UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
Quarterly Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
| For quarterly period ended March 31, 2005 | Commission file number 333-40028 |
Front Range Capital Corporation
| Colorado | 84-0970160 | |
| (State or other jurisdiction | (I.R.S. Employer | |
| incorporation or organization) | Identification No.) | |
| 390 Interlocken Crescent Suite 600, Broomfield, Colorado | 80021 | |
| (Address of principal executive offices) | (Zip code) |
Registrant’s telephone number, including area code: (303) 926-0300
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes þ No o
Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).
Yes o No þ
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:
Title of Class: Common stock, Class A Voting, $0.001 par value
Outstanding shares as of May 12, 2005, were 1,849,264
Title of Class: Common stock, Class B Non-voting, $0.001 par value
Outstanding shares as of May 12, 2005, were 38,105
TABLE OF CONTENTS
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| Rule 13a-14(a)/15d-14(a) Certification of CEO | ||||||||
| Rule 13a-14(a)/15d-14(a) Certification of CFO | ||||||||
| Section 1350 Certification of CEO | ||||||||
| Section 1350 Certification of CFO | ||||||||
FORWARD-LOOKING STATEMENTS
This report on Form 10-Q contains forward-looking statements about Front Range Capital Corporation (the “Company”) for which it claims the protection of the safe harbor provisions contained in the Private Securities Litigation Reform Act of 1995. Actual results could differ materially from those projected in the forward-looking statements as a result of the risks and uncertainties set forth in this report and other report and documents that the Company files with the Securities and Exchange Commission. The information set forth is not a guarantee of future performance, operating results or financial condition. These forward-looking statements are based on management’s current knowledge and belief and include information concerning the Company’s possible or assumed future financial condition and results of operations. When you see any of the words “believes”, “expects”, “anticipates”, “estimates”, or similar expressions, it means we are making forward-looking statements. A number of factors, some of which are beyond the Company’s ability to predict or control, could cause future results to differ materially from those contemplated. These factors include but are not limited to:
| • | the strength of the United States and Colorado economies which may be less favorable than expected; | |||
| • | the economic impact of the war in Iraq; | |||
| • | changes in the interest rate environment; | |||
| • | changes in laws, regulations and policies affecting banking, securities and monetary and financial matters; | |||
| • | significantly increasing competitive pressure in the banking industry; | |||
| • | operational risks including data processing system failures or fraud; | |||
| • | consumer spending and saving habits; | |||
| • | changes in accounting policies and practices; | |||
| • | volatility of rate sensitive deposits; and | |||
| • | asset/liability matching risks and liquidity risks. | |||
Additional risk factors are described in the Company’s Form 10-K for the year ended December 31, 2004. Additional information concerning the Company and its business, including other factors that could materially affect the Company’s financial results, is included in the Company’s filings with the Securities and Exchange Commission.
-1-
PART I – FINANCIAL INFORMATION
Item 1. Financial Statements
FRONT RANGE CAPITAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
| At March 31, | At December 31, | |||||||
| 2005 | 2004 | |||||||
Assets: |
||||||||
Cash and due from banks |
$ | 15,109,000 | $ | 14,298,000 | ||||
Investment securities available for sale |
81,825,000 | 80,806,000 | ||||||
Nonmarketable securities |
4,118,000 | 4,084,000 | ||||||
Loans
|
||||||||
Real estate-construction |
67,386,000 | 59,520,000 | ||||||
Real estate-commercial |
145,461,000 | 142,256,000 | ||||||
Real estate-residential |
52,596,000 | 50,462,000 | ||||||
Commercial |
30,500,000 | 32,409,000 | ||||||
Consumer |
6,668,000 | 6,501,000 | ||||||
Total loans |
302,611,000 | 291,148,000 | ||||||
Less unearned income |
(1,167,000 | ) | (1,109,000 | ) | ||||
Loans, net of unearned income |
301,444,000 | 290,039,000 | ||||||
Allowance for loan losses |
(3,461,000 | ) | (3,553,000 | ) | ||||
Loans, net of allowance for loan losses |
297,983,000 | 286,486,000 | ||||||
Premises and equipment, net |
10,634,000 | 10,963,000 | ||||||
Cash value of life insurance |
8,368,000 | 8,297,000 | ||||||
Other real estate owned |
10,267,000 | 10,302,000 | ||||||
Foreclosed assets |
20,000 | 5,000 | ||||||
Accrued interest receivable |
1,764,000 | 1,347,000 | ||||||
Deferred income taxes |
2,864,000 | 2,214,000 | ||||||
Other assets |
1,574,000 | 1,606,000 | ||||||
Total Assets |
$ | 434,526,000 | $ | 420,408,000 | ||||
Liabilities: |
||||||||
Deposits: |
||||||||
Noninterest-bearing demand |
$ | 55,676,000 | $ | 60,771,000 | ||||
Interest-bearing demand |
127,091,000 | 124,355,000 | ||||||
Savings |
15,269,000 | 15,631,000 | ||||||
Time certificates, $100,000 and over |
79,105,000 | 75,523,000 | ||||||
Other time certificates |
65,421,000 | 67,912,000 | ||||||
Total deposits |
342,562,000 | 344,192,000 | ||||||
Short-term funds borrowed |
43,595,000 | 27,020,000 | ||||||
Long-term debt |
11,480,000 | 11,499,000 | ||||||
Subordinated debentures |
9,485,000 | 9,485,000 | ||||||
Accrued interest payable |
797,000 | 672,000 | ||||||
Other liabilities |
3,716,000 | 4,036,000 | ||||||
Total Liabilities |
$ | 411,635,000 | $ | 396,904,000 | ||||
Shareholders’ Equity: |
||||||||
Preferred stock, $.001 par value;authorized 100,000,000 shares;
issued and outstanding 14,067 shares, |
— | — | ||||||
Additional paid-in capital, preferred stock |
3,620,000 | 3,620,000 | ||||||
Common stock, Class A (voting) and Class B (non-voting),
$.001 par value; authorized 200,000,000 shares,
issued and outstanding 1,887,369 shares |
2,000 | 2,000 | ||||||
Additional paid-in capital, common stock |
11,282,000 | 11,282,000 | ||||||
Retained earnings |
8,856,000 | 8,364,000 | ||||||
Accumulated other comprehensive income (loss) |
(869,000 | ) | 236,000 | |||||
Total Shareholders’ Equity |
22,891,000 | 23,504,000 | ||||||
Total Liabilities and Shareholders’ Equity |
$ | 434,526,000 | $ | 420,408,000 | ||||
See accompanying notes to unaudited consolidated financial statements
-2-
FRONT RANGE CAPITAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME
| For the three month period ended March 31, | ||||||||
| 2005 | 2004 | |||||||
| (unaudited) | ||||||||
Interest and Dividend Income: |
||||||||
Interest and fees on loans |
$ | 5,403,000 | $ | 5,138,000 | ||||
Interest on investment securities available for sale
|
||||||||
Taxable |
523,000 | 408,000 | ||||||
Tax exempt |
238,000 | 175,000 | ||||||
Dividends |
49,000 | 44,000 | ||||||
Interest on federal funds sold and other |
4,000 | 2,000 | ||||||
Total interest income |
6,217,000 | 5,767,000 | ||||||
Interest Expense: |
||||||||
Interest on interest-bearing demand deposits |
456,000 | 274,000 | ||||||
Interest on savings |
19,000 | 9,000 | ||||||
Interest on time certificates of deposit |
1,037,000 | 755,000 | ||||||
Interest on short-term borrowing |
241,000 | 113,000 | ||||||
Interest on long-term debt |
154,000 | 197,000 | ||||||
Interest on subordinated debentures |
275,000 | 275,000 | ||||||
Total interest expense |
2,182,000 | 1,623,000 | ||||||
Net Interest Income |
4,035,000 | 4,144,000 | ||||||
Provision for loan losses |
299,000 | 110,000 | ||||||
Net Interest Income after Provision for Loan Losses |
3,736,000 | 4,034,000 | ||||||
Noninterest Income: |
||||||||
Service charges and customer service fees |
535,000 | 585,000 | ||||||
Gain on sale of securities available for sale |
370,000 | 207,000 | ||||||
Mortgage referral fees |
85,000 | 108,000 | ||||||
Other |
156,000 | 187,000 | ||||||
Total Noninterest Income |
1,146,000 | 1,087,000 | ||||||
Noninterest Expense: |
||||||||
