Table of Contents
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Quarter Ended March 31, 2009
Commission File No. 030525
HUDSON VALLEY HOLDING CORP.
(Exact name of registrant as specified in its charter)
NEW YORK | 13-3148745 | |
(State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification No.) |
21 Scarsdale Road, Yonkers, NY 10707
(Address of principal executive office with zip code)
914-961-6100
(Registrant’s telephone number including area code)
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 and (2) has been subject to such filing requirements for the past 90 days. Yes No o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 ofRegulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files. Yes oNo o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule12b-2 of the Exchange Act. (Check one)
Large accelerated filer o | Accelerated filer x | Non-accelerated filer o | Smaller reporting company o | |||
(do not check if a Smaller Reporting Company) |
Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Act.) Yes oNo x
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
Outstanding at | ||
Class | May 1, 2009 | |
Common stock, par value $0.20 per share | 10,600,251 |
Table of Contents
PART 1 — FINANCIAL INFORMATION
Item 1. Condensed Financial Statements
HUDSON VALLEY HOLDING CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
Dollars in thousands, except per share amounts
Three Months Ended | ||||||||
March 31, | ||||||||
2009 | 2008 | |||||||
Interest Income: | ||||||||
Loans, including fees | $ | 27,017 | $ | 25,302 | ||||
Securities: | ||||||||
Taxable | 5,447 | 6,882 | ||||||
Exempt from Federal income taxes | 2,157 | 2,244 | ||||||
Federal funds sold | 10 | 627 | ||||||
Deposits in banks | 5 | 46 | ||||||
Total interest income | 34,636 | 35,101 | ||||||
Interest Expense: | ||||||||
Deposits | 3,836 | 6,418 | ||||||
Securities sold under repurchase agreements and othershort-term borrowings | 314 | 480 | ||||||
Other borrowings | 2,101 | 2,328 | ||||||
Total interest expense | 6,251 | 9,226 | ||||||
Net Interest Income | 28,385 | 25,875 | ||||||
Provision for loan losses | 2,965 | 331 | ||||||
Net interest income after provision for loan losses | 25,420 | 25,544 | ||||||
Non Interest Income: | ||||||||
Service charges | 1,613 | 1,526 | ||||||
Investment advisory fees | 1,887 | 2,725 | ||||||
Recognized impairment charge on securities available for sale (includes $1,625 of total losses less $188 of losses on securities available for sale, recognized in other comprehensive income at March 31, 2009) | (1,437 | ) | (485 | ) | ||||
Other income | 587 | 521 | ||||||
Total non interest income | 2,650 | 4,287 | ||||||
Non Interest Expense: | ||||||||
Salaries and employee benefits | 9,803 | 9,940 | ||||||
Occupancy | 2,117 | 1,759 | ||||||
Professional services | 1,059 | 1,134 | ||||||
Equipment | 994 | 1,007 | ||||||
Business development | 549 | 493 | ||||||
FDIC assessment | 1,552 | 89 | ||||||
Other operating expenses | 2,375 | 2,564 | ||||||
Total non interest expense | 18,449 | 16,986 | ||||||
Income Before Income Taxes | 9,621 | 12,845 | ||||||
Income Taxes | 3,029 | 4,398 | ||||||
Net Income | $ | 6,592 | $ | 8,447 | ||||
Basic Earnings Per Common Share | $ | 0.62 | $ | 0.78 | ||||
Diluted Earnings Per Common Share | $ | 0.60 | $ | 0.75 |
See notes to condensed consolidated financial statements
2
Table of Contents
HUDSON VALLEY HOLDING CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (UNAUDITED)
Dollars in thousands
Three Months Ended | ||||||||
March 31, | ||||||||
2009 | 2008 | |||||||
Net Income | $ | 6,592 | $ | 8,447 | ||||
Other comprehensive income, net of tax: | ||||||||
Net change in unrealized gains (losses): | ||||||||
Other-than-temporarily impaired securities available for sale: | ||||||||
Total losses | (1,625 | ) | (485 | ) | ||||
Losses recognized in earnings | 1,437 | 485 | ||||||
(188 | ) | – | ||||||
Income tax effect | 77 | – | ||||||
(111 | ) | – | ||||||
Securities available for sale not other-than-temporarily impaired | 5,619 | 8,976 | ||||||
Income tax effect | (2,198 | ) | (3,405 | ) | ||||
3,421 | 5,571 | |||||||
Unrealized holding gains on securities, net of tax | 3,310 | 5,571 | ||||||
Accrued benefit liability adjustment | 191 | 174 | ||||||
Income tax effect | (77 | ) | (70 | ) | ||||
114 | 104 | |||||||
Other comprehensive income | 3,424 | 5,675 | ||||||
Comprehensive Income | $ | 10,016 | $ | 14,122 | ||||
See notes to condensed consolidated financial statements
3
Table of Contents
HUDSON VALLEY HOLDING CORP. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (UNAUDITED)
Dollars in thousands, except per share and share amounts
March 31, | December 31, | |||||||
2009 | 2008 | |||||||
ASSETS | ||||||||
Cash and due from banks | $ | 52,402 | $ | 45,428 | ||||
Federal funds sold | 22,092 | 6,679 | ||||||
Securities available for sale, at estimated fair value (amortized cost of $601,034 in 2009 and $647,279 in 2008) | 601,548 | 642,363 | ||||||
Securities held to maturity, at amortized cost (estimated fair value of $28,604 in 2009 and $29,546 in 2008) | 27,605 | 28,992 | ||||||
Federal Home Loan Bank of New York (FHLB) Stock | 11,042 | 20,493 | ||||||
Loans (net of allowance for loan losses of $24,199 in 2009 and $22,537 in 2008) | 1,715,856 | 1,677,611 | ||||||
Accrued interest and other receivables | 15,189 | 16,357 | ||||||
Premises and equipment, net | 30,369 | 30,987 | ||||||
Other real estate owned | 5,455 | 5,467 | ||||||
Deferred income taxes, net | 13,447 | 14,030 | ||||||
Bank owned life insurance | 23,123 | 22,853 | ||||||
Goodwill | 20,933 | 20,942 | ||||||
Other intangible assets | 3,892 | 4,098 | ||||||
Other assets | 3,247 | 4,590 | ||||||
TOTAL ASSETS | $ | 2,546,200 | $ | 2,540,890 | ||||
LIABILITIES | ||||||||
Deposits: | ||||||||
Non interest-bearing | $ | 662,282 | $ | 647,828 | ||||
Interest-bearing | 1,397,333 | 1,191,498 | ||||||
Total deposits | 2,059,615 | 1,839,326 | ||||||
Securities sold under repurchase agreements and other short-term borrowings | 60,578 | 269,585 | ||||||
Other borrowings | 196,805 | 196,813 | ||||||
Accrued interest and other liabilities | 29,828 | 27,665 | ||||||
TOTAL LIABILITIES | 2,346,826 | 2,333,389 | ||||||
STOCKHOLDERS’ EQUITY | ||||||||
Common stock, $0.20 par value; authorized 25,000,000 shares; outstanding 10,600,251 and 10,871,609 shares in 2009 and 2008, respectively | 2,369 | 2,367 | ||||||
Additional paid-in capital | 250,442 | 250,129 | ||||||
Retained earnings | 3,671 | 2,084 | ||||||
Accumulated other comprehensive income (loss), net | (1,720 | ) | (5,144 | ) | ||||
Treasury stock, at cost; 1,245,026 and 964,763 shares in 2009 and 2008, respectively | (55,388 | ) | (41,935 | ) | ||||
Total stockholders’ equity | 199,374 | 207,501 | ||||||
TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY | $ | 2,546,200 | $ | 2,540,890 | ||||
See notes to condensed consolidated financial statements
4
Table of Contents
HUDSON VALLEY HOLDING CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY (UNAUDITED)
Three Months Ended March 31, 2009 and 2008
Dollars in thousands, except share amounts
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY (UNAUDITED)
Three Months Ended March 31, 2009 and 2008
Dollars in thousands, except share amounts
Accumulated | ||||||||||||||||||||||||||||
Number of | Additional | Other | ||||||||||||||||||||||||||
Shares | Common | Treasury | Paid-in | Retained | Comprehensive | |||||||||||||||||||||||
Outstanding | Stock | Stock | Capital | Earnings | Income (Loss) | Total | ||||||||||||||||||||||
Balance at January 1, 2009 | 10,871,609 | $ | 2,367 | $ | (41,935 | ) | $ | 250,129 | $ | 2,084 | $ | (5,144 | ) | $ | 207,501 | |||||||||||||
Net income | 6,592 | 6,592 | ||||||||||||||||||||||||||
Grants and exercises of stock options, net of tax | 8,905 | 2 | 313 | 315 | ||||||||||||||||||||||||
Purchase of treasury stock | (280,315 | ) | (13,455 | ) | (13,455 | ) | ||||||||||||||||||||||
Sale of treasury stock | 52 | 2 | 2 | |||||||||||||||||||||||||
Cash dividends ($0.47 per share) | (5,005 | ) | (5,005 | ) | ||||||||||||||||||||||||
Accrued benefit liability adjustment, net of tax | 114 | 114 | ||||||||||||||||||||||||||
Net unrealized gain (loss) on securities available for sale: | ||||||||||||||||||||||||||||
Not other-than-temporarily impaired | 3,421 | 3,421 | ||||||||||||||||||||||||||
Other-than temporarily impaired (includes $1,625 of total losses less $1,437 of losses recognized in earnings, net of tax) | (111 | ) | (111 | ) | ||||||||||||||||||||||||
Balance at March 31, 2009 | 10,600,251 | $ | 2,369 | $ | (55,388 | ) | $ | 250,442 | $ | 3,671 | $ | (1,720 | ) | $ | 199,374 | |||||||||||||
Accumulated | ||||||||||||||||||||||||||||
Number of | Additional | Other | ||||||||||||||||||||||||||
Shares | Common | Treasury | Paid-in | Retained | Comprehensive | |||||||||||||||||||||||
Outstanding | Stock | Stock | Capital | Earnings | Income (Loss) | Total | ||||||||||||||||||||||
Balance at January 1, 2008 | 9,841,890 | $ | 2,091 | $ | (23,580 | ) | $ | 227,173 | $ | 2,369 | $ | (4,366 | ) | $ | 203,687 | |||||||||||||
Net income | 8,447 | 8,447 | ||||||||||||||||||||||||||
Grants and exercises of stock options, net of tax | 60,086 | 12 | 1,686 | 1,698 | ||||||||||||||||||||||||
Purchase of treasury stock | (44,265 | ) | (2,316 | ) | (2,316 | ) | ||||||||||||||||||||||
Sale of treasury stock | 2,577 | 101 | 33 | 134 | ||||||||||||||||||||||||
Cash dividend ($0.45 per share) | (4,940 | ) | (4,940 | ) | ||||||||||||||||||||||||
Accrued benefit liability adjustment, net of tax | 104 | 104 | ||||||||||||||||||||||||||
Net unrealized gain on securities available for sale | 5,571 | 5,571 | ||||||||||||||||||||||||||
Balance at March 31, 2008 | 9,860,288 | $ | 2,103 | $ | (25,795 | ) | $ | 228,892 | $ | 5,876 | $ | 1,309 | $ | 212,385 | ||||||||||||||
See notes to condensed consolidated financial statements
5
Table of Contents
HUDSON VALLEY HOLDING CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
Dollars in thousands
Three Months Ended | ||||||||
March 31, | ||||||||
2009 | 2008 | |||||||
Operating Activities: | ||||||||
Net income | $ | 6,592 | $ | 8,447 | ||||
Adjustments to reconcile net income to net cash provided by operating activities: | ||||||||
Provision for loan losses | 2,965 | 331 | ||||||
Depreciation and amortization | 968 | 786 | ||||||
Recognized impairment charge on securities available for sale | 1,437 | 485 | ||||||
Amortization of premiums on securities, net | 62 | 66 | ||||||
Increase in cash value of bank owned life insurance | (198 | ) | (195 | ) | ||||
Amortization of other intangible assets | 206 | 205 | ||||||
Stock option expense and related tax benefits | 79 | 336 | ||||||
Deferred taxes (benefit) | (1,616 | ) | 109 | |||||
(Decrease) increase in deferred loan fees, net | (208 | ) | 154 | |||||
Decrease (increase) in accrued interest and other receivables | 1,168 | (469 | ) | |||||
Decrease in other assets | 1,343 | 5 | ||||||
Excess tax benefits from share based payment arrangements | (12 | ) | (118 | ) | ||||
Increase (decrease) in accrued interest and other liabilities | 2,163 | (2,070 | ) | |||||
Increase in accrued benefit liability adjustment | 191 | 174 | ||||||
Net cash provided by operating activities | 15,140 | 8,246 | ||||||
Investing Activities: | ||||||||
(Increase) decrease in short term investments | (15,413 | ) | 32,946 | |||||
Decrease (increase) in FHLB stock | 9,451 | (1,350 | ) | |||||
Proceeds from maturities and paydowns of securities available for sale | 81,379 | 77,429 | ||||||
Proceeds from maturities and paydowns of securities held to maturity | 1,385 | 1,099 | ||||||
Purchases of securities available for sale | (36,630 | ) | (38,991 | ) | ||||
Net increase in loans | (40,989 | ) | (74,512 | ) | ||||
Net purchases of premises and equipment | (350 | ) | (2,008 | ) | ||||
Increase in goodwill | 9 | — | ||||||
Premiums paid on bank owned life insurance | (72 | ) | (390 | ) | ||||
Net cash used in investing activities | (1,230 | ) | (5,777 | ) | ||||
Financing Activities: | ||||||||
Net increase (decrease) in deposits | 220,289 | (32,794 | ) | |||||
Net (decrease) increase in securities sold under repurchase agreements and other short-term borrowings | (209,007 | ) | 36,897 | |||||
Repayment of other borrowings | (8 | ) | (7 | ) | ||||
Proceeds from issuance of common stock | 236 | 1,362 | ||||||
Excess tax benefits from share based payment arrangements | 12 | 118 | ||||||
Proceeds from sale of treasury stock | 2 | 134 | ||||||
Acquisition of treasury stock | (13,455 | ) | (2,316 | ) | ||||
Cash dividends paid | (5,005 | ) | (4,940 | ) | ||||
Net cash used in financing activities | (6,936 | ) | (1,546 | ) | ||||
Increase in Cash and Due from Banks | 6,974 | 923 | ||||||
Cash and due from banks, beginning of period | 45,428 | 51,067 | ||||||
Cash and due from banks, end of period | $ | 52,402 | $ | 51,990 | ||||
Supplemental Disclosures: | ||||||||
Interest paid | $ | 6,580 | $ | 9,624 | ||||
Income tax payments | 185 | 4,945 |
See notes to condensed consolidated financial statements
6
Table of Contents
HUDSON VALLEY HOLDING CORP. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
1. Description of Operations
Hudson Valley Holding Corp. (the “Company”) is a New York corporation founded in 1982. The Company is registered as a bank holding company under the Bank Holding Company Act of 1956.
The Company provides financial services through its wholly-owned subsidiaries, Hudson Valley Bank, N.A. (“HVB”), a national banking association headquartered in Westchester County, New York and New York National Bank (“NYNB”), a national banking association headquartered in Bronx County, New York (together with HVB, “the Banks”). HVB is the successor to Hudson Valley Bank, a New York State bank originally established in 1972. NYNB is a national banking association which the Company acquired effective January 1, 2006. For the period from January 1, 2006 to November 19, 2007, NYNB was operated as a New York State bank. HVB has 17 branch offices in Westchester County, New York, 4 in Manhattan, New York, 2 in Bronx County, New York, 1 in Rockland County, New York, 1 in Queens County, New York, 1 in Kings County, New York and 4 in Fairfield County, Connecticut. NYNB has 3 branch offices in Manhattan, New York and 2 in Bronx County, New York. HVB has received regulatory approval to open full service branches at 54 Broad Street, Milford, Connecticut (New Haven County), 111 Brook Street, Scarsdale, New York and 2505 Main Street, Stratford (Fairfield County), Connecticut. NYNB has notified the Office of the Comptroller of the Currency that it intends to close 2 full service branches in Manhattan in the second quarter of 2009.
The Company provides investment management services through a wholly-owned subsidiary of HVB, A.R. Schmeidler & Co., Inc. (“ARS”), a money management firm, thereby generating fee income. ARS has offices at 500 Fifth Avenue in Manhattan, New York.
We derive substantially all of our revenue and income from providing banking and related services to businesses, professionals, municipalities,not-for-profit organizations and individuals within our market area, primarily Westchester County and Rockland County, New York, portions of New York City and Fairfield County, Connecticut.
Our principal executive offices are located at 21 Scarsdale Road, Yonkers, New York 10707.
Our principal customers are businesses, professionals, municipalities,not-for-profit organizations and individuals. Our strategy is to operate community-oriented banking institutions dedicated to providing personalized service to customers and focusing on products and services for selected segments of the market. We believe that our ability to attract and retain customers is due primarily to our focused approach to our markets, our personalized and professional services, our product offerings, our experienced staff, our knowledge of our local markets and our ability to provide responsive solutions to customer needs. We provide these products and services to a diverse range of customers and do not rely on a single large depositor for a significant percentage of deposits. We anticipate that we will continue to expand in our current market and surrounding area by acquiring other banks and related businesses, adding staff and continuing to open new branch offices and loan production offices.
