UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One) |
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x Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 | ||
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for the quarterly period ended March 31, 2008. | ||
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Or | ||
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oTransition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 | ||
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for the transition period from to | ||
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Commission File Number 000-50266 |
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TRINITY CAPITAL CORPORATION
(Exact name of registrant as specified in its charter)
New Mexico |
| 85-0242376 |
(State of incorporation) |
| (I.R.S. Employer Identification Number) |
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1200 Trinity Drive, Los Alamos, New Mexico 87544 | ||
(Address of principal executive offices) | ||
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(505) 662-5171 | ||
Telephone number |
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o
Indicate by check mark whether the registrant is a large accelerated filed, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer,” “large accelerated filer” and “Smaller Reporting Company” in Rule 12b-2 of the Exchange Act. (Check one)
Large Accelerated Filer o | Accelerated Filer x |
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Non-Accelerated Filer o | Smaller Reporting Companyo |
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Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act)
o Yes x No
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: 6,499,587 shares of common stock, no par value, outstanding as of May 8, 2008.
TRINITY CAPITAL CORPORATION AND SUBSIDIARIES
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Item 1. |
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Item 2. | Management’s Discussion and Analysis of Financial Condition and Results of Operations
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Item 3. | Quantitative and Qualitative Disclosures About Market Risk
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Item 4. |
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Item 1. |
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Item 1A. |
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Item 2. | Unregistered Sales of Equity Securities and Use of Proceeds
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Item 3. | Defaults Upon Senior Securities
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Item 4. | Submission of Matters to a Vote of Securities Holders
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Item 5. |
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Item 6. |
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| CERTIFICATIONS |
PART I – FINANCIAL INFORMATION
TRINITY CAPITAL CORPORATION & SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
March 31, 2008 and December 31, 2007
(Amounts in thousands, except share data)
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| March 31, 2008 |
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| December 31, 2007 |
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| (Unaudited) |
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ASSETS |
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Cash and due from banks |
| $ | 29,405 |
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| $ | 21,194 |
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Interest-bearing deposits with banks |
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| 8,101 |
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| 24,173 |
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Federal funds sold and securities purchased under resell agreements |
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| 5,795 |
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| 157 |
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Cash and cash equivalents |
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| 43,301 |
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| 45,524 |
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Investment securities available for sale |
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| 124,692 |
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| 99,590 |
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Investment securities held to maturity, at amortized cost (fair value of $9,105 at March 31, 2008 and $9,159 at December 31, 2007) |
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| 9,105 |
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| 9,159 |
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Other investments |
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| 7,435 |
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| 7,380 |
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Loans (net of allowance for loan losses of $13,952 at March 31, 2008 and $13,533 at December 31, 2007 |
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| 1,185,632 |
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| 1,157,573 |
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Loans held for sale |
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| 13,090 |
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| 10,172 |
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Premises and equipment, net |
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| 24,075 |
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| 24,071 |
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Leased property under capital leases, net |
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| 2,211 |
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| 2,211 |
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Accrued interest receivable |
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| 9,552 |
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| 9,781 |
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Mortgage servicing rights, net |
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| 7,716 |
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| 8,066 |
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Other real estate owned |
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| 1,073 |
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| 1,358 |
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Other assets |
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| 5,001 |
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| 4,838 |
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Total assets |
| $ | 1,432,883 |
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| $ | 1,379,723 |
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LIABILITIES AND STOCKHOLDERS' EQUITY |
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Liabilities |
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Deposits: |
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Noninterest-bearing |
| $ | 81,991 |
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| $ | 88,575 |
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Interest-bearing |
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| 1,144,736 |
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| 1,086,883 |
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Total deposits |
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| 1,226,727 |
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| 1,175,458 |
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Short-term borrowings |
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| 40,000 |
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| 40,000 |
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Long-term borrowings |
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| 23,560 |
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| 23,569 |
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Long-term capital lease obligations |
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| 2,211 |
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| 2,211 |
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Junior subordinated debt owed to unconsolidated trusts |
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| 37,116 |
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| 37,116 |
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Borrowings made by Employee Stock Ownership Plan (ESOP) to outside parties |
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| — |
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| 271 |
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Accrued interest payable |
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| 6,778 |
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| 6,721 |
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Other liabilities |
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| 4,973 |
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| 6,350 |
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Total liabilities |
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| 1,341,365 |
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| 1,291,696 |
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(Continued on following page)
TRINITY CAPITAL CORPORATION & SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
March 31, 2008 and December 31, 2007
(Amounts in thousands, except share data)
(Continued from prior page)
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| March 31, 2008 |
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| December 31, 2007 |
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Stock owned by Employee Stock Ownership Plan (ESOP) participants; 645,602 shares and 625,602 shares at March 31, 2008 and December 31, 2007, respectively, at fair value; net of unearned ESOP shares of 0 and 16,937 shares at March 31, 2008 and December 31, 2007, respectively, at historical cost |
| $ | 16,463 |
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| $ | 16,656 |
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Commitments and contingencies (Note 10) |
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Stockholders' equity |
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Common stock, no par, authorized 20,000,000 shares; issued 6,856,800 shares, shares outstanding 6,499,587 and 6,482,650 at March 31, 2008 and December 31, 2007, respectively |
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| 6,836 |
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| 6,836 |
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Additional paid-in capital |
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| 1,644 |
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| 1,520 |
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Retained earnings |
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| 75,886 |
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| 72,610 |
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Accumulated other comprehensive income |
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| 356 |
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| 72 |
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Total stockholders' equity before treasury stock |
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| 84,722 |
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| 81,038 |
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Treasury stock, at cost, 357,213 shares at March 31, 2008 and December 31, 2007, respectively |
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| (9,667 | ) |
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| (9,667 | ) |
Total stockholders' equity |
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| 75,055 |
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| 71,371 |
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Total liabilities and stockholders' equity |
| $ | 1,432,883 |
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| $ | 1,379,723 |
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The accompanying notes are an integral part of these unaudited consolidated financial statements.
TRINITY CAPITAL CORPORATION & SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
For the Three Months Ended March 31, 2008 and 2007
(Amounts in thousands except share and per share data)
(Unaudited)
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| Three Months Ended |
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| March 31, 2008 |
| March 31, 2007 |
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Interest income: |
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Loans, including fees |
| $ | 20,672 |
| $ | 22,142 |
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Investment securities: |
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Taxable |
| 832 |
| 935 |
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Nontaxable |
| 196 |
| 282 |
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Federal funds sold |
| 76 |
| 20 |
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Other interest-bearing deposits |
| 311 |
| 432 |
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Investment in unconsolidated trusts |
| 22 |
| 23 |
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Total interest income |
| 22,109 |
| 23,834 |
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Interest expense: |
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Deposits |
| 9,109 |
| 10,255 |
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Short-term borrowings |
| 323 |
| 13 |
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Long-term borrowings |
| 289 |
| 612 |
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Long-term capital lease obligations |
| 67 |
| — |
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Junior subordinated debt owed to unconsolidated trusts |
| 750 |
| 762 |
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Total interest expense |
| 10,538 |
| 11,642 |
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Net interest income |
| 11,571 |
| 12,192 |
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Provision for loan losses |
| 1,050 |
| 1,050 |
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Net interest income after provision for loan losses |
| 10,521 |
| 11,142 |
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Other income: |
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Mortgage loan servicing fees |
| 614 |
| 623 |
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Loan and other fees |
| 852 |
| 728 |
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Service charges on deposits |
| 425 |
| 380 |
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Gain on sale of loans |
| 654 |
| 409 |
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Gain on sale of securities |
| 555 |
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Other operating income |
| 348 |
| 288 |
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| 3,448 |
| 2,428 |
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Other expenses: |
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Salaries and employee benefits |
| 4,907 |
| 4,645 |
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Occupancy |
| 833 |
| 982 |
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Data processing |
| 539 |
| 447 |
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Marketing |
| 620 |
| 486 |
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Amortization and valuation of mortgage servicing rights |
| 906 |
| 734 |
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Supplies |
| 168 |
| 185 |
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Loss (gain) on sale of other real estate owned |
| 31 |
| (22 | ) | ||
Postage |
| 176 |
| 175 |
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Other |
| 1,223 |
| 1,104 |
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| 9,403 |
| 8,736 |
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Income before income taxes |
| 4,566 |
| 4,834 |
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Income taxes |
| 1,712 |
| 1,777 |
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Net income |
| $ | 2,854 |
| $ | 3,057 |
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Basic earnings per common share |
| $ | 0.44 |
| $ | 0.47 |
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Diluted earnings per common share |
| $ | 0.44 |
| $ | 0.46 |
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The accompanying notes are an integral part of these unaudited consolidated financial statements.
TRINITY CAPITAL CORPORATION & SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Three Months Ended March 31, 2008 and 2007
(Amounts in thousands)
(Unaudited)
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| Three Months Ended |
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| March 31, 2008 |
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| March 31, 2007 |
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Cash Flows From Operating Activities |
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Net income |
| $ | 2,854 |
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| $ | 3,057 |
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Adjustments to reconcile net income to net cash provided by operating activities: |
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Depreciation and amortization |
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| 603 |
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| 569 |
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Net amortization of: |
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Mortgage servicing rights |
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| 720 |
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| 699 |
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Premium and discounts on investment securities, net |
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| 87 |
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| (156 | ) |
Junior subordinated debt owed to unconsolidated trusts issuance costs |
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| 3 |
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| 3 |
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Provision for loan losses |
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| 1,050 |
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| 1,050 |
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Recovery of mortgage servicing rights |
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| 186 |
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| 35 |
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Loss on disposal of premises and equipment |
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| (2 | ) |
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| — |
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(Gain) on sale of investment securities |
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| (555 | ) |
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| — |
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Federal Home Loan Bank (FHLB) stock dividends received |
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| (43 | ) |
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| (66 | ) |
Loss on venture capital investments |
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| 31 |
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Gain on sale of loans |
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| (654 | ) |
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| (409 | ) |
Loss on disposal of other real estate owned |
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| 20 |
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| — |
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Write-down of value of other real estate owned |
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| 15 |
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| — |
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(Increase) decrease in other assets |
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| (123 | ) |
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| 987 |
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Increase in other liabilities |
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| 1,278 |
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| 631 |
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Release of Employee Stock Ownership Plan (ESOP) shares |
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| 298 |
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| 566 |
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Stock options and stock appreciation rights expenses |
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| 54 |
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| 60 |
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Net cash provided by operating activities before originations and gross sales of loans |
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| 5,822 |
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| 7,026 |
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Gross sales of loans held for sale |
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| 52,600 |
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| 21,570 |
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Origination of loans held for sale |
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| (55,420 | ) |
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| (20,887 | ) |
Net cash provided by operating activities |
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| 3,002 |
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| 7,709 |
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(Continued on following page)
TRINITY CAPITAL CORPORATION & SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Three Months Ended March 31, 2008 and 2007
(Amounts in thousands)
(Unaudited)
(Continued from prior page)
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| Three Months Ended |
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| March 31, 2008 |
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| March 31, 2007 |
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Cash Flows From Investing Activities |
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Proceeds from maturities and paydowns of investment securities, available for sale |
| $ | 36,938 |
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| $ | 19,810 |
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Proceeds from maturities and paydowns of investment securities, held to maturity |
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| 54 |
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| 51 |
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Proceeds from maturities and paydowns of investment securities, other |
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| — |
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| 626 |
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Proceeds from sale of investment securities, available for sale |
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| 48,980 |
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| — |
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Purchase of investment securities available for sale |
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| (110,083 | ) |
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| (20,563 | ) |
Purchase of investment securities other |
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| (43 | ) |
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| (203 | ) |
Proceeds from sale of other real estate owned |
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| 400 |
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| — |
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Loans funded, net of repayments |
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| (29,259 | ) |
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| (29,788 | ) |
Purchases of premises and equipment |
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| (605 | ) |
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| (507 | ) |
Net cash (used in) investing activities |
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| (53,618 | ) |
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| (30,574 | ) |
Cash Flows From Financing Activities |
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Net increase in demand deposits, NOW accounts and savings accounts |
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| 37,121 |
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| (3,529 | ) |
Net increase (decrease) in time deposits |
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| 14,148 |
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| (1,276 | ) |
Repayment of borrowings |
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| (9 | ) |
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| (689 | ) |
Repayment of ESOP debt |
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| (271 | ) |
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| (471 | ) |
Purchase of treasury stock |
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| — |
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| (647 | ) |
Dividend payments |
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| (2,596 | ) |
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| (2,302 | ) |
Net cash provided by financing activities |
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| 48,393 |
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| (8,914 | ) |
Net (decrease) in cash and cash equivalents |
| $ | (2,223 | ) |
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| $ | (31,779 | ) |
Cash and cash equivalents: |
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Beginning of period |
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| 45,524 |
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| 73,590 |
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End of period |
| $ | 43,301 |
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| $ | 41,881 |
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Supplemental Disclosures of Cash Flow Information |
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Cash payments for: |
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Interest |
| $ | 10,481 |
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| $ | 11,564 |
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Non-cash investing and financing activities: |
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Transfers from loans to other real estate owned |
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| 150 |
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| 372 |
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Dividends declared, not yet paid |
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| 2 |
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| — |
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Change in unrealized gain on investment securities, net of taxes |
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| 469 |
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| (76 | ) |
The accompanying notes are an integral part of these unaudited consolidated financial statements.
