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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2005
--------------
OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
----------- -----------
Commission File Number: 0-19065
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Sandy Spring Bancorp, Inc.
(Exact name of registrant as specified in its charter)
Maryland 52-1532952
- ------------------------ ---------------------------------------
(State of incorporation) (I.R.S. Employer Identification Number)
17801 Georgia Avenue, Olney, Maryland 20832 301-774-6400
- ------------------------------------- ----- ------------------
(Address of principal office) (Zip Code) (Telephone Number)
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
filing requirements for the past 90 days.
YES X NO
------- -------
Indicate by check mark whether the registrant is an accelerated filer
(as defined in Rule 12b-2 of the Exchange Act).
YES X NO
------- -------
The number of shares of common stock outstanding as of April 20, 2005
is 14,649,595 shares.
SANDY SPRING BANCORP, INC.
INDEX
PAGE
- ----------------------------------------------------------------------------------------------------
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
Consolidated Balance Sheets at
March 31, 2005 and December 31, 2004.................................................. 1
Consolidated Statements of Income for the Three
Month Periods Ended March 31, 2005 and 2004........................................... 2
Consolidated Statements of Cash Flows for the Three
Month Periods Ended March 31, 2005 and 2004 .......................................... 3
Consolidated Statements of Changes in Stockholders' Equity for the
Three Month Periods Ended March 31, 2005 and 2004..................................... 4
Notes to Consolidated Financial Statements............................................ 5
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS..................................... 10
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES
ABOUT MARKET RISK ................................................................ 20
ITEM 4. CONTROLS AND PROCEDURES............................................................... 20
PART II - OTHER INFORMATION
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS........................... 21
ITEM 6. EXHIBITS.............................................................................. 21
SIGNATURES.................................................................................... 22
PART I - FINANCIAL INFORMATION
Item 1. FINANCIAL STATEMENTS
Sandy Spring Bancorp, Inc. and Subsidiaries
CONSOLIDATED BALANCE SHEETS
March 31, December 31,
(Dollars in thousands, except per share data) 2005 2004
- --------------------------------------------------------------------------------------------------------------
ASSETS
Cash and due from banks $ 43,905 $ 43,728
Federal funds sold 6,240 5,467
Interest-bearing deposits with banks 838 610
Residential mortgage loans held for sale (at fair value) 14,329 16,211
Investments available-for-sale (at fair value) 300,446 346,903
Investments held-to-maturity -- fair value of $310,340 (2005) and
$312,661 (2004) 304,909 305,293
Other equity securities 12,734 13,912
Total loans and leases 1,468,814 1,445,525
Less: allowance for loan and lease losses (14,738) (14,654)
----------- -----------
Net loans and leases 1,454,076 1,430,871
Premises and equipment, net 44,292 42,054
Accrued interest receivable 11,776 11,674
Goodwill 8,554 7,335
Other intangible assets 9,370 9,866
Other assets 72,729 75,419
----------- -----------
Total assets $ 2,284,198 $ 2,309,343
=========== ===========
LIABILITIES
Noninterest-bearing deposits $ 428,906 $ 423,868
Interest-bearing deposits 1,316,769 1,308,633
----------- -----------
Total deposits 1,745,675 1,732,501
Short-term borrowings 259,341 231,927
Subordinated debentures 35,000 35,000
Other long-term borrowings 29,421 94,608
Accrued interest payable and other liabilities 16,052 20,224
----------- -----------
Total liabilities 2,085,489 2,114,260
STOCKHOLDERS' EQUITY
Common stock -- par value $1.00; shares authorized 50,000,000; shares issued
and outstanding 14,642,686 (2005) and 14,628,511 (2004) 14,643 14,629
Additional paid in capital 21,839 21,522
Retained earnings 161,242 156,315
Accumulated other comprehensive income 985 2,617
----------- -----------
Total stockholders' equity 198,709 195,083
----------- -----------
Total liabilities and stockholders' equity $ 2,284,198 $ 2,309,343
=========== ===========
See Notes to Consolidated Financial Statements.
1
Sandy Spring Bancorp, Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF INCOME
Three Months Ended
March 31,
--------------------
(In thousands, except per share data) 2005 2004
- --------------------------------------------------------------------------------
Interest Income:
Interest and fees on loans and leases $21,041 $16,369
Interest on loans held for sale 167 138
Interest on deposits with banks 4 3
Interest and dividends on securities:
Taxable 3,328 6,556
Exempt from federal income taxes 3,594 3,587
Interest on federal funds sold 53 59
------- -------
TOTAL INTEREST INCOME 28,187 26,712
Interest Expense:
Interest on deposits 4,188 2,730
Interest on short-term borrowings 2,018 3,751
Interest on long-term borrowings 781 1,692
------- -------
TOTAL INTEREST EXPENSE 6,987 8,173
------- -------
NET INTEREST INCOME 21,200 18,539
Provision for loan and lease losses 100 0
------- -------
NET INTEREST INCOME AFTER PROVISION
FOR LOAN AND LEASE LOSSES 21,100 18,539
Noninterest Income:
Securities gains 15 228
Service charges on deposit accounts 1,671 1,868
Gains on sales of mortgage loans 731 769
Fees on sales of investment products 445 629
Trust department income 872 754
Insurance agency commissions 1,811 1,121
Income from bank owned life insurance 555 574
Visa check fees 491 424
Other income 1,249 1,223
------- -------
TOTAL NONINTEREST INCOME 7,840 7,590
Noninterest Expenses:
Salaries and employee benefits 11,289 9,877
Occupancy expense of premises 1,924 1,628
Equipment expenses 1,322 1,190
Marketing expenses 288 513
Outside data services 740 721
Amortization of intangible assets 496 486
Other expenses 2,378 2,299
------- -------
TOTAL NONINTEREST EXPENSES 18,437 16,714
------- -------
Income Before Income Taxes 10,503 9,415
Income Tax Expense 2,647 2,114
------- -------
NET INCOME $ 7,856 $ 7,301
======= =======
Basic Net Income Per Share $ 0.54 $ 0.51
Diluted Net Income Per Share 0.53 0.50
Dividends Declared Per Share 0.20 0.19
See Notes to Consolidated Financial Statements.
2
Sandy Spring Bancorp, Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in thousands)
Three Months Ended
March 31,
-----------------------
2005 2004
- -------------------------------------------------------------------------------------------------------------
Cash flows from operating activities:
Net income $ 7,856 $ 7,301
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization 1,653 1,549
Provision for loan and lease losses 100 0
Origination of loans held for sale (55,254) (68,718)
Proceeds from sales of loans held for sale 57,867 61,800
Gains on sales of loans held for sale (731) (769)
Securities gains (15) (228)
Net (increase) decrease in accrued interest receivable (102) 1,124
Net decrease in other assets 2,541 2,708
Net increase (decrease) in accrued expenses and other liabilities (4,170) 3,480
Other - net 417 361
--------- ---------
Net cash provided by operating activities 10,162 8,608
Cash flows from investing activities:
Net decrease (increase) in interest-bearing deposits with banks (228) 16
Purchases of investments held-to-maturity 0 (2,828)
Purchases of other equity securities 0 0
Purchases of investments available-for-sale 0 (266,387)
Proceeds from sales of investments available-for-sale 34,334 97,974
Proceeds from the sales of other equity securities 1,178 1,259
Proceeds from maturities, calls and principal payments of investments
held-to-maturity 230 31,602
Proceeds from maturities, calls and principal payments of investments
available-for-sale 9,397 173,051
Net decrease (increase) in loans and leases (23,362) (48,801)
Expenditures for premises and equipment (3,564) (2,579)
--------- ---------
Net cash used by investing activities 17,985 (16,693)
Cash flows from financing activities:
Net increase in deposits 13,174 56,760
Net (decrease) in short-term borrowings (12,773) (31,043)
Retirement of long-term borrowings (25,000) 0
Common stock purchased and retired 0 (20)
Proceeds from issuance of common stock 331 357
Dividends paid (2,929) (2,756)
--------- ---------
Net cash provided by financing activities (27,197) 23,298
--------- ---------
Net increase in cash and cash equivalents 950 15,213
Cash and cash equivalents at beginning of period 49,195 49,067
--------- ---------
Cash and cash equivalents at end of period $ 50,145 $ 64,280
========= =========
Supplemental Disclosures:
Interest payments $ 7,052 $ 8,285
Income tax payments 0 128
Noncash Financing Activities:
Reclassification of borrowings from long-term to short-term 40,187 187
See Notes to Consolidated Financial Statements.
