SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 of the
Securities Exchange Act of 1934
For the fiscal year ended December 31, 2002
Commission file number 0-11487
LAKELAND FINANCIAL CORPORATION
Indiana 35-1559596
(State of incorporation) (I.R.S. Employer Identification No.)
202 East Center Street, P.O. Box 1387, Warsaw, Indiana 46581-1387
(Address of principal executive offices)
Telephone (574) 267-6144
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to
Section 12(g) of the Act:
Common Stock, no par value
(Title of class)
Preferred Securities of Lakeland Capital Trust
(Title of class)
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 twelve
months (or for such other period that the Registrant was required to file such
reports), and (2) has been subject to such filing requirements for the past 90
days. Yes X No __
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of regulation S-K is not contained herein and will not be contained, to the
best of the registrant's knowledge, in definitive Proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K.[ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act). Yes X No___
The aggregate market value of the voting and non-voting common equity held by
non-affiliates of the registrant, based on the last sales price quoted on the
Nasdaq Stock Market on June 28, 2002, the last business day of the
registrant's most recently completed second fiscal quarter, was approximately
$152,816,786.
Number of shares of common stock outstanding at February 19, 2003: 5,770,565
DOCUMENTS INCORPORATED BY REFERENCE
Part III - Portions of the Proxy Statement for the Annual Meeting of
Shareholders mailed on March 7, 2003 are incorporated by reference into Part
III hereof.
LAKELAND FINANCIAL CORPORATION
Annual Report on Form 10-K
Table of Contents
Page Number
PART I
Item 1. Business 3
Forward -Looking Statements 4
Supervision and Regulation 7
Industry Segments 12
Guide 3 Information 13
Item 2. Properties 30
Item 3. Legal Proceedings 31
Item 4. Submission of Matters to a Vote of Security Holders 31
PART II
Item 5. Market for Registrant's Common Equity and Related Shareholder Matters 31
Item 6. Selected Financial Data 32
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations 33
Overview 33
Results of Operations 33
Financial Condition 36
Liquidity 38
Inflation 40
Item 7a. Quantitative and Qualitative Disclosures About Market Risk 40
Item 8. Financial Statements and Supplemental Data 43
Financial Statements 43
Notes to Financial Statements 47
Report of Independent Auditors 71
Management's Responsibility for Financial Statements 72
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure 73
PART III
Item 10. Directors and Executive Officers of the Registrant 73
Item 11. Executive Compensation 73
Item 12. Security Ownership of Certain Beneficial Owners and Management 73
Item 13. Certain Relationships and Related Transactions 74
Item 14. Controls and Procedures 74
PART IV
Item 15. Exhibits, Financial Statement Schedules and Reports on Form 8-K 75
Form 10-K Signature Page 76
Form 10-K Certifications 78
Exhibit 21 80
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PART I
ITEM 1. BUSINESS
The Company was incorporated under the laws of the State of Indiana
on February 8, 1983. As used herein, the term "Company" refers to Lakeland
Financial Corporation, or if the context dictates, Lakeland Financial
Corporation and its wholly-owned subsidiaries, Lake City Bank, an Indiana
state bank headquartered in Warsaw, Indiana, and Lakeland Capital Trust. Also
included in the consolidated financial statements is LCB Investments Limited,
a wholly-owned subsidiary of Lake City Bank which is a Bermuda corporation
that manages a portion of the Bank's investment portfolio. All intercompany
transactions and balances are eliminated in consolidation.
General
Company's Business. The Company is a bank holding company as defined
in the Bank Holding Company Act of 1956, as amended. The Company owns all of
the outstanding stock of Lake City Bank, Warsaw, Indiana, a full service
commercial bank organized under Indiana law (the "Bank"), and Lakeland Capital
Trust, a statutory business trust formed under Delaware law ("Lakeland
Trust"). In trust, the Bank recognizes a wholly-owned subsidiary, LCB
Investments Limited, which manages a portion of the Bank's investment
portfolio. The Company conducts no business except that incident to its
ownership of the outstanding stock of the Bank and the operation of the Bank.
The Bank's deposits are insured by the Federal Deposit Insurance
Corporation. The Bank's activities cover all phases of commercial banking,
including checking accounts, savings accounts, time deposits, the sale of
securities under agreements to repurchase, commercial and agricultural
lending, direct and indirect consumer lending, real estate mortgage lending,
safe deposit box service and trust and brokerage services.
The Bank's main banking office is located at 202 East Center Street,
Warsaw, Indiana. As of December 31, 2002 the Bank had 41 offices in twelve
counties throughout northern Indiana.
Market Overview. While the Company operates in twelve counties, it
currently defines operations by three primary geographical markets. They are
the South Region, which includes Kosciusko and contiguous counties; the North
Region, which includes Elkhart and St. Joseph Counties; and the East Region,
which includes Allen and DeKalb Counties. The South Region includes the city
of Warsaw and is the location of the Company's headquarters. The Company has
had a presence in this region since 1873. It has been in the North Region
since 1990, which includes the cities of Elkhart, South Bend and Goshen. The
Company opened its first office in the East Region in 1999, which includes the
cities of Fort Wayne and Auburn.
The Company believes that these are well-established, diverse
economic regions. The Company's markets include a mix of industrial and
service companies with no business or industry concentrations. Furthermore, no
single industry or employer dominates any of the markets. Fort Wayne
represents the largest population center served by the Company with a
population of 206,000, according to 2000 U.S. Census Bureau data. South Bend,
with a 2000 population of 108,000 is the second largest city served by the
Company. Elkhart, with a 2000 population of 52,000, is the third largest city
that the Company currently serves. As a result of the presence of offices in
twelve counties that are widely dispersed, no single city or industry
represents an undue concentration.
Expansion Strategy. The Company's expansion strategy is driven
primarily by the potential for increased penetration in existing markets where
opportunities for market share growth exists. Additionally, the Company looks
to grow by entering new markets, in close geographic proximity to its current
operations that the Company believes would be receptive to its strategic plan
to deliver broad based financial services with a local flavor. The Company has
recently focused on growth through de novo branching in locations that
management believes have potential for creating new market opportunities or
for further penetrating existing markets. In new markets, the Company believes
it is critical to attract experienced local management with a similar
philosophy in order to provide a basis for success.
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The Company also considers opportunities beyond current markets when
the Company's board of directors and management believes that the opportunity
will provide a desirable strategic fit without posing undue risk. The Company
does not currently have any definitive understandings or agreements for any
acquisitions.
Products and Services. The Company is a full service commercial bank
and provides commercial, retail, trust and investment services to its
customers. Commercial products include commercial loans and technology-driven
solutions to commercial customers' cash management needs such as CommerciaLink
Internet business banking and on-line cash management services. Retail banking
clients are provided a wide array of traditional retail banking services,
including lending, deposit and investment services. Retail lending programs
are focused on mortgage loans, home equity lines of credit and traditional
retail installment loans. The Company also has an Honors Private Banking
program that is positioned to serve the more financially sophisticated
customer with a menu including brokerage and trust services, executive
mortgage programs and access to financial planning seminars and programs. The
Bank's Prospero Program is dedicated to serving the expanding financial needs
of the Latino community. The Company provides trust clients with traditional
personal and corporate trust services. The Company also provides retail
brokerage services, including an array of financial and investment products
such as annuities and life insurance.
Forward-looking Statements
This document (including information incorporated by reference)
contains, and future oral and written statements of the Company and its
management may contain, forward-looking statements, within the meaning of such
term in the Private Securities Litigation Reform Act of 1995, with respect to
the financial condition, results of operations, plans, objectives, future
performance and business of the Company. Forward-looking statements, which may
be based upon beliefs, expectations and assumptions of the Company's
management and on information currently available to management, are generally
identifiable by the use of words such as "believe," "expect," "anticipate,"
"plan," "intend," "estimate," "may," "will," "would," "could," "should" or
other similar expressions. Additionally, all statements in this document,
including forward-looking statements, speak only as of the date they are made,
and the Company undertakes no obligation to update any statement in light of
new information or future events.
The Company's ability to predict results or the actual effect of
future plans or strategies is inherently uncertain. Factors, which could have
a material adverse effect on the operations and future prospects of the
Company and its subsidiaries include, but are not limited to, the following:
o The strength of the United States economy in general and the
strength of the local economies in which the Company
conducts its operations which may be less favorable than
expected and may result in, among other things, a
deterioration in the credit quality and value of the
Company's assets.
o The economic impact of past and any future terrorist attacks,
acts of war or threats thereof and the response of the United
States to any such threats and attacks.
o The effects of, and changes in, federal, state and local
laws, regulations and policies affecting banking,
securities, insurance and monetary and financial matters.
o The effects of changes in interest rates (including the
effects of changes in the rate of prepayments of the
Company's assets) and the policies of the Board of Governors
of the Federal Reserve System.
o The ability of the Company to compete with other financial
institutions as effectively as the Company currently intends
due to increases in competitive pressures in the financial
services sector.
o The inability of the Company to obtain new customers and to
retain existing customers.
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o The timely development and acceptance of products and
services, including products and services offered through
alternative delivery channels such as the Internet.
o Technological changes implemented by the Company and by
other parties, including third party vendors, which may be
more difficult or more expensive than anticipated or which
may have unforeseen consequences to the Company and its
customers.
o The ability of the Company to develop and maintain secure and
reliable electronic systems.
o The ability of the Company to retain key executives and
employees and the difficulty that the Company may experience
in replacing key executives and employees in an effective
manner.
o Consumer spending and saving habits, which may change in a
manner that affects the Company's business adversely.
o Business combinations and the integration of acquired
businesses, which may be more difficult or expensive than
expected.
o The costs, effects and outcomes of existing or future
litigation.
o Changes in accounting policies and practices, as may be
adopted by state and federal regulatory agencies, the
Financial Accounting Standards Board, the Securities and
Exchange Commission and the Public Company Accounting
Oversight Board.
o The ability of the Company to manage the risks associated
with the foregoing as well as anticipated.
These risks and uncertainties should be considered in evaluating
forward-looking statements and undue reliance should not be placed on such
statements. Additional information concerning the Company and its business,
including other factors that could materially affect the Company's financial
results, is included in the Company's filings with the Securities and Exchange
Commission.
Business Developments
The Company conducts no business except that which is incident to its
ownership of the stock of the Bank, the collection of dividends from the Bank,
and the disbursement of dividends to shareholders.
Lakeland Trust, a statutory business trust, was formed under Delaware
law pursuant to a trust agreement dated July 24, 1997 and a certificate of
trust filed with the Delaware Secretary of State on July 24, 1997. Lakeland
Trust exists for the exclusive purposes of (i) issuing the trust securities
representing undivided beneficial interests in the assets of Lakeland Trust,
(ii) investing the gross proceeds of the trust securities in the subordinated
debentures issued by the Company, and (iii) engaging in only those activities
necessary, advisable, or incidental thereto. The subordinated debentures and
payments thereunder are the only assets of Lakeland Trust, and payments under
the subordinated debentures are the only revenue of Lakeland Trust. Lakeland
Trust has a term of 55 years, but may be terminated earlier as provided in the
trust agreement.
Competition
The Bank was originally organized in 1872 and has continuously
operated under the laws of the State of Indiana since its organization. The
Bank's activities cover all phases of commercial banking, including checking
accounts, savings accounts, time deposits, the sale of securities under
agreements to repurchase, commercial and agricultural lending, direct and
indirect consumer lending, real estate mortgage lending, safe deposit box
services and trust and brokerage services. The interest rates for both
deposits and loans, as well as the range of services provided, are nearly the
same for all banks competing within the Bank's service area.
5
The Bank competes for loans principally through a high degree of
customer contact, timely loan review and approval, market-driven competitive
loan pricing in certain situations and the Bank's reputation throughout the
region. The Bank believes that its convenience, quality service and hometown
approach to banking enhances its ability to compete favorably in attracting
and retaining individual and business customers. The Bank actively solicits
deposit-related customers and competes for customers by offering personal
attention, professional service and competitive interest rates.
The Bank's primary service area is northern Indiana. In addition to
the banks located within its service area, the Bank also competes with savings
and loan associations, credit unions, farm credit services, finance companies,
personal loan companies, insurance companies, money market funds, and other
non-depository financial intermediaries. Also, financial intermediaries such
as money market mutual funds and large retailers are not subject to the same
regulations and laws that govern the operation of traditional depository
institutions and accordingly may have an advantage in competing for funds.
The Bank competes with other major banks for large commercial deposit
and loan accounts. The Bank is presently subject to an aggregate maximum loan
limit to any single account pursuant to Indiana law. The Bank currently
enforces an internal limit of $10.0 million, which is less than the amount
permitted by law. This maximum limits the Bank from providing loans to those
businesses or personal accounts whose borrowings periodically exceed this
amount. In order to retain at least a portion of the banking business of these
large borrowers, the Bank maintains correspondent relationships with other
financial institutions. The Bank also participates with local and other banks
in the placement of large borrowings in excess of its lending limit. The Bank
is also a member of the Federal Home Loan Bank of Indianapolis in order to
broaden its mortgage lending and investment activities and to provide
additional funds, if necessary, to support these activities.
Foreign Operations
The Company has no investments with any foreign entity other than two
nominal demand deposit accounts. One is maintained with a Canadian bank in
order to facilitate the clearing of checks drawn on banks located in other
countries. The other is maintained with a bank in Bermuda for LCB Investments
Limited to be used for administrative expenses. There are no foreign loans.
Employees
At December 31, 2002, the Company, including its subsidiaries, had
427 full-time equivalent employees. Benefit programs include a pension plan,
401(k) plan, group medical insurance, group life insurance and paid vacations.
Effective April 1, 2000, the defined benefit pension plan was frozen and
employees can no longer accrue new benefits under that plan. The Bank is not a
party to any collective bargaining agreement, and employee relations are
considered good. The Company also has a stock option plan under which stock
options may be granted to employees and directors.
Internet Website
The Company maintains an Internet site at www.lakecitybank.com. The
Company makes available free of charge on this site its annual report on Form
10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and other
reports filed or furnished pursuant to Section 13(a) or 15(d) of the Exchange
Act as soon as reasonably practicable after it electronically files such
material with, or furnishes it to, the Securities and Exchange Commission.
6
SUPERVISION AND REGULATION
General
Financial institutions, their holding companies and their affiliates
are extensively regulated under federal and state law. As a result, the growth
and earnings performance of the Company may be affected not only by management
decisions and general economic conditions, but also by the requirements of
federal and state statutes and by the regulations and policies of various bank
regulatory authorities, including the Indiana Department of Financial
Institutions (the "DFI"), the Board of Governors of the Federal Reserve System
(the "Federal Reserve") and the Federal Deposit Insurance Corporation (the
"FDIC"). Furthermore, taxation laws administered by the Internal Revenue
Service and state taxing authorities and securities laws administered by the
Securities and Exchange Commission (the "SEC") and state securities
authorities have an impact on the business of the Company. The effect of these
statutes, regulations and regulatory policies may be significant, and cannot
be predicted with a high degree of certainty.
Federal and state laws and regulations generally applicable to
financial institutions regulate, among other things, the scope of business,
the kinds and amounts of investments, reserve requirements, capital levels
relative to operations, the nature and amount of collateral for loans, the
establishment of branches, mergers and consolidations and the payment of
dividends. This system of supervision and regulation establishes a
comprehensive framework for the respective operations of the Company and its
subsidiaries and is intended primarily for the protection of the FDIC insured
deposits and depositors of the Bank, rather than shareholders.
The following is a summary of the material elements of the regulatory
framework that applies to the Company and its subsidiaries. It does not
describe all of the statutes, regulations and regulatory policies that apply,
nor does it restate all of the requirements of those that are described. As
such, the following is qualified in its entirety by reference to applicable
law. Any change in statutes, regulations or regulatory policies may have a
material effect on the business of the Company and its subsidiaries.
The Company
General. The Company, as the sole shareholder of the Bank, is a bank
holding company. As a bank holding company, the Company is registered with,
and is subject to regulation by, the Federal Reserve under the Bank Holding
Company Act of 1956, as amended (the "BHCA"). In accordance with Federal
Reserve policy, the Company is expected to act as a source of financial
strength to the Bank and to commit resources to support the Bank in
circumstances where the Company might not otherwise do so. Under the BHCA, the
Company is subject to periodic examination by the Federal Reserve. The Company
is required to file with the Federal Reserve periodic reports of the Company's
operations and such additional information regarding the Company and its
subsidiaries as the Federal Reserve may require. The Company is also subject
to regulation by the DFI under Indiana law.
Acquisitions, Activities and Change in Control. The primary purpose
of a bank holding company is to control and manage banks. The BHCA generally
requires the prior approval of the Federal Reserve for any merger involving a
bank holding company or any acquisition by a bank holding company of another
bank or bank holding company. Subject to certain conditions (including deposit
concentration limits established by the BHCA), the Federal Reserve may allow a
bank holding company to acquire banks located in any state of the United
States. In approving interstate acquisitions, the Federal Reserve is required
to give effect to applicable state law limitations on the aggregate amount of
deposits that may be held by the acquiring bank holding company and its
insured depository institution affiliates in the state in which the target
bank is located (provided that those limits do not discriminate against
out-of-state depository institutions or their holding companies) and state
laws that require that the target bank have been in existence for a minimum
period of time (not to exceed five years) before being acquired by an
out-of-state bank holding company.
The BHCA generally prohibits the Company from acquiring direct or
indirect ownership or control of more than 5% of the voting shares of any
company that is not a bank and from engaging in any business other than that
of banking, managing and controlling banks or furnishing services to banks and
their subsidiaries. This general prohibition is subject to a number of
7
exceptions. The principal exception allows bank holding companies to engage
in, and to own shares of companies engaged in, certain businesses found by the
Federal Reserve to be "so closely related to banking ... as to be a proper
incident thereto." This authority would permit the Company to engage in a
variety of banking-related businesses, including the operation of a thrift,
consumer finance, equipment leasing, the operation of a computer service
bureau (including software development), mortgage banking and brokerage. The
BHCA generally does not place territorial restrictions on the domestic
activities of non-bank subsidiaries of bank holding companies.
Additionally, bank holding companies that meet certain eligibility
requirements prescribed by the BHCA and elect to operate as financial holding
companies may engage in, or own shares in companies engaged in, a wider range
of nonbanking activities, including securities and insurance underwriting and
sales, merchant banking and any other activity that the Federal Reserve, in
consultation with the Secretary of the Treasury, determines by regulation or
order is financial in nature, incidental to any such financial activity or
complementary to any such financial activity and does not pose a substantial
risk to the safety or soundness of depository institutions or the financial
system generally. As of the date of this filing, the Company has neither
applied for nor received approval to operate as a financial holding company.
Federal law also prohibits any person or company from acquiring
"control" of an FDIC-insured depository institution or its holding company
without prior notice to the appropriate federal bank regulator. "Control" is
conclusively presumed to exist upon the acquisition of 25% or more of the
outstanding voting securities of a bank or bank holding company, but may arise
under certain circumstances at 10% ownership.
Capital Requirements. Bank holding companies are required to maintain
minimum levels of capital in accordance with Federal Reserve capital adequacy
guidelines. If capital levels fall below the minimum required levels, a bank
holding company, among other things, may be denied approval to acquire or
establish additional banks or non-bank businesses.
The Federal Reserve's capital guidelines establish the following
minimum regulatory capital requirements for bank holding companies: (i) a
risk-based requirement expressed as a percentage of total assets weighted
according to risk; and (ii) a leverage requirement expressed as a percentage
of total assets. The risk-based requirement consists of a minimum ratio of
total capital to total risk-weighted assets of 8%, and a minimum ratio of Tier
1 capital to total risk-weighted assets of 4%. The leverage requirement
consists of a minimum ratio of Tier 1 capital to total assets of 3% for the
most highly rated companies, with a minimum requirement of 4% for all others.
For purposes of these capital standards, Tier 1 capital consists primarily of
permanent stockholders' equity less intangible assets (other than certain loan
servicing rights and purchased credit card relationships). Total capital
consists primarily of Tier 1 capital plus certain other debt and equity
instruments that do not qualify as Tier 1 capital and a portion of the
company's allowance for loan and lease losses.
The risk-based and leverage standards described above are minimum
requirements. Higher capital levels will be required if warranted by the
particular circumstances or risk profiles of individual banking organizations.
For example, the Federal Reserve's capital guidelines contemplate that
additional capital may be required to take adequate account of, among other
things, interest rate risk, or the risks posed by concentrations of credit,
nontraditional activities or securities trading activities. Further, any
banking organization experiencing or anticipating significant growth would be
expected to maintain capital ratios, including tangible capital positions
(i.e., Tier 1 capital less all intangible assets), well above the minimum
levels. As of December 31, 2002, the Company had regulatory capital in excess
of the Federal Reserve's minimum requirements.
Dividend Payments. The Company's ability to pay dividends to its
shareholders may be affected by both general corporate law considerations and
policies of the Federal Reserve applicable to bank holding companies. As an
Indiana corporation, the Company is subject to the limitations of the Indiana
General Business Corporation Law, which prohibits the Company from paying
dividends if the Company is, or by payment of the dividend would become,
insolvent, or if the payment of dividends would render the Company unable to
pay its debts as they become due in the usual course of business.
Additionally, policies of the Federal Reserve caution that a bank holding
company should not pay cash dividends that exceed its net income or that can
only be funded in ways that weaken the bank holding company's financial
health, such as by borrowing. The Federal Reserve also possesses enforcement
8
powers over bank holding companies and their non-bank subsidiaries to prevent
or remedy actions that represent unsafe or unsound practices or violations of
applicable statutes and regulations. Among these powers is the ability to
proscribe the payment of dividends by banks and bank holding companies.
Federal Securities Regulation. The Company's common stock is
registered with the SEC under the Securities Act of 1933, as amended, and the
Securities Exchange Act of 1934, as amended (the "Exchange Act").
Consequently, the Company is subject to the information, proxy solicitation,
insider trading and other restrictions and requirements of the SEC under the
Exchange Act.
The Bank
General. The Bank is an Indiana-chartered bank, the deposit accounts
of which are insured by the FDIC's Bank Insurance Fund ("BIF"). As an
Indiana-chartered bank, the Bank is subject to the examination, supervision,
reporting and enforcement requirements of the DFI, the chartering authority
for Indiana banks, and the FDIC, designated by federal law as the primary
federal regulator of state-chartered, FDIC-insured banks that, like the Bank,
are not members of the Federal Reserve System.
Deposit Insurance. As an FDIC-insured institution, the Bank is
required to pay deposit insurance premium assessments to the FDIC. The FDIC
has adopted a risk-based assessment system under which all insured depository
institutions are placed into one of nine categories and assessed insurance
premiums based upon their respective levels of capital and results of
supervisory evaluations. Institutions classified as well-capitalized (as
defined by the FDIC) and considered healthy pay the lowest premium while
institutions that are less than adequately capitalized (as defined by the
FDIC) and considered of substantial supervisory concern pay the highest
premium. Risk classification of all insured institutions is made by the FDIC
for each semi-annual assessment period.
During the year ended December 31, 2002, BIF assessments ranged from
0% of deposits to 0.27% of deposits. For the semi-annual assessment period
beginning January 1, 2003, BIF assessment rates will continue to range from 0%
of deposits to 0.27% of deposits.