Salaries and employee benefits |
2,406,000 | 2,237,000 | ||||||
Occupancy expense |
413,000 | 427,000 | ||||||
Furniture and equipment |
210,000 | 192,000 | ||||||
Data processing |
210,000 | 199,000 | ||||||
Marketing |
89,000 | 132,000 | ||||||
Printing and supplies |
80,000 | 67,000 | ||||||
Loan and collection |
122,000 | 111,000 | ||||||
ATM and Debit Card |
83,000 | 109,000 | ||||||
Other real estate – Heritage Place |
128,000 | 156,000 | ||||||
Loss on sale of OREO and other foreclosed assets |
9,000 | 99,000 | ||||||
Other |
448,000 | 475,000 | ||||||
Total Noninterest Expense |
4,198,000 | 4,204,000 | ||||||
Income Before Income Taxes |
684,000 | 917,000 | ||||||
Provision for income taxes |
144,000 | 232,000 | ||||||
Net Income |
$ | 540,000 | $ | 685,000 | ||||
Comprehensive Income (loss): |
||||||||
Change in unrealized gain (loss) on securities available for sale, net |
(1,105,000 | ) | 243,000 | |||||
Comprehensive Income (loss) |
($ | 565,000 | ) | $ | 928,000 | |||
Average Common Shares Outstanding |
1,887,369 | 1,887,369 | ||||||
Diluted Average Common Shares Outstanding |
1,897,869 | 1,897,869 | ||||||
Per Share Data |
||||||||
Basic earnings |
$ | 0.26 | $ | 0.34 | ||||
Diluted earnings |
$ | 0.26 | $ | 0.34 | ||||
Dividends declared on common stock |
$ | 0.00 | $ | 0.00 | ||||
See accompanying notes to unaudited consolidated financial statements
-3-
FRONT RANGE CAPITAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY
(UNAUDITED)
| Accumulated | ||||||||||||||||||||
| Other | ||||||||||||||||||||
| Preferred | Common | Retained | Comprehensive | |||||||||||||||||
| Stock | Stock | Earnings | Income (loss),Net | Total | ||||||||||||||||
Balance, December 31, 2003 |
$ | 3,670,000 | $ | 11,284,000 | $ | 7,975,000 | $ | 243,000 | $ | 23,172,000 | ||||||||||
Net income for the period |
— | — | 685,000 | — | 685,000 | |||||||||||||||
Change in unrealized gain on securities
available-for-sale, net of reclassification
adjustment and tax effects |
— | — | — | 243,000 | 243,000 | |||||||||||||||
Dividends declared on 2000 Series B
preferred stock |
— | — | (36,000 | ) | — | (36,000 | ) | |||||||||||||
Balance March 31, 2004 |
$ | 3,670,000 | $ | 11,284,000 | $ | 8,624,000 | $ | 486,000 | $ | 24,064,000 | ||||||||||
Balance, December 31, 2004 |
$ | 3,620,000 | $ | 11,284,000 | $ | 8,364,000 | $ | 236,000 | $ | 23,504,000 | ||||||||||
Net income for the period |
— | — | 540,000 | — | 540,000 | |||||||||||||||
Change in unrealized gain (loss) on securities
available-for-sale, net of reclassification
adjustment and tax effects |
— | — | — | (1,105,000 | ) | (1,105,000 | ) | |||||||||||||
Dividends declared on 2000 Series B
preferred stock |
— | — | (48,000 | ) | — | (48,000 | ) | |||||||||||||
Balance March 31, 2005 |
$ | 3,620,000 | $ | 11,284,000 | $ | 8,856,000 | ($869,000 | ) | $ | 22,891,000 | ||||||||||
See accompanying notes to unaudited consolidated financial statements
- 4 -
FRONT RANGE CAPITAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
| For the three months | ||||||||
| ended March 31, | ||||||||
| 2005 | 2004 | |||||||
| (unaudited) | ||||||||
Cash Flows from Operating Activities: |
||||||||
Net income |
$ | 540,000 | $ | 685,000 | ||||
Adjustments to reconcile net income to net cash provided by
operating activities: |
||||||||
Depreciation and amortization |
249,000 | 241,000 | ||||||
Net amortization of securities |
78,000 | 71,000 | ||||||
(Gain) on available for sale securities, net |
(370,000 | ) | (207,000 | ) | ||||
Provision for loan losses |
299,000 | 110,000 | ||||||
Loss on sale of OREO and foreclosed assets |
10,000 | 111,000 | ||||||
Net change in assets and liabilities: |
||||||||
(Increase) in accrued interest receivable |
(417,000 | ) | (165,000 | ) | ||||
Decrease (increase) in other assets |
(38,000 | ) | 191,000 | |||||
Increase in accrued interest payable |
125,000 | 51,000 | ||||||
(Decrease) in other liabilities |
(320,000 | ) | (286,000 | ) | ||||
Net Cash Provided by Operating Activities |
156,000 | 802,000 | ||||||
Cash Flows from Investing Activities: |
||||||||
Proceeds from sale of securities available-for-sale |
7,356,000 | 17,309,000 | ||||||
Proceeds from maturities, payments and calls of securities
available-for-sale |
1,829,000 | 1,226,000 | ||||||
Purchases of securities available-for-sale |
(11,668,000 | ) | (12,958,000 | ) | ||||
Purchases of non-marketable securities |
(34,000 | ) | (555,000 | ) | ||||
Net (increase) in loans |
(12,208,000 | ) | (1,336,000 | ) | ||||
Disposal (purchases) of property and equipment |
80,000 | (125,000 | ) | |||||
Proceeds from sale of other real estate owned |
404,000 | 288,000 | ||||||
Proceeds from sale of foreclosed assets |
18,000 | 505,000 | ||||||
Net Cash Provided by (Used in) Investing Activities |
(14,223,000 | ) | 4,354,000 | |||||
Cash Flows from Financing Activities: |
||||||||
Net increase (decrease) in deposits |
(1,630,000 | ) | 14,647,000 | |||||
Net increase (decrease) in short-term borrowings |
16,575,000 | (20,350,000 | ) | |||||
Payments of principal on long-term debt |
(19,000 | ) | (2,519,000 | ) | ||||
Dividends paid on 2000 Series B Preferred Stock |
(48,000 | ) | (36,000 | ) | ||||
Net Cash Provided by (Used in) Financing Activities |
14,878,000 | (8,258,000 | ) | |||||
Net increase (decrease) in cash and cash equivalents |
811,000 | (3,102,000 | ) | |||||
Beginning |
14,298,000 | 16,304,000 | ||||||
Ending |
$ | 15,109,000 | $ | 13,202,000 | ||||
Supplemental Disclosure of Noncash and Financial Activities: |
||||||||
Other real estate acquired in settlement of loans |
$ | 346,000 | $ | 133,000 | ||||
Supplemental Disclosure of Cash Flow information: |
||||||||
Cash paid for interest expense |
$ | 2,057,000 | $ | 1,572,000 | ||||
Cash paid
for income taxes |
— | — | ||||||
See accompanying notes to unaudited consolidated financial statements
- 5 -
Notes to Unaudited Consolidated Financial Statements
Note 1: General Summary of Significant Accounting Policies
The accompanying unaudited consolidated financial statements have been prepared in accordance with
generally accepted accounting principles for interim financial information and pursuant to the
rules and regulations of the Securities and Exchange Commission. The results of operations reflect
interim adjustments, all of which are of a normal recurring nature and which, in the opinion of
management, are necessary for a fair presentation of the results for the interim period presented.
The interim results for the three month periods ended March 31, 2005 and 2004 are not necessarily
indicative of the results expected for the full year. The audited balance sheet information for
December 31, 2004, is derived from the Company’s audited financial statements for the year ended
December 31, 2004. These consolidated financial statements should be read in conjunction with the
audited consolidated financial statements and accompanying notes as well as other information
included in the Company’s Annual Report on Form
10-K for the year ended December 31, 2004.
Principles of Consolidation
The consolidated financial statements include the accounts of the Company and its wholly owned
subsidiary, Heritage Bank (the “Bank”). All significant intercompany accounts and transactions
have been eliminated in consolidation.
Nature of Operations
The Company is a registered bank holding company under the Bank Holding Company Act of 1956 (the
“BHCA”) headquartered in Broomfield, Colorado, southeast of Boulder along the Denver-Boulder
business corridor. Incorporated under the laws of the State of Colorado on January 7, 1985, the
Company derives the majority of its income from, and its principal asset is, all of the common
stock of the Bank. The Bank has 13 full-service branches in the Denver-Boulder metropolitan area
and plans to open one additional branch in the second half of 2006. The Bank also offers
investment services through its investment division, Heritage Investments, and mortgage loans
through its mortgage division, Heritage Bank Mortgage Division. The Company operates under a
community banking philosophy with emphasis on local small to medium-sized businesses and individual
customers.
