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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-Q
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|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
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Commission file number 000-23777
PENSECO FINANCIAL SERVICES CORPORATION
Incorporated pursuant to the Laws of Pennsylvania
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Internal Revenue Service -- Employer Identification No. 23-2939222
150 North Washington Avenue, Scranton, Pennsylvania 18503-1848
(570) 346-7741
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Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports) and (2) has been subject to such filing
requirements for the past 90 days. Yes |X| No | |
The total number of shares of the registrant's Common Stock, $0.01 par value,
outstanding on July 26, 2002 was 2,148,000.
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PENSECO FINANCIAL SERVICES CORPORATION
Page
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Part I -- FINANCIAL INFORMATION
Item 1. Financial Statements - Consolidated
Balance Sheets:
June 30, 2002.......................................... 3
December 31, 2001...................................... 3
Statements of Income:
Three Months Ended June 30, 2002....................... 4
Three Months Ended June 30, 2001....................... 4
Six Months Ended June 30, 2002......................... 5
Six Months Ended June 30, 2001......................... 5
Statements of Cash Flows:
Six Months Ended June 30, 2002......................... 6
Six Months Ended June 30, 2001......................... 6
Notes to Financial Statements............................. 7
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations................................. 11
Part II -- OTHER INFORMATION
Item 1. Legal Proceedings........................................... 17
Item 2. Changes in Securities....................................... 17
Item 3. Defaults Upon Senior Securities............................. 17
Item 4. Submission of Matters to a Vote of Security Holders......... 17
Item 5. Other Information........................................... 17
Item 6. Exhibits and Reports on Form 8-K............................ 18
Signatures.......................................................... 18
PART I. FINANCIAL INFORMATION, Item 1-- Financial Statements
PENSECO FINANCIAL SERVICES CORPORATION
CONSOLIDATED BALANCE SHEETS
(unaudited)
(in thousands of dollars)
June 30, December 31,
2002 2001
------------- -------------
ASSETS
Cash and due from banks $ 10,301 $ 13,026
Interest bearing balances with banks 2,910 4,270
Federal funds sold 10,600 -
------------- -------------
Cash and Cash Equivalents 23,811 17,296
Investment securities:
Available-for-sale, at fair value 107,097 96,505
Held-to-maturity (fair value of $32,479
and $32,617, respectively) 31,503 32,118
------------- -------------
Total Investment Securities 138,600 128,623
Loans, net of unearned income 322,506 323,808
Less: Allowance for loan losses 3,950 3,600
------------- -------------
Loans, Net 318,556 320,208
Bank premises and equipment 10,350 10,783
Other real estate owned - 143
Accrued interest receivable 3,801 3,599
Other assets 2,490 1,899
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Total Assets $ 497,608 $ 482,551
============= =============
LIABILITIES
Deposits:
Non-interest bearing $ 70,089 $ 70,812
Interest bearing 347,368 335,719
------------- -------------
Total Deposits 417,457 406,531
Other borrowed funds:
Repurchase agreements 19,355 18,140
Short-term borrowings 873 17
Accrued interest payable 1,596 1,577
Other liabilities 1,409 1,638
------------- -------------
Total Liabilities 440,690 427,903
------------- -------------
STOCKHOLDERS' EQUITY
Common stock ($ .01 par value, 15,000,000 shares
authorized, 2,148,000 shares issued and outstanding) 21 21
Surplus 10,819 10,819
Retained earnings 43,173 41,206
Accumulated other comprehensive income 2,905 2,602
------------- -------------
Total Stockholders' Equity 56,918 54,648
------------- -------------
Total Liabilities and Stockholders' Equity $ 497,608 $ 482,551
============= =============
PENSECO FINANCIAL SERVICES CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
(unaudited)
(in thousands of dollars)
Three Months Ended Three Months Ended
June 30, 2002 June 30, 2001
------------------ ------------------
INTEREST INCOME
Interest and fees on loans $ 5,326 $ 6,357
Interest and dividends on investments:
U.S. Treasury securities and U.S. Agency obligations 1,244 1,394
States & political subdivisions 584 360
Other securities 19 32
Interest on Federal funds sold 18 1
Interest on balances with banks 21 2
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Total Interest Income 7,212 8,146
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INTEREST EXPENSE
Interest on time deposits of $100,000 or more 366 436
Interest on other deposits 1,669 2,528
Interest on other borrowed funds 77 387
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Total Interest Expense 2,112 3,351
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Net Interest Income 5,100 4,795
Provision for loan losses 240 291
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Net Interest Income After Provision for Loan Losses 4,860 4,504
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OTHER INCOME
Trust department income 352 344
Service charges on deposit accounts 284 337
Merchant transaction income 920 884
Other fee income 239 232
Other operating income 183 147
Realized losses on securities, net - -
------------------ ------------------
Total Other Income 1,978 1,944
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OTHER EXPENSES
Salaries and employee benefits 2,217 1,954
Expense of premises and fixed assets 628 679
Merchant transaction expenses 794 798
Other operating expenses 1,173 1,200
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Total Other Expenses 4,812 4,631
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Income before income taxes 2,026 1,817
Applicable income taxes 459 421
------------------ ------------------
Net Income 1,567 1,396
Other comprehensive income, net of taxes:
Unrealized securities gains (losses) 1,234 (382)
------------------ ------------------
Comprehensive Income $ 2,801 $ 1,014
================== ==================
Earnings per Common Share
