Average borrowings decreased 20.3% in 2006 as compared to a decrease of 15.2% in 2005 and an increase of 15.3% in 2004. The Corporation’s borrowings are primarily sweep accounts and Federal Home Loan Bank advances. In 2005 the Corporation increased its use of brokered time deposits and reduced its use of FHLB borrowings. These time deposits are priced comparably to FHLB advances and are not collateralized. These products continue to be an important part of the Corporation’s interest rate risk management strategy. The Corporation expects these trends to continue.
Management of liquidity is a continual process in the banking industry. The liquidity of the Bank reflects its ability to meet loan demand, the possible outflow of deposits and its ability to take advantage of market opportunities made possible by potential rate environments. Assuring adequate liquidity is achieved by managing the cashflow characteristics of the assets the Bank originates and the availability of alternative funding sources. The Bank monitors liquidity according to limits established in its liquidity policy. The policy establishes minimums for the ratio of cash and cash equivalents to total assets and the loan to deposit ratio. At December 31, 2006 the Bank was in compliance with these policy limits.
In addition to maintaining a stable source of core deposits, the Bank manages adequate liquidity by assuring continual cashflow in the securities portfolio. At December 31, 2006, the Corporation expects the securities portfolio to generate cash flow in the next 12 months of $39,014 and $101,381 in the next 36 months.
The Bank maintains borrowing capacity at the Federal Home Loan Bank of Cincinnati, the Federal Reserve Bank of Cleveland and Federal Fund lines with correspondent banks. Table 11 highlights the liquidity position of the Bank including total borrowing capacity and current unused capacity for each borrowing arrangement at December 31, 2006.
LNB Bancorp, Inc. is the financial holding company of The Lorain National Bank and conducts no operations. Its only ongoing need for liquidity is the payment of the quarterly shareholder dividend if declared and miscellaneous expenses related to the regulatory and reporting requirements of a publicly traded corporation. The holding company’s main source of operating liquidity is the dividend that it receives from The Lorain National Bank. Dividends from The Lorain National Bank are restricted by regulation. At December 31, 2006, the Corporation also had certain short-term investments in the amount of $28 which may be used for dividends and other corporate purposes. The holding company from time-to-time, has access to additional sources of liquidity through correspondent lines of credit, but no such agreements were in place and there was no amount outstanding as of December 31, 2006.
Shareholders’ equity at year-end 2006 totaled $68,697, compared to $68,406 and $70,574 at year-end 2005 and 2004 respectively. This increase in 2006 resulted from net income of $5,424, a change of $903 in comprehensive income, and a change of $48 for share-based compensation income. These were offset by the payment of dividends of $4,641, and an increase of $1,443 in treasury stock. The comprehensive income change was due to the change in the fair value of securities classified as available for sale and the change in the minimum pension liability.
The change in treasury stock is part of the Corporation’s previously disclosed program to buyback up to 5% of the Corporation’s outstanding common shares. The Corporation purchased 77,500 shares pursuant to this plan in 2006.
Total cash dividends declared in 2006 by the Board of Directors was $4,641 as compared to $4,760 in 2005. In each of the last 20 years, the Board of Directors has approved a regular cash dividend. Any future dividend is subject to Board approval.
The dividend payout ratio, representing dividends per share divided by earnings per share, was 85.7% and 74.2% for the years 2006 and 2005, respectively. The increase in the dividend payout ratio is above the long-term target ratio established by the Board of Directors, but represents the Corporation’s expectation for the near-term recovery of both revenue and earnings growth.
At December 31, 2006, the Corporation’s market capitalization was $103,421 compared to $117,055 at December 31, 2005. There were 2,052 shareholders of record at December 31, 2006. LNB Bancorp, Inc.’s common stock is traded on the NASDAQ Stock Market under the ticker symbol “LNBB.”
The Federal Reserve Board has established risk-based capital guidelines that must be observed by financial holding companies and banks. The Corporation has consistently maintained the regulatory capital ratios of the Corporation and its bank subsidiary, The Lorain National Bank, above “well capitalized” levels. For further information on capital ratios see Notes 1 and 14 of the Consolidated Financial Statements.
Contractual Obligations and Commitments
Contractual obligations and commitments of the Corporation at December 31, 2006 are as follows:
Table 12: Contractual Obligations
| | | Two and | | Four | | Over | | |
| One Year | | Three | | and Five | | Five | | |
| or Less | | Years | | Years | | Years | | Total |
| (Dollars in thousands) |
| Short-term borrowings | $ | 22,163 | | $ | — | | $ | — | | $ | — | | $ | 22,163 |
| FHLB advances | | 15,000 | | | 20,000 | | | — | | | 86 | | | 35,086 |
| Operating Leases | | 1,065 | | | 1,665 | | | 942 | | | 1,416 | | | 5,088 |
| Benefit payments | | 371 | | | 648 | | | 905 | | | 2,904 | | | 4,828 |
| Severance Payments | | 123 | | | 251 | | | 260 | | | 67 | | | 701 |
| Total | $ | 38,722 | | $ | 22,564 | | $ | 2,107 | | $ | 4,473 | | $ | 67,866 |
Pending Acquisition
On January 16, 2007, the Corporation announced the execution of a definitive agreement to acquire Morgan Bancorp, Inc. (“Morgan”) of Hudson, Ohio. The Corporation’s transaction is for the acquisition of Morgan and its wholly-owned subsidiary, which had approximately $129 million in assets at the date of the agreement.
Under the terms of the agreement, shareholders of Morgan will be entitled to receive cash, common shares of LNB, or a combination thereof, based upon an election process to occur prior to closing. Cash consideration is valued at $52.00 per Morgan share and stock consideration is fixed at an exchange ratio of 3.162 common shares of LNB Bancorp for each share of Morgan. The agreement further provides that, in the aggregate, 50% of the Morgan common shares will be exchanged for common shares of LNB Bancorp and the remaining 50% of the Morgan common shares will be exchanged for cash.
The transaction is valued at $26.5 million and is expected to close in the third quarter of 2007. The exchange is expected to qualify as a tax-free transaction to the Morgan shareholders. Following the merger, and upon receipt of all necessary regulatory approvals, Morgan Bank, N.A. will be merged with and into the Corporation.
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Not considering the merger-related charges discussed below, the merger is expected to be accretive to earnings per share by approximately $.08 or 6.7 percent in the first full fiscal year of operations (2008), due to the expected cost-saving benefits achieved through the integration of systems and support functions, improved branch efficiencies and increased alternative delivery channels for financial products and services. The Corporation expects to reduce noninterest expenses of the combined entity by approximately $1.7 million. This expense reduction, while not expected to be totally from the Morgan Bank operation, represents about 48 percent of Morgan’s expense base. The Corporation intends to recognize these expense reductions as quickly and prudently as possible. After-tax merger-related costs of approximately $1.5 – $2.0 million will be incurred to complete the merger.
Critical Accounting Policies and Estimates
The Corporation’s consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States of America. The Corporation follows general practices within the banking industry and application of these principles requires the Corporation’s management (“Management”) to make assumptions, estimates and judgments that affect the financial statements and accompanying notes. These assumptions, estimates and judgments are based on information available as of the date of the financial statements.
The most significant accounting policies followed by the Corporation are presented in Note 1 to the Consolidated Financial Statements. These policies are fundamental to the understanding of results of operation and financial conditions.
The accounting policies considered to be critical by Management are as follows:
- Allowance for loan losses
The allowance for loan losses is an amount that Management believes will be adequate to absorb probable credit losses inherent in the loan portfolio taking into consideration such factors as past loss experience, changes in the nature and volume of the portfolio, overall portfolio quality, loan concentrations, specific problem loans, and current economic conditions that affect the borrower’s ability to pay. Determination of the allowance is subjective in nature. Loan losses are charged off against the allowance when Management believes that the full collectibility of the loan is unlikely. Recoveries of amounts previously charged-off are credited to the allowance.
A loan is considered impaired when it is probable that not all principal and interest amounts will be collected according to the loan contract. Residential mortgage, installment and other consumer loans are evaluated collectively for impairment. Individual commercial loans exceeding size thresholds established by Management are evaluated for impairment. Impaired loans are written down by the establishment of a specific allowance where necessary. The fair value of all loans currently evaluated for impairment is collateral-dependent and therefore the fair value is determined by the fair value of the underlying collateral.
The Corporation maintains the allowance for loan losses at a level adequate to absorb Management’s estimate of probable credit losses inherent in the loan portfolio. The allowance is comprised of a general allowance, a specific allowance for identified problem loans and an unallocated allowance representing estimations pursuant to either Statement of Financial Accounting Standards (SFAS) No. 5 “Accounting for Contingencies,” or SFAS No. 114, “Accounting by Creditors for Impairment of a Loan.”
The general allowance is determined by applying estimated loss factors to the credit exposures from outstanding loans. For commercial and commercial real estate loans, loss factors are applied based on internal risk grades of these loans. Many factors are considered when these grades are assigned to individual loans such as current and past delinquency, financial statements of the borrower, current net realizable value of collateral and the general economic environment and specific economic trends affecting the portfolio. For residential real estate, installment and other loans, loss factors are applied on a portfolio basis. Loss factors are based on the Corporation’s historical loss experience and are reviewed for appropriateness on a quarterly basis, along with other factors affecting the collectibility of the loan portfolio.
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Specific allowances are established for all classified loans when Management has determined that, due to identified significant conditions, it is probable that a loss has been incurred that exceeds the general allowance loss factor from these loans. The unallocated allowance recognizes the estimation risk associated with the allocated general and specific allowances and incorporates Management’s evaluation of existing conditions that are not included in the allocated allowance determinations. These conditions are reviewed quarterly by Management and include general economic conditions, credit quality trends and internal loan review and regulatory examination findings.
Management believes that it uses the best information available to determine the adequacy of the allowance for loan losses. However, future adjustments to the allowance may be necessary and the results of operations could be significantly and adversely affected if circumstances differ substantially from the assumptions used in making the determinations.
The Corporation’s income tax expense and related current and deferred tax assets and liabilities are presented as prescribed in SFAS No. 109 “Accounting for Income Taxes”. SFAS No. 109 requires the periodic review and adjustment of tax assets and liabilities based on many assumptions. These assumptions include predictions as to the Corporation’s future profitability, as well as potential changes in tax laws that could impact the deductibility of certain income and expense items. Since financial results could be significantly different than these estimates, future adjustments may be necessary to tax expense and related balance sheet accounts.
New Accounting Pronouncements
Management is not aware of any proposed regulations or current recommendations by the Financial Accounting Standards Board or by regulatory authorities, which, if they were implemented, would have a material effect on the liquidity, capital resources, or operations of the Corporation. However, the potential impact of certain accounting pronouncements warrants further discussion.
SFAS No. 123 (revised) “Share Based Payments”
In December 2004, the Financial Accounting Standards Board (FASB) issued SFAS No. 123 (revised 2004) (“SFAS No. 123R”), Share Based Payments. SFAS No. 123R requires the Corporation to expense share-based payments, including employee stock options, based on their fair value. The Corporation adopted SFAS No. 123R effective as of January 1, 2006. Accordingly, the impact of the adoption of SFAS No. 123R’s fair value method is included in the Corporation’s results of operations. The adoption of SFAS No. 123R did not have a material impact on the Corporation’s results of operations, financial position or liquidity.
SFAS No. 154 “Accounting Changes and Error Corrections”
This Statement replaces APB Opinion No. 20, “Accounting Changes”, and FASB Statement No. 3, “Reporting Accounting Changes in Interim Financial Statements”, and changes the requirements for the accounting for and reporting of a change in accounting principle. This Statement applies to all voluntary changes in accounting principle. It also applies to changes required by an accounting pronouncement in the unusual instance that the pronouncement does not include specific transition provisions. When a pronouncement includes specific transition provisions, those provisions should be followed. This applies to accounting changes and corrections of errors made in fiscal years beginning after December 15, 2005. The adoption of SFAS No. 154 did not have a material impact on the Corporation’s results of operations, financial position or liquidity.
FASB Interpretation No. 48 “Accounting for Uncertainty in Income Taxes – An Intrepretation of FASB Statement No. 109”
In June 2006, the FASB issued FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes” (“Fin No. 48”). The interpretation clarifies the accounting for uncertainty in income taxes recognized in a company’s financial statements in accordance with Statement of Financial Accounting Standards No. 109, “Accounting for Income Taxes.” Specifically, Fin No. 48 prescribes a recognition threshold and a measurement
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attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. Fin No. 48 also provides guidance on the related derecognition, classification, interest and penalties, accounting for interim periods, disclosure and transition of uncertain tax positions. Fin No. 48 is effective for fiscal years beginning after December 15, 2006. The adoption of FIN 48 is not expected to have a material effect on our consolidated balance sheet, results of operations or cash flows.
FASB Statement No. 158, Employer’s Accounting for Defined Benefit Pension and Other Postretirement Plans, an amendment of FASB Statements No. 87, 88, 106, and 132R
In September 2006, the FASB issued Statement No. 158, Employer’s Accounting for Defined Benefit Pension and Other Postretirement Plans, an amendment of FASB Statements No. 87, 88, 106, and 132R (“SFAS 158”). SFAS 158 requires an entity to recognize in its balance sheet the funded status of its defined benefit postretirement plans, measured as the difference between the fair value of the plan assets and the benefit obligation. SFAS 158 also requires an entity to recognize changes in the funded status of a defined benefit postretirement plan within accumulated other comprehensive income, net of tax, to the extent such changes are not recognized in earnings as components of periodic net benefit cost. SFAS 158 is effective as of the end of the fiscal year ending after December 15, 2006. The adoption of FASB Statement No. 158 did not have a material effect on our consolidated balance sheet, results of operations or cash flows.
ITEM 7A. Quantitative and Qualitative Disclosures About Market Risk.
Risk Elements
Risk management is an essential aspect in operating a financial services company successfully and effectively. The most prominent risk exposures, for a financial services company, are credit, operational, interest rate, market, and liquidity risk. Credit risk involves the risk of uncollectible interest and principal balance on a loan when it is due. Fraud, legal and compliance issues, processing errors, technology and the related disaster recovery, and breaches in business continuation and internal controls are types of operational risks. Changes in interest rates affecting net interest income are considered interest rate risks. Market risk is the risk that a financial institution’s earnings and capital or its ability to meet its business objectives are adversely affected by movements in market rates or prices. Such movements include fluctuations in interest rates, foreign exchange rates, equity prices that affect the changes in value of available-for-sale securities, credit spreads, and commodity prices. The inability to fund obligations due to investors, borrowers, or depositors is liquidity risk. For the Corporation, the dominant risks are market risk and credit risk.
Credit Risk Management
Uniform underwriting criteria, ongoing risk monitoring and review processes, and well-defined, centralized credit policies dictate the management of credit risk for the Corporation. As such, credit risk is managed through the Bank’s allowance for loan loss policy which requires the loan officer, lending officers, and the loan review committee to manage loan quality. The Corporation’s credit policies are reviewed and modified on an ongoing basis in order to remain suitable for the management of credit risks within the loan portfolio as conditions change. The Corporation uses a loan rating system to properly classify and assess the credit quality of individual commercial loan transactions. The loan rating system is used to determine the adequacy of the allowance for loan losses for regulatory reporting purposes and to assist in the determination of the frequency of review for credit exposures.
Credit quality measures in the last six months of 2006 deteriorated as compared to the same period in 2005. Weaker general economic conditions, especially in residential and commercial development lending, combined with the need to further strengthen underwriting and portfolio management controls resulted in higher levels of nonperforming loans and potential problem loans.
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Nonperforming Assets
Total nonperforming assets consist of nonperforming loans, loans which have been restructured, and other foreclosed assets. As such, a loan is considered nonperforming if it is 90 days past due and/or in Management’s estimation the collection of interest on the loan is doubtful. Nonperforming loans no longer accrue interest and are accounted for on a cash basis. The classification of restructured loans involves the deterioration of a borrower’s financial ability leading to original terms being favorably modified or either principal or interest being forgiven.
Nonperforming loans at December 31, 2006 were $12,812 as compared to $6,494 at December 31, 2005, an increase of $6,318. Of this total, commercial loans were $10,322 as compared to $5,129 at December 31, 2005. These are commercial loans that are primarily secured by real estate and, in some cases, by SBA guarantees, and have either been charged-down to their realizable value or a specific reserve has been established for any collateral short-fall. At December 31, 2006, specific reserves on these loans totaled $1,115 as compared to $356 specifically reserved at December 31, 2005. The $5,194 increase in commercial nonperforming loans was the result of four commercial relationships totaling $4,393. These four loans are either well secured by real estate, or had specific reserves established at December 31, 2006. Potential problem loans are loans identified on Management’s classified credits list which include both loans that Management has concern with the borrowers’ ability to comply with the present repayment terms and loans that Management is actively monitoring due to changes in the borrowers financial condition. At December 31, 2006, potential problem loans increased $7,663, to $22,103. This compares to $14,440 at December 31, 2005, and reflects the categorization of three large real estate development relationships totaling $7,740 as potential loan problems.
Other foreclosed assets were $1,289 as of December 31, 2006, an increase of $857 from December 31, 2005. The $1,289 is comprised of eight commercial properties totaling $945 and four 1-4 family residential properties totaling $344. This compares to $211 in 1-4 family residential properties with the remainder in commercial properties as of December 31, 2005.
Table 13 sets forth nonperforming assets for the period ended December 31, 2006 and December 31, 2005.
Table 13: Nonperforming Assets
| | At December 31, |
| | 2006 | | 2005 | | 2004 | | 2003 | | 2002 |
| | (Dollars in thousands) |
| Commercial loans | $ | 10,322 | | | $ | 5,129 | | | $ | 3,255 | | | $ | 4,104 | | | $ | 1,213 | |
| Real estate mortgage | | 2,165 | | | | 1,182 | | | | 1,116 | | | | 821 | | | | 461 | |
| Home equity lines of credit | | 168 | | | | 25 | | | | 400 | | | | 89 | | | | 22 | |
| Purchased installment | | — | | | | — | | | | — | | | | — | | | | — | |
| Installment loans | | 157 | | | | 158 | | | | 150 | | | | 140 | | | | 167 | |
| Total nonperforming loans | | 12,812 | | | | 6,494 | | | | 4,921 | | | | 5,154 | | | | 1,863 | |
| Other foreclosed assets | | 1,289 | | | | 432 | | | | 420 | | | | 589 | | | | 22 | |
| Total nonperforming assets | $ | 14,101 | | | $ | 6,926 | | | $ | 5,341 | | | $ | 5,743 | | | $ | 1,885 | |
| Loans 90 days past due accruing interest | $ | — | | | $ | — | | | $ | — | | | $ | 46 | | | $ | 45 | |
| Allowance for loan losses to nonperforming loans | | 57.0 | % | | | 102.0 | % | | | 150.1 | % | | | 150.0 | % | | | 357.1 | % |
Provision and Allowance for Loan Losses
The allowance for loan losses is maintained by the Corporation at a level considered by Management to be adequate to cover probable credit losses inherent in the loan portfolio. The amount of the provision for loan losses charged to operating expenses is the amount necessary, in the estimation of Management, to maintain the allowance for loan losses at an adequate level. Management determines the adequacy of the allowance based upon past experience, changes in portfolio size and mix, relative quality of the loan portfolio and the rate of loan growth, assessments of current and future economic conditions, and information about specific borrower situations, including their financial position and collateral values, and other factors, which are subject to change over time.