3
Sandy Spring Bancorp, Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
Accum-
ulated
Other
Compre- Total
Additional hensive Stock-
Common Paid-in Retained Income holders'
(Dollars in thousands, except per share data) Stock Capital Earnings (loss) Equity
- ------------------------------------------------------------------------------------------------------------------------------------
Balances at January 1, 2005 $ 14,629 $ 21,522 $ 156,315 $ 2,617 $ 195,083
Comprehensive income:
Net income 7,856 7,856
Other comprehensive loss, net of tax
effects and reclassification adjustment (1,632) (1,632)
---------
Total comprehensive income 6,224
Cash dividends - $0.20 per share (2,929) (2,929)
Common stock issued pursuant to:
Stock option plan - 9,436 shares 9 176 185
Employee stock purchase plan - 4,739 shares 5 141 146
--------- --------- --------- --------- ---------
Balances at March 31, 2005 $ 14,643 $ 21,839 $ 161,242 $ 985 $ 198,709
========= ========= ========= ========= =========
Balances at January 1, 2004 $ 14,496 $ 18,970 $ 153,280 $ 6,703 $ 193,449
Comprehensive income:
Net income 7,301 7,301
Other comprehensive income, net of tax
effects and reclassification
adjustment 1,284 1,284
---------
Total comprehensive income 8,585
Cash dividends - $0.19 per share (2,756) (2,756)
Common stock issued pursuant to:
Stock option plan - 10,029 shares 10 205 215
Employee stock purchase plan - 4,614
shares 5 137 142
Stock repurchases - 550 shares (1) (19) (20)
--------- --------- --------- --------- ---------
Balances at March 31, 2004 $ 14,510 $ 19,293 $ 157,825 $ 7,987 $ 199,615
========= ========= ========= ========= =========
See Notes to Consolidated Financial Statements.
4
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1 - General
The foregoing financial statements are unaudited. In the opinion of
Management, all adjustments (comprising only normal recurring accruals)
necessary for a fair presentation of the results of the interim periods have
been included. These statements should be read in conjunction with the financial
statements and accompanying notes included in Sandy Spring Bancorp's 2004 Annual
Report to Shareholders. There have been no significant changes to the Company's
Accounting Policies as disclosed in the 2004 Annual Report. The results shown in
this interim report are not necessarily indicative of results to be expected for
the full year 2005.
The accounting and reporting policies of Sandy Spring Bancorp, Inc.
(the "Company") and its wholly-owned subsidiary, Sandy Spring Bank (the "Bank"),
together with its subsidiaries, Sandy Spring Insurance Corporation and The
Equipment Leasing Company, conform to accounting principles generally accepted
in the United States of America and to general practices within the financial
services industry. Certain reclassifications have been made to amounts
previously reported to conform to current classifications.
Consolidation has resulted in the elimination of all significant
intercompany accounts and transactions.
Cash Flows
For purposes of reporting cash flows, cash and cash equivalents include
cash and due from banks and federal funds sold (which have original maturities
of three months or less).
New Accounting Pronouncements
On September 30, 2004, the FASB issued FASB Staff Position ("FSP")
Emerging Issues Task Force ("EITF") Issue No. 03-1-1 delaying the effective date
of paragraphs 10-20 of EITF 03-1, "The Meaning of Other-Than-Temporary
Impairment and Its Application to Certain Investments," which provides guidance
for determining the meaning of "other-than-temporarily impaired" and its
application to certain debt and equity securities within the scope of SFAS No.
115, "Accounting for Certain Investments in Debt and Equity Securities," and
investments accounted for under the cost method. The guidance requires that
investments which have declined in value due to credit concerns or solely due to
changes in interest rates must be recorded as other-than-temporarily impaired
unless the Company can assert and demonstrate its intention to hold the security
for a period of time sufficient to allow for a recovery of fair value up to or
beyond the cost of the investment which might mean maturity. The delay of the
effective date of EITF 03-1 will be superceded concurrent with the final
issuance of proposed FSP Issue 03-1-a. Proposed FSP Issue 03-1-a is intended to
provide implementation guidance with respect to all securities analyzed for
impairment under paragraphs 10-20 of EITF 03-1. Management continues to closely
monitor and evaluate how the provisions of EITF 03-1 and proposed FSP Issue
03-1-a will affect the Company.
In December 2004, the FASB published FASB Statement No. 123 (revised 2004),
"Share-Based Payment" ("FAS 123 (R)" or the "Statement"). FAS 123 (R) requires
that compensation cost relating to share-based payment transactions, including
grants of employee stock options, be recognized in financial statements. That
cost will be measured based on the fair value of the equity or liability
instruments issued. FAS 123 (R) permits entities to use any option-pricing model
that meets the fair value objective in the Statement.
In April 2005 the Securities and Exchange Commission adopted a new rule that
delays the effective date of FAS 123 (R) to fiscal years beginning after June
15, 2005. The impact of this Statement on the Company in 2006 and beyond will
depend upon various factors, among them being the Company's future compensation
strategy. The pro forma compensation costs presented (in note 2 below) and in
prior filings for the Company have been calculated using a binomial option
pricing model and may not be indicative of amounts that should be expected in
future periods. No decisions have been made as to whether the Company will apply
the modified prospective or retrospective method of application.
Note 2 - Stock Option Plan
At March 31, 2005, the Company had options outstanding under two
stock-based employee compensation plans, the 1992 stock option plan (expired but
having outstanding options that may still be exercised) and the 1999 stock
option plan. The Company accounts for those plans under the recognition and
measurement principles of APB Opinion No. 25, "Accounting for Stock Issued to
Employees", and related Interpretations. No stock-based employee compensation
cost is reflected in net income, as all options granted under those plans had an
exercise price equal to the market value of the underlying common stock on the
date of grant. The following table illustrates the effects on net income and
earnings per share if the Company had applied the fair value recognition
provisions of SFAS No. 123, "Accounting for Stock-Based Compensation", to
stock-based employee compensation for the periods indicated.
5
Three Months Ended
March 31,
------------------------
(In thousands, except per share data) 2005 2004
- --------------------------------------------------------------------------------------------------------
Net income, as reported $ 7,856 $ 7,301
Less pro forma stock-based employee compensation expense
determined under fair value based method, net of related tax effects (278) (310)
--------- ---------
Pro forma net income $ 7,578 $ 6,991
========= =========
Net income per share:
Basic - as reported $ 0.54 $ 0.51
Basic - pro forma $ 0.52 $ 0.48
Diluted - as reported $ 0.53 $ 0.50
Diluted - pro forma $ 0.51 $ 0.47
Note 3 - Per Share Data
The calculations of net income per common share for the three month
periods ended March 31 are as shown in the following table. Basic net income per
share is computed by dividing net income available to common stockholders by the
weighted average number of common shares outstanding and does not include the
impact of any potentially dilutive common stock equivalents. The diluted
earnings per share calculation method is derived by dividing net income
available to common stockholders by the weighted average number of common shares
outstanding adjusted for the dilutive effect of outstanding stock options.
Three Months Ended
March 31,
(Dollars and amounts in thousands, except ------------------------
Per share data) 2005 2004
- --------------------------------------------------------------------------------------------------------
Basic:
Net income available to common stockholders $ 7,856 $ 7,301
Average common shares outstanding 14,637 14,505
Basic net income per share $ 0.54 $ 0.51
======= =======
Diluted:
Net income available to common stockholders $ 7,856 $ 7,301
Average common shares outstanding 14,637 14,505
Stock option adjustment 124 220
------- -------
Average common shares outstanding-diluted 14,761 14,725
Diluted net income per share $ 0.53 $ 0.50
======= =======
Options for 371,835 shares and 189,489 shares of common stock were not
included in computing diluted net income per share for the three months ended
March 31, 2005 and 2004 respectively, because their effects are antidilutive.