(Based on 2,148,000 shares outstanding) $ 0.73 $ 0.65
Cash Dividends Declared Per Common Share $ 0.30 $ 0.25
PENSECO FINANCIAL SERVICES CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
(unaudited)
(in thousands of dollars)
Six Months Ended Six Months Ended
June 30, 2002 June 30, 2001
------------------ ------------------
INTEREST INCOME
Interest and fees on loans $ 10,814 $ 12,690
Interest and dividends on investments:
U.S. Treasury securities and U.S. Agency obligations 2,547 2,803
States & political subdivisions 1,027 710
Other securities 43 63
Interest on Federal funds sold 30 5
Interest on balances with banks 37 9
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Total Interest Income 14,498 16,280
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INTEREST EXPENSE
Interest on time deposits of $100,000 or more 763 942
Interest on other deposits 3,310 5,238
Interest on other borrowed funds 152 844
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Total Interest Expense 4,225 7,024
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Net Interest Income 10,273 9,256
Provision for loan losses 419 441
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Net Interest Income After Provision for Loan Losses 9,854 8,815
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OTHER INCOME
Trust department income 646 682
Service charges on deposit accounts 552 524
Merchant transaction income 2,610 2,782
Other fee income 457 436
Other operating income 397 232
Realized losses on securities, net - (32)
------------------ ------------------
Total Other Income 4,662 4,624
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OTHER EXPENSES
Salaries and employee benefits 4,340 3,986
Expense of premises and fixed assets 1,295 1,402
Merchant transaction expenses 2,259 2,465
Other operating expenses 2,331 2,407
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Total Other Expenses 10,225 10,260
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Income before income taxes 4,291 3,179
Applicable income taxes 1,035 695
------------------ ------------------
Net Income 3,256 2,484
Other comprehensive income, net of taxes:
Unrealized securities gains (losses) 303 583
------------------ ------------------
Comprehensive Income $ 3,559 $ 3,067
================== ==================
Earnings per Common Share
(Based on 2,148,000 shares outstanding) $ 1.52 $ 1.16
Cash Dividends Declared Per Common Share $ 0.60 $ 0.50
PENSECO FINANCIAL SERVICES CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
(in thousands of dollars)
Six Months Ended Six Months Ended
June 30, 2002 June 30, 2001
------------------ ------------------
OPERATING ACTIVITIES
Net Income $ 3,256 $ 2,484
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation 619 670
Provision for loan losses 419 441
Deferred income tax (benefit) provision (72) 35
Amortization of securities, (net of accretion) 86 (2)
Net realized losses (gains) on securities - 32
Loss (gain) on other real estate - 20
(Increase) decrease in interest receivable (202) (182)
(Increase) decrease in other assets (591) (429)
Increase (decrease) in income taxes payable 90 142
Increase (decrease) in interest payable 19 (264)
(Decrease) increase in other liabilities (403) (217)
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Net cash provided by operating activities 3,221 2,730
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INVESTING ACTIVITIES
Purchase of investment securities available-for-sale (20,192) (20,727)
Proceeds from maturities of investment securities available-for-sale 10,000 23,111
Purchase of investment securities to be held-to-maturity - -
Proceeds from repayments of investment securities to be held-to-maturity 588 722
Net loans repaid (originated) 1,233 (22,462)
Proceeds from other real estate 143 103
Investment in premises and equipment (186) (90)
------------------ ------------------
Net cash (used) provided by investing activities (8,414) (19,343)
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FINANCING ACTIVITIES
Net increase (decrease) in demand and savings deposits 9,440 1,046
Net proceeds (payments) on time deposits 1,486 (3,606)
Increase (decrease) in federal funds purchased - -
Increase (decrease) in repurchase agreements 1,215 3,366
Net increase (decrease) in short-term borrowings 856 7,695
Cash dividends paid (1,289) (1,074)
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Net cash provided (used) by financing activities 11,708 7,427
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Net increase (decrease) in cash and cash equivalents 6,515 (9,186)
Cash and cash equivalents at January 1 17,296 19,133
------------------ ------------------
Cash and cash equivalents at June 30 $ 23,811 $ 9,947
================== ==================
The Company paid interest and income taxes of $4,206 and $1,150 and $7,288 and
$530, for the six month periods ended June 30, 2002 and 2001, respectively.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
For the Quarter Ended June 30, 2002
(unaudited)
These Notes to Financial Statements reflect events subsequent to December 31,
2001, the date of the most recent Report of Independent Auditors, through the
date of this Quarterly Report on Form 10-Q for the quarter ended June 30, 2002.
These Notes to Financial Statements should be read in conjunction with Financial
Information and Other Information required to be furnished as part of this
Report, in particular, (1) Management's Discussion and Analysis of Financial
Condition and Results of Operations for the three months ended June 30, 2002 and
June 30, 2001 and for the six months ended June 30, 2002 and June 30, 2001, with
respect to the Company's capital requirements and liquidity, (2) Part II, Item
6, Reports on Form 8-K and (3) the Company's Annual Report - Form 10-K for the
year ended December 31, 2001, incorporated herein by reference.
NOTE 1 -- Principles of Consolidation
Penseco Financial Services Corporation (Company) is a financial holding company,
incorporated under the laws of Pennsylvania. It is the parent company of Penn
Security Bank and Trust Company (Bank), a state chartered bank.
Intercompany transactions have been eliminated in preparing the consolidated
financial statements.
The accounting policies of the Company conform with accounting principles
generally accepted in the United States of America and with general practices
within the banking industry.
