UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
X Quarterly Report Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
For the period ended March 31, 1998
Transaction Report Pursuant to Section 13 or 15(d) of
the Securities Exchange Act of 1934
For the transaction period from to
Commission File Number 0-11204
USBANCORP, INC.
(Exact name of registrant as specified in its charter)
Pennsylvania 25-1424278
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
Main & Franklin Streets, P.O. Box 430, Johnstown, PA 15907-0430
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (814) 533-5300
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange
Act of 1934 during the preceding 12 months (or for such shorter period
that the registrant was required to file such reports), and (2) has
been subject to such filing requirements for the past 90 days.
X Yes No
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date.
Class Outstanding at April 30, 1998
Common Stock, par value $2.50 4,798,009
per share
1
USBANCORP, INC.
INDEX
Page No.
PART I. FINANCIAL INFORMATION:
Consolidated Balance Sheet -
March 31, 1998, December 31, 1997,
and March 31, 1997 3
Consolidated Statement of Income -
Three Months Ended March 31, 1998,
and 1997 4
Consolidated Statement of Changes
in Stockholders' Equity -
Three Months Ended
March 31, 1998, and 1997 6
Consolidated Statement of Cash Flows -
Three Months Ended
March 31, 1998, and 1997 7
Notes to Consolidated Financial
Statements 8
Management's Discussion and Analysis
of Consolidated Financial Condition
and Results of Operations 21
Part II. Other Information 36
2
USBANCORP, INC.
CONSOLIDATED BALANCE SHEET
(In thousands)
March 31 December 31 March 31
1998 1997 1997
(Unaudited) (Unaudited)
ASSETS
Cash and due from banks $ 39,733 $ 38,056 $ 46,096
Interest bearing deposits with banks 187 163 5,556
Federal funds sold and securities
purchased under agreements to resell - - -
Investment securities:
Available for sale 554,205 580,115 438,032
Held to maturity (market value $505,938 on
March 31, 1998, $541,093 on December 31,
1997, and $575,071 on March 31, 1997) 497,288 532,341 579,576
Assets held in trust for collateralized
mortgage obligation 3,950 4,267 5,032
Loans held for sale 30,786 13,163 8,782
Loans 992,989 981,739 945,512
Less: Unearned income 5,759 5,327 5,195
Allowance for loan losses 11,880 12,113 13,206
Net Loans 975,350 964,299 927,111
Premises and equipment 17,774 17,630 17,897
Accrued income receivable 16,488 17,317 16,913
Mortgage servicing rights 13,785 14,960 14,360
Goodwill and core deposit intangibles 18,532 19,122 20,889
Bank owned life insurance 34,398 33,979 32,836
Other assets 5,321 3,698 8,245
TOTAL ASSETS $ 2,207,797 $ 2,239,110 $ 2,121,325
LIABILITIES
Non-interest bearing deposits $ 159,411 $ 146,685 $ 141,217
Interest bearing deposits 1,008,441 992,842 1,013,088
Total deposits 1,167,852 1,139,527 1,154,305
Federal funds purchased and securities
sold under agreements to repurchase 93,421 92,829 98,188
Other short-term borrowings 61,362 57,892 56,621
Advances from Federal Home Loan Bank 692,430 754,195 625,734
Collateralized mortgage obligation 3,508 3,779 4,438
Long-term debt 4,008 4,361 5,790
Total borrowed funds 854,729 913,056 790,771
Other liabilities 29,481 28,347 25,600
TOTAL LIABILITIES 2,052,062 2,080,930 1,970,676
STOCKHOLDERS' EQUITY
Preferred stock, no par value; 2,000,000
shares authorized; there were no shares
issued and outstanding for the periods
presented - - -
Common stock, par value $2.50 per share;
12,000,000 shares authorized; 5,775,601
shares issued and 4,795,804 outstanding
on March 31, 1998; 5,760,676 shares issued
and 4,893,718 outstanding on December 31,
1997; 5,769,157 shares issued and
5,060,929 outstanding on March 31, 1997 14,437 14,402 14,395
Treasury stock at cost, 979,797 shares on
March 31, 1998, 866,958 shares on
December 31, 1997, and 697,228 shares
on March 31, 1997 (39,136) (31,175) (21,200)
Surplus 94,212 93,934 93,887
Retained earnings 82,882 78,866 67,501
Net unrealized holding gains (losses) on
available for sale securities 3,340 2,153 (3,934)
TOTAL STOCKHOLDERS' EQUITY 155,735 158,180 150,649
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY $ 2,207,797 $ 2,239,110 $ 2,121,325
See accompanying notes to consolidated financial statements.
3
USBANCORP, INC.
CONSOLIDATED STATEMENT OF INCOME
(In thousands, except per share data)
Unaudited
[CAPTION]
Three Months Ended
March 31
1998 1997
INTEREST INCOME
Interest and fees on loans and loans held for sale:
Taxable $ 20,658 $ 19,677
Tax exempt 622 561
Deposits with banks 16 28
Investment securities:
Available for sale 8,933 7,875
Held to maturity 9,388 9,200
Assets held in trust for collateralized
mortgage obligation 75 97
Total Interest Income 39,692 37,438
INTEREST EXPENSE
Deposits 10,197 10,326
Federal funds purchased and securities
sold under agreements to repurchase 1,261 1,326
Other short-term borrowings 1,126 969
Advances from Federal Home Loan Bank 10,125 8,193
Collateralized mortgage obligation 92 88
Long-term debt 30 31
Total Interest Expense 22,831 20,933
NET INTEREST INCOME 16,861 16,505
Provision for loan losses 150 23
NET INTEREST INCOME AFTER PROVISION
FOR LOAN LOSSES 16,711 16,482
NON-INTEREST INCOME
Trust fees 1,109 1,000
Net gains on investment securities 219 102
Net gains on loans held for sale 724 275
Wholesale cash processing fees 186 283
Service charges on deposit accounts 782 817
Net mortgage servicing fees 314 572
Bank owned life insurance 419 384
Other income 1,615 1,190
Total Non-Interest Income 5,368 4,623
NON-INTEREST EXPENSE
Salaries and employee benefits 7,490 6,929
Net occupancy expense 1,154 1,127
Equipment expense 796 872
Professional fees 792 764
Supplies, postage, and freight 671 652
Miscellaneous taxes and insurance 356 378
FDIC deposit insurance expense 38 (87)
Amortization of goodwill and core deposit intangibles 590 589
Other expense 2,365 1,982
Total Non-Interest Expense $ 14,252 $ 13,206
CONTINUED ON NEXT PAGE
4
CONSOLIDATED STATEMENT OF INCOME
CONTINUED FROM PREVIOUS PAGE
Three Months Ended
March 31
1998 1997
INCOME BEFORE INCOME TAXES 7,827 7,899
Provision for income taxes 2,132 2,231
NET INCOME $ 5,695 $ 5,668
PER COMMON SHARE DATA:
Basic:
Net income $ 1.17 $ 1.12
Average number of common shares outstanding 4,849,623 5,080,992
Diluted:
Net income $ 1.15 $ 1.10
Average number of common shares outstanding 4,942,841 5,146,014
Cash Dividend Declared $ 0.35 $ 0.30
See accompanying notes to consolidated financial
statements.
5
USBANCORP, INC.
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
(In thousands)
Unaudited
Net
Unrealized
Holding
Preferred Common Treasury Retained Gains
Stock Stock Stock Surplus Earnings (Losses) Total
Balance December 31,
1996 $ - $ 14,356 $(19,538) $ 93,527 $ 63,358 $ 214 $151,917
Net Income - - - - 5,668 - 5,668
Dividend reinvestment
and stock
purchase plan - 39 - 360 - - 399
Net unrealized holding
gains (losses) on
investment
securities - - - - - (4,148) (4,148)
Treasury Stock, 35,968
shares at cost - - (1,662) - - - (1,662)
Cash dividends declared:
Common stock($0.30 per
share on 5,085,429
shares) - - - - (1,525) - (1,525)
Balance March 31, 1997 $ - $ 14,395 $(21,200) $ 93,887 $ 67,501 $ (3,934) $150,649
Balance December 31,
1997 $ - $ 14,402 $(31,175) $ 93,934 $ 78,866 $ 2,153 $158,180
Net Income - - - - 5,695 - 5,695
Dividend reinvest-
ment and stock
purchase plan - 35 - 278 - - 313
Net unrealized holding
gains (losses) on
investment securities - - - - - 1,187 1,187
Treasury Stock, 112,839
shares at cost - - (7,961) - - - (7,961)
Cash dividends declared:
Common stock ($0.35 per
share on 4,798,744
shares) - - - - (1,679) - (1,679)
Balance March 31, 1998$ - $ 14,437 $(39,136) $ 94,212 $ 82,882 $ 3,340 $155,735
See accompanying notes to consolidated financial statements.
6
USBANCORP, INC.
CONSOLIDATED STATEMENT OF CASH FLOWS
(In thousands)
Unaudited
Three Months Ended
March 31
1998 1997
OPERATING ACTIVITIES
Net income $ 5,695 $ 5,668
Adjustments to reconcile net income to net cash
(used) provided by operating activities:
Provision for loan losses 150 23
Depreciation and amortization expense 632 610
Amortization expense of goodwill and core
deposit intangibles 590 589
Amortization expense of mortgage servicing rights 607 399
Net amortization (accretion) of investment
securities 178 (32)
Net realized gains on investment securities (219) (102)
Net realized gains on loans and loans held for sale (724) (275)
Origination of mortgage loans held for sale (107,998) (50,891)
Sales of mortgage loans held for sale 92,811 56,179
Decrease in accrued income receivable 829 449
Increase (decrease) in accrued expense payable (1,123) 926
Net cash (used) provided by operating activities (8,572) 13,543
INVESTING ACTIVITIES
Purchases of investment securities and other
short-term investments (119,224) (164,929)
Proceeds from maturities of investment securities
and other short-term investments 63,560 44,578
Proceeds from sales of investment securities and
other short-term investments 118,314 98,709
Long-term loans originated (72,554) (83,789)
Loans held for sale (30,786) (8,782)
Principal collected on long-term loans 89,016 78,290
Loans purchased or participated - (1,087)
Net decrease in credit card receivable and other
short-term loans 1,411 836
Purchases of premises and equipment (776) (311)
Sale/retirement of premises and equipment - 7
Net decrease in assets held in trust for collateralized
mortgage obligation 317 227
Net decrease (increase) mortgage servicing rights 568 (2,265)
Net (increase) decrease in other assets (2,501) 459
Net cash provided (used) by investing activities 47,345 (38,057)
FINANCING ACTIVITIES
Proceeds from sales of certificates of deposit 103,978 79,128
Payments for maturing certificates of deposits (92,583) (56,481)
Net increase (decrease) in demand and savings
deposits 16,930 (7,080)
Net increase (decrease) in federal funds purchased,
securities sold under agreements to repurchase,
and other short-term borrowings 3,791 (1,184)
Net principal (repayments) borrowings of advances
from Federal Home Loan Bank (61,765) 20,235
Principal borrowings on long-term debt 900 5,068
Repayments of long-term debt (1,253) (3,450)
Common stock cash dividends paid (1,225) (2,541)
Proceeds from dividend reinvestment, stock
purchase plan, and stock options exercised 313 399
Purchases of treasury stock (7,961) (1,662)
Net increase (decrease) in other liabilities 1,803 (667)
Net cash (used) provided by financing activities (37,072) 31,765
NET INCREASE IN CASH EQUIVALENTS 1,701 7,251
CASH EQUIVALENTS AT JANUARY 1 38,219 44,401
CASH EQUIVALENTS AT MARCH 31 $ 39,920 $ 51,652
See accompanying notes to consolidated financial statements.
7
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Principles of Consolidation
The consolidated financial statements include the
accounts of USBANCORP, Inc. (the "Company") and its wholly-
owned subsidiaries, United States National Bank in
Johnstown ("U.S. Bank"), Three Rivers Bank and Trust
Company ("Three Rivers Bank"), USBANCORP Trust Company
("Trust Company"), UBAN Associates, Inc., ("UBAN
Associates") and United Bancorp Life Insurance Company
("United Life"). In addition, the Parent Company is an
administrative group that provides support in such areas as
audit, finance, investments, loan review, general services,
loan policy, and marketing. Intercompany accounts and
transactions have been eliminated in preparing the
consolidated financial statements.
2. Basis of Preparation
The unaudited consolidated financial statements have
been prepared in accordance with generally accepted
accounting principles for interim financial information.
In the opinion of management, all adjustments that are of
a normal recurring nature and are considered necessary for
a fair presentation have been included. They are not,
however, necessarily indicative of the results of
consolidated operations for a full year.
With respect to the unaudited consolidated financial
information of the Company for the three month periods
ended March 31, 1998, and 1997, Arthur Andersen LLP,
independent public accountants, conducted reviews (based
upon procedures established by the American Institute of
Certified Public Accountants) and not audits, as set forth
in their separate review report dated April 16, 1998,
appearing herein. This report does not express an opinion
on the interim unaudited consolidated financial
information. Arthur Andersen LLP has not carried out any
significant or additional audit tests beyond those which
would have been necessary if its report had not been
included. The December 31, 1997, numbers are derived from
audited financial statements.
For further information, refer to the consolidated
financial statements and accompanying notes included in the
Company's "Annual Report and Form 10-K" for the year ended
December 31, 1997.
3. Earnings Per Common Share
During the fourth quarter of 1997, the Company adopted
Statement of Financial Accounting Standards ("SFAS") #128,
"Earnings Per Share." Under SFAS #128, earnings per share
are classified as basic earnings per share and diluted
earnings per share. Basic earnings per share includes only
the weighted average common shares outstanding. Diluted
earnings per share includes the weighted average common
shares outstanding and any dilutive common stock equivalent
shares in the calculation. All prior periods have been
restated to reflect this adoption. Treasury shares are
treated as retired for earnings per share purposes.
8
4. Comprehensive Income
In January 1998, the Company adopted SFAS #130,
"Reporting Comprehensive Income," which established
standards for reporting and displaying comprehensive income
and its components in a financial statement. For the
Company, comprehensive income includes net income and
unrealized holding gains and losses from available for sale
investment securities. The changes of other comprehensive
income are reported net of income taxes, as follows (in
millions):
March 31, March 31,
1998 1997
Net income $5,695 $5,668
Other comprehensive income, before tax:
Unrealized holding gains(losses) on
investment securities 1,646 (6,376)
Less: reclassification adjustment for
gains included in net income (219) (102)
Other comprehensive income(loss) before tax 1,427 (6,478)
Income tax expense(credit) related to items
of other comprehensive income 389 (1,829)
Other comprehensive income(loss), net of tax 1,038 (4,649)
Comprehensive income $6,733 $1,019
5. Consolidated Statement of Cash Flows
On a consolidated basis, cash equivalents include cash
and due from banks, interest bearing deposits with banks,
and federal funds sold and securities purchased under
agreements to resell. For the Parent Company, cash
equivalents also include short-term investments. The
Company made $39,000 in income tax payments in the first
quarter of 1998 as compared to $1,186,000 for the first
three months of 1997. Total interest expense paid amounted
to $15,375,000 in 1998's first three months compared to
$20,007,000 in the same 1997 period.
6. Investment Securities
The Company uses SFAS #115, "Accounting for Certain
Investments in Debt and Equity Securities," which specifies
a methodology for the classification of securities as
either held to maturity, available for sale, or as trading
assets. Securities are classified at the time of purchase
as investment securities held to maturity if it is
management's intent and the Company has the ability to hold
the securities until maturity. These held to maturity
securities are carried on the Company's books at cost,
adjusted for amortization of premium and accretion of
discount which is computed using the level yield method
which approximates the effective interest method.
9
Alternatively, securities are classified as available for
sale if it is management's intent at the time of purchase
to hold the securities for an indefinite period of time
and/or to use the securities as part of the Company's
asset/liability management strategy. Securities classified
as available for sale include securities which may be sold
to effectively manage interest rate risk exposure,
prepayment risk, and other factors (such as liquidity
requirements). These available for sale securities are
reported at fair value with unrealized aggregate
appreciation/(depreciation) excluded from income and
credited/(charged) to a separate component of shareholders'
equity on a net of tax basis. Any security classified as
trading assets are reported at fair value with unrealized
aggregate appreciation (depreciation) included in current
income on a net of tax basis. The Company presently does
not engage in trading activity. Realized gain or loss on
securities sold was computed upon the adjusted cost of the
specific securities sold. The book and market values of
investment securities are summarized as follows (in
thousands):
Investment securities available for sale:
March 31, 1998
Gross Gross
Book Unrealized Unrealized Market
Value Gains Losses Value
U.S. Treasury $ 2,443 $ 8 $ (2) $ 2,449
U.S. Agency 1,768 13 - 1,781
State and municipal 13,519 280 - 13,799
U.S. Agency mortgage-backed securities 485,083 3,460 (790) 487,753
Other securities<F1> 46,347 2,093 (17) 48,423
Total $549,160 $ 5,854 $ (809) $554,205
Investment securities held to maturity:
March 31, 1998
Gross Gross
Book Unrealized Unrealized Market
Value Gains Losses Value
U.S. Treasury $ 16,319 $ 16 $ (1) $ 16,334
U.S. Agency 6,604 94 - 6,698
State and municipal 113,611 2,611 (38) 116,184
U.S. Agency mortgage-backed securities 357,837 6,121 (296) 363,662
Other securities<F1> 2,917 143 - 3,060
Total $497,288 $ 8,985 $ (335) $505,938
<F1>Other investment securities include corporate notes and
bonds, asset-backed securities, and equity
securities.
Maintaining investment quality is a primary objective
of the Company's investment policy which, subject to
certain limited exceptions, prohibits the purchase of any
investment security below a Moody's Investor's Service or
Standard & Poor's rating of "A." At March 31, 1998, 98.7%
of the portfolio was rated "AAA" compared to 98.6% at
March 31, 1997. Approximately 0.01% of the portfolio was
rated below "A" or unrated on March 31, 1998.
10
7. Loans Held for Sale
At March 31, 1998, $30,786,000 of newly originated
fixed-rate residential mortgage loans were classified as
"held for sale." It is management's intent to sell these
residential mortgage loans during the next several months.
The residential mortgage loans held for sale are carried at
the lower of aggregate cost or market value. Net realized
and unrealized gains and losses are included in "Net gains
(losses) on loans held for sale"; unrealized net valuation
adjustments (if any) are recorded in the same line item on
the Consolidated Statement of Income.
8. Loans
The loan portfolio of the Company consists of the
following (in thousands):
March 31 December 31 March 31
1998 1997 1997
Commercial $141,598 $143,113 $149,266
Commercial loans secured
by real estate 320,058 302,620 278,871
Real estate - mortgage 438,161 440,734 412,364
Consumer 93,172 95,272 105,011
Loans 992,989 981,739 945,512
Less: Unearned income 5,759 5,327 5,195
Loans, net of unearned
income $987,230 $976,412 $940,317
Real estate-construction loans were not material at
these presented dates and comprised 3.1% of total loans net
of unearned income at March 31, 1998. The Company has no
credit exposure to foreign countries or highly leveraged
transactions. Additionally, the Company has no significant
industry lending concentrations.
9. Allowance for Loan Losses and Charge-Off Procedures
As a financial institution which assumes lending and
credit risks as a principal element of its business, the
Company anticipates that credit losses will be experienced
in the normal course of business. Accordingly, the Company
consistently applies a comprehensive methodology and
procedural discipline which is updated on a quarterly basis
at the subsidiary bank level to determine both the adequacy
of the allowance for loan losses and the necessary
provision for loan losses to be charged against earnings.
This methodology includes:
a detailed review of all criticized and impaired loans
to determine if any specific reserve allocations are
required on an individual loan basis.
11
the application of reserve allocations for commercial
and commercial real-estate loans are calculated by
using a three year migration analysis of net losses
incurred within the entire commercial loan portfolio.
the application of reserve allocations to installment
and mortgage loans which are based upon historical
charge-off experience for those loan types. The
residential mortgage loan allocation is based upon the
Company's five year historical average of actual loan
charge-offs experienced in that category. The same
methodology is used to determine the allocation for
consumer loans except the allocation is based upon an
average of the most recent actual three year historical
charge-off experience for consumer loans.
the application of reserve allocations to all loans is
based upon review of historical and qualitative
factors, which include but are not limited to, national
and economic trends, delinquencies, concentrations of
credit, and trends in loan volume.
the maintenance of a general unallocated reserve of at
least 20% of the systematically determined minimum
amount from the items listed above in order to provide
conservative positioning in the event of any unforeseen
deterioration in the economy. This 20% policy
requirement was mandated by the Board of Directors
after the Company experienced significant credit
quality problems in the period from 1985 to 1989. It
must be emphasized that the Board views this policy as
establishing a minimum requirement only and the
requirement of a general unallocated reserve of at
least 20% of the determined need is prudent recognition
of the fact that reserve estimates, by definition, lack
precision.
After completion of this process, a formal meeting of
the Loan Loss Reserve Committee is held to evaluate the
adequacy of the reserve and establish the provision level
for the next quarter. The Company believes that the
procedural discipline, systematic methodology, and
comprehensive documentation of this quarterly process is in
full compliance with all regulatory requirements and
provides appropriate support for accounting purposes.
When it is determined that the prospects for recovery
of the principal of a loan have significantly diminished,
the loan is immediately charged against the allowance
account; subsequent recoveries, if any, are credited to the
allowance account. In addition, non-accrual and large
delinquent loans are reviewed monthly to determine
potential losses. Consumer loans are considered losses when
they are 90 days past due, except loans that are insured
for credit loss.
12
An analysis of the changes in the allowance for loan
losses follows (in thousands, except ratios):
Three Months Ended Year Ended
March 31 December 31
1998 1997 1997
Balance at beginning of period $ 12,113 $ 13,329 $ 13,329
Charge-offs:
Commercial 128 10 1,040
Real estate-mortgage 92 49 202
Consumer 299 241 1,255
Total charge-offs 519 300 2,497
Recoveries:
Commercial 21 53 529
Real estate-mortgage 36 22 262
Consumer 79 79 332
Total recoveries 136 154 1,123
Net charge-offs 383 146 1,374
Provision for loan losses 150 23 158
Balance at end of period $ 11,880 $ 13,206 $ 12,113
As a percent of average loans
and loans held for sale,
net of unearned income:
Annualized net charge-offs 0.16% 0.06% 0.14%
Annualized provision for
loan losses 0.06 0.01 0.02
Allowance as a percent of loans
and loans held for sale, net
of unearned income at period end 1.17 1.39 1.26
Total classified loans $31,870 $21,044 $26,184
Dollar allocation of reserve
to general risk 5,723 6,398 5,980
Percentage allocation of
reserve to general risk 48.17% 48.45% 49.37%
(For additional information, refer to the "Provision for Loan Losses"
and "Loan Quality" sections in the Management's Discussion and Analysis
of Consolidated Financial Condition and Results of Operations on pages
26 and 29, respectively.)
13
10. Components of Allowance for Loan Losses
The Company uses SFAS #114, "Accounting by Creditors
for Impairment of a Loan" which was subsequently amended by
SFAS #118, "Accounting by Creditors for Impairment of a
Loan-Income Recognition and Disclosures" to account for
impaired loans. SFAS #114 addresses the treatment and
disclosure of certain loans where it is probable that the
creditor will be unable to collect all amounts due
according to the contractual terms of the loan agreement.
This standard defines the term "impaired loan" and
indicates the method used to measure the impairment. The
measurement of impairment may be based upon: 1) the
present value of expected future cash flows discounted at
the loan's effective interest rate; 2) the observable
market price of the impaired loan; or 3) the fair value of
the collateral of a collateral dependent loan.
Additionally, SFAS #118 requires the disclosure of how the
creditor recognizes interest income related to these
impaired loans.
The Company's policy is to individually review, as
circumstances warrant, each of its commercial and
commercial mortgage loans to determine if a loan is
impaired. At a minimum, credit reviews are mandatory for
all commercial and commercial mortgage loans with balances
in excess of $250,000 within an 18 month period. The
Company has also identified two pools of small dollar value
homogeneous loans which are evaluated collectively for
impairment. These separate pools are for residential
mortgage loans and consumer loans. Individual loans within
these pools are reviewed and removed from the pool if
factors such as significant delinquency in payments of 90
days or more, bankruptcy, or other negative economic
concerns indicate impairment.
The Company had loans totalling $1,143,000 and
$2,271,000 being specifically identified as impaired and a
corresponding allocation reserve of $650,000 and $1,260,000
at March 31, 1998, and March 31, 1997, respectively. The
average outstanding balance for loans being specifically
identified as impaired was $1,078,000 for the first quarter
of 1998 compared to $2,281,000 for the first quarter of
1997. All of the impaired loans are collateral dependent,
therefore the fair value of the collateral of the impaired
loans is evaluated in measuring the impairment. There was
no interest income recognized on impaired loans during the
first quarter of 1998 or 1997.
The following table sets forth the allocation of the
allowance for loan losses among various categories. This
allocation is determined by using the consistent quarterly
procedural discipline which was discussed above. This
allocation, however, is not necessarily indicative of the
specific amount or specific loan category in which future
losses may ultimately occur (in thousands, except
percentages):
14
March 31, 1998 December 31, 1997 March 31, 1997
Percent of Percent of Percent of
Loans in Loans in Loans in
Each Each Each
Category Category Category
Amount to Loans Amount to Loans Amount to Loans
Commercial $ 1,143 13.9% $ 1,020 14.4% $ 1,415 15.7%
Commercial
loans secured
by real estate 2,505 31.4 2,543 30.6 2,856 29.4
Real Estate -
mortgage 414 46.1 414 45.9 400 44.4
Consumer 1,445 8.6 1,506 9.1 877 10.5
Allocation to
general risk 5,723 - 5,980 - 6,398 -
Allocation for
impaired loans 650 - 650 - 1,260 -
Total 11,880 100.0% $12,113 100.0% $13,206 100.0%
Even though real estate-mortgage loans comprise
approximately 46% of the Company's total loan portfolio,
only $414,000 or 3.5% of the total allowance for loan
losses is allocated against this loan category. The real
estate-mortgage loan allocation is based upon the Company's
five year historical average of actual loan charge-offs
experienced in that category. The disproportionately
higher allocations for commercial loans and commercial
loans secured by real estate reflect the increased credit
risk associated with this type of lending and the Company's
historical loss experienced in these categories.
At March 31, 1998, management of the Company believes
the allowance for loan losses was adequate to cover
potential yet undetermined losses within the Company's loan
portfolio. The Company's management is unable to determine
in what loan category future charge-offs and recoveries may
occur. (For a complete discussion concerning the
operations of the "Allowance for Loan Losses" refer to Note
#9.)
11. Non-performing Assets
Non-performing assets are comprised of (i) loans which
are on a non-accrual basis, (ii) loans which are
contractually past due 90 days or more as to interest or
principal payments some of which are insured for credit
loss, and (iii) other real estate owned (real estate
acquired through foreclosure and in-substance
foreclosures). All loans, except for loans that are
insured for credit loss, are placed on non-accrual status
immediately upon becoming 90 days past due in either
principal or interest. In addition, if circumstances
warrant, the accrual of interest may be discontinued prior
to 90 days. In all cases, payments received on non-accrual
loans are credited to principal until full recovery of
principal has been recognized; it is only after full
recovery of principal that any additional payments received
are recognized as interest income. The only exception to
this policy is for residential mortgage loans wherein
interest income is recognized on a cash basis as payments
are received.
15
The following table presents information concerning
non-performing assets (in thousands, except percentages):
March 31 December 31 March 31
1998 1997 1997
Non-accrual loans $ 5,521 $ 6,450 $ 6,846
Loans past due 90
days or more 165 1,601 3,040
Other real estate owned 1,172 807 524
Total non-performing
assets $ 6,858 $ 8,858 $10,410
Total non-performing
assets as a percent
of loans and loans
held for sale, net
of unearned income,
and other real estate
owned 0 .67% 0.89% 1.10%
The Company is unaware of any additional loans which
are required to either be charged-off or added to the non-
performing asset totals disclosed above. Other real estate
owned is recorded at the lower of 1)fair value minus
estimated costs to sell, or 2)carrying cost.
The following table sets forth, for the periods
indicated, (i) the gross interest income that would have
been recorded if non-accrual loans had been current in
accordance with their original terms and had been
outstanding throughout the period or since origination if
held for part of the period, (ii) the amount of interest
income actually recorded on such loans, and (iii) the net
reduction in interest income attributable to such loans (in
thousands).
Three Months Ended
March 31
1998 1997
Interest income due in accordance
with original terms $ 99 $ 144
Interest income recorded (2) (30)
Net reduction in
interest income $ 97 $ 114
12. Off-Balance Sheet Hedge Instruments
Policies
The Company uses various interest rate contracts, such
as interest rate swaps, caps and floors, to help manage
interest rate and market valuation risk exposure, which is
incurred in normal recurrent banking activities. These
interest rate contracts function as hedges against specific
assets or liabilities on the Consolidated Balance Sheet.
Unrealized gains or losses on these hedge transactions are
deferred. It is the Company's policy not to terminate
hedge transactions prior to expiration date.
16
For interest rate swaps, the interest differential to
be paid or received is accrued by the Company and
recognized as an adjustment to interest income or interest
expense of the underlying assets or liabilities being
hedged. Since only interest payments are exchanged, the
cash requirement and exposure to credit risk are
significantly less than the notional amount.
Any premium or transaction fee incurred to purchase
interest rate caps or floors is deferred and amortized to
interest income or interest expense over the term of the
contract. Unamortized premiums related to the purchase of
caps and floors are included in "Other assets" on the
Consolidated Balance Sheet. A summary of the off-balance
sheet derivative transactions outstanding as of March 31,
1998, are as follows:
Borrowed Funds Hedges
The Company has entered into several interest rate
swaps to hedge short-term borrowings used to leverage the
balance sheet. Specifically, FHLB advances which reprice
between 30 days and one year are being used to fund
fixed-rate agency mortgage-backed securities with durations
ranging from two to three years. Under these swap
agreements, the Company pays a fixed rate of interest and
receives a floating rate which resets either monthly,
quarterly, or annually. The following table summarizes the
interest rate swap transactions which impacted the
Company s first three months of 1998 performance:
Fixed Floating Impact
Notional Start Termination Rate Rate Repricing On Interest
Amount Date Date Paid Received Frequency Expense
$40,000,000 3-17-97 3-15-99 6.19% 5.67% Monthly $ 48,942
50,000,000 5-08-97 5-10-99 6.20 5.88 Annually 40,000
25,000,000 6-20-97 6-20-99 5.96 5.51 Monthly 27,805
50,000,000 9-25-97 9-25-99 5.80 5.53 Monthly 34,534
The Company believes that its exposure to credit loss in
the event of non-performance by any of the counterparties
(which include Mellon Bank and Corestates Bank) in the
interest rate swap agreements is remote.
The Company monitors and controls all off-balance
sheet derivative products with a comprehensive Board of
Director approved hedging policy. This policy permits a
total maximum notional amount outstanding of $500 million
for interest rate swaps, and interest rate caps/floors.
The Company had no interest rate caps or floors outstanding
at March 31, 1998, or March 31, 1997.
13. Goodwill and Core Deposit Intangible Assets
USBANCORP's balance sheet shows both tangible assets
(such as loans, buildings, and investments) and intangible
assets (such as goodwill). The Company now carries $15.0
million of goodwill and $3.5 million of core deposit
intangible assets on its balance sheet. The majority of
these intangible assets came from the 1994 Johnstown
Savings Bank acquisition.
17
The Company is amortizing core deposit intangibles
over periods ranging from five to ten years while goodwill
is being amortized over a 15 year life. The straight-line
method of amortization is being used for both of these
categories of intangibles. The amortization expense of
these intangible assets reduced the first three months of
1998 diluted earnings per share by $0.11. It is important
to note that this intangible amortization expense is not a
future cash outflow. The following table reflects the
future amortization expense of the intangible assets (in
thousands):
Remaining 1998 $ 1,580
1999 2,014
2000 1,904
2001 1,865
2002 1,865
2003 and after 9,304
14. Federal Home Loan Bank Borrowings
Total FHLB borrowings consist of the following at
March 31, 1998, (in thousands,
except percentages):
Type Maturing Amount Weighted
Average
Rate
Open Repo Plus Overnight $ 12,500 6.20%
Advances and 1998 510,036 5.54
wholesale 1999 126,268 5.86
repurchase 2000 33,750 5.44
agreements 2001 10,126 8.22
2002 8,500 7.06
2003 and after 3,750 6.61
Total Advances and 692,430 5.66
wholesale repurchase
agreements
Total FHLB Borrowings $704,930 5.67%
All of the above borrowings bear a fixed rate of interest,
with the only exceptions being the Open Repo Plus advances
whose rate can change daily. All FHLB stock along with an
interest in unspecified mortgage loans and mortgage-backed
securities, with an aggregate statutory value equal to the
amount of the advances, have been pledged as collateral
with the Federal Home Loan Bank of Pittsburgh to support
these borrowings.
18
15. Capital
The Company is subject to various capital requirements
administered by the federal banking agencies. Under
capital adequacy guidelines and the regulatory framework
for prompt corrective action, the Company must meet
specific capital guidelines that involve quantitative
measures of the Company's assets, liabilities, and certain
off-balance sheet items as calculated under regulatory
accounting practices. The Company's capital amounts and
classification are also subject to qualitative judgements
by the regulators about components, risk weightings, and
other factors. Failure to meet minimum capital
requirements can initiate certain mandatory and possibly
additional discretionary actions by regulators that, if
undertaken, could have a direct material effect on the
Company's financial statements.
Quantitative measures established by regulation to
ensure capital adequacy require the Company to maintain
minimum amounts and ratios(set forth in the table below) of
total and Tier 1 capital to risk-weighted assets, and of
Tier 1 capital to average assets. Management believes that
as of March 31, 1998, the Company meets all capital
adequacy requirements to which it is subject.
As of March 31, 1998, and 1997, as well as, December
31, 1997, the Federal Reserve categorized the Company as
"Well Capitalized" under the regulatory framework for
prompt corrective action. To be categorized as well
capitalized, the Company must maintain minimum total risk-
based, Tier 1 risk-based, and Tier 1 leverage ratios as set
forth in the table. There are no conditions or events
since notification that management believes have changed
the Company's classification category.
To Be Well
Capitalized Under
For Capital Prompt Corrective
As of March 31, 1998 Actual Adequacy Purposes Action Provisions
Amount Ratio Amount Ratio Amount Ratio
Total Capital (to Risk (In thousands, except ratios)
Weighted Assets)
Consolidated $ 144,552 13.46% $ 85,923 8.00% $ 107,404 10.00%
U.S. Bank 88,498 15.45 45,835 8.00 57,294 10.00
Three Rivers Bank 66,349 13.28 39,974 8.00 49,968 10.00
Tier 1 Capital (to Risk
Weighted Assets)
Consolidated 132,642 12.35 42,962 4.00 64,442 6.00
U.S. Bank 82,609 14.42 22,918 4.00 34,376 6.00
Three Rivers Bank 60,358 12.08 19,987 4.00 29,981 6.00
Tier 1 Capital (to Average
Assets)
Consolidated 132,642 5.94 89,312 4.00 111,641 5.00
U.S. Bank 82,609 6.69 49,384 4.00 61,730 5.00
Three Rivers Bank 60,358 6.07 39,758 4.00 49,697 5.00
19
16. Subsequent Events
Branch Acquisition
On January 30, 1998, Three Rivers Bank and National
City Bank of Pennsylvania ("National City") entered into a
Purchase and Assumption Agreement (the "Branch Agreement"),
pursuant to which Three Rivers Bank agreed to purchase
certain assets and assume certain liabilities of two
National City offices located in Allegheny County.
Pursuant to the Branch Agreement, and subject to certain
conditions set forth therein, Three Rivers Bank will: (i)
assume certain deposit liabilities totalling approximately
$34 million; (ii) purchase all the real estate and
furniture and fixtures of these two branch locations; (iii)
purchase the safe deposit box business conducted at the
branches; (iv) assume contracts that relate to the
operation of the branches; and (v) purchase the vault cash.
In consideration for the assumption of the deposit
liabilities, Three Rivers Bank will pay National City a
deposit premium of 7.0% or approximately $2.4 million. In
addition, Three Rivers Bank is purchasing cash reserve
loans at par value.
The consummation of the branch acquisition is
contingent upon, among other things, receipt of all
necessary regulatory approvals. Management anticipates
that this transaction will be consummated in June 1998.
Trust Preferred Securities
On April 28, 1998, the Company announced that it
completed a $34.5 million public offering of 8.45% Trust
Preferred Securities, which represent undivided beneficial
interests in the assets of a recently formed Delaware
business trust, USBANCORP Capital Trust I. The Trust
Preferred Securities will mature on June 30, 2028, and are
callable at par at the option of the Company after June 30,
2003.
Proceeds of the issue will be invested by USBANCORP
Capital Trust I in Junior Subordinated Debentures issued by
the Company. The Trust Preferred Securities are fully and
unconditionally guaranteed by the Company. Net proceeds
from the $34.5 million offering will be used for general
corporate purposes, including the repayment of debt, the
repurchase of USBANCORP common stock, and investments in
and advances to the Company's subsidiaries. The Trust
Preferred Securities were rated BBB- by Thomson BankWatch
and are listed on NASDAQ under the symbol "UBANP".
20
MANAGEMENT'S DISCUSSION AND ANALYSIS OF CONSOLIDATED
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
("M.D.& A.")
.....PERFORMANCE OVERVIEW.....The Company's net income for
the first quarter of 1998 totalled $5,695,000 or $1.15 per
share on a diluted basis. The Company's net income for the
first quarter of 1997 totalled $5,668,000 or $1.10 per
share on a diluted basis. The 1998 results reflect a
$27,000 or 0.5% earnings increase and a $0.05 or 4.5%
improvement in diluted earnings per share when compared to
the 1997 first quarter results. Earnings per share grew at
a faster rate than net income due to the success of the
Company s ongoing treasury stock repurchase program. The
Company's return on equity averaged 14.58% for the first
quarter of 1998 which was down slightly from the 14.92%
return on equity reported in the first quarter of 1997.
The Company s return on assets dropped by seven basis
points to 1.03% in the first quarter of 1998.
The Company's improved earnings performance in the
first quarter of 1998 was due to a combination of increased
revenue and effective capital management strategies.
Specifically, net interest income increased by $356,000 or
2.2% while total non-interest income grew by $745,000 or
16.1%. This increased revenue offset higher non-interest
expense and an increase in the provision for loan losses.
Total non-interest expense was $1.0 million or 7.9% higher
in the first quarter of 1998 while the provision for loan
losses increased by $127,000. The Company's earnings per
share was also enhanced by the repurchase of its common
stock because there were 203,000 fewer average diluted
shares outstanding in the first quarter of 1998. The
following table summarizes some of the Company's key
performance indicators (in thousands, except per share and
ratios):
Presented on this page was a graphic presentation of Diluted
Earnings Per Share for the past seven quarters. The data points presented
were $1.15, $1.19, $1.18, $1.15, $1.10, $1.06, and $0.83, respectively.
21
Three Months Ended Three Months Ended
March 31, 1998 March 31, 1997
Net income $ 5,695 $ 5,668
Diluted earnings per share 1.15 1.10
Return on average assets 1.03% 1.10%
Return on average equity 14.58 14.92
Average diluted common
shares outstanding 4,943 5,146
.....NET INTEREST INCOME AND MARGIN.....The Company's net
interest income represents the amount by which interest
income on earning assets exceeds interest paid on interest
bearing liabilities. Net interest income is a primary
source of the Company's earnings; it is affected by
interest rate fluctuations as well as changes in the amount
and mix of earning assets and interest bearing liabilities.
It is the Company's philosophy to strive to optimize net
interest margin performance in varying interest rate
environments. The following table compares the Company's
net interest income performance for the first quarter of
1998 to the first quarter of 1997 (in thousands, except
percentages):
Three Months Ended
March 31
1998 1997 $ Change % Change
Interest income $ 39,692 $ 37,438 2,254 6.0
Interest expense 22,831 20,933 1,898 9.1
Net interest income 16,861 16,505 356 2.2
Tax-equivalent
adjustment 720 748 (28) (3.7)
Net tax-equivalent
interest income $ 17,581 $ 17,253 328 1.9
Net interest margin 3.28% 3.48% (0.20)% N/M
N/M - Not meaningful.
USBANCORP's net interest income on a tax-equivalent
basis increased by $328,000 or 1.9% due to growth in
earning assets. Total average earning assets were $153
million higher in the first quarter of 1998 as total loans
grew by $57 million or 6.1% while investment securities
increased by $98 million or 9.7%. The income benefit from
this growth in earning assets more than offset the negative
impact of a 20 basis point decline in the net interest
margin to 3.28%. The drop in the net interest margin
reflects a 14 basis point decline in the earning asset
yield due primarily to accelerated prepayments in both the
securities and loan portfolios resulting from the flat
treasury yield curve and the reinvestment of these cash
flows in lower yielding assets. The cost of funds
increased by six basis points as the growth in the earning
asset base was funded primarily with borrowings from the
Federal Home Loan Bank. The overall growth in the earning
asset base was one important strategy used by the Company
to leverage its capital. The maximum amount of leveraging
the Company can perform is controlled by internal policy
requirements to maintain a minimum asset leverage ratio of
no less than 6.0% (see further discussion under Capital
Resources) and to limit net interest income variability to
plus or minus 7.5% and net income variability to plus or
minus 15% over a twelve month period. (See further
discussion under Interest Rate Sensitivity).
22
...COMPONENT CHANGES IN NET INTEREST INCOME...Regarding the
separate components of net interest income, the Company's
total tax-equivalent interest income for the first quarter
of 1998 increased by $2.2 million or 5.8% when compared to
the same 1997 period. This increase was due primarily to
a $153 million or 7.8% increase in total average earning
assets which caused interest income to rise by $2.9
million. This positive factor was partially offset by a 14
basis point drop in the earning asset yield to 7.66% which
caused a $700,000 reduction in interest income. Within the
earning asset base, the yield on total investment
securities decreased by 18 basis points to 6.77% while the
yield on the total loan portfolio declined by seven basis
points to 8.61%. Accelerated prepayments of mortgage
related assets was the primary factor causing the
compression in the earning asset yield. These heightened
prepayments reflect increased customer refinancing activity
due to drops in intermediate- and long-term interest rates
on the treasury yield curve.
Nine consecutive quarters of loan growth fueled the
improvement in the loan-to-deposit ratio which contributed
to the earning asset growth. The Company s loan-to-deposit
ratio averaged 86.5% for the first quarter of 1998 compared
to an average of 82.6% for the first quarter of 1997. This
loan growth resulted from the Company s ability to take
market share from its competitors through strategies which
emphasize convenient customer service and hard work. Other
factors contributing to the loan growth were a stable
economic environment and the formation of two loan
production offices in the higher growth markets of
Westmoreland and Centre Counties.
The Company's total interest expense for the first
quarter of 1998 increased by $1.9 million or 9.1% when
compared to the same 1997 period. This higher interest
expense was due primarily to a $134 million increase in
average interest bearing liabilities which caused interest
expense to rise by $1.6 million. This growth in interest
bearing liabilities occurred predominantly in borrowings
from the FHLB which were used to fund the previously
mentioned earning asset growth. For the first quarter of
1998, the Company's total level of short-term borrowed
funds and FHLB advances averaged $900 million or 40.0% of
total assets compared to an average of $764 million or
36.4% of total assets for the first quarter of 1997. These
borrowed funds had an average cost of 5.62% in the first
quarter of 1998 which was 151 basis points greater than the
average cost of deposits which amounted to 4.11%. This
greater dependence on borrowings to fund the earning asset
base was a key factor responsible for the six basis point
increase in the total cost of interest bearing liabilities
from 4.77% in the first quarter of 1997 to 4.83% in the
first quarter of 1998. This increase in the total cost of
funds occurred despite a six basis drop in the cost of
deposits to 4.11%.
23
It is recognized that interest rate risk does exist
from this use of borrowed funds to leverage the balance
sheet. To neutralize a portion of this risk, the Company
has executed a total of $165 million of off-balance sheet
hedging transactions which help fix the variable funding
costs associated with the use of short-term borrowings to
fund earning assets. (See further discussion under Note
#12.) The Company also has asset liability policy
parameters which limit the maximum amount of borrowings to
40% of total assets. With accelerated prepayments expected
to continue in 1998, the Company expects to channel cash
flow from the investment securities portfolio into the loan
portfolio. If new loan opportunities do not occur or if
the incremental spread on new investment security purchases
is not at least 100 basis points greater than the short-
term borrowed funds costs, then the Company will de-lever
the balance sheet by paying-off borrowings.
The table that follows provides an analysis of net
interest income on a tax-equivalent basis setting forth (i)
average assets, liabilities, and stockholders' equity, (ii)
interest income earned on interest earning assets and
interest expense paid on interest bearing liabilities,
(iii) average yields earned on interest earning assets and
average rates paid on interest bearing liabilities, (iv)
USBANCORP's interest rate spread (the difference between
the average yield earned on interest earning assets and the
average rate paid on interest bearing liabilities), and (v)
USBANCORP's net interest margin (net interest income as a
percentage of average total interest earning assets). For
purposes of this table, loan balances include non-accrual
loans and interest income on loans includes loan fees or
amortization of such fees which have been deferred, as well
as, interest recorded on non-accrual loans as cash is
received. Additionally, a tax rate of approximately 34% is
used to compute tax equivalent yields.
24
Three Months Ended March 31 (In thousands, except percentages)
1998 1997
Interest Interest
Average Income/ Yield/ Average Income/ Yield/
Balance Expense Rate Balance Expense Rate
Interest earning assets:
Loans and loans held
for sale, net of
unearned income $ 994,892 $ 21,486 8.61% $ 937,813 $ 20,434 8.68%
Deposits with banks 2,144 16 2.94 3,249 28 3.51
Federal funds sold
and securities
purchased under
agreement to resell - - - 39 - 4.81
Investment securities:
Available for sale 594,426 9,709 6.53 441,251 7,959 7.21
Held to maturity 518,835 9,126 7.04 573,682 9,668 6.74
Total investment
securities 1,113,261 18,835 6.77 1,014,933 17,627 6.95
Assets held in trust for
collateralized
mortgage obligation 4,159 75 7.30 5,182 97 7.61
Total interest earning
assets/interest income 2,114,456 40,412 7.66 1,961,216 38,186 7.80
Non-interest earning assets:
Cash and due from banks 32,076 33,759
Premises and equipment 17,798 18,086
Other assets 99,079 99,287
Allowance for loan losses (12,067) (13,311)
TOTAL ASSETS $2,251,342 $2,099,037
CONTINUED ON NEXT PAGE
25
THREE MONTHS ENDED MARCH 31
CONTINUED FROM PREVIOUS PAGE
1998 1997
Interest Interest
Average Income/ Yield/ Average Income/ Yield/
Balance Expense Rate Balance Expense Rate
Interest bearing liabilities:
Interest bearing deposits:
Interest bearing demand $ 89,821 $ 219 0.99% $ 89,787 $ 219 0.99%
Savings 174,406 654 1.52 193,004 804 1.69
Money markets 162,441 1,527 3.81 152,882 1,367 3.63
Other time 578,655 7,797 5.46 569,773 7,936 5.65
Total interest bearing
deposits 1,005,323 10,197 4.11 1,005,446 10,326 4.17
Short term borrowings:
Federal funds purchased,
securities sold under
agreements to repurchase
and other short-term
borrowings 182,822 2,387 5.24 172,981 2,295 5.31
Advances from Federal
Home Loan Bank 717,355 10,125 5.72 590,747 8,193 5.63
Collateralized mortgage
obligation 3,685 92 10.15 4,599 88 7.74
Long-term debt 4,118 30 2.95 5,269 31 2.40
Total interest bearing
liabilities/interest
expense 1,913,303 22,831 4.83 1,779,042 20,933 4.77
Non-interest bearing liabilities:
Demand deposits 151,671 138,627
Other liabilities 27,939 27,290
Stockholders' equity 158,429 154,078
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY $2,251,342 $2,099,037
Interest rate spread 2.82 3.04
Net interest income/
net interest margin 17,581 3.28% 17,253 3.48%
Tax-equivalent adjustment (720) (748)
Net Interest Income $16,861 $16,505
....PROVISION FOR LOAN LOSSES.....The Company's provision
for loan losses for the first quarter of 1998 totalled
$150,000 or 0.06% of average total loans which represented
a $127,000 increase from the provision level experienced in
the 1997 first quarter. The Company s net charge-offs
amounted to $383,000 or 0.16% of average loans in the first
quarter of 1998 compared to net charge-offs of $146,000 or
0.06% of average loans in the 1997 first quarter. The
higher provision in 1998 was due to the increased net-
charge offs and continued growth of commercial and
commercial real-estate loans. The Company applies a
consistent methodology and procedural discipline to
evaluate the adequacy of the allowance for loan losses at
each subsidiary bank on a quarterly basis.
26
At March 31, 1998, the allowance for loan losses at each of the
Company's banking subsidiaries was in compliance with the
Company's policy of maintaining a general unallocated
reserve of at least 20% of the systematically determined
minimum reserve need. In total, the Company's general
unallocated reserve was $5.7 million at March 31, 1998, or
48.2% of the allowance for loan losses.
.....NON-INTEREST INCOME.....Non-interest income for the
first quarter of 1998 totalled $5.4 million which
represented a $745,000 or 16.1% increase when compared to
the same 1997 quarter. This increase was primarily due
to the following items:
a $109,000 or 10.9% increase in trust fees to $1.1
million in the first quarter of 1998. This trust fee
growth reflects increased assets under management due
to the profitable expansion of the Trust Company's
business.
a $449,000 increase in gains realized on loans held
for sale due to heightened residential mortgage
refinancing and origination activity at the Company's
mortgage banking subsidiary. Total mortgage loans
closed amounted to $111 million in the first quarter
of 1998 compared to $48 million in the same 1997
period. It is the Company s ongoing strategy to sell
newly originated 30 year fixed-rate residential
mortgage loans excluding those loans retained for CRA
purposes.
a $425,000 or 35.7% increase in other income due in
part to additional income resulting from ATM
surcharging, other mortgage banking processing fees,
credit card charges, and revenue generated from
annuity and mutual fund sales in the Company s
financial service subsidiaries.
a $258,000 or 45.1% decrease in net mortgage servicing
fee income due to greater amortization expense on
mortgage servicing rights as a result of faster
mortgage prepayment speeds in 1998. Given the
flatness of the treasury yield curve and heightened
mortgage refinancing activity, the Company expects
this trend to continue throughout 1998.
Non-interest income as a percentage of total revenue
increased from 21.5% in the first quarter of 1997 to 23.4%
in the first quarter of 1998.
.....NON-INTEREST EXPENSE.....Non-interest expense for the
first quarter of 1998 totalled $14.3 million which
represented a $1 million or 7.9% increase when compared to
the same 1997 period. This increase was primarily due to
the following items:
a $561,000 or 8.1% increase in salaries and employee
benefits due to merit pay increases, seven additional
full-time equivalent employees ("FTE"), higher profit
sharing expense, and increased medical insurance
premiums.
a $125,000 increase in FDIC deposit insurance expense
due primarily to the non-recurrence of a $105,000
refund received in 1997.
27
a $383,000 increase in other expense due to higher
employee training costs, advertising expense, outside
processing fees, and costs associated with Year 2000
compliance.
The Company s plans to achieve Year 2000 compliance
were discussed in detail in the 1997 Annual Report and
Form 10-K . The Company remains on target to achieving
compliance within the time frames and costs previously
disclosed. These expenditures are not expected to have a
material impact on the Company s results of operation,
liquidity, or capital resources.
The Company is in the early stages of evaluating the
potential impact that Year 2000 may have on its major loan
customers. The failure of a loan customer to prepare
adequately for Year 2000 could have an adverse effect on
such customer s operations and profitability, in turn
limiting their ability to repay loans in accordance with
scheduled terms.
.....INCOME TAX EXPENSE.....The Company's provision for
income taxes for the first quarter of 1998 was $2.1 million
reflecting an effective tax rate of 27.2%. The Company's
1997 first quarter income tax provision was $2.2 million or
an effective tax rate of 28.2%. The lower effective tax
rate in 1998 was due primarily to increased total tax-free
asset holdings in the first quarter of 1998. The tax-free
asset holdings consist primarily of municipal investment
securities, bank owned life insurance, and commercial
loan tax anticipation notes. Net deferred income taxes of
$3.8 million have been provided as of March 31, 1998, on
the differences between taxable income for financial and
tax reporting purposes.
.....NET OVERHEAD BURDEN.....The Company's efficiency ratio
(non-interest expense divided by total revenue) increased
to 62.1% in the first quarter of 1998 compared to 60.4% for
the first quarter of 1997. Factors contributing to the
higher efficiency ratio in 1998 include the compression
experienced in the net interest margin and the costs
associated with several strategic initiatives which began
in 1997 and are designed to diversify the Company s revenue
stream in future years. These new strategic initiatives
include the opening of financial services subsidiaries
which sell annuities, mutual funds, and insurance, the
establishment of the first full service mobile bank branch
in Western Pennsylvania, and the opening of two loan
production offices. The Company believes it can reduce the
efficiency ratio to below 60% once these initiatives turn
profitable. Employee productivity ratios were relatively
constant as net income per employee averaged $7,500 for
both the first quarter of 1997 and 1998. Total assets per
employee improved modestly from $2.8 million for the first
quarter of 1997 to $3 million for the first quarter of
1998.
.....BALANCE SHEET.....The Company's total consolidated
assets were $2.208 billion at March 31, 1998, compared with
$2.239 billion at December 31, 1997, which represents a
decrease of $31 million or 1.4% due to some modest
deleveraging of the balance sheet.
28
During the first quarter of 1998, total loans and loans held for sale
increased by approximately $28.4 million or 2.9% due to
growth in commercial mortgage loans as a result of the
successful execution of strategies to increase both middle
market and small business lending. Heightened refinancing
activity also contributed to $15 million of growth in
residential mortgage and home equity loans. Consumer loans
continued to decline due to net run-off experienced in the
indirect auto loan portfolio as the Company has exited this
low margin line of business. Total investment securities
decreased by $61 million as the Company has used cash flow
from mortgage-backed securities to pay down borrowings
given the current flatness of the treasury yield curve.
Total deposits increased by $28.3 million or 2.5% since
December 31, 1997, due to growth in commercial non-interest
bearing demand deposits and money market accounts. The
Company's total borrowed funds position decreased by $58.3
million due to the paydown of FHLB advances with cash flow
from the investment securities portfolio.
.....LOAN QUALITY.....USBANCORP's written lending policies
require underwriting, credit analysis, and loan
documentation standards be met prior to funding any loan.
After the loan has been approved and funded, continued
periodic credit review is required. Credit reviews are
mandatory for all commercial loans and for all commercial
mortgages in excess of $250,000 within an 18 month period.
In addition, due to the secured nature of residential
mortgages and the smaller balances of individual
installment loans, sampling techniques are used on a
continuing basis for credit reviews in these loan areas.
The following table sets forth information concerning
USBANCORP's loan delinquency and other non-performing
assets (in thousands, except percentages):
March 31 December 31 March 31
1998 1997 1997
Total loan delinquency
(past due 30 to 89 days) $15,266 $19,890 $17,194
Total non-accrual loans 5,521 6,450 6,846
Total non-performing assets* 6,858 8,858 10,410
Loan delinquency, as a percentage
of total loans and loans held
for sale, net of unearned income 1.50% 2.01% 1.81%
Non-accrual loans, as a percentage
of total loans and loans held
for sale, net of unearned income 0.54 0.65 0.72
Non-performing assets, as a
percentage of total loans and
loans held for sale, net of
unearned income, and other
real estate owned 0.67 0.89 1.10
* Non-performing assets are comprised of (i) loans
that are on a non-accrual basis, (ii) loans that are
contractually past due 90 days or more as to interest and
principal payments some of which are insured for credit
loss, and (iii) other real estate owned. All loans, except
for loans that are insured for credit loss, are placed on
non-accrual status upon becoming 90 days past due in either
principal or interest.
29
Between December 31, 1997, and March 31, 1998, each of
the key asset quality indicators demonstrated improvement.
Total loan delinquency declined by $4.6 million causing the
delinquency ratio to drop to 1.5%. Total non-performing
assets decreased by $2.0 million since year-end 1997
causing the non-performing assets to total loans ratio to
drop to 0.67%. The overall improvement in asset quality
resulted from enhanced collection efforts on residential
mortgage loans.
.....ALLOWANCE FOR LOAN LOSSES.....The following table sets
forth changes in the allowance for loan losses and certain
ratios for the periods ended (in thousands, except
percentages):
March 31 December 31 March 31
1998 1997 1997
Allowance for loan losses $ 11,880 $ 12,113 $ 13,206
Amount in the allowance
for loan losses
allocated to "general risk" 5,723 5,980 6,398
Allowance for loan losses as
a percentage of each of
the following:
total loans and loans
held for sale,
net of unearned income 1.17% 1.22% 1.39%
total delinquent loans
(past due 30 to 89 days) 77.82 60.90 76.81
total non-accrual loans 215.18 187.80 192.90
total non-performing assets 173.23 136.75 126.86
Since December 31, 1997, the balance in the allowance
for loan losses has declined by $233,000 to $11.9 million
due to net charge-offs exceeding the loan loss provision.
The Company's allowance for loan losses at March 31, 1998,
was 173% of non-performing assets and 215% of non-accrual
loans. Both of these coverage ratios improved since year-
end 1997 due to the Company's lower level of non-performing
assets. It is important to note that approximately $4.3
million or 63% of the Company s non-performing assets are
residential mortgages which exhibit a historically low
level of net charge-off.
Presented on this page was a graphic representation of Non-
Performing Assets for the previous seven quarters. The data
points were $6,858, $8,858, $8,871, $8,457, $10,410, $8,671,
and $7,495, respectively.
30
.....INTEREST RATE SENSITIVITY.....Asset/liability
management involves managing the risks associated with
changing interest rates and the resulting impact on the
Company's net interest income, net income and capital. The
management and measurement of interest rate risk at
USBANCORP is performed by using the following tools: 1)
simulation modeling which analyzes the impact of interest
rate changes on net interest income, net income and capital
levels over specific future time periods. The simulation
modeling forecasts earnings under a variety of scenarios
that incorporate changes in the absolute level of interest
rates, the shape of the yield curve, prepayments and
changes in the volumes and rates of various loan and
deposit categories. The simulation modeling also
incorporates all off balance sheet hedging activity as well
as assumptions about reinvestment and the repricing
characteristics of certain assets and liabilities without
stated contractual maturities; 2)static "GAP" analysis
which analyzes the extent to which interest rate sensitive
assets and interest rate sensitive liabilities are matched
at specific points in time. For static GAP analysis,
USBANCORP typically defines interest rate sensitive assets
and liabilities as those that reprice within six months or
one year; and 3)duration and market value sensitivity
measures are also utilized when they can provide added
value to the overall interest rate risk management process.
The overall interest rate risk position and strategies are
reviewed by senior management and Company's Board of
Directors on an ongoing basis.
The following table presents a summary of the
Company's static GAP positions (in thousands, except for
the GAP ratios):
March 31 December 31 March 31
1998 1997 1997
Six month cumulative GAP
RSA........................ $ 711,033 $ 691,980 $ 576,926
RSL........................ (973,519) (1,026,207) (748,929)
Off-balance sheet hedges... 165,000 165,000 40,000
GAP........................ $ (97,486) $ (169,227) $(132,003)
GAP ratio.................. 0.88X 0.80X 0.81X
GAP as a % of total assets. (4.42)% (7.56)% (6.22)%
GAP as a % of total capital.... (62.60) (106.98) (87.62)
One year cumulative GAP
RSA........................ $ 1,078,735 $ 960,405 $ 801,118
RSL........................ (1,251,179) (1,258,618) (1,182,337)
Off-balance sheet hedges... 125,000 165,000 40,000
GAP........................ $ (47,444) $ (133,213) $ (341,219)
GAP ratio.................. 0.96X 0.88X 0.70X
GAP as a % of total assets. (2.15)% (5.95)% (16.09)%
GAP as a % of total capital. (30.46) (84.22) (226.50)
31
When March 31, 1998, is compared to December 31, 1997,
both the Company's six month and one year cumulative GAP
ratios became less negative due to a combination of
increased asset sensitivity and a reduced level of short-
term borrowed funds. As separately disclosed in the above
table, the hedge transactions (described in detail in Note
#12) reduced the negativity of the six month GAP by $165
million and the one year GAP by $125 million.
There are some inherent limitations in using static GAP
analysis to measure and manage interest rate risk. For
instance, certain assets and liabilities may have similar
maturities or periods to repricing but the magnitude or
degree of the repricing may vary significantly with changes
in market interest rates. As a result of these GAP
limitations, management places primary emphasis on
simulation modeling to manage and measure interest rate
risk. The Company's asset liability management policy
seeks to limit net interest income variability over the
first twelve months of the forecast period to plus or minus
7.5% and net income variability to plus or minus 15.0%
based upon varied economic rate forecasts which include
interest rate movements of up to 200 basis points and
alterations of the shape of the yield curve. Additionally,
the Company recently began using market value sensitivity
measures to further evaluate the balance sheet exposure to
changes in interest rates. Market value of portfolio
equity sensitivity analysis captures the dynamic aspects of
long-term interest rate risk across all time periods by
incorporating the net present value of expected cash flows
from the Company s assets and liabilities. No formal ALCO
policy parameters have yet been established for changes in
the variability of market value of portfolio equity.
The following table presents an analysis of the
sensitivity inherent in the Company s net interest income,
net income and market value of portfolio equity. The
interest rate scenarios in the table compare the Company s
base forecast or most likely rate scenario at March 31,
1998, to scenarios which reflect ramped increases and
decreases in interest rates of 200 basis points along with
performance in a stagnant rate scenario with interest rates
held flat at the March 31, 1998, levels. The Company s
most likely rate scenario is based upon published economic
consensus estimates. Each rate scenario contains unique
prepayment and repricing assumptions which are applied to
the Company s expected balance sheet composition which was
developed under the most likely interest rate scenario.
Variability of Change In
Interest Rate Net Interest Variability of Market Value of
Scenario Income Net Income Portfolio Equity
Base 0% 0% 0%
Flat (0.29) (0.62) (1.69)
200bp increase (4.56) (9.18) (20.72)
200bp decrease 2.00 (3.18) 9.20
32
As indicated in the table, the maximum negative
variability of USBANCORP's net interest income and net
income over the next twelve month period was (4.6%) and
(9.2%) respectively, under an upward rate shock forecast
reflecting a 200 basis point increase in interest rates.
The noted variability under this forecast was within the
Company s ALCO policy limits. The variability of market
value of portfolio equity was (20.7%) under this interest
rate scenario. The off-balance sheet borrowed funds hedge
transactions also helped reduce the variability of
forecasted net interest income, net income, and market
value of portfolio equity in a rising interest rate
environment.
.....LIQUIDITY.....Liquidity can be analyzed by utilizing
the Consolidated Statement of Cash Flows. Cash equivalents
increased by $1.7 million from December 31, 1997, to March
31, 1998, due primarily to $47.3 million of net cash
provided by investing activities. This more than offset
$8.6 million of net cash used by operating activities and
$37.1 million of net cash used by financing activities.
Within investing activities, the cash proceeds from
investment security maturities and sales exceeded purchases
of investment securities by $62.7 million. Cash advanced
for new loan fundings totalled $103.3 million and was
approximately $14.3 million greater than the cash received
from loan principal payments and sales. Within financing
activities, cash generated from the sale of new
certificates of deposit exceeded cash payments for maturing
certificates of deposit by $11.4 million. The net paydown
of advances from the Federal Home Loan Bank used $61.8
million of cash.
.....CAPITAL RESOURCES.....As presented in Note #15, each
of the Company s regulatory capital ratios decreased
between December 31, 1997, and March 31, 1998, due to a
reduction in equity which was caused by the Company s
treasury stock repurchase program. The Company targets an
operating range of 6.0% to 6.50% for the asset leverage
ratio because management and the Board of Directors
believes that this level provides an optimal balance
between regulatory capital requirements and shareholder
value needs. Strategies the Company uses to manage its
capital ratios include common dividend payments, treasury
stock repurchases, and earning asset growth. At March 31,
1998, the asset leverage ratio of 5.94% was slightly below
the targeted minimum operating level. The Company expects
the asset leverage ratio to increase to approximately 7.25%
by June 30, 1998, due to $34.5 million of capital that will
be provided from a recently completed offering of 8.45%
Trust Preferred Securities. Through the remainder of 1998,
the Company expects to leverage its capital more through
treasury stock repurchases and common dividend payments as
the expectations for a relatively flat treasury yield curve
will limit opportunities for additional earning asset
growth through the investment securities portfolio.
The Company repurchased 113,000 shares or $8.0 million
of its common stock during the first quarter of 1998.
Through March 31, 1998, the Company has repurchased a total
of 980,000 shares of its common stock at a total cost of
$39.1 million or $39.94 per share. The Company plans to
continue its treasury stock repurchase program which
currently permits a maximum total repurchase authorization
of $45 million. The maximum price per share at which the
Company can repurchase stock is 250% of book value.
33
The Company exceeds all regulatory capital ratios for
each of the periods presented. Furthermore, each of the
Company's subsidiary banks are considered "well
capitalized" under all applicable FDIC regulations. It is
the Company's ongoing intent to continue to prudently
leverage the capital base in an effort to increase return
on equity performance while maintaining necessary capital
requirements. It is, however, the Company's intent to
maintain the FDIC "well capitalized" classification for
each of its subsidiaries to ensure the lowest deposit
insurance premium.
The Company's declared Common Stock cash dividend per
share was $0.35 for the first quarter of 1998 which was a
16.7% increase over the $0.30 per share dividend for the
same 1997 interim period. Additionally, the Board of
Directors recently increased the quarterly cash dividend
20.0% from $0.35 to $0.42 commencing with the next
scheduled dividend declaration on May 22, 1998. This is
the tenth dividend increase since 1990, raising the annual
payout per common share to $1.68 or an approximate yield of
2.1%. This Board action further demonstrates the Company's
commitment to a progressive total shareholder return which
includes maintaining a competitive common dividend yield.
.....FORWARD LOOKING STATEMENT.....This report contains
various forward-looking statements and includes assumptions
concerning the Company's operations, future results, and
prospects. These forward-looking statements are based upon
current expectations and are subject to risk and
uncertainties. In connection with the "safe harbor"
provisions of the Private Securities Litigation Reform Act
of 1995, the Company provides the following cautionary
statement identifying important factors which could cause
the actual results or events to differ materially from
those set forth in or implied by the forward-looking
statements and related assumptions.
Such factors include the following: (i) the effect of
changing regional and national economic conditions; (ii)
significant changes in interest rates and prepayment
speeds; (iii) credit risks of commercial, real estate,
consumer, and other lending activities; (iv) changes in
federal and state banking regulations; (v) the presence in
the Company's market area of competitors with greater
financial resources than the Company and; (vi) other
external developments which could materially impact the
Company's operational and financial performance.
34
Presented on this page was the Service Area Map reflecting the
six county area serviced by the Company.
35
Part II Other Information
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
3.1 Articles of Incorporation, as
amended (Incorporated by reference
to Exhibit III to Registration
Statement No. 2-79639 on Form S-
14, Exhibits 4.2 and 4.3 to
Registration Statement No. 33-685
on Form S-2, Exhibit 4.1 to
Registration Statement No. 33-
56604 on Form S-3, and Exhibit 3.1
to the Registrant's Annual Report
on Form 10-K for the year ended
December 31, 1994).
3.2 Bylaws, as amended and restated
(Incorporated by reference to
Exhibit 3.2 to the Registrant's
Annual Report on Form 10-K for the
year ended December 31, 1994).
15.1 Letter re: unaudited interim
financial information
27.1 Financial Data Schedule
(b) Reports on Form 8-K:
USBANCORP, Inc. announced that its Three Rivers
Bank subsidiary reached an agreement to purchase
two branches of National City Bank of
Pennsylvania on February 25, 1998.
Pursuant to the requirements of the Securities
Exchange Act of 1934, the registrant duly caused this
report to be signed on its behalf by the undersigned
thereunto duly authorized.
USBANCORP, Inc.
Registrant
Date: May 14, 1998 /s/Terry K. Dunkle
Terry K. Dunkle
Chairman, President and
Chief Executive Officer
Date: May 14, 1998 /s/Jeffrey A. Stopko
Jeffrey A. Stopko
Senior Vice President and
Chief Financial Officer
36
STATEMENT OF MANAGEMENT RESPONSIBILITY
April 16, 1998
To the Stockholders and
Board of Directors of
USBANCORP, Inc.
Management of USBANCORP, Inc. and its subsidiaries have
prepared the consolidated financial statements and other
information in the Form 10-Q in accordance with
generally accepted accounting principles and are
responsible for its accuracy.
In meeting its responsibilities, management relies on
internal accounting and related control systems, which
include selection and training of qualified personnel,
establishment and communication of accounting and
administrative policies and procedures, appropriate
segregation of responsibilities, and programs of
internal audit. These systems are designed to provide
reasonable assurance that financial records are reliable
for preparing financial statements and maintaining
accountability for assets, and that assets are
safeguarded against unauthorized use or disposition.
Such assurance cannot be absolute because of inherent
limitations in any internal control system.
Management also recognizes its responsibility to foster
a climate in which Company affairs are conducted with
the highest ethical standards. The Company's Code of
Conduct, furnished to each employee and director,
addresses the importance of open internal
communications, potential conflicts of interest,
compliance with applicable laws, including those related
to financial disclosure, the confidentiality of
propriety information, and other items. There is an
ongoing program to assess compliance with these
policies.
The Audit Committee of the Company's Board of Directors
consists solely of outside directors. The Audit
Committee meets periodically with management and the
independent accountants to discuss audit, financial
reporting, and related matters. Arthur Andersen LLP and
the Company's internal auditors have direct access to
the Audit Committee.
/s/Terry K. Dunkle /s/Jeffrey A. Stopko
Terry K. Dunkle Jeffrey A. Stopko
Chairman, President & Senior Vice President &
Chief Executive Officer Chief Financial Officer
37
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Stockholders and
Board of Directors of
USBANCORP, Inc. :
We have reviewed the accompanying consolidated balance
sheets of USBANCORP, Inc. (a Pennsylvania corporation)
and subsidiaries as of March 31, 1998 and 1997, and
the related consolidated statements of income, changes
in stockholders equity and cash flows for the three-
month periods then ended. These financial statements
are the responsibility of the Company's management.
We conducted our review in accordance with standards
established by the American Institute of Certified
Public Accountants. A review of interim financial
information consists principally of applying
analytical procedures to financial data and making
inquiries of persons responsible for financial and
accounting matters. It is substantially less in
scope than an audit conducted in accordance with
generally accepted auditing standards, the objective
of which is the expression of an opinion regarding the
financial statements taken as a whole. Accordingly,
we do not express such an opinion.
Based on our review, we are not aware of any material
modifications that should be made to the financial
statements referred to above for them to be in
conformity with generally accepted accounting
principles.
We have previously audited, in accordance with
generally accepted auditing standards, the
consolidated balance sheet of USBANCORP, Inc. as of
December 31, 1997, and, in our report dated January
23, 1998, except for the matter discussed in Note 23,
as to which the date is January 30, 1998, we expressed
an unqualified opinion on that statement. In our
opinion, the information set forth in the accompanying
consolidated balance sheet as of December 31, 1997, is
fairly stated, in all material respects, in relation
to the balance sheet from which it has been derived.
/s/Arthur Andersen LLP
ARTHUR ANDERSEN LLP
Pittsburgh, Pennsylvania,
April 16, 1998
38
April 16, 1998
To the Stockholders and Board of Directors of
USBANCORP, INC.:
We are aware that USBANCORP, Inc. has incorporated by
reference in its Registration Statements on Form S-3
(Registration No. 33-56604); Form S-8 (Registration
No. 33-53935); Form S-8 (Registration No. 33-55845);
Form S-8 (Registration No. 33-55207); and Form S-8
(Registration No. 33-55211) its Form 10-Q for the
quarter ended March 31, 1998, which includes our
report dated April 16, 1998, covering the unaudited
interim financial statement information contained
therein. Pursuant to Regulation C of the Securities
Act of 1933 (the Act), that report is not considered a
part of the registration statements prepared or
certified by our firm or a report prepared or
certified by our firm within the meaning of Sections 7
and 11 of the Act.
Very truly yours,
/s/Arthur Andersen LLP
ARTHUR ANDERSEN LLP
39