Note 4 -Pension, Profit Sharing, and Other Employee Benefit Plans
Defined Benefit Pension Plan
The Company has a qualified, noncontributory, defined benefit pension
plan covering substantially all employees. Benefits equal the sum of two parts:
(a) the benefit accrued as of December 31, 2000, based on the formula of 1.5% of
the highest five year average salary as of that date times years of service as
of that date, plus (b) 1.75% of each year's earnings after December 31, 2000
(1.75% of career average earnings). In addition, if the participant's age plus
years of service as of January 1, 2001, equal at least 60 and the participant
had at least 15 years of service at that date, he or she will receive an
additional benefit of 1% of year 2000 earnings for each of the first 10 years of
service completed after December 31, 2000. Early retirement is also permitted by
the Plan at age 55 after 10 years of service. The Company's funding policy is to
contribute at least the minimum amount necessary to keep the plan fully funded.
The plan invests primarily in a diversified portfolio of managed fixed income
and equity funds. Contributions provide not only for benefits attributed to
service to date, but also for the benefit expected to be earned in the coming
year. The Company, with input from its actuaries, estimates that the 2005
contribution will be approximately $2.0 million which will maintain the pension
plan's fully funded status.
6
Net periodic benefit cost for the three months ended March 31 for the
previous two years includes the following components:
Three months Ended
March 31,
----------------------
(In thousands) 2005 2004
- ------------------------------------------------------------------------------------------------------
Service cost for benefits earned $ 406 $ 412
Interest cost on projected benefit obligation 273 232
Expected return on plan assets (287) (260)
Amortization of prior service cost (16) (15)
Recognized net actuarial loss 84 82
----- -----
Net periodic benefit cost $ 460 $ 451
===== =====
Cash and Deferred Profit Sharing Plan
The Company has a qualified Cash and Deferred Profit Sharing Plan that
includes a 401 (k) provision with a Company match. The profit sharing component
is non-contributory and covers all employees after ninety days of service. The
401(k) plan provision is voluntary and also covers all employees after ninety
days of service. Employees contributing under the 401 (k) provision receive a
matching contribution up to the first 4% of compensation based on years of
service and subject to employee contribution limitations. The Company match
includes a vesting schedule with employees becoming 100% vested after four years
of service. The Plan permits employees to purchase shares of Sandy Spring
Bancorp common stock with their profit sharing allocations, 401 (k)
contributions, Company match, and other contributions under the Plan. The
Company had expenses related to the qualified Cash and Deferred Profit Sharing
Plan of $620,000 and $241,000 for the three months ended March 31, 2005 and
2004, respectively.
The Company also has a performance based compensation benefit which is
integrated with the Cash and Deferred Profit Sharing Plan and which provides
incentives to employees based on the Company's financial results as measured
against key performance indicator goals set by management. The Company had
expenses related to the performance based compensation benefit of $720,000 and
$75,000 for the three months ended March 31, 2005 and 2004, respectively.
The Company has Supplemental Executive Retirement Agreements (SERAs)
with its executive officers, providing for retirement income benefits as well as
pre-retirement death benefits. Retirement benefits payable under SERAs, if any,
are integrated with other pension plan and Social Security retirement benefits
expected to be received by the executive. The Company is accruing the present
value of these benefits over the remaining years to the executives' retirement
dates. The Company had expenses (benefits) related to the SERAs of $135,000 and
$(4,000) for the three months ended March 31, 2005 and 2004, respectively.
The Company has an Executive Health Insurance Plan that provides for
payment of defined medical and dental expenses not otherwise covered by
insurance for selected executives and their families. Benefits, which are paid
during both employment and retirement, are subject to a $6,500 limitation for
each executive per year. The Company had expenses related to the Executive
Health Insurance Plan of $64,000 for both the three months ended March 31, 2005
and March 31, 2004.
Note 5 - Unrealized Losses on Investments
Shown below is information that summarizes the gross unrealized losses
and fair value for the Company's available-for-sale and held-to-maturity
investment portfolios.
7
Gross unrealized losses and fair value by length of time that the
individual available-for-sale securities have been in a continuous unrealized
loss position at March 31, 2005 and 2004 are as follows:
Continuous unrealized losses
(In thousands) existing for:
------------------------------
Less than 12 More than 12 Total Unrealized
Available for sale as of March 31, 2005 Fair Value months months Losses
---------- ------------ ------------ ----------------
U.S. Agency $157,018 $ 2,063 $ 494 $ 2,557
State and municipal 10,651 66 98 164
Mortgage-backed 7,536 2 176 178
Corporate Bonds 520 5 0 5
-------- -------- -------- --------
$175,725 $ 2,136 $ 768 $ 2,094
======== ======== ======== ========
Continuous unrealized losses
(In thousands) existing for:
------------------------------
Less than 12 More than 12 Total Unrealized
Available for sale as of March 31, 2004 Fair Value months months Losses
---------- ------------ ------------ ----------------
U.S. Agency $151,658 $ 67 $ 0 $ 67
State and municipal 4,161 12 9 21
Mortgage-backed 10,197 10 3 13
-------- -------- -------- --------
$166,016 $ 89 $ 12 $ 101
======== ======== ======== ========
Approximately 99% of the bonds carried in the available-for-sale
investment portfolio experiencing continuous losses as of March 31, 2005 and
2004 are rated AAA. The securities representing the unrealized losses in the
available-for-sale portfolio as of March 31, 2005 and 2004 all have modest
duration risk (3.24 years in 2005 and 3.07 years in 2004), low credit risk, and
minimal loss (approximately 1%) when compared to book value. The unrealized
losses that exist are the result of market changes in interest rates since the
original purchase. These factors coupled with the fact that the Company has both
the intent and ability to hold these investments for a period of time sufficient
to allow for any anticipated recovery in fair value substantiates that the
unrealized losses in the available-for-sale portfolio are temporary.
Gross unrealized losses and fair value by length of time that the
individual held-to-maturity securities have been in a continuous unrealized loss
position a March 31, 2005 and 2004 are as follows:
Continuous unrealized losses
(In thousands) existing for:
------------------------------
Less than 12 More than 12 Total Unrealized
Held to Maturity as of March 31, 2005 Fair Value months months Losses
---------- ------------ ------------ ----------------
U.S. Agency $33,972 $ 414 $ 0 $ 414
State and municipal 59,831 270 435 705
------- ------- ------- -------
$93,803 $ 684 $ 435 $ 1,119
======= ======= ======= =======
8
Continuous unrealized losses
(In thousands) existing for:
------------------------------
Less than 12 More than 12 Total Unrealized
Held to Maturity as of March 31, 2004 Fair Value months months Losses
---------- ------------ ------------ ----------------
State and municipal $40,793 $ 286 $ 329 $ 615
------- ------- ------- -------
$40,793 $ 286 $ 329 $ 615
======= ======= ======= =======
Approximately 90% and 72% of the bonds carried in the held-to-maturity
investment portfolio experiencing continuous unrealized losses as of March 31,
2005 and 2004, respectively, are rated AAA and 10% and 28% as of March 31, 2005
and 2004, respectively, are rated AA1. The securities representing the
unrealized losses in the held-to-maturity portfolio all have modest duration
risk (4.0 years in 2005 and 3.5 years in 2004), low credit risk, and minimal
losses (approximately 1%) when compared to book value. The unrealized losses
that exist are the result of market changes in interest rates since the original
purchase. These factors coupled with the Company's intent and ability to hold
these investments for a period of time sufficient to allow for any anticipated
recovery in fair value substantiates that the unrealized losses in the
held-to-maturity portfolio are temporary.
Note 6 - Segment Reporting
The Company operates in three operating segments--Community Banking,
Insurance, and Leasing. Only Community Banking presently meets the threshold for
reportable segment reporting; however, the Company is disclosing separate
information for all three operating segments. Each of the operating segments is
a strategic business unit that offers different products and services. The
Insurance and Leasing segments were businesses that were acquired in separate
transactions where management at the time of acquisition was retained. The
accounting policies of the segments are the same as those described in Note 1 to
the consolidated financial statements. However, the segment data reflect
intersegment transactions and balances.
The Community Banking segment is conducted through Sandy Spring Bank
and involves delivering a broad range of financial products and services,
including various loan and deposit products to both individuals and businesses.
Parent company income is included in the Community Banking segment, as the
majority of parent company activities are related to this segment. Major revenue
sources include net interest income, gains on sales of mortgage loans, trust
income, fees on sales of investment products and service charges on deposit
accounts. Expenses include personnel, occupancy, marketing, equipment and other
expenses. Included in Community Banking expenses are noncash charges associated
with amortization of intangibles related to acquired entities totaling $446,000
for both 2005 and 2004.