2. Summary of Significant Accounting Policies
In the opinion of management, the accompanying unaudited condensed consolidated financial statements include all adjustments (comprising only normal recurring adjustments) necessary to present fairly the financial position of the Company at March 31, 2009 and the results of its operations, comprehensive income, and cash flows and changes in stockholders’ equity for the three month periods ended March 31, 2009 and 2008. The results of operations for the three month period ended March 31, 2009 are not necessarily indicative of the results of operations to be expected for the remainder of the year.
The unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) and predominant practices used within the banking industry. Certain information and note disclosures normally included in annual financial statements have been omitted.
7
Table of Contents
In preparing such financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the dates of the consolidated balance sheets and statements of income for the periods reported. Actual results could differ significantly from those estimates.
Estimates that are particularly susceptible to significant change in the near term relate to the determination of the allowance for loan losses, the determination of the fair value of securities available for sale and the determination of other-than-temporary impairment. In connection with the determination of the allowance for loan losses, management utilizes the work of professional appraisers for significant properties. Methodology used in the determination of fair values of securities available for sale and other-than-temporary impairment are discussed in Notes 3 and 9 herein.
Intercompany items and transactions have been eliminated in consolidation. Certain prior period amounts have been reclassified to conform to the current period’s presentation.
These unaudited condensed consolidated financial statements should be read in conjunction with our audited consolidated financial statements as of and for the year ended December 31, 2008 and notes thereto.
Securities —Securities are classified as either available for sale, representing securities the Company may sell in the ordinary course of business, or as held to maturity, representing securities the Company has the ability and positive intent to hold until maturity. Securities available for sale are reported at fair value with unrealized gains and losses (net of tax) excluded from operations and reported in other comprehensive income. Securities held to maturity are stated at amortized cost. Interest income includes amortization of purchase premium and accretion of purchase discount. The amortization of premiums and accretion of discounts is determined by using the level yield method. Securities are not acquired for purposes of engaging in trading activities. Realized gains and losses from sales of securities are determined using the specific identification method. The Company regularly reviews declines in the fair value of securities below their costs for purposes of determining whether such declines are other-than-temporary in nature. In estimating other-than-temporary losses, management considers adverse changes in expected cash flows, the length of time and extent that fair value has been less than cost, the financial condition and near term prospects of the issuer, and the Company’s ability and intent to hold the security for a period sufficient to allow for any anticipated recovery in fair value. If the Company determines that a decline in the fair value of a security below cost is other-than-temporary, the carrying amount of the security is reduced by any portion of the decline deemed to be credit related, with the corresponding decline charged to earnings. The carrying amount of the security is also reduced by any additional impairment deemed to be non credit related, with the corresponding decline charged to other comprehensive income.
Loans —Loans are reported at their outstanding principal balance, net of the allowance for loan losses, and deferred loan origination fees and costs. Loan origination fees and certain direct loan origination costs are deferred and recognized over the life of the related loan or commitment as an adjustment to yield, or taken directly into income when the related loan is sold or commitment expires.
Interest Rate Contracts —The Company, from time to time, uses various interest rate contracts such as forward rate agreements, interest rate swaps, caps and floors, primarily as hedges against specific assets and liabilities. Statement of Financial Accounting Standards (“SFAS”) No. 133, “Accounting for Derivative Instruments and Hedging Activities,” as amended by SFAS No. 137, “Accounting for Derivative Instruments and Hedging Activities — Deferral of the Effective Date of SFAS Statement No. 133” and as amended by SFAS No. 149, “Amendment of Statement 133 on Derivative Instruments and Hedging Activities” requires that all derivative instruments, including interest rate contracts, be recorded on the balance sheet at their fair value. Changes in the value of derivative instruments are recorded each period in current earnings or other comprehensive income, depending on whether a derivative is designated as part of a hedge transaction and, if it is, the type of hedge transaction. There were no interest rate contracts outstanding as of March 31, 2009 or December 31, 2008.
Allowance for Loan Losses —The Company maintains an allowance for loan losses to absorb probable losses incurred in the loan portfolio based on ongoing quarterly assessments of the estimated losses. The Company’s methodology for assessing the appropriateness of the allowance consists of a specific component for identified problem loans, and a formula component which addresses historical loan loss experience together with other relevant risk factors affecting the portfolio.
8
Table of Contents
The specific component incorporates the results of measuring impaired loans as provided in SFAS No. 114, “Accounting by Creditors for Impairment of a Loan,” and SFAS No. 118, “Accounting by Creditors for Impairment of a Loan-Income Recognition and Disclosures.” These accounting standards prescribe the measurement methods, income recognition and disclosures related to impaired loans. A loan is recognized as impaired when it is probable that principaland/or interest are not collectible in accordance with the loan’s contractual terms. A loan is not deemed to be impaired if there is a short delay in receipt of payment or if, during a longer period of delay, the Company expects to collect all amounts due including interest accrued at the contractual rate during the period of delay. Measurement of impairment can be based on the present value of expected future cash flows discounted at the loan’s effective interest rate, the loan’s observable market price or the fair value of the collateral, if the loan is collateral dependent. This evaluation is inherently subjective as it requires material estimates that may be susceptible to significant change. If the fair value of the impaired loan is less than the related recorded amount, a specific valuation component is established within the allowance for loan losses or a writedown is charged against the allowance for loan losses if the impairment is considered to be permanent. Measurement of impairment does not apply to large groups of smaller balance homogenous loans that are collectively evaluated for impairment such as the Company’s portfolios of home equity loans, real estate mortgages, installment and other loans.
The formula component is calculated by first applying historical loss experience factors to outstanding loans by type. This component is then adjusted to reflect additional risk factors not addressed by historical loss experience. These factors include the evaluation of then-existing economic and business conditions affecting the key lending areas of the Company and other conditions, such as new loan products, credit quality trends (including trends in nonperforming loans expected to result from existing conditions), collateral values, loan volumes and concentrations, specific industry conditions within portfolio segments that existed as of the balance sheet date and the impact that such conditions were believed to have had on the collectibility of the loan portfolio. Senior management reviews these conditions quarterly. Management’s evaluation of the loss related to each of these conditions is quantified by loan type and reflected in the formula component. The evaluations of the inherent loss with respect to these conditions is subject to a higher degree of uncertainty due to the subjective nature of such evaluations and because they are not identified with specific problem credits.
Actual losses can vary significantly from the estimated amounts. The Company’s methodology permits adjustments to the allowance in the event that, in management’s judgment, significant factors which affect the collectibility of the loan portfolio as of the evaluation date have changed.
Management believes the allowance for loan losses is the best estimate of probable losses which have been incurred as of March 31, 2009. There is no assurance that the Company will not be required to make future adjustments to the allowance in response to changing economic conditions, particularly in the Company’s service area, since the majority of the Company’s loans are collateralized by real estate. 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 judgments at the time of their examinations.
Loan Restructurings —Loan restructurings are renegotiated loans for which concessions have been granted to the borrower that the Company would not have otherwise granted. Restructured loans are returned to accrual status when said loans have demonstrated performance, generally evidenced by six months of payment performance in accordance with the restructured terms, or by the presence of other significant factors.
Income Recognition on Loans —Interest on loans is accrued monthly. Net loan origination and commitment fees are deferred and recognized as an adjustment of yield over the lives of the related loans. Loans, including impaired loans, are placed on a non-accrual status when management believes that interest or principal on such loans may not be collected in the normal course of business. When a loan is placed on non-accrual status, all interest previously accrued, but not collected, is reversed against interest income. Interest received on non-accrual loans generally is either applied against principal or reported as interest income, in accordance with management’s judgment as to the collectibility of principal. Loans can be returned to accruing status when they become current as to principal and interest, demonstrate a period of performance under the contractual terms, and when, in management’s opinion, they are estimated to be fully collectible.
9
Table of Contents
Premises and Equipment —Premises and equipment are stated at cost less accumulated depreciation and amortization. Depreciation is computed using the straight-line method over the estimated useful lives of the related assets, generally 3 to 5 years for furniture, fixtures and equipment and 31.5 years for buildings. Leasehold improvements are amortized over the lesser of the term of the lease or the estimated useful life of the asset.
Other Real Estate Owned (“OREO”) —Real estate properties acquired through loan foreclosure are recorded at estimated fair value, net of estimated selling costs, at time of foreclosure establishing a new cost basis. Credit losses arising at the time of foreclosure are charged against the allowance for loan losses. Subsequent valuations are periodically performed by management and the carrying value is adjusted by a charge to expense to reflect any subsequent declines in the estimated fair value. Routine holding costs are charged to expense as incurred.
Goodwill and Other Intangible Assets — In accordance with the provisions of SFAS No. 142, “Goodwill and Other Intangible Assets,” goodwill and identified intangible assets with indefinite useful lives are not subject to amortization. Identified intangible assets that have finite useful lives are amortized over those lives by a method which reflects the pattern in which the economic benefits of the intangible asset are used up. All goodwill and identified intangible assets are subject to impairment testing on an annual basis, or more often if events or circumstances indicate that impairment may exist. If such testing indicates impairment in the valuesand/or remaining amortization periods of the intangible assets, adjustments are made to reflect such impairment. The Company’s impairment evaluations as of March 31, 2009 and December 31, 2008 did not indicate impairment of its goodwill or identified intangible assets.
Income Taxes —Income tax expense is the total of the current year income tax due or refundable and the change in deferred tax assets and liabilities. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period the change is enacted.
Stock-Based Compensation — The Company has stock option plans that provide for the granting of options to directors, officers, eligible employees, and certain advisors, based upon eligibility as determined by the Compensation Committee. Options are granted for the purchase of shares of the Company’s common stock at an exercise price not less than the market value of the stock on the date of grant. Stock options under the Company’s plans vest over various periods. Vesting periods range from immediate to five years from date of grant. Options expire ten years from the date of grant. Effective January 1, 2006, the Company adopted SFAS No. 123R, “Share-Based Payment” (“SFAS No. 123R”), which requires that compensation cost relating to share-based payment transactions be recognized in the financial statements with measurement based upon the fair value of the equity or liability instruments issued. Non-employee stock options are expensed as of the date of grant. The fair value (present value of the estimated future benefit to the option holder) of each option grant is estimated on the date of grant using the Black-Scholes option pricing model. See Note 8 herein for additional discussion.
10
Table of Contents
3. | Securities |
The following tables set forth the amortized cost, gross unrealized gains and losses and the estimated fair value of securities classified as available for sale and held to maturity at March 31, 2009 and December 31, 2008 (in thousands):
March 31, 2009 | ||||||||||||||||
Gross Unrealized | Estimated Fair | |||||||||||||||
Amortized Cost | Gains | Losses | Value | |||||||||||||
Classified as Available for Sale | ||||||||||||||||
U.S. Treasury and government agencies | $ | 43,205 | $ | 188 | — | $ | 43,393 | |||||||||
Mortgage-backed securities | 333,906 | 5,627 | $ | 52 | 339,481 | |||||||||||
Obligations of states and political subdivisions | 196,154 | 5,008 | 385 | 200,777 | ||||||||||||
Other debt securities | 18,599 | 20 | 10,586 | 8,033 | ||||||||||||
Total debt securities | 591,864 | 10,843 | 11,023 | 591,684 | ||||||||||||
Mutual funds and other equity securities | 9,170 | 780 | 86 | 9,864 | ||||||||||||
Total | $ | 601,034 | $ | 11,623 | $ | 11,109 | $ | 601,548 | ||||||||
Classified as Held to Maturity | ||||||||||||||||
Mortgage-backed securities | $ | 22,472 | $ | 713 | — | $ | 23,185 | |||||||||
Obligations of states and political subdivisions | 5,133 | 286 | — | 5,419 | ||||||||||||
Total | $ | 27,605 | $ | 999 | $ | — | $ | 28,604 | ||||||||
December 31, 2008 | ||||||||||||||||
Gross Unrealized | Estimated Fair | |||||||||||||||
Amortized Cost | Gains | Losses | Value | |||||||||||||
Classified as Available for Sale | ||||||||||||||||
U.S. Treasury and government agencies | $ | 45,206 | $ | 288 | $ | 79 | $ | 45,415 | ||||||||
Mortgage-backed securities | 371,963 | 3,487 | 1,313 | 374,137 | ||||||||||||
Obligations of states and political subdivisions | 200,858 | 2,341 | 1,710 | 201,489 | ||||||||||||
Other debt securities | 20,082 | 227 | 8,665 | 11,644 | ||||||||||||
Total debt securities | 638,109 | 6,343 | 11,767 | 632,685 | ||||||||||||
Mutual funds and other equity securities | 9,170 | 613 | 105 | 9,678 | ||||||||||||
Total | $ | 647,279 | $ | 6,956 | $ | 11,872 | $ | 642,363 | ||||||||
Classified as Held to Maturity | ||||||||||||||||
Mortgage-backed securities | $ | 23,859 | $ | 525 | $ | 78 | $ | 24,306 | ||||||||
Obligations of states and political subdivisions | 5,133 | 108 | 1 | 5,240 | ||||||||||||
Total | $ | 28,992 | $ | 633 | $ | 79 | $ | 29,546 | ||||||||
Included in other debt securities are investments in six pooled trust preferred securities with amortized costs and estimated fair values of $17,710 and $7,422, respectively at March 31, 2009. These investments represent trust preferred obligations of banking industry companies. The value of these investments has been severely negatively affected by the recent downturn in the economy and increased investor concerns about recent and potential future losses in the financial services industry. These investments are rated below investment grade by Moody’s Investor Services at March 31, 2009. In light of these conditions, these investments were reviewed for other-than-temporary impairment.
11
Table of Contents
In estimating other-than-temporary impairment (“OTTI”) losses, the Company considers: (1) the length of time and extent that fair value has been less than cost, (2) the financial condition and near term prospects of the issuers, (3) the Company’s ability and intent to hold the security for a period sufficient to allow for any anticipated recovery in fair value and (4) evaluation of cash flows to determine if they have been adversely affected.
In September 2008 the Company recognized a pretax OTTI loss of $1,061 on one trust preferred security which, prior to the OTTI adjustment, had a book value of $2,000. During the three months ended March 31, 2009, an additional $1,437 pretax OTTI loss was recognized on another pooled trust preferred security due to an adverse change in its expected cash flows which indicated that the Company may not recover the entire $5,000 cost basis of the investment. Continuation or worsening of the current adverse economic conditions may result in further impairment charges in the future.
The Company uses a discounted cash flow (“DCF”) analysis to provide an estimate of an OTTI loss. Inputs to the discount model included known defaults and interest deferrals, projected additional default rates, projected additional deferrals of interest, over-collateralization tests, interest coverage tests and other factors. Expected default and deferral rates were weighted toward the near future to reflect the current adverse economic environment affecting the banking industry. The discount rate was based upon the yield expected from the related securities.
The following table summarizes the change in pretax OTTI credit related losses on securities available for sale for the three months ended March 31, 2009:
Balance at January 1, 2009 | — | |||
Total OTTI credit losses at January 1, 2009 | $ | 1,061 | ||
Less: portion recognized in other comprehensive income | — | |||
Balance at January 2009, as adjusted | 1,061 | |||
Credit related impairment not previously recognized | 1,437 | |||
Balance at March 31, 2009 | $ | 2,498 |
At March 31, 2009 and December 31, 2008, securities having a stated value of approximately $432,000 and $401,000, respectively were pledged to secure public deposits, securities sold under agreements to repurchase and for other purposes as required or permitted by law.
The following tables reflect the Company’s investment’s fair values and gross unrealized loss, aggregated by investment category and length of time the individual securities have been in a continuous unrealized loss position, as of March 31, 2009 and December 31, 2008 (in thousands):
March 31, 2009 | ||||||||||||||||||||||||
Duration of Unrealized Loss | ||||||||||||||||||||||||
Less than 12 Months | Greater than 12 Months | Total | ||||||||||||||||||||||
Gross | Gross | Gross | ||||||||||||||||||||||
Fair | Unrealized | Fair | Unrealized | Fair | Unrealized | |||||||||||||||||||
Value | Loss | Value | Loss | Value | Loss | |||||||||||||||||||
Classified as Available for Sale | ||||||||||||||||||||||||
U.S. Treasuries and government agencies | — | — | — | — | — | — | ||||||||||||||||||
Mortgage-backed securities | $ | 8,538 | $ | 28 | $ | 4,785 | $ | 24 | $ | 13,323 | $ | 52 | ||||||||||||
Obligations of states and political subdivisions | 18,488 | 332 | 1,106 | 53 | 19,594 | 385 | ||||||||||||||||||
Other debt securities | 863 | 591 | 6,777 | 9,995 | 7,640 | 10,586 | ||||||||||||||||||
Total debt securities | 27,889 | 951 | 12,668 | 10,072 | 40,557 | 11,023 | ||||||||||||||||||
Mutual funds and other equity securities | — | — | 326 | 86 | 326 | 86 | ||||||||||||||||||
Total temporarily impaired securities | $ | 27,889 | $ | 951 | $ | 12,994 | $ | 10,158 | $ | 40,883 | $ | 11,109 | ||||||||||||
There were no securities classified as held to maturity in an unrealized loss position at March 31, 2009.