NOTE 2 -- Basis of Presentation
The unaudited consolidated financial statements have been prepared in accordance
with generally accepted accounting principles for interim financial information.
In the opinion of management, all adjustments that are of a normal recurring
nature and are considered necessary for a fair presentation have been included.
They are not, however, necessarily indicative of the results of consolidated
operations for a full year.
For further information, refer to the consolidated financial statements and
accompanying notes included in the Company's Annual Report - Form 10-K for the
year ended December 31, 2001.
NOTE 3 -- Use of Estimates
The preparation of financial statements in conformity with generally accepted
accounting principles 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.
Actual results could differ from those estimates.
Material estimates that are particularly susceptible to significant change
relate to the determination of the allowance for losses on loans and the
valuation of real estate acquired in connection with foreclosures or in
satisfaction of loans. In connection with the determination of the allowance for
losses on loans and foreclosed real estate, management obtains independent
appraisals for significant properties.
NOTE 4 -- Investment Securities
Investments in securities are classified in two categories and accounted for as
follows:
Securities Held-to-Maturity. Bonds, notes, debentures and mortgage-backed
securities for which the Company has the positive intent and ability to hold to
maturity are reported at cost, adjusted for amortization of premiums and
accretion of discounts computed on the straight-line basis, which approximates
the interest method, over the remaining period to maturity.
Securities Available-for-Sale. Bonds, notes, debentures, and certain equity
securities not classified as securities to be held-to-maturity are carried at
fair value with unrealized holding gains and losses, net of tax, reported as a
net amount in a separate component of stockholders' equity until realized.
Realized gains and losses on the sale of securities available-for-sale are
determined using the specific identification method and are reported as a
separate component of other income in the Statements of Income. Unrealized gains
and losses are included as a separate item in computing comprehensive income.
The amortized cost and fair value of investment securities at June 30, 2002 and
December 31, 2001 are as follows:
Available-for-Sale
Gross Gross
Amortized Unrealized Unrealized Fair
June 30, 2002 Cost Gains Losses Value
- --------------------------------------------------------------------------------
U.S. Treasury securities $ 35,148 $ 1,091 $ - $ 36,239
U.S. Agency securities 55,340 3,206 - 58,546
States & political subdivisions 9,932 39 69 9,902
- --------------------------------------------------------------------------------
Total Debt Securities 100,420 4,336 69 104,687
Equity securities 2,275 135 - 2,410
- --------------------------------------------------------------------------------
Total Available-for-Sale $ 102,695 $ 4,471 $ 69 $ 107,097
- --------------------------------------------------------------------------------
Available-for-Sale
Gross Gross
Amortized Unrealized Unrealized Fair
December 31, 2001 Cost Gains Losses Value
- --------------------------------------------------------------------------------
U.S. Treasury securities $ 35,014 $ 1,086 $ 31 $ 36,069
U.S. Agency securities 55,368 2,775 - 58,143
States & political subdivisions - - - -
- --------------------------------------------------------------------------------
Total Debt Securities 90,382 3,861 31 94,212
Equity securities 2,180 113 - 2,293
- --------------------------------------------------------------------------------
Total Available-for-Sale $ 92,562 $ 3,974 $ 31 $ 96,505
- --------------------------------------------------------------------------------
Held-to-Maturity
Gross Gross
Amortized Unrealized Unrealized Fair
June 30, 2002 Cost Gains Losses Value
- --------------------------------------------------------------------------------
U.S. Agency Obligations:
Mortgage-backed securities $ 1,806 $ 11 $ 27 $ 1,790
States & political subdivisions 29,697 1,027 35 30,689
- --------------------------------------------------------------------------------
Total Held-to-Maturity $ 31,503 $ 1,038 $ 62 $ 32,479
- --------------------------------------------------------------------------------
Held-to-Maturity
Gross Gross
Amortized Unrealized Unrealized Fair
December 31, 2001 Cost Gains Losses Value
- --------------------------------------------------------------------------------
U.S. Agency Obligations:
Mortgage-backed securities $ 2,377 $ - $ 45 $ 2,332
States & political subdivisions 29,741 799 255 30,285
- --------------------------------------------------------------------------------
Total Held-to-Maturity $ 32,118 $ 799 $ 300 $ 32,617
- --------------------------------------------------------------------------------
The amortized cost and fair value of debt securities at June 30, 2002 by
contractual maturity are shown below. Expected maturities will differ from
contractual maturities because borrowers may have the right to call or prepay
obligations with or without call or prepayment penalties.
June 30, 2002 Available-for-Sale Held-to-Maturity
- --------------------------------------------------------------------------------
Amortized Fair Amortized Fair
Cost Value Cost Value
- --------------------------------------------------------------------------------
Due in one year or less:
U.S. Treasury securities $ 5,004 $ 5,089 $ - $ -
U.S. Agency securities 5,012 5,223 - -
After one year through five years:
U.S. Treasury securities 30,144 31,150 - -
U.S. Agency securities 50,328 53,323 - -
After ten years:
States & political subdivisions 9,932 9,902 29,697 30,689
- --------------------------------------------------------------------------------
Subtotal 100,420 104,687 29,697 30,689
Mortgage-backed securities - - 1,806 1,790
- --------------------------------------------------------------------------------
Total Debt Securities $ 100,420 $ 104,687 $ 31,503 $ 32,479
- --------------------------------------------------------------------------------
NOTE 5 -- Regulatory Matters
The Company and the Bank are subject to various regulatory capital requirements
administered by the Federal banking agencies. Failure to meet minimum capital
requirements can initiate certain mandatory--and possibly additional
discretionary--actions by regulators that, if undertaken, could have a direct
material effect on the Company and the Bank's Consolidated Financial Statements.