Earnings per Common Share
Basic earnings per share represents income available to common stockholders divided by the
weighted-average number of common shares outstanding during the period. Diluted earnings per share
is computed using additional common shares that would have been outstanding if dilutive potential
common shares had been issued, as well as any adjustment to income that would result from the
assumed issuance.
Basic and diluted earnings per common share have been computed based on this method as of March 31, 2005 and 2004:
-6-
| For the three months | ||||||||
| ended March 31, | ||||||||
| 2005 | 2004 | |||||||
Numerator: |
||||||||
Net income |
$ | 540,000 | $ | 685,000 | ||||
Less preferred stock dividends |
48,000 | 36,000 | ||||||
Net income applicable to common stock |
$ | 492,000 | $ | 649,000 | ||||
Denominator: |
||||||||
Average number of common shares
outstanding used to calculate
basic earnings per common share |
1,887,000 | 1,887,000 | ||||||
Effect of dilutive convertible
preferred stock |
11,000 | 11,000 | ||||||
Average number of common shares
used to calculate diluted earnings per
common share |
1,898,000 | 1,898,000 | ||||||
Basic and diluted earnings per common share |
$ | 0.26 | $ | 0.34 | ||||
Dividends declared on common stock |
$ | 0.00 | $ | 0.00 | ||||
Use of Estimates in the Preparation of Financial Statements
The preparation of financial statements in conformity with accounting principles generally accepted
in the United States of America requires management to make estimates and assumptions that affect
the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities
at the date of the financial statements and the reported amounts of revenues and expenses during
the reporting period. On an on-going basis, the Company evaluates its estimates, including those
related to the adequacy of the allowance for loan losses, investments, intangible assets, income
taxes and contingencies. The Company bases its estimates on historical experience and on various
other assumptions that are believed to be reasonable under the circumstances, the results of which
form the basis for making judgments about the carrying values of assets and liabilities that are
not readily apparent from other sources. Actual results may differ from these estimates under
different assumptions or conditions. The one accounting estimate that materially affects the
financial statements is the allowance for loan losses.
Impact of Recently Issued Financial Accounting Pronouncements
In December 2004, the FASB issued SFAS No. 123 (Revised), “Share-Based Payment” (“SFAS No. 123”), establishing accounting standards for transactions in which an entity exchanges its equity instruments for goods or services, SFAS No. 123 also addresses transactions in which an entity incurs liabilities in exchange for goods or services that are based on the fair value of the entity’s equity instruments, or that may be settled by the issuance of those equity instruments. SFAS No.123 covers a wide range of share-based compensation arrangements including stock options, restricted stock plans, performance-based stock awards, stock appreciation rights, and employee stock purchase plans. SFAS No. 123 replaces existing requirements under SFAS No. 123, “Accounting for Stock-Based Compensation,” and eliminates the ability to account for share-based compensation transactions using APB Opinion No. 25. The provisions of SFAS No. 123 are effective for the Company on January 1, 2006. The Company is currently assessing the financial statement impact of adopting SFAS No. 123.
-7-
FRONT RANGE CAPITAL CORPORATION AND SUBSIDIARIES
Financial Summary
(unaudited)
| Three months ended | ||||||||
| March 31, | ||||||||
| 2005 | 2004 | |||||||
Net interest income (FTE) |
$ | 4,188,000 | $ | 4,254,000 | ||||
Provision for loan losses |
(299,000 | ) | (110,000 | ) | ||||
Noninterest income |
1,146,000 | 1,087,000 | ||||||
Noninterest expense |
(4,198,000 | ) | (4,204,000 | ) | ||||
Provision for income taxes (FTE) |
(297,000 | ) | (342,000 | ) | ||||
Net income |
$ | 540,000 | $ | 685,000 | ||||
Average common shares outstanding |
1,887,369 | 1,887,369 | ||||||
Diluted average common shares outstanding |
1,897,869 | 1,897,869 | ||||||
Common shares outstanding at period end |
1,887,369 | 1,887,369 | ||||||
As Reported: |
||||||||
Basic earnings per common share |
$ | 0.26 | $ | 0.34 | ||||
Diluted earnings per common share |
$ | 0.26 | $ | 0.34 | ||||
Return on assets (1) |
0.51 | % | 0.70 | % | ||||
Return on equity (1) |
9.30 | % | 11.63 | % | ||||
Net interest margin |
4.43 | % | 4.88 | % | ||||
Net loan charge-offs to average loans |
0.13 | % | 0.03 | % | ||||
Efficiency ratio (FTE) |
78.70 | % | 78.71 | % | ||||
Average Balances: |
||||||||
Total assets |
$ | 427,307,000 | $ | 392,765,000 | ||||
Earning assets |
383,303,000 | 350,859,000 | ||||||
Total loans |
298,059,000 | 286,682,000 | ||||||
Total deposits |
342,436,000 | 301,329,000 | ||||||
Shareholders’ equity |
$ | 23,555,000 | $ | 23,683,000 | ||||
Balances at Period End: |
||||||||
Total assets |
$ | 434,526,000 | $ | 390,912,000 | ||||
Earning assets |
389,540,000 | 348,263,000 | ||||||
Total loans |
301,444,000 | 286,737,000 | ||||||
Total deposits |
342,562,000 | 318,160,000 | ||||||
Shareholders’ equity |
$ | 22,891,000 | $ | 24,064,000 | ||||
Financial Ratios at Period End: |
||||||||
Allowance for loan losses to loans |
1.15 | % | 1.01 | % | ||||
Book value per common share * |
$ | 10.64 | $ | 10.52 | ||||
Equity to assets |
5.27 | % | 6.16 | % | ||||
Regulatory total capital to risk-weighted assets |
10.31 | % | 10.80 | % | ||||
Dividends declared per common share |
$ | 0.00 | $ | 0.00 | ||||
| (1) | annualized |
|
| * | excludes accumulated other comprehensive income (loss) |
- 8 -
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
As the Company has not commenced any business operations independent of the Bank, the following discussion pertains primarily to the Bank. Average balances, including such balances used in calculating certain financial ratios, are generally comprised of average daily balances for the Company. Within Management’s Discussion and Analysis of Financial Condition and Results of Operations, interest income and net interest income are generally presented on a fully tax-equivalent (FTE) basis.
The following discussion and analysis is designed to provide a better understanding of the significant changes and trends related to the Company and the Bank’s financial condition, operating results, asset and liability management, liquidity and capital resources and should be read in conjunction with the unaudited consolidated financial information of the Company and the notes thereto under Item 1 of this report.
Critical Accounting Policies and Estimates
The Company’s discussion and analysis of its financial condition and results of operations are
based upon the Company’s consolidated financial statements, which have been prepared in accordance
with accounting principles generally accepted in the United States. The preparation of these
financial statements requires the Company to make estimates and judgments that affect the reported
amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets
and liabilities. On an on-going basis, the Company evaluates its estimates, including those related
to the adequacy of the allowance for loan losses, intangible assets, and contingencies. The Company
bases its estimates on historical experience and on various other assumptions that are believed to
be reasonable under the circumstances, the results of which form the basis for making judgments
about the carrying values of assets and liabilities that are not readily apparent from other
sources. Actual results may differ from these estimates under different assumptions or conditions.
(See caption “Allowance for Loan Losses” for a more detailed discussion).