12
Table of Contents
December 31. 2008 | ||||||||||||||||||||||||
Duration of Unrealized Loss | ||||||||||||||||||||||||
Less than 12 Months | Greater than 12 Months | Total | ||||||||||||||||||||||
Gross | Gross | Gross | ||||||||||||||||||||||
Fair | Unrealized | Fair | Unrealized | Fair | Unrealized | |||||||||||||||||||
Value | Loss | Value | Loss | Value | Loss | |||||||||||||||||||
Classified as Available for Sale | ||||||||||||||||||||||||
U.S. Treasuries and government agencies | $ | 11,700 | $ | 79 | — | — | $ | 11,700 | $ | 79 | ||||||||||||||
Mortgage-backed securities | 84,610 | 472 | $ | 79,505 | $ | 841 | 164,115 | 1,313 | ||||||||||||||||
Obligations of states and political subdivisions | 52,538 | 1,477 | 8,868 | 233 | 61,406 | 1,710 | ||||||||||||||||||
Other debt securities | 414 | 102 | 18,207 | 8,563 | 18,621 | 8,665 | ||||||||||||||||||
Total debt securities | 149,262 | 2,130 | 106,580 | 9,637 | 255,842 | 11,767 | ||||||||||||||||||
Mutual funds and other equity securities | 8,128 | 92 | 83 | 13 | 8,211 | 105 | ||||||||||||||||||
Total temporarily impaired securities | $ | 157,390 | $ | 2,222 | $ | 106,663 | $ | 9,650 | $ | 264,053 | $ | 11,872 | ||||||||||||
Classified as Held to Maturity | ||||||||||||||||||||||||
Mortgage-backed securities | $ | 1,621 | $ | 73 | $ | 974 | $ | 5 | $ | 2,595 | $ | 78 | ||||||||||||
Obligations of states and political subdivisions | 276 | 1 | — | — | 276 | 1 | ||||||||||||||||||
Total temporarily impaired securities | $ | 1,897 | $ | 74 | $ | 974 | $ | 5 | $ | 2,871 | $ | 79 | ||||||||||||
The total number of securities in the Company’s portfolio that were in an unrealized loss position was 126 and 544, respectively, at March 31, 2009 and December 31, 2008. The Company has the ability to hold its securities to maturity or to recovery of cost. With the exception of the investment in pooled trust preferred securities discussed above, the Company believes that its securities continue to have satisfactory ratings and are readily marketable. Therefore management does not consider these investments to be other-than-temporarily impaired at March 31, 2009. With regard to the investments in pooled trust preferred securities, the Company has decided to hold these securities as they continue to perform and the Company believes that current market quotes for these securities are not necessarily indicative of their value. As noted above the Company has recognized other-than-temporary impairment charges on two of the pooled trust preferred securities. Management believes that the remaining impairment in the value of these securities to be primarily related to illiquidity in the market and therefore not credit related at March 31, 2009.
4. Goodwill and Other Intangible Assets
In the fourth quarter 2004, the Company acquired A.R. Schmeidler & Co., Inc. in a transaction accounted for as an asset purchase for tax purposes. In connection with this acquisition, the Company recorded customer relationship intangible assets of $2,470 and non-compete provision intangible assets of $516, which have amortization periods of 13 years and 7 years, respectively. Deferred tax benefits have been provided for the tax effect of temporary differences in the amortization periods of these identified intangible assets for book and tax purposes.
Also, at the time of this acquisition, the Company recorded $4,492 of goodwill. In accordance with the terms of the acquisition agreement, the Company may make additional performance-based payments over the five years subsequent to the acquisition. These additional payments would be accounted for as additional purchase price and, as a result, would increase goodwill related to the acquisition. In December 2005, November 2006, November 2007
13
Table of Contents
and December 2008, the Company made the first four of these additional payments in the amounts of $1,572, $3,016, $4,918 and $5,565, respectively. The deferred income tax effects related to temporary differences between the book and tax basis of identified intangible assets and goodwill deductible for tax purposes are included in net deferred tax assets in the Company’s Consolidated Balance Sheets.
On January 1, 2006, the Company acquired NYNB in a tax-free stock purchase transaction. In connection with this acquisition the Company recorded a core deposit premium intangible asset of $3,907 and a related deferred tax liability of $1,805. The core deposit premium has an estimated amortization period of 7 years. Also in connection with this acquisition, the Company recorded $1,528 of goodwill.
The following table sets forth the gross carrying amount and accumulated amortization for each of the Company’s intangible assets subject to amortization as of March 31, 2009 and December 31, 2008.
(000’s) | ||||||||||||||||
March 31, 2009 | December 31, 2008 | |||||||||||||||
Gross | Gross | |||||||||||||||
Carrying | Accumulated | Carrying | Accumulated | |||||||||||||
Amount | Amortization | Amount | Amortization | |||||||||||||
Deposit Premium | $ | 3,907 | $ | 1,814 | $ | 3,907 | $ | 1,674 | ||||||||
Customer Relationships | 2,470 | 855 | 2,470 | 808 | ||||||||||||
Employment Related | 516 | 333 | 516 | 314 | ||||||||||||
Total | $ | 6,893 | $ | 3,002 | $ | 6,893 | $ | 2,796 | ||||||||
Intangible assets amortization expense was $205 for both three month periods ended March 31, 2009 and 2008. The annual intangible assets amortization expense is estimated to be approximately $822 in each of the three years subsequent to December 31, 2008.
Goodwill was $20,933 and $20,942 at March 31, 2009 and December 31, 2008, respectively.
5. Income Taxes
On January 1, 2007, the Company adopted the provisions of Financial Accounting Standards Board (“FASB”) Interpretation No. 48, “Accounting for Uncertainty in Income Taxes” (“FIN 48”). FIN 48 prescribes a recognition threshold and measurement attribute criteria for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. The interpretation also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition.
The Company and its subsidiaries file various income tax returns in the U.S. federal jurisdiction and the New York State and New York City jurisdictions. The Company is currently open to audit under the statute of limitations by the Internal Revenue Service for the years 2005 through 2008. The Company is currently open to audit by New York State under the statute of limitations for the years 2007 and 2008.
The Company has performed an evaluation of its tax positions in accordance with the provisions of FIN 48 and has concluded that as of March 31, 2009, there were no significant uncertain tax positions requiring additional recognition in its financial statements and does not believe that there will be any material changes in its unrecognized tax positions over the next 12 months.
The Company’s policy is to recognize interest and penalties related to unrecognized tax benefits as a component of income tax expense. There were no accruals for interest or penalties during the three months ended March 31, 2009.
14
Table of Contents
6. Earnings Per Share
The following table sets forth the computation of basic and diluted earnings per common share for each of the periods indicated:
Three Months Ended | ||||||||
March 31, | ||||||||
2009 | 2008 | |||||||
(000’s except share data) | ||||||||
Numerator: | ||||||||
Net income available to common shareholders for basic and diluted earnings per share | $ | 6,592 | $ | 8,447 | ||||
Denominator: | ||||||||
Denominator for basic earnings per common share — weighted average shares | 10,648,397 | 10,849,436 | ||||||
Effect of dilutive securities: | ||||||||
Stock options | 257,885 | 441,278 | ||||||
Denominator for diluted earnings per common share — adjusted weighted average shares | 10,906,282 | 11,290,714 | ||||||
Basic earnings per common share | $ | 0.62 | $ | 0.78 | ||||
Diluted earnings per common share | $ | 0.60 | $ | 0.75 | ||||
Dividends declared per share | $ | 0.47 | $ | 0.45 |
In December 2008, the Company declared a 10% stock dividend. Share and per share amounts for 2008 have been retroactively restated to reflect the issuance of the additional shares.
7. Benefit Plans
In addition to defined contribution pension and savings plans which cover substantially all employees, the Company provides additional retirement benefits to certain officers and directors pursuant to unfunded supplemental defined benefit plans. The following table summarizes the components of the net periodic benefit cost of the defined benefit plans (dollars in thousands).
Three Months | ||||||||
Ended | ||||||||
March 31, | ||||||||
2009 | 2008 | |||||||
Service cost | $ | 84 | $ | 102 | ||||
Interest cost | 151 | 144 | ||||||
Amortization of transition obligation | — | 24 | ||||||
Amortization of prior service cost | 11 | 5 | ||||||
Amortization of net loss | 181 | 148 | ||||||
Net periodic benefit cost | $ | 427 | $ | 423 | ||||
The Company makes contributions to the unfunded defined benefit plans only as benefit payments become due. The Company disclosed in its 2008 Annual Report onForm 10-K that it expected to contribute $611 to the unfunded defined benefit plans during 2009. For the three month period ended March 31, 2009, the Company contributed $153 to these plans.
8. | Stock-Based Compensation |
The Company has stock option plans that provide for the granting of options to directors, officers, eligible employees, and certain advisors, based upon eligibility as determined by the Compensation Committee. Options are granted for the purchase of shares of the Company’s common stock at an exercise price not less than the market value of the stock on the date of grant. Stock options under the Company’s plans vest over various periods. Vesting
15
Table of Contents
periods range from immediate to five years from date of grant. Options expire up to ten years from the date of grant. The Company anticipates that more than 75% of options granted will vest. In accordance with the provisions of SFAS No. 123R, “Share-Based Payment” (“SFAS 123R”), compensation cost relating to share-based payment transactions is recognized in the financial statements with measurement based upon the fair value of the equity or liability instruments issued. Stock options are expensed over their respective vesting periods.
The following table summarizes stock option activity for the three month period ended March 31, 2009:
Weighted | ||||||||||||||||
Weighted | Aggregate | Average | ||||||||||||||
Average | Intrinsic | Remaining | ||||||||||||||
Exercise | Value(1) | Contractual | ||||||||||||||
Shares | Price | ($000’s) | Term(Yrs.) | |||||||||||||
Outstanding at December 31, 2008 | 698,612 | $ | 27.54 | |||||||||||||
Granted | — | — | ||||||||||||||
Exercised | (8,905 | ) | 47.29 | |||||||||||||
Forfeited or Expired | (336 | ) | 26.51 | |||||||||||||
Outstanding at March 31, 2009 | 689,371 | 27.55 | $ | 9,275 | 4.6 | |||||||||||
Exercisable at March 31, 2009 | 542,468 | 24.99 | $ | 8,687 | 4.5 | |||||||||||
Available for future grant | 959,579 |
(1) | The aggregate intrinsic value of a stock option in the table above represents the total pre-tax intrinsic value (the amount by which the current market value of the underlying stock exceeds the exercise price of the option) that would have been received by the option holders had all option holders exercised their options on March 31, 2009. This amount changes based on changes in the market value of the Company’s stock. |
The fair value (present value of the estimated future benefit to the option holder) of each option grant is estimated on the date of grant using the Black-Scholes option pricing model. There were no options granted during the three month period ended March 31, 2009. The following table illustrates the assumptions used in the valuation model for activity during the three month period ended March 31, 2008.
Three months | ||||||||
ended | ||||||||
March 31, | ||||||||
2009 | 2008 | |||||||
Weighted average assumptions: | ||||||||
Dividend yield | — | 3.6 | % | |||||
Expected volatility | — | 30.9 | % | |||||
Risk-free interest rate | — | 3.8 | % | |||||
Expected lives (years) | — | 7.0 |
The expected volatility is based on historical volatility. The risk-free interest rates for periods within the contractual life of the awards are based on the U.S. Treasury yield curve in effect at the time of the grant. The expected life is based on historical exercise experience.
The weighted average fair values of options granted during the three month period ended March 31, 2008 was $11.61 per share. Net compensation expense of $66 and $218 related to the Company’s stock option plans was included in net income for the three month periods ended March 31, 2009 and 2008, respectively. The total tax benefit related thereto was $3 and $3 for the three month periods ended March 31, 2009 and 2008, respectively. Unrecognized compensation expense related to non-vested share-based compensation granted under the Company’s stock option plans totaled $710 at March 31, 2009. This expense is expected to be recognized over a weighted-average period of 2.0 years.
9. | Fair Value |
Effective January 1, 2008, the Company adopted SFAS No. 157 “Fair Value Measurements”, (“SFAS No. 157”), which requires additional disclosures about the Company’s assets and liabilities that are
16
Table of Contents
measured at fair value. As discussed in Note 9 below, SFAS No. 157 establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value:
Level 1: Quoted prices (unadjusted) for identical assets or liabilities in active markets that the entity has the ability to access as of the measurement date.
Level 2: Significant other observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.
Level 3: Significant unobservable inputs that reflect a reporting entity’s own assumptions about the assumptions that market participants would use in pricing and asset or liability.
A description of the valuation methodologies used for assets and liabilities measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy, is set forth below. While management believes the Company’s valuation methodologies are appropriate and consistent with other financial institutions, the use of different methodologies or assumptions to determine the fair value of certain financial instruments could result in a different estimate of fair value at the reporting date.
The fair values of securities available for sale are determined by obtaining quoted prices on nationally recognized securities exchanges, which is a Level 1 input, or matrix pricing, which is a mathematical technique widely used to in the industry to value debt securities without relying exclusively on quoted prices for the specific securities but rather by relying on the securities’ relationship to other benchmark quoted securities, which is a Level 2 input.
The Company’s available for sale securities at March 31, 2009 and December 31, 2008 include several pooled trust preferred instruments. The recent severe downturn in the overall economy and, in particular, in the financial services industry has created a situation where significant observable input (Level 2) are not readily available. As an alternative, the Company combined Level 2 input of market yield requirements of similar instruments together with certain Level 3 assumptions addressing the impact of current market illiquidity to estimate the fair value of these instruments.
Assets and liabilities measured at fair value at March 31, 2009 and December 31, 2008 are summarized below:
Fair Value Measurements at March 31, 2009 Using | ||||||||||||||||
(000’s) | ||||||||||||||||
Quoted Prices in | Significant | Significant | ||||||||||||||
Active Markets | Other | Unobservable | Total | |||||||||||||
for Identical | Observable Inputs | Inputs | March 31, | |||||||||||||
Assets (Level 1) | (Level 2) | (Level 3) | 2009 | |||||||||||||
Measured on a recurring basis: | ||||||||||||||||
Available for sale securities | — | $ | 594,126 | $ | 7,422 | $ | 601,548 | |||||||||
Measured on a non-recurring basis: | ||||||||||||||||
Impaired loans(1) | — | — | $ | 9,351 | $ | 9,351 | ||||||||||
Other Real Estate Owned(2) | — | — | 5,455 | 5,455 |
17
Table of Contents
Fair Value Measurements at December 31, 2008 | ||||||||||||||||
(000’s) | ||||||||||||||||
Quoted Prices in | Significant | Significant | ||||||||||||||
Active Markets | Other | Unobservable | Total | |||||||||||||
for Identical | Observable Inputs | Inputs | December 31, | |||||||||||||
Assets (Level 1) | (Level 2) | (Level 3) | 2008 | |||||||||||||
Measured on a recurring basis: | ||||||||||||||||
Available for sale securities | — | $ | 631,577 | $ | 10,786 | $ | 642,363 | |||||||||
Measured on a non-recurring basis: | ||||||||||||||||
Impaired loans(1) | — | — | $ | 11,284 | $ | 11,284 |
(1) | Impaired loans are reported at the fair value of the underlying collateral if repayment is expected solely from the collateral. Collateral values are estimated using Level 2 and Level 3 inputs which include independent appraisals and internally customized discounting criteria. The recorded investment in impaired loans on March 31, 2009 was $9.4 million for which a specific allowance of $0.4 has been established within the allowance for loan losses. The recorded investment in impaired loans was $11.3 million on December 31, 2008 for which no specific allowance had been established within the allowance for loan losses. | |
(2) | Other real estate owned is reported at fair value less anticipated costs to sell. Fair value is based on third party or internally developed appraisals which, considering the assumptions in the valuation, are considered Level 2 or Level 3 inputs. |
The table below presents a reconciliation and income statement classification of gains and losses for securities available for sale measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the three month periods ended March 31, 2009 and 2008:
Level 3 Assets | ||||
Measured on a | ||||
Recurring Basis | ||||
(000’s) | ||||
Beginning balance as of January 1, 2009 | $ | 10,786 | ||
Transfers into (out of) Level 3 | — | |||
Total unrealized loss included in comprehensive income(1) | (1,927 | ) | ||
Principal payments | — | |||
Total realized loss included in the statement of income(2) | (1,437 | ) | ||
Balance as of March 31, 2009 | $ | 7,422 | ||
Level 3 Assets | ||||
Measured on a | ||||
Recurring Basis | ||||
(000’s) | ||||
Beginning balance as of January 1, 2008 | — | |||
Transfers into (out of) Level 3 | $ | 18,309 | ||
Balance as of March 31, 2008 | $ | 18,309 | ||
(1) | Reported under “Unrealized gain on securities available for sale arising during the period”. | |
(2) | Reported under “Realized (loss) on securities available for sale, net”. |
10. | Fair Value of Financial Instruments |
SFAS No. 107, “Disclosures About Fair Value of Financial Instruments,” requires the disclosure of the estimated fair value of certain financial instruments. These estimated fair values as of March 31, 2009 and December 31, 2008 have been determined using available market information and appropriate valuation methodologies. Considerable judgment is required to interpret market data to develop estimates of fair value. The estimates presented are not necessarily indicative of amounts the Company could realize in a current market
18
Table of Contents
exchange. The use of alternative market assumptions and estimation methodologies could have had a material effect on these estimates of fair value.