FICO Assessments. Since 1987, a portion of the deposit insurance
assessments paid by members of the FDIC's Savings Association Insurance Fund
("SAIF") has been used to cover interest payments due on the outstanding
obligations of the Financing Corporation ("FICO"). FICO was created in 1987 to
finance the recapitalization of the Federal Savings and Loan Insurance
Corporation, the SAIF's predecessor insurance fund. As a result of federal
legislation enacted in 1996, beginning as of January 1, 1997, both SAIF
members and BIF members became subject to assessments to cover the interest
payments on outstanding FICO obligations until the final maturity of such
obligations in 2019. These FICO assessments are in addition to amounts
assessed by the FDIC for deposit insurance. During the year ended December 31,
2002, the FICO assessment rate for BIF and SAIF members was approximately
0.02% of deposits.
Supervisory Assessments. All Indiana banks are required to pay
supervisory assessments to the DFI to fund the operations of the DFI. The
amount of the assessment is calculated on the basis of the bank's total
assets. During the year ended December 31, 2002, the Bank paid supervisory
assessments to the DFI totaling $79,000.
Capital Requirements. Banks are generally required to maintain
capital levels in excess of other businesses. The FDIC has established the
following minimum capital standards for state-chartered FDIC-insured
non-member banks, such as the Bank: (i) a leverage requirement consisting of a
minimum ratio of Tier 1 capital to total assets of 3% for the most
highly-rated banks with a minimum requirement of at least 4% for all others;
and (ii) a risk-based capital requirement consisting of a minimum ratio of
total capital to total risk-weighted assets of 8%, and a minimum ratio of Tier
1 capital to total risk-weighted assets of 4%. For purposes of these capital
standards, the components of Tier 1 capital and total capital are the same as
those for bank holding companies discussed above.
The capital requirements described above are minimum requirements.
Higher capital levels will be required if warranted by the particular
circumstances or risk profiles of individual institutions. For example,
regulations of the FDIC provide that additional capital may be required to
take adequate account of, among other things, interest rate risk or the risks
posed by concentrations of credit, nontraditional activities or securities
trading activities.
9
Further, federal law and regulations provide various incentives for
financial institutions to maintain regulatory capital at levels in excess of
minimum regulatory requirements. For example, a financial institution that is
"well-capitalized" may qualify for exemptions from prior notice or application
requirements otherwise applicable to certain types of activities and may
qualify for expedited processing of other required notices or applications.
Additionally, one of the criteria that determines a bank holding company's
eligibility to operate as a financial holding company is a requirement that
all of its financial institution subsidiaries be "well capitalized." Under the
regulations of the FDIC, in order to be "well-capitalized" a financial
institution must maintain a ratio of total capital to total risk-weighted
assets of 10% or greater, a ratio of Tier 1 capital to total risk-weighted
assets of 6% or greater and a ratio of Tier 1 capital to total assets of 5% or
greater.
Federal law also provides the federal banking regulators with broad
power to take prompt corrective action to resolve the problems of
undercapitalized institutions. The extent of the regulators' powers depends on
whether the institution in question is "adequately capitalized,"
"undercapitalized," "significantly undercapitalized" or "critically
undercapitalized," in each case as defined by regulation. Depending upon the
capital category to which an institution is assigned, the regulators'
corrective powers include: (i) requiring the institution to submit a capital
restoration plan; (ii) limiting the institution's asset growth and restricting
its activities; (iii) requiring the institution to issue additional capital
stock (including additional voting stock) or to be acquired; (iv) restricting
transactions between the institution and its affiliates; (v) restricting the
interest rate the institution may pay on deposits; (vi) ordering a new
election of directors of the institution; (vii) requiring that senior
executive officers or directors be dismissed; (viii) prohibiting the
institution from accepting deposits from correspondent banks; (ix) requiring
the institution to divest certain subsidiaries; (x) prohibiting the payment of
principal or interest on subordinated debt; and (xi) ultimately, appointing a
receiver for the institution.
As of December 31, 2002: (i) the Bank was not subject to a directive
from the FDIC to increase its capital to an amount in excess of the minimum
regulatory capital requirements; (ii) the Bank exceeded its minimum regulatory
capital requirements under FDIC capital adequacy guidelines; and (iii) the
Bank was "well-capitalized," as defined by FDIC regulations.
Dividend Payments. The primary source of funds for the Company is
dividends from the Bank. Indiana law prohibits the Bank from paying dividends
in an amount greater than its undivided profits. The Bank is required to
obtain the approval of the DFI for the payment of any dividend if the total of
all dividends declared by the Bank during the calendar year, including the
proposed dividend, would exceed the sum of the Bank's retained net income for
the year to date combined with its retained net income for the previous two
years. Indiana law defines "retained net income" to mean the net income of a
specified period, calculated under the consolidated report of income
instructions, less the total amount of all dividends declared for the
specified period.
The payment of dividends by any financial institution or its holding
company is affected by the requirement to maintain adequate capital pursuant
to applicable capital adequacy guidelines and regulations, and a financial
institution generally is prohibited from paying any dividends if, following
payment thereof, the institution would be undercapitalized. As described
above, the Bank exceeded its minimum capital requirements under applicable
guidelines as of December 31, 2002. As of December 31, 2002, approximately
$14.5 million was available to be paid as dividends by the Bank.
Notwithstanding the availability of funds for dividends, however, the FDIC may
prohibit the payment of any dividends by the Bank if the FDIC determines such
payment would constitute an unsafe or unsound practice.
Insider Transactions. The Bank is subject to certain restrictions
imposed by federal law on extensions of credit to the Company, on investments
in the stock or other securities of the Company and the acceptance of the
stock or other securities of the Company as collateral for loans made by the
Bank. Certain limitations and reporting requirements are also placed on
extensions of credit by the Bank to its directors and officers, to directors
and officers of the Company, to principal shareholders of the Company and to
"related interests" of such directors, officers and principal shareholders. In
addition, federal law and regulations may affect the terms upon which any
person who is a director or officer of the Company or the Bank or a principal
shareholder of the Company may obtain credit from banks with which the Bank
maintains a correspondent relationship.
10
Safety and Soundness Standards. The federal banking agencies have
adopted guidelines that establish operational and managerial standards to
promote the safety and soundness of federally insured depository institutions.
The guidelines set forth standards for internal controls, information systems,
internal audit systems, loan documentation, credit underwriting, interest rate
exposure, asset growth, compensation, fees and benefits, asset quality and
earnings.
In general, the safety and soundness guidelines prescribe the goals
to be achieved in each area, and each institution is responsible for
establishing its own procedures to achieve those goals. If an institution
fails to comply with any of the standards set forth in the guidelines, the
institution's primary federal regulator may require the institution to submit
a plan for achieving and maintaining compliance. If an institution fails to
submit an acceptable compliance plan, or fails in any material respect to
implement a compliance plan that has been accepted by its primary federal
regulator, the regulator is required to issue an order directing the
institution to cure the deficiency. Until the deficiency cited in the
regulator's order is cured, the regulator may restrict the institution's rate
of growth, require the institution to increase its capital, restrict the rates
the institution pays on deposits or require the institution to take any action
the regulator deems appropriate under the circumstances. Noncompliance with
the standards established by the safety and soundness guidelines may also
constitute grounds for other enforcement action by the federal banking
regulators, including cease and desist orders and civil money penalty
assessments.
Branching Authority. Indiana banks, such as the Bank, have the
authority under Indiana law to establish branches anywhere in the State of
Indiana, subject to receipt of all required regulatory approvals. State and
national banks are allowed to establish interstate branch networks through
acquisitions of other banks, subject to certain conditions, including
limitations on the aggregate amount of deposits that may be held by the
surviving bank and all of its insured depository institution affiliates. The
establishment of new interstate branches or the acquisition of individual
branches of a bank in another state (rather than the acquisition of an
out-of-state bank in its entirety) is allowed only if specifically authorized
by state law. Indiana law permits interstate mergers subject to certain
conditions, including a condition requiring an Indiana bank involved in an
interstate merger to have been in existence and continuous operation for more
than five years. Additionally, Indiana law allows out-of-state banks to
acquire individual branch offices in Indiana and to establish new branches in
Indiana subject to certain conditions, including a requirement that the laws
of the state in which the out-of-state bank is headquartered grant Indiana
banks authority to acquire and establish branches in that state.
State Bank Investments and Activities. The Bank generally is
permitted to make investments and engage in activities directly or through
subsidiaries as authorized by Indiana law. However, under federal law and FDIC
regulations, FDIC insured state banks are prohibited, subject to certain
exceptions, from making or retaining equity investments of a type, or in an
amount, that are not permissible for a national bank. Federal law and FDIC
regulations also prohibit FDIC insured state banks and their subsidiaries,
subject to certain exceptions, from engaging as principal in any activity that
is not permitted for a national bank unless the bank meets, and continues to
meet, its minimum regulatory capital requirements and the FDIC determines the
activity would not pose a significant risk to the deposit insurance fund of
which the bank is a member. These restrictions have not had, and are not
currently expected to have, a material impact on the operations of the Bank.
Federal Reserve System. Federal Reserve regulations, as presently in
effect, require depository institutions to maintain non-interest earning
reserves against their transaction accounts (primarily NOW and regular
checking accounts) as follows: for transaction accounts aggregating $42.1
million or less, the reserve requirement is 3% of total transaction accounts;
and for transaction accounts aggregating in excess of $42.1 million, the
reserve requirement is $1.083 million plus 10% of the aggregate amount of
total transaction accounts in excess of $42.1 million. The first $6.0 million
of otherwise reservable balances are exempted from the reserve requirements.
These reserve requirements are subject to annual adjustment by the Federal
Reserve. The Bank is in compliance with the foregoing requirements.
11
INDUSTRY SEGMENTS
While the Company's chief decision-makers monitor the revenue streams
of the various Company products and services, the identifiable segments are
not material and operations are managed and financial performance is evaluated
on a Company-wide basis. Accordingly, all of the Company's financial service
operations are considered by management to be aggregated in one reportable
operating segment -- commercial banking. On the pages that follow are tables
that set forth selected statistical information relative to the business of
the Company. This data should be read in conjunction with the consolidated
financial statements, related notes and "Management's Discussion and Analysis
of Financial Condition and Results of Operations" as set forth in Items 7&8,
below, herein incorporated by reference.
12
DISTRIBUTION OF ASSETS, LIABILITIES AND STOCKHOLDERS' EQUITY;
INTEREST RATES AND INTEREST DIFFERENTIAL
(in thousands of dollars)
2002 2001
------------------------------------- -------------------------------------
Average Interest Average Interest
Balance Income Yield (1) Balance Income Yield (1)
----------- ----------- ----------- ----------- ----------- -----------
ASSETS
Earning assets:
Loans:
Taxable (2)(3) $ 766,962 $ 49,083 6.40% $ 727,330 $ 58,348 8.02%
Tax exempt (1) 3,935 279 7.09 2,420 209 8.64
Investments: (1)
Available for sale 274,155 15,677 5.72 291,901 18,556 6.36
Short-term investments 12,672 191 1.51 9,778 405 4.14
Interest bearing deposits 4,283 70 1.61 2,437 80 3.24
----------- ----------- ----------- -----------
Total earning assets 1,062,007 65,300 6.15% 1,033,866 77,598 7.51%
Nonearning assets:
Cash and due from banks 42,904 0 41,148 0
Premises and equipment 24,469 0 26,423 0
Other nonearning assets 26,744 0 27,429 0
Less allowance for loan losses (8,662) 0 (7,364) 0
----------- ----------- ----------- -----------
Total assets $ 1,147,462 $ 65,300 $ 1,121,502 $ 77,598
=========== =========== =========== ===========
<FN>
(1) Tax exempt income was converted to a fully taxable equivalent basis at a 35 and 34 percent tax rate for 2002 and 2001. The
tax equivalent rate for tax exempt loans and tax exempt securities acquired after January 1, 1983 included the TEFRA
adjustment applicable to nondeductible interest expenses.
(2) Loan fees, which are immaterial in relation to total taxable loan interest income for the years ended December 31, 2002 and
2001, are included as taxable loan interest income.
(3) Nonaccrual loans are included in the average balance of taxable loans.
</FN>
13
DISTRIBUTION OF ASSETS, LIABILITIES AND STOCKHOLDERS' EQUITY;
INTEREST RATES AND INTEREST DIFFERENTIAL (Cont.)
(in thousands of dollars)
2001 2000
------------------------------------- -------------------------------------
Average Interest Average Interest
Balance Income Yield (1) Balance Income Yield (1)
----------- ----------- ----------- ----------- ----------- -----------
ASSETS
Earning assets:
Loans:
Taxable (2)(3) $ 727,330 $ 58,348 8.02% $ 676,807 $ 61,554 9.09%
Tax exempt (1) 2,420 209 8.64 2,391 215 8.99
Investments: (1)
Available for sale 291,901 18,556 6.36 279,569 18,849 6.74
Short-term investments 9,778 405 4.14 5,778 367 6.35
Interest bearing deposits 2,437 80 3.24 960 55 5.73
----------- ----------- ----------- -----------
Total earning assets 1,033,866 77,598 7.51% 965,505 81,040 8.39%
Nonearning assets:
Cash and due from banks 41,148 0 41,202 0
Premises and equipment 26,423 0 27,276 0
Other nonearning assets 27,429 0 30,191 0
Less allowance for loan losses (7,364) 0 (6,813) 0
----------- ----------- ----------- -----------
Total assets $ 1,121,502 $ 77,598 $ 1,057,361 $ 81,040
=========== =========== =========== ===========
<FN>
(1) Tax exempt income was converted to a fully taxable equivalent basis at a 34 percent tax rate for 2001 and 2000. The tax
equivalent rate for tax exempt loans and tax exempt securities acquired after January 1, 1983 included the TEFRA adjustment
applicable to nondeductible interest expenses.
(2) Loan fees, which are immaterial in relation to total taxable loan interest income for the years ended December 31, 2001 and
2000, are included as taxable loan interest income.
(3) Nonaccrual loans are included in the average balance of taxable loans.
</FN>
14
DISTRIBUTION OF ASSETS, LIABILITIES AND STOCKHOLDERS' EQUITY;
INTEREST RATES AND INTEREST DIFFERENTIAL (Cont.)
(in thousands of dollars)
2002 2001
------------------------------------- -------------------------------------
Average Interest Average Interest
Balance Expense Yield Balance Expense Yield
----------- ----------- ----------- ----------- ----------- -----------
LIABILITIES AND STOCKHOLDERS'
EQUITY
Interest bearing liabilities:
Savings deposits $ 53,792 $ 404 0.75% $ 50,513 $ 613 1.21%
Interest bearing checking accounts 231,712 3,592 1.55 230,144 7,447 3.24
Time deposits:
In denominations under $100,000 203,531 7,491 3.68 211,728 11,151 5.27
In denominations over $100,000 224,437 5,604 2.50 203,067 10,639 5.24
Miscellaneous short-term borrowings 146,619 2,552 1.74 178,197 6,904 3.87
Long-term borrowings 44,999 2,886 6.41 30,716 2,447 7.97
----------- ----------- ----------- -----------
Total interest bearing liabilities 905,090 22,529 2.49% 904,365 39,201 4.33%
Noninterest bearing liabilities
and stockholders' equity:
Demand deposits 150,226 0 137,011 0
Other liabilities 13,093 0 10,135 0
Stockholders' equity 79,053 0 69,991 0
Total liabilities and stockholders' ----------- ----------- ----------- -----------
equity $ 1,147,462 $ 22,529 $ 1,121,502 $ 39,201
=========== =========== =========== ===========
Net interest differential - yield on
average daily earning assets $ 42,771 4.03% $ 38,397 3.71%
=========== ===========
15
DISTRIBUTION OF ASSETS, LIABILITIES AND STOCKHOLDERS' EQUITY;
INTEREST RATES AND INTEREST DIFFERENTIAL (Cont.)
(in thousands of dollars)
2001 2000
------------------------------------- -------------------------------------
Average Interest Average Interest
Balance Expense Yield Balance Expense Yield
----------- ----------- ----------- ----------- ----------- -----------
LIABILITIES AND STOCKHOLDERS'
EQUITY
Interest bearing liabilities:
Savings deposits $ 50,513 $ 613 1.21% $ 53,372 $ 899 1.68%
Interest bearing checking accounts 230,144 7,447 3.24 234,906 9,618 4.09
Time deposits:
In denominations under $100,000 211,728 11,151 5.27 203,539 14,054 6.90
In denominations over $100,000 203,067 10,639 5.24 157,040 7,824 4.98
Miscellaneous short-term borrowings 178,197 6,904 3.87 176,562 10,083 5.71
Long-term borrowings 30,716 2,447 7.97 32,342 2,523 7.80
----------- ----------- ----------- -----------
Total interest bearing liabilities 904,365 39,201 4.33% 857,761 45,001 5.25%
Noninterest bearing liabilities
and stockholders' equity:
Demand deposits 137,011 0 134,270 0
Other liabilities 10,135 0 8,447 0
Stockholders' equity 69,991 0 56,883 0
Total liabilities and stockholders' ----------- ----------- ----------- -----------
equity $ 1,121,502 $ 39,201 $ 1,057,361 $ 45,001
=========== =========== =========== ===========
Net interest differential - yield on
average daily earning assets $ 38,397 3.71% $ 36,039 3.73%
=========== ===========
16
ANALYSIS OF CHANGES IN INTEREST DIFFERENTIALS
(fully taxable equivalent basis)
(in thousands of dollars)
YEAR ENDED DECEMBER 31,
2002 Over (Under) 2001 (1) 2001 Over (Under) 2000 (1)
------------------------------------- -------------------------------------
Volume Rate Total Volume Rate Total
----------- ----------- ----------- ----------- ----------- -----------
INTEREST AND LOAN FEE INCOME (2)
Loans:
Taxable $ 3,043 $ (12,308) $ (9,265) $ 4,385 $ (7,591) $ (3,206)
Tax exempt 113 (43) 70 3 (9) (6)
Investments:
Available for sale (1,085) (1,794) (2,879) 811 (1,105) (294)
Short-term investments 96 (310) (214) 195 (157) 38
Interest bearing deposits 42 (52) (10) 56 (32) 24
----------- ----------- ----------- ----------- ----------- -----------
Total interest income 2,209 (14,507) (12,298) 5,450 (8,894) (3,444)
----------- ----------- ----------- ----------- ----------- -----------
INTEREST EXPENSE
Savings deposits 38 (247) (209) (46) (240) (286)
Interest bearing checking accounts 50 (3,905) (3,855) (191) (1,980) (2,171)
Time deposits
In denominations under $100,000 (417) (3,243) (3,660) 546 (3,449) (2,903)
In denominations over $100,000 1,022 (6,057) (5,035) 2,394 421 2,815
Miscellaneous short-term borrowings (1,059) (3,293) (4,352) 93 (3,272) (3,179)
Long-term borrowings 982 (543) 439 (129) 53 (76)
----------- ----------- ----------- ----------- ----------- -----------
Total interest expense 616 (17,288) (16,672) 2,667 (8,467) (5,800)
----------- ----------- ----------- ----------- ----------- -----------
INCREASE (DECREASE) IN
INTEREST DIFFERENTIALS $ 1,593 $ 2,781 $ 4,374 $ 2,783 $ (427) $ 2,356
=========== =========== =========== =========== =========== ===========
<FN>
(1) The earning assets and interest bearing liabilities used to calculate interest differentials are based on average daily
balances for 2002, 2001 and 2000. The changes in volume represent "changes in volume times the old rate". The changes in rate
represent "changes in rate times old volume". The changes in rate/volume were also calculated by "change in rate times change
in volume" and allocated consistently based upon the relative absolute values of the changes in volume and changes in rate.
(2) Tax exempt income was converted to a fully taxable equivalent basis at a 35, 34 and 34 percent tax rate for 2002, 2001 and
2000. The tax equivalent rate for tax exempt loans and tax exempt securities acquired after January 1, 1983 included the
TEFRA adjustment applicable to nondeductible interest expense.
</FN>
17
ANALYSIS OF SECURITIES
(in thousands of dollars)
The amortized cost and the fair value of securities as of December 31, 2002, 2001 and 2000 were as follows:
2002 2001 2000
------------------------ ------------------------ ------------------------
Amortized Fair Amortized Fair Amortized Fair
Cost Value Cost Value Cost Value
----------- ----------- ----------- ----------- ----------- -----------
Securities available for sale:
U.S. Treasury securities $ 5,143 $ 5,338 $ 7,630 $ 7,866 $ 38,037 $ 38,066
U.S. Government agencies and corporations 11,371 11,946 11,528 11,574 6,672 6,550
Mortgage-backed securities 216,619 222,036 213,054 216,654 207,499 207,594
State and municipal securities 33,534 34,785 30,085 29,663 35,416 35,430
Other debt securities 0 0 5,791 5,882 6,327 5,968
----------- ----------- ----------- ----------- ----------- -----------
Total debt securities available for sale $ 266,667 $ 274,105 $ 268,088 $ 271,639 $ 293,951 $ 293,608
=========== =========== =========== =========== =========== ===========
18
ANALYSIS OF SECURITIES (cont.)
(Fully Tax Equivalent Basis)
(in thousands of dollars)
The weighted average yields (1) and maturity distribution (2) for debt securities portfolio at December 31, 2002, were
as follows:
After One After Five
Within Year Years Over
One Within Within Ten Ten
Year Five Years Years Years
---------------- ---------------- ---------------- -----------
Securities available for sale:
U.S. Treasury securities
Book value $ 3,014 $ 2,129 $ 0 $ 0
Yield 10.75% 6.13%
Government agencies and corporations
Book value 0 11,371 0 0
Yield 5.88%
Mortgage-backed securities
Book value 0 26,669 75,439 114,511
Yield 3.71% 6.36% 6.14%
State and municipal securities
Book value 0 100 1,379 32,055
Yield 6.85% 5.52% 4.94%
Other debt securities
Book value 0 0 0 0
Yield
---------------- ---------------- ---------------- -----------
Total debt securities available for sale:
Book value $ 3,014 $ 40,269 $ 76,818 $ 146,566
Yield 1 0.75% 4.45% 6.35% 5.88%
================ ================ ================ ===========
<FN>
(1) Tax exempt income was converted to a fully taxable equivalent basis at a 35% rate.
(2) The maturity distribution of mortgage-backed securities was based upon anticipated payments as computed by using the historic
average payment speed from date of issue.
There were no investments in securities of any one issuer, other than the U.S. Government and its agencies that exceeded
10% of stockholders' equity at December 31, 2002.
</FN>
19
ANALYSIS OF LOAN PORTFOLIO
Analysis of Loans Outstanding
(in thousands of dollars)
The Company segregates its loan portfolio into four basic segments: commercial (including agri-business and agricultural
loans), real estate mortgages, installment and personal line of credit loans (including credit card loans). The loan portfolio as
of December 31, 2002, 2001, 2000, 1999 and 1998 was as follows:
2002 2001 2000 1999 1998
----------- ----------- ----------- ----------- -----------
Commercial loans:
Taxable $ 619,963 $ 534,645 $ 487,125 $ 419,034 $ 343,858
Tax exempt 4,974 2,544 2,374 3,048 2,867
----------- ----------- ----------- ----------- -----------
Total commercial loans 624,937 537,189 489,499 422,082 346,725
Real estate mortgage loans 47,184 47,252 52,731 46,872 60,555
Installment loans 75,692 95,592 129,729 146,711 100,196
Line of credit and credit card loans 74,863 58,190 46,917 38,233 31,020
----------- ----------- ----------- ----------- -----------
Total loans 822,676 738,223 718,876 653,898 538,496
Less allowance for loan losses 9,533 7,946 7,124 6,522 5,510
---------- ----------- ----------- ----------- -----------
Net loans $ 813,143 $ 730,277 $ 711,752 $ 647,376 $ 532,986
========== =========== =========== =========== ===========
<FN>
The real estate mortgage loan portfolio included construction loans totaling $2,540, $2,354, $3,626, $4,488 and $2,975 as
of December 31, 2002, 2001, 2000, 1999 and 1998. The loan classifications are based on the nature of the loans as of the loan
origination date. There were no foreign loans included in the loan portfolio for the periods presented.