Net Income
Following is a summary of the components of net income for the periods indicated:
| Three months ended | ||||||||
| March 31, 2005 | ||||||||
| 2005 | 2004 | |||||||
Net interest income (FTE) |
$ | 4,188,000 | $ | 4,254,000 | ||||
Provision for loan losses |
(299,000 | ) | (110,000 | ) | ||||
Noninterest income |
1,146,000 | 1,087,000 | ||||||
Noninterest expense |
(4,198,000 | ) | (4,204,000 | ) | ||||
Provision for income taxes (FTE) |
(297,000 | ) | (342,000 | ) | ||||
Net income |
$ | 540,000 | $ | 685,000 | ||||
Net income for the first quarter of 2005 was $145,000 (21.2%) less than for the first quarter of 2004. This change was composed of a $66,000 (1.6%) decrease in net interest income (FTE), a $59,000 (5.4%) increase in noninterest income, a $6,000 (0.1%) decrease in noninterest expense, a $189,000 (171.8%) increase in provision for loan losses, and a $45,000 (13.2%) decrease in the provision for income taxes (FTE). The decrease in net interest income (FTE) was due to a $32.4 million (9.2%) increase in the average balance of interest-earning assets which was partially offset by a $27.0 million (8.5%) increase in interest-bearing liabilities and a 51 basis point increase in interest expense cost. The $189,000 (171.8%) increase in provision for loan losses was due to increases in loan balances, stable loan quality and the maintenance of an adequate loan loss allowance level. The increase in noninterest income from the first quarter of 2004 was mainly due to
-9-
a $163,000 (78.7%) increase in gain on sale of securities available-for-sale. This was partially offset by a $23,000 (21.3%) decrease in mortgage referral fees and a $50,000 (8.5%) decrease in service charges and customer service fees. The decrease in noninterest expense was mainly due to a $90,000 (90.9%) decrease in net loss on sale of other real estate owned (OREO) and foreclosed assets, a $30,000 (25.2%) decrease in marketing expense, a $26,000 (23.9%) decrease in ATM & debit card expenses, a $28,000 (17.9%) decrease in other real estate, Heritage Place, expense, which were partially offset by a $169,000 (7.6%) increase in salaries and employee benefits.
Net Interest Income
The Company’s primary source of revenue is net interest income, or the difference between interest
income on interest-earning assets and interest expense on interest-bearing liabilities.
Following is a summary of the components of net interest income for the periods indicated:
| Three months ended | ||||||||
| March 31, | ||||||||
| 2005 | 2004 | |||||||
Interest income |
$ | 6,217,000 | $ | 5,767,000 | ||||
Interest expense |
(2,182,000 | ) | (1,623,000 | ) | ||||
FTE adjustment |
153,000 | 110,000 | ||||||
Net interest income (FTE) |
$ | 4,188,000 | $ | 4,254,000 | ||||
Average earning assets |
$ | 383,303,000 | $ | 350,859,000 | ||||
Net interest margin (FTE) |
4.43 | % | 4.88 | % | ||||
Net interest income (FTE) during the first quarter of 2005 decreased $66,000 (1.6%) to $4.2 million from the same period in 2004. The $493,000 (8.4%) increase in interest income (FTE) was due to a $32.4 million (9.2%) increase in average balances of interest-earning assets to $383.3 million. Interest expense increased $559,000 (34.4%) from the same period in 2004 and was due to an increase in interest-bearing liabilities of $27.0 million (8.5%) to $342.3 million and a 51 basis point increase in cost on interest-bearing liabilities (from 2.07% to 2.58%).
Interest Income
Interest income (FTE) for the first quarter of 2005 increased $493,000 (8.4%) from the first
quarter of 2004. The change in interest-earning assets was made up of an $11.4 million (4.0%)
increase in average loan balances to $298.0 million, and a
$21.1 million (33.3%) increase in
average investment balances.
Interest Expense
Interest expense increased $559,000 (34.4%) to $2,182,000 in the first quarter of 2005 compared to
$1,623,000 in the quarter ended March 31, 2004. The average balance of interest-bearing
liabilities increased $27.0 million (8.5%) to $342.3 million in the first quarter of 2005 compared
to $315.4 million in the quarter ended March 31, 2004. The $24.1 million (20.0%) increase in
interest-bearing liabilities was concentrated in time certificates of deposit. In addition, the
average balance of noninterest-bearing deposits increased $7.1 million (14.2%) from the year-ago
quarter, and the average balance of long-term debt decreased $4.5 million (28.4%) to $11.5 million
in the quarter ended March 31, 2005 compared to
-10-
$16.0 million in the year-ago quarter. The average rate paid for all categories of interest-bearing liabilities (2.58%) in the first quarter of 2005 is an increase of 51 basis points in the average rate paid for the first quarter of 2004 (2.07%).
Net Interest Margin (FTE)
The following table summarizes the components of the Company’s net interest margin for the periods
indicated:
| Three months ended | ||||||||
| March 31, | ||||||||
| 2005 | 2004 | |||||||
Yield on interest-earning assets |
6.74 | % | 6.74 | % | ||||
Rate paid on interest-bearing liabilities |
2.58 | % | 2.07 | % | ||||
Net interest spread |
4.16 | % | 4.67 | % | ||||
Impact of all other net noninterest-bearing funds |
0.27 | % | 0.21 | % | ||||
Net interest margin |
4.43 | % | 4.88 | % | ||||
Net interest margin in the first quarter of 2005 decreased 45 basis points compared to the first quarter of 2004. Average balances on time deposits increased $24.1 million (20.0%) during the quarter ended March 31, 2005 compared to the same period ended March 31, 2004 and the cost of these funds increased 39 basis points to 2.91% from 2.52%. Average balances on loans increased $11.4 million (4.0%) during the first quarter ended March 31, 2005 compared to the first quarter ended March 31, 2004 and the yield increased 15 basis points to 7.37% from 7.22% due in part to the change in the Prime Rate. Average balances on investment securities increased $21.1 million (33.3%) from the first quarter of 2004 to the first quarter of 2005 with a decrease in yield of 7 basis points (4.56% from 4.63%) in the same time period.
Summary of Average Balances, Yields/Rates and Interest Differential
The following table presents, for the periods indicated, information regarding the Company’s
consolidated average assets, liabilities and shareholders’ equity, the amounts of interest income
from average interest-earning assets and resulting yields, and the amount of interest expense paid
on interest-bearing liabilities. Average loan balances include nonperforming loans. Interest income
includes proceeds from loans on nonaccrual only to the extent cash payments have been received and
applied to interest income. Yields on securities and certain loans have been adjusted upward to
reflect the effect of income thereon exempt from federal income taxation at the current statutory
tax rate.
-11-
| For the three months ended | ||||||||||||
| March 31, 2005 | ||||||||||||
| Interest | Rates | |||||||||||
| Average | Income/ | Earned/ | ||||||||||
| Balance | Expense | Paid | ||||||||||
Assets: |
||||||||||||
Loans |
$ | 298,059,000 | $ | 5,416,000 | 7.37 | % | ||||||
Investment securities — taxable |
58,906,000 | 572,000 | 3.94 | % | ||||||||
Investment securities — nontaxable |
25,565,000 | 378,000 | 6.00 | % | ||||||||
Federal funds sold and due from banks
(interest-bearing) |
773,000 | 4,000 | 2.10 | % | ||||||||
Total earning assets |
383,303,000 | 6.74 | % | |||||||||
Other assets |
44,004,000 | |||||||||||
Total assets |
$ | 427,307,000 | $ | 6,370,000 | ||||||||
Liabilities and shareholders’ equity: |
||||||||||||
Interest-bearing demand deposits |
$ | 125,846,000 | $ | 456,000 | 1.47 | % | ||||||
Savings deposits |
15,252,000 | 19,000 | 0.51 | % | ||||||||
Time deposits |
144,436,000 | 1,037,000 | 2.91 | % | ||||||||
Other short-term borrowed funds |
35,826,000 | 241,000 | 2.73 | % | ||||||||
Long-term debt |
11,491,000 | 154,000 | 5.44 | % | ||||||||
Subordinated debentures |
9,485,000 | 275,000 | 11.76 | % | ||||||||
Total interest-bearing liabilities |
$ | 342,336,000 | $ | 2,182,000 | 2.58 | % | ||||||
Noninterest-bearing deposits |
56,800,000 | |||||||||||
Other liabilities |
4,616,000 | |||||||||||
Shareholders’ equity |
23,555,000 | |||||||||||
Total liabilities and shareholders’ equity |
$ | 427,307,000 | ||||||||||
Net interest spread(1) |
4.16 | % | ||||||||||
Net interest income and interest margin(2) |
$ | 4,188,000 | 4.43 | % | ||||||||
| (1) | Net interest spread represents the average yield earned on interest-earning assets minus the average rate paid on interest-bearing liabilities. | |
| (2) | Net interest margin is computed by calculating the difference between interest income and expense, divided by the average balance of interest-earning assets. |
- 12 -
| For the three months ended | ||||||||||||
| March 31, 2004 | ||||||||||||
| Interest | Rates | |||||||||||
| Average | Income/ | Earned/ | ||||||||||
| Balance | Expense | Paid | ||||||||||
Assets: |
||||||||||||
Loans |
$ | 286,682,000 | $ | 5,145,000 | 7.22 | % | ||||||
Investment securities — taxable |
47,096,000 | 452,000 | 3.86 | % | ||||||||
Investment securities — nontaxable |
16,281,000 | 278,000 | 6.87 | % | ||||||||
Federal funds sold and due from banks
(interest-bearing) |
800,000 | 2,000 | 1.01 | % | ||||||||
Total earning assets |
350,859,000 | 6.74 | % | |||||||||
Other assets |
41,906,000 | |||||||||||
Total assets |
$ | 392,765,000 | $ | 5,877,000 | ||||||||
Liabilities and shareholders’ equity: |
||||||||||||
Interest-bearing demand deposits |
$ | 117,364,000 | $ | 274,000 | 0.94 | % | ||||||
Savings deposits |
13,838,000 | 9,000 | 0.26 | % | ||||||||
Time deposits |
120,315,000 | 755,000 | 2.52 | % | ||||||||
Other short-term borrowed funds |
38,344,000 | 113,000 | 1.19 | % | ||||||||
Long-term debt |
16,040,000 | 197,000 | 4.94 | % | ||||||||
Subordinated debentures |
9,485,000 | 275,000 | 11.66 | % | ||||||||
Total interest-bearing liabilities |
$ | 315,386,000 | $ | 1,623,000 | 2.07 | % | ||||||
Noninterest-bearing deposits |
49,812,000 | |||||||||||
Other liabilities |
3,884,000 | |||||||||||
Shareholders’ equity |
23,683,000 | |||||||||||
Total liabilities and shareholders’ equity |
$ | 392,765,000 | ||||||||||
Net interest spread(1) |
4.67 | % | ||||||||||
Net interest income and interest margin(2) |
$ | 4,254,000 | 4.88 | % | ||||||||
| (1) | Net interest spread represents the average yield earned on interest-earning assets minus the average rate paid on interest-bearing liabilities. | |
| (2) | Net interest margin is computed by calculating the difference between interest income and expense, divided by the average balance of interest-earning assets. |
Summary of Changes in Interest Income and Expense due to Changes in Average Asset and Liability
Balances and Yields Earned and Rates Paid
The following table sets forth a summary of the changes in interest income (FTE) and interest
expense from changes in average asset and liability balances (volume) and changes in average
interest rates for the periods indicated. Changes not solely attributable to volume or rates have
been allocated in proportion to the respective volume and rate components.