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While Management’s periodic analysis of the allowance for loan losses may dictate portions of the allowance be allocated to specific problem loans, the entire amount is available for any loan charge-offs that may occur. Table 14 presents the detailed activity in the allowance for loan losses and related charge-off activity for the five years ended December 31, 2006.
Table 14: Analysis of Allowance for Loan Losses
| | Year Ended December31, |
| | 2006 | | 2005 | | 2004 | | 2003 | | 2002 |
| | (Dollars in thousands) |
| Balance at beginning of year | $ | 6,622 | | | $ | 7,386 | | | $ | 7,730 | | | $ | 6,653 | | | $ | 5,890 | |
| Charge-offs: | | | | | | | | | | | | | | | | | | | |
| Commercial | | (1,120 | ) | | | (1,582 | ) | | | (1,619 | ) | | | (1,207 | ) | | | (738 | ) |
| Real estate mortgage | | (171 | ) | | | (28 | ) | | | (21 | ) | | | (1 | ) | | | (15 | ) |
| Home equity lines of credit | | (81 | ) | | | (146 | ) | | | (109 | ) | | | (22 | ) | | | — | |
| Purchased installment | | (69 | ) | | | (65 | ) | | | — | | | | — | | | | — | |
| Installment | | (347 | ) | | | (435 | ) | | | (591 | ) | | | (728 | ) | | | (1,030 | ) |
| DDA Overdrafts | | (240 | ) | | | — | | | | — | | | | — | | | | — | |
| Total charge-offs | | (2,028 | ) | | | (2,256 | ) | | | (2,340 | ) | | | (1,958 | ) | | | (1,783 | ) |
| Recoveries: | | | | | | | | | | | | | | | | | | | |
| Commercial | | 153 | | | | 75 | | | | 71 | | | | 87 | | | | 163 | |
| Real estate mortgage | | 9 | | | | — | | | | — | | | | — | | | | 1 | |
| Home equity lines of credit | | — | | | | 1 | | | | 1 | | | | — | | | | — | |
| Purchased installment | | — | | | | 3 | | | | — | | | | — | | | | — | |
| Installment | | 150 | | | | 165 | | | | 176 | | | | 253 | | | | 182 | |
| DDA Overdrafts | | 114 | | | | — | | | | — | | | | — | | | | — | |
| Total Recoveries | | 426 | | | | 244 | | | | 248 | | | | 340 | | | | 346 | |
| Net Charge-offs | | (1,602 | ) | | | (2,012 | ) | | | (2,092 | ) | | | (1,618 | ) | | | (1,437 | ) |
| Provision for loan losses | | 2,280 | | | | 1,248 | | | | 1,748 | | | | 2,695 | | | | 2,200 | |
| Balance at end of year | $ | 7,300 | | | $ | 6,622 | | | $ | 7,386 | | | $ | 7,730 | | | $ | 6,653 | |
The allowance for loan losses at December 31, 2006 was $7,300 or 1.16% of outstanding loans, compared to $6,622 or 1.13% of outstanding loans at December 31, 2005. The allowance for loan losses was 57% and 102% of nonperforming loans at December 31, 2006 and 2005, respectively.
Net charge-offs for the year ended December 31, 2006 were $1,602, as compared to $2,012 for the year ended December 31, 2005. Net charge-offs as a percent of average loans in 2006 was .27% , as compared to .34% in 2005. Net charge-offs in 2006 were at the lowest level since 2002.
Direct deposit account overdrafts were charged to the allowance for loan losses for the first time in 2006 and accounted for $126 of the net charge-offs in 2006. These charges were previously expensed directly to noninterest expense. For comparison purposes the net overdraft charge-offs expensed to noninterest expense in 2005 was $31.
The provision charged to expense was $2,280 for the year ended December 31, 2006 as compared to $1,248 for the same period 2005. The provision for loan losses for the year ended December 31, 2006 was, in the opinion of management, adequate when balancing the lower charge-off trends, with the higher level of nonperforming loans and the level of potential problem loans at December 31, 2006. The resulting allowance for loan losses is, in the opinion of management, sufficient given its analysis of the information available about the portfolio at December 31, 2006. Management continues to work toward prompt resolution of nonperforming loan situations and to adjust underwriting standards as conditions warrant.
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Market Risk Management
The Corporation manages market risk through its Asset/Liability Management Committee (“ALCO”) at the Bank level governed by policies set forth and established by the Board of Directors. This committee assesses interest rate risk exposure through two primary measures: rate sensitive assets divided by rate sensitive liabilities and earnings-at-risk simulation of net interest income over the one year planning cycle and the longer term strategic horizon in order to provide a stable and steadily increasing flow of net interest income.
The difference between a financial institution’s interest rate sensitive assets and interest rate sensitive liabilities is referred to as the interest rate gap. An institution that has more interest rate sensitive assets than interest rate sensitive liabilities in a given period is said to be asset sensitive or has a positive gap. This means that if interest rates rise a corporation’s net interest income may rise and if interest rates fall its net interest income may decline. If interest sensitive liabilities exceed interest sensitive assets then the opposite impact on net interest income may occur. The usefulness of the gap measure is limited. It is important to know the gross dollars of assets and liabilities that may re-price in various time horizons, but without knowing the frequency and basis of the potential rate changes the predictive power of the gap measure is limited.
Two more useful tools in managing market risk are earnings-at-risk simulation and economic value of equity simulation. An earnings-at-risk analysis is a modeling approach that combines the repricing information from gap analysis, with forecasts of balance sheet growth and changes in future interest rates. The result of this simulation provides management with a range of possible net interest margin outcomes. Trends that are identified in earnings-at-risk simulation can help identify product and pricing decisions that can be made currently to assure stable net interest income performance in the future. At December 31, 2006, a “shock” treatment of the balance sheet, in which a parallel shift in the yield curve occurs and all rates increase immediately, indicates that in a +200 basis point shock, net interest income would increase $1,150, or 4.02%, and in a -200 basis point shock, net interest income would decrease $1,316, or 4.60%. The reason for the lack of symmetry in these results is the implied floors in many of the Corporation’s core funding which limits their downward adjustment from current offering rates. This analysis is done to describe a best or worst case scenario. Factors such as non-parallel yield curve shifts, management pricing changes, customer preferences and other factors are likely to produce different results.
The economic value of equity approach measures the change in the value of the Corporation’s equity as the value of assets and liabilities on the balance sheet change with interest rates. At December 31, 2006, this analysis indicated that a +200 basis point change in rates would reduce the value of the Corporation’s equity by 12.86% while a -200 basis point change in rates would increase the value of the Corporation’s equity by 11.65%.
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Table 15: GAP Analysis:
| | | | | | At December 31, 2006 |
| | Under 3 | | 3 to 12 | | | | | | | | | | | | | | After 15 | | | |
| | Months | | Months | | 1 to 3 Years | | 3-5 Years | | 5-15 Years | | Years | | Total |
| | | | | | (Dollars in thousands) |
| Earning Assets: | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Securities and short-term | | | | | | | | | | | | | | | | | | | | | | | | | | |
| investments | $ | 17,660 | | | $ | 21,560 | | | $ | 62,367 | | | $ | 34,578 | | | $ | 25,529 | | | $ | — | | | $ | 161,694 |
| Loans | | 381,679 | | | | 32,051 | | | | 53,691 | | | | 84,230 | | | | 76,131 | | | | 551 | | | | 628,333 |
| Total earning assets | $ | 399,339 | | | $ | 53,611 | | | $ | 116,058 | | | $ | 118,808 | | | $ | 101,660 | | | $ | 551 | | | $ | 790,027 |
| |
| Interest-bearing liabilities: | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Consumer time deposits | | 102,938 | | | | 190,743 | | | | 48,654 | | | | 5,309 | | | | — | | | | — | | | | 347,644 |
| Money Market deposits | | 109,775 | | | | — | | | | — | | | | — | | | | — | | | | — | | | | 109,775 |
| Savings deposits | | — | | | | — | | | | 80,086 | | | | — | | | | — | | | | — | | | | 80,086 |
| Interest-bearing demand | | | | | | | | | | | | | | | | | | | | | | | | | | |
| deposits | | — | | | | — | | | | 88,540 | | | | — | | | | — | | | | — | | | | 88,540 |
| Short-term borrowings | | 3,750 | | | | 11,250 | | | | — | | | | — | | | | — | | | | — | | | | 15,000 |
| Long-term debt | | — | | | | — | | | | 22,006 | | | | 2,000 | | | | 80 | | | | — | | | | 24,086 |
| Fed Funds, Repos, Other | | 22,163 | | | | — | | | | — | | | | — | | | | — | | | | — | | | | 22,163 |
| Total interest-bearing | | | | | | | | | | | | | | | | | | | | | | | | | | |
| liabilities | $ | 238,626 | | | $ | 201,993 | | | $ | 239,286 | | | $ | 7,309 | | | $ | 80 | | | $ | — | | | $ | 687,294 |
| |
| Cumulative interest rate gap | $ | 160,715 | | | $ | 12,332 | | | $ | (110,895 | ) | | $ | 604 | | | $ | 102,183 | | | $ | 102,734 | | | | |
| RSA/RSL | | 167 | % | | | 103.0 | % | | | 84.0 | % | | | 100.0 | % | | | 115.0 | % | | | 115.0 | % | | | — |
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Item 8. Financial Statements and Supplementary Data.
Table of Contents
| Report of Independent Registered Public Accounting Firm | 36 |
| Consolidated Balance Sheets as of December 31, 2006 and 2005 | 38 |
| Consolidated Statements of Income for the Years Ended December 31, 2006, 2005 and 2004 | 39 |
| Consolidated Statements of Shareholder’s Equity for the Years Ended | |
| December 31, 2006, 2005 and 2004 | 40 |
| Consolidated Statements of Cash Flows for the Years Ended December 31, 2006, 2005 and 2004 | 41 |
| Notes to Consolidated Financial Statements December 31, 2006, 2005 and 2004 | 42 |
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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board of Directors and Shareholders
LNB Bancorp, Inc.
We have audited the accompanying consolidated balance sheet of LNB Bancorp, Inc. and subsidiaries (the Corporation) as of December 31, 2006, and the related consolidated statements of income, shareholders’ equity, and cash flows for the year then ended. These financial statements are the responsibility of the Corporation’s management. Our responsibility is to express an opinion on these financial statements based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of LNB Bancorp, Inc. and subsidiaries as of December 31, 2006, and the consolidated results of their operations and their cash flows for the year then ended in conformity with U.S. generally accepted accounting principles.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of LNB Bancorp, Inc.’s internal control over financial reporting as of December 31, 2006, based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission, and our report dated February 23, 2007 expressed an unqualified opinion on management’s assessment of internal control over financial reporting and an adverse opinion on the effectiveness of internal control over financial reporting.
Auburn Hills, Michigan
February 23, 2007
36
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Shareholders
LNB Bancorp, Inc.:
We have audited the accompanying consolidated balance sheet of LNB Bancorp, Inc. and subsidiaries (Company) as of December 31, 2005, and the related consolidated statements of income, shareholders’ equity, and cash flows for each of the years in the two-year period ended December 31, 2005.. These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of LNB Bancorp, Inc. and subsidiaries as of December 31, 2005 and the results of their operations and their cash flows for each of the years in the two-year period ended December 31, 2005 in conformity with U.S. generally accepted accounting principles.
Cleveland, Ohio
March 13, 2006
37
| CONSOLIDATED BALANCE SHEETS |
| | At December 31, |
| | 2006 | | 2005 |
| | (Dollars in thousands |
| | except share amounts) |
| ASSETS | | | | | | | |
| Cash and due from Banks | $ | 29,122 | | | $ | 23,923 | |
| Federal funds sold and short-term investments | | — | | | | — | |
| Securities: | | | | | | | |
| Available for sale, at fair value | | 155,810 | | | | 151,629 | |
| Federal Home Loan Bank and Federal Reserve Bank Stock | | 3,248 | | | | 3,645 | |
| Total securities | | 159,058 | | | | 155,274 | |
| Loans: | | | | | | | |
| Loans held for sale | | — | | | | 2,586 | |
| Portfolio loans | | 628,333 | | | | 588,425 | |
| Allowance for loan losses | | (7,300 | ) | | | (6,622 | ) |
| Net loans | | 621,033 | | | | 584,389 | |
| Bank premises and equipment, net | | 12,599 | | | | 10,833 | |
| Other real estate owned | | 1,289 | | | | 432 | |
| Bank owned life insurance | | 14,755 | | | | 13,935 | |
| Goodwill and intangible assets, net | | 3,157 | | | | 3,321 | |
| Accrued interest receivable | | 3,939 | | | | 3,053 | |
| Other assets | | 6,146 | | | | 5,961 | |
| Total Assets | $ | 851,098 | | | $ | 801,121 | |
| |
| LIABILITIES AND SHAREHOLDERS’ EQUITY | | | | | | | |
| Deposits | | | | | | | |
| Demand and other noninterest-bearing | $ | 91,216 | | | $ | 87,597 | |
| Savings, money market and interest-bearing demand | | 278,401 | | | | 265,831 | |
| Certificates of deposit | | 347,644 | | | | 286,788 | |
| Total deposits | | 717,261 | | | | 640,216 | |
| Short-term borrowings | | 22,163 | | | | 32,616 | |
| Federal Home Loan Bank advances | | 35,086 | | | | 53,896 | |
| Accrued interest payable | | 3,698 | | | | 2,126 | |
| Accrued taxes, expenses and other liabilities | | 4,193 | | | | 3,861 | |
| Total Liabilities | | 782,401 | | | | 732,715 | |
| Shareholders’ Equity | | | | | | | |
| Common stock, par value $1 per share, authorized 15,000,000 shares, | | | | | | | |
| issued 6,771,867 shares at December 31, 2006 and 2005 | | 6,772 | | | | 6,772 | |
| Preferred Shares, Series A Voting, no par value, authorized 750,000 | | | | | | | |
| shares, none issued at December 31, 2006 and 2005 | | — | | | | — | |
| Additional paid-in capital | | 26,382 | | | | 26,334 | |
| Retained earnings | | 43,728 | | | | 42,945 | |
| Accumulated other comprehensive loss | | (2,093 | ) | | | (2,996 | ) |
| Treasury shares at cost, 328,194 shares at December 31, 2006 and 250,694 | | | | | | | |
| shares at December 31, 2005 | | (6,092 | ) | | | (4,649 | ) |
| Total Shareholders’ Equity | | 68,697 | | | | 68,406 | |
| Total Liabilities and Shareholders’ Equity | $ | 851,098 | | | $ | 801,121 | |
See accompanying notes to consolidated financial statements.