Under capital adequacy guidelines and the regulatory framework for prompt
corrective action, the Company and the Bank must meet specific capital
guidelines that involve quantitative measures of their assets, liabilities, and
certain off-balance sheet items as calculated under regulatory accounting
practices. The Company and the Bank's capital amounts and classifications are
also subject to qualitative judgements by the regulators about components, risk
weightings and other factors.
Quantitative measures established by regulation to ensure capital adequacy
require the Company and the Bank to maintain minimum amounts and ratios (set
forth in the Capital Adequacy table on the following page) of Tier I and Total
Capital to risk-weighted assets and of Tier I Capital to average assets
(Leverage ratio). The table also presents the Company's actual capital amounts
and ratios. The Bank's actual capital amounts and ratios are substantially
identical to the Company's. Management believes, as of June 30, 2002, that the
Company and the Bank meet all capital adequacy requirements to which they are
subject.
As of June 30, 2002, the most recent notification from the Federal Deposit
Insurance Corporation (FDIC) categorized the Company as "well capitalized" under
the regulatory framework for prompt corrective action. To be categorized as
"well capitalized", the Company must maintain minimum Tier I Capital, Total
Capital and Leverage ratios as set forth in the Capital Adequacy table. There
are no conditions or events since that notification that management believes
have changed the Company's categorization by the FDIC.
The Company and Bank are also subject to minimum capital levels, which could
limit the payment of dividends, although the Company and Bank currently have
capital levels, which are in excess of minimum capital level ratios required.
The Pennsylvania Banking Code restricts capital funds available for payment of
dividends to the Retained Earnings of the Bank. Accordingly, at June 30, 2002,
the balances in the Capital Stock and Surplus accounts totalling $10,840 are
unavailable for dividends.
In addition, the Bank is subject to restrictions imposed by Federal law on
certain transactions with the Company's affiliates. These transactions include
extensions of credit, purchases of or investments in stock issued by the
affiliate, purchases of assets subject to certain exceptions, acceptance of
securities issued by an affiliate as collateral for loans, and the issuance of
guarantees, acceptances, and letters of credit on behalf of affiliates. These
restrictions
prevent the Company's affiliates from borrowing from the Bank unless the loans
are secured by obligations of designated amounts. Further, the aggregate of such
transactions by the Bank with a single affiliate is limited in amount to 10
percent of the Bank's Capital Stock and Surplus, and the aggregate of such
transactions with all affiliates is limited to 20 percent of the Bank's Capital
Stock and Surplus. The Federal Reserve System has interpreted "Capital Stock and
Surplus" to include undivided profits.
Actual Regulatory Requirements
- ----------------------------------------------- --------------------------------------------
For Capital To Be
Adequacy Purposes "Well Capitalized"
As of June 30, 2002 Amount Ratio Amount Ratio Amount Ratio
- ------------------------------------------------------------------------------------------------
Total Capital
(to Risk Weighted Assets) $ 57,963 17.68% > $ 26,225 > 8.0% > $ 32,781 > 10.0%
- - - -
Tier 1 Capital
(to Risk Weighted Assets) $ 54,013 16.48% > $ 13,113 > 4.0% > $ 19,669 > 6.0%
- - - -
Tier 1 Capital
(to Average Assets) $ 54,013 11.03% > $ * > * > $ 24,495 > 5.0%
- - - -
*3.0% ($14,697), 4.0% ($19,596) or 5.0% ($24,495) depending on the bank's CAMELS
Rating and other regulatory risk factors.
As of December 31, 2001
- ------------------------------------------------------------------------------------------------
Total Capital
(to Risk Weighted Assets) $ 55,646 18.22% > $ 24,428 > 8.0% > $ 30,535 > 10.0%
- - - -
Tier 1 Capital
(to Risk Weighted Assets) $ 52,046 17.04% > $ 12,214 > 4.0% > $ 18,321 > 6.0%
- - - -
Tier 1 Capital
(to Average Assets) $ 52,046 10.95% > $ * > * > $ 23,759 > 5.0%
- - - -
*3.0% ($14,255), 4.0% ($19,007) or 5.0% ($23,759) depending on the bank's CAMELS
Rating and other regulatory risk factors.
PART 1. FINANCIAL INFORMATION, Item 2--
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
The following commentary provides an overview of the financial condition and
significant changes in the results of operations of Penseco Financial Services
Corporation and it's subsidiary ("Penn Security Bank and Trust Company") for the
three months ended June 30, 2002 and June 30, 2001 and for the six months ended
June 30, 2002 and June 30, 2001. Throughout this review the subsidiary of
Penseco Financial Services Corporation, Penn Security Bank and Trust Company, is
referred to as the "Company". All intercompany accounts and transactions have
been eliminated in preparing the consolidated financial statements. All
information is presented in thousands of dollars, except as indicated.
Overview of Financial Condition
Penseco Financial Services Corporation reported an increase in net income of
$171 or 12.2% to $1,567 from $1,396 reported for the three months ended June 30,
2001. This is attributed to increases in the net interest income, along with
increased other income, mainly from increases in brokerage services.
The Company also reported an increase in net income of $772 or 31.1% to $3,256
for the six months ended June 30, 2002 from $2,484 reported for the first half
of 2001, largely due to increases in the net interest margin. There was an
increase in other income of $38 or .8%, mainly from an increase in brokerage
services.