Carrying amount and estimated fair value of financial instruments, not previously presented, at March 31, 2009 and December 31, 2008 were as follows:
March 31, 2009 | December 31, 2008 | |||||||||||||||
Carrying | Estimated | Carrying | Estimated | |||||||||||||
Amount | Fair Value | Amount | Fair Value | |||||||||||||
(In millions) | ||||||||||||||||
Assets: | ||||||||||||||||
Financial assets for which carrying value approximates fair value | $ | 74.5 | $ | 74.5 | $ | 52.1 | $ | 52.1 | ||||||||
Held to maturity securities, FHLB stock and accrued interest | 43.1 | 44.1 | 49.6 | 50.1 | ||||||||||||
Loans and accrued interest | 1,722.2 | 1,732.3 | 1,698.4 | 1,700.7 | ||||||||||||
Liabilities: | ||||||||||||||||
Deposits with no stated maturity and accrued interest | 1,737.7 | 1,737.7 | 1,547.4 | 1,547.4 | ||||||||||||
Time deposits and accrued interest | 326.0 | 326.6 | 295.7 | 294.8 | ||||||||||||
Securities sold under repurchase agreements and other short-term borrowings and accrued interest | 60.6 | 60.6 | 269.6 | 269.6 | ||||||||||||
Other borrowings and accrued interest | 196.3 | 186.7 | 197.7 | 186.1 | ||||||||||||
Financial liabilities for which carrying value approximates fair value | — | — | — | — |
The estimated fair value of the indicated items was determined as follows:
Financial assets for which carrying value approximates fair value — The estimated fair value approximates carrying amount because of the immediate availability of these funds or based on the short maturities and current rates for similar deposits. Cash and due from banks as well as Federal funds sold are reported in this line item.
Held to maturity securities, FHLB stock and accrued interest — The fair value was estimated based on quoted market prices or dealer quotations. FHLB stock and accrued interest are stated at their carrying amounts which approximates fair value.
Loans and accrued interest — The fair value of loans was estimated by discounting projected cash flows at the reporting date using current rates for similar loans. Accrued interest is stated at its carrying amount which approximates fair value.
Deposits with no stated maturity and accrued interest — The estimated fair value of deposits with no stated maturity and accrued interest, as applicable, are considered to be equal to their carrying amounts.
Time deposits and accrued interest — The fair value of time deposits has been estimated by discounting projected cash flows at the reporting date using current rates for similar deposits. Accrued interest is stated at its carrying amount which approximates fair value.
Securities sold under repurchase agreements and other short-term borrowings and accrued interest— The estimated fair value of these instruments approximate carrying amount because of their short maturities and variable rates. Accrued interest is stated at its carrying amount which approximates fair value.
Other borrowings and accrued interest — The fair value of callable FHLB advances was estimated by discounting projected cash flows at the reporting date using the rate applicable to the projected call date option. Accrued interest is stated at its carrying amount which approximates fair value.
11. Recent Accounting Pronouncements
Fair Value Measurements — In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements” (“SFAS No. 157”). SFAS No. 157 defines fair value, provides a framework for measuring the fair value of assets and
19
Table of Contents
liabilities and requires additional disclosure about fair value measurement. SFAS No. 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. In February 2008, the FASB issued Staff Position (“FSP”)157-2, “Effective Date of FASB Statement No. 157.” This FSP delays the effective date of FAS No. 157 for all nonfinancial assets and nonfinancial liabilities, except those that are recognized or disclosed at fair value on a recurring basis (at least annually) to fiscal years beginning after November 15, 2008, and interim periods within those fiscal years. The adoption of SFAS No. 157 by the Company on January 1, 2008 did not have any impact on its consolidated results of operations and financial condition.
In October 2008, the FASB issued FSPNo. 157-3 (“FSPNo. 157-3”), “Determining the Fair Value of a Financial Asset When the Market for That Asset is Not Active.” FSPNo. 157-3 clarifies the application of SFAS No. 157 in a market that is not active and provides an example to illustrate key considerations in determining fair value of financial assets when the market for that financial asset is not active. FSPNo. 157-3 applies to financial assets within the scope of accounting pronouncements that require or permit fair value measurements in accordance with SFAS No. 157. FSPNo. 157-3 was effective upon issuance and included prior periods for which financial statements had not been issued. The application of FSPNo. 157-3 did not have a material impact on the Company’s consolidated results of operations and financial condition.
In April 2009, the FASB issued FSPNo. 157-4 (“FSPNo. 157-4”) “Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That are Not Orderly” to provide guidance for determining fair value when there is no active market or where price inputs represent distressed sales. It reaffirms the fair value measurement objective of FAS No. 157 to reflect how much an asset would be sold for in an orderly transaction under current market conditions. FSPNo. 157-4 is effective for interim and annual periods ending after June 15, 2009. Early adoption for interim and annual periods ending after March 15, 2009 is permitted. The early adoption of FSPNo. 157-4 by the Company did not have a material impact on the Company’s consolidated results of operations and financial condition.
In April 2009, the FASB issued FSPNo. 115-2 &124-2 “Recognition and Presentation of Other-Than Temporary Impairments: (“FSPNo. 115-2”).FSPNo. 115-2 eliminates the requirement for the issuer to evaluate whether it has the intent and ability to hold an impaired investment until maturity. Conversely, FSPNo. 115-2 requires the issuer to recognize an other-than-temporary-impairment (“OTTI”) in the event that the issuer intends to sell the impaired security or in the event that it is more likely than not that the issuer will sell the security prior to recovery. In the event that the sale of the security in question prior to its maturity is not probable but the entity does not expect to recover its amortized cost basis in that security, then the entity will be required to recognize an OTTI. In the event that the recovery of the security’s cost basis prior to maturity is not probable and an OTTI is recognized, FSPNo. 115-2 provides that any component of the OTTI relating to a decline in the creditworthiness of the debtor should be reflected in earnings, with the remainder being recognized in Other Comprehensive Income. Conversely, in the event that the issuer determines that sale of the security in question prior to recovery is probable, then the entire OTTI will be recognized in earnings. FSPNo. 115-2 is effective for interim and annual reporting periods ending after June 15, 2009. Early adoption for interim and annual periods ending after March 15, 2009 is permitted. The early adoption of FSPNo. 115-2 by the Company did not have a material impact on the Company’s consolidated results of operations and financial condition.
In April 2009, the FASB issued FSPNo. 107-1 and APB No28-1, “Interim Disclosures about Fair Value of Financial Instruments” (“FSPNo. 107-1”). FSPNo. 107-1 enhances consistency in financial reporting by increasing the frequency of fair value disclosures for any financial instruments that are not currently reflected on the balance sheet at fair value. Previously, these disclosures were only required in annual financial statements.FAS No. 107-1 requires disclosures in interim financial statements that provide qualitative and quantitative information about fair value estimates. FSPNo. 107-1 is effective for interim and annual periods ending after June 15, 2009. Early adoption for interim and annual periods ending after March 15, 2009 is permitted. The early adoption of FSP No. 107-1 by the Company did not have a material impact on the Company’s consolidated results of operations and financial condition.
In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities” (“SFAS No. 159”). SFAS No. 159 provides entities with an option to report certain financial assets and liabilities at fair value, with changes in fair value reported in earnings, and requires additional disclosures related to an entity’s election to use fair value reporting. It also requires entities to display the fair value of those assets and liabilities for which the entity has elected to use fair value on the face of the balance sheet. SFAS No. 159 is effective
20
Table of Contents
for fiscal years beginning after November 15, 2007. The Company did not elect the fair value option for any financial assets or financial liabilities as of January 1, 2008, the effective date of the standard.
Other —Certain 2008 amounts have been reclassified to conform to the 2009 presentation.
12. | Financial Crisis and Recent Regulatory Actions |
In response to the current financial crisis affecting the banking system and financial markets, the Emergency Economic Stabilization Act of 2008 (“EESA”) was signed into law on October 3, 2008. This law established the Troubled Asset Relief Program (“TARP”). As part of TARP, the Treasury established the Capital Purchase Program (“CPP”) to provide up to $700 billion of funding to eligible financial institutions through the purchase of capital Stock and other financial instruments for the purpose of stabilizing and providing liquidity to the U.S. financial markets. After carefully reviewing and analyzing the terms and conditions of the CPP, the Board of Directors and management of the Company believed that, given it’s present financial condition, participation in the CPP was unnecessary and not in the best interests of the Company, it’s customers or shareholders.
On November 21, 2008 the FDIC adopted the final rule relating to the Temporary Liquidity Guarantee Program (“TLG Program”) which is also a part of EESA. Under the TLG program the FDIC will (1) guarantee certain newly issued senior unsecured debt and (2) provide full FDIC deposit insurance coverage for non-interest bearing transaction accounts, NOW accounts paying less than 0.5 percent interest per annum and Interest on Lawyers Trust Accounts held at participating FDIC insured institutions through December 31, 2009. The Company has elected to participate in both guarantee programs.
21
Table of Contents
Item 2. | Management’s Discussion and Analysis of Financial Condition and Results of Operations |
This section presents discussion and analysis of the Company’s consolidated financial condition at March 31, 2009 and December 31, 2008, and consolidated results of operations for the three month periods ended March 31, 2009 and March 31, 2008. The Company is consolidated with its wholly-owned subsidiaries, Hudson Valley Bank, NA and its subsidiaries, Grassy Sprain Real Estate Holdings, Inc., Sprain Brook Realty Corp., HVB Leasing Corp., HVB Employment Corp., HVB Realty Corp. and A.R. Schmeidler & Co., Inc. (collectively “HVB”), and New York National Bank and its subsidiaries 369 East 149th Street Corp and 369 East Realty Corp. (collectively “NYNB”). This discussion and analysis should be read in conjunction with the financial statements and supplementary financial information contained in the Company’s 2008 Annual Report onForm 10-K.
Overview of Management’s Discussion and Analysis
This overview is intended to highlight selected information included in this Quarterly Report onForm 10-Q. It does not contain sufficient information for a complete understanding of the Company’s financial condition and operating results and, therefore, should be read in conjunction with this entire Quarterly Report onForm 10-Q and the Company’s 2008 Annual Report onForm 10-K.
The Company derives substantially all of its revenue from providing banking and related services to businesses, professionals, municipalities, not-for profit organizations and individuals within its market area, primarily Westchester County and Rockland County, New York, portions of New York City and Fairfield County, Connecticut. The Company’s assets consist primarily of loans and investment securities, which are funded by deposits, borrowings and capital. The primary source of revenue is net interest income, the difference between interest income on loans and investments, and interest expense on deposits and borrowed funds. The Company’s basic strategy is to grow net interest income and non interest income by the retention of its existing customer base and the expansion of its core businesses and branch offices within its current market and surrounding areas. Considering current economic conditions, the Company’s primary market risk exposures are interest rate risk, the risk of deterioration of market values of collateral supporting the Company’s loan portfolio, particularly commercial and residential real estate and potential risks associated with the impact of regulatory changes that may take place in reaction to the current crisis in the financial system. Interest rate risk is the exposure of net interest income to changes in interest rates. Commercial and residential real estate are the primary collateral for the majority of the Company’s loans.
The year 2008 marked the beginning of an extremely difficult period for the overall economy in general and for the financial services industry in particular. This wide ranging economic downturn, which has had extremely negative effects on all financial sectors both domestic and foreign, has continued into 2009. During 2008 we witnessed the financial collapse of several financial institutions including the country’s largest savings bank and two large Wall Street investment banking firms. In addition, the U.S. Congress has enacted unprecedented financial assistance legislation in an attempt to shore up the financial markets and provide needed credit to a faltering economy. Perhaps the most severe impact of this downturn has been felt by the real estate industry, which is a major source of both the deposit and loan businesses of the Company. The Company experienced a general decline in average deposit balances of customers in all sectors of the real estate industry as activity has been severely curtailed as a result of the current economic downturn. In addition, the Company has experienced sharp declines in the value of real estate collateral supporting the majority of its loans, and the continued lack of a liquid market for a small part of its investment portfolio. The effects of these conditions have continued, and in some cases worsened during the first quarter of 2009 as unemployment has continued to rise and real estate values have continued to decline. Despite these conditions, the Company was able to effectively offset the decline in average deposit balances of certain existing customers with new deposit activity, while continuing to provide lending availability to its customers. Management expects that the Company will experience continued pressure from these adverse conditions throughout 2009 and beyond.
Net income for the three month period ended March 31, 2009 was $6.6 million or $0.60 per diluted share, a decrease of $1.8 million or 21.4 percent compared to $8.4 million or $0.75 per diluted share in three month period ended March 31, 2008. The decline in net income resulted primarily from a significantly higher provision for loan
22
Table of Contents
losses in 2009, a higher adjustment for other-than-temporary impairment of investments, higher noninterest expense and lower noninterest income, partially offset by higher net interest income and lower income taxes.
Total deposits increased $220.3 million during the three month period ended March 31, 2009. Approximately $30.0 million of this growth resulted in an increase in the Company’s utilization of brokered certificates of deposit and approximately $75.0 million of this growth resulted from the transfer of certain money market mutual fund investments of existing customers to interest bearing demand deposits. This transfer was primarily due to the recent increase in FDIC insurance coverage of certain deposit products which was part of the legislation enacted in response to the current economic crisis. In addition to the above mentioned deposit growth, the Company also experienced significant growth in new customers both in existing branches and new branches added during 2008. This growth was partially offset by some declines in balances of existing customers, primarily those customers directly involved in or supported by the real estate industry. Proceeds from deposit growth were used primarily to reduce short term borrowings and to fund loan growth.
Total loans grew slightly during the three month period ended March 31, 2009 as the Company continued to provide lending availability to new and existing customers. This growth, however, was accompanied by a continued slowdown in payments of certain loans, such as construction loans, whose repayment is often dependent on sales of completed real estate projects which have been adversely impacted by the severe economic conditions currently affecting the real estate markets.
The Company’s noninterest income decreased in 2009, primarily as a result of decreases in investment advisory fees of its subsidiary A.R. Schmeidler & Co., Inc., a registered investment advisory firm located in Manhattan, New York. Fee income from this source began to decline in the fourth quarter of 2008 and is expected to continue to decline, at least in the near term, as a result of the effects of significant declines in both domestic and international markets. At March 31, 2009, A.R. Schmeidler & Co., Inc. had approximately $1.0 billion of assets under management compared to approximately $1.4 billion at March 31, 2008.
Nonperforming assets increased dramatically during the first quarter of 2009 as overall asset quality continues to be adversely affected by the current state of the economy. During the three month period ended March 31, 2009, the Company has experienced a continuation of the slowdowns in repayments and declines in the loan-to-value ratios on existing loans which began in the second half of 2008. However, as a result of the Company’s conservative underwriting and investment standards both before and during the current economic crisis, the Company’s overall asset quality continues to be satisfactory. The Company does not originate loans similar to payment option loans or loans that allow for negative interest amortization. The Company does not engage in sub-prime lending nor does it offer loans with low “teaser” rates or high loan-to-value ratios to sub-prime borrowers. At March 31, 2009, the Company had no sub-prime loans in its portfolio. In addition, the Company has not invested in mortgage-backed securities secured by sub-prime loans. These conservative practices somewhat protected the Company from the immediate effects of the early stages of the current financial crisis. However, the severity of the economic downturn has since extended well beyond the sub-prime lending issue, and has resulted in declines in the demand for and values of virtually all commercial and residential real estate properties. These declines, together with the present shortage of available residential mortgage financing, have put downward pressure on the overall asset quality of virtually all financial institutions, including the Company. Continuation or worsening of such conditions could have additional significant adverse effects on asset quality in the future.
The 500 basis point reduction of short-term interest rates from September 2007 through December 2008 has resulted in a steeper yield curve by late 2008 and into the first quarter of 2009. However, with interest rates at historical low levels, availability of long-term financing at interest rates attractive to the Company has been limited. This has resulted in many financial institutions including the Company replacing maturing long-term borrowings with short-term debt. While replacing long-term borrowings with lower cost short-term debt may have a positive impact on net interest income in the near term, this condition presents additional challenges in the ongoing management of interest rate risk to the extent that these borrowings are utilized to fund longer term assets at fixed rates.
As a result of the effects of interest rates, growth in the Company’s loan and deposit portfolios and other asset/liability management activities, tax equivalent basis net interest income increased by $2.4 million or 8.9 percent to $29.5 million for the three month period ended March 31, 2009, compared to $27.1 million for the same period in the prior year. The effect of the adjustment to a tax equivalent basis was $1.2 million in 2009 and $1.2 million in 2008.