- 13 -
| Three months ended March 31, 2005 | ||||||||||||
| compared with three months | ||||||||||||
| ended March 31, 2004 | ||||||||||||
| Volume | Rate | Total | ||||||||||
Increase (decrease) in interest income: |
||||||||||||
Loans |
$ | 204,000 | $ | 67,000 | $ | 271,000 | ||||||
Investments — taxable |
113,000 | 7,000 | 120,000 | |||||||||
Investments — nontaxable |
159,000 | (59,000 | ) | 100,000 | ||||||||
Federal funds sold |
— | 2,000 | 2,000 | |||||||||
Total earning assets |
476,000 | 17,000 | 493,000 | |||||||||
Increase (decrease) in interest expense: |
||||||||||||
Interest-bearing demand deposits |
20,000 | 162,000 | 182,000 | |||||||||
Savings deposits |
1,000 | 9,000 | 10,000 | |||||||||
Time deposits |
151,000 | 131,000 | 282,000 | |||||||||
Other short term borrowings |
(7,000 | ) | 135,000 | 128,000 | ||||||||
Long-term debt |
(56,000 | ) | 13,000 | (43,000 | ) | |||||||
Subordinated debentures |
— | — | — | |||||||||
Total interest-bearing liabilities |
109,000 | 450,000 | 559,000 | |||||||||
Increase (decrease) in net interest income |
$ | 367,000 | ($433,000 | ) | ($66,000 | ) | ||||||
Provision for Loan Losses
The Company provided $299,000 for loan losses in the first quarter of 2005 versus $110,000 in the
first quarter of 2004. During the first quarter of 2005, the Company recorded $390,000 of net loan
charge offs versus $92,000 of net loan charge offs in the first quarter of 2004. The increase of
$189,000 (171.8%) in the provision for loan losses was due to an increase in loan balances as well
as the increase in net charge offs. The ratio of the allowance for loan losses to total loans was
1.15% at March 31, 2005 and 1.01% at March 31, 2004.
Noninterest Income
The following table summarizes the components of noninterest income for the periods indicated.
| Three months ended | ||||||||
| March 31, | ||||||||
| 2005 | 2004 | |||||||
Service charges on deposit accounts |
$ | 535,000 | $ | 585,000 | ||||
Gain on sale of investments |
370,000 | 207,000 | ||||||
Mortgage referral fees |
85,000 | 108,000 | ||||||
Other noninterest income |
156,000 | 187,000 | ||||||
Total noninterest income |
$ | 1,146,000 | $ | 1,087,000 | ||||
Noninterest income for the first quarter of 2005 increased $59,000 (5.4%) to $1,146,000 from $1,087,000 in the year-ago quarter. The increase in noninterest income from the year-ago quarter was due to a $163,000 (78.7%) increase in gain on sale of available-for-sale securities which was partially offset by a $50,000 (8.5%) decrease in service charges on deposits accounts. The main factor that contributed to the decrease in service charges was a higher earnings crediting rate on nonpersonal accounts due to the increase in short term interest rates. Mortgage referral fees decreased $23,000 (21.3%) due to a slower mortgage market.
-14-
Noninterest Expense
The following table summarizes the components of noninterest expense for the periods indicated.
| Three months ended | ||||||||
| March 31, | ||||||||
| 2005 | 2004 | |||||||
Salaries and employee benefits |
$ | 2,406,000 | $ | 2,237,000 | ||||
Occupancy |
413,000 | 427,000 | ||||||
Furniture and Equipment |
210,000 | 192,000 | ||||||
Data processing |
210,000 | 199,000 | ||||||
Advertising and marketing |
89,000 | 119,000 | ||||||
Printing and supplies |
80,000 | 67,000 | ||||||
Loan and collection |
122,000 | 111,000 | ||||||
ATM and Debit Card |
83,000 | 109,000 | ||||||
Other real estate, Heritage Place |
128,000 | 156,000 | ||||||
Net loss on sale of OREO and other foreclosed assets |
9,000 | 99,000 | ||||||
Other |
448,000 | 488,000 | ||||||
Total |
$ | 4,198,000 | $ | 4,204,000 | ||||
Average full time equivalent staff |
156 | 152 | ||||||
Noninterest expense to revenue (FTE) |
78.70 | % | 78.71 | % | ||||
Noninterest expense for the first quarter of 2005 decreased $6,000 (0.1%) to $4,198,000 from $4,204,000 in the first quarter of 2004. The decrease in noninterest expense was mainly due to a $90,000 (90.9%) decrease in net loss on sale of other real estate owned (OREO) and foreclosed assets, a $30,000 (25.2%) decrease in advertising and marketing expense and a $28,000 (17.9%) decrease in other real estate – Heritage Place expense. These were partially offset by a $169,000 (7.6%) increase in salaries and employee benefits. The salaries and employee benefits increase was due to additions in staff for the new Firestone branch and the Bank’s strategy of paying competitive salaries and maintaining appropriate staffing levels.
Provision for Income Tax
The effective tax rate for the three months ended March 31, 2005 was 21.1% and reflects a decrease
from 25.3% for the three months ended March 31, 2004. The provision for income taxes for all
periods presented is primarily attributable to the respective level of earnings and the incidence
of allowable deductions, particularly from tax-exempt loans, state and municipal securities, and
bank owned life insurance.
Classified Assets
The Company closely monitors the markets in which it conducts its lending operations and continues
its strategy to control exposure to loans with high credit risk. Asset reviews are performed using
grading standards and criteria similar to those employed by bank regulatory agencies. Assets
receiving lesser grades fall under the “classified assets” category, which includes all
nonperforming assets and potential problem loans, and receive an elevated level of attention to
ensure collection.
Classified assets, net of guarantees of the U.S. Government, including its agencies and its government-sponsored agencies at March 31, 2005, increased $432,000 (3.1%) to $14.4 million from $14.0 million at December 31, 2004. Allowance for loan losses to classified loans was 24.0% as of March 31, 2005 and 25.4% as of December 31, 2004.