38
CONSOLIDATED STATEMENTS OF INCOME
| | Year Ended December 31, |
| | 2006 | | 2005 | | 2004 |
| | (Dollars in thousands except share and per share amounts) |
| Interest Income | | | | | | | | | | |
| Loans | $ | 42,800 | | $ | 38,145 | | | $ | 32,560 | |
| Securities: | | | | | | | | | | |
| U.S. Government agencies and corporations | | 5,699 | | | 4,487 | | | | 3,784 | |
| State and political subdivisions | | 464 | | | 439 | | | | 459 | |
| Other debt and equity securities | | 202 | | | 224 | | | | 301 | |
| Federal funds sold and short-term investments | | 77 | | | 137 | | | | 120 | |
| Total interest income | | 49,242 | | | 43,432 | | | | 37,224 | |
| Interest Expense | | | | | | | | | | |
| Deposits: | | | | | | | | | | |
| Certificates of deposit, $100 and over | | 6,884 | | | 3,937 | | | | 1,448 | |
| Other deposits | | 11,261 | | | 6,976 | | | | 5,366 | |
| Federal Home Loan Bank advances. | | 1,585 | | | 1,862 | | | | 2,066 | |
| Short-term borrowings | | 905 | | | 627 | | | | 222 | |
| Total interest expense | | 20,635 | | | 13,402 | | | | 9,102 | |
| Net Interest Income | | 28,607 | | | 30,030 | | | | 28,122 | |
| Provision for Loan Losses | | 2,280 | | | 1,248 | | | | 1,748 | |
| Net interest income after provision for loan losses | | 26,327 | | | 28,782 | | | | 26,374 | |
| Noninterest Income | | | | | | | | | | |
| Investment and trust services | | 2,079 | | | 1,940 | | | | 2,091 | |
| Deposit service charges | | 4,533 | | | 4,219 | | | | 4,187 | |
| Other service charges and fees | | 1,948 | | | 1,895 | | | | 2,794 | |
| Mortgage banking revenue | | — | | | 959 | | | | 364 | |
| Income from bank owned life insurance | | 739 | | | 600 | | | | 632 | |
| Other income | | 215 | | | 479 | | | | 592 | |
| Total fees and other income | | 9,514 | | | 10,092 | | | | 10,660 | |
| Securities gains (losses), net | | — | | | 173 | | | | (777 | ) |
| Gains on sale of loans | | — | | | 132 | | | | 181 | |
| Gains (loss) on sale of other assets, net | | 237 | | | (20 | ) | | | 378 | |
| Total noninterest income | | 9,751 | | | 10,377 | | | | 10,442 | |
| Noninterest Expense | | | | | | | | | | |
| Salaries and employee benefits | | 14,894 | | | 15,057 | | | | 12,995 | |
| Furniture and equipment | | 2,984 | | | 3,001 | | | | 2,784 | |
| Net occupancy | | 1,905 | | | 1,830 | | | | 1,633 | |
| Outside services | | 1,609 | | | 1,925 | | | | 1,182 | |
| Marketing and public relations. | | 1,279 | | | 1,249 | | | | 1,047 | |
| Supplies, postage and freight | | 1,236 | | | 1,245 | | | | 1,208 | |
| Telecommunications | | 751 | | | 1,167 | | | | 713 | |
| Ohio Franchise tax | | 817 | | | 772 | | | | 729 | |
| Electronic banking expenses | | 618 | | | 542 | | | | 1,257 | |
| Loan and Collection Expense | | 768 | | | 836 | | | | 642 | |
| Other expense | | 2,124 | | | 2,643 | | | | 2,100 | |
| Total noninterest expense | | 28,985 | | | 30,267 | | | | 26,290 | |
| Income before income tax expense | | 7,093 | | | 8,892 | | | | 10,526 | |
| Income tax expense | | 1,669 | | | 2,479 | | | | 3,051 | |
| Net Income | $ | 5,424 | | $ | 6,413 | | | $ | 7,475 | |
| Net Income Per Common Share | | | | | | | | | | |
| Basic | $ | 0.84 | | $ | 0.97 | | | $ | 1.13 | |
| Diluted | | 0.84 | | | 0.97 | | | | 1.13 | |
| Dividends declared | | 0.72 | | | 0.72 | | | | 0.72 | |
| Average Common Shares Outstanding | | | | | | | | | | |
| Basic | | 6,461,892 | | | 6,612,803 | | | | 6,631,392 | |
| Diluted | | 6,462,094 | | | 6,612,852 | | | | 6,632,324 | |
See accompanying notes to consolidated financial statements
39
CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY
| | | | | | | | Accumulated | | | | |
| | | | Additional | | | | Other | | | | |
| | Common | | Paid-In | | Retained | | Comprehensive | | Treasury | | |
| | Stock | | Capital | | Earnings | | Income (Loss) | | Stock | | Total |
| | (Dollars in thousands except share and per share amounts) |
| Balance, January 1, 2004 | $ | 6,766 | | $ | 26,243 | | $ | 38,715 | | | $ | (704 | ) | | $ | (2,885 | ) | | $ | 68,135 | |
| Comprehensive income: | | | | | | | | | | | | | | | | | | | | | |
| Net Income | | | | | | | | 7,475 | | | | | | | | | | | | 7,475 | |
| Other comprehensive loss, net of tax: | | | | | | | | | | | | | | | | | | | | | |
| Minimum pension liability | | | | | | | | | | | | (67 | ) | | | | | | | (67 | ) |
| Change in unrealized gains and | | | | | | | | | | | | | | | | | | | | | |
| losses on securities | | | | | | | | | | | | (526 | ) | | | | | | | (526 | ) |
| Total comprehensive income | | | | | | | | | | | | | | | | | | | | 6,882 | |
| Issuance of 23,103 shares of Treasury | | | | | | | | | | | | | | | | | | | | | |
| stock for stock options | | | | | | | | (121 | ) | | | | | | | 454 | | | | 333 | |
| Issuance of 460 shares of Treasury stock | | | | | | | | | | | | | | | | | | | | | |
| for employee benefit plans | | | | | | | | | | | | | | | | 1 | | | | 1 | |
| Common dividends declared, | | | | | | | | | | | | | | | | | | | | | |
| $.72 per share | | | | | | | | (4,777 | ) | | | | | | | | | | | (4,777 | ) |
| Balance, December 31, 2004 | $ | 6,766 | | $ | 26,243 | | $ | 41,292 | | | $ | (1,297 | ) | | $ | (2,430 | ) | | $ | 70,574 | |
| Comprehensive income: | | | | | | | | | | | | | | | | | | | | | |
| Net Income | | | | | | | | 6,413 | | | | | | | | | | | | 6,413 | |
| Other comprehensive loss, net of tax: | | | | | | | | | | | | | | | | | | | | | |
| Minimum pension liability | | | | | | | | | | | | (129 | ) | | | | | | | (129 | ) |
| Change in unrealized gains and | | | | | | | | | | | | | | | | | | | | | |
| losses on securities | | | | | | | | | | | | (1,570 | ) | | | | | | | (1,570 | ) |
| Total comprehensive income | | | | | | | | | | | | | | | | | | | | 4,714 | |
| Issuance of common stock under | | | | | | | | | | | | | | | | | | | | | |
| employment agreement | | 6 | | | 91 | | | | | | | | | | | | | | | 97 | |
| Purchase of 125,000 shares of | | | | | | | | | | | | | | | | | | | | | |
| Treasury Stock | | | | | | | | | | | | | | | | (2,219 | ) | | | (2,219 | ) |
| Common dividends declared, | | | | | | | | | | | | | | | | | | | | | |
| $.72 per share | | | | | | | | (4,760 | ) | | | | | | | | | | | (4,760 | ) |
| Balance, December 31, 2005 | $ | 6,772 | | $ | 26,334 | | $ | 42,945 | | | $ | (2,996 | ) | | $ | (4,649 | ) | | $ | 68,406 | |
| Comprehensive income: | | | | | | | | | | | | | | | | | | | | | |
| Net Income | | | | | | | | 5,424 | | | | | | | | | | | | 5,424 | |
| Other comprehensive income, net of tax: | | | | | | | | | | | | | | | | | | | | | |
| Minimum pension liability | | | | | | | | | | | | 47 | | | | | | | | 47 | |
| Change in unrealized gains | | | | | | | | | | | | | | | | | | | | | |
| and losses on securities | | | | | | | | | | | | 856 | | | | | | | | 856 | |
| Total comprehensive income | | | | | | | | | | | | | | | | | | | | 6,327 | |
| Share-based comprehensive income | | | | | 48 | | | | | | | | | | | | | | | 48 | |
| Purchase of 77,500 shares of | | | | | | | | | | | | | | | | | | | | | |
| Treasury Stock | | | | | | | | | | | | | | | | (1,443 | ) | | | (1,443 | ) |
| Common dividends declared, | | | | | | | | | | | | | | | | | | | | | |
| $.72 per share | | | | | | | | (4,641 | ) | | | | | | | | | | | (4,641 | ) |
| Balance, December 31, 2006 | $ | 6,772 | | $ | 26,382 | | $ | 43,728 | | | $ | (2,093 | ) | | $ | (6,092 | ) | | $ | 68,697 | |
See accompanying notes to consolidated financial statements
40
CONSOLIDATED STATEMENTS OF CASH FLOWS
| | Year Ended December31, | |
| | 2006 | | 2005 | | 2004 | |
| | (Dollars in thousands) |
| Operating Activities | | | | | | | | | | | |
| Net income | $ | 5,424 | | | $ | 6,413 | | | $ | 7,475 | |
| Adjustments to reconcile net income to net cash provided by | | | | | | | | | | | |
| (used in) operating activities: | | | | | | | | | | | |
| Provision for loan losses | | 2,280 | | | | 1,248 | | | | 1,748 | |
| Depreciation and amortization | | 1,631 | | | | 1,776 | | | | 1,808 | |
| Amortization of premiums and discounts | | 305 | | | | 999 | | | | 1,006 | |
| Amortization of intangibles | | 164 | | | | 169 | | | | 130 | |
| Impairment of goodwill | | — | | | | 311 | | | | — | |
| Amortization of deferred loan fees. | | 73 | | | | 297 | | | | 99 | |
| Federal deferred income tax expense (benefit) | | (564 | ) | | | 291 | | | | 183 | |
| Issuance of stock under employment agreement | | — | | | | 97 | | | | — | |
| Securities (gains) losses, net | | | | | | (173 | ) | | | 777 | |
| Share-based compensation expense, net of tax | | 48 | | | | — | | | | — | |
| Net gain from loan sales. | | — | | | | (132 | ) | | | (181 | ) |
| Net (gain) loss on sale of other assets | | (237 | ) | | | 20 | | | | (378 | ) |
| Net decrease in accrued interest receivable and other assets | | (2,875 | ) | | | (1,582 | ) | | | (1,919 | ) |
| Net decrease (increase) in accrued interest payable, | | | | | | | | | | | |
| taxes and other liabilities | | 1,846 | | | | 1,370 | | | | (562 | ) |
| Net cash provided by operating activities | | 8,095 | | | | 11,104 | | | | 10,186 | |
| Investing Activities | | | | | | | | | | | |
| Proceeds from maturities of held-to-maturity securities | | — | | | | — | | | | 1,330 | |
| Proceeds from sales of available-for-sale securities | | — | | | | 26,343 | | | | 34,941 | |
| Proceeds from maturities of available-for-sale securities | | 33,753 | | | | 4,576 | | | | 29,537 | |
| Purchase of held-to-maturity securities | | — | | | | — | | | | (16,596 | ) |
| Purchase of available-for-sale securities | | (36,963 | ) | | | (39,198 | ) | | | (48,928 | ) |
| Purchase of Federal Home Loan Bank Stock | | (173 | ) | | | (210 | ) | | | (154 | ) |
| Sale of Federal Home Loan Bank Stock | | 570 | | | | 598 | | | | — | |
| Net increase in loans made to customers | | (41,519 | ) | | | (23,529 | ) | | | (47,587 | ) |
| Proceeds from the sale of other real estate owned | | 1,487 | | | | 692 | | | | 1,185 | |
| Purchase of bank premises and equipment | | (2,417 | ) | | | (1,191 | ) | | | (2,604 | ) |
| Proceeds from sale of bank premises and equipment | | 668 | | | | 55 | | | | 672 | |
| Net cash paid in acquisitions | | — | | | | — | | | | (350 | ) |
| Net cash used in investing activities | | (44,594 | ) | | | (31,864 | ) | | | (48,554 | ) |
| Financing Activities. | | | | | | | | | | | |
| Net increase (decrease) in demand and other noninterest-bearing | | 3,619 | | | | (8,683 | ) | | | 9,587 | |
| Net increase (decrease) in savings, money market and | | | | | | | | | | | |
| interest-bearing demand | | 12,570 | | | | (14,338 | ) | | | 2,972 | |
| Net increase in certificates of deposit | | 60,856 | | | | 57,694 | | | | 11,640 | |
| Net increase (decrease) in short-term borrowings. | | (10,453 | ) | | | 997 | | | | 16,596 | |
| Proceeds from loan sales | | — | | | | 4,574 | | | | 3,329 | |
| Proceeds from Federal Home Loan Bank advances | | 287,000 | | | | 148,000 | | | | 104,256 | |
| Prepayment of Federal Home Loan Bank advances | | (305,810 | ) | | | (163,400 | ) | | | (106,500 | ) |
| Purchase of treasury stock | | (1,443 | ) | | | (2,219 | ) | | | — | |
| Redemption of treasury stock | | — | | | | — | | | | 334 | |
| Dividends paid | | (4,641 | ) | | | (4,760 | ) | | | (4,777 | ) |
| Net cash provided by financing activities | | 41,698 | | | | 17,865 | | | | 37,437 | |
| Net increase (decrease) in cash and cash equivalents. | | 5,199 | | | | (2,895 | ) | | | (931 | ) |
| Cash and cash equivalents, January 1 | | 23,923 | | | | 26,818 | | | | 27,749 | |
| Cash and cash equivalents, December 31 | $ | 29,122 | | | $ | 23,923 | | | $ | 26,818 | |
| Supplemental cash flow information | | | | | | | | | | | |
| Interest paid | $ | 19,335 | | | $ | 12,448 | | | $ | 9,376 | |
| Income taxes paid | | 2,768 | | | | 2,355 | | | | 2,060 | |
| Transfer of loans to other real estate owned | | 2,548 | | | | 704 | | | | 999 | |
| Transfer of held to maturity securities to available for sale | | — | | | | — | | | | 19,909 | |
See accompanying notes to consolidated financial statements
41
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in thousands except per share amounts)
(1) Summary of Significant Accounting Policies
Basis of Presentation
The consolidated financial statements include the accounts of LNB Bancorp, Inc. (the “Corporation”) and its wholly-owned subsidiary, The Lorain National Bank (the “Bank”). The consolidated financial statements also include the accounts of North Coast Community Development Corporation which is a wholly-owned subsidiary of the Bank. All intercompany transactions and balances have been eliminated in consolidation.
During the third quarter of 2006, dissolutions were filed with the Ohio Secretary of State for Charleston Insurance Agency, Inc., a wholly-owned subsidiary of LNB Bancorp, Inc., Charleston Title Agency, a 49%-owned subsidiary of LNB Bancorp, Inc., and LNB Mortgage, LLC, a wholly-owned subsidiary of The Lorain National Bank.
Use of Estimates
LNB Bancorp Inc. prepares its financial statements in conformity with U.S. generally accepted accounting principles (GAAP). As such, GAAP requires the Corporation’s management (“Management”) to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements, and revenues and expenses during the reporting period. Actual results could differ from those estimates. Areas involving the use of Management’s estimates and assumptions include the allowance for loan losses, the realization of deferred tax assets, fair values of certain securities, net periodic pension expense, and accrued pension costs recognized in the Corporation’s consolidated financial statements. Estimates that are more susceptible to change in the near term include the allowance for loan losses and the fair value of certain securities.
Segment Information
The Corporation’s activities are considered to be a single industry segment for financial reporting purposes. LNB Bancorp, Inc. is a financial holding company engaged in the business of commercial and retail banking, investment management and trust services, title insurance, and insurance with operations conducted through its main office and banking centers located throughout Lorain, eastern Erie and western Cuyahoga counties of Ohio. This market provides the source for substantially all of the Bank’s deposit, loan and trust activities and title insurance and insurance activities. The majority of the Bank’s income is derived from a diverse base of commercial, mortgage and retail lending activities and investments.
Statement of Cash Flows
For purposes of reporting in the Consolidated Statements of Cash Flows, cash and cash equivalents include currency on hand, amounts due from banks, Federal funds sold, and securities purchased under resale agreements. Generally, Federal funds sold and securities purchased under resale agreements are for one day periods.
Securities
Securities that are bought and held for the sole purpose of selling them in the near term are deemed trading securities with any related unrealized gains and losses reported in earnings. As of December 31, 2006 and December 31, 2005, LNB Bancorp, Inc. did not hold any trading securities. Securities that the Corporation has a positive intent and ability to hold to maturity are classified as held to maturity. As of December 31, 2006 and December 31, 2005, LNB Bancorp, Inc. did not hold any held to maturity securities. Securities that are not classified as trading or held to maturity are classified as available for sale. As of December 31, 2006 and December 31, 2005 all securities held by the Corporation are classified as available for sale and are carried at their fair value with unrealized gains and losses, net of tax, included as a component of accumulated other comprehensive income, net of tax. A decline
42
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands except per share amounts)
in the fair value of securities below cost that is deemed other than temporary is charged to earnings, resulting in establishment of a new cost basis for the security. Interest and dividends on securities, including amortization of premiums and accretion of discounts using the effective interest method over the period to maturity or call, are included in interest income.
Federal Reserve Bank (FRB) and Federal Home Loan Bank (FHLB) Stock
These stocks are required investments for institutions that are members of the Federal Reserve and Federal Home Loan Bank systems. The required investment in the common stock is based on a predetermined formula. These stocks are recorded at redemption value which approximates fair value.
Loans
Loans are reported at the principal amount outstanding, net of unearned income and premiums and discounts. Unearned income includes deferred fees, net of deferred direct incremental loan origination costs. Unearned income is amortized to interest income, over the contractual life of the loan, using the interest method. Deferred direct loan origination fees and costs are amortized to interest income, over the contractual life of the loan, using the interest method.
Held for sale loans are carried at the lower of amortized cost or estimated fair value, determined on an aggregate basis for each type of loan available for sale. Net unrealized losses are recognized by charges to income. Gains and losses on loan sales (sales proceeds minus carrying value) are recorded in noninterest income.
Loans are generally placed on nonaccrual status when they are 90 days past due for interest or principal or when the full and timely collection of interest or principal becomes uncertain. When a loan has been placed on nonaccrual status, the accrued and unpaid interest receivable is reversed against interest income. Generally, a loan is returned to accrual status when all delinquent interest and principal becomes current under the terms of the loan agreement and when the collectibility is no longer doubtful.
A loan is impaired when full payment under the original loan terms is not expected. Impairment is evaluated in total for smaller-balance loans of similar nature such as real estate mortgages and installment loans, and on an individual loan basis for commercial loans that are graded substandard. Factors considered by Management in determining impairment include payment status, collateral value, and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis. If a loan is impaired, a portion of the allowance may be allocated so that the loan is reported, net, at the present value of estimated future cash flows using the loan’s existing rate or at the fair value of collateral if repayment is expected solely from the collateral.
Allowance for Loan Losses
The allowance for loan losses is Management’s estimate of credit losses inherent in the loan portfolio at the balance sheet date. Management’s determination of the allowance, and the resulting provision, is based on judgments and assumptions, including general economic conditions, loan portfolio composition, loan loss experience, Management’s evaluation of credit risk relating to pools of loan and individual borrowers, sensitivity analysis and expected loss models, value of underlying collateral, and observations of internal loan review staff or banking regulators.
The provision for loan losses is determined based on Management’s evaluation of the loan portfolio and the adequacy of the allowance for loan losses under current economic conditions and such other factors which, in Management’s judgment, deserve current recognition. In addition, various regulatory agencies, as an integral part
43
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands except per share amounts)
of their examination process, periodically review the Corporation’s allowance for loan losses. Such agencies may require the Corporation to recognize additions to the allowance for loan losses based on their judgments about information available to them at the time of their examinations.
Bank Premises and Equipment
Bank premises and equipment are stated at cost less accumulated depreciation and amortization. Depreciation and amortization are computed generally on the straight-line method over the estimated useful lives of the assets. Upon the sale or other disposition of assets, the cost and related accumulated depreciation are retired and the resulting gain or loss is recognized. Maintenance and repairs are charged to expense as incurred, while renewals and improvements are capitalized. Software costs related to externally developed systems are capitalized at cost less accumulated amortization. Amortization is computed on the straight-line method over the estimated useful life.
Goodwill and Core Deposit Intangibles
Intangible assets arise from acquisitions and include goodwill and core deposit intangibles. Goodwill is the excess of purchase price over the fair value of identified net assets in acquisitions. Core deposit intangibles represent the value of depositor relationships purchased. The Corporation follows Statement of Financial Accounting Standards (SFAS) No. 142, “Goodwill and Other Intangible Assets” and SFAS No. 147 “Acquisitions of Certain Financial Institutions”. Goodwill is tested at least annually for impairment.