23
Table of Contents
Non interest income, excluding securities net gains and losses, was $4.1 million for the three month period ended March 31, 2009, a decrease of $0.7 million or 14.6 percent compared to $4.8 million for the same period in the prior year. The decrease was primarily due to a $0.8 million reduction in the investment advisory fees of A.R. Schmeidler & Co., Inc., partially offset by increased income from bank owned life insurance and higher deposit activity and other service fees. Investment advisory fee income is expected to decline at least in the near term, due to the current difficulties in the global financial markets. Non interest income also included recognized pre-tax impairment charges on securities available for sale of $1.4 million and $0.5 million, respectively for the three month periods ended March 31, 2009 and 2008. The 2009 loss was related to the Company’s investment in a pooled trust preferred security. The 2008 loss related to the Company’s investment in a mutual fund which was subsequently sold in April 2008 without additional loss. The Company has decided to hold its investments in pooled trust preferred securities as it does not believe that the current market quotes for these investments are indicative of their value.
Non interest expense was $18.4 million for the three month period ended March 31, 2009, an increase of $1.4 million or 8.2 percent compared to $17.0 million for the same period in the prior year. The increase reflects the Company’s continued investment in its branch offices, technology and personnel to accommodate growth in loans and deposits, the expansion of services and products available to new and existing customers and the upgrading of certain internal processes. The increase also reflects a significant increase in FDIC deposit premiums. These additional premiums were imposed by the FDIC to replenish shortfalls in the FDIC Insurance Fund which has resulted from the current economic crisis. Additional significant premium increases are expected for the remainder of 2009.
The Company uses a simulation analysis to estimate the effect that specific movements in interest rates would have on net interest income. Excluding the effects of planned growth and anticipated new business, the simulation analysis at March 31, 2009 reflects moderate near term interest rate risk with the Company’s net interest income decreasing slightly if rates fall and increasing slightly if rates rise.
The Company has established specific policies and operating procedures governing its liquidity levels to address future liquidity needs, including contingent sources of liquidity. While the current adverse economic situation has put pressure on the availability of liquidity in the marketplace, the Company believes that its present liquidity and borrowing capacity are sufficient for its current business needs. In addition, the Company, HVB and NYNB are subject to various regulatory capital guidelines. To be considered “well capitalized,” an institution must generally have a leverage ratio of at least 5 percent, a Tier 1 ratio of 6 percent and a total capital ratio of 10 percent. The Company, HVB and NYNB each exceeded all current regulatory capital requirements to be considered in the “well-capitalized” category at March 31, 2009. Management plans to conduct the affairs of the Company and its subsidiary banks so as to maintain a strong capital position in the future.
In response to the current financial crisis affecting the banking system and financial markets, the Emergency Economic Stabilization Act of 2008 (“EESA”) was signed into law on October 3, 2008. This law established the Troubled Asset Relief Program (“TARP”). As part of TARP, the Treasury established the Capital Purchase Program (“CPP”) to provide up to $700 billion of funding to eligible financial institutions through the purchase of capital stock and other financial instruments for the purpose of stabilizing and providing liquidity to the U.S. financial markets. After carefully reviewing and analyzing the terms and conditions of the CPP, the Board of Directors and management of the Company believed that, given it’s present financial condition, participation in the CPP was unnecessary and not in the best interests of the Company, it’s customers or shareholders.
On November 21, 2008 the FDIC adopted the final rule relating to the Temporary Liquidity Guarantee Program (“TLG Program”) which is also a part of EESA. Under the TLG program the FDIC will (1) guarantee certain newly issued senior unsecured debt and (2) provide full FDIC deposit insurance coverage for non-interest bearing transaction accounts, NOW accounts paying less than 0.5 percent interest per annum and Interest on Lawyers Trust Accounts held at participating FDIC insured institutions through December 31, 2009. The Company has elected to participate in both guarantee programs.
Critical Accounting Policies
Allowance for Loan Losses —The Company maintains an allowance for loan losses to absorb probable losses incurred in the loan portfolio based on ongoing quarterly assessments of the estimated losses. The Company’s
24
Table of Contents
methodology for assessing the appropriateness of the allowance consists of a specific component for identified problem loans, and a formula component which addresses historical loan loss experience together with other relevant risk factors affecting the portfolio.
The specific component incorporates the results of measuring impaired loans as provided in SFAS No. 114, “Accounting by Creditors for Impairment of a Loan,” and SFAS No. 118, “Accounting by Creditors for Impairment of a Loan-Income Recognition and Disclosures.” These accounting standards prescribe the measurement methods, income recognition and disclosures related to impaired loans. A loan is recognized as impaired when it is probable that principaland/or interest are not collectible in accordance with the loan’s contractual terms. A loan is not deemed to be impaired if there is a short delay in receipt of payment or if, during a longer period of delay, the Company expects to collect all amounts due including interest accrued at the contractual rate during the period of delay. Measurement of impairment can be based on the present value of expected future cash flows discounted at the loan’s effective interest rate, the loan’s observable market price or the fair value of the collateral, if the loan is collateral dependent. This evaluation is inherently subjective as it requires material estimates that may be susceptible to significant change. If the fair value of the impaired loan is less than the related recorded amount, a specific valuation component is established within the allowance for loan losses or a writedown is charged against the allowance for loan losses if the impairment is considered to be permanent. Measurement of impairment does not apply to large groups of smaller balance homogenous loans that are collectively evaluated for impairment such as the Company’s portfolios of home equity loans, real estate mortgages, installment and other loans.
The formula component is calculated by first applying historical loss experience factors to outstanding loans by type. This component is then adjusted to reflect additional risk factors not addressed by historical loss experience. These factors include the evaluation of then-existing economic and business conditions affecting the key lending areas of the Company and other conditions, such as new loan products, credit quality trends (including trends in nonperforming loans expected to result from existing conditions), collateral values, loan volumes and concentrations, specific industry conditions within portfolio segments that existed as of the balance sheet date and the impact that such conditions were believed to have had on the collectibility of the loan portfolio. Senior management reviews these conditions quarterly. Management’s evaluation of the loss related to each of these conditions is quantified by loan type and reflected in the formula component. The evaluations of the inherent loss with respect to these conditions is subject to a higher degree of uncertainty due to the subjective nature of such evaluations and because they are not identified with specific problem credits.
Actual losses can vary significantly from the estimated amounts. The Company’s methodology permits adjustments to the allowance in the event that, in management’s judgment, significant factors which affect the collectibility of the loan portfolio as of the evaluation date have changed.
Management believes the allowance for loan losses is the best estimate of probable losses which have been incurred as of March 31, 2009. There is no assurance that the Company will not be required to make future adjustments to the allowance in response to changing economic conditions, particularly in the Company’s service area, since the majority of the Company’s loans are collateralized by real estate. 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 judgments at the time of their examinations.
Income Recognition on Loans —Interest on loans is accrued monthly. Net loan origination and commitment fees are deferred and recognized as an adjustment of yield over the lives of the related loans. Loans, including impaired loans, are placed on a non-accrual status when management believes that interest or principal on such loans may not be collected in the normal course of business. When a loan is placed on non-accrual status, all interest previously accrued, but not collected, is reversed against interest income. Interest received on non-accrual loans generally is either applied against principal or reported as interest income, in accordance with management’s judgment as to the collectibility of principal. Loans can be returned to accruing status when they become current as to principal and interest, demonstrate a period of performance under the contractual terms, and when, in management’s opinion, they are estimated to be fully collectible.
Securities —Securities are classified as either available for sale, representing securities the Company may sell in the ordinary course of business, or as held to maturity, representing securities the Company has the ability and
25
Table of Contents
positive intent to hold until maturity. Securities available for sale are reported at fair value with unrealized gains and losses (net of tax) excluded from operations and reported in other comprehensive income. Securities held to maturity are stated at amortized cost. Interest income includes amortization of purchase premium and accretion of purchase discount. The amortization of premiums and accretion of discounts is determined by using the level yield method. Securities are not acquired for purposes of engaging in trading activities. Realized gains and losses from sales of securities are determined using the specific identification method. The Company regularly reviews declines in the fair value of securities below their costs for purposes of determining whether such declines are other-than-temporary in nature. In estimating other-than-temporary losses, management considers adverse changes in expected cash flows, the length of time and extent that fair value has been less than cost, the financial condition and near term prospects of the issuer, and the Company’s ability and intent to hold the security for a period sufficient to allow for any anticipated recovery in fair value. If the Company determines that a decline in the fair value of a security below cost is other-than-temporary, the carrying amount of the security is reduced by any portion of the decline deemed to be credit related, with the corresponding decline charged to earnings. The carrying amount of the security is also reduced by any additional impairment deemed to be non credit related, with the corresponding decline charged to other comprehensive income.
Goodwill and Other Intangible Assets — In accordance with the provisions of SFAS No. 142, “Goodwill and Other Intangible Assets,” goodwill and identified intangible assets with indefinite useful lives are not subject to amortization. Identified intangible assets that have finite useful lives are amortized over those lives by a method which reflects the pattern in which the economic benefits of the intangible asset are used up. All goodwill and identified intangible assets are subject to impairment testing on an annual basis, or more often if events or circumstances indicate that impairment may exist. If such testing indicates impairment in the valuesand/or remaining amortization periods of the intangible assets, adjustments are made to reflect such impairment. The Company’s impairment evaluations as of March 31, 2009 and December 31, 2008 did not indicate impairment of its goodwill or identified intangible assets.
Results of Operations for the Three Month Periods Ended March 31, 2009 and March 31, 2008
Summary of Results
The Company reported net income of $6.6 million for the three month period ended March 31, 2009, a decrease of $1.8 million or 21.4 percent compared to $8.4 million for the same period in the prior year. The decrease in net income in the current year period, compared to the prior year period, reflected a significantly higher provision for loan losses, higher noninterest expense, higher recognized impairment charges on securities available for sale and lower noninterest income, partially offset by higher net interest income and lower income taxes. Recognized impairment charges on securities available for sale totaled of $1.4 million and $0.5 million, respectively, for the three month periods ended March 31, 2009 and 2008. The 2009 loss was related to the Company’s investment in a pooled trust preferred security. The 2008 loss related to the Company’s investment in a mutual fund which was subsequently sold in April 2008 without additional loss.
Diluted earnings per share were $0.60 for the three month period ended March 31, 2009, a decrease of $0.15 or 20.0 percent compared to $0.75 for the same period in the prior year. This decrease is a direct result of the changes in net income in the current year period compared to the prior year period. Prior period per share amounts have been adjusted to reflect the 10 percent stock dividend distributed in December 2008. Annualized returns on average stockholders’ equity and average assets were 13.1 percent and 1.0 percent for the three month period ended March 31, 2009, compared to 16.2 percent and 1.5 percent for the same period in the prior year. Annualized returns on adjusted average stockholders’ equity were 13.0 percent for the three month period ended March 31, 2009, compared to 16.3 percent for the same period in the prior year. Adjusted average stockholders’ equity excludes the effects of net unrealized losses, net of tax, on securities available for sale of $1.4 million for the three month period ended March 31, 2009 and net unrealized gains, net of tax, of $0.5 million for the same period in the prior year. The annualized return on adjusted average stockholders’ equity is, under SEC regulations, a non-GAAP financial measure. Management believes that this non-GAAP financial measures more closely reflects actual performance, as it is more consistent with the Company’s stated asset/liability management strategies, which have not resulted in significant realization of temporary market gains or losses on securities available for sale which were primarily related to changes in interest rates.
26
Table of Contents
Average Balances and Interest Rates
The following table sets forth the average balances of interest earning assets and interest bearing liabilities for the three month periods ended March 31, 2009 and March 31, 2008, as well as total interest and corresponding yields and rates. The data contained in the table has been adjusted to a tax equivalent basis, based on the federal statutory rate of 35 percent in 2009 and 2008.
Three Months Ended | Three Months Ended | |||||||||||||||||||||||
March 31, 2009 | March 31, 2008 | |||||||||||||||||||||||
Average | Yield/ | Average | Yield/ | |||||||||||||||||||||
Balance | Interest(3) | Rate | Balance | Interest(3) | Rate | |||||||||||||||||||
(000’s except percentages) | (000’s except percentages) | |||||||||||||||||||||||
ASSETS | ||||||||||||||||||||||||
Interest earning assets: | ||||||||||||||||||||||||
Deposits in banks | $ | 7,893 | $ | 5 | 0.25 | % | $ | 5,633 | $ | 46 | 3.27 | % | ||||||||||||
Federal funds sold | 5,606 | 10 | 0.71 | 67,114 | 627 | 3.74 | ||||||||||||||||||
Securities:(1) | ||||||||||||||||||||||||
Taxable | 474,535 | 5,447 | 4.59 | 560,541 | 6,882 | 4.91 | ||||||||||||||||||
Exempt from federal income taxes | 204,462 | 3,318 | 6.49 | 214,470 | 3,452 | 6.44 | ||||||||||||||||||
Loans, net(2) | 1,696,565 | 27,017 | 6.37 | 1,321,788 | 25,302 | 7.66 | ||||||||||||||||||
Total interest earning assets | 2,389,061 | 35,797 | 5.99 | 2,169,546 | 36,309 | 6.69 | ||||||||||||||||||
Non interest earning assets: | ||||||||||||||||||||||||
Cash and due from banks | 41,449 | 46,949 | ||||||||||||||||||||||
Other assets | 115,977 | 99,043 | ||||||||||||||||||||||
Total non interest earning assets | 157,426 | 145,992 | ||||||||||||||||||||||
Total assets | $ | 2,546,487 | $ | 2,315,538 | ||||||||||||||||||||
LIABILITIES AND STOCKHOLDERS’ EQUITY | ||||||||||||||||||||||||
Interest bearing liabilities: | ||||||||||||||||||||||||
Deposits: | ||||||||||||||||||||||||
Money market | $ | 680,092 | $ | 2,220 | 1.31 | % | $ | 656,850 | $ | 3,558 | 2.17 | % | ||||||||||||
Savings | 95,796 | 115 | 0.48 | 93,775 | 217 | 0.93 | ||||||||||||||||||
Time | 313,109 | 1,306 | 1.67 | 260,426 | 2,217 | 3.41 | ||||||||||||||||||
Checking with interest | 182,106 | 195 | 0.43 | 157,134 | 426 | 1.08 | ||||||||||||||||||
Securities sold under repurchase agreements and other short-term borrowings | 195,122 | 314 | 0.64 | 92,128 | 480 | 2.08 | ||||||||||||||||||
Other borrowings | 196,810 | 2,101 | 4.27 | 210,839 | 2,328 | 4.42 | ||||||||||||||||||
Total interest bearing liabilities | 1,663,035 | 6,251 | 1.50 | 1,471,152 | 9,226 | 2.51 | ||||||||||||||||||
Non interest bearing liabilities: | ||||||||||||||||||||||||
Demand deposits | 651,138 | 605,236 | ||||||||||||||||||||||
Other liabilities | 29,143 | 31,358 | ||||||||||||||||||||||
Total non interest bearing liabilities | 680,281 | 636,594 | ||||||||||||||||||||||
Stockholders’ equity(1) | 203,171 | 207,792 | ||||||||||||||||||||||
Total liabilities and stockholders’ equity(1) | $ | 2,546,487 | $ | 2,315,538 | ||||||||||||||||||||
Net interest earnings | $ | 29,546 | $ | 27,083 | ||||||||||||||||||||
Net yield on interest earning assets | 4.95 | % | 4.99 | % |
(1) | Excludes net unrealized gains (losses) on securities available for sale. | |
(2) | Includes loans classified as non-accrual. | |
(3) | Effects of adjustments to a tax equivalent basis were increases of $1,161 and $1,208 for the three month periods ended March 31, 2009 and March 31, 2008, respectively. |
27
Table of Contents
Interest Differential
The following table sets forth the dollar amount of changes in interest income, interest expense and net interest income between the three month periods ended March 31, 2009 and March 31, 2008.
(000’s) | ||||||||||||
Three Month Period Increase | ||||||||||||
(Decrease) Due to Change in | ||||||||||||
Volume | Rate | Total(1) | ||||||||||
Interest Income: | ||||||||||||
Deposits in banks | $ | 18 | $ | (59 | ) | $ | (41 | ) | ||||
Federal funds sold | (575 | ) | (42 | ) | (617 | ) | ||||||
Securities: | ||||||||||||
Taxable | (1,056 | ) | (379 | ) | (1,435 | ) | ||||||
Exempt from federal income taxes(2) | (161 | ) | 27 | (134 | ) | |||||||
Loans, net | 7,174 | (5,459 | ) | 1,715 | ||||||||
Total interest income | 5,400 | (5,912 | ) | (512 | ) | |||||||
Interest expense: | ||||||||||||
Deposits: | ||||||||||||
Money market | 126 | (1,464 | ) | (1,338 | ) | |||||||
Savings | 5 | (107 | ) | (102 | ) | |||||||
Time | 448 | (1,359 | ) | (911 | ) | |||||||
Checking with interest | 68 | (299 | ) | (231 | ) | |||||||
Securities sold under repurchase agreements and other short-term borrowings | 537 | (703 | ) | (166 | ) | |||||||
Other borrowings | (155 | ) | (72 | ) | (227 | ) | ||||||
Total interest expense | 1,029 | (4,004 | ) | (2,975 | ) | |||||||
Increase in interest differential | $ | 4,371 | $ | (1,908 | ) | $ | 2,463 | |||||
(1) | Changes attributable to both rate and volume are allocated between the rate and volume variances based upon their absolute relative weights to the total change. | |
(2) | Equivalent yields on securities exempt from federal income taxes are based on a federal statutory rate of 35 percent in 2009 and 2008. |
Net Interest Income
Net interest income, the difference between interest income and interest expense, is the most significant component of the Company’s consolidated earnings. The Federal Reserve began to steadily lower key short-term rates in late September 2007. These actions resulted in a combined 5.00% reduction of short-term rates from September 2007 through December 2008 resulting in some improvement in the yield curve, however, with interest rates at such historically low levels and the current financial crisis continuing to deepen, availability of long-term borrowings at reasonable rates has been limited. Replacing maturing long-term borrowings and funding new loan growth with lower cost short-term borrowings has had a positive impact on net interest income, particularly in the latter part of 2008 and the first quarter of 2009. This positive impact was somewhat offset by the negative effect of the combination of the declining short-term interest rate environment, the Company’s high level of noninterest sensitive deposits and significant increases in the Company’s nonperforming assets. The Company expects continued downward pressure on net interest income for the near future.
