UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
-----------------
FORM 10-Q
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[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2005
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM____ TO ____
Commission File number 1-10518
INTERCHANGE FINANCIAL SERVICES CORPORATION
(Exact name of registrant as specified in its charter)
New Jersey 22-2553159
- ------------------------------------- ----------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
Park 80 West/Plaza Two, Saddle Brook, NJ 07663
- -------------------------------------------- -----
(Address of principal executive offices) (Zip Code)
(201) 703-2265
- --------------------------------------------------------------------------------
(Registrant's telephone number, including area code)
None
- --------------------------------------------------------------------------------
(Former name, former address and former fiscal year,
if changed since last report)
Indicate by checkmark whether the Registrant (1) has filed all reports required
to be filed by Sections 13 or 15(d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the registrant
was required to file such report) and (2) has been subject to such filing
requirements for the past 90 days. Yes __X__ No ___
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act). Yes __X__ No ___
The number of outstanding shares of the Registrant's common stock, no
par value per share, as of April 29, 2005, was 19,152,464 shares.
INTERCHANGE FINANCIAL SERVICES CORPORATION
INDEX
PART I FINANCIAL INFORMATION
Page No.
Item 1 Financial Statements
Condensed Consolidated Balance Sheets as of
March 31, 2005 (unaudited) and December 31, 2004................1
Unaudited Condensed Consolidated Statements of Income for the
three months ended March 31, 2005 and 2004......................2
Unaudited Condensed Consolidated Statements of Changes in
Stockholders' Equity for the three months ended
March 31, 2005 and 2004.........................................3
Unaudited Condensed Consolidated Statements of Cash Flows for
the three months ended March 31, 2005 and 2004..................4
Notes to Unaudited Condensed Consolidated Financial Statements..5
Item 2 Management's Discussion and Analysis of Financial
Condition and Results of Operations..............................15
Item 3 Quantitative and Qualitative Disclosures About Market Risk.......27
Item 4 Controls and Procedures..........................................31
PART II OTHER INFORMATION
Item 1 Legal Proceedings................................................33
Item 2 Unregistered Sales of Equity Securities and Use of Proceeds......33
Item 3 Defaults upon Senior Securities..................................33
Item 4 Submission of Matters to a Vote of Security Holders..............33
Item 5 Other Information................................................33
Item 6 Exhibits and Reports on Form 8-K.................................33
Signatures......................................................34
Item 1: FINANCIAL STATEMENTS
Interchange Financial Services Corporation
- --------------------------------------------------------------------------------
CONDENSED CONSOLIDATED BALANCE SHEETS
- --------------------------------------------------------------------------------
(dollars in thousands, except share data)
March 31 December 31,
2005 2004
----------- -----------
(unaudited)
Assets
Cash and due from banks $ 31,762 $ 33,108
Interest bearing demand deposits 2 2
------------ ----------
Total cash and cash equivalents 31,764 33,110
------------ ----------
Securities held-to-maturity at amortized cost
(estimated fair value of $14,087 and
$15,276 for March 31, 2005 and December 31,
2004, respectively) 13,510 14,530
------------ ------------
Securities available-for-sale at estimated fair
value (amortized cost of $362,257 and
$375,241 for March 31, 2005 and December 31
2004, respectively) 357,929 374,199
------------ ------------
Loans and leases (net of unearned income and
deferred fees of $5,674 and $5,514 for
March 31, 2005 and December 31, 2004, respectively) 977,089 934,181
Less: Allowance for loan and lease losses 9,876 9,797
------------ ------------
Net loans and leases 967,213 924,384
------------ ------------
Bank owned life insurance 26,110 25,847
Premises and equipment, net 17,579 17,713
Foreclosed assets and other repossessed assets 150 156
Goodwill 55,952 55,952
Intangible assets 3,534 3,660
Accrued interest receivable and other assets 15,108 14,590
------------ ------------
Total assets $1,488,849 $1,464,141
============ ============
Liabilities
Deposits
Non-interest bearing $236,439 $235,036
Interest bearing 994,957 1,011,102
------------ ------------
Total deposits 1,231,396 1,246,138
------------ ------------
Securities sold under agreements to repurchase 3,729 4,401
Short-term borrowings 56,857 24,600
Long-term borrowings 35,000 30,000
Accrued interest payable and other liabilities 10,660 8,847
------------ ------------
Total liabilities 1,337,642 1,313,986
------------ ------------
Stockholders' equity:
Common stock, without par value; 33,750,000 shares
authorized; 19,144,057 and 19,109,872 shares issued
and outstanding for March 31, 2005 and December 31,
2004, respectively 5,397 5,397
Capital surplus 73,485 73,320
Retained earnings 89,234 86,542
Accumulated other comprehensive loss, net of taxes
of $1,719 and $408 for March 31, 2005 and December 31,
2004, respectively (2,609) (633)
------------ ------------
165,507 164,626
Less: Treasury stock 14,300 14,471
------------ ------------
Total stockholders' equity 151,207 150,155
------------ ------------
Total liabilities and stockholders' equity $1,488,849 $1,464,141
============ ============
- -------------------------------------------------------------------------------
See notes to condensed consolidated financial statements.
All share data was restated to reflect a 3-for-2 stock split declared on
January 18, 2005 and paid on February 18, 2005.
-1-
Interchange Financial Services Corporation
- --------------------------------------------------------------------------------
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
For the Three Months Ended March 31,
- --------------------------------------------------------------------------------
(dollars in thousands, except per share data)
(unaudited)
2005 2004
------------ ------------
Interest income
Interest and fees on loans $ 14,957 $ 12,707
Interest on federal funds sold - 6
Interest and dividends on securities
Taxable interest income 2,665 2,650
Interest income exempt from federal income taxes 323 269
Dividends 60 39
------------ ------------
Total interest income 18,005 15,671
------------ ------------
Interest expense
Interest on deposits 3,922 2,827
Interest on securities sold under agreements to repurchase 23 42
Interest on short-term borrowings 180 70
Interest on long-term borrowings 316 198
------------ ------------
Total interest expense 4,441 3,137
------------ ------------
Net interest income 13,564 12,534
Provision for loan and lease losses 175 375
------------ ------------
Net interest income after provision for loan and lease losses 13,389 12,159
------------ ------------
Non-interest income
Service fees on deposit accounts 883 842
Net gain on sale of securities 67 514
Net gain on sale of loans and leases 156 76
Bank owned life insurance 264 261
Commissions on sale of annuities and mutual funds 182 212
Other 642 610
------------ ------------
Total non-interest income 2,194 2,515
------------ ------------
Non-interest expense
Salaries and benefits 4,955 4,848
Occupancy 1,463 1,365
Furniture and equipment 315 334
Advertising and promotion 395 393
Amortization of intangible assets 126 126
Other 1,900 1,851
------------ ------------
9,154 8,917
Income before income taxes 6,429 5,757
Income taxes 2,009 1,771
------------ ------------
Net income $ 4,420 $ 3,986
============ ============
Basic earnings per common share $0.23 $0.21
===== =====
Diluted earnings per common share $0.23 $0.20
===== =====
- --------------------------------------------------------------------------------
See notes to condensed consolidated financial statements.
All per share data was restated to reflect a 3-for-2 stock split declared on
January 18, 2005 and paid on February 18, 2005.
-2-
Interchange Financial Services Corporation
- --------------------------------------------------------------------------------
CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
For the Three Months Ended March 31,
- --------------------------------------------------------------------------------
(dollars in thousands, except per share data)
(unaudited)
Accumulated
Other
Comprehensive Retained Comprehensive Common Capital Treasury
Income Earnings Income (Loss) Stock Surplus Stock Total
------------- -------- ------------- ------ ------- -------- --------
Balance at January 1, 2004 $74,710 $ 2,434 $5,397 $73,231 $(12,579) $143,193
Comprehensive income
Net Income $ 3,986 3,986 3,986
Other comprehensive income, net of taxes
Unrealized gains on AFS debt securities 1,402
Less: net gains on disposition
of securities (287)
-------
Other comprehensive income, net of taxes 1,115 1,115 1,115
-------
Comprehensive income $ 5,101
=======
Dividends on common stock (1,602) (1,602)
Issued 11,690 shares of common stock
in connection with Executive
Compensation Plan 103 102 205
Exercised 10,811 option shares (9) 84 75
Purchased 127,179 shares of common stock (2,154) (2,154)
------- ------- ------ ------- -------- --------
Balance at March 31, 2004 77,094 3,549 5,397 73,325 (14,547) 144,818
Comprehensive income
Net Income $14,228 14,228 14,228
Other comprehensive income, net of taxes
Unrealized losses on AFS debt securities (3,551)
Less: net gains on disposition of securities (773)
Unrealized gains on equity securities 137
Minimum pension liability adjustment 5
-------
Other comprehensive losses, net of taxes (4,182) (4,182) (4,182)
-------
Comprehensive income $10,046
=======
Dividends on common stock (4,780) (4,780)
Exercised 11,254 option shares (5) 97 92
Purcahsed 1,313 shares of common stock (21) (21)
------- ------- ------ ------- -------- --------
Balance at December 31, 2004 86,542 (633) 5,397 73,320 (14,471) 150,155
Comprehensive income
Net Income $ 4,420 4,420 4,420
Other comprehensive income, net of taxes
Unrealized losses on AFS debt securities (1,890)
Less: net gains on disposition of securities (86)
-------
Other comprehensive losses, net of taxes (1,976) (1,976) (1,976)
-------
Comprehensive income $ 2,444
=======
Dividends on common stock (1,721) (1,721)
Issued 17,111 shares of common stock
in connection with Executive
Compensation Plan 154 151 305
Exercised 11,675 option shares 11 96 107
Purchased 4,532 shares of common stock (76) (76)
Payout of fractional shares resulting from the
three-for-two stock split declared January 18,
2005 and paid on February 18, 2005 (7) (7)
------- ------- ------ ------- -------- --------
Balance at March 31, 2005 $89,234 $(2,609) $5,397 $73,485 $(14,300) $151,207
======= ======= ====== ======= ======== ========
- --------------------------------------------------------------------------------
See notes to condensed consolidated financial statements.