</FN>
20
ANALYSIS OF LOAN PORTFOLIO (cont.)
Analysis of Loans Outstanding (cont.)
(in thousands of dollars)
Repricing opportunities of the loan portfolio occur either according to predetermined adjustable rate schedules included
in the related loan agreements or upon scheduledmaturity of each principal payment. The following table indicates the scheduled
maturities of the loan portfolio as of December 31, 2002.
Line of
Real Credit and
Commercial Estate Installment Credit Card Total Percent
----------- ----------- ----------- ----------- ----------- -----------
Original maturity of one day $ 387,041 $ 0 $ 0 $ 71,404 $ 458,445 55.7%
Other within one year 74,646 11,082 29,880 2,839 118,447 14.4
After one year, within five years 153,411 5,242 43,715 572 202,940 24.7
Over five years 5,729 30,754 2,097 48 38,628 4.7
Nonaccrual loans 4,110 106 0 0 4,216 0.5
----------- ----------- ----------- ----------- ----------- -----------
Total loans $ 624,937 $ 47,184 $ 75,692 $ 74,863 $ 822,676 100.0%
=========== =========== =========== =========== =========== ===========
<FN>
A portion of the loans is short-term maturities. At maturity, credits are reviewed and, if renewed, are renewed at rates
and conditions that prevail at the time of maturity.
Loans due after one year which have a predetermined interest rate and loans due after one year which have floating or
adjustable interest rates as of December 31, 2002 amounted to $229,214 and $38,703.
</FN>
21
ANALYSIS OF LOAN PORTFOLIO (cont.)
Review of Nonperforming Loans
(in thousands of dollars)
The following is a summary of nonperforming loans as of December 31, 2002, 2001, 2000, 1999 and 1998.
2002 2001 2000 1999 1998
----------- ----------- ----------- ----------- -----------
PART A - PAST DUE ACCRUING LOANS (90 DAYS OR MORE)
Real estate mortgage loans $ 0 $ 170 $ 398 $ 0 $ 0
Commercial and industrial loans 3,245 0 7,635 20 159
Loans to individuals for household, family and
other personal expenditures 142 94 171 151 68
Loans to finance agriculture production and
other loans to farmers 0 0 0 0 0
----------- ----------- ----------- ----------- -----------
Total past due loans 3,387 264 8,204 171 227
----------- ----------- ----------- ----------- -----------
PART B - NONACCRUAL LOANS
Real estate mortgage loans 106 59 37 0 0
Commercial and industrial loans 4,110 2,175 169 329 0
Loans to individuals for household, family and
other personal expenditures 0 0 0 0 0
Loans to finance agriculture production and
other loans to farmers 0 0 0 0 0
----------- ----------- ----------- ----------- -----------
Total nonaccrual loans 4,216 2,234 206 329 0
----------- ----------- ----------- ----------- -----------
PART C - TROUBLED DEBT RESTRUCTURED LOANS 0 0 1,127 1,179 1,281
----------- ----------- ----------- ----------- -----------
Total nonperforming loans $ 7,603 $ 2,498 $ 9,537 $ 1,679 $ 1,508
=========== =========== =========== =========== ===========
<FN>
Nonearning assets of the Company include nonaccrual loans (as indicated above), nonaccrual investments, other real estate
and repossessions, which amounted to $7,741 at December 31, 2002.
</FN>
22
ANALYSIS OF LOAN PORTFOLIO (cont.)
Comments Regarding Nonperforming Assets
PART A - CONSUMER LOANS
Consumer installment loans, except those loans that are secured by
real estate, are not placed on a nonaccrual status since these loans are
charged-off when they have been delinquent from 90 to 180 days, and when the
related collateral, if any, is not sufficient to offset the indebtedness.
Advances under Mastercard and Visa programs, as well as advances under all
other consumer line of credit programs, are charged-off when collection
appears doubtful.
PART B - NONPERFORMING LOANS
When a loan is classified as a nonaccrual loan, interest on the loan
is no longer accrued and all accrued interest receivable is charged off. It is
the policy of the Bank that all loans for which the collateral is insufficient
to cover all principal and accrued interest will be reclassified as
nonperforming loans to the extent they are unsecured, on or before the date
when the loan becomes 90 days delinquent. Thereafter, interest is recognized
and included in income only when received. Interest not recorded on
non-accrual loans is referenced in Footnote 4 in Item 8 below.
As of December 31, 2002, there were $4.2 million of loans on
nonaccrual status, most of which were also on impaired status. There were $7.3
million of loans classified as impaired.
PART C - TROUBLED DEBT RESTRUCTURED LOANS
Loans renegotiated as troubled debt restructurings are those loans
for which either the contractual interest rate has been reduced and/or other
concessions are granted to the borrower because of a deterioration in the
financial condition of the borrower which results in the inability of the
borrower to meet the terms of the loan.
As of December 31, 2002 and 2001, there were no loans renegotiated as
troubled debt restructurings.
PART D - OTHER NONPERFORMING ASSETS
Management is of the opinion that there are no significant
foreseeable losses relating to substandard or nonperforming assets, except as
discussed above in Part B - Nonperforming Loans and Part C - Troubled Debt
Restructured Loans.
PART E - LOAN CONCENTRATIONS
There were no loan concentrations within industries, which exceeded
ten percent of total assets. It is estimated that over 90% of all the Bank's
commercial, industrial, agri-business and agricultural real estate mortgage,
real estate construction mortgage and consumer loans are made within its basic
service area.
23
Basis For Determining Allowance For Loan Losses:
Management is responsible for determining the adequacy of the
allowance for loan losses. This responsibility is fulfilled by management in a
number of ways, including the following:
1. Management reviews the larger individual loans (primarily in the
commercial loan portfolio) for unfavorable collectibility factors and assesses
the requirement for specific reserves on such credits. For those loans not
subject to specific reviews, management reviews previous loan loss experience
to establish historical ratios and trends in charge-offs by loan category. The
ratios of net charge-offs to particular types of loans enable management to
estimate charge-offs by loan category and thereby establish appropriate
reserves for loans not specifically reviewed.
2. Management reviews the current economic conditions of its lending
market to determine the effects on loan charge-offs by loan category, in
addition to the effects on the loan portfolio as a whole.
3. Management reviews delinquent loan reports to determine risk of
loan charge-offs. High delinquencies are generally indicative of an increase
in future loan charge-offs.
Based upon these policies and objectives, $3.1 million, $2.2 million
and $1.2 million were charged to the provision for loan losses and added to
the allowance for loan losses in 2002, 2001 and 2000.
The allocation of the allowance for loan losses to the various
lending areas is performed by management in relation to perceived exposure to
loss in the various loan portfolios. However, the allowance for loan losses is
available in its entirety to absorb losses in any particular loan category.
24
ANALYSIS OF LOAN PORTFOLIO (cont.)
Summary of Loan Loss
(in thousands of dollars)
The following is a summary of the loan loss experience for the years ended December 31, 2002, 2001, 2000, 1999 and
1998.
2002 2001 2000 1999 1998
----------- ----------- ----------- ----------- -----------
Amount of loans outstanding, December 31, $ 822,676 $ 738,223 $ 718,876 $ 653,898 $ 538,496
=========== =========== =========== =========== ===========
Average daily loans outstanding during the year
ended December 31, $ 770,897 $ 729,750 $ 679,198 $ 605,170 $ 489,336
=========== =========== =========== =========== ===========
Allowance for loan losses, January 1, $ 7,946 $ 7,124 $ 6,522 $ 5,510 $ 5,308
----------- ----------- ----------- ----------- -----------
Loans charged-off
Commercial 1,268 569 200 147 9
Real estate 0 0 30 6 0
Installment 509 868 483 252 329
Credit cards and personal credit lines 98 103 35 30 78
----------- ----------- ----------- ----------- -----------
Total loans charged-off 1,875 1,540 748 435 416
----------- ----------- ----------- ----------- -----------
Recoveries of loans previously charged-off
Commercial 270 3 45 10 44
Real estate 0 16 0 0 0
Installment 128 113 93 114 86
Credit cards and personal credit lines 8 5 6 13 8
----------- ----------- ----------- ----------- -----------
Total recoveries 406 137 144 137 138
----------- ----------- ----------- ----------- -----------
Net loans charged-off 1,469 1,403 604 298 278
Provision for loan loss charged to expense 3,056 2,225 1,206 1,310 480
----------- ----------- ----------- ----------- -----------
Balance, December 31, $ 9,533 $ 7,946 $ 7,124 $ 6,522 $ 5,510
=========== =========== =========== =========== ===========
Ratio of net charge-offs during the period to
average daily loans outstanding
Commercial 0.13% 0.08% 0.02% 0.02% (0.01)%
Real estate 0.00 0.00 0.00 0.00 0.00
Installment 0.05 0.10 0.06 0.02 0.05
Credit cards and personal credit lines 0.01 0.01 0.01 0.01 0.02
----------- ----------- ----------- ----------- -----------
Total 0.19% 0.19% 0.09% 0.05% 0.06%
=========== =========== =========== =========== ===========
Ratio of allowance for loan losses to
Nonperforming assets 123.15% 192.58% 73.83% 368.06% 258.20%
=========== =========== =========== =========== ===========
25
ANALYSIS OF LOAN PORTFOLIO (cont.)
Allocation of Allowance for Loan Losses
(in thousands of dollars)
The following is a summary of the allocation for loan losses as of December 31, 2002, 2001, 2000, 1999 and 1998.
2002 2001 2000
------------------------ ------------------------ ------------------------
Allowance Loans as Allowance Loans as Allowance Loans as
For Percentage For Percentage For Percentage
Loan of Gross Loan of Gross Loan of Gross
Losses Loans Losses Loans Losses Loans
----------- ----------- ----------- ----------- ----------- -----------
Allocated allowance for loan losses
Commercial $ 7,824 75.96% $ 6,412 72.77% $ 5,205 68.09%
Real estate 123 5.74 127 6.40 132 7.34
Installment 573 9.20 728 12.95 974 18.04
Credit cards and personal credit lines 563 9.10 431 7.88 352 6.53
----------- ----------- ----------- ----------- ----------- -----------
Total allocated allowance for loan losses 9,083 100.00% 7,698 100.00% 6,663 100.00%
=========== =========== ===========
Unallocated allowance for loan losses 450 248 461
----------- ----------- -----------
Total allowance for loan losses $ 9,533 $ 7,946 $ 7,124
=========== =========== ===========
1999 1998
------------------------ ------------------------
Allowance Loans as Allowance Loans as
For Percentage For Percentage
Loan of Gross Loan of Gross
Losses Loans Losses Loans
----------- ----------- ----------- -----------
Allocated allowance for loan losses
Commercial $ 4,750 64.55% $ 1,647 64.39%
Real estate 120 7.17 130 11.24
Installment 1,202 22.43 845 18.61
Credit cards and personal credit lines 185 5.85 130 5.76
----------- ----------- ----------- -----------
Total allocated allowance for loan losses 6,257 100.00% 2,752 100.00%
=========== ===========
Unallocated allowance for loan losses 265 2,758
----------- -----------
Total allowance for loan losses $ 6,522 $ 5,510
=========== ===========
<FN>
In 2001 and 1999, the Company reviewed and revised the allocation process for the Allowance for Loan Losses. These
changes primarily affected the allocations as they pertain to the commercial loans classified in the Company's internal watch list.
These changes also brought the Company's methodology into closer conformity with regulatory guidance. The Company continues to
review the allocation process and the documentation for the Allowance for Loan Losses, therefore future changes may occur.
</FN>
26
ANALYSIS OF DEPOSITS
(in thousands of dollars)
The average daily deposits for the years ended December 31, 2002, 2001 and 2000, and the average rates paid on those
deposits are summarized in the following table:
2002 2001 2000
----------------------- ------------------------ ------------------------
Average Average Average Average Average Average
Daily Rate Daily Rate Daily Rate
Balance Paid Balance Paid Balance Paid
----------- ----------- ----------- ----------- ----------- -----------
Demand deposits $ 150,226 0.00% $ 137,011 0.00% $ 134,270 0.00%
Savings and transaction accounts:
Regular savings 53,792 0.75 50,513 1.21 53,372 1.68
Interest bearing checking 231,712 1.55 230,144 3.24 234,906 4.09
Time deposits:
Deposits of $100,000 or more 224,437 2.50 203,067 5.24 157,040 4.98
Other time deposits 203,531 3.68 211,728 5.27 203,539 6.90
----------- ----------- -----------
Total deposits $ 863,698 1.98% $ 832,463 3.59% $ 783,127 4.14%
=========== =========== ===========
<FN>
As of December 31, 2002, time certificates of deposit in denominations of $100,000 or more will mature as follows:
</FN>
Within three months $ 107,430
Over three months, within six months 69,067
Over six months, within twelve months 24,011
Over twelve months 24,494
-----------
Total time certificates of deposit in
denominations of $100,000 or more $ 225,002
===========
27
QUALITATIVE MARKET RISK DISCLOSURE
Management's market risk disclosure appears under the caption
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" in Item 7, below, and is incorporated herein by reference in
response to this item. The Company's primary market risk exposure is interest
rate risk. The Company does not have a material exposure to foreign currency
exchange rate risk, does not own any material derivative financial instruments
and does not maintain a trading portfolio.
RETURN ON EQUITY AND OTHER RATIOS
The rates of return on average daily assets and stockholders'
equity, the dividend payout ratio, and the average daily stockholders' equity
to average daily assets for the years ended December 31, 2002, 2001 and 2000
were as follows:
2002 2001 2000
----------- ----------- -----------
Percent of net income to:
Average daily total assets 1.08% 0.90% 0.88%
Average daily stockholders' equity 15.64 14.45 16.39
Percentage of dividends declared per
common share to basic earnings per
weighted average number of common
shares outstanding (5,813,984 shares
in 2002, 2001 and 2000) 31.92 34.48 32.50
Percentage of average daily
stockholders' equity to average
daily total assets 6.89 6.24 5.38
28
SHORT-TERM BORROWINGS
(in thousands of dollars)
The following is a schedule, at the end of the year indicated, of
statistical information relating to securities sold under agreement to
repurchase maturing within one year and secured by either U.S. Government
agency securities or mortgage-backed securities classified as other debt
securities. There were no other categories of short-term borrowings for
which the average balance outstanding during the period was 30 percent or
more of stockholders' equity at the end of each period.
2002 2001 2000
----------- ----------- -----------
Outstanding at year end $ 124,969 $ 149,117 $ 138,154
Approximate average interest rate at
year end 1.03% 1.91% 5.37%
Highest amount outstanding as of any
month end during the year $ 139,857 $ 160,628 $ 143,677
Approximate average outstanding
during the year $ 116,214 $ 140,277 $ 121,267
Approximate average interest rate
during the year 1.49% 3.72% 5.35%
Securities sold under agreement to repurchase include fixed rate,
term transactions initiated by the investment department of the Bank, as well
as corporate sweep accounts.
29
ITEM 2. PROPERTIES
The Company conducts its operations from the following locations:
Branches/Headquarters
Main/Headquarters 202 East Center St. Warsaw IN
Warsaw Drive-up East Center St. Warsaw IN
Akron 102 East Rochester Akron IN
Argos 100 North Michigan Argos IN
Auburn 1220 East 7th St. Auburn IN
Bremen 1600 Indiana State Road 331 Bremen IN
Columbia City 601 Countryside Dr. Columbia City IN
Concord 4202 Elkhart Rd. Goshen IN
Cromwell 111 North Jefferson St. Cromwell IN
Elkhart Beardsley 864 East Beardsley St. Elkhart IN
Elkhart East 22050 State Road 120 Elkhart IN
Elkhart Hubbard Hill 58404 State Road 19 Elkhart IN
Elkhart Northwest 1208 North Nappanee St. Elkhart IN
Fort Wayne North 302 East DuPont Rd. Fort Wayne IN
Fort Wayne Northeast 10411 Maysville Rd. Fort Wayne IN
Fort Wayne Southwest 10429 Illinois Rd. Fort Wayne IN
Goshen Downtown 102 North Main St. Goshen IN
Goshen South 2513 South Main St. Goshen IN
Granger 12830 State Road 23 Granger IN
Huntington 1501 North Jefferson St. Huntington IN
Kendallville East 631 Professional Way Kendallville IN
LaGrange 901 South Detroit LaGrange IN
Ligonier Downtown 222 South Cavin St. Ligonier IN
Ligonier South 1470 U.S. Highway 33 South Ligonier IN
Medaryville Main St. Medaryville IN
Mentone 202 East Main St. Mentone IN
Middlebury 712 Wayne Ave. Middlebury IN
Milford Indiana State Road 15 North Milford IN
Mishawaka 5015 North Main St. Mishawaka IN
Nappanee 202 West Market St. Nappanee IN
North Webster 644 North Main St. North Webster IN
Pierceton 202 South First St. Pierceton IN
Plymouth 862 East Jefferson St. Plymouth IN
Rochester 507 East 9th St. Rochester IN
Shipshewana 895 North Van Buren St. Shipshewana IN
Silver Lake 102 Main St. Silver Lake IN
South Bend Northwest 21113 Cleveland Rd. South Bend IN
Syracuse 502 South Huntington Syracuse IN
Warsaw East 3601 Commerce Dr. Warsaw IN
Warsaw West 1221 West Lake St. Warsaw IN
Winona Lake 99 Chestnut St. Winona Lake IN
Winona Lake East 1324 Wooster Rd. Winona Lake IN
The Company leases from third parties the real estate and buildings
for its offices in Akron and Milford and the building for its Winona Lake East
office. In addition, the Company leases the real estate for its freestanding
ATMs. All the other branch facilities are owned by the Company. The Company
also owns parking lots in downtown Warsaw for the use and convenience of
Company employees and customers, as well as leasehold improvements, equipment,
furniture and fixtures necessary to operate the banking facilities.
30
In addition, the Company owns buildings at 110 South High St.,
Warsaw, Indiana, and 114-118 East Market St., Warsaw, Indiana, which it uses
for various offices, a building at 113 East Market St., Warsaw, Indiana, which
it uses for office and computer facilities, and a building at 109 South
Buffalo St., Warsaw, Indiana, which it uses for training and development. The
Company has purchased property at 410 Chevy Way, Warsaw, Indiana, where it
intends to construct a full-service bank branch during 2003. The Company also
leases from third parties facilities in Warsaw, Indiana, for the storage of
supplies and in Elkhart, Indiana, for computer facilities.
None of the Company's assets are the subject of any material
encumbrances.
ITEM 3. LEGAL PROCEEDINGS
There are no material pending legal proceedings other than ordinary
routine litigation incidental to the business to which the Company and the
Bank are a party or of which any of their property is subject.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted to a vote of security holders during the
fourth quarter of 2002.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER MATTERS
4th 3rd 2nd 1st
Quarter Quarter Quarter Quarter
------- ------- ------- -------
2002
Trading range (per share)*
Low $ 22.22 $ 23.57 $ 20.10 $ 17.41
High $ 24.99 $ 29.76 $ 28.84 $ 20.45
Dividends declared (per share) $ 0.17 $ 0.17 $ 0.17 $ 0.17
2001
Trading range (per share)*
Low $ 15.50 $ 15.10 $ 13.35 $ 11.63
High $ 17.62 $ 17.00 $ 15.87 $ 16.38
Dividends declared (per share) $ 0.15 $ 0.15 $ 0.15 $ 0.15
* The trading ranges are the high and low as obtained from the Nasdaq Stock
Market.
In August, 1997, the common stock of the Company and the preferred
stock of its wholly-owned subsidiary, Lakeland Trust, began trading on The
Nasdaq Stock Market under the symbols LKFN and LKFNP. On December 31, 2002,
the Company had approximately 550 shareholders of record.
The Company paid dividends as set forth in the table above. The
Company's ability to pay dividends to shareholders is largely dependent upon
the dividends it receives from the Bank, and the Bank is subject to regulatory
limitations on the amount of cash dividends it may pay. See "Business -
Supervision and Regulation - The Company - Dividend Payments" and "Business -
Supervision and Regulation - The Bank - Dividend Payments" for a more detailed
description of these limitations.
31
ITEM 6. SELECTED FINANCIAL DATA
2002 2001 2000 1999 1998
----------- ----------- ----------- ----------- -----------
(in thousands except share and per share data)
Interest income $ 64,335 $ 76,615 $ 80,050 $ 69,395 $ 63,667
Interest expense 22,529 39,201 45,001 37,093 36,091
----------- ----------- ----------- ----------- -----------
Net interest income . . . . . . . . . . . . . . . . . . . . . . 41,806 37,414 35,049 32,302 27,576
Provision for loan losses 3,056 2,225 1,206 1,310 480
----------- ----------- ----------- ----------- -----------
Net interest income after provision
for loan losses 38,750 35,189 33,843 30,992 27,096
Other noninterest income 12,838 11,393 10,413 9,785 8,819
Net gain on sale of branches 0 753 0 0 0
Net gains on sale of real estate
mortgages held for sale 1,914 1,232 504 1,302 1,467
Net securities gains (losses) 55 120 0 1,340 1,256
Noninterest expense (34,671) (33,830) (31,322) (31,015) (26,824)
----------- ----------- ----------- ----------- -----------
Income before income tax expense . . . . . . . . . . . . . . . . 18,886 14,857 13,438 12,404 11,814
Income tax expense 6,520 4,744 4,116 4,085 3,926
----------- ----------- ----------- ----------- -----------
Net income . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 12,366 $ 10,113 $ 9,322 $ 8,319 $ 7,888
=========== =========== =========== =========== ===========
Basic weighted average common shares
outstanding* 5,813,984 5,813,984 5,813,984 5,813,984 5,813,984
=========== =========== =========== =========== ===========
Basic earnings per common share* $ 2.13 $ 1.74 $ 1.60 $ 1.43 $ 1.36
=========== =========== =========== =========== ===========
Diluted weighted average common shares
outstanding* 5,958,386 5,841,196 5,813,999 5,813,992 5,813,984
=========== =========== =========== =========== ===========
Diluted earnings per common share* $ 2.08 $ 1.73 $ 1.60 $ 1.43 $ 1.36
=========== =========== =========== =========== ===========
Cash dividends declared* $ .68 $ 0.60 $ 0.52 $ 0.44 $ 0.33
=========== =========== =========== =========== ===========
* Adjusted for 2-for-1 stock split on April 30, 1998.