The Company has made efforts throughout this period of declining interest rates to minimize the impact on its net interest income by appropriately repositioning its securities portfolio and funding sources while maintaining prudence and awareness of the potential consequences that the current economic crisis could have on its asset
28
Table of Contents
quality and interest rate risk profiles. During 2008 and continuing in 2009, the Company increased the number of loans originated with interest rate floors and, as part of the continuation of a planned reduction of the Company’s investment portfolio, utilized cash flow from maturing investment securities to fund loan growth. These actions were conducted partially in reaction to severely declining interest rates. The Company’s ability to make changes in its asset mix allows management to capitalize on more desirable yields, as available, on various interest earning assets. The result of these efforts, together with continued growth in the core businesses of loans and deposits has enabled the Company to grow net interest income in the first quarter of 2009 and, given the difficulties being encountered in the current economic crisis, to maximize the effective repositioning of its portfolios from both asset and interest rate risk perspectives.
Net interest income increased $2.5 million or 9.7 percent to $28.4 million for the three month period ended March 31, 2009, compared to $25.9 million for the same period in the prior year. Net interest income, on a tax equivalent basis, increased $2.4 million or 8.9 percent to $29.5 million for the three month period ended March 31, 2009, compared to $27.1 million for the same period in the prior year. The increases in 2009, compared to 2008, primarily resulted from an increase of $27.8 million or 4.0 percent in the excess of average interest earning assets over average interest bearing liabilities to $726.1 million in 2009 from $698.3 million in 2008, partially offset by slight decreases in the net interest margin and tax equivalent basis net interest margin to 4.75 percent and 4.95 percent, respectively, for the three month period ended March 31, 2009 from 4.77 percent and 4.99 percent for the same period in the prior year. The effect of the adjustment to tax equivalent basis net interest income was $1.2 million and $1.2 million for 2009 and 2008, respectively.
Interest income is determined by the volume of and related rates earned on interest earning assets. Volume increases in loans and interest earning deposits, partially offset by volume decreases in investments and Federal funds sold and a lower average yield on interest earning assets resulted in higher interest income for the three month period ended March 31, 2009, compared to the same period in the prior year. Average interest earning assets increased $219.6 million or 10.1 percent to $2,389.1 million during the three month period ended March 31, 2009, compared to $2,169.5 million for the same period in the prior year.
Loans are the largest component of interest earning assets. Average net loans increased $374.8 million or 28.4 percent to $1,696.6 million for the three month period ended March 31, 2009, compared to $1,321.8 million for the same period in the prior year. The increase in average net loans reflects the Company’s continuing emphasis on making new loans, expansion of loan production capabilities and more effective market penetration. The average yield on loans was 6.37 percent for the three month period ended March 31, 2009, compared to 7.66 percent for the same period in the prior year. As a result, interest income on loans increased during the three month period ended March 31, 2009, compared to the prior year period, due to higher volume, partially offset by lower interest rates.
Average total securities, including FHLB stock and excluding average net unrealized losses, decreased $96.0 million or 12.4 percent to $679.0 million for the three month period ended March 31, 2009, compared to $775.0 million for the same period in the prior year. The decrease in average total securities in the 2009 period, compared to the same period in 2008, resulted primarily from a planned reduction in the portfolio conducted by the Company as part of its ongoing asset/liability management efforts. During the three month period ended March 31, 2009, management utilized cash flow from maturing investments to fund loan growth and to reduce short term borrowings. The average tax equivalent basis yield on securities was 5.16 percent for the three month period ended March 31, 2009, compared to 5.33 percent for the same period in the prior year. As a result, tax equivalent basis interest income on securities was lower for the three month period ended March 31, 2009, compared to the same period in the prior year, due to lower volume and lower interest rates.
Interest expense is a function of the volume of, and rates paid for, interest bearing liabilities, comprised of deposits and borrowings. Interest expense decreased $2.9 million or 31.5 percent to $6.3 million for the three month period ended March 31, 2009, compared to $9.2 million for the same period in the prior year. Average interest bearing liabilities increased $191.8 million or 13.0 percent to $1,663.0 million for the three month period ended March 31, 2009, compared to $1,471.2 million for the same period in the prior year. The increase in average interest bearing liabilities in 2009, compared to 2008, was due to volume increases in money market deposits, checking with interest, time deposits, savings deposits and short-term borrowings, partially offset by a volume decrease in other borrowed funds. Overall deposits increased from new customers, existing customers, continued growth resulting
29
Table of Contents
from the opening of new branches and volume increases in the Company’s usage of brokered certificates of deposit , partially offset by reductions in average balances of certain customers involved in the real estate industry due to the effects of the current severe economic downturn. The average interest rate paid on interest bearing liabilities was 1.50 percent for the three month period ended March 31, 2009, compared to 2.51 percent for the same period in the prior year. As a result of these factors, interest expense was lower in 2008, compared to 2007, due to lower interest rates, partially offset by higher volume.
Average non interest bearing demand deposits increased $45.9 million or 7.6 percent to $651.1 million for the three month period ended March 31, 2009, compared to $605.2 million for the same period in the prior year. Non interest bearing demand deposits are an important component of the Company’s ongoing asset liability management, and also have a direct impact on the determination of net interest income.
The interest rate spread on a tax equivalent basis for the three month periods ended March 31, 2009 and 2008 is as follows:
Three Month | ||||||||||||
Period Ended | ||||||||||||
March 31, | ||||||||||||
2009 | 2008 | |||||||||||
Average interest rate on: | ||||||||||||
Total average interest earning assets | 5.99 | % | 6.69 | % | ||||||||
Total average interest bearing liabilities | 1.50 | 2.51 | ||||||||||
Total interest rate spread | 4.49 | 4.18 |
Interest rate spreads increased in the current year period compared to the prior year period. This increase resulted from a greater decrease in the average interest rates on interest bearing liabilities over that of interest earning assets. Management cannot predict what impact market conditions will have on its interest rate spread, and additional compression in net interest rate spread may occur in the future.
Provision for Loan Losses
The Company recorded a provision for loan losses of $3.0 million and $0.3 million for the three month periods ended March 31, 2009 and 2008, respectively. The provision for loan losses is charged to income to bring the Company’s allowance for loan losses to a level deemed appropriate by management. See “Financial Condition” for further discussion.
Non Interest Income
Non interest income decreased $1.5 million, or 35.7 percent to $2.7 million for the three month period ended March 31, 2009, compared to $4.2 million for the prior year period. Decreases in investment advisory fees and increases in net realized losses on securities available for sale were partially offset by increases in service charges and other income.
Service charges income increased $0.1 million or 6.7 percent to $1.6 million for the three month period ended March 31, 2009, compared to $1.5 million for the prior year period. The increase was primarily due to growth in deposit activity and other services charges and increases in scheduled fees.
Investment advisory fee income for the three month period ended March 31, 2009 decreased $0.8 million or 29.6 percent to $1.9 million from $2.7 million in the prior year period. The decrease was primarily due to a net decrease in the market values of assets under management which was primarily as a result of the current difficulties in the global financial markets.
The Company recognized impairment charges on securities available for sale of $1.4 million and $0.5 million for the three month periods ended March 31, 2009 and 2008, respectively. The 2009 charge resulted from an other-than-temporary-impairment adjustment related to the Company’s investment in a pooled trust preferred security. The 2008 charge resulted from an other-than-temporary-impairment adjustment related to the Company’s investment in a mutual fund.
30
Table of Contents
Other income for the three month period ended March 31, 2009 increased $0.1 million or 20.0 percent to $0.6 million from $0.5 million in the prior year period. The increase was primarily the result of increased rental income, debit card income and income on bank owned life insurance.
Non Interest Expense
Non interest expense for the three month period ended March 31, 2009 increased $1.4 million or 8.2 percent to $18.4 million from $17.0 million in the prior year period. These increases reflect the overall growth of the Company and resulted from increases in occupancy expense and FDIC assessments partially offset by decreases in salaries and employee benefits and other operating costs.
Salaries and employee benefits, the largest component of non interest expense, for the three month period ended March 31, 2009 decreased $0.1 million or 1.0 percent to $9.8 million from $9.9 million in the prior year period. This decrease resulted from a reduction in the accrual for incentive compensation partially offset by the addition of staff to accommodate the growth in loans and deposits and the opening of new branches.
Occupancy expense for the three month period ended March 31, 2009 increased $0.3 million or 16.7 percent to $2.1 million from $1.8 million in prior year period. This increase reflected the Company’s continued expansion, including the opening of new branch facilities, as well as rising costs on leased facilities, real estate taxes, utility costs, maintenance costs and other costs to operate the Company’s facilities.
Professional services for the three month period ended March 31, 2009 was essentially unchanged from the prior year period.
Equipment expense for the three month period ended March 31, 2009 was essentially unchanged from the prior year period.
Business development expense for the three month period ended March 31, 2009 was essentially unchanged from the prior year period.
The assessment of the Federal Deposit Insurance Corporation (“FDIC”) for the three month period ended March 31, 2009 increased $1.5 million to $1.6 million from $0.1 million in the prior year period. The increase was due to additional premiums that were imposed by the FDIC to replenish shortfalls in the FDIC Insurance Fund which resulted from the current economic crisis. Additional significant premium increases are expected for the remainder of 2009.
Significant changes, more than 5 percent, in other components of non interest expense for the three month period ended March 31, 2009 compared to March 31, 2008, were due to the following:
• | Increase of $62,000 (93.5%) in other insurance expense, resulting from increases in banker’s professional and automobile insurance costs partially offset by reductions in the estimates of the net cost of certain life insurance policies. | |
• | Decrease of $248,000 (44.8%) in stationery and printing costs due to decreased consumption. | |
• | Decrease of $50,000 (19.6%) in communication cost due to the implementation of more efficient systems. | |
• | Decrease of $24,000 (10.8%) in courier costs due to the implementation of a remote capture system. | |
• | Increase of $65,000 (62.6%) in other loan expenses due to costs associated with properties held in other real estate owned and increased collection costs. | |
• | Increase of $205,000 (30.6%) in outside services due to the outsourcing of certain product processes. | |
• | Decrease of $45,000 (37.8%) in dues, meetings and seminars due to decreased participation in such events. |
Income Taxes
Income taxes of $3.0 million and $4.4 million were recorded in the three month periods ended March 31, 2009, and 2008, respectively. The Company is currently subject to a statutory Federal tax rate of 35 percent, a New York State tax rate of 7.1 percent plus a 17 percent surcharge, a Connecticut State tax rate of 7.5 percent and a New York
31
Table of Contents
City tax rate of approximately 9 percent. The Company’s overall effective tax rate was 31.5 percent for the three month period ended March 31, 2009 compared to 34.2 percent for the same period in the prior year. The decrease in the overall effective tax rates for 2009, compared to the prior year period, resulted primarily from a decrease in the percentage of income subject to New York State income taxes.
In the normal course of business, the Company’s Federal, New York State and New York City corporation tax returns are subject to audit. The Company is currently open to audit under the statute of limitations by the Internal Revenue Service for the years 2005 through 2008. The Company is currently open to audit by New York State under the statute of limitations for the years 2007 and 2008. Other pertinent tax information is set forth in the Notes to Condensed Consolidated Financial Statements included elsewhere herein.
Financial Condition
Assets |
The Company had total assets of $2,546.2 million at March 31, 2009, an increase of $5.3 million or 0.2 percent from $2,540.9 million at December 31, 2008.
Federal Funds Sold
Federal funds sold totaled $22.1 million at March 31, 2009, an increase of $15.4 million or 229.9 percent from $6.7 million at December 31, 2008. The increase resulted from timing differences in the redeployment of available funds into loans and longer term investments and volatility in certain deposit types and relationships.
Securities and FHLB Stock
The Company invests in stock of the Federal Home Loan Bank of New York (“FHLB”) and other securities which are rated with an investment grade by nationally recognized credit rating organizations and, on a limited basis, in non-rated securities. Non-rated securities totaled $25.7 million at March 31, 2009 and were comprised primarily of obligations of municipalities located within the Company’s market area.
Securities totaled $629.2 million at March 31, 2009, a decrease of $42.2 million or 6.3 percent from $671.4 million at December 31, 2008. Securities classified as available for sale, which are recorded at estimated fair value, totaled $601.5 million at March 31, 2009, a decrease of $40.9 million or 6.4 percent from $642.4 million at December 31, 2008. Securities classified as held to maturity, which are recorded at amortized cost, totaled $27.6 million at March 31, 2009, a decrease of $1.4 million or 4.8 percent from $29.0 million at December 31, 2008. The following table sets forth the amortized cost, gross unrealized gains and losses and the estimated fair value of securities at March 31, 2009:
Gross | ||||||||||||||||
Amortized | Unrealized | Estimated | ||||||||||||||
Classified as Available for Sale | Cost | Gains | Losses | Fair Value | ||||||||||||
(000’s) | ||||||||||||||||
U.S. Treasuries and government agencies | $ | 43,205 | $ | 188 | — | $ | 43,393 | |||||||||
Mortgage-backed securities | 333,906 | 5,627 | $ | 52 | 339,481 | |||||||||||
Obligations of state and political subdivisions | 196,154 | 5,008 | 385 | 200,777 | ||||||||||||
Other debt securities | 18,599 | 20 | 10,586 | 8,033 | ||||||||||||
Total debt securities | 591,864 | 10,843 | 11,023 | 591,684 | ||||||||||||
Mutual funds and other equity securities | 9,170 | 780 | 86 | 9,864 | ||||||||||||
Total | $ | 601,034 | $ | 11,623 | $ | 11,109 | $ | 601,548 | ||||||||
Classified as Held to Maturity | ||||||||||||||||
Mortgage-backed securities | $ | 22,472 | $ | 713 | — | $ | 23,185 | |||||||||
Obligations of state and political subdivisions | 5,133 | 286 | — | 5,419 | ||||||||||||
Total | $ | 27,605 | $ | 999 | $ | — | $ | 28,604 | ||||||||
32
Table of Contents
U.S. Treasury and government agency obligations classified as available for sale totaled $43.4 million at March 31, 2009, a decrease of $2.0 million or 4.4 percent from $45.4 million at December 31, 2008. The decrease was due to maturities and calls of $36.1 million which were partially offset by purchases of $34.1 million. There were no U.S. Treasury or government agency obligations classified as held to maturity at March 31, 2009 or at December 31, 2008.
Mortgage-backed securities, including collateralized mortgage obligations (“CMO’s”), classified as available for sale totaled $339.5 million at March 31, 2009, a decrease of $34.6 million or 9.2 percent from $374.1 million at December 31, 2008. The decrease was due to maturities and principal paydowns of $40.0 million which were partially offset by purchases of $2.0 million and other increases of $3.4 million. Mortgage-backed securities, including CMO’s, classified as held to maturity totaled $22.5 million at March 31, 2009, a decrease of $1.4 million or 5.9 percent from $23.9 million at December 31, 2008. The decrease was due to maturities and principal paydowns of $1.4 million.
Obligations of state and political subdivisions classified as available for sale totaled $200.8 million at March 31, 2009, a decrease of $0.7 million or 0.3 percent from $201.5 million at December 31, 2008. The decrease was due to maturities and calls of $5.3 million which was partially offset by other increases of $4.0 million and purchases of $2.0 million Obligations of state and political subdivisions classified as held to maturity totaled $5.1 million at both March 31, 2009 and December 31, 2008. The combined available for sale and held to maturity obligations at March 31, 2009 were comprised of approximately 72 percent of New York State political subdivisions and 28 percent of a variety of other states and their subdivisions all with diversified maturity dates. The Company considers such securities to have favorable tax equivalent yields.
