A LETTER TO OUR SHAREHOLDERS:
=============================
Nineteen ninety eight was a significant year in the history of Peoples
Bancorp: net income topped $10 million, marking the 25th consecutive year
of increased earnings for your Company. Earnings were bolstered by strong
asset growth and enhanced results of operations in key performance areas.
Consistent earnings growth has provided Peoples Bancorp shareholders with a
10-year compound average annual return of 19.7% and a 5-year compound average
annual return of 19.0% (both measures assume quarterly dividend reinvestment).
Consistent earnings growth and our commitment to increased shareholder return
are basic tenets of our strategic plan. As you can see by the financial
highlights on page 10, it was a good year for your Company in terms of
growth and profitability, as earnings per share reached record highs.
Peoples Bancorp reported total net income of $10,045,000, an increase of
16.7% compared to 1997. Earnings per share totaled $1.70, up 10 cents over
the previous year. Dividends per share continued to grow, reaching $0.53 per
share in 1998, an increase of 8.2% compared to 1997.
Peoples Bancorp's earnings growth can be attributed to a combination of
increased revenues related to recent acquisitions and modest enhancements to
the Company's operating efficiency. In 1998, we were challenged to employ
funds acquired in the purchase of our Point Pleasant, New Martinsville, and
Steelton banking centers. I am pleased to report we successfully completed
transition of the acquired funding sources to an asset mix similar to that
held by Peoples Bancorp in previous periods by shifting assets into higher-
yielding assets (such as loans).
Peoples Bancorp is committed to providing quality financial products and
services through many delivery systems. In particular, our sales offices
are an integral part of that delivery process, with local leadership and a
strong community-minded perspective. In 1998, we successfully added four
West Virginia banking centers to Peoples Bancorp's growing number of
locations without compromising customer service. I commend our associates
for their hard work and dedication during this transition period.
In an effort to serve our growing customer base and boost our market presence,
we opened additional full-service banking centers in Athens, Ohio, and
Parkersburg, West Virginia. Also, we recently combined operating systems in
our four Kentucky banking offices to provide customers consistent full-
service banking throughout northeast Kentucky and surrounding areas. These
actions are part of Peoples Bancorp's ongoing efforts to enhance customer
service and optimize the efficiency of our operations.
We believe our future is exciting and full of opportunities to provide
financial solutions for our customers' product and service needs. Our focus
for 1999 includes changes in how we sell our products and the introduction
of a new marketing program that emphasizes the "connections" customers have
through Peoples Bancorp.
To be "connected" is to be joined or linked together. Our professional
relationships and electronic access connect our customers to Peoples
Bancorp's array of products and services. As we transfer our financial
information to the customer, a value-added relationship is created and
maintained. Your Company's sales and management teams are focused on
continuous enhancement of customer relationships for a purpose: to be the
leading financial services provider to the customers and markets we serve.
Peoples Bancorp's professional staff is dedicated to customer service and
to the communities in which we live, work, and invest. Our associates have
developed and will continue to sharpen their abilities to serve customers in
a manner that best fits the customer's needs, whether it's 24-hour banking
through our TeleBank office, or one-on-one relationships. We realize that
customers have different needs and our ability to recognize those subtle
variations differentiates Peoples Bancorp from our competitors.
Our basic goal is to develop and deliver quality products which meet customer
needs. Our vision is to make it easy to do business with Peoples Bancorp
through a dedicated team of associates committed to community-based
fundamentals and speedy service. We have learned that customers want
choices, especially when choosing their preferred method of product delivery.
In 1998, we began offering electronic banking through our pcPAL software
program. During 1999, we will be offering Internet banking access for our
customers after testing security and reliability.
I am pleased to report the addition of Frank L. Christy as a director of
Peoples Bancorp Inc. in February. Mr. Christy is a successful real estate
developer and business executive with knowledge of the markets served by
Peoples Bancorp. Frank and his family are long-term stockholders and he
brings experience from previous directorships in financial companies. He is
also a nominee for election to a three year term at the Annual Meeting.
By now you have probably heard about the "Year 2000" computer issue and
related gloomy predictions of computers not being able to work properly.
This complex issue, also known as "Y2K", arises in computer programs written
using two digits rather than four to define the applicable year, causing
date-sensitive software or embedded chips to recognize a date of "00" as the
year 1900 rather than the year 2000. Peoples Bancorp and many other
businesses across various industries are investing resources to make sure
their computer systems will work properly in the Year 2000.
Peoples Bancorp has made the Y2K project a top priority and we will
successfully meet the challenges of the Y2K issue. We have evaluated
potential impacts and have implemented a comprehensive plan to test and
ensure that all aspects of our business are prepared. As a shareholder,
you can be assured that we are working hard to make sure our financial
systems will be operating on a "business as usual" basis on January 1, 2000,
and beyond. Your Company has weathered storms, floods, financial
disruptions, and economic change for nearly 100 years. We are overcoming
the Y2K issue in the usual hardworking manner. Now that most of the work is
done, I am prepared to guarantee that our vaults will be open and our people
will be "doing business as usual" on the first business day of 2000.
Recently we announced a partnership with retail giant Wal-Mart, in which
Peoples Bank will open three sales centers in certain mid-Ohio valley
Wal-Mart stores. Our sales centers will complement existing full-service
offices and serve as a catalyst for increasing sales volume by putting
capable sales professionals in those offices where customers can easily take
advantage of the many products and services available at Peoples Bancorp.
I want to give special recognition to Norman J. Murray, who will retire from
our Board of Directors upon completion of his current term at the Annual
Meeting on April 15, 1999. Mr. Murray and his family have been leaders in
our community for many years. He first joined the Peoples Bancorp
organization in 1967 as a Director of Peoples Bank and is also one of the
original group of Peoples Bancorp directors when the Company was chartered
in 1980.
Over the years Norm has contributed generously and unceasingly to the success
of your Company as a Director, customer, and stockholder. Norm's integrity,
commitment, and competitive fire are core values at Peoples Bancorp, and
Norm's leadership over the past 32 years have helped instill these
characteristics into the way we do business. Norm's leadership and
contributions during his long tenure as a Director will continue to benefit
the Company. We will certainly miss his insight, integrity, and presence in
the Board room.
The 1999 Annual Meeting of Shareholders will be held at the Historic
Lafayette Hotel beginning at 9:30 AM in the Mississippi Delta Room. Our
recent growth has absorbed the meeting space in our banking offices. We
hope you are able to join us.
The financial reports and analyses found throughout this report reflect the
achievements of your Company in 1998. We are already working to make your
investment more valuable in 1999. If you have any questions concerning
Peoples Bancorp stock, please contact our Investor Relations Department at
(740) 374-6136, or learn more by visiting our web site at
www.peoplesbancorp.com.
/s/ ROBERT E. EVANS
---------------
Robert E. Evans
President and Chief Executive Officer
SELECTED FINANCIAL DATA
=======================
The information below under the captions "Operating Data", "Balance Sheet
Data" and "Per Share Data" for each of the five years in the period ended
December 31, 1998 has been derived from the Consolidated Financial Statements
of the Company.
(Dollars in Thousands, except Ratios and Per Share Data)
1998 1997 1996 1995 1994
Operating Data
For the year ended:
Total interest income $ 63,645 $ 53,836 $ 47,397 $ 43,068 $ 35,801
Total interest expense 30,497 25,216 21,966 20,777 15,424
Net interest income 33,148 28,620 25,431 22,291 20,377
Provision for loan losses 2,325 2,589 1,965 1,315 765
Other income 7,238 5,938 5,178 4,481 4,141
Other expenses 23,276 19,265 17,522 16,818 15,672
Net income 10,045 8,605 7,651 6,050 5,748
- -----------------------------------------------------------------------------
BALANCE SHEET DATA
At year end:
Total assets $880,284 $758,158 $616,635 $543,430 $498,006
Investment securities 235,569 174,291 147,783 131,762 99,419
Net loans 558,408 513,214 415,540 372,800 354,570
Total deposits 714,168 611,107 504,692 429,077 403,819
Long-term borrowings 40,664 28,577 29,200 23,142 23,787
Stockholders' equity 86,014 78,818 56,193 51,474 45,635
- -----------------------------------------------------------------------------
SIGNIFICANT RATIOS
Net income to:
Average total assets 1.20% 1.29% 1.29% 1.15% 1.20%
Average stockholders'
equity 12.2 14.3 14.4 12.3 12.9
Average stockholders'
equity to average
total assets 9.9 9.0 8.9 9.3 9.3
Average loans to average
deposits 80.9 85.5 84.0 85.2 85.5
Risk-based capital ratio 11.95 14.34 12.86 13.85 14.13
Dividend payout ratio 30.4 30.5 30.5 32.2 29.3
- -----------------------------------------------------------------------------
PER SHARE DATA
Net income:
Basic $ 1.75 $ 1.65 $ 1.48 $ 1.16 $ 1.09
Diluted 1.70 1.60 1.46 1.15 1.09
Weighted average
shares outstanding:
Basic 5,744,943 5,209,737 5,156,685 5,221,764 5,263,412
Diluted 5,919,015 5,373,873 5,226,689 5,250,827 5,280,974
Cash dividends paid 0.53 0.49 0.43 0.37 0.32
Book value at end of period 14.99 13.71 10.88 10.03 8.67
- ------------------------------------------------------------------------------
COMMON STOCK
============
Return to Investors
- -------------------
The Company's mission is to become the financial services leader in the
communities we serve. Execution of this basic objective will lead to
consistent earnings growth and increased shareholder return. Peoples
Bancorp's capital structure provides a base for continued growth and
expansion. Shareholder return on investment continues to be a top priority,
through both dividends and growth in the market value of the Company's stock.
Our associates are committed to enhancing the total return to our
shareholders.
Management focuses on several key ratios that define our dedication to
shareholder return. We concentrate on earnings per share, return on
shareholders' equity, and dividends per share. Enhancement of net income
and profitability through increased efficiencies is a major Company goal,
as well as positioning the Company for increased future profits. Under
normal circumstances, as earnings per share increase, the dividends paid per
share should follow with a similar increase and have a positive effect on
the market value of the Company's common stock.
In the last five years, the Company's earnings per share has grown by a
compound annual average rate of 9.3%. Diluted earnings per share reached
$1.70 in 1998. Through balance sheet growth and investments in technology,
the Company has gained efficiencies and enhanced overall performance.
Increases in non-interest income have also contributed to the profitability
of the Company.
In addition to increasing shareholder wealth through rowth in stock value,
we believe a competitive dividend rate is also important to the overall
return to our shareholders. In the last five years, the compound annual
average growth rate of the Company's per share dividend is 10.6%. The
Company has paid cash dividends on its common stock for over 42 consecutive
years and has increased the annual dividend in each of the last 33 years.
The Company plans to continue to pay quarterly cash dividends, subject to
certain regulatory restrictions described in Note 12 to the audited financial
statements.
In recent years, the financial services industry has emphasized return on
shareholders' equity (or "ROE") as a means of measuring an entity's
performance. In 1998, the Company's ROE was challenged due to a significant
issuance of equity for the Gateway Bancorp acquisition in December, 1997.
The graph to the right shows recent ROE performance for the Company.
Management will continue to focus on enhancements to ROE as a means of
increasing the value of shareholder investment and is researching methods to
enhance ROE in 1999.
Earnings Dividends Return on Average
per share per share Shareholders' Equity
--------- --------- --------------------
1994 $1.09 $0.32 12.94%
1995 1.15 0.37 12.33%
1996 1.46 0.43 14.43%
1997 1.60 0.49 14.33%
1998 1.70 9.53 12.21%
Since February 9, 1993, the Company's common stock has traded on the Nasdaq
National Stock Market (National Association of Securities Dealers Automated
Quotation) under the symbol PEBO. Nasdaq provides brokers and others with
immediate access to the best stock price for the Company and thousands of
other companies across the world. The Company's information can also be
accessed electronically through the Company's web site at
www.peoplesbancorp.com. In 1998, there were 1,378,883 shares traded through
the Nasdaq system, an average daily volume of 5,472 shares.
The table on page 11 sets forth the high and low bid quotations for the
indicated periods, and the cash dividends declared, with respect to the
Company's common stock. Currently, four companies serve as market makers
on the Nasdaq National Stock Market on behalf of the Company. Market prices
have been obtained directly from the Nasdaq quotation system. The bid
quotations and per share dividends have been retroactively adjusted for a
3-for-2 stock split effective April 30, 1998 , and a 10% stock dividend
issued on July 15, 1996. Peoples Bancorp had 1,281 stockholders of record
at December 31, 1998.
COMMON STOCK
============
Quarterly Market and Dividend Information
(Adjusted for stock splits and stock dividends)
PER SHARE
High Bid Low Bid Dividend
1998
Fourth Quarter $ 27.25 $ 21.50 $ 0.14
Third Quarter 30.88 24.50 0.13
Second Quarter 35.17 29.50 0.13
First Quarter 29.83 26.17 0.13
1997
Fourth Quarter $ 2.67 $ 26.33 $ 0.13
Third Quarter 27.00 23.50 0.13
Second Quarter 24.50 19.50 0.12
First Quarter 20.17 17.50 0.12
1996
Fourth Quarter $ 18.67 $ 15.83 $ 0.11
Third Quarter 16.00 14.01 0.11
Second Quarter 14.24 13.94 0.10
First Quarter 14.39 13.94 0.10
The following table presents the closing stock price of the Company's
common stock for each of the last five years (adjusted for stock splits and
stock dividends):
Closing Stock Price
-------------------
1994 $13.23
1995 14.32
1996 17.67
1997 27.83
1998 24.38
Stockholders are cordially invited to attend the Annual Meeting of
Stockholders of Peoples Bancorp Inc. to be held April 15, 1999, at 9:30 A.M.
in the Mississippi Delta Room at the Hotel Lafayette in Marietta, Ohio.
On written request, a copy of our Annual Report to the Securities and
Exchange Commission on Form 10-K is available to interested Stockholders.
Requests should be addressed to Ruth Otto, Corporate Secretary, Peoples
Bancorp Inc., P.O. Box 738, Marietta, Ohio 45750.
CONSOLIDATED BALANCE SHEETS
===========================
(Dollars in Thousands)
December 31,
Assets 1998 1997
Cash and cash equivalents:
Cash and due from banks $ 27,048 $ 21,473
Interest-bearing deposits in other banks 3,373 7,008
Federal funds sold 9,700 10,350
- -----------------------------------------------------------------------------
Total cash and cash equivalents 40,121 38,831
- -----------------------------------------------------------------------------
Available-for-sale investment securities, at
estimated fair value (amortizedcost of
$230,049 in 1998 and $170,702 in 1997) 235,569 174,291
- -----------------------------------------------------------------------------
Loans, net of deferred fees and costs 567,917 521,570
Allowance for loan losses (9,509) (8,356)
- -----------------------------------------------------------------------------
Net loans 558,408 513,214
- -----------------------------------------------------------------------------
Bank premises and equipment, net 14,826 11,971
Other assets 31,360 19,851
- -----------------------------------------------------------------------------
Total assets $880,284 $758,158
=============================================================================
Liabilities
- -----------
Deposits:
Non-interest bearing $ 80,884 $ 64,229
Interest bearing 633,284 546,878
- -----------------------------------------------------------------------------
Total deposits 714,168 611,107
- -----------------------------------------------------------------------------
Short-term borrowings:
Federal funds purchased and securities sold
under agreements to repurchase agreements 31,814 30,811
Federal Home Loan Bank advances 700 1,750
- -----------------------------------------------------------------------------
Total short-term borrowings 32,514 32,561
- -----------------------------------------------------------------------------
Long-term borrowings 40,664 28,577
Accrued expenses and other liabilities 6,924 7,095
- -----------------------------------------------------------------------------
Total liabilities 794,270 679,340
=============================================================================
Stockholders' Equity
Common stock, no par value, 12,000,000
shares authorized - 5,790,148 shares
issued in 1998 and 3,831,206 issued
in 1997 including shares in treasury 50,807 50,001
Accumulated comprehensive income, net
of deferred income taxes 3,588 2,369
Retained earnings 33,441 26,448
- -----------------------------------------------------------------------------
87,836 78,818
Treasury stock, at cost, 52,031 shares
in 1998 and no shares in 1997 (1,822)
- -----------------------------------------------------------------------------
Total stockholders' equity 86,014 78,818
- -----------------------------------------------------------------------------
Total liabilities and stockholders'
equity $880,284 $758,158
=============================================================================
See notes to consolidated financial statements.
CONSOLIDATED STATEMENTS OF INCOME
=================================
(Dollars in Thousands, except Per Share Data)
Year ended December 31,
1998 1997 1996
Interest Income:
- ----------------
Interest and fees on loans $ 48,857 $ 43,451 $ 37,140
Interest and dividends on:
Obligations of U.S. Government
and its agencies 9,500 7,255 7,205
Obligations of states and
political subdivisions 1,886 1,324 1,402
Other interest income 3,402 1,806 1,650
- -----------------------------------------------------------------------------
Total interest income 63,645 53,836 47,397
- -----------------------------------------------------------------------------
Interest Expense:
- -----------------
Interest on deposits 26,051 22,282 18,880
Interest on short-term borrowings 2,241 1,023 1,449
Interest on long-term borrowings 2,205 1,911 1,637
- -----------------------------------------------------------------------------
Total interest expense 30,497 25,216 21,966
- -----------------------------------------------------------------------------
Net interest income 33,148 28,620 25,431
Provision for loan losses 2,325 2,589 1,965
- -----------------------------------------------------------------------------
Net interest income after
provision for loan losses 30,823 26,031 23,466
- -----------------------------------------------------------------------------
Other Income:
- -------------
Income from fiduciary activities 2,325 2,176 1,897
Service charges on deposit accounts 2,553 2,202 1,937
Gain (loss) on securities
transactions 418 (28) 48
Other 1,942 1,588 1,296
- -----------------------------------------------------------------------------
Total other income 7,238 5,938 5,178
- -----------------------------------------------------------------------------
Other Expenses:
- ---------------
Salaries and employee benefits 9,315 8,358 7,514
Net occupancy 1,597 1,297 1,193
Equipment 1,728 1,501 1,329
Insurance 293 242 175
Supplies 779 516 713
Taxes other than income taxes 622 709 833
Amortization of intangibles 2,093 1,138 625
Other 6,849 5,504 5,140
- -----------------------------------------------------------------------------
Total other expenses 23,276 19,265 17,522
- -----------------------------------------------------------------------------
Income before income taxes 14,785 12,704 11,122
- -----------------------------------------------------------------------------
Income taxes:
Current 4,869 3,941 3,303
Deferred (129) 158 168
- -----------------------------------------------------------------------------
Total income taxes 4,740 4,099 3,471
- -----------------------------------------------------------------------------
Net income $ 10,045 $ 8,605 $ 7,651
=============================================================================
Earnings per share:
- -------------------
Basic $1.75 $1.65 $1.48
- -----------------------------------------------------------------------------
Diluted $1.70 $1.60 $1.46
- -----------------------------------------------------------------------------
Weighted average number of shares outstanding:
- ----------------------------------------------
Basic 5,744,943 5,209,737 5,156,685
- -----------------------------------------------------------------------------
Diluted 5,919,015 5,373,873 5,226,689
- -----------------------------------------------------------------------------
See notes to consolidated financial statements.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
===============================================
Accumulated
Other
Common Stock Retained Comprehensive Treasury
(Dollars in Thousands) Shares Amount Earnings Income (1) Stock Total
- -----------------------------------------------------------------------------------------------------------
Balance, December 31, 1995 3,332,598 $30,898 $ 21,786 $ 2,469 $ (3,679) $ 51,474
- -----------------------------------------------------------------------------------------------------------
Comprehensive income:
Net income 7,651 7,651
Other comprehensive income,
net of tax:
Unrealized losses on
available-for-sale
securities, net of
reclassification adjustment (1,041) (1,041)
--------
Comprehensive income 6,610
Purchase of treasury stock,
14,000 shares (332) (332)
10% stock dividend (reissued
226,989 treasury shares) 85,468 2,871 (6,727) 3,856
Exercise of common stock options
(reissued 5,417 treasury shares) 16,434 330 101 431
Issuance of common stock under
dividend reinvestment plan 10,575 250 250
Cash dividends declared of $0.43
per share (2,240) (2,240)
- -----------------------------------------------------------------------------------------------------------
Balance, December 31, 1996 3,445,075 34,349 20,470 1,428 (54) 56,193
- -----------------------------------------------------------------------------------------------------------
Comprehensive income:
Net income 8,605 8,605
Other comprehensive income,
net of tax:
Unrealized gains on
available-for-sale securities,
net of reclassification adjustment 941 941
--------
Comprehensive income 9,546
Purchase of treasury stock,
10,150 shares (327) (327)
Exercise of common stock options
(reissued 12,150 treasury shares) 9,173 (67) 381 314
Issuance of common stock under
dividend reinvestment plan 11,486 370 370
Cash dividends declared of $0.49
per share (2,627) (2,627)
Issuance of common stock to
purchase Gateway Bancorp, Inc. 365,472 15,349 15,349
- -----------------------------------------------------------------------------------------------------------
Balance, December 31, 1997 3,831,206 50,001 26,448 2,369 0 78,818
- -----------------------------------------------------------------------------------------------------------
Adjustment for the effect
of 3-for-2 common stock split 1,915,603
Comprehensive income:
Net income 10,045 10,045
Other comprehensive income,
net of tax:
Unrealized gains on
available-for-sale securities
net of reclassification
adjustment 1,219 1,219
--------
Comprehensive income 11,264
Purchase of treasury stock,
71,057 shares (2,059) (2,059)
Exercise of common stock options
(reissued 19,026 treasury
shares) 28,451 370 237 607
Issuance of common stock
under dividend reinvestment
plan 14,888 436 436
Cash dividends declared of
$0.53 per share (3,052) (3,052)
- -----------------------------------------------------------------------------------------------------------
Balance, December 31, 1998 5,790,148 $ 50,807 $ 33,441 $ 3,588 $ (1,822) $ 86,014
===========================================================================================================
(1) Disclosure of reclassification amount for the years ended: 1998 1997 1996
Net unrealized appreciation (depreciation) arising during
period, net of tax $ 1,491 $ 923 $ (1,009)
Less: reclassification adjustment for net gains (losses)
included in net income, net of tax 272 (18) 32
- -----------------------------------------------------------------------------------------------------------
Net unrealized appreciation (depreciation) on investment securities $ 1,219 $ 941 $ (1,041)
===========================================================================================================
See notes to consolidated financial statements.
CONSOLIDATED STATEMENTS OF CASH FLOWS
=====================================
(Dollars in Thousands) Year ended December 31,
1998 1997 1996
Cash flows from operating activities:
- -------------------------------------
Net income $ 10,045 $ 8,605 $ 7,651
Adjustments to reconcile net income
to net cash provided:
Provision for loan losses 2,325 2,589 1,965
(Gain) loss on securities transactions (418) 28 (48)
Depreciation, amortization, and accretion 5,095 2,648 2,068
Increase in interest receivable (630) (811) (31)
Increase (decrease) in interest payable 257 (129) 486
Deferred income tax (benefit) expense (129) 158 168
Deferral of loan origination fees and costs 56 (118) 73
Other, net (3,325) (757) (820)
- -----------------------------------------------------------------------------
Net cash provided by operating activities 13,276 12,213 11,512
- -----------------------------------------------------------------------------
Cash flows from investing activities:
- -------------------------------------
Purchases of available-for-sale
securities (138,141) (34,035) (45,240)
Proceeds from sales of
available-for-sale securities 20,349 5,309 5,522
Proceeds from maturities of
available-for-sale securities 58,964 26,244 22,034
Net increase in loans (26,955) (59,026) (44,504)
Purchase of loans (11,772)
Expenditures for premises and equipment (3,011) (1,184) (1,773)
Proceeds from sales of other real
estate owned 200 144
Acquisitions, net of cash received 100,170 19,844 68,004
Investment in limited partnership (2,036)
- -----------------------------------------------------------------------------
Net cash (used in) provided by
investing activities (2,232) (42,704) 4,043
- -----------------------------------------------------------------------------
Cash flows from financing activities:
- -------------------------------------
Net increase (decrease) in non-interest
bearing deposits 5,234 (1,749) 8,393
Net (decrease) increase in interest
bearing deposits (19,489) 32,335 (6,894)
Net (decrease) increase in short-term
borrowings (3,596) 13,039 (13,754)
Proceeds from long-term borrowings 37,973 6,000 10,500
Payments on long-term borrowings (25,886) (6,623) (4,442)
Cash dividends paid (2,538) (2,184) (1,934)
Purchase of treasury stock (2,059) (327) (332)
Proceeds from issuance of common
stock for stock options 607 314 431
- -----------------------------------------------------------------------------
Net cash (used in) provided by
financing activities (9,754) 40,805 (8,032)
- -----------------------------------------------------------------------------
Net increase in cash and cash
equivalents 1,290 10,314 7,523
Cash and cash equivalents at beginning
of year 38,831 28,517 20,994
- -----------------------------------------------------------------------------
Cash and cash equivalents at end of year $ 40,121 $ 38,831 $ 28,517
=============================================================================
Supplemental cash flow information:
- -----------------------------------
Interest paid $ 26,831 $ 21,732 $ 21,757
- -----------------------------------------------------------------------------
Income taxes paid $ 5,542 $ 3,197 $ 3,832
- -----------------------------------------------------------------------------
See notes to consolidated financial statements.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
==============================================
1. SUMMARY OF SIGNIGICANT ACCOUNTING POLICIES:
The accounting and reporting policies of Peoples Bancorp Inc. and
Subsidiaries (the "Company") conform to generally accepted accounting
principles and to general practices within the banking industry. The
Company considers all of its principal activities to be banking related.
The preparation of the financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the amounts reported in the financial statements
and accompanying notes. Actual results could differ from those estimates.
On April 13, 1998, the Company declared a 3-for-2 stock split effective
April 30, 1998.
The following is a summary of significant accounting policies followed in
the preparation of the financial statements:
Principles of Consolidation:
- ----------------------------
The consolidated financial statements include the accounts of Peoples Bancorp
Inc. and its wholly-owned subsidiaries. All significant intercompany
accounts and transactions have been eliminated.
Cash and Cash Equivalents:
- --------------------------
Cash and cash equivalents include cash and due from banks, interest bearing
deposits in other banks, and federal funds sold, all with original maturities
of ninety days or less.
Investment Securities:
- ----------------------
Management determines the appropriate classification of investment securities
at the time of purchase. Held-to-maturity securities are those securities
that the Company has the positive intent and ability to hold to maturity and
are recorded at amortized cost. Available-for-sale securities are those
securities that would be available to be sold in the future in response to
the Company's liquidity needs, changes in market interest rates, and
asset-liability management strategies, among others. Available-for-sale
securities are reported at fair value, with unrealized holding gains and
losses reported in a separate component of other comprehensive income, net
of applicable deferred income taxes. The cost of securities sold is based
on the specific identification method.
Allowance for Loan Losses:
- --------------------------
The allowance for loan losses is maintained at a level believed adequate by
management to absorb potential losses in the loan portfolio. Management's
determination of the adequacy of the allowance for loan losses is based on a
quarterly evaluation of the portfolio, historical loan loss experience,
current national and local economic conditions, volume, growth and
composition of the portfolio, and other relevant factors. This evaluation
is inherently subjective and requires management to make estimates of the
amounts and timing of future cash flows on impaired loans, consisting
primarily of non-accrual and restructured loans. The allowance for loan
losses related to impaired loans is based on discounted cash flows using the
loan's initial effective interest rate or the fair value of the collateral
for certain collateral dependent loans.
Bank Premises and Equipment:
- ----------------------------
Bank premises and equipment are stated at cost less accumulated depreciation.
Depreciation is computed on the straight-line method over the estimated
useful lives of the related assets.
Other Real Estate:
- ------------------
Other real estate owned, included in other assets on the consolidated balance
sheet, represents properties acquired by the Company's subsidiary banks in
satisfaction of a loan. Real estate is recorded at the lower of cost or
fair value based on appraised value at the date actually or constructively
received, less estimated costs to sell the property.
Intangibles:
- ------------
Intangible assets representing the present value of future net income to be
earned from deposits are being amortized on an accelerated basis over a ten
year period. The excess of cost over the fair value of net assets acquired
(goodwill) is being amortized on a straight-line basis over periods ranging
from 10 to 15 years.
Income Recognition:
- -------------------
Interest income is recognized by methods which result in level rates of
return on principal amounts outstanding. Amortization of premiums has been
deducted from and accretion of discounts has been added to the related
interest income. Nonrefundable loan fees and direct loan costs are deferred
and recognized over the life of the loan as an adjustment of the yield.
Subsidiary banks discontinue the accrual of interest when, in management's
opinion, collection of all or a portion of contractual interest has become
doubtful, which generally occurs when a loan is 90 days past due. When
deemed uncollectible, previously accrued interest recognized in income in
the current year is reversed and interest accrued in prior years is charged
against the allowance for loan losses. Interest received on non-accrual
loans is included in income only if principal recovery is reasonably assured.
A non-accrual loan is restored to accrual status when it is brought current,
has performed in accordance with contractual terms for a reasonable period of
time, and the collectibility of the total contractual principal and interest
is no longer in doubt.
Interest Rate Risk Management:
- ------------------------------
The premium paid to purchase interest rate floors is included in other assets
and amortized to interest expense over the original term of the agreements.
Income Taxes:
- -------------
Deferred income taxes (included in other assets) are provided for temporary
differences between the tax basis of an asset or liability and its reported
amount in the financial statements at the statutory tax rate. The components
of other comprehensive income included in the Consolidated Statements of
Stockholders' Equity have been computed based upon a 35% effective tax rate.
Stockholders' Equity:
- ---------------------
In 1998, the Company adopted the provisions of Statement of Financial
Accounting Standards No. 130, "Reporting Comprehensive Income." Statement
No. 130 establishes new rules for the reporting and display of comprehensive
income and its components. The Statement requires that certain financial
activity previously recorded directly in stockholders' equity be reported as
an adjustment to net income in determining comprehensive income. The
adoption of this standard had no impact on the Company's financial position,
results of operations, or cash flows.
Earnings per Share:
- -------------------
Basic earnings per share is determined by dividing net income by the weighted
average number of shares outstanding. Diluted earnings per share is
determined by dividing net income by the weighted average number of shares
outstanding increased by the number of shares that would be issued assuming
the exercise of stock options.
Operating Segments:
- -------------------
In June, 1997, the Financial Accounting Standards Board issued Statement
No. 131, "Disclosures about Segments of an Enterprise and Related
Information." The Statement requires disclosure about an enterprise's
operating segments in annual and interim financial reports issued to
shareholders. The Statement defines an operating segment as a component of
an enterprise that engages in business activities that generate revenue and
incur expense, and the operating results of which are reviewed by the chief
operating decision maker in the determination of resource allocation and
performance. The Company's business activities are currently confined to
one segment which is community banking.
2. FAIR VALUES OF FINANCIAL INSTRUMENTS:
The following methods and assumptions were used by the Company in estimating
its fair value disclosures for financial instruments in accordance with SFAS
No. 107:
Cash and cash equivalents:
- --------------------------
The carrying amounts reported in the balance sheet for these captions
approximate their fair values.
Investment securities:
- ----------------------
Fair values for investment securities are based on quoted market prices,
where available. If quoted market prices are not available, fair values are
estimated using quoted market prices of comparable securities.
Loans:
- ------
The fair value of performing variable rate loans that reprice frequently and
performing demand loans, with no significant change in credit risk, is based
on carrying value. The fair value of certain mortgage loans is based on
quoted market prices of similar loans sold in conjunction with securitization
transactions, adjusted for differences in loan characteristics. The fair
value of other performing loans (e.g., commercial real estate, commercial
and consumer loans) is estimated using discounted cash flow analyses and
interest rates currently being offered for loans with similar terms to
borrowers of similar credit quality.
The fair value for significant nonperforming loans is based on either the
estimated fair value of underlying collateral or estimated cash flows,
discounted at a rate commensurate with the risk. Assumptions regarding
credit risk, cash flows, and discount rates are determined using available
market information and specific borrower information.
Deposits:
- ---------
The carrying amounts of demand deposits, savings accounts and certain money
market deposits approximate their fair values. The fair value of fixed
maturity certificates of deposit is estimated using a discounted cash flow
calculation that applies current rates offered for deposits of similar
remaining maturities.
Short-term borrowings:
- ----------------------
The carrying amounts of federal funds purchased, Federal Home Loan Bank
advances, and securities sold under repurchase agreements approximate their
fair values.
Long-term borrowings:
- ---------------------
The fair value of long-term borrowings is estimated using discounted cash
flow analysis based on rates currently available to the Company for
borrowings with similar terms.
Interest Rate Floors:
- ---------------------
Fair values for interest rate floors are based on quoted market prices.
Financial instruments:
- ----------------------
The fair value of loan commitments and standby letters of credit is estimated
using the fees currently charged to enter into similar agreements taking
into account the remaining terms of the agreements and the counterparties'
credit standing. The estimated fair value of these commitments approximates
their carrying value.
The estimated fair values of the Company's financial instruments are as
follows:
(Dollars in Thousands)
1998 1997
Carrying Fair Carrying Fair
Amount Value Amount Value
Financial assets:
- -----------------
Cash and cash
equivalents $ 40,121 $ 40,121 $ 38,831 $ 38,831
Investment securities 235,569 235,569 174,291 174,291
Loans 567,917 574,820 521,570 523,893
Financial liabilities:
- ----------------------
Deposits 714,168 715,150 611,107 611,775
Short-term borrowings 32,514 32,514 32,561 32,561
Long-term borrowings 40,664 39,255 28,577 28,677
Off-balance sheet instruments:
- ------------------------------
Interest rate floors $ 22 $ 104 $ 46 $ 101
Bank premises and equipment, customer relationships, deposit base, banking
center networks, and other information required to compute the Company's
aggregate fair value are not included in the above information. Accordingly,
the above fair values are not intended to represent the aggregate fair value
of the Company.
3. INVESTMENT SECURITIES:
The estimated maturities presented in the tables below may differ from the
contractual maturities because borrowers may have the right to call or
prepay obligations without call or prepayment penalties. Rates are
calculated on a taxable equivalent basis using a 35% federal income tax
rate. The portfolio contains no single issue (excluding U.S. Government and
U.S. Agency securities) which exceeds 10% of stockholders' equity.
Securities classified as available-for-sale
At December 31, 1998:
- -------------------------------------------
(Dollars in Thousands)
Gross Gross Estimated
Amortized Unrealized Unrealized Fair Value
U.S. Treasury securities Cost Gains Losses
and obligations of U.S.
government agencies and
corporations $ 49,249 $ 1,034 $ (40) $ 50,243
Obligations of states and
political subdivisions 44,007 1,541 (15) 45,533
Mortgage-backed securities 104,067 811 (117) 104,761
Other securities 32,726 2,428 (122) 35,032
- ----------------------------------------------------------------------------
Total available-for-sale
securities $ 230,049 $ 5,814 $ (294) $ 235,569
============================================================================
Maturity distribution of available-for-sale securities
- ------------------------------------------------------
Contractual maturities at December 31, 1998
(Dollars in Thousands)
U.S. Treasury Obligations
securities and of states
obligations of and Mortgage Total
U.S. Government political backed Other available-for-sale
Agencies subdivisions securities securities securities
Within one year
- ---------------
Amortized cost $ 6,795 $ 2,473 $ 9,734 $ 2,259 $ 21,261
Fair value $ 6,876 $ 2,512 $ 9,872 $ 2,270 $ 21,530
Yield 7.16% 8.65% 6.64% 6.66% 7.04%
1 to 5 years
- ------------
Amortized cost 30,102 6,098 80,654 8,062 124,916
Fair value 30,660 6,296 81,111 8,084 126,151
Yield 6.11% 7.87% 6.49% 6.26% 6.45%
5 to 10 years
- -------------
Amortized cost 12,352 16,055 7,451 7,008 42,866
Fair value 12,707 16,762 7,484 7,179 44,132
Yield 6.47% 7.42% 6.40% 6.94% 6.89%
Over 10 years
- -------------
Amortized cost 19,381 6,228 15,397 41,006
Fair value 19,963 6,294 17,499 43,756
Yield 7.28% 6.46% 6.79% 6.97%
- ------------------------------------------------------------------------------------------
Total amortized
cost $49,249 $44,007 $104,067 $ 32,726 $ 230,049
Total fair value $50,243 $45,533 $104,761 $ 35,032 $ 235,569
Total yield 6.35% 7.49% 6.5 6.68% 6.68%
===========================================================================================
Securities classified as available-for-sale
At December 31, 1997
- -------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
U.S. Treasury securities
and obligations of U.S.
government agencies and
corporations $ 51,304 $ 751 $ (87) $ 51,968
Obligations of states and
political subdivisions 24,679 1,030 (1) 25,708
Mortgage-backed securities 76,229 467 (288) 76,408
Other securities 18,490 1,720 (3) 20,207
- ------------------------------------------------------------------------------
Total available-for-sale
securities $170,702 $ 3,968 $(379) $174,291
==============================================================================
Securities classified as available-for-sale
At December 31, 1996
- -------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
U.S. Treasury securities
and obligations of U.S.
government agencies and
corporations $ 41,855 $ 742 $(126) $ 42,471
Obligations of states and
political subdivisions 23,949 743 (36) 24,656
Mortgage-backed securities 61,197 280 (697) 60,780
Other securities 18,618 1,277 (19) 19,876
- ------------------------------------------------------------------------------
Total available-for-sale
securities $145,619 $ 3,042 $(878) $147,783
==============================================================================
In 1998, 1997 and 1996, gross gains of $523,000, $3,000 and $48,000 and
gross losses of $105,000, $31,000 and $0 were realized, respectively. At
December 31, 1998 and 1997, investment securities having a carrying value
of $105,277,000 and $89,843,000, respectively, were pledged to secure public
and trust department deposits and repurchase agreements in accordance with
federal and state requirements.
4. LOANS:
Loans are comprised of the following at December 31:
- ----------------------------------------------------
(Dollars in Thousands) 1998 1997
Commercial, financial, and agricultural $212,530 $159,035
Real estate, construction 10,307 19,513
Real estate, mortgage 233,550 228,689
Consumer 111,530 114,333
- ------------------------------------------------------------------------
Total loans $567,917 $521,570
========================================================================
Changes in the allowance for loan losses for each of the three years in the
period ended December 31, 1998, were as follows:
(Dollars in Thousands) 1998 1997 1996
Balance, beginning of year $ 8,356 $ 6,873 $ 6,726
Charge-offs (1,645) (1,917) (2,329)
Recoveries 473 521 511
Net charge-offs (1,172) (1,396) (1,818)
Provision for loan losses 2,325 2,589 1,965
Balances of acquired subsidiaries 290
- --------------------------------------------------------------------------
Balance, end of year $ 9,509 $ 8,356 $ 6,873
==========================================================================
The Company's lending is primarily focused in the local southeastern Ohio
market and consists principally of retail lending, which includes single-
family residential mortgages and other consumer lending. The Company's
largest groups of business loans consist of credits to lodging and lodging
related companies, as well as automobile dealer floor plans. Lodging and
lodging related loans totaled $20,365,000 and $12,585,000 at December 31,
1998 and 1997, respectively. The credits have been subjected to the
Company's normal commercial underwriting standards and do not present more
than the normal amount of risk assumed in other lending areas. Automobile
dealer floor plans totaled $15,532,000 and $18,769,000 at December 31, 1998
and 1997, respectively. It is the Company's policy to obtain the underlying
inventory as collateral on these loans.
The Company does not extend credit to any single borrower or group of related
borrowers in excess of the combined legal lending limits of its subsidiary
banks. Impaired loans at December 31, 1998 and 1997, and the average
investment in impaired loans for the years then ended were immaterial to the
financial statements.
In the normal course of its business, the Company's subsidiary banks have
granted loans to executive officers and directors of the Company and to their
associates. Related party loans were made on substantially the same terms,
including interest rates and collateral, as those prevailing at the time for
comparable loans with unrelated persons and did not involve more than normal
risk of collectibility. The following is an analysis of activity of related
party loans for the year ended December 31, 1998:
(Dollars in Thousands)
Balance, January 1, 1998 $ 16,578
New loans 17,982
Repayments 16,928
Other changes (243)
- -----------------------------------------
Balance, December 31, 1998 $ 17,389
=========================================
5. BANK PREMISES AND EQUIPMENT:
The major categories of bank premises and equipment and accumulated
depreciation are summarized as follows at December 31:
(Dollars in Thousands) 1998 1997
Land $ 2,556 $ 2,146
Building and premises 15,596 12,290
Furniture, fixtures and equipment 9,740 8,817
- --------------------------------------------------------------------
27,892 23,253
Accumulated depreciation (13,066) (11,282)
- --------------------------------------------------------------------
Net book value $ 14,826 $ 11,971
====================================================================
The Company depreciates its building and premises and furniture, fixtures
and equipment over estimated useful lives ranging from 5 to 20 years and 2
to 10 years, respectively. Depreciation expense was $1,745,000, $1,534,000,
and $1,358,000 for the years ended December 31, 1998, 1997 and 1996
respectively.
The Company leases certain banking facilities and equipment under various
agreements with original terms providing for fixed monthly payments over
periods ranging from two to ten years. The future minimum payments, by year
and in the aggregate, under noncancelable operating leases with initial or
remaining terms of one year or more consisted of the following at
December 31, 1998:
(Dollars in Thousands)
Year Ending December 31 Operating Leases
1999 $ 227
2000 200
2001 180
2002 154
2003 140
Thereafter 795
-----------------------------------------------
Total minimum lease payments $ 1,696
================================================
Rent expense was $242,000, $163,000 and $150,000 in 1998, 1997 and 1996,
respectively.
6. DEPOSITS:
Included in interest-bearing deposits are various time deposit products. The
maturities of time deposits for each of the next five years and thereafter
are as follows: $265,487,000 in 1999; $44,962,000 in 2000; $14,331,000 in
2001; $3,923,000 in 2002; $3,881,000 in 2003; and $1,237,000 thereafter.
Deposits from related parties approximated $16.5 million and $17.0 million
at December 31, 1998 and 1997, respectively.
7. SHORT-TERM BORROWINGS:
Short-term borrowings consisted of the following at December 31:
- ----------------------------------------------------------------
Federal Short-term Other
Funds Repurchase FHLB Short-term
(Dollars in Thousands) Purchased Agreements Advances Borrowings
1998
Ending balance $ 131 $ 31,683 $ 700
Average balance 996 31,429 12,534
Highest month end balance 1,725 33,457 59,200
Weighted average interest rate:
End of year 4.18% 4.52% 5.32%
During the year 5.45% 4.70% 5.68%
Interest expense - YTD 54 1,476 712
1997
Ending balance 82 30,729 1,750
Average balance 419 20,020 2,024
Highest month end balance 1,542 20,552 5,250
Weighted average interest rate:
End of year 5.69% 5.09% 5.89%
During the year 5.49% 4.40% 5.78%
Interest expense - YTD 23 881 117
1996
Ending balance 37 16,985 2,500
Average balance 331 13,134 12,294 $ 4,206
Highest month end balance 1,154 16,985 34,266 18,820
Weighted average interest rate:
End of year 6.46% 4.56% 6.10%
During the year 5.09% 3.82% 5.68% 5.52%
Interest expense - YTD $ 17 $ 502 $ 698 $ 232
8. LONG-TERM BORROWINGS:
Long-term borrowings consisted of the following at December 31:
(Dollars in Thousands) 1998 1997
Term note payable, at LIBOR
(parent company) $ 2,700 $ 3,000
Federal Home Loan Bank advances,
bearing interest at rates ranging
from 3.87% to 5.43% 37,964 25,577
- -----------------------------------------------------------------------------
Total long-term borrowings $ 40,664 $ 28,577
=============================================================================
The Federal Home Loan Bank ("FHLB") advances consist of various borrowings
with maturities ranging from 10 to 20 years. The advances are collateralized
by the Company's real estate mortgage portfolio and all of the FHLB common
stock owned by the banking subsidiaries, and other bank assets. The most
restrictive requirement of the debt agreement requires the Company to
provide real estate mortgage loans as collateral in an amount not less than
150% of advances outstanding.
The aggregate minimum annual retirements of long-term borrowings in the next
five years and thereafter are as follows:
(Dollars in Thousands)
1999 $ 28
2000 27
2001 28
2002 29
2003 31
Thereafter (includes parent company debt 40,521
-------------------------------------------------
Total long-term borrowings $ 40,664
==================================================
9. EMPLOYEE BENEFIT PLANS:
The Company sponsors a noncontributory defined benefit pension plan which
covers substantially all employees. The plan provides benefits based on an
employee's years of service and compensation. The Company's funding policy
is to contribute annually an amount that can be deducted for federal income
tax purposes. Plan assets consist primarily of U.S. Government obligations
and collective stock and bond funds.
The Company also has a contributory benefit postretirement plan for former
employees who were retired as of December 31, 1992. The plan provides health
and life insurance benefits. The Company's policy is to fund the cost of the
benefits as they are incurred.
The following tables provide a reconciliation of the changes in the plans'
benefit obligations and fair value of assets over the two-year period ending
December 31, 1998, and a statement of the funded status as of December 31,
1998 and 1997:
Pension Postretirement
Benefits Benefits
(Dollars in Thousands) 1998 1997 1998 1997
Change in benefit obligation:
Obligation at January 1 $ 6,790 $ 5,868 $ 809 $ 831
Service cost 342 259
Interest cost 483 462 56 65
Plan participants' contributions 0 0 75 69
Actuarial loss (gain) 337 640 (5) 239
Benefit payments (651) (439) (127) (395)
- ----------------------------------------------------------------------------
Obligation at December 31 7,301 6,790 808 809
- ----------------------------------------------------------------------------
Change in plan assets:
Fair value of plan assets at
January 1 6,249 5,034
Claims payable adjustment (3)
Actual return on plan assets 737 904
Employer contributions 475 750 52 326
Plan participants' contributions 75 69
Benefit payments (651) (439) (127) (395)
- ----------------------------------------------------------------------------
Fair value of plan assets at
December 31 6,807 6,249 0 0
- ----------------------------------------------------------------------------
Funded status:
Funded status at December 31 (494) (541) (808) (809)
Unrecognized transition obligation (32) (40)
Unrecognized prior-service cost (54) (63)
Unrecognized net gain (278) (395) 191 205
- ----------------------------------------------------------------------------
Accrued benefit cost $ (858) $(1,039) $(617) $(604)
============================================================================
The following table provides the components of net periodic benefit cost for
the plans:
Pension Postretirement
Benefits Benefits
(Dollars in Thousands) 1998 1997 1996 1998 1997 1996
Service cost $ 342 $ 259 $ 248
Interest cost 483 462 416 $ 56 $ 65 $ 62
Expected return on plan
assets (514) (422) (369)
Amortization of transition
asset (8) (8) (3)
Amortization of prior
service cost (9) (9) (9)
Settlement gain (34)
Amortization of net loss 9
- -----------------------------------------------------------------------------
Net periodic benefit cost $ 294 $ 282 $ 249 $ 65 $ 65 $ 62
=============================================================================
The assumptions used in the measurement of the Company's benefit obligation
are shown in the following table:
Pension Postretirement
Benefits Benefits
1998 1997 1998 1997
Assumptions at December 31:
Discount rate 7.00% 7.25% 7.00% 7.25%
Expected return on plan assets 9.00% 9.00% n/a n/a
Rate of compensation increase 4.00% 4.00% n/a n/a
For measurement purposes, a 6% annual rate of increase in the per capita
cost of covered benefits (i.e. health care cost trend rate) was assumed for
1998, grading down 1% per year to an ultimate rate of 5%. The health care
trend rate assumption does not have a significant effect on the contributory
defined benefit postretirement plan, therefore, a one percentage point change
in the trend rate is not material in the determination of the accumulated
postretirement benefit obligation or the ongoing expense.
10. FEDERAL INCOME TAXES:
The effective federal income tax rate in the consolidated statement of
income is less than the statutory corporate tax rate due to the following:
Year ended December 31
1998 1997 1996
Statutory corporate tax rate 35.0% 35.0% 34.0%
Differences in rate resulting from:
Interest on obligations of state
and political subdivisions (4.0) (3.1) (3.7)
Other, net 1.1 0.4 0.9
- --------------------------------------------------------------------------
Effective federal income tax rate 32.1% 32.3% 31.2%
==========================================================================
The significant components of the Company's deferred tax assets and
liabilities consisted of the following at December 31:
(Dollars in Thousands) 1998 1997
Deferred tax assets:
Allowance for loan losses $ 3,163 $ 2,447
Accrued employee benefits 724 1,046
Deferred loan fees and costs 323 441
Other 120 170
- ---------------------------------------------------------------------
Total deferred tax assets 4,330 4,104
- ---------------------------------------------------------------------
Deferred tax liabilities:
Available-for-sale securities 1,931 1,220
Bank premises and equipment 673 764
Deferred Income 244 515
Investments 933 725
Other 598 347
- ---------------------------------------------------------------------
Total deferred tax liabilities 4,379 3,571
- ---------------------------------------------------------------------
Net deferred tax (liability) asset $ (49) $ 533
=====================================================================
The related federal income tax expense (benefit) on securities transactions
approximated $146,000 in 1998, ($10,000) in 1997, and $16,000 in 1996.
11. FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISK:
In the normal course of business, the Company is party to financial
instruments with off-balance sheet risk necessary to meet the financing
needs of customers and to manage its own exposure to fluctuations in interest
rates. These financial instruments include commitments to extend credit,
standby letters of credit, and interest rate floors. The instruments
involve, to varying degrees, elements of credit and interest rate risk in
excess of the amount recognized in the balance sheets. The contract or
notional amounts of these instruments express the extent of involvement the
Company has in these financial instruments.
Loan Commitments and Standby Letters of Credit:
- -----------------------------------------------
Loan commitments are made to accommodate the financial needs of the Company's
customers. Standby letters of credit commit the Company to make payments
on behalf of customers when certain specified future events occur.
Historically, most loan commitments and standby letters of credit expire
unused. The Company's exposure to credit loss in the event of nonperformance
by the counter-party to the financial instrument for loan commitments and
standby letters of credit is represented by the contractual amount of those
instruments. The Company uses the same underwriting standards in making
commitments and conditional obligations as it does for on-balance sheet
instruments. The amount of collateral obtained is based on management's
credit evaluation of the customer. Collateral held varies, but may include
accounts receivable, inventory, property, plant, and equipment, and income-
producing commercial properties. The total amounts of loan commitments and
standby letters of credit are summarized as follows at December 31:
(Dollars in Thousands) Contract Amount
1998 1997
Loan commitments $ 69,568 $ 53,682
Standby letters of credit 1,430 1,973
Unused credit card limits 18,968 18,132
Interest Rate Floors:
- ---------------------
The Company has entered into interest rate floor contracts with an
unaffiliated financial institution as a means of managing the risk of
changing interest rates. Interest rate floors are agreements to receive
payments for interest rate differentials between an index rate and a
specified floor rate, computed on notional amounts of approximately $20
million. These interest rate floors subject the Company to the risk that the
counter-parties may fail to perform. In order to minimize such risk, the
Company deals only with high-quality, financially secure financial
institutions. The contracts expire as follows: $10 million in September,
1999, and $10 million in September, 2000.
12. REGULATORY MATTERS:
The primary source of funds for the dividends paid by the Company is
dividends received from its banking subsidiaries. The payment of dividends
by banking subsidiaries is subject to various banking regulations. The most
restrictive provision requires regulatory approval if dividends declared in
any calendar year exceed the total net profits of that year plus the retained
net profits of the preceding two years. At December 31, 1998, approximately
$12 million of retained net profits plus retained net profits through the
dividend date of the banking subsidiaries were available for the payment of
dividends to Peoples Bancorp Inc. without regulatory approval.
The Company and its banking subsidiaries are subject to various regulatory
capital requirements administered by the banking regulatory agencies. Under
capital adequacy guidelines and the regulatory framework for prompt
corrective action, the Company and each of its banking subsidiaries must
meet specific capital guidelines that involve quantitative measures of each
entity's assets, liabilities, and certain off-balance sheet items as
calculated under regulatory accounting practices. The Company's and each of
its banking subsidiaries' capital amounts and classification are also subject
to qualitative judgments by the regulators about components, risk weightings,
and other factors.
Quantitative measures established by regulation to ensure capital adequacy
require the Company and each of its banking subsidiaries to maintain minimum
amounts and ratios of total and Tier I capital (as defined in the regulations)
to risk-weighted assets (as defined), and of Tier I capital (as defined)
to average assets (as defined). The Company and each of its banking
subsidiaries met all capital adequacy requirements at December 31, 1998.
As of December 31, 1998, the most recent notifications from the banking
regulatory agencies categorized the Company and each of its banking
subsidiaries as well capitalized under the regulatory framework for prompt
corrective action. To be categorized as well capitalized, the Company and
each of its banking subsidiaries must maintain minimum total risk-based,
Tier I risk-based and Tier I leverage ratios as set forth in the table below.
There are no conditions or events since these notifications that management
believes have changed the Company's or any of its banking subsidiaries'
category.
The Company's and its significant banking subsidiary's, The Peoples Banking
and Trust Company ("Peoples Bank"), actual capital amounts and ratios are
also presented in the table below.
Well Capitalized
For Under Prompt
Capital Action Provision
(Dollars in Thousands) Actual Adequacy
Amount Ratio Amount Ratio Amount Ratio
As of December 31, 1998:
Total capital (to
risk-weighted assets)
The Company $ 68,359 12.0% $ 45,766 8% $ 57,207 10%
Peoples Bank 51,865 10.8% 38,380 8% 47,975 10%
- -----------------------------------------------------------------------------
Tier 1 (to
risk-weighted assets)
The Company 60,310 10.5% 22,883 4% 34,324 6%
Peoples Bank 45,846 9.6% 19,190 4% 28,785 6%
- -----------------------------------------------------------------------------
Tier 1 (to
average assets)
The Company 60,310 7.1% 34,083 4% 42,604 5%
Peoples Bank 45,846 6.8% 26,986 4% 33,732 5%
- -----------------------------------------------------------------------------
As of December 31, 1997:
Total capital (to
risk-weighted assets)
The Company $ 69,760 14.3% $ 38,904 8% $ 48,630 10%
Peoples Bank 44,703 11.1% 32,095 8% 40,119 10%
- -----------------------------------------------------------------------------
Tier 1 (to
risk-weighted assets)
The Company 63,653 13.1% 19,452 4% 29,178 6%
Peoples Bank 39,665 9.9% 16,048 4% 24,071 6%
- -----------------------------------------------------------------------------
Tier 1 (to average assets)
The Company 63,653 9.3% 27,401 4% 34,251 5%
Peoples Bank 39,665 7.1% 22,427 4% 28,034 5%
- -----------------------------------------------------------------------------
13. FEDERAL RESERVE REQUIREMENTS:
The subsidiary banks are required to maintain average reserve balances with
the Federal Reserve Bank. The Reserve requirement is calculated on a
percentage of total deposit liabilities and averaged $10,484,000 for the year
ended December 31, 1998.
14. ACQUISITIONS:
On June 26, 1998, the Company acquired the deposits (approximately $121
million) and total loans (approximately $8 million) of four full-service
offices in the communities of Point Pleasant (two offices), New Martinsville,
and Steelton, West Virginia, from an unaffiliated financial institution. This
acquisition was accounted for under the purchase method of accounting.
Accordingly, consolidated results include the operations of the acquired
full-service banking offices from the date of acquisition.
On December 12, 1997, the Company acquired Gateway Bancorp, Inc. and its
subsidiary, Catlettsburg Federal Savings Bank, for total consideration of
$21.6 million ($6.2 million in cash and $15.4 million in common stock). At
the date of acquisition, Gateway Bancorp operated two full service offices
in northeastern Kentucky, and had total assets of $61.2 million, deposits of
$43.9 million and shareholders' equity of $15.3 million. This acquisition
was accounted for under the purchase method of accounting.
In February 1997, the Company assumed approximately $12.5 million in deposit
liabilities from an unaffiliated institution. In the agreement, the Company
also acquired one full-service banking office in the community of Baltimore,
Ohio. This acquisition was accounted for under the purchase method of
accounting.
On January 1, 1997, the Company acquired Russell Federal Savings Bank
("Russell Federal") for a cash consideration of approximately $9.25 million.
At the date of acquisition, Russell Federal had one full service office
located in Russell, Kentucky, and had total assets of $28.0 million, deposits
of $19.5 million and shareholders' equity of $8.0 million at December 31,
1996. This acquisition was accounted for under the purchase method of
accounting.
On April 26, 1996, the Company acquired three full-service banking offices
in the cities of Pomeroy, Gallipolis, and Rutland, Ohio, and assumed
approximately $74 million in deposit liabilities from an unaffiliated
institution for a cash consideration of approximately $5.4 million.
Accordingly, consolidated results include the operations of the three
full-service banking offices subsequent to the acquisition date.
The prices of the purchase acquisitions were allocated to the identifiable
tangible and intangible assets acquired based upon their fair value at the
acquisition date. Deposit intangibles, included in other assets,
approximated $5,817,000 and $2,682,000, net of accumulated amortization of
$1,409,000 and $583,000, at December 31, 1998 and 1997. Goodwill, included
in other assets, approximated $16,299,000 and $10,114,000, net of accumulated
amortization of $3,160,000 and $1,874,000, at December 31, 1998 and 1997.
The following summarizes the unaudited pro forma results of operations for
the years ended December 31, 1997 and 1996, assuming the acquisitions
accounted for under the purchase method had been consummated at the beginning
of each year presented.
(Dollars in Thousands) 1997 1996
Total interest income $ 57,993 $ 53,125
Net income 8,888 7,600
Diluted earnings per share 1.49 1.45
15. STOCK OPTIONS:
The Company's stock option plans provide for the granting of both incentive
stock options and non-qualified stock options of up to 751,672 shares of
common stock. Under the provisions of the plans, the option price per
share shall not be less than the fair market value of the common stock on
the date of grant of such option, therefore no compensation expense is
recognized. All granted options vest in periods ranging from six months to
eight years and expire 10 years from the date of grant. The weighted average
remaining contractual life of options outstanding at December 31, 1998 was
7.0 years.
1998 1997
Number Option Number Option
of shares price of shares price
Non-qualified stock options
- ---------------------------
Outstanding at beginning
of year 121,374 $10.75-28.00 83,244 $10.75-14.10
Granted 11,400 28.75-32.75 57,718 17.92-28.00
Exercised 25,446 10.99-20.34 14,568 11.30-20.34
Canceled 5,020 10.99-20.34
- -----------------------------------------------------------------------------
Outstanding at end of year 107,328 10.75-32.75 121,374 10.75-28.00
=============================================================================
Exercisable at end of year 77,463 $10.75-32.75 73,948 $10.75-20.34
=============================================================================
Weighted average fair value
of options granted during
the year $ 5.97 $ 6.56
=============================================================================
Incentive stock options
Outstanding at beginning
of year 352,837 $ 9.65-29.17 272,938 $ 9.65-12.88
Granted 17,224 25.50-28.75 104,250 29.17
Exercised 22,482 9.65-12.88 24,351 9.65-12.88
Canceled 12,379 12.88-29.17
- ------------------------------------------------------------------------------
Outstanding at end of year 335,200 9.65-29.17 352,837 9.65-29.17
==============================================================================
Exercisable at end of year 164,697 $ 9.65-12.88 135,840 $ 9.65-12.88
==============================================================================
The Company has elected to follow Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees" ("APB 25"), and related
interpretations in accounting for its employee stock options. Under APB 25,
because the exercise price of the Company's stock options granted is equal to
the market price of the underlying stock on the date of grant, no compensation
expense is recognized. The Company utilized the Black-Scholes option pricing
model for purposes of providing pro forma disclosures as if the Company had
used the fair value method for computing compensation expense for its stock-
based compensation plans. The following weighted average assumptions were
used in the pricing model for 1998, 1997, and 1996 respectively: risk-free
interest rates of 5.25%, 6.40%, and 6.40%; dividend yields of 2.40%, 1.90%,
and 1.90%; volatility factors of the expected market price of the Company's
stock of 0.15, 0.12, and 0.12, and a weighted average expected life of the
option of 7 years.
Had compensation expense for the Company's stock based compensation plans
been determined using the fair value method, net income and earnings per
share would have been as summarized below:
(Dollars in Thousands, except Per Share Data)
1998 1997 1996
Net Income:
As Reported $ 10,045 $ 8,605 $ 7,651
Pro forma 9,811 8,458 7,637
Basic Earnings Per Share:
As Reported $ 1.75 $ 1.65 $ 1.48
Pro forma 1.71 1.62 1.48
Diluted Earnings Per Share:
As Reported $ 1.70 $ 1.60 $ 1.46
Pro forma 1.66 1.57 1.42
16. PARENT COMPANY ONLY FINANCIAL INFORMATION:
(Dollars in Thousands)
December 31,
Condensed Balance Sheets 1998 1997
Assets:
- -------
Cash $ 50 $ 20
Interest bearing deposits in subsidiary bank 116 530
Receivable from subsidiary bank 1,769 1,168
Investment securities: Available-for-sale
(amortized cost of $1,164 and $1,341 at
December 31, 1998 and 1997, respectively) 3,094 2,960
Investments in subsidiaries:
Banks 84,909 76,869
Non-banks 1,197 1,138
Other assets 919 1,274
- -------------------------------------------------------------------------
Total assets $92,054 $83,959
=========================================================================
Liabilities:
- ------------
Accrued expenses and other liabilities $ 2,533 $ 1,412
Dividends payable 807 729
Long-term borrowings 2,700 3,000
- -------------------------------------------------------------------------
Total liabilities 6,040 5,141
=========================================================================
Stockholders' equity 86,014 78,818
- -------------------------------------------------------------------------
Total liabilities and stockholders'
equity $92,054 $83,959
=========================================================================
(Dollars in Thousands) Year ended December 31,
Consolidated Statements of Income 1998 1997 1996
Income:
- -------
Dividends from subsidiary banks $13,157 $12,990 $ 4,010
Dividends from other subsidiaries 40 50 40
Interest 179 72 346
Management fees from subsidiaries 909 903 902
Other 548 77 64
- --------------------------------------------------------------------------
Total income 14,833 14,092 5,362
- --------------------------------------------------------------------------
Expenses:
- ---------
Salaries and benefits 1,175 1,220 1,156
Interest 186 217 118
Other 749 818 784
- --------------------------------------------------------------------------
Total expenses 2,110 2,255 2,058
- --------------------------------------------------------------------------
Income before federal income taxes
and (excess dividends from) equity
in undistributed earnings of
subsidiaries 12,723 11,837 3,304
Applicable income tax benefit (75) (250) (190)
(Excess dividends from) equity in
undistributed earnings of subsidiaries (2,753) (3,482) 4,157
- --------------------------------------------------------------------------
Net income $10,045 $ 8,605 $ 7,651
==========================================================================
(Dollars in Thousands) Year ended December 31,
Statements of Cash Flows 1998 1997 1996
Cash flows from operating activities:
- -------------------------------------
Net income $10,045 $ 8,605 $ 7,651
Adjustment to reconcile net income
to cash provided by operations:
Amortization and depreciation 223 230 208
Excess dividends from (equity
in undistributed earnings of)
subsidiaries 2,753 3,482 (4,157)
Gain on securities transactions (517)
Other, net 1,165 (48) (382)
- --------------------------------------------------------------------------
Net cash provided by operating
activities 13,669 12,269 3,320
==========================================================================
Cash flows from investing activities:
- -------------------------------------
Proceeds from sales (purchases) of
investment securities 693 (44) (199)
Expenditures for premises and equipment (36) (33) (89)
Investment in subsidiaries (9,819) (15,436)
Repayment of capital note receivable
from subsidiary 3,000
- --------------------------------------------------------------------------
Net cash used in investing activities (9,162) (12,513) (288)
- --------------------------------------------------------------------------
Cash flows from financing activities:
- -------------------------------------
Proceeds from long-term borrowings 3,000
Payments on long-term borrowings (300) (1,560)
Purchase of treasury stock (2,059) (327) (332)
Change in receivable from subsidiary (601) (268) 69
Proceeds from issuance of common stock 607 314 431
Cash dividends paid (2,538) (2,184) (1,934)
- --------------------------------------------------------------------------
Net cash (used in) provided by
financing activities (4,891) 535 (3,326)
- --------------------------------------------------------------------------
Net (decrease) increase in cash (384) 291 (294)
Cash and cash equivalents at the
beginning of the year 550 259 553
- --------------------------------------------------------------------------
Cash and cash equivalents at
the end of the year $ 166 $ 550 $ 259
==========================================================================
The parent company paid interest totaling $186,000, $217,000 and $118,000
during the years ended December 31, 1998, 1997, and 1996, respectively.
17. SUMMARIZED QUARTERLY INFORMATION (UNAUDITED):
A summary of selected quarterly financial information for 1998 and 1997
follows:
(Dollars in Thousands, except Per Share Data)
1998
First Second Third Fourth
Quarter Quarter Quarter Quarter
Interest income $15,364 $15,735 $16,307 $16,239
Interest expense 7,320 7,531 7,921 7,725
Net interest income 8,044 8,204 8,386 8,514
Provision for possible loan losses 96 546 546 537
Investment securities gains (losses) 4 427 (13)
Other income 1,618 1,590 1,647 1,965
Other expenses 5,414 5,444 6,400 6,018
Income taxes 1,180 1,431 978 1,151
Net income 2,376 2,800 2,096 2,773
Earnings per share:
Basic 0.41 0.49 0.37 0.48
Diluted $ 0.40 $ 0.47 $ 0.36 $ 0.47
Average shares outstanding:
Basic 5,746,684 5,754,541 5,741,362 5,737,102
Diluted 5,935,553 5,955,684 5,903,458 5,881,283
1997
First Second Third Fourth
Quarter Quarter Quarter Quarter
Interest income $12,762 $13,122 $13,639 $14,313
Interest expense 5,918 6,106 6,443 6,749
Net interest income 6,844 7,016 7,196 7,564
Provision for possible loan losses 588 641 676 684
Investment securities (losses) gains (29) (2) 3
Other income 1,418 1,462 1,528 1,558
Other expenses 4,705 4,721 4,851 4,988
Income taxes 938 989 1,039 1,133
Net income 2,002 2,125 2,158 2,320
Earnings per share:
Basic 0.39 0.41 0.42 0.44
Diluted $ 0.38 $ 0.40 $ 0.40 $ 0.42
Average shares outstanding:
Basic 5,168,804 5,174,951 5,180,915 5,313,012
Diluted 5,292,567 5,329,832 5,361,400 5,513,401
REPORT OF INDEPENDENT AUDITORS
==============================
To the Stockholders and Board of Directors:
- -------------------------------------------
We have audited the accompanying consolidated balance sheets of Peoples
Bancorp Inc. and Subsidiaries as of December 31, 1998 and 1997, and the
related consolidated statements of income, stockholders' equity, and cash
flows for each of the three years in the period ended December 31, 1998.
These financial statements are the responsibility of the Company's management.
Our responsibility is to express an opinion on these financial statements
based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements.
An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position
of Peoples Bancorp Inc. and Subsidiaries at December 31, 1998 and 1997 and
the consolidated results of their operations and their cash flows for each
of the three years in the period ended December 31, 1998 in conformity with
generally accepted accounting principles.
/S/ ERNST & YOUNG, LLP
Ernst & Young, LLP
Charleston, West Virginia
February 8, 1999
AVERAGE BALANCES AND ANALYSIS OF NET INTEREST INCOME
====================================================
(Dollars in Thousands)
1998 1997 1996
Average Average Average
Average Income/ Yield/ Average Income/ Yield/ Average Income/ Yield/
Balance Expense Rate Balance Expense Rate Balance Expense Rate
Securities (1):
- ---------------
Taxable $183,372 $11,671 6.36% $126,632 $ 8,636 6.82% $127,815 $ 8,655 6.77%
Nontaxable (2) 34,653 2,677 7.72% 22,271 1,819 8.17% 22,621 1,906 8.42%
Total 218,025 14,348 6.58% 148,903 10,455 7.02% 150,436 10,561 7.02%
Loans (3) (4):
Commercial 186,746 17,156 9.19% 145,971 13,939 9.55% 125,138 11,944 9.54%
Real estate 234,141 20,176 8.62% 209,330 17,863 8.53% 172,367 14,322 8.31%
Consumer 111,824 11,684 10.45% 112,928 11,739 10.40% 102,759 10,949 10.66%
Valuation reserve (9,134) (7,521) (6,799)
- --------------------------------------------------------------------------------------------------------------------------
Total 523,577 49,016 9.20% 460,708 43,541 9.30% 393,465 37,215 9.46%
- --------------------------------------------------------------------------------------------------------------------------
Short-term Investments:
- -----------------------
Interest-bearing deposits 3,967 222 5.60% 1,713 93 5.41% 622 29 4.64%
Federal funds sold 20,671 1,104 5.34% 7,915 437 5.52% 5,900 315 5.35%
- --------------------------------------------------------------------------------------------------------------------------
Total 24,638 1,326 5.38% 9,628 530 5.50% 6,522 344 5.28%
- --------------------------------------------------------------------------------------------------------------------------
Total earning assets 766,240 64,690 8.45% 619,239 54,526 8.81% 550,423 48,120 8.74%
Other assets 65,056 48,260 42,021
-------- -------- --------
Total assets $831,296 $667,499 $592,444
-------- -------- --------
Deposits:
- ---------
Savings $ 97,262 $ 2,764 2.84% $ 83,342 $ 2,552 3.06% $ 75,805 $ 2,302 3.04%
Interest-bearing demand 168,035 6,002 3.57% 126,462 4,372 3.46% 111,376 3,656 3.28%
Time 321,920 17,284 5.37% 277,559 15,358 5.53% 234,550 12,922 5.51%
- --------------------------------------------------------------------------------------------------------------------------
Total 587,217 26,050 4.44% 487,363 22,282 4.57% 421,731 18,880 4.48%
- --------------------------------------------------------------------------------------------------------------------------
Borrowed Funds:
- ---------------
Short-term 44,959 2,242 4.99% 22,463 1,023 4.55% 29,965 1,449 4.84%
Long-term 38,885 2,205 5.67% 30,495 1,911 6.27% 26,692 1,637 6.13%
- --------------------------------------------------------------------------------------------------------------------------
Total 83,844 4,447 5.30% 52,958 2,934 5.54% 56,657 3,086 5.45%
- --------------------------------------------------------------------------------------------------------------------------
Total interest-
bearing liabilities 671,061 30,497 4.54% 540,321 25,216 4.67% 478,388 21,966 4.59%
- --------------------------------------------------------------------------------------------------------------------------
Noninterest-bearing
demand deposits 70,064 59,860 54,923
Other liabilities 7,904 7,248 6,114
------- ------- -------
Total liabilities 749,029 607,429 539,425
Stockholders' equity 82,267 60,070 53,019
------- ------- -------
Total liabilities and
stockholders' equity $831,296 $667,499 $592,444
------- ------- -------
Interest rate spread $34,193 3.91% $29,310 4.14% $26,154 4.15%
------- ----- ------- ----- ------- -----
Interest income/earning assets 8.45% 8.81% 8.74%
Interest expense/earning assets 3.98% 4.07% 3.99%
----- ----- -----
Net yield on earning assets
(net interest margin) 4.47% 4.74% 4.75%
===== ===== =====
<FN>
(F1) Average balances of investment securities based on carrying value.
(F2) Computed on a fully tax equivalent basis using a tax rate of 35% in 1998
and 1997 and 34% in 1996. Interest income was increased by $1,045,000,
$690,000 and $723,000 for 1998, 1997, and 1996, respectively.
(F3) Nonaccrual and impaired loans are included in the average balances
listed. Related interest income on nonaccrual loans prior to
the loan being put on nonaccrual is included in loan interest income.
(F4) Loan fees included in interest income for 1998, 1997 and 1996 were
$551,000, $542,000 and $460,000, respectively.
</FN>
RATE VOLUME ANALYSIS/MATURITIES TABLES
======================================
(Dollars in Thousands)
Change in Income/Expense (1) Rate Effect Volume Effect
1998 1997 1996 1998 1997 1996 1998 1997 1996
Investment income: (2)
Taxable $ 3,035 $ (19) $ 1,988 $ (609) $ 61 $ (237) $ 3,644 $ (80) $ 2,225
Nontaxable 858 (87) (211) (103) (58) (112) 961 (29) (99)
- ----------------------------------------------------------------------------------------------------------
Total 3,893 (106) 1,777 (712) 3 (349) 4,605 (109) 2,126
- ----------------------------------------------------------------------------------------------------------
Loan Income:
Commercial 3,217 1,995 674 (547) 6 (397) 3,764 1,989 1,071
Real estate 2,313 3,541 659 177 396 (672) 2,136 3,145 1,331
Consumer (55) 790 1,644 67 (256) 1,028 (122) 1,046 616
- ----------------------------------------------------------------------------------------------------------
Total 5,475 6,326 2,977 (303) 146 (41) 5,778 6,180 3,018
- ----------------------------------------------------------------------------------------------------------
Short-term investments 796 186 (467) (12) 17 (75) 808 169 (392)
- ----------------------------------------------------------------------------------------------------------
Total interest income 10,164 6,406 4,287 (1,027) 166 (465) 11,191 6,240 4,752
==========================================================================================================
Interest expense:
Savings 212 250 (5) (193) 19 (226) 405 231 221
Interest-bearing demand
deposits 1,630 716 428 149 202 (208) 1,481 514 636
Time 1,926 2,436 73 (3,570) 2,831 (583) 5,496 (395) 656
Short-term borrowings 1,219 ( 426) 398 106 (80) (182) 1,113 (346) 580
Long-term borrowings 294 274 295 (195) 36 240 489 238 55
- ----------------------------------------------------------------------------------------------------------
Total interest expense 5,281 3,250 1,189 (3,703) 3,008 (959) 8,984 242 2,148
- ----------------------------------------------------------------------------------------------------------
$ 4,883 $ 3,156 $ 3,098$ 2,676 $(2,842) $ 494 $ 2,207 $ 5,998 $ 2,604
==========================================================================================================
<FN>
(F1) The change in interest due to both rate and volume has been allocated
to volume and rate changes in proportion to the relationship of the
dollar amounts of the change in each.
(F2) Presented on a fully tax equivalent basis.
</FN>
LOAN MATURITIES AT DECEMBER 31, 1998
====================================
Due in
One Year Due
Due in Through After
Loan Type One Year Five Five Total
Or Less Years Years
Commercial loans:
Fixed $ 19,588 $ 28,960 $ 11,996 $ 60,544
Variable 56,503 32,154 63,333 151,990
- -----------------------------------------------------------------------------
76,091 61,114 75,329 212,534
=============================================================================
Real estate loans:
- ------------------
Fixed 9,038 29,105 40,025 78,168
Variable 32,046 81,136 52,502 165,684
- -----------------------------------------------------------------------------
41,084 110,241 92,527 243,852
=============================================================================
Consumer loans:
- ---------------
Fixed 42,404 57,786 1,626 101,816
Variable 8,198 1,234 283 9,715
- -----------------------------------------------------------------------------
50,602 59,020 1,909 111,531
=============================================================================
Total $ 167,777 $ 230,375 $ 169,765 $ 567,917
=============================================================================
MATURITIES OF CERTIFICATES OF DEPOSIT $100,000 AND OVER AT DECEMBER 31:
=======================================================================
1998 1997 1996 1995
Under 3 months $ 19,121 $ 13,302 $ 16,437 $ 18,662
3 to 6 months 34,636 24,069 8,279 9,319
6 to 12 months 9,189 9,520 10,309 5,140
Over 12 months 9,262 10,698 8,356 8,266
- --------------------------------------------------------------------
Total $ 72,208 $ 57,589 $ 43,381 $ 41,387
====================================================================
LOAN PORTFOLIO ANALYSIS
=======================
(Dollars in Thousands)
1998 1997 1996 1995 1994
Year-end balances:
- ------------------
Commercial, financial
and agricultural $212,530 $159,035 $127,927 $117,306 $117,015
Real estate 233,550 228,689 175,505 154,469 150,289
Real estate,
construction 10,307 19,513 9,944 5,919 2,528
Consumer 104,718 107,158 102,044 95,464 86,098
Credit card 6,812 7,175 6,993 6,368 5,423
- -----------------------------------------------------------------------------
Total $567,917 $521,570 $422,413 $379,526 $361,353
=============================================================================
Average total loans 532,711 468,229 400,264 367,222 337,500
Average allowance
for loan losses (9,134) (7,521) (6,799) (6,719) (6,680)
- -----------------------------------------------------------------------------
Average loans, net of
allowance $523,577 $460,708 $393,465 $360,503 $330,820
=============================================================================
Allowance for loan
losses, January 1 $ 8,356 $ 6,873 $ 6,726 $ 6,783 $ 6,370
Allowance for loan
losses acquired 290
Loans charged off:
- ------------------
Commercial, financial
and agricultural 101 354 342 256 39
Real estate 46 42 93 82 189
Consumer 1,220 1,258 1,726 1,352 842
Credit card 278 263 168 113 54
- -----------------------------------------------------------------------------
Total 1,645 1,917 2,329 1,803 1,124
- -----------------------------------------------------------------------------
Recoveries:
- -----------
Commercial, financial
and agricultural 55 124 36 111 392
Real estate 13 6 75 60 61
Consumer 378 374 391 251 304
Credit card 27 17 9 9 15
- -----------------------------------------------------------------------------
Total 473 521 511 431 772
- -----------------------------------------------------------------------------
Net chargeoffs:
- ---------------
Commercial, financial
and agricultural 46 230 306 145 (353)
Real estate 33 36 18 22 128
Consumer 842 884 1,335 1,101 538
Credit card 251 246 159 104 39
- -----------------------------------------------------------------------------
Total 1,172 1,396 1,818 1,372 352
- -----------------------------------------------------------------------------
Provision for loan
losses, December 31 2,325 2,589 1,965 1,315 765
- -----------------------------------------------------------------------------
Allowance for loan
losses, December 31 $ 9,509 $ 8,356 $ 6,873 $ 6,726 $ 6,783
=============================================================================
Allocation of allowance for loan losses at December 31:
- -------------------------------------------------------
Commercial $ 3,757 $ 3,147 $ 2,741 $ 3,440 $ 3,281
Real estate 1,453 1,478 1,050 1,517 1,828
Consumer 2,556 2,255 2,078 1,519 1,096
Credit card 628 395 131 100 89
Unallocated 1,115 1,081 873 150 489
- -----------------------------------------------------------------------------
Total $ 9,509 $ 8,356 $ 6,873 $ 6,726 $ 6,783
=============================================================================
Percent of loans to total loans at December 31:
- -----------------------------------------------
Commercial 37.4% 30.5% 30.3% 30.9% 32.4%
Real estate 41.1 43.8 41.5 40.7 41.6
Real estate, construction 1.9 3.8 2.3 1.5 0.7
Consumer 18.4 20.5 24.2 25.2 23.8
Credit card 1.2 1.4 1.7 1.7 1.5
- -----------------------------------------------------------------------------
Total 100.0% 100.0% 100.0% 100.0% 100.0%
=============================================================================
Ratio of net chargeoffs to average total loans:
- -----------------------------------------------
Commercial 0.01% 0.05% 0.08% 0.04% (0.11)%
Real estate 0.01 0.01 0.00 0.01 0.04
Consumer 0.16 0.19 0.33 0.30 0.16
Credit card 0.04 0.05 0.04 0.02 0.01
- -----------------------------------------------------------------------------
Total 0.22% 0.30% 0.45% 0.37% 0.10%
=============================================================================
Nonperforming loans:
- --------------------
Nonaccrual loans $ 687 $ 1,220 $ 999 $ 482 $ 902
Loans 90+ days past due 495 462 621 1,236 1,082
Other real estate owned 396 19 28 45 97
- -----------------------------------------------------------------------------
Total $1,578 $ 1,701 $ 1,648 $ 1,763 $ 2,081
=============================================================================
Nonperforming loans as a
percent of total loans 0.28% 0.33% 0.39% 0.46% 0.58%
=============================================================================
Interest income on nonaccrual loans which would have been recorded under
the original terms of the loans for 1998, 1997 and 1996 was $33,000 (of
which $5,000 was actually recorded), $41,000 (of which $5,000 was actually
recorded) and $78,000 (of which $11,000 was actually recorded), respectively.
MANAGEMENT'S DISCUSSION AND ANALYSIS
====================================
INTRODUCTION
- ------------
The following discussion and analysis of the consolidated financial
statements is presented to provide insight into management's assessment of
the financial results of Peoples Bancorp Inc. (the "Company"). It also
recaps the significant events that led to the results. The Company's
business activities are currently confined to one operating segment which
is community banking. The Company's subsidiaries, The Peoples Banking and
Trust Company ("Peoples Bank"), The First National Bank of Southeastern Ohio
("First National"), Peoples Bank FSB, and The Northwest Territory Life
Insurance Company, provide financial services to individuals and businesses
within the Company's market area.
Peoples Bank is chartered by the State of Ohio and subject to regulation,
supervision, and examination by the Federal Deposit Insurance Corporation
("FDIC") and the Ohio Division of Banks. First National is a member of the
Federal Reserve System and subject to regulation, supervision, and
examination by the Office of the Comptroller of the Currency. Peoples Bank
FSB is a member of the Federal Home Loan Bank, and is subject to regulation,
supervision, and examination by the Office of Thrift Supervision, and is
also subject to limited regulation by the Board of Governors of the Federal
Reserve System.
This discussion and analysis should be read in conjunction with the audited
consolidated financial statements and footnotes and the ratios, statistics,
and discussions contained elsewhere in this Annual Report.
The following text will include references to several acquisition
transactions that have affected or will affect the Company's results of
operations. On December 12, 1997, the Company completed the purchase of
Gateway Bancorp, Inc. and its subsidiary, Catlettsburg Federal Savings Bank
("Catlettsburg Federal"), of Catlettsburg, Kentucky, for approximately $21.6
million in a combination of cash of $6.2 million and 548,208 shares of
Company stock ("Gateway Bancorp Acquisition"). Catlettsburg Federal had
total assets of $64.3 million and deposits of $43.8 million at December 12,
1997. Management operated Catlettsburg Federal as a federal savings bank
subsidiary of the Company until December 31, 1998, when it merged Catlettsburg
Federal and Russell Federal Savings Bank ("Russell Federal") into a single
thrift and renamed the company "Peoples Bank FSB".
On June 26, 1998, Peoples Bank completed the purchase of four full-service
banking offices located in the communities of Point Pleasant (two offices),
New Martinsville, and Steelton, West Virginia ("West Virginia Banking Center
Acquisition") from an unaffiliated institution. In the transaction, Peoples
Bank assumed approximately $121.0 million of deposits and purchased $8.3
million in loans.
OVERVIEW OF THE INCOME STATEMENT
- --------------------------------
The Company had increased net income of $1,440,000 or 16.7%, to $10,045,000
in 1998 from $8,605,000 in 1997. On a diluted basis, earnings per share
reached $1.70 in 1998, up $0.10 (or 6.3%) compared to the previous year.
The Company's core earnings increased due to stronger earnings in existing
business units and additional revenue streams associated with recent
acquisitions. Return on average equity in 1998 totaled 12.21% compared to
14.33% in 1997. Return on average assets was 1.20% in 1998 compared to 1.29%
the previous year.
Due primarily to earning asset growth, net interest income in 1998 increased
$4,528,000 (or 15.8%) to $33,148,000. The provision for loan losses in 1998
was comparable to the 1997 amount and reflective of the quality of the
portfolio and management of the inherent credit risks therein. Bolstered by
strong fourth quarter performance, non-interest income increased $854,000
(or 14.3%) to $6,820,000. In 1998, the Company reported net gains on
securities transactions of $418,000 compared to nominal losses in 1997.
Non-interest expense increased $4,011,000 (or 20.8%) to $23,276,000 due to
a combination of costs related to market expansion and acquisition, as well
as expenses related to refinancing of long-term debt. After considering
one-time charges, the Company's efficiency ratio improved to 50.38% for the
year ended December 31, 1998, compared to 51.06% in 1997.
The Company continues to grow through purchase acquisitions.
While acquisitions using stock are continually evaluated, management is
cognizant of not diluting shareholder ownership merely for the sake of
growth. Management believes a comparative approach to financial reporting
should include the discussion of "cash earnings", which removes the after-tax
impact of the amortization of intangibles on the Company's results of
operations and facilitates comparison of the Company with competitors making
acquisitions using pooling of interests accounting. The Company has
supplemented and will continue to supplement the discussion of its results
of operations with an analysis of cash earnings. Management uses cash
earnings as one of several ways to evaluate the impact of acquisitions on
profitability and the Company's return on its investment. Recent
acquisitions have increased and will modestly increase the Company's
amortization expense related to goodwill and other intangibles and as a
result, the purchase method of accounting has affected earnings per share and
other ratios.
In 1998, intangible amortization expense totaled $2,093,000 ($1,360,000
after taxes) compared to $1,138,000 ($740,000 after taxes) last year. After
adjusting for the after-tax effect of the amortization of intangibles,
diluted cash earnings per share for the year ended December 31, 1998 was
$1.95, up $0.21 (or 12.1%) from $1.74 in diluted cash earnings per share
in 1997. Return on tangible assets was 1.41% in 1998 compared to 1.42% in
1997. Return on tangible equity dropped to 17.82% in 1998 compared to
18.00% last year.
INTEREST INCOME AND EXPENSE
- ---------------------------
Net interest income is the amount by which interest income on earning assets
exceeds interest paid on interest-bearing liabilities. Interest earning
assets include loans and investment securities. Interest-bearing liabilities
include interest-bearing deposits and borrowed funds such as Federal Home
Loan Bank ("FHLB") borrowings. Net interest income remains the primary
source of revenue for the Company. Changes in market interest rates, as
well as adjustments in the mix of interest-earning assets and interest-
bearing liabilities, impact net interest income.
When compared to the previous year, increased operating earnings in 1998 can
be attributed primarily to growth of the Company's net interest income.
The West Virginia Banking Center Acquisition and the Gateway Bancorp
Acquisition provided increased funding sources for the Company to grow its
earning asset base, generating incremental interest income streams.
As a result, net interest income grew significantly in 1998, up $4,528,000
(or 15.8%) to $33,148,000 compared to 1997. Total interest income reached
$63,645,000 while interest expense totaled $30,497,000. Included in
interest income is $1,967,000 of tax-exempt income from investments issued
by and loans made to states and political subdivisions. Since these revenues
are not taxed, it is more meaningful to analyze net interest income on a
fully-tax equivalent ("FTE") basis.
Net interest margin is calculated by dividing FTE net interest income by
average interest-earning assets and serves as a measurement of the net
revenue stream generated by the Company's balance sheet. In 1998, net
interest margin was 4.47% compared to 1997's ratio of 4.74%. The FTE yield
on earning assets was 8.45% in 1998, compared to 8.81% in 1997. The cost of
earning assets decreased 9 basis points to 3.98% in 1998.
In late 1998, the Federal Reserve Board modestly decreased the discount rate
and, as a result, the national prime rate decreased 25 basis points. The
Company adjusted its loan and deposit rates downward to reflect the decrease
in the national prime rate. This rate adjustment, combined with the "flat"
yield curve (i.e. little or no difference in short-term and long-term
interest rates) in effect for interest rates in general, combined to produce
decreased net interest margins for the Company in 1998.
Several other factors also contributed to net interest margin compression.
The deposits acquired in the West Virginia Banking Center Acquisition
significantly increased the Company's earning asset base in comparatively
lower-yielding assets such as federal funds sold. In 1998, average balances
in federal funds sold were $20.7 million, up $12.8 million compared to 1997.
By the end of 1998, the Company had redeployed recently acquired funds to an
earning asset mix that had a more appropriate balance of profitability, risk,
and characteristics similar in nature to the Company's allocation before the
West Virginia Banking Center Acquisition.
Net interest margin also decreased due to competitive pressures for loans
and deposits in the Company's markets. In addition, the recent thrift
acquisitions modestly changed the Company's earning asset mix and lowered
margins, due to the fact the Company's thrifts have primarily invested in
real estate loans, which typically do not generate return on investment like
other loan products such as commercial and personal loans.
In late 1998, the Company initiated actions designed to enhance net interest
income, margin and other performance ratios. The Company prepaid $20.3
million of its long-term FHLB borrowings at a one time cost of $402,000
($261,000 after tax). The average rate on these advances was 6.13% with a
weighted average maturity of approximately 7 years. The Company replaced
these borrowings with $20 million of FHLB advances with a one year weighted
average cost of 4.28%. At the FHLB's option, the product may reprice to a
LIBOR-based ("London Interbank Offer Rate") rate. Management estimates that,
absent other changes, the one time cost of refinancing will be recovered in
approximately two years. Recent declines in interest rates decreased yields
on the Company's variable rate assets such as federal funds sold, as well as
the rates on deposit products offered by the Company. The prepayment of
certain long-term FHLB borrowings should partially offset the recent
decreases in discount rates being paid by the Federal Reserve.
Average loans grew $62.8 million (or 13.7%) in 1998 and comprise the largest
earning asset component on the Company's balance sheet. Due to recent
acquisitions and resulting increases in funding sources, the Company's
average balances of investment securities increased $69.1 million from
$148.9 million in 1997 to $218.0 million in 1998. Management is continuously
evaluating alternative investment and loan products to maximize return at an
appropriate level of risk.
Yield on earning assets totaled 8.45% in 1998, compared to 8.81% the prior
year. Loan yields decreased to 9.21% in 1998 compared to 9.30% in 1997.
Net interest margin was negatively impacted by decreases in the Company's
investment portfolio yield, which dropped 44 basis points to 6.58% in 1998,
reflecting the reinvestment of higher-yielding, maturing investments into
lower-yielding instruments.
Compared to 1997, cost of interest-bearing liabilities decreased 13 basis
points to 4.54% in 1998. Deposit costs decreased due to a combination of
lowering time deposit rates, the acquisition of lower interest cost funding
sources from the West Virginia Banking Center Acquisition, and the
implementation of regional pricing in selected markets served by the Company.
Interest costs on the Company's array of traditional interest-bearing
deposit products decreased 13 basis points to 4.44% in 1998 compared to the
previous year. The most significant component of interest expense in 1998
was interest paid on time deposits (i.e. Certificates of Deposits and
Individual Retirement Accounts). In 1998, the Company paid interest of
$17,285,000, or 5.37%, on average time deposit balances of $321.9 million.
In 1997, the average rate paid was 5.53% on average time deposit balances
of $277.6 million. Growth in this type of funding source was generated
primarily from acquisitions. This combination increased interest expense
costs by $715,000. Management expects deposit pricing to be increasingly
competitive in 1999 and will continue to focus its efforts to increase
balances in non-interest bearing demand deposits, which grew $10.2 million
to $70.1 million in average balances in 1998.
In 1998, the Company continued to use a combination of short-term and
long-term borrowings as a funding source. The Company's cash management
services (offered to a variety of business customers) have provided
short-term funding, specifically overnight repurchase agreements. In 1998,
the Company's average balances of overnight repurchase agreements increased
$11.4 million to $31.4 million, due primarily to growth in balances from
existing customers and increased market penetration. Due to product
redesign of the Company's overnight repurchase agreements, the average rate
paid in 1998 on overnight repurchase agreements totaled 4.70%, up 29 basis
points from the prior year's average rate of 4.40%.
In 1998, the Company used short-term FHLB advances as a funding source for
a pre-investment strategy related to the West Virginia Banking Center
Acquisition. As a direct result, average short-term FHLB balances increased
to $12.5 million in 1998, compared to $2.0 million in 1997, causing interest
costs to increase to $712,000 (up from $117,000 last year). In 1998, the
average interest rate on short-term FHLB advances was 5.68% compared to
5.78% in 1997. Management plans to maintain access to short-term FHLB
borrowings as an appropriate funding source.
Long-term borrowing costs decreased compared to last year due to flattening
of the yield curve. The rate paid on average long-term borrowings totaled
5.67% in 1998, down 60 basis points compared to 6.27% in 1997. The majority
of the Company's long-term borrowings are fixed rate FHLB borrowings.
The growth of the Company's earning asset base through recent acquisitions
will continue to impact net interest margin in 1999. Although net interest
margin compression has recently stabilized, management expects interest rate
pressures will continue to challenge the Company in 1999 as financial
institutions and other competitors continue to search for new methods and
products to satisfy increasing customer demand for higher yielding
interest-bearing deposits. Management will continue to monitor the effects
of net interest margin on the performance of the Company. Please refer to
the "Consolidated Average Balance Sheet and Analysis of Net Interest Income"
table included on page 34 for a complete quantitative evaluation of the
Company's net interest margin.
PROVISION FOR LOAN LOSSES
- -------------------------
In 1998, the Company recorded a provision for loan losses of $2,325,000,
compared to 1997's expense of $2,589,000. The provision is based upon
management's continuing evaluation of the adequacy of the allowance for
loan losses and is reflective of the quality of the portfolio and overall
management of the inherit credit risk. Management expects modest internal
loan growth in 1999 and believes that 1999's provision expense will remain
approximately level with the 1998 provision. The duration of current
provision levels will be dependent on loan delinquencies, portfolio risk,
overall loan growth, and general economic conditions in the Company's markets.
NON-INTEREST INCOME
- -------------------
The Company's non-interest income is generated from four primary sources:
cost-recovery fees related to deposit accounts, income derived from fiduciary
activities, electronic banking revenues, and insurance commissions.
Non-interest income (excluding securities transactions) from operations
reached record levels in 1998, totaling $6,820,000, an increase of 14.3%
compared to 1997. All non-interest income categories had strong growth
compared to last year. Management continues to focus on non-interest
income as a primary source of cost-recovery.
In 1998, account service charge income related to deposits increased
$351,000 (or 15.9%) to $2,553,000. Several factors contributed to this
growth, including the West Virginia Banking Center Acquisition and its
associated $121 million in deposits, which provided the base for increased
fee income in the last six months of 1998. Approximately $255,000 (or 72.6%)
of the Company's increase can be directly attributed to the deposits acquired
in the West Virginia Banking Center Acquisition. The Company's fee income
generated from deposits is based on the cost associated with relevant
services provided.
The fee structure for investment and fiduciary activities is based primarily
on the market value of assets being managed, which totaled approximately $535
million at year-end 1998, up approximately $30 million from the previous
year-end. Income from fiduciary activities totaled $2,325,000, an increase
of 6.8% compared to 1997. The Company continues to build on its leadership
position in its markets and investment and fiduciary services will be a
significant contributor to the Company's non-interest income streams.
Electronic banking, including ATM cards, direct deposit services, and debit
card services, is one of the many product lines offered by the Company.
The recovery of costs through fees associated with these products and
services is beginning to significantly impact the Company's non-interest
income. For the year ended December 31, 1998, total fees related to
electronic banking reached $596,000, up $120,000 (or 25.3%) compared to the
same period last year. These increases are primarily due to revenues related
to the Company's growing debit card program as well as non-customer activity
in the Company's network of ATM's, which has caused a corresponding increase
in ATM-related revenues.
In addition to traditional sources of non-interest income, the Company also
has the capability to provide customer service through a complete line of
insurance products. The Company's insurance subsidiaries, Northwest
Territory Life Insurance Agency, Inc. and Northwest Territory Property and
Casualty Insurance Agency, Inc. (the "Agencies"), which are part of First
National Bank, provide full life and property insurance product lines to
consumers in Ohio. In August 1998, these agencies were licensed by
Ohio-based Motorists Mutual Insurance Company, MICO Insurance Company, and
Motorists Life Insurance Company ("Motorists"). The Agencies offer a
complete line of life and property and casualty products through Motorists,
as well as investment products through Marketing One Securities, Inc.
Commissions on insurance and securities operations generated revenues of
$430,000 in 1998, up $91,000 (or 27.0%) compared to 1997, representing the
Company's largest percentage non-interest income increase.
Management will continue to explore new methods of enhancing non-interest
income in the future. Both traditional and nontraditional financial service
products are being analyzed for inclusion in the product mix currently being
offered by the Company.
GAINS (LOSSES) ON SECURITIES TRANSACTIONS
- -----------------------------------------
In 1998, the Company recognized net gains on securities activity of
$418,000 ($272,000 after taxes, or $0.05 per share), compared to a net loss
on securities transactions of $28,000 a year earlier. For the year ended
December 31, 1998, the Company had gains of $523,000, of which $516,000
related to an equity investment in a company that was acquired in a merger
transaction. The Company reported losses on sales of securities of $105,000
from repositioning of the investment portfolio. Management does not
expect similar gains or losses in 1999.
NON-INTEREST EXPENSE
- --------------------
Several categories within non-interest expense were directly impacted by
recent acquisitions and the related growth of non-interest expenses such as
salaries and benefits, depreciation expense, intangible amortization, etc.
Maintaining acceptable levels of non-interest expense and operating
efficiency are key performance indicators for the Company in its strategic
initiatives. For the year ended December 31, 1998, non-interest expense
totaled $23,276,000, up $4,011,000 (or 20.8%) compared to 1997.
When comparing 1998 non-interest expense to 1997, it is important to consider
the non-interest expense related to recent acquisitions. Acquisitions, and
the related salaries and employee benefits and increased depreciation
expense, comprise the majority of the increase in non-interest expense in
1998. Non-operational items also contributed to the increase in non-interest
expense. In particular, amortization of intangibles totaled $2,093,000
(up $955,000) compared to $1,138,000 in 1997. This increase is due to
completion in 1998 of the West Virginia Banking Center Acquisition as well
as amortization expense related to December 1997's Gateway Bancorp
Acquisition. The Company considers the impact of intangible amortization
when evaluating potential acquisitions.
The Company's recent acquisitions also impacted non-interest expense in
other areas, as the Company continues to expand its services and geographic
areas served. Compared to 1997, salaries and benefits expense increased
$957,000 (or 11.4%) to $9,315,000 in 1998. Recent acquisitions have
increased the number of Company employees, primarily customer service
associates in the acquired offices. At December 31, 1998, the Company had
362 full-time equivalent employees, compared to 314 full-time equivalent
employees at year-end 1997. While salaries and benefit expense has increased
on a gross comparison basis due to the many customer service associates
retained in the West Virginia Banking Center acquisition and other recent
acquisitions, management believes the human resources obtained in recent
acquisitions will enable the Company to further penetrate its new markets,
thereby optimizing customer service and return to shareholders.
Net occupancy expense, depreciation in particular, was impacted by recent
acquisitions. In 1998, furniture and equipment expenses totaled $1,728,000,
up $227,000 (or 15.1%) compared to 1997. Net occupancy expense totaled
$1,597,000 in 1998, an increase of $300,000 (or 23.1%) compared to the
previous year. These increases can be attributed primarily to the
depreciation of the assets purchased in recent acquisitions (in particular
the West Virginia Banking Center Acquisition), and completion of construction
projects to full-service offices in Athens and Caldwell, Ohio; Ashland,
Kentucky; and Parkersburg, West Virginia. Management believes the increased
investment in these offices enhances customer service capabilities in those
markets, and will provide additional opportunities for increased market
penetration. Increases are also due to growth in depreciation of additional
expenditures on technology. The Company's increased investment in
technology and other customer-service enhancements will also impact
depreciation expense in the future.
Included in non-interest expense for year ended December 31, 1998, were one
time expenses that management excludes from its assessment of operational
efficiency. In late 1998, the Company prepaid approximately $20.3 million
of FHLB borrowings to enhance net interest income, margin and other
performance ratios, at a cost of $402,000 ($261,000 after taxes). In
addition, the Company incurred $169,000 ($110,000 after taxes) of one time
expense related to the conversion of the West Virginia Banking Centers.
Expenses included purchase of new checks for the customers assumed in the
West Virginia Banking Center Acquisitions, education of new associates,
operational costs related to clearing items, telecommunications expense,
etc. Also included in the $169,000 of nonrecurring expense were one-time
costs related to market expansion in Parkersburg, West Virginia.
The Company and financial services industry use the efficiency ratio
(total non-interest expense less amortization of intangibles and nonrecurring
items as a percentage of the aggregate of fully-tax equivalent net interest
income and non-interest income) as a key indicator of performance. Gains
and losses on sales of investment securities and other nonrecurring and/or
one-time charges are not included in the calculation of the Company's
efficiency ratio. In 1998, the Company reported an efficiency ratio of
50.38%, an improvement of 68 basis points compared to 1997's 51.06%.
Management expects the efficiency ratio to continue to improve modestly in
1999 due to recent strategic initiatives to leverage non-interest expense
associated with market expansion.
RETURN ON ASSETS
- ----------------
For the year ended December 31, 1998, return on average assets ("ROA") was
1.20%, compared to 1.29% in 1997. Increased income streams from recent
acquisitions were offset by amortization of intangibles assumed in such
purchases, resulting in lower ROA levels compared to previous periods. The
Company's recent thrift acquisitions also affected ROA. In general, the
thrift industry has historically performed at lower ROA levels than
commercial banks.
The Company's ROA was challenged in 1998 due to the West Virginia Banking
Center Acquisition and the Gateway Bancorp Acquisition, and its corresponding
impact to the Company's balance sheet. Due primarily to recent acquisitions,
the Company's average assets grew approximately $164 million to over $830
million for the year ended December 31, 1998, while net income did not
proportionately increase.
In late 1998, the Company successfully employed recently acquired funds to
an asset mix similar to the Company's mix before the West Virginia Banking
Center Acquisition, in a manner consistent with acceptable return on
investment. Management anticipates ROA will stabilize in 1999 and could be
enhanced as the Company continues to shift the acquired funds into
higher-yielding assets such as loans.
RETURN ON EQUITY
- ----------------
The Company's return on average stockholders' equity ("ROE") was 12.21% in
1998 compared to 14.33% in 1997. ROE decreased in 1998 primarily due to
issuance of approximately $15.35 million of capital stock (548,208 shares)
for the purchase of Gateway Bancorp, Inc. in December, 1997. As a result,
the increase in total equity had a significant impact on ROE for the year
ended December 31, 1998. Management expects ROE in 1999 to improve as the
Company continues to leverage the additional capital issued in the Gateway
Bancorp Acquisition.
The Company and its banking subsidiaries are considered well-capitalized
under regulatory and industry standards of risk-based capital (as discussed
in Note 12 of the Notes to the Company's Consolidated Financial Statements)
and has experienced growth through retention of increased earnings over the
last several quarters.
INCOME TAX EXPENSE
- ------------------
Federal income taxes increased from $4,099,000 in 1997 to $4,740,000 in 1998.
The Company's effective tax rate for 1998 was 32.1%, compared to 32.3% in
1997. The modest decrease can be attributed to increases in tax-exempt
income compared to the prior year. Management continues to explore new
methods of reducing the Company's overall tax burden and has finalized an
investment that should help manage the Company's tax burden.
OVERVIEW OF THE BALANCE SHEET
- -----------------------------
Total assets reached $880.3 million at December 31, 1998, up $122.1 million
compared to year-end 1997. Asset growth can be attributed primarily to the
assets and liabilities acquired in the West Virginia Banking Center
Acquisition. Net cash received in the West Virginia Banking Center
Acquisition was redeployed primarily into investment securities, which
increased $61.3 million (or 35.2%) from year-end 1997 to $235.6 million
at December 31, 1998. Loan demand in the Company's established markets,
loans acquired through the West Virginia Banking Center Acquisition, and
loans purchased from external sources combined to increase loan balances
$45.2 million (or 8.8%) to $558.4 million at year-end 1998. Loan growth
occurred primarily in the commercial loan area.
Total liabilities increased $114.9 million (or 16.9%) to $794.3 million at
December 31, 1998. The majority of this growth occurred in the Company's
total deposits, which increased $103.1 million (or 16.9%) to $714.2 million
at December 31, 1998. Growth of the Company's funding sources occurred
primarily due to funds acquired in the West Virginia Banking Center
Acquisition. Increases in deposits for the Company occurred primarily in
interest-bearing deposits, while non-interest bearing deposit balances grew
$16.7 million (or 25.9%) to $80.9 million. Short-term borrowings totaled
$32.5 million at December 31, 1998, a modest decrease from the previous
year-end. Long-term borrowings, comprised primarily of FHLB borrowings
with maturities greater than one year, increased $12.1 million (or 42.3%)
to $40.7 million at December 31, 1998, due to strategic initiatives designed
to leverage Peoples Bank FSB's strong equity position.
Stockholders' equity increased $7.2 million (or 9.1%) to $86.0 million at
December 31, 1998. Equity growth occurred primarily through retention of
earnings, as well as increases in the Company's net unrealized gain on
available for sale securities. At December 31, 1998, the Company had a
treasury stock balance of 52,031 shares, or $1.8 million, due to purchases
in 1998 and the adoption of a deferred compensation plan that permits the
Company's directors to purchase the Company's stock through an established
trust. At December 31, 1997, the Company had no treasury shares.
Stockholders' equity as a percent of total assets was 9.77% at year-end 1998,
down from 10.40% at December 31, 1997, as the Company leveraged its capital
base through the West Virginia Banking Center Acquisition. Please see the
Consolidated Statements of Stockholders' Equity found on page 14 in this
Report for additional information regarding the changes in stockholders'
equity.
CASH AND CASH EQUIVALENTS
- -------------------------
The Company's cash and cash equivalents totaled $40.1 million at December 31,
1998, an increase of $1.3 million compared to year-end 1997. The Company's
balances of cash and cash equivalents, particularly federal funds sold, were
higher than normal during the last six months of 1998 due to excess funds
acquired in the West Virginia Banking Center Acquisition. By year-end 1998,
the Company had successfully employed those excess funds into higher-yielding
assets such as loans and investments.
Management believes the current balance of cash and cash equivalents
adequately serves the Company's liquidity and performance needs. Total cash
and cash equivalents fluctuate on a daily basis due to transactions in
process and other liquidity needs. Management believes the liquidity needs
of the Company are satisfied by the current balance of cash and cash
equivalents, readily available access to traditional and non-traditional
funding sources, and the portions of the investment and loan portfolios that
mature within one year. These sources of funds should enable the Company to
meet cash obligations and off-balance sheet commitments as they come due.
INVESTMENT SECURITIES
- ---------------------
Investment securities totaled $235.6 million at year-end 1998, up $61.3
million (or 35.2%) compared to December 31, 1997. Growth was funded in 1998
primarily by the deposits acquired in the West Virginia Banking Center
Acquisition.
All of the Company's investment securities are classified as
available-for-sale. Management believes the available-for-sale
classification provides flexibility for the Company in terms of selling
securities as well as interest rate risk management opportunities. At
December 31, 1998, the amortized cost of the Company's investment securities
totaled $230.0 million, resulting in unrealized appreciation in the
investment portfolio of $5.5 million and a corresponding increase in the
Company's equity of $3.6 million.
As a direct result of growth in funding sources in recent periods, several
categories of investments within the portfolio have experienced significant
growth. Investments in mortgage-backed securities increased $28.4 million
(or 37.1%) to $104.8 million at December 31, 1998. Due primarily to
investments in trust preferred securities with attractive yields, investments
in corporate and other securities totaled $35.0 million, up $14.8 million
(or 73.4%) since December 31, 1997. Investments in obligations of states
and political subdivisions totaled $45.5 million at year-end 1998, an
increase of $19.8 million (or 77.1%) since year-end 1997. The Company's
balances in US Treasury securities and obligations of US government agencies
and corporations remained relatively unchanged since year-end 1997.
Management expects current balances of investment securities to modestly
shrink in 1999 due to anticipated loan demand and the shifting of maturing
investments to higher-yielding assets.
Management monitors the earnings performance and liquidity of the investment
portfolio on a regular basis through Asset/Liability Committee (" ALCO")
meetings. The group also monitors net interest income, sets pricing
guidelines, and manages interest rate risk for the Company. Through active
balance sheet management and analysis of the investment securities portfolio,
the Company maintains sufficient liquidity to satisfy depositor requirements
and the various credit needs of its customers. Management believes the risk
characteristics inherent in the investment portfolio are acceptable based on
these parameters.
LOANS
- -----
The Company's lending is primarily focused in central and southeastern Ohio,
northern West Virginia, and northeastern Kentucky markets, and consists
principally of retail lending, which includes single-family residential
mortgages and other consumer lending.
Loans totaled $567.9 million at December 31, 1998, an increase of $46.3
million (or 8.9%) compared to year-end 1997. Growth occurred internally in
the Company's existing markets and also from other sources, such as $8.3
million of loans purchased in the West Virginia Banking Center Acquisition
and $11.8 million of commercial loans purchased from an unrelated financial
institution in the fourth quarter of 1998.
Real estate loans to the Company's retail customers continue to be the
largest portion of the loan portfolio, comprising 41.1% of the Company's
total loan portfolio. Real estate mortgage loans totaled $233.6 million at
December 31, 1998, up $4.9 million (or 2.1%) since year-end 1997. As the
Company blends its recent acquisitions into its core operations, certain
changes in loan mix will naturally occur. The Company experienced growth in
the home equity credit lines ("Equilines"). At December 31, 1998, Equiline
balances totaled $20.3 million, up $3.2 million (or 18.7%) since year-end
1997. The Company's Equiline growth was due primarily to special fixed
Equiline rate offers in its markets. Management believes the Equiline
product is a competitive product with an acceptable return on investment,
after risk considerations. Residential real estate lending continues to
represent a significant focus of the lending activities due to the lower
risk factors associated with these types of loans and the opportunity to
provide additional products and services to these consumers at attractive
combined returns.
Lending activity in the Company's northeastern Kentucky markets has
historically centered on real estate loans. Management expects to continue
to penetrate those local markets in 1999, seeking opportunities to sell
additional lending and deposit products. Mortgage lending will remain a
vital part of the Company's lending operation due to the programs offered to
customers, who continue to seek quality real estate loan products in a
competitive environment.
The largest loan growth category for the Company in 1998 was commercial,
financial, and agricultural loans ("commercial loans"), which increased
$53.5 million (or 33.6%) to $212.5 million. Economic conditions in the
Company's markets have provided quality credit opportunities, in particular,
southeastern Ohio and central Ohio. Management will continue to focus on
the enhancement and growth of the commercial loan portfolio while maintaining
appropriate underwriting standards. Management expects commercial loan
demand to continue to be strong in several of the Company's markets
throughout 1999.
In an effort to redeploy acquired funding sources and reallocate the
Company's mix of earning assets to an allocation similar to previous
reporting periods, the Company purchased $11.8 million of commercial loans
in the fourth quarter of 1998. The majority of these loans are
collateralized by real estate and are outside of the Company's geographic
markets.
Consumer lending also continues to be a vital part of the core lending of
the Company. In 1998, consumer loan balances decreased $2.8 million
(or 2.5%) to $111.5 million. The majority of the Company's consumer loans
are indirect loans to consumers who purchase vehicles and similar items at
sales locations in the Company's market areas. At December 31, 1998, the
Company had indirect loan balances of $65.3 million, a decrease of $5.0
million since year-end 1997, as pressures to grow this segment of the
business continue to increase in the highly competitive market for indirect
lending. Management is pleased with the recent performance of the Company's
indirect loan portfolio, which can be attributed to the Company's commitment
to quality customer service and a tiered pricing system that enables the
Company to apply interest rates based on the corresponding risk associated
with the indirect loan. Although consumer debt delinquency is increasing
in the financial services industry (due mostly to credit card debt),
management's recent actions to reinforce the Company's pricing system and
underwriting criteria have tempered delinquencies and caused a modest
decrease in new indirect loan generation. Management plans to continue its
focus on usage of this tiered system combined with controlled growth of the
indirect lending portfolio in 1999.
The Company's credit card balances at year-end 1998 were $6.8 million,
a decrease of $0.4 million compared to December 31, 1997. The credit card
industry is highly competitive, which has caused modest declines in the
Company's credit card balances. Management will continue to evaluate new
opportunities to serve our credit card customers, but will not assume
additional unnecessary risk for the sake of growth.
The offices acquired in the West Virginia Banking Center have generated
nearly $6 million in additional loan balances since the end of the second
quarter of 1998. Management is pleased with the loan growth momentum in
these new offices and expects loan activity to continue to be strong in
those markets in 1999.
LOAN CONCENTRATION
- ------------------
The Company does not have a concentration of its loan portfolio in any one
industry. Real estate lending (both mortgage and construction loans)
continues to be the largest component of the loan portfolio, representing
$243.9 million (or 42.9%) of total loans, compared to $248.2 million at
year-end 1997. At December 31, 1998, commercial, financial, and agricultural
loans totaled $212.5 million (or 37.4%) of outstanding loans, up from
$159.0 million (or 30.5% of loans) at year-end 1997.
The Company's lending is primarily focused in the local southeastern Ohio
market and contiguous mid-Ohio valley areas. The Company's loan mix
principally consists of retail lending, which includes single-family
residential mortgages and other consumer loan products.
The Company's largest concentration of commercial loans are credits to
lodging and lodging related companies, which comprise approximately 10%
of the Company's outstanding commercial loans at December 31, 1998 and 8%
at December 31, 1997. These lending opportunities have arisen because of
the recent growth in the lodging industry and the need for additional travel
related services in certain areas in or contiguous to the Company's markets,
as well as the Company's ability to respond to the needs of customers in
this segment of the economy. The credits have been subjected to the
Company's normal commercial loan underwriting standards and do not present
more than the normal amount of risk assumed in other types of lending. In
addition to loans to lodging and lodging related companies, one of the
Company's largest groups of commercial loans consists of automobile dealer
floor plans, which totaled 7% of the Company's outstanding commercial loans
at December 31, 1998 and 12% at December 31, 1997.
ALLOWANCE FOR LOAN LOSSES
- -------------------------
The loan portfolio analysis on pages 36 and 37 presents in detail an
analysis of the Company's loan portfolio, the allowance for loan losses,
loan chargeoffs and recoveries by type of loan, and an allocation of the
allowance for loan losses by major loan type.
Management continually monitors the loan portfolio through its Loan Review
Department and Loan Loss Committee to determine the adequacy of the
allowance for loan losses. This formal analysis determines the appropriate
level of the allowance for loan losses, allocation of the allowance among
loan types and the adequacy of the unallocated component of the allowance.
The portion of the allowance allocated among the various loan types
represents management's estimate of expected losses based upon specific
allocations for individual lending relationships and historical loss
experience for each category of loans. The individual loan reviews are
based upon specific qualitative and quantitative criteria, including the
size of the loan and loan grades below a predetermined level. The historical
experience factor is based upon historical loss experience, trends in losses
and delinquencies, the growth of loans in particular markets and industries,
and known changes in economic conditions in the particular lending markets.
Allowances for homogeneous loans (such as residential mortgage loans, credit
cards, personal loans, etc.) are collectively evaluated upon historical
loss experience, trends in losses and delinquencies, the growth of loans
in particular markets, and known changes in economic conditions in the
particular lending markets.
The unallocated portion of the allowance is based upon management's
assessment of qualitative risk factors that may not be evident in the
Company's historical experience, such as, but not limited to, changes in
specific markets in both competition for loans and local economies. This
assessment involves a high degree of management judgment as well as higher
amounts of uncertainty. Assessment of the adequacy of the allowance is a
dynamic process that requires management to continually refine the process
as markets, economic conditions, and the Company change. Differences
between actual loss experiences and estimated events are compared on a
quarterly basis, allowing management to regularly modify loss provisions as
deemed appropriate based on market conditions and other factors previously
described.
The results of this analysis at December 31, 1998 indicate allocations to
specific lending categories that are not significantly different from the
prior year. The increase in the amount allocated to the commercial category
results from recent increases in the Company's commercial loans outstanding.
The amount allocated to the remaining categories and the unallocated portion
reflect the growth in the portfolios and changes in economic conditions.
Management expects 1999's quarterly loan loss provision to be consistent
with recent quarters.
The Company's consumer loan chargeoffs decreased $0.2 million (or 1.5%)
to $1.6 million in 1998 due to decreased credit card chargeoffs and direct
personal loan chargeoffs. Management will continue to monitor the
performance of the consumer loan portfolio and focus efforts on improving
experience and reducing losses. Real estate and commercial loan net
chargeoffs were insignificant in 1998, demonstrating the quality of the
portfolios.
Nonperforming loans (those loans classified as nonaccrual, 90 days or more
past due, and other real estate owned) as a percentage of outstanding loans
were 0.28% at December 31, 1998, compared to 0.33% at December 31, 1997.
Nonaccrual loans and those loans 90 days past due totaled $687,000 and
$495,000, respectively, at year-end 1998, compared to $1,220,000 and
$462,000, respectively, at year-end 1997. Other real estate owned totaled
$396,000 at year-end 1998 compared to $19,000 at December 31, 1997.
Management believes the current level of nonperforming loans is below peer
group levels and is a reflection of the overall quality of the Company's
loan portfolio.
A loan is considered impaired when, based on current information and events,
it is probable that the Company will be unable to collect the scheduled
payments of principal or interest when due according to the contractual
terms of the loan agreement. The measurement of potential impaired loan
losses is generally based on the present value of expected future cash
flows discounted at the loan's historical effective interest rate, or the
fair value of the collateral if the loan is collateral dependent. If
foreclosure is probable, impairment loss is measured based on the fair
value of the collateral. At December 31, 1998, the Company had an
insignificant amount of loans that were considered impaired. Management
will continue to monitor the status of impaired loans, including performing
and non-performing loans. The allowance for loan losses is deemed to be
adequate to absorb losses inherent in the portfolio at December 31, 1998.
FUNDING SOURCES
- ---------------
The Company considers deposits, short-term borrowings, and long-term
borrowings when evaluating funding sources. Traditional deposits continue
to be the most significant source of funds for the Company and the expansion
of the deposit base through acquisition in 1998 sustained the asset growth
of the Company. In 1998, total deposits grew $103.1 million (or 16.9%) to
$714.2 million, with the majority of the growth occurring in interest-
bearing deposits. The West Virginia Banking Center Acquisition provided
the Company with additional funding sources of $121.0 million ($11.3 million
in non-interest bearing demand deposit balances) and experienced minimal
runoff of those deposit balances following the completion of the acquisition.
In 1998, the Company implemented regional pricing among its Peoples Bank
banking centers, which permitted management to maintain interest cost
structures in the markets entered via the West Virginia Banking Center
Acquisition. Management believes regional pricing has provided the
opportunity to maintain and improve results of operations.
In 1998, the Company's average time deposit balances increased $44.4
million (or 16.0%) to $321.9 million. The Company continues to offer
time deposit "specials" to customers in its established markets. In 1998,
a 7-month time deposit special was offered to retain maturing short-term
time deposits as well as provide a competitive product in the Company's
markets. In late 1998 and early 1999, the Company began offering a 15-month
time deposit special. Management expects CD's to continue to be a vital
funding source for the Company in the future.
On a percentage basis, the largest growth component for the Company in 1998
occurred in interest-bearing transaction accounts, which increased $41.6
million (or 32.9%) to $168.0 million. The Company continues to offer
special "relationship accounts" (both non-interest bearing and
interest-bearing) based on deposits in other products such as CD's or IRA's.
Management believes that the deposit base remains the most significant
funding source for the Company and will continue to concentrate on
non-interest bearing deposit growth and maintaining adequate net interest
margin to meet the Company's strategic goals.
In addition to traditional deposits, the Company accesses both short-term
and long-term borrowings to fund its operations and investments. The
Company's short-term borrowings consist of federal funds purchased,
corporate deposits held in overnight repurchase agreements, and various FHLB
borrowings. Short-term borrowings at December 31, 1998, totaled $32.5
million compared to $32.6 million at year-end 1997. The largest component
of short term borrowings at year-end 1998 was balances in corporate deposits
in repurchase agreements, which totaled $31.7 million compared to $30.7
million at year-end 1997.
At December 31, 1998, the Company had a balance of $0.7 million in
short-term FHLB borrowings, down $1.0 million compared to prior year-end.
In general, the Company accesses this funding source at various times to
meet liquidity needs as they arise, and will continue to access short-term
FHLB borrowings as necessary in the future.
In addition to traditional deposits and short-term borrowings, the Company
continues to maintain long-term borrowings from the FHLB. This allows the
Company to obtain reliable funds at fixed and indexed rates for longer
periods of time than other traditional deposit products, creating the
opportunity to match longer term fixed rate mortgages and other
extended-maturity asset commitments against a similar funding source.
Total long-term FHLB advances were $38.0 million at year-end 1998, a net
increase of $12.4 million (or 48.4%) since year-end 1997. The increase in
funds was used primarily to fund growth strategies designed to leverage the
strong capital position of Peoples Bank FSB. In the second half of 1998,
the Company prepaid $20.3 million of its long-term FHLB borrowings, of
which $18.8 million were subject to prepayment penalties. The Company
replaced $20 million of the prepaid FHLB advances with borrowings designed
to enhance future performance. Management plans to maintain access to
long-term FHLB borrowings as an appropriate funding source.
The Company also has a long-term borrowing with an unaffiliated financial
institution. The original borrowing was $3.0 million and was used to finance
an acquisition in early 1997. At December 31, 1998, the balance was $2.7
million. Principal payments began in 1998 and continue semi-annually over
the next three years.
CAPITAL/STOCKHOLDERS' EQUITY
- ----------------------------
During the year-ended December 31, 1998, the capital position of the Company
grew approximately $7.2 million (or 9.1%) to $86.0 million. In 1998, the
Company had net income of $10.0 million and paid dividends of $3.1 million, a
dividend payout ratio of 30.38% of earnings, compared to a ratio of 30.53%
in 1997. Management believes recent dividends represent an acceptable
payout ratio for the Company and anticipates similar payout ratios in future
periods through quarterly dividends.
Equity growth was affected in 1998 by the adjustment for the net unrealized
holding gain on available-for-sale securities which increased $1.2 million,
net of deferred income taxes, (or 51.5%) to a net gain of $3.6 million at
year-end 1998. Recent decreases in interest rates, combined with increased
purchases of investment securities in early 1998, have combined to cause the
gap to grow between the amortized cost and estimated fair value of the
Company's investment portfolio, resulting in a corresponding increase to the
Company's equity. Since all of the investment securities in the Company's
portfolio are classified as available-for-sale, both the investment and
equity sections of the Company's balance sheet are more sensitive to the
changing market values of investments.
The Company has also complied with the standards of capital adequacy
mandated by the banking industry. Bank regulators have established
"risk-based" capital requirements designed to measure capital adequacy.
Risk-based capital ratios reflect the relative risks of various assets
banks hold in their portfolios. A weight category of either 0% (lowest
risk assets), 20%, 50%, or 100% (highest risk assets) is assigned to each
asset on the balance sheet. Detailed information concerning the Company's
risk-based capital ratios can be found in Note 12 of the Notes to the
Consolidated Financial Statements. At December 31, 1998, the Company's and
each of its banking subsidiaries' risk-based capital ratios were above the
minimum standards for a well-capitalized institution. The Company's
risk-based capital ratio of 11.95% at December 31, 1998, is well above the
well-capitalized standard of 10%. The Company's Tier 1 capital ratio of
10.54% also exceeded the well-capitalized minimum of 6%. The Leverage ratio
at year-end 1998 was 7.08% and was also above the well-capitalized standard
of 5%.
In 1998, the Company's risk-based capital ratios dipped slightly due to
strategic leveraging of the Company's equity base, which increased
significantly in late 1997 related to the Gateway Bancorp Acquisition. The
Company's capital ratios provide quantitative data demonstrating the
strength and future opportunities for use of the Company's capital base.
Management continues to evaluate risk-based capital ratios and the capital
position of the Company and each of its banking subsidiaries as part of its
strategic decision process.
In June, 1998, the Company implemented a formal plan to purchase treasury
shares for use in its stock option plans. The announcement superseded a
previously announced stock repurchase plan and serves as the basis for
treasury purchases in anticipation of the Company's projected stock option
exercises.
The stock repurchase plan is based upon specific criteria related to market
prices and the number of shares expected to be issued under the Company's
stock option plans. In each of the second, third, and fourth quarters of
1998, the Company purchased 15,000 treasury shares at an average price of
$29.50 per share. Purchases totaled $1.3 million in 1998.
Management expects to purchase similar share amounts in future quarters for
use in its stock option plans. Future changes, if any, to the Company's
systematic share repurchase program may be necessary to respond to the
number of shares expected to be reissued for the Company's stock option
plans. The Company intends to fund future treasury share purchases with
internally generated sources in the short-term or external borrowings as
needed.
In early 1998, the Company initiated the Peoples Bancorp Inc. Deferred
Compensation Plan ("DCP") for the directors of the Company and its
subsidiaries, which is designed to recognize the value to the Company of
the past and present service of its directors and encourage their continued
service through implementation of a deferred compensation plan. The DCP
allows directors to defer the fees earned for their service as Company and
subsidiary directors into deferred accounts which are either invested in
the Company's common stock or a time deposit, at the specific director's
discretion at the time of entering the DCP. As a result and in accordance
with accounting regulations, the balances invested in Company stock in such
accounts are reported as treasury stock in the Company's financial
statements. At December 31, 1998, the Company owned $0.7 million of
Company stock related to the DCP, which reduces the equity balance of
the Company. Management does not expect the DCP to have a material impact
on future financial statements or results of operations for the Company.
As a result of treasury stock purchases net of reissuances, as well as DCP
activity, the Company had a treasury stock balance of $1.8 million at
year-end 1998. At December 31, 1997, the Company owned no treasury shares.
Primarily due to DCP activity, management expects the Company's treasury
stock balance to continue to modestly increase in the future.
LIQUIDITY AND INTEREST RATE SENSITIVITY
- ---------------------------------------
The objective of the Company's Asset/Liability Management function is to
maintain consistent growth in net interest income within the Company's
policy guidelines. This objective is accomplished through management of the
Company's balance sheet liquidity and interest rate risk exposure based on
changes in economic conditions, interest rate levels, and customer
preferences.
The goal of liquidity management is to provide adequate funds to meet
changes in loan demand, normal deposit balance fluctuations, or any
potential unexpected deposit withdrawals. This goal is accomplished
primarily by maintaining sufficient liquid assets in the form of investment
securities along with consistent core deposit growth, and the availability
of unused capacity to purchase funds in the national money markets. At
December 31, 1998, the Company had $45 million in securities and other
short-term investments maturing within one year compared to $57 million at
year-end 1997. Additional asset liquidity is provided by the remainder of
the securities portfolio and securitizable loan assets. Cash provided by
operating activities of $13.3 million during the year ended December 31,
1998 was offset by outflows from net investing activity of $2.2 million and
from financing activity of $9.8 million. The Company employs a practice of
maintaining core deposits as the primary means of funding interest-earning
assets. This emphasis results in the majority of interest earning assets
being funded by core deposit liabilities. As a matter of strategy rather
than policy, the Company prefers to maintain a position of excess funds to
sell in the open market.
As a supplement to deposit funding, the Company has access to a variety of
other short-term and long-term funding sources. The Company utilizes the
Federal Home Loan Bank as a funding source, taking advantage of the
attractive funding alternatives offered when appropriate. The Company
maintains relationships with other correspondent institutions that can
serve as a funding source as well.
The Company has a strategic plan to address the contingency for extraordinary
demands on liquidity due to the Year 2000 ("Y2K") phenomena. The essence of
the plan will be to ensure the adequacy and availability of a variety of
sources of liquidity. Securing the availability of the Federal Reserve Bank
Discount Borrowings for the subsidiaries of the Company will be a primary
part of the plan. Also, the Company plans, as much as is reasonably
possible, to accumulate cash and near cash assets to meet or exceed the
potential need of additional liquidity. Additionally, the Company intends
to review current correspondent relationships, as well as seek additional
such relationships to provide diverse sources of liquidity. A proactive
campaign to allay concerns customers may have for potential problems arising
from the century date change will complement the Y2K liquidity contingency
plan.
The Company manages interest rate risk to minimize the impact of fluctuating
interest rates on earnings. The Company uses simulation techniques which
attempt to measure the volatility of changes in the level of interest rates,
basic banking interest rate spreads, the shape of the yield curve, and the
impact of changing product growth patterns. The primary method of measuring
the sensitivity of earnings to changing market interest rates is to simulate
expected cash flows using varying assumed interest rates while also
adjusting the timing and magnitude of non-contractual deposit repricing to
more accurately reflect anticipated pricing behavior. These simulations
include adjustments for the lag in prime loan repricing and the spread and
volume elasticity of interest-bearing deposit accounts, regular savings, and
money market deposit accounts. The principal function of interest rate risk
management is to maintain an appropriate relationship between those assets
and liabilities that are sensitive to changing market interest rates. The
Company closely monitors the sensitivity of its assets and liabilities on an
on-going basis and projects the effect of various interest rate changes on
its net interest margin. Interest sensitive assets and liabilities are
defined as those assets or liabilities that mature or reprice within a
designated time-frame. The difference between rate sensitive assets and
rate sensitive liabilities for a specified period of time is known as "gap".
To aid in interest rate management, the Company uses FHLB advances as a low
risk means of matching maturities of earning assets with interest bearing
funds to achieve a desired interest rate spread over the life of the earning
assets. Additionally, the Company considers the use of certain off-balance
sheet instruments such as interest rate caps, floors, and swaps, to further
aid interest rate risk management. As shown in the table, the Company
currently has two such off-balance sheet instruments. These instruments,
known as interest rate floors, will provide income to the Company should a
selected market interest rate decline below a preset level specified in the
transaction agreement. The intent of this type of instrument is to provide
additional income stability to the Company should there be a dramatic decline
in interest rate. Off-balance sheet instruments are an important tool for
effective interest rate risk management. The Company continuously evaluates
the current off-balance sheet positions and the need for additional interest
rate management tools. As demonstrated in the past, the Company will use
these instruments whenever appropriate.
In addition to gap analysis, management also analyzes the impact of maturing
assets and liabilities relative to the interest rates on those products.
The following table provides information about the Company's derivative
financial instruments and other financial instruments that are sensitive to
changes in interest rates. For loans, investment securities, and liabilities
with contractual maturities, the table presents principal cash flows and
related weighted average interest rates by contractual maturities as well
as estimated prepayments of residential mortgages and mortgage-backed
securities. For core deposits (non-interest bearing demand deposits,
interest-bearing checking accounts, and savings accounts) that have no
contractual maturity, the following table presents principal cash flows,
and, as applicable, related weighted average interest rates based on the
Company's historical experience and statistical analysis. For interest rate
floors, the table presents notional amounts (as described in previous
sections) and weighted average interest rates by contractual maturity date.
A fundamental difference between the following table and traditional
"static gap" analysis is that the following table presents the financial
instruments based on the date of expected cash flows while a static gap
analysis only focuses on the repricing characteristics of the financial
instruments.
PRINCIPAL/NOTIONAL AMOUNT MATURITIES AT DECEMBER 31, 1998:
==========================================================
Fair
(Dollars in Thousands) There- Value
1999 2000 2001 2002 2003 after Total 12/31/98
Rate sensitive assets:
- ----------------------
Fixed interest rate loans $ 71,030 $ 49,379 $ 32,824 $ 20,529 $ 13,119 $ 53,647 $240,528 $247,431
Average interest rate 9.66% 9.64% 9.45% 9.99% 9.92% 9.26% 9.58%
Variable interest rate loans $ 96,747 $ 35,737 $ 30,532 $ 25,379 $ 22,876 $116,118 $327,389 $327,389
Average interest rate 9.03% 8.07% 8.10% 8.13% 8.15% 8.11% 8.38%
Total loans $567,917
Fixed interest rate securities $ 28,446 $ 12,893 $ 14,211 $ 16,248 $ 13,847 $121,538 $207,183 $207,183
Average interest rate 6.04% 6.07% 5.90% 6.05% 6.01% 5.95% 5.98%
Variable interest rate securities $ 2,937 $ 5,478 $ 3,890 $ 370 $ 1,198 $ 14,513 $ 28,386 $ 28,386
Average interest rate 6.34% 6.06% 6.68% 7.04% 6.73% 7.08% 6.74%
Total securities $235,569
Other interest-bearing assets $ 14,050 $ 14,050 $ 14,050
Average interest rate 3.83% 3.83%
- -----------------------------------------------------------------------------------------------------------------------
Rate sensitive liabilities:
- ---------------------------
Non-interest bearing checking $ 22,648 $ 12,941 $ 9,706 $ 3,235 $ 8,655 $ 23,699 $ 80,884 $ 80,884
Average interest rate
Savings $ 15,847 $ 7,924 $ 7,924 $ 11,885 $ 5,943 $ 49,521 $ 99,044 $ 99,044
Average interest rate 2.42% 2.42% 2.42% 2.42% 2.42% 2.42% 2.42%
Interest bearing checking $ 24,049 $ 51,960 $ 24,050 $ 8,017 $ 19,641 $ 72,702 $200,419 $200,419
Average interest rate 3.45% 4.22% 3.45% 3.45% 3.45% 3.45% 3.65%
Time deposits $265,487 $ 44,962 $ 14,331 $ 3,923 $ 3,881 $ 1,237 $333,821 $334,803
Average interest rate 5.26% 5.29% 5.51% 5.49% 5.23% 4.51% 5.27%
Total deposits
$714,168
Fixed interest rate borrowings $ 159 $ 27 $ 28 $ 29 $ 31 $ 37,821 $ 38,095 $ 36,686
Average interest rate 4.70% 4.06% 4.06% 4.06% 4.06% 4.86% 4.86%
Variable interest rate borrowings $ 35,083 $ 35,083 $ 35,083
Average interest rate 4.77% 4.77%
Total borrowings $ 73,178
- -----------------------------------------------------------------------------------------------------------------------
Rate sensitivity liabilities:
- -----------------------------
Interest rate floors purchased $ 10,000 $ 10,000 $ 20,000 $ 104
Average strike rate 5.50% 5.25%
Forward rate 5.06% 5.06%
========================================================================================================================
PRINCIPAL/NOTIONAL AMOUNT MATURITIES AT DECEMBER 31, 1997:
==========================================================
Fair
There- Value
(Dollars in Thousands) 1998 1999 2000 2001 2002 after Total 12/31/97
Rate sensitive assets:
- ----------------------
Fixed interest rate loans $ 68,336 $ 39,449 $ 27,989 $ 18,117 $ 11,045 $ 41,245 $206,181 $208,504
Average interest rate 9.35% 9.78% 9.49% 9.87% 9.76% 9.23% 9.48%
Variable interest rate loans $104,969 $ 31,063 $ 25,710 $ 21,797 $ 18,660 $113,190 $315,389 $315,389
Average interest rate 10.11% 8.43% 8.39% 8.44% 8.39% 8.59% 9.04%
Total loans $521,570
Fixed interest rate securities $ 39,252 $ 13,407 $ 14,471 $ 6,292 $ 12,213 $ 74,683 $160,318 $160,318
Average interest rate 6.12% 6.61% 6.28% 6.30% 6.56% 6.62% 6.45%
Variable interest rate securities $ 202 $ 2,412 $ 590 $ 5,861 $ 505 $ 4,403 $ 13,973 $ 13,973
Average interest rate 6.31% 7.65% 7.76% 6.94% 7.34% 7.07% 7.07%
Total securities $174,291
Other interest-bearing assets $ 17,358 $ 17,358 $ 17,358
Average interest rate 6.50% 6.50%
- -----------------------------------------------------------------------------------------------------------------------
Rate sensitive liabilities:
- ---------------------------
Non-interest bearing checking $ 17,984 $ 10,277 $ 7,707 $ 7,129 $ 5,010 $ 16,122 $ 64,229 $ 64,229
Average interest rate
Savings $14,489 $7,244 $7,244 $ 7,878 $ 6,339 $ 47,360 $ 90,554 $ 90,554
Average interest rate 3.10% 3.10% 3.10% 3.10% 3.10% 3.10% 3.10%
Interest bearing checking $ 15,829 $ 37,395 $ 15,829 $ 12,003 $ 10,684 $ 40,166 $131,906 $131,906
Average interest rate 3.38% 4.29% 3.38% 3.38% 3.38% 3.38% 3.54%
Time deposits $224,715 $ 78,199 $ 10,638 $ 6,496 $ 3,740 $ 630 $324,418 $325,086
Average interest rate 5.49% 5.81% 5.62% 6.00% 5.46% 4.60% 5.58%
Total deposits $611,107
Fixed interest rate borrowings $ 9,886 $ 3,681 $ 3,752 $ 2,837 $ 2,818 $ 4,185 $ 27,159 $ 27,259
Average interest rate 6.04% 6.14% 6.17% 6.05% 6.05% 6.46% 6.12%
Variable interest rate borrowings $ 33,979 $ 33,979 $ 33,979
Average interest rate 5.05% 5.05%
Total borrowings $ 61,138
- -----------------------------------------------------------------------------------------------------------------------
Rate sensitive derivative financial instruments:
- ------------------------------------------------
Interest rate floors purchased $ 20,000 $ 10,000 $ 10,000 $40,000 $101
Average strike rate 7.00% 5.50% 5.25%
Forward rate 5.81% 5.81% 5.81%
=======================================================================================================================
The preceding tables represent the Company's best estimates of future cash
flows from rate sensitive assets and liabilities. While this table
represents several significant changes in cash flow estimates for assets and
liabilities in maturity periods exceeding five years, the increases in fixed
rate loan and fixed rate investment securities maturing in 2004 and beyond
reflect investment decisions that were driven by simulation modeling which
indicated an asset sensitive balance sheet. Consequently, additional
emphasis was placed on adding fixed rate assets, which also resulted in
extended cash flow cycles to reduce the potential earnings impact of a
declining rate environment. In addition, several fixed rate liability
categories also reflect increases in extended cash flow characteristics.
While the underlying instruments have longer contractual maturities, certain
repricing options, if exercised by the creditor, would result in a
corresponding option to the Company to repay the borrowing. Management
intends to actively manage the corresponding impact of these extended cash
flow characteristics as a part of the regular review and actions of the ALCO.
The Company employs a variety of measurement techniques to identify and
manage its interest rate risk exposure. Evaluation and review of the
techniques, tools, and assumptions used in assessing the Company's interest
rate risk is an ongoing process.
EFFECTS OF INFLATION ON FINANCIAL STATEMENTS
============================================
Substantially all of the Company's assets relate to banking and are monetary
in nature. Therefore, they are not impacted by inflation in the same manner
as companies in capital intensive industries. During a period of rising
prices, a net monetary asset position results in loss in purchasing power
and conversely a net monetary liability position results in an increase in
purchasing power. In banks, monetary assets typically exceed monetary
liabilities and therefore, as prices have increased over the past year,
financial institutions experienced a modest decline in the purchasing power
of their assets.
OUTLOOK FOR 1999
================
Recent financial data reflects enhanced operational results achieved through
a combination of external growth and optimization of core competencies of
customer service and community presence. In addition, management has
identified and will continue to analyze key performance areas which
quantitatively measure the relative performance of the Company compared to
prior year results.
Management is pleased with the recent conversion of the offices acquired in
the West Virginia Banking Center Acquisition. The successful transition of
these offices bolstered loan activity with minimal loss of deposits. The new
offices are a natural extension of the Company's presence in the mid-Ohio
Valley and leverage the Company's equity position for 1999 and beyond. The
Company expects to continue its investment in the new geographic markets
through loans and other community reinvestment activities. Future loan
growth is also anticipated as the Company continues to expand its
relationship with selected customers outside traditional geographic markets.
Management plans to continue recent momentum of non-interest income growth
from various sources. The retention of the deposits acquired in the West
Virginia Banking Center Acquisition represents an additional opportunity to
provide superior customer service and strengthen the Company's position in
those markets. One of the Company's priorities in 1999 will be the
management and direction of the West Virginia Banking Center Acquisition
offices with existing full-service banking centers to create a united
financial service provider for the customers of Mason and Wetzel Counties in
West Virginia and surrounding areas of West Virginia and Ohio. Management
expects to enhance non-interest income streams in 1999 related to the
acquired deposits and associated cost-recovery fees of those deposits.
In January 1999, Peoples Bank announced intentions to open three sales
offices in Wal-Mart stores located in West Virginia (in the communities of
New Martinsville, Vienna, and Parkersburg). The Peoples Bank sales offices
will be located in the front of each Wal-Mart store near the customer service
area and will offer new deposit accounts, loans, insurance products,
investment services, Internet access, ATM access, and more. Peoples Bank
will open its New Martinsville Wal-Mart sales office in April, 1999; the
Vienna (near Parkersburg) Wal-Mart is scheduled to open in the third quarter
of 1999; and the south Parkersburg Wal-Mart is scheduled to be completed
near the end of 1999. It is anticipated that the Peoples Bank sales office
openings in the Vienna and Parkersburg Wal-Marts will coincide with the
grand opening of each store.
The three new offices will increase Peoples Bank's visibility in its West
Virginia markets and give the Company's team of personal bankers better
access to an increased number of shoppers compared to a traditional banking
center. The new Wal-Mart locations will complement the Company's existing
full-service banking centers in New Martinsville and Parkersburg, as well as
provide additional locations to Peoples Bank's customers in the greater
Parkersburg area, particularly through the Vienna store. Management believes
these new sales centers will be catalysts for 1999's sales and customer
service efforts and a focal point for future banking centers. Rather than
traditional banking offices, the Wal-Mart locations will be full-service
'electronic' sales centers, with an emphasis on selling products that meet
the customers' financial needs combined with electronic transaction
capabilities and access to customer accounts.
Mergers and acquisitions remain a viable strategic option for the continued
growth of the Company's operations and scope of customer service. Future
acquisitions, if they occur, may not be limited to specific geographic
location or proximity to current markets. Management will focus its energies
on review and research of possible mergers, consolidations, or banking center
purchases as a means of acquiring sales centers that complement existing
Peoples Bancorp locations and sales strategies. Ultimately, acquisitions
will depend upon financial service opportunities that complement the
Company's core competencies and strategic intent. Management considers
mergers and acquisitions to be a viable method of enhancing the Company's
earnings potential and will continue to pursue appropriate business
opportunities as they develop.
In conjunction with recent acquisitions and market expansion, management
continues to focus on operational efficiency as a method of increasing
shareholder value. As a means of increasing the Company's operating
efficiency and leverage available resources, the Company merged its federal
savings banks into a single unit effective January 1, 1999. The merger
provided an opportunity to unite the Company's Kentucky operations and
optimize the operating efficiency, profit potential, and capital positions
of the resulting entity. In 1999, management will continue to focus efforts
to enhance profitability of its southernmost operations through increased
product offerings, commitment to development of a non-interest bearing
deposit base, and other customer service possibilities.
In addition to operating efficiency, management focuses on increasing future
non-interest revenue streams to lessen the Company's dependency on net
interest income as the primary driver of future net income. In 1998, net
interest income increased as a percentage of total revenues due to the West
Virginia Banking Center Acquisition. In future periods, management will
focus on methods to enhance earnings potential through optimization of
customer relationships through an integrated sales process.
Integration of the Company's many sales processes, products, and services
will be the cornerstone of 1999's focus. Management will concentrate on a
marketing program based on establishing brand awareness of the Company in
its markets. The Company's insurance capabilities are an integral part of
future earnings streams and should reach break-even levels in 2000, and
gradually increase profitability thereafter. Management will continue to
research alternative methods of enhancing non-interest income streams, such
as electronic banking revenues, low income housing tax credits, and other
investments.
Management concentrates on several key performance indicators to measure and
direct the performance of the Company. While past results are not an
indication of future earnings, management believes the Company is positioned
to capitalize on its recent growth and enhance future performance levels
through integrated sales techniques and commitment to strategic initiatives
designed to increase shareholder value.
IMPACT OF THE YEAR 2000 ISSUE
=============================
The Company intends this information to constitute notice under the Year 2000
Information and Readiness Disclosure Act as a "Year 2000 Readiness
Disclosure".
Many companies across various industries have dedicated efforts to analyze
the much-publicized "Year 2000" issue (or "Y2K"), which is the result of
computer programs written using two digits rather than four to define the
applicable year. Computer programs or hardware which have date-sensitive
software or embedded chips may recognize a date of "00" as the year 1900
rather than the year 2000. This could result in system failure or
miscalculations causing disruptions of operations, including, among other
things, the inability to process transactions or engage in similar normal
business activities.
As discussed further below and based on assessments completed by the Company,
portions of the Company's software and hardware systems have been modified,
updated, or replaced so that those systems will properly utilize dates beyond
December 31, 1999. Management believes its assessment and resulting
remediation measures have mitigated the Y2K issue and ensured Y2K compliance
in regards to mission-critical applications, including customer service
related hardware and software systems (except certain ATM's, which are to be
updated in April, 1999).
Management has implemented plans to address Y2K issues and the impact to the
Company's business, operations, and relationships with customers, suppliers,
and other third parties. The Company primarily relies on third party vendors
for all critical processing systems software. Based on management's
assessments, the Company replaced certain portions of its software and
worked with software vendors so that those systems would properly utilize
dates beyond December 31, 1999. Management presently believes with these
recent modifications, combined with replacement of certain existing ATM
hardware and software, the Y2K issue will be mitigated.
Since the Company offers fiduciary services, management has conducted a
review of these services to identify potential liabilities. Management
continues to take appropriate action to manage identified exposure in order
to fulfill its responsibilities to fiduciary clients and to observe the
standards of prudence set forth in applicable laws and regulations.
Management plans to resolve the Y2K issue in five phases as follows:
awareness, assessment, renovation, validation, and implementation. To date,
the Company has completed its assessment of all material systems which could
be affected by the Y2K issue and addressed the extent to which its operations
are vulnerable should its software fail to be Y2K compliant. The completed
assessment indicates most of the Company's significant information technology
systems could be affected. Banking regulators have issued guidelines and
deadlines detailing what they expect financial institutions to do in order
to insure Y2K preparedness. The Company is following these guidelines and
expects to meet the deadlines defined by the regulators. As a part of this
process, the Company is also developing contingency plans for all mission-
critical systems, which it will implement in the event any of these systems
fail to function. Contingency plans for both information technology systems
("IT") and non-information technology systems ("non-IT") include a
combination of manual processes and utilization of systems (which have
already been Y2K validated and implemented) that are completely independent
from the Company's core information systems.
The Company continues to assess the credit, liquidity and counterparty
trading risks which may be posed by customers who encounter Year 2000-related
problems. These problems may result from the failure of a customer to
properly remediate its own systems and from Y2K problems that are not
addressed by the customer's suppliers and clients. The Company has amended
credit policies to include an assessment of Year 2000-related risks for
material new customers. The initial assessment of customer-related risks
for material customers has been completed and management does not anticipate
material losses or a significant negative impact to the Company's future
results of operations or financial position. The Company will continue to
monitor these risks.
The Company's assessment process included IT and non-IT systems. The IT
systems identified included personal computers, mainframes, local area
networks and servers, wide area network, automated teller machines ("ATM's"),
printers, copy machines, facsimile machines, telephones, and the operating
systems and softwares for these systems. Based on the results of its
assessment process, management considers these IT systems to be compliant
with Y2K, except approximately half of the Company's ATM's require hardware
and/or software upgrades which will be completed in the second quarter of
1999. The remaining ATM's have been certified compliant by the vendors.
Non-IT systems identified included heating, air conditioning, vault controls,
alarm systems, surveillance systems, and postage meters. Contact has been
made with all outside servicers and major vendors to determine their
individual levels of Y2K compliance. Based on vendor responses and/or
certification of Y2K compliance, the Company has determined that it should
not be significantly impacted by Y2K from these systems.
As of February 12, 1999, the following chart shows the current and projected
status of the Company's Y2K compliance efforts relative to IT systems:
Nov. 13, Dec. 31, Feb. 12, March 31, June 30,
PHASE 1998 1998 1999 1999 1999
- ----------------------------------------------------------------------------
Awareness 100% --- --- --- ---
Assessment 100% --- --- --- ---
Renovation 80% 80% 100% --- ---
Validation 20% 70% 75% 80% 100%
Implementation 20% 70% 75% 80% 100%
Management estimates that half of its potential Y2K issues originate in the
Company's core banking system (software provided by a third-party vendor).
The Company's core banking system supports approximately 50% of the
information processing for the Company. This single system software
provides accounting for the Company, as well as loan and deposit products.
This core banking system has been certified as Y2K compliant by the vendor
and the Information Technology Association of America. This software has
essentially been Y2K compliant for several years, as it was designed with a
four digit year field, and supports calculations beyond the year 2000. The
Company has completed 100% of its due diligence review of the proxy testing
of the core banking system. Additionally, the Company has conducted testing
in its own environment and plans to complete the validation of the proxy
tests through testing of mission critical interfaces into its core banking
system. Approximately 25% of the interface testing has been successfully
completed and the Company plans to complete the testing of the remaining
critical interfaces by the end of the first quarter of 1999.
The Company has replaced the central processing unit (hardware) that supports
the accounting system for Investment and Trust. The Company has also
upgraded the accounting system software, which has been certified compliant
by its vendor. These replacements and upgrades enabled the Company to test
the software and the related network and computer hardware, in its own
environment. This testing has been completed and management believes the
results were successful.
The ATM network software has also been certified compliant by its vendor and
has been tested in the Company's environment. The remaining mission critical
IT system, the Company's document processing and retrieval system, is
expected to be fully validated and implemented by June 30, 1999. The vendor
has supplied its Y2K certified version of its software and it has been
installed in the Company's current environment. Management is working
closely with the Company's third party vendors to ensure Y2K compliance in a
timely manner.
As planned, management replaced the Company's internal operating systems (on
existing hardware) during the second half of 1998. The internal operating
system for the mainframe computer has been successfully tested and proven to
be Y2K compliant. The Company has also completed the renovation phase for
all internally developed software applications. Management does not consider
internal software systems to be significant to the overall operations of the
Company.
All mission critical applications that were not Y2K compliant have been
upgraded. All reprogramming of internal software was completed in the third
quarter of 1998.
After completing the replacement of certain systems in January, 1999, the
Company's plans include testing and implementing its information technology
systems. As of February 12, 1999, the Company approximates it has completed
75% of its testing and has implemented all of the renovated systems that have
been tested. Completion of the testing phase is expected by the end of the
first quarter of 1999, with all renovated systems fully implemented by June
30, 1999.
The Company has queried, through written and verbal communication, its
important suppliers (such as utility companies) which do not involve system
interface. To date, the Company is not aware of any problems which would
materially impact operations, although the Company has no means of ensuring
that these organizations will be Y2K ready. The inability of these parties
to complete their Year 2000 resolution process could materially impact the
Company, as well as other businesses and consumers.
The Company expenses Y2K project costs as incurred. The total out-of-pocket
cost of the Y2K compliance project is not expected to be greater than
$200,000 and, therefore, is immaterial to the Company's results of operations
or financial position. As of February 12, 1999, management estimates that
60% of the Company's costs have been incurred. Included in the cost estimate
is internal human resource expense which is estimated to approximate between
$100,000 to $150,000. Actual out-of-pocket expenses have been less than
anticipated, however, management has increased the amount of internal human
resource expected to be consumed by this project, offsetting the costs saved
relative to purchases of hardware, software, and/or consulting fees. In
addition, the Company has no pending material legal proceedings related to
Y2K.
Due to the positive progress of the Company relative to remediation of the
Y2K issue, management recently launched a comprehensive marketing program to
its customers designed to communicate the Company's preparedness regarding
Y2K. Throughout 1999, the Company plans to increase its efforts to
communicate its preparedness in the market area it serves.
The foregoing discussion of the Company's plans to complete the Y2K
modifications contains forward-looking statements for purposes of the
Private Securities Litigation Reform Act of 1995 and is based on management's
best estimates, which were derived utilizing assumptions of future events
including the continued availability of certain resources, and other factors.
Estimates on the status of completion and the expected completion dates are
based on costs incurred to date compared to total expected costs. However,
there can be no guarantee that these estimates will be achieved and actual
results could differ materially from those plans. Specific factors which
might cause such material differences include, but are not limited to, the
availability and cost of personnel trained in the specialized area of Y2K
compliance, the ability of vendors to deliver Y2K compliant software as
planned, the ability to locate and correct all relevant computer codes, and
similar uncertainties.
COMPARISON OF 1997 TO 1996
==========================
The Company reported an increase in net income of 12.5%, to $8,605,000 in
1997 from $7,651,000 in 1996. This increase in earnings provided basic and
diluted earnings per share of $1.65 and $1.60, respectively, for the year
ended December 31, 1997, compared to $1.48 and $1.46 in 1996. Strong
internal loan growth and loans acquired in the Russell Federal acquisition,
coupled with enhanced operational efficiencies, were the driving forces
behind the increase in net income.
For the year ended December 31, 1997, return on average assets was unchanged
from 1996's ratio of 1.29%. In 1997, return on stockholders' equity
declined slightly to 14.33% compared to 14.43% in 1996, a decline of 10
basis points. Asset growth also contributed to incremental increases in net
income in 1997 compared to 1996. In 1997, the Company grew its balance
sheet through a combination of acquisition and internal growth. Total assets
increased $141.5 million (or 23.0%) to $758.2 million at year-end 1997. For
the year ended December 31, 1997, the Company's asset growth primarily
occurred in earning assets such as loans and investments securities. Loans
grew $99.2 million (or 23.5%) to $521.6 million and investment securities
grew $26.5 million (or 17.9%) to $174.3 million.
The Company recorded net interest income of $28,620,000 in 1997, an increase
of 12.5% compared to 1996, as total interest income reached $53,836,000 and
interest expense totaled $25,216,000. Net interest margin modestly decreased
in 1997 to 4.74% from 4.75% in 1996. The interest cost on the Company's
array of traditional interest-bearing deposit products (demand and time
deposit accounts) increased nine basis points, with the most significant
cost being interest paid on time deposits (CDs and IRAs). The largest rate
increase occurred in average interest-bearing demand deposits, which
increased 18 basis points to 3.46% on average deposit balances of $126.5
million. The increases in interest expense were offset by increased interest
income, as the Company experienced loan growth in 1997 of nearly $68 million
compared to the prior year, which produced an additional incremental
interest income of over $1 million.
Loans continued to be the largest earning asset component for the Company.
Loans averaged 84.0% of deposits in 1997, up from 82.3% at year-end 1996.
The fully-tax equivalent (FTE) yield on earnings assets increased slightly,
from 8.74% in 1996 to 8.81% in 1997. Interest costs as a percentage of
earning assets increased 8 basis points to 4.07% in 1997 due primarily to
the competitive rates paid on interest bearing deposits and minimal growth
in non-interest bearing deposits.
The Company's loan loss provision totaled $2,589,000 in 1997, up $624,000
compared to 1996, an increase of 31.8%. The growth was due primarily to
loan growth and a rise in loan delinquencies in 1997. At December 31, 1997,
the Company's allowance for loan losses as a percentage of total loans was
1.60%, compared to a year-end 1996 ratio of 1.63%.
Non-interest income (excluding securities transactions) continued its
positive growth trend in 1997, reaching $5,966,000, an increase of 16.3%
compared to 1996. Several categories had strong growth compared to 1996,
including income from fiduciary activities, which reported $2,176,000 in
revenues in 1997, an increase of 14.7% compared to 1996. Income related to
account service charges increased $265,000 (or 13.7%) to $2,202,000 in 1997,
due primarily to the full-year impact of increased deposit base acquired in
the acquisition of the Pomeroy, Rutland and Gallipolis offices in April,
1996. In 1997, electronic banking fee income increased $357,000 (or 33.4%)
compared to prior year due to increased revenues from the Company's growing
debit card program.
In 1997, non-interest expense totaled $19,265,000, an increase of 9.9% over
the prior year, due primarily to the Company's 1996 acquisitions and the
associated increased levels of non-interest expense such as salaries and
benefits, depreciation expense, and intangible amortization. Even though
salaries and employee benefits continued to be the largest source of
non-interest expense for the Company, totaling $8,358,000 in 1997, an
increase of $844,000 (or 11.2%) from 1996, increase in expense for
non-operational items also caused 1997's non-interest expense levels to rise.
Amortization of intangibles totaled $1,138,000 in 1997 compared to $625,000
or the same period in the prior year, an increase of $513,000 (or 82.1%).
Despite significant increases in major non-interest expense areas, the
Company leveraged its increased operational expenses due to market share
growth and enhanced revenue streams, causing the Company's efficiency ratio
to improve to 51.06% in 1997 compared to 53.76% in 1996.
"SAFE HARBOR" STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT
OF 1995
==========================================================================
The statements in this Annual Report which are not historical fact are
forward looking statements that involve risks and uncertainties, including,
but not limited to, the interest rate environment, the effect of federal and
state banking and tax regulations, the effect of economic conditions, the
Company's ability to execute its plan to address the Y2K issue and the
ability of third parties to effectively address their Y2K issues, the impact
of competitive products and pricing, and other risks detailed in the
Company's Securities and Exchange Commission filings.