TRINITY CAPITAL CORPORATION & SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Note 1. Basis of Presentation
The accompanying unaudited consolidated financial statements include the consolidated balances and results of operations of Trinity Capital Corporation (“Trinity”) and its wholly owned subsidiaries: Los Alamos National Bank (the “Bank”), Title Guaranty & Insurance Company (“Title Guaranty”), TCC Appraisal Services Corporation (“TCC Appraisals”), TCC Advisors Corporation (“TCC Advisors”) and TCC Funds, collectively referred to as the “Company.” Trinity Capital Trust I (“Trust I”), Trinity Capital Trust III (“Trust III”), Trinity Capital Trust IV (“Trust IV”) and Trinity Capital Trust V (“Trust V”), collectively referred to as the “Trusts,” are trust subsidiaries of Trinity but are not consolidated in these financial statements (see “Consolidation” accounting policy below). Trinity Capital Trust II (“Trust II”) was terminated on December 12, 2006. Due to changes in the requirements of third-party investors for the sale of loans originated by the Bank, the Bank will no longer be permitted to use the appraisal services of an affiliated company, including TCC Appraisals. Due to this rule change, Trinity sold the assets of TCC Appraisals’ as of May 1, 2008. Trinity is in the process of terminating the business of TCC Appraisals.
The business activities of the Company consist solely of the operations of its wholly owned subsidiaries. All significant inter-company balances and transactions have been eliminated in consolidation. In the opinion of management, all adjustments (consisting only of normal recurring adjustments) necessary for a fair presentation of the financial position, results of operations and cash flows for the interim periods have been made. The results of operations for the three months ended March 31, 2008, are not necessarily indicative of the results to be expected for the entire fiscal year.
The unaudited consolidated interim financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America and industry practice. Certain information in footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America and industry practice has been condensed or omitted pursuant to rules and regulations of the Securities and Exchange Commission. These financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company’s December 31, 2007 audited financial statements filed on Form 10-K.
The consolidated financial statements include the accounts of the Company. The accounting and reporting policies of the Company conform to accounting principles generally accepted in the United States of America and general practices within the financial services industry. In preparing the financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the balance sheet and revenues and expenses for the year. Actual results could differ from those estimates. Areas involving the use of management’s estimates and assumptions, and which are more susceptible to change in the near term include the allowance for loan losses and initial recording and subsequent valuation for impairment of mortgage servicing rights.
Certain items have been reclassified from prior period presentations in conformity with the current classification.
Note 2. Comprehensive Income
Comprehensive income includes net income, as well as the change in net unrealized gain on investment securities available for sale, net of tax. Comprehensive income was $3.1 million for each three month periods ended March 31, 2008 and March 31, 2007.
Note 3. Earnings Per Share Data
The following table sets forth the computation of basic and diluted earnings per share for the periods indicated:
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| Three Months Ended March 31, |
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| 2008 |
| 2007 |
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| (Unaudited; In thousands except |
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Net income |
| $ | 2,854 |
| $ | 3,057 |
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Weighted average common shares issued |
| 6,856,800 |
| 6,856,800 |
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LESS: Weighted average treasury stock shares |
| (357,213 | ) | (288,571 | ) | ||
LESS: Weighted average unearned Employee Stock Ownership Plan (ESOP) stock shares |
| (2,420 | ) | (23,001 | ) | ||
Weighted average common shares outstanding, net |
| 6,497,167 |
| 6,545,228 |
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Basic earnings per common share |
| $ | 0.44 |
| $ | 0.47 |
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Weighted average dilutive shares from stock option plan |
| 29,246 |
| 44,243 |
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Weighted average common shares outstanding including dilutive shares |
| 6,526,413 |
| 6,589,471 |
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Diluted earnings per common share |
| $ | 0.44 |
| $ | 0.46 |
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Certain stock options were not included in the above calculation, pursuant to FAS 128, as these stock options would have an anti-dilutive effect at current market prices. The total number of shares excluded was 262,500 as of March 31, 2008.
Note 4. Recent Accounting Pronouncements and Regulatory Developments
In September 2006, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 157, Fair Value Measurements. This Statement defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles (GAAP), and expands disclosures about fair value measurements. This Statement applies under other accounting pronouncements that require or permit fair value measurements, the Board having previously concluded in those accounting pronouncements that fair value is the relevant measurement attribute. Accordingly, this Statement does not require any new fair value measurements. However, for some entities, the application of this Statement will change current practice. This Statement is effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. Earlier application was encouraged, provided that the reporting entity had not yet issued financial statements for that fiscal year, including financial statements for an interim period within that fiscal year. There was no material impact on the Company’s financial statements when this standard was adopted on January 1, 2008.
In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial Assets and Financial Liabilities, which provides companies with an option to report selected financial assets and liabilities at fair value. The Standard’s objective is to reduce both complexity in accounting for financial instruments and the volatility in earnings caused by measuring related assets and liabilities differently. The standard requires companies to provide additional information that will help investors and other users of financial statements to more easily understand the effect of a company’s choice to use fair value on its earnings. It also requires entities to display the fair value of those assets and liabilities for which a company has chosen to use fair value on the face of the balance sheet. The new Statement does not eliminate disclosure requirements included in other accounting standards, including requirements for disclosures about fair value measurements included in FASB Statements No. 157, Fair Value Measurements, and No. 107, Disclosures about Fair Value of Financial Instruments. This Statement is effective as of the beginning of an entity’s first fiscal year beginning after November 15, 2007. Early adoption was permitted as of the beginning of the previous fiscal year provided that the entity made that choice in the first 120 days of that fiscal year and also elects to apply the provisions of FASB Statement No. 157. There was no material impact on the Company’s financial statements when this standard was adopted on January 1, 2008.
On January 1, 2007, the Company adopted FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes. The Company believes that it has appropriate support for the income tax positions taken and to be taken on its tax returns and that its accrual for tax liabilities are adequate for the open years based on an assessment of many factors including past experience and interpretations of tax law. The Company had no unrecognized tax benefits which would require an adjustment to the January 1, 2007 beginning balance of retained earnings. The Company had a net deferred tax liability of $92 thousand and a net deferred tax asset of $1.1 million as of January 1, 2007 and December 31, 2007, respectively.
In December 2007, the FASB issued SFAS No. 141 (revised 2007), Business Combinations, and No. 160, Noncontrolling Interests in Consolidated Financial Statements. Effective for fiscal years beginning after December 15, 2008, the standards will improve, simplify, and converge internationally the accounting for business combinations and the reporting of noncontrolling interests in consolidated financial statements. Statement 141(R) improves reporting by creating greater consistency in the accounting and financial reporting of business combinations, resulting in more complete, comparable, and relevant information for investors and other users of financial statements. To achieve this goal, the new standard requires the acquiring entity in a business combination to recognize all (and only) the assets acquired and liabilities assumed in the transaction; establishes the acquisition-date fair value as the measurement objective for all assets acquired and liabilities assumed; and requires the acquirer to disclose to investors and other users all of the information they need to evaluate and understand the nature and financial effect of the business combination. Statement 141(R) also will reduce the complexity of existing GAAP. The newly issued standard includes both core principles and pertinent application guidance, eliminating the need for numerous EITF issues and other interpretative guidance. Statement 160 improves the relevance, comparability, and transparency of financial information provided to investors by requiring all entities to report noncontrolling (minority) interests in subsidiaries in the same way—as equity in the consolidated financial statements. Moreover, Statement 160 eliminates the diversity that currently exists in accounting for transactions between an entity and noncontrolling interests by requiring they be treated as equity transactions. The Company believes that adoption of these new standards on January 1, 2009, will not have a material effect on its financial statements.
Note 5. Stock Option Plan
The Company’s 1998 Stock Option Plan (“1998 Plan”) and Trinity Capital Corporation 2005 Stock Incentive Plan (“2005 Plan”) were created for the benefit of key management and select employees. Under the 1998 Plan, 400,000 shares (as adjusted for the stock split of December 19, 2002) from shares held in treasury or authorized but unissued common stock are reserved for granting options. Under the 2005 Plan, 500,000 shares from shares held in treasury or authorized but unissued common stock are reserved for granting stock-based incentive awards. Both of these plans were approved by the Company’s shareholders. The Board of Directors determines vesting and pricing of the awards. All stock options granted through December 31, 2005 were granted at or above the market value of the stock at the date of the grant, with the exception of the July 1998 stock option grant which was granted at $0.25 below the last reported sale price on the date of grant. All stock options vest in equal amounts over a three year period and must be exercised within ten years of the date of grant. Stock appreciation rights granted after December 31, 2005 were also granted at or above the market value of the stock at the date of the grant, with the exception of the January 1, 2006 stock appreciation right grants which were approved on December 15, 2005 and granted at the December 31, 2005 closing price to take advantage of accounting changes favorable to Trinity. All stock appreciation rights vest and mature at five years.
Effective January 1, 2006, the Company adopted SFAS No. 123(R), Share-Based Payment, which is an Amendment of FASB Statement Nos. 123 and 95. The Company adopted this standard using the modified prospective transition method. Prior to the adoption of SFAS 123(R), the Company measured stock-based compensation cost in accordance with the methods prescribed in Accounting Principles Board (APB) Opinion No. 25, Accounting for Stock Issued to Employees. Accordingly, no compensation cost was recognized for options granted and vested before January 1, 2006.
Under the provisions of SFAS 123(R), the Company is required to recognize compensation expense for share-based compensation that vest after adoption of the new standard. The Company uses the Black-Scholes model to value the stock options and stock appreciation rights on the date of the grant, and recognizes this expense over the remaining vesting term for the stock options or stock appreciation rights. Key assumptions used in this valuation method (detailed below) are the volatility of the Company’s stock price, a risk-free rate of return (using the U.S. Treasury yield curve) based on the expected term from grant date to exercise date and an annual dividend rate based upon the current market price. Expected term from grant date is based upon the historical time from grant to exercise experienced by the Company. Because share-based compensation vesting in the current periods was granted on a variety of dates, the assumptions are presented as weighted averages in those assumptions.
The following table details the assumptions used in by the Black-Scholes model for valuing share-based compensation granted. There were no stock options or stock appreciation rights granted during the three months ended March 31, 2008. The weighted-average grant date fair value of stock incentives granted during the three months ended March 31, 2007 was $4.32.
|
| Three Months Ended March 31, |
| |||
|
| 2008 |
| 2007 |
| |
|
|
|
|
| ||
Stock price volatility |
| — |
| 12.82 | % |
|
Risk-free rate |
| — |
| 4.70 | % |
|
Expected dividends |
| — |
| 2.40 | % |
|
Expected term (in years) |
| — |
| 5 |
|
|
A summary of stock option and stock appreciation right activity under the 1998 Plan and the 2005 Plan as of March 31, 2008, and changes during the year is presented below.
|
| Shares |
| Weighted-Average Exercise Price |
| Weighted-Average Remaining Contractual Term, in years |
| Aggregate Intrinsic Value (in thousands) |
| ||
|
|
|
| ||||||||
Outstanding at January 1, 2008 |
| 449,395 |
| $ | 26.38 |
|
|
|
|
| |
Granted |
| — |
| — |
|
|
|
|
| ||
Exercised |
| — |
| — |
|
|
|
|
| ||
Forfeited or expired |
| — |
| — |
|
|
|
|
| ||
Outstanding at March 31, 2008 |
| 449,395 |
| $ | 26.38 |
| 4.42 |
| $ | 1,894 |
|
Exercisable at March 31, 2008 |
| 251,895 |
| $ | 25.43 |
| 4.86 |
| $ | 1,088 |
|
No stock options were exercised during the three months ended March 31, 2008 or March 31, 2007.
