of preferred
stock. Under the Federal Reserve Act, the Board has the power to prohibit the
payment of cash dividends by a bank if it determines that such a payment would
be an unsafe or unsound banking practice.
The Federal Deposit Insurance act generally prohibits all payments of dividends
a bank, which is in default of any assessment to the Federal Deposit Insurance
Corporation. (Refer to Regulatory Matters above)
Item 3. Defaults Upon Senior Securities.
- -----------------------------------------
(a) There has been no material default in the payment of principal,
interest, a sinking or purchase fund installment, or any material default with
respect to any indebtedness of the Registrant exceeding five percent of the
total assets of the Registrant.
(b) There have been no material arrearage or delinquencies as discussed
in Item 3(a). Registrant has declared and issued a Series A Preferred Stock. No
obligations pursuant to those securities have become due.
Item 4. Submission of Matters to a Vote of Security Holders.
- -----------------------------------------------------------
None
Item 5. Other Information.
- ---------------------------
None
Item 6. Exhibits and Reports on Form 8-K.
- -----------------------------------------
Exhibit 99.1 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
Exhibit 99.2 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
No Form 8K report was filed during the period.
22
Signatures
- ----------
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
UNITED BANCSHARES, INC.
Date: August 14, 2002 /s/ Evelyn Smalls
------------------------------
Evelyn Smalls
President & CEO
/s/ Brenda Hudson-Nelson
------------------------------
Brenda Hudson-Nelson
EVP/Chief Financial Officer
23