Core deposit intangible assets are amortized using the straight-line method over ten years and are subject to annual impairment testing.
Other Real Estate Owned
Other real estate owned (OREO) represent properties acquired through customer loan default. Real estate and other tangible assets acquired through foreclosure are carried as OREO on the Consolidated Balance Sheet at fair value, net of estimated costs to sell, not to exceed the cost of property acquired through foreclosure.
Investment and Trust Services Assets and Income
Property held by the Corporation in fiduciary or agency capacity for its customers is not included in the Corporation’s financial statements as such items are not assets of the Corporation. Income from the Investment and Trust Services Division is reported on an accrual basis.
Income Taxes
The Corporation and its wholly-owned subsidiaries file a consolidated Federal income tax return. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing 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 removed or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance is recorded when necessary to reduce deferred tax assets to amounts which are deemed more likely than not to be realized.
Comprehensive Income
The Corporation displays the accumulated balance of other comprehensive income as a separate component of shareholders’ equity.
44
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands except per share amounts)
Stock-Based Compensation
A broad based stock option incentive plan, the 2006 Stock Incentive Plan, was adopted by the Corporation’s shareholders on April 18, 2006. No awards are currently outstanding under the plan; however, at December 31, 2006 and December 31, 2005 the Corporation did have stock option agreements with two individuals outside of the 2006 Stock Incentive Plan. The Corporation also issued Stock Appreciation Rights (SAR’s) on January 20, 2006 to eight employees. SFAS No. 123R has been adopted for the accounting and disclosure of the stock option agreements and the SAR’s.
Common stock issued in 2005 under an employment agreement was charged to expense at the fair value of the common stock issued.
(2) Earnings Per Share
Basic earnings per share are computed by dividing income available to common shareholders by the weighted average number of shares outstanding during the year. Diluted earnings per share is computed based on the weighted average number of shares outstanding plus the effects of dilutive stock options outstanding during the year. Basic and diluted earnings per share are calculated as follows:
| | Year Ended December 31, |
| | 2006 | | 2005 | | 2004 |
| | (Dollars in thousands except per share amounts) |
| Weighted average shares outstanding used in | | | | | | | | |
| Basic Earnings per Share | | 6,461,892 | | | 6,612,803 | | | 6,631,392 |
| Dilutive effect of incentive stock options | | 202 | | | 49 | | | 932 |
| Weighted average shares outstanding used in | | | | | | | | |
| Diluted Earnings Per Share | | 6,462,094 | | | 6,612,852 | | | 6,632,324 |
| Net Income | $ | 5,424 | | $ | 6,413 | | $ | 7,475 |
| Basic Earnings Per Share | $ | 0.84 | | $ | 0.97 | | $ | 1.13 |
| Diluted Earnings Per Share | $ | 0.84 | | $ | 0.97 | | $ | 1.13 |
(3) Cash and Due from Banks
Federal Reserve Board regulations require the Bank to maintain reserve balances on deposits with the Federal Reserve Bank of Cleveland. The average required reserve balance was $12,834 and $13,116 during 2006 and 2005. The required ending reserve balance was $12,692 on December 31, 2006 and $12,619 on December 31, 2005.
(4) Goodwill and Intangible Assets
The Corporation assesses goodwill for impairment annually and more frequently in certain circumstances. Goodwill was assessed at a reporting unit level by applying a fair-value based test using discounted estimated future net cash flows. During 2005 it was determined that goodwill relating to LNB Mortgage, LLC had been impaired and all goodwill relating to this entity in the amount of $311 was written off.
The Corporation recorded core deposit intangibles in 1997, related to the acquisition of three branch offices from another bank. These core deposit intangibles are tested annually for impairment.
45
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands except per share amounts)
Core deposit intangibles are amortized over their estimated useful life of 10 years in accordance with SFAS No. 142. A summary of core deposit intangible assets follows:
| | At December 31, |
| | 2006 | | 2005 |
| | (Dollars in thousands) |
| Core deposit intangibles | $ | 1,287 | | $ | 1,288 |
| Less: accumulated amortization | | 1,208 | | | 1,095 |
| Carrying value of core deposit intangibles | $ | 79 | | $ | 193 |
The following intangible assets are included in the accompanying consolidated financial statements and are summarized as follows at December 31, 2006 and December 31, 2005 net of accumulated amortization:
| | At December 31, |
| | 2006 | | 2005 |
| | (Dollars in thousands) |
| Goodwill | $ | 2,827 | | $ | 2,827 |
| Mortgage servicing rights | | 251 | | | 301 |
| Core deposit intangibles assets | | 79 | | | 193 |
| Total goodwill and intangible assets | $ | 3,157 | | $ | 3,321 |
Amortization expense for intangible assets was $164, $169 and $130 for the years ended December 31, 2006, 2005 and 2004, respectively. The following table shows the estimated future amortization expense for amortizable intangible assets based on existing asset balances and the interest rate environment as of December 31, 2006. The Company’s actual amortization expense in any given period may be significantly different from the estimated amounts depending upon the addition of new intangible assets, changes in mortgage interest rates, prepayment rates and market conditions.
| | Core Deposits | | Mortgage | | |
| | Intangibles | | Servicing Rights | | Total |
| 2007 | | $79 | | | | $43 | | | | $122 | |
| 2008 | | — | | | | 39 | | | | 39 | |
| 2009 | | — | | | | 36 | | | | 36 | |
| 2010 | | — | | | | 34 | | | | 34 | |
| 2011 | | — | | | | 31 | | | | 31 | |
| 2012 and beyond | | — | | | | 68 | | | | 68 | |
46
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands except per share amounts)
(5) Securities
The amortized cost, gross unrealized gains and losses and fair values of securities at December 31, 2006 and 2005 follows:
| | At December 31, 2006 |
| | Amortized | | Unrealized | | Unrealized | | Fair |
| | Cost | | Gains | | Losses | | Value |
| | (Dollars in thousands) |
| Securities available for sale: | | | | | | | | | | | | | |
| U.S. Government agencies and corporations | $ | 146,632 | | | $ 25 | | | $ | (2,736 | ) | | $ | 143,921 |
| State and political subdivisions | | 11,494 | | | 308 | | | | (35 | ) | | | 11,767 |
| Equity securities | | 52 | | | 70 | | | | — | | | | 122 |
| Total Securities | $ | 158,178 | | | $403 | | | $ | (2,771 | ) | | $ | 155,810 |
| |
| | At December31, 2005 |
| | Amortized | | Unrealized | | Unrealized | | Fair |
| | Cost | | Gains | | Losses | | Value |
| | (Dollars in thousands) |
| Securities available for sale: | | | | | | | | | | | | | |
| U.S. Government agencies and corporations | $ | 146,010 | | | $ 8 | | | $ | (3,965 | ) | | $ | 142,053 |
| State and political subdivisions | | 9,231 | | | 249 | | | | (24 | ) | | | 9,456 |
| Equity securities | | 52 | | | 68 | | | | — | | | | 120 |
| Total Securities | $ | 155,293 | | | $325 | | | $ | (3,989 | ) | | $ | 151,629 |
The amortized cost, fair value and weighted average yield of debt securities by contractual maturity date at December 31, 2006 follows:
| | At December 31, 2006 |
| | | | | | | | | | | | Weighted |
| | Within | | 1 to | | 5 to | | After | | | | Average |
| | 1 Year | | 5 Years | | 10 Years | | 10 Years | | Total | | Yield |
| | (Dollars in thousands) |
| U.S. Government agencies and corporations | $ | 17,534 | | $ | 86,342 | | $ | 36,138 | | $ | 6,618 | | $ | 146,632 | | 4.06 | % |
| State and political subdivisions | | 193 | | | 1,285 | | | 3,351 | | | 6,665 | | | 11,494 | | 6.53 | |
| Equity securities | | 52 | | | — | | | — | | | — | | | 52 | | 5.26 | |
| Amortized cost | $ | 17,779 | | $ | 87,627 | | $ | 39,489 | | $ | 13,283 | | $ | 158,178 | | 4.27 | % |
| Fair Value | $ | 20,933 | | $ | 85,980 | | $ | 38,742 | | $ | 13,403 | | $ | 159,058 | | 4.34 | % |
Realized gains and losses related to securities available for sale for each of the three years ended December 31 follows:
| | 2006 | | 2005 | | 2004 |
| | (Dollars in thousands) |
| Gross realized gains | $ | — | | $ | 202 | | | $ | 395 | |
| Gross realized losses | | — | | | (29 | ) | | | (14 | ) |
| Other than temporary impairment losses | | — | | | — | | | | (1,158 | ) |
| Net Securities Gains (Losses) | $ | — | | $ | 173 | | | $ | (777 | ) |
| Proceeds from the sale of available for sale securities | $ | — | | $ | 26,343 | | | $ | 34,941 | |
47
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands except per share amounts)
U.S. Government agencies and corporations include callable and bullet agency issues and agency-backed mortgage backed securities. The maturity of mortgage backed securities is shown based on contractual maturity of the security although repayments occur each year. The carrying value of securities pledged to secure trust deposits, public deposits, line of credit, and for other purposes required by law amounted to $125,947 and $136,143 at December 31, 2006 and 2005, respectively. The fair value of securities is based on quoted market prices, where available. If quoted market prices are not available, fair value is estimated using the quoted market prices of comparable instruments. In 2004, the Corporation reclassified all held to maturity securities to available for sale. This transfer was made recognizing that the primary purpose of the securities portfolio is liquidity. The Corporation does not anticipate classifying any securities as held to maturity in the future. The securities portfolio contained $448 and $490 in non-rated securities of state and political subdivisions at December 31, 2006 and 2005, respectively. Based upon yield, term to maturity and market risk, the fair value of these securities was estimated to be $444 and $490 at December 31, 2006 and 2005, respectively. This portfolio of non-rated securities are short-term debt issues of two (2) local political subdivisions. Management reviewed these non-rated securities and has determined that there was no other than temporary impairment to their value at December 31, 2006 and 2005.
At December 31, 2004, the Corporation recorded a $1,158 pre-tax charge to earnings to recognize other than temporary impairment of the Corporation’s investment in FNMA and FHLMC preferred securities which were subsequently sold in 2005. Management has reviewed the securities portfolio and has determined that there is no other than temporary impairment to their value as of December 31, 2006.
The following is a summary of securities that had unrealized losses at December 31, 2006. The information is presented for securities that have been in an unrealized loss position for less than 12 months and for more than 12 months. There are temporary reasons why securities may be valued at less than amortized cost. Temporary reasons are that the current levels of interest rates as compared to the coupons on the securities held by the Corporation are higher and impairment is not due to credit deterioration. The Corporation has the ability to hold these securities until their value recovers. At December 31, 2006, the total unrealized losses of $2,771 were temporary in nature and due to the current level of interest rates.
| | At December 31, 2006 |
| | Less than 12 months | | 12 months orlonger | | Total |
| | Fair | | Unrealized | | | | Unrealized | | | | Unrealized |
| | Value | | Losses | | Fair Value | | Losses | | Fair Value | | Losses |
| | (Dollars in thousands) |
| U.S. Government agencies and | | | | | | | | | | | | | | | | | | | | |
| corporations | $ | 17,370 | | $ | (163 | ) | | $ | 126,551 | | $ | (2,573 | ) | | $ | 143,921 | | $ | (2,736 | ) |
| State and political subdivisions | | 193 | | | — | | | | 11,574 | | | (35 | ) | | | 11,767 | | | (35 | ) |
| Total | $ | 17,563 | | $ | (163 | ) | | $ | 138,125 | | $ | (2,608 | ) | | $ | 155,688 | | $ | (2,771 | ) |
| |
| | At December 31, 2005 |
| | Less than 12 months | | 12 months orlonger | | Total |
| | Fair | | Unrealized | | | | Unrealized | | | | Unrealized |
| | Value | | Losses | | Fair Value | | Losses | | Fair Value | | Losses |
| | (Dollars in thousands) |
| U.S. Government agencies and | | | | | | | | | | | | | | | | | | | | |
| corporations | $ | 29,873 | | $ | (451 | ) | | $ | 107,153 | | $ | (3,514 | ) | | $ | 137,026 | | $ | (3,965 | ) |
| State and political subdivisions | | — | | | — | | | | 1,170 | | | (24 | ) | | | 1,170 | | | (24 | ) |
| Total | $ | 29,873 | | $ | (451 | ) | | $ | 108,323 | | $ | (3,538 | ) | | $ | 138,196 | | $ | (3,989 | ) |
48
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands except per share amounts)
(6) Transactions with Related Parties
The Corporation, through its subsidiary Bank, makes loans to its officers, directors and their affiliates. These loans are made on substantially the same terms and conditions as transactions with non-related parties. A comparison of loans outstanding to related parties follows:
| | AtDecember31, |
| | 2006 | | 2005 |
| | (Dollars in thousands) |
| Amount at beginning of year | | $ | 24,801 | | | $ | 22,399 | |
| Additions (deductions) | | | | | | | | |
| New Loans | | | 6,201 | | | | 4,616 | |
| Repayments | | | (6,177 | ) | | | (4,361 | ) |
| Changes in directors and officers and /or affiliations, net | | | — | | | | 2,147 | |
| Amount at end of year | | $ | 24,825 | | | $ | 24,801 | |
The Corporation, through its subsidiary Bank, maintains deposits accounts for officers, directors and their affiliates. These deposits are made on substantially the same terms and conditions as transactions with non-related parties. The balances of deposit accounts for related parties at December 31, 2006 follows:
| | Number of | | Balance at |
| | Accounts | | December 31, 2006 |
| | (Dollars in thousands) |
| Savings deposits | | 21 | | $ | 57 |
| Consumer time deposits | | 14 | | | 160 |
| Demand deposits | | 41 | | | 1,167 |
(7) Loans and Allowance for Loan Losses
Loan balances at December 31, 2006 and December 31, 2005 are summarized as follows:
| | At December 31, |
| | 2006 | | 2005 |
| | (Dollars in thousands) |
| Real estate loans (includes loans secured primarily by real estate only): | | | | | | | | |
| Construction and land development | | $ | 105,633 | | | $ | 169,007 | |
| One to four family residential | | | 190,884 | | | | 164,671 | |
| Multi-family residential | | | 21,754 | | | | 4,676 | |
| Non-farm non-residential properties | | | 195,547 | | | | 117,090 | |
| Commercial and industrial loans | | | 40,820 | | | | 63,834 | |
| Personal loans to individuals: | | | | | | | | |
| Auto, single payment and installment | | | 65,780 | | | | 71,132 | |
| All other loans | | | 7,915 | | | | 601 | |
| Total loans | | | 628,333 | | | | 591,011 | |
| Allowance for loan losses | | | (7,300 | ) | | | (6,622 | ) |
| Net loans | | $ | 621,033 | | | $ | 584,389 | |
49
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands except per share amounts)
Activity in the allowance for loan losses for 2006, 2005 and 2004 is summarized as follows:
| | Year Ended December 31, |
| | 2006 | | 2005 | | 2004 |
| | | (Dollars in thousands) | | |
| Balance at the beginning of year | | $ | 6,622 | | | $ | 7,386 | | | $ | 7,730 | |
| Provision for loan losses | | | 2,280 | | | | 1,248 | | | | 1,748 | |
| Loans charged-off | | | (2,028 | ) | | | (2,256 | ) | | | (2,340 | ) |
| Recoveries on loans previously charged-off | | | 426 | | | | 244 | | | | 248 | |
| Balance at the end of the year | | $ | 7,300 | | | $ | 6,622 | | | $ | 7,386 | |
In 2005, substandard loans totaling $5.7 million were sold. As a result, loans charged-off in 2005 include $1,173 from the sale of these loans.
Information regarding impaired loans is as follows:
| | At December31, |
| | 2006 | | 2005 | | 2004 |
| | | (Dollars in thousands) |
| Year-end impaired loans with allowance for loan losses specifically | | | | | | | | | |
| allocated | | $ | 14,777 | | $ | 6,494 | | $ | 6,030 |
| Amount of allowance specifically allocated to impaired loans | | | 1,115 | | | 356 | | | 1,865 |
| Average of impaired loans during the year | | | 8,149 | | | 9,961 | | | 7,077 |
| Interest income recognized during impairment | | | 134 | | | 174 | | | 300 |
| Nonaccrual loans at year end | | | 12,812 | | | 6,494 | | | 4,921 |
(8) Bank Premises, Equipment and Leases
Bank premises and equipment are summarized as follows:
| | At December 31 |
| | 2006 | | 2005 |
| | | (Dollars in thousands) |
| Land | | $ | 2,662 | | $ | 2,322 |
| Buildings | | | 11,672 | | | 10,848 |
| Equipment | | | 12,785 | | | 11,656 |
| Purchased software | | | 3,548 | | | 2,938 |
| Leasehold improvements | | | 948 | | | 865 |
| Total cost | | $ | 31,615 | | $ | 28,629 |
| Less: accumulated depreciation and amortization | | | 19,016 | | | 17,796 |
| Net bank premises and equipment | | $ | 12,599 | | $ | 10,833 |
Depreciation of Bank premises and equipment charged to noninterest expense amounted to $1,389 in 2006, $1,503 in 2005 and $1,460 in 2004. Amortization of purchased software charged to noninterest expense amounted to $242 in 2006, $273 in 2005 and $348 in 2004.
50
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands except per share amounts)
At December 31, 2006, the Bank was obligated to pay rental commitments under noncancelable operating leases on certain Bank premises and equipment as follows:
| | Amount |
| | (Dollars in |
| | thousands) |
| 2007 | | | $1,065 | |
| 2008 | | | 952 | |
| 2009 | | | 713 | |
| 2010 | | | 563 | |
| 2011 | | | 379 | |
| 2012 and thereafter | | | 1,416 | |
| Total | | | $5,088 | |
Rentals paid under leases on Corporation premises and equipment amounted to $879 in 2006, $663 in 2005 and $378 in 2004.
(9) Deposits
Deposit balances at December 31, 2006 and December 31, 2005 are summarized as follows:
| | At December 31, |
| | 2006 | | 2005 |
| | (Dollars in thousands) |
| Demand and other noninterest-bearing | | $ | 91,216 | | $ | 87,597 |
| Interest checking | | | 88,541 | | | 77,297 |
| Savings | | | 80,086 | | | 93,906 |
| Money market accounts | | | 109,774 | | | 94,628 |
| Consumer time deposits | | | 225,947 | | | 199,190 |
| Public time deposits | | | 56,604 | | | 32,332 |
| Brokered time deposits | | | 65,093 | | | 55,266 |
| Total deposits | | $ | 717,261 | | $ | 640,216 |
The aggregate amount of certificates of deposit in denominations of $100,000 or more amounted to $161,655 and $124,626 at December 31, 2006 and 2005, respectively. Brokered time deposits totaling $65,093 and $55,266 at December 31, 2006 and 2005, respectively, are included in these totals.