As of March 31, 2008, there was $587 thousand of total unrecognized compensation cost related to non-vested share-based compensation granted under the 1998 Plan and the 2005 Plan. That cost is expected to be recognized over a weighted-average vesting period of 3.3 years. There were no shares vested during the three months ending March 31, 2008. However, shares that will vest August 15, 2008 have been ratably expensed in the amount of $18 thousand in the first three months of 2008. In addition, we expensed $36 thousand for stock appreciation rights that will vest in 2011 and 2012.
Note 6. Short Term Borrowings
The Company had Federal Home Loan Bank (FHLB) advances with maturity dates of less than one year of $40.0 million as of March 31, 2008 and December 31, 2007.
Note 7. Long Term Borrowings
The Company had FHLB advances with maturity dates greater than one year of $23.6 million as of March 31, 2008 and December 31, 2007. As of March 31, 2008, the advances had fixed interest rates ranging from 4.67% to 6.34%.
Note 8. Long-term Capital Lease Obligations
The Company is leasing land in Santa Fe with the intention of building an office on the site during 2008. The lease, which was entered into in December 2006 and expires in 2014, contains an option to purchase the land at a set price at the termination of the initial term of the lease. This lease is classified as a capital lease. Lease payments for the three months ended March 31, 2008 and 2007 were $46 thousand and $48, respectively.
Note 9. Junior Subordinated Debt Owed to Unconsolidated Trusts
The following table presents details on the junior subordinated debt owed to unconsolidated trusts as of March 31, 2008.
|
| Trust I |
| Trust III |
| Trust IV |
| Trust V |
| ||||
|
| (Dollars in thousands) |
| ||||||||||
Date of issue |
| March 23, 2000 |
| May 11, 2004 |
| June 29, 2005 |
| September 21, 2006 |
| ||||
Amount of trust preferred securities issued |
| $ | 10,000 |
| $ | 6,000 |
| $ | 10,000 |
| $ | 10,000 |
|
Rate on trust preferred securities |
| 10.875 | % | 5.78% (variable | ) | 6.88 | % | 6.83 | % | ||||
Maturity |
| March 8, 2030 |
| September 8, 2034 |
| November 23, 2035 |
| December 15, 2036 |
| ||||
Date of first redemption |
| March 8, 2010 |
| September 8, 2009 |
| August 23, 2010 |
| September 15, 2011 |
| ||||
Common equity securities issued |
| $ | 310 |
| $ | 186 |
| $ | 310 |
| $ | 310 |
|
Junior subordinated deferrable interest debentures owed |
| $ | 10,310 |
| $ | 6,186 |
| $ | 10,310 |
| $ | 10,310 |
|
Rate on junior subordinated deferrable interest debentures |
| 10.875 | % | 5.78% (variable | ) | 6.88 | % | 6.83 | % |
On the dates of issue indicated above, the Trusts, being Delaware statutory business trusts, issued trust preferred securities (the “trust preferred securities”) in the amount and at the rate indicated above. These securities represent preferred beneficial interests in the assets of the Trusts. The trust preferred securities will mature on the dates indicated, and are redeemable in whole or in part at the option of Trinity at any time after the date of first redemption indicated above, with the approval of the Federal Reserve Board and in whole at any time upon the occurrence of certain events affecting their tax or regulatory capital treatment. The Trusts also issued common equity securities to Trinity in the amounts indicated above. The Trusts used the proceeds of the offering of the trust preferred securities to purchase junior subordinated deferrable interest debentures (the “debentures”) issued by Trinity, which have terms substantially similar to the trust preferred securities. Trinity has the right to defer payments of interest on the debentures at any time or from time to time for a period of up to ten consecutive semi-annual periods with respect to each interest payment deferred. Under the terms of the debentures, under certain circumstances of default or if Trinity has elected to defer interest on the debentures, Trinity may not, with certain exceptions, declare or pay any dividends or distributions on its capital stock or purchase or acquire any of its capital stock. Trinity used the majority of the proceeds from the sale of the debentures to add to Tier 1 or Tier 2 capital in order to support its growth and to purchase treasury stock.
Trinity owns all of the outstanding common securities of the Trusts. The Trusts are considered variable interest entities (VIEs) under Financial Accounting Standards Board Interpretation (FIN) No. 46, “Consolidation of Variable Interest Entities, an interpretation of Accounting Research Bulletin No. 51”, as revised. Prior to FIN 46, VIEs were generally consolidated by an enterprise when the enterprise had a controlling financial interest through ownership of a majority of voting interest in the entity. Under FIN 46, a VIE should be consolidated by its primary beneficiary. The Company implemented FIN 46 during the fourth quarter of 2003. Because Trinity is not the primary beneficiary of the Trusts, the financial statements of the Trusts are no longer included in the consolidated financial statements of the Company. The Company’s prior financial statements have been reclassified to de-consolidate the Company’s investment in the Trusts.
In March 2005, the Board of Governors of the Federal Reserve System issued a final rule allowing bank holding companies to continue to include qualifying trust preferred securities in their Tier 1 Capital for regulatory capital purposes, subject to a 25% limitation to all core (Tier I) capital elements, net of goodwill less any associated deferred tax liability. The final rule provides a five-year transition period, ending March 31, 2009, for application of the aforementioned quantitative limitation. As of March 31, 2008, 84.7% of the trust preferred securities noted in the table above qualified as Tier I capital and 15.3% qualified as Tier 2 capital under the final rule adopted in March 2005.
Payments of distributions on the trust preferred securities and payments on redemption of the trust preferred securities are guaranteed by Trinity on a limited basis. Trinity also entered into an agreement as to expenses and liabilities with the Trusts pursuant to which it agreed, on a subordinated basis, to pay any costs, expenses or liabilities of the Trusts other than those arising under the trust preferred securities. The obligations of Trinity under the junior subordinated debentures, the related indenture, the trust agreement establishing the Trusts, the guarantee and the agreement as to expenses and liabilities, in the aggregate, constitute a full and unconditional guarantee by Trinity of the Trusts’ obligations under the trust preferred securities.
Issuance costs of $406 thousand related to Trust I and Trust III were deferred and are being amortized over the period until mandatory redemption of the securities in March 2030 and September 2034, respectively. During each of the three months periods ended March 31, 2008 and 2007, $3 thousand of these issuance costs were amortized. Unamortized issuance costs were $307 thousand and $311 thousand at March 31, 2008 and December 31, 2007, respectively. There were no issuance costs associated with the other trust preferred security issues.
Dividends accrued and unpaid to securities holders totaled $208 thousand and $498 thousand on March 31, 2008 and December 31, 2007, respectively.
Note 10. Commitments, Contingencies and Off-Balance Sheet Activities
Credit-related financial instruments: The Company is a party to credit-related commitments with off-balance-sheet risk in the normal course of business to meet the financing needs of its customers. These credit-related commitments include commitments to extend credit, standby letters of credit and commercial letters of credit. Such credit-related commitments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the consolidated balance sheets.
The Company’s exposure to credit loss is represented by the contractual amount of these credit-related commitments. The Company follows the same credit policies in making credit-related commitments as it does for on-balance-sheet instruments.
At March 31, 2008 and December 31, 2007, the following credit-related commitments were outstanding:
|
| Contract Amount | ||||
|
| March 31, |
| December 31, | ||
|
| 2008 |
| 2007 | ||
|
| (In thousands) | ||||
Unfunded commitments under lines of credit |
| $ | 198,569 |
| $ | 206,424 |
Commercial and standby letters of credit |
| 21,548 |
| 20,321 | ||
Commitments to extend credit under lines of 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 or other termination clauses and may require a payment of a fee. The commitments for lines of credit may expire without being drawn upon. Therefore, the total commitment amounts do not necessarily represent future cash requirements. The amount of collateral obtained, if deemed necessary by the Company, is based on management’s credit evaluation of the customer. Unfunded commitments under commercial lines of credit, revolving credit lines and overdraft protection agreements are commitments for possible future extensions of credit to existing customers. Overdraft protection agreements are uncollateralized, but most other unfunded commitments under lines of credit have collateral. These unfunded lines of credit usually do not contain a specified maturity date and may not necessarily be drawn upon to the total extent to which the Company is committed.
Commercial and standby letters of credit are conditional credit-related commitments issued by the Company to guarantee the performance of a customer to a third party. Letters of credit are primarily issued to support public and private borrowing arrangements. Essentially all letters of credit issued have expiration dates within one year. The credit risk involved in issuing letters of credit is the same as that involved in extending loans to customers. The Company holds collateral supporting those credit-related commitments, if deemed necessary. In the event the customer does not perform in accordance with the terms of the agreement with the third party, the Company would be required to fund the credit-related commitment. The maximum potential amount of future payments the Company could be required to make is represented by the contractual amount shown in the summary above. If the credit-related commitment is funded, the Company would be entitled to seek recovery from the customer. At March 31, 2008 and December 31, 2007, no amounts have been recorded as liabilities for the Company’s potential obligations under these credit-related commitments. The fair value of these credit-related commitments is approximately equal to the fees collected when granting these letters of credit. These fees collected were $21 thousand and $26 thousand as of March 31, 2008 and December 31, 2007, respectively, and are included in “other liabilities” on the Company’s balance sheet.
Concentrations of credit risk: The majority of the loans, commitments to extend credit, and standby letters of credit have been granted to customers in Los Alamos, Santa Fe and surrounding communities. Although the Company has a diversified loan portfolio, a substantial portion of its loans are made to businesses and individuals associated with, or employed by, Los Alamos National Laboratory (“the Laboratory”) as further discussed within Item 1A of Part I of Trinity’s Form 10-K for the year ended December 31, 2007. The ability of such borrowers to honor their contracts is predominately dependent upon the continued operation and funding of the Laboratory. Investments in securities issued by states and political subdivisions involve governmental entities within the State of New Mexico. The distribution of commitments to extend credit approximates the distribution of loans outstanding. Standby letters of credit were granted primarily to commercial borrowers.
Note 11. Litigation
Trinity, the Bank, Title Guaranty, TCC Appraisals, TCC Advisors and TCC Funds were not involved in any pending legal proceedings, other than routine legal proceedings occurring in the normal course of business and those otherwise specifically stated herein, which, in the opinion of management, in the aggregate, were material to the Company’s consolidated financial condition.
Note 12. Fair Value Measurements
Effective January 1, 2008, the Company adopted the provisions of SFAS No. 157, Fair Value Measurements for financial assets and financial liabilities. This Statement defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles (GAAP), and expands disclosures about fair value measurements. Valuation techniques are based upon observable and unobservable inputs. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect the Company’s assumptions about market value. These two types of inputs create the following fair value hierarchy:
| • | Level 1 - Quoted prices for identical instruments in active markets. |
| • | Level 2 - Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations whose inputs are observable. |
| • | Level 3- Instruments whose significant value drivers are unobservable. |
The following table summarizes the Company’s financial instruments that were measured at fair value on a recurring basis at March 31, 2008:
| Level 1 Inputs |
| Level 2 Inputs |
| Level 3 Inputs |
| Total Fair Value | ||||
| (In thousands) | ||||||||||
Foreign currency in vault | $ | 345 |
| $ | — |
| $ | — |
| $ | 345 |
Securities available for sale |
| — |
|
| 124,692 |
|
| — |
|
| 124,692 |
Derivative assets |
| — |
|
| 40 |
|
| — |
|
| 40 |
Derivative liabilities |
| — |
|
| 49 |
|
| — |
|
| 49 |
Foreign currency in vault is valued at current market values in actively traded currency markets. Changes in fair market values are recorded in other income.