32
ITEM 6. SELECTED FINANCIAL DATA (continued)
2002 2001 2000 1999 1998
----------- ----------- ----------- ----------- -----------
(in thousands)
Balances at December 31:
- -----------------------------------------
Total assets $ 1,247,786 $ 1,137,712 $ 1,149,157 $ 1,039,843 $ 978,909
Total deposits $ 913,325 $ 793,380 $ 845,329 $ 748,243 $ 739,347
Total short-term borrowings $ 184,968 $ 232,117 $ 200,078 $ 195,374 $ 135,690
Long-term borrowings $ 31,348 $ 11,389 $ 11,433 $ 16,473 $ 21,386
Guaranteed preferred beneficial interests in
Company's subordinated debentures $ 19,345 $ 19,318 $ 19,291 $ 19,264 $ 19,238
Total stockholders' equity $ 83,880 $ 73,534 $ 64,973 $ 54,194 $ 55,156
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
OVERVIEW
Lakeland Financial Corporation is the holding company for Lake City
Bank. The Company is headquartered in Warsaw, Indiana and operates 41 offices
in twelve counties in northern Indiana. The Company earned $12.4 million for
the year ended 2002 versus $10.1 million for the year ended 2001, an increase
of 22.3%. The increase was driven by a $4.4 million increase in net interest
income and a $1.3 million increase in non-interest income. Offsetting these
positive impacts were increases of $831,000 in the provision for loan losses
and $841,000 in non-interest expense. The Company earned $10.1 million for the
year ended 2001 versus $9.3 million for the year ended 2000, an increase of
8.5%. The increase was a result of a $2.4 million increase in net interest
income and a $2.6 million increase in non-interest income. The increase in
non-interest income included a one-time gain of $753,000 on the sale of five
non-strategic branches during the third quarter of 2001. Offsetting these
positive impacts were increases of $1.0 million in the provision for loan
losses and $2.5 million in non-interest expense. Basic earnings per share for
the year ended 2002 was $2.13 per share versus $1.74 per share for the year
ended 2001 and $1.60 for the year ended 2000. Diluted earnings per share
reflect the potential dilutive impact of stock options granted under an
employee stock option plan. Diluted earnings per share for the year ended 2002
was $2.08 per share versus $1.73 per share for the year ended 2001 and $1.60
for the year ended 2000.
RESULTS OF OPERATIONS
2002 versus 2001
The Company reported record net income of $12.4 million in 2002, an
increase of $2.3 million, or 22.3%, versus net income of $10.1 million in
2001. Net interest income increased $4.4 million, or 11.7%, to $41.8 million
versus $37.4 million in 2001. Net interest income increased primarily due to
the implementation of a liability pricing strategy during 2001 that has
resulted in an improved net interest margin and continued growth in the loan
portfolio. Interest income decreased $12.3 million, or 16.0%, from $76.6
million in 2001 to $64.3 million in 2002. The decrease was driven primarily by
a 134 basis point reduction in the tax equivalent yield on average earning
assets over the year. Interest expense decreased $16.7 million, or 42.5%, from
$39.2 million in 2001 to $22.5 million in 2002. The decrease was primarily the
result of a 163 basis point decrease in the Company's daily cost of funds over
the year. The Company had a net interest margin of 4.03% in 2002 versus 3.71%
in 2001. Average earning assets increased by $27.1 million to $1.1 billion in
2002 versus $1.0 billion in 2001. The primary driver was a $40.1 million
increase in the average daily loan balance. Deposits increased to fund the
loan growth during 2002, driven primarily by increases of $13.6 million in the
average daily time deposit balances and increases of $13.2 million in the
average daily demand deposit balances. The increase in average daily total
33
deposits occurred despite the impact of the Company's September, 2001 branch
divestiture, which included $70.3 million in deposits. The Company believes
that the growth in the loan portfolio will continue in conjunction with the
strategic focus on commercial lending and the general expansion and
penetration of the geographical markets the Company serves.
Nonaccrual loans were $4.2 million, or 0.51% of total loans, at year
end versus $2.2 million, or 0.30% of total loans, at the end of 2001. There
were nine relationships totaling $7.3 million classified as impaired as of
December 31, 2002 versus six relationships totaling $10.0 million at the end
of 2001. One commercial credit represented $3.2 million of this amount in
2002. The renewal of this loan has been complicated as more than one bank is
involved, and therefore it is past maturity. While this loan is current as to
principal and interest, there can be no assurance that it will remain current
given the circumstances involved. The removal of one credit that had a balance
of $7.5 million at December 31, 2001 was offset by the addition of the
aforementioned loan. The impaired loan that was removed from impaired status
has been current on principal and interest for most of 2002 and was recently
restructured as a personal loan to the principal of the corporate entity with
the support of both the existing collateral and new collateral in the form of
life insurance and additional pledged securities. In addition, full payment
under the loan terms continues to be expected. Net charge-offs were $1.5
million in 2002 versus $1.4 million in 2001, representing 0.19% and 0.19% of
average daily loans in 2002 and 2001. The provision for loan loss expense was
$3.1 million in 2002, resulting in an allowance for loan losses at December
31, 2002 of $9.5 million, which represented 1.16% of the loan portfolio,
versus $7.9 million in 2001, or 1.08% of the loan portfolio. The higher
provision in 2002 versus 2001 was attributable to a number of factors, but was
primarily a result of the more challenging economic conditions during 2002 and
the resulting impact on asset quality as evidenced by an increase in the
percentage of internally classified loans in 2002. The continuing growth of
the commercial loan portfolio was also a factor in the determination of the
provision for loan losses. The Company's management continues to monitor the
adequacy of the provision based on loan levels, asset quality, economic
conditions and other factors that may influence the assessment of the
collectability of loans.
Noninterest income was $14.8 million in 2002 versus $13.5 million in
2001, an increase of $1.3 million, or 9.7%. The increase was driven by a $1.4
million, or 26.1%, increase in service charges on deposit accounts which was
largely due to fees related to new deposit services which were implemented in
the first quarter of 2002, as well as fees associated with business checking
accounts. The increase in noninterest income was also reflective of the low
interest rate environment which encouraged new mortgage and mortgage
refinancing activity. The increased mortgage activity resulted in a rise in
the gains on sale of mortgages, which were $1.9 million versus $1.2 million in
2001, an increase of 55.4%. Trust and brokerage fees decreased $197,000, or
7.4%, to $2.5 million versus $2.6 million in 2001 as a result of a reduction
in brokerage income from $1.1 million in 2001 to $695,000 in 2002. During
2001, the Company sold five non-strategic branches resulting in a gain of
$753,000. Excluding this one-time gain, total noninterest income increased by
$2.1 million, or 16.2%, in 2002 versus 2001.
Noninterest expense increased 2.5% from $33.8 million in 2001 to
$34.7 million in 2002. Salaries and wages increased $1.2 million, or 6.8%, to
$18.5 million in 2002 versus $17.3 million in 2001. This increase was
attributable to normal salary increases, increases related to the employee
401(k) plan and an expanded incentive compensation plan. Net occupancy expense
and equipment costs decreased from $4.9 million in 2001 to $4.7 million in
2002 as a result of the sale of five non-strategic branches during the second
half of 2001 and reductions in some operating expenses.
As a result of these factors, income before income tax expense
increased $4.0 million, or 27.1%, from $14.9 million in 2001 to $18.9 million
in 2002. Income tax expense was $6.5 million in 2002 versus $4.7 million in
2001. Income tax as a percentage of income before tax was 34.5% in 2002 versus
31.9% in 2001. The increase in income tax as a percentage of income before tax
was primarily due to greater profitability, as well as the adoption of FASB
147 during 2002, which resulted in the Company reversing previously amortized
goodwill and related taxes for the year of $378,000. Both of these resulted in
a higher percentage of income being subject to state franchise tax combined
with the Company being taxed at the 35% federal tax rate in 2002 versus the
34% rate in 2001. Net income increased $2.3 million, or 22.3%, to $12.4
million in 2002 versus $10.1 million in 2001. Basic earnings per share in 2002
were $2.13, an increase of 22.4%, versus $1.74 in 2001. The Company's net
income performance represented a 17.4% return on January 1, 2002,
stockholders' equity (excluding the equity adjustment related to SFAS No. 115)
versus 15.5% in 2001. The net income performance resulted in a 1.08% return on
average daily assets in 2002 versus 0.90% in 2001.
34
2001 versus 2000
The Company reported record net income of $10.1 million in 2001, an
increase of $791,000, or 8.5% versus net income of $9.3 million in 2000. Net
interest income increased $2.4 million, or 6.8%, to $37.4 million versus $35.0
million in 2000. Interest income decreased $3.4 million, or 4.3%, from $80.1
million in 2000 to $76.6 million in 2001. The decrease occurred as a result of
a 475 basis point reduction in the Bank's prime rate, which was driven by
corresponding cuts by the Federal Reserve Bank during 2001. Interest expense
decreased $5.8 million, or 12.9%, from $45.0 million in 2000 to $39.2 million
in 2001. The Company had a net interest margin of 3.71% in 2001 versus 3.73%
in 2000. Average earning assets increased by $68.4 million to $1.0 billion in
2001 versus $965.5 million in 2000. The primary driver was a $50.6 million
increase in the average daily loan balance. Deposits increased to fund the
loan growth during 2001, driven primarily by a $54.2 million increase in the
average daily time deposit balance.
Nonaccrual loans were $2.2 million, or 0.30% of total loans at year
end versus $206,000, or 0.03% of total loans at the end of 2000. There were
six relationships totaling $10.0 million classified as impaired as of December
31, 2001 versus one impaired loan totaling $1.4 million at the end of 2000.
One borrower represented $7.5 million of this amount in 2001. Subsequent to
year end, these notes were consolidated as part of a restructuring of the debt
into a single, amortizing loan. The borrower was current on all principal and
interest under this note. In addition, the Company improved its collateral
position by securing collateral totaling approximately $2.0 million of
marketable securities supporting the personal guarantee. Net charge-offs were
$1.4 million, or 0.19%, of average daily loans in 2001 versus $604,000, or
0.09%, of average daily loans in 2000. The provision for loan loss expense was
$2.2 million in 2001, resulting in an allowance for loan losses at December
31, 2001 of $7.9 million, which represented 1.08% of the loan portfolio,
versus $7.1 million in 2000, or 0.99%, of the loan portfolio. The higher
provision in 2001 versus 2000 was attributable to a number of factors, but was
primarily a result of the more challenging economic conditions during 2001 and
the resulting impact on asset quality. The Company's management continues to
monitor the adequacy of the provision based on loan levels, asset quality,
economic conditions and other factors that may influence the assessment of the
collectability of loans.
Noninterest income was $13.5 million in 2001 versus $10.9 million in
2000, an increase of $2.6 million, or 23.6%. The largest contributor to the
increase was a one-time gain of $753,000 relating to the sale of five
non-strategic branches in 2001. The increase in noninterest income was also
reflective of the falling rate environment which encouraged new mortgage and
mortgage refinancing activity. The increased mortgage activity resulted in a
rise in the gains on sale of mortgages, which were $1.2 million versus
$504,000 in 2000, an increase of 144.4%. Trust and brokerage fees increased
$515,000, or 24.1%, to $2.6 million versus $2.1 million in 2000, driven by
fees of approximately $156,000 related to the sale of several annuity
accounts. This portion of the increase may be non-recurring.
Noninterest expense increased 8.0% from $31.3 million in 2000 to
$33.8 million in 2001. Salaries and wages, exclusive of the $500,000 pension
plan curtailment gain in 2000, increased $897,000, or 5.5%, to $17.3 million
in 2001 versus $16.4 million in 2000. This increase was attributable to normal
salary increases. Other expense increased $1.3 million, or 12.8%, to $11.6
million in 2001 driven by costs associated with the Bank's compliance with new
regulations regarding its privacy policy, as well as increases in professional
fees and losses related to robberies during the year. Net occupancy expense
and equipment costs decreased from $5.1 million in 2000 to $4.9 million in
2001 as a result of the sale of five non-strategic branches during the second
half of 2001.
As a result of these factors, income before income tax expense
increased $1.4 million, or 10.6%, from $13.4 million in 2000 to $14.9 million
in 2001. Income tax expense was $4.7 million in 2001 versus $4.1 million in
2000. Income tax as a percentage of income before tax was 31.9% in 2001 versus
30.6% in 2000. The increase in income tax as a percentage of income before tax
resulted primarily from higher state franchise tax expense. Net income
increased $791,000, or 8.5%, to $10.1 million in 2001 versus $9.3 million in
2000. Basic earnings per share in 2001 were $1.74, an increase of 8.8% versus
$1.60 in 2000. The Company's net income performance represented a 15.5% return
on January 1, 2001, stockholders' equity (excluding the equity adjustment
related to SFAS No. 115) versus 15.8% in 2000. The net income performance
resulted in a 0.90% return on average daily assets in 2001 versus 0.88% in
2000.
35
FINANCIAL CONDITION
As of December 31, 2002, the Company had 41 offices serving twelve
counties in northern Indiana. The Company added one new office during 2002.
Since 1996, the Company has added fifteen new offices through acquisition and
internal growth. The Company opened an office in Dekalb County in November,
2002. The Company intends to open a thirteenth office in Kosciusko County in
2003 and also continues to evaluate additional expansion opportunities. The
Company will consider future acquisition and expansion opportunities with an
emphasis on markets that it believes would be receptive to its business
philosophy of local, independent banking. The Company sold five southern
market branches during the third quarter of 2001 in order to help position the
Company to focus on growth opportunities in its core northern markets, which
are anchored by the cities of Warsaw, Fort Wayne, Elkhart and South Bend,
Indiana.
Total assets of the Company were $1.248 billion as of December 31,
2002, an increase of $110.1 million, or 9.7%, when compared to $1.138 billion
as of December 31, 2001.
Total cash and cash equivalents increased by $8.0 million, or 10.1%,
to $87.1 million at December 31, 2002 from $79.1 million at December 31, 2001.
The increase was primarily attributable to funding needs associated with a
corresponding increase in the Company's deposits.
Total securities available for sale increased by $2.5 million, or
0.9%, to $274.1 million at December 31, 2002 from $271.6 million at December
31, 2001. The increase was a result of a number of transactions in the
securities portfolio. Paydowns of $74.1 million were received, and the
amortization of premiums, net of the accretion of discounts, was $1.8 million.
Maturities, calls and sales of securities totaled $14.9 million. These
portfolio decreases were offset by securities purchases totaling $89.4 million
and an increase of $3.9 million in the fair value of the securities. The
investment portfolio is managed to limit the Company's exposure to risk and
contains mostly collateralized mortgage obligations and other securities which
are either directly or indirectly backed by the federal government or a local
municipal government. The investment portfolio did not contain any corporate
debt instruments or trust preferred instruments as of December 31, 2002.
Real estate mortgages held for sale increased by $1.9 million, or
22.4%, to $10.4 million at December 31, 2002 from $8.5 million at December 31,
2001. The balance of this asset category is subject to a high degree of
variability depending on, among other things, recent mortgage loan rates and
the timing of loan sales into the secondary market. During 2002, $93.8 million
in real estate mortgages were originated for sale and $91.8 million in
mortgages were sold, compared to $68.3 and $60.0 in 2001.
Total loans, excluding real estate mortgages held for sale, increased
by $84.5 million or 11.4% to $822.7 million at December 31, 2002 from $738.2
million at December 31, 2001. The mix of loan types within the Company's
portfolio extended a trend toward a higher percentage of the total loan
portfolio being in commercial loans. The portfolio at year-end 2002 reflected
76% commercial, 6% real estate and 18% consumer loans compared to 73%
commercial, 6% real estate and 21% consumer loans at December 31, 2001.
At December 31, 2002, the allowance for loan losses was $9.5 million,
or 1.16% of total loans outstanding, versus $7.9 million, or 1.08%, of total
loans outstanding at December 31, 2001. The process of identifying probable
credit losses is a subjective process. Therefore, the Company maintains a
general allowance to cover probable credit losses within the entire portfolio.
The methodology management uses to determine the adequacy of the loan loss
reserve includes the following considerations.
The Company has a relatively high percentage of commercial and
commercial real estate loans, most of which are extended to small or
medium-sized businesses. Commercial loans represent higher dollar loans to
fewer customers and therefore higher credit risk. Pricing is adjusted to
manage the higher credit risk associated with these types of loans. The
majority of fixed rate mortgage loans, which represent increased interest rate
risk, are sold in the secondary market, as well as some variable rate mortgage
loans. The remainder of the variable rate mortgage loans and a small number of
fixed rate mortgage loans are retained. Management believes the allowance for
loan losses is at a level commensurate with the overall risk exposure of the
loan portfolio. However, as a result of the difficult economic climate,
certain borrowers may experience difficulty and the level of nonperforming
loans, charge-offs, and delinquencies could rise and require further increases
in the provision.
36
Loans are charged against the allowance for loan losses when
management believes that the collectibility of the principal is unlikely.
Subsequent recoveries, if any, are credited to the allowance. The allowance is
an amount that management believes will be adequate to absorb probable
incurred losses relating to specifically identified loans based on an
evaluation as well as other probable incurred losses inherent in the loan
portfolio. The evaluations take into consideration such factors as changes in
the nature and volume of the loan portfolio, overall portfolio quality, review
of specific problem loans, and current economic conditions that may affect the
borrower's ability to repay. Management also considers trends in adversely
classified loans based upon a monthly review of those credits. Since December
31, 2001, the percentage of loans internally adversely classified has
increased. In accordance with FASB Statements 5 and 114, the allowance is
provided for losses that have been incurred as of the balance sheet date and
is based on past events and current economic conditions, and does not include
the effects of expected losses on specific loans or groups of loans that are
related to future events or expected changes in economic conditions.
The Company has experienced growth in total loans over the last three
years of $168.8 million, or 25.8%. The concentration of this loan growth was
in the commercial loan portfolio. Commercial loans comprised 76%, 73% and 68%
of the total loan portfolio at December 31, 2002, 2001 and 2000.
Traditionally, this type of lending may have more credit risk than other types
of lending because of the size and diversity of the credits. The Company
manages this risk by adjusting its pricing to the perceived risk of each
individual credit and by diversifying the portfolio by customer, product,
industry and geography. Management believes that it is prudent to continue to
provide for loan losses in a manner consistent with its historical approach
due to loan growth described above and current economic conditions.
As a result of the methodology in determining the adequacy of the
allowance for loan losses, the provision for loan losses was $3.1 million in
2002 versus $2.2 million in 2001. At December 31, 2002, total nonperforming
loans increased by $5.1 million to $7.6 million from $2.5 million at December
31, 2001. Loans delinquent 90 days or more that were included in the
accompanying financial statements as accruing totaled $3.4 million versus
$264,000 at December 31, 2001. Total impaired loans decreased by $2.7 million
to $7.3 million at December 31, 2002 from $10.0 million at December 31, 2001.
The increase in loans delinquent 90 days or more and still accruing resulted
primarily from one commercial credit totaling $3.2 million. The renewal of
this loan has been complicated as more than one bank is involved, and
therefore it is past maturity. While this loan is current as to principal and
interest, there can be no assurance that it will remain current given the
circumstances involved. The increase in nonperforming loans resulted from the
addition of the aforementioned loan and one additional commercial loan of $1.7
million. The decrease in impaired loans was due primarily to the removal of
one credit that had a balance of $7.5 million at December 31, 2001 offset by
the addition of the aforementioned loan of $3.2 million. The impaired loan
that was removed from impaired status has been current on principle and
interest for most of 2002 and was recently restructured as a personal loan to
the principal of the corporate entity with the support of both the existing
collateral and new collateral in the form of life insurance and additional
pledged securities. In addition, full payment under the loan terms continues
to be expected. The impaired loan total includes $4.1 million in nonaccrual
loans. The Company allocated $1.3 million and $1.4 million of the allowance
for loan losses to the impaired loans in 2002 and 2001. A loan is impaired
when full payment under the original loan terms is not expected. Impairment is
evaluated in total for smaller-balance loans of similar nature such as
residential mortgage, consumer, and credit card loans, and on an individual
loan basis for other loans. If a loan is impaired, a portion of the allowance
may be allocated so that the loan is reported, net, at the present value of
estimated future cash flows using the loan's existing rate or at the fair
value of collateral if repayment is expected solely from the collateral.
Overall, the trend in nonperforming loans reflects the softened
economic conditions in some of the Company's markets, as well as the general
economic weakness prevalent throughout much of the country. The Company
believes that its overall expansion strategy has employed a credit risk
management approach that promotes diversification and therefore creates a
balanced portfolio with appropriate risk parameters.
Total deposits increased by $119.9 million, or 15.1%, to $913.3
million at December 31, 2002 from $793.4 million at December 31, 2001. The
increase resulted from increases of $95.9 million in certificates of deposit,
$23.2 million in demand deposits, $7.5 million in NOW accounts and $5.6
million in savings accounts. Offsetting these increases were declines of $7.9
million in Investors' Weekly accounts and $3.9 million in money market
accounts.
37
Total short-term borrowings decreased by $47.1 million, or 20.3%, to
$185.0 million at December 31, 2002 from $232.1 million at December 31, 2001.
The decrease resulted primarily from a $24.1 million decline in securities
sold under agreements to repurchase combined with a $19.0 million decline in
federal funds purchases and a $4 million decline in other borrowings,
primarily short-term advances from the Federal Home Loan Bank of Indianapolis.
The Company believes that a strong, appropriately managed capital
position is critical to long-term earnings and expansion. Bank regulatory
agencies exclude the market value adjustment created by SFAS No. 115 (AFS
adjustment) from capital adequacy calculations. Excluding this adjustment from
the calculation, the Company had a total risk-based capital ratio of 11.1% and
Tier I risk-based capital ratio of 10.1% as of December 31, 2002. These ratios
met or exceeded the Federal Reserve's "well-capitalized" minimums of 10.0% and
6.0%, respectively.
The ability to maintain and grow these ratios is a function of the
balance between net income and a prudent dividend policy. Total stockholders'
equity increased by 14.1% to $83.9 million as of December 31, 2002, from $73.5
million as of December 31, 2001. The increase in 2002 resulted from net income
of $12.4 million less the following factors: (1) cash dividends of $3.9
million, (2) a favorable change in the AFS adjustment of $2.5 million, net of
tax, (3) a negative minimum pension liability adjustment of $343,000, net of
tax, and (4) $197,000 for the purchase of treasury stock. The 2002 AFS
adjustment reflected a 299 basis point decrease in the two to five year U.S.
Treasury rates during 2002. Total stockholders' equity increased by 13.2% to
$73.5 million as of December 31, 2001, from $65,0 million as of December 31,
2000. The increase in 2001 resulted from net income of $10.1 million less the
following factors: (1) cash dividends of $3.5 million, (2) a favorable change
in the AFS adjustment of $2.6 million, net of tax, (3) a negative minimum
pension liability adjustment of $441,000, net of tax, and (4) $125,000 for the
purchase of treasury stock. This 2001 AFS adjustment reflected a 274 basis
point decrease in the two to five year U.S. Treasury rates during 2001. Due to
the fact that the securities portfolio is primarily fixed rate, a negative
equity adjustment would likely occur if interest rates increased. Management
has factored this into the determination of the size of the AFS portfolio to
assure that stockholders' equity is adequate under various scenarios.
Other than those indicated in this management's discussion,
management is not aware of any known trends, events or uncertainties that
would have a material effect on the Company's liquidity, capital and results
of operations. In addition, management is not aware of any regulatory
recommendations that, if implemented, would have such an effect.
Certain of the Company's accounting policies are important to the
portrayal of the Company's financial condition, since they require management
to make difficult, complex or subjective judgments, some of which may relate
to matters that are inherently uncertain. Estimates associated with these
policies are susceptible to material changes as a result of changes in facts
and circumstances. Some of the facts and circumstances which could affect
these judgments include changes in interest rates, in the performance of the
economy or in the financial condition of borrowers. Management believes that
its critical accounting policies include determining the allowance for loan
losses, determining the fair value of securities and other financial
instruments and the valuation of mortgage servicing rights.
Liquidity
Management maintains a liquidity position that it believes will
adequately provide funding for loan demand and deposit run-off that may occur
in the normal course of business. The Company relies on a number of different
sources in order to meet these potential liquidity demands. The primary
sources are increases in deposit accounts and cash flows from loan payments
and the securities portfolio. Given current prepayment assumptions, the cash
flow from the securities portfolio is expected to provide approximately $81.4
million of funding in 2003.