The Insurance segment is conducted through Sandy Spring Insurance
Corporation, a subsidiary of the Bank, and offers annuities as an alternative to
traditional deposit accounts. Sandy Spring Insurance Corporation operates the
Chesapeake Insurance Group, a general insurance agency located in Annapolis,
Maryland, and Wolfe and Reichelt Insurance Agency, located in Burtonsville,
Maryland. Major sources of revenue are insurance commissions from commercial
lines and personal lines. Expenses include personnel and support charges.
The Leasing segment is conducted through The Equipment Leasing Company,
a subsidiary of the Bank, that provides leases for such items as computers,
telecommunications systems and equipment, medical equipment and point-of-sale
systems for retail businesses. Equipment leasing is conducted through vendors
located primarily in states along the east coast from New Jersey to Florida and
in Illinois. The typical lease is a "small ticket" by industry standards,
averaging less than $30,000, with individual leases generally not exceeding
$250,000. Major revenue sources include interest income. Expenses include
personnel and support charges.
9
Information about operating segments and reconciliation of such information to
the consolidated financial statements follows:
Community Inter-Segment
(In thousands) Banking Insurance Leasing Elimination Total
- -------------------------------------------------------------------------------------------------------------------
Quarter ended
March 31, 2005
Interest income $ 27,913 $ 6 $ 408 $ (140) $ 28,187
Interest expense 6,994 0 133 (140) 6,987
Provision for loan
and lease losses 100 0 0 0 100
Noninterest income 5,853 1,944 224 (181) 7,840
Noninterest expenses 17,289 1,116 213 (181) 18,437
---------- ---------- ---------- ---------- ----------
Income (loss) before
income taxes 9,383 834 286 0 10,503
Income tax expense 2,204 330 113 0 2,647
---------- ---------- ---------- ---------- ----------
Net income (loss) $ 7,179 $ 504 $ 173 $ 0 $ 7,856
========== ========== ========== ========== ==========
Assets $2,283,362 $ 8,546 $ 20,737 $ (28,447) $2,284,198
Quarter ended
March 31, 2004
Interest income $ 26,385 $ 2 $ 462 (137) $ 26,712
Interest expense 8,175 0 135 (137) 8,173
Provision for loan
and lease losses 0 0 0 0 0
Noninterest income 6,156 1,350 202 (118) 7,590
Noninterest expense 15,771 849 212 (118) 16,714
---------- ---------- ---------- ---------- ----------
Income before income
taxes 8,595 503 317 0 9,415
Income tax expense 1,789 200 125 0 $ 2,114
---------- ---------- ---------- ---------- ----------
Net income $ 6,806 $ 303 $ 192 $ 0 7,301
========== ========== ========== ========== ==========
Assets $2,369,289 $ 7,863 $ 20,502 $ (26,082) $2,371,572
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
FORWARD-LOOKING STATEMENTS
Sandy Spring Bancorp makes forward-looking statements in the
Management's Discussion and Analysis of Financial Condition and Results of
Operations and other portions of this Form 10-Q that are subject to risks and
uncertainties. These forward-looking statements include: statements of goals,
intentions, earnings expectations, and other expectations; estimates of risks
and of future costs and benefits; assessments of probable loan and lease losses;
assessments of market risk; and statements of the ability to achieve financial
and other goals. These forward-looking statements are subject to significant
uncertainties because they are based upon or are affected by: management's
estimates and projections of future interest rates, market behavior, and other
economic conditions; future laws and regulations; and a variety of other matters
which, by their nature, are subject to significant uncertainties. Because of
these uncertainties, Sandy Spring Bancorp's actual future results may differ
materially from those indicated. In addition, the Company's past results of
operations do not necessarily indicate its future results.
THE COMPANY
The Company is the registered bank holding company for Sandy Spring
Bank (the "Bank"), headquartered in Olney, Maryland. The Bank operates thirty
community offices in Anne Arundel, Carroll, Frederick, Howard, Montgomery, and
Prince George's Counties in Maryland, together with an insurance subsidiary and
an equipment leasing company.
The Company offers a broad range of financial services to consumers and
businesses in this market area. Through March 31, 2005, year-to-date average
commercial loans and leases and commercial real estate loans accounted for
approximately 43% of the Company's loan and lease portfolio, and year-to-date
average consumer and residential real estate loans accounted for approximately
57%. The Company has established a strategy of independence, and intends to
establish or acquire additional offices, banking organizations, and nonbanking
organizations as appropriate opportunities may arise.
10
CRITICAL ACCOUNTING POLICIES
The Company's financial statements are prepared in accordance with
generally accepted accounting principles ("GAAP") in the United States of
America and follow general practices within the industry in which it operates.
Application of these principles requires management to make estimates,
assumptions, and judgments that affect the amounts reported in the financial
statements and accompanying notes. These estimates, assumptions, and judgments
are based on information available as of the date of the financial statements;
accordingly, as this information changes, the financial statements could reflect
different estimates, assumptions, and judgments. Certain policies inherently
have a greater reliance on the use of estimates, assumptions, and judgments and
as such have a greater possibility of producing results that could be materially
different than originally reported. Estimates, assumptions, and judgments are
necessary when assets and liabilities are required to be recorded at fair value,
when a decline in the value of an asset not carried on the financial statements
at fair value warrants an impairment write-down or valuation reserve to be
established, or when an asset or liability needs to be recorded contingent upon
a future event. Carrying assets and liabilities at fair value inherently results
in more financial statement volatility. The fair values and the information used
to record valuation adjustments for certain assets and liabilities are based
either on quoted market prices or are provided by other third-party sources,
when available. The estimates used in management's assessment of the adequacy of
the allowance for loan and lease losses require that management make assumptions
about matters that are uncertain at the time of estimation. Differences in these
assumptions and differences between the estimated and actual losses could have a
material effect.
NON-GAAP FINANCIAL MEASURE
The Company has for many years used a traditional efficiency ratio that
is a non-GAAP financial measure as defined in Commission Regulation G and Item
10 of U.S. Securities and Exchange Commission Regulation S-K. This traditional
efficiency ratio is used as a measure of operating expense control and
efficiency of operations. Management believes that its traditional ratio better
focuses attention on the operating performance of the Company over time than
does a GAAP-based ratio, and that it is highly useful in comparing
period-to-period operating performance of the Company's core business
operations. It is used by management as part of its assessment of its
performance in managing noninterest expenses. However, this measure is
supplemental, and is not a substitute for an analysis of performance based on
GAAP measures. The reader is cautioned that the traditional efficiency ratio
used by the Company may not be comparable to GAAP or non-GAAP efficiency ratios
reported by other financial institutions.
In general, the efficiency ratio is noninterest expenses as a
percentage of net interest income plus total noninterest income. This is a GAAP
financial measure. Noninterest expenses used in the calculation of the
traditional, non-GAAP efficiency ratio exclude intangible asset amortization.
Income for the traditional ratio is increased for the favorable effect of
tax-exempt income, and excludes securities gains and losses, which can vary
widely from period to period without appreciably affecting operating expenses.
The traditional measure is different from the GAAP-based efficiency ratio. The
GAAP-based measure is calculated using noninterest expense and income amounts as
shown on the face of the Consolidated Statements of Income. The traditional and
GAAP-based efficiency ratios are presented and reconciled in Table 1.
11
Table 1 - GAAP based and traditional efficiency ratios
Three Months Ended
March 31,
-----------------------
(Dollars in thousands) 2005 2004
- --------------------------------------------------------------------------------
Noninterest expenses-GAAP based $18,437 $16,714
Net interest income plus noninterest income-
GAAP based 29,040 26,129
Efficiency ratio-GAAP based 63.49% 63.97%
======= =======
Noninterest expenses-GAAP based $18,437 $16,714
Less non-GAAP adjustments:
Amortization of intangible assets 496 486
------- -------
Noninterest expenses-traditional ratio 17,941 16,228
Net interest income plus noninterest income-
GAAP based 29,040 26,129
Plus non-GAAP adjustment:
Tax-equivalency 1,709 1,965
Less non-GAAP adjustments:
Securities gains 15 228
------- -------
Net interest income plus noninterest
Income - traditional ratio 30,734 27,866
Efficiency ratio - traditional 58.38% 58.24%
======= =======
A. FINANCIAL CONDITION
The Company's total assets were $2,284,198,000 at March 31, 2005,
compared to $2,309,343,000 at December 31, 2004, decreasing $25,145,000 or 1%
during the first three months of 2005. Earning assets also decreased by 1%, to
$2,108,310,000 at March 31, 2005, from $2,133,921,000 at December 31, 2004.