The maturity distribution of certificates of deposit as of December 31, 2006 follows:
| | | | | | | | | | | | After | | | |
| | Within 12 | | After 12 months but | | After 36 months but | | 5 | | | |
| | months | | within 36 months | | within 60 months | | years | | Total |
| | (Dollars in thousands) |
| Consumer time deposits | | $183,226 | | | $37,319 | | | | $5,402 | | | | | $ | 225,947 |
| Public time deposits | | 54,054 | | | 2,550 | | | | — | | | — | | | 56,604 |
| Brokered time deposits | | 54,266 | | | 10,827 | | | | — | | | — | | | 65,093 |
| Total time deposits | | $291,546 | | | $50,696 | | | | $5,402 | | | $— | | $ | 347,644 |
51
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands except per share amounts)
(10) Short-Term Borrowings
The Corporation has a line of credit for advances and discounts with the Federal Reserve Bank of Cleveland. The amount of this line of credit varies on a monthly basis. The line is equal to 85% of the balances of qualified home equity lines of credit that are pledged as collateral. At December 31, 2006, the Bank had pledged approximately $7,965 in qualifying home equity lines of credit, resulting in an available line of credit of approximately $6,770. No amounts were outstanding at December 31, 2006 or December 31, 2005.
Short-term borrowings include securities sold under repurchase agreements and Federal funds purchased from correspondent banks. The table below presents information for short-term borrowings for the three years ended December 31, 2006.
| | Year ended December 31 |
| | 2006 | | 2005 | | 2004 |
| | (Dollars in thousands) |
| Securities sold under repurchase agreements | | | | | | | | | | | | |
| Period End: | | | | | | | | | | | | |
| Outstanding | | $ | 20,663 | | | $ | 16,116 | | | $ | 11,619 | |
| Interest rate | | | 4.17 | % | | | 3.90 | % | | | 2.23 | % |
| Average: | | | | | | | | | | | | |
| Outstanding | | $ | 16,889 | | | $ | 13,960 | | | $ | 14,749 | |
| Interest rate | | | 4.03 | % | | | 2.81 | % | | | 1.39 | % |
| Maximum month-end balance | | $ | 21,959 | | | $ | 19,198 | | | $ | 18,997 | |
| Federal funds purchased | | | | | | | | | | | | |
| Period End: | | | | | | | | | | | | |
| Outstanding | | $ | 1,500 | | | $ | 16,500 | | | $ | 20,000 | |
| Interest rate | | | 5.50 | % | | | 4.45 | % | | | 2.44 | % |
| Average: | | | | | | | | | | | | |
| Outstanding | | $ | 3,870 | | | $ | 5,921 | | | $ | 3,264 | |
| Interest rate | | | 5.53 | % | | | 3.81 | % | | | 1.48 | % |
| Maximum month-end balance | | $ | 10,800 | | | $ | 30,000 | | | $ | 20,000 | |
52
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands except per share amounts)
(11) Federal Home Loan Bank Advances
Federal Home Loan Bank advances amounted to $35,086 and $53,896 at December 31, 2006 and December 31, 2005 respectively. All advances are bullet maturities with no call features. At December 31, 2006, collateral pledged for FHLB advances consisted of qualified real estate mortgage loans, home equity lines of credit and investment securities of $98,574, $40,454 and $1,000 respectively. The maximum borrowing capacity of the Bank at December 31, 2006 was $79,474 with unused collateral borrowing capacity of $44,388. The Bank maintains a $40,000 cash management line of credit (CMA) with the FHLB. The following table presents the activity on this line of credit for the three years ended December 31, 2006.
| | Year Ended December 31, |
| | 2006 | | 2005 | | 2004 |
| | (Dollars in thousands) |
| Cash management advances (CMA) from the Federal | | | | | | | | | | | | |
| Home Loan Bank (FHLB) | | | | | | | | | | | | |
| Period End: | | | | | | | | | | | | |
| Outstanding | | $ | — | | | $ | — | | | $ | — | |
| Interest rate | | | 0.00 | % | | | 0.00 | % | | | 0.00 | % |
| Average: | | | | | | | | | | | | |
| Outstanding | | $ | 14,645 | | | $ | 12,125 | | | $ | 10,961 | |
| Interest rate | | | 5.39 | % | | | 2.93 | % | | | 1.16 | % |
Maturities of FHLB advances outstanding at December 31, 2006 and 2005 are as follows:
| | 2006 | | 2005 |
| | (Dollars in thousands) |
| FHLB advance - 4.27%, paid in 2006 | | $ | — | | $ | 12,801 |
| FHLB advance - 4.92%, paid in 2006 | | | — | | | 1,000 |
| FHLB advance - 2.70%, paid in 2006 | | | — | | | 10,000 |
| FHLB advance - 2.95%, due January 30, 2007 | | | 10,000 | | | 10,000 |
| FHLB advance - 3.55%, due November 21, 2007 | | | 5,000 | | | 5,000 |
| FHLB advance - 3.33%, due February 8, 2008 | | | 5,000 | | | 5,000 |
| FHLB advance - 4.99% due November 28, 2008 | | | 5,000 | | | — |
| FHLB advance - 3.36%, due March 27, 2009 | | | 10,000 | | | 10,000 |
| FHLB advance - 3.55%, due January 1, 2014 | | | 86 | | | 95 |
| Total FHLB advances | | $ | 35,086 | | $ | 53,896 |
(12) Income Taxes
The provision for income taxes consists of the following:
| | Year Ended December31, |
| | 2006 | | 2005 | | 2004 |
| | (Dollars in thousands) |
| Income Taxes: | | | | | | | | | | |
| Federal current expense | | $ | 2,233 | | | $ | 2,188 | | $ | 2,868 |
| Federal deferred expense (benefit) | | | (564 | ) | | | 291 | | | 183 |
| State and city expense | | | — | | | | — | | | — |
| Total Income Taxes | | $ | 1,669 | | | $ | 2,479 | | $ | 3,051 |
53
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands except per share amounts)
The following presents a reconciliation of income taxes as shown on the Consolidated Statements of Income with that which would be computed by applying the statutory Federal tax rate of 34% to income before taxes in 2006 and 2005, and 35% to income before income taxes in 2004.
| | Year Ended December31, |
| | 2006 | | 2005 | | 2004 |
| | (Dollars in thousands) |
| Computed “expected” tax expense | | $ | 2,412 | | | $ | 3,023 | | | $ | 3,685 | |
| Increase (reduction) in income taxes resulting from: | | | | | | | | | | | | |
| Tax exempt interest on obligations of state and political | | | | | | | | | | | | |
| subdivisions | | | (181 | ) | | | (136 | ) | | | (152 | ) |
| Tax exempt interest on bank owned life insurance | | | (251 | ) | | | (204 | ) | | | (215 | ) |
| New markets tax credit | | | (401 | ) | | | (276 | ) | | | (225 | ) |
| Other, net | | | 90 | | | | 72 | | | | (42 | ) |
| Total Income Taxes | | $ | 1,669 | | | $ | 2,479 | | | $ | 3,051 | |
Net deferred Federal tax assets are included in other assets on the consolidated Balance Sheets. Management believes that it is more likely than not that the deferred Federal tax assets will be realized. At December 31, 2006 and 2005 there was no valuation allowance required. The tax effects of temporary differences that give rise to significant portions of the deferred Federal tax assets and deferred Federal tax liabilities are presented below.
| | At December 31 |
| | 2006 | | 2005 |
| | (Dollars in thousands) |
| Deferred Federal tax assets: | | | | | | | | |
| Allowance for loan losses | | $ | 2,482 | | | $ | 2,251 | |
| Deferred compensation | | | 470 | | | | 544 | |
| Minimum pension liability | | | 273 | | | | 297 | |
| Equity based compensation | | | 32 | | | | — | |
| Unrealized loss on securities available for sale | | | 805 | | | | 1,246 | |
| Other, net | | | 50 | | | | 9 | |
| Total deferred Federal tax assets | | $ | 4,112 | | | $ | 4,347 | |
| Deferred Federal tax liabilities: | | | | | | | | |
| Bank premises and equipment depreciation | | $ | (175 | ) | | $ | (320 | ) |
| FHLB stock dividends | | | (177 | ) | | | (440 | ) |
| Intangible asset amortization | | | (215 | ) | | | (125 | ) |
| Accrued loan fees and costs | | | (166 | ) | | | (181 | ) |
| Deferred charges | | | (94 | ) | | | (93 | ) |
| Prepaid pension | | | (133 | ) | | | (136 | ) |
| Total deferred Federal tax liabilities | | | (960 | ) | | | (1,295 | ) |
| Net deferred Federal tax assets | | $ | 3,152 | | | $ | 3,052 | |
54
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands except per share amounts)
(13) Shareholders’ Equity
Preferred Stock
The Corporation is authorized to issue up to 1,000,000 shares of Voting Preferred Stock, no par value. As of December 31, 2006 and 2005, no such stock had been issued. The Board of Directors of the Corporation is authorized to provide for the issuance of one or more series of Voting Preferred Stock and establish the dividend rate, dividend dates, whether dividends are cumulative, liquidation prices, redemption rights and prices, sinking fund requirements, conversion rights, and restrictions on the issuance of any series of Voting Preferred Stock. The Voting Preferred Stock may be issued with conversion rights to common stock and may rank prior to the common stock in dividends, liquidation preferences, or both. The Corporation has authorized 750,000 Series A Voting Preferred Shares none of which have been issued.
Common Stock
The Corporation is authorized to issue up to 15,000,000 shares of common stock. Common shares outstanding were 6,443,673 and 6,521,173 at December 31, 2006 and December 31, 2005, respectively.
Common Stock Repurchase Plan and Treasury Stock
On July 28, 2005, the Board of Directors authorized the repurchase of up to 5% of the outstanding shares of the common stock of the Corporation, or approximately 332,000 shares. The repurchased shares will be used primarily for qualified employee benefit plans, incentive stock option plans, stock dividends and other corporate purposes. At December 31, 2006 and December 31, 2005, LNB Bancorp, Inc. held 328,194 shares and 250,694 shares of common stock as Treasury Stock under this plan at a total cost of $6,092 and $4,649 respectively.
Shareholder Rights Plan
On October 24, 2000, the Board of Directors of LNB Bancorp, Inc. adopted a Shareholder Rights Plan which was amended as of May 17, 2006. The rights plan is designed to prevent a potential acquirer from exceeding a prescribed ownership level in LNB Bancorp, Inc., other than in the context of a negotiated acquisition involving the Board of Directors. If the prescribed level is exceeded, the rights become exercisable and, following a limited period for the Board of Directors to redeem the rights, allow shareholders, other than the potential acquirer that triggered the exercise of the rights, to purchase Preferred Share Units of the Corporation having characteristics comparable to the Corporation’s Common Shares, at 50% of market value. This would dilute the potential acquirer’s ownership level and voting power, making an acquisition of the Corporation without prior Board approval prohibitively expensive.
The Shareholder Rights Plan provided for the distribution of one Preferred Share Purchase Right as a dividend on each outstanding LNB Bancorp, Inc. Common Share held as of the close of business on November 6, 2000. One Preferred Share Purchase Right will also be distributed for each Common Share issued after November 6, 2000. Each right entitles the registered holder to purchase from LNB Bancorp, Inc. Units of a new series of Voting Preferred Shares, no par value, at 50% of market value, if a person or group acquires 15% or more of LNB Bancorp, Inc.’s Common Shares. Each Unit of the new Preferred Shares has terms designed to make it the economic equivalent of one Common share.
LNBB Direct Stock Purchase and Dividend Reinvestment Plan
The Board of Directors adopted the LNBB Direct Stock Purchase and Dividend Reinvestment Plan (the Plan) effective June 2001, replacing the former LNB Bancorp, Inc. Dividend Reinvestment Plan. The Plan authorized the sale of 500,000 shares of the Corporation’s common shares to shareholders who choose to invest all or a portion of their cash dividends plus additional cash payments for LNB Bancorp, Inc. common stock. The Corporation
55
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands except per share amounts)
did not issue shares pursuant to the Plan in 2006 and no shares were purchased in the open market at the current market price. Similarly, the Corporation did not issue shares pursuant to the Plan in 2005 while 12,538 shares were purchased in the open market at the current market price.
Dividend Restrictions
Dividends paid by the Bank are the primary source of funds available to the Corporation for payment of dividends to shareholders and for other working capital needs. The payment of dividends by the Bank to the Corporation is subject to restrictions by the Office of the Comptroller of Currency. These restrictions generally limit dividends to the current and prior two years’ retained earnings. At December 31, 2006, approximately $5,523 of the Bank’s retained earnings was available for dividends to the Corporation. In addition to these restrictions, as a practical matter, dividend payments cannot reduce regulatory capital levels below the Corporation’s regulatory capital requirements and minimum regulatory guidelines. These restrictions do not presently limit the Corporation from paying normal dividends.
(14) Regulatory Capital
The Corporation and the Bank are subject to risk-based capital guidelines issued by the Board of Governors of the Federal Reserve Board and the Office of Comptroller of Currency. These guidelines are used to evaluate capital adequacy and include required minimums as discussed below. The Corporation and the Bank are subject to an array of banking, Federal Deposit Insurance Corporation, U.S. Federal, including the FDIC Improvement Act. The FDIC Improvement Act established five capital categories ranging from “well capitalized” to “critically undercapitalized.” These five capital categories are used by the Federal Deposit Insurance Corporation to determine prompt corrective action and an institution’s semi-annual FDIC deposit insurance premium assessments.
Capital adequacy guidelines and prompt corrective action regulations involve quantitative measures of assets, liabilities, and certain off-balance sheet items calculated under regulatory accounting practices. Capital amounts and classifications are also subject to qualitative judgments by regulators about components, risk weightings, and other factors and the regulators can lower classifications in certain cases. Failure to meet various capital requirements can initiate regulatory action that could have a direct material effect on the consolidated financial statements.
The prompt corrective action regulations provide for five categories which in declining order are: “well capitalized,” “adequately capitalized,” “undercapitalized,” “significantly undercapitalized,” and “critically under-capitalized.” To be considered “well capitalized”, an institution must generally have a leverage capital ratio of at least five percent, a Tier I risk-based capital ratio of at least six percent, and a total risk-based capital ratio of at least ten percent.
Total capital (Tier 1 and Tier 2) amounted to $74,629 at December 31, 2006, representing 10.56% of net risk-adjusted assets and $74,975 and 11.39%, respectively, at December 31, 2005. Tier 1 capital of $67,329 at December 31, 2006 represented 9.53% of risk weighted assets, and $68,353 and 10.38% at December 31, 2005.