Net Interest Income and Net Interest Margin
Net interest income, the largest contributor to the Company's earnings, is
defined as the difference between income on assets and the cost of funds
supporting those assets. Earning assets are composed primarily of loans and
investments while deposits and short-term borrowings, in the form of securities
sold under agreements to repurchase, represent interest-bearing liabilities.
Variations in the volume and mix of these assets and liabilities, as well as
changes in the yields earned and rates paid, are determinants of changes in net
interest income.
Net interest income after provision for loan losses increased $1,039 or 11.8%
from $8,815 for the first half of 2001 to $9,854 in 2002. In addition, earning
assets repriced downward 104 basis points due to the precipitous drop in
interest rates following September 11, 2001, offset by interest bearing
liabilities repricing downward 161 basis points, as shown on the following
schedule.
The net interest margin represents the Company's net yield on its earning assets
and is calculated as net interest income divided by average earning assets. In
the first six months of 2002, the net interest margin was 4.41%, increasing 28
basis points from 4.13% in the same period of 2001.
Total average earning assets and average interest bearing funds increased in the
first half of 2002 as compared to 2001. Average earning assets increased $17.7
million or 3.9%, from $448.5 million in 2001 to $466.2 million in 2002 and
average interest bearing funds increased $7.7 million, or 2.2%, from $357.2
million to $364.9 million for the same periods. As a percentage of average
assets, earning assets increased to 95.2% for the first half of 2002 from 94.8%
for the year ago period. Interest bearing liabilities decreased to 74.5% from
75.5%, as a percentage of total liabilities and stockholders' equity, compared
to the year ago period.
Changes in the mix of both earning assets and funding sources also impacted net
interest income in the first half of both 2002 and 2001. Average loans as a
percentage of average earning assets decreased from 72.9% in 2001 to 69.3% in
2002; average investments increased from 27.0% to 28.7%. Short-term investments,
federal funds sold and interest bearing balances with banks increased $8.2
million to $8.9 from $.7 and also increased as a percentage of earning assets
from .2% in 2001 to 1.9% in 2002. Time deposits increased $14.5 million from
40.4% in 2001 to 43.5% in 2002. However, short-term borrowings and repurchase
agreements decreased $17.9 from 10.4% in 2001 to 5.2% in 2002, as a percentage
of funding sources.
Shifts in the interest rate environment and competitive factors affected the
rates paid for funds as well as the yields earned on assets. The investment
securities tax equivalent yield decreased 33 basis points from 6.52% in the
first half of 2001 to 6.19% for 2002. Also, average loan yields decreased 45
basis points, from 7.76% in the first half of 2001 to 7.31% in 2002. The average
time deposit costs decreased from 5.60% in 2001 to 3.71% in 2002, along with
money market accounts decreasing 197 basis points from 3.51% in 2001 to 1.54% in
2002. These are the primary causes of the decrease in the total cost of funds
rate from 3.93% in 2001 to 2.32% in 2002.
Distribution of Assets, Liabilities and Stockholders' Equity / Interest Rates
and Interest Differential
The table below presents average balances, interest income on a fully taxable
equivalent basis and interest expense, as well as average rates earned and paid
on the Company's major asset and liability items for June 30, 2002 and June 30,
2001.
- -----------------------------------------------------------------------------------------------------------
June 30, 2002 June 30, 2001
ASSETS Average Revenue/ Yield/ Average Revenue/ Yield/
Balance Expense Rate Balance Expense Rate
- -----------------------------------------------------------------------------------------------------------
Investment Securities
Available-for-sale:
U.S. Treasury securities $ 35,163 $ 824 4.69% $ 41,292 $ 1,258 6.09%
U.S. Agency obligations 55,349 1,687 6.10% 44,318 1,436 6.48%
States & political subdivisions 9,483 237 7.57% 13,451 245 5.52%
Federal Home Loan Bank stock 1,999 37 3.70% 1,904 61 6.41%
Other 269 6 2.23% 234 2 1.70%
Held-to-maturity:
U.S. Agency obligations 1,947 36 3.70% 3,412 109 6.39%
States & political subdivisions 29,698 791 8.07% 16,333 465 8.63%
Loans, net of unearned income:
Real estate mortgages 249,464 8,595 6.89% 248,345 9,698 7.81%
Commercial 33,553 911 5.43% 28,933 1,137 7.86%
Consumer and other 40,326 1,307 6.48% 49,593 1,855 7.48%
Federal funds sold 4,024 30 1.49% 235 5 4.25%
Interest on balances with banks 4,910 37 1.51% 465 9 3.87%
- -----------------------------------------------------------------------------------------------------------
Total Earning Assets/
Total Interest Income 466,185 $ 14,498 6.22% 448,515 $ 16,280 7.26%
- -----------------------------------------------------------------------------------------------------------
Cash and due from banks 8,041 7,836
Bank premises and equipment 10,523 11,291
Accrued interest receivable 3,470 3,753
Other assets 5,442 5,039
Less: Allowance for loan losses 3,757 3,110
- -----------------------------------------------------------------------------------------------------------
Total Assets $ 489,904 $ 473,324
- -----------------------------------------------------------------------------------------------------------
LIABILITIES AND STOCKHOLDERS' EQUITY
Deposits:
Demand-Interest bearing $ 26,613 $ 82 0.62% $ 24,556 $ 133 1.08%
Savings 70,797 359 1.01% 63,794 469 1.47%
Money markets 89,612 690 1.54% 87,611 1,539 3.51%
Time - Over $100 39,213 763 3.89% 30,481 942 6.18%
Time - Other 119,514 2,179 3.65% 113,760 3,098 5.45%
Federal funds purchased - - - 3 - -
Repurchase agreements 18,425 146 1.58% 16,899 337 3.99%
Short-term borrowings 706 6 1.70% 20,140 506 5.02%
- -----------------------------------------------------------------------------------------------------------
Total Interest Bearing Liabilities/
Total Interest Expense 364,880 $ 4,225 2.32% 357,244 $ 7,024 3.93%