-15-
Nonperforming Loans
Loans are reviewed on an individual basis for reclassification to nonaccrual status when any one of
the following occurs: the loan becomes 90 days past due as to interest or principal, the full and
timely collection of additional interest or principal becomes uncertain, the loan is classified as
doubtful by internal credit review or bank regulatory agencies, a portion of the principal balance
has been charged off, or the Company takes possession of the collateral. Loans that are placed on
nonaccrual even though the borrowers continue to repay the loans as scheduled are classified as
“performing nonaccrual” and are included in total nonperforming loans. The reclassification of
loans as nonaccrual does not necessarily reflect management’s judgment as to whether they are
collectible.
Interest income is not accrued on loans where management has determined that the borrowers will be unable to meet contractual principal and/or interest obligations, unless the loan is well secured and in the process of collection. When a loan is placed on nonaccrual, any previously accrued but unpaid interest is reversed. Income on such loans is then recognized only to the extent that cash is received and where the future collection of principal is probable. Interest accruals are resumed on such loans only when they are brought fully current with respect to interest and principal and when, in the judgment of management, the loans are estimated to be fully collectible as to both principal and interest.
Interest income on nonaccrual loans which would have been recognized during the three months ended March 31, 2005 if all such loans had been current in accordance with their original terms totaled $71,000. There was no interest income actually recognized on these loans during the three months ended March 31, 2005.
The Company’s policy is to place loans 90 days or more past due on nonaccrual status. In some instances when a loan is 90 days past due, management does not place it on nonaccrual status because the loan is well secured and in the process of collection. A loan is considered to be in the process of collection if, based on a probable specific event, it is expected that the loan will be repaid or brought current. Generally, this collection period would not exceed 30 days. Loans where the collateral has been repossessed are classified as OREO or, if the collateral is personal property, the loan is classified as other assets on the Company’s financial statements.
Management considers both the adequacy of the collateral and the other resources of the borrower in determining the steps to be taken to collect nonaccrual loans. Alternatives that are considered are foreclosure, collecting on guarantees, restructuring the loan or collection lawsuits.
As shown in the following table, total nonperforming assets increased $353,000 (5.4%) to $6.9 million during the first three months of 2005. Nonperforming assets net of guarantees represent 1.6% of total assets. All nonaccrual loans are considered to be impaired when determining the need for a specific valuation allowance. The Company continues to make a concerted effort to work with problem and potential problem loan customers to reduce risk of loss.
-16-
| At March 31, 2005 | At December 31, 2004 | |||||||
| (unaudited) | ||||||||
| (dollars in thousands) | ||||||||
Performing nonaccrual loans |
$ | 806 | $ | 2,126 | ||||
Nonperforming, nonaccrual loans |
3,531 | 2,174 | ||||||
Total nonaccrual loans |
4,337 | 4,300 | ||||||
Loans 90 days past due and still accruing |
426 | 90 | ||||||
Total nonperforming loans |
4,763 | 4,390 | ||||||
Other real estate owned, excluding Heritage Place |
2,096 | 2,131 | ||||||
Foreclosed assets |
20 | 5 | ||||||
Total nonperforming assets |
$ | 6,879 | $ | 6,526 | ||||
Nonperforming loans to total loans |
1.6 | % | 1.5 | % | ||||
Allowance for loan losses/nonperforming loans |
72.7 | % | 80.9 | % | ||||
Nonperforming assets to total assets |
1.6 | % | 1.6 | % | ||||
Allowance for loan losses to nonperforming assets |
50.3 | % | 54.4 | % | ||||
Allowance for Loan Losses
Credit risk is probable in the business of lending. As a result, the Company maintains an Allowance
for Loan Losses to absorb losses which could occur in the Company’s loan portfolio. This is
maintained through periodic charges to earnings. These charges are shown in the Consolidated Income
Statements as provision for loan losses. All specifically identifiable and quantifiable losses are
immediately charged off against the allowance. However, for a variety of reasons, not all losses
are immediately known to the Company and, of those that are known, the full extent of the loss may
not be quantifiable at that point in time. The balance of the Company’s Allowance for Loan Losses
is meant to be an estimate of these unknown but probable losses inherent in the portfolio. For
purposes of this discussion, “loans” shall include all loans and lease contracts that are part of
the Company’s portfolio.
The Company formally assesses the adequacy of the allowance on a quarterly basis. Determination of the adequacy is based on ongoing assessments of the probable risk in the outstanding loan portfolio, and to a lesser extent, the Company’s loan commitments. These assessments include the periodic re-grading of credits based on changes in their individual credit characteristics including delinquency, seasoning, recent financial performance of the borrower, economic factors, changes in the interest rate environment, growth of the portfolio as a whole or by segment, and other factors as warranted. Loans are initially graded when originated. They are re-graded as they are renewed, when there is a new loan to the same borrower, when identified facts demonstrate heightened risk of nonpayment, or if they become delinquent. Re-grading of larger problem loans occur at least quarterly. Confirmation of the quality of the grading process is obtained by independent credit reviews conducted by consultants specifically hired for this purpose and by various bank regulatory agencies.
The Company’s method for assessing the appropriateness of the allowance includes specific allowances for identified problem loans and leases as determined by SFAS 114, formula allowance factors for pools of credits, and allowances for changing environmental factors (e.g., interest rates, growth, economic conditions, etc.). Allowance factors for loan pools are based on the previous 5 years historical loss experience by product type. Allowances for specific loans are based on SFAS 114 analysis of individual credits. Allowances for changing environmental factors are management’s best estimate of the probable
-17-
impact these changes have had on the loan portfolio as a whole. This process is explained in detail in the notes to the Company’s Consolidated Financial Statements in its Annual Report on Form 10-K for the year ended December 31, 2004.
Based on the current conditions of the loan portfolio, management believes that the $3,461,000 allowance for loan losses at March 31, 2005 is adequate to absorb probable losses inherent in the Company’s loan portfolio. No assurance can be given, however, that adverse economic conditions or other circumstances will not result in increased losses in the portfolio.
The following table summarizes the loan loss provision, net credit losses and allowance for loan losses for the periods indicated (dollars in thousands):
| Three months ended | ||||||||
| March 31, | ||||||||
| 2005 | 2004 | |||||||
Balance, beginning of period |
$ | 3,553 | $ | 2,872 | ||||
Loan loss provision |
299 | 110 | ||||||
Loans charged off |
(403 | ) | (108 | ) | ||||
Recoveries of previously charged-off loans |
12 | 16 | ||||||
Net (charge-offs) recoveries |
(391 | ) | (92 | ) | ||||
Balance, end of period |
$ | 3,461 | $ | 2,890 | ||||
Allowance for loan losses/loans outstanding |
1.14 | % | 1.00 | % | ||||
Capital Resources
The current and projected capital position of the Company and the impact of capital plans and
long-term strategies are reviewed regularly by management. The Company’s primary capital resource
is shareholders’ equity, which was $22.9 million at March 31, 2005. This amount represents a
decrease of $613,000 (2.6%) from December 31, 2004. The change is the result of net income of
$540,000, a $1,105,000 (468.2%) decrease in the net market value of available-for-sale securities,
and the 2000 Series B preferred stock dividend of $48,000 paid in March 2005.
The following summarizes the regulatory capital ratios for the periods indicated:
| To Be Well | ||||||||||||||||||||
| At | Minimum | Capitalized Under | ||||||||||||||||||
| At March 31, | December 31, | Regulatory | Prompt Corrective | |||||||||||||||||
| 2005 | 2004 | 2004 | Requirement | Action Provisions | ||||||||||||||||
Tier I Capital (to risk-weighted assets) |
||||||||||||||||||||
Consolidated |
7.6 | % | 8.1 | % | 7.7 | % | ||||||||||||||
Bank |
9.2 | % | 9.7 | % | 9.4 | % | 4.0 | % | 6.0 | % | ||||||||||
Total Capital (to risk-weighted assets) |
||||||||||||||||||||
Consolidated |
10.3 | % | 10.8 | % | 10.5 | % | ||||||||||||||
Bank |
10.2 | % | 10.6 | % | 10.5 | % | 8.0 | % | 10.0 | % | ||||||||||
Tier I Leverage (to average assets) |
||||||||||||||||||||
Consolidated |
6.3 | % | 6.7 | % | 6.3 | % | ||||||||||||||
Bank |
7.6 | % | 8.2 | % | 7.7 | % | 4.0 | % | 5.0 | % | ||||||||||
-18-
Off-Balance Sheet Items
The Company is a party to credit related 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, stand-by letters of credit and commercial letters of credit.