56
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands except per share amounts)
At December 31, 2006 and 2005, the capital ratios for the Corporation and its wholly-owned subsidiary, The Lorain National Bank, exceeded the ratios required to be “well capitalized.” The “well capitalized” status affords the Bank the ability to operate with the greatest flexibility under current laws and regulations. The Comptroller of the Currency’s most recent notification categorized the Bank as “well capitalized” under the regulatory framework for prompt corrective action. There are no conditions or events since that notification that Management believes have changed the Bank’s category. Analysis of The Lorain National Bank and LNB Bancorp, Inc.’s Regulatory Capital and Regulatory Capital Requirements follows:
| | December 31 2006 | | December 31 2005 |
| | Amount | | Ratio | | Amount | | Ratio |
| | (Dollars in thousands) |
| Total capital (risk weighted) | | | | | | | | | | | | |
| Consolidated | | $ | 74,629 | | 10.56 | % | | $ | 74,975 | | 11.39 | % |
| Bank | | | 74,568 | | 10.55 | | | | 74,259 | | 11.28 | |
| Tier 1 capital (risk weighted) | | | | | | | | | | | | |
| Consolidated | | | 67,329 | | 9.53 | | | | 68,353 | | 10.38 | |
| Bank | | | 63,293 | | 8.95 | | | | 63,637 | | 9.67 | |
| Tier 1 capital (average assets) | | | | | | | | | | | | |
| Consolidated | | | 67,329 | | 8.07 | | | | 68,353 | | 8.57 | |
| Bank | | | 63,293 | | 7.73 | | | | 63,637 | | 7.84 | |
| Well Capitalized: | | | | | | | | | | | | |
| Total capital (risk weighted) | | | | | | | | | | | | |
| Consolidated | | $ | 70,685 | | 10.00 | % | | $ | 65,830 | | 10.00 | % |
| Bank | | | 70,682 | | 10.00 | | | | 65,828 | | 10.00 | |
| Tier 1 capital (risk weighted) | | | | | | | | | | | | |
| Consolidated | | | 42,411 | | 6.00 | | | | 39,498 | | 6.00 | |
| Bank | | | 42,409 | | 6.00 | | | | 39,497 | | 6.00 | |
| Tier 1 capital (average assets) | | | | | | | | | | | | |
| Consolidated | | | 41,694 | | 5.00 | | | | 39,900 | | 5.00 | |
| Bank | | | 40,914 | | 5.00 | | | | 40,582 | | 5.00 | |
| Minimum Required: | | | | | | | | | | | | |
| Total capital (risk weighted) | | | | | | | | | | | | |
| Consolidated | | $ | 56,548 | | 8.00 | % | | $ | 52,664 | | 8.00 | % |
| Bank | | | 56,786 | | 8.00 | | | | 52,662 | | 8.00 | |
| Tier 1 capital (risk weighted) | | | | | | | | | | | | |
| Consolidated | | | 28,274 | | 4.00 | | | | 26,332 | | 4.00 | |
| Bank | | | 28,273 | | 4.00 | | | | 26,331 | | 4.00 | |
| Tier 1 capital (average assets) | | | | | | | | | | | | |
| Consolidated | | | 33,355 | | 4.00 | | | | 31,920 | | 4.00 | |
| Bank | | | 32,731 | | 4.00 | | | | 32,465 | | 4.00 | |
57
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands except per share amounts)
(15) Parent Company Financial Information
LNB Bancorp, Inc.’s (parent company only) condensed balance sheets as of December 31, 2006 and 2005, and the condensed statements of income and cash flows for the years ended December 31, 2006, 2005 and 2004 are as follows:
| | Year ended December 31, |
| Condensed Balance Sheets | | | 2006 | | 2005 |
| | (Dollars in thousands) |
| Assets: | | | | | | |
| Cash | | $ | 28 | | $ | 568 |
| Short-term investments | | | — | | | — |
| Investment in The Lorain National Bank | | | 64,637 | | | 63,690 |
| Investment in Charleston Insurance, Inc. | | | — | | | 127 |
| Other investments | | | 7 | | | 7 |
| Note receivable - The Lorain National Bank | | | 4,000 | | | 4,000 |
| Other assets | | | 45 | | | 34 |
| Total Assets | | $ | 68,717 | | $ | 68,426 |
| Liabilities and Shareholder’s Equity | | | | | | |
| Other liabilities | | $ | 20 | | $ | 20 |
| Shareholders’ equity | | | 68,697 | | | 68,406 |
| Total Liabilities and Shareholders’ Equity | | $ | 68,717 | | $ | 68,426 |
| | Yearended December31, |
| Condensed Statements of Income | | | 2006 | | 2005 | | 2004 |
| | | (Dollars in thousands) |
| Income | | | | | | | | | |
| Interest income | | $ | 272 | | $ | 321 | | $ | 324 |
| Cash dividend from The Lorain National Bank | | | 5,300 | | | 3,575 | | | 4,777 |
| Other income | | | 23 | | | 72 | | | 45 |
| Gain on sale of available for sale securities | | | — | | | 73 | | | — |
| Total Income | | | 5,595 | | | 4,041 | | | 5,146 |
| Expenses | | | | | | | | | |
| Other expenses | | | 178 | | | 341 | | | 397 |
| Income before income taxes and equity in undistributed net income of | | | | | | | | | |
| subsidiaries | | | 5,417 | | | 3,700 | | | 4,749 |
| Income tax (benefit) expense | | | 36 | | | 35 | | | 7 |
| Equity in undistributed net income of subsidiaries | | | 43 | | | 2,748 | | | 2,733 |
| Net Income | | $ | 5,424 | | $ | 6,413 | | $ | 7,475 |
58
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands except per share amounts)
| | | Year ended December 31, |
| | | 2006 | | | 2005 | | | 2004 |
| Condensed Statements of Cash Flows | | | (Dollars in thousands) |
| Net Income | | $ | 5,424 | | | $ | 6,413 | | | $ | 7,475 | |
| Adjustments to reconcile net income to net cash provided by | | | | | | | | | | | | |
| (used in) operating activities: | | | | | | | | | | | | |
| Equity in undistributed net income of The Lorain National | | | | | | | | | | | | |
| Bank | | | (43 | ) | | | (2,748 | ) | | | (2,733 | ) |
| Gain on sale of available for sale securities | | | — | | | | (73 | ) | | | — | |
| Issuance of common stock under employment agreements | | | — | | | | 97 | | | | — | |
| Equity in undistributed net income of non-bank subsidiaries | | | — | | | | 36 | | | | 35 | |
| Net change in other assets and liabilities | | | 163 | | | | (132 | ) | | | (1,235 | ) |
| Net cash provided by operating activities | | | 5,544 | | | | 3,593 | | | | 3,542 | |
| Cash Flows from Investing Activities: | | | | | | | | | | | | |
| Proceeds from sales of available for sale securities | | | — | | | | 73 | | | | — | |
| Net cash provided by investing activities | | | — | | | | 73 | | | | — | |
| Cash Flows from Financing Activities: | | | | | | | | | | | | |
| Purchase of treasury stock | | | (1,443 | ) | | | (2,219 | ) | | | — | |
| Issuance of treasury stock for stock options | | | — | | | | — | | | | 333 | |
| Dividends paid | | | (4,641 | ) | | | (4,760 | ) | | | (4,777 | ) |
| Net cash used in financing activities | | | (6,084 | ) | | | (6,979 | ) | | | (4,444 | ) |
| Net increase (decrease) in cash equivalents | | | (540 | ) | | | (3,313 | ) | | | (902 | ) |
| Cash and cash equivalents at beginning of year | | | 568 | | | | 3,881 | | | | 4,782 | |
| Cash and cash equivalents at end of year | | $ | 28 | | | $ | 568 | | | $ | 3,880 | |
(16) Retirement Pension Plan
The Bank’s non-contributory defined benefit pension plan (the Plan) covers substantially all of its employees. In general, benefits are based on years of service and the employee’s level of compensation. The Bank’s funding policy is to contribute annually an actuarially determined amount to cover current service cost plus amortization of prior service costs.
The Company adopted the provisions of SFAS No. 158 as of December 31, 2006, which require that the funded status of the defined benefit pension retirement plan be fully recognized in the balance sheet. Effective December 31, 2002, the benefits under this plan have been frozen and the Accumulated Benefit Obligation (ABO) is equal to the Projected Benefit Obligation (PBO). As a result, the funded status of the plan has been fully recognized in the balance sheet and the implementation of SFAS 158 will not require an additional liability accrual.
59
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands except per share amounts)
The net periodic pension costs charged to expense amounted to $9 in 2006, $32 in 2005 and $179 in 2004. The following table sets forth the defined benefit pension plan’s Change in Projected Benefit Obligation, Change in Plan Assets and Funded Status, including the Prepaid Asset or Accrued Liability for the years ended December 31, 2006, 2005, and 2004. Effective December 31, 2002, the benefits under the Plan were frozen and no additional benefits are accrued under the Plan after December 31, 2002. The losses recognized due to settlement in the amount of $85, $135 and $105 results from significant lump sum distributions paid in 2006, 2005 and 2004, but not actuarially projected.
| | | Year ended December31, |
| | | 2006 | | 2005 | | 2004 |
| | | (Dollars in thousands) |
| Change in projected benefit obligation | | | | | | | | | | | | |
| Projected benefit obligation at the beginning of the year | | $ | (6,341 | ) | | $ | (7,390 | ) | | $ | (7,943 | ) |
| Interest Cost | | | (329 | ) | | | (398 | ) | | | (450 | ) |
| Actuarial gain (loss) | | | 263 | | | | 111 | | | | 108 | |
| Settlement loss | | | (185 | ) | | | (210 | ) | | | (159 | ) |
| Benefits paid | | | 1,058 | | | | 1,546 | | | | 1,054 | |
| Projected benefit obligation at the end of the year | | $ | (5,534 | ) | | $ | (6,341 | ) | | $ | (7,390 | ) |
| Change in plan assets | | | | | | | | | | | | |
| Fair value of plan assets at beginning of year | | $ | 5,868 | | | $ | 6,895 | | | $ | 7,227 | |
| Actual gain on plan assets | | | 314 | | | | 269 | | | | 222 | |
| Employer contributions | | | 250 | | | | 250 | | | | 500 | |
| Benefits paid | | | (1,058 | ) | | | (1,546 | ) | | | (1,054 | ) |
| Fair value of plan assets at end of year | | $ | 5,374 | | | $ | 5,868 | | | $ | 6,895 | |
| Funded Status | | | | | | | | | | | | |
| Funded status | | $ | (160 | ) | | $ | (473 | ) | | $ | (495 | ) |
| Unrecognized actuarial loss | | | 802 | | | | 874 | | | | 678 | |
| Unrecognized prior service cost | | | — | | | | — | | | | — | |
| Prepaid Asset (Accrued Liability) | | $ | 642 | | | $ | 401 | | | $ | 183 | |
60
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands except per share amounts)
Amounts recognized in the consolidated balance sheets consist of:
| | | Year ended December31, |
| | | 2006 | | 2005 | | 2004 |
| | | (Dollars in thousands) |
| Net Periodic Pension Cost (Benefit) | | | | | | | | | | | | |
| Interest cost on projected benefit obligation | | $ | 329 | | | $ | 398 | | | $ | 450 | |
| Expected return on plan benefits | | | (423 | ) | | | (501 | ) | | | (376 | ) |
| Net periodic pension cost (benefit) | | | (94 | ) | | | (103 | ) | | | 74 | |
| Amortization of Loss | | | 18 | | | | — | | | | — | |
| Loss recognized due to settlement | | | 85 | | | | 135 | | | | 105 | |
| Total pension costs | | $ | 9 | | | $ | 32 | | | $ | 179 | |
The following items included in accumulated other comprehensive income have not yet been recognized as components of periodic benefit cost:
| | | Year ended December31, |
| | | 2006 | | 2005 | | 2004 |
| | | (Dollars in thousands) |
| Actuarial Loss | | $ | 802 | | | $ | 874 | | | $ | 678 | |
| Tax Benefit | | | (273 | ) | | | (297 | ) | | | (231 | ) |
| Net amount not recognized | | $ | 529 | | | $ | 577 | | | $ | 447 | |
Weighted-average assumptions used to determine net periodic benefit cost for years ended December 31, 2006, 2005 and 2004:
| | | 2006 | | 2005 | | 2004 |
| Weighted average discount rate | | 5.50 | % | | 5.75 | % | | 5.75 | % |
| Expected long-term rate of return on plan assets | | 7.50 | % | | 7.50 | % | | 5.00 | % |
| Assumed rate of future compensation increases | | 0.00 | % | | 0.00 | % | | 0.00 | % |
Amounts recognized in the consolidated balance sheets consist of:
| | | Year ended December31, |
| | | 2006 | | 2005 | | 2004 |
| | | (Dollars in thousands) |
| Accrued benefit cost | | $ | (160 | ) | | $ | (473 | ) | | $ | (495 | ) |
| Minimum pension liability | | | 802 | | | | 874 | | | | 678 | |
| Net amount recognized | | $ | 642 | | | $ | 401 | | | $ | 183 | |
| | | Year ended December31, |
| | | 2006 | | 2005 | | 2004 |
| | | (Dollars in thousands) |
| Increase in minimum liability included in other | | | | | | | | | | | | |
| comprehensive income | | | $48 | | | | $129 | | | | $67 | |
The actuarial assumptions used in the pension plan valuation are reviewed annually. The plan reviews Moody’s Aaa and Aa corporate bond yields as of each plan year-end to determine the appropriate discount rate to calculate the year-end benefit plan obligation and the following year’s net periodic pension cost.
61
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands except per share amounts)
Plan Assets
The Lorain National Bank’s Retirement Pension Plan’s weighted-average assets allocations at December 31, 2006, 2005 and 2004 by asset category are as follows:
| | | Plan Assets at December 31, |
| | | 2006 | | 2005 | | 2004 |
| Asset Category: | | | | | | | | | |
| Equity securities | | 61.3 | % | | 61.0 | % | | 41.0 | % |
| Debt securities | | 38.6 | | | 38.8 | | | 58.0 | |
| Cash and cash equivalents | | 0.1 | | | 0.2 | | | 1.0 | |
| Total | | 100.0 | % | | 100.0 | % | | 100.0 | % |
| LNB Bancorp, Inc. common stock to total plan assets | | 9.5 | % | | 9.7 | % | | 9.2 | % |
The investment strategy for 2007 will continue to be an equity security allocation percent of 60% and a debt security position of 40%. This strategy will be employed in order to position more assets to benefit from the anticipated increase in the equities market in 2007.
The Lorain National Bank has not yet decided the contribution to The Lorain National Bank Retirement Pension Plan in 2007.
The following estimated future benefit payments, which reflect no expected future service as the plan is frozen, are expected to be paid as follows:
| | Amount |
| | (Dollars in thousands) |
| 2007 | $ | 371 | |
| 2008 | | 329 | |
| 2009 | | 319 | |
| 2010 | | 365 | |
| 2011-2016 | | 3,444 | |
(17) Stock Options and Stock Appreciation Rights
At December 31, 2006 and December 31, 2005, the Corporation had nonqualified stock option agreements with two executives granted in 2005 and 2006. On January 20, 2006 the Corporation issued 30,000 Stock Appreciation Rights (SAR’s) to eight employees. The expense recorded as of December 31, 2006 was $21 for SAR’s and $73 for stock options. The number of options or SAR’s and the exercise prices for these nonqualified incentive options or SAR’s outstanding as of December 31, 2006 follows:
| | | Year Issued |
| | | 2005 | | 2005 | | 2006 | | 2006 |
| Type | | Option | | Option | | Option | | SARS |
| Number | | | 2,500 | | | | 30,000 | | | | 30,000 | | | | 30,000 | |
| Strike Price | | $ | 16.50 | | | $ | 19.17 | | | $ | 19.10 | | | $ | 19.00 | |
| Number Vested | | | 2,500 | | | | 10,000 | | | | | | | | — | |
| |
| Assumptions: | | | | | | | | | | | | | | | | |
| Risk free interest rate | | | 4.50 | % | | | 3.92 | % | | | 3.66 | % | | | 4.60 | % |
| Dividend yield | | | 4.36 | % | | | 3.76 | % | | | 3.77 | % | | | 4.49 | % |
| Volatility | | | 18.48 | % | | | 17.30 | % | | | 17.66 | % | | | 14.06 | % |
| Expected Life - years | | | 6.0 | | | | 7.0 | | | | 7.0 | | | | 6.1 | |
62
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands except per share amounts)
The activity in stock options outstanding for the three years ended December 31, 2006 follows:
| | | 2006 | | 2005 | | 2004 |
| | | | | Weighted | | | | Weighted | | | | Weighted |
| | | | | Average | | | | Average | | | | Average |
| | | | | Exercise | | | | Exercise | | | | Exercise |
| | | | | Price per | | | | Price per | | | | Price per |
| | | Options | | Share | | Options | | Share | | Options | | Share |
| Outstanding at beginning of year | | 32,500 | | $ | 18.96 | | 21,939 | | | $ | 19.39 | | 50,960 | | | $ | 16.69 |
| Granted | | 30,000 | | | 19.10 | | 32,500 | | | | 18.96 | | 10,000 | | | | 19.60 |
| Forfeited | | — | | | — | | (21,939 | ) | | | 19.39 | | (15,918 | ) | | | 14.09 |
| Exercised | | — | | | — | | — | | | | — | | (23,103 | ) | | | 14.09 |
| Stock dividend or split | | — | | | — | | — | | | | — | | — | | | | — |
| Outstanding at end of year | | 62,500 | | $ | 19.03 | | 32,500 | | | $ | 18.96 | | 21,939 | | | $ | 19.39 |
| Exerciseable at end of year | | 12,500 | | $ | 18.64 | | — | | | $ | — | | 21,939 | | | $ | 19.39 |
The weighted average remaining contractual life of options exercisable at December 31, 2006 was 6.96 years with an aggregate intrinsic value of $0.
A summary of the status of the Corporation’s nonvested shares as of December 31, 2006, and changes during the year ended December 31, 2006, is presented below:
| | | | | Weighted |
| | | Nonvested | | AverageGrant Date |
| | | Shares | | Fair Value per share |
| Nonvested at January 1, 2006 | | 32,500 | | $ | 18.96 | |
| Granted | | 30,000 | | | 19.10 | |
| Vested | | 12,500 | | | 18.64 | |
| Forfeited | | — | | | — | |
| Nonvested at December 31, 2006 | | 50,000 | | $ | 19.13 | |
As of December 31, 2006, there was $46 of total unrecognized compensation cost related to nonvested stock options. The unrecognized compensation is expected to be recognized over a period of 2.25 years.
In accordance with the disclosure requirements of Statement of Financial Accounting Standard, or SFAS, No. 123, “Accounting for Stock-Based Compensation”, as amended by SFAS No. 148, “Accounting for Stock-Based Compensation — Transition and Disclosure — An amendment of FASB Statement No. 123,” the following table provides the pro forma effect on net income and earnings per share if the fair value method of accounting for stock-based compensation had been used for all awards for the period ended December 31, 2005 and 2004.
| | | December31, |
| | | 2005 | | 2004 |
| Net Income as reported | | $ | 6,413 | | | $ | 7,475 | |
| Add: Stock-based compensation, net of tax, as reported | | | 62 | | | | 0 | |
| Deduct: Stock-based compensation, net of tax, that would have been | | | | | | | | |
| reported if the fair value based method had been applied to all | | | | | | | | |
| awards | | | (123 | ) | | | (23 | ) |
| Pro forma net income | | $ | 6,352 | | | $ | 7,452 | |
| Pro forma net income per share: | | | | | | | | |
| Basic — as reported | | $ | 0.97 | | | $ | 1.13 | |
| Basic — pro forma | | | 0.96 | | | | 1.12 | |
| Diluted — as reported | | | 0.97 | | | | 1.13 | |
| Diluted — pro forma | | | 0.96 | | | | 1.12 | |
63
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands except per share amounts)
(18) Employee Stock Ownership Plan
The Lorain National Bank Employee Stock Ownership Plan (ESOP) is a non-contributory plan that covers substantially all employees. Contributions by the Bank to the ESOP are discretionary and subject to approval by the Board of Directors. Contributions are expensed in the year in which they are approved. No contributions were made to this plan in 2006, 2005 and 2004. Under the terms of the ESOP agreement, the Corporation’s common stock is to be the Plan’s primary investment.
(19) 401(k) Plan
The Bank adopted the The Lorain National Bank 401(k) Plan (the Plan) effective January 1, 2001. This Plan amended and restated the previous plan — The Lorain National Bank Stock Purchase Plan. The Plan allows for the purchase of up to 80,000 shares of LNB Bancorp, Inc. treasury shares. No shares were purchased out of Treasury during 2006, 2005 or 2004.
Under provisions of the Plan, a participant can contribute a percentage of their compensation to the Plan. The Bank makes a non-discretionary 50% contribution to match each employee’s contribution. The Bank’s match is limited to the first six percent of an employee’s wage. The Plan uses the contributions of the Corporation to purchase LNB Bancorp, Inc. common stock. Effective January 1, 2001, the Plan permits the investment of plan assets, contributed by employees, among different funds.
The Bank’s matching contributions are expensed in the year in which the associated participant contributions are made and totaled $271, $252, and $221, in 2006, 2005 and 2004, respectively.
(20) Commitments, Credit Risk, and Contingencies
In the normal course of business, the Bank enters into commitments with off-balance sheet risk to meet the financing needs of its customers. These instruments are currently limited to commitments to extend credit and standby letters of credit. Commitments to extend credit involve elements of credit risk and interest rate risk in excess of the amount recognized in the consolidated balance sheets. The Bank’s exposure to credit loss in the event of nonperformance by the other party to the commitment is represented by the contractual amount of the commitment. The Bank uses the same credit policies in making commitments as it does for on-balance sheet instruments. Interest rate risk on commitments to extend credit results from the possibility that interest rates may have moved unfavorably from the position of the Bank since the time the commitment was made.
Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates of 30 to 120 days or other termination clauses and may require payment of a fee. Since some of the commitments may expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements.
The Bank evaluates each customer’s credit worthiness on a case-by-case basis. The amount of collateral obtained by the Bank upon extension of credit is based on Management’s credit evaluation of the applicant. Collateral held is generally single-family residential real estate and commercial real estate. Substantially all of the obligations to extend credit are variable rate. Standby letters of credit are conditional commitments issued to guarantee the performance of a customer to a third party. Standby letters of credit generally are contingent upon the failure of the customer to perform according to the terms of the underlying contract with the third party.
64
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands except per share amounts)
A summary of the contractual amount of commitments at December 31, 2006 follows:
| | Amount |
| | (Dollars in thousands) |
| Commitments to extend credit | | $ 87,366 | |
| Home equity lines of credit | | 64,365 | |
| Standby letters of credit | | 4,347 | |
| Total | | $156,078 | |
Most of the Bank’s business activity is with customers located within the Bank’s defined market area. As of December 31, 2006 and 2005, the Bank had no significant concentrations of credit risk in its loan portfolio. The Bank also has no exposure to highly leveraged transactions and no foreign credits in its loan portfolio.
The nature of the Corporation’s business may result in litigation. Management, after reviewing with counsel all actions and proceedings pending against or involving LNB Bancorp, Inc. and subsidiaries, considers that the aggregate liability or loss, if any, resulting from them will not be material to the Corporation’s financial position, results of operation or liquidity.
(21) Estimated Fair Value of Financial Instruments
The Corporation discloses estimated fair values for its financial instruments. Fair value estimates, methods and assumptions are set forth below for the Corporation’s financial instruments.
The following methods and assumptions were used to estimate the fair value of each class of financial instruments for which it is practicable to estimate that value:
- The carrying value of Cash and due from banks, Federal funds sold, short-term investments and accrued interest receivable and other financial assets is a reasonable estimate of fair value due to the short-term nature of the asset.
- The fair value of investment securities is based on quoted market prices, where available. If quoted market prices are not available, fair value is estimated using the quoted market prices of comparable instruments.
- For variable rate loans with interest rates that may be adjusted on a quarterly, or more frequent basis, the carrying amount is a reasonable estimate of fair value. The fair value of other types of loans is estimated by discounting future cash flows using the current rates at which similar loans would be made to borrowers with similar credit ratings and for the same remaining maturities.
- The carrying value approximates the fair value for bank owned life insurance.
- The fair value of deposits with no stated maturity, such as noninterest-bearing demand deposits, savings, money market, checking and interest-bearing checking, is equal to the amount payable on demand as of December 31, for each year presented. The fair value of fixed-maturity certificates of deposit is estimated using the rates currently offered for deposits of similar remaining maturities. For variable rate certificates of deposit, the carrying amount is a reasonable estimate of fair value.
- Securities sold under repurchase agreements, other short-term borrowings, accrued interest payable and other financial liabilities approximate fair value due to the short-term nature of the liability.
- The fair value of Federal Home Loan Bank advances is estimated by discounting future cash flows using current FHLB rates for the remaining term to maturity.
65
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands except per share amounts)
- The fair value of commitments to extend credit approximates the fees charged to make these commitments; since rates and fees of the commitment contracts approximates those currently charged to originate similar commitments. The carrying amount and fair value of off-balance sheet instruments is not significant as of December 31, 2006 and 2005.
Limitations
Estimates of fair value are made at a specific point in time, based on relevant market information and information about the financial instrument. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore, cannot be determined with precision. Changes in assumptions could significantly affect the estimates.
Estimates of fair value are based on existing on-and-off balance sheet financial instruments without attempting to estimate the value of anticipated future business and the value of assets and liabilities that are not considered financial instruments. For example, the Bank has a substantial Investment and Trust Services Division that contributes net fee income annually. The Investment and Trust Services Division is not considered a financial instrument and its value has not been incorporated into the fair value estimates. Other significant assets and liabilities that are not considered financial instruments include property, plant, and equipment and deferred tax liabilities. In addition, it is not practicable for the Corporation to estimate the tax ramifications related to the realization of the unrealized gains and losses and they have not been reflected in any of the estimates of fair value. The impact of these tax ramifications can have a significant effect on estimates of fair value. The estimated fair values of the Corporation’s financial instruments at December 31, 2006 and 2005 are summarized as follows:
| | At December 31, |
| | 2006 | | 2005 |
| | Carrying | | Estimated | | Carrying | | Estimated |
| | Value | | FairValue | | Value | | FairValue |
| | (Dollars in thousands) |
| Financial assets | | | | | | | | | |
| Cash and due from banks, Federal funds sold and short- | | | | | | | | | |
| term investments | | $ | 29,122 | | $ | 29,122 | | $ | 23,923 | | $ | 23,923 |
| Securities | | | 159,058 | | | 159,058 | | | 155,274 | | | 155,274 |
| Portfolio loans, net | | 621,033 | | 617,440 | | | 581,803 | | | 578,773 |
| Loans held for sale | | — | | — | | | 2,586 | | 2,586 |
| Bank owned life insurance | | 14,755 | | 14,755 | | | 13,935 | | 13,935 |
| Accrued interest receivable | | 3,939 | | 3,939 | | | 3,053 | | 3,053 |
| Financial liabilities | | | | | | | | | |
| Deposits: | | | | | | | | | |
| Demand, savings and money market | | 369,616 | | 369,616 | | | 353,428 | | 353,428 |
| Certificates of deposit | | 347,644 | | 346,616 | | | 286,788 | | 286,788 |
| Total deposits | | 717,260 | | 716,232 | | | 640,216 | | 640,216 |
| Short-term borrowings | | 22,163 | | 22,163 | | | 32,616 | | 32,616 |
| Federal Home Loan Bank advances | | 35,086 | | 34,443 | | | 53,896 | | 52,945 |
| Accrued interest payable | | 3,698 | | 3,698 | | | 2,126 | | 2,126 |
66
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands except per share amounts)
(22) Quarterly Financial Data (Unaudited)
| | | First | | Second | | Third | | Fourth | | Full Year |
| | | (Dollars in thousands, except per share amount) |
| 2006 | | | | | | | | | | | | | | | |
| Total interest income | | $ | 11,608 | | $ | 12,049 | | $ | 12,835 | | $ | 12,750 | | $ | 49,242 |
| Total interest expense | | | 4,405 | | | 4,853 | | | 5,515 | | | 5,862 | | | 20,635 |
| Net Interest income | | | 7,203 | | | 7,196 | | | 7,320 | | | 6,888 | | | 28,607 |
| Provision for loan losses | | | 150 | | | 165 | | | 600 | | | 1,365 | | | 2,280 |
| Net interest income after provision for loan losses | | | 7,053 | | | 7,031 | | | 6,720 | | | 5,523 | | | 26,327 |
| Noninterest income | | | 2,121 | | | 2,377 | | | 2,453 | | | 2,800 | | | 9,751 |
| Noninterest expense | | | 7,209 | | | 7,191 | | | 7,279 | | | 7,306 | | | 28,985 |
| Income tax | | | 517 | | | 578 | | | 475 | | | 99 | | | 1,669 |
| Net Income | | | 1,448 | | | 1,639 | | | 1,419 | | | 918 | | | 5,424 |
| Basic earnings per share | | | 0.22 | | | 0.25 | | | 0.22 | | | 0.14 | | | 0.83 |
| Diluted earnings per share | | | 0.22 | | | 0.25 | | | 0.22 | | | 0.14 | | | 0.83 |
| Dividends declared per share | | | 0.18 | | | 0.18 | | | 0.18 | | | 0.18 | | | 0.72 |
| |
| | | First | | Second | | Third | | Fourth | | Full Year |
| | | (Dollars in thousands, except per share amount) |
| 2005 | | | | | | | | | | | | | | | |
| Total interest income | | $ | 10,052 | | $ | 10,555 | | $ | 11,095 | | $ | 11,730 | | $ | 43,432 |
| Total interest expense | | | 2,720 | | | 2,998 | | | 3,625 | | | 4,059 | | | 13,402 |
| Net Interest income | | | 7,332 | | | 7,557 | | | 7,470 | | | 7,671 | | | 30,030 |
| Provision for loan losses | | | 399 | | | 399 | | | 300 | | | 150 | | | 1,248 |
| Net interest income after provision for loan losses | | | 6,933 | | | 7,158 | | | 7,170 | | | 7,521 | | | 28,782 |
| Noninterest income | | | 2,927 | | | 2,639 | | | 2,608 | | | 2,203 | | | 10,377 |
| Noninterest expense | | | 7,671 | | | 8,472 | | | 6,764 | | | 7,360 | | | 30,267 |
| Income tax | | | 618 | | | 473 | | | 857 | | | 531 | | | 2,479 |
| Net Income | | | 1,571 | | | 852 | | | 2,157 | | | 1,833 | | | 6,413 |
| Basic earnings per share | | | 0.24 | | | 0.13 | | | 0.33 | | | 0.27 | | | 0.97 |
| Diluted earnings per share | | | 0.24 | | | 0.13 | | | 0.33 | | | 0.27 | | | 0.97 |
| Dividends declared per share | | | 0.18 | | | 0.18 | | | 0.18 | | | 0.18 | | | 0.72 |
During the second quarter of 2005, the Corporation recorded expenses totaling $1,218 associated with the recruitment of senior management, severance costs, a goodwill impairment charge related to the Corporation’s subsidiary LNB Mortgage, LLC and the write-off of several telecommunications contracts.
(23) Subsequent Events
On January 16, 2007, the Corporation announced the execution of a definitive agreement to acquire Morgan Bancorp, Inc. (“Morgan”) of Hudson, Ohio. The Corporation’s transaction is for the acquisition of Morgan and its wholly-owned subsidiary, which had approximately $129 million in assets at the date of the agreement.
Under the terms of the agreement, shareholders of Morgan will be entitled to receive cash, common shares of LNB, or a combination thereof, based upon an election process to occur prior to closing. Cash consideration is valued at $52.00 per Morgan share and stock consideration is fixed at an exchange ratio of 3.162 common shares of LNB Bancorp for each share of Morgan. The agreement further provides that, in the aggregate, 50% of the Morgan common shares will be exchanged for common shares of LNB Bancorp and the remaining 50% of the Morgan common shares will be exchanged for cash.
67
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands except per share amounts)
The transaction is valued at $26.5 million and is expected to close in the third quarter of 2007. The exchange is expected to qualify as a tax-free transaction to the Morgan shareholders. Following the merger, and upon receipt of all necessary regulatory approvals, Morgan Bank, N.A. will be merged with and into the Corporation.
Not considering the merger-related charges discussed below, the merger is expected to be accretive to earnings per share by approximately $.08 or 6.7% in the first full fiscal year of operations (2008), due to the expected cost-saving benefits achieved through the integration of systems and support functions, improved branch efficiencies and increased alternative delivery channels for financial products and services. The Corporation expects to reduce noninterest expenses of the combined entity by approximately $1.7 million. This expense reduction, while not expected to be totally from the Morgan Bank operation, represents about 48 percent of Morgan’s expense base. The Corporation intends to recognize these expense reductions as quickly and prudently as possible. After-tax merger-related costs of approximately $1.5 – $2.0 million will be incurred to complete the merger.
68
Item 9.Changes in and Disagreements With Accountants on Accounting and Financial Disclosures
None.
Item 9A.Controls and Procedures
1. Disclosure Controls and Procedures
The Corporation maintains disclosure controls and procedures that are designed to ensure that information required to be disclosed in the Company’s Exchange Act reports is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to the Company’s management, including its Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management necessarily was required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.
The Corporation’s Management carried out an evaluation, under the supervision and with the participation of the chief executive officer and the chief financial officer, of the effectiveness of the design and operation of LNB Bancorp, Inc.’s disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) promulgated under the Securities Exchange Act of 1934) as of December 31, 2006, pursuant to the evaluation of these controls and procedures required by Rule 13a-15 of the Securities Exchange Act of 1934.
Based upon that evaluation, Management concluded as of the end of the period covered by this Annual Report on Form 10-K that our disclosure controls and procedures were ineffective due to the material weakness that existed in our internal control over financial reporting.
2. Internal Control over Financial Reporting
The Management of LNB Bancorp, Inc. is responsible for establishing and maintaining adequate internal control over its financial reporting. LNB Bancorp, Inc.’s internal control over financial reporting is a process designed under the supervision of the Corporation’s chief executive officer and chief financial officer to provide reasonable assurance regarding the reliability of financial reporting and the preparation of the Corporation’s financial statements for external reporting purposes in accordance with U.S. generally accepted accounting principles.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
LNB Bancorp, Inc.’s Management assessed the effectiveness of the Corporation’s internal control over financial reporting as of December 31, 2006 based on the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in “Internal Control Integrated Framework.”
During the course of its audit, Plante & Moran PLLC advised management and the Audit and Finance Committee that it had identified control deficiencies, which when aggregated, constituted a material weakness in the Corporation’s internal control over financial reporting. A material weakness is a significant deficiency, or a combination of significant deficiencies which when aggregated, results in there being more than a remote likelihood that a material misstatement of the annual or interim financials statements will not be prevented or detected on a timely basis by employees in the normal course of their assigned functions. As a result, Management concluded that the Corporation’s internal control over financial reporting was not effective as of December 31, 2006 because of the material weakness described below. This material weakness did not result in an adjustment to the financial statements.
69
The material weakness identified resulted from the aggregation of significant deficiencies arising out of the lack of comprehensive procedural documentation of the loan grading process, the system of monitoring the collateral values of impaired loans and the controls on preventing the improper recognition of interest income on nonperforming loans. Management, with the oversight of the Audit and Finance Committee, has been systematically addressing these issues and is committed to effective remediation of this weakness. The Corporation has taken the following remediation measures:
- Additional training is being completed to reinforce the existing procedures to assure that adequate evidenceexists to support all decisions made regarding classification of individual loans.
- Additional training is being completed to reinforce the requirement that once a loan meets the impairmentcriteria, such loans are deemed impaired and the impairment is valued based on a current appraisal of thecollateral securing the loan.
- Training has been completed to reinforce the documentation requirements for the recognition of interestincome once a loan is classified as nonperforming. Management has also revised the approval process forrecording all nonperforming loan transactions.
In addition to these specific responses to these control deficiencies, the Corporation has contracted with an independent third party to assess the completeness of the commercial loan documentation supporting the current grade classifications of all commercial relationships greater than $500,000. This represents approximately 75 percent of the commercial loan portfolio balances.
Management has discussed these corrective actions with the Audit and Finance Committee and Plante & Moran, PLLC. Plante & Moran, PLLC has issued an attestation report on Management’s assessment of the Corporation’s internal control over financial reporting. That report appears on page 71 of this annual report on Form 10-K.
3. Changes in Internal Control over Financial Reporting
No change in the Corporation’s internal control over financial reporting occurred during the fiscal quarter ended December 31, 2006 that has materially affected, or is reasonably likely to materially affect, the Corporation’s internal control over financial reporting. Since December 31, 2006, the Corporation has implemented actions for the remediation of the identified material weakness, as described above.
70
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board of Directors and Shareholders
LNB Bancorp, Inc.
We have audited management’s assessment, included in the accompanying Management’s Report on Internal Control over Financial Reporting, that LNB Bancorp, Inc. (the “Corporation”) did not maintain effective internal control over financial reporting as of December 31, 2006, because of the effect of the material weakness described below, based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (“the COSO criteria”). LNB Bancorp, Inc.’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express an opinion on management’s assessment and an opinion on the effectiveness of the Corporation’s internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, evaluating management’s assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
A material weakness is a control deficiency, or combination of control deficiencies, that results in more than a remote likelihood that a material misstatement of the annual or interim financial statements will not be prevented or detected. The following deficiencies are significant deficiencies. The aggregation of these significant deficiencies represents a material weakness that has been identified and included in management’s assessment. Management determined that it did not have adequate controls over: the documentation of the loan grading process, the system for monitoring the collateral values of impaired loans, and the controls designed to prevent and detect the improper recognition of interest income on nonperforming loans. This material weakness was considered in determining the nature, timing, and extent of audit tests applied in our audit of the 2006 financial statements, and this report does not affect our report dated February 23, 2007 on those statements. We do not express an opinion or any other form of assurance on management’s statements referred to in “Management’s Report on Internal Control Over Financial Reporting.”
In our opinion, management’s assessment that LNB Bancorp, Inc. did not maintain effective internal control over financial reporting as of December 31, 2006, is fairly stated, in all material respects, based on the COSO criteria. Also, in our opinion, because of the effect of the material weakness described above on the achievement of the objectives of the control criteria, LNB Bancorp, Inc. has not maintained effective internal control over financial reporting as of December 31, 2006, based on the COSO criteria.
Auburn Hills, Michigan
February 23, 2007
71
Item 9B.Other Information
On January 23, 2007, the Board of Directors of the Corporation approved the terms of the Corporation’s 2007 Management Incentive Plan for Key Executives (the “2007 Key Executive Plan”) and the 2007 CEO Short-Term Incentive Plan (the “2007 CEO Plan”). Employees of the Company, including executive officers other than the CEO, as are designated by the Compensation Committee, in its discretion, will participate in the 2007 Key Executive Plan. The Corporation’s CEO will participate in the 2007 CEO Plan. The 2007 Key Executive Plan and the 2007 CEO Plan both provide for the payment of cash bonuses to participants based upon the Corporation’s achievement of profitability goals for 2007, as determined by the Compensation Committee. In order for any bonus to be payable to any employee under either plan, the Corporation must achieve 100% of the specified target profitability goal. The size of the bonuses available under both plans increases as the Corporation’s profitability increases above the specified target profitability goal. If the Corporation achieves 100% or more of the specified target profitability amount, the Compensation Committee will determine, in its sole discretion, the total amount of the bonus that is to be distributed to the CEO under the 2007 CEO Plan, and the total bonuses to be distributed to the participants under the 2007 Key Executive Plan will be as determined by the CEO, subject to approval of the Compensation Committee in its sole discretion.
The 2007 Key Executive Plan also contains confidentiality and non-solicitation obligations of the participants which apply during the term of each participant’s employment with the Corporation and following termination of their employment under certain circumstances.