Total loans and leases, excluding loans held for sale, increased 2% or
$23,289,000 during the first three months of 2005, to $1,468,814,000. During
this period, all three major loan categories showed increases. The most
significant of these increases occurred in commercial loans and leases, which
increased $13,761,000 or 2%, primarily due to growth in commercial real estate
loans. Residential real estate loans showed growth of 1% or $5,906,000 due
mainly to growth in residential mortgage loans. Growth in consumer loans totaled
1% or $3,623,000 driven largely by growth in home equity lines. Finally,
residential mortgage loans held for sale decreased by $1,882,000 from December
31, 2004, to $14,329,000 at March 31, 2005.
Table 2 - Analysis of Loans and Leases
The following table presents the trends in the composition of the loan and lease
portfolio at the dates indicated:
(In thousands) March 31, 2005 % December 31, 2004 %
- ----------------------------------------------------------------------------------------------------------
Residential real estate $ 515,710 35% $ 509,804 35%
Commercial loans and leases 640,379 44 626,619 43
Consumer 312,725 21 309,102 22
----------- --- ----------- ---
Total Loans and Leases 1,468,814 100% 1,445,525 100%
=== ===
Less: Allowance for loan and lease losses (14,738) (14,654)
----------- -----------
Net loans and leases $ 1,454,076 $ 1,430,871
=========== ===========
The total investment portfolio decreased by 7% or $48,019,000 from
December 31, 2004, to $618,089,000 at March 31, 2005, primarily to support loan
growth and to reduce total borrowings. The decrease was driven primarily by a
decline of $46,457,000 or 13% of available-for-sale securities. The aggregate of
federal funds sold and interest-bearing deposits with banks increased by
$1,001,000 during the first three months of 2005, reaching $7,078,000 at March
31, 2005.
12
Total deposits were $1,745,675,000 at March 31, 2005, increasing
$13,174,000 or 1% from $1,732,501,000 at December 31, 2004. First quarter growth
rates of slightly over 1% were achieved in 2005 for noninterest-bearing demand
deposits (up $5,038,000). Money market savings increased $11,148,000 or 3% in
the first quarter. This increase was partially offset by a decline of $7,169,000
or 3% in interest bearing demand deposits.
Total borrowings were $323,762,000 at March 31, 2005, which represented
a decrease of $37,773,000 or 10% from December 31, 2004, primarily reflecting
management's efforts to reduce the overall cost of funds.
Table 3 - Analysis of Deposits
The following table presents the trends in the composition of deposits at the
dates indicated:
(In thousands) March 31, 2005 % December 31, 2004 %
- ------------------------------------------------------------------------------------------------------
Noninterest-bearing deposits $ 428,906 25% $ 423,868 25%
Interest-bearing deposits:
Demand 234,209 13 241,378 14
Money market savings 382,665 22 371,517 21
Regular savings 228,468 13 228,301 13
Time deposits less than $100,000 276,910 16 275,671 16
Time deposits $100,000 or more 194,517 11 191,766 11
---------- --- ---------- ---
Total interest-bearing 1,316,769 75 1,308,633 75
---------- --- ---------- ---
Total deposits $1,745,675 100% $1,732,501 100%
========== === ========== ===
MARKET RISK AND INTEREST RATE SENSITIVITY
OVERVIEW
The Company's net income is largely dependent on its net interest
income. Net interest income is susceptible to interest rate risk to the degree
that interest-bearing liabilities mature or reprice on a different basis than
interest-earning assets. When interest-bearing liabilities mature or reprice
more quickly than interest-earning assets in a given period, a significant
increase in market rates of interest could adversely affect net interest income.
Similarly, when interest-earning assets mature or reprice more quickly than
interest-bearing liabilities, falling interest rates could result in a decrease
in net interest income. Net interest income is also affected by changes in the
portion of interest-earning assets that are funded by interest-bearing
liabilities rather than by other sources of funds, such as noninterest-bearing
deposits and stockholders' equity.
The Company's Board of Directors has established a comprehensive
interest rate risk management policy, which is administered by Management's
Asset Liability Management Committee ("ALCO"). The policy establishes limits of
risk, which are quantitative measures of the percentage change in net interest
income (a measure of net interest income at risk) and the fair value of equity
capital (a measure of economic value of equity ("EVE") at risk) resulting from a
hypothetical change in U.S. Treasury interest rates for maturities from one day
to thirty years. The Company measures the potential adverse impacts that
changing interest rates may have on its short-term earnings, long-term value,
and liquidity by employing simulation analysis through the use of computer
modeling. The simulation model captures optionality factors such as call
features and interest rate caps and floors imbedded in investment and loan
portfolio contracts. As with any method of gauging interest rate risk, there are
certain shortcomings inherent in the interest rate modeling methodology used by
the Company. When interest rates change, actual movements in different
categories of interest-earning assets and interest-bearing liabilities, loan
prepayments, and withdrawals of time and other deposits, may deviate
significantly from assumptions used in the model. Finally, the methodology does
not measure or reflect the impact that higher rates may have on adjustable-rate
loan customers' ability to service their debts, or the impact of rate changes on
demand for loan, lease, and deposit products.
The Company prepares a current base case and eight alternative
simulations, at least once a quarter, and reports the analysis to the Board of
Directors. In addition, more frequent forecasts are produced when interest rates
are particularly uncertain or when other business conditions so dictate.
If a measure of risk produced by the alternative simulations of the
entire balance sheet violates policy guidelines, ALCO is required to develop a
plan to restore the measure of risk to a level that complies with policy limits
within two quarters.
The Company's interest rate risk management goals are (1) to increase
net interest income at a growth rate consistent with the growth rate of total
assets and, (2) to minimize fluctuations in net interest margin as a percentage
of earning assets. Management attempts to achieve these goals by balancing,
within policy limits, the volume of floating-rate liabilities with a similar
volume of floating-rate assets; by keeping the average maturity of fixed-rate
asset and liability contracts reasonably matched; by maintaining a pool of
administered core deposits; and by adjusting pricing rates to market conditions
on a continuing basis.
13
The balance sheet is subject to quarterly testing for eight alternative
interest rate shock possibilities to indicate the inherent interest rate risk.
Average interest rates are shocked by +/- 100, 200, 300, and 400 basis points
("bp"), although the Company may elect not to use particular scenarios that it
determines are impractical in a current rate environment. It is management's
goal to structure the balance sheet so that net interest earnings at risk over a
twelve-month period and the economic value of equity at risk do not exceed
policy guidelines at the various interest rate shock levels.
From time to time the Company augments its quarterly interest rate
shock analysis with alternative external interest rate scenarios on a monthly
basis. These alternative interest rate scenarios may include non-parallel rate
ramps and non-parallel yield curve twists.
ANALYSIS OF POSSIBLE OUTCOMES
Measures of net interest income at risk produced by simulation analysis
are indicators of an institution's short-term performance in alternative rate
environments. These measures are typically based upon a relatively brief period,
usually one year. They do not necessarily indicate the long-term prospects or
economic value of the institution.
ESTIMATED CHANGES IN NET INTEREST INCOME
-------------------------------------------------------------------------------------------------------
CHANGE IN NET INTEREST INCOME: + 400 BP + 300 BP + 200 BP + 100 BP - 100 BP
-------------------------------------------------------------------------------------------------------
POLICY LIMIT 30% 25% 20% 15% 15%
March 2005 +1.14 -0.09 -0.98 -0.10 -2.75
December 2004 +0.97 -0.06 -0.48 +0.62 -2.45
As shown above, measures of net interest income remained at
approximately the same levels as December 31, 2004 at all interest rate shock
levels. All measures remained well within prescribed policy limits. Although
assumed to be unlikely, our largest exposure is at the -100bp level, with a
measure of -2.75% compared to -2.45% at December 31, 2004. This is also well
within our prescribed policy limit of 15%. The maintenance of the net interest
income sensitivity is consistent with management's decision to reduce the size
of the investment portfolio in the first quarter of 2005 in anticipation of
rising interest rates in the future and to support the funding of loan growth.