The Company has not entered into any contracts for financial derivative instruments such as
futures, swaps, options, etc. Loan commitments increased $3.4 million (5.6%) to $64.3 million at
March 31, 2005, from $60.9 million at December 31, 2004. The commitments represented 21.2% and
20.9% of the total loans outstanding at March 31, 2005 and at December 31, 2004, respectively.
Certain Contractual Obligations
The following chart summarizes certain contractual obligations of the Company as of March 31, 2005:
| Payment due by period | ||||||||||||||||||||
| Less than | 1-3 | 3-5 | More than | |||||||||||||||||
| Total | one year | years | years | 5 years | ||||||||||||||||
| (dollars in thousands) | ||||||||||||||||||||
Long-term debt |
$ | 11,480 | $ | 2,265 | $ | 2,600 | $ | 1,430 | $ | 5,185 | ||||||||||
Operating lease obligations |
3,554 | 792 | 1,506 | 1,185 | 71 | |||||||||||||||
Other long-term liabilities: |
||||||||||||||||||||
Subordinated debentures |
9,485 | 0 | 0 | 0 | 9,485 | |||||||||||||||
Total contractual obligations |
$ | 24,519 | $ | 3,057 | $ | 4,106 | $ | 2,615 | $ | 14,741 | ||||||||||
Item 3. Quantitative and Qualitative Disclosures about Market Risk
Asset and Liability Management
The goal for managing the assets and liabilities of the Company is to maximize shareholder value
and earnings while maintaining a high quality balance sheet without exposing the Company to undue
interest rate risk. The Board of Directors has overall responsibility for the Company’s interest
rate risk management policies and monitors guidelines to control the sensitivity of earnings to
changes in interest rates.
Activities involved in asset/liability management include but are not limited to lending, accepting and placing deposits, investing in securities and issuing debt. Interest rate risk is the primary market risk associated with asset/liability management. Sensitivity of earnings to interest rate changes arises when yields on assets change in a different time period or in a different amount from that of interest costs on liabilities. To mitigate interest rate risk, the structure of the balance sheet is managed with the goal that movements of interest rates on assets and liabilities are correlated and contribute to earnings even in periods of volatile interest rates. The asset/liability management policy sets limits on the acceptable amount of variance in net interest margin, net income and market value of equity under changing interest environments. Market value of equity is the net present value of estimated cash flows from the Company’s assets, liabilities and off-balance sheet items. The Company uses simulation models to forecast net interest margin, net income and market value of equity.
Simulation of net interest margin, net income and market value of equity under various interest rate scenarios is the primary tool used to measure interest rate risk. Using computer-modeling techniques, the Company is able to estimate the potential impact of changing interest rates on net interest margin, net
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income and market value of equity. A balance sheet forecast is prepared using inputs of actual loan, securities and interest-bearing liability (i.e. deposits/borrowings) positions as the beginning base.
In the simulation of net interest margin and net income under various interest rate scenarios, the forecast balance sheet is processed against seven interest rate scenarios. These seven interest rate scenarios include a flat rate scenario, which assumes interest rates are unchanged in the future, and six additional rate ramp scenarios ranging from +300 to -300 basis points around the flat scenario in 100 basis point increments. These ramp scenarios assume that interest rates increase or decrease evenly (in a “ramp” fashion) over a twelve-month period and remain at the new levels beyond twelve months.
In the simulation of market value of equity under various interest rate scenarios, the forecast balance sheet is processed against seven interest rate scenarios. These seven interest rate scenarios include the flat rate scenario described above, and six additional rate shock scenarios ranging from +300 to -300 basis points around the flat scenario in 100 basis point increments. These rate shock scenarios assume that interest rates increase or decrease immediately (in a “shock” fashion) and remain at the new level in the future.
At March 31, 2005, the results of the simulations noted above indicate that the balance sheet is slightly liability sensitive (earnings decrease when interest rates rise). The magnitude of all the simulation results noted above is within the Company’s policy guidelines. The asset liability management policy limits aggregate market risk, as measured in this fashion, to an acceptable level within the context of risk-return trade-offs.
The simulation results noted above do not incorporate any management actions, which might moderate the negative consequences of interest rate deviations. Therefore, they do not reflect likely actual results, but serve as conservative estimates of interest rate risk.
At March 31, 2005 and 2004, the Company had no derivative financial instruments.
Liquidity
The Company’s principal source of asset liquidity is cash and amounts due from banks, and
marketable investment securities available-for-sale. At March 31, 2005, cash and due from banks,
federal funds sold and investment securities available-for-sale totaled $96.9 million, representing
an increase of $1.8 million or 1.9% from December 31, 2004, and an increase of $26.1 million or
36.8% from March 31, 2004. The Company generates additional liquidity from its operating
activities. The Company’s profitability during the first three months of 2005 generated cash flows
from operations of $156,000 compared to $802,000 during the first three months of 2004. Additional
cash flows may be provided by financing activities, primarily borrowings from banks and the Federal
Home Loan Bank. Sales and maturities of investment securities produced cash inflows of $9.2
million during the three months ended March 31, 2005 compared to $18.5 million for the three months
ended March 31, 2005. During the three months ended March 31, 2005, the Company invested $11.7
million in securities and experienced $12.2 million in net loan growth, compared to $13.0 million
and $1.3 million used to purchase investments and net loan growth, respectively, during the first
three months of 2004. These changes in investment and loan balances contributed to net cash used
by investing activities of $14.2 million during the three months ended March 31, 2005, compared to
net cash provided by investing activities of $4.4 million during the three months ended March 31,
2004. Financing activities provided net cash of $14.9 million during the three months ended March
31, 2005, compared to net cash used by financing activities of $8.3 million during the three months
ended March 31, 2004. Decreases in deposit balances accounted for $1.6 million of financing uses of
funds during the three months ended March 31, 2005, compared to deposit balance increases that
accounted for $14.6 million of the funds provided by financing activities during the three months
ended March 31, 2004. Also, the Company’s liquidity is dependent on dividends received from the
Bank. Dividends from the Bank are subject to certain regulatory restrictions.
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Item 4. Controls and Procedures
The Company’s principal executive officer, William A. Mitchell, Jr., and the principal financial officer, Alice M. Voss, evaluated the effectiveness of the Company’s disclosure controls and procedures as of March 31, 2005 (“Evaluation Date”). Based on that evaluation, they concluded that as of the Evaluation Date, the Company’s disclosure controls and procedures are effective to allow timely communication to them of information relating to the Company and the Bank required to be disclosed in its filings with the Securities and Exchange Commission (“SEC”) under the Securities Exchange Act of 1934, as amended (“Exchange Act”). Disclosure controls and procedures are Company controls and other procedures that are designed to ensure that information required to be disclosed by the Company in the reports that it files under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms.
There were no changes in the Company’s internal control over financial reporting that occurred during the period covered by this report that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.
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PART II – OTHER INFORMATION
Item 1. Legal Proceedings
Due to the nature of the banking business, the Bank is at times party to various legal actions. All such actions are of a routine nature and arise in the normal course of business of the Bank and are not expected to have a material impact on the Bank or Company.
Item 5. Other Information
Heritage Place
In August 2001, the Bank purchased three parcels of undeveloped property in Broomfield, Colorado.
The first transaction involved a purchase of undeveloped property from Joseph J. Fuentes and
Christine R. Fuentes located at 9590 Coalton Drive, Broomfield, Colorado 80020, also known as 604
Interlocken Boulevard, Broomfield, Colorado 80020, for a purchase price of approximately
$2,423,900. The second transaction involved the Bank’s purchase from Coalton Acres, LLC of two
parcels comprising 161,094 square feet of undeveloped property adjacent to 9590 Coalton Drive and
part of the development known as “The FlatIron,” for a purchase price of approximately $3,942,495.
The aggregate combined purchase price for the properties was approximately $6,371,000. The parcels
are collectively referred to as “Heritage Place.” When the Bank purchased the parcels that now
comprise Heritage Place, the Bank intended to sell Heritage Place to an investor or group to
develop Heritage Place and thereafter the Bank intended to purchase a pad within the newly
developed property to open a new branch and relocate some of the Company’s and the Bank’s
administrative offices.