Other debt securities classified as available for sale decreased $3.6 million, or 31.0 percent, to $8.0 million at March 31, 2009 from $11.6 million at December 31, 2008. The decrease was due to other changes of $3.6 million. Included in other changes was a $1.4 million pretax loss for other than temporary impairment related to the Company’s investment in a pooled trust preferred security, $1.9 million of unrealized losses on the remainder of the pooled trust preferred securities and $0.3 million of unrealized losses on other debt securities. These pooled trust preferred securities, while continuing to perform have suffered severe declines in estimated fair value primarily as a result of illiquidity in the marketplace and declines in the credit ratings of a number of issuing banks underlying these securities. The Company has recognized $2.5 million in other-than-temporary-impairment charges over the past twelve months, related to its investments in pooled trust preferred securities. Management cannot predict what effect that continuation of such conditions could have on potential future value or whether there will be additional other-than-temporary impairment of these securities.
Mutual funds and other equity securities totaled $9.9 million at March 31, 2009, an increase of $0.2 million or 2.1 percent from $9.7 million at December 31, 2008. All mutual funds and other equity securities are classified as available for sale.
The Banks, as members of the FHLB, invest in stock of the FHLB as a prerequisite to obtaining funding under various programs offered by the FHLB. The Banks must purchase additional shares of FHLB stock to obtain increases in such borrowings. Shares in excess of required amounts for outstanding borrowings are generally redeemed by the FHLB. The investment in FHLB stock totaled $11.0 million at March 31, 2009, compared to $20.5 million at December 31, 2008.
Except for securities of the U.S. Treasury and government agencies, there were no obligations of any single issuer which exceeded ten percent of stockholders’ equity at March 31, 2009 or December 31, 2008.
Loans
Net loans totaled $1,715.9 million at March 31, 2009, an increase of $38.3 million or 2.3 percent from $1,677.6 million at December 31, 2008. The increase resulted principally from a $33.4 million increase in commercial real estate loans, $25.1 million increase in residential real estate loans, $12.0 million increase in construction loans, and $1.5 million increase in lease financing which were partially offset by a $29.6 million decrease in commercial and industrial loans and a $2.7 million decrease in loans to individuals The increase in loans
33
Table of Contents
reflect the Company’s continuing emphasis on making new loans, expansion of loan production facilities, and more effective market penetration.
Major classifications of loans at March 31, 2009 and December 31, 2008 are as follows:
March 31, | December 31, | |||||||
2009 | 2008 | |||||||
(000’s) | ||||||||
Real Estate: | ||||||||
Commercial | $ | 676,263 | $ | 642,923 | ||||
Construction | 266,983 | 254,837 | ||||||
Residential | 434,516 | 409,431 | ||||||
Commercial and industrial | 328,462 | 358,076 | ||||||
Individuals | 18,775 | 21,536 | ||||||
Lease financing | 19,963 | 18,461 | ||||||
Total | 1,744,962 | 1,705,264 | ||||||
Deferred loan fees, net | (4,907 | ) | (5,116 | ) | ||||
Allowance for loan losses | (24,199 | ) | (22,537 | ) | ||||
Loans, net | $ | 1,715,856 | $ | 1,677,611 | ||||
The following table summarizes the Company’s non-accrual loans, loans past due 90 days or more and still accruing and other real estate owned as of March 31, 2009 and December 31, 2008:
March 31, | December 31, | |||||||
2009 | 2008 | |||||||
(000’s except percentages) | ||||||||
Non-accrual loans at period end | $ | 27,859 | $ | 11,284 | ||||
Loans past due 90 days or more and still accruing | 5,885 | 7,019 | ||||||
Other real estate owned | 5,455 | 5,467 | ||||||
Nonperforming assets to total assets at period end | 1.31 | % | 0.66 | % |
Gross interest income that would have been recorded if these borrowers had been current in accordance with their original loan terms was $516,000 and $876,000 for the three month period ended March 31, 2009 and the year ended December 31, 2008, respectively. There was no interest income on nonperforming assets included in net income for the three month period ended March 31, 2009 and the year ended December 31, 2008.
A summary of nonperforming assets as of March 31, 2009 and December 31, 2008 follows:
March 31, | December 31, | Increase | ||||||||||
2009 | 2008 | (Decrease) | ||||||||||
Non-accrual loans: | ||||||||||||
Real Estate: | ||||||||||||
Commercial | $ | 2,231 | $ | 2,241 | $ | (10 | ) | |||||
Construction | 12,502 | 2,824 | 9,678 | |||||||||
Residential | 11,933 | 4,618 | 7,315 | |||||||||
Total Real Estate | 26,666 | 9,683 | 16,983 | |||||||||
Commercial & Industrial | 1,193 | 1,601 | (408 | ) | ||||||||
Lease Financing & Individuals | — | — | — | |||||||||
Total Non-accrual loans | 27,859 | 11,284 | 16,575 | |||||||||
Other Real Estate Owned | 5,455 | 5,467 | (12 | ) | ||||||||
Total Nonperforming assets | $ | 33,314 | $ | 16,751 | $ | 16,563 | ||||||
Nonperforming assets to total assets at period end | 1.31 | % | 0.66 | % |
34
Table of Contents
The overall increases in nonperforming assets has partially resulted from the current severe economic slowdown, which has had negative effects on home sales and available financing, particularly in the residential real estate sector. Continuation of this condition could result in additional increases in nonperforming assets and charge-offs in the future.
During the three month period ended March 31, 2009:
• | Nonperforming construction loans increased $9.7 million resulting from the transfer of seven loans totaling $9.7 million. | |
• | Nonperforming residential loans increased $7.3 million resulting from the transfer of three loans totaling $7.9 million, partially offset by charge-offs of $0.6 million. | |
• | Nonperforming commercial and industrial loans decreased $0.4 million resulting from charge-offs of $0.7 million which was partially offset by the transfer of five loans totaling $0.3 million. |
At March 31, 2009, the Company had no commitments to lend additional funds to customers with non-accrual or restructured loan balances. Non-accrual loans increased $16.6 million to $27.9 million at March 31, 2009 from $11.3 million at December 31, 2008. Net income is adversely impacted by the level of nonperforming assets caused by the deterioration of the borrowers’ ability to meet scheduled interest and principal payments. In addition to forgone revenue, the Company must increase the level of provision for loan losses, incur higher collection costs and other costs associated with the management and disposition of foreclosed properties.
In accordance with SFAS No. 114, which establishes the accounting treatment of impaired loans, loans that are within the scope of SFAS No. 114 totaling $27.9 million and $11.3 million at March 31, 2009 and December 31, 2008, respectively, have been measured based on the estimated fair value of the collateral since these loans are all collateral dependent. At March 31, 2009, the Company had $0.4 million of specific reserves specifically allocated to an impaired loan. At December 31, 2008 there was no allowance for loan losses specifically allocated to impaired and other identified problem loans.
The Company performs extensive ongoing asset quality monitoring by both internal and independent loan review functions. In addition, the Company conducts timely remediation and collection activities through a network of internal and external resources which include an internal asset recovery department, real estate and other loan workout attorneys and external collection agencies. Management believes that these efforts are appropriate for accomplishing either successful remediation or maximizing collections related to nonperforming assets.
Allowance for Loan Losses
The Company maintains an allowance for loan losses to absorb probable losses incurred in the loan portfolio based on ongoing quarterly assessments of the estimated losses. The Company’s methodology for assessing the appropriateness of the allowance consists of a specific component for identified problem loans and a formula component to consider historical loan loss experience and additional risk factors affecting the portfolio.
The specific component incorporates the results of measuring impaired loans as provided in SFAS No. 114, “Accounting by Creditors for Impairment of a Loan,” and SFAS No. 118, “Accounting by Creditors for Impairment of a Loan — Income Recognition and Disclosures.” These accounting standards prescribe the measurement methods, income recognition and disclosures related to impaired loans.
The formula component is calculated by first applying historical loss experience factors to outstanding loans by type, excluding loans for which a specific allowance has been determined. This component is then adjusted to reflect additional risk factors not addressed by historical loss experience. These factors include the evaluation of then-existing economic and business conditions affecting the key lending areas of the Company and other conditions, such as new loan products, credit quality trends (including trends in nonperforming loans expected to result from existing conditions), collateral values, loan volumes and concentrations, specific industry conditions within portfolio segments that existed as of the balance sheet date and the impact that such conditions were believed to have had on the collectibility of the loan portfolio. Senior management reviews these conditions quarterly. Management’s evaluation of the loss related to these conditions is quantified by loan type and reflected in the formula component. The evaluations of the inherent loss with respect to these conditions is subject to a higher
35
Table of Contents
degree of uncertainty due to the subjective nature of such evaluations and because they are not identified with specific problem credits.
A summary of the components of the allowance for loan losses, changes in the components and the impact of charge-offs/recoveries on the resulting provision for loan losses for the dates indicated is as follows:
(000’s) | ||||||||||||
Change | ||||||||||||
March 31, | During | December 31, | ||||||||||
Components | 2009 | 2009 | 2008 | |||||||||
Specific: | ||||||||||||
Real Estate: | ||||||||||||
Commercial | — | — | — | |||||||||
Construction | $ | 440 | $ | 440 | — | |||||||
Residential | — | — | — | |||||||||
Commercial and Industrial | — | — | — | |||||||||
Lease Financing and individuals | — | — | — | |||||||||
Total Specific component | $ | 440 | $ | 440 | — | |||||||
Formula: | ||||||||||||
Real Estate: | ||||||||||||
Commercial | $ | 8,355 | $ | 135 | $ | 8,220 | ||||||
Construction | 4,170 | 500 | 3,670 | |||||||||
Residential | 4,922 | 728 | 4,194 | |||||||||
Commercial and Industrial | 6,276 | 4 | 6,272 | |||||||||
Lease Financing and individuals | 36 | (145 | ) | 181 | ||||||||
Total Formula component | $ | 23,759 | $ | 22,537 | ||||||||
Total Allowance | $ | 24,199 | $ | 22,537 | ||||||||
Net Change | $ | 1,662 | ||||||||||
Net Charge-offs | (1,303 | ) | ||||||||||
Provision for loan losses | $ | 2,965 | ||||||||||
Change | ||||||||||||
March 31, | During | December 31, | ||||||||||
Components | 2008 | 2008 | 2007 | |||||||||
Specific: | ||||||||||||
Real Estate: | ||||||||||||
Commercial | — | — | — | |||||||||
Construction | — | $ | (500 | ) | $ | 500 | ||||||
Residential | $ | 933 | (17 | ) | 950 | |||||||
Commercial and Industrial | 252 | 45 | 207 | |||||||||
Lease Financing and individuals | 30 | (90 | ) | 120 | ||||||||
Total Specific component | $ | 1,215 | $ | (562 | ) | $ | 1,777 | |||||
Formula: | ||||||||||||
Real Estate: | ||||||||||||
Commercial | $ | 4,267 | $ | 40 | $ | 4,227 | ||||||
Construction | 3,120 | (41 | ) | 3,161 | ||||||||
Residential | 2,752 | (216 | ) | 2,968 | ||||||||
Commercial and Industrial | 4,163 | (882 | ) | 5,045 | ||||||||
Lease Financing and individuals | 710 | 521 | 189 | |||||||||
Total Formula component | $ | 15,012 | $ | (578 | ) | $ | 15,590 | |||||
Total Allowance | $ | 16,227 | $ | 17,367 | ||||||||
Net Change | (1,140 | ) | ||||||||||
Net Charge-offs | (1,471 | ) | ||||||||||
Provision for loan losses | $ | 331 | ||||||||||
36
Table of Contents
The specific component of the allowance for loan losses is the result of our analysis of impaired loans and our determination of the amount required to reduce the carrying amount of such loans to estimated fair value, as provided in SFAS No. 114 and SFAS No. 118. Accordingly, such allowance is dependent on the particular loans and their characteristics at each measurement date, not necessarily the total amount of such loans. We generally record partial charge-offs for impaired loans where the fair value is less than the carrying amount, that are real estate collateral dependent and for which we utilize independent appraisals in determining the fair value of the collateral. At March 31, 2009, the Company had $0.4 million of specific reserves allocated to an impaired loan. There were no specific reserves assigned to impaired loans as of December 31, 2008. The Company’s analysis indicated that these loans were principally real estate collateral dependent or guaranteed under U.S. government programs and that, with the exception of one loan for which a specific reserve was assigned at March 31, 2009 there was sufficient underlying collateral value or guarantees to indicate expected recovery of the carrying amount of the loans.
The changes in the formula component of the allowance for loan losses are the result of the application of historical loss experience to outstanding loans by type. Loss experience for each year is based upon average charge-off experience for the prior three year period by loan type. The formula component is then adjusted to reflect changes in other relevant factors affecting loan collectibility. Management periodically adjusted the formula component to an amount that, when considered with the specific component, represented its best estimate of probable losses in the loan portfolio as of each balance sheet date. The following factors affected the changes in the formula component of the allowance for loan losses at March 31, 2009:
• | Economic and business conditions — The volatility in energy costs and the cost of raw materials used in construction, the demand for and value of real estate, the primary collateral for the Company’s loans, and the level of real estate taxes within the Company’s market area, together with the general state of the economy, trigger economic uncertainty. During the three month period ended March 31, 2009, these factors have generally continued to worsen. Further deterioration in the economy in general and business conditions in the Company’s primary market area continue. During the fourth quarter of 2008 and continuing through the first quarter of 2009, housing prices have significantly declined and the availability of mortgage financing is limited. We have considered these trends in determining the formula component of the allowance for loan losses. | |
• | Credit risk — Construction loans currently have a higher degree of risk than other types of loans which the Company makes, since repayment of the loans is generally dependent on the borrowers’ ability to successfully construct and sell or lease completed properties. Changes in concentration and the associated changes in various risk factors are considered in the determination of the formula component of the allowance. During the three month period ended March 31, 2009, the market for new construction has continued to slow significantly in the Company’s primary market area. Houses are taking longer to sell and prices have declined. We have considered these trends in determining the formula component of the allowance for loan losses. | |
• | Asset quality — Changes in the amount of nonperforming loans, classified loans, delinquencies, and the results of the Company’s periodic loan review process are also considered in the process of determining the formula component. During the three month period ended March 31, 2009, nonperforming assets and delinquencies have increased. We believe this increase is due to current trends within the economy and our local market area. | |
• | Loan Participations — We purchase loan participations from a number of banks, including some outside our primary market area. While we review each loan and make our own determination regarding whether to participate in the loan, we rely on the other bank’s knowledge of their customer and marketplace. Since many of these relationships are new, we do not yet have an established record of performance and, therefore, any probable losses with respect to these new loan participation relationships is considered in the determination of the formula component of the allowance for loan losses. |
37
Table of Contents
A summary of the activity in the allowance for loans losses for the three month periods ended March 31, 2009 and 2008 is as follows:
March 31, | March 31, | |||||||
2009 | 2008 | |||||||
(000’s except percentages) | ||||||||
Net loans outstanding at period end | $ | 1,715,856 | $ | 1,361,768 | ||||
Average net loans outstanding for the period | 1,696,565 | 1,321,788 | ||||||
Allowance for loan losses: | ||||||||
Beginning balance | 22,537 | 17,367 | ||||||
Provision charged to expense | 2,965 | 331 | ||||||
25,502 | 17,698 | |||||||
Charge-offs and recoveries during the period | ||||||||
Charge offs: | ||||||||
Real Estate: | ||||||||
Commercial | — | (71 | ) | |||||
Construction | — | (775 | ) | |||||
Residential | (611 | ) | (26 | ) | ||||
Commercial and industrial | (684 | ) | (130 | ) | ||||
Lease financing and individuals | (31 | ) | (524 | ) | ||||
Recoveries: | ||||||||
Real Estate: | ||||||||
Commercial | — | — | ||||||
Construction | — | — | ||||||
Residential | — | — | ||||||
Commercial and industrial | 13 | 42 | ||||||
Lease financing and individuals | 10 | 13 | ||||||
Net charge-offs during the period | (1,303 | ) | (1,471 | ) | ||||
Balance at period end | $ | 24,199 | $ | 16,227 | ||||
Ratio of net charge-offs to average net loans outstanding during the period | 0.08 | % | 0.09 | % | ||||
Ratio of allowance for loan losses to gross loans outstanding at the end of the period | 1.39 | % | 1.18 | % |
The distribution of our allowance for loan losses at the dates indicated is summarized as follows:
March 31, 2009 | ||||||||||||
Percentage | ||||||||||||
of Loans | ||||||||||||
Amount | in each | |||||||||||
of Loan | Loan | Category | ||||||||||
Loss | Amounts | by Total | ||||||||||
Allowance | By Category | Loans | ||||||||||
Real Estate: | ||||||||||||
Commercial | $ | 8,355 | $ | 676,263 | 38.76 | % | ||||||
Construction | 4,610 | 266,983 | 15.30 | % | ||||||||
Residential | 4,921 | 434,516 | 24.90 | % | ||||||||
Commercial and Industrial | 6,276 | 328,462 | 18.82 | % | ||||||||
Lease Financing and individuals | 37 | 38,738 | 2.22 | % | ||||||||
Total | $ | 24,199 | $ | 1,744,962 | 100.00 | % | ||||||
38
Table of Contents
December 31, 2008 | ||||||||||||
Percentage | ||||||||||||
of Loans | ||||||||||||
Amount | in each | |||||||||||
of Loan | Loan | Category | ||||||||||
Loss | Amounts | by Total | ||||||||||
Allowance | By Category | Loans | ||||||||||
Real Estate: | ||||||||||||
Commercial | $ | 8,220 | $ | 642,923 | 37.70 | % | ||||||
Construction | 3,670 | 254,837 | 14.94 | % | ||||||||
Residential | 4,194 | 409,431 | 24.01 | % | ||||||||
Commercial and Industrial | 8,272 | 358,076 | 21.00 | % | ||||||||
Lease Financing and individuals | 181 | 39,997 | 2.35 | % | ||||||||
Total | $ | 24,537 | $ | 1,705,264 | 100.00 | % | ||||||
Actual losses can vary significantly from the estimated amounts. The Company’s methodology permits adjustments to the allowance in the event that, in management’s judgment, significant factors which affect the collectibility of the loan portfolio as of the evaluation date have changed. By assessing the estimated losses inherent in the loan portfolio on a quarterly basis, the Banks are able to adjust specific and inherent loss estimates based upon any more recent information that has become available.