The measures of equity value at risk indicate the ongoing economic
value of the Company by considering the effects of changes in interest rates on
all of the Company's cash flows, and discounting the cash flows to estimate the
present value of assets and liabilities. The difference between these discounted
values of the assets and liabilities is the economic value of equity, which, in
theory, approximates the market value of the Company's net assets.
ESTIMATED CHANGES IN ECONOMIC VALUE OF EQUITY (EVE)
---------------------------------------------------------------------------------------------------------------
DECREASE IN ECONOMIC VALUE OF EQUITY: + 400 BP + 300 BP + 200 BP + 100 BP - 100 BP
---------------------------------------------------------------------------------------------------------------
POLICY LIMIT 60% 40% 22.5% 10.0% 12.5%
March 2005 -14.95 -11.08 -6.17 -1.53 -1.73
December 2004 -22.44 -17.07 -9.98 -2.12 -1.04
Measures of the economic value of equity (EVE) at risk improved over
year-end 2004 in all but the -100bp interest rate shock levels. A reduction in
the size of the investment portfolio, as well as core deposit balance growth and
an increase in core deposit estimated lives were key contributors to the
improved risk position. The economic value of equity exposure at +200bp is now
- -6.17% compared to -9.98% at year-end 2004, and is well within the policy limit
of 22.5%, as are measures at all other shock levels.
LIQUIDITY
Liquidity is measured using an approach designed to take into account
loan and lease payments, maturities, calls and pay downs of securities,
earnings, growth, mortgage banking activities, leverage programs, investment
portfolio liquidity, and other factors. Through this approach, implemented by
the funds management subcommittee under formal policy guidelines, the Company's
liquidity position is measured weekly, looking forward thirty, sixty and ninety
days. The measurement is based upon the asset-liability management model's
projection of a funds sold or purchased position, along with ratios and trends
developed to measure dependence on purchased funds, leverage limitations and
core growth. Resulting projections as of March 31, 2005 showed short-term
investments exceeding short-term borrowings over the subsequent 90 days by
$47,277,000, which increased from a projected shortfall of $34,799,000 at
December 31, 2004. This excess of liquidity over projected requirements for
funds indicates that the Company can increase its loans and other earning assets
without incurring additional borrowing.
14
The Company also has external sources of funds, which can be drawn upon
when required. The main source of external liquidity is a line of credit for
$691,416,000 from the Federal Home Loan Bank of Atlanta, of which approximately
$139,971,000 was outstanding at March 31, 2005. Other external sources of
liquidity available to the Company in the form of lines of credit granted by the
Federal Reserve, correspondent banks and other institutions totaled $265,638,000
at March 31, 2005, against which there were outstandings of approximately
$27,000,000. Based upon its liquidity analysis, including external sources of
liquidity available, management believes the liquidity position is appropriate
at March 31, 2005.
The following is a schedule of significant commitments at March 31,
2005:
(In thousands)
Commitments to extend credit:
Unused lines of credit (home equity and business) $392,626
Other commitments to extend credit $161,811
Standby letters of credit $ 34,594
--------
Total $589,031
========
CAPITAL MANAGEMENT
The Company recorded a total risk-based capital ratio of 14.02% at
March 31, 2005, compared to 13.82% at December 31, 2004; a tier 1 risk-based
capital ratio of 13.12%, compared to 12.92%; and a capital leverage ratio of
9.47%, compared to 8.67%. Capital adequacy, as measured by these ratios, was
well above regulatory requirements. Management believes the level of capital at
March 31, 2005, is appropriate.
Stockholders' equity for March 31, 2005, totaled $198,709,000,
representing an increase of $3,626,000 or 2% from $195,083,000 at December 31,
2004. Accumulated other comprehensive income, a component of stockholders'
equity comprised of unrealized gains and losses on available-for-sale
securities, net of taxes, decreased by 62% or $1,632,000 from December 31, 2004
to March 31, 2005.
Internal capital generation (net income less dividends) added
$4,927,000 to total stockholders' equity during the first three months of 2005.
When internally formed capital is annualized and expressed as a percentage of
average total stockholders' equity, the resulting rate was 10% compared to 2%
reported for the full-year 2004.
External capital formation (equity created through the issuance of
stock under the employee stock purchase plan and the stock option plan) totaled
$331,000 during the three month period ended March 31, 2005.
Dividends for the first three months of the year were $0.20 per share
in 2005, compared to $0.19 per share in 2004, for respective dividend payout
ratios (dividends declared per share to diluted net income per share) of 38% for
both periods.
B. RESULTS OF OPERATIONS - THREE MONTHS ENDED MARCH 31, 2005, AND 2004
Net income for the first three months of the year increased $555,000 or
8% to $7,856,000 in 2005 from $7,301,000 in 2004, representing annualized
returns on average equity of 16.20% and 15.00%, respectively. First quarter
year-to-date diluted earnings per share (EPS) were $0.53 in 2005, compared to
$0.50 in 2004, an increase of $0.03 or 6%.
The primary factor driving the growth in net income was the increase in
the net interest margin that was due primarily to the balance sheet
repositioning completed in the fourth quarter of 2004. This increase was
somewhat offset by higher noninterest expenses resulting from increased salary
and employee benefits expenses.
The net interest margin increased by 58 basis points to 4.39% for the
three months ended March 31, 2005, from 3.81% for the same period of 2004, as
the net interest spread also increased by 58 basis points. These results reflect
to a large extent the balance sheet repositioning accomplished in the fourth
quarter of 2004.
15
Sandy Spring Bancorp, Inc. and Subsidiaries
Table 4 - Consolidated Average Balances, Yields and Rates
(Dollars in thousands and tax equivalent)
For the three months ended March 31,
---------------------------------------------------------
2005 2004
-------------------------- ---------------------------
Average Average Average Average
Balance Yield/Rate(1) Balance Yield/Rate(1)
- -------------------------------------------------------------------------------------------------------------
Assets
Total loans and leases (2) $1,463,553 5.86% $1,187,292 5.58%
Total securities 641,960 5.48 954,822 5.08
Other earning assets 9,856 2.33 25,527 0.96
---------- ----------
TOTAL EARNING ASSETS 2,115,369 5.73% 2,167,641 5.31%
Nonearning assets 170,840 161,344
---------- ----------
Total assets $2,286,209 $2,328,985
========== ==========
Liabilities and Stockholders' Equity
Interest-bearing demand deposits $ 237,637 0.25% $ 223,986 0.27%
Money market savings deposits 375,483 1.17 375,140 0.53
Regular savings deposits 227,250 0.32 195,286 0.34
Time deposits 467,473 2.41 406,913 1.90
---------- ----------
Total interest-bearing deposits 1,307,843 1.30 1,201,325 0.91
Short-term borrowings 282,079 2.87 399,822 3.72
Long-term borrowings 70,917 4.41 150,078 4.46
---------- ----------
Total interest-bearing liabilities 1,660,839 1.70 1,751,225 1.86
------ ------
Noninterest-bearing demand deposits 415,824 360,341
Other noninterest-bearing liabilities 12,887 21,689
Stockholders' equity 196,659 195,730
---------- ----------
Total liabilities and stockholders' equity $2,286,209 $2,328,985
========== ==========
Net interest spread 4.03% 3.45%
====== ======
Net interest margin (3) 4.39% 3.81%
====== ======
Ratio of average earning assets to
Average interest-bearing liabilities 127.37% 123.78%
====== ======
(1) Interest income includes the effects of taxable-equivalent adjustments
(reduced by the nondeductible portion of interest expense) using the
appropriate federal income tax rate of 35% and, where applicable, the
marginal state income tax rate of 7.00% (or a combined marginal federal and
state rate of 39.55%), to increase tax-exempt interest income to a
taxable-equivalent basis. The net taxable-equivalent adjustment amounts
utilized in the above table (on an annual basis) to compute yields were
$6,931,000 and $7,903,000 in the quarters ended March 31, 2005 and 2004,
respectively.
(2) Non-accrual loans are included in the average balances.
(3) Net interest margin = annualized net interest income on a tax-equivalent
basis divided by total interest-earning assets.