All share data was restated to reflect a 3-for-2 stock split declared on
January 18, 2005 and paid on February 18, 2005.
-3-
Interchange Financial Services Corporation
- -------------------------------------------------------------------------------
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Year to Date Periods Ended, March 31,
- -------------------------------------------------------------------------------
(in thousands)
(unaudited)
2005 2004
---------- ---------
Cash flows from operating activities
Net income $ 4,420 $ 3,986
Adjustments to reconcile net income to net cash provided by operating activities
Depreciation and amortization 502 498
Amortization of securities premiums 1,088 1,590
Accretion of securities discounts (73) (58)
Amortization of loan premiums 23 -
Amortization of premiums in connection with acquisition 203 356
Provision for loan and lease losses 175 375
Loss on foreclosed assetsand other repossessed assets 13 -
Increase in cash surrender value of Bank Owned Life Insurance (263) (261)
Net gain on sale of securities (67) (514)
Origination of loans held for sale (2,490) (880)
Sale of loans held for sale 2,645 941
Net gain on sale of loans and leases (156) (76)
Net gain on sale of foreclosed real estate and repossessed assets - (14)
Decrease (increase) in operating assets
Accrued interest receivable (113) 425
Deferred taxes (393) 1,766
Other Assets 1,236 (692)
Increase (decrease) in operating liabilities
Accrued interest payable 313 (29)
Other 1,500 836
---------- ---------
Cash provided by operating activities 8,563 8,249
---------- ---------
Cash flows from investing activities
(Payments for) proceeds from
Net originations of loans and leases (40,313) (15,005)
Purchase of loans and leases (2,837) (20,608)
Sale of loans and leases 16 282
Purchase of securities available-for-sale (14,560) (2,799)
Maturities of securities available-for-sale 23,585 21,990
Sale of securities available-for-sale 3,048 44,793
Maturities of securities held-to-maturity 984 1,119
Sale of foreclosed real estate and other repossessed assets - 59
Purchase of fixed assets (305) (328)
Premium in connection with acquisition 19 19
---------- ---------
Cash (used in) provided by investing activities (30,362) 29,522
---------- ---------
Cash flows from financing activities
Proceeds from (payments for)
Net change in deposits (14,740) 9,336
Securities sold under agreements to repurchase and other borrowings 285,314 145,363
Retirement of securites sold under agreement to repurchase and
other borrowings (248,729) (164,230)
Dividends (1,721) (1,602)
Common stock issued 305 205
Payout of fractional shares resulting from 3-for-2 stock split (7) -
Treasury stock (76) (2,154)
Exercise of option shares 107 75
---------- ---------
Cash provided by (used in) financing activities 20,453 (13,007)
---------- ---------
Decrease (increase) in cash and cash equivalents (1,346) 24,764
Cash and cash equivalents, beginning of year 33,110 31,435
---------- ---------
Cash and cash equivalents, end of year $31,764 $56,199
========== =========
Supplemental disclosure of cash flow information:
Cash paid for:
Interest $4,323 $3,168
Income taxes 38 -
Supplemental disclosure of non-cash investing and financing activities:
Loans transferred to foreclosed real estate and other repossessed assets 7 34
- -------------------------------------------------------------------------------
See notes to condensed consolidated financial statements
-4-
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
FOR THE THREE MONTHS ENDED MARCH 31, 2005
(Unaudited)
1. Basis of Presentation
The accompanying unaudited condensed consolidated financial statements
include the accounts of Interchange Financial Services Corporation and its
wholly owned subsidiaries (on a consolidated basis, the "Company") including its
principal operating subsidiary, Interchange Bank (the "Bank"), and have been
prepared in conformity with accounting principles generally accepted in the
United States of America ("GAAP") and in accordance with the rules and
regulations of the Securities and Exchange Commission. Pursuant to such rules
and regulations, certain information or footnotes necessary for a complete
presentation of financial condition, results of operations and cash flows in
conformity with GAAP have been condensed or omitted. These condensed
consolidated financial statements should be read in conjunction with the
consolidated financial statements and schedules thereto included in the annual
report on Form 10-K of the Company for the year ended December 31, 2004.
The condensed consolidated financial data for the three months ended March
31, 2005 and 2004, are unaudited but reflect all adjustments consisting of only
normal recurring adjustments which are, in the opinion of management, considered
necessary for a fair presentation of the financial condition and results of
operations for the interim periods. The results of operations for interim
periods are not necessarily indicative of results to be expected for any other
period or the full year.
Use of estimates: The preparation of financial statements in conformity with
GAAP requires management to make estimates and assumptions that affect the
reported amounts of assets and liabilities and disclosures of contingent assets
and liabilities at the date of the condensed consolidated financial statements
and the reported amount of revenues and expenses during the reporting period.
Actual results could differ from those estimates. The most significant estimates
pertain to the allowance for loan and lease losses, the fair value of financial
instruments, goodwill, intangibles, taxes and retirement benefits.
New Accounting Pronouncements: In December 2003, the American Institute of
Certified Public Accountants issued Statement of Position 03-3, "Accounting for
Loans and Debt Securities Acquired in a Transfer" ("SOP 03-3"). SOP 03-3
addresses accounting for differences between contractual cash flows and cash
flows expected to be collected form an initial investment in loans or debt
securities acquired in a transfer if those differences relate, at least in part,
to a deterioration of credit quality. SOP 03-3 prohibits companies from carrying
over valuation allowances in the initial accounting for such loans and limits
the yield that may be accreted to the excess of undiscounted expected cash flows
over the initial investment in the loan. Decreases in expected cash flows are
recognized as impairment and increases are recognized prospectively through an
adjustment of the loan yield. SOP 03-3 is effective for loans and debt
securities acquired on or after January 1, 2005. Our adoption of this guidance
did not have a significant effect on our financial condition or results of
operations.
-5-
Stock Based Compensation: The Company accounts for stock option plans under the
recognition and measurement principles of Accounting Principles Board ("APB")
Opinion No. 25. "Accounting for Stock Issued to Employees," and related
interpretations. No stock-based employee compensation costs are reflected in net
income, as all options granted under those plans had an exercise price equal to
the market value of the underlying common stock on the date of grant. In
December 2004, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standard ("SFAS") No. 123 (revised 2004), "Share-Based
Payment," ("SFAS No. 123(R)"). SFAS No. 123(R) addresses the accounting for
share-based payment transactions in which an enterprise receives employee
services in exchange for (a) equity instruments of the enterprise or (b)
liabilities that are based on the fair value of the enterprise's equity
instruments or that may be settled by the issuance of such equity instruments.
SFAS No. 123(R) requires an entity to recognize the grant-date fair value of
stock options and other equity-based compensation issued to employees within the
income statement using a fair-value-based method, eliminating the intrinsic
value method of accounting previously permissible under Accounting Principles
Board Opinion No. 25, "Accounting for Stock Issued to Employees" (APB No. 25)
and related interpretations.
On April 15, 2005, the Securities and Exchange Commission ("SEC") issued a
ruling amending the date for compliance with SFAS No. 123(R). Registrants will
be required to adopt FAS 123(R) beginning with the first interim or annual
reporting period of the registrant's first fiscal year beginning on or after
June 15, 2005. For the Company, this ruling will require adoption of SFAS No.
123(R) by no later than January 1, 2006. The Company is in the process of
evaluating and determining which of the alternative methodologies under SFAS No.
123(R) will be utilized.
Prior to the required adoption of SFAS No. 123(R), the Company has elected
to account for its stock-based incentive plans and awards under APB No. 25, and
has adopted the disclosure requirements of SFAS No. 123, "Accounting for
Stock-Based Compensation," as amended by SFAS No. 148, "Accounting for
Stock-Based Compensation - Transition and Disclosure."