Securities available for sale are valued based upon open-market quotes obtained from reputable third-party brokers. Market pricing is based upon specific CUSIP identification for each individual security. Changes in fair market value are recorded in other comprehensive income as the securities are available for sale.
Derivative assets and liabilities represent interest rate contracts between the Company and loan customers, and between the Company and outside parties to whom we have made a commitment to sell residential mortgage loans at a set interest rate. These are valued based upon the differential between the interest rates upon the inception of the contract and the current market interest rates for similar products. Changes in market value are recorded in current earnings.
Certain financial assets and financial liabilities are measured at fair value on a nonrecurring basis; that is, the instruments are not measured at fair value on an ongoing basis but are subject to fair value adjustments in certain circumstances (for example, when there is evidence of impairment). These assets are recorded at the lower of amortized cost or current market value, and a valuation allowance reflects any unrealized market value losses, offset to an expense account. The following table summarizes the Company’s financial instruments that were measured at fair value on a non-recurring basis at March 31, 2008:
| Level 1 Inputs |
| Level 2 Inputs |
| Level 3 Inputs |
| Total Fair Value | ||||
| (In thousands) | ||||||||||
Impaired loans | $ | — |
| $ | — |
| $ | 6,538 |
| $ | 6,538 |
Loans held for sale |
| — |
|
| 13,090 |
|
| — |
|
| 13,090 |
Mortgage servicing rights |
| — |
|
| 7,716 |
|
| — |
|
| 7,716 |
Fair value measurements for impaired loans are performed pursuant to SFAS No. 114, and are based one of three methods to measure impairment; the fair value of the collateral less disposition costs, the present value of expected future cash flows method, or the observable market price of a loan method. The change in fair value of impaired assets that were valued based upon level three inputs was approximately $531 thousand for the three months ended March 31, 2008. This loss is not recorded directly as an adjustment to current earnings or comprehensive income, but rather as an adjustment component in determining the overall adequacy of the loan loss reserve. Such adjustments to the estimated fair value of impaired loans may result in increases or decreases to the provision for loan losses recorded in current earnings.
Loans held for sale are valued based upon open market quotes obtained from the Federal National Mortgage Association (FNMA). Market pricing is based upon mortgage loans with similar terms and interest rates. Changes in market value are recorded in current earnings.
Mortgage servicing rights (MSRs) are valued based upon the value of MSRs that are traded on the open market and a current market value for each risk tranche in our portfolio is assigned. We then compare that market value to the current amortized book value for each tranche. The change in market value (up to the amortized value of the MSR) is recorded as an adjustment to the MSR valuation allowance, with the offset being recorded as an addition or a reduction to current earnings.
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
This discussion is intended to focus on certain financial information regarding the Company and is written to provide the reader with a more thorough understanding of its financial statements. The following discussion and analysis of the Company’s financial position and results of operations should be read in conjunction with the information set forth in Item 3, Quantitative and Qualitative Disclosures about Market Risk and the annual audited consolidated financial statements filed on Form 10-K for the year ended December 31, 2007.
This report contains certain financial information determined by methods other than in accordance with accounting principles generally accepted in the United States of America (GAAP). These measures include net interest margin on a fully tax-equivalent basis and net interest income on a fully tax-equivalent basis. Management uses these non-GAAP measures in its analysis of the Company’s performance. The tax-equivalent adjustment to net interest margin and net interest income recognizes the income tax savings when comparing taxable and tax-exempt assets and adjusting for federal and state exemption of interest income and certain other permanent income tax differences. Management believes that it is a standard practice in the banking industry to present net interest income and net interest margin on a fully tax-equivalent basis, and accordingly believes the presentation of the financial measures may be useful for peer comparison purposes. This disclosure should not be viewed as a substitute for the results determined to be in accordance with GAAP, nor is it necessarily comparable to non-GAAP performance measures that may be presented by other companies. Reconciliations of net interest income on a fully tax-equivalent basis to net interest income and net interest margin on a fully tax-equivalent basis to net interest margin are contained in tables under “Net Interest Income.”
Special Note Concerning Forward-Looking Statements
This document (including information incorporated by reference) contains, and future oral and written statements of the Company and its management may contain, forward-looking statements, within the meaning of such term in the Private Securities Litigation Reform Act of 1995, with respect to the financial condition, results of operations, plans, objectives, future performance and business of the Company. Forward-looking statements, which may be based upon beliefs, expectations and assumptions of the Company’s management and on information currently available to management, are generally identifiable by the use of words such as “believe,” “expect,” “anticipate,” “plan,” “intend,” “estimate,” “may,” “will,” “would,” “could,” “should” or other similar expressions. Additionally, all statements in this document, including forward-looking statements, speak only as of the date they are made, and the Company undertakes no obligation to update any statement in light of new information or future events.
The Company’s ability to predict results or the actual effect of future plans or strategies is inherently uncertain. The factors, which could have a material adverse effect on the operations and future prospects of the Company and its subsidiaries are detailed in the “Risk Factors” section included under Item 1A of Part I of the Company’s Form 10-K for the year ended December 31, 2007. In addition to the risk factors described in that section, there are other factors that may impact any public company, including ours, which could have a material adverse effect on the operations and future prospects of the Company and its subsidiaries. These additional factors include, but are not limited to, the following:
These risks and uncertainties should be considered in evaluating forward-looking statements and undue reliance should not be placed on such statements.
Critical Accounting Policies
Allowance for Loan Losses: The allowance for loan losses is that amount which, in management's judgment, is considered appropriate to provide for potential losses in the loan portfolio. In analyzing the adequacy of the allowance for loan losses, management uses a comprehensive loan grading system to determine risk potential in the portfolio, and considers the results of periodic internal and external loan reviews. Historical loss experience factors and specific reserves for impaired loans, combined with other considerations, such as delinquency, non-accrual, trends on criticized and classified loans, economic conditions, concentrations of credit risk, and experience and abilities of lending personnel, are also considered in analyzing the adequacy of the allowance. Management uses a systematic methodology, which is applied at least quarterly, to determine the amount of allowance for loan losses and the resultant provisions for loan losses it considers adequate to provide for anticipated loan losses. This methodology includes a periodic detailed analysis of the loan portfolio, a systematic loan grading system and a periodic review of the summary of the allowance for loan and lease loss balance. In the event that different assumptions or conditions were to prevail, and depending upon the severity of such changes, the possibility of materially different financial condition or results of operations is a reasonable likelihood.
Three methods are used to evaluate the adequacy of the allowance for loan losses: (1) specific identification, based on management’s assessment of loans in our portfolio and the probability that a charge-off will occur in the upcoming quarter, per SFAS 114; (2) losses probable in the loan portfolio besides those specifically identified, based upon a migration analysis of the percentage of loans currently performing that have probable losses, as set forth in SFAS 5; and (3) qualitative adjustments based on management’s assessment of certain risks such as delinquency trends, watch-list and classified trends, changes in concentrations, economic trends, industry trends, non-accrual trends, exceptions and loan-to-value guidelines, management and staff changes and policy or procedure changes (as set forth in SFAS 5).
While management uses the best information available to make its evaluation, future adjustments to the allowance may be necessary if there are significant changes in economic conditions. In addition, as an integral part of their examination process regulatory agencies periodically review our allowance for loan losses and may require us to make additions to the allowance based on their evaluation of information available at the time of their examinations.
Mortgage Servicing Right (MSR) Assets: Servicing residential mortgage loans for third-party investors represents a significant business activity of the Bank. As of March 31, 2008, mortgage loans serviced for others totaled $949.5 million. The MSRs on these loans total $7.7 million as of March 31, 2008. The expected and actual rates of mortgage loan prepayments are the most significant factors driving the value of MSRs. Increases in mortgage loan prepayments reduce estimated future net servicing cash flows because the life of the underlying loan is reduced. In determining the fair value of the MSRs, mortgage interest rates, which are used to determine prepayment rates and discount rates, are held constant over the estimated life of the portfolio. Fair values of the MSRs are calculated on a monthly basis. The values are based upon current market conditions and assumptions, which incorporate the expected life of the loans, estimated costs to service the loans, servicing fees to be received and other factors. MSRs are carried at the lower of the initial capitalized amount, net of accumulated amortization, or fair value.
The fair value of the MSRs is driven primarily by the effect current mortgage interest rates have on the likelihood borrowers will prepay the underlying mortgages by refinancing at a lower rate. Accordingly, higher interest rates decrease the likelihood of prepayment, extending the life of the MSRs and increasing the value of these assets. Lower interest rates increase the likelihood of prepayment, contracting the life of the MSRs and decreasing the value of these assets. This can have a significant impact on our income. There is no certainty on the direction and amount of interest rate changes looking forward, and therefore, there is no certainty on the amount or direction of the change in valuation.
|
| Three Months Ended |
| ||||
|
| March 31, |
| March 31, |
| ||
|
| 2008 |
| 2007 |
| ||
|
| (In thousands) |
| ||||
Balance at beginning of period |
| $ | 8,250 |
| $ | 9,867 |
|
Servicing rights originated and capitalized |
| 556 |
| 232 |
| ||
Amortization |
| (720 | ) | (699 | ) | ||
|
| $ | 8,086 |
| $ | 9,400 |
|
Below is an analysis of changes in the mortgage servicing right asset valuation allowance:
|
| Three Months Ended |
| ||||
|
| March 31, |
| March 31, |
| ||
|
| 2008 |
| 2007 |
| ||
|
| (In thousands) |
| ||||
Balance at beginning of period |
| $ | (184 | ) | $ | (752 | ) |
Aggregate reductions credited to operations |
| 960 |
| 99 |
| ||
Aggregate additions charged to operations |
| (1,146 | ) | (134 | ) | ||
|
| $ | (370 | ) | $ | (787 | ) |
The fair values of the MSRs were $8.2 million and $8.5 million on March 31, 2008 and December 31, 2007, respectively.
The primary risk characteristics of the underlying loans used to stratify the servicing assets for the purposes of measuring impairment are interest rate and original term.
Our valuation allowance is used to recognize impairments of our MSRs. An MSR is considered impaired when the market value of the MSR is below the amortized book value of the MSR. The MSRs are accounted by risk tranche, with the interest rate and term of the underlying loan being the primary strata used in distinguishing the tranches. Each tranche is evaluated separately for impairment.
We have our MSRs analyzed for impairment on a monthly basis. The underlying loans on all serviced loans are analyzed and, based upon the value of MSRs that are traded on the open market, a current market value for each risk tranche in our portfolio is assigned. We then compare that market value to the current amortized book value for each tranche. The change in market value (up to the amortized value of the MSR) is recorded as an adjustment to the MSR valuation allowance, with the offset being recorded as an addition or a reduction to income.
The impairment is analyzed for other than temporary impairment on a quarterly basis. The MSRs would be considered other than temporarily impaired if there is likelihood that the impairment would not be recovered before the expected maturity of the asset. If the underlying mortgage loans have been amortized at a rate greater than the amortization of the MSR, the MSR may be other than temporarily impaired. As of March 31, 2008, none of the MSRs were considered other than temporarily impaired.
The following assumptions were used to calculate the market value of the MSRs as of March 31, 2008, December 31, 2007 and March 31, 2007:
|
| At March 31, 2008 |
| At December 31, |
| At March 31, 2007 |
| |||||
|
|
|
| |||||||||
Prepayment Standard Assumption (PSA) speed |
|
| 252.00 | % |
| 232.00 | % |
| 205.00 | % | ||
Discount rate |
| 10.00 |
| 10.00 |
| 10.00 |
| |||||
Earnings rate |
| 4.75 |
| 5.00 |
| 5.00 |
| |||||
|
|
|
|
|
|
|
|
|
|
|
|
|
Overview
The Company’s net income decreased by $422 thousand (12.9%) from the quarter ended December 31, 2007 to the quarter ended March 31, 2008. In addition, the Company’s net income decreased $203 thousand (6.6%) from the first quarter of 2007 to the first quarter of 2008. The decrease from the fourth quarter of 2007 and the decrease from the first quarter of 2007 were primarily due to an increase in non-interest expenses and a decrease in net interest income. Total assets grew $53.2 million (3.9%) from December 31, 2007 to March 31, 2008.