16
NET INTEREST INCOME
Net interest income for the first three months of the year was
$21,200,000 in 2005, an increase of 14% from $18,539,000 in 2004, due primarily
to the balance sheet repositioning completed in the fourth quarter of 2004 and a
23% increase in average loans compared to the first quarter of 2004. Non-GAAP
tax-equivalent net interest income, which takes into account the benefit of tax
advantaged investment securities, increased by 12%, to $22,909,000 in 2005 from
$20,504,000 in 2004. The effects of average balances, yields and rates are
presented in Table 4.
For the first three months, total interest income increased by
$1,475,000 or 6% in 2005, compared to 2004. On a non-GAAP tax-equivalent basis,
interest income increased by 4%. Average earning assets declined slightly versus
the prior period, to $2,115,369,000 from $2,167,641,000, while the average yield
earned on those assets increased by 42 basis points to 5.73%. Comparing the
first three months of 2005 versus 2004, average total loans and leases grew by
23% to $1,463,553,000 (69% of average earning assets, versus 55% a year ago),
while recording a 28 basis point increase in average yield to 5.86%. Average
residential real estate loans increased by 19% (reflecting increases in both
mortgage and construction lending); average consumer loans increased by 23%
(attributable primarily to home equity line growth); and, average commercial
loans and leases grew by 27% (due to increases in commercial mortgages and other
commercial loans). Over the same period, average total securities decreased by
33% to $641,960 (30% of average earning assets, versus 44% a year ago), while
the average yield earned on those assets increased, by 40 basis points to 5.48%.
Interest expense for the first three months of the year decreased by
$1,186,000 or 15% in 2005, compared to 2004. Average total interest-bearing
liabilities decreased by 5% over the prior year period, while the average rate
paid on these funds also decreased, by 16 basis points to 1.70%. As shown in
Table 4 this decrease was due to a 74 basis point decline in the average rate
paid on borrowings, largely due to the payoff of $195 million in advances from
the Federal Home Loan Bank in the fourth quarter of 2004. Somewhat offsetting
this decrease was a 39 basis point increase in the average rate paid on
interest-bearing deposits reflecting the rising trend in market interest rates.
Table 5 - Effect of Volume and Rate Changes on Net Interest Income
2005 vs. 2004 2004 vs. 2003
- -------------------------------------------------------------------------------------------------------------------
Increase Due to Change Increase Due to Change
Or In Average:* Or In Average:*
(In thousands and tax equivalent) (Decrease) Volume Rate (Decrease) Volume Rate
- -------------------------------------------------------------------------------------------------------------------
Interest income from earning assets:
Loans and leases $ 4,701 $ 3,978 $ 723 $ (315) $(1,851) $ 1,536
Securities (3,221) (3,371) 150 (2,057) (946) (1,111)
Other investments (5) (54) 49 (47) (29) (18)
------- ------- ------- ------- ------- -------
Total interest income 1,475 553 922 (2,419) (2,826) 407
Interest expense on funding of earning
assets:
Interest-bearing demand deposits (6) 9 (15) 26 26 0
Regular savings deposits 16 26 (10) 19 33 (14)
Money market savings deposits 587 0 587 (275) (51) (224)
Time deposits 861 313 548 (973) (211) (762)
Total borrowings (2,644) (1,700) (944) (697) (604) (93)
------- ------- ------- ------- ------- -------
Total interest expense (1,186) (1,352) 166 (1,900) (807) (1,093)
------- ------- ------- ------- ------- -------
Net interest income $ 2,661 $ 1,905 $ 756 $ (519) $(2,019) $ 1,500
======= ======= ======= ======= ======= =======
* Where volume and rate have a combined effect that cannot be separately
identified with either, the variance is allocated to volume and rate based on
the relative size of the variance that can be separately identified with each.
CREDIT RISK MANAGEMENT
The Company's loan and lease portfolio (the "credit portfolio") is
subject to varying degrees of credit risk. Credit risk is mitigated through
portfolio diversification, limiting exposure to any single customer, industry or
collateral type. The Company maintains an allowance for credit losses (the
"allowance") to absorb losses inherent in the loan and lease portfolio. The
allowance is based on careful, continuous review and evaluation of the loan and
lease portfolio, along with ongoing, quarterly assessments of the probable
losses inherent in that portfolio, and, to a lesser extent, in unused
commitments to provide financing. The allowance represents an estimate made
pursuant to Statement of Financial Accounting Standards ("SFAS") No. 5,
"Accounting for Contingencies," or SFAS No. 114, "Accounting by Creditors for
Impairment of a Loan." The adequacy of the allowance is determined through
careful and continuous evaluation of the credit portfolio, and involves
consideration of a number of factors, as outlined below, to establish a prudent
level. Determination of the allowance is inherently subjective and requires
significant estimates, including estimated losses on pools of homogeneous loans
and leases based on historical loss experience and consideration of current
economic trends, which may be susceptible to significant change. Loans and
leases deemed uncollectible are charged against the allowance, while recoveries
are credited to the allowance. Management adjusts the level of the allowance
through the provision for credit losses, which is recorded as a current period
operating expense. The Company's systematic methodology for assessing the
appropriateness of the allowance includes: (1) the formula allowance reflecting
historical losses, as adjusted, by credit category and (2) the specific
allowance for risk-rated credits on an individual or portfolio basis.
17
The formula allowance that is based upon historical loss factors, as
adjusted, establishes allowances for the major loan and lease categories based
upon adjusted historical loss experience over the prior eight quarters, weighted
so that losses in the most recent quarters have the greatest effect. The factors
used to adjust the historical loss experience address various risk
characteristics of the Company's loan and lease portfolio including (1) trends
in delinquencies and other non-performing loans, (2) changes in the risk profile
related to large loans in the portfolio, (3) changes in the categories of loans
comprising the loan portfolio, (4) concentrations of loans to specific industry
segments, (5) changes in economic conditions on both a local and national level,
(6) changes in the Company's credit administration and loan and lease portfolio
management processes and (7) quality of the Company's credit risk identification
processes.
The specific allowance is used to allocate an allowance for internally
risk rated commercial loans where significant conditions or circumstances
indicate that a loss may be imminent. Analysis resulting in specific allowances,
including those on loans identified for evaluation of impairment, includes
consideration of the borrower's overall financial condition, resources and
payment record, support available from financial guarantors and the sufficiency
of collateral. These factors are combined to estimate the probability and
severity of inherent losses. Then a specific allowance is established based on
the Company's calculation of the potential loss embedded in the individual loan.
Allowances are also established by application of credit risk factors to other
internally risk rated loans, individual consumer and residential loans, and
commercial leases on nonaccrual or 90-day past due status. Each risk rating
category is assigned a credit risk factor based on management's estimate of the
associated risk, complexity, and size of the individual loans within the
category. Additional allowances may also be established in special circumstances
involving a particular group of credits or portfolio within a risk category when
management becomes aware that losses incurred may exceed those determined by
application of the risk factor alone.
The amount of the allowance is reviewed monthly by the senior loan
committee, and reviewed and approved by the Board of Directors quarterly.
The provision for loan and lease losses in the first three months of
2005 totaled $100,000 compared to none in the same period in 2004. The Company
experienced net charge-offs during the first three months of 2005 and 2004 of
$16,000 and $5,000, respectively.
Management believes that the allowance is adequate. However, its
determination requires significant judgment, and estimates of probable losses
inherent in the credit portfolio can vary significantly from the amounts
actually observed. While management uses available information to recognize
probable losses, future additions to the allowance may be necessary based on
changes in the credits comprising the portfolio and changes in the financial
condition of borrowers, such as may result from changes in economic conditions.
In addition, regulatory agencies, as an integral part of their examination
process, and independent consultants engaged by Sandy Spring Bank, periodically
review the credit portfolio and the allowance. Such review may result in
additional provisions based on these third-party judgments of information
available at the time of each examination. During the first three months of
2005, there were no changes in estimation methods or assumptions that affected
the allowance methodology. The allowance for loan and lease losses was 1.00% of
total loans and leases at March 31, 2005 and 1.01% at December 31, 2004. The
allowance increased during the first three months of 2005 by $84,000 from
$14,654,000 at December 31, 2004, to $14,738,000 at March 31, 2005. The
stability of the allowance reflects the required reserve computed by the
allowance methodology at March 31, 2005, compared to December 31, 2004. The
required reserve increased at March 31, 2005 compared to December 31, 2004 due
primarily to growth in the loan portfolio.