The following table illustrates the effect on net income and diluted
earnings per common share if the Company had applied the fair value recognition
provisions of Financial Accounting Standards Board ("FASB") Statement No. 123,
"Accounting for Stock-Based Compensation," to stock-based compensation for the
three months ended March 31, 2005 and 2004: (in thousands, except share data)
(unaudited)
-6-
--------------------------
For the three months ended
March 31,
2005 2004
------------ -----------
Net Income
As reported $4,420 $3,986
Less: Total stock-based compensation
expense determined under the fair
method for all rewards, net of related
tax effects 266 187
------------ ----------
Pro-forma $4,154 $3,799
============ ==========
Earnings per share:
Basic:
As reported 0.23 0.21
Pro forma 0.22 0.20
Diluted:
As reported 0.23 0.20
Pro forma 0.21 0.19
The fair value of each option grant is estimated on the date of grant using
the Black-Scholes option-pricing model. The following weighted-average
assumptions were used for option grants issued during the three months ended
March 31, 2005 and 2004, respectively: dividend yield of 2.01% and 2.22%,
expected volatility of 23.05% and 24.92%; risk-free interest rate of 3.86% and
3.34%; and expected lives of approximately 7 years. The effects of applying
these assumptions in determining the pro-forma net income may not be
representative of the effects on pro-forma net income for future years.
2. Earnings Per Common Share
Basic earnings per common share represent income available to common
stockholders divided by the weighted-average number of common shares outstanding
during the period. Diluted earnings per common share reflect additional common
shares that would have been outstanding if dilutive potential common shares had
been issued, as well as any adjustment to income that would result from the
assumed issuance. Potential common shares that may be issued by the Company
relate solely to outstanding stock options, and are determined using the
treasury stock method. At March 31, 2005 and 2004 the weighted average shares
outstanding for the three months were approximately 19.6 million and 19.5
million, respectively.
-7-
3. Commitments and Contingent Liabilities
Legal Proceedings
The Company is a party to routine litigation involving various aspects of
its business, none of which, in the opinion of management, is expected to have a
material adverse impact on the consolidated financial condition, results of
operations or liquidity of the Company.
Commitments to Extend Credit
At March 31, 2005, the Company had commitments of approximately $238.6
million to extend credit, of which approximately $3.2 million represents standby
letters of credit.
4. Goodwill and Other Intangibles
Goodwill is not amortized to expense, but rather is tested for impairment
periodically. Other intangible assets are amortized to expense using
straight-line methods over their respective estimated useful lives. At least
annually, management reviews goodwill and other intangible assets and evaluates
events or changes in circumstances that may indicate impairment in the carrying
amount of such assets. If the sum of the expected undiscounted future cash
flows, excluding interest charges, is less than the carrying amount of the
asset, an impairment loss is recognized. Impairment, if any, is measured on a
discounted future cash flow basis.
----------------- --------------
March 31, December 31,
2005 2004
----------------- --------------
(unaudited)
Intangible Assets $ 4,595 $ 4,595
Accumulated Amortization (1,061) (935)
----------------- --------------
Net Intangible Asset $ 3,534 $ 3,660
================= ==============
Intangible assets are a result of acquisitions and are primarily related to
core deposit intangibles ("CDI") which have an estimated life of 10 years. For
each of the three month periods ended March 31, 2005 and 2004 the CDI amortized
was $107 thousand. The CDI will be periodically reviewed for impairment.
Goodwill is tested for impairment at least annually in accordance with the
provisions of SFAS No. 142.
At March 31, 2005 the scheduled amortization of the intangible assets is as
follows (in thousands):
2006 $ 436
2007 430
2008 430
2009 430
2010 430
Thereafter 999
------------
$ 3,155
============
-8-
5. Segment Reporting
SFAS No. 131, "Disclosures About Segments of an Enterprise and Related
Information" ("SFAS No. 131"), requires disclosures for each reportable
operating segment. As a community-oriented financial institution, substantially
all of the Company's operations entail the delivery of loan and deposit products
and various other financial services to customers in its primary market area,
which is Bergen County, New Jersey. The Company's community-banking operation
constitutes the Company's only operating segment for financial reporting
purposes under SFAS No. 131.
6. Cash Dividend
On January 18, 2005, the Company declared a 3-for-2 stock split. The stock
split was payable on February 18, 2005 to holders of record as of February 2,
2005. In addition, the Company paid a cash dividend of $0.09 per share on
February 18, 2005, to holders of record as of January 31, 2005.
7. Securities Held-to-Maturity and Securities Available-for-Sale
Securities held-to-maturity ("HTM") and securities available-for-sale
("AFS") consist of the following: (in thousands) (unaudited)
-9-
-------------------------------------------
March 31, 2005
-------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
---------- --------- ---------- ----------
Securities held-to-maturity
Government-Sponsored Enterprises:
Mortgage-backed securities $ 4,552 $ 99 $ - $ 4,651
Obligations of states & political subdivisions 8,958 478 - 9,436
--------- -------- --------- ---------
$ 13,510 $ 577 $ - $ 14,087
========= ======== ========= =========
Securities available-for-sale
Government-Sponsored Enterprises:
Mortgage-backed securities $ 112,751 $ 554 $ 1,268 $ 112,037
Other debt 210,658 175 3,938 206,895
Obligations of states & political subdivisions 33,324 422 273 33,473
Equity securities 5,524 - - 5,524
--------- -------- --------- ---------
362,257 1,151 5,479 357,929
--------- -------- --------- ---------
Total securities $ 375,767 $ 1,728 $ 5,479 $ 372,016
========= ======== ========= =========
------------------------------------------
December 31, 2004
------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
---------- --------- ---------- ---------
Securities held-to-maturity
Government-Sponsored Enterprises:
Mortgage-backed securities $ 5,583 $ 128 $ - $ 5,711
Obligations of states & political subdivisions 8,947 618 - 9,565
--------- -------- --------- ---------
$ 14,530 $ 746 $ - $ 15,276
========= ======== ========= =========
Securities available-for-sale
Obligations of U.S. Treasury $ 5,981 $ 1 $ - $ 5,982
Government-Sponsored Enterprises:
Mortgage-backed securities 121,198 793 599 121,392
Other debt 211,856 344 2,352 209,848
Obligations of states & political subdivisions 31,948 815 44 32,719
Equity securities 4,258 - - 4,258
--------- -------- --------- ---------
375,241 1,953 2,995 374,199
--------- -------- --------- ---------
Total securities $ 389,771 $ 2,699 $ 2,995 $ 389,475
========= ======== ========= =========
At March 31, 2005, the contractual maturities of securities HTM and
securities AFS are as follows: (in thousands) (unaudited)
Securities Securities
Held-to-Maturity Available-for-Sale
---------------------- --------------------
Estimated Estimated
Amortized Fair Amortized Fair
Cost Value Cost Value
----------- ---------- ---------- ----------
Within 1 year $ 1,936 $ 1,984 $ 131,752 $ 131,062
After 1 but within 5 years 6,100 6,290 204,512 200,771
After 5 but within 10 years 5,017 5,335 7,132 7,110
After 10 years 457 478 13,337 13,462
Equity securities - - 5,524 5,524
----------- ---------- ---------- ----------
Total $ 13,510 $ 14,087 $ 362,257 $ 357,929
=========== ========== ========== ==========
Proceeds from the sale of securities AFS amounted to $3.1 million and $44.8
million for the three months ended March 31, 2005 and 2004, which resulted in
gross realized gains of $67 million and $520
-10-
thousand for those periods, respectively. Gross realized losses from the sale of
securities AFS amounted to $6 thousand for the three months ended March 31,
2004. For the quarter ended March 31, 2005, there were no gross realized losses
from the sale of securities. These amounts are included in net gain on sale of
securities in the Condensed Consolidated Statements of Income.
On a quarterly basis, the Company makes an assessment to determine whether
there have been any events or economic circumstances to indicate that a security
on which there is an unrealized loss is impaired on an other-than-temporary
basis. The Company considers many factors including the severity and duration of
the impairment; the intent and ability of the Company to hold the security for a
period of time sufficient for a recovery in value; recent events specific to the
issuer or industry; and for debt securities, external credit ratings and recent
downgrades. Securities on which there is an unrealized loss that is deemed to be
other-than-temporary are written down to fair value with the write-down recorded
as a realized loss in securities gains (losses). Based upon the Company's
evaluation of the securities portfolios no other than temporary impairment
charge was necessary at March 31, 2005 and 2004.