- -----------------------------------------------------------------------------------------------------------
Demand - Non-interest bearing 66,782 60,083
All other liabilities 2,569 3,394
Stockholders' equity 55,673 52,603
- -----------------------------------------------------------------------------------------------------------
Total Liabilities and
Stockholders' Equity $ 489,904 $ 473,324
- -----------------------------------------------------------------------------------------------------------
Interest Spread 3.90% 3.33%
- -----------------------------------------------------------------------------------------------------------
Net Interest Income $ 10,273 $ 9,256
- -----------------------------------------------------------------------------------------------------------
FINANCIAL RATIOS
Net interest margin 4.41% 4.13%
Return on average assets 1.33% 1.05%
Return on average equity 11.70% 9.44%
Average equity to average assets 11.36% 11.11%
Dividend payout ratio 39.47% 43.10%
- -----------------------------------------------------------------------------------------------------------
Provision for Loan Losses
The provision for loan losses represents management's determination of the
amount necessary to bring the allowance for loan losses to a level that
management considers adequate to reflect the risk of future losses inherent in
the Company's loan portfolio. The process of determining the adequacy of the
allowance is necessarily judgmental and subject to changes in external
conditions. The allowance for loan losses reflects management's judgment as to
the level considered appropriate to absorb such losses based upon a review of
many factors, including historical loss experience, adverse situations that may
affect the borrower's ability to repay (including the timing of future
payments), economic conditions and trends, loan portfolio volume and mix, loan
performance trends, the value and adequacy of collateral, and the Company's
internal credit review process. Accordingly, there can be no assurance that
existing levels of the allowance will ultimately prove adequate to cover actual
loan losses. The quarterly provision for loan losses charged to operating
expense is that amount which is sufficient to bring the balance of the allowance
for possible loan losses to an adequate level to absorb anticipated losses.
Based on this ongoing evaluation, management determines the provision necessary
to maintain an appropriate allowance.
In the first half of 2002, the provision for loan losses was $419, a decrease
from $441 in the first six months of 2001. Loans charged-off totaled $89 and
recoveries were $20 for the six months ended June 30, 2002. In the same period
of 2001, loans charged off were $414, offset by recoveries of $23. At June 30,
2002, the allowance for loan losses increased to $3,950 or 1.22% of loans as an
act of prudence by management.
Other Income
The following table sets forth information by category of other income for the
Company for three months ended June 30, 2002 and June 30, 2001, respectively:
June 30, June 30,
Three Months Ended: 2002 2001
- ---------------------------------------------------------------
Trust department income $ 352 $ 344
Service charges on deposit accounts 284 337
Merchant transaction income 920 884
Other fee income 239 232
Other operating income 183 147
Realized losses on securities, net - -
- ---------------------------------------------------------------
Total Other Income $ 1,978 $ 1,944
- ---------------------------------------------------------------
Other income increased $34 or 1.7% to $1,978 from $1,944 for the three months
ended June 30, 2002. Contributing to the growth in other income were increases
of $36 or 4.1% to $920 from $884 in merchant transaction income and $36 or 24.5%
to $183 from $147 in other operating income, due mainly to increased revenue
from our brokerage division, offset by a reduction in service charges in deposit
accounts of $53 or 15.7%.
The following table sets forth information by category of other income for the
Company for six months ended June 30, 2002 and June 30, 2001, respectively:
June 30, June 30,
Six Months Ended: 2002 2001
- ---------------------------------------------------------------
Trust department income $ 646 $ 682
Service charges on deposit accounts 552 524
Merchant transaction income 2,610 2,782
Other fee income 457 436
Other operating income 397 232
Realized losses on securities, net - (32)
- ---------------------------------------------------------------
Total Other Income $ 4,662 $ 4,624
- ---------------------------------------------------------------
Other income increased $38 or .8% to $4,662 from $4,624 during the first half of
2002. Contributing to the growth in other income were increased service charge
revenue of $28 or 5.3% to $552 from $524 and other operating income increased
$165 or 71.1% to $397 from $232 due mostly to brokerage division income.
Offsetting these increases were decreases in merchant transaction income of $172
or 6.2% (resulting from a major university ceasing to permit tuition payments by
credit card) and a reduction in trust department income due to lower market
valuations.
Other Expenses
The following table sets forth information by category of other expenses for the
Company for the three months ended June 30, 2002 and June 30, 2001,
respectively:
June 30, June 30,
Three Months Ended: 2002 2001
- ---------------------------------------------------------------
Salaries and employee benefits $ 2,217 $ 1,954
Expense of premises and fixed assets 628 679
Merchant transaction expenses 794 798
Other operating expenses 1,173 1,200
- ---------------------------------------------------------------
Total Other Expenses $ 4,812 $ 4,631
- ---------------------------------------------------------------
Other expenses increased $181 or 3.9% to $4,812 from $4,631 for the three months
ended June 30, 2002 mainly due to an increase of $263 or 13.5% to $2,217 from
$1,954 in salaries and employee benefits due to merit increases, staff additions
and replacements, while expense of premises and fixed assets was reduced by $51
or 7.5%. Applicable income tax expense increased $38 or 9.0%, due to higher
operating income.