Nonperforming loans and leases increased by $414,000 to $2,203,000 from
December 31, 2004 to March 31, 2005, while nonperforming assets increased by
$487,000 to $2,294,000. Expressed as a percentage of total assets, nonperforming
assets increased to 0.10% at March 31, 2005 from 0.08% at December 31, 2004. The
allowance for loan and lease losses represented 669% of nonperforming loans and
leases at March 31, 2005, compared to coverage of 819% at December 31, 2004.
Significant variation in this coverage ratio may occur from period to period
because the amount of nonperforming loans and leases depends largely on the
condition of a small number of individual credits and borrowers relative to the
total loan and lease portfolio. Other real estate owned was $73,000 at March 31,
2005 compared to none at December 31, 2004. The balance of impaired loans was
$600,000 at March 31, 2005, with specific reserves against those loans of
$186,000, compared to $690,000 at December 31, 2004, with specific reserves of
$251,000.
18
Table 6-- Analysis of Credit Risk
(Dollars in thousands)
Activity in the allowance for credit losses is shown below:
Three Months Ended Twelve Months Ended
March 31, 2005 December 31, 2004
- -----------------------------------------------------------------------------------------------------
Balance, January 1 $ 14,654 $ 14,880
Provision for credit losses 100 0
Loan charge-offs:
Residential real estate 0 (109)
Commercial loans and leases (60) (173)
Consumer (2) (214)
-------- --------
Total charge-offs (62) (496)
Loan recoveries:
Residential real estate 24 54
Commercial loans and leases 22 169
Consumer 0 47
-------- --------
Total recoveries 46 270
-------- --------
Net charge-offs (16) (226)
-------- --------
Balance, period end $ 14,738 $ 14,654
======== ========
Net charge-offs to average loans and
Leases (annual basis) ** 0.02%
Allowance to total loans and leases 1.00% 1.01%
The following table presents nonperforming assets at the dates indicated:
March 31 December 31,
2005 2004
- --------------------------------------------------------------------------------------------------
Non-accrual loans and leases $ 672 $ 746
Loans and leases 90 days past due 1,531 1,043
-------- --------
Total nonperforming loans and leases* 2,203 1,789
Other assets and real estate owned 94 18
-------- --------
Total nonperforming assets $ 2,294 $ 1,807
======== ========
Nonperforming assets to total assets 0.10% 0.08%
- --------------------------------------------------------------------------------------------------
* Those performing credits considered potential problem credits (which the
Company classifies as substandard), as defined and identified by management,
amounted to approximately $8,675,000 March 31, 2005, compared to $7,801,000 at
December 31, 2004. Although these are credits where known information about the
borrowers' possible credit problems causes management to have doubts as to their
ability to comply with the present repayment terms, which could result in their
reclassification as nonperforming credits in the future, most are well
collateralized and are not believed to present significant risk of loss.
** Less than 0.01%
19
NONINTEREST INCOME AND EXPENSES
Total noninterest income was $7,840,000 for the three-month period
ended March 31, 2005, a 3% or $250,000 increase from the same period of 2004.
Net securities gains, which are included in noninterest income, were $15,000 in
2005 versus $228,000 in 2004. The increase in noninterest income for the quarter
was due primarily to an increase of $690,000 or 62% in insurance agency
commissions, resulting from higher premiums from existing commercial property
and casualty lines ($583,000) and the acquisition of a small insurance agency
($113,000) in December, 2004. In addition, trust fees increased $118,000 or 16%
due primarily to growth in assets under management while Visa(R) check fees
increased $67,000 or 16% reflecting a growing volume of electronic checking
transactions. These increases were somewhat offset by a decline of $197,000 or
11% in service charges on deposit accounts due to lower commercial account fees
and return check charges. Fees on sales of investment products also declined
$184,000 or 29% due mainly to an increased emphasis on the sale of mutual funds
that pay annual fees as opposed to one-time up-front fees. This strategy
provides a more consistent long-term source of income and is consistent with the
Bank's long-term client relationship management goals.
Total noninterest expenses were $18,437,000 for the three-month period
ended March 31, 2005, a 10% or $1,723,000 increase from the first quarter of
2004. The Company incurs additional costs in order to enter new markets, provide
new services, and support the growth of the Company. Management controls its
operating expenses, however, with the goal of maximizing profitability over
time. Most of the rise in noninterest expenses during the first quarter of 2005
occurred in salaries and employee benefits which increased $1,412,000 or 14%, as
a result of higher incentive compensation costs and increased benefits expenses.
Occupancy and equipment expenses increased $428,000 or 15% as a result of the
opening of the Bank's Columbia Center office facility in the second quarter of
2004 and an expanded branch network. Average full-time equivalent employees
decreased to 569 during the first three months of 2005, from 578 during the like
period in 2004, a 2% decrease. The ratio of net income per average
full-time-equivalent employee after completion of the first three months of the
year was $14,000 in 2005 and $13,000 in 2004.
..
INCOME TAXES
The effective tax rate increased to 25% for the three-month period
ended March 31, 2005, from 22% for the prior year period. This increase was due
primarily to a decline in the amount of state tax-advantaged investments as a
result of the balance sheet deleveraging accomplished in the fourth quarter of
2004.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
See "Financial Condition - Market Risk and Interest Rate Sensitivity"
in Management's Discussion and Analysis of Financial Condition and Results of
Operations, above, which is incorporated herein by reference. Management has
determined that no additional disclosures are necessary to assess changes in
information about market risk that have occurred since December 31, 2004.
ITEM 4. CONTROLS AND PROCEDURES
The Company's management, under the supervision and with the
participation of the Company's Chief Executive Officer and Chief Financial
Officer, evaluated as of the last day of the period covered by this report, the
effectiveness of the design and operation of the Company's disclosure controls
and procedures, as defined in Rule 13a-15 under the Securities Exchange Act of
1934. Based on that evaluation, the Chief Executive Officer and Chief Financial
Officer concluded that the Company's disclosure controls and procedures were
adequate. There were no significant changes in the Company's internal controls
over financial reporting (as defined in Rule 13a-15 under the Securities Act of
1934) during the quarter ended March 31, 2005, that have materially affected, or
are reasonably likely to materially affect, the Company's internal control over
financial reporting.
20
PART II - OTHER INFORMATION
Item 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
The following table provides information on the Company's purchases of its
common stock during the three months ended March 31, 2005.
Issuer Purchases of Equity Securities (1)
- -----------------------------------------------------------------------------------------------------------------------------
(c) Total Number of (d) Maximum Number
Shares Purchased as that May Yet Be
Part of Publicly Purchased Under the
(a) Total Number of (b) Average Price Paid Announced Plans or Plans or Programs
Period Shares Purchased per Share Programs (2)(3)
- -----------------------------------------------------------------------------------------------------------------------------
January 2005 0 NA 0 622,592
- -----------------------------------------------------------------------------------------------------------------------------
February 2005 0 NA 0 622,592
- -----------------------------------------------------------------------------------------------------------------------------
March 2005 0 NA 0 622,592
- -----------------------------------------------------------------------------------------------------------------------------
(1) Includes purchases of the Company's stock made by or on behalf of the
Company or any affiliated purchasers of the Company as defined in Securities and
Exchange Commission Rule 10b-18.
(2) On March 26, 2003, the Company publicly announced a stock repurchase program
that permits the repurchase of up to 5%, or 726,804 shares, of its outstanding
common stock. The current program replaced a similar plan that expired on March
31, 2003. Repurchases under the program may be made on the open market and in
privately negotiated transactions from time to time until March 31, 2005, or
earlier termination of the program by the Board. The repurchases are made in
connection with shares expected to be issued under the Company's stock option
and benefit plans, as well as for other corporate purposes.
(3) Indicates the number of shares remaining under the plan at the end of the
indicated month.
Item 6. EXHIBITS
Exhibit 31(a) and (b) Rule 13a-14(a) / 15d-14(a) Certifications
Exhibit 32 (a) and (b) 18 U.S.C. Section 1350 Certifications
21
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this quarterly report to be signed on its behalf by
the undersigned, thereunto duly authorized.
SANDY SPRING BANCORP, INC.
(Registrant)
By: /S/ HUNTER R. HOLLAR
-----------------------------------------
Hunter R. Hollar
President and Chief Executive Officer
Date: May 6, 2005
By: /S/ PHILIP J. MANTUA
-----------------------------------------
Philip J. Mantua
Executive Vice President and Chief Financial Officer
Date: May 6, 2005
22