The following table summarizes all securities that have an unrealized loss
and the duration of the unrealized loss at March 31, 2005: (in thousands)
(unaudited)
---------------------- ---------------------- -------------------------
12 months or less 12 months or longer Totals
---------------------- ----------------------- ------------------------
Fair Unrealized Fair Unrealized Fair Unrealized
Value Losses Value Losses Value Losses
---------- ---------- ---------- ------------ ------------ -----------
Securities available-for-sale
Government-Sponsored Enterprises:
Mortgage-backed securities $79,158 $1,215 $2,776 $53 $81,934 $1,268
Other debt 162,946 3,243 31,914 695 194,860 3,938
Obligations of states & political subdivisions 4,194 177 3,315 96 7,509 273
---------- ---------- ---------- ----------- ------------ ----------
$246,298 $4,635 $38,005 $844 $284,303 $5,479
=========== ========== ========== =========== ============ ==========
</Table>
The following table summarizes all securities that have an unrealized loss and
the duration of the unrealized loss at March 31, 2005: (in thousands)
(unaudited)
------------------------- ------------------------- --------------------------
12 months or less 12 months or longer Totals
------------------------- ------------------------- --------------------------
Fair Unrealized Fair Unrealized Fair Unrealized
Value Losses Value Losses Value Losses
------------- ----------- ------------- ----------- -------------- -----------
Securities available-for-sale
Government-Sponsored Enterprises:
Mortgage-backed securities $ 4,467 $ 15 $ 2,808 $ 8 $ 7,275 $ 23
Other debt 39,091 67 - - 39,091 67
Obligations of states and political subdivisions 3,372 30 - - 3,372 30
------------- ----------- ------------- ----------- --------------- ----------
$46,930 $112 $2,808 $8 $49,738 $120
============= =========== ============= =========== =============== ==========
Securities held-to-maturity
Government-Sponsored Enterprises:
Mortgage-backed securities $229 $1 - - $229 $1
------------- ----------- ------------- ----------- --------------- ----------
$229 $1 $0 $0 $229 $1
============= =========== ============= =========== =============== ==========
-11-
Securities with carrying amounts of $82.5 million and $62.2 million at
March 31, 2005 and December 31, 2004, respectively, were pledged for public
deposits, Federal Home Loan Bank advances, securities sold under repurchase
agreements and other purposes required by law.
8. Loans
The composition of the loan portfolio is summarized as follows: (in
thousands)
------------- --------------
March 31, December 31,
2005 2004
------------- --------------
(unaudited)
Amount of loans by type
Real estate-mortgage
1-4 family residential
First liens $ 140,842 $ 141,835
Junior liens 2,290 2,544
Home equity 152,015 148,027
Commercial 394,798 375,985
Construction 61,822 51,162
------------- -------------
751,767 719,553
------------- -------------
Commercial loans
Commercial and financial 197,521 186,386
Lease financing 23,871 23,535
------------- -------------
221,392 209,921
------------- -------------
Consumer loans
Lease financing 278 680
Installment 3,652 4,027
------------- -------------
3,930 4,707
------------- -------------
Total $ 977,089 $ 934,181
============= =============
Nonperforming Loans
Nonperforming loans include loans that are accounted for on a nonaccrual
basis. Nonperforming loans are as follows: (in thousands)
----------------- ----------------
March 31, December 31,
2005 2004
----------------- ----------------
(unaudited)
Nonaccrual loans
Residential real estate $ 1,097 $ 1,660
Commercial real estate 1,651 2,320
Commercial and financial 3,063 2,981
Commercial lease financing 1,836 1,836
Consumer 127 336
----------------- ----------------
$ 7,774 $ 9,133
================= ================
-12-
9. Allowance for Loan and Lease Losses
The Company's recorded investment in impaired loans is as follows: (in
thousands)
------------------------------- ----------------------------
March 31, December 31,
2005 2004
------------------------------- ----------------------------
(unaudited)
Investment Related Investment Related
in Allowance in Allowance
Impaired for Loan Impaired for Loan
Loans Losses Loans Losses
-------------- -------------- ------------- ------------
Impaired loans
With a related allowance for loan losses
Commercial and financial $ 2,946 $ 420 $ 2,981 $ 420
Commercial real estate 1,655 26 2,320 98
Residential mortgages 978 112 822 123
Without a related allowance for loan losses - - - -
------------- -------------- ------------- -------------
$ 5,579 $ 558 $6,123 $ 641
============= ============== ============= =============
- ---------------------------------------------------------------------------------------
The impairment of the above loans was estimated based on the fair value of collateral.
Changes in the allowance for loan and lease losses are summarized as
follows: (in thousands) (unaudited)
----------------------------
Three months ended March 31,
----------------------------
2005 2004
------------ ------------
Balance at beginning of period $9,797 $9,641
Additions (deductions)
Provision charged to operations 175 375
Recoveries on loans previously charged off 78 36
Loans charged off (174) (417)
----------- -----------
Balance at end of period $9,876 $9,635
=========== ===========
10. Other Non-interest Expense
Expenses included in other non-interest expense are as follows: (in
thousands) (unaudited)
-----------------------------
Three Months Ended
March 31,
-----------------------------
2005 2004
------------- -------------
Professional fees $ 361 $ 317
Data processing 265 281
Directors' fees, retirement
and travel 217 216
Legal fees 185 210
All other 872 827
------------- -------------
$ 1,900 $ 1,851
============= =============
-13-
11. Long-term Borrowings
Long-term borrowings consist of the following FHLB advances: (in thousands)
Maturity March 31, December 31,
Date Rate 2005 2004
- ---------------- ------------ ---------------- ---------------
January 2006 2.09 % - $10,000
January 2007 (a) 4.22 $10,000 10,000
January 2007 2.69 10,000 10,000
January 2010 (b) 3.66 15,000 -
----------- ---------------- ----------------
3.52 % $35,000 $30,000
=========== ================ ================
(a) The FHLB has an option to call this advance on a quarterly basis if
the 3-month LIBOR resets above 7.50%.
(b) The FHLB has an option to call this advance only on January 23, 2008.
12. Benefit Plans
In 1993, the Bank established a non-contributory defined benefit pension
plan covering all eligible employees (the "Pension Plan"). In 1994, the Bank
established a supplemental plan covering all eligible employees (the
"Supplemental Plan") that provides for income that would have been paid out but
for the limitation under the qualified Pension Plan. Also in 1994, the Company
established a retirement plan for all directors of the Bank who are not
employees of Interchange or of any subsidiary or affiliate of Interchange (the
"Directors' Plan").
The following table shows the aggregated components of net periodic benefit
costs for the periods noted: (in thousands) (unaudited)
----------------------------
Three Months Ended
March 31,
------------ -------------
2005 2004
------------ -------------
Service cost $ 198 $ 166
Interest cost 102 95
Expected return on plan assets (55) (39)
Amortization of prior service cost 1 1
------------ -------------
Net periodic benefit cost $ 246 $ 223
============ =============
During 2005, the Bank anticipates contributing approximately $43 thousand
to the Pension Plan of which $9 thousand has already been contributed.
-14-
Item 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
General
The following discussion is an analysis of the condensed consolidated
financial condition and results of operations of the Company for the three month
periods ended March 31, 2005 and 2004, and should be read in conjunction with
the condensed consolidated financial statements and notes thereto included in
Item 1 hereof. In addition, you should read this section in conjunction with
Management's Discussion and Analysis and Results of Operations included in the
Company's 2004 Annual Report on Form 10-K.
Forward Looking Information
In addition to discussing historical information, certain statements
included in or incorporated into this report relating to the financial
condition, results of operations and business of the Company, which are not
historical facts may be deemed "forward-looking statements" within the meaning
of the Private Securities Litigation Reform Act of 1995. When used herein, the
words "anticipate," "believe," "estimate," "expect," "will" and other similar
expressions (including when preceded or followed by the word "not") are
generally intended to identify such forward-looking statements. Such statements
are intended to be covered by the safe harbor provisions for forward-looking
statements contained in such Act, and we are including this statement for
purposes of invoking these safe harbor provisions. Such forward-looking
statements include, but are not limited to, statements about the operations of
the Company, the adequacy of the Company's allowance for losses associated with
the loan and lease portfolio, the quality of the loan and lease portfolio, the
prospects of continued loan and deposit growth, and improved credit quality. The
forward-looking statements in this report involve certain estimates or
assumptions, known and unknown risks and uncertainties, many of which are beyond
the control of the Company, and reflect what we currently anticipate will happen
in each case. What actually happens could differ materially from what we
currently anticipate will happen due to a variety of factors, including, among
others, (i) increased competitive pressures among financial services companies;
(ii) changes in the interest rate environment, reducing interest margins or
increasing interest rate risk; (iii) deterioration in general economic
conditions, internationally, nationally, or in the State of New Jersey; (iv)
disruptions caused by terrorism, such as the events of September 11, 2001, or
military actions in the Middle East or other areas; (v) legislation or
regulatory requirements or changes adversely affecting the business of the
Company; and (vi) other risks detailed in reports filed by the Company with the
Securities and Exchange Commission. Readers should not place undue expectations
on any forward-looking statements. We are not promising to make any public
announcement when we consider forward-looking statements in this document to be
no longer accurate, whether as a result of new information, what actually
happens in the future or for any other reason.