In addition to these primary sources of funds, management has several
secondary sources available to meet potential funding requirements. As of
December 31, 2002, the Company had $110.0 million in Federal Fund lines with
correspondent banks and may borrow up to $100 million at the Federal Home Loan
Bank of Indianapolis. The Company has its securities in the available for sale
(AFS) portfolio. Therefore the Company may sell securities to meet funding
demands. Management believes that the securities in the AFS portfolio are of
high quality and would therefore be marketable. Approximately 86.7% of this
portfolio is comprised of U.S. Treasury securities, Federal agency securities
38
or mortgage-backed securities directly or indirectly backed by the Federal
government. In addition, the Company has historically sold mortgage loans on
the secondary market to reduce interest rate risk and to create an additional
source of funding.
During 2002, cash and cash equivalents increased $8.0 million from
$79.1 million as of December 31, 2001 to $87.1 million as of December 31,
2002. A $119.9 million increase in deposit balances was the primary driver
behind this change. Other sources of funds included proceeds from the sale of
loans of $93.1 million, proceeds from calls and maturities of securities
totaling $83.4 million and proceeds from long term borrowings of $20.0
million. Uses of funds were purchases of securities of $89.4 million, an
increase in net loans of $86.0 million, which is net of approximately $93.8
million of loans originated and sold during 2002, and an increase in other
assets of $11.0 million due primarily to payments for an investment in bank
owned life insurance totaling $13.4 million.
During 2001, cash and cash equivalents decreased $9.9 million from
$89.0 million as of December 2000 to $79.1 million as of December 31, 2001.
The primary reason for this decrease was the effect of the branch sale. Other
uses of funds were purchases of securities, an increase in loans and payments
for the branch sale. Purchases of securities totaled $71.7 million. Net loans
increased $46.6 million in 2001, which was net of approximately $68.3 million
of loans originated and sold during 2001. Payments for the branch sale were
$40.2 million. The major sources of funds included proceeds from sales, calls
and maturities of securities of $96.5 million and proceeds from the sale of
loans of $60.8 million. Lower interest rates created more demand for
residential real estate mortgage loans and resulted in an increase in proceeds
from the sale of mortgage loans.
During 2000, cash and cash equivalents increased $25.9 million from
$63.1 million to $89.0 million as of December 31, 2000. A $97.1 million
increase in deposit balances was the primary driver behind this change. Other
sources of funds included proceeds from calls and maturities of securities
totaling $38.8 million and proceeds from the sales of loans of $22.5 million.
A rising rate environment contributed to a slowing demand for residential real
estate mortgage loans and resulted in a decrease in proceeds from the sale of
mortgage loans. In addition, the Company did not generate any securities gains
in 2000 versus securities gains of $1.3 million in 1999. The major uses of
funds included an increase in loans, purchases of securities and fixed asset
additions. Loans increased approximately $65.6 million, which was net of
approximately $21.4 million of loans originated and sold during 2000.
Purchases of securities totaled $54.3 million and purchases of land, premises
and equipment were $2.4 million.
The following tables disclose information on the maturity of the
Company's contractual long-term obligations and commitments.
Payments Due by Period
---------------------------------------------------------------------------------
One year After 5
Total or less 1-3 years 4-5 years years
------------- ------------- ------------- ------------- -------------
(in thousands)
Long-term debt $ 31,348 $ 11,300 $ 20,000 $ 0 $ 48
Trust preferred capital securities $ 19,345 $ 0 $ 0 $ 0 $ 19,345
------------- ------------- ------------- ------------- -------------
Total contractual long-term
cash obligations $ 50,693 $ 11,300 $ 20,000 $ 0 $ 19,393
============= ============= ============= ============= =============
Amount of Commitment Expiration Per Period
--------------------------------------------------
Total
Amount One year or Over one
Committed less year
------------- ------------- -------------
(in thousands)
Unused loan commitments $ 307,836 $ 217,134 $ 90,702
Standby letters of credit $ 8,365 $ 7,082 $ 1,283
------------- ------------- -------------
Total commitments and letters of credit $ 316,201 $ 224,216 $ 91,985
============= ============= =============
39
Inflation
The effects of price changes and inflation can vary substantially for
most financial institutions. While management believes that inflation affects
the growth of total assets, it believes that it is difficult to assess the
overall impact. Management believes this to be the case due to the fact that
generally neither the timing nor the magnitude of the inflationary changes in
the consumer price index ("CPI") coincides with changes in interest rates. The
price of one or more of the components of the CPI may fluctuate considerably
and thereby influence the overall CPI without having a corresponding affect on
interest rates or upon the cost of those goods and services normally purchased
by the Company. In years of high inflation and high interest rates,
intermediate and long-term interest rates tend to increase, thereby adversely
impacting the market values of investment securities, mortgage loans and other
long-term fixed rate loans. In addition, higher short-term interest rates
caused by inflation tend to increase the cost of funds. In other years, the
reverse situation may occur.
ITEM 7a. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Asset/Liability Management (ALCO) and Securities
Interest rate risk represents the Company's primary market risk
exposure. The Company does not have material exposure to foreign currency
exchange risk, does not own any material derivative financial instruments and
does not maintain a trading portfolio. The Board of Directors annually reviews
and approves the ALCO policy used to manage interest rate risk. This policy
sets guidelines for balance sheet structure, which are designed to protect the
Company from the impact that interest rate changes could have on net income,
but does not necessarily indicate the effect on future net interest income.
Given the Company's mix of interest bearing liabilities and interest bearing
assets on December 31, 2002, the net interest margin could be expected to
decline in a falling interest rate environment and conversely, to increase in
a rising rate environment. During 2001, the Federal Open Market Committee
(FOMC) lowered the target for the Federal Funds rate on eleven occasions,
decreasing the rate from 6.50% on January 1, 2001 to 1.75% by December 31,
2001, a total of 475 basis points. These actions caused a corresponding
decrease in Lake City Bank's prime rate from 9.50% to 4.75%. Due to the asset
sensitive nature of the balance sheet, these rate decreases had an adverse
impact on the Company's net interest margin during fiscal 2001. This low rate
environment continued to have an adverse effect on the Company's net interest
margin during fiscal year 2002. In November of 2002, the FOMC lowered the Fed
Funds target rate another .50% to 1.25%. Lake City Bank's prime rate was also
lowered .50% to 4.25%, which had an additional adverse effect on the net
interest margin due to the asset sensitivity of the balance sheet. The Company
utilizes a computer program to stress test the balance sheet under a wide
variety of interest rate scenarios. The model quantifies the income impact of
changes in customer preference for products, basis risk between the assets and
the liabilities that support them and the risk inherent in different yield
curves, as well as other factors. The ALCO committee reviews these possible
outcomes and makes loan, investment and deposit decisions that maintain
reasonable balance sheet structure in light of potential interest rate
movements. Although management does not consider GAP ratios in this planning,
the information can be used in a general fashion to look at asset and
liability mismatches. The Company's cumulative repricing GAP ratio as of
December 31, 2002, for the next 12 months, was 4.44% of earning assets.
The following tables provide information regarding the Company's
financial instruments used for purposes other than trading that are sensitive
to changes in interest rates. For loans, securities and liabilities with
contractual maturities, the tables present principal cash flows and related
weighted-average interest rates by contractual maturities, as well as the
Company's historical experience of the impact of interest-rate fluctuations on
the prepayment of residential and home equity loans and mortgage-backed
securities. For core deposits such as demand deposits, interest-bearing
checking, savings and money market deposits that have no contractual maturity,
the tables present principal cash flows and, as applicable, related
weighted-average interest rates. These factors are based upon the Company's
historical experience, management's judgment and statistical analysis, as
applicable, concerning their most likely withdrawal behaviors.
Weighted-average variable rates are based upon rates existing at the reporting
date.
40
2002
Principal/Notional Amount Maturing in:
-----------------------------------------------------------------------------------------
(in thousands)
-----------------------------------------------------------------------------------------
Fair
Value
Year 1 Year 2 Year 3 Year 4 Year 5 Thereafter Total 12/31/02
--------- --------- --------- --------- --------- ---------- ---------- ----------
Rate sensitive assets:
Fixed interest rate loans $ 118,552 $ 90,362 $ 54,746 $ 31,689 $ 21,441 $ 7,199 $ 323,989 $ 329,494
Average interest rate 7.01% 7.46% 7.29% 7.28% 6.72% 7.54% 7.20%
Variable interest rate loans $ 472,951 $ 1,229 $ 1,187 $ 1,147 $ 1,139 $ 31,429 $ 509,082 $ 507,516
Average interest rate 4.53% 7.74% 7.33% 6.97% 6.64% 4.85% 4.58%
Fixed interest rate securities $ 93,507 $ 90,190 $ 28,908 $ 10,261 $ 5,944 $ 36,801 $ 265,611 $ 273,017
Average interest rate 6.21% 6.06% 5.75% 6.16% 5.50% 5.00% 5.18%
Variable interest rate securities $ 110 $ 110 $ 110 $ 110 $ 110 $ 506 $ 1,056 $ 1,088
Average interest rate 4.59% 5.22% 5.22% 5.22% 5.22% 5.44% 5.30%
Other interest-bearing assets $ 13,000 - - - - - $ 13,000 $ 13,000
Average interest rate 1.25% - - - - - 1.25%
Rate sensitive liabilities:
Noninterest bearing checking $ 10,025 $ 8,945 $ 1,620 $ 1,542 $ 2,256 $ 168,399 $ 192,787 $ 192,787
Average interest rate - - - - - - -
Savings & interest bearing checking $ 17,448 $ 15,754 $ 13,991 $ 12,708 $ 10,190 $ 213,992 $ 284,083 $ 284,083
Average interest rate 1.23% 1.23% 1.23% 1.23% 1.23% 0.98% 1.05%
Time deposits $ 335,796 $ 45,339 $ 22,332 $ 3,229 $ 28,298 $ 1,461 $ 436,455 $ 442,948
Average interest rate 2.32% 3.84% 4.06% 3.82% 4.92% 2.99% 2.75%
Fixed interest rate borrowings $ 170,268 $ 20,000 - - - $ 19,393 $ 209,661 $ 211,717
Average interest rate 1.28% 3.96% - - - 8.95% 2.24%
Variable interest rate borrowings $ 26,000 - - - - - $ 26,000 $ 26,000
Average interest rate 1.33% - - - - - 1.33%
2001
Principal/Notional Amount Maturing in:
-----------------------------------------------------------------------------------------
(in thousands)
-----------------------------------------------------------------------------------------
Fair
Value
Year 1 Year 2 Year 3 Year 4 Year 5 Thereafter Total 12/31/01
--------- --------- --------- --------- --------- ---------- ---------- ----------
Rate sensitive assets:
Fixed interest rate loans $ 117,107 $ 79,417 $ 81,748 $ 27,936 $ 31,522 $ 9,918 $ 347,648 $ 355,048
Average interest rate 7.65% 8.28% 7.81% 8.21% 7.02% 7.70% 7.82%
Variable interest rate loans $ 361,692 $ 1,157 $ 1,122 $ 1,117 $ 1,075 $ 32,905 $ 399,068 $ 398,909
Average interest rate 5.31% 8.55% 8.08% 7.63% 7.28% 5.60% 5.36%
Fixed interest rate securities $ 76,546 $ 55,842 $ 38,120 $ 28,114 $ 14,178 $ 53,811 $ 266,611 $ 270,297
Average interest rate 6.46% 6.41% 6.12% 5.91% 6.46% 5.70% 6.19%
Variable interest rate securities $ 154 $ 154 $ 154 $ 154 $ 154 $ 707 $ 1,477 $ 1,342
Average interest rate 4.99% 5.29% 5.29% 5.29% 5.29% 5.35% 5.29%
Other interest-bearing assets $ 8,904 - - - - - $ 8,904 $ 8,904
Average interest rate 1.75% - - - - - 1.75%
Rate sensitive liabilities:
Noninterest bearing checking $ 8,817 $ 7,867 $ 1,424 $ 1,356 $ 1,984 $ 148,101 $ 169,549 $ 169,549
Average interest rate - - - - - - -
Savings & interest bearing checking $ 17,810 $ 16,080 $ 14,280 $ 12,971 $ 10,401 $ 211,710 $ 283,252 $ 283,252
Average interest rate 1.82% 1.82% 1.82% 1.82% 1.82% 1.52% 1.61%
Time deposits $ 288,527 $ 31,211 $ 16,732 $ 2,963 $ 591 $ 555 $ 340,579 $ 343,252
Average interest rate 3.58% 4.51% 4.87% 5.40% 4.69% 3.87% 3.75%
Fixed interest rate borrowings $ 232,117 $ 11,389 - - - $ 19,318 $ 262,824 $ 265,424
Average interest rate 2.15% 4.05% - - - 9.26% 2.75%
<FN>
These tables illustrate the Company's growth during 2002 and the effect of the rate cuts during fiscal years 2002 and
2001. The changes in the balances primarily reflect the growth of the Company's existing offices and acceptance of the one office
opened during 2002. The increase in loans during 2002 was driven primarily by strong growth in the Company's commercial loan
portfolio. The average interest rates show the effect of the low interest rate environment during the year.
</FN>
41
The Company's investment portfolio consists of U.S. Treasuries,
agencies, mortgage-backed securities and municipal bonds. During 2002,
purchases in the securities portfolio consisted primarily of mortgage-backed
and municipal securities. As of December 31, 2002, the Company's investment in
mortgage-backed securities represented approximately 81% of total securities
and consisted of CMOs and mortgage pools issued by GNMA, FNMA and FHLMC. The
federal government backs these securities, directly or indirectly. All
mortgage securities purchased by the Company are within risk tolerances for
price, prepayment, extension and original life risk characteristics contained
in the Company's investment policy. The Company uses Bloomberg analytics to
evaluate and monitor all purchases. As of December 31, 2002, the securities in
the AFS portfolio had a one and one-third year average life with approximately
8% price depreciation in the event of a 300 basis points upward movement. The
portfolio had approximately 4% price appreciation in the event of a 300 basis
point downward movement in rates. As of December 31, 2002, all mortgage
securities were performing in a manner consistent with management's original
expectations.
42
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
CONSOLIDATED BALANCE SHEETS (in thousands except share data)
- ---------------------------------------------------------------------------------------------------------------------------------
December 31 2002 2001
----------- -----------
ASSETS
Cash and due from banks $ 74,149 $ 70,219
Short-term investments 13,000 8,904
----------- -----------
Total cash and cash equivalents . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 87,149 79,123
Securities available for sale (carried at fair value) 274,105 271,639
Real estate mortgages held for sale 10,395 8,493
Total loans 822,676 738,223
Less allowance for loan losses 9,533 7,946
----------- -----------
Net loans . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 813,143 730,277
Land, premises and equipment, net 24,768 24,252
Accrued income receivable 4,999 5,441
Goodwill 4,970 0
Other intangible assets 1,042 6,161
Other assets 27,215 12,326
----------- -----------
Total assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 1,247,786 $ 1,137,712
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES
Noninterest bearing deposits $ 192,787 $ 169,549
Interest bearing deposits 720,538 623,831
----------- -----------
Total deposits . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 913,325 793,380
Short-term borrowings
Federal funds purchased 30,000 49,000
Securities sold under agreements to repurchase 124,968 149,117
U.S. Treasury demand notes 4,000 4,000
Other short-term borrowings 26,000 30,000
----------- -----------
Total short-term borrowings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 184,968 232,117
Accrued expenses payable 12,503 6,131
Other liabilities 2,417 1,843
Long-term borrowings 31,348 11,389
Guaranteed preferred beneficial interests in
Company's subordinated debentures 19,345 19,318
----------- -----------
Total liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,163,906 1,064,178
Commitments, off-balance sheet risks and contingencies
STOCKHOLDERS' EQUITY
Common stock: 90,000,000 shares authorized, no par value,
5,813,984 shares issued, 5,767,010 outstanding as of December 31, 2002;
5,813,984 shares issued, 5,775,632 outstanding as of December 31, 2001 1,453 1,453
Additional paid-in capital 8,537 8,537
Retained earnings 70,819 62,378
Accumulated other comprehensive income (loss) 3,937 1,835
Treasury stock, at cost (2002 - 46,974 shares, 2001 - 38,352 shares) (866) (669)
----------- -----------
Total stockholders' equity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 83,880 73,534
----------- -----------
Total liabilities and stockholders' equity . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 1,247,786 $ 1,137,712
=========== ===========
<FN>
The accompanying notes are an integral part of these consolidated financial statements
</FN>
43
CONSOLIDATED STATEMENTS OF INCOME (in thousands except share and per share data)
- ---------------------------------------------------------------------------------------------------------------------------------
Year Ended December 31 2002 2001 2000
----------- ----------- -----------
NET INTEREST INCOME
Interest and fees on loans
Taxable $ 49,083 $ 58,348 $ 61,554
Tax-exempt 181 138 142
Interest and dividends on securities
Taxable 13,205 15,874 16,150
Tax-exempt 1,607 1,770 1,782
Interest on short-term investments 259 485 422
----------- ----------- -----------
Total interest income 64,335 76,615 80,050
Interest on deposits 17,091 29,850 32,395
Interest on borrowings
Short-term 2,552 6,904 10,083
Long-term 2,886 2,447 2,523
----------- ----------- -----------
Total interest expense 22,529 39,201 45,001
----------- ----------- -----------
NET INTEREST INCOME . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 41,806 37,414 35,049
Provision for loan losses 3,056 2,225 1,206
----------- ----------- -----------
NET INTEREST INCOME AFTER PROVISION FOR
LOAN LOSSES . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 38,750 35,189 33,843
NONINTEREST INCOME
Trust and brokerage income 2,451 2,648 2,133
Service charges on deposits 6,717 5,326 4,721
Other income 3,670 3,419 3,559
Net gain on sale of branches 0 753 0
Net gains on the sale of loans held for sale 1,914 1,232 504
Net securities gains 55 120 0
----------- ----------- -----------
Total noninterest income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14,807 13,498 10,917
NONINTEREST EXPENSE
Salaries and employee benefits 18,501 17,324 15,927
Net occupancy expense 2,174 2,080 2,095
Equipment costs 2,483 2,801 2,991
Other expense 11,513 11,625 10,309
----------- ----------- -----------
Total noninterest expense . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 34,671 33,830 31,322
----------- ----------- -----------
INCOME BEFORE INCOME TAX EXPENSE 18,886 14,857 13,438
Income tax expense 6,520 4,744 4,116
----------- ----------- -----------
NET INCOME . . . . . .. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 12,366 $ 10,113 $ 9,322
=========== =========== ===========
BASIC WEIGHTED AVERAGE COMMON SHARES OUTSTANDING 5,813,984 5,813,984 5,813,984
=========== =========== ===========
BASIC EARNINGS PER COMMON SHARE $ 2.13 $ 1.74 $ 1.60
=========== =========== ===========
DILUTED WEIGHTED AVERAGE COMMON SHARES OUTSTANDING 5,958,386 5,841,196 5,813,999
=========== =========== ===========
DILUTED EARNINGS PER COMMON SHARE $ 2.08 $ 1.73 $ 1.60
=========== =========== ===========
<FN>
The accompanying notes are an integral part of these consolidated financial statements.
</FN>
44
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (in thousands except share and per share data)
- ---------------------------------------------------------------------------------------------------------------------------------
Accumulated
Additional Other Total
Common Paid-in Retained Comprehensive Treasury Stockholders'
Stock Capital Earnings Income (Loss) Stock Equity
----------- ----------- ----------- ------------- ----------- -------------
Balance at January 1, 2000 $ 1,453 $ 8,537 $ 49,422 $ (4,797) $ (421) $ 54,194
Comprehensive income:
Net Income 9,322 9,322
Unrealized gain/(loss) on
available for sale securities
arising during the period 4,590 4,590
Reclassification adjustments
for accumulated (gains)
losses included in net income 0 0
Comprehensive income (net of -------------
taxes of $3,011) 13,912
Cash dividends declared, $.52
per share (3,010) (3,010)
Acquisition of treasury stock (123) (123)
----------- ----------- ----------- ------------- ----------- -------------
Balance at December 31, 2000 1,453 8,537 55,734 (207) (544) 64,973
Comprehensive income:
Net Income 10,113 10,113
Unrealized gain/(loss) on
available for sale securities
arising during the period 2,556 2,556
Reclassification adjustments
for accumulated (gains)
losses included in net income,
net of taxes (73) (73)
Net securities gain/(loss) ------------- -------------
activity during the period
(net of taxes of $1,411) 2,483 2,483
Minimum pension liability adjustment
(net of taxes of $(290)) (441) (441)
-------------
Comprehensive income 12,155
Cash dividends declared, $.60
per share (3,469) (3,469)
Acquisition of treasury stock (125) (125)
----------- ----------- ----------- ------------- ----------- -------------
Balance at December 31, 2001 1,453 8,537 62,378 1,835 (669) 73,534
Comprehensive income:
Net Income 12,366 12,366
Unrealized gain/(loss) on
available for sale securities
arising during the period 2,478 2,478
Reclassification adjustments
for accumulated (gains)
losses included in net income,
net of taxes (33) (33)
Net securities gain/(loss) ------------- -------------
activity during the period
(net of taxes of $1,442) 2,445 2,445
Minimum pension liability adjustment
(net of taxes of $(245)) (343) (343)
-------------
Comprehensive income 14,468
Cash dividends declared, $.68
per share (3,925) (3,925)
Acquisition of treasury stock (197) (197)
----------- ----------- ----------- ------------- ----------- ------------
Balance at December 31, 2002 $ 1,453 $ 8,537 $ 70,819 $ 3,937 $ (866) $ 83,880
=========== =========== =========== ============= =========== ============
<FN>
The accompanying notes are an integral part of these consolidated financial statements.
</FN>
45
CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands)
- ---------------------------------------------------------------------------------------------------------------------------------
Year Ended December 31 2002 2001 2000
----------- ----------- -----------
Cash flows from operating activities:
Net income $ 12,366 $ 10,113 $ 9,322
Adjustments to reconcile net income to net cash from operating
activities:
Depreciation 2,291 2,338 2,429
Provision for loan losses 3,056 2,225 1,206
Pension plan curtailment gain 0 0 (500)
Amortization of intangible assets 176 825 925
Amortization of loan servicing rights 452 307 233
Net impairment of loan servicing rights 334 388 0
Loans originated for sale (93,751) (68,306) (21,430)
Net gain on sale of loans (1,914) (1,232) (504)
Proceeds from sale of loans 93,142 60,833 22,420
Net (gain) loss on sale of premises and equipment 25 (14) 0
Net (gain) on sale of branches 0 (753) 0
Net gain on sale of securities available for sale (55) (120) 0
Net securities amortization 1,753 1,131 970
(Increase) decrease in income receivable 442 1,303 (1,324)
Increase (decrease) in accrued expenses payable 1,666 (2,291) 2,275
(Increase) decrease in other assets 2,417 192 (153)
Increase (decrease) in other liabilities (680) (127) (657)
----------- ----------- -----------
Total adjustments 9,354 (3,301) 5,890
----------- ----------- -----------
Net cash from operating activities . . . . . . . . . . . . . . . . . . . . . . 21,720 6,812 15,212
Cash flows from investing activities:
Proceeds from sale of securities available for sale 5,771 18,450 0
Proceeds from maturities, calls and principal paydowns of
securities available for sale 83,371 78,067 38,750
Purchases of securities available for sale (89,419) (71,665) (54,306)
Purchase of life insurance (13,368) 0 0
Net increase in total loans (85,966) (46,643) (65,582)
Proceeds from sales of land, premises and equipment 11 0 436
Purchases of land, premises and equipment (2,843) (1,476) (2,354)
Net payments from branch divestitures 0 (40,233) 0
----------- ----------- -----------
Net cash from investing activities . . . . . . . . . . . . . . . . . . . . . . . . (102,443) (63,500) (83,056)
Cash flows from financing activities:
Net increase in total deposits 119,945 18,300 97,086
Proceeds from short-term borrowings 28,841,949 32,481,163 24,058,107
Payments on short-term borrowings (28,889,098) (32,449,124) (24,053,403)
Proceeds from long-term borrowings 20,000 0 0
Payments on long-term borrowings (41) (44) (5,040)
Dividends paid (3,809) (3,352) (2,894)
Purchase of treasury stock (197) (125) (123)
----------- ----------- -----------
Net cash from financing activities . . . . . . . . . . . . . . . . . . . . . . . . 88,749 46,818 93,733
----------- ----------- -----------
Net increase in cash and cash equivalents 8,026 (9,870) 25,889
Cash and cash equivalents at beginning of the year 79,123 88,993 63,104
----------- ----------- -----------
Cash and cash equivalents at end of year . . . . . . . . . . . . . . . . . . . . . . . $ 87,149 $ 79,123 $ 88,993
=========== =========== ===========
Cash paid during the year for:
Interest $ 22,610 $ 40,963 $ 43,351
Income taxes $ 7,249 $ 5,345 $ 4,605
Loans transferred to other real estate $ 44 $ 1,435 $ 0
<FN>
The accompanying notes are an integral part of these consolidated financial statements.