Management believes the allowance for loan losses is the best estimate of probable losses which have been incurred as of March 31, 2009. There is no assurance that the Company will not be required to make future adjustments to the allowance in response to changing economic conditions or regulatory examinations
Deposits
Deposits totaled $2,059.6 million at March 31, 2009, an increase of $220.3 million or 12.0 percent from $1,839.3 million at December 31, 2008. Approximately $30.0 of this growth resulted from an increase in the Company’s utilization of brokered certificates of deposits and approximately $75.0 million of this growth resulted from the transfer of certain money market mutual fund investments of existing customers to interest bearing demand deposits. The following table presents a summary of deposits at March 31, 2009 and December 31, 2008:
(000’s) | ||||||||||||
March 31, | December 31, | Increase | ||||||||||
2009 | 2008 | (Decrease) | ||||||||||
Demand deposits | $ | 662,282 | $ | 647,828 | $ | 14,454 | ||||||
Money market accounts | 739,805 | 631,948 | 107,857 | |||||||||
Savings accounts | 96,438 | 99,022 | (2,584 | ) | ||||||||
Time deposits of $100,000 or more | 156,649 | 156,481 | 168 | |||||||||
Time deposits of less than $100,000 | 168,745 | 138,504 | 30,241 | |||||||||
Checking with interest | 235,696 | 165,543 | 70,153 | |||||||||
Total Deposits | $ | 2,059,615 | $ | 1,839,326 | $ | 220,289 | ||||||
Borrowings
Total borrowings were $257.4 million at March 31, 2009, a decrease of $209.0 million or 44.8 percent from $466.4 million at December 31, 2008. The overall decrease resulted primarily from a $209.6 million decrease in other short-term borrowings which was partially offset by a $0.6 million increase in short-term repurchase agreements. Borrowings are utilized as part of the Company’s continuing efforts to effectively leverage its capital and to manage interest rate risk.
39
Table of Contents
Stockholders’ Equity
Stockholders’ equity totaled $199.4 million at March 31, 2009, a decrease of $8.1 million or 3.9 percent from $207.5 million at December 31, 2008. The decrease in stockholders’ equity resulted from $13.4 million in purchases of treasury stock and $5.0 million of cash dividends paid on common stock which was partially offset by net income of $6.6 million, increases in accumulated comprehensive income of $3.4 million and $0.3 million of net increases related to grants and exercises of stock options.
The Company’s and the Banks’ capital ratios at March 31, 2009 and December 31, 2008 are as follows:
Minimum for | ||||||||||||
Capital | ||||||||||||
March 31, | December 31, | Adequacy | ||||||||||
2009 | 2008 | Purposes | ||||||||||
Leverage ratio: | ||||||||||||
Company | 6.9 | % | 7.5 | % | 4.0 | % | ||||||
HVB | 6.9 | 7.4 | 4.0 | |||||||||
NYNB | 6.3 | 6.7 | 4.0 | |||||||||
Tier 1 capital: | ||||||||||||
Company | 9.3 | % | 10.1 | % | 4.0 | % | ||||||
HVB | 9.3 | 9.9 | 4.0 | |||||||||
NYNB | 10.1 | 10.1 | 4.0 | |||||||||
Total capital: | ||||||||||||
Company | 10.6 | % | 11.3 | % | 8.0 | % | ||||||
HVB | 10.5 | 11.1 | 8.0 | |||||||||
NYNB | 11.3 | 11.4 | 8.0 |
The Company, HVB and NYNB each exceed all current regulatory capital requirements to be considered in the “well capitalized” category at March 31, 2009.
Liquidity
The Asset/Liability Strategic Committee (“ALSC”) of the Board of Directors of HVB establishes specific policies and operating procedures governing the Company’s liquidity levels and develops plans to address future liquidity needs, including contingent sources of liquidity. The primary functions of asset liability management are to provide safety of depositor and investor funds, assure adequate liquidity and maintain an appropriate balance between interest earning assets and interest bearing liabilities. Liquidity management involves the ability to meet the cash flow requirement of depositors wanting to withdraw funds or borrowers needing assurance that sufficient funds will be available to meet their credit needs. Interest rate sensitivity management seeks to manage fluctuating net interest margins and to enhance consistent growth of net interest income through periods of changing interest rates.
The Company’s liquid assets, at March 31, 2009 include cash and due from banks of $52.4 million and Federal funds sold of $22.1 million. Federal funds sold represents the Company’s excess liquid funds that are invested with other financial institutions in need of funds and which mature daily.
Other sources of liquidity include maturities and principal and interest payments on loans and securities. The loan and securities portfolios are of high credit quality and of mixed maturity, providing a constant stream of maturing and reinvestable assets, which can be converted into cash should the need arise. The ability to redeploy these funds is an important source of medium to long term liquidity. The amortized cost of securities having contractual maturities, expected call dates or average lives of one year or less amounted to $334.9 million at March 31, 2009. This represented 53.2 percent of the amortized cost of the securities portfolio. Excluding installment loans to individuals, real estate loans other than construction loans and lease financing, $340.7 million, or 19.5 percent of loans at March 31, 2009, mature in one year or less. The Company may increase liquidity by selling certain residential mortgages, or exchanging them for mortgage-backed securities that may be sold in the secondary market.
40
Table of Contents
Non interest bearing demand deposits and interest bearing deposits from businesses, professionals, not-for-profit organizations and individuals are a relatively stable, low-cost source of funds. The deposits of the Bank generally have shown a steady growth trend as well as a generally consistent deposit mix. However, there can be no assurance that deposit growth will continue or that the deposit mix will not shift to higher rate products.
HVB and NYNB are members of the FHLB. As members, they are able to participate in various FHLB borrowing programs which require certain investments in FHLB common stock as a prerequisite to obtaining funds. As of March 31, 2009, HVB had short-term borrowing lines with the FHLB of $200 million with no amounts outstanding. NYNB had short-term borrowing lines of $27 million with no amounts outstanding. These and various other FHLB borrowing programs available to members are subject to availability of qualifying loanand/or investment securities collateral and other terms and conditions.
HVB also has unsecured overnight borrowing lines totaling $80 million with three major financial institutions which were all unused and available at March 31, 2009. In addition, HVB has approved lines under Retail Certificate of Deposit Agreements with three major financial institutions totaling $700 million of which $100 million was outstanding as at March 31, 2009. NYNB has an approved line under Retail Certificate of Deposit Agreements with one financial institution totaling $5.0 million of which $5.0 million was outstanding at March 31, 2009.
Additional liquidity is also provided by the Company’s ability to borrow from the Federal Reserve Bank’s discount window. In response to the current economic crisis, the Federal Reserve Bank has increased the ability of banks to borrow from this source through itsBorrower-in-Custody (“BIC”) program, which expanded the types of collateral which qualify as security for such borrowings. Both HVB and NYNB have been approved to participate in the BIC program. There were no amounts outstanding with the Federal Reserve at March 31, 2009.
As of March 31, 2009, the Company had qualifying loan and investment securities totaling approximately $273 million which could be utilized under available borrowing programs thereby increasing liquidity.
Management considers the Company’s sources of liquidity to be adequate to meet any expected funding needs and to be responsive to changing interest rate markets.
Forward-Looking Statements
The Company has made, and may continue to make, various forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 with respect to earnings, credit quality and other financial and business matters for periods subsequent to March 31, 2009. These statements may be identified by such forward-looking terminology as “expect”, “may”, “will”, “anticipate”, “continue”, “believe” or similar statements or variations of such terms. The Company cautions that these forward-looking statements are subject to numerous assumptions, risks and uncertainties, and that statements relating to subsequent periods increasingly are subject to greater uncertainty because of the increased likelihood of changes in underlying factors and assumptions. Actual results could differ materially from forward-looking statements.
In addition to those factors previously disclosed by the Company and those factors identified elsewhere herein, the following factors could cause actual results to differ materially from such forward-looking statements:
• | unanticipated write-down or other-than-temporary impairment to investment securities; | |
• | insufficient allowance for loan losses; | |
• | a higher level of net loan charge-offs and delinquencies than anticipated; | |
• | changes in loan, investment and mortgage prepayment assumptions; | |
• | changes in monetary and fiscal policies of the U.S. Government, including policies of the U.S. Treasury, the Office of the Comptroller of the Currency and the Federal Reserve Board, and the impact of any policies or programs implemented pursuant to the Emergency Economic Stabilization Act of 2008; | |
• | the extent and timing of legislative and regulatory actions and reform; | |
• | competitive pressure on loan and deposit product pricing; |
41
Table of Contents
• | other actions of competitors; | |
• | adverse changes in economic conditions especially those effecting real estate; | |
• | the extent and timing of actions of the Federal Reserve Board; | |
• | a loss of customer deposits; | |
• | changes in customer’s acceptance of the Banks’ products and services; | |
• | regulatory delays or conditions imposed by regulators in connection with the conversion of the Banks to national banks, acquisitions or other expansion plans; | |
• | increases in federal and state income taxesand/or the Company’s effective income tax rate; | |
• | difficulties in integrating acquisitions, offering new services or expanding into new markets; | |
• | higher or lower cash flow levels than anticipated; | |
• | a decrease in loan origination volume; | |
• | a change in legal and regulatory barriers including issues related to compliance with anti-money laundering (“AML”) and bank secrecy act (“BSA”) laws; | |
• | adoption, interpretation and implementation of new or pre-existing accounting pronouncements; | |
• | the development of new tax strategies or the disallowance of prior tax strategies; and | |
• | operational risks, including the risk of fraud by employees or outsiders and unanticipated litigation pertaining to our fiduciary responsibility. |
Impact of Inflation and Changing Prices
The Condensed Consolidated Financial Statements and Notes thereto presented herein have been prepared in accordance with GAAP, which requires the measurement of financial position and operating results in terms of historical dollar amounts or estimated fair value without considering the changes in the relative purchasing power of money over time due to inflation. The impact of inflation is reflected in the increased cost of the Company’s operations. Unlike industrial companies, nearly all of the assets and liabilities of the Company are monetary in nature. As a result, interest rates have a greater impact on the Company’s performance than do the effects of general levels of inflation. Interest rates do not necessarily move in the same direction or to the same extent as the price of goods and services.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Quantitative and qualitative disclosures about market risk at December 31, 2008 were previously reported in the Company’s 2008 Annual Report on Form 10-K. There have been no material changes in the Company’s market risk exposure at March 31, 2009 compared to December 31, 2008.
The Company’s primary market risk exposure is interest rate risk since substantially all transactions are denominated in U.S. dollars with no direct foreign exchange or changes in commodity price exposure.
All market risk sensitive instruments are classified either as available for sale or held to maturity with no financial instruments entered into for trading purposes. The Company from time to time uses derivative financial instruments to manage risk. The Company did not enter into any new derivative financial instruments during the three month period ended March 31, 2009. The Company had no derivative financial instruments in place at March 31, 2009.
The Company uses a simulation analysis to evaluate market risk to changes in interest rates. The simulation analysis at March 31, 2009 shows the Company’s net interest income increasing slightly if interest rates rise and decreasing moderately if interest rates fall, considering a continuation of the current flat yield curve. A change in the shape or steepness of the yield curve will impact our market risk to changes in interest rates.
42
Table of Contents
The Company also prepares a static gap analysis which, at March 31, 2009, shows a positive cumulative static gap of $188.7 million in the one year time frame.
The Company’s policy limit on interest rate risk has remained unchanged since December 31, 2002. The following table illustrates the estimated exposure under a rising rate scenario and a declining rate scenario calculated as a percentage change in estimated net interest income assuming a gradual shift in interest rates for the next 12 month measurement period, beginning March 31, 2009.
Percentage Change in | |||||||||
Estimated Net Interest Income | |||||||||
Gradual Change in Interest Rates | from March 31, 2009 | Policy Limit | |||||||
+200 basis points | 1.1 | % | (5.0 | )% | |||||
−100 basis points | (1.0 | )% | (5.0 | )% |
As of March 31, 2009, a 100 basis point downward change in interest rates was substituted for the 200 basis point downward scenario previously used, as management believes that a 200 basis point downward change is not a meaningful analysis in light of current interest rate levels. The percentage change in estimated net interest income in the +200 and -100 basis points scenario is within the Company’s policy limits.
Item 4. Controls and Procedures
Our disclosure controls and procedures are designed to ensure that information the Company must disclose in its reports filed or submitted under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), is recorded, processed, summarized, and reported on a timely basis. Any controls and procedures, no matter how well designed and operated, can only provide reasonable assurance of achieving the desired control objectives. We carried out an evaluation, under the supervision and with the participation of our Chief Executive Officer and Chief Financial Officer, of the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) or Rule 15d-15(e) of the Exchange Act) as of March 31, 2009. Based on this evaluation, the Chief Executive Officer and Chief Financial Officer have concluded that, as of March 31, 2009, the Company’s disclosure controls and procedures were effective in bringing to their attention on a timely basis information required to be disclosed by the Company in reports that the Company files or submits under the Exchange Act. Also, during the quarter ended March 31, 2009, there has not been any change that has materially affected or is reasonably likely to materially affect, the Company’s internal control over financial reporting.
43
Table of Contents
PART II — OTHER INFORMATION
Item 1A. | Risk Factors |
Our business is subject to various risks. These risks are included in our 2008 Annual Report on Form 10-K under “Risk Factors”. There has been no material change in such risk factors.
Item 2. | Unregistered Sales of Equity Securities and Use of Proceeds |
On February 2, 2009, the Company sold 52 shares of its common stock to an existing shareholder for $2,496 in cash in a transaction that did not involve a public offering. In conducting this sale, the Company relied upon the exemption from registration provided by Section 4(2) of the Securities Act of 1933. The proceeds from the sales were used for general corporate purposes.
The following table sets forth information with respect to purchases made by the Company of its common stock during the three month period ended March 31, 2009:
Maximum | ||||||||||||||||
Total number | number of | |||||||||||||||
of shares | shares that | |||||||||||||||
purchased as | may yet be | |||||||||||||||
Total number | Average | part of publicly | purchased | |||||||||||||
of shares | price paid | announced | under the | |||||||||||||
Period | purchased | per share | programs | programs | ||||||||||||
January 1, 2009 -January 31, 2009(1) | 206,294 | $ | 48.00 | 206,294 | — | |||||||||||
February 1, 2009 -February 28, 2009(1) | 74,021 | $ | 48.00 | 74,021 | — | |||||||||||
March 1, 2009 -March 31, 2009 | — | — | — | — | ||||||||||||
Total | 280,315 | $ | 48.00 | 280,315 | ||||||||||||
(1) | On December 2, 2008, the Company announced that the Board of Directors had approved a share repurchase program, effective December 15, 2008, which authorized the repurchase of up to 300,000 of the Company’s shares at a price of $48.00 per share. This offer was subsequently increased to 375,000 shares. The full amount of authorized shares were repurchased prior to the March 3, 2009 expiration of the program. |
On April 14, 2009 the Company announced that the Board of Directors had approved a redesigned stock repurchase program. Under the redesigned program, the Company will repurchase up to 25,000 shares of the Company’s common stock at a price of $40.00 per share, limited to the repurchase of up to 1,000 shares from each beneficial holder. The program began April 15, 2009, and to participate, a holder must submit the necessary documentation with a completed Letter of Transmittal no later than the expiration date of the program on May 15, 2009, at 5:00 p.m.
Item 6. Exhibits
(A) Exhibits
3.1 | Amended and Restated Certificate of Incorporation of Hudson Valley Holding Corp.(1) |
3.2 | Amended and Restated By-Laws of Hudson Valley Holding Corp.(2) |
31.1 | Certification of the Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (filed herewith). |
31.2 | Certification of the Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (filed herewith). |
32.1 | Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (filed herewith). |
32.2 | Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (filed herewith). |
(1) | Incorporated herein by reference in this document to theForm 10-K filed on November 9, 2007. | |
(2) | Incorporated herein by reference in this document to the Form 10-Q filed on May 12, 2008. |
44
Table of Contents
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.
HUDSON VALLEY HOLDING CORP.
By: | /s/ Stephen R. Brown |
Stephen R. Brown
Senior Executive Vice President,
Chief Financial Officer and Treasurer
May 11, 2009
45