-15-
Company
The Company is a bank holding company headquartered in Bergen County, New
Jersey. The Company's principal operating subsidiary is Interchange Bank, a New
Jersey-chartered commercial bank. In addition to the Bank, the Company has one
other wholly owned direct subsidiary: Clover Leaf Mortgage Company, a New Jersey
corporation, which is not currently engaged in any business activity. The Bank
has five direct subsidiaries: Clover Leaf Investment Corporation, an investment
company operating pursuant to New Jersey law; Clover Leaf Insurance Agency,
Inc., a New Jersey corporation engaged in the sale of tax-deferred annuities and
insurance; Clover Leaf Management Realty Corporation, a Real Estate Investment
Trust ("REIT"), which manages certain real estate assets of the Company; Bridge
View Investment Company, an investment company operating pursuant to New Jersey
law; and Interchange Capital Company, L.L.C. ("ICC"), a New Jersey limited
liability company which engages in equipment lease financing. All of the Bank's
subsidiaries are 100% owned by the Bank, except for the REIT, which is 99% owned
by the Bank. Bridge View Investment Company has one wholly owned subsidiary,
Bridge View Delaware, Inc. ("BVDI"). BVDI is an investment company operating
pursuant to Delaware law.
Critical Accounting Policies and Judgments
The Company's consolidated financial statements are prepared based on the
application of certain accounting policies, the most significant of which are
described in Note 1 "Accounting Policies in the Notes to Consolidated Financial
Statements" and in Management's Discussion and Analysis of Financial Condition
and Results of Operations ("MDA"): "Critical Accounting Policies and Judgments"
in our 2004 Annual Report on Form 10-K. Certain of these policies require
numerous estimates and strategic or economic assumptions that may prove
inaccurate or subject to variations and may significantly affect the Company's
reported results and financial position for the period or in future periods. The
use of estimates, assumptions, and judgments are necessary when financial assets
and liabilities are required to be recorded at, or adjusted to reflect, fair
value. Assets and liabilities carried at fair value inherently result in more
financial statement volatility. Fair values and the information used to record
valuation adjustments for certain assets and liabilities are based on either
quoted market prices or are provided by other independent third-party sources,
when available. When such information is not available, management estimates
valuation adjustments primarily by using internal cash flow and other financial
modeling techniques. Changes in underlying factors, assumptions, or estimates in
any of these areas could have a material impact on the Company's future
financial condition and results of operations.
Allowance for Loan and Lease Losses: The allowance for loan and lease losses
("ALLL") is established through periodic charges to income. Loan losses are
charged against the ALLL when management believes that the future collection of
principal is unlikely. Subsequent recoveries, if any, are credited to the ALLL.
If the ALLL is considered inadequate to absorb future loan losses on existing
loans, based on, but
-16-
not limited to, increases in the size of the loan portfolio, increases in
charge-offs or changes in the risk characteristics of the loan portfolio, then
the provision for loan and lease losses is increased.
The Company considers the ALLL of $9.9 million adequate to cover estimated
losses inherent in the loan portfolio, loan commitments and standby and other
letters of credit that may become uncollectible based on management's
evaluations of the size and current risk characteristics of the loan and lease
portfolio as of the balance sheet date. The evaluations consider such factors as
changes in the composition and volume of the loan portfolio, the impact of
changing economic conditions on the credit worthiness of the borrowers, review
of specific problem loans and management's assessment of the inherent risk and
overall quality of the loan portfolio. For further discussion see the "Loan
Quality" and "Allowance for Loan and Lease Losses" sections of the MDA, along
with Note 1 "Nature of Business and Summary of Significant Accounting Policies";
Note 6 "Allowance for Loan and Lease Losses"; and Note 12 "Commitments and
Contingent Liabilities" of the Consolidated Financial Statements in our 2004
Annual Report on Form 10-K.
Business Combinations: Business combinations are accounted for using the
purchase method of accounting, which requires that the assets and liabilities of
the companies acquired are recorded at their estimated fair value at the date of
acquisition and included in the results of operations of the Company from the
date of acquisition. The excess of the purchase price over the estimated fair
value of the net assets acquired is recognized as goodwill.
Goodwill and Other Intangible Assets: Goodwill is not amortized to expense, but
rather is tested for impairment periodically. Other intangible assets are
amortized to expense using straight-line methods over their respective estimated
useful lives. At least annually, and on an interim basis when conditions
require, management reviews goodwill and other intangible assets and evaluates
events or changes in circumstances that may indicate impairment in the carrying
amount of such assets. If the sum of the expected undiscounted future cash
flows, excluding interest charges, is less than the carrying amount of the
asset, an impairment loss is recognized. An impairment is measured on a
discounted future cash flow basis and a charge is recognized in the period that
the asset has been deemed to be impaired.
Securities held-to-maturity and securities available-for-sale: Debt securities
purchased with the intent and ability to hold until maturity are classified as
securities held-to-maturity ("HTM") and are carried at cost, adjusted for the
amortization of premiums and accretion of discounts. All other securities,
including equity securities, are classified as securities available-for-sale
("AFS"). Securities classified as AFS may be sold prior to maturity in response
to, but not limited to, changes in interest rates, changes in prepayment risk or
for asset/liability management strategies. These securities are carried at fair
value and any unrealized gains and losses are reported, net of taxes, in
accumulated other comprehensive income (loss) included in the consolidated
statement of stockholders' equity. The estimated fair value for securities are
based on quoted market prices, where available. If quoted market prices are not
available, estimated fair values are
-17-
based on quoted market prices of comparable instruments. Gains and losses from
the sale of these securities are determined using the specific identification
method and are reported in non-interest income. The Company does not acquire
securities for the purpose of engaging in trading activities.
On a quarterly basis, the Company makes an assessment to determine whether
there have been any events or economic circumstances to indicate that a security
on which there is an unrealized loss is impaired on an other-than-temporary
basis. The Company considers many factors including the severity and duration of
the impairment; the intent and ability of the Company to hold the security for a
period of time sufficient for a recovery in value; recent events specific to the
issuer or industry; and for debt securities, external credit ratings and recent
downgrades. Securities on which there is an unrealized loss that is deemed to be
other-than-temporary are written down to fair value with the write-down recorded
as a realized loss in securities gains (losses).
Pension Plan: The Bank maintains a qualified defined benefit pension plan (the
"Pension Plan"), which covers all eligible employees and an unfunded
supplemental pension plan which provides retirement income to all eligible
employees who would have been paid amounts in excess of the amounts provided by
the Pension Plan but for limitations under the qualified Pension Plan. In
addition, the Company has an unfunded retirement plan for all directors of the
Bank who are not employees of the Company or any subsidiary or affiliate.
-18-
THREE MONTHS ENDED MARCH 31, 2005 AND 2004
RESULTS OF OPERATIONS
Summary
For the first quarter of 2005, the Company reported earnings per diluted
common share of $0.23, as compared to $0.21 for the same period in 2004, an
increase of approximately 9.5%. Net income for the three months ended March 31,
2005 was approximately $4.4 million, an increase of $434 thousand, or 10.9%,
over the same period last year. The increase in earnings resulted from an
increase in our interest earning assets during the quarter of approximately
$92.4 million.
The Company's return on average assets increased to 1.20% as compared to
1.16% for the three months ended March 31, 2005 and 2004, respectively. In
addition, the Company's return on average stockholders' equity increased to
11.70% for the first quarter 2005 versus 11.13% for the first quarter in 2004.
Net Interest Income
Net interest income is the most significant source of the Company's
operating income. A portion of the Company's total interest income is derived
from investments that are exempt from federal taxation. The amount of pretax
income realized from those investments, due to the tax exemption, is less than
the amount of pretax income realizable from comparable investments subject to
federal taxation. For purposes of the following discussion, interest income
exempt from federal taxation has been restated to a fully tax-equivalent basis
using a corporate federal tax rate of 34% for the quarter ended March 31, 2005
and 2004. This was accomplished by adjusting this income upward to make it
equivalent to the level of taxable income required to earn the same amount after
taxes.
Net interest income on a tax-equivalent basis increased $1.0 million, or
8.1%, to $13.7 million for the quarter ended March 31, 2005 as compared to the
same quarter in 2004. The tax equivalent basis adjustments for the quarters
ended March 31, 2005 and 2004 were $162 thousand and $160 thousand,
respectively. The increase in net interest income was due mostly to a 7.5%
growth in interest earning assets. This interest earning asset growth was funded
primarily by deposit liabilities, which grew $78.1 million or 6.7% on average
for the first quarter of 2005 as compared to the same quarter in 2004. The
margin for the first quarter of 2005 was 4.14%, an increase of 3 basis points as
compared to the same quarter in 2004.
Interest income, on a tax-equivalent basis, totaled $18.2 million for the
first quarter of 2005, an increase of $2.3 million, or 14.8%, as compared to the
same quarter in 2004. The increase was mostly attributed to the growth in
interest earning assets and the shift in asset mix as average loans grew $140.0
million, while investments declined by $45.2 million.
Interest expense totaled $4.4 million for the first quarter of 2005, an
increase of $1.3 million, as compared to the same period in 2004. The increase
in interest expense was a byproduct of the increase
-19-
in market interest rates, particularly short-term rates, during the second half
of 2004 and the first quarter of 2005. The increase in short-term interest rates
increased the average rate paid on deposit liabilities by 29 basis points to
1.27% for the quarter ended March 31, 2005 as compared to the same period in
2004. Interest bearing deposits grew on average $63.6 million, or 6.8%, for the
first quarter of 2005 as compared to the same period in 2004.