</FN>
46
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Nature of Operations and Principles of Consolidation:
The consolidated financial statements include Lakeland Financial
Corporation and its wholly-owned subsidiaries, Lake City Bank and Lakeland
Capital Trust, together referred to as (the "Company"). Also included in the
consolidated financial statements is LCB Investments Limited, a wholly-owned
subsidiary of Lake City Bank, which is a Bermuda corporation that manages a
portion of the Bank's investment portfolio. All intercompany transactions and
balances are eliminated in consolidation.
The Company provides financial services through its subsidiary, Lake
City Bank (the "Bank"), a full-service commercial bank with 41 branch offices
in twelve counties in northern Indiana. The Company provides commercial,
retail, trust and investment services to its customers. Commercial products
include commercial loans and technology-driven solutions to commercial
customers' cash management needs such as CommerciaLink Internet business
banking and on-line cash management services. Retail banking clients are
provided a wide array of traditional retail banking services, including
lending, deposit and investment services. Retail lending programs are focused
on mortgage loans, home equity lines of credit and traditional retail
installment loans. The Company also has an Honors Private Banking program that
is positioned to serve the more financially sophisticated customer with a menu
including brokerage and trust services, executive mortgage programs and access
to financial planning seminars and programs. The Bank's Prospero Program is
dedicated to serving the expanding financial needs of the Latino community.
The Company provides trust clients with traditional personal and corporate
trust services. The Company also provides retail brokerage services, including
an array of financial and investment products such as annuities and life
insurance. Other financial instruments, which represent potential
concentrations of credit risk, include deposit accounts in other financial
institutions.
Use of Estimates:
To prepare financial statements in conformity with accounting
principles generally accepted in the United States of America, management
makes estimates and assumptions based on available information. These
estimates and assumptions affect the amounts reported in the financial
statements and the disclosures provided and future results could differ. The
allowance for loan losses, the fair values of financial instruments and the
fair value of loan servicing rights are particularly subject to change.
Cash Flows:
Cash and cash equivalents includes cash, demand deposits in other
financial institutions and short-term investments with maturities of 90 days
or less. Cash flows are reported net for customer loan and deposit
transactions.
Securities:
Securities are classified as available for sale when they might be
sold before maturity. Securities available for sale are carried at fair value,
with unrealized holding gains and losses reported in other comprehensive
income (loss). Trading securities are bought for sale in the near term and are
carried at fair value, with changes in unrealized holding gains and losses
included in income. Federal Home Loan Bank stock is carried at cost in other
assets. Securities are classified as held to maturity and carried at amortized
cost when management has the positive intent and ability to hold them to
maturity.
Interest income includes amortization of purchase premium or
discount. Gains and losses on sales are based on the amortized cost of the
security sold. Securities are written down to fair value when a decline in
fair value is not temporary.
The Company does not have any material derivative instruments for
presentation nor does the Company participate in any hedging activities.
47
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Loans:
Loans that management has the intent and ability to hold for the
foreseeable future or until maturity or payoff are reported at the principal
balance outstanding, net of unearned interest, deferred loan fees and costs,
and an allowance for loan losses. Loans held for sale are reported at the
lower of cost or market on an aggregate basis.
Interest income is reported on the interest method and includes
amortization of net deferred loan fees and costs over the loan term. Interest
income is not reported when full loan repayment is in doubt and the loan is
placed on nonaccrual. All unpaid accrued interest is reversed and interest
income is subsequently recorded only to the extent cash payments are received.
Accrual status is resumed when all contractually due payments are brought
current and future payments are reasonably assured. Consumer installment
loans, except those loans that are secured by real estate, are not placed on a
nonaccrual status since these loans are charged-off when they have been
delinquent from 90 to 180 days, and when the related collateral, if any, is
not sufficient to offset the indebtedness. Advances under Mastercard and Visa
programs, as well as advances under all other consumer line of credit
programs, are charged-off when collection appears doubtful.
Allowance for Loan Losses:
The allowance for loan losses is a valuation allowance for probable
incurred credit losses, increased by the provision for loan losses and
decreased by charge-offs less recoveries. Management estimates the allowance
balance required using past loan loss experience, known and inherent risks in
the nature and volume of the portfolio, information about specific borrower
situations and estimated collateral values, internal loan grade
classifications, economic conditions, and other factors. This evaluation is
inherently subjective, as it requires estimates that are susceptible to
significant revision, as more information becomes available or as future
events change. Allocations of the allowance may be made for specific loans,
but the entire allowance is available for any loan that, in management's
judgment, should be charged-off. Loan losses are charged against the allowance
when management believes the uncollectability of a loan balance is confirmed.
A loan is impaired when full payment under the original loan terms is
not expected. Impairment is evaluated in total for smaller-balance loans of
similar nature such as residential mortgage, consumer, and credit card loans,
and on an individual loan basis for other loans. If a loan is impaired, a
portion of the allowance may be allocated so that the loan is reported, net,
at the present value of estimated future cash flows using the loan's existing
rate or at the fair value of collateral if repayment is expected solely from
the collateral. Mortgage and Commercial loans, when they have been delinquent
from 90 to 180 days, are reviewed to determine if a charge-off is necessary,
if the related collateral, if any, is not sufficient to offset the
indebtedness.
Investments in Limited Partnerships:
Investments in limited partnerships represent the Company's
investments in affordable housing projects for the primary purpose of
available tax benefits. The Company is a limited partner in these investments
and as such, the Company is not involved in the management or operation of
such investments. These investments are accounted for using the equity method
of accounting. Under the equity method of accounting, the Company records its
share of the partnership's earnings or losses in its income statement and
adjusts the carrying amount of the investments on the balance sheet. These
investments are measured for impairment through the lower of cost or market
approach. The balance at December 31, 2002 and 2001 was $495,000 and $501,000.
Foreclosed Assets:
Assets acquired through or instead of loan foreclosure are initially
recorded at fair value when acquired, establishing a new cost basis. If fair
value declines, a valuation allowance is recorded through expense. Costs after
acquisition are expensed. At December 31, 2002 and 2001, the balance of
repossessed assets and real estate owned was $138,000 and $1.6 million and are
included with other assets on the balance sheet.
48
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Land, Premises and Equipment:
Land is carried at cost. Premises and equipment are stated at cost
less accumulated depreciation. Depreciation is computed on the straight-line
method over the useful lives of the assets. Premises assets have useful lives
between 7 and 50 years. Equipment assets have useful lives between 3 and 10
years.
Loan Servicing Rights:
Loan servicing rights are recognized as assets for the allocated
value of retained servicing rights on loans sold. Loan servicing rights are
expensed in proportion to, and over the period of, estimated net servicing
revenues. Impairment is evaluated based on the fair value of the rights, using
groupings of the underlying loans as to interest rates and secondarily, as to
geographic and prepayment characteristics. Any impairment of a grouping is
reported as a valuation allowance. Fair value is determined using prices for
similar assets with similar characteristics, when available, or based upon
discounted cash flows using market-based assumptions.
Bank Owned Life Insurance:
The Company purchased $13.4 million of life insurance policies on
certain officers to replace group term life insurance for these individuals.
Bank owned life insurance is recorded at its cash surrender value, or the
amount that can be realized.
Goodwill and Other Intangibles Assets:
Goodwill results from prior business acquisitions and represents the
excess of the purchase price over the fair value of acquired tangible assets
and liabilities and identifiable intangible assets. On October 1, 2002, the
Financial Accounting Standards Board ("FASB") issued Statement of Financial
Accounting Standards ("SFAS") No. 147, "Acquisitions of Certain Financial
Institutions." SFAS No. 147 supersedes SFAS No. 72, "Accounting for Certain
Acquisitions of Banking or Thrift Institutions." SFAS No. 147 provides
guidance on the accounting for the acquisition of a financial institution, and
applies to all such acquisitions except those between two or more mutual
enterprises. Under SFAS No. 147, the excess of the fair value of liabilities
assumed over the fair value of tangible and identifiable intangible assets
acquired in a financial institution business combination represents goodwill
that should be accounted for under SFAS No. 142, "Goodwill and Other
Intangible Assets." If certain criteria are met, the amount of the
unidentifiable intangible asset resulting from prior financial institutions
acquisitions is to be reclassified to goodwill upon adoption of this
Statement. Financial institutions meeting conditions outlined in SFAS No. 147
are required to restate previously issued financial statements. The objective
of the restatement is to present the balance sheet and income statement as if
the amount accounted for under SFAS No. 72 as an unidentifiable intangible
asset had been reclassified to goodwill as of the date the Company adopted
SFAS No. 142. The Company reclassified unidentifiable intangible assets
associated with certain branch acquisitions to goodwill and ceased amortizing
goodwill as of January 1, 2002. Goodwill is assessed at least annually for
impairment and any such impairment will be recognized in the period
identified. The effect on net income of ceasing goodwill amortization in 2002
was $274,000, net of tax.
Other intangible assets consist of core deposit arising from branch
acquisitions. They are initially measured at fair value and then are amortized
on an accelerated method over their estimated useful lives, which is 12 years.
Repurchase Agreements:
Substantially all repurchase agreement liabilities represent amounts
advanced by various customers. Securities are pledged to cover these
liabilities, which are not covered by federal deposit insurance.
Long-term Assets:
Premises and equipment, core deposit and other intangible assets and
other long-term assets are reviewed for impairment when events indicate their
carrying amount may not be recoverable from future undiscounted cash flows. If
impaired, the assets are recorded at fair value.
49
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Benefit Plans:
A noncontributory defined benefit pension plan covers substantially
all employees. Funding of the plan equals or exceeds the minimum funding
requirement determined by the actuary. The projected unit credit cost method
is used to determine expense. Benefits are based on years of service and
compensation levels. Effective April 1, 2000, the defined benefit pension plan
was frozen. The Company maintains a directors' deferred compensation plan. A
participant can elect to receive a return based on the Company's investment in
a certificate of deposit or tied to the performance of the Company's stock for
their contribution. For participants electing a return tied to the performance
of the Company's stock, the Company acquires shares on the open market and
records such shares as treasury stock. Effective January 1, 2003, the
directors' deferred compensation plan was amended to restrict the deferral to
be in stock only.
Stock Compensation:
At the inception of the Lakeland Financial Corporation Stock Option
Plan, there were 600,000 shares of common stock reserved for grants of stock
options to employees of Lakeland Financial Corporation, its subsidiaries and
Board of Directors. As of December 31, 2002, 495,545 options had been granted
and 104,455 were available for future grants. These are accounted for under
APB No. 25. Employee compensation expense under the stock option plan is
reported if options are granted below market price at grant date. The Company
has not made any such grants. Pro forma disclosures of net income and earnings
per share are shown using the fair value method to measure expense for options
granted using an option pricing model to estimate fair value.
Employee compensation expense under stock options is reported using
the intrinsic value method. No stock-based compensation cost is reflected in
net income, as all options granted had an exercise plan equal to or greater
than the market price of the underlying common stock at date of grant. Had
compensation cost for stock options been recorded in the financial statements,
net income and earnings per common share wuld have been the pro forma amounts
indicated below. The pro forma effect may increase in the future if more
options are granted.
2002 2001 2000
----------- ----------- -----------
Net income (in thousands) as reported $ 12,366 $ 10,113 $ 9,322
Deduct: stock-based compensation expense determined
under fair value based method 669 748 825
----------- ----------- -----------
Pro forma net income (in thousands) $ 11,697 $ 9,365 $ 8,497
=========== =========== ===========
Basic earnings per common share as reported $ 2.13 $ 1.74 $ 1.60
Pro forma basic earnings per common share $ 2.01 $ 1.61 $ 1.46
Diluted earnings per common share as reported $ 2.08 $ 1.73 $ 1.60
Pro forma diluted earnings per common share $ 1.96 $ 1.60 $ 1.46
<FN>
The pro forma effects are computed with option pricing models, using the following weighted-average assumptions as of the
grant date for all options granted to date:
</FN>
2002 2001 2000
----------- ----------- -----------
Risk-free interest rate 5.53% 5.54% 5.81%
Expected option life 5.00 years 5.00 years 4.98 years
Expected price volatility 76.37% 76.23% 79.88%
Dividend yield 2.87% 2.86% 2.46%
50
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Income Taxes:
An annual consolidated federal income tax return is filed by the
Company. Income tax expense is recorded based on the amount of taxes due on
its tax return plus deferred taxes computed based upon the expected future tax
consequences of temporary differences between carrying amounts and tax basis
of assets and liabilities, using enacted tax rates. A valuation allowance, if
needed, reduces deferred tax assets to the amount expected to be realized.
Off-Balance Sheet Financial Instruments:
Financial instruments include credit instruments, such as commitments
to make loans and standby letters of credit, issued to meet customer financing
needs. The face amount for these items represents the exposure to loss, before
considering customer collateral or ability to repay. Such financial
instruments are recorded when they are funded.
Earnings Per Common Share:
Basic earnings per common share is net income divided by the weighted
average number of common shares outstanding during the period. Diluted
earnings per common share includes the dilutive effect of additional potential
common shares issuable under stock options. Earnings and dividends per share
are restated for all stock splits and dividends through the date of issue of
the financial statements. The common shares outstanding for the Stockholders'
Equity section of the Balance Sheet for 2002 and 2001 reflect the acquisition
of 46,974 and 38,352 shares, respectively of Lakeland Financial Corporation
common stock that have been purchased under the directors' deferred
compensation plan described above. Because these shares are held in trust for
the participants, they are treated as outstanding when computing the
weighted-average common shares outstanding for the calculation of both basic
and diluted earnings per share.
Comprehensive Income:
Comprehensive income consists of net income and other comprehensive
income. Other comprehensive income includes unrealized gains and losses on
securities available for sale during the year and changes in the minimum
pension liability, which are also recognized as separate components of equity.
Loss Contingencies:
Loss contingencies, including claims and legal actions arising in the
ordinary course of business, are recorded as liabilities when the likelihood
of loss is probable and an amount or range of loss can be reasonably
estimated. Management does not believe there now are such matters that will
have a material effect on the financial statements.
Restrictions on Cash:
The Company was required to have $3.3 million and $1.7 million of
cash on hand or on deposit with the Federal Reserve Bank to meet regulatory
reserve and clearing requirements at year-end 2002 and 2001. These balances do
not earn interest.
Dividend Restriction:
Banking regulations require maintaining certain capital levels and
may limit the dividends paid by the Bank to the Company or by the Company to
its shareholders. These restrictions pose no practical limit on the ability of
the Bank or Company to pay dividends at historical levels.
51
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Fair Value of Financial Instruments:
Fair values of financial instruments are estimated using relevant
market information and other assumptions, as more fully disclosed in a
separate note. Fair value estimates involve uncertainties and matters of
significant judgment regarding interest rates, credit risk, prepayments and
other factors, especially in the absence of broad markets for particular
items. Changes in assumptions or in market conditions could significantly
affect the estimates.
Industry Segments:
While the Company's chief decision-makers monitor the revenue streams
of the various Company products and services, the identifiable segments are
not material and operations are managed and financial performance is evaluated
on a Company-wide basis. Accordingly, all of the Company's financial service
operations are considered by management to be aggregated in one reportable
operating segment.
Newly Issued but not yet Effective Accounting Standards:
New accounting standards on asset retirement obligations,
restructuring activities and exit costs, operating leases, and early
extinguishment of debt were issued in 2002. Management determined that when
the new accounting standards are adopted in 2003 they will not have a material
impact on the Company's financial condition or results of operation.
Reclassifications:
Certain amounts appearing in the financial statements and notes
thereto for prior periods have been reclassified to conform with the current
presentation. The reclassifications had no effect on net income or
stockholders' equity as previously reported.
NOTE 2 - SECURITIES
Information related to the fair value of securities available for
sale and the related gross unrealized gains and losses recognized in
accumulated other comprehensive income (loss) at December 31 is provided in
the table below.
Gross Gross
Fair Unrealized Unrealized
Value Gains Losses
----------- ----------- -----------
(in thousands)
2002
----
U.S. Treasury securities $ 5,338 $ 195 $ 0
U.S. Government agencies 11,946 575 0
Mortgage-backed securities 222,036 5,600 (183)
State and municipal securities 34,785 1,275 (24)
----------- ----------- -----------
Total . . . . . . . . . . . . . . $ 274,105 $ 7,645 $ (207)
=========== =========== ===========
2001
- ----
U.S. Treasury securities $ 7,866 $ 236 $ 0
U.S. Government agencies 11,574 46 0
Mortgage-backed securities 216,654 4,732 (1,132)
State and municipal securities 29,663 146 (568)
Other debt securities 5,882 107 (16)
----------- ----------- -----------
Total . . . . . . . . . . . . . . . $ 271,639 $ 5,267 $ (1,716)
=========== =========== ===========
52
NOTE 2 - SECURITIES (continued)
Information regarding the fair value of available for sale debt
securities by maturity as of December 31, 2002 is presented below. Maturity
information is based on contractual maturity for all securities other than
mortgage-backed securities. Actual maturities of securities may differ from
contractual maturities because borrowers may have the right to prepay the
obligation without prepayment penalty.
Fair
Value
------------
(in thousands)
Due in one year or less $ 3,035
Due after one year through five years 14,349
Due after five years through ten years 1,453
Due after ten years 33,232
------------
Total contractual maturity securities 52,069
Mortgage-backed securities 222,036
------------
Total debt securities . . . . . . . . . . . . . . . . . . . . . $ 274,105
============
Security proceeds, gross gains and gross losses for 2002, 2001 and
2000 were as follows:
2002 2001 2000
----------- ----------- -----------
(in thousands)
Sales and calls of securities available for sale:
Proceeds $ 10,467 $ 20,805 $ 807
Gross gains 77 310 0
Gross losses 22 190 0
Securities with carrying values of $206.0 million and $205.4 million
were pledged as of December 31, 2002 and 2001, as collateral for deposits of
public funds, securities sold under agreements to repurchase, borrowings from
the FHLB and for other purposes as permitted or required by law. At year-end
2002 and 2001, there were no holdings of securities of any one issuer, other
than the U.S. Government and its agencies, in an amount greater than 10% of
stockholders' equity.
NOTE 3 - LOANS
Total loans outstanding as of year-end consisted of the following:
2002 2001
----------- -----------
(in thousands)
Commercial and industrial loans $ 556,800 $ 478,288
Agri-business and agricultural loans 68,137 58,901
Real estate mortgage loans 44,644 44,898
Real estate construction loans 2,540 2,354
Installment loans and credit cards 150,555 153,782
----------- -----------
Total loans . . . . . . . . . . . . . . . . . . . $ 822,676 $ 738,223
=========== ===========
53
NOTE 4 - ALLOWANCE FOR LOAN LOSSES
The following is an analysis of the allowance for loan losses for 2002, 2001 and 2000:
2002 2001 2000
----------- ----------- -----------
(in thousands)
Balance, January 1 $ 7,946 $ 7,124 $ 6,522
Provision for loan losses 3,056 2,225 1,206
Loans charged-off (1,875) (1,540) (748)
Recoveries 406 137 144
----------- ----------- -----------
Net loans charged-off (1,469) (1,403) (604)
----------- ----------- -----------
Balance, December 31 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 9,533 $ 7,946 $ 7,124
=========== =========== ===========
Nonaccrual loans $ 4,216 $ 2,234 $ 206
Interest not recorded on nonaccrual loans $ 208 $ 142 $ 24
Loans renegotiated as troubled debt restructuring $ 0 $ 0 $ 1,127
Interest income recognized on troubled debt restructuring $ 0 $ 70 $ 106
Loans past due over 90 days and still accruing $ 3,387 $ 264 $ 8,204
Impaired loans were as follows:
2002 2001
----------- -----------
(in thousands)
Year-end loans with no allocated allowance for loan losses $ 0 $ 0
Year-end loans with allocated allowance for loan losses 7,298 10,008
----------- -----------
Total $ 7,298 $ 10,008
=========== ===========
Amount of the allowance for loan losses allocated $ 1,298 $ 1,471
2002 2001 2000
----------- ----------- -----------
(in thousands)
Average of impaired loans during the year $ 10,476 $ 2,136 $ 776
Interest income recognized during impairment 562 340 101
Cash-basis interest income recognized 555 42 50
The Company is not committed to lend additional funds to debtors
whose loans have been modified. The 2002 and 2001 impaired loan totals
included $4.1 million and $2.1 million which were also included in the total
for nonaccrual loans. The increase in loans delinquent 90 days or more and
still accruing resulted primarily from one commercial credit totaling $3.2
million. The renewal of this loan has been complicated as more than one bank
is involved, and therefore it is past maturity. While this loan is current as
to principal and interest, there can be no assurance that it will remain
current given the circumstances involved. The decrease in impaired loans was
due primarily to the removal of one credit that had a balance of $7.5 million
at December 31, 2001 offset by the addition of the aforementioned loan of $3.2
million. The impaired loan that was removed from impaired status has been
current on principal and interest for most of 2002 and was recently
restructured as a personal loan to the principal of the corporate entity with
the support of both the existing collateral and new collateral in the form of
life insurance and additional pledged securities. In addition, full payment
under the loan terms continues to be expected.