Results of Operations-Income Statement Analysis
General. Net income for the first quarter of 2008 decreased to $2.9 million or $0.44 diluted earnings per share, compared to $3.1 million or $0.46 diluted earnings per share for the same period in 2007, a decrease of $203 thousand (6.6%) in net income and a decrease in earnings per share of $0.02 (4.3%). This decrease in net income was primarily due to an increase in non-interest expense of $667 thousand and a decrease in net interest income of $621 thousand. The increase in non-interest expense was mainly due to an increase in salaries and employee benefits, an increase in the valuation allowance for mortgage servicing rights due to falling interest rates and an increase in marketing expenses. The decrease in net interest income was primarily due to a decrease in the yield on interest-earning assets, due to a declining rate environment. In addition, non-interest income increased $1.0 million. The increase in non-interest income was mainly due to an increase in the gain on sale of securities and an increase in the gain on sale of loans. Income tax expenses decreased $65 thousand due to lower pre-tax income.
The profitability of the Company’s operations depends primarily on its net interest income, which is the difference between total interest earned on interest-earning assets and total interest paid on interest-bearing liabilities. The Company’s net income is affected by its provision for loan losses as well as other income and other expenses. The provision for loan losses reflects the amount management believes to be adequate to cover probable credit losses in the loan portfolio. Non-interest income or other income consists of mortgage loan servicing fees, loan and other fees, service charges on deposits, gain on sale of loans, gain on sale of securities and other operating income. Other expenses include salaries and employee benefits, occupancy expenses, data processing expenses, marketing, amortization and valuation of mortgage servicing rights, supplies expense, loss on other real estate owned, postage and other expenses.
The amount of net interest income is affected by changes in the volume and mix of interest-earning assets, the level of interest rates earned on those assets, the volume and mix of interest-bearing liabilities, and the level of interest rates paid on those interest-bearing liabilities. The provision for loan losses is dependent on changes in the loan portfolio and management’s assessment of the collectability of the loan portfolio, as well as economic and market conditions. Other income and other expenses are impacted by growth of operations and growth in the number of accounts through both acquisitions and core banking business growth. Growth in operations affects other expenses as a result of additional employees, branch facilities and promotional marketing expenses. Growth in the number of accounts affects other income including service fees as well as other expenses such as computer services, supplies, postage, telecommunications and other miscellaneous expenses.
Net Interest Income. The following tables present, for the periods indicated, the total dollar amount of interest income from average interest-earning assets and the resultant yields, as well as the interest expense on average interest-bearing liabilities, and the resultant costs, expressed both in dollars and rates:
| Three months ended March 31, |
| |||||||||||||||
| 2008 |
| 2007 |
| |||||||||||||
| Average Balance |
| Interest |
| Yield/ Rate |
|
| Average Balance |
| Interest |
| Yield/ Rate |
| ||||
| (Dollars in thousands) |
| |||||||||||||||
Interest-earning Assets: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loans (1) | $ | 1,171,908 |
| $ | 20,672 |
| 7.09 | % |
| $ | 1,158,093 |
| $ | 22,142 |
| 7.75 | % |
Taxable investment securities |
| 86,721 |
|
| 832 |
| 3.86 |
|
|
| 79,383 |
|
| 935 |
| 4.78 |
|
Investment securities exempt from federal income taxes (2) |
| 15,519 |
|
| 310 |
| 8.03 |
|
|
| 24,846 |
|
| 439 |
| 7.17 |
|
Federal funds sold |
| 9,147 |
|
| 76 |
| 3.34 |
|
|
| 1,877 |
|
| 20 |
| 4.32 |
|
Other interest-bearing deposits |
| 39,894 |
|
| 311 |
| 3.14 |
|
|
| 33,216 |
|
| 432 |
| 5.27 |
|
Investment in unconsolidated trust subsidiaries |
| 1,116 |
|
| 22 |
| 7.93 |
|
|
| 1,116 |
|
| 23 |
| 8.36 |
|
Total interest-earning assets |
| 1,324,305 |
|
| 22,223 |
| 6.75 |
|
|
| 1,298,531 |
|
| 23,991 |
| 7.49 |
|
Non-interest-earning assets |
| 61,761 |
|
|
|
|
|
|
|
| 59,938 |
|
|
|
|
|
|
Total assets | $ | 1,386,066 |
|
|
|
|
|
|
| $ | 1,358,469 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest-bearing Liabilities: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Deposits: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
NOW deposits | $ | 91,335 |
| $ | 381 |
| 1.68 | % |
| $ | 92,641 |
| $ | 583 |
| 2.55 | % |
Money market deposits |
| 198,019 |
|
| 884 |
| 1.80 |
|
|
| 192,258 |
|
| 1,107 |
| 2.34 |
|
Savings deposits |
| 271,917 |
|
| 1,471 |
| 2.18 |
|
|
| 236,017 |
|
| 1,505 |
| 2.59 |
|
Time deposits over $100,000 |
| 322,980 |
|
| 3,885 |
| 4.84 |
|
|
| 345,918 |
|
| 4,443 |
| 5.21 |
|
Time deposits under $100,000 |
| 216,287 |
|
| 2,488 |
| 4.63 |
|
|
| 213,895 |
|
| 2,617 |
| 4.96 |
|
Short-term borrowings, including ESOP borrowings under 1 year |
| 40,039 |
|
| 323 |
| 3.24 |
|
|
| 931 |
|
| 13 |
| 5.66 |
|
Long-term borrowings, including ESOP borrowings over 1 year |
| 23,563 |
|
| 289 |
| 4.93 |
|
|
| 63,599 |
|
| 612 |
| 3.90 |
|
Long-term capital lease obligations |
| 2,211 |
|
| 67 |
| 12.19 |
|
|
| — |
|
| — |
| — |
|
Junior subordinated debt owed to unconsolidated trusts |
| 37,116 |
|
| 750 |
| 8.13 |
|
|
| 37,116 |
|
| 762 |
| 8.33 |
|
Total interest-bearing liabilities |
| 1,203,467 |
|
| 10,538 |
| 3.52 |
|
|
| 1,182,375 |
|
| 11,642 |
| 3.99 |
|
Demand deposits--non-interest-bearing |
| 41,984 |
|
|
|
|
|
|
|
| 36,551 |
|
|
|
|
|
|
Other non-interest-bearing liabilities |
| 50,430 |
|
|
|
|
|
|
|
| 56,691 |
|
|
|
|
|
|
Stockholders' equity, including stock owned by ESOP |
| 90,185 |
|
|
|
|
|
|
|
| 82,852 |
|
|
|
|
|
|
Total liabilities and stockholders equity | $ | 1,386,066 |
|
|
|
|
|
|
| $ | 1,358,469 |
|
|
|
|
|
|
Net interest income on a fully tax-equivalent basis/interest rate Spread(3) |
|
|
| $ | 11,685 |
| 3.23 | % |
|
|
|
| $ | 12,349 |
| 3.50 | % |
Net interest margin on a fully tax-equivalent basis(4) |
|
|
|
|
|
| 3.55 | % |
|
|
|
|
|
|
| 3.86 | % |
Net interest margin(4) |
|
|
|
|
|
| 3.51 | % |
|
|
|
|
|
|
| 3.81 | % |
________________
(1) | Average loans include non-accrual loans of $12.5 million and $7.9 million for March 31, 2008 and 2007, respectively. Interest income includes loan origination fees of $699 thousand and $854 thousand for the three months ended March 31, 2008 and 2007, respectively. |
(2) |
Non-taxable investment income is presented on a fully tax-equivalent basis, adjusting for federal and state exemption of interest income and certain other permanent tax differences. |
(3) | Interest rate spread represents the difference between the average yield on interest-earning assets and the average cost of interest-bearing liabilities and is presented on a fully tax-equivalent basis. |
(4) | Net interest margin represents net interest income as a percentage of average interest-earning assets. |
For the first quarter of 2008, net interest income on a fully tax-equivalent basis decreased $664 thousand (5.4%) to $11.7 million from $12.3 million for the first quarter of 2007. The decrease in net interest income on a fully tax-equivalent basis resulted from a decrease in interest income on a fully tax-equivalent basis of $1.8 million (7.4%), which was partially offset by a decrease in interest expense of $1.1 million (9.5%). Interest income decreased mainly due to a decrease in the yield on interest-earning assets of 74 basis points, which accounted for a decrease in interest income on a fully tax-equivalent basis of $2.1 million. This was partially offset by an increase in average interest-earning assets of $25.8 million (2.0%), which accounted for an increase of $298 thousand in interest income on a fully tax-equivalent basis. Interest expense decreased due to a decrease in the cost of interest-bearing liabilities of 47 basis points, which accounted for $1.1 million of the decrease. This was slightly offset by an increase in average total interest-bearing liabilities of $21.1 million (1.8%), accounting for an increase in $39 thousand of the increase in interest expense. The net interest margin expressed on a fully tax-equivalent basis decreased 31 basis points to 3.55% for the quarter ended March 31, 2008 from 3.86% for the quarter ended March 31, 2007.
The lower interest rate environment in 2008 has resulted in an industry-wide compression of net interest margin, and we have experienced this as well. Many of our loan products have variable rates, and as a result, have repriced to lower rates. We have taken steps to address this issue by aggressively changing deposit rates to reflect the lower interest rate environment. However, some compression is expected even with proactive measures due to competitive pricing pressures for deposits.
The following table reconciles net interest income on a fully tax-equivalent basis for the periods presented:
|
| Three Months Ending March 31, |
| ||||||
|
| 2008 |
| 2007 |
|
| |||
|
|
|
|
|
|
| |||
Net interest income |
| $ | 11,571 |
| $ | 12,192 |
|
| |
Tax-equivalent adjustment to net interest income |
| 114 |
| 157 |
|
| |||
Net interest income, fully tax-equivalent basis |
| $ | 11,685 |
| $ | 12,349 |
|
| |
Volume, Mix and Rate Analysis of Net Interest Income. The following tables present the extent to which changes in volume, changes in interest rates, and changes in the interest rates times the changes in volume of interest-earning assets and interest-bearing liabilities have affected the Company’s interest income and interest expense during the periods indicated. Information is provided on changes in each category due to (i) changes attributable to changes in volume (change in volume times the prior period interest rate), (ii) changes attributable to changes in interest rate (changes in rate times the prior period volume) and (iii) changes attributable to changes in rate/volume (changes in interest rate times changes in volume). Changes attributable to the combined impact of volume and rate have been allocated proportionally to the changes due to volume and the changes due to rate.