- --------------------------------------------------------------------------------
Analysis of Net Interest Income
- --------------------------------------------------------------------------------
for the quarter ended March 31,
(dollars in thousands) 2005 2004
------------------------------------- ---------------------------------
(unaudited) Average Average Average Average
Balance Interest Rate Balance Interest Rate
-------------- ----------- -------- ------------ --------- --------
Assets
Interest earning assets:
Loans (1) $946,417 $14,985 6.33 % $806,387 $12,748 6.32 %
Taxable securities (4) 346,224 2,725 3.15 397,591 2,689 2.71
Tax-exempt securities (2) (4) 35,076 457 5.21 28,898 388 5.37
Interest earning deposits 2 - - 12 - -
Federal funds sold 62 - - 2,507 6 0.96
------------- ---------- ------- ----------- -------- -------
Total interest-earning assets 1,327,781 18,167 5.47 1,235,395 15,831 5.13
---------- --------
Non-interest earning assets:
Cash and due from banks 34,875 35,547
Allowance for loan and lease losses (9,874) (9,636)
Other assets 115,435 118,933
------------- -----------
Total assets $1,468,217 $1,380,239
============= ===========
Liabilities and stockholders' equity
Interest-bearing liabilities
Interest bearing deposits $997,141 3,922 1.57 $933,522 2,827 1.21
Borrowings 72,042 519 2.88 65,364 310 1.90
------------- ---------- ------- ----------- -------- -------
Total interest-bearing liabilities 1,069,183 4,441 1.66 998,886 3,137 1.26
---------- --------
Non-interest bearing liabilities
Demand deposits 238,549 224,100
Other liabilities 9,433 14,013
------------- -----------
Total liabilities (3) 1,317,165 1,236,999
Stockholders' equity 151,052 143,240
------------- -----------
Total liabilities and stockholders' equity $1,468,217 $1,380,239
============= ===========
Net interest income (tax-equivalent basis) 13,726 3.81 12,694 3.87
Tax-equivalent basis adjustment (162) (160)
---------- --------
Net interest income $13,564 $12,534
========== ========
Net interest income as a percent of interest-
earning assets (tax-equivalent basis) 4.14 % 4.11 %
- --------------------------------------------------------------------------------
(1) Nonaccrual loans and any related interest recorded have been included in
computing the average rate earned on the loan portfolio. When applicable,
tax exempt loans are computed on a fully taxable equivalent basis using the
corporate federal tax rate of 34%.
(2) Computed on a fully taxable equivalent basis using the corporate federal
tax rate of 34%.
(3) All deposits are in domestic bank offices.
(4) The average balances are based on amortized cost and do not reflect
unrealized gains or losses.
-20-
Provision for Loan and Lease Losses
The provision for loan and lease losses represents management's calculation
of the amount necessary to bring the ALLL to a level that management considers
adequate to reflect the risk of estimated losses inherent in the Company's loan
and lease portfolio as of the balance sheet date. A more detailed discussion of
the evaluation of the ALLL can be found in the section titled "Critical
Accounting Policies and Judgments: Allowance for Loan and Lease Losses" above.
In the first quarter of 2005 and 2004, the Company's provision for loan and
lease losses was $175 thousand and $375 thousand, respectively. The decline in
the provision for loan and lease losses was primarily a result of an improvement
in our non-performing assets.
Non-interest Income
For the quarter ended March 31, 2005, non-interest income totaled $2.2
million, a decrease of $321 thousand, or 12.8%, as compared to the same period
in 2004. The change was largely due to a decline in net gains on sales of
securities of $447 thousand. This was partly offset by growth in gains on sales
of loans and leases of $80 thousand and service charges on deposits of $41
thousand. The increase in gains on sales of loans arose out of an increase in
sales of Small Business Administration originated loans.
Non-interest Expense
For the quarter ended March 31, 2005, non-interest expense was $9.2
million, an increase of $237 thousand, or 2.7%. Contributing to the increase was
an increase in salaries and benefits of $107 thousand, as compared to the same
period in 2004.
Income Taxes
Income tax expense as a percentage of pre-tax income was 31.2% for the
three months ended March 31, 2005 as compared to 30.8% for the same period of
2004.
-21-
FINANCIAL CONDITION
Cash and Cash Equivalents
At March 31, 2005, cash and cash equivalents was $31.8 million as compared
to $33.1 million at December 31, 2004.
Securities Portfolio
Under Statement of Financial Accounting Standards No. 115 "Accounting for
Certain Investments in Debt and Equity Securities" ("SFAS 115"), each security
is classified as either trading, AFS, or HTM. The Company has no securities held
in a trading account. The securities AFS are recorded at their estimated fair
value. The after-tax difference between amortized cost and estimated fair value
of securities AFS is recorded as "accumulated other comprehensive income" in the
equity section of the balance sheet. The tax impact of such adjustment is
recorded as an adjustment to the amount of the deferred tax liability. The
securities HTM are carried at cost adjusted for the amortization of premiums and
accretion of discounts, which are recognized as an adjustment to income. Under
SFAS No. 115, securities HTM, with some exceptions, may only be sold within
three months of maturity.
The Company's U.S. Government-Sponsored Enterprises securities at March 31,
2005 and 2004 are not guaranteed by the U.S. Government; however they are credit
rated AAA or Aaa by nationally recognized statistical rating organizations.
Substantially all obligations of states and political subdivisions are credit
rated AAA or Aaa due to insurance, which guarantees the obligations against
default, by private insurance companies. At March 31, 2005 and 2004,
approximately $12.2 million and $9.9 million, respectively, of issuances are
bond or tax anticipation notes from local municipalities, which are not rated.
The Company uses its securities portfolio to ensure liquidity for cash flow
requirements, to manage interest rate risk, provide a source of income, ensure
collateral is available for pledging requirements and manage asset quality
diversification. At March 31, 2005, investment securities totaled $371.4 million
and represented 24.9% of total assets, as compared to $388.7 million and 26.5%,
respectively, at December 31, 2004. Securities AFS comprised 96.4% of the total
securities portfolio at March 31, 2005 as compared to 96.3% at December 31,
2004. At March 31, 2005, the Company had a net unrealized loss of $3.8 million
as compared to a net unrealized loss of $296 thousand at December 31, 2004. The
decrease was attributed to an increase in market interest rates during that
period.
Proceeds from the sale of securities AFS amounted to $3.1 million and $44.8
million for the three months ended March 31, 2005 and 2004, which resulted in
gross realized gains of $67 million and $520 thousand for those periods,
respectively. Gross realized losses from the sale of securities AFS amounted to
$6 thousand for the three months ended March 31, 2004. For the quarter ended
March 31, 2005, there were no gross realized losses from the sale of securities.
These amounts are included in net gain on sale of securities in the Consolidated
Statements of Income.
-22-
Loans
Total loans amounted to $977.1 million at March 31, 2005, an increase of
$42.9 million from $934.2 million at December 31, 2004. The growth was
attributable to increases in commercial mortgage loans, commercial and financial
loans, and construction loans of $18.8 million, $11.1 million, and $10.7
million, respectively.
------------- --------------
(in thousands) March 31, December 31,
2005 2004
------------- --------------
(unaudited)
Amount of loans by type
Real estate-mortgage
1-4 family residential
First liens $ 140,842 $ 141,835
Junior liens 2,290 2,544
Home equity 152,015 148,027
Commercial 394,798 375,985
Construction 61,822 51,162
------------- -------------
751,767 719,553
------------- -------------
Commercial loans
Commercial and financial 197,521 186,386
Lease financing 23,871 23,535
------------- -------------
221,392 209,921
------------- -------------
Consumer loans
Lease financing 278 680
Installment 3,652 4,027
------------- -------------
3,930 4,707
------------- -------------
Total $ 977,089 $ 934,181
============= =============
Nonperforming Assets
Nonperforming assets are comprised of nonaccrual loans, restructured loans,
foreclosed real estate and other repossessed assets. The Company's nonperforming
assets at March 31, 2005 amounted to $7.9 million as compared to $9.3 million at
December 31, 2004. The ratio of nonperforming assets to total loans and
foreclosed real estate and other repossessed assets decreased to 0.81% at March
31, 2005 from 0.99% at December 31, 2004.
The following table lists nonaccrual loans and foreclosed real estate and
other repossessed assets at March 31, 2005, and December 31, 2004: (in
thousands)
March 31, December 31,
2005 2004
----------- ------------
(unaudited)
Nonperforming loans $ 7,774 $ 9,133
Foreclosed real estate and other repossessed assets 150 156
----------- ------------
Total nonperforming assets $ 7,924 $ 9,289
=========== ============
-23-
Allowance for Loan and Lease Losses
The ALLL is generally established through periodic charges to income
through the provision for loan and lease losses. During the three months ended
March 31, 2005, the ALLL increased $79 thousand to $9.9 million. Loan losses are
charged against the ALLL when management believes that the probable future
collection of principal is unlikely. Subsequent recoveries, if any, are credited
to the ALLL. If the ALLL is considered inadequate to absorb future loan losses
on existing loans, based on, but not limited to, increases in the size of the
loan portfolio, increases in charge-offs or changes in the risk characteristics
of the loan portfolio, then the provision for loan and lease losses is
increased.