The Bank entered into a letter of intent in September 2002 with Heritage Place Holdings, LLC and Heritage Place Partners, LLC (together, the “Developers”) that discussed the proposed sale of Heritage Place to the Developers along with the Bank’s right to purchase a pad inside Heritage Place once the development was complete. At the time the Bank executed the letter of intent, the individual members of the Developers included Mr. Beauprez, as well as others unaffiliated with the Company or the Bank. In September 2002, officers of the Bank and the Company met with representatives of the Federal Reserve Bank and the Colorado Division of Banking to discuss the relationship of the proposed transaction to federal and state banking laws and regulations and to provide an opportunity for federal and state banking regulators to comment upon the letter of intent. In November 2002, the Bank and the Developers terminated the letter of intent because the development project was no longer economically feasible to the Developers due to market conditions.
Following termination of the letter of intent, the Bank continues to consider its best course of action regarding Heritage Place including, but not limited to, structuring a similar transaction with developers if market conditions improve in the future; preparing Heritage Place for sale to different investors, except for the pad the Bank could develop for a new branch location; or selling Heritage Place including the pad. Of the approximately 8.2 acre Heritage Place site, a bank pad of approximately 1.5 acres has been “carved out” for a potential branch building. In July 2003, the remaining 6.7 acres were listed for sale with a commercial broker. If a potential buyer would have an interest in purchasing the entire 8.2 acres, the Bank would be willing to consider this also.
The Bank has incurred and continues to incur costs while holding the Heritage Place property for sale. As of March 31, 2005, the Bank had capitalized total costs of $9,953,000 relating to preparing Heritage Place for sale and development, including fees for a site plan, annexation, zoning, architectural and tap fees. These costs are capitalized and are reflected as an asset on the Company’s unaudited consolidated balance sheet as presented in this report. In addition, the Bank has incurred related expenses of $128,000 for the three months ended March 31, 2005, largely related to holding the property. Of this amount, $31,000 was
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accrued for real estate taxes and $87,000 was accrued pursuant to a development and reimbursement agreement with the City and County of Broomfield (“City”) relating to bonds issued by the City for an urban renewal project in the area where Heritage Place is located. These costs are not capitalized and are reflected as non-interest expense on the Company’s unaudited consolidated statements of income presented in this report. The Bank expects to incur additional non-capitalized costs related to holding Heritage Place. Based on an opinion letter from an independent certified general appraiser dated March 7, 2005, the Bank’s management believes that the value of Heritage Place equals or exceeds the costs capitalized to date. The Bank’s management believes that the location of Heritage Place will become an important commercial site for a new banking and office location. The capitalized and non-capitalized costs incurred and to be incurred in the future to prepare the property for development represent an investment in the property in order to obtain that site. The Bank’s management also believes that it can receive a favorable price for the sale of Heritage Place to recoup its investment and ongoing carrying costs.
Other Property
In March 2005 the Bank entered into a contract to purchase and paid a non-refundable earnest money
deposit of $10,000 to acquire approximately one acre of undeveloped property in Erie, Colorado. The
cost of the property is $2.00 per square foot. The total cost is estimated to be $88,000 and will
be calculated after approval of the site development plan by the Town of Erie and determination of
the size of the site pad. The Bank intends to relocate its existing branch to the new site sometime
in the second half of 2006.
In October 2004, the Bank entered into a purchase and sale agreement to acquire two developed commercial lots on a major traffic arterial located in Longmont, Colorado for $1,500,000. The Bank has paid deposits of $110,000 of which $55,000 is refundable until favorable completion of the due diligence process. The Bank intends to build a new branch on this property with an anticipated opening date in the second half of 2006.
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Item 6. Exhibits
The following documents are included or incorporated by reference in this quarterly report on Form 10-Q, and this list includes the Exhibit Index.
| Exhibit No. | Description | |
3.1*
|
Articles of Incorporation of Front Range Capital Corporation. | |
3.2**
|
Articles of Third Amendment to the Articles of Incorporation. | |
3.3*
|
Bylaws of Front Range Capital Corporation | |
4.1*
|
Form of Indenture by and between Front Range Capital Corporation and Wilmington Trust Company | |
4.2*
|
Form of Subordinated Debenture (included as an exhibit to Exhibit 4.1) | |
4.3*
|
Certificate of Trust of Front Range Capital Trust I, as amended and restated | |
4.4*
|
Trust Agreement between Front Range Capital Corporation, Wilmington Trust Company and the Administrative Trustees named therein | |
4.5*
|
Form of Amended and Restated Trust Agreement between Front Range Capital Corporation and Wilmington Trust Company and the Administrative Trustees named therein | |
4.6*
|
Form of Trust Preferred Securities Certificate (included as an exhibit to Exhibit 4.5) | |
4.7*
|
Form of Trust Preferred Securities Guarantee Agreement between Front Range Capital Corporation and Wilmington Trust Company | |
4.8*
|
Revised Form of Agreement of Expenses and Liabilities (included as an exhibit to Exhibit 4.5) | |
10.1*
|
Lease Agreement between Lafayette State Bank and Fruehauf Investments Ltd. | |
10.2*
|
Promissory Note by Front Range Capital Corporation payable to Bankers’ Bank of the West | |
10.3*
|
Amendment and Restatement of Executive Retirement Plan of Heritage Bank | |
10.4*
|
Indexed Salary Continuation Plan of Heritage Bank | |
10.5*
|
Flexible Premium Life Insurance Endorsement Method Split Dollar Plan Agreement | |
31.1
|
Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer | |
31.2
|
Rule 13a-14(a)/15d-14(a) Certification of Chief Financial Officer | |
32.1
|
Section 1350 Certification of Chief Executive Officer | |
32.2
|
Section 1350 Certification of Chief Financial Officer |
| * | Previously filed with the Company’s Registration Statement on Form SB-2 (333-40028 and 333-40028-01) and incorporated herein by reference. | |
| ** | Previously filed with the Company’s Annual Report on Form 10-KSB for the year ended December 31, 2000 and incorporated herein by reference. |
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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.
| FRONT RANGE CAPITAL CORPORATION | ||||
| (Registrant) | ||||
Date: May 12, 2005
|
By: | /s/ William A. Mitchell, Jr. | ||
| William A. Mitchell, Jr. | ||||
| Chief Executive Officer and President | ||||
| (Principal Executive Officer) | ||||
Date: May 12, 2005
|
By: | /s/ Alice M. Voss | ||
| Alice M. Voss | ||||
| Chief Financial Officer | ||||
| (Principal Financial and Accounting Officer) | ||||
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Exhibit
Index
|
||
3.1*
|
Articles of Incorporation of Front Range Capital Corporation. | |
3.2**
|
Articles of Third Amendment to the Articles of Incorporation. | |
3.3*
|
Bylaws of Front Range Capital Corporation | |
4.1*
|
Form of Indenture by and between Front Range Capital Corporation and Wilmington Trust Company | |
4.2*
|
Form of Subordinated Debenture (included as an exhibit to Exhibit 4.1) | |
4.3*
|
Certificate of Trust of Front Range Capital Trust I, as amended and restated | |
4.4*
|
Trust Agreement between Front Range Capital Corporation, Wilmington Trust Company and the Administrative Trustees named therein | |
4.5*
|
Form of Amended and Restated Trust Agreement between Front Range Capital Corporation and Wilmington Trust Company and the Administrative Trustees named therein | |
4.6*
|
Form of Trust Preferred Securities Certificate (included as an exhibit to Exhibit 4.5) | |
4.7*
|
Form of Trust Preferred Securities Guarantee Agreement between Front Range Capital Corporation and Wilmington Trust Company | |
4.8*
|
Revised Form of Agreement of Expenses and Liabilities (included as an exhibit to Exhibit 4.5) | |
10.1*
|
Lease Agreement between Lafayette State Bank and Fruehauf Investments Ltd. | |
10.2*
|
Promissory Note by Front Range Capital Corporation payable to Bankers’ Bank of the West | |
10.3*
|
Amendment and Restatement of Executive Retirement Plan of Heritage Bank | |
10.4*
|
Indexed Salary Continuation Plan of Heritage Bank | |
10.5*
|
Flexible Premium Life Insurance Endorsement Method Split Dollar Plan Agreement | |
31.1
|
Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer | |
31.2
|
Rule 13a-14(a)/15d-14(a) Certification of Chief Financial Officer | |
32.1
|
Section 1350 Certification of Chief Executive Officer | |
32.2
|
Section 1350 Certification of Chief Financial Officer | |
| * | Previously filed with the Company’s Registration Statement on Form SB-2 (333-40028 and 333-40028-01) and incorporated herein by reference. | |
| ** | Previously filed with the Company’s Annual Report on Form 10-KSB for the year ended December 31, 2000 and incorporated herein by reference. |
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