|
| Three Months Ended March 31, |
| |||||||
|
| 2008 Compared to 2007 |
| |||||||
|
| Change Due |
| Change Due |
| Total |
| |||
|
| to Volume |
| to Rate |
| Change |
| |||
|
| (In thousands) |
| |||||||
Interest Earning Assets: |
|
|
|
|
|
|
| |||
Loans |
| $ | 261 |
| $ | (1,731 | ) | $ | (1,470 | ) |
Taxable investment securities |
| 81 |
| (184 | ) | (103 | ) | |||
Investment securities exempt from federal income taxes(1) |
| (180 | ) | 51 |
| (129 | ) | |||
Federal funds sold |
| 61 |
| (5 | ) | 56 |
| |||
Other interest bearing deposits |
| 75 |
| (196 | ) | (121 | ) | |||
Investment in unconsolidated trust subsidiaries |
| — |
| (1 | ) | (1 | ) | |||
Total increase (decrease) in interest income |
| 298 |
| (2,066 | ) | (1,768 | ) | |||
Interest Bearing Liabilities: |
|
|
|
|
|
|
| |||
NOW deposits |
| (8 | ) | (194 | ) | (202 | ) | |||
Money market deposits |
| 32 |
| (255 | ) | (223 | ) | |||
Savings deposits |
| 211 |
| (245 | ) | (34 | ) | |||
Time deposits over $100,000 |
| (284 | ) | (274 | ) | (558 | ) | |||
Time deposits under $100,000 |
| 29 |
| (158 | ) | (129 | ) | |||
Short-term borrowings |
| 324 |
| (14 | ) | 310 |
| |||
Long-term borrowings |
| (332 | ) | 9 |
| (323 | ) | |||
Long-term capital lease obligations |
| 67 |
| — |
| 67 |
| |||
Junior subordinated debt owed to unconsolidated trusts |
| — |
| (12 | ) | (12 | ) | |||
Total increase (decrease) in interest expense |
| 39 |
| (1,143 | ) | (1,104 | ) | |||
Increase (decrease) in net interest income |
| $ | 259 |
| $ | (923 | ) | $ | (664 | ) |
____________________
(1) | Non-taxable investment income is presented on a fully tax-equivalent basis, adjusting for federal and state exemption of interest income and certain other permanent income tax differences. |
Other Income. Changes in other income between the three months ended March 31, 2008 and 2007 were as follows:
|
| Three Months Ended |
|
|
| |||||
|
| March 31, 2008 |
| March 31, 2007 |
| Net difference |
| |||
|
| (In thousands) |
| |||||||
Other income: |
|
|
|
|
|
|
| |||
Mortgage loan servicing fees |
| $ | 614 |
| $ | 623 |
| $ | (9 | ) |
Loan and other fees |
| 852 |
| 728 |
| 124 |
| |||
Service charges on deposits |
| 425 |
| 380 |
| 45 |
| |||
Gain on sale of loans |
| 654 |
| 409 |
| 245 |
| |||
Gain on sale of securities |
| 555 |
| — |
| 555 |
| |||
Other operating income |
| 348 |
| 288 |
| 60 |
| |||
|
| $ | 3,448 |
| $ | 2,428 |
| $ | 1,020 |
|
In the first quarter of 2008, other income increased from the first quarter of 2007 by $1.0 million (42.0%) from $2.4 million in 2007 to $3.4 million in 2008. There was a gain on sale of securities of $555 thousand in 2008, and there was no such gain in 2007. These securities were sold as part of our liquidity and interest-rate risk management. Gain on sale of loans increased $245 thousand (59.9%) from 2007 to 2008 due to a higher volume of loans sold between the two periods. Loans and other fees increased $124 thousand (17.0%) largely due to increased trust department fee income from fees collected on probate and agency accounts related to increased account activity.
Other Expenses. Changes in other expenses between the three months ended March 31, 2008 and 2007 were as follows:
|
| Three Months Ended |
|
|
| |||||
|
| March 31, 2008 |
| March 31, 2007 |
| Net difference |
| |||
|
| (In thousands) |
| |||||||
Other expenses: |
|
|
|
|
|
|
| |||
Salaries and employee benefits |
| $ | 4,907 |
| $ | 4,645 |
| $ | 262 |
|
Occupancy |
| 833 |
| 982 |
| (149 | ) | |||
Data processing |
| 539 |
| 447 |
| 92 |
| |||
Marketing |
| 620 |
| 486 |
| 134 |
| |||
Amortization and valuation of mortgage servicing rights |
| 906 |
| 734 |
| 172 |
| |||
Supplies |
| 168 |
| 185 |
| (17 | ) | |||
Loss on sale of other real estate owned |
| 31 |
| (22 | ) | 53 |
| |||
Postage |
| 176 |
| 175 |
| 1 |
| |||
Other |
| 1,223 |
| 1,104 |
| 119 |
| |||
|
| $ | 9,403 |
| $ | 8,736 |
| $ | 667 |
|
For the first quarter of 2008, other expenses increased $667 thousand (7.6%) to $9.4 million in 2008 from $8.7 million in the first quarter of 2007. Salaries and employee benefits increased $262 thousand (5.6%) due to normal merit increases in salaries and a slight increase in staff. Amortization and valuation of mortgage servicing rights increased $172 thousand (23.4%) due to an increase in the valuation allowance associated with the mortgage servicing right assets. The increase in the valuation allowance was due to a decrease in interest rates between 2007 and 2008. Occupancy expenses decreased $149 thousand (15.2%) mainly due to a decrease in maintenance expense between the two periods. Marketing expenses increased $134 thousand (27.6%) due to an increase in advertising expenses from advertising campaigns initiated in the first quarter of 2008.
Income Taxes. In the first quarter of 2008, income tax expense decreased $65 thousand (3.7%) over the first quarter of 2007, decreasing from $1.8 million in 2007 to $1.7 million in 2008. The effective tax rate increased to 37.5% in the first quarter of 2008 compared to 36.8% in the first quarter of 2007. The decrease was mainly attributable to a change in the estimation of current income tax expense.
Financial Condition-Balance Sheet Analysis
General. Total assets at March 31, 2008 were $1.4 billion, an increase of $53.2 million (3.9%) from December 31, 2007. Net loans accounted for most of this change, increasing $28.1 million (2.4%) during the first three months of 2008. Investment securities available for sale also increased $25.1 million (25.2%) during the same period. During the same period, total liabilities increased by $49.7 million (3.8%), remaining at $1.3 billion. The increase in total liabilities was primarily due to an increase in deposits of $51.3 million (4.4%). Stockholders’ equity (including stock owned by the Employee Stock Ownership Plan) increased $3.5 million (4.0%) to $91.5 million on March 31, 2008 compared to $88.0 million on December 31, 2007.
Investment Securities. The primary purposes of the investment portfolio are to provide a source of earnings for the purpose of managing liquidity, to provide collateral to pledge against public deposits and to control interest rate risk. In managing the portfolio, the Company seeks to obtain the objectives of safety of principal, liquidity, diversification and maximized return on funds. For an additional discussion with respect to these matters, see “Liquidity and Sources of Capital” under Item 2 and “Asset Liability Management” under Item 3 below.
The following tables set forth the amortized cost and fair value of the Company’s securities by accounting classification category and by type of security as indicated:
|
| At March 31, 2008 |
| At December 31, 2007 |
| At March 31, 2007 |
| ||||||||||||
|
| Amortized |
|
|
| Amortized |
|
|
| Amortized |
|
|
| ||||||
|
| Cost |
| Fair Value |
| Cost |
| Fair Value |
| Cost |
| Fair Value |
| ||||||
|
| (In thousands) |
| ||||||||||||||||
Investment securities Available for Sale: |
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Government sponsored agencies |
| $ | 117,720 |
| $ | 118,250 |
| $ | 93,081 |
| $ | 93,201 |
| $ | 73,943 |
| $ | 73,772 |
|
States and political subdivisions |
| 6,386 |
| 6,439 |
| 6,391 |
| 6,385 |
| 15,183 |
| 15,112 |
| ||||||
Equity securities |
| 1 |
| 3 |
| 1 |
| 4 |
| 1 |
| 5 |
| ||||||
Total investment securities available for sale |
| $ | 124,107 |
| $ | 124,692 | $ | 99,473 |
| $ | 99,590 |
| $ | 89,127 |
| $ | 88,889 |
| |
Investment securities Held to Maturity: |
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
States and political subdivisions |
| $ | 9,105 |
| $ | 9,105 |
| $ | 9,159 |
| $ | 9,159 |
| $ | 10,916 |
| $ | 10,912 |
|
Total investment securities held to maturity |
| $ | 9,105 |
| $ | 9,105 |
| $ | 9,159 |
| $ | 9,159 |
| $ | 10,916 |
| $ | 10,912 |
|
Other investments: |
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Non-marketable equity securities (including FRB and FHLB stock) |
| $ | 6,319 |
| $ | 6,319 |
| $ | 6,264 |
| $ | 6,264 |
| $ | 6,463 |
| $ | 6,463 |
|
Investment in unconsolidated trusts |
| 1,116 |
| 1,116 |
| 1,116 |
| 1,116 |
| 1,116 |
| 1,116 |
| ||||||
Total other investments |
| $ | 7,435 |
| $ | 7,435 |
| $ | 7,380 |
| $ | 7,380 |
| $ | 7,579 |
| $ | 7,579 |
|
Loan Portfolio. The following tables set forth the composition of the loan portfolio:
|
| At March 31, 2008 |
| At December 31, 2007 |
| At March 31, 2007 |
| |||||||||
|
| Amount |
| Percent |
| Amount |
| Percent |
| Amount |
| Percent |
| |||
|
| (Dollars in thousands) |
| |||||||||||||
Commercial |
| $ | 113,987 |
| 9.49 | % | $ | 118,670 |
| 10.12 | % | $ | 122,580 |
| 10.54 | % |
Commercial real estate |
| 393,743 |
| 32.77 |
| 382,909 |
| 32.65 |
| 401,984 |
| 34.58 |
| |||
Residential real estate |
| 364,351 |
| 30.33 |
| 360,934 |
| 30.77 |
| 339,762 |
| 29.22 |
| |||
Construction real estate |
| 246,776 |
| 20.54 |
| 249,284 |
| 21.26 |
| 241,224 |
| 20.75 |
| |||
Installment and other |
| 82,499 |
| 6.87 |
| 61,028 |
| 5.20 |
| 57,107 |
| 4.91 |
| |||
Total loans |
| 1,201,356 |
| 100.00 |
| 1,172,825 |
| 100.00 |
| 1,162,657 |
| 100.00 |
| |||
Unearned income |
| (1,772 | ) |
|
| (1,719 | ) |
|
| (2,199 | ) |
|
| |||
Gross loans |
| 1,199,584 |
|
|
| 1,171,106 |
|
|
| 1,160,458 |
|
|
| |||
Allowance for loan losses |
| (13,952 | ) |
|
| (13,533 | ) |
|
| (12,535 | ) |
|
| |||
Net loans |
| $ | 1,185,632 |
|
|
| $ | 1,157,573 |
|
|
| $ | 1,147,923 |
|
|
|
Total loans increased $28.5 million (2.4%) to $1.2 billion at March 31, 2008 from $1.2 billion at December 31, 2007. The increase was due primarily to growth in the Company’s installment and other loans and commercial real estate portfolios. During the same period, there was a slight drop in the commercial and construction real estate portfolios.
Asset Quality. The following table sets forth the amounts of non-performing loans and non-performing assets at the dates indicated:
|
| At March 31, 2008 |
| At |
| At March 31, 2007 |
| |||
|
| (Dollars in thousands) |
| |||||||
Non-accruing loans |
| $ | 12,902 |
| $ | 11,789 |
| $ | 9,424 |
|
Loans 90 days or more past due, still accruing interest |
| — |
| — |
| — |
| |||
Total non-performing loans |
| 12,902 |
| 11,789 |
| 9,424 |
| |||
Other real estate owned |
| 1,073 |
| 1,358 |
| 537 |
| |||
Other repossessed assets |
| 40 |
| 4 |
| 10 |
| |||
Total non-performing assets |
| $ | 14,015 |
| $ | 13,151 |
| $ | 9,971 |
|
Total non-performing loans to total loans |
| 1.07 | % | 1.01 | % | 0.81 | % | |||
Allowance for loan losses to non-performing loans |
| 108.14 | % | 114.79 | % | 133.01 | % | |||
Total non-performing assets to total assets |
| 0.98 | % | 0.95 | % | 0.74 | % |
At March 31, 2008, total non-performing assets increased $864 thousand (6.6%) to $14.0 million from $13.2 million at December 31, 2007, primarily due to increases in non-performing loans of $1.1 million. Non-performing loans increased mainly due to a construction relationship and a residential real estate relationship being placed on non-accrual status in 2008. The collateral on the construction relationship is valued at $380 thousand, with a total loan balance of $645 thousand. The $265 thousand that exceeds the collateral value has been specifically allocated in the reserve for loan loss. The residential real estate relationship collateral is valued at $459 thousand, with a total loan balance of $694 thousand. The $235 thousand that exceeds the collateral value has been specifically allocated in the reserve for loan loss.
Allowance for Loan Losses. Management believes the allowance for loan losses accounting policy is critical to the portrayal and understanding of the Company’s financial condition and results of operations. As such, selection and application of this “critical accounting policy” involves judgments, estimates, and uncertainties that are susceptible to change. In the event that different assumptions or conditions were to prevail, and depending upon the severity of such changes, the possibility of materially different financial condition or results of operations is a reasonable likelihood.