The Company considers the ALLL of $9.9 million adequate to cover estimated
losses inherent in the loan portfolio that may become uncollectible based on
management's periodic evaluations of the loan portfolio and other relevant
factors. The evaluations are inherently subjective as they require material
estimates including such factors as potential loss factors, changes in trend of
non-performing loans, current state of local and national economy, value of
collateral changes in the composition and volume of the loan portfolio, review
of specific problem loans and management's assessment of the inherent risk and
overall quality of the loan portfolio. All of these factors may be susceptible
to significant change. Also, the allocation of the allowance for credit losses
to specific loan pools is based on historical loss trends and management's
judgment concerning those trends.
-24-
The following table presents the provisions for loan and lease losses,
loans charged off and recoveries on loans previously charged off, the amount of
the allowance, the average loans outstanding and certain pertinent ratios for
the three months ended March 31, 2005 and 2004: (dollars in thousands)
(unaudited)
-------------------------
Three months
ended March 31,
-------------------------
2005 2004
----------- ----------
Average loans outstanding $946,417 $806,387
=========== ==========
Allowance at beginning of period 9,797 9,641
----------- ----------
Loans charged off
Real estate - 67
Commercial and financial 89 55
Commercial lease financing 81 277
Consumer loans 4 18
----------- ----------
Total 174 417
----------- ----------
Recoveries of loans previously charged off
Real estate 72 -
Commercial and financial - -
Commercial lease financing - 36
Consumer loans 6 -
----------- ----------
Total 78 36
----------- ----------
Additions due to merger - -
Provision for loan and lease losses 175 375
----------- ----------
Allowance at end of period $9,876 $9,635
=========== ==========
Allowance to total loans (end of period) 1.01 % 1.16 %
Ratio of net charge-offs to average loans(annualized) 0.04 % 0.19 %
Deposits
Deposits, which include non-interest-bearing demand deposits, time deposits
and other interest-bearing deposits, are an essential and cost-effective funding
source for the Company. Other interest-bearing deposits, which include
interest-bearing demand, money market and savings accounts, comprise the largest
segment of the Company's total deposits. At March 31, 2005, such deposits
amounted to $649.6 million representing 52.8% of total deposits compared to
54.1% of total deposits at December 31, 2004. The Company emphasizes building
core customer relationships by offering a variety of products designed to meet
the financial needs of its customers based on their identifiable "life stages".
At March 31, 2005 and December 31, 2004 total deposits were approximately
$1.2 billion. We saw a slight shift in our overall deposit mix as time deposits
grew $8.0 million, while interest bearing demand and money market declined
approximately $11.5 million and $12 million, respectively. Time
-25-
deposits amounted to $345.4 million, or 28.0%, of total deposits at March 31,
2005, as compared to $337.3 million, or 27.1%, at December 31, 2004.
For the three months ended March 31, 2005, the Company's overall yield on
deposits increased by 29 basis points from 0.98% to 1.27%, as compared to the
same period last year. The increase was attributed predominately to changes in
market interest rates and a change in the composition of deposit liabilities.
The following table reflects the composition of deposit liabilities:
(dollars in thousands)
--------------- ------------------
March 31, December 31,
2005 2004
--------------- ------------------
(Unaudited)
Non-interest Demand $236,439 $235,036
Interest Bearing Demand 461,325 472,807
Savings 112,622 113,352
Money Market Savings 75,632 87,595
Time Deposits <$100,000 292,227 286,471
Time Deposits >$100,000 53,151 50,877
--------------- ------------------
Total $1,231,396 $1,246,138
=============== ==================
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Item 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk is generally described as the sensitivity of income to adverse
changes in interest rates, foreign currency exchange rates, commodity prices,
and other relevant market rates or prices. Market rate sensitive instruments
include: financial instruments such as investments, loans, mortgage-backed
securities, deposits, borrowings and other debt obligations; derivative
financial instruments, such as futures, forwards, swaps and options; and
derivative commodity instruments, such as commodity futures, forwards, swaps and
options that are permitted to be settled in cash or another financial
instrument.
The Company does not have any material exposure to foreign currency
exchange rate risk or commodity price risk. The Company did not enter into any
market rate sensitive instruments for trading purposes nor did it engage in any
trading or hedging transactions utilizing derivative financial instruments
during the first three months of 2004. The Company's real estate loan portfolio,
concentrated primarily in northern New Jersey, is subject to risks associated
with the local and regional economies. The Company's primary source of market
risk exposure arises from changes in market interest rates ("interest rate
risk").
Interest Rate Risk
Interest rate risk is generally described as the exposure to potentially
adverse changes in current and future net interest income resulting from:
fluctuations in interest rates; product spreads; and imbalances in the repricing
opportunities of interest-rate-sensitive assets and liabilities. Therefore,
managing the Company's interest rate sensitivity is a primary objective of the
Company's senior management. The Company's Asset/Liability Committee ("ALCO")
manages our exposure to changes in market interest rates. ALCO attempts to
maintain stable net interest margins by periodically evaluating the relationship
between interest-rate-sensitive assets and liabilities. The evaluation, which is
performed at least quarterly and presented to the board of directors, attempts
to determine the impact on net interest margin from current and prospective
changes in market interest rates.
The Company manages interest rate risk exposure with the utilization of
financial modeling and simulation techniques. These methods assist the Company
in determining the effects of market rate changes on net interest income and
future economic value of equity. The objective of the Company is to maximize net
interest income within acceptable levels of risk established by policy. The
techniques utilized for managing exposure to market rate changes involve a
variety of interest rate, pricing and volume assumptions. These assumptions
include projections on growth, prepayment and withdrawal levels as well as other
embedded options inherently found in financial instruments. The Company reviews
and validates these assumptions at least annually or more frequently if economic
or other conditions change. At March 31, 2005, the Company simulated the effects
on net interest income given an instantaneous and parallel shift in the yield
curve of up to a 200 basis point rising interest rate environment and a 100
basis point declining interest rate environment. Based on that simulation, it
was estimated that net interest income, over a twelve-month horizon, would not
decrease by more than 4.7%. At March 31, 2005, the Company
-27-
was within policy limits established by the board of directors for changes in
net interest income and future economic value of equity. The following table
illustrates the effects on net interest income given an instantaneous and
parallel shift in the yield curve of up to a 200 basis point rising interest
rate environment and a 100 basis point declining interest rate environment:
(unaudited)
---------------------------------
Percentage Change in Estimated
Net Interest Income over a twelve
month horizon
---------------------------------
March 31,
2005 2004
---- ----
+200 basis points -4.7 % -5.6 %
+100 basis points -1.9 -1.7
- -100 basis points -2.1 -4.8
- -200 basis points * *
* Not simulated due to the historically low interest rate environment.
The simulation described above does not represent a Company forecast and
should not be relied upon as being indicative of expected operating results.
These hypothetical estimates are based upon numerous assumptions including: the
nature and timing of interest rate levels including yield curve shape;
prepayments on loans and securities; deposit decay rates; pricing decisions on
loans and deposits; reinvestment/replacement of asset and liability cashflows;
and others. While assumptions are developed based upon current economic and
local market conditions, the Company cannot make any assurances as to the
predictive nature of these assumptions including how customer preferences or
competitor influences might change.
Further, as market conditions vary from those assumed in the simulation,
actual results will also differ due to: prepayment/refinancing levels deviating
from those assumed; the varying impact of interest rate changes on caps or
floors on adjustable rate assets; the potential effect of changing debt service
levels on customers with adjustable rate loans; depositor early withdrawals and
product preference changes; and other internal/external variables. Furthermore,
the simulation does not reflect actions that ALCO might take in response to
anticipated changes in interest rates or competitive conditions in the market
place.
Capital Adequacy
The Company is subject to capital adequacy requirements imposed by the
Board of Governors of the Federal Reserve System (the "Federal Reserve"); and
the Bank is subject to similar capital adequacy requirements imposed by the
Federal Deposit Insurance Corporation (the "FDIC"). The Federal Reserve and the
FDIC have adopted risk-based capital requirements for assessing bank holding
company and bank capital adequacy. These standards define capital and establish
minimum capital requirements in relation to assets and off-balance sheet
exposure, adjusted for credit risk. The risk-based capital standards currently
in effect are designed to make regulatory capital requirements more sensitive to
differences in risk profiles
-28-
among bank holding companies and banks, to account for off-balance sheet
exposure and to minimize disincentives for holding liquid assets. Assets and
off-balance sheet items are assigned to broad risk categories, each with
appropriate relative risk weights. The resulting capital ratios represent
capital as a percentage of total risk-weighted assets and off balance sheet
items.
A banking organization's total qualifying capital includes two components:
core capital (Tier 1 capital) and supplementary capital (Tier 2 capital). Core
capital, which must comprise at least half of total capital, includes common
shareholders' equity, qualifying perpetual preferred stock, trust preferred
securities (subject to certain limitations) and minority interests, less
goodwill and any unrealized gains or losses. Supplementary capital includes the
allowance for loan losses (subject to certain limitations), other perpetual
preferred stock, trust preferred securities that exceed Tier 1 limits, certain
other capital instruments and term subordinated debt. Total capital is the sum
of core and supplementary capital.