The following table sets forth information by category of other expenses for the
Company for the six months ended June 30, 2002 and June 30, 2001, respectively:
June 30, June 30,
Six Months Ended: 2002 2001
- ---------------------------------------------------------------
Salaries and employee benefits $ 4,340 $ 3,986
Expense of premises and fixed assets 1,295 1,402
Merchant transaction expenses 2,259 2,465
Other operating expenses 2,331 2,407
- ---------------------------------------------------------------
Total Other Expenses $ 10,225 $ 10,260
- ---------------------------------------------------------------
Other expenses decreased $35 or .3% to $10,225 from $10,260 during the first
half of 2002, largely due to a reduction of $107 or 7.6% in expense of premises
and fixed assets and a reduction in merchant transaction expenses of $206 or
8.4%, offset by an increase in salaries and employee benefits of $354 or 8.9% to
$4,340 from $3,986 due to merit increases, staff additions and replacements.
Applicable income tax expense increased $340 or 48.9% to $1,035 from $695 due to
a higher taxable operating income.
Loan Portfolio
Details regarding the Company's loan portfolio:
June 30, December 31,
As Of: 2002 2001
- --------------------------------------------------------------------------------
Real estate - construction
and land development $ 5,873 $ 9,124
Real estate mortgages 243,272 246,486
Commercial 33,247 30,001
Credit card and related plans 2,180 2,377
Installment 28,727 30,142
Obligations of states & political subdivisions 9,207 5,678
- --------------------------------------------------------------------------------
Loans, net of unearned income 322,506 323,808
Less: Allowance for loan losses 3,950 3,600
- --------------------------------------------------------------------------------
Loans, net $ 318,556 $ 320,208
- --------------------------------------------------------------------------------
Loan Quality
The comprehensive lending policy established by the Board of Directors guides
the lending activities of the Company. Loans must meet criteria, which include
consideration of the character, capacity and capital of the borrower, collateral
provided for the loan, and prevailing economic conditions.
Regardless of credit standards, there is risk of loss inherent in every loan
portfolio. The allowance for loan losses is an amount that management believes
will be adequate to absorb possible losses on existing loans that may become
uncollectible, based on evaluations of the collectibility of the loans. The
evaluations take into consideration such factors as change in the nature and
volume of the loan portfolio, overall portfolio quality, review of specific
problem loans, industry experience, collateral value and current economic
conditions that may affect the borrower's ability to pay. Management believes
that the allowance for loan losses is adequate. While management uses available
information to recognize losses on loans, future additions to the allowance 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 Company's allowance for loan losses. Such agencies may
require the Company to recognize additions to the allowance based on their
judgment of information available to them at the time of their examination.
The allowance for loan losses is increased by periodic charges against earnings
as a provision for loan losses, and decreased periodically by charge-offs of
loans (or parts of loans) management has determined to be uncollectible, net of
actual recoveries on loans previously charged-off.
Non-Performing Assets
Non-performing assets consist of non-accrual loans, loans past due 90 days or
more and still accruing interest and other real estate owned. The following
table sets forth information regarding non-performing assets as of the dates
indicated:
June 30, December 31, June 30,
As Of: 2002 2001 2001
- --------------------------------------------------------------------------------
Non-accrual loans $ 2,104 $ 1,917 $ 1,436
Loans past due 90 days or more and accruing:
Guaranteed student loans 301 304 314
Credit card and home equity loans 3 22 7
- --------------------------------------------------------------------------------
Total non-performing loans 2,408 2,243 1,757
Other real estate owned - 143 199
- --------------------------------------------------------------------------------
Total non-performing assets $ 2,408 $ 2,386 $ 1,956
- --------------------------------------------------------------------------------
Loans are generally placed on a non-accrual status when principal or interest is
past due 90 days or when payment in full is not anticipated. When a loan is
placed on non-accrual status, all interest previously accrued but not collected
is charged against current income. Loans are returned to accrual status when
past due interest is collected and the collection of principal is probable.
Loans on which the accrual of interest has been discontinued or reduced amounted
to $2,104 and $1,436 at June 30, 2002 and June 30, 2001, respectively. If
interest on those loans had been accrued, such income would have been $195 and
$142 for the six months ended June 30, 2002 and June 30, 2001, respectively.
Interest income on those loans, which is recorded only when received, amounted
to $17 and $8 for June 30, 2002 and June 30, 2001, respectively. There are no
commitments to lend additional funds to borrowers whose loans are in non-accrual
status.
The management process for evaluating the adequacy of the allowance for loan
losses includes reviewing each month's loan committee reports, which list all
loans that do not meet certain internally developed criteria as to collateral
adequacy, payment performance, economic conditions and overall credit risk.
These reports also address the current status and actions in process on each
listed loan. From this information, adjustments are made to the allowance for
loan losses. Such adjustments include both specific loss allocation amounts and
general provisions by loan category based on present and past collection
experience, nature and volume of the loan portfolio, overall quality, and
current economic conditions that may affect the borrower's ability to pay. As of
June 30, 2002 there are no significant loans as to which management has serious
doubt about their collectibility.
At June 30, 2002 and December 31, 2001, the Company did not have any loans
specifically classified as impaired.