A copy of the form of the 2007 Key Executive Plan is included as Exhibit 10(z) to this annual report on Form 10-K and a copy of the form of the 2007 CEO Plan is included as Exhibit 10(aa) to this annual report on Form 10-K, both of which are incorporated by reference into this Item 9B, and the above summary is qualified in its entirety by reference to those Exhibits.
PART III
Item 10.Directors, Executive Officers, Promoters and Control Persons of the Registrant
Information regarding the executive officers of the Corporation is set forth in Part I, Item 4 of this Form 10-K. Other information required to be included under this item is incorporated by reference herein from the information about our directors provided in the section captioned “Election of Directors,” the information provided in the section captioned “Section 16(a) Beneficial Ownership Reporting Compliance,” and the information about the Corporation’s Audit and Finance Committee, audit committee financial expert and procedures for recommending nominees to the Board of Directors and Corporate Governance provided in the sections captioned “Committees of the Board” and “Corporate Governance” in the Corporation’s Proxy Statement for the 2007 Annual Meeting of Shareholders filed with the SEC.
Item 11.Executive Compensation
The information required by this item is incorporated by reference herein from the information provided in the sections captioned “Executive Compensation and Other Information,” in the Corporation’s Proxy Statement for the 2007 Annual Meeting of Shareholders filed with the SEC.
Item 12.Security Ownership of Certain Beneficial Owners and Management
The information about security ownership of certain beneficial owners and management required by this item is incorporated by reference herein from the information provided in the section captioned “Ownership of Voting Shares” in the Corporation’s Proxy Statement for the 2007 Annual Meeting of Shareholders filed with the SEC. The following table shows information about the Corporation’s common shares that may be issued upon the exercise of options, warrants and rights under all of the Corporation’s equity compensation plans as of December 31, 2006:
72
Equity Compensation Plan Table
| | | Number of | | Weighted- | | Number of securities |
| | | securities to be | | Average | | remaining available for |
| | | issued upon exercise | | exercise price | | future issuance under |
| | | of outstanding | | of outstanding | | equity compensation |
| | | options, warrants | | options, warrants | | plans exluding securities |
| Plan Category | | and rights (1) | | and rights | | reflected in column (a) |
| | | (a) | | | (b) | | | (c) | |
| Equity compensation plans approved by | | | | | | | |
| security holders | | — | | | $ | — | | | 600,000 | (2) |
| Equity compensation plans not approved by | | | | | | | |
| security holders (3) | | | 62,500 | | | | $ | 19.03 | | | | — | |
| Total | | | 62,500 | | | | $ | 19.03 | | | | 600,000 | |
____________________
| (1) | | Consists of common shares of the Corporation covered by outstanding options. |
| |
| (2) | | Represents shares available for grant under the LNB Bancorp, Inc. 2006 Stock Incentive Plan. The LNB Bancorp, Inc. 2006 Stock Incentive Plan allows for the granting of an aggregate of 600,000 common shares, no more than 400,000 of which may be granted in the form of stock options and no more than 200,000 of which may be granted in the form of restricted shares. |
| |
| (3) | | All common shares included in equity compensation plans not approved by shareholders are covered by outstanding options awarded to two current officers under agreements having the same material terms. Each of these options is a nonqualified option, meaning a stock option that does not qualify under Section 422 of the Internal Revenue Code for the special tax treatment available for qualified, or “incentive,” stock options. Mr. Klimas was granted a stock option on February 1, 2005 and another on February 1, 2006, each to purchase 30,000 shares which vest in 10,000 increments on the first, second and third anniversaries of the date of grant. Mr. Klimas’ employment agreement also contemplates that he will be issued an additional option to purchase 30,000 shares on February 1, 2007. Mr. Soltis has an option to purchase 2,500 shares which vest on the first year anniversary of the date of grant. Each option may be exercised for a term of 10 years from the date the option vests, subject to earlier termination in the event of death, disability or other termination of the employment of the option holder. The option holder has up to 12 months following termination of employment due to death or disability to exercise the options. The options terminate three months after termination of employment for reasons other than death, disability or termination for cause, and immediately upon termination of employment if for cause. The exercise price and number of shares covered by the option are to be adjusted to reflect any share dividend, share split, merger or other recapitalization of the common shares of the Corporation. The options are not transferable other than by will or state inheritance laws. Exercise prices for these options are at fair market value at the date of grant. The stock option for 30,000 shares awarded to Mr. Klimas on February 1, 2005 has an exercise price of $19.17 per share, the stock option for 30,000 shares awarded to Mr. Klimas on February 1, 2006 has an exercise price of $19.10 per share, and the 2,500 shares awarded Mr. Soltis have an exercise price of $16.50 per share. The remaining contractual terms of the options are 10 years from the date of vesting. |
Item 13.Certain Relationships and Related Transactions
The information required by this item is incorporated by reference from the information provided in section captioned “Certain Transactions” in the Corporation’s Proxy Statement for the 2007 Annual Meeting of Shareholders filed with the SEC.
Item 14.Principal Accounting Fees and Services
The information required by this item is incorporated by reference herein from the information provided in section captioned “Principal Accounting Firm Fees” in the Corporation’s Proxy Statement for the 2007 Annual Meeting of Shareholders filed with the SEC.
73
PART IV
Item 15.Exhibits, Financial Statement Schedules
(a) The following Consolidated Financial Statements and related Notes to Consolidated Financial Statements, together with the report of Independent Registered Public Accounting Firm dated February 23, 2007, appear on pages 36 through 68 of this annual report on Form 10-K:
| | (1) | | Financial Statements |
| |
| | | Consolidated Balance Sheets |
| |
| | | December 31, 2006 and 2005 |
| |
| | | Consolidated Statements of Income for the Years Ended |
| |
| | | December 31, 2006, 2005 and 2004 |
| |
| | | Consolidated Statements of Shareholders’ Equity for the Years |
| |
| | | Ended December 31, 2006, 2005 and 2004 |
| |
| | | Consolidated Statements of Cash Flows for the Years Ended |
| |
| | | December 31, 2006, 2005 and 2004 |
| |
| | | Notes to Consolidated Financial Statements for the Years |
| |
| | | Ended December 31, 2006, 2005 and 2004 |
| |
| | | Report of Independent Registered Public Accounting Firm |
| |
| (2) | | Financial Statement Schedules |
| |
| | | Financial statement schedules are omitted as they are not required or are not applicable or because the required information is included in the consolidated financial statements or notes thereto. |
| |
| (3) | | Exhibits required by Item 601 Regulation S-K |
| |
| | | Reference is made to the Exhibit Index which is found on page 74 of this Form 10-K. |
| | (b) | | the following exhibits required by Item 601 of Regulation S-K are filed as part of this report: |
| | | |
| | | Form 10-K Exhibit Index |
74
Exhibit Index
| S-K | | |
| Reference | | |
| Number | | Exhibit |
| 2(a) | | | Agreement and Plan of Merger, dated January 15, 2007, by and between LNB Bancorp, Inc. and Morgan Bancorp, Inc., including the attached Form of Voting Agreement and Form of Morgan Affiliate Agreement. Incorporated by reference herein from Exhibit 2.1 of the Corporation’s Form 8-K filed January 17, 2007. |
| | | | |
| 3(a) | | | LNB Bancorp, Inc. Second Amended Articles of Incorporation. Incorporated by reference herein from Exhibit 3(a) of the Corporation’s Form 10-K for the fiscal year ended December 31, 2005. |
| | | | |
| 3(b) | | | LNB Bancorp, Inc. Amended Code of Regulations. Incorporated by reference herein from Exhibit 3(b) of the Corporation’s Form 10-K for the fiscal year ended December 31, 2005. |
| | | | |
| 4(a) | | | Rights Agreement between LNB Bancorp, Inc. and Registrar and Transfer Corporation dated October 24, 2000. Incorporated by reference to Exhibit 10(r) to the Corporation’s Form 10-K for the fiscal year ended December 31, 2005. |
| | | | |
| 4(b) | | | Amendment No. 1 to Rights Agreement, dated as of May 17, 2006, between LNB Bancorp, Inc. and Registrar and Transfer Company. Incorporated by reference to Exhibit 4.2 to the Corporation’s Form 8-K filed May 17, 2006. |
| | | | |
| 10(a) | * | | Form of Stock Appreciation Right Agreement. Incorporated by reference herein from Exhibit 10.1 to the Corporation’s Form 8-K filed January 25, 2006. |
| | | | |
| 10(b) | * | | LNB Bancorp, Inc. 2005 Management Incentive Plan. Incorporated by reference herein from Exhibit 10.1 of the Corporation’s Form 8-K filed December 22, 2005. |
| | | | |
| 10(c) | * | | LNB Bancorp, Inc. 2006 Management Incentive Plan for Key Executives. Incorporated by reference herein from Exhibit 10.2 of the Corporation’s Form 8-K filed December 22, 2005. |
| | | | |
| 10(d) | * | | LNB Bancorp, Inc. Stock Appreciation Rights Plan. Incorporated by reference from Exhibit 10.3 of the Corporation’s Form 8-K filed December 22, 2005. |
| | | | |
| 10(e) | * | | Employment Agreement, dated June 20, 2005, between LNB Bancorp, Inc. and Richard E. Lucas. Incorporated by reference herein from Exhibit 10.1 to the Corporation’s quarterly report on Form 10-Q for the quarter ended September 30, 2005. |
| | | | |
| 10(f) | * | | Stock Option Agreement, effective as of June 27, 2005, between the Corporation and Frank A. Soltis. Incorporated by reference herein from Exhibit 10.2 to the Corporation’s quarterly report on Form 10-Q for the quarter ended September 30, 2005. |
| | | | |
| 10(g) | * | | Employment Agreement by and between Daniel E. Klimas and LNB Bancorp, Inc. dated January 28, 2005. Incorporated by reference herein from Exhibit 10(a) to the Corporation’s annual report Form 10-K for the fiscal year ended December 31, 2004. |
| | | | |
| 10(h) | | | Asset Purchase Agreement by and between LNB Mortgage, LLC., The Lorain National Bank and Mortgage One Services, Inc. dated July 1, 2004. Incorporated by reference herein from Exhibit 2 to the Corporation’s quarterly report on Form 10-Q for the quarter ended June 30, 2004. |
| | | | |
| 10(i) | | | Amendment to Supplemental Retirement Benefits Agreement by and between Gary C. Smith and LNB Bancorp, Inc., and The Lorain National Bank dated October 6, 2003. Incorporated by reference herein from Exhibit (10a) to the Corporation’s annual report on Form 10-K for the year ended December 31, 2003. |
| | | | |
| 10(j) | * | | The Lorain National Bank Retirement Pension Plan amended and restated effective December 31, 2002, dated November 19, 2002. Incorporated by reference herein from Exhibit 10 to the Corporation’s annual report on Form 10-K for the year ended December 31, 2002. |
75
| S-K | | |
| Reference | | |
| Number | | Exhibit |
| 10 | (k)* | | Employment Agreement by and between Terry M. White and LNB Bancorp, Inc, and The Lorain National Bank dated January 23, 2002. Incorporated by reference herein from Exhibit (10a) to theCorporation’s quarterly report on Form 10-Q for the quarter ended March 31, 2002. |
| | | |
| 10 | (l) | | Lorain National Bank Group Term Carve Out Plan dated August 7, 2002. Incorporated by reference herein from Exhibit (10a) to the Corporation’s quarterly report on Form 10-Q for the quarter endedSeptember 30, 2002. |
| | | |
| 10 | (m) | | Restated and Amended Employment Agreement by and between Gary C. Smith and LNB Bancorp, Inc, and The Lorain National Bank dated December 22, 2000. Incorporated by reference hereinfrom Exhibit (10a) to the Corporation’s annual report on Form 10-K for the year ended December 31, 2001. |
| | | |
| 10 | (n) | | Supplemental Retirement Benefits Agreement by and between Gary C. Smith and LNB Bancorp, Inc, and The Lorain National Bank dated December 22, 2000. Incorporated by reference herein fromExhibit 10(n) of the Corporation’s Form 10-K for the fiscal year ended December 31, 2005. |
| | | |
| 10 | (o) | | Amended Supplemental Retirement Agreement by and between Thomas P. Ryan and LNB Bancorp, Inc. and The Lorain National Bank dated December 23, 2000. Incorporated by reference herein fromExhibit 10(o) of the Corporation’s Form 10-K for the fiscal year ended December 31, 2005. |
| | | |
| 10 | (p) | | Amended Supplemental Retirement Agreement by and between Gregory D. Friedman and LNB Bancorp, Inc. and The Lorain National Bank dated December 23, 2000. Incorporated by referenceherein from Exhibit 10(p) of the Corporation’s Form 10-K for the fiscal year ended December 31, 2005. |
| | | |
| 10 | (q)* | | Amended Supplemental Retirement Agreement by and between James F. Kidd and The Lorain National Bank dated June 15, 1999. Incorporated by reference herein from Exhibit 10(q) of theCorporation’s Form 10-K for the fiscal year ended December 31, 2005. |
| | | |
| 10 | (r) | | Branch Purchase and Assumption Agreement by and between KeyBank National Association and the Lorain National Bank dated April 10, 1997. Incorporated by reference herein from Exhibit 10(s)of the Corporation’s Form 10-K for the fiscal year ended December 31, 2005. |
| | | |
| 10 | (s)* | | Supplemental Retirement Agreement by and between James F. Kidd and The Lorain National Bank dated July 30, 1996. Incorporated by reference herein from Exhibit 10(t) of the Corporation’s Form 10-K for the fiscal year ended December 31, 2005. |
| | | |
| 10 | (t) | | Supplemental Retirement Agreement by and between Thomas P. Ryan and The Lorain National Bank dated July 30, 1996. Incorporated by reference herein from Exhibit 10(u) of the Corporation’s Form 10-K for the fiscal year ended December 31, 2005. |
| | | |
| 10 | (u) | | Supplemental Retirement Agreement by and between Gregory D. Friedman and The Lorain National Bank dated July 30, 1996. Incorporated by reference herein from Exhibit 10(v) of the Corporation’sForm 10-K for the fiscal year ended December 31, 2005. |
| | | |
| 10 | (v) | | Agreement To Join In The Filing of Consolidated Federal Income Tax Returns between LNB Bancorp, Inc. and The Lorain National Bank dated February 27, 2004. Incorporated by reference herein from Exhibit 10(w) of the Corporation’s Form 10-K for the fiscal year ended December 31, 2005. |
| | | |
| 10 | (w)* | | LNB Bancorp, Inc. 2006 Stock Incentive Plan. Incorporated by reference herein from Appendix A of the Corporation’s Definitive Proxy Statement on Schedule 14A filed March 17, 2006. |
| |
| 10 | (x)* | | LNB Bancorp, Inc. 2006 CEO Long Term Incentive Plan. Incorporated by reference herein from Exhibit 10.1 of the Corporation’s Form 8-K filed October 30, 2006. |
| | | |
| 10 | (y)* | | Employment Agreement, dated January 15, 2007, by and among LNB Bancorp, Inc., The Lorain National Bank and William A. Dougherty. Incorporated by reference herein from Exhibit 10.1 of the Corporation’s Form 8-K filed January 17, 2007. |
76
| S-K | | |
| Reference | | |
| Number | | Exhibit |
| 10 | (z)* | | LNB Bancorp, Inc. 2007 Management Incentive Plan for Key Executives. |
| | | |
| 10 | (aa)* | | LNB Bancorp, Inc. 2007 CEO Short-Term Incentive Plan. |
| | | |
| 21.1 | | | Subsidiaries of LNB Bancorp, Inc. |
| | | |
| 23.1 | | | Consent of Plante & Moran, PLLC. |
| | | |
| 23.2 | | | Consent of KPMG, LLP |
| | | |
| 31.1 | | | Rule 13a-14(a)/15-d-14(a) Certification of Chief Executive Officer, dated March 1, 2007 for LNB Bancorp, Inc.’s annual report on Form 10-K for the year ended December 31, 2006. |
| | | |
| 31.2 | | | Rule 13a-14(a)/15-d-14(a) Certification of Chief Financial Officer, dated March 1, 2007 for LNB Bancorp, Inc.’s annual report on Form 10-K for the year ended December 31, 2006. |
| | | |
| 32.1 | | | Section 1350 Certification of Chief Executive Officer, dated March 1, 2007 for LNB Bancorp, Inc.’s annual report on Form 10-K for the year ended December 31, 2006. |
| | | |
| 32.2 | | | Section 1350 Certification of Chief Financial Officer, dated March 1, 2007 for LNB Bancorp, Inc.’s annual report on Form 10-K for the year ended December 31, 2006. |
| | | | |
| * | | Management contract, compensatory plan or arrangement |
77
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
| | LNB Bancorp, Inc. |
| | (Registrant) |
| |
| |
| |
| |
| | By: | /S/ TERRYM. WHITE |
| | Terry M White |
| | Chief Financial Officer |
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons in the capacities and on the dates indicated:
| /s/ Daniel P. Batista | | Director |
| DANIELP. BATISTA | | |
| | | |
| /s/ Robert M. Campana | | Director |
| ROBERTM. CAMPANA | | |
| | | |
| /s/ Terry D. Goode | | Director |
| TERRYD. GOODE | | |
| | | |
| /s/ James F. Kidd | | Vice Chairman and Director |
| JAMESF. KIDD | | |
| | | |
| /s/ David M. Koethe | | Director |
| DAVIDM. KOETHE | | |
| | | |
| /s/ Kevin C. Martin | | Director |
| KEVINC. MARTIN | | |
| | | |
| /s/ Benjamin G. Norton | | Director |
| BENJAMING. NORTON | | |
| | | |
| /s/ Jeffrey F. Riddell | | Director |
| JEFFREYF. RIDDELL | | |
| | | |
| /s/ John W. Schaeffer, Md | | Director |
| JOHNW. SCHAEFFER, M.D. | | |
| | | |
| /s/ Eugene M. Sofranko | | Director |
| EUGENEM. SOFRANKO | | |
| | | |
| | | |
| STANLEYG. PIJOR | | Director |
| | | |
| /s/ Lee C. Howley | | Director |
| LEEC. HOWLEY | | |
| | | |
| /s/ Donald F. Zwilling | | Director |
| DONALDF. ZWILLING | | |
| | | |
| /s/ James R. Herrick | | Chairman and Director |
| JAMESR. HERRICK | | |
| | |
78
| /s/ Daniel E. Klimas | | Director and Chief Executive Officer |
| DANIELE. KLIMAS | | |
| | | |
| /s/ Terry M. White | | Chief Financial Officer |
| TERRYM. WHITE | | |
| | |
79