54
NOTE 5 - SECONDARY MORTGAGE MARKET ACTIVITIES
Mortgage loans serviced for others are not included in the
accompanying consolidated balance sheets. The unpaid principal balances of
these loans were $168.7 million and $149.2 million at December 31, 2002 and
2001. Net loan servicing income/(loss) was ($48,000), $82,000 and $147,000 for
2002, 2001 and 2000. Information on loan servicing rights follows:
Loan servicing rights: 2002 2001
----------- -----------
(in thousands)
Beginning of year $ 1,507 $ 1,419
Originations 622 395
Amortization (452) (307)
----------- -----------
End of year . . . . . . . . . . . . . . . . . . . $ 1,677 $ 1,507
=========== ===========
Valuation allowance: 2002 2001
----------- -----------
(in thousands)
Beginning of year $ 388 $ 0
Additions expensed 913 705
Reductions credited to expense (579) (317)
----------- -----------
End of year . . . . . . . . . . . . . . . . . . . $ 722 $ 388
=========== ===========
NOTE 6 - LAND, PREMISES AND EQUIPMENT, NET
Land, premises and equipment and related accumulated depreciation
were as follows at December 31:
2002 2001
----------- -----------
(in thousands)
Land $ 8,053 $ 7,467
Premises 20,357 18,721
Equipment 12,622 13,601
----------- -----------
Total cost . . . . . . . . . . . . . . . . . . . . 41,032 39,789
Less accumulated depreciation 16,264 15,537
----------- -----------
Land, premises and equipment, net . . . . . . . . $ 24,768 $ 24,252
=========== ===========
NOTE 7 - GOODWILL AND OTHER INTANGIBLE ASSETS
Goodwill
The change in the carrying amount of goodwill for 2002 was as
follows:
(in thousands)
Beginning of year $ 0
Reclassified from unidentifiable intangible assets 4,970
-----------
End of year $ 4,970
===========
55
NOTE 7 - GOODWILL AND OTHER INTANGIBLE ASSETS (continued)
Goodwill is no longer amortized starting in 2002. The effect of not amortizing goodwill is summarized as follows:
2002 2001 2000
----------- ---------- -----------
(in thousands)
Reported net income $ 12,366 $ 10,113 $ 9,322
Add back: goodwill amortization, net of tax 0 367 403
----------- ---------- -----------
Adjusted net income $ 12,366 $ 10,480 $ 9,725
=========== ========== ===========
Basic earnings per share:
Reported net income $ 2.13 $ 1.74 $ 1.60
Goodwill amortization, net of tax .00 .06 .07
----------- ---------- -----------
Adjusted net income $ 2.13 $ 1.80 $ 1.67
=========== ========== ===========
Diluted earnings per share:
Reported net income $ 2.08 $ 1.73 $ 1.60
Goodwill amortization, net of tax .00 .06 .07
----------- ---------- -----------
Adjusted net income $ 2.08 $ 1.79 $ 1.67
=========== ========== ===========
Acquired Intangible Assets
The gross carrying amount and accumulated amortization of core
deposit intangibles for 2002 were $2.0 million and $990,000. Aggregate
amortization expense was $149,000, $193,000, $231,000 for 2002, 2001 and 2000.
Estimated amortization expense for each of the next five years:
Amount
-----------
(in thousands)
2003 $ 130
2004 114
2005 100
2006 87
2007 76
NOTE 8 - DEPOSITS
The aggregate amount of time deposits, each with a minimum
denomination of $100,000, was approximately $225.0 million and $144.8 million
at December 31, 2002 and 2001.
At December 31, 2002, the scheduled maturities of time deposits were
as follows:
Amount
-----------
(in thousands)
Maturing in 2003 $ 336,214
Maturing in 2004 45,339
Maturing in 2005 22,332
Maturing in 2006 3,229
Maturing in 2007 28,298
Thereafter 1,043
-----------
Total time deposits . . . . . . . . . . . . . . . . . . . . . . $ 436,455
===========
56
NOTE 9 - SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE
Securities sold under agreements to repurchase ("repo accounts")
represent collateralized borrowings with customers located primarily within
the Company's service area. Repo accounts are not covered by federal deposit
insurance and are secured by securities owned. Information on these
liabilities and the related collateral for 2002 and 2001 is as follows:
2002 2001
----------- -----------
(in thousands)
Average balance during the year $ 116,214 $ 140,277
Average interest rate during the year 1.49% 3.72%
Maximum month-end balance during the year $ 139,857 $ 160,628
Securities underlying the agreements at year-end
Fair value $ 161,063 $ 185,139
Collateral at Fair Value
Weighted ----------------------------
Average Mortgage-
Repurchase Interest U.S. Treasury backed
Term Liability Rate Securities Securities
- ----------------- ----------- ----------- ------------- -------------
(in thousands) (in thousands)
On demand $ 124,295 1.03% $ $ 157,734
1 to 30 days 200 2.00 2,301
31 to 90 days 355 1.80 771
Over 90 days 118 1.95 257
----------- ------------- -------------
Total $ 124,968 1.03% $ 2,301 $ 158,762
=========== ============= =============
The Company retains the right to substitute similar type securities,
and has the right to withdraw all collateral applicable to repo accounts
whenever the collateral values are in excess of the related repurchase
liabilities. At December 31, 2002, there were no material amounts of
securities at risk with any one customer. The Company maintains control of
these securities through the use of third-party safekeeping arrangements.
NOTE 10 - BORROWINGS
Long-term borrowings at December 31 consisted of:
2002 2001
----------- -----------
(in thousands)
Federal Home Loan Bank of Indianapolis Notes, 6.15%, Due June 24, 2003 $ 1,300 $ 1,300
Federal Home Loan Bank of Indianapolis Notes, 3.76%, Due December 29, 2003 10,000 10,000
Federal Home Loan Bank of Indianapolis Notes, 3.96%, Due April 9, 2004 20,000 0
Federal Home Loan Bank of Indianapolis Notes, 6.15%, Due January 15, 2018 48 48
Capital Leases 0 41
----------- -----------
Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 31,348 $ 11,389
=========== ===========
All notes require monthly interest payments and were secured by
residential real estate loans and securities with a carrying value of $71.5
million at December 31, 2002. At December 31, 2002, the Company owned $3.6
million of Federal Home Loan Bank (FHLB) stock, which also secures debts to
the FHLB. The capital leases had original terms of approximately three years
and required monthly payments.
In addition to the long-term borrowings, the Company had $26 million
and $30 million in fixed rate notes with the FHLB at December 31, 2002 and
2001. For the year-end 2002, these notes mature at various times between
January 7, 2003 and January 27, 2003. These notes are classified as short-term
borrowings in the financial statements. The Company is authorized to borrow up
to $100 million from the FHLB.
57
NOTE 10 - BORROWINGS (continued)
Long-term borrowings maturities for each of the next five years:
Amount
-----------
(in thousands)
2003 $ 11,300
2004 20,000
2005 0
2006 0
2007 0
NOTE 11 - GUARANTEED PREFERRED BENEFICIAL INTERESTS
In September 1997, Lakeland Capital Trust ("Lakeland Trust")
completed a public offering of 2 million shares of cumulative trust preferred
securities ("Preferred Securities") with a liquidation preference of $10 per
security. The proceeds of the offering were loaned to the Company in exchange
for subordinated debentures with terms similar to the Preferred Securities.
The sole assets of Lakeland Trust are the subordinated debentures of the
Company and payments thereunder. The subordinated debentures and the back-up
obligations, in the aggregate, constitute a full and unconditional guarantee
by the Company of the obligations of Lakeland Trust under the Preferred
Securities. Distributions on the securities are payable quarterly at the
annual rate of 9% of the liquidation preference and are included in interest
expense in the consolidated financial statements. These securities are
considered as Tier I capital (with certain limitations applicable) under
current regulatory guidelines. As of December 31, 2002, the outstanding
principal balance of the subordinated debentures was $20.6 million. The
principal balance of the subordinated debentures less the unamortized issuance
costs constitute the guaranteed preferred beneficial interests in the
Company's subordinated debentures in the financial statements.
The Preferred Securities are subject to mandatory redemption, in
whole or in part, upon repayment of the subordinated debentures at maturity or
their earlier redemption at the liquidation preference. Subject to the Company
having received prior approval of the Federal Reserve if then required, the
subordinated debentures are redeemable prior to the maturity date of September
30, 2027 at the option of the Company on or after September 30, 2002, or upon
occurrence of specific events defined within the trust indenture. The Company
has the option to defer distributions on the subordinated debentures from time
to time for a period not to exceed 20 consecutive quarters.
58
NOTE 12 - EMPLOYEE BENEFIT PLANS
Information as to the Company's pension plan at December 31 is as follows:
2002 2001
----------- -----------
(in thousands)
Change in benefit obligation:
Beginning benefit obligation $ 2,135 $ 2,053
Interest cost 152 164
Actuarial loss 33 30
Change in discount rate 213 133
Benefits paid (254) (245)
----------- -----------
Ending benefit obligation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2,279 2,135
Change in plan assets (primarily money market funds and equity and fixed
income investments), at fair value:
Beginning plan assets 1,920 2,634
Actual return (loss) (165) (484)
Employer contribution 0 15
Benefits paid (254) (245)
----------- -----------
Ending plan assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,501 1,920
Funded status (778) (215)
Unrecognized net actuarial gain (loss) 1,417 829
----------- -----------
Prepaid benefit cost . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 639 $ 614
=========== ===========
Net pension expense includes the following:
2002 2001 2000
----------- ----------- -----------
(in thousands)
Service cost $ 0 $ 0 $ 155
Interest cost 152 164 186
Expected return on plan assets (184) (249) (256)
Recognized net actuarial (gain) loss 7 0 (1)
Curtailment gain 0 0 (598)
----------- ----------- -----------
Net pension expense (benefit) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ (25) $ (85) $ (514)
=========== =========== ===========
The following assumptions were used in calculating the net pension expense:
Weighted average discount rate 6.75% 7.50% 8.00%
Rate of increase in future compensation N/A N/A 4.50%
Expected long-term rate of return 8.50% 10.00% 10.00%
On April 1, 2000, the Lakeland Financial Corporation Pension Plan was
frozen. As a result of this curtailment, a gain was recognized in the income
statement for the second quarter of 2000. The gain was included in the
salaries and employee benefits line of the income statement. At December 31,
2002 and 2001, the pension plan recorded an additional minimum pension
liability of $1.3 million and $731,000.
59
NOTE 12 - EMPLOYEE BENEFIT PLANS (continued)
The Company maintains a 401(k) profit sharing plan for all employees
meeting age and service requirements. The Company contributions are based upon
the rate of return on stockholders' equity as of January 1st of each year. The
expense recognized was $620,000, $551,000 and $499,000 in 2002, 2001 and 2000.
Under employment agreements with certain executives, certain events
leading to separation from the Company could result in cash payments totaling
$2.0 million as of December 31, 2002.
The Company maintains a Supplemental Executive Retirement Plan for
select officers that was established as a funded, non-qualified deferred
compensation plan. The accumulated benefit obligation was $1.4 million at
December 31, 2002 and 2001. The net periodic pension cost was $5,000,
$(13,000) and $76,000 for 2002, 2001 and 2000.
NOTE 13 - OTHER EXPENSE
Other expense for the years ended December 31, was as follows:
2002 2001 2000
----------- ----------- -----------
(in thousands)
Data processing fees and supplies $ 2,226 $ 2,212 $ 2,078
Corporate and business development 985 894 761
Advertising 681 669 577
Office supplies 513 557 591
Telephone and postage 1,312 1,265 1,241
Regulatory fees and FDIC insurance 236 237 250
Professional fees 995 994 917
Credit card interchange 900 757 547
Amortization of goodwill 0 608 667
Amortization of other intangible assets 176 217 257
Miscellaneous 3,489 3,215 2,423
----------- ----------- -----------
Total other expense . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 11,513 $ 11,625 $ 10,309
=========== =========== ===========
NOTE 14 - INCOME TAXES
Income tax expense for the years ended December 31, consisted of the following:
2002 2001 2000
----------- ----------- -----------
(in thousands)
Current federal $ 6,936 $ 5,105 $ 4,249
Deferred federal (1,134) (630) (300)
Current state 909 445 252
Deferred state (191) (176) (85)
----------- ----------- -----------
Total income tax expense . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 6,520 $ 4,744 $ 4,116
=========== =========== ===========
60
NOTE 14 - INCOME TAXES (continued)
Income tax expense included $20,000, $41,000 and $0 applicable to security transactions for 2002, 2001 and 2000. The
differences between financial statement tax expense and amounts computed by applying the statutory federal income tax rate of 35%,
34% and 34% for 2002, 2001, and 2000 to income before income taxes were as follows:
2002 2001 2000
----------- ----------- -----------
(in thousands)
Income taxes at statutory federal rate $ 6,610 $ 5,051 $ 4,569
Increase (decrease) in taxes resulting from:
Tax exempt income (621) (643) (648)
Nondeductible expense 136 155 167
State income tax, net of federal tax effect 467 178 110
Net operating loss, Gateway (30) (29) (29)
Tax credits (48) (48) (48)
Bank owned life insurance (24) 0 0
Other 30 80 (5)
----------- ----------- -----------
Total income tax expense . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 6,520 $ 4,744 $ 4,116
=========== =========== ===========
The net deferred tax asset recorded in the consolidated balance sheets at December 31, consisted of the following:
2002 2001
------------------------ ------------------------
Federal State Federal State
----------- ----------- ----------- -----------
(in thousands)
Deferred tax assets:
Bad debts $ 3,406 $ 768 $ 2,638 $ 659
Pension and deferred compensation liability 489 110 437 109
Net operating loss carryforward 237 0 260 0
Other 194 51 278 70
----------- ----------- ----------- -----------
4,326 929 3,613 838
Deferred tax liabilities:
Accretion 21 5 23 6
Depreciation 173 47 391 98
Loan servicing rights 334 75 381 95
State taxes 257 0 185 0
Leases 242 55 251 63
Deferred loan fees 56 13 135 33
Other 0 0 0 0
----------- ----------- ----------- -----------
1,083 195 1,366 295
Valuation allowance 0 0 138 0
----------- ----------- ----------- -----------
Net deferred tax asset . . . . . . . . . . . . . . . . . . . . . . . . . . $ 3,243 $ 734 $ 2,109 $ 543
=========== =========== =========== ===========
In addition to the net deferred tax assets included above, the
deferred income tax asset (liability) allocated to the unrealized net gain on
securities available for sale included in equity was $(2.7) million and $(1.3)
million for 2002 and 2001. The deferred income tax asset allocated to the
minimum pension liability included in equity was $535,000 and $289,000 for
2002 and 2001.
61
NOTE 15 - RELATED PARTY TRANSACTIONS
Loans to principal officers, directors, and their affiliates as of
December 31, 2002 and 2001 were as follows:
2002 2001
----------- -----------
(in thousands)
Beginning balance $ 39,075 $ 25,736
New loans and advances 58,186 68,547
Effect of changes in related parties 32 46
Repayments (57,362) (55,254)
----------- -----------
Ending balance . . . . . . . . . . . . . . . . . . . $ 39,931 $ 39,075
=========== ===========
Deposits from principal officers, directors, and their affiliates at
year-end 2002 and 2001 were $5.0 million and $4.9 million. In addition, the
liability for the deferred directors' plan as of December 31, 2002 and 2001
was $1.3 million and $927,000. The related expense for the deferred directors'
plan as of December 31, 2002, 2001 and 2000 was $487,000, $399,000 and
$96,000.
NOTE 16 - STOCK OPTIONS
The stock option plan requires that the exercise price for the options is the market price at the date the options are
granted. The maximum option term is ten years and the options vest over 3 to 5 years. A summary of the activity in the plan follows:
2002 2001 2000
------------------------ ------------------------ ------------------------
Weighted- Weighted- Weighted-
Average Average Average
Exercise Exercise Exercise
Shares Price Shares Price Shares Price
----------- ----------- ----------- ----------- ----------- -----------
Outstanding at beginning
of the year 550,345 $ 17.27 454,770 $ 18.79 290,270 $ 22.58
Granted 2,000 23.88 147,375 13.81 217,150 14.27
Exercised 0 0.00 0 0.00 0 0.00
Forfeited 56,800 17.53 51,800 20.80 52,650 21.03
Outstanding at end of ----------- ----------- -----------
the year . . . . . . . . . . . . . . . . . . . . . 495,545 $ 17.26 550,345 $ 17.27 454,770 $ 18.79
=========== =========== ===========
Options exercisable at
end of the year 3,600 $ 18.35 42,000 $ 17.55 22,700 $ 23.29
Weighted-average fair
value of options
granted during the year $ 10.99 $ 6.01 $ 7.07
62
NOTE 16 - STOCK OPTIONS (continued)
Options outstanding at year-end 2002 were as follows:
Outstanding Exercisable
------------------------------------- ------------------------
Weighted-
Average Weighted- Weighted-
Remaining Average Average
Contractual Exercise Exercise
Number Life Price Number Price
----------- ----------- ----------- ----------- -----------
Range of exercise prices
$11.20 - $14.00 207,125 7.7 $ 13.57 1,500 $ 13.58
$14.01 - $16.80 96,500 7.3 $ 15.10 600 $ 15.13
$16.81 - $19.60 77,460 6.1 $ 19.32 575 $ 19.44
$19.61 - $22.40 1,000 9.3 $ 20.76 0 $ 0.00
$22.41 - $25.20 104,110 5.3 $ 24.11 0 $ 0.00
$25.21 - $28.00 9,350 5.4 $ 27.79 925 $ 27.50
----------- -----------
Outstanding at year-end 495,545 6.8 $ 17.26 3,600 $ 18.35
=========== ===========
NOTE 17 - CAPITAL REQUIREMENTS AND RESTRICTIONS ON RETAINED EARNINGS
The Company and Bank are subject to various regulatory capital
requirements administered by federal banking agencies. Failure to meet minimum
capital requirements can initiate certain mandatory, and possibly
discretionary, actions by regulators that, if undertaken, could have a direct
material effect on the financial statements. Under capital adequacy guidelines
and the regulatory framework for prompt corrective action, the Company and
Bank must meet specific capital guidelines that involve quantitative measures
of the assets, liabilities, and certain off-balance sheet items as calculated
under regulatory accounting practices. The capital amounts and classification
are also subject to qualitative judgments by the regulators about components,
risk weighting, and other factors.
Quantitative measures established by regulation to ensure capital
adequacy require the Company and Bank to maintain minimum amounts and ratios
(set forth in the following table) 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). Management believes, as of
December 31, 2002 and 2001, that the Company and Bank meet all capital
adequacy requirements to which they are subject.
As of December 31, 2002, the most recent notification from the
federal regulators categorized the Company and Bank as well capitalized under
the regulatory framework for prompt corrective action. To be categorized as
well capitalized, the Company and Bank must maintain minimum total risk-based,
Tier I risk-based and Tier I leverage ratios as set forth in the table. There
are no conditions or events since that notification that management believes
have changed the Company's or Bank's category.
63
NOTE 17 - CAPITAL REQUIREMENTS AND RESTRICTIONS ON RETAINED EARNINGS (continued)
Minimum Required To
Be Well Capitalized
Minimum Required Under Prompt
For Capital Adequacy Corrective Action
Actual Purposes Regulations
------------------------ ------------------------ ------------------------
Amount Ratio Amount Ratio Amount Ratio
----------- ----------- ----------- ----------- ----------- -----------
As of December 31, 2002: (in thousands)
Total Capital (to Risk
Weighted Assets)
Consolidated $ 103,368 11.08% $ 74,647 8.00% $ 93,309 10.00%
Bank $ 101,510 10.91% $ 74,433 8.00% $ 93,041 10.00%
Tier I Capital (to Risk
Weighted Assets)
Consolidated $ 93,836 10.06% $ 37,323 4.00% $ 55,985 6.00%
Bank $ 91,977 9.89% $ 37,216 4.00% $ 55,825 6.00%
Tier I Capital (to Average Assets)
Consolidated $ 93,836 7.89% $ 47,562 4.00% $ 59,453 5.00%
Bank $ 91,977 7.75% $ 47,463 4.00% $ 59,329 5.00%
As of December 31, 2001:
Total Capital (to Risk
Weighted Assets)
Consolidated $ 93,333 11.20% $ 66,670 8.00% $ 83,337 10.00%
Bank $ 91,660 11.01% $ 66,607 8.00% $ 83,259 10.00%
Tier I Capital (to Risk
Weighted Assets)
Consolidated $ 85,387 10.25% $ 33,335 4.00% $ 50,002 6.00%
Bank $ 83,714 10.05% $ 33,304 4.00% $ 49,956 6.00%
Tier I Capital (to Average Assets)
Consolidated $ 85,387 7.66% $ 44,608 4.00% $ 55,759 5.00%
Bank $ 83,714 7.51% $ 44,581 4.00% $ 55,726 5.00%
Indiana law prohibits the Bank from paying dividends in an amount
greater than its undivided profits. The Bank is required to obtain the
approval of the Department of Financial Institutions for the payment of any
dividend if the total amount of all dividends declared by the Bank during the
calendar year, including the proposed dividend, would exceed the sum of the
retained net income for the year to date combined with its retained net income
for the previous two years. Indiana law defines "retained net income" to mean
the net income of a specified period, calculated under the consolidated report
of income instructions, less the total amount of all dividends declared for
the specified period. As of December 31, 2002, approximately $14.5 million was
available to be paid as dividends to the Company by the Bank.
The payment of dividends by any financial institution or its holding
company is affected by the requirement to maintain adequate capital pursuant
to applicable capital adequacy guidelines and regulations, and a financial
institution generally is prohibited from paying any dividends if, following
payment thereof, the institution would be undercapitalized. As described
above, the Bank exceeded its minimum capital requirements under applicable
guidelines as of December 31, 2002. Notwithstanding the availability of funds
for dividends, however, the FDIC may prohibit the payment of any dividends by
the Bank if the FDIC determines such payment would constitute an unsafe or
unsound practice.
64
NOTE 18 - FAIR VALUES OF FINANCIAL INSTRUMENTS
The following table contains the estimated fair values and the related carrying values of the Company's financial
instruments at December 31, 2002 and 2001. Items, which are not financial instruments, are not included.
2002 2001
------------------------ ------------------------
Carrying Estimated Carrying Estimated
Value Fair Value Value Fair Value
----------- ----------- ----------- -----------
(in thousands)
Financial assets:
Cash and cash equivalents $ 87,149 $ 87,149 $ 79,123 $ 79,123
Real estate mortgages held for sale 10,395 10,395 8,493 8,493
Securities available for sale 274,105 274,105 271,639 271,639
Loans, net 813,143 817,082 730,277 737,518
Federal Home Loan Bank stock 3,568 3,568 3,568 3,568
Accrued interest receivable 4,985 4,985 5,426 5,426
Loan servicing rights 955 955 1,119 1,119
Financial liabilities:
Certificates of deposit (436,455) (442,948) (340,579) (343,252)
All other deposits (476,870) (476,870) (452,801) (452,801)
Securities sold under agreements to repurchase (124,968) (124,968) (149,117) (149,132)
Other short-term borrowings (60,000) (60,000) (83,000) (83,000)
Long-term borrowings (31,348) (32,248) (11,389) (11,812)
Guaranteed preferred beneficial interests in Company's
subordinated debentures (19,345) (20,500) (19,318) (21,480)
Accrued interest payable (3,197) (3,197) (3,278) (3,278)
For purposes of the above disclosures of estimated fair value, the
following assumptions were used as of December 31, 2002 and 2001. The
estimated fair value for cash, cash equivalents, accrued interest and Federal
Home Loan Bank stock is considered to approximate cost. Real estate mortgages
held for sale are based upon the actual contracted price for those loans sold
but not yet delivered, or the current Federal Home Loan Mortgage Corporation
price for normal delivery of mortgages with similar coupons and maturities at
year-end. The estimated fair value for securities and guaranteed preferred
beneficial interests in the Company's subordinated debentures are based on
quoted market rates for individual securities or for equivalent quality,
coupon and maturity securities. The estimated fair value of loans is based on
estimates of the rate the Company would charge for similar loans at December
31, 2002 and 2001, applied for the time period until estimated repayment. The
estimated fair value of loan servicing rights is based upon valuation
methodology, which considers current market conditions and historical
performance of the loans being serviced. The estimated fair value for demand
and savings deposits is based on their carrying value. The estimated fair
value for certificates of deposit and borrowings is based on estimates of the
rate the Company would pay on such deposits or borrowings at December 31, 2002
and 2001, applied for the time period until maturity. The estimated fair value
of short-term borrowed funds is considered to approximate carrying value. The
estimated fair value of other financial instruments and off-balance sheet loan
commitments approximate cost and are not considered significant to this
presentation.