Most of the Company's lending activity is with customers located in the
Company's geographic market area and repayment thereof is affected by economic
conditions in this market area.
Loan Loss Experience
The following tables present the Company's loan loss experience during the
periods indicated:
June 30, June 30,
Three Months Ended: 2002 2001
- ----------------------------------------------------------------------
Balance at beginning of year $ 3,600 $ 3,100
Charge-offs:
Real estate mortgages 54 -
Commercial and all others 23 388
Credit card and related plans 11 12
Installment loans 1 14
- ----------------------------------------------------------------------
Total charge-offs 89 414
- ----------------------------------------------------------------------
Recoveries:
Real estate mortgages 19 15
Commercial and all others - -
Credit card and related plans - -
Installment loans 1 8
- ----------------------------------------------------------------------
Total recoveries 20 23
- ----------------------------------------------------------------------
Net charge-offs (recoveries) 69 391
- ----------------------------------------------------------------------
Provision charged to operations 419 441
- ----------------------------------------------------------------------
Balance at End of Period $ 3,950 $ 3,150
- ----------------------------------------------------------------------
Ratio of net charge-offs (recoveries)
to average loans outstanding 0.021% 0.120%
- ----------------------------------------------------------------------
Due to the continuing economic uncertainties, and as an act of prudence by
management, action was taken to increase the allowance for loan losses to 1.22%
of loans as of June 30, 2002. This compares with .96% of loans one year earlier.
The allowance for loan losses is allocated as follows:
As Of: June 30, 2002 December 31, 2001 June 30, 2001
- --------------------------------------------------------------------------------------------
Amount % * Amount % * Amount % *
- --------------------------------------------------------------------------------------------
Real estate mortgages $ 1,800 77% $ 1,700 79% $ 1,500 76%
Commercial and all others 1,625 13% 1,375 11% 1,150 14%
Credit card and related plans 175 1% 175 1% 150 1%
Personal installment loans 350 9% 350 9% 350 9%
- --------------------------------------------------------------------------------------------
Total $ 3,950 100% $ 3,600 100% $ 3,150 100%
- --------------------------------------------------------------------------------------------
* Percent of loans in each category to total loans
Liquidity
The objective of liquidity management is to maintain a balance between sources
and uses of funds in such a way that the cash requirements of customers for
loans and deposit withdrawals are met in the most economical manner. Management
monitors its liquidity position continuously in relation to trends of loans and
deposits for short-term as well as long-term requirements. Liquid assets are
monitored on a daily basis to assure maximum utilization. Management also
manages its liquidity requirements by maintaining an adequate level of readily
marketable assets and access to short-term funding sources.
The Company remains in a highly liquid condition both in the short and long
term. Sources of liquidity include the Company's substantial U.S. Treasury and
U.S. Agency bond portfolio, additional deposits, earnings, overnight loans to
and from other companies (Federal funds), lines of credit at the Federal Reserve
Bank and lines of credit at the Federal Home Loan Bank. The designation of
securities as "Held-To-Maturity" lessens the ability of banks to sell securities
so classified, except in regard to certain changes in circumstances or other
events that are isolated, nonrecurring and unusual.
Related Parties
The Company does not have any material transactions involving related persons or
entities, other than traditional banking transactions, which are made on the
same terms and conditions as those prevailing at the time for comparable
transactions with unrelated parties.
Capital Resources
A strong capital position is important to the continued profitability of the
Company and promotes depositor and investor confidence. The Company's capital
provides a basis for future growth and expansion and also provides additional
protection against unexpected losses.
Additional sources of capital would come from retained earnings from the
operations of the Company and from the sale of additional common stock.
Management has no plans to offer additional common stock at this time.
The Company's total risk-based capital ratio was 17.68% at June 30, 2002. The
Company's risk-based capital ratio is more than the 10.00% ratio that Federal
regulators use as the "well capitalized" threshold. This is the current
criterion, which the FDIC uses in determining the lowest insurance rate for
deposit insurance. The Company's risk-based capital ratio is more than double
the 8.00% limit, which determines whether a company is "adequately capitalized".
Under these rules, the Company could significantly increase its assets and still
comply with these capital requirements without the necessity of increasing its
equity capital.
PART II. OTHER INFORMATION
Item 1 -- Legal Proceedings
None.
Item 2 -- Changes in Securities
None.
Item 3 -- Defaults Upon Senior Securities
None.
Item 4 -- Submission of Matters to a Vote of Security Holders
The Annual Meeting of Shareholders of Penseco Financial Services Corporation
was held on May 7, 2002.
The results of the items submitted for a vote are as follows:
The following three Directors, whose term will expire in 2006, were elected:
number of votes number of votes number of
cast for director cast against director votes not cast
----------------- --------------------- --------------
D. William Hume 2,009,091 19,517 119,392
James G. Keisling 1,999,060 29,548 119,392
Otto P. Robinson, Jr. 2,003,767 24,841 119,392
Item 5 -- Other Information
None.
Item 6 -- Exhibits and Reports on Form 8-K
a. Exhibits
No exhibits are filed with this form 10-Q in the quarter ended June
30, 2002.
b. Reports on Form 8-K
No reports on Form 8-K were filed in the quarter ended June 30, 2002.
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.
PENSECO FINANCIAL SERVICES CORPORATION
By /s/ RICHARD E. GRIMM
------------------------------
Richard E. Grimm
Executive Vice-President
Dated: July 26, 2002
By /s/ PATRICK SCANLON
------------------------------
Patrick Scanlon
Controller
Dated: July 26, 2002