At March 31, 2005, the minimum risk-based capital requirements to be
considered adequately capitalized were 4% for Tier 1 capital and 8% for total
capital.
Federal banking regulators have also adopted leverage capital guidelines to
supplement the risk-based measures. The leverage ratio is determined by dividing
Tier 1 capital as defined under the risk-based guidelines by average total
assets (non risk-adjusted) for the preceding quarter. At March 31, 2005, the
minimum leverage ratio requirement to be considered adequately capitalized was
3%.
The capital levels of the Company and the Bank at March 31, 2005, and the
two highest capital adequacy levels recognized under the guidelines established
by the federal banking agencies are included in the following table. The
Company's and the Bank's ratios all exceeded the well-capitalized guidelines
shown in the table. The change in the Company's risk weighted capital ratios
during the three month period ending March 31, 2005 was primarily a result of a
shift from securities which had a lower risk rating basis into loans.
-29-
The Company's and the Bank's capital amounts and ratios are as follows: (dollars
in thousands)
To Be "Well
Capitalized" Under
For Capital Prompt Corrective
Actual Adequacy Purposes Action Provisions
-------------------- ------------------- -------------------
Amount Ratio Amount Ratio Amount Ratio
--------- --------- ---------- ------ --------- --------
As of March 31, 2005:
Total Capital (to Risk Weighted Assets):
The Company $105,353 10.20 % $82,600 8.00 % N/A N/A
The Bank 104,397 10.10 % 82,655 8.00 % $98,759 10.00 %
Tier 1 Capital (to Risk Weighted Assets):
The Company 95,457 9.25 % 41,300 4.00 % N/A N/A
The Bank 94,501 9.15 % 41,328 4.00 % 59,256 6.00 %
Tier 1 Capital (to Average Assets):
The Company 95,457 6.72 % 42,590 3.00 % N/A N/A
The Bank 94,501 6.65 % 42,600 3.00 % 71,225 5.00 %
As of December 31, 2004:
Total Capital (to Risk Weighted Assets):
The Company $102,175 10.35 % $78,959 8.00 % N/A N/A
The Bank 101,442 10.27 % 79,007 8.00 % $98,759 10.00 %
Tier 1 Capital (to Risk Weighted Assets):
The Company 92,338 9.36 % 39,480 4.00 % N/A N/A
The Bank 91,605 9.28 % 39,504 4.00 % 59,256 6.00 %
Tier 1 Capital (to Average Assets):
The Company 92,338 6.49 % 42,692 3.00 % N/A N/A
The Bank 91,605 6.43 % 42,735 3.00 % 71,225 5.00 %
Liquidity
Liquidity is the ability to provide sufficient resources to meet all
current financial obligations and finance prospective business opportunities.
The Company's liquidity position over any given period of time is a product of
its operating, financing and investing activities. The extent of such activities
is often shaped by such external factors as competition for deposits and demand
for loans.
The Company's most liquid assets are cash and cash equivalents. At March
31, 2005, the total of such assets amounted to $31.8 million, or 2.1%, of total
assets, compared to $33.1 million, or 2.3%, of total assets at December 31,
2004.
Financing for the Company's loans and investments is derived primarily from
deposits, along with interest and principal payments on loans and investments.
At March 31, 2005 and December 31, 2004, total deposits amounted to $1.2
billion. In addition, the Company supplemented the more traditional funding
sources with borrowings from the Federal Home Loan Bank of New York ("FHLB") and
with securities sold under agreements to repurchase ("REPOS"). At March 31,
2005, short-term borrowings from the FHLB and REPOS amounted to $56.9 million
and $3.7 million, respectively, as compared to $24.6 million and $4.4 million,
respectively, at December 31, 2004.
Another significant liquidity source is the Company's securities portfolio.
Total securities at March 31, 2005 amounted to $371.4 million, a decrease of
$17.3 million, from $388.7 million at December 31, 2004. At March 31, 2005
securities AFS amounted to $357.9 million, or 96.4%, of total securities
compared to $374.2 million, or 96.3%, of total securities at December 31, 2004.
In addition to the aforementioned sources of liquidity, the Company has
available various other sources of liquidity, including federal funds purchased
from other banks and the Federal Reserve discount
-30-
window. The Bank also has a $100.0 million line of credit available through its
membership in the FHLB of which $39.5 million was utilized at March 31, 2005.
The Company is party to financial instruments with off-balance sheet risk
in the normal course of business to meet the financing needs of its customers.
These instruments, which include commitments to extend credit and standby
letters of credit, involve, to a varying degree, elements of credit and interest
rate risk in excess of the amount recognized in the unaudited Condensed
Consolidated Balance Sheets. Commitments to extend credit are agreements to lend
to a customer as long as there is no violation of any condition established in
the contract. Commitments generally have fixed expiration dates and may require
collateral from the borrower if deemed necessary by the Company. Standby letters
of credit are conditional commitments issued by the Company to guarantee the
performance of a customer to a third party up to a stipulated amount and with
specified terms and conditions. Commitments to extend credit and standby letters
of credit are not recorded on the Company's Condensed Consolidated Balance Sheet
until the instrument is exercised. At March 31, 2005 outstanding commitments to
fund loans totaled $238.6 million and outstanding standby letters of credit
totaled $3.2 million.
The Company has historically paid quarterly cash dividends and anticipates
continuing paying quarterly dividends in the future. The Company's Board of
Directors could, if they deemed it necessary, modify the amount or frequency, of
dividends as an additional source of liquidity. There are imposed dividend
restrictions on the Bank, which are described in Note 18 "Restrictions of
Subsidiary Bank Dividends" in the Notes to Consolidated Financial Statements in
the Company's 2004 Annual Report on Form 10-K. Management believes that the
Company has sufficient cash flow and borrowing capacity to fund all outstanding
commitments and letters of credit and to maintain proper levels of liquidity.
Item 4: CONTROLS AND PROCEDURES
In accordance with Rule 13a-15(b) of the Securities Exchange Act of 1934
(the "Exchange Act"), as of the end of the quarter ended March 31, 2005, we
carried out an evaluation under the supervision and with the participation of
our management, including our Chief Executive Officer and Chief Financial
Officer, of the effectiveness of the design and operation of our disclosure
controls and procedures as defined in Rule 13a-15(e) under the Exchange Act.
Based on that evaluation, our Chief Executive Officer and Chief Financial
Officer have concluded that our disclosure controls and procedures are
effective to ensure that information required to be disclosed by us in the
reports we file or submit under the Exchange Act is recorded, processed,
summarized and reported within the time periods specified in the rules and forms
of the Securities and Exchange Commission, and accumulated and communicated to
our management, including our chief executive officer and chief financial
officer, as appropriate to allow timely decisions regarding required disclosure.
In designing and evaluating the disclosure controls and procedures, our
management recognized that any controls and procedures, no matter how well
designed and operated, can provide only reasonable assurance of achieving the
desired control objectives and in reaching a reasonable level of assurance our
-31-
management necessarily was required to apply its judgment in evaluating the
cost-benefit relationship of possible controls and procedures.
The Company maintains internal control over financial reporting. During the
quarter ended March 31, 2005, there were no changes in our internal controls
over financial reporting that materially affected, or are reasonably likely to
materially affect, those controls.
-32-
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
Reference is also made to Note 4 of the Company's Consolidated
Financial Statements in this Form 10-Q.
Item 2. Unregistered Sales of Equity in Securities and Use of Proceeds
Set forth below is certain information regarding repurchases of our
common stock during the quarter.
Total Number Average
of Shares Price Paid
Period Purchased(1) per Share
-------------- ------------ ----------
1/1/05-1/31/05 954 17.03
2/1/05-2/28/05 3,578 16.57
------------ ----------
4,532 17.00
============ ==========
(1) The 4,532 shares redeemed were not part of a publicly announced
repurchase plan or program. The shares were owned and tendered by
employees to the Company as payment for option exercises in accordance
with the Outside Director Incentive Compensation Plan and the Stock
Option and Incentive Plan of 1997, as amended.
All share and per share data were restated to reflect 3-for-2 stock
split declared on January 18, 2005 and paid on February 18, 2005.
Item 3. Defaults Upon Senior Securities
None
Item 4. Submission of Matters to a Vote of Security Holders
None
Item 5. Other Information
None
Item 6. Exhibits and Reports on Form 8-K
The following exhibits are furnished herewith:
Exhibit.
--------
11 Statement re computation of per share earnings
31.1 Certification of Chief Executive Officer pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002
31.2 Certification of Chief Financial Officer pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002
32 Certifications Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
-33-
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Interchange Financial Services Corporation
By: /s/ Charles T. Field
-----------------------------------
Charles T. Field
Senior Vice President and CFO
(Duly Authorized Officer and Principal
Financial and Accounting Officer)
Dated: May 10, 2005
-34-