The allowance for loan losses is maintained at an amount that management believes will be appropriate to absorb probable losses on existing loans, based on an evaluation of the collectability of loans and prior loss experience. This evaluation also takes into consideration such factors as changes in the nature and volume of the loan portfolio, the value of underlying collateral, overall portfolio quality, review of specific problem loans and current economic conditions that may affect the borrower’s ability to pay. While management uses the best information available to make its evaluation, future adjustments to the allowance may be necessary if there are significant changes in economic conditions. In addition, as an integral part of their examination process regulatory agencies periodically review the Company’s allowance for loan losses and may require the Company to make additions to the allowance based on their evaluation of information available at the time of their examinations.
The following table presents an analysis of the allowance for loan losses for the periods presented:
|
| Three Months Ended |
| ||||
|
| March 31, |
| March 31, |
| ||
|
| 2008 |
| 2007 |
| ||
|
| (Dollars in thousands) |
| ||||
Balance at beginning of period |
| $ | 13,533 |
| $ | 12,167 |
|
Provision for loan losses |
| 1,050 |
| 1,050 |
| ||
Charge-offs |
| (723 | ) | (836 | ) | ||
Recoveries |
| 92 |
| 154 |
| ||
Net charge-offs |
| (631 | ) | (682 | ) | ||
Balance at end of period |
| $ | 13,952 |
| $ | 12,535 |
|
Gross loans at end of period |
| $ | 1,199,584 |
| $ | 1,160,458 |
|
Ratio of allowance to total loans |
| 1.16 | % | 1.08 | % | ||
Ratio of net charge-offs to average loans (1) |
| 0.22 | % | 0.24 | % |
____________________
(1) | Net charge-offs are annualized for the purposes of this calculation. |
Net charge-offs for the three months ended March 31, 2008 totaled $631 thousand, a decrease of $51 thousand (7.5%), from $682 thousand for the three months ended March 31, 2007. The majority of the charge-offs were installment and commercial loans. The decrease in net charge-offs for the first quarter of 2008 was primarily due to a decrease in charge-offs from the commercial real estate portfolio. The provision for loan losses was unchanged in the two periods based upon management’s estimate of the adequacy of the reserve for loan losses. For further information, please see discussion in “Critical Accounting Policies –Allowance for Loan Losses” and “Results of Operations—Income Statement Analysis” above.
The following table sets forth the allocation of the allowance for loan losses in each loan category for the periods presented and the percentage of loans in each category to total loans. An allocation for a loan classification is only for internal analysis of the adequacy of the allowance and is not an indication of expected or anticipated losses:
|
| At March 31, 2008 |
| At December 31, 2007 |
| At March 31, 2007 |
| |||||||||||
|
| Amount |
| Percent |
| Amount |
| Percent |
| Amount |
| Percent |
| |||||
|
| (Dollars in thousands) | ||||||||||||||||
Commercial |
| $ | 4,363 |
| 9.49 | % | $ | 4,551 |
| 10.12 | % | $ | 4,577 |
| 10.54 | % | ||
Commercial and residential real estate |
| 4,483 |
| 63.10 |
| 4,308 |
| 63.42 |
| 5,044 |
| 63.80 |
| |||||
Construction real estate |
| 4,143 |
| 20.54 |
| 3,703 |
| 21.26 |
| 2,227 |
| 20.75 |
| |||||
Installment and other |
| 1,137 |
| 6.87 |
| 1,017 |
| 5.20 |
| 856 |
| 4.91 |
| |||||
Unallocated |
| (174 | ) | N/A |
| (46 | ) | N/A |
| (169 | ) | N/A |
| |||||
Total |
| $ | 13,952 |
| 100.00 | % | $ | 13,533 |
| 100.00 | % | $ | 12,535 |
| 100.00 | % | ||
_______________
N/A—not applicable
The allowance for loan losses increased $1.4 million (11.3%) from March 31, 2007 to March 31, 2008. This was mainly due to an increase in the allowance allocated to construction loans, and was partially offset by a decrease in the allocation for commercial and residential real estate loans. The allocation for construction loans increased $1.9 million (86.0%) from March 31, 2007 to March 31, 2008, mainly due to an increase in historical loss experience (based on regression analysis) of $1.2 million. The allocation for commercial and residential real estate loans decreased $561 thousand (11.1%), mainly due to a decrease in historical loss experience (based on regression analysis) of $720 thousand, which was partially offset by an increase for specifically identified loans of $210 thousand. For further information, please see discussion in “Critical Accounting Policies—Allowance for Loan Losses” above.
A loan is considered impaired when, based on current information and events, it is probable that the bank will be unable to collect all amounts due according to the original contractual terms of the loan agreement, including both principal and interest. The impairment amount of the loan is equal to the recorded investment in the loan less the net fair value. The bank generally uses one of three methods to measure impairment; the fair value of the collateral less disposition costs, the present value of expected future cash flows method, or the observable market price of a loan method .The impairment amount is normally recorded as a specifically identified allocation in the reserve allowance. Total loans which were deemed to have been impaired as of March 31, 2008 were $9.7 million. Collateral associated with these impaired loans (less estimated selling costs) totaled $6.5 million, for a total impairment value of $3.2 million. This impairment is included in the allowance for loan losses as an allocation for specifically identified loans.
Restructured loans are defined as those loans whose terms have been modified, because of a deterioration in the financial condition of the borrower, to provide for a reduction of either interest or principal, regardless of whether such loans are secured or unsecured, regardless of whether such credits are guaranteed by the government or others, and regardless of the effective interest rate on such credits. Such a loan is considered restructured until paid in full. However, a loan that is restructured with an interest rate similar to current market interest rates and is in compliance with the modified terms need not be reported as restructured beginning the year after the year in which it was restructured. Total loans which were considered restructured as of March 31, 2008 were $4.6 million.
The Bank expects somewhat slower growth in its loan portfolio as the pace of economic expansion in the New Mexico economy has moderated during the past year. The Bank anticipates the volume of commercial real estate and construction loans to slow as home builders attempt to reduce inventory and cut back on new starts of residential properties. Overall, the outlook for the New Mexico economy in 2008 is expected to be moderate and one of restrained growth. Nonfarm employment growth reached only 0.9% in 2007, and is expected to reach only 1.0% in 2008. Housing construction overall is expected to remain depressed throughout the remainder of 2008, but experience a modest recovery toward the middle of 2009. Total net charge-offs have decreased $51 thousand over the first three months of last year mostly due to decreases of commercial non-real estate charge offs.
Additions to the allowance for loan losses, which are charged to earnings through the provision for loan losses, are determined based on a variety of factors, as indicated above. Although the Company believes the allowance for loan losses is sufficient to cover probable losses inherent in the loan portfolio, there can be no assurance that the allowance will prove sufficient to cover actual loan losses.
Potential Problem Loans. The Company utilizes an internal asset classification system as a means of reporting problem and potential problem assets. At scheduled Board of Directors meetings every quarter, a list of total adversely classified assets is presented, showing OREO, other repossessed assets, and all loans listed as “Substandard,” “Doubtful” and “Loss.” All non-accrual loans are classed either as “Substandard” or “Doubtful” and are thus included in total adversely classified assets. A separate watch list of loans classified as “Special Mention” is also presented. An asset is classified Substandard if it is inadequately protected by the current net worth and paying capacity of the obligor or by the collateral pledged, if any. Substandard assets have well-defined weaknesses that jeopardize liquidation of the debt. There is a distinct possibility that the Company will sustain some loss if the deficiencies are not corrected. Assets classified as Doubtful have all the weaknesses inherent in those classified Substandard, but weaknesses are so pronounced that collection or liquidation is highly questionable and improbable. Assets classified as Loss are those considered uncollectible and viewed as non-bankable assets worthy of charge-off. Special Mention Assets are those that have potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in the Bank’s credit position at some future date.
The Company’s determinations as to the classification of its assets and the amount of its valuation allowances are subject to review by the Bank’s primary regulators, which can order the establishment of additional general or specific loss allowances. The OCC, in conjunction with the other federal banking agencies, has adopted an interagency policy statement on the allowance for loan losses. The policy statement provides guidance for financial institutions on both the responsibilities of management for the assessment and establishment of adequate allowances and guidance for banking agency examiners to use in determining the adequacy of general valuation guidelines. Generally, the policy statement recommends that (i) institutions have effective systems and controls to identify, monitor and address asset quality problems; (ii) management analyze all significant factors that affect the collectability of the portfolio in a reasonable manner; and (iii) management establish acceptable allowance evaluation processes that meet the objectives set forth in the policy statement. Management believes it establish an adequate allowance for probable loan losses. The Company analyzes its process regularly with modifications made as necessary, and reports those results quarterly at Board of Directors meetings. However, there can be no assurance that regulators, in reviewing the Company’s loan portfolio, will not request the Company to materially increase its allowance for loan losses. Although management believes that adequate specific and general loan loss allowances have been established, actual losses are dependent upon future events and, as such, further additions to the level of specific and general loan loss allowances may become necessary.
The following table shows the amounts of adversely classified assets and special mention loans as of the periods indicated:
|
| At March 31, 2008 |
| At December 31, 2007 |
| At March 31, 2007 |
| |||
|
| (Dollars in thousands) |
| |||||||
Loans classified as: |
|
|
|
|
|
|
| |||
Substandard |
| $ | 35,218 |
| $ | 19,053 |
| $ | 21,973 |
|
Doubtful |
| 3,175 |
| 2,644 |
| 1,625 |
| |||
Total adversely classified loans |
| 38,393 |
| 21,697 |
| 23,598 |
| |||
Other real estate owned |
| 1,073 |
| 1,358 |
| 537 |
| |||
Other repossessed assets |
| 40 |
| 4 |
| 10 |
| |||
Total adversely classified assets |
| $ | 39,506 |
| $ | 23,059 |
| $ | 24,145 |
|
Special mention loans |
| $ | 20,607 |
| $ | 30,715 |
| $ | 3,092 |
|
Total adversely classified assets increased $15.4 million (63.6%) from March 31, 2007 to March 31, 2008. The main reason for the increase was an increase of $13.2 million in substandard loans. This was primarily due to the downgrading of one large commercial real estate relationship in the first quarter of 2008. The Company believes it has adequate collateral as security for this loan. Special mention loans increased $17.5 million (566.5%) between March 31, 2007 and March 31, 2008, primarily due to downgrades of credits from the pass grades in the commercial loan portfolio.
Sources of Funds
Liquidity and Sources of Capital
The Company’s cash flows are comprised of three classifications: cash flows from operating activities, cash flows from investing activities and cash flows from financing activities. Net cash provided by operating activities was $3.0 million and $7.7 million for the three months ended March 31, 2008 and March 31, 2007, respectively. Net cash provided by operating activities decreased $4.7 million in the first three months of 2008 compared to the first three months of 2007 largely due to an increase in the origination of loans held for sale, net of sales, of $3.5 million. Net cash used in investing activities was $(53.6) million and ($30.6) million for the three months ended March 31, 2008 and March 31, 2007, respectively. The $23.0 million increase in cash used in investing activities was largely due to an increase in cash used to purchase investment securities available for sale of $89.5 million, which was partially offset by an increase in cash provided by the proceeds from the sales of investment securities of $49.0 million and an increase in cash provided by the maturities and paydowns of investment securities available for sale of $17.1 million. Net cash provided by (used in) financing activities was $48.4 million and $(8.9) million for the three months ended March 31, 2008 and March 31, 2007, respectively. The $57.3 million increase in cash provided by financing activities was mainly due to an increase in new deposit growth of $56.1 million from the first three months of 2008 compared to the first three months of 2007.
The most significant growth in deposits from December 31, 2007 to March 31, 2007 occurred in savings accounts ($17.3 million) and NOW accounts ($12.1 million), with smaller growth in money market deposits ($9.5 million), time deposits under $100,000 ($9.3 million) and time deposits over $100,000 ($4.9 million). There was a slight decline in demand deposits ($1.8 million). Customers have been keeping deposits in shorter-term time deposits and non-maturity deposits in an apparent need for more liquidity. However, we have not seen this change from maturing to non-maturing deposits result in a net loss in deposits, but actually a slight increase.
In the event that additional short-term liquidity is needed, we have established relationships with several large regional banks to provide short-term borrowings in the form of federal funds purchases. We have borrowed, and management believes that we could again borrow, $142.0 million for a short time from these banks on a collective basis. Additionally, we are a member of the FHLB and have the ability to borrow from the FHLB up to a total of $229.9 million in additional funds. As a contingency plan for significant funding needs, the Asset/Liability Management committee may also consider the sale of investment securities, selling securities under agreement to repurchase, sale of certain loans and/or the temporary curtailment of lending activities.
At March 31, 2008 Trinity’s total risk-based capital ratio was 12.12%, the Tier 1 capital to risk-weighted assets ratio was 10.45%, and the Tier 1 capital to average assets ratio was 8.76%. At December 31, 2007, Trinity’s total risk-based capital ratio was 12.11%, the Tier 1 capital to risk-weighted assets ratio was 10.32%, and the Tier 1 capital to average assets ratio was 8.19%.
At March 31, 2008, the Bank’s total risk-based capital ratio was 11.67%, the Tier 1 capital to risk-weighted assets ratio was 10.46%, and the Tier 1 capital to average assets ratio was 8.78%. At December 31, 2007, the Bank’s total risk-based capital ratio was 11.60%, the Tier 1 capital to risk-weighted assets ratio was 10.40%, and the Tier 1 capital to average assets ratio was 8.25%. The Bank was categorized as “well-capitalized” under Federal Deposit Insurance Corporation regulations at March 31, 2008 and December 31, 2007.
At March 31, 2008 and December 31, 2007, Trinity’s book value per common share was $14.08 and $13.58.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Asset Liability Management
Our net interest income is subject to “interest rate risk” to the extent that it can vary based on changes in the general level of interest rates. It is our policy to maintain an acceptable level of interest rate risk over a range of possible changes in interest rates while remaining responsive to market demand for loan and deposit products. The strategy we employ to manage our interest rate risk is to measure our risk using an asset/liability simulation model and adjust the maturity of securities in its investment portfolio to manage that risk.
Interest rate risk can also be measured by analyzing the extent to which the repricing of assets and liabilities are mismatched to create an interest sensitivity “gap.” An asset or liability is considered to be interest rate sensitive within a specific time period if it will mature or reprice within that time period. The interest rate sensitivity gap is defined as the difference between the amount of interest earning assets maturing or repricing within a specific time period and the amount of interest bearing liabilities maturing or repricing within that same time period. A gap is considered positive when the amount of interest rate sensitive assets exceeds the amount of interest rate sensitive liabilities. A gap is considered negative when the amount of interest rate sensitive liabilities exceeds the amount of interest rate sensitive assets. During a period of rising interest rates, therefore, a negative gap would tend to adversely affect net interest income. Conversely, during a period of falling interest rates, a negative gap position would tend to result in an increase in net interest income.
The following tables set forth the amounts of interest earning assets and interest bearing liabilities outstanding at March 31, 2008, which we anticipate, based upon certain assumptions, to reprice or mature in each of the future time periods shown. Except as stated below, the amount of assets and liabilities shown which reprice or mature during a particular period were determined based on the earlier of the term to repricing or the term to repayment of the asset or liability. These tables are intended to provide an approximation of the projected repricing of assets and liabilities at March 31, 2008 on the basis of contractual maturities and scheduled rate adjustments within a three-month period and subsequent selected time intervals. The loan amounts in the table reflect principal balances expected to be reinvested and/or repriced as a result of contractual amortization and rate adjustments on adjustable-rate loans. The contractual maturities and amortization of loans and investment securities reflect modest prepayment assumptions. While NOW, money market and savings deposit accounts have adjustable rates, it is assumed that the interest rates on these accounts will not adjust immediately to changes in other interest rates. Therefore, the table is calculated assuming that these accounts will reprice based upon an historical analysis of decay rates of these particular accounts, with repricing assigned to these accounts from 14 to 99 months.
|
| Time to Maturity or Repricing |
| |||||||||||||||
As of March 31, 2008: |
| 0-90 Days |
| 91-365 Days |
| 1-5 Years |
| Over 5 Years |
| Total |
| |||||||
|
| (Dollars in thousands) |
| |||||||||||||||
Interest-earning Assets: |
|
|
|
|
|
|
|
|
|
|
| |||||||
Loans |
| $ | 655,350 |
| $ | 433,307 |
| $ | 73,073 |
| $ | 37,854 |
| $ | 1,199,584 |
| ||
Loans held for sale |
| 13,090 |
| — |
| — |
| — |
| 13,090 |
| |||||||
Investment securities |
| 32,980 |
| 4,913 |
| 91,044 |
| 11,179 |
| 140,116 |
| |||||||
Securities purchased under agreements to resell |
| 5,795 |
| — |
| — |
| — |
| 5,795 |
| |||||||
Interest-bearing deposits with banks |
| 8,101 |
| — |
| — |
| — |
| 8,101 |
| |||||||
Investment in unconsolidated trusts |
| 186 |
| — |
| — |
| 930 |
| 1,116 |
| |||||||
Total interest-earning assets |
| $ | 715,502 |
| $ | 438,220 |
| $ | 164,117 |
| $ | 49,963 |
| $ | 1,367,802 |
| ||
Interest-bearing Liabilities: |
|
|
|
|
|
|
|
|
|
|
| |||||||
NOW deposits |
| $ | 4,635 |
| $ | 13,904 |
| $ | 62,054 |
| $ | 39,848 |
| $ | 120,441 |
| ||
Money market deposits |
| 8,538 |
| 25,616 |
| 96,618 |
| 51,463 |
| 182,235 |
| |||||||
Savings deposits |
| 11,366 |
| 34,097 |
| 171,200 |
| 73,557 |
| 290,220 |
| |||||||
Time deposits over $100,000 |
| 77,381 |
| 192,743 |
| 62,000 |
| 351 |
| 332,475 |
| |||||||
Time deposits under $100,000 |
| 57,520 |
| 134,839 |
| 26,436 |
| 570 |
| 219,365 |
| |||||||
Short-term borrowings |
| — |
| 40,000 |
| — |
| — |
| 40,000 |
| |||||||
Long-term borrowings |
| 7 |
| 27 |
| 20,668 |
| 2,858 |
| 23,560 |
| |||||||
Capital lease obligations |
| — |
| — |
| — |
| 2,211 |
| 2,211 |
| |||||||
Junior subordinated debt owed to unconsolidated trusts |
| 6,186 |
| — |
| — |
| 30,930 |
| 37,116 |
| |||||||
Total interest-bearing liabilities |
| $ | 165,633 |
| $ | 441,226 |
| $ | 438,976 |
| $ | 201,788 |
| $ | 1,247,623 |
| ||
Rate sensitive assets (RSA) |
| $ | 715,502 |
| $ | 1,153,722 |
| $ | 1,317,839 |
| $ | 1,367,802 |
| $ | 1,367,802 |
| ||
Rate sensitive liabilities (RSL) |
| 165,633 |
| 606,859 |
| 1,045,835 |
| 1,247,623 |
| 1,247,623 |
| |||||||
Cumulative GAP (GAP=RSA-RSL) |
| 549,869 |
| 546,863 |
| 272,004 |
| 120,179 |
| 120,179 |
| |||||||
RSA/Total assets |
| 49.93 | % | 80.52 | % | 91.97 | % | 95.46 | % | 95.46 | % | |||||||
RSL/Total assets |
| 11.56 | % | 42.35 | % | 72.99 | % | 87.07 | % | 87.07 | % | |||||||
GAP/Total assets |
| 38.38 | % | 38.17 | % | 18.98 | % | 8.39 | % | 8.39 | % | |||||||
GAP/RSA |
| 76.85 | % | 47.40 | % | 20.64 | % | 8.79 | % | 8.79 | % | |||||||
Certain shortcomings are inherent in the method of analysis presented in the foregoing table. For example, although certain assets and liabilities may have similar maturities or periods to repricing, they may react in different degrees to changes in market interest rates. Also, the interest rates on certain types of assets and liabilities may fluctuate in advance of changes in market interest rates, while interest rates on other types of assets may lag behind changes in market rates. Additionally, in the event of a change in interest rates, prepayment and early withdrawal levels would likely deviate significantly from those assumed in calculating the table. Therefore, we do not rely solely on a gap analysis to manage our interest rate risk, but rather we use what we believe to be the more reliable simulation model relating to changes in net interest income.
Based on simulation modeling at March 31, 2008 and December 31, 2007, our net interest income would change over a one-year time period due to changes in interest rates as follows:
Change in Net Interest Income over One Year Horizon
Changes in Levels of |
| At March 31, 2008 |
| At December 31, 2007 |
| ||||||
Interest Rates |
| Dollar Change |
| Percentage Change |
| Dollar Change |
| Percentage Change |
| ||
|
| (Dollars in thousands) |
| ||||||||
+ 2.00 | % | $ | 727 |
| 1.60 | % | $ | 3,823 |
| 7.60 | % |
+ 1.00 |
| 68 |
| 0.15 |
| 1,997 |
| 3.97 |
| ||
(1.00 | ) | (1,959 | ) | (4.31 | ) | (2,148 | ) | (4.27 | ) | ||
(2.00 | ) | (4,295 | ) | (9.45 | ) | (3,174 | ) | (6.31 | ) | ||
Our simulations used assume the following:
1. | Changes in interest rates are immediate. |
2. | It is our policy that interest rate exposure due to a 2% interest rate rise or fall be limited to 15% of our annual net interest income, as forecasted by the simulation model. As demonstrated by the table above, our interest rate risk exposure was within this policy at March 31, 2008. |
Changes in net interest income between the periods above reflect changes in the composition of interest earning assets and interest bearing liabilities, related interest rates, repricing frequencies, and the fixed or variable characteristics of the interest earning assets and interest bearing liabilities. Projections of income given by the model are not actual predictions, but rather show our relative interest rate risk. Actual interest income may vary from model projections.
Item 4. Controls and Procedures.
Evaluation of Disclosure Controls and Procedures
We have established disclosure controls and procedures to ensure that material information relating to the Company, including its consolidated subsidiaries, is made known to the officers who certify our financial reports and to other members of senior management and the board of directors and to ensure that information that is required to be disclosed in reports we file with the SEC is properly and timely recorded, processed, summarized and reported. A review and evaluation was performed by our management, including the Company’s Chief Executive Officer (the “CEO”) and Chief Financial Officer (the “CFO”), of the effectiveness of the design and operation of our disclosure controls and procedures as of March 31, 2008 pursuant to Rule 13a-15(b) under the Securities Exchange Act of 1934. Based upon and as of the date of that review and evaluation, the CEO and CFO have concluded that our current disclosure controls and procedures were effective as of March 31, 2008.
Changes in Internal Control over Financial Reporting.
There have been no changes to the Company’s internal control over financial reporting during the last fiscal quarter that have affected, or are reasonably likely to affect, its internal control over financial reporting.
Trinity, the Bank, Title Guaranty, TCC Appraisal Services, TCC Advisors and TCC Funds were not involved in any pending legal proceedings other than routine legal proceedings occurring in the normal course of business except as otherwise stated herein, which, in the opinion of management, in the aggregate, were material to the Company’s consolidated financial condition.
In addition to the other information in this Quarterly Report on Form 10-Q, shareholders or prospective investors should carefully consider the risk factors disclosed in Item 1A to Part I of Trinity’s Form 10-K for the year ended December 31, 2007 filed with the Securities and Exchange Commission on March 17, 2008. There have been no material changes to the risk factors as previously disclosed, except as otherwise provided below.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
During the first quarter of 2008, Trinity had made no repurchases of equity securities.
Item 3. Defaults Upon Senior Securities
None
Item 4. Submission of Matters to a Vote of Security Holders
None
None
31.1 | Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a) |
31.2 | Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) |
32.1 | Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
32.2 | Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this registration statement to be signed on its behalf by the undersigned thereunto duly authorized.
| TRINITY CAPITAL CORPORATION | |
|
| |
|
| |
Date: May 12, 2008 | By: | /s/ WILLIAM C. ENLOE |
|
| William C. Enloe |
|
| President and Chief Executive Officer |
|
|
|
Date: May 12, 2008 | By: | /s/ DANIEL R. BARTHOLOMEW |
|
| Daniel R. Bartholomew |
|
| Chief Financial Officer |