While these estimates of fair value are based on management's
judgment of the most appropriate factors, there is no assurance that, were the
Company to have disposed of such items at December 31, 2002 and 2001, the
estimated fair values would necessarily have been achieved at that date, since
market values may differ depending on various circumstances. The estimated
fair values at December 31, 2002 and 2001 should not necessarily be considered
to apply at subsequent dates.
65
NOTE 19 - COMMITMENTS, OFF-BALANCE SHEET RISKS AND CONTINGENCIES
During the normal course of business, the Company becomes a party to financial instruments with off-balance sheet risk in
order to meet the financing needs of its customers. These financial instruments include commitments to make loans and open-ended
revolving lines of credit. Amounts as of December 31, 2002 and 2001, were as follows:
2002 2001
------------------------ ------------------------
Fixed Variable Fixed Variable
Rate Rate Rate Rate
----------- ----------- ----------- -----------
(in thousands)
Commercial loan lines of credit $ 12,643 $ 208,383 $ 19,755 $ 204,667
Commercial loan standby letters of credit 0 8,365 0 8,681
Real estate mortgage loans 18,631 479 14,772 499
Real estate construction mortgage loans 0 2,117 0 427
Credit card open-ended revolving lines 7,477 388 7,127 0
Home equity mortgage open-ended revolving lines 0 54,069 0 42,641
Consumer loan open-ended revolving lines 0 3,649 0 3,663
----------- ----------- ----------- -----------
Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 38,751 $ 277,450 $ 41,654 $ 260,578
=========== =========== =========== ===========
At December 31, 2002 and 2001, the range of interest rates for
commercial loan commitments with a fixed rate was 2.00% to 11.00% and 4.92% to
14.50%. The range of interest rates for commercial loan commitments with
variable rates was 3.00% to 10.25% and 3.50% to 9.75% at December 31, 2002 and
2001. The index on variable rate commercial loan commitments is principally
the Company's base rate, which is the national prime rate. The range of
interest rates for mortgage loan commitments with a fixed rate was 4.88% to
7.25% and 5.75% to 7.38% at December 31, 2002 and 2001. The range of interest
rates for mortgage loan commitments with a variable rate was 6.00% to 6.50%
and 6.50% to 7.88% at December 31, 2002 and 2001. At December 31, 2002 and
2001, the range of interest rates for fixed rate credit card commitments was
14.95% to 17.95%. At December 31, 2002 the rate on variable credit card
commitments was 7.25%. The range of interest rates for open-ended revolving
line commitments with a variable rate was 3.99% to 15.00% and 4.75% to 15.00%
at December 31, 2002 and 2001.
Commitments, excluding open-ended revolving lines, generally have
fixed expiration dates of one year or less. Open-ended revolving lines are
monitored for proper performance and compliance on a monthly basis. Since many
commitments expire without being drawn upon, the total commitment amount does
not necessarily represent future cash requirements. The Company follows the
same credit policy (including requiring collateral, if deemed appropriate) to
make such commitments as is followed for those loans that are recorded in its
financial statements.
The Company's exposure to credit losses in the event of
nonperformance is represented by the contractual amount of the commitments.
Management does not expect any significant losses as a result of these
commitments.
66
NOTE 20 - PARENT COMPANY STATEMENTS
The Company operates primarily in the banking industry, which accounts for substantially all of its revenues, operating
income, and assets. Presented below are parent only financial statements:
CONDENSED BALANCE SHEETS
December 31
------------------------
2002 2001
----------- -----------
(in thousands)
ASSETS
Deposits with Lake City Bank $ 1,443 $ 1,313
Investment in banking subsidiary 102,091 91,860
Investment in non-banking subsidiary 619 619
Other assets 2,677 2,190
----------- -----------
Total assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 106,830 $ 95,982
=========== ===========
LIABILITIES
Dividends payable and other liabilities $ 2,331 $ 1,829
Subordinated debt 20,619 20,619
STOCKHOLDERS' EQUITY 83,880 73,534
----------- -----------
Total liabilities and stockholders' equity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 106,830 $ 95,982
=========== ===========
CONDENSED STATEMENTS OF INCOME
Years Ended December 31
-------------------------------------
2002 2001 2000
----------- ----------- -----------
(in thousands)
Dividends from Lake City Bank $ 5,674 $ 5,128 $ 5,019
Interest on deposits and repurchase agreements, Lake City Bank 4 7 5
Equity in undistributed income of subsidiaries 8,129 6,364 5,535
Interest expense on subordinated debt 1,800 1,800 1,800
Miscellaneous expense 620 490 208
----------- ----------- -----------
INCOME BEFORE INCOME TAXES . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11,387 9,209 8,551
Income tax benefit 979 904 771
----------- ----------- -----------
NET INCOME . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 12,366 $ 10,113 $ 9,322
=========== =========== ===========
CONDENSED STATEMENTS OF CASH FLOWS
Years Ended December 31
-------------------------------------
2002 2001 2000
----------- ----------- -----------
(in thousands)
Cash flows from operating activities:
Net income $ 12,366 $ 10,113 $ 9,322
Adjustments to net cash from operating activities
Equity in undistributed income of subsidiaries (8,129) (6,364) (5,535)
Other changes (101) 56 (17)
----------- ----------- -----------
Net cash from operating activities . . . . . . . . . . . . . . . . . . . . . . . . . 4,136 3,805 3,770
Cash flows from investing activities 0 0 0
Cash flows from financing activities (4,006) (3,594) (3,134)
----------- ----------- -----------
Net increase in cash and cash equivalents . . . . . . . . . . . . . . . . . . . . . . . . . 130 211 636
Cash and cash equivalents at beginning of the year 1,313 1,102 466
----------- ----------- -----------
Cash and cash equivalents at end of the year . . . . . . . . . . . . . . . . . . . . . . . . $ 1,443 $ 1,313 $ 1,102
=========== =========== ===========
67
NOTE 21 - EARNINGS PER SHARE
Following are the factors used in the earnings per share computations:
2002 2001 2000
----------- ----------- -----------
Basic earnings per common share
Net income $12,366,000 $10,113,000 $ 9,322,000
Weighted-average common shares outstanding 5,813,984 5,813,984 5,813,984
Basic earnings per common share $ 2.13 $ 1.74 $ 1.60
Diluted earnings per common share
Net income $12,366,000 $10,113,000 $ 9,322,000
Weighted-average common shares outstanding for
basic earnings per common share 5,813,984 5,813,984 5,813,984
Add: Dilutive effect of assumed exercises of stock options 144,402 27,212 15
Average shares and dilutive potential common shares 5,958,386 5,841,196 5,813,999
Diluted earnings per common share $ 2.08 $ 1.73 $ 1.60
<FN>
Stock options for 93,460 and 224,270 shares of common stock were not considered in computing diluted earnings per common
share for 2002 and 2001 because they were antidilutive.
</FN>
68
NOTE 22 - SELECTED QUARTERLY DATA (UNAUDITED) (in thousands except per share data)
2002 4th 3rd 2nd 1st
Quarter Quarter Quarter Quarter
----------- ----------- ----------- -----------
Interest income $ 15,773 $ 16,216 $ 16,281 $ 16,065
Interest expense 5,478 5,591 5,616 5,844
----------- ----------- ----------- -----------
Net interest income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10,295 10,625 10,665 10,221
Provision for loan losses 766 1,041 747 502
Noninterest income 4,267 3,635 3,560 3,345
Noninterest expense 8,710 8,593 8,799 8,569
Income tax expense 1,754 1,605 1,619 1,542
----------- ----------- ----------- -----------
Net income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 3,332 $ 3,021 $ 3,060 $ 2,953
=========== =========== =========== ===========
Basic earnings per common share $ 0.57 $ 0.52 $ 0.53 $ 0.51
=========== =========== =========== ===========
Diluted earnings per common share $ 0.57 $ 0.50 $ 0.51 $ 0.50
=========== =========== =========== ===========
2001 4th 3rd 2nd 1st
Quarter Quarter Quarter Quarter
----------- ----------- ----------- -----------
Interest income $ 17,259 $ 19,283 $ 19,575 $ 20,498
Interest expense 7,291 9,387 10,614 11,909
----------- ----------- ----------- -----------
Net interest income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9,968 9,896 8,961 8,589
Provision for loan losses 735 970 307 213
Noninterest income 3,389 4,001 3,238 2,870
Noninterest expense 8,331 8,815 8,441 8,243
Income tax expense 1,445 1,345 1,080 874
----------- ----------- ----------- -----------
Net income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 2,846 $ 2,767 $ 2,371 $ 2,129
=========== =========== =========== ===========
Basic earnings per common share $ 0.48 $ 0.48 $ 0.41 $ 0.37
=========== =========== =========== ===========
Diluted earnings per common share $ 0.48 $ 0.47 $ 0.41 $ 0.37
=========== =========== =========== ===========
<FN>
Data for the first 3 quarters may not necessarily agree with that issued in the Company's quarterly filings for those
quarters. On October 1, 2002, the Company adopted new accounting guidance, which resulted in the reversal of 2002 goodwill
amortization. Prior quarters have been restated to reflect this reversal. Below is a reconciliation of the previously reported Net
Income and EPS to the restated amounts above.
</FN>
69
NOTE 22 - SELECTED QUARTERLY DATA (UNAUDITED) (in thousands except per share data) (continued)
2002 3rd 2nd 1st
Quarter Quarter Quarter
----------- ----------- -----------
Reported net income $ 2,953 $ 2,993 $ 2,885
Net goodwill amortization reversed, net of tax 68 67 68
----------- ----------- -----------
Adjusted net income $ 3,021 $ 3,060 $ 2,953
=========== =========== ===========
Reported basic earnings per common share $ .51 $ .51 $ .50
Net goodwill amortization .01 .02 .01
----------- ----------- -----------
Adjusted basic earnings per common share $ .52 $ .53 $ .51
=========== =========== ===========
Reported diluted earnings per common share $ .49 $ .50 $ .49
Net goodwill amortization .01 .01 .01
----------- ----------- -----------
Adjusted diluted earnings per common share $ .50 $ .51 $ .50
=========== =========== ===========
NOTE 23 - BRANCH DIVESTITURES
On September 21, 2001, the Company sold its Greentown, Logansport,
Peru, Roann and Wabash, Indiana offices. The Company paid $39.8 million to
settle the net liabilities assumed by the buyer and recorded a gain of
$753,000. Summary information regarding the effect of the sale on the balance
sheet is presented.
Amount
-----------
Assets sold: (in thousands)
Cash and due from banks $ 407
Loans 24,458
Land, premises and equipment 2,197
Intangible assets 2,665
Other assets 13
Liabilities settled:
Deposits $ 70,249
Other liabilities 70
70
REPORT OF INDEPENDENT AUDITORS
Stockholders and Board of Directors
Lakeland Financial Corporation
Warsaw, Indiana
We have audited the accompanying consolidated balance sheets of
Lakeland Financial Corporation and subsidiaries as of December 31, 2002 and
2001, and the related consolidated statements of income, changes in
stockholders' equity and cash flows for each of the three years in the period
ended December 31, 2002. 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 auditing standards
generally accepted in the United States of America. Those standards require
that we plan and perform the audit to obtain reasonable assurance about
whether the financial statements are free of material misstatement. An audit
includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements. An audit also includes assessing the
accounting principles used and significant estimates made by management, as
well as evaluating the overall financial statement presentation. We believe
that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to
above present fairly, in all material respects, the financial position of
Lakeland Financial Corporation and subsidiaries as of December 31, 2002 and
2001, and the results of their operations and their cash flows for each of the
three years in the period ended December 31, 2002 in conformity with
accounting principles generally accepted in the United States of America.
As disclosed in Note 1, during 2002 the Company adopted new guidance
for goodwill and intangible assets.
Crowe, Chizek and Company LLP
South Bend, Indiana
January 10, 2003
71
MANAGEMENT'S RESPONSIBILITY FOR FINANCIAL STATEMENTS
Management is responsible for the preparation of the Company's
consolidated financial statements and related information. Management believes
that the consolidated financial statements fairly reflect the form and
substance of transactions and that the financial statements reasonably present
the Company's financial position and results of operations and were prepared
in conformity with accounting principles generally accepted in the United
States of America. Management also has included in the Company's financial
statements amounts that are based on estimates and judgments, which it
believes, are reasonable under the circumstances.
The Company maintains a system of internal controls designed to
provide reasonable assurance that all assets are safeguarded, financial
records are reliable for preparing consolidated financial statements and the
Company complies with laws and regulations relating to safety and soundness
which are designated by the FDIC and other appropriate federal banking
agencies. The selection and training of qualified personnel and the
establishment and communication of accounting and administrative policies and
procedures are elements of this control system. The effectiveness of the
internal control system is monitored by a program of internal audit and by
independent certified public accountants (independent auditors). Management
recognizes that the cost of a system of internal controls should not exceed
the benefits derived and that there are inherent limitations to be considered
in the potential effectiveness of any system. Management believes the
Company's system provides the appropriate balance between costs of controls
and the related benefits.
The independent auditors have audited the Company's consolidated
financial statements in accordance with auditing standards generally accepted
in the United States of America and provide an objective, independent review
of the fairness of the reported operating results and financial position. The
board of directors of the Company has an audit review committee composed of
six non-management directors. The committee meets periodically with the
internal auditors and the independent auditors.
72
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information appearing in the definitive Proxy Statement, dated as
of March 7, 2003, is incorporated herein by reference in response to this
item.
ITEM 11. EXECUTIVE COMPENSATION
The information appearing in the definitive Proxy Statement, dated as
of March 7, 2003, is incorporated herein by reference in response to this
item. The sections in the Proxy Statement marked "Report of the Compensation
Committee on Executive Compensation", "Stock Price Performance" and "Audit
Committee Report" are furnished for the information of the Commission and are
not deemed to be "filed" as part of the Form 10-K.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information appearing in the definitive Proxy Statement, dated as
of March 7, 2003, is incorporated herein by reference in response to this
item.
Equity Compensation Plan Information
The table below sets forth the following information as of December 31, 2002
for (i) all compensation plans previously approved by the Company's
shareholders and (ii) all compensation plans not previously approved by the
Company's shareholders:
(a) the number of securities to be issued upon the exercise of
outstanding options, warrants and rights;
(b) the weighted-average exercise price of such outstanding options,
warrants and rights;
(c) other than securities to be issued upon the exercise of such
outstanding options, warrants and rights, the number of securities
remaining available for future issuance under the plans.
==================================================================================================================================
EQUITY COMPENSATION PLAN INFORMATION
- ----------------------------------------------------------------------------------------------------------------------------------
Number of securities to be Number of securities remaining
Plan category issued upon exercise of Weighted-average exercise available for future issuance
outstanding options price of outstanding options
==================================================================================================================================
Equity compensation plans approved
by security holders................. 495,545 17.26 104,455
- ----------------------------------------------------------------------------------------------------------------------------------
Equity compensation plans not
approved by security holders........ 0 0.00 0
- ----------------------------------------------------------------------------------------------------------------------------------
Total............................... 495,545 17.26 104,455
==================================================================================================================================
73
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information appearing in the definitive Proxy Statement, dated as
of March 7, 2003, is incorporated herein by reference in response to this
item.
ITEM 14. CONTROLS AND PROCEDURES
Based upon an evaluation within the 90 days prior to the filing date
of this report, the Company's Chief Executive Officer and Chief Financial
Officer concluded that the Company's disclosure controls and procedures are
effective. There have been no significant changes in the Company's internal
controls or in other factors that could significantly affect the Company's
internal controls subsequent to the date of the evaluation, including any
corrective actions with regard to significant deficiencies and material
weaknesses.
74
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
The documents listed below are filed as a part of this report:
(a) Exhibits
Exhibit No. Document Incorporated by reference to
3.1 Amended and Restated Articles Exhibit 4.1 to the Company's
of Incorporation of Lakeland Form S-8 filed with the
Financial Corporation Commission on April 15, 1998
3.2 Bylaws of Lakeland Exhibit 3(ii) to the Company's
Financial Corporation Form 10-Q for the quarter
ended June 30, 1996
4.1 Form of Common Stock Certificate Attached hereto
4.2 Form of Trust Preferred Security Exhibit 4.6 5 to the Company's Form S-3
filed with the Commission on August 1,
1997
10.1 Lakeland Financial Exhibit 4.3 to the Company's
Corporation 1997 Share Form S-8 filed with the
Incentive Plan Commission on April 15, 1998
10.2 Form of Amended and Restated Trust Exhibit 4.5 to the Company's Form S-3
Agreement filed with the Commission on August 1,
1997
10.3 Form of Indenture Exhibit 4.5 to the Company's Form S-3
filed with the Commission on August 1,
1997
10.4 Lakeland Financial Corporation 401(k) Plan Exhibit 10.1 to the Company's Form S-8
filed with the Commission on October
23, 2000
10.5 Amended and Restated Lakeland Attached hereto
Financial Corporation Director's Fee
Deferral Plan
21.0 Subsidiaries Attached hereto
23.1 Report of Independent Auditors Item 8 herein
99.1 Certificate of Chief Executive Officer Attached hereto
99.2 Certificate of Chief Financial Officer Attached hereto
(b) Reports on Form 8-K
None.
75
SIGNATURES
Pursuant to the requirements of Section 15(d) of the Securities and
Exchange Act of 1934, the Registrant has duly caused this report to be signed
on its behalf by the undersigned, thereunto duly authorized.
LAKELAND FINANCIAL CORPORATION
Date: February 19, 2003 By /s/ R. Douglas Grant
R. Douglas Grant, Chairman
Pursuant to the requirements of the Securities and Exchange Act of
1934, this report has been signed by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
Name Title Date
/s/ Michael L. Kubacki
Michael L. Kubacki Principal Executive Officer February 19, 2003
and Director
/s/ David M. Findlay
David M. Findlay Principal Financial Officer February 19, 2003
/s/ Teresa A. Bartman
Teresa A. Bartman Principal Accounting Officer February 19, 2003
/s/ R. Douglas Grant
R. Douglas Grant Director February 19, 2003
/s/ Robert E. Bartels, Jr.
Robert E. Bartels, Jr Director February 19, 2003
Eddie Creighton Director February 19, 2003
/s/ Anna K. Duffin
Anna K. Duffin Director February 19, 2003
/s/ L. Craig Fulmer
L. Craig Fulmer Director February 19, 2003
Jerry L. Helvey Director February 19, 2003
76
Allan J. Ludwig Director February 19, 2003
/s/ Charles E. Niemier
Charles E. Niemier Director February 19, 2003
/s/ D. Jean Northenor
D. Jean Northenor Director February 19, 2003
/s/ Emily E. Pichon
Emily E. Pichon Director February 19, 2003
/s/ Richard L. Pletcher
Richard L. Pletcher Director February 19, 2003
/s/ Steven D. Ross
Steven D. Ross Director February 19, 2003
/s/ Donald B. Steininger
Donald B. Steininger Director February 19, 2003
/s/ Terry L. Tucker
Terry L. Tucker Director February 19, 2003
/s/ M. Scott Welch
M. Scott Welch Director February 19, 2003
77
Certifications
I, Michael L. Kubacki, Chief Executive Officer of the Company, certify
that:
1. I have reviewed this annual report on Form 10-K of Lakeland
Financial Corporation;
2. Based on my knowledge, this annual report does not contain
any untrue statement of a material fact or omit to state a
material fact necessary to make the statements made, in
light of the circumstances under which such statements were
made, not misleading with respect to the period covered by
this annual report;
3. Based on my knowledge, the financial statements, and other
financial information included in the Annual Report, fairly
present in all material respects the financial condition,
results of operations and cash flows of the registrant as
of, and for, the periods presented in this annual report;
4. The registrant's other certifying officers and I are
responsible for establishing and maintaining disclosure
controls and procedures (as defined in Exchange Act Rules
13a-14 and 15d-14) for the registrant and we have:
(a) designed such disclosure controls and procedures to
ensure that material information relating to the
registrant, including its consolidated subsidiaries, is
made known to us by others within those entities,
particularly during the period in which this quarterly
report is being prepared;
(b) evaluated the effectiveness of the registrant's
disclosure controls and procedures as of a date within
90 days prior to the filing date of this annual report
(the "Evaluation Date"); and
(c) presented in this quarterly report our conclusions
about the effectiveness of the disclosure controls and
procedures based on our evaluation as of the Evaluation
Date;
5. The registrant's other certifying officers and I have
disclosed, based on our most recent evaluation, to the
registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the
equivalent function):
(a) all significant deficiencies in the design or operation
of internal controls which could adversely affect the
registrant's ability to record, process, summarize and
report financial data and have identified for the
registrant's auditors any material weaknesses in
internal controls; and
(b) any fraud, whether or not material, that involves
management or other employees who have a significant
role in the registrant's internal controls; and
6. The registrant's other certifying officers and I have
indicated in this annual report whether or not there were
significant changes in internal controls or in other factors
that could significantly affect internal controls subsequent
to date of their evaluation, including any corrective
actions with regard to significant deficiencies and material
weaknesses.
Date: February 19, 2003 /s/ Michael L. Kubacki
Michael L. Kubacki - Chief Executive Officer
78
Certifications
I, David M. Findlay, Chief Financial Officer of the Company, certify
that:
1. I have reviewed this annual report on Form 10-K of Lakeland
Financial Corporation;
2. Based on my knowledge, this annual report does not contain
any untrue statement of a material fact or omit to state a
material fact necessary to make the statements made, in
light of the circumstances under which such statements were
made, not misleading with respect to the period covered by
this annual report;
3. Based on my knowledge, the financial statements, and other
financial information included in the Annual Report, fairly
present in all material respects the financial condition,
results of operations and cash flows of the registrant as
of, and for, the periods presented in this annual report;
4. The registrant's other certifying officers and I are
responsible for establishing and maintaining disclosure
controls and procedures (as defined in Exchange Act Rules
13a-14 and 15d-14) for the registrant and we have:
a. designed such disclosure controls and procedures to
ensure that material information relating to the
registrant, including its consolidated subsidiaries, is
made known to us by others within those entities,
particularly during the period in which this annual
report is being prepared;
b. evaluated the effectiveness of the registrant's
disclosure controls and procedures as of a date within
90 days prior to the filing date of this annual report
(the "Evaluation Date"); and
c. presented in this annual report our conclusions about
the effectiveness of the disclosure controls and
procedures based on our evaluation as of the Evaluation
Date;
5. The registrant's other certifying officers and I have
disclosed, based on our most recent evaluation, to the
registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the
equivalent function):
a. all significant deficiencies in the design or operation
of internal controls which could adversely affect the
registrant's ability to record, process, summarize and
report financial data and have identified for the
registrant's auditors any material weaknesses in
internal controls; and
b. any fraud, whether or not material, that involves
management or other employees who have a significant
role in the registrant's internal controls; and
6. The registrant's other certifying officers and I have
indicated in this annual report whether or not there were
significant changes in internal controls or in other factors
that could significantly affect internal controls subsequent
to date of their evaluation, including any corrective
actions with regard to significant deficiencies and material
weaknesses.
Date: February 19, 2003 /s/ David M. Findlay
David M. Findlay - Chief Financial Officer
79
EXHIBIT 21
Subsidiaries
1. Lake City Bank, Warsaw, Indiana, a banking corporation organized under the
laws of the State of Indiana.
2. Lakeland Capital Trust, a statutory business trust formed under Delaware
law.
3. LCB Investments Limited, a subsidiary of Lake City Bank formed under the
laws of Bermuda to manage a portion of the Bank's